Money, Mexico, and Mañana

0:00At the New Year 1994, when the rest of us were vowing self-improvement, the federal government was wallowing in the financial iniquity of the decade. It resolved to bail out the Mexican government with a $6 billion line of credit. Weeks later, the figure began to grow. It was $10 billion, then $20, then including international lending agencies, $40 billion. The final amount, including money scrounged up from anyone with an interest in the future of the peso, was more than 60 billion dollars. That's the entire production for a year of the state of Alabama, South Carolina or Oklahoma. The United States entered four agreements with Mexico setting the terms of the assistance. The congressional leadership in both parties gave up their constitutional obligation to manage the US accounts and gave the Clinton administration its blessing to go ahead with a full bailout of a bankrupt government, not the U.S. of course.

0:57First installment of 10 billion began to flow immediately. The second 10 was released on July 1st of this year. American taxpayers were never consulted and because both parties were conspirators in the deal, voters will not have a chance to retaliate at the polls. Yet not one dime of credit to Mexico was deserved. Its currency is nearly worthless. The government defaulted on its debt as recently as 12 years ago. The establishment is steeped in corruption and drugs and the Zedillo administration has been completely discredited. Then let's not forget assassinations and revolutionary uprisings that preceded his takeover. Mexico ranks among the most regulated economies of the world with high taxes, uncertain property rights, anti-competitive, anti-trust policies, a fixed labor market and loose money.

1:47Sounds like the US, I know. When the PESA was devalued and then tailspinned, The Mexican government's first response was to impose wage and price controls, then to shut down dozens of businesses caught ignoring them in jail businessmen. Under these circumstances, would you extend an unsecured loan to the Mexican government? Well, you didn't have a choice. The Federal Reserve and the Clinton Treasury decided to do it by executive fiat. Under regulatory statute, they don't have to ask Congress's permission. They only have to periodically report on how much money they've lost. It's not the personal bank accounts of Treasury Secretary Robert Rubin or Fed head Alan Greenspan which were put at risk. When the U.S. government extends credit, the American savers and taxpayers are the real guarantors.

2:36And like all federal debt, it eventually means a lower dollar, higher taxes or higher inflation are all three. One way or another, at some point in the future, we will pay. In the November elections, the public voted against this kind of redistribution, domestic and international. But the Republicans let it happen and, as we'll see, actually promoted the bailout. Bailout of Mexico ranks among the most appalling examples of the enormous gap that exists in this country between the rulers and the ruled. Everywhere you go among the grassroots, there is talk about this financial mess and outrage at how it happened. But in the halls of Congress and the Clinton administration, there's only silence. And anyone who tries to raise the issue in Congress gets a rag shoved down his throat.

3:22Let's return to the solid days of Mexican prosperity and retrace the political and economic steps that led to this debacle. January 1993, the Salinas regime faced two critical challenges. First was the NAFTA Treaty, which meant billions for the elites in Mexico. Indeed, the future of the ruling party rested on its passage, or so they thought. In the U.S., NAFTA was once considered to be a legislative shoe-in, but it was beginning to come under fire by the non-establishment branch of American political activism. The second problem facing the Salinas regime was the Mexican presidential election a year away. Meanwhile, the economy was not doing as well as the government had promised, and the ruling The ruling party faced a serious challenge of the polls, possibly a challenge so great that the outcome couldn't be plausibly rigged.

4:12To address these two difficulties, the solution was the same as in most modern governments, where the paper currency inflate the money supply. All throughout 1993 and 1994, the government of Mexico pursued a very easy monetary policy and began issuing short-term dollar-denominated Mexican government bonds, referred to as TESA-bonos. This created an artificial boom that carried the economy until the election, a political business cycle, Mexican version. Few knew it at the time, but this inflation was the beginning of the end. The administration expected that Mexico would have to engage, that is the Clinton administration, expected that Mexico would have to engage in some inflationary activity, an action which might drive down the peso. To address that concern after the NAFTA treaty had been negotiated and just as these bonds came to be issued, A new exchange rate currency fund of $6 billion was created by the U.S. government as part of NAFTA.

