Mexican Electricity Reforms?

Mexican Electricity Reforms?

October 01, 2002

President Vicente Fox sent the Mexican Congress an energy reform package in mid-August. The initial reaction in Congress was sour, but the package is starting to attract support. It is still too early to say whether it will be enacted.

The president called on Congress to amend the Mexican constitution, to make substantial revisions in the laws governing the electricity sector, and to adopt new laws under which the regulatory agencies — the Comisión Reguladora de Energía, or “CRE,” and the Centro Nacional de Control de Energía, or “CENACE” — and the two government-owned power companies — the Comisión Federal de Electricidad, or “CFE,” and Luz y Fuerza del Centro (the distribution company in the Mexico City metropolitan area), or “LFC” —would operate in the future.

Constitutional Amendments

The main purpose of the proposed amendments to articles 27 and 28 of the Mexican constitution is expressly and unequivocally to authorize private parties to generate electricity either for self-supply purposes or to sell power to CFE, LFC or large consumers. Large consumers are defined in the reform package as those consuming more than 2,500 megawatt hours a year.

Private generators cannot sell power to the CFE or large consumers unless article 28 is amended to make only the supply of electricity for public services a national strategic area reserved to the public sector. Such an amendment would leave open the definition of electricity public services so that Congress could define through secondary laws the extent of electricity public service.

Thus, while the CFE and LFC will continue to enjoy a monopoly on the retail market, the energy reform package, if approved, would promote private projects that could supply power to the government-owned distributors as well as compete against the CFE in supplying power to large consumers, arguably the CFE’s most lucrative market. It would also provide much needed legal certainty for the current private generator model, a welcome change after the recent Supreme Court ruling. (For a discussion about the Supreme Court ruling, see “Mexican Ghoulash” in the August 2002 NewsWire.) .

Electricity Public Services Law

The reform package would amend the “Electricity Public Services Law” to limit the electricity public services concept to the supply of electricity to residential and retail customers. Such supply would be off limits to private companies. Everything else would be fair game. The upshot is that private companies would have legal authority to be involved in the generation and sale of electricity to large consumers and the CFE. The current available mechanisms for private sector involvement — cogeneration, self-supply, independent power production and export — would remain available.

Another important proposed change in the Electricity Public Services Law is the institutional strengthening of the CRE. It would be given authority to fix, adjust and restructure electricity tariffs. It would also have the required regulatory powers to enforce open access to the CFE’s transmission and distribution networks by the new private generators.

Other Amendments

These amendments, if passed by Congress, would create a dual power sector in Mexico under which private and public companies would compete to supply power to large consumers. In order for such system to work, the public distributors would have to provide open access to their transmission and distribution networks. Otherwise, the private generators would be unable to get their electricity to market.

A strong regulatory and dispatch framework needs to be created and implemented in order for generators to be able to sell spot capacity efficiently on the wholesale market, either to the public distributors or to large consumers. The energy reform package would enhance the regulatory role of CRE over all sector participants and put in place an economic dispatch system. CENACE would be put in charge of implementing and controlling dispatch of both public and private generators.

As part of the government’s proposals, the CFE and LFC would be restructured to try to impose more efficient and transparent— in other words, less politically motivated — operations and resource allocation. To that end, CFE will be granted new powers to act more independently of the central government. The CFE’s operating statute will be amended in its entirety so that the CFE can be run in a way similar to a private company. Theoretically, this should improve the level of service and allow the CFE to compete with private power producers for the coveted large consumer market. CRE will continue as the regulatory agency in charge of granting permits for power generation and surveying the activities carried out by energy industry participants. CENACE would be separated from the CFE. New authorities will be granted to CENACE to provide an efficient control dispatch of public and private generators and guarantee to all energy users access to the national grid and the national electric system under the same terms and conditions.

Political Challenges

Since the swearing in of the Fox administration, the opposition parties have expressed their rejection of any reform that would allow a major increase in the private sector involvement in the energy industry. In particular, the opposition parties have been adamantly opposed to amending the Mexican constitution. Indeed, after the Supreme Court decision earlier this year that cast a cloud over the legality of existing private power projects, it appeared that the position of the opposition PRI party and other parties against the Fox energy policy would strengthen. (The court blocked the government’s attempt to allow greater private sector involvement without having to run any reforms through Congress.)

However, with the passage of time, some industry analysts and lawyers in Mexico now think that the court’s decision has given a boost to Fox’s view that a constitutional amendment is required to provide a solid legal basis for existing private power projects as well as for any future involvement of the private sector in power supply. Indeed, the Supreme Court itself urged Congress to consider a constitutional reform.

It was under these hazy conditions that the Fox administration unveiled its energy reform package. Immediately after the plan was released, both major opposition parties rejected the government’s proposal and said they remain opposed to any legal scheme to allow private investment in the energy industry.

However, that was their initial response. Things appear to be changing. There are signs of disagreement within the PRI and PRD — the two main opposition parties — about what position to take, and some party members have even expressed support for the Fox proposal. The head of the PRI, Roberto Madrazo, said recently that there would not be a party-line approach to the energy reform package, freeing PRI congressmen to vote as they please. Support by members of the opposition is critical since any amendment to the Mexican constitution must be approved by two thirds of the members of Congress, as well as by a majority of the 32 state legislatures. The government party, PAN, has no majority at the federal or state level.

In late September as the NewsWire was going to press, the energy reform package faced an uncertain outlook in Congress. The legislative and constitutional approval process is difficult and full of political minefields. The Fox administration has sent Congress other major initiatives, only to see them rejected or, as was the case with the recent tax reform, approved in a manner completely different than what the government intended. However, there is some hope in this case that a reasonable compromise may be reached, allowing all parties to claim the political high ground in next year’s congressional elections.

Other Challenges

Many in the industry in Mexico believe that the energy reform package, if approved, must be coupled with other major reforms in the supply of the gas to private power plants. Pemex has mentioned several times that new infrastructure investments are needed to keep up with demand for gas. Pemex does not have the necessary budget to build this infrastructure and traditionally has preferred to invest its resources in oil production, which usually gives it a much higher rate of return. The Fox administration and Pemex now hope that a new contractual structure — called “multiple services contracts,” or “MSCs” — will increase the involvement of private companies in the exploration and exploitation of natural gas. Pemex estimates that with this contractual structure, the production of gas will increase to meet, or at least help to meet, the supply of gas for power plants. Pemex is expected to award the MSCs through international bids in the near future.

Finally, some developers have told Chadbourne that they are concerned that the CFE’s transmission and distribution infrastructure will have to be materially revamped before any new projects can be assured of delivering their power to large consumers. Private generators will almost certainly have to contribute to these system upgrades needed to the grid. This could be a significant cost for future projects.