VZCZCXRO8279
PP RUEHCD RUEHGD RUEHHO RUEHMC RUEHNG RUEHNL RUEHRD RUEHRS RUEHTM
DE RUEHME #6783/01 3402105
ZNR UUUUU ZZH
P 062105Z DEC 06
FM AMEMBASSY MEXICO
TO RUEHC/SECSTATE WASHDC PRIORITY 4479
INFO RUEHXC/ALL US CONSULATES IN MEXICO COLLECTIVE
RUCPDOC/DEPT OF COMMERCE WASHDC
RHEBAAA/DEPT OF ENERGY WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 04 MEXICO 006783 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
STATE FOR WHA/MEX, WHA/EPSC, EB/ESC 
DOE FOR INTERNATIONAL AFFAIRS KDEUTSCH AND SLADISLAW 
DOC FOR ITA/TD/ENERGY DIVISION 
 
E.O. 12958: N/A 
TAGS: ECON ENRG EPET MX
SUBJECT: MEXICAN ENERGY ROUNDTABLE: DECLINING OIL REVENUE 
AND LIMITED REFORMS 
 
REF: A. MEXICO 2577 
 
     ¶B. MEXICO 5148 
 
Sensitive but unclassified, entire text. 
 
------- 
Summary 
------- 
 
¶1.  (SBU) According to studies completed by Cambridge Energy 
Research Associates (CERA), President Felipe Calderon will 
contend with a real drop in oil revenue from about USD 54 
billion in 2006 to the USD 27 billion range in 2012 as a 
result of decreasing production, a likely fall in heavy crude 
prices, and declining Mexican crude quality.  To address this 
fall and shore up the budget, CERA believes Calderon will 
likely be able to get Petroleos Mexicanos (Pemex) corporate 
governance reforms passed, but that more comprehensive 
changes may not be possible.  PRD opposition to the Calderon 
presidency, especially on the energy agenda remains deep, and 
Calderon will act first on the political agenda which will 
require continued substantial oil revenue.  He will also have 
to build a more workable coalition between the executive and 
the legislative branches than was in place during the Fox 
administration.  More controversially, CERA discounts 
Calderon's need to convince the Mexican people of the need 
for energy reforms, but rather they suggest that Calderon 
focus his attention on the Congress where the National Action 
Party (PAN) maintains a plurality in both congressional 
chambers (Chamber of Deputies 41%, Senate 39.4%). That said, 
the PAN has a very weak mandate from the Mexican electorate 
which remains divided.  CERA also believes that post election 
protest weakened Mexican institutions, threatening the 
chances for energy reform.  End summary. 
 
------- 
Setting 
------- 
 
¶2.  (SBU) Econoff attended the semi-annual Mexican energy 
roundtable presented by Cambridge Energy Research Associates 
in Mexico City November 16.  Participants included 
representatives from the Mexican Secretariat of Energy 
(SENER), Pemex, the Federal Electricity Commission (CFE), as 
well as representatives of international firms active in the 
Mexican energy sector.  At the session, participants 
discussed the outlook for the Mexican oil and gas sector over 
the next five years as well as how the incoming Calderon team 
would address energy policy issues. 
 
--------------------------------------------- ----------- 
Declining Quality, Declining Price, and Increasing Costs 
--------------------------------------------- ----------- 
 
¶3.  (SBU) CERA produced a relatively positive forecast (i.e. 
slow decline) of overall Pemex production based on Pemex's 
current production outlook: 
 
            CERA Forecast 
            of Mexican Oil 
            Production 
            (thousand barrels 
             per day) 
            ---------------- 
2006        3,284 
2007        3,190 
2008        3,055 
2009        3,051 
2010        3,018 
2011        2,940 
2012        2,874 
 
¶4.  (SBU) The group agreed that as more production comes from 
Pemex's most promising short term prospect, the 
Ku-Maloob-Zaap (KMZ) complex, the overall quality of Mexican 
oil will decrease.  Tests show that oil from the Baksha, 
Kayab, Zazil-Ha, and Numan oil fields which should make up 20 
percent of the KMZ mix by 2012 should significantly lower the 
overall quality of Mexico's dominant product, the Maya blend, 
reducing the price of Mexican crude.  CERA reported that even 
accepting relatively optimistic Pemex production estimates, 
combined quality and limited volume declines, will decrease 
GOM revenue by as much as percent by 2012. 
 
