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The Political Economy of Oil Production in Latin America [with Comments]Author(s): OSMEL MANZANO, FRANCISCO MONALDI and Federico SturzeneggerSource: Economa, Vol. 9, No. 1 (Fall 2008), pp. 59-103Published by: Brookings Institution PressStable URL: http://www.jstor.org/stable/40607908.

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OSMEL MANZANOFRANCISCO MONALDIThe oliticalconomyfOil roductioninLatin merica1990switnessed significantncreasen nvestmentsnthe il andgassectornLatinAmerica.nmost ountries,rivatenvestmentookthe ead after heprivatizationnd liberalizationf the sector. nArgentina,olivia,Brazil, cuador,ndVenezuela, rivateil investmentor some form fprivatizationor both)generatedignificantncreasesnhydrocarbonroductionnd reserves.n the ast fiveyears, owever,heregion asexperiencednewwaveofresource ationalism,ith ncreasesinthegovernment'sakeandstate ontrol. il taxeshave risen ignifi-cantlynArgentina,olivia,Ecuador,ndVenezuela.naddition,oliviaand Venezuelahavepartiallyationalizedil projects.We argue hat herecent rends largelyhe utcomef the ise nthe nternationalilprice.Furthermore,eshowhow he ikelihoodfexpropriationncreasedfterperiod f successfulnvestmentnexplorationndproduction.t the ametime, hetimingf these hanges nd directionn which he sectorhasevolved aries onsiderablycross he egion.ncontrastomost ther oun-triesnthe egion, razil,Colombia,ndPeruhavegenerallytrengthenedthe nstitutionalrameworkndthepropertyightsfprivateilproducers.Thispaper rovides politicalconomyationaleor he ivergentvolution.

Manzano is with he nter- mericanDevelopmentBank and on leave from heUniversidadCatlica AndresBello; Monaldi is withthe Hoover Institutiont StanfordUniversitynd onleavefrom he nstituto e EstdiosSuperiores e Administracinnd theUniversidad atlicaAndresBello.We thankEduardoEngel,EduardoFernndez-Arias, amnEspinasa,RobertoRigobon,FedericoSturzenegger, tephenHaber,and Thomas Heller forhelpful omments nd discus-sion. Vanessa Alviarez,Moiss Dorey,Maria E. Miquilena, nd StefaniaVitaleprovided xcel-lentresearch ssistance.Finally,we acknowledgethefinancial upport f the InternationalCenter nEnergy nd theEnvironmentt the nstituto e Estdios uperiores e Administracinin Caracas.

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60 ECONOMIA, all 008Thegeneral atternfdevelopment nfoldingn theoil sector s notnew.Historically,he evolution f oil and gas productionn Latin America hasseencyclesof nvestmentndexpropriation.orexample, nVenezuela argeoil investments eremadethroughouthe 1940s and 1950s;a processofsys-tematic ncrease nthegovernment'sakethenbegan nthe ate 1950s.Thefiscal akeonprofitsose from evels around 0 percentn1943-58 to a max-imum f94 percentn1974,theyearbefore ationalization.1imilar pisodeshave occurrednArgentina,olivia, Ecuador,Mexico,Peru, nd other evel-

oping countries.2 ven in some developed countries,governments averenegedon the fiscal and contractualonditions fter onsiderable nvest-mentsweremade.A recentxample s the ncrease nroyaltyates nAlberta,Canada.Thispaperstudies hecyclesof nvestmentndexpropriationnthecon-text f theLatinAmerican il sector.nparticular,tprovides nexplanationfor he state'sdifficultiesn capturinghe oil rents nd rationalizes he ten-dencyofgovernmentsoperiodically enegeon their rior greements ur-suing he uasi-rents.hepaperdoes not ry oprovide general roposalfortheright iscal nd contractualtructure,owever, s therighttructure ustbe tailored o eachcountry.Althoughhediscussion nexpropriations typicallynemerging-marketissue, it is importanto emphasizethat hanges n the tax and contractualframeworkftheoil sectorhave nothappened nly nless-developed r oil-dependentountries. orexample, heUnitedKingdomhasinstitutedmpor-tant axmodifications, ost fwhichhavecoincidedwith il price hanges.3Besides thecorporatencometax,oil projectsntheBritishNorth ea payaspecialtax called thepetroleumevenue ax PRT), which s a form ftaxonreturns. hePRTwasoriginallyet t a rate f45 percent,ut twas increasedto 75 percentwhenprices ncreasedn the1970s. n the1990swhen heNorthSea beganto be depleted, he PRT was reduced to 50 percent or xistingprojects nd eliminated ornewprojects.4Whenoil prices ncreased gain n2002, theBritish overnmentstablished supplementaryhargeof 10 per-

1. Monaldi 2002).2. Philip 1989).3. For a review of the tax regimesin the NorthSea, see Moles, Constantinou, ndKretzschmar2005).4. Ring fencing f oil projectswas also eliminated, llowingthededuction f the costs ofnewprojects rom he taxes evied on theprofitsf mature il projects.This resultedna sig-nificanteductionfeffective axation.


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Osmel anzanondFranciscoonaldi 61cent, ffectivelyncreasing he taxon upstream rofits.5 comparablehis-tory anbe written or il taxationntheUnitedStates nd Canada.The oil industryas somespecific eatureshat tronglynfluencehewaythe nstitutionalrameworknd thepoliticaleconomyof the sector volve.Some of thosefeaturesre sharedwith ther ectorsndifferentegrees, uttheoil industrys one of thefew nwhich heir ombined mportances sig-nificant. irst, il extractionnd,to a lesserextent,naturalgas extractiongeneratemportantents. econd,oil and gas extractionequiremajorsunkinvestments.hird, highproportionf oil reserves re concentratedn coun-trieswithweak institutionsnd high politicalrisks.Fourth, il explorationinvolveshighgeologicalrisks,whereas hese isksdecline ignificantlyn thefielddevelopmentnd production hases. Fifth, il products re massivelyconsumedand thereforeolitically alient.Sixth, he oil price n the nter-nationalmarketss volatile, o oil rents re also quitevolatile.Thispaperdis-cusseshow these haracteristicsfhydrocarbonxploitationnteract ith heinstitutionalnd contractualnvironmentoexplainthepolitical conomy fexpropriation.

The characteristicsfthe oil sector, specially hepresence flargerentsand considerable unk osts, re accentuated ythe ack of effectivendpro-gressive axsystems. ogether,heygenerate pisodesof contractenegotia-tion,particularly hen thepriceof oil increases ignificantly.he factthatcontractualnd fiscalsystems o notappropriatelyakeinto accountpricecontingenciesmplies hatwhen heoil pricerises teeply,nincreasinghareof oil rents s retained y oil producers.Consequently, overnmentsavepowerfulncentives or ontractenegotiationr nationalization. oreover,fthegovernmentenegeson the contract fter argeinvestments ave beensunk, heproducerswouldstillhaveincentives o continue peratings longas they an recover perationalnd nonsunkosts.As a result,ndustries ithhigh unk osts, ikeoil,aretemptingargets or xpropriation.The optimal ontractualnd fiscalsystem houldeffectivelyncorporateprice ontingencies,llowinggovernmentsocapture heoil rents. or exam-ple,thefiscal egime ould ncorporateates hat ncreasewith heoil priceandsomerecentlypprovedwindfall axesdo ustthat.Achieving n efficientandprogressive ax system ntailssignificantifficulties,owever. ncometaxes re moreprogressivehan oyalties,ut hey rovidencentives o over-spend ndthey eneratearger istortionsince theratehas to be higher han

5. Modificationsn thewayassetdepreciations considered or axpurposespartially ff-set thetax ncreases,however.


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62 ECONOMIA, all 008a royalty.n addition,moreprogressiveaxation ystems equire dministra-tivecapacities hatmany ountriesntheregion ack. Stateownershipouldbe a solution, ut thenational il companieshaveoften een inefficientndeasy targets or evenue xpropriation.inally, redible ommitmentoprop-erty ightssdifficultna context fpowerfulncentives or xpropriationndweak nstitutionalrameworks.noption hat asrecentlyeen mplementedto mitigate hetime-inconsistencyroblem, he creation f an independentregulatorygency,mayhelptoprovide omecredibility ithoutmaking hesystemxcessively igid.Thepaper s organized s follows.The next ection nalyzesthe conom-ics ofoiltaxation nd thebasiccharacteristicsfoil taxationnLatinAmerica.Itprovides he heoreticaloundations orunderstandinghe hallenges acedinthefiscal ndcontractualrameworks.hepaper hen resentshekey har-acteristicsfthe il sector nddiscusseshowthey hapethepolitical conomyof oil extractionntheregion.We include section ncase studies oexplorehow ndividual ountriesnthe egion ave addressed he heoreticalndprac-ticalproblemsnvolved n contract esign.The final ectionpresents omeconcluding emarks.The hallengesndnconveniencesfOil axationResourceexploitations an important artof theeconomy n developingcountries.6 overnmentshereforemplementlternativeax and contractualstructuresocapture s much s they an oftherevenues enerated ythoseactivities.This is particularlyruein oil-exportingountries.Moreover,hydrocarboneservoirsre thepropertyfthe tate nmost egalframeworksover theworld,ncluding ll LatinAmerican ountries.In the oil andgas industry,heactivity fhydrocarbonxtraction ener-ates importantents. n particular,ents rise whentheexploitedfields reinframarginaln theglobal context.7 ents also arise because thecountrieswith he argest nd eastcostly il reserves estrictccess to them.Given theexistenceof rents nd thestateownership f theresource, tatestypicallyapply specialtaxes to theoil sector.The most ommon nstrumentsreroy-alties andspecial incometaxes, lthough igning onuses andvariableratesare also used. Table 1 presents summary fthe differentypesof instru-6. For the countries we are analyzing,fuel exports represented round 13 percent(unweightedverage)of their rossdomesticproductGDP) in2004 (WorldBank2007).7. That s,fieldswith otal osts below themarginal roducing ield ntheoil market.


