Last month, the government announced abrupt changes to a subsidy program for upstream natural gas projects. The program, launched in March 2017, aimed to stimulate ongoing and new investment in the Vaca Muerta field. It had established a government payment of $7.50/mmbtu produced in 2018 in Vaca Muerta and the Neuquen basin; the subsidy would eventually lower to $6/mmbtu in 2021. However, under the recent government decree, only new gas projects and additional output from existing investments will qualify for the full $7.50; current production will not. Additionally, if drillers do not reach the target of producing 500,000 cubic meters per day by 2020, they must pay back the subsidies.
The shift (which was not extensively covered in the local press) has been negatively received by some investors, several of whom had allegedly been complaining about bureaucratic delays in the payments of subsidies. However, even though it may have irked individual investors and created a heightened sense of uncertainty, the decision to reduce subsidies fits within President Mauricio Macri’s larger plan of cutting the fiscal deficit, which has been estimated at 4% of GDP in 2017. Under the revised plan, the government is estimated to cut its natural gas subsidy expenditures by a third in 2018, saving about 5.3bn pesos ($307mn).
Therefore, the decision can hardly be considered an anti-market move. Rather, it is consistent with the administration’s discourse since performing strongly in the October midterms. Indeed, the investors who have objected are the same ones who had largely supported the administration’s rhetoric thus far. Aside from cutting the deficit, Macri and his team have pledged to downsize the public sector and negotiate greater labor flexibility with unions. The administration is trying to speed up the pace of such reforms to take advantage of its political momentum following the midterms.
So far, there does not seem to be much evidence to suggest that the decree was aimed at specific companies. The brunt of the shift will fall on state-owned YPF, which controls roughly 40% of Vaca Muerta and will have to reassess its natural gas investment plans in the area. (The company is already considering dropping small blocks with ongoing production to instead invest in new projects, taking advantage of the subsidies.) Pampa Energia, a local company, might be hit hardest by the shift, since its ongoing gas operations in the Neuquen basin will not receive the subsidies it had priced in for 2018. Some companies have complained but thus far most appear to have accepted the decrease without making significant changes to their business plans.
However, companies with new projects – such as Tecpetrol SA – will benefit; and the Austral basin in the south (where Total is the major player, with more than 70% of total production) will allegedly soon qualify for the subsidies. The tweak will undoubtedly have consequences for companies’ cash flows, but it is a minor aspect in the administration’s higher-priority plan of cutting the deficit.
Overall, other risks will continue to have greater importance at the local level for investors, in our assessment. Granted, the Macri administration increased its bargaining power via the midterms and has therefore advanced in its negotiations with labor unions toward reducing labor costs in Vaca Muerta. However, the General Confederation of Workers (CGT) – Argentina’s largest umbrella organization for labor unions – is currently facing significant internal dissent and some degree of a leadership crisis, so its relationship with the Macri administration will remain volatile for the foreseeable future.
Likewise, the government has not yet found adequate strategies of engaging with indigenous Mapuche activism in the interior of the country. Such activism is on the rise and will likely accelerate as oil and gas production ramps up in Vaca Muerta, Neuquen and other areas. Indeed, this year’s biggest political crisis in Argentina revolved around the death of pro-indigenous activist Santiago Maldonado, whose disappearance at the hands of the police triggered massive street demonstrations. This saga was followed, in late November, by the police’s killing of another Mapuche activist: 22-year-old Rafael Nahuel. He was killed in clashes during an operation to clear properties occupied by Mapuches near Bariloche, in Patagonia.