Latin America: Letting Genghis Khan’s hordes in
In this column Alfredo Toro Hardy analyzes why the great majority of Latin American countries suddenly and dramatically deindustrialized in the 1990s.
Latin America moved into the twentieth century full steam ahead. Its raw materials provided important economic growth rates, and some of its countries were among the world’s richest. Between 1870 and 1913 Latin American GDP grew 3.5 percent while the world’s GDP grew 2.1 percent (Loser, 2012). Brazil generated 70 percent of the planet’s coffee exports, while in terms of meat, cereals and wool, Argentinean exports had very few competitors worldwide. Silver export booms in Mexico, Peru and Bolivia had their equivalent in cooper export booms in Chile and Peru. And so on (Halperin Donghi, 1977).
Import substituting industrialization
The Great Depression of the 1930s, though, showed the fragility of the economic world order to which Latin America had to incorporate itself as a reliable commodity supplier. The region’s primary sector fell into a dire situation, while the traditional dependence on foreign manufacturers translated into a shortage of much needed goods. Not surprisingly, industrialization began to be seen as the appropriate medicine to attain a firmer economic ground. A light industry began to take shape as a result, compensating for some of the import needs that the international crisis had left uncovered.
World War II would provide additional impetus to regional industrialization, which if relevant for Latin American standards, remained still modest for international ones. Specially so, given the limitations for importing capital goods. The aim was to provide substitution for manufactured products that were no longer arriving. Conversely, thought, exports of raw materials boomed. In Argentina, however, the industrial sector had attained by 1947 a bigger percentage of the country’s GDP than its primary sector. In context, average Latin America’s GDP during the period 1913-1950 grew 3.4%, while the world’s one did so at 1.8%. (Loser, 2012).
At the end of WWII, import-substituting industrialization was already a fact in Latin America. What was lacking was a conceptual framework in relation to it. This began to be defined in 1948 under the auspices of the Economic Commission for Latin America (ECLA). So, if the first steps in import substituting industrialization were pragmatic in nature, its second phase would have a strong theoretical foundation.
In Daniel Yergin and Joseph Stanislaw words:
“Rather than exporting commodities and importing finished goods, these countries would move as rapidly as possible towards what was called ‘import-substituting’ industrialization. This would be achieved by breaking the links to world trade through high tariffs and other forms of protectionisms (…) Currencies were overvalued, which cheapened equipment imports needed for industrialization; all other imports were tightly rationed trough permits and licenses” (Yergin and Stanislaw, 1988, p. 234).
Unlike East Asia, where an “outward-oriented” industrial process would materialize since the 1960’s, Latin America visualized industrialization as an “inward-oriented” one. Products that would otherwise have to be imported, were manufactured domestically. However, this import-substituting industrialization presented three important flaws.
Three flaws
Its first flaw was to conceive of the process as permanent in nature. So, instead of proceeding like all major developed economies have done - using interventionist economic policies to promote industrialization and protect national companies until they were prepared to compete internationally- domestic industries were indefinitely isolated. The “industries in their infancy” thesis, a term coined by Alexander Hamilton at the end of the eighteen century, assumed a permanent character in the Latin America of the twentieth century. In other words: “The infant-industry logic became the all-industry logic” (Yergin and Stanislaw, 1998, p. 234). This implied creating a barrier between highly competitive companies abroad and highly protected, and by extension frequently inefficient ones, inside.
The second flaw was not to have given enough consideration to the fact that the unequal distribution of income generated small national markets, insufficient to sustain the industrialization effort. With the exception of larger countries such as Brazil or Mexico, that posed an important problem for the majority of the region. Regional or sub regional economic integration was seen as the natural remedy. Thus, “inward-oriented” industrialization evolved from a national to a regional or a sub-regional level. Unfortunately, insofar as Latin American countries had engaged in building the same type of industries, the scenario turned out to be more competitive than complementary, making integration a difficult task. Despite the great obstacles faced, though, important advances were made in this regard.
The third flaw was that dependency on commodities continued to be fundamental, as they were the ones generating the currency that nurtured this whole process. Indeed, while manufactured goods were sold inside the protected area, commodities were sold abroad, thus becoming the natural source of currency. In this manner, the volatility of commodities’ prices not only continued to define the terms of trade with advanced economies, but generated an immense vulnerability for the whole import-substituting industrialization structure.
Golden age
Notwithstanding such important flaws, though, the model provided results. According to Kevin P. Gallager and Roberto Porzecanski: “During that period [1940-1970] Latin America was indeed able to build innovation and industrial capabilities. Indeed, that period was certainly the ‘golden age’ of economic growth in Latin America that is yet to be matched” (Gallager and Porzecanski, 2010, p. 140). Numbers speak by themselves: Between 1947 and 1973 the per capita income grew by 73% in real terms (Grandin, 2006, p. 198).
