C omplications of P rematurity

SECRETARÍA DE ENERGÍA Mexico Large-Scale Renewable Energy Development Project (Ministry of Energy / World Bank / Global Environmental Facility) Juan MataEnergy Week, Washington, D.C., 8 March 2006

Background • Power sector: A growing dependence on natural gas... 350 “Libre” 300 250 Gas natural 200 TWh /año 150 Combustóleoy diesel 100 Carbón 50 Nuclear Geotermia Hidráulica 0 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 Elaborado a partir de la Prospectiva del Sector Eléctrico 2004-2013

...and a growing volatility Background Precio del gas natural en pozo en EUA 7 6 5 (US$/MMft³) 4 3 2 1 1990 1995 2000 2005 Fuente: Energy Information Administration

The policy and political context • The current policy framework establishes State control of electricity transmission and distribution. • Since 1992 private sector has limited participation in power generation in two schemes: Self-supply and Independent Power Production (IPP) • The current electricity law presents barriers for RE development: • The National Utility, CFE, needs to follow a least-cost principle for acquiring energy from third parties • A number of benefits of renewables (social, economical, and environmental) are not valued

The current strategy Projects  • GEF/WB Large-Scale Renewable Energy Development Project • GEF/UNDP wind power project • CFE projects • Accelerated depreciation • New contract template for self-supply projects • Bill for a new renewable energy law • Other methodologies and policy instruments    Policies and regulations   

1. GEF/UNDP Wind power project • Action Plan for Removing Barriers to the Full-Scale Implementation of Wind Power (US$11M) • Technical center for wind power in South Mexico • Installation of anemometers • Incentives for pilot small-scale grid-connected projects

2. CFE projects • La Venta II turn-key wind project under construction in the Isthmus of Tehuantepec • More geothermal plants planned (220 MW included in the expansion plan of CFE 2005-2014)

3. Accelerated depreciation • The current income tax law already offers accelerated depreciation (100% on year 1) to all investments in renewable energy equipment

4. New contract template for self-supply • Given the current policy context of Mexico, self-supply remote projects offer good possibilities for renewable energy development (projects with a combined capacity of at least 1300 MW have already requested permits) • A new interconnection contract template for RE has just been published (30 January 2006) • The contract offers energy banking, favorable wheeling charges and capacity recognition (to reduce demand charges) to self-supply projects with intermittent generation from renewable sources

5. Renewable Energy Law • A new Law for renewable energy was approved by the Lower Chamber of Congress in April 2005 • The Energy Ministry has provided technical advice • It is compatible with the current electricity law • The Law includes a specific Fund to provide incentives for Grid-Connected RE, following a strategy similar to that of the LSREDP • In addition it confers new attributions to the regulatory body

6. Other methodologies and policy instruments • With the support of multilateral and bilateral cooperation (GEF, GTZ, REEEP, USAID), the government is developing: • A methodology to assess the economic value of risk reduction offered by RE • A methodology to assess the contribution of intermittent sources to grid capacity • Instruments to enable small-scale self-supply (PV) • Dispatch and planning models to incorporate wind power into the electricity sector • A long-term prospective study of RE (to be published soon)

7. GEF/WB Project • Large-Scale Renewable Energy Development Project: US$25+45M grant aimed at providing temporary, performance-based incentives for grid-scale wind energy • The State utility (CFE) will pay its avoided costs, and an additional, predefined, limited time, incentive will be given through a “green fund” • Incentive allocation based on a competitive auction mechanism • In 2006 bidding for Phase I (100MW)

Main Objective • Stimulate and accelerate the commercialisation of renewable energy applications and markets in Mexico, particularly at the grid-connected level, in order to reduce greenhouse gas (GHG) and other emissions while responding to increasing energy demand and energy diversification imperatives necessary for sustainable economic growth

Strategy By offering a subsidy, the project seeks to compensate the current gap between the costs of renewable energy, and the price that the utility can pay Costs Subsidy Payment bythe utility (CFE)

This in turn will enable the industry to grow and to reduce its costs Costreductions • (due to the learning curve and economies of scale at both global and national levels) Costs Subsidy Payment bythe utility (CFE)

In addition, the project seeks to recognise the value of renewable energy, namely: • Its contribution to the capacity of the electric system • Its environmental and health benefits, at a local, national and global level • The greater stability of its future costs • The benefits of diversification • Its benefits on regional development and job creation Costs Subsidy Payment bythe utility (CFE) Recognition of value

The rationale of convergence: Costreductions • The simultaneous effect of cost reductions and value recognition will reduce the current gap… Costs Subsidy Payment bythe utility (CFE) Recognition of value

The rationale of convergence: Costreductions • The simultaneous effect of cost reductions and value recognition will reduce the current gap… Costs Subsidy Recognition of value Payment bythe utility (CFE)

The rationale of convergence: Costreductions • …until the need for the subsidy eventually disappears Costs Subsidy Recognition of value Payment bythe utility (CFE)

Activities • Implementation of a financial mechanism (“Green Fund”) that will provide additional incentives and hence assure the feasibility of renewable electricity projects • A progressive recognition of the real value of renewable energy

1. Green Fund • A performance-based incentive offered per energy unit produced, rather than a capital subsidy • A competitive process (IPP tender) • Each winning project will receive a fixed incentive during a 5 year period • The incentive will diminish gradually in the subsequent tenders

2. Recognition of Value of Renewable Energy Sources  • Climate change mitigation (CDM) • Accelerated depreciation • Recognition of the capacity contribution of intermittent renewable energy technologies • Recognition of the implicit value of price stability (portfolio diversification / free hedging)   

Project phases • Phase I: US$25M • US$20M for the Green Fund (incentives for a single wind project: La Venta III) • US$5M for technical assistance activities • Phase II: US$45M • Green Fund (other renewable energy sources might be included)

Phase I: La Venta III • The La Venta III wind farm is included in the 2006 budget • CFE (the Mexican state-owned utility) will pay its avoided costs, and the PPA will establish a fixed per-kWh payment (adjustable only with inflation or exchange rate) • The Green Fund will provide the additional incentive • Tender in 2006, operation in 2008

Thank you!¡Muchas gracias! www.energia.gob.mx jmata@energia.gob.mx

C omplications of P rematurity