10 Lessons from Bank Privatization in Mexico

Timothy Lane, D. Folkerts-Landau, and Gerard Caprio
Published Date:
June 1994
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Guillermo Barnes1

This paper reviews briefly the Mexican experience with bank privatization. The success of bank privatization in Mexico has been facilitated by the macroeconomic stabilization policies pursued over the past few years, the relatively strong financial position of Mexican banks, and the good prospects for economic growth and expansion heralded by the closer ties with the United States and Canada under the proposed North American Free Trade Agreement (NAFTA). But the effectiveness of the privatization program has also been based on the promulgation of clear principles and objectives and the adoption of transparent and credible procedures. The Mexican experience is summarized in nine lessons that may be relevant for other developing countries contemplating similar exercises.

The first and perhaps most important lesson is that privatization conditions and the strength of the financial system are directly related to the general performance of the economy. The Mexican economy grew at an annual average rate of 3.8 percent in 1989–91, and the rate of inflation fell from almost 200 percent in 1987 to 18 percent in 1991. The sustained nature of economic growth marked the end of a long period of economic crisis in Mexico and allowed for a better privatization framework and strong financial deepening.

In 1983 the country was facing a stagnant economy, severe macroeconomic instability, high inflation rates, and an increase in public sector debt. These were partly the consequence of imbalances caused by public sector policies, increasing real international interest rates, and the collapse of oil prices in the early 1980s. The second type of imbalances were structural inefficiencies generated, first, by an oversized public sector that owned too many state enterprises and overregulated the economy and, second, by protectionist trade policies that reduced foreign competition and weakened industrial competitiveness.

To solve these problems, Mexico adopted a severe adjustment program to stabilize the economy. During 1983–87 fiscal and monetary policies were tightened, with a particular emphasis on fiscal adjustment. The program’s early achievements were considerable: the primary fiscal balance, which excludes interest payments, moved from a deficit of 7.3 percent of GDP in 1982 to a surplus of 6 percent in 1991; and public expenditure was reduced sharply during the same period.

The administration of President Salinas, which took office in December 1988, continued and tuned the prior administration’s economic strategy to emphasize macroeconomic stabilization, structural reforms, and the reduction of poverty. The stabilization strategy was based on macroeconomic programs that included tight fiscal and monetary policies, a revised wage and price control agreement between the Government, business, and labor, and the strengthening of the balance of payments. Stabilization policies were designed to increase the public sector primary balance, which averaged a surplus of 7 percent of GDP in 1988–91; renegotiate Mexico’s foreign debt to reduce the problem of excessive Mexican savings transferred abroad; reduce domestic credit to the public sector and maintain a crawling exchange rate to lower inflation further; maintain relative prices according to demand and supply conditions, avoiding indexing and reducing inflationary expectations; and obtain economic agreements among different sectors to distribute evenly the social costs of adjustment.

In November 1991, the Government sent to Congress the budget for 1992. This was the first budget in recent history that showed a public sector surplus after including interest payments on domestic and foreign debt. For 1992, the public sector surplus, excluding future privatization proceeds, was estimated at 0.8 percent of GDP. Fiscal balance has helped achieve a decline in the rate of inflation to less than 1 percent a month. During 1992, inflation was expected to be close to 10 percent. Real GDP was expected to grow at a rate of 3.5 percent. Investment, the main source of economic growth, showed an increase of 10 percent in 1991. Private investment was expected to grow at an annual rate of 12 percent in 1992. Real expansion of savings has permitted a large accumulation of international reserves and a further increase of credit to the private sector. The financial sector reacted according to the general performance of the economy. In 1991 the percentage of financial intermediation to GDP reached 44 percent. This figure was 33 percent in 1985. Lower inflation, economic growth, and a higher degree of stability increased the demand for financial assets. See Charts 1, 2, and 3 below on inflation, GDP growth, and the ratio of M4 to GDP.

Chart 1.Inflation

(Monthly rate)

Source: Banco de México.

Chart 2.Growth of Real GDP

Source: Instituto Nacional de Estadística, Geografía e Informática.

Chart 3.Ratio of M4 to GDP

Source: Banco de México.

