Manuel Sánchez: Mexico - how to tap progress
Remarks by Mr Manuel Sánchez, Deputy Governor of the Bank of Mexico, at the Federal
Reserve Bank of Dallas, Houston, Texas, 1 November 2012.
* * *
I feel privileged to be with you to speak on the topic of "Mexico: How to tap Progress," on the
eve of this timely conference organized by the Federal Reserve Bank of Dallas. I would like
to thank this institution for its kind invitation and the opportunity to share a few thoughts with
you.
This conference deals with one of Mexico's most pressing problems, which is the
unsatisfactory performance of its economy, as reflected in a relatively low rate of long-term
GDP growth. The subject is fundamental for economists as it ultimately leads back to the
question of why some economies grow faster than others for prolonged periods of time, and
more specifically, why many countries do not converge to the living standards of rich nations
in spite of the fact that the knowledge and technologies of the former are, in principle,
transferable to the latter.
Ample research in the theories of economic growth should help us find some clues to
understanding Mexico's experience. But the fact that the Mexican economy is not growing
faster is of crucial importance to policy makers. Because the ultimate goal of economic policy
is to promote greater social wellbeing, understanding the obstacles to a more dynamic
economy is an essential prerequisite for the design of appropriate measures for
improvement.
We are fortunate that the Federal Reserve Bank of Dallas has organized this conference,
which is in the tradition of Mexican studies carried out by this and other organizations in the
United States and especially, in the state of Texas over the years. I congratulate the Dallas
Fed on this initiative and I am confident that your discussions will contribute to more
accurately identify Mexico's possibilities for prosperity.
As always, my comments are entirely my own responsibility and do not necessarily reflect
the views of the Bank of Mexico or its Governing Board.
Mexico's long-term economic underperformance
Like many countries, during most of the last and the present century, Mexico experienced
significant progress on the basis of several indicators of human development. In the last
hundred years, the country transformed itself primarily from an agrarian to an urban,
service-oriented economy, while undergoing an extensive industrialization process.
During this period, access to better health and education conditions broadened substantially.
For example, from 1950 to 2010, life expectancy at birth rose from 34 to 75 years; infant
mortality declined from 96 to 13 per thousand live births; the illiteracy rate fell from 43 to 8
percent; and average schooling increased from 2 to 9 years. A similar message could be
distilled from other indicators, such as access to tap water, power and sanitation.
Also, without ignoring that ample segments of the population still live in poverty, today most
people enjoy the basic benefits of modern life, such as televisions, refrigerators and other
electronic appliances, which in the past were either nonexistent or of lower quality and
relatively more expensive and thus reserved for only the wealthiest. And according to some
human development measures, notably those regarding health, Mexico has reached levels
close to those of rich societies.
In contrast to this advancement, the long-term expansion of income per capita, which
summarizes the population's capacity to satisfy its desires, has been less impressive.
Specifically, during the same six decades - 1950 to 2010 - the average annual growth in
per-capita GDP was 2 percent, a rate which is disappointing, at least, for two reasons.
First, it is similar to that registered during the same period by some mature economies, such
as the United States. Since Mexico is a developing country, presumably exhibiting a wider
set of basic unexploited investment opportunities, output growth should have been higher,
narrowing the development gap with the most industrialized nations.
Furthermore, Mexico's economic evolution compares unfavorably with leading emerging
economies which five decades ago were either below or at its own level of income. For
instance, while in 1960 Mexico had roughly the same per-capita GDP as Singapore and
more than double that of South Korea, now, some fifty years later, this indicator for Mexico is
only one-fifth that of Singapore and less than one-half that of South Korea. Even the
so-called stabilizing development era of 1958-1970, which posted the most impressive
record in Mexico's modern history, looks inferior when contrasted with these economies,
which have converged to developed-nation standards.
Second, the referred overall growth rate covers a significant slowdown in the last thirty years,
when per-capita GDP grew, on average, only 0.6 percent per year. This anemic pace, which
would take about 116 years for doubling income, occurred in spite of the implementation of
market-oriented reforms, including the opening up of the economy to foreign trade and
investment, the privatization of state-owned enterprises, and the wide deregulation process.
The record of this recent period does not improve if one excludes the unstable decades of
the 1980s and 1990s, characterized by high and volatile inflation, balance of payment crises,
and negative shocks to Mexico's terms of trade. A conclusion one might draw at this point is
that, in spite of the more robust growth of earlier years, the long-term expansion of the
Mexican economy is lackluster. The obvious question, then, is: What are the factors behind
this disappointing performance?
Exploring the possible causes of low growth
Various studies suggest that the most significant problem underlying Mexico's slow economic
growth is one of productivity. Taking either an identity approach to disentangle labor
productivity or a more functional method to estimate total factor productivity, the data suggest
that Mexico's main disadvantage relative to more successful countries is a path of low
productivity growth.1
An implication of this observation is that, although labor and capital are essential factors of
production, and a spurt in any of them could contribute to higher growth for some time, the
long-term drag for the Mexican economy lies primarily in the low efficiency with which it
allocates its productive resources across households, firms, and sectors.
