Pemex: Death of an Oil Giant and Why It Benefits the Mexican People

Courtesy of Petróleos Mexicanos
Source: Petróleos Mexicanos

Español Few corporations are as ingrained in a nation’s consciousness as Petróleos Mexicanos (Pemex) is in Mexico. A symbol of national unity, many celebrate the anniversary of the the expropriation of foreign oil companies and the creation of Pemex like a holiday in the world’s 10th largest oil producer.

The company has long been a large employer of unskilled labor in the country, and about half of revenues are paid in taxes to the government. Pemex is, and has always been, a strange, quasi-private arm of the government prone to political meddling and graft, a kind of hybrid of the US Postal Service and Venezuela’s PDVSA.

And all of this is about to change.

In a rare triumph of good policy over populist appeals, the Mexican government passed reform in recent months that will shake the company to its core. The Washington Post recently noted some of the details of the reform. Tax increases on income and consumption were enacted with the goal of decreasing the government’s dependency on oil revenues. This is important, since the nation’s oil production has slipped in recent years, and production in the supergiant Cantarell field continues to weaken.

Source: US Energy Information Administration
Source: US Energy Information Administration

The second major change involves ending Pemex’s outright monopoly on Mexican hydrocarbon production and gasoline sales. Burdened by high taxes, this sector has long faced a shortage of investment in exploration and production, which this liberalization will help to remedy. By being allowed to partner with foreign companies, both money and expertise will flow into the Mexican oil and gas sector. Moreover, as both the US Energy Information Administration and The Washington Post note, there are thought to be vast, untapped reserves of shale gas and oil, which US companies just across the border have extensive experience with.

The one strange aspect of the reforms noted in The Washington Post article is the decision to allocate billions in tax revenues to help prop up Pemex’s exploration and production capabilities. This is a strange move, in as much as the goal seems to be to untie the company from the state slowly over time. While this is true, it may well be the necessary one-time payoff to push this broader reform through.

Despite this spending, the reforms help put in place the slow winding down of one of the largest state-run companies in Latin America. While the reforms seem to be aimed at propping up the company, they will likely open the door to an increasing level of competition in the Mexican energy sector. By breaking the gasoline monopoly, consumers will be allowed choice for the first time in decades, while private involvement in oil and gas exploration will weaken the company’s grip on “upstream” production.

The trajectory is clear: Pemex will weaken over time as its traditional protections weaken. The only question is whether it will be able to reform and transform to succeed in the modern hydrocarbon economy. Companies such as Brazil’s Petrobras and Colombia’s Ecopetrol have succeeded after semi-privatization efforts, but the margin of error is slim.

To succeed in today’s hydrocarbon economy, Pemex must shed its role as an arm of the state and act like its competitors. It must be able to shed workers where necessary, to cut costs, and to not pay exorbitant production taxes. If this cannot happen, the company may well weaken and fail as its slimmer, more cost efficient competitors eat into its market share. And that may well be a good thing.

The transformation of the Mexican energy sector will be hard. People will lose their jobs, and taxpayers will be forced to feel the cost of the social services they receive. Politicians will no longer have unskilled jobs to give to supporters. All of this is for the best. The previous status quo was untenable. Production was falling with no hope of recovery under the Pemex monopoly.

If Mexican citizens want to get the most value they possibly can from their resource endowment, it is not only imperative that these reforms remain, but that further privatization is undertaken. The nation’s vast oil reserves are a gift to the Mexican people, and they deserve better than what Pemex has provided over its 76-year history.

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