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The Mexican Economy in the Global Economic Juncture Mr. Javier Guzmán Calafell, Deputy Governor, Banco de México Santander EM Day, Macro & Corporates Conference London, 7 June 2016 Outline 1 External Conditions 2 Evolution of the Mexican Economy 3 Inflation and its Determinants 4 Monetary and Exchange Rate Policies 5 Final Remarks The Mexican Economy in the Global Economic Juncture 2 International financial markets were affected by an episode of turmoil at the beginning of 2016. Although uncertainty declined subsequently, as evidenced by recent bouts of market turbulence, the global economic and financial situation remain fragile. This is explained, among other factors, by: A weak recovery in advanced economies. Subdued global trade growth. Expectations of an increase in interest rates in the United States. The perception of a reduced effectiveness of monetary policy in advanced economies. Geopolitical risks. Persistent economic challenges in China. Low growth and a vulnerable situation in many emerging market economies. The Mexican Economy in the Global Economic Juncture 3 World economic and trade growth remain below their long-term averages. World Economy: Real GDP and Trade Volume Annual % change 14 Real GDP 12 Average Real GDP Growth 2000-2015 10 Trade Volume* 8 Average Trade Volume* Growth 2000-2015 6 4 2 2017 2016 2015 2014 2013 2012 2011 2010 0 */ Trade volume of goods and services. Source: IMF (World Economic Outlook, April 2016). The Mexican Economy in the Global Economic Juncture 4 The US economy has shown resilience to international developments, as GDP growth in this country has exceeded that observed in other advanced economies. However, its industrial production remains feeble. United States: Industrial Production Quarterly Growth Annualized % Level and Expected Growth Index 2012 = 100 and % 108 4 <- Level (Actual) Actual Growth in 2016 (Forecast) -> 3 Forecast 2 106 3 1 104 2 102 1 0 -1 -2 100 0 -3 Source: Federal Reserve and Blue Chip Economic Indicators. Jan-16 Oct-15 Jul-15 Apr-15 Jan-15 Oct-14 Jul-14 Apr-14 Jan-14 98 Apr-16 April May -1 -4 I II III 2015 IV I II III 2016 IV I II III IV 2017 Source: Federal Reserve and Blue Chip Economic Indicators. The Mexican Economy in the Global Economic Juncture 5 After recording at the beginning of this year its lowest levels since early 2002, the price of the Mexican oil basket has increased. Futures markets continue to anticipate a gradual recovery of oil prices. International Prices of Oil Index January 2015 = 100 120 WTI 100 BRENT Futures 80 Mexican Oil Basket 60 40 20 Dec-18 Jun-18 Dec-17 Jun-17 Dec-16 0 Jun-16 Dec-15 Jul-15 Dec-14 Jul-14 Jan-14 June Source: Pemex and Bloomberg. The Mexican Economy in the Global Economic Juncture 6 Outline 1 External Conditions 2 Evolution of the Mexican Economy 3 Inflation and its Determinants 4 Monetary and Exchange Rate Policies 5 Final Remarks The Mexican Economy in the Global Economic Juncture 7 Notwithstanding the difficult external environment, the Mexican economy has continued to expand at a moderate pace… Mexico: Total Output Index 2Q-2009 = 100, s.a. 128 IGAE* GDP 124 120 116 112 108 104 100 March 1Q-2016 2008 2009 2010 2011 2012 2013 2014 2015 96 2016 s.a. / Seasonally adjusted. */ Monthly GDP proxy. Source: INEGI. The Mexican Economy in the Global Economic Juncture 8 … and has kept a stable growth rate despite falling growth in global economic activity. Real GDP Growth Annual % Mexico 4 3 1980-2007 2000-2007 2 2011-2015 1 0 LAC ex. Mexico United States LAC: Latin America and the Caribbean. Source: INEGI, IMF (World Economic Outlook, April 2016) and Bureau of Economic Analysis. The Mexican Economy in the Global Economic Juncture 9 In fact, Mexico is one of the few emerging market economies that has managed to maintain a stable rate of economic growth, before and after the global financial crisis. Change in the Growth Rate of Real GDP 2000-2007 vs 2011-2015, % points 1 0 -1 -2 -3 -4 -5 -6 Indonesia Colombia Mexico Malaysia Peru India Turkey Chile Poland Hungary S. Africa Thailand Korea Brazil China Russia -7 Source: IMF (World Economic