By
Jonathan Lemco
From an investor’s point of view, Mexico has made tremendous economic
and political strides in recent years. Economic growth has surged, in part
because Mexico has benefited from its membership in the North American Free
Trade Agreement. Mexico’s crippling debt load of the 1980s and early
1990s has been reduced substantially. Employment is at an all time high with
unemployment at only a 3.1% level in September. Inflation has been contained
at approximately 4.9% year-on-year. Education levels are slowly improving.
And President Fox was elected in the freest vote in Mexico’s modern
history.
As a consequence of this improvement, Mexico’s interest rate spreads
have narrowed throughout 2002, unlike several other Latin American sovereign
credits. Furthermore, the credit rating agencies rate Mexico at investment
grade levels (Baa2 with “Moody’s” and “BBB-“ with
Standard & Poor’s). As of December 2002, only Chile is higher rated
in the entire Latin American region. As its credit fundamentals have improved,
Mexico has become an investor darling, and has issued well-received debt
throughout this past years. We expect the sovereign, Pemex, Telmex, Cemex
and other Mexican issuers to return to the marketplace in 2003.
There are problems along the way of course. Mexico’s economic future,
more than ever before in its history, is intimately tied to the United States.
As the US economy slows at year-end, so has Mexico’s such that earlier
growth economists’ forecasts for the year have been recently reduced
from 1.7% GDP growth to 1.2% GDP growth. This deceleration, not surprisingly,
is directly related to a decline in export-oriented industrial production.
Ironically, one of the consequences of the improvement in recent years is
that Mexico is now having trouble competing with certain lower wage sites.
Most notably, there have been several media stories recently noting how Mexican
industry and jobs in selected low-tech industries are leaving for lower wage
China. We think that this is a natural development in a rapidly modernizing
economy however. Mexican industry will have to adapt to worker demands for
higher wages and improved benefits, but there will be an economic cost to
this as well as lower wage countries compete effectively.
It is also worth noting that the structural reform agenda of the Fox Administration
is hindered by a tense relationship between the executive branch and the
PRI, the main opposition party. Structural reforms in the areas of electricity,
labor and education are needed to improve competitiveness and to promote
economic growth.
In the next month, investors should pay attention to the political wrangling
associated with the next federal Budget. We think that the Budget, when it
is finally passed by year-end, will include fiscally prudent provisions.
Although President Fox’s administration is assuming a 3.0 % growth
rate in Mexico in 2003, it is also proposing a modest 1.9 % real increase
in expenditures. Overall revenues are expected to outpace expenditures slightly.
Also, projected oil revenues, which are critical to the Mexican economy,
are based on a $17.00 per barrel price for the Mexican oil basket. This is
almost $5 below the estimated average for 2002. Currently, the Mexican oil
mix is hovering near the $20 level. Unless prices collapse, which is unlikely
given the uncertainty surrounding a potential war in Iraq, it is difficult
to imagine hat the average oil price in 2003 will be substantially below
the budget assumption.
Further, we think that the 2003 Budget will include a provision whereby the
deficit target will be increased to 0.65% from 0.5%. This slight increase
should not be alarming to investors. Away from the budget, investors will
also be focused on electricity reform negotiations. If these discussions
go well in the next few months, this will send a very positive sign to the
financial community.
In short, we expect that Mexico will continue to grow at a steady pace while
maintaining fiscally prudent policies. President Fox will have to expend
political capital to pass much needed structural reforms, but we think that
he will be able to do so. The 2003 Budget assumptions are conservative and
achievable. At a time of economic and political uncertainty in much of Latin
America, Mexico stands out as a positive model.