## 1mexea2023003 ## Source details **Canonical URL:** [1mexea2023003](https://www.imf.org/-/media/files/publications/cr/2023/english/1mexea2023003.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2023/english/1mexea2023003.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2023/english/1mexea2023003.pdf.json) --- ### Economic performance and growth drivers - Real GDP grew 3.2 percent in 2023; growth was broad-based with notable strength in services, construction, and auto production. - Real GDP grew 3.6 percent in the first half of 2023 (year-on-year). - Private investment jumped 18.1 percent y/y in the first half of 2023. - Private consumption increased by 4.5 percent in the first half of 2023. - Auto production was up around 14 percent in the first half of 2023 versus the same period in 2022. - Unemployment rate has fallen to 2.7 percent; informality has declined as the labor market has tightened. - Estimates suggest output in mid-2023 was modestly above potential; manufacturing capacity utilization is close to its record high. ### Inflation, monetary policy, and Banxico operations - Headline inflation declined to 4.5 percent in September, down from 7.8 percent at end-2022; services-sector inflation remains sticky. - Banxico held its policy rate at 11.25 percent since March 2023; at the September 28 meeting it underscored the need to maintain the policy rate at the current level for an extended period due to upside inflation risks. - The policy rate of 11.25 percent is 6 percentage points above that of the U.S. Fed; with inflation and long-run inflation expectations in check, the real rate is now firmly in contractionary territory. - Banxico raised its policy rate from 4 percent in June 2021 to 11.25 percent in March 2023. - Recommendations on Banxico: - Remain cautious about cutting the policy rate given upside inflation risks. - Conduct an internal strategic review of Banco de México’s operational and communications practices. - Provide greater information on assumptions underpinning projections and clarify that published forecasts are conditional modal forecasts. ### Outlook and projections (selected indicators) - Growth projections: - Real GDP (% change): 2022: 3.9; 2023: 3.2; 2024: 2.1; 2025: 1.5 - Inflation: - Consumer prices, end of period (%): 2022: 7.8; 2023: 4.5; 2024: 3.2; 2025: 3 - Consumer prices, period average (%): 2022: 7.9; 2023: 5.5; 2024: 3.8; 2025: 3.1 - Labor and credit: - Unemployment rate, period average (%): 2022: 3.3; 2023: 2.9; 2024: 3.1; 2025: 3.4 - Credit to non-financial private sector (% change): 2022: 10.9; 2023: 7.1; 2024: 6.4; 2025: 3.6 - External and reserves: - Current account balance (% GDP): 2022: -1.2; 2023: -1.5; 2024: -1.4; 2025: -1.1 - Gross international reserves (US$ billions): 2022: 201.1; 2023: 212.3; 2024: 224.5; 2025: 234.4 - Public debt: - Gross public sector debt (% GDP): 2022: 54.1; 2023: 52.7; 2024: 54.7; 2025: 55.1 - Staff projection summary: economic activity projected to slow to 2.1 percent in 2024; risks broadly balanced (downside: abrupt global slowdown; upside: nearshoring and resilient U.S. growth). ### Fiscal outcomes and medium-term fiscal outlook - Authorities projected to meet 2023 fiscal targets; overall deficit of 3.9 percent of GDP in 2023 driven by lower tax revenue partially offset by more restrained capital spending. - Gross public sector debt expected to decline to 52.7 percent of GDP in 2023 (staff definition). - General government finances (percent of GDP): - Revenue and grants: 2023: 23.8; 2024: 23.7; 2025: 23.7 - Expenditure: 2023: 27.7; 2024: 29.1; 2025: 26.3 - Overall fiscal balance: 2023: -3.9; 2024: -5.4; 2025: -2.6 - Assessment and recommendations: - 2024 budget is procyclical with a fiscal impulse of 2.4 percent of GDP and proposes a deficit of 5.4 percent of GDP; under current policies public debt would rise to 54.7 percent of GDP at end-2024. - Achieving the 2025 fiscal target would necessitate additional measures of around 1.7 percent of GDP. - Priority: boost non-oil revenues and consider tax reforms to widen the revenue base. ### Revenue-raising options and estimated yields (percent of GDP) - Value Added Tax (removal of zero-rating and exemptions): 1.1-1.4 - Personal Income Tax (removal of deductions, exemptions, and sectoral schemes): 0.6-0.9 - Corporate Income Tax (improving compliance / removal of allowances, deductions, exemptions, and deferrals): 0.2-0.5 - Total estimated yield: 1.9-2.8 ### External sector, reserves, and external position - Current account deficit widened to 1.2 percent of GDP in 2022 and is expected to widen to 1.5 percent of GDP in 2023. - Remittances rose 10 percent during the first half of 2023. - The peso appreciated about 10 percent versus the U.S. dollar over the last twelve months. - International reserves: - Reserves adequate at around 14 percent of GDP in 2022 and 122 percent of the Fund’s ARA metric. - Gross international reserves: 2023: US$212.3 billion. - Reserve coverage in months of next year's imports remains 3.5 in 2022–25. - Annex I external assessment: - NIIP: –41 (2022); staff projects improvement toward about –31 percent of GDP over the medium term. - Staff gap and REER: staff assesses a REER undervaluation midpoint of 4.9 percent (range 3.6 to 6.3 percent) with uncertainty. ### Financial system resilience and banking sector - Banking sector: strong capital and liquidity buffers; nonperforming loans close to record lows at 2.2 percent of total loans (May-23) and around 2.1–2.2 in 2022–May-23. - Credit trends: - Credit-to-GDP remains below pre-pandemic levels. - Growth in credit to non-financial private sector: 4.4 percent y/y in real terms through June. - Rapid expansion of consumer credit: 12.7 percent y/y in real terms through June. - FSAP findings and recommendations (selected): - Strengthen autonomy and resources of regulatory agencies and legal protection of supervisors. - Enable CNBV to supervise financial conglomerates on a consolidated basis. - Improve bank resolution and recovery frameworks; expand resolution regime remit. - Publish a macroprudential strategy and consider LTV and DSTI limits; first drafts expected by end-2023 and March-2024 respectively. - Continue strengthening cybersecurity and oversight. ### Corporate sector risks and corporate-financial modeling insights - Post-pandemic recovery in profits improved interest coverage ratios (ICRs) back to pre-pandemic levels, but higher interest rates increase pressure on ICRs. - High-risk tail: top 20 percent of firms see risks close to pandemic levels in 2022; distressed firms tend to be smaller with poor ICRs and liquidity. - Modeling approach: Random Forest models identified ICR, leverage, ROA, earnings to short-term liabilities, firm size, and interest rates as key drivers of corporate default risk. - Policy implication: monitor high-risk corporates and consider interventions if a higher-for-longer interest-rate scenario materializes. ### Debt sustainability and sovereign risk - Overall risk of sovereign stress: Moderate; final sustainability assessment: Sustainable with high probability. - Baseline public debt path (selected percent of GDP): 2022: 54.15; 2023: 52.75; 2024: 54.7; 2025: 55.1; 2026: 55.5; 2027: 55.9; 2028: 56.3. - Gross financing needs (GFN) and stress: - Average baseline GFN (percent of GDP): 11.3 (presented). - Standardized stress tests indicate additional financing needs could reach close to 15 percent of GDP in a stress scenario. - External debt: - Total external debt (% GDP): 2022: 31.1; 2023: 26.1; 2024: 24.9; 2025: 25.1 - Gross external debt expected to decline to around 26 percent of GDP by end-2023. - A 30 percent real depreciation could raise external debt to about 38 percent of GDP (real depreciation shock outcome: 38). ### Climate, energy, and carbon pricing - Mexico tightened 2030 unconditional CO2 target from 22 to 30 percent; conditional target from 36 to 40 percent. - Carbon tax: rate modest at US$3.3 per ton; emissions-trading system at pilot phase. - IMF-ENV model simulations: - A unilateral carbon price floor of US$50 per ton by 2030 could reduce GHG emissions by 34 percent and entail a cost of around 0.9 percent of GDP by 2030 (model caveats apply). - Coordinated global decarbonization yields an output cost of 1.4 percentage point of GDP relative to baseline by 2030. - Stranded-asset risk to Pemex: - At WTI US$80 per barrel, about one sixth of current oil fields would be non-economic. - If climate-mitigation initiatives reduced oil prices to US$60, more than one quarter of production would be uneconomical. - Policy recommendations: - Remove subsidies to fossil-fuel producers, improve Pemex commercial viability, incentivize renewable development, and consider increasing carbon pricing toward around US$50 per ton. ### Gender, labor-force participation, and structural reforms - Mexico has one of the highest male-female labor participation gaps in the OECD; women disproportionately in informal sector and rural areas. - Policy simulations on female labor participation: - Childcare policies alone could increase female labor force participation by about 10 percentage points. - Childcare plus higher education: 11 percentage points; plus anti-discriminatory practices: 13 percentage points. - Suggested reforms: - Provide adequate childcare, paid maternity and paternity leave, strengthen equal-pay implementation, remove legal impediments to female economic empowerment. - Facilitate formalization, improve access to finance, streamline business regulation, and tackle crime and corruption to boost productivity and inclusive growth. ### Anti‑money laundering, anti‑corruption, and institutional recommendations - Substantive progress on 2018 Mutual Evaluation Report legal deficiencies, but gaps remain in: - AML/CFT regulation and supervision of DNFBPs, reporting of suspicious transactions, and establishing an effective cash-couriers regime. - CNBV lacks powers to suspend or withdraw banking licenses for AML/CFT breaches. - Key recommendations: - Create a beneficial ownership register and ensure information is accurate and accessible. - Grant SAT powers to supervise and enforce DNFBP compliance; strengthen FIU capacity and STR quality. - Enhance collaboration among CNBV, SAT, FIU, law enforcement, and anti-corruption bodies. - Prioritize confiscation and asset recovery and ensure strict AC policies apply to law enforcement and judiciary. - Encourage Mexico’s participation in a voluntary IMF assessment of transnational aspects of corruption. ### Executive Board assessment and consolidated policy advice - Directors agreed that strong policies helped restrain public debt and contain inflation while supporting a broad-based expansion driven by private consumption and investment. - Directors cautioned against an overly procyclical near-term fiscal stance and emphasized need for decisive measures in 2025 and beyond to preserve fiscal sustainability. - Key director recommendations: - Boost non-oil revenues and consider medium-term fiscal framework reforms to increase credibility and flexibility. - Condition budgetary support to Pemex on credible commercial-viability plans. - Maintain a cautious monetary policy stance until inflation is clearly on a downward path; continue to rely on a flexible exchange rate as the key shock absorber. - Address AML/CFT gaps and enhance collaboration between AML/CFT agencies and anti‑corruption bodies. *Source: IMF Staff Report for the 2023 Article IV Consultation (Mexico).* ### 3.2 percent in 2023, led by robust private consumption and investment, with notable strength ### 3.2 percent in 2023, led by robust private consumption and investment, with notable strength ### Recent developments and growth drivers - Real GDP grew 3.2 percent in 2023, with growth becoming more broad-based and notable strength in services, construction, and auto production. - Private investment jumped 18.1 percent y/y in the first half of 2023. - Private consumption increased by 4.5 percent in the first half of 2023. - Real GDP grew 3.6 percent in the first half of 2023 (year-on-year). - Auto production was up around 14 percent in the first half of 2023 compared to the same period in 2022. - Unemployment rate has fallen to 2.7 percent. - Informality has declined as the labor market has tightened. - Estimates suggest output in mid-2023 was modestly above potential; manufacturing capacity utilization is close to its record high. ### Inflation and monetary policy - Headline inflation declined to 4.5 percent in September, from 7.8 percent at end-2022. - Disinflation has been facilitated by proactive monetary policy and a decline in global commodity prices; services-sector inflation remains sticky. - Banxico has held its policy rate at 11.25 percent since March 2023 and stated it will keep rate on hold for an extended period. - At the September 28 meeting Banxico underscored the need to maintain the policy rate at the current level for an extended period due to upside inflation risks. - The policy rate of 11.25 percent is 6 percentage points above that of the U.S. Fed; with inflation and long-run inflation expectations in check, the real rate is now firmly in contractionary territory. ### Outlook and projections - Economic activity is projected to slow to 2.1 percent in 2024. - Risks are balanced: downside from an abrupt global slowdown; upside from diversification of global supply chains and a more resilient than expected U.S. economy. - Projections (selected): - Real GDP (% change): 2022: 3.9; 2023: 3.2; 2024: 2.1; 2025: 1.5 - Unemployment rate, period average (%): 2022: 3.3; 2023: 2.9; 2024: 3.1; 2025: 3.4 - Consumer prices, end of period (%): 2022: 7.8; 2023: 4.5; 2024: 3.2; 2025: 3 - Consumer prices, period average (%): 2022: 7.9; 2023: 5.5; 2024: 3.8; 2025: 3.1 - Broad money (% change): 2022: 7.3; 2023: 8.0; 2024: 7.3; 2025: 4.5 - Credit to non-financial private sector (% change): 2022: 10.9; 2023: 7.1; 2024: 6.4; 2025: 3.6 - Current account balance (% GDP): 2022: -1.2; 2023: -1.5; 2024: -1.4; 2025: -1.1 - Gross international reserves (US$ billions): 2022: 201.1; 2023: 212.3; 2024: 224.5; 2025: 234.4 - Total external debt (% GDP): 2022: 31.1; 2023: 26.1; 2024: 24.9; 2025: 25.1 - Gross public sector debt (% GDP): 2022: 54.1; 2023: 52.7; 2024: 54.7; 2025: 55.1 ### Fiscal outcomes and outlook - The authorities are projected to meet their 2023 fiscal targets. - More restrained capital spending is expected to more than offset the lower tax revenue, especially on the VAT, yielding an overall deficit of 3.9 percent of GDP in 2023. - This should result in a decline of gross public sector debt (by staff’s definition) to 52.7 percent of GDP in 2023. - Projections for general government finances (percent of GDP): - Revenue and grants: 2023: 23.8; 2024: 23.7; 2025: 23.7 - Expenditure: 2023: 27.7; 2024: 29.1; 2025: 26.3 - Overall fiscal balance: 2023: -3.9; 2024: -5.4; 2025: -2.6 ### External sector and financial system - Higher freight costs, strong domestic demand, and adverse price developments increased the current account deficit to 1.2 percent of GDP in 2022 and are expected to widen it to 1.5 percent of GDP in 2023. - Foreign direct investment (% GDP): 2022: 1.5; 2023: 1.4; 2024: 1.4; 2025: 1.5 - Gross international reserves: 2023: US$212.3 billion. - International reserves remain at comfortable levels; reserve coverage in months of next year's imports remains 3.5 in 2022–25. - The banking sector has strong capital positions; as of May 2023, nonperforming loans are close to record lows at 2.2 percent of total loans. - Total external debt and other external vulnerability indicators are improving: Total external debt (% GDP): 2023: 26.1. ### Executive Board assessment and Directors' advice - Executive Directors agreed that very strong policies and policy frameworks were instrumental in restraining public debt and containing inflation while achieving a broad-based economic expansion supported by robust private consumption and investment. - Directors cautioned against an overly procyclical near-term fiscal stance and underscored that decisive