Growth challenges for Latin America: Reforms, what has happened, why, and how to reform the reforms

Ricardo Ffrench Davis
WP 51 Commission on Growth and Development
2011
December

Abstract

 

Latin America faces the twin challenges of achieving economic growth and reducing extreme inequality. Notwithstanding the heterogeneity among Latin American countries (LACs), most of them exhibit both (i) low average GDP growth and (ii) increased inequality during the 1980s. This long period includes the “lost decade,” when outcomes in both variables were evidently negative. These negative trends have persisted since the early 1990s, in the period of intense reforms under the Washington Consensus. The development gap (difference in GDP per capita or per worker between rich countries and LACs) and the equity gap (difference between GINI coefficients of each group) have broadened in this period.
We seek to identify which are the main failures and main missing ingredients required to produce equitable growth.
We work with average figures for the standard 19 LACs, as well as research into some country cases such as Argentina, Brazil, Chile, and Mexico. We examine in general the performance since 1990, but we conduct a brief comparative analysis of the structural reforms in the paradigmatic case of Chile in the 1970s and those of other LACs in the 1990s, stressing strategic similarities in trade, financial, and macroeconomic reforms. The similarities in reform approaches explain a significant share of similar economic outcomes: unequal, unstable, and low average GDP growth. In fact, GDP growth averaged 2.9 percent in Chile in the 16‐year period 1974–89 (the period of the Pinochet dictatorship and neo‐liberal reforms) and 3.1 percent in Latin America in the 19‐ year period 1990–2008.
We focus on the behavior of gross capital formation (GKF) and total factor productivity (TFP). GKF has exhibited notably low averages compared to East Asian economies; interestingly, reforms were able to increase significantly “financial savings” but failed to increase “national” savings that finance domestic capital formation, a variable that is a crucial determinant of potential GDP growth.
We evaluate (i) the macroeconomic environment in which agents make their decisions (usually in LACs, under an economic activity operating significantly below potential GDP, with outlier macro‐prices, and fluctuating aggregate demand); (ii) features of financial reforms (usually intensive in short‐term segments and weak financing of risk and long‐term financing), and their implications for capital formation and the distribution of opportunities in the domestic economy; (iii) features of trade reforms (intensive in resource‐based exports but low total output of tradables); and (iv) the distribution of productivities (whose average determines the evolution of average TFP), which is closely linked to the narrow space granted for the development of small and medium enterprises (SMEs).