Introduction
Mexico faces three significant obstacles that hinder greater economic growth rates. Unfortunately, public policy implemented in recent years, including changes to the institutional framework resulting from legal modifications, has exacerbated rather than alleviated these burdens.
Declining Factorial Productivity
The first obstacle is the decline in total factorial productivity, which should be the primary driver of economic growth. In production, businesses combine fixed capital (plant, machinery, and equipment), labor services from employed workers, and intermediate inputs (raw materials, energy, water, etc.). The efficiency of combining these three production factors is determined by the technology embedded in capital, and the output reflects the productivity of the employed production factors.
While companies can boost total factorial productivity through operational efficiency improvements or increased capital intensity, these gains are one-time. The main source of total factorial productivity growth comes from technological changes that companies introduce in production through investments in new capital replacing the old.
Mexico exhibits a duality: modernized, technologically advanced companies, especially those linked to international trade, coexist with others using outdated technology. The former grow while the latter stagnate or decline, contributing to the very low average growth rate observed over recent years. For the 2019-2024 period, total factorial productivity did not increase and even fell by 0.35% in 2024, with further declines expected this year.
Growing Informal Sector
The second obstacle is the increasing participation of the informal sector in GDP and employment. These are unregistered economic units not registered with federal authorities (SAT and IMSS) or local state and municipal authorities. Generally small, they operate with outdated technology, leading to low total factorial productivity that remains stagnant or declining. This reflects in the stagnant aggregated productivity.
Several factors contribute to a company operating in the informal sector, including high regulatory barriers to market entry (notarial, permits, and licenses tainted with corruption), high compliance costs for tax obligations, and labor obligations to the social security system, acting as an implicit employment formalization tax.
According to INEGI, in 2024, businesses in the informal economy sector employed 28.1% of the total workforce and contributed only 14.5% to GDP. Including other informality modalities (occupied individuals without access to social security), they represented 54.4% of the workforce and produced just 25.4% of GDP. In contrast, the formal sector employed 45.6% of the total workforce and produced 74.6% of GDP.
Worryingly, the informal sector’s participation in the economy is growing. In 2013, informal businesses contributed 11.7% to GDP; by 2019, this increased to 12%, and in 2024 reached 14.5%. With no significant formal job creation or economic growth expected, those entering the labor market did so in the informal sector, making the workforce in this sector 29.6% in October of this year.
Legal Framework Changes
The third obstacle, which independently constitutes a growth hindrance and encourages informal economy growth, is the set of legal changes, including constitutional modifications. These have degraded the rule of law and eroded legal certainty.
The destruction of institutional checks and balances, the judicial reform eliminating the independence of the Judiciary and subordinating it to the Executive, the energy reform discriminating against the private sector, and the Amparo Law reform leaving individuals and businesses vulnerable to arbitrary government actions have all inhibited private investment, technological modernization, formal job creation, and economic growth.
Key Questions and Answers
- What is total factorial productivity, and why is its decline problematic? Total factorial productivity measures the efficiency of combining capital, labor, and intermediate inputs in production. Its decline hinders economic growth as it reduces the output reflecting productive factor efficiency.
- How does the growing informal sector impact Mexico’s economy? The expanding informal sector, characterized by low productivity and outdated technology, contributes to stagnant aggregated productivity and a smaller formal sector GDP contribution.
- What are the consequences of recent legal changes in Mexico? Legal modifications have degraded the rule of law, eroded legal certainty, and inhibited private investment, technological modernization, formal job creation, and overall economic growth.
