A Defense of Latin America's Free Market Reforms
Economist Sebastian Edwards takes on the pessimists and offers his own critical but supportive view of the market-based economic reform process and commitment to globalization that began in Latin America in the 1980s.
Published: Wednesday, May 28, 2003
[The following is a slightly abridged edited text of the eighth session of Honors Collegium 155, given in Dodd Hall at UCLA May 21 by Sebastian Edwards, Henry Ford II Professor of International Business Economics at UCLA's the Anderson Graduate School of Management. From 1993 until April 1996, he was the Chief Economist for the Latin America and Caribbean Region of the World Bank. He is also president of the Latin American and Caribbean Economic Association (LACEA), an international professional association of economists with academic interests in Latin America and the Caribbean region. This session had been titled "Latin America: The Forgotten Crisis?" The subheads have been added.
[Sebastian Edwards' latest books are Preventing Currency Crises (co-edited with Jeffrey Frankel, U. of Chicago Press, 2002), The Economics and Political Transition to an Open Market Economy: Colombia (OECD, 2001), and Capital Flows and the Emerging Economies (U. of Chicago Press, 2000). This unusual 10-part seminar for undergraduates is also open to the general public. The class is sponsored by the Ronald W. Burkle Center for International Relations.]
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It is a big honor for me to be here, to be able to have a conversation with you on some of the issues that are important for Latin America. But not only for Latin America, also for the emerging world as a whole.
The Forgotten Region
Let me start by making some remarks regarding the title of this talk, and I am not sure who suggested that title. It may have even been myself. But the title is "Latin America: The Forgotten Crisis?" And it seems to me that in spite the very clear geopolitical importance of Latin America that throughout the first half of the Bush administration Latin America became not a forgotten crisis but a forgotten region. It started with president elect Bush telling President Fox from Mexico, "Mi casa es su casa." And that was about it.
Latin America was the only region in the world that was not mentioned even once by the President in his State of the Union message a few months ago. Latin America continues to be a region that is politically neglected. The number-one official at the State Department that deals with Latin American issues, who was appointed at the beginning of this administration, was an able Cuban-American diplomat called Otto Reich. Very controversial. He was not confirmed and was actually kicked up to the White House. Otto, whom I know fairly well, has many aspects of his past, including some dealings with the Contras during the Central American and the Nicaraguan upheaval during the 1980s. But more than that, he is a guy who does not know how many players play on each side in a soccer team. He is a baseball man, being from Venezuela. And you cannot have someone running the Latin American desk that doesn't understand soccer, or as it is called, rightly so, in Latin America, football.
His replacement, Mr. Roger Noriega, is someone that I really have nothing against at the personal level, but he definitely does not have the stature that would be required if you want to deal at a high level with a particular region.
Bush Snubs Brazil
Here is a third vignette that tells you where in the hierarchy of important regions Latin America is for administration, in spite of all the rhetoric and Miguel Estrada and so on and so forth. For the inauguration of President Lula -- the first union leader to be a president in the Americas either North or South; the president of the 9th or 8th, depending on the exchange rate, largest economy in the world; the president of the country that has won the World Cup five times (and that is not an easy thing to do); the president of a country who, because of his credentials and his past as a really bonafide left-wing leader, could have meant a lot of problems for the relations between Latin America and the U.S. -- no senior cabinet official from the U.S. attended.
The Brazilians were expecting, at the least, the Vice President. Maybe the Vice President, because of security reasons, was not allowed by the Secret Service to travel. The Brazilians then were expecting to have the Secretary of State. They didn't get either of them. They got Bob Zellick, who is very important in the administration because he is the trade representative. The main policy and the main attitude that this administration has toward the emerging world is one that has to do with trade rather than diplomacy, trade rather than politics, trade rather than culture. And believe me, the Brazilians were offended. They did not like it, and the relationship that could have been, or still could be, very very positive did not start very well. So Latin America has been a forgotten region so far for the administration, which I think of course is a big problem.
Globalization and the Latin American Free-Market Reforms
But this is not what we are going to be focusing on today. What I want to talk about is what can we say about the Latin American experience with respect to the whole issue of globalization, economic prosperity, politics, and the like. What I would like to do is divide my remarks into three parts. I would like to talk about the beginning and the background for the Latin American free-market reforms that started sometime in the mid or late 1980s. Then I would like to talk about the criticisms that we have heard about the reforms from a number of people, including in particular Joe Stiglitz, the Nobel Prize winning economist from Columbia University. And I will finally say a few words about the current conditions in Latin America and what we can say about the future of the region.
