VZCZCXRO8826
PP RUEHCD RUEHGD RUEHHO RUEHMC RUEHNG RUEHNL RUEHRD RUEHRS RUEHTM
DE RUEHME #2335/01 2111852
ZNR UUUUU ZZH
P 291852Z JUL 08
FM AMEMBASSY MEXICO
TO RUEHC/SECSTATE WASHDC PRIORITY 2763
INFO RUEHXC/ALL US CONSULATES IN MEXICO COLLECTIVE PRIORITY
RHEHAAA/NATIONAL SECURITY COUNCIL WASHINGTON DC PRIORITY
RUEHC/DEPT OF INTERIOR WASHINGTON DC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC PRIORITY
RUEATRS/DEPT OF TREASURY WASHINGTON DC PRIORITY

UNCLAS SECTION 01 OF 05 MEXICO 002335 
 
SENSITIVE 
SIPDIS 
 
STATE FOR U/S JEFFERY AND A/S SHANNON 
STATE FOR WHA/MEX, WHA/EPSC 
STATE FOR EB/ESC MCMANUS AND IZZO 
USDOC FOR 4320/ITA/MAC/WH/ONAFTA/GERI WORD 
USDOC FOR ITS/TD/ENERGY DIVISION 
INTERIOR FOR MMS/STEVE TEXTORIS, KEVIN KARL, RENEE ORR 
TREASURY FOR IA (LUYEN TRAN, RACHEL JARPE) 
DOE FOR INTL AFFAIRS KDEUTSCH, ALOCKWOOD, AND GWARD 
NSC FOR RICHARD MILES, DAN FISK 
STATE PASS TO USTR (EISSENSTAT/MELLE/SHIGETOMI) 
STATE PASS TO FEDERAL RESERVE (BORA DURDU) 
 
E.O. 12958: N/A 
TAGS: ENRG EPET ECON PGOV EFIN MX
SUBJECT: APPROACHING THE THIRD RAIL: MEXICO'S BIG PARTIES 
BEGIN SERIOUS NEGOTIATIONS ON PEMEX REFORM 
 
REF: (A) MEXICO 1072 (B) MEXICO 531 (C) MEXICO 209 
 
Summary 
------- 
 
¶1. (SBU) With the conclusion of the Senate debates on the 
Calderon Administration's proposal for reforming the 
state-owned petroleum monopoly PEMEX, leaders of the three 
major parties (the right-leaning ruling National Action 
Party, or PAN; the more centrist opposition Institutional 
Revolutionary Party, or PRI; and the leftist opposition 
Democratic Revolutionary Party, or PRD) have committed to 
working out a deal on this most politically sensitive of 
issues, and the general shape of the likely consensus is 
becoming clearer.  The PRI has made public its reform 
proposal, which government and PAN leaders have been quick to 
praise as resembling in large measure the Administration's 
own, though industry sees the PRI proposal as more 
restrictive than the PAN's.  Meanwhile, the PRD has more 
intra-party differences to iron out before it will be able to 
present its proposal, with a major fight likely between the 
die-hard obstructionists and the party's more moderate wing. 
Both the PRI and the PRD have legislators who will almost 
certainly oppose any deal, but the chiefs of the three major 
parties met last week to lay the groundwork for moving toward 
a vote on a package aimed at their common goal of "rescuing 
PEMEX without privatizing it" by early October in order to 
have time to incorporate changes from the reform into the 
annual budget and appropriations bills.  They also decided to 
follow routine congressional procedure.  The willingness of 
the three party leaders to negotiate via the legislative 
process undermined the political impact of the controversial 
public referendum on energy reform sponsored by the PRD that 
was held in Mexico City and nine other states.  Attracting 
mostly PRD supporters, the referendum delivered predictably 
anti-reform results, though many criticized voting 
irregularities and the slanted questions.  Industry sources 
say that the final product of this intensely political 
process is unlikely to result in the "rescue" of PEMEX, but 
will hopefully provide some additional flexibility and pave 
the way for further reform by finally breaking the taboo on 
addressing the challenges the energy sector faces.  End 
summary. 
 
