Introduction
Today’s column continues the discussion of establishing a domestic oil refinery (or refineries), whether private or state-owned, to process Guyana’s crude slate. My recommendation remains: “a state-owned oil refinery makes no economic sense at this stage of Guyana’s emerging petroleum sector or its overall economic development”. The rules proffered in this column seek to provide guidance for State action in this area.
Private Refinery Proposals
I start with the observation that back in 2017, when I had first addressed this topic, there were several private proposals to build refineries in wide circulation. Now, over two years later, there is virtually no public comment on private refinery investments, despite the fact that First Oil is as imminent as next month.
Nonetheless, I believe the economic features of modular mini-refineries remain attractive, even though these are not attractive enough, in my own opinion, to warrant state participation! To make this point, carefully, I start by briefly re-capping the commendable features of mini-refineries, as I adduced them back in 2017.
Summary Features
There are 12 key economic considerations that make modular mini refineries attractive for both private and state investors. These are: 1) their pre-fabricated, skid-mounted construction, which makes them manageable in Guyana-type environments; 2) their “broad availability” in various sizes and configurations; 3) their “manageability” in developing-country situations, given their small scale; 4) their lower risk of “episodes of country-wide refinery failure;” 5) the growing global experiences, with such refineries; 6) their quick construction and short-term, stop-gap capability; 7) their relatively low absolute dependence on state support; 8) their locational versatility; 9) their low investment/capital construction cost, which supports the principle: the less state support the better; 10) their flexibility; 11) the growing evidence of increasing innovation and competition in these refineries; and, finally, 12) their suitability for flexible project financing.
Decision Rule 1: Private Oil Refinery
Because of these features, and, given Guyana’s capital market and private investors’ capability, the overwhelmingly likely investments in a private refinery based on Guyana’s crude would typically fall in the class of “small modular mini-refineries”. My decision rule, therefore, is: “if a local oil refinery is established that is wholly owned, managed and operationalised, either separately, or through a “partnership” (or some other joint arrangement), involving only 1) foreign investors (whether these are private, state, or some combination thereof), or 2) domestic private investors, this should be given the go-ahead, subject to one important “proviso or caveat”.
Before I indicate the caveat/proviso, it is important to note here that there is no restriction on the “foreign investor in partnership with the domestic investor”. Foreign could be local-based, state, or joint public-state.
However, the proviso/caveat is that there must be no “out-of-the-ordinary” support, provided by the State to the venture, (designed to secure in a significant way its viability or profitability). Such a venture should be predicated entirely on commercial criteria. From this vantage point, it follows there should be: 1) no extraordinary transfer of taxpayers’ funds to the refinery’s financiers; and, specifically, there should be no subsidies, tax credits, tax expenditures/rebates or subsidized credit/or sale of state resources to it; 2) all the Guyana crude sold to the refinery by the State from its “profit oil” should be at world market prices; and 3) no “jacked-up” price protection, in whatever form, including: special import duties, levies or quotas, should be levied against imports of refined products competing with the refinery’s output.
The conditions in the above paragraph seek to ensure no form of subsidisation, whether through the State or more indirectly through consumers in the form of higher prices or other investors in the form of reduced incentives or protection of the refinery is afforded to it.
In other words, the aim of this caveat is to circumscribe the local oil refinery venture to decisions based entirely on commercial feasibility terms. Here, the investors are expected to take their investment decisions, based on private costs versus private benefits calculations, and their assessment of the “risk-reward” criterion in a similar context. It follows then that, if the investors take all the risks, they are therefore, fully entitled to the rewards, wherever these are forthcoming.
Related to the decision rule on a private refinery, I argue further that, any effort on the part of the State to commit scarce resources towards establishing a local oil refinery (whether on its own or otherwise jointly), would be ill-advised. This holds, even though it is claimed that, such investment advances value-added to Guyana’s crude oil. The reason for taking such a strong position is that, existing studies show a state-owned oil refinery does not generate positive returns. Further, the deeper economic consideration that faces the country is, in my opinion, the need to compare returns from a state-owned oil refinery (whether positive or negative) to other available alternative investments at that scale! This determines the economically efficient decision rule for the country to follow.
In other words, as I have repeatedly stressed, Guyana’s oil refining decision rule is to find always, the best possible alternative use for its scarce investable resources.
Decision Rule 2: State Refinery
Based on the Haas study referred to last week, and given a worst case scenario, where that feasibility study is only rated at 4 on a scale of 1-10 (with 10 being the best), it would be economically unjustifiable for the State to opt for putting resource gains from its petroleum wealth into a state owned, controlled, and operated oil refinery. My indicated decision rule holds, given the context of 1) the economics of oil refining, 2) the most nationalist and sympathetic interpretation of local content policy, and 3) absence of any proof that the author/sponsor of the Haas study for the Ministry of Natural Resources fabricated the results, in order to deny Guyana its “birthright” (an oil refinery), as some readers have indeed urged!
Conclusion
Next week I wrap-up this discussion. Afterwards, I shall turn to address Guidepost 5, which is the last in Part 2 of Guyana’s Petroleum Road Map.