5:08In this agreement, the three NAFTA countries agreed to prop up member currencies with their own reserves within certain limits. In practical terms, the new agreement meant the U.S. as a part of NAFTA agreed to back the dollar-backed Mexican bonds that were being issued to get the treaty passed so that the ruling regime could be plausibly re-elected. In short, the U.S. government had agreed to bankroll the Mexican establishment long before the official bailout began. NAFTA passed mid-year in January 1994 to perfect, along with the promise of an automatic bailout of the peso. That very month, and not coincidentally, the peasant uprising in Chiapas flared up again and was reported for the first time in the United States. The Potemkin village created by easy money had started to be invaded by reality.

5:56Reality hit home especially hard for the head of Mexico's biggest bank and brokerage house. In the first of many politically motivated private sector crimes, he was kidnapped. That didn't stop the presidential campaign from gearing up, with the PRI or ruling party candidate Luis Donaldo Colosio leading the pack. Then a slight complication occurred. He was shot dead by assassins connected to another faction of the ruling regime. Some people in Mexico consider, by the way, a more US-connected faction of the ruling regime. It was only a matter of hours before Ernesto Zedillo, the other faction's candidate, appeared to take his place. On this day, March 24, 1994, NAFTA's currency agreement came into play. Secretary of the Treasury Lloyd Benson worked with Alan Greenspan to extend the swap agreement and make it available in the event of an emergency.

6:47The promise of an immediate six billion pumped up the expectations that the Mexican economy would remain in good shape. At a press conference that day, Clinton predicted no inflation in Mexico and said, quote, we continue to have every confidence that Mexico is on the right economic path. Zedillo then officially declared his candidacy. Of course, it turned out that the troubles had only begun. The Bank of Mexico began to intervene wildly to prop up a falling peso, selling dollar reserves. The Federal Reserve, Fed did what it could, but in short order, Mexico began to lose as much as a billion dollars a day. The U.S. Undersecretary for Economic Affairs, Lawrence Summers, announced on national television that, quote, Mexico is fundamentally sound and as a fundamentally sound currency. We are very encouraged by the situation in Mexico.

7:35Oh yes, the day before, the vice chairman of Mexico's largest retailer was kidnapped. In the very next day, the police chief investigating the murder of Colosio was himself murdered. Clinton's response, he told a group honoring a Mexican holiday that, quote, I have a profound confidence in the strength of Mexico's political institutions and its leadership and in the bright prospects of the Mexican economy. Get the feeling these guys don't always tell the truth? Even this early in the political crisis, the entire political establishment in this country began to panic. Prospects were terrified about their investments, corporations were nervous about a pacer devaluation, and political leaders were quaking in their loafers about the prospects of a NAFTA blow-up. They didn't know at this time that their worst fears, and then some, were about to come true.

8:22As an example, in late May, the U.S. Embassy in Mexico wired the Treasury Department in Washington. It's a remarkable cable that tells us about the way that governments gather economic information. Here as always, they can only play catch-up. The cable reads as follows, We made a swing through Western Mexico and found that while bank and street peso dollar rates were comparable to those in Mexico City, using greenbacks to make purchases in the local economy could gain significant discounts. For the first time so far from the border, most street merchants began by pricing their goods in dollars. Several merchants said they were willing to pay a premium for dollars because the Salinas administration, like its two predecessors, would finish its term with a snap devaluation." Even with this information, there was no open discussion of a devaluation.

9:10Three months later, the IMF was still officially ruling out any chance of such a thing. The U.S. government claims it would have been taken by surprise seven months later and still do. So much for the experts. When the government wanted really good information, it talked to street merchants in interior Mexico, seemed to know much more than the politicians in either Mexico City or Washington D.C. This cable repeating the words of the underground entrepreneurs was the first to use the dread word devaluation. There was one MIT economist who seemed to know much more than anyone in Congress at the administration, Rudy Dornbusch, a Mexican expert who had been calling for a 20% devaluation for an entire year. Dornbusch was then most famous for his influential ex-students, Mexican President Roberto Salinas and Mexican Finance Minister Pedro Aspe.

