Mexico WT/TPR/S/29
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I. THE ECONOMIC ENVIRONMENT
(1) Introduction
1. TheMexican economy experienced asevere recession in1995, following thefinancial crisis
oflate1994. Although realGDP growth rebounded by5percentin1996, theoverall levelofGDP
remains lower thanin1994.1Themost recent recession wasalsosharper thaninthedebtcrisis of
the1980s, butrecovery hasbeenmore rapid. Realexport growth, which wasabout thesame during
bothperiods, wasdriven bymanufactured goods inthemost recent crisis andbyoilexports inthe
early 1980s. In1995, imports contracted substantially lessthanintheearly 1980s, reflecting the
increased import content ofexporting activities. While macroeconomic stabilization hasbeenatthe
forefront since thefinancial crisis, theincreased openness oftheeconomy (asmeasured bytrade to
GDP) andimportant structural reforms undertaken since themid-1980s, alsofacilitated thespeed of
therecovery.2Itshould benoted thatthe1995 crisis, unlike theearlier debtcrisis, wasnotfollowed
bycontrols onthecurrent andcapital accounts orbyawidespread increase intheuseoftradebarriers.3
2. Theeconomic recession hadanimmediate negative effect onMexican living standards asGDP
percapita decreased from US$4,727 in1994 toUS$3,602 in1996; unemployment rosetoapeak
of7.4percentinSeptember 1995, buthadfallen to3.9percentinMay1997.4Income disparities
between richandpoorremain large (thepoorest 20percentofthepopulation receive 4percentof
income5)andtherearealsowidedifferences inincome levels between different regions ofthecountry;
forexample,incomesinChiapas,Hidalgo,GuerreroandOaxacaare30to50percentbelowthenational
average.6
3. Since1990,thestructureoftheMexicaneconomyhascontinuedtoshiftslowlytowardsservices,
away fromagriculture (Table I.1). While theshare ofthefarmsector decreased to6percentofGDP
in1996from8percentin1990, thecontribution ofservices rosefrom61to63percent. Expansion
ofservicesinrecentyearshasbeendrivenmainlybyactivitiesintransport,communicationsandfinancial
services; themajority ofthelabour force (51percent) isemployed intheservices sector. The
contribution ofmanufacturing toGDPhasfallen from23to19percent.Despite itsmodest contribution
toGDP, theagricultural sector employs about aquarter ofthelabour force, more thandouble that
ofmanufacturing(10percent).ThesalientfeaturesofsomeofthesesectorsarediscussedinChapterIV.
1Banco deMéxico (1997).
2Openness oftheeconomy, measured astheratio oftrade (thesumofexports andimports) ingoods and
non-factor services toGDP, increased from 33percentin1981 to38percentin1993. Since then, however,
thegrowth hasbeen spectacular; theratio isestimated at62percentfor1996.
3Theonlyexceptions aresome tariff increases oncertain goods (e.g. clothing andfootwear) (Chapter III).
4IntheNational Survey ofUrban Employment (ENEU) persons aged 12ormore areconsidered employed
if,inter alia,theyhave worked atleast 1hour forbarter ormoney, orwere self-employed.
5World Bank (1996), page 197.
6Economist Intelligence Unit(1995), page 17.WT/TPR/S/29 Trade Policy Review
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Table I.1
Basic social andeconomic indicators oftheeconomy, 1970-96
1970 1980 1990 1996a
Population (million, mid-year) 48.2 66.8 81.2 92.0
Growth ofpopulation (percentage change)b.. 2.9 2.3 2.1c
Urban population (percentoftotal) 59 66 71 74
Lifeexpectancy atbirth(years) 62 66 70 73
Total fertility rate(births perwoman) 6.8 4.7 3.3 2.8d
Infant mortality rate(per'000livebirths) 74 54 39 28
School enrolment ratio(percent)
Primary school 104 115 115 98e
Secondary school 22 46 55 88e
GNP percapita (US$, current prices) 822 3,106 3,240 3,320d
Share ofGDP (percent)fGrowth rates (percent)f
1970 1980 1990 1996a1981-93g1994 1995 1996a
Agriculture, forestry andfishing 11 8 8 6 1 0 2 1
Industry 31 33 33 26 2 5 -8 10
Mining 2 3 4 1 2 2 -3 8
Manufacturing 21 22 23 19 2 4 -5 11
Construction 6 6 5 4 1 8 -23 11
Electricity, gasandwater 1 1 2 2 5 5 2 4
Services (including Government) 59 60 61 63 2 5 -6 3
Commerce, restaurants andhotels 28 28 26 18 1 7 -16 4
Transport andcommunications 4 6 7 9 3 9 -5 9
Financial services 10 9 11 15 4 5 -0 1
Social andcommunity servicesh17 17 18 20 2 1 -2 1
Banking servicesi-1 -1 -1 -2 ... ... ... ...
