Businessmen and the authorities are becoming increasingly gloomy about the economic outlook. The notion, put about by the government, that 2004 should be substantially better than this year, is taking a knock. The influential Centro de Estudios Económicos del Sector Privado (Ceesp), said that it does not expect much of an improvement in the economy next year. The finance ministry has already lowered its growth forecast for 2004. It now reckons that the economy will grow by 3.1%. It had been forecasting a rate of 3.5%. The Ceesp calls the new target conservative, but realistic. This year, the ministry set off hoping for 3% growth: it now accepts that growth will be around 1.5% and inflation will be around 3.8%.
Even the 3.1% growth rate implies quite a pick-up on the current rate of growth. After the poor first half of this year, for the economy to grow by 1.5% this year it will have to grow by 1.8% in the second half of the year. Even if the economy does hit the 1.5% annual growth rate, it is not much to write home about. In per capita terms it is insignificant. Assuming that the government hits its revised target for 2003, per capita income in its first three years will have fallen by 2%.
In the first half of the year, the economy grew by 1.2%. In the third quarter, growth will be about 1.5%. This means that in the final quarter growth will have to be at least 2% for the government to hit its target.
Only mediocre
As one of the country's leading economic commentators, Enrique Quintana, put it: the good news is that the economy is growing. The bad news is that the growth rate is only modest. To be fair, there are signs from the demand side that the worst might be over.
Unemployment fell back slightly in September. The open unemployment rate dipped under 4%, to 3.87%, confounding sceptics. The drop in the rate means that 106,000 jobs were created in the month. Sceptics point out that the figures are probably flattered by the restart of the academic year, which has reduced the number students classifying themselves as job seekers.
What should be concerning policymakers is that the pick-up in employment this year has been weaker than usual. The number of people in proper jobs (ie, paying into the social security fund, IMSS) on 15 October was 53,742 down on the same day of 2002. This year there were 12.288m people in IMSS registered jobs. Of these jobs 87% were permanent and 13% were temporary. This means that the number of people in IMSS registered jobs is 0.4 of a percentage point lower than at 15 October 2002.
More detailed statistics point to a very weak labour market, especially for the better paid and economically stimulative jobs in the manufacturing industry. The official statistics agency Inegi provided evidence of the problems facing Mexican manufacturing. In August, the number of people employed in manufacturing was 4.3% lower than in the same month of 2002. The number of hours worked was down by a thumping 6.7%. Despite the slackness of the labour market, wages in manufacturing are still going up. They were up 1.3% in real terms over the past year. The industries worst hit are metal bashing (down 9%) and textiles (down 7%). The wood industry saw its payroll fall by 5.5%.
Although the latest unemployment figure (for September) puts the jobless rate at 3.87%, down from 3.96% in August, this fall is little to brag about. Unemployment in Mexico is defined as people over 12 who are looking for work but have not had even one hour of paid employment in the week before the survey. The country has a labour force of 42m people; so 1.63m are without any sort of paid work. Around 10m people are reckoned to work in the informal economy.
Retail sales
Equally worrying on the demand side is the weak state of the domestic market. The retailers association (Antad), which, however, excludes the country's biggest retailer, Wal Mart de México, showed year-on-year sales in September rising by just 0.5%. For the third quarter, Antad sales were up by 1.6%.
The detailed figures show that self-service stores are doing significantly worse than specialist and department stores. Self-service stores' sales were down by 2.9% in September while they were down by 1.2% in the quarter. This weak performance shows that ordinary people are more cautious about spending than the middle classes, who tend to frequent specialist and department stores.
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Problems
on the supply side
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Not only does the
government face a looming budget crunch, but it also has to contend with
a domestic economy that is still weakening. Whether the government will
hit its lower 2004 growth target must be moot. Industrial activity is
still declining.
In August, the year-on-year
decline in industrial output was 2.9%, much worse than the consensus forecast,
which had been for a 1.6% decline. Indeed, the August output figure showed
the biggest year-on-year drop for four months. Over the first eight months
of the year, industrial output was down by 1.2%.
Manufacturing is still by far the worst performing sector: in August its
output was 4.8% down on the same month of 2002. Maquiladora output was
down by 3.1%. Overall, in the first eight months, manufacturing is down
by 2.5% on the same period of 2002.
The best performing
industrial sector is the oil business: in August, production was up by
6.1%, year-on-year. Pure mining (ie, of metals, coal and rocks) was down
by 4%. There were significant falls in gold, silver and coal production.
The construction industry
is also having a decent time, thanks to government spending: in August,
construction output was up by 2.4%. This boosted associated industries
such as brick making and concrete mixing. Overall, in the first eight
months of the year, construction is 3.3% ahead of the same period of 2002.
The big problem for
Mexican manufacturing is that it has yet to benefit from what appears
to be a decent recovery in the US. Manufacturers say that export orders
from the US have yet to come through in significant volumes. The other
problem policymakers face is that, with a squeeze on government revenues
likely next year, construction spending is likely to come down. The government
will not be able to afford to continue with its road building projects,
if it is serious about holding the fiscal deficit to 0.3% of GDP
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Assumption for 2004 budget
It is against this comparatively grey economic backdrop that the government is making its budget assumptions. Rubén Aguirre, one of the two deputy finance ministers, responsible for income, briefed the congressional budget committee on the key assumptions for 2004 in mid-October. The budget is due to go to congress by 1 November. It has to be passed by congress by 15 December.
