Journal of Economic Literature 2010, 48:4, 987–1004
http:www.aeaweb.org/articles.php?doi=10.1257/jel.48.4.987

Why Isn’t Mexico Rich?
Gordon H. Hanson*
Over the last three decades, Mexico has aggressively reformed its economy, opening toforeign trade and investment, achieving fiscal discipline, and privatizing state owned
enterprises. Despite these efforts, the country’s economic growth has been lackluster,
trailing that of many other developing nations. In this paper, I review arguments for
why Mexico hasn’t sustained higher rates of economic growth. The most prominent
suggest that some combination of poorly functioning credit markets, distortions in the
supply of nontraded inputs, and perverse incentives for informality creates a drag on
productivity growth. These are factors internal to Mexico. One possible external factor
is that the country has the bad luck of exporting goods that China sells, rather than
goods that China buys. I assess evidence from recent literature on these arguments
and suggest directions for future research. (JEL E23, E65, O10, O20, O47)

1.

macroeconomic stabilization, from which
it emerged with an independent central
bank and more developed financial markets(Pedro Aspe 1993). Concomitantly, the country liberalized foreign trade and investment,
first unilaterally, by acceding to the General
Agreement on Trade and Tariffs, and later
regionally, through the North American Free
Trade Agreement (NAFTA). In the span ofa few years, it privatized a disparate collection of nearly 1,000 state-owned enterprises,
including the communications behemoth,
Teléfonos de México (Telmex), and thecountry’s banks, which had been nationalized
in a failed effort to impede capital outflows
leading up to the 1982 crisis (Nora Lustig
1998). By 1994, the year NAFTA was implemented, Mexico’s transformation seemedcomplete. Under the guidance of three successive technocratic governments, in which
PhD economists trained at U.S. universities
managed economic policy, the country had

Introduction

In 1994, Mexico joined the Organisation for
Economic Cooperation and Development(OECD). Its admission, at the time unusual
for a club of primarily rich nations, was recognition from OECD members that the country
was on the road to success. After a sovereigndefault in 1982, which precipitated a currency collapse and sharp contraction in GDP,
Mexico was forced to make significant changes
in its economy. Presaging reform efforts elsewhere in Latin America and a decade laterin Eastern Europe, the country proceeded
aggressively to reduce the role of the state in
the economy and to embrace global markets.
Mexico’s approach was nothing if notambitious. After its default, it faced a difficult* Hanson: University of California, San Diego and NBER.
Thanks to Daniel Chiquiar, Eduardo Engel, Roger Gordon,
and Santiago Levy for helpful comments and suggestions.

987

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Journal of Economic Literature, Vol. XLVIII (December 2010)

become a prime exemplar of the Washington
Consensus (Pedro-Pablo Kuczynski andJohn Williamson 2003).
All that was missing was economic growth.
Alas, the growth never came. Mexico succeeded in lowering inflation, maintaining
fiscal discipline, reducing its external debt
burden, and increasing trade as a share ofGDP. But its growth has been lackluster.
Figure 1 plots log per capita GDP in Mexico
against a set of comparison countries roughly
similar in population and initial income.
Within Latin America, Mexico has kept
pace with Argentina, but not Chile or, more
recently, Brazil (panel A). Its growth is well
below Southeast Asia (panel B) and Eastern
and Central Europe (panel C). Between
1985 and 2008, Mexico managed an annual
average growth rate in per capita GDP ofjust 1.1 percent, lower than all of the comparison countries except Venezuela (0.8 percent). Given the vigor of its reforms, it is hard
not to sense that Mexico has underachieved(Guillermo Ortiz 2003). Managing to beat
only Venezuela, with its ongoing domestic
economic and political turmoil, is hardly the
future the country had envisioned. In 2006, it
was in part disillusionment with the economy
that brought Mexico within a hair’s breadthof electing a populist president who campaigned on reversing earlier liberalizations.
In this paper, I review arguments for why
Mexico hasn’t sustained higher rates of economic growth. Much has been made of development disappointments in lower income
countries (e.g., William Easterly 2002; Joseph
E. Stiglitz 2003). The 1990s, during which
Latin America suffered from continued macroeconomic instability and a severe financial crisis rocked Asia, appeared to belie thepromise of market-oriented economic reform.
However, in the 2000s such concerns receded,as the expansion of China and India, among
other emerging nations, created a surge inglobal trade and contributed to broad-based
income growth in export-oriented economies

05_Hanson_484.indd 988(Gordon H. Hanson 2010). Though the recent
global recession brought a severe contraction
in world imports in 2008 and 2009, robust
trade growth has now resumed.
In the 2000s trade boom, Mexico again
seemed to miss out. Between 2001 and2008, while the other comparison countries
managed annual growth rates of 2.3 percent
or higher, Mexico was stuck at 1.3 percent(table 1). After three decades of sluggishness,the country’s growth record looks idiosyncratic, reflecting deep structural impediments rather than short term problems, suchas real exchange rate overvaluation, whichappeared responsible for the country’s weak
performance in the early 1990s (Rudiger
Dornbusch and Alejandro Werner 1994).
Recent literature provides a host of explanations for Mexico’s laggard status.1 The mostprominent suggest that some combinationof poorly functioning credit markets, distortions in the supply of nontraded inputs, orperverse incentives for informality creates a
drag on productivity growth. These are factors internal to Mexico. One possible external factor is that Mexico has the bad luck ofexporting goods that China sells, rather than
goods that China buys, meaning that China’s
expansion has put downward pressure on
Mexico’s terms of trade. Clearly, none ofthese mechanisms is unique to Mexico. For
one or more of them to be able to explain
Mexico’s growth record, they must afflict thecountry in a particularly severe manner.
Before examining the arguments for
Mexico’s stagnation, it is worth reviewing
common explanations for slow growth that
1 For more in depth summaries of Mexico’s growth
performance and possible explanations, see Lustig (1998),
which focuses on macroeconomic stabilization and theabsence of growth in the immediate aftermath of economic reforms; the volumes in Santiago Levy and Michael
Walton (2009), which address the political economy of economic growth in Mexico; and Daniel Chiquiar and ManuelRamos-Francia (2009) and Javier Arias et al. (2010), which
examine the microeconomic foundations of Mexico’s low
productivity growth.

