mexican debt crisis

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Economics of Latin America & the Caribbean


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LISTING OF LATIN AMERICAN COUNTRIES

Argentina BelizeBolivia BrazilChile ColombiaCosta Rica CubaDominican Republic EcuadorEl Salvador GuatemalaHonduras MexicoNicaragua Panama

Paraguay PeruSuriname UruguayVenezuela (other) French Guiana a colony

LISTING OF CARIBBEAN ISLAND NATIONS

Anguilla - Antigua and Barbuda - Aruba - Bahamas - Barbados -Bermuda - Cayman Islands - Cuba - Dominica - Dominican Republic- Grenada - Guadeloupe (French) - Guyana - Haiti - Jamaica -Martinique (French) - Montserrat - Netherlands Antilles - PuertoRico - Saint Kitts & Nevis - Saint Lucia - Saint Vincent & Grenadines

- Trinidad and Tobago - Turks and Caicos Islands - Virgin Islands


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GDP

valuation GDP per Income Poverty Human Environment Quality Annual

based on PPP capita equality Index Development Performance of life economic

Country 2008 Current (PPP) (2001-06) 2005 2008 2008 2005 growth (%)

BillionsUSD 2008 USD Gini index HPI-1 % HDI EPI index 2007

Argentina $570.53 $14,354.00 51.3 4.1 0.860 (H) 81.8 6.469 8.7

Bolivia $43.45 $4,332.00 60.1 13.6 0.723 (M) 64.7 5.492 4.6

Brazil $1,975.90 $10,298.00 57 9.7 0.807 (H) 82.7 6.47 5.4

Chile $246.48 $14,688.00 54.9 3.7 0.874 (H) 83.4 6.789 5.1

Colombia $402.46 $8,336.00 58.6 7.9 0.787 (M) 88.3 6.176 7.7

Costa Rica $48.92 $10,832.00 49.8 4.4 0.847 (H) 90.5 6.624 7.3

Cuba N/A N/A N/A 4.7 0.855 (H) 80.7 N/A N/A

DominicanRepublic $76.19 $8,558.00 51.6 10.5 0.768 (M) 83 5.63 8.5

Ecuador $104.67 $7,518.00 53.6 8.7 0.807 (H) 84.4 6.272 2.5

El Salvador $43.89 $6,052.00 52.4 15.1 0.747 (M) 77.2 6.164 4.7

Guatemala $66.84 $4,899.00 55.1 22.5 0.696 (M) 76.7 5.321 5.7

Haiti $11.68 $1,292.00 59.2 59.2 0.521 (M) 60.7 4.09 3.2Honduras $32.67 $4,085.00 53.8 16.5 0.714 (M) 75.4 5.25 6.3

Mexico $1,550.26 $14,581.00 46.1 6.8 0.842 (H) 79.8 6.766 3.2

Nicaragua $16.75 $2,704.00 43.1 17.9 0.710 (M) 73.4 5.663 3.8

Panama $38.31 $11,255.00 56.1 8 0.832 (H) 83.1 6.361 11.5

Paraguay $29.34 $4,767.00 58.4 8.8 0.752 (M) 77.7 5.756 6.8

Peru $244.69 $8,584.00 52 11.6 0.788 (M) 78.1 6.216 8.9

Uruguay $40.66 $12,707.00 44.9 3.5 0.859 (H) 82.3 6.368 7.4


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Latin America Update (2010)

In the five years between 2004-2008 Latin Americas economies grewat an annual average rate of over 5%.

Inflation remained generally low.

Credit expanded and exports boomed.

Proportion of people living in poverty fell from 44% in 2002 to 33% in2008.

Until the fall of 2008 Latin Americanscould still hope that they would escapethe worst of the downturn.

But in the last three months of 08,Latin America saw its stock marketscrash, currencies wobble and credit startto dry up. That came on top of fallingexports and the plunge in the prices ofthe commodities it sells to the world.

Estimate: regional GDP declined 3.6%in 2009.


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Remittances (money being sent home by Latin Americans workingabroad) has fallen sharply.

Still, the region withstood the global economic decline better than had

been anticipated in 2009, and is rebounding quickly. The regional economic powerhouse, Brazil, continued to see stronginflows of foreign direct investment even while its economic outputcontracted 1.2%.

The increase in commodity prices after March of 2009 helped most LatinAmerican countries.

As a whole, the OECD expects Latin American and the Caribbean torecover modestly in 2010 and 2011, with growth of 2.2% and 3.2%respectively.

Growth in the English speaking Caribbean will be very weak to beginwith, with growth returning to most of these economies only late2010/early 2011 (tourism).

Much will depend on what happens with the Global Economy in general

and the US in particular, in the second half of 2010..


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Many fear that Latin America will revert to its dictatorial and populist pastthat was often characterized by the seizing of foreign assets along withfiscal and monetary irresponsibility.

This may be a concern for Venezuela, Bolivia and Ecuador, but throughoutthe region democracy has quickly formed deep roots.

Results from a October 2009Latinobarmetro poll (left)indicates that the countries of

Latin America may not only bediverging economically in thecoming years, but we maywitness political divergence aswell.

Most Latin Americans seethemselves as politicallymoderate, but they retain ayearning for strong leaders andexpect the state to solve their

problems.


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Latin Americans generally support democracy and its institutions,although many remain frustrated by the way their political systems workin practice (weak rule of law, widespread corruption and cronyism).

General risks

Biggest risk in the region is of abandoning the recent commitment tofiscal and monetary prudence.

While most of the poorest are nowadays covered by government cash-transfer programs, those in the third to the fifth deciles of income

distribution are now at risk of falling back into, or going deeper into,poverty.

Corruptionis still a major obstacleand may worsen in the short run.

Update on the Caribbean

On October 15th, 2008 in Barbados, 13 Caribbean countries approved anew Economic Partnership Agreement (EPA) with the European Union.

The EPA involves only gradual changes to a trading relationship whichgoes back to colonial days. It grants almost all Caribbean exports duty-free and quota-free access to Europe. In return, the Caribbean will phase

out duties on 87% of European imports by 2033.


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Until late 2008 these countries have hadone-way access to European market (since1975 under the Lom Convention, and itssuccessor, the Cotonou agreement)

Pattern of trade relations between Europeand the Caribbean was no longer in synchwith the rules of the WTO.

The agreement will help the Caribbean todevelop new exports, and to rely less on oldstaples like bananas and sugar.

US is still the largest trading partner with,and investor in, the region.

Still, the most dynamic businessopportunities in the coming decade will bebetween countries in the region and the EU.

The big story for 2010 may be Cuba.

Trade between US and Caribbean Countries

Millions of US $(2007)

USExports

NationsImports

Antigua and Barbuda $240 $9

Bahamas $2,473 $523

Barbados $457 $40

Belize $234 $113

Dominica $84 $2

Grenada $83 $9

Guyana $188 $147

Jamaica $2,318 $789

St. Kitts and Nevis $203 $61

St. Lucia $166 $36

St. Vincent andGrenadines

$69 $1

Suriname $306 $136

Trinidad and Tobago $1,779 $9,342

Dominican Republic $6,091 $4,328

Haiti $711 $500

Cuba $447 $0

Aruba $529 $3,070

Bermuda $660 $24

Netherlands Antilles $2,082 $810


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Each year, Transparency

International draws on surveys

of businessmen and country

experts to gauge perceptions ofcorruption in 180 countries

around the world. It defines

corruption as the abuse of

public office for private gain.

This year, Chad shared the

bottom slot with Bangladesh.

Corruption has declined

significantly over the past year

in a number of countries,including France, Hong Kong,

Taiwan and Nigeria.

Transparency International

CORRUPTION PERCEPTIONS INDEX: 2008

country country 2008 CPI

rank score

109 Argentina 2.9

102 Bolivia 3

80 Brazil 3.5

23 Chile 6.9

70 Colombia 3.8

47 Costa Rica 5.1

65 Cuba 4.3

102 Dominican Republic 3

151 Ecuador 2

67 El Salvador 3.9

96 Guatemala 3.1

177 Haiti 1.4

126 Honduras 2.6

72 Mexico 3.6

134 Nicaragua 2.5

85 Panama 3.4

138 Paraguay 2.4

72 Peru 3.6

23 Uruguay 6.9

158 Venezuela 1.9
http://www.transparency.org/news_room/in_focus/2006/cpi_2006__1/cpi_tablehttp://www.transparency.org/news_room/in_focus/2006/cpi_2006__1/cpi_table


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The Puzzle of Latin America Economic Development: Diversity,Trends and Conflict

The nations of Latin American and the Caribbean are engaged in

programs of political and economic liberalization that may prove as historicas their struggles for independence from Spain and Portugal.

After decades of political instability, corruption, and military dictatorship,many countries in the region seem to be developing stable democracies.

