*. Bradford DeLong is an associate professor of economics at the
University of California at Berkeley, a research associate of the
National Bureau of Economic Research, and was deputy assistant
secretary of the Treasury for economic policy from 1993-1995;
Christopher DeLong is an associate at the New York law firm of
Howard, Darby, and Levin; Sherman Robinson is director of the trade
and macroeconomics division of the Washington D.C.-based
International Food Policy Research Institute, was senior staff
economist specializing in NAFTA issues at the President's Council of
Economic Advisers from 1993-1994, and is one of the intellectual
parents of the North American Development Bank.
The views expressed in this essay are those of the authors alone, and
not of any organization or govenment.
1. For analyses that note the repeated nature of the "surprise"
capital-inflow crises of developing economies, see Barry Eichengreen
and Albert Fishlow, Contending with Capital Flows: What Is
Different About the 1990s? (New York: Council on Foreign
Relations, 1996); and Jeffrey Frankel and Andrew Rose, "Exchange Rate
Crashes in Emerging Markets: An Empirical Treatment," Journal of
International Economics (forthcoming). We are indebted to these
authors for helpful discussions.
2. In June 1985, 92 percent of Mexico's domestic manufacturing
production was protected by a restrictive trade régime by
which imports had to be licensed; the average Mexican manufacturer
was protected by an additional tariff of about 25 percent. By
mid-1990 only 19 percent of domestic manufacturing production was
protected by import licenses, and the average tariff had been cut in
half. In 1989 Mexico began to relax the restrictive, foreign
investment-limiting requirements of its 1973 Law and Foreign
Investment. As of today, state-owned banking, insurance, and
telecommunications companies have been privatized.
3. Raul Hinojosa-Ojeda et al., Job Loss in the USA Due to
NAFTA (WWW Site of the North American Integration and Development
Center at UCLA;
updated Feb. 20, 1996). We would like to thank Raul Hinojosa-Ojeda
for helpful discussions on this issue.
4. See Congressional Budget Office, An Analysis of the Economic
and Budgetary Impact of NAFTA (Washington: GPO, 1993).
5. He discussed an essay he had written with Alejandro Werner. See
Rudiger Dornbusch and Alejandro Werner, "Mexico: Stabilization,
Reform, and No Growth," Brookings Papers on Economic Activity
1994:1 (Spring 1994).
6. See Andrew Warner, "Was Mexico's Exchange Rate Overvalued in
1994?" (Cambridge, MA: Harvard Institute for International
Development Disc. Paper 525, 1995) for another estimate of the degree
of peso overvaluation in 1994.
7. As of the end of January 1996, U.S. lending to Mexico under the
terms of the support package amounted to $10.5 billion. See U.S.
Department of the Treasury, The Treasury Secretary's Monthly
Report to Congress on Mexico (WWW Site of the U.S. Department of
updated Feb. 2, 1996).
8. For a survey of the state of the Mexican economy six months after
the crisis, see OECD, OECD Economic Surveys: Mexico 1995
(Paris: OECD, 1995).
9. Even in retrospect it is hard to judge the true risks. Sergio
Schmukler and Jeffrey Frankel argue that the risks of "contagion" and
world-wide financial crisis were less than thought in the heat of the
moment. See Sergio Schmukler and Jeffrey Frankel, "Crisis, Contagion,
and Country Funds" (Berkeley, CA: U.C. Berkeley xerox, 1996).
Guillermo Calvo argues that the risks were very great. See Guillermo
Calvo, "Capital Flows and Macroeconomic Management: Tequila Lessons"
(College Park, MD: University of Maryland xerox, 1996); and Guillermo
Calvo and Enrique Mendoza, "Reflections on Mexico's
Balance-of-Payments Crisis: A Chronicle of a Death Foretold,"
Journal of International Economics forthcoming.
10. Consider the Buchanan radio commercial: "I'm Pat Buchanan.
Friends, we have to balance the budget, but Congress is going about
it the wrong way. Before we cut Medicare for Senior Citizens, why
don't we cancel the $50 billion bailout of Mexico?" The implication
is that grandma will get dumped out of the hospital into the snow
because the money to pay for her hospitalization is going to the
plutocrats of Wall Street and Mexico City. Never mind that U.S.
exposure is not $50 but $10 billion, that regional recessions in
Texas and California that would have been likely in the absence of
the rescue package would diminish Treasury receipts by far more, and
that the peso support package looks likely to make not lose money for
the U.S. Treasury.
11. The interest rate premium of Tesebonos over U.S. Treasury Bills
in early 1994 was some 4 percentage points, suggesting that investors
foresaw a risk of, say, 10 percent per year that something would
destroy 40 of the real value of their investment. At the height of
the crisis in early 1995, Tesebono interest rates were 20 percentage
points above U.S. Treasury Bill rates, suggesting that those holding
three-month Tesebonos then saw a 10 percent chance that they would
have lost an average of 50 percent of their real value by the time
the crisis had passed.
In addition, it appears likely that investors in Mexico did see the
likelihood of a serious peso crisis before investors elsewhere, did
begin to pull their money out of Mexico into New York before foreign
investors began to do so, and so did bear a smaller share of the
capital losses from the crisis. See Jeffrey Frankel and Sergio
Schmukler, "Country Fund Discounts and the Mexican Crisis of December
1994: Did Local Residents Turn Pessimistic Before International
Investors?" (Berkeley, CA: U.C. Berkeley xerox, 1996).
12. See, for example, Allan Meltzer, "A Mexican Tragedy" (Pittsburgh,
PA: Carnegie-Mellon xerox, 1995). Meltzer says that "... once there
is agreement on the terms of the [debt] renegotiation [after
default], capital flows to the country soon resume." He is careful
not to tell readers how long such debt renegotiations typically
13. Critics of the support package like Allan Meltzer, "A Mexican
Tragedy" (Pittsburgh, PA: Carnegie-Mellon xerox, 1995), deal with the
possibility of a spread of the crisis by assuming it away.
14. Neither expansions of foreign aid (to compensate for the unequal
impact across countries of the crisis) or an increase in the
progressivity of the tax system (to compensate for the fact that
financial benefits for U.S. citizens from the rescue package flowed
mostly to the rich) appear politically popular today, yet these are
the substantive policies to which worry about the "$50 billion
bailout for Bob Rubin's friends" should lead.
15. See George Graham et al., "Mexican Rescue: Bitter Legacy
of Battle to Bail Out Mexico," Financial Times (February 16,
1995), on this website as IMF
Directors Balk. The strangest argument made--an argument also
made in Meltzer, "A Mexican Tragedy"--is that providing financial
support risked creating "moral hazard": that in the future similar
crises would repeat because investors and governments would expect a
support package. As far as investors are concerned this is the point:
we do not want investors to hesitate to commit their money to
emerging market economies with strong fundamentals because they fear
a liquidity crisis, and thus we hope that investors will anticipate a
support package in cases of liquidity crisis when underlying policies
are sound and fundamentals are strong. In the case of governments,
does anyone believe that the government of Mexico--even with the
support package--is happy with the outcome, and would repeat the
chain of decisions that led to the crisis had they the chance to do
it over again? From the government of Mexico's perspective, their
country's economy is in a serious recession; their international
reputation is shot; and economists conducting post mortems
debate whether their errors of policy were fatal or just
16. Barry Eichengreen, Golden Fetters: The Gold Standard and the
Great Depression (New York: Oxford University Press, 1992).
17. Jorge Casteneda, The Mexican Shock: Its Meaning for the
U.S. (New York: The New Press, 1995).