VZCZCXRO9092
PP RUEHCD RUEHGD RUEHHO RUEHMC RUEHNG RUEHNL RUEHRD RUEHRS RUEHTM
DE RUEHME #3345/01 3171529
ZNR UUUUU ZZH
P 121529Z NOV 08
FM AMEMBASSY MEXICO
TO RUEHC/SECSTATE WASHDC PRIORITY 3946
INFO RUEHXC/ALL US CONSULATES IN MEXICO COLLECTIVE PRIORITY
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHC/DEPT OF LABOR WASHINGTON DC
RHMFISS/DEPT OF ENERGY WASHINGTON DC
RHMFIUU/HQ USNORTHCOM
RHMFISS/CDR USSOUTHCOM MIAMI FL
RHEHAAA/NSC WASHINGTON DC

UNCLAS SECTION 01 OF 05 MEXICO 003345 
 
SENSITIVE, SIPDIS 
 
STATE FOR WHA/MEX, WHA/EPSC, EB/IFD/OMA, AND DRL/AWH 
STATE FOR EB/ESC MCMANUS AND IZZO 
USDOC FOR 4320/ITA/MAC/WH/ONAFTA/GERI WORD 
USDOC FOR ITS/TD/ENERGY DIVISION 
TREASURY FOR IA (ALICE FAIBISHENKO) 
DOE FOR INTERNATIONAL AFFAIRS (KDEUTSCH AND ALOCKWOOD) 
NSC FOR DAN FISK 
STATE PASS TO USTR (EISSENSTAT/MELLE) 
STATE PASS TO FEDERAL RESERVE (CARLOS ARTETA) 
 
E.O. 12958: N/A 
TAGS: ECON EFIN ENRG EINV PGOV MX
SUBJECT: MEXICO?S ECONOMY HIT BY GLOBAL CRISIS; PLANE CRASH 
EXACERBATES FINANCIAL MARKETS? NERVOUSNESS 
 
¶1. (SBU) Summary: Jitters over the depth of the global 
economic downturn, the drop in oil prices, and foreign 
investors? flight to quality have hurt domestic financial 
markets.  The financial crisis and the downturn of the U.S. 
economy is adversely affecting the Mexican economy, 
reflected in a decline in manufacturing exports, a slump in 
remittances sent by Mexicans abroad, an expected drop in 
tourism and FDI flows, a lower demand for Mexican oil 
exports, and unemployment.  The government has implemented 
a series of measures to help relieve liquidity pressures, 
stabilize the main economic variables, offset the oil 
revenue shortfalls, and boost the economy.  The timing and 
effectiveness of the government?s countercyclical measures, 
especially the National Infrastructure Plan (NIP), and the 
passage of other economic reforms or will determine how 
effectively Mexico will weather the economic recession. The 
November 4 plane crash that killed the Secretary of 
Interior, a close friend and advisor to President Calderon, 
has contributed to a sense of uncertainty.   While it is 
premature to speculate on the causes of this tragic event, 
the impact has shaken policy makers and markets.  End 
Summary. 
 
REACTION TO SECRETARY OF INTERIOR?S SUDDEN DEATH 
--------------------------------------------- --- 
¶2. (SBU) The Mexican stock market's index, the IPC, fell 
5.05% and the peso depreciated 0.96% to 12.60 pesos to the 
dollar a day after the U.S. elections and the plane crash 
which killed Secretary of the Interior Juan Camilo Mourino. 
Government officials and analysts had expected some relief 
in financial markets after the U.S. elections, but poor 
economic data in the U.S., rising jitters on the depth of 
the global economic recession, and what analysts have 
called a healthy profit-taking after a weekly gain of 28% 
had negative effects on the stock market. 
¶3. (SBU) Finance Secretary Agustin Carstens and the 
Chairman of the Stock Market Guillermo Prieto maintained 
that it was premature to speculate on the cause of the 
crash which killed Mourino and on the long term impact on 
the economy.  Both asserted that Mexico's economic 
fundamentals were solid and unaltered after the tragedy. 
The government has been implementing a series of measures 
to help relieve liquidity pressures and stabilize the main 
economic variables.  Carstens noted that Mexican financial 
markets are "functioning adequately and will continue to". 
Prieto acknowledged speculation about possible sabotage of 
Mourino's airplane as a response to the government's 
ongoing war against drugs, but stressed that until the 
government releases the results of the investigation, 
"investment plans and financial markets should not be 
affected." 
 
