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|Incoming President López Obrador favors the late President Cárdenas' 1938 energy policy|
6 MIN READ - After barely getting off the ground in 2014, Mexico’s novel bidding auctions for foreign firms to develop its energy assets are quickly being reversed. This week incoming President Andrés Manuel López Obrador announced the auctions are being cancelled, and he placed new conditions on existing contracts that could lead to their annulments in as little as three years.
(read the original AFP article for an excellent summary of Mexico's oil quandries
To understand the significance of this rapid U-turn, a brief history of Mexico’s state owned oil and gas industry can be instructive.
In 1938 Mexican socialist populist president Lázaro Cárdenas (founder of the PRM party, the precursor to today’s PRI) nationalized American, British, and Dutch oil assets and established the national oil company Petróleos Mexicanos, better known as Pemex.
After bitterness over the expropriation and an ugly dispute over compensation, Pemex was granted an exclusive monopoly over all Mexican oil and natural gas exploration and production, and the Mexican constitution has disallowed any foreign investment or partnership in domestic energy assets since. For over 75 years Pemex held this monopoly, and much like OPEC’s member nations the Mexican federal government has drawn heavily on Pemex revenues to fund its own budget.
However for the last two-plus decades that monopoly has come at a steep price. Pemex, being walled off from the rest of the world, has fallen hopelessly behind in exploration, drilling, and production investment and technology. The result has been a steady decline in output as mature oilfield recovery rates have slumped while new discoveries have been rare and sporadic.
In a telling statistic, Pemex’s production levels stood at a mere 1.99 million barrels per day in 2017, a 22-year low that was checked only by the anomaly of Hurricane Roxanne temporarily hampering production in 1995. Prior to Roxanne, the last year daily production fell below 2 million barrels was 1979, meaning output stands at a near 40-year low.
Another gloomy indicator: since 2004 Mexican oil production has declined from 3.4 million barrels per day to 1.9 million in 2018, down nearly 46%.
By comparison during the same period the U.S. private, open, and competitive energy market has more than doubled American oil production from 5.4 million barrels per day in 2004 to 11.6 million today. Fourteen years ago the U.S. produced 59% more oil than Mexico. Today it's 510% more.
Meanwhile Pemex, which provides the Mexican government 40% of its budget revenues, has had cash so heavily drained by federal transfers that it has been unable to fund even its own investments, leading to not only a lag in technological prowess but also inability to expand or even maintain its own legacy assets.
Despite having a legal monopoly over Mexico’s considerable energy assets, Pemex has not made a profit since 2006.
Adding insult to injury, Pemex and Mexican officials have watched as U.S. and European energy firms make deepwater discovery after discovery on the U.S. side of the Gulf of Mexico’s maritime border and quickly extract oil and natural gas from the ocean floor. But Pemex’s technology is so outdated that it can neither find the oil on its side of the border nor can it reach and develop the few resources it’s been able to find.
The same is true of Mexico’s shale oil assets which sit untouched even as right across the border U.S. firms apply new hydraulic fracturing techniques that have ushered in the new American oil renaissance.
The past two Mexican Presidents (Felipe Calderón and recently departed Enrique Peña Nieto) both recognized this problem and worked tirelessly in endless negotiations with the Mexican legislature to amend its laws and constitution to end the Pemex monopoly and allow foreign firms to partner with Pemex or develop oilfields on their own. The hope was that Mexico would receive a badly needed boost in foreign investment and more importantly benefit from the introduction of modern energy technology and expertise.
After over a decade of wrangling, Peña Nieto finally succeeded in changing Mexico’s constitution in 2013 and western firms began bidding in auctions for contracts in 2014—slowly at first and then accelerating particularly in 2018 as oil prices began recovering from their 2016 depression lows.
The auctions to date have produced contracts that would bring in $160 billion in revenue to the Mexican government (13.9% of GDP, the equivalent of $2.8 trillion in federal revenues if calculated as the same share of U.S. GDP) plus new technology and oilfield development. Under the new contracts, the government would receive up to 67% of profits from the private sale of public oil and natural gas (versus 55% in the U.S.).
And the contracts haven’t come a moment too soon. Mexican production has floundered to the point that the oil-rich country was forced into the embarrassing position of importing light Bakken crude from U.S. energy firm Phillips 66 in November, its refineries running below capacity due to low Mexican crude supplies.
Enter newly installed socialist president Andrés Manuel López Obrador.
López Obrador has slammed the Phillips 66 light crude import plan and argued the national humiliation is a direct consequence of Mexico’s failed capitalist policies.
Recently tweeting “This announcement ... is another example of the great failure of neo-liberal economic policies in the last 30 years,” López Obrador failed to mention that those allegedly neo-liberal policies included coddling a state-run monopoly for 26 of those 30 years.
Now that López Obrador is President, he’s announced a sharp U-turn back to the days of state monopoly, cancelling all remaining auctions and denouncing his predecessors’ “opening of the sector to private and foreign companies as a corruption-riddled ‘farse.’”
While López Obrador has hinted that he will honor previously signed contracts, he left the door open for reneging on even those agreements, declaring [from AFP] “companies should show they are following through on their promised investments within three years or have their oil blocks taken away.”
What level of follow-through will trigger repossession of assets is not clear, but if oil prices should fall further over the next three years energy firms would predictably hold back on investment waiting for higher prices, giving López Obrador the excuse to re-nationalize those oilfields and other assets.
Unfortunately López Obrador’s 1938-style approach to Mexican energy echoes of the same nationalization formulas that have been repeatedly tried and failed by successive Latin American governments over the last century including Salvador Allende’s Chile, Peron and Kirchner’s Argentina, Hugo Chavez’s notorious disaster in Venezuela, and of course Mexico itself whose oil industry has been dying a slow death for decades precisely because of its outdated state monopoly.
Or as former President Peña Nieto summarized in March of 2018:
“Those who call for a repeal of Energy Reform would condemn our country to return to an outdated, obsolete model that no longer works anywhere else in the world.”
López Obrador says instead of inviting foreign investment, he wants his PRD government itself to inject an initial $9.4 billion into Pemex to remodernize the company. In his eyes Pemex doesn’t need outside help from the rest of the world and can solve its problems on its own.
But experts are skeptical that López Obrador’s plan will be enough, citing costs of $10-$15 billion simply to construct one new refinery. And the previous Peña Nieto government calculated Mexico needs over $600 billion in investment to boost output to 2004’s level of 3.4 million barrels per day by 2032.
López Obrador, who has promised to stamp out Mexico’s longstanding government corruption problem, claims his proposed investments will be sufficient once he rids Pemex of corruption too. While his highly publicized campaign promises to solve corruption in Mexico are admirable, it remains to be seen how successful he’ll be given its longstanding legacy in Latin America. López Obrador, who also appears publicly without security, might want to consider hiring some bodyguards too.
But meanwhile Mexico’s northern neighbor, which is not blessed with vast amounts of “easy oil” and endures the curse of private for-profit energy development, is living through a realtime energy revolution that has vaulted it to the world’s number one oil and natural gas producer. At the same time Mexico’s Pemex will continue to languish in production decline for at least the next several years—at least until López Obrador’s vision of a reinvigorated Pemex state monopoly begins setting new production records.