Economic Insights: Conversations with the Dallas Fed Webcast Series. Mexico's Reforms, the Border and Progress

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1 Economic Insights: Conversations with the Dallas Fed Webcast Series Mexico's Reforms, the Border and Progress May 29, 2013

2 Mexico s Reforms, the Border and Progress Roberto Coronado Assistant Vice President in Charge, El Paso Branch & Ed Skelton Business Economist The views expressed are those of the speakers and should not necessarily be attributed to the Federal Reserve Bank of Dallas or the Federal Reserve System.

3 Policy Progress and Reform in Mexico Ed Skelton Business Economist Financial Industry Studies Federal Reserve Bank of Dallas

4 Policy Progress and Reform in Mexico

5 Overview Past history of macroeconomic instability Changes to the monetary policy framework Changes to the fiscal policy framework Reforms passed and pending

6 A history of crises US $/peso exchange rate, monthly percentage change Percent

7 The rise and fall of inflation 12-month inflation rate Percent

8 Crises hurt! Real GDP per capita growth, PPP-adjusted Percent crisis crisis Tequila crisis Global financial crisis

9 Improved monetary policy Central bank independence Focus on longer-term objectives Inflation targeting Price level is what central banks ultimately control Objective against which an independent central bank can be held accountable

10 Independent central banks deliver better inflation outcomes Average annual inflation rate, Percent NZL ESP ITL NOR/SWE/FRA GBR AUS BEL Index of central bank independence DEN JPN CAN NED USA SUI DEU

11 Independence El Estado tendrá un banco central que será autónomo en el ejercicio de sus funciones y en su administración. Su objetivo prioritario será procurar la estabilidad del poder adquisitivo de la moneda nacional, fortaleciendo con ello la rectoría del desarrollo nacional que corresponde al Estado. Ninguna autoridad podrá ordenar al banco conceder financiamiento. Article 28 of the Constitution of the Mexican United States, August 20, 1993

12 Inflation targets and outcomes: the first 10 years 12-month inflation rate Percent Actual inflation rate Target inflation rate

13 Inflation targets and outcomes: the last 10 years 12-month inflation rate Percent 7 6 Actual inflation rate Target inflation rate

14 Independence good for price stability Period Average annualized monthly inflation Standard deviation Prior to independence Since independence 1994 current Since inflation targeting 2001 current 43.3% % % % 21.0

15 Mexico grows a yield curve Percent O/N 28D 3M 6M 1Y 3Y 5Y 10Y 20Y 30Y 100Y

16 Fiscal reforms Budget and Fiscal Responsibility Law 2006 Balanced budget rule Integral Fiscal Reform 2007 Improving tax collection ISSSTE Law 2007 More sustainable pension system Governmental Accounting Law 2008 Harmonization of budget and accounting codes

17 Fiscal policy has remained disciplined Deficit as a share of GDP Percent Primary balance Budget deficit Public sector borrowing req.

18 National debt small Debt as a share of GDP

19 Premium flare-up small for Mexico Interest rate spread Basis points Tequila crisis Asian crisis crisis

20 and less dramatic than similar countries Interest rate spread Basis points Latin America Russia Brazil Mexico

21 less risky than peripheral Europe too? Interest rate spread Basis points Greece Portugal Ireland Spain Italy Mexico

22 less risky than peripheral Europe too? Interest rate spread Basis points Portugal Ireland Spain Italy Mexico

23 1986: Mexico joins GATT Index, 2003= Ties that bind Manufacturing production 1994: NAFTA 2001: China joins WTO U.S. Mexico

24 Independence not as good for growth Period Average annualized quarterly growth Standard deviation Prior to independence Since independence 1994 current Since inflation targeting 2001 current 2.7% % % % 7.7

25 Obstacles to development Human capital deficit - education Barriers to entry & foreign direct investment (FDI) Inefficient institutions PEMEX At root: labor productivity deficit

26 Pacto por Mexico: early successes Education reform Important signal Telecommunications reform Instituto Federal de Telecommunicaciones created Telecommunications giants targeted

27 Pacto por Mexico: pending reforms Financial system reform proposed Fiscal reform Energy reform

28 Economic growth Conclusion: Mexico s two paths 6% 5% 4% 3% 2% 1% Without Reforms With Reforms 0%

29 Mexico's Economy: Clouds Ahead, Brighter Future Roberto Coronado Assistant Vice President in Charge, El Paso Branch & Senior Economist

30 Increased interest in the Mexican economy Mentions in Google news, 100=peak Mexico drug war Mentions in Google news, 100=peak Mexico economy Source: Google Trends Source: Google Trends

31 Today s agenda Mexico s economy feeling the pain from U.S. industrial sector slowdown How relevant is Mexico to the U.S. and Texas economies? Texas border economy in transition Prospects and challenges for the Mexican economy going forward

32 Mexico s economy slowing down GDP growth, Percent * 2013* represents Q1/Q1 data Source: Instituto Nacional de Estadistica y Geografia

33 Growth is broad-based, industrial sector moving sideways Index, 2003=100, S.A Services IGAE Total Industrial Production Source: Instituto Nacional deestadistica y Geografia.