9:59Dornbücher's words of advice were eventually taken to heart, but not until after Zedillo stole the election. In the days before and after the election, a series of emails and faxes flew wildly among the U.S. Embassy in Mexico, Federal Reserve Bank of New York and the Federal Reserve Offices in Washington. The messages spoke openly about the possibility of a radical devaluation and even a complete default. As a sample, Charles Sigmund, the Fed's Director of International Finance, sent a 22-page memo to Alan Greenspan and Alan Blinder, called... Is there something wrong with him? They're two top guys in the Fed with the same first names. Anyway, the implied probability of a peso devaluation. In this memo, dated August 17th, Sigmund told Blinder and Greenspan about the high likelihood that Mexico would not only openly devalue its currency, but then suspend all convertibility.

10:48Now, recall that the Clinton administration claimed to be taken by surprise when the devaluation actually occurred four months later. To the rest of the world, and especially that part convinced by a hysterically pro-Mexico national media, Mexico may have seemed shaky, but certainly not in dire straits. In September 1994, Mexico's government business agreement, called the Pacto, received accolades from one and all. It said that the government would maintain the present rate of exchange and raise the minimum wage. Say, this was not a smart idea. As the pace continued to fall, the US Treasury Department's internal memoranda were getting increasingly frantic. In one declassified document dated September 26, 1994, Assistant Secretary Lawrence Summers described Lloyd Benson, the current situation, predicted evaluation and recommended a course of action, providing a box for Benson to check yes.

11:41It's all been declassified with the exception of the specific course of action. That's been blocked out, as have been many of the crucial documents. The bailout, I'll show you a typical one. So they're blocking out all the hot stuff. This is typical, of course, the way the government uses classification. It's to prevent things from the American people from learning things the government is doing. It's nothing to do with the Russians or red Chinese or whatever it has to do with keeping the government's crimes and mistakes secret from the American people. Whatever the plan of action that Summers was urging, Benson agreed, and two days later, a high-level Mexican ruling party official, José Francisco Ruiz Maciao, was also murdered. What followed was a series of October 1994 meetings between Greenspan Summers, Benson Pedro Aspe, and Zedillo's top economist, Luis Tellez.

12:34It was in this month that they talked openly of drawing on U.S. reserves, not just for exchange stabilization, but for a bailout of the entire financial and public sector of Mexico. Very month that the American people threw out the old politicians for exactly this sort of insider deal and elected new ones who promised to change the system, the unelected economic power of the government was plotting the massive bailout of its client state. Pace have continued to decline from both internal and external selling, and Jeffrey Schaeffer, head of Treasury's International Division, warned that the Ruiz assassination and the Chiapas rebellion could lead to more instability. Meanwhile, JP Morgan and company issued a report saying that Mexico faced a choice between maintaining its exchange rates or reviving the Mexican economy. Lawrence Summers, meanwhile, was issuing internal predictions that the peso would collapse soon, all the while writing speeches for his boss, praising the glories of Mexico's economy and the new Zedillo administration and its commitment to free markets, low inflation and a balanced budget.

13:35On December 19, 1995, a hysterical message came from within the treasury addressed to Professor Lawrence Summers and Jeffrey Schaeffer. Memo is most interesting, although the author's name has been kept secret. It reports that the peso is in serious trouble in the news of the Chiapin rebels. It raises the possibility that the new government will devalue the peso, quote, without consulting us. Why should the Treasury worry? Well, as the memo says, quote, I fear that a devaluation will have a negative impact on congressional support for our trade policy initiatives, particularly if done unilaterally, unquote. The next day, to the shock of everyone but the tiny network of faxers among central bankers and lifetime bureaucrats, the PESA was devalued by 20%. Benson released the following statement. Mexico's exchange rate action today will support the healthy development of the Mexican economy.