Markets long protected from competition are opening to foreign trade,foreign investment, and regional cooperation.

Issue #1: The Economic Landscape

Diversity: The nations of Latin America are different from each other in

many ways. Many of them also have a large amount of diversity withinthemselves.

Regional trends: Changing from a rural to an urban society, an increasein population, and new found deposits of natural resources. The countries

have instituted different types of political structures and domestic policies.


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The five major issues that confront Latin American countries today:

1. External Balance

2. Credibility

3. Distribution

4. Sustainability

5. Role of the State

The net effect of the reforms initiated in the 1980s and 1990s mayvery well result in a divergence among the nations of Latin Americaover the next 25 years.

Those that successfully address these five issues will see theirpeoples fortunes rise, while those that fail will experience sub-par

economic growth and political instability.

The importance of running a consistent balance of payments surplus=> boost reserve of domestic financial capital. Role of nationalsavings rate.


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What is the difference between economic growth and development?

Authors definition of development: a process of meeting the basichuman needs of the population and enhancing options for the allocation

of economic resources both today and in the future to increase thechoices citizens have in their daily lives.

UN Millennium Development Goalspgs. 14-15

Role of technological change: the world technology frontier.

Human Development IndexDualism => the rich become richer and the poor more destitute inthe process of change (without access to resources, the poor oftenbecome poorer)

the simultaneous existence of modern and traditional economics.

complicates the policymakers task (must address the social deficit).

Todaro: growth must be accompanied by a change in the economicand social rules of the game.

Therefore, economic growth is a necessary, yet not sufficient, conditionfor economic development.


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The Human Development Index (HDI) is an index combining normalizedmeasures oflife expectancy, literacy, educational attainment, and GDP percapita for countries worldwide (ranges from 0 to 1 with green being greater

than .85, yellow between .85 and .5 and red below .5)
http://en.wikipedia.org/wiki/Life_expectancyhttp://en.wikipedia.org/wiki/Literacyhttp://en.wikipedia.org/wiki/Educational_attainmenthttp://en.wikipedia.org/wiki/GDP_per_capitahttp://en.wikipedia.org/wiki/GDP_per_capitahttp://en.wikipedia.org/wiki/GDP_per_capitahttp://en.wikipedia.org/wiki/GDP_per_capitahttp://en.wikipedia.org/wiki/Educational_attainmenthttp://en.wikipedia.org/wiki/Literacyhttp://en.wikipedia.org/wiki/Life_expectancy


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Growth of output must outstrip population growth to improve theresources available to people.

Tasks of policymakers in designing development policy:

1. They must establish a delicate balance between the external sectorsand domestic macro policy.

2. They must be attentive to the changing nature of the global economicenvironment as well as preserve confidence and stability within theirown economies.

3. To attain equitable growth, they must fashion policies to targetdifferent economic, ethnic, and gender groups.

4. Their policies must balance the allocation of resources betweenmeeting the needs of the present as well as future generations (i.e.

sustainable development).

5. Must face the challenge of deciding the extent to which each stateshould supplement the activities of its own markets to facilitateequitable, sustainable development.


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Three basic schools of thought: Development Theory

1. Planning Model

a. Dependency theory: Center vs. Periphery2. Institutionalist Model

a. Structuralistsasymmetric development(bottlenecks)an economy also shaped by power andpolitics.

b. Heterodox theorya flexible approach

3. Orthodox Model

a. Chicago Schoolgrounded neoclassical economics

b. Washington Consensus

c. IMF

I #2 Hi t i l L i P tt f U l


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Issue #2: Historical LegaciesPatterns of Unequal

& Unsustainable Growth

What were the Spaniards main goal in coming to the New World?

What kind of social and political system did they set up? Difference between peninsulares and creoles?

Imperial trade restrictions.

What is the meaning of the terms mercantilism, monoculture and Dutch

Disease?

Agricultural development: workers labored on a debt peonage structure=> the latifundios (production for the world market the best land theencomieda system ) and minifundios (subsistencefarming marginal land). Model of self-sufficiency (feudal concept of

manor).

Why was Brazil overlooked by the Spanish?

Independence and entry into the world economy: Most nations gainedindependence in the early 1800s. Followed by a period of turmoil:

territorial disputes. In the 1840s, Latin America began to enter the worldtrade market es eciall with Great Britain.

Wh t Th G ld A (1870 1914)?


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What was The Golden Age (1870-1914)?

The Golden Age occurred inLatin America between 1870-1914 and wasso called because of the increased demand for exports, the tremendousgrowth in population and new transportation technology.

Stalled Progress (1914-1930): During this period, the U.S. replacedGreat Britain as the primary trading partner and investor of Latin America.Export led growth slowed during this period because of falling prices andbecause of World War I: scissors effect + Engles Law.

The 1930s (the Great Depression): The main causes of problems inLatin America were capital flight, contracting income because of decliningexport prices, insular multinationals, lack of forward and backwardlinkages from prior development.

The 1930s was a political watershed period in Latin America with its

"increased social pressure, numerous strikes, the emergence of radicalparties, and nationalist rhetoric." A new development model emerges.

Issue #3: Theories, Ideas, and Opinions

Divergent Opinions: The major economic problems plaguing Latin Americaare low incomes, unequal income distribution, periods of hyperinflation,negative balance of payments and periodic debt crises.


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Many of the proposed policies are radical because the problems are soextreme that it appears minor changes in policy will not work.

Why is Latin America underdeveloped?

1. Dependency theory periphery? center? Harsh critics of foreign direct investment and MNCs .

2. Mainstream interpretations

Resource endowmentglobal geography.

The conventional, mainstream economists say that underdevelopment iscaused by small market size, slow capital accumulation (low domesticsavings), shortages of foreign exchange, unskilled labor, and poor politicalorganization (inefficient public institutions).

Late out of the gate: no agricultural revolution, lack of an investment climate,needed transportation revolution, imperial opposition, opposition fromwithin difficult to catch up from behind.

Three positive effects from foreign direct investments and MNCs?

1. Foreign firms bring superior technology.

2. Increases competition in the host economy.

3. Foreign market access.

Concepts to Define & Unde stand at the Beginning


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Concepts to Define & Understand at the Beginning

1. Comparative advantage - def: A nation has a comparative advantageover a trading partner in the production of an item if it can produce thatitem at a lower unit cost than its partner.

Implications...a. Any country can increase its income by trading, because the world market

provides an opportunity to buy some goods at relative prices that are lowerthan those which would prevail at home in the absence of trade.

b. The smaller the country the greater this potential gain from trade, but all

countries benefit to some extent.c. A country will gain most by exporting commodities that it produces using

its abundant factors of production most intensively, while importing thosegoods whose production would require more of the scarcer factors ofproduction.

2. Balance of Payments - Exports (X) & Imports (M)

B of P = PxX PmM

Px = vector of prices of exports

Pm = vector of prices of imports

Surplus excess of exports over imports


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Surplus = excess of exports over importsDeficit = excess of imports over exports

Merchandise trade account, capital account, reserve accountEngles Law again => deteriorating terms of trade over time.

3. Exchange rates - def: The price of one nation's monetary unit interms of the monetary unit of another country.

- Foreign exchange market: A market in which buyers and sellers

of bank deposits denominated in the monetary unit of many nationsexchange their funds.

- Exchange rates can be allowed to fluctuate freely, can be"managed" or can be pegged to the currency of a major trading partner.

=> Graph (500p:1$ or 1p:.002$)

Demand side - People who want to import Chilean goods, or travel inChile, or others who just want to hold pesos. When North Americans demand more Chilean vegetables, copper,wine, or whatever, (D curve shifts right) the price of the peso will rise interms of dollars.


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Supply side - those who want to import goods into Chile from the UnitedStates or hold $.

(1) When Chileans demand more US cars or computers (S curve shifts

right) the price (in $) of the Chilean peso will tend to decline (S of pesoshifts r).

Appreciation and depreciation of a currency: When country A's currencybecomes more valuable relative to country B's, country A's currency is saidto appreciate relative to that of country B and country B's currency is

said to depreciate relative to that of country A.

Determinants of Exchange Rates:

1. What determines the relative positions of S&D curves for currency?

(a) Relative price levels - constantly changing (inflation)

(b) Relative rates of growth

(c) Relative interest - rate levels

(d) Expectations/Speculation

Example of Argentina

(e) Random daily trade and financial flows noise (3 8 trillion per day)


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(e) Random daily trade and financial flowsnoise (3.8 trillion per day)

Note:Market exchange rates vs. PPP rates (purchasing power parity).

4. Domestic Absorption (A) = The national expenditures on both

home-produced goods and imports.- Not equal to B of P...

If A>GDP => trade deficitIf A trade surplus

- How does a nation pay for domestic consumption (absorption) above

and beyond GDP? => Draw down domestic savings, sell domestic assetsand/or borrow from abroad (increase external debt).

