Mexico: Breaking The Curse
Jose Angel Gurria, Mexico's voluble Finance Secretary, has a story he likes to tell audiences of foreign investors. Mexicans, he says, have been battered by so many financial crises that they are gripped with fear each time the country faces a presidential election. It's almost as if they think a gypsy fortune-teller has laid a curse on Mexico. At the end of each six-year presidential term, or sexenio, he says, the old woman reappears and cackles: "You are doomed. Doomed to devalue your currency! Doomed to have a crisis!" As he gestures wildly, the tale always draws an appreciative chuckle from his listeners.
To ordinary Mexicans, however, it's no laughing matter. Over the past quarter-century, their savings, purchasing power, and hopes for the future have been decimated by a succession of financial meltdowns--in 1976, 1982, 1987, and 1994. Today, five years after the Dec. 22 peso devaluation that plunged Mexico into its worst recession in 60 years, real wages are still as much as 20% below their 1994 levels. The economy is now growing at an annual rate of 3.4%, and according to official figures, unemployment is down to just 2.5%. But many of the millions of Mexicans who lost their jobs during the crisis are barely making ends meet working as street vendors, windshield washers, or parking-lot attendants. "Some good progress is being made, but the great majority of Mexicans still feel a heavy burden, as if the economic activity hasn't been sufficient to lift them up," says economist Mauricio Gonzalez, head of Grupo de Economistas y Asociados (GEA), an economic and political consulting firm in Mexico City.
Will another crisis hit in 2000? In a recent poll, 66% of Mexicans surveyed responded to that question with a "yes." But top Mexican officials, from President Ernesto Zedillo on down, swear it won't happen. The election-year lapses in discipline that caused earlier devaluations--overspending, over-indebtedness, and overconfidence--are history, they say. If that proves to be true, it will mean that for the first time in 24 years, Mexico's next president--and his citizens--will start his term on a solid footing. Sustained economic growth is essential if the country is ever to reap the benefits of a decade of tough structural reforms and lift tens of millions out of poverty. Economic stability would also enhance Mexico's reputation as a world-class manufacturing center.
"NEW ECONOMIC STRUCTURE." No doubt, Mexico's fundamentals are in much better shape today than they were five years ago. Gross domestic product is nearly 20% greater than it was in 1994. Exports have doubled, thanks in large part to the North American Free Trade Agreement. Foreign direct investment, which averaged $5 billion a year under former President Carlos Salinas, is up to an annual level exceeding $10 billion under Zedillo.
The good news doesn't end there. This year's current-account deficit will be less than half the 7% of GDP it was in 1994--and three-quarters of the gap will be covered by foreign direct investment. That's a big difference from 1994 when the bulk of the deficit was financed by volatile short-term inflows. What's more, now that the peso floats freely, there is less of a risk that it will become dangerously overvalued and come under speculative attack. "This is the new economic structure of Mexico, which is much less vulnerable than before," says Gurria.
Investors don't have to take Gurria's word for it. They can log on to government Web sites and see for themselves. Both the Finance Secretariat and the central bank, Banco de Mexico, put a wealth of economic data online, and much of it is updated daily. This is a far cry from 1994, when secretive officials released figures on foreign reserves just three times a year. The new openness is the price Mexico had to pay for the $50 billion bailout package arranged by the International Monetary Fund and the U.S. Treasury in 1995. "We're very aware that we are under a magnifying glass," says Guillermo Ortiz, governor of the central bank.
RISK MANAGEMENT. Led by Zedillo, the Yale University-trained "Economist-in-Chief," Mexico's technocrats have done everything in their power to minimize the risk of another end-of-term cataclysm next year. Foreign debt has been rescheduled so that only $2.4 billion in government obligations will come due in 2000, vs. more than $33 billion in 1994. And the central bank has accumulated $30 billion in foreign reserves with which to prop up the peso if need be. "If we do have a crisis, it won't be because of structural economic problems but rather will be the result of a huge external or internal shock," says Jonathan Heath, an economist with LatinSource Mexico, a consulting firm, and the author of a new book analyzing the causes of Mexico's devaluation debacles. Geoffrey Dennis, Latin American equities strategist at Salomon Smith Barney in New York, seconds that view. "They've given themselves the best possible opportunity, from a purely macroeconomic point of view, of avoiding a crisis in 2000," he says. "Of course, you never say never in Mexico."
The main external threat to Mexico's economy right now is a slowdown in the U.S., the market for 88% of its exports and the source of 60% of its foreign direct investment. Mexico could also suffer in the event of another emerging-market crisis, though it has weathered shocks from Asia, Russia, and Brazil fairly well. At home, the primary danger is political mayhem in the run-up to the July 2, 2000, presidential election, expected to be the most open and hotly contested in the country's history.
Polls show that as many as 52% of Mexicans believe political violence may break out next year. It's no wonder they're worried. In 1994, Luis Donaldo Colosio, the candidate of the Institutional Revolutionary Party (PRI), was gunned down at a rally in front of hundreds of supporters. Although the crime has not been solved, Mexicans are convinced Colosio was the victim of intraparty rivalries that may still exist.
Yet the PRI, which has ruled Mexico for 70 years, may have found a way to mend its internal rifts. In November it held its first-ever primary to choose its presidential candidate, a democratic exercise that served to appease party dissidents. With the party's formidable electoral machinery at his service, former Interior Secretary Francisco Labastida now has a strong chance of landing the country's top job come July. According to a Nov. 29 poll by Reforma, a leading Mexican daily, Labastida would win with 43% of the vote if the election were held today.
