VZCZCXRO1883
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DE RUEHSO #0512/01 1311842
ZNR UUUUU ZZH
P 111842Z MAY 06
FM AMCONSUL SAO PAULO
TO RUEHC/SECSTATE WASHDC PRIORITY 5035
INFO RUEHBR/AMEMBASSY BRASILIA 6173
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RUEHPE/AMEMBASSY LIMA 0977
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RUEHCV/AMEMBASSY CARACAS 0294
RUCPDOC/USDOC WASHDC 2427
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RHMFISS/CDR USSOUTHCOM MIAMI FL

UNCLAS SECTION 01 OF 04 SAO PAULO 000512 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
STATE FOR WHA/BSC, WHA/EPSC, EB/ESC/IEC/ENR, EB/ESC/IEC/EPC 
STATE PASS USTR MSULLIVAN/KLEZNY 
STATE PASS EXIMBANK 
STATE PASS OPIC FOR DMORONESE, NRIVERA, CMERVENNE 
NSC FOR CRONIN 
SOUTHCOM FOR POLAD 
TREASURY FOR OASIA, DAS LEE AND FPARODI 
USDOC FOR 4332/ITA/MAC/WH/OLAC/JANDERSEN/ADRISCOLL/MWAR D 
USDOC ALSO FOR 3134/USFCS/OIO/SHUPKA 
USDOE FOR GWARD/SLADISLAW 
DOL FOR ILAB MMITTELHAUSER 
AID/W FOR LAC/AA 
 
TAGS: EPET ENRG ECON PGOV PREL EIND EINV BR
SUBJECT: SAO PAULO PERSPECTIVES ON BOLIVIAN GAS SITUATION 
 
REFS: (A) SAO PAULO 492; (B) BRASILIA 888 AND PREVIOUS 
 
      (C) SAO PAULO 464 
 
SENSITIVE BUT UNCLASSIFIED - PLEASE PROTECT ACCORDINGLY 
 
------- 
SUMMARY 
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¶1. (U) Representatives of Sao Paulo's leading industrial federation 
indicate that while gas supplies from Bolivia remain stable after 
that country's May 1 hydrocarbons nationalization announcement (refs 
B-C), Brazilian industries relying on gas are very price-sensitive, 
and short-term cost increases may affect competitiveness.  The 
primary consumers of Bolivian gas in Brazil are the glass, ceramic, 
chemical and metallurgical industries.  Recent conversion to gas 
from fuel oil has left these industries more cost-competitive, but 
also dependent on Bolivian supply.  Sao Paulo state Governor Lembo 
is contemplating a visit to Bolivia at the invitation of President 
Morales; while regarding the situation as serious, Lembo does not 
appear unduly alarmed and asserted that even a Bolivian gas shut-off 
would not be fatal to the state's economy.  END SUMMARY. 
 
---------------------------- 
PROFILE OF BOLIVIAN GAS USE 
---------------------------- 
 
¶2. (SBU) On May 5, Consulate staff met with Karla Christina Martins 
Borges and Diego Zancan Bonomo of the Sao Paulo State Federation of 
Industries (FIESP) to discuss the use of Bolivian gas in Brazil and 
the effect of the recent nationalization decree (refs B-C) on Sao 
Paulo industry.  While only 1,300 of the over 130,000 industries in 
Sao Paulo rely on gas, they are major industrial players and absorb 
80 percent of all gas consumed within the state.  These industries 
are concentrated in the ceramics, glass, chemical and metallurgical 
sectors. 
 
¶3. (SBU) Any disruption in the Bolivian gas supply would have a 
significant impact on industrial production across southeastern and 
southern Brazil, according to the FIESP representatives.  Sao Paulo 
state, with a population of about 40 million and a 2005 GDP 
approaching USD 200 billion, is the single largest consumer.  It 
uses 75 percent of all imported Bolivian gas, which, in turn, 
accounts for 90 percent of all gas consumption within the state, 
they said.  While total gas usage is less in the border states of 
Mato Grosso and Mato Grosso do Sul and the three southernmost states 
of Parana, Santa Catarina and Rio Grande do Sul, the gas-reliant 
industries in those states depend entirely on imported Bolivian gas. 
 