measures will be needed in 2025 and beyond to preserve fiscal sustainability over the medium term. - Directors emphasized the need to boost non-oil revenues, noting that non-oil revenues remain below Latin American and OECD peers. - Directors saw scope to reform the medium-term fiscal framework to increase its flexibility and credibility. - Directors welcomed transparent recording of support to Pemex in the 2024 budget and emphasized ensuring the company’s commercial viability. - On monetary policy, Directors agreed that Banco de México’s proactive approach has been instrumental in containing inflationary pressures and recommended caution in reducing the policy rate before inflation is on a clearer downward path toward the target. - Directors agreed the flexible exchange rate should continue to be the key tool to facilitate adjustment to external and domestic shocks. - Directors noted the financial system remains resilient, with high capital and liquidity buffers, and encouraged continued implementation of key FSAP recommendations. - Directors emphasized addressing outstanding gaps in the AML/CFT framework and enhancing collaboration between AML/CFT agencies and anti-corruption bodies; they welcomed Mexico volunteering for an assessment of the transnational aspects of corruption. ### Main policy recommendations (summarized) - Monetary policy: - Remain cautious about cutting the policy rate given upside inflation risks. - Conduct an internal strategic review of Banco de México’s operational and communications practices. - Fiscal policy: - Maintain a sustainable fiscal position while increasing public investments in infrastructure, education, and social support through a re-examination of the tax system. - Strengthen the institutional framework for fiscal policy to enhance credibility and create greater fiscal space. - Financial sector policies: - Enhance autonomy and resources of regulatory agencies. - Strengthen bank resolution and recovery frameworks. - Upgrade the macroprudential toolkit. - Address gaps in implementation of the AML/CFT framework. - Structural reforms: - Facilitate female labor force participation and remove legal impediments to female economic empowerment. - Tackle crime and corruption, expand financial inclusion, reduce costs of formalization, remove regulatory hurdles, expand renewable energy supply, and promote competition to capitalize on nearshoring and low-carbon transition opportunities. - Climate and energy: - Adopt a comprehensive and well-sequenced climate change strategy to provide more durable sources of energy and consider increasing the price of carbon given long-term risks to hydrocarbon demand. *Source: IMF Staff Report for the 2023 Article IV Consultation (Mexico).* ### 7. The external position in 2022 is moderately stronger than the level implied by medium ### 7. The external position in 2022 is moderately stronger than the level implied by medium ### External position and external buffers - Current account deficit widened slightly in 2022 to 1.2 percent of GDP due to: - Higher freight costs. - Strong domestic demand. - A higher spread between crude oil (which Mexico exports) and refined products (which Mexico imports). - Oil trade developments: - The oil trade deficit narrowed in the first half of 2023 as the spread between the price of crude and of refined products narrowed. - Non-oil trade and remittances: - The non-oil trade deficit fell due to strong nominal exports of manufactured goods as Mexico increased its market share in the U.S. - Remittances rose 10 percent during the first half of 2023, likely reflecting the continued strength of U.S. labor markets. - Reserves and buffers: - International reserves are adequate, at around 14 percent of GDP in 2022 (and 122 percent of the Fund’s Assessing Reserve Adequacy metric). - The IMF’s Flexible Credit Line continues to provide a valuable additional buffer against external risks and helps to strengthen market confidence. - Exchange rate and capital flows: - The peso appreciated about 10 percent versus the U.S. dollar over the last twelve months. - Foreign investors increased exposure to local currency through FX purchases, interest rate swaps and domestic bonds; there were net inflows to local currency, domestically issued bonds in 2022, partially reversing outflows in prior years. ### Fiscal outcomes and public debt (2022–2023) - 2022 fiscal results: - The balanced-budget rule was met in 2022. - Investment-adjusted budgetary deficit: 0.2 percent of GDP (below the targeted deficit of 0.3 percent of GDP). - Overall deficit: 4.3 percent of GDP (above the budgeted deficit of 3.4 percent of GDP). - Gross public sector debt continued to fall to 54.1 percent of GDP at end-2022 (from 58.5 percent of GDP at end-2020). - Higher oil prices boosted revenue; excise taxes were reduced, interest costs were higher, and spending on goods and services exceeded budgeted levels. - Little market reaction to higher public sector borrowing requirement. - 2023 developments (data as of end-August): - Lower-than-budgeted tax collections. - Low collection rates from VAT—arising from lower receipts from imported goods (where tax compliance is typically higher) due to an appreciated peso—and excises were offset by higher revenues from public enterprises. - On expenditure, higher subsidies and capital spending have been more-than-offset by an under-execution of other spending. - Pemex: - Pemex revenues fell alongside the decline in oil prices. - Mexican crude oil prices were 33 percent on average lower in the first half of 2023 compared to the same period last year. - Pemex net income after taxes in the first half of 2023 fell 67 percent relative to the same period in 2022. - Despite higher funding costs, Pemex issued a US$2 billion 10-year bond in January. - 2023 projection under authorities’ policies: - The authorities are projected to meet their 2023 fiscal targets. - Overall balance expected to reach -3.9 percent of GDP, an increase of around 0.5 percent of GDP in the structural primary balance. - Under current policies, gross public sector debt is expected to fall to 52.7 percent of GDP in 2023. ### Credit, banking system, and financial stability - Credit-to-GDP: - Credit-to-GDP remains below its pre-pandemic level. - Growth in credit to the non-financial private sector: 4.4 percent y/y in real terms through June. - Rapid expansion of consumer credit: 12.7 percent y/y in real terms through June. - Real corporate lending has stagnated. - Banking system resilience: - Mexican banks remain well capitalized; the financial system appears resilient to severe macrofinancial shocks. - 2022 Financial Sector Assessment Program (FSAP) highlighted robustness with high capital and liquidity buffers. - During earlier-year U.S. banking turmoil, Mexican bank stock valuations fell but there were no signs of deposit outflows (despite 45 percent of deposits being uninsured). - Risks warranting continued supervisory attention: loan concentration, exposures to contingent credit lines, and large holdings of sovereign debt securities. ### Outlook and risks - Growth projections: - Growth is expected to reach 3.2 percent in 2023 and 2.1 percent in 2024. - Fiscal policy is expected to loosen next year, but growth impact will be blunted by binding capacity constraints, a continuation of tight monetary policy, and slowing growth in the U.S. - The current account deficit is expected to widen moderately in 2023-24 with strong demand boosting imports. - Employment growth should begin to slow in the coming months with a slight increase in the unemployment rate in 2024. - Inflation and monetary policy: - Inflation is projected to return to the variability band in the third quarter of 2024. - Assuming the policy rate remains on hold until mid-2024, inflation should return to the central bank’s target by 2025. - Risks to inflation are to the upside, including potential for further services price increases given continued wage rises and the increase in the fiscal deficit. - Medium-term growth constraints and opportunities: - Absent supply-side reforms, medium-term growth is likely to be limited to around 2 percent. - Mexico’s per capita income growth (in PPP terms) has averaged around one-half of that experienced in the U.S. over the past 30 years. - Constraints include weak governance, crime, corruption, a lack of access to finance, and pervasive informality. - Opportunities from reshaping of global supply chains and a shift to lower carbon growth require broad supply-side reforms and continuation of open trade policies. - Risks (broadly balanced): - Upside: Near-term upside risks to U.S. growth create some upside to Mexico, given exports account for about a third of GDP with 80 percent sent to the U.S., and manufacturing concentration in cyclical sectors such as automobiles. - Downside: An abrupt U.S. slowdown or persistently elevated U.S. inflation keeping Fed rates high would negatively affect Mexico. - Increased global risk aversion could trigger capital outflows, weaken the peso, and increase financing costs; a weaker peso would put upward pressure on inflation and keep interest rates higher for longer. - Climate change and global decarbonization: direct risks increasing; success in reducing reliance on fossil fuels could disproportionately affect Mexico given its relatively high production costs. - Domestic project risks: delays in implementing the Maya Train and the Dos Bocas refinery could weaken output; cost overruns would weaken the fiscal position. - Trade risks: Heightened trade tensions within the USMCA could negatively impact agriculture and manufacturing; nearshoring projects could boost growth. - Policy responses if macro risks materialize: - Allow the exchange rate to move freely as a shock absorber. - Fiscal policy should, where necessary, support domestic demand. - Monetary policy should respond if shocks feed into core inflation to ensure inflation expectations remain anchored. ### Policy discussions — A. Maintaining Fiscal Sustainability - 2024 budget and debt trajectory: - The 2024 budget is procyclical with a fiscal impulse of 2.4 percent of GDP; it proposes a deficit of 5.4 percent of GDP. - Under current policies, public debt would rise to 54.7 percent of GDP at end-2024 and stabilize at around 56 percent over the medium-term, conditional on the needed adjustment over the medium term. - Public debt is assessed to be sustainable with high probability, with fiscal risks mitigated by country access to international and domestic debt markets. - Achieving the 2025 fiscal target would necessitate additional measures of around 1.7 percent of GDP. - A more prudent fiscal stance in 2024 would have been desirable to avoid higher interest rates, a stronger currency, and a higher debt-to-GDP ratio. - Transparency and Pemex: - Explicit inclusion of support for Pemex in the budget increases transparency and should help facilitate discussion of supporting the company versus other priorities. - Continued budgetary support to Pemex should be conditioned on a credible plan to ensure Pemex’s commercial viability. - Better reporting of consolidated fiscal outturns aligned with international accounting practices is needed to capture complex financial transactions among public sector entities. - Medium-term priorities and tax reform options: - Medium-term priorities necessitate tax reforms that boost non-oil revenue. - Permanent increase in spending of around 2 to 3 percent of GDP could boost growth and tackle social inequalities and help close fiscal gaps, to be funded by measures that increase non-oil revenue. - Priorities for spending increases: (i) boost public investment permanently and productively; (ii) improve targeting of social protection programs; (iii) increase efficiency of education spending. - Options to boost revenues and estimated yields (In percent of GDP): - Value Added Tax (removal of zero-rating and exemptions): 1.1-1.4 - Personal Income Tax (removal of deductions, exemptions, and sectoral schemes): 0.6-0.9 - Corporate Income Tax (improving compliance / removal of allowances, deductions, exemptions, and deferrals): 0.2-0.5 - Total estimated yield: 1.9-2.8 - Strengthening fiscal framework: - Suggestions for a broader revamp: - (i) a well-calibrated debt anchor; - (ii) introducing a credible medium-term budget framework; - (iii) allowing for more countercyclical fiscal policy, potentially through building additional fiscal buffers; - (iv) clarifying escape clauses from fiscal rules and limiting them to specified exceptional circumstances; - (v) increasing analysis of policy impacts; - (vi) improving fiscal forecasting capacity. - Gender-focused fiscal policies: - Targeted fiscal policies to address gender gaps: - (i) gender budgeting with integration of gender policies into the budget through a Gender Impact Assessment; - (ii) better collection of gender-related data on social and economic outturns; - (iii) increasing support for maternal health and childcare; - (iv) improving allocations to the most effective social protection programs; - (v) more targeted education support programs; - (vi) abolishing the minimum contribution requirement for funded pensions; - (vii) adopting gender-sensitive employment practices in the public sector. - Authorities’ views on fiscal stance: - The 2024 budget submitted to Congress is looser than previously planned reflecting increased expenditure related to current administration commitments—principally, pensions, wages, and healthcare reforms—and capital expenditure to complete key infrastructure projects. - Needed consolidation in 2025, beyond the expiration of one-off capital expenses, could be met with continued improvements in tax efficiency and normalization of monetary policy. - The current administration intends not to raise tax rates. ### Policy discussions — B. Durably Bringing Inflation Back to Target - Monetary policy actions to date: - Banxico raised its policy rate from 4 percent in June 2021 to 11.25 percent in March 2023. - The real rate is now firmly in contractionary territory. - Inflation expectations have remained well-anchored. - Risks and guidance on rate reductions: - Upside risks to inflation argue for caution in reducing the policy rate. - Unemployment remains at low levels, historically associated—with a lag—with higher services inflation. - Services inflation remains relatively high, potentially reflecting wage pressures and past increases in the minimum wage. - The procyclical 2024 budget represents an additional near-term risk to the inflationary outlook. - A model-based analysis indicates the balance of risks supports a cautious pace of rate reduction. - Staff forecasts assume that rate reductions will begin in mid-2024, once inflation is on a clearer downward path toward the target. *Source: IMF staff report content provided in the chapter.