Policies of Scale: Efficient Global Policy

Mexican Nationalism and the De-Nationalization of its Energy

The liberalization of Mexico’s energy laws may be a big deal for big oil companies, North American energy, and trade competitiveness. However, its greatest impact will be on Mexico itself, and therefore understanding this impact is critical for investors and policy implementers when strategizing their roles.

The energy policy community is waiting with great anticipation as Mexico tries to see its energy liberalization reforms through the political process. The EIA currently has Mexico’s reserves at 10.4 billion barrels, enough to rank 17th internationally, while Petroleos Mexicanos (PEMEX – Mexico’s national oil company) claims the number is about 10% higher at 11.4 billion. This large reserve has been managed and produced exclusively by PEMEX for over 70 years, so the potential for foreign oil companies to enter the market is exciting. So when BP estimated that potential reserves could actually be in the 35-70 billion barrel range if the newest technology is brought to bear in Mexico, you can only imagine the excitement and optimism that has had to be kept in check while the reforms maneuver the political maze.

The implications of such an oil boom have generated all kinds of good-news stories, from a fait accompli that North America will be energy independent to the stabilizing effects it could have on the global oil market to the potential it has to improve Mexican and North American competitiveness in international trade. One implication, however, has not been discussed nearly as prominently outside Mexico (but you can be sure is the central debate in Mexico), and that is the impact such energy wealth would have on Mexico. After all, the Mexican economy in 2012 was already the 14th largest in nominal terms (IMF), 11th largest in purchasing power (IMF), and 97th in growth rate at 3.6% (CIA). With the potential for the oil boom that Mexico enjoys, how the reforms are implemented will matter greatly as far as how much benefit Mexico will realize from its natural resource.

First, a little history is in order. Commercial crude production began in Mexico in 1901, so the country is not new to the business. By 1935 all of the oil producing companies in Mexico were foreign owned, and the local laborers were not treated well and prevented by the companies from forming unions. There was a feeling nation-wide that Mexico was being exploited and its oil wealth sent abroad. So in 1938 Mexico’s president, Lazaro Cardenas, nationalized the oil industry and set up what would become a state monopoly based on the premise that what was in the ground belonged to the Mexican people.

The system worked fairly well until the early 1970s as it experienced an average annual growth in output of around 6%. PEMEX grew concomitantly over this period, and today employs about 160,000 people (that is not a misprint). The reason PEMEX has such a large payroll is that it is the only source of support for many of the communities in which it operates – it employs the doctors who treat the oil workers, the teachers who teach the oil workers’ children, the grocery store clerk who sells the food the oil workers’ children eat, the doctors who treat the teachers who teach the oil workers’ children and the grocery store clerk who sells the food to the oil workers, and so on and so forth, in many of the towns where PEMEX operates. However, in the 1950s demand began surpassing supply despite output growth, and Mexico had to use the value of its reserves as collateral to secure loans that went to PEMEX to further increase production. The need to produce so much oil created pervasive corruption and the inability to make long-term decisions. Mexico’s production has fallen every year since 2004 due in large part to insufficient infrastructure and equipment, outdated technology, and antiquated techniques.

Given the challenges faced by PEMEX, since the 1970s each president has tried to change the law in one way or another to bring more money into the industry, but it is only now that the political establishment and elites have been able to push the reforms through. The resentment, however, of foreign oil players r still remains high as the national memory has not forgotten the times when foreign oil companies operated in Mexico. The reason for the traction of the latest effort is not because of some turning point or a memory wipe, but rather the development of a critical mass among Mexico’s political parties and elites who believe that if Mexico is going to fully modernize its economy in ways that raise the wealth of Mexicans across the socio-demographic spectrum, it will have to do so on the back of oil. And so the excitement for many in Mexico who support the reforms comes not from what the energy boom will mean to North American energy independence, the global oil market, or trade competitiveness, but rather what it will mean for Mexicans. This is a critical distinction for those of us who are following the drama from the outside: not only does it help us understand the sensitivities influencing opinions and decisions, but it effectively sets the limits for the possibilities for Mexico’s oil future.

There are many political and technical issues that need to be worked out before we have any idea gauging the extent to which foreign companies are going to be interested in investing in Mexican oil. A very quick-hit and incomplete list includes: (1) studies to confirm the amount of oil in Mexican territory, (2) meeting new infrastructure requirements, including east-west pipelines, (3) finalizing its contract types and structures, (4) seeing the US do its part to end the moratorium on the Western Gap oil field in the Gulf, (5) figuring out to fill the gaping holes that will be left in the federal budget (try about a third of the total budget) made vacant by PEMEX’s reduced role in Mexican oil, (6) reinventing PEMEX as a company who can partner with other companies, (7) easing PEMEX’s payroll without leaving many of its 160,000 employees without hope of re-employment elsewhere, (8) getting the reforms passed a national referendum scheduled for 2015 that has been threatened by left-leaning politicians who oppose the moves, and (9) getting 4 new regulatory agencies established in the next 4 months.

As far as assessing the timeline for implementation of the reforms, number 8 is key because it muddles the future of these reforms for a long time in the uncertainty of public opinion. And number 9 is daunting. What’s more, ideally number 8 would happen before number 9. I will leave it to people who know more about Mexico than me to figure out how Mexico will navigate these issues, but I can imagine that given the short deadline for number 9 and the inverse timeline of these two requirements, only broad frameworks for the regulatory agencies will be established before any national referendum. Further, foreign investors are going to be sitting on the sidelines as Mexico finds its path. The bottom line is that we are far from knowing how things will turn out.

Given such a long and difficult road to liberalization underpinned by public suspicion of foreign companies pumping Mexican oil, the reforms’ proponents have their work cut out for themselves, never mind the technical and sequencing challenges that will influence who from abroad participates in which parts of the Mexican oil sector. The question then becomes: how do the proponents ensure the conceptual victory the reforms have already achieved is transferred to public opinion? At an event at Brookings last week, former Mexican ambassador to the United States Arturo Saurkhan compared the contentiousness of the issue in Mexico to the contentiousness of immigration reform in the United States. In a very telling example, Saurkhan likened the word “privatization” in the context of Mexican oil to “amnesty” in the context of the American immigration debate.

Arturo drew the parallel in order to illustrate the difficult path these reforms face. But I suspect the parallel may go deeper. As I said above, the proponents of these reforms and their detractors both make their case over the influence they will have on Mexico. Just as the concept of amnesty in the United States gets to the soul of what “American” means, it would seem the concept of privatization in Mexico gets to the soul of what Mexico will become.

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