Outlook for the Mexican Economy

Outlook for the Mexican economy

Alejandro Díaz de León-Carrillo, Governor, Banco de México*

GIC Central Banking Conference in Partnership with Banco de México February 27, 2020

*/ The opinions and views expressed herein are the sole responsibility of the author and do not necessarily represent the institutional stance of Banco de México or of its Governing Board.

Outline 1

External conditions

2

Current situation of the Mexican economy

3

Inflation

4

Monetary policy

5

Forecasts and final remarks Outlook for the Mexican economy

1

During 2019, the world economy continued to decelerate. This reflected the impact of: 1) prolonged trade tensions; 2) high geopolitical risks, and 3) certain idiosyncratic factors in several economies. Although some of these risks subsided, others have emerged such as the coronavirus outbreak (Covid-19).

World Economy GDP Growth Quarterly annualized % change, s. a.

Q4-2019

12

Global Activity Indicators Annual % change of 3-month moving average and deviation from threshold of 50 December January

World trade

Emerging

China: Evolution of GDP Growth Forecasts for Q1-2020 Annual % change

6

February

6.0

5

World

8

Bank of America

4 4

6.5

Capital Economics

3

5.5 5.0

JP Morgan

4.5 0

Advanced

Barclays

2

Industrial production

4.0 1

UBS

-4

3.5

0

2.0

21-Feb-20

14-Feb-20

7-Feb-20

31-Jan-20

24-Jan-20

17-Jan-20

Source: CPB Netherlands and Markit.

2020

2019

2018

2017

2016

2015

2019

2017

2015

2013

2011

2009

2007

2005

2.5

-2

-12 s. a. / Seasonally adjusted figures.

Note: Estimations were used for Q4-2019 calculations. The sample of countries used for the calculations represents 85.6% of world GDP measured by purchasing power parity .

Source: Prepared by Banco de MĂŠxico with data from Haver Analytics, J.P. Morgan and International Monetary Fund (IMF).

Goldman Sachs

-1

10-Jan-20

-8

3.0

PMI: new orders

Source: Bloomberg and JP Morgan.

Outlook for the Mexican economy

2

International prices of commodities have registered high volatility. Although the prices of oil increased by the end of 2019, such trend has reverted due to the coronavirus outbreak in China.

Selected Industrial Metals Prices 1/ Index 01-Jan-2018=100

International Crude Oil Prices US dollars per barrel

180

90 85

Iron 160

80

Aluminum

75

140

Brent

70

120

Nickel

65

Total

60

100

55

Mexican crude oil mix

WTI

50

80

Copper

45 40

Mar-20

Nov-19

Sep-19

Jul-19

May-19

Mar-19

Jan-19

Nov-18

Sep-18

Jul-18

May-18

Mar-18

Jan-18

1/ The GSCI index is an indicator of 24 commodities prepared by Goldman Sachs. In particular the industrial metals component follows the prices of aluminum, copper, nickel, zinc and lead.

Source: Bloomberg.

Jan-20

February

60

Jan-20

Nov-19

Sep-19

Jul-19

May-19

Mar-19

Jan-19

Nov-18

Sep-18

Jul-18

May-18

Mar-18

Jan-18

February

Source: Bloomberg.

Outlook for the Mexican economy

3

Headline inflation in advanced economies remains below the respective central banks’ targets, while core inflation continues at low levels, reflecting the absence of inflationary pressures. Meanwhile, inflation expectations remain at low levels.

G3: Inflation 1/ Annual % change

Headline December

Core

3

3

December

2 2

1

1 0

0

1/ G3 includes the United States, Japan and the euro area. For the U.S. the Personal Consumption Expenditure (PCE) is used.

Source: Prepared by Banco de México with data from BEA, Eurostat and Japan’s Statistics Bureau.

2019

2018

2017

2016

2015

2014

2013

2019

2018

2017

2016

2015

2014

2013

-1

1/ G3 includes the United States, Japan and the euro area. For the U. S. the figure is calculated based on the Personal Consumption Expenditure Price Index that excludes food and energy (PCE). For Japan the price index excludes energy and fresh food and the direct effect of the consumption tax increase.

Source: Prepared by banco de México with data from BEA, Eurostat and Japan’s Statistics Bureau.

BEA, Eurostat and Japan’s Statistics Bureau.

Outlook for the Mexican economy

4

In this context of low inflation and risks for the world economy, in the short and, especially, in the medium terms, the central banks of the main advanced economies maintained or expanded their accommodative monetary policy stances.

G3: Government Bonds Interest Rates 1/ %

2-year

1/ G3 includes the United States, Japan and the euro area.

Source: Bloomberg.

5

5

February

2020

2019

-1

2018

-1

2017

0

2016

0

2015

1

2014

1

2013

2

2012

2

2011

3

2010

3

2009

4

2008

4

2007

2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

February

10-year

1/ G3 includes the United States, Japan and the euro area.

Source: Bloomberg.

