The Bank of Mexico (Spanish: Banco de México), abbreviated BdeM or Banxico, is Mexico's central bank, monetary authority and lender of last resort. The Bank of Mexico is autonomous in exercising its functions, and its main objective is to achieve stability in the purchasing power of the national currency.

History
Banco de México, which was created on September 1, 1925, was the pinnacle of a long-awaited aspiration by Mexicans. Its creation ended a long period of monetary instability and anarchy, dating back to the beginning of the XIX century, and during which a system of diverse issuing banks operated. Such system greatly deteriorated with the upsurge of the Mexican Revolution in 1910, which brought up distrust on banknotes and the downfall of the monetary system prevailing at that time.

Few will remember that the origins of the Mexican central bank date back to at least the beginning of the XIX century. As long ago as 1822, during the reign of Agustín de Iturbide, a project to create an institution that would be known as "Gran Banco del Imperio Mexicano" (the Great Bank of the Mexican Empire) with the power to issue banknotes was put forward.

At that time, in Europe, central banks began growing out of a natural progression in which retail banks gradually assumed functions that nowadays correspond solely to central banks. A similar process would have gone underway in Mexico around 1844, but, in the end, the idea embracing free competition between retail banks in the area of banknote issuance won acceptance and materialized.

With the demise of the Porfirian banking system during the Revolution, the issue was no longer whether there should be a monopoly or free competition in currency issuance, but rather the features of the Single Bank of Issue provided for in article 28 of the Constitution passed in 1917. The dilemma was whether to create a private bank or a government-controlled bank. Meeting in Querétaro, the founding members opted for the latter, although the Constitution states that only a “government-controlled bank” will be exclusively responsible for currency issuance.

Despite its creation being a constitutional aspiration, seven years passed by before the Single Bank of Issue finally came into being. During that time, several attempts to get the project started failed due to Treasury hardship. On repeated occasions, a shortage of public funds was the obstacle to the bank’s creation. Meanwhile, at the time, the thesis regarding the need for all countries to have a central bank was consolidating globally and was enclosed in a 1920 communiqué by the then influential League of Nations during the Brussels International Financial Conference.

Creation
Banco de México was not created until 1925 and only as a result of budgetary and organizational efforts on the part of the then Finance Minister, Alberto J. Pani, as well as the support of President Plutarco Elías Calles. A common joke at the time was that the central bank ought to be called "Banco Amaro", as the funds were finally raised from Army budget cuts made by the then Minister of Defense, General Joaquín Amaro.

Banco de México was inaugurated during a solemn ceremony on September 1, 1925. The act was presided over by President Plutarco Elías Calles and attended by renowned people from the fields of politics, finance and business. The central bank was given exclusive power over currency production —both the minting of coins and printing of banknotes— and was consequently made responsible for monetary regulation, interest rates, and the exchange rate. It also became the Federal Government’s agent, financial advisor and banker, although retail banks were given the choice of whether to partner with Banco de México or not.

Launch
The central bank came into being amid big challenges and aspirations for the Mexican economy. Besides the need for an institution of its nature, others included the development of a new banking system, the renewal of credit in Mexico, and fostering the population’s acceptance of paper money (this would not be an easy task, especially after the country’s traumatic inflation experience during the Revolution with "bilimbiques"). Consequently, besides the attributes of an issuing bank, Banco de México was also given powers to operate as an ordinary credit and discount institution.

During its first six years, Banco de México was reasonably successful in promoting the renewal of credit in Mexico. However, its consolidation as a central bank came up against towering obstacles. Although its prestige grew and progress was made, the circulation of banknotes was weak and few retail banks agreed to become partners through a stock acquisition.

The 1929 recession and afterwards
Banco de México’s first important reform took place around 1931 and 1932. In July 1931, a controversial Monetary Act was passed demonetizing gold in Mexico. The Act conferred certain currency features on Banco de México’s banknotes even though they were still freely accepted. However, just eight months later, other more transcendent reforms followed: the aforementioned Monetary Act and the passing of a new Banco de México Organic Law. The latter reform eliminated the central bank’s powers to operate as a retail bank, partnering with the central bank became compulsory, and more flexible rules for banknote issuance were introduced.