Outlook, April 2016) and INEGI. The Mexican Economy in the Global Economic Juncture 10 In the face of stagnation of US industrial production and a situation of weakness in the global economy, non-oil exports have been sluggish. Thus, economic activity has been supported by domestic demand. Exports Index 2008 = 100, s. a. Consumption and Investment Index 2008 = 100, s. a. 160 125 Private Consumption in the Domestic Market Total 120 140 Gross Fixed Investment Oil 115 120 Non-Oil 110 100 105 80 100 60 95 40 s. a./ Seasonally adjusted. Source: SAT, Secretaría de Economía, Banco de México and INEGI. March 85 2016 2015 2014 2013 2012 2011 2010 2009 2008 20 2016 2015 2014 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003 April 90 s. a./ Seasonally adjusted. Source: INEGI. The Mexican Economy in the Global Economic Juncture 11 As for the external sector, the current account deficit has widened mainly as a result of the deterioration of the oil trade balance. Mexico: Current Account and Trade Balance % of GDP 3.0 2006 2015 -0.8 -2.8 -0.6 -1.3 Oil 2.0 -0.9 Non-Oil -2.6 -0.4 Current Account Trade Balance 2.0 1.0 Oil Trade Balance 0.0 Non-Oil Trade Balance -1.0 -2.0 2016* 2015 2014 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 -3.0 */ Data for 2016 corresponds to the first quarter. Source: Banco de México and INEGI. The Mexican Economy in the Global Economic Juncture 12 Mexico’s Share in US Imports ex. Crude Oil %, s.a. 13 As evidenced by the fact that Mexican exports have continued to gain share in the US market, these have remained very competitive. 12 11 This would allow a more balanced growth of the various components of aggregate demand. 10 2016 2015 2014 2013 2012 2011 2010 2009 2008 2007 2006 2005 April 2004 14 2003 15 It is expected that the Mexican economy will continue to display a gradual recovery in coming months, in part as a result of the anticipated rebound of industrial output in the US. 2002 s. a./ Seasonally adjusted. Source: Banco de México with data from the US Department of Commerce. The Mexican Economy in the Global Economic Juncture 13 9 Nonetheless, the output gap could remain negative throughout 2017 and downside risks persist. Output Gap Estimates and Projections % of potential, s.a. Real GDP Growth Projections Annual % 7 6 Banco de México1/ 3 Banamex Survey2/ 2 Banco de México Survey3/ 2017 Q4 2016 Q4 7 6 2016 2017 2.0 – 3.0 2.3 – 3.3 4 2.30 2.76 3 2.45 2.80 2 5 4 2015 Q4 5 1 1 0 0 -1 -1 -2 -2 -3 -3 -4 -4 -5 -5 -6 -6 -7 -7 Q2 Q4 2008 Q2 Q4 2009 Q2 Q4 2010 s.a./ Seasonally adjusted. 1/ Quarterly Report, January-March 2016, released 25 May 2016 . 2/ Median projection of the 20 May 2016 release. 3/ Median projection of the May 2016 survey, released 1 June 2016. Source: Banco de México, Banamex and INEGI Q2 Q4 2011 Q2 Q4 2012 Q2 Q4 Q2 2013 The Mexican Economy in the Global Economic Juncture Q4 2014 Q2 Q4 2015 Q2 Q4 2016 Q2 Q4 2017 14 Outline 1 External Conditions 2 Evolution of the Mexican Economy 3 Inflation and its Determinants 4 Monetary and Exchange Rate Policies 5 Final Remarks The Mexican Economy in the Global Economic Juncture 15 In spite of the significant depreciation of the peso exchange rate, inflation recorded in 2015 historical minima for 8 consecutive months, and currently stands at 2.5 percent, below the 3 percent target. Headline CPI and USD/MXN Exchange Rate Index September 2014 = 100 140 Headline CPI 135 Target CPI 130 Exchange Rate 125 120 115 110 105 100 95 May-16 Mar-16 Jan-16 Nov-15 Sep-15 Jul-15 May-15 Mar-15 Jan-15 Nov-14 Sep-14 Jul-14 May-14 Mar-14 Jan-14 May Source: Banco de México and INEGI. The Mexican Economy in the Global Economic Juncture 16 Survey-based long-term inflation expectations have decreased and show greater convergence to the target, although they are still slightly above it. Inflation Expectations Annual % 3.6 Year Ago Latest 3.5 3.4 3.3 3.2 3.1 3.0 Next 1-4 Years Next 5-8 Years Next 2-6 Years (Banco de México) (Banco de México) (Banamex) Source: Banco de México and Banamex. The Mexican Economy in the Global Economic Juncture 17 These achievements are the result of a combination of factors. Chief among them is the