Argentina and the IMF
Brazil and the IMF
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Managing Director, International Monetary Fund
at the 1997 National Banks Convention
Buenos Aires, Argentina, May 21, 1997
First, let me say what a great pleasure it is to be here again. This is the third time that you have done me the honor of inviting me to the annual meeting of the Association of Argentine Banks, and I have now had the great privilege of visiting your country more times than I can count in the course of my career at the International Monetary Fund. I distinctly remember the first time I spoke at an ADEBA convention. It was in 1985, a time when there were more bankers here, higher inflation, and less growth. Please don’t misunderstand me: I am not saying there is any correlation among the three. The important thing is that every time I have come to Argentina, I have seen your country fighting to improve, taking the bull by the horns—which, considering your stockraising tradition, is easier to do here than in most countries.
In addition to the great pleasure of being among you, it is always a distinct challenge to discuss with you your country’s economic progress, and the work that remains to be done. Let us tackle this subject again today.
It seems to me that a good place to start is with a glance back at all that has been accomplished in recent years, in Argentina and in Latin America. Since the late 1980s, most countries in the region have undertaken programs of macroeconomic stabilization and structural reform. And, having been involved in their preparation, we feel as though we have shared intimately in your efforts, hardships, and aspirations. Since the problems in the countries of the region have been similar, the programs have also had points in common, especially their emphasis on paring back state intervention in the economy to allow the market to allocate a majority of the resources and giving freer rein to the private sector to fulfill its role as the main engine of growth.
The process has not been easy. There have been doubts and controversies, but a dramatic turnaround in economic performance throughout the region has followed this period of reform, a turnaround that will no doubt be the subject of much study in the coming years. Average growth in Latin America and the Caribbean rose from less than 1 1/2 percent in 1988-89 to 5 percent in 1994, the highest rate since 1980, and although this growth was not immune to the "Tequila effect," it is now once again around 5 percent for the region as a whole. Meanwhile, average annual inflation in the region has fallen from a breathtaking1,100 percent at the end of 1989 to 19 percent at the end of last year, which is still too high, I might add, although not in Argentina. Gross international reserves have increased fivefold over the same period for Latin American countries as a group, and private capital inflows have increased from close to zero in 1989 to over US$70 billion last year. I keep referring to the countries of the region because I think you must be getting tired here in Argentina of hearing your successes lauded. Nevertheless, there are two figures for Argentina that I must mention: according to the Ministry of the Economy—and I have no reason to doubt it—growth may reach 6 percent this year and inflation remains close to zero. My friends, this may not be paradise, but the situation is far better than we would have dared imagine not so very long ago.
But enough praise. Despite these achievements, few observers inside or outside the region would be fully satisfied with the region’s overall economic or social progress over the last several decades. Indeed, most countries have been unable to narrow the income gap with advanced economies significantly or achieve a decisive reduction in poverty. Moreover, many in Latin America believe that poverty and income inequality have actually increased during the 1990s—some say, because of market-oriented reforms, although I do not share their opinion.
If these perceptions are not accurate, what has been the impact of macroeconomic stabilization and structural reform in Latin America? And in light of this experience, what kind of policies are ultimately required to achieve the sustained growth and social progress that all of us desire so much for the region? As a close observer and friend of your countries, I would like to share my ideas on these issues and explain why I believe, as we contemplate this glass that is still half full and half empty, that this is the moment for Latin America not only to complete the reforms currently underway, but to embark upon a "second generation" of reform with the potential to achieve growth that is more deeply rooted, and therefore more sustainable and equitable.
But first let us look at the road already traveled. Hard as it may be for me to admit that your success has been limited, let me say at the outset that I do understand why many in the region are dissatisfied with progress so far. If we consider the social aspects: in 1965, average real per capita income in Latin America and the Caribbean was almost twice as high in terms of purchasing power as it was in the Asian countries that we now refer to as "newly industrialized economies." Today, however, the situation is just the reverse: real per capita income in these Asian tigers is now about two and a half times higher than in Latin America—two and a half times higher.1 Studies also show—and the one follows from the other—that education levels are lagging as well. In the 1960s, the average level of education in Latin America was in line with or slightly better than that in other countries at a comparable stage of development. Today, the average level of education in the region—that is, about 5 years, although the figure for Argentina is somewhat better—is 2 years less than the average in countries at a similar stage of development elsewhere in the world and 4 years less than in comparable East Asian countries.2 Meanwhile, the inequality of income remains pronounced, and large numbers of people in the region continue to live in poverty. Of course, there are some exceptions—poverty is less prevalent in Argentina and Uruguay, and Chile is succeedingin progressively reducing poverty.3 Levels of education, too, are higher in Argentina than the regional average. But the overall picture of growth and social progress in Latin America over the last 30 years is clearly less than satisfactory.