The story goes that money was in such short supply at the time that a national movement began in favor of accepting Banco de México banknotes and substantially increasing the demand for them. Indeed, some even began to prefer banknotes to coins.

Following the passing of the new Act, a free-float period began in order to achieve and exchange rate equilibrium level, and the central bank was authorized to buy gold at market prices. This not only increased the monetary reserve but consolidated one of the main channels for banknote issuance. This formula, and the economic recovery following the 1929 and 1930 depression, finally anchored the role of currency as Mexico’s main means of payment.

Once banknotes were widely accepted, the road was clear for the central bank to fulfill the functions established in its new Organic law, namely: regulate monetary circulation, interest rates and the exchange rate; become the Federal Government’s Treasurer; centralize bank reserves; and, become a bank of banks and lender of last resort.

The silver crisis
The 1935 silver crisis, when the price of silver began to soar, was unprecedented. During this period, there was a serious risk of the intrinsic value of coins made with silver —which accounted for most coin fractions— exceeding their face value. The threat to one-peso coins, which were highly accepted among the population, was particularly considerable. In the end, the crisis was averted through two measures: the issuance of coins with a low silver content and the circulation of one-peso banknotes, which for many years were known as "camarones".

The year 1936 brought the passing of a new and orthodox Organic Law in response to the need to free Banco de México from any “inflationary note”. This was achieved by adopting very strict rules to issue payment means. Special emphasis was given to limiting the amount of credit the central bank could grant the government. In practice, the law was very rigid and, strictly speaking, never came into force. In 1938, the Law’s more restrictive provisions were amended regarding both the limits on credit the central bank could grant the government and the type of paper it could acquire in retail bank transactions.

A few months before, due to the deterioration of Mexico’s balance of payments since 1936 and the capital outflows caused by the oil expropriation, Banco de México withdrew from the market and the exchange rate depreciated from 3.60 pesos against the dollar to above 5 pesos.

Under the influence of war
At the end of 1939, the Mexican economy’s environment drastically changed with the outbreak of the Second World War. Mexico was flooded with capital flight money, or “hot” money, seeking a safe haven. In June 1941, a new legal framework for banking and finance was introduced. This gave rise to a new Banking Act as well as a new Banco de México Organic Law.

The war, which lasted from 1940 to 1945, had a big impact on Banco de México’s development. Since its creation in 1925, the central bank had not had to face the challenge of having to apply a monetary containment policy. Its then Managing Director, Eduardo Villaseñor, mentioned that up until then, Banco de México’s mechanism had been similar to a clock in that it could only take “forward” actions. A journey thus began to develop the appropriate regulation mechanisms for a central bank operating in an environment in which financial markets had become almost non-existent.

As mentioned, during the war capital inflows swelled the central bank’s monetary reserve leading to a fast expansion in payment media that potentially threatened inflation. To prevent this from taking place, the authorities embarked upon a process to define the best tools to undertake the required monetary containment. Initially, open market operations were attempted as well as influencing the composition of banks’ portfolios in order to prevent speculative transactions and loans. The central bank also applied the manipulation of the rediscount rate and “moral persuasion”, although the instrument that produced the best results was the increase in banks’ compulsory deposits with the central bank, also known as reserve requirement (“encaje legal”). Indeed, this tool was taken to an extreme no other country had ever experienced: the reserve ratio rose to 50% in the case of Mexico City bank deposits and 45% for banks located in the rest of the country.

Development support during the postwar period
The decision to increase the reserve requirement was so effective that once the war ended, and for many years afterwards, Mexico resorted to manipulating the compulsory reserve requirement not only for monetary regulation purposes but for two other reasons: as a financing method for government deficits and for “selective credit control”. In 1949, following another large currency inflow, the Banking Act was amended, giving the central bank power to increase the retail bank reserve requirement to 100% of the debt increase. However, the level of this provision depended on the composition of banks’ loan portfolios; in other words, it was linked to their financing of different sectors of the economy.

Between 1948 and 1949, Mexico went through two severe balance of payments crises, due mostly to shifts and adjustments in the world economy typical of the postwar period. From an historical point of view for Mexico and Banco de México it can be interpreted as evidence of the benefits of always implementing a prudent monetary policy.