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Osmel anzanondFranciscoonaldi 65ments sed in the Latin American il-exportingountries.Royalties,whichare a form f sales tax,are used in all countries xceptMexico, wherethestate s the ownerof the industry,nd Trinidad and Tobago.8Moreover,Argentina, olivia, and Venezuela have recently ncreasedroyalties orintroducedhem).Most countries lso use either higherncometax rateora special profitax tocapture xtra ents.Countries lso use differentontractual egimesforprivate peratorsifthe statedoes not have a monopoly n production). hese can be based onconcessions where heproducer asownership ights vertheoil field), er-vice contractsproduction or fee),risk ervice ontractsinwhich hefeeis related o the oil priceand increases n production), roduction-sharingcontractsin which the statereceives a share of production), r technicalassistance ontracts. he nature fthe contract as importantonsequencesin terms f therisks aken ytheprivate r nternationalil company, s dis-cussed ater. inally, ther elevant lements f the ontractualegime re theduration ftheconcessionorcontract,hedomesticpriceofproduction,heconditions or xport, nd thedisputeresolutionmechanismsforexample,whether he contract ncludes international r multilateral rbitration rwhether here rebilateral nvestmentreaties).We focusfundamentallynthetaxation ssues.Taxes notonlyhavethecapacity ogenerate evenue or he tate, utcanalso have significantmpactson economic activity.Understandinghoseimpacts s crucialfor valuating he tax structuref a particularountry.ntermsf the ffectsftaxeson theresource ector,he ecent iteratureocuseson the market owerofresourceproducersndhow to induceefficiencyndomestic esourcemarkets. hegovernmentsnthe egion, owever,re moreconcernedwith hedevelopmentf the il sector ndthe ollection f revenuefrom he ector. omesticmarkets reusually ubsidized ndonlyrepresentrelativelymall fractionf total il production.Another ranch f the iteraturesesoption aluetechniqueso address hevolatilityf theoil price. nstead,we choose a Hotellingmodelfor wo rea-sons: theHotellingmodel ncludesmportantaxdistortions;nd the mplica-tionsderived rom heoptionvalue modelsare less importantor hesubjectofthispaper.9 hese implicationsreultimatelyelated othe ffects fpricevolatilityn investmentecisions,which are not central o thestudy f therecent ax reformsn theLatin American il sector.

8. The export ax nArgentinas similar o a royalty.9. See Manzano (2000).


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66 ECONOMIA, all 008The solution o theproblem f theproducer f natural esources s devel-oped in the seminalworkby Hotelling.10he producermaximizes valuefunctionV) with onstraints:

(1) maxV = Hn{q)e-rtdt- C(rt),R,q,Tsuch thatR = -q, R(0) = R, andR(T) = 0, where represents rofits, theextractionate, thediscount ate,C thedevelopmentndexplorationosts,andR reserves.In thispaper,we define heprofitunction o be

(?) = pq - c(q),whichhastwo mplications. irst, il productionnvolves wodifferentypesofcosts:C(R), which ncludes hemonetaryalue at 0 of all past explorationplus development osts,such as the cost of connecting o the distributioninfrastructure,ndc(q), whichrepresentshecosts of oil extraction,uch aslaborcosts andgas injection.11econd,thisproblem ssumesthat il compa-nies arepricetakers an assumptionhat s not farfrom eality,t least notfrom hepoint f view of oil companies.12he producer hooses theextrac-tionpath q andT) andthe mount f reserves hatmaximizes heprofitunc-tionsubjectto theconstraint, hich mpliesthat he total mount xtractedshouldbe equal to thereserves tthebeginningf theexploitation.Forthereasons xplained bove,thegovernment'sroblems totry ocap-ture he ntire alue V.Consequently,twill ntroducepecialtaxes norder oobtain t.The first-bestolution s an auction f the field or signing onus(whichwould be theonly payment eceivedbythegovernment). owever,several ssues make this olutionhighly roblematic. he political conomyissue,discussed n thispaper, s that hegovernmentannot ommit o notchanginghe axes n thefuture rnotexpropriatinghe ector.Anotherssue

10. Hotelling 1931).11. There s an importantranch f literaturen thenature fc(q). In particular, indyck(1978) assumes tdependson the amount f reserves resent t the timeofextraction; e alsointroduces hepossibility faddingreserves hroughhe ifetime f the field. uchmodelsareusefulfor xploring heeffects f thetaxsystem n thetiming f extraction nd thetiming ffield evelopment.We return o thispoint ater.12. While there re fewoil reserves, umerous il companies reexploitinghesereserves.We are concernedhere with he behavior f thesemanyoil companies,which we assume actcompetitively.


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Osmel anzanondFranciscoonaldi 67is that he auctionsmaynot be feasibleowingto liquidity r collateral on-straints. he most ommon lternativesothe igning onus areroyaltiesndincome axes.13onsequently,istortionsillarise. nequation1,twomarginscould be distorted:n extractionmargin,which s thedifferenceetween heprice nd the xtractionost, nd thedevelopmentmargin, hich s thediffer-ence between henet ncomefrom xtractionnd thedevelopmentost.Taxescouldthus ffect xtractionnddevelopmentecisions, ependingn howtheyaffect hese womargins.Theroyaltys similar oa revenue ax,but t s called a royalty ecause thegovernments theowner f theoil field nd collects tsroyaltyrom heoper-ator.Whenwe introduce oyalty ayments o theoriginalformula,he newmaximization roblem ecomes(2) max = 'To[pq{l p)- c{q)]e^dt - C{r'such thatR = -q, R(0) = R, andR(T) = 0,where representsheroyaltyate.The effect f royalties s well documentedn Heaps and Helliwell and inManzano,so we merely ummarize heresults resentedhere.14As evident nequation2,theroyalty istorts othmargins. onsequently,fewer il reserves regoing o be developed.Anotheronsequence s the ilt-ingof theproduction ath,withproduction hiftingrom loserperiodstofurthernes. As firmsry o minimize henetpresent alue of the axburden,they ostponeproductionndthereby elaytaxpayments.Beyondtheseresults,most f the iteraturen the opicfocuseson thetaxburden.15 e refero this axburden s thenetpresent axrate NPTR), andwe can check t for his ase:

f pqpe^dt(3) NPTR= - i&- -io[pq-c{q)]e-dt-C(R)JoV"*iT0{,-M/p]}e-t-[c(R)/P]'13. Australia ndGreatBritain se a resource-rentax the PRT), which s a form f tax onreturns. or a review and study f thistypeoftax,see Emerson nd Garnaut1984); Garnautand Clunies-Ross 1975, 1979); Zhang 1997).14. Heaps andHelliwell 1985); Manzano (2000).15. Forexample, Kemp 1987, 1992); Kempand Rose (1984).


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68 ECONOMIA, all 008Equation3 illustrates resultwidelyreportedn thisarea of the iterature:namely, hetax ratewillbe higher or il fieldswith owervalue,p, higherproductionosts,co(q),andhigher evelopmentosts,C(R).This analysis assumes thattheproductionevel is exogenouslygiven.However,firms re ikely oadjust heir roduction lan according o the axschemetheyface.16 ollowingManzano,we can derive thechangein theamount f reservesdevelopedfrom hechangein theroyalty ate.17 romthere,t is possibleto compute hechange nreservesdevelopment or hedifferentarametersf nterest:

(4c) v ' V) < 0; anddp

Bc'(qr) >0' '-The results rom quations4a and 4b imply hat eservesnfieldswherecostsincrease t the fastest ate whether nproductionr developmentaregoingto be less affected y theroyalty hanreserveswithmore stablecosts.A possiblereason for his s that heroyaltys an additional ost andthus s proportionallyess relevantwhendevelopment r operating osts16. We thereforeannot rawfinal onclusions egarding hichfieldswillbe more ffectedbasedsolelyon the nalysis f theNPTR. This view srelativelyalid n a context ased ongeol-ogy.The idea is that ach oil fieldhas a maximum fficientecovery ate, uch that nce a fixedinvestmentsmade, he il field enerates stream f ncome, eterminedygeologicalcharac-teristics. evertheless, lack and LaFrance 1998) arguethat hisnot the case. Theytestdatafrom il fields ndfind hat il productionollowswhatwouldbe aneconomically rivenmodel.17. Manzano (2000). Livernois 1991) discussestheeffects f tax brackets n theproduc-tionpath, ncludinghefact hat roducers o adjustto thepresence f taxes.Jacoby ndSmith(1985) also allow producers oadjust,buttheyparameterize modelfor he offshore as sec-tor ntheUnitedStates nd check theeffects f taxes andpriceregulation.


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Osmel anzanondFranciscoonaldi 69increase apidly. onsequently,nterms fthe mount f reserves otdevel-oped because of the taxstructure,nelastic gentswill reduce reserves essthan more elastic agents.These results re similarto the standard esultsfoundnmostpublicfinance extbooksoncerningnelastic gents. nelasticagents houldbear most f theburden,incethey lter heir ehavior he eastinresponse othetax.The result n equation4c contravenes he conventionalwisdomderivedfrom heNPTR. It impliesthat hereductionnreserves eveloped nhigh-valuefields, s a consequenceof theroyalty,s larger hann the ase of ow-valuefields. he reason or his s that igh-aluefields ose a larger roportionof ncomerelative othecosts ofdevelopment,eadingtoa larger eductionin reserves.Finally, quation4d implies hat heonlychannel hrough hich hemar-ginalcost affects hevalue of the derivatives throughhemarginal ostofqT.Consequently,he ffects small. fthe axsystemllows oil producersodeduct ll expenses, he ptimal olutionwillnotbe affectedythat ystem.18Mosttaxcodes,however, o notrecognize, r allowfor, he mortizationfthesedevelopmentosts. nstead, hey ffer tax credit or hem. his meansthat heoil producer acesthefollowing roblem:(5) DpV = ]{[pq - co(q)](l - x)}e-dt (l - Wc)c(tf),such thatR = -q, R(0) = R, andR(T) = 0, where representshetaxrate ndxc he ax credit iven.19his mplies hat nly hedevelopmentmargins dis-torted.As longas tc 1,fewer eserveswill be developed,butthere houldbe no impact nthe xtractionath.We can also repeat he raditionalnaly-sis for ax ncidence,whichyields(6) NFIR-^-^^-Wf^jo[pq-co{q)]e-"dt-C(R)-tin ctft"')[ 'l[pq-co{q)Yndt-C{R)

18. In this ase, theright-handide ofequation1 willbe multiplied y 1 - ), and itwilldisappearonce we set thefirst-orderonditions.19. This means that hecompany s allowed to deducttcpercent f its nvestmentn helddevelopments an expensefor ncome taxpurposes.


