Could the “Tequila Crisis” happen again? The IMF is worried.
By Don Quijones, Spain & Mexico, editor at WOLF STREET.
Although Mexico’s economy has grown at a steady rate during the lion’s share of this fledgling century, Mexican workers’ real salaries have barely shifted. In fact, over the last four decades, Mexicans’ purchasing power has not just stagnated, as has happened in many Western nations, in terms of minimum wage, it has shrunk by 78%. In 1976, a family on minimum wage could buy four times as much as today.
So bad have things become that when CNN’s Spanish edition did a study comparing the minimum statutory wage of over a dozen Latin American countries set against each country’s performance on the Big Mac index, with the US Dollar as the benchmark currency, Mexico came in 13th out of 13, behind a host of much smaller, weaker economies.
In Mexico the legal minimum wage is 74 pesos, or around $4 per day. That’s the equivalent of $0.50 per hour, compared to $1.40 in Brazil, $1.45 in Peru, $2.07 in Ecuador and Chile, $2.38 in Argentina (soon to increase by 33%) and $2.43 in Uruguay. According to the study, the five countries in Latin America with the highest minimum-wage purchasing power are, in ascending order, El Salvador, where a minimum-wage worker has to work 1.51 hours to buy a Big Mac; Chile (1.47 hours); Costa Rica (1.33 hours); Puerto Rico (1.03 horas) and y Argentina (1 hour).
In Mexico, by contrast, a minimum-wage worker has to clock in 5.6 hours to be able to get his or her lips around a Big Mac — over triple the number of hours a Salvadorian must work to receive the same “reward.” In other words, Latin America’s second biggest economy appears to have a significantly lower minimum-wage purchasing power than its tiny neighbor to the south.
The Big Mac index is hardly a perfect measuring stick. It was invented by The Economist in 1986 as a lighthearted guide to whether currencies are at their “correct” level, but since then it has become a global standard, included in several economic textbooks and the subject of at least 20 academic studies. As The Economist itself recently conceded, a better measure of the current fair value of a currency would be the relationship between Big Mac prices and GDP per person, on the basis of which the authors calculated that the Mexican peso was undervalued by 43%.
But that was back in early January when it took 17.44 pesos to buy $1. Today, it takes 18.42, even though the Bank of Mexico raised interest rates by 50 basis points to 3.75% in February. The trend is clearly not the peso’s friend. In the last two years it has shed over 40% of its value against the dollar. In May, it was the world’s second worst performing currency behind the South African Rand.
All of this is made possible by the openness of Mexico’s financial markets. As even the IMF now concedes in its report “Neoliberalism:Oversold?,” if a country opens its economy too widely, too quickly — as the Fund has been advocating for decades — it can expose itself to some very serious risks. As the report points out, while “neoliberals” often tout the magic growth-fueling properties of unrestrained, footloose global capital, in reality the impact of many flows — especially hot, or speculative, debt inflows — seem “neither to boost growth nor allow the country to better share risks with its trading partners.”
More to the point, the potential threat they pose in terms of increased economic volatility and crisis frequency is huge:
Increased capital account openness consistently figures as a risk factor in [boom-bust] cycles. In addition to raising the odds of a crash, financial openness has distributional effects, appreciably raising inequality… Moreover, the effects of openness on inequality are much higher when a crash ensues.
This is precisely what happened to Mexico the last time it suffered a major crash, in 1994, when a sudden reversal of hot capital flows triggered the Tequila Crisis. Over just a few months, the free-floating peso lost almost 50% of its value against the dollar, wiping out the savings of much of the country’s middle class and raising fears that collapsing asset values would push Mexican banks over the edge.
The Crisis threatened to engulf not only most of Mexico’s banks but also a number of Wall Street titans, including Citi and Goldman Sachs. Thanks to the hurried intervention of the U.S. Treasury Department (led by former Goldman co-Chairman Robert Rubin), the IMF, and the Bank of International Settlements, Wall Street’s finest were saved, Mexico’s banks were bailed out and sold off, and the Mexican people were lumbered with untold billions of dollars of compounding debt they still service to this very day.
Could such a crisis happen again? On the surface, it’s hard to imagine. Despite signs of a slow down, Mexico’s economy is chugging along better than most other emerging economies, and inflation still appears to be under control.
However, below the surface problems are bubbling. Around 2 trillion pesos ($109 billion) of local currency debt is held by foreigners, and a stampede for the exits could sink the peso. Then there’s the huge exposure of Mexican companies to dollar-denominated corporate debt, topped off by the slow-motion meltdown of debt-laden oil giant, Pemex.
To calm nerves, the IMF last week boosted its “flexible credit line” (FCL) with Mexico from $70 billion to $88 billion. Merely meant as a “precautionary measure,” the FCL purportedly has no strings (i.e. no structural adjustment conditionalities) attached — apart from a $200 million price tag — and is reserved for countries that have shown themselves capable of consistently applying “solid economic policies.” In other words, countries that are following the IMF’s every order to a T, something the Mexican government has done with aplomb, often to its own detriment, as the IMF itself now concedes.
In the meantime, with the government continuing to resist calls to increase the statutory minimum wage, the Big Mac is likely to remain a near-luxury item for Mexico’s poorest formal wage earners. That said, considering the obesity epidemic gripping the nation, perhaps that’s not such a bad thing. By Don Quijones, Raging Bull-Shit
No one is immune to the crippling effects of a crumbling currency. Read… Pemex-Peso-Dollar Crisis Takes its Toll in Mexico