Brazil: Policy Changes Signaling New Era of Oil Production Underway

Harold Hotelling was an economist in the 1930’s who wrote on a number of topics, but is known for his work in resource economics, and the eponymous Hotelling Rule. Writing in the Journal of Political Economy in 1931, Hotelling theorized that a rational producer of resources, say oil, would only be inclined to extract and sell that resource if the investment opportunities available with the capital proceeds were greater than simply leaving that resource to appreciate in the ground. Sounds reasonable, yes? But it’s not clear that the world–at least in the case of oil producers–has operated this way.

What, for example, did Britain exactly do with 30 years of oil revenues from the North Sea? Did Britain reinvest the proceeds in productive assets? What about all the oil that Britain sold before the era of high prices finally arrived? And how about Indonesia, and Nigeria? While these questions are not easily answered, we do know that alot of the world’s oil was indeed sold too cheaply. And that is why Brazil, with its sea change in resources policy announced this month, is signalling that a new era of oil production is underway.

Why should an owner of oil produce and sell that precious resource as quickly, and as efficiently as possible–to a foreign buyer? To merely fulfill a theorist’s model of maximum efficiency? It will surely be amusing to watch many observers try to rinse this policy through the outdated filters of capitalism, socialism, or nationalism. On the contrary, scarcity rent is in its own separate class.

Brazil’s discovery of new reserves was “a passport to the future,” if handled properly, he (Lula) said. “We don’t have the right to take the money we’re going to get with this oil and waste it,” he said in his weekly radio address. “What we want… is to use this oil to make Brazil a wealthier country, to make it more developed.”

I’m sure some will claim this move by Lula is nothing more than an ill-fated attempt at resource nationalism. Or, others will warn that Brazil doesn’t have the capital required to efficiently develop the offshore reserves, and the result will be a slower extraction of the oil. Well frankly, I think that’s partially the point. After all, Brazil is not dysfunctional like Nigeria, or Venezuela. This is not a destruction of resources through either neglect, or ideology.

In the Spring of this year, a very good panel discussion took place at the Milken Conference in Los Angeles on the topic of oil and oil security (Hahn, Herbert, Lovins, Nyquist). One of the panelists referenced Harold Hotelling, and I think correctly pointed out that his theory “had never fully arrived” among the world’s oil producers. Given the clarity and the stated intention behind this new policy, I’d say Hotelling is now arriving in Brasilia.

Photo: Dois Candangos Monument in Brasilia, by Bruno Giorgi

Comments

[CaptKorn:]

Everyone talks of peak oil but few mention peak use of that item. When price goes up replacements are found. And I do not mean the silly wind and solar thing that is the current fun thing to do. Soon the real alt fuel will be found. And then what. well I don't know exactly what it will be or when but you can bet that in the next 50 years it will be as common as computers are now. And they where not on our radar 50 years ago or in the dictionary. Save oil in the ground. No sell it and use the money to find the "next oil" if you can find the really hard thing. Political will.

Sep 01 06:36 AM

[Clearbrook ...:]

Gregor alludes to really two different concepts. The wise use of the revenues for future productive economic growth is one and the other of leaving the asset in the ground for a better future price. The first makes all the sense in the world. Look at Mexicos complete waste of its asset base in its Cantrell super field. But to assume oils an asset for the endless future generations to manage to maximize the price received by leaving it in the ground ignores whats obviuosly coming. Kaptcorn is right. A current or future technology will most likely leapfrog oils majority of uses and relegate it to the dustbins of history like an old Model A belching smoke as it puts down the road at its max 25 miles an hour. :-)

Sep 01 08:22 AM

[Andy1234:]

There isn't much that can replace fossil fuels.

I mean....we have some constraints....the second law of thermodynamics.

Basically all energy comes from the sun on this planet....stored in various ways. Fossil fuels are just a store of the sunlight.....they are highly dense energy sources already packaged.....when uranium, coal, NG, and oil become to dwindle......we will have to move to solar/wind/or some sort of new nuclear fusion source or fission. I see the nuclear options as viable....and wind and solar being more difficult to use.....as they are energy intensive to gather all the materials, make, and install through out the entire process. But we'll see what happens.

Sep 01 08:35 AM

[Clearbrook ...:]

One word hydrogen. But then as mentioned elsewhere, its probably going to be something out of left field no ones expecting technology wise provided the oil companies can get their hands on it to sell and do not bury it. Remember when GM bought up all the trolly companies so they could dismantel them and have people moved solely by their cars? Its wishful thinking but it would be great to see a rerun of this on the carbon based economy we built over the last 150 years.

