Historically, Mexico has enjoyed relative currency stability for several hundred of years, one of Latin America’s more stable currencies. This all changed by the 1970’s when the global economy encountered the oil shock. It is at this time frame that the peso began to fall intro trouble. By 1982, Mexico defaulted on its external debt, years of high inflation and currency depreciation unraveled. In late 1994, the Mexican peso (MXN) was devalued resulting in economic turmoil and the country’s worst recession in 50 years sparked by high current account deficits, election turmoil and overall loss of confidence in the peso at that time. The peso fell upwards of 50 percent over the next 12 months resulting in an export boom for Mexico which ignited domestic GDP growth. By year 1998, the peso stabilized in valuation. In fact in year 2001, the peso was one of the world’s best performing currencies when measured against the US-dollar (USD). But what about since year 2002?
Below is a summary of our research notes for the Mexican peso as presented by BankIntro.com.
POLITICS: election reforms passes, better for democracy, better for Mexico.
Please contact BankIntro.com for further details on Mexico’s political situation, particularly with regard to peso valuation in relation to Presidential elections.
ECONOMY: stable, economy highly dependent on oil revenues, free trade agreements in place with 43 countries. Mexico is home to 109 million people of whom 40 percent live below the poverty line. Economic challenges remain due to the unique demographic profile of Mexico. The median age is 24, upwards of 60 percent of the population is below age 30 whereby crushing poverty remains in segments coupled with widespread underemployment. Conversely, there are several positive developments that have taken place which include a lowering of inflation, higher GDP growth, the budget is now balanced and the stock market has performed very well. Mexico has now garnered the world’s 13th largest economy. The country is enjoying relative economic stability as Mexico has an improving debt profile – dramatic decline in external debt.
Major industries for Mexico include energy – petroleum, tourism, auto, mining, food and beverages, textiles, consumers, chemicals, agriculture, remittances, manufacturing, illegal drugs, etc.
The Mexican economy is highly dependent on oil production as it accounts for 37 percent of revenues. The second largest segment in the economy is in the area of industrial assembly plants. This takes place under Mexico’s Maquiladoras program where Mexican corporations operating under special conditions whereby the company is allowed to temporarily import into Mexico on duty free basis, mostly items for assembly (ie. cars, electronics, etc.) for subsequent export. The rise of China as the globe’s manufacturing centre is placing strain on Mexico as wages in China are lower then Mexico. Mexican manufacturing has adjusted by moving some production even farther south within Mexico where wages are lower. Layoffs and plant shutdowns have occurred in northern Mexico due to the wage threat from China.
With upwards of 20 million Mexicans living in the United States, remittances from these relatives provide an important lifeline for millions living in Mexico. Estimated at upwards of three percent of GDP, year 2006 remittances fell to $23 billion USD primarily due to slowdown in U.S. economy. Remittances are the second largest source of foreign income behind oil, tourism ranks number three.
It is also very important for Mexico to diversify industries outside of petroleum and no better than in mining. Mexico is home to a wide array of precious minerals and metals. At present, there are hundreds of registered international mining companies operating in Mexico seeking wealth in gold, silver, copper, etc. The country’s mining industry is active and vibrant with modern mining laws in place to attract international investment. Minerals provide for vast wealth, Mexico is the world’s leader in the production of silver. The tide is positive as the global economy remains in a buoyant commodity boom, Mexico will be rewarded.
Other major foreign exchange sources include the illegal drug industry, year 2006 Mexican marijuana production came in at 10,400 tons per year. Tax reform was recently passed, the bill will help to eliminate loopholes and provide for an extra $10 billion USD equivalent each year to the national treasury. Further, bonanza oil revenues will also help to provide necessary monies for social programs and infrastructure. In the medium to long term, there is now concern that a looming financial crisis is possible from declining oil production from the country’s government run oil fields. This potential crisis may be mitigated if the Mexican authorities open up PEMEX and the petroleum sector to further foreign direct investment.