* ### 28. After a period of significant changes, an internal strategic review of Banxico’s ### 1mexea2023003 - 28. After a period of significant changes, an internal strategic review of Banxico’s ### Strategic review of Banxico’s operations and communications - Banxico has progressed in providing more information to help markets understand policy decisions: in 2021 it provided the inflation forecast underpinning its decisions, and in 2022 it began providing qualitative forward guidance (example: starting in May 2023 the monetary policy statement indicated that rates would stay on hold “for an extended period”). - Transparency recommendations: - Provide greater information on the assumptions—including the policy path—that underpin the authorities’ projections. - Underscore that the published information is a modal forecast conditional on a range of assumptions and does not represent a policy commitment. - Purpose of an internal strategic review: - Examine potential additional changes to monetary policy practices. - Enhance policy effectiveness consistent with Banxico’s legal mandate. ### Inflation dynamics and policy stance - Services inflation has proved persistent, and the inflation outlook is uncertain. - To achieve an orderly and sustained convergence of headline inflation to the 3-percent target, it will be necessary to maintain the reference rate at its current level for an extended period. - Changes in the policy rate, in the context of a market-determined exchange rate, should remain the principal mechanism to anchor inflation expectations and guide inflation back to the central bank’s target. ### Asymmetric costs from monetary policy errors (Box 2) - Model-based comparison: two symmetric scenarios are considered in a Small Open Economy DSGE model parametrized using Mexican data. - ‘Too-tight’ scenario: an inflation shock of 0.5 percent is met with a policy rate one percentage point higher than the Taylor-rule-implied rate. - ‘Too-loose’ scenario: the same inflation shock is met with a policy rate one percentage point below the Taylor-rule-implied rate. - Outcomes: - Inflation starts and remains higher in the ‘too-loose’ scenario. - GDP decline is larger in the ‘too-tight’ scenario due to higher policy rates damping demand. - Using a quadratic loss function (weight of the output gap is 1/4 of the weight of the inflation gap), the analysis suggests that, with a positive initial inflation and output gaps, a hawkish bias resulting in a ‘too-tight’ policy stance comes at a lower cost than a bias yielding a ‘too-loose’ policy stance. ### Exchange rate flexibility and FX intervention - Exchange rate flexibility should continue to facilitate adjustment to external and domestic shocks. - Staff does not identify material frictions warranting regular FX interventions. - FX market characteristics: - Market remains deep and liquid. - The peso’s bid-ask spread is below the 25th percentile of EMs and closer to advanced economies’ average. - FX mismatches on domestic balance sheets are generally small and well-covered by natural and financial hedges. - FX interventions have been limited to episodes of extreme volatility; interventions should continue to be used only when large shocks cause frictions (e.g., disruptions in liquidity conditions or malfunctioning of the FX market). - Banxico’s limited FX interventions have not targeted a specific exchange rate level and, by using non-deliverable forwards in recent years, have been consistent with maintaining adequate reserves. ### Financial system resilience - Systemic vulnerabilities and liquidity risks appear broadly contained: - Financial system has high capital and liquidity buffers, low private sector leverage, and no sign of stretched asset prices. - In 2022 FSAP stress tests, the banking system demonstrated resilience to a range of severe macro-financial shocks; some smaller banks would require additional buffers under severe stresses. - Household risks are contained (low leverage, absence of house price misalignment, stable mortgage loan-to-value ratios). - Non-bank financial institutions (NBFIs): - Some NBFIs experienced stress but do not pose systemic risk; the sector represents about 4 percent of the assets of the financial system. - Distressed firms are relatively small, non-deposit taking, and have little connectivity to the banking system. ### Corporate sector - Post-pandemic recovery in profits has improved interest coverage ratios back to pre-pandemic levels. - Moody’s estimates of credit risk have receded, though vulnerabilities remain in the weaker tail of corporates and merit continued monitoring. ### FSAP recommendations to improve resilience (selected) - Strengthen autonomy and resources of regulatory agencies and legal protection of supervisors. - Enable CNBV to effectively supervise financial conglomerates on a consolidated basis, even if they have not requested authorization to operate as a financial group. - CNBV should closely monitor loan concentration and contingent credit line risks and apply Pillar 2 requirements as needed. - Strengthen CNBV’s risk-based supervisory approach with greater flexibility, expert judgment, and principles-based methodologies. - Improve bank resolution and recovery by removing impediments to resolvability, eliminating barriers to purchase-and-assumption and bridge bank tools, and expanding the resolution regime’s remit to financial holding companies. - Banxico and CNBV should continue strengthening cybersecurity and enhance oversight, inspection, and investigative powers. - Publish a macroprudential strategy and counter-cyclical buffer guidelines; consider expanding the macroprudential toolkit by introducing limits on loan-to-value (LTV) and debt-service-to-income (DSTI) ratios. - Authorities have reviewed international experience with LTV and DSTI; a first draft on progress on these workstreams is expected by end-2023 and by March-2024, respectively. ### AML/CFT gaps and recommendations - Substantive progress has been made on legal deficiencies from the 2018 Mutual Evaluation Report, but deficiencies remain in: - AML/CFT regulation and supervision of Designated Non-Financial Businesses and Professions (DNFBPs). - Reporting of suspicious transactions. - Establishing an effective cash-couriers regime. - CNBV’s inability to suspend or withdraw a banking license for AML/CFT breaches. - Recommended actions: - Create a beneficial ownership register to ensure corporate transparency and mitigate misuse of legal entities. - Ensure CNBV’s risk-based supervision verifies information on international wire transfers and activities of money remitters. - Grant SAT necessary legal powers to supervise and enforce DNFBP compliance in line with a risk-based approach. - Allocate adequate resources and budget to prosecution to ensure enforcement of money laundering and underlying predicate offenses. - Enhance collaboration among AML/CFT agencies: CNBV, SAT, the Financial Intelligence Unit (FIU), law enforcement, and anti-corruption bodies. - Consider leveraging AML measures to better tackle financial crimes such as corruption and tax evasion. ### Authorities’ views (summarized) - A restrictive stance to bring inflation back to target is consistent with Banxico’s legal mandate. - The flexible exchange rate is a key shock absorber; FX interventions have not targeted a specific level of the exchange rate. - Banxico is continually improving monetary policy implementation and conducts regular internal evaluations of operations and communications; it will continue internal stocktaking as pandemic effects subside. ### Making growth inclusive and sustainable - Despite increased openness over 30 years, per capita output growth has lagged Mexico’s G20 peers. - Supply-side constraints are emerging and need removal to attract new supply chains and capitalize on domestic content rules of recent U.S. fiscal legislation. - Authorities’ supply-side reform agenda includes: - Completion of large infrastructure projects. - Trade promotion. - Further increases in the minimum wage to reduce inequality. - Implementation of the 2019 labor law (including a new labor resolution mechanism). - Policies to facilitate greater female labor participation, tackle corruption and crime, improve access to finance, reduce costs of formalization, and strengthen energy supply. ### Nearshoring evidence (Box 3) - Mexico appears well-placed to benefit from nearshoring due to proximity to the U.S., macroeconomic stability, relatively low labor costs, existing supply chains, and USMCA membership. - Identified announced FDI plans: more than US$11 billion over the last two years, largely in automobiles, EVs and batteries, circuits, and automation; investment horizons where available are around 2-3 years. - Macroeconomic indicators are not yet showing clear nearshoring effects: - Real exports declined in the first half of 2023 while Mexico gained U.S. market share. - Gross capital formation is just recovering; investment in machinery and equipment recently surpassed pre-pandemic levels. - Inward FDI flows are lower in the first half of 2023 compared to the same period last year. - Illustrative example (if US$11 billion is additional to baseline): - Baseline inward FDI was US$39 billion in 2022 and historically grew at 10 percent per year over 2000-22. - The US$11 billion of announced plans would imply annual FDI growth of about 12 percent over 2023-25. - This could raise non-oil export growth from 7 percent per year to 7–12 percent per year, equivalent to about US$100 billion higher non-oil exports in 2025. ### Gender-related policy findings (Box 4) - Deep dive comprised three projects: legal/institutional measures to empower women; fiscal policies to tackle gender issues; and policies to boost female labor force participation using an OLG model. - Key quantitative finding: - Implementation of childcare policies alone could increase female labor force participation by about 10 percentage points. - Combined childcare with higher education raises participation to 11 percentage points; combined with anti-discriminatory practices to 13 percentage points. - Impacts are more pronounced in rural areas given disparities in educational attainment. *Sources: Bloomberg, Banxico, Haver Analytics, and IMF staff calculations.* ### 39. Policies to boost female labor force participation could unlock significant growth ### 39. Policies to boost female labor force participation could unlock significant growth ### Female labor force participation: current gaps and effects - Mexico has one of the highest gaps between male and female labor participation rates in the OECD. - Women are more likely to work in the informal economy, especially in rural areas. - Greater availability of affordable childcare appears effective at boosting female labor force participation but may increase the share of informal sector workers (Selected Issues Paper). - Anti-discrimination policies and improvements in education would further help increase incentives to join the labor force. ### Legal and policy progress for women’s economic empowerment - By law, women in Mexico enjoy freedom of movement, decision to work, marry, own, dispose of, and inherit property, start and run a business, and have equal rights in the workplace. - Gender-based discrimination and violence is prohibited. - Quotas for elected positions at federal and local levels have been imposed and Mexico has achieved parity in Congress. - Reforms in gender budgeting have been institutionalized. - Further reforms proposed to close remaining gender gaps: - i) providing for paid maternity and paternity leave, - ii) ensuring the provision of adequate childcare, - iii) strengthening the implementation of the equal pay principle, - iv) ensuring that women can fully exercise land ownership rights in rural areas, - v) promoting women representation in leadership positions in the private sector. - Fiscal and budgetary gender-related measures suggested: - regularly analyze tax laws for potential gender biases in tax legislations, - enhance integration of national gender strategies to the budget process, - tag budget programs with a gender perspective, - provide safeguards during budget execution, - strengthen accountability. ### Crime, corruption, and rule of law: growth impediments and reforms - Lack of security is identified as the main impediment to growth per firms’ responses to the 2018 Economic Census (Box 5). - Crime, corruption, and weak rule of law: - deter firms from operating, - create additional operating costs (security, bribes, insurance), - discourage firm growth (smaller firms less likely to be targeted), - create worker shortages as workers are diverted to illicit activities. - Recommended actions: - coordinated efforts at national, state, and municipal levels to implement and enforce anti-corruption legal and institutional reforms, - leverage the AML framework to prevent, detect, and deter proceeds of corruption, - further empower and resource institutions created under the National Anti-Corruption System reforms to fulfill mandates. - Staff looks forward to Mexico’s decision to participate in the IMF's voluntary assessment of transnational aspects of corruption; the assessment recognizes strengths in the current AML framework and ongoing anti-bribery reforms while recommending: - further measures to ensure adequate protection of reporting persons, - clarify liability of legal persons, - promote effective enforcement. ### Financial deepening and inclusion - Domestic credit to the private sector in Mexico amounts to 36 percent of GDP versus an average of 69 percent in Brazil, Chile, Colombia, and Peru. - A large share of the population remains unbanked. - Recent efforts include increased access to bank branches and financial products, improved transparency, facilitation of bank switches, and broadened access with more digital connectivity. - The 2018 Fintech law aimed to foster new sources of finance, although it may be too early to identify a sizeable impact on overall lending. - Policy options to deepen finance and inclusion: - strengthen the registry of movable assets to facilitate use as collateral, - eliminate obstacles to collateral recovery, including strengthening judicial system functioning, - enhance financial education, - improve transparency on financial products, - increase connectivity, especially in remote areas. ### Box 5 — Firm size, productivity, and perceived obstacles - Firm structure and productivity: - Almost 30 percent of employees work in establishments of less than 5 persons (2018 Economic Census), versus less than 5 percent in the U.S. - About 15 percent of these small establishments are in the top quartile in terms of productivity, versus about 70 percent of establishments above 50 employees. - Perceptions of obstacles (2018 Economic Census): - Lack of safety stands out as the main obstacle, more pronounced for the most productive firms. - High utility bills are the second concern, indicating a need to improve effectiveness and competition in telecommunication, energy, and water sectors. - Few firms highlight concerns on information and communication technology or access to experienced labor, though access to experienced labor is more often reported by high-productivity firms. - More productive firms are more concerned by taxes and by red tape. - Implication: policies that remove obstacles to firm growth and facilitate factor allocation toward higher-potential firms could yield large productivity gains. ### Minimum wage and formality - The minimum wage has increased by 80 percent in real terms since 2018 and now stands at around one-half of the average formal-sector wage. - Initial increases likely raised wages for lower-income workers, but more recently the share of low-wage workers in the informal sector is increasing, suggesting negative effects on employment outcomes for lower-income workers. - Further large minimum wage increases would likely increase informality and/or reduce job creation for lower-income workers. - Suggested policies to reduce informality beyond moderating minimum wage increases: - lower restrictions to layoffs, - remove adverse incentives in the pension system, - reduce regulatory costs of formalizing a business. ### Logistics, trade services, and investment in tradable sectors - Strengthening logistics and trade services could support private investment in tradable sectors by: - streamlining customs procedures, - easing licenses and permits procedures in road transport and customs brokerage, - removing foreign direct investment restrictions in the transport sector. - Streamlining business regulations alongside governance improvements could magnify and accelerate growth gains. ### Authorities’ views on labor, gender, and financial depth - Authorities consider Mexico’s open trade policy, strategic infrastructure investments, labor laws, and minimum-wage policy as having promoted equitable growth, formal jobs, and labor force participation, particularly for women. - Despite progress, gender gaps persist; need to further strengthen policies to boost female labor force participation, notably reforming the childcare system and addressing implementation gaps in the existing legal framework. - Low financial depth indicators may mask firms separately obtaining