La economia mexicana. Hacer frente a un entorno desafiante

The Mexican Economy: Coping with a Challenging Environment Mr. Javier Guzmán Calafell, Deputy Governor, Banco de México 3rd BBVA Latin American Local Markets Conference London, 16 January 2017



The Mexican economy faces a difficult external environment:

 Modest growth of global economic activity and trade.  Weak exports and industrial production in the United Sates.  Low oil prices.  The normalization of monetary policy by the Federal Reserve.  A context of generalized uncertainty. 

The situation has been further complicated by the result of the electoral process in the US.



In addition, a number of challenges of a domestic nature remain:

 Decline in oil output.  Increase in the public-debt-to-GDP ratio.

The Mexican Economy: Coping with a Challenging Environment

2

As a result of both domestic and external factors, Mexico’s GDP shows a moderate rate of growth and signs of deceleration.

Mexico: Gross Domestic Product Accumulated Annual % Change through 3Q, s.a.

Mexico: Total Output Annual % Change, s.a.

6

IGAE*

GDP

3.0

2.70

5

2.5 1.95

4

October 3T

2011

2012

s.a./ Seasonally adjusted. */ Monthly GDP proxy.

Source: INEGI.

2013

2014

2015

2016

2.0

3

1.5

2

1.0

1

0.5

0

0.0

2015

2016

s a./ Seasonally adjusted.

Source: INEGI.

The Mexican Economy: Coping with a Challenging Environment

3

On the demand side, this is explained by the combination of a dynamic private consumption and weak investment, exports and public spending.

Mexico: Aggregate Demand Components Accumulated Annual % Change through 3Q, s.a.

3.0

2015

12

2016

2.5

10

2.0

8

1.5

6

1.0

4

0.5

2

0.0

<- Total Consumption

<- Private Consumption

<- Public Consumption

Total Investment -> Private Investment ->

0

Exports ->

s.a./ Seasonally adjusted.

Source: INEGI.

The Mexican Economy: Coping with a Challenging Environment

4

These trends in general continued during the fourth quarter of 2016â&#x20AC;Ś Mexico: Consumption and Investment Index 2008 = 100, s.a.

160

Private Consumption in the Domestic Market 145

Total ANTAD Sales 130

Gross Fixed Investment 115

100 October November

2008

2009

2010

2011

2012

2013

2014

2015

85

2016

s.a./ Seasonally adjusted.

Source: INEGI and ANTAD.

The Mexican Economy: Coping with a Challenging Environment

5

…but it is worth to note that exports have increased recently…

Mexico: Merchandise Exports Billion USD, s.a.

40

<- Total

<- Non-Oil

6

Oil ->

35

5

30

4

25

3

20

2

15

1

10 2008

November

2009

2010

2011

2012

2013

2014

2015

2016

s.a./ Seasonally adjusted.

Source: SAT, SE, Banco de México and INEGI.

The Mexican Economy: Coping with a Challenging Environment

6

0

â&#x20AC;Ś which together with the adjustment of imports has improved the trade balance, and particularly its non-oil component.

Mexico: Trade Balance Billion USD, s.a.

2

<- Total

<- Non-Oil

4

Oil ->

1

2

0

0

-1

-2

-2

-4

-3

-6

-4 2008

November

2009

2010

2011

2012

2013

2014

2015

-8

2016

s.a./ Seasonally adjusted.

Source: SAT, SE, Banco de MĂŠxico and INEGI.

The Mexican Economy: Coping with a Challenging Environment

7

On the supply side, the services sector continues to provide support to overall economic activity, but industrial production remains laggard.

Mexico: Industrial Production and Services Activity Index 2011 = 100, s.a.

120

Industrial Production 115

Services

110 105 100 October November

2011

2012

2013

2014

2015

2016

95

s.a./ Seasonally adjusted.

Source: INEGI.

The Mexican Economy: Coping with a Challenging Environment

8

Leading indicators suggest that the deceleration of economic activity may continue.

Mexico: Leading Indicator of the Economic Cycle Index 2008 = 100, s.a.

102 101 100 99 98 97 96 November

2008

2009

2010

2011

2012

2013

2014

2015

95

2016

s.a./ Seasonally adjusted.

Source: INEGI.

The Mexican Economy: Coping with a Challenging Environment

9

In this context, and in view of the prevailing uncertainty, growth projections for 2016-17 have been adjusted downwards, with an upturn expected in 2018.

Mexico: Real GDP Growth Projections Annual % 2016

2017

3.1

2018

2.9 2.7 2.5 2.3

1.7 1.5

Jan-17

Dec-16

Nov-16

Oct-16

Sep-16

January

Aug-16

2.2 – 3.2 Jul-16

2018

1.9

Jun-16

1.5 - 2.5

2.1

May-16

2017

Apr-16

1.8 - 2.3

Mar-16

2016

Feb-16

Jan-16

Banco de México’s Forecast

Source: Banco de México and Citibanamex.

The Mexican Economy: Coping with a Challenging Environment

10

Inflation increased during 2016 due to an upward trend of both its core and non-core components.

