UT Energy Journalism Fellow Lorne Matalon
MEXICO CITY—Mexican Undersecretary of Energy for Electricity César Hernández Ochoa says the intersection of rising demand for electricity and a change in Mexico’s constitution paving a path to energy reform represents a substantial upside opportunity for foreign investors. In an interview by UT Energy Journalism Fellow Lorne Matalon at SENER, the Spanish acronym for Mexico’s Ministry of Energy, Hernández said the first item he highlights for foreign investors considering entering his nation’s newly-deregulated electricity markets under Mexican energy reform is the projected population growth over the course of the next quarter century.
“We are now 120 million people and the population will stabilize at 150 million people in Mexico,” he said. “Forecasts for demand growth are very positive whereas developed countries tend to have a diminishing demand because they are becoming more efficient, especially in Europe, the U.S. and Canada. In Mexico, you have continued growth and demand (and) that means there’s a lot of space for new generation, for companies who want to invest.”
Hernández was appointed as Undersecretary of Electricity of the Ministry of Energy by President Enrique Peña Nieto in 2014. Previously he served as the Head of Legal Affairs at SENER. He is also a member of the governing board of CFE, Mexico’s Comisión Federal de Electricidad (Federal Electricity Commission).
“When we decided to create an electricity market in Mexico in 2013 and in 2014, we published the Electricity Industry Act. We tried to incorporate in the design of the market what we saw as best international practices,” he continued.
“If you look at the new Mexican market rules, they are really based on the best practices of U.S. markets and all the markets in the world.,” he said. “For international investors, and particularly American investors, you will see that the environment we are creating has many factors that make it resemble some of the markets where they are used to operating in.”
The Undersecretary, a Fulbright Scholar and acclaimed author, does not portray Mexican energy reform as either easy or quick. But he said he remains bullish.
“We are opening a new market, so there’s lots of low hanging fruit for people willing to take the risks and to go and grab them,” he said.
CFE has conducted two auctions since reform was introduced with participation by companies based in Canada, Italy, Spain, France and China.
“It was a big success for us because we managed to attract investments with the first auction of around $2.6 billion dollars and for the second auction $4 billion,” he continued. “It attracted top companies from around the world. Curiously, American companies were important but were not dominant in those auctions. We had Mexican companies as well.”
In addition to electricity, CFE is considering bids for the construction of transmission lines.
“We started the auction in November and we should get offers in February (2017). It will be worth between one and two billion U.S. dollars,” he continued. “It’s a big transmission line that goes (through) the center of the country, from a windy region to a large consumption area in the center of Mexico. It’s also attracted top interest from large international companies. Large Chinese, Swiss, German, American, Canadian companies will participate. So we hope for a competitive process.”
One of the changes to Mexico’s electricity landscape is the spinoff by CFE of six generation companies, or GENCOS, designed to inject competition into the domestic electricity market.
However, the newly GENCOS will still report to CFE. The Undersecretary was asked how true competition is served by that arrangement.
“They (the GENCOS) cannot collude amongst themselves. They have to have a different CEO. And at the board level they have to have independent decisions. They have independent directors. At the start of 2017, (energy reform) mandates them to operate independently.”
“We will be monitoring that. We’ll make sure that they have the right incentives to compete and not to collude,” he concluded.
Hernández has written a book that’s a playbook of sorts for Mexican energy reform in its electricity market, entitled “The Captive Reform: Investment, Work and Entrepreneurship in the Mexican Electric Sector.” The work was published in 2007, two years before former Mexican President Felipe Calderón attempted to introduce reform at Pemex, (Petróleos Mexicanos) Mexico’s state-owned energy agency.
“When I wrote that book it was 2007, I was frustrated, he said. “Most of the developed countries in the world, the highly developed countries, had chosen market structures, whereas we remained state–owned monopoly, which behaved as if we were in the ‘50s,‘60s. I said well, ‘ We have tried to reform it.’ There had been at least two presidents who had tried to reform the system and nobody wanted to advance.”
“In many countries basically when they do not go for a market organization, they go for limited ways of private participation, such as IPPs (Independent Power Producer). The magic about IPPs is that it is very compatible in a monopoly system because they basically generate electricity for one buyer. It’s also called the single buyer system in many places, so a company such as Iberdrola and InterGen can sell electricity in a long–term contract to CFE,” he explained. “So the most efficient plants that CFE had before the reform, were basically the IPP plants.”
Hernández and other proponents of energy reform in Mexico nurture a vision of integration in the electricity market that stretches from northern Canada through the United States and on to to Mexico’s southern border with Guatemala on the Rio Suchiate.
“When you have more integration among electricity systems, and European countries for instance have that characteristic, you can have many more efficiencies in the system,” Hernández explained.
We discussed two cross-border electricity exchanges between the U.S. and Mexico. Currently the Blackstone-owned Frontera Plant in Mission, Texas is sending electricity to Mexico, while San Diego-based Sempra Energy’s Mexican subsidiary, IEnova, is sending wind-generated electricity from Baja California to the grid in California.
“The Frontera plant was the first participant in the short–term electricity market and also they were one of the winners of one of the second electricity auctions. It won a long–term contract for supplying the capacity to the Mexican system, and they did that with Frontera,” he continued. “When you go to the other side of the country, when you go to Baja California, there you have a wind farm, which was built by Sempra and which is connected to the CAISO.” (California Independent System Operator System.)
“So there you have a Mexican plant, which is basically supplying the California market. In a more efficient world, we would see that happening all across the border. This year we are starting to build a stronger interconnection between Nogales, Sonora and Nogales, Arizona.”
“I think that is a good news story for both countries,” he said.
“That infrastructure is also good for security, for reliability,” he continued. “In electricity grids, sometimes you have a line that falls down and you have some technical problems. Every country has had it. India has had some major catastrophes because of problems in transmission lines. Even the U.S. And it’s very good when you have other interconnections that allow you to solve the problem. ”
Hernández said expansion of the electricity sector in Mexico is dependent on the import of U.S. natural gas. In the next three years, U.S. pipeline capacity into Mexico is slated to nearly double.
“It’s good for the region because when you look at some of the major regions in the world, the expansion of generation, for instance in China or in India, which are really huge markets, is basically based on coal. China or India, if they moved away from coal, they would really have to pay a huge financial penalty because it’s abundant. But we are somehow blessed by geography and having abundant gas reserves as U.S. reserves are now available.”