A bright future for pensions in Mexico

After decades of stagnant growth, the Covid-19 pandemic hit the Mexican economy hard. Now, the country is looking to rebuild, with a chance to tackle some of its long-standing socioeconomic issues head on


Home to 130 million people and covering just shy of two million square kilometres, Mexico is a vast nation with tremendous economic potential. For decades, the country has been hotly tipped as an economy ready to boom, with experts predicting that Mexico could emerge as a global powerhouse as far back as the 1980s. Boasting abundant natural resources, a young labour force and enjoying a strategic location that is integrated with North America, Mexico is certainly ripe with economic opportunity. Its 3,000-kilometre border with the US means that it enjoys a lucrative trade relationship with its northern neighbour – worth over $650bn each year – while its impressive manufacturing capabilities make it the sixth biggest car producer in the world. In terms of sheer size, Mexico is among the 15 largest economies in the world, and ranks as the second largest economy in Latin America. So, if Mexico is such a force to be reckoned with, why does its economy continue to underachieve?

Over the past four decades, Mexico has struggled to achieve the levels of growth that economists had once excitedly predicted. Between 1990 and 2019, growth averaged just 2.4 percent per year – less than half of the expected rate for fast-growing developing economies.

“There are a number of deep-rooted and knotty issues that had prevented Mexico from achieving its full growth potential,” explained David Razú Aznar, CEO of Afore XXI Banorte. “From low productivity to a pervasive inequality and the prevalence of a large informal sector, the current administration has been forced to try innovative solutions to a long-standing history of socioeconomic challenges.”

And that’s without mentioning the impact of Covid-19. After decades of lacklustre growth and a pandemic-induced crash, it is safe to say that Mexico is at something of an economic crossroads. But if it chooses to be bold in its Covid-19 economic recovery plan – prioritising financial inclusion, sustainable investments and a strengthened social security net – Mexico will be well positioned for a remarkable post-pandemic transformation.

The Mexican miracle
Over the course of the past century, Mexico’s economy has been largely defined by periods of boom and bust. In the decades after World War II, Mexico pursued an ambitious programme of import-substitution and rapid industrialisation. Seeking to reduce its foreign dependency by boosting domestic production, the government adopted an inward-looking development strategy, introducing high protective import tariffs while launching tax incentives for products aimed at the home market.

This shift towards an industrialised, manufacturing-based economy ushered in a period of robust economic growth, known as the ‘Mexican miracle.’ Between 1950 and 1973, the nation’s economy grew by an average of 6.5 percent, prompting international economists to exalt Mexico as a model for emerging market development. On closer inspection, however, Mexico’s boom may have been more myth than miracle. While investors and business owners profited nicely from the country’s focus on domestic production, Mexico’s average workers didn’t feel the same benefits. Income growth was concentrated among the top 10 percent of households, widening the gap between the country’s rich and poor. By the early 1970s, inflation was rising rapidly, as was the public debt pile. Mexico’s mounting problems came to a head in 1982, when the economy crashed. With its foreign debt then standing at over $80bn and inflation approaching nearly 100 percent, Mexico was forced to turn to the IMF and the US Federal reserve for assistance.

This historic crash prompted Mexico to re-evaluate its stance on trade, shifting away from its previous inward-looking approach and instead taking steps to reduce tariffs and open itself up to international markets. In the late 1980s, Mexico entered into a series of free-trade agreements with other Latin American countries, and joined the North Atlantic Free Trade Agreement (NAFTA) in 1994, signalling that it was open for business. The agreement marked the beginning of what was to be a strong, long-lasting trade relationship between Mexico and the US.

In these times of severe economic hardship, the issue of financial security has never been more important for Mexico and its citizens

By 2003, 80 percent of Mexican exports were destined for the US, showing the significant economic ties that had quickly emerged between the two nations. While this trade relationship proved beneficial to Mexico through the late 1990s and the turn of the millennium, when the financial crisis gripped the US economy in 2008, Mexico’s reliance on its northern neighbour as an export market left it vulnerable to the knock-on effects of the US economic crash. Its dependence on the US market saw Mexico’s GDP contract by 6.6 percent in 2009 – the worst decline of any Latin American economy during the financial crisis. While its GDP has rebounded since the darkest days of the global financial crisis, growth has remained below its potential over the past decade, and despite some efforts to address its vulnerability, the nation’s economic activity has remained largely tied to external forces. But, as almost every nation around the world came to note in 2020, even the most careful and forward-thinking economic planning couldn’t have accounted for a global crisis on an unprecedented scale.

