VZCZCXRO8566
RR RUEHCD RUEHGD RUEHHO RUEHMC RUEHNG RUEHNL RUEHRD RUEHRS RUEHTM
DE RUEHME #3210/01 3032324
ZNR UUUUU ZZH
R 292324Z OCT 08
FM AMEMBASSY MEXICO
TO RUEHC/SECSTATE WASHDC 3745
RHMFISS/DEPT OF ENERGY WASHINGTON DC
RUEHC/DEPT OF INTERIOR WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RHEHAAA/NSC WASHINGTON DC
INFO RUEHXC/ALL US CONSULATES IN MEXICO COLLECTIVE

UNCLAS SECTION 01 OF 04 MEXICO 003210 
 
SENSITIVE 
SIPDIS 
 
STATE FOR WHA/MEX, WHA/EPSC 
STATE FOR EB/ESC MCMANUS AND DUGGAN 
USDOC FOR 4320/ITA/MAC/WH/ONAFTA/GWORD 
USDOC FOR ITS/TD/ENERGY DIVISION 
TREASURY FOR IA (ALICE FAIBISHENKO) 
DOE FOR INTL AFFAIRS ALOCKWOOD, GWARD AND RDAVIS 
DOI FOR MMS ORR, TEXTORIS AND KARL 
 
E.O. 12958: N/A 
TAGS: ENRG EPET ECON PGOV MX
SUBJECT: MEXICAN CONGRESS APPROVES TEPID ENERGY REFORM PACKAGE 
 
REF:  A. Mexico 2335 
       ¶B. Mexico 1339 
       ¶C. Mexico 531 
       ¶D. Mexico 209 
 
 
¶1.  (SBU)  Summary:  Following seven months of often acrimonious 
debate, the Mexican Congress on October 28 approved a modest energy 
reform package - focused almost exclusively on oil - which will give 
greater financial autonomy and more decision making power to the 
state owned oil company Pemex.  The reform also introduces contract 
bonuses for firms that complete projects ahead of schedule or 
transfer technology to Pemex.  However, the reform will not address 
the most pressing issues facing Pemex:  rapidly declining 
production, lack of technological ability to explore in the deep 
waters of the Gulf of Mexico, and a Constitutional prohibition on 
private sector investment.  Mexico has fallen from being the second 
largest supplier of oil to the U.S. in 2007 to fourth place as a 
result of declining production.    The reform places strict 
requirements on contracts for private sector participants, rules out 
production sharing contracts and bans the private sector from 
investing in downstream activities.  Domestic and international 
financial pressures may allow or even require the Calderon 
administration to introduce a second, deeper energy reform package 
after the summer 2009 Congressional elections - even if the 
opposition parties gain seats in Congress.  End summary. 
 
¶2.  (U) On October 28 the Mexican Chamber of Deputies voted to 
approve the energy reform package by a vote of 395 to 82.  This 
follows the Senate's October 23 approval by a vote of 113 to 6. 
President Calderon is expected to sign the legislation within the 
next few days.  Most government officials and industry experts 
expect that the reform will be challenged in court, a move which 
could delay implementation of at least part of the reform package by 
several months. 
 
Background: 
----------- 
 
¶3.  (SBU)  President Calderon first submitted the government's 
energy reform proposal to Congress for consideration on April 8. 
Experts considered the administration's proposal a pragmatic step in 
the right direction but described it as what was feasible and 
possible, not necessarily what the country needed.  At that time, 
the Calderon administration hoped for quick passage of legislation. 
However, supporters of former presidential candidate Andres Manuel 
Lopez Obrador (AMLO) seized control of the lower house of Congress, 
and forced agreement among the three main political parties on 70 
days of public hearings on a reform package.  Over the next five 
months, the PRI and the FAP/PRD both developed their own energy 
reform proposals, leading to a lengthy congressional negotiation 
which resulted in a weak, lowest common denominator reform. 
 
Elements of Package: 
-------------------- 
 
¶4.  (SBU)  Although the energy reform will help Pemex become a more 
transparent and flexible, firm, energy analysts agree that it will 
not address the key problem of maintaining production levels or 
identifying new reserves.  The energy reform is divided into seven 
distinct bills which deal primarily with internal Pemex procedures 
and requirements.  The following are the most significant elements: 
 
 
--More management and financial autonomy for Pemex: 
Pemex will receive complete management and budget autonomy in seven 
years - not ten as proposed by the Calderon administration.  This is 
a positive development that will give Pemex greater flexibility. 
The challenge for the GOM will be to plan ahead and replace the 
revenue the government currently derives from Pemex.  (Oil revenues 
currently account for approximately 40% of budget revenues.) 
Raising tax collection rates seems the most plausible if politically 
difficult solution to this question. 
 
