Dropping Oil Prices May Provide Relief for Mexico

After more than a month with historically high gas prices in North America, average prices have fallen US$0.19/b across Canada and the US, as some industry experts question whether the downward trend will continue amid fears of a global recession. The dropping prices per barrel will eventually lower the cost of gasoline of diesel, offering some relief to Mexico’s fuel subsidy strategy.

Brent and WTI crude prices reached well over US$100/b over the past months, as did Mexico’s export crude mix frequently. This has been caused by several factors such as recession fears, Russian oil export bans, overall tightness of global supply, lackluster output from U.S. shale plays, and refining bottlenecks for several producers.

Mexico’s government, unable to give a direct subsidy to fuel to lower prices, began to devise a strategy. Its objective was to continue to increase the price of fuel to stem inflation and keeping oil demand from dropping. Failing to do so would result in a rapidly approaching recession.

Now that the same factors that drove up oil prices are leading to increased recession fears, WTI crude is trading at under US$100/b for the first time since early May. WTI fell further this Wednesday, dropping 0.9 percent to US$98.46/b. Patrick De Haan, Head of Analysis, GasBuddy said Tuesday he sees a potential decline of between US$0.40 and US$0.65 cents per gallon in the weeks ahead.

Although fuel prices in Mexico have been kept at a relatively stable cost these past months, this largely due to measures taken by the government, a slight drop in crude oil prices will benefit Mexico. This is because the country’s fuel costs are calculated and directly linked to the international market, meaning Mexico could reduce its stimuli and therefore its financial burden.

According to the Head of the Tax Administration System (SAT), Raquel Buenrostro Sánchez, fiscal incentives to gasoline would cost Mexico MX$350 billion (US$17.5 billion) throughout 2022, which clashes with Lopez Obrador’s austerity pledges. This measure will exert pressure on public finances according to the private sector. According to Bloomberg Economics, Mexico’s gasoline and diesel subsidies were forcing the government to spend what it receives from oil exports revenues twice over on fuel subsidies.

Experts argue that these measures will eventually take its toll on the country's financial stability. Even though the tax exemption feels like a relief when citizens pay for their fuel at the gas station, using the fiscal stimulus scheme may result in a virtual market: what was supposed to be an income has become an unsustainable expense, in the end still covered by the taxpayers. Stable oil prices along with a greater fuel self-sufficiency could help Mexico turn this into a sustainable fiscal issue.