Wednesday, August 27, 2008

The Mexican Reforms

Published Aug 28 2008 by Energy Bulletin

In the vast interior of rural México, awareness of an approaching energy and economic tsunami is below even Alert Azul, the first stage of a hurricane watch. For those who read the newspapers or follow television there is no shortage of news about the usual political scuffling between Presidente Felipe Calderón Hinojosa and opposition party leader José Ramiro López Obrador concerning Cantarell oil field’s breathtaking 14% annual decline rate. People just don’t seem to register it as anything other than the usual politics that goes on in México City, a world away from their lives planting corn, grinding steel, or serving tourists with poolside Margaritas.

For those versed in exponential growth, it comes as no surprise that 14% on an up-slope equals a doubling every five years. On the down-slope, where we have less experience, it means a halving every five years. That halving is what the mature oil province just off the coast of the Northern Yucatán is doing to Petróleos Mexicanos (Pemex), México’s national oil company. All those years of mainlining the latest designer recovery technology — the geological seismic scans, side drilling, 900 million cubic feet a day of compressed natural gas injection, 1.2 billion cubic feet a day of compressed nitrogen, water cuts and the rest — lengthened the plateau of Cantarell’s production, but just as oil analyst Matt Simmons predicted in Twilight in the Desert, now comes the breathtaking decline rate, and that is giving Pemex delirium tremens.

To their credit, Pemex has been telegraphing the problem to Calderón since he took over from his patrón in the National Action Party (PAN), Vincente Fox. As Jude Clemente recently summarized in Energy Bulletin, Fox’s PAN party broke the 70-year political stranglehold of the PRI party when he took office in 2000, and with strong backing from México’s business sector, advanced social development goals that made a significant improvement in the lives of most Mexicans. México’s oil wealth played no small role in this achievement, because both Fox and his PAN party successor used Pemex more as a cornerstone of the state revenue department than as a large business with cyclical needs to reinvest.

México took the oil wealth of Cantarell, and whatever it could borrow from international development banks, to create its massive tourist and manufacturing industries (although it is commonly said by Mexican construction workers, who are paid in cash, that drug money laundering played no small part in the rapid development).

Cancun was transformed from a fishing village at the edge of a jungle into a destination for hundreds of daily passenger jets, dumping European kitesurfers and co-ed spring-breakers into its turquoise bay. Factories for car parts and cheap furniture bloomed along the Rio Grande. México lifted itself from poverty.

All those tourist dollars changed something else. Once México was known as one of the most important food producing countries of the world. Today agriculture represents less than 3 percent of México’s earnings from abroad. México imports all of the principal crops that its population eats: beans, corn, rice, wheat and vegetables. This is a dangerous gambit, as was seen a few years ago, when the government briefly let the price of corn tortillas float upwards with the cost of imported corn. People took to the streets, banging pots, and threatened to bring down the government, until it relented and fixed the price of tortillas at 12 pesos (USD$1.10) per kilogram.

In modern México, the periodic famines that the poor Yucatan fisherman, Rudecindo Cantarell, and his parents knew and expected are hard to imagine. Food is so cheap and plentiful that today obesity is a greater concern than hunger. The average mega-supermarket in Cancun stocks an impressive array of exotic foods trucked, flown or shipped from outside México.

All of this would be well and good if it were sustainable, but the fact is that nearly all of this recent abundance depends on the ancient storehouse of energy that was in the forests and seas of Pangea before the Chicxalub meteor struck, and on the unique geological conditions that allowed that fossil sunlight to be preserved until now.

In 2004, Pemex was pleased to announce that its oil wealth would continue for many years to come. Pemex's head of exploration and production, Luis Ramirez, was quoted in the daily newspaper El Universal as saying that Pemex had mapped seven new offshore blocks with large pools of oil and natural gas, likely in the range of 54 billion boe, more even than México’s proven plus probable reserves at that time.

“This will put us on a par with reserves levels of the big players like Iraq, United Arab Emirates, Kuwait or Iran,” Ramirez said. “What's more, we would be in a position to reach production levels like those of Saudi Arabia, which produces 7.5 million barrels per day, or Russia, which produces 7.4 million.”

Pemex took the opportunity of that occasion to complain that the PAN-controlled government took 61 percent of its gross oil revenues in taxes. Outside investment would be needed to drill future wells more than a mile deep and out into the deep Gulf of Mexico.

“To extract this oil México needs to establish a technology alliance with countries that have experience,” Ramirez said.

