Master en Economie Internationale, Expertise Économique du Développement

Academic Year 2009-2010

Université de Paris 1- Panthéon Sorbonne

Institut d'Etude du Développement Economique et Social (IEDES)

“México External Debt: Which would be its evolution

through time?”
By Violeta CABRERA

Credits.

This paper has been created thanks to the outstanding contribution of certain persons, whom we
would like to express our gratitude:

- To Professor Dr. Marc RAFFINOT, Deputy Director of Applied Economics Faculty and
Associate Professor in Economics at University Paris IX-Dauphine, as a titular professor of the
subject: “Debt Seminar”, for all his knowledge and material contributions to this work, which
had created the basis to carry out the project and had enrich the technical part of it.

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INDEX

Introduction...................................................................................................................3

Chapter I: Debt History and Development...................................................................4

Chapter II: Database, Growth and Interest

Rates........................................................7

1) Database...............................................................................................................7

2) Growth Rates……....................................................................................................7

3) Interest Rates and

Amortizations............................................................................10

Chapter III: Analyses

Performed…............................................................................10

Chapter IV: Relation between External Debt and GDP….......................................12

Chapter V: Conclusions..............................................................................................14

References....................................................................................................................16

Annex: Excel Sheets Order and

Content....................................................................17

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INTRODUCTION

The aim of the present document is to provide a broad analysis of the external debt of
Mexico. The following report describes step by step the work performed to develop the
analysis, the basis to carry out it, the forecasting method and its interpretation.

Chapter I, points out the external debt history and development through time.

Chapter II, remarks the databases used for the project. It also makes reference to the
estimation method for growth and interest rates.

Chapter II of this document describes the results obtained from the forecasted flows,
taking into account its analysis. It also shows several sensibility analyses related to a
change in different variables and the possibly future affectation of debt due to each one.

Chapter III will relate a comparison analysis between the external debt ratio and the GDP
growth rate of the country through time, the basis to perform it and the result obtained.

Chapter IV is a brief reflection about the experience of working in the project and it
finishes as well with a brief conclusion of the work.

And finally, will be localized the bibliography and annexes area, which is located in an
external excel file (a complete list of the excel sheets and its content is displayed in the
index).

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CHAPTER I: DEBT HISTORY AND DEVELOPMENT

In March 1989, the US announced the `Brady plan' for the reduction of Mexico's external
debt, and it justified its support for this breach of contract on the grounds that it was
essential to the restoration of growth and stability. This proved a spectacular success:
interest rates on local currency debt fell by 20 percentage points within days of the
agreement's conclusion, private investment boomed, and growth took off for the first time
since 1982. The `debt overhang' hypothesis suggests that debt relief exerts its main
impact on future growth through the reduced tax burden, but Mexico's debt relief of $12
billion in net present value terms could have reduced its corporate tax rate by only 1.5
percentage points on a permanent basis at most, which could not account for the 14%
average real growth of private investment observed for two years after the plan's
implementation. The deal not only reduced but also smoothed Mexico's debt service
obligations, so the spectrum of recurring crises associated with particular peaks in
repayments therefore lost much of its threat. The reduced variance of repayments
explains most of the deal's effect, while a proxy for the effect of debt overhang has no
explanatory power. The econometric evidence confirms that debt relief has potentially
beneficial macroeconomic effects, which operate mainly through the reduction of
uncertainty concerning future exchange rate crises.

The probable impact of debt service relief may be much larger than standard growth
models suggest, since the indirect effects of reduced future policy uncertainty on private
investment are likely to be greater than the direct effects of the debt relief itself. Also,
these secondary effects cannot come into play unless other, potentially dominant sources
of future policy uncertainty have been removed first: in particular, Mexico's successful
program of domestic reform in the years preceding the debt package was essential to its
success.

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By the early 1990s, Mexico's debt crisis had largely passed, although the country
remained saddled with huge debts. Capital inflows were more than sufficient to service
the debt through 1993 as portfolio and foreign direct investment reached unprecedented
levels in response to liberalization and the successful negotiation of NAFTA. Despite the
use of funds from privatization to retire old public-sector debt, total external debt
continued to grow during the early 1990s as current account deficits soared after 1992.

