Peso Crisis Calls for Cool Judgment and Perspective

Get a grip, America. The Mexican economy is going through a crisis of confidence as its politics undergo a transformation as great as the downfall of Communism in Russia. Judgment and cool perspective are needed.

But instead, there is the sad spectacle of prominent Americans crying that they were "fooled" last year by Mexico's leaders and the peso devaluation at the end of the year.

Former congressman, cabinet secretary and presidential hopeful Jack Kemp reportedly told the governor of the Bank of Mexico: "You betrayed us."

Members of the House of Representatives are demanding documents about the Clinton Administration's decision to provide Mexico with a U.S. Treasury loan guarantee--a credit package that has yet to take effect and may be threatened by a squall of protest in Washington.

Meanwhile in Mexico, recrimination is also the order of the day. In an authoritative poll taken among Mexico's middle class, 97% of the respondents said former President Carlos Salinas de Gortari should be indicted for corruption in office.

And 81% of those Mexican respondents said Mexico should refuse the U.S. loan guarantee package and its attached conditions, which have helped lift Mexican interest rates to 74% and higher.

"Don't you Americans realize that the economy has to function?" asks a Mexican businessman. "People are being laid off; businesses are failing."

In fact, the immediate outlook is for a sharp recession in Mexico, with the economy shrinking 5% this year. That is not good news for the U.S. economy. Such a Mexican recession will probably reduce U.S. growth by half a percentage point, or more than $30 billion worth of job and wealth-creating activity.

The effects on the economies of California, Texas, Arizona and New Mexico will be harsher.

When things get so bad--and the U.S. Treasury is being blamed--it's time for dispassionate analysis of what is really going on in Mexico, and of just what the U.S. stance should be.

The fundamentals of Mexican political change and the underlying Mexican economy are, on the whole, highly positive. Intelligent business people will focus on realities even as political rhetoric deals in half-truths.

What happened last year is that the outgoing administration of President Salinas failed to devalue the peso gradually in response to changing U.S. interest rates and political difficulties at home, including the assassination of presidential candidate Luis Donaldo Colosio.

The result was an overvalued currency that distorted Mexico's economy, drawing an enormous flow of U.S. imports--more than $50 billion worth, up from from $41 billion the previous year. This distortion ultimately became too great and the peso was devalued Dec. 20 by the new government of President Ernesto Zedillo.

But Salinas' policies were no secret to the Americans. In fact, last June, a delegation representing Fidelity Investments, G. T. Capital Management, Trust Co. of the West, Oppenheimer Management and other U.S. mutual fund companies badgered Mexican officials not to devalue the peso gradually.


Yes, Mexico's politicians maintained the peso for their own reasons--allowing voters to feel prosperous in an election year. But U.S. financial managers--representing mutual and pension fund investors like you and me--had a hand in it.

The situation right now is that the Zedillo government is negotiating with labor and business leaders on a new national economic and wage agreement. But the peso at six to the U.S. dollar, worth 70% less than before the devaluation, complicates matters in a country where prices of many goods and services are based on the dollar. Inflation is running at 30%.

So it is hard for Mexico to refinance the short-term borrowings it used to finance last year's imports. Those borrowings were largely from U.S. financial institutions, which now face forced restructuring of their investments. "The short-term notes at interest rates up to 20% will be restructured into 10-year bonds at interest rates below 10%," says Rudiger Dornbusch of Massachusetts Institute of Technology, an expert on Mexico's economy.

All foreign and domestic loans will be reworked. For a while there will be no new credit. The economy will be cash and carry and in recession.

But the economy also can be resilient. In recent years, Mexican companies have made investments to upgrade operations. Beyond the present financial crisis, industry's productive capacity and Mexican labor's competitive abilities argue that the real economy is not in bad shape, says Jose de la Torre of UCLA's School of Management.

The political crisis reflects Mexico's past and future. There is recrimination because Salinas, like most past presidents in Mexico's one-party system, made himself and his cronies rich but hurt other businesses through his austerity policies. Now it's get-even time: News that the former president's brother, Raul Salinas, had been arrested was received with euphoria at a Mexico City board meeting last week.

More than vengeance was at work. There was euphoria that Zedillo was starting to uphold the rule of law in a society that has grown tired of single-party machine politics--as Russians grew tired of dishonest Communist leaders.

Institutional Revolutionary Party (PRI) rule began in 1929 as a way of ending decades of factional violence. But that compromise is no longer needed in a maturing Mexican society. Proof of that is seen in the recent election in Jalisco state, resoundingly won by the National Action Party.

Zedillo has brought a member of that party into his government and will bring in other non-PRI officials. Starting his presidency, he has no economic favors to hand out, so he is concentrating on political change and justice.

What does all this mean for the United States? The change to pluralistic, democratic politics and an open economy is in our interest, but the troubled economy threatens Zedillo. If things get too bad he could lose power amid chaos in a neighboring country.

So the U.S. government should be supportive, as the Clinton Administration and Republican leaders in Congress have been. A loan guarantee is not a blank check, but a helping hand extended to an ally in a time of trouble.

Sure, the immense U.S. economy, at $6.8 trillion annual output, and Mexico's $300-billion economy make an odd couple in the North American Free Trade Agreement. The deal is long term. As Mexico grows, U.S. suppliers of equipment and services get first preference in return for giving Mexico access to U.S. markets.

But if there never had been a NAFTA, there would still be a nation of 90 million people next door. The promise is that maybe in the next decade, Mexico's economy could grow as large as that of Canada, which has 29 million people and a $550-billion economy.

Above all, if Mexico is both neighbor and ally, then the United States should not flip flop--investing and cheering one year, griping and whining the next. That's neither noble nor productive.

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