5. Import Substitution Industrialization development strategy:- The substitution of domestic production for imports of foreign

manufactures.- Was first explored by Latin American countries when their primaryexports markets were severely disrupted, first by the Great Depression ofthe 1930s and subsequently by the breakdown of commercial shippingduring World War II.

- What are forward and backward linkages?


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Econ. 4132

The Big Mac Index(7/2009)

The Big Mac index isbased on the theoryof purchasing-powerparity. Under PPP,

exchange ratesshould adjust toequalize the price ofa common basket ofgoods and services

across countries. Ourbasket is the Big Mac.

Video Clip
http://www.economist.com/markets/bigmac/http://www.economist.com/markets/bigmac/


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- Emerging from the war with fledgling industries, countries like Argentina,Brazil, Columbia, and Mexico began systematically to sustain thesemanufactures by erecting tariffs and other barriers to trade-competing importsfrom the US.

- Latin America developed import substitution regimes with a multitude ofprotective techniques that were later emulated by other developing countries.

Conditions for success:

(1) Identify large domestic markets, as indicated by substantial importsover the years.(2) Ensure that the technologies of production can be mastered by local

manufacturers or that foreign investors are willing to supplytechnology, management, and capital (joint ventures).

(3) Erect protective barriers - Either tariffs or quotas on imports, toovercome the probably high initial cost of local production and make itprofitable for potential investors in the target industries (infantindustry argument).

First targets=> Consumer goods industries (processed foods,beverages, textiles, clothing, and footwear) have technologies easily

obtained and mastered by domestic producers.


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(4) Keep an overvalued exchange rate => Imports are cheap(intermediate inputs are cheap) and exports are expensive to foreigners(reduced dependence of foreign markets for economic well-being:Foreigners just won't buy your products).

(5) SOEs and why? Key industries vs. natural resources (p. 62).

(6) Role of MNCs? Subject to restrictions (p. 67).

Marked change in national economic policy began in the 1950s:

Following the end of the WWII, most Latin American governmentsformulated clear policies to foster "import-substituting industrialization".

- Governments improved the region's transport system andexpanded the infrastructure for electricity and water.

- Governments helped finance local industry and welcomed foreigncorporations willing to establish factories in certain industries.

- Still the strategy failed to resolve the Latin American tendency


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- Still the strategy failed to resolve the Latin American tendencyto import more than it could export.- In fact the import strategy contributed to the problem becausethe new factories were dependent on foreign suppliers formachines, spare parts and intermediate products.

- As the policy ran its course, domestic markets becameexhausted... if economic growth was to be sustained at home,then foreign debts had to be incurred (keep political promises).

(4) Eventually, many developing nations faced a breakdown (run out ofloans and must reduce exchange rates).

- When this occurred the wealthy and powerful were the first toknow: domestic currency will exchange into a larger number of foreigncurrency per unit. Economic reality => the national currency mustdepreciate => Capital flight: Causes the domestic currency to depreciaterapidly. In other words: this strategy ended with a crisis.

- Devaluation typically reduces imports and increases exports butin the import trade strategy environment, the dependency on importedgoods made the demand for foreign goods inelastic => imports did notfall yet became more expensive to obtain.

- Also, reducing imports would mean reduced employment(populist politicians would not accept) => net result: worsening of thebalance of payments/foreign exchange problems.


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[a] Government felt compelled to borrow as much as possible fromexternal sources (plus to print money to pay their domestic bills).

(5) In addition, levels of efficiency in the new industrial plants weresometimes rather low: due to limited size of the home market.

Many producers used technology designed to produce high volumes ofoutput (higher than Latin American countries could support)

Many firms operated at capacity levels below 50%!

(6) Under the ISI regimes governments introduced productive tariffs andquotas (or total ban on certain imports) to protect domestic producersand in some instances domestic producers had monopoly status => little

incentive to improve management or labor practices so the prices of localmanufactures rose well above international prices.

[a] Also, very powerful domestic interests resisted dismantlingtariffs and quotas that protected their favored status.

(7) Next the rate of job creation was much lower than had been hoped


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(7) Next, the rate of job creation was much lower than had been hopedfor

- largely because of the rapid growth of the labor force (from bothurban migration and high rates of population increase).- Also, the problem was made worse because the technology

incorporated in domestic industry was often capital-intensive eventhough more labor-intensive techniques were available.

(8) Finally, the import-substitution strategy and associated domestic growthwas bound to slow down eventually because of small marketswithout hope of exports (due to overvalued exchange rate).

but it worked for a while (5.5% growth: 1950 1980)

6. Export oriented trade policy & development strategy: (outwardlooking trade strategy or the neoliberal agenda)

- Allows a nation to realize, as fully as possible, the inherent gains

from their comparative advantage through free markets.- Often means primary-export-led growth (drawbacks: volatile priceswingsand limited revenue upside due to Engels Law).- Starting in the 1960s there were the beginnings of an intellectualreturn to free trade thinking and attempts were made to encourageLatin American countries to export more to the developedcountries.


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- Stimulus here was the budding success of the Asian Tigers or NICs(Newly Industrialized Countries: Hong Kong, Korea, Singapore andTaiwan) who were successfully penetrating MDNs (More DevelopedNations) markets.

- Encouraged by the advice of the World Bank, several governmentsincluding those of Brazil and Colombia began to reduce levels of domesticprotection and to give incentives to export producers.[a] By 1970 this had become an accepted way of sustaining industrialexpansion.

Conditions for Success:(1) Maintain an exchange rate that helps make it profitable for domesticproducers to sell their crops, manufactures, and services on worldmarkets. The lower the exchange rates, the more desirable the nationsproducts will be to foreigners.

* As exchange rate decreases => exports rise while imports fall=> goal: to get nation to run a balance of payments surplus =>give them foreign currency to service and reduce external debt.

(2) It may be necessary to subsidize some exports to inducemanufacturers and farmers to invest in capacity for the export market(infant industry argument again).


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(3) If governments want producers to turn towards world markets,

they must reduce the relative attractiveness of production for thedomestic markets => reduce high protective tariffs for favored

industries, eliminate quotas on imports and reduce regulations.

7. Hyperinflation - Inflation (absolute increase in price level) at veryhigh rates of usually 200 percent or more prevailing for at least one year(table on page 108).

Caused by one factorgovernment printing too much money to payits bills (Seniorageor, quantitative easing).

Why is it bad?A. Uncertainty and therefore higher risk => less investment (both

from domestic and international sources). Induces the outflow offinancial capital and reduces FDI. The poor flee to dollars.

B. Functions of money destroyed... store of value, unit of accounting,unit of exchange.

No lubricant to machinery of economy => friction=> slows down(people revert to barter).

C. Encourages speculation... Diverts effort away from production.


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D. But why do it? Effectively a tax without increasing official tax rates:government uses money right after it is printed thereby using it when it hasthe greatest purchasing power... those who receive it later have reducedpurchasing power therefore have transferred, unknowingly, some of the

purchasing power which would have been theirs to the government(inflation tax).

especially impacts the poor. it is not understood, so most citizens dont blame government.

E. Solution... New currency or abandon currency ($...El Salvador and

Ecuador have done; plus the US $ accepted almost everywhere).

8. The International Monetary Fund (IMF):What is it?- International role of IMF is to extend emergency credit (Short Term!)

to member nations who get in trouble.- Critics=> IMF tool of MDNs lying in wait to get control of the nation's

economic policies and reshape them in a monetarist, marketoriented, conservative model.

- Problem: Has had a standard package that includes:[1] Monetary & Fiscal restraint.


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Monetary restraint reduces domestic demand and reins in inflation(also ties politicians hands so they cant use seniorage). Government spending reduced (reduce size and involvement of

government). Create fiscal prudence by bringing the federal budget inbalance.[2] Currency Devaluation Goal: Reduce excess demand and to reorientthe structure of national production away from imports and towardexports (with low import content; a comparative advantage oftenfocused on labor intensive manufactured goods and primary products).

also reduces appeal of capital flight.[3] Cut subsidies and other trade impediments (tariffs, quotas, rules &regulations) => open up economy to global market forces.[4] Limit on wage rate increases in countries with high inflation thereare also price controls to help break inflation psychology [structural

inflation] Argentina, Brazil and Peru.[5] Overhaul tax structure to reduce loopholes for wealthy and to makemore efficient. Note:Theres been little progress on this one.

- All subject to periodic review: If they haven't followed guidelines they


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All subject to periodic review: If they haven t followed guidelines theylose additional funding or must accept and even more stringent set ofguidelines.

=> funding is received in installments over period of the loan.

Capital flight: A rapid and massive conversion of domestic currency forthat of a major international reserve currency and movement of thatreserve currency out of the country to an off-shore financial haven.- When devaluation is about to occur, the wealthy and powerful are thefirst to know.

