Mexico, 1994; Spain, 2012: Find The Similarities in the Pictures
This article was originally published in El Confidencial in English.
While the Spanish government feverishly attempts to wrap up the country’s euphemistic financial system reform, the ever-expanding black holes, multiple balance-sheets restructuring with infinite amounts of public funds and reiterated calls for the need to further consolidate financial institutions seem to be setting up the stage for a self-fulfilling prophecy of Mayan proportions.
Hopefully, this time around, we can learn from the not-so-ancient Mesoamericans’ hard-learnt lessons of the dangers implied in the state breaking the rules of free market capitalism when bailing out institutions and interest groups at the taxpayers’ expense. If we don’t, at least the endgame should not take anyone by surprise.
A financial debacle revisited
Mexico’s 1994-1995 crisis was seeded in the country´s financial sector reform, which began under President Carlos Salinas de Gortari in 1989; a process which involved the banks’ privatization, as well as deregulation to modernize the country’s financial markets. This was a U.S.-sanctioned process that helped to pave the road to the North American Free Trade Agreement (NAFTA).
A legion of foreign expert consultants and financial institutions were hired to assist in the process of equity valuation, drafting of prospectuses, and effectively selling the banks. The problem was not rooted in the concepts of privatization and free markets, of course, but rather in the perverse strategy the government connived to pick winners from the start.
There were two fundamental criteria applied to the privatization process of Mexican banks. First, foreign buyers were excluded from such a process. Since the mere suggestion of “privatizing strategic national interests” in a country like Mexico was (and still remains) equivalent to invoking the devil, the notion of keeping the nation’s financial decisions at home played well among the most patriotic politicians. Considering how things played out in the end, keeping foreigners out proved to be a populist yet ultimately futile dose of nationalism.
Mexicans were right to be concerned, however, about the potential dangers of relinquishing control of their banking system to foreign capitals, especially during times of crisis. In fact, if Mexicans raised an eyebrow when the BBVA [the Spanish bank, BBVA-Bancomer] repatriated a sizeable amount of capital a couple of years ago, they would be right to be even more nervous now that Madrid struggles with its own financial disaster.
The second criterion in the banks’ privatization was not formal, however, but a presidential decision: to prevent former bank owners from participating in the bids. The logic for leaving the old bankers out was that they would be hard to control and that they would know better to not accept the government’s valuation of the banks.
There was one exception (there always is): Agustín Legorreta, a former banker whose brother had been in charge of Salinas’ campaign fundraising. Legorreta would end up owning Comermex bank. And so, it all started with banks being sold at an average three-times their book value. However, who would accept this? The answer is plain: buyers who would not have to risk their own money.
The scheme led to a rather creative domestic consolidation of the Mexican banking sector in favor of hand-picked industrial groups, which played out like this: bank “A” would lend money to group “X” to buy Bank “B”, which in turn would lend money to group “X” to repay bank “A.” Indeed, just as circular as the Mayan Calendar.
Similar to what later happened in Russia, upon the fall of the Soviet Union, Mexico transferred a large segment of its economy (at least 25% of the country’s GDP) to a group of select local businessmen who, altogether, did not summon the necessary financial resources to afford the entities they came to control.
Banks were not sold to solvent investors and experienced financiers, but to entrepreneurs close to the political establishment who became investors after the acquisition took place. Therefore, business groups were carefully selected to take over the country’s major financial institutions, such as Roberto Hernández (the owner of a brokerage firm), Grupo Monterrey and Grupo Vitro. All in all, President Salinas carried out the banks’ privatization – a sector of the economy which had been nationalized only 8 years prior – in just 18 months.
The next phase was the inflation of the financial bubble: the newly-acquired banks went on to take enormous loans from Mexico´s central bank, as well as to float paper in the U.S. under the prestigious brand-new “we are a NAFTA player” umbrella.
After all, and much like it would later happen in southern European countries, Mexico’s stronger partnership with the world’s most powerful economy and the peso’s stability, albeit artificial, not only raised expectations on the country’s economic performance, but it also granted a greater sense of security among foreign investors. Americans then flocked to invest in the profitable and stable modern economy south of the border.
Allocating money was the plan until the crisis began to surface and the only way to keep those allocations afloat due to inflation and high interest rates was through refinancing – capitalization of interests over and over and over. At first, however, and as the newly-privatized banks’ governing bodies operated according to the inherited political structures, cash flowed with gusto from one bank to another. This led to the heating up of the Mexican economy – later touted the “Mexican Miracle.”
The personnel running the banks still regarded government officials as their bosses, which eased the indiscriminate financing of all sorts of politically-blessed yet unviable projects including the building of housing developments, insolvent buyers signing bad mortgages, property prices soaring, and Mexicans spending beyond their means. In addition, Salinas’ “neo-liberal” government engaged in its own stimulus frenzy: infrastructure galore and heavy social spending such as the huge Solidaridad (“Solidarity”) program.
Later, in the midst of the crisis, the following imaginary dialogue between a bank’s asset recovery manager and his CEO would become a popular joke in Mexico City’s financial circles: Sir, I have two pieces of news to tell you, one good and one bad: the bad is that today we repossessed 5,000 cars. The good is that we have also foreclosed 5,000 homes so we have plenty of garage space to park the cars.
By the end of 1993 it was difficult not to see that the economy was overheated and that the bubble was about to explode. In addition, the first quarter of 1994 saw matters complicate even more with the Zapatista uprising in Chiapas and the assassination of presidential hopeful Luis Donaldo Colosio. Money was flowing out of the country.
The bust (find the similarities in the pictures)
A substantial devaluation was in order by 1994. However, the government was not willing to allow for such corrective action to take place during an election year. The central bank allowed for a small currency depreciation to maintain the peso’s stability and the government, to finance its 7% deficit, went on to generate more debt in the form of bonds issued in pesos at high interest rates, but indexed in U.S. dollars (Tesobonos).
