The controversy surrounding last year's re-election of Nicolas Maduro as president of Venezuela came to a head in recent weeks, with continued mass protests that are turning deadlier, a new self-declared interim president and, on Monday 28 January, the announcement of the latest series of US-led sanctions on Venezuela's state oil company Petróleos de Venezuela SA (PDVSA) and its subsidiaries, most notably US-based refiner and marketer Citgo. Treasury Secretary Steven Mnuchin stated during a White House press conference that the government "will continue to use the full suite of its diplomatic and economic tools to support interim president Juan Guaidó, the National Assembly and the Venezuelan people's efforts to restore their democracy." All US individuals and companies are now prohibited from engaging in financial transaction with PDVSA and all proceeds from Citgo will be confined to a US-based account instead of going to the Maduro government.

For the United States, currently the biggest buyer of Venezuelan crude, the move is intended to cut off the lifeline of support for Maduro by the nation's armed forces, which are still getting paid in large part from oil revenues. National Security Adviser John Bolton added that all options, including military ones, were on the table to topple the Maduro regime, but such a move carries the risk of further exacerbating the existing rift in the international community over the proper course of action in Venezuela. While many Latin American countries like Argentina, Brazil, Colombia and Costa Rica are supporting Juan Guaidó (the centrist leader of the country's National Assembly who declared himself interim president on 23 January), in addition to US allies such as Australia, Canada and Israel, others such as Japan, Ukraine and the European Union (EU) have taken a more moderate approach, calling for new elections. However, even the latter move has been staunchly opposed by Maduro, who was re-elected as president in May 2018 in an election that was largely seen as illegitimate by international observers and the results of which have only been recognized by states such as China, Cuba, Iran, North Korea, South Africa, Russia, Syria and Turkey. The same countries are currently backing the Maduro government, with China and Russia in particular calling the US-led sanctions an illegal attempted coup. Both Russia and China are Venezuela's main creditors, having lent tens of billions USD to the regime in recent times in exchange for oil and other supplies. On Thursday 31 January, the European Parliament passed a non-binding resolution to recognize Juan Guaido as interim president and urged EU member states to do the same. All major EU countries besides Italy announced that they would in early February, after Mr. Maduro rejected their calls for a snap election.

Venezuela has been in a state of economic and social crisis for the good part of the last decade, plagued by runaway inflation (reaching 80,000% in 2018), power cut-offs, food and medicine shortages, as well as a significant fall in domestic hydrocarbon production, in part due to low oil prices. As the oil sector accounts for around a third of the country's Gross Domestic Product (GDP), half of government revenues and the vast majority of exports, the United States is unambiguously aiming for the latest round of sanctions on PDVSA - estimated to block USD 7 billion in assets and USD 11 billion in export revenue over the coming year - to be the final nail in the coffin for Maduro's government. US-based Citgo is a good example of the geopolitical and economic interests at play. The company operates three major refineries in the country (in Corpus Christi, Lake Charles and Lemont, with a total capacity of 750,000 b/d) and is a marketer at more than 5,000 petrol station locations, providing leverage to the US government. However, a 49.9% stake in the company was also sold to Russia's Rosneft two years ago as collateral in case of default by the Maduro government.

In addition to the usual ideological opposition to a socialist regime, Mr. Maduro is perceived as more vulnerable due to the ongoing national crisis and never having seen the same popular support as predecessor Hugo Chavez. Having reached near-mythical status in the country since even before his death in 2013, Mr. Chavez was responsible for the extensive government subsidies for goods and petrol, which were initially very popular, but have practically bankrupted the country since post-2014 oil price crash. The devastating nature of the ongoing crisis on the Venezuelan population cannot be understated; the country has one of the highest murder rates in the world, more than 90% of the population lives in abject poverty and three million citizens (nearly a tenth of the population) have left as refugees since 2015, putting immense strain on neighboring states such as Colombia and Brazil. According to the United Nations, more than 850 people have been detained and at least 40 killed in the latest round of anti-government protests that began on 21 January.

The 35-year-old Juan Guaidó is putting pressure of his own on Mr. Maduro, having ordered the National Assembly to appoint new boards at PDVSA and Citgo, in addition to making requests to entities such as the Bank of England to prevent the Venezuelan government from accessing its gold reserves. While there are signs of progress towards a diplomatic solution, they are mired by Mr. Maduro's signature volatile rhetoric. The president said in a Wednesday interview with Russian news that he is willing to negotiate with the Guaidó-led opposition, even under the observation of international mediators, but this came shortly after announcing that the interim president is under investigation (despite having legal immunity as head of the National Assembly), that his assets would be frozen and that he is currently banned from leaving the country. And, in what will most likely be a deal-breaker, Mr. Maduro ruled out the possibility of new elections until 2025.

Whatever the outcome of the current crisis, the dire state of the country's hydrocarbon industry will undoubtedly take decades to reverse. Venezuelan production has been steadily decreasing since its 1997 peak of 3.4 MMb/d and the trend has accelerated in the last year. Many of the problems are systemic. In the early 2000s, then-president Chavez used a worker strike to replace a large portion of PDVSA's technical experts with political allies. Hydrocarbon resources have been officially nationalized since 1976, but in the early 2000s the Chavez administration passed a number of laws hiking up royalties, requiring majority control of partnerships by PDVSA and reducing the overall output in order to adhere to previously ignored OPEC quotas. These policies led to a decrease in foreign investment, while the continuing policy of using oil revenues to fund social programs and subsidies left little capital to spare for national investments in energy development and infrastructure, resulting in a slow deterioration of PDVSA's production capacity. In fact, there have been reports that even friendly states like China are becoming unhappy with the PDVSA's lagging output, as debt-for-oil arrangements can only work if there is enough oil being produced.

While Maduro's government has attempted to sign agreements with foreign partners such as France's Maurel & Prom in recent times to increase production, these were blocked earlier this month by the opposition-led National Assembly, highlighting the current stalemate. By last year, Venezuela's liquids production fell to 1.48 MMb/d, down nearly a quarter from 2017 and less than half of the highs of the late 1990s. Gas production in 2018 also reached a low of 3.46 Bcf/d, around half of what it was only five years ago. Whether one takes a cynical market-based or a humanitarian view, a decline on such a scale and in such a short amount of time is nothing short of tragic for a country with the world's highest proven oil reserves (nearly 300 Bbbl). As local government bodies and foreign superpowers continue their disagreements over the next course of action, there does not appear to be any solution on the horizon that will not involve many more years of strife for the Venezuelan people.

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Sergey Myakishev is a Senior Editor at IHS Markit.

Posted 12 February 2019

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.