United States Policies and the Latin American Economies
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In Chile, inflation exceeded percent in In both Peru and Venezuela, the central bank—financed fiscal expansions ended up in hyperinflation. In Peru the rate of inflation peaked at almost 8, percent, and the International Monetary Fund has forecasted that inflation in Venezuela will be almost 1 million percent by the end of The three countries studied in this section had a sovereign currency, and thus could and did follow the type of policies recommended by MMT economists.
In addition, in all cases the exchange rate was not strictly fixed; the price of foreign currency was adjusted frequently in some cases daily through a crawling rate regime or a "dirty float" system. I begin the discussion by presenting data on economic growth. I then discuss the expansion of public sector expenditures financed by central bank money creation, and the resulting inflation outbursts. The section ends with an analysis of the evolution of social conditions. I show that in the three cases, when the populist regime was replaced, real wages were lower than when the populist leader took over.
There are two dashed vertical lines in these graphs. The first one corresponds to the initial year of the populist episode; the second one refers to the first year of the post-populist regime. The similarities across cases are quite remarkable; the different phases of populist experiments are easy to detect in each one of these figures. In Chile, growth in was 2 percent, which meant that per capita growth was slightly negative.
Depressed initial conditions in Venezuela were the result of a succession of failed adjustment programs — some supported by the IMF — and a decline in the price of oil. In Chile the economy grew at an impressive 9 percent during the first year of President Salvador Allende's Unidad Popular government. In Venezuela there was also important GDP recovery after the accession to power of the new leader. In Venezuela it is possible to detect the negative effect of the global financial crisis of — However, there is a recovery, and the good times continued for a few additional years.
In Venezuela, the positive-growth phase Phase 1 was rather longer than usual. This was thanks to very positive terms of trade; the prices of oil and soybeans were very high during the early years of this episode Edwards As may be seen, in Chile there was negative growth in , the second year of the Allende administration. In Venezuela the economy collapsed in During Phase 4 the new postpopulist government had to put in place policies aimed at reducing inflation and reigniting growth.
As noted, in all of these episodes there were massive fiscal expansions financed by money creation by the central bank. In Chile, the Unidad Popular government also nationalized the banking sector, as a way to facilitate the flow of credit to newly nationalized companies and major public infrastructure projects. In Tables 2 through 4 , I present data on a number of key macroeconomic variables: public sector balance as percentage of GDP, rate of growth of the monetary base, annual inflation rate, current account balance over GDP, and real GDP growth.
In addition to the boom and bust dynamics of growth already discussed, several results stand out from these tables. Fiscal Expansion. In all cases the fiscal deficit becomes very large during the episode. In two of the cases Chile and Peru , a large imbalance develops immediately after the populist leader takes over.
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In Venezuela, it takes some time for the deficits to explode, but eventually it does happen. This delay is due to the extraordinarily high export prices during the early years of this experiment Edwards In the case of Chile, I present two series for fiscal balance. The first one refers to the central government accounts, and shows that in , the last year of the Allende administration, the deficit was almost 25 percent of GDP.
The next column presents data for the "consolidated public sector" for —73, and includes state-owned enterprises.
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As may be seen, in this measure of the deficit reached an astonishing 30 percent of GDP. The data in Table 3 show that between and there was a draconian fiscal adjustment that amounted to 8 percent of GDP.
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In it was slightly down to 8 percent of GDP. Throughout these years it was mostly financed by money creation by the central bank Martinelli and Vega With the exceptions of and , and thanks to a very high international price of oil, the early years of the Bolivarian Revolution were characterized by relatively balanced public-sector finances. However, the fiscal deficit surpassed the 3 percent of GDP mark in , and from that point onward increased markedly every year, reaching a remarkable 31 percent of GDP in The initial fiscal imbalance in —10 coincided with a sharp decline in oil prices in the global marketplace.
However, when oil prices recovered in , Venezuela made no attempt to adjust public finances. The decision was made to finance the deficit with money created by the central bank. In the deficit reached almost 32 percent of GDP, even higher than the consolidated fiscal deficits for Chile in the last year of the Allende administration.
