Europe in Mexico

The budget, said Schumpeter, is “the state stripped of ideological pretensions”. True to this principle, in Mexico public budgets serve private interests. Only a new federal-fiscal pact would correct this.

Today’s budgets are not like those in the past. Until the mid-nineties, the federal government decided how to collect and how to distribute and spend public funds. At present, tax collection continues to be essentially federal, but government spending is mainly in charge of the states and municipalities. This creates perverse incentives and begs the question: Are we precipitating a European-style crisis?

Although the European crisis features many dimensions, its heart lies in a fundamental problem that Alexander Hamilton had already anticipated 200 years ago: there can be an alliance among sovereign entities, or there can be a government that governs the citizens of these sovereign entities. What there can’t be, said the Secretary of the Treasury of the then-nascent American Union, is the “monster of a government of governments”. In financial terms, the latter model implies that there is no built-in mechanism that supplies funds to pay the debts that these governments incur.

In Europe, every country has its government that collects taxes and spends these, but 17 dissimilar nations share a common currency. Each country has conducted its affairs to the best of its understanding.Thus, while Germany dramatically increased its levels of productivity in the last decade, Italy fell in arrears. In a world of independent currencies,Italy would have ended up devaluating its currency to compensate for these differences. However, thanks to the existence of the euro, the common exchange medium, Italy cannot resolve its situation by means of devaluation. In addition, through a decision of the Bank for International Settlements (BIS, the central bank for central banks), all debts of euro-zone countries were considered sovereign (guaranteed by their governments), therefore risk-free. This decision, more political than economic, led to European banks cheerfully lending without building up reserves were someone not be able to pay them.

Is this situation akin to Mexico’s? Uses and abuses of public funds here are legendary. In Mexico no one is surprised when a governor utilizes public treasury monies to upgrade his image or that public funds are dispensed in the most awkward ways without anybody blushing. Although governors cannot print their own money, recent experience (e.g., Coahuila) shows that through deceit and the manipulation of information, a state government can get itself into unlimited debt, something similar to having their own currency.

The use and distribution of public funds is serious to the extreme. To begin with, perhaps one of the main reasons that public spending in Mexico has very little capacity to stimulate economic growth pertains to its peculiar fiscal system.

The federation collects and the states spend. Given the political power that governors have accumulated in recent years, their expenses are taboo, and, for all practical purposes, they are not accountable to anyone. From an economic perspective, many, perhaps the majority of projects promoted by governors, have little impact because their logic is frequently more political and electoral than economic. Of course they build roads and other services, but not necessarily those that generate the greatest economic impact.

Without the desire of proposingto return to the centralized system of the 1950s and 1960s, it is important to understand the difference. During that era, the Mexican Ministry of Finance had enormous “pots” of money that it devoted to development projects. With a small army of economists, the Ministry evaluated the cost-benefit of each project to determine the highest multiplier effect. In this manner, one year they allocated these money pots to electrification of the Southeast and another to constructing Cancún or the highway to Querétaro. The basic objective was to achieve a high rate of economic growth.

The current rationale of the governors is very distinct. Above all, they conceive of themselves as future presidents and view the expenditure as a personal marketing tool. Second, even among those more modest in their individualpretensions, few have a team with the analytical capacity to determine the most salubrious use of the expenditure. In addition, the “money pot” aggregated at the federal level is not the same as 32 disperse state budgets.

To all this we must add the “European element”: the governors do not collect taxes, they only spend. This is more convenient for them, but terrifying for the growth of the economy. This scheme denies the right to the citizenry to upbraid the governor: their faculty of exacting accountability. The governor is delighted for the money to be collected from afar, thus having no need to explain anything to the local citizenry. But the consequence is that the country has lost economic dynamism in good measure due to the current distorted fiscal system.

Facing forward, one of the principal priorities must be the fiscal structure of the country. The phenomenon retains many rough edges and one cannot be resolved without the others being affected. Today, a significant part of the federal budget is financed with oil money, the latter ending up in the states with no control or planning. The citizenry is not of a mind to pay more taxes, at least partly because it is well aware of how these funds are spent.

Inevitably, if we want to recover the growth capacity of the economy, we will have to construct a new fiscal structure in such a way that the taxes collectedmatch with federal- and well as with state-level expenses. The federal government will be required to free up significant resources to Pemex for the company’s growth, and state and municipal governments will have to collect taxes at the local level, above all property taxes. Such a change in the rules will demand extraordinary political capital.

At the same time, with respect to tax collection, changes such as these will only be possible inasmuch as the citizenry observes a new power relationship with its governments at all levels. In these times better tax collection is impossible without improving the use of the money and performing responsible checks and balances thereupon. This is the quandary of our fiscal reality at present.

Power in Mexican society has been decentralized in such a way that it has generated more veto capacity than creative opportunities. The solution does not reside in an impossible recentralization of power but rather in a new federal equilibrium: a novel political arrangement between the federation and the states and municipalities that incorporates rules and incentives for public monies to join forces in a sole objective: to generate greater economic growth.