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Cablegate: Ambassador and Minister of Mines and Energy

This record is a partial extract of the original cable. The full text of the original cable is not available.

UNCLAS SECTION 01 OF 03 BRASILIA 002834

SIPDIS

SENSITIVE

NSC FOR MIKE DEMPSEY
STATE PLEASE PASS TO USTR FOR SCRONIN
DEPT OF TREASURY FOR FPARODI
USDOC FOR 4332/ITA/MAC/WH/OLAC/SHIELDS
USDOC ALSO FOR 3134/ITA/USCS/OIO/WH/RD/CREATORE
USDA FOR FAS/ITP AND FAS/FAA/WH
DOE FOR SARAH MARQUIS
STATE PASS OPIC FOR MORONESE, RIVERA, MERVENNE
STATE PASS EXIM FOR NATALIE WEISS, COCONNER
STATE PASS USTDA FOR AMCKINNEY

E.O. 12958: N/A
TAGS: ENRG EINV BEXP PGOV ETRD BR
SUBJECT: AMBASSADOR AND MINISTER OF MINES AND ENERGY
DISCUSS GOB'S NEW ENERGY MODEL/NRG INVESTMENT DISPUTE

REF: A) BRASILIA 528, B) RIO DE JANEIRO 518

1. (SBU) SUMMARY AND INTRODUCTION. ON NOVEMBER 8,
AMBASSADOR PAID A COURTESY CALL UPON MINISTER OF MINES AND
ENERGY DILMA ROUSSEFF. THE MINISTER EXPLAINED TO THE
AMBASSADOR THE THINKING BEHIND THE GOB'S NEW ENERGY MODEL,
WHICH MINISTRY OFFICIALS CHARACTERIZE AS A "HYBRID" AIMED
AT PROMOTING COMPETITION IN THE MARKET WHILE STRENGTHENING
STATE CONTROL. THE AMBASSADOR MADE THE POINT THAT MAJOR
U.S. INVESTORS (INTER ALIA, DUKE POWER) CURRENTLY OPERATING
IN THE ELECTRICITY GENERATION MARKET FELT THAT THE NEW
MODEL RETROACTIVELY CHANGED THE RULES OF THE GAME TO THEIR
DETRIMENT. (A DIRECTOR OF THE ELECTRICITY SECTOR
REGULATORY AGENCY SEPARATELY EXPRESSED SKEPTICISM OF THE
NEW MODEL AND POINTED TO THE GOB'S DECEMBER AUCTION TO
SUPPLY POWER AS THE NEW MODEL'S FIRST MAJOR TEST.)
AMBASSADOR ALSO URGED MINISTER ROUSSEFF TO MOVE QUICKLY TO
HELP ENSURE THAT PETROBRAS PAID AN USD 83 MILLION ARBITRAL
AWARD DUE THE U.S. FIRM NRG. ROUSSEFF PLEDGED TO
FACILITATE DISCUSSION BETWEEN NRG AND PETROBRAS ON THE
MODALITIES FOR PROCEEDING WITH THE PAYMENT. IN CLOSING,
MINISTER ROUSSEFF EXPRESSED APPRECIATION FOR ALL THE HELP
THAT DOE - AND IN PARTICULAR, SECRETARY ABRAHAM - HAS BEEN
ABLE TO PROVIDE IN TERMS OF SUPPORT ON ISSUES SUCH AS
ALTERNATIVE ENERGY SOURCES. END SUMMARY AND INTRODUCTION.

NRG ADVOCACY
------------

2. (SBU) IN A NOVEMBER 8 COURTESY CALL UPON MINISTER
ROUSSEFF AND HER CHIEF OF STATE (NELSON JOSE HUBNER
MOREIRA), AMBASSADOR, (ACCOMPANIED BY ECONCOUNS, DEPUTY
SENIOR COMMERCIAL OFFICER, AND SPECASST) URGED THE GOB TO
QUICKLY COME TO AN UNDERSTANDING WITH THE US FIRM NRG
ENERGY, INC. REGARDING THE TIMING/METHOD FOR PAYMENT OF AN
USD 83 MILLION ARBITRAL AWARD DUE THE COMPANY. ALTHOUGH
NRG PREVAILED AGAINST PETROBRAS IN ARBITRATION REGARDING
THE LATTER'S MOVE TO ASSUME OPERATIONAL CONTROL OVER THE
TERMO RIO PROJECT, TO DATE PETROBRAS HAS NOT COMPENSATED
NRG AS REQUIRED BY THE ARBITRAL AWARD.