34 Drivers behind strong growth 1. External sector Mexico tapped into the strong growth of emerging economies, around 20% of its exports go to emerging markets U.S. exports rebounded nicely, especially autos 2. Internal sector Strong employment growth, over 2 million new jobs Healthy banking system Jobs + Lending = Strong consumption 3. Capital flows Foreign direct investment bouncing back after the Great Recession Portfolio investment taking the lead

35 Mexico s manufacturing losing momentum SA, 50+=Increasing Increasing 50 Decreasing 45 Manufacturing 40 New Orders Source: Indicador del Instituto Mexicano de Ejecutivos de Finanzas (IMEF) del Entorno Emperesarial Mexicano/Haver Analytics

36 Mexico closely follows U.S. industrial sector Real GDP SAAR, Billions, Q42007=100 U.S. IP Index, SA, Q42007= U.S. IP Mexico Real GDP Sources: Federal Reserve Board, Haver Analytics, Instituto Nacional de Estadistica y Geografia

37 U.S. auto sales have slowed down Million Units, SAAR April= Cash for Clunkers Tsunami disrupts auto output in Japan and the US Source: U.S. Department of Commerce: Bureau of Economic Analysis, HAVER Analytics

38 Is Mexico important to the U.S. and Texas economies? Mexico is the third most important trading partner for the U.S. In 2012, the top three trading partners for the U.S. were: Canada $616 billion China $536 billion Mexico $493 billion For Texas, Mexico is the number one trading partner roughly 1/3 of Texas exports go to Mexico

39 U.S. - Mexico total trade Billions of Dollars, Real, SA, 3 m-m-a Mexico joined GATT, now WTO NAFTA Source: U.S. Census Bureau/Haver Analytics

40 Autos leading in U.S.-Mexico trade Sector 2012 billions Road Vehicles 73.4 Petroleum 60.6 Electrical Machinery 50.0 Telecommunications 38.8 Office /Automatic Data Processing 30.4 General Industrial Machinery 24.2 Power-Generated Machinery 18.2 Total Trade U.S. - Mexico Source: U.S. Census Bureau

41 Mexico auto exports Millions of units, SAAR, 3-mo moving avg % 1.1% 6.3% 0.8% % North America Central America and Carribean South America % 68.1% Asia Europe Source: Asociación Mexicana de la Industria Automotriz, A.C.

42 How relevant is Mexico in North American auto production? Today, roughly 1-in-5 light vehicles produced in North America come from Mexico. Mexico surpassed Canada as the second largest vehicle producer in North America in Mexico also plays a crucial role in auto parts. One-third of the auto parts imported into the U.S. come from Mexico. Source: Thomas H. Klier and James Rubenstein, The Growing Importance of Mexico in North America s Auto Production, Chicago Fed Letter, May 2013, No. 310.

43 Texas top five ports of entry Total land trade, 2012 $ billions % of total U.S.-Mexico land trade Laredo El Paso Hidalgo/Pharr Eagle Pass Brownsville-Cameron Texas Source: U.S. Department of Commerce Bureau of the Census, Foreign Trade Division

44 Border economy in transition Employment shifting from manufacturing to services 1990 Mfg Mfg Services 2011 Services El Paso 20% 6% 73% 85% Laredo 4% 1% 86% 91% McAllen 14% 3% 74% 87% Brownsville 16% 4% 76% 88% Source: Bureau of Economic Analysis As a result of service sector growth, per capita income closing gap with national levels

45 Per capita income in Texas border cities closing the gap with the U.S. As a share of the U.S. level % Brownsville-Harlingen El Paso Laredo McAllen- Edinburg- Mission Source: Bureau of Economic Analysis

46 Mexico is expected to grow 4% in the near future Percent Change, NSA Forecasts Source: Historical data are from Instituto Nacional de Estadistica y Geografia; forecast from Banco de Mexico, Encuesta Sobre las Expectativas de los Especialistas en Economía del Sector Privado: Abril de 2013.

47 Challenges ahead Immediate challenges 1. Slowdown in U.S. industrial sector 2. Overheating in emerging markets 3. Reversal of capital flows Long-term challenges 1. Contraction in oil production 2. Growing informal sector 3. Weak competition in key sectors

48 Mexico s main challenge: stagnant per capita income PPP converted US$ 14,000 12,000 10,000 8,000 6,000 4,000 2,000 Source: Alan Heston, Robert Summers and Bettina Aten, Penn World Table Version 7.1, Center for International Comparisons of Production, Income and Prices at the University of Pennsylvania, July 2012.

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