The Mexican peso crisis

Abstract

In the author's view, the Mexican financial crisis which erupted at the end of 1994 was not unique, although it did have some special features. Thus, since it could happen again, it would be desirable to gain an in-depth understanding of it. This article therefore analyses the process and underlying causes of the Mexican peso crisis. For this purpose, the author distinguishes three main periods. The first of these extends from the beginning of 1990 up to March 1994, and an analysis is made of the problems that were hatching and the policy options that were available. With regard to the second period -from March 1994 to 20 December of that year- the available options are likewise examined. In the case of the third period, attention is centered on the devaluation and the resulting crisis, and an appraisal is made of the way they were handled. The author considers that there are four main elements that explain the "rise and fall" behaviour of capital markets. These are: excessive optimism followed by exaggerated pessimism (attitudes partly linked with the structure of incentives of fund management companies);; the fact that in a highly diversified market even the most trivial items of news can lead to a bout of speculation, because of the high cost of really full information; the existence of a conflict of interests among bankers operating simultaneously as investors and advisors; and "disaster myopia" that fails to foresee impending disasters.