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70 ECONOMIA, all 008The tax burden s higher han because firms re notallowed to fullydeduct heir evelopmentosts. Fields characterizedya lowervalue,higherdevelopmentosts, ndhigher peratingostspaya higheraxrate.Asbefore,this s a simplistic pproachto theproblembecause it does nottake intoaccount hefact hat roducerswilladjusttheir roduction lans nresponseto taxes.We can derive he hange nreserveswith espect o the ax rate ndwith espect o theparametersf nterest:

(7c) *0;dpTheresults resimilar othose ntheroyaltyase. The maindifferenceereis that hemarginal osthas a moredirect ffect han nthecase oftheroy-alty.This is because theroyaltys based onlyon price,whiletheprofitaxtakes ntoaccount the cost ofproducing il. This result gain contravenesconventionalwisdom in the sense that fields with lower marginalcostsreducetheir evel of reservesmore in responseto the introductionf anincome ax than ieldswithhigher osts. The reason s that heratio f tax todevelopmentosts s much arger orfieldswith owercosts.This analysis suggests hat n income tax is better han royalty, iventhat tdistortsnlyonemargin.Moreover, axsystemsmight enerate ewerdistortionss theymoveto nclude apital xpenditures ore ppropriatelythroughepreciation rovisions,llowances for omeform fcapitalizationthat an be deducted ater, nd so on. Another lternativehatwouldgener-atefewer istortionss to make thegovernmentpartner,o that hegovern-ment' take (the tax) is collectedthrough articipationn the oil project.Recentcontractsn the oil sectorhave thus ntroduced lternativeorms fgovernmentarticipation,artially educing hedistortions. ome of theseprovisionsnclude governmenthare nprofitsnd a taxontherepatriationofdividends. able 1 lists ome ofthesemechanisms sed intheregion.


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Osmel anzanondFranciscoonaldi 71Nevertheless,hese nstrumentsndup being form frate-of-returneg-ulation. he theoryfregulationhows hat ate-of-returnegulationaninduce verinvestmenty he irms.20ivinghe overnmentshare fprof-its r axes n dividends ay ave imilarffects.he iteraturelso outlinestheperversencentiveshat axbrackets ayhavefor he nvestmenteci-sions ffirmsnthe esourceector.21Alternatively,he ptimalaxationf the il sector ouldbe viewed s aproblemfasymmetricnformation.he oil sectors characterizedyrela-

tively ood nformationn oilquality,rices, eservoirepth,nd so forth,but overnmentsave ess nformationn thenvestmentsnd osts equiredtodevelop field. his s similarothe ssue f ffortnthe abor conomicsliterature.or this eason,omegovernmentsayhavedecided o use theroyalty ore xtensivelyhann ncomeax.22The main roblem ithhe oyaltys thattperformsuite oorlyncap-turingents. s oilprices ise, setroyaltyate apturesess rent han setincome axrate.Royaltyates retypicallyower hanncome axrates.fagovernmentants specifichare f theprofits,eaving side behavioralchanges,tneeds higherncome axrate han royaltyate. onsequently,when rices ise, he hare fthegovernmentn the ncreasedrices lowerwith royalty.23n mportantmountfrentshus emains ith he roducer,and hese ents reprocyclical.his s illustratedntable ,which resentsa referenceilprice erbarreltheWestTexas ntermediate,rWTI) andthe verage ortion ppropriatedythegovernment.s theoil pricehasincreased,he verage iscal hare asdecreased rremainedtable.notherwords,he ax ystemsrenot rogressive.24This couldhelpexplain he recentwaveof tax increases.MostLatinAmericanountriesigned ew greementsor xplorationnddevelopmentinthe 990s,whenhe verageWTIpricewasUS$19.96per arrel.hepricecontext aschanged adicallyince hen, etmost f the ontractsid not

20. Train 1983).21. Livernois(1991).22. See, for xample,Mommer2002), whoargues hat heuse of a royaltyould solve theprincipal-agentroblem etween hegovernmentnd theoil firm erivedfrom he symmetricinformationn costs.23. Forexample,withpricesof$20 a barrel nd costsof$10 a barrel, royalty f25 per-cent 0.25 x 20 = 5) is equivalent o an income tax of 50 percent (20 - 10) 0.5 = 5]. If thepriceof oil increases o $40, a royalty f 25 percentnowcaptures 10 perbarrel,whereasanincome taxof50 percent aptures 15 perbarrel.24. Bolivia is a textbookxampleof rate-of-returnegulation. irms verinvested,nd theirliabilitywas reduced.


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72 ECONOMIA, all 008TABLE 2. Fiscalakeer arrelPercentagefnternationalrice

Country 1996-98 1999-2001 2002-04WTIdollarser arrel) 19.0 25.1 32.9Argentina n.d. 20 24Bolivia 37 24 15Colombia 22 21 22Ecuador 66 46 51Mexico 42 38 52TrinidadndTobago 37 16 23Venezuela 51 47 53

a. Our eferencerices heWest exasntermediateWTI)rice, easuredstheveragericeorhe eriod,nU.S. ollarser arrel.The iscalake orachountrysmeasureds percentagefthateferencerice.he stimationsor rgentinare ased n cheimberg(2008).n.d.No ata.

includerovisionsor igherrices. hefew hat ere ased nsome ormfrate-of-returnegulationere egotiatedn the eriodfhighestnvestment,so thetaxburdenwas stillreduced. onsequently,heroyaltyatehasincreasednArgentina,olivia, ndVenezuela,ndEcuador ndVenezuelahave ecentlypproved indfallaxes.Moreover, ost f hese ases nvolveinelastic ields.notherwords,heyremostlyow-value ields rprojectswith naccompanyingunk nvestmenthat erves s a bindingonstraint.25Thesefirmshereforeillnot hangeheir ehavioronsiderablynce axesare ncreased. he taxhikemightave n effectnthe ntryf new nvest-ment,ut roductionillreact eryittle.Inthe1990s, numberfcountriesidnot ullyrivatizehenationalilcompany,ut electivelypened he ectoroprivatenvestment.o attractprivatenvestors,heyfferedetteriscalonditionsn these nelasticields,while henational ilcompanies ept hehigher-returnields,ncludinghebigger ields nd ightrude ields,or hemselves.nsome ases, he rgu-ment or fferinghe ax ncentives as thathe xistingaxregime asnotcompetitive,ut hese eformseremostlyriveny lackofpublic apitalto ncreaseroductionnthe ector.heresult fthesehanges as that ro-ductionn hose ountrieshiftedowardrude eneratednderhese ontractswithrivatenvestors.his hift ad wo ffects.irst,he ew roductionixis not ptimal.heoptimal roductionixwould equire roducingigh-25. For example, n Bolivia and Ecuador,the installation f pipelines accompaniedtheinvestmentnexplorationnddevelopment.


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Osmel anzanondFranciscoonaldi 73quality,ow-cost il firstnd thenmoving n to the ower-quality,igher-costfields. econd,countries ave becomefiscally ependentn thesenew fields.Whenoilpricesbegantorise, ountries ith elativelyow taxeson thehydro-carbon ectorhad incentives ochangetheir axrates, articularlyince mostof theprivately perated ieldswereperceived s inelastic.Oil explorationmplies n importantgencyproblem ecause thegovern-mentdoes nothavegood informationn the nvestmentsnd costsrequiredfor il extraction.26wayto solve the nformationalroblems for he tatetoexploitthe resources tself.This could explainwhymany ountries avenational il companies hat peratewith monopoly n the sector rinpar-allel to nternationalil companies.The mainproblemwith his rrangementis that distributive onflict risesbetweengovernmentsnd nationaloilcompanieswithregard odivertingesources o thegovernmentersusful-fillinghecompany's nvestmentlans.27 s explained ater, henational ilcompaniesare oftenvulnerable o expropriationf revenuesby the statethrough ifferent echanisms.Examples include Petrleos de Venezuela(PDVSA), whichdirectly ndertakesignificantocial investmentsbeforepayingtaxes),Petroecuador,which has difficultiesulfillingts investmentplansbecause thegovernment'sreasury irectly eceivespayments or heoil exports, nd PetrleosMexicanos (PEMEX), whose exportshave beenextensively sed as collateral or he ssuingofgovernmentebt.A finalpoint s therelationship etweentaxes and economicvolatility.Pricevolatilitys generally xpectedto have a negative mpacton invest-ment, specially n thecase ofprojects uchas oil exploitation.28owever,the factthat ax instrumentso not takepricevolatilitynto account thatis,they re not ontingent adds a second element fvolatility. irmsmightinclude theuncertaintyf taxchanges n their valuationof differentroj-ects.Moles, Constantinou,ndKretzschmar ind hatncluding axvolatility

26. Theamount f nformationoming utof theoil sectorhas increased ince the il crisesof the ate 1970s andearly1980s. Governmentsnowoil quality, eservoir epth, ressure,ndso forth.However,oil companiesstill have an amountof private nformation, hich s notavailable to thegovernment. s arguedbefore, his s similar o the iteraturen workers' ffortinthefield f abor economics.27. For example, n Venezuela in the 1990s,the oil industry's verage nvestmentn theproduction hase alone averagedaround3.4 percent f GDP. Duringthe sameperiod, he fis-cal deficit veragedaround1 percent not ncluding he cost of the financial risis.The gov-ernment hushas alternative ses for heseresources.28. An importantiterature ses real optionvaluation echniques o assess these ssues intheoil sector; ee Moles, Constantinou,nd Kretzschmar2005) for review.


