Previous Quarterly Editions
Expropriation Risk: 32 38 43 50 Political Violence Risk: 79 79 76 78 Terrorism Risk: 65 65 65 65 Exchange Transfer and Trade Sanction Risk: 55 54 55 57 Sovereign Default Risk: 45 46 47 50
TREND ▲ OUTLOOK ▲
Andres Manuel Lopez Obrador, popularly known as AMLO, began his single six-year term as President of Mexico on December 1. As expected, his presidency has started with a whirlwind of change and activity following five months of preparation between his election victory in July and his inauguration. AMLO’s political party, the Movement for National Reconstruction (Morena) which he founded in 2014, enjoys large working majorities in both houses of Congress. By contrast, the political parties that have dominated the Mexican scene since the 1930s are greatly diminished and in deep disarray. As a result, AMLO wields a degree of political power unseen in decades. As a left-wing economic populist, he is an avowed believer in the public sector while at the same time a social conservative, expressing both traits with a formidable popular touch. As a former mayor of Mexico City he is also a pragmatist, at least somewhat aware of budgetary and macroeconomic constraints and with a respected academic economist as his finance minister. By contrast, other senior members of the government, notably in the energy sector, are radical statists and the new government’s policy is a mix of orthodox and heterodox measures. An AMLO team worked together with officials from the outgoing Pena Nieto administration during the latter half of 2018 to negotiate the final stages of the US Mexico Canada Agreement (USMCA) that is intended to succeed the North American Free Trade Agreement (NAFTA). However, AMLO surprised the business community within days of taking office by ending work on a new airport for Mexico City even though 30% of the 13 billion dollar project had already been completed. The government has also started work on a new oil refinery as the country imports 80% of its petrol despite exporting crude oil, setting ambitious goals for oil production even though there is little indication of how Pemex, the moribund state-owned oil company, is expected to achieve them. The Morena-controlled Congress has already enacted legislation promised by AMLO during his campaign that slashes the salaries of top government officials. Additionally, many senior officials in various ministries and agencies have been fired, purportedly to save money but in some cases to reduce opposition to new government policies. The extent of damage to the government’s operational capacity and institutional memory will take some time to emerge but could prove costly.
Although AMLO has pledged full compensation for all the parties involved, the cancellation of the Mexico City airport project has shaken investors, many of whom were prepared to accept AMLO as essentially pragmatic despite his rhetoric. He has also imposed a three-year freeze on the granting of new concessions for oil exploration, as well as auctions for electricity generation, in order to give his administration time to assess the state of the energy sector. By doing this, he has effectively repudiated the ambitious liberalisation of the energy sector implemented by the previous administration without specifically stating that he is reversing it. Resource nationalism looks like being a central pillar of the administration’s initial polices, limited only by legal challenges. Although the Supreme Court still represents an important counterweight, AMLO showed limited regard when mayor of Mexico City for institutional checks and balances on the executive.
The new government appears to have reversed campaign pledges to reduce the role of the army in fighting criminal gangs, particularly drug cartels. It now plans to set up a fully militarised National Guard that will increase the military’s role in domestic operations. AMLO has also begun a national programme that will offer monthly payments for a year to young people who are not studying and lack work, the group most tempted to join criminal organisations, to help them enter the labour market.
TREND ► OUTLOOK ▲
While no formal terrorist groups exist in Mexico, many drug cartels use terror tactics to intimidate local communities and particularly local businesses. Moreover, cartels have branched out into other criminal activities, such as kidnapping, protection racks, and stealing and reselling gasoline from Pemex pipelines. Soon after taking office, AMLO promised new measures to fight fuel theft that included moving petrol by road tankers rather than pipelines. The result was fuel shortages across the country and the pipelines were reopened. Fuel theft remains a serious problem, as underscored by an explosion at an illegally tapped petrol pipeline north of Mexico City in January that killed more than 100 people, but tackling it risks violent clashes between security forces and well-armed criminal groups.
The peso, which has become a short-term indicator of market sentiment towards the AMLO administration, took a noticeable dip on news of the airport cancellation. The central bank has increased interest rates repeatedly in order to keep inflation in check and counter the volatility of the peso. In December, it raised the interest rate target to 8.25%, the highest level in a decade. Inflation ended 2018 at 4.8%, significantly above the central bank’s target band of 2-4%. However, there are no expectations that AMLO will tamper with the free-floating exchange rate regime, despite the popularity that would come with a stronger peso, or that he will follow his protectionist instincts and seek to enact barriers to trade.
The government made a generous offer to holders of the debt issued to finance the Mexico City airport project to avoid a default when officially cancelling the project, but the move has still generated serious concern. Even more worrying is the debt issued by Pemex, the world’s most indebted oil company, which was downgraded by Fitch at the end of January. The administration’s sketchy plan to boost production and refining capacity generated no enthusiasm when presented to international investors in New York in January. If the government persists in plans that seem unrealistic, a downgrade of the Pemex rating below investment grade is possible, and a negative impact on the wider federal government rating cannot be ruled out. Mexico would maintain its capacity to borrow in the international capital markets, but at a significantly higher cost.
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