In June 1944, Mexico had been one of the signatory countries of the Bretton Woods Conference, which introduced fixed exchange rate regimes. Although the agreement did not allow fluctuating exchange rates, in 1948 Mexico decided to let the peso float. However, in 1949 a decision was made to introduce a new parity of 8.65, the exchange rate that prevailed until 1954, when the country was forced to once more adjust the exchange rate.

Stabilizing development and its architects
In 1952, a man who would render services of incalculable value to Mexico and would give Mexican finances prestige took over the reins of Banco de México: Rodrigo Gómez. Don Rodrigo —as he was then known— led the central bank for 18 years until his death. During that time he proved himself to be an enemy of inflation in both practice and thought. On one occasion he said: “if the dilemma is fast growth or a stable currency there is no doubt about which to choose”. His point was that inflation not only has a negative impact on income distribution but winds up stalling investment and economic growth.

Along with Antonio Ortiz Mena, who worked with him for two 6-year periods ("sexenios") at the Ministry of Finance, Rodrigo Gómez was one of the architects of the desirable period of progress and stability which lasted from 1954 to 1970, known as “stabilizing development”. This era began following the already-mentioned exchange rate adjustment of 1954, which can be viewed as the end of a period of unstable growth that lasted for more than fifteen years.

From 1954 to 1970, real growth was far higher than population growth; as a result, both per capita income and real wages also experienced constant growth. In particular, the financial sector made remarkable progress. All this was largely due to Banco de México’s implementation of prudent monetary policy, which contributed to price stability similar to that of the U.S. during the same period. Consequently, a fixed exchange rate was also maintained (12.50 pesos per dollar) with an unrestricted exchange rate regime and a rising trend in the monetary reserve.

At the same time, during the “stabilizing development” period, Banco de México contributed to the development of the domestic economy by supporting other growth strategies through a prudent management of the reserve requirement. As a result, not only was non-inflationary credit channeled to key economic activities, but also offset the changes in the world economy which impacted the balance of payments during those years. In 1958, in order to make the monetary regulation instrument more robust, the decision was made to include finance companies in the reserve requirement.

Banco de México’s contribution to development
The seventies and part of the eighties was a challenging period for Banco de México. Until 1982, the origin of the problems had laid in the application of overly expansionary economic policies and the central bank’s obligation to grant a significant amount of credit to finance fiscal deficits incurred at the time. All of this undermined price stability and contributed to the emergence of two severe balance of payments crises in 1976 and 1982. Since 1983, actions have taken a different course: the central bank’s efforts have mainly focused on controlling inflation, correcting economic imbalances, and regaining the trust of economic agents.

In spite of everything, and in some cases in order to tackle the existing problems, recent decades have witnessed major institutional changes and enormous contributions from the central bank to the country’s economy. One of the most noteworthy initiatives by Banco de México was the creation of the so-called multiple banking (“banca múltiple”) in 1976. Subsequently, following the transformation of specialized banking into multiple banking, a merger program for small banks was promoted aimed at strengthening their soundness and encouraging greater competitiveness within the financial system.

In 1974, Banco de México created and put into practice the concept of average percentage cost of deposits for multiple banks (CPP, for its acronym in Spanish). This average rate avoided many problems for banks when interest rates began to rise later in the decade as a result of inflation. Other memorable contributions from the central bank include the idea of regulating bank capitalization, not only based on deposits but on certain assets and other concepts exposed to risk. Also worth mentioning is the conception and creation of a hedging system for public bank deposits.

Another central bank achievement was the 1978 creation of Mexican Treasury Certificates (Cetes, for its acronym in Spanish). Following the passing in 1975 of the new Securities Market Act, they became the foundation for the development of a fixed-income bond and securities market in Mexico. The extent of this achievement should not be underestimated, not only in terms of Mexico’s financial development but also of the central bank’s own progress. The creation and maturity of the bonds market led to the consolidation in Mexico of conditions enabling monetary regulation to be put into practice through open market operations.

