Electric Power - Mexico

FEATURE: Mexico City's transition towards efficient power service

FEATURE: Mexico City's transition towards efficient power service

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As Mexicans cheered the defeat of El Salvador in a World Cup qualifier match that ensured the country's place in the 2010 tournament on October 10, Mexico's President Felipe Calderón signed a decree to dissolve state power company Luz y Fuerza del Centro (LyFC) and grant its distribution concessions to fellow state firm CFE.

The move was both long overdue and surprising. LyFC has provided dismal power service to Mexico City and surrounding areas with gross inefficiencies that included the theft of more than 30% of its transmitted power. The government was forced to prop up the weak company with subsidies that drained federal coffers, but the bloated and corrupt union (SME) of more than 44,000 workers was one of the most powerful in the country. Previous presidents have shied away from challenging it.

The company's mismanagement and entrenched problems were the prerequisite for Calderón's decision, but external factors finally provided the impetus for carrying out the liquidation, according to Mexican political expert Pamela Starr.

"The inefficiency of the firm was the absolutely essential but insufficient condition for this. You would never have had the incentive or justification to close the firm it if it weren't as horribly inefficient as it is. However, it's been that inefficient for 30 years, and nobody has closed it because politically the planets hadn't aligned," Starr said.

Calderón was able to seize the moment as a result of several causes. A disputed union election under appeal divided union members and weakened their unified front, while Mexico's current challenging economic climate made the company's inefficiencies appear even more unacceptable. Finally, the country's ongoing struggle to set the 2010 federal spending budget made very attractive the 18bn pesos (US$1.38bn) the government said would be saved by eliminating the firm, Starr said.

Likewise, the move came at a politically opportune moment for Calderón, of the center-right PAN party. He is already being referred to as a lame-duck president, and eliminating the firm was a way to reestablish his presidential authority and build political capital.

It also undermines his political nemesis, former presidential candidate Andrés Manuel López Obrador (leftist PRD party), who received funding from the SME. Finally, the move pleases rival party PRI, which does not want to have to deal with either the SME or López Obrador when, as the party assumes, it retakes the presidency in 2012, Starr said.

A POSITIVE STEP TOWARD TRANSITION

The elimination of LyFC was widely praised by Mexico-watchers, despite a protest in central Mexico City that drew more than 150,000 people.

Their display of anger, though, should be read more as support for the union workers than the company itself, which was largely reviled for its shoddy service.

Independent energy expert David Shields said the elimination of LyFC seems to be one step down the road to better organizing the structure of the country's power sector.

Shields also said the takeover by CFE will give the firm a new focus. With its large generation reserve margin of roughly 40%, CFE has been relatively idle in recent years.

"They need something to keep themselves occupied," Shields said.

CFE investment could be oriented more toward Mexico City in the near-future as it brings power service in the country's largest urban center up to the level of other major cities, Shields said.

The question now is how challenging the transition will be in both the operation and administration of the defunct LyFC.

Energy minister Georgina Kessel said in an interview last week that there had been isolated power failures due to acts of vandalism, but service has been quickly reestablished.

Kessel said she hopes those power cuts grow ever more infrequent and that unreliable power service will cease to hinder economic growth, according to a transcript of the interview posted on the presidential website.

Initial works will entail rehabilitating installations, new infrastructure, reinforcing substations, and bringing power to those who have long been waiting to be connected to the grid.

CFE will need to be able to respond to growing power demand that is still not being fully met, energy regulator CRE's general director of electricity, Alejandro Peraza, told BNamericas, adding that he was optimistic that CFE will rise to the challenge of the operational transition.

"I do not see difficulties. There are no technological issues there that CFE is unfamiliar with. I think those problems can easily be solved in the short term. CFE has a lot of experience and has already very clearly demonstrated its capacity to resolve problems of this type," Peraza said.

Christopher Goncalves, a director in the energy practice of international consultancy Navigant Consulting, told BNamericas that CFE's proven ability to manage a profitable operation that has secured favorable credit ratings is "a good sign."

LyFC's costs were roughly double the company's income, meaning CFE must either cut costs or increase revenue. The latter would mean raising power rates, which would be unfavorable given the economic recession that has hit Mexico particularly hard.

"The obvious solution is to try to change the management and reduce the costs," Goncalves said.

Goncalves also highlighted the potential for operational synergies between the two firms. While modernizing LyFC's distribution grid and transmission infrastructure will require investment by CFE, its under-utilized generation capacity could be employed to meet power supply shortfalls.

"LyFC either had to buy power at arm's length from CFE or generate it itself. It's hard to know for sure, but when you stitch the two operations together, there may be some operational efficiency. Instead of adding a new power plant, you could just streamline the operation overall for CFE and essentially squeeze more juice out of existing capacity," Goncalves said.

A CFE spokesperson told BNamericas that its first goal is to maintain power service without interruption. Its second goal is to improve service to clients with measures such as a new call center to report power failures.

The company also plans to begin an "intensive maintenance" program for LyFC's former grid "in the coming days," the spokesperson said.

More information was not immediately available.

THE IMMEDIATE POLITICAL HURDLE

The government is attempting to frame the dissolution of LyFC as the best move for the country and convey willingness to work with the SME to find jobs for its now-unemployed members.

The union and López Obrador will undoubtedly continue to stir the pot, but Shields says they are unlikely to reverse the eradication of the firm.

"I don't think protests will derail the transition. I don't think it will make any change to Calderón's decision, but they will make a whole lot of noise," Shields said.

Pamela Starr said there are four things to keep in mind as the issue develops.

The first is whether the rank-and-file members of the SME defect and accept the severance pay being offered by the government through November 14 and take new jobs with CFE. This would clearly weaken the union's position and also force allies to question whether they should use their political capital to back the losing horse.

Second, it is important to see how other unions react. Starr depicts the SME as "low-hanging fruit" and the move against it as "a one-off." Further, she said she would be "dumbfounded" if Calderón were to go after other unions, particularly since the two most powerful unions are allied with the PRI and Calderón's own PAN party. As such, it should be relatively easy to assuage concerns of other unions.

The third factor is the response of López Obrador and his allies. He has so far said the tactics employed will be non-violent, which begs the question of how long SME supporters will sustain motivation to simply march in protest.

Moving against the SME could, however, reunify the semi-moderate left and radical left, though Starr said the issue is far less potent than liberalization of the oil sector that is dominated by state company Pemex.

"This is a much better issue for López Obrador than the economic crisis was, but it is not Pemex. It is not Pemex because the people in Mexico City hate Luz y Fuerza. Everybody's dealt with it, and everybody hates it," Starr said.

Finally, the government has to step up its efforts to convince the nation that the liquidation of LyFC was truly the best thing for Mexico.

"For the first several days, they were behaving as if this issue would sell itself. While it does sell itself with the majority, there is this very important minority that they have to care about. They need to make sure this issue doesn't further polarize the situation and feed into people's discontent over the economic crisis and then potentially lead into some radical action independent of López Obrador and his control," Starr said.

For now, it remains a matter of waiting and watching the political landscape that unfolds as well as CFE as it endeavors to efficiently power the largest urban area in Latin America.