LATIN AMERICA SPECIAL — Devalued peso considered best option

Devaluing the peso last December was the least costly course of action, according to Mexican President Ernesto Zedillo.

Had he not opted for devaluation, the government would have had to decree a suspension of payments the next day, he said, adding that economic growth would have plunged by 30%.

With foreign reserves running low after spending billions of dollars to defend the value of the peso, Zedillo decided to allow the currency to fall, Agence France Presse reports.

It dropped more than 30%, setting foreign investors to flight and triggering a massive crisis of confidence that forced Mexico to turn to the U.S. for a bailout.

Eventually, a billion-dollar international rescue package was arranged. Interest rates rose to 50% a year (in a bid to make Mexican government debt and other peso-denominated investments more attractive to buyers), government spending was cut, wage increases were capped, and the government started planning a new round of privatization of state industries.

The Mexican inflation rate, which was less than 10% in 1994, jumped earlier this year to 45%.

In March, the Mexican government introduced a harsh new economic plan, which includes a reduction in public spending of 9.8%, a jump in the sales tax to 15% from 10%, higher taxes on gasoline and electricity, and a 20% decline in the number of pesos in circulation. Also, the country’s minimum wage of about $2.50 per day was increased by 10%.