One of Mexico’s biggest challenges is the extensive size of the underground economy, upwards of 25 percent of the labor force participating. Mexico must try and formalize and improve tax collection. With the tax code recently updated, this will aid Mexican officials in tax collection as Mexico has one of the world’s lowest rates. Mexico must increase effectiveness of tax collection from around 17 percent of GDP (non – oil tax collection at only 10 percent) to 35 percent on par with advanced industrial countries if Mexico wishes to modernize.
Economic Statistics
Total GDP as measured by purchasing power parity stands at $1.15 trillion USD (2006) with corresponding GDP/Capita at $10,700 USD. Market GDP stands at $744 billion USD (2006). GDP growth rates have year 2007 projected at 2.9 percent of GDP, 2008 at 3 percent, year 2006 came in at a strong 4.8 percent clip. Other GDP growth rate quotes include 1996-2000 time frame averaged in at 4 percent, year 2000 at a stunning rate of 6.9 percent of GDP, year 2001 fell 0.3 percent, year 2002 at 1 percent. Inflation for year 2006 at 3.4 percent, October 2007 at 3.79 percent, year 2008 forecasted at 4.2 percent. Other inflation quotes have year 1995 at 52 percent, 1996-2000 at 16.7 percent. The current account deficit is modest at only $400 million USD, significant improvement from previous years, the trade component is in deficit at $4.2 billion (2006). From 2001-05, the CA deficit averaged in a band from 1 to 2.5 percent of GDP. Public debt stands at 20.7 percent of GDP (2005), external debt stands at $178 billion USD. The fiscal account is close to balanced. Official unemployment is at 3.2 percent, underemployment is significantly higher say 25 percent estimated. Major trade partners include United States at 61.5 percent (imports) and at 77.4 percent (exports), Canada at 5.9 percent (exports).
POSITIVE: investment grade rating by S&P in early 2002 – this will help to unlock foreign capital for Mexican companies to finance expansion, etc. Mexico ranked very high in terms of happiness, life expectancy & literacy levels. Member: APEC. Upwards of $100 billion USD in pension pool funds, capital markets getting developed. CONCERN: environmental difficulties, inequitable income distribution – concentration of economic power to the elite few billionaires, high population growth, only 1 in 4 Mexicans graduated from high school, illegal drug trade issues such as production & transshipment centre, money laundering, crime/violence, powerful drug cartels.
BANKING SYSTEM: history of crisis that has spooked various confidence lapses although this may change now since 1995 as globalization of Mexico’s banking system is currently taking place with the removal of foreign ownership constraints. The Mexican banking system has undergone a dramatic transformation since the banking crisis of 1994-95 that resulted in a system bailout of over $100 billion USD. A step to building a ‘New Mexico’ includes a modern industrialized banking system that is now taking hold with viable bankruptcy laws & the necessary bank reforms. Over the last several years, large foreign banking conglomerates have swept into Mexico seeing an eye for opportunity. The banking system consists primarily of six large banks that dominate the system. Foreign banking corporations have greatly increased stability as foreigners now hold 90 percent of industry deposits and control 85 percent of banking system assets (2004). Mexico’s independent central bank ‘Banco de Mexico’ supports a stable peso by meeting stringent inflation targets (inflation band target of 2 to 4 percent) and is committed to the peso. International reserves stand at $85 billion USD equivalent. Short term bank funding interest rate at 7.45 percent. The financial system is key future growth for Mexico with the development of credit markets to businesses and consumers (loans –car loans, mortgages, etc.) which has helped to spark increased domestic demand particularly in new car sales.
Oil & Natural Gas
Mexico is the world’s number six oil producer, currently not a member of OPEC. The Gulf of Mexico is one of the largest energy resources in the world. At present, the Gulf is a sleeping giant in natural gas reserves although current production is minimal. Natural gas reserves are estimated at 30 trillion cubic feet. Mexico – Canada, closer trade ties in ‘energy’ will help in the development of Mexican natural gas reserves. Canadian companies are preferred over their U.S. counterparts as potential hostility towards American companies may still exist after they were evicted en masse from Mexico in 1938 after at which time the Mexican oil industry was nationalized. Future energy development of these reserves will help to propel the economy forward for Mexico.
