Introduction
Strong U.S. growth and the reopening of sectors due to the pandemic are driving the Mexican economy’s recovery from its decades-old darkest recession. Real GDP is anticipated to increase by 6.2% in 2021 and 4% in 2022 after contracting by 8.3 percent in 2020 (Ventosa‐Santaulària et al., 2020). Nevertheless, COVID-19 significantly negatively impacts Mexico’s social, economic, and humanitarian well-being. Nearly half a million extra deaths have occurred, underemployment is still at alarmingly high levels, and poverty levels that were already high prior to the pandemic have increased even higher. Moreover, young people have suffered significant learning deficits, possibly damaging long-term effects.
With a focus on controlling debt, the administration has prioritized a conservative financial position. In 2021, the overall deficit objective was 4.2% of GDP, with higher budgetary allocations for public investment and health care (Ventosa‐Santaulària et al., 2020). An estimate places the public sector’s total debt at almost 60% of GDP (Ventosa‐Santaulària et al., 2020). The central bank increased the interest rates to 4.75% due to inflation being much higher than its aim. The current account has declined and is almost balanced after surging to a record excess of 2.4% GDP in 2020 (Ventosa‐Santaulària et al., 2020). The banking industry has robust capital levels, with nonperforming loans making up only 2.4 percent of all loans. With the current general allocation of SDRs, international reserves are still favorable.
The Monetary Authority
The monetary authority of Mexico is the Bank of Mexico, also called Banco de México in Spanish. The primary goal of the Bank of Mexico, which has complete autonomy in carrying out its duties, is to stabilize the economic output of the country’s currency. Under the leadership of Finance Minister Alberto J. Pani, the Banco de México was established on August 25, 1925, and a formal ceremony was held on September 1 of the same year (Del Angel & Pérez-Hernández, 2021). It was given sole authority to produce banknotes and manufacture coins, a radical change from previous practices. Additionally, the bank was given control over interest rates, exchange rates, and financial regulation.
Retail banks had the choice not to work with Banco de México. Its managerial and operational autonomy from the executive branch is the nation’s central bank. This freedom is provided to the bank by its current charter, which was established on April 1, 1994 (Del Angel & Pérez-Hernández, 2021). Following its charter, the Bank of Mexico’s fundamental goal is to maintain low and steady inflation while pursuing the sustainability of the buying power of the national currency.
How Mexico Engages in Monetary Policy
The central bank selects a set of goals and working factors to complete its work based on preferences, the level of independence and credibility of the central bank, the amount of previous and present inflation, and the extent and growth of the economy, among other factors. The Banco de Mexico has worked to establish its resolution cash goal every day to meet the claim for currency since the start of the 1994 peso depreciation and the accompanying fiscal crisis to the current day. However, the crisis resulted in a theoretical devaluation of the currency rate of 100%, significant and fluctuating price rises, and, initially, a severe real economic downturn. The issue was made much more difficult by the wildly fluctuating opinions of Mexico’s prospects overseas.
In terms of Mexico’s current monetary policy, daily cash inflows and withdrawals are conducted within the constraints of zero liquidity for commercial banks’ central bank accounts. Banks are sure they can hyperbolize or contribute to their monetary authority accounts if there are inadequate or surplus reimbursement funds during any particular day due to the features of the Mexican settlements system. Due to the daily aiming processes and the near synchronization between the Treasury and the bank, imbalances are relatively manageable in practice.
In numerous academic articles, the transmission mechanisms of the Mexican economy have been thoroughly examined. These channels have a strong connection to how open the economy is. Pricing in Mexico has a longstanding experience of being currency rate-sensitive. Current bank operations, eliminating interest rates, amounted to 34% of GDP in 1993, 38% by 1994, 58% in 1995, and 60% in 1996 (Argente et al., 2020). Over seven months, a 10% increase in salaries results in a 6% increase in the price level, whereas a 10% decline in the exchange rate results in a 4.5% rise in the price level over the ensuing eight months (Argente et al., 2020). The behavior of the exchange rate and wage growth in Mexico is closely related to the development of prices.
Priorities and Overall Objectives
Central bank independence, a price control system aiming for 3% inflation, effective convergence of inflation to the target, and transparency and accountability are some of the functions and priorities of monetary policy. The monetary policy is responsible for implementing and creating optimal conditions for economic expansion, which leads to achieving steady and notably low inflation levels. The Mexican economy expanded at an average rate of 2.8 percent between 2010 to 2018.
