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Lula's win in Brazil presidential race likely means return to state-led economy


Focus on energy transition

Petrobras as lead investor

Refinery sales in question

  • Author
  • Jeff Fick
  • Editor
  • Richard Rubin
  • Commodity
  • Agriculture Energy Transition Natural Gas Oil

The return of Luiz Inacio Lula da Silva as Brazil's president will likely usher in greater government involvement in development of the country's oil and natural gas resources and a larger role for state-led Petrobras in leading the country's energy transition.

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The victory by the leftist Lula and his Workers' Party, or PT, is expected to return Brazil to the state-led model for economic development that dominated the country during PT rule in the early 2000s.

In the oil and gas industry, Lula and handpicked successor Dilma Rousseff implemented Brazil's production-sharing model and sold off the first subsalt oil fields under production-sharing contracts. The policies, however, led to development delays and cost overruns, critics say.

The PT also was the party in power when a wide-ranging corruption scheme at Petrobras was underway. The scandal was uncovered in a 2014 investigation that nearly bankrupt the company.

Rousseff and the PT were ousted in 2016 and followed by a series of pro-business administrations that implemented broad reforms, including allowing foreign oil companies to operate subsalt fields sold under production sharing contracts, reducing requirements to use locally produced goods and services in development and ending Petrobras' monopolies in the refining and natural gas segments.

Lula, however, is unlikely to reverse the changes already made, according to industry officials. Brazil's government has long held to a position of always honoring past contracts, including following regulatory changes such as the implementation of the production-sharing regime in 2010. Subsalt fields sold under the previous concession regime were maintained.

In a victory speech Oct. 30, Lula said that Brazil would continue to rely on investors.

"We're going to regain credibility, visibility and stability in the country, so that investors-both national and foreign-can renew confidence in Brazil," he said.

And where Brazil can't find investors, it will likely turn to Petrobras, industry officials say. Lula's plan for Brazil's energy transition includes a larger role for Petrobras a key investor in new projects for biofuels, fertilizers, gas and renewable energies.

S&P Global Commodity Insights expects Brazil's oil and condensate output to climb from roughly 3 million b/d in 2021 to 3.6 million b/d in 2030, with private companies making up a larger share of that output.

Under Lula's two presidential terms, which ran from 2003 to 2010, Brazil's oil production grew by 700,000 b/d "as he promoted development of several deepwater oil fields," according to S&P Global. Oil output grew 400,000 b/d under Bolsonaro.

Potential changes to prices

Petrobras' focus in recent years, however, has been to rid itself of assets in non-core businesses, selling off billions of dollars worth of assets in divestment programs since 2016. That included legacy oil fields that include the company's exit for onshore and shallow-water offshore production, as well as the sale of stakes in business such as biofuels, fertilizers and natural gas.

The company has also stayed away from investments in renewables, instead focusing on paying down debt and reducing the carbon intensity of its oil fields and refineries.

Lula, however, will likely ramp up pressure on Petrobras to end its import-parity pricing policy, implemented in 2016 after years of PT meddling in pricing decisions, as well as attempt to reverse course on the end of Petrobras' refining monopoly.

He joined the chorus of politicians that blasted Petrobras for price hikes to diesel and gasoline as well as strong profits in the first half of 2022. Petrobras is currently required to maintain domestic fuel prices at parity with international imports, which keeps arbitrage windows open for third-party importers.

Brazil has historically imported about 25% of diesel and 15% of gasoline demand to make up for a domestic refining shortfall.

The import-parity policy was implemented after analysts estimated that the company lost as much as $40 billion in revenue in profits in 2011-2014 by selling expensive diesel and gasoline imports at a loss in the domestic market. The policy has widely been lauded by analysts and investors for increasing transparency.

Wants to stop refinery sales

Lula will face a unique climate at the pump as soon as he takes office in early January. A slate of controversial state and federal tax cuts to fuel prices expire Dec. 31, which will threaten a surge in domestic fuel prices in early 2023 if not addressed.

Lula has also publicly said that he would like to halt the refinery sales, which were ordered by antitrust regulators in 2019. So far, Petrobras has only sold one refinery and signed sales contracts for three others. The sales of the Refinaria de Lubrificantes e Derivados de Petroleo do Nordeste, or LUBNOR, in Ceara state, the Unidade de Industrializacao de Xisto, or SIX, shale processing facility in Parana state and the Refinaria Isaac Sabba, or REMAN, in Amazonas state are expected to close in 2022.

The sale of four refineries, including three that were restarted in June, could be canceled, industry officials say. Greater refinery output and increased requirements to use locally produced goods and services, or so-called local-content rules, could be used in Lula's plan to boost Brazilian industry.

That would fall in line with Lula's long-standing economic policy of focusing on high-value products rather than commodities for export.

"We want international trade that's more fair. We want to restart our partnerships with the US and European Union on new bases," Lula said. "We're not interested in trade deals that condemn our country to the eternal role as an exporter of commodities and raw materials."

Under the PT, Petrobras planned to build three refineries to process subsalt crude into refined products earmarked for export markets. Those projects could be restarted in conjunction with plans to complete both refining trains at RNEST and the GasLub Itaborai gas-processing hub, officials say.

Lula won 50.9% of the vote in Brazil's second-round presidential runoff to the incumbent far-right Jair Bolsonaro's 49.1% in a closer-than-expected race, according to final results posted Oct. 30 by Brazil's Federal Election Court, or TSE. Concerns, however, remain that Bolsonaro may contest the vote as he has not yet conceded his loss nor made any public comments since the results were released.