Assessment and recommendations
Mexico has implemented a wide range of reforms to liberalise the economy and open it to foreign trade and investment, starting in the late 1980s. Its macroeconomic performance has improved significantly and GDP growth averaged 3.6% per year since the 1995 peso crisis. In 2006, growth reached a robust rate of 4.8%, underpinned by buoyant exports and strong investment. However, activity is expected to slow this year and next, with GDP growth around its potential rate, estimated to be between 3½ and 4%. This growth rate, given population growth of around 1.3% per year, is too low to allow convergence of Mexico’s income per capita towards the living standards of the more advanced OECD countries. In 2005, the average income of the Mexican population was still one of the lowest in the OECD and only about one-fourth that of the United States (in purchasing power parity). While labour utilisation is not far from the OECD average, labour productivity has grown at too slow a pace to catch up from its initial low level.
Economic performance and key challenges
Past reforms to liberalise the economy have paid off. Mexico’s GDP per capita has increased and broad macroeconomic stability has been achieved. Although its fiscal GDP position is good, Mexico has to reduce the heavy reliance of the budget on oil revenue. Furthermore, living standards remain well below those in other OECD countries, and current GDP growth is still not high enough to ensure rapid convergence. Mexico needs to introduce further structural reforms to lift per capita GDP growth, raise living standards and reduce poverty faster. This chapter identifies four key challenges that Mexico faces in achieving these goals: i) strengthening public finances; ii) making the most from integration in the world economy; iii) improving infrastructure through greater competition and better regulation; and iv) fostering the creation of more and better jobs and fighting poverty.
Putting public finances on a firmer footing
Mexico has shown responsibility in fiscal policy, and its headline fiscal position is good. However, the underlying situation of public finances is not yet comfortable because of the heavy reliance of the budget on uncertain oil revenue. As a consequence, fiscal policy is heavily influenced by world oil prices and the sustainability of national oil production. At the same time, there are increasing demands made on the budget for development priorities in the areas of basic infrastructure, education, health and poverty alleviation, which require reliable financing. Increasing the efficiency of public service delivery is a sine qua non for fiscal policy to support the catching-up process, but it will go only part of the way to meeting increased budgetary demands. Mexico’s tax/GDP ratio is one of the lowest in the OECD and a far-reaching tax reform is a priority in order to increase revenues while reducing distortions. A review of fiscal relations across levels of government is also needed to improve the division of powers and responsibilities and strengthen sub-national governments’ accountability. The new government is planning a broad public finances reform, which is promising. Passing the required reforms and implementing them remains a major challenge.
Maximising the gains from integration in the world economy
This chapter discusses Mexico’s foreign trade and investment policies and provides specific recommendations to enhance the benefits of a closer integration in the world economy. Over the last twenty years, Mexico has made significant progress in reducing barriers to trade and foreign direct investment (FDI), and this has boosted GDP per capita growth. Nevertheless, Mexico needs to make further progress in reforming its trade policy by further reducing MFN tariff barriers and non-tariff barriers so as to promote efficiency in the economy. Barriers to FDI remain high, particularly in some services and infrastructure sectors, such as telecommunications and domestic land transport. Restrictions to foreign ownership should be eased to attract higher inflows and thereby improve productivity. To broaden the benefits from FDI, supplier linkages between FDI investors and other firms in Mexico should be enhanced.
Improving infrastructure in Mexico
To lift overall growth and improve the benefits from openness to trade and FDI, Mexico needs to make complementary reforms to enhance the efficiency, quality and quantity of infrastructure services. Transport infrastructure efficiency has a direct effect on domestic and international trade flows and overall growth by lowering delivery times and transport costs, while efficiency in telecommunications and energy influences the cost-competitiveness of Mexican firms. Despite progress made to increase competition and lift productivity in infrastructure, there is scope for further improvements. This chapter reviews progress achieved so far in developing infrastructure and identifies remaining challenges in key sectors, making specific recommendations on how to strengthen competition and improve regulation. State-owned firms still have a large presence in the infrastructure sector, and their governance and regulation needs to be improved. There are also areas that are in principle opened to competition but where application of the law is impaired and effective competition is lacking. Steps should be taken to reduce discretionary decision-making and introduce or clarify rules for accessing network assets so as to facilitate entry of new participants and foster competition. Price signals to ensure efficient investment and consumption decisions and facilitate private investment should be strengthened in some sectors by removing price subsidies, while using targeted income support to address legitimate social concerns.
Creating more and better jobs and reducing poverty
Stronger economic growth is the most effective way to boost job creation and incomes. There are few disincentives to work in Mexico and low open unemployment. But many workers are involved in low productivity and low rewarding jobs, often in the informal sector. According to most indicators, informal activities are pervasive and have been expanding over the past decade. A number of factors contribute to informality. First, low human capital makes it difficult for many workers to take up more productive jobs. Second, employment protection legislation is relatively restrictive, reducing labour demand in the formal sector and, in the absence of income support for many dismissed workers, these cannot afford staying unemployed, taking up the first job they find. Furthermore, measures that strengthen the incentives to work in the formal sector are required. Labour market difficulties are closely related to poverty and exclusion. Social policies have a key role to play in promoting access to the formal labour market and pulling people out of the poverty trap. This chapter argues that what is required to foster the creation of more jobs in the formal sector is a comprehensive approach, including: measures to improve the efficiency and reliability of social security services; a modernisation of labour market legislation with a view to better balance flexibility and workers’ protection; measures to upgrade competences, by promoting effective training programmes. It is also important to maintain the focus of policy intervention on fighting poverty and addressing basic social needs. The coherence between policies is the key to enhancing the adaptability of the workforce, helping workers take advantage of new work opportunities in the formal sector and allowing the most vulnerable to escape from poverty and exclusion.
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