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Trade and Policy Reform in Latin America

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1 Trade and Policy Reform in Latin America
Chapter 15 Trade and Policy Reform in Latin America

2 Learning Objectives Describe the strengths, weaknesses, and reasons for import substitution industrialization. Explain the strategy and performance of economic populism. Give the main reasons for the debt crisis of the 1980s and analyze its relationship to ISI.

3 Learning Objectives (cont.)
Discuss the goals of economic policy reforms that began in the later 1980s. Explain why some Latin American leaders have become impatient with economic policy reforms.

4 Introduction: Defining a “Latin American” Economy
A “Latin American” economy is considered “all of the Americas south of the United States” (Webster’s dictionary) However, Latin America is quite diverse, and one needs to be careful not to over-generalize

5 Population, Income, and Economic Growth
For long stretches of the 20th century, Latin America was one of the fastest-growing regions of the world From real GDP per capita grew at similar rates to Europe, U.S., or Asia The Debt Crisis turned the 1980s into a Lost Decade, as growth was negative, inflation skyrocketed, and poverty increased

6 TABLE 15.1 Population and GDP for Latin America and the Caribbean, 2010

7 TABLE 15.1 (continued) Population and GDP for Latin America and the Caribbean, 2010

8 TABLE 15.1 (continued) Population and GDP for Latin America and the Caribbean, 2010

9 Import Substitution Industrialization: Origins and Goals of ISI
Economic policy reform in Latin America brought the demise of the economic development strategy known as import substitution industrialization (ISI) ISI shifts policies from outward, export orientation toward an inward, targeted industrial strategy ISI is a form of industrial policy that focuses on those industries that produce substitutes for imported goods

10 Import Substitution Industrialization: Origins and Goals of ISI (cont
Terms of trade (TOT): (index of export prices)/(index of import prices) Argentine economist, Raul Prebisch and a German exile, Hans Singer argued that coffee, tin, copper, bananas, and other primary commodity exports would inevitably experience price declines relative to the prices paid for manufactured goods

11 Import Substitution Industrialization: Origins and Goals of ISI (cont
In effect, Latin America would be marked by export pessimism—each unit of exports would earn a declining unit of imports ISI would boost industries that produce substitutes for imported goods Export pessimism formed the basis of orthodox economic policy from roughly the 1950s through the 1970s

12 Criticisms of Import Substitution Industrialization
Government involvement in production decisions caused a misallocation of resources; not market failures as assumed Exchange rate overvaluation Policies were too biased in favor of urban areas ISI trade and competition policies were heavily protectionist and often favored the creation of domestic monopolies ISI fostered rent-seeking and corruption

13 Macroeconomic Instability and Economic Populism
Many Latin America specialists blame faulty macroeconomic policies on populist or economic populist political movements Crises are often attributed to economic populism and populist policies: political movements using expansionary fiscal and monetary policies without regard of inflation risks, budget deficits, and foreign exchange constraints

14 Populism in Latin America: Three Conditions of Populism
Deep dissatisfaction with the status quo (slow growth) Rejection of the traditional constraints of macro policy Promises to raise wages while freezing prices and restructuring the economy by expanding domestic production of imported goods “reactivating, redistributing, and restructuring”

15 Stages of Populist Policies
Economic stimulus through government expenditures and printing money Creation of bottlenecks Increase in prices and budget deficits/debt Acceleration of inflation Pervasive shortages become pervasive Capital flight and decline in wages Resort to IMF intervention

16 TABLE 15.2 Economic Indicators during the Garcia Administration

17 The Debt Crisis of the 1980s Causes of the Debt Crisis:
Collapse of world oil prices (Mexico particularly affected) Increase in international interest rates Longstanding political mismanagement High rates of lending in 1974–1982