Mexico: CPI Inflation Annual % 6

Headline

Core

Non-Core

5 4

Variability Interval

3 2 1

Dec-16

Nov-16

Oct-16

Sep-16

Aug-16

Jul-16

Jun-16

May-16

Apr-16

Mar-16

Feb-16

Jan-16

Dec-15

Nov-15

Oct-15

Sep-15

Aug-15

Jul-15

Jun-15

May-15

Apr-15

Mar-15

Feb-15

Jan-15

December

Source: INEGI.

The Mexican Economy: Coping with a Challenging Environment

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0



Inflationary pressures rose in early 2017 and are expected to accentuate during the year, due to a large extent to the increase in the prices of gasoline and their programmed liberalization over the course of 2017.

 Against the background of higher international prices and the depreciation of the peso,

to avoid an adverse impact on public finances, gasoline and diesel maximum prices increased throughout the country by an average of 14.2-20.1% in January vs.

December.

 The current schedule foresees a gradual liberalization process across regions, to allow

prices to be fully determined by market mechanisms. This process should be completed by the end of the year.

 In the meantime, domestic fuel prices in the not-yet-liberalized regions will be adjusted

on the basis of their international reference, while also taking into account logistic and other costs, such as applicable taxes and profit margins.

The Mexican Economy: Coping with a Challenging Environment

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

In addition, inflation in 2017 may be affected, among others, by:

 The liberalization of gas prices.  The increase in the minimum wage in early 2017.  The possibility of a more depreciated equilibrium real exchange rate in light of

the results of the US presidential election.

 The risk of further increases in the prices of agricultural goods and livestock.

The Mexican Economy: Coping with a Challenging Environment

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Thus, survey-based inflation expectations have deteriorated, with the increase concentrated mostly in the short term.

Mexico: Inflation Expectations 1/ Annual % 4.8

Next 2-6 Years

End 2017

4.6

Permanent Target

4.4 4.2 4.0 3.8 3.6 3.4 3.2 January

2014

2015

2016

2.8 2017

1/ Median expectation.

Source: Citibanamex.

The Mexican Economy: Coping with a Challenging Environment

3.0

14

On the other hand, the differential between nominal and real yields on government securities has increased significantly.

Mexico: Inflation Breakevens1/ Basis Points 3 Years

10 Years

510

30 Years

475 440 405 370 335 300 265 January

Feb-15

Apr-15

May-15

Jul-15

Sep-15

Nov-15

Jan-16

Mar-16

May-16

Jul-16

Sep-16

Nov-16

230 Jan-17

1/ Difference between yields of nominal and real (inflation-protected) bonds. In addition to expected inflation, this measure includes other (e.g. inflationary, liquidity and term) risk premia.

Source: Banco de MĂŠxico with information from PiP.

The Mexican Economy: Coping with a Challenging Environment

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Domestic financial markets have been affected by the outcome of the US presidential election.

Mexico: 10-Year Government Bond Yields and Differential with Respect to US Treasury Note % and Basis Points 8

<- Yield

700

Differential ->

7

600

6

500

January

400

13-Jan-17

05-Jan-17

28-Dec-16

20-Dec-16

12-Dec-16

04-Dec-16

26-Nov-16

18-Nov-16

10-Nov-16

02-Nov-16

25-Oct-16

17-Oct-16

09-Oct-16

01-Oct-16

5

Note: Vertical line on 8 November 2016.

Source: PiP and US Department of the Treasury.

The Mexican Economy: Coping with a Challenging Environment

16

The Mexican peso has depreciated substantially since the second semester of 2014â&#x20AC;Ś Mexico: Exchange Rate with Respect to the USD Index 05-Sep-2014 = 100 170 160 150 140 130 120 110 100 2014

2015

2016

2017

Note: Vertical line on 8 November 2016.

Source: Banco de MĂŠxico.

The Mexican Economy: Coping with a Challenging Environment

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90

â&#x20AC;Świth pressures increasing after the presidential election in the United States.

Mexico: Exchange Rate Level and Volatility1/ MXN per USD and % 22.0 21.5

US presidential election

21.0

<- USD/MXN

Volatility -> Banxico increases target rate

Banxico increases target rate

20.5 Fed increases target range

20.0

Ford cancels plant in Mexico

27.5 25.0

Banxico intervenes in FX market Trump's press conference

19.5

30.0

22.5 20.0 17.5

19.0

15.0

18.5

12.5

18.0 Nov-16

10.0

Dec-16

Jan-17

1/ Implicit volatility in 1-month USD/MXN options.

Source: Banco de MĂŠxico and Bloomberg.

The Mexican Economy: Coping with a Challenging Environment

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Thus, the real exchange rate has shown a significant depreciation...

Mexico: Real Exchange Rate Index 1990 = 100 150

Bilateral (US)

Multilateral (111 countries) 125

100

75 November October

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

2010

2012

2014

2016

50

Source: Banco de MĂŠxico.

The Mexican Economy: Coping with a Challenging Environment

19

â&#x20AC;Śand the expected peso-dollar rate for end-2017 has increased, although an appreciation continues to be projected for December 2018.

