Rajan Vig
Indimex Marketing and Trading, LLC
Expert Contributor

Part 2: The Hydrocarbon Law and its Downstream Effects

By Rajan Vig | Thu, 07/15/2021 - 12:59

What is the Hydrocarbon Law?

Mexico’s refineries are at their lowest production rates in 30 years: PEMEX is more than just struggling at this point. It is undoubtedly, on paper, the most indebted national oil company in the world.

However, MORENA has the right and obligation to deploy an energy policy it feels is compatible with its political philosophy as well as sitting within the law.

It is fair to say that the initial reform implemented for energy across power, gas and fuels is no longer in existence. The current government has strengthened the Energy Ministry (SENER), taking power from the Energy Regulatory Commission (CRE), and attempted to block private investors from dispatching electricity onto the grid, building renewable assets, consolidating gas pipelines and providing permits to build fuels infrastructure as well as marketing fuel internally.

Nevertheless, the most recent law – for hydrocarbons – has without question cemented the government’s position, lasered on the idea of rescuing PEMEX and limiting its competition.

The new law gives power to SENER and CRE to revoke permits if they deem the permits have been left unused. The bill also requests that privates have minimum storage requirements should they wish to maintain their permits even though the government has provided little incentive for foreign companies to build infrastructure in light of the fact that they have severely restricted import permits for fuels, making this request almost impossible to achieve.

The bill proposes to authorize SENER or CRE to temporarily suspend previously issued permits “when an imminent danger to national security, energy security or the national economy is foreseen.”

The time period for any suspension would be exclusively “determined by the authority,” but may be indefinite in light of the fact that the bill does not provide any limits to the duration of such suspensions. In a situation where that occurs, the authorities (ergo PEMEX) are allowed to take over such facilities and use them at their will and desire for their import and marketing activities, alluding to a pseudo expropriation of private company assets, a perilous ground to walk upon.

The last clause of the bill is arguably the most contentious of the adjustment to the law as presented by MORENA as it gives PEMEX the right to use assets that have been built by private importers under the pretense of a competitive market with a judicial right to attain permits as per the nature of the original reform and, therefore, to utilize their own investments inside Mexico.

The Hydrocarbon Law has not been implemented since many companies have filed amparos and, together with the judicial courts, argue that the law generates an unpredictable change to the detriment of private investors.

The courts have suspended the change in law that judges argue leaves private investors defenseless and that it contradicts the laws that govern the current Energy Reform. In the meantime, the market is static as it waits to battle the government against such a bill being implemented and investors tread with care.

Has MORENA Made Similar Moves in Other Energy Sectors?

Prior to issuing a change in the Hydrocarbon Law, President Andrés Manuel López Obrador, still nursing the effects of coronavirus but seemingly active, sent the Mexican Congress a bill that attempted to modify current electricity market rules, contained in Electricity Industry Law (LIE) rules that benefited the nation with foreign private investment and initiated a deregulation of the power markets.  

Since MORENA came to the helm of government, it has tried to adjust applying rules for private energy competitors on a number of occasions, attempting to change agreements with market regulators as well as announcing new policies for the sector. Nevertheless, MORENA has experienced little success pushing its agenda since private companies and committee organizations have challenged every government decision in court and the judiciary power has continuously ruled in favor of upholding the laws created within the 2013 Energy Reform, promoting competition in the arena.

The power sector has been suffering from changes in policies since the latter end of 2019, with MORENA halting issuing new permits for renewable companies, with the ultimate ambition of reinforcing CFE’s role in the power sector.

The president’s initiative asked for a LIE modification, specifically reorganizing the order in which power is dispatched to the MEM, favoring the use of assets owned by CFE. After the opening of the Energy Reform, electricity dispatched to the grid was based on economic criteria. This resulted in the cheapest available generation, such as wind and solar, being used before fossil fuel generation was dispatched, which are mostly assets belonging to CFE.

