Rising exports and a growing middle class bode well for Mexico’s chemical demand, but NAFTA renegotiations, Presidential elections and the slow pace of energy reforms are present concerns.

Solid Demand Factors but Political Risk Rising

March 27, 2018

‘It was the best of times, it was the worst of times’. Looking back at the current period, it might be tempting to refer to Mexico’s economy and wider macro picture by using Charles Dickens’ famous epithet. On the one hand, compared to its major Latin American peers, Mexico’s economy has performed reasonably well in recent years, given that Brazil is crawling out of its worst ever recession, while Mexico has chalked up an average of 2.5% annual GDP growth over the last two years. Mexico has also amassed real manufacturing prowess: it is now the fourth largest vehicle exporter in the world, for example.

On the other hand, there is an encroaching sense of uneasiness among business leaders. True, the economy is doing reasonably well, but GDP growth slipped from 2.9% in 2016 to 2.1% in 2017, a significant slowdown. In fact, industrial production fell in nine of the 12 months leading up to October 2017. Furthermore, the United States is driving a hard bargain in the NAFTA negotiations which has unsettled some investors. More significantly, Mexico is due to hold presidential elections on July 1st 2018, and the current frontrunner, Andrés Manuel López Obrador, has threatened to scrap investor friendly policies such as the landmark 2013 energy reform.

Other factors dampening the mood are that 2017 was the most violent year on record and the government has been carrying out a fiscal consolidation program which has led to a curtailing of its infrastructure spending that has acted as a drag on the economy. Investors are generally more worried about the prospect of Obrador’s left-wing populism than they are about NAFTA. Underscoring this, Focus Economics’ consensus forecast of economists predict Mexico’s GDP growth will be 2.2% in 2018, which is lower than forecasts for all other Latin American countries except Ecuador and Venezuela. “The elections next year are more worrying than the NAFTA renegotiations. There are some dark clouds forming around NAFTA but this is unlikely to affect the chemicals industry greatly,” remarked José M. Berges, CEO of leading Latin American distributor GTM, speaking in 2017.

 

Mexico revs up its engine

Mexico’s consumption of chemicals rose by over a fifth from 2012 to 2016. Two key factors mean that demand for petrochemicals and chemicals in Mexico are strong and will remain so going forward. First is a rising middle class: according to Euromonitor International, 47% of households were in this category by 2015, equivalent to 14.6 million households, and this number is set to rise to 18 million by 2030, equivalent to all the households in Spain. Such households devote almost half of their budget to discretionary goods and services, like food and alcoholic beverages and personal care, as well as having more money to spend on household goods; all products with a high demand for thermoplastic resins, as well as specialty chemicals.

There is also an increasing demand for chemicals from food and feed which points to growing food demand and agricultural market in Mexico. “Food and feed, water treatment, household and personal care are some of the key high growth industries for us… A growing middle class with more disposable income as well as the growing global requirement for food and clean water are some of the main growth drivers behind this,” explained Gerardo Manzano Alba, executive director of fast-growing Latin American distributors Pochteca.

There is still a large gap between middle class incomes and those of the highest earners, with the middle class being closer to the poor in income level. Despite Mexico’s leading position in the production of cars and home appliances, less than half of middle income households own a car and dishwashers are a rare luxury. Therefore, domestic demand is not necessarily driving industrial production. This situation points to another important demand driver for chemicals in Mexico, namely export growth. Exports grew by 13.2% in the first ten months of 2017, with consumer goods rising by the most (18%) and automotive exports rising by 12.1%. Aerospace is another important driver, with the value of exports rising from US$3 billion in 2008 to around US$7.5 billion in 2016.

These industries demand chemicals such as lubricants and paints and coatings, which is good news for the chemical industry. “We also have dedicated teams to serve basic industries like automotive and general manufacturing, where there is a large demand for lubricants, metalworking fluids and other chemicals. Mexico exports more manufactured goods than the rest of Latin America combined,” continued Manzano.

 

Recovering Extractive Industries

Any analyst of the extractives industries knows that the oil and gas and mining industries go through dramatic cycles, and Mexico is no exception. The country’s main mineral commodities are gold, silver (Mexico is the world’s largest producer), copper and zinc which took a hit during the end of the commodity super-cycle since 2014 but have recovered more strongly than other minerals. The gold price, for instance, had its best year since 2010 in 2017. Buoyed by these trends, Mexico experienced a 50% year-on-year increase in mining investment in 2017.

A stronger gold and silver market has been welcome news for the chemical sector given that sodium cyanide is used to extract the minerals. Evonik and Grupo Idesa have reaped the benefits through their joint-venture to produce sodium cyanide in Mexico and GTM recently signed a partnership agreement with Chemours to distribute the compound. “If gold and silver production in Mexico continues to develop positively there will be the opportunity to expand. Mexico is the most important market in terms of sodium cyanide in the world given that it is a leading producer of gold and silver. We have trust in the Mexican market and want to be close to our customers who are expanding capacity and looking at new projects,” commented Martin Toscano, president of Evonik Industries de Mexico.

Mexico’s oil and gas industry was completely dominated by Pemex, the state-owned company, until President Peña Nieto’s 2013 landmark energy reform. Most analysts hailed the move given Pemex had become increasingly inefficient and production levels had dropped. Players in the petrochemical industry believe the reform will lead to oil and gas production rising again as private players enter into the market. This is gradually filtering through to more demand for chemicals. “Unfortunately, sales for oil and gas have suffered over the last few years as the industry has declined dramatically. We see signs of recovery and have placed some first orders for the end of the year,” remarks Berges.

There are of course risks on the horizon, but deep structural factors such as Mexico’s diversified economy, buoyant industrial production and growing middle class should keep demand for petrochemicals strong in the coming years. “Our expectation for the Mexican petrochemical industry is for gradual growth supported by imported raw material. Three basic industries continue to grow in Mexico: automotive, agriculture and aerospace. These industries support additional petrochemical demand growth,” says Rina Quijada, director business development Latin America at IHS Markit.

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