by Nomi Prins
Some fund managers thought a US rate hike could trigger big flows out of Mexico. “The actions of the Fed are not going to be the only thing that determines monetary policy going forward for the Bank of Mexico,” Carstens assured reporters. Late in the game, he became determined to flex his independence. “The Bank of Mexico, at some point, has to send a signal that it is worried about the value of its currency,” he said, “because this also affects the will of people to hold assets in the national currency.”194
Carstens stood resolute. Peso-denominated bonds had fallen 8.4 percent in value in US dollars terms since the start of the year, significantly more than in the rest of the region.195 Banco de México revised its annual growth target to between 1.7 and 2.5 percent, from 2 to 3 percent, citing weaker-than-expected exports despite an anemic peso and a slump in domestic oil output.
As in the past, emerging countries still coveted foreign capital to survive economic turmoil without relying on internal commerce. This was a double-edged sword. After slumping during the first quarter of 2015, the Mexican economy picked up in the second quarter. The services sector offset lackluster industrial output hit by shaky exports and lower oil prices.196 But still, commodity price drops, a China growth slowdown, and fears of a rate increase plagued markets that summer.
Carstens reacted as Ortiz had in 2009, performing some artisanal money magic of his own. On July 30, 2015, he announced a currency injection of Mex$8.6 billion over the next two months. “If the peso needs the reinforcement of higher rates, we will raise them independently of what the Fed is going to do,” he announced again. “We could raise rates in August, we don’t have certainty that it will happen in August. It could be at any moment.” The peso extended interim gains following his comments.197
The amount of corporate and bank debt issued since the Fed embarked on its zero interest rate and QE policy ballooned. The total size of the emerging market nonfinancial corporate bond market had doubled to $2.4 trillion in 2014 versus its size in 2009.198 Plus, the volume of nonperforming loans and general debt payment burdens had also risen on US dollar strength.
That meant emerging market banks, particularly those exposed to high degrees of foreign currency lending, were in trouble. By August 2015, Mexican public companies started showing greater amounts of debt due to peso depreciation. There was a 22 percent debt value increase for the top fifty companies trading on the BMV (Mexican Stock Exchange).199
In contrast to the Latin American debt crises of the 1980s and 1990s, loans and bonds were now not just extended by private US banks but also subsidized by the Fed. Systemic risk had been elevated by the money conjurers. Yet, midlevel Mexican companies had trouble gaining access to credit.200 On August 24, 2015, the Dow dropped 1,000 points in early trading, an historic first. It shed 588 points that day—the worst one-day loss since August 2011.201 Shocks on Wall Street meant aftershocks in Mexico.
THE FED RAISES RATES: MEXICO BLINKS
On December 16, 2015, the wait was over. It was the first time in nine years of nearly zero percent interest rates that the Fed raised fed funds rates—by a quarter of a point, from zero to 0.25–0.5 percent. No FOMC member disagreed. The next day, Banco de México followed suit. It increased its interbank rate by a quarter point to 3.25 percent. Carstens had kept his word.
There was no pretense of independence. Banco de México admitted its first rate hike since August 2008 was “mainly in response” to the Fed’s decision.202 The rate had averaged 5.38 percent from 2005 until 2016, reaching an all-time high of 9.25 percent in October of 2005 and a low of 3 percent in June of 2013.203
In an interview with Reuters afterward, Carstens explained the move, in lieu of his previously stated intention that the Fed’s actions would not determine those of his central bank. “We are facing opposing forces,” Carstens said. On one side, inflation expectations were well anchored, but the peso’s deep losses could still “ultimately have some impact on prices, especially for tradable goods.”204
Domestic necessity had reared its head for Banco de México. “This year has been the worst ever for emerging markets in terms of capital inflows,” Carstens declared at the December 2015 World Affairs Council of Atlanta at the Atlanta Fed’s headquarters. “Low interest rates in advanced countries like the United States for a while sent capital flowing into emerging markets in search of higher returns. Now, the flow of money has slowed thanks to a stronger US economy and slowing emerging economies,” Carstens said. “Some investors move lots of capital quickly from one nation to another, and this volatility can push down the value of local currencies.”205
The Fed’s pre-Christmas rate hike riled markets worldwide. There was a palpable fear that the cheap-money party could be over. The trickier problem was that such anxiety could trigger a credit squeeze that could hurt emerging market countries. Cheap money that had been pumped into those countries could exit faster, leaving chaos behind. It was a damned if you do, damned if you don’t scenario for the Fed—with major global implications.
