A Changing Landscape | Three Possibilities for the Future of Mexico’s Energy Market
December 11, 2018
Though deregulation was completed nearly a year ago in November of 2017, liberalization of the Mexican energy market continues to create uncertainty for public officials, shippers, and petroleum providers alike. Originally intended to transition Mexico into a competitive energy market, liberalization is diversifying the country across all areas of the energy sector and oil and refined products supply chain. Much of this goal hinges on strategic movement away from the previous sole distributor of energy products in the country, state-owned Pemex (Petróleos Mexicanos), toward a broader array of foreign investment creating a competitive marketplace.
The U.S.-Mexico Petroleum Summit in Mexico City in fall of 2018 sought to examine current conditions in Mexico’s energy marketplace and provide insight from companies and government officials about possible trajectories for the country in the next few years. With multiple viewpoints represented on the global stage, from a new president-elect determined to increase Mexico’s energy self-sufficiency, to multinational companies vying for a wedge of the market share, the path forward for Mexico remains unclear and uncertain. Three distinct scenarios for future market outcomes in Mexico emerged at the conference this year, each dependent on upcoming decisions and future market dynamics.
Scenario 1: Return to a Pre-liberalization Marketplace
Though it would require significant effort to backpedal on what has already been accomplished for energy reform in Mexico, the first scenario involves a return to a pre-2017 market. Before deregulation occurred, state-run oil company Pemex, along with the Mexican government, set fixed national fuel prices, eliminating any sort of volatility or competitive pricing from the marketplace.
The initial goal of Mexican energy reform was to open this monopolized energy market to foreign investment, bolstering funding for domestic infrastructure and boosting the economy in the process. Critics, like Mexican President-Elect Andrés Manuel López Obrador, have expressed concern over the resulting dependence on the US and other countries’ crude products as Mexico makes this transition. These arguments are further supported by promises made earlier in his campaign to reverse deregulation policies and freeze national fuel prices for up to three years, which he argues would allow prices to rise at the same rate as inflation. During these three years, López Obrador suggests building a new refinery in Mexico, increasing the country’s production, reducing dependence on foreign petroleum products, and decreasing fuel prices throughout the country.
Though interest to move back to pre-liberalization fuel dynamics is prevalent with López Obrador and party affiliates, significant political and economic hurdles remain to overcome the current state. The risk of damaging international economic relationships with companies that have already invested in infrastructure development in Mexico’s oil sector could prove detrimental to bringing in greater foreign investment in other sectors. Additionally, reinstating Pemex as the sole fuel supplier would be costly, as the oil company holds more than $100 billion in debt. Though returning to pre-liberalization fuel market dynamics may reduce dependence on foreign crude products, it could hinder foreign investment into the broader Mexican economy in the long term.
Scenario 2: A Pemex-Dominated “Free Market”
The second possible scenario is a continuation of the current market dynamic, with new companies struggling to compete with Pemex. Though on paper it is no longer government-sponsored, the company remains a relative monopoly, maintaining the largest number of service stations throughout the country. Additionally, because it possesses the largest market share and can therefore set the most advantageous prices, Pemex maintains a significant presence in Mexico throughout most levels of the petroleum supply chain, from production to retail. Without continued momentum in bringing in more and more foreign corporate investment, the status quo of a Pemex-dominated landscape, though not official, will be maintained.
In this scenario, to achieve a state more closely resembling a fully free market, companies would have to continue to vie for larger and more competitive operations throughout the supply chain. This process is made more challenging by the lack of upstream and downstream infrastructure throughout the country. Existing refineries are not located near regions or population centers with high demand for fuel, which creates logistical inefficiencies and bottlenecked oil supplies.
With López Obrador’s dedication to adding new refinery operations, this may soon improve. However, additional investment into building out upstream operations will require an increase in foreign investment, as well as a reliance on foreign imports – primarily from the U.S. – while they are being developed. Both of these have been key criticisms by López Obrador toward the currently deregulated market.
However, that’s not to say there hasn’t been diversification in the Mexican fuel market in the past year. Since the end of 2017, over 60 new projects have been approved by Mexico’s Regulatory Commission of Energy, after 17 years with little investment in storage or distribution facilities. Over 50 different brands have entered Mexico’s retail space, representing an increase of approximately 20-25 percent in private non-Pemex diesel imports. While there are significantly more foreign companies in Mexico’s fuel retail space, there is increasing interest as well in adding competition at other levels of the supply chain. While Pemex may still have the monopoly, there are hints of movement toward a free market equilibrium.
Scenario 3: True Free Market Equilibrium
Finally, a third possible outcome for the Mexican energy market would be a strategic move to a truly free market, one where private companies compete equally with Pemex, with the necessary infrastructure to bring competition to all levels of the oil supply chain. Fuel demand is projected to grow substantially in the next decade. For oil companies and fuel retailers, this means growing and enhancing the available market. With a greater acceptance of foreign investment and product in the country’s energy market, the Mexican government could benefit from foreign investment into the economy, while securing resources to meet this future demand.
Much of this will rely on Mexico’s ability to build out refinery operations to extract from its available oil reserves, enabled by incorporating additional infrastructure funding into the national budget. This is logistically advantageous, as the resulting lower market prices would create better margins for private-sector Pemex competitors. It would also rescue the Mexican refining industry, potentially increasing daily oil production to 2.5 million barrels per day. With the development of non-Pemex-owned energy infrastructure, the large market share the company currently possesses could be minimized, fostering a more dynamic equilibrium among energy market players.
Because of the uncertainty regarding Mexico’s energy market future, it remains critical for shippers who operate within the country to have visibility into their actual fuel costs. Whether Mexico returns to a pre-liberalization monopoly or becomes a truly free market, managing cost volatility, utilizing accurate fuel reimbursement practices, and positioning your strategy for continuous improvement in a changing and complex marketplace will ensure success in your supply chain.
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