Money Supply Growth. The data in these tables show a clear connection between the eruption of very large fiscal deficits and a jump in the rate of growth of the money supply. This, of course, reflects the fact that in every one of these cases the central bank financed the expansion of public expenditures through the purchase of government debt.
This was a deliberate component of these populist economic programs. It is precisely this close relationship between fiscal deficits and money creation that makes these episodes particularly germane to the debate on the merits and prospects of MMT. The data in these tables show that inflation was, eventually, extremely high in the four episodes. In Chile it surpassed percent in ; in Peru, it reached hyperinflation levels — it exceeded 7, percent in — and in Venezuela it surpassed , percent in The IMF expects inflation in Venezuela to reach the 1,, percent annual mark in As noted earlier, very high inflation feeds back into the fiscal deficit through the Tanzi-Olivera effect.
When inflation is very high, indexation tends to become generalized, and wages are adjusted at increasingly shorter intervals. This means that the government wage bill — which in all of these countries was very substantial — increased rapidly, while taxes were assessed and paid based on lagged and much lower prices. In all of these cases a collapse in the demand for domestic money or an increase in velocity contributed significantly to the explosion of inflation.
In Chile, for example, velocity in , at the end of the Allende government, was 24 "times" per year, which was two times higher than the historical pre-Allende average of 12 times. One of the most serious weaknesses of MMT is that it ignores the role played by the demand for money in macroeconomic outcomes. Economists have known for a long time that, as Patinkin masterfully emphasized, what matters is the excess supply demand in different markets.
In his MMT Primer , Wray : declares that he is surprised by the notion that during a hyperinflation economic agents reduce their holdings of domestic money to a minimum. The absence of a prominent role for the demand for money and changes in velocity in the theoretical construct of MMT is, indeed, surprising. In Chapter 13 of the General Theory , Keynes explains that people hold money for three motives: transactions-motive, precautionary-motive, and speculative-motives Keynes He further argues that the demand for money or liquidity preference is a function of the rate of interest.
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Economists have known, since at least Irving Fisher, that higher inflation results in higher r. Thus, a rapid increase in inflation will generate a greater excess supply for money, which will be mirrored by an excess demand for goods and bonds here I am following Patinkin's analysis ; the excess demand for goods, in turn, will put pressure on prices.
MMTers believe that because taxes have to be paid in domestic currency the demand for local money cannot decline precipitously. The experiences of the three countries discussed here show that this is not the case. Indeed, and as a large number of economists have pointed out throughout history, when the value of the local currency erodes quickly, holdings of it are reduced to a minimum and velocity increases rapidly.
External Balance. The data in these tables show that current account deficits were not very large. In fact, in Venezuela there are surpluses until This absence of major external imbalances was due to a combination of factors, including the high price of exports in Venezuela during most of the episodes, and the difficulty, in the three cases, of finding international sources of financing.
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One of the realities of most populist regimes is that capital flows reverse soon after investors realize that the policy stance is inconsistent. Depreciation is passed through to prices, making the inflationary problem more acute. This external constraint, which is particularly important for countries with nonconvertible currencies — the type of country that Wray : calls "less special" — is either ignored or minimized by MMT supporters.
Wray : , for example, writes that a country with its own nonconvertible currency "cannot be forced into involuntary default on its obligations denominated in its own currency. It might be able to buy things for sale in foreign currency by offering up its own currency in exchange — but that is not certain. The data presented above show that the duration of the three episodes is different. Chile's Unidad Popular government lasted only three years. The Peruvian experiment lasted five years; and in Venezuela it is still going on after two decades. There are political and economic reasons for these disparities.
The most important economic factors are the external environment and export prices. The Allende government was affected by a sharp decline in the price of copper. During the Peruvian experiment, the international price of fishmeal, Peru's main export, fell from USD 1, per metric ton in the third quarter of , to USD per metric ton in the first quarter in , a decline of 40 percent.
Chile and Peru contrast markedly with the case of Venezuela. From a political point of view there are two main reasons behind the longer duration of more recent episodes. First, since the s, new constitutions approved in a number of Latin American countries — Colombia, Venezuela, Ecuador, Bolivia, and Nicaragua — have made it is easier for the head of state to be reelected for multiple periods in office.
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