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MEXICO'S ECONOMICS.
Term Paper ID:23026
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Defines emerging market, effects of 1994 financial crash, debt, role of govt., prices, employment, balance of payments, U.S. loans.... More...
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Paper Abstract:
Defines emerging market, effects of 1994 financial crash, debt, role of govt., prices, employment, balance of payments, U.S. loans.
Paper Introduction:
MEXICO’S EXPERIENCE AS AN EMERGING MARKET
Introduction
This research examines Mexico’s experience as an emerging market. The concept of an emerging market is addressed in the following discussion. Mexico’s experience as an emerging market then is described and analyzed.
The Concept of the Emerging Market
The contemporary concept of an emerging market can be traced the beginnings to the debt crisis that plagued less developed countries (LDCs) in the early-1980s (Making 66). The process of rescheduling leftover loans through loan-swapping transactions gradually progressed to cash-trades between the countries and the i
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These other bond types are not collateralized and haveshorter maturities-ranging from 1 -to-2 years. Early data for 1996, as indicatedin the chart, reflects the beginning of a recovery for Mexican GDP.Chart 2Change in Mexican Consumer Prices: 199 -1996________________________________________________________________% Change + 4 + 3 + 2 + 1 - 1 - 2 199 1991 1992 1993 1994 1995 1996 [Sources: Emerging: Mexico 124; Emerging 1 8]________________________________________________________________ As the data presented in Chart 2 indicate, consumer prices in Mexicoskyrocketed in the year following the financial crash. This action persuaded international investors that Mexicowould reform the country's economic policies, and that other LDCs wouldnegotiate deals similar to the Brady deal with Mexico and, in turn, reformtheir economies. By 199 , traders had succeeded in establishing the Emerging MarketsTraders Association. the path from here tothere is likely to be a bumpy one. As of early-March 1996, thetrading level had increased further to 7.6 pesos to one United Statesdollar. FederalReserve Board to raise interest rates or for the Mexicans to devalue theirpeso" (Naim 126). The Concept of the Emerging Market The contemporary concept of an emerging market can be traced thebeginnings to the debt crisis that plagued less developed countries (LDCs)in the early-198 s (Making 66). As the data presented in Chart 3 indicate, unemployment in Mexico wasaffected adversely in the year following the financial crash, although theincrease in Mexican unemployment was not as severe as were the effects ofthe crash on Mexican GDP and consumer prices in Mexico.Chart 3Change in Mexican Unemployment: 199 -1996________________________________________________________________% of Labor Force + 1 + 8 + 6 + 4 + 2 - 2 199 1991 1992 1993 1994 1995 1996 [Sources: Emerging: Mexico 124; Emerging 1 8]________________________________________________________________ As the data presented in Chart 4 indicate, Mexico's balance ofpayments was affected positively in the year following the financial crash. Mexico had attracted a "lot of acclaim for itseconomic reforms of the proceeding years, largely following the US-backedmodel for economic development. All it took to reduce the interest of investorsin the benefits of international diversification was for the U.S. By the end of 1993, Bradybonds had become the mainstay of emerging-markets trading and investing.The bonds, usually dollar-denominated, have maturities of 25 or 3 yearsand are issued in blocks of $5 million or more. As a consequence, the Clinton Administration sought approval from Congressfor a $4 billion package of loan guarantees for Mexico "aimed at calminginvestors and minimizing the risk that the Mexican crisis would spread toother countries. President Clinton then acted on his own initiative by assembling "analternative rescue package that did not require congressional approval andthat relied heavily on funds supplied by the U.S. The effects of the crash on thesefour variables are illustrated in Charts 1 through 4, which may be foundthis page and on the next several pages.Chart 1Change in Mexican GDP: 199 -1996________________________________________________________________% Change + 6 + 4 + 2 - 2 - 4 - 6 199 1991 1992 1993 1994 1995 1996 [Sources: Emerging: Mexico 124; Emerging 1 8]________________________________________________________________ As the data presented in Chart 1 indicate, Mexico's GDP plummeted inthe year following the financial crash. The process of rescheduling leftover loansthrough loan-swapping transactions gradually progressed to cash-tradesbetween the countries and the international banks involved. The reason for this apparent anomaly was the financial rescue package forMexico that was structured by the United States (Naim 127). Department of Commerce identified 1 economies as"big