MEXICO CITY — The Gulf Coast Power Association’s third conference on the nascent Mexican market drew almost 100 attendees to participate in discussions on market design, retail tariffs, transmission siting and generation financing. The May 16 event was interrupted for about 15 minutes by a seismic alert that required an evacuation, but conference organizers were able to keep the event on schedule.

Little more than a year ago, Jeff Pavlovic, managing director of the Bravos Energia generation consulting firm, was managing director of electric industry coordination for the Ministry of Energy (SENER), responsible for standing up the Mexican market. Now, as a member of the private sector, he delivered a painfully honest view of the market.

“When you’re not representing the government, you don’t have to sugar-coat things,” he said.

Pavlovic pointed to a lack of transparency in the market and the continued influence of the country’s incumbent monopoly, the Federal Electricity Commission (CFE).

“For a market to work, decisions need to be made by the market participants,” he said. “Decisions should be pushed out to people who have money on the line. And for that to happen, there needs to be transparency for people who have real investments at risk and money in the market.”

Case in point: Last November, Mexico’s Energy Regulatory Commission (CRE) published the market’s first basic retail rates.

But then users in Baja California, which is isolated from much of the Mexican mainland, complained to CRE about errors in their higher rates. That led to a change in the key criteria for rates in February that affected all users, he said.

CRE “changed the way [it] assigned load demand among different users and rate classes. This led to big drops, 30 to 40% drops, across all rate classes,” he said. “It no longer made any sense. It was completely impossible to reproduce. The CRE spreadsheets that were meant to show the math started 80% through the calculations.”

Pavlovic said the original methodology was fundamentally sound and that he hoped CRE would fix the calculations. He said the commission gave up last month and published a new, transitory methodology that appears to phase in rate increases over the rest of 2018.

CRE “seems to be on a trajectory to keep raising rates,” he said. “But the level of transparency and logic is even less than before.”

Pavlovic said distribution losses, or theft — a serious problem in Mexico — are a looming problem in the rates structure. Costs are currently assigned to paying consumers at the lower voltage levels where the losses occur. To compensate, the rates include a mechanism for the cheapest generation to be assigned to the smallest users.

In addition, he said, CFE continues to combine the accounting for its various subsidiaries, which have yet to be unbundled.

“It continues to lose money as a whole, but we can’t tell where they’re losing money because they haven’t separated their results by companies,” Pavlovic said. “They’re starting to make a lot of money from fuel sales and ‘other income,’ which we have no idea what it is.

“CFE is required to publish contracts for energy and fuel,” he said. “That would solve problems where market participants suspect there are deals between CFE companies at either too low or too high a price compared to market conditions, but CFE has resisted this. This is an opportunity for SENER to step in and enforce the transparency requirements established in the law.”

On the bright side, Pavlovic said the market’s capacity auctions have been successful and market participation continues to grow.

“There is a new wave that will come in,” he said. “I think the market will continue to get deeper and help us exercise influence over the policy. But we need CFE to show leadership in its own separation of its businesses.”

Market Shows Promise in Year 4

Ammper Energia CEO Juan Guichard said he has a “more optimistic view” of the market than Pavlovic, reminding attendees that it was only written into the Mexican Constitution in 2014.

“We’re starting to see a light on the road. Hopefully, it’s not a train,” said Guichard, whose company represents generators. “That’s a market reality … the prices for the new rate and tariff, are not all complete. This is part of the evolution in the market. … We need to reach a middle point between supplier and end customer. We are not used to having choices, so suddenly there is a market, a complicated market with power. There are risks.”

Guichard said the market’s low liquidity limits hedging opportunities, which presents a challenge when meeting customers’ demands.

“Some users have said there’s less liquidity for the operator to cover peak hours or just at night. We need to provide a new solution to customers. We have agreed with the customers, because they’re the first customers going in to a new market,” he said.

Patricio Gamboa, energy director for steel manufacturer Deacero, shared Guichard’s optimism, but noted that the country’s July 1 national election could slow progress. Leftist populist Andres Manuel Lopez Obrador, a two-time mayor of Mexico City, currently has an 18-point lead over the National Action Party’s Ricardo Anaya and a 27-point lead over the Industrial Revolutionary Party’s Jose Antonio Meade of PRI, whose two parties have ruled Mexico for the past 89 years.

“The election year is a lost year, so we have a lot of years to go,” Gamboa said. “When we started this market, we compared it to others. It took them 10 years [to run efficiently], and we are at four years.

“If we compare to other markets, we realize there are many areas of opportunity as far as transparency,” he said. “If the concern is collusion, I agree that to not be transparent is a very high risk. The level of information we have from CENACE is less than other markets.”

