JPMorgan selects the venue for the annual meeting of its International Council carefully. The bank likes to think that its choice of host city embodies the financial zeitgeist – that the city and country represent the world’s current greatest potential growth story.
In late October, chairman of the council, former UK prime minister Tony Blair, will bring the meeting to order in Mexico City. It’s not a surprising or controversial choice and Euromoney is in complete agreement with Jamie Dimon and his JPMorgan colleagues that the progress of the reforms of the Peña Nieto administration – of which the central pieces of legislation have been led by finance minister Luis Videgaray – have surpassed already heady expectations.
Videgaray has been a close political confidant of Mexico’s president Enrique Peña Nieto for years: between 2005 and 2009 he was secretary of finance for the State of Mexico while Peña Nieto was governor. Videgaray also headed Peña Nieto’s 2012 presidential campaign. The president-elect then appointed him head of the economic reform agenda in July 2012, and co-head of the team in charge of policy direction in December 2012 (alongside interior minister Miguel Osorio Chong).
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Perhaps significantly, Videgaray’s doctorate in economics is from MIT. His thesis for his bachelor’s degree in Economics from the Mexico Autonomous Institute of Technology was titled Failure of the Market, the regulation and incentives: case of the Mexican ports’ privatization.
He has publicly contrasted his view of the imperfection of the free markets with that of other influential Mexicans in the financial sector who follow the more laissez-faire approach associated with alumni of the University of Chicago – most notably central bank governor Augustín Carstens. He was also prescient in choosing the subject of his doctoral thesis: the fiscal response to oil shocks.
Peña Nieto and Videgaray’s achievements not only create a macroeconomic model that all emerging markets (and more than a handful of developed markets too) should look to, but the political skills shown by the government in building sufficient political consensus to pass reforms, without conceding key aspects that would compromise their effectiveness, also hold lessons for students of politics and diplomacy.
But while his political skills should not be overlooked, it is the financial impact of Videgaray’s accomplishments, of which there are many, that warrants Euromoney’s recognition. The energy reforms are the centrepiece but they have to be seen in a wider context: January’s financial reforms came first and not only provided the fiscal space for the energy reforms to be implemented but were also hugely significant in themselves.
The legislation had four pillars: to enable greater participation of development banks by allowing them to leverage their balance sheets and enter into SPV-financing structures; it strengthens repossession rights for banks, thereby encouraging credit extension into riskier credits; encourages greater competition in products such as credit cards, mortgages and payroll; and governance stability, with the introduction of Basle III.
“The reform agenda has been hectic. We have achieved eight transformation reforms in the first 20 months [of this government] compared with just five in the preceding 20 years,” says Ernesto Revilla, senior economist at the Ministry of Finance. “If the financial reform had been done in any other year it would have caused huge discussion and been seen as a great success [but] now it is lost among many others – especially the energy reform which is the big one.”
Videgaray’s role in energy reform has been critical too – as it was in the other headline reform of the telecommunications industry. “The reforms were all designed with the common denominator to improve productivity in Mexico,” says Revilla. “And the diagnostic was clear: productivity has decreased in the last 30 years – at a rate of 0.4% a year – which is a binding restraint for growth in Mexico. The country has still grown, at 2.4%, which is not a lot by EM standards and has been possible because we have more labour and capital – not productivity.”
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Connecting the dots of the reforms is delivering greater productivity through lowering input costs: particularly in telecoms, credit and energy. The reforms to the banking market attempt to shake up a group of stable but conservative lenders to extend greater credit to the economy – especially those who currently only have access to the informal banking sector. Private credit to GDP is one of the lowest in the OECD and Latin America, at 28%.
“There is space to grow that and we would feel comfortable with doubling that rate to between 50% and 60% in the next 10 years,” says Revilla.
The private sector is on board, in theory at least. Alejandro Valenzuela, CEO of Banorte, calls the financial reforms a “transformational process”. In particular he highlights the greater ability to repossess as creating “more certainty that will allow the banks to be more aggressive and provide a wide range of loans to the Mexican economy” which will “propel growth and the average wage of the Mexican worker – linked to productivity – that will clearly allow for more ‘bankerization’ over time and help us penetrate the lower middle classes, which is more difficult because the risk is harder to measure.”
Valenzuela believes the financial sector is set to grow at three- to four-times the real rate of the economy.
More broadly, the consensus is that, combined, the reforms of the last 20 months will add around 100bp to 150bp to GDP growth by 2018 – a huge amount of reform-driven wealth.
Marco Oviedo, economist at Barclays in Mexico says: “We have an estimate of [these reforms] improving growth by 1.5 percentage points between 2018 and 2030, which means that if the economy can [currently] grow by 2.5% to 3% then we could see long-term rates of growth close to 5% – or even 6% if all the reforms kick-in and everything goes well. This really is a structural change to the Mexican economy.”
Carstens agrees: “If the reforms are well implemented I think that by the end of this administration we should be growing close to a rate of 5% of GDP. I think that is a reasonable guesstimate.”
It’s a sign of the steady rise of Mexico – investment bankers working in Latin America and beyond hail its financial market as one of the most exciting in the world – that Videgaray wins this award just 12 months after Carstens himself collected Euromoney’s award for central bank governor of the year.
Many in Mexico think that the total of all the reforms will equal the significance to the economy of Mexico joining the North American Free Trade Agreement 20 years ago. While implementation challenges will temper the pace of reform, Mexico’s push to bite the fiscal bullet and enact wide-ranging structural reforms in peacetime, giving the economy a new lease of life, serves as a lesson for reform-laggards in emerging markets.
These debates will be settled by history but posing the questions shows just how high the government has raised expectations. What is the Ministry of Finance’s own view?
“It’s a good discussion. Many people are saying we are in a transformation,” says Revilla. “Another moment like this was Nafta 20 years ago. People said then that it was going to change everything: people in favour [of joining] said it would save Mexico while people who didn’t want to participate said it would be terrible.”
Reform is very important for the country, he adds. “It is going to be transformational – not in terms of reducing prices next week or by growing [the economy] at impressive rates next year. But it will have an important impact on Mexico, and it will put us on the right track.”