His main rival in the race is Vicente Fox, the candidate for the center-right National Action Party (PAN). Fox, who was favored by 27% of respondents in the Reforma survey, is a former Coca-Cola Co. executive whose pro-business and anticorruption platform appeals to many in the middle class and in executive boardrooms. Trailing a distant third in the polls, with just 8% support, is the candidate for the left-of-center Party of the Democratic Revolution (PRD), Cuauhtemoc Cardenas, the former Mayor of Mexico City and the son of a revered former president. Analysts are concerned that violence could erupt on the campaign trail or after the vote if election results are disputed by one or more of the parties involved. "The economic risks are definitely as low as they've ever been, but the political risks are high because our political institutions are weak," says Heath.
NO NEW DEBT. Mexican companies are taking no chances. Leading business groups are fretting over whether the peso is becoming overvalued, setting the stage for a painful correction in 2000. The currency has appreciated by some 15% against the dollar in real terms this year on the back of rising oil prices and booming exports. As is traditionally the practice in election years, treasurers of leading corporations are shunning new debt and have begun switching out of pesos and into dollars--just in case. Blue-chip brewer Femsa Cerveza in November bought political risk coverage from insurer Zurich U.S. for a $150 million private-placement bond issue in order to make it more attractive to investors. "Mexico is still considered an emerging market, and there are still some concerns out there," says Daniel Riordan, vice-president and managing director for the political risk division of Zurich U.S.
One factor troubling investors is the state of Mexico's banking sector. Although the government has plowed $100 billion of taxpayers' money into rescue programs, most banks are still too fragile--or too cautious--to lend. Indeed, credit to the private sector amounts to only an estimated 12% of GDP at present, down from 40%-plus in 1994. Approval of a new bankruptcy law that would make it easier for banks to collect on bad loans could help speed a recovery. But the legislation is being held hostage by the opposition-dominated lower house of Congress.
For all the damage it caused, the 1994 peso devaluation did have a silver lining: It helped turn Mexico into the world's 13th-largest exporter. The country will ship some $130 billion worth of goods this year, more than double the 1994 total. Much of the credit for this boom goes to NAFTA. But the devaluation also slashed Mexico's labor costs, making local industry more competitive. The unit cost of labor is now half what it was in 1980.
Mexico is witnessing big shifts in its labor market. Under Salinas, the country went through a job-destruction phase, as its increasingly open market forced companies to shed workers to improve productivity. From 1990 to early 1996, Mexico registered a steady drop in manufacturing employment. But since then, there have been continued gains in such jobs. The main engine for this growth: the export-oriented processing plants known as maquiladoras. Mexico is now home to more than 3,000 of them, which produce everything from cars to pharmaceuticals to electronics. And new ones are sprouting up each day, as U.S. companies faced with a tight labor market at home shift production south of the border. In all, the plants employ more than 1 million Mexicans. And maquiladora jobs usually fetch a 20% wage premium over those in the nonexport sector.
GOING UNDERGROUND. Mexicans whose livelihoods depend on the domestic economy are not doing as well. Activity--and wages--in labor-intensive industries, including restaurants, hotels, banking, retail, and construction, is stagnant. More than 3 million lost their jobs in the '95 recession. Some found work in new areas, such as the recently launched pension-fund companies and in telecommunications. But countless others slipped into the underground economy, which accounts for nearly one-third of Mexico's GDP.
Antonia Menezes, a 38-year-old mother of three, is a typical underground economy worker. She lost her job as a shop clerk in 1995. Nowadays, she sells Christmas decorations from a makeshift stand on a sidewalk in downtown Mexico City. She earns just 300 pesos--a little over $32--in a 60-hour week. Her husband, a construction worker, is unemployed. Menezes is convinced that another devaluation is on the way. "You can feel it," she says, "because things are really bad. Nobody can find work."
Mexico has been creating an average of 870,000 jobs a year for the past three years. But this is not sufficient to accommodate the 1 million young Mexicans who enter the workforce each year, not to mention displaced workers or women forced to seek work outside the home.
This large pool of surplus labor is one of the reasons real wages have remained depressed for so long. Although wages have been rising gradually since mid-1998, economists don't expect incomes to return to pre- devaluation levels until 2004 at the earliest--and that's only if the economy grows at a robust 5% a year. "The average working-class guy, who could barely make ends meet in 1994, now has to send his wife out to work for the family to survive," says Gonzalez of GEA. "And the average middle-class family that before could save maybe 20% of their earnings to buy a house or car now earns 20% less and cannot save at all."
GROWTH MODE? For many Mexicans, 2000 will be a watershed year: If they can get through it unscathed, then they will allow themselves to be optimistic. "I really hope we've matured enough as a country to get through a tough political fight next year without it affecting the economy," says Alberto Calva, a business management consultant. At 39, Calva has already lived through four crises. He was 15 when Mexico devalued in 1976. He was in college when Mexico defaulted on its foreign debt and nationalized the banks in 1982, plunging the country into the "lost decade" of the 1980s. He went on to earn a master's degree in economics "so I could understand what was going on." In 1987, he was running a furniture exporting company and had to cope with currency controls.
By the time the 1994 devaluation hit, Calva had become a full-fledged crisis expert and was advising other companies on how to weather hard times. Although cautiously optimistic, Calva is not certain that Mexico can pull off a smooth political transition in 2000. "Unfortunately, no armor-plating of the economy is going to be sufficient if there is a very big political or social crisis," he warns.
Mexicans can only hope he's wrong. If the country manages to avoid a crisis next year, it could be on a path to sustained economic growth. "If we move into the next administration in a growth mode, a mode of stability, the contribution is going to be much greater than the avoided cost of a crisis. We will be able to put the curse to rest and to prove that there was no gypsy!" Gurria says. Mexicans would be relieved to leave the superstition behind at last.