In search of stability
Once of the most important actions of the Miguel de la Madrid administration (1983-1988) was the creation of the Hedge Against Exchange Rate Risk Trust (Fideicomiso para la Cobertura de Riesgos Cambiarios, FICORCA). This instrument not only enabled Mexican companies with dollar-denominated debt to renegotiate their external debt but also to hedge it against future exchange rate fluctuations.

The year 1985 was a landmark in the history of Banco de México with the issuance of a new Organic Law which conferred on it the power to set appropriate caps on financing. Other noteworthy characteristics of the law included enabling the central bank to issue its own debt instruments for monetary regulation purposes and freeing the monetary reserve from restrictions so it could be used directly for the purposes it was originally created for.

From 1987 to date, Banco de México, jointly with other authorities, has endeavored to bring inflation down, which has not been an easy task. Besides the obstacles posed by an external environment that has often played against it, and the mission the central bank set itself to eradicate the fundamental causes of inflation —public deficits financed by Banco México’s primary credit—, the central bank has had to overcome what is technically known as “inflation inertia”. This effort gave rise to a social agreement known as “Pacto”, which was very beneficial for the economy at the time. Under the stages of the “Pacto”, different social groups —government, businessmen and workers— agreed on price, wage and exchange rate discipline.

Banco de México today
The central bank, monetary policy and the theoretical and empirical knowledge under which the institution is framed is continually evolving. Banco de México’s ultimate modernization phase began with its autonomy in April 1994. Banco de Mexico’s autonomy means that no authority can demand credit from it, hence guaranteeing its uninterrupted control over the amount of money (banknotes and coins) in circulation. The purpose of autonomy is that the central bank’s operation be conducive to preserving the local currency’s purchasing power; that is, to keeping prices stable in the long term.

Banco de México’s autonomy rests on three pillars. The first is a legal pillar consisting of a constitutional mandate which establishes that its main priority is to foster the currency’s purchasing power. This objective is also specified in the law that currently governs Banco de México and was passed at the end of 1993. The second pillar consists of the integration of its Governing Board and the rules by which it operates. This collegiate body comprises a governor and four deputy governors who are appointed by the President but cannot be removed from their post at his discretion. They serve alternately. The governor serves for six years, starting in the middle of a six-year presidential term and ending after the first three years of the following presidential term. Deputy governors serve for eight years and are replaced alternately every two years. The third pillar is the administrative autonomy the law confers on the central bank.

Banco de México’s response to the financial crisis of 2008-2010 The global financial crisis erupted in the United States in mid-2007, through problems in the sub prime lending market, specifically in sub prime mortgages (credits characterized by a higher interest rate than that for borrowers with good credit ratings, as the risk of default is much higher).

The world’s main central banks had to intervene immediately in the market to supply ample liquidity. However, the U.S. stock market began to fall rapidly and collapsed at the beginning of 2008. At the beginning of July, the U.S. government and the Federal Reserve System announced the bailout of the country’s main mortgage intermediaries. These actions raised concerns among the U.S. most conservative groups, under the argument that these types of bailouts only deteriorate investors’ practices by promoting excessive risk taking backed up by public funds. Under such conditions, the world’s economies began to be seriously affected by credit shortage.

Despite being originated by external factors, the crisis soon became global. To reduce any negative effects on the Mexican economy, in addition to several financial and fiscal actions taken by the Mexican government, Banco de México implemented specific measures to:

• offset the contraction of economic activity;
• maintain financial market operations;
• preserve financial system stability.

Among many measures (for more details, consult Banco de México’s Inflation Report July-September 2008 and subsequent ones), the Foreign Exchange Commission decided to restart the central bank’s US dollars auction sales for up to 400 million per day, based on previously set rules, and reciprocal currency arrangements (dollar liquidity swap lines) were agreed with the U.S. Federal Reserve for 30 billion US dollars. In addition, The Foreign Exchange Commission determined that Banco de México would auction, on a daily basis, and at no minimum set price, up to 100 million US dollars from the 400 million US dollars auctioned daily, and also negotiated with the International Monetary Fund a Flexible Credit Line (FCL) arrangement for around 50 billion US dollars for one year. In 2011, the IMF extended this credit line arrangement to 73 billion US dollars for a two-year term.

