Mexico’s Economic Austerity is a Danger. Including for the U.S.

Kenneth F. Greene, Associate Professor of Government, University of Texas at Austin.

Mariano Sánchez-Talanquer, Assistant Professor of Politics, Center for Research and Teaching in Economics, Mexico City.

Bloomberg

The saying goes, “When the U.S. catches a cold, Mexico gets pneumonia.” But the two countries are now so closely linked that the health of Mexico’s people and its economy amid the COVID-19 pandemic will influence the U.S. recovery, immigration, and the illegal drug trade.

To mitigate a doomsday scenario, Mexico’s government should immediately ditch its current commitment to fiscal austerity and institute large-scale stimulus. For its own good, the United States should help Mexico make this ambitious response to the crisis possible.

Mexico’s fiscal policies in the face of the pandemic diverge from all other major economies in the Western Hemisphere. The United States has dedicated 11% of GDP to stimulus and likely has more on the way. Peru plans to spend 16% of GDP, Chile 4.7%, and Argentina 4%. Even Brazil, led by the world’s most notable Coronavirus skeptic, President Jair Bolsonaro, intends to spend an extra 6.8% of GDP. In contrast, Mexico’s government has announced extra spending plans that amount to just 0.7%.

Despite his image as a leftist, President López Obrador — known as AMLO — has embraced market orthodoxy and cut government spending with the vehemence of a corporate raider. As part of what he calls “republican austerity”, he has reduced funding for Mexico’s already precarious governing institutions and refused to raise taxes, even though Mexico has one of the smallest governments in the whole hemisphere relative to the size of its economy. In the lead up to the pandemic, government austerity weakened an already precarious health system by diminishing spending and dismissing medical personnel.

AMLO’s commitment to low public spending has only intensified with the expanding crisis. In recent weeks, he mandated a 75% cut in the budget for new purchases and general government services. Government employees have been asked to donate part of their salaries. Even academic researchers have been encouraged to send back their grants. Despite the urgent need for the government to act as a lifesaver, AMLO’s belief is that it should further tighten its belt.

This fiscal policy threatens to turn the public health crisis into an economic disaster. The country’s main sources of revenue have flatlined during the pandemic. Consumer demand in the U.S. for manufactures has nose-dived, oil prices are historically low, tourism has plummeted, capital is seeking safe havens abroad, and remittances sent from workers living in the U.S. to about 40% of Mexican families will take a hard hit. The United Nations Economic Commission for Latin America and the Caribbean forecasts a 6.5% contraction in Mexico’s GDP in 2020, one of the most conservative estimates yet still more than 2.5 times U.S. losses in the worst year of the Great Recession.

Mexico’s working class is already highly vulnerable. In the past two months, more than twice the number of formal-sector jobs created in 2019 have been lost. Layoffs are swelling the ranks of the informal sector, where 58% of the working age population was already precariously employed before the crisis hit. These workers lack benefits such as employer-sponsored health insurance, sick days, and a minimum wage. Reacting to the uncertain employment outlook, the National Council for the Evaluation of Social Development Policy projects that 57% of Mexicans will be in poverty this year and 25.3% will be in “extreme poverty,” meaning that they cannot purchase a minimal basket of basic consumer goods. The pandemic will push all fortunes down, but Mexico’s poor have no room to fall further.

Bold and immediate government action could reduce job losses, limit bankruptcies, protect the most vulnerable, and set Mexico on a course to economic recovery. AMLO’s refusal to act is rooted in Mexico’s particular history with bailouts. Unlike in the U.S., where fiscal stimulus is frequently viewed as a leftist policy, many Mexicans associate it with helping businesses linked to the political right. In the 1995 Tequila crisis, a government run insurance program similar to the U.S. FDIC was used to bail out failing banks, in what many viewed as an episode of privatizing profits and socializing losses.

But a well-crafted stimulus can avoid the pitfalls of the past and balance between safeguarding productivity and protecting the vulnerable. Economic life support measures are imperative. The government should help otherwise sound businesses weather the storm through tax postponement programs and low-interest loans, so long as they retain employees. Now is also a propitious time to expand the fragile social safety net with unemployment insurance, akin to what the U.S. did for its workers during the Great Depression. At the same time, registries from social programs that effectively targeted the poor and were scrapped by the AMLO administration must be recovered to make sure government transfers are reaching those that need them the most. Businesses in the informal sector must be provided with soft loans in exchange for future formalization.

The U.S. should spring into action on Mexico’s behalf for its own interests. The pandemic will not subside in the U.S. unless it also subsides in Mexico. The nearly 2,000-mile border is too porous to keep Coronavirus only to its south. In economic terms, thousands of U.S. jobs depend on consumption of U.S. exports. Mexico is also the second largest source of U.S. imports, including medical equipment, food and manufactured goods that will play important roles in a U.S. recovery. Bilateral trade is so substantial that it accounts for about 8% of Texas’ economy.

A struggling Mexico will also complicate President Trump’s core agenda. Historically, unauthorized immigration rises when economic opportunities in Mexico decline. More worrying is that Mexico’s illegal drug trade will probably recover quicker than many legitimate businesses. Production requires relatively little capital, and a poorer Mexico will more readily offer up its young people to this savage business. Demand in the U.S. will also increase as people struggle with joblessness, anxiety, and grief over lost loved ones.

Now is the time for a new North American consensus on fiscal stimulus to fight Coronavirus and the economic catastrophe it threatens to leave in its wake.