There is no question that the oil price downcycle has taken a toll. Many measures taken by governments helped manage this near-term crisis, but with various degrees of pain. Where did countries make changes to economic policy, political frameworks and hydrocarbon policies to better insulate themselves against future price shocks? And, will those changes protect them or leave them too reliant on the upturn in the oil price cycle? Listen to the full podcast in the Upstream in Perspective series for key research highlights from our E&P above-ground risk team. Here's an excerpt from the conversation:

Jessica Nelson:

I mentioned your new report, which is titled, Zones of Vulnerability: Mapping Where Downcycle Risk Lives On. In the report, you illustrate how vulnerable countries are to future declines in oil price. Can you describe what you mean by vulnerability in this context?

Cat Hunter:

Yes, so what we're looking at is countries are working on a very cyclical basis, where their reliance on the oil price for their economy and their political framework to tick up, and where they're taking moves to insulate themselves from that process.

And it's interesting, not only because of the theory of it, but also because of the practical implications for investors. Often, a vulnerable country will have problems following through on commitments made to investor. So, while with the best will in the world, they might be offering certain terms, the fact that they're vulnerable and the fact that they haven't shorn up their economy, the fact that they haven't thought forward, can mean that they are unable to fulfill those obligations in the way they might have stated in the initial contract.

So, understanding where countries are vulnerable is particularly important when investors are going in. David has looked a little bit more at this as well, so I'll hand over to him to take that further.

David Gates:

Just a few additional comments, I guess. To understand what we mean by vulnerability, I think we must start with our overall focus, and focus of all of our research, which is on above-ground risk. These are the factors that together determine how attractive a country is as a place for investment in exploration and production.

The other thing you have to keep in mind, which Cat touched on, is that as we see it, whatever happens in politics, economics or industry, affects each of the others. So what happens in industry affects what happens in politics and economics, and vice versa. In this context, a country is vulnerable when it finds itself really in a situation where changes in politics, economics or in the industry are likely to lead to a serious deterioration in its attractiveness as a place for investment in E&P. So that's really what we're driving at in terms of vulnerability.

Jessica Nelson:

You just mentioned a few of the areas might be interconnected. How do you look and assess the different zones of vulnerability? How are they interrelated?

David Gates:

In this study, we look at not just industry-specific developments, but also politics and economics. And in this report, we put together a number of indicators that would allow us to look most at politics and economics.

This includes things like state capacity, political legitimacy, and the like, on the politics side. And, economic factors like transfer of risk or primary fiscal balance, growth in GDP per capita. We use these in the current report, to provide an overview of developments in these particular countries. That's kind of a first step. We thought we needed to go beyond that. So, we identified five or six countries that appeared to have issues in terms of vulnerability. We addressed those through a series of case studies where we might dig into the details.

Now, you asked a question about how these factors are interrelated. This is not some complicated theory that we've come up with-it's quite straightforward. To start off, what happened this time around? We had a major decline in oil prices. The immediate consequences of that were economic. In that virtually every country we were looking at saw a deterioration in both their current account and in their fiscal balances. Those developments almost automatically have political implications.

But beyond that, the countermeasures that countries take will in turn have implications. Let's say they take economic countermeasures, so immediately have consequences for the political sector and also for the industry.

For example, if you've got a country concerned about its current account balance, and it decides to restrict capital flows, that will have immediate, and yet, in my view, detrimental effects on investors. That's the kind of linkage that we're trying to draw out.

How does a country descend into deeper zones of vulnerability and what impacts does that have on the host country or local energy industry? Listen to the full interview in our Upstream in Perspective podcast. Or, learn more about our above-ground risk solutions.

Posted 12 September 2018

This is an excerpt from Upstream in Perspective and has been professionally transcribed as accurately as possible. Please note, some words and phrases may have been unintentionally excluded.

This article was published by S&P Global Commodity Insights and not by S&P Global Ratings, which is a separately managed division of S&P Global.