Effects of the US Crisis in Mexico
By Pedro Aspe, Sergio Sánchez and Fernando Aportela
October 14th, 2011
Contents
US Current Conditions: “The View from the Tropics”
The Transmission Mechanism
1.
Mexico’s economic cycle and its link to the US manufacturing cycle
2.
Exports and Imports: Mexico is a very open economy
3.
Labor Figures
4.
Foreign Direct Investment
5.
Tourism Trends
III. Mexican Policy Responses
1.
Fiscal policy
2.
Monetary policy
3.
The Taylor Rule
4.
Mexico’s currency depreciation vs. Latin America
IV. Opportunities
1.
China’s Competitiveness Trend and its Consequences
2.
The Demographic Bonus in Mexico
i.
Migration into US is and will be “cap” by demographic factors
ii.
Development of a significant domestic market
V.
Final Remarks
Appendix
I.
II.
2
I. US Current Conditions: “ The View from the
Tropics”
3
Employment in the Recovery: a major problem

Continuing weakness of the labor market:
– Unemployment rate at 9.1%.
– 8.75 million jobs lost in the recession, only 1.89 million recovered.
– 6.0 million unemployed for 27 weeks and over
Nonfarm jobs (monthly, percentage change since the end of recession)
Source: (percentage change since the end of recession) Bloomberg, Wall Street Journal, IMF.
4
Housing Sector and Bank Lending in the Recovery: two additional problems

Housing prices are still declining and bank lending’s growth rate is negative.
Home prices (quarterly)
Bank lending (monthly)
Source: (percentage change since the end of recession) Bloomberg, Wall Street Journal, IMF.
5
Exports and Corporate Profits: two good news from the Recovery

Corporate profits and exports are performing at least as well, as they did in several
other recoveries.
Exports, goods & services (quarterly)
Corporate profits (quarterly)
Source: (percentage change since the end of recession) Bloomberg, Wall Street Journal, IMF.
6
II. The Transmission Mechanism
7
Mexico’s economic cycle and its link to the US manufacturing cycle

Mexican manufacturing follows closely this US
sector. Nevertheless, since 2009 Mexican
dynamism has been stronger.

Production is at pre-crisis level in Mexico and
below in the US.

Employment in Mexico has recovered from precrisis levels.

Mexican exports have shown significant
increases.
Employment (Mexico)
Manufacturing production index (2007=100)
Source: INEGI, Federal Reserve, Bureau of Labor Statistics.
Mexican Exports (2007=100)
8
Exports and Imports: Mexico is a very open economy

Mexico is the second manufacturing exporter to the
US, only after China.

80% of Mexican Exports are traded with the US.

Mexico has 21 preferential trade agreements and,
except for Chile, is the most open economy in Latin
America.

Mexico’s total exports account for 30% of GNP,
while exports just to the US account for about 24%
of GNP.
Percentage of US exports (year to date, July 2011)
Percentage of US imports (year to date, July 2011)
Mexico’s exports as % of the GNP
Note: Trade data includes manufacturing exports.
Source: INEGI, Chile’s Central Bank, World Trade Organization
9
Labor Figures

Employment in Mexico has recovered since the 2008 crisis. Nevertheless,
that is not the case in the US:
 Unemployment rate (August 2011): 5.8% in Mexico vs. 9.1% in the US.
 New jobs (Jan-Sept 2011): 600,000 (1.2% of labor force) in Mexico vs.
1.07 million (0.7% of labor force) in the US.
Employment (2007=100)
Manufacturing employment (2007=100)
Notes: Using Social Security Affiliates in Mexico and Non farm payroll in the US.
Source: INEGI,. Bureau of Labor Statistics.
10
Foreign Direct Investment

Foreign Direct Investment (FDI) received by Mexico increased 26% in
2010 with respect to 2009 (the worst year).

Not surprisingly, investments in manufacturing represents 57.7% of total
FDI.
Foreign Direct Invesment (million USD)
Source: INEGI
11
Tourism Trends


Tourism into Mexico showed a rebound in 2010. During that year, revenues
from tourism were 9.2 billion.
Mexico had 12.6 million tourists in the same period.
Tourism revenues (billion USD)
Source: Mexico’s Central Bank, INEGI
Number of tourists (million people)
12
III. Mexican
Policy Responses
13
Fiscal Policy

Fiscal deficit in 2011 is expected to be 2.2% of GDP, including Pemex’s
investment (at 84.9 dollars per barrel), and 0.2% of the GDP without it. But in
2008 and 2009 Mexico had a Balanced Budget.