emerging markets" (BEMs) for both American investments and exports(Broad and Cavanaugh 19). A refusal to extend this financial support, PresidentBill Clinton suggested, would throw Mexico into a major political andeconomic upheaval, which was bound to hurt the United States. "The voraciousappetite in the United States and other industrialized countries forinvestments in emerging markets was initially interpreted as a reaction toopportunities created by economic reforms. But Mexico's new economic system showeditself to be powerless in the face of external factors beyond its control"(Naim 112). While this decision calmed markets and briefly gaveMexico a second wind, it angered European governments, which felt bulldozedinto a bailout on which they were not adequately consulted and for whichsome saw little justification. The Department tends todownplay data that fail to reflect a real recovery in the Mexican economy.Many analysts in the private sector, however, take a more cautious view.While most of these private sector analysts project a recovery in theMexican economy and continue to view Mexico as an emerging market, mosttend to think that the recovery will take much longer than had beenanticipated in early- and mid-1995. Exchange StabilizationFund and by the IMF. If investors are to minimize risk, theywill need to become more selective than they have been in the past.Emerging markets should never really have been lumped together as a singlecategory of financial assets. By the end of 1994, morethan $1 billion in Brady bonds were outstanding. Both the emerging market concept and theUnited States government's BEM Initiative are elements of global economicreform and international financial change (Naim 112). MEXICO'S EXPERIENCE AS AN EMERGING MARKET Introduction This research examines Mexico's experience as an emerging market. Emerging markets were never intended for the faint-hearted. Institutional Investor 28 (April 1994): 66-67.Naim, M. It is also unlikely that the other developed countries thatgrudgingly acquiesced to U.S. This is especially worrisome in that one of the IMF's mainstrengths has been its adherence to clear rules of equal treatment for allcountries. The United States government eventually joined the bandwagon andnegotiated the Brady deal to bail-out and prop-up the Mexican economy(Market 67). . This debt-trading market entered its second phase of development when borrowingcountries themselves became the main buyers of debt-for-equity swaps in1984. The government of Mexican President Salinas renegotiated the country'smassive foreign debt, initiated market reforms that boosted the country'sinternational prestige, and successfully negotiated entry into NAFTA withCanada and the United States (Naim 117). Theconcept of an emerging market is addressed in the following discussion.Mexico's experience as an emerging market then is described and analyzed. U.S. What better reminder that emerging marketsdeserve long-term relationships, not just casual flings?" Outlook The United States Department of Commerce continues to promote Americaninvestment in and exports to Mexico as a BEM. pressure this time will tolerate another suchexception. . But in only three of those eightyears (1988, 1989 and 1993) did they show a gain which exceeded the averagereturn in rich-country markets. exporters and investors" (Naim 127). In fact, the Mexican bailout sent the wrong signal to governmentsand investors. Over the pasteight years, these markets have yielded an average annual dollar return of14%, double that in developed markets. . Moreover, the bailout forced the IMF toextend an assistance package seven times bigger than the normal limit andto shell out a fifth of its liquid resources" (Naim 128). Early data for 1996reflects a continued increase in Mexican consumer prices, although the rateof increase appears to be moderating to some extent. Mexico's trade balance-net exports (exports minus imports) followed apattern for the 199 -1996 period similar to that of the country's balanceof payments (Emerging: Mexico 124; Emerging 1 8). While Mexico's tradedeficits over the period were somewhat less than the country's currentaccount deficit, the pattern was nearly identical to that for the currentaccount deficit illustrated in chart 4.Chart 4Change in Mexican Balance of Payments: 199 -1996________________________________________________________________US$ (billions) + 1 - 1 - 2 - 3 - 4 - 5 199 1991 1992 1993 1994 1995 1996 [Sources: Emerging: Mexico 124; Emerging 1 8]________________________________________________________________ The Mexican peso has taken a beating in the wake of the late-1994financial crash in the country. The Mexican crisis showed that the prospect ofhigh yields rather than prudence motivated this internationalization.Investors were looking abroad for the high returns that they were notgetting at home, given the bearishness of financial markets in the UnitedStates, Japan, and Europe. Furthermore, the assistance would have made money for theU.S government, as the Mexicans would have had to pay