Outlook for the Mexican economy

5

International financial markets exhibited higher risk appetite, supported by the accommodative monetary policy stances, the announcement of the preliminary trade agreement between the U.S. and China, and the signing of the withdrawal agreement between the U.K. and the European Union. However, they have recently been affected by the risk associated with the coronavirus.

United States: Financial Conditions Index 1/ Units

Global Risk Appetite Index Index February

7 Loosening

6

Euphoria

February

Stock Markets of Emerging and Advanced Economies Index 01-Jan-2018=100

101

February

Advanced 2/

115

5

110

4

Risk appetite

105

100

3 2

100

1

95

0

90 99

-1

85

-2

Panic

-3

80

Emerging 3/

75

-4 98

Note: The risk appetite index compares several financial assets, taking into account that in periods of high appetite for higher risk assets, such as equities of advanced and emerging economies, these tend to register high returns, while safe assets, such as government bonds of the United States, the euro area and Japan, tend to present negative returns. On the other hand, during periods of low appetite for risk, the opposite occurs. In this context, the index value refers to the coefficient of a regression of the daily yield of 64 assets based on their volatility.

Source: Credit Suisse.

1/ The financial conditions index is constructed based on the effect of five variables on economic activity: the reference interest rate, the 10-year government bond, the spread of the bonds with investment grade on the government debt bond with equivalent maturity, the ratio of the stock index with average earnings of 10-year equities and the trade weighted exchange rate.

Source: Banco de MĂŠxico with Bloomberg and Goldman Sachs data.

Outlook for the Mexican economy

Jan-20

Jul-19

Jan-19

Jul-18

Jan-18

Jul-17

70

Jan-17

Jan-20

Jul-19

Jan-19

Jul-18

Jan-18

Jul-17

Jan-17

Jan-20

Jul-19

Jan-19

Jul-18

Jan-18

Jul-17

-5

Jan-17

120

Note: The MSCI indices of both advanced (MSCI World Index) and emerging (MSCI Emerging Market Index) economies are presented.

3/ Includes Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Holland, New Zealand, Norway, Portugal, Singapore, Sweden, Switzerland, the United Kingdom and the United States.

4/ Includes Mexico, Brazil, Chile, China, Colombia, Peru, the Czech Republic, Egypt, Greece, Hungary, India, Indonesia, South Korea, Malaysia, the Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey and the United Arab Emirates.

Source: Bloomberg.

6

The relaxation in global financial conditions led to greater flows of financial assets to emerging economies, both in fixed income markets and in equity markets. However, emerging economies´ asset prices have been affected by the recent episodes of volatility.

Asset Performance in 2019 and 2020 %, basis points 2019 Region

Latin America

Europe

Asia

Africa

Country

Currencies

Stock indices

Mexico Brazil Chile Colombia Russia Turkey Hungary China Malaysia India Thailand Indonesia South Africa

3.82% -3.87% -7.74% -0.84% 12.46% -11.12% -5.17% -1.22% 1.04% -2.25% 8.61% 3.78% 2.48%

4.56% 31.58% -8.53% 25.38% 29.14% 25.37% 17.74% 22.30% -6.02% 14.38% 1.02% 1.70% 8.24%

10Y Interest rates -204 -255 -114 -58 -224 -394 -68 -17 -75 -67 -84 -90 -51

2020 CDS

Currencies

Equity markets

Interest rates 10Y

CDS

-76 -108 -20 -85 -98 -79 -17 -36 -75 -47 -6 -10 -60

-1.87% -10.40% -7.78% -5.24% -5.62% -3.48% -5.75% -0.86% -3.29% -0.40% -6.33% -0.53% -9.38%

-1.85% -8.58% -7.97% -4.37% -0.93% 0.65% -5.56% -2.04% -5.89% -3.31% -13.51% -9.69% -3.57%

-38 8 18 -60 -47 24 29 -49 -34 -55 -52 -32 -43

3 10 8 9 9 17 -26 9 10 -4 6 0 15

Note: Interest rates correspond to interest rate swaps for 10-year maturity. In the case of Mexico, sovereign rates in local currency for 2Y and 10Y are shown.

Source: Bloomberg.

Outlook for the Mexican economy

7

In the last years, emerging economies have been subject to terms of trade shocks, trade tensions and idiosyncratic risk factors, which have had different effects on their inflation rates.

Nominal Exchange Rate against USD Index Jan-01-2014=100

Accumulated Headline Inflation Since 2014 %

200

45

Depreciation 40

Brazil

Colombia

180 35

Mexico Brazil

160

30

25 140

South Africa

Mexico

20

Colombia

Chile

120

Chile

15 10

South Africa

100 5

Source: Bloomberg.

2019

2018

2017

2016

2015

2020

January

80

2014

2020

2019

2018

2017

2016

2015

2014

February

Source: Haver Analytics.

Outlook for the Mexican economy

8

0

Among emerging economies, the Mexican peso stands out as one of the most traded currencies worldwide.