Parties Agree to Negotiate, Honor Normal Legislative Process 
--------------------------------------------- --------------- 
 
¶2. (U) Rapidly sinking oil production from existing fields, 
the inability to exploit new fields in the deep waters of the 
Gulf of Mexico, and the need to import 40 percent of Mexico's 
gasoline have sufficed to convince all three of Mexico's 
major political parties that they need to work together to 
rescue the tottering para-statal oil monopoly PEMEX.  At the 
same time, no party wants to be seen as giving away the 
country's oil (which was nationalized in 1938, an event still 
celebrated in school books and popular consciousness as one 
of the great patriotic triumphs in Mexican history).  Several 
days after the conclusion of the 71-day debate period in the 
Mexican Senate, the chiefs of the three main parties (German 
Martinez of the PAN, Beatriz Paredes of the PRI, and 
Guadalupe Acosta of the PRD) met to discuss how they would 
handle what all agreed was urgently needed reform to "rescue 
PEMEX without privatizing it."  There are certainly divergent 
views among (and even within) the parties over how best to 
rescue PEMEX, and what does and does not constitute 
privatization, but the three leaders agreed that these issues 
will be hashed out via routine congressional procedures. 
That means that all proposals will be considered, that there 
will be no fast-track vote, and that the appropriate 
committees will draft the bills.  The expectation is that an 
intense month-plus of congressional negotiations will lead to 
a consensus package being passed in early October.  This is 
the latest that the issue can be dragged out, because the 
Mexican Constitution requires that the federal revenue and 
appropriations bills be approved at the end of October and 
 
MEXICO 00002335  002 OF 005 
 
 
mid-November, respectively, and both of these will be heavily 
impacted by any reform to how PEMEX -- which currently 
provides approximately 40 percent of all government revenue 
-- operates. 
 
 
PRI Lays its Cards on the Table 
------------------------------- 
 
¶3. (U) On July 23, the day after the Senate's extended 
debates on the Calderon Administration's PEMEX reform 
proposal had finally ended, Senator Manlio Fabio Beltrones, 
leader of the Institutional Revolutionary Party's (PRI) 
Senate bloc, presented his party's own proposal for reforming 
the Mexican energy sector.  The major elements of the PRI 
proposal follow: 
 
-- Private Participation: PEMEX would be permitted to solicit 
private participation in various activities (e.g., 
exploration and drilling), but only via service contracts 
payable in cash.  There would be no direct link between 
compensation to the contractor and the revenue stream 
generated by any hydro-carbons found and exploited.  However, 
the proposal would allow for payment according to formulas 
with variables that are determined at the time of payment, 
rewards for successful results, and flexibility in 
compensating contractors for factors related to technological 
needs, level of difficulty, and quality of work.  On the 
other hand, if a project like a deep sea exploration fails to 
find exploitable hydrocarbons, the contractor would be 
responsible for all or some of the associated costs. 
 
-- Mini-PEMEXes: Public subsidiaries of PEMEX would be 
established at the state level, with public financing to 
handle refining, transportation, distribution, and storage of 
oil and petroleum products.  Private capital would be 
prohibited from operating these activities, but could be 
contracted for specific services or projects as per above. 
 
-- Transparency: PEMEX contracts would be subject to scrutiny 
by the Congress and the Secretariat of Public Function, and a 
committee for transparency and auditing would be created that 
would submit a report to the PEMEX Board every March. 
 
-- Greater Financial Autonomy: PEMEX would have greater 
decision-making power over its own budget. 
 
-- Board of Directors: Four independent, professional and 
full-time members would be added to the PEMEX board by the 
President and ratified by the Senate.  For the PEMEX 
subsidiaries, two independent members would be appointed to 
each of their respective boards of directors. 
 
-- New Regulator: A National Oil Regulator would be created 
to issue technical regulation and protect and maximize 
advantage of Mexican reserves.  This would be an independent 
entity. 
 
-- Citizen Bonds: PEMEX would make "bonos ciudadanos" 
available to all citizens.  These debt instruments, worth 
about $10 each, would pay rates of return similar to that of 
PEMEX, and would be tradable among individuals, pension and 
investment funds, though with rules prohibiting a single 
entity from accumulating large volumes of these bonds. 
 
Overlap and Differences Between PAN and PRI Proposals 
--------------------------------------------- -------- 
 
¶4. (U) President Calderon, Energy Secretary Georgina Kessel, 
Senate President Santiago Creel, PAN Senate Chief Gustavo 
Madero, other PAN leaders, and numerous  commentators have 
publicly noted the many similarities between the PAN and PRI 
proposals, asserting that it forms a promising basis for 
reaching a mutually acceptable deal.  In addition to 
increased transparency, budget and management autonomy, and 
 
