BBVA urges Mexico to up COVID-19 economic response

BBVA economists are calling on the Mexican government to reconsider deploying a countercyclical fiscal response to the COVID-19 crisis to cushion the economic impacts and accelerate recovery.

The new analysis from BBVA Research senior economist Arnulfo Rodríguez and BBVA Mexico’s chief economist, Carlos Serrano, comes after President Andrés Manuel López Obrador (AMLO) repeatedly rejected private sector proposals in April and early May involving large economic support for industry – the kind of big deficit spending being seen throughout most of Latin America.

Mexico’s economy is starting to reopen and both the good and the bad of AMLO’s austerity-focused crisis response is beginning to take shape, even as cases and deaths show signs of expanding into Mexico’s more rural states.

Statistics agency INEGI reported in early June that COVID-19 led some 12mn workers being at least temporarily unemployed, and millions will likely be forced into the informal sector. Mexico’s flagship auto industry is staring at massive declines in exports, and the sector is already showing signs of uncertainty regarding its ability to ramp up production safely while bringing the USMCA trade agreement with the US and Canada into effect on July 1. 

Now more than three months into the crisis, AMLO is beginning to signal openness to some additional inputs to enhance spending, such as the World Bank’s US$1bn development policy loan to the country, and BBVA suggests even a small amount of fiscal stimulus can go a long way in helping the recovery. 

Contraction of 7-12%

BBVA’s base case estimate for GDP growth in 2020 is -7%, dropping to -12% in a worst-case scenario. The bank’s 7% contraction estimate actually falls on the positive side of most estimates. Citibanamex’s most recent survey of bank economists, released June 5, showed a median estimate of 7.8% GDP contraction in 2020.

“We anticipate a very difficult picture for public finances starting this year,” wrote the BBVA analysts, adding that the SHRFSP, the finance ministry’s broadest concept of public debt, will show a significant increase as a proportion of GDP in 2020. 

GDP contractions, they said, of 7% and 12% would push the SHRFSP from 44.7% of GDP to 53.4% and 59.2%, respectively.

“The expected strong annual contraction in economic activity will be a highly determinant factor in this increase, both due to its direct impact and its indirect effects via tax collection,” wrote BBVA.

However, Serrano and Rodríguez said BBVA’s growth outlook would likely change if Mexico were to implement a new countercyclical fiscal response that could potentially make the recovery faster and more potent.

“Therefore, we suggest that the federal government seek to avoid a further drop in economic activity through a reallocation of public spending that expands the fiscal stimulus package announced to date," they wrote.

Limited response so far

The federal government has so far allocated a little over 1% of GDP in emergency loans to select individuals, microenterprises and SMEs, who must pay back the modest amount (about US$1,100) within three years. 

“A significant countercyclical fiscal response (which could be up to six percentage points of GDP and would help finance additional spending) … could also be given to help cushion the economic effects of the pandemic as long as it was accompanied by an announcement of a fiscal reform that would enter into force once the contingency was overcome,” the analysts wrote.

By establishing a tax reform to take effect after the crisis – one specifically engineered to pay off any temporary deficit – AMLO could be creating a convenient political exit strategy that would allow him to maintain his promise of acquiring no new debt in office.

Even though BBVA’s high-end suggestion of 6% of GDP would make Mexico’s fiscal response to the crisis among the largest in the region, it would still be less than Chile’s response or the much larger ones (+10%) of Peru or Brazil.

“With a countercyclical fiscal response such as the one suggested, not only would higher growth in public debt (% of GDP) and less room for fiscal maneuver be avoided, but it would also accelerate the economic recovery after the pandemic,” reads the analysis. “The greater economic recovery would result in a more sustainable public debt trajectory in the medium term, even in the event that such a countercyclical fiscal response is implemented.”

The analysts added, “A situation in which public debt was 65% of GDP and with more vigorous growth would be preferable to one in which said indicator was 60% but with a significant decrease in the potential growth rate.”