3. (SBU) MINISTER ROUSSEFF EXPRESSED SURPRISE THAT THIS
ISSUE WAS OUTSTANDING, NOTING THAT THE PETROBRAS BOARD HAD
DECIDED TO MOVE FORWARD WITH THE PAYMENT OVER TWO MONTHS
AGO. SHE EXPLAINED THAT THERE WERE THREE POSSIBLE
MECHANISMS FOR EFFECTING PAYMENT: A) NRG COULD SET UP A
COMPANY IN BRAZIL AND RECEIVE IN REAIS, B) PETROBRAS COULD
REMIT DOLLARS TO NRG (WHICH WOULD REQUIRE CENTRAL BANK
APPROVAL), AND C) PETROBRAS COULD PAY NRG FROM ITS OVERSEAS
DOLLAR ACCOUNTS. MINISTER ROUSSEFF PLEDGED TO IMMEDIATELY
PHONE PETROBRAS FINANCIAL DIRECTOR GABRIEL TO REQUEST THAT
HE ENTER INTO CONTACT WITH NRG TO ASSURE THEM THAT PAYMENT
WOULD BE FORTHCOMING. NOTE: PER NOV. 10 DISCUSSIONS
BETWEEN FCS AND PETROBRAS, IT APPEARS THAT NRG AND
PETROBRAS WILL SOON RESUME DIRECT TALKS. PETROBRAS WAS
UPSET THAT THE USG DID NOT FEEL THAT IT WAS NOT
COMMUNICATING OPENLY WITH NRG OR THE USG. HOWEVER AFTER
MANY UNSUCCESSFUL ATTEMPTS TO SCHEDULE AN APPOINTMENT WITH
PRESIDENT DUTRA, PETROBRAS DID APPEAR TO BE AVOIDING THE
SUBJECT.

NEW ENERGY MODEL
----------------

4. (SBU) AMBASSADOR THEN QUERIED ROUSSEFF ABOUT HER PLANS
FOR RESTRUCTURING THE ENERGY SECTOR. ROUSSEFF NOTED THAT
UPON ENTERING THE MINISTRY IN 2003, SHE FOUND THAT THE
SECTOR WAS IN A PRECARIOUS STATE. ASSETS PRICES HAD
DROPPED WORLDWIDE, AND BRAZIL FACED A DOUBLE WHAMMY AS ITS
ECONOMY WAS IN CRISIS. HOWEVER, SINCE THEN, SHE SAID, THE
HEALTH OF THE COMPANIES (BOTH PUBLIC AND PRIVATE) IN THE
SECTOR HAS BEEN RESTORED, EVEN THOUGH THE GOB NEEDS TO DO
MORE IN TERMS OF STREAMLINING OF LICENSE/ENVIRONMENTAL
REQUIREMENTS, ESPECIALLY FOR HYDRO GENERATION PLANTS.

5. (SBU) THE AMBASSADOR POINTED OUT THAT US INVESTORS
(INCLUDING DUKE ENERGY) WERE UNHAPPY WITH THE MINISTER'S
PLAN TO SUB-DIVIDE THE ENERGY GENERATION MARKET INTO "OLD
ENERGY," I.E. ESTABLISHED PRIOR TO JANUARY 1, 2000, AND
"NEW ENERGY," POST JANUARY 1, 2000. OLD ENERGY WOULD BE
SUBJECT TO LONG-TERM CONTRACTS AND LESS PRICE VARIATION;
NEW ENERGY WOULD BE FREE TO FLUCTUATE WITH THE MARKET. AS
DUKE ENTERED THE MARKET PRE JANUARY 1, 2000, ITS PLANTS
WOULD BE CONSIDERED OLD ENERGY AND WOULD HAVE TO COMPETE
PRINCIPALLY WITH FULLY-DEPRECIATED STATE-OWNED PLANTS. THE
MINISTER REPLIED THAT SHE UNDERSTOOD DUKE'S COMPLAINTS, BUT
THAT WHAT THEY WANTED WAS SOMETHING SHE COULD NOT PROVIDE.
BECAUSE NEW INVESTORS FACED HIGHER RISKS - AS THEIR
FACILITIES WERE NOT IN PLACE - IT WAS ONLY LOGICAL TO
REWARD THEM WITH THE OPPORTUNITY TO EARN HIGHER RETURNS.

