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Mexican Meltdown: States, Markets and Post-NAFTA Financial Turmoil

Mexican Meltdown: States, Markets and Post-NAFTA Financial Turmoil

ThirdWorld Quarterly, Vol 17, No 5, pp 975± 987, 1996

Mexicanmeltdown: states, markets and post-NAFTA ®nancialturmoil

MAXWELLA CAMERON &VINODKAGGARWAL

Thedevaluation of the in December 1994 triggered a ®nancial panicthat required massive interventionby the US governmentand the Inter- nationalMonetary Fund ( IMF)inan effort to prevent a full-scale® nancial collapse.By the end of January 1995, President had cobbled togethera packageof loan guarantees in excess of$50 billionÐ the largest socialisationof marketrisk in thehistory of international® nance. 1 Massive state interventionwas requiredto support in the ® rst yearof the North AmericanFree TradeAgreement ( NAFTA),thecentrepiece of market-led inte- grationin the Western Hemisphere. The paradox recalls Karl Polanyi’ s cel- ebratedphrase: `laissez-fairewas planned’. 2 The® nancialmeltdown stimulated a debateover the free marketmodel of developmentpromoted by Washington. 3 Mexico,recently considered the paradigmfor countries undergoing market reforms, had again become a pariah. Perhaps,mused some, nation-states have lost too much power and autonomy in thisera ofglobal ® nancialderegulation. 4 Ofcourse,the battle between states and marketshas beena populartopic for centuries. Whether couched in terms ofthe roleof money lenders to kings, the impact of the on labour,the role of internationalbanks, or thepressures ofinternationalcurrency speculatorson governments,the question of whetherstates havelost control has beena centralfocus in the® eldof politicaleconomy. Despite repeated obituaries forthe state, however, nation-states have continued to reassert control.Even the liberal Economist recentlyhad a coverstory entitled ` Themythof thepowerless state’ .5 Analystshave investigated the relationship between states andmarkets using variantsof three classical theoretical schools: liberalism, structuralism and mercantilism.Each of these approaches has muchto say aboutthe types of actorsthat play a keyrole in the international political economy, their motiva- tions,and optimal strategies for coping with interdependence in the world economy.What would these schools tell us aboutthe role of ® nancialinter- mediariessuch as mutualfunds and investment bankers with respect to the Mexicanpeso ofDecember 1994? To answer this and related questions, weexaminethe impact, causes andpolicy implications of thepeso crisis, as well asthereasons forthe US-led bail-out package. We thenconsider the crisis inthe lightof classical schools of political economy. MaxwellA Cameron,Helen KelloggInstitute for International Studies, 216 Hesburgh Center, University ofNotre Dame,Notre Dame, IN 46556,USA. Vinod K Aggarwal,Department of Political Science, University ofCalifornia, Berkeley, CA94720,USA

0143-6597/96/050975-11$6.00 Ó 1996Third World Quarterly 975 MAXWELL ACAMERON &VINOD KAGGARWAL

Dimensions ofthe peso crisis The impact Althoughthe overvaluation of thepeso was discussedduring much of President CarlosSalinas de Gortari’ s term(1988± 1994), the crisis came as asurpriseto mostpolicy makers andobservers. 6 As JorgeCastan Äedanoted, ` noteven the mostacerbic critics of the previous regime and political system couldhave imagineda nightmarelike the one the nation is nowliving’ . 7 Althoughit is impossibleto calculatethe exact overall costs ofthedevaluation, it is easy toget aroughsense ofthe magnitude of the crisis. Withina coupleof weeks of the peso’ s collapse,multibillion dollar losses wererecorded by foreign investors. Examples of major losers includedMerrill Lynch,Fidelity and Scudder. Canadian investors, such as CI LatinAmerican Fund, the Reichman real estate corporation, Labatt and the Bank ofNova Scotia were also hurt. Mexican ® rms tookan even greater pounding, especiallythe telephone ( TELMEX), cement (CEMEX),andtelevision ( TELEVISA) monopolies,as wellas otherpowerful conglomerates like the Monterrey-based Alfa group.8 USandCanadian investors were forced to defer plans for further projects,while others took losses and¯ edthe market. Retailers were among the hardesthit by plummeting consumer demand; ® rms likeWal-Mart and Price Clubpostponed plans for further expansion. Sales ofeverything from automo- bilesto kitchen appliances dropped by as muchas 50%because of lower incomesand the rising price of consumer credit. Thegreatest losses wereexperienced by ordinaryMexicans. The , combinedwith adjustment measures adoptedin March 1995, led to a 6.9% contractionin the economy by year end. Over a millionMexicans were left unemployedas awaveof bankruptciesspread across theeconomy, driving many businesses intothe informal sector. With in¯ ation at 52%,and wage settlements keptto a minimum,real earnings were estimated to have fallen by as muchas 12% in 1995.9 Asincomesand consumption fell, soaring interest rates placedan additionalsqueeze on with credit card debt, mortgages or bankloans. Morethan one in every four Mexican borrowers fell seriously delinquent in their debtpayments.