The key assumptions are: an average exchange rate of 11 pesos to the dollar, an average oil export price of US$18 a barrel, and an average export volume of 1.86m bpd. Aguirre also said that the government would aim for a fiscal deficit of just 0.3% of GDP.
The peso
The forecast for the currency is bullish. The peso touched a record low of 11.32 to the dollar in mid-October. It has fallen by 8% in the past five months and some economists had been pencilling an end-year rate of 11.5 to the dollar. It is worth recalling that the currency tumbled to 11.22 against the dollar and then recovered to almost 10 to the dollar in May.
The latest bout of peso jitters has coincided with a weakening of the US dollar. There are, however, some fundamental reasons for the weakness of the peso. One is that foreign direct investment into the country has slowed down quite sharply. Another reason is that exports to the US (and thus the inflow of dollars) have been weak. The government and its supporters argue that foreign investment will only pick up when its energy and electricity sector reforms are implemented. They also point out that the peso weakness is, to some extent at least, seasonal: the currency always seems to weaken in October.
Another reason for the weakness of the currency was the widespread fear that the government would have to abandon the policy of allowing the central bank to auction surplus dollar reserves. The fear was that the inflow of reserves in the third quarter had diminished to such an extent that the central bank would no longer be deemed to have surplus reserves.
In the event, the central bank saw a net inflow of US$791m over the quarter. This means that it will auction US$6m a day from 3 November. The mere fact that the government is auctioning dollars should help the peso to strengthen against the dollar.
Oil price forecast
The most striking of the government's assumptions is the bullish forecast for the oil price. Aguirre conceded that the low oil-price forecast meant that, without a fiscal reform, the government's income would drop by 4.9% next year. In fact, export earnings from oil are likely to drop by around 25% on the government's own price and production forecast. So the finance ministry is counting on a major pick-up in domestic energy demand in order to hit its revenue targets.
This year, the government has been exporting around 1.85m bpd of oil at an average price of around US$24.8 a barrel. The 2004 forecast puts oil export revenues at around US$33m a day, or US$12.2bn a year. This year oil revenues are running at around US$46m a day, or US$16.1bn a year. On these figures, the decline in oil export revenues is likely to be around 25% in 2004. Aguirre must therefore be hoping for domestic fuel consumption to pick up strongly to boost government income.
Oil tax revenues in the first eight months of this year were US$31.7bn. A 30% reduction in oil revenues would mean a 10% cut in budget spending, according to the government's previous rule of thumb.
Aguirre added that, given the inflation forecast of 3%, there would be a real drop in government revenues of about 7% next year, unless the government's yet-to- be-unveiled fiscal reform was approved. As things stand, the total tax take for 2004 is expected to be around 11.45% of GDP, by far the lowest of any member of the Organisation of Economic Cooperation and Development.
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Oil
exports: bit of a boom
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The state oil company,
Petróleos Mexicanos, reported that oil exports in the first nine
months of the year averaged 1.86m bpd. This meant that export earnings
were US$12.5bn. This was US$2.94bn more than for the same period of 2002.
In the first nine
months of the year, the average price was US$24.8 per barrel. This was
well above the budget forecast of US$18.5 a barrel.
The overwhelming bulk
of the crude oil Mexico exports is heavy Maya stuff: average export volume
was running at 1.628m bpd. Exports of light Isthmo are running at 19,000bpd,
while exports of the super light Olmeca are running at 213,000bpd.
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Reforms unlikely
The government is making only desultory efforts to get its reforms through congress. The deadline it has to meet to get the budget approved by congress means that a substantial tax reform will probably have to wait until after the fiscal convention next February. The government is clearly hoping to make the changes it failed to make when it first took office: it wants to lower value-added tax (VAT) from 15% to 10%, but extend it to food and medicine. It also wants to cut income tax rates from 33% to 30%
President Fox has dropped some hints about the shape of the fiscal reform. He said that the government would keep a number of basic foods and medicines free of VAT. Congress feels again, as it did in 2001, that the government is trying to bounce it into approving a reform. Both the chairman of the budget commission in the lower chamber, Gustavo Madero, a member of Fox's Partido Acción Nacional, and the leader of the Partido Revolucionario Institucional in the lower chamber, Elba Esther Gordillo, claim that Fox is speaking as though they had signed up to the government's plans.
The big argument against tax reform is that there is no guarantee that the money will be used by the government in a productive way. Indeed, the Fox government's record on efficiency is dismal. Under Fox, the administrative cost of the government has increased by 9% in nominal terms, or 5% in real terms. There is no evidence that this has led to better services.
Borrowing
The challenging economic problems facing the government have not deterred international investors from piling into Mexican debt. Domestic borrowers are more cautious. Yields on the benchmark 28-day cetes are now at 5.5%, the highest for four months.
Yet the combination of underlying problems and weaker domestic markets did not prevent Mexico from selling US$1bn of 10-year bonds at just 179 basis points over US Treasuries.
The new US$1bn bond, led by JP Morgan Chase and Morgan Stanley, was part of 2004's financing programme, the finance minister, Francisco Gil Díaz, said. The country has US$3.5bn in debts maturing next year. Officials are also clearly worried by the prospect of Pemex being downgraded. This would affect other government-guaranteed borrowers.
Moody's, one of the main international credit rating agencies, put Pemex on notice for a possible downgrade in early October. The other main rating agency, Standard &Poor's, held its rating: Pemex took advantage of S&P's reaffirmation of faith to sell US$500m of bonds on 16 October.