Salinas planted the bomb, armed it, and ran out at the last minute. Ernesto Zedillo, Salinas’s handpicked successor, arrived at the scene, panicked at the timer reaching zero (dollar reserves were empty), and saw no other option than to set off the bomb by letting the peso float – an event that Salinas, in his defense, would later refer to as the “December Mistake”.
In retrospect, some argue that Zedillo should have first negotiated a U.S.-backed rescue loan to guarantee liquidity and then initiate a slow process of devaluation. Rather, Zedillo acted as if he had a no choice as to which wire to cut to disable the device. In essence, the peso went into a freefall and interest rates skyrocketed. Banks went into technical default, along with 1,000bps spreads.
In a matter of weeks, Mexico went cash-dry and U.S. President Bill Clinton was forced to intervene to “save the Mexican economy” with an overnight 20 billion dollar loan, which Mexico would later pay back with interest. Clinton was, of course, making sure Mexico paid its debt to American investors, banks and pension funds.
The crisis would have a profound effect in the nation’s politics. It was the first time that a president would blame his predecessor directly for the country’s woes. The 75-year rule of the PRI over Mexico began its demise when Zedillo actually jailed Salinas’ brother. The corruption scandals involving politicians and their families that began to become public (also a first in the country’s history) were as many as surreal.
The bailout (keep on finding the similarities)
Launched in 1990, the Fondo Bancario de Protección al Ahorro (FOBAPROA or “Banking Fund for the Protection of Savings”), operated as Mexico’s contingency mechanism to insure savings and assist banks in trouble. In 1995, this publicly-funded mechanism became the piggy bank that would selectively rescue the country’s failed banks.
Essentially, the government picked the winners and losers of the country’s financial disaster, converting FOBAPROA into a sort of tribunal: losers who were later prosecuted (a few small banks with close ties to the Salinas family) and losers who were not prosecuted (all reminding small banks which were later absorbed by the bigger banks).
The winners, of course, were the big banks, whose balance sheets FOBAPROA diligently restructured at a cost of 40% of the nation’s GDP at the time. Not only that, but FOBAPROA also allowed those close to the big banks’ owners to acquire, at discount prices, the toxic yet most attractive projects and properties that were cleansed from the banks’ balance sheets and transferred to a separate entity (the Instituto de Protección al Ahorro Bancario, or IPAB).
The failed loans portfolios were then sold, at 7% of their nominal value, to select “intermediaries” (another group of winners, though not always indistinguishable from the banks’ owners), who would in turn negotiate with debtors at 70% of the amount owed.
There was, of course, public outcry and social movements sprung up (much like today’s Spanish “Indignants”) in an effort to organize debtors and stop foreclosures. These movements sought to denounce the evident corruption in the entire financial ordeal, and to force banks to renegotiate bad loans on a case-by-case basis instead of passing them onto the “intermediaries.”
The most visible of these social movements was called “El Barzón” (a name borrowed from a Mexican revolutionary song about economic oppression) and their motto was: Debo, no niego, pago lo justo (“I owe, I won’t deny it, but I’ll pay what is fair”).
The Barzón road blocks and protests outside banks ended up with some of their members in jail, but managed to accomplish little in advancing the movement’s goals; until the Barzón finally discovered the existence of attorneys, that is, and realized that the best way to hit banks back was by suing. Tens of thousands of lawsuits collapsed the courts since it was easier to put public pressure on judges rather than on remote bankers – and the ethereal FOBAPROA. Then the Barzón met with success.
In the end, the larger banks survived (Bancomer, Banamex, Serfín, Comermex, Banorte), and they all, with the exception of Banorte, ended up in foreign hands. Indeed, the “bankers” who had caused the biggest financial turmoil in the nation’s history made even a bigger fortune from the bailout by selling the banks to foreigners: Banamex went to Citicorp, Bancomer to BBVA, Serfín to Santander, Comermex to HSBC.
Zedillo was forced to impose severe austerity measures to cut the deficit and make up for the tremendous debt the country had acquired. Such austerity measures included sharp tax increases, higher interest rates, large budget cuts, and hikes in electric energy and gas prices. All of which drove Mexico directly into a recession.
Salinas has written a few books since he left office and Zedillo sometimes appears at conferences. Mexican taxpayers are still paying the bill, and so will their children.
Back to the future (there are no similarities, the pictures are the same)
While economists, analysts, gurus and prophets of all sorts eagerly discuss and debate the current Spanish banking crisis amongst them, things are neither so different from other crises in the past, nor so complex.
Certainly, the dynamics have changed over time, and financial markets have become more sophisticated and more interconnected. On the social front, and unlike today’s “Indignants,” the Barzón movement did not have Twitter to advance its cause.
Also, the political leadership profile is different: the conniving Salinas was an astute economist with a Ph.D. from Harvard. In today’s Spain, there is the prosaic Prime Minister Mariano Rajoy, a former bureaucrat, who succeeded the equally prosaic José Luis Rodríguez Zapatero, a politician with no work experience besides a short period as assistant professor of Law.
Regardless, both crises share striking similarities and no prophet is required to envision the tremendous cost Spain’s financial reform will have, who will foot the bill, and under what conditions and in what hands the non-performing assets and loan portfolios will end.
Ultimately, it is our allowing impunity to reign that turns our woes into self-fulfilling prophecies. It is not only that we are governed by mediocre and unscrupulous politicians who freely commit the same mistakes over and over in their quest for personal gain, but that we, the equally mediocre public, allow for the insanity to go on.
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Esta obra se publica bajo la licencia de Creative Commons Attribution-NonCommercial-NoDerivs 3.0 Unported.