Causes of thecrisis TheMexican meltdown prompted a varietyof explanations. Central bankers raisedquestions about the appropriateness of Mexico’ s exchangerate regime. Thepeso had been allowed to depreciategradually within a predeterminedband. As Mexico’s currentaccount de® cit grew, and its foreign reserves dwindled, ®nancialmarkets lost con® dence in the peso. This led to which forcedthe government to letthe peso ¯ oat.In this view, the underlying problem was thelack of credibilityof theexchange rate mechanism. Had Mexico ¯ oated thepeso earlier in 1994,or perhapsin 1992,the crisis mighthave been averted. 10 Otherssuggested that Salinas relied too heavily on foreign savings to ® nance growth.Before 1994, 80% of capital ¯ owsinto Mexico were in the form of portfolioinvestmentÐ the acquisition of existing assets onthe stock market. In 976 MEXICAN MELTDOWN

1994,as mutualfund managers and other institutional investors began to detect signsof an impending crisis, that share declinedto 50%. Nevertheless, the amountof portfolioinvestment in Mexicowas afar greatershare oftotalcapital in¯ows than in any other country in Latin America, and much of it was encouragedby the prospect that NAFTA wouldenable Mexico to join the First World. Between1984 and 1994 Mexico absorbed more than $94 billion in capital in¯ows. Meanwhile, domestic savings declined from 22% to 16% of the gross domesticproduct ( GDP)between1988 and 1994. 11 Worsestill, the Mexican economywas virtuallystagnant. GDP declinedfrom 4.5% in 1990, to 3.6% in 1992,to 2.8% in 1992, to 0.4% in 1993. Powerful recessionary pressures had begunto manifest themselves during 1993, when per capita income fell for the ®rst timesince 1988. 12 By1994 Mexico had few options. As USinterestrates rose,Mexico found it harderto attract foreign capital. One solution would have been tighter monetary policiesto cutimports and improve Mexico’ s currentaccount balance. However, as Jaime Rosnotes, this option would probably have led to a crisis inthe bankingsector and a recessionsimilar to that of 1995, with one difference: the exchangerate would have remained overvalued. 13 Theother solution would have been to devalue the peso. However, this option was ruledout because of the desire to retain credibility and con® dence among investors,especially foreign investors. Thus, when major institutional investors likeFidelity Latin America began to refuse tobuy peso-denominated Federal TreasuryCerti® cates, or Cetes, Mexico relied on dollar-denominated Treasury Bonds(Tesobonos), and less onCetes. This turned out to be a crucialpolicy error. Theover-reliance on Tesobonos increased the risk that the government shoulderedrelative to foreign investors in its effort to maintain Mexico’ s attractivenessas aplaceto invest.Whereas the value of Cetes issuedby Mexico decreasedfrom $26.1 billion in 1993 to $7.5 billion in 1994, the value of Tesobonosincreased from $1.2 billion in 1993 to 17.8 billion in 1994. 14 The combinationof growing Tesobono obligations and declining international re- serves was amajorcause ofthe loss ofinvestor con® dence. Thedecline of hard currency reserves inthe was closely linkedto the sequence of political and economic shocks that culminated in the devaluation.On 1 January1994 the Bank of Mexico held nearly $25 billion in reserves. Theuprising in Chiapason that day did not force the Bank to intervene inthemarket; in fact,Mexico’ s reserves grewto nearly$30 billion in February. However,the Bank intervened repeatedly in the month following the 23 March assassinationof Colosio, leaving Mexico with just $17.5 billion by the end of April.After that, there was littlecentral bank intervention in the market until afterthe August elections. However, a newround of attackson thepeso occurred inmid-November, following renewed in® ghting within the ruling Partido Rev- olucionarioInstitucional ( PRI)overthe investigation into the assassination of its SecretaryGeneral, Jose ÂFranciscoRuiz Massieu. This lowered Mexican reserves from$17 billion at the beginning of November,to $12.5billion at the end of that month.The most devastating attack on thepeso occurred on 21December,when 977 MAXWELL ACAMERON &VINOD KAGGARWAL thecentral bank spent $4.5 billion in a singleday in a futiledefence of the peso.15

