Energy companies that have been impacted by the Electricity Bill and a group of senators are expected to continue to file legal challenges, on constitutional grounds, before federal courts, and the Mexican Supreme Court. Mexico’s federal Antitrust Commission (COFECE) and the Mexican Supreme Court of Justice (SCJN) have already indicated that the new energy policy of the Ministry of Energy (Sener) would have a negative impact on the energy market, the economy and the environment.
In addition to COFECE and the SCJN, many chambers of commerce, legal associations, the International Chamber of Commerce (ICC), the Mexican Bar Association, academics, business associations, and others have voiced their concerns regarding the Electricity Bill.
The Business Coordinating Council (Consejo Coordinador Empresarial, CCE) estimates that the private sector has invested some $44 billion to generate electricity that is 26 percent cheaper than CFE prices for electricity – equivalent to $3 billion per year, which will now have to come from tariff increases or government subsidies.
Background
During April and May 2020, and the COVID-19 pandemic, CENACE (the independent system operator (ISO) of the Mexican power grid), Sener, and the Energy Regulatory Commission (CRE) issued several regulatory actions to benefit CFE to the detriment of private energy projects (the Regulatory Actions).
In February 2021, the SCJN invalidated several provisions of the Policy of Reliability, Security, Continuity and Quality of the National Electric System that essentially followed the same direction as the Electricity Bill.
In February 2021, COFECE filed an opinion before the Mexican Congress, recommending that it reject the Electricity Bill on the terms submitted by the Mexican president in January 2021.
The decree amending the Electric Industry Law
The Electricity Bill would eliminate free competition requirements for generation and marketing activities, which conflicts with article 28 of the Mexican Constitution. The ISO accepts the supply of electricity by order of cost; however, generation plants trying to produce more energy efficiently will no longer benefit from such incentives. Now, the new rules change the order of energy dispatch based on cost, with hydropower being dispatched first (96 percent of hydropower plants are owned by CFE), then energy produced by other CFE-owned power plants (mostly fuel oil and coal), and then wind and solar energy produced primarily by private investors and finally combined cycle power plants that use natural gas and steam to generate electricity.
These rules would affect the model for the electricity industry as foreseen in the Mexican Constitution, which establishes a competition regime to administer the generation and supply value chain. In addition to discouraging the implementation of projects based on clean energies, the terms of supply and price of electricity would be affected to the detriment of Mexican companies, making them less competitive and less efficient.
In the context of the country’s economic recovery, it is especially important to encourage new investments to create jobs and ensure efficient energy generation so that, through competition, electricity rates remain as low as possible.
The Electricity Bill has been criticized as a threat to the competitive environment for the generation and commercialization of electricity by:
- Eliminating the cheapest-electricity dispatch rule to artificially benefit the CFE, to the detriment of other generators. This would eliminate competition between generators by reducing costs and would discourage the installation of more efficient and cleaner generation projects, to the detriment of consumers and the environment.
- Restricting open access to transmission and distribution networks when “technically feasible,” which is key to competition in generation and supply activities, essentially giving CENACE wide discretion to deny access.
- Allowing CFE to acquire electricity by non-competitive means, eliminating the need for electricity auctions that had historic low prices of around $20 per Mwh. The Electricity Bill classifies any CFE plant, including new ones, as a grandfather plant, thereby removing the obligation to submit to auctions when buying electricity. This implies that around 84 percent of existing generation would have the right to be acquired by the country’s main supplier through non-competitive means. Thus, competition would no longer be the mechanism to guarantee that CFE SSB (and other qualified suppliers) acquire electricity at the lowest possible prices, which would eventually increase tariffs or subsidies, to be paid by consumers and taxpayers.
- Granting wide discretion to the CRE to decide on the granting (or not) of permits to operate as a generator or supplier. This would allow the CRE to deny permits on the basis of the planning criteria of the National Electric System established by Sener. The ambiguity of this authority would allow the CRE, without just cause, to stop granting permits and close the electricity generation market.
- Disrupting the clean energy certificates market by multiplying its offer and eliminating the effectiveness of this mechanism to promote the installation of greater clean generation capacity in the country. This could result in Mexico failing to comply with its international commitments for electricity generation, specifically its commitment to generate 35 percent of its electricity from clean sources by 2024.
Potential breaches of the Mexican Constitution and international treaties
The Electricity Bill’s text appears to violate several articles of the Mexican Constitution, including provisions relating to the right to a healthy environment, due process and retroactivity of the law, sustainability, economic competition, protection against monopolies, and respecting international treaties.
In addition, the Electricity Bill appears to contravene Mexico’s obligations under free trade and investment protection agreements, as well as Mexico’s UN commitments on climate change and the objectives of the Paris Agreement.
Mexico has 35 bilateral investment treaties and 15 investment chapters including NAFTA (North America Free Trade Agreement), CPTPP (Comprehensive and Progressive Agreement for Trans-Pacific Partnership), and the USMCA (United States–Mexico–Canada Agreement). These treaties provide a range of investment protections and for disputes between protected foreign investors and Mexico to be settled by investment treaty arbitration. Although it has now been superseded, NAFTA investors still maintain a three-year window to file an arbitration claim; therefore, as noted in our previous client alert, those claims are grandfathered despite the fact that USMCA replaced NAFTA on July 1, 2020.
Many of Mexico’s investment treaties contain provisions governing the relationship between local court proceeding and international arbitration, so it is important for foreign investors adversely affected by the new legislation to consult counsel and consider the various options for relief under both Mexican law and investment treaties to maximize the protections afforded by these potential avenues of relief.
Conclusions
- The Electricity Bill represents the next phase of a continuing pattern aimed at rewriting Mexico’s Energy policy in favor of state owned enterprises.
- It is likely that the Electricity Bill violates several articles of the Mexican Constitution, as well as Mexico’s international obligations under free trade and investment treaties.
- The constitutional amendment in December 2013 intended CENACE to be an independent agency and no longer part of CFE. Likewise, the same constitutional reform strengthened CRE as an independent regulatory agency.
- For now, after today’s injunction, the electricity market’s functioning will be in place until a final determination is reached on the legality and enforceability of Mexico’s newly introduced Electricity Bill.
Reed Smith will continue to monitor the situation going forward.
Client Alert 2021-071
