1 Integrating to the world economy: El Salvador Manuel Hinds Madagascar, June

2 The country situation in 1992 Coming out of a civil war that left: 80,000 deaths in a country with 4.7 million inhabitants at the time Real GDP per capital fell by 22% in the initial years of the war and then only slowly recovered Negative international reserves in the central bank High inflation, averaging 24% in the second half of the 1980s A rigid economy Dependent from coffee exports Price controls Nationalized banking system, electricity and telecom Nationalized control of commodity exports

3 An old economy was dying… Coffee prices diving This was the other side of the coin of the new economy of knowledge… The relative prices of goods without knowledge contents going down… A new economy was needed… One that could be competitive with higher value added

4 The challenges Rebuild: The social tissue and institutions A new economy: Not dependent on coffee With higher value added per capita Invest in social development Integrate the country: Within, eliminating the internal gap Without, integrating Salvadoran society with the world at large…

5 The overall strategy Integrating the country to the world economy Opening the economy to the world markets Reducing the costs of operating in the country Let the market guide the allocation of resources Investing in social capital Focus the governments expenditure on this objective Leave other tasks to the private sector Economic and social policies with only one objective: higher value added per worker

6 The policies: opening the economy Reduction of import tariffs to an average of 5-6% Capital goods and most industrial inputs to 0% to allow small enterprises to compete Low tariffs in finished goods to increase local competition and raise competitiveness Free trade industrial zones

7 Opening the economy 2 Free trade treaties with: Mexico Dominican Republic Panama Chile Now negotiating one with the United States

8 Opening the economy: the results The average annual rate of growth of exports from 1991 to 2002 was 16%, non- traditional 19% Today, the share of coffee in total exports is less than 5%

9 Reduction of the costs of operating in the country Trade liberalization Macro stabilization of the country Turning the country into an investment grade in the international markets Privatization of banks, telecom, electricity distribution and pensions Reduction of bureaucracy

10 Dollarization came after the economy was stable This unified the interest rates in the country, at a low level… Now short-term commercial rates at 3-4% Increased the maturity of lending instruments Housing years Investment 15 years

11 Concentrating the government on social investment Privatizations Investment on economic activities no longer weighing on the budget Efficiency in expenditures Example 1: the EDUCO program Example 2: The Ministry of Public Works

12 Investment in human capital The results show that market policies with effective social expenditure are effective in the reduction of poverty Source: UNDP

13 External shocks… The country suffered two heavy external shocks… A hurricane in 1998 and, 1,000 quakes in 2001, two of which were higher than 6 in the Richter scale. In addition, the price of oil went up and that of coffee kept on diving Still, the economy remained stable and growth did not become negative.

14 Income per capita outperformed Latin America The rate of growth is the average of the economy that is dying and the one that is emerging Still, El Salvadors growth has been higher than the average of Latin America