Before proceeding, let me tell you for those of you that don't know, that Latin America and the Caribbean is comprised of 33 different countries, one of which is a nondemocracy, that is Cuba. And 32 of which are democracies that function at different levels of proficiency and different levels of transparency and the like, but nonetheless we have 32 democracies in Latin America, plus Cuba. That is unprecedented in terms of the last century history of the region. And in spite of all the upheaval and the problems in countries such as Ecuador, countries such as Argentina, Venezuela, and the like, democracy during the last ten years has proven to be incredibly sturdy and to have been able to withstand all sorts of crises and problems. And Argentina is going to have, next week, a new president who was the winner, in a way, of free elections. Maybe a winner by walkover more than anything else, but a winner nonetheless.
The Washington Consensus Was Not Made in Washington
Let me start then with the background and the genesis of Latin American reforms. In 1993 a Washington-based think-tank economist called John Williamson announced the birth of what he called the Washington consensus. A few months ago, John Williamson, in Milan, Italy, announced the death of the Washington consensus. I think it was quite efficient and effective that it was the same person who announced both the birth and death, and that there was a decade in between, so it was a solid decade of the Washington consensus.
Both announcements were a great exaggeration and were really not taking seriously the texture and the granularity that Latin America has as a region. The Washington consensus for those of you who may not remember what it was, was the name that was given to the economic reforms that started being implemented in Latin America at the end of the 1980s. The term has become extremely popular among the media and in particular among the critics of the reforms. John Williamson coined this phrase because he was putting together the introduction to a volume that had a number of papers that had been presented at a conference that he had organized. There were a group of us including myself having a beer at some bar in Washington and John said, well, I'll call this the Washington consensus since the conference was in Washington. And then on a napkin he wrote down the ten particular commandments, as it came to be known. But basically the ten most important characteristics of the Washington consensus.
And from there on this notion acquired a life of its own. The economic reforms in Latin America were implemented during the late 1980s in some countries, and throughout the first three quarters of the 1990s throughout all of the region. These were economic reforms that moved Latin America toward capitalism and a market orientation and globalization. And the notion that followed the reforms was that behind the Washington consensus was that these reforms had been dictated from Washington, that they had been thought up and were the brainchild of the multilateral institutions: the International Monetary Fund, the World Bank, and the U.S. Treasury. It was believed that these three institutions had imposed these reforms on the Latin American countries. Anyone who knows anything about Latin America or about economic reform or about the multilateral institutions or about the bureaucracy or about Washington knows that that is not true. It is the greatest simplification that we have seen in the history of ideas on economic reform in emerging markets in the last, I would say, twenty to thirty years.
The reforms in Latin America were the brainchild of Latin American economists. They were designed in some countries, implemented at a speed that astounded the bureaucrats in Washington, and in many cases they were implemented in spite of the strong opposition of the World Bank, the IMF, and the U.S. Treasury.
The Reforms Were Invented in Mexico, Argentina, and Chile
The Latin American reforms were the result of a reaction, in Mexico, in Argentina, and in Chile, to the incredibly ineffective stage at which the previous Latin American economic model had arrived. They were based on very simple ideas that, as I said, were much more audacious than anything that any bureaucrat at that time would have thought in Washington.
The IMF, for instance, strongly and in writing opposed the privatization of social security in Chile. The IMF and the Treasury strongly opposed, and in fact opposed until very late in the game, the currency board that tied Argentina's currency, the peso, to the dollar in a one-to-one exchange rate. And the World Bank and the IMF were extremely nervous about Mexico's move toward a free trade agreement with the U.S., and Mexico's very fast liberalization of international trade and opening up to the world in 1985-86 through 1988. Because by lowering import duties Mexico was opening itself to running a larger fiscal deficit, as import duties collect large amounts of revenue for the government.
So you have there three fundamental aspects of the Latin American reform that were not only not thought of or invented or were not the brainchild of the bureaucracy in Washington, but they were opposed by them and had been thought of by the Latin American economists.
