MINING IN MEXICO — Challenging times ahead for Mexico

Since the mid-1980s, Mexico has undergone an economic transformation in record time, a feat that few other developing countries can claim.

The change in Mexico’s economy from state control to an open market is both a tribute to President Carlos Salinas de Gortari and his predecessor, Miguel de la Madrid, and a reminder of the country’s all-too-recent financial woes. To appreciate how far Mexico has come in fewer than 10 years, a quick review of the country’s turbulent past is in order, as well as a preview of what challenges may lie ahead.

Ever since the Mexican Revolution of 1917, the Partido Revolucionario Institucional (PRI) has dominated the political landscape. As the de facto ruling party of Mexico, PRI has controlled both federal and state government for decades through financing party activities and the media. The party’s heavy hand has come under increasing attack for

influence-peddling and election tampering. But despite current political unrest, Mexicans have expected their government to ensure social justice in economic terms — or at least to limit U.S. influence in their business affairs.

Much of Mexico’s protectionist policy was set in place after the Second World War. Like most Latin American countries at the time, Mexico pursued a strategy of import substitution to bolster its domestic industries. By instituting high tariffs and other economic barriers to foreign products, the Mexican government effectively blocked imports. And such protectionism was only one element of a comprehensive nexus of nationalistic policies which managed most aspects of Mexico’s economic life.

During the 1950s and 1960s, this strategy worked remarkably well, achieving annual growth rates of almost 7%. But by the 1970s, the federal government started to rely on subsidies paid out of oil revenues and foreign borrowing to prop up what had become a failing system.

In 1982, virtually all commercial banks were nationalized. Yet this was no solution for years of government protectionism, a bloated federal budget and the collapse of the world oil market. In the early 1980s, Mexico was left with ballooning federal deficits, crushing foreign debt, triple-digit inflation, antiquated industries and escalating urban poverty. In 1985, de la Madrid began the painful process of rebuilding the Mexican economy, this time based on market orientation, not state control. When Salinas replaced him in 1988, the new PRI-sponsored president continued tearing down the old statist foundations.

Thanks to the reforms of de la Madrid and Salinas, more than 80% of the l,l55 state-run Mexican enterprises have been sold, merged, or closed to date. These include Telmex, the national telephone company; Aeromexico and Mexicana, the two national airlines; 18 commercial banks; and extensive holdings in food processing, fishing, automotive products, textiles, petrochemicals, paper products and construction materials.

The Salinas administration has directed government agencies and the remaining state enterprises to stop discriminating against foreign vendors. For example, Triton International of Houston was awarded the first turnkey drilling contracts by the Mexican oil company Petroleos Mexicanos (Pemex). Up until then, Pemex would allow no such lucrative contracts to go to foreign companies, substantially cutting down on the potential profits for U.S. or other oil investors.

In addition, price controls and technical specifications favoring domestic suppliers and cartels are being dismantled. Protectionist strategies in automobiles, computers and pharmaceuticals have almost gone by the wayside. Farmers on ejidos, the communal estates created by the land reform that began in the 1920s, are receiving title to their plots and may enter into ventures with foreign companies. Given such dramatic changes, the best Mexican companies have substantially improved their competitiveness, while the worst have disappeared.

Of course, Salinas and his successor must also transform the political process to make these economic reforms last. It’s virtually impossible to run an open market-oriented economy if businesses face arbitrary decisions by local regulators, judges must be bribed to protect property rights and the public lacks confidence in the government’s legitimacy.

Yet the new privatization has deprived PRI of the economic levers the ruling party once used to co-opt opponents and reward supporters. Although PRI faces intensifying pressures to share power with the Partido de la Revolucion Democratica (PRD) on the left and the Partido de Accion Nacional on the right, Salinas has had trouble convincing his own party to accept change. Salinas has made some efforts to clean up elections, but he cannot completely control local party officials who continue to fix them. Unless the public perceives that elections are clean — and that PRI campaigns are no longer unfairly financed by the government or business interests — PRI candidates will lack legitimacy, even when they win clear victories.

In 1991 and 1992, civil unrest, sparked by allegations of electoral fraud, forced Salinas to remove victorious gubernatorial candidates in three states. And Salinas himself, the leader of Mexico’s new technocratic elite, has been criticized for soliciting hefty PRI contributions from Mexico’s largest companies.

A free-trade agreement with the U.S. and Canada will only intensify pressures for political reform. But the North American Free Trade Agreement (NAFTA) provides Mexico with no blueprint for political transformation, especially when the party in charge of economic reform seems the most threatened by the future.

When Salinas steps down as president in 1994, he wants NAFTA to have been signed by all three member countries. Even so, his successor will confront not only a recalcitrant PRI but also an exploding trade deficit and nervous foreign investors. These challenges make NAFTA’s ratification critical to Mexico’s economic future.

The Mexican current account deficit topped $20 billion in 1992 and is expected to exceed $24 billion in 1993. So far, a steady flow of foreign capital has sufficiently covered most of the gap. However, most new foreign money has been invested in stocks and bonds and the expansion of maquiladoras. In fact, most foreign capital has yet to go where it’s really needed: directly into modernizing Mexico’s non-maquila industrial base. Clearly, the Mexican government has to do a better job of convincing foreign investors — and Mexicans with funds stashed abroad — that their assets will be safe in Mexico. A free-trade agreement will not only sweep away remaining Mexican barriers to imports and regulations on foreign investment, it should also assure nervous investors that future Mexican governments cannot easily return to the old ways of doing business.

In fact, NAFTA is not the only free-trade agreement on which investors can rely. Mexico and Chile have signed a free-trade agreement, which will phase out tariffs by 1998, and similar agreements with Colombia, Venezuela and Ecuador are in the offing.

Along with providing new markets within its own borders, Mexico could well become an export platform for newly opening markets throughout Central and South America. General Motors, for example, already exports Chevrolet Cavaliers from its Mexican manufacturing plants to Venezuela and is considering Mexico as its primary export base for Latin America. And Montreal-based Bombardier has acquired the previously state-owned Concarril, a Mexican subway-car manufacturer. Mexico’s free-trade agreement with Chile permits the Canadian transportation company to bid on subway contracts for Santiago, as well as to export lower-cost products to the U.S. Although Mexico has a reasonable chance of becoming a true multi-party democracy, its long history of political unrest suggests that real risk for foreign companies does exist. However, Mexico’s current economic reforms are beyond the point of no return.

Even if the next president is forced to share authority with PRD opposition on the left and enthusiasm for free trade dims, production and sales opportunities in Mexico will continue to grow, albeit less rapidly. — From a recent Harvard Business Review issue, written by Laurence Hecht, a consultant, and Peter Morici, a professor of economics.