MXN Foreign Exchange Market Turnover by Instrument Billions of US dollars

OTC Foreign Exchange Turnover

by Instrument and currency Billions of US dollars

100

160 135

140

6

114 8

100 114

21

20

14 12

2

60

13

97 40

24 57 5

8 2 11

5 15

18

2004

2007

2010

43

48

2016

2019

20

48

0 2013

13

63

30

100 72

72

71

27 10

31

37

7 27

5 24

34

71 2

60 10

43

35

14

41

13

22 5 12

27 12 3 9

Hungary

20

4

45

Poland

44 40

50

15

Taiwan

50

30

80

36

113

Brazil

45

36

Turkey

6

South Africa

60

200

120

Russia

59

97

138

India

70

Foreign exchange swaps Outright forwards Spot market External Total counterparties 2/

Total FX options Swaps Outright forwards Spot transactions

Mexico

80

Options and other FX products /1

300

284

China

90

180

0

1/ The category “other FX products” covers highly leveraged transactions and / or trades whose notional amount is variable and where a decomposition into individual plain vanilla components was impractical or impossible. 2/ The solid line is defined as the share of transactions between external counterparties as percentage of the total market. Source: 2019 Triennial Central Bank Survey of Foreign Exchange and OTC Derivatives Markets. Bank for International Settlements and Banco de México.

Outlook for the Mexican economy

9

Outline 1

External conditions

2

Current situation of the Mexican economy

3

Inflation

4

Monetary policy

5

Forecasts and final remarks Outlook for the Mexican economy

10

For several quarters, economic activity has been exhibiting a moderate downward trajectory.

1.18 1.33

1.10 1.13

1.21

2.0

120

1.5

115

1.0

110

Global Index of Economic Activity Index 2013=100, s. a.

140

130

Services (62.7%)

120

Total 0.5

105

0.0

100

110

95

90

Industrial (34.2%)

s. a. / Seasonally adjusted figures.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

2018

2017

2016

2015

80

2019

December

90

2014

-1.0

2012

2019

2018

2017

2016

2015

2014

Q4-2019

2013

-0.69

2013

2012

-0.5

100

Agricultural and livestock products (3.2%)

-0.13 -0.10 -0.08 -0.14

-0.31

-0.25

-0.02

0.06

0.31

0.48 0.33

0.60 0.44

1.04

1.11 0.38

0.55

0.97 0.55 0.65

0.84 0.35

0.63

0.56

0.89

1.27

Gross Domestic Product Quarterly % change, s. a.

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their share in 2013.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

Outlook for the Mexican economy

11

Industrial activity contracted, while services exhibited low growth and continue showing some weakness.

IGAE Services 1/ Index 2013=100, a. e.

Industrial Activity Index 2013=100, s. a.

140

130

Manufacturing (49.7%)

Transportation and information (14.0%)

120

Utilities (4.7%) 110

Total Construction (23.3%)

140

Accommodation and food services (3.6%) Professional, management of companies and enterprises (8.9%)

130

Finance and real estate (23.8%)

120

100

Trade 2/ (28.8%)

90

Mining(22.3%)

130

120

Arts, entertainment, and recreation (3.8%)

110

110

100

100

80

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their participation in 2013.

Source: Monthly Indicator of Industrial Activity, Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

2018

2017

2016

2015

2014

2013

2019

December

90

2012

December

2018

2017

2016

2015

2014

2013

60

2012

2019

2018

2017

2016

2015

2014

2013

2012

December

Public administration (7.1%)

Educational and health care (9.9%)

2019

70

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their participation in 2013.

1/ Global Indicator of Economic Activity (IGAE, for its acronym in Spanish).

2/ Includes both wholesale and retail trade.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

Outlook for the Mexican economy

12

90

A lower dynamism of consumption has been observed recently. However, its main determinants kept showing relative strength.

Private Consumption Index 2013=100, s. a.

130

Remittances Billion USD and constant pesos, s. a.

3.5

65

12

Consumer Confidence and Total Real Wage Bill Response balance and annual % change, s. a.

50

Consumer confidence

125

Imported goods (10%)

120

Domestic services (45%)

3.0

8

45

4

40

0

35

-4

30

55

115

US dollars

110

Total

2.5

45

105 100 35

90

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their share in 2013.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

s. a. / Seasonally adjusted figures.

1/ Prices as of the second fortnight of July 2018.

Source: Banco de México and INEGI.

Outlook for the Mexican economy

25

2019

2018

2017

2016

-8

2013

25

Q4-2019 January

2012

2019

2018

2017

2016

2015

2014

1.5

2013

85

December

2012

2019

2018

2017

2016

2015

2014

2013

2012

November

Real wage bill 2015

95

Mexican peso 1/

2.0

2014

Domestic goods (45%)

s. a. / Seasonally adjusted figures.

Source: Prepared by Banco de México with data from the National Survey of Occupations and Employment (ENOE, for its acronym in Spanish) and the National Survey of Consumer Confidence (ENCO, for its acronym in Spanish), INEGI and Banco de México.

13

Gross fixed investment continued to contract, as a result of the weakness in spending on machinery and equipment and investment in construction.

Investment Index 2013=100, s. a.