After reaching a low of US$112 billion in 1992, Mexico's total external debt rose steadily
thereafter, reaching an estimated US$158 billion in 1995. The large increase during 1995
in Mexico's total public indebtedness resulted in part from loans contracted in the wake of
the new peso collapse of late 1994. In early 1995, the United States government made
US$20 billion available to Mexico from the United States treasury department's
Exchange Stabilization Fund, the Bank for International Settlements contributed US$10
billion, and the IMF offered US$8 billion in standby credit and US$10 billion of other
funding. In 1993 Mexico's total debt service amounted to US$21 billion, including
US$14 billion in principal payments and US$7 billion in interest payments. Mexico's
total external debt amounted to 356 percent of GDP in 1993.

Before the crisis of 1994, most of Mexico’s government debt took the form of short term,
peso-denominated securities, such as the cetes. Foreign investors were major purchasers
of these securities; in December 1993 about 75 percent of foreign holdings of Mexican
government securities took this form. When the exchange rate came under pressure after
Colosio’s assassination, the government began issuing large amounts of a different short-
term security, dollar-denominated tesobonos, favored by investors because of their
guarantee against exchange rate depreciation.

Over the next few months, the government converted a considerable portion of its debts
into tesobonos. By November 1994, cetes had shrunk to only 25 percent of foreign
holdings of Mexican government securities; 70 percent was now in tesobonos. By

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replacing maturing cetes with tesobonos, the government realized an immediate reduction
in the interest cost of its debt because the interest rate on these indexed bonds was usually
6 to 8 percentage points below the rate on cetes. However, switching to tesobonos
introduced a potential cost: if the government eventually chose to devalue, it would not
benefit from a reduction in the real value of its dollar-indexed debt, as it would in the
case of peso debt.

By November, the total value in pesos of foreign holdings of Mexican government

securities was about the same as in February, prior to the Colosio assassination. During
December 1994, foreign investors made net sales of about $370 million of Mexican debt
and equity, far less than the loss of reserves, which exceeded $6 billion. As the Mexican
government’s access to credit markets dried up, market participants worried increasingly
about the large quantity of tesobonos due to mature in 1995. In effect, the tesobonos are
denominated in dollars because if the peso’s exchange rate depreciated, the investor’s
return in terms of dollars would be maintained. If Mexico could not roll over that debt,
how could it meet its obligations? Nearly $10 billion worth of tesobonos was slated to
mature in the first quarter of 1995, and another $19 billion was due before the end of the
year. Yet Mexican reserves were down to about $6 billion. Mexico’s situation was
somewhat analogous to a bank facing a run by depositors without having sufficient liquid
funds to meet their withdrawals.

In despite that 42,604 million of dollars have been paid between 1989 and 1993, only for
interest, President Ernesto Zedillo advised that the external debt reached 164,483 million
of dollars, so country's financial insolvency was declared. Finally, this insolvency
situation was resolved with a fast-track loan, granted by United States through the
intervention of President Clinton in 1995.

CHAPTER II: DATABASE, GROWTH AND INTEREST RATES.

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The main tool to perform the analysis was the country’s balance of payments, due to all
the transactions performed in foreign currency are contained in it.

1) DATABASE:

The entire balance of payments: current account, capital and financial account; the
international reserves balance, external debt balance and its classification, GDP historical
data and USD/MX exchange rate historical data were some of the databases required to
carry out the analysis.

 In the “ANALYSIS (BASE)” sheet you will find the complete regular analysis of
the balance of payments as well as the forecasted growth and interest rates.
 The sheets: “CURRENT ACCOUNT (DATA)”, “CAPITAL ACCOUNT
(DATA)”, contains the balance of payments historical flows.
 The “EXT. DEBT POSITION & INTEREST” sheet shows the historical balance
of the external debt and its classification.
 The “INTERNATIONAL RESERVE” sheet contains an historical balance of the
international reserves of the country.
 The “EXCHANGE RATE” sheet reflects an historical comparison between the
USD/MX exchange rate and a lineal regression analysis to estimate a yearly
depreciation rate.

2) GROWTH RATES:

Growth rates were estimated based in the past trend, the model used was
log Xt = g t + b + ut , taking into account g as the growth rate, which is a lineal regression
model using the logarithm of the data against time.

