Obama and the Gatekeeper

Obama and the Gatekeeper: President Lula Comes to Washington

- Brazil’s Lula visits Washington Saturday, the first Latin American leader invited to Obama’s White House
- Will Obama welcome Lula’s plea to change U.S. policy towards Cuba and Venezuela?
- The future of hemispheric energy trade

On Saturday, President Barack Obama will meet with Brazilian President Luis Inácio Lula da Silva in Washington. It is the first time Obama will meet with a Latin American head of state as President. Although it appears that energy policy will monopolize the meeting, Lula will undoubtedly also address needed changes in U.S. policy towards both Cuba and Venezuela. Diplomats in Brasilia have made it very clear that the most tangible manifestation of real change in Washington’s Latin America policy would be a rapprochement with Cuba. Brazilian Foreign Minister, Celso Amorim, captured this sentiment most recently when he asserted, “I think the best thing would be to raise the trade embargo on Cuba immediately…it’s impossible not to talk about the Cuban embargo. It’s indicative of U.S. policy toward the region.”

Lula is also expected to press Obama to make aid and development the foundation of U.S. policy in the region. The debilitating effects of the current economic crisis may overshadow the Brazilian President’s recommendation. Nevertheless, as Brazilian authorities repeatedly have insisted, any improvement in U.S. – Latin American relations must begin with a change in tone towards the leftist governments of Cuba and Venezuela. It remains to be seen if a pragmatic Obama will be able to resist the accelerant quality of Lula’s bear-hug diplomacy — that is when the Brazilian president bestows an abraço on you, there is no resisting the policy implications of such a gesture.

The symbolic nature of this visit cannot be exaggerated. While most of the developed world is undergoing a financial crisis, Brazil still retains some positive strength, with the country still recording significant economic and social achievements at home. For this and other reasons arising from the Brazil’s impressive statistics, Lula is emerging as the de facto spokesman for Latin America. In an essay published by the Economist last year, entitled “Building on the B in BRIC,” Lula wrote, “Brazil has never been in a better position to meet the challenges ahead and is fully aware of its growing global responsibilities.” For years, Brazil has been considered the country of the future, but now it is positioning itself as the country of the moment, as the United States looks to the south for at its new hemispheric partner.

In previous decades, whenever the developed world was mired in economic crisis, Brazil’s economy was reduced to a state of pandemonium. In the 1990s, when the Russian and Asian financial crises wreaked havoc across emerging economies, the International Monetary Fund (IMF) extended a sizeable loan to Brazil in order to prevent it once again from defaulting on its debt. This time around, however, the country is in a much stronger position to weather the current economic storm. But there is no question that the downturn has weakened the Brazilian economy. In the most optimistic scenario the country will experience a 1.6 percent growth rate, down from the 5 percent annual average over the last several years. Yet, Marcelo Carvalho, an economist at Morgan Stanley, is forecasting a growth rate of zero for the next year and his estimate is increasingly becoming a common benchmark amongst leading economists.

Nevertheless, even though Brazil’s economy may be weaker, it is still far better off than the European and American economies. Its banks are solvent, credit, though increasingly viscous, is still flowing from BNDES, Brazil’s national development bank, to favored companies such as Petrobras, and consumers remain more confident than their North American counterparts. The absence of these negative factors that are primarily propelling the crisis abroad is helping to shield Brazil from the worst of the downturn. In fact, according to the Organization for Economic Cooperation and Development (OECD), a Paris based research institute, Brazil may be the only one of 34 major economies to avoid recession in 2009. Recent reports coming from Brazil suggest that this conclusion may be somewhat optimistic.

