MEXICO ECONOMIC NOTES, DECEMBER 14 - DECEMBER 20

UNCLAS SECTION 01 OF 06 MEXICO 007032

SIPDIS

SIPDIS

STATE FOR A/S SHANNON
STATE FOR WHA/MEX, WHA/EPSC, EB/IFD/OMA
STATE FOR EB/ESC MCMANUS AND IZZO
USDOC FOR 4320/ITA/MAC/WH/ONAFTA/ARUDMAN
USDOC FOR ITS/TD/ENERGY DIVISION
TREASURY FOR IA (ALICE FAIBISHENKO)
DOE FOR INTERNATIONAL AFFAIRS KDEUTSCH AND SLADISLAW
STATE PASS TO USTR (EISSENSTAT/MELLE)
STATE PASS TO FEDERAL RESERVE (CARLOS ARTETA)
NSC FOR DAN FISK

E.O. 12958: N/A
TAGS: ECON ECPS ELAB EFIN PGOV PREL MX
SUBJECT: MEXICO ECONOMIC NOTES, DECEMBER 14 - DECEMBER 20
2006


Summary
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1. (U) The revenue portion of the budget was first approved
by the Chamber of Deputies and then the Senate though the
Senate rejected the specific provision regarding the soft
drink tax. However, this will probably not prevent the
elimination of the discriminatory 20 percent tax on beverages
sweetened with anything other than cane sugar. The Senate
also modified the portion on tax deductions for new autos.
Finance Secretary Augustin Carstens defended the new taxes,
saying they are necessary to avoid future fiscal deficits.
Secretary of Communication and Transportation Luis Tellez

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announced that the majority of SCT's budget will go to
infrastructure development. More fixed line phone providers
have agreed to join the calling party pays program. Cofetel
has announced advances bringing Mexico closer to services
allowed for in the Convergence Accord. Public debate
continues over a possible third television channel in Mexico.
China has surpassed Mexico as America's second largest
trading partner. Japanese companies are looking to increase
investments in Mexico. The high level appointment of a
relative of the teachers' union president has drawn
criticism. The peso fell as remittances from the U.S.
decreased. End Summary.

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Budget Battles
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Chamber of Deputies Approves Revenue Law
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2. (U) The lower house of Congress approved the income side
of the 2007 federal budget December 18, unanimously adopting
a MXP 2.264 trillion (about USD 208 billion) package that
included a new 5 percent tax on soft drinks and a gradually
escalating tobacco tax. The Chamber of Deputies approved the
same government income figure sent up by its Finance
Committee. This amount was MXP 30.7 billion (USD 2.8 billon)
more than that called for in President Felipe Calderon's
proposed budget. The increase could facilitate the
restoration of education funding that Calderon had sought to
cut. Income and sales taxes will account for about MXP 1.5
trillion of the revenue flowing into the government treasury
next year, including from taxes on gasoline, alcoholic
beverages, tobacco products and vehicle ownership. Another
MXP 700 billion will come from non-tax sources, mostly social
security premiums and profits from PEMEX. The PEMEX income
estimate is based on a barrel price of USD 42.80. The bill
passed 425 to 0 with one abstention. The unanimous vote came
17 days after the top two political parties in the Congress -
PAN and PRD - came to blows on the Chamber floor. "This
shows that the (current) legislature has the will to arrive
at agreements that the country needs," said Chamber president
Jorge Zermeno, a PAN member.

Senate Rejects Soft-Drink Tax, Likely to Comply with WTO
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3. (U) The Senate approved the Revenue Bill December 20 but
rejected the 5 percent tax on soft drinks. PRI and PRD
senators assembled 73 votes versus the PAN's 55 to defeat the
proposal. The beverage tax now returns to the lower chamber,
where deputies have three options 1)negotiate with the Seane
to keep the 5 percent tax (unlikely); 2) negotiate with the
Senate a reduced rate of 2.5 or 3 percent, or 3) eliminate
the proposed tax altogether. The second and third options
would mean that additional revenue would have to be found
elsewhere. A top staffer of the lower House Finance

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Committee assured Econoffs that, regardless of the final
level of the soft drink tax, the discriminatory 20 percent
tax on beverages sweetened with anything other than cane
sugar (e.g., high fructose corn syrup or beet sugar) would
certainly be repealed, in keeping with Mexico's WTO
obligations. In fact, the Senate hold on the beverage tax
provision made no mention of the elimination of the
discriminatory 20 percent tax, indicating that at present
this is not a point of contention between the two Chambers.
This could change during negotiations, but right now the
outlook is good.

