MEXICO: An Introduction
MEXICO COUNTRY OVERVIEW
Contributed by Michell Nader S., Partner, Nader, Hayaux & Goebel © (Mexico City-London)
The ongoing COVID-19 global pandemic has weighed heavily in Mexico and has accentuated long-standing challenges, such as poverty and inequality. While we slowly emerge from the pandemic, certain positive signs cannot be ignored such as fiscal discipline, a strong manufacturing base, a positive balance of trade, access to the USMCA trade agreement and other factors which make Mexico the number one trading partner of the US.
The Mexican government has continued to implement public policies focused on austerity, direct gifts to certain segments of the population, and infrastructure projects such as a new international airport in Mexico City, an oil refinery and an intercity railway in the Yucatán Peninsula.
Congress has approved controversial bills, such as the judicial reform mentioned below, the banning of outsourcing of personnel except for certain specialized works outside a company’s main economic activity, and the creation of a national registry of mobile telephony users that will include biometric data of users with the aim of preventing crime.
The judicial power has continued to play a crucial role in counterbalancing governmental action, halting several administrative and legislative actions through constitutional remedies.
In the political front, although the government’s party controls both legislative chambers together with allies, it lost an important number of lower house seats of Congress in the mid-term elections carried out in June 2021. The new distribution of seats in Congress will require alliances among two or more parties to achieve a super majority vote of two-thirds of both houses in Congress to pass a constitutional amendment.
The COVID-19 pandemic came at a time in which the Mexican economy was already in recession, causing a deep economic contraction of 8.3% in 2020. There has been partial recovery since then and the economic forecast thus far in 2021 is an expansion of around 5%-6%. Such expansion will benefit from the strong recovery of the United States and low interest rates, supported by manufacturing exports, increase in private consumption, remittances and vaccine rollout. Among the industries disrupted by the pandemic, the aviation and hospitality sectors were probably the most severely affected due to travel restrictions and a slump of demand, which has forced Mexican airlines to commence restructuring proceedings which are underway. Recovery from the pandemic will require a strong domestic rebound, and even though Mexico’s Central Bank has kept interest rates relatively low, the federal government has no plans on approving additional fiscal stimulus.
Unlike other countries, Mexico has retained a strict fiscal discipline which has permitted it to maintain a stable currency with, like other countries, an inflationary spike expected to yield as supply and demand become more balanced. The Central Bank will have to work a narrow path between financial stability, growth, inflation and the exchange rate.
We are witnessing a strong rebound in economic sectors such as tourism and manufacturing, and investments from institutional investors never seen before in technological companies, including in fintech, logistics and e-commerce. Also, several debt restructurings taking place in a variety of industries may result in increased M&A activity in the short term.
Energy and Infrastructure
The Mexican government presented an almost $14 billion infrastructure investment plan which includes around 39 projects ranging from a concession to revive a train link between Mexico City and the central city of Querétaro, as well as investments in Pemex, although it has not yet been formally issued and has not commenced implementation. The government should favour critical projects to rehabilitate our energy grid, to avoid risks in electricity supply in the coming years.
Energy regulators and the Ministry of Energy (SENER) issued throughout 2020 a series of administrative resolutions aimed at favouring CFE and eliminating incentives to develop new sources of renewable energy. In early 2021, Congress took the most significant measure yet by approving amendments to the electricity law, which mainly sought to change the criteria and the form of dispatch of electricity to favour CFE’s conventional plants. In the oil & gas sector, Congress amended the hydrocarbons law to strengthen Pemex by imposing additional requirements to private parties to obtain permits and imposing new causes of revocation. Federal Courts have halted such amendments to laws through the granting of suspensions, pending final resolution.
With the reconfiguration of the energy sector, in addition to the generation and transmission projects to be tendered by CFE, we will probably see an increase in distributed generation and isolated supply projects, to address the electricity needs of industrial and commercial offtakers.