PLANE CRASH BRINGS BACK MEMORIES OF 1994 
---------------------------------------- 
¶4. (SBU) The government's war against drugs, surging 
insecurity levels and the Secretary of the Interior's 
sudden death brought back unpleasant memories of the 
assassination of Revolutionary Institutional Party's (PRI) 
presidential candidate Luis Donaldo Colosio in 1994 and the 
financial (?Tequila?) crisis that ensued.  Most experts 
consider these fears to be premature, and speculation 
before the government announces the real cause of the plane 
crash, could be risky. The government has undertaken a 
thorough investigation of the crash, inviting aviation 
experts from the U.S. and the U.K. to assist.  The 
government's communication strategy on the incident, 
informing the media and the public step-by-step on the 
process of the investigation and  the level of cooperation 
with foreign governments including the U.S., as well as 
President Calderon's commitment to investigate the case 
thoroughly have helped soothe concerns. While the 
investigation is ongoing and may not be completed until 
eleven months from now, all evidence uncovered to date 
points to the crash being the result of an accident and 
 
MEXICO 00003345  002 OF 005 
 
 
non/not sabotage. 
 
ANALYSTS THINK GOM FUNDAMENTALS ARE SOLID 
----------------------------------------- 
¶5. (SBU) Banamex-Citigroup's chief political and economic 
analyst Sergio Kurczyn told us that if the investigation 
concluded that sabotage was the cause of the plane crash, 
financial variables would undoubtedly be affected.  But, 
more than these variables the strongest impact would be on 
the credibility and strength of the country's institutions. 
Kurczyn said he thought the pillars of public institutions 
had already been weakened by the tight 2006 presidential 
election and Andres Manuel Lopez Obrador's protests 
claiming electoral fraud, as well as the removal of the 
Federal Electoral Institute's counselors by the Congress. 
 
¶6. (SBU) Banamex analyst Kurczyn told us he did not think 
Mexico would relive the political and economic crisis of 
1994 and 1995.  Echoing the government's views on the 
economic and financial situation, he noted that the 
economic and financial conditions are very different now 
from what they were more than a decade ago: Mexico has 
lower foreign debt (equivalent to 2.4% of GDP), high 
foreign reserves, a fixed exchange rate, a low inflation 
rate compared to other countries, well-capitalized banks, a 
lack of risky structured instruments, low private sector 
leverage, etc.  Moreover, the financial crisis did not 
originate in Mexico this time.  For Kurczyn, international 
confidence in Mexico's fundamentals was reflected in the 
Federal Reserve Bank's recent 30-billion swap line to the 
Bank of Mexico and the International Monetary Fund's 
decision to double borrowing limits for emerging-market 
countries.  Goldman Sachs Director General in Mexico and 
former Finance Under Secretary, Martin Werner echoed 
Kurczyn's confidence in the strength of the financial 
institutions saying that Mexico learned its lesson and that 
banks are stronger.  The only impact on financial 
institutions would be the cut in annual profits because 
they will be forced to increase their preventive reserves 
to face the rising non-performing consumer loans. 
 
¶7. (SBU) Financial authorities and Hacienda officials have 
repeatedly denied the risk of a collapse of the banking 
system thanks to the regulations implemented since the 
1994-1995 so-called "Tequila crisis", which have 
strengthened financial institutions.  Banks have 
dramatically changed the way they report their accounting 
and their balance sheets are available to investors' 
scrutiny.  An exception though was the exposure of some 
companies to foreign exchange derivatives, which made the 
peso depreciate to over 14 pesos to the dollar in October. 
The peso depreciation led to the bankruptcy of a major 
Mexican retail store and left other major Mexican 
corporations shaky.  The Finance Secretariat asserted that 
the demand for dollars has been supplied and that most of 
these operations had been closed. 
 
¶8. (SBU) Corporations? failure to disclose their exposure 
to such operations made authorities realize the need for 
stricter supervision.  The National Banking and Securities 
Commission (CNBV) stepped up by conducting an investigation 
on the companies' compliance to their obligation to report 
significant financial information.  Lawmakers are preparing 
an initiative to increase disclosure of derivative 
positions and their potential risk.  The Finance 
Secretariat is currently working on a specific bankruptcy 
law and is also looking into incorporating further controls 
based on the U.S. subprime experience. 
 
CREDIT CARDS AND CONSUMER LOANS 
-------------------------------- 
¶9. (SBU) The increase of non-performing consumer loans, in 
particular credit cards, has raised concerns about bank 
solvency.  The National Banking and Securities Commission 
 
MEXICO 00003345  003 OF 005 
 
 
(CNBV) reported that the delinquency index, which measures 
delinquent loans as a percentage of total loans, rose from 
2.82% to 3.03% during the third quarter of the year. This 
figure is still low compared to 16.3% in 2001.  The 
delinquency index in consumer loans, including credit cards 
and automobile loans, rose from 6.92% to 7.69%.  Within it, 
the delinquency index for credit cards grew from 8.18% in 
the second quarter to 9.41% in the third quarter, and from 
3.9% in December of 2005.  The delinquency index for 
housing and business loans rose from 3.05% to 3.34% and 
from 1.05% to 1.09%, respectively. 
 