Therole of policyerror Thedeftness with which the attack on the peso in March 1994 was managed contrastswith bungling and incompetence in December later that year. By comparinghow these two crises werehandled, it ispossibleto get a sense ofthe importanceof policyerror in thepeso crisis. It should be remembered,nonethe- less, thatMexico experienced considerable capital ¯ ightfollowing the assassin- ation,and the expected increase in capital in¯ ows following the presidential electionin August failed to materialise. The December attack on the peso was thelast in a series ofpolitical and economic crises during1994, and it came at anespeciallyvulnerable moment in thetransition from the Salinas to the Ernesto Zedillogovernment. InMarch 1994, when presidential candidate Luis Donaldo Colosio was shot onthe hustings in , a major® nancialcrisis was avertedby timely and effectivepolicy management. The crisis was managedby of® cials from Ha- cienda(the ® nanceministry), in particular Jose ÂAngelGurria. Gurria was an experiencednegotiator who had participated in Mexico’ s debtnegotiations, as wellas inthe ® nancialservices negotiationsin the NAFTA.InMarch 1994 he was thehead of NacionalFinanciera, one of Mexico’s powerfuldevelopment banks. Inan effort to head off a speculativeattack, of® cials at Hacienda activated (butdid not actually use) a$6billion swap facility that had been negotiated betweenHacienda and the US Treasury(the leading Mexican of® cial responsible was GuillermoOrtiz, later to become Secretary of Hacienda). Although negoti- ated` secretly’around the time of thedebate between US VicePresident Al Gore and NAFTA-criticH Ross Perot,the swap facility had been known to insiders for months. Togaintime in orderto getapproval from the US governmentto activate this fund,Mexican of® cials, with the authorisation of the President, decided to shut downthe Mexican stock market (or Bolsa de Valores) for a day.Ortiz called LawrenceSummers, Undersecretary for International Affairs at theUS Treasury, whoactivated the Exchange Swap Fund. Then the Mexican ® nanceof® cials `begantrying to win back investor con® dence by calling everyone they could thinkof around the world from traders to chief executives’ . `Theperformance was magni®cent’ , accordingto oneportfolio manager. ` Almostevery investment bankand every investor in theUS was onthephones from 8 to9inthemorning andhad it all laid out for them by the Mexicans.’ 16 Salinasalso played a key role:he met business and labour leaders to re-sign the corporatist ` pacto econoÂmico’. Themanagement of the crisis causedby the assassination of Colosiodemon- stratedhow growing economic integration required the construction and mainte- nanceof increasingly complex domestic and international coalitions. However, itdid not address thebalance of payments problems, which continued to grow. Inparticular, it did not reduce the government’ s imprudentreliance on foreign savings.The growing strength of foreign investors was demonstratedin the 978 MEXICAN MELTDOWN aftermathof the Colosio assassination, when a groupof mutual funds sent the Mexicangovernment a listof suggestions to bolster the currency. According to the WallStreet Journal ,`Tolendweight to theiradvice, the funds said they were willingto pouran additional$17 billion into Mexico this year if the government enactedreforms’ . 17 Eightmonths after the assassination of Colosio, the ® nalassault on the peso began.On 20 November 1994, President-elect met with Presi- dentSalinas in thepresence of theSecretary of Hacienda,Pedro Aspe. With the transferof government less thantwo weeks away, the assembled of® cials plannedtheir response to the latest round of capital ¯ ight.Aspe opposed devaluingthe peso, in spite of declining reserves, andZedillo and Salinas agreed.18 Aspe’s mainconcern was thata devaluationwould lead to a loss of credibilityand con® dence in themarkets, and he argued that it wouldhave to be accompaniedby a hostof complementary policies that an outgoing government couldnot announce at the very end of its mandate. Oncein of® ce, Zedillo appeared to ignore the growing clamour over the currentaccount de® cit. When the new Secretary of Hacienda, Jaime Serra, publiclyoutlined his ` EconomicCriteria for 1995’ on 8Decemberhe announced neitheradjustment measures toreduce the de® cit nor modi® cation of the exchangerate regime. For this reason his speech, prepared in with members ofthe outgoing administration (including Aspe, Salinas, and Ortiz), was judgedby business analysts to be insuf® cient. Luis Germa ÂnCarcobaof the Business CoordinatingCouncil called for a meetingwith Serra, which was scheduledfor mid-December. Although capital ¯ ighthad already begun and the pesohad risen to the top of the band (3.46 pesos tothe dollar), Serra remained optimistic. Afterhis speech, Serra gavean interview to the WallStreet Journal in which hedeniedthe possibility of adevaluation.The following Monday the peso broke throughthe of® cial band and the stock market fell by 4%. In the evening an emergencymeeting was heldbetween Serra, Miguel Mancera (of the Bank of Mexico)and members ofMexico’ s businesselite. Although it was agreedto widenthe band rather than let the peso ¯ oat,comments by Mancera hinted that Mexicodid not have the reserves todefend the peso against another serious attack.The meeting gave the bankers the opportunity to buy dollars before Serra’ sannouncementof thedevaluation, and billions of dollars¯ edthe country ina matterof hours. ` It’s the® rst timein history that a devaluationwas consultedon’ , commentedformer ® nanceof® cial Jesu ÂsSilvaHerzog. 19

Assembling arescue packagefor Mexico Itmightbe argued that the Mexican ® nancialcrisis threatenedthe stability of the globaleconomy, especially emerging markets. However, the threat of a gener- alisedsystemic collapse was less signi®cant than during the of1982. Inspite of this, a far morecostly bail-out of the Mexican economy was engineeredby theinternational ® nancialcommunity, led by theUSA. Thereason liesin the crucial importance of Mexico to theUSA inthecontext of NAFTA, and theextent to which US businessinterests were affected by the devaluation. 20 979 MAXWELL ACAMERON &VINOD KAGGARWAL

