Previous Quarterly Editions
Expropriation Risk: 64 64 65 62 ▼ Political Violence Risk: 58 59 60 59 ▼ Terrorism Risk: 65 65 65 65 ► Exchange Transfer and Trade Sanction Risk: 55 55 55 45 ▼ Sovereign Default Risk: 37 37 37 47 ▲
TREND▼
President Andres Manuel Lopez Obrador (AMLO) is halfway through his six-year term and is facing severe challenges. The midterm June elections brought mixed results for his government. His Movement for National Reconstruction (Morena) won several state governorships but saw significant defeats in its stronghold, Mexico City. Although Morena lost ground in the Chamber of Deputies, it will still have 198 seats out of 500 (down from 247). With two traditional allies, the party can manage a comfortable working majority of 278 seats. Therefore, passing legislation should not be difficult.
However, for AMLO to modify the constitution a two-thirds majority is required. Given the current composition of the legislature, this will make introducing radical changes difficult. Even with that reduced political elbowroom, AMLO seems determined to steer the economy into a more statist direction, clashing with business groups and investors.
With Mexico suffering a fresh wave of COVID-19 infections and deaths due to the virus’s Delta variant, recovery has turned uneven, with economic activity contracting by 0.9% in June with respect to May. The economy will probably grow in the range of 5-6% during the year, mainly thanks to US demand for Mexican exports.
Government estimates are that 3.8 million people fell into poverty in 2020 due to the massive economic contraction -- gross domestic product or ‘GDP’ fell by 8.5%, caused by COVID-19’s effects and the lack of a countercyclical fiscal policy. The government steadfastly refused to provide any significant help to businesses to avoid job losses, given the fiscal cost, and argued that it would help the well-off rather than workers.
TREND ▼
While the expropriation risk is greatly concentrated in the energy sector, as detailed below, foreign investors should expect problems associated with greater corruption in the whole of the government apparatus, at municipal, state and federal level (the latter was rarer in previous governments) in addition to less expertise and know-how from government bureaucrats. AMLO has appointed numerous officials due to their loyalty, with scant attention to their knowledge or experience.
The government is seeking to strengthen state-owned enterprises. Initially AMLO’s administration had sought to do this by using regulation changes and administrative actions to limit the role that private firms played in the oil and electricity sectors, including cancelling projects that were to be tendered. However, these moves have been challenged in domestic and international courts by the firms affected, so the Mexican government has shifted to using law modifications to achieve the same end.
The revamped Electric Industry Law, enacted in March, aims to side-line renewable energy while prioritising energy generated by the government’s Federal Electricity Commission (CFE) -- the government argues that renewables cannot offer a reliable continuous power source and that private firms have benefitted from hidden government subsidies.
The modified Hydrocarbons Law, enacted in May, allows the government to occupy temporarily private installations or even suspend existing permits in the event of vaguely defined emergencies. Injunctions have been granted to private companies that have sought legal protection against the legal changes, but the government is appealing against them.
The president’s aims and ways are clear after almost three years in office: to stop new private investments in the energy sector and prevent as much as possible established businesses from operating, to bolster CFE and the state-owned oil giant, Pemex. The resulting costs, budgetary, legal and reputational, are apparently not relevant to him.
AMLO is open in his dislike of some companies, notably Spain’s Iberdrola (which has stopped all new investments in the country) and considers that sovereignty issues (as defined by him) are superior to legal stipulations or even international treaties, including the USMCA trade agreement. What AMLO cannot do any longer is to change the constitution with ease, but he does have considerable influence over the Supreme Court. Legal battles, domestic and international, will be protracted.
Fresh waves of crime and violence will probably erupt in many urban areas as the pandemic eases, as poverty levels will remain high along with poor employment prospects for many. Moreover, renewed activities by drug cartels and other criminal groups may cause added Mexico-US tensions, with trust already damaged due to the open sympathy that AMLO has shown towards several cartel leaders. Furthermore, apparently several state governorships were won by Morena candidates thanks to the support of cartels. The Biden administration in the United States has not openly questioned the government’s actions and apparent support for criminal chieftains, but it cannot be unaware of them.
TREND ►
Although Mexico has little experience of international terrorism, many drug cartels use terrorist tactics to intimidate local communities and businesses. They have also branched out into other criminal activities, such as the selling of ‘security’ to businesses (protection rackets), which has become a widespread problem even for small and medium-sized firms, consequently depressing investments.
While AMLO has shown some preference for a strong peso, he has not attempted to alter exchange rate policy (that can be modified by the finance ministry) nor curtail the Bank of Mexico (Banxico)’s independence. However, he has tried to obtain monies from Banxico for the exchequer, including part of the profits from its operations.
At the end of August, the finance ministry announced that it would ask the central bank to transfer to it the Special Drawing Rights (SDRs) that Banxico obtained from the International Monetary Fund as part of a general allocation of SDRs. The government wants to use the resources to refinance debt. It is unclear whether such action is legally possible.
AMLO designated the finance minister, Arturo Herrera, as new Banxico governor, in an unusually early move. Herrera resigned in July but will not take office until January 2022. Herrera has never worked at the central bank before. It is possible that he may prove more amenable to AMLO’s financial demands. On the other hand, no deviation from monetary orthodoxy is anticipated.
TREND ▲
Pemex is the world’s most indebted oil company. The administration’s insistence on increasing oil production and refining has caused the firm’s financial losses to skyrocket. The company has needed significant capital injections by the government, which has also agreed to cover part of Pemex’s debt service in 2021 (it possibly wants to use the SDR allocation for that purpose). Two of the three main rating agencies classify Pemex’s bonds as junk. The most significant danger for the government is that its own debt may be downgraded, due to the need to rescue the company.
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