Mexico’s Energy Reform: Five Factors that will Determine its Future

Photo: BaldoT83

Mexico has made historic progress in the two and a half short years since it amended its constitution to allow private investment in its energy sector. During the worst oil price crash in decades, Mexico has managed to hold three bid rounds, welcome 16 new private oil companies into its upstream industry, maintain a deep and open dialogue with investors, and craft one of the most transparent frameworks on the planet.  Mexico’s first deep water auction, to be held in December 2016, is one of the most eagerly awaited in decades. 

Five factors will determine whether Mexico’s herculean efforts will bring lasting prosperity to the nation or turn this best in class reform effort into disappointment.

  1. Competitiveness.  In a low price environment where international oil and gas companies have cut more than $380 billion in projects and are projected to cut even more, the return on investment (ROI) offered by Mexico compared to its competitors will determine investment levels in Mexico’s upstream for the next several years. This ROI is a factor of fiscal terms and regulatory risk and cost.  Mexico’s main competition is the U.S. Gulf of Mexico, U.S. shale, and opportunities to farm into Brazil’s deep water if that country revises its laws and allows companies other than Petrobras to operate new pre-salt projects. Mexican policymakers are working intensely on addressing regulations stipulating the circumstances in which the government can rescind contracts to ensure adequate protections for both the state and private investors. In addition, the Secretariat of Finance and Public Credit (Mexico’s Finance Ministry, known as Hacienda) is working to calibrate the special fiscal factors that will be attached to the deep-water offerings.  The next 60 days will be critical.
  2. Pemex Reform.  Pemex has been the weak link in the reform. Pemex resisted new measures requiring the company to have its farm-out partners selected by auction, to cut costs and sell off extraneous businesses, and to prioritize creating new joint ventures with external investors.  As a result, new production that would have come from bringing in new partners to redevelop existing fields will not occur during President Enrique Peña Nieto’s term. Furthermore, Pemex remains highly indebted and under-capitalized, and the company lacks the capacity to play the dominant role in the sector that it still holds.  Private investors will want the security of partnering with Pemex and access to its infrastructure, but they will need a level playing field and a willing partner.  Pemex has a new motivated CEO, but progress remains slow and uncertain.
  3. Continuity.  The primary factor enabling Mexico to undertake reforms at this unprecedented speed and scale is the quality and dedication of the technocratic leaders empowered to lead its energy ministry, its new and reformed regulatory bodies, and its finance ministry. These leaders have been consistent in policy direction, willingness to listen to a wide variety of stakeholders, and ability to adapt to rapidly shifting circumstances, including the onset of the low price cycle, as the reforms were calibrated and the bid rounds organized.  Mexico’s 2018 presidential elections pose an element of uncertainty as to whether this world-class effort will be sustained. A victory by the PRI – President Peña Nieto’s party – or PAN would suggest continuity and augur success.  A victory by other parties like Morena or the PRD, which have opposed the energy reforms, would not. While it is unlikely that the constitutional reforms could be reversed, either party could essentially put the reforms on ice and cease new bid rounds, impose stringent regulations, and stop the reform of Pemex. 
  4. Corruption. Mexico’s energy reform requires a host of first-rate transparency measures, from publication of revenues to open auctions and restrictions on private meetings. However, corruption in areas of governance, including but not limited to the energy sector, remains the Achilles heel of the system and has unfortunately affected public perceptions of this government.  The ability of companies to obtain permits, conduct procurement, and obtain land access is a critical cost and risk factor.  The willingness of even this reform minded government to tackle broader public concerns with corrupt practices led to major losses in recent gubernatorial elections.  A credible, consistent anti-corruption effort will be key to the future of Mexico’s competitiveness, and not just in energy.
  5. Security.  Security will be a major risk factor for investors in onshore and offshore exploration, pipelines, and petrochemicals.  While large companies are used to managing security risks for land bases and pipelines, the broader set of companies Mexico seeks to attract for onshore and unconventional development are not.  Mexico is aware of these risks and has already curtained its tight oil and gas acreage to exclude particularly dangerous areas.  The government ‘s role in managing security will range from facilitating economic growth, reducing the influence of drug cartels and other criminal groups, and improving policing.  A clearer strategy is needed and an open dialogue between government and companies, including participation in the Voluntary Principles on Security and Human Rights, should be considered.

Mexico’s energy reforms can deliver the government with the investment, production, and revenue to turn it into a more prosperous nation with a strong low cost manufacturing base.  The growing pains of the reform should not obscure the reality that Mexico launched the fastest, most progressive, most comprehensive, and most transparent sector reform of any nation in this century. Their world-class resources, proximity to the U.S. service sector, and technocratic leadership give them competitive advantages unmatched outside the United States. Mexican officials cannot control the oil price, which will be the dominant factor in the decisions of potential investors. But the other five factors that will determine Mexico’s success can be managed by enlightened governance and effective policy management.   The outcome is uncertain, but based on the past two and a half years, the prospects are good.

David L. Goldwyn is president of Goldwyn Global Strategies, LLC (GGS), an international energy advisory consultancy.  He is Chairman of the Atlantic Council Energy Advisory Board and the co-editor of Energy & Security: Strategies for a World in Transition. Prior to founding Goldwyn Global Strategies, LLC, Goldwyn served as the U.S. State Department’s special envoy and coordinator for international energy affairs from 2009 to 2011. Goldwyn previously served as assistant secretary of energy for international affairs (1999-2001) and as national security deputy to U.S. Ambassador to the United Nations Bill Richardson (1997-98). He is a member of the U.S. National Petroleum Council and the Council on Foreign Relations. 

CLICK TO ADD YOUR POINT OF VIEW

Share your point of view

Your comment will be posted pending moderator approval. No ad hominem attacks will be posted. Your email address will not be published. Required fields are marked *