MexECON Blog

Quarterly Economic Overview - 2012 Q4

In the third quarter of 2012, Mexico's gross domestic product (GDP) was up 3.3% from the same period one year earlier, after revised increases of 4.4% in the second quarter and 4.9% in the first quarter.  Mexican economic growth is still stronger than its average of 2.6% from 1991 to 2011, but the momentum is weakening in response to a range of international and domestic pressures. 

Domestic demand is now the economy's main driver.  After eleven straight quarters of above-average economic growth, unemployment is falling gradually.  Joblessness averaged 4.8% in the third quarter, compared with 5.0% in the second, and consumer confidence continues to improve.  Private consumption spending has been the main source of Mexico's year-over-year economic growth for the last five quarters, but fixed investment has been the second-most important source.  Exports were the initial impetus to the current expansion when it began back in 2009, but they are now growing much more moderately.  With strong domestic demand, imports have outstripped exports in several recent quarters, detracting from overall growth.

Mexican stability indicators remain healthy.  The September consumer price index (CPI) was up 4.8% from one year earlier, marking the highest inflation since mid-2009, but the surge came mostly from food supply shocks such as drought and an outbreak of avian influenza.  Those shocks now appear to be dissipating, and the November CPI was up just 4.2% year-over-year.   Convinced that the food supply shocks would prove temporary and that inflation would retreat, Banco de México has kept its benchmark interest rate at a historically low 4.50% for more than three years.  In fiscal policy, the government continues to show discipline.  Official data show 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 three quarters suggests the deficit will decline further 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) was slightly negative in the four quarters ended September 2012, compared with a positive inflow of $9.5 billion in the previous four quarters.  However, portfolio investment (net foreign purchases of Mexican stocks and bonds) jumped to a record $63.3 billion, versus $35.8 billion in the previous period.  With investment inflows so strong, Mexico has easily financed its current account deficit.  Its foreign reserves reached a record high of $167.4 billion in October 2012.  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.  Data from the U.S. Federal Reserve show the peso's spot-market value has fluctuated around $0.0750 (13.33 per dollar) throughout 2012.

Looking forward, Mexico's near-term economic prospects have become mixed.  On the positive side, the country is much more internationally competitive than it was just five or ten years ago.  Surging Chinese wage rates, an appreciating Chinese currency, and rising transportation costs have convinced many international manufacturers to shift production for the U.S. market away from Asia and into Mexico.  This wave of "near-sourcing" has boosted investment in Mexico, providing it with new, cutting edge technology and business processes.  Recent data suggests the country's indigenous supplier base has become broader, deeper, more sophisticated, and more innovative.  As long as economic growth continues in the United States, the country's key market, these new advantages should allow Mexican exports to keep climbing.  On the other hand, Mexico's current economic expansion is now three years old, and as it matures, growth should naturally moderate.  More worrisome, Mexican growth could go into reverse if U.S. politicians fail to avert the "fiscal cliff" of sharp tax hikes and spending cuts currently programmed for year's end, or if the European debt crisis worsens again.  Finally, Mexican domestic demand could falter if high inflation undermines consumer purchasing power or drug violence intensifies.  These threats can be seen in the latest data, which show that Mexican industrial production has begun to fall, and investment appears to be flattening out.  The International Monetary Fund currently forecasts Mexican GDP growth will slow from 3.8% in 2012 to 3.5% in 2013.

In the longer term, Mexico also faces challenges.  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.  The government took a step in the right direction during the autumn, when it enacted a labor reform that should make it easier for firms to hire and fire.  Mexico's new president, Enrique Peña Nieto, has vowed to tackle several remaining problems.  He has even promised the controversial step of opening the energy sector to private investors.  However, 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

GDP 2012 Q3 - Quarterly Report

The author is currently invested in the iShares MSCI Mexico Investable ETF (symbol EWW).

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