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Show Hinckley Journal of Politics Spring 2000 Leon, were too consumed by the election at hand to deal with the warning signs of an economic crisis. Thus, their desire to maintain political power throughout an election, and Mexico's policy to combat inflation with its exchange rate commitment triumphed in priority over preparation for an impending crisis, leading to stifled economic growth and low levels of employment creation in the formal sector of the economy (OECD 1996, 21). Critics of this policy called for a depreciation of the peso, arguing depreciation would allow Mexican products to become competitive in the international market, and reduce the demand for imported products at home. However after being elected to the Presidency in August 1994 and upon taking office on December 1, 1994, Zedillo continued to maintain his strong stance on supporting a strong and stable peso. It appeared that only a drastic event would change his policy. Unfortunately for Mexico and many others, that drastic event happened only three weeks into Zedillo's administration. The people of Chiapas were tired of having no jobs and no promised hope of future jobs. The strong peso had literally forced them out of work. It seemed in Mexico the rich were getting richer and the poor were getting poorer, frustrating the people of Chiapas into rebellion. As reports hit Mexico City of renewed rebelling in Chiapas, investors began to scramble, subsequently causing foreign reserves to drop a total of over $4 billion in one month alone, bringing the overall drop in foreign reserves from a U.S. $27 billion in February 1994 to a U.S. $11 billion by mid December 1994, and thus prefacing the government's first decision to devalue the peso (DePalma 1994). As reported in the New York Times on December 21, 1994, the announcement to devalue the peso (December 20) represented a major reversal of field for President Zedillo. Before taking office he had argued that the exchange-rate fluctuation band did not require any changes despite political uncertainties and a growing trade deficit (Eaton 1994). Thus, with the sudden change in policy, investors worldwide were questioning the credibility of the new administration and the viability of the Mexican economic situation. The Mexican leaders obviously expected some drop in the value of the peso as a result of some investors' retreat. Nevertheless, they felt the devaluation was a small adjustment and nothing of great concern. It is clear by their behavior that they never expected the crisis that followed. Investors' Reactions to Devaluation With the many positive changes to the Mexican economy emerging during the Salinas administration, investor confidence in Mexico had been at an all-time high. Specifically, with the recent passage of NAFTA investors felt Mexico's economic future was all but guaranteed, causing "the amount of money in Latin American equity funds to quadruple in 1994 to $4.4 billion from $950 million a year earlier" (Eaton 1994). Thus, when the Mexican government decided to issue tesebonos, short-term bonds that were guaranteed to be paid back in U.S. dollars, in order to finance its trade deficit, investors swallowed them up. In fact, from January 1994 to December 1994 tesebonos had increased from $3 billion to $29 billion (Lustig 1998, 171). However, as confident as investors appeared to have been, Mexico's December 20, 1994 decision to devalue should not have come as such a surprise to investors; "exchange-rate fundamentals" should have easily provided a basis for recognizing that old-fashioned economic rules were not being followed. But among investors there was the naive perception that the political costs of devaluation were so prohibitive, that no rational Mexican official would even contemplate this option (Pastor 1998, 131). Thus the sudden announced policy change by the Mexican government came as a complete shock. Investors felt misled and lost all confidence in the new Zedillo administration. Acting quickly, investors withdrew almost all their investments even despite the advice of their brokers. After just two days of investor reaction the Mexican government was left in a state of panic. After a night of discussion its leaders decided to let the peso float freely against the dollar. This new policy decision appeared to have been the last straw. The investors now saw their $29 billion in tesebonos in jeopardy. They felt they had to cash them in now or risk losing all of their money. Mexico was in a state of economic crisis. Billions of dollars in foreign investment were leaving the country and at the same time its peso was becoming worthless. U.S. Governmental Actors: Early Stages Back in the United States President Clinton had just finished celebrating the one-year anniversary of the signing of what was believed to be one of his greatest accomplishments, the North American Free Trade Agreement (NAFTA). At the time of the NAFTA anniversary everything appeared to be heading in the right direction, investor confidence in Mexico was growing, and politically the smooth transition from the Salinas administration to the newly elected Zedillo administration was reassuring. The United States was positive towards these developments, and relations between the previous government of Salinas and the Bush and Clinton administrations had been widely viewed as exemplary. Their teamwork in winning approval for NAFTA in late 1993 and for agreements on other bilateral issues, was characterized as the most positive working atmosphere between the two neighbors in decades (Roett 1996, 34). Coupled with the anniversary of NAFTA, the Clinton Administration had announced the first fruits of victory: Mexico had overtaken Japan as the No. 2 consumer of American exports (Sanger 1995a). However, amid all of this celebration a new responsibility was born upon the signing of NAFTA. Under the rules of NAFTA, the United States was now obligated to assist Mexico during times of economic struggle. Such a requirement seemed of little importance at the time. But due to the fact that Mexico and the United States are neighbors, although politically and economically 35 |
