Courtesy of The Economist, a detailed review of the state of Mexico’s oil industry and Pemex.  As the article notes:

“..It is bad enough that Mexico’s economy is in deep recession, triggered by its close links to the ailing United States. To make matters worse, the country’s oil industry, its fiscal cash-cow for the past three decades, is declining swiftly (see chart). As recently as 2004 Cantarell, the country’s main offshore field, produced 2.1m barrels per day (b/d) of crude. Now its output is just 600,000 b/d. There are no obvious replacements: 23 of the 32 biggest fields are in decline. Barring big new finds, the world’s seventh-largest oil producer is forecast to become a net importer by 2017.

The Mexican treasury is ill-prepared for this. Taxes and royalties from Pemex, the state-owned oil monopoly, have accounted for almost two-fifths of federal revenues in recent years, compensating for one of Latin America’s weakest tax regimes (which collects just 11% of GDP). If oil output drops below 2m b/d, as many industry-watchers fear, the government would be forced to cut spending by more than 10%—or jack up taxes correspondingly, to avoid an unsustainable budget deficit. This might threaten economic recovery.

There is no mystery behind the decline. The constitution bans private investment in hydrocarbons. Ever since Lázaro Cárdenas expropriated foreign oil companies in 1938, the state oil monopoly has been seen by many politicians, especially from the formerly ruling Institutional Revolutionary Party (PRI) and its offshoots, as the untouchable bone marrow of Mexican sovereignty. To make matters worse, Pemex has been run more in the interests of its workers and their trade unions than of the Mexican people, its notional owners.

All this has curbed the country’s ability to capitalise on its geological wealth. Since many oil-exploration projects take longer than the six-year presidential term to bear fruit, the politicians have a powerful incentive to spend oil revenues rather than reinvest them. From 1983 to 2000 Pemex’s annual investment budget was a paltry $3 billion. Until recently Cantarell’s bounty disguised this. After the conservative National Action Party (PAN) broke the PRI’s seven-decade grip on power in 2000, Pemex started to invest more. But higher labour and equipment costs absorbed much of the increase. Much of the new money was ploughed into Chicontepec, a project in the state of Veracruz that Pemex hoped would replace Cantarell. But this is yielding just 29,000 b/d so far.

Opportunity beckons beneath the deeper waters of the Gulf of Mexico, where some 50 billion barrels of oil are thought to rest. In the American part of the Gulf, 300 or so deepwater wells are drilled each year. Last month Britain’s BP found a big new field (with perhaps 3 billion barrels) there. Pemex has drilled just ten deepwater wells, but found little oil. It lacks the expertise, technology and capital it needs.

Even if Mexico allowed private companies to explore for oil, they would have to invest $10 billion a year to halt the decline in output, reckons David Shields, who edits a specialist magazine on Mexican oil. Under today’s law, in which private firms can only act as service providers for Pemex, that investment would be much higher, he says.

Felipe Calderón, the president, has tried to address the problem. A law approved last year is supposed to make Pemex more agile, by appointing independent directors and separating its contracts from government-procurement procedures. But to gain the opposition’s votes in Congress he dropped a key proposal that would have allowed contract prices to vary according to the success or failure of exploration. Pemex will be able to pay extra in some circumstances, but is explicitly barred from linking these incentives to production.

To implement this vaguely worded legislation, Mr Calderón last month appointed Juan José Suárez Coppel to head Pemex. He was once its finance director, and has private-sector experience. His job will be to pilot the negotiations with private oil-service firms. The government has not yet published guidelines for these contracts, and no deals are expected until next year. Few are optimistic about them. “Companies are used to calling things by their names,” says Luis Miguel Labardini, an energy consultant. “This game of syntax, of finding a semantic formula to match ‘productivity improvements’ or ‘cost efficiencies’ to output, is going to be too much for them.”

Mr Calderón last month called for a second energy reform. Much could be done even without changing the constitution, by linking the value of service contracts to production and slimming Pemex, where the payroll of 143,000 is at least 30,000 too big. But it is hard to see discussion on a new law before the previous one has even been implemented, and harder still to foresee its approval, since the PRI and its allies gained a majority in the lower house of Congress in a mid-term election in July. Some PRI leaders have ties to the oil workers’ union. And big lay-offs in the trough of recession would anyway be politically toxic. Sooner or later fiscal reality will force change. But by then the oil age may be over.”