(FORTUNE Magazine) – MEXICO will not be a place for the faint of heart to do business for some time. Buffeted by years of price freezes, currency devaluations, and other government decrees, business now faces the fresh uncertainties of a newly elected President caught between economic and political realities. The economic reality is clear: If Mexico is to end years of no growth and sliding living standards, Carlos Salinas de Gortari must make good on his promise to maintain the policies of his predecessor, Miguel de la Madrid Hurtado. That means favoring the foreign investor while imposing severe austerity on his own people. But the best of intentions may not be enough: The political reality is that only some fast work with the ballots saved Salinas from a run-off election with Cuauhtemoc Cardenas, his left-wing populist rival whose father fired Mexican nationalism when, as President, he seized the oil industry in the 1930s. The big question being asked by business leaders and investors is whether Salinas can avoid appeasing this newly risen force with policies that, at worst, could include: -- Boosting wages, thus blowing the lid off the austerity plan before its full benefits can be realized. -- Standing up to creditors by suspending interest payments and demanding concessions to reduce the foreign debt burden. -- Halting the program of selling off state-owned businesses and, in the extreme, renationalizing some already spun off. The worst case of all envisions a Mexican society, with a new political voice to galvanize its discontent, slipping into disruptive protests and anarchy. It is a grim prospect for the U.S., which shares 2,000 miles of border with Mexico and has an interest in seeing greater political stability throughout Central America. Such problems certainly would dash Mexico's hopes of attracting the foreign capital it needs if economic development is to keep pace with a rapidly expanding work force. Most observers believe that Salinas will avoid economic suicide. However painful, the six-year-old de la Madrid austerity plan has slowed the country's inflation rate, and the foreign trade surplus doubled last year to $8.4 billion. The course many economic experts recommend for Mexico now is to build on its greatest strengths -- its enduring appeal to tourists from all the world and its manufacturing relationships with its neighbor to the north -- while waiting for oil prices to rise. Mexico has the eighth-largest oil reserves in the world, and a dollar increase in the per-barrel price means half a billion dollars in annual export earnings. The experts also say Mexico should put aside its prideful insistence on making everything from toiletries to television sets at home. The country should concentrate instead on becoming the low-cost source of parts and subassemblies for U.S. companies, helping both nations find bigger world markets. In addition, Mexico must set aside its traditional mistrust of foreign business, an attitude that has kept major segments of Mexican industry in the hands of wealthy families and languishing in inefficiency. GIVEN MORE encouragement, foreign investors might flock to Mexico to take advantage of cheap ($3.50 a day) labor and a potential for domestic as well as export growth. For the truth is, many companies already there have done well despite chaotic government policies. Take Chrysler de Mexico, the biggest and probably most successful carmaker in the country. Since 1981, when the oil boom ended, domestic car sales have fallen by half and the government has ordered automakers to stop producing four-door cars, forbade them to introduce diesel trucks, and eight months ago announced an anti-inflation program that freezes car prices but doesn't freeze the cost of supplies. ''Operating here is like living on a knife-edge,'' says Charles Reickert, who heads the company, which is 99.9% owned by the U.S. parent. Chrysler is hardly in shambles, though. When business in Mexico dropped, the company used factories there to produce car parts and entire automobiles for export to the U.S. To assist Mexicans buying cars when interest rates were hitting 200% a year, Chrysler became the first automaker to make two- and three-year car loans. Helped by the price freeze, Chrysler's sales are running at several times last year's depressed rate, though margins have been squeezed. In short, the company is making money. ''If you're willing to accept the vicissitudes,'' says Reickert, ''you can survive.'' But the structure of the Mexican economy leaves most companies poorly equipped to operate effectively in global trade. Precise numbers aren't available, but it is estimated that shares traded on the Mexican stock exchange represent only 5% of corporate assets. The government owns about 30%. Aside from a vigorous underground economy that attracts everything from sidewalk peddlers to seamstresses, the rest of the nation's business is in the hands of well-connected families. Those government-controlled companies are no prize. Many are wildly overstaffed. Pemex, the government's petroleum monopoly, employs 220,000 workers -- twice as many as Exxon, which has twice the assets. To its credit, the Mexican government has been selling off many of these ''parastatal'' companies, or letting them die. When workers at Aeromexico went on strike for higher wages despite huge losses, de la Madrid let the airline go bankrupt, putting 11,600 people out of work. Mostly, though, the government is stuck with a lot of uncompetitive companies that will be difficult to unload. ''Buy one of those parastatals and you buy a nasty union problem,'' says one economist. Not that life for many government employees has been a picnic in the seven years since the oil boom ended. In 1982, Carmen Barro was making the equivalent of $48,000 a year working in a federal program to promote science and technology. Now she handles customer and public relations for a government-owned bank. Years of rapid inflation and peso devaluations have changed her lifestyle dramatically. ''Now I make the equivalent of $15,000 a year,'' she says. ''I used to travel abroad every two years and buy foreign clothes. I haven't done that in six years and make do with clothes from my old trips.'' The government tries to blunt the effect of inflation -- running at 60% to 160% a year since 1982 -- by ordering general salary increases, but they are not enough. ''If prices rise 10%,'' says Barro, ''a few months later I might get 3% more pay.'' Many big family-owned manufacturing conglomerates, protected by 40 years of high trade barriers, are competitive cream puffs. A Harvard MBA who went to work for a firm in Monterrey after several years at a U.S. bank says