financing from suppliers. - A new law has been passed to provide more flexibility for customers to switch banks and encourage competition. ### Climate change, energy policy, and fiscal/firms implications - In November 2022, Mexico increased its 2030 GHG emission reduction target from 22 percent to 30 percent. - Mexico’s GHG emissions amounted to 1.4 percent of global emissions in 2020. - Achieving Mexico’s Nationally Determined Contribution requires ambitious measures across energy, transportation, waste management, residential sector, land use, forestry, agriculture, and industry. - Priorities include combating deforestation and a zero-emission vehicle sales target to 50 percent by 2030. - Policy tools and progress: - new plan to promote green finance and initiate green bonds to support green public spending projects, - introduction of a carbon tax (rate remains modest at US$3.3 per ton), - work on implementing an emissions-trading system. - Need to create incentives to expand renewable energy supply: - 2013 energy reform initially attracted private renewable developers, but regulatory hurdles have since disrupted operations and disincentivized investments. - Reopening the energy sector to private competitors while increasing carbon pricing would catalyze renewable development and technology transfer. - Pemex and stranded-asset risk: - Public transfers to Pemex support oil exploration and refining investments. - At WTI prices of US$80 per barrel, about one sixth of Mexico’s current oil fields would be non-economic. - If climate-mitigation initiatives reduced oil prices to US$60, more than one quarter of production in Mexico would be uneconomical, lowering government revenues through profit-sharing and increasing Pemex losses. - Recommendation: remove subsidies to fossil-fuel producers and improve competition in the energy sector to lower stranded-asset risk; incentivize SOEs to improve efficiency and cut costs or discontinue uneconomic investment and production. - Carbon pricing simulations: - If Mexico alone implements a gradual increase of carbon prices to reach the international carbon price floor of US$50 per ton by 2030, GHG emissions could be reduced by 34 percent. - Considering carbon prices only, this would come at a cost of around 1 percent of GDP or about 0.15 percentage point of growth per year compared to a baseline with unchanged carbon prices. - Coordinated implementation of the price floor in all countries would entail larger GDP costs of about 1½ percent of GDP due to spillovers. - Fiscal reorientation options to catalyze the carbon tax plan: removal of Pemex subsidies, green public investment, increased subsidies for renewable energy, feebates, and regulatory requirements for renewable power generation. - Complementary measures: active labor market policies to facilitate job transitions from fossil-fuel industries. ### Staff appraisal: growth, fiscal, and monetary context - Economic performance and outlook: - The Mexican economy remains resilient with broad-based expansion supported by private consumption and investment; notable strength in services, construction, and auto production. - Unemployment rate is close to record lows. - Public debt remains in check and inflation is receding. - Mexico’s external position is moderately stronger than the level implied by medium-term fundamentals and desirable policies. - Reform priorities to secure sustainable and inclusive growth: - higher and better-targeted public investment, - better governance, - increasing access to domestic sources of finance, - increasing female labor force participation, - pivoting consumption toward cleaner energy sources. - Fiscal risks and recommendations: - The planned fiscal path for 2024 is described as unduly procyclical. - Expected increase in the deficit to 5.4 percent of GDP—a fiscal impulse of 2.4 percent of potential GDP—will boost demand while the economy operates above potential and inflation is not yet at target. - A tighter fiscal stance would lessen upward pressure on the currency, interest rates, and inflation; hard choices are needed to unwind stimulus in 2025. - Measures to boost non-oil revenue recommended: - (i) eliminating the zero-rating for VAT and rationalizing exemptions, - (ii) broadening the personal income tax, - (iii) increasing property taxes. - These measures could create space for a gradual and permanent increase of capital and targeted social expenditure of around 2 to 3 percent of GDP. - Strengthen the medium-term fiscal framework to bolster credibility and consistency. - Transparency and Pemex: - Clear recording of support to Pemex in the 2024 budget is a positive transparency step. - Future budgetary support for Pemex should be conditioned on credible plans to ensure Pemex’s commercial viability. - Financial transactions by public entities require more robust and transparent reporting aligned with international accounting practices. - Monetary policy and Banxico: - Banxico should continue to focus on price stability and maintain a restrictive policy until inflation indicators are durably heading toward its target. - Based on the current macroeconomic outlook, this will likely require maintaining the policy rate at current levels until mid-2024. - An internal strategic review of Banxico’s operations and communications could assess advances and identify ways to further enhance decision-making, communication, forecasting, and analysis. *Source: IMF staff report (Mexico) chapter titled “Policies to boost female labor force participation could unlock significant growth.”* ### 58. The flexible exchange rate should continue to be the key tool to facilitate adjustment ### 58. The flexible exchange rate should continue to be the key tool to facilitate adjustment ### Exchange rate and monetary policy - The flexible exchange rate should continue to be the key tool to facilitate adjustment to external and domestic shocks. - Application of the IMF’s Integrated Policy Framework does not identify material frictions that would warrant regular FX interventions in Mexico. - The policy rate should remain the primary instrument to anchor inflation expectations and maintain inflation at Banxico’s 3-percent target. ### Financial sector supervision and resilience - Important progress has been made in financial sector supervision. - The financial system remains resilient to shocks and stress tests show that capital levels would remain above regulatory minima even in the most severe downside scenarios. - Recommendations: - Continue implementing the recommendations from the 2022 FSAP. - Address outstanding gaps in the Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) framework. - Enhance collaboration between the various AML/CFT agencies and anti-corruption bodies. ### Labor force participation and gender gaps - Boosting female labor force participation and removing legal impediments to female economic empowerment would improve potential growth and raise living standards. - The gap between male and female labor participation rate in Mexico is among the highest in the OECD. - Recommendation: Implement targeted fiscal policies and legal reforms to help close gender gaps. ### Governance and anti-corruption - Better governance would improve the business environment. - Better coordination among national, state, and municipal levels is important to effectively implement the existing anti-corruption framework and ensure its proper enforcement. - Staff look forward to Mexico’s decision to participate in the IMF's voluntary assessment of transnational aspects of corruption. ### Infrastructure, regulations, and private investment - Improvements in infrastructure and streamlined regulations would help attract private capital. - Filling critical infrastructure gaps—in transport, water, and energy—would help meet the growing needs of firms investing in Mexico. - Recommendations: - Streamline customs procedures, ease licensing and permitting procedures, and remove foreign direct investment restrictions to incentivize investment and encourage technology transfer. - Deepen domestic financial intermediation to provide additional resources for private investment. ### Climate change strategy and energy - A comprehensive and well-sequenced climate change strategy can provide more durable sources of energy. - New investments in the hydrocarbon sector should internalize the long-term risk of a reduction in changing global demand for hydrocarbons, particularly as Mexico is a relatively high-cost producer. - The authorities’ increased focus on electrification (e.g., in transportation) should be accompanied with a switch to low carbon and renewable sources of generation. - Increasing the carbon tax—and/or the shadow price of carbon in the emission trading system—to around US$50 per ton would be broadly consistent with the authorities’ emission goals. *Source: IMF staff summary (content unit: 1mexea2023003 - 58).* ### 64. It is recommended that the next Article IV consultation take place on the standard 12- ### 1mexea2023003 - 64. It is recommended that the next Article IV consultation take place on the standard 12- ### Article IV timing - It is recommended that the next Article IV consultation take place on the standard 12-month cycle. ### Labor Market - Nominal wages are rising strongly. - Labor force participation rate is at a record high while unemployment rate is at a record low. - Job recovery is broad-based, with the largest contribution from services. - Full time jobs are driving the labor market recovery; both formal and informal employment are creating jobs. - Unit labor costs (ULCs) appear flat amid high seasonal variation. - Formal IMSS wages (monthly) and overall wages (quarterly) show rising trends in recent years. - Historical average reference: (2008-19 Q2) shown in figures for sectoral contributions. ### Real Sector (Growth, Employment, Confidence) - Services and construction are the main growth engines. - Gross fixed capital formation is rebounding (NSAAR, Billions of 2018 Pesos). - Private confidence is rebounding and consumption keeps growing as pandemic constraints dissipate. - Employment growth is strong; employment series indexed to Jan.2020=100: - Employment (Jan.2020=100, RHS) - Formal employment (Jan.2020=100, RHS) (IMSS reporting) - Real exports are declining amid stabilization of manufacturing activity in the US. - Sectoral supply contributions and real export indices shown (2021Q1 = 100, SA). ### Prices, Inflation, and Monetary Policy - Headline inflation is receding. - Core inflation is declining with a lag because services inflation has been more persistent; merchandise inflation is declining sharply, driving the decline in core inflation. - Policy rate has stabilized in nominal terms and increased in real terms as inflation expectations have declined. - Survey-based inflation expectations: - 12 months ahead and 5-8 year ahead series reflect short-term decline and well-anchored long-term expectations. - Real wages have struggled to keep pace with inflation, reflecting the decline in productivity during the pandemic. - Consumer prices (end-of-period) projections include: - 2023: 4.5 - 2024: 3.2 - 2025: 3.0 - 2026: 3.0 - 2027: 3.0 - 2028: 3.0 - Core consumer prices (end-of-period) projections include: - 2023: 5.0 - 2024: 3.1 - 2025: 3.0 - 2026: 3.0 - 2027: 3.0 - 2028: 3.0 - Monetary policy rate (selected historical/projection values): - 2019: 7.25 - 2020: 4.25 - 2021: 5.50 - 2022: 10.50 - 2023: 11.25 - 2024: 10.00 - 2025: 8.00 - 2026: 6.75 - 2027: 6.50 - 2028: 6.50 ### External Sector and Reserves - Current account balance: registered deficits so far this year. - Terms of trade improved due to higher export prices. - Domestic government bonds have seen inflows in recent quarters. - Gross international reserves rebounded. - Capital flows remain resilient supported by strong FDI inflows despite high uncertainty. - Trade balance (goods and services) and current account (USD, billions) show: - 2023 current account: -26.6 (in billions of U.S. dollars; Table 4a) - Merchandise goods trade balance 2023: -32.2 (USD billions) - Gross international reserves (in billions of U.S. dollars) projection path: - 2022: 207.7 - 2023: 201.1 - 2024: 212.3 - 2025: 224.5 - 2026: 234.4 - 2027: 242.3 - 2028: 249.8 - 2029: 257.5 - International Investment Position, net (USD, billions) shown with negative net positions (e.g., -609.7 in 2023). ### Fiscal Sector and Public Debt - Public debt projected to remain almost flat below 60 percent of GDP over the medium-term. - Trust funds depleted during the pandemic have begun to be rebuilt. - The deficit in Mexico was on par with emerging economy comparators but exceeded that of regional peers. - Revenue- and expenditure-to-GDP ratios rose in 2022 as higher oil prices increased Pemex revenues and fuel subsidies. - Public debt declined more in Mexico in 2022 compared to peer groups. - Overall deficit likely to moderate slightly in 2023, while it is expected to widen in 2024. - Gross public sector debt (percent of GDP) historical/projections: - 2019: 51.9 - 2020: 58.5 - 2021: 56.9 - 2022: 54.1 - 2023: 52.7 - 2024: 54.7 - 2025: 55.1 - 2026: 55.5 - 2027: 55.9 - 2028: 56.3 - Table 2 (Authorities' Presentation) highlights: - Budgetary revenue (percent of GDP): 2023: 21.7; 2024: 21.3; 2025: 21.2; 2026: 21.1; 2027: 21.1; 2028: 21.1 - Oil revenue (percent of GDP): 2023: 3.5; 2024: 3.1; 2025: 3.1; 2026: 2.9; 2027: 2.8; 2028: 2.6 - Budgetary expenditure (percent of GDP): 2023: 25.0; 2024: 26.1; 2025: 23.3; 2026: 23.2; 2027: 23.2; 2028: 23.2 - Overall fiscal balance (percent of GDP, Table 3 GFSM): 2023: -3.9; 2024: -5.4; 2025: -2.6; 2026: -2.7; 2027: -2.7; 2028: -2.7 ### Financial Markets and Sovereign Risk - Mexico's sovereign spreads have behaved well and remain below regional peers. - Spreads on dollar-denominated corporate bonds have been mostly stable over the past year. - Shorter-dated yields have risen in response to policy hikes, leading to a reversal in the yield curve. - The peso has strengthened significantly over the past year, in both nominal and real effective terms. - Share of peso-denominated bonds held by foreigners has continued to decline but at a slower pace than prior years. - Foreign inflows in local currency debt and flows across bond types have been stable and fairly balanced. ### Banking System and Financial Soundness - Non-performing loans at commercial banks have been stable at low levels: Nonperforming loans to total gross loans around 2.6 (2020), 2.0 (2021), 2.1 (2022), 2.2 (May-23). - At development banks, non-performing loans from corporates have risen. - All major banks exceed capital requirements; capital ratios (Regulatory capital to risk-weighted assets) around 17.7 (2020), 19.5 (2021), 19.0 (2022), 19.2 (April latest). - Return on assets and return on equity have improved: Return on assets 1.2 (2020), 2.1 (2021), 2.6 (2022), 2.7 (May-23); Return on equity 9.0 (2020), 14.6 (2021), 17.6 (2022), 18.7 (May-23). - Consumption credit has been very dynamic; credit from development banks has stagnated. - Financial soundness indicators (liquidity and provisioning) show strong buffers (e.g., Provisions to Nonperforming loans 152.4 in 2020; 147.0 in 2021; 160.1 in 2022; 154.6 May-23). ### Nonfinancial Corporate Sector - Nonfinancial corporate leverage (Total Debt to Total EBITDA, median) has continued to decline following the pandemic. - Debt servicing capacity has recently declined as has profitability (Interest coverage ratios and EBITDA growth show weakening). - Near-term maturities encompass only a small portion of corporate debt; maturity profile in US$ billion shows a larger share of long-dated maturities. - Hard-currency issuance remains weak; issuance in hard currency (in US$ billion) is below historical levels, reflecting a global trend among emerging market corporates. - Current ratios (current assets to current liabilities, multiples, median) have been fairly stable after declining in years before the pandemic. ### Social Indicators - Poverty headcount ratio at $2.15 (2017 PPP) and at $3.65 (2017 PPP) show: - Poverty in Mexico is slightly higher than the LAC6 average; extreme poverty has declined over the past 25 years. - Income inequality is slightly above the regional average (Income share held by highest 10 percent; income share of highest 20 percent / lowest 20 percent in 2022 = 8.4). - Infant mortality rate in 2021: 11.4 (per 1,000 live births). - The homicide rate remains high. - A large but declining share of youth is excluded from education or employment (Share of youth not in education, employment or training shown in figures). ### Key Macroeconomic Projections and Indicators (selected) - GDP annual percent change: - 2019: -0.3 - 2020: -8.7 - 2021: 5.8 - 2022: 3.9 - 2023: 3.2 - 2024: 2.1 - 2025: 1.5 - 2026: 1.8 - 2027: 2.0 - 2028: 2.1 - External current account balance (percent of GDP): - 2019: -0.4 - 2020: 2.0 - 2021: -0.6 - 2022: -1.2 - 2023: -1.5 - 2024: -1.4 - 2025: -1.1 - 2026: -0.9 - 2027: -0.9 - 2028: -0.9 - Gross international reserves (in billions of U.S. dollars): - 2019: 183.0 - 2020: 199.1 - 2021: 207.7 - 2022: 201.1 - 2023: 212.3 - 2024: 224.5 - 2025: 234.4 - 2026: 242.3 - 2027: 249.8 - 2028: 257.5 - GDP per capita (U.S. dollars, 2022): 11,279.2 - Population (millions, 2022): 130.0 - Poverty headcount ratio (% of population, 2022) (CONAEV/CONEVAL measure): 36.3 - Life expectancy at birth (years, 2022): 75.5 - Adult literacy rate (2020): 95.2 ### Policy-relevant observations and implications - Monetary policy: policy rate increases through 2022-2023 and stabilization imply a tighter stance in real terms as inflation expectations declined. - Fiscal policy: trust fund rebuilding and a public debt path remaining below 60 percent of GDP over the medium term suggest limited near-term fiscal space but continued dependence on oil-related revenues and sensitivity to oil-price movements. - External resilience: rebound in reserves and resilient capital inflows (especially FDI) provide buffers, but current account deficits and gross financing needs require monitoring. - Financial stability: strong bank capitalization, low commercial NPLs, and improved profitability support financial stability, though development bank asset quality and corporate debt servicing weakening deserve close monitoring. - Social outcomes: persistent poverty, inequality, high homicide rates, and youth exclusion point to structural development challenges alongside macroeconomic stability. *Source: National Authorities, Haver Analytics, and IMF staff calculations.* ### Annex I. External Sector Assessment ### Annex I. External Sector Assessment ### Overall Assessment - The external position in 2022 was moderately stronger than the level implied by medium-term fundamentals and desirable policies. - Mexico’s CA deficit widened to 1.2 percent of GDP in 2022, but the adjusted external position strengthened owing to the impact of the more accommodative fiscal stance in other economies. - The CA deficit is expected to widen moderately in 2023-24 but hover around 1 percent of GDP in the medium term. - Potential policy responses: - Further structural reforms to address investment obstacles to boost investment and growth in the medium and long terms and to maintain external sustainability. - Reforms should include tackling economic informality and governance gaps, initiating private sector participation in energy, and reforming Pemex’s business strategy and governance. - The floating exchange rate should continue to serve as a shock absorber, with FX interventions employed only to prevent disorderly market conditions. - The IMF’s Flexible Credit Line with Mexico continues to provide an added buffer against global tail risks. ### Foreign Asset and Liability Position and Trajectory - Background: - NIIP is projected to improve from –41 percent of GDP in 2022 to about –31 percent of GDP over the medium term, driven mainly by a decline in foreign liabilities. - Foreign assets in 2022 were mostly direct investment (16 percent of GDP) and international reserves (14 percent of GDP). - Foreign liabilities were mostly direct investment (48 percent of GDP) and portfolio investment (33 percent of GDP). - Assessment: - NIIP is sustainable and the relatively high share of local currency denomination in foreign public liabilities reduces FX risks. - Large gross foreign portfolio liabilities could be a source of vulnerability in case of global financial volatility. - Vulnerabilities from exchange rate volatility are moderate, as most Mexican firms with FX debt have natural hedges and actively manage their FX exposures. - Key statistics (2022, % GDP): - NIIP: –41 - Gross Assets: 50 - Debt Assets: 17 - Gross Liab.: 91 - Debt Liab.: 32 ### Current Account - Background: - CA deficit was 1.2 percent of GDP in 2022, up from 0.6 percent in 2021. - Change mainly reflected a lower trade balance (down by 1.0 percent of GDP) partly offset by a higher primary income balance (up by 0.3 percent of GDP). - Trade balance declined as both higher oil- and non-oil imports more than offset higher exports. - The decline in the CA reflected lower public savings, while the private sector showed higher savings, partly offset by higher investment. - CA deficit is expected to widen moderately in 2023-24 with strong demand boosting imports; over the medium term, projected to hover around a deficit of 1 percent of GDP. - Assessment: - EBA model estimates: - Cyclically adjusted CA balance: –0.4 percent of GDP - Cyclically adjusted CA norm (EBA Norm): –1.6 percent of GDP - EBA model CA gap: 1.2 percent of GDP (reflecting policy gaps and an unidentified residual) - Policy gaps: 0.4 percent of GDP (mostly driven by the fiscal gap of 0.6 percent of GDP). - IMF staff adjustments for transitory COVID-19 impacts: - Tourism and travel services: –0.2 percent of GDP - Transport balance: 0.7 percent of GDP - Including adjustments, staff assesses midpoint CA gap at 1.7 percent of GDP, with a range of 1.2 to 2.1 percent of GDP. - Estimated standard error of the CA norm: 0.5 percent of GDP. - Key statistics (2022, % GDP): - CA: –1.2 - Cycl. Adj. CA: –0.4 - EBA Norm: –1.6 - EBA Gap: 1.2 - COVID-19 Adj.: 0.4 - Other Adj.: 0.0 - Staff Gap: 1.7 ### Real Exchange Rate - Background: - In 2022, the peso fluctuated in a relatively narrow range of about 19 to 21 pesos per dollar. - Average REER in 2022 appreciated by about 5 percent compared with the 2021 average, mostly driven by a nominal appreciation; average NEER appreciated by 4 percent in 2022 compared with the average 2021 NEER. - As of August 2023, the REER was 21.9 percent above the 2022 average reflecting recent nominal appreciation. - Assessment: - IMF staff CA gap implies a REER undervaluation of about 4.9 percent (with a semielasticity of 0.34 applied). - EBA REER estimates for 2022: - EBA REER index model: undervaluation of 3.8 percent - EBA REER level model: overvaluation of 14.9 percent - Staff’s overall assessment: REER undervaluation in the range of 3.6 to 6.3 percent, with a midpoint of 4.9 percent. - Assessment subject to high uncertainty, including due to large unidentified CA model residuals. ### Capital and Financial Accounts: Flows and Policy Measures - Background (2022 flows, % GDP): - Net financial account inflows: 1.0 percent of GDP (compared with 0.1 percent of GDP in 2021). - Net inflows of FDI: 1.5 percent of GDP. - Net portfolio balance: outflow of 0.3 percent of GDP (lower than 3.2 percent of GDP outflow in the previous year). - Assessment: - Long maturity of sovereign debt and relatively high share of local-currency-denominated debt reduce exposure of government finances to FX depreciation and refinancing risks. - Banking sector is resilient; FX risks of nonfinancial corporate debt are generally covered by natural and financial hedges. - Strong presence of foreign investors leaves Mexico exposed to capital flow reversals and risk premium increases. ### FX Intervention and Reserves Level - Background: - Central bank committed to a free-floating exchange rate and uses discretionary FX intervention to prevent disorderly market conditions. - At the end of 2022, gross international reserves were $201 billion (14 percent of GDP), down from $208 billion at the end of 2021. - As of end-September 2023, gross international reserves were $210 billion. - In 2022, no FX intervention was conducted. - Assessment: - Reserves at end-2022: 122 percent of the ARA metric and 253 percent of short-term debt (at remaining maturity); level remains adequate. - IMF staff recommends authorities continue to maintain reserves at an adequate level over the medium term. - Flexible Credit Line arrangement continues to provide an additional buffer. ### Risk Assessment Matrix — Selected Global and Domestic Risks, Likelihood, Impact, and Policy Responses - Global risks: - Commodity price volatility - Likelihood: High - Impact: Medium - Policy response: Monetary policy should respond if shocks feed into core inflation and ensure that inflation expectations remain anchored. - Monetary policy miscalibration - Likelihood: Medium - Impact: High - Policy response: Let the exchange rate act as a shock absorber. Tighten monetary policy, consistent with Banxico’s price-stability mandate, if inflation in Mexico is affected by additional price pressures. Frontload fiscal expenditure plans and delay revenue measures to provide support during the downturn without adding to domestic price pressures. - Abrupt global slowdown or U.S. recession - Likelihood: Medium - Impact: High - Policy response: Tighten monetary policy, consistent with Banxico’s price-stability mandate, if inflation in Mexico is affected by additional price pressures, decoupling from the Fed when appropriate. Frontload fiscal expenditure plans and delay revenue measures to provide support during the downturn without adding to domestic price pressures. - Deepening geo-economic fragmentation - Likelihood: High - Impact: Low - Policy response: Implement structural reforms to ensure the economy can adjust flexibly to rotations in export demand (e.g., labor market reforms to reduce informality and strengthen business climate and rule of law). - Disorderly energy transition - Likelihood: Medium - Impact: Low - Policy response: If lower oil prices create stranded assets, restrict Pemex projects to the cheapest fields and accelerate the transition to green energy. Accelerate transition to production of electrical vehicles. - Domestic risks: - Slower-than-anticipated fiscal consolidation in the context of the forthcoming electoral cycle - Likelihood: Medium - Impact: Medium - Policy response: Tighten monetary policy if price pressures are observed. Resume the consolidation effort, especially if country risk premiums rise. - Social discontent - Likelihood: Medium - Impact: Medium - Policy response: Increase and better target social transfers to alleviate stress on vulnerable households while adjusting monetary policy to anchor inflation expectations. Accelerate investment plans in low-income regions. ### Key FSAP Recommendations — Status Summaries (selected) - Cross-Cutting Themes: - Enhance the autonomy of regulatory government agencies and legal protection of supervisors: No measures taken. - Assess and enhance the organizational structure and resource needs of individual agencies: No measures taken. - Enhance the oversight of the Interbank Electronic Payment System (SPEI) relative to the PFMI and cybersecurity: - Authorities reviewing recommendation; Banco de México evaluating potential creation of an independent oversight unit within the Directorate General of Payment Systems and Market Infrastructures. - Systemic Risk Analysis: - Monitor contingent credit lines and portfolio concentration; use Pillar 2 requirements as needed: Authorities monitoring and improving regulatory reporting. - Expand liquidity stress test framework and incorporate into Supervisory Review Process: Banco de México implemented a liquidity stress test in 4Q2022 and is expanding tests in 2023; system-wide liquidity stress test expected to be completed by 2024. - Financial Sector Oversight: - Develop and publish a macroprudential policy strategy: Authorities working on review; proposal to be discussed by 4Q2023. - Consider LTV and DSTI limits: Authorities reviewing international experience; evaluation expected to be completed by 2024. - Ensure effective consolidated supervision of financial holding companies; refine CEFER risk-based supervisory methodology: No measures taken. - Continue developing cybersecurity strategy and improve practices: Multiple projects underway (updating strategies, clarifying roles, regulation drafts for CCV, information exchange); Banco de México published a guide for collecting forensic evidence in May 2022. - Improve cyber response and recovery capabilities and conduct market-wide cyber crisis simulations: Authorities working on market-wide simulations, red team exercise, cyber-mapping, and information exchange network. - Issue supervisory guidance on climate-related risk management and introduce disclosure requirements: Expected as part of institutional project for 2024/2025; in August 2023 Banco de México submitted to public consultation amendments to Provisions 4/2012 to incorporate climate and environmental risk considerations in derivatives risk management. - Financial Integrity and Crisis Management: - Implement remaining 2018 Mutual Evaluation Report recommendations: No measures taken. - Review liquidity risk mitigation for development banks: No measures taken. - Explore options to enhance the ELA framework: Banco de México preparing an assessment of its liquidity facilities. - Strengthen credibility of banks’ financial contingency arrangements and resume drills to access liquidity facilities: Banco de México preparing to resume drills. - Introduce statutory bail-in powers and eliminate barriers to P&A and bridge bank tools: No measures taken. - Shorten resolution planning cycle for D-SIBs and midsize banks: In 2Q23, IPAB reformed rules to shorten the resolution planning cycle for DSIBs. - Financial Development Issues: - Broaden scope of regulated fintech activities; finalize implementation of open finance: - In 2Q2023 CNBV and Banco de México aimed to define regulation needed to implement open banking within art. 76 of the Fintech Law; discussions on data types, consent, authentication, API architecture, and cybersecurity. - Establish a national climate finance strategy and targets for development financial institutions: - In March 2023, the Ministry of Finance published the "Sustainable Taxonomy" to classify activities/assets/investment projects with positive environmental and social impacts. *Source: Annex I. External Sector Assessment (from the provided content).