THE ACTIVIES AND INCOME TRUCTURE OF BANKS OPERATING IN THE
MEXICAN ECONOMY: HAVE FOREIGN MULTINATIONAL BANKS
DOMINATION IN MEXICO MODERNIZED THE BANKING SYSTEM?*
Noemi Levy Orlik
Economic Faculty, UNAM, Mexico
Christian Domínguez Blancas
Economic School, IPN, Mexico
ABSTRACT
This paper discusses the profound changes that underwent the financial system in
developed countries modifying the linkages among firms, banks and capital market. In
response, large multinationals financial corporations modified their activities and their
income structure. The main argument of this paper is that, although these corporations
dominate the banking system in developing countries their behavoir was different.
It is argued that in developing financial systems, banks’ traditional activities continue to
dominate and the main income sources still derived from interests-income, particularly
from consumption credits. Commissions and fees have showed increased participation but
dominating those related to consumption credits and from the modernized payment system.
This is explained in terms of to the highly concentrated banking activity in which foreign
multinational act as oligopolistic agents.
JEL: E12, E42, E5
*
This paper is part of the project "The impact of financiarization in developing countries" sponsored by
UNAM research council.
1
I.
INTRODUCTION
There is major discussion if banks new activities and its new income structure have
modified in developing countries, whose bank system is controlled by foreign multinational
corporations that operate in developed countries, with highly diversified activities, not
strongly bond to production or investment finance. Financial innovation based on what has
been called synthetics products conformed by derivatives, repos and securitization
mechanisms modified the composition of banks balance sheet since bank assets originated
for issuing credits are distributed, instead of being kept till maturity. In addition banks
income structure increased non interest income from new activities displacing the
importance of interest income from traditional activities, such as straight forward credits
and investment securities.
We argue that the Mexican financial system dominated by foreign multinational
corporations remain mainly anchored in bank traditional activities since banks and financial
non banks institutions modernization could not follow developed financial markets profile.
Our hypothesis is that foreign multinational corporations did not increase the banking
market competition and adapted to the Mexican financial system, thereby the banking
market remained highly concentrated and, more importantly, continued to behave as an
oligopolistic structure, settings prices, commissions and fees for activities such as
consumption credits and the payment system, boosting their interest-income.
This paper is divided in five sections. After this introduction, in the second section there is
a discussion in how banks behave under the financiarized period contrasting with bank
performance under strong government regulations and closed borders. The following
section is devoted to the analysis of the Mexican banking structure evolution, stressing its
mayor features in the period of deregulation, globalization and financial capital domination
that opened-up the economy to foreign multinational corporations that took control of the
most important banks that operate in Mexico. In the fourth section is discussed the balance
sheet composition and the income structure of banks operating in Mexico. In the last
section, the main conclusions are put forward.
2
I.
THE EVOLUTION OF THE BANKING STRUCTURE IN THE PERIOD
OF FINANCIAL CAPITAL DOMINATION.
There is no doubt that the structure of banks, its activities and income composition has
undergone profound changes in the financial capital domination era.1 Banks main activity
of creating liquidity to finance production and investment spending became weaker and its
main source of return shifted from interest to non-interest income, especially commissions
and fees from financial innovations based on securities such as financial derivatives, repos
and securitization, which are connected to the new structures of the financial system.
In order to understand the way in which banks operate in periods of financial capital
domination;2 named Hyper-Inflation capitalism (Seccareccia, 2011), Financial Inflation
(Toporowski, 2000) or financiarization (Epstein, 2005), which has become the most
popular term to depict the period from the 1990s till present, we have to bear in mind that
there have been other dominant macroeconomic organization where productive capital
govern capitalist social relations, in which financial capital acts as the “servant” of
productive capital (Russell, 2008).
Banks original operations in regulated periods
There is a general agreement that banks main obligation is to guarantee the functioning of
the payment system and issue advances (credits) to finance economic activity and capital
expansion (investment). In this context, the dominant relation takes place between bank,
credits and firms (non-financial productive sector) and interest margins along with credit
commissions and fees related to credit issuance are the main banks’ income source.
Additionally there is a consensus that banks main peculiarity is their ability of creating
liquidity through issuing monetary debt against themselves, under the forms of bank
deposits (Fabozzi, 1997), which circulates as if they were central bank money (Keynes,
1930).
The main disagreement over banking activities lie over the way credits are created,
specifically on the causal relation between credit and deposits, and the limits of banks’ debt
creation. Mainstream economists argue that savings determine investments (with the rate of
interest being a real variable affected by expected inflationary rates),3 thereby bank deposits
(or central bank monetary base control) limit credit issuance. Financial non bank
institutions (capital markets) provide long term funds that can either cancel out short-term
bank credits and thereby overcome temporal asymmetries between households desire of
short term liquidity and firms long-term credit demand (Toporowski and Levy, 2007
OMO), or directly provide long-term finance to enterprises which resolves the temporal
asymmetries between debts and income receipts. In this context, increased profits are
1
There is wide literature on banks activity and income diversification referred to developed countries, among
others, see Busch and Kick (2009), De Young and Rice (2004) and for developing countries (see Ben Gamra
and Philon, 2011)
2
Historically two periods of financial capital domination are detected. The first took place between 1900 and
1930 and the second from 1980 to these days.
3
This proposition was first put forward by I. Fisher (1930) and assumed by M. Friedman (1972) in his
discussion of money demand and nominal interest rate determination.
3
distributed evenly between firms, household and financial institutions, with no agent
dominating the process of distribution.