Petroleus Mexicanos (PEMEX) is the state owned oil company which represents about 12 percent of Mexico’s economic output. Mexico is the number two supplier of oil to the United States. Approximately 60 percent of its oil revenues go towards taxes/general revenue, the economy remains highly depended upon the fortunes of the world oil price. Critics of PEMEX have argued that the company should open itself up to foreign investment to become more efficient, this will foster an increase in exploration in order to find additional oil & gas reserves to propel a sustainable future for PEMEX.
Oil production for Mexico fell in 2006 to 3.2 million bpd, exports at 2.26 million bpd (2005). Proven oil reserves stand at 12.5 billion barrels (2006), without further exploration monies, reserves may be depleted sooner rather than later such as a 10 to 15 year time frame. The industry is badly in need of foreign investment in order to find more reserves, further exploration is a necessity for Mexico. Natural gas production is measured at 41.5 billion cu m (2006), consumption at 50.45 billion cu m (2004) with corresponding imports at 9.83 billion cu m. In September 2007, leftist guerilla group hit PEMEX by bombing an oil pipeline, other terrorist attacks took place earlier in the summer.
KNOWLEDGE: AMERO Common Currency for Mexico, U.S., Canada
A ncw concept currency is in the works similar to the Euroland euro for these three NAFTA partners. The ‘amero’ currency is the new name proposed for a common currency for Mexico, United States and Canada. The amero may possibly ultimately replace the existing currencies that are presently circulating in continental North America - Mexican peso (MXN), the United States dollar (USD) and Canadian dollar (CAD) The North American Free Trade Agreement (NAFTA) was implemented in January 1994, next logical step from economic association is to enhance the regional trading bloc to a currency union. In Mexico, there has been a historical distrust of paper money whereby the peso has collapsed in value at various times. Fears remain within the Mexican national psyche of another currency collapse. In year 2005, the Mexican senate discussed using silver as an anchor currency. China went on a silver standard in the 1930’s, this ended in complete disaster. The significance is the fact the Mexican authorities are discussing currency options to seek further currency stability. The timing for implementation of the amero currency is as early in 10 years, however more realistically in 20 years.
The amero will dramatically increase the standard of living of Mexico as currency exchange volatility risk will now be removed for foreign investors. Mexico, strategically located next to the world’s largest economy the United States is indeed well positioned to attract further FDI. The United States accepts 88 percent of Mexico’s exports.
Looking at global purchasing power, the Mexican peso has not performed well against many world currencies since year 2002. The peso has even lost ground to the USD by depreciating upwards of 15.5 percent locked in footsteps following the silent crash of the USD. Since January 2002, other exchange comparisons for the MXN have the peso down 52 percent to the CAD and upwards of 53 percent against the Euroland euro (EUR). Foreign direct investment into Mexico with the advent of the amero will now be able to focus in on business risk, completely removing an unnecessary level of risk, currency risk. An amero currency may ignite a wealth boom for Mexico which may very well slow the illegal immigration move into the United States. At present, it is estimated that upwards of 400,000 economic migrants leave Mexico annually, mostly to the United States.
Amero implementation will help the three governments to further co-ordinate a more effective energy and illegal drug synergy – security issues concerning organized crime. Illegal drug trade provides a lifeline, an informal economic subsidy particularly to Mexico, in excess of $20 billion USD of ‘hard’ currency to Mexico annually, one of its largest and most lucrative industries. The illegal drug trades helps to mitigate illegal Mexican immigration into the United States.
Today, the world is moving into regional currency blocs: Euroland euro, African Union, CFA franc in West Africa, Japanese yen, China – renminbi / yuan, South American peso, East Caribbean dollar, GCC for Middle East country states (in addition to a Islamic gold dinar), Russian rouble, etc. The concept of the amero currency only makes sense following global currency trends.