Mexico: Exchange Rate Expectations1/ MXN per USD 2017

22

2018

21 20 19 18 17

Jan-17

Dec-16

Nov-16

Oct-16

Sep-16

Aug-16

Jul-16

Jun-16

May-16

Apr-16

Mar-16

Feb-16

Jan-16

January

1/ Median expectation.

Source: Citibanamex.

The Mexican Economy: Coping with a Challenging Environment

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16

Notwithstanding the above trends, non-residentsâ&#x20AC;&#x2122; appetite for government securities, and particularly long-term bonds, has remained robust.

Mexico: Non-Resident Holdings of Government Securities Billion Pesos 2,400 2,000

Total 1/ 1,600

Bonds 1,200

CETES 800 400 4 January

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

0 2017

1/ Total includes CETES, bonos, udibonos, bondes and bondes D. Source: Banco de MĂŠxico.

The Mexican Economy: Coping with a Challenging Environment

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

To sum up, monetary policy in Mexico faces a situation characterized by:

 A deceleration of economic activity.  Significant upside risks for inflation.  Potential for a deterioration of medium- and long-term inflation expectations. 

This, within the context of:

 Higher-than-usual uncertainty.  A normalization of monetary policy in the United States.

The Mexican Economy: Coping with a Challenging Environment

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

Since late 2015, the Banco de México has increased the target for the overnight interbank interest rate on 6 occasions, for a total 275 basis points.



This has responded partly to the tightening of monetary policy in the United States.



Most of the increases have been of a preventive nature, with recent developments showing the merits of this approach.



In December 2016, an adjustment to the monetary policy stance would have been justified even in the absence of an increase in the federal funds rate, given the deteriorated balance of risks for inflation.

The Mexican Economy: Coping with a Challenging Environment

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

The decision to increase rates in the presence of a subdued outlook for economic activity may be subject to question marks.



However, it is important to bear in mind that the alternative would imply more pernicious and longer-lasting effects for the country’s economic growth, given the risks of:

 An unanchoring of medium- and long-term inflation expectations.  The erosion of the Banco de México’s credibility.

The Mexican Economy: Coping with a Challenging Environment

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

With the current cyclical position of the economy, the risk of demand pressures on prices has declined.



Therefore, the implementation of monetary policy in Mexico in coming months is likely to be significantly influenced by the inflationary risks deriving from:

 The potential of a higher pass-through from the exchange rate to prices arising from the

recent evolution of the peso-dollar rate or from additional pressures on the peso.

 The normalization of monetary policy in the United States.  The need to ensure that the recent adjustments in relative prices do not give rise to

second-round effects and have only a temporary impact on inflation.



In any event, the Banco de México’s Board will continue to closely monitor the evolution of all determinants of inflation and its medium- and long-term expectations, and implement any necessary measures to consolidate the efficient convergence of inflation to the 3 percent target.

The Mexican Economy: Coping with a Challenging Environment

25



Intervention in the foreign exchange market remains part of the toolkit to cope with exchange rate volatility.



Strong economic fundamentals constitute the basis through which the anchoring of the peso will be sought.



However, discretionary intervention in the foreign exchange market cannot be discarded, should exceptional circumstances arise.

The Mexican Economy: Coping with a Challenging Environment

26

While Mexico’s sovereign rating remains several notches above investment grade and well positioned among emerging market economies, it has been placed under negative watch and the evolution of the country’s CDS has recently underperformed that of other EMEs. Emerging Market Economies: 5-Year Credit Default Swaps Basis Points Credit Ratings Standard & Poor’s Chile

January

Moody’s

AA-

Stable

Aa3

Stable

Poland

BBB+

Stable

A2

Negative

Peru

BBB+

Positive

A3

Stable

Mexico

BBB+

Negative

A3

Negative

Colombia

BBB

Negative

Baa2

Stable

S. Africa

BBB-

Negative

Baa2

Negative

Russia

BB+

Stable

Ba1

Negative

Turkey

BB

Stable

Ba1

Stable

Brazil

BB

Negative

Ba2

Negative

650 600

Turkey

550

Brazil

500 450 400

Russia

350

Mexico

300 250

Colombia

200

Peru

150 100 2014

2015

2016

2017

S. Africa

50

Chile Poland

Source: Bloomberg, Reuters, Moody’s and Standard & Poor’s.

The Mexican Economy: Coping with a Challenging Environment

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

This situation, coupled with the challenges the economy may face in coming years, underlines the need to strengthen economic fundamentals.



A monetary policy focused on attaining a low and stable inflation is central in this regard.



Mexico’s public finances represent a source of nervousness among market participants.



Thus, the measures announced by the government to set the public-debt-to-GDP ratio on a declining trajectory are of utmost relevance.



It will also be essential to preserve financial stability.



Finally, enhancing the economy’s competitiveness and the domestic sources of growth has taken on added importance. This implies the continuation of efforts of structural adjustment and reform of the institutional framework underway, and the implementation of actions in other areas as needed.

The Mexican Economy: Coping with a Challenging Environment

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