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74 ECONOMIA, all 008ina model for heNorth ea reducesthe valuation f the assets nvolved nthis ctivity yup to 20 percent.29his could lead to decreased nvestmentinthe sector.In summary,he nstrumentssedfor axing hehydrocarbonectorntheregiontendto have theproblem f leavingrentswith heproducing irms.These rents reprocyclical,ndthey ivethegovernmentsncentives o enterintoan expropriationycle.This taxvolatilityompounds he effects f oilpricevolatilitynd reduces nvestmentnthe ector elow theoptimal evel.The oliticalconomyfTaxationndContractingn heLatin mericanilndustryEconomicandpolitical conomyfactors elp explainthepatternsf devel-opmentntheoil industry.We start y presentinghemaincharacteristicsftheoil industryhatmake tparticularlyusceptible ochanges nthe ax andcontractualonditions.nthe astsection,we argued hat axsystemsre rel-atively neffectivetcapturingents, articularly henpricesrise, ndtheytypically enerate ignificantistortions. his section xtends hat nalysis othepolitical conomy foil taxation ndcontractingntheregion.APrimern he ilndustry'sharacteristicsnd he ourcesf xpropriationOil exploitation enerates ignificantents. orexample, hecostperbarrelintheregion andtheworld)typically ariesfrom s low as US$1 to as highas US$15. When heoilpricerecentlyoseabove$70 dollarsperbarrel, entsskyrocketed.ntheoryll rents an becaptured ythe tate which ypicallyhassovereign ontrol ndpropertyightsveroil reservoirs without ffect-ing ong-termroduction.30n practice, heproducer ftenkeeps significantrents. he problem rises from hefact hat axand contractual rameworksaretypically otveryprogressive. s a result,whenthere s a large ncreasein theinternationalil price,thegovernment as incentives o renegeon

29. Moles,Constantinou,nd Kretzschmar2005).30. One definition f rent s theexcess revenue bove theopportunityost of therepro-duciblefactors fproductionthat s, labor andcapital).Mineralrents an result rom he nat-urally ower costs of extraction rhigher ualityofcertainmineral eservoirs,elative o themarginal roducer; hese re known s differentialents.Rents an also arise frommonopolis-tic restrictionsn accessingthemineral eservoirs r from utput estrictionsycartels.


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Osmel anzanondFranciscoonaldi 75deals made whenpriceswere ower.31n addition, ome rents re typicallycaptured yother roups, ncluding heoil workers,ocal actors, nd domes-tic consumers.Oil investments characterized ya time-inconsistencyroblem.A largeproportionf the nvestmentsnoil productionre sunk osts,that s, assetsthat re mmobilized efore evenues tart eing ollected.Examplesof sunkinvestmentsnclude seismicstudies, xploration ndproductionwells, andpipelines.Once deployed, he x postvalue of these ssets nalternativesesis very ow,whichopensthe door to theappropriationf significantuasi-rents.32 he operating irm enefits rom ontinuingooperate s longas itcan recover perationalnd nonsunkssets, ven f tcannot ecover he unkcosts. As a result,hegovernment,r other ctors,may xpropriatehe uasi-rentsby opportunisticallyhanging heconditions f investment,hroughtaxes,regulations,r thedomestic il price.The politicalbenefits foppor-tunistic enegingrehigh. n the hort erm,hegovernmentan extract ig-nificant iscal resources or transfer hemto domesticenergyconsumers,without significantmpact noil production.heexpropriationfrevenuesfrom tate-ownednterprisesan also be a significantroblem, epending ntheir overnance tructure,mongother ariables.33In addition o theappropriationfquasi-rents, ydrocarbon roductionsrisky ecause worldoil reserves re concentratednunderdevelopedoun-trieswithweak nstitutionsndhighpoliticalrisks.Thesegovernmentsavetrouble ommittingo allow private nvestors r state-ownednterprisesorecover heir unk nvestments.f thepoliticalbenefitsfrenegingrehighand the short-termosts are low, thenonly strong omestic nstitutionsrexternal nforcement ouldprovide redible ropertyights.nfact, xternalenforcement as playeda moresignificantole thandomestic nforcementthroughouthehistoryf oil and mineral nvestmentndeveloping ountries.This was thecase, for xample,when a cartelof oil multinationalsoordi-natedpunishmentnd thehegemonic owers nforcednternationalroperty

31 In this ase the ncrease n thegovernment'sakemay onlybe capturinghe dditionalrents rovidedbythe ncrease n oil pricesand notexpropriatinghequasi-rentssee below).Still,theprospect fcontractualhanges ncreases heriskfor nvestors.32. Klein, Crawford,nd Alchian 1978); Williamson 1996). One definition fquasi-rentis the differenceetween he ex ante and ex postopportunityost of theproduction actor.ncontrast orents,fthequasi-rentsre takenfrom heproducer, ong-run roductionwould beaffected. he companywould continue peratingn the hort un s longas it can recover per-ational nd nonsunk osts,but t would notredeploy unk ssets,that s, it would not nvest.33. Monaldi (2002, 2005).


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76 ECONOMIA, all 008rights.34orerecently, ultilateralrbitration,nvestmentreaties,nd oansguaranteed yoil export eceivableshaveprovided omedegreeof externalenforcement.35n a fewcases, however, uch as Brazil, Chile,andNorway,domestic olitical ndregulatorynstitutionsaveprovided redible ommit-ments oforeignnvestorsnsectors haracterizedy high unk osts.36Thereputationalostsofrenegingn commitmentsrehighwhen hegov-ernments eagerto attract ewforeignnvestmentparticularlyn the samesector).The likelihood fexpropriationhusdeclineswhen new nvestmentcycle is beinginitiated, ecause productions just starting, ecause therehas been a longperiodofdisinvestmentpossiblyas the result fpreviousexpropriation),r because thegovernmentoes nothave thenecessaryfis-cal resources o invest. n contrast,he ikelihood fexpropriationncreasesafterong periods fhigh nvestmentndrising evenuesand reserves) ndwhen hegovernmentasplentifulinancial esources.The incentives orgovernmentaleneging lso dependon thepoliticians'discount ate. n thepresence f weak institutionalrameworks,pisodesofeconomic ndpolitical nstabilitynducehighdiscount ates,whichmakethereputationalostsofrenegingess relevant. he short-termenefits fexpro-priatinghe il industry,ombinedwithhighdiscount ates, ave made the ilindustry very emptingargetnthepast.Forexample, heArgentine ov-ernmenteneged n oil contractsollowing heeconomiccrisisof2000-02.The existence fhigh geologicalrisks n theexploration hase providesincentives orgovernmentso offer ttractive eals to private nvestment.Whenexplorations highly uccessful, owever, hegovernmentas signifi-cant ncentives or x post renegotiation.ontractsypically o not ncorpo-rate lauses that llow thegovernmentocapture ll the argerents hat riseafterignificantew discoveries.As a result,ven nthe nitial haseofpro-duction, overnmentsften hangethe fiscal nd contractual onditions ol-lowing hediscoveryfmajorhydrocarboneserves hat ignificantlyncreasethenetpresent alue of theproject.37imilarly, ecause fiscal nd contractual

34. Lipson(1985).35. Monaldi 2002).36. LevyandSpiller 1996). They dentifyhree onditions equired or nstitutionalom-mitment:he xistence f substantiveegalrestrictionsngovernment's eneging,he xistenceofhigher-level rocedural estrictionsn changing he egal restrictions,nd the existenceofcredible nstitutional echanisms or nforcinghe firsttwo ypesof restrictionssuch as anindependentudiciary).They present he case of Chile's managementf theelectricityectoras an exampleofcredible ommitmentupported ydomestic nstitutions.37. Vernon 1977) calls thisphenomenonheobsolescingbargain.


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Osmel anzanondFranciscoonaldi 77frameworksre typicallynotprogressivewithrespectto increasesin oilprices, here as been a tendencyo raise taxes nperiods fhigh il prices.38The massiveconsumptionf oil andgas products including asolineandresidential as) has made domesticpricing chargedpolitical ssue. Politi-cians are thereforeressuredo avoidsignificantncreases ndomestic nergyprices.Some exportingountries ave regulated omesticpricesbelow theopportunityost of exports, speciallyduring eriodsof internationalricehikes. n contrast,ince thedemandfor il productss highlynelastic, omecountries refero use consumptionaxesto obtainfiscal evenues.Volatile oil pricesgenerate olatileoil rents.We havealready rgued hatfiscal systemshave a hard timecapturing il rents n differentrice sce-narios;pricevolatilitys particularlyroblematic s a result. n the case ofoil-dependent xporters, olatilitymay createmacroeconomic nd fiscalinstability nless stabilizationmechanisms are effectivelymplemented,whichtypicallyhas not been the case. Oil-dependent overnmentsmighttherefore e tempted o renegeon oil companies,particularlytate-ownedcompanies,when heoil pricesfallandthegovernmentaces a fiscal risis. fgovernmentfficials ace a highdiscountrate,partlynducedby thehighvolatilityfoil income, hereputationalosts ofrenegingould be less rele-vantduring fiscal risis.A fiscal risisproduced ysomethingther han noil shock ould also make theoil industry temptingarget.Actorsnd ncentivesIn general,governmentsave incentives o attract il investments ecausethey enefit rom hedevelopmentf oil projects nd oil productionn theirterritory.he economicactivity enerated nd the taxes collectedprovideauthorities ithbothfiscal esources ndpolitical upport rom onstituents.Governments ight ave ncentives orenege nprevious ildeals, however,once investments ave beendeployed ndproductions ongoing. nparticu-lar,theymight ave incentives o increase hegovernment'sakeorregulatethedomestic riceof oil products.Thegovernments'ncentives lso dependon the xtent o which he oun-trys a net xporterr a net mporterf oil. Ifthecountrys a substantial etexporter,ne key issue is whether il revenues an represent significantsourceof fiscal ncome. n that ase, policymakers avepowerfulncentivesto maximizegeneration nd the appropriationf rentsfromoil exports.

