The 100-year view.

Investors take a century-long bet on boom-and-

bust Mexico
May 2nd 2015 | Mexico City | From the print edition

AT THE beginning of April international investors made two whopping bets by snapping up
the first ever 100-year bond denominated in euros. The first bet was that the euro would
still exist a century from now. No bookie would give short odds on that. The second was
that the issuer, Mexico, which suffered three long cycles of boom and bust in the past
century, would continue to be creditworthy for the next 100 years.

Mexicans, whose country has, as one economic historian puts it, lived longer in moratoria
than with access to capital markets, reacted with bemusement. A typically gloomy
columnist predicted that, since Mexico will have run out of oil by 2115, it will have to sell
off the countrys extremities to repay the bondholders.

The 100-year view

Foreign creditors are more bullish. Over the past five years they have extended the
equivalent of more than $5 billion of 100-year bonds to Mexico in three currencies: dollars,
sterling and now euros. It is the only country to have tapped the so-called centennial market
since China and the Philippines in the 1990s, and it has done so at relatively low yieldsof
6.1% on its dollar bond in 2010 and just 4.2% on its euro bond last month. Those are
extraordinarily good terms given Mexicos distinctly spotty credit record (see chart), which
raises two questions. How has Mexico managed to pull off this sale of the century? And
what are the chances of investors, or their grandchildren, getting their money back?
The answer to the first question is a combination of salesmanship and timing. The finance
ministrys bright, American-educated technocrats know how to attract attention from
investors who may not have considered Mexico before. The euro-denominated bond, for
instance, was sold largely to insurance companies and annuity firms. One advantage of its
long life, for borrower and creditors alike, is that it helps avoid the sort of overcrowded
redemption schedules that contributed to Mexicos debt crises in 1982-83 and 1994-95.

But in an era when the yields on the bonds of many rich countries are negative, Mexicos
main selling-point is a relatively high return for a borrower that last year received an A
rating from Moodys. On the day Mexico issued its euro-denominated centennial bond,
Switzerland sold a ten-year bond at a negative yielda first.

Mexico also stands out from other emerging markets in several ways. Although the halving
of the oil price has hurt the public finances, the peso has done better than many of its peers.
Agustn Carstens, the governor of the central bank, says Mexico has an arsenal of $195
billion of international reserves and a $70 billion credit line from the IMF in case of
financial-market volatility. That has helped to attract outsiders: foreigners hold 2.2 trillion
pesos ($144 billion) of domestic debt.

The government has further impressed investors by tightening its belt before times get
tougher. It has cut spending in an election year and is attempting to implement a string of
reforms aimed at bolstering competition in areas like energy and telecommunications that
have the potential to attract large sums of foreign direct investment. Mexico is a bright
spot among emerging markets. It is one of the few countries that has been fixing the roof
while the sun shines, says Andrew Stanners of Aberdeen Asset Management, a big
investment fund.
So why are few Mexicans so sanguine? Gerardo Esquivel of El Colegio de Mxico, a
university, describes the governments approach with a different home-improvement
analogy. He likens it to putting a bright coat of paint on the exterior of the house, while the
inside is rotting away. The problem, he says, is that the 20 years of macroeconomic
stability and flexible exchange rates that have endeared Mexico to foreign creditors have
been accompanied by meagre, narrowly based growth that depends heavily on exports.

Growth in output per person has averaged about 1% a year since 1995. Poverty levels have
remained stagnant. President Enrique Pea Nieto initially promised his reforms would bring
annual growth of 5-6%; his government has since had to lower its forecasts repeatedly.
Private-sector economists think growth will average 3.8% over the next decade, according
to a poll from the central bank.

The strength of Mexicos exports to Americaespecially carshas not translated into

booming domestic demand due to decades of miserly wages, economists say. A huge,
unproductive informal sector and general lawlessness also drag the economy down. The
pressure cooker effect of low growth, low wages and rising inequality of income and
opportunity could explode, according to Mr Esquivel. The Pea Nieto administration
doesnt understand this. They still talk in terms of trickle-down.

The government disputes this. Alejandro Daz de Lon, the finance ministrys point man on
the latest 100-year bond, acknowledges that Mexico has underperformed in terms of
growth. Productivity, job creation and wealth creation are the key issues for the future, he
admits. But he says the presidents reforms aim to address them. Moreover, he argues, the
lessons learned from Mexicos past booms and busts are so embedded among politicians
and officials that there is little chance of a slide back into financial chaos. He points to
Mexicos independent central bank, open financial markets and free-trade agreements as
guarantors of stability.

Demography is another card played by the optimists. A whopping 46% of the population is
under 25. Luis de la Calle, an uncharacteristically upbeat Mexican economist, says this
alone could turn Mexico into one of the worlds biggest economies within the next few
decades. He believes that the country will soon rue its 100-year issuance at 4%, because it
will be able to borrow far more cheaply. Well prepay that bond, no doubt, he says.

Whether countries repay their debts comes down to questions of political will as much as
economic performance, however. Some fret that Mexicos past will return to haunt it. The
country inherited a habit of default from the Spanish empire, which reneged on its debts
more than a dozen times between the 16th and 20th centuries. Mexicans have also
alternated repeatedly between an embrace of globalisation and a reversion to an inward-
looking nationalism.

For the first decade of the 20th century, for instance, international bankers threw money at
Mexico because of its macroeconomic stability, its railway boom and a global liquidity
glut. Then came the murderous revolution of 1910, which erupted partly because the fruits
of that prosperity had not been shared. Mexico defaulted on its debt in 1914. It was shut out
of capital markets for most of the next three decades. It did not become a big borrower
again until the 1970s. For bondholders to get their money back in 2115, Mexico must defy
its history and remain open to trade and foreign capital.