Via Stratfor (subscription required), an interesting analysis of Petroleos Mexicanos’ (Pemex) continued production woes.  As the article notes

“…Oil output … dropped 9 percent in 2008 to about 2.8 million barrels per day (bpd). This is down from 3.08 million bpd in 2007, and from Pemex’s all-time high of about 3.8 million bpd in 2004.

The drop is largely due to declining production at Mexico’s massive Cantarell field, which at about 900,000 bpd is responsible for about a third of total Pemex output. And with limited capability to conduct deep offshore drilling, an unstable investment climate and an energy industry subject to heavy legal restrictions, Pemex is unlikely to reverse its production decline in the short term.

The 2008 decline in production at Pemex translates into a revenue loss estimated by Bloomberg of $20 billion for the state-owned firm. And Pemex effectively has staked its profitability on the Cantarell field — as has the Mexican government: Mexico City finances around 40 percent of its budget from Pemex revenues.

Production at Cantarell, the world’s third-largest field, began in 1979. Its location in waters 100-130 feet deep off Mexico’s southeastern coast meant that Pemex did not need to develop any significant deep-water drilling capability. When it began to face the issue of declining production in the 1980s, Pemex undertook short-term measures by injecting nitrogen into the field’s reservoirs to maintain pressure. But Pemex never developed a deep-water drilling capability that would have allowed it to exploit new fields further offshore (where half of Mexico’s crude reserves are found).

Making up for declining production at Cantarell will be nearly impossible in the short to medium term, though. Pemex simply lacks the money or indigenous technical capability to tap deep-water offshore fields that would enable it to significantly reverse a production decline. And it faces a constitutional bar on forming partnerships with foreign oil companies that would allow foreign enterprises to own part of their oil output. This rules out joint-venture or production-sharing agreements, which are common methods of attracting foreign investment. Although attempts to enact constitutional changes to allow these agreements have failed, the Mexican government passed an energy reform package in October 2008 that will restructure Pemex to increase efficiency and allow it to hire international oil companies to increase the country’s access to technological expertise.

However, there are challenges that face this reform process. In the first place, the implementation of these reforms is going slowly, and some reforms will depend on a consensus among Mexico’s three political parties, which is nearly always a difficult process. Furthermore, the international investment climate is extremely shaky in the wake of the U.S. financial crisis and the ongoing global economic downturn. This means it could be difficult for Pemex to secure the financing it needs to hire outside expertise, and political infighting coupled with high levels of persistent corruption will not make investors more comfortable. Given these challenges, new production under the energy reform plan will be slow in coming.

Production at Cantarell is expected to decline by a further 500,000 bpd over the next several years. To compensate for Cantarell’s decline, Pemex wants to try to squeeze additional output from existing fields (it has production rigs in fields nearby and in water depths similar to Cantarell, as well as rigs at smaller, onshore fields).

But to significantly boost output, on the level of 500,000 bpd or more, Pemex aims to open up new onshore and offshore fields. Onshore development is occurring in Mexico’s Veracruz and Puebla states. Production there, while projected at 500,000 bpd, is not expected to come online before 2021, however. Offshore exploration is more promising in terms of tapping crude reserves (estimated at 24 billion barrels), but Pemex lacks a large-scale capability to lift crude from deep-water levels. Though Pemex has drilled to depths of 3,000 feet, its two existing deep-water platforms — plus three on order expected to arrive in 2010 — are not expected to bring production from deep-water fields online before 2015. Even then, production is expected to yield less than 100,000 bpd.

These declines in crude production will lead to reduced revenues not only for the company, but more critically, for the Mexican government, and the challenge could not come at a more dangerous time. Mexico is embroiled in a war against drug cartels. The country’s security situation deteriorated enormously over the course of 2008, and shows no signs of letting up. At the same time, the global economic downturn has created rising unemployment in Mexico, a pessimistic growth outlook and calls from Mexicans for the government to find solutions, and find them quickly. Should the decline in production not be counterbalanced by increased production at existing fields, or should the decline accelerate, Mexico will find itself in an increasingly unstable fiscal position as challenges mount and resources dwindle.