Fox and stability

Mexico

Mexico’s president Vicente Fox knows the value of stability. Since 2000, his pro-business party, which ended 71 years of one-party rule by the National Revolutionary Party (PRI), has brought unprecedented economic stability to Mexico, Latin America’s second-largest economy and one of the region’s few investment-grade credits.

But that stability has not brought the red-hot economic growth many expected and more than midway through Fox’s term, analysts, opposition politicians and investors wonder if Mexico is on the path to becoming a fully fledged investment-grade credit, leaving behind its emerging market status.

Essential reforms

All of Fox’s reforms – energy, labour market, judicial and telecommunication – have been repeatedly blocked by a hostile congress. Analysts say there is little chance of any significant restructuring being passed before a new president is elected in 2006.

But such urgent reforms are seen as essential for Mexico’s growth and both the IMF and the OECD want change. The IMF estimates structural reform could lift annual economic growth higher than 6%, compared with the 4% forecast for 2004 and the listless 1.3% of 2003. Meanwhile, Mexico has one of Latin America’s lowest tax takes, collecting only about 12% of its GDP, compared with Brazil’s 36%.

Energy minister, Fernando Elizondo, underlined the need of the reforms by saying he feared Mexico, the world’s fifth-largest producer of crude oil, could become a net importer of oil in a decade without $130 billion in investment over the next nine years. “Further strengthening of the fiscal position, including continued tax reform to reduce reliance on oil revenues, is an important part of the government’s programme,” said IMF managing director Rodrigo Rato after a recent visit to Mexico. Some officials also call on Mexico to diversify trade away from the US, which takes 90% of its exports. Although record oil prices are benefiting Mexico’s state coffers, they are also slowing growth in the energy-dependent US, dampening US demand for Mexican goods and holding back export-led growth.

Fox’s apparent incapacity to bring change has turned attention to the 2006 election and political jockeying has begun in earnest, bringing with it fears of instability, especially if the popular Mexico City left-wing mayor Andres Manuel Lopez Obrador, the early favourite in the campaign, is elected. The PRI, disregarded as a political dinosaur after being voted out in 2000, has surprised analysts with its steady comeback, while Fox’s former foreign minister, Jorge Castaneda, says he also plans to run as an independent.

The big question is if Lopez Obrador can throw off recent corruption allegations and run for office. Congress could also take away immunity for Lopez Obrador in the coming months for his part in a city land dispute. If congress votes against him, he would have to resign to face contempt of court charges that could force him out of the election.

“The worst-case scenario is if the Lopez Obrador issue becomes very contentious and we face uncertainty throughout 2005 about the elections. This could have a negative impact on investors because it would send contradictory signs,” says Fernando Losada, head of Latin American research at ABN Amro.

Inflation is Mexico’s other big imponderable – although being far below the highs of the 1980s and 1990s, it has been creeping up this year. The Bank of Mexico’s target is to keep inflation between 2% and 4% but consumer prices in the first half of October rose to 5.4%, higher than economists had forecast and prompting a tightening of monetary policy. Inflation was 3.98% in 2003 but the central bank’s monthly poll of independent economists expects consumer prices to rise to 5.18% this year.

Investors can rest easy in the short term. The government’s finances are strong, largely thanks to high oil income, which provides 35% of its revenues. In the first eight months of 2004 the government ran a fiscal surplus of $6.3 billion, almost double that of the same period in 2003. This year’s deficit is expected at around 0.3% and Fox hopes to leave a balanced budget in 2006.

The solid fiscal situation has also allowed Mexico to complete its external financing needs for 2004. In mid-November, Mexico sold a e750 million bond at a spread of 188 basis points over the 10-year Bund with a 5.5% coupon, jointly sold by Credit Suisse First Boston and Deutsche Bank at a price of 98.561. The bond matures in 2020. Demand for the bond was just under €2 billion. “This shows that Mexico’s risk perception abroad continues to be quite good for an investment-grade credit,” says Enrique Alvarez, strategist for New York-based consultancy IdeaGlobal.