Larry Summers Transcript

Table of Contents

I: The 1994 Mexican Peso Crisis 00:15 25:26
II: An Economist in Government 25:2647:14
III: Lessons from Government Service 47:1455:05
IV: In the Obama Administration 55:051:18:09

I: The 1994 Mexican Peso Crisis (00:1525:26)

KRISTOL: Hi I’m Bill Kristol. Welcome to CONVERSATIONS. I’m very happy to be joined today by Larry Summers, Professor at Harvard, former Harvard President, Treasury Secretary, White House advisor to President Obama, a top economic advisor.

I want to begin with a crisis I remember you handling – I’d met you a little bit before that but I remember suddenly you had a prominence that maybe at the time you were not so eager to have. Suddenly, you were thrust into the middle of this major economic crisis at the end of 1994, the Mexico Peso Crisis.

I didn’t much now much about it honestly, and I was, I guess, launching the magazine, The Weekly Standard, and talking to someone who had served in the Reagan or in the Bush Administrations in economic policy – this is after you guys resolved it – saying, they really did a good job, it’s something they won’t get much credit for because it’s very complicated, and once it’s solved everyone forgets how dangerous it was before it got solved.

And there was political sales job involved with it, obviously, with the Republican Congress, as I recall. Were you then already Deputy Secretary or where you still Under Secretary?

SUMMERS: I was actually the Under Secretary for the International – I was the point –

KRISTOL: How does that work? Tell people about that.

SUMMERS I was sort of on point on that one. And I was extra on point, as it turned out, because Secretary Bentsen left at the end of December. Towards the end of December of 1994. The Mexicans found themselves forced to de-value their currency and heading towards a kind of economic apocalypse, the Department had no permanent Secretary for several weeks after Secretary Bentsen left, before Secretary Rubin was confirmed.

So there was a stretch when I had the misfortune to be a bit home alone with the problem.

KRISTOL: The Republicans had won Congress; it wasn’t clear they were going to support –

SUMMERS: The Republicans had won Congress, and they were not, in every respect, rooting for success. I worked through that Christmas holiday very, very closely with Chairman Greenspan, diagnosing the problem and understanding it.

The first part of it was understanding what was going on. You know, Mexico had been substantially less than transparent with the markets. And had only been a little more transparent with us, despite NAFTA. So it was not entirely clear what – it was clear that bad things were happening but just what the financial forces involved were was not clear. We came to the judgment, and it was an analytical economic judgment, that Mexico was experiencing something that had very much the character of a bank run on a country.

As you know, Bill, even the healthiest bank will become unhealthy if everybody tries to take their money out all at once. And because Mexico had said it would never, never de-value and then been forced to de-valued, and because Mexico had done a number of other things that were living on the edge, it found itself with this profound confidence crisis. And Mexico was at that time – at that time, you have to think back, the whole idea of an emerging market, vocabulary was just shifting from developing country to emerging market, and the poster child for a successful emerging market was Mexico.

And so, if Mexico collapsed, that wasn’t just going to be about Mexico. People were going to think that if the best emerging market was really a submerging market, then they couldn’t really trust any of the rest of the emerging markets, and this wasn’t long after – it seems like a long time ago now – this was only 10 years after the whole wave of Latin American defaults in the 1980s. So it seemed a perilous moment.

And so it was a perilous moment, and there was this bank-run phenomenon going on with respect to Mexico. And the question was what to do? And the world has a sort of known answer to bank runs, which is the provision of liquidity on a large scale. If there’s a bank – if there’s a bank run at Summers Bank, and really Summers Bank is okay, and it’s just a confidence crisis, then if the Federal Reserve takes the assets of Summers Bank and loans against that collateral, then everybody can relax and they can stop running.

And so my colleagues and I made the diagnosis that this was a bank-run type phenomenon. We made the diagnosis that it was really, importantly, a problem a confidence. It wasn’t that Mexico couldn’t over time service all of its debts, but it couldn’t service all its debts in three weeks, as they were coming due.

So the recommendation was that what Mexico needed was a very large amount of liquidity. Unfortunately, the amount of liquidity that Mexico needed was far beyond the then-present capacity of the IMF. And so really the only alternative was that that liquidity come in some way from the United States. That was the conclusion that I came to, and that in discussion with Chairman Greenspan that we came to, and as Secretary Rubin moved to becoming Secretary, when we discussed it extensively with him, that was the conclusion that he came to.