 
MEXICO 00006783  002 OF 004 
 
 
¶5.  (SBU) In addition to the revenue decrease due to volume 
and quality declines, CERA's base case oil price forecast 
shows West Texas Intermediate (WTI) crude dropping from USD 
61/Bbl this year to USD 45/Bbl by 2010.  CERA economists note 
the drivers of the forecast include projected large new 
discoveries slated to come on line in Kazakhstan and Brazil 
by 2010.  They also believe that the current oil price has 
been buoyed by a "fear factor" sQemming from current global 
instability.  Without further political "shocks" to maintain 
elevated prices, the "fear factor" effect on world oil prices 
will reduce over time.  Combining quality and price effects, 
CERA forecasts the Mexican Price: 
 
            Mexican 
            Crude 
            Basket Price      WTI 
            Forecast          Forecast 
           (Real 2005 $)      (Real 2005 $) 
            ------------      ------------- 
2006        55.26             61.00 
2007        48.73             52.00 
2008        40.61             46.00 
2009        38.17             44.00 
2010        36.67             45.00 
2011        35.66 
2012        33.57 
 
 
¶6.  (SBU) CERA and the industry representatives present 
agreed that Pemex's financing, operating, and capital costs 
would rise.  Worldwide, oilfield services and supplies have 
increased 15 to 25 percent in the last 12 months.  In the 
Mexico specific case, 74 percent of Mexican production today 
has an extraction cost below USD 4/BBL.  While extraction 
costs for new develoments should be equivalent, beginning in 
2010-2012, a significant portion of the Mexican production 
mix (11%) should begin to come from Chicontepec, a much more 
difficult to produce onshore field with production costs near 
USD 14/Bbl.   Total production costs will more than double 
during this period.  At the same time, capital costs (reserve 
development and infrastructure construction) will rise 
dramatically as Mexican oil becomes much harder to find and 
develop.  CERA predicts that exploration and development 
spending will increase 3.5 times between 2005 and 2012. 
 
¶7.  (SBU) Combining the effects of volume price, and quantity 
declines, and taking into account operating cost hikes and 
then applying the current formula for Pemex extraction duties 
and other taxes, CERA estimates the GOM's real income from 
hydrocarbons will decline from about USD 54 billion in 2006 
to approximately  USD 27 billion in 2012, even taking into 
account relatively rosy Pemex production forecasts. 
 
--------------------------- 
Legislative Reform Strategy 
--------------------------- 
 
¶8.  (SBU) To offset this difficult scenario, the Calderon 
administration will have to develop a strategy to reform the 
sector.  The crux of that strategy will depend on how 
Calderon and his administration manage the Congress.  To 
describe the political process, CERA analysts divided 
necessary decisions into three areas 
 
(1)   Ideology versus Pragmatism -- the Calderon team must 
decide how deep and market based reforms must be, taking into 
account they must win the at least tacit support of the Party 
of the Democratic Revolution (PRD) to avoid derailing reforms 
 
(2)   Institutionalization versus Politicization -- The 
Calderon team must decide whether to trust in formal 
legislative mechanisms or informal political relationships, 
and, 
 
(3)   Status Quo versus Liberalization -- Calderon must also 
decide how quickly reforms are to be introduced.  His team 
must move slowly enough to build support, all the while 
keeping in mind the growing GOM oil revenue decline. 
 
-------------------------- 
Ideology versus Pragmatism 
-------------------------- 
 
¶9.  (SBU) Street protests since the July election have 
 
MEXICO 00006783  003 OF 004 
 
 
dwindled, but as evidenced by their behavior in the lead-up 
to his inauguration, PRD opposition to the Calderon 
presidency remains deep.  The incoming administration's first 
instinct has been to be pragmatic as evidenced by the 
President elect and his advisors' statements during the 
transition (reftels).  CERA believes Calderon's first moves 
will be to protect national security, promote state's 
interests, and help to ensure the rule of law.  At the same 
time, they see a real need for Calderon to develop a more 
workable coalition between the executive and the legislative 
branches than were in place during the Fox administration. 
 
¶10.  (SBU) Somewhat more controversially, CERA believes that 
there is a "dichotomy between public opinion and real 
support," thus they discount Calderon's need to convince the 
Mexican people that energy reforms would be worthwhile, 
instead, they believe that the new President will focus 
attention on the Congress.  On the positive side, Calderon's 
National Action Party (PAN) maintains a plurality in both 
congressional chambers (Chamber of Deputies 41%, Senate 
39.4%) and will benefit from institutional support offered by 
the executive.  Especially after the abortive protests by the 
PRD, the PAN's support is growing.  The country's economy 
remains stable, and politically there is significant 
continuity with the outgoing Fox team.  Still though, the PAN 
has a very weak mandate from the Mexican electorate which 
remains divided.  Calderon opponents are mobilized with the 
fate of the energy sector one of the principal points of 
division.  CERA believes that post election protest weakened 
Mexican institutions, a view not shared by all participants. 
Congress itself remains fragmented, and energy reform must 
share the stage with an extensive political agenda. 
 
