After a no vote on a new airport was reached yesterday in a referendum that president-elect Andrés Manuel López Obrador (aka AMLO) put on a special ballot, investors turned a bit sour. Elected this summer, AMLO takes over the presidency in December.
Mexico’s sovereign credit rating is still investment grade, but the outlook has slipped from stable to negative, the rating agency said on Wednesday. The stalled Mexico City airport project, one AMLO says is mired in dirty money, is just part of the problem.
There are risks that the follow-through on previously approved reforms, for example in the energy sector, could also stall and that other policy proposals will result in lower investment and growth than currently expected. His sole decision to cancel the construction of a new airport for Mexico City and potentially build one elsewhere—a failing bid—sent a negative signal to investors.
MSCI Mexico is down around 8% in the last five days.
Also, new proposals for large investments by state-owned oil company Pemex, whose creditworthiness have been under pressure due to debt burdens, are adding to the growing risk related to state liabilities, say Fitch analysts led by Charles Seville in New York.
AMLO’s election landslide was a strong mandate to tackle corruption, something that is also reverberating in other major Latin American countries like Brazil. AMLO also promised a significant shift in policy priorities and a different style of governing. His Morena party won a majority in both houses of Congress, which started work in September, enhancing his ability to push through his agenda once he starts the job on December 1.
A new budget is expected shortly after, together with a medium-term growth plan for Mexico. Similar to the existing government of Enrique Peña Nieto, the AMLO budget will likely see public sector borrowing requirements of 2.5% of GDP. So more bonds to be issued to Wall Street.
The incoming administration has pledged not to raise taxes for the first three years of the administration, a plus for pro-growth equity in Mexico. The current fiscal responsibility law limits growth in current spending, but AMLO can change that and put it to social use.
“After a lackluster second quarter which saw an outright contraction in activity, growth in Mexico is normalizing and moving back toward trend,” says Arthur Carvalho, an economist with Morgan Stanley. “Consumers appear to be in good shape.”
Continued export demand from the U.S. also keeps Mexican manufacturers happy, and services associated with external trade are doing well with room to move if the U.S. continues on its current trajectory.
As much as the recent growth normalization is welcome news, the more relevant debate is around the long-term prospects for Mexico—a country that has succeeded in delivering broad macro stability over a long period, but as an emerging market tied to the biggest consumer economy in the world, Mexico could be doing much better.
Expectations for Mexico’s interest rates went from no hikes to more hikes once the airport deal lost at the polls. The referendum sent the peso to its biggest decline in two years, pushing it back over 20 to 1.
JPMorgan Chase and Itau of Brazil say interest rates will go up on November 15 after the central bank policy meeting there in order to contain fallout from the peso. They previously forecasted no change. JPMorgan analysts think Banxico won’t stop there and will hike again in December, a negative for Mexico ETF investors.
If the transition period is any indication, AMLO’s road to “national redemption” will be a long and tricky one, Slate magazine wrote on Tuesday. AMLO has already made a number of “uncharacteristically ham-fisted choices,” wrote Leon Krauze, a news anchor for Univision in Los Angeles, in Slate.
Three weeks after his July 1 election, AMLO picked Manuel Bartlett from Peña Nieto’s party, a man he once accused of fraud, to be Mexico’s electric power commissioner. That same day, he named Octavio Romero, an agricultural engineer, and his close personal friend, to run … an oil company, Pemex. Either this proves Mexico has very few of the best and brightest to pick from in government, or AMLO is confusing corn oil for crude. Either one could be right.
Meanwhile, some promises contained in the transition team, like increasing social welfare and government pensions, may be difficult to pull off within the budget framework. AMLO has said in the past that cutting government waste and graft would give him the money to transfer some wealth down-market.
This will surely take time and is not something Mexicans, or AMLO, should count on in year one of his presidency. The cost in doing so could exceed the amount of savings that have been proposed so far, savings such as restrictions to federal fund transfers to the states and cutting inefficient social programs.
Proposals that Pemex invest in new refining capacity to substitute for gasoline imports would entail higher borrowing and larger contingent liabilities to the government. AMLO said he would honor plans to open Mexican deepwater oil to foreign investors.
It was the airport deal that surprised markets yesterday and may have pushed credit watchdogs over the edge.
It should not have come as too much of a surprise, however. AMLO always said he was against the project due to corruption and overspending, and promised to put a new project up for a vote. He also said that investors such as debtholders and contractors in the now abandoned Mexico City airport project will be protected.
AMLO was once viewed as Mexico’s anti-Trump and compared by some to Brazil’s Luiz Inacio Lula da Silva. AMLO has reached out to Trump to help him stop a central American caravan of mostly men looking for jobs in the U.S., and eked out a better deal for Mexican autoworkers in the new NAFTA. For AMLO, comparisons to Lula are best forgotten. Lula is serving a 12-year prison sentence for his role in Operation Car Wash, Brazil’s largest ever bribery scandal, affiliated with state-run oil firm Petrobras.