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Crime Explodes — But an Economy Booms

In the Mexican border city of Nuevo Laredo, the bodies of nine people were found hanging from a bridge and another 14 decapitated and dumped near city hall last May — the result of a turf war between Mexican drug cartels.

Mexican marines present to the press the alleged member of Zetas drug cartel Eric Jovan Lozano Diaz (C), aka 'Cucho', and some money seized during his arrestation in Mexico city, on June 15, 2012.
Ronaldo Schemidt | AFP | Getty Images
Mexican marines present to the press the alleged member of Zetas drug cartel Eric Jovan Lozano Diaz (C), aka 'Cucho', and some money seized during his arrestation in Mexico city, on June 15, 2012.

The murders exposed the Mexican government’s significant problems; its seemingly out of control violence and its public relations problem —keeping the country’s violence level low enough not to scare away foreign investors.

“When they’re hanging people off bridges — it’s the visual of this. The drug cartels make it gruesome intentionally,” said Andrew Selee, director of the Mexico Institute, a Washington-based think tank.

As a result, when U.S. corporations consider expanding south of the border, Mexico is rarely their country of first choice, he said. Yet after doing research, “they find it’s not as bad as they thought,” Selee said. Then these same companies build a plant or establish a corporate office and watch their investments take off. (More:Mexico's Image Problem With Tourists)

And that is the paradox of Mexico. On one hand, the country’s well-publicized drug killings would appear to be a clear disincentive to foreign investment. On the other hand, the economy has become an under-the-radar economic juggernaut.

“It’s like the Mexican economy is driving with the emergency brake on,” Selee said. “You can only imagine if the violence weren’t going on, its growth could be extraordinary. You can’t help think they could sustain 5 to 6 percent growth in one year.” (Mexico is expected to grow at a rate of about 4 percent this year.)

Violence is a key factor in Mexico's low-to-middling competitiveness ranking among the nations of the world.

According to the World Economic Forum, Mexico ranked 58 out of 142 of the world’s countries in its 2010-2012 Global Competitive Index. Not surprisingly, the “most problematic factors for doing business” are crime, theft, corruption, and inefficient government bureaucracy. To put the ranking in context: The United States ranks number five out of 142; but Brazil — generally considered the darling of Latin American foreign investment — ranks 53 out of 142 countries.

Violence related to Mexico’s drug trade increased dramatically after President Felipe Calderon took office in 2006 and launched a war on the cartels.Almost immediately, killings in Mexico rose as the cartels fought back. More than 47,000 people have been killed in drug violence since the start of the war on drugs through September 2011, the last time the government released official figures.

Calderon leaves office in December after his six-year term is complete. This month he acknowledged crime is a deterrent to foreign direct investment.

“Yes, it has an impact, of course,” Calderon told CNBC during a visit to Singapore. “That is the reason why my government is investing a lot in terms of enforcement agencies in order to change public institutions, in order to fight organized crime with the full force of federal authorities, in support of local authorities in that sense.”

Compared to the U.S. homicide rate of five per 100,000, Mexico's homicide rate of 18 to 22 per 100,000—numbers cited by Selee— is tragically high. But it's still lower than Brazil's 25 per 100,000.

Is the problem violence...or corruption?

Mexico’s violence, Selee argues, is “manageable,” despite appearances to the contrary. “Even in the cities, the violence rarely touches most people in direct ways,” Selee said. “It’s more indirect. Most people know of someone who was kidnapped, or they don’t go out at night. It’s like being in New York in the late 1980s.”

Mexican outgoing president Felipe Calderon (L) shakes hands with president elect Enrique Pena Nieto (R) after a private meeting at Los Pinos presidential residence on September 5, 2012 in Mexico City. Pena nieto said that he will try to mantain the country's stability avoiding to cut public policies of the presnt administration.
Yuri Cortez | AFP | Getty Images
Mexican outgoing president Felipe Calderon (L) shakes hands with president elect Enrique Pena Nieto (R) after a private meeting at Los Pinos presidential residence on September 5, 2012 in Mexico City. Pena nieto said that he will try to mantain the country's stability avoiding to cut public policies of the presnt administration.

High-level foreign executives protect themselves and their investments with security systems, Selee said — just like in the United States.

As a result, large multinationals haven’t experienced much of the violence — which is why those companies continue to invest in Mexico.

Mexico received $4.37 billion in foreign direct investment in the first quarter of 2012, down about 9 percent from the same period in 2011; the U.S. accounted for about 37 percent of the inflow, followed by Spain at about 29 percent, and Luxembourg at 9 percent.

From an operations point of view, the drug war has very little effect on foreign corporations' operations. Experts say this is because it is difficult for drug cartels to force a large company headquartered outside Mexico to pay a “protection fee." Extortion depends on the cartels' showing there would be negative consequences of not paying — but the multinationals can simply lean on the Mexican government and military to strike back at the cartels.

In fact, George Haley, who directs the Center for International Industry Competitiveness at the University of New Haven, dismissed the violence problem, calling it “overblown.” (More:Is This the Right Time to Invest in Mexican Real Estate?)

“Corruption is the greater problem,” he said. “For instance, in the Wal-Mart case, what Wal-Mart's Mexican executives did would not generally even be considered corruption in Mexico.”

In April, Wal-Mart said it had discovered that its Mexican subsidiary, Wal-Mart de Mexico, allegedly paid bribes to facilitate awarding store permits, and then the company's corporate headquarters stifled an internal investigation into the allegations.

Former Mexico foreign minister Jorge Castaneda said Wal-Mart de Mexico’s actions may look like a bribe to Americans, but they’re standard operating procedure in Mexico. Although the national government has made strides, "at the municipal level, anyone who wants to open a business, it’s difficult to get all the permits you want to get without paying off low-level officials," he told CNBC in April. "It's pretty hard to get anything done unless you spread money around.”

But John Alan James, an international expert on corporate governance, called the Wal-Mart case a “hideous example” of how not to operate in a foreign country. “They were in a hurry and their codes of conduct got out of whack,” said James, founder of Management Counsellors International, S.A., where he advised multinational corporate clients on market entry strategies in foreign countries.

“Whenever you go into emerging markets you have the same kinds of factors to look at,” he said, including corruption and crime. “I’m very positive on Mexico. The raw materials are there. Sonora is literally a gold mine. And you’ve got the petroleum. And wonderful, lovely people.”