Thebail-out revealed cracks inthe international ® nancialsystem: sixEu- ropeanmembers ofthe IMFÐBritain,Germany, Denmark, the Netherlands, Belgiumand SwitzerlandÐ abstained on the vote to provide$17 billion in loans toMexico. They said the plan was pushedthrough too hastily (documents were receivedonly an hour before the meeting to vote on the package), and without regardfor the IMF’sotherobligations or problemsof moralhazard. 21 US of® cials notedthat the speed of the markets had outstripped the ability of bureaucratic agencieslike the IMF to respond. Theemergency bail-out, combined with Mexico’ s domesticadjustment mea- sures, onlyaddressed part of the problem. Under the terms ofthe bail-out packageassembled by the USA, Mexicoreceived $20 billion in loans with up to10-year maturities through the Treasury’ s ExchangeStabilization Fund. The FederalReserve agreedto provide short-term bridge ® nancingof up to $6 billion.The other industrialised nations would provide an additional $10 billion incredit through the Bank for International Settlements ( BIS). PresidentClinton’ s pressure onthe BIS tocontribute to the Mexican bail-out was notopenly resisted, but the enthusiasm of European central bankers was minimal.The International Monetary Fund extended $17.8 billion in credit;$7.8 billion(300% of Mexico’ s IMF quota)were made immediately available. The remaining$10 billion were set asideto be provided to the extent that the governmentcentral banks in the BIS fellshort of their$10 billion target. Overall, the IMF provided688% of the quota for which Mexico was eligible,the largest ®nancingpackage ever approved by the Fund. 22 Infact, the total bail-out packageincluded money that was far fromsecure. Most of thereal, hard money came fromthe USA, whichtherefore set thelending conditions. It is unlikely thatany further money could come from outside the NAFTA partners.23 Clinton’s bail-outwas unpopulardomestically and could not pass opposition inCongress, where some representativeswondered why similar steps werenot takento bail-out Orange County or US workersin distress. The measure hadto betaken using executive powers to spend through the exchange stabilisation fundsof the US Treasury,and by strong-arming the IMF.Clintonwas ableto achievethis by linking the crisis toUS securityand leadership in the global economy. Thebail-out package imposed strict conditionality measures onmonetaryand ®scal policyand foreign borrowing. Loan guarantees were backed by oil revenuesheld as collateralby the Federal Reserve Bankof New York. Mexico has tobuy back the pesos ithad exchanged for dollars with the USA at2.25% ormore over Treasury bill rates ofvarying maturities. 24 Theterms includedthe unusualaccounting practice that every withdrawal of funds had to be approved inadvanceby theUS Treasury,which oversees howall the money is spent.The Mexicangovernment also set upa fund,backed by the World Bank, to ensure thatlocal banks met the minimum capitalisation levels required by regulatorsÐ again,a formof socialised risk. Althoughit is stilltoo early to assess thesuccess orfailure of the bail-out package,by mid-1996 a numberof indicators provided room for modest optimism.By January 1996 Mexico had paid off its outstanding Tesobono obligations,and the bail-out allowed the central bank to stabilise reserves at 980 MEXICAN MELTDOWN around$15 billion. Mexico began to borrow in private ® nancialmarkets within monthsof the crisis; indeed,development banks were borrowing as earlyas mid-1995.The government then issued ¯ oating-ratenotes in aneffort to ® nance advancepayment of $4.7 billion owed to the USA underthe bail-out package, which,in turn, had been used to cancel the Tesobono debt. As aresultof rolling-overthese debts, Mexico was ableto reduce its short-term obligations and® nancingcosts. By mid-1996 interest rates onCetes declinedto between 25%and 30%, the lowest levels since the crisis began. Mostimportantly, 7.2% in the second quarter of 1996 was unexpectedlyhigh, and was drivenlargely by manufacturing industry. The stabilisationof the peso at around 7.5 pesos tothe dollar from the end of December1995 until the second quarter of 1996helped account for this growth. Amorecompetitive exchange rate encouraged the growth of manufacturing exports,a developmentthat promised the creation of new jobs. 25

Perspectives onthe peso crisis Threeclassical schools of international political economy suggest different lessons tobedrawnfrom the peso crisis. What would each have to say aboutthe attemptsby ® nancialintermediaries such as mutualfunds and investment bankersto in¯uence Mexican policy? What explains the US governmentbailout ofMexico? What regulatory mechanisms are necessary tocope with future Mexican-typecrises?

Liberalism Ina purelyliberal system, interdependence yields economic bene® ts forall actorsinvolved. Among liberals, however, there are variantswith different stripes.When faced with possible problems of externalitiesand public goods in theinternational system, purely classical liberals often ® ndsome wayof privatisingthe goods involved or allowingsome typeof bargainingamong actors tointernalise externalities. Barring such ` marketsolutions’ , however,others of aliberalstripe have suggested solutions including international organisations, integration,or international regimes as mechanismsfor coping with potential problemsin the operation of the international economic system. Many labels havebeen attached to the proponents of such mechanisms, with ` neoliberal institutionalists’being preferred for those who favour the development of internationalregimes. 26 Whileplacing those who would propose economic integrationwith proponents of privatisation as asolutionto possible problems generatedby the global economy in the category of ` liberal’seems fallacious, thetie that binds these diverse groups is aconvictionthat an open world economyprovides the maximum bene® ts toactors in the system. Pureliberals were opposed to the bail-out because it sent the wrong signal to privatemarkets and developing countries. The irony of offeringpublic money to promotewhat was supposedto be amarket-based` miracle’was notlost on Wall Street.As the WallStreet Journal noted: 981 MAXWELL ACAMERON &VINOD KAGGARWAL

