In the second quarter of 2012, Mexico's gross domestic product
(GDP) was up 4.1% from the same period one year earlier, after a
revised increase of 4.5% in the year ended in the first
quarter. For comparison, Mexico's average annual growth rate
in the twenty years from 1991 to 2011 was just 2.6%.
The modest slowdown in Mexican growth during the second quarter
appears to have come from the latest flare up of the European debt
crisis, as well as slowing growth in the U.S. economy during the
spring. Nevertheless, Mexican exports continued to grow at a
good pace, and domestic demand continued to expand.
Unemployment fell to 4.8% in July, compared with a cycle peak of
6.0% in September 2009.
Mexican stability indicators remain generally healthy. In
August, the consumer price index was up 4.6% year-over-year, but
much of the recent acceleration in inflation has been driven by
food supply shocks that may prove temporary. With inflation
apparently still under wraps, Banco de México has been able to keep
its benchmark interest rate at a historically low 4.50%. On
fiscal policy, the government continues to show discipline.
Official data indicate Mexico's public sector deficit fell to 2.4%
of GDP in 2011, after deficits of 2.7% in 2010 and 2.3% in
2009. Data for the first half suggests a similar deficit in
2012. For comparison, the Organization for Economic
Cooperation and Development (OECD) recently estimated the U.S.
deficit was 9.7% of GDP in 2011. Mexico's public sector net
debt stood at 26.5% of GDP at the end of 2011, while the OECD says
U.S. net debt stood at 80.1% of GDP.
Central bank data show foreign direct investment into Mexico
(net foreign purchases of land, factories, offices, and other hard
assets) fell to $1.4 billion in the four quarters ended June 2012,
compared with a revised $8.7 billion in the previous four
quarters. However, portfolio investment (net foreign
purchases of Mexican stocks and bonds) jumped to $53.7 billion,
versus $37.5 billion in the previous period. With investment
inflows so strong, Mexico has easily financed its current account
deficit, and its foreign reserves have reached record highs.
Strong investment inflows have also helped put a floor under the
peso, in spite of a global flight from risk assets stemming from
the European debt crisis. Based on data from the U.S. Federal
Reserve, the peso's spot-market value fell to $0.07184 (13.92 per
dollar) in June 2012, but it rebounded to $0.07588 (13.18 per
dollar) by the end of August.
Mexico's current economic performance is historically strong,
but risks are building. Producing in Mexico is now reportedly
cheaper than producing in China, in large part because of surging
Chinese wage rates, the appreciating Chinese currency, and high
energy costs that have made transportation expensive.
However, Mexico's newly found competitiveness will be little
consolation if the European debt crisis spawns global contagion or
the U.S. economy loses steam and enters a new recession. The
European debacle is already weighing on global demand and
undercutting confidence among global investors, and that is a key
reason why some Mexican economic indicators are starting to point
to a cool down. The International Monetary Fund currently
forecasts Mexican GDP growth will slow to 3.6% in 2012 and 3.7% in
If the United States or other key developed economies slip back
into recession, Mexico's near-term prospects would darken
considerably. Such a scenario would be especially likely if
the European debt crisis continues to worsen. And of course,
drug violence in Mexico could become so bad that it weighs more
noticeably on economic activity. As bad as those risks are,
Mexico faces bigger, more intractable problems in the longer
term. If its oil production continues to decline and it is
unable to broaden its limited tax base, for example, the country
could eventually face severe fiscal challenges. Most
important, Mexico's current strong growth is unlikely to be
sustained unless it implements key reforms, such as breaking up
monopolies, deregulating the labor market, opening more industrial
sectors to private investment, and otherwise increasing competition
and investment. Mexico's newly elected president, Enrique
Peña Nieto, has vowed to tackle several of these problems when he
takes office in December. However, it is important to
remember that Peña Nieto's party does not have a majority in
Congress. Moreover, the party has traditionally opposed the
kinds of reforms that Peña Nieto is now advocating, so it is not
clear that the party will follow the president's lead.
Patrick Fearon, CFA
Vice President, Fund Management