¶10. (SBU) Banks have raised their preventive reserves due 
to the increase in credit cards? overdue payments. 
Currently, coverage for non-performing loans is 157%, which 
means that for each peso owed, banks have 1.57% to cover 
it.  Banks' current capitalization index or the capital-to- 
asset ratio is 15%, which is way above the required 8% by 
domestic and international standards.  The private sector's 
current leverage is equivalent to 22% of GDP ? which 
comparies favorably to 201% in the U.S.  The recent 
increase in credit card interest rates from an average of 
34% to 42% is worrisome, especially when there is a 
potential risk of a higher unemployment rate in the coming 
months.  To offset this risk, banks have reduced the 
issuance of credit cards and are being more careful with 
their credit origination procedures, both for credit cards 
and mortgages.  The Bank of Mexico, the Finance 
Secretariat, other financial authorities, and banks have 
created a coalition to improve financial education for 
consumers. 
 
CENTRAL BANK ACTIONS TO ADDRESS THE CRISIS 
------------------------------------------- 
¶11. (SBU) To shore up the peso and tackle liquidity 
pressures, the central bank has engaged in daily U.S. 
dollar sales (USD 13.1 billion of its $84 billion foreign 
exchange reserves) in an attempt to break a dangerous cycle 
of currency weakness begetting turmoil.  Foreign exchange 
reserves continue to be high despite this dollar injection 
(USD 76 billion).  Other central bank policy actions 
include: paying interest on dollar deposits held with the 
central bank; repurchasing up to 150 billion pesos of 
Savings Protection Bonds, which is expected to help in the 
sterilization process in order to reduce the amount of 
dollars auctioned by the central bank; establishing an 
interest rate swap mechanism via which local banks will be 
able to exchange exposure to long-term fixed interest rates 
for short-term variable rates; and, establishing a USD 30 
billion swap facility with the U.S. Federal Reserve. 
 
¶12. (SBU) The government announced it will reduce the 
supply of its long-term securities in its fourth quarter 
2008 auction program and the weekly issuance of Savings 
Protection Bonds.  The GOM will temporarily permit 
financial institutions to buy and sell government 
instruments from investment funds that are part of the same 
financial group.  The government is providing guarantees on 
commercial paper via development and mortgage banks.  The 
most recent measure announced by the Finance Secretariat is 
the buy-back of up to USD 3.2 billion of debt (bonds with 
maturities between 10 and 30 years) in an effort to drive 
down long-term yields.  The government expects liquidity 
pressures to stabilize during the first quarter of 2009, 
but will extend these measures if needed. 
 
¶13. (SBU) On Oct. 8th, President Calderon announced his 
Program for Growth and Employment aimed at mitigating the 
impact of the global economy's deterioration and credit 
crunch.  The Program for Growth and Employment focuses 
boosting the economy by increasing public spending on 
infrastructure projects.  The elimination of Pidiregas 
(long-term debt for infrastructure projects), included in 
the program will enable the government to convert Pidiregas 
 
MEXICO 00003345  004 OF 005 
 
 
liabilities into public debt and exclude Pemex's capital 
expenditures from the balanced budget.  This measure will 
give the government an additional USD 6 billion to spend on 
infrastructure.  The initiative will also allow Pemex to 
use its current stabilization fund of approximately USD 923 
million to build a refinery. 
 
OIL PRICE AND THE RISK OF REVENUE SHORTFALLS 
-------------------------------------------- 
¶14. (SBU) Due to the deterioration of the global economy, 
the government had to submit revised economic projections 
to the Congress.  GDP growth, the Mexican oil mix price, 
the exchange rate were revised downward from 3% to 1.8%, 
from USD 80.3 to USD 70 per barrel, and from 11.20 pesos to 
the dollar to 11.70 pesos to the dollar, respectively.  The 
1.8% GDP growth seems too optimistic given the depth of the 
global financial crisis and the sharply downgraded outlook 
for the U.S. economy.  In its World Economic Outlook 2008, 
the IMF projects a GDP growth of 0.9% in 2009 from the 
previous projection of 1.8%.  There are growing concerns 
that lower economic growth and the decline of international 
oil prices could lead to a revenue shortfall next year. 
 
¶15. (U) The Finance Secretariat assures that it will not 
have to cut spending next year particularly in 
infrastructure projects, security, and social development 
as it has a cushion of USD 4.3 billion in the Oil 
Stabilization Fund.  The government is also confident that 
a weaker peso will compensate for the oil price fall.  The 
stabilization fund would be sufficient if the Mexican oil 
price falls from the USD 70 per barrel set in the budget to 
USD 60 per barrel.  However, the Mexican oil mix price 
keeps on falling and on November 5 it closed at USD 43 per 
barrel.  The government might have already hedged a chunk 
of its oil exports, according to analysts, although it is 
unlikely that the Finance Secretariat will acknowledge this 
fact.  The Finance Secretariat continues to gradually 
eliminate the gasoline subsidy. 
 