38. Monaldi 2005).


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78 ECONOMIA, all 008Dependingon thepoliticians'discountrate,the level of thecountry's ilreserves,ndfuturemarketxpectations,his entmaximizationould mplystrategyocused n short-termiscal evenue xtractionrone oriented owardincreasingong-termroduction.39etexportersretypicallymorereluctantthannet mporterso privatizenational il companies,because national ilcompanies an be more asilyusedas cash cows orpiggybanksthanprivatecompanies.naddition,incethey apturemineral ents,henational il com-paniestendto be less deficit roneand debt ridden hanother tate-ownedcompanies,making he rationale orprivatizinghempolitically ess com-pelling.40 oreover, iventhat il taxationnevitablyntroduces istortions,state wnershipmight eem a less distortionarylternativehanhavinghighmarginal axesonprivate perators,articularlyhen heoil price s high.Whengovernmentsrewillingto offer oreignnvestors ccess to theiroil reserves,netexporterswith substantial il reservesgenerallyhave theupperhand ntheir egotiations ith nternationalil companies,giventhatthesecompanieshave few alternatives or ncreasing heir eserves.Thesecountries ypically pentheprojectswith ower rent eneration irst.Whenthepriceof oil in the nternational arket isessignificantly,etexportersare in the bestpositionto negotiate,whereas nternational il companieswith xisting unk ssets nthecountry ave a particularly eakbargainingpositionfthegovernmentttemptsochange xistingonditions. s a result,resourcenationalism nd tax increasesare commonamongnetexporterswhenthepriceofoil risessubstantially.In the ase of netoil importers,he ncentives re skewedtoward ncreas-ing investment nd production.Rent extraction romupstream ctivitiesbecomes ess relevant. iventhat roductionsdomesticallyonsumed, entsare notgeneratednthe nternational arkets; atherhey re extracted rompoliticalconstituents. oreover,oil imports an be very costlywhen oilprices rehigh, enerating ighpolitical nd fiscal osts and external-accountproblems.Consequently,net importersypicallyprovidemore attractiveterms or il explorationnd extractionalthoughhis an also result romhelackof attractiveeologicalprospects).Nevertheless,hegovernmentsf netimportersouldrenege n oil deals in the vent f an oil pricehike, n exter-nal shock,or a highpoliticaldiscount ate.Forexample, hedomesticpriceof natural as or oil productsmight eregulated own, r the xisting xports

39. If the ountrys a relevant layern the nternationalilmarket,hegovernmentlso hasto decide whether obelong o OPEC and, fso,whether orespect he artel roduction uotas.40. A counterexamplesYPF, thenational il company fArgentina, hich ncurredignif-icantdeficits efore eingprivatized. owever,Argentina as not significantil exporter.


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Osmel anzanondFranciscoonaldi 79mighteheavilyaxed rforbidden,obenefitomesticonsumersnd btainconstituentupport.Netoilimporterslsotypicallyffer ewer ubsidies n domesticnergyconsumption.ince hey o nothave xternalil rentsocover or hese ub-sidies, heywouldhave o financehemwithross-subsidies,theraxes, rinflation.naddition,etmportersacing iscal eficitsrtheneedforargeinvestmentsnoil aretypically orewillingoprivatizeheir ational ilcompanies.incenational ilcompanieso not btain xternalentsn thiscase, heyan more asily enerateet osses.Ingeneral, overnmentsith il andgasreservesre na betterositionto ncreasehe overnment'sake nd ontrolf hey avehigheril reservesandhigher rospectivitythats, the ikelihood ffindingil andgas inexploration)ince nternationalilcompanies ouldbe interestedn enter-ing nd tayingnthis ype f ountry;f hey ave he inancialesourcesofinanceheneeded il investment,asedonhigh il revenues r accesstointernationalinancial arketswhereasnternationalilcompaniesrenec-essarywhen overnmentsre n direneed ffinancialesources);f heyreat the nd of anassetdeploymentycleor a successfulnvestmenteriod,when hereresignificantunk ssets nd ittle ew nvestmentsrequired;and f he rice foil andgas nthe nternationalarketsquitehigh.Themanagersf henational ilcompaniesmayhavedifferentncentivesfromheirovernments.or xample, heyypicallyreferokeep esourcesin thecompany,atherhan aytaxes.Themanagers'ncentivesargelydepend n the nstitutionalndgovernancetructureegulatinghenationaloil company. orexample,f thecompanys highly oliticized,tcouldbecome clientelisticehicle f the uling arty,nwhich ents ndquasi-rents reused ooveremployndoverpay artyupporters.Thepoliticalosts, or he overnment,f xpropriatingevenuesromhenational ilcompany illdepend n how utonomousnd nstitutionalizedthe ompanys and howdiscretionalhefiscal egimes. If theministryffinancer the xecutive ffice andiscretionallyecide hegovernment'stake noil revenuesrfullyontrolhenational ilcompany'sudget,henthe osts fexpropriationre ow. ngeneral,xtractingevenues rom henational ilcompanystypicallyesscostlyhan xtractingevenues romprivateompany.hecasesofPetroecuador,EMEX, ndPDVSAtodayreclear xamples. owever,ystematicxpropriationasbeen voidedncasesoffinanciallyutonomousational il companies,uchas PDVSA inthe1990sand Brazil's Petrobras. nemechanismo reduce he ikelihood fexpropriationf a nationalilcompanys the ntroductionfprivatehare-


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80 ECONOMIA, all 008holders nd the isting f thecompany n the tockmarket,s in thecase ofPetrobras ndNorway'sStatoil.The internationalil companies retheother eyplayerntheoil businessinLatin America.Onlya few,relativelymalldomestic il companies per-ate in theregion.41he internationalil companiesmaximizeglobal profits,typicallywith ongerhorizons han hoseof thedeveloping ountries'gov-ernments.heyprovide apital,know-how,echnology,nd human apital nexchangefor oil profits.n the era of the so-called seven sisters artelofmultinational il companies,theywere able to coordinate o impose highcosts on reneginggovernments. heir capacityfor external nforcementdiminished reatly, owever, fterherise of the ndependentil companiesand the ncrease n thesovereigntyfmanydeveloping il-producingreasinthe1960s.Theensuingnationalizationsf the1970sdramaticallyhangedthe tructuref theoil market,making henational il companiesofexport-ingcountries erypowerful layers.The atinmericanil ndGas ectorLatin American ountries iffernmany f theendowmentnd institutionaldimensions hat hape thegovernments'ncentives.Accordingly,heir ilsectorshavefollowedrelatively ifferentrajectories.till,theevolution ftheoil sector ntheregiondoes display ome common rends.n particular,the nstitutionalrameworkf theoil andgas sectorhasundergonextensivechangesover thepasttwo decadesthroughoutheregion.The countriesntheregionvarydramaticallyn terms f their il reserves(see table3). Venezuela's reserves rebyfar he argest nd have beengrow-ing nthe ast two decades.Mexico has the econd-largesteserves, uttheyhave been reviseddownsignificantlyver theperiod.42razilhas thethird-largest eserves,whichhavebeen ncreasing.Whilethey till renot hat ig-nificant elative o thecountry's onsumptionnd population, eryrecentdiscoveries romise o make Brazil a futurexporter. cuadorranksfourth,with ncreasing eserves,which re significantoth nper capitaterms ndrelative o domestic onsumption.

41. Argentina as had the more relevant omesticprivate ompanies.The largest, erezCompanc,was bought yPetrobras.42. PEMEX reserveswere reducedafter hecompanywas auditedaccording o the U.S.Securities nd ExchangeCommission's (SEC) rules.The reservecertification as requiredbecause of theMexicangovernment's se of theoil receivablesfrom EMEX exports s debtcollateral.


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Osmel anzanondFranciscoonaldi 81TABLE 3. ProvenonventionalilReservesBillionsf arrels

Country 1986 1996 2006Argentina 2.2 2.6 2.0Bolivia 0.0 0.0 0.0Brazil 2.4 6.7 12.2Colombia 1.7 2.8 1.5Ecuador 1.2 3.5 4.7Mexico 54.9 48.5 12.9Peru 0.5 0.8 1.1Venezuela 55.5 72.6 80.0Total 118.4 137.5 114.4

Source:P tatisticaleviewfWorldnergy007.

Table4 presentshe egion's aturalasreserves. enezuela anks irst,but 0percentf tsgas s associated ith ilproduction,hich sgenerallyusedfor einjectiono ncrease ilproduction.oliviahasthe econd-largestgasreserves,hich renot ssociated ith ilproductionnd hus re vail-able toexport. rgentinandMexico renextnnaturalasreserves,hileBrazil ndPeru avemademportantecent iscoveries.herest f he oun-triesnthe egion, ith he xceptionfGuatemala,avenegligibleevels foil andgasreserves.Venezuela nd Mexicoare the argest etoil exporterssee figure ).Ecuador snext,withncreasingxportsf around00,000 arrels day. nper apita erms, owever,cuador's ilexportsre he econdargestntheregion,ehind enezuela's. olombiandArgentinaavebecome elevantTABLE 4. Provenaturalas eservesTrillionsf ubic eters

Country 1986 1996 2006Argentina 0.7 0.6 0.4Bolivia 0.1 0.1 0.7Brazil 0.1 0.2 0.4Colombia 0.1 0.2 0.1Ecuador 0.0 0.0 0.0Mexico 2.2 1.8 0.4Peru 0.0 0.2 0.3Venezuela 2.6 4.1 4.3Total 5.8 7.2 6.6

Source:P tatisticaleviewfWorldnergy007.


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82 ECONOMIA, all 008

Thousandsfbarrelsday3,5001 1

Argentina Brazil3'MO Colombia Ecuador ^^^VMexico - -Peru ^s^ ^^^"^^2'500 1- Venezuela ^^' ^ ^V ^-^^2,000 /* ^^^ -*.1,000500 _ mi ..-"... --- ,

-500 ^~~ '*-1,000 ~~ "-1,500

Source: P tatisticaleviewfWorldnergy007.a. Positivealuesndicateetxports;egativealuesndicateetmports.