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Hanson: Why Isn’t Mexico Rich?

989

Panel A. Latin America

Log per capita GDP (1980 = 0)

1
MexicoBrazilVenezuela

Argentina
Chile

0.5

0

−0.5
1980

1985

1990

1995

2000

2005

1995

2000

2005

Year
Panel B. Southeast Asia

Log per capita GDP (1980 = 0)

1.5
MexicoMalaysia
ThailandIndonesia
Philippines

1

0.5

0

−0.5
1980

1985

1990

Year
Figure 1: Economic Growth in Comparison Countries(continued)

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Journal of Economic Literature, Vol. XLVIII (December 2010)

990

Panel C. Eastern and Central Europe

Log per capita GDP (1980 = 0)

0.8
MexicoHungary
Turkey0.6

Bulgaria
Romania

0.4

0.2

0

−0.2
1980

1985

1990

1995

2000

2005

Year
Figure 1: Economic Growth in Comparison Countries (continued)

are insufficient to explain the Mexican case.
Because some countries in Latin America havedone well in the last decade, Mexico’s performance does not appear to be solely attributable
to the regionwide institutional deficiencies
that are often blamed for the hemisphere’s
slow development. These include a legacyof Spanish and Portuguese colonialism, highlevels of wealth inequality, and factor endowments that facilitated the early emergenceof a landed elite (e.g., Kenneth L. Sokoloff
and Stanley L. Engerman 2000; Sebastian
Edwards, Gerardo Esquivel, and Graciela
Marquez 2007; Edwards 2009). The gap
between average income in the United Statesand Latin America first manifested itself in theeighteenth century and later widened in thenineteenth and twentieth centuries. Between
1950 and 2001, there was zero convergence
between Latin America and the United Statesin per capita GDP. Latin America’s decline

05_Hanson_484.indd 990

relative to Asia and Europe, which during thesecond half of the twentieth century did converge toward U.S. income levels, was due primarily to total factor productivity (TFP). The
region has long been plagued by disappointingly low productivity growth (Harold L. Coleet al. 2005). Latin America’s common history
is surely important for understanding many
aspects of its economic development. Yet, inrecent decades, the region has not moved inlock step. Chile has performed decently since
the late 1980s and Brazil, Colombia, and Peru
have since 2000. Mexico, despite its market
friendly reforms, has not joined the group,with its performance closer to Argentina and
Venezuela, the region’s black sheep in termsof economic policy. Its story must, then, haveplot lines distinct from other Latin nations.
In low income countries, Paul Collier(2007) identifies common pitfalls that contribute to poverty traps. None apply to

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Hanson: Why Isn’t Mexico Rich?

991

TABLE 1

Rate of Economic Growth
Average annual change
log per capita GDP
Country
Argentina
BrazilBulgaria
Chile
Colombia
Czech RepublicHungary
Indonesia
Malaysia
MexicoPeru
Philippines
PolandRomania
ThailandTurkeyVenezuela

1985–2008

2001–2008

0.016
0.014
0.022
0.042
0.019
0.020
0.018
0.035
0.035
0.011
0.015
0.013
0.039
0.012
0.045
0.027
0.008

0.032
0.023
0.062
0.031
0.031
0.040
0.035
0.038
0.031
0.013
0.044
0.028
0.042
0.068
0.037
0.033
0.027

Mexico, itself a middle income nation. For
the last eighty years, Mexico has avoided military and political conflict, which enveloped
the country in the early twentieth century.
Indeed, after the 1982–94 period of intensive
economic reform, the country ended sevendecades of single party rule and transitioned
to a functioning if combative democracy.
There has been a recent upsurge in violence
associated with drug trafficking, but intense
conflict did not emerge until 2006, too late toaccount for Mexico’s sluggishness.2 Despite
2 The growth of the drug trade may distort GDP figures for Mexico. It is likely that value added in cultivatingand exporting marijuana and opium, manufacturing andexporting methamphetamine, and distributing cocaine
from South America to the United States is not fully represented in the country’s national income accounts.

05_Hanson_484.indd 991

being an oil exporter, the resource curse
does not seem to have hit Mexico. Oil as ashare of exports peaked in 1982 at 77 percent
and has declined steadily since, falling below
40 percent by 1988 and below 15 percent by
1993. In 2009, oil accounted for just 13 percent of Mexico’s total exports. Over the lasttwo decades, Mexico’s trade growth has beenheavily concentrated in manufacturing (JuanCarlos Moreno-Brid, Jesus Santamaria, andJuan Carlos Rivas Valdivia 2005). If anything, Mexico has invested too little in petroleum exploration and production, partly as
a consequence of constitutional limitations
on foreign investment in the sector (Osmel
Manzano and Francisco Monaldi 2008). And
Mexico cannot be said to suffer from residing in a poor neighborhood. NAFTA affords

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Journal of Economic Literature, Vol. XLVIII (December 2010)

992

TABLE 2

Domestic Credit to Private Sector (percent of GDP)Country

1991–2000

2001–2008

Argentina

20.16

13.79

BrazilColombia
Czech RepublicHungary
Indonesia
Malaysia
MexicoPeru
Philippines
PolandRomania
ThailandTurkeyVenezuela

56.42
32.72
65.72
27.82
45.73
163.44
25.62
19.13
42.09
21.73
9.33
127.55
19.90
16.93

36.89
27.03
39.32
49.22
24.24
130.94
17.98
21.16
33.58
32.80
20.95
103.01
21.90
14.63

Notes: Domestic credit to private sector refers to financial resources provided to the private sector, such as
through loans, purchases of nonequity securities, trade credits and other accounts receivable.
Source: World Development Indicators.

the country access to two nearby large, richmarkets. In 2009, Mexico’s exports to theUnited States as a share of its total foreign
shipments were 81 percent. Mexico’s problems, it seems, lie elsewhere.
2.

