The Ambassador in Mexico (Thurston) to the Secretary of State

No. 1308

Sir: I have the honor to refer to the Embassy’s despatch No. 1038 of June 16, 1948, entitled “Mexican Financial Developments, May–June 1948”, and to forward herewith an account of Mexican financial [Page 625] developments during June and July 1948, with particular attention to the devaluation of the Mexican Peso which took place on July 22, 1948. This despatch is divided into four parts: (1) the events from June 1 to July 21, (2) the events of July 22, and (3) events subsequent to July 22, and (4) an analysis of the effects of devaluation on the balance of trade. The principal conclusion is that devaluation to a rate of 6.50 will cause a sharp reduction in imports but will not sufficiently stimulate exports to achieve an active balance of trade for the year 1948.

i. events from june 1 to july 21, 1948

It will be recalled that on May 31, 1948, the Bank of Mexico, according to its Estado Concentrado, had total reserves of 122.8 million dollars and a legal reserve of 122.5 million dollars, leaving a net reserve of only $279,242.96. This was made possible through the purchase by the United States-Mexican Stabilization Fund of pesos in the amount of $7,000,000 on May 28, 1948 and a loan of $2,000,000 by the Chase National Bank on May 26* and a loan of $2,500,000 by the Chemical Trust Company on May 27. It is understood that assistance was given by the United States Treasury through the Stabilization Fund on the understanding that the Government of Mexico would undertake to limit credit with a view to reducing imports, attempt to achieve a budgetary surplus, and undertake certain other technical measures designed to correct the fundamental disequilibrium in the Mexican balance of international payments. This subject is treated at length in the Embassy’s despatch above mentioned, but the Embassy now refers to the gold holdings as of May 31, 1948 in view of the subsequent importance of that item. On that day the Bank of Mexico had nearly 69,000 kilos of gold bars, valued at slightly more than $77,000,000.

By June 26, gold holdings had dropped to $70,000,000 and by July 3 to $59,300,000. With the continuing drain of dollars, it was again necessary for the Bank of Mexico to sell gold, and by July 17 gold holdings were down to $54,000,000 and according to the latest available Estado, that of July 24, gold holdings are 42.0 million dollars. Nearly half of the gold reserves of the Bank of Mexico had thus disappeared in the seven weeks preceding devaluation.

… The Embassy’s best estimate of the amount of foreign exchange reserves lost between June 1 and July 22 is 21.5 million dollars. This figure is obtained by subtracting total reserves of 101.3 million dollars (Estado of July 24) from total reserves of 122.8 million dollars [Page 626] (Estado of May 31). Nearly 81/2 million dollars was lost in the week immediately preceding devaluation. It is obvious that the exchange rate could not withstand this rate of loss of reserves and that the Bank of Mexico could no longer continue to sell dollars freely, even though additional support from the United States Stabilization Fund and the International Monetary Fund might be forthcoming.

The period from June 1 to July 17 was marked by intense activity in private gold transactions. The buying rate on centenarios, for example, moved from 4.38 paper pesos per gold peso to 4.50 at the end of the period. Smaller gold coins, which were at 4.24 and 4.26 at the beginning of the period were also at 4.50 at the close. The intense demand had eliminated the traditional difference in quotation between large and small coins. There is enclosed herewith, listed as Enclosure 1,1 a table of Mexican gold coin prices, in paper pesos, from June 1 to July 17, 1948.

Contraband export of gold and gold coins increased considerably during this period and several individuals were apprehended on the point of departure for Europe or the United States. The amounts involved, however, were small in relation to legal exports of gold by private individuals in the form of laminated gold. The export of gold bars and coins is forbidden by law, but industrial gold could be exported legally during this period upon the payment of the export tax. The amount so exported for May amounted to approximately 19,000,000 pesos. The exports of laminated gold from June 1 to July 17 are not known but must have been at least at an equivalent rate. It is interesting to note that it costs only 5 pesos to roll a bar of gold into laminated sheets.

