Three essays on economic and financial modeling in Mexico

This dissertation consists of three essays that analyze different aspects of the contemporary Mexican economy, contributing to our understanding of the Mexican financial market and of the economic behavior of emerging countries. First, taking market prices of two financial instruments in the Mexican market (The Cete and the ajustabono) that directly depend on either the real interest rate or inflation expectations, I was able to measure the inflation risk premium. I find a significant inflation risk premium of 486 basis points on an annualized basis during July 1992 to March 1999. In addition, I analyze the time variation in inflation risk premium across the entire sample, finding that, in general the size of the inflation risk premium for each year confirms the existence of a positive inflation risk premium because of the inflation uncertainty prevalent in Mexico.; Second, this dissertation analyzes the inflation process in Mexico, recognizing that the variance of Mexico's inflation changes over time (specifically in 1982, 1988 and 1994) and can be modeled following the ARCH (Autoregressive Conditional Heteroskedastic) model. I find that the inflation in Mexico follows an ARCH process from 1978 to 1999 and an ARCH(M) process from 1989 to 1999. I find that the process that better models the conditional variance from 1978 to 1988 is an ARCH (2), and from 1989 to 1999 an ARCH (1). In both periods, the exchange rate parity is significant in the conditional variance and in the mean of the inflation. The significant variables to explain the inflation during 1978 to 1988 are two inflation lags, the exchange rate parity and the money supply (M1). These same variables, along with wages, are significant in explaining the inflation during 1989 to 1999.; Finally, this dissertation studies the relationships among financial activity, real economic activity and monetary factors. Using Granger type causality, I investigate lead lag relationships among the IPC (Indice de Precios y Cotizaciones) returns of the Bolsa Mexicana de Valores (BMV), Industrial Production and the money supply (M1). I find{09}2 evidence indicating that the stock returns of the BMV are a leading indicator of future Mexican real economic activity measured by the Industrial Production; and money supply (M1) plays a significant role in leading the stock returns of the BMV and the real variables measured by Industrial Production. I find an asymmetric response in the Industrial Production when there was a negative percent change in the BMV returns, and significant asymmetric responses in the Industrial Production and Cete interest rate when a negative percent change in money supply occurs.