Still No M In BRIC
Mexico has attracted more M&A activity in 2010 than any other EM economy with the exception of China, knocking the other regional heavyweight Brazil into third place. With the Mexican peso outperforming most other EM FX majors over the past few months, the benchmark IPC equity index continuing to push record highs, and the country’s export sector enjoying a storming 31% y-o-y growth in February, this begs the question; is now the time for Mexico to accede to major-league BRIC status?
According to my colleagues at BMI, the answer is an unequivocal no. So what’s holding Mexico back? Well, a number of points spring to mind, ranging from a weak domestic consumer (private consumption contracted 6.1% in real terms last year, compared to 4.1% growth in Brazil) to the increasingly brazen show of power from local drug cartels. From my perspective, though, a more indicative aspect of Mexico’s structural failings is its external accounts, long the Achilles’ heel of the country’s broader macro outlook.
Since 1996 Mexico has run a persistent trade deficit, and while the start of 2010 has witnessed a rapid rebound in export-led domestic economic activity, the trade balance is unlikely to head back to sustained surplus anytime soon. Lack of near-term potential for significant energy reform and overdependence on manufactured exports to the US will continue to act as longer-term drag on the country’s export prospects, resulting in the ongoing need to attract overseas capital to fund the trade gap.
Remittances, FDI inflows and portfolio investment have traditionally filled this gap, but there is no guarantee it can continue indefinitely. A pretty bleak outlook for the US labour market means money received from the Mexican diaspora looks set to remain well below pre-crisis levels for the foreseeable future. As for FDI and portfolio investment, the outlook here is also uncertain. Short term there’s plenty of potential for Mexican markets to rally further, but unless domestic demand picks up sharply optimism is soon likely to wane.
At the other end of the continent Brazil’s balance of payments outlook appears much brighter. Not only does the country continue to run a pretty substantial trade surplus, but it is also much less reliant on remittances, meaning most capital is received in the form of FDI and portfolio flows. While these flows are potentially much less stable than remittances (for one, unlike remittances they can at least in theory be withdrawn from the country relatively quickly), Brazil’s stronger domestic demand story and diversified export mix means their long-term future seems more certain than in Mexico’s case. Leaving issues such as a potential double-dip downturn in China and the control of rampant capital inflows aside, the contrast with Mexico’s external accounts makes a pretty convincing case for the latter to remain an EM laggard for some time to come.