Mexico’s Monetary Policy under Current Economic and Financial Conditions OMFIF Roundtable London, April 2 nd , 2019 Javier Guzmán Calafell, Deputy Governor, Banco de México* */ The opinions and views expressed in this document are the sole responsibility of the author and do not necessarily represent the institutional position of Banco de México or of its Board of Governors as a whole.
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Mexico’s Monetary Policy under Current Economic and Financial Conditions
OMFIF RoundtableLondon, April 2nd , 2019
Javier Guzmán Calafell, Deputy Governor, Banco de México*
*/ The opinions and views expressed in this document are the sole responsibility of the author and do not necessarily represent the institutional position of Banco de México or of its Board of Governors as a whole.
2
As in the case of other emerging markets, the Mexican economy isfacing a complex external environment:
o A deceleration of world trade and economic activity.
o Uncertainty related to trade negotiations between the United Statesand China.
o Concerns surrounding the UK exit from the EU.
o Protectionist trends.
o Potential for turbulence in international financial markets andvolatility of foreign capital flows.
o Vulnerabilities in China and other emerging market economies.
o Other political and geopolitical risks.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
3
This situation is complicated by a number of idiosyncratic factors:
o Ratification of USMCA.
o Uncertainty over several elements of public policy.
o Low levels of business confidence.
o Financial difficulties at Pemex.
o Vulnerabilities in the country’s sovereign rating.
o Structural and institutional obstacles to economic growth.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
4
Economic activity has decelerated since 2016, although still showing an output gaparound zero by the end of last year.
Mexico
s.a./ Seasonally adjusted series.Note: The dashed line represents a polynomial (order 4) trend.Source: INEGI.
Gross Domestic ProductAnnual % change, s.a.
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
-12
-10
-8
-6
-4
-2
0
2
4
6
8
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
GDP GDP Excluding Oil Sector 2/
4Q
Output Gap1/
% of potencial GDP, s.a.
s.a./ Estimated with seasonally adjusted data.1/ Estimated with the Hodrick-Prescott filter.2/ It excludes oil and gas extraction, services related to mining and the manufacture of oil and coal products.Source: Estimated by Banco de México with data from INEGI and Banco de México.
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
I II III IV I II III IV I II III IV I II III IV I II III IV
2014 2015 2016 2017 2018
Annual % change Trend
Mexico’s Monetary Policy under Current Economic and Financial Conditions
5
Partly as a result of temporary factors, the deceleration of economic activity was morepronounced at the end of 2018 and at the start of this year. The dynamism of privateconsumption and exports, particularly to countries other than the US, is beginning to weaken.
Consumer Confidence and Private ConsumptionPoints and annual % change of the three-month moving average, s.a.
Manufacturing ExportsIndex 2013 = 100, s.a.
s.a. / Seasonally adjusted series.Source: Banco de México, INEGI, SAT and SE.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
s.a./ Seasonally adjusted series.Note: Except for Aggregate Private Consumption, annual variations are based on 3-month movingaverages.Source: INEGI
6
In addition, investment is showing a worrisome trend...
s.a. / Seasonally adjusted series.Note: The dashed line represents a polynomial (order 4) trend line.Source: INEGI.
s.a. / Seasonally adjusted series.Source: INEGI.
Gross Fixed Investment Index 2013 = 100, s.a.
Investment Rate% of GDP, s.a.
90
95
100
105
110
115
120
125
130
20
12
20
13
20
14
20
15
20
16
20
17
20
18
Total Machinery and Equipment Construction
December
Mexico’s Monetary Policy under Current Economic and Financial Conditions
16
17
18
19
20
21
22
23
24
25
26
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
Investment Rate Trend
4Q
7
…explained to a significant extent by low levels of confidence.
Right Time to Invest 1/
Indicators with reference level at 50 points, s.a.Perception of Adequate Economic Conditions to Invest by
Analysts 2/
% of answers
s.a. / Seasonally adjusted series.1/ Refers to the question: “Considering the current situation of the country and of your firm vs. oneyear ago, do you believe it is the right time to invest?”Source: INEGI.