Senate Modifies New Tax Deduction Limits Amid Complaints for
Auto Industry
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4. (U) As part of their revisions to the revenue bill, the
Senate modified the provision that decreased the value limit
for which income tax deductions could be claimed for new car
purchases. The original modification, included by the
Secretariat of Finance in the 2007 budget, lowered the

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deduction restriction to cars valued at more than 150,000
MXP, from the previous level of 300,000 MXP. The Senate plan
raised the restriction limit to vehicles valued at more than
175,000. Last week, the Presidents of the Mexican Dealers
Association (AMDA) and the Mexican Automobile Industry
Association (AMIA) met with Jorge Estefan, Chair of the
Finance Committee of the Chamber of Deputies to express
concerns regarding the restriction on income tax deductions
for new vehicle purchases. AMIA and AMDA reported 53 percent
of the vehicles sold in Mexico are valued within the 150,000
to 3000,000 MXP range and that the average value of
domestically produced vehicles is 150,000 MXP since more
expensive care are usually imported. The organizations
alleged that the provision would result in diminished demand
and necessitate a 20 percent decrease in national production.

Carstens: Reform or Deficit
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5. (U) Speaking at a conference in Mexico City, Finance
Secretary Agustin Carstens said 2006 was an "extraordinary"

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economic year because oil prices exceeded budget estimates.
He stressed that new taxes and better tax collection are
needed to make up for lost oil revenue, and waning demand for
Mexican exports as the U.S. economy slows. Carstens is
seeking support for new taxes and better collection after
industry groups have said they would block such measures. "In
Latin America, only Guatemala has lower tax revenue than
Mexico," Carstens said. "It is going to be a priority of this
administration to make an effort to increase tax revenue in
order to reduce our vulnerability on oil revenue and
establish a base for development." Carstens said the 2007
budget's 50 percent increase in security spending is
justified because it helps lure investment, which boosts
employment. Mexico's need to diversify away from oil revenue
will increase during 2007 as prices for the country's crude
mix falls and production declines. The country's 2006 budget
plan estimated Mexico's crude mix would average USD 36 per
barrel. The average for the year will probably reach USD 53
per barrel, Carstens said. The 2007 budgets estimates an
average Mexican crude price of USD 5.5 lower than USD 48
suggested by futures contracts, he said. The government
expects oil revenue to drop to 7.3 percent of GDP in 2012
from 8.3 percent in 2007. Carstens has also stated that the
proposed taxes for 2007 will not have a recessionary impact
on the economy since the additional collection, is marginal
compared to the MXP 2.3 billion budget. Carstens asserted
that without reforms, the fiscal deficit could reach 3
percent of GDP by 2012. The recently ratified Under

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Secretary of Income, Fernando Sanchez Ugarte, acknowledged

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that the tax system in Mexico is complicated and that it has
to be simplified. The Mexican Institute of Finance
Executives argued that the tax proposals planned by the
Executive branch only target the same honest taxpayers and
have a nega
tive impact on investment and creation of jobs.

