Commentary: Weighing the Impact of Mexico's Bold Infrastructure Plans

In 1994, Mexican President Carlos Salinas embarked on a pre-election spending spree which resulted in a collapse of the Peso and forced the new Zedillo administration to seek emergency loans from both the IMF and US. 20 years later, times have change.  Mexico no longer maintains an ill-advised peg to the US dollar, allowing the Peso to float freely.  Fiscal restraint was implemented, and the loans to the US were paid back early.  Today, the Bank of Mexico has nearly 150 billion USD of foreign reserves.  (Foreign reserves where depleted as the Bank desperately tried to defend the peg against speculators during the '94 crisis)  Debt to GDP stands at a stable 43 percent.  The budget deficit in 2012 was a 0.6 percent of GDP.  In short, Mexico excellent fiscal health compared to the rest of world puts in an excellent position to enact counter-cyclical fiscal policies to combat a manufacturing slump.  

Mexico  has prudently decided to spend USD 318 billion, roughly 25 percent of GDP, on new infrastructure projects over the next five years.  The goal is to both help Mexico cope with a short-term slowdown in exports, brought on mainly by US fiscal tightening, but also to boost overall competitiveness in the long term.  It will be interesting to see how the politics of this bold proposal play out.  Whether or not the PAN, a center right party which oversaw the repair of Mexican finances while in power from 2000 to 2012, supports the actions of new Peña Nieto administration.  The president's party, the PRI, does not hold a majority in Congress.  

On FX, the outlook for MXN has therefore improved.  Mexico's long overdue improvement to its infrastructure will support both short-term and longterm growth.  For the next year, I also expect the Banco de Mexico to maintain a neutral monetary policy so long as core inflation does not rise above its 3.00 percent target.  Furthermore, elevated levels in the general index should prevent any rate cuts, even if the bank judges them to be caused by transitory factors.  I target 12.30 MXN per USD by year end, but funding a long MXN trade with Euros or Swiss Francs may be even more attractive.