2/ Refers to the question: “Do you consider current economic conditions are good/bad for firms toinvest?”Source: Banco de México.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
10
15
20
25
30
35
40
45
50
55
60
201
2
201
3
201
4
201
5
201
6
201
7
201
8
201
9
Construction Commerce Manufactures
March0
10
20
30
40
50
60
70
80
90
Jan
-17
Jun
-17
No
v-1
7
Ap
r-1
8
Sep
-18
Feb
-19
Good Time Bad Time
March
8
Decisive actions are needed to reduce uncertainty and increaseinvestment.
This is particularly important given:
o Low rates of potential growth.
o Poor productivity performance.
o Existing constraints on public investment.
o Downside risks to economic growth from other sources.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
The labor market, though still tight, has also weakened.
Formal Sector WorkersAbsolute annual variation in thousands of workers
Source: IMSS.
Unemployment Rate%, s.a.
s.a. / Seasonally adjusted series.Source: INEGI.
0
100
200
300
400
500
600
700
800
900
2012 2013 2014 2015 2016 2017 2018 2019
Total
Permanent Workers
Temporary Workers
February
Mexico’s Monetary Policy under Current Economic and Financial Conditions
1.0
1.2
1.4
1.6
1.8
2.0
2.2
2.4
2.6
2.8
Jan-18 Apr-18 Jul-18 Oct-18 Jan-19
2018 (Actual)
2019
2020
2019 (Banco de México Midpoint Forecast)
2020 (Banco de México Midpoint Forecast)
March
10
In this context, expectations for GDP growth in 2019-2020 have declined.
Mexico: Growth Expectations and ForecastsAnnual %
Source: Banco de México.
Banco de México Forecast
2019 1.1 - 2.1
2020 1.7 - 2.7
Mexico’s Monetary Policy under Current Economic and Financial Conditions
11
The evolution of analysts’ expectations for the long run is more worrisome.
Long-Term Growth Expectations, Next 10 yearsAnnual %
Source: Banco de México.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
2.0
2.5
3.0
3.5
4.0
4.5
2013 2014 2015 2016 2017 2018 2019
March
12
Inflation has fallen significantly since late 2017. However, core inflation has remained stable for nearly a year.
CPI InflationAnnual %
*/ Data through the first fortnight of March 2019.Source: INEGI.
0
1
2
3
4
5
6
7
8
2015 2016 2017 2018 2019
Headline
Core
Variability Interval
March*
Mexico’s Monetary Policy under Current Economic and Financial Conditions
13
Inflation expectations for 2019 and 2020 have declined, but they show figures aboveBanco de México’s projections.
Inflation Expectations and Forecasts Annual %
Source: Banco de México.
2.0
2.5
3.0
3.5
4.0D
ec-1
6
Jan
-17
Feb
-17
Mar
-17
Ap
r-1
7
May
-17
Jun
-17
Jul-
17
Au
g-1
7
Sep
-17
Oct
-17
No
v-1
7
Dec
-17
Jan
-18
Feb
-18
Mar
-18
Ap
r-1
8
May
-18
Jun
-18
Jul-
18
Au
g-1
8
Sep
-18
Oct
-18
No
v-1
8
Dec
-18
Jan
-19
Feb
-19
Mar
-19
End-2019
End-2020
End-2019 (Banco de México Forecast for Q4)
End-2020 (Banco de México Forecast for Q4) March
Mexico’s Monetary Policy under Current Economic and Financial Conditions
14
In addition, long-term inflation expectations, though stable, remain above the 3percent target and those for general and core inflation seem to be converging.