An opposite view has been put forward by heteredox economists whose main assumption is
that investment creates savings and in doing so it provides its own finance. Therefore,
banks’ liquidity provisions expand economic activity and if this liquidity re-circulates back
to bank (under the forms of increasing firms earning or financial saving) there is en efflux
process (debts are destroyed), see Lavoie (2011). A central point to this argument is that
banks advances are created ex-nihilo.4
One group of heterodox economists (Parguez and Seccareccia, 2000; Rochon and Rossi,
2005, and Lavoie, 2011) among many others) argue that so long as banks expand debt on
demand and this advances are channeled to solvent borrowers (firms), production and
income (wages, salaries and profits) goes up so as consumption and savings, there is no
space for financial instability.5 This process operates as follows. First, bank issue credits to
firms, through monetary debt against themselves, that have a cost (interest, commissions
and fees), (1+iC)D. Firms hire labor force and intermediate goods, production and income
expands (wages, salaries and profits Ya) that are canalized to households along with
bank salary payments Yb, and rents (deposit interest, iD).6 The increased household
income (Yt = Ya+Yb + i) is consumed or saved. As a result of the former (consumption)
firms income expands, enabling them to cancel-out the initial debt plus the interest costs;
and as for the latter (savings) if returned to the banking sector, banks equilibrate their
balance sheet.
Two elements need to be highlighted. First, bank credit interest rate (and credit
commissions and fees) ought to be higher than bank deposit rate or, any other funding cost
central bank interest rate, treasury bonds or any other public bond available for
commercial banks to equilibrate their balance sheet); and this difference should constitute
the main source of banks’ income. Second, capital market is not an important ex –ante
finance source of production finance; therefore banks securities activity ought to be
constrained.
The limits of credits are debt repayments that depend on creditworthy debtors, stable
central bank interest rate, correct borrower project assessment and stable income
distribution between financial instruments owners (shareholders) and wages and salaries
(workers income). There is discussion on how investment is financed, being Graziani
4
Keynes (1937a, p. 247) argued that “'Finance' and 'commitments to finance ' are mere credit and debit
book entries, which allow entrepreneurs to go ahead with assurance”.
5
This idea can be traced to Keynes writings in the Treatise of Money (1930) where he argues: If we suppose a
closed banking system … in a country where all payments are made by checks and no cash is used, and if we
assume further that the banks do not find it necessary in such circumstances to hold any cash reserves but
settle inter-bank indebtedness by the transfer of other assets, it is evident that there is no limit to the amount of
bank-money which the banks can safely create provided that they move forward in step. The words italicized
are a clue to the behavior of the system” (1930, p. 26)
6
This is a modified version of Seccareccia (2011).
4
(2003), the only economist among the horizontalists-circuistists school, that resort to
capital markets to provide long term debts.7
Under this context, the main bank assets are credits and their main liabilities are deposits, to
which can be added government bonds in the asset side (issued to finance public deficits
and/or to unfold monetary policy) while under the liability side can be included securities,
central bank loans and capital requirements. The main income sources are interest margins
(from bonds and credits) and commissions and fees related to lending activity, which are
highly regulated in periods of productive capital domination. Another important
characteristic of this financial arraignment is the separation between investment and
commercial bank activities and limitations on international capital mobility. In addition
bank size is restricted to reduce their market power and, bank operations and returns are
highly regulated by monetary authorities to limit financial market (Wall Street) returns.
Banks operation in inflated financial markets
An alternative explanation of financial system operations has been provided by Keynes
(1936, 1937a 1937b) in the light of the (first) Great Depression. According to his argument,
bank credits are limited by household willingness to transform their ex-post saving into
financial saving, explained through the liquidity preference theory. Banks provide credit to
firms to finance their investment spending (demand price is above or equal to the supply
price); income (wages, salaries and profits) and savings goes up, which if channeled to the
financial sector, closes virtuously the financial cycle (see Chick, 1993; Studart,1995; Levy,
2001).
The central concern in Keynes proposition is that banks liquidity expansion ought to be
cancelled by financial non-bank institutions which are highly unstable. The “funding”
process (transformation of real savings in financial savings) or the temporal asymmetry
between short term debt and long term receipts is dealt through financial non-banking
institutions, whose function is to guarantee the transformation of real into financial savings,
deterring household hoarding. Keynes (1936) in his famous chapter XII points out that
liquidity preference rises when “professional” investors activity (speculation) dominates
capital market operations, in which trade securities are not concerned “with what an
investment is really worth to a man who buys it “for keep”, but with what the market will
value it, under the influence of mass psychology, three months or a year hence” (Keynes,
1936, p. 154-155)
Minsky, an outstanding post-Keynesian economist put forward a slightly different version
of financial markets operations in the financiarization era. In Minsky (1991) is argued that
financial market debt creation needn’t be directly related to investment spending or
production finance, since debts are issued to control capital assets. Thereby, banks activity
and, in general corporations’ financial actions expand through financial innovation based
on asset securitization, in which new financial instruments are issued (debt escalates) to
expand underlying assets liquidity which, in addition enlarges financial returns. Minsky
7
Parguez and Seccareccia (2000), Rochon (2005) resorts to different solutions.
5
(2008, p. 4) refers that in securitization the “underlying financial instruments […] and the
cash flows they are expected to generate are the proximate basis for issuing marketable
paper. Income from paper (cash flows) is substituted for the profits earned by real assets,
household incomes, or tax receipts as the source of the cash flow to support the paper
pledges”.
In the process of securitization financial activities and actors diversify. Firms and banks are
replaced by debtors who are paper emitters and paper creators. From Minsky (2008, p. 4-5)
this process can be described as follows. Debtors provide the source of cash flow from
income that validates securities and paper creators (creditors) structures credit and accept
debtor repayment promises. The negotiations between these two actors, determines the
securities subjected to trade, resembling bank traditional activities. Investment banks are
the third actor, whose main function is to negotiate with the paper creator the terms of
financial instrument purchase in order to bridge finance, which becomes the corpus trust.
“On the basis of the assets in trust, the investment banker creates securities, devising ways
to enhance credit (insurance, complex of liabilities, ersatz equity in the form of junk
bonds)”. Additionally, investment banks need to show “that the risks of default on interest
and principle of some class of the securities it proposes to issue are so small that these
instruments deserve to have an investment rating that implies a low interest rate” In this
process credits are “packed” and “sliced” in “layers”, which are sold at different prices
according to the risk default attached, discussed ahead. The total cash pledged by these
securities need to be lower than the total cash the corpus of the trust is expected to yield.
