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Source: The Library of Congress Country Studies << BACK TO HISTORY CONTENTS President López Portillo was inaugurated on December 1, 1976, amid a political and economic crisis inherited from the previous administration. A rising foreign debt and inflation rate, a 55 percent currency devaluation, and a general climate of economic uncertainty that had spurred capital flight plagued the economy. The new administration also faced a general lack of confidence in government institutions. Unexpected help arrived as a result of the confirmation of the large oil reserves. The Mexican government chose to follow a policy of increasing oil production only gradually to prevent an inflationary spiral that would disrupt economic recovery. Nevertheless, by 1981 Mexico had become the fourth largest producer of oil in the world, its production having tripled between 1976 and 1982. While production increased, so did the price per barrel of crude oil.
The immense revenues generated by oil exports during the administration of López Portillo gave Mexico a greater degree of confidence in international affairs, particularly in its ever important relations with the United States. The government, for example, refused to participate in the United States-led boycott of the 1980 Summer Olympic Games in Moscow. When the two countries could not agree on the price of natural gas, Mexico flared its excess resources rather than sell to the United States below its asking price. Also in defiance of United States wishes, Mexico recognized the Farabundo Martí National Liberation Front rebels in El Salvador as a representative political force. These steps occurred although the United States remained Mexico's major oil customer and its major source of investment capital (see Petroleum, ch. 3; Foreign Relations, ch. 4).
As in so many developing countries, oil did not solve all of Mexico's problems, however. The oil industry grew rapidly but could not employ the ever-increasing ranks of the unskilled. Oil made Mexico a rich nation in which a majority of the people continued to live in poverty. Foreign banks and the international lending agencies, seeing Mexico as a secure investment with abundant energy resources, flooded the country with loans that kept the peso overvalued.
"The Crisis" Begins, 1982
Although its effects rippled through every aspect of national life, the roots of what came to be known simply as "the crisis" were exclusively economic. The roots of the crisis lay in the oil boom of the late 1970s. Oil prices rose sharply at a time when oil exploration in Mexico was at a peak. The nation found itself awash in petrodollars. Its infrastructure, barely adequate before the boom, was overwhelmed by the influx of imported goods that followed Mexico's rising foreign exchange reserves and the overvalued peso. López Portillo promised "to transform nonrenewable resources into renewable wealth." In other words, he vowed to invest substantial amounts of the new oil revenue in areas and projects that would establish sustainable economic growth. This promise went unfulfilled.Government spending did increase substantially following the oil boom. Little, if any, of the new spending, however, qualified as productive investment. Food subsidies, long a political necessity in Mexico, accounted for the largest single portion of the new spending. Although impossible to quantify, many accounts agree that the level of graft and corruption skyrocketed. The new money fueled a level of inflation never before seen in modern Mexico; the inflation rate eventually surpassed 100 percent annually. The López Portillo administration chose to ignore warning signs of inflation and opted instead to increase spending.
The macroeconomic trends that preceded the crisis also displayed warning signs that went unheeded. Oil income rose from 1979 to 1980. Oil exports began to crowd out other exports; the petroleum sector accounted for 45 percent of total exports in 1979, but dominated exports with 65.4 percent of the total in the second quarter of 1980. Like so many other developing nations, Mexico became a single-commodity exporter. With almost 50 billion barrels in proven reserves serving as collateral, Mexico also became a major international borrower. Significant foreign borrowing began under President Echeverría, but it soared under López Portillo. Foreign banks proved just as shortsighted as the Mexican government, approving large loans in the belief that oil revenue expansion would continue over the terms of the loans, assuring repayment. Hydrocarbon earnings for the period from 1977 to 1982, US$48 billion, were almost matched by public-sector external borrowing over the same period, which totaled US$40 billion. By 1982 almost 45 percent of export earnings went to service the country's external debt.
Living standards had already begun to decline when the oil glut hit in 1981. Although the economy grew by an average of 6 percent per year from 1977 to 1979, purchasing power over that period dropped by 6.5 percent. By mid-1981, overproduction had softened the international oil market considerably. In July the government announced that it needed to borrow US$1.2 billion to compensate for lost oil revenue. The month before, Pemex had reduced its sales price for crude oil on the international market by US$4 per barrel. Continued high import levels and the drop in oil exports had boosted Mexico's current account deficit to US$10 billion. This uncertain situation--high external debt, stagnant exports, and a devalued currency as of February 1982--prompted investors to pull their money out of Mexico and seek safer havens abroad. This action, in turn, led López Portillo to nationalize the banks in September 1982 in an effort to staunch wounds that were largely of his own making.
