Mexican exports, growth and the US market Trends and prospects

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Barbara Townsend
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1 Contacts Felix Boni Chief Credit Officer Alfonso Sales Analyst Mexico s non-petroleum exports, GDP growth and the US market In this brief report we discuss the recent evolution of Mexico s manufacturing exports, its impact on the country s overall economic growth and on market perceptions as to Mexico s growth perspective. Our analysis of Mexican exports includes the linkage with US non-petroleum goods imports, both in secular and cyclical terms, and the incremental impact of its exports to non-us markets. Mexico s manufacturing exports have risen substantially in the recovery to the 2008 financial crisis while GDP growth has expanded strongly as well. In 2011 manufacturing exports advanced 11.8% and by 7.8% in 2012, in nominal USD terms. In 2011 and 2012 GDP rose 3.92% and 3.95%, respectively. This has given rise to optimistic expectations of about 4% for Mexico s future growth prospects. The growth rate of Mexican manufacturing exports has, however, been declining consistently and more recently so too has Mexico s GDP growth. Twelve-month export growth through May was only 4.5% while growth expectations for 2013 have fallen from around 3.5% at year-end 2012 to around 2.75% currently and likely to be further adjusted downward. On the positive side the data suggest that we could soon see a change in the downward trend in 12-month automotive exports. One major reason for the continuing decline in exports is the fact that the strong growth in 2010 and 2011 and to a lesser degree in 2012 was largely due to the pro-cyclical demand from the US in the recovery to the 2008 financial crisis. However, US import growth now appears to be entering a post-recovery period with demand now more closely linked to GDP growth. On the positive side Mexican non-petroleum exports appear to be gaining market share in the US and if this continues they should be able to grow more quickly than US GDP, but not at the levels recently seen and perhaps not sufficiently to alone support the GDP growth expectations of nearly 4%. Further hurting Mexican exports have been weakness in markets other than the US. Page 1 of 11

2 Cyclical vs. Secular in Mexican manufacturing exports. Expectations for Mexican economic growth during 2013 have come down significantly over the last few months. This appears to parallel the disappointing performance of the US economy over a similar period of time. A major driver of Mexican growth has been the strength of its manufacturing exports. The growth of these exports has been gradually but consistently declining to what might be more sustainable levels. The previous, stronger increases, in manufacturing exports may have led to optimistic assumptions for Mexico s underlying future rate of economic growth. The conclusion was that the strong growth in manufacturing exports was the result of an increase in Mexican competitiveness relative to other economies. That conclusion, we believe, has considerable validity. This is reflected in what appears to be a rise in Mexico s share of US non-petroleum goods imports. It is also reflected in previously reported growth in Mexico s exports to markets other than the US. However, there is a danger in carrying that argument too far and, as a consequence, in exaggerating Mexico s future growth potential (absent structural reforms). The recent rise in Mexican manufacturing exports to the US has been driven by rising US demand for non-petroleum goods imports (largely a cyclical phenomenon) and moderately rising market share for Mexico in meeting that demand (presumably a secular change). The rise in US import demand has proven to be very procyclical. Thus the strong increases in 2010 and 2011 largely reflected the return of imports relative to GDP to levels similar to those before the recession began. During the recession the import to GDP ratio fell substantially. However, after roughly two years of sharp recovery the import to GDP ratio appears to be stabilizing. Thus the growth in US non-petroleum goods imports is increasing at a much slower rate, comparable to GDP growth. As that growth rate declines, the rate of growth of Mexican non-petroleum exports to the US has also fallen. Thus going forward advances in Mexican manufacturing exports to the US will be largely limited to US GDP expansion and to increases in Mexico s share of the US market. The positive cyclical forces are weakening and consequently so too is the growth of exports and, most likely, GDP. Additionally, the growth in export demand coming from non-us markets has suffered major setbacks and it is not clear when previous growth rates will return. Expected drivers of future Mexican growth Clearly, Mexican manufacturing exports have turned in an extremely positive performance since the depths of the 2009 recession. The trend going forward, however, is uncertain and growth forecasts for Mexico over the next couple of years or so need to take this into consideration. The wild card is the possibility of structural reform that could dramatically change underlying potential growth. As of the end of June, the median 2013 growth forecast for Mexico stood at 2.75%. At the beginning of the year the consensus was expecting Page 2 of 11