The reforms began as an experiment in a few countries, mostly in Argentina after the hyperinflation of 1989 and in Mexico after the big economic crisis of 1982 and then the crisis of 1988, after a decade of stagnation, the so-called lost decade of Latin America in the 1980s. The reforms were started to move away from an incredible bureaucracy and to control rates of inflation that those of you who have not lived in countries with these kinds of inflation cannot imagine. Argentina in 1989 had a rate of inflation of 30,000 percent per year. You cannot imagine what that is, 30,000 percent inflation. Not 30, not 300, not 3,000, but 30,000. Shops and supermarkets did not open in the morning to customers because they were afraid that while they were selling a product its price would double, triple, or quadruple and then they would not be able to restock their inventories. As a result of that you had most stores close for long periods of time, and that of course incited riots and other social problems.
In reaction to that kind of situation, three or four Latin American countries started moving toward a market orientation, globalization, and the reforms. It was the turning point. The question we have to ask ourselves is, if it was not the Washington bureaucracy, if it was not the U.S. Treasury, if these forces did not impose the reforms, why is it that 32 countries to one extent or another adopted them? The first thing that I said is that there is an incredible granularity and diversity in Latin America, going from Haiti or the Dominican Republic -- the home of the best baseball players in the world -- the two countries that share Hispaniola, which are very small countries, all the way to Argentina and Brazil, which are soccer countries and very large countries and very different.
So how can we explain that there was this generalized adoption of all these reforms? The reason is, I think, that there were three particular turning points in Latin America. The first one was the fall of the Berlin Wall [November 1989], and I will not expand on that. The second one was Felipe Gonzalez in Spain. Gonzalez, the leader of the PSOE, the socialist party in Spain, had campaigned against Spain joining NATO [before his party was elected to rule in 1982]. And one of the first things he does when he gets to government is to say, we are going to join NATO. The political backlash was such that he had to call a referendum [in March 1986] with respect to whether Spain should join NATO or not. And Felipe Gonzalez, turning toward Europe, turning towards modernity, turning towards freer markets, trying to implement some reforms in Spain, was very important for these countries in Latin America that had, of course, a long-standing cultural and historical relation with Spain, to actually move in that direction.
And the third reason why these reforms that had started in three or four countries independently became so massive in every country in Latin America, and the most important reason in my view, was the return of democracy in Chile after 17 years of dictatorship. (At the end, of course, Washington and the multilateral agencies did sign on to the reforms and sort of made them their own and tried to work with the countries in implementing them.)
Post-Pinochet Chile Inspires the Continent to Try the Reforms
When the new democratically elected government of President Aylwin took power in Chile [in December 1989], his government had among its cabinet members and among its leaders in Congress people that had been tortured, people that had been persecuted, people that had been exiled, people that for the 17 years of the dictatorship, most from outside the country, had criticized all aspects of the Pinochet dictatorship. When they took power they said, yes, we are in favor of democracy; yes, we are in favor of social services; yes, we are in favor of greater equality; yes, we are going to work very hard to reduce poverty in this country, but also, yes, we are in favor of the reforms. And not only are we in favor, we are going to deepen the reforms.
The first important speech of President Aylwin was on the reconciliation committee that dealt with the human rights abuses and the disappearing [of critics of the Pinochet regime by the military], which began a very important process that still is not finished of bringing justice to all of those who suffered under the dictatorship.
The second important speech, however, was a minister of finance, Alejandro Foxley, currently a senator and a leader for one of the governing parties, that said, we have a great criticism of the Pinochet economic policy. The whole country was listening. And people said, here it comes, the backtracking, the backlash, the nationalization of firms that had been privatized under Pinochet, and so on and so forth. But Foxley went on and said, our greatest criticism is that they had not taken the globalization process far enough. They have only reduced import tariffs to 15% from a previous average of 150%. That is, if you wanted to import anything, a notebook, you had to pay in the old times a surtax of 150% over and above the cost of the notebook. The Pinochet regime had lowered it to 15%. And Foxley, in his first important speech says, I think that this is a travesty. What we are going to do is to slash import tariffs to 10% and then, as conditions allow us, we are going to further bring them down.
The three successive governments of the Concertación [the center-left coalition that won the December 1989 elections] furthered the process of globalization, a policy that has been continued by the current government, which is led by someone who was exiled, who was thrown into jail, President Ricardo Lagos. And when people who had absolutely no cloud over their heads, who were absolutely above all suspicion in terms of their commitment toward democracy, their commitment toward human rights, their commitments towards equality, decided to continue to move in the process of globalization and in the path of modernization, that was incredibly important for the rest of the Latin American countries. Country after country then started to move into the reforms.