Time for action
We are now over two years on from the first Covid-19 lockdowns, and while many countries are now thankfully entering an endemic phase, the psychological and socioeconomic scars of the pandemic are still being felt worldwide – and will be for some time to come.

“The Covid-19 pandemic produced a global economic and health crisis and Mexico was no exception,” said Razú Aznar. “The health crisis unfortunately generated the loss of human lives, unemployment and a significant economic shock, which made the country face great challenges in the last two years.”

Under President Andrés Manuel López Obrador, Mexico had expanded social protection programmes even before the Covid-19 crisis: the non-contributory pensions for the elderly had reached a roster of eight million people that was expanded to 10 million in 2021 when the age to receive it was reduced from 68 to 65 years old; additionally a comprehensive programme of scholarships for the young was created, reaching a coverage of almost 10 million students in 2021. And several other new programmes benefitted other disadvantaged groups, like rural families who receive support for sowing several species of trees in rural areas. As a result, public social expenditure grew at a real annual rate of 7.4 percent during 2019–21, above its 2013–18 average of 5.7 percent. More importantly, all these supports were kept during the Covid-19 pandemic and, in fact, the payments of several of them were frontloaded, to avoid vulnerable people going out during the most contagious stages of the outbreaks.

We can expect to see a ‘greening’ of pension investments in the years to come

Given that social support programmes were already introduced in the federal budget, Mexico was able to maintain a good fiscal balance during the Covid-19 crisis, which distinguishes it among emerging markets now and constitutes a strength ahead in an era of global financial volatility and high interest rates. Total federal government and public enterprise debt amounts to 53.8 percent of GDP, when several Latin American emerging markets average over 70 percent.

In these times of severe economic hardship, the issue of financial security has never been more important for Mexico and its citizens. In a working paper entitled Mexico Needs a Fiscal Twist: Response to Covid-19 and Beyond, the IMF recommended that Mexico look to strengthen its social safety net as it rebuilds from the pandemic. In order to create a financially secure future for its citizens, the nation urgently needs to tackle its pervasive inequalities and long-standing economic challenges. The pandemic has exposed some of the remaining gaps in Mexico’s existing social safety net, and the dangers for those who end up slipping through the cracks. Now is the time for bold, decisive action – and there are some early signs that Mexico could be learning its lessons from the pandemic and stepping into a more equal and inclusive future.

A fresh approach
In December 2020, President López Obrador signed off on changes to the nation’s pension system, ushering in the most comprehensive reforms to the state pension law in 25 years. Aiming to increase retirement benefits to eligible workers and to boost contribution amounts to levels in line with the OECD average, the reforms should allow pensions plans to become flexible, while also ensuring greater returns for recipients.

“Under the new system, the average Mexican citizen will be required to work fewer weeks over the course of their working life in order to receive their guaranteed pension from the government, which was also increased for low wage workers” explained Razú Aznar. “This is in recognition of the current labour market structure, which sees many workers transition between formal and informal employment during their lifetime.”

“The employer contribution rate to the pension was raised for high wage workers and the government contribution was re-focused towards low wage workers, for whom it was indeed raised,” added Razú Aznar. “It is estimated that under these adjustments of the pension reform the assets managed by the Afores will reach around 56 percent of Mexico’s GDP in 2040. This ratio, already a strong source of internal savings, is currently 18.6 percent and in a scenario without the reform, the assets would only represent 35 percent of GDP by 2040.”

