Morningstar DBRS Confirms Mexico at BBB, Stable Trend

DBRS Inc. (Morningstar DBRS) confirmed the United Mexican States' (Mexico) Long-Term Foreign and Local Currency - Issuer Ratings at BBB. At the same time, Morningstar DBRS confirmed the United Mexican States' Short-Term Foreign and Local Currency - Issuer Ratings at R-2 (high). The trend on all ratings is Stable.

KEY CREDIT RATING CONSIDERATIONS

The Stable trend reflects Morningstar DBRS' view that Mexico's credit ratings have space to weather the economic weakness expected in the near term. Output is projected to contract by 0.3% in 2025 and grow by 1.4% in 2026. Uncertainty stemming from U.S. trade policy, the application of U.S. tariffs on some imports from Mexico, and softening external demand are all expected to weigh on activity. Given the uncertainty around U.S. policy and the high degree of integration between Mexico and the U.S., risks to the forecast are skewed to the downside, in our view. Mexico's large fiscal deficit in 2024 leaves the government with limited room to maneuver this year. Despite the weak economic outlook, the Sheinbaum administration is pursuing a front-loaded fiscal consolidation with the objective of stabilizing debt as a share of GDP. The BBB credit ratings assume that the deficit-reduction targets are achieved in 2025 and 2026.

Mexico's credit ratings balance a track record of sound macroeconomic policymaking with the country's deep governance and growth challenges. The economy has maintained solid fundamentals through a series of shocks, due in large part to its strong policy framework - comprised of exchange rate flexibility, sound banking regulation, and a credible inflation-targeting regime. The country's external accounts are also in a good position. However, significant structural challenges weigh on the credit profile. Poor education outcomes, widespread informality, and far-reaching governance problems have led to decades of weak economic growth. In addition, increasing spending commitments could put pressure on public finances over the medium term. Fiscal reforms may be needed to keep the government debt-to-GDP ratio on a stable trajectory.

CREDIT RATING DRIVERS
The credit ratings could be upgraded if (1) the government reorients economic policy or strengthens governance in a manner that materially improves Mexico's investment outlook, and (2) public debt dynamics are put on a firm downward trajectory over the medium term.

The credit ratings could be downgraded if there is (1) a material deterioration in Mexico's medium-term growth prospects, or (2) an increase in public debt-to-GDP relative to our current expectations.

CREDIT RATING RATIONALE

U.S. Trade Policy Adds Downside Risks to an Already Weak Economic Outlook

Mexico's near-term growth outlook faces domestic and external headwinds. Even before the April 2 tariff announcement, the Mexican economy was stagnating, as recent reforms damaged business confidence and fiscal tightening started to take hold. Activity contracted 0.6% q/q in the fourth quarter of 2024 and expanded 0.2% q/q in the first quarter of 2025. Going forward, the tariff shock will weigh on the outlook. Policy uncertainty will likely lead households and firms to postpone spending and investment. The secondary effects of slower global growth, and in particular U.S. growth, will reduce demand for Mexico's goods and services. In addition, tariffs enacted on imports that are not USMCA compliant, which represent roughly half of Mexico's goods exports to the U.S., will adversely impact certain sectors, although compliance is bound to increase in the coming months. Taken together, Morningstar DBRS expects the Mexican economy to experience a mild recession this year before gradually recovering in 2026. Risks to the outlook are skewed to the downside.

With the review of the USMCA approaching, uncertainty over U.S. trade policy also raises concerns around the future of the U.S.-Mexico commercial relationship. For three decades, a free trade agreement has spurred intra-North America trade and fostered large cross-border investment. Morningstar DBRS assumes that the USMCA, which must be reviewed by July 2026, will be extended largely in its current form. However, failure to extend the USMCA or the introduction of higher-than-expected trade barriers would dampen business investment, weaken productivity growth, and cause considerable damage to manufacturing industries, such as autos and electronics, that have a sizable presence in Mexico. Conversely, if the USMCA is extended, Mexico could potentially benefit from the reorganization of global supply chains, especially if Mexico ends up having better access to the U.S. market relative to its competitors. The ability to attract nearshoring in such a scenario may depend on improving investment conditions, such as strengthening the rule of law, developing critical infrastructure, and upgrading worker skills.