MEXICO 00002335  003 OF 005 
 
 
the creation of citizen bonds (ideas which no one opposes), 
both seek to provide greater legal certainty to private 
contractors and create flexible payment mechanisms while 
taking pains to dissociate such payments from hydrocarbon 
revenue streams.  But there are also key differences.  The 
PAN proposal does not include the PRI provision that would 
force private contractors to eat all or some of the costs 
incurred for failed deep water exploration projects, nor does 
it restrict in such detail the types of activities in which 
the private sector can participate.  And the Calderon 
Administration would allow private capital to build, own, and 
operate refineries, pipelines, and the like (though 
maintaining government ownership of the petroleum being 
processed) while the PRI calls for new PEMEX subsidiaries to 
operate all these downstream activities.  The PRI calls for 
national content preferences for private contractors, while 
the PAN would treat all private contractors equally.  With 
regard to the PEMEX Board of Directors (currently made up of 
eleven people - six from the executive branch and five from 
the petroleum workers union), the Administration proposes 
four additional professional members to be appointed by the 
President, with two of them full-time and two of them 
part-time, while the PRI proposes that all four be full-time 
directors (and thus legally liable) and ratified by the 
Senate.  Jesus Reyes-Heroles, the Calderon-appointed Director 
General of PEMEX, perhaps assuming the "bad cop" role to lay 
down markers of where the PAN plans to make a stand in the 
coming negotiations, publicly criticized the PRI's position 
on creating 100 percent-state owned PEMEX subsidiaries to 
operate all downstream activities, saying that a higher 
degree of private participation was necessary in those areas 
precisely because PEMEX had proven itself incapable of 
building and operating more refineries and pipelines.  He 
also said that requiring Senate approval of the four 
additional professional board members would "politicize" 
their selection.  The PRI proposal has also received 
criticism from a number of PRI legislators from the lower 
chamber of the Congress, who criticized the provisions on 
private sector participation as threatening to "privatize" 
Mexico's petroleum, the political equivalent in Mexico of 
touching the third rail. 
 
PRD Proposal Faces Internal Opposition 
-------------------------------------- 
 
¶5. (SBU) While the PAN's legislators seem unified around the 
Calderon Administration proposal, the PRD faces even more 
daunting internal divisions than the PRI.  A top staffer 
working for the Senate's PRD bloc told econoffs that his 
party already had its own "reasonable" proposal ready, but 
would hold off presenting it until early September in order 
to afford more time to achieve party consensus.  He said that 
PRD moderates (including interim party chief Guadalupe Acosta 
and Senator Graco Ramirez, the ranking PRD member of the 
Senate's Energy Committee) were committed to a negotiated 
deal with the PAN and PRI and would not engage in seizing 
Congressional chambers or other such extraordinary tactics, 
but that die-hard rejectionists loyal to failed 2006 
presidential candidate Andres Manuel Lopez Obrador (AMLO) 
were not yet resigned to pursuing dialogue (despite the fact 
that as a presidential candidate, AMLO had made some noises 
about reforming PEMEX).  Our contact said that the idea was 
to work very hard between now and August 30 (the scheduled 
date for the 2008 PRD National Congress) to win over AMLO and 
company, or at least convince them not to rupture the party 
over energy reform.  He characterized the PRD proposal as 
similar to the PRI's and PAN's in updating contracting 
regulations (including some flexible compensation schemes, 
which PRD rejectionists, like their PRI counterparts, 
characterize as akin to privatization), strengthening 
management and budget autonomy, and forming a new regulatory 
commission.  In contrast to the PAN and PRI proposals, the 
PRD proposal will not support any participation of the 
private sector in downstream activities, wants to reduce the 
representation of the oil workers union on the PEMEX board 
 
MEXICO 00002335  004 OF 005 
 
 
from five out of eleven to perhaps only two (the PRD 
considers the PRI-affiliated oil workers union to be highly 
corrupt and a big part of the problems that PEMEX faces), and 
would re-centralize the PEMEX spin-off companies (PEMEX 
Exploration and Production, PEMEX Refining, PEMEX Gas and 
Basic Petrochemicals, and PEMEX Petrochemicals) into one 
single corporate entity again.  With regard to the downstream 
activities, he said that Hacienda -- the Mexican equivalent 
of the U.S. Treasury Department -- is sitting on $41 billion 
of frozen PEMEX earnings that would be sufficient to build 
four or five new refineries, obviating the need for any 
private capital in constructing the new capacity necessary to 
significantly reduce gasoline imports.  (Note: It is our 
understanding that this reserve fund is needed to comply with 
the balanced budget requirement under Mexican law.  End 
note).  He also noted that the PRI's national content 
preferences were clearly intended to guarantee business to 
people like telecoms monopolist Carlos Slim, who owns IDEAL, 
a Mexican infrastructure company interested in providing oil 
services.  Regardless of whether the PRD can overcome its own 
internal divisions or include some of its key provisions in 
the final bill, our contact predicted that energy reform in 
one shape or another would be passed early this fall. 
 