This observation is useful in that it may cast some doubts on the potential effectiveness of
reforms that seek mainly to enlarge resources for capital investment. But the usefulness of
this finding probably ends here. In the search for obstacles to economic growth, we need to
substitute the original question with a new one referring to the possible roots of stagnant
productivity.
Many studies underline, as possible explanations of depressed productivity in Mexico, poor
institutions, deficient infrastructure, burdensome regulation, and lack of competition in key
areas, among other factors. In order to explore the likely plausibility of these and other
factors, I find it useful to examine the behavior of labor productivity, defined as output per
worker, and the ratio of workers to total population, and calculate the former for each of the
four comprehensive sectors of the economy: agriculture, manufacturing, nonmanufacturing
industry (mining, utilities and construction), and services. In the most recent worst-performing
period, with available data for 1980-2005, three basic observations are noteworthy.
First, meager per-capita GDP growth during these years was the net result of an increase in
the ratio of workers to population, whose effect slightly surpassed that of a fall in aggregate
labor productivity.
Second, aggregate labor productivity fell because, relative to total labor in the economy,
production dropped in agriculture and nonmanufacturing more than it grew in manufacturing
and services. In other words, the increasing role of manufacturing and services in the
Mexican economy did not sufficiently compensate for the diminishing influence of the other
two, smaller sectors. Table 1
Third, sectoral labor productivity increased only in the least and in the most productive
sectors: agriculture, mainly because of labor emigration, and manufacturing. In the other two
sectors labor productivity declined at roughly the same pace. Table 2
It seems that if some aspects are highlighted as obstacles to economic expansion, they
should be proven to have a significant influence on those sectors identified as negative
contributors to productivity growth. Specifically, the fall of labor productivity in the services
sector should be given more importance than that observed in nonmanufacturing, when the
relative sizes of these two sectors in the economy are considered.
At a conjectural level, one might identify a possible common characteristic between the two,
given that the fall in nonmanufacturing labor productivity has been concentrated in
construction and that in services has been generalized, with the only exception being
transport, storage, and communications. A large part of both construction and services
exhibits a high degree of informality. It is well known that informality is linked to small-scale
production, low investment in new technologies, and poor incentives for human capital
accumulation.
Additionally, a prominent feature of large service segments, such as education and health, is
a lack of or limited competition among providers, lowering incentives to seek efficiency.
On the other hand, one must find possible reasons as to why manufacturing has not
registered more robust labor productivity growth. It might be the case that the opening up to
foreign competition has taken many years and until recently allowed a certain degree of
protection, especially from competition with countries not covered by free trade agreements.2
The role of deep structural reforms
The previous conjectures provide examples of possible factors that might have some bearing
on Mexico's aggregate labor productivity deterioration. Of course, not even at this
speculative level does the questioning end. One must uncover the root causes of the
aforementioned factors.
A key example is the prevailing informality in the previously mentioned sectors with
weakening labor productivity. In any country, the origin of such a phenomenon is typically
associated with excessive regulation and taxation, making it optimal for relatively
unproductive firms to enter the informal sector, which, in turn, could be a cause of lower
investment in human capital, inducing dynamic inefficiency.3 Another example is low credit
penetration, which is frequently connected to poor contract enforcement, and the size of
informality itself.
There is wide consensus that Mexico needs structural reforms to enhance productivity
growth. In order for any initiative to be promising in terms of its envisioned results, it is
essential to better understand the structural impediments to the expansion of productivity.
In my opinion, the first challenge lies in measurement. Many good studies on Mexico's
discouraging long-term economic performance fail to subject their hypotheses to statistical
verification. In some cases, arguments for one-off effects on productivity are confused with
those more suitable for explaining dynamic consequences. To explain low productivity
growth, one needs to identify factors that not only affect levels but also rates, through
channels such as the accumulation of human capital and the adoption of new technologies.
Also, because of relatively richer data in terms of detail, time, reliability and industry-specific
price indices, among others, much research has been devoted to scrutinizing manufacturing,
while the rest of the economy has faced less examination in spite of the fact that major
productivity problems lie outside manufacturing.
In addition to measuring the possible barriers to productivity, it is necessary to quantify the
intended benefits of specific structural reforms to the extent this is possible. Empirical studies
on Mexico's previous structural reforms are surprisingly scant. Yet, estimating the expected
effects is indispensable to an objective assessment of future concrete reforms.
Concluding remarks
The unsatisfactory long-term performance of the Mexican economy is of significant interest to
both economists and policy makers. Low per-capita GDP growth does not reflect mainly a
problem of employment and investment, but one of productivity. In order to envision more
rapid improvement in social wellbeing, we need to identify the structural obstacles to
productivity expansion, notably in services and nonmanufacturing industries.
Structural reforms should, then, be focused on removing the root causes of impediments. A
major task is one of measurement, as shown by the fact that statistical studies quantifying
the effects of previous structural changes are relatively scarce. I am confident that your
discussions will contribute greatly to an understanding of what Mexico needs to do to attain
much higher levels of prosperity.