These factors taken together are emboldening Lula’s quest to transform Brazil into a major geopolitical force. His upcoming meeting with President Obama is part of a broader strategy to bolster the country’s international prestige. Earlier this month, Time reported that Lula expressed great expectations that “Obama will turn a new page on Latin America and put aside traditional U.S. insistence on a narrow, one-sided approach that focuses almost exclusively on free trade and the drug war.” Pursuant to this view, the agenda for the upcoming meeting will cover a broad range of subjects. Of these, the most notable are energy policy and U.S. strategy in general towards Latin America, particularly in regards to Cuba and Venezuela. It is highly probable that the first of these strategic interests will merit a good deal of attention on Saturday. In a recent COHA interview with a top advisor to the Lula administration, who wishes to remain anonymous, confirmed that energy policy would dominate the discussion between Lula and Obama, but it will be far from being the exclusive concern.

Oil Gives Lula More Room for Maneuver
In November 2007, Petrobras, Brazil’s state owned oil and drilling company, publicly disseminated information on the discovery of an oil field, located off the coast in the area between Rio de Janeiro and São Paulo in the Santos Basin. The field, known as Tupí, is suspected to hold between five and eight billion barrels of light crude oil, although there is speculation that it could be much larger. Petrobras refuses to estimate the total size of the reserves. It is the largest oil find since the discovery in Kazakhstan in 2000. This newfound source of oil, coupled with the fact that Brazil is one of the world’s largest producers of soybeans and sugarcane-based ethanol, are aiding the country’s transformation into an energy giant. In an era that has been branded the “geopolitics of scarcity,” and in the period prior to the downturn when commodity prices were surging, these valuable energy resources contributed to leveraging Brazil’s strategic significance as a regional powerhouse.

Complicating the extraction of Tupí’s reserves is the fact that the oil deposits are perfectly preserved under a deep layer of pre-salt, that reaches about 2,000 meters in thickness at certain locations. While Petrobras has long been recognized as a leader in offshore and deepwater drilling technology, the project, will nevertheless be costly and the company lacks the funds to pursue it alone. Petrobras has estimated that the exploration and development of Tupí will require approximately $175 billion dollars between 2009 and 2013, with costs most likely to further appreciate shortly thereafter. In a normal financial environment, the company would be able to raise much of this capital on the international markets. But in these prickly financial times one need not be a wizard of economics to know that international credit markets are all but frozen, and the disposable liquidity in the system has effectively been wiped out.

In order to counter these complications, Petrobras has joined forces with several foreign oil companies to develop the fields. These include ExxonMobil and Amerada Hess of the U.S., BG of the UK, Galp of Portugal, Repsol of Spain and Royal Dutch Shell. Even with so much international interest, the project nevertheless, still finds itself short of funding. Thus, Brazil has used the exploration of Tupí as a venue to diversify its trading partners and expand foreign investment in the country’s petroleum sector. In fact, after Lula meets with Obama on Saturday, he will travel to New York to meet with various business executives about pending and future fiscal investments in Brazil.

Even more telling of Brazil’s desire to attract foreign capital is a monumental deal that Lula signed with the Chinese government in February that guarantees long-term oil supplies to China in return for the necessary financing to develop Brazil’s vast oil fields. The deal commits Petrobras to supplying China with approximately 100,000 to 160,000 barrels of oil a day in exchange for loans of up to $10 billion. Petrobras is currently in negotiations with four different consumer countries to secure financing in exchange for oil supplies as an alternative to more traditional sources of capital that have precipitously evaporated away over the last year.

The U.S. Looks to Brazil for Energy Security
The Lula advisor who briefed COHA envisaged that Obama will attempt to strike a similar deal with Lula on Saturday, or at least initiate a preliminary discussion of the matter. It would be advantageous for the U.S. to secure oil supplies from a country that is politically stable, relatively near U.S. ports, and engaged in the opening rounds of a strategic alliance with Washington. However, at a time when the United States is running a deficit of nearly $11 trillion, it appears that Obama will be hard-pressed to secure the necessary funds for a deal analogous to the one just signed with the Chinese. Nevertheless, for Washington, it could be considered a strategic blunder to allow China to gain greater leverage in an area that traditionally has been considered a U.S. sphere of influence. Furthermore, if the U.S. fails to supplement the Chinese deal it could contribute to the perception that Beijing and Washington are engaged in a strategic rivalry over securing supply lines to finite sources of energy, and in turn enhance grounds for the kind of misperceptions that can lead to conflicts amongst major powers.