The second lesson is that privatization has to be complemented by a general structural transformation oriented to improve efficiency and productivity. The financial sector reforms have to be consistent with the general structural trend of the economy.

The Mexican macroeconomic stabilization program was complemented by a profound structural reform to increase productivity and improve overall market performance. It was based on several strategies: trade liberalization, foreign investment promotion, privatization of state enterprises, deregulation, fiscal reform, and financial sector reform.

Today Mexico is an open and competitive economy. Trade liberalization policies evolved from a system based on import permits and quantitative restrictions to a general system based on tariffs. As a result, resources have been reallocated to highly competitive sectors and protection rents have been eliminated. Companies based in Mexico have access to raw materials from abroad at competitive prices, which has allowed them to become internationally competitive and has fostered non-oil exports.

Foreign investment plays an important role in Mexico as it complements domestic capital. To promote foreign investment, regulations were revised, and administrative procedures for approving foreign investment projects were simplified. Foreign investment is encouraged, since it complements domestic investment with new technology, efficient market strategies, and modern management. Foreign investment also enhances Mexico’s export capacity and provides domestic employment.

Privatization plays an important role in the overall economic strategy. Mexico wants a strong and efficient public sector based on law and justice, not on the ownership of public enterprises. The public sector will maintain ownership and control only of those strategic sectors as defined by the Mexican Constitution. The privatization policy has several objectives: to increase aggregate economic efficiency and productivity; to promote private investment and technological change; to reduce pressure on the public budget; and to make available public resources to increase infrastructure and social investments. From 1,155 firms owned by the Government in 1982, including 18 commercial banks, Mexico still maintained ownership of 227 public enterprises in 1992 (Chart 4). In terms of value the cumulative sales had reached approximately $13 billion (6 percent of GDP) up to 1991. These resources have allowed for better economic conditions in the country.

Chart 4.Divestiture of State-Owned Firms

Source: Secretaria de Hacienda y Crédito Público.

Deregulation is another important element of the economic strategy. The basic objective is to create rules that promote business and entrepreneurial activity. As long as an economy remains overregulated, the cost of doing business is increased. The Mexican goal is to liberalize the economy and improve resource allocation and efficiency. This policy has helped curb domestic price increases through greater competition. More generally, it has contributed to the establishment of a competitive market incentive structure for the private sector.

The objective of fiscal reform is to increase the efficiency and equity of the tax structure. On the one hand, tax rates have been reduced to a maximum level of 35 percent, which is considered an internationally competitive standard. On the other, the tax base has been expanded by including sectors that were traditionally excluded. Tax evasion has also been reduced. Lower rates and a broader base tend to increase the equity of the system. Tax revenues have increased as a percentage of GDP. These policies have fostered the fiscal performance and the primary public sector surpluses observed in the past years.

The third lesson concerns the financial sector directly. The reforms must improve the competitive economic conditions and enhance the overall efficiency of the financial system. The liberalization has to include operational and legal reforms.

In 1988, Mexico deregulated interest rates by eliminating controls of rates and maturities on all traditional bank instruments. Restrictions on loans to the private sector were also eliminated, and lending at below market interest rates to the public sector was discontinued. Financial reforms included changes in the reserve requirement system. Reserve requirements on deposits in pesos were initially replaced by a 30 percent liquidity ratio, which has since been reduced to zero. Foreign exchange deposits maintain a 15 percent reserve requirement. Today, government instruments held to satisfy a voluntary liquidity ratio earn market interest rates and are fully tradable.

To enhance the operating efficiency of banks and their ability to respond to changing market conditions, bank management was given more flexibility through the creation of boards of directors with the power to oversee all operating and investment decisions faced by management.

In December 1989, to foster financial liberalization and strengthen banks and other institutions involved in credit and stock market operations, Congress approved wide-ranging institutional reforms. The measures were intended to increase competition and reduce forced market segmentation by expanding the scope of activities permitted to different types of institutions. They also allowed a greater degree of integration in the delivery of financial services.

The reforms also eliminated government regulation of insurance premiums and policies and deregulated and simplified the operation of mutual funds. In addition, restrictions governing foreign investment in financial institutions were relaxed. In summary, modernization of the Mexican financial system was based on the liberalization of instruments and institutions and was complemented by better government supervision of financial institutions.