It would be a great mistake to lay the blame for these shortcomings on the reform programs of recent years. In fact, the deterioration in income distribution and rise in poverty occurred during the period of high inflation and low growth that followed the debt crisis in the 1980s. This is hardly surprising, since it is the poor and the unskilled who are most likely to lose their livelihoods during economic downturns, and who are least able to protect the real value of their income during periods of high inflation.
The record during recent periods of stabilization and reform has been markedly better. Countries that have embarked on reform have seen average GDP growth rise to 3 percent per year in the three years following the start of reform and to nearly 4 percent thereafter, compared to less than 1 percent in the three years preceding reform, and investment as a share of GDP and productivity have followed similar patterns.4 There is also evidence that poverty has declined. In Brazil, for example, the introduction of the Real Plan was associated with a sharp increase in the real income of the poor and a decline in the poverty rate.5 In Argentina, the percentage of the population below the poverty line fell by almost 50 percent between 1989 and 1996.6 Moreover, data from the UN Commission on Latin America and the Caribbean (ECLAC) and other sources confirm that the proportion of households living in poverty is no longer increasing as it was in the 1980s and, in fact, has begun to decline.7
All of this is very encouraging, and yet we must admit that progress has been fragile and slow in coming. It is also discouraging that poverty is still widespread and, according to some estimates, still affects well over a third of all households in the region, or upwards of 200 million people. This shows us that there is still a tremendous amount of work to do to achieve a decisive improvement in economic opportunities and social conditions throughout Latin America. We know full well that the only solution is to achieve high, sustainable, and more equitably distributed rates of growth.
What, then, is the best course of action? Fortunately, no one today would openly venture to recommend returning to the policies of the past. Five years ago, alternative strategies were still being debated; today they no longer are. Latin America has already experimented with trade protection, with state intervention, and it has paid a tragically high price for the experience. The course of action available to us—and indisputably the wisest course of action—is, first, to continue with the stabilization policies and strengthen the reforms that have contributed most to stronger growth of the 1990s; and second, to identify what more needs to be done to ensure that the benefits of strong growth are more widely and equitably shared.
You are, of course, thoroughly familiar with the measures that are responsible for the progress that we now see in Argentina. Much of the credit belongs to the vision and leadership of President Carlos Menem, the talent of the economic and monetary policymakersof the 1990s, and the energy and courage shown by [Minister of Economy] Domingo Cavallo. I would just emphasize the crucial role played by the Convertibility Plan, and the strict fiscal discipline it required, which slayed hyperinflation while promoting productive investment. But the Plan’s greatest contribution, I believe, was to provide a credible guarantee that the new policies responsible for restoring stability would remain firmly in place in the future. In this respect, the Convertibility Plan can also claim to have been a "Credibility Plan" par excellence.
Argentina has been successful largely because sound macroeconomic policies have remained firmly in place for a number of years, and considerable progress has been made on what might be described as the "first generation" of structural reform. Indeed, the fact that Argentina was able to withstand the Mexican crisis—and restore growth and market confidence so quickly thereafter—is a great tribute to these policies. But clearly, the situation here, where unemployment is high and not all are sharing fully in the benefits of stronger growth, calls for further action. And the same may be said of other countries in the region. So let me turn, now, to what more can be done in Argentina and the rest of Latin America to achieve higher growth, greater equality of economic opportunity, and more rapid social progress. This is what I would call the "second generation" of reform.
Before beginning, however, I must make clear that there is no artificial or rhetorical distinction between these two generations of reforms. Many countries, including Argentina, have already begun to undertake the measures most logically associated with a "second generation" of reforms even though the programs associated with the first generation have not been fully completed. If a distinction had to be made, I would say that the second generation is geared more toward achieving high-quality growth of a kind that will be genuinely sustainable over the long term in our ever globalizing world economy, while the first generation of reform focused on restoring basic equilibria and kick-starting the engines of growth.
The crux of the "second generation" of reform concerns completing the transformation of the State’s role in the economy. Obviously, reducing state intervention in the economy, as Argentina has done, and increasing the transparency of government operations are absolutely essential in limiting the opportunities for corruption and in enhancing public accountability. Beyond these reforms, I see at least three other key tasks remaining for the State to perform:
The first task is to establish a simple, transparent regulatory system that is equitably enforced—a system that ensures equal access to markets and thus promotes equality of economic opportunity; a system that encourages competition, eliminates unnecessary business costs and, thus, promotes efficiency and growth.
The second task is to uphold the professionalism and independence of the judicial system—ensuring that there is prompt and equal justice for all, and giving confidence to savers and investors that contracts will be enforced, rights will be protected, and property will be secure. If I am somewhat emphatic on this subject, it is because in the past two years, intwo vastly different countries located in far-flung parts of the world, two presidents, speaking of the challenges of development, very surprisingly said almost the same thing to me, using almost the same words. They said that when considering the task of development and all that it entails, the most important Ministry—my apologies, Roque—is not the Ministry of the Economy, or the Ministry of Planning when such a ministry exists, but the Ministry of Justice. When an economy is in the throes of privatization, legal security takes on an importance that may not have been evident to us previously. I suppose that your applause is for the two presidents—I’ll pass it on to them.
