China’s Role in Ecuador’s Oil Sector

After defaulting on debt in 2008, Ecuador has turned to Chinese sources to provide the majority of the investment in its oil sector, and the Asian country has seen its share of Ecuador’s oil exports grow from approximately one-third in April 2010 to 83 percent by mid-2013. Why has China taken on such a large role in the country’s oil sector? What are the negative or positive implications for Ecuador’s oil sector of relying so heavily on Chinese involvement?

The following commentary was originally published in the Inter-American Dialogue’s Latin America Advisor. The commentators submitted their responses before Ecuador announced Wednesday that CNPC will invest $10 billion in the Refinery of the Pacific.

Margaret Myers, director of the China and Latin America program at the Inter-American Dialogue:

China has indeed become a ‘lender of last resort’ for Ecuador, funneling more than $9 billion in oil-backed and other loans to the country since 2005. Oil-related activity in Ecuador, as in other countries in the region, is part of the Chinese government’s efforts to achieve global energy supply diversification. Oil-backed and other lending is also intended to promote Chinese exports, put China’s surplus dollar reserves to productive use, provide employment for excess oil company service teams  and promote Chinese currency internationalization. Of concern in the case of Ecuador are the implications of the country’s rapidly expanding debt to China. The South American nation owed China the equivalent of 20 percent of its GDP in 2013, according to one calculation, raising legitimate concerns about debt sustainability. Chinese lending featured prominently in the 2013 general election debates, as the opposition considered the drawbacks of overreliance on a single creditor. China’s oil-backed lending to Ecuador also requires more in the way of oil output. Ecuador’s obligations to China have been linked, therefore, to Correa’s 2013 decision to exploit the pristine Yasuní-ITT. Chinese firms are directly involved in the exploitation of certain blocks. And the China-funded Refinery of the Pacific will be supplied with Yasuní-ITT oil. The Chinese government, for its part, promotes ‘harmonious development of local economy, environment and community’ when operating abroad. But China’s oil companies continue to operate according to price risk calculations and profit-driven incentive structures, occasionally pursuing deals that aren’t consistent with the strategic interests of the state.

Alejandro Flor, partner at Bustamante & Bustamante in Quito:

We believe there are two main reasons. First, China is willing to grant loans without the strict requirements usually imposed by international loan institutions, such as the World Bank and the International Monetary Fund. Basically, China accepts oil as repayment and collateral in the form of anticipated sales. Second, China has a huge demand for oil and other natural resources. Due to the size of China’s economy and since the logistics for shipping oil are not complicated, Ecuador has become one of its oil suppliers. The positive implication for Ecuador is having a potential strategic partner in large-scale projects, such as the Refinery of the Pacific and the Coca Codo Sinclair hydroelectric power plant. Nonetheless, having the bulk of oil production committed to a single customer reduces the maneuvering options for Ecuador in the case that the Chinese economy decelerates or oil prices fall.

R. Evan Ellis, assistant professor of national security studies at the William J. Perry Center for Hemispheric Defense Studies in Washington:

For the PRC, the expanding relationship in the petroleum sector is a product of both experience with Ecuador and exploiting opportunities to meet the Correa government’s needs as it has turned away from Western institutions. Chinese companies have had a major presence in Ecuador since 2005 when a CNPC-led consortium paid $1.42 billion for the Canadian firm Encana, including rights to Ecuadoran oil fields and the OCP pipeline. They had thus been dealing with Petroecuador for years when the PRC advanced it $1 billion in 2009 to help with a liquidity crisis arising out of the country’s 2008 debt default. Additional, multiple $1 billion ‘advance payments’ followed in 2010 and 2011, plus funds to the Ministry of Finance for infrastructure projects, and most recently, to cover budgetary shortfalls. The PRC’s risks were minimal because the loans were of short duration, at high interest rates and were repaid through deliveries of oil principally produced by Petroecuador for Chinese companies. To its credit, the Correa government has used Chinese money and companies to build physical infrastructure that transforms Ecuador’s economic base, including a wind farm, eight major hydroelectric facilities and associated transmission infrastructure. Yet it has paid a high price for that capital in interest payments and intermediation fees. Moreover, such deals arguably conflict with the regime’s pursuit of greater resource sovereignty and environmental credentials. For example, CNPC may receive operational control of Ecuador’s Refinery of the Pacific, in exchange for building it, while the Yasuní nature preserve may be opened up to oil drilling by Chinese companies to feed the refinery.

Rene G. Ortiz, president of ANDE, the National Entrepreneurial Association of Ecuador, and former secretary general of OPEC and minister of oil and mines of Ecuador:

Financing has been China’s early gateway into Ecuador’s energy and hydrocarbons sector. China will be substantially involved through investment in key oil and gas projects. Ecuador uses its oil to underwrite its debt to China. Ecuador has a bad record of not honoring foreign debt, and defaulted on part of its debt in 2008 after declaring it illegitimate. In fact, rising oil prices and high government oil earnings for the last seven years have not been enough to feed an overcrowded government bureaucracy and its infrastructure projects. Thus, the only alternative open to Ecuador was to resort to China’s unconditional lending. But, given the Venezuelan foreign debt case, the only option was to put its export ‘oil crowns’ up front, along with additional government commitments. Ecuador capitulated for Chinese money. The problem is that the government has been neglecting the role of money reserves, trade accords and direct foreign investment to support development and to prepare for external shocks. The main implication, which has a high political cost, is being unprepared for a slowdown of the world economy.