A gender-balanced team of Afore XXI Banorte executive officers

Far-reaching and ambitious, the sweeping changes will seek to address many of the most pressing issues with the outgoing pensions system – with old age poverty one of the most urgent concerns. One of the main recommendations to emerge from the 2016 OECD Pension Review of Mexico was to significantly expand safety nets for the elderly, in recognition of the nation’s high levels of income poverty among older people. Mexico has one of the highest rates of old age poverty in the OECD, and many citizens are forced to work into later life as they lack any formal retirement plan. While barriers to boosting pension coverage certainly still remain – the ever-prevalent informal economy being the most significant – the reforms represent a significant step in expanding Mexico’s social safety net and boosting financial security for the most vulnerable.

Indeed, just as these extensive reforms set out a long-term approach to strengthening financial protections for the elderly, the pensions sector also played a crucial role in the short-term response to the Covid-19 crisis. As mentioned, the Mexican government did take the decision to frontload non-contributory social pension payments for eight months, while workers were also given the option to make partial withdrawals from existing retirement accounts to alleviate loss of income during the pandemic. These withdrawals from private social security pension accounts were carefully monitored by the country’s pension fund managers, known as Afores, to ensure that workers’ assets were not put at risk.

“As Mexico’s largest pension fund, Afore XXI Banorte is proud to have led the delivery of this crucial aid withdrawal scheme,” said Razú Aznar. “It ultimately supported over 448,000 citizens between January 2020 and January 2022, giving them access to vital funds during the most difficult days of the pandemic.”

In the short, medium and long-term, the pensions industry will have a significant part to play in tackling some of the country’s most pressing socioeconomic issues. From pandemic-related loss of income to old age poverty and the challenges of a largely informal labour market, the nation’s pension funds have the potential to be a real force for good when it comes to addressing these urgent issues.

Challenges ahead
The factors behind Mexico’s underperforming growth – while often debated – are complex. Underpinning many of its socioeconomic woes, though, is the pervasive and far-reaching informal economy. According to another OECD economic report on Mexico, approximately 60 percent of the nation’s citizens work or have worked in the informal sector, with many moving between formal and informal jobs over the course of their lifetime. Others, however, will spend their entire working lives in informal jobs – meaning that they will lack access to several branches of social security, will not be entitled to maternity or paternity leave, and will not make pension contributions. This absence of vital workplace benefits, coupled with routinely low wages in the informal sector, leaves informal workers financially vulnerable – particularly as they approach later life.

López Obrador’s government also enacted a reform to the labour codes in order to fight outsourcing practices to elude the payment of full social security contributions. As a result, in 2021 2.7 million outsourced workers were migrated to jobs legally within the firms where they actually performed their tasks, with an average increase of 12 percent of their contributory wage.

“Informality is the main obstacle to achieving a truly inclusive pension system in Mexico,” said Razú Aznar. “While the recent reforms have proven effective in tackling the problem, as pension fund providers we must do our part by recognising the realities of the Mexican labour market, so we need to be able to offer alternative savings for different types of workers. Moreover, we must take advantage of the momentum created by the new universal non-contributory pension policy to think of solutions for enabling the pension industry to partake in it and maximise the economic and social benefits it can bring about to the Mexican workers and labour market as a whole.”

Afore XXI Banorte team at work

While access to the pensions system isn’t exclusive to salaried workers – and the recent reforms will extend coverage further – it can be more difficult for independent workers to begin making voluntary contributions on a regular basis.

“Financial literacy and awareness are absolutely integral to creating a more inclusive pensions system and enabling informal workers to unlock the benefits of making voluntary contributions to their retirement pot,” explained Razú Aznar. “That’s why, at Afore XXI Banorte, we have implemented a comprehensive strategy that aims at boosting financial literacy and at promoting sensible saving habits from an early age.”

Alongside its specialised blog on financial literacy and its eye-catching and informative posts on social media, Afore XXI Banorte also offers a savings option for children and teenagers called ‘PrimerAFORE,’ and manages close to 60,000 voluntary child pension accounts, demonstrating a commitment to promoting healthy financial choices from an early age.

The prevalence of the informal sector is not just a social security issue, but also a challenge to achieving true gender equality. Women tend to be overrepresented in the informal sector, particularly in fields such as domestic work, where an estimated 99.2 percent of workers do not have a written contract setting out their working hours, benefits, or holidays. What’s more, only 45 percent of working-age women are part of the labour force – far below the OECD average – and just 31 percent currently own a pension fund. Taking on a greater responsibility for childcare and domestic labour – up to 38 hours per week more than men, according to the World Bank, women are likely to have spent fewer years of their working life engaged in the formal workforce, often leaving them without any form of guaranteed income as they approach retirement age.

