FINANCIAL CRISIS IN LATIN AMERICA & MEXICOJessica Hofer

Megan Garcia

START OF FINANCIAL CRISIS

In 1979, the US Federal Reserve adopted a tough anti-inflation policy which raised dollar interest rates and helped push the world economy into recession by 1981. This had a direct negative impact on the

developing countries

OTHER IMPORTANT FACTORS

Immediate rise in the interest burden that debtor countries had to pay

Substantial rise in the real value of dollar debt burden

Primary commodity prices collapsed, depressing terms of trade of many poor countries

WHAT HAPPENED NEXT?

Mexico announced in 1982 that its central bank had run out of foreign reserves and could no longer meet payments on foreign debt

Large private lenders cut off new credits and demanded repayment on earlier loans from other Latin American countries

Widespread inability of developing nations to meet prior debt obligations

Sometimes referred to as the “lost decade” of Latin American growth

MEXICO

Introduces a broad stabilization and reform program in 1987

Reduction in public-sector deficits and debts Using exchange rate targeting and wage-price

guidelines Committed to free trade by joining various

organizations (GATT, OECD, NAFTA)

MEXICO’S EXCHANGE RATE

Fixed peso’s exchange rate to the US dollar in 1987

Moved to a crawling peg in early 1989 and then later to a crawling band in 1991

Government annually announced a rising limit on the currency’s allowable extent of depreciation, permitting a range of fluctuation

Peso appreciated sharply in real terms and created a large CA deficit

Over 1994, foreign exchange reserves fell to very low levels

CONT’D

Government continued to extend credit to banks experiencing loan losses

Mexico rapidly privatized banking without regulatory safeguards

Banks had free access to foreign funds Banks were confident they would be bailed

out if they met trouble

NEW GOVERNMENT IN MEXICO

In 1994 a new government took over and devalued the peso 15% beyond the limit promised previously

This was attacked by spectators and the government switched to a floating exchange rate

Foreign investors panicked; Mexico was unable to borrow except at penalty interest rates

Experienced similar financial crisis as in 1982, only to be bailed out by a $50 billion emergency loan from the US Treasury and IMF

MEXICO’S INFLATION

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

0

20

40

60

80

100

120

140

160

GDP deflator

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