Mexico is gradually making the transition to an open market in liquefied petroleum gas.
As part of its efforts to reorder Mexico's energy sector, the administration of President Ernesto Zedillo released in late June a series of new regulations governing the nation's LPG industry. The new rules stop short of a complete opening of the market, but they mark a significant opening in what has been one of Mexico's most protected energy markets. Government officials say the new rules are to be implemented over the course of the rest of this year and the beginning of the next, allowing a gradual transition to a more open market.
Mexican LPG market
Mexico is one of the world's largest overall LPG markets and has the highest residential use of LPG of any country in the world. More than 80% of Mexican homes depend on LPG, principally for powering their water heaters, ovens, and stoves. In 1998, Mexico consumed roughly 300,000 b/d of LPG.
The high levels of LPG consumption is the result of decades-long government policies favoring LPG for domestic use. Direct subsidies on LPG were eliminated in 1993, but de facto subsidies continued, as Pemex charged a single price for LPG across the entire country.
Thus, the southern regions of the country, where LPG is produced, were effectively subsidizing the wealthier, industrial north, as the price did not reflect transportation costs. LPG distributors, complacent owners of a captive market, provided legendarily poor service, frequently selling half-empty or leaking tanks that were the cause of regular accidents.
But with the growth in electric power generation and the opening of Mexico's natural gas market to foreign competition, the Zedillo administration and the distributors themselves saw the need to reorganize the LPG industry, to allow it to compete more effectively in the coming years.
Speaking to distributors in a May speech discussing the new regulations, Pemex Director Adrian Lajous made it clear that the industry was no longer going to be able to depend on a captive, government-promoted market. "You will be able to count on the support of the authorities and of Pemex," Lajous said. "Nonetheless, the most important support you must look for is from your own clients."
New rules
One of the most significant changes in the new regulations, published in the government's official newspaper on June 28, is a reorganization of the LPG pricing system to bring it in line with international prices.
Late last year, Pemex began using a two-region price system, and as of Apr. 1, 16 market regions were created, in an effort to allow Pemex to better reflect transportation costs across the country. Under the new regulations, the regions will disappear. Instead, the Comisión Reguladora de Energía (CRE), a decentralized government organization, is to set the maximum price of Pemex's first-hand sales, and Pemex is to separate out transportation and storage costs from the LPG price. Buyers will be able to negotiate prices lower than the maximum with Pemex, principally based on volume.
Currently, Pemex sets its LPG prices indexed to world prices but taking a 12-month average. "The reason for this is to avoid abrupt changes due to seasons," said Francisco Rodríguez, head of LPG at the Energy Secretariat. "Because Mexico does not have such cold winters, the price does not reflect the abrupt price changes that come in winter." Rodríguez said price averaging would have to be eliminated, "to avoid arbitrage problems for Pemex" when LPG imports are allowed.
While the new regulations in theory call for the free import and export of LPG, in practice international LPG trade by entities other than Pemex will not be permitted until next year, Rodríguez said. Those wishing to import or export LPG are still required, under the new regulations, to request permission from the Commerce Secretariat, and that permission will not be forthcoming until the government considers that Pemex can compete with other importers, Rodríguez said, which he said he expected in "6-10 months."
Until now, Pemex has been the only entity allowed to import LPG, normally during the winter season when demand increases. The imports mainly supply the northern part of the country, far from Pemex's production centers in the southeast. Pemex pays a small import tax, and so far, government officials have kept mum on what tariff may be placed on LPG imports when international trade is permitted.
Transportation, distribution
A new system of permits for LPG transportation, storage, and distribution will also come into effect under the new regulations.
CRE will be responsible for issuing permits for LPG transportation and distribution by pipeline, while the Energy Secretariat will issue all other permits for storage, transportation, and distribution. The new permits will be good for 30 years, with the possibility of an additional 15 years when the original permit expires. As with imports of LPG, the new permits will not begin to be issued for another 6-10 months, Rodríguez said.
Until now, foreigners have been completely excluded from Mexico's LPG market, but the new rules foresee allowing foreign investment in LPG transportation and storage but not in distribution. Under Mexican law, distribution is reserved exclusively for Mexican companies. Considering the passions aroused in the federal Congress over limited privatization plans for the petrochemical and electricity sectors, it seems extremely unlikely that this law will be modified under the current administration.
LPG storage tanks are likely to become an even more common sight in Mexico, which has the highest residential LPG use of any country, following the implementation of new rules opening that market to competition.
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Nonetheless, even Mexican distributors themselves consider it inevitable that foreigners will eventually be allowed to distribute LPG, just as they now participate in natural gas distribution. "I think it will happen, but the government has been acting cautiously, so this takes place gradually and avoids an uncomfortable situation for domestic investment due to a sudden opening," said Enrique Arizmendi, president of Asociación Mexicana de Distribuidores de Gas LP.
Apart from regulating the maximum price of first-hand sales by Pemex, CRE will also establish maximum prices for transportation and distribution by pipelines, while the Energy Secretariat will establish maximum prices for other forms of transportation and distribution, as well as for storage. If Mexico's Comisión Federal de Competencia (CFC) determines that, in a given market, conditions of competition exist, the prices will be freed of government oversight.
The Mexican government also appears intent on eliminating many of the monopolies some distributors have in different markets. In his May speech, Lajous noted that, out of 372 distributors nation-wide, 5 control 40% of the country's LPG sales.
Arizmendi defended the distributors against the accusations of monopoly. "It's logical that, in all business activity, economies of scale are sought," Arizmendi said. "But I would not accept that distribution is being managed under monopolies. If the government finds specific cases, it can act legally, but we think that in the LPG industry they do not exist."
Competition with natural gas
The principal threat to the Mexican LPG industry is the dramatic growth of natural gas, the production and use of which has been relentlessly promoted in recent years by the Mexican government. The privatization of natural gas distribution systems in different regions of Mexico, many of which have been snapped up by foreign companies, clearly has the LPG distributors worried, but they say they are confident they can hold on to a significant portion of the market.
"Natural gas doesn't scare us; this is a competition that happens all over the world," said Carlos Potts, president of the Asociación Nacional de Distribuidores de Gas LP. "I think natural gas will be first focused on industry, and it will be quite a while before they attack the domestic market and become direct competition for us."
Potts pointed out that the LPG infrastructure is much simpler than natural gas and already exists in most of the country.
When natural gas distributors want to compete with LPG, they will have to build extensive networks to connect to domestic consumers. Also, Potts said, the ability to buy LPG tanks as small as 10 kg or to only partially fill their stationary tanks is attractive to many low-income Mexicans, allowing them to pay only when they can afford it, instead of facing the monthly minimum payments for natural gas.
What the LPG distributors find more unnerving than open competition with natural gas is the feeling that the government is in fact stacking the deck against them and in favor of natural gas. "We just want equal rules of competition," said Arizmendi. "We feel a greater enthusiasm and promotion on the part of the government in favor of natural gas, and when one fuel is the beneficiary of an unequal defense and promotion by the government, that stops being a fair competition."
Enrique Arizmendi
President of Asociación Mexicana de Distribuidores de Gas LP
"It's logical that, in all business activity, economies of scale are sought. But I would not accept that (LPG) distribution is being managed under monopolies. If the government finds specific cases, it can act legally, but we think that, in the LPG industry, they do not exist."
Carlos Potts
President of the Asociación Nacional de Distribuidores de Gas LP
"Natural gas doesn't scare us; this is a competition that happens all over the world. I think natural gas will be first focused on industry, and it will be quite a while before they attack the domestic market and become direct competition for us."