* ### Annex IV. Debt Sustainability Analysis ### Annex IV. Debt Sustainability Analysis ### A. Sovereign Risk and Debt Sustainability Analysis — Overview and Assessment - Overall risk of sovereign stress: Moderate. - Near term: 1/ (assessment not published in surveillance-only cases). - Medium term: Moderate. - Long term: Moderate. - Final sustainability assessment: Sustainable with high probability. - Commentary highlights: - "The risk of Mexico experiencing sovereign stress is moderate overall and its public debt is assessed to be sustainable with high probability over the extended time horizon given a track record of fiscal prudence and potential growth exceeding the 10-year historical average real GDP growth rate." - "The public debt ratio is not expected to decline in the medium-term." - Fan-chart analysis suggests public debt ratios could increase materially in the medium-term under downside scenarios. - Long-term risk concentrated in run down in oil reserves; staff advice: widen the revenue base and better mobilize domestic revenues. - Note: "Unsustainable debt can only be resolved through exceptional measures (such as debt restructuring). In contrast, a sovereign can face stress without its debt necessarily being unsustainable..." - Modules flagged as relevant: large amortization and natural resource modules. - Large amortization: "GFN and public debt-to-GDP ratios could be large in some scenarios absent proactive government policy." - Natural resources: "oil depletion in the long-term could have large impacts on debt ratios." - Medium-term risks: judged moderate; standardized stress tests indicate additional financing needs could reach close to 15 percent of GDP in a stress scenario. - Overall drivers: inflation-related interest payments and capital execution produced a looser fiscal stance in 2022; strong economic performance and spending restraint expected to guide debt downward in 2023; high real interest rates and a procyclical policy stance in 2024 will exert pressure in medium-term; unwinding of debt servicing costs, return to trend growth, and a tight fiscal stance will help contain the debt path over the extended 10-year period. ### Debt coverage and disclosures (Key coverage and consolidation notes) - Coverage chosen: Budgetary central government, Extra budgetary funds (EBFs), Social security funds (SSFs), Public nonfinancial corporations, Other public financial corporations. - Subnational governments: State governments and Local governments: No (not included). - Consolidation: "Debt is not consolidated across the Federal government and Non-Financial Public Sector and the aggregate debt data represents the gross amount of all individual debt liabilities." - Commentary: "Data on debt of sub-national governments are not readily available. Regulatory limits on state and local governments debt burden limits risks." ### Public Debt Structure Indicators (Selected qualitative observations) - Shares of foreign and domestic currency-denominated liabilities expected to be broadly stable in the projection period. - Rising share of domestic other creditors reflects increased holdings by domestic pension funds following pension reforms. - Small amounts of non-marketable debt principally relate to external official lending. - Share of liabilities with longer maturities expected to increase relative to the pre-projection period, consistent with government debt management strategy. - Residual maturity: 10.6 years (noted in the figure caption). ### Baseline Scenario — Key projected metrics (Percent of GDP unless otherwise indicated) - Public debt (series as presented): 54.15 52.75 54.7 55.1 55.5 55.9 56.3 56.0 55.4 54.6 53.7 - Change in public debt (series): -2.8 -1.4 2.1 0.4 0.4 0.4 0.3 -0.3 -0.6 -0.8 -0.9 - Contribution of identified flows (series): -2.2 0.3 2.4 0.5 0.4 0.5 0.4 -0.3 -0.6 -0.8 -0.9 - Primary deficit (series): -0.2 -1.6 0.7 -1.8 -1.6 -1.5 -1.4 -1.4 -1.4 -1.4 -1.4 - Noninterest revenues (series): 23.9 23.6 23.5 23.5 23.3 23.3 23.1 23.1 23.1 23.1 23.1 - Noninterest expenditures (series): 23.7 22.0 24.2 21.7 21.7 21.8 21.7 21.7 21.7 21.7 21.7 - Automatic debt dynamics (series): -0.9 1.6 1.5 2.2 1.9 1.8 1.7 1.3 1.0 0.8 0.7 - Real interest rate and relative inflation (series): 1.3 3.3 2.6 3.0 2.9 2.9 2.8 2.4 2.1 1.9 1.7 - Real interest rate (series): 1.4 3.1 2.2 2.8 2.7 2.7 2.6 2.2 1.9 1.7 1.5 - Relative inflation (series): 0.0 0.2 0.4 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 - Real growth rate (series): -2.1 -1.7 -1.1 -0.8 -1.0 -1.1 -1.1 -1.1 -1.1 -1.1 -1.1 - Other identified flows / Other transactions (series): -1.1 0.3 0.3 0.1 0.1 0.1 0.1 -0.2 -0.2 -0.2 -0.2 - Contribution of residual (series): -0.7 -1.7 -0.3 -0.1 -0.1 0.0 -0.1 0.0 0.0 0.0 0.0 - Gross financing needs (GFN) (series): 13.1 12.4 13.4 9.7 10.8 10.8 10.6 10.3 10.2 10.3 9.9 - Of which: debt service (series): 13.6 14.2 12.9 11.7 12.6 12.5 12.2 11.8 11.7 11.8 11.5 - Local currency (series): 11.7 12.5 11.4 9.9 10.6 10.2 10.0 9.8 9.7 9.8 9.4 - Foreign currency (series): 1.9 1.7 1.5 1.8 2.0 2.3 2.2 2.1 2.0 2.0 2.1 - Memo items: - Real GDP growth (percent): 3.9 3.2 2.1 1.5 1.8 2.0 2.1 2.0 2.0 2.0 2.0 - Inflation (GDP deflator; percent): 6.7 5.2 5.6 3.5 3.4 3.0 3.0 3.0 3.0 3.0 3.0 - Nominal GDP growth (percent): 10.9 8.5 7.9 5.0 5.2 5.1 5.2 5.1 5.1 5.1 5.1 - Effective interest rate (percent): 9.4 11.4 10.1 8.8 8.5 8.2 8.0 7.1 6.6 6.2 5.9 - Baseline commentary: strong 2022 growth and tighter fiscal stance reduce debt in 2023; large fiscal expansion in 2024 pushes medium-term debt up; debt servicing costs moderate by 2028 and tight fiscal stance plus trend growth lower debt in extended period. ### Realism of Baseline Assumptions and Forecast Track Record - Forecast track record generally within bounds for optimism, except SFA projections. - "The higher contribution of GDP growth over the next 5 years is substantiated by a very strong recent performance and potential output growth above the 10-year average real growth rate." - Spreads expected to contract relative to the Laubach rule given sensitivity to loosening of monetary policy. - Three-year debt and CAPB adjustments are above the median of comparator distribution but below Mexico's past maximum. - Output gap: sustained positive output gaps in 2023-25 blunt fiscal multipliers; positive output gap trends to zero by end of projection period. - Real projected potential growth expected to outstrip the average of the preceding ten years given developments such as infrastructure spending. ### Medium-Term Risk Assessment — Quantitative indices and final signals - Debt fanchart module: - Fanchart width: 30.0 0.4 (percent of GDP) (as presented). - Probability of debt non-stabilization (percent): 55.1 0.5 (as presented). - Terminal debt-to-GDP x institutions index: 37.5 0.8 (as presented). - Debt fanchart index (DFI): 1.7. - DFI signal: Moderate (note: DFI low risk if < 1.13; high risk if > 2.08). - Gross Financing Needs module: - Average baseline GFN (percent of GDP): 11.3 3.8 (as presented). - Banks' claims on the general govt (pct bank assets): 25.9 8.4 (as presented). - Change in banks' claims in stress (pct banks' assets): 10.9 3.7 (as presented). - GFN financeability index (GFI): 15.9. - GFI signal: Moderate (note: GFI low risk if < 7.6; high risk if > 17.9). - Medium-term index: Final assessment: Moderate. - "Prob. of missed crisis, 2023-2028, if stress not predicted: 18.2 pct." - "Prob. of false alarms, 2023-2028, if stress predicted: 21.6 pct." - Commentary: Medium-term analysis suggests moderate sovereign stress risk; main issue is substantial increase in public debt under low-probability downside scenarios; change in bank claims under stress small, but initial share of claims on Federal government in banks’ assets is in upper quartile among peers; banking system and institutional investors (pension funds) likely able to absorb additional financing needs. ### Long-Term Analysis — Large Amortization and Natural Resources - Long-term modules highlight two key vulnerabilities: large amortization schedules and natural resource (oil) depletion. - Scenarios illustrated: - Baseline: extension of fifth projection year. - Baseline with t+5. - Baseline with t+5 and DSPB (Debt-Stabilizing Primary Balance). - Historical 10-year average assumptions. - Key observations: - "Given the importance of oil revenues to the government's revenue base and its contribution to the Mexican economy, depletion of oil reserves would result in rapid and large increases in GFN- and public debt-to-GDP ratios." - Baseline with t+5 and DSPB scenario shows stabilization of long-term GFN and public debt ratios at higher levels than staff baseline because a smaller primary surplus is assumed to stabilize debt. - Historical 10-year average extrapolation shows both GFN- and public debt-to-GDP ratios rise rapidly over the long-run. - Staff judgment: likelihood of preemptory action averting worst-case scenarios is high given Mexico's track record of fiscal prudence and proactive debt management policies. - Risk indication: illustrated risk index values alternate between 0.00 and 1.00 in figure panels (as presented). ### B. External Debt Sustainability — Opening statement - "Mexico’s external debt as a ratio to GDP is comparatively low and is projected to continue to decline in" (text truncated in source). *Source: IMF staff (Annex IV. Debt Sustainability Analysis, as presented in the provided content).* ### 2023. The decline is mainly due to robust growth, as well as continued strong remittance inflows, ### 1mexea2023003 - 2023. The decline is mainly due to robust growth, as well as continued strong remittance inflows, ### Baseline projections for external debt - Gross external debt is expected to decline to around 26 percent of GDP by end-2023. - Drivers of the decline: - Strong nominal GDP growth (in U.S. dollar terms). - Robust remittances at levels well above recent historical averages. - Steady FDI. - Medium-term outlook: - External debt ratio is expected to remain broadly stable at around 26 percent of GDP. ### Downside risks and mitigating factors - Major downside risks: - Weaker-than-expected growth (due to global slowdown, domestic policy missteps, and/or climate-change related risks). - Sharp tightening of global financial conditions leading to a spike in risk premia on Mexico’s external debt liabilities. - Large currency depreciation and increased capital flow volatility. - Quantified currency-risk example: - A 30 percent depreciation of the peso in real effective terms could raise external debt to about 38 percent of GDP. - Mitigating factors: - Public sector external debt constitutes around two-thirds of Mexico’s external debt and benefits from: - Favorable maturity structure: more than 90 percent of debt has a residual maturity of more than one year. - Currency composition: around 30 percent of external public debt is denominated in peso. - Prudent debt management by the government. - Private sector external debt: - Concentrated in the non-financial corporate sector. - Mostly medium- and long-term maturities. - Foreign exchange risks are well-covered by natural and financial hedges. - Banking sector is well capitalized and liquid and assessed to be resilient to large shocks. ### External debt sensitivity and scenario outcomes (figure and table highlights) - Bound-test scenario outcomes (selected scenario outcomes as presented): - Baseline: 26 (percent of GDP). - Interest rate shock: 26 (percent of GDP) shown in figure context. - Historical scenario: 31 (percent of GDP) shown in figure context. - CA (current account) shock: 30 (percent of GDP) shown in figure context. - Combined shock: 29 (percent of GDP) shown in figure context. - Real depreciation shock (30 percent): 38 (percent of GDP). - Growth shock: 28 (percent of GDP). - Annex IV. Table 1 (selected rows, in percent of GDP unless otherwise indicated): - Baseline: External debt — 35.6 (2018), 35.6 (2019), 41.4 (2020), 34.1 (2021), 31.1 (2022), 26.1 (2023), 24.9 (2024), 25.1 (2025), 25.3 (2026), 25.5 (2027), 25.7 (2028). - Change in external debt: -1.1 (2018), 0.0 (2019), 5.8 (2020), -7.3 (2021), -3.0 (2022), -5.0 (2023), -1.2 (2024), 0.1 (2025), 0.2 (2026), 0.2 (2027), 0.2 (2028). - Identified external debt-creating flows (4+8+9): -2.1 (2018), -3.3 (2019), 0.7 (2020), -6.7 (2021), -4.3 (2022), -1.5 (2023), -1.2 (2024), -1.4 (2025), -1.9 (2026), -2.0 (2027), -2.1 (2028). - Current account deficit, excluding interest payments: 0.2 (2018), -1.6 (2019), -4.2 (2020), -1.1 (2021), -0.4 (2022), 0.1 (2023), 0.1 (2024), -0.3 (2025), -0.6 (2026), -0.5 (2027), -0.5 (2028). - Deficit in balance of goods and services: -80.2 (2018), -77.4 (2019), -77.5 (2020), -83.2 (2021), -88.3 (2022), -2.8 (2023), -3.0 (2024), -2.8 (2025), -2.5 (2026), -2.5 (2027), -2.6 (2028). - Exports: 39.1 (2018), 38.5 (2019), 39.6 (2020), 40.6 (2021), 42.7 (2022), 35.6 (2023), 34.0 (2024), 33.9 (2025), 34.1 (2026), 34.3 (2027), 34.4 (2028). - Imports: -41.2 (2018), -38.9 (2019), -37.9 (2020), -42.6 (2021), -45.6 (2022), -38.4 (2023), -37.0 (2024), -36.7 (2025), -36.6 (2026), -36.8 (2027), -37.0 (2028). - Net non-debt creating capital inflows (negative): -2.2 (2018), -2.4 (2019), -2.1 (2020), -1.8 (2021), -2.0 (2022), -2.1 (2023), -2.1 (2024), -2.2 (2025), -2.3 (2026), -2.4 (2027), -2.5 (2028). - Automatic debt dynamics 1/: -0.2 (2018), 0.7 (2019), 6.9 (2020), -3.9 (2021), -1.9 (2022), 0.5 (2023), 0.8 (2024), 1.0 (2025), 1.0 (2026), 1.0 (2027), 0.9 (2028). - Gross external financing needs (in billions of US dollars): 97.1 (2018), 97.9 (2019), 64.9 (2020), 89.2 (2021), 83.9 (2022), 104.1 (2023), 106.9 (2024), 94.4 (2025), 91.6 (2026), 98.7 (2027), 94.7 (2028). - In percent of GDP (selected): 7.7 (2018), 7.5 (2019), 5.8 (2020), 6.8 (2021), 5.7 (2022). - Scenario with key variables at their historical averages: 26.1, 26.3, 26.8, 28.0, 29.3, 30.8 (presented in table context). ### Corporate-sector stress, resilience, and modeling insights - Macro-financial shocks faced: - Sequential shocks: real-side pandemic shocks to demand and supply followed by financial-side shock from high interest rates. - Mexican policy rate: 11.25 percent (currently, highest level since its introduction 15 years ago). - Private short-term debt rates approached 12 percent. - Previous post-GFC peak short-term rate was 9.3 percent during the previous hiking cycle. - Corporate performance and emerging pocket of risk: - Median firm ROA: strong recovery in 2021 and held through 2022, registering at the top of the post-GFC range. - Share of firms reporting negative profits fell from near 20 percent in 2020 to about 3 percent. - Interest coverage ratios (ICRs) improved during recovery, but: - The share of companies with an ICR below one increased in 2022, unlike other LA5 economies (Brazil, Chile, Colombia, Peru), indicating an emerging high-risk subset. - Moody’s EDFs: - Median EDF spiked during the GFC, fell in low interest rate period, rose during 2016-18 hiking cycle, remained elevated through the pandemic, and fell since a peak in 2022Q3 toward pre-pandemic levels. - The 90th percentile of the EDF distribution plateaued during the pandemic, began rising in 2022, and continued through 2023Q2, with risks comparable to the GFC for this high-risk tail. - Modeling approach and findings: - Dataset: - Capital IQ: more than 70 thousand observations; average of 100 Mexican firms per year over 2000-2022. - Moody’s EDFs: more than 10 thousand EDFs for LA5 economies from 2000-2022; 80 Mexican firms in an average year. - Matched dataset: over 7 thousand observations; average of 60 Mexican corporates per year. - Macro variables included: GDP growth, the Financial Conditions Index (FCI) and its lag, short- and long-term interest rates. - Modeling challenges: - Heterogeneous firms, thick-tailed distributions, outliers, data missingness. - Need for robust, nonlinear methods; cross-validation for out-of-sample assessment. - Model selection: - Candidate models: elastic net, decision tree, K-Nearest Neighbors, Random Forest (RF); neural networks excluded for dataset size concerns. - Random Forest consistently outperforms other methods across CV grouping methods and country pooling choices. - Model performance deteriorates significantly outside the estimation set, especially across countries and time periods—supporting caution in pooling across countries. - Key drivers identified by RF and Shapley-value analysis: - Most important variables: ICR (interest coverage ratio), leverage, profitability (ROA), earnings to short-term liabilities, firm size, and interest rates. - Nonlinear and interaction effects: - ICR: risk declines sharply as ICR improves from 0-3 and flattens above 3. - Leverage: roughly linear relationship with risk; beneficial effects of low leverage are greater for firms with low ROA. - Evolution of corporate risk through the pandemic: - 2020: risks rose dramatically driven by elevated leverage and deteriorating interest coverage ratios; general financial conditions (IMF’s FCI and its lag) further contributed to corporate challenges. - Long-term interest rates in 2020 eased relative to a trend affected by prior tight policy, contributing to lower corporate risks in that dimension. *Source: 1mexea2023003 - 2023.