MrCamdessus argues that the intervention has been required to underpin the credibilityof the market-oriented approach to development. What it does is undermineit. It does so by substituting of® cial for privatecapital, by offering implicitinsurance to private capital ¯ ows,by makingunsound private ® nancemore probableand, most important, by indicating a lackof con® dence in the self correctingcapacity of ® nancialmarkets. 27 Liberalsworried that the peso bail-out created a problemof that mightdiscourage responsible ® scal managementin other countries like Russia. Someliberals believed that the Mexican crisis was causednot by excessive in¯uence by foreign capital, pointing out that ` Mexican,not foreign, investors triggeredthe initial out¯ ow ofcapitalin Novemberand early December 1994’ . 28 Rather,the crisis was causedby Mexican policy errors, especially the inconsis- tencybetween exchange rate and . However, neither foreign investorsnor US policymakers detectedthese errors orconsidered them serious enoughin 1994 to anticipate the looming crisis. 29 Therewas noconsensuson the needto devalue the currency in policy-making circles, and explicit hostility to theidea on Wall Street. Forneoliberal institutionalists, the solution to problems of market failure and lackof policycoordination is tostrengthenregimes. A majorpurpose of regimes istoensurethat both costs andbene® ts are distributedin sucha wayas toensure thestability of international economic interactions. In this view, the peso crisis suggestedthe need for an expanded role for the IMF,andbetter coordination of policybetween the USA andits NAFTA partners.Yet it is strikingthat the USA directlyimposed the terms ofthe bail-out on Mexico rather than the more conventionalpractice of using the IMF tonegotiate a conditionalityagreement. As aresult,the USA was drawndeeply into Mexican domestic policy making inways that suggested a loss ofsovereignty comparable to US± Mexican relationsfrom an earlier historical epoch. 30

Mercantilism Thedescendants of mercantilist thinking are muchless sanguineabout the bene®ts ofthe global economy. Analysts in this camp give pride of place to states andtheir competitive and security concerns. They worry that excessive interdependencewill lead to con¯ ict, and propose more limited interaction amongstates, possibly through regional blocs or other arrangements, as a solutionto achieving competitiveness and, preferably, a tradesurplus. For these observers,states musteither maintain control of their interactions with the internationaleconomy or face domesticpolitical and economic disruption. The EastAsian newly industrialising countries ( NICs) provideexamples of neomer- cantilisticstates thathave promoted their own export competitiveness while protectingthe domestic economy. If theDecember 1994 devaluation demonstrated the vulnerability of small nation-statesthat rely heavily on foreignsavings, then the January 1995 bail-out demonstratedthe power of the larger players in the global economy to act in responseto perceived threats to the national interest. It also demonstrated that oneof theprimary bene® ts ofthe NAFTA forMexico was thegreater commitment 982 MEXICAN MELTDOWN ofthe USA toensuring the success ofthe North American integration process. Itis unlikelythat the USA wouldhave acted as vigorouslyin defence of any non-NAFTA partner. Indefence of the bail-out, US of®cials emphasised less theliberal value of free marketsand more the mercantilistic fear thata Mexicancollapse would threatenUS interests. 31 Yetfew mercantilists would be pleased with the results ofthepeso crisis. In addition to the direct cost of assistance toMexico,the USA is indirectlysubsidising the recovery of the Mexican economy by allowing Mexicoto reverse itstrade de® cit with the USA. InMexico, the crisis provideda pointedreminder that the debate on develop- mentmodels is notover. Mexico in the 1990s pursued a developmentstrategy thatcontrasted sharply with the neomercantilist strategy of the East Asian NICs. TheEast Asian NICsachievedextraordinarily high rates ofdomestic savings and investment,relied relatively little on foreigninvestment, guided markets (includ- ing® nancialmarkets), provided subsidised, directed credit to targeted sectors, protectedagriculture, ensured a relativelyequitable distribution of thebene® ts of growth,and developed close ties between the public and private sectors without losingstate autonomy. 32 Mexiconegotiated liberalisation of trade and invest- ment,reformed intellectual property legislation, privatised state-owned enter- prises,reprivatised its banks, and sought to attract foreign capital as the cornerstoneof its economic programme. Criticswere quick to linkthe peso crisis tothefree marketmodel’ s `complete irrelevanceto a countrylike Mexico’ , andit is possiblethat the crisis will encouragea newlook at the East Asian model. Castan Äedaargued that Mexican policymakers shouldnot have sought to solvethe problem of debtby `attracting resources byother means andleaving the de® cit to the market’ s free play’, but rathershould have attempted to ` straightenout the trade account by reversing liberalisation,allowing the currency to slidemore quickly, and adopting a policy topromote exports through subsidies, selective protection, incentives, identi®cation of market niches, and so onÐin a nutshell,a long-term,Asian- stylepolicy’ . 33

Structuralism Structuralistsemphasise the social costs ofadjustment and conditionality, and are scepticalof the ability of the laissez-faire approach to address underlying distributionalproblems or induce shared and sustainable development. NAFTA, in thisview, represents an effort to engineer Mexico’ s entryinto the North Americanmarket on an unequal footing with the USA, providingthe USA with alow-wageregion for the reduction of the costs oftransnational ® rms andthe articulationof these® rms withdomestic capitalist conglomerates in Mexico. The bail-outwas drivenby a concernto protect the returns of these foreign and domesticinvestors and restore con® dence in Mexico; to safeguard the stability ofan inequitable international economic order; to guarantee the continuation of theprocess ofhemispheric integration based on competition for foreign capital; andto assure thestability of the Mexican political system andthe restructuring ofits economy in line with the interests of Washington. 983 MAXWELL ACAMERON &VINOD KAGGARWAL