18 TABLE 15.3 Debt Indicators at the Onset of the Debt Crisis, 1983

19 Responses to the Debt Crisis
U.S. Treasury Secretary James Baker, 1985, tried to organize a renewed lending program by commercial banks through the Baker Plan U.S. Treasury Secretary Nicolas Brady engineered the Brady Plan in 1989: Latin American countries required to reform their economies to obtain debt relief Capital flows began to return to Latin America

20 Neoliberal Policy Reform and the Washington Consensus
In the late 1980s, Latin America launched economic policy reforms that began to alter the fundamental relationships between business and government and between their national economy and the world. The region adopted a neoliberal model or neoliberalism favoring free markets and minimal government intervention in the economy

21 Neoliberal Policy Reform and the Washington Consensus (cont.)
Three Aspects of Neoliberal Reforms Implementation of stabilization plans to stop inflation and control budget deficits Privatization of state-owned enterprises Protectionist trade policies were abandoned

22 Neoliberal Policy Reform and the Washington Consensus (cont.)
These reforms came to be known as the Washington Consensus on policy reform Both the neoliberal agenda and the Washington Consensus were considered policy prescriptions for reform of government finances and management of the economy

23 The “Washington Consensus”
Macroeconomic reforms proposed by the Consensus: Avoid large budget deficits Spend public money on health, education, and basic services Cut taxes, but tax a wider range of activities and improve collection Make certain real interest rates are positive; limit the use of preferential rates Make the exchange rate competitive and credible

24 The “Washington Consensus” (cont.)
Microeconomic reforms proposed by the Consensus: Use tariffs instead of quotas, and gradually reduce them Encourage foreign direct investment Privatize state enterprises in activities where markets work Remove the barriers to firm entry and eliminate restrictions on competition Guarantee the security of property rights

25 Stabilization Policies to Control Inflation
Some Latin American countries adopted the orthodox model of cutting government spending, reforming the tax system, and limiting the creation of new money Others adopted the heterodox model: same as orthodox model but also included freezing of wages and prices

26 TABLE 15.4 Inflation Rates, 1982–1992

27 Structural Reform and Open Trade
Structural reform policies include: The privatization of government-owned enterprises, deregulation and redesign of the regulatory Environment of overregulated industries such as financial services, and Reform of trade policy

28 Structural Reform and Open Trade (cont.)
In 1970s Chile began to reform its trade policies In 1985 and 1986 Mexico and Bolivia followed In the late 1980s and early 1990s, nearly all the countries of Latin America began reducing both the level of tariffs and nontariff barriers (NTBs)

29 Structural Reform and Open Trade (cont.)
The three main goals of trade reform: To reduce the anti-export bias of trade policies that favored production for domestic markets over production for foreign markets To raise the growth rate of productivity To make consumers better off by lowering the real cost of traded goods

30 Regional Trade Blocs in Latin America
Latin America has many regional trade agreements; some of the oldest NAFTA was implemented January 1, 1994 December ‘94, thirty-four countries in the Western Hemisphere committed to a Free Trade Area of the Americas (FTAA) no later than 2005 By 2002, the FTAA idea was nearly dead, but Latin American countries have continued to sign bilateral and plurilateral agreements

31 TABLE 15.5 Average Tariff Rates, in Percents, Selected Countries

32 Table 15.6 Regional Trade Blocs

33 The Next Generation of Reforms
Both Neoliberalism and Washington Consensus viewed negatively by many Latin American citizens reforms of the last two decades have created uncertainty and change have not begun to fulfill expectations of growth and prosperity. More moderate reformers developing a second generation of reforms take into account the region’s institutions address the problems of social and economic inequality

34 The Next Generation of Reforms (cont.)
Mechanisms for addressing Latin America’s highly unequal distribution of income Greater emphasis on primary education and health care for children A set of social policies called conditional cash transfers (CCT)

35 The Next Generation of Reforms (cont.)
A few Latin American countries, including Mexico and Chile, have become the most open and outward oriented of countries anywhere Results elsewhere have been disappointing


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