The government now seeks to turn around the order of dispatch, demanding that the grid first use every CFE available resource to fulfill the nation’s electricity demand before using renewable energy assets and combined cycle generators that belong to private companies, by attempting to introduce a law to cement its desires. Similar to the fuel industry, the bill is under suspension and review with the Supreme Court.

Why Does It Affect the Downstream Market?

If permits are severely restricted, the marketing and trading of fuels is left in the hands of very few companies. Mexico has struggled to fulfill its demand for a number of years so the idea of giving a handful of entities this possibility only exposes the demand hubs to fewer providers, which equates to less optionality.

One of the main purposes of the reform was to provide Mexicans with a host of choices regarding where they could attain their fuel supply. As PEMEX struggled to deliver to customers efficiently and manage itself as an entity wholesomely, this issue paved the way for the genesis of the Energy Reform.

If there are a select few players in Mexico alongside PEMEX, prices will likely be more controlled due to less optionality, meaning less fluctuation but also a narrower delta, leaving the Mexican consumer with fewer, cheaper options.

In addition, the quality of customer service will likely decrease due to less competition. The concept that a laissez-faire market provides better costs and higher quality customer service is a basic economic principal that the government would be obliterating if it were to introduce such a change in law.

Why Does the Government Want to Do This?

In certain segments of the population and some political parties, the idea that PEMEX and CFE are guarantors of national sovereignty, as well as sources of richness and well-being, was the driving force for rescuing these companies even though that implied giving them control over the market.

Since 2018, MORENA has sought to undo and unravel some elements of the original energy reform, seeking to revive the economic prowess the state entities carried in the 1970s. AMLO has repeatedly discussed the neoliberal hand destroying national interests and his argument of fear toward private companies participating in the energy sector has propelled some of the population to support his quest of insular and nationalistic ideals.

On many an occasion, President López Obrador has posed that permitting importers to distribute fuel in conjunction with PEMEX means the state oil company does not have full power over fuel distribution and, as a result, smuggling and “huachicol” (that is to say, stolen fuel) will prevail.

It is a bizarre angle to take since the concept of tapping into pipelines was created before the Energy Reform, meaning that corrupt employees of PEMEX used to support and assist in the tapping of fuel pipelines. Prior to the deregulation of energy markets, PEMEX was the sole user of assets, meaning no one else had access to fuel flows in the network. Therefore, associating illicit activities solely to private newcomers is a blatant diversion from approaching the white elephant in the room.

Additionally, President López Obrador frequently raises the topic of poor governance over permitting in Peña Nieto’s government, claiming it granted more than 1,000 fuel import permits for gasoline and diesel. He adds that some of these companies and personnel were new to the industry, saying it tainted the market.

There is some validity to the fact that there were many players in the industry, some of whom were not experts; however, there were also many organized and international outfits that attained permits to provide added competitiveness to the market. In reality, everyone in Mexico was new to the industry since there was no market prior with PEMEX having full control since 1938.

Latin America has moved on from the 1980s as has the world: it is far more globalized. Mexico was the only large country on the subcontinent that did not undergo the Pink Wave transition: it stayed true to its two(ish)-party political system and ignored the populist waves that rippled across the region. Until now. A political renaissance to the heyday of PEMEX and Mexico is what the government seeks as it attempts to undo the corruption and mishandling of government affairs that has tainted the republic for decades. There is honor and validity to the MORENA movement but just because a gesture is honorable does not make it viable. MORENA, under the tutelage of AMLO, will fight this Energy Reform battle under a matter of principle, but one may wonder to what avail. At what point does this conflict become more about personal endeavors rather than seeking the best solution for the pueblo? Living in this fascinating country at a crossroads moment, it feels like, similarly to UK and US politics, there is an obvious schism developing in Mexican politics that will not ablate without a fight: si vis pacem, para bellum.

Photo by:   Rajan Vig