United States-Mexico-Canada Agreement (USMCA)
The USMCA, which became effective July 1, 2020, is substantially consistent with NAFTA, which was in place for twenty-six years. However, it includes a number of modernizations such as a revised investor-state dispute settlement mechanism, new rules of origin and regional content requirements, and most notably, a rapid response labour mechanism for dispute resolution for alleged violations of labour rights, which seeks to improve workers’ rights in Mexico and discourage US companies from moving their operations south of the border. Under such mechanism, the US Trade Representative’s office and the American Federation of Labor and Congress of Industrial Organizations (AFL-CIO) filed two complaints in less than a month during 2021 in order to review whether workers at auto-parts companies on the Mexican border were denied labour rights.
Congress approved a bill as part of a broad effort to improve efficiency and reduce corruption in the judiciary, which includes imposing mandatory evaluations and creating a new judicial academy, among other measures. It also extended by two years the term of the Supreme Court chief justice and the entire Judicial Council that manages the Federal Courts, which has caused controversy as being perceived as a political move of the executive branch to interfere with the judiciary in violation of Constitutional principles such as the autonomy of the judicial power and the separation of powers.
The abovementioned changes in the energy sector were challenged before Federal Courts by private parties, ONGs and the Mexican Antitrust Commission (COFECE) on grounds of violations to constitutional principles such as free competition, free concurrency, non-retroactivity of the law, and judicial certainty, among others, and Federal Courts have granted constitutional injunctions pending final resolution; as of this date, such changes remain suspended.
The implementation of the national registry of mobile telephony users has also been suspended by Federal Courts through the granting of injunctions.
Other developments in the judicial branch include the ruling by the Supreme Court declaring that the prohibition of the recreational use of cannabis is unconstitutional, which ended the criminalization of such use.
Environmental, Social, and Corporate Governance (ESG)
Mexico’s incorporation to the global shift to green and sustainable finance and ESG principles has begun, with regulatory changes applicable to Mexican pension fund managers (AFORES), to become effective in 2022, requiring them to make an ESG analysis on their investments. Mexico’s Central Bank is keen to enact regulation for financial institutions that takes into account environmental and climate change risks. We have also seen an increase in the issuance of green and sustainable bonds driven by European banks.
To address the pandemic, COFECE issued a policy establishing a set of criteria to allow certain types of cooperation agreements between competitors or non-competitors, for purposes of maintaining or increasing supply, satisfying demand, protecting supply chains, avoiding shortages or hoarding of goods, provided that such collaboration is temporary and for purposes of the pandemic, without having negative effects on consumers. A focus has been placed by the regulator on energy, transport, financial, medicines and passenger transportation markets in order to promote competition to support the recovery of the Mexican economy.
2020 and 2021 have been characterized by the focus on a strict exercise of the tax authorities’ audit in order to increase tax collection, which has been emphasized as a main goal of the current administration. As part of such effort, the administration has enacted mandatory disclosure rules which entered into force in January 2020; given the scope of this change, it is still unclear how the tax authorities will manage the bundle of information that is expected to be received.
Among the few tax changes, the revised rules applicable to non-resident tax transparent vehicles entered into force as of January 2021. Under such rules, non-Mexican transparent vehicles will in principle be treated as opaque for Mexican tax purposes, unless the vehicle is used as a private equity fund and provided various conditions are met, including securing a registration with the Mexican tax authorities.
The labour reform also included certain amendments to tax laws to restrict outsourcing services, which had been abused in the past to the detriment of employees and tax collection. After months of negotiations, the law enacted in April 2021 provides specific requirements under which outsourcing services may still be provided. The entry into force of such amendments has had a significant impact on the way in which Mexican companies conduct their operations, thus leading to important corporate reorganizations in order to comply with both labour and tax provisions, and securing the proper tax deduction of such expenses.
Finally, the executive branch continues to maintain its position in the sense that no new taxes are expected to be enacted in the short term, but some speculations and uncertainties remain about the potential enactment of a Mexican estate tax.