Quo Vadis, Latin America? Food for Thought

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Quo Vadis, Latin America?Food for Thought

• Carlos E. J. M. Zarazaga
• Senior Economist and Executive Director
• Center for Latin American Economics
• Federal Reserve Bank of Dallas
• Disclaimer The views expressed are those of the
  presenter and do not necessarily reflect those of
  the Federal Reserve Bank of Dallas or the Federal
  Reserve System.

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Inflation in Latin America, 1970-90
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Latin Americas Institutions Democracies by 1980
Democratic government
Other
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Latin America A Land of Unfulfilled Promises?

• Import substitution policies 1950-80
• Attributed poor performance in the lost decade
  of the 80s
• Defaults
• Slow Growth
• High Inflation

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Way out of lost decade stagflation and to
endless prosperity

• Institutional Reforms
• End dictatorships, Restore Democracy
• Economic Reforms
• End import substitution era, Open up trade
• End big government era, Privatize
• End financial repression era, Liberalize
  financial intermediation process

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Latin Americas Institutions Democracies by 1980
Democratic government
Other
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Latin Americas Institutions Democracies by 1990
Democratic government
Other
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Latin Americas Institutions Democracies by 2000
Democratic government
Other
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Inflation in Latin America, 1970-90
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Inflation in Latin America, 1970-96
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Have the reforms delivered the promised
prosperity?
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Free Market Reforms Still to Deliver Widespread
Prosperity

• Growth rates in the 1990s SLOWER than in the
  heydays of the import substitution era 1950-70.

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Free Market Reforms Still to Deliver Widespread
Prosperity

• Growth rates in the 1990s SLOWER than in the
  heydays of the import substitution era 1950-70.
• Unemployment still high and wages still low
  throughout Latin America.

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Free Market Reforms Still to Deliver Widespread
Prosperity

• Growth rates in the 1990s SLOWER than in the
  heydays of the import substitution era 1950-70.
• Unemployment still high and wages still low
  throughout Latin America.
• Market reforms have failed to reduce poverty and
  inequality.

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Looking Ahead The Open Questions

• Why havent reforms transformed Latin American
  countries into Asian Tigers, as promised?
• Tentative answers the second theorems
• The second best theorem
• The second welfare theorem

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The Tentative Answers

• The second best theorem
• Liberalizing some aspects of the economy and not
  others may result in worse outcomes than not
  liberalizing at all.
• In English A chain is only as strong as its
  weakest link

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Institutional Reforms Not Completed Yet
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Institutional Reforms Not Completed Yet
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The Tentative Answers

• The second best theorem
• Liberalizing some aspects of the economy and not
  others may result in worse outcomes than not
  liberalizing at all.
• In English A chain is only as strong as its
  weakest link
• Therefore
• trade liberalization may be a bad idea if not
  accompanied simultaneously with
• labor market reforms
• reciprocity from the US and EU (elimination of
  trade barriers on avocados and poultry from
  Mexico, oranges and steel from Brazil, honey and
  beef from Argentina, textiles from Ecuador)

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The Tentative Answers

• The second welfare theorem
• A move to free markets can make everyone better
  off provided the winners compensate the losers
  in the transition period.
• Therefore
• Free market reforms must be accompanied by
  deliberate policies to retrain displaced workers
  and fight extreme poverty.

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Looking Ahead The Open Questions

• Why havent reforms transformed Latin American
  countries into Asian Tigers, as promised?
• Tentative answers the second theorems
• Lessons from the theorem of the second best
• More reforms, not less
• Lesson from the second welfare theorem
• Free market reforms must be accompanied by
  deliberate policies to retrain displaced workers
  and fight extreme poverty.

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The Challenges Ahead

• Compensating losers with part of the gains the
  reforms bring about for winners is a technically
  challenging policy design problem
• Need to identify winners
• Need to identify losers
• Transfers from winners to losers must be done
  with taxes that can undo the benefits of reforms.
• YES. VERY DIFFICULT. Yet

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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America
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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America
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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America
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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America
Fidel Castro
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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America
Néstor Kirchner, President of Argentina since May
2003
Fidel Castro
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Venezuela President Hugo Cesar Chavez celebrates
victory at recall referendum
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ignoring theorems can be dangerous for the
future of democracy and free markets in Latin
America and many other emerging markets

• China (1.3 billion people)
• India (1.1 billion people)
• Together these fashionable emerging markets
  represent 37 percent of the world population.
• Why bother to study and understand Latin America,
  whose population of 560 million people represents
  only 9 percent of the worlds population?

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• Why bother to investigate the avian flu? Well
  because that resilient virus can some day mutate
  and infect humans.
• Latin America once upon a time was engaged in
  reforms
• like China is allegedly now.
• But reforms didnt work quite well in Latin
  America. How do we know that the same will not
  happen with the reforms in China?
• Despite declarations of the World Trade
  Organization to the contrary, China is not a free
  market economy and is farther from that status
  than any Latin American country, except Cuba.
• Unless we understand why reforms seem to have
  failed in Latin America, history may repeat
  itself.
• China.com?

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• Why bother to investigate the avian flu? Well
  because that resilient virus can some day mutate
  and infect humans.
• Latin America once upon a time was engaged in
  reforms
• like China is allegedly now.
• But reforms didnt work quite well in Latin
  America. How do we know that the same will not
  happen with the reforms in China?
• Despite declarations of the World Trade
  Organization to the contrary, China is not a free
  market economy and is farther from that status
  than any Latin American country, except Cuba.
• Unless we understand why reforms seem to have
  failed in Latin America, history may repeat
  itself.
• China.com?