The Achievements of an Uneven Application of the Reforms
Now, naturally, the reforms have been implemented in Latin America in very different ways. We have countries that move very fast. We have countries that move very slowly. We have countries that privatized everything, such as Argentina, in a very nontransparent way, in a very corrupt way in some cases. And there are countries that have privatized very little, like Brazil and to some extent Mexico. There were countries that privatized the banks first. There were countries that privatized the banks at the very end. There were countries that tried to get a free trade agreement with the U.S. There are countries that are dead opposed to, or extremely skeptical of, getting a free trade agreement with respect to the U.S. And what we have, then, is this collection of very different countries at very different stages of development that have been embracing different aspects of this broadly defined agenda that is called, wrongly in my view, the Washington consensus.
If you take these reforms as a package I would say that we have had two fundamental achievements. And those two fundamental achievements have been the defeat of inflation. There are very few countries in Latin America today that have high rates of inflation. By high I mean double digit. And in most countries we now have inflation rates that are very similar to the United States and Europe. And the second, of course, and more important achievement is the one that I pointed out at the beginning of my talk, which is the sturdiness of the democratic regimes in all of the Latin American countries.
Once you move to the next step of performance and you look at growth and job creation, at wages, at well being of the people, and so on, the story changes from country to country. And you have countries that have done fine, you have countries that have done very well, you have countries that have done okay, and you have countries that have done very poorly.
In a way that is what you would expect out of a collection of 32 different nations that have, in spite of things that unite them, including the language, of course with some important exceptions such as Brazil, and the culture and a common history, very different traditions that have looked in different directions. We have the Central American nations that have always looked north to the U.S. And you have Argentina and Chile that have always looked northeast towards Europe and have never ever looked much toward the U.S. They do not trade with the U.S. Probably 25% of Argentina's trade is with the U.S. About 30% of Chile's trade is with the U.S., no more than that.
Criticisms of the Reforms
In the second part of my talk I want to talk about the criticisms of the reforms. The criticisms that are serious come on the basis of two particular features of the reforms. A third line of criticism is this notion that these were not homegrown reforms but were imposed by the U.S. Treasury and the World Bank. That is nonsense, so we shouldn't deal with that in any serious way.
The two basic criticisms of the reforms that I think are very serious are, first, that the performance has not been very good. That the reforms were oversold and that Latin America has not grown and created the prosperity that was promised. And the second one is that the reforms are contrary to what was also promised, increasing transparency and eliminating corruption. The reforms have created a new type of corruption, a corruption that came with privatization and corruption that came with the new private monopoly power of many firms.
I think that there is a lot of truth to both of these criticisms. The criticisms come in different flavors. Some of it says, well, this whole thing was a big mistake. We should go back to where Latin America was before: a very important role for the state, neglect of basic macroeconomic equilibrium. And on inflation, a notion that a moderate (whatever moderate is, we don't quite know) rate of inflation could be 60% per year and this could be good for these countries because it allows them to grow -- a little inflation greases the wheels of commerce. So that is one flavor. Let us go back 100 percent.
Joseph Stiglitz's Globalization and Its Discontents
The other flavor, which I think is the one that is more interesting, is the flavor that comes from Joe Stiglitz. Many of you heard Joe when he was here about a month ago. And the Joe Stiglitz's flavor is that everything was done wrongly because it was not done my way. Had it been done the Joe Stiglitz way, then everything would have been very good and Latin America today would be fantastic. His book -- Globalization and Its Discontents -- opens up with that notion. Joe says, there is a lot of good that can come out of globalization, and there is a lot of potential in a fair and well-implemented globalization process. However, globalization has neither been fair nor has it been implemented correctly -- mostly, he argues, because it has been implemented with the assistance of the IMF economists, and the IMF economists are all, without exception, incompetent. That is the Stiglitz view of the world.
There is some truth to that view. In particular I think that there were some problems in the way these reforms were implemented. The most serious problem, of course, was that the reforms were pushed at a speed that maybe was a bit too fast. And they were implemented in a sequence, in an order, that may not have been the correct one. They were implemented in a way that neglected the need for creating new institutions. And all of those criticisms are correct, and I think are on the mark to some extent. But if you really think about it, there are reasons why the reforms were implemented in the way they were. There was also corruption, there may have been some guys that just wanted to capture some of the spoils for themselves.
