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Assessing the Impact of Mexico's Biofuels Law

By Raul Felix
In the past five years, developers, researchers, small production facilities and financiers of projects in the biofuel industry argued in different forums that it was important for the Mexican government to enact a biofuels law to provide the certainty needed for the development of the biofuels market. It now appears that the old saying "be careful what you wish for, you may just get it" is completely applicable for this legislative development. The Law for the Promotion and Development of Biofuels, which was published Feb. 1, 2008, in the Federal Official Gazette, became effective Feb. 6, 2008. Several surprises were offered for those same advocates of regulations and instruments.

The biofuels law clearly states in its title that its main objectives are the promotion and development of biofuels in Mexico. However, it does not create a direct incentive for those that desire to participate in this nascent industry. Most of the content of the biofuels law is aimed at describing the prerogatives of different ministries within the federal administration to regulate the development of the biofuel industry in Mexico.

For example, the biofuels law mandates the formation of an Inter-Ministerial Commission for the Development of Biofuels with the participation of the following ministries: Energy (SENER), Environment & Natural Resources (SEMARNAT), Agriculture, Cattle, Rural Development, Fisheries and Food Supply (SAGARPA), Economy (SECON) and Tax Collection and Administration (SHCP). Another of its main objectives is to promote and regulate the development of the agricultural sector in Mexico. This law is aimed to fully expand on constitutional articles 25 and 27 section XX that discuss the state planning tool of the federal executive to orient the economic development and the development of the rural sector in Mexico. It's also aimed at developing the national policies for the promotion, marketing and use of renewable energy.

In the past, one of the main discussions among potential developers of biofuel projects in Mexico was the potential interference by the state-owned oil and gas monopoly PEMEX in the development of this market. This was the consequence of the market not being regulated and being open to anyone that would risk participating in it. There was a lingering risk of the potential legal recharacterization of biofuels as part of the traditional fuel market dominated by PEMEX.

The most positive aspect of this biofuels law is the fact that it generates an independent legal definition for biofuels and a separate legal framework for their regulation that is not to be limited by traditional fossil fuels laws being applied.

Biofuels are described as the "fuels obtained from biomass derived from organic material in the following activities: agriculture, cattle activities, forestry activities, aquaculture, algaeculture, fisheries products, households, commercial, industrial, from microorganism, enzymes, and derivatives of the foregoing that are produced by technological sustainable processes that comply with the specifications and quality norms issued by the competent authorities." Further, this law defines biogas as the "gas produced by the biological conversion of biomass as a consequence of the decomposition process."

The regulation of this sector would in the medium to long-term allow energy companies, producers and individuals to participate in the development of a new regulatory framework for a new alternative energy market.

It would be possible to develop several projects for mass production, distribution and marketing of biofuels in Mexico after obtaining the applicable permits.

SENER will be responsible for overseeing the development of this market and it will effectively regulate those companies and individuals that may produce, store, provide transportations services, transport by pipelines and market biofuels in Mexico.

SENER has been empowered with the exclusive authority to dictate the criteria for the acquisition of biofuels to PEMEX, its subsidiaries, the Federal Electric Commission and Light & Power Company. Further, it will be responsible for designing the introductory program for biofuels in Mexico that will allow the use of ethanol mixed with gasoline and direct distribution of biodiesel to the general public. Companies that produce a biofuel that may substitute a traditional fuel may be authorized to produce, store or market it in Mexico, and as long as they secure all the applicable permits, they may freely enter and compete in this market.

SEMARNAT was expressly entrusted with overseeing the environmental impact of those facilities devoted to the production, storage, transportation, distribution and marketing of biofuels. This effectively expands the catalog of federally-regulated activities contained in article 28 of the General Law of Environmental Equilibrium and Protection. It will also regulate all activities involving biofuels that may generate air emissions, wastewater or waste. The biofuels law expressly prohibits changing the zoning from forestry to agricultural for the production of crops devoted to this industry. Therefore the production of crops for the biofuel industry will be limited to those areas where the prior authorized use was agricultural, limiting the expansion of potential biofuel production areas.

The incentives and programs to be developed by federal, state or municipal authorities under this law will be aimed at 1) the development of the infrastructure required for the production of crops, 2) local farmers and crop producers, 3) individuals and companies that contribute to the development and modernization of the infrastructure required for biofuel production, and 4) researchers and developers of technology for biofuel production.

The biofuels law makes reference to other programs that are already being developed for the promotion of the agricultural sector, and it establishes the parameters and general guidelines to be followed by the ministries that form part of the Inter-Ministerial Commission for the Development of the Biofuels market, in coordination with federal, state and local governments, to generate new incentives and benefits for project developers.

