Mexico: A Move to Broaden the Country's Tax Base

At the end of last week, Mexico's lower house gave final approval for the to the revenue components of the FY2010 budget. There were some doubts whether the lower house would balk at raising taxes during the recession.

The revenue plans include raising the income tax rate to 30% for business and high income individuals. The tax rate will fall to 29% in 2013, and back to 28% in 2014. There is also a higher duty on cash deposits. Previously, the tax was 2% on cash deposits in excess of 25k pesos. The new tax is 3% on cash deposits above 15k peso. There is also a new telecom tax that will be implemented. Lastly the sales tax hike of 1% to 16% is permanent, though there had been some talk that it could have been a temporary increase. Congress rejected Calderon's proposal of a new 2% consumption tax.

Broadening the country's tax base is important, especially given that oil output has fallen. Oil funds almost 40% of Mexico's budget. Ironically, anticipated revenues were boosted by raising the forecast for oil to $59 from $53.90. President Calderon anticipated a 0.5% budget deficit in 2010 and now, despite the tax increases, the deficit looks closer to 0.75%.

The next step in the budget process now that the revenues have been agreed upon is in terms of expenditures. The spending plans need to be approved by Nov 15th.

The Mexican peso has strengthened today and this seems to be partly a function of some ideas that maybe the risk of downgrade (S&P and Fitch have Mexico on negative watch) have eased a bit. However, the bulk of the peso's gains Monday appear to be a reflection of US dollar weakness. In the second half of last week, the dollar found support just below MXN13.00. It tested MXN13.30 today before slumping to almost MXN13.06. However, the dollar's downside momentum is fading. Look for a near-term move back toward MXN13.15-18. Note that Mexican markets are closed Monday so the price action reflects primarily trading in the US.

In the futures market, the noncommercials extended net long positions to 66.7k from 55.1k. The noncommercials were net short peso in the first part of October. From Oct. 2 thru Oct. 20, the dollar slumped almost 7.4% against the peso.

Disclosure: No positions