Infrastructure: Priority for Secretariat of Communications
and Transportation
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6. (U) Secretary of Communications and Transportation Luis
Tellez announced that most of the 2007 Secretariat of
Communications and Transportation (SCT) budget will be
channeled to infrastructure projects. Of the MXP 27.56
billion allocated to the Secretariat, 68.5 percent will be
used for the construction and modernization of 927.3 km of
highways. Under Secretary of Infrastructure, Oscar de Buen,
said that the public investment will be complemented by
investment from private sources with approximately MXP 16.34
billion will be assigned to either private sector concessions
or the service lending scheme Proyecto Para Prestactions de
Servicio(PPS). Under Secretary of Transportation, Manuel
Rodriguez Arregui, disregarded rumors of the construction of
a new international airport terminal. He says that with the
expansion of Mexico City's airport, the existing airports are
enough to meet demand and that Transportation's priorities
will be Punta Colonet, the Suburban Train, Tran-seismic
Corridor, and the renewal of trucks. Tellez confirmed that
he is in talks with the U.S. on opening the border to
trucking.

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Telecommunications
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Calling Party Pays
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7. (U) Alestra and Maxcom decided to join Long Distance
Calling Party Pays beginning o/a December 16. According to
the agreement reached by the companies, interconnection fees
will be gradually reduced over four years, from 1.34 pesos
per minute in 2007, to 1.21 in 2008, 1.09 in 2009, and 1 peso
per minute in 2010. In return, the companies will withdraw
the injunctions they had filed against the plan, which went
into effect on November 4, 2006. It is expected that
Telefonica, as well as Avantel-Axtel, will also reach an
agreement to join the scheme soon. Marcatel has announced
that for now, it won't subscribe to any agreement. The fixed
line companies opposed the plan because they claimed the
interconnection fees to be charged by cell phone providers
were too high.

Convergence Agreement
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8. (U) Two Cofetel announcements this week brought Mexico
closer to triple play services under the Convergence Accord
published in October 2006. First, Cofetel issued a
resolution on rules of number portability. Number
portability should be implemented during the second half of
2007 by Telmex, and at the end of the year by other
companies, including Telcel. Implementation will be based on
the consultation of a common database by telephone operators.
It is expected that the industry will have to invest around
USD 300 million. Jose Luis Peralta, one of Cofetel's
commissioners, explained that the consumer might have to pay
a fee to keep the number when switching companies. However,

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he explained that companies won't charge any fee to recover
the investment made. Telmex will have to implement the
number portability before any other company in order to
comply with the Convergence Agreement. Telmex is also
required to comply with rules on interconnection and
interoperability, though Cofetel is not expected to meet the
deadline for issuing guidelines on interconnection. Cofetel
also announced that it has found no legal grounds to oblige
Telmex to pay for the right to provide video services.
Former Secretary of Finance Francisco Gil Diaz proposed
during the debate over the Convergence Accord that Telmex
should pay for this right in order for the government to
benefit from the profits Telmex will make once its concession
is modified. One of Cofetel's commissioners, Eduardo Ruiz
Vega, said that Cofetel sent its opinion to the new
Secretariat of Finance, which will now have to determine

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whether Telmex has to pay or not.

Debate over Third Television Channel
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9. (U) The debate over whether Mexico should open the
television market to a third channel continued this week. The
new head of the Secretariat of Communications and
Transportation, Luis Tellez, sent mixed signals as media
reported he used a secret meeting to order Cofetel to start
looking into the steps needed to allow a third channel, and
to work with the SCT to take on duopolists Televisa and TV
Azteca. Cofetel commissioners denied the report. In his
first press conference as minister of the SCT, Tellez told
reporters that Calderon had not promised to grant a license
for a third TV company. He explained that in his 100
commitments, Calderon promised to bid TV and radio
frequencies in different cities, but he didn't talk about a
third broadcasting company. However, Tellez said that the
Mexican government would be willing to authorize greater
"foreign" participation in the telecommunications sector as
long as the U.S. did the same for Mexican companies. During
the conference, Del Villar asserted that the basis for
telecom public policy is: "competition, coverage, and
convergence". The debate also reached the Senate, where on
December 15 Senator Javier Orozco, a member of the
Communications and Transportation Committee, said that U.S.
company General Electric's participation in Palmas 26 (a
collaboration between GE and Mexican Isaac Saba's Grupo Xtra
to enter the Mexican television market) should be strictly
inspected. On December 18, several senators called for more
competition in the sector, saying that there is room for a
third company in order to eliminate the existing duopoly.
PRI Senator, Rafael Alejandro Moreno, said that to authorize
a third company could mean an exorbitant increase in money
spent on political campaigns. For its part, the Secretary of
Governance commented that all talk of a third channel is pure
speculation at this point, saying "We must allow time to know
what kinds of opportunities really exist for a new channel."

