As previously discussed, the Mexican government’s reform agenda – the Pact for Mexico – has pursued a ‘staged’ approach to fulfilling the 95 promises on which the three major political parties agreed after last year’s presidential election. Thus, the first reforms addressed – the education and financial reforms – have been relatively less controversial. This week, the stakes grew significantly as Pres. Peña submitted his party’s proposal for fulfilling the Pact’s promises in the energy sphere.
The Mexican energy sector has been ailing several years, with oil production declining 25 percent since 2004. Under the current production projections, Mexico would become a net importer of oil by 2020, despite a historical record as one of the top oil producers in the world and the existence of ample untapped reserves. This is particularly worrisome because oil revenues account for 35 percent of government revenue.
Arguably, state-owned PEMEX is one of the central underlying causes of Mexico’s dire energy situation. It is not all PEMEX’s fault – under the current arrangement, PEMEX by law pays 70 percent of its income in the form of taxes and duties, which means the company is technically bankrupt on paper and precludes expenditures on investment. And some of the blame does lie with PEMEX, where mismanagement and corruption have prevented the company from developing into a modern, innovative business.
The urgency of the energy issue, plus the perceived failure of the previous administration’s reform both made energy reform one of the central issues in last year’s presidential election. After the election of Pres. Peña, the energy issue was added to the Pact for Mexico.
What does the Pact promise?
The Pact makes seven promises (Nos. 54-60) under section 2.5, entitled, Implement an Energy Reform that will be a Motor of Investment and Development. The promises are:
54. Hydrocarbons will remain as public property
55. Transform PEMEX into a public company with a productive character
56. Increase the exploration and production of hydrocarbons
57. Encourage a competitive environment in the economic areas of refining, petrochemistry, and transportation of hydrocarbons
58. Expand the powers and strengthen the National Commission on Hydrocarbons
59. Convert PEMEX into the driving force of a national supply chain of providers
60. Make PEMEX one of the central cores in the fight against global climate change
The Pact does not fill in any of the granular details about how any of these promises will be kept (although No. 54 is fairly self-explanatory). The original timeline for proposing implementing legislation was the first half of 2013, so the reform is already a few months behind schedule. In principle, the whole reform is supposed to be completed by the end of 2014.
What proposals are on the table?
The National Action Party (PAN) and Party of the Democratic Revolution (PRD) both made proposals before Peña’s Institutional Revolutionary Party (PRI). Indeed, at the last minute Peña actually delayed the presentation of his proposal by one week. Here is what the three major parties have proposed:
On August 12, 2013, Pres. Peña presented the PRI’s proposed energy reform (see detailed reform here). Peña surprised observers who had expected the reform by announced on Wednesday, August 14. The PRI proposal consists of 10 elements, five related to oil and gas, and five related to electric power.
Oil and Gas:
- Reenact the text of Art. 27 of the constitution from the Lazaro Cardenas era, which permits “shared utility contracts”, which permit PEMEX to act as either a partner in oil extraction activities, or as contractor of services provided by private companies. Notably, this differs from a ‘production sharing agreement’ arrangement, which permits private oil companies to actually own a share of the oil, rather than just the cash equivalent.
- Adopt a new fiscal regime for PEMEX, which will apparently be included in the upcoming tax reform.
- Restructure PEMEX into two subsidiaries: (i) Exploration and Production, with a focus on oil and gas, and (ii) Industrial Processing.
- Improve transparency and accountability by adopting best practices with respect to PEMEX’s contracts and activities, which will ensure Mexicans have adequate information on the company’s expenses.
- Adopt national content rules in PEMEX procurement and infrastructure projects, which will leverage PEMEX as an engine of development for the new industrial policy of Mexico.
- The reform of Art. 27 will also allow private participation in the power generation sector.
- Improve control over the national electricity system and public distribution system, including through the purchase of energy at the lowest price from each producer.
- Strengthen the Federal Electricity Commission by granting greater operational and organizational flexibility.
- Strengthen the Energy Regulatory Commission.
- Make the energy reform also a “green reform” to promote the adoption of cleaner energy sources at the lowest cost, such as solar, wind, and gas.
The PAN submitted its proposed reform in late-July (see detailed reform here). The central element of the PAN proposal is the liberalization of the energy sector to private investment by establishing a regime of concessions for the the exploration and production of oil, gas, shale gas, and shale oil. The PAN proposal entails changes to Articles 25, 27, and 28 of the Mexican constitution. The PAN proposal goes to great lengths to state that the reform would NOT privatize PEMEX.
The PRD submitted its proposal in late-June. The PRD’s position is staunchly opposed to the entry of private capital into PEMEX and the proposal does not include any modifications to the constitution. The PRD proposal consists of eight central points:
- Change PEMEX’s fiscal regime
- Ensure budgetary autonomy for PEMEX
- Ensure organizational autonomy of PEMEX
- Strengthen the Secretary of Energy and the National Commission on Hydrocarbons
- Rates, prices, and subsidies for fuel and electricity to ensure equitable access to energy
- Convert the Oil Revenue Stabilization Fund into a financial institution
- Promote technological research and development
- Energy transition, ecological stewardship, and sustainable development
What next? – observations on the proposals
Reading the three proposals, one gets the sense that the natural coalition is between the PRI and PAN, both of which want greater private participation in PEMEX activities. So why did Peña not offer a more restrictive version of PAN’s proposal to allow foreign ownership of oil and gas? The most likely answer is public opinion: 65 percent of Mexicans are opposed to private investment in PEMEX itself, and 47 percent are opposed to private investment in the electricity sector.
The fact that public ownership of hydrocarbons is enshrined in the Mexican constitution speaks to the seriousness with which the is Peña’s proposal expressly references Lazaro Cardenas, the former Mexican president who is viewed as a hero for nationalizing the oil industry.
Peña is seeking stake out the middle ground between quasi-privatization (PAN) and status quo (PRD). Although foreign companies were likely hoping for more from the PRI proposal, it is probably the best option for both Mexico (see section below) and foreign investors. A plan facing broad-based public opposition could either face total defeat or reversal after a change in government (and perhaps a reversal of any agreements formed under the reform). Moreover, the PRI proposal is indeed striking when compared to the general approach to privatization in Latin America, which has been largely negative for several years. It would be politically risky for Peña to be seen as bucking both domestic public opinion and regional trends on such a sensitive issue.
Finally, it is important to remember that the energy reform is taking place in the context of a broad-based package of reforms – the Pact – the overall success of which could be undermined by failure of any its constituent parts.