Privatization of commercial banks in Mexico required a new legal framework, specially designed for private institutions. This principle provides the fourth lesson: privatization of banks can be carried out only with a solid and well-defined legal structure.

In 1990, the Government launched two major initiatives to allow the privatization of commercial banks and to establish the framework for the formation of integrated financial groups, envisaged as the main organizational structure of financial markets. On May 2, 1990, President Salinas submitted a bill to Congress to amend Articles 28 and 123 of the Constitution, permitting full private ownership of commercial banks.

The new Credit Institutions Law, enacted in July 1990, allows commercial banks to be majority owned and controlled by the private sector. To ensure Mexican control of banks, four classes of bank shares are provided for: “A” shares, which have to be at least 51 percent of the ordinary capital, can be held only by Mexican individuals and are related to the strategic control of the bank; “B” shares, which can be up to 49 percent of the ordinary capital depending on the number of “C” shares issued and can be held by Mexican individuals, Mexican corporations, and mutual funds; “C” shares, which can be up to 30 percent of the ordinary capital and can be held by Mexican individuals, Mexican corporations, and foreign investors; and “L” shares, which represent the additional capital and can be issued in an amount up to 30 percent of the ordinary capital. These shares can be held by the same investors as “C” shares, but have limited voting rights.

The law regulates banking and establishes the terms under which the state exercises supervision and control over the banking system. Before nationalization in 1982, the financial system was dominated by a few large banks with strong links to major industrial groups. The new regulatory provisions are intended to limit the concentration of credit risk, ensure the separation of interests between banking, industry, and commerce, and avoid conflicts of interest in the management of banks. Prudential regulation and supervision of banks are strongly emphasized. A comprehensive system for classifying loans according to their inherent risk was implemented by a requirement to create specific reserves for loan losses on nonperforming loans. In 1991 Mexican banks were obliged to constitute over a two-year period general reserves for up to 1 percent of the average balance of their loan portfolio.

The fifth lesson is that legal reforms should lead to structures that encourage solid and efficient financial intermediation. Mexico adopted financial legislation that opens the possibility of establishing a system of “universal banking.” The law pertaining to financial groups regulates and permits the formation, under a common structure, of groups of companies performing different financial functions such as banking, insurance, brokerage, and other services. It brings to an end the traditional separation of banking from other types of financial activities and, in particular, allows banks and brokerage houses to come under the control of a single holding company.

But to limit the concentration of risk, ensure the adequacy of capital, prevent the pyramiding of capital, and avoid conflicts of interest within the groups, the legislation restricts the presence to one type of intermediary within a single financial group and prohibits members from investing in each other’s or the holding company’s stock.

The sixth lesson is related to the special characteristics of privatization. To encourage ample participation and ensure fairness, the process must be trustworthy. Clear objectives and precise rules for the entire privatization are essential.

The privatization of the banking system was initiated by a presidential decree and its objectives were to create a more efficient and competitive financial system; guarantee diversified participation and ownership of banks to promote investment in the financial sector and guard against ownership concentration; ensure high ethical standards and competence of bank management and obtain adequate capitalization levels; ensure Mexican control of banks without excluding foreign involvement; promote decentralization and regional participation in the banking institutions; obtain a fair price for the institutions in accordance with valuations based on homogeneous and objective criteria; achieve a balanced financial system; and promote fair and healthy financial and banking practices.

To oversee the whole process and bring it to fruition, a Bank Privatization Committee was formed by presidential decree. The Committee included government officials from all areas related to financial activity. The main responsibilities assigned to this group were to establish criteria and general policies for the process; formulate a specific strategy for the sale of each bank; ensure transparency of the process with periodic communications to the public at large; hire external advisors as needed; and benefit from international experience in banking privatization.

The mechanics of privatization should be consistent with the legal framework and specific guidelines of the banking system. The seventh lesson is that the mechanics of privatization should be adequately prepared before the process begins.