steep fees for usingthe loan guarantees. Obviously,other emerging economies would suffer too, and with them, the prospects forU.S. By January1995, the trading level had risen to 5.76 pesos to one United Statesdollar, and by January 1996, the trading level had risen to 7.54 pesos tothe United States dollar (Emerging 1 2). An important concept in the Brady deal with Mexico wasthe transformation of loan paper (difficult to trade) into bonds (easy totrade). . In 1993, the U.S. "Don't Neglect the Impoverished South." Foreign Policy, (Winter 1995): 18-35."Emerging Market Indicators." Economist 338 (9 March 1996): 1 8."Emerging Market Indicators." Economist 338 (27 January 1996): 1 2."Emerging Market Indicators." Economist 335 (13 May 1995): 1 6."Emerging Market Indicators: Mexico." Economist 336 (3 September 1995): 124."The Making of A Market." (1994, April). Mexico As An Emerging Market The Mexican financial collapse of late-1994 took the world bysurprise (Naim 112). A recalcitrantCongress, however, refused to approve the rescue package. The peso was trading at the level of 3.34pesos to one United States dollar in May 1994 (Emerging 1 6). Treasury zero-coupon bonds are placed in escrow by the sovereign issuer to guaranteepayment of the principal, and sometimes of the interest. The Commerce Departments BEM list has beenexpanded, and now includes all ASEAN countries, China (P.R.C.), Hong Kong,Taiwan, South Korea, India, South Africa, Poland, Turkey, Argentina,Brazil, and Mexico (Big 9). The Mexican financial crash in late-1994 had dramatic effects on fourof the country's macroeconomic measures-GDP, consumer prices, unemployment,and balance of payments (Emerging 124). . Both Speaker of the House ofRepresentatives Gingrich and Senate Majority Leader Dole supported therequest, as did the Chair of the Federal Reserve Board, Alan Greenspan.Additionally, former presidents of the United States and leaders of majorcorporations urged the Congress to accede to the request. "Mexico soon became a mainbeneficiary of the unprecedented surge in private capital flow, a favoriteson among the 'emerging markets.' Between 199 and 1994, Mexico became theworld's second-largest recipient of foreign private investment, afterChina" (Naim 117). This aid package, which in principle did not imply anydisbursement on the part of the U.S Treasury, was collateralized with thereceipts of Mexican oil exports and was contingent on Mexico's adoption ofharsh reforms. The Mexican financial crash exposed the motivations underlying theinternationalization of investment portfolios (Naim 126). The Mexican rescue created precedents for the IMF that will be "hardto follow should another crisis of this magnitude erupt in an IMF membercountry. The explanation was thatinvestors had realized the benefits of diversifying the risk in theirportfolios by spreading them internationally, and emerging markets providedthe opportunity to do so. Other types ofBrady instruments (debt-conversion bonds, new-money bonds, front-loadedinterest-reduction bonds, and interest-arrears bonds) are structureddifferently. The peso appears to be stabilizing, but at a level far higher thanthe trading level that prevailed prior to the late-1994 financial crash. As the potential global impact on the international financial systemthe financial crash in Mexico became apparent, the Clinton Administrationand the Republican congressional leaders agreed on the urgency of the needto prevent a default by Mexico on the country's short-term debt (Naim 127). Higher rewards always come at the price of higher risk. "Mexico's Larger Story." Foreign Policy, (Summer 1995): 112-13 ."Shake, Slither and Schuss." Economist 338 (6 January 1996): 57-58. In the absenceof that rescue package, it is difficult to imagine what the effects on theMexican economy and Mexican society might have been. Obviously, the fact that Mexico continued its downward spiraldespite the bailout will make governments and multilateral institutionsthink twice before jumping to the rescue of countries attacked by currencymarkets. The bonds are availableeither as a fixed-rate "par" bond (in which the principal is equal to theoriginal value of the loan but bears a below-market coupon), or as afloating-rate "discount" bond (deeply discounted from the loan's originalvalue but carrying a coupon at a spread over LIBOR). Works Cited"The Big Emerging Markets." Business America 116 (August 1995): 9-17.Broad, R., and Cavanaugh, J. The label "emerging" conceals more than itreveals. In this context, The Economist said in January 1996 that(Shake 58): "As the past two years have shown, . It indicates that the potential losses of private investorseventually could be absorbed by governments and multilateral financialinstitutions, thus blurring the principle that both governments andinvestors should enter the game of portfolio investments at their own risk"(Naim 128). International investors began to seek out economies that would offeropportunities as emerging markets (Market 67).
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