134

Machinery and equipment (38.6%)

Investment in Residential and Non-residential Construction Index 2013=100, s. a.

Real Value of Construction Output by Contracting Institutional Sector 1/ Index 2013=100, a. e.

130

Private residential housing (18.7%)

110

120

126

Residential (42%)

100 110

118

Total

90 100

Private (57.2%)

Total

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their share in 2013.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

Outlook for the Mexican economy

60 December

2016

2015

70

2014

2019

2018

2017

2016

2015

2014

2013

2019

2018

2017

2016

2015

2014

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their share in total in 2013.

Source: Mexico’s National Accounts System (SCNM, for its acronym in Spanish), INEGI.

November

86

70

Public (42.8%)

80

2013

94

Private excl. residential housing (38.5%)

2019

Non-residential (58%)

November

2013

90

80

2018

102

Total

2017

110

Construction (61.4%)

120

s. a. / Seasonally adjusted figures.

Note: Figures in parentheses represent their share in 2018.

1/ Seasonally adjusted by Banco de México, except for the total series.

Source: Prepared by Banco de México with data from ENEC, INEGI.

14

50

Among the factors that business representatives and analysts consider that could limit growth those related to governance stand out. Progress in addressing certain problems that have affected the economy for years, such as the rule of law (corruption, insecurity and impunity), would foster an environment that would allow for incentivizing growth.

Percentage Distribution of Responses from Analysts and Business Representatives when Consulted on the Three Main Factors that Could Hinder Economic Activity Growth in the Next Six Months 1/ Governance 2/ Domestic economic conditions 3/

Monetary policy Other

Inflation Public finances

Analysts

External conditions

Business representatives and analysts

100

100 90

90

80

80

70

70

60

60

50 40

50

30 40

Analysts Business representatives

Analysts Business representatives

Analysts Business representatives

Analysts Business representatives

Analysts Business representatives

2020

2019

2018

2017

2016

2015

2014

0

Analysts Business representatives

0

Analysts Business representatives

20

Analysts Business representatives

10 Analysts Business representatives

30

10

2013

20

Jan.16

Jul.16

Feb.17

Jan.19

Jul.19

Sep.19

Oct.19

Nov. 19

Dec.19

1/ Responses from the Survey of Private Sector Forecasters associated with the question: Which three main factors will limit economic growth in the next six months? Responses from the Monthly Survey of Regional Economic Activity (EMAER, for its acronym in Spanish) associated with the question: In your opinion, which three main factors will limit economic activity growth in your state in the next six months? Source: Monthly Survey of Regional Economic Activity (EMAER, for its acronym in Spanish) and Survey of Private Sector Forecasters. 2/ Refers to factors such as: public insecurity problems, domestic political uncertainty, corruption, impunity and lack of rule of law. 3/ Refers to factors such as: uncertainty over the domestic economic situation, domestic market weakness, households’ level of indebtedness, firms’ level of indebtedness, absence of structural change in Mexico, availability of domestic financing in Mexico, oil production platform and lack of market competition. Source: Monthly Survey of Regional Economic Activity (EMAER, for its acronym in Spanish) and Survey of Private Sector Forecasters.

Outlook for the Mexican economy

15

Impact of Uncertainty on Consumption and Investment in Mexico.

For several years, the Mexican economy has faced an environment of high uncertainty, due to both external and domestic factors.

Macroeconomic Uncertainty Index for Mexico (IIM) 1/ January 2015 Mexican oil mix prices fall by 56% (Jul 14 – Jan 15)

December January 2017 2015 Announcement Presidential of a possible campaign in renegotiation of NAFTA the U.S.

July 2018 Presidential elections in Mexico

October 2018 NAICM 2/ cancelation

Maximum Uncertainty Index Associated with 1-month IIM 3/

0.75

October

7.0

6.0

5.0

4.0 0.70 3.0

2.0

1.0

1/ One-month forecast horizon: 2015-2019; see “Quarterly Report October – December 2019”, Banco de México, p. 22.

2/ Mexico City's New International Airport (NAICM, for its Spanish acronym).

Source: Banco de México.

0.0

1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

0.65

2019

2018

2017

2016

2015

2014

October

3/ Refers to the IIM percentage increase over the maximum level reached in the previous 6 months.

Source: Banco de México. See “Quarterly Report October – December 2019”, Banco de México, p. 22.

Outlook for the Mexican economy

16

Impact of Uncertainty on Consumption and Investment in Mexico.

The higher uncertainty has negatively affected consumption and, especially, investment.

Impulse Response Functions to an Uncertainty Shock 1/ Investment

Consumption

0.4%

0.4%

0.0%

0.0%

-0.4%

-0.4%

-0.8%

-0.8%

-1.2% 0

6

12

18

24

30

36

42

48

54

60

-1.2% 0

6

Months

12

18

24

30

36

42

48

54

60

Months

1/ See “Quarterly Report October – December 2019”, Banco de México, p. 22.

Note: Response to a standard deviation shock. Grey shadows represent 90% statistical confidence intervals.

Source: Banco de México.