Privatization Requires New Regulatory Institutions, But Creating Them Is Not Easy
It is not completely apparent what would have been the alternative ways of implementing these reforms. The institutional critique is very very important when you think about it from the perspective not only of Latin America but from the perspective of the rest of the world. And also from the perspective of Russia and the former Soviet Eastern and Central European countries. Having said that, it is extremely difficult to think that the new institutions could have been put in place before the reforms.
I think that most of us would agree that we have an absolute mess in Iraq today because apparently we cannot get electricity or water back running. There is no security. There is no judiciary operating. Now some aspects of the Iraqi operation I suppose were easier than others, but getting a new judiciary that does not include any single judge who is a member of the Baath party, that I can assure you they could not do before toppling Saddam Hussein. You could not go to Iraq and tell Saddam Hussein, who was still in power, Mr. Hussein, why don't we work jointly to get a new judiciary so we can have the new institution up and running when we invade Iraq and topple you? Guess what he would have said? No, I don't think that's a good idea.
I am not trying to justify incompetence here, and there has been a lot of incompetence. But what I am trying to tell you is that this is a very difficult problem. If a country has been run for a long period of time and there are a certain set of institutions that turn out to be inefficient, ineffective, or not needed, then putting new ones in place is not so easy. So the criticism I think has to be accepted, but then you have to say, it is not so easy to do it.
Let me give you an example. One of the main problems that Latin America has had has to do with prices of public services and public utilities. Telephone, water, electricity, sewage, and the like. A large number of the companies that provided these public services were privatized. When they are owned and run by the government, the government sets the rates. Water is going to cost so much per cubic meter. That number is determined by some bureaucrat. And that number for political reasons many times is kept very low and thus the water company loses money, which then feeds into the public sector deficit, which has to be covered one way or another, either by increasing indebtedness or by printing money and generating inflation, or by moving general resources that could have been used for education into paying for the water subsidy -- a water subsidy that benefits those people who own swimming pools more than the poor, because the ones who own swimming pools use way much more water than the poor.
Now once you privatize and you sell that public utility, the water company, to the private sector, who is going to set the rates? Well, the government is not going to set the rates. You cannot let these guys who have just bought the utility set the rates, because they are going to be a monopoly, and as we teach here at UCLA, they are going to charge too much and produce too little. So we have to have a regulatory agency to set the rates. And the regulatory agency is a completely new institutional ballpark. It is something that you had no idea was needed under the previous regime, because there was no one to regulate. You can't have a regulatory agency regulating the government because the government is not going to be regulated. It's just the government. So you had to create this new institution, which Latin Americans have done and we have done rather poorly in advising and pointing this out to them. That criticism, of the lack of proper institutions, I think is a very good one. Many countries are moving now in that direction of providing and creating the right institutions.
Ensuring That the Regulated Don't Capture the Regulators
Regulatory agencies have to be independent. They have to be staffed by highly competent and skillful professionals. Those professionals have to be paid competitive rates so that they are not captured by the regulated companies, because the first thing a regulated company does is when the regulator comes in, wearing a $25 suit, is say, well this guy is going to cost me very little to have him in my pocket, and for $55 per month I am going to capture him. The whole notion of capturing the regulator is part of this game, and you don't want that to happen. So there has been a bad job done down there.
Success Depends on the Sequence
The second point that Stiglitz and other critics of the reforms make is that the reforms were implemented in the wrong sequencing. And again I think there is something that is correct there. Think of the following notion. You have a lot of things that you have to do. You want to fix the country and move in a certain direction. Then you make a list of all the things that you have to do, in no particular order. You have to end inflation. Inflation is 30,000 percent per year. Growth is minus 2 percent per year for the last ten years. I am talking about Argentina now. Well, we have to put an end to that. Agriculture, which is the greatest gift and resource that Argentina has, is taxed at a rate of 95%. The farmers get a nickel out of each dollar that they produce; the rest goes to the government. That doesn't sound very smart, we have to put an end to that. Trains don't work. You can never take the train. So you go one by one by one and you have to fix a whole number of things.
Then you say, well, where do I start? You say, well, I have no idea, so then you scratch your head and say, this is an economics problem, I am going to reform the economy, so I am going to call my economics professor. You call UCLA, 825-1011, the Economics Department number, and you say, may I speak to the chair of the department or to someone who is a really popular professor. You get a professor on the phone and you say, what does economic theory say about how do you do this? And the professor at the other side of the line says, well, that's really easy. It says you do everything simultaneously and instantaneously. And that is what economic theory says, at the undergraduate level and even at the graduate level. You do everything simultaneously and instantaneously.
