MexECON Blog

Quarterly Economic Overview - 2013 Q3

In the second quarter of 2013, Mexico's inflation-adjusted gross domestic product (GDP) was up 1.5% from the same period one year earlier.  That was modestly better than the revised increase of 0.6% in the first quarter, but it was far weaker than Mexico's average annual growth rate of 2.6% from 1992 to 2012.  In fact, GDP in the second quarter fell 0.7% from the first quarter, and recent indicators show the economy is in danger of slipping into recession.

One big problem for Mexico right now is that economic growth is relatively muted in the United States, the country's key export market.  U.S. demand for Mexican goods and services did rise smartly in the first years after the global financial crisis of 2008 and 2009, in part because of pent-up demand and normal post-recession inventory rebuilding, but also because of Mexico's increased competitiveness versus Asia.  Unfortunately, those positives have now given way to the challenges of a U.S. economy still trying to recover from its massive debt implosion.  Many U.S. consumers remain focused on cutting or controlling debt, U.S. businesses remain cautious about investing and hiring, and U.S. governments at all levels are struggling to get control of their budgets.  Measured in dollars, Mexican export growth has slowed from an average annual rate of 17.3% from 2009 to 2012 to just 1.8% in the first eight months of 2013.  Measured in pesos, exports in January through August were down 2.9%.  What most observers do not realize, however, is that Mexico is also facing strong domestic headwinds.  Mexican government spending has fallen sharply ever since the inauguration of the country's new president last December.  In the first six months of 2013, official data show public sector spending on capital projects was down 4.2% year-over-year, while subsidy and transfer payments were down 4.9%.  At the same time, a change in housing policy has cut residential building.  Overall construction has fallen for eight straight months, and in July, it was down 6.3% year-over-year.  The inevitable result is that consumer spending has weakened.  The problems in exports and construction have held down hiring, but many consumers have also been hurt by a surge in inflation earlier in the year and reduced remittances from family members working north of the border.

For now, Mexican stability indicators remain relatively healthy.  Perhaps most encouraging, inflation has retreated over the last several months.  A series of food supply shocks had pushed inflation up to 4.6% during the spring, but the August consumer price index was up just 3.5% year-over-year.  Inflation now looks like it is trending back toward Banco de México's medium-term target of 3.0%.  The downtrend in inflation was one key reason why monetary policymakers were able to cut their benchmark interest rate to 3.75% in early September to address the slowdown in growth.   Government fiscal policy not only remains disciplined, but as discussed above, it has tightened dramatically.  Official data show Mexico's public sector deficit came to 2.6% of GDP in 2012, but the deficit in the first half of 2013 was only about half as big as it was in the same period one year earlier.  Even if Mexico's deficit were to remain at 2.6% in 2013, it would still be much lower than the shortfall in most other major developed countries.  For example, the Organization for Economic Cooperation and Development (OECD) recently estimated the U.S. deficit was 8.5% of GDP in 2012.  Mexico's public sector net debt stood at 26.5% of GDP at the end of 2012, while the OECD says U.S. net debt stood at 86.5% of GDP.

Foreign portfolio investment (net foreign purchases of Mexican stocks and bonds) totaled $66.3 billion in the four quarters ended June 2013, compared with $47.6 billion in the previous four quarters.  Foreign direct investment (net foreign purchases of land, factories, office buildings, and other hard assets) jumped to $16.0 billion from just $2.1 billion in the previous year.  In contrast, international bank lending and other financial flows showed a net outflow of $2.1 billion, and other miscellaneous flows showed an outflow of $16.1 billion.  The total net financial inflow in the four quarters through June came to $64.0 billion, after an inflow of $30.3 billion in the previous year.  With the reacceleration in net inflows, the current account deficit continues to be financed easily, and the country's foreign reserves rose to a new record of $170.7 billion at the end of August.  By late summer, however, international investors had become unsettled by signs of future monetary policy tightening by the U.S. Federal Reserve.  They began to sell off not only Mexican stocks and bonds, but also the peso.  The currency fell sharply, closing August at a spot-market value of $0.07745 (12.91 pesos per dollar).

The modest rebound in the Mexican economy during the spring has now reversed, and the most recent data suggest the economy could well decline again in the third quarter, meeting the customary definition of a recession.  Exports rose modestly for a second straight month in July, helping to narrow the trade deficit, but industrial production still declined slightly.  Even if exports continue to rise, it may take some time for industrial activity to strengthen again.  In mid-September, the government announced it would accelerate outlays totaling some 27 billion pesos (approximately $2.1 billion), but many analysts doubt that would be enough to stimulate sustained growth.  It therefore looks like the Mexican economy could be in for several quarters of difficulty before it starts to grow again.  The International Monetary Fund currently forecasts Mexican GDP growth will slow from 3.9% in full-year 2012 to just 3.4% in both 2013 and 2014 and 3.3% in 2015.

In spite of the short-term risks, Mexico's longer-term outlook remains bright.  Mexican competitiveness has improved remarkably since the middle of the last decade, in large part because of surging wages in China, an appreciation of the Chinese currency, and higher international transportation costs.  Now, Mexico's new president, Enrique Peña Nieto, is pushing an ambitious reform agenda geared at making the country itself more dynamic and efficient.  Critically, President Peña Nieto first crafted a consensus for reform among all three of the country's major political parties.  This "Pact for Mexico" aims to tackle problems ranging from declining oil production to extensive monopolization in key sectors of the economy.  In early June, President Peña Nieto signed into law a major reform that will bring heightened competition to the telecommunications sector, and in August, he formally proposed reforms to open up the energy sector to private investment.   In September, he unveiled a proposed tax reform that would broaden the tax base modestly and use the additional funds to extend Mexico's safety net programs.  These initiatives have generally been well received, and if enacted and implemented, they are expected to help boost Mexico's growth rate and ensure continued economic stability.  However, they are not perfect.  For example, the proposed energy reform is somewhat weaker than many had hoped for.  The proposed tax reform also failed to extend the country's value-added tax to food and medicine.  That will limit the amount of revenue it can raise and make it harder for Mexico to increase public investment.

Patrick Fearon, CFA
Vice President, Fund Management

GDP 2013 Q3 Quarterly Report

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