The Mexican bank privatization consisted of four main stages. The first—preparatory actions—included qualifying and selecting the bidders by the Committee; writing each bank’s sale prospectus; and announcing the auction and its rules. The selection of bidding groups aimed to ensure that potential investors were experienced and of high moral standing and able to make a positive contribution to the future growth of the banks. Only approved groups were allowed to participate in the auctions for each bank. More than 44 groups were approved, and they presented in total 133 solicitations to acquire a bank. Each bidding group consisted of a core group that was allowed to invest in “A” shares. No foreign investors were included in the bidding groups, although after the completion of the privatization, foreign investors were invited to participate in the ownership of different banks.

During the first stage, several valuations were prepared for all banks. Each bank had an accounting valuation prepared following standard criteria. In addition, two independent financial valuations were made for each bank with the assistance of external advisors of international prestige. Obtaining objective valuations of banks is always a difficult exercise because of the information problems associated with assessing the performance of commercial and industrial loans. However, unlike the current situation in most developing countries, Mexican banks were fortunate that at the time of the privatization they had relatively low volumes of nonperforming loans. To some extent, this resulted from the past imposition of heavy reserve and investment requirements on banks that forced them to allocate a disproportionate amount of their resources to government bonds. In addition, during the nationalization period, banks were encouraged to consolidate their operations and to build adequate reserves against loan losses. The number of banks was reduced from 60 at the time of nationalization to 18, of which 6 were nationwide institutions, 7 were multiregional banks, and 5 were regional banks.

Once the auction was announced, the second stage began. It consisted of the due diligence process carried out by each bidder. Qualified bidders gained access to the process if they made a deposit and signed a letter of confidentiality relating to all information obtained. Equal access to information, bank visits, and management interviews was given to all bidders. The Committee supervised the due diligence activities throughout.

The auction itself was the third step. After the due diligence process was completed, qualified bidders presented their bids. Fairness was guaranteed by the presentation of all bids at the same time in the presence of public notaries. The Committee reviewed the bids and selected a winner based on the highest price offered, provided that this price was higher than the valuations determined previously by the Committee. In case of a tie, the following items were considered in awarding the bank: business plan, capitalization plan, and the regional presence of the bidders. All winning bids were those with the highest price offered.

The final stage in the process was the sale itself. The sale was decided by the spending-financing commission of the Federal Government, following the Privatization Committee’s recommendation. The Government transferred its shares to the winning group once the group had paid the total value offered.

Thirteen months after the selling process was initiated, control of all 18 banks had been sold for $13.5 billion. The prices achieved were a result of the state of the banking system and of each individual bank. In all cases, the prices were higher than the valuations obtained by the external advisors. The weighted average price/earnings ratio amounted to 14.5. In the United States and Europe an average of comparative bank acquisitions in the last five years reached a price/ earnings ratio of 14. The weighted price/book value ratio was 3.08 compared with an international average of 2.2. The price range obtained reflects the health of the banking system, the modern legal framework, and positive expectations on the future performance of the Mexican economy.

In addition to the quantitative results mentioned above, other important objectives have been obtained. In particular, a diversified ownership of the capital stock of the banks has been achieved. More than 130,000 private investors, including employees through special trusts, have participated, while no individual investor has more than 10 percent of the stock of any bank. Also, the regional presence of the banks has been strengthened. The new bank owners come from all states in the country. They will link the banks with their local economies and customers.

The eighth principle is that sales have to be in cash, and privatization revenues have to be used for permanent welfare improvements.

Privatization should be an irreversible process that intends to transfer the ownership of assets from the government to the private sector on a once-and-for-all basis. Selling for cash is a transparent way of cutting the relation between the firms and the government, preventing future unpaid balances, or granting some type of government credit to finance the purchase of the firms.

Once the sale is completed, the destiny of the transitory revenues of the sale has to be decided so that they have a permanent impact on public finances. Prudence suggests that once-and-for-all revenues should not be used to finance current spending but should be used to reduce government outlays on a permanent basis. In the Mexican case the stock of internal debt as a percentage of GDP was reduced from 24.4 percent in December 1990 to 17 percent in December 1991, using proceeds from privatization. This figure was expected to decline further, to 13 percent in 1992. A smaller public debt reduces government outlays on interest payments and allows a transfer of government outlays to social programs.

