Gabriel Lozano | The Mexican Economy | Global Cities Initiative

November, 2013

G L O B A L   C I T I E S   I N I T I A T I V E :   T H E   M E X I C A N   E C O N O M Y

Gabriel Lozano, Ph.D. Chief Mexico Economist(52-55) 5540-9558 [email protected]

J.P. Morgan Casa de Bolsa, S.A. de C.V., J.P. Morgan Grupo Financiero

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Introduction: The Mexican Economy

Past, present and future of the Mexican Economy

1

Economic and social trends 3

Where are we now? 9

Where are we going? 16

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Past, present and future of the Mexican economy

Where do we come from?

Mexico has experienced a significant transformation since the mid 1990s, when it suffered the Tequila Crisis on the back of an ill-conceived financial liberalization.

By the same token, Mexico entered the NAFTA in 1994, one of the biggest structural changes in the past twenty years.

Since then, Mexico has advanced gradually in the process of institutional changes, transparency and accountability.

Where are we now?

Mexico is a medium-sized free-market economy, committed to rely in the market forces to gain credibility and to provide certainty to investors.

While still in the early phase of a democratic process, there seems to be enough political willingness to push the multi-partisan agreement known as “Pact for Mexico”.

Where are we going?

Mexico is facing many challenges, but the sound macroeconomic framework, and the democratic process that started in the late 1990s should pave the way for the achievement of structural reforms.

If Mexico continues with the implementation of the structural reforms, potential output could jump towards 4.5% in the medium term.

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Agenda

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Economic and social trends 3

Introduction: The Mexican Economy 1

Where are we now? 9

Where are we going? 16

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Source: J.P.Morgan with data from INEGI

GDP breakdown – demand side GDP breakdown – demand side GDP breakdown – supply side GDP breakdown – supply side

The Mexican Economy: A quick look into a US$ 1 trillion economy

Private consump-

tion64%

Public consump-

tion11%

GFI-public6%

GFI-private14%

Inventories3% Net exports

1%

Taxes 3%

Agriculture4%

IP ex-manufac-turing17%

Non-transport manufacturing

14%

Transport equipment

3%

Services58%

Financial services2%

Source: J.P.Morgan with data from INEGI

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Economic activity in the last twenty yearsEconomic activity in the last twenty years Mexico has been stuck in low gear in the last two cyclesMexico has been stuck in low gear in the last two cycles

Economic activity in perspective

Source: INEGI and J.P. Morgan.Source: INEGI.

1994 1997 2000 2003 2006 2009 2012-25

-15

-5

5

15

25

% 3m/3msaar

t t t t t+1 t+1 t+1 t+1 t+2 t+2 t+2 t+2 t+3 t+3 t+3 t+3 t+4 t+4 t+4 t+490

95

100

105

110

115

120

125

130

1995-99 2003-07 2009-13

Index (100= Trough); t = first year of expansion

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Population in Latin AmericaPopulation in Latin America Urban population in MexicoUrban population in Mexico

Mexico has approximately 116 million people, making it the country with the 11th-

largest population in the world; almost 80% live in urban areas

Source: INEGI.Source: INEGI and CELADE.

Arg

en

tina

Bra

zil

Ch

ile

Co

lom

bia

Ecu

ad

or

Gu

ate

...

Mé

xico

Pe

rú

Ve

ne

z...

-

50

100

150

200

250

20302013 (rate of growth: 1.1%)

Million

1930

1940

1950

1960

1970

1990 20

0

2005

2010

20%

30%

40%

50%

60%

70%

80%

90%

100%

% of total

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Inequality in Mexico remains very highInequality in Mexico remains very high Income distribution per deciles Income distribution per deciles

While Mexico has become a major emerging market, pending tasks remain

in place

Source: INEGI.Source: CIA World Factbook.