Government debt remains at 30% of GDP
 81.3% is internal debt and only 18.7% is external.

Total sub-sovereign debt in Mexico was 2.4% of GDP in 2010.
Total Public Sector Budget Balance % of GDP
Source: OECD, International Monetary Fund.
Total Central Government Debt % of GDP
14
Fiscal Policy: Balanced budget policy under historically high oil prices

Since 2009, Government budget has been approved with a deficit reaching its
peak in 2011 (2.7% of GDP, according to the Ministry of Finance forecast).

When revenues have surpassed the budgeted figures, extraordinary expenditures
have been applied.

Extraordinary oil revenues have represented between one and two thirds of
overall extraordinary revenues. As it is well known, this does not represent a
good indicator of sound public finances.
Government Budget (MXP billion)
4,000
Revenues
Deficit (% GDP)
Expenditures
3,500
3,000
2,500
2,000
1,500
1,000
500
0
2008
2009
Source: Mexican Ministry of Finance.
2010
Extraordinary entries (MXP billion)
3.0%
400
2.5%
300
2.0%
200
1.5%
100
1.0%
0
0.5%
-100
0.0%
-200
2011E
Extraordinary revenues
Extraordinary expenditures
Extraordinary oil revenues
2008
15
2009
2010
2011E
Fiscal Policy: Balanced budget policy under historically high oil prices

In 2007, the Government enacted a new budget law that allowed oil
surpluses to be used for fiscal stabilization purposes.

Nevertheless, even if during 2010 extraordinary revenues summed up to
MXP 163 billion, the balance of stabilization funds was reduced.

Under historically high oil prices, balanced budget policy seems fairly
reachable, but is a biased indicator of fiscal contention.
Mexican Mix oil prices (USDB)
100
90
80
70
60
50
40
30
20
10
0
Price used for budget purposes
Average observed price
2008
Source: Mexican Ministry of Finance.
2009
2010
16
2011E
Monetary Policy

Mexico has shown a consistent monetary policy. Its Central Bank became
independent in 1994. The Central Bank Law laid a legal foundation with the
following principal strengths: the governor was to be appointed for a fixed
term, it established staggered terms of office for other board members, and
it took measures to ensure that the Bank’s financial base could not be
undermined.

Mexico’s monetary policy regime has undergone significant evolution in the
last two decades, with the adoption of the inflation targeting (IT) scheme in
the early 2000s, representing a key milestone.

It is under the IT regime, along with the support of prudent fiscal policies,
that Mexico’s Central Bank has succeeded in controlling inflation in the last
decade.
1Tang,
M. and Yu, X., Communication of Central Bank Thinking and Inflation Dynamics, IMF working paper series, August 2011
17
The Taylor Rule

In the period from January 1999 to January 20081, among the seven largest
Latin American economies (Brazil, Argentina, Mexico, Chile, Colombia,
Venezuela and Peru), only Mexico followed the Taylor principle, although not
continuously.

Exchange rate major adjustments seem to be a relevant variable for interest rate
decisions
Mexico’s actual and Taylor-implied policy rate
Note: *Using actual inflation; **using expected inflation.
1De
Carvalho, A. and Moura, M., “What Can Taylor Rule Say About Monetary Policy in Latin America?”, 2010
18
Mexico's currency depreciation vs. Latin America

Currently, Mexico is the only country in Latin America with sustained currency
depreciation since the 2008 crisis (post-Lehman), relative to the US dollar.