However, in recent years, the economy has been damaged by the decline in oil prices in 2019 and the worldwide economic crisis brought on by COVID-19 in 2020 (Davymuka & Fedulova, 2020). The economy is anticipated to expand in 2022. The Mexican government’s monetary policies and economic development strategy will support this expansion. As a result of the establishment of welfare programs and access to financial services, this strategy involves a convergence of domestic consumption, increased public funding, and increased production due to the reorganization of world trade.
Monetary policy ensures central bank independence. Banco de México marked 25 years of autonomy in 2019 (Meza, 2019). The sustainability of the purchasing power of the Mexican peso has been its primary constitutional mission during this time. The central bank statute also stipulates that no government agency may request loans from Banco de México. This provision gives the central bank complete control over the conditions under which it provides base money. These factors protect the central bank from immediate political demands. A governing board that is free from outside constraints is required by governance frameworks, which are essential for central bank independence.
The monetary policy prioritizes and is responsible for transparency and accountability. Implementing an open and unambiguous communication plan with the public is a crucial component of the success of the inflation-targeting system used by Banco de México as a basis for implementing monetary policy since 2001 (Meza, 2019). The Banco de México has been working hard to enhance this approach and increase the Institution’s independence through stricter accountability standards. The Banco de México uses a variety of communication channels to keep the public informed about its goals, projections, and monetary policy choices. Transparency is crucial for a central bank to uphold its reputation as a trustworthy institution and carry out its constitutional duty to pursue price stability.
Dominant Tools Utilized
The consequences of fiscal policy on the economy, an inflation targeting system, an operating interest rate target, and historical records of monetary policy implementation are some of the tools employed by the Mexico Bank. The promotion of price stability is currently acknowledged as monetary policy’s most effective means of promoting sustained growth, both in the academic world and among the world’s monetary authorities. Because of this, the central banks of numerous nations, including Mexico, have recently realigned their monetary policy goals to making price stability their primary objective. In most cases, this objective has been institutionalized by setting low-level inflation targets. Since prices are based on the demand and the supply for numerous commodities and services, the central bank has little direct control over them. However, the central bank may affect how prices are determined through monetary policy, helping it to reach its inflation target.
A central bank method called inflation targeting encompasses setting a rate of inflation as a goal and adjusting fiscal strategy to achieve that rate. Even though its advocates trust it will endorse economic steadiness and progress, inflation targeting primarily concentrates on preserving price solidity. An inflation targeting strategy can be viewed as an effective tool to constrain monetary policy and, as a result, to lower inflation after an economy reaches a stable fiscal position. The Banco de México’s reactions to inflation shocks have been in line with inflation targeting principles, resulting in the effective disinflationary process.
Data on the inflation target for 2020 indicated a value of 3.000 percent. This did not change from the previous figure for 2019 of 3.0% (Araujo & Botts, 2022). From December 2003 until 2020, with 18 observations, the average annual update for the Inflation Target data was 3.000 percent (Araujo & Botts, 2022). 2020 marked both the data’s record high and low, which were 3.000 percent (Araujo & Botts, 2022). Inflation Target data, which is now operational in CEIC, is still reported by the Bank of Mexico.
Utilizing a goal for the interim rate of interest paid in the money markets, Banco de México carries out its monetary policy. On January 21, 2008, the current rate of interest target system took effect, replacing the previous “Corto” system based on daily balances (Araujo & Botts, 2022). In a setting where the overnight rate is equal to the target rate, the rate target regime aims to create incentives for financial institutions to maintain their assets at the monetary authority with a zero balance at the intraday closure. Through these activities, Banco de México gives or retracts liquidity as necessary to maintain its target rate.
The historical records utilized by Banco de México to carry out its fiscal system include the monetary policy operations carried out under the daily balances framework and the cumulative daily balances regime. These records aid in illustrating the objectives of monetary policy, which include maximizing employment, maintaining price stability, and encouraging modest, long-term lending rates. The Federal Reserve Education can ensure stable prices, long-term productivity expansion, and full employment by adopting an efficient monetary policy.
Current Economic Issues Confronting Mexico
Political unrest and invasions from other countries discouraged external investment, taking risks, and innovation. After independence, most of the available capital remained with its Spanish owners. Many wealthy Mexicans invested their assets into physical, secure, and frequently unproductive property rather than investing in profitable businesses, thereby promoting economic growth. Local customs taxes that had impeded domestic trade were eliminated, rural banditry was subdued, and communications and transportation infrastructure were improved. This is a pressing issue because the country’s resources are heavily exploited to offset the risks.
