What will become of Pemex?

Disclaimer: We are not energy industry specialists and have no particular expertise in this field.  We’re just taxpayers who have been watching the Pemex train wreck unfold in slow motion for many years.

Update: A counterpoint to this post is now posted here.

PlatformOn April 13, 2016, Mexico’s Finance Ministry (SHCP) announced a package of cash injections and tax relief measures worth approximately US$4.2 billion for state-run oil and gas monopoly Petróleos Mexicanos (Pemex).  Officials pointedly emphasized that the infusion did not absolve the enterprise from addressing its inefficiencies and debt obligations.  The behemoth company has never been viewed as a lean, agile efficiency machine, so a little extra in its allowance from the federal government might once have been considered routine.  This time, though, the move adds fuel to our suspicion that the long-time flagship of national sovereignty may be coming to the end of its life as an oil production company.

From its euphoric origins in the 1938 nationalization of foreign-owned petroleum operations by then-President Lázaro Cárdenas, Pemex was always more than just an oil company in Mexico.  Not only did it embody national pride and sovereignty in the public consciousness, but the entire oil and gas industry was carefully crafted by the country’s single-party political system to serve the interests of the ruling Institutional Revolutionary Party (Partido Revolucionario Institucional, or PRI).  Oil revenues were siphoned off to support electoral campaigns and heaven knows what other dubious pursuits, and the enormous oil workers’ union served as an employment machine and large bloc of ready supporters for elections and other party activities.  Particularly during eras of high oil prices and expanding reserves, Pemex was a magically bottomless coffer of riches for governments in turn.

But as a wise philosopher once said, that was then and this is now.  Pemex crude production has declined every year by an average 4% over the past 10 years, and crude reserves have shrunk by an average annual 2% over the same period, according to Pemex data.  From 2013 to 2015, the period that saw the entry into effect of President Enrique Peña Nieto’s historic energy industry reform, reported crude reserves dropped 16%.  Optimistic Pemex officials might be inclined to describe waning production and reserves as “temporary headwinds” or somesuch, but consider what has happened to prices:  The average export price of Mexican crude since 2012 has fallen from over US$100 per barrel to about US$50 per barrel, a plummet of (carry the one) 50% in three years.

Right now Pemex could well be described as an inefficient oil company with a wildly bloated workforce, unsustainable pension obligations, massive debt and dwindling production and revenues.  One of the objectives of President Peña’s energy reform, as it related to Pemex, was to revert the decline in oil production by opening up the sector to exploration and extraction by private sector companies through mechanisms which provide revenues to the state.  Pemex is intended to continue operating but somehow to compete with the private companies under the new framework.  The reform was expected to bring in a flood of new investment from private companies, but it suffered the poor turn of fortune of coinciding with the massive drop in world oil prices, which has taken a fair amount of the impetus out of the new investment.  So forward movement on the new era in Mexican energy has slowed somewhat, but in our view the scenario facing Pemex hasn’t changed: It was going down the drain as a protected state monopoly, and it’s going to go down the drain in a competitive marketplace.

For decades, any time even the faintest hint of energy reform was posited in the public sphere, our hand-wringing, garment-rending colleagues on the left would positively plotz, railing hysterically about nefarious plunder by foreigners and neoliberal capitalists.  We found it curious that they always referred to any proposed reform as “the privatization of Pemex,” when in our view Pemex’s safety from privatization is ironclad since the company could not function without government protection and even less would make an attractive acquisition target for private investors.  In our humble view as non-specialists in energy matters, private investors may be interested in Mexico’s oil and gas, but we don’t see how they could possibly want to take over a state agency burdened with a massive and corrupt union, leaden pension obligations and exploding infrastructure.

So what will become of Pemex?  We anticipate that as Mexico’s energy industry evolves under the 2014 energy reform, Pemex will gradually cede exploration, production, refining and distribution activities to more capable private companies.  At this juncture we do not expect to see Pemex disappear in the near to medium term, but rather increasingly take on an array of white collar duties such as project administration, regulatory oversight, research and policy advising, etc.  Current and future PRI governments, accused of using the energy reform as a Trojan horse to privatize Pemex, can innocently argue that the company remains in operation under full state control as a proud legacy of nationalist hero Cárdenas.  Pemex has had a long run as a jolly old plunderboat but as the fossil fuels industry as a whole faces an uncertain future, we feel it’s time to turn the messy bits over to companies that are better positioned to produce oil at a profit, and let the state make its money off the vig.

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