Co

lom

bia

Pa

rag

ua

y

Ch

ile

Bra

zil

Me

xico

Ch

ina

Pe

ru

Arg

en

tina

Uru

gu

ay

US

A

Ru

ssia

Tu

rke

y

Ve

ne

zue

la

Jap

an

Ind

ia

UK

Fra

nce

Ca

na

da

Sp

ain

Italy

Au

stra

lia

Ge

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ny

0

10

20

30

40

50

60

70

Gini index

Latin America

World

I II III IV V VI

VII

VIII IX X

0%

10%

20%

30%

40%

% of total

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Private consumption in MexicoPrivate consumption in Mexico GDP per capita: Selected economiesGDP per capita: Selected economies

Consumption remains the main contributor to growth, but GDP per capita needs to

improve further

Source: INEGI.

Uni

ted

St..

.

Sw

itzer

...

Can

ada

Uni

ted

...

Japa

n

Spa

in

Gre

ece

Chi

le

Uru

guay

Pan

ama

Mex

ico

Ven

ezue

la

Bra

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Col

ombi

a

Per

u

Chi

na

Indo

nesi

a

Indi

a

0

15,000

30,000

45,000

60,000

USD, PPP

1994 1996 1998 2000 2002 2004 2006 2008 2010 201260.0

62.0

64.0

66.0

68.0

70.0

72.0

% of GDP

Source: CIA World Factbook.

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Where are we now? 9

Introduction: The Mexican Economy 1

Economic and social trends 3

Where are we going? 16

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2004 2005 2006 2007 2008 2009 2010 2011 2012 2013-30.0

-20.0

-10.0

0.0

10.0

20.0

30.0

40.0

50.0

60.0

-6

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2

4

6

8

10

12

Consumer confidence Consumer credit Employment (RHS) Retail sales (RHS) *

Consumer confidence, credit, retail sales and formal employmentConsumer confidence, credit, retail sales and formal employment

Source: J.P.Morgan with data from IMSS, INEGI and Banco de México. *Retail sales: 3mma

After years of low but steady growth, the Great Recession took its toll on the

domestic economy

%oya, real terms (both axes)

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However, it managed to recover swiftly on the back of a competitive manufacturing

sector

Source: J.P. Morgan and Bloomberg. Data as of November 8, 2013.

02 03 04 05 06 07 08 09 10 11 120.5

0.7

0.9

1.1

1.3

1.5

1.7

1.9

2.1

2.3

2.5

Mexico China

US$

237%

Wages in the manufacturing sectorWages in the manufacturing sector Peso weakness vis a vis other emerging market currenciesPeso weakness vis a vis other emerging market currencies

Source: Ministry of Finance. *Estimates for China.

0160

70

80

90

100

110

120

130

140

150

Index 2001=100

México

India

Russia

Brazil

China

Appreciation

Depreciation

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 ?The manufacturing sector gained relevance with NAFTA, the destination of more than

80% of the exports

Source: Banco de Mexico.

Main exports from MexicoMain exports from Mexico Main export destinationsMain export destinations

Source: Banco de Mexico.

Category US$ mn % of Total

Electric machinery and other industrial machinery 140,577 37.9%

Transport equipments, road vehicles 66,023 17.8%

Mining 54,154 14.6%

Iron, steel and manufactures of those metals 17,062 4.6%

Others 94,435 25.5%

Total exports 372,251 100%

United States79%

Europe6%

South America5%

Canada3%

Asia4.5%

Central America2%

Other1%

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 ?Imports however are somewhat less concentrated, with a heavy reliance on Asia and

the NAFTA area

Source: J.P. Morgan and Bloomberg. Data as of October, 2013.

Main imports to MexicoMain imports to Mexico Main import countriesMain import countries

Source: Banco de Mexico.

US50%

Asia31%

Europe11%

South America3%

Canada2.7%

Other1%

Central America1%

Category US$ mn % Total

Electric machinery and other industries machinery 144,593 39.0%

Chemicals and related products 28,919 7.8%

Transport equipments, road vehicles 31,143 8.4%

Iron, steel and manufactures of those metals 30,772 8.3%

Others 135,109 36.4%

Total imports 370,537 100%

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Foreign direct investment has relied heavily on manufacturing for the last 20 years

Source: Ministry of the Economy.

Evolution of FDI to MexicoEvolution of FDI to Mexico FDI breakdown by sectorFDI breakdown by sector

Source: Banco de Mexico.