Outlook for the Mexican economy

17

Impact of Uncertainty on Consumption and Investment in Mexico.

The results suggest that the negative effect of higher uncertainty on consumption and investment has prevailed above that of other factors, such as financing costs.

Counterfactual Exercises 1/ 3-month moving average, January 2016=100 Investment

Consumption

120

Counterfactual A + CETES (B): without the effect of the interest rate Counterfactual B + IGAE (C): without the IGAE effect Counterfactual C + Public Investment (D): with constant level of public investment

Counterfactual A + CETES (B): without the effect of the interest rate Counterfactual B + IGAE (C): without the IGAE effect

115

110

105

105

Counterfactual uncertainty (A): excluding increase in uncertainty

95

Observed investment

95

Observed consumption

90

Oct-19

Apr-19

Jan-19

Oct-18

Jul-18

Apr-18

Jan-18

Oct-17

Jul-17

Apr-17

Jan-17

Oct-16

Jul-16

Apr-16

Jul-19

October

85

Jan-16

Oct-19

Jul-19

Apr-19

Jan-19

Oct-18

Jul-18

Apr-18

Jan-18

Oct-17

Jul-17

Apr-17

Jan-17

Oct-16

Jul-16

Apr-16

100

90

October

Jan-16

115

110

100

Counterfactual uncertainty (A): excluding increase in uncertainty

120

1/ See “Quarterly Report October – December 2019”, Banco de México, p. 22.

Note: Counterfactual trajectories are constructed based on the historical decomposition of each VAR, by matching the contributions of the uncertainty and CETES to zero accordingly. Source: Banco de México.

Outlook for the Mexican economy

18

85

Manufacturing exports have lost momentum. This was mainly the result of the contraction in automotive exports, although non-automotive exports also exhibited weakness.

Manufacturing Exports Index 2013=100, s. a.

Automotive and Non-automotive

By Destination

180

150

170 140 160 130

150

Total

United States (82.3%)

140

Total 120

Automotive (35.8%) 130

110

120

Rest of the world (17.7%)

110

100

100

Non-automotive (64.2%)

90 90 December

80

2019

2018

2017

2016

2015

2014

2013

80

2012

2019

2018

2017

2016

2015

2014

2013

2012

December

s. a./ Seasonally adjusted series.

Note: Figures in parentheses represent their participation in 2018.

Source: Prepared by Banco de México with data from Mexico’s Tax Administration Service (SAT, for its acronym in Spanish), the Ministry of the Economy (SE, for its acronym in Spanish), Banco de México, the National Institute of Statistics and Geography (INEGI, for its acronym in Spanish). Mexico’s Merchandise Trade Balance, and National System of Statistical and Geographical Information (SNIEG, for its acronym in Spanish). Information of national interest.

Outlook for the Mexican economy

19

External accounts have reverted their medium-term trend. Specifically, a surplus in the non-oil trade balance and a deficit in the oil trade balance is observed, along with a sizeable reduction of the current account deficit.

Trade Balance USD million

Current Account % of GDP

12,000

Non-oil

2

10,000 1

Current account

8,000 6,000

0 -0.2

4,000

-0.4

-0.7 -0.8

2,000

-0.9

-0.5 -0.9

-1.0 -1.6

-1.5

0

-1

-0.9 -1.8

-1.7

-1.9

-2,000 -4,000

-4

-8,000

Source: SAT, SE, Banco de México, INEGI. Mexico’s Merchandise Trade Balance. SNIEG. Information of national interest.

-5

2019

2018

2017

2016

2015

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

2001

Q4-2019

2000

-10,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Q4-2019

-3

Annual data

-6,000

Oil

-2.6

-2.5

-2.6

-2

-2.3

-1.9

-2.3

2014

Total

Source: Banco de México and INEGI.

Outlook for the Mexican economy

20

Although the national unemployment rate has reached its lowest level in the last three quarters, the urban unemployment rate has been slightly higher than registered previously. In addition, the underemployment rate continued to increase and the creation of IMSS-insured jobs continues to decelerate. Meanwhile, wages continued to advance in real terms.

December

Jobs Insured by IMSS: Permanent and Temporary in Urban Areas Annual change in thousands

8.0

January

7.5

800

7.0

Urban

4 600 500

2

5.0

400

0

300 -2

Source: IMSS.

-4

2019

2018

2017

2015

2014

2013

2012

-6

2011

2019

2018

2017

2016

2015

2014

2013

2012

2011

0

2010

2.5

2019

2018

2017

2016

2015

2014

3.0

100

s. a. / Seasonally adjusted data.

1/ The nationwide NAIRU is the level of the unemployment rate that does not accelerate inflation.

Source: Prepared by Banco de MĂŠxico with IMSS and INEGI data.

Real

200

3.5

2016

1/

2010

NAIRU

2013

2012

2011

2010

2009

Nominal

5.5

4.0

National

8 6

6.5

4.5

2008

Q4-2019

700

6.0

2007

900

Average Wage of Salaried Workers according to the National Employment Survey (ENOE) 2/ Annual % change Millares

National and Urban Unemployment Rates %, s. a.