14:23With a balanced budget, continuing economic reform and a prudent monetary policy, Mexico's fundamentals remain sound. The NAFTA swap line was immediately looted. Six billion poured down the rat hole. Investors paid, of course, no attention to the statements that continued to spill out of the administration. The Mexican economy is sound, the Mexican economy is sound. Smart people were no longer listening and they continued to sell pesos by the truckload. Selling even caused the central planners in Washington to announce that the peso collapse had, gone beyond what can be justified by Mexican economic fundamentals. The bailout was in the cars even while Clinton was claiming that they were simply experiencing a short-term liquidity crisis. Despite a series of calming statements, the bailout began on January 25th of this year.

15:11With the single largest loan or grant the IMF has ever given, $7.58 billion in one shot. The administration swung into gear with its rescue plan. After several weeks of upping the ante, the administration, under the influence of Greenspan, Rubin, Summers and others, settled on a plan for a forty billion dollar loan guarantee. Greenspan started combing the halls of Congress to lobby for the bailout. You see, U.S. banks had twenty-one billion dollars in loans to Mexican business and public institutions. These banks refused to accept such losses as the cost of doing business. Neither did the investment banking firm of Goldman Sachs, whose former and probably future chairman was Treasury Secretary Rubin. Greenspan, The head of the U.S. Bank Cartel even got on the phone to rush Limbaugh and urged him to support the proposed bailout.

15:58In fact, Limbaugh didn't need much persuasion. By the way, I don't remember anyone complaining about the central bank compromising its alleged independence by being directly involved in political lobbying and media lobbying. Limbaugh's listeners, however, weren't buying it, and neither were the rest of the American people. A huge public outroar against the bailout shook Washington. The entire freshman class swore they would defeat the bailout. Polls showed more than an 80% disapproval rate. Both Gingrich and Dole went on record immediately as supporting the bailout, as did Richard Army, so did the Wall Street Journal. This was the entire Republican leadership at work, claiming to cut government and meanwhile willing to spend 40 billion on bailing out a foreign government. In a matter of days, however, it became clear to Gingrich and Dole that such a bailout would never clear Congress, even if it did, If they did, getting a recorded vote on sending taxpayers money to Mexico would have set off a firestorm of popular protest.

16:55On January 26th, the Congressional leadership and the White House met to make a deal. The Washington Post reports that it was Gingrich who first proposed the trick that everyone eventually agreed on. Paul Gigaud, who himself supported the bailout, wrote that, Mr. Gingrich became the most vocal supporter of the rescue at the last Thursday's meeting. Whether someone had previously whispered in Gingrich's ear, we don't know. But Gingrich suggested that the administration entirely bypass Congress and announce a bailout on its executive authority. The money would come from an account in the Department of Treasury called the Exchange Stabilization Fund. They would take $20 billion in cash distributed in two installments and send it directly to those affected by the peso collapse, meaning American banks invested in Mexican debt, American corporate holders of Mexican debt, and large institutions invested in the stocks of companies whose values had plummeted in the last month.

17:48The whole thing, of course, was unconstitutional, unjust and economically dangerous. The fund was allegedly to be used for propping up the American dollar in the event of an emergency. Certainly legal experts said it was not properly emptied absent the authority of Congress. The U.S. government had begun to act as the lender of last resort for the world. The Inter-American Development Bank and other creation of NAFTA sent a $1.25 billion loan. The World Bank approved a $1.5 billion loan, in addition, the U.S. finagled an additional $17.5 billion from the IMF and $10 billion from the Bank for International Settlements. BIS has long been called the Central Banker's Bank for its role in achieving informal agreements on world exchange rates. This was the first time in modern history that the bank actually stepped in to act as as another lender of last resort, and eventually the Group of Seven itself would agree to expand its ability to bail out governments increasing their fund from $27 billion to $55 billion.

18:46A trader for Goldman Sachs told the New York Times that all the international coordination was necessary. We need, he said, quote, the financial equivalent of Desert Storm, unquote, to rescue Mexico. Still, the peso continued to fall. Even as the U.S. kept pouring the money on, the freshmen in Congress got organized to investigate the improper use of the Exchange Stabilization Fund. A procedural motion sponsored by Mississippi Democrat Gene Taylor would have as a very mild step led to a study by the General Accounting Office as to the action's constitutionality. But Gingrich blocked this from ever coming to a vote. Senator Al Demado of New York organized hearings on the affair, but it wasn't until July before any anti-bailout bills were allowed to make it to the House floor.