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The balance of payments items, growth rates, estimated with the method mentioned
above were:
Exports (products)  
Petroleum products 13%
Agropecuarian products 5%
Extractive products 11%
Manufacturated products 9%
Exports (services)  
Tourism services 4%
Interest and financial services 4%
Remittances Received 13%
Others 7%
Imports  
Manufacturated products 8%
Trade costs and Insurance 9%
Tourism services 6%
Profits reinvested 8%
Transfers to the exterior 13%
Others -8%
Foreign Investment  
Direct Foreign Investment 11%
Capital Account (Assets) 18%

For each item were performed 4 linear regressions analyses corresponding to 4 different
periods of time: 10 years, 15 years, 20 years and 30 years. In a few times, if the data was
available, an extra regression analysis was performed: 50 years.

 The “Regressions 30 years” sheet contains the linear regression analyses

performed with 30 and 50 years data (Current Account).
 The “Regressions 20 years” sheet contains the linear regression analyses
performed with 20 years data (Current Account).
 The “Regressions 15 years” sheet contains the linear regression analyses
performed with 15 years data (Current Account).
 The “Regressions 10 years” sheet contains the linear regression analyses
performed with 10 years data (Current Account).

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  The “Regression Capital Account” sheet contains all the lineal regressions (10y,
15y, 20y, 30y and 50y) performed with Capital Account data.
 The “Current Account (Results)” sheet contains all the logarithm data required for
the analyses of the Current Account items, the respective coefficients “g” of each
item and its respective growth rate.
 The “Capital Account (Results)” sheet contains all the logarithm data required for
the analyses of the Capital Account items, the respective coefficients “g” of each
item and its respective growth rate.

After carrying out all the linear regressions concerning to each period of time, we
proceed to analyze the results. The linear regression parameters taking into account were:

 The Overall Regression Accuracy, shown by “R-Square” and “Adjusted R-

Square”, which represents the variance of the output variable that is explained by
the variance of the input variable (We consider only regressions from 80% to 97%
in this item).
 The Probability the Output of the Regression is Not Random, which is shown by
“Significance F”, the smaller the Significance F, the greater the probability the
regression output is not by chance.
 The Reliability of the Regression Coefficients and the Y-intercept, which is
determined by the P-Values, the smaller the P-Values, the greater the probability
of these outputs are not obtained by chance (We consider only regressions from
with less than 5% in this item; accuracy of 95%).
 The Residuals Patterns; the residuals are the difference between the actual value of
the dependent variable and the predicted value. (We verified residuals show NO
patterns).
After analyze the results, the best period for estimation was chosen and the respective
growth rate per item was assigned.

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On contrary, the linear regression analyses for the accounts: Stock Market Foreign
Investment and Money Market Foreign Investment were not accurate, the growth rates
did not show a establish pattern and the results obtained were not statistically satisfactory.
In fact, this fact was kind of logical, because the Mexican financial markets have begun
its expansion a few years ago, that is why is not possible to estimate a growth rate based
in such parameters. The growth rate proposed for these two items was 20%, which is the
pursued growth rate used for the private banks in Mexico to expand their portfolio each
year.

3) INTEREST RATES AND AMORTIZATIONS

Interest rates were estimated as a weight average of the historical interest paid by sector:
public or private and its respective sub-classifications.
The anticipated amortizations estimation were based in the hypothesis that the amount of
future amortizations will be paid with the same frequency and in same quantity as the
ones paid in the present, according to each classification of the external debt.

CHAPTER III: ANALYSES PERFORMED

The regular analysis performed, without taking into account the sensibility analyses;
show us that Mexican external debt is sustainable. According to the forecasted flows,
Mexican external debt should be paid in the 59th year.

To carry out the sensibility analyses, the estimated cash flows of some variables were
modified as the following (one per analysis):
 Received Remittances Diminish; we considered a decrease in the growth rate
(13% to 5%) from 5th year onwards. We observed a delay in the debt final
payment; according to the forecasted flows, Mexican external debt should be paid