2/To calculate average nominal wages, the bottom 1 percent and the top 1 percent in the wage distribution were excluded. Individuals with zero reported income or those who did not report it are excluded.

Source: Calculated by Banco de MĂŠxico with data from INEGI (ENOE), IMSS, and STPS.

Outlook for the Mexican economy

21

Slack conditions continued to widen, reflecting the moderate decline of economic activity.

Slack Indicators: Main Component by Indicators Frequency 3/ % Quarterly

8

21

6

3

4

2

-6

95% confidence interval 2/

s. a. / Seasonally adjusted data.

1/ Output gap estimated with a tail-corrected Hodrick-Prescott filter; see “Inflation Report April – June 2009”, Banco de México, p. 74.

2/ Output gap confidence interval calculated with a method of unobserved components.

Source: Prepared by Banco de México with data from INEGI and Banco de México.

2019

2017

2016

2015

2014

2012

2011

2010

2009

2018

Q3-2019

-12

-2 -3

Demand conditions in the lending market

-4

-10

2019

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

3

2018

Q4-2019 December

2008

5

2007

-3

-8

2007

7

Consumption Monthly indicator

-2

-4 November

-5

-5

2019

9

Economic activity indicator

-1

2018

GDP

-1

2017

-4

2016

11

0

2015

-2

0

2014

13

1

2011

0

1

2010

15

Quarterly indicator

2009

2

2

Labor market

2008

17

4 3

2007

IGAE

2013

19

Monthly

4

23

2013

Output Gap Estimate % of potential output, s. a.

2012

1/

3/ Main Indicators constructed using CCM methodology; see Banco de México (2018), “Quarterly Report, October-December 2017”, p.47. Monthly and quarterly slack indicators are constructed with the main component of sets of series which includes 11 and 12 indicators, respectively. Slack indicators of consumption, economic activity, aggregate demand, labor market and demand conditions in the lending market are based on the first main component of sets of series which includes 6, 4, 3 and 6 indicators, respectively.

Source: Prepared by Banco de México with data from INEGI and Banco de México.

Outlook for the Mexican economy

22

Outline 1

External conditions

2

Current situation of the Mexican economy

3

Inflation

4

Monetary policy

5

Forecasts and final remarks Outlook for the Mexican economy

23

During 2019, annual headline inflation decreased significantly, particularly during the 2H-2019, reaching levels consistent with the 3% target at the end of Q3 and during Q4 2019. This was mainly due to the decrease in noncore inflation, given that the core index, which better reflects medium-term pressures on prices, showed persistence at levels above the target, although with slight reductions.

Consumer Price Index Annual % change 1/ F1 February

Incidences in percentage points 2/

14

F1 February

8

13 7

12

Headline

11

6

10

Non-core

Merchandise

9

5

8

Headline

Services

7

4

Non-core

6

3.52 3 1.51

5

Variability interval

4 3.69 3 3.52 3.03 2

Core

2 1.25 1

1

0.76 0

1/ Since 2003, a permanent inflation target of 3%, with a variability interval of +/-1%, was established for headline inflation.

Source: Banco de México and INEGI.

Outlook for the Mexican economy

2020

2019

2018

2017

2016

2015

2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

2001

0

2/ The sum of inflation’s components may not add up due to rounding.

Source: Prepared by Banco de México with data from INEGI.

24

The annual average non-core inflation level during Q4 2019 was the lowest on record for a quarter, and was affected by a lower annual change of agricultural and livestock prices, and of energy prices. However, since the beginning of 2020, this component increased due to a higher annual change in fruit and vegetable prices and due to the comparison base in gasoline prices.

Non-core Price Subindex Annual % change Agricultural and Livestock Products

Energy Products and Government-authorized Prices

27

27

24

24

21 18

Total

21

Total

Energy products

15

18 15

Livestock 12 products

9

6

6

3

3

0

0

Governmentauthorized prices

-3

-6

-6

-9

-9

2019

2018

2017

-12

2020

F1 February

-12

2016

2020

2019

2018

2017

F1 February

2016

9

-3

Fruits and vegetables

Source: Banco de MĂŠxico and INEGI.

12

Source: Banco de MĂŠxico and INEGI.

Outlook for the Mexican economy

25

Average annual core inflation decreased slightly, although it rebounded at the beginning of 2020.

Core Price Subindex Annual % change Merchandise

Services 10

7

9

6

Education

8

Foods, beverages and tobacco

5

7

4

Merchandise Services

6

3

5 2 4

Housing

1

3

Non-food merchandise

0

2

Other Services -1

1

Source: Banco de MĂŠxico and INEGI.

2018

2017

2016

2015

2014

2013

2012

2011

2010

2019

F1 February

0

2009

2020

2019

2018

2017

2016

2015

2014

2013

F1 February

Source: Banco de MĂŠxico and INEGI.

Outlook for the Mexican economy

26

-2

Inflation Indicators More Related to Supply Side Factors.

