Iberdrola Might Be Out but Private Investors Will Come Back

After announcing in early April that Mexico’s government will buy out Iberdrola’s power generating assets for almost US$6 billion, President Andrés Manuel López Obrador (AMLO) proclaimed a “new nationalization” in Mexico’s energy sector, resembling that in 1938, when Mexico, led by Gen. Lázaro Cárdenas, nationalized its oil industry. After a showdown with Iberdrola since the beginning of his sexenio, AMLO took another step to get the state to run the strategic energy sector while downsizing the presence of private investors. Building upon healthy public finances, a fiscal leeway formed by a juncture of high oil prices, the Mexican government achieved one of its aims of consolidating its status in the energy market and further torpedoed the Peña Nieto reform that opened the sector to private capital in 2013. The European energy powerhouse is likely to get a good deal, considering its pivot toward renewables and amplification of its operations in the US and Canada. But this amicable deal raises two important questions for Mexico’s energy sector: Can the Federal Electricity Commission (CFE) meet the electricity demand without further increasing electricity bills and is private investment in Mexico’s energy sector doomed in the years to come? The answer to both questions is no. Private investors will have a place at the table, but they need to play their cards right amid the market trends that will shift the dynamics in Mexico’s energy sector in the upcoming years.

To be sure, CFE will increase its generation capacity after the Iberdrola deal is completed. With the acquisition, CFE will add 8,539MW, getting to the 55% share of Mexico’s installed capacity against the 45% share of the private sector. Despite the government's fanfare about the benefits of the transaction, it remains to be seen how much it will translate into cost reductions. 

For that matter, it is important to understand the current vexing environment in which this transaction took place. Natural gas is the main fuel that powers Mexico’s electricity grid, particularly CFE’s part. Most of Mexico’s gas is imported from the US, which has recently encountered a new and powerful revenue stream in Europe after the latter shut off the gas pipes from Russia. How did it impact Mexico? The analysis of Mexico’s gas imports shows that last year was quite onerous. 

In 2022, Mexico’s natural gas imports increased by a record 13% YoY (worth US$13.7 billion), signaling that the dependency on the rising US gas prices is likely to continue. Prior to 2022, natural gas prices ranged between US$4 and US$5 per thousand cubic feet. Last year, prices reached a record US$14 per thousand cubic feet. This trend is most likely to persist because the US natural gas industry will continue to count on high demand from European markets, making it costly for Mexico as well. Europe will not re-establish its reliance on Russia’s gas, considering that currently the most plausible outcome of Putin’s war in Ukraine is a stalemate leading to a frozen conflict. Thus, it is easy to see why higher electricity bills in Mexico should be expected, in light of the higher gas costs coupled with the bloated operating costs that usually plague Mexico’s state-owned firms.

Indeed, in February 2023, household electricity bills increased by 7.2% YoY, while bills for the commercial sector in Mexico’s industrial powerhouse state, Nuevo Leon, went up by 18.7% YoY. These numbers clearly show that without cheaper energy sources to  power Mexico’s electricity grid, consumers will bear the brunt of higher gas prices and operational costs. 

That leads us to the other question about the future of private investment in Mexico’s energy sector. Private investment will be needed to power Mexico’s energy sector. The current operational costs and gas prices driven upward by the geopolitical and global economic trends will force the hand of the next administration to open the electricity sector to private investors. In other words, the next president will need to facilitate more private investment into the sector or risk political fallout by passing higher costs to consumers.

In 2022, Mexico’s electricity consumption increased by 3% YoY (291,567GWh), but it is expected to jump by more than 7% in 2023 and 2024. In this context of rising electricity demand, increasing the state presence in the generation segment at the expense of private actors, but without a clear strategy in place on how to cut CFE’s operational costs and how to reduce the utility bills for consumers, will be a crucial economic and fiscal problem to be solved by the next president, who is likely to come from MORENA’s camp. 

Unlike the current administration, after 2025, the next administration will not be able to count on oil prices ranging above US$85-US$90, as global supply will be bolstered as US oil production reaches its pre-pandemic levels. Thus, the next president coming from MORENA, either Mexico City’s mayor, Claudia Sheinbaum, or Mexico’s foreign minister, Marcelo Ebrard, will have to make a call to either continue to prop up the state-owned firms without having the fiscal leverage to do so and face a major pushback from “el pueblo bueno y sabio” (the good and wise people) when the electricity bills become simply unbearable or open the electricity sector to private firms. The choice is obvious. Iberdrola might be out of the generation business for now, but private investors will come back in the next sexenio.