3 growth of around 3.5%. In contrast, expectations for 2014 and 2015 remain extremely strong at around 3.95%, and for the next ten years ( ) are at 3.8%. Growth at these levels would certainly be a break from the much weaker performance seen over the last twelve years or so when GDP expanded at an average annual rate of around 1.99%. We believe there are probably four assumptions behind the optimistic view of the future. First, there is the startling success of Mexican manufacturing exports in the post recession period and extrapolations that this will continue. Second, there are the expectations of structural reforms in the energy sector that would reverse the negative trends of the last few years. A third assumption are the expectations of reforms in the financial sector that would substantially increase the level of credit in the Mexican economy, especially to small and medium sized businesses. Fourth, analysts may also be incorporating a positive impact from reforms already made such as in labor relations and in telecommunications. Mexican manufacturing exports: the record The structural reforms mentioned above certainly could help to boost Mexico s long-term growth to around the 4% consensus view. However, for the time being, Mexican manufacturing growth, driven in large part by exports, will have to be a major, perhaps the major driver. In this context recent trends appear not to support the near 4% growth targets. Graph 1 below shows the evolution of trailing twelve-month manufacturing exports and their year-over-year change. Graph 1 From a top growth rate of over 25% in October 2010 (obviously a temporary rebound from the depths of the recession), twelve-month moving average export growth fell to 4.5% in May. During 2012 manufacturing exports increased by 7.8% while GDP expanded by nearly 4%. The trend would suggest a further tapering-off of growth. Graph 2 Page 3 of 11

below plots the relationship between the growth of nominal USD manufacturing exports and real Mexican GDP as measured by the monthly IGAE. The relationship is relatively clear.

4 below plots the relationship between the growth of nominal USD manufacturing exports and real Mexican GDP as measured by the monthly IGAE. The relationship is relatively clear. Graph 2 The graph suggests that for a while economic growth remained strong despite the decline in manufacturing exports. However as the weakening in manufacturing exports has persisted, GDP growth also began to decline more noticeably, around mid-year 2012, and it has been falling ever since and we expect it to fall somewhat further. A major factor behind Mexican manufacturing exports has been automobiles and parts. Although still expanding faster than manufacturing exports in general, these too appear to be losing momentum. In May growth was 8.3%, down from a high of 54% in October Nonautomotive manufacturing exports rose by 2.9% in May, down from a high of 21%, also in October The twelve-month moving average metric has the disadvantage of not clearly showing possible changes in the trend. In the case of automotive exports this could be relevant given their greater strength and the possibility that a change in trend could be imminent. Graph 3 shows the twelve-month moving average data series for exports in USD (blue line), which continues to trend upwards. This is in contrast to the same line in Graph 1 that shows a leveling-off. In order to examine the implications of this difference Graph 3 also shows YoY changes in the trailing threemonth metric, which can more quickly display changes in a longer-term trend. The three-month metric suggests that automotive exports could be gaining momentum. In February 2013 the line reached a minimum at 5.3%, subsequently shifting its slope into an upward direction, reaching 11.0% growth in May This is the highest value since August. However, this movement, as positive as it may seem, may simply reflect a cyclical pattern within the overall decreasing trend. A similar cyclical pattern can be observed between October and December of last year. Page 4 of 11

