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July 1995
Volume 13, Number 7

How Nafta Caused the Mexican Bailout
James Sheehan

In the Clinton administration's spin control on the Mexican meltdown, Nafta had nothing to do with it. Without the treaty, matters would have been worse, the White House says, and now Nafta will help Mexico recover.

The Republican leadership, which shepherded Nafta to ratification, has no interest in countering this argument. They fear being indicted as co-conspirators in the back-door bailout--which they allowed to proceed without even a Congressional vote.

But an anonymous administration official finally spilled the beans to the Washington Post. It was Speaker Newt Gingrich's own Congressional office that first proposed emptying the Treasury's Exchange Stabilization Fund into Mexican banks. Others involved included Republican Senators Trent Lott and Robert Bennett, and Banking Committee Chairman Jim Leach.

The same crew is trying to obscure the direct link between Nafta and the bailout. But the record shows that Nafta included a provision for the North American Financial Group, a mechanism to "stabilize" exchange rates between signatory countries.

Formed as a side agreement to Nafta in early 1994, the NAFG supported the peso's exchange rate with a $6 billion line of credit. That kept the peso massively overvalued and enabled the Mexican central bank to rapidly inflate the money supply. The purpose? To insure that Mexico's ruling party would be victorious in the August 1994 presidential election, thereby maintaining its corrupt system of corporate statism.

The White House sent Congress several supporting documents with the Nafta implementing bill in 1993, which indicate it knew the history of Mexico's devaluations. In the "Statement Concerning Exchange Rates," the Clinton administration recounted Mexico's disastrous debt crisis of the 1980s. It promised to keep matters under control the next time. "The reform process," the document swore, "includes stabilization of monetary and fiscal policies and undertaking of major structural reforms."

This was a phony characterization, an attempt by the White House to downplay risk to encourage U.S. investors to place billions of dollars into Mexican stock and bond markets. The Federal Reserve had also stimulated this trend by pumping up the U.S. money supply while keeping interest rates low--driving U.S. investors into the riskier Mexican market in search of better returns.

After Nafta was safely ratified, the Fed gradually raised interest rates, drawing capital back to the U.S. in a flight to quality. Without abundant foreign investment capital, the Mexican central bank was unable to service its foreign debt or finance its ballooning trade deficit.

Having depleted its dollar reserves, Mexico was forced to do what it should have done earlier: "un-peg" the peso from the dollar. When the market was allowed to function, the peso's value tumbled 50% from the level long dictated by Mexico City.

Wall Street's large institutions had reaped enormous profits from the false stimulation to their investments. And it was these houses that helped bankroll the pro-Nafta lobby in Washington. Eager to preserve its "profits," Wall Street and the New York banking industry shamefully socialized their deep losses through a taxpayer bailout.

Nafta made the bailout inevitable. There was too much at stake--economically, politically, and financially--after the treaty's passage. Clinton implied as much when he said, "In the end there is no choice..., the two economies are intertwined in trade, in commerce, in the movement of people."

But of course there was a choice whether these relations would be politicized and socialized, or remain purely economic, as they would have had Nafta failed. Nafta's politico-commercial nexus is best symbolized by Treasury Secretary Robert Rubin, once the co-chairman of the largest underwriter of Mexican financial deals, Goldman Sachs. He is also the government official controlling the taxpayer funds being used to pay off his former and future clients and colleagues.

Economic relations with Mexico were once determined by informal relations among real capitalists. Tariffs were low and going lower. Nafta interrupted this process, with its faulty premise that voluntary exchange is not possible without government control of trade, environment, labor, and monetary policies.

Thanks to Nafta, economic relations between the U.S. and Mexico are now governed by a central plan, which inevitably means political mismanagement. And, like every central plan, it is backed by the socialization of losses and accompanied by a refusal to admit failure.

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James Sheehan does policy work at the Competitive Enterprise Institute

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