- The overvalued exchange rate means that just before crisis point thedomestic currency will exchange into a larger number of foreigncurrency per unit.- Economic reality => the national currency must depreciate => capitalflight: helps to depreciate the domestic currency rapidly in a short period

of time (depletion of reserve account).- This often creates volatile financial markets, increases risk, increasesinterest rates, social unrest and reduces economic growth.- It is also followed by a period of inflation ( actually stagflation).- Psychology imbedded in wealthy Latin culture to have one financialfoot in and one financial foot out of home country (keep a house andbank account in Miami).

Evaluating and Comparing Economies:


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Evaluating and Comparing Economies:

A. Need some definitions before we go on... Institution:Institutions are rules of the society that structure the

interaction among people.

- Are made up of formal rules and regulations.- And informal rules as well at times (important in LA!).- They are the informed ways by which people deal with each

other every day norms of behavior.- Institutions, collectively, are the framework within which all of

human interaction... political, social and economic... takes place. Economy:The economy of a society is comprised of institutionsthat perform economic functions. These institutions are structuredand behave according to established working rules. Philosophical Basis for an Economy:A viewpoint which specifies

the place of an individual within society; an ideal state of political,social and economic reality to serve as a set of ultimate goals forsociety; and a general program suggesting broad policy measuresthat will guide society from its actual conditions toward the idealreality. This economic philosophy will be multidimensional in thesense that social, political, and cultural, as well as economicelements are contained therein.


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1. Capitalism Adam Smith - dominance of "the invisible hand" inguiding economic activity. Limited role of government (providepublic goods and define the rules of the game). A processideology.

B. Institutional Economics:

1. While there is no hierarchy of importance in the tenets ofinstitutional economics, one of the most important for ourpurposes is that...

[a] Economies are fluid rather than static.[b] The second tenet is that one can understand an economy onlywithin its historical context.

- The constellation of factors shaping an economy is unique.- A corollary to this tenet is that what might work for one

nation might not work for some other due to historicalinconsistencies.

[c] Third, the values of a nation's people can be understood best bystudying the philosophical/religious underpinnings of its culture.

- Old and new philosophies alter attitudes that may

subsequently lead to a change in work rules and thereforeinstitutions.


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[d] A fourth general tenet is that the values, institutionsand work rules which operate in one nation will notnecessarily function in another nation.

- A corollary tenet is that values, institutions and work rules which

functioned in the past may not function in the future. G. C. Allen:"One of the most common fallacies in the minds of academics, orthe citizenry of a nation, is that once a trend is established it willpersist indefinitely."

[e] Finally, the basic structure and performance of an

economy are influenced by the dynamics of the society'ssocial and political structure.4. This broad theory is based upon the interrelationship between asociety's beliefs, power structures, and working rules ofinstitutions.

[a] The theory can be used to explain the nature andevolution of economic systems.[b] Changes in working rules can modify institutions orcreate new ones, with the economy evolving in the process.[c] The philosophical basis accepted by authorities and theeconomy's performance determines whether the working

rules are retained, modified, or replaced.


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5. Working rules...

- Establish the boundaries of economic activity betweeninstitutions.

6. Principal institutions...

- Socially determined: not inherent.

[a] Instrumental in establishing and coordinating most productionand distribution patterns of behavior, and giving meaning and

durability to routine activities.[b] Significant features: Origin, the activities participants perform,working rules governing them, their impact on the economy, andthe philosophical basis for these activities and rules.

7. Behavior of the economy...- Three components: How it is organized to resolve the economicproblem(s) (what, when, how, for whom), institutional change, andperformance.

In describing how each society is organized to resolve its economicproblem, three questions need to be addressed:


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1. How is the resource allocation decision organized...

[a] Centralized (state control) or decentralized (markets) or somecombination. Decision making rules and institutions.

2. What are the rules regarding ownership and control overproductive resources?

- In each economy the rules differ...even where similar, differingrestrictions exist.

3. What type of social process has been adopted for coordinatinginformation and for making production and distribution decisions?

- Including markets, traditional mechanism, or some form ofeconomic planning.

II. Evaluating and Comparing Economies:

- The performance of an economy is influenced by goals andpriorities established by authorities and by environmental factorssuch as technology, natural resource endowment, and internationaleconomic and political factors... all interrelate.


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- How the economy performs, relative to stated goals and priorities(prevailing norm), determine which other economic, social orpolitical policies are necessary.- Evaluating and comparing economies cannot be purely objective.

Conclusions influenced by the analysts point of view...the comparors norm.

A. Evaluating the performance of an economy...

1. An economy's performance can be defined in many ways,

depending upon the performance criteria, methods of measurementand weights attached to each criterion when overall performance iscalculated (the performance index).

- The choice of criteria is up to the analyst (you!).

2. Four steps to follow:

a. The analysts definition of performance.

b. The identification of performance criteria.

c. The choice of performance indicators for each criterion.

d Th il i f f i d f i


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d. The compilation of a performance index for cross-comparisons. Includes weighting - must be made explicit (you will notbe expected to do this)

e. Need for a benchmark country.

3. Criterion examples:

- Economic growth (change in GDP or GDP per capita)

- Economic stability (low inflation, stable exchange rate, lowunemployment, lack of deficits, etc.)

- International balance of trade, external debt, and currency values

-Income distribution... Lorenz Curve (Gini Coefficient)-World Atlas of Income Inequality

- Quality of life: e.g. Human Development Index (United Nations)

other indices: Corruption, Competitiveness, Economic Freedom

Approach in writing a course paper on a country (ideal)
http://www.worldpolicy.org/projects/globalrights/econrights/maps-gini.htmlhttp://www.worldpolicy.org/projects/globalrights/econrights/maps-gini.html


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Mexico1. Introduction.: Start with overview of country/issue plus some currentstatistics.

P l ti 108 7 (2007)


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Population: 108.7 m (2007)

Population growth: 1.2% (average, 2003-2007)

Land area: 1.9m sq km (about three times the size of Texas)

Currency Mexican peso (Ps): 12.95 pesos to the dollar (Feb. 2010)

GDP:US$ bn; market exchange rate: $893.4

US$ bn; purchasing power parity: $1,345.8GDP growth: 3.3 % (average, 2003-2007)

GDP per head

GDP per head (US$; market exchange rate) $8,219

GDP per head (US$; purchasing power parity) $12,381

Inflation: 4.2 % (average, 2003-2007)

Background:


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Mexico was ruled by the Partido Revolucionario Institucional (PRI) and itspredecessor, the Partido Revolucionario Nacional (PRN), between 1929 and2000. Once strongly nationalist and interventionist, the leaders of PRI

governments in the 1990s embraced free-market policies and economicliberalization. Following the victory in July 2000 of Vicente Fox Quesada,the presidential candidate of the centre-right party, the Partido AccinNacional (PAN), changes to the political system are slowly taking place. ThePRI remained the largest party in Congress during the Fox years, but it

became less enthusiastic about free-market policies. Current president:Felipe Calderon (PAN).

Political structure:

The political system is presidential, bicameral (Senate and Chamber of

Deputies) and federal (32 states). The president is elected every six years;Mr. Calderon took office in December 2006. The 500 members of theChamber of Deputies are elected every three years, 300 from single-member districts and 200 by proportional representation. Three-quarters ofSenate members are elected directly for a six-year term with the remaining

one-quarter elected by proportional representation.

Key indicators &F t

2007 2008 2009 2010 2011 2012


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Forecasts

Real GDP growth (%) 3.3 2.3 1.6 3.4 3.8 3.6

Consumer price inflation

(%)

4

5.2

5.2

3.6

3.4

3.3

Commercial banks' prime

rate (av; %)

7.6 8.3 8.5 7.1 7.4 7.4

Current-account balance

(% of GDP)

-0.6 -1.1 -1.2 -1.5 -1.6 -1.4

Major exports

2007

% of

total

Major imports

2007

% of

total

Manufactures 80.7 Intermediate

goods

72.9

Maquiladora 44.7 Maquiladora 34.2

Oil 15.8 Consumer

goods

14.8

Agriculturalproducts

2.8 Capital goods 12.3

Leading

markets 2007

% of

total

Leading

suppliers 2007

% of

total

US 82.1 US 49.6

Canada 2.4 South Korea 10.5

Spain 1.5 China 5.8

Germany 1.3 Japan 4.

2. History be brief.


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y

- philosophical basis (prevailing norm)

- identify principal institutions in the social, political and economicspheres

- discuss notable working rules of these institutions

3. Methodology (more on this below): Explicitly state yourcomparors norm contrast with prevailing norm. Define yourperformance criteria, consistent with your comparors norm, and

provide the data on your chosen country/issue and yourbenchmark country.

4. Behavior/Analysis of economy (recent).

5. Evaluation from point of view of your performance

criteriabenchmark country for comparison.6. Conclusion

- what can you now say about this country/issue?

