A brutal war is being fought within miles of the US border…

Late last month an ice chest was delivered to the police headquarters in Ascension - a Mexican town less than 30 miles from the US border. The chest contained four severed human heads - a message of intimidation from local drug traffickers.

The drug war in Mexico continues to escalate with atrocities that rival those occurring in the conflicts of the Middle East or Africa as revitalized law enforcement agencies are locked in a struggle with trafficking gangs that are entrenched in the economy after decades of corruption and incompetence on the part of previous officials.

In September, Finance Minister Agustin Carstens estimated that the conflict may be costing the nation as much as 1% of GDP growth annually. That estimate may be low; some Mexican academics estimate the total contribution of tourism to GDP at 8%.

With the recent slide of the Peso, Mexico’s fabulous beaches should be teeming with budget conscious tourists this winter. Instead, the violence has caused a chill for tourism has increasingly been commented on by industry observers. The latest warning issued by the US state department on October 18th contained the following message: “Mexican drug cartels are engaged in an increasingly violent fight for control of narcotics trafficking routes along the U.S. - Mexico border in an apparent response to the Government of Mexico’s initiatives to crack down on narco-trafficking organizations. In order to combat violence, the government of Mexico has deployed military troops in various parts of the country. U.S. citizens should cooperate fully with official checkpoints when traveling on Mexican highways”. This type of publicity will not help fill the beaches anytime soon.

Mexico is not alone in the fight. Last week president Calderon announced and intensified strategic partnership with Columbia in the fight against cocaine trafficking. In some ways, Columbia could provide the Mexican government with a blueprint for the way forward. President Uribe has made significant gains in recent years through relentless military action and a close partnership with the US government (under the Uribe administration over 900 drug offenders have been extradited to face trial in the US). Even if the strategy does succeed, the violence will likely get worse before it gets better as the traffickers come under more pressure and fight back harder. The criminals have the equipment to put up a fight - last week the Mexican army seized 314 heavy automatic weapons with a half million rounds of ammunition, 160 hand grenades and a rocket launcher from a single gang cell in Tamaulipas.

Mexico (EWW) is one of the few short positions that we have not covered on weakness this week.

Andrew Barber