Paola Pecora says: “Facing increasing prices for petroleum and food that are generating inflationary pressures, Colombia has taken the right step in deciding to reduce public expenditures. Additionally, there is very good news there regarding petroleum.”

Buenos Aires, Argentina June 27, 2008

My friend Alfredo is so lucky! Thanks to his profession he is traveling across the continent. Alfredo is a geologist, and with the price of a barrel of crude oil soaring in the clouds, he has plenty of work to keep him busy.

This is so because the main oil companies are roaming the entire region in search of areas to explore. And the countries that guarantee institutional stability and exhibit respect for the law are the ones that are benefiting the most at this time. For example, Peru has managed to successfully attract several bids in the field of hydrocarbon exploration and has already received its first positive results. My friend Alfredo is preparing himself for a new trip as his company has already been working in Peruvian territory …

Now it is probable that Alfredo will also travel to Colombia, since this country has just announced that it will auction oil blocks for hydrocarbon exploration. The pending bidding has been nicknamed “Mini Round 2008”.

As reflected in the economic website “América Economía” (and confirmed by Alfredo), in this “Mini Round 2008”, companies will bid on a set of distributed blocks of small and medium sized river basins totaling 5.1 million hectares: Valle Medio del Magdalena-Catatumbo, Valle Superior del Magdalena, Llanos Orientales, Putumayo and Cordillera Oriental, most of them having the same basic characteristics: most of them come with geologic information and are located in areas with rich hydrocarbon potential.

This represents without a doubt a great opportunity for the oil companies if we consider the potential wealth of hydrocarbon that is yet to be discovered in Colombia (it seems there are around 20,000 million petroleum barrels in reserves yet to be discovered), and about which I have already spoken in previous articles.
Colombia, like the rest of the countries in the region, wants to take advantage of the good moment for the price of oil. However, it tries to prevent being too exposed to oil price fluctuations since the strong increase in the value of the barrel has been hitting internal prices hard and this is one of the main explanations for the inflationary pressures that its economy is undergoing.

Attached to the subject of inflation is the increase of the internal supply of energy. Colombia not only wants to increase the production of oil, but also has bid on the expansion of its energy capacity, which is not a unique strategy that the government of Alberto Uribe is taking to control prices. They are now also looking to attenuate inflationary pressures by decelerating internal costs.

I believe that last week’s change regarding price agreements was a good decision. Companies’ commitment to wanting to maintain prices without variation is not a bad thing. However, this becomes problematic when this policy fails to lead to measures resolving the underlying cause of price increases and when the system becomes greatly abused leading to temporary extensions of price agreements. These policies have been shown to consistently fail, as they are already being demonstrating again in Venezuela and Argentina.

The announced fiscal measures taken in the last few hours to minimize inflationary pressures consist of the reduction of public expenditure by $ 1.5 billion pesos (representing something like a US$ 858 million savings). Through this cut, the Colombian government took care to not affect the social policy of public costs and this is a good political decision as well, from the perspective of Colombia’s well being.

Although I say that these measures, taken to reduce public expenditures, are positive, I have to ask myself: are there any negative effects created by these cost cutting measures? It depends on how you look at them; one could say that since they will affect internal demand, it could lead to smaller growth in domestic consumption. Perhaps it is possible to think that they could have a negative impact on economic activity in the short term, although not one of significant magnitude.

Something positive that I see regarding these policies that are being carried out in Colombia is that they are consistent with long-term economic growth. What do I mean by this? Colombia is not seeking a solution to problems that arise such as inflation, which amounts to the application of a “Band-Aid”, a measure that only provides momentary relief and one that generates negative consequences in the medium to long-term. The government of Colombia is prepared to endure the costs, which in the short-term imply adverse shocks such as the increase of energy and food prices to ensure sustained growth.

It is for this reason that Colombia appears to be an attractive country in which to risk medium and long-term investments, one of them is related to the oil sector.

We will meet again tomorrow,

Horacio Pozzo