 
¶4. (U) Industrial conversion to gas from fuel oil began when the 
"Gasbol" pipeline connecting Bolivia and Brazil was completed in 
1999, according to the FIESP representatives.  Conversion to gas was 
pushed by the government and pulled by industry itself.  The GOB 
promoted gas conversion for two reasons:  First, it was seen as one 
element that would allow Brazil to become "energy self sufficient" 
in oil (a goal whose achievement has recently been trumpeted); and 
second, industrial conversion from oil to gas was environmentally 
friendly.  On the other side of the coin, industrial leaders were 
receptive to gas conversion, Borges and Bonomo said, because 
inexpensive gas would lessen their production costs and make their 
 
SAO PAULO 00000512  002 OF 004 
 
 
products more competitive. 
 
¶5. (U) The end result was that many industries converted their 
factories to gas-powered production, which, up to now, has been a 
good business decision.  FIESP representatives reported that the 
sectors of the industrial economy with the greatest growth over the 
past 3-5 years were those that converted to gas.  Moreover, some of 
the small- to medium-sized glass and ceramic factories have been 
able to begin to export due to cost savings on energy. 
 
--------------------------------------------- - 
LOOKING AHEAD: SUPPLY STABLE, BUT COST TO RISE 
--------------------------------------------- - 
 
¶6.  (SBU) FIESP representatives did not expect any short- to 
medium-term disruption in gas supply to Brazil: trade, they 
explained, is too important to both nations for Bolivian President 
Evo Morales to make such a drastic political move.  For Brazil, the 
industrial concerns over gas scarcity are clear, but popular uproar 
over a cutoff in supply would also be pronounced.  For example, 
there are now over one million cars in southern Brazil that have 
been converted to natural gas.  On the Bolivian side, approximately 
35 percent of Bolivian tax revenue comes from Petrobras alone and 70 
percent of Bolivian gas is sold in Brazil.  Moreover, Bolivia is 
dependent on Brazilian ports for its non-gas exports, and further 
antagonism of its giant neighbor would be extremely risky. 
 
¶7.  (SBU) Notwithstanding Lula's pledge that domestic gas prices 
would not rise, FIESP representatives do expect short-term price 
increases, although Brazilian consumers would likely be shielded in 
the run-up to October presidential elections.  They predicted that 
the GOB might either compel Petrobras to absorb the costs or might 
increase taxes on gasoline to subsidize natural gas prices. 
Eventually, however, price increases will work their way through the 
system to consumers.  This concerns FIESP because on the 
micro-economic level, industrial competitive gains and nascent 
export initiatives could be jeopardized, and on the macro-economic 
level, increasing gas prices could create inflationary pressures. 
 
¶8.  (SBU) The FIESP representatives indicated that the timing of 
price re-negotiations will be critical because of the highly-charged 
political environment across South America and the constant 
sensitivity to costs that Brazilian export industries face.  The 
question of who negotiates with Brazil will also prove imperative to 
Brazilian business interests.  (The Brazilian delegation that 
arrived in La Paz May 10 included both Petrobras President Gabrielli 
and Minister of Mines and Energy Rondeau.)  The FIESP 
representatives believed that if the issue were left solely to 
Petrobras, the company would seek to pass along the full extent of 
price increases to consumers.  The company has taken a harder line 
than Lula, stating emphatically that it will not make further 
investments in Bolivia under the currently proposed tax- and 
profit-sharing arrangements.  FIESP representatives noted that if 
negotiations are conducted government-to-government, Lula's already 
conciliatory tone with Morales could box him into agreements of 
political expediency at the cost of industrial competitiveness in 
Brazil. 
 