The fourth actor is a trustee that holds the basic paper (the corpus of collateral of security).
It acts on behalf of the interest of the security holder, it “receives the cash flows from the
underlying instruments and forwards it to the security holders; and is empowered to end the
trust, sell out the corpus, and transmit proceeds to security holders according to the
hierarchy of rights if the security rating falls below some agreed level”. There is a servicing
organization that receives payments from the corpus and transmits funds to the trustee. It is
highlighted that the paper creator and loan servicing is a source of bank fee income.
Another important actor is the famous rating agencies that sort securities into risk classes. If
securities fall below some rating it can lead to the sale of the underlying securities, which is
the corpus of the trust. Finally there is the maker of secondary market, which is a dealer
market which often is the underwriter. The funders, among other, are supposed to be
households, pension funds, banks with poor paper-creating facilities, foreign institutions.
From the above it is clear that the relations of firms with banks and even financial markets
fade away and, moreover the relation between production, investment and credit demand is
blurred. There is no explicit relation between liquidity and production, investment
expansion and income; thereby returns accrued by financial instruments are not based on
increased income from the productive sector. On the contrary, it is the result of a new
income distribution, in which the financial sector appropriates higher income share,
affecting the wage and salary bill.
In terms of banks, securitization techniques are non-traditional activities, which dominate
economic systems when financial capital dominates the workings of the economy system. It
is also labeled “global manage money seeking returns” (see Minsky cited in Wray, 2009).
6
Chick refers to it as (1993, p. 84) “bank management asset” stage, in which banks provide
credits and device assets that “can be sold if required but which are more profitable”. Bank
income fees are originated within a context of diminishing interest margins that took place
after the 1980 process of deregulation and globalization. According to this economist,
narrowing interest margins ceases to be a problem if banks developed transactions based on
commissions and fees, (where origination fees are very important) giving way to the
transition of banks organization from “origination and retaining” to “origination and
distribution”.
The process described above, depicts the second era of financial capital domination. In this
period the separation between commercial and investment banks activities was reversed,
creating bank corporations that can issue credits and underwrite stocks; thereby banks again
participate in speculative securities markets, repeating the pre-panic history of the 1929
crisis of issuing excessive security loans and of over investment in securities (see Kregel,
2010). Therefore, the limitation of bank competition (for demand deposits and for time
savings deposits) and the differentiation between short-term credit and long-term debt
vanishes, ruled by the Financial Modernization Act (1999) that replaced the Glass –
Steagall Act, 1933. The only remaining difference between bank and non bank institutions
is that the former continue to issue monetary debts that need not to be converted into money
because it has total liquidity, while non-monetary debt requires to be transformed into
money and its value depends on the prevailing security prices that are highly unstable and
encourage financial gains, followed by financial and economic crises that for the second
time in history, triggered a major economic crack.
This process is described by Kregel (2010) as follows:
“Through the magic of diversification and aggregation, higher‐risk, longer‐term assets are
transformed into lower‐risk, shorter term assets, and thus, lower‐liquidity assets into
higher‐liquidity assets. (and is added) The remuneration to liquidity creation comes not
from net interest margin and the reduction of charge‐offs from the effective assessment of
the credit of borrowers but from a process that focuses on the identification of market
mispricing of risk. (2010, p. 9-10). This process is called a “riskless arbitrage” and occurs
“whenever a market participant can acquire a commodity at a lower price in one market
than the price at which it can sell that same commodity in another market and lock in a
price differential that guarantees a profit” (ibid, p. 10).
It can be inferred from Kregel and Chick quotations that securitization techniques generate
contradictory forces. On one hand, deep and broad financial market reduces the costs of
liquidity provisions but, on the other, it modifies the distribution of income, paralyzing
economic activity. The latter statement generates a high consensus while, the former is
under greater discussion, on the basis that capital market activity connection with the
productive sector is extremely feeble because finance, at least ex ante, is extremely unstable
to be demanded by capitalists producers (Toporowski, 2000).
What have been the consequences for bank operations? Assets and liabilities activities have
diversified. Large financial corporations were constructed to operate commercial,
investment and insurance activities. Securitization, alongside with gross repurchase
7
agreements (repos) that matches purchases and reverse repurchases in order to reduce risks
(which earn a small bid-ask spread to expand their securities activities) became new bank
activities, along with a large and growing market for short‐term collateralized lending that
was eventually extended to all securities, that supported increasing leverage for other
nonmember financial institutions and hedge funds. Additionally, derivatives instruments
boomed (not only limited to government bonds) including all commodities and virtually all
assets.
One more important discussion is related to bank size. Kregel (2009) argues that the 1999
Financial Service Act which permitted financial diversification and created
“multifunctional banks” enlarged the size of banks due to geographical and branching
expansion, without increasing efficiency in the provision of banking services and credit
allocation. Moreover, the interconnection among and within banks (necessary for the
multifunctional bank operations) is not related to bank concentration and banks need not be
large entities to service the needs of big multinational corporations since more than one
institution (investment banks) is involved in providing liquidity and underwriting securities.
Another belief, which has not proved to be effective, is that banks have to be big because of
the need of large capital to provide liquidity for successful primary issue of securities.
According to Kregel this function is performed by deep and broad capital markets. “In
terms of the US is argued that “banks’ global expansion and their increased size were more
the result of extending operation into activities forbidden by US regulations than attempting
to compete globally” (Kregel, 2009).
III. THE EVOLUTION OF THE MEXICAN BANKING SYSTEM
The evaluation of banks income structure operating in Mexico requires an understanding of
the Mexican financial system development, highlighting the transformation of the banking
sector, in which several issues need to be clarified. It is important to set the record of
concentration of the Mexican banking industry and, specially, the main characteristics of
the banking structure; and draw attention to the timing of the deregulation and globalization
processes and its adaptation to the financial market settings dominated by financial capital.
