The Mexican economy has diversified away from oil, but Nieto’s government still depends on oil exports. Over 1/3 of its budget is currently funded by PEMEX, the state-owned oil company. With oil prices falling, the Mexican government needs to raise revenues or cut spending immediately. Contrary to the CFR paper attached here, I don’t think more debt is a viable strategy in the new era of volatile FX flows.

Even the IMF is worried about capital outflows from Mexico in the near future: http://www.imf.org/external/pubs/cat/longres.aspx?sk=42444.0

The baseline growth projection [for Mexico] is predicated on a smooth process of U.S. monetary policy normalization, accompanied by strengthening activity in the United States. However, a resurgence of financial market volatility cannot be ruled out. Potential triggers include an earlier or sharper-than-expected rise in U.S. interest rates (for example due to an unexpected rise in inflation or a rapid decompression of U.S. term premia), increasing geopolitical risks, or investors’ reassessment of sovereign risks more generally. A materialization of this risk could lead to capital flow reversals from emerging markets (including Mexico), reduction of market access, and a sharp increase in the volatility of asset prices. A protracted period of financial market instability could also affect the confidence of long-term investors, lead to lower-than-expected FDI inflows, and slow the implementation of structural reforms.

All this pressure – from (1) falling oil prices, eroding government revenues, and (2) serious warnings of possible capital flight – gives Nieto lots of ammunition to push for speedy economic and structural reforms… which will also depend on a major corruption crackdown to re-win the support of Mexican voters.

While it may be too late to avoid an FX shock from the USD rally & imminent reversal in capital flows, Mexico may find itself in a very competitive position in the post-shock emerging markets beauty contest, alongside Modi & Rajan’s India… but only if it pushes ahead with Nieto’s proposed reform agenda.

I’m optimistic. 

KKR’s Henry McVey wrote a solid report on Mexico’s prospects in May 2014 that may help readers get a grip on the basic outlook. The situation has continued to evolve, obviously, but this is a good place to start: http://www.kkr.com/global-perspectives/publications/mexico-different-investment-lens-required