Luiz Inacio Lula da Silva gets oily in 2010.

Oil Scandal Mucks Up Brazil's Elections

Mac Margolis writes about Latin America for Bloomberg View. He was a reporter for Newsweek and is the author of “The Last New World: The Conquest of the Amazon Frontier.”
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When Brazil announced a massive discovery of deep sea oil in 2007, President Luiz Inacio Lula da Silva compared the find to a winning "lottery ticket." Cashing it in was another story. Standing between Brazil's oil cache and fortune were at least four miles of seawater, rock, sand and salt, plus a policy sinkhole and -- now, we know -- a whole lot of muck.

Leave it to Petroleo Brasileiro SA's experts to finesse the engineering.

Last month, federal police heard key testimony in a corruption scandal that broke earlier this year and has since soiled the name of Brazil's biggest company, spread to the highest offices in Brasilia and driven the news cycle ahead of this Sunday's presidential elections.

The star witness is Petrobras's former refinery director Paulo Roberto Costa, who evidently did much more in his corner office than keep the pumps primed. Costa was arrested in March and admitted to taking part in a massive money-laundering and overbilling scheme that allegedly used the Brazilian oil major to divert hundreds of millions of dollars to political allies of President Dilma Rousseff.

If not for some diligent sleuths, the case might have ended up as one more political mud-fest, ultimately tidied up by clever lawyers and a pact of silence among thieves. Instead, Costa turned state's witness and confessed to taking a $636,000 bribe in the purchase of a Texas oil refinery, a lousy deal that cost Petrobras $1.25 billion and later forced the company to write off $500 million.

And there was more. Costa went on to describe how Brazil's signature multinational had basically been converted into a giant ATM, tapping clients to fund political campaigns, including allegedly Rousseff's.

Shocking as all this may be, it's not even the worst news for Petrobras. More troubling are the decisions taken by the light of day in Brasilia, where policy makers drunk on resource populism have been busy turning bounty into liability. Today Petrobras is considered the most indebted publicly traded oil company, its market value down 58 percent since 2010.

To appreciate the problem, go back 20 years. To rescue a failing economy, then-President Fernando Henrique Cardoso sold off scores of profligate state companies, ended Petrobras's monopoly and invited foreign investors to bid for drilling concessions. Capital poured in and national oil output grew by 7 percent a year from 1997 to 2010, legislative oil analysts Ailton Braga and Luiz Bustamante wrote recently in an article for Valor Economico.

Then greed and government got in the way. Convinced that recovering Brazil's ultra-deepwater oil was a "low-risk" operation, Cardoso's successor renationalized the business. Lula welcomed foreign contractors, but subordinated them to Petrobras, the sole operator in the so-called pre-salt oil fields. Local content rules obliged prospectors to buy overpriced Brazilian equipment.

But no matter. The fortune salted away under the sea had become a metaphor for Brazil's hidden virtues. The company's net worth soared, reaching $223.2 billion in 2010, "behind only Exxon Mobil," Petrobras announced. Lottery ticket in hand, President Lula hit the road, talking up the world's newest energy frontier.

Then the music stopped. Drilling auctions were halted, as lawmakers squabbled over imaginary royalties and regulators rebuilt the walls around Petrobras. Production stagnated. To damp inflation, Rousseff capped fuel prices, stoking fuel consumption and forcing Petrobras to eat the loss. No wonder every time Rousseff climbs in the voter polls, Petrobras shares tank.

The damage spread to the nation's pioneering ethanol sector, where clean-burning fuel distilled from sugarcane can't compete with subsidized gasoline, threatening a wave of bankruptcies.

More than energy assets are at stake. Petrobras's rise was once an emblem of the new Brazil and a model for Latin America. When Mexican President Enrique Pena Nieto's advisers drew up sweeping energy reforms, they looked to Petrobras and Brazil's reforms 20 years ago. Now Petrobras has become the model to avoid.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

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Mac Margolis at