Emerging market central bankers were in a fight against the cheap-money clock. Speculators were squeezing the last drop out of high returns while conjured-money policy lasted. They were worried. In a speech in Paris on January 12, 2016, at the Farewell Symposium for BIS chairman and Banque de France head Christian Noyer, IMF head Christine Lagarde cautioned, “Emerging and developing economies are now receiving up to $1.5 trillion of capital inflows per year. And it has become more difficult to prevent liquidity shocks from doing serious harm to an economy.”206
At the same symposium, Carstens expressed his concerns: “Given the way that international capital flows have been intermediated and the presence of relatively thinner financial markets in emerging market economies, the unwinding of monetary policies in advanced economies could trigger portfolio adjustments that might be quite destabilizing.”207
Carsten’s words, like those of Ortiz eight years earlier, were prophetic. The peso dove despite Banco de México’s action. On January 22, 2016, a CNN headline blared “1 Mexican peso is now worth 5 cents.” Luis Videgaray, Mexico’s finance minister, called the peso “clearly undervalued” as it fell to 19 pesos per dollar. “It is in the line of fire of market volatility since it is the most widely traded emerging market currency.”208
Panic mounted because of one tiny rate hike. International speculators weighed their thoughts on which Latin American currency would do better in the environment. Yet by February 5, 2016, net inflows increased to their highest level in three months. Even in the midst of a weakening peso, international investors flocked to Mexican government bonds.
Carstens waxed optimistic, “Mexico’s economy should grow slightly more than 2.5 percent in 2016.”209 Mexico’s citizens did not share his enthusiasm. Mexico’s minimum wage remained one of the lowest in the region.210 Its working poor percentage had risen from 32.9 in the third quarter of 2008 to 41.4 by the first quarter of 2015. By January 2016, crude oil prices had fallen to their lowest level since 2003. Remittances from Mexicans abroad overtook oil revenues for the first time since tracking began in 1995.211 The central banker reaction and the actual conditions for el pueblo told two very different stories. Reality, as it often does, met the illusion of persistence in Mexico.
Even though the Fed didn’t raise rates in February 2016, Carstens executed a quintessential anti–currency war move. He raised rates again on February 17—by 50 basis points. No one saw the move coming. The peso, which had declined steadily from 10 to 19 to the dollar between 2008 and mid-February 2016 (and by 18 percent during 2015), strengthened to 17.92 to the dollar as of March 8, 2016.
As Carstens explained on March 11, 2016, “Our monetary policy will above all be led by… the exchange rate, the monetary policy relative to the United States and the inflationary pressures that could occur due to the economic cycle in Mexico.”212
Mexico had invoked independent monetary policy successfully. The move boosted the peso and helped retain foreign capital in Mexican banks.
This direct action also kept Mexico from having to sell US Treasuries to bolster its reserves, which helped the Fed keep rates low.
MEXICO–UNITED STATES TRADE
Mexico buys more US products than any other nation except Canada; nearly five million US jobs depended on trade with Mexico.213 A lower peso would throw a wrench in trade on all sides and impact jobs.
It remained important that the United States and Mexico stick together. It was in the United States’ strategic interest to keep China from engaging too much with Mexico. The Mexican relationship with China was meager compared to its ties with the United States, or even the relations shared between Brazil and China. This allowed potential and significant room for expansion.
By February 2016, Banco de México had already auctioned $3.5 billion for 2016,214 on top of the $24.5 billion in 2015 it auctioned to defend the peso.215 On April 16, 2016, Carstens was in a bind. He announced, “We will not be shy about using our interest rates.”216 He was done waiting on the Fed and thought raising rates would be a cheaper way to protect the peso regardless of what the Fed did.
