Markets react swiftly as Mexico's judicial reform advances

Markets reacted immediately after it emerged that the proposal for Mexico's judicial reform could be presented to the lower house on August 15.

The lower house's constitutional affairs commission reported the proposal will be prepared starting August 9. Ignacio Mier, coordinator of ruling Morena party's lower house lawmakers, was reported as saying that the reform schedule will be approved on August 1, but not the reforms.

However, it remains most likely that the judicial reform, part of a major constitutional overhaul dubbed Plan C and advanced by the outgoing President Andrés Manuel López Obrador administration, will be debated and voted on in September, which has generated fears about the deterioration of legal certainty.

Morena won a majority in the June 2 elections. Congress' new term will start September 1, but the next government, led by Claudia Sheinbaum, will take office October 1.

The Mexican peso was the most depreciated currency against the dollar on Tuesday. Gabriela Siller, director of economic analysis at Grupo Financiero Base, wrote on social network X that the depreciation was “due to the news that in August they will define the approval route. This reform generates a lot of fear and every time there is news about it, the exchange rate rises.”

On Wednesday, the local currency was once again the most depreciated against the dollar early in the day, due to the planned reform but also because of Tesla's move to postpone the decision on building a plant in Mexico until after the US elections on November 4 and the publication of data on inflation, which rose again, according to Siller.

Investor sentiment

In a note, Fitch Ratings said, “the proposed judicial reforms in Mexico could negatively affect the investment appetite and business environment of non-financial corporates if their implementation impedes the autonomy and quality of the judicial system.”

The rating agency, which last week ratified Mexico's long-term sovereign debt rating at 'BBB-', said that while these modifications presumably aim to improve the fairness and efficiency of the judicial process, the changes to the selection method of judges have generated concern among investors about judicial impartiality in resolving conflicts between government authorities and companies.

“Additionally, Morena’s increased influence could shift the balance of power among the State's executive, legislative and judicial branches to the president, allowing for potential weakening of checks and balances,” Fitch added.

The most significant reform would replace the presidential selection of the supreme court, magistrates and local district judges with election by popular vote.

Fitch highlighted that the potential for imminent economic, regulatory and judicial reforms in Mexico has led to greater investor uncertainty and greater short-term market volatility.

“The Mexican peso depreciated against the US dollar as much as 10% after the election, although the initial shock has reversed as market participants have tempered concerns of the election results. In addition, risk aversion increased among investors, causing the yield on the 30-year Mexican bond to increase from 9.82% on May 31 to 10.3% on July 16,” the note said.

Both trends can impact the cash flow generation and leverage indicators of companies, due to higher interest expenses and the negative effect of currency depreciation on demand and certain costs.

“We believe that these reforms in general would negatively affect Mexico's institutional profile, but it is too early to evaluate the potential severity before their approval and implementation,” Fitch said.

A material deterioration of the judicial framework or a weakening of government checks and balances could moderate domestic and foreign investment appetite if the regulatory environment and legal framework are considered uncertain, it added.

“This may affect nearshoring opportunities that shift manufacturing closer to the US end market, particularly for sectors with exposure to manufacturing, export-oriented industries and industrial real estate.”