The different periods of the Mexican banking structure
The Mexican bank organization of modern times (post-revolutionary era) initially was
based on a “specialized” system (savings and loans banks, mortgage banks, insurance
companies and investment banks financieras) that, in the 1960s developed into “big
financial groups”, recognized in 1970. Although they were highly concentrated and had
strong links within the institutions that conformed the group, they were extremely
functional in issuing finance for the private and public sectors and their returns over assets
and equity (ROA and ROE) were high and stable (Levy, 2009).
In 1974, financial groups were transformed in universal banks (started to operate in 1976)
whose traces can be found from 1945. In 1982, in the eve of the first Mexican financial and
economic crisis, private banks were “nationalized”, further increasing the concentration of
8
banks along with financial non-bank institutions strengthening. The number of domestic
bank decreased and foreign branches operating in the Mexican banking system expanded
(Suarez, 2005; Sales, 2005); the money market was activated and brokerage houses took
the lead of the financial market (see Minushkin, 2005). Also investment in new
technologies increased and induced profound institutional changes that modernized the
ways banks operates; which, on one hand, laid the basis of modern operations in the
payment system and, on the other reduced significantly banks’ labor costs, increasing
banks’ economic efficiency. In addition, policies such as the legal reserve requirement and
credit canalization to specific productive sectors so as interest caps were eliminated. The
1980s is characterized for taking place the deregulation process in the Mexican economic
system that strongly modified the operations of the financial system, (see Suarez, 2005;
Sales, 2005). This period culminated with the privatization of banks (1990-1991) that lead
to the constitutions of modern financial groups (Garrido, 2005) headed by big-size
universal banks, which conformed the core institutions of the banking sector.
The second period of the Mexican financial system initiated with the globalization of the
Mexican Financial Market to external short-term capital (foreign portfolio investment) in
1990 and NAFTA operation in January, 1994, hastened by the 1994 Mexican financial and
economic crisis, that opened the Mexican economic system to foreign competition, lifting
all external capital barriers and adapting the Mexican financial system of Mexico to US
financial organization, opening-up the period of financiarization. In the banking sector, this
stage has been guided by foreign big multinational corporations with diversified activities,
which merged with Mexican owned private universal banks, taking place a process of
foreignization.8 Among the five large banks, in terms of assets, the largest one is Bancomer
that merged with the Spanish BBVA corporation in 2000; Banamex fusion with the US
Citibank (2001); the Spanish Santander merger with Somex (1997) and Serfin (2004); and
HSBC merger with (Bital); being Banorte, the only Mexican owned large bank. This
process was complemented with strong and new financial non-bank institutions, such us
non-bank banks (Sofoles), private pension funds, insurance companies and investment
banks, also headed by foreign corporations. In this period foreign direct investment openedup to almost all economic sectors (excluding oil and electricity).
During 1990s and the 2000s the bank market structure suffered various adjustments. The
core institutions were the multiple banks, which, banks that faced new entries. The first
group (1993-1995) was composed by more than 30 institutions, integrated by ex- brokerage
houses, foreign branches and medium-size banks, surviving half of them;9 followed by
another entry of specialized small-sized banks, linked supermarket, automobile industry
and others, that entered the market in the 2000s; intending to create a niche bank sector,
see figure 1.
8
In 1990 foreign banks controlled only 0.3% of banks total assets, in 1995, 6.25%, in 2000 it amounted to
43%, 2005, 77.9% and 2011, 73.%.
9
The new banks that went bankrupt after the 1994 crisis are: Obrero, Interestatal, Promotor del norte, Capital,
Anahuac, Del Sureste, Industrial, Centro, Fuji Bank, Societé Generalé.; and the ones that merged with others
are: Union, Cremi, Oriente, Promex, Chemical Bank, Confia, Mexicano, Banoro, Nations Bank, Promex,
Banpaís, and Bancomer.
9
Figure 1. Number and composition of banks operating in Mexico, 1990-2011
50
Sma ll a nd specia lized ba nks
Multiple
ba nks
45
40
35
Medium ba nks
a nd foreign
bra nches
30
25
20
Entrances
Exits
15
Total banks (December)
Exits due to mergers
10
5
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
0
Source: Authors ca lcula tion ba sed on da ta from Na tiona l Ba nking a nd Securities
Commission (CNBV)
Concentration in Mexican banking system
Despite all these changes, the concentration level of the Mexican bank structure remained
relatively high. The top five banks (C5)10 controlled around 70% of total bank assets during
2000 and 2011, as well as banks main activities, see table 1.
Specifically, the C5 represented 76% of bank investment in securities, with a relatively
small coefficient of variation. The same applies for credits, in which the C5 represented
76.3% of the total credit stock, with even lower coefficients of variations. Household
credits were the most concentrated activity, composed by housing and consumption credits
with concentration over 85% and 83%, respectively, and relatively low coefficients of
variations, (see Table 1). It should be highlighted that small-sized and specialized banks,
highly related to supermarket and other commercial sector, although issued a big number of
credit cards, in terms of total credit volume their participation was irrelevant. Finally, the
C5 controlled only 60% derivatives and securities, being highly concentrated the
derivatives operations.11
Therefore, the Mexican banking structure, irrespective of the prevailing organization or if
domestic or foreign capital dominance, it is highly concentrated. Therefore, although
NAFTA set the path of foreign bank domination (whose parent companies are multinational
diversified financial institutions) did not promote competition in the Mexican banking
system.
10
BBVA Bancomer, Banamex, Santander, HongKong and Shanghai Banking Corporation (HSBC) and
Banorte.