Faulty Provision of Credit

The provision of credit is central to the process of economic development (Raghuram
G. Rajan and Luigi Zingales 1998). Without
mechanisms that move savings from lenders
to borrowers, a country has poor prospects
for taking advantage of productive investment opportunities. Mexico stands out forchanneling low levels of private credit to firms
or households. Over the period 2001–08,
domestic credit to the private sector as ashare of GDP averaged 18 percent in Mexico,

05_Hanson_484.indd 992

lower than all comparison countries except
Argentina and Venezuela (table 2). A growing
body of literature cites the weakness of
Mexico’s credit markets as an important factor
behind the country’s low productivity growth.
Poorly developed financial markets haveplagued Mexico since its independence from
Spain (Stephen H. Haber 1991). One problem has been risk of expropriation. In thelast forty years, the government has expropriated the assets of private banks twice(Haber, 2005). The first episode was a defacto nationalization that occurred in the mid
1970s, when the government increased thereserves banks were required to hold in thecentral bank to over 40 percent and paid aninterest rate on these deposits that trailed therate of inflation. The second expropriation
was an explicit bank nationalization in 1982,

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Hanson: Why Isn’t Mexico Rich?
which occurred in the midst of Mexico’s sovereign default. Another problem has beenpoor oversight of bank lending. Shortly after
Mexico’s banks were privatized in 1991,
credit provision spiked. Haber (2005) argues
that in Mexico’s haste to privatize its banks
it failed to establish mechanisms that would
impede the abuse of deposit insurance or
lending to bank directors or other insiders.
Consequently, bank credit expanded rapidly,
financed in part by interbank lending, which
the government insured. Rapidly accumulating nonperforming loans and the 1994 peso
collapse contributed to widespread bank failures.3 The government was later obligated torecapitalize the banking system.
Since the 1994–95 banking crisis, Mexico
has overhauled its financial regulations.
It has modernized accounting standards,
permitted foreign ownership of banks, set
reserves according to the riskiness of bankloan portfolios, modified deposit insurance, and sought to prevent insider lending. While bankruptcy provisions were also
modified, Haber (2005) suggests that thesereforms primarily affected easily collateralizable loans, such as for autos or homes, but
did little to spur commercial lending. As aresult, the difficulty lenders have in seizing
assets from borrowers continues to hindercredit provision. In the 2004 World Bank
Doing Business Indicators, Mexico scored a0 out of 4 in protections provided to creditors, putting it among just eleven countries(out of 132) in the lowest category. In table
2, one sees that despite Mexico’s reforms
domestic credit to the private sector actually
declined from the 1990s to the 2000s, with its

3 Aaron Tornell, Frank Westermann, and LorenzaMartinez (2004) suggest that because the credit crunch
was accompanied by a significant real exchange rate depreciation the non-traded sector was hit particularly hard, withthe contraction in nontradables ultimately creating bottlenecks in the supply of inputs that inhibited export growth.

05_Hanson_484.indd 993

993

performance relative to comparison countries showing no improvement.4
Turning to how credit markets affectgrowth, Raphael Bergoeing et al. (2002) suggest that Mexico’s bankruptcy laws accountfor Mexico’s poor performance relative to
Chile. Beginning in the 1970s, both countries suffered government debt crises andbouts of high inflation which they addressedby imposing fiscal austerity and monetary
restraint. Each liberalized trade and privatized state owned companies. Subsequently,
Chile enjoyed high productivity and income
growth while Mexico did not. Provisions forseizing assets of borrowers in default are an
important remaining difference between
the two nations. Chile’s laws are relatively
favorable toward lenders. Through processof elimination, Bergoeing et al. (2002) conclude that the differences in bankruptcy laws
are the most likely explanation for Chile’s
superior performance. While differences
in bankruptcy provisions are certainly aplausible explanation for the two countries’
divergence, the evidence is circumstantial.
Bergoeing et al. (2002) make a convincing
case that differences in fiscal or trade policy
cannot account for Chile’s relative success,but a host of other factors, including thosementioned below, remain outside consideration. Additionally, Bergoeing et al. (2002)
argue that Chile and Mexico privatizedstate-owned companies to a comparable
degree. But other literature (e.g., Levy and
Walton 2009) suggests that it is how Mexico
4 Chiquiar and Ramos-Francia (2009) and Haber (2009)
suggest that while these reforms did not appreciably lower
interest rates to borrowers they did lead to greater concentration in the banking sector and to higher profit margins(both in absolute terms and relative to a comparison groupof twelve other countries, among which only Brazil andPeru had higher bank profitability). Mexico’s government
competition commission, out of concern that the country’s
banking system is imperfectly competitive, has ruled that
Mexico’s banks should make their services more transparent and reduce costs to consumers of switching banks. It
has also moved to lower bank entry barriers.