FIGURE1. Oil: et xportersndNetmporters'

net xportersn he ast wo ecades,ut roductionasdeclinednboth oun-tries ver he astfewyears. razil ndPeruhavebeennetmportersf oil.Brazilhasbeen bletosignificantlyecreasetsdependencen mportedilandbecomeelf-sufficient,hile eru asnot admuch uccessn ncreasingproduction.ArgentinandBolivia re he egion'smain aturalasnet xportersseefigure). Venezuela asenormouseserves,ut tconsumeshe asdomes-tically,mainlys an input or il extraction.ther ountries,nparticularBrazil ndMexico, renetmportersfnaturalas.Institutionalariableslsodisplayignificantariationn the egion,orexample,nthedegree f state ndprivatearticipationnoil andgas pro-duction. t one extremesMexico,where il productionas been statemonopolyor eventy ears nd where hegovernmentasonlyrecentlybegun timidpeningo theprivateector.Next omeBrazil,Colombia,Ecuador,ndVenezuela,which re all characterizedya dominanttate-owned ompany.nBrazil, etrobras aspartly rivatized,ndthemajor-


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OsmelManzanond Francisco onaldi 83FIGURE 2. Natural as:Net xportersndNetmporters'Billionsfcubic eters15 10 ^s

-5 '%.... 1 sArgentina Bolivia Brazil ' />

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84 ECONOMIA, all 008likeEcuador,Mexico, andVenezuela,did notprivatize ecause these tatestend o be fiscally ndfinancially ependent ntheir ational il companies(for xample,theyuse thecompaniesas collateralfordebt ssues). In con-trast, rivatization revailed n net importerslike Brazil and Peru) andsmallper capita exporterssuch as Argentina),ome of which had deficit-ridden il companies.Recenttrendsn regulatorynd tax reformlso vary amongcountries.Argentina,olivia,Ecuador, nd Venezuela havereneged n oil contractsndincreased hegovernment'sake n oil andgas private roductionver he astfiveyears. n thesecountries, rivatenvestorswerepartiallyhe victims ftheirown success. The large private nvestmentsn the previousdecaderesultedn ncreased eserves ndproduction.helarge unk nvestmentsndtherecent ncrease n nternationalil andgas prices ogether rovided per-fect pportunityor hegovernmentsorenegotiatehe ontracts.n contrast,Brazil,Colombia,and Peru have strengthenedhecredibilityf their egula-tory rameworknthe ast fewyears ndgenerallymoved nthedirection fpromotingrivate articipation.razil and Peruhave been net mportersagerto obtainmoreoil andgas investment.n Colombia,thedecline nreservesandproductionromised otransformhecountryntoa net mportern thenextdecade ifradical ctions opromotenvestment erenot aken.Oil andgas sector egulationsreframedwithin he arger etof domesticpolitical nstitutions.razil andColombia,whichhavestrengthenedhe nsti-tutional rameworkoverninghe oil sector,haverelatively ood ratingsndifferentubjectivemeasures f nstitutionaltrengthnd ruleof aw that renotbased on the nergyector,uch s those ompiled ytheWorldBank andthe nter-Americanevelopment ank (see figures and4). In contrast,hecountriesnwhich hegovernmentsavechanged herulesof thegamewithrespect o the il tax ndcontractualrameworksenerallylso haverelativelylowratingsn thesemeasures. orexample, country ith he urrentnstitu-tional ndowment fVenezuela wouldhavedifficultyommittingo contractsbased on domestic nstitutionaluarantees.At the sametime,Bolivia had arelatively ood standingnthesemeasures efore ecoming ne ofthe ead-ingresource ationalists. oreover, ontracts ererespectednthe1990sincountriesikeArgentina,cuador, rVenezuela,despite onsiderable nstitu-tionalweaknesses, ndreneged n later, howing hat hetiming frenegingcannotbe attributedust to the relative trengthf domestic nstitutions.Finally, hanges noil taxes nd contractsave been common lsewhere,venin developedand highly nstitutionalizedountries uch as GreatBritain,Canada,and theUnited tates.


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Osmel anzanondFranciscoonaldi 85FIGURE3. Overallolicyndex,005

BrazilHHHHil^HIHHHII^HIHHHH 1MMexicopliHHilHHIIil^HI^HIIHHHHIIÎ 234ColombiaHHIHHH^ÎHHII^HHHHHI 23Pem^^îlHII^^Hi mBolivia^^ 207

ArgentinaHHHII|^HHI^^HII^^|^^HI 185Ecuador^^^ 84VenezuelaH^HI^HIHIIi^Hi^HiH 166Source:nter-Americanevelopmentank2006).

FIGURE4. Rule f awndex,006aBrazil^HBUHHIHHIHHi^^HHHH 414Mexico||^H^H^H|^^|^||^HII^HII^HHi m

Argentina^^||^^H^^H^^^^H^^|^^^^|^^|||^H ^7Colombia^^^^^^^^^^^^^H|^|^^^||||^^H^^| ^^Perul^HIIHIII^HI^HH^^HH62Bolivia^HÎ^^HI^H^H 2o5Ecuadorj^^^l^H^^H 16.2

Venezuela^H 57^ I I I I 1 1 10 5 10 15 20 25 30 35 40 45Source: aufmann,raay,ndMastruzzi2007).a. Thendexrovidespercentileankingf he ountries.


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86 ECONOMIA, all 008CountryasesThis section rieflyresentshe ountryases of theregion'srelevant il andgas producers,nalyzing hepolitical conomy actors hathave affected heinstitutionalnd economic evolution f the sector.We startwiththe mostimportantil producersn theregion nd continuewiththesmaller,morerecent articipants. e end the ectionwith brief omparison f thediffer-entcases inlight f the heoreticalrameworkresentedarlier nthepaper.VenezuelaThe case of Venezuelaexemplifieshedynamics f nvestmentndexpropri-ationcycles.The periodsof contract enegotiationave coincided with heend of successful yclesof investment,nd nationalizations ave occurredduring il boomperiods.The country asgenerally ehavedas a typical ig-nificant etexporterwith hort-termorizons,maximizing hort-termentsandheavily ubsidizing hedomestic il productsmarket.43Venezuela is thesecond-largest roducer nd the argest xportern theregion, nd it has byfar thelargesthydrocarboneserves.44t is also theonly foundingmemberof the Organizationof the PetroleumExportingCountriesOPEC) intheregion.Oil has been Venezuela's main ourceof fis-cal revenuesaround 0 percent) ndexportsabove 80 percent) ordecades.After ecades ofhigh nvestment,he axation f the nternationalil com-panieswas increased ignificantlyn the 1960s and 1970s,and oil conces-sions were not renewed. Oil investmentherefore eclined from 1958 to1976. In contrast, il production apacitycontinued o rise untiltheearly1970s; it thenfellabruptly,ut with significantag. The oil industry aseventually ationalizedn 1976.After ationalization, DVSA, thenationaloil company, ncreased nvestmentsramatically, aking dvantageof theprevailing ighoil prices.The governance fthenational il companywasdesigned ominimize olitical nterferencend rent xtraction.45

43. Domestic subsidies (with respectto the opportunityost of exporting)exceededUS$10 billion n2006.44. If theunconventionalydrocarbonsf theOrinocoBelt are ncluded,Venezuela couldclaim to have the argest rude reserves n theworld,withtotalreserves f over300 billionbarrels.45. Monaldi 2005).


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Osmel anzanondFranciscoonaldi 87Bythe arly 990s,arge ewnvestmentsere eeded o ncreaseroduc-tion. DVSAsignificantlyncreasedapital xpenditures.46tthe ame ime,the overnment'siscal ifficultiesnducedhe peningf he il sector opri-vate peratorssing special ontractualrameworkhat rovidedome red-ibilitygainstovernmenteneging,yusing DVSA and ts oreignssets sa guarantee.heprojectsfferedoprivatenvestorsnvolvedower ent en-eration, ature r abandoned il fieldshigh osts), xtra-heavyrude hatrequiresxpensivepgradinghigh osts),nd xploration.onsequentlyhe

contractsith rivateperatorsenerallyowered hemplicitaxrates.47Privatenvestmenthusncreasedubstantiallynthe ate1990s, aisingproductiony1.2million arrels dayby2005.After998, he overnmentincreasinglyxtracted ore esourcesrom DVSA.Therevolutionaryov-ernmentf PresidentugoChavezhonored heprivateontractsntil ate2004,despite aving hangedhe onstitutionnd he il awto ncreaseov-ernmentontrol ver he il sector. heexternallynforceableontractualframework,he nstitutionalutonomyfPDVSA,andthe act hat ignifi-cant rivateil nvestmentsere eing eployedn1997-2003 rovidedro-tectionor he nvestors'ropertyights.The evolutionf theVenezuelanovernment'sake nthe ector eflectsthe ompositionffect,hats,the elativencreasenprivatelyperated ro-ductionwith lower mplicitax, ombinedwith reliance nroyalties.PDVSA's productioneclinedn 1998-2003,while rivatelyperatedro-ductionncreased ntil 005. The shareofprivate roductionhereforeincreased. oreover,he overnment'sake nprivateectorroductionaslower hantsearningsrom DVSA. Thegovernment'share f total ilrevenuectuallyecreasedven houghhe iscal ake erbarrelncreasednabsolute erms rom 996-98 o1999-2001seetable ).48 s discussedar-lier, ystemsasedonroyalties,hich renot rogressive,end o have hiseffect.In2002-03, he overnment'sttempto liminatehe utonomyfPDVSAresultedn a massive il strikehat ramaticallyiminishedil investments

46. Venezuela's production as limited yOPEC quotas nthe1980s,makingnvestmentsinexplorationndproductionelatively nnecessary.n addition, fter hedebt crisisthegov-ernmentegan discretionallyxtractingevenues rom DVSA. When OPEC eliminateduotasin the ate 1980s,PDVSA was able to ncreaseproduction sing tsspare production apacity.47. Monaldi (2005). For example,theextra-heavyil projectsof the Orinoco Belt had a1.00percent oyaltynd a 34.00 percentncometax,comparedwith he 16.66 percent oyaltyand 67.00 percentncome tax rate harged oPDVSA at the time.48. hrom roundUS$9. to $3>.3perbarrel.


