Fuel Subsidies Result in Financial Complications for Government

Amid the highest oil prices due to an increased global fuel demand, Russia’s invasion of Ukraine and supply chain disruptions induced by the pandemic, the government attempts to maintain President López Obrador’s commitment to keep gasoline prices stable, even if that means losing out on revenue. To keep prices from peaking, the Mexican government has subsidized the price by expanding a temporary exemption on the Special Tax on Production and Services (IEPS) and granted a complementary fiscal subsidy. However, experts argue the move has created significant financial difficulties for Mexico’s government.

The fuel subsidies represent a way of sustaining one of AMLO’s main campaign promises: that gasoline prices would not increase beyond the inflation rate during his administration. However, the cost of maintaining this promise is worrying analysts. 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.

According to Bloomberg Economics, Mexico’s gasoline and diesel subsidies are now forcing the government to spend twice what it receives from oil exports revenues twice on fuel subsidies, a sign of the growing burden that comes with the government’s strategy.

 “The cost for the government has sharply increased and recently accelerated, driven by international oil prices and the diminishing appetite to accommodate additional price increases. In March, the government started providing a direct subsidy on top of the foregone taxes that was the initial mechanism to smooth price adjustments,” said Felipe Hernandez, Latin America Analyst, Bloomberg Economics.

The Mexican government has announced that it will soon be starting operations at the Olmeca refinery in Tabasco. Using the new refining capacity, the government says it will no longer have to buy gasoline abroad. López Obrador promised that within six months, the new facility will be capable of processing 340Mb/d.

However, President Lopez Obrador’s pledge to increase oil production by 4 percent in 2022 will be challenging to achieve, as the NOC suffers from financial constraints and high capital spending needs.

Experts argue that 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.