implementation of prudent macroeconomic policies over several years. In particular, monetary policy set by an independent central bank and in the context of an inflation targeting regime has allowed to strengthen the credibility of the authorities’ commitment with price stability. The structural reforms set in motion over the last years have resulted in declines in the prices of several key goods in the economy, telecommunications and electricity among them. Inflation has also been contained by lower international prices for several inputs and the absence of demand pressures on prices. The Mexican Economy in the Global Economic Juncture 18 Inflation is projected to fluctuate around 3 percent during the rest of this year and the next. This is explained to a great extent by the expected behavior of gasoline prices. Starting in January this year, the Finance Ministry (SHCP) changed the mechanism for the determination of these prices, temporarily introducing a fluctuation band based on international prices, as way of transition towards their full liberalization in January 2018. Thus, inflation in Mexico will be affected this year and next, by both the seasonality in the international prices of this product and the formula used by the Finance Ministry to set its domestic prices. A trajectory of inflation characterized by fluctuations around 3 percent would be both normal and consistent with achievement of the target. The Mexican Economy in the Global Economic Juncture 19 Outline 1 External Conditions 2 Evolution of the Mexican Economy 3 Inflation and its Determinants 4 Monetary and Exchange Rate Policies 5 Final Remarks The Mexican Economy in the Global Economic Juncture 20 Notwithstanding a situation characterized by a negative output gap, low inflation and firmly anchored inflation expectations, the reference interest rate has been increased twice recently. 25 bps increase to 3.25%. December 17, 2015 Following the 25bps increase in the target range for the federal funds rate by the U.S. Federal Reserve. 50bps increase to 3.75%. February 17, 2016 Extraordinary Meeting As part of a coordinated policy response to the increase in volatility in international financial markets, the deterioration of the external environment, and risks for inflation and its expectations deriving from the sharp adjustment of the exchange rate. The reference rate has been kept unchanged subsequently, as inflation is expected to display a trajectory consistent with the target. The Mexican Economy in the Global Economic Juncture 21 In implementing monetary policy, the Board of Governors of the Banco de México has sought the convergence of inflation to the target at the lowest possible cost in terms of economic activity. Notwithstanding the above-mentioned interest rate hikes, monetary conditions have remained very relaxed as a result of the exchange rate depreciation. The incidence of the higher monetary policy rate has been concentrated on shortterm interest rates. In any event, the achievement of low and stable inflation represents the best contribution that the Banco de México can make to economic growth. The Mexican Economy in the Global Economic Juncture 22 The Board will remain vigilant of all determinants of inflation and its expectations, especially: The exchange rate and its possible pass-through to domestic prices. The relative monetary policy stance between Mexico and the US. The evolution of the output gap. The Banco de México will adjust the monetary policy stance with all due flexibility and at the moment that conditions require it, in order to consolidate the efficient convergence of inflation to the 3 percent target. Therefore, the reference rate in Mexico can increase irrespective of the pace of normalization of monetary policy in the United States. The Mexican Economy in the Global Economic Juncture 23 Although the Mexican peso has continued to be subject to pressures, the peso-U.S. dollar rate stands below the levels reached in mid-February… USD/MXN Exchange Rate Pesos per Dollar 400 19.5 <- Memo: Auctioned USD (Million) USD/MXN -> 320 19.0 240 18.5 160 18.0 80 17.5 June Jun-16 May-16 Apr-16 Mar-16 Feb-16 