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88 ECONOMIA, all 008andproduction. he governmentired alfof theoil workforcend mostofthemanagement,aking omplete olitical ontrol f the ompany.By2004,theprivate il investmentyclehadconcluded, ndthehigher il pricepro-vided incentives nd opportunitiesorrenegotiatinghe oil contracts. hecontractual rameworkf theoil opening hanged ignificantlyverthenexttwoyears, onsiderably ncreasing hegovernment'sake and control verprivatenvestments.y 2007 thegovernmentadnationalized heoil indus-try, akingmajorityontrol f allprivatelyperated rojectswithoutrovidingmarketompensation.heweakeningf thedomesticnstitutionalrameworkhas resultedn a newcycleofexpropriation.n sum,Venezuela has engagedin contract enegotiationnd expropriationmorethan once. The evidenceseemstosuggest hat heserenegotiationsccurduring eriods f ncreasingrents nd after igh nvestment as been sunk.MexicoThe case of Mexico exemplifiesheuse of thenational il company s a fis-cal, financial,ndpolitical oolin a netexportingountry.ftheregulatoryframeworks notreformed,hecountry illprobably acedeclining roduc-tion nd reservesnthefuture. exico is the argest il producerntheregionand thesecond-largestountryn terms fexports nd reserves.However,reserves eclined ramaticallynthe astdecade. Mexico became a significantoil exporternthe arlypart f the wentiethentury. il was nationalizedn1938, ndMexico then eased tobe a relevant et ilexporterntil he1970s.49Importanteserve dditions n the 1970s allowed a significantncrease nproductionndexports, inanced ythehigh il prices.Theproportionfoilin totalexports about 10 percent n 2004) is notnearly s relevant s inVenezuela 85 percent), cuador 50 percent),reven Colombia 30 percent).This contrastsharplywith he1970s,whenoil exports epresented ore han70 percentf the otal.Nevertheless,il fiscal evenue s stillvery elevant orthe Mexicangovernmentovera third f thetotal).OnlyinVenezuela andEcuador s oil fiscaldependence igher.The Mexican national oil company,PEMEX, does not have financialautonomy rom hegovernment,nd it has generally een used as a clien-

49. The decline nMexico's oil export apacity an largely e attributedogeologicalfac-tors.AlthoughMexicowas initially unished ythe nternationalil companiesfornationaliz-ingthe oil industry,he decline nproductionan be traced o lack ofexploratoryuccess. Inthe1970s,offshoreil discoveries ncreased heMexicanoil reserves, llowingthecountryobecome a net xporter gain Haber,Maurer, ndRazo 2003).


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90 ECONOMIA, all 008EcuadorEcuador as hadone of themost olatile ilpoliciesnthe egion, artlyreflectionf thehighpolitical olatilityn thecountry.he recent rendpointsowardontractenegotiation,igheraxes,nd xpropriation,s wasthe ase with ther et xportershatwere ble to ncreasenvestmentsndproductionnthe1990s.Ecuador s the hird-largestxporternthe egionandhasthe ourth-largestil reserves. ore han thirdf he ountry'sis-cal revenuesnd loseto half f ts xportsavebeengeneratedyoil. Thenational il company,etroecuador,roducesmore han alf he ountry'soil,but n ncreasinghare asbeen xtractedyprivateompanies.LikePEMEX,Petroecuadoras very imited inancialutonomy.hegovernmentollects he il revenuesndgivesPetroecuadorackveryim-itedresourcesor einvestment.hecompany as thereforeadpersistentdifficultiesulfillingts nvestmentlans. ecause f he ompany'sinancialdifficultiesnd he eclinenoilprices, rivatenvestors ere iven rogres-sivelymore ttractiveonditionsn the1990s.Production-sharingontractswere stablishedn1993 ndoint enturesn1999.Thereformsf he 990swere uccessfulnattractingnincreasedlow f nvestments.nthe arly1990s, nnual oreignnvestmentnoil was belowUS$200million; ytheearly 000s thad urpassedS$1billion.55Inthe ase ofEcuador,he volutionfthe overnment'sake n the ec-tor lso reflectshe ompositionffect. etroecuadorasmade ittlenvest-ment nthe astfewyears,nd tsproductionasdeclineds a result.ncontrast,rivateector roductionas been ncreasing,ausinghe hare fprivateroductionn otal roductionorise.As shownn able , hemplicittaxrate nprivate roductions lower han nother ountries.hegovern-ment's hare foil revenues as thus elativelyonstant,espitehe ise noilpricesseetable ).Inthe ast ewyears,egalreformsncreasinghe overnment'sakehavebeen pproved,nd he overnmentenegedn noil contractith ccidentalPetroleum. he 2006 election f President afaelCorra, n a resource-nationalismlatform,romptedurtherncreasesngovernmentontrolndtaxes.As nVenezuela,cuador's uccessnattractingrivatenvestmentnthe1990s, ombined ithhe ecentncreasenthe rice foil,hasprovided

55. Campodnico (2004). In 2003, the national oil company's financialdifficultiesedPresident ucio Guitirrez o decreeadditionalreforms o favorprivate nvestors nd reducethe role of Petroecuador, ut these reformswere neverformally assed by Congress.AfterGutierrezwas removed rom ffice, newcycleof resourcenationalism egan.


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Osmel anzanondFranciscoonaldi 91the incentives nd opportunitieso renegeon the originaldeals.56As inMexico, thegovernance tructuref the nationaloil companyhas inducedexcessiveexpropriationf revenues nd a lack of state nvestmentntheoilsector.ColombiaColombia is a netexporter, ut itsproduction, xports, nd reserveshavebeen declining n the ast fewyears.As a result,Colombia has defiedthetrend f netexportersntheregion, trengtheningheregulatoryramework,providingmore ttractiveonditions orforeignnvestors,ndpartially ri-vatizing he national il company.Oil became a relevant ource ofexportsand fiscal revenues n the ate 1980s and 1990s and currentlyccounts formore than 20 percent f the total fiscal revenues and close to a third fexports. copetrol, henational il company, roduces either irectlyr nassociation more hanhalfof theoil extracted.As inmost ountriesn theregion, onditions or rivatenvestments ereimprovedn the1990s. In 1999,a system f variableroyaltiesmadeprivateinvestmentn marginalfields more attractive. he addition of new oilreserveswas notvery uccessful, owever, espite he ttractionf newpri-vate nvestments.ince 2005, the Colombiangovernmentas implementedsome additional eformso nducemore nvestment.hesereformsre aimedat mprovingegulatoryredibility,roviding moreflexible axregime, ndmaking copetrolmore ccountable ndfinanciallyutonomous.57In contrast o Bolivia, Ecuador,andVenezuela, the nvestmentycle ofthe1990s did notgenerate ither n increase nproductionnd reserves rthesubsequentncentives orexpropriation.olombia could become a netimporternthe nextdecade ifthe new reformsail to significantlyncreaseinvestmentnd the uccessful ddition f reserves.ArgentinaArgentina's uccess inobtainingnvestmentn the1990s created he condi-tions forcontract enegotiation ollowing hedramatic conomic crisis of2002. Argentina as thefifth-largestroven il reservesn theregion, ut he

56. Moreover, hepolitical nstabilityhathas plaguedthecountry as generated n envi-ronment fsignificantegal uncertainty.57. One keyreform as thecreation f an independentegulatorygencytosupervise heoil andgas sector.Another ecent eform as thepartial rivatizationfEcopetrol n ate 2006.


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92 ECONOMIA, all 008country as barely elf-sufficientntil he1990s. It implementedne of themost radicalprivatization,iberalization,nd openingprograms tartingn1989, nd twasvery uccessful nattractingoreignnvestmentnoil andgasandsignificantlyncreasing roduction. oreign nvestmentsntheoil sectorexceededUS$27 billion n 1992-2002,accounting ormore han35 percentoftotalforeignnvestmentn thecountry. s a result, hecountryecame anet xporterfboth il and natural as.58Afterheeconomic risis xploded n2002, thegovernmentmplementedsomeemergency easures,ncluding newoilexportaxof20percentnd theregulationfdomestic rices. he successofthe iberalizationfthe1990sandthefact hat he ountryecame net xporterave allowedthe urrentdmin-istrationosignificantlyorsen he onditions or oreignnvestors.BrazilBrazil is an exampleof a net mporteruccessfully ecoming elf-sufficient.The nstitutionalrameworkasprovided redibilityo nvestorsndpreventedthe xpropriationfthenational ilcompany. espitebeing he egion's hird-largest roducer,razil has until ecentlyeen a net mporterf oil. It hassuc-cessfully educed ts mport ependence ver the ast decade. The oil sectorwasopened oprivatenvestmentn1995-97,eliminatinghe onstitutionallysanctionedmonopoly fthenational il company, etrobras. o provide eg-ulatoryredibilityoprivatenvestors,n independentegulatorygencywascreated o oversee heoil sector.n addition, etrobras as beenpartially ri-vatized.Althoughhe tatemaintains ontrol fvoting hares, hemajorityfthe ompany's apital s now nprivate ands.The institutionalutonomyndaccountabilityf Petrobrasontributedoa dramaticncrease n its levels of investmentnd production, irectly,njointventureswith nternationalil companies, ndthrough rojectfinancemechanisms. etrobras' investmentxceededUS$46 billion n 1992-2002.The country as also held five uctions foil areas forprivatenvestment.59

58. The oil sector eforms erepart fthe market-orientedeformsftheMenem admin-istration. he taxand contractual egimeforprivatenvestmentnoil became the most iberalintheregion, nd domestic ilproduct riceswerederegulated. PF, thedeficit-riddenationaloil company,was privatizedn 1993. YPF was highlynefficientnd not net xporter,nlikePEMEX and Petroecuador,which made it a propitious arget orprivatization. he SpanishcompanyRepsol eventuallyobtainedmajority ontrol of YPF. After he 2002 crisis,theBrazilian oil company, etrobras, ought erezCompanc,a privateArgentine il company.59. The country as been ess successfulnattractingnterestntherecent uctions han ntheprojects npartnership ithPetrobras.