Public Referendum Fizzles 
------------------------- 
 
¶6. (U) The PRD attempted to gain leverage over the energy 
debate by investing considerable money and political capital 
in carrying out a public referendum in Mexico City and nine 
other states on July 27.  The referendum featured two 
questions: 1) Should the petroleum industry be a private 
rather than a public enterprise?  2) Should the government's 
energy reform proposal be approved?  In Mexico City, 
approximately one million voters participated in this 
exercise, with over 80 percent answering "no" to both 
questions.  This result surprised no one, as few PAN or PRI 
supporters were interested in participating in this clearly 
partisan and non-binding referendum.  Numerous politicians 
(including some from the moderate wing of the PRD) and 
commentators criticized the leading nature of the questions, 
and many cast doubt on the election itself, noting that the 
last election the PRD ran -- that for PRD president earlier 
this year -- had to be annulled due to myriad irregularities 
that left no clear winner.  (Note: Guadalupe Acosta was not a 
candidate for the post and is serving only as interim party 
chief.  End note).  Given the aforementioned criticisms of 
the referendum's substance and process, the public commitment 
of the moderate PRD leadership to negotiating a reform 
package with the PAN and PRI, as well as the fact that 
turnout was low relative to national elections, the political 
significance of the referendum was limited.  That probably 
won't stop moderate PRD politicians from referencing the 
referendum in negotiations with their PAN and PRI 
counterparts, just as it probably won't stop PRD radicals 
from using the referendum as justification for whatever 
course of action they end up deciding to pursue.  But it 
clearly failed to provide AMLO and his supporters a public 
mandate for rejecting reform. 
 
 
Industry View: Substantively Light, Politically Heavy 
--------------------------------------------- -------- 
 
¶7. (SBU) A major U.S. oil company representative told 
econoffs that the PAN proposal provisions on private sector 
participation in the oil sector, while not ideal, were 
written in very general terms that would allow sufficient 
flexibility to attract the interest of large, international 
oil companies (IOC) like Shell, ExxonMobil, and BP, in 
exploring possible upstream activities.  She said that the 
IOCs were the only ones who could provide the kind of 
capital, technology, and integrated project management that 
Mexico needs to reverse its declining oil production.  The 
PRI proposal, on the other hand, includes detailed 
 
MEXICO 00002335  005 OF 005 
 
 
prohibitions on strategic alliances and the booking of 
Mexican oil on private company books, as well as the 
aforementioned national content preferences, all of which 
seem specifically designed to encourage the participation of 
service companies like Halliburton, Schlumberger, and Carlos 
Slim's IDEAL, while keeping the integrated IOCs out of the 
picture.  The problem with this approach, our contact 
asserted, was that the service companies do not bring any new 
investment with them and simply comply with their contract 
obligations and take their money.  She noted that the PRI 
proposal to force private contractors to eat the costs of 
something like a deep sea drilling that found no oil or gas 
was completely fanciful, as no service company would ever 
accept such terms.  Only the IOCs are willing to accept risk, 
as long they get to enjoy the rewards when the risk pans out. 
 For that reason, her company is hoping that the PAN can 
overcome PRI (and PRD) opposition to more flexible rules on 
private sector participation that leave the door open to some 
artfully disguised version of risk contracts.  She proffered 
no prediction on how this round of reform would end up 
treating private participation, but said that the 
improvements to PEMEX oversight and managerial and financial 
autonomy would be positive, and any reform at all would break 
the decades-long taboo on talking about and dealing with the 
energy sector's problems.  She did predict that if an overly 
narrow energy package is all that can be passed this year, 
there would be another round of reform in the next couple of 
years when it became clear that Mexico's production and 
gasoline import woes had not been solved. 
 
Comment 
------- 
 
¶8. (SBU) President Calderon seems prepared to yet again 
succeed in moving forward, however cautiously, on reforming a 
major structural barrier to Mexican economic growth.  Given 
the nationalist neuralgia surrounding oil in this country, 
this will be a major political achievement.  With the passage 
of some kind of energy reform this year a near certainty, the 
question now is how far the reform will go in giving PEMEX 
the flexibility it needs to turn itself around.  The next two 
months will witness a delicate political dance among the 
three parties as the PAN and PRI jockey to take credit for 
being the more responsible and reasonable actor, while the 
PRD merely tries to be relevant while avoiding a major 
internal meltdown.  Given the PRI's robust occupation of the 
middle ground and the still powerful ring of the "no 
privatization" mantra, it seems tactically best positioned to 
win many of the arguments that will take up most of the 
congressional negotiators' time.  This might prove of 
immediate benefit to the PRI during next year's mid-term 
congressional election.  On the other hand, if a final reform 
package ends up being too watered down to solve the serious 
problems that PEMEX faces, that could prove to be a political 
liability.  We anticipate the coming months of backroom 
debate and public posturing will produce political theater of 
the highest order.  From now until President Calderon signs 
something into law, the Embassy strongly recommends that all 
USG officials remain quiet and enjoy the show.  End comment. 
Visit Mexico City's Classified Web Site at 
http://www.state.sgov.gov/p/wha/mexicocity and the North American 
Partnership Blog at http://www.intelink.gov/communities/state/nap / 
WILLIAMS