2013: What will become of Uganda’s oil fortune?

Oil has succeeded in returning high level acrimony to the political debate. The passage of legislation to regulate the oil sector in 2012 has raised tempers so high that some Members of Parliament have begun the new year in jail.

The level of excitement in the oil sector may be more than is necessary today. Yes, the potential for oil to transform the economy is there but tourism, mining and agriculture could do the same. And projections of $2 billion in annual revenue may be too high if one considers the fact that Uganda’s net share of each barrel may be somewhere between 60 and 70 per cent of the market price per barrel. Production sharing agreements are a cheap way for poor countries like Uganda to enter into the oil market, but they are an indirect mortgage of such an important resource.

Cheap oil producers like Saudi Arabia can get oil out of the ground at about $3-5 a barrel. Private oil producers where private companies own the resource and pay royalties to the government similarly have good economics. Uganda is unlikely to be a cheap oil producer for two reasons. First, it will take years to ramp up production to large volumes where Uganda can enjoy economies of scale. Small scale producers like Ghana- about 200,000 bbl per month have very little sway on the world market compared to large producers. It will take time to benchmark Uganda’s oil in the global oil market. Ghana chose a single marketing outlet to buy the entire output until such benchmarks for its Jubilee oil are set.

Inland oil producers face another problem: transportation of crude oil. Most pipelines today have been constructed to transport white products from ports to inland markets. Very few pipelines and these are costly ventures exist for the outbound marketing of crude. Even the fast growing producer, the United States, still has not been able to achieve this balance. A proposal to construct the Keystone Pipeline across the northern prairie and the midwest to transport crude from the new lucrative oil wells in the Dakotas was blocked by the Obama administration leaving only more expensive “tracked” options on the table: road and rail. In Nigeria the crude oil pipelines have been targets of sabotage, arson and outright pilferage. Royal Dutch Shell is terminating its relationships with the Nigeria National Pipeline Corporation on account of the untenable situation in the Niger Delta.

Uganda will have to move crude oil from inland to the coast. For drillers, an external outlet for crude ensures a more liquid market for their output. For Uganda refining domestically is a better option because it allows Uganda to address problems in its long-term internal energy imbalance growing upwards of 50MW to 100MW per annum that cannot be filled even if every last beautiful waterfall on River Nile is dammed. The public, for example, received a few months of non-existent load shedding before the monster returned. Even the cleanest energy economies like the United Kingdom can only produce about one third of their energy from clean sources like wind, solar and hydro.

If you are looking for a cautionary tale of overland pipelines transiting more than one country, you don’t have to look further than the struggles of newly independent Republic of South Sudan. Government has so far not disclosed how it intends to fund either a pipeline or a refinery. External funding carries a lot of risks, constraints and charges to future production that can reduce the longterm value of either option to the Ugandan Treasury.

Oil decision making follows a pattern of either open or closed systems. Closed systems carry more financial security but require a lot of faith and political capital to burn. One trust in government to make the right decisions is imperiled: closed systems become less of an option, indirectly negotiated contracts that protect the identity of the buyer and seller in return for guaranteed funding streams. Russia runs a closed system but many other countries run a variant of closed systems.

Open systems carry very high transaction costs. If you are looking at a PPDA model to sell crude oil, you only have to look at the challenges of entities involved in large scale procurement like NSSF. Allocation chits have to be turned over very quickly into cash and infighting among buyers and interested parties is likely to overwhelm fragile political systems like the Ugandan one. Faced with cheaper sources like offshore oil producers that are more proximate to refineries in Europe, inland producers have to sell at a deep discount.

American oil producers have been happy to offload their crude oil at a deep discount taking advantage of huge tax breaks; and everyone else is starting to feel the music. Ask the Nigerians long accustomed to Bonny light ruling that part of the world. 20 (1) million crude cargoes are lying unsold.
Mr Ssemogerere, an attorney and social entrepreneur, practices law in New York. kssemoge@gmail.com