The Large Fiscal Deficit in 2024 Leaves the New Administration With Little Room to Maneuver in 2025

The public sector budget deficit increased to 5.7% of GDP in 2024, the highest level in over three decades. The Sheinbaum administration aims to narrow the deficit to 3.9%-4.0% this year and 3.2%-3.5% in 2026. The planned consolidation is largely driven by cuts in operating expenses and lower investment after the completion of several large infrastructure projects. The government appears committed to achieving its deficit-reduction targets despite a weaker growth outlook relative to the government's updated growth assumptions (1.5%-2.3% in 2025 and 1.5%-2.5% in 2026, according to the 2026 Preliminary Guidelines). A more severe economic downturn than currently forecast could leave the administration with a worse set of policy options and jeopardize the planned fiscal adjustment.

Even if deficit-reduction targets are met in the near term, achieving a durable fiscal consolidation over the medium term looks challenging. Pensions and social programs will put increasing pressure on spending. At the same time, capital support for Petróleos Mexicanos (Pemex) will continue to weigh on public finances, especially in the absence of changes to its business strategy. The government has proposed minor tax changes and greater efforts to combat tax evasion, both of which may help boost revenue on the margin, but revenue-raising tax reform may be needed to put public finances in a more sustainable position while avoiding cuts in high-yielding public investment.

Government indebtedness has increased on the back of large fiscal deficits. Gross general government debt rose from 53% of GDP in 2023 to 58% in 2024. The ratio is expected to rise to 61% in 2025. If the deficit-reduction targets are achieved, debt levels are expected to stabilize at 2025 levels. Interest payments should decline as monetary policy eases but remain above 5% of GDP in 2025 and 2026. Public debt dynamics highlight the importance of sustaining market confidence with a credible fiscal consolidation.

Rule of Law and Institutional Quality are Key Credit Challenges for Mexico

The June 2024 general election produced a landslide victory for the Morena Party and its coalition Sigamos Haciendo Historia. Claudia Sheinbaum of the Morena Party won the presidency by a wide margin. The ruling coalition holds supermajorities in the Chamber of Deputies and the Senate, as well as most governorships at the state level. As a result, President Sheinbaum has substantial power to pass legislation at the national level and coordinate policy with subnational governments. Morningstar DBRS expects continuity with regards to macroeconomic policymaking under President Sheinbaum. Importantly, the administration aims to maintain a strong relationship with the United States. In Morningstar DBRS' view, the stability and predictability of policymaking through the electoral cycle enhances the economy's resilience to shocks and positively influences our "Political Environment" building block assessment.

Nevertheless, the most significant challenge facing Mexico's credit profile, in Morningstar DBRS' view, relates to governance. According to the Worldwide Governance Indicators, Mexico scores poorly on the rule of law relative to emerging market peers. Corruption, which is perceived to be entrenched and widespread, constrains economic growth by encouraging rent-seeking behavior and misallocating resources. Elevated levels of criminality, combined with perceived deficiencies in the judicial system and law enforcement, also have direct economic costs and weaken the investment climate. The Sheinbaum administration has rolled out a security strategy that is different from her predecessor, particularly regarding its more assertive approach to combatting drug trafficking and organized crime. In Morningstar DBRS' view, it is too early to tell whether the new strategy will yield any benefits in terms of strengthening the rule of law or improving the country's institutional quality.

Strong Policy Frameworks Support the Economy's Resilience

Mexico benefits from a credible inflation-targeting regime that has helped anchor inflation expectations amid a series of shocks. Year-over-year headline and core inflation came in at 4.0% and 3.9%, respectively, in mid-April 2025. Weak economic activity and lower energy prices should reduce demand-driven price pressures going forward. However, shifting U.S. trade policy adds uncertainty to the outlook. Exchange rate depreciation and supply chain disruptions could potentially put push inflation upward. Inflation expectations remain within the Bank of Mexico's range of tolerance (2%-4%). In this context, the central bank looks set to continue cautiously with its easing cycle. According to the Bank of Mexico's Survey of Expectations (April 2025), the policy rate is expected to decline from its current rate of 9.0% to 7.75% by the end of the year, indicating that monetary policy will gradually ease but remain restrictive through 2025.