... Notavailable.
a Provisional. f Upto1993in1980constant prices, thereafter in1993prices.
b Average annual growth fortheprevious tenyears. g Annual growth rate.
c Average for1990-94. h Includes professional, medical andother services.
d 1995 data. i Banking services areimputed value.
e 1994 data.
Source: Government ofMexico; andWorld Bank, World Tables 1995, STARS version (growth ofpopulation, andschool enrolment
ratiofor1990).
(2) Recent Economic Developments
4. Since theprevious Trade Policy Review in1993, Mexico 'seconomic scene hasbeendominated
bythepesocrisis andsubsequent adjustment (Box I.1). Thereform programme, undertaken inthe
wake ofthedebtcrisis oftheearly1980s, initiated aturnaround oftheeconomy, withasharp reduction
inthefiscal deficit andalowering ofinflation tosingle-digit levels. Netcapital inflows surged, financing
current account deficits. Positive effects werealsoexpected frommembership oftheNorth American
FreeTrade Agreement (NAFTA), which came intoforce on1January 1994.7Arealappreciation
ofthepesoupto1994 helped tocontrol inflation, butalsoledtoabuildup oflarge current account
deficits, reversing thecapital flows, causing reserve losses, andincreasing dependence onshort-term
foreign currency borrowing. However, atthetimeoftheprevious review, itwasthought thatthe
7SeeChapter IIformore details.Mexico WT/TPR/S/29
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growth ofimports, which included highlevels ofcapital goods andintermediates, would contribute
toincreased exports overtimeandthusrestore commercial balance. Butbylate1994, Mexico 's
short-term liabilities farexceeded thereserves, placing theGovernment inaserious liquidity crisis.
Thiswasexacerbated bypolitical events intheperiod leading uptothechange inadministration in
December 1994. Economic andpolitical factors thuscombined tocause alossofconfidence thatled
tothedevaluation andsubsequent floating ofthecurrency inDecember 1994 (Chart I.1).8
5. Thepost-crisis stabilization programme wassupported bymajor packages offinancial assistance
from theinternational financial community, including theInternational Monetary Fund andthe
Government oftheUnited States.9Intheshort term, theprogramme focused onreducing thecurrent
account deficit andpreventing aprice/wage spiral following thecurrency depreciation. Although
macroeconomicstabilizationwasattheforefront,structuralreformswerealsostrengthened,forexample,
byfurtherliberalizationoftheforeigninvestmentregime,deepeningofthealreadyextensiveprivatization
programme, reforms insocial security andthebanking sector, andthecreation offutures markets for
foreign exchange.
(i) Aggregate supply anddemand
6. Inthewakeofthefinancial crisis, theMexican economy initially experienced asharp contraction
in1995, withadecline inrealGDPof6.2percent,inresponse to,among otherelements, contractionary
monetary policy andadecrease inexternal savings (Table I.2andChart I.1).Output fellinallsectors,
butactivities inthedomestic market were themost affected (notably construction, commerce, and
restaurants andhotels). Since then, however, thereform programme hasyielded apositive supply
response; theeconomy picked upin1996, withrealgrowth of5.1percent. Initially ledbythegrowth
ofexports, boosted bydevaluation, therecovery ofthemanufacturing andconstruction sectors was
particularly strong, withsome 11percentgrowth inbothcases. However, realprivate consumption
increased byonly2.3percent, following thesharp dropof9.5percentin1995.
(ii) Public finances
7. Public finance nowappears tobesatisfactory. Theoverall public sector balance, which had
registered anannual average deficit of6.0percentofGDPfrom1980to1992, hadbeenbrought into
surplus intheearly1990s.10Related totheelectoral cycle, theoverall position deteriorated somewhat
in1994, buthassincebeenbalanced. However, asdiscussed below, thecostofsupport tothebanking
sector andthesocial sector reforms isexpected tobeaserious drain onthebudget forsome time.
IftheGovernment istomaintain itstargeted balanced budget, fiscal developments willhavetobeclosely
monitored.