--Limited incentives introduced for service contracts: 
Congress approved some limited incentives on service contracts but 
eliminated much of the flexibility the Calderon administration had 
proposed.  Incentives related to performance will be clearly 
stipulated up front in contracts and not during the development of 
the project as originally proposed.  Payment to the service provider 
 
MEXICO 00003210  002 OF 004 
 
 
will be made in cash and cannot include a percentage of oil rent or 
production.  Congress added penalties for service providers who do 
not meet the requirements of their contracts, i.e. environmental 
damage, delays, substandard work.  However, contractors will not be 
penalized if exploration contracts do not lead to discovery. 
 
--Pemex Service Contracts Exempt from Public Works Law Requirements: 
 
The energy reform approved by congress will also allow Pemex to 
award contracts without following traditional government procurement 
rules, giving the firm greater access to technology and improving 
its ability to operate.  For acquisitions and government purchases, 
Pemex can launch auctions, make restricted invitations or directly 
assign a contract to national and foreign companies.   The company 
will be allowed to decide when and what to procure in order to take 
advantage of lower prices through bulk purchases. 
 
--Improve Pemex administration: 
The size of the Pemex Board of Directors will swell from eleven to 
fifteen members.  Four new independent board members will be 
appointed by the President and ratified by the Senate.  How this 
will affect Pemex will depend on the qualifications of the 
independent board members and the level of politicization of the 
selection process.  The Pemex Board of Directors will play a 
substantial role in approving the secondary regulations which will 
outline how the new contracting scheme is implemented. 
 
--Issue Pemex "bonos ciudadanos" or citizens bonds: 
Congress approved President Calderon's proposal allowing Pemex to 
sell bonds directly to Mexicans.  The bonds can be obtained by any 
Mexican citizen directly and are meant to give bond holders a closer 
stake in Pemex.  The Congress watered down this initiative by 
prohibiting brokers from buying or selling these instruments. 
 
--Allow international negotiations on transboundary reservoirs: 
The reform prohibits production sharing agreements between Pemex and 
other parties (private companies).    However, the legislation 
acknowledges that for transboundary fields two countries have the 
right to exploit hydrocarbons in a joint field.  The legislation 
adds that how this would be defined would depend on international 
agreements.  An international treaty on transboundary reservoirs 
would have to be ratified by the Mexican Senate and signed by the 
President. 
 
¶5.  (SBU)  Several key elements of the administration's original 
reform proposal were stripped from the package approved by Congress: 
 
 
----Pemex will only be allowed to provide performance incentives 
based on whether projects are on time and whether technology was 
transferred. 
 
--Private companies will not be permitted to invest in downstream 
activities such as transportation and storage.  Nor will private 
firms be allowed to build and operate refineries on behalf of Pemex. 
 
 
Strengthening SENER or just Creating more bureaucracy? 
--------------------------------------------- --------- 
 
¶6.  (SBU) The reform package seeks to strengthen the Mexican Energy 
Secretariat (SENER) by giving it greater regulatory authority over 
Pemex and enhancing its role on energy efficiency and renewable 
energy technology.  Three new Commissions will be created within 
SENER to meet these objectives.  What this will mean in practice and 
whether this will improve transparency or efficiency is uncertain. 
Many experts are skeptical that these new commissions will do no 
more than cause confusion, delay implementation of the reforms and 
create red tape.  One expert noted that there simply are not enough 
energy experts with any type of vision for the sector to direct 
these new entities. 
 
--The National Hydrocarbons Commission: 
The reform creates a decentralized entity, within SENER which will 
regulate and supervise oil exploration and exploitation.  A 
Commissioner will be appointed by the Executive (no Senate 
ratification needed).  This commission will regulate oil extraction 
and exploitation plans and will select the most adequate technology 
based on criteria set by the government to address energy security 
policies. 
 
MEXICO 00003210  003 OF 004 
 
 
 
--National Energy Council: 
The Federal Public Administration Law will authorize SENER to set 
the oil output platforms and establish a long-term (15 years) energy 
planning program.  The plan will be reviewed by the Congress every 
year.  The National Energy Council will include members of Congress, 
federal and state officials, academia, and the private and social 
sectors.  SENER will issue standards on energy savings and regulate 
the use of alternate energy sources. 
 
