0.15 Natural capital: energy  (Page 15/15)

The companies (Exxon, Chevron etc.) strongly prefer to have at least some title, some property rights to any oil (or gas) that may be found.

But, this has been a very unpopular position in many emerging nations especially in Mexico, Brazil and most of Latin America. These countries have been very wary of opening up their hydrocarbon sectors to foreigners. However, this situation is changing in Mexico, which is expected to allow foreign involvement in oil as early as 2016

These conflicting objectives require arrangements that might be seen as a compromise.

One possibility, now widely used, is the Production Sharing Contracts of the type pioneered in Indonesia 50 years ago and which have worked fairly well ever since.

The basic form of production sharing is quite simple:

Under production sharing:

1. The host government takes a fixed percentage (sometimes variable) of oil produced under the contract. This can be as low as 60% and as high as 85%, depending upon many factors.
   And
2. Governments allow the foreign contactor to take a fixed percentage of the oil produced.
   And
   The host government also imposes income tax on the net income of the company operating in the host country. This rate is almost never less than 50%.

The foreign oil firms accept these arrangements, because they

1. Provide some certainty for contract provisions
2. Allow the foreign firm to time sales of their share of oil, so as to get the best pricesand, most importantly
3. The firm gets to deduct all exploration and development costs in determining net income for the income tax they must pay. So the firm covers the very heavy costs involved.

Production sharing contracts can be fine-tuned to get secure about any return the government as host wants, utilizing alternative combinations of the production share split, royalty payments or income tax rates to get for the host nation 70% of the value of oil, 80%, or 85%. Companies can bid for the rights to exploit. A host government can however go too far in setting terms for production sharing.

An example is the 2013 bidding for rights to exploit Brazil’s apparently rich pre-salt deposits.

These are super deepwater deposits under salt formations that can be quite tricky. One project involves billions of dollars in cost.

In the 2013 round of bidding, the terms were so unattractive that only on bid was received, and that involving a consortium of Chinese, American and Latin American firms.

Thus, production sharing in no panacea, but no one has yet found a better way to set contract terms on a basis that allows countries and oil firms to reach mutually satisfying agreements on oil exploration and development.

Hydropower?

One needs to be very careful about undertaking large-scale hydropower projects, anywhere. The main attraction is that Hydropower can be very cheap – as low as 7 cents per kilowatt in Quebec. Costs of hydro almost everywhere can be lower than gas, coal oil, nuclear, solar, or wind.

But, there is a need to consider all costs of hydro projects.

Consider the three gorges dam in China. Rising waters in reservoirs created by the dams has displaced millions of people. These costs were not counted as a cost of the project. Elsewhere, in Malaysia and Brazil costs of relocating families from reservoir areas have been large. Even so, hydo always should be considered where there are plentiful rivers and highlands.

Consider the huge river systems of tropical Africa, especially in Zambezi, Volta, Congo, Egypt, and Sudan. There is enough hydro potential there to light up 2/3 of Africa. But many new potential African hydropower projects tend to be infeasible because they are located well away from population centers. Losses in transportation of power over long distance, losses due to buildup of resistance can be as high as 11-13%.

Another region with substantial hydropower potential is that encompassing Nepal, Bhutan and North India. Rivers fed with Himalayan glacial melt in Nepal could furnish about 400 gigawatts (GW) of very clean electric power, or a sixth of installed power capacity in India. Morever, the total hydropower potential of Nepal, India, Bhutan and Pakistan approaches 120 GW. This would be the rough equivalent of 240 500 megawatt coal fired electric power plants – a very sizeable increase in energy availabilities involving near zero carbon emission. See the Economist, “Water in the Hills”, November 29, 2014.

Natural resource markets: volatility

The international market of oil has proven to be quite volatile. There have been bubbles (in 2012) and “busts” (2014) (see Figure 17-5 ). This high degree of volatility has notable consequences for all emerging nations, both oil exporting countries and those that must import their energy requirements. Volatility in energy markets will complicate emerging nation’s ability to maintain stable economic growth and avoid ruinous inflation.

For oil importing emerging nations managing deficits in trade and in the public budget management of both will become much more “taxing.” Why? Because, energy is such a large percentage of imports and government expenditure everywhere (except for oil exporters).

But oil exporters are vulnerable to volatility as well. For all emerging nations, large price swings in energy past and present greatly complicate efforts to control domestic inflation both in upswings in oil price cycles and downswings, as well. And we will see in Chapter___, this volatility will also make it more difficult to operate effective exchange rate policies. In sum, central bankers all over the world, but especially in nearby oil dependent Nigeria, Venezuela, Russia and Ecuador, will have a much tougher job in maintaining price stability in the 21 ^st century than in the 20 ^th , owing to this volatility.