8Frankel (1996) shows thattheMexican investors ledthecapital outflows; justbefore thedevaluation,
Mexican fundnetasset values (mainly driven byMexican investors) dropped faster thanMexican country fund
prices (mainly driven byforeign investors). Thismayhave been inexpectation ofadevaluation such ashad
occurred following earlier presidential elections (when exchange rates were notsetbythemarket).
9TheIMFprovided astandby arrangement ofUS$18 billion, equal toalmost seven times theMexican quota.
Thisisthelargest loanthattheIMF hasprovided bothinterms ofpercentofquota andinabsolute terms.
10Theoverall public sector includes theFederal Government; theFederal Districts; andState-owned
enterprises.WT/TPR/S/29 Trade Policy Review
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BoxI.1: Events leading uptothepeso crisis
Thecauses ofthepeso crisis inDecember 1994 canbedivided intothree broad areas, although there is
disagreement over their relative importance: (i)build upofmacroeconomic imbalances (thepeso
overvaluation, andlarge current account deficit), which ledtoincreasing reserve losses andgrowing
dependence onshort-term foreign currency borrowing; (ii)adverse external events (rise inU.S. interest
rates); and(iii)aseries ofdomestic political events. Some economists alsoargue thatthefinancial crisis
wasaggravated byaspeculative attack andtherefore notentirely driven byunderlying fundamentals. In
anyevent, these wasalossofconfidence which ultimately ledtothecollapse ofthecurrency andthe
devaluation of20December 1994.
Several ofthekeyeconomic indicators hadlooked promising. Thegovernment 'sfiscal deficit, which
was13percentofGDP in1986, haddramatically improved to0.4percentofGDP in1993, although,
related totheelectoral cycle, itworsened somewhat in1994. Inflation wasreduced from 131percentin
1987 to10percentin1993. Moreover, theeconomy wasgrowing atahealthy rate(annual average real
GDP growth of3percentbetween 1990 and1993).
However, Mexico experienced substantial increases inprivate spending andtrade deficits from 1988 to
1994. Amarked realappreciation ofthecurrency since 1991 contributed tothewidening ofthecurrent
account deficits; thecurrent account deficit hadreached about 5.8percentin1993 andwould peak at
7.0percentofGDP in1994 asaresult ofasharp riseinimports outweighing theriseinexports. The
large current account deficits were, inasense, over-financed byexternal resources. Attracted bya
strong reform programme including important structural reforms (privatization, deregulation, andoutward
orientation) andtheperceived positive economic outlook, netcapital inflows surged during thesame
period andpeaked with thepassage ofNAFTA inJanuary 1994. Alarge partoftheforeign inflows
went into thestock market. Netinternational reserves rose from US$7 billion atend-1988 to
US$24 billion atend-1993.
Aseries ofdomestic andexternal events affected thefinancial markets in1994. InJanuary there was
civilunrest intheState ofChiapas. There wasalsoturbulence ininternational bond markets andworld
interest rates rosesignificantly. Subsequent totheassassination oftheleading Presidential candidate in
March, theflow ofportfolio investment almost dried up. Nominal interest rates were increased
substantially, andthenominal exchange ratewaspushed totheband ceiling.
Capital outflows continued during theyear andtheMexican trade deficit wasfinanced largely by
drawdown ofinternational reserves. Toprevent further interest rateincreases, theGovernment expanded
domestic credit andconverted short-term peso-dominated government liabilities (cetes) falling dueto
dollar-denominated bonds (tesobonos). Asnoted bySachs (1996), bylate1994 Mexico 'sshort-term
liabilities farexceeded thereserves (public sector external short-term debtwasmore thanthree andahalf
times theinternational reserves), placing theGovernment inaliquidity crisis.
Theuseofapredetermined exchange ratetoreduce inflation, coupled withverylarge capital inflows that
were intermediated byaweak banking system, ledtoasituation ofexchange rateovervaluation, a
vulnerable financial sector andeventually, inDecember 1994, thecollapse ofthecurrency. Following a
15percent increase intheexchange rateceiling on20December 1994, theGovernment adopted a
floating exchange ratesystem on22December. Under thissystem, which isstillinforce, theexternal
value isdetermined intheinterbank market onthebasis ofsupply anddemand. Atthetimeofthecrisis
thereserves hadfallen toUS$6 billion from ahighofUS$29 billion inJanuary 1994 (thepassage ofthe
NAFTA).
Source: IMF (1995), Working Paper 95/112 byOtker and(1996), Working Paper 96/6 byMasson.Mexico WT/TPR/S/29
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