The election of Calderón Hinojosa, marked by widespread voting fraud and still called illegitimate by López Obrador and the PRD party, was an opportunity for Pemex to step up its campaign for more investment. Pemex told Calderón that he had to give them the means to drill offshore.

But there are two significant obstacles for Pemex to overcome if it is going to tap the country’s deep offshore resource, and these obstacles are not entirely in Calderón’s control. The first is strong national laws against foreign ownership of México’s oil resource, which is only significant because of the unwillingness of major international oil companies to share their deep sea drilling expertise without a property stake. The second is the 61-percent skim — 260 billion pesos per year — which the PAN government would no sooner give up than NAFTA.

Pemex warned Calderón that its estimates of Gulf reservoirs were still unproven. “You don't have anything unless you have a drill bit,” said analyst George Baker at the U.S. oil patch firm, México Energy Intelligence.

“You can't show there's a barrel of oil there unless you drill for it. And Pemex can't do that without associates. The expertise (for deep-water drilling) is not for rent,” Baker said, in September 2004.

Calderón was no more interested than Vincente Fox in reducing financial dependence on Pemex, and with PRD now blocking any move in Congress to loosen the restriction on foreign investment, the crisis has gradually worsened. It was elevated still more by George W. Bush’s private meeting with Calderón in a Yucatán hacienda in early 2007, a move which the PRD interpreted as an indication of US interest in controlling prospective Mexican oil wealth. The meeting was ostensibly about creating a “shared resource” pact between the USA, Canada and México.

On July 27, 2007, Raúl Muñoz Leos, Director General of Pemex, placed a stick of dynamite under the political logjam, and then lit the fuse. Pemex issued a press release that said México had less than seven years before the country would run out of oil. Not seven years until it peaked. Not seven years for Cantarell. Seven years, and Méxican production would run dry.

Suspicions about Pemex’s motives, given México’s history of political corruption, are not unwarranted. Is the ultimatum from Muñoz Leos a calculated ploy to lift the legal restriction on privatizing México’s oil resource just as it is on the verge of major finds? Many Mexicans believe so. Still, the threat could also be quite real, and it has been taken that way by the political parties.

Calderón’s PAN party has proposed “La Reforma Energetica,” a call for a national referendum on the privatization of Pemex. In mid-August, 2008, PAN set up thousands of tables at the market plazas in municipalities, staffed with consultants who made presentations and took questions, and then local people were urged to step forward and “vote” for the reform. At the heart of the Calderón plan is for Pemex get the money it needs by joint exploration projects with major foreign oil companies. The Calderón plan would not reduce the tax burden of Pemex, which is to say, lower the draw on Pemex assets as production goes into steep decline.

While the vote is not legally binding, at the voting tables I saw in rural parts of the Yucatán on August 10th, no-one showed up except the promoters. People read the morning newspaper that told about the referendum, and then used the paper to wrap fish.

López Obrador has formed a coalition with his PRD and two smaller parties — the Partido del Trabajo (PT) and Convergencia — called Frente Amplio Progresista (FAP), or “combined progressive front.” This past week FAP proposed its own alternative to La Reforma Energetica, with 10 legal initiatives that sound vaguely like the Oil Depletion Protocol. A novel addition would be to oversee Pemex's finances by means of an independent “Citizen Council.” Obrador has called for a day of peaceful civil resistance to La Reforma Energetica on August 31.

The central idea of the FAP plan is that the federal government will gradually reduce the percentage of profits it takes from Pemex, allowing the company to use its own money to finance exploration and new production. Remarkably, the third major party in Congress, the PRI, has not rejected the FAP plan, and has left open the possibility that it might join the coalition. Another significant supporter is the union of petroleum workers, which has been gradually squeezed over pay, working conditions and benefits as Pemex tries to keep up with its high taxes despite declining revenues. PRD Senator Carlos Navarrate underscored that the FAP plan would not privatize Pemex, “neither total, nor partially.”

“Pemex can explore, it can drill, it can construct refineries and improve its plants,” said Navarrate.

For now, the impasse remains. The groundswell of public support that Calderón had hoped for did not materialize, at least out in the rural parts of the nation where I spoke with people who were following the issue.

And perhaps the more interesting point is that very few Mexicans are even concerned about it. For now, their concern is that the price of food and rent has been going up dramatically while their wages are constant and unemployment is rising. In rural areas where the average wage for a skilled worker is 200 to 300 pesos per day (USD$19.70 to 29.50) and half that or less for an unskilled worker, seeing prices for groceries similar to those in the USA or Europe is, to say the least, disconcerting.

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