Then you say, because you are polite and you were raised rightly by your mother, thank you for the advice, and you hang up and realize that you have wasted five precious minutes making the phone call. You cannot do it, for political reasons, everything simultaneously and instantaneously. You have to pick a certain sequence. And of course it turns out that the order in which you do things matters. We have known that forever. It is part of how you tell a story in literature. Joseph Brodsky, the Nobel laureate in 1986, the Russian poet, insisted again and again that what really makes a narrative good is not the story line itself but the way you tell it, what follows what. Economic reform and literature in that regard have this similarity. You have to decide what you do first.
Joe Stiglitz says it was done in the wrong order. And this is something I know a lot about because I wrote a lot about that in the early 1980s and in fact I had the good fortune of writing some stuff that became quite influential and there was an agreement, in the profession at that time, among the grownups, not those that think that everything has to be done simultaneously and instantaneously, that there was a certain sequencing that had to be followed. You had to do some things first and other things toward the end.
Some of the things that had to be done toward the end was liberalizing speculative capital movement. You might really wish to be at the end of the road like the U.S. or Switzerland, where investors can move capital from one country to the next by pressing F9 on their computers without calling Big Brother and asking for permission, but allowing capital to move without any control could generate dislocations to the economy in the first steps of the process. We had an agreement, and that agreement was sort of broken in 1994-95 when most countries rushed to open their capital accounts. That created a lot of movement of speculative capital that introduced a lot of problems.
Today, as we speak, when I came to UCLA this morning I had five messages on my voice mail. All five of them were from journalists, either from Washington, Buenos Aires, Sao Paolo, or Rio de Janeiro. And all five of them wanted to talk to me about the fact that both Argentina and Brazil are very likely to introduce, next week or the following week, controls on capital mobility because speculative capital is coming into these countries and it is dislocating their recovery. Both countries have had big crises in the last few months, and now that they are beginning to get back on their feet. These are countries that have the need for capital, where capital is really scarce, where the issue only two or three months ago was how to stop capital flight, and now they are going to impose restrictions for capital coming into the country. Stiglitz said, rightly in my view, that the capital account was opened too early and this introduced capital mobility into the countries and allowed them have this capital that generated a lot of problems.
The Problem with Privatizing the Banks First
But that is not the only mistake or the only issue with respect to the sequencing of reform, in which order you do things. Chile, of course, is the pioneer in the reform process. The reform started under the dictatorship, and Chile had a huge crisis in 1982. One of the things that the Chileans learned, or people that started the reforms in Chile and those who wrote about Chile learned, was that one of the huge mistakes that the country had made was that it privatized banks first. Chile went through a privatization of a large number of companies that had been owned by the state until that time. It privatized tire factories, refrigerator factories, and so on and so forth, including banks and insurance companies. And it privatized banks first.
Not only they privatized the banks first, but they privatized them without the buyers having to pay anything for them. There was a layaway program. You put down 1% of the price of the bank and then you paid in 40 years. So there were a whole lot of guys who said, this is really good. You buy a bank. You don't have to pay anything for it. Then we will make a lot of money. With the profits we will pay for the bank. And not only that, we are going to use the bank to give loans to ourselves and with those loans we are going to buy all the other firms that are going to be sold later. So these huge conglomerates were formed that were built on the basis of nothing, of maybe equity of a couple of million dollars. And the total assets of these conglomerates were in the billions of dollars.
Guess what? It collapsed. That system collapsed in 1981-82. So the Mexicans, who started their reforms in 1985-86, said, huh, we're really smart. We're Mexicans and smart. And we learned from this. So we are not going to privatize the banks first. We are going to privatize the banks at the very end. And that they did. And in spite of that Mexico had the huge crisis of December 1994. More than that, it looked so similar to the Chilean crisis of 1982 that really, if you think about it, they learned the one lesson that really didn't matter at the end; there were all the other lessons that they didn't learn.
So I think that much of the criticism that has been raised with respect to the reform, the serious criticism, is right. That doesn't mean that Joe Stiglitz is right in his whole book but overall, these criticisms that I am pointing out to you I think are right.