Covid-19 has massively affected Mexico’s economy as it has brought job losses. Mexico’s gross domestic product (GDP) shrank in 2020 by the most in a quarter of a century as COVID-19 cleared the world (Davymuka & Fedulova, 2020). Subsequently, the Mexican economy evolved in two directions, with the service sector faltering and industries tied to foreign trade performing well. Employees in the unofficial area, where work is not disclosed to the state, and members do not pay income tax or get state-mandated pensions and other benefits, have been predominantly hard hit. GDP contraction is probably a result of the government providing insufficient fiscal stimulus.
Role of the Monetary Authority
Banco de México follows a general policy that directs its activities as a controller, administrator, consumer, and director of FMIs to fulfill its mandate. Due to the range of FMIs and their participants, these functions include a large assortment and variety of actions. As a controller, the central bank enforces regulations that pertain to FMIs and their users, examines emerging technologies that may be used to enhance the functionality and security of FMIs, and examines statistical data about the transactions carried out in FMIs to identify risks and possible enhancements. Cooperation with other authorities is required for these operations, mainly when many authorities are involved in regulating the infrastructure. Banco de México monitors FMIs and their members to adhere to stated rules. Furthermore, Banco de México serves as the SPIE, the nation’s most effective payment system operator.
Raised Per Capita Income
The GDP per capita increased by 3.2 percent between 1960 and 1982, indicating that its economy expanded more quickly than the U.S.’s, whose GDP increased by 2 percent annually between 1875 and 2010 (Avila-Lopez et al., 2019). However, as seen in figure 1, the 1982–1995 crisis resulted in a dramatic slowdown in economic development as a result of extensive policy adjustments implemented by the government. Until the COVID-19 pandemic, Mexico had continuous and parallel population growth to that of the USA from 1995.
Primary Deficit in Mexico
Until 1972, Mexico’s primary deficit was small but proliferated afterward. Due to seigniorage and foreign debt, it increased from less than 1 percent to almost 6 percent of the GDP in 1975. (Meza, 2019). In order to stabilize the primary deficit at 3%, Mexico had to devalue the peso in 1976 (López-Alonso & Vélez-Grajales, 2019). Then, as oil prices increased globally near the late 1970s, it identified substantial oil fields, which increased the central deficit.
The primary deficit, financed by debt and seigniorage, reached 8% by 1981. (Meza, 2019). Since the debt had to be repaid in foreign currency and some of it could not be paid due to depreciation in 1982, the country could not sustain its high level of debt. However, the government paid off the debt from 1983 to 1994 until the 1994 crisis, which had nothing to do with the financial debt (López-Alonso & Vélez-Grajales, 2019). The integrated budget constraint model predicts that under a government where fiscal policy is dominant, a primary deficit comes before a debt crisis and is followed by inflation.
Zero-Based Structural Balance Rule
The zero disparity between government revenues and expenditures, adjusted for effects that could be attributable to the economic cycle and one-time events, is known as the zero-based structural balance rule. Mexico’s current monetary policy operates under a zero-liquidity framework for commercial banks’ accounts at the monetary authority, with daily cash injections or withdrawals being conducted accordingly. The daily declaration by the bank of its objective for the total balance of banks’ assets at the monetary authority for the following day’s bazaar opening is a critical component of the zero mean reserve requirement system (Bianchi & Bigio, 2022). As a result, setting a zero aim for the growing balance, for instance, denotes an unbiased fiscal system, whereas moving toward a hostile target denotes a stiffening of monetary conditions.
Structural Revenues
The residual measurement mistakes of any form are called structural revenues. The existing tax bases vary from the macroeconomic indicators used to approximate them and under or overestimate tax elasticities. In Mexico, taxes on individual income, profits and gains, and property taxes account for a smaller share of total revenues. In contrast, social security contributions account for a far smaller portion of total revenues. Tax income in the country’s currency and increased income from payroll, value-added, goods and services, and corporate income taxes are other characteristics.
Conclusion
Over the past three decades, Mexico has underachieved regarding growth, inclusivity, and poverty reduction. However, by growing GDP per capita, reducing rising prices, and controlling the public deficit, its leadership has helped control the economy. However, due to supply chain constraints, an increase in COVID-19 instances, and weak investment, the recovery lost steam in the second period of 2021. The country will, therefore, need to address some of the most urgent pre-crisis obstacles to development and inclusion to ensure a better and more durable revival over the medium term.
References
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Ventosa‐Santaulària, D., Hernández‐Román, L., & Amezcua, A. (2020). Recessions and potential GDP: The case of Mexico. Bulletin of Economic Research, 73(2), 179-195. Web.