At a Glance
- President-elect eyes expansion of refining capacity and gas production while supporting trade with the United States.
Andrés Manuel López Obrador decisively won the Mexican presidential election on July 1 in a populist campaign that had energy reform as one of its core issues.
It was only a few years ago that the country’s vast oil and gas sector was opened up to international markets and investors. While the process has been slow in some respects, it was seen as a significant positive, in that it would attract global interest and fresh capital as the government loosened its grip on the sector.
Since the nationalization of hydrocarbon resources in 1938, Mexico’s energy industry and public-sector finances have been “closely interlinked,” Gustavo Stenzel and Santiago Petri of Franklin Templeton Emerging Markets Equity said in a recent published note.
They pointed out that Pemex, the national oil company, transferred royalties and taxes to the federal government that by 2014 represented up to a third of fiscal revenues. Thus, “the government’s burden on the national oil company resulted in declining production.”
Rescuing Mexico’s Energy Sector
Having to pay 50 to 60 percent of its revenues in royalties and duties compromised Pemex’s cash generation, which resulted in increasing leverage to finance its required capital expenditures plan.
This led to a much-needed rescue of the sector, industry analysts explain. In order to ease the government’s and energy industry’s financial constraints, comprehensive energy reform was approved at the end of 2013, opening it up to private investors and allowing access to the country’s energy sector.
The reform allowed for new contracting agreements, including profit sharing, production sharing and licenses that provided more alternatives to previously restrictive, service-only contracts. The policies also were designed to enable more independence for Pemex to make strategic investments and plan capital expenditures.
The victory of López Obrador, a former Mexico City mayor who is popularly known as AMLO and takes office Dec. 1, brings plans to revise, and possibly even delay, new offerings for oil and gas exploration acreage, while expanding refining capacity and developing domestic gas supplies.
Support for The New NAFTA
Some of these proposals could be justified by the United States position on global trade matters, including the update to the North America Free Trade Agreement (NAFTA), the United States – Mexico- Canada Agreement (USMCA) set to be signed by Nov. 30, before AMLO takes office.
In August 2018, a revised NAFTA agreement was announced by President Trump. It was more of a pending bi-lateral agreement between the U.S. and Mexico, before the full agreement including Canada was finalized at the end of September.
While the oil and gas sectors were not specifically mentioned in the August announcement, the USMCA continues market access for U.S.-produced natural gas and oil products with zero tariffs. Mexico will also retain its current level of openness to U.S. energy investment. These continuations are important to energy trade since today, per published data, the U.S. exports more energy to Mexico than it imports. This spans petroleum, natural gas and crude — all seeing gains over the past few years.
In a post-election speech, AMLO gave some comfort to markets, expressing a willingness to finalize NAFTA (he is leaving Mexico’s current negotiating team in place), and the risk concerns have eased a bit with him speaking of more competitive wages and encouraging investment in Mexico. He has since voiced support for the USMCA, and even posted a Twitter poll for what its new name should be in Mexico.
International Investor Interest
“Investor worries have been somewhat mitigated,” Pedro Tuesta, senior economist for Latin America with Continuum Economics says. “Mexico will continue to attract international investors now, and more so with López Obrador’s statements about infrastructure renewal and investment.
The energy reform initiatives of 2013 had resulted in nearly $200 billion in new foreign investment to boost production. In just the downstream sector, 30 new private operators are aiming to open more than 1,700 gas stations, according to the Franklin Templeton analysts.
Though there is reason for optimism, they conclude their assessment of Mexico’s post-election energy environment with a recommendation for the new President: “AMLO should realize energy reform is an asset to the country and key to unleashing productive forces that will enable Mexico to restore production levels.”