Why I Disagree with the Widespread Pessimism about Latin America
Let me move now to the third part. I want to talk about the current situation in Latin America and what to expect about the future. I want to focus on four or five points very quickly. The first one is that there is deep pessimism with respect to Latin America, and it comes from every side. There is pessimism that comes from the critics that say this is a disaster. There is deep criticism that comes from the official sector. In Milan at the Inter-American Development Bank meetings maybe a month and a half ago every single official speech was, what a disaster, what did we do wrong? Why is god against Latin America? What can we do to really get over it? Very very pessimistic. And there is also pessimism among the private sector in the rest of the world, despite the fact that Latin American debt has been the asset class that has had the highest rate of return during the last year.
Yesterday there was an op ed column by Desmond Lachman, until a week or two ago the chief strategist for emerging markets for Salomon Brothers, saying it is a speculative bubble, in particular being very critical of Latin America, saying that there are no fundamentals behind this rally of Latin American debt.
This pessimism, I think, is unwarranted. It is unwarranted because it is generalized. It doesn't make the obvious point that there are too many countries in Latin America for you to think that all of the region is going to go down the drain. There are countries that are doing poorly; there are countries that are doing quite well, thank you.
Populism Is Not Making a Comeback
The second point is that much of this criticism says that populism is back. And populism means disregard for macroeconomic policy, disregard for the constraints of the public sector, disregard for the central bank, disregard for efficiency and productivity. There are people who think that populism is back and when it comes back there is going to be wholesale backtracking of the reforms. Latin America is going to move away from these reforms, that may or may not have worked, but re-adopting populism that is the same thing plus 30,000 percent inflation. So that is worse.
I think, again, that this is unfounded. The reason is that Latin American politicians, even, I hope, Mr. Kirchner, who is going to take over the presidency in Argentina, have learned that populism doesn't work. My view is that throughout most of Latin America the doctrinaire type of populism, the populism of President Alan Garcia in Peru during the first half of the 1980s, the populism that said inflation is good for you, the populism that said we have to close our economies and we don't have to compete with the rest of the world, the populism that said we should not be integrated to the world global and financial market, we should have a regional barter system between Brazil and Argentina, that type of populism in my view is dead. It doesn't exist any longer.
Maybe it exists in Venezuela, in President Chavez's head, but the greatest two proofs that it doesn't exist as a doctrine is President Lula of Brazil and President Lucio Gutierrez of Ecuador. President Lula has been extremely careful in maintaining the macroeconomic equilibrium and in being absolutely sure that Brazil is going to retain its place in the world. President Gutierrez of Ecuador appeared to be another Chavez, a former military officer who had been involved in a coup attempt, who had been sent to jail for that reason for making an attempt against the institutions of the democratic regime, who ran on the basis of a populist or semipopulist discourse. The first thing that he has done is try to maintain a basic order in Ecuador and to move the country towards greater efficiency and greater productivity. So I think that the notion that populism is going to take over Latin America is greatly exaggerated and I would put it aside.
A Free Trade Area of the Americas?
Another issue that I want to raise is the free trade area of the Americas. If the U.S. neglected Latin America, is there going to be a free trade area of the Americas, which has been promised to be in place by 2005? I think the likelihood of that happening is close to zero, because there cannot be a free trade area of the Americas without Brazil. And you can call it anything you want, but without Brazil there is no free trade area of the Americas. And I don't think there is enough time to get negotiation of the complexity required for a free trade area with a country that is as important and sophisticated as Brazil between now and 2005.
Yesterday the president of the Dominican Republic, Mr. Hipolito Mejia, met with President Bush. President Bush promised him that he was going to push for the free trade area with the Dominican Republic. I doubt very much this is going to happen before 2005. What will happen is a free trade area with Central America, and the reason, of course, is politics. Because all politics is local, and an increasingly large number of Salvadorans, Guatemalans, and Nicaraguans are becoming citizens and vote in U.S. elections, and that of course if very very important.
International Factors Depressing the Latin American Economies
The third point I want to make is that if we think about the future of Latin America and we think about globalization, to which the Latin American countries are committed, they would like to have a fair globalization process, and that of course is still to be seen. The Europeans are very unfair and the U.S. is quite unfair although the U.S. is much better than the Europeans in the negotiations for free trade with the emerging world and in particular with Latin America .
