Transcript Once Upon a Time in Mexico

The Tequila Crisis
(no, not just a
shortage)
Micah Brock, Michael Derocher,
Ryan Earley, Annie McDonough,
Matt Warchol
Once Upon a Time in Mexico
• In the late 1980’s and early 1990’s, Mexico was
recovering from economic trouble.
• Government Reforms under Carlos Salinas
(1988-1994)
Restructuring Debt under Brady Plan
Large Reduction in Budget Deficit
Unilateral Cuts in Protectionist Trade Barriers
Privatization of Government Enterprises
Everything Looked Wonderful,
But…
• NAFTA was set to take effect in 1994
• Expected to encourage foreign investment
in Mexico, due to unique access to the
U.S. market.
• The reforms came at a price, a growing
current account (from $6B in 1989 to $20B
in 1993)
• The current account hinted at an
overvalued peso.
Current/Capital Accounts
According the to the famed
scholar… John Stiver:
• Currency Crises
usually occur due to a
combination of
Bad Policies and
Bad Luck
Bad Policies…
• Overabundance of credit due to:
–
–
–
–
improved economic expectations
substantial reduction in public debt
real estate and stock market boom
strong private investment
• Excessive Credit becomes burden
– Poor borrower screening
– Credit-volume excesses
– Slowdown of economic growth in 1993
Bad Policies…
•
Causes of Debt
– Bank reserve requirements eliminated
– Banks hastily privatized without regard to “fit and proper criteria”
(selection of top officers, shareholders)
– Banks purchased without proper capitalization → shareholders
leveraged acquisitions with loans provided by very banks bought out
or from other reciprocally collaborating institutions
– Moral hazard increased because of unlimited backing of bank liabilities
– No capitalization rules based on market risk →
encouraged asset-liability mismatches which led to
highly liquid liability structure
– Beginning in December 1990 foreigners allowed to
purchase “domestic” (short-term) government debt →
increased purchasing power by sellers due to
decreased government debt
– Implemented “Tesebonos” (short-term, dollar-indexed,
peso-denominated Mexican government securities) →
effective in short term by retaining $23 billion in foreign
financing but magnitude dangerous if devaluation
occurred
International Reserves
Political Events
• An argument could be made that the Mexican
Peso crisis was the result of “bad luck”
• There were 4 major political events the year
preceding the crisis
1st Event
• Armed guerrilla
movement in province
of Chiapas in January
of ’94
2nd Event
• Assassination of
ruling party’s
presidential
candidate, Luis
Donaldo Colosio in
March of ’94
3rd Event
• Kidnapping of Alfredo
Harp, a prominent
Mexican
businessman, in June
of ’94
4th Event
• Assassination of Jose Francisco Ruiz Massieu,
a high ranking official in ruling party in
September of ’94
• Brother of assassinated Massieu and Deputy
Attorney General, Mario Ruiz Massieu, claimed
other high ranking officials in ruling party ordered
the assassination and that these officials along
with the Attorney General (his supervisor) were
obstructing his investigation
The Result?
The Tequila Crisis !!!
Exchange Rates
Peso per Dollar
9
8
7
Exchange Rate
6
5
Series1
4
3
2
1
0
1
60
119
178 237
296 355 414
473 532
591 650
709 768
Period
827 886 945 1004 1063 1122 1181 1240 1299 1358 1417
Interest Rates
Mexican Monthly Interest Rates(Annualized)
100.00
90.00
80.00
70.00
Interest Rates
60.00
50.00
Series1
40.00
30.00
20.00
10.00
0.00
1
5
9
13
17
21
25
29
33
37
41
45
49
53
57
Period
61
65
69
73
77
81
85
89
93
97
101 105
Mexico After the Tequila Crisis
• Rapid growth
– Exports grow rapidly
– Other areas of the economy weak
• Credit Problems
– Investors unable to get loans from Mexican banks
• Inflation Concerns
– Fiscal policy vs. monetary policy – inconsistent
government behavior raises concerns
Conclusions
• Mexico is rapidly growing
• Inflation not yet a problem
• Government policies have enabled Mexico
to partially protect against external shocks
Mexico in 2004
• High growth driven by strong global economy (especially
U.S.) and demand, high commodities prices, rising
household consumption and increased investment
• Inflation in check
• Better distribution of debt, better healthcare, improving
infrastructure and decreasing budget deficits enabled
largely by favorable world oil prices
• Huge gaps between the rich and the poor remain,
unemployment rates still high, political and economic
stability remains in question
Recommendations for Mexico in
the future
• Take full advantage
of the current
favorable global
economic climate
• Continue to
strengthen its
financial structure
and banking systems