REGULATORY AGENCY SKEPTICAL OF NEW MODEL
----------------------------------------

6. (SBU) IN A SEPARATE MEETING WITH PAULO PEDROSA, ONE OF
THE DIRECTORS OF THE ENERGY REGULATOR (ANEEL) AND HIS
ADVISOR, RULEMAR PESSOA, ECONOFFS HEARD ANEEL'S CONCERNS
WITH THE MINISTRY'S HYBRID MODEL. PEDROSA, WHO WAS
APPOINTED BY PREVIOUS PRESIDENT CARDOSO, CHARACTERIZED THE
MINISTRY'S NEW HYBRID MODEL AS A PARADIGM SHIFT. HE STATED
THAT BRAZIL IS MOVING FROM FDI-CENTRIC MODEL, BASED ON A
FIXED LEGISLATIVE FRAMEWORK AND INDEPENDENT REGULATORY
REGIME, TO A MODEL THAT SEEKS TO LEVERAGE INFRASTRUCTURE
DEVELOPMENT WITH MONEY FROM THE NATIONAL DEVELOPMENT BANK
(BNDES) AND PENSION FUNDS. THE ERA OF FREE
COMMERCIALIZATION OF ENERGY WAS "ABORTED," PEDROSA SAID,
WITH THE HYBRID MODEL NOW GIVING THE STATE A LEADING ROLE.
FOR EXAMPLE, IN THE FUTURE THE STATE WILL DETERMINE HOW
MUCH NEW CAPACITY IS NEEDED, BASED ON FORECASTS FROM A
NEWLY-CREATED AND PURPORTEDLY- INDEPENDENT ENERGY RESEARCH
INSTITUTE (IPE). (NOTE: WITH THE ECONOMY EXPANDING
BRISKLY, SOME INDUSTRY FORECASTERS ARE ALREADY PREDICTING
ELECTRICITY SHORTAGES BY 2008 UNLESS SUBSTANTIAL INVESTMENT
IS MADE TO KEEP PACE WITH THE BURGEONING DEMAND. THE
MINISTER HERSELF HAS PUBLICLY STATED THAT THE COUNTRY NEEDS
INVESTMENT OF USD 2.9 BILLION IN GENERATING CAPACITY, USD 1
BILLION IN TRANSMISSION, AND USD 2 BILLION IN
DISTRIBUTION.)

7. (U) IN MOVING TO THE NEW MODEL, HOWEVER, THE MINISTRY OF
MINES AND ENERGY (MME) HAD TO ACCOUNT FOR EXISTING
GENERATORS AND INVESTMENT IN A MODEL DESIGNED WITH NEW
POWER IN MIND. THIS WAS THE ORIGIN OF THE MME'S AWKWARD
DUAL POOL MODEL: THE FIRST A POOL OF "OLD ENERGY," PRODUCED
BY PLANTS THAT CAME ON LINE BEFORE THE CUTOFF DATE, AND A
SECOND OF "NEW ENERGY," PRODUCED BY NEW PLANTS THAT CAME ON
LINE AFTER THE CUTOFF (REFTELS). THIS DIVIDES INTO TWO
SEPARATE COMPETITION GROUPS POWER GENERATORS THAT HAD NOT
YET AMORTIZED THEIR INVESTMENTS (NEW ENERGY) AND THOSE THAT
HAVE (OLD ENERGY). THE GOB IS FORGING AHEAD WITH PLANS TO
IMPLEMENT THE MODEL, BEGINNING WITH AN EARLY DECEMBER
"MEGA-AUCTION" FOR 55 MW OF OLD ENERGY, TO BE SOLD TO MEET
EXISTING, PRIMARILY RESIDENTIAL AND SMALL BUSINESS, POWER
DEMAND.