The last lesson is that commonsense rules have to be followed for the privatization experience to be successful. Such rules include

• Start by privatizing small firms. There are several reasons to be prudent about the timing and the sequence of any privatization. Learning the technical facts takes time and it is important to minimize risks. Mistakes made in selling a small firm are less important than those made in privatizing a large bank, the telephone company, or a major airline.

• Ensure economic certainty and build confidence through macroeconomic stabilization and market-friendly regulatory and structural reform. These conditions allow public sector firms to be sold at higher prices. The timing and planning of the strategy requires both a stabilization program and a privatization scheme.

• Centralize the management of the privatization process. In practice this means having a single responsible office that would preside over the firm’s board and the general manager, establish the proper strategy, deal with all potential buyers, and supervise all legal requirements.

• Ensure honesty and transparency in the whole process. Credibility has to be gained and people have to know that everything is being done honestly and according to the law. Detailed information, which includes characteristics of the buyer and the forms of payment, has to be given to the mass media. Congress and the General Comptroller must be briefed continuously.

In conclusion, it can be claimed that the bank privatization process in Mexico has achieved all its short-term objectives and has also laid the foundations for the pursuit of the longer-term objectives. Among the former, the privatization process has succeeded in ensuring Mexican control of banks with diversified ownership and regional participation. It has also obtained high but fair prices for all the banks. As regards longer-term objectives, bank privatization has laid the foundations, in conjunction with the reform of bank and financial regulations, for creating an efficient and competitive, but balanced, financial system, enhancing operating efficiency and ethical standards, and developing fair and healthy banking and financial practices.

Table 1.Bank Privatization in Mexico(Billion new pesos)
On Day of Sale
BankDate of










Bancreser8.16.91425.13100.00163.552.608.4550.4646 68.75
Standard deviation0.789.715.20
Weighted average3.0814.3412.48
Source: CB First Boston.

Profits over the last 12 months.

Estimates based on annualizing profits accumulated up to the date of sale. For Serfin, Comermex, Somex, Internacional, and Bancen, expected profits were obtained from the Annual Operating Plans.

In April 1991.

In April 1991. The profits for 1990 were much higher, at MexN$41 billion, yielding a price/earnings ratio of 13.3.

June 1991.

In June 1991. Profits include revaluation gains on fixed assets.

In July 1991.


In September 1991.

In December 1991.

In January 1992.

In February 1992.

In March 1992.

In May 1992.

Source: CB First Boston.

Profits over the last 12 months.

Estimates based on annualizing profits accumulated up to the date of sale. For Serfin, Comermex, Somex, Internacional, and Bancen, expected profits were obtained from the Annual Operating Plans.

In April 1991.

In April 1991. The profits for 1990 were much higher, at MexN$41 billion, yielding a price/earnings ratio of 13.3.

June 1991.

In June 1991. Profits include revaluation gains on fixed assets.

In July 1991.


In September 1991.

In December 1991.

In January 1992.

In February 1992.

In March 1992.

In May 1992.


Diana McNaughton

Mexico’s bank privatization, one of the fastest and most far-reaching to date, was arguably one of the most successful financial operations in recent years. Eighteen banks were privatized within a period of 13 months at prices that reached up to four times book value. As a component of a comprehensive reform package, the Mexican bank privatization case serves to illustrate the important connections between macroeconomic policies and microinstitutional issues.

Since the theme of this conference is building sound finance in emerging market economies, it is fitting to assess Mexico’s bank privatization in the light of three questions:

  • (1) What conditions contributed to this rapid and financially successful privatization?
  • (2) How applicable is the Mexican experience to other countries?
  • (3) What have been the effects of Mexico’s privatization: on the cost of financial intermediation, on competition, on innovation in financial services, and finally, on the financial health and risk profile of the banking system itself?


The Mexican bank privatization took place within the context of favorable macroeconomic and real sector conditions. Highly credible macroeconomic adjustment policies, improving economic performance indicators, enterprise restructuring and privatization, substantial regularization of enterprise debts, and prospects for increasing North American economic integration all increased the marketability of Mexican banks.