It appears that Congress did not evaluate the potential impact of the biofuels law on projects that are currently being implemented in Mexico that generate, store or use biogas such as landfill projects, manure treatment systems and management of organic wastes (as provided in article 3 and 24 of the biofuels law). This is especially relevant because biogas is considered to be part of the broader definition of biofuels as provided by the biofuels law. As a result, once SENER publishes its guidelines and criteria for such permits, new biogas projects should secure said permits. Consequently, the requirement to secure a permit from SENER for the production or storage of biofuels may have a negative impact on biogas projects with registrations pending under the Kyoto Protocol's Clean Development Mechanism.

This is especially relevant for the current administration because more than 80 percent of the Clean Development Mechanism projects that have received a letter of approval by the Mexican Inter-Ministerial Climate Change Commission are for capturing, storing or using biogas. As of Jan. 23, 2008, the Mexican Designated National Authority issued 154 of its 184 letters of approval to projects that would sequester or reduce methane/biogas to the atmosphere.

As part of the validation process, the Designated Operational Entities that are charged with verifying the Clean Development Mechanism registration and emissions reductions of qualifying projects may potentially require evidence that the project developer has secured the applicable permits from SENER. Fortunately, all five ministries that participate in the newly formed Inter-Ministerial Commission for the Development of Biofuels are also part of the Inter-Ministerial Climate Change Commission and SENER play an active role on both commissions. SHCP is an invited member of the Climate Change Inter-Ministerial Commission. SENER, if it so chooses, has the authority to exclude these projects of the permitting process by expressly exempting them from the licensing requirements in the regulations related to the licensing process (as provided in section IV of article 12 of the biofuels law).

The biofuel law provides for the following sanctions: 1) fines that range from 1,000 to 100,000 days of minimum wage (approximately $5,000 to $500,000), 2) cancellation of the permits, 3) temporary or definitive, partial or total shutdown of the facilities.

Although Mexico has yet to participate in large-scale biofuels projects, there is a tradition in several areas of the country and specific industries for the direct use of biomass and biogas. With the enactment of the biofuels law a first step has been taken to assure predictability of the legal framework for this market. However, there will be a transitional period during which each authority will set up its specialized teams and will work together on the commission and to develop the regulations, guidelines and Official Mexican Standards for the operation of this market. This adjustment period may be confusing for both the facilities that are already using biomass and biogas and for investors planning to start-up new projects. Each authority will have to face an adjustment or trial-and-error period until they effectively set up the regulations, directives, requirements and standards for biofuel projects. The previous could bring instability to decision makers-instability that could cause certain investments to flee to other countries.

The objectives of this law are laudable. However, it falls short of delivering immediate incentives to promote the development of these alternative fuels in Mexico.

Energy companies that have already developed the know-how and technology abroad or in Mexico for biofuel production and commercialization could clearly expand their horizons and consider Mexico as a viable market for mass commercialization, distribution or production of biofuels.

Further, Mexico will grant companies privileged access to the North American, European, Japanese and Latin American markets. Prior to a regulation of biofuels in Mexico, the greatest fear among players in this sector was the potential re-interpretation of the existing norms for fossil fuels to expand their scope to incorporate biofuels. This was particularly important, because prior to the enactment of the biofuels law, PEMEX, as the preponderant player in the national energy market, could easily hinder the marketing of biofuels substitutes to its traditional fuel portfolio. Under this independent legal structure, other energy companies and start-ups could directly participate in the development of the biofuel market as long as their product proves to be competitive compared with the current fossil fuels offered in Mexico.

Mexico has a wide array of topographic and climatic conditions that range from tropical forests in the southern part of the country, vast coastal areas, a mild climate in the central part of the country, and mountainous areas and arid regions that will allow the adaptation of several varieties of crops that have been used in other latitudes for successful biofuel projects. In addition, Mexico has already issued a law that will regulate the use of genetically modified organisms (the Biosafety Law for Genetically Modified Organism) that may potentially open the door for the use of specific types of energy crops under controlled conditions.

Mexico's current administration has established as part of its National Strategy on Climate Change the need to diversify its fuel alternatives and to introduce the use of biofuels. It has also evidenced that, due to the fact that biofuels do not have a constitutional limitation for the participation of private investment, it wishes to open this sector to both national and foreign investment.

The biofuels law, notwithstanding its shortcomings, provides a foundation for the development of a viable alternative energy market in Mexico. Unlike the traditional fossil fuel sector that depends on the state-owned companies in Mexico, the biofuels law is setting the basis for the establishment of a differentiated legal framework for biofuel projects, which may open the door to the creation of new incentives that shall generate the direct participation of private developers, with the federal government serving as a regulator and promoter for the development of this market.

Raul Felix is the coordinator of the Climate Change & Renewable Energy Practice in Mexico for Baker & McKenzie. Reach him at raul.felix@bakernet.com or +52 (656) 629 1300.
 

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