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 in the 63rd year.
 Imports Augmentation; we considered an increase in the growth rate (15%
average) from 5th year onwards. We observed an enormous delay in the debt final
payment; according to the forecasted flows, Mexican external debt should be paid
in the 98th year.
 Petroleum Exports Diminish; we considered a decrease in the growth rate (13% to
3%) from 10th year onwards. We observed a delay in the debt final payment;
according to the forecasted flows, Mexican external debt should be paid in the 66 th
year.
 Foreign Direct Investment Diminish; we considered a decrease in the growth rate
(11% to 2%) from 1st year onwards. We observed a delay in the debt final
payment; according to the forecasted flows, Mexican external debt should be paid
in the 61st year.
 Foreign Direct Investment Augmentation; we considered an increase in the growth
rate (11% to 20%) from 1st year onwards. We observed a speed up in the debt
final payment; according to the forecasted flows, Mexican external debt should be
paid in the 25th year.
 Cash Outflows Diminish (Capital Account Assets Diminish); we considered a
decrease in the growth rate (20% to 5%) from 1 st year onwards. We observed a
speed up in the debt final payment; according to the forecasted flows, Mexican
external debt should be paid in the 25th year.

 The “GRAPH RATIO EXPORTS-DEBT” sheet contains a graph of the

exports/debt ratio of all the analyses mentioned above, in which we can observe
the ratio behavior through time.
 In the “ANALYSIS (BASE)” sheet you will find the complete regular analysis of
the balance of payments as well as the forecasted growth and interest rates.
 The “Remittances (Decrease)” sheet shows the sensibility analysis taking into

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 account a decrease in the cash flows entering to the country.
 The “Cash Outflows (Diminish)” sheet shows the sensibility analysis taking into
account a decrease in the assets flying out from the country.
 The “Imports (Increase)” sheet shows the sensibility analysis taking into account
an increase in Imports.
 The “Petroleum (Decrease)” sheet shows the sensibility analysis taking into
account a decrease in Petroleum Exports.
 The “Foreign D. Inv. (Decrease)” sheet shows the sensibility analysis taking into
account a decrease in Foreign Direct Investment.
 The “Foreign D. Inv. (Increase)” sheet shows the sensibility analysis taking into
account an increase in Foreign Direct Investment.

CHAPTER IV: RELATION BETWEEN EXTERNAL DEBT AND GDP.

The following section of the document will relate a comparison analysis between the
external debt ratio and the GDP growth rate of the country through time.

We perform a linear regression analysis, after normalized the data with logarithm, to find
the relation degree between GDP and External Debt.

After carrying out all the regression, we proceed to analyze the results. The linear
regression parameters’ taking into account were:

 The Overall Regression Accuracy, shown by “R-Square” and “Adjusted R-

Square”, which represents the variance of the output variable that is explained by
the variance of the input variable.
 The Probability the Output of the Regression is Not Random, which is shown by
“Significance F”, the smaller the Significance F, the greater the probability the

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 regression output is not by chance.
 The Reliability of the Regression Coefficients and the Y-intercept, which is
determined by the P-Values, the smaller the P-Values, the greater the probability
of these outputs are not obtained by chance.
 The Residuals Patterns; the residuals are the difference between the actual value of
the dependent variable and the predicted value.

And the results obtained were:

 The Overall Regression Accuracy, shown by “R-Square” and “Adjusted R-

Square”: 81.032% and 79.72% respectively.
 The Probability the Output of the Regression is Not Random, which is shown by
“Significance F”: 0.00000003398% the probability the predicted output is
random.
 The Reliability of the Regression Coefficients and the Y-intercept, which is
determined by the P-Values: 0.079485% and 0.207725% the probability of these
outputs are obtained by chance.
 The Residuals Patterns; have not shown any pattern.

Hence, with these results we can conclude that GDP and External Debt are substantially
correlated, as External Debt increases, GDP increases through time, and vice versa.
However, we will discuss this artificial effect in the next section.

CHAPTER V: CONCLUSION

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As it was mentioned before, debt evolution depends of some factors within the balance of
payments of the country.

With the different sensibility analyses, we discover the variables that could affect the
most to this phenomenon. We noticed that an augmentation in imports could cause a very
negative impact on debt evolution, since imports would origin a greater deficit in the
current account and with this a new debt acquisition. On contrary, a decrease in imports
or an increase in exports could generate a positive evolution of the external debt.

Another issue that could provoke a great negative impact on the debt is the capital flight,
all the cash flows, the capital assets, which are invested abroad the country tend to
damage the financial account of the balance of payments.

We observed, as well, that foreign investment is an issue that has a great influence in the
projection, the total settlement of the debt, depends in grand proportion of the growth of
this. If we observe a negative growth, the main affected issue is the payment of the debt.
In the same way, if we detect a positive growth rate, the structure of the balance tends to
project a very positive impact in the financial accounts.