- do some forecasting: where are things going from here?

7. Footnote/Endnotes

I have already chosen Mexico as my primary country


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My benchmark country will be Argentina.

Comparors norm: I think the standard of living is importantand strongly correlated with good social indicators (healthy diet,

access to health care, good sanitation, access to education, etc.).Since inflation has been a problem in the pastand candevastate purchasing powerthat stable, relatively low inflationis a must to maintain a productive economic environment.Finally, to compete in the global economy I think access to

technology is crucial for the people. Performance criteria: The amount of income per person in realdollar/peso terms will measure standard of living. The change innational prices each year will measure inflation. Finally, theavailability and spread of advance technology will lead to the

ability to compete in the global marketplace.

Performance indicators:

1. Inflation, GDP deflator (annual %)

2. GNI per capita, PPP (current international $)

3. Fixed line and mobile hone subscribers er 1 000 eo le

Mexican Inflation in Comparison to Argentina's



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Year Mexico(Inflation:

GDP deflator)

Mexico(Percent

change frompreviousyear)

Argentina(Inflation:

GDP deflator)

Argentina(Percent

change frompreviousyear)

1995 37.87 --- 3.17 ---

1996 30.74 -18.83% -0.05 -101.66%

1997 17.69 -42.47% -0.46 784.99%

1998 15.39 -13.02% -1.71 267.53%

1999 15.09 -1.91% -1.84 7.70%

2000 12.10 -19.80% 1.04 -156.48%

2001 5.88 -51.43% -1.10 -205.64%

2002 6.96 18.34% 30.56 -2888.45%

2003 8.49 21.98% 10.50 -65.65%

2004 6.10 -28.09% 9.19 -12.48%

2005 8.80 44.22% 5.50 -40.13%

2006 13.50 53.41% 4.40 -20.00%

2007 14.10 4.44% 3.20 -27.27%

Mexican Gross National Income per capita (in currentinternational dollars: PPP)


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Comparison to Argentina's

Year Mexico (percapita GNI)

Mexico(Percent

change from

previousyear)

Argentina(per capita

GNI)

Argentina(Percent

change from

previousyear)

1995 $6,690.81 --- $10,178.24 ---

1996 $7,058.22 5.49% $10,811.49 6.22%

1997 $7,551.75 6.99% $11,742.87 8.61%

1998 $7,898.89 4.60% $12,189.31 3.80%

1999 $8,208.48 3.92% $11,815.08 -3.07%

2000 $8,815.06 7.39% $11,850.38 0.30%

2001 $8,885.24 0.80% $11,482.92 -3.10%

2002 $8,976.73 1.03% $10,299.60 -10.31%

2003 $9,136.73 1.78% $11,306.55 9.78%

2004 $9,644.73 5.56% $12,525.94 10.78%

2005 $10,420.00 8.04% $11,180.00 -10.75%

2006 $11,670.00 12.00% $11,970.00 7.07%

2007 $12,990.00 11.31% $12,580.00 5.10%

international dollars: PPP)

Mexican fixed line and mobile phone subscribers (per 1000people)


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...in Comparison to Argentina's

Year Mexico (Fixedline and mobile)

Mexico (Percentchange from

previous year)

Argentina(Fixed line and

moblile)

Argentina(Percent changefrom previous

year)

1995 104 --- 171 ---

1996 106 2.18% 193 12.55%

1997 117 10.03% 236 22.75%

1998 139 19.07% 273 15.41%

1999 193 38.60% 323 18.35%

2000 270 39.54% 390 20.68%

2001 358 32.63% 399 2.36%

2002 406 13.47% 379 -4.96%

2003 454 11.87% 433 14.12%

2004 545 19.98% 579 33.75%

2005 820 50.58% 650 12.29%

2006 1050 28.05% 740 13.85%

2007 1260 20.00% 840 13.51%

people)

Mexico (United Mexican States)


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Mexico (United Mexican States)

Capital: Mexico City 8.5 million people.

Ethnic makeup: 60% mestizo, 30% amarindian, 9% white, 1%

others. Much of Mexico's territory is vulnerable to earthquakes andvolcanic activity. In 1943, for example, a cornfield in one of Mexico'srichest agricultural zones sprouted a volcano instead of maize. In1982, a severe volcanic eruption in the south took several hundred

lives, destroyed thousands of head of livestock, and buried cropsunder tons of ash. Thousands of people died when a series ofearthquakes struck Mexico City in 1985.

Mexico is a nation of climatic extremes. Much-needed rains often

fall so hard that most of the water runs off before it can be absorbedby the soil. When rains fail to materialize, crops die in the fields. Theharsh face of the land, the unavailability of water, and erosion limitthe agricultural potential of Mexico. Only 10 to 15 percent of Mexico'sland can be planted with crops.

Mexico's central region has the best crop-land. It was here that the


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Mexico s central region has the best crop land. It was here that theAztecs built their capital city, the foundations of which lie beneaththe current Mexican capital, Mexico City.

For decades, Mexico City has acted as a magnet for rural poor who

have given up attempts to eke out a living from the soil.- The size and location of Mexico City have spawned awesomeproblems (the worst smog in the Western Hemisphere, trafficcongestion is among the worst in the world, essential publicservicesincluding the provision of drinkable water,

electricity, and sewershave failed to keep pace with thecity's growth in population). Mass communication has had an incalculable impact on culture.

- Television commercials primarily use models who areethnically European in appearancepreferably white, blue-

eyed, and blonde. As if in defiance of the overwhelminglymestizo character of the population (success has becomeassociated with light skin).- Television, however, has helped to educate the illiterate:Some Mexican soap operas, for instance, incorporateeducational materials.

Literacy is portrayed as being essential to one's success and well-


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y p y gbeing.

Compadrazgo("co-godparenthood" or "sponsorship") is found at alllevels of Mexican society and in both rural and urban areas.

- It is a device for building economic and social alliances thatare more enduring than simple friendship. Furthermore, ithas a religious dimension as well as a secular, or everyday,application (informal rules of society).

- The chaos of city life, the hundreds of thousands ofmigrants uprooted from rural settings, and the sense ofisolation and alienation common to city dwellers the worldover are in part eased by the Hispanic institution ofcompadrazgo.

- Compadrazgoperforms many functions, including providingassistance from the more powerful to the less powerful and,reciprocally, providing homage from the less powerful to themore powerful (reaches across class lines and knits thevarious strands of Mexican society together).

As Mexico City has sprawled ever wider across the landscape


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As Mexico City has sprawled ever wider across the landscape,multitudes of new neighborhoods have been created. Many are theresult of well-planned land seizures, orchestrated by groups ofpeople attracted by the promise of the city.

- Technically, such land seizures are illegal; and a primarygoal of the colonos(inhabitants of these low-incomecommunities) is legitimization and consequent communityparticipation.- Beginning in the 1970s, colonospursued their demands for

legitimization through protest movements anddemonstrations, some of which revealed a surprising degreeof radicalism.- In response, the Mexican government adopted a two-trackpolicy: It selectively repressed the best-organized and mostradical groups ofcolonos, and it tried to co-opt the remainder

through negotiation. In the early 1980s, the governmentcreated "Citizen Representation" bodies, official channelswithin Mexico City through which colonoscould participate.

The Border:


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Driven by poverty, unemployment and lack of opportunity manyMexicans have chosen the United States as the place to improvetheir lives (2009: estimated at 8.8 million).

During WWII the presidents of both nations agreed to allowMexican workers, called braceros, to enter the US as agriculturalworkers.

Regardless, each year hundreds of thousands of undocumentedMexicans illegally cross the border in search of work (estimated at 4

to 6 million at any given time).

For the Mexican government this is a blessing since such massemigration is a sociopolitical safety valve and results in an inflow ofdollars sent home by workers (remittances).

Still, the US has attempted to stem the flow by negotiating treatiesso that US companies and Mexican states along the border wouldprofit from the creation of assembly plants (maquiladoras).

Low wages and lax labor and environmental law enforcement hasresulted in US firms gaining profits while the Mexican government

reaps the benefits of employment and tax dollars.

Mexicos Stability:


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y

Depends on the ability of the ruling elite to maintain a state ofrelative equilibrium among the multiplicity of interests and demandswithin the nationand to reign in the drug gangs.

Process characterized by bargaining among elites with variousviews of politics, social injustice, economic policy, and the conductof foreign relations.

The 1910 Revolution (1910-1917) resulted in the Mexican

Constitution: A remarkable document in that it covers not onlypolitical rights but economic rights as well (e.g. 8-hour work day,minimum wage, 6-week paid leave for pregnant women, etc.)

Unfortunately, many of the provisions of the 1917 Constitutionhave yet to be achieved.

Indian problem they have long endured the unequal practicesof a ruling white and mestizo elite.

Land reform: focus of struggle and occasion for serious humanrights abuses.