5 The data over the next few months will give us a better idea. The robust growth in Mexican automotive exports reflects the strong demand in the US. The positive trend in the 3 month metric would be even stronger were we to eliminate exports to non-us destinations. Nevertheless, it is not clear that the current rates of growth are sustainable over the longer term. Graph 3 A major factor behind the fall in Mexican manufacturing exports has been the decline in exports to markets other than the US. The evolution of these exports is seen in Graph 4. On the same twelve-month moving average (12mma) basis, exports were down modestly in May and have actually fallen 2.4% from the high reached in November. Note that for this graph the available data allow us only to show the evolution of nonpetroleum exports. However, these are overwhelmingly manufacturing in nature. Graph 4 Page 5 of 11

6 In contrast, Mexican non-petroleum exports to the US rose 5% in May (12mma) although the downward trend is also apparent as reflected in Graph 5. Graph 5 Ironically, the growth in Mexican manufacturing exports to markets other than the US had been seen as a positive diversification. From a twelvemonth high of 90%, exports to the US as a percentage of total nonpetroleum exports declined to a low of 77.6% last September and as of May had rebounded to 78.7%. The move is relatively minor, as the Graph 6 suggests, but has had a negative impact nevertheless. Graph 6 Mexico is becoming once again increasingly dependent upon the US market as a destination for its manufacturing exports. This had happened before, in the period, the early years of NAFTA, supported by strong US growth at that time. Now, however, the increase in the US Page 6 of 11

7 share of Mexican exports comes at a time as US imports are weakening. We estimate that US non-petroleum goods imports as a percentage of US GDP (in nominal terms) reached a post recession twelve-month low of 9.4% in the fourth quarter of In contrast, by the first quarter of 2012 the ratio had risen to 11.7% of GDP, propelling US imports to an average annualized growth rate of 15%. But since then the rate of increase in imports relative to GDP has been slowing. By the first quarter of 2013 we estimate that non-petroleum goods imports advanced modestly to 11.8% of GDP, returning an increase of barely 4.4% in the nominal value of imported non-petroleum goods. Our measure of Mexican non-petroleum exports to the US during these two periods did better with increases of 18.7% (vs. 15% overall) and 7.5% (vs. 4.4%), respectively. This relatively better performance suggests that the Mexican share of US non-petroleum goods imports is on the rise. Based on Mexican data for Mexican exports to the US we estimate that Mexico s share of US nonpetroleum goods imports has, in fact, been showing an encouraging rise, advancing from 12.1% for 2009 to 12.95% for the twelve-month period ending in March 2012, to 13.3% by March Graph 7 The upward trend represents an important positive for future Mexican economic growth. To put this trend into perspective, consider the following: assume that Mexico s market share increases by 50bps in a year and that US nominal GDP increases by 3%. Market share would increase from an approximate 13.75% to 14.25% or 3.64% which combined with a 3% growth rate would produce a 6.7% rise in exports. Any additional increment would have to come rom a rise in the import to GDP ratio. 1 US data are based on information reported prior to the methodological adjustments made with reports beginning as of July 31, We do not expect that the modification will alter the basic thesis of this report although they may lower the ratio of imports to GDP Page 7 of 11

8 The above analysis permits us to distinguish between what appear to be cyclical and secular trends in Mexico s non-petroleum goods exports to the US. Thus much of the strong increase in Mexico s exports beginning in 2010 (and which help explain much of Mexico s GDP growth during this period) was based on cyclical factors as reflected in the imports to GDP ratio. However, at around 11.8% of GDP these may be nearing a top. For example, for 2007 (roughly the top of the pre-recession cycle) we estimate that US non-petroleum imports represented 11.6% of GDP. On the other hand, it does appear that Mexico is increasing its share of the US goods import market. This may be due to increasing Mexican competitiveness vs. China (as has been argued) or it may be the result of changing patterns in US imports which, at least for now, appear to favor Mexico (for example, strong US auto imports). Whatever may be the reason, it is important not to assume that the surge in Mexican exports can necessarily be extrapolated into the future. The data suggest that this might not the case. Consequently it may be necessary to temper some of the more optimistic expectations over Mexico s future growth, without additional significant structural reform. Page 8 of 11

