The Energy Reform and its Extractive Economic Impact on Mexico
The Mexican Senate passed yesterday the proposed electricity market reform promoted by the current administration to give back to CFE its quasi-monopolistic status in the electricity market. The approval and implementation of the proposed electricity market reform is considered by the Government as an important step towards achieving “energy sovereignty”.
One of the key aspects of the energy reform is the change in the dispatch of generation plants. The proposed new dispatching rules will require the dispatching of CFE plants (hydro first and remaining CFE fleet next) ahead of any other renewables and private combined cycles plants. This is a 180-degree change from current dispatching rules based on economic merit, that is, where the cheapest generation plants were dispatched first in the market.
This will have a profound impact on the market as electricity costs will likely increase because diesel and fuel oil plants will be dispatched before other cleaner and cheaper generation technologies. According to Platts, the gas-to-oil switch in generation could lead to up to 0.5 bcf/day in cleaner gas generation being at risk. To put this figure in perspective, 0.5 bcf/day represents circa 9% of the daily average natural gas exports to Mexico from the US and equates to just over 87,000 barrels of oil. From an economic perspective this decrease in natural generation can translate into an increase in generation cost of 2.3m USD/day. This 2.3m USD/day represents the difference in purchasing costs between 0.5 bcf of natural gas assuming a conservative price of 4 USD/MMBtu1 and 87,000 barrels of oil at the January average export price of Mexican oil of 49.52 USD/bbl2 . The actual cost can be significantly higher when other generation costs are included. This additional cost will unquestionably be passed through to the end-user who will see their electricity costs trending up, at a time when we still are trying to recover from the pandemic. So, beware C&I end-users particularly those under CFE Basic Supply.
This gas-to-oil switch is a consequence of the extractive economic impact3 of the proposed energy reform. The proposed energy reform is being foreseen in many circles as an effort to significantly reduce the competition that CFE faces in the Mexico electricity market. Unfortunately, if approved it will discourage investment and innovation in the energy market that will inhibit Mexico’s ability to benefit from the energy transition that is currently underway and the private sectors’ needs to grow and improve their performance.
It is worth noting that two of the main principles of energy transition is the democratization in energy management and the so-called “creative destruction4 ” within the energy sector. The democratization in energy management allows residential, commercial, and industrial (C&I) end-users alike to have more supply and technological options and, therefore, the ability to determine how they want their electricity supply to be Provided. On the other hand, the “creative destruction” within the energy sector translates in the replacement of outdated, costly, and polluting generation technologies by newer and cleaner technologies.
It is clear that the proposed energy reform would reduce the electricity supply options for end-users and would allocatee valuable resources to maintain outdated and costly generation technologies which have a significant environmental and social impact. In this context, Mexico’s National Meteorologic Service (“Servicio Meteorológico Nacional – SMN” in Spanish) indicated that the temperature in Mexico is raising faster than in other countries.
The SMN observed that the temperature in Mexico has increased by 1.4 degrees Celsius from 1981-2010 reference period, 0.5 degrees higher than the Earth’s temperature over the same period.
Acclaim Energy and other relevant voices in the Mexico energy market have already raised significant concerns to proposals that would reverse or reform the Mexican energy market. An open market affords many benefits to the nation and large users, so we hope the voices involved in this important legislation seriously consider the adverse socioeconomic and environmental impact this piece of legislation would have on Mexico. Acclaim Energy will continue to advocate for an openly competitive market where end-users have more freedom of choice, lower prices, and a reduction in the emissions of greenhouse gases.
1 Based on an average price of Houston Ship Channel of 2.6 USD/MMBtu adding an additional 1.4 USD/MMbtu on
transportation costs (being conservative)
2 Source: Centro de Estudios de Finanzas Públicas
3 The concept of extractive economy is explained in “Why nations fail” by Daron Acemoglu, James Robinson.
4 The concept of “Creative destruction” was created by Austrian economist Joseph Schumpeter. Creative destruction is
“process of industrial mutation that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one”