The question naturally arises: why did the severe drain on the reserves of the Bank of Mexico occur when it did, and thus force devaluation? For months the Embassy has been reporting the nervousness of bankers, businessmen and others with respect to the future of the peso. The drain immediately preceding devaluation is believed to have been caused by a further decline in public confidence which, reached down into the ranks of small businessmen. Only a detailed examination of the complete list of purchasers of dollars for a month preceding devaluation can prove the point, and the Embassy has no access to these lists. The “smart money” had already gone; the peso balances of business concerns were already down to working capital; but in the last few weeks, as one American banker put it: “Every Arab, in town with 5,000 pesos wanted his $1,000.”

Sr. Rodrigo Gomez, Sub-Director of the Bank of Mexico, stated to an Embassy representative on July 24 in Mexico City that he made the [Page 627] decision to unpeg the peso after he telephoned Finance Minister Beteta from Washington at about 5:00 p. m. on Wednesday, July 21, 1948. In that telephone conversation, Sr. Gomez asked the Finance Minister for assurances that the latter would balance the Federal budget and not call on the Bank of Mexico for assistance in the future. The Finance Minister refused to give that assurance, stating that he needed 200,000,000 pesos additional for the balance of 1948 and would need an additional 500,000,000 pesos annually thereafter. Sr. Gomez then felt that even though he might obtain $85,000,000 USCy from the United States Stabilization Fund and the International Monetary Fund, he could no longer hold the 4.85 rate.

The Embassy representative inquired how the $85,000,000 was made up. Sr. Gomez replied that it was $13,000,000 under the present United States-Mexican stabilization agreement; $22,500,000 from the International Monetary Fund; an additional $50,000,000 from the United States Stabilization Fund. The Embassy representative made no comment whatsoever on this explanation of the anticipated support.

To sum up: the devaluation of the Mexican peso was basically caused by a fundamental disequilibrium in the Mexican balance of international payments and was precipitated by a flight of capital induced by a general lack of confidence in the peso. It was necessary and inevitable, and was not an act of free choice on the part of the Mexican Government.

. . . . . . . . . . . . . .

v. conclusions

If the writer is correct in his assumption that an exchange rate of 6.50 will result in Mexican imports of 501.2 million dollars and exports of only 463.5 million dollars for 1948, it would seem advisable to select a rate higher than 6.50. Admitting that tourist receipts will expand owing to the devaluation, other invisible items are not so affected.

If the object of selecting a new rate is to place the Mexican Government in a position to meet payments on its floating and consolidated debts, to meet its obligations to the U.S. Export-Import Bank, to repurchase $37,000,000 in pesos from the U.S. Stabilization Fund, as well as to rebuild the shattered reserves of the Bank of Mexico, it is recommended that a higher rate be chosen. This recommendation is made in the full knowledge that the higher the rate, the greater will be the rise of the price level in Mexico.

The Embassy does not recommend a specific rate. It is, however, pointed out that a rate of less than 6.50 exposes the United States Government and the International Monetary Fund to the risk of being called upon for funds to support that rate; it exposes the Mexican Government to the risk of being forced to a second devaluation. If the [Page 628] amount of increase in the United States-Mexican Stabilization Fund is to be only of the order of 25 million dollars, it is an additional reason for selecting a rate higher than 6.50.

The time at which a new rate is established is also of great importance. An early stabilization of the peso is undoubtedly desirable for convenience of commerce and for political reasons as well. Nevertheless, an extension of the period during which the peso is not pegged will permit the free and fuller play of the forces of supply and demand, and may hence afford a more reliable indication of what might be a realistic rate. At the time this despatch is being written, the bankers’ buying rate is just under 7.00, and the selling rate is at 7.00.1

Respectfully yours,

For the Ambassador:
Merwin L. Bohan

Counselor for Economic Affairs
  1. The Chase loan was repaid ten days prior to maturity, on July 16, 1948. Sr. Gomez has stated that the Chemical Trust loan was repaid, but the date is not known. [Footnote in the source text.]
  2. Not printed.
  3. A Supplemental Stabilization Agreement was executed by the United States Treasury Department with the Bank of Mexico and the Government of the United Mexican States on June 17, 1949. This agreement supplemented and modified the Stabilization Agreement of May 13, 1947. Copies of this agreement were sent to the Department by the Treasury Department in letter of June 27, 1949, not printed (812.5151/6–2749).