The third task is to improve the quality of public expenditure—this means reducing unproductive expenditure to make more room for investment in human capital and basic infrastructure. It also means ensuring that essential public services are provided at reasonable cost, that they reach the intended beneficiaries, and that access to these services is equitable. Let me elaborate a bit on this last point.
I would like to emphasize that in seeking higher quality public expenditure, your countries must make an exceptional effort to improve the level and quality of expenditure on education, an effort that will lead to improved equality of educational opportunity. This would have a substantial positive impact on Latin America’s long-term growth potential and prospects for more equitable income distribution, but it cannot be achieved with inflation and higher taxes. As you yourselves would tell me, it must be done by continuing to eliminate unproductive expenditure. In this connection, let me point out that Latin America has the distinction of currently spending less as a share of GDP on the military than any other region in the world. I sincerely hope that the governments of Latin America will resist the mounting temptation to increase military expenditure—which would be lunacy after all the effort that has been expended to reduce tensions and promote regional cooperation—and that they will recognize that these resources would be much better spent if they were used to enhance the productive capacity of their economies and the skills of their workers.
As you may have gathered, the "second generation" of reform requires "good governance" in all its dimensions, including, in particular, effective and reliable public institutions. I would also observe that "good governance" in the public domain can help promote a greater sense of accountability in private affairs—including sound and responsible credit policies, and a culture of tax compliance, which, as we know, needs to be strengthened or, some would say, properly established. Conversely, as many of your countries know all too well from experience, neglecting these essential aspects of the role of the State only invites a creeping de-legitimization of public institutions, which sabotages economic efficiency, erodes confidence, and undermines growth and equity.
But these are very general considerations, applying to a group of countries. What implications does this "second generation" of reform hold for Argentina specifically? In other words, what further steps need to be taken in order to ensure that this country is truly prepared to grasp the opportunities afforded by globalization? I see three areas in which considerably more effort is required.
First, the financial sector. I put it first because you are, after all, your country’s bankers. Argentina has benefited substantially from having made a relatively early start on financial sector reform and having followed a basically market-oriented strategy. A near-total restructuring of the state banking sector, along with stronger prudential regulation and more effective supervision, has reduced the economy’s vulnerability to adverse external developments—without overburdening the government budget. As a result, even if problems may still arise in individual institutions, the financial system has been strengthened significantly. At the same time, increased competition, combined with your own efforts, has helped modernize financial services, reduce their cost, and increase their availability. I would add that the establishment of a new on-line clearing system will soon give Argentina one of the most modern clearing systems in the world, an innovation that will surely promote financial intermediation and, by reducing settlement risk, could contribute in some measure to bringing down interest rates.
What more can be done to strengthen Argentina’s banking system? In my view, the "second generation" of reform should focus on improving transparency. Increasing the flow of timely, comprehensive, and accurate information between banks and supervisory authorities, between borrowers and lenders, and between financial institutions and their shareholders and depositors would encourage better internal governance in banks, permit more effective supervision, and promote better credit analysis. All of this would help reduce lending spreads and contribute to the security and soundness of the banking system. I think the time has also come to level the playing field in the banking sector—to make all institutions, regardless of their ownership, subject to the same prudential and regulatory requirements. At the same time, I would not be surprised to see further consolidation in the sector as a number of smaller banks discover that they could reduce costs and improve service by merging with other institutions.
Second, fiscal reform. Substantial progress has also been made in this area: the public sector is now leaner, and public expenditure is under better control at the central government level. But there is still room to broaden the tax base and improve tax administration and taxpayer compliance. Over time, progress in this direction will create room to reduce the rates of certain taxes, such as the high payroll taxes that discourage job creation. Taken together, these reforms would also enhance the equity of the tax system.
Likewise, there is ample scope to improve the quality of public expenditure—to ensure that essential government services are provided at reasonable cost and reach the intended beneficiaries. Moreover, given that local governments also have important fiscal powers, attention needs to be given to clarifying the respective fiscal responsibilities of the national and local authorities and ensuring that each level of government has the institutional capacity needed to fulfill its responsibilities.
