Sunday, October 25, 2009

Getting Lubricated Below the Border

The Mexican drug cartels have declared war on the Federales (the Mexican Federal Police) to secure drug routes into the United States. Slaughter and chaos abound. The economic meltdown has slammed Mexico particularly hard, initially with the downturn in the price of oil (which has slowly increased), but primarily because its humongous neighbor to the north, the United States, has decreased the demand on local Mexican manufacturers, and by reason of the very significant reduction in the U.S. hiring of undocumented aliens because of the steady rise in American unemployment rates (undocumented aliens sent large portions of their U.S. earnings to impoverished relatives below the border).

With a history of almost ritualized income tax evasion by so many of Mexico’s wealthy, the mainstay of Mexican revenues has been Pemex (PetrĂ³leos Mexicanos) – the State-owned oil conglomerate (Mexico has a history of “nationalization” dating back to the 1930s) – since vast pools of oil were discovered in the famous Cantarell field in 1976. They began pumping oil in 1981 and the field peaked in 2004 at a little over 2 million barrels a day. Thirsty for the cash flow from oil, the Mexican government has sucked virtually every net penny out of Pemex to fund the business of government.

But very much the way the U.S. state and federal governments have ignored repairing and updating our own infrastructure, likewise, Mexico has pretty much ignored fixing and updating its oil drilling equipment, which is now wearing out rapidly. Talks about privatizing Pemex – so long after it is clear that this is probably an insoluble problem – appear to fall into the category of “too little, too late,” and there is a little slogan that even kids in school learn at an early age that is embedded deep within the Mexican psyche: "El petrĂ³leo es nuestro" – the oil is ours (literally, the oil belongs to the people).

Combined with the clear depletion of this largest of Mexican assets, it appears that Mexico’s longer term financial well-being will be further undermined as Cantarell depletes… absent major new discoveries. The October 16th “At one time the second largest oil field in the world, contributing more than 60% of Mexico's crude oil production as recently as 2005, the field is dying, having produced less and less oil for several years, with a falloff of as much as 25% this past year from 2007 levels. This year, it's expected to produce 7% less to an average of 700,000 barrels per day, and sometime between now and 2017 the figure may sink to 400,000 barrels a day, despite efforts to optimize the field… ‘Owing to the rapid decline in output at Cantarell and to political and ideological excesses and corruption over the years, disenchantment with Pemex is overwhelming,’ David Shields, an independent energy consultant based in Mexico City, said in an Inter-American Dialogue report recently…”

“[A]nalysts and observers say Mexico's state-owned oil company is debt-bloated, overtaxed and facing massive production declines, and even a new Pemex chief and new oil and gas laws that promise to open it up to private oil companies may not be enough… Cantarell is old, and Pemex has nothing with which to replace it. The national oil company has been taxed so heavily to support the Mexican government -- it provides 40% of the federal budget -- that it has had little capital to invest in new fields. .. ‘Despite ample pretax cash flows, a high tax burden has stymied capital retention and investment in reserves and key infrastructure and has resulted in a heavy debt burden,’ Moody's Investors Service wrote in a May report.”

In short, Mexico, already burdened with social and political issues that threaten her very existence, has an economic elephant in the room that will be there long after the rest of the world “recovers” from this recession. For those Americans who prefer to turn away and say, “Well, too bad and so what, but it’s a problem of their own making, and they should just have to deal with it,” this simplistic answer does not even begin to address the “side effects” that will also slam the United States. If transporting and dealing in drugs is the obvious growth business to supplant “oil,” if the cartels will only become stronger as the Mexican government spirals into insolvency, the ramifications for the United States, particularly our border states, could be nothing short of horrific.
I’m Peter Dekom, and I approve this message.

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