Manufacturing 45%

Other28%

Financial services19%

Mining & construction7%

Energy 1%

00 01 02 03 04 05 06 07 08 09 10 11 120

5

10

15

20

25

30

35

US$ billion

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 ?While Mexico has become more competitive, it cannot rely only on a weaker

currency and wage-convergence with its competitors

Labor productivity in Mexico vis a vis other OECD countriesLabor productivity in Mexico vis a vis other OECD countries

Source: OECD.Source: Banxico.

Year-to-date trade balance: Back to realityYear-to-date trade balance: Back to reality

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec-10

-8

-6

-4

-2

0

2

4

1998-08 2010 2011

2012 2013

US$ billion

Me

xico

Ch

ile

Ru

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Ko

rea

Jap

an

OE

CD

ave

rag

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Ca

na

da

Sp

ain

Sw

ed

en

Ge

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A

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20

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60

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100

120

140

160

GDP per hour worked as % of USA In-dex USA = 100

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Where are we going?

Strong macro framework but reforms are needed

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Introduction: The Mexican Economy 1

Economic and social trends 3

Where are we now? 9

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Source: IFE.

The Pact for Mexico and democracy in Mexico: A new opportunity for fresh accords

Lower chamber of CongressLower chamber of Congress

In December of 2012, the new government signed a

multi-partisan agreement that encompassed 95 accords

focused at improving competitiveness and productivity in

Mexico.

This “Pact for Mexico” aimed at pushing core structural

reforms in 2013:

Education Reform

Telecommunication Reform

Fiscal Reform

Energy Reform

The Labor Reform was approved in the previous

administration.

The new government has made it clear that the main

objective of the structural reforms is to extend

productivity and improve competitiveness throughout the

country.

Upper chamber of CongressUpper chamber of Congress

Source: IFE.

PRI-PVEM48%

PAN23%

PRD-PT-MC27%

Nueva Alianza2%

PRI-PVEM48%

PAN30%

PRD-PT-MC22%

Nueva Alianza1%

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Impact on growthImpact on growth

Structural Reforms: Impact on potential growth

While the government expects potential output to jump

towards 5.3% by the end of the current presidential

term (2018), we believe the impact will be more

gradual.

Potential output should reach 4.5% by the end

of the “sexenio”.

We estimate current potential output between 3.0%

and 3.5%, and expect the most significant impact

coming from the energy reform.

The benefits from the implementation of reforms will be

larger in the long-term due to the positive externalities

and the regional spillovers:

Infrastructure gains

Reduced costs for both producers and

consumers

Positive and long-term growth in total factor

productivity

   Bill Impact on GDP

Labor reform 0.1% - 0.3%

Telecom reform 0.1% - 0.3%

Financial reform 0.2% - 0.4%

Energy reform 0.4% - 0.7%

Total impact 0.8% - 1.7%

Potential Output 3.30%

with reforms 4.1% - 5.0%Source: J.P. Morgan forecasts.

3.3%

4.5%

Labor Telecomm EnergyFinancial

Current Po-tential Output

Expected

Contribution to potential growthContribution to potential growth

Source: J.P. Morgan forecasts.

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Event Date

Local Elections (14 States) July 7, 2013

Extraordinary Sessions July - August

Ordinary Session (kick- off of 2nd legislature) September 1, 2013

Budget 2014 (deadline) September 8, 2013

Income Bill (deadline for approval by Lower House) October 20, 2013

Income Bill (deadline for approval by Upper House) October 31, 2013

Expenditure Bill (deadline for approval by Lower House) November 15, 2013

End of first ordinary session (2nd legislature) December 15, 2013

Key political events and congress deadlines to monitorKey political events and congress deadlines to monitor

Source: IFE, J.P. Morgan.

Appendix: Political calendar and chamber composition

  Lower Upper

PRD 104 22

PAN 114 38

PRI 213 54

PANAL 10 1

PVEM 28 7

PT 15 5

MC 16 1

Total 500 128

Constitutional Reform 334 86

PAN & PRI & PVEM 355 99

  71% 77%

Source: IFE, J.P. Morgan.

Congress composition: votes for constitutional reformsCongress composition: votes for constitutional reforms

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