Global Insight Perspective

Significance

Occidental faces fresh uncertainty following the recommendation of outgoing head of Petroecuador Carlos Pareja that the government end its contract for Block 15. The decision now rests with the Minister of Energy, who requested his resignation.

Implications

Although Ecuador is only South America's fifth-largest oil producer, the oil sector plays a vital role in the economy, in a country where approximately 80% of the population lives in poverty.

Outlook

A new heavy crude pipeline has stimulated investment in fields operated by private companies, but crude output from Petroecuador has been in decline over the past decade. Greater investment is needed in state-operated fields in order to ensure further rises in production.

President Loses Second Petroecuador Boss

The President of state oil company Petroecuador Carlos Pareja Yanuzelli has resigned at the request of Energy Minister Iván Rodríguez. According to local press reports, Pareja said that the minister had requested his departure following accusations against him by the anti-corruption commission.

Just before his departure, Pareja recommended the annulment of US-based Occidental Petroleum's contract for Block 15. The former government had been embroiled in a dispute with Occidental since last year, and the resolution of that dispute was one of the most pressing issues in the energy sector facing new President Alfredo Palacio, who took over in April 2005 following Congress's removal of former president Lucio Gutiérrez. Petroecuador filed a complaint against Occidental in September 2004, following recommendations by the Procurator-General and the Ministry of Energy and Mines that it begin the process of annulling Occidental's participation contract for Block 15 over alleged breaches of contract. The move followed a ruling by an international arbitration panel ordering the government to pay Occidental some US$75 million in compensation for value-added tax (VAT) refunds related to its operations in Block 15. Procurator-General Jose Maria Borja had claimed that Occidental violated the law in 2000, when it transferred 40% in Block 15 to Canadian firm EnCana Corp. without prior permission from the government. Occidental maintains that it has complied with all of its legal and contractual obligations in Ecuador, including all investment commitments related to the contract and tax payments.

The ongoing uncertainty regarding the US company's contract threatens to increase concerns among oil investors as to the absence of adequate legal safeguards for their investments in the South American country. EnCana has already put its assets up for sale, and if the Energy Minister accepts Pareja's recommendation that Occidental's contract be terminated, this could make it harder for the government to attract potential bidders in forthcoming tenders.

Outlook and Implications

President Palacio has already faced a number of setbacks in the energy sector. The previous head of state oil company Petroecuador Robert Pinzón Rojas resigned in June, following allegations that he failed to pay outstanding bank debts and that he served one month in prison accused of fraud. A week later, his first Mines and Energy Minister Fausto Cordovez Chiriboga also stepped down over allegations concerning unpaid debts .

The oil sector is the country's most important generator of export revenues, but has yet to reach its full potential because of the failure of successive governments to introduce structural reforms. Frequent changes in energy personnel, corruption and a long-running tax dispute have also undermined investor confidence in the sector. The Palacio government's key challenges are to reverse the declining output of Petroecuador (which has fallen over the past decade because of ageing fields, budget cuts and insufficient investment in field maintenance), resolve a contract dispute with Occidental Corp., and oversee efforts to open up the oil sector to greater private investment. A tender to offer private companies service contracts to boost production at fields operated by Petroecuador was suspended indefinitely following Congress's removal of former president Gutiérrez in April 2005. The Palacio administration has since revived tenders for concessions to manage state refineries and to allow private investment in a project to develop the Ishpingo-Tapococha-Tiputini (ITT) fields. It has also announced plans to hold a tender for marginal fields. However, there appear to be no plans to allow private participation in the state oil company's main fields: Shushufindi; Auca; Cononaco; and Lago Agrio.