López Portillo left office in 1982 a discredited figure, in no small part because the press publicized accounts of his luxurious lifestyle. The Mexican public, long-suffering and pragmatic in political matters, found López Portillo's calls for "sacrifice" and austerity unacceptable when contrasted with his own lifestyle.
Data as of June 1996
NOTE: The information regarding Mexico on this page is re-published from The Library of Congress Country Studies. No claims are made regarding the accuracy of Mexico "The Crisis" Begins, 1982 information contained here. All suggestions for corrections of any errors about Mexico "The Crisis" Begins, 1982 should be addressed to the Library of Congress.
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1982 Mexican Financial Crisis
© 1982, 2001 Donald J. Mabry
The purposes of this presentation are limited just as its contents are tentative. One goal is to outline the chronology of the Mexican financial crisis By doing so, it may help one,understand better what has happened in Mexico in 1982. The other purpose is to suggest some of the consequences of the crisis for the United States. Mexicans will pay the greatest price for the fiscal mismanagent by and greed of a few but U.S. citizens will also pay.
One fundamental problem for the Mexican economy is that it is a satellite of the United States economy. Mexico is the third largest trading partner of the United States, which buys over 65% of Mexico's exports and accounts for a similar percentage of Mexico's imports. Tourism from the United States and border transaction produce billions of dollars for Mexico even after subtracting the large amounts spent by Mexican tourists in the United States Remittances by Mexicans working tn the U.S. contribute more billions to the Mexican economy. More subtle, perhaps, but of critical importance to the financial crisis is that Mexico borrows extensively from US citizens.
The US economy has been sick and the germs have spread southward with a marked virulence. Mexico has caught pneumonia from the US head cold. The US recession eventually caught up with Mexico, which had previously countered international trends in 1977-1981 by increasing its gross domestic product by an average of 7% a year. As interest rates rose, money supplies contracted, inventories grew, and unemployment increased in the United States. The US purchased less and charged more for its exports. The cost to Mexico of imports and capital increased sharply while the value of its exports fell. For more than a year, the prices of petroleum, silver, coffee, cotton, copper and other important Mexican exports declined. In 1981, for example, Mexico projected some $20 billion in oil revenues but received about $12 billion. This year brought similar short-falls as petroleum prices continued to decline. The value of tourism to Mexico fell some $900 million. The staggering budget deficit programmed by the Reagan administration and Congress and the decision of the Federal Reserve System to charge more for money drove interest rates up (the prime rate went up to 17%) and increased Mexico's debt burden by some $2.5 billion.
The Mexican government, for its part, had chosen an economic development strategy which increased its exposure to the ills of the United States economy. It borrowed extensively from foreign, principally US sources to finance investments in infrastructure and industry, social services, and debt service. The projected national budget of 1982 called for 34% of its revenues to come from borrowing. Mexico gambled that its income from tourism and exports, particularly petroleum, would enable it to service its debt and that banks, cognizant of Mexico's position as a major oil power, would continue to rollover the debt if difficulties developed. The very size of the debt which was approximately $70 billion in January, 1982.and some $80 billion in October, seemed to demand cooperation from international bankers. After all, the United States and others had anguished for months about possible default on the Polish national debt of $25 billion, puny compared to Mexico's.
Mexico lost this gamble, The United States government raised the cost of dollars to slow down the rate of inflation and, in the process, inflated the Mexican economy, which depended so much on borrowing. Interest costs to both. the public and private sectors of Mexico skyrocketed.. In 1978, these charges had been $2.606 billion; in 1981, they were $8.2 billion. They continued to climb in 1982. The Mexican economy, already heated up by President José López Portillo's policies, overheated. By January, 1982, Mexican economists were projecting a 60% inflation rate for 1982. Trying to obtain enough dollars to service the foreign debt became critical.
Private citizens in Mexico had not been as optimistic as their government and had been taking steps to insure the integrity of their wealth. They began switching from pesos to dollars. In January, 1982, they had $9 billion deposited in bank accounts in Mexico; by August, they had converted another $3 billion from pesos to dollars and stashed them in such accounts. Ninety percent , of the bank accounts in Mexico were in dollars even though peso accounts paid 23% higher interest. Less optimistic Mexicans sent money out of the country or never brought it in. By July, 1982, some $14 billion had gone into foreign bank accounts and another $25 billion invested in US real estate. Some $6 billion was invested in Texas alone and Texas banks held $16 billion in accounts. It is perhaps no coincidence that the recent downturn in the Texas economy paralleled Mexico's financial troubles in August.