Long-Term Inflation ExpectationsMedian, %
Source: Banco de México.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
2.5
3.0
3.5
4.0Ja
n-1
4
Jun
-14
No
v-1
4
Ap
r-1
5
Sep
-15
Feb
-16
Jul-
16
Dec
-16
May
-17
Oct
-17
Mar
-18
Au
g-1
8
Jan
-19
Headline Next 5-8 Years Permanent Target Core Next 5-8 Years
March
15
The balance of risks for inflation continues to be skewed to the upside:
o Potential pressures on the exchange rate.
o Volatility of agricultural and energy prices.
o Direct and indirect effects of minimum wage adjustments.
o Risk of a deterioration of public finances.
o Persistently high core inflation that could contaminate long-terminflation expectations.
o Potential escalation of protectionist measures at a global level.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
16
Financial markets in Mexico have shown an improvement over the course of thisyear, but risks remain.
USD/MXN Exchange Rate and Government Bond Interest RatePesos per dollar and %
Note: Vertical lines on the dates of the following recent events: Moody’s communiqué (18-October), cancelation of the NAIM (28-October), Fitchcommuniqué (31-October), presidency inauguration (1-December), economic package for 2019 announced (15-December), Fitch Ratings communiquéabout Pemex downgrade (29-January), Pemex’s government aid announcements (15-February & 28-February), Standard & Poor’s communiqué aboutPemex negative outlook (1-March).Source: Banco de México and PiP.
18.20
18.50
18.80
19.10
19.40
19.70
20.00
20.30
20.60
20.90
7.75
8.00
8.25
8.50
8.75
9.00
9.25
9.50
9.75
10.00
Oct-18 Nov-18 Dec-18 Jan-19 Feb-19 Mar-19
30-Year Rate
10-Year Rate
←FIX Exchange Rate
Mexico’s Monetary Policy under Current Economic and Financial Conditions
17
The latter is underlined by recent decisions by several rating agencies. Mexico
Note: The red dots represent the recent revisions to the rating outlook from stable to negative.The dotted lines represent the investment grade.Source: Moody’s, Standard & Poor’s, HR Ratings and Fitch Ratings.
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
20
19
- A-- BBB+- BBB- BBB-- BB+- BB
A3 -Baa1 -Baa2 -Baa3 -
Ba1 -Ba2 -
- A-- BBB+- BBB- BBB-- BB+
- A-- BBB+- BBB- BBB-- BB+- BB
Moody's
S&P
Fitch HR
Pemex
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
20
19
- A-- BBB+- BBB- BBB-- BB+- BB
A3 -Baa1 -Baa2 -Baa3 -
Ba1 -Ba2 -
- A-- BBB+- BBB- BBB-- BB+
- A-- BBB+- BBB- BBB-- BB+- BB
Moody's
S&P
Fitch HR
Note: The red dots represent the recent revisions to the rating outlook from stable to negative.The dotted lines represent the investment grade.Source: Moody’s, Standard & Poor’s, HR Ratings and Fitch Ratings.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
18
Recent revisions to Pemex rating or outlook are the result of a combination of factors.
HR Ratings
November 6th , 2018
Fitch Ratings
January 29th, 2019
Standard & Poor’s
March 4th, 2019
Action on
Pemex
rating or
outlook
Rating Outlook Revised to
Negative from Stable (A-)
Long-Term Foreign-Currency Issuer
Default Rating Downgraded to BBB- from
BBB+ (Negative rating outlook)
Rating Outlook Revised to Negative from Stable (BBB+)
Action
drivers
• Revision to Mexico’s
rating outlook from
stable to negative on
October 30th 2018 led to
the modification of
Pemex rating outlook.
• HR considers that Pemex
rating has a direct
relation with Mexico’s
global rating given the
implicit guarantee from
the Mexican federal
government to the
enterprise.
• Downgrade reflects continued
deterioration of Pemex’s standalone
credit profile (SCP) as a result of
persisting negative Free Cash Flow
and material under-investment in the
upstream business.
• SCP deterioration has led Fitch to
lower its assessment of the
government’s incentive to support
the company to “strong” from “very
strong”.