Drug gangsorganized, wealthy, powerful and violent.

Even today, paramilitary bands and local police controlled by


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y, p y p ypolitical bosses or landowners routinely threaten and/or kill peasantactivists. The further south you go in the country, the more acutethis problem (Chiapas & Oaxaca).

Institutional Revolutionary Party (PRI) controlled the federalgovernment from 1929 to 2000; and set policy and controlled alllevers of political power.

Paternalistic and all-powerful, the state controlled thebureaucracies that directed the labor unions (powerful), peasant

organizations, student groups, and virtually every other dimensionof organized society.

Even though the PRI lost the presidency in 2000, it remains themost powerful political party.

The PRI lost power because a series of economic crises alienatedthe upwardly mobile middle-class.

In 2000 Vicente Fox headed a coalition of parties that adopted thename Alliance for Change and promised Mexicos electorateRevolution of Hope he promised to be a citizen president.

Economic Crisis:


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In the 1970s the PRI undertook economic policies designed tofoster rapid and sustained economic growth (import substitution).

Borrowed heavily to fund and achieved economic growth of 8%.

Backed by its vast deposits of petroleum, the PRI recklesslyborrowed to expand its economic infrastructure.

Petroleum prices plunged in 1981-82 debt crisis. By the end of1982 40% of Mexicos export earnings were devoured in interest

payments on a debt of $80bil.

IMF set as a condition for emergency funding a drastic reduction instate spending layoffs, reduced spending on social welfareprograms. Devastated the poor and reduced the standard of living ofthe middle class.

In December 1994 the economy collapsed after the governmentcould no longer sustain an overvalued peso.

The peso fell 50%, while the stock market fell 38%. Ushered inanother round of public austerity (Pres. Zedillo) and was the final

ingredient in bringing down the PRI.

US engineered a bailout by backing (attached loan guarantees:


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g y g ( gBrady bonds) a new issuance of Mexican government bonds.

NAFTA (1992): hope was that it would shore up the Mexicaneconomy and generate jobs. It has for Mexico so that now Mexico isthe third largest trading partner of the US. A new trade agreementbetween Mexico and the EU signed in 2000.

Resulted in the globalization of Mexico.

Analysts have noted that NAFTA has contributed to a trendtoward more representative government and that globalization hasundercut the state-centered regime of the PRI.

Still, there are far to many Mexicans who live below the povertylevel. Of the 40 million poor, 18 million are characterized as living in

extreme poverty (less than $2 a day).

Income distribution is skewed with the richest 20% in control of58% of the nations wealth while the poorest 20% control only 4%.

Questions on Mexico?

Chapter 4: Latin Americas Debt Crisis: The Limits of External Financing


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Chapter 4: Latin America s Debt Crisis: The Limits of External Financing

The debt crisis in Latin America was a development crisis.

The reasons for a debt crisis include

A chronic deficit in the non-interest current account balance. A rise of import costs or a decrease in export earnings.

World capital markets lose confidence capital inflows dry up.

Borrowing is not necessarily bad (investment vs. current consumption).

Definition of a Debt Crises: A debt crisis arises when countries fail to meet their

interest and/or principal payments.

There are three ways to service national debt:

First, the non-interest current account can be brought into a surplus balance.

Obtain newly borrowed money from international sources in order to cover

old debts. Other capital inflows such as from foreign direct investment.

Note: Overvalued exchange rates and capital flight contribute to debt crises.

Over-invoicing of imports and under-invoicing of exports?

Causes foreign asset accumulation but goes into black market.

The 1980s Debt Crisis


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1. Gradual failure of ISI policies during late 60s and early 70s=> need for

external money to support.

2. Yom Kipper war => OPEC raises price of oil => stagflation in developed

countries => OPEC money floods Eurocurrency market => growth lookedrelatively good in Latin America because of ISI insulation => money flowed in

from Europe => feeding virtuous cycle of growth.

3. US Federal Reserve acted to stop inflation (80 81) => drained money from

US system => caused interest rates to skyrocket => US economy went into a

sharp contraction => Latin exports to US tumbled => balance of paymentsquickly deteriorated and economies stalled.

4. Currency overvaluation and capital flight during 1978-1982 contributed to the

debt crisis.

5. Mexico 1982 (OPEC loses controloil prices drop). Brazil, Argentina and Venezuela got into similar trouble shortly thereafter.

A sovereign guarantee

external debt to exports or debt service to export ratio (table 4.6)

Other terminology in box on page 90.

6. Many nations were unable to sustain positive net exports and struggled under


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6. a y at o s we e u ab e to susta pos t ve et e po ts a d st ugg ed u de

the dead weight of ISI => political and economic inertia => The Lost DecadeDebt Crisis Management

1. What was "the muddling-through strategy? Assumed that debtors would regain their credit-worthiness with a combination

of internal adjustment and more favorable world economic conditions.

Assumes problem is a liquidity not a structural problem.

Wrong! Led to depressed living conditions, hyperinflation, sharply reducedinvestment, and reduced long term growth rates.

What is conditionality?

2. Debt-equity swaps.

3. Debt for nature swaps.

4. Buybacks of debt.

5. Debt facilities organized by creditor governments (Paris Club).

6. Relief on interest payments rather than principle.

7. Provisioning increased private financial sector set aside profits before


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g p p

dividend payments against risky loans (protects capital base in case of client

default).

8. Development of secondary market for developing country debt (Mexico $.51

on each dollar of outstanding debt; Peru (1987) $.02 to $.07 to the $1)

9. The Baker Plan (October, 1985)

Plan to jump-start regional growth.

Premise: countries in region could not repay external debts in the context of

contractionary policies (IMF conditionality). Plan was to shift debt crisis

policy from austerity to growth.

Targeted 15 LDCs for $29 billion of new money ($20 from banks and $9 from

IMF/World Bank).

Was a formal recognition that the problems were structural rather than of aliquidity nature caused policy shift at IMF to tie future loans to growth

targets.

Still, it was too little too late money spread too thinly to have major impact

(almost $1 trillion of debt involved).

9. The Brady Plan first proposed in 1985 but didnt get underway until 1989.


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y p p g y

Asked banks to forgive part of their loans to debtor countries in exchange for

limited guarantees of repayment of remaining outstanding debt.

Three options:

[1] decrease face value of debt (sanctioned buy-back in secondary markets)[2] extend the time period of obligations

[3] infusion of new money swap old loans for new 30-year bonds issued at

favorable rates (with guarantees by USA to create incentives for private banks

to participate).

Financed by the IMF and World Bankbacked by the US.

Also asked participating banks to make new loans to debtor countries to help

stimulate growth.

Banks not eager to participate. In the end helped Mexico (US forced banks) and

Costa Rica (the model country reduced debt $1.1 billion).

10. Is the debt crisis over in Latin America?HIPC (highly indebted poor counties, 1995) goal to reduce the stock of debt of

the poorest of the poor (Nicaragua, Bolivia, Guyana, Honduras & Haiti qualify in

LA). There are conditions if a nation decides to participate (p. 102).

11. Latin America gross external debt and other important metrics (in billions of US

dollars)


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Latin America

Economic Indicators, 2002- 2008

2002 2003 2004 2005 2006 2007 2008

External Sector

Current Account (% of GDP) -0.8 0.5 1.0 1.4 1.5 0.4 -0.7

Trade Balance (% of GDP) 6.5 12.2 13.8 16.0 16.1 9.6 6.0

Current Account (US$ bn) -14.2 9.1 20.6 35.4 45.7 12.9 -26.8Trade Balance (US$ bn) 21.4 41.3 56.7 77.7 93.6 66.3 49.6

Exports (US$ bn) 348.1 378.5 468.0 563.7 672.8 758.4 879.6

Imports (US$ bn) 326.7 337.2 411.1 485.8 580.1 692.2 830.4

Exports (%-change) 1.2 8.7 23.6 20.5 19.3 12.7 16.0

Imports (%-change) -7.0 3.2 21.9 18.2 19.4 19.3 20.0

Int. Reserves (US$ bn) 160.1 194.2 218.0 249.3 302.4 438.8 500.2

Int. Reserves (ms imports) 5.9 6.9 6.4 6.2 6.3 7.6 7.2

External Debt (US$ bn) 718.8 745.1 745.7 656.2 643.4 712.9 767.9

External Debt (% of GDP) 42.3 40.1 34.8 25.1 21.0 19.8 19.0


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Latin America

Economic Indicators, 2002- 2008

2002 2003 2004 2005 2006 2007 2008

External Sector

Current Account (% of GDP) -0.8 0.5 1.0 1.4 1.5 0.4 -0.7

Trade Balance (% of GDP) 6.5 12.2 13.8 16.0 16.1 9.6 6.0

Current Account (US$ bn) -14.2 9.1 20.6 35.4 45.7 12.9 -26.8Trade Balance (US$ bn) 21.4 41.3 56.7 77.7 93.6 66.3 49.6

Exports (US$ bn) 348.1 378.5 468.0 563.7 672.8 758.4 879.6

Imports (US$ bn) 326.7 337.2 411.1 485.8 580.1 692.2 830.4

Exports (%-change) 1.2 8.7 23.6 20.5 19.3 12.7 16.0

Imports (%-change) -7.0 3.2 21.9 18.2 19.4 19.3 20.0

Int. Reserves (US$ bn) 160.1 194.2 218.0 249.3 302.4 438.8 500.2

Int. Reserves (ms imports) 5.9 6.9 6.4 6.2 6.3 7.6 7.2

External Debt (US$ bn) 718.8 745.1 745.7 656.2 643.4 712.9 767.9

External Debt (% of GDP) 42.3 40.1 34.8 25.1 21.0 19.8 19.0


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The PIIGS in Europe may be headed for their own debt crisiswill it


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follow a similar pattern?