9 Contacts Felix Boni Chief Credit Officer, HR Ratings Alfonso Sales Analyst, HR Ratings Jorge González Business Development, HR Ratings C+ (52-55) Page 9 of 11

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11 Paseo de los Tamarindos 400-A, Piso 26, Col. Bosque de Las Lomas, CP 05120, México, D.F. Tel 5 HR Ratings de México, S.A. de C.V. (HR Ratings) is a credit rating agency authorized by the National Banking and Securities Commission and registered with the United States Securities and Exchange Commission as a Nationally Recognized Statistical Rating Organization (NRSRO). HR Ratings recognition as an NRSRO is limited to government securities described in clause (v) of Section 3(a)(62)(A) of the U.S. Securities Exchange Act of In our website at the following information can be consulted: (i) The internal procedures for the monitoring and surveillance of our ratings and the periodicity with which they are formally updated, (ii) the criteria used by this rating agency for the withdrawal o suspension of the maintenance of a rating, and (iii) the structure and process of voting in our Analysis Committee. HR Ratings de Mexico SA de CV (HR Ratings) ratings and/or opinions are opinions of credit quality and/or regarding the ability of management to administer assets; or opinions regarding the efficacy of activities to meet the nature or purpose of the business, on the part of issuers, other entities or sectors, And are based exclusively on the characteristics of the entity, issuer or operation, with independence from whatever activity or business between HR Ratings and the entity or issuer. The ratings and/or opinions assigned or issued do not constitute an investment recommendation to buy, sell or hold any instrument nor to perform any business, investment or other operation. The assigned ratings and/or opinions issued may be subject to updates at any time, in accordance with HR Ratings methodologies as per the terms of Article 7, Section II and/or III, as may be the case, of the General Provisions Applicable to Securities Issuers and other Participants of the Securities Market 1. HR Ratings bases its ratings and/or opinions on information obtained from sources that are believed to be accurate and reliable. HR Ratings, however, does not validate, guarantee or certify the accuracy, correctness or completeness of any information and is not responsible for any errors or omissions or for results obtained from the use of such information. Most issuers of debt securities rated by HR Ratings have paid a fee for the credit rating based on the amount and type issued by each debt instrument. The degree of creditworthiness of an issue or issuer, opinions regarding asset manager quality or ratings related to an entity s performance of its business purpose are subject to change, such as to produce a rating upgrade or downgrade, without implying any responsibility on the part of HR Ratings. The ratings issued by HR Ratings are derived in an ethical manner, in accordance with healthy market practices and in compliance with applicable regulations found in the rating agency webpage. There one can view documents Code of Conduct, methodologies, rating criteria and current ratings. Ratings and/or opinions assigned by HR Ratings are based on an analysis of the creditworthiness of an entity, issue or issuer, and do not necessarily imply a statistical likelihood of default, which we define as the inability or unwillingness to satisfy the contractually stipulated payment terms of an obligation, such that creditors and/or bondholders are forced to take action in order to recover their investment or to restructure the debt due to a situation of stress faced by the debtor. Without disregard to the aforementioned point, in order to validate our ratings our methodologies consider stress scenarios as a complement to the analysis derived from a base case scenario. The honoraria that HR Ratings receives on the part of issuers generally varies from USD1,000 to USD1,000,000 (or the equivalent in another currency) per issue. In some cases HR Ratings will rate all or some of the issues on an issuer in particular for an annual fee. It is estimated that the annual fees vary from USD5,000 and USD2,000,00 (or the equivalent in another currency). 1 Disposition of a general character applicable to issuers of securities and to other participants in the securities markets, issued by the Mexican Banking and Securities Commission (CNBV). Page 11 of 11

Personal Income Report for February

Personal Income Report for February Analysis Report Contacts Felix Boni Chief Credit Officer felix.boni@hrratings.com Alfonso Sales Economic Analysis Manager alfonso.sales@hrratings.com Mireille García Economics Associate mireille.garcia@hrratings.com