While the recent pension and outsourcing reforms are certainly a step in the right direction for improving pensions access, it is vital that the nation’s pension providers task themselves with helping to resolve the gender pensions gap, through a long-term commitment to furthering financial education and tackling bias wherever it exists.

A force for good
“It is clear that the pensions industry has a vital role to play in Mexico’s long-term vision. Not only a force for financial inclusion, social security and potential poverty reduction, the pensions sector is also able to effectively drive growth and propel the economy forward,” says Razú Aznar. Pension funds provide significant capital for investment – and not just in stocks, bonds and real estate, as one might typically expect. Alternative investments are becoming ever more popular, and funds are increasingly being invested along environmental, social and governance (ESG) principles. In 2020, Morningstar data showed that ESG-related funds saw $350bn in global investment, compared with just $165bn in 2019. With the pandemic and COP26 both shining a light on the pressing issue of climate change, we can expect to see a ‘greening’ of pension investments in the years to come.

“As Mexico’s leading pension fund, and with more than $52bn in assets under management, which places us also as the largest pension fund in Latin America, Afore XXI Banorte is well positioned to drive the industry towards a more stable and sustainable future,” said Razú Aznar. “In alignment with the objectives of our stakeholders, IMSS and Banorte, we are one of the main promoters of ESG investments in Mexico, committed to contributing to the country’s economic development by providing financing for companies in socially and environmentally-responsible industries. Whether that involves investment in companies that promote the creation of formal jobs for Mexican workers, or providing backing to firms that demonstrate exemplary corporate practices and ESG commitments, Afore XXI Banorte seeks to use its position to make a positive impact on Mexican society.”

When it comes to green investments, Afore XXI Banorte is something of a pioneer. By investing in projects focused on renewable energy and the optimisation of natural resources, Afore XXI Banorte enabled savings of over 410 billion litres of water, benefitting over 935,000 families across Mexico. In the same spirit, its investments in sustainable electricity production have generated more than 137,000MW per year – the equivalent of 3.3 percent of Mexico’s total installed energy capacity. Located in the centre of the world’s ‘sunbelt,’ Mexico has tremendous potential for solar power generation, and Afore XXI Banorte is keen to explore investment options in this exciting, high-growth sector.

Along with prioritising sustainable investments, Afore XXI Banorte is also deeply committed to helping to grow the Mexican economy and improving the lives of its citizens.

“As the front-runner pension fund management company in Latin America, we want to set an example to our peers,” explains Razú Aznar. “Over 7.7 million Mexicans have entrusted us with their retirement savings, and we want to do right by our customers. This means lending our support to vital and valuable causes that will make a real difference to the lives of Mexican citizens.”

In recent years, the fund manager has made substantial investments in local infrastructure projects, including the construction of new toll roads, seaports and airports, and the building of state-of-the-art telecommunications systems. It has supported the creation of new homes and hospitals, while its investments in agricultural and food production companies have resulted in the harvesting of 17,065 tonnes of food – enough to feed an average of 4,250 families each year. By investing in companies committed to the creation of formal jobs, Afore XXI Banorte has also enabled the creation of 3.5 million jobs throughout Mexico, in addition to generating employment opportunities for nearly 426,000 women.

“Through these strategic investments in sustainable and socially-conscious projects, companies and industries, Afore XXI Banorte is using its position to help address social and economic challenges where it can,” said Razú Aznar. “These prudent investments not only align with our ESG principles, but they also consider long-term results for our customers, ultimately helping them to feel more secure in their investments as they approach later life.”

The positive steps made by Mexico’s Afores – coupled with the far-reaching reforms to the nation’s pensions system – have helped to grow the social security net for many. If this momentum continues, and Mexico commits to prioritising financial inclusion in its post-Covid recovery plan, the country could be on its way to a fairer, more equal future – with the pensions industry helping to propel this change forward.