Lingering Uncertainty Harms the Mexican Electricity Industry

The uncertainty surrounding energy policy and the constant changes to the regulatory framework have harmed both the energy sector and the economy overall. Uncertainty has led to considerable divestment in energy generation, with wind and solar being among the most affected. The discourse against renewables, together with the constant administrative actions that slow down the operation of private facilities, have triggered the greatest drought in investment in new projects.

According to the Ministry of Economy (SE), Mexico has captured private investments in the energy sector for generation, transmission and distribution of more than US$17 billion since the opening of the sector in 2014. These investments are now at risk, warned the National Renewable Energy Laboratory (NREL).

Consumers have also been affected. Rather than generating savings, President López Obrador's energy policy is expected to increase energy costs, affecting the pockets of end consumers. This increase in electricity prices strongly affects Mexico's competitiveness. The country has a strong industrial sector that requires attractive electricity rates to maintain its competitiveness within the North American and global value chains. While the Ministry of Finance (SHCP) issues subsidies for residential consumption, the increase in industrial tariffs may represent one of the worst blows to the Mexican economy, as it increases the costs of final products, making them less competitive.

“The future of the electricity market itself is not the most important for Mexico. What is at stake is the country’s competitiveness. Electricity costs influence how competitive a country is in all industries, which directly impacts employment rates. The worst part is the uncertainty. Companies that have already invested in energy will begin their legal fight. However, there will be no new investments under this uncertainty,” said Alfredo Álvarez, Partner and Energy Segment Leader, EY, during Mexico Energy Forum 2022.

An increase in electricity subsidies represents a heavy blow to public finances, as well. In times of rising fossil fuel prices, slowing the energy transition represents a high opportunity cost. If end consumers are to be protected, increasing electricity subsidies will not be a sustainable solution in the long term. It is estimated that by 2022, these subsidies reached MX$73 billion (US$3.59 billion) with a potential to double in the coming years, representing a further deterioration in public finances.

The new energy policy has also generated multiple frictions between Mexico and its trading partners, mainly with the US, as the new Mexican energy vision goes against USMCA and the climate goals that the Biden administration seeks to promote in North America. Tensions have risen to the point of possible resolution disputes within the framework of the trade agreements to which Mexico is subscribed.

The US government has made multiple state visits to lobby in favor of US investments in the energy sector and trade openness under the framework of USMCA. Secretary of Energy Jennifer Granholm visited President López Obrador in January, US Special Climate Envoy John Kerry has met with the Mexican government in Mexico City three times so far in 2022, while Ambassador Ken Salazar constantly visits the National Palace in search of consensus regarding renewable energy and the free market.

Pressure has also come from the US Congress and Senate. Both Republican and Democratic legislators have pressured President Biden to toughen his diplomatic policies regarding Mexican energy policy since USMCA establishes that the energy sector will remain open to free competition.

“The current government has mistakenly read what USMCA stipulates on electricity matters. The trade agreement is very clear: Article 8.1 allows Mexico, as an exception, to make choices on how it handles fossil fuels but this does not extend to electricity and energy issues. Therefore, the government’s reforms breach USMCA, as well as a further 30 international treaties for the protection of investment,” explained Derek Woodhouse, Senior Partner, CMS Woodhouse Lorente Ludlow, to MBN. However, the risk of international arbitration has drastically decreased, as the electricity reform did not materialize.

The US Trade Representation has constantly voiced its concerns regarding the deteriorating path of Mexican energy policies, which include multiple actions taken by the Mexican government guided to increase state control over the energy sector at the expense of free competition. "These actions are undermining investors’ confidence in Mexico at the expense of the environment. They are also restricting US fuel exports and harming efforts to improve North American competitiveness, as the US government seeks to implement USMCA fully to meet broader environmental and climate goals as a region," warned US Trade Representative, Ambassador Katherine Tai.

“If the government had won the LIE’s reform or managed to pass the electricity reform, this would have had serious consequences, since all investors in Mexico would have a valid argument for their respective country to sue Mexico to for the money invested and potential earnings. However, the risk of ending up in international arbitration for violations of international treaties, including the USMCA, is no longer as latent now that the reforms are off the table,” concludes Woodhouse. Today, at least 21 international arbitrations related to the electricity issue are already in process.

Although the electricity reform has been discarded, President López Obrador's commitment to strengthen state-owned energy companies remains. The energy route he proposed is still on track. Investments remain at a standstill and the private sector remains uncertain about the future of its energy investments. Meanwhile, the country remains far from consolidating the energy transition that the international context demands.