Obama could ideally offer Lula a figure such as $20 billion to be paid out over a period of twenty years in exchange for long-term oil supplies from Brazil. Financing for such an agreement could be raised from a combination of U.S. government guarantees and funds from the Overseas Private Investment Corporation (OPIC). It is crucial that the U.S. economic crisis does not prevent it from capitalizing on such a vital opportunity to diversify its sources of oil supplies, if Brazil is willing.

The Brazilian newspaper Folha de Sao Paulo has speculated that Brazil may supplant Venezuela as the primary Latin American oil supplier to the United States. It has been stated that Brazil and the United States have maintained informal contacts for months with the purpose of increasing petroleum exports to the U.S. It comes as no surprise that Obama is now looking to reduce U.S. dependence on Venezuelan oil because of its frayed relations with the Chávez administration. Presently, the U.S. imports about 11 percent of its oil supplies from Venezuela. Depending on the amount of petroleum that Petrobras is able to extract, Brazil could become a worthy alternative.

In another article appearing in the Spanish periodical El Pais, Brazilian sources confirmed Lula’s vested interest in augmenting the Brazilian presence in the U.S. hydrocarbons market, if it means appearing to infringe upon Venezuelan interests, rather than actually doing so. Moreover, the article suggests that the primary objective of Lula’s government in regards to the recently discovered oil fields is to diversify domestic markets and decrease Brazil’s reliance on imports. A source close to the Lula administration observed that, “essentially, Petrobras is attempting to break into the market for hydrocarbons and its derivatives…because of its geographic proximity and the strength of the political dialogue established with the new American president, the United States could become a big buyer of Brazil’s ‘black gold’.” But this does not mean that Lula himself sees Brazilian oil as a competitor with Venezuela for the U.S. market; the fungible nature of oil supplies militates against this.

Such observations that Obama would welcome Lula as an alternative energy supplier seem to run counter to Lula’s putative pledge to Hugo Chávez, in which he promised to act as an advocate for Venezuela during his meeting with Obama. Is Lula positioning himself as Latin America’s Otto Von Bismarck? Perhaps, but so far his shrewd political skill has served Brazil well, and he has given no reason to doubt the fidelity of his desire to stand in for Chávez’s cause. As one friend of the Brazilian President opined to Time, “Lula was always a negotiator…the danger with him is that he can be rather messianic…but he is one of the world’s most intelligent politicians.” It seems that Obama may finally meet his match on Saturday.

Sweet American Serenades: Ethanol Trade
If President Obama is to remain true to his word and reduce U.S. dependence on oil by at least 30 percent by the end of his tenure, a preliminary petroleum deal with Brazil would have to be supplemented by one that focuses on alternative energy sources, namely reaching a common ground on ethanol trade. Together, the two countries are responsible for 70 percent of worldwide biofuel production. As set forth by the terms of the U.S. – Brazil Agreement concerning biofuels, various initiatives have been launched to expand ethanol production in the hemisphere. In conjunction with both governments, the Inter-American Development Bank (IDB) is providing funding to support feasibility studies to find new land for producing crops such as sunflower and sugarcane. These would be converted into ethanol in countries such as Honduras and Costa Rica, according to Arnaldo Vieira de Carvalho, a sustainable energy specialist at the IDB. But the agreement neglects to address direct ethanol trade relations between the U.S. and Brazil. This is an area that has been a major flashpoint in this bilateral relationship on ethanol, which has to date been more based on an illusion than on reality.