11
The methodology used for measuring the concentration ratio of each activity does not permit the
differentiation between securities and derivatives, however the 1997 methodology shows that the derivative
sector is highly concentrated (see Dominguez 2011, p.102)
10
Table 1. Participation of the five biggest banks (C5) in total banks assets
and their main activities
December 2000 to December 2011, %
Assets
Cash and cash equivalents
Investment in securitites
Derivatives and securities
Credits
Firms
Consumption
Housing
Financ. Entities
Gov. entities
Deposits (inmediate exigibility)
Long term deposits
Net income
Average
74.0
77.1
76.0
62.5
76.3
67.3
82.7
85.6
60.6
79.7
84.1
74.5
76.4
CV SD Max Min
6.3 4.7 80.4 62.8
7.7 5.9 84.6 59.0
9.7 7.4 85.0 62.2
14.2 8.9 78.1 37.9
3.1 2.4 80.6 72.9
7.4 5.0 75.0 56.8
3.3 2.7 90.2 78.7
2.0 1.8 90.2 83.5
22.1 13.4 71.3 23.3
8.8 7.0 92.1 68.0
2.2 1.8 86.7 80.7
6.0 4.4 82.8 64.3
14.1 10.8 90.7 28.0
CV: Coefficient of variation, SD: Standard Deviation, Max: Maximum Value, Min:
Minimum value.
Source: Authors´ calculation based on data from National Banking and Securities
Commission (CNBV)
IV.
BANK ACTIVITIES AND RETURNS
The next issue of discussion is whether banks operating in the Mexican financial market,
dominated by foreign multinational, diversified their activities and their income, resembling
modern financiarized multinational financial corporations of developed economies. We
first analyze the evolution of non-traditional activities in the Mexican financial system;
followed by a discussion of the consolidated Mexican banks’ balance sheet and the
consolidated bank statement of income.
The diversification of banks activities
The instruments related to the new bank activities, as was discussed above (second section)
consider derivatives, gross repurchase agreements (repos), securitization, as well as
income from the modernization of the payment system (ATM, points of sales, new
branches of banks operating in Mexico, etcetera.) along with an expansion of bank services
to “unbanked” agents and geographical regions; displacing interest income from credits
issuance and investment securities to commissions and fees for managing deposits and
dealing with financial innovation.
In Mexico, the record of these activities can be found in the final years of the 1970s when
futures based on exchange rates were issued, interrupted by the 1982 exchange control.
Negotiations based on futures of shares and bonds (Petrobonos) took place during 19831986; along with forwards whose underlying prices are the exchange rate (1987); and
warrants (1992) (See Mexder web page)
11
Finally, in 1998, Banco de Mexico published the operational guidelines (regulation and
norms) of synthetics instruments procedure (see Informe Anual de Banco de Mexico, 1998),
giving way to a new set of activities. These legal settings were a result of NAFTA
operations and foreign and domestic banks mergers and acquisitions. In banks activities,
synthetics products took the lead, constituted by futures, forwards, swaps, options, credit
derivatives and structured derivatives. It should be highlighted that banks mainly supported
synthetics based on interest rates. Information available on futures, forwards and swaps in
2012 indicates that, in Mexder (Mexican derivative market) 52.8% of contracts based on
interest rate with general public had the bank system as their counterpart and, in non
organized markets (OTC, over the counter) the banking system acted as a counterpart for
90.6% of these operations, (see Banco de Mexico statistics, financial derivatives market).12
Looking at the evolution of the banking system, in the last fourteen years (1997-2011),
under the leadership of international multinational financial corporations, the values of
synthetic products boomed, three-folding banks’ total asset,13 see Figure 2. Total bank asset
in terms of GDP, in 1997 reached 51.2%; in 2003, 83.8%; and in 2007, just before the
outburst of the international financial crisis, banks’ assets reached 164% in terms of GDP.
In 2011, total bank asset, in terms of GDP, returned to pre-boom values. Financial synthetic
instruments, by themselves, represented 4.8% of GDP in 1997, 44.7% in December 2003,
surpassing the total amount of GDP by 27% in December 2007, reversing afterwards;
without losing importance in banks portfolios. Consequently, in spite of the increased
financial price instability, they remained as an important activity in the banking sector. The
varieties of synthetics products in banks that operate in the Mexican economy are limited,
operating through futures, traded in organized markets (Mexder), forwards and swaps
traded in organized and non organized markets (Mexder and OTC), see figure 2.
180
160
Figure 2. Total bank assets and the composition of synthetic instruments (% of
GDP)
Swaps (Mexder & OTC)
Options (Mexder & OTC)
Forwards (OTC)
Futures (Mexder)
Total bank assets
Total bank assets, except Financial synthetic
140
120
100
80
Financial Synthetic Instruments
60
40
20
0
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Source: Authors calculation based on data (december stocks) from Mexican Central Bank,
1997 methodology
12
The Mexican derivatives market (Mexder) was created in December 1998 as a public company of variable
capital that belongs to the Mexican Stock Exchange group.
13
The contracts of financial synthetics products includes the value of underlying assets.
12
Securitization practices were late in entering the Mexican financial market, initiating in
1998, guided by government entities (mainly municipalities and government states) that
securitized road tools income and income taxes, along with banks securitization of
receivable accounts. In concordance with rest of the world, housing mortgage securitization
also developed, for which was created the Sociedad Hipotecaria Federal (housing
development bank), which supposes to act as a market maker for non-bank bank (Sofoles).
In 2004, Infonavit and Fovissste (workers trust for housing finance) which are the main
issuers of housing loans started to securitize mortgage loans, controlling the business of
securitizacion from 2009 onwards and, finally, in 2006, banks incorporated to this practice.
However the total number of contracts and the total values involved in securitization has
been fairly low, see table 2.
