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Brazilian oil industry showing resilience to coronavirus pandemic despite fall in investment

Brazil’s petroleum industry is crucial to its economy and economic recovery. Oil and natural gas production is responsible for around a seventh of GDP

By Matthew Smith for Oilprice.com – Before the outbreak of COVID-19 and the oil price war between Saudi Arabia and Russia, an oil boom of monumental proportions was underway in Brazil, Latin America’s largest economy. Economists and industry analysts as far back as 2018 were speculating that it would be the largest in Latin America’s history. There were even signs that Brazil’s burgeoning oil production could challenge OPEC’s wanning supremacy.

A unique combination of Brazil’s vast petroleum reserves totaling almost 13 billion barrels, comprised of sought-after light sweet crude, and impressively low breakeven costs made it inevitable. In 2019, for the first time ever, Latin America’s largest oil producer pumped just over one billion barrels of oil. That, coupled with the latest oil discoveries in Brazil’s vast pre-salt offshore fields, spurred hopes of a renewed oil led economic boom. Many Brazilians hoped this would restart a stalled economy which up until 2011 had been registering impressive growth rates. By 2015, however, the economy had descended into its deepest slump since the 1980s with GDP contracting by 3.5%. That worrying development was a direct result of the expansive carwash corruption scandal, which ultimately destroyed President Dilma Rousseff’s presidency and ex president Lula's chance of trying again to be elected.

Brazil’s petroleum industry is crucial to its economy and a broad economic recovery. Oil and natural gas production is responsible for around a seventh of gross domestic product and just over a tenth of Brazil’s exports by value. The latest oil price crash, which began in March of this year, forced energy companies to rein in spending, cut costs and shutter uneconomic operations.

It is upstream oil exploration and production which has been hardest hit and couldn’t come at a worse time. Even before the March 2020 oil price crash, big oil appeared to have lost interest in the Latin American country’s vast oil potential. Global oil majors snubbed two of Brazil’s energy auctions held toward the end of 2019 with most blocks not receiving bids. This is despite their earlier enthusiasm in 2018 when they were eagerly snapping up blocks in the Campos Basin and other pre-salt fields. That earlier exuberance is because of the low breakeven prices of US$ 35 to US$ 45 Brent for pre-salt projects.

The declining appeal of investing in Brazil’s oil industry can be ascribed to state-controlled Petrobras’ first-right mandate for pre-salt projects and issues with production-sharing contracts and bonus pricing. That waning appeal, particularly regarding the prolific pre-salt reservoirs, is accelerating because of COVID-19 and the latest oil price crash.

Around the globe oil companies are slashing spending, notably for exploration and non-essential development activities, and shuttering uneconomic operations because of sharply weaker oil prices. This will cause investment in Brazil’s economically crucial oil industry to decline, impacting production volumes, exploration and ultimately crucial reserves growth.

According to the United Nations, softer demand for commodities, notably oil, and reduced global growth will cause 2020 foreign investment in Latin America to halve to around US$ 80 billion. It is Peru, Colombia and Brazil, which are highly dependent on substantial foreign investment in their all-important extractive industries to drive economic growth, that will be among the most severely impacted.

Investment in Brazil’s oil industry has been declining since late 2019 despite booming oil production and exports. That deterioration will accelerate because of the latest oil price crash and ongoing coronavirus pandemic. This is being amplified by the rapid spread of COVID-19 in Brazil. Last Friday, Brazil’s oil industry regulator the Brazilian National Agency of Petroleum, Natural Gas and Biofuels (ANP Portuguese acronym) confirmed that there were 1,427 coronavirus cases among offshore oil workers.

While it is difficult to identify a single number, investment in Brazil’s economically crucial petroleum industry will fall. State-controlled Petrobras, which is responsible for around 94% of Brazil’s petroleum production, slashed budgeted 2020 capital expenditure by US$ 3.5 billion and mothballed 62 shallow-water oil platforms. Earlier this year, Petrobras announced it was planning to curtail its planned 2020 oil production by 200,000 barrels daily, but later reversed that decision on strong demand from China.

Falling investment, primarily from foreign oil majors in Brazil’s petroleum industry will impact oil exploration and production. Brazil’s hydrocarbon output fell sharply during May 2020. Petroleum production of almost 2.8 million barrels was 6.5% lower than April, but surprisingly 1.3% greater than a year earlier. That was also only marginally lower than forecast 2020 daily average oil production of 2.88 million barrels. This coupled with Petrobras, which is responsible for roughly 75% of Brazil’s oil production, exporting a record 1 million barrels of crude daily in April 2020, indicates the impact on Brazil’s oil industry may not be as severe as initially believed. That will help to blunt the impact of the COVID-19 pandemic on Brazil’s fragile economy.

President Jair Bolsonaro's chaotic management of the pandemic, which analysts argue is responsible for Brazil becoming the second-worst affected country globally, saw the IMF predict that Latin America’s largest economy will suffer its worst economic downturn of modern times. The IMF believes Brazil’s 2020 GDP will shrink by 9.1%, which if Venezuela is excluded, is the fourth largest forecast decline in Latin America. If it weren’t for the resilience of Brazil’s crucial hydrocarbon sector, that estimate would be far worse.

COVID-19 is a disaster for Brazil, but the impact on the petroleum industry of Latin America’s most populous country has not been as severe as anticipated. That, coupled with an unexpected spike in demand for Brazilian oil from China, will blunt the economic fallout from the pandemic. The resilience of Brazil’s oil industry to such a challenging operating environment is a warning to OPEC that the cartel can no longer control global oil supply and hence prices. While the latest developments will slow the growth of Brazil’s oil industry, they won’t prevent the long-awaited historic boom from occurring.