From the CEO – June 2018
All eyes were on Mexico and the July 1st vote as the finishing touches to our monthly data were completed. The backdrop to the campaign could not be more depressing and the election has been among the bloodiest in the country’s checkered history.
More than 120 politicians have been murdered since serious campaigning got underway late last year, underscoring the notion that Mexico is truly engaged in a “drug war,” one defined as much by battles among competing drug cartels and between corrupt and non-corrupt politicians as between state authorities and criminal gangs.
The motives behind the assassinations have been varied. Targets may have vowed to make a stand against the cartels or shed light on the close ties between a rival candidate and the cartels, or merely refused to cooperate with the cartels when approached. Some politicians have been killed because they were working with the “wrong” cartel.
It is also quite possible that in some cases candidates were killed for no other reason than to display the ability of criminal organizations to act with impunity, for the purpose of discouraging voters from doing anything foolish, such as electing someone the cartels do not want in office.
All of which paints a fairly grim picture of the state of democracy in Mexico. It is worth noting that most of the assassinations involve candidates for local offices, which suggests that infiltration of government institutions by the cartels is far less advanced at the national level.
But what of the violence? Do any of the politicians running for the top post have a credible agenda to end the carnage?
The short answer is no. The presidential favorite, Andrés Manuel López Obrador (AMLO) has proposed an amnesty, which is consistent with the “hugs, not guns” characterization of his security agenda. It is unclear how such a strategy might affect security risks in practice, especially since AMLO has not provided enough in the way of details to determine exactly what he has in mind.
Ricardo Anaya, the candidate of the PAN, is proposing a continuation of the military campaign against the cartels introduced under former president Felipe Calderon and maintained, more or less, under President Pena Nieto. There is no reason to expect that more of the same will produce a different result.
The PRI’s Jose Antonio Meade has focused on weakening the cartels by targeting their sources of financing, a strategy that could produce results over time, but would most likely provoke an even more intense campaign of violence in the near term.
Turning to issues of economy and foreign relations, what would an AMLO victory mean for the markets, NAFTA negotiations, relations with the US, and security? What about the other candidates should they win the top job?
Even as the polls indicate that his coalition has a real shot at winning a majority of seats in the Congress, AMLO has toned down his most inflammatory campaign promises. He has promised that property rights will be respected and claims that no energy contracts will be voided unless a review reveals evidence of corruption.
His choice of Rocio Nahle for energy minister has given investors pause. However, reversing the reforms approved under Pena Nieto would require the support of a congressional supermajority, and there are indications that AMLO would put the issue to a vote in a referendum before taking any action. As such, investors will likely have plenty of time to weigh their options before confronting any significant change in the rules.
AMLO’s pre-nominations for the Finance and Economy portfolios made last December were clearly intended to reassure investors that he has no plans to abandon fiscal responsibility, and the more recent overtures to Guillermo Ortiz, who guided Mexico through the 1994 currency crisis, is likewise aimed at signaling that his election to the presidency is not cause to abandon the peso.
AMLO surged into the front-runner’s position in part by adopting a combative stance toward US President Donald Trump, in marked contrast to the perceived obsequiousness of Pena Nieto. The fact is that Trump views every transaction in zero-sum terms and defines “fairness” as a clear win for his side. Under the circumstances, anyone serving as president of Mexico will have little choice but to assume an antagonistic stance toward the US leader or risk being perceived as weak.
That will apply to the ongoing negotiations for changes to NAFTA. In contrast to the current and past presidents, AMLO has long been a critic of NAFTA and has made clear that he is prepared to walk away if Trump is unreasonable in his demands. Pena Nieto has already begun to take steps to make that a credible threat, and AMLO will undoubtedly make the diversification of Mexico’s trade relations a priority for that reason.
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Turning to our risk ratings and forecasts for June, we see a continued trend of sagging consumer confidence levels in most of Europe with some notable exceptions, such as Luxembourg and Denmark – the latter characterized modest growth enduring and a large current account surplus, although price inflation is up.
Accentuating the political risks of the region, fissures continue to plague Belgium’s governing coalition; securing a satisfying immigration deal with the EU by July 1st could seriously undermine Germany’s coalition government; and Matteo Salvini’s position in Italy’s new regime – and the recent local wins for his party – suggest his anti-immigration, anti-EU message is attracting an increasing number of voters.
Not too surprisingly, the euro has weakened against the greenback for most of this year, so Spain’s bond sale this week will be an important test to determine whether the euro can withstand this latest round of political risks.
Meanwhile, parts of Latin America remain in a less-than-sanguine condition. In Nicaragua, violence, protests and faltering peace talks suggests President Daniel Ortega’s ability to serve out the remainder of his term in office is increasingly doubtful. However, an early exit by the president – should no stable political coalition be assembled to replace the president’s administration – could result in chronic political dysfunction that creates an opening for the infiltration of state institutions by criminal gangs.
Similarly, in Guatemala, consumer confidence has been declining since April, and the government’s mishandling of the volcano disaster has resulted in protests, suggesting the chances its re-election have dwindled considerably.
The risk profiles of parts of Africa are also worth noting: In Mozambique, PRS expects the upcoming election campaign to be fraught with unrest, with the likelihood of further attacks by Islamist groups continuing.
Conversely, the state of emergency in Ethiopia (parts of the law were lifted several months ago) was removed two months earlier than initially planned, as the authorities say order has been restored. The move should take some pressure off the government by the international community. But given the history of ethnic conflict in the country, and that measures to address public spending through taxes have been met with protests, for example, tensions will remain.
Looking at ICRG’s composite scores for the month (which are a combination of political, economic, and financial risks), we note the risk profiles of the following countries have deteriorated most over the past year:
Conversely, the risk profiles of the countries below have improved the most since last June.
Clients should consult Table 1 of ICRG for a complete listing of the changes affecting the 140 countries covered.
Other risk indicators, such as debt servicing costs (as a percentage of exports of goods and services) and current account deficits (against GDP growth) are also important to emerging and frontier market investors as they drive valuations and currency flows. Of those countries having the riskiest debt servicing costs, several stand out:
Those having large current account deficits are:
- Sierra Leone
Again, clients are advised to consult the relevant tables for trends in these and other, related risk metrics.
Once again, we would like to note that a new book on political risk is slated for a December release. This collection, co-authored by Peter Marber (www.petermarber.com) and Christopher McKee (www.christophermckee.net) will cover topics as diverse as technology and future unknowns, artificial intelligence, new forms of military warfare, foreign direct investment in high-risk environments, as well as concepts and approaches and rating systems. Given its depth and the stature of those writing the various chapters, the book promises to be a landmark contribution to the field.
As is the case on regular basis, our data are employed by a range of academic institutions and multilateral bodies. Researchers recently looked at how private debt systematically turns into higher public debt, which operates largely through the growth mechanism as opposed to explicit bailouts. Using our data on institutional quality, the paper found that private deleveraging weighs on activity, prompting a countercyclical government response to support economic growth. Consequently, whether this debt substitution results in a net increase or a net decline of overall indebtedness in the economy depends on the extent of the growth slowdown during the deleveraging spell. (http://www.imf.org/en/Publications/WP/Issues/2018/06/21/Bailing-Out-the-People-When-Private-Debt-Becomes-Public-45904).
ICRG’s June risk ratings were significant in number, as the risk profiles of some 45 countries were adjusted, affecting some 55 individual political risk metrics.
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