Sunday, October 26, 2008

Keynesian policies: The Mexican way

While most countries around the world are preoccupied with their financial institutions -as a strange new way of nationalism-, Mexico took, for the first time in many years, a decision of policy that resemble Keynes' prescriptions.

But in what extent are this measures really a burden on fiscal balance? How will this new expenditure can help Mexican economy to stem economic growth? Or to tam economic slowdown?

The answer to the first question is really just an accounting update. Before the latest reform of the budgetary law, debt in the form of long term commitments for infrastructure, known as PIDIREGAS, were outside fiscal balance artificially, along with a program for reestablish highway quality known as FARAC, both in the form of debt, the latter considerably smaller in GDP terms than the former, constitute the financing mechanism PEMEX and CFE -electricity public firm- had to increase the volume of their infrastructure projects.

Another account change that took place was: Public Sector Balance is composed by the sum of the government balance and the public enterprises balance, so Mexico had indeed a balance budget for the last ten years, but in the former sense. Government issued debt -among this debt PIDIREGAS- and exhibit a deficit, while public enterprises were forced to have a balance sheet with surplus thus adding up to zero.

This scheme worked while fiscal balance had to be sustained close to zero, but this year, the budgetary process lacked an exogenous source of revenue, and so, a fiscal stimulus was needed to increase government budget with respect to last year's.

The fiscal stimulus born with the reform of budget law, PEMEX was not forced to have a surplus to compensate government deficit, in exchange for its independence PEMEX should pay PIDIREGAS debt associated with oil projects. Thus 78k million pesos will be at government disposal for 2009's budget.

The second question is considerably more difficult to answer. So far 53k millions of pesos would be allocated to expand infrastructure, a plausible demand stimulus policy of short run. However, global slowdown is pulling down growth expectations everywhere. Mexico is not the exception, but, for sure, if there is a year that mexican government should push growth through short run policies, such as public spending, it is 2009.

Exceptional policy times

This are indeed exceptional times in financial history. U.S. Government put through Congress its proposal, which leaves 700 billion U.S. dollars, has not changed markets' perception of distrust.

Even though several countries in Europe have followed the U.S. with similar measures with considerable few resources, are, apparently much more focused on reestablish people's trust on financial institutions and the financial markets. This complicated environment claims for the necessity of address base scenarios, the first question to answer is: how to avoid the financial meltdown? Thus avoiding any risk of depression. Reestablish trust. As Europe attempted, although it's still the complicated task to achieve. A coordinated action could be used.

But then again, how can trust be reestablished? Sadly, putting public resources there for buying financial institutions' deposits, temporarily. Buying toxic assets is the worst investment a government can make. There wont be any market for toxic assets as their value converge to zero. Banks should continue the writing down of bad assets they bought. Sound institutions should continue to buy hurt ones. A normal market mechanism in the way to stability.

What role does monetary policy can play amid the financial crisis? A lesser every time. Efficiency of monetary policy was always sustained on the financial market's ability to quickly spread actions through future markets, swaps, warrants and an endless list of assets. However current conditions claim for outside push of institutions,regulations on market formation can make the difference.

Monetary policy eases won't help economic growth since its channels of transmission are all broken. A public spending stimulus presents as the policy action to go with. So this means that keynesian policies should be implemented to restore economic growth, with the corresponding commitment of future fiscal surpluses to restore balance.

Regulation and public spending are the policy actions in current environment. Neither means, in any way, that market mechanisms are doomed.