FROM THE OFFICE OF PUBLIC AFFAIRS

Thank you for that kind introduction. Good afternoon ladies and gentlemen, let me start by saying that Secretary Summers sends his apologies for not being able to speak at this conference. It is not without regret that the Secretary had to bow out today, but he had to attend to another matter at this time - even Treasury Secretaries cannot completely control their own calendars. Given that Angel Gurria and I first worked together when Larry Summers had only just become the youngest tenured professor at Harvard, he felt that I would be an adequate substitute.

It is a pleasure for me to be here today with Angel Gurria with whom I've worked with for many years. Sometimes our cooperative endeavors have been more pleasant than others, but they have always been stimulating. Today, speaking with the caution of a former central banker, I see predominantly sunny skies. The Mexican economy is poised to pass through the 2000 presidential election year without an economic crisis, due in large part to the high quality policies of President Zedillo and his economic team, led by Angel Gurria.

In my remarks, I would like to talk about how far Mexico has come in the last five years and some of the challenges ahead.

One of the impressive developments is the degree to which Mexico has differentiated itself from other Latin American countries, especially since 1997. This performance is evident in:

• Mexico's weathering of the international financial turbulence from mid-1997 to early-1999 with a minimum amount of difficulties, while other emerging market economies experienced significant problems.
• Mexico was the only major Latin American economy to escape recession in 1998-99. Its GDP has grown about 5 percent annually over the last three years, while the average annual growth rate for the rest of Latin America was around 2 percent.
• Mexico's international borrowing costs relative to those of its Latin neighbors have fallen.

Over the last year, Moody's has reduced several Latin American countries' sovereign credit ratings. It has raised just one - Mexico's.

Two principal reasons behind this record are strong economic policies and Mexico's deepening economic integration with the United States. After the peso collapsed in late 1994, the Mexican government did not turn away from markets. Rather, reform efforts intensified. Policy makers continued Mexico's openness to trade, maintained sound fiscal accounts, exercised disciplined monetary policies, embraced sounder debt management principles and practices, and adopted a floating exchange rate that, in my view, has served Mexico well. Underlying those measures was Mexico's participation in NAFTA. Mexico is now the United States' second largest trading partner with total trade between our two countries reaching $190 billion in 1999, more than a twofold increase since 1993. The United States purchased about 17 percent of Mexico's gross domestic product in 1999. Over the same period, Mexico's total exports have grown 18 percent annually to $137 billion in 1999, in turn, contributing importantly to Mexico's economic growth.

The diversified nature of Mexico's exports also has provided a cushion against global forces that have disadvantaged other Latin American countries. For example, despite the drastic drop in commodity prices, and in particular oil prices during 1998, Mexico's economy continued to expand, while other large oil exporting countries, such as Venezuela, experienced recessions. Moreover, openness to trade has provided other benefits. To see this, one has to look only at the amount of foreign direct investment in Mexico over the last five years compared to the prior five years. For the period 1994 to 1999, foreign direct investment in Mexico was $61 billion compared with $22 billion from 1988 to 1993.

This is not to say that Mexico has not faced tough challenges. Mexico's weak banks, low oil prices, and the global financial market turbulence have all presented challenges to Mexican authorities in the mid- to late-nineties. In the aftermath of the 1994 peso crisis, the Mexican banking sector was in shambles. Since then the magnitude of the bank restructuring undertaken by the authorities has been enormous, as has been the cost of that restructuring. Nevertheless, the authorities have shown persistent effort in trying to bring this difficult chapter in Mexico's banking industry to a close. After five long years, the process of restoring health to the system's balance sheet appears to be near conclusion, and we can look forward to the day when Mexican banks will be a source of new finance for economic growth, not just a problem to be solved. In that vein, I welcome both the recent passage of bank legislation that contribute to a more level legal playing field between creditors and debtors, and IPAB's sale of Serfin.

Falling oil prices in 1998 and early 1999 were another hurdle that the Mexican authorities overcame by taking difficult policy decisions. (You will recall that the average export price for the Mexican mix fell from $13.40 per barrel in December 1997 to $7.70 per barrel in December 1998.) In response, the Zedillo administration reduced Federal spending three times in order to meet its budget deficit target of 1.25 percent of GDP. Learning from that experience, the government has established a Stabilization Fund to manage better the effects on the budget of oil price volatility. It has also begun an important dialogue with civil society on the tax reform measures that are necessary to reduce the high level of dependence that the budget has on oil-related revenues.

Mexico, also, has struggled with the turbulence in international capital markets, particularly in the Fall of 1998. But the authorities responded with responsible policy measures. The Bank of Mexico tightened monetary policy five times, pushing the 28-day Cetes rate up to 48 percent in an effort to contain the pass-through effects from the peso's 18 percent depreciation that year. Although the central bank missed its 1998 inflation objective, inflation moved back down in 1999, helped along by peso appreciation, and is on course to achieve single-digit inflation this year. More importantly, the central bank appears to have learned from the experience in 1998 and has shifted from a more reactionary policy approach to an anticipatory one.

Trade integration with the United States and prudent fiscal and monetary policies, together with sound debt management and a floating peso have contributed to Mexico's remarkable performance and reduced Mexico vulnerability to external shocks. But you expect me to say, and I will, there is no room for complacency! It would be wrong to conclude that Mexico is immune from developments elsewhere. As evidence I note the recent increase in the spread of its external debt over U.S. Treasuries.

Let me say a few words about the challenges Mexico will face in the first decade of the new millennium. First, sound monetary and fiscal policies and an appropriately measured policy response when shocks do occur, as inevitably they will, will be critical to mitigating the effects of market turbulence on the Mexican economy. Central bank credibility, which the Bank of Mexico has begun to establish, will be key to reaching the goal of lowering Mexico's inflation to that of its NAFTA partners by 2003. Increased fiscal prudence will also be necessary to absorb the costs of bank restructuring and federal pension reform over the coming years and to help to ensure that government's resources remain available for spending on key areas such as health, education, and public safety.

Second, structural reforms may also be needed to free up fiscal resources for spending on human capital and to meet the investment needs of the power and oil sectors, which are daunting. For example, the Zedillo administration estimated in early 1999 that the electricity sector alone will require $25 billion in investment over the next six years to meet the increased energy needs of the growing Mexican economy. Privatization of the state-owned enterprises may be the best way to meet those investment challenges and release fiscal resources for investment in areas where governments have a comparative advantage such as education.

Third, the Mexican government has a responsibility to ensure the personal safety of Mexico's residents and the protection of private property. In a recent interview with Mexican press, an IADB official estimated that the chronic crime and violence cost Mexico 9 percent of GDP a year. A study by Mexico's Center for Investigation and Economic Research found that Mexico City is among the most dangerous cities in the world, with an average of eight murders a day. Unchecked, such high levels of crime and violence may drive away foreign investors, as we were reminded by Sony's recent announcement that it may reduce the scale of its operations in Mexico.

Fourth, it is very important that Mexico implement policies that help to ensure all Mexicans have the opportunity and the necessary skills to reap the benefits of Mexico's economic success. Measures that foster the rule of law, strengthen civil society, enhance access to education, and increase transparency in all institutions (public and private) will go along way to ensuring that policy makers will enjoy the consensus needed to make the tough policy choices that will be needed in the years ahead.

These are important challenges. They are not unique to Mexico. I am pleased to congratulate Angel Gurria and his colleagues for Mexico's success to date, and I look forward to continued success in the years to come. Thank you.