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Journal of Economic Literature, Vol. XLVIII (December 2010)privatized its companies that matters, in particular the country’s failure to prevent theformation of private monopolies.
For credit markets to be a factor in
Mexico’s low growth rates, they must affectproductivity. To gauge the extent of barriers
to investment in Mexico, David McKenzie
and Christopher Woodruff (2008) conducted
an experiment in which they randomized theprovision of cash grants to small retail firms
in Mexico, the results from which allow
them to estimate the marginal rate of return
to investment. They find that rates of returnto capital are 20 percent to 32 percent permonth, which were three to five times market interest rates during the sample period.
Rates of return are highest among firmsthat report being financially constrained(but, surprisingly, also remain above market
rates for firms that do not report being constrained). Their results suggest that there areimperfections in Mexico’s financial markets,
which impede the flow of credit to profitable undertakings, particularly for small
scale entrepreneurs. Other evidence, someexperimental and some not, suggests that in
Ghana, India, Kenya, and Sri Lanka rates ofreturn to capital in small scale enterprises arealso well above market rates (see discussionin McKenzie and Woodruff 2008), implyingthat Mexico’s situation is not unique.
Could weak protections for creditors be
responsible for limited access to credit in
Mexico? In the United States, Reint Gropp,John Karl Scholz, and Michelle J. White(1997) find that, in states that provide higher
personal exemptions for debtors in bankruptcy, which limits the assets that creditors
can seize, a lower fraction of credit is heldby low-asset households, suggesting thatweak creditor protections divert lending
away from relatively poor borrowers. Yet,
diverting credit away from the poor, while aconcern for poverty alleviation, does not necessarily translate into diminished productivity growth. Wei Fan and White (2003) find05_Hanson_484.indd 994

that higher exemptions for personal bankruptcy in U.S. states operate as a form ofwealth insurance, which increases the levelof entrepreneurship, even as high risk borrowers are cut off from loans.5
How important, then, are Mexico’s credit
problems in explaining its growth performance? Based on a survey of 4,000 firms in
fifty-four countries during the late 1990s,
Thorsten Beck, Asli Demirguc-Kunt, andVojislav Maksimovic (2005) report that thefraction of firms saying they face severe
obstacles in obtaining finance is highest
in Mexico. Their work also finds that firmsales growth is lower in countries that havegreater obstacles in obtaining financing,measured in terms of collateral requirements, bank paperwork, or interest rates.
These findings, while intriguing, represent
indirect evidence on economic growth, as
they relate to firm sales and not productivity
and do not account for why financial policies vary across countries.
One could imagine two approaches to estimate the impact of bankruptcy provisions on
productivity growth in Mexico. One would
be a cross country approach, similar to Beck,
Demirguc-Kunt, and Maksimovic (2005) but
extended over a longer time period, in which
one regressed firm or industry growth inproductivity on measures of creditor protection, exploiting cross country and cross time
variation in bankruptcy provisions. The obvious problem with such regressions is that inorder for them to be well identified one would
have to find sources of exogenous variation incountries’ financial provisions, which could
5 For firms in the informal sector, the incentives forentrepreneurship from generous bankruptcy provisions
may be undermined by other aspects of the tax code.
Informal entrepreneurs, by virtue of their tax status, reap
no tax savings from losses to income or capital. However,they may only be able to realize substantial gains to income
or capital by shifting into the formal sector, which brings
with it an increase in tax liabilities. The asymmetric treatment of gains and losses may be a disincentive to innovation among informal enterprises.

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Hanson: Why Isn’t Mexico Rich?
be difficult. A second approach would be for
Mexico itself to experiment with changing its
bankruptcy provisions, perhaps by varying
the timing of adjustments in protections tocreditors across states within the country.
One could then estimate how firm, industry,or regional outcomes change in response to
the policy change. Such an experiment would
clearly be a significant undertaking, but given
the low apparent return to Mexico from its
extensive financial reforms to date the benefits from identifying which features of credit
markets continue to inhibit growth may yieldcommensurately large returns.
3.

Social Policy and Informality

The size of the informal sector in Latin
America is frequently cited as a drag on economic development. Aside from Hernando
de Soto’s (1989) so-called romantic perspective, in which informal firms are a vibrantand underappreciated part of the productive
economy, many commentators see informality as the result of firms remaining small inorder to avoid onerous government regulations (Rafael La Porta and Andrei Shleifer2008). Informality keeps firms in existencethat would be forced to exit, either becauseof poor management or outdated technology,
if they had to compete for inputs with formal sector firms on a level playing field. One
consequence of informality is, therefore, thesurvival of small, unproductive enterprises.
The dispersion in productivity across plants
in Mexico is much higher than in the UnitedStates. In 2004, 36 percent of manufacturing employment in Mexico was in establishments with fewer than fifty workers and 22
percent was in establishments with fewer
than ten workers. Enterprises with fewer
than ten employees tend to have very low
TFP (Carmen Pages 2010), with 91 percentof these plants having productivity levels
below their industry average. The majority ofthese micro-enterprises are informal.

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995

Chang-Tai Hsieh and Peter J. Klenow(2009) use micro data on Mexican nonagricultural establishments to examine how
aggregate TFP in the country would change
were productivity equalized across establishments by moving factors toward moreproductive plants, while accounting for
endogenous changes in productivity at theplant level. Based on data for 1999 and2004, they estimate that such a reallocation
would raise TFP in Mexico by 100 percent
in the manufacturing sector and by 250–300
percent in nonmanufacturing. The aggregate productivity gain from factor reallocation for Mexico is, interestingly, comparable
to that for China but 1.5 to 2 times larger
than for Argentina, Bolivia, Chile, Colombia,
Ecuador, or Uruguay.
For these counterfactual exercises to bemeaningful, there must be distortions in theeconomy that prevent factor reallocationfrom occurring naturally. Hsieh and Klenowfind that TFP is higher in firms that makepayments into Mexico’s social security system, which is Levy’s (2008) preferred definition of formality, suggesting that evasion of
payroll taxes is among the distortions contributing to productivity dispersion. Formal
sector firms make contributions to social
security equal to 18 percent of the total
wagebill. Hsieh and Klenow estimate thatreallocating factors to establishments that
pay into social security would raise aggregate productivity by 19 percent in manufacturing, or one fifth of the total productivity
gain from factor reallocation, implying informality is an important source of cross-plantdifferences in TFP.
Levy (2008) makes an explicit argument
for how informality affects productivity in
Mexico. The starting point for his critiqueis Mexico’s dual system of social insurance.
One system governs the formal economy, inwhich workers and employers are subject toobligatory payroll taxes that cover social security benefits, including retirement pensions,

