Editor’s Note: NGI’s Mexico Gas Price Index, a leader tracking Mexico’s natural gas market reform, is offering the following column by Eduardo Prud’homme as part of a regular series on understanding this process.

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Baja California is a very long peninsula, but in economic terms, especially on its southern end, the flow of goods and services have made it seem like an island. Through the port of Pichilingue in the vicinity of La Paz, this region receives by sea all kinds of basic supplies, including fuels from Mazatlán, Topolobampo and Salina Cruz. From there, goods and fuels are distributed up and down the 621-mile strip that makes up Mexico’s Baja California Sur.

The generation fleet in the area delivers energy that is consistently the most expensive in the country. When reviewing typical values ​​in the electricity market throughout the last year, in an average winter month, while in Monterrey the nodal price is around 545 pesos/MWh (about $26.5/MWh) with maximums of 1,708 pesos/MWh, in La Paz prices are approximately 2,885 pesos/MWh in the winter with maximum prices around 4,093 pesos/MWh. At peak times during the summer this ratio is similar. Power in La Paz is expensive even in comparison to regions that have critical fuel supply conditions. For example, the maximum price observed between January 2020 and June 2021 in Mérida was 7,302 pesos/MWh, a value lower than the maximum in La Paz of 8,571 pesos/MWh.

In addition, the burning of fuel oil at the Punta Prieta power plant has been a source of complaint due to the effect of its emissions on the delicate desert environment around La Paz. As a result, for several years both the Comision Federal de Electricidad (CFE) and the Energy Ministry have tried to extend the gasification strategy of the electricity sector to Baja California Sur. The difficulties are related to the upfront capital involved. Solutions studied have included bringing electricity directly from Mexico’s West Coast through a submarine cable, building an underwater pipeline as a branch of the pipeline that connects Topolobampo with Mazatlán, and liquified natural gas (LNG) in boats.

For LNG, demand in the area does not justify a project on the scale of Manzanillo or Altamira which have considerable economic advantages. However, the price differential may well make a modest barge transportation scheme with a floating reception option profitable. And this is what has occurred.

As a further example of its leading role in the natural gas industry, CFE acquired aeroderivative generation equipment for an aggregate capacity of 108 MW and has sought natural gas supply service for the equipment. It also is converting existing plants for natural gas use. In March 2020, CFE opened a tender for natural gas supply service through any technology for delivery in Baja California Sur. CFE’s intention was to receive 50 MMcf/d in the first three years of operation and reach 120 MMcf/d in the long term. Its vision was to finance the project with its own resources. The pandemic slowed things down, but these plans are now taking shape.

As defined in a contract signed at the end of March 2021, the company NFEnergía, a subsidiary of New Fortress Energy Inc., will be in charge of supplying natural gas for three years and to six generation units operated by CFE. The technological solution will consist of a supply chain that will include maritime and land elements. In its maritime reception segment, a cargo ship with capacity of 135,000 m3 will transfer LNG to a floating storage unit. This unit at sea will provide operational flexibility, continuity and reliability to the supply scheme in the face of fluctuations inherent in electrical dispatch. Land terminal units will feed gas into specialized vehicles that will transport the fuel to the generation plants.

The complexity described here entails a list of environmental and technical permits that need to be authorized by Agencia de Seguridad, Energía y Ambiente (ASEA) and Comision Reguladora de Energia (CRE). The project requires environmental impact statements and the preparation of industrial safety, operational safety and environmental protection management systems for the terminal on land and for the regasification points in the generation plants. Storage, regasification and distribution activities by means other than pipelines are activities that the Hydrocarbons Law determines are subject to regulation by the CRE and that require a permit to operate. In the past few days, the CRE has granted permits for such activities so the start of operations seems imminent.

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The delivery of gas in this method for generation is unprecedented in the country and despite its complexity, can serve as a reference model for other projects. This is undoubtedly good news for the Baja California Sur area in economic and environmental terms. But its development also exhibits the immaturity of the Mexican electricity market. According to the theory that supported the opening of the energy sector that occurred in 2013, very high nodal prices are undeniable economic incentives for private investors to act in the generation sector. But considerations related to the recovery of investment in the long term have prevented a massive deployment of investment in the energy markets and which leave CFE as the only agent that can ensure the scenario that provides economic certainty.

In its operational and development aspects, a project like this may have economic merits but its expected value is uncertain given the structural risks that have arisen since 2018. In the electricity sector, CFE has an advantage over any other company. Regarding the granting of permits by the CRE, it is important to note that the permits that have been authorized to NFEnergía were remarkably swift compared with the time generally being seen now in the energy sector. There are stories of applicants who have not had answers regarding procedures that began in the summer of 2020. The permitting issue is even more relevant today given attempts to amend the Hydrocarbons Law.

The New Fortress project may well be an example of logistical imagination to serve Yucatán, Guerrero, Chiapas and even Oaxaca. With an enabling environment, risk takers would not have to have connections with the powerful state companies. Users could enjoy solutions that do not depend on the national treasury. But for now, with CFE’s backing, it is at least certain that Baja California will have access to reliable natural gas supply.

Prud’homme was central to the development of Cenagas, the nation’s natural gas pipeline operator, an entity formed in 2015 as part of the energy reform process. He began his career at national oil company Petróleos Mexicanos (Pemex), worked for 14 years at the Energy Regulatory Commission (CRE), rising to be chief economist, and from July 2015 through February served as the ISO chief officer for Cenagas, where he oversaw the technical, commercial and economic management of the nascent Natural Gas Integrated System (Sistrangas). Based in Mexico City, he is the head of Mexico energy consultancy Gadex.

The opinions and positions expressed by Prud’homme do not necessarily reflect the views of NGI’s Mexico Gas Price Index.