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All About Asia
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China Passes Mexico in U.S. Trades
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10. (U) China passed Mexico as the second-largest U.S.
trading partner in the first 10 months of this year. China's
rise indicates a relative decline for Mexico. China's trade
with the United States is on pace to quadruple from the total
in 1998, while Mexico's trade with the U.S. is up less than
50% over that same time period.


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Japan Looks for Mexican Investments
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11. (U) Thanks to the economic association agreement signed
in 2005, Mexico will receive more Japanese investment. Honda
is evaluating the possibility of expanding its operations in
Mexico. According to the Mexican branch of the Japanese
External Trade Organization (Jetro),several Japanese
companies are currently performing feasibility studies to
decide whether to invest more in the country. After the
agreement was signed, Nissan invested USD 800 million in its
Aguascalientes plant, Bridgestone invested USD 220 million in
its Monterrey factory, and Toyota channeled USD 37 million to
expand its plant in Baja California. Jetro said Japanese are
waiting to see what Calderon's industrial promotion policy
will be. Jetro also asserted that with the strengthening and
deepening of NAFTA, Japanese companies tend to see the region
as an integrated market when they analyze the future of their
investments. Jetro believes that Mexico could be capable of
attracting research and development centers, but only if the
country improves its education system.

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New Housing Plan to Help Poorest Workers
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12. (U) On Monday, Calderon announced that the government's
principle housing assistance program will give top priority
to the poorest workers. "Our housing program will have an
eminently social character," Calderon said. "We want to put a
large subsidy program into effect so that the families that
earn less than three times the minimum daily salary will be
able to build a house, improve their existing home, or
acquire an apartment." Calderon said his administration would
seek to double the annual number of housing credits delivered
through housing program Infonavit, setting a goal of 6
million credits for his six-year administration. That number,
however, would include participation from the private sector.
"By the year 2030, we have to build as many housing units as
were built in the entire 20th century," he said.

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Teacher's Union Gains Friend in High Place
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13. (U) The National Teacher's Union (SNTE) has been the
focus of considerable attention recently because of their
alleged influence on Mexico's education policy. The most
recent accusations have to do with the appointment of Jose
Francisco Gonzalez Sanchez as Undersecretary for Basic
Education. Gonzalez Sanchez is the son-in-law of SNTE
president Elba Esther Gordillo, who in her own right has been
the focus of attention due to the alleged wealth she has
amassed while serving as leader of the organization. While
Gonzalez Sanchez does have background in Basic Education,
journalist have noted that he has in the past acted as the
political link between Calderon and his mother-in-law.

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Peso Falls as Remittances Ease During Holiday Period
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14. (U) The peso had one of the sharpest weekly declines
falling 0.4 percent to 10.8225 pesos per U.S. dollar on
December 18. Earlier, it weakened as much as 0.5 percent,
the biggest one-day decline since Dec. 7. The decrease is
partly due to slowing inflows of dollars from Mexicans
working abroad. Remittances dropped after their sharp rise
during the first half of the month helped fuel a 1.4 percent
increase in the peso. (Comment: Remittances for the month
were likely sent earlier than usual to be available for use

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during the holiday season. End Comment.) During the first
nine months of 2006, remittance flows had spurred a surplus
of USD 628 million in Mexico's current, reversing a deficit
in 2005. Mexico's currency was also driven lower on December
18 by declining prices for oil. Oil dropped 1.9 percent to
USD 62.21 per barrel as warmer-than-normal weather in the
U.S. curbed heating fuel consumption. The yield on the
Mexico's 8 percent peso bond due in December 2015 rose 3 bond
points to 7.55 percent, its highest since Dec. 5. The price,
which moves inversely to the yield, fell 0.19 centavos to
102.93 centavos per peso.




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