And, you know, we hoped that as Mexico tried to settle its affairs and explain its situation the confidence would return, but as with a bank run once things are past a certain point it doesn’t really matter what the bank does. People aren’t really thinking about the bank they’re thinking about the other people who are trying to get their money out, and that was the situation in Mexico. And so, in early January, actually the night that Secretary Rubin was sworn in, a group of us were in the White House, called into the Oval Office, and discussed this, presented this, to President Clinton.

Secretary Rubin set the stage for it briefly. Then, as was his way, he turned to someone else, namely me, to explain the situation in more detail and our proposal. And I said that I felt that $25 billion was required, and one of the President’s political advisors said, “Larry, you mean $25 million.” And I said, “No, I mean $25 billion.”

KRISTOL: This is right after his midterm defeat –

SUMMERS: There was a certain pall over the room, and one of his other political advisors said, “Mr. President, if you send that money to Mexico and it doesn’t come back before 1996, you won’t be coming back after 1996.”

And the President – I mean, he like any President, like any of us, he’s a person with strengths and weaknesses, but on that occasion, I thought his response was quite remarkable. He let the conversation go on for a little while and then he said, “Alan (Greenspan), Bob, Larry, I really just have two questions. Do you think there’s a substantial risk that if we don’t do this there will be really grave consequences, if Mexico fails, that will have serious consequences for the United States and for other countries?” And we said, “No certainties, but yes.”

Then he said, “There’s nothing like a guarantee I realize that and there are no certainties, but do you think there is a reasonable chance that if we act we can prevent that?” We said, “Yes, we think – we don’t know just what that chance is, but yes, there is a substantial chance that if we act quickly we could avert the bank run.” And then he said, “Well, then there’s no choice, no question what the right thing is. It may have political consequences, but that’s what we’re here for. We’re here to make on really important questions the best decisions we can, and this isn’t chicken shit.” And he named some other issues that he thought were chicken shit. “This is really important, and there’s no question what we need to do. I’m going to call the Congressional leadership tonight and ask them to come to the White House, and I’m going to ask them to join me in supporting legislation that would give authorization for us to guarantee loans on a large scale to Mexico.”

I stayed with him that night, and he placed the calls. I would say he got willing but substantially less than enthusiastic reactions from the Congressional leadership. I only heard his side of the conversations, but you could see that these were experienced political figures who were calculating. “On the one hand, I can’t not go along with what the President of the United States says is an important matter of national security; on the other hand, this is a substantial and risky step, and if it fails, let it not be on me.” And so they had modulated responses that reflecting their situation, they attempted to do. There was a meeting in the White House the next day, and then there was an announcement coming out of the White House.

What then happened was a quite disturbing stretch. It appeared immediately that if the President of the United States was for this and Congressional leaders were more or less for it, then the Congress would legislate it. But as happens people had all sorts of ideas. Your friends, Bill, in the Republican Party didn’t understand why if we were going to lend $25 billion to bail out Mexico in its period of need, Mexico needed to continue to support Castro and wanted to impose conditions about Mexico’s involvement with Cuba. There were people on my side who had been dissatisfied for a long time with certain practices Mexico had towards unions and they thought this was a good time to change those rules.

The Mexicans were desperate for this support, but they also had their pride as a country and the idea that they were a democracy, and they didn’t see how this support could become the occasion for the United States to redesign fundamental policies of their country. And so what ensued was a roughly two-week period of negotiation between the Mexicans, us, the Democrats in Congress, the Republicans in Congress, with the market watching and evaluating the likely outcome every day. And the markets’ evaluation of the likely outcome was deteriorating almost every day.

And after two weeks or so, it became relatively clear that it was unlikely that this legislation would pass. And so the question was, and the markets again were at a point of panic with respect to Mexico – Frankly, I wouldn’t have known before it started to collapse what the name of the currency of Thailand was, but I learned in those two weeks it was the Thai Baht and that it was very vulnerable to what was happening in Mexico.

And then the suggestion was made, and it was one we had thought about but rejected, but by Congressman Bennett – Senator Bennett from Utah, a Republican and really in my view a great public servant, he said, “Look, Congress isn’t going to get there. You all have the authority through something called the President’s Exchange Stabilization Fund.” The Exchange Stabilization Fund was designed for when the dollar was fluctuating too much against the Yen to intervene to keep the dollar stable.