Mexicans were betting that the peso would be devalued and, in February, the government did so. On February 17th, the Banco de México allowed the peso to float; the devaluation that followed eventually amounted to 43%. Besides stimulating exports, the government hoped that devaluation would slow capital flight. The government also cut its own spending and put a price freeze on fifty additional items to mitigate the effects of the subsequent inflation. In March., to pacify workers, the government granted its employees pay raises ranging from 10-30%, retroactive to February 18th. Private employers normally follow suit.
The difficulties in which Mexico was finding itself can be illustrated by the experience of the Grupo Industrial Alfa, the largest private business in Mexico. This Monterrey conglomerate owned a variety of enterprises including steel mills, breweries, food processing plants, and tourist facilities, The company bit off more than it could chew and lost $124 million in 1981 and forecast losses of $304 million in 1982, considerable amounts for a $1.9 billion company. Alfa had also borrowed extensively and was having trouble servicing its debt. On April 21st, the company announced that it was suspending payment on the $2.3 billion debt principal owed to domestic and foreign banks. On April 30th, its representatives met in Houston with representatives of 135 US banks to discuss solutions to the debt problem. The February peso devaluation had increased the company's dollar debt by $140 million, more than it could bear.
US banks were also vulnerable. Citibank and Continental Illinois had each loaned $100 million to Alfa. On August 5th, the company proposed a six-month suspension on 70% of the interest payments on its debt. So, by April, Mexico's largest private enterprise was close to bankruptcy; its shakiness certainly must have encouraged capital flight.
The Mexican government continued to cut back its expenditures but attempted no drastic measures, perhaps because elections were to be held in July. By the end of April, the national budget had been cut 8%; in May, the expensive nuclear energy program was suspended. In August, continued capital flight and shortfalls in dollar reserves forced the government to act. On August 5th, the peso was again devalued, bringing the total decline in the value of the peso in 1982 to 67%. In addition, the government created a two-tier exchange system. To pay international debts and pay for necessary imports, the exchange rate would be 49 pesos to the dollar. For non-essential imports, the rate would be 69.5 to the dollar. On August 12th, the government ordered all bank accounts to be paid out in pesos, thus "freezing" the accounts and eventually recapturing the $12 billion deposited. Trading in foreign currency was suspended, To offset criticism, income taxes were lowered but the government also raised the prices of the basic consumer commodities it had been subsidizing, thus passing some of its financial burden to the consumer. On August 20th, the government got a 90-day extension on repayment of short- and medium term-loans from 115 international banks. Dollar flight was temporarily halted and the government had bought time to negotiate foreign banks
President López Portillo took drastic steps to reorganize the Mexican financial system with one decisive blow. On September 1st, he nationalized all private, Mexican banks and converted the Banco de México into a decentralized government agency. Strict currency controls were adopted. The president accused Mexican financial speculators, aided and abetted by these banks, of having looted the country and brought the nation close to financial collapse by withdrawing some $50 billion from the economy (the Mexican GNP in 1981 was $120 billion). Henceforth, the government would control domestic credit, and, of course, the flow of dollars. Some 80% of the economy was now in government hands, a situation which would force the international bankers to cooperate with Mexico. On September 6th, Mexico suspended payment on all debt principal until the end of 1983.
Washington, for its part, has little choice but to help Mexico. It started helping in August by making a $1 billion advance payment for petroleum and by arranging a near one bi ion dollar loan from the Commodity Credit Corporation. Mexico's importance to the US as a trade partner means that the US needs a healthy Mexico. Congress was considering ways to stop the flow of illegal aliens, most of whom are Mexican, but any hope of expelling those currently in the US were dashed because Mexico needed the $4-7 billion they remit each year. Equally, if not more, important for US policy is the fact that the nine largest banks, in the United States had the equivalent of 40% of their capital and reserves loaned to Mexico. If Mexico defaulted, these banks would collapse and other countries might default as well.
The United States has little choice but to cooperate with Mexico and perhaps there is justice in that. It was US tight money policies that squeezed Mexico and the bad judgment of US bankers in continuing to loan money to Mexico that contributed to the crisis.
New president Miguel de la Madrid took office on December 1st and had to clean up the mess left by his predecessor's irrationality. Most of what López Portillo had done in August was reversed. Mexico could not continue those policies if it wanted foreign investment.
