1. Mexico’s Unfulfilled Potential A Discussion of the Recent BIPP Study: Scenarios for Oil Supply, Demand and Net Exports for Mexico Kenneth B Medlock III, PhD James A Baker III and Susan G Baker Fellow in Energy and Resource Economics, and Senior Director, Center for Energy Studies, James A Baker III Institute for Public Policy Adjunct Professor, Department of Economics Rice University November 2, 2012 James A Baker III Institute for Public Policy Rice University Presentation to the Dallas Federal Reserve Branch Conference “Mexico: How to Tap Progress”

2. Discussion Points Some basic points Projections for oil demand, supply and net exports Implications of the story lines What needs to happen? Can the course change? Broader developments in the global market The role of unconventional resources Where does Mexico fit? 2

3. On the Concepts of Resources and Production We generally define total resource as: –Ultimate = Produced + Proved + Potential (or Undiscovered) Thus, we can assess, albeit with uncertainty, the extent of the total technically recoverable resource. –Even this is insufficient because economic recoverability is really the subset that matters, and even this is dynamic. The ultimate scale of unconventional resources is still a big unknown due to a relative lack of exploration –Uncertainty remains in the resource estimates for shale –Tight oil resources are becoming mainstream –Heavy oil from tar sands and oil shale

4. A note on what politics can mean for supply Geopolitics can present barriers to investment (risk premiums, limited access), effectively shrinking the size of the resource box (below). –Barriers to investment reduce the impact of exploration, limit the ability to respond to higher long run prices, and limit the impact of innovation. Price increase, Cost decrease Exploration, Technological improvement Proved Probable Possible Sub-Economic Resource Undiscovered Resource Discovered/Identified Resource Increasing Economic Viability Increasing Geologic Uncertainty Source: Modified from McKelvey, V.E., “Mineral Resource Estimates and Public Policy,” American Scientist, 1972 Geopolitics

5. Scenarios for Mexico’s Oil Demand, Supply and Net Exports 5

6. History (1971-2010)

7. Projection – Business as Usual Business-as-usual -GDP gr = 1.44%; POP gr = 0.44%; P oil,2040 = $90/bbl -Resource = 29.83 billion bbls; Reserve replace = 0.83 billion bbls/y Mexico becomes net importer in 2027.

8. Projection – Alternate Assumptions The result, however, is highly contingent on -Reserve replacement (+); New discoveries, such as deep water (+) -Domestic demand growth (-) Pictured: US-type reserve replacement with GoM Discovery

9. The Intersection of Market Structure and Regulation: An Example – US Unconventional Oil 9

10. A Study in Contrast: US Oil Production The last 5 years higher price has motivated exploration and development, leading to a resurgence in US oil production, from unconventional and old fields.

11. Ongoing developments in US Tight Oil Resource potential in US is distributed widely. -For example, North Dakota (Bakken), Texas/New Mexico (Permian – Avalon, Bone Springs, Wolfcamp, South Texas – Eagleford), Ohio (Utica), Pennsylvania (Marcellus), Colorado/Wyoming (Niobrara), Florida (Sunniland), Louisiana (Tuscaloosa), Oklahoma (Mississippi Lime), California (Monterrey). o Not all shales are created equal, but the total technically recoverable resource endowment may exceed 40 billion barrels. o To date, activity in the Bakken and Eagleford accounts for most US tight oil production (about 680 thous b/d). Market structure and regulation facilitate entry my multiple firms and high efficiency. 11

12. The Potential for Change 12

13. Upstream Firm Efficiency: A Function of Operating Conditions 13 Average revenue efficiency (pictured) for 2000-2009, sourced from Hartley and Medlock, 2012. Unlike most international majors, PEMEX is burdened by government objectives, which lowers estimated efficiency. Absent change, PEMEX is not likely to move to the frontier.

14. Questions/Comments 14