8. (U) PEDROSA EXPLAINED TO ECONOFFS THAT POWER SOLD INTO
THE OLD ENERGY POOL WILL BE BOUGHT BY DISTRIBUTORS AND
RESOLD TO "CAPTIVE" CONSUMERS, PRIMARILY RESIDENTIAL
CUSTOMERS AND SMALL BUSINESSES. GENERATORS THAT DO NOT
SELL INTO THE POOL MAY COMPETE FOR LARGE COMMERCIAL OR
INDUSTRIAL CUSTOMERS, KNOWN AS "FREE" CUSTOMERS, WHO RETAIN
THE RIGHT TO CONTRACT DIRECTLY FOR POWER SUPPLIERS. THE
POOL IS OBLIGATED TO PURCHASE MORE EXPENSIVE POWER (3000 MW
WORTH) FROM SMALL HYDROELECTRIC PLANTS, WIND PLANTS AND
SOME THERMAL POWER GENERATION PLANTS. ISOLATED POWER GRIDS
IN THE AMAZON, PRIMARILY RELIANT ON DIESEL FUEL-BASED
GENERATION, RECEIVE A SUBSIDY.

9. (U) IN EARLY 2005, ACCORDING TO PEDROSA, THE GOB PLANS
TO AUCTION OFF AUTHORIZATIONS TO BUILD NEW POWER PLANTS.
THE AMOUNT TO BE AUCTIONED WILL BE BASED ON DEMAND
PROJECTIONS DRAFTED BY THE IPE. THESE NEW PLANTS WOULD BE
REQUIRED TO SELL INTO A "NEW ENERGY" POWER POOL, WHICH
WOULD BE USED MEET THE IPE-FORECASTED EXPANSION OF DEMAND.
THE AUTHORIZATIONS TO BUILD NEW PLANTS WILL BE AWARDED TO
THOSE WHO OFFER THE LOWEST FINAL ENERGY PRICE. OLD ENERGY,
GIVEN ITS ALREADY-AMORTIZED INVESTMENT, WOULD BE ABLE TO
UNDERCUT THE PRICES CHARGED BY NEW PLANTS AND WOULD
THEREFORE NOT BE GIVEN ACCESS TO THE NEW ENERGY MARKET.

10. (SBU) PEDROSA BELIEVES THAT THE RESULTS OF THE DECEMBER
AUCTION WILL BE INDICATIVE OF HOW THE POWER SECTOR VIEWS
THE NEW MODEL. FOR EXAMPLE, IF FEW LONG-TERM CONTRACTS FOR
SALES TO THE POOL ARE OFFERED, IT WOULD INDICATE POWER
GENERATORS ARE BETTING ON RISING POWER PRICES AND UNWILLING
TO TIE UP THEIR CAPACITY FOR LONG WITH SALES TO THE POOL.
THIS WOULD BE AN IMPLICIT CALCULATION THERE WOULD NOT BE
SUFFICIENT CAPACITY IN THE FUTURE, AND TO SOME DEGREE AN
INDICTMENT OF THE MODEL ITSELF. LIKEWISE, OLD ENERGY
PRODUCERS COULD DELIBERATELY BID HIGH SO AS TO LOSE OUT ON
SALES TO THE POOL BUT THEREBY RESERVE THEIR CAPACITY TO
COMPETE FOR THE LARGER INDUSTRIAL AND COMMERCIAL CUSTOMERS
("FREE CUSTOMERS") THAT ARE ALLOWED TO CONTRACT DIRECTLY
FOR THEIR POWER SUPPLIES.

COMMENT
-------

11. (SBU) WITH RESPECT TO THE NEW ENERGY MODEL, ROUSSEFF
AND THE MINISTRY REPEATEDLY HAVE RESPONDED TO CRITICISM
FROM BOTH INDUSTRY AND ANEEL WITH THE SAME STOCK ANSWERS
THAT SHE GAVE THE AMBASSADOR. ROUSSEFF BELIEVES STRONGLY
THAT THE STATE MUST PLAY A FAIRLY CENTRAL ROLE IN
ORGANIZING MARKETS. THE MARKET, HOWEVER, WILL SOON HAVE
ITS OWN SAY; THE DECEMBER OLD ENERGY AUCTION WILL, AS
PEDROSA POINTED OUT, SPEAK VOLUMES ABOUT INDUSTRY
EXPECTATIONS. EXISTING GENERATORS, HOWEVER, ARE STUCK, AND
MUST TO SOME DEGREE MAKE PEACE WITH THE NEW MODEL. THE
EARLY-2005 NEW ENERGY AUCTION WILL PROVIDE A MORE
DEFINITIVE ANSWER, BECAUSE NEW-TO-MARKET INVESTORS WILL BE
FREE TO AVOID IT ALTOGETHER.

CHICOLA

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