We can conclude that Mexico should cherish these areas mainly, (without resting
importance to remittances, exports, and debt restructuration), to improve the evolution of
its balance of payments and consequently, to promote a higher economic growth and
develop for its habitants.

Pointing out the relation between GDP and external debt, it could be logical to mention
that having more liquidity and more funds to invest within the country, could generate an
economic expansion but should be more effective to try to obtain these funds from direct
investment (foreign or domestic) instead of still allowing the capital flight.
Another valuable strategy could be to promote the consumption of domestic products,
supporting and cherish the domestic industry, trying to reduce imports and to promote
exports. These measures would attract new funds and would create a more liquidity state
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of the economy, the same positive effects that these new debt acquisitions’ promote, but
in a less artificial way, without this chronic damage cause by the service of debt and its
evolution.

REFERENCES:

 http://www.google.fr/search?sourceid=navclient&hl=fr&ie=UTF-

8&rlz=1T4GGLS_frFR405FR405&q=balanza+de+pagos+mexico+2009
 http://www.azc.uam.mx/publicaciones/etp/num6/a1.htm
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  http://www.ecoportal.net/Temas_Especiales/Economia/mexico_se_hunde

_en_la_peor_deuda_externa_y_la_recesion
 “Pronósticos en los Negocios”; Hanke, John E. and Wichern, Dean W;
Pearson Education.
 http://www.banxico.org

ANNEX: EXCEL SHEETS ORDER AND CONTENT.

The annexed Excel book contains 21 sheets, which are ordered as follows:
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1) In the “ANALYSIS (BASE)” sheet you will find the complete regular analysis of
the balance of payments as well as the forecasted growth and interest rates.
2) The “Remittances (Decrease)” sheet shows the sensibility analysis taking into
account a decrease in the cash flows entering to the country.
3) The “Cash Outflows (Diminish)” sheet shows the sensibility analysis taking into
account a decrease in the assets flying out from the country.
4) The “Imports (Increase)” sheet shows the sensibility analysis taking into account
an increase in Imports.
5) The “Petroleum (Decrease)” sheet shows the sensibility analysis taking into
account a decrease in Petroleum Exports.
6) The “Foreign D. Inv. (Decrease)” sheet shows the sensibility analysis taking into
account a decrease in Foreign Direct Investment.
7) The “Foreign D. Inv. (Increase)” sheet shows the sensibility analysis taking into
account an increase in Foreign Direct Investment.
8) The “GRAPH RATIO EXPORTS-DEBT” sheet contains a graph of the
exports/debt ratio of all the analyses mentioned above, in which we can observe
the ratio behavior through time.
9) The “Relation External Debt-GDP” sheet contains a regression analysis showing
the Debt-GDP relation and the data required to perform this analysis.
10) The sheet “CURRENT ACCOUNT (DATA)” contains the balance of payments
historical flows.
11) The sheet “CAPITAL ACCOUNT (DATA)” contains the balance of payments
historical flows.
12) The “EXT. DEBT POSITION & INTEREST” sheet shows the historical balance
of the external debt and its classification.
13) The “INTERNATIONAL RESERVE” sheet contains an historical balance of the
international reserves of the country.
14) The “EXCHANGE RATE” sheet reflects an historical comparison between the
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 USD/MX exchange rate and a lineal regression analysis to estimate a yearly
depreciation rate.
15) The “Current Account (Results)” sheet contains all the logarithm data required for
the analyses of the Current Account items, the respective coefficients “g” of each
item and its respective growth rate.
16) The “Capital Account (Results)” sheet contains all the logarithm data required for
the analyses of the Capital Account items, the respective coefficients “g” of each
item and its respective growth rate.
17) The “Regression Capital Account” sheet contains all the lineal regressions (10y,
15y, 20y, 30y and 50y) performed with Capital Account data.
18) The “Regressions 10 years” sheet contains the linear regression analyses
performed with 10 years data (Current Account).
19) The “Regressions 15 years” sheet contains the linear regression analyses
performed with 15 years data (Current Account).
20) The “Regressions 20 years” sheet contains the linear regression analyses
performed with 20 years data (Current Account).
21) The “Regressions 30 years” sheet contains the linear regression analyses
performed with 30 and 50 years data (Current Account).

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