Economic Policy Stabilization and Mexico’s 1994 Economic Crisis (Also known as “el error de diciembre”, The December Mistake). Alejandro Díaz-Bautista, Ph.D. adiazbau@hotmail.com Professor of Economics and Researcher

1. Economic Policy in Latin America April-June, 2008 Economic Policy Stabilization and Mexico’s 1994 Economic Crisis (Also known as “el error de diciembre”, The December Mistake). Alejandro Díaz-Bautista, Ph.D. [email_address] Professor of Economics and Researcher at COLEF Visiting Research Fellow and Guest Scholar 2008, Center for U.S.-Mexican Studies, University of California San Diego (UCSD). April 2, 2008 Graduate School of International Relations & Pacific Studies IR/PS University of California, San Diego.

10. Private Capital flow to Mexico (in billion USD)

31. Dornbusch Overshooting Model

36. Vector Error Correction and Cointegration Theory The finding that many macro time series may contain a unit root has spurred the development of the theory of non-stationary time series analysis. Professors Engle and Granger have pointed out that a linear combination of two or more non-stationary series may be stationary. If such a stationary, or I(0), linear combination exists, the non-stationary (with a unit root), time series are said to be cointegrated. The stationary linear combination is called the cointegrating equation and may be interpreted as a long-run equilibrium relationship between the variables. A vector error correction (VEC) model is a restricted VAR that has cointegration restrictions built into the specification, so that it is designed for use with nonstationary series that are known to be cointegrated. The VEC specification restricts the long-run behavior of the endogenous variables to converge to their cointegrating relationships while allowing a wide range of short-run dynamics. The cointegration term is known as the error correction term since the deviation from long-run equilibrium is corrected gradually through a series of partial short-run adjustments.

38. Díaz Bautista and Olivas Andrade (2003) Model Variables

39. Díaz Bautista and Olivas Andrade (2003) Capital Flight VEC Model

48. Economic Policy in Latin America April-June, 2008 Economic Policy Stabilization and Mexico’s 1994 Economic Crisis (Also known as “el error de diciembre”, The December Mistake). Alejandro Díaz-Bautista, Ph.D. [email_address] Professor of Economics and Researcher at COLEF Visiting Research Fellow and Guest Scholar 2008, Center for U.S.-Mexican Studies, University of California San Diego (UCSD). April 2, 2008 Graduate School of International Relations & Pacific Studies IR/PS University of California, San Diego.