Riding the wind of rebirth

"While imports increased dramatically, Mexico's exports grew sluggishly. Over five years, exports increased 2.7 times, while imports increased 3.4 times. As a result, Mexico's current account deficit widened from $41 billion to $289 billion."

"Theoretically speaking, as long as the capital account in the balance of payments maintains a corresponding surplus, a large deficit in the current account does not necessarily indicate that the national economy is facing a crisis. However, the key issue is that the foreign capital that maintains the capital account surplus should not be highly speculative, short-term foreign capital. Yet, the capital account surplus that Mexico uses to cover its current account deficit is precisely this kind of capital! It even accounts for as much as two-thirds of the total foreign capital!"

"In order to stabilize the confidence of foreign investors, the government not only stated that it would not devalue the peso, but also replaced a short-term bond pegged to the peso with a short-term bond pegged to the US dollar. As a result, foreign investors sold off a large number of short-term bonds pegged to the peso and bought short-term bonds pegged to the US dollar."

"On the eve of the financial crisis, the Mexican government had issued as much as $300 billion in short-term bonds, of which $167.6 billion were due in the first half of 1995."

"Huh?" Zhou Zhi laughed: "Their calculations are really accurate."

“Previously, Mexico had $28 billion in foreign exchange reserves,” Li Laosan rolled his eyes. “After it couldn’t hold on any longer, it announced a 12 percent devaluation of the peso. By the end of October 1994, the foreign exchange reserves still had $17 billion, which theoretically could withstand the risk of short-term bond maturities.”

"Unfortunately, man proposes, God disposes," Li Laosan said with a wry smile. "In the latter half of 1994, Mexican peasant uprisings continued one after another. The ruling Institutional Revolutionary Party's presidential candidate, Colossio, and its general secretary, Ruiz, were assassinated one after another. The power struggle within the ruling party and between the ruling party and the opposition was extremely fierce. The political instability damaged the confidence of foreign investors, and foreign investment in Mexico began to decrease, while the withdrawal of investment increased day by day."

"The Mexican government had to start robbing Peter to pay Paul, using its foreign exchange reserves to cover the huge trade deficit, causing its foreign exchange reserves to plummet from $17 billion at the end of October 1994 to $6 billion on December 21, a 65% decrease in less than two months!"

"At times like this, even a god can't save us." Zhou Zhi shook his head and smiled bitterly: "The common people are going to suffer again..."

"Facts show that the Mexican government's approach of using short-term bonds pegged to the US dollar to stabilize foreign investor confidence was unwise. While these bonds may have achieved their goal in the short term, keeping more than $200 billion of short-term foreign capital in the country, the risks involved are even greater." Li Laosan also shook his head: "Because the decline in the value of the peso, regardless of the magnitude, will reduce the profits of indirect investments, thereby exacerbating capital outflows and causing greater volatility in the short-term bond market."

"Therefore, by the second half of 1994, the Mexican government was in an increasingly passive position. On the one hand, it could not get rid of its dependence on foreign indirect investment and short-term treasury bonds; on the other hand, these two sources of funds made the Mexican economy increasingly fragile, the government's room for maneuver was constantly shrinking, and the influence of financial speculators continued to increase."

"When the government announced the devaluation of the peso, financial speculators sold off large amounts of short-term government bonds. Mexico's fragile economic structure, coupled with the escalating social and political turmoil, meant that measures intended to stop capital outflows, encourage exports, curb imports, and improve the country's balance of payments, instead became the trigger for the crisis."

“In a context of socio-economic instability, currency devaluation can easily trigger inflation, causing foreign capital invested in the domestic stock market to suffer losses due to the peso's depreciation. The withdrawal of foreign capital leads to a stock market decline. This stock market decline, in turn, exacerbates the devaluation of the Mexican peso, causing the crisis to escalate.” Li Laosan spread his hands: “Mexican monetary policymakers overlooked this point, neglecting the linkage between the foreign exchange market and the stock market. Their financial policies were misaligned, leading to a sharp decline in foreign exchange reserves, which were insufficient to cope with the worsening situation, resulting in the rapid occurrence of the disaster.”

Zhou Zhi tapped the table rhythmically with his finger as he pondered, saying, "So, the decrease in foreign exchange reserves and the depreciation of the peso were the direct causes of Mexico's financial crisis; while using highly speculative and liquid short-term foreign capital to make up for the huge current account deficit was the deeper root cause of the financial crisis; and the most fundamental reason was social unrest, economic fragility, and policy missteps. Right?"

“Actually, the bigger reason lies in the nature of human beings,” Li Laosan said. “This problem is fundamentally caused by borrowing money to make money.” “I originally only had five yuan in capital, so in principle I could only do business worth five yuan. But now I have the opportunity to borrow money to do business, and of course I can’t miss such a good opportunity.”

"But how much money should I borrow?"

Zhou Zhi understood: "Logically speaking, since I only have five yuan in principal, I should only borrow five yuan or less to ensure that I have the ability to repay and control risks."

“But many economic activities are not like that now,” Li Laosan said with a smile. “More often than not, risk control capabilities are ignored to the greatest extent possible in order to ensure the scale of business operations.”

"We are now in a new economic society, where more people are pursuing profit maximization. In other words, if you have a thousand dollars but only do business worth one dollar, even if the risk is zero, people will not bother with it; but if you can do business worth a thousand dollars with one dollar, even if the risk is as high as 99.99%, countless people will flock to it."

He then spread his hands and said, "That's human nature."

"And the result?" Zhou Zhi asked. "I saw on the news that it was terrible, but I can't remember exactly how terrible."

“结果就是1994年12月19日墨西哥政府宣布比索贬值15%后，二十日再度狂跌13%。21日再跌15．3%。伴随比索贬值，外国投资者大量撤走资金，仅三天时间，比索跌幅高达42．17%，墨西哥外汇储备锐减近四十亿美元。到1995年3月股市跌去了47.94%，下跌幅度甚至超过了比索贬值的幅度。”

"In order to stabilize the Mexican financial market, the Mexican government launched an emergency economic rescue plan after extensive consultations. With the support of the Mexican government and international financial institutions such as the International Monetary Fund, it had to promise to reduce the current account deficit to a level that could be paid normally as soon as possible, to quickly restore normal economic activity and employment, to reduce inflation to the lowest possible level, and to ensure that losses to foreign investors are minimized. On these terms, it applied for emergency loan assistance from international financial institutions."

"Finally, by the middle of last year, international capital aid of $50 billion, primarily from the United States, gradually arrived." To help the Mexican government overcome its difficulties and reduce losses for foreign investors, the US government and international financial institutions such as the International Monetary Fund decided to provide massive loans to support Mexico's economic rescue plan, aiming to stabilize the exchange rate, stock market, and investor confidence. Mexico's financial turmoil finally subsided in the first half of 1995.

"Damn it, Third Brother, do you know what I just thought of?"

"What?"

"But what will the price be..." (End of Chapter)