The Tequila crisis and peso devaluation

Mexico entered 1994 with international reserves of about $29 billion, but a year marked by political shocks and rising US interest rates drove reserves down to roughly $6 billion by December, even as the government had issued more than $25 billion in short-term, dollar-indexed tesobonos and the current account deficit widened to about 8% of GDP. Unable to keep defending a crawling peg against this capital flight, the authorities devalued the peso by 13-15% on December 20, 1994, and raised interest rates toward 32%, but the move failed to calm markets; two days later Mexico let the peso float freely, and its value roughly halved, from about 5.3 to over 10 pesos per dollar within weeks. Banco de México's own contemporaneous analysis of the episode, prepared by economist Francisco Gil Díaz, laid out the mix of a fixed real exchange rate anchor, heavy reliance on short-term capital inflows, and an under-regulated banking system as the hypotheses behind the collapse. The aftermath drove a sharp recession and a surge in inflation, and still informs Mexico's preference for a freely floating peso over any fixed anchor.