¶11.  (SBU)  Looking to the past performance of the Energy 
Committee, CERA analysts searched for indications of how the 
upcoming 60th legislature would behave based on the 
performance of previous Mexican congresses.   CERA analysts 
argued that Mexican politicians have recently become more 
focused on hydrocarbons.  In the 58th Legislature (2000-2003) 
50% of proposals dealt with electricity and 24% dealt with 
hydrocarbons.  The situation reversed under the 59th 
Legislature (2003-2006) 54% of proposals dealt with 
hydrocarbons and 26% dealt with electricity.  CERA suggested 
that the switch resulted from the belief that CFE and the 
electricity monopoly had been "taken care of" while the real 
focus should be oil and gas.  In both the 58th and 59th 
legislature, the PRI proposed more amendments than the PRD, 
the PAN or the Executive neither of which was active 
introducing energy legislation.  The 58th legislature's 
Energy Committee within the Chamber of Deputies introduced 63 
proposals while the 59th legislature introduced 97. 
Nevertheless, only 10 proposals passed (including fiscal 
reform for Pemex and a cogeneration package) The Chamber of 
Deputies, the analysts suggested, was a legislation filter, 
bringing only those bills forward that would justify passage. 
 Despite the PRI's majority almost of the successful 
proposals came from the PAN. 
 
¶12.  (SBU) Earlier activity in the Congress also indicates 
that despite their function as a legislative filter, 
liberalization was unpopular.  Only 5% of proposals dealt 
with the issue.  Furthermore, in the 58th and 59th 
legislature, 33 percent and 47 percent of proposals were 
meant to strengthen institutions (CRE, SENER, Pemex, etc.). 
From this, CERA analysts that the PAN sought to strengthen 
the institutional basis for reform (Pemex fiscal reform). 
Nevertheless, they avoided direct political confrontations 
with the opposition and radical factions (PRD) by avoiding 
the liberalization issue.  Questions remain as to how willing 
the PAN will be to approach the reform issue in the 60th 
congress. 
 
------------------------------------------ 
Institutionalization versus Politicization 
------------------------------------------ 
 
¶13.  (SBU) The group also discussed whether Calderon would 
depend more on informal channels of communication between 
parties to achieve portions of his agenda, a strategy used by 
former President Carlos Salinas, or would he depend more on 
formal lines of communication between the legislative and 
executive that President Fox tried to use.  While Fox 
depended on his cabinet secretaries to manage the Congress, 
CERA analysts noted that on energy, the administration failed 
 
MEXICO 00006783  004 OF 004 
 
 
to provide the political support to the energy secretariat to 
complete meaningful legislation -- electing to focus on 
maintaining short term Pemex revenues high to boost 
government income.   Even the most recent legislative 
proposal to reform Pemex corporate governance, with 
relatively broad acceptance across the political spectrum, 
failed to receive real support in congress from the Fox 
administration.   The Secretariat of Energy (SENER) is 
traditionally weak; hence Fox's dependence on formal 
mechanisms combined with SENER's weakness in formal 
networking made it much more likely that reform legislation 
would fail in the previous congress. 
 
----------------------------- 
Status Quo vs. Liberalization 
----------------------------- 
 
¶14.  (SBU)  CERA believes that in the relative short term (3 
months) Calderon will be able to "Address the main political 
obstacles to energy sector restructuring" and "confront 
urgent needs."  On the energy side, CERA believes that most 
legislative action would be geared to changing energy subsidy 
rules to better favor the poor.  In the medium term (1 year) 
CERA suggested that Calderon will "Create an appropriate 
political environment for stimulating stable, legislative 
policy change in the sector."  Internal lobbying for reform 
would be possible but would largely depend on how reform 
responsibilities would be distributed in the new cabinet.  In 
the long term (3 years) CERA suggested that Calderon will 
"consolidate a coherent integrated energy reform."  They 
believed that partial reforms such as diluting the 
representation of unions on the Pemex board would be 
possible, but a comprehensive reform was less likely.  Going 
forward, the observers felt the PAN would seek to take 
advantage of the "new players" (i.e. the departure of 'old 
guard' such as the obstructionist PRI Senator Bartlett). 
CERA believed that the PRI role would be the most important 
for the PAN strategic interests. 
 
------- 
Comment 
------- 
 
¶15.  (SBU) Of all Mexican energy prognosticators, CERA's 
current production forecast for Mexico is the most rosy, 
nonetheless, their price forecast suggests an almost 50% drop 
in Mexican government oil revenues over the next six years. 
CERA and most other participants in the session agreed that 
if any energy reforms that do pass, they would be slow in 
coming and would likely not be sufficient to stem Mexico's 
revenue slide.  The balance between managing the energy 
sector to maximize current GOM revenues and ensuring future 
energy security through increased investment and 
liberalization will remain a difficult challenge. 
 
¶16.  (SBU) Some analysts believe that the Calderon team has 
already signaled it will behave as previous administrations 
and "take the money now."  At the same time, new Finance 
Secretary Carstens said publicly on December 5 that Mexico 
 
SIPDIS 
should expect a fiscal reform proposal in 2007 given the 
GOM's need to increase revenues and allow Pemex to make 
significant investments over the next few years to maintain 
its export platform.  This approach signals that the new GOM 
is aware that unless remedied, the costs of declining revenue 
and production will come due for Calderon by the middle of 
his term. 
 
 
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