Structuralistscall attention to the role of transnational class alliancesin shapingpolicy. The Mexican state worked in alliance with the World Bank and privatecapital in Mexicoto impose the terms ofarestructuringof non-perform- ingdomestic debts. A debtors’cartel was formedin 1993, called the Barzo Ân, whosemembers refusedto pay the banks, or paid only part of their debts and placedthe rest inescrow accounts. Some of the debtors argued that plans proposedby the banks and government represented mechanisms to enforce compliancewith illegal debts that were negotiated without the participation of thedebtors, and they proposed a restructuringof debt that would place most of theburden on the banks and the government, while providing substantial relief tofarmers andother producers. They disputed the total amount of debt,refusing toaccept bank practices like charging penalties on late payments, and then addingthe penalties to the principal and charging interest on both. Structuralistsemphasised links between the ® nancialand political crises in Mexico.34 Therebellion in by the Zapatista Army for National Liber- ationrepresented the kind of revolutionary political response to the crisis that wouldbe anticipated by structuralists. The rebellion sought to mobilise land- hungrypeasants in an alliance with other popular organisations (including oppositionpolitical parties and civic groups) in ananti-imperialist and nationalist movementagainst market reforms, including the reform of the traditional land tenure (ejido) system. Aboveall, structuralists would point to thegrowing gap between rich and poor underthe Salinas administration, 35 andnote that the measures implementedby Zedillowere likely to further increase inequality. The crisis depressedreal wages,and the adjustment measures adoptedin March 1995 included an increasedreliance on regressive taxes and cuts in social spending. Furthermore, highinterest rates placeda squeezeon the middle class, andforced small businesses intobankruptcy. Finally, as therebellion in Chiapas indicates, the free trademodel is likelyto exacerbate regional disparities.

Conclusion Deregulated® nancial¯ owscan destabilise regional economies in theprocess of integration.A numberof domesticpolicy errors andexternal shocks contributed tothe crisis ofcon® dence that led to the collapse of the peso, but the most importantmistake was excessivereliance on highly liquid sources offoreign savingsto ® nancelong-term development. Mexico made itself vulnerable to externalshocks by pinning its economic strategy on the signalling effect of NAFTA andother market reforms onforeign investors. A case canbe made that foreigninvestment stimulates development, but excessive reliance on portfolio capitalÐto the point that key economic policies such as exchangerates become hostagesto myopic,ill-informed and highly mobile investorsÐ is notpart of that case. Whilepure liberals raised legitimate concerns, their faith in the self-correcting capacityof markets is atodds with the unstable nature of today’ s ®nancial markets.Pure liberalism offers apoorguide to policy makers facingpolitical realitiesoutside the scope of perfectlycompetitive markets. The limitation of the 984 MEXICAN MELTDOWN pureliberal view highlights the advantages of the emphasis on regimes placed byneoliberalinstitutionalists. Yet it isnotclear that regimes have kept pace with changesin technology and national regulations that have made possible a global economyin which ® nancial¯ owsdwarf trade and investment. Thereis aworldof difference between ® nancialmarkets in 1944, when the IMF was conceived,and 1994. Over US$1 trillion is tradedevery day in currency markets.36 Thevolume and speed of ® nancialtransactions has outstrippedthe capacityof nationalgovernment regulators and international ® nancialinstitutions toactin atimelyand effective way to avert panics and crashes. Thedestabilising effects ofinternational capital ¯ owshave been recognised, belatedly, by inter- national® nancialinstitutions as apotentialthreat to con® dence in ` emerging’ marketsthat could have a rippleeffect globally. The new reality was recognised, ina limitedway, by the G-7 in Halifax later in 1994, when the IMF was asked tocreate an ` EmergencyFinancing Mechanism’ for countries facing capital ¯ ight. Thebail-out itself did not address thevulnerability of Mexico to ® nancial speculationand reliance on portfolio investment, nor create better institution- alisedconsultative mechanisms between the NAFTA partners,especially Mexico andthe USA. Inshort, whether the crisis isexaminedfrom the point of viewof distributionand class alliances(structuralism), state capacity and the national interest(mercantilists), or market interdependence and regimes (liberals), the countriesof North America were clearly unprepared to deal with the domestic andinternational forces ¯owingfrom closer integration. The battle between states andmarkets will continue to attract the interest of scholarsfor some time to come.

Notes

Thearticles inthe section ` post- NAFTA Mexico’were originallypresented at aworkshop,entitled ` Democracy, civilsociety, and societal change:Mexico in the post- NAFTA era’ ,heldat YorkUniversity on 22± 24 September 1995,and sponsored by the Centre forResearch onLatinAmerica andthe Caribbean ( CERLAC).Theworkshop broughttogether over 25 specialists onMexico who addressed the prospects for democratic transition, economicrecovery and improvements in human rights and social justicein Mexico in the post- NAFTA period. Fundingwas providedby the Social Sciences andHumanities Research Councilof Canada, and the Department ofForeign Affairs andInternational Trade ofthe Government of Canada. The papers are the exclusiveresponsibility of the authors. Apreliminaryversion of thispaper was alsopresented at theannual convention of the International Studies Association,San Diego, CA, 16± 21 April 1996. We are gratefulto the participants in this and the above conference fortheir comments andinsights, especially Mariclare Acosta, KirstenAppendini, Alejandro Alvarez, Maria Cook,Ricardo Grinspun, Tom Legler, Gabriel Mendoza,George Philips, Carol Wise and Lawrence Whitehead,as well as tothe journal’ s anonymousreviewers. Research fundingwas providedby theSecretaria deEducacioÂnPuÂblica(Mexico) as parta larger projecton `Post-NAFTA de®nitions of economicsecurity’ , inthe Programa Inter-institucional de Estudiossobre la RegioÂn deAmeÂrica delNorte, administered by El Colegiode Me Âxico.We are gratefulto the members ofthetrust fund forcomments ona previousdraft. Additional funding was providedby Carleton University. Max Cameron bene®ted from the ideal writing environment provided by theHelen KelloggInstitute for International Studies, andfrom conversations with Jamie Ros.Research assistance was providedby Carey Gibson.None of these individualsor institutions are responsiblefor the errors, de® ciencies orinterpretations in the analysis, which are theresponsibility of the authors. 1 WGlasgall,` Welcome tothe new worldorder of ® nance’ , BusinessWeek ,13February 1995, p 38. 985 MAXWELL ACAMERON &VINOD KAGGARWAL