* ### 15. Risks since 2020 have eased as profitability recovered but tighter monetary policy is ### 15. Risks since 2020 have eased as profitability recovered but tighter monetary policy is ### Corporate sector risk evolution since 2020 - Firm fundamentals improved through the recovery: interest coverage ratios (ICRs) improved on lower interest rates and a resumption of revenues; ICRs improved again in 2022 and leverage improved, resulting in another substantial risk reduction. - The long-term interest rate is now exerting a countervailing influence; with the pandemic fading further from view, high interest rates will continue to exert an aggravating factor to corporate default risk in 2023 and until domestic and global conditions can ease. - Interest rates have reduced but not fully offset factors bringing risks down in 2022; some beneficial trends will ease in 2023, so interest rate risks merit ongoing scrutiny. ### High-risk firms and distributional dynamics - Risks rose in 2022 for the highest-risk quintile of firms, bucking the overall downward trend. - Model-based aggregates show the top 20 percent of firms now see risks close to where they were at the time of the pandemic. - For these high-risk firms: - Interest rates are placing stronger pressure on interest coverage ratios. - Liquidity is under pressure. - They have poor ICRs, leverage, and liquidity, and tend to be smaller. - Relative to the average Mexican corporate, these firms see similar macro environment contributions (small in absolute magnitude) but worse firm-specific metrics. - Policy implication: distressed high-risk firms could impinge on growth, employment, and banking-sector health; monitor developments carefully and consider interventions if a higher-for-longer interest-rate scenario materializes. ### Key statistics and qualitative signals from the corporate analysis - The top 20 percent of firms (high-risk quintile) returned to risk levels close to pandemic times by 2022. - Interest coverage ratios improved in 2022 for the average Mexican corporate, contributing to aggregate risk reduction, while long-term interest rates are offsetting some of these improvements. - Distressed firms may foreshadow broader vulnerabilities when debt maturities are rolled over in the medium term. ### Energy and climate context (Annex VI) - Energy is at the origin of almost two thirds of greenhouse gas (GHG) emissions in Mexico (energy industries emit 25 percent of GHG; energy used by other sectors—predominantly transport—amounts to another 39 percent). - The share of agricultural emissions declined from 25 percent in 1990 to 18 percent in 2021; waste increased from 9 percent in 1990 to 11 percent in 2021. - Oil production and exports: - Current production is about 40 percent below its peak level (peaked in 2005–2006). - The 2022 crude oil and condensate reserves were at around 6 billion of barrels and these were about 60 percent below their 2006 level, albeit these are ticking up slightly in first half of 2023. - The oil balance is now negative of 1-2 percent of GDP, versus a positive balance around 2-4 percent of GDP in the 2000s. - State involvement: - PEMEX controls about 95 percent of oil production. - Comisión Federal de Electricidad (CFE) operates the grid and holds a dominant share of electricity production. - The authorities paused the 2013 energy reform and have taken regulatory actions favoring Pemex and privileging CFE’s brown energy generation over cheaper green energy sources. - Renewable potential: - National solar PV capacity potential could generate about 50,000 TWh/yr or more than 100 times the electricity demand. - Wind capacity potential could generate about 15 times the electricity demand. - Mexico accounts for 1.4 percent of global emissions as of 2020. ### Climate policy targets and instruments - In November, the authorities tightened the unconditional CO2 emission reduction target from 22 to 30 percent by 2030, and the conditional target from 36 to 40 percent. - Federal carbon tax: - Levied on emissions in excess of the emission rate of natural gas and is stable at 3.3 USD/ton. - Emissions Trading System (ETS) is at a pilot phase and is not expected to generate revenues before 2025. - State-level carbon taxes exist (e.g., Zacatecas, Queretaro, Yucatan, Durango) but effective taxation rates remain modest. - Policies to raise electric vehicle sales to 50 percent by 2030 include an exemption of the new vehicle sales tax and a progressive levy of 2 to 17 percent of the vehicle value. - Authorities launched a plan to foster green finance and initiated efforts to issue green bonds to support green public spending projects. - Pemex has initiated a carbon emission restraint plan with reduction of gas flaring and scaling up cogeneration. ### Climate-change-induced risks to fossil-fuel production - Under the IEA net-zero-by-2050 global scenario, global oil production would shrink by almost one fourth from 2022 to 2030, with steeper declines thereafter; oil prices could fall to USD 25 to 30 by 2030 and to USD 15 by 2050 in illustrative scenarios. - At WTI prices of US$80 per barrel, about one sixth of Mexico’s current oil fields would be non-economic when including the profit-sharing tax and sunk investment costs. - By 2030, oil production costs could be more concentrated around USD 25 to 35 per barrel (abstracting from sunk investment costs). - In an illustrative net-zero scenario with oil price at USD 30: - Oil production would be divided by 2, and revenues by 5. - In the IEA Stated Policies Scenario (STEPS): - Oil price would decline to USD 68, oil production in Mexico would decline by one fourth, and real oil revenues by one third. - By 2050 in the IEA net-zero scenario, global oil production could be about one fifth of current production, severely limiting Mexico’s oil prospects. ### Climate impacts via natural disasters and adaptation - Frequency of high-intensity tropical cyclones, floods and droughts are expected to increase with global warming. - Economic impact estimates: - A sequence of adverse cyclones and floods in a high-emission scenario could reduce GDP by 2 percentage points (Dolk, Laliotis and Lamichhane, 2023). - Severe droughts like those affecting about 15 percent of municipalities in 2021 can cost about 0.5 percentage points of GDP (Banxico, 2022). - Authorities established an adaptation plan with 27 lines of action across 5 themes: (i) prevention of adverse effects on population; (ii) resilience of production including food; (iii) biodiversity and ecosystem protection; (iv) integration of water management; and (v) protection of strategic infrastructure and heritage. ### Climate mitigation policy options and modeling results - IMF-ENV global Computable General Equilibrium (CGE) model analysis (using the 2022 NDC update baseline, with 2013 as reference year) evaluates two policy scenarios: - ICPF for Mexico only: a broad-based carbon price floor only in Mexico while rest of world continues current policies. - ICPF for all: a global carbon price floor modeled as each country implementing either the ICPF floor or their NDC carbon price commitment, whichever is larger. - Under the ICPF proposal, Mexico (as a middle-income country) gradually implements a carbon price floor of USD 50 per ton of CO2-eq emissions by 2030, with carbon revenues assumed to reduce distortionary wage taxes (budget neutral). - Model outcomes: - A unilateral carbon price floor in Mexico at USD 50/tCO2-eq by 2030 reduces GHG emissions by 34 percent relative to baseline by 2030 and keeps Mexico on track to reach its 2030 NDC target. - This emission reduction entails a modest output cost of 0.9 percent of GDP level by 2030. - Modeling caveats: - Results are subject to uncertainties related to behavioral responses, technology, innovation, and policy design. - Alternative model exercises suggest sensitivity to recycling mechanism; in some cases higher carbon taxes may be needed and marginal output effects could be slightly positive. *Source: IMF staff report content (chapter and Annex VI excerpts).* ### 12. Scale of global decarbonization has cost spillovers in Mexico through changes in ### 12. Scale of global decarbonization has cost spillovers in Mexico through changes in international fossil prices ### Effects of coordinated global decarbonization on Mexico - Under an internationally coordinated mitigation action (the second policy scenario), higher global decarbonization reduces global reliance on and demand for fossil commodities, imposing downward pressure on world prices of crude oil and natural gas. - As a result, fossil-exporting countries face additional costs via reductions in fossil revenues. In Mexico, the output cost when all countries are decarbonizing is 1.4 percentage point of GDP relative to baseline by 2030. - Emission reduction in Mexico is marginally smaller under coordinated mitigation because a slightly lower oil price dampens the carbon price effect. - Despite the above, coordinated global mitigation maintains Mexico on its NDC goal. ### Labor market impacts and reallocation under carbon pricing - Policy recommendation: Mitigation policies should be complemented by active labor market policies to facilitate job transitions as workers are displaced from fossil-fuel industries. - Model-based simulations with very few labor mobility frictions illustrate the scope of reallocation in employment from carbon-intensive to low- or no-carbon sectors. - Key employment impacts (changes relative to business-as-usual, sectoral patterns): - Total employment impacts in Mexico are similar across the two modeled policy scenarios, but sectoral impacts differ. - Power generation sector employment increases by about 32 percent in both scenarios. - Shift from brown to green power implies an increase of about 0.1 percent in the initially low share of labor employed in green power and a small reduction in brown power sectors. - Employment share in fossil extraction sectors falls by about 0.1 percent relative to baseline. - Labor shares of energy-intensive and trade-exposed (EITE) sectors see the largest reduction when Mexico unilaterally follows mitigation policies because producer prices for energy commodities rise with a carbon price; when all countries follow ICPF, losses are partly offset because trading partners also see energy price increases. - The share of labor employed in services and non-EITE manufacturing sectors increases under carbon pricing. - Social and policy implications: - Education and training policies are needed to enable swift worker reallocation and preserve social cohesion, since low-skilled workers will generally be more affected by climate mitigation policies. ### IMF-ENV model: structure, data inputs, and core mechanisms - Model type and scope: - Recursive dynamic neo-classical global general equilibrium model built primarily on GTAP V10 database. - Central database inputs: country-specific input-output tables for 141 countries and 65 commodities and real macro flows; GTAP V10 is based on data from 2014. - Model links firms, households, and markets; captures bilateral trade flows and international inter-linkages. - Production, trade, and factor assumptions: - Output production implemented via nested constant-elasticity-of-substitution (CES) functions to capture substitutability across inputs. - International trade modeled with Armington specification (goods differentiated by region of origin) using a full set of bilateral flows and prices by traded commodity. - Primary factors of production are not mobile across countries; intermediate inputs follow trade specification. - Capital and labor dynamics: - Features vintage capital stocks: new investment is flexible across activities; existing capital is mostly fixed and costly to reallocate, producing lower short-run elasticities of substitution than in the long run. - Labor (and land) market frictions are limited: in each year labor (land) can shift across sectors with no adjustment cost until wages (land prices) equalize; labor supply responds with some elasticity to net-of-taxes wage rate. - Environmental linkages: - Emissions linked to economic activities either with fixed coefficients (e.g., fuel combustion) or with emission intensities that decrease nonlinearly with carbon prices via Marginal Abatement Cost (MAC) curves (applies to non-energy input uses and output processes). - Model does not consider potential radical long-run technological innovations (e.g., hydrogen, second generation nuclear and biofuel, carbon capture and storage), which may cause the model to overestimate very long-run decarbonization costs. - Temporal horizon and uses: - The model projects up to 2030 an internally consistent set of economic, sectoral, trade-related, and environmental trends (greenhouse gases and air pollutants). - Uses: scenario analysis of structural change drivers (technological progress, living standards, preferences, production modes) and quantitative policy assessment of instruments for reaching given targets like GHG emission reduction. ### Key quantitative figures and episodes referenced - Output cost to Mexico when all countries decarbonize: 1.4 percentage point of GDP relative to baseline by 2030. - Power sector employment increase: about 32 percent in both mitigation scenarios. - Change in labor shares: - Increase in green power labor share: about 0.1 percent (from an initially low base). - Reduction in fossil extraction labor share: about 0.1 percent relative to baseline. - IMF-ENV data and coverage: GTAP V10 database covers 141 countries and 65 commodities; version 10 is based on data from 2014. - Selected FX intervention historical amounts (contextual episodes described in the source): - U.S. dollar auctions: October 2008 to April 2010: US$30 billion; November 2011 to April 2013: US$0.6 billion; December 2014 to February 2016: US$28 billion. - Banxico FX spot sale (February 2009): US$1.8 billion. - Federal Reserve swap-line liquidity via Banxico (April 2009): US$3.2 billion. - NDF mechanism introduced for up to US$20 billion; total allotted US$5.5 billion. - NDF use during COVID-19 period: US$2.0 billion. *Source: IMF staff chapter text and IMF-ENV model description.