Hydrocarbon 'Hail Mary': Turkey joins the club

Hydrocarbon 'Hail Mary': Turkey joins the club

  • Oil and gas discoveries often hyped as saviours of current accounts, currencies, growth and geopolitical independence
  • Turkey joins the the 'Hydrocarbon Hail Mary' club: some (Egypt, Israel) more successful than others (Kenya, Pakistan)...
  • ...But, in no country has an oil and gas discovery alone rescued the macroeconomy; Turkey is likely to be no different

A sudden natural resources windfall should be viewed in the same way as a surge in external capital inflow (eg via China's BRI): they likely accelerate a country down its existing path, ie those with stronger institutions and better policies see accelerated growth and those without these ultimately hurtle towards new and, in some cases, bigger problems.

Near the end of an American Football game when the offensive team is desperate it will attempt a long pass with potentially heroic consequences but, generally low probability of success - the ‘Hail Mary’ play.

Fairly often in emerging markets, over the last two decades, when long-term growth looks weak, current account deficits persist, and currency exhibits persistent vulnerability, governments have latched on to potential new oil and gas (and other natural resource) discoveries as a potential panacea.

It is perhaps too cynical an observation but the announcement of transformative oil and gas projects often occur when there is a degree of economic and, particularly, external account distress.

EM precedents suggest that expectations of the speed and impact of oil and gas discoveries should be tempered. The announcement of a large Turkish gas find in the Black Sea does not change our cautious view on Turkish equities for foreign investors.

Turkey joins the 'Hydrocarbon Hail Mary' club

Turkey has seen almost a 20% currency depreciation (while many in EM have seen a sharp contraction in growth, few have seen FX rate weakness of this magnitude), further loss of credibility in its interest rate and inflation policy (a large negative real interest rate), and escalation of geopolitical conflicts in multiple arena (Azerbaijan, the East Mediterranean, Iraq, Libya, Syria).

Today, Turkey has joined the ‘Hydrocarbon Hail Mary’ club. After the drum roll of public hints earlier this week, President Erdogan announced a potential significant gas find near its maritime border with Bulgaria and Romania in the Black Sea (Sakarya field in the Tuna-1 block).

Potential gas reserves are 11tcf (equivalent to about 2bn boe) and the aim is to bring initial production online by 2023. (This level of reserves would equate to about a third of Egypt's Zohr and a half of Israel's Leviathan in the EastMed).

EM precedents temper expectations

There are many components to the development of major oil and gas finds and these should cool expectations of how big and how soon Turkey eats into its fuel import bill and current account deficit and sees a fiscal benefit:

  • Deepwater finds require the expertise of international oil companies, which, in turn, agreeing economic incentives (long-term purchase contracts or royalties), establish credible regulatory supervision, and securing requisite finance;

  • Infrastructure to connect the field with onshore pipeline network (or LNG facilities), which, in turn, requires finance and physical security; and Favourable global oil and gas prices.

When all of this is put in place sufficiently well to start exploration and production, the risk remains that such large financial rewards can lead to corruption (eg Brazil) and physical insecurity (eg Mozambique).

The precedent cases reviewed below present quite a mixed picture.

  • Brazil, Egypt, and Israel oil and gas discoveries were transformative from an energy perspective but not necessarily from a macroeconomic perspective given Brazil's corruption scandals (which were triggered by malpractice in Petrobras) and macroeconomic relapse in recent years, Egypt's recovery post-dated its devaluation and IMF loan agreement rather than the Zohr gas discovery, and Israel was already on a steady growth trajectory.

  • Argentina and Mozambique are earlier in the development phase and, so far, oil and gas has not transformed the macroeconomic picture: Argentina has struggled to establish attractive commercial terms and contract certainty (overshadowed in both cases by the collapse of the currency, under the previous Macri government, and the renegotiation with sovereign creditors, under the current Fernandez government) and in Mozambique just as the financing is being mobilised (eg the Total-led LNG consortium securing its requirements in mid-2020) after serious set-backs government corruption and borrowing, the security situation has again deteriorated in the Cabo Delgado region.

  • In Bahrain, Kenya, Lebanon, and Pakistan the hopes from major oil and gas prospects appear to have yielded little so far: insufficient commercial attraction for international oil companies in Bahrain, a mix of regional insecurity, infrastructure deficiencies, unclear government regulation, and lower global prices in Kenya, negative drilling results and government paralysis and collapse in Lebanon, and negative drilling results are the reason in Pakistan.

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