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Journal of Economic Literature, Vol. XLVIII (December 2010)

health care, disability and life insurance,child care, and housing loans. Formal sector
employment is also subject to regulations thatgovern firing and severance pay. A second
system of social insurance covers the workers
that Levy defines as informal, including illegally employed salaried workers (i.e., workers
that by law should be enrolled in social security but are not), workers paid on commission,
the self employed, and unpaid workers. These
individuals have the option of participating insocial protection programs, subject to a nominal contribution, which provide health care,retirement pensions, housing subsidies, childcare, and life insurance. Importantly, the participation of informal workers in social protection programs is voluntary and a la carte,
allowing individuals to select into the specificprograms that suit their needs. Formal workers, whose contributions to social security aremandatory, have no such option. Further, themonetary contributions of informal workers
do not cover the full cost of social protection
programs, with the difference met in part by
consumption taxes.
In theory, the tax on formal sector employment and the subsidy to informal sector
employment results in a relatively low (high)marginal productivity of labor in the informal(formal) sector, creating static inefficiency
and depressing aggregate TFP. Empiricalevidence, as seen, is consistent with suchoutcomes. Additionally, informality may havenegative dynamic effects on productivity,
and therefore growth, if keeping wages offormal establishments artificially high reallocates investment toward lower productivity
informal firms. In Mexico it appears that thereturns to labor market experience are lower
in informal than in formal employment, which
may indicate that informality suppresses
the accumulation of human capital (Arias
et al. 2010). While the theoretical linkages
between informality and growth are clear,making the empirical connection is more
problematic. Informality appears to result in

05_Hanson_484.indd 996

a lower level of TFP but does it suppress TFP
growth? In Mexico’s case, one would want toknow whether raising the benefits to informal
workers through social protection programs(financed by consumption taxes) lowers thegrowth rate. Research has yet to provide adefinitive answer to this question.
What research has examined is whether
the recent expansions of social protection
programs available to informal workers
have reallocated employment toward theinformal sector. The aggregate data show
no upward trend in informality (Arias et al.
2010). Between 1995 and 2009, the fractionof workers employed outside of the social
security system in Mexico actually declined,from 66 percent to 62 percent, though informality did rise among urban workers. Amongthe different categories of informal workers, only the share of illegal salaried labor in
employment has increased over time. The
employment share of self-employed workers has been stable and the share for workers
paid on commission has fallen.
In micro-level analysis of whether Mexico’s
dual system of social insurance has increased
informality, Rodrigo Barros (2009) exploits
regional variation in the timing of the roleout of Seguro Popular, a large health insurance program available to workers who are
not covered by social security which is thecenterpiece of Mexico’s new system of social
protection. The program amounted to a substantial increase in the quality and quantityof health insurance to qualifying individuals, who account for roughly half the population, forcing the government to phase in
the program gradually. The timing of theroll out favored small states and states notin control of the main opposition politicalparty. Barros finds that in repeated cross section data the probability a household headworks in the informal sector is uncorrelatedwith the government projected enrollment
intensity of Seguro Popular (i.e., the planned
enrollment in a state in a given year based

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Hanson: Why Isn’t Mexico Rich?
on the roll out strategy), meaning that individuals in states exposed to earlier roll outof Seguro Popular were not more likely tobe employed informally. Because program
intensity is not random, the results are hardto interpret. The estimation strategy would
underestimate the effect of Seguro Popular
on informality if the planned roll out of the
program was more rapid in states subject toshocks that disfavor formality.
Melissa A. Knox (2008) addresses similar
questions using panel data on 800 families,
exploiting temporal variation in which families were eligible for Seguro Popular (thusallowing her to control for household fixed
effects in informal status). Becoming eligible
for the program increases labor force participation, which implies an increase in employment in the informal sector given that eligible
households are those that do not qualify forsocial security. Laura Juárez (2008) focuses on
the roll out of a free health care program in
Mexico City, finding that for females (in salaried employment with no more than twelve
years of education) expanded health benefits
reduces the likelihood of being employed formally (i.e., being covered by social security).
Though the literature is still young, there issome evidence that expanded health insurance for informal workers increases employment in the informal sector.
The level of TFP in informal establishments
in Mexico is low relative to formal plants.
Mexico’s social protection programs may beraising the incentive for informality, possibly
hindering growth. However, the newness ofmajor financing for these programs suggests
they cannot account for Mexico’s poor growth
performance prior to the late 1990s. Social
protection programs for the poor in Mexico
have accommodated informality, thereby contributing to its persistence, but cannot explain
the origins of informality in Mexico or why
the growth effects of informality in the country would be worse than elsewhere in Latin
America.

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4.