Between 40% and 50% of the slowdown in Latin America, depending on the country, is a result of the adverse international conditions. These include the recession in the U.S., the recession in Japan, or depression depending on who is looking at it, the recession in Europe, the reduction in the price of Latin American exports, and the reduction in capital flows to Latin America. If you put those factors together and you do statistical work, as I have done, saying what would be the rate of growth of the Latin American countries had those external factors remained at their level of the year 2000, today we would have seen throughout Latin America between 40% and 50% higher rates of growth.
This means that countries that today are growing at 3% would be growing at 4.5%; countries that are growing at 4% like Peru would be growing maybe at 6%. So just with the world economy turning the corner, which is a completely different issue, whether it will happen we don't know, it will greatly help Latin America.
Improving Education Is the Single Most Effective Additional Reform Latin America Can Make
But what can Latin America do for itself? The answer of course is easy, it has to do with education. The quality of education in Latin America is a scandal. It is dismal. It is the worst possible quality that you can imagine. The problem is that there are no forces at this time that are moving towards improving education. Further, teachers unions in a systematic fashion are opposing any kind of educational reform that people all over the continent are trying to put in place, from President Fox in Mexico to President Sanchez de Lozada in Bolivia to President Lagos in Chile.
For example, there are the TIMSS reports (Trends in International Mathematics and Science Study). You can check this out on the Internet, it is really interesting. Once in so many years, it is three times already and the fourth time has now been started, about 150,000 students are tested the same day around the world with the same test. In the second TIMSS, Colombia was the only Latin American country that participated. And Colombia did so poorly that the Colombian authorities decided that the test was wrong and that they were going to withdraw from the program.
So the people that run the TIMSS, a team that are housed at Boston College, needed at least one Latin American country. It was very easy for them to convince the Chilean authorities. After all, Chile was the pioneering country in the reforms, a country that reduced poverty by one half since the return of democracy. Think what that is, people living below the poverty line, whatever the number, 8 years later it is reduced by one half. All of that was accomplished as the country was growing at 8.4% per year for 10 years under a democratic left of center government. Beautiful.
So the TIMSS people had no problem convincing Chile, the superstar of Latin America, the only country that never fails to provide an example to those that want to defend the reforms, to participate. There are 38 countries that participate in the TIMSS. In the third TIMSS, which was given in 1999, 5,000 Chilean kids took it. Chile came in 36th out of 38 countries. Tunisia and Indonesia and Algeria and other countries that have maybe one fourth of the per capita income in Chile were ahead of them in proficiency in math and the sciences.
You could argue that maybe Costa Rica has a better educational system than Chile. And clearly Argentina had a better educational system than Chile, but it has deteriorated so much that it doesn't any longer. But if you really want to be generous you could say that at most, Argentina and Costa Rica could be there with Chile as the best countries for the level of education in Latin America. And then they come almost dead last. Until that problem is resolved there is absolutely no way Latin America can really move forward.
Educational Reform Requires Benchmarks
One of the problems with education, and I will finish with this, because it illustrates globalization and what globalization ought to do when it works, is that there are no benchmarks for comparison. What globalization is supposed to do is to provide you with benchmarks for comparison, and thus it empowers the consumer and the people to demand services and quality that is comparable to the best in the world.
I lived in Chile until I was about 23 years old. I remember my relatives when Chile began to open up, my mother was astonished by the fact that she saw in a store refrigerators where the doors closed and opened, and TV sets, if you pushed the power button, they would turn on. You didn't have to slap them to make them work. People like my mother, and not only middle class people but poorer people, demanded of the Chilean products that they worked as well as the other products.
Maybe they weren't as fancy, because they were a little bit cheaper, but that they worked. The benchmarking forced the Chilean manufacturers to raise their standards, and today the Chilean producers of TV sets and of refrigerators export them throughout the world and they are of the highest quality. Because the Chilean public would not buy them if they didn't work. And people were astonished that the natural state of affairs was that if you purchased a new TV set and pushed the power button it would turn on. It was not a random thing as we were used to. The benchmarking was very important.
With education there isn't such a thing as benchmarking. Parents in Bolivia send the kids to school. The kids go to school. They come back with a textbook and with homework. And they go back and the teacher says, yes, they are learning, and then they move to the next grade. But you really don't know. The only way to know is to have testing and to have achievement tests that are systematic, that are standardized, and where the results of these tests have to be publicly known. And there are almost no countries, Chile again being one of the exceptions in Latin America, that go that route. The reason is because teachers unions systematically refuse to do that, condemning the future of Latin America to staying unproductive, ineffective, and not being able to incorporate themselves into the globalization process.