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Matthew Smith

Matthew Smith

Matthew Smith is Oilprice.com's Latin-America correspondent. Matthew is a veteran investor and investment management professional. He obtained a Master of Law degree and is currently located…

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Colombia’s New Leftwing President Is Hiking Taxes On Its Oil Industry

  • Colombia inaugurated its new president, former leftist guerilla Gustavo Petro.
  • The notoriously anti-oil president is already making moves to extract more revenue from the mining and oil industries. 
  • Colombia is now weighing a proposal to increase taxes levied on extractive industries by implementing a 10% export tax on oil, coal, and gold

After an electoral victory, which shocked many in and outside of Colombia, long-time senator and former leftist guerilla Gustavo Petro was inaugurated as Colombia’s President last Sunday. The once controversial mayor of the capital Bogota campaigned on a platform of ending extractive industries in the Andean country, including banning hydraulic fracturing and ceasing the award of new licenses for oil exploration. That triggered considerable consternation among many analysts, industry insiders and economists because of Colombia’s tremendous economic dependence on petroleum production and exports. Crude oil is the strife-torn country’s key legal export generating for the first six months of 2022 $10.3 billion which is 36% of total export earnings for the period. That was followed by $5.3 billion in export earnings from coal and in third place coffee which generated $2.3 billion. Petroleum is responsible for around 3% of Colombia’s gross domestic product and a fifth of Bogota’s fiscal income. That makes Colombia’s oil industry a key component of its economy and driver of the post-pandemic recovery, particularly especially with prices having rallied sharply since the end of 2021.

The international benchmark Brent has soared roughly 44% for the year to date to be trading at around $97 per barrel giving earnings for Colombia’s oil industry a significant boost. That will see Bogota’s fiscal revenue surge, especially if national oil company Ecopetrol, which is 88.5% owned by Colombia’s government, hikes its dividend, or makes a one-off special payment to investors. The economic recovery now underway in Colombia and the growing contribution of the petroleum industry, because of significantly higher prices, to the strife-torn country’s post-pandemic recovery couldn’t occur at a more crucial time. The Andean country’s economy suffered extensively under the administration of Petro’s predecessor Ivan Duque with violence, poverty, and unemployment spiking, particularly because of the fallout from the COVID-19 pandemic. That coupled with an ever-deeper budget deficit and inability to successfully reform tax collection is placing considerable financial pressure on Bogota and Colombia’s sovereign credit rating.

In May 2021, after being rocked by violent protests against Duque’s proposed tax reforms, Colombia’s sovereign debt rating was downgraded from investment grade to junk status. International rating agency S&P Global Ratings dropped the rating from an investment grade BB+ to a speculative setting at BBB- with a stable outlook. Other rating agencies took similar measures, Fitch reduced Colombia’s credit rating to BB+ during July 2021 and Moody’s to Baa2 in October that year. It is Colombia’s ballooning budget deficit and weak government finances which are weighing heavily on the sovereign debt rating as well as fiscal outlook. At the height of the pandemic, during 2020, Bogota recorded a budget deficit that was 7.8% of GDP, which since the economy reopened from one of the world’s longest coronavirus lockdowns fell to 7.1% for 2021. While record spending is proposed for 2022 with Colombia’s congress approving a $93 billion budget the annual deficit is expected to only be 7% of GDP, marking another decline since 2020. That notable spending increase is earmarked for poverty relief and other measures aimed at easing the considerable economic pressures arising in Colombia, particularly for the poor, in the wake of the pandemic.

Even the lower deficit forecast for 2023, however, is still unsustainable for the fiscally fragile South American nation. That means boosting tax revenue is crucial to strengthening a fiscally fragile economy. Organization for Economic Cooperation and Development data shows that for 2020 that Colombia had a very low tax-to-GDP ratio of 18.7%, the second lowest in the OECD after Mexico. Those numbers, including multiple years with fiscally unsustainable budget deficits, underscore why the national government is seeking to broaden the tax base, improve the collection, hike taxes and boost tax income. That must occur if greater government spending for social programs including urgently needed poverty alleviation is to occur. Fighting poverty is a key element of Colombia’s post-pandemic recovery. By the end of 2021 the Andean country’s national statistics agency, DANE, reported that (Spanish) 19.6 million people in a country with a population of 52 million. This gives Colombia a poverty rate of 39.3% which except for 2020 is the highest since 2012. Socioeconomic inequality has also surged according to the World Bank. Colombia’s GINI coefficient, a key recognized measure of socioeconomic inequality where a lower number is better, soared to 54.2 in 2020 from a decade low of 49.7 in 2017. 

To combat an untenable fiscal deficit while boosting government coffers to fund spending for ambitious social programs the newly installed Petro administration introduced a tax reform bill designed to boost fiscal income from taxation. The proposals include (Spanish) hiking taxes for Colombians earning over $10 million pesos or approximately $2,400 per month and placing a levy on heavily process foods as well as beverages. Reforms also include lifting dividend withholding tax, from 10% to 20%, for foreign investors owning shares in Colombian companies. Then there is the proposal to increase taxes levied on extractive industries by implementing a 10% export tax on oil, coal, and gold. That levy will be payable when international oil and coal gold prices exceed a set threshold. The reference prices under consideration are $48 per barrel Brent for crude oil, $87 per metric ton for thermal coal, and $400 per ounce for gold. Colombia’s hydrocarbon regulator the National Hydrocarbon Agency (ANH – Spanish initials) will be tasked with setting the reference price. It is also planned to reduce the deductions energy companies can make from royalty payments. This is on the basis that royalties are not an expense associated with the production of crude oil, but the fee levied by the state for private companies profiting from the extraction of a finite public asset. Petro’s tax reforms, according to Ministry of Finance estimates, will add $5.9 billion to government coffers annually.

These developments have triggered considerable market jitters, particularly for participants in Colombia’s petroleum industry. Not only is crude oil the crisis-riven country’s single largest export but the oil industry is struggling to return to pre-pandemic production volumes due to a range of significant headwinds. Then there is Petro’s determination to reduce Colombia’s dependence on extractive industries and transition to sustainable energy which will see an end to contracting for hydrocarbon exploration and ban hydraulic fracturing. While existing production agreements will be allowed to continue plans to wind down Colombia’s petroleum industry, which is responsible for 20% of fiscal revenues, are afoot. Newly appointed Minister of Mines and Energy Irene Velez confirmed (Spanish) that the government will proceed with those plans. Such developments are weighing heavily on the outlook for the domestic oil industry, already under considerable pressure and facing a range of major headwinds, where production volumes of have yet to return to pre-pandemic levels.

There is, however, still considerable uncertainty as to whether this signals the end of Colombia’s hydrocarbon sector. The urgency with which government revenue must increase to head off a fiscal crisis and fund crucial poverty alleviation programs means the 10% export tax on crude oil will become a critical source of additional income. That may lead to a rethink at the highest levels of government as to how Colombia’s hydrocarbon and other natural resources can be better managed. 

By Matthew Smith for Oilprice.com

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