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The high price of cheap oil

Monday, July 12, 2010

Costa Rica plans to join Guatemala, Honduras and Nicaragua in Venezuela’s Petrocaribe plan. It shouldn’t.

There’s no free lunch or free gas.
By joining the Petrocaribe agreement promoted by the government of Hugo Chavez, as the Oscar Arias administration plans to do later this month, Costa Rica might avoid a big increase in its annual oil bill.
But paying the world price for petroleum wouldn’t bankrupt the country.
Meanwhile, signing the Petrocaribe deal (see text here) could result in Costa Rica coming under pressure to share Chavez’ economic philosophy, which will damage the country, as well as the region.
As an individual, Chavez has the right to be a socialist.
As president and leader of his country’s majority party, he has the right, presumably within constitutional limits, to impose a system on Venezuela, which promotes the concept of state control over almost every sector of the economy, from finance and trade to land ownership and technology transfer.
The problem is that one of Chavez’ goals is to export this doctrine to the rest of the continent via the Bolivarian Alternative for Latin America and the Caribbean (ALBA, using the program’s Spanish initials).
One way of accomplishing this goal is by urging Petrocaribe members to join ALBA, as Honduras and Nicaragua have done, and as Guatemala may do in the future - either because they agree with ALBA’s principles (see a summary here), or because they are some of the world’s poorest regions and as such may be willing to pay almost any price in exchange for relief from big oil bills.
By contrast, it makes little sense for a successful country such as Costa Rica to associate itself with a system, which failed ruinously during the last century in the Soviet Union and Central Europe.
Petrocaribe may look good at first sight.
Buying Venezuelan oil at a discount of 50% would represent an annual savings of close to $300 million at an international price of $100 (around which it has been hovering in recent days), assuming Venezuela continues supplying Costa Rica with 18 million barrels daily.
In addition, the balance of 50% doesn’t come due until 25 years later, while paying only 1% interest.
But unless Costa Rica invests the discounted amount productively during such a long time period – something no one can guarantee – the next generation of “ticos”, who will have to pay back the balance, might not think Petrocaribe was a bargain.
The bottom line is that Costa Rica is better off paying the real price for oil.
Not getting a big discount might hurt.
But $300 million is not a make-break amount for country whose production last year was worth more than $25 billion, according to the World Bank.
In any case, the economic effect of not joining Petrocaribe would probably be less drastic.
As Costa Rica takes steps to reduce demand in a high-cost world, it will need less oil.
By contrast, if the country lets itself be seduced today by discounted petroleum, there is less incentive to cut consumption, with the result that it will face a big increase in oil payments, once the Petrocaribe deal ends.
That leaves the question of whether or not Venezuela would in fact ship the same amount of oil under the Petrocaribe plan as it does now at the regular price. If it doesn’t, Costa Rica’s savings would be less than advertised.
Even more important, whatever short-term benefits Costa Rica might get from Petrocaribe would be more than offset by a weakened commitment to an economic system which gives the country its best chance of moving forward – a dynamic private sector regulated by a fair, efficient government.
Under these conditions, the price of cheap oil is too high.

Fred Blaser
República Media Group