Evidence suggests that certain supply shocks that have affected the economy could be offsetting the effects of slackness on core inflation.

Indicators More Related to Supply Shocks and Observed Core Inflation Annual % change 6.5

5.5

More related to exchange rate 4.5

More related to energy products 3.5

More related to wages

Supercore inflation

2.5

Core inflation 2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

F1 February

Source: Prepared by Banco de México with data from INEGI; see “Quarterly Report October – December 2019”, Banco de México, p. 53.

Outlook for the Mexican economy

27

1.5

Outline 1

External conditions

2

Current situation of the Mexican economy

3

Inflation

4

Monetary policy

5

Forecasts and final remarks Outlook for the Mexican economy

28

Monetary policy conduction Overnight Interbank Interest Rate and Government Bond Yields %

Meetings of August, September, November and December 2019 and February 2020

10.0

25 bp reductions in each meeting to a level of 7%

9.5

30 years

9.0

1 day

 The main reasons highlighted in the press releases:  The levels attained by headline inflation and its outlook in the horizon in which monetary policy operates.  Wider slack conditions in the economy.  The recent performance of external and domestic yield curves.

8.5 8.0 7.5

3 years 7.0

10 years

6.5 6.0 5.5

Source: Proveedor Integral de Precios (PiP).

Outlook for the Mexican economy

29

5.0

Mar-20

Jan-20

Nov-19

Sep-19

Jul-19

May-19

Mar-19

Jan-19

Nov-18

Sep-18

Jul-18

May-18

Mar-18

Jan-18

Nov-17

Sep-17

Jul-17

May-17

Mar-17

Jan-17

February

Short-, medium-, and long-term inflation expectations remained relatively stable for headline inflation, while they showed increases for core inflation.

Inflation Expectations Median, % For the End of 2020

Break-even Inflation and Inflation Risk Implied in Bonds %

Medium- and Long-term 5.0

Headline

5.0

5.0

Headline

Break-even inflation implied in 10-year bonds

Core

Core 4.5

Variability interval (upper limit)

4.0

4.5

4.5

4.0

4.0

3.5

3.5

3.0

3.0

2.5

2.5

Next 4 years 3.5

3.0

Inflation target

Next 5-8 years 2.5

20-day moving average

Source: Banco de México’s Survey of Private Sector Forecasters.

Source: Banco de México’s Survey of Private Sector Forecasters.

Outlook for the Mexican economy

2.0

2020

2018

2017

2016

2015

2014

2013

2012

2019

February

2.0

2011

2020

2018

2017

2016

2015

2014

2013

2012

2019

January

2.0

2011

Jan-20

Nov-19

Sep-19

Jul-19

May-19

Mar-19

Jan-19

Nov-18

Sep-18

Jul-18

May-18

Mar-18

Jan-18

January

Note: the break-even inflation and inflation risk is calculated as the difference between nominal and real long-term interest rates.

Source: Banco de México estimates with Valmer and PiP data.

30

Outline 1

External conditions

2

Current situation of the Mexican economy

3

Inflation

4

Monetary policy

5

Forecasts and final remarks Outlook for the Mexican economy

31

Economic Activity Forecasts Fan Chart: GDP Growth Annual %, s. a.

6

2019 Q4

Observed Central Scenario Jul-Sep 2019 Report Central Scenario Oct-Dec 2019 Report

5

2020 Q4

2021 Q4

6 5

4

4

3

3

2

2

1

1

0

0

-1

-1

-2

-2

-3

-3 Q2

Q4 2013

Q2

Q4 2014

Q2 Q4 2015

Q2 Q4 2016

Q2 Q4 2017

Q2 Q4 2 018

Q2

Q4 2019

Q2 Q4 2020

Q2

Q4 2021

s. a. / Seasonally adjusted series. Source: INEGI and Banco de México.

GDP Growth % Report 2020 2021

QR Jul-Sep 2019 QR Oct-Dec 2019 0.8 - 1.8 0.5 - 1.5 1.3 - 2.3 1.1 - 2.1

Increase in Number of IMSS-insured Jobs Thousands Report 2020 2021

QR Jul-Sep 2019 QR Oct-Dec 2019 500 - 600 440 - 540 510 - 610 470 - 570 Outlook for the Mexican economy

Current Account Deficit % of GDP Report 2020 2021

QR Jul-Sep 2019 QR Oct-Dec 2019 1.4 0.9 1.7 1.5 32

Risks for Growth Scenario in the Forecast Horizon In an environment of marked uncertainty, the persistent external and domestic risk elements cause the balance of risks for Mexican economic activity to remain biased to the downside.

Downward risks

•

An escalation of trade tensions.

•

A deceleration of the global economy and world trade, including the effects of the coronavirus (Covid -19) outbreak.

•

Episodes of volatility in international financial markets.

•

Greater and more persistent weakness of aggregate demand components.

•

Further deterioration of Pemex’ or the sovereign credit ratings.

•

Lower-than-expected public spending.

•

That the final ratification of the USMCA leads to higher-than-expected investment.

•

Greater-than-anticipated dynamism of industrial production in the United States.

