Tuesday, September 28, 2010

"Mexico's Drug War: The Battle to Remain Safe, Low-cost and Competitive"

Not the drug lords, the whole freakin' country. And the investors the country needs.
This is "National Security Interests" stuff.
From Knowledge@Wharton:
Mexico became a manufacturing mecca thanks, in part, to its inexpensive labor and proximity to the massive U.S. market. But there is a new reality on the ground in that country these days: a surge in violence tied to the war on drug cartels that Mexico's President Felipe Calderon mounted after his election in 2006. The result has been a wave of kidnappings, extortion and murder that is threatening the country's economic health and causing multinationals to examine closely how they operate and invest in Mexico.

"A failure to attract new capital is a major risk," warns Wharton marketing professor Jerry Wind, director of the SEI Center for Advanced Studies in Management. "If [the violence] continues, a lot of talented people might leave the country."

The cost of Calderon's war on the cartels has been steep. Since he took office four years ago, the government estimates there have been more than 28,000 deaths tied to the conflict. And each day seems to bring new horrors -- the recent discovery of 72 murdered migrants in a mass grave and the subsequent disappearance of two government officials investigating the crime, a bombing in the tourist hotspot of Cancun, and evidence that the cartels may be gaining expertise in car bombs.

Just as troubling has been the increase in attacks in the modern and once-safe city of Monterrey. While violence along the U.S.-Mexico border -- the route for drug traffickers to transport narcotics into the United States -- has not been a surprise, the problems in Monterrey, 130 miles south of the border, have been an unexpected nightmare. Home to manufacturing operations of large companies like General Electric and Whirlpool, Monterrey has seen politicians and citizens murdered and roadblocks set up throughout the city by roving gangs, a tactic apparently aimed at showing the gangs' power and also disrupting police activity. "The violence [in Monterrey] is bordering on obscene," says Daniel Johnson, senior chief of kidnap response at ASI Group, a Houston, Tex.-based global risk management firm. "It is a major concern for companies operating there."

To date, the impact of these security issues on the country's economy has been overshadowed by the severity of the global recession. Last year, Mexico's gross domestic product declined 6.5%, a painful contraction exacerbated by an outbreak of the swine flu and a slump in oil prices. This year, Rafael Amiel, director for Latin America at IHS Global Insight, an economic and financial analysis firm, expects Mexico's GDP to grow 5.1%.

At the same time, Amiel says there are no signs of a major exodus of foreign dollars from the country. Foreign direct investment averaged $1.6 billion per quarter in the four quarters ending March 2010. While there was a surge in the second quarter to $6.1 billion, Amiel says that uptick was driven by one deal, an acquisition by Heineken. Excluding that, foreign direct investment in Mexico remains weak, although he notes that this is a function of the stresses on the global economy, not Mexico's challenges with the drug cartels. "Employment growth is about what you would expect at this point in the recovery and we don't see firms moving out of Mexico due to the violence." Still, Amiel warns that if the situation on the ground in Mexico worsens, this could change. He figures a major escalation in the violence could shave half a percentage point off GDP growth.

How the drug-related crime in Mexico ultimately impacts the country depends in part on how multinational firms respond. For now, experts like David Robillard, managing director in the Mexico City office of risk consulting firm Kroll, say there are no signs that big multinationals are considering pulling out of Mexico. But Robillard does know some firms that have decided to put additional investment in Mexico on hold for now. And he notes that other firms that are looking to set up operations in Mexico for the first time are considering locations further south in the country, away from the crime hotspots. In addition, more corporate boards are asking management to take a hard look at their companies' exposure to risks in Mexico. Finally, some U.S. government workers in Monterrey have moved their families back to the U.S. following a drug-related shooting near their children's school.

"Not a day goes by that we are not asked by our multinational clients about a specific threat to their company [in Mexico]," notes Fred Burton, vice-president of counter-terrorism and corporate security at global intelligence firm Stratfor. Some firms are quietly doing what he called "gameboarding"-- studying other places to shift their operations to in case the situation in Mexico reaches a crisis. "Companies are still making money there but the cost of production is increasing," Burton says. "That doesn't bode well for the country.

The way companies handle those decisions -- whether they relate to Mexico or any other location around the globe -- comes down to an analysis of the risks and rewards. Erwann Michel-Kerjan, managing director of the Risk Management and Decision Processes Center at Wharton, says companies often break these issues down into a matrix. First, they will come up with a rundown of the top 10 or 15 risks they may face in a certain region. Then they gather information on how likely those risks are. The task at that point is to figure out how, if at all, the risks can be mitigated or controlled. This may involve changes in security processes at a plant, increased insurance against certain events or setting up back-up operations in case one location becomes disabled. "Ideally, you want to prevent every problem," Michel-Kerjan points out. "But in reality you don't have the resources to do that."...MORE