VZCZCXRO1674
PP RUEHCD RUEHGD RUEHHO RUEHMC RUEHNG RUEHNL RUEHRD RUEHRS RUEHTM
DE RUEHME #0030/01 0071935
ZNR UUUUU ZZH
P 071935Z JAN 09
FM AMEMBASSY MEXICO
TO RUEHC/SECSTATE WASHDC PRIORITY 4555
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 03 MEXICO 000030 
 
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: ECONOMIC CONDITIONS IN MEXICO 
 
¶1.  (SBU) Summary:  Although the global financial crisis has 
weakened MexicoQs economy, most analysts do not fear a repeat of the 
1995 peso collapse.  Financial conditions in Mexico Q most notably 
the absence of a large foreign debt Q have improved measurably over 
the financial situation existing in the early 1990s.  However, the 
Mexican economy will not likely grow in 2009 and recovery in 2010 
will not reduce MexicoQs 40 percent poverty rate.  With virtually no 
success in meeting key campaign promises of reducing poverty and 
creating employment, the ruling PAN party faces serious political 
challenges in the 2009 congressional and gubernatorial elections. 
Furthermore, a deepening economic recession and costs associated 
with MexicoQs war on organized crime/narco-trafficking could 
potentially spawn populist candidates vying for the 2012 
presidential election.  However, with four years to go in the 
Calderon Administration, it is too early to place any political 
bets.  End Summary. 
 
CURRENT ECONOMIC STABILITY 
 
¶2.  (SBU) Mexico strengthened financial institutions and economic 
and monetary policies following the peso collapse of the 
mid-nineties, making the economy less susceptible to a similar 
crisis now: 
-Foreign debt has been significantly reduced to around 4% of GDP; 
-A floating exchange rate has played a significant role as an 
adjustment variable; 
-U.S. dollar reserves surpass 80 billion; 
-Inflation remains in check -- although inflation has risen from 
3.8% in 2007 to 6.23% in November 2008, it is far from the two-digit 
inflation a decade ago --; 
-The government has made an effort to diversify exports through new 
trade agreements --still 80% of MexicoQs exports go to the U.S.--; 
-Mexico has no sub-prime mortgage problem; 
-Mexico continues to promote massive infrastructure programs to 
expand the economy despite recent tightening of credit and reduced 
foreign direct investment (down from USD 27 billion in 2007 to an 
expected USD 17-18 billion in 2008). 
 
¶3.  (SBU) Due in part to the strength of Mexican financial 
institutions, the Calderon government continues to tout the 
long-term stability of the Mexican economy.  Since the 1995 crisis, 
the government has undertaken a series of bold financial reforms to 
strengthen its financial system in accordance with international 
standards, such as the improvement of banking accounting standards, 
disclosure of information, capitalization requirements, credit and 
risk assessment and qualifications, promotion of private credit 
bureaus, and granting of licenses to retailers to operate banks.  In 
a recent report, Merrill Lynch rated Mexico as the second least 
vulnerable country out of 44 nations surveyed based on its solid 
economy.  The Finance Secretariat is working on legislation to 
simplify existing bankruptcy procedures and a bill to allow the 
operation of correspondent banks is pending in Congress.  After two 
previous administrations mired in political impasse, Calderon 
managed to achieve a consensus with opposition parties for the 
passage of  pension, fiscal and energy reforms, which although 
limited in scope were  positive steps in the right direction to 
relieve some pressure on public finances. 
 
ECONOMIC TROUBLE LOOMS 
 
¶4.  (SBU) Despite improvements since the 90Qs crisis, Mexico faces 
numerous serious challenges.  Oil production has decreased more 
rapidly than anticipated while global oil prices have fallen 
dramatically.  Mexico depends on oil revenue to fund nearly 40 
percent of itsQ national budget and a dramatic drop in oil income 
could severely impact the entire spectrum of Mexican social 
development programs.  Although the government wisely hedged oil 
sales at about USD 70 per barrel for 75 percent of its 2009 exports, 
declining production will mean far less income from oil exports. 
Many experts question whether new oil drilling at Chincotepec can 
compensate for the depletion of MexicoQs existing wells. Mexico does 
not have a robust tax collection system to counter the oil revenue 
loss and reform of the tax system appears unattractive as Mexico 
seeks to bolster waning foreign investment through tax incentives. 
Mexico has also failed to prevent tax evasion and has done little to 
 
MEXICO 00000030  002 OF 003 
 
 
simplify the existing procedures to spur tax collection. 
 
¶5.  (SBU) Mexico maintains its position as the worldQs 11th largest 
economy and one of the top ten automobile producers.  Two-way trade 
with the United States registers one billion U.S. dollars every day. 
 However, manufacturing continues to record negative growth and the 
automobile industry has sharply reduced production.  President 
CalderonQs pledge to create about a million jobs in 2008 will more 
closely approach the 300,000 mark.  Credit card defaults, the 
potential economic burden caused by out of work illegal immigrants 
returning to Mexico, company failures resulting from risky 
derivative ventures, and the cascading effect of lower oil 
production and prices all will take a toll on a struggling emerging 
economy.  A ten percent decline in remittances during November 
perhaps foreshadows a significant decline in the 25 billion dollars 
sent home annually by workers in the U.S. 
 