Table 2. Total credit securitization, 2003-2011
Issues
Non bank
Banks
Banks
WTHF *
Securitized
credits
2003
2
2004
5
2005
8
2006
18
2007
16
2008
15
2009
13
2010
9
2011
7
1
1
0
3
0
2
5
0
3
13
1
4
10
3
3
5
5
5
1
2
10
0
0
9
0
0
7
12,143
23,920 30,595 75,145 94,782 152,969 193,149 168,640 102,472
Source: National Banking and Securities Commission (CNBV)
* Workers Trusts for Housing Finance refers to Instituto del Fondo Nacional de la Vivienda para los
Trabajadores (Infonavit) and Fondo de la Vivienda del Instituto de Seguridad y Servicios Sociales de los
Trabajadores del Estado (Fovissste)
Another major activity that underwent profound institutional changes was the payment
system for which two laws were enacted. The 2002 Payment System Law, (Ley del Sistema
de Pagos) that set the legal framework for the modern payment system to operate, in which
debt card use are regulated, ATM operations (Automated Teller Machines), banks deposits
of salary payments, as well as internet banking operations. All this changes increased
banked agents and the availability of banks operations to low income families, expanding
its operations to distant geographical regions. The other, is the 2007 act that dealt with
Financial Services Legal Rules and Transparency (Ley de transparencia y ordenamiento de
los servicios financieros) whose objective was to norm banks commission and fees and
guarantee their transparency, limiting bank charges over low income salaries deposits and
guarantying client mobility among banks. The results of these changes are expressed by
banks cash and near money (cash equivalents).
Banks consolidated balance sheet14
The principal activities of banks operating in Mexico (dominated by multinationals
corporations) continue to be based on current bank loans, followed very closely by
investment securities, which are the traditional non-financiarized banks activities. The
14
The analysis of the consolidated balance sheet of banks operating in the Mexican financial system is
presented under Banco de Mexico, 2000 methodology, which values synthetic contracts in net terms.
13
payment system, represented by cash and effective cash equivalents also expanded and, as
said before, securities and derivatives in net terms, continued to be important, but are
placed in last position, see figure 3a.
Although BIS I and II accords were adopted in Mexico, which enhanced households credits
(consumption and housing) due to the lower risk grade attached to them, the credit
composition did not modified drastically. The current bank loans (13.6% of GDP) was
headed by firm credits (5.6% of GDP) showing an increasing trend at the end of the period,
especially after the 2008 crisis; followed by credits to government entities (3.6% of GDP)
that concentrated in the first of years of the 2000s. Credits channeled to consumption were
third in importance (3.2% in terms of GDP) with levels below 1% between 2000 and 2003
that expanded to 3% in terms of GDP, after 2005. Housing bank credits behaved very
similarly to consumption credits, with a mean value around 1% and 2%, between 2000 and
2007, which increased to 3% in terms of GDP from 2008 onwards, see figure 3b.
Figure 3a. Bank assets and its main activities (as GDP %)
45
40
Past due loan portfolio
Investment in securitites
Cash and Cash equivalents
Other assets
35
30
25
20
15
14.1
13.6
13.1
12.0
8.9
10.4
9.8
10.0
10
5
11.6
10.9
Current loan portfolio
Assets
Securities & financial derivatives
11.7
12.6
11.8
12.1
13.9
15.0
15.1
12.9
12.4
12.6
15.0
11.8
15.7
11.1
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: Authors calculation based on data (december stocks) from National Banking
and Securities Commission (CNBV), 2000 methodology
2010
2011
Figure 3b. Credits trend and its composition in terms of GDP (%)
18
to Housing
to Consumption
to Firms
16
Current loan portfolio
14
to Financial Entities
12
2.4
2.1
8
4
2
1.7
1.8
0.5
4.3
1.7
0.7
4.0
1.5
1.0
4.1
1.3
1.4
3.8
1.3
1.8
4.1
2.6
4.2
3.3
4.9
2.5
3.5
2.9
2.8
3.1
7.1
7.1
7.0
7.3
2010
2011
3.7
5.8
2.6
2.5
2.2
10
6
to Gov. Entities
0
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Source: Authors ca lculation based on data (december stocks) from from National
Banking and Securities Commission (CNBV), 2000 methodology
14
Some words of prevention. Although one of the main activities of banks operating in the
Mexican economy is credit and, a great share of them are channeled to firms, it doesn’t
follow that the Mexican economy has a great access to credits. On the contrary, Mexico has
one the lowest credit ratio to GDP, in comparison to the other countries of the Latin
American region (see Levy 2011), and, particularly, small and medium-sized firms’ access
to loan is very low, since they are not considered solvent borrowers and government actions
to support productive sector firms’ credit demand is very limited. In terms of banks’
housing credits, their share of credits is relatively small (usually banks top up housing
finance) being Infonavit and Fovissste (workers trust for housing finance) the main housing
credits providers.
Consequently foreign multinationals finance corporations and Banorte (the sole bank
controlled by Mexican capital) continue to base their activities on credit issuance and on
investment and security trading, the latter composed mostly by government bond, with
small private bond presence. Hence, these institutions have not diversified into nontraditional activities as in developed economies. Large multinational banks such as the US
Citibank operating under the name of Banamex and the Spanish BBVA Bancomer and
Santander operate differently in Mexico than in their countries of origins.
Banks consolidated income structure
An important characteristic of banks operating in the Mexican economy is their high
returns in terms of assets and equity, showing a prominent upward lump between 2004 and
2008 that coincides with the expansion of synthetic products with no severe downturns in
their ROA and ROE, see Table 3. However, risk-adjusted returns over assets and equity in
relation to others countries diminishes drastically (see Table 3), without Mexico
experiencing a severe financial crisis. This comparison is of particular relevance in terms of
Chile, whose financial system is relatively similar. Hence the Mexican financial system is
more unstable than other developing and developed countries.
