The Scot insists he was right to allow the Honduras international to leave St Andrew's on the evidence of what he saw 20 months ago.
Palacios was brought to Blues for an initial loan period by McLeish's predecessor Steve Bruce, who announced his intention to make the move permanent.
But Bruce then left the club, Palacios was allowed to return home by City after the kidnapping of his brother and McLeish felt he had not seen enough of him to sign the player when he wanted to bring in a more experienced midfielder.
Palacios was reunited with Bruce at Wigan but then sold for £14million during the January transfer window to Tottenham, who host Birmingham on Saturday.
McLeish said: "Am I surprised at the impact Wilson Palacios has made? Absolutely. At the time, I had a couple of weeks to look at him and make my mind up.
"He had come back to Birmingham from a traumatic time regarding his brother - and subsequently he lost his brother - so it was a horrible couple of years for Wilson in private terms.
"Playing wise, we did see that he had a touch but I came in here determined to bring some experienced midfielders to the club."
McLeish added: "I saw Wilson and he played in a Birmingham Senior Cup game with Banbury and he looked okay, nothing more than that.
"I don't know if he was saving himself, knowing that he was going to go to Wigan!
"But I certainly was thinking, 'Will Wilson keep us in the Premier League?'
"If Wilson had stayed, it may have affected my budget and I think (co-owner) David Sullivan admitted it would. I wanted to bring in more experience. In the end, we got nobody so I probably shouldn't have let him go."
McLeish admitted: "You throw the dice sometimes. I couldn't say in (the) training time I had with Wilson that he was going to be a £14million player.
"People have said since, 'You can't spot players' but everyone - coaches at the club, chief scout, media - told me Wilson was an okay player.
"I was looking for someone who was experienced in the Premier League to help us stay up."