The timing of the Mexican privatization appears to have been good from several perspectives, as outlined above. It is not entirely clear, however, that the amount of financial restructuring of the banks prior to privatization was sufficient. Therefore, there is some risk that the new owners may turn back to the Government for compensation on nonperforming loans at their book value at the time of privatization as has been done in several other cases. This is a fair practice when the purchasers are not able to undertake in-depth on-site loan portfolio reviews before purchase.

Another important aspect of timing is the sequencing of the strengthening of banking supervision. In Mexico, supervision must be capable of overseeing the newly privatized banks and the financial conglomerates to which they belong. Strengthening supervision is being undertaken after privatization, though awareness of its importance is high in Mexico and any deficiencies are being remedied. Timing is an issue that plagues bank privatization in many countries. Premature privatization is becoming as serious a problem as premature bank restructuring that is improperly phased with reforms in the real sector and enterprise restructuring.


Economic conditions prevailing in Mexico at the time of the privatization were highly favorable to a rapid and a remunerative sale of the banks. A number of other conditions also favored this privatization. Among them were the improved financial condition of the banks as a result of the conditions outlined above and their relative efficiency and good management. The Mexican banks were largely immune from the serious “heritage” problems of East European banks, for example.1

Moreover, there was a substantial accumulation of Mexican capital available for strategic investment. Consequently, it was possible to attract strategic domestic investors to become the active owners, taking a leadership role in transforming the banks, as opposed to a totally fragmented ownership of small shareholders, none of which takes a leadership role in bank management and transformation.2 These conditions made it possible to proceed with a domestic privatization and thus dodge the political obstacles involved in selling national banks to foreign banks.

Finally, competitive conditions within the country substantially increased the franchise value of Mexican banks. For years before privatization, entry had been severely constrained, and there were no private domestic banks, no joint ventures, and only one foreign bank operating in the Mexican market.

It appears that Mexico largely avoided the rush to premature bank privatization so prevalent in other countries. The timing was favorable in terms of economic conditions as well as in terms of the real sector’s condition. It is not clear, however, how deeply enterprise restructuring served to improve the quality of the banks’ loan portfolios or how much information the purchasers had about the specific loans within those portfolios. Thus, as indicated above, the revenue from the sale may need to be adjusted as the Mexican authorities compensate the new bank owners for losses enmeshed in bank portfolios at the time of sale.

In addition, it is not clear that the Mexican supervisory authorities were fully prepared to regulate and supervise the newly formed financial conglomerates. New risks have been built into the Mexican banking system in the form of group ownership of banks, the creation of financial conglomerates with their potential for interlocking risks, and a perceived reduction in the government liability for deposit coverage resulting from the privatization of the banks.


Was the Mexican bank privatization successful? It was fast. It was remunerative. Proceeds of approximately $11 billion contributed substantially to Mexico’s debt reduction. But how does one measure the success of such an undertaking? I think success is to be measured by its relationship to objectives. Clearly, the objectives must include improvement in the quality of banking services, in the pricing of financial intermediation, and in the safety and soundness of the banking system itself. In this case it may be premature to offer an opinion.

It is clear that the macroeconomic context and country circumstances were highly favorable for bank privatization. It is not at all clear why the purchasers paid such a high price. Nor is it clear that the prevailing regulatory and supervisory framework is adequate to ensure the safety and soundness of the privatized banks, which, if uncorrected, poses risks for the banking system. Finally, it is not yet clear what effect the privatization has had on the functioning of the banking system and on the efficiency of financial intermediation.

The overarching objectives in any bank privatization should be enhanced competition, greater efficiency, innovation, better service, and in general improved financial intermediation. Anecdotal evidence suggests that service has not improved and spreads remain high as the new owners strive to recoup their investment. Thus, the big questions remain unanswered, including one of the most puzzling: Why did the buyers pay such a high price? Also, what effect will the transaction have on the future of the Mexican banking system?


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This paper is based on two presentations made to seminars organized by the World Bank’s Financial Policy and Systems Division and the Economic Development Institute.


The “heritage” problem encompasses old staff, old portfolio, and old systems.


Time will be needed to assess the “quality” of the banks’ new ownership. Results will be demonstrated in the financial condition and performance of the banks and in the quality and price of the financial services they provide.

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