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Mexico: Well Equipped to Address Global Risks

MEXICO, April 19, 2012 - In an increasingly globalized and intertwined world, countries face uncertainties and risks and no single economy can be completely immune to shocks. More integration with international markets, while bringing advantages, often also means higher exposure to risks.

The new World Bank report "Latin America copes with volatility, the dark side of globalization" highlights such perils but also countries' capacity to deal with uncertainty.

Take Mexico for example. Although its economy is highly exposed to certain external shocks, it is relatively well prepared to respond to them, compared to other countries in the region, the report finds.

Some major risks facing Latin American economies and Mexico's by default include:

Financial meltdown in the Euro-zone and the weak outlook for the US economy

Growth decline in China, with an impact on commodity prices

Increase in risk aversion in international financial markets

With 80% of Mexican exports going to the US, a slow economic rebound there could have substantial effects on the Mexican economic situation.

Trouble in the Euro-zone and China would impact Mexico to a lesser extent: only 6% of Mexican exports go to Europe and 3% go to China. More to the point, Mexico is quite exposed to fluctuations in oil prices, as one third of Mexican public revenue comes from oil income.

Albeit vulnerable to risks, Mexico is well prepared to absorb shocks says World Bank lead economist for Mexico Paloma Anós Casero. "Mexico is highly exposed, but because it has more ability to respond thanks to good policy, it is broadly resilient to these shocks," argues Anós Casero, who made this very case in a blog entry published by CNNMexico.

Compared to Central American countries, similarly exposed to shocks from the US economy, Mexico compares favorably in view of its capacity to respond with an array of policies, says Anós.

Sound Fiscal Policies

Here is why.

First, Mexico's fiscal policy is sound. Despite a fiscal deficit and the potential risk of an oil price decline with deep economic consequences, the country has prepared to counter shocks with instruments such as an oil revenue stabilization fund or contracting oil hedges. This is essential for the country to make sure it has enough public expenditure to ease the impact of a crisis, explains Anós Casero.

Secondly, Mexico has a good reputation in financial markets, due to its low public debt level. Moreover, inflation is moderate on the heels of a credible monetary policy regime and the Mexican Central Bank's room to lower its interest rate --key to mitigate the effect of a crisis on the domestic market.

Also, the country has a flexible exchange rate regime, a good shock absorber as it can allow the currency to depreciate and support its exports in case of a crisis.

Short term, Mexico should keep building these policy buffers to cope with external shocks, says Anós Casero. "In the medium term, there is no room for complacency, because the country still has low growth," she adds.

Mexico's economy is projected to grow at 3.5% in 2012 but faster growth is needed to address pesky high levels of poverty and unemployment, –Anós Casero says.

"The challenge for growing more is that Mexico still has low productivity, so it really needs to have policies that foster productivity such as improving the investment climate or education," she says.

Smart social policies would also be good for promoting inclusive growth and addressing the social gap. Should a crisis erupt, Mexico's current policies should be able to protect the so-called chronic poor. But there is a danger for the "transient poor", those who are just above the poverty level and who might become poor after the start of a crisis, Anós Casero warned.