Table 3. International comparisons of ROA and ROE (%)
Country
ROA
ROE
ROA
Canada
ROE
ROA
Chile
ROE
ROA
EUA
ROE
ROA
Spain
ROE
Mexico
2000
0.3
4.0
0.8
13.9
1.1
12.5
1.1
12.5
0.8
9.3
2001
0.4
6.2
0.7
13.2
1.3
15.1
1.1
12.1
0.7
8.7
2002
0.1
1.4
0.6
10.4
1.1
12.5
1.2
13.1
0.7
8.5
2003
1.0
13.0
0.8
14.0
1.3
14.3
1.3
14.0
0.7
8.1
2004
0.9
11.7
0.9
15.9
1.2
14.3
1.2
11.7
0.6
7.6
2005
1.5
17.6
0.7
12.9
1.3
15.1
1.2
11.9
0.7
8.5
2006
2.0
20.1
0.9
16.8
1.3
15.7
1.2
11.4
0.8
11.0
Riskadjusted
2007 2008 2009 Average returns*
1.8 1.1 1.2
1.0
1.6
18.0 11.5 11.8
11.5
1.9
0.9 0.5 0.6
0.7
5.1
16.0 9.4 9.1
13.2
4.8
1.2 1.0 1.2
1.2
10.6
14.0 13.1 15.2
14.2
12.3
0.8 0.0 0.1
0.9
1.9
7.5 -0.5 1.2
9.5
1.9
0.9 0.6 0.4
0.7
5.4
12.7 7.9 5.0
8.7
4.3
*Risk adjusted returns on assets and risk-adjusted returns on equity are defined as the ratio of average returns
divided by its respective standard deviation (See Ben Gamra and Philon, 2011).
Source: Authors´ calculation based on data from OECD, extracted on 14 Jun 2012
15
Regarding the income structure of banks operating in Mexico, the first noticeable
characteristic is that, in contrast of financiarized institutions, the share of interest income in
terms of total bank operational income, instead of contracting, increased and was reinforced
by a positive trend. Conversely, the non-interest income in term of total operational income
diminished, see figure 4.
The second outstanding feature is the higher preventive reserves for credits risk in terms of
total bank operating income. This ratio, in 2000, was 17%; in 2007, it peaked to 45%,
stabilizing around 30% at the end of 2000s, reducing the adjusted financial margin, partly
explained (as we shall see later) through adjusted delinquency rate changes.15
Thirdly, in this period, banks administrative and operational costs shrank significantly,
acquiring an even higher increased efficiency in terms of total bank operational income.
Between 2000 and 2011, it reduce from 87% to around 70% (2011) in terms of total bank
operational income (see figure 4), amplifying banks income-cost gap.
Figure 4. Composition of bank interest income and non-interest income (%)
Other income and expenditure
% comissions and fees
% of Preventive reserve for credit losses
% Admn. and operational costs
110
90
70
% Results due to intermediation
% Interest Income
% Non interest income
50
29.8
29.1
24.8
24.8
28.3
30.0
25.4
24.0
4.5
22.9
2011
2002
15.0
2010
2001
6.2
2009
2000
-10
2.0
2008
31.2
8.5
2007
24.9
8.3
2006
10
23.1
4.9
2005
14.8
2004
14.5
11.5
8.4
2003
30
6.6
-30
-50
Source: Authors calculation based on data from National Banking and Securities
Commission (CNBV)
There are some striking issues in the income structure of banks operating in Mexico that
need further explanation. First, the interest income share increased although the average
interest rate of the Mexican central bank diminished, remaining the current loan portfolio
relatively constant.
Therefore, each component of the income banking structure is analyzed in more detail.
The interest-income share depicts some contradictory elements. In the first eleven years of
XXI century the Mexican system experienced a decline of the central bank rate of interest
(measured through interbank interest). The second five-years of the 1990s it averaged
15
The adjusted delinquency rate is defined as the sum of direct non-performing loans plus write-offs or losses
recognized by Banks during the twelve months divided by total credit portfolio plus the above mentioned
write-offs or losses, see Financial System Report 2008, (July, 2009, p. 58).
16
31.5% (without commissions) against 8.39% in the following 11 years (2000-2011),
showing a downward trend throughout the period.16
Looking at the banks’ net interest income (interests paid are deduced) that reached an
overage 85% of total bank operational income, some peculiar factors appear, thereby we
examine the composition of gross interest-income. First, credits interest income expands
instead of diminishing (55% on average with a coefficient of variation of 7.4%) and, the
rest represented mainly by interests from investment securities showed a reverse trend (it
averaged 40% with coefficient of variation of 27.9%), see figure 5. Second, and more
astonishingly, the most dynamic source of interest-income comes from consumption credit
interests (20.4% on average with a coefficient of variation 55%), followed by enterprises
(15.9% on average, with a relatively steady coefficient of variation, 19.1%), government
entities (12% on average, with a falling trend and highly unstable, 79.5% coefficient of
variation) and housing (6.4% with a coefficient variation of 33.7%).
Figure 5. Gross interest income and its composition (%)
140
Interests from investment in securities
Initial credit comissions
120
Due loans interest
from Financial entities
100
Current loans
Net interest income/Total income
80
from Enterprises
from Government entities
60
from Consumption
from Housing
40
20
0
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
Source: Authors calculation based on data from National Banking and Securities
Commission (CNBV)
Thus, although the Mexican banking system is not financiarized and consumption credit is
neither the most important share of total credit issuance, by far consumption credits are the
principal interest-income component.
The non-interest income represents 37% of total banks operational income, with relative
low coefficient of variation (12%), conformed by commissions and fees (27%), followed by
result of intermediation (9%), with a very high coefficient of variation (49%) and 2% from
other incomes and expenditures. Consequently, the income from non-traditional activities
is composed by the two last sources that, in total, average 11%, which still is a rather small
portion of bank total operational income and, more importantly extremely unstable.
Strikingly, also half of commissions and fees income derives from credit operation,
particularly from consumption credit, reinforcing the observation that consumption credits
is an important source of banks income. In addition, the other half is constituted by other
commissions and fees charged that payment system operations such as ATM withdrawal
charges, account administration, point of sale and from new opening account commissions
16
Own calculation considering the Interbank Interest Rates, Funding and Banking Securities Note interbank
interest rates, Consulting day: 17/06/2012, www.banxico.org.mx
17
and fees. Hence, an important income source is related to the modernized payment system
operation that, although it is a traditional activity it operates under the new procedures of
multinational corporations, generating non-traditional income, see table 4.