17.0 Jan-16 0 Source: Banco de México. The Mexican Economy in the Global Economic Juncture 24 … within the context of a more liquid foreign exchange market, lower volatility of the exchange rate… USD/MXN Buy-Sell Spread MXN cents Implicit Volatility in 1-Month USD/MXN Options % 400 1.00 400 20 <- Memo: Auctioned USD (Million) 320 0.90 320 18 Volatility -> 240 0.80 240 16 160 0.70 160 14 0.60 80 12 0.50 0 Jun-16 May-16 Apr-16 June Mar-16 Jun-16 June May-16 Apr-16 Feb-16 Jan-16 Source: Banco de México and Reuters. Mar-16 Buy-Sell Spreads -> 0 Feb-16 <- Memo: Auctioned USD (Million) Jan-16 80 Source: Banco de México and Bloomberg. The Mexican Economy in the Global Economic Juncture 25 10 …and in general improved operating conditions. Operating Conditions of the USD/MXN Market1/ Index 400 65 Operating Conditions -> 320 57 240 49 160 41 80 33 May-16 Apr-16 Mar-16 Feb-16 Jan-16 25 Jun-16 June 0 1/ The index is calculated based on the volatility, skewness, and kurtosis implicit in 6-month options for the USD/MXN, taking the performance during 2007-2015 as the benchmark. Source: Banco de México with data from Bloomberg. The Mexican Economy in the Global Economic Juncture 26 <- Improving | Worsening -> <- Memo: Auctioned USD (Million) Mexico’s Foreign Exchange Commission, integrated by officials from the Ministry of Finance and the Banco de México, has made it clear that: It does not rule out the possibility of discretionary interventions in the foreign exchange market should extraordinary conditions arise. The nominal anchoring of the currency will continue to be sought through the preservation of solid economic fundamentals. The Mexican Economy in the Global Economic Juncture 27 The macroeconomic framework has also been supported by the ongoing strengthening of public finances. In addition, the resilience of the Mexican economy will be enhanced by the recent renewal and increase of the Flexible Credit Line with the IMF. International Reserves and Flexible Credit Line Level and relative to other indicators 300.0 72.0 264.6 International Reserves 252.1 58.1 250.0 87.7 200.0 60.0 Flexible Credit Line 83.4 19.2 48.0 150.0 36.0 25.3 100.0 177.0 168.7 38.8 50.0 16.9 0.0 <- Level (billion USD) <- % of external short-term debt % of foreign portfolio liabilities -> 24.0 8.4 % of GDP -> 12.0 8.1 2.7 5.4 0.0 Months of total imports -> Source: Banco de México and IMF. The Mexican Economy in the Global Economic Juncture 28 It should also be noted that solvency indicators for Mexico are favorably placed within the emerging market world. Emerging Market Economies: Credit Default Swaps Basis points June 640 580 520 460 400 340 280 220 160 100 Brazil S. Africa Turkey Russia Colombia Indonesia Peru Malaysia India Mexico Hungary Thailand Chile Poland Korea Jun-16 Feb-16 Nov-15 Aug-15 Apr-15 Jan-15 Sep-14 Jun-14 Mar-14 Nov-13 Aug-13 May-13 40 Source: Bloomberg. The Mexican Economy in the Global Economic Juncture 29 Outline 1 External Conditions 2 Evolution of the Mexican Economy 3 Inflation and its Determinants 4 Monetary and Exchange Rate Policies 5 Final Remarks The Mexican Economy in the Global Economic Juncture 30 In spite of the difficult external conditions, the Mexican economy has continued to display stable growth rates and low inflation. However, the importance of strengthening the country’s economic fundamentals as well as the domestic sources of growth has increased. This requires coordinated actions in different areas. In addition to the efforts on the monetary policy front, it will be fundamental to continue with fiscal consolidation, so as to ensure the achievement of the targets set for the PSBR and public debt in coming years. It will also be necessary to preserve financial stability, and to ensure an adequate implementation of the actions of structural reform and institutional change set in motion to increase the country’s economic growth potential. Finally, the authorities must be ready to implement any additional actions required to ensure macroeconomic and financial stability, as well as a more solid foundations to propel the economy’s growth. The Mexican Economy in the Global Economic Juncture 31