The Mexican Peso Crisis: Overview and Analysis of Credibility Factors

January 1, 1996

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

This paper examines credibility and reputational factors in explaining the December 1994 crisis of the Mexican peso. After reviewing events leading to the crisis, a model emphasizing the inflation-competitiveness trade-off is presented to explain the formation of devaluation expectations. Estimation results indicate that investors appear to have seriously underestimated the risk of devaluation, despite early warning signals. The collapse of confidence that followed the December 20 devaluation may have been the result of a shift in the perceived commitment of the authorities to exchange rate stability.

Subject: Competition, Crawling peg, Exchange rates, Financial markets, Foreign exchange, Inflation, Prices, Real exchange rates

Keywords: Competition, Crawling peg, devaluation expectation, devaluation probability, devaluation rate, exchange rate, exchange rate band, Exchange rates, Inflation, inflation-competitiveness tradeoff, interest rate differential, Mexican peso, North America, perceived devaluation risk, peso devaluation, Real exchange rates, WP

Pages:
36
Volume:
1996
DOI:
https://doi.org/10.5089/9781451929096.001
Issue:
006
Series:
Working Paper No. 1996/006
Stock No:
WPIEA0061996
ISBN:
9781451929096
ISSN:
1018-5941

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