This article is part of a larger project (Urrutia and Llano, 2011) on the economic crisis in the last years of the twentieth century in Colombia (1998-2000). It had various causes including the international crisis in Asia and Russia at the time, the end of a local housing bubble and an accompanying banking crisis concentrated in institutions with a large loan book in real estate loans, and a persistent fiscal deficit. In this article we concentrate on the effects of the external shock, the resulting reform of the foreign exchange rate system, local and external interest rates, and the effect of these on aggregate demand. The depth of the crisis in terms of falls in GDP per capita and increases in unemployment was due to the fact that the reversal of capital flows coincided with a real estate mortgage and banking crisis. Another aspect of the article concerns how the external shock led to a reform of the foreign exchange rate regime and the way monetary policy was carried out for inflation targeting.
