Millions of motorists hit the road over the Memorial Day weekend, kicking off the summer driving season. Some might have been pleased that prices at the gas pump have finally started to fall since the spike that accompanied the invasion of Iraq. But before drivers -- or holders of short positions in unleaded gasoline futures -- become too convinced that prices will continue dropping, consider the smoldering situation in Venezuela, OPEC's third-largest producer. Just
last December, labor and opposition groups staged a nationwide strike in an attempt to remove Venezuelan President Hugo Chavez from office. Tanker captains joined strikers at state-owned oil monopoly Petroleos de Venezuela S.A., also known as PDVSA, and refused to move cargo. Output from the oil-dependent country of 25 million inhabitants plunged to 200,000 barrels a day from a prestrike level of 3.2 million barrels a day. The reduction in supply from Venezuela spurred rallies in unleaded gasoline and crude oil that took prices more than 12% higher during the month. Chavez survived December's strike and de facto coup, and Venezuelan output rebounded sharply. However, the political and economic situation in the hands of Chavez continues to devolve. The resulting uncertainty greatly increases the odds of another round of social upheaval and threatens to disrupt the supply of oil and refined products from Venezuela. At the heart of the maelstrom is the government's disenfranchisement of the opposition. A law has been proposed to censor the media and potentially quiet opposing voices. The "gagging law" needs only to be passed by the Chavez-dominated national assembly. But more devastating to the economy has been the imposition of foreign currency exchange controls on the country.
The result? The economy contracted a record 29% in the first quarter of 2003, and inflation is running in excess of 30%. As Chavez seems to undermine the private sector, he's shoring up his political base by usurping key businesses. His administration has opened more than 100 government stores in poor neighborhoods and stocked the shelves with reduced-cost staples such as rice, beans and cooking oil. Cuban food brokers are helping the Chavez government with the procurement and bypassing established importers. Thousands of employees who dissented or participated in last year's strike have also been fired from PDVSA, the nation's biggest employer, exacerbating the economic spiral. In short, Chavez's attempt to grab more power has made the already-volatile country a political powder keg, a situation that threatens U.S. oil and gasoline imports.
U.S. environmental law requires that almost all of the high-density population centers from Boston to San Diego burn the less-polluting reformulated grade (RFG) of gasoline from March through October. Refineries have had trouble meeting demand in the past few years since RFG was mandated. This summer looks no different. Last week, the Energy Department said RFG stocks dipped by 10% to 33.3 million barrels as production fell. This occurred as inventories of the regular-grade unleaded gasoline rose.
Why? Thousands of PDVSA employees were fired and replaced by loyalists. Among the fired were employees skilled in production and quality control methods that helped ensure consistent product. Political loyalty does not guarantee high quality. The unleaded gasoline contract traded at the New York Mercantile Exchange conforms to the specifications for RFG and should reflect the fundamental situation of tightening supplies. The June contract (HUM3:NYMEX) closed at a one-month high Friday and broke the bearish symmetry that had helped define its downtrend. Look for this contract to test resistance at 0.9350 and possibly 0.9750.