Mexico has achieved a higher degree of competitiveness from the weaker peso,
higher global transport costs, and lower unit labor cost differential between
Mexico and other Asian countries.
Exchange Rate (Sept/15/08=1)
Source: Bloomberg.
Inflation (annual change, %)
19
IV.
Opportunities
20
China Competitiveness Trend and its Consequences


Exports to the US (annual growth %)
Manufacturers are moving away from
outsourcing and are starting to embrace near
sourcing.
China is loosing competitiveness
– Wage and benefit rises of 15% to 20%
annually in USD in the last decade.
43
China
38
Mexico
33
28
23
18
– Transportation costs and the continued
appreciation of the yuan.
13
9.6%
Transportation costs (USD)
Jul-11
Jun-11
May-11
Apr-11
Mar-11
Feb-11
Jan-11
Dec-10
Nov-10
Oct-10
Sep-10
Aug-10
Jul-10
3
Jun-10
8
Unit labor costs (USD / Hours)
2.5
Monterrey to Chicago
4-5 days ground
(53-ft truck container)
17%
Shanghai to Chicago
22 days marine and ground
(40-ft shipping container)
2
1.5
238%
1
China
Mexico
0.5
2002
2003
2004
2005
Source: Bloomberg, Boston Consulting Group , JP Morgan, ILO, Mexican Ministry of Finance.
21
2006
2007
2008
2009
2010
2011
2012
Fertility rate in Mexico and the demographic dividend
Population data
Average number of children, women 15-49 years

Mexican fertility rate is
advanced economies level.
approaching

Favorable dependency ratio: more people
at working-age (15-64 years) than
dependents.

Accumulation of savings and wealth
development of a larger domestic market.
Total fertility rate
Dependency ratio (% of working-age population)
2.30
2.20
2.10
2.00
1.90
1.80
1.70
1.60
2005
2010
2015
2020
2025
2030
Source: INEGI, CONAPO, World Bank.
2035
2040
2045
2050
22
Demographic transition
Population data

Mexico will not have more than 138
million people.

Life expectancy has increased 4 years in
two decades.

Infant mortality has gone down
significantly.
Total Population Growth (thousands)
Life expectancy (years)
Source: INEGI, CONAPO.
Infant mortality rate (per thousand)
23
Migration and Remittances

Mexico received a total of USD 21.27bn in remittances in 2010, an increase of
0.12% over the year before.

This source still represents the second largest source of foreign currency

Migration to the US will decline steadily overtime.

Less than 100,000 illegal border-crossers and visa-violators from Mexico settled
in the US in 2010, down from about 525,000 annually from 2000 to 2004.
International migration (thousands)*
Remittances (billion USD)
600
550
500
450
400
350
300
2005
Source: INEGI
24
2010
2015
2020
2025
2030
2035
2040
2045
2050
V.
Final Remarks
25
Final Remarks
1.
The ongoing Banking and Real Estate crisis in the US had made the
recovery very anemic. Banks in the US have been capitalized but their
negative impact on the economy will last some years. The household debt
problem in the US has not been solved and its impact will affect the
economy in the years to come.
2.
The Mexican recovery has been led by investment and exports, backed by
an expansionary fiscal deficit around 2% of GNP and a monetary policy
which has followed the Taylor rule. With a low debt/GNP ratio and a
small fiscal deficit Mexico’s macro picture is in good shape.
3.
However, in order to sustain and enhance this recovery, Mexico will have
to maintain its international competitiveness making additional reforms to
enhance productivity growth in areas like Energy, Fiscal, Basic Education,
Science and Technology and Labor.
4.
Given the recent events in Japan, Europe and the US, Mexico has to
move fast on its Reforms to be prepared for a prolonged period of Global
Stagnation.
26
Appendix
27
Historic Oil Production
Oil Production (daily thousand barrels)
Source: PEMEX.
28
Insecurity
Murders per 100,000 inhabitants, 2010 *
*Source:
Instituto Ciudadano de Estudios sobre la Inseguridad A.C., United
Nations Office on Drugs and Crime Homicide Statistics.
29
Europe banks CDS
Credit Default Swaps 5 years
Source: Bloomberg.
30
Sovereign Debt CDS
Credit Default Swaps 5 years
Source: Bloomberg.
31
Risk for French Banks has risen

There are three main factors that are contributing to the vulnerability of
French banks: large balance sheets with high leverage, significant liquidity
needs and reduced capital rebuild prospects due to the economic slowdown.
Financial leverage (%)
Note: Financial Leverage = Average Total Assets / Average Total Common Equity (first semester of 2011)
Source: Bloomberg.
32