The flexibility of the exchange rate enhances the economy's resilience to episodes of market turbulence. Mexico's external accounts do not present any clear imbalances. The current account deficit is modest and fully financed by net foreign direct investment. External debt levels are moderate and primarily long-term in tenor. The central bank also holds $239 billion in reserves and has a $36 billion Flexible Credit Line from the IMF, which provide some protection against global tail risks. Notwithstanding these buffers, the large stock of foreign portfolio liabilities leaves the economy exposed to capital flow volatility.

Mexico's financial system is healthy and well-positioned to supply credit to the real economy. The banking system has high levels of liquidity and capital. Non-performing loans accounted for 2.0% of gross loans in February 2025, which is slightly lower than before the pandemic. In addition, exchange rate fluctuations have not adversely affected banks' balance sheets nor do they appear to have affected asset quality in the corporate sector. Household leverage is also low, with limited foreign exchange exposure.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS   

Environmental (E) Factors   
The following Environmental factor had a relevant effect on the credit analysis: Resource and Energy Management. Petroleum products account for a low share of export receipts (5-10% of goods exports), but have greater relevance for public finances (10-20% of public sector fiscal revenues). However, the importance of oil-related revenue has generally decreased over the last decade. Morningstar DBRS will continue to assess the impact on public finances and the economy if the government decides to more rapidly transition toward a less carbon-intensive economy. This factor has been considered in the Fiscal Management & Policy and Economic Structure and Performance building blocks.
 
Social (S) Factors  
The following Social factor had a significant effect on the credit analysis: Human Capital & Human Rights. Similar to other emerging market economies and many of its regional peers, Mexico's per capita GDP is relatively low, at US$14.0k (US$25.1k on a PPP basis). This reflects the relatively low level of labor productivity. In addition, there is an elevated level of criminality and human rights abuses, especially attacks against journalists and human rights activists. This factor has been taken into account in the Economic Structure and Performance building block.
  
Governance (G) Factors  
The following Governance factors had a significant effect on the credit analysis: 1) Bribery, Corruption and Political Risks, 2) Institutional Strength, Governance, and Transparency, and 3) Peace and Security. According to Worldwide Governance Indicators, Mexico ranks in the 17th percentile for Control of Corruption and in the 24th percentile for Rule of Law. Mexico ranks in the 42nd percentile for Voice & Accountability and in the 43rd percentile for Government Effectiveness. Concerns of a generalized deterioration in the quality of the country's governing institutions have increased in recent years. In addition, elevated levels of violence and criminality weaken the investment climate. These factors have been taken into account in the Fiscal Management & Policy and the Political Environment building blocks.
 
A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings at (August 13, 2024) https://dbrs.morningstar.com/research/437781.

For more information on the Rating Committee decision, please see the Scorecard Indicators and Building Block Assessments: https://dbrs.morningstar.com/research/453416.

Notes:

All figures are in U.S. dollars unless otherwise noted. Public finance statistics reported on a public sector basis; this excludes state and local governments but includes state-owned enterprises and public development banks. The fiscal balance is the Public Sector Borrowing Requirement.

The principal methodology is the Global Methodology for Rating Sovereign Governments (15 July 2024) https://dbrs.morningstar.com/research/436000. In addition, Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Factors in Credit Ratings https://dbrs.morningstar.com/research/437781 in its consideration of ESG factors.

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS' outlooks and credit ratings are monitored.

The primary sources of information used for this credit rating include the Secretária de Hacienda y Crédito Público, Banco de México, INEGI, BIS, OECD, IMF, World Bank, NRGI, Brookings, Tullet Prebon Information, and Macrobond. Morningstar DBRS considers the information available to it for the purposes of providing this credit rating was of satisfactory quality.

The credit rating was not initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS did not have access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

For more information on Morningstar DBRS' policy regarding the solicitation status of credit ratings, please refer to the Credit Ratings Global Policy, which can be found in the Morningstar DBRS Understanding Ratings section of the website: https://dbrs.morningstar.com/understanding-ratings

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