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EXECUTIVE SUMMARY The End of an Era: Mexico’s Oil Rent Peaks, Now What?
Mexico’s crude oil production has dropped from peak levels of 3.45 MMBD in December 2003 to 2.58 MMBD in September 2010. Thisdramatic drop, equal to 895,800 barrels per day (a 25% loss), exceeds the total production of countries like India, Oman, and Argentina (23rd-25th largest oil producers worldwide). Surprisingly, this loss has not triggered fundamental changes in Mexico’s energy and fiscal policy -- largely because the massive production loss did not have a proportionally devastating effect on fiscal revenue.Mexico has benefited from high crude oil prices, which has permitted the country to perpetuate its hydrocarbons rent-seeking policy practically unaltered. However, the increasing complexity of PEMEX’s future upstream portfolio -- which will rely heavily on exploration, new developments, and rapidly maturing projects -- indicates that the government will soon find itself with notably less revenue fromthe State-controlled hydrocarbons industry. Thus, the State will have to figure out either how to sustain the robust fiscal revenues it has enjoyed from the sector in recent years, or find other revenue sources to replace them in order to help meet its increasing budgetary obligations. This report is the first of several Challenging Conventional Wisdom special reports IPD will provide over thenext few months to take a broader and critical look at key issues confronting Mexico and its energy sector. In “The End of an Era: Mexico’s Oil Rent Peaks, Now What?” IPD analyzes reduced petroleum-related revenues in the context of mounting government expenditures and the potential paths forward. Highlights include: Mexico’s decline in oil production has clearly not hit bottom. IPD has estimated afurther production decrease of more than 489,750 b/d by 2015 (over 18.5% from 2009 levels), and 1.128 MMBD by 2020 (over 43.3% from 2009 levels). Currently, around 60% of production comes from fields in decline or employing secondary recovery techniques. There are no new fields to replace the size of production that will be lost from the existing base in the short term. The existing exploration anddevelopment portfolio is made up of more complex projects, including deepwater, low permeability reserves, heavy crudes and enhanced oil recovery (EOR). PEMEX must adjust its business model,

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which once relied on super-giantand giant hydrocarbons fields, to cope with a more challenging environment in terms of geology, operational logistics and decision making processes. This implies undertaking fundamental changes in areas such as cost structure, technology identification and implementation, human resource capabilities, and operating structure -- issues the State-owned company has failed to meaningfully address andseems ill-equipped to undertake. It is expected that Mexico’s oil rents from PEMEX will continue to fall (due to less production and higher costs) and this drop will contribute to a significant gap in government revenue. Based on continued escalating government expenditures, and relatively flat government revenue generation capacity, IPD estimates that the government revenue gap will exceed US$ 50billion by 2015 (or 27.9% of the country’s 2010 actual budget). This figure will grow to almost US$ 97 billion by 2020 (or 54% of the country’s 2010 actual budget). The State will face tough decisions on how to bridge this gap. Further reductions in PEMEX tax revenues will only be part of the problem. The short-term strategies and approaches that are typical of Mexican politics and policy making...
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