• In Fitch’s view, announced support
measures for Pemex are not enough
to offset the recent deterioration in
Pemex’s SCP.
• S&P considers that ratings on Pemex mirrors those for the
sovereign, since incremental budgetary allocations for
Pemex in 2019 and public statements at the time assures
that the company will meet all its financial obligations in
a timely manner because there is an almost certain
likelihood of extraordinary government support.
• The drop in Pemex’s standalone credit profile is due to:
1. Company’s core businesses underperforming
relative to S&P previous expectations.
2. Government’s plan to restore Pemex’s credit
fundamentals is limited in scope, particularly to
address some of the company’s long-term business
and financial risks.
3. Execution risk for Pemex is high.
Source: HR Ratings (2018) “Entidades Mexicanas con Calificación en Escala Global”, November 6th, 2018; Fitch Ratings (2019) “Fitch Downgrades PEMEX’s IDRs to ‘BBB-’; Outlook Negative”, January 29th, 2019; and,Standard & Poor’s (2019) “PEMEX Outlook Revised To Negative On Similar Action On Mexico; SACP Cut to ‘b-’ From ‘bb-’ On Weak Credit Fundamentals”, May 4th, 2019.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
19
Credit default swaps for both Pemex and the sovereign are above those ofcounterparts with similar, and even lower, ratings.
1/ This refers to 5-year Credit Default Swaps. The range corresponds to the difference between themaximum and minimum value.Note: For category BBB it includes Andeavor, Apache, Canadian Natural Resources, Eni, Halliburton,Repsol and Valero Energy and for category BB it includes Anadarko, Devon Energy, Encana, Hess,Nabors, and Petrobras.Source: Bloomberg and Indeval.
Market Indicators of Credit Risk for Pemex and Other Oil Companies1/
Basis points
Emerging Economies Market Indicators of Domestic Sovereign Credit Risk1/
Basis points
1/ This refers to arithmetic mean of the 5-year Credit Default Swaps.Note: For category BB it includes Brazil and South Africa and for category BBB it includes: Colombia,Hungary, India, Indonesia, Peru, Russia, and Thailand.Source: Bloomberg and Standard & Poor’s.
0
50
100
150
200
250
300
J A J O J
Mexico Average BBB (excluding Mexico) Average BB
20192018
Mexico’s Monetary Policy under Current Economic and Financial Conditions
0
150
300
450
600
750
900
J A J O J
Range BBB Range BB
Pemex Average BBB
Average BB
20192018
29-march
20
Challenges for the implementation of monetary policy are evident in asituation characterized by:
o Weakening economic activity.
As well as:
o Persistent core inflation.
o Balance of risks for inflation biased to the upside.
o Short- and long-term inflation expectations above Banco de México’sprojections.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
21
Under such circumstances, consistent with Banco de México’s mandate,monetary policy must focus on achieving the inflation target within theannounced time frame.
At the same time, it is important to take into account:
o The existing high levels of uncertainty.
o The need to achieve convergence to the target in an orderly andefficient way.
This implies the adoption of a prudent approach, with monetary policydecisions carefully considering incoming information and with priorityattached to enhancing the credibility of the Central Bank.
Mexico’s Monetary Policy under Current Economic and Financial Conditions
22
Macroeconomic stability needs an adequate implementation of bothmonetary and fiscal policies.
While public finances’ targets announced for this year represent a step inthe right direction, further efforts are needed to improve Pemex’s long-term financial situation, and its productive capacity.
The latter is crucial for the health of public finances and, in general, for thecountry’s economy.
In addition, to achieve rates of economic growth consistent with our needs,the structural and institutional factors that have discouraged investmentand productivity growth have to be tackled.
It will also be essential to carefully monitor the implications of the currenteconomic strategy, and to introduce the corresponding corrective actionswhenever required.
Mexico’s Monetary Policy under Current Economic and Financial Conditions