Chapter 5: Macroeconomic Stabilization: A Critical Ingredient


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What happens in countries with high and accelerating inflation is that people

spend more time trying to exchange their money than actually producing plus

speculating and barter. (Bolivia => at one time annualized rate of 60,000 percent).

In addition, the functions of money are destroyed (unit of accounting, store of

value, medium of exchange). Affected economy reverts to barter (inefficient).

1. Monetarism versus Structuralism

Monetarism (Orthodoxy): Supporters believe that inflation is the result of too

much money chasing too few goods. They argue that the main cause of inflation is

deficit spending financed by money creation. To reduce inflation, they argue that

the supply of domestic currency creation must be drastically reduced.

MV = PT

Structuralism (Heterodoxy): Main the primary reason for inflation has to do withthe structure of industrial production. They argue that inflation is brought about

when one sector of the industry or economy grows more slowly than the whole

(asymmetric development). Sector growth variation creates bottlenecks for those

slow growth industries, causing relative price increases (cost push inflation).

[1] example of agriculture.

There are three main factors supporting the structural argument as a cause of


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inflation in Latin America:

[1] Export earnings are inadequate to permit relieving shortages by

importing sufficient amounts of bottleneck products to reduce

domestic prices.

[2] Labor markets are neither homogenous nor competitive.

[3] Price increases can be passed along because most markets are

at best oligopolistic (too much monopoly power).

Assuming the structuralist are correct, how should government policy be

designed to address high inflation?

Structuralists recommend income policy and price freezes to combat inflation.

Assuming the monetarists are correct, what should be the governments

approach be to this problem?

Fiscal and monetary restraint (conservative).

2. Five contributing factors in the inflation process :

Seignorage

Balance of payments crisis:

[1] R d d li ti D l th


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[1] Recommended policy action: Devalue the currency.

[2] Yet this can generate an immediate jump in inflation because

of falling terms of trade (import prices jump)J curve.

Dollarization:

[1] People substitute dollars for their domestic currency when inflation

increases and confidence in the domestic currency declines.

[2] Similar to capital flight although the flight to the dollar is within the

national borders (action led by lower and middle classes).

[3] Velocity rises, becomes unstable and feeds inflation.

Capacity constraints and supply shocks:

[1] Any shock that increases aggregate demand above full employment

output or abruptly decreases aggregate supply contributes to inflationary

pressure. (e.g. natural disasters)

Indexation and policy adjustment intervals:

[1] These policies backward looking: wage adjustments, mini-

devaluations, or monetary corrections.

[2] Create inflationary expectations (inertial inflation) contracts (social and

i t ) b lf f lfilli h


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private)becomes a self-fulfilling prophecy.

[3] what is a tabela or tabla?

3. Policy trilemma in the context of economic instability (recession, inflation,

high external debt, government deficits, a deficit in the balance of payments &

lack of international confidence) Box 5.1; p. 117

The trilemma: A country can not have strong monetary control, a fixed

exchange rate and mobile financial capital simultaneously in this context.

Question: How much macroeconomic imbalance is tolerable?

a. Domestic monetary policy objective is to shorten recession while restraining

inflation.

b. Fixed exchange rate: objective is to create a price anchor with major trading

partners and to force real adjustment (subdue domestic inflation).

Yet under a fixed exchange rate regime, a trade deficit results in a decrease

in the money supply, weakening monetary freedom to balance domestic

economy. At the same time, loose monetary policy to stimulate domestic

economy will worsen trade deficit and undermine central banks objective of

maintaining a pegged exchange rate.

c. Capital mobility: Objective is to encourage foreign direct investment and boostconfidence in country while at the same time discouraging capital flight (capital


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y g g p g ( p

controls can be used for thisyet is a blunt tool that discourages FDI).

Yet for this domestic interest rates must be equal to international real rates plus

domestic inflation premium. If done central bank loses interest rate wedge tool of

monetary policy.

4. Facing this trilemma monetarist advise to abandon domestic monetary policy

and link economy to a hard international currency.

5. Structuralists advise exchange controls to preserve domestic autonomy. Instead of

forfeiting autonomous monetary policy or adopting an exchange anchor, they preferto restrain capital mobility.

6. Heterodox experiments in Brazil details in book (pp. 127 132)

Cruzado plan (early 1986)

Besser plan (mid-1987)

Collor plan (1990)

Cardosos Real plan (late 1993) ended 1999 table 5.7 worked but was in

fact a mix of heterodox and orthodox elements.

Worked because this plan was credible to the public. It was gradual,preannounced and the new currency succeeded in erasing the inflationary memory


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p y g y y

of the old unit (realreias)

Still, since there was a lack of fundamental restructuring of fiscal outlays,

government deficits grew. After a mini-crisis in 1998, Cardoso extracted important

fiscal reforms from Congress (table 5.7, p. 125).

Lesson: heterodox policy alone is not enough. Need structural reform along with

targeted orthodox policies. Lula da Silva since 2002 has done this.

7. Inflation needs to be curbed in Latin America:

It creates widespread feelings of economic insecurity => produces suspicion as

well as reduces support for constitutional governments (feeds into military juntas).

Disintegrates purchasing power, destroys the integrity of money, reduces

economic growth, causes financial market instability and reduces investment.

Worsens inequality in income and wealth distribution (inflation tax).

Contributes to capital flight/dollarization.

Leads to balance of payments problems => decreases foreign direct

investment/portfolio investment and increases the burden of servicing external debt

(denominated in foreign currency typically the dollar).

Undermines government finances and induces seniorage and can ultimately transmute into inertial inflation (structural).


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y ( )

Olivera-Tanzi effect?

Real purchasing power of tax collections fall: Current tax payments are made

on last years income; yet in a high inflation environment those tax collectionsbuy a lot less government services and goods this year than it would have last

year. Undermines the efficacy of tax system and encourages more seniorage.

Velocity of money increases making money supply more difficult to control.

8. Read about the cases of Bolivia (pp. 128130) and Argentina (pp. 130134)all important and insightful.

Pay particular attention to the role of an independent currency board free

of Treasury/Central Bank control therefore free to implement new law:

money supply could only increase if the US dollars held in reserve were to

rise.

Note:The 91 Convertibility Plan (locked peso to the dollar-Argentina) failed

for the same reason the Real Plan failed: growing fiscal and trade deficits in

context of dwindling foreign currency reserves (table 5.9, p. 132).

Components to inflation reduction:

1. Finding a solution to chronic budgetary problems at the core of high inflation.

2. Identifying a means of eliminating inertial inflation, principally wage and price

l d i d i


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controls and indexation.

3. Introducing one or more nominal anchors to the price level at the start of

stabilization to ground expectations and the behavior of central bank

authorities.

4. Not necessary but, restructuring the role of government in the economy creates

the perception that business as usual has changed (e.g. Brazil under the Real

Plan). Boosts confidence both domestically and internationally.

In the end, without enduring stability there will be no or lackluster growth.

Instability and the policies necessary to cure it have a price: a growing social

deficit. It is the poor who suffer most under the ensuing austerity measures. In

particular, poor women and children suffer most since mothers are forced out

of the home to earn money while children are pulled out of school to take care

of the home, watch younger siblings and often to help in the fields. The endresult is diminishing human capital and reinforcement of the cycle of

poverty.

Therefore, macroeconomic stability is a necessary, but not sufficient, condition

for economic development or addressing the social deficit.

Chapter #6: The Role of the State: From a Smaller to a Smarter State


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The ultimate objectives for Latin American countries are to be competitive in

the international market, achieve sustainable growth and maintain autonomy.

The crises of the 1980s and early 1990s force a reconsideration of thecapabilities and role of the state.

Beyond the important issue of short-term stabilization remain the following

long term questions:

1. What size and role should the new, streamlined government assume?2. What should be the balance between the state and the market in Latin America?

3. How have corruption and poor administrative practices affected the legitimacy

of the state in Latin America?

