| | |  Editorials | Issues | September 2008 
Mexico Bailout Mistakes May Provide Lessons for U.S. Lawmakers
 Thomas Black - Bloomberg
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 |  | The lasting legacy of the Mexican crisis is that credit functions dried up because of this culture of not paying. That's what Washington needs to be the most on the lookout for. |  | | | |
U.S. legislators, under pressure to vote quickly on a $700 billion rescue fund for the U.S. financial system, may want to heed the missteps Mexico made more than a decade ago when its banks collapsed.
Mexico's bailout, which the government said was needed to protect savings and homeowners, ended up costing taxpayers an estimated 20 percent of gross domestic product and slowed growth as credit dried up for consumers and small businesses instead of being re-activated. Many of the mistakes were rooted in a lack of oversight, said Bernardo Gonzalez-Arechiga, who served as a commissioner from 2002 to 2003 on the bailout agency, now known as the Bank Savings Protection Institute.
"There's a basic similarity, as it happened in Mexico, in the sense that the federal government is attempting to have an extremely broad capacity to conduct all types of activities with very weak oversight by Congress," Gonzalez-Arechiga, a former head of Mexico's derivative market, said in an interview.
Mexico is still paying on bonds it used to buy bad debt from banks that faced failure after the currency fell as much as 65 percent in December 1994 and Treasury-bill rates shot up to more than 80 percent. The government wasn't able to ease the credit crunch, and the bailout also altered Mexico's financial system, eventually putting the country's four largest banks and 77 percent of all banks by assets in foreign hands.
U.S. Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben S. Bernanke are asking Congress to approve $700 billion for the government to buy bad loans, improving banks' balance sheets so they can continue loaning to consumers and businesses. The plan calls for eventually selling the assets to recover part or all of the money used in the rescue.
'Grave Threats'
Bernanke warned on Sept. 24 that the U.S. financial system faces "grave threats" if a rescue package isn't approved.
The Treasury and Federal Reserve should seek an outside opinion on the breadth of the crisis to avoid having to come back to Congress for more funding, Gonzalez-Arechiga said. Mexico failed to grasp the magnitude of its financial crisis and was forced to introduce four debtor-relief programs that ended up treating different individuals unevenly, he said.
"Very often the politicians and government officials have an incentive to underestimate the extent of the problem," he said.
According to a Mexican congressional auditor's report, the bank bailout cost the government 1.25 trillion pesos ($99.7 billion) or 17 percent of the economy from 1995 through 2004. The government only recovered 43.6 billion pesos from the assets backing bad loans, the report said.
Pennies on the Dollar
The government issued Treasury notes to buy the bank loans at book value and then got pennies on the dollar with they resold them, said Rogelio Ramirez de la O, the founder and president of Ecanal, a Mexico City-based economic consulting firm.
Meanwhile, Mexican banks profited on the Treasury bills they received in exchange for bad loans, giving them a steady source of income and less incentive to provide loans to small businesses and consumers. Credit plummeted for more than a decade, delaying a recovery in wages and employment. The banks' outstanding loans dropped by more than half to 1.08 trillion pesos at the end of 2004 from 2.22 trillion pesos a decade earlier.
"It was a great trade for the banks. For a while, the biggest asset in their balance sheets was government paper," said Alonso Cervera, a senior economist with Credit Suisse in New York, who has covered Mexico since 1995. "They made a lot of money on these instruments."
Don't-Pay Culture
The U.S. also needs to safeguard against consumers and businesses adopting an attitude that they don't need to meet their obligations because of the rescue, said Christopher Palmer, chief of global emerging markets for Gartmore Investment Management in London. Many Mexicans stopped paying on home, car and other loans after the government announced it was bailing out the banks, creating a phenomenon that Mexican bankers at the time labeled the "culture of not paying."
"The lasting legacy of the Mexican crisis is that credit functions dried up because of this culture of not paying," Palmer said. "That's what Washington needs to be the most on the lookout for."
The lack of capital in the Mexican financial system finally was resolved when foreign banks, such as Citigroup Inc., Banco Bilbao Vizcaya Argentaria SA, Banco Santander SA and HSBC Holdings PLC bought the country's four largest banks.
"The main lesson is not to follow the Mexican example," said Ramirez de la O, who advised former presidential candidate Andres Manuel Lopez Obrador during the 2006 election campaign. "The Mexican rescue was much more wild and disorderly. It lent a lot to corruption because it was open-ended."
Although Mexico's tab exceeded original forecasts, the country did end up with tougher regulations that put the banks on more solid footing, Cervera said.
"The banks are now in very good shape," Cervera said.
To contact the reporter on this story: Thomas Black in Monterrey, Mexico, at tblack(at)bloomberg.net. |
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