997

Too Little Regulation (or Too Much)

In comparing production costs acrosscountries, Mexico stands out for having highprices for electricity, high prices for telecommunications services, expensive and spotty
internet services, and a scarcity of skilledlabor. In each of these input markets, specific interest groups are blamed either for
impeding the government from enforcing
anti-monopoly regulations or for convincing
the government to regulate markets in a waythat preserves their capacity to earn rents(Levy and Walton 2009). While I discuss justthree input markets, these arguments havebeen applied to other sectors of Mexico’s
economy, as well (see Isabel Guerrero, Luis
Felipe López-Calva, and Walton 2009).
While unfavorable conditions in Mexico’s
input markets are well documented, it is lessclear whether they can account for Mexico’s
poor relative growth.
The most maligned industrialist in Mexico
is perhaps Carlos Slim, the world’s richest
person and the largest shareholder in Telmex,
Mexico’s telecommunications giant. Slim isblamed for using his acquisition of Telmex
from the government first to establish andlater to protect monopoly power in markets for landline telephone services, mobile
telephony, and internet access. In data for
2006–08, Mexico compares poorly to othercountries in the costs of its telecom services.
Among a group of developing and developed
nations,6 it has the highest levels of singlefirm concentration in fixed and mobile telephone industries (with Telmex controllingover 90 percent in the former and over 70
percent in the latter), the highest costs offixed line business telephone services (which
are two and half times the level in the United
6 The comparison countries are Brazil, Canada, Chile,
China, Colombia, the Czech Republic, EU nations,
Hungary, Japan, Korea, New Zealand, Poland, the Slovak
Republic, Turkey, and the United States.

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Journal of Economic Literature, Vol. XLVIII (December 2010)

States), and the lowest number of broadband
internet subscribers per capita (Chiquiar
and Ramos-Francia 2009). While it is plausible that Telmex’s dominant market position
allows it to earn supra-normal profits, it isunclear whether such an outcome matters for
Mexico’s growth rate. The argument would
have to be that high prices for telecom services
depress capital accumulation or innovation. A
causal link between the price and availabilityof telecommunications services and economic
growth has yet to be established.
Surprising as it may seem for a country thatexports oil, Mexico has relatively high prices
for electricity. Since 2000, electricity prices
per kilowatt hour in Mexico have exceeded
those in the United States by 1.1 to 1.7 times.
Among comparison countries, Mexico has
the highest rate of energy loss, measured asenergy produced but not paid for as a percentage of total energy handled (Chiquiar
and Ramos-Francia 2009). Electricity production in Mexico is the sole provenance ofstate owned companies, which have historically had strong labor unions. The proximate
causes for Mexico’s high costs and low quality
in electricity generation include reliance on
oil based production, low labor productivity,and high wages for electricity workers, who
are among the most highly paid workers in
the country and whose average wage rates areover three times the average for formal sector workers. Holding output constant, were
electricity generation in Mexico to operatewith the same labor productivity as in Chile,
Mexico would have 62 percent fewer workers in the sector. As with telecommunications
services, high electricity prices raise production costs relative to other countries. Again,
however, it is unclear how the price of electricity affects the rate of economic growth.
An input market whose functioning does
have well established effects on growth is
the supply of skilled labor. If Mexico’s publicschools or labor market regulations somehow
reduce the incentive to attain education, then

05_Hanson_484.indd 998

Mexico may have lower growth rates, resulting either from a reduced supply of innovation-producing scientists and engineers (e.g.,Charles I. Jones 1995) or from missing out on
positive externalities in the accumulation ofhuman capital (e.g., Robert E. Lucas 1988).
In 2007, only 50 percent of Mexicans 15–19
years old were enrolled in public or private
educational institutions, slightly above levels for Turkey but 20 percent to 42 percent
below Brazil, Chile, Estonia, Hungary, Korea,
Portugal, the Slovak Republic, and Slovenia(Arias et al. 2010). Mexico’s poor education performance may be attributable to thecapture of its education system by powerfullabor unions. Close to 90 percent of public
education expenditure in Mexico is on compensation of staff, leaving little left over forbuildings, computers, or other educational
infrastructure. However, other countries in
Latin America also have unionized public
education, which raises the question of why
Mexico’s would have consequences that are
more deleterious for growth. Mexico’s labor
unions have strongly opposed linking teacher
pay to student performance but this hardly
makes them unique.
Beyond rates of tertiary education,
Mexican students perform poorly in standardized tests relative to students in othernations at roughly similar income levels.
Combining PISA scores for math, reading
and science, Mexico does worse than all
developing countries except Brazil, scoring well below Chile, the Czech Republic,
Estonia, Hungary, Korea, Poland, Russia,
and the Slovak Republic, both in absoluteterms and relative to what one would predict based on expenditure per student in the
country (Arias et al. 2010). Lant Pritchettand Martina Viarengo (2009) suggest thatwhat may matter for a country’s economic
development is not the average performanceof students but the number of high achievers. Here again, Mexico’s does not compare
well. A PISA score of 625 qualifies a student

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Hanson: Why Isn’t Mexico Rich?
as advanced. Only 0.3 percent of Mexican
students attain a score of 625 or higher, relative to 18 percent in Korea, 9 percent in the
Slovak Republic, and 2 percent in Thailand.
If such high achievers are used intensively
in developing or applying new technology,
Mexico may face supply constraints in R&D
relative to other countries.
Another factor potentially affecting
Mexico’s supply of skilled labor is emigration
to the United States. As of 2008, there were11.4 million individuals born in Mexico residing in the United States, equal to 9.5 percentof the total Mexico born population (definedas the sum of Mexico born individuals in
Mexico and the United States). Emigrants areoverrepresented among the young. In 2000,
18 percent of Mexico born men aged 16 to 25
were residing in the United States, compared
to 9 percent of 46 to 55 year olds. However,the skill profile of emigrants differs only modestly from individuals that remain in Mexico.
Chiquiar and Hanson (2005) compare theearnings of nonmigrants in Mexico with theearnings that emigrants would earn were they
to return to the country and be paid according
to prevailing wage patterns. Emigrant men
are drawn disproportionately from the middleof Mexico’s wage distribution, whereas emigrant women are modestly positively selected.
These results are based on 1990 and 2000
censuses for Mexico and the United States,in which one might be concerned about theundercount of illegal immigrants. Robert
Kaestner and Ofer Malamud (2010) largely
replicate Chiquiar’s and Hanson’s findings
using the Mexican Family Life Survey, which
tracks individuals in Mexico over time, including those that migrate to the United States,
whether legally or illegally.
It is likely that, in Mexico, emigration andeconomic growth are jointly determined. Slow
growth today may contribute to the exodus oflabor, which tomorrow inhibits opportunities
for growth. We know little about how emigration affects skill or capital ­accumulation