Accordingto TheEconomist ,$40billion amounts to 10% of Mexican GDP,andtwice whatthe USA spends onforeign aid every year. ` Rescuingthe sombrero’ , TheEconomist ,21January 1995, p 18. 2 K Polanyi, TheGreat Transformation ,Boston,MA: Beacon, 1944, p 141. 3 See SJBurki& SEdwards` LatinAmerica after Mexico:quickening the pace’ ,paperprepared for the World Bank’s FirstAnnual Conference on Development in Latin America andthe Caribbean, Rio de Janeiro, 12±13 June1995; J CastanÄeda,` Mexico’scircle ofmisery’ , ForeignAffairs ,Vol75, No 4, 1996,pp 92±105; LConger,` Mexico:the failed ® esta’ , CurrentHistory ,Vol94, No 590, 1995, pp 102± 107; E Dussel Peters, `Lacrisis mexicana: ¿Ultimas diez lecciones?’ , Nexos,April1996, pp 13±15; S Edwards, Crisis andReform inLatin America: FromDespair to Hope ,Washington,DC: WorldBank, 1995; R Grinspun& MA Cameron, ` NAFTA andthe political ’ s externalrelations’ , LatinAmerican Research Review,Vol.31, No. 3, 1996, pp. 161± 188; R Grinspun et al,`Economicreforms andpolitical democratiza- tionin Mexico: reevaluating basic tenets ofCanadian foreign policy’ , inMA Cameron &MAMolot,eds, Democracy andForeign Policy: Canada Among Nations, 1995 ,Ottawa: CarletonUniversity Press, 1995; MSchettino, Loscostos del miedo: La devaluacio Ânde1994/ 1995 ,Mexico:Grupo Editorial Iberoamericana, 1995;L Summers, `Summers onMexico: ten lessons to learn’ , TheEconomist ,23December 1995±5 January1996; J Warnock,` TheMexican disaster’ , TheCanadian Forum ,Vol73, No 838, April 1995, pp6± 7; andS Weintraub,` TheMexican economy: life after devaluation’, CurrentHistory ,Vol94, No 590, 1995,pp 108±113. 4 RBoyer& DDrache, eds, StatesAgainst Markets: The limits of globalization ,London:Routledge, 1996, pp 15±16. 5 TheEconomist ,7October1995, pp 15±16. 6 Warningsigns were detected byR Dornbusch& AWerner,` Mexico:stabilization and no growth’ , BrookingsPapers on Economic Activity ,No1, 1994, pp 253±315. For historical examples ofsimilar speculativebubbles, see CKindleberger, Manias,Panics, and Crashes: A History ofFinancialCrises , New York:Basic Books,1989. 7 JCastanÄeda,` Thedevaluation: a politicalre¯ ection’ , CurrentHistory ,Vol94, No 590, 1995, p 117. 8 Fordetails of corporate losses, see FinancialPost ,5January1995, p 6; New YorkTimes ,11January1995; RudyLuukko, ` Lessonsof the Mexico massacre’ , FinancialTimes ofCanada ,7±13 January 1995, p 8; `Powerto the plutocrats’ , InstitutionalInvestor ,February1995; and A Willis,` Poundedby thepeso’ s fall’ , Maclean’ s,3April1995, p 38. 9 NLustig,` Mexico:the slippery road to stability’ , BrookingsReview ,Spring1996, pp 4±9. Allother ® gures fromInstituto Nacional de Estadistica, Geografõ ÂaeInformaÂtica ( INEGI),`Productointerno bruto real 1991±1996’ , andBanco de MeÂxicoy SecretarõÂadeHacienda, `Mexico:principales indicadores econo Âmicos 1996’. Availableon Internet: http: WWW.QUICKLINK.COM/MEXICO/TABLASEC . 10 These observationsare basedon interviews with a seniorof® cial oftheBank of Canada,17 May 1995 and 28February 1995. 11 Accordingto the Federal Reserve Bankof the United States, Mexicaninvestors increased theirdeposits in USbanksfrom $12.6 billion to 16.8 billion in 1994Ð in spite of a massive withdrawalof over $6 billion fromUS institutionsby theBank of Mexico.See `Fugade 4200mdd a EUenenero± fedrero’ , La Jornada, 11July 1995. Figures on savings from President Zedillo’ s 1995address tothe nation, reported in ` La ciudadanõÂa, motordel avance polõÂtico:Zedillo’ , La Jornada,2September1995. All other ® guresare from theDepartment ofFinance(Canada) `Canada±Mexico ® nance executiveseminar’ , SummaryNotes , Ottawa: NationalArts Centre,1995. 12 NLustig,` Lacrisis delpeso: lo previsible y la sorpresa’ , ComercioExterior ,May1995, p 375. 13 JRos,` Lacrisis mexicana: causas, perspectivas,lecciones’ , Nexos,May1995, p 46. 14 J Sachs et al,`Thecollapse of the peso: what have we learned?’ , WorkingPaper Series ,TheCenter for InternationalAffairs, HarvardUniversity, 1995, Table 9. 15 Bancode Me Âxico, TheMexican Economy (Annual Report) 1995 ,Mexico,DF, June 1995, pp 222±223. 16 These quotesare fromCraig Torres, ` HowMexico’ s behind-the-scenestactic anda secret pact averted market panic’, WallStreet Journal ,28March 1994, p A6. 17 CraigTorres, ` Somemutual funds wield growing clout in developing nations: as investmentsabroad rise managers take onrole similar tobanks, IMF’ , WallStreet Journal ,14June 1994, p 1. 18 `Sede®ende Aspe dequienes lo acusan deno haberquerido devaluar’ , ElEconomista ,14July 1995, p 26. Asimilar meetinghad been held in September 1994, in which Guillermo Ortiz hadfavoured a devaluation, andno action was taken. 19 AOppenheimer, Borderingon Chaos: Guerrillas, Stockbrokers, Politicians, and Mexico’ s Roadto Prosperity,Boston,MA: Little, Brown, 1996, p 219.For a detailedaccount, see MACameron,` Crisis or crises inMexico?’ , ThirdWorld Resurgence ,No57, May 1995. 20 Anof® cial inthe Mexican Ministry of ForeignAffairs suggestedthat the generousness of the bail-out sent outa signalthat the crisis was more seriousthan it really was. MexicoCity, March 1995. 21 NNash,` Western allies rebuffClinton in Mexico vote: 6 Europeansabstain on support at IMF’ , New York Times,3February1995, p A1,A6. 986 MEXICAN MELTDOWN

