Q&A With Michelle Gibley, Director Of International Research: Will Mexico Pass Brazil As Latin America’s Most Attractive Market For Foreign Investment?

Latin America’s largest economies have had a rough go of it lately. At the beginning of 2014, both Mexico and Brazil were dealing with setbacks from the previous year, with slower-than-normal economic growth, fluctuating currencies and stagnant wages.

Michelle Gibley, director of international research at the Schwab Center, conducts research and analysis in several markets around the world – including Brazil and Mexico. Below she discusses some of her initial impressions of how this year is going to be for Latin America’s main markets.

Q: What can be expected from the Brazilian stock market this year?

As attractive as Brazil’s stocks may appear for their cheap prices, the outlook is not good. The country’s growth has slowed considerably in the past few years, and the stock market posted one of the worst performances globally in 2013, with the Ibovespa Index down nearly 27 percent. And, unfortunately, we do not see any catalyst for a sustainable improvement in the economy in the near term.

Q: What are the reasons for this slower growth?

There are four major reasons for the disappointing performance of Brazil’s economy: commodities stagnation, restraints to consumer spending, inflation and currency fluctuation.

None of the reasons is more important than the others, all of them have influenced to a weakness in the Brazilian economy, making officials try strong moves. Brazil’s central bank raised the interest rate seven times in 2013, by a total of 325 basis points, bringing it to 10.5 percent. Currency intervention is used to slow the decline in the currency – the central bank decided that the $60 billion currency intervention program announced in August 2013 will be extended through June 2014.

Q: You have mentioned how consumer spending has been facing restraints. Which ones are those? How has that affected economy?

Consumer spending is Brazil’s economic driver, accounting for over 60 percent of the country’s GDP – as opposed to exports, which account for a mere 12 percent. Consumers are currently suffering from the aftereffects of a credit bubble and persistent inflation.

Private credit in Brazil, as a percentage, grew by more than 20 percent a year between 2005 and 2013 – but now the tide has turned. Consumers are spending a high percent of income-servicing debt, and they are unlikely to borrow more. Brazil’s workforce is fully employed, but productivity is low. Furthermore, inflation remains well above target, hitting right under 6 percent monthly. Without consumer spending as a growth driver, future economic growth is likely to stop.

Q: Mexico, the other large Latin American market, is largely dependent on the United States’ economy state. What international factors is Brazil dependent on, if any?

Brazil is more independent than Mexico in that regard. Whereas Brazil is still dependent on foreign investment, it does not have such a direct relationship to another economy such as Mexico does with the U.S.

Q: Brazil is about to play host to two of the largest international sporting events: the World Cup and the Summer Olympic Games. Will this help or hinder Brazil’s economy?

In the short run, there might be some improvement, with investment in infrastructure and an influx of people spending money. However, these events will impact the economy only marginally and temporarily.

The economic hangover from both the World Cup and the Olympics will be a hard one to get past. History has not had a great record of lasting positives in host countries to either event. The government of the hosting country foots most of the bill for the event, including new buildings and security, which means debt. For countries that are already running a fiscal deficit, like Brazil, this will just add to their problems.

Q: Is Mexico in better shape?

There is this tendency to put all Latin American economies in a single basket, as if they all operated in unison, and that is so wrong. No emerging market is the same.

Mexico’s market and Brazil’s market are behaving very different lately. Mexico is showing a lot of promise, though it is still early to recommend investing with no risk. It is still expensive in comparison with other markets, it is still very volatile, very dependent on the performance of foreign economies.

But there are many positive aspects of Mexico’s market, and as China is losing competitiveness, it is rising as a very attractive alternative for investment.

Q: Judging by the forecasts that you have laid out, would you say Mexico is on its way to surpass Brazil as Latin America’s largest economy?

Again, it’s early to tell, but if things continue at the rate they have been for the past couple of years, it could certainly happen. The inflation is moderate, the currency stable, and there is a commitment from the government towards shaping the economy to modern standards, with the slew of reforms that were approved last year. There is just not that political commitment in Brazil.