Institutions are validated by the legal framework underpinning them, the policies that guide them, and the human beings comprising them. Since its creation, Banco de México has operated within legal frameworks —consisting mainly of its organic laws— conducive to the efficient development of its tasks. A key event in this regard was the April 1994 reform which gave the central bank its autonomy and ideal status for carrying out its fundamental task, which is to safeguard the stability of the national currency.

It is said that throughout its history, Banco de México has made many contributions to central banking practices and knowledge. By combining innovation with good techniques and pragmatism, the central bank has endeavored to contribute to Mexico’s progress by creating many mechanisms, some of which have already been mentioned.

Today, the confidence in Mexican banknotes and coins is undeniable, as compared with the revolutionary period, when only a few trusted the banknotes and coins circulating at the time. Today no one distrusts the soundness of the Mexican peso or questions if banknotes and coins will be supplied sufficiently. This is, undoubtedly, a central bank accomplishment after many decades. Furthermore, Banco de México has also contributed to society in important issues such as the development of modern electronic payment systems, regulation of banks’ fees, and information services that strengthen its commitment with transparency.

The Bank’s continuous efforts for more than 85 years have paid off. Although its original functions are still in force and operating, the central bank has modernized its processes and it now efficiently supplies the Mexican economy with safe banknotes and coins. Monetary policy, on the other hand, also contributes to both preserve macroeconomic stability and strengthen economic growth and the Mexican banking system. In addition, it promotes joint efforts with other authorities so that banks can operate in the proper conditions to pay checks and return any deposits savers have entrusted them with.

Throughout its history, Banco de México has faced many challenges and shown a great capacity to revamp itself and measure up with modern central banking standards. Banco de México provides safe and leading-edge electronic payment systems so that Mexicans are always able to use the most novel systems to make payments and transfers rapidly and safely. Among its recent functions, Banco de México must assure that fees charged to clients by banks and other financial intermediaries do not deprive the former of their rights and are consistent with the sound development of the financial system.

Banco de México has strongly committed itself with transparency and financial education by providing economic and monetary information to the public, in a systematic process and continuing effort to orient and explain monetary policy to different audiences. As a result, Banco de México nowadays is a sold institution that enjoys well-earned prestige and, indeed, contributes to Mexicans’ well-being.

Vision
To be a highly renowned, accountable and trustworthy institution intended to fully attain its mission on the basis of its transparency, technical capacity, and ethical commitment.

Mission
The main goal of Banco de México is to preserve the value of Mexico’s currency in the long term in order to improve Mexicans’ well-being.

Monetary Policy
Monetary policy is the set of actions taken by Banco de México to influence interest rates and inflation expectations in order to make price behavior consistent with the goal of ensuring an environment of low and stable inflation.
By pursuing an environment of low and stable inflation, Banco de México contributes to create the appropriate conditions for both sustained growth and the creation of permanent jobs.

Financial System
The financial system seeks for the efficient allocation of resources among savers and borrowers. A healthy financial system requires, among other things, efficient and solvent financial intermediaries, efficient and deep markets, and a legal framework that defines clearly the rights and obligations of all agents involved.

In order to foster the sound development of the financial system and protect the public interest, Banco de México permanently monitors the institutions that comprise this system, promotes reforms to the current legislation, and issues regulations according to its law.

Payment Systems
Payment systems are made up of a set of instruments, procedures, and rules used to transfer funds among participants. These systems are necessary for the financial system to work efficiently. Some of them are particularly critical in the sense that if their design is inadequate, they can magnify the transmission of one participant’s liquidity problems to others, thus disturbing the stability of the financial system. For this reason, one of Banco de México’s functions is to ensure that the domestic payment systems run properly.

Banco de México is authorized to issue regulations aimed at monetary and foreign exchange management, the sound development of the financial system, the proper functioning of the payment systems, and the protection of the public interest.

Useful links

Currency of Mexico:

Mexican peso

List of Central Banks:

Central Banks

Official website of Banco de México:

www.banxico.org.mx

Secretariat of Finance and Public Credit of Mexico:

www.shcp.gob.mx