--National Commission for the Efficient Use of Energy: 
The law for Sustainable Energy Management and Consumption creates a 
National Commission for the efficient use of energy which will be 
charged with fostering energy efficiency and savings.  The bill also 
imposes sanctions on anyone who falsifies their electricity 
consumption levels. 
 
Other Changes Outside the Reform Package: 
----------------------------------------- 
 
¶7.  The energy reform package falls short of the Calderon 
administration's goals in several areas.  However, the GOM was able 
to include some significant energy related initiatives in 
legislation outside of the energy reform package: 
 
--Pidiregas:  Through the President's Economic Growth and Employment 
Program which seeks to address the current economic and financial 
crisis, the GOM proposed eliminating the long term infrastructure 
debt instruments called Pidiregas for Pemex.  This initiative will 
increase transparency and significantly decrease Pemex' debt burden. 
 The Pidiregas project-financing mechanism was developed to allow 
the government to undertake priority investment projects by 
contracting them out to the private sector, while deferring their 
registration as government expenditures in the budget. The private 
sector provides the financing during the construction and until the 
government acquires the assets. While the information on the stock 
of Pidiregas liabilities is publicly available, the public debt 
statistics do not consolidate this information with the external 
debt.  Pidiregas have always been controversial precisely because 
they have been considered off-budget items. 
 
--Refinery:  Also as part of his Economic Growth and Employment 
Program, President Calderon proposed using public resources - 
approximately $10 billion dollars - to build a new refinery.  The 
goal is to decrease the level of gas imports (currently 40 percent 
of Mexican gas is imported from U.S. fineries) by strengthening 
Mexico's refining capacity.  Although this measure was applauded by 
the leftist opposition party PRD, it is controversial among industry 
experts.  Several energy experts have questioned whether the money 
invested in a new refinery - which generally has large start up 
costs and marginal returns - would not have been better spent either 
retooling existing refineries to raise capacity or investing in 
exploration and development. 
 
--Tax Regime:  Under its revised budget proposal, the Calderon 
administration requested and Congress approved a new tax regime for 
Pemex which seeks to foster oil production by differentiating tax 
deduction rates in proportion to production costs in various fields: 
  for example, Chicontepec tax deductions rose from US$10 to US$ 11 
per barrel while deductions for deep water production rose from US$ 
15 to US$ 16.5 dollar per barrel.  Although the Finance Secretariat 
supported this fiscal regime, it will be difficult to audit 
different tax regimes for existing activities in oil fields: 
Cantarell and Koo-Maloob Zaap, Chicontepec, deep water, and mature 
fields.  The goal of these differentiated tax regimes is to help 
Pemex by reducing its tax burden, and at the same time maintaining 
government revenue collection. 
 
Comment: 
------------- 
 
¶8.  (SBU) As President Calderon stressed during an address to the 
nation on October 28, the energy reform package focuses on 
strengthening Pemex and making it a more transparent, modern firm. 
Whether Pemex will be able to take advantage of these changes to 
become a more efficient and profitable energy company remains to be 
seen.  Over the next several weeks, the international oil companies 
and other private sector experts will carefully review the bills 
passed by the Mexican Congress and study the implementing 
regulations that SENER is drafting to determine whether this 
 
MEXICO 00003210  004 OF 004 
 
 
legislation creates new business opportunities.  From an initial 
analysis, the service companies who already work with Pemex stand to 
benefit more from the changes than integrated international oil 
companies (IOCs).  However, the IOCs feel they have waited this long 
for the reform, they may as well carefully analyze the results for 
any possible opportunities. 
 
¶9.  (SBU) Politically, the energy reform debate demonstrated the 
ability of  Mexico's  political parties to work together - albeit on 
basis of the lowest common denominator -- to approve a reform of 
this controversial sector.  Unfortunately, priority was placed on 
political agreement rather than on substantive changes.  The energy 
reform package does not tackle the immediate problems of Mexico's 
rapidly declining oil production.  Nor does it address the 
technological and financial constraints Mexico faces with respect to 
exploration in the ultra deep waters of the Gulf of Mexico.  The GOM 
continues to rely on oil revenues for forty percent of its budget. 
As oil production falls and oil prices drop while the rest of the 
economy slows, Mexico will feel the financial pinch.  Economic 
necessity may require the GOM and the Mexican Congress to debate a 
second, deeper energy reform package after the summer 2009 
Congressional elections - even if the opposition parties gain seats 
in Congress.