Third, labor market reform. This is an area in which there has been relatively less progress throughout the region, which, to my mind, has had a dampening effect on social progress. Many people associate structural reform with higher unemployment and fear that labor market reform will only make the problem worse. I believe they are mistaken. Certainly, as industry undergoes modernization and the public sector reduces overemployment, there is ashort-term cost in terms of jobs lost. But postponing the adjustment required by these changes exacts a far higher human cost in terms of reduced growth and lost employment opportunities. The key to preserving and expanding employment, particularly among the less skilled, is a flexible labor market that encourages mobility and keeps labor costs in line with labor productivity. This is not simply textbook economics, but the lesson of experience. Many economies of the world, particularly a number of advanced economies, including my own country, have found that inflexible labor markets exacerbate unemployment, particularly among the unskilled. At the same time, the developing countries that have sustained the highest growth are those that have embraced labor market reform and international competition.
I hope that the current debate in Argentina on labor market issues will soon culminate in a tripartite agreement that lays the basis for fundamental reform. I have heard about the progress that is being made in this area. Much more needs to be done: to decentralize and reform the collective bargaining process, to increase the efficiency and contain the cost of the labor-run health care system, and to reduce the high cost of severance payments. Ambitious reform in these areas would help contain nonwage labor costs and increase the incentives for firms to hire new employees; this, in turn, would enable the economy to absorb larger numbers of workers, including those with fewer skills.
The successful completion of efforts to strengthen the financial system and implement fiscal and labor market reforms—while at the same time ensuring strict maintenance of macroeconomic equilibria and strengthening the latter if the external environment becomes more difficult—could, as I have explained, constitute the "second generation" of reform for Argentina. These reforms would enable your country to confront the challenges that lie ahead in the early years of the next century, and equip it to face any dangers and seize opportunities to raise the living standards of all, especially the most disadvantaged members of society.
The IMF’s role is to assist countries like Argentina as they pursue these efforts to prepare for the future, and, as always, we stand ready to provide such assistance. I am pleased with our current joint efforts to draw up an extended facility. Speaking of this, I can say to you with assurance that the progress already achieved will make IMF assistance less and less necessary. But only when my visits to Argentina are purely as a tourist and friend will the IMF be able to speak of success in Argentina!
I could conclude these remarks on this note of optimism; however, I have one lingering concern. My fear is that these bright prospects could turn to failure unless more concerted efforts are made, at this new stage of the reform process, to reduce the inequality in income distribution, and more importantly, to create more opportunities for the most disadvantaged members of society, particularly with regard to education and occupational training for young people. These problems of distribution are the sovereign responsibility of the Argentine people, and should be at the center of democratic debate in this country. However, we should be mindful of the fact that we live in an era in which rapid technological change is widening the gaps—in income and opportunity—between the very rich and the verypoor, between those who have the most knowledge and those to whom the State has failed to provide the education they need if they are to take full advantage of the world’s opportunities. Argentina’s future will depend on the extent to which the Argentine people can work together to address these issues with foresight, determination, and solidarity. Unless these problems are dealt with successfully, all these years of effort will ultimately fail to achieve their original purpose, namely, higher incomes and justice for all. Instead, the newfound prosperity will be imperiled by mounting frustration and disappointment and become an easy target for the populist demagoguery with which we are all too familiar. If, as I believe, Argentina can successfully tackle these challenges, with steadfast determination and with a commitment to nurturing the hopes of those who have yet to partake of the opportunities, then Argentina will be able to play—within the world community, and in all areas of human endeavor and human civilization—the role that on so many occasions the leading representatives of your outstanding culture have led the world to expect.
2 Juan Luis Londoño and Miguel Székely, "Distributional Surprises After a Decade of Reforms: Latin America in the Nineties," in Latin America After a Decade of Reforms: What Comes Next? Proceedings of the Thirty-Eighth Annual Meeting of the Board of Governors of the IDB (Washington: Inter-American Development Bank, March 1997), p. 16.
4 Eduardo Lora and Felipe Barrera, "A Decade of Structural Reform in Latin America: Growth, Productivity, and Investment are Not What They Used to Be," in Latin America After a Decade of Reforms: What Comes Next? Proceedings of the Thirty-Eighth Annual Meeting of the Board of Governors of the IDB (Washington: Inter-American Development Bank, March 1997), p. 4.
5 According to a nationwide household survey in Brazil, the income of the poorest 10 percent of the population approximately doubled in real terms from September 1993-September 1995, and the number of people living below the poverty line has declined by some 30 percent, or 13 million people, since the introduction of the Real Plan in mid-1994, in part as a result of the increase in the minimum wage (See Pesquisa Nacional Por Amostra de Domicílios (PNAD), Brazilian Institute of Geography and Statistics.)
7 ECLAC estimates that the percentage of households in the region living in poverty rose from 35 percent in 1980 to 41 percent in 1990, but declined to 39 percent during 1990-1994. (See ECLAC, The Equity Gap: Latin America, the Caribbean, and the Social Summit (São Paulo, Brazil: UN Economic Commission for Latin America and the Caribbean, April 1997), p. 14.)
IMF EXTERNAL RELATIONS DEPARTMENT