Still, the markets were surprised by another Banco de México 50-basis-point rate hike on June 30, 2016. The decision occurred a week after the United Kingdom vote to leave the European Union, or Brexit. It lay in opposition to the Fed keeping its rate unchanged. The peso was one of the currencies most damaged by the Brexit vote, hitting a low of 19.52 pesos per dollar.
At the Kansas Fed’s annual gathering in Jackson Hole, Wyoming, in late August 2016, Carstens disturbed the power status of the core central bankers assembled there. “We are sort of reaching the limits. In many countries monetary policy activism has run its course.”217
Carstens had laid down the gauntlet. The world was on a path to irrevocable change that resulted from a financial crisis met by collusion in a conjured-money policy. That shift would not end until a new financial order, trade and diplomatic alliances, and monetary system were erected.
Academics and former government officials took notice of the internal identity battles being fought over monetary independence versus global allegiance. Dr. Alejandro Poiré, a man with an impressive résumé in public service, had graduated from ITAM (Mexico Autonomous Institute of Technology), a select university where other notable elites had studied, including Agustín Carstens.218 Having earned his PhD in political science from Harvard University, his political career traversed President Calderón’s administration during the crisis. He became dean of the School of Government and Public Policy of the prestigious Tecnológico de Monterrey in Mexico City.219
Regarding the relationship between the United States and Mexico after the financial crisis, Dr. Poiré noted, “It’s not an ordinary case of a small country depending on cash inflows from sales of basic goods or oil exports from a large country. It’s substantially different because many things produced in the United States have Mexican input and vice versa.”
This situation rendered monetary and fiscal policy independence less clear-cut than it had been historically. “Independence as a principle on which to make decisions is probably risky in and of itself,” Poiré explained. “But we aren’t just going to toe the line of Wall Street or the Fed or Washington.” Instead, he continued, “the kind of independent monetary authority we want to have is one of a highly open international economy that can react forcedly to changes in an external situation.”
THE WRITING ON THE WALL
During the 2016 US presidential election, Republican candidate Donald J. Trump campaigned on the promise to construct a “great wall” along the United States and Mexican border—and to make Mexico pay for it. His stance on the issue helped catapult him into the White House. By casting illegal Mexican immigrants as “murderers and rapists” and blaming Mexico (and China) for stealing US jobs, Trump galvanized economically anxious voters who were disgusted with the political establishment.
Mexican president Peña Nieto lost public support because he was not more forceful against Trump, instead inviting him to Mexico. Mexican leaders, skilled in diplomacy and the complexity of national relationships, would not soon forget this gesture.
Trump’s November victory crushed the peso and dampened Mexico’s growth forecasts. In December 2016, Banco de México reestimated 2017 GDP growth at 1.6 percent—half the 3.18 percent estimated at the beginning of 2016.220
Upon returning from the Asia-Pacific Economic Cooperation (APEC) summit in Lima, Peru, in November 2016, two weeks after Trump was elected US president, Mexico’s economy minister Ildefonso Guajardo had made it clear: if the United States turned its back on free trade, he would open the door to China. “If one power exits a space, you can bet another will step in,” he told a group of reporters in Mexico City.
Guajardo said Mexico would weigh the benefits of the China-backed Regional Comprehensive Economic Partnership (RCEP), a trade pact that excludes the United States, in order for Mexico to “have a means of integrating itself with the Asia-Pacific (region).”221 Chinese president Xi Jinping had also attended that APEC meeting, where he proclaimed “here we are” on free trade. He vowed to keep opening China’s economy to other countries.
