10 years.21 The financing gap would increase correspondingly. Of course unanticipated increases in the price of oil would reduce the financing gap. Similarly, a one percentage point increase in international jnterest rates would increase the cumulative current account deficit by close to $6 billion over the period, with a matching increase in the financing gap. This sensitivity to international interest rates highlights the potential benefits of fixed interest debt instruments.

# III.2 Economic Considerations Underlving the Package Al

From the Mexican point of view, two considerations were important in judging any proposal: impact on cash flow and implied debt relief. On the one extreme, rescheduling, capitalization of interest due and new money have a one for one positive impact on cash flow but imply no debt relief. On the other extreme are reserve financed debt buy-backs in the secondary market: these imply debt relief equal to the amount of debt repurchased times the discount at which it is bought, but actually lead to negative cash flow effects in the year of purchase.

An alternative way of looking at cash flow effects is, to recognise that Mexico because of the external credit constraints, must have a higher discount rate than suggested by world interest rates. In that case, packages with equal discounted value when evaluated at world interest rates may have a different discounted value when evaluated at the Mexican, higher discount rate. In particular, packages that give the debt relief early on would be preferred on that criterion. Thus, a reserve based debt buy back would be worse than an equal present value (evaluated at world interest rates) cut in interest rates when evaluated at Mexican discount rates because of the early negative cash flow effect of such buy backs.

The impact of Central Bank reserve losses on the precarious exchange rate situation made reserve financed debt buy-backs ill advised. Any package thus had to come down to a combination of cash-flow oriented interestcapitalization/new-money schemes and debt-relief oriented debt exchanges. For similar reasons, debt reschedulings with relending provisions, like those incorporated in Brazil's package in 1988, were not advisable on a significant scale. In an economy with open capital markets like Mexico, a relending provision is tantamount to instantaneous prepayment at face value. Such an arrangements would thus not only involve no debt relief, but would also result in a major negative cash flow impact. The only way to avoid this is to restrict on-lending to public sector agencies.

Debt buy-backs can be distinguished by the asset being sold (or type of new debt issued) to finance the debt buy-backs. These could be publicly owned assets; examples are a reserve financed debt-buy back or debt equity swap involving a parastatal. When such schemes involve public assets, there are no fiscal problems since the public sector already owns the asset.

> ii Oil export volumes are projected to remain constant for the next six years. The oil prices mentioned refer to the average price of Mexico's oil exports. Recently, this price has stayed about $3.50 US$ below the price for West-Texas Intermediate.

A/ This Section draws on Pena and van Wijnbergen (1989).