MONETARY POLICY IN DEVELOPED ECONOMIES: THE CASE OF …

MONETARY POLICY IN DEVELOPED ECONOMIES:

THE CASE OF MEXICO, 2000-2020

Noemi Levy Orlik

Lectura 2 • Institutional organisation

• Main Features of the Mexican Economy

Monetary Policy

• The ISI period: main instruments

• Main arraignment of the Export Led Model

• The Central Bank operations and its effect in the Mexican economy

Two financial organisations: Capital market versus Bank based financial system

The Anglo-Saxon financial system: Capital based

Bank issue credits for production

and

capital markets provide long term liquidity to financecapital goods or liquidity to non-liquid assets)

Capital market need to be broad and deep; reducedpublic sector intervention and market forcesdetermine prices

Historically capital market didn’t financeindustrialisation (Cameron, Pollard). Internal internalfunds were the main finance providers

but in periods of financial capital dominates

Firms’ treasury activity, rises increasing financialgains, process of overcapitalization (1929, 2008)unfolds

Capital markets are linked to oligopolistic structures(K centralisation and concentration -Kalecki andSteindl argument)

Bank-based system: Used by countries that need to “catch -up” development

Bank are the main providers of finance withinfinancial systems with weak or regulated capitalmarkets.

There are two models: The German system(universal banks) or Direct State intervention

In the German model, governments are active indetermining the markets participants and securecommercial banks intervention in corporation boards–economic groups.

While in the direct state intervention system (EastAsia and LA) the public sector mobilizes long termresources through compensatory mechanisms(development banks, public trusts, credit policies,legal reserves requirements). The man challenge is thegeneration of domestic savings.

Government determines the main prices (interestrates and salaries)

Different results ….

East-Asian industrialisation successful experience

Public spending finance private and public investment

Low domestic consumption and net export (current account surpluses)

Industrialisation went from simple to complex production activities, including capital and intermediate goods

Economic groups were created (Zaibatsus & Keiretsus) and capital market were strengthen

Strong regulation to prevent external capital flight and luxury imported consumption

Operated in a period of closed economies (with fix exchange rates)

Domestic finance mechanism were created along with endogenous economic growth

Latin America: truncated industrialisation

Industrialisation substituted final consumption goods and was based on K and intermediate imports ➔ Structural current account deficits

Foreign corporations dominated dynamic sectors, based on foreign obsolete technology ➔ low productivity with reduced export sector competitiveness

The public sector subsidised K and intermediate imports and public policy didn’t develop domestic technology

Public (development) banks and trusts plus accommodative monetary policy had a prominent role financing private and public sectors. Economic groups didn’t develop

Structural fiscal deficit: public debts were partially annulled (weak tax structures and low public utility prices). The private sector was subsidised

ISI model was based on high income concentration that operated with low private investment coefficients. Domestic private savings were extremely low (high luxurious capital consumption and capital flight, Kaldor, 1949)

Main Features of the Mexican Economy

GDP: Growth rate and its composition

-8

-6

-4

-2

0

2

4

6

8

10

12

-20.0

0.0

20.0

40.0

60.0

80.0

100.01

96

0

19

61

19

62

19

63

19

64

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65

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66

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67

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Rat

e o

f gr

ow

th

% o

f G

DP

Imports Consumption Fixed Investment Export X-M PIB

From ISI to Export Led Model: Structural current account deficit

Growth Rates GDP Imports Consumption Private C Goverment C Fix Investment Private I Public Gov. X trade balance

1960-1981 6.7 7.5 6.5 6.2 9.0 8.8 8.9 6.5

1982-1989 0.7 4.5 1.1 1.0 1.5 -2.9 0.6 -8.9 5.7 -177.9

1990-2017 2.6 7.1 2.4 2.5 1.8 3.4 4.0 0.8 7.5 -0.2

W/ respect to GDP

Imports Consumption Private C Goverment C Fix Investment Private I Public Gov. X trade balance

1960-1981 9.2 82.2 77.7 6.4 19.2 4.2 -5.1

1982-1989 7.6 79.7 72.6 7.8 16.7 10.7 6.1 8.4 0.7

1990-2017 27.1 79.7 73.5 6.3 20.0 15.7 4.2 25.2 -1.9

Mexico’s insertion in the global marketCurrent Account: structural deficit due to trade balance ( exports moved from oil to manufacture maquila) and rent balance (profit remittance)