At the root of the conflict is the 54-cent tariff levied on all Brazilian fuel imports to the U.S. The purpose of the tariff is to protect U.S. corn-based ethanol, and has the effect of making Brazil’s sugarcane-based ethanol less competitive in the U.S. market. Vieira maintains that such measures will inevitably harm the United States, because when corn-based ethanol is eventually exposed to international markets, it will fail to maintain a competitive advantage. He invoked the example of Cuba as evidence of this type of failure. Through different mechanisms of subsidization and price controls, the Cuban government overly protected the sugar industry. Prices of sugar were too high in the domestic market relative to international markets. As a result of this incessant protectionism, Cuba is now incapable of producing the type of cheap, competitive and efficient ethanol that Brazil is now exporting as a matter of course.

Obama would be wise to set himself to navigate a course that would open up U.S. markets to Brazilian ethanol. Not only is sugarcane-based ethanol more efficient and environmentally sound than its corn-based counterpart, but it is also cheaper to produce. This is because the chemical process involved in producing ethanol from sugarcane requires that less energy is consumed. According to Vieira, reducing the current tariff will have to be a gradual process in order to avoid sending shock waves through the U.S. ethanol industry. This scenario is readily achievable and there even exist precedent that supports the notion that both types of ethanol can coexist in the U.S. In 1986, there was a hearing before the International Trade Commission in Washington. At the time, the U.S. iron ore industry sought to impose countervailing duties on Brazilian iron ore on the grounds that iron production in Brazil was receiving improper governmental subsidies, making it more competitive and harmful to the trade of domestically produced iron ore.

Ultimately, the case was decided in favor of Brazil. The decision rendered was influenced by the fact that Brazilian iron ore, much like Brazilian ethanol, is of a much higher grade than that produced in the U.S. In order to protect the production of steel in the Great Lakes region, the verdict ruled that so long as shipments of Brazilian iron ore did not extend to the U.S. Midwest through transit from the St. Lawrence River, there was no need to implement the proposed countervailing duties.

It is entirely feasible that a similar agreement could be achieved with respect to ethanol trade. Logistically, it makes more sense for the East Coast of the United States to import Brazilian ethanol than build a costly pipeline to transport it from the Midwest. Corn-based ethanol could theoretically continue to supply its own region and the West Coast, while Brazilian ethanol would simultaneously be used on the East Coast. Such an agreement would be a major breakthrough for U.S. – Brazil relations in the direction of a rational use of resources. This type of concession on the part of the United States would be a welcome change from the unilaterally applied policies of the past eight years and would also demonstrate a greater tolerance in Washington for increased multilateralism and cooperation in authoring, and then complying with, international agreements.

The Building of a Solid Foundation for Future U.S. – Brazil Relations
All eyes will be on Lula come Saturday. For the first time, a Latin American leader will enter the Oval Office with a strategic advantage over a U.S. President. Obama’s courtship of Lula is also significant because it demonstrates that Washington understands a strategic partnership with Brazil is key to improving U.S. – Latin American relations. The country’s regional clout makes it a natural intermediary for the United States in its relations with countries such as Cuba and Venezuela. Brazil recognizes these newfound responsibilities. Celso Amorim recently proclaimed, “We are friends with the United States, we are friends with Venezuela, and we are friends with Cuba. If we can help – that’s fine.” Lula has already made recommendations for positive U.S. action in Latin America, namely to lift the Cuban embargo and seek to engage Venezuela on more collaborative terms, and Obama would be well advised to take heed.

Furthermore, Obama should not let the economic crisis detract from pursuing a deeper U.S. fiscal commitment to Brazilian energy resources. This is a vital opportunity for the U.S. to weaken its dependence on Middle Eastern oil and lessen its entanglement in the politically unstable region. Additionally, a breakthrough in ethanol trade negotiations would give the U.S. access to more efficient sources of alternative energy than are currently available to it. Brazil is a critical partner for the U.S. and Obama should make every effort to convey this sentiment to Lula on Saturday.

This analysis was prepared by COHA Research Associate Lilly Briger

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