Development and Growth in the Mexican Economy: A Historical Perspective

If all you have is a hammer, all you see is nails. Mexico, however, is plagued with loose screws. These screws have become way too loose over the past 25 years as economists and politicians have hammered away at the wrong problems.

Such is the diagnosis of the Mexican economy conducted by Juan Carlos Moreno-Brid and Jaime Ros in this enlightening new book. Moreno-Brid, a senior economist at the United Nations Economic Commission for Latin America (and former visiting fellow at DRCLAS) and Ros, a distinguished professor of economics at the University of Notre Dame, have produced the first ‘development economics’ history of Mexico.

In contrast to other economic histories of Mexico, and economic history in general, Moreno-Brid and Ros deploy an approach pioneered by two Harvard development economists, Dani Rodrik and Ricardo Hausmann. Referred to as “growth diagnostics,” this analytical framework is an attempt to move beyond ideological and atomistic theoretical and empirical approaches to an economy. Simply put, the goal of growth diagnostics is to figure out what the core binding constraints are on an economy, and then to work to loosen them.

The authors analyze the Mexican economy from independence (1821) to the present financial crisis. The book has many findings that add to or contrast with those of previous histories of the Mexican economy. The authors find that the Mexican Revolution did not stunt growth as much as others have argued, and that the country was hurt much more by the Great Depression than had been previously understood. They estimate that during Mexico’s high-growth period of 1940 to 1970, agricultural growth was more significant than had been thought, and the economic costs of trade protection were smaller than the literature has suggested. Further, they find that Mexico’s recent reduction in poverty and inequality is due more to a demographic transition than to government poverty programs or remittances by Mexican migrants in the United States.

The most striking and prescient new findings relate to Mexico’s recent growth performance.

In contrast to growth diagnostics is the prevailing “one size fits all” approach of hard-line neo-classical economists and right-wing policymakers. These folks have hammered on the same diagnoses for Mexico and other developing nations for years: get the government out of economic affairs, once and for all and as quickly as possible! Mexico took this advice and, from the mid-1980s to the present, has liberalized, privatized, and globalized nearly all of its economic activity.

Boy, did Mexico get hammered. During this period, Mexican incomes have grown less than one percent per annum. Mexico has fallen victim to two financial crises (one of its own making and now this current one); domestic industries and investment have been all but wiped out; financial instability has been persistent; global competitiveness has slid; wages have been stagnant; and poverty and inequality have remained grave.

These facts are well known and not controversial. The analysis of their cause and remedy, however, is as controversial as it can get.

Harvard graduate Felipe Calderón won the 2006 presidential election as a representative of the center-right-wing party, the PAN. Since taking office Calderón has held the view that the Mexican economy is not performing well because it still has more liberalizing, privatizing, and globalizing to do. After reading this book, it does not appear that Mexico’s new president took any classes at Harvard with Rodrik or Hausmann.

Moreno-Brid, who is a former DRCLAS Visiting Scholar, and Ros take issue with Calderón’s approach—as well as with the policies of the U.S. government (which formalized them through the North American Free Trade Agreement in 1994) and of the international financial institutions that support this view. To the authors, Mexico suffers from two things: first, an incorrect diagnosis of the true binding constraints that the economy faces, and second, the lack of political consensus on that very diagnosis.

Moreno-Brid and Ros see Mexico’s lack of investment as the single most binding constraint on economic growth in Mexico. Investment in an economy leads to economic growth. A general rule of thumb is that developing nations need investment to be at about 25 percent of GDP to maintain the growth rates needed to catch up to more developed countries. East Asia has steadily been over 30 percent since the 1970s.

Total investment as a percentage of GDP in Mexico has gone from 25 percent for the 1979-1981 period to 20 percent in the2004-2007 period. Declining investment has been the result of a fall in public investment (thanks in part to Mexico’s numerous privatizations and weak tax base), an overvalued exchange rate, which has led investors to look elsewhere, the lack of government policy geared toward industrial competitiveness, and the lack of financing for domestic manufacturing firms.

Such a diagnosis implies that Mexico should increase its tax base and engage in modestly expansionary macroeconomic policy alongside financial reforms and an aggressive effort to modernize its domestic manufacturing base. If done right, the initial increases in public investment could “crowd in” private investment in Mexico, leading to sustained and more balanced economic growth.

Looking back, Moreno-Brid and Ros show that it was a similar mix of policies (and a political consensus behind them) that led to Mexico’s golden age of economic activity in the 20th century, from 1940 to 1970. During that period, average incomes grew by 3.2% per year and the gap between average incomes in the United States and Mexico narrowed.

If one wished to quibble with parts of this otherwise excellent book, it would be only to note that the reader is left somewhat guessing as to the exact nature of this public investment in industrialization, and how such policy should be re-constructed in future. What did industrial innovation and education policies feature back then? How might a country’s government develop a world-class industry today? UN economist Mario Cimoli’s book, Developing Innovation Systems: Mexico in Global Context can serve as a useful companion to help answer these questions about Mexico’s past, while Dani Rodrik’s One Economics, Many Recipes can help formulate industrial policy for the 21st century.

Overwhelmingly, however, this book is pioneering in its approach and striking in its findings. It is essential reading for anyone interested in economic development in Mexico and Latin America and in development economics in general. In a more immediate sense, it can help Mexican policymakers and managers of international financial institutions better understand the binding constraints to economic development in Mexico so that they may produce a more sustainable development path for Mexico’s future.