2.7

-1.6 -1.7-1.2 -0.9

-4.6

-2.6

-1.6-1.9

-2.9

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

1980-89 1990-99 2000-09 2010-14 2015-20

Trade Balance Rents Balance Transference Current Account

Financial Account: From Credits (other) to Foreign inflows

1.3

1.92.3

1.2

2.3

-0.2

1.7

0.1

3.0 0.9

1.3

-0.1-0.5

-1.4

-1.5

-0.5

0.5

1.5

2.5

3.5

4.5

1980-89 1990-99 2000-09 2010-14 2015-20

FDI FPI Other Financial Account

A closer look to the financial accounts: Foreign inflows dominate well above the current account needs

Total liabilities above current account finance

Net financial account : external capital inflows above current account needs. FPI is determined by external factors; FDI responsible of external debt issuance; and FDI has short term capital

3.5

4.9

3.4

6.2

4.2

-1.0

-3.2

-1.3-1.4

-1.1

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

1980-89 1990-99 2000-09 2010-14 2015-20

FPI public FPI priv Pidiregas FDI

Other Total Liabilties FPI Current Account

-7.5

-5.5

-3.5

-1.5

0.5

2.5

4.5

6.5

8.5

19

90

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91

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92

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FDI FPI Other Financial Account Current Account

Q.E

Monetary Policy

Monetary Policy in the ISI period

Money Creation

• Money print (till 1954)• Government long term securities hold in Commercial Banks Reserves

+

• Fix and adjustable exchange rates

(Stable exchange rates with two devaluation events – 1954 – 1976)

and

• Stable interest rate

(Bond and stock market almost inexistant)

ISI didn’t not created indigenous economic growth

M substitution didn’t reach capital or intermediate goods

Banco de México S.A (Commercial private banks participate in the Governing Board Decisions)

Monetary Policy Instruments

• Central bank control of commercial interest rates of bank deposits and loans interest rates(maximum deposits interest rate and in some lending interest rate)

• Legal Reserve Requirement + Rediscount Facilities

• Selective credit policies (Finance economic growth of private and public activities)

Central bank assets Central banks liabilities

Credits to government Deposits in the central (LRR) Public trust financeCredits to banks

Comm1ercial banks finance Liquidity destruction (low taxes +low public commodities

Monetary Policy in the globalisation period: exchange rate stability via foreign capital inflows and interest differentials

How it operates?

Mexican Central Bank Assets: dominated by International Reserves and repos manages banks liquidity

Asset/GDPInter Rerserves

Bonds holdings Credits Repos Inter. Org

1990/2020 11.5 68.0 4.9 13.9 5.1 7.6

1990/1994 9.8 42.1 22.0 20.1 6.0 9.0

1995/1999 7.7 52.7 1.6 29.4 0.0 15.4

2000/2004 9.4 62.2 0.0 24.9 0.0 12.4

2005/2009 11.1 70.6 3.3 7.8 11.4 6.6

2010/2014 14.2 91.1 2.4 0.7 4.1 1.5

2015/2019 16.9 89.3 0.0 0.4 9.3 0.9

2020 18.5 84.8 0.0 0.2 13.8 1.0

0.0

5.0

10.0

15.0

20.0

25.0

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

90.0

100.0

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Inter Rerserves Bonds holdings Credits

Repos Inter. Org Total Asset/GDP

International Reserves

Total assets /GDP

BdeM liabilities: From 2007, monetary regulation deposits based on government bonds reducing monetary regulation deposits in cash

30 33 36 3830

2330 29 28

32 34 34 33 33 35 37 40 4136 38

4435 37 36 34 34 37

41 43 46 46

0

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90

100

Dic1990

Dic1991

Dic1992

Dic1993

Dic1994

Dic1995

Dic1996

Dic1997

Dic1998

Dic1999

Dic2000

Dic2001

Dic2002

Dic2003

Dic2004

Dic2005

Dic2006

Dic2007

Dic2008

Dic2009

Dic2010

Dic2011

Dic2012

Dic2013

Dic2014

Dic2015

Dic2016

Dic2017

Dic2018

Dic2019

Dic2020

Currency Brems MRD (Banks) MRD (Fed Gov. Bonds ) Fed Gov +Public Dep Banks Deposits Public Trsust Repos+ Pemex Stab Others

Brems

MRD BanksMRD GOV BONDS

Contractive monetary policy: A closer look on Central Bank Liabilities in terms of GDP shows that Monetary Deposit regulation based on government bonds dominated over MDR in pesos and the Treasury account at the central bank is in constant surplus, limiting government spending

(1.50)

0.50

2.50

4.50

6.50

8.50

10.50

2000 2001.0 2002.0 2003.0 2004.0 2005.0 2006.0 2007.0 2008.0 2009.0 2010.0 2011.0 2012.0 2013.0 2014.0 2015.0 2016.0 2017.0 2018.0 2019.0 2020.0

