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Economy far below expectations in June
In June,
economic activity increased 1.0% over the same month last year, according
to the global indicator for economic activity (IGAE, Indicador Global
de la Actividad Económica). The actual reading was well below
expectations, which had the economy growing at an annual 4.1% pace and was
also below the 3.6% annual growth rate recorded in May. The weak
performance in agriculture, which contracted 12.8% over June last year
amid weak rainfalls, was responsible for the surprisingly low June
reading. Moreover, a paltry 0.7% expansion of the industrial sector
further drove down economic growth in June. A month-on-month comparison,
confirms the weak reading. According to seasonally adjusted data, the
economy contracted a strong 1.19% over the preceding month, the biggest
monthly contraction registered in ten years, following on a 0.94%
expansion in May. Consequently, the upward trend that was observed during
the past three months was interrupted. In June, the annual average growth
rate dropped 0.3 percentage points from 4.0% in May to 3.7%.
June slump lowers growth below estimates
Owing to the
worse-than-expected June reading, second quarter gross domestic product
(GDP) growth of 3.1% came in significantly below market expectations of a
4.1% expansion. As recently as 1 August, the government had estimated the
economy to have expanded around 4.0% annually in the second
quarter. While disappointingly slow, the
second quarter growth pace was ahead of the paltry 2.4% expansion observed
in the first quarter of the year. However, according to seasonally
adjusted data, the economy actually contracted. The National Statistical
Institute (INEGI) reported a 0.42% contraction in seasonally adjusted
terms in the second quarter over the preceding quarter, the first
contraction in two years, following on 0.18% quarterly growth in the first
quarter.
Weak agriculture pulls down second quarter
growth
The weak June
reading in agriculture also affected the entire second quarter result.
The agricultural sector contracted 3.3% over the same quarter last year,
deepening the 1.5% contraction observed in the first quarter. Most of the
decline in agricultural production was due to unfavourable climate
conditions, as scarce rainfalls prompted farmers to delay sowing.
However, since agriculture accounts for only 5.5% of GDP, the impact on
total economic activity was therefore contained. Developments in the
industrial sector, which accounts for more than a quarter of total
economic output, were far more important for the dismal second quarter
result.
Industrial sector recovers but developments
in the manufacturing industry remain concern
Following on
a 0.2% decline in the first quarter, the industrial sector expanded by
2.9% in the second quarter. All four sub-sectors that constitute the
industrial sector improved compared to the first quarter. Mining
rebounded from an annual 1.1% contraction in the first quarter to a 2.8%
expansion in the second; construction growth accelerated from a 1.0% to a
5.0% pace, while electricity, gas and water bounced back with 1.4% growth
year-on-year, following on a 1.2% decline in the first quarter. The
fourth sub-sectir, industrial manufacturing, which constitutes the key
sector for the economy, was lifted from a 0.2% contraction in the first
quarter to a 2.6% expansion. Thus, industrial manufacturing resumed the
recovery from the 2003 recession initiated in early 2004 that was only
briefly interrupted in the first quarter this year. However the
year-on-year comparison is distorted by seasonal factors and seasonally
adjusted data paint a different picture, as the manufacturing industry was
the only industrial sub-sector that contracted over the preceding
quarter. The weak reading is of particular concern against the background
of positive developments in the U.S. manufacturing industry in the second
quarter and once more raises concerns that the Mexican economy has lost a
larger than expected market share in the United States to Asian
competitors. Within manufacturing, the so-called maquiladora
industry (in-bond manufacturing) is particularly important since it
directly serves the U.S. market and thus acts as a good indicator for
measuring to what extent Mexico is benefiting from economic growth in the
U.S. In the second quarter, activity in the maquiladora industry
grew 3.1%, which was less than half the 6.5% expansion in the first
quarter and the lowest pace in more than a year.
Services growth pace quickens
Services
expanded 4.1% in the second quarter over the same quarter last year,
unchanged from the first quarter. Commerce, restaurants and hotels
expanded 3.5%, which was a little above the 3.3% expansion observed in the
first quarter. Higher sales volumes related to the external sector and
increased hotel occupation levels accounted for the slight acceleration.
Growth in the transport, storage and communications sector slowed from the
exuberant 7.8% growth pace registered in the first quarter but remained
robust with a 7.1% expansion. According to INEGI, the sector profited
from strong growth of fixed line and cellular telephone services. Growth
in financial services and real estate, in contrast, accelerated from 5.1%
in the first quarter to 5.5%.
Dismal second quarter prompts downward
revision to full-year outlook
In the first
half of the year, the economy expanded 2.8% over the same period last
year. The government expects economic activity to accelerate in the
second half of the year, as job growth and bank lending should continue to
drive up domestic consumption. Nevertheless, on 23 August, the Finance
Ministry lowered the previous forecast of 3.8% GDP growth for the full
year to 3.5%. Officials claimed weaker U.S. demand for Mexican
manufactures and a slump in agricultural output, which reduced activity in
the first half, as the key reasons for the downward revision. The
economic impact of Hurricane Katrina is negligible. First, according to
state-owned oil company Pemex, the blow to Mexican oil exports has
been minor, with only one of the refineries the company supplies in
hurricane-ravaged Louisiana cancelling supplies of Mexican Maya crude.
However, Pemex faces soaring costs for imported U.S. gasoline, as
current refining capacity is too small to supply national fuel needs. The
government has announced measures to minimize the impact of higher energy
prices for Mexican consumers. However, with the oil price already
receding, the government measures may not be necessary. The latest
government assessment is in line with the Consensus Forecast estimate,
which expects the economy to expand 3.5% in 2005, down one tenth of a
percentage point over last month’s projection.
Central Bank introduces new policy tool and
begins to reverse one year of tightening
Banco de
México
reacted promptly to the report of sluggish second quarter growth. On 26
August, the Central Bank loosened monetary policy, effectively ending a
string of ever tighter policy adopted to rein in inflationary
expectations. However, the Central Bank decided not to use the
traditional policy tool, the so-called corto or “short”. The
corto indirectly influences interest rates by lowering or increasing
the amount the Central Bank lends overnight to banks. Between February
2004 and March 2005, Banco de México had increased the corto
12 times. On 26 August, however, the Bank left the corto unchanged
at 79 million pesos. Instead, monetary officials announced a limit
on how much banks will be permitted to drive down the overnight rate. In
a statement, the Central Bank said that monetary conditions would be
allowed to ease no more than 25 basis points. The move effectively
reduced the overnight loan rate to 9.50% from 9.75%. The August move was
the first time that monetary authorities explicitly signalled a change in
the overnight rate considered suitable and represents a major step toward
a transparent benchmark interest rate similar to the U.S.-style reference
rate system. For the time being, the Central Bank intends to keep the
corto as a monetary policy option along with the new reference
interest rate-driven monetary policy strategy. The traditional benchmark
28-day Cetes rate dropped from 9.57% on 25 August to 9.42 on 1
September. Consensus Forecast panellists expect the interest rate to drop
to 8.8% by the end of the year, which is unchanged from last month’s
forecast.
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