Some important considerations before we move on:

States that are more open to global trade networks employ greater intervention:

globalization may require large states to insulate their citizens from the

uncertainty of globalized markets (to promote human development).

World Bank research indicates the following as the fundamental tasks of


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government:

1. Maintain a non-distortionary policy environment.

2. Invest in basic social services and infrastructure.3. Protect the vulnerable in society.

4. Protect the environment.

5. Establish a foundation of law (necessary to create transparency and reduce

corruption).

Theories of state activity in the context of development:

1. New Political Economy (NPE):

Based on the assumption of the pursuit of material self-interest and rational

calculus of economic participants. The pursuit of self-interest promotes thepublic good.

Interfering with the economy and markets should be kept to a minimum.

Markets work best when goods involved are both excludable, rivalrous and

subtractable (notion of a commons).

Neoliberal agenda (Milton Friedman/Chicago School)


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Washington Consensus based in NPE thinking (John Williamson,

1990George Sorros: market fundamentalism)

2. New Institutional Economics (NIE): Focuses on the importance of viable, high-functioning, social

institutions.

Support tenets of individual choice within neoclassical economics yet

maintains that mainstream economics ignores transactions costs:

[1] These can be quite high in the context of market failure, structural

asymmetry and asymmetric access to information (corruption with limited

transparencybounded rationality).

Argues that economic change is complex and that institutional structure

is as important as free markets (interplay of stock of knowledge,institutions and demographic factors).

Dani Rodrik: 4 functions of economic institutions: Market creating,

Market regulating, Market stabilizing, Market legitimizing.

=> Role for selective and effective state intervention in private economy.

Douglass Norths prescription for successful industrial development:


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[1] Secure property rights.

[2] Effective and impartial judicial systems.

[3] Transparent regulatory frameworks.

[4] Healthy institutional arrangements to promote complex interpersonal

exchange, including enforcement of contracts, establishment of limited-liability

corporations, and easy entry and exit of firms.

Therefore, markets left to themselves may become inefficient => wellstructured government institutions are essential to the development of efficient

market institutions (you need a well crafted set of the Rules of the Game).

3. Neostructuralists

The facts describing developing economies do not conform to those of

industrial market economies.

See a broad scope for state activity.

While placing more emphasis on participation in the global economy, they

still support a modified version of dependency theory.

Call for a modernization strategy that responds to socioeconomic

backwardness and excessive vulnerability to the global economy


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backwardness and excessive vulnerability to the global economy.

Specifically, supports call for the state to promote or simulate missing markets

(i.e. capital markets), strengthen incomplete markets (i.e. acquire technology,

develop forward/backward linkages), eliminate or correct structural distortions(i.e. concentrations in property ownership) and eradicate or compensate for the

most significant market imperfections arising from economies of scale,

externalities and asymmetric information.

Any action taken must be designed to take into account the unique historical

legacy of a country and crafted to local conditions (reject the one size fits allstrategy that emerges from neoclassical economic theory).

4. Role of corruption (table p. 162)15%-20% of LA GDP: acts as a tax.

5. Some defining realities:

Limited capacity to raise revenue to run the state income tax vs. VAT.

Privatization North: Changes in rules must accompany changes in ownership.

[1] Has privatization worked in Latin America?

[2] The policy pendulum?

[3] Is the banking sector a special case? (adverse selection & moral

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hazard?).

[4] What about infrastructure privatization? (e.g. utilities, roadways).

[5] Does privatization necessitate increased regulation and supervision?How does the state pay for this?

[6] Backlash against natural resource privatization.

Special Topic: The Caribbean


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The Caribbean is a complex, even enigmatic region, characterized by great

disparities in size, population, geography, history, language, religion, race, and

politics.

The Caribbean region is one of the most diverse in the world, with populations

varying from 260,000 in Barbados, to 6.7 million in Haiti, 7.5 million in the

Dominican Republic, and 10.8 million in Cuba.

Per capita GDP (2007) ranges from less than $1,400 in Haiti, to more than

$29,900 in the Bahamas, the third richest country in the Western Hemisphere.

Whereas the Dominican Republic and Haiti gained their independence in the first

half of the nineteenth century (and Cuba in 1898), the others became independent

only in the 1960s (Barbados, Guyana, Jamaica, Trinidad and Tobago) or even the1970s (the Bahamas and Suriname).

As a result of this colonial past, the region has four different languages,

numerous dialects, and a rich ethnic and cultural diversity.

Primary industries


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1. The Bahamas and Barbados have become dependent mainly on tourism and

services.

2. The Dominican Republic and Jamaica, on tourism, mining, and light exportmanufacturing.

3. Suriname and Guyana rely heavily on mining combined with agriculture.

4. Haiti, on agriculture and light manufacturing.

5. Trinidad and Tobago's mainstay remain the export of oil, oil derivatives, andnatural gas-based petrochemicals such as ammonia, urea, and methanol.

6. All the rest rely primarily on tourism with few exceptions (e.g. Cayman Island

& Bermuda: off-shore banking)

Recent Economic History

Buoyed by strong private and public investment, low global interest rates,

favorable terms of trade for regional commodities, and an agile, adaptive labor

force, the Caribbean economies achieved substantial real GDP growth rates on

average during both the 1960s (4.3 percent) and the 1970s (3.8 percent).

- Per capita real growth was above 2 percent per annum for the region as a

whole and continued progress was made toward political stability


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whole, and continued progress was made toward political stability.

For most of the 1980 the region was caught up in the international debt crisis so

suffered from low levels of international investment and access to international

credit. All economies experienced significantly slower economic growth andgrowth in per capita GDP stagnated.

- An exception was Trinidad and Tobago, that had an oil boom in the 70s;

a subsequent investment spike, and introduction of the "Dutch disease"

into the country, from which it has yet to recover.

In the 1990s and 2000s, the economies of mature tourist destinations Barbados

and the Bahamas were struggling, along with those of non-adjusting Suriname,

Haiti, and hydrocarbon exporter Trinidad and Tobago, which remained vulnerable

to the long slide in global oil prices (1982 to 2002 with a significant rebound to

mid-2008).Effects of 9/11

- Tourism dropped precipitously and then revived about two years later.

- Oil prices renewed the economic fortunes of Aruba (natural gas) and

Trinidad and Tobago (reinforced their Dutch disease).

Common Characteristics of Caribbean Economies

Salient features of most Caribbean countries (with the partial exception of Haiti


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Salient features of most Caribbean countries (with the partial exception of Haiti

and the Dominican Republic) are a relatively high degree of formal education of

the population; a limited size of the domestic market (small, island economies) and

a strong regulatory and locomotive role for the state in the economy (they too got

caught up in the ISI strategy of development).

2. A track record of risk aversion and rent-seeking by the local private sector.

3. Declining bargaining power in daily dealings with major trading partners.

4. A relatively good, but progressively outmoded physical infrastructure(particularly critical in Guyana and Suriname, due to years of inadequate

maintenance).

5. Last but not least, their economies are extremely open and highly vulnerable to

external shocks.

- The regional economies are so open that the weighted average of thesum of exports and imports (trade intensity ratio) oscillated around 80

percent of GDP throughout the 1980s, before sliding to 75 percent in the

early 1990s.

- Back up to around 80% of GDP today.

The 1990s and 2000s

D i h d d f h 90 h i ' i d f id bl


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During the decade of the 90s the region's economies underwent a formidable

transition.

As the trend towards urbanization continued, employment moved away from

agriculture and fisheries towards manufacturing, tourism, and other services.

Notable exceptions were Guyana, Haiti and Suriname, which lacked the basic

prerequisites for rapid development of these sectors.

Another exception was Trinidad and Tobago, where the oil boom and an ill-

designed and implemented public works program led to an exodus from theprimary sector in the early 1980s.

The structure of the region's external debt substantially improved from the mid-

1980s to 2000; to the extent that high, mostly variable, interest lending from private

banks was progressively replaced by a mix of multilateral and bilateral loans that

carry more favorable interest rates in exchange for more stringent conditions on theuse of the funds (conditionality again).

Nevertheless, a number of Caribbean countries, most notably Jamaica, the

Dominican Republic, Guyana, Haiti, and even Trinidad and Tobago, experienced

difficulties in meeting their external debt servicing obligations.

- After occasionally falling into arrears, they had to rely on special

arrangements with the Paris Club (for bilateral and officially guaranteed


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arrangements with the Paris Club (for bilateral and officially guaranteed

loans) and the London Club (for private bank loans) to reschedule their

obligations to longer maturities and sometimes more favorable terms.

- The Dominican Republic and Guyana were also enabled to use shortterm bilateral and multilateral funds to buy back a substantial part of their

outstanding borrowing from private banks.

Trends in tourism: The Dominican Republic and Jamaica greatly increased their

share in Caribbean tourism, both in terms of foreign exchange revenues

mexican debt crisis

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