Liberalization of the natural gas industry is complex because the sector combines activities with natural monopoly characteristics with activities that are potentially competitive. The challenges are compounded when the state opts to retain vertically integrated monopolies in otherwise contestable segments of the industry. Regulatory issues associated with partial liberalization of natural gas markets are analyzed through a case study of Mexico.

Liberalization of the nat ...

Abstract: January 2001 - Liberalization of the natural gas industry is complex because the sector combines activities with natural monopoly characteristics with activities that are potentially competitive. The challenges are compounded when the State opts to retain vertically integrated monopolies in otherwise contestable segments of the industry. Regulatory issues associated with partial liberalization of natural gas markets are analyzed through a case study of Mexico. The natural gas industry combines activities with natural monopoly characteristics with those that are potentially competitive. Pipeline transport and distribution, which have natural monopoly characteristics, require regulation of price and nonprice behavior. Production is a contestable activity, but in a few countries (including Mexico) it remains a state monopoly. Gas marketing is also contestable, but the presence of a dominant, upstream, vertically integrated incumbent may pose significant barriers to entry. Market architecture decisions"such as horizontal structure, regional development, and the degree of vertical integration"are also crucial. Rosellón and Halpern report that Mexico has undertaken structural reform in the energy sector more slowly than many other countries, but it has introduced changes to attract private investment in natural gas transport and distribution. These changes were a response to the rapid growth in demand for natural gas (about 10 percent a year) in Mexico, which was in turn a response to economic development and the enforcement of environmental regulations. The new regulatory framework provides incentives for firms to invest and operate efficiently and to bear much of the risk associated with new projects. It also protects captive consumers and improves general economic welfare. The continued vertical integration of the state-owned company Pemex and its statutory monopoly in domestic production posed a challenge to regulators. Their response in liberalizing trade, setting first-hand sales prices, and regulating natural gas distribution makes the Mexican case an interesting example of regulatory design. As the first phase of investment mobilization and competition for the market in Mexican distribution projects concludes, remaining challenges include consistently and transparently enforcing regulations, coordinating tasks among government agencies, and ensuring expansion of gas transport services and domestic production. A key challenge in the near term will be fostering competition in the market. In strengthening the role of market forces, one issue is Pemex's discretionary discounts on domestic gas and access to transport services, made possible by its monopoly in domestic production and marketing activities and its overwhelming dominance in transport. The main instrument available to the regulator is proscribing Pemex contract pricing, but more durable and tractable instruments should be considered. This paper"a product of the Finance, Private Sector, and Infrastructure Sector Unit, Latin America and the Caribbean Region"is part of a larger effort in the region to evaluate and disseminate lessons of experience in designing policies to improve the quality and sustainability of infrastructure services. The authors may be contacted at [email protected] or [email protected].

The future of oil and natural gas production in Mexico is of importance for both Mexico's economic growth, as well as for U.S. energy security, a key congressional interest. Mexico is a top trade partner and crude oil supplier to the United States. Mexico's state oil company, Petroleos Mexicanos (Pemex) remains an important source of government revenue even as it is struggling to counter declining oil production and reserves. Due to an inability to meet rising demand, Mexico has also significantly increased natural gas imports from the United States. Still, gas shortages have hindered the country's economic performance, including in manufacturing sectors that are highly integrated with U.S. industries. On December 20, 2013, Mexican President Enrique Peña Nieto signed historic constitutional reforms related to Mexico's energy sector aimed at reversing oil and gas production declines. On August 11, 2014, secondary laws to implement those reforms officially opened Mexico's oil, natural gas, and power sectors to private investment. As a result, Pemex can now partner with international companies that have the experience and capital required for exploring Mexico's vast deep water and shale resources. Leftist parties and others remain opposed to the reforms, maintaining that the reforms cede control over Mexico's natural resources without ensuring that those resources are developed in a sustainable way that benefits the Mexican people. The energy reforms transform Pemex into a “productive state enterprise” with more autonomy and a lower tax burden than before, but make it subject to competition with private investors. They create different types of contracts for private companies interested in investing in Mexico, including production-sharing and licensing; allow companies to post reserves for accounting purposes; establish a sovereign wealth fund; and create new regulators. In August 2014, Mexico's Secretariat of Energy announced the results of “round zero,” which defines the exploratory and production areas that Pemex can retain. Pemex is likely to partner with private companies to exploit many of those areas. The first round of public bidding began in December 2014 for shallow-water fields; it is expected to conclude by mid-2015. Pemex officials have said that “round one” has attracted significant interest, despite the recent dramatic decline in oil prices. The U.S. Congress has legislative and oversight interests in examining the implications of Mexico's oil and natural gas reforms on U.S. hydrocarbons imports and exports, bilateral trade and investment, and economic conditions in Mexico. In December 2013, Congress approved the U.S.-Mexico Transboundary Hydrocarbons Agreement (P.L. 113-67), which aims to facilitate joint development of oil and natural gas in part of the Gulf of Mexico. The 114th Congress is likely to consider legislative proposals to speed up energy infrastructure development, including cross-border natural gas pipelines, as was approved by the House on January 21, 2015 (H.R. 161). Congress may also consider proposals to revise U.S. crude oil export policy. The opening of Mexico's oil and natural gas sector could expand U.S.-Mexico energy trade and provide opportunities for U.S. companies involved in the hydrocarbons sector, as well as infrastructure and other oil field services. If these reforms accelerate growth and investment in Mexico (as the government has stated) they could also benefit North American competitiveness. Industry analysts maintain that the reforms are generally well-designed, but that the way they are implemented will likely determine whether they prove to be as transformative as the Mexican government expects. The success of the reforms may also depend on trends in global oil prices. Should oil prices remain at current levels, shale resources and other unconventional fields may not be feasible to develop at this time.