05_Hanson_484.indd 999

999

in Mexico. Higher emigration puts upward
pressure on Mexican wages (Prachi Mishra
2007; Abdurrahman Aydemir, and George
J. Borjas 2007), ­reducing the incentive
for capital inflows. Since the majority of
Mexican migrants enter the United Statesillegally (Hanson 2006), they may perceive
weak incentives to continue their education
beyond secondary school. Thus, emigration
may be contributing to Mexico’s observed
low rates of school attendance among 15 to
19 year olds. In rural Mexico, (McKenzie andHillel Rapoport forthcoming) find that thelikelihood of completing secondary school or
beginning high school is lower for youths inhouseholds that have sent migrants abroad.
While we see that Mexico produces few
highly educated students relative to othercountries, the literature has yet to explain
why or quantify the implications of this fact
for economic growth. Rodrigo García-Verdú(2007) estimates that rising educational
attainment—specifically, the decline in theshare of workers with no schooling or primary schooling and in the increase in theshare with secondary or tertiary schooling—accounts for 74 percent of Mexico’s GDP
growth over 1988–94 and 65 percent over
1995–2005. However, aggregate TFP growth
was negative in both time periods. If educational attainment was rising, why was TFP
declining? This question cannot be answeredin a standard growth accounting framework,in which TFP growth is taken as given.
Obvious directions for future research are
to examine the interactions between schooling, academic performance, emigration, and
TFP levels and growth rates in Mexico.
5.

The Perils of Competing with China

In the 1980s, as Mexico embarked upon astrategy of export-led development it sought
to emulate the successful industrializers ofEast Asia. Then President Carlos Salinas
cited Korea, in particular, as a model for

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Mexico, with hopes that the country would
create its own chaebol—Korea’s large industrial groups characterized by vertical integration in production, horizontal differentiationin output, and rapid export growth—to leadthe country into the global economy. The
reality turned out to be far different. Exports
have grown dramatically in Mexico, risingfrom 12 percent of GDP in 1982 to 28 percent in 2008. However, it is not large, vertically integrated firms that export the bulkof Mexico’s goods. Instead, nearly half of thecountry’s manufacturing exports and over 20
percent of its manufacturing value added (asof 2006) are produced by maquiladoras, orexport assembly plants, which import inputs
from abroad, primarily the United States,
assemble or process the inputs into final
outputs, and then export the finished goods,
again primarily to the United States (PaulR. Bergin, Robert C. Feenstra, and Hanson2009). Hong Kong and Taiwan also began
their industrial development with heavy
reliance on export assembly. Their firms
later graduated into original-equipment
manufacture and own-brand production,
which involves greater in-house fabricationof inputs and design of outputs (Michael J.
Enright, Edith E. Scott, and David Dodwell1997). Mexico has not made such a transition. While the country has progressed fromassembling apparel to assembling electronics
and auto parts, it remains specialized in thelabor-intensive processing of inputs for the
U.S. economy.
Mexico’s failure to graduate from export
assembly has left it exposed to competition
from China, whose abundance in low skilledlabor has given it a strong comparative advantage in labor-intensive manufacturing. By thelate 1990s, export processing plants in China,
which are similar to Mexico’s maquiladoras, accounted for over half of the country’s
manufacturing exports (Feenstra and Hanson2005). For Mexico, China’s growth is morethreatening than it is for other countries in

05_Hanson_484.indd 1000

Latin America. Other large Latin nations tend
to export the minerals, agricultural goods, andother commodities that China imports. In
Mexico, as already mentioned, petroleum now
accounts for less than 15 percent of exports.
For better or worse, Mexico’s fortunes in the
global economy are tied to manufacturing.
Over the period 2000–2005, manufacturingaccounted for 88 percent of exports in China
and 83 percent in Mexico, but only 54 percent
in Brazil, 34 percent in Colombia, 20 percent
in Peru, and 16 percent in Chile.
Figure 2 shows that over the period 1991
to 2007, China’s share of U.S. manufacturing
imports rose steadily, whereas Mexico’s sharerose through the 1990s and then began to
decline. For both countries, there is an inflection point in 2001, at which time China’s
increase in U.S. market share accelerated andMexico changed from having a rising share toa declining one. The significance of 2001 isthat this year marks China’s accession to theWorld Trade Organization, giving it mostfavored nation status among WTO members.
It is plausible that China’s joining the WTO
helped it to capture foreign market sharefrom Mexico (see, e.g., Irene Brambilla, Amit
K. Khandelwal, and Peter K. Schott 2010 on
the apparel and textile industries).
The challenge of China’s export growth for
Mexico is that the two countries specialize insimilar goods. Chiquiar and Ramos-Francia(2009) calculate correlations between indices of revealed comparative advantage for
Mexico and for other developing countries.
Mexico’s ranking of goods by revealed comparative advantage is most strongly correlated with Hungary, followed in close orderby Thailand, the Philippines, Korea, Turkey,
Poland, and China. They find further thatin the last decade Mexico has been losing comparative advantage vis-à-vis China
in around 40 percent of its manufacturing exports (including electrical machinery,computers and ­electronics, furniture, andnonmetallic minerals), while maintaining a

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Hanson: Why Isn’t Mexico Rich?