 ------------------------------------ 
SAO PAULO GOVERNOR MAY VISIT BOLIVIA 
------------------------------------ 
 
SAO PAULO 00000512  003 OF 004 
 
 
 
¶9.  (SBU) Also on May 5, Sao Paulo Governor Claudio Lembo (see ref 
A) told CG that he had received a letter of invitation from 
President Evo Morales to visit Bolivia.  The Bolivian Government 
wants to thank Lembo, who met with the President of the Bolivian 
Congress when the latter visited Sao Paulo recently, for several 
small services.  These include arranging a kidney transplant at a 
Sao Paulo hospital for a Bolivian child and working with the 
municipal government of Sao Paulo to open a plaza where Bolivian 
immigrants can hold street fairs and other events.  Lembo received 
the invitation before the nationalization decree and occupation of 
Petrobras facilities.  He has not decided whether or not to accept 
the invitation.  If he does, the visit would take place Friday, May 
26, and last just over 24 hours.  His foreign affairs advisor, who 
originally supported the trip, has now advised against it in light 
of fallout from the nationalization. 
 
¶10.  (SBU) Lembo expressed the view that, although Sao Paulo state 
depends heavily on Bolivian gas, a shut-off would have a "serious 
but not dramatic" impact on the state, which also has access to 
hydro-electric energy.  He is tempted to go to Bolivia, if only 
because he thinks as a conservative (Lembo was President of the 
pro-regime ARENA party during the military dictatorship), he could 
sow confusion among the leftists and populists, and could complicate 
Lula's campaign bid (though Lembo acknowledged that this foreign 
policy flap was unlikely to affect Lula in the polls).  He conceded 
that the Bolivian situation is delicate and that if he goes, he 
should say as little as possible publicly (though he might tell 
Morales in private that he's making a big mistake), since the 
controversy is between two national governments and he is a mere 
"provincial" leader.  He is not terribly concerned about possible 
political risk for himself, except that his conservative colleagues 
might criticize him. 
 
¶11. (SBU) If he goes to Bolivia, Lembo would be accompanied by Sao 
Paulo State Secretary of Energy Mauro Arce, a Captain from the state 
Military Police, and the Bolivian Consul General in Sao Paulo.  He 
has not discussed the visit with PSDB presidential candidate 
(ex-Governor) Alckmin or PSDB Sao Paulo gubernatorial candidate 
(ex-Mayor) Serra, nor does he intend to involve them in any way if 
he does go to Bolivia.  Lembo does not believe the Bolivian gas 
situation will have any impact on Brazil's upcoming national and 
state elections.  He believes Morales took the action to placate the 
Bolivian indigenous community, though he also recognizes the 
influence of Hugo Chavez, whom he thinks someone should take down a 
notch or two. 
 
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COMMENT 
------- 
 
¶12. (SBU) "Wait and see" seems to be the operative tone thus far 
among Sao Paulo's gas consumers affected by Bolivia's 
nationalization effort.  And while most analysts expect that the 
overall impact on the national economy of a Bolivian gas cut-off or 
a substantial price increase would not be significant, the 
competitiveness of certain industries, particularly steel, would be 
hurt.  Steel exporters, among others, have already postponed 
investments in capacity expansion in Brazil due to the strong Real 
and do not have much margin to absorb energy price hikes.  In the 
event Brazil is forced to swallow significant gas price increases, 
 
SAO PAULO 00000512  004 OF 004 
 
 
and assuming Petrobras passes along much or all of those increases 
to consumers - not a foregone conclusion - we would expect industry 
to seek relief from the GoB on other cost elements.  Specifically, 
business leaders might intensify their already sharp criticism of 
GoB policy on the interlocking issues of the strong Real and high 
real interest rates.  Given its commitment to a floating exchange 
regime and inflation targeting, however, the most the GoB would be 
able to offer would be targeted tax breaks.  END COMMENT. 
 
¶13.  (U) This cable was coordinated/cleared with Embassy Brasilia. 
 
MCMULLEN