Carstens foresaw a different kind of shadow casting itself over Mexico from the north. It was not just the possible leadership shift in the United States but also what that said about the population’s perspective on Mexico. He was not shy about voicing his fears. The US president-elect was a danger of such magnitude that he could become a “horror film for Mexico,” Carstens told a group of executives in Guadalajara, Mexico, just before Christmas. “Right now we have seen the short films,” he continued, according to Spanish newspaper El País, “but beginning on January 20 the film is going to run.”222
He had a choice: fight for an elusive independence or move on. Carstens had narrowly missed his opportunity to run the IMF and alter the course of geopolitics and global monetary policy from that post. But his international influence capacity was not gone—merely delayed.
On December 1, Carstens announced he was stepping down from his post effective July 2017 and that he would begin a five-year term as head of the BIS on October 1, 2017. The news shocked Mexico and sent the peso down to 20.8 to the dollar. Carstens’s term was not supposed to end until 2021. He told a news conference, “In no way should my departure be read as a reaction on my part to an economic situation or any misunderstanding with the finance ministry or the federal government.”223 But the suddenness of his decision stoked the rumor mill that the situation wasn’t so simple. His sharp criticisms of Trump made it seem likely he would follow a similar path to Lagarde’s, promoting non–United States alliances the world over.
The BIS’s stated mission, penned in 1931, is “to serve central banks in their pursuit of monetary and financial stability, to foster international cooperation in these areas, and to act as a bank for central banks.” Historically, the BIS not only supported the prevailing monetary system but also the world’s power hierarchy behind it. With Carstens at its helm, the emphasis on a more equitable influence split among developing, developed, and “transitioning”—as, for instance, China characterized itself—nations could gain steam. A shift that was a decade in the making.
As with many pronouncements of the monetary elite, things would not go exactly as scheduled. Because of the difficulty the government faced in replacing Carstens, he agreed to stay on past his original resignation date and to join the BIS on October 1, 2017.
NEW YEAR, SAME TRUMP
On the morning of January 26, 2017, President Trump goaded Mexico by tweeting, “If Mexico is unwilling to pay for the badly needed wall, then it would be better to cancel the upcoming meeting.”224 In response, Peña Nieto tweeted that he would cancel his visit to the United States the following week.225 The result of this Twitter spat constituted a break with custom. In the modern era of the US presidency, the new administration’s first invitation is extended to the leader of a neighboring NAFTA country—Canada or Mexico. In 2009, Mexican president Felip
e Calderón was the first foreign leader to visit incoming President Obama.226
Insulted by the cancelation, Trump tweeted, “Mexico has taken advantage of the US for long enough. Massive trade deficits & little help on the very weak border must change, NOW!”227 This marked the start of an adversarial era between the two neighbors. The period started with the US financial crisis, evoked overreaching Fed policy, and provoked economic fragility that gave way to nationalism and would hurt both countries.
Carstens kept his eye on the ball. A week later, he stated, “To some extent monetary policy has definitely been taken to its limits—I would say so for sure. I would certainly advocate for going back to a regime that is more in line with what we consider to be a ‘normal monetary policy.’” But there were risks even in that cleanup strategy. He warned, “The exit from the ultra-loose monetary policy of the past years has to be very gradual and it must not put at risk the progress which was achieved so far.”228
Mexico did not crumble. Nor did Carstens. The Fed raised rates twice by mid-2017, on March 16 and June 15, by 25 basis points each. On June 22, Banco de México raised rates by 25 points to 7 percent, the highest level in eight years and the seventh hike in as many meetings. Perhaps outpacing Fed rate hikes was Carstens’s way of asserting his independence.229
And Trump waffled on the trade agreement issue. “You know I was really ready and psyched to terminate NAFTA,” he said on April 26, 2017. “I’m not looking to hurt Canada and I’m not looking to hurt Mexico. They’re two countries I really like. So they asked to renegotiate, and I said yes.”230
His son-in-law and chief adviser, Jared Kushner, had been spending time with Mexican leaders and saw the benefit from a US economic and trade perspective of continuing a solid relationship with Mexico, but the administration remained adamant.231 Negotiations for reworking NAFTA were set for December 2017. However, Mexico would take no chances in this rapidly changing global hierarchy, forging new and better relationships with China, Japan, and Europe as by-products of an increasingly isolationist Trump administration and US position.