It was not designed for bailouts of developing countries, but its language in a legal sense basically did give the authority quite broadly to the Treasury or the Secretary with – if it was a large loan, and it was in this case – the President’s approval. And so the question arose and we debated it, whether this was some kind of usurpation of Congressional authority or whether in some sense Congress was encouraging us to do it because it wanted this to be done, but it wanted this to be done without it being its responsibility.

Ultimately, President Clinton and Secretary Rubin decided to use the Exchange Stabilization Fund, and so the Exchange Stabilization Fund was announced as the vehicle. At that point, there were a lot of people saying, “This is on the President’s hook,” and all of that. It was then our task to negotiate an actual agreement. Because we weren’t going to give this money to Mexico without conditions.

There was going to be what’s known as traunching; stages of the money. And, of course, there was a very difficult balance because from the point of view of the markets and the market’s confidence, you wanted there to be as much money as quickly and as firmly and as clearly as possible. From the point of view of motivating the Mexicans to stop making policy mistakes and to pursue sound policies, you wanted the sense that the money was going to be delayed and was going to be contingent and you couldn’t give one message to the Mexicans and a different message to the market since they were both paying attention to everything we said.

We wrestled with that balance, and over several weeks, I was on the phone with Mexican Finance Minister four or five times a day, and one point when the negotiation looked very difficult, a couple of colleagues and I took an Air Force plane to Mexico City, arriving at six in the morning and in secret went to spend several hours with President Zedillo because it was important to us to see whether Mexico as a whole was completely behind this program and to evaluate the situation.

KRISTOL: I remember this –

SUMMERS: But if there had been a sense that senior officials of the United States were coming to Mexico to negotiate this. that would have been very problematic politically in Mexico so it was more cloak-and-dagger, hush-hush than anything I had previously been part of.

We completed an agreement, Bill, and there was a rather odd ceremony because this wasn’t exactly a happy event, but it was a historically significant event. And Secretary Rubin and a Mexican Finance Minister were on a podium together in the Treasury Department when we announced the completion of this loan agreement.

We’re now mid-late February. And the market, the Peso fell six percent the day we announced this agreement and was at a very low, was at a very, very low level. And it didn’t look like what we had done was going to be sufficient to restore confidence.

That night I went, after everybody had gone home, 7:00 or so, 7:30, 8:00, I went into Secretary Rubin’s office and I said, “Bob, this doesn’t look like this is working, and somebody should have to take responsibility, and this had been my idea and I don’t think it was an unreasonable or stupid idea, but it is an idea that appears to have failed, and so perhaps I should resign.” And, I’m perfectly prepared to resign. I recognized that there are larger interests here. And he responded by saying that it was an admirable sentiment that I had expressed in his view, but that many of us had been involved, including him, had been involved in taking the decision and that there was no desire to leave me holding the bag with respect to this decision. And that more fundamentally, things took time to play out, and you didn’t know what the consequences was going to be over time. And that I would be much more useful to the team if I wasn’t exhausted and a little bit overwrought, and that I should go home and get a good night’s sleep and come back, and we’d see how things played out.

Several weeks later, for some variety of reasons, some having to do with the markets, some having to do with Mexico, matters turned. And the market turned and ultimately five, six months later, Mexico actually paid back a portion of the loan early at a profit to the United States.

The White House political operation did not allow that event to go unnoticed, to put it mildly. And it was regarded as an important success for the Administration because a major problem had been forestalled because the President had acted with great political courage. The loan he approved without Congressional support was supported by about nine percent of the American people, with about 80 percent in opposition. But ultimately, something very important happened, and it had an important effect that, I think, is carried forward to this day on US-Mexican relations.

From my point of view, it was sort of an experience in making decisions and contributing to the decision-making processes under great stress. I remember saying to a friend at the time it feels like my human capital is now denominated almost entirely in Pesos. And that may not be a good currency to have one’s human capital denominated in.

But, that – every story is different, at one level, in its particulars. But the elements that you had to understand the underlying substance of the policy. That you had to understand the various cross cutting political forces. That at some point you had to make a decision, and you had to stick with the decision. That you had to advocate the decision in as persuasive a way as you could. And that you had to hope that things broke your way. Those elements, I think, are fairly common to the experience of trying to get involved in public policy in senior positions in Washington.

KRISTOL: Sometimes, they even have a happy ending.

SUMMERS: Sometimes, they do. Not always, but sometimes, they do.

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