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Mexico wants to pile on the Pesos
September 2007
Paul Melly, International Trade Today
Augustin Carstens hid his obvious disappointment well. Mexico’s finance minister was smiling broadly as he formally handed the 2008 budget bill to the leaders of the lower house of parliament at 7pm on Saturday 8 September.
This was the final deadline permitted by law for submission of next year’s finance bill. Carstens had hung on until the last possible moment in the hope that legislators would pass contentious fiscal reforms that would generate much-needed extra revenue to be factored into the 2008 budget calculations.
But ultimately he was denied, forced to submit a finance bill that the government admitted could not, in its original form, meet the full expenditure priorities for next year.
Right through the first week of September, Carstens and President Felipe Calderón had fought to persuade parliamentarians to approve a reform package vital to the administration’s political credibility and to hopes of enhanced economic competitiveness and growth.
When they failed, the president, attending the Asia-Pacific summit in Sydney, made no bones about the setback he had suffered and the importance he placed upon getting the reforms through at a later stage, admitting that the bill submitted on 8 September was ‘insufficient’. Spending on rural development, science, technology, infrastructure, education and health would suffer, he indicated.
The episode placed Calderón in a difficult position. He was elected only by the narrowest of margins in a 2006 poll, the result of which was not officially recognised by the defeated candidate of the left, Andrés Manuel López Obrador. In parliament, his conservative National Action Party (PAN) does not have a majority and needs the support of deputies from the left or the Institutional Revolutionary Party (PRI) – which ruled Mexico for almost a century until Vicente Fox captured the presidency in 2000.
Fox’s victory – widely seen as the final fulfilment of Mexico’s gradual democratisation – aroused hopes of sweeping reform that would infuse the country with new dynamism and generate the jobs and wider distribution of wealth needed to erode poverty.
But Fox lacked the domestic political clout to implement change. Decades of one party rule were over but Mexicans still had to reach a new consensus on the way forward and ultimately his presidential term was one of disappointment.
Mexico is already vastly transformed from the country that suffered the debt crisis of the 1980s or even the peso currency collapse of 1994. It is now one of the world’s major industrial economies, a member of OECD and a magnet for international investors. In a small indicator of changed perceptions, two major US retailers have announced that they will now accept customer payment in the once enfeebled but now solid peso.
However, the Mexican economy still suffers from crucial weaknesses, in particular huge dependence on the US both as a market and as a source of jobs subcontracted to the maquiladora export processing industries that have grown up along the south side of the American border. Some 80 per cent of Mexico’s exports are sold to the US.
A reminder of the need to diversify economic partnerships and generate more indigenous prosperity has come with the recent economic difficulties in the US. This has forced the Mexican government to revise its forecast of GDP growth this year down to three per cent from the 3.3 per cent originally projected.
Mexican heads of state are limited to a single six-year term. So the 2006 election offered the chance for a new start.
Having survived a tough challenge from López Obrador, the conservative Calderón has sought to show that he can combine PAN’s traditional liberal conservative free market economic recipes with practical action to help the least well off. He has announced a major anti-poverty programme; help for the elderly and investment in new housing are key priorities.
But the financing of his social policy ambitions will depend to a large extent on generating the necessary extra revenue through fiscal reform.
So, after missing the 8 September deadline, the president sought to play on this fact to lobby for passage of the reform package – and retrospective amendment of the budget bill. It is the poor who will benefit from the extra social and development programmes if they are eventually implemented.
But this wrangle also matters for Mexico’s financial credibility. After the disappointment of the Fox years, international investors want to see Calderón take the steps needed to reinvigorate the economy.
For Mexico, like the UK, has to face up to the fact that the oil revenues that have sustained state spending for so long are now set to decline. In 2006 the country produced 3.26m barrels a day; this year’s output is on course to average just 3.16m b/d and in 2008 production will sink to just 3.14m.
The current boom in world energy prices has so far cushioned the impact of the slide in crude production. Petroleos Mexicanos (Pemex) still pays 40 per cent of the government’s total tax revenue.
But that will not continue indefinitely. There is time to adjust and develop alternative sources of income. But Mexico needs to start that task now.
At just 11.5 per cent of GDP, the government’s tax take is the second lowest in Latin America and weaker than that of many far poorer countries. Carstens wants to raise it to 14.5 per cent of GDP by the end of Calderón’s term in 2012.
Yet in political terms this is a difficult task. Fox had proposed extending value added tax to basic food and medicines. But he could not win approval for this measure – which would have hit all consumers. As successive UK governments have found in the case of child benefit, it can be particularly hard to persuade the voters to give up a tax break or a benefit that rewards everyone, rich as well as poor.
So Calderón and Carstens have explored more politically savvy alternatives, such as introducing a low, flat-rate sales tax that would hit everyone, while balancing this with an assault on tax exemptions that benefit only the most prosperous Mexicans. The top income tax rate is only 28 per cent, yet many wealthy citizens have exploited loopholes to avoid paying even that.
The government has also looked at allocating the sales tax revenue to the states – Mexico is a federal country. This would allow voters to see how money taken from them in tax was then used to improve services and bolster development at the local level.
Meanwhile, there should be some help from the economy itself. This year’s slowdown in output has squeezed the tax take. But GDP growth of 3.5 per cent is forecast for next year, and that could rise to 3.7 per cent if the fiscal reforms are fully implemented and the government is able to expand social programmes and step up development spending.
This would create a virtuous circle, with the extra growth generating yet more revenue, which would allow the government to sustain its public spending ambitions.