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Osmel anzanondFranciscoonaldi 93As a result, razilhas significantlyeduced tsdependence nforeignil andgas,and it has becomenearly elf-sufficient.Thereform f Petrobras nd theBrazilianoil sector ontrastsharplywiththe ack of reformn PEMEX and Petroecuador nd thepoliticization fPDVSA, the net oil exportershat ival the Brazilian oil company.The factthat raziland Petrobras re net mportersasprovidedncentives o ncreaseoil investmentsnorder o reduce mport ependencynd tomaintain omes-ticprices loser o nternationalrices comparedwith henet xportersntheregion).The recentargediscoveries f offshore ilreserves romise o makeBrazila net xporternthefuture,ossibly hanging hepolitical conomy fthe ector.BoliviaBolivia representsheprototypicalase of a countryhathas succeeded inattractingnvestmentsndincreasing roductionndreserves f natural as,under nonprogressiveax frameworkesigned na periodof owcommod-ityprices.As a result, hegovernmentadpowerfulncentives or ontractrenegotiationnd nationalizationfter he nternationalriceofgas roseandlarge nvestmentsngas infrastructureere sunk.Bolivia has no relevant il reserves nd a very mall oil production.n thelastdecade, however,tbecamethe argestnetexporterf natural as,withthe econd-largestroven eservesntheregion. n 1996-97 thegovernmentimplementedn innovative rocessforprivatizinghenational il company,YPFB, inwhich tcapitalized hecountry's ensionfunds nd attractedri-vate nternationalil companies ntonatural as explorationndproductionby making hetax and contractual rameworkmoreattractive. s a result,Bolivia was extremelyuccessful n increasing oreignnvestment,roduc-tion, xports,ndreservesnthenatural as sector. oreign irect nvestment(FDI) in hydrocarbonseachedUS$2.5 billion n 1993-2002, representing40 percentf totalFDI inthe ountry.60rovennatural as reservesncreasedsevenfold ndnetexports ourfold.The sourceof theBoliviangovernment'sake hanged n 1999. Before hecountryeganexporting atural as toBrazil,a largeproportionf thegov-ernment' takeoriginatednthedomesticmarket.As a result,ocal politicalpressuresmposedlittle djustment n the dollarvalue of domestictaxes.Nevertheless,mostrevenueshave come from as exports ince 1999.

60. Campodnico 2004).


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94 ECONOMIA, all 008The Bolivian systemhad some provisions hatreduced tsprogressive-ness. Forexample,windfall axeswere etat thedividendevel,so firmsen-erally hose to borrow rom heir arent ompanies, nd revenueswere sentbackthroughhat hannel.The system lso had provisions hat llowed fortherecovery fcapitalexpenditures. onsequently,whenpricesrose,firmsdeducted hese xpendituresntheir ax returns.The recent ncrease n internationalrices ndtheexistence fhigh unkinvestments rovided ncentives nd opportunities,irst or a significantincrease nthegovernment'sake, nd ater or heoutrightationalizationfthenatural as industry.heroyalty as increased rom 8 to 50 percent,ndthegovernmentainedmajorityontrol f all oil andgas projects.Again,asinthe ase ofArgentina,cuador, ndVenezuela,foreignnvestors ave beenthevictims f their wn successby generatingn increasingtream fexportrevenues hat nthe short erm s not affected yan increase ngovernmentrevenue xtraction.

PeruPeruhassignificantlyncreased tsoil investmentnthe astdecade,but t hashad little uccess in expanding il production,urtheringts status s a netimporter.f all theoil-producingountriesn theregion, eru has gonethefarthestnprivatizationnd liberalization.thas also beenone of thecoun-tries, long withBrazil and Colombia, thathas done the most to increaseregulatory redibility y establishing ontractswith table tax conditions.However, hediscoveryf the argeCamisea natural as field asopenednewprospects orpotential xports.As a result,here ave been recent nnounce-ments f ncreasinghegovernment'sakeon thisproject.Arehe ase tudiesonsistentithhe heory?Inthis ection,webrieflyompare hedifferentases presentedbovein ightof the heoretical rameworkescribed arliernthepaper.All the ases dis-play ssuesregardingaxation nd thepolitical conomy f the ector.As wepointed ut nthe ntroduction,e do notattemptopropose n optimal axand contractual ramework.n fact, ne of the mainfindingsf thepaper sthat hecountries aveparticularssues that equire rameworks ithdiffer-ent haracteristics.The case of Venezuela combinesboth ssues:thepolitical conomyprob-lems of the ector nd the axation ssues. With egard o the atter,ax breaksweregivenprecisely o the areas where he deadweightosseswere owest,


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Osmel anzanondFranciscoonaldi 95skewinghe iscal ontributionoward ields ithmallerentsnd ower is-cal contribution.dditionally,he ystem asnot rogressive.nce ilpricesincreased,hemarginalaxratewasequalto or ower han he verage ate,and here ere imitedontractualrovisionsorncreasinghe overnment'stake.However,Venezuelahas also had the ngredientsor pportunisticexpropriation.herewas a nationalilcompanyhat ad ashflow roblemsas a result fgovernmentressureo ncreaseiscal ontributionsnthe on-text f ow oilprices. egulatoryhangesweremade o attractnternationaloilcompanieso the ountryodevelop ewoilproductionn ointventureswith he ationalilcompany.nce he nvestmentas lreadyunk,he ov-ernmentorcedhe enegotiationf he ontractso ncreasehe overnment'stake. t alsoforcefullycquired controllingtakentheointventures.t sdifficultosaywhethermore rogressivend efficientaxregimewouldhavepreventedhe orcedegulatoryhanges.t s hard o determinehichfactor as more mportant:heregressiveaxsystemr the ncentivesoexpropriate.Mexico s a net xportingountryhat as used henational ilcompanyas a fiscal, inancial,ndpoliticalool.Thegovernmentas nothadenoughincentivesochange he egulatoryrameworkefore major risis its hecountry,uch s anexternalhock rthe rospectf he ountry'secominga netmporter.he atterlreadyouldbe the ase. Oilproductions declin-ing nd onsumptionsgrowing,ncreasinghe robabilityhatMexicowillbecome netmporter.n this ontext,he urrentovernmentas ntroducedlegislationo allow ome ormfprivatearticipationnthe ector.Argentina,olivia, ndEcuador eem o be closer o the ypicalase ofpoliticalxpropriationycles. he threeountriesad ome xperiencero-ducingnd xportingydrocarbons,ut heyacked he esourceso nvestnthe ector sa result f he ebt rises nd he tructuraldjustmentrograms.Thisproblem asmore videntn the ase ofBolivia ndEcuador ecauseboth ountrieseeded nvestmentodevelop ot nly eserves,ut lso thenecessaryransportationnfrastructure.onsequently,mportantegulatorychangesweremade o attractnternationalilcompanieso the ountry,ndBolivia ndArgentinaully rivatizedheir ational il companies. ever-theless,nce he nvestmentseremade, he overnmentshangedevenue-sharingules ndrenegedn contractsincluding,n the ase ofArgentina,contractsn the rice fdomesticupply. lthoughhere ere lsoproblemsin hat he ontractsere ot rogressivenBolivia ndEcuador,t eems hatthe egulatoryhangesweremostly resultf the ncentivesoexpropriate.Furthermore,othArgentinandBolivia reated ewnationalilcompanies.


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96 ECONOMIA, all 008Brazil,Colombia,and Peruare clear cases of countries hat itherwereorarebecomingnet mporters.hese countriesmplementedeforms o attractinternationalil companies, ndthey rivatized heir ational il companiesoropenedthe sector oprivate apital. n addition o improvinghegeneralcredibilityfproperty ights,he three ountries stablished new institu-tionalarrangementor he sector imed at attractingew investments. heissue of taxationhas been discussedin thesenations n lightof the recentincrease n oil prices,but t seems that he renewed mportancefproperty

rights,s well as thepressure ogeneratemore oil production, as thusfarallowed the countries o upholdstablerevenue-sharingules. The govern-mentshave only engaged n either eforms hat llow forprice-contingentroyalties, utapplyonlyto newprojects;or voluntary enegotiations ithprivatenvestors.n thecase ofBrazil,the new oil discoveries ouldrepre-sent a challenge formaintaining he credible regulatory ramework,sincentives or xpropriationise n thefuture. imilarly, enegotiation res-surescouldeventuallyncrease nthe case of the Camisea natural as fieldinPeru.

ConcludingemarksThispaperhas discussed ome of themainfactors hat elpexplain herecentwave ofnationalizationsnd taxhikes ntheLatinAmerican ydrocarbonec-tor.A keyforcebehindthese trends s the distributiveonflicts hat risebetween hegovernmentsnd theproducing irms. hese conflictsccur, o alargeextent, ecause the taxsystems sed in theregionhave nottaken ntoaccount undamentalontingencies inparticular,rice hanges.As a result,theproducersetain nincreasinghare f oil rentswhen ilprices ise ignif-icantly. his generates owerfulncentives orgovernmentso renegotiate,renege ncontracts,r nationalize he ector.The optimalcontract roperly hould includepricecontingencies. hepolicymakermayconsider ax and royalty ates thatvary according o theprice,but mplementinguch a scheme s noteasy. On the one hand,taxesbased on net evenues likethe ncome ax willgeneratencentives o over-spendor overinvest. urthermore,n incometax couldgenerate reater is-tortionshan royaltyince he axratemust ehigher or nexpected mountofrevenue.On theotherhand, axes based on sales like theroyalty willgive incentives o shift roductiono other eriods.There are fewerdistor-tions, owever, ecauseroyaltyateswould be lower.


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Osmel anzanondFranciscoonaldi 97These ncentiveroblemsrecompoundedy agency roblems,hats,firmsot evealingheirrue osts nd nvestmenteeds. or he iscalystemtowork,he ontractshouldncorporateotonlyprice ontingencies,utalso a tax structureustomized or achfield nd costregulations.heseincentiveroblemsre, o ome xtent,he ource f he eluctancenthe artof he overnmentsn the egiono mplementrogressiveaxframeworks.61Theserequirementsightmplyn administrativeapacityhatmost fthecountriesn he egionack. implerystems,uch s those ased n royalty,

are hus referredormplementationeasons,ven houghheyncrease heprobabilityffutureenegotiation.Analternativeothe gency roblems for he tate ocontrolll or sig-nificantart f he ountry'silproduction.owever,he ectorequiresig-nificantesourceshatmaynot e availablen a contextffiscal mbalances.At the ametime, he raditionalgency roblemsmay risebetween hestate ndthebureaucracyncharge fmanaginghenational il company.Moreover,tate-ownednterprisesave ypicallyeen asy argetsor uasi-rent xpropriation,ia regulatorynd taxappropriation,rices et belowopportunityost nthe omestic arkets,nd he lientelisticoliticalseofoverpaidndoversized ureaucracies.Anotherssuewithmplicationsor oth ationalnd nternationalil com-paniessthe roblemfcredible ommitmentnthe ace fpowerfulncen-t

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