¶16. (SBU) The elimination of Pidiregas will allow the 
government to have a fiscal deficit of 1.8% of GDP, which 
will help the government funnel resources to 
countercyclical measures, such as the development of 
infrastructure projects.  Next year, the government will 
spend USD 10.6 billion against the USD 18.5 billion 
disbursed in 2008.  The government also requested the 
Congress to increase its indebtness levels and incur in 
foreign debt of USD 5 billion with multilateral financial 
organizations.  The Finance Secretariat is confident that 
if required it will have access to those loans since the 
Mexican government prepaid USD 9 billion of its foreign 
debt in 2006.  Leftist economist Rogelio Ramirez de la O 
and other critics strongly believe the government should 
cut its current expenses and bureaucrats' salaries to help 
offset the revenue shortfalls. 
 
HOW THE CRISIS AFFECTS MEXICO?S REAL ECONOMY 
-------------------------------------------- 
¶17. (SBU) Tourism, oil and trade. The financial crisis and 
the downturn of the U.S. economy is having an adverse 
impact on the Mexican economy through various channels: a 
decline in manufacturing exports, a slump in remittances 
sent by Mexicans abroad, a drop in tourism and FDI flows, a 
lower demand for Mexican oil exports, and unemployment. 
About 85% of Mexico?s foreign trade is tied to the U.S. 
economy.  The exports value of manufactured goods declined 
by 3.8% yoy in August.  Non-oil exports to the U.S. fell by 
6.6% and with them, automobile sales to the U.S. dropped by 
16.4%.  From January thru June, foreign direct investment 
dropped 24% and tourism inflows are expected to slow next 
year. 
 
¶18. (SBU) Migrants and remittances. The lower remittances 
will likely have a negative impact on domestic consumption 
 
MEXICO 00003345  005 OF 005 
 
 
and housing construction.  From January thru September, 
remittances have fallen by 3.7%. In July alone, they 
dropped by 7%.  The potential return of thousands of 
Mexicans who have lost their jobs in the U.S. construction 
sector will put pressure on Mexico?s job creation. 
Mexico?s official unemployment rate reached a record of 
4.25%. 
 
¶19. (SBU) Financial markets.  Jitters on the depth of the 
global economy, the drop in oil prices, and foreign 
investors? flight to quality from peso-denominated bonds to 
U.S. Treasuries have hurt Mexico?s financial markets.  The 
stock market's main index, the IPC, has plunged and the 
peso has suffered a major depreciation against the dollar 
during the past months.  The peso has lost 33% from its 
strongest level of 10 pesos to the dollar last July and the 
IPC has fallen 31.5% during the year.  The country-risk 
premium closed at 405 basis points on November 7 from 141 
basis points in December 2007.  The yield of the 30-year 
bond reached 11.30% on October 24 before the government?s 
actions to address liquidity problems, but by November 4 it 
had fallen to 8.8%.  Short-term yields? performance will 
continue to depend on the inflation, which reached 5.78% in 
October on higher gasoline and electricity prices.  The 
central bank?s benchmark overnight lending rate is 8.25%. 
The Bank of Mexico expects the inflation to begin to recede 
in the second quarter of 2009. Foreign currency flows have 
also declined.  The Bank of Mexico is projecting a current 
account deficit of between 1.6% and 2% in 2009.  One of the 
most pessimistic projections is that from Banamex with a 
2.8% deficit. 
 
COMMENT 
------- 
¶20. (SBU) Comment:  The government's war against drugs, the 
deteriorating security situation and the Secretary of the 
Interior's sudden death raised fears here that Mexico would 
experience another ?Tequila? crisis, much like the one 
which ensued after the assassination of PRI presidential 
candidate Luis Donaldo Colosio in 1994.  Experts, however, 
caution against jumping to such conclusions.  The 
government has made extraordinary efforts to soothe worried 
investors by constantly referring to Mexico?s well-ordered 
finances and macroeconomic variables, but Mexico?s 
integration with the U.S. economy will undoubtedly impact 
the country?s economy. On the financial front, the Finance 
Secretariat and the Bank of Mexico seem to have been 
reacting promptly to tackle liquidity pressures and the 
financial crunch. The timing and effectiveness of the 
government?s countercyclical measures, especially the 
National Infrastructure Plan, and the passage of other 
economic reforms will determine not only how well Mexico 
weathers the economic recession, but also how fast the 
country will succeed in its insertion into the global 
economy.  End Comment. 
 
GARZA