22 See IMF, ` IMF approvesUS $17.8billion stand-by credit for Mexico’ , press release No95± 10, 1 February 1995. 23 We are gratefulto Lawrence Whiteheadfor these observations. 24 `Band-aid’, TheEconomist ,25February 1995, p 79. 25 Figuresfrom Banco de Me Âxicoand INEGI. 26 RKeohane,` Neoliberalinstitutionalism: a perspectiveon world politics’ , inKeohane, International Institutionsand State Power ,Boulder,CO: Westview,1989, pp 1±20. 27 Citedin MI Asaria, `Mexico:panacea inperil’ , ThirdWorld Resurgence ,No55, March 1995, p 15. 28 Thispoint is made inReport of anIndependent Task Force, Lessonsof theMexican Peso Crisis , New York: Councilon Foreign Relations, 1996. The members oftheTask Force mainly represented Wall Street ®rms. 29 General AccountingOf® ce, Mexico’s FinancialCrisis: Origins,Awareness, and Initial Efforts to Recover , Washington,DC: Government Printing Of® ce, 1996.According to the report, although of® cials at the Federal Reserve andthe Treasury expressed concerns about Mexico’ s exchangerate management, neither anticipateda crisis ofthe magnitude that occurred. 30 Onthe history of US± Mexican debt negotiations, see VKAggarwal, DebtGames: StrategicInteraction in InternationalDebt Rescheduling ,New York:Cambridge University Press, 1996. 31 USCongress,House Committee onBanking and , USandinternational response to the Mexican® nancialcrisis ,Washington,DC: GovernmentPrinting Of® ce, 1995.See, forexample, comments bySecretary ofthe Treasury and Secretary ofState Warren Christopher,pp 10, 13. 32 PEvans,` Thestate as problemand solution’ , inS Haggard& RKaufman (eds), ThePolitics of Economic Adjustment:International Constraints, Distributive Con¯ icts, and the State ,Princeton,NJ: Princeton UniversityPress, 1992. 33 JCastanÄeda, TheMexican Shock: Its Meaningfor the US ,New York:The New Press, 1995,pp 179,183± 84. 34 AAlvarez BeÂjar,` Mexico1995: Entre los desequilibrios macroeconomicos yla crisis polõÂtica’ , Investigaci- oÂnEconoÂmica ,No212, 1995, pp 197±219. On ` neostructuralism’, see DGreen, `LatinAmerica: neoliberal failureand the search foralternatives’ , ThirdWorld Quarterly ,Vol17, No 1, 1996, pp 109±122. 35 Onincome distribution, see JLoÂpez,` Elderrumbe de una® ccioÂn.Evolucio Ânreciente, crisis yperspectivas dela economiamexicana’ , InvestigacioÂnEconoÂmica ,No212, 1995, p 11;and M PastorJr &CWise, `Western hemisphericintegration: free trade is notenough’ , SAIS Review,Summer±Fall 1995. 36 Thisis related toan explosion of borrowing associated withthe emergence ofa deregulatedsystem of globalised® nance.The OECD estimates that` grossborrowing increased in1994 to US$955 billion, more than twice thelevel in 1990’ . See theReport of the House of CommonsStanding Committee onForeignAffairs andInternational Trade onthe Issues ofInternationalFinancial Institutions Reforms forthe Agenda of the June1995 G-7 Halifax Summit, FromBretton Woods to Halifax and Beyond: Towards a 21stSummit for the21st Century Challenge ,Ottawa: Houseof Commons, Canada, 1995, p 46.

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