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A Tale of Two Crises: Chile and Mexico

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  • Sebastian Edwards

Abstract

The Mexican peso crisis of December 1994 sent shock waves through the world's financial and policy communities. What is to some extent surprising is not that the Mexican economy faced a major currency crisis, but that so many analysts and observers were shocked by this turn of events. Mexico had a remarkable historical precedent: merely a dozen years earlier Chile suffered a prophetically similar crisis. Like Mexico during the 1980s, Chile during the 1970s undertook major structural reforms characterized by a drastic opening of the economy, a sweeping privatization program and a major deregu- lation effort aimed at creating a modern financial sector. In Chile, as in Mexico more than a decade later, the use of a predetermined exchange rate to eliminate inflation, combined with very large capital inflows that were intermediated by a weak banking system, generated a situation of exchange- rate overvaluation, a vulnerable financial sector and eventually the collapse of the currency. This paper provides a comparative analysis of some macroeconomic aspects of the Chilean and Mexican crises and discusses the extent to which exchange-rate-based stabilization programs are successful in reducing or even eliminating inflationary inertia? The paper provides a brief overview of the Chilean and Mexican reform and stabilization programs started in 1975 and 1985. I develop a theoretical model on the effects of exchange- rate-based stabilization programs on inflationary inertia. The model emphasizes the roles of government preferences and credibility. I use detailed data on Chile and Mexico to assess whether these programs affected the time series properties of inflation; more specifically, I investigate whether they reduced inflationary inertia.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5794.

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Date of creation: Oct 1996
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Publication status: Published as "Exchange-Rate Anchors, Credibility, and Inertia: A Tale of Two Crises, Chile and Mexico", American Economic Review, Vol. 82, no. 2(May 1996): 176-180.
Handle: RePEc:nbr:nberwo:5794

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  1. Guillermo A. Calvo, 1995. "Varieties of Capital-Market Crises," IDB Publications 5721, Inter-American Development Bank.
  2. Dornbusch, Rudiger & Fischer, Stanley, 1993. "Moderate Inflation," World Bank Economic Review, World Bank Group, vol. 7(1), pages 1-44, January.
  3. Guillermo A. Calvo & Enrique G. Mendoza, 1996. "Mexico's balance-of-payments crisis: a chronicle of death foretold," International Finance Discussion Papers 545, Board of Governors of the Federal Reserve System (U.S.).
  4. Rudiger Dornbusch & Alejandro Werner, 1994. "Mexico: Stabilization, Reform, and No Growth," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 25(1), pages 253-316.
  5. Stanley Fischer, 1986. "Contracts, Credibility, and Disinflation," NBER Working Papers 1339, National Bureau of Economic Research, Inc.
  6. Bruno, M., 1991. "High Inflation and the Nominal Anchors of an Open Economy," Princeton Studies in International Economics 183, International Economics Section, Departement of Economics Princeton University,.
  7. Cochrane, John H, 1988. "How Big Is the Random Walk in GNP?," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 893-920, October.
  8. Rudger Dornbusch & Ilan Goldfajn & Rodrigo O. Valdés, 1995. "Currency Crises and Collapses," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 26(2), pages 219-294.
  9. Jeffrey A. Frankel, 1993. "On Exchange Rates," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262061546, December.
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Cited by:
  1. Esteban Jadresic, 2002. "The Macroeconomic COnsequences of Wage Indexation Revisited," Central Banking, Analysis, and Economic Policies Book Series, in: Fernando Lefort & Klaus Schmidt-Hebbel & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Serie (ed.), Indexation, Inflation and Monetary Policy, edition 1, volume 2, chapter 8, pages 207-258 Central Bank of Chile.
  2. Raphael Bergoeing & Patrick J. Kehoe & Timothy J. Kehoe & Raimundo Soto, 2002. "A Decade Lost and Found: Mexico and Chile in the 1980s," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(1), pages 166-205, January.
  3. Theo S. Eicher & Stephen J. Turnovsky & Uwe Walz, 2000. "Optimal Policy for Financial Market Liberalizations: Decentralization and Capital Flow Reversals," German Economic Review, Verein für Socialpolitik, vol. 1(1), pages 19-42, 02.
  4. Anne O. Krueger, 1997. "Nominal Anchor Exchange Rate Policies as a Domestic Distortion," NBER Working Papers 5968, National Bureau of Economic Research, Inc.
  5. Barbara Stallings, 2004. "Financial Liberalization, Crisis, and Rescue: Lessons for China from Latin America and East Asia?," IDB Publications 48078, Inter-American Development Bank.
  6. Johannes Jäger, 1999. "Pionier der Globalisierung: Chile," SRE-Disc sre-disc-67, Institute for the Environment and Regional Development, Department of Socioeconomics, Vienna University of Economics and Business.
  7. Melike Altinkemer, 2005. "Recent Experiences with Capital Controls : Is There A Lesson for Turkey?," Central Bank Review, Research and Monetary Policy Department, Central Bank of the Republic of Turkey, vol. 5(2), pages 1-38.
  8. Vittorio Corbo, 1998. "Reaching One-Digit Inflation: The Chilean Experience," Journal of Applied Economics, Universidad del CEMA, vol. 0, pages 123-163, November.
  9. Oscar Landerretche & Fernando Lefort & Rodrigo O. Valdés, 2002. "Causes and Consequences of Indexation: A Review of the Literature," Central Banking, Analysis, and Economic Policies Book Series, in: Fernando Lefort & Klaus Schmidt-Hebbel & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Serie (ed.), Indexation, Inflation and Monetary Policy, edition 1, volume 2, chapter 2, pages 019-064 Central Bank of Chile.
  10. Joanna Siwinska-Gorzelak, 2000. "Currency Crises and Fiscal Imbalances. The Transition Countries Perspective," CASE Network Studies and Analyses 0219, CASE-Center for Social and Economic Research.
  11. Esteban Jadresic, 1998. "The Macroeconomic Consequences of Wage Indexation Revisited," IMF Working Papers 98/15, International Monetary Fund.

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