Crony capitalism

Former Mexican President Andrés Manuel López Obrador. Image credit: Sipa US / Alamy.

by Macario Schettino.

In the 20th century, the Mexican economy - like the rest of Latin America - chose a policy known as Import Substitution Industrialization. The goal was to produce in Mexico what would be consumed domestically, and to achieve that, tariffs were imposed on imported goods. In theory, infant industries would be able to survive, become competitive, and tariffs could then be eliminated. The opposite happened: tariffs had to be increased because domestic industry never became competitive. Eventually, the economy was completely closed off and suffered its worst peacetime crisis in 1982.

In 1986, an attempt was made to reverse course. Mexico joined the GATT, implemented an anti-inflationary plan, renegotiated its external debt, and even signed a trade agreement with the United States and Canada. After a deep but brief crisis, the benefits of NAFTA became evident. In the final years of the 20th century, Mexico grew at rates it hadn’t seen in decades.

In 2001, China joined the WTO (GATT’s successor), and the dot-com recession hit the United States. This derailed the Mexican economy, which was unable to resume strong growth, instead remaining at an average annual rate of around 2%. During those years, many studies - by Mexican and foreign academics, agencies, and institutions - tried to identify the reasons why Mexico could not grow faster.

All of those studies pointed to growth constraints: inadequate institutions, poor education, lack of infrastructure, but above all, a lack of competition in both input and product markets. A labor market with very restrictive laws and, at the same time, massive informality, along with big business protected from competition. Both problems stem from the era when Mexico chose to industrialize by closing its borders.

The Mexican economy was built on what economists call "crony capitalism." To build a large company, political support was required—and that came at a price. Great fortunes in Mexico were built around this alliance between politicians and men who claimed to be entrepreneurs. The political counterweight was the unions, also created by the state, which also had alliances between politicians and union leaders. These alliances underpinned the Mexican political system and therefore were never touched—neither with trade liberalization nor with NAFTA. As a result, while the direction changed, the outcomes did not.

Thanks to the studies mentioned, public opinion increasingly embraced the idea that deep economic reforms were needed — ones that would free up markets and improve education quality. Although many of those reforms could have been implemented during the National Action Party (PAN) administrations, the Institutional Revolutionary Party (PRI) did not want to hand them that victory and assumed that only they could implement them successfully, since the alliances with crony businessmen and union leaders were their own.

Enrique Peña Nieto’s victory in the 2012 election opened the door to those reforms, which were supported by the factions of PAN and PRD that no longer followed their former leaders, Calderón and López Obrador. The reforms were serious and affected the interests of business elites (telecommunications, electronic media), unions (education and energy reforms), and even the middle class (tax reform). As with all serious reforms, they immediately provoked backlash and received little support. The reformers assumed that merely passing the laws would be enough to change the country’s path. And it did - but in a different way.

Those hurt by the reforms decided to support someone who promised to eliminate them: Andrés Manuel López Obrador. He had the clear backing of the teachers', oil workers’, and electrical workers' unions, and financial support from telecommunications and media moguls. He won a sweeping victory in 2018 and repaid their support.

López Obrador reversed the education reform, blocked the energy reform, favored certain business elites, and kept only the tax reform - because he needed the revenue to stay in power and secure the next election. The result was a reduction in economic growth to less than half of what it had previously been.

The Mexican economy’s conditions were poor, which is why growth between 1980 and 2018 was only 2.2% annually. Now they are worse, which is why growth since 2018 has barely exceeded 0.8% per year. The underlying problem, however, is very clear. It’s called crony capitalism.