Sep 01 08:42 AM

[William Dav...:]

Re CaptKorn's "next oil". Well that is the problem, there is nothing as good as Oil when comes to transport, the nearest is NG. NG Peaked in the North Sea in 2000 and probably everywhere else except Russia and Iran in the next 20 years. Even T.Boone Pickens sees NG as transition fuel to something else. EV is limited in its application to relativity small vehicles with limited range. Hydrogen like EV is not primary energy source and is costly to produce and distribute.

If alternatives have not developed in Europe where petrol and diesel are nearly $7.00 a US gallon, it trends to suggest there are no cheap alternatives just around the corner.

Sep 01 09:21 AM

[LKofEnglish:]

could just be a market play. perhaps Lula sees the sheer size of Brazil's find and sees a top in the market. Time to get while the gettin's good. Also I do take issue with the idea that "wind power" is fantasy. It's a reality that terrifies utilities, especially companies like Duke energy in the South, because it's driving down the price of electricity dramatically which given the attack on coal is causing that company great distress. be interesting to see how they "work it out." love FPL in this environment and as i've often said Wisconsin Energy which just finished two massive coal fired jobbies just when the price of coal is collapsing. Obviously big into nat gas, too, which will be dirt cheap for the forseeable future. Oil? That will depend on stocks--if this bull really does roar then i'll start feeling rich enough to speculate against that baby. until then i'll wait 'till it gets back to 12$ and maybe do my part to try and push it to 10. Maybe.

Sep 01 11:53 AM

[Leftfield:]

With the ill-fated Keynsian fiscal "countercyclical flywheel" governments were supposed to run surpluses in good times, deficits in bad, but we run stupifying deficits all the time. Similarly oil producers have shot their load for immediate gratification.
Brazil may do differently. Thus, they may turn out better than Argentina and soon, the US.

Sep 01 12:09 PM

[Dennis U. A...:]

Prior to the recent, massive pre-salt discoveries (mostly) in the Santos Basin, Brazil was essentially oil self-sufficient, to wit it was meeting just about all her liquid fuels consumption needs from domestic production. Her oil imports, which were comparatively small and of a different gravity, only served to enhance other by-products of petroleum refining.

The new order is a deliberate policy to make the most out of her natural resources. The Production Sharing Contract (PSC) scheme which she plans to introduce has proved very successful for countries in the West African petroleum provinces such as Angola and Nigeria. The only difference is that Nigeria over the years, has not made the most of her billions of dollars in proceeds. A recent audit by NEITI, a legal body charged with ensuring transparency in extractive industries, revealed the extent of corruption and opacity in the sector.

Sep 01 12:14 PM

[MarkitWacha:]

I personally think that Brazil will start to use its agriculture for food instead of fuel soon. As the price of sugar rises, and as the world begins a Malthusian crisis later this century, the incentive is for it to be exported instead of burned as ethanol.

Long-term, those same internal cumbustion car engines can run on methane, which can be produced in abundance, using fossil or electrical sources.


On Sep 01 12:14 PM Dennis U. Atuanya wrote:

> Prior to the recent, massive pre-salt discoveries (mostly) in the
> Santos Basin, Brazil was essentially oil self-sufficient, to wit
> it was meeting just about all her liquid fuels consumption needs
> from domestic production. Her oil imports, which were comparatively
> small and of a different gravity, only served to enhance other by-products
> of petroleum refining.
>
> The new order is a deliberate policy to make the most out of her
> natural resources. The Production Sharing Contract (seekingalpha.com/symbo...)
> scheme which she plans to introduce has proved very successful for
> countries in the West African petroleum provinces such as Angola
> and Nigeria. The only difference is that Nigeria over the years,
> has not made the most of her billions of dollars in proceeds. A recent
> audit by NEITI, a legal body charged with ensuring transparency in
> extractive industries, revealed the extent of corruption and opacity
> in the sector.

Sep 01 02:03 PM

[Larry House:]

I am long PBR (and other energy names) just in case we don't go green anytime soon.

Sep 01 04:39 PM

[Marcio:]

As a Brazilian, I can say that all the fanfare about the pre-salt is just a preparation for the upcoming electoral campaign: the heroes that found a huge oil reserve against the neo-liberals that threatened to privatize Petrobrás.

Sep 09 02:22 PM