he is troubled by the inertia and lack of aggressiveness. Companies rarely compete with each other, and raiding talent is virtually forbidden. A bigger problem, he explains, is that the success of even the private companies often depends on government connections. ''It's not how hard you work, it's how big your ears are that makes the difference.'' One company in Monterrey got news that the federal government was about to lift price controls on beer, and ordered 50,000 cases. ''The next day the allowed price of beer rose 50%.'' THE DE LA MADRID policies Salinas inherits -- lower tariffs and fewer barriers to foreign investment -- force Mexican business to begin facing up to world standards. But that is difficult. ''They let the devil in,'' says Carlos Gottfried, head of Grupo Fuerza, a struggling Mexico City maker of electric generators and motors. ''Much of the technology we need doesn't exist in Mexico,'' he says. ''The schools have not produced the know-how locally.'' Cutting costs enough to be competitive internationally has been tough. ''We laid off nearly half our employees. But we're in a catch-22 situation. We can't lower unit prices until we get higher volume, and we can't get high volume until we lower prices.'' Thirty years with a near-monopoly position has left the company short of basic experience in salesmanship. Some of de la Madrid's reforms are beginning to have a positive effect. Reduced import restrictions are giving companies access to cheaper and better raw materials. ''I am slowly starting to see a change in attitude by my Mexican suppliers,'' says Raul Quintero, general manager of Estelar, a Mexico City underwear manufacturer. ''Now that we can buy abroad, my suppliers see they have to give me better quality and prices.'' Benjamin Clariond Reyes, part of the Monterrey family that owns Grupo Imsa, a diversified holding company, says he is getting better at exporting. The company sells steel guardrails used on Texas highways and just won a contract to ship a million car batteries to the U.S. ''In Mexico, we used to tell a customer that we would deliver our goods sometime in September. When we export, we learn we have to tell them what day it will arrive, and whether it will be there in the morning or afternoon.'' MEXICO NEEDS more success stories to help it obtain the $11 billion in foreign exchange required annually just to service its $103 billion foreign debt. It also needs sustained economic growth to give its populace some long- awaited payback for government-imposed hard times. A program to freeze wages and prices slashed annual inflation from 160% in 1987 to about 24% by midyear. But cuts in government spending associated with the freeze have economists predicting a recession next year. A turn toward stimulus could worsen the trade balance and destroy price controls. So far, the Mexican government has not threatened to stop foreign debt payments unilaterally, but a budget official likely to have a top position in the new Salinas administration says Mexico will ''negotiate aggressively'' to get creditors to write off 35% to 50% of the loans. Any default could cause problems for Mexican companies, especially those involved in international trade. ''Foreign banks would be reluctant to renew letters of credit,'' says one American banker in Mexico City. Mexico has $11.7 billion in foreign reserves it might provide to companies to help them avoid the breakdown in trade experienced by Brazilians after that country defaulted in 1983. ''But a default would still create problems,'' says the banker. ''It would be harder to attract foreign investment, Mexican capital flight could accelerate, and agencies like the World Bank and the International Monetary Fund would move slowly on any new loans.'' For the next few years Mexico's best prospects may be tourism and the maquiladora industry -- plants usually just south of the border that assemble parts from abroad and then export the finished products. Maquiladoras, which employ 350,000 workers in nearly 1,500 plants, have been growing an average of 14% a year for ten years. They are expected to contribute $1.6 billion of foreign reserves to Mexico in 1988. Tourism is rising steadily too. Encouraged by the strength of the dollar against the peso, which is worth 1% of what it was in 1981, five million tourists visited Mexico last year, 30% more than in 1985, and spent $2.3 billion. U.S. visitors pay about half as much as they do at home for lodging and meals. One American tourism executive grumbles, however, that inadequate sanitation and government restrictions on airline schedules are preventing a % tourism boom. Others are more optimistic. ''If current trends keep up, in ten years Mexico could pay all the interest on its foreign debt from tourism and maquiladoras,'' says Salvador Kalifa, a prominent Monterrey economist. Comprehensive industrial growth in Mexico, however, is years away. Though Mexico has started making exceptions, notably for IBM and for maquiladora plants, the country has blocked foreigners since 1973 from acquiring a majority of the stock in a Mexican company. ''Mexico could be a much stronger force,'' says Chrysler's Reickert, ''but high-technology companies are reluctant to invest large sums of money or transfer technology if they can't control it.'' Wealthy and influential families oppose new competition from abroad. ''I don't think the foreign investment laws should be changed,'' says Francisco J. Garza, president of Vitro Industrias Basicas, a big glass and equipment manufacturer in Monterrey. ''I think companies that want to sell only to Mexico should be 51% Mexican-owned.'' Even if Mexico industrializes rapidly, it will face increasingly stiff world competition. That is a major reason why the most practical approach for Mexico may be to avoid head-to-head competition with America on finished goods and instead become an ally, providing low-cost components. If the two countries develop better telecommunications and transportation links, American marketing and manufacturing know-how will inevitably flow south. For years, Antonio Villarreal ran a company that stitched leather covers on Canadian-made steering wheels. Now he makes his own steering wheels, which he exports to the U.S. ''We find an incredible niche as a component supplier,'' says Villarreal. ''We should push that hardest. That allows the easiest transfer of technology.'' The Mexican Revolution was started in 1910 partly because Mexicans believed there was too much foreign influence in the country. Carlos Salinas will have to engineer a revolution in basic Mexican thinking to change that attitude. Cuauhtemoc Cardenas will be watching suspiciously from the left.