1001

0.1
Mexico

China

0.08

0.06

0.04

0.02
1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

Year
Figure 2: Share of U.S. Manufacturing Imports

comparative advantage in another third of
its products (including automobiles and autoparts, industrial machinery, and ­beverages).
Hanson and Raymond Robertson (2010)
use results from a gravity model of trade toestimate the change in demand for Mexico’sexports that would have occurred had China’s
export supply capacity remained constantover the period 1995 to 2005. For Mexico,
nullifying the improvement in China’s
export capability would mean a 2 percent
to 4 percent increase in the global demandfor Mexico’s exports, an effect that is larger
than for any other manufacturing oriented
developing economy.7 Hsieh and Ralph Ossa
7 The comparison countries are Hungary, Malaysia,
Pakistan, the Philippines, Poland, Romania, Sri Lanka,
Thailand, and Turkey.

05_Hanson_484.indd 1001

(2010) take a more theoretical approach,introducing Ricardian productivity differences into a Marc J. Melitz (2003) modelof trade, deriving ­comparative ­statics forchanges in wages and prices resulting fromproductivity changes in different countries,
calibrating the model to data, and then calculating the counterfactual income levels
that would have been obtained had productivity growth in China over 1993–94 to
2004–05 been zero. Not surprisingly, slower
productivity growth in China means higher
real incomes in Mexico. Had China’s productivity been flat, Mexico’s welfare would havebeen 0.8 percent higher, a larger effect thanfor any other economy that Hsieh and Ossa
consider.
Aside from effects on the level of income
in Mexico, could competition from China

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Journal of Economic Literature, Vol. XLVIII (December 2010)

explain Mexico’s lackluster economic
growth? If so, the argument would go as follows. Since the late 1980s, China has been
undergoing a transition from a rural economy dominated by state owned enterprises
to an urban and more market-oriented one.
The transition is protracted, as it involves
moving over a 150 million workers fromthe countryside to cities, importing foreigntechnology, opening China’s markets to therest of the world, and allowing private firms
to replace the state in production. China’s
size, high rate of growth, and increasing
outward orientation mean that its emergence is surely changing international
prices, improving the terms of trade forcountries that produce its importables anddeteriorating the terms of trade for countries that produce its exportables. Mexico
fits squarely in the latter camp, whereas
Argentina, Brazil, Chile, Colombia, andPeru fit in the former. Nevertheless, thedownward pressure on the price of Mexico’sexport goods is unlikely to be permanent.
It will abate once China completes its transition or accumulates enough human andphysical capital to graduate from the coneof diversification that Mexico now occupies and to move to a cone specializing in
more skill and capital intensive products,
a process which may already be underway.
The impact of China on Mexico, then, is
not about long run growth but a prolonged
transitional period in which China has beenrealizing its latent comparative advantage.
The main problem with the China
hypothesis for Mexico’s growth record istiming. In figure 2, it is apparent that competition from China became most acuteafter 2001, suggesting China may have had
only a modest role in Mexico’s slow growthin the 1980s and early 1990s. While China’s
continued rise may not be good news for
Mexico, it cannot be the sole factor behind
Mexico’s performance over the last three
decades.

05_Hanson_484.indd 1002

6.

Final Discussion

Any discussion of growth and developmentin Mexico ends up resembling a Diego Rivera
mural, overstuffed with historical charactersthat collide in repeated and unexpected
ways. Mexico’s underperformance is overdetermined. The faulty provision of credit, persistence of informality, control of key input
markets by elites, continued ineffectivenessof public education, and vulnerability toadverse external shocks each may have a rolein explaining Mexico’s development trajectory over the last three decades. We do not
yet know the relative importance of thesefactors for the country’s growth record.
Perhaps what is most striking about
Mexico’s recent experience is that the country has tried so hard but achieved so little.
The breadth and depth of reform in the
country is astounding, yet Mexico does nothave much to show for it. Going forward,
one would hope that future research would
focus on providing guidance to policymakers about which specific policy interventions may be effective. One can imagine
individual research agendas to estimate theimpact of changes in bankruptcy provisions,social insurance programs, anti-monopoly
regulations, government regulation of electricity markets, or public education on industrial or regional productivity. Such researchwould undoubtedly be of use to Mexican
policy makers. But there is a danger in focusing exclusively on individual policies andignoring their interactions. Even a cursory
examination of Mexico’s economic structuresuggests the country is deep in the world of
the second best, meaning that models basedon a single distortion may be a poor guide to
how future reform would change economic
outcomes in the country.
An example from the discussion inthis paper helps drive the point home.
Bankruptcy provisions that are overly protective of borrowers inhibit the flow of credit

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Hanson: Why Isn’t Mexico Rich?
to individuals whose observable characteristics suggest they are poor credit risks. The
high rate of return to investment in smallscale enterprises suggests that credit market
imperfections impede productive investments. Yet, the high rate of return to capital
exists in small-scale enterprises that otherdata suggest have very low TFP and whose
survival depends in part on evading payroll
taxes that formal sector firms do not escape.
If the distortions that cause informality are
maintained, reforming bankruptcy provisions could be counterproductive in that it
would shift investment towards the country’s
least productive establishments. If one wants
to consider reforming bankruptcy provisions
in Mexico, one should also seek to understand how these provisions interact withsocial insurance programs that may promote
informality. Research, then, would benefit
from proceeding along two tracks, one that
performs rigorous microeconomic analysis ofindividual policy interventions and anotherthat uncovers the general equilibrium interactions of these policies.
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