¶6.  (SBU) Most significantly, the Mexican government must divert 
social development funds to combat spiraling organized crime and 
narco-trafficking spreading throughout the country.  While the USD 
400 million Merida Plan (plus additional funds proposed for next 
year) should help considerably, Mexico will likely endure a 
protracted fight against the cartels with detrimental effects on 
foreign investment, tourism and internal stability.  Without a 
formal strategy that reduces the countryQs heavy reliance on oil 
revenues, security costs will bleed the Mexican treasury for many 
years to come.  To reduce poverty, the Mexican economy must achieve 
6-8 percent annual growth.  Projections for 2009 indicate zero 
percent economic growth. 
 
WHAT CAN BE DONE 
 
¶7.  (SBU) President Calderon succeeded in reforming Q marginally 
the energy sector to make way for increased foreign participation in 
developing oil resources.  However, most observers believe that the 
reforms are not adequate to turn around declining production. 
Deeper reforms coupled with urgent attention to development of 
alternative renewable energy sources are needed. 
 
¶8.  (SBU) Further investment in ports, roads, and other 
infrastructure would make Mexico more competitive with China and 
other Asian nations in accessing the U.S. market.  But, with tight 
international credit, many of CalderonQs ambitious construction 
plans have been delayed and will unlikely yield much benefit prior 
to the end of the Calderon administration.  Given that the lack of 
liquidity will likely delay larger infrastructure projects, the 
administration switched its strategy to focus on smaller projects, 
such as the maintenance of roads, schools, and water treatment 
plants. 
 
¶9.  (SBU) The Calderon government remains committed to free trade 
and open markets.  Recent tariff reductions confirm the governmentQs 
intention to pursue greater competitiveness.  Calderon has expressed 
concern that a potential review of NAFTA might nurture uncertainty 
in an area Q trade - where the economy has shown substantial 
progress.  Calderon will likely seek further harmonization of free 
trade agreements in Latin America and elsewhere and he will argue 
for greater access to the U.S. market Q more border crossings and 
more Mexican trucks on U.S. highways. 
 
¶10.  (SBU) The government needs to tackle public and private 
monopolies to increase competition mainly in the telecommunications, 
financial and energy sectors.  Only with lower operational and 
security costs, will Mexico be able to increase foreign investment 
and develop its domestic industry.  Regardless of the final results 
of the 2009 mid-term elections, the government and the Congress 
should make a pledge to pass further reforms, such as the labor and 
telecommunications reforms to improve the countryQs competitiveness. 
 The fundamental question is whether the prominent families who 
control MexicoQs wealth will be willing to open the economy to 
greater transparency and competitiveness. 
 
¶11.  (SBU) Further support is required for the sustainable 
development of micro, small and medium-sized businesses (SME), which 
provide employment to 72% of the population and which contribute to 
 
MEXICO 00000030  003 OF 003 
 
 
52% of the countryQs GDP.  SMEs need more access to financing, not 
only from development and commercial banks, but also from a more 
democratic stock market.  The government should continue to pursue 
the reduction of existing red tape and burdensome procedures to open 
new businesses throughout the country, and reduce the existing 
informal economy.  As a result of lower oil revenues, the federal 
government will eventually have to cut funds transferred to local 
governments.  Thus, states and municipalities should work on 
developing their own sources of income and gain more access to 
capital markets through more securitizations in order to invest in 
infrastructure. 
 
COMMENT:  WHERE MEXICO IS HEADED 
 
¶12.  (SBU) We believe that a repeat of the 1995 peso collapse 
appears unlikely.  Still, the Mexican economy will likely suffer a 
continued sharp downturn in 2009 and the government will not make 
much progress on the key economic issue facing the country: poverty 
and social inequities.  As long as 40 percent of its people live in 
poverty, Mexicans will remain susceptible to the lure of illegal 
migration, vulnerable to trafficking in people, arms, and drugs, and 
potentially open to the demagogic appeals of populist political 
candidates.  Having failed to deliver as the education or employment 
president, Calderon and his PAN party face a hard challenge in 2009 
congressional and gubernatorial races.  Deteriorating security 
conditions throughout the country will further erode the electoral 
chances of moderate leaders in Mexico and could eventually open the 
door to less democratic challengers.  This does not mean, however, 
that there is a Chavez currently waiting in the wings.  To the 
contrary, the more radical elements of the PRD Party who refuse to 
accept CalderonQs presidency and who took over the congress have 
alienated a significant portion of MexicoQs citizens and undermined 
that partyQs stability.  The more immediate threat to political 
stability comes from narco-traffickers and other organized crime 
elements who challenge security and cause the government to divert 
precious resources to fight rampant crime throughout the country. 
 
 
GARZA