* ### 5. External buffers remain more than sufficient to support credible and effective policy ### 5. External buffers remain more than sufficient to support credible and effective policy responses in the face of shocks, strengthening market confidence ### External buffers and policy space - Mexico’s international reserves have remained adequate, with the Fund’s Assessing Reserve Adequacy (ARA) metric around 120 percent, well above the 100 percent of adequacy level. - The Fund’s Flexible Credit Line (FCL) continues to provide an additional buffer and signals very strong economic fundamentals and sustained policy track records. - These buffers increase policy space to respond to shocks, which in turn helps avoid disorderly shifts of market sentiments at the time of market stress. - The policy rate should continue to be the primary instrument to anchor inflation expectations. ### Use cases and constraints for FX intervention (FXI) under the Institutional View / IPF - Use cases for FXI under the IPF remain limited to exceptional circumstances in line with the Mexican authorities’ policy framework. - Policymakers would need to scrutinize the best information available, with judgement, to assess the impact of shocks in the context of frictions at that time. - Given the limited IPF frictions identified at this juncture, it would be critical to monitor if large shocks increase such frictions. - Consistent with the fully flexible exchange rate regime and inflation targeting framework, the use of FXI would be limited to the cases in which there is a clear disruption in the proper functioning of the FX market. - Market liquidity and depth should be carefully monitored through various indicators, including: - bid-ask spreads, - market volatility and skewness, - UIP premia, should shocks materialize. --- ### Annex VIII. Leveraging the Anti-Money Laundering Efforts to Support Anti-Corruption Efforts ### A. Interaction between Mexico’s AML and AC Frameworks - Corruption and money laundering (ML) are symbiotic as they tend to co-occur and reciprocally reinforce each other. - Enhanced due diligence measures applicable to Politically Exposed Persons (PEPs) and the filing of Suspicious Transaction Reports (STRs) by reportable entities could help detect and prevent corruption. - Corruption can undermine the proper functioning and effectiveness of the AML/CFT framework (e.g., independence and governance of AML/CFT institutions). - Coordinated AML and AC frameworks can limit the macroeconomic impact of financial crimes and help ensure sustainable and inclusive economic growth and a conducive investment environment. - The 2020 National Risk Assessment on ML and terrorism financing ranked laundering of corruption proceeds among the highest risks in Mexico; preliminary results from the most recent update confirm that corruption remains among the highest ML threats. - The National Anti-Corruption System (SNA) was introduced following 2015 reforms; the SNA Coordination Committee comprises seven national institutions, with the Financial Intelligence Unit (FIU) and AML supervisors (Comisión Nacional Bancaria y de Valores or CNBV and Servicio de Administración Tributaria or SAT) indirectly represented through the Ministry of Public Administration (MPA). - The SNA Coordination Committee approved the National Anti-Corruption Policy (PNA) in January 2020 and the National Implementation Plan in January 2022. - Policy coordination recommendations: - PNA priorities and implementation plan benchmarks should reflect AML measures and close coordination with AML authorities. - At the operational level, the MPA, FIU, and AML supervisors should exchange information and cooperate, drawing on synergies between mandates to enable joint action against corruption and its proceeds. - Ensure AML and AC policies are coordinated to fully utilize mutually reinforcing effects, given the importance of financial intelligence and the role of banks and other gatekeepers. ### B. Laundering of Proceeds of Corruption and AML Preventative Measures - PEPs are subject to enhanced due diligence under Mexico’s AML framework; CNBV has criteria and guidance and a list of PEPs published by the Ministry of Finance and Public Credit to aid compliance. - CNBV findings on implementation gaps for PEP-related enhanced due diligence include: - inadequate risk assessment and monitoring of transactions relative to PEP roles and responsibilities, - failures to determine PEPs that may be controlling legal entities, - reliance on outdated lists of PEPs, - documentation and information quality issues. - Designated Non-Financial Businesses and Professions (DNFBPs)—such as lawyers, notaries, accountants, real estate agents, or Trust and Company Service Providers—are not legally obliged under Mexico’s AML legal framework to carry out due diligence checks in relation to PEPs. - The FIU indicated that it receives more than 340,000 STRs per year covering suspicions of money laundering and underlying financial crimes such as corruption or tax crimes. - Legal and implementation deficiencies for STRs: - Most technical deficiencies identified in the FATF Mutual Evaluation Report (2018) remain unresolved. - For financial institutions, issues exist with applicable timeframes and the level of suspicion required to trigger filing. - For DNFBPs, the existing obligation to file Notices should be amended to ensure comprehensive coverage and alignment with the FATF Recommendations. - Low levels of reports filed by DNFBPs and inability to effectively sanction such practices. - The overall AML regulatory and supervisory framework over DNFBPs requires substantial strengthening. - Recommendations to improve STRs and FIU capacity: - Address legal deficiencies and strengthen implementation of STR obligations. - Improve accuracy of customer data and application of minimum criteria for the “24-hours process.” - Improve the quality of information included in STRs (description of underlying operations and reasons for suspicion). - FIU should promote compliance with best practices on STR filing, prioritize STRs related to PEPs, and raise DNBFPs awareness. - Ensure FIU has adequate human and technological resources to screen and prioritize reports, given the large number received. - Misuse of legal entities (shell companies and front companies) is among the techniques most used in Mexico to launder proceeds of crimes, including corruption. - Beneficial ownership issues: - Implementation does not adequately ensure availability of beneficial ownership information. - CNBV identified significant issues in procedures followed by financial institutions to identify beneficial owners, including for PEPs. - Deficiencies in the collection and review of necessary data and documentation. - Prosecutors generally rely on their own analysis (legal structure, board minutes, field-based investigations) for determination of beneficial ownership. - Authorities should step up supervisory oversight and apply proportional and dissuasive sanctions for non-compliance. - Significant legal framework issues for DNFBPs regarding understanding legal and control structures should be addressed through legislative changes. - Tax-law-derived beneficial ownership information: - Amendments to the Federal Tax Code in November 2021, effective January 2022, introduced Article 32-B Ter requiring legal entities and service providers to obtain and report beneficial ownership information to SAT. - These rules were introduced to enable SAT to obtain such information upon request and report to foreign tax authorities under international tax transparency standards. - These tax-law-based obligations have not been used to date for AML purposes. - There is no specific database consultable by other competent authorities and regulated entities at SAT for the beneficial ownership information it can request; SAT does not verify the information. - Recommendation: introduce a beneficial ownership registry and establish processes to ensure information collected is accurate, adequate, and up to date. - Beneficial ownership information should be required to be collected and verified as part of the public procurement process. ### C. Prosecution of Money Laundering and Corruption - Jurisdiction and cooperation issues: - Money laundering cases are prosecuted by the Specialized Prosecutor Office for Organized Crime (Fiscalía Especializada en Materia de Delincuencia Organizada or FEMDO), which can carry out parallel investigations of money laundering and other financial crimes, such as corruption, if considered high impact. - The Specialized Prosecutor Office for Corruption (Fiscalía Especializada en Combate a la Corrupción or FMCCO) was established in 2019; it was expected to take the lead on corruption-related cases but has mainly dealt with matters relating to abuse of office. - Corruption and bribery cases are not among FMCCO’s top five categories of cases and it has not yet prosecuted any high-level corruption cases. - Recommendation: clarify jurisdiction between FEMDO and FEMCCO and provide for close cooperation to avoid fragmentation that would adversely affect effectiveness in prosecuting corruption cases and related money laundering. *Source: 1mexea2023003 - 5. External buffers remain more than sufficient to support credible and effective policy responses in the face of shocks, strengthening market confidence / Annex VIII. Leveraging the Anti-Money Laundering Efforts to Support Anti-Corruption Efforts* ### 15. The authorities should ensure that there are strict AC policies applicable to the law ### 15. The authorities should ensure that there are strict AC policies applicable to the law ### Assessment of corruption and law‑enforcement effectiveness - The level of corruption in Mexico can affect the functioning of the law enforcement system and undermines the capacity to investigate and prosecute corruption and money laundering. - The number prosecutions and convictions relating to corruption and money laundering is not commensurate with Mexico’s risk profile. - Confiscation and asset recovery should be seen as major policy objectives within the national AML and AC policies and implementation plans in order to ensure that crime does not pay. ### Key findings on institutional capacity and gaps - Law enforcement and the judiciary (both federal and state levels) require strict AC (anti‑corruption) policies applicable to them. - The authorities should take steps to increase resources, capacity, and expertise as well as ensure adequate budget of the law enforcement authorities. - On transnational corruption and foreign bribery: - Foreign bribery risks are relatively limited but, given the export-driven nature of the economy, further mitigating efforts are called for. - Among the 500 largest multinational enterprises (MNEs) in the world, only one multinational enterprise (MNE) is headquartered in Mexico. - Mexico has engaged in anti-bribery institutional and legal reforms and enhanced awareness of public officials to report foreign bribery. However, there has been no prosecution of foreign bribery cases. - While risks of laundering of proceeds of foreign corruption in Mexico are overall limited, they should be further mitigated. ### Policy recommendations (from the staff analysis) - Ensure strict anti‑corruption (AC) policies apply to law enforcement authorities at both federal and state levels, and to the judiciary. - Increase resources, capacity, and expertise of law enforcement authorities and ensure adequate budgetary support. - Prioritize confiscation and asset recovery within national AML and AC policies and implementation plans. - For foreign bribery and laundering risks: - Ensure adequate protection of reporting persons and promote effective enforcement of foreign bribery laws. - Facilitate reporting of suspicious activities from key gatekeepers, including in the non‑financial sector (e.g., real estate agents, lawyers, accountants), and ensure such reporting covers suspicions in relation to PEPs. - Introduce the relevant regulatory measures into the preventive and supervisory framework for the non‑financial sector — this should be seen as a priority. - Continue improving the availability, accuracy, and access to beneficial ownership information of companies to prevent their misuse for the laundering of foreign proceeds of corruption. *MEXICO: STAFF REPORT FOR THE 2023 ARTICLE IV CONSULTATION—INFORMATIONAL ANNEX, October 17, 2023; Supplementary information dated October 23, 2023.* ### 4. Looking forward, Mexico is encouraged to take further measures, inter alia, to ensure ### 4. Looking forward, Mexico is encouraged to take further measures, inter alia, to ensure ### Whistleblower protection, liability of legal persons, and enforcement of foreign bribery - A specific law providing for whistleblower protection of public and private sector employees that report suspicions of foreign bribery has not been enacted, though a draft bill was reported as being under discussion.6 - Obstacles to reporting by government agencies remain; for example, the tax authorities have difficulties in reporting or sharing suspicions of foreign bribery. - The liability of legal persons for foreign bribery is not clear under the current legal framework and the coverage of foreign bribery cases by the General Law on Administrative Responsibility needs to be further confirmed; the State-Owned Enterprises cannot be held liable for foreign bribery.7 - Mexico is yet to successfully conclude its first foreign bribery case. - The lack of proactive investigative measures in foreign bribery investigations poses challenges; according to the data available, there were only a few foreign bribery investigations in Mexico which did not progress to the prosecution stage. - It will be important to take stock of the impact of the nomination of a Specialized Prosecutor for Combatting Corruption (FECC) since 2019 on the investigation and prosecution of foreign bribery. - The authorities should take additional steps to prioritize detection, enforcement, and effective sanctioning of foreign bribery cases in line with the OECD WGB’s Phase 4 recommendations. ### Facilitation of proceeds of foreign corruption (concealment-side) and AML framework - Mexico’s AML regime helps prevent laundering of foreign proceeds of corruption. - The 2020 National Risk Assessment (NRA) recognized corruption, including transnational corruption, as a structural risk. - Specific guidance was subsequently released on corruption risks along with several related typologies. - The definition of Politically Exposed Persons (PEPs), which includes domestic and foreign PEPs, was further broadened following the 2018 Mutual Evaluation Report (MER) of Mexico to ensure its alignment with the FATF Recommendations and the Ministry of Finance and Public Credit issues a list of public officials that are considered PEPs.8 - The PEP provisions provide for enhanced due diligence, including close monitoring and possibility of verification of the source of funds and wealth. - The CNBV has specific inspection criteria relating to corruption and beneficial ownership customer due diligence obligations imposed on certain financial institutions. - The CNBV and Financial Intelligence Unit (FIU) also published guidelines on prevention and detection of corruption, including the risks and specific requirements relating to PEPs. - There were further improvements in the Federal Tax Code relating to the availability of beneficial ownership information in Mexico that carry the potential to enhance the capacity of the authorities to prevent misuse of legal vehicles in concealing the ownership of illicit assets and proceeds, including those stemming from corruption. - Mexico has also updated its NRA to expand its understanding of risks regarding the potential for misuse of the different types of legal persons based on complaints, criminal investigations, prosecutions, and convictions, as well as transnational requests. ### Findings and recommended actions to bolster prevention of laundering of foreign proceeds of corruption - As part of its risk-based supervision carried out by the CNBV, irregularities were identified in the application of the enhanced due diligence applicable to PEPs. - Issues with effective implementation of the enhanced due diligence with respect to PEPs include: - issues with effective monitoring of PEPs in line with their risk profile; - issues with the identification and obtaining of information on PEPs that are beneficial owners. - Significant deficiencies have been found by the CNBV in the development of procedures and identification of beneficial owners by financial institutions, including collection of the necessary data and documentation. - The CNBV found that the STRs submitted by financial institutions do not always include all the relevant fields and improperly implement best practices issued by the FIU. - The obligations regarding filing of Notices by the DNFBPs need to be amended to ensure compliance with the FATF Recommendations, particularly FATF Recommendation 23, and thus the relevant legal reform pending in the Mexican Congress should be approved and enacted without any further delays.9 - The authorities should, as a matter of priority, introduce the regulatory and supervisory framework over the DNFBPs in line with the risk-based approach mandated by the international standards. - The CNBV should put greater emphasis on the risk of misuse of legal entities to conceal payment of bribes and cross-border transactions relating to possible corruption proceeds as part of its risk-based supervisory priorities. - The authorities should pursue parallel money laundering, corruption, and related organized crimes investigations and prosecutions including when corruption is committed abroad, and cases of non-compliance should be subject to effective sanctions mechanisms. - The available international exchange mechanisms should be utilized to a greater extent in detecting and investigating foreign bribery. *Source: 1mexea2023003 - 4. Looking forward, Mexico is encouraged to take further measures, inter alia, to ensure* --- _Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1mexea2023003.pdf_