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Argentina’s Shale Boom In Jeopardy

Nick Cunningham

Argentina’s state-owned oil company, YPF, has vowed to continue its plans for both shale development and for LNG exports, but it may find it difficult to outrun the political and economic crisis engulfing the country.

After the August 11 primary, in which President Mauricio Macri performed dramatically worse than expected, Argentina’s currency collapsed by more than 20 percent, immediately plunging the country into crisis. Investors grew concerned that the return of the Peronists would mean a return to a variety of measures that free-market proponents abhor, such as capital controls, price controls, deficits and heightened odds of a debt default.

While President Macri is viewed as an ally of international business, his agenda has largely come up short, and he looks set to close the door on his time in power by presiding over Argentina’s latest financial crisis.

In fact, with Macri, investors are already stuck with precisely what they had feared from the Peronists. Austerity was prescribed by the IMF, which led to a recession and higher inflation. As the situation deteriorated, Macri had to pull back on the economic medicine, re-implementing some utility subsidies earlier this year amid soaring inflation and a buckling economy.  

In the wake of an overwhelming defeat in the primary, President Macri quickly unveiled a stimulus package of sorts, which included wage increases and price freezes for fuel.

On August 28, the government decided to extend the maturities on its debt, a move that S&P said amounted to a “selective default.” On September 1, Macri imposed currency controls to prevent capital flight and the further deterioration of the peso.

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The raison d’être of Macri’s presidency has been the removal of government interventions in the economy, so it is ironic that he finds himself falling back on such strategies to head off defeat in next month’s general election. Given the margin of his loss in the primary, however, it is likely too little too late for him.

Meanwhile, the broader fallout from the country’s predicament will also be felt in the Vaca Muerta, the vast shale basin that has received glowing coverage from both the domestic and international press. Production of oil and gas has been inching up this year, and Argentina even managed to export some LNG for the first time, with the promise of much more to come. Developing the Vaca Muerta has become a prized objective across the political spectrum, including from the Peronists. It is viewed as a national economic development project – one that can reverse an energy deficit, provide much needed foreign exchange and revive economic growth.

But there is no shortage of problems standing in the way of the Vaca Muerta. Costs are higher than elsewhere and infrastructure is inadequate. Such obstacles were always going to make it tricky to realize the lofty goals of development that the government has laid out.

Now, however, the political and economic crisis adds several more layers of complexity.

Immediately after his horrific performance in the primary, President Macri imposed a three-month freeze on crude and retail fuel prices in an effort to tamp down inflation and shield the Argentine populace from the deteriorating economy. Producers are not immediately affected by a fluctuating currency because prices rise and fall in tandem, but Macri’s price controls now prevent such an adjustment from taking place.

The price controls directly hit the oil industry. Domestic oil prices traded at a discount to Brent of around $7 to $8 per barrel prior to the primary, but the collapse of the currency and the price controls mean that producers were fetching prices in the range of $15 to $20 per barrel below Brent by late August, according to S&P Global Platts. YPF said that it would cut spending by $100 to $120 million per month because of the negative impact from the price controls. In response to pleas from the oil industry, President Macri slightly eased the price freeze, exempting the wholesale market.

The blowback from the political and economic chaos on the Vaca Muerta is visible elsewhere. A major long-distance pipeline tender originally scheduled for September, which would carry Vaca Muerta gas from Neuquén to the greater Buenos Aires region, was shelved in the wake of the crisis. The pipeline is precisely the type of infrastructure that is critical to further growth of the Vaca Muerta.

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In the short run, many of the companies operating in the Vaca Muerta may put their expansion plans on hold, Carlos Germano, a political analyst at Germano y Asociados, told S&P Global Platts in August. But beyond the general election, the landscape does not necessarily improve, despite avowed support from the Peronists for Vaca Muerta. The fate of currency and price controls is unclear, as is the debt profile of the country.

Executives at YPF put on a brave face, hoping to reassure investors about the future of the industry. YPF is pressing forward with $5 billion plans to expand LNG export capacity. “We can’t put the cart before the horse by distracting ourselves with current events,” Marcos Browne, YPF’s executive vice president for natural gas and power, told Bloomberg. “This is the direction we need to move in.”

YPF said that even with the end of the Macri administration, the Vaca Muerta and the LNG export prospects will remain a government priority. “The LNG terminal will be a machine for bringing in dollars,” Sebastian Mocorrea, YPF’s executive vice president for corporate affairs, told Bloomberg. “Nobody in their right mind would meddle with it.”

Yet, the fallout is evident already. Vista Oil & Gas, an upstart shale company that staged an IPO in New York and Mexico less than two months ago, saw its share price fall by more than half in the weeks after the primary vote. YPF’s share price also fell by half in less than a month and recently plunged to an all-time low. That’s a remarkable development – its stock is now lower than it was during the 2001 debt default (then the largest in history), the global financial crisis in 2008, and even during the partial nationalization in 2012.

Needless to say, the Vaca Muerta dreams are starting to look shaky.

By Nick Cunningham of Oilprice.com

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