It should be also noted that the idea of an amero currency is not a new concept to North America. From years 1785 – 1792, the Mexican peso circulating at that time was the official currency trading throughout much of North America. The peso remained a legal circulating currency in the United States up until year 1857 and in Canada to year 1858. The amero currency would propel Mexico into a modern 21st century tiger, rich in energy and mining resources, foreign investors want currency volatility risk mitigated.
A brand new research component for the concept of the amero currency will be inserted into our currency index by mid December 2007.
CURRENCY: ISO Symbol ‘MXN’, Mexican peso. Prior to 1993 revaluation, ISO Symbol ‘MXP’ was in place. At time of currency review on October 24, 2007, the peso had an exchange valuation of 10.824 MXN to the USD and/or 15.427 MXN to the Euroland euro (EUR). The currency regime in place is that of a floating exchange rate with inflation targeting goals administered by Banco de Mexico. The float allows the Mexico to absorb external shocks, there are no exchange controls. As measured by purchasing power parity, the Mexican peso is 30 percent undervalued to the US-dollar.
CURRENCY HISTORY: original peso banknote inception came in year 1823. Historical exchange valuations include: March 2007 at 11.117 MXN to the USD, February 2006 at 10.483, July 2005 at 10.673, May 2004 at 11.507, January 2003 at 10.619, year 2002 at 9.65, January 2001 at 9.77, January 2000 at 9.49, January 1999 at 10.12, January 1998 at 8.21, January 1997 at 7.82, December 1995 at 7.68, May 1995 at 5.96, March 1995 at 6.71, January 1995 at 5.57, December 1994 at 3.88, November 1994 at 3.44, July 1993 at 3.12. Currency crisis dates include July 1985, December 1987, December 1994, August 1998.
Historically, from 1954 to 1976, the peso was on a fixed exchange rate system with the USD resulting in a relatively stable currency framework for Mexico with similar inflation rates. By 1976, the peso was devalued reigning in an era of monetary instability for Mexico. On January 1, 1993, the Central Bank of Mexico introduced the Nuevo peso following former President Salinas platform of ‘Stability and Economic growth pact’. It is interesting to note that back in year 2001, the Mexican peso was garnering nicknames like the ‘Swiss’ peso as it was one of the world’s strongest currencies gaining 6 percent to the almighty USD at a time when the United States was at its climax during the tech boom. Exceptionally high levels of FDI supported the peso during 2001.
CURRENCY FORECAST: as suggested by PPP, the peso over the long term should appreciate to the USD, perhaps to the 9 MXN to the USD level. The peso remains vulnerable to oil price corrections although now being offset by a boom in commodity prices for gold, silver, copper, etc. of which Mexico has extensive mineral resources. Other challenges remain for sustained economic stability such as cracking down on crony capitalism, corruption and illegal drug production & trafficking although drugs do provide for an important informal economic subsidy to Mexico.
With tax reform passed in September 2007, Mexico is also enjoying a greatly improved national debt profile as the majority of the long term debt is now held in pesos. Moreover, the fiscal account is close to balance, the peso has a floor of stability unlike previous times of high inflation and large deficits. The risk of United States recession is prevalent although mitigated due to the peso valuation being basically unchanged to the declining USD over the last several years. The competition of currencies has favored Mexico in relation to other countries exporting to the United States such as Canadian manufacturers who have had to deal with a sharp side swipe of massive currency appreciation over the last 5 years unlike Mexico. Even with recession on horizon, Mexico will be partly insulated as it takes market share from other countries with appreciating currencies. As suggested by interest rate differentials, this favors Mexico in relation to the USD as it is widely expected that the US Federal Reserve will continue to lower interest rates.
History of inflation difficulties, inflation rates are an important measure of currency stability However, great strides have been made in recent years with a greater move towards increased transparency and greater fiscal discipline. The currency instability for the most part of the 1970’s and 1980’s are a page in the history books. The economic and political climate is currently positive with the peso less prone to a speculative attack compared to various times in its past. Other currency risks include earthquake risk, don’t ignore it. Mexico including its highly populated Mexico City is long overdue for the big one.
As argued, in the long term, BankIntro.com believes that it is inevitable that the amero currency will ultimately replace the Mexican peso.
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