•

Greater-than-anticipated dynamism of aggregate demand.

Upward risks

Outlook for the Mexican economy

33

Forecasts are slightly adjusted upwards starting from Q2 2020, due to: 1) an upward revision in non-core inflation (due to higher agricultural and livestock prices that are partially offset by lower increases in energy prices); 2) effect of wage increases, partly offset by an expectation of wider slack conditions.

 Annual headline inflation is expected to lie at 3% starting in Q1 2021.

8.0

Observed inflation Central Scenario Jul-Sep 2019 Report Central Scenario Oct-Dec 2019 Report Headline inflation target

7.5 7.0 6.5

Fan Chart: Annual Headline Inflation 1/ %

Next Q4

8.0

Q6

7.5 7.0 6.5

6.0

6.0

5.5

5.5

5.0

5.0

4.5

4.5

4.0

4.0

3.5

3.5

3.0

3.0

2.5

2.5

2019 Q3 Q4

2.0 1.5

QR Oct-Dec 3.3 2019 QR Jul-Sep 3.3 2019

1.0 0.5 0.0 Q2

Q4

2015

Q2

Q4

2016

Q1

2020 Q2 Q3

Q4

Q1

2021 Q2 Q3

2.0

Q4

1.5

2.9 3.3 3.3 3.4 3.2 3.0 3.0 3.1 3.0

1.0

3.0 3.5 3.1 3.1 3.0 2.8 2.9 2.9

0.5 0.0

Q2

Q4

2017

Q2

Q4

2018

Q2

Q4

2019

Q2

Q4

2020

Q2

Q4

2021

1/ Quarterly average of annual headline inflation. The next four and six quarters are indicated as of first quarter of 2020, that is, the first and third quarter of 2021, respectively; periods in which the monetary policy transmission channels fully operate. 2/ Forecast since February 2020. 3/ Forecast since November 2019. Source: Banco de MĂŠxico and INEGI.

Outlook for the Mexican economy

34

Similarly, the trajectory for annual core inflation is slightly adjusted to the upside, although it maintains a declining trend and is expected to lie at 3% starting in Q4 2020.

Fan Chart: Annual Core Inflation 1/ %

6.0

Next Q4

Observed inflation

5.5

6.0

Q6

5.5

Central Scenario Jul-Sep 2019 Report Central Scenario Oct-Dec 2019 Report

5.0

5.0

Headline inflation target

4.5

4.5

4.0

4.0

3.5

3.5

3.0

3.0

2.5

2019 Q3 Q4

2.0

QR Oct-Dec 3.8 2019 QR Jul-Sep 3.8 2019

1.5 1.0 Q2

Q4 2015

Q2

Q4 2016

Q1

2020 Q2 Q3

Q4

Q1

2021 Q2 Q3

2.5

Q4

2.0

3.6 3.6 3.3 3.2 3.0 2.9 2.9 2.9 2.9 1.5

3.6 3.6 3.2 3.1 2.9 2.8 2.9 2.9

Q2

1.0 Q4

2017

Q2

Q4 2018

Q2

Q4 2019

Q2

Q4 2020

Q2

Q4 2021

1/ Quarterly average of annual core inflation. The next four and six quarters are indicated as of first quarter of 2020, that is, the first and third quarter of 2021, respectively; periods in which the monetary policy transmission channels fully operate. 2/ Forecast since February 2020. 3/ Forecast since November 2019. Source: Banco de MĂŠxico and INEGI.

Outlook for the Mexican economy

35

Risks to Inflation Outlook within the Forecast Horizon In this context, uncertainty remains regarding the balance of risks for the described path for inflation.

Upward risks

•

Core inflation’s resistance to decline.

•

Wage increases that affect the labor market and prices.

•

A possible exchange rate adjustment due to external and domestic factors, including greater risk aversion due to the coronavirus (Covid -19) outbreak.

•

Greater-than-expected increases in agricultural and livestock prices.

•

A deterioration in public finances.

•

Lower international prices of energy products due to the coronavirus outbreak.

•

A widening in slack conditions.

•

An additional appreciation of the exchange rate.

Downward risks

Outlook for the Mexican economy

36

Final remarks ❶ The global economy continued to decelerate. ❷ World financial conditions remain loose, although volatility has been observed. ❸ Although several risks for the global economic outlook have diminished, others have emerged such as the

coronavirus outbreak.

❹ In Mexico, annual headline inflation decreased considerably in H2 2019, although, as anticipated, it rebounded

at the beginning of 2020.

❺ Slack conditions widened more than anticipated. ❻ Annual headline inflation is expected to lie at 3% in Q1 2021, remaining at levels consistent with the inflation

target in the rest of the forecast horizon.

❼ Economic activity in Mexico is expected to begin its recovery. ❽ It is key to boost confidence in the country, strengthen the economy’s fundamentals, and address the obstacles

that have prevented the economy from achieving greater medium-term growth.  Generate incentives that foster a higher efficiency in resource allocation.  Strengthen the rule of law.

Outlook for the Mexican economy

37