19:34Thanks to Gingrich's control of the House Rules Committee, by the time the House was able to vote on putting a stop to any more Mexican-style bailouts, the last of the money had been dumped. And who was finally responsible for bringing it to a vote? Bernard Sanders, the Vermont Socialist, who as an independent wasn't controlled by either party on this issue. But this too late vote even shook the Mexican markets again, which was blamed by the Wall Street Journal on the freshman class. In the meantime, Mexico agreed to an economic recovery plan that consisted of spending cuts, tightened monetary policy, and huge tax increases. As in this country, only the last plank of this platform was actually implemented. Clearly, there is no hope for a prosperous Mexico until we see a commitment to sound money.

20:23And that in turn will not happen unless the U.S. stops bailing the country out. There was never much economic downside, in fact, to letting the Mexican economy sink into the mire without the bailout. The total economy is no bigger than that of Los Angeles. From the point of view of American economic health, it's not a serious thing if it tanks. and, indeed, they would have been forced to lower tariffs to incoming goods and to export even more than American consumers would have made out like bandits. Plus, average Mexicans would have been better off with a broke and debilitated government. Most importantly, the Mexican government would have had to pay the price for its extravagance, which would have sent a message to every government in the world that if it inflates and runs up debt, it cannot count on the U.S. to bail it out. What about the mutual funds and the banks that were heavily invested in Mexico?

21:11Well, under capitalism, you can't divorce, or at least shouldn't divorce, the opportunity for profit from the risk of failure. They go hand in hand, and by accepting only profits in the short term, we're guaranteeing losses, much larger losses, in the long term. In the NAFTA debates, we heard a lot about protectionism versus free trade. In fact, this had precious little to do with the substance of the agreement. We got new bureaucracies to impose government regulations and controls on the Mexican economy. and Economy. We got a, quote, border cleanup fund of subsidies to big business. And we got the first steps of a currency union in the North American Financial Group. Most importantly, as Murray Rothbard wrote in June 1994, quote, one of the unheralded aspects of NAFTA was a joint government action in propping up each other's exchange rates. In practice, this means artificial overvaluation of the Mexican peso, which is one more step towards arrangements that will distort exchange rates, create monetary crises and shortages, and waste taxpayers'

22:12money and economic resources." Will the Republicans do anything about it even now? No, the party's elites made NAFTA possible, a fact which will not be easily forgotten by the millions of people who begged them to do otherwise. Again, the public proves to have had better instincts than Washington's managerial class, which has been outwitted once again. NAFTA was sold is free trade, but that could have been accomplished by simply reducing tariffs. Free trade had nothing to do with NAFTA's real aims. And indeed, whatever benefits could have come from tariff reductions have been wiped out by the pace of collapse, which acts like a tax on traders. But now NAFTA's grand plans lie in tatters, and the US should take the opportunity to withdraw from it. Most Europeans are coming to realize the impossibility of of Creating a Political and Monetary Union Run from the Center.

23:05Instinctively, most Americans also know that the same thing transferred to North America was preposterous. Sad history of the Mexican bailout teaches us the lesson of how much damage a central bank can cause. None of this would have been possible without the Federal Reserve and its fiat money. If we'd been on a gold standard, the government would have been powerless to bail out anyone. And until we get a gold standard, we have to rely on the sound instincts of the public to create barriers to such bailouts. The conspirators did indeed fear public opinion, which is why they spent so much time and energy putting a good spin on the entire debacle. We can say that any time a politically manufactured economic union is destroyed by market pressures, freedom lovers should celebrate.

23:51At least it reminds us that even the wealth and power of government cannot abolish economic law. As for the individuals and groups involved in perpetrating this gargantuan financial scam, they should never be forgotten or forgiven, but instead driven from public life. And then we can think about the appropriate punishments.