Panel: Regulated Tx Rates Need More Certainty

A panel focused on regulated transmission rates warned that the transitory rate scheme for 2018 is not helping matters and said changes must be made. Gerardo Cervantes, director of energy marketing for Enel Mexico, said the rate design is inconsistent with the market’s public policies and doesn’t send accurate price signals.

“They designed a market that claims the policy of public power is the recovery of cost. The basic supplier is not recovering costs and is doing poorly,” he said. “When you start implementing [rates] in such a random way, when you put in caps, that means your rate doesn’t have anything to do with what’s happening in the market.”

“We don’t even know clearly which is public policy,” agreed Antonio Noyola, chief development officer for Houston-based energy consultant Avant Energy. “The market is to provide a competitive market, but the design of these supply rates is not real. Reform … is not happening at the right pace. It should happen right away, so they can make the right decision. We need to acknowledge that at the end of the day, [the supplier is] taking a risk.”

“We have to work on providing information to the authorities, so that next January, it’s not challenging,” Cervantes said. “It’s necessary to know the cost of everything, the transmission, the distribution. We need to raise awareness of … the transparency of regulation. If we don’t do it now, or because we are being subsidized, eventually we will have to pay the price — and it’s going to be a very high price.”

Call for Additional Interconnections with US

Keynote speaker Severo Lopez Mestre Arana, a partner with Galo Energy Consulting, suggested the Mexican market will benefit from continued interaction with other markets. Mexico has five DC ties with the U.S. — three across the Texas border with ERCOT and two with CAISO — with a total capacity of 1,086 MW. Another eight interconnections provide an additional 788 MW of capacity of emergency power.

“We believe with minimal adjustments to regulation, we can move forward,” Mestre said. “You cannot stop the strengths that are pushing to integrate the markets. The strengths are so strong, the power of efficiency and the power of sustainability. The regulation needs to adjust to the reality.”

He said Mexico is interested in extending its interconnections with the U.S., although it has not yet expressed its official intentions. Three additional interconnections between the two countries are in various stages of development.  (See Regulators Fear Cross-Border Tx Risks ERCOT’s FERC Exemption.)

The key, Mestre said, is completing Mexico’s proposed financial transmission rights market. He used CAISO, ERCOT, PJM and international exchanges such as the EU’s Joint Allocation Office, Inelfe (a DC link between Spain and France) and Energinet DK (Denmark with Germany) as examples of markets with successful exchange capabilities.

“We found that in many markets, that’s a constant that allows for transporting long-term energy or transmission rights,” he said. “We need to extend our assumptions. It seems only minimal changes can lead to a more dynamic model of export exchanges. The model is not that far away. That’s the trend, in most markets.”

Do Low Prices Equate to Successful Auction Prices?

Que Advisors Managing Director Peter Nance, moderating a panel discussion on the market’s recent long- and medium-term auctions, noted the long-term energy auction’s prices were very low at slightly more than $15/MWh. He asked, “Does this mean the process is work well?”

“The cost for the system should also be one of the [measures] of how successful the process is,” said Casiopea Ramirez, regulatory affairs chief for Spain’s Gas Natural Fenosa. “We are increasing the system capacity, but this could also trigger a different process, if we continue introducing capacity with a grid that has not been extended. Demand is low. Logic would say we don’t need additional capacity.”

Ramirez reminded her audience that one of market reform’s goals “is to obtain cheap energy, and we have attained that.”

Veronica Irastorza, an associate director in NERA’s Mexico office, cautiously agreed.

“These low prices are due to natural resources, but also, high risks are assumed in the long-term auctions. All these risks are being assumed by the supplier,” she said. “I’d prefer to see bilateral contracts and CFE to start shrinking over time. You need to have more transparency.

“I do think the auction is really complex and different from other auctions around the world.”

Room for Both Commercial, Development Banks in Mexico

During a panel discussion on financing new generation capacity, Acciona Energia CEO Miguel Angel Alonso recalled his arrival in Mexico in 2006 and the global financial crash two years later.

“I came from Europe, where private banking was covering all the renewable development, but then there was a crisis,” he said, referring to the Lehman Brothers collapse. “It was like watching a love story, and you go … and get some popcorn, and then [return to find] everybody’s dead. The butler killed everybody.

“This is a market that is hard to finance,” Alonso said. “I don’t really see how you can be offering energy at $17. They don’t want to finance. They don’t need it. The ones on top take the cherry. They go with the commercial bank, and there’s no room for the development bank.”

Nacional Financiera’s Arturo Gochicoa Acosta has shown there is still room for development banks. He has helped the government institution finance energy projects with an installed capacity of more than 3.5 GW since 2013.

“We’re not trying to finance projects all around Mexico. We’re definitely doing our analysis,” Gochicoa said. “There’s always the risk of how the energy portfolio changes over the years. What will the infrastructure look like in the next 20 years? You have to look at good projects that are possible and that are able to repay in the long term.”

— Tom Kleckner