Monetary Deposit Regulation (gov bonds (3.1%)

Monetary Deposit Regulation (cash) 1.9%

Brems (0.8%)

Treasury current account at the CB in surplus (1.8%)

Negative net internal credit. Govermentswitched from debtors to creditors

(4.00)

(3.00)

(2.00)

(1.00)

-

1.00

2.00

Bank institutions Net Credit % GDP Government Net credit to GDP% of GDP

Monetary Regulatory Deposits based on government bonds (% of total governments bonds in circulation)

% of bond

government in

circulation

2006 2007 2008 2009 2010 2011 2012 2013

1.02 7.0 9.5 10.2 8.3 16 21.2 22.3

2014 2015 2016 2017 2018 2019 2020

21.3 21.3 15.6 14.8 13.4 13.6 14.1

Central Banks liability management costs: Monetary Regulatory Liabilities

Composition of Bde M costs2014 2015 2016 2017 2018 2019 2020

Payments for Government

deposits 74.0 73.4 70.7 75.1 73.4 75.4 73.3

For current account deposits 19.2 16.3 23.8 32.4 31.3 30.6 24.9

For government deposits 54.9 57.2 46.9 42.8 42.1 44.8 48.4

Payments for Bank deposits 12.8 13.6 16.8 15.3 17.0 17.2 17.0

For MRD 11.6 11.1 11.5 9.6 10.0 9.7 7.8

For current account deposits 0.0 0.2 1.0 1.0 2.1 2.7 4.7

For BREMS 1.2 2.3 4.3 4.7 4.9 4.7 4.4

Other expenses 13.1 13.0 12.5 9.6 9.6 7.5 9.4

Total financial expenses 100.0 100.0 100.0 100.0 100.0 100.0 99.7

Payments to banks and

government, % GDP 0.61 0.33 0.58 0.95 0.98 1.07 0.76

Financial Losses to GDP -0.63 -0.31 -0.37 -0.18 -0.28 -0.36 -0.09

What happened in the commercial bank’s balance sheet

Multiple Bank Assets trend and composition: low credit ratio and high bond participation

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Inv

estm

ent

in b

on

ds/

GD

P

%

of

tota

l as

sets

Investment in bonds (26.2%)

Total credit portfolio (44.9%)

Secutiries and derivatives (8.9%)

Deposits (10.8%)

Other assets

10.3W/ respect to GDP 2000-08 2010-14 2015-20

Total Assets 32.2 37.3 40.6

Deposits 4.0 3.8 3.5

Investment in Bonds 10.4 10.9 9.7

Securities & derivatives 2.8 3.4 3.7

Total Credit 13.2 16.5 20.9

Current portfolio 12.7 16.1 20.4

Commercial Credits 8.9 10.1 13.0

Firms 4.6 7.3 9.7

Financ. Entities 0.4 0.5 0.9

Gover. Entities 3.9 2.3 2.4

Consumption 2.0 3.2 4.0

Housing 1.7 2.7 3.4

Due Portfolio 0.5 0.5 0.5

Banks returns ROA and ROE

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

20.0

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2001-2005 2006-2009 2010-2014 2015-2019 2006-19 2020

ROA ROEROE

Distribution of the net operating surplus in the financial sector, (% of the total): Banks get the biggest shares

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Depositary Institutions (53.3%)

Financial Auxiliaries, (11.8%)

Captive Financial Institutions and money lenders (13.8)

Central Bank (5.6%

Insurrance Companies 8.1%

Other Financial intermediaries, (5.8%

Conclusions

Mexico’s financial organisation didn’t developed market mechanism. This led to foreign external flows dependence

Monetary policy changed: In the ISI period the central bank created liquidity through credit issuance to commercial banks and governments along legal reserve requirements to keep central bank balance sheet in equilibrium and channel credit to the productive sector.

In the export led model liquidity depended on international reserves to stabilise the exchange rate along with sterilisation mechanism

Private finance (big corporation) depend on international market liquidity (bond issuance in international financial centres)

International reserves volume was above domestic absorption therefore sterilisation mechanism were unfolded: Net internal credit specially from the government sector turned negative and private banks (mainly foreign) imposed their interest on central bank liquidity management.

Sterilisation mechanism limited government spending (Government treasury account remained in constant surplus and monetary regulatory deposits were based on government bonds, which generates high profits, with virtually no risks, since banks could used this bonds to engage in other operations.

Central bank liability management is highly costly. Most of these returns go back to the banking sector, subsidising by the private financial sector

What to do: create finance in domestic currency and rely less on foreign inflows