Another important issue is the credit risk estimations. During the 2000s, there are two main
events. One is the change of methodology of preventive credit risk estimations. In 2007,
additional preventive estimation risk was introduced (representing in this year 30% of this
item, see table 4) and, second, the additional preventive credit risk estimations was
transferred to consumption, commercial and entrepreneurial preventive credit risk
estimations, remaining relatively stable the others. Consequently this change, can explain
partly the increase interest and commissions income arisen from this activity, only in the
latter of the 2000s.
The unique factor is that the delinquency ratio enlarged only for consumption credits with a
downward firms’ delinquency rate. Moreover, the housing credits become more unstable
increasing its delinquency ratio in the last years of the 2000, with no impact notorious
effect on the credit risk estimation, see figure 6.
Table 4. Commissions, fees and preventive reserve estimations
2007 2008 2009 2010 2011
Net Commissions/Total income*
28
30
25
24
23
From Credit operations
50
48
41
43
44
Commercial credits
2
2
4
7
8
Firms & commerce
2
2
4
7
3
Financial entities
0
0
0
0
0
Government entities
0
0
0
0
5
From consumption credits
48
46
36
36
35
Credit cards
46
43
33
33
32
1rst Anual payment & subsecuents
20
19
9
12
11
Affiliate Bussiness
26
25
24
21
21
Other consumption credits
2
3
3
4
4
Other commissions & fees charges
50
52
59
57
56
Preventive reserves for credit risks/ Y*
-26 -45 -46 -28 -25
Preventive reserves estimations for credit risks**
70 101 99
98
96
Commercial credits
10
23
9
19
22
Commercial & entrepreneurial activity
9
23
8
17
22
Financial entities
0
0
0
0
-4
Government entities
1
0
1
2
3
Consumption credits
58
74
82
70
65
Housing credits
2
5
7
9
9
Additional preventive estimations for credit risks
30
-1
1
2
4
* Total bank operational income **Derived from portfolio rating
Source: Authors´ calculation based on data from National Banking and Securities Commission (CNBV)
18
Last but not least, the consumer credit implicit rate of interest (12 months averaged)17
seems to vary independently of delinquency rate. Throughout, the period between 2000 and
2011 it showed very high levels, well above the average implicit rate of interest, in spite of
the low levels of the delinquency rate, see figure 7. Hence, implicit rate of interest responds
more to high concentration levels and big banks collusions behavior in the imposition of
interest rate and commissions in credit to consumption and activities related to the payment
system. Dominguez (2011), shows that the Herfindahl-Hirschman Index reaches critical
levels for consumption credits the system of payment.
30
Figure 6. Banks delinquency rates (%)
Firms credits
25
Consumption
Total portfolio
20
Comm. credits
Housing
Financial entities
Gov. entities
15
10
5
0
Dec-2003 Dec-2004 Dec-2005 Dec-2006 Dec-2007 Dec-2008 Dec-2009 Dec-2010 Dec-2011
Source: National Banking and Securities Commission (CNBV)
Figure 7. Implicit interest rates (%)
35
Firms
Consumption
Housing
Total portfolio
Financial entitites
Gov. Entities
30
25
20
15
10
5
0
Dec-2001
Dec-2003
Dec-2005
Dec-2007
Dec-2009
Dec-2011
Source: Na tional Banking and Securities Commission (CNBV)
17
The Implicit or effective interest rate refers to the accumulated interest rate on the current loans during the
last 12 months in terms of the current credit portfolio. This rate is equal to interest accrued in the reference
period, divided by the average balance of the current loan portfolio. It does not include commissions (see
Financial System Report 2008, p. 172).
19
Final Remarks
Banks main particularity is that they can issue monetary debts ex nihilo that, if canalized to
the productive sector, income enlarges, with no necessary impact on financial instability.
The key issue in this argument is that bank credits need to be cancelled, which can be done
through the higher income unfolded by higher investment and productive spending that
sets-on Keynes’ income multiplier. The main assumption under this argument is that
investment spending generates its own savings and finance. Thereby, temporal asymmetry
between short-term debts an income receipts ceases to be a major problem, at least in
closed economies.
However, in periods of financial capital domination, when productive capital assumes the
servant role and central bank interest shrinks, bank credit detaches from productive and
investment finance and, their advances are canalized to already existing commodities
(consumption or housing, different from construction) or even to financial activities,
increasing their gearing ratio, income from production does not expand and, more
importantly, productive profits remain constant. In this context, financial stability depends
on an ongoing financial inflation, which incubates financial instability once financial prices
cease to increase inducing financial and economic crisis that can set off deep economic
depression.
Bank adjust to this new environment through diversifying its activities and, more relevant,
their income structure shifts from interest to non-interest income, based on non-traditional
activities such as financial innovations, new credit composition and payment system novel
transactions and operations, extending bank activity to low-income families and unbanked
regions. A main effect of this behavior is that banks and, in general financial institutions, as
well as wealth holders, increase their profit share reducing workers income, debilitating
investment spending and the income multiplier.
In developing countries financial institutions underwent major changes, deregulating
financial (bank and non-bank) institutions that opened-up to international competition
taking place a process of mergers and acquisitions through which foreign multinational
financial corporation took control of the banking sector, reducing the number of domestic
owned banks, being Mexico an extreme case of foreign domination.
The main particularity of foreign financial corporation is that they operated differently in
developing economies. Their diversification into non-traditional activities is smaller and
interest income expanded instead of diminishing because the capital market did no expand
as in developed markets.
The Mexican experience is highly indicative. In terms of diversification there is no major
indication of increased non-traditional activities. Banks operating in Mexico continued to
depend on credits issuance and investment securities, with reduced synthetics instruments
when valued in net terms (booming if underlying values are included) and, the composition
of credits was not modified drastically and firms’ credits continue to be dominant.
However, the income structure resembles a slightly different situation. First, consumption
credits income is extremely high in terms of interest, commissions and fees as well as
20
income commissions from the payment system. The interesting finding is that most of
consumption returns is related to high implicit interest rate that does not respond to the
delinquency rate. Therefore large financial corporation reinforced the oligopolistic banking
structure, limiting further competition among banks.
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http://www.cnvb.org.mx
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