The success of the model, based on Keynesian doctrine, mirrored the unprecedented prosperity that its policies brought to the Western World between 1945 and 1975. Nonetheless, between 1950 and 1973 Latin America grew even faster than the world average: 5.4% versus 4.9%. Moreover, in 1981 Latin America’s share of the world GDP was 11 percent, while during the third quarter of the century its GDP per capita exceeded the world’s average by 10 percentual points (Loser, 2012). The collapse of the import-substituting industrialization model would be closely linked to the end of Keynesianism in Western economies, where a combination of inflation and stagnation, known as stagflation, would lift up Von Hayek’s neoliberal ideas.
The inherent vulnerabilities within the import-substituting industrialization model were ready to concatenate, once the right set of international circumstances materialized. And they did because of the debt crisis of the eighties. It all began during the 1970’s when an international banking system overflowed with petrodollars, derived from the sudden hike of oil prices, devoted itself to granting plentiful loans. This easy access to international credits, actively promoted by lenders themselves, was seen by Latin American governments as an excellent opportunity to invest in infrastructure and the modernization of state industries. As a consequence, the region got massively indebted under the assumption, prescribed by the conventional wisdom of the day, that the interest rates would remain low for the foreseeable future.
The implosion
But they did not. As Joseph Stiglitz pointed out: “In 1980, fighting its own problem of inflation, the United States initiated interest rate increases that climbed to over 20 percent. These rates spilled over to loans to Latin America, triggering the Latin American debt crisis of the early 1980s, when Mexico, Argentina, Brazil, Costa Rica, and a host of other countries defaulted on their debt” (Stiglitz, 2006, p. 36). The debt crisis, indeed, hit Latin America very hard and, between 1975 and 1982, the regional debt increased from US$45.2 billion to US$333 billion. (Yergin and Stanislaw, 1998, p. 132). Needless to say, this increase had much to do with the snow ball effect derived from interest rates over 20%.
But while interest rates were speeding up, the price of primary products was speeding down. The reasons came very much from the same source. Faced with the hike in oil prices in 1979 the new governments of Ronald Reagan and Margaret Thatcher decided to fight inflation not only through monetary tools (such as interest rate increases), but also by reducing the fiscal expenditure. This resulted in a recession that increased unemployment and precipitated a fall in demand and the prices of commodities. Such unexpected downturns in the prices of primary products gravely affected the capacity of Latin American governments to meet their debts. While the sources of currency income were dropping significantly, the external debt began to grow exponentially as a result of the interest rates hike.
This period of extreme weakness was combined with the appearance of a new economic paradigm brought up, again, by the duo Reagan-Thatcher: The neoliberal model. Just when Latin American governments needed to renegotiate their debts and acquire new loans to pay for the old ones, they were confronted with this ideological the 10 points recipe of the Washington Consensus and the directives of its executive arm, the International Monetary Fund (IMF). Acceptance of their terms became unavoidable, given that as “part of the rescue packages, the International Monetary Fund became...a sort of international bankruptcy receiver” (Yergin and Stanislaw, 1998, p. 132). As such, indebted countries willing to renegotiate their debts had to comply with IMF’s harsh conditions.
Opening the gates
The above events lead to the sudden and widespread opening of Latin American markets, forcing an up to then highly protected industrial sector to compete with the world’s most efficient companies. The impact of such measure upon jobs was clearly described by Joseph Stiglitz:
“It is easy to destroy jobs, and this is often the immediate impact of trade liberalization, as inefficient industries close down under pressure from international competition. IMF ideology holds that new, more productive jobs will be created as the old inefficient jobs that have been created behind protectionist walls are eliminated. But that is simply not the case” (Stiglitz, 2002, p. 59).
On the contrary, as former Secretary General of the United Nations Commission for Trade and Development (UNCTAD), Rubens Ricupero, pointed out, this resulted in an accelerated and premature disappearance of an important part of Latin America’s industrial base (Toro Hardy, 2004, Foreword).
Transforming the infant-industry logic into an all-industry logic that indefinitely isolated local industries had been a huge mistake. But the corrective medicine should have never been the sudden opening of trade barriers. As Joseph Stiglitz remarks: “The most successful developing countries, those in East Asia, opened themselves to the outside world but did so slowly and in a sequenced way. These countries...dropped protective barriers carefully and systematically” (Stiglitz, 2002, p. 60). No one doubts that Latin America had an important catch-up process ahead. Nonetheless, the reform process should have been guided by common sense and not by ideology. What happened, though, was the economic equivalent of the brutal overthrowal of the protective walls of a citadel to let Genghis Khan’s hordes in. Companies that had thrived under the old system began to be slaughtered in-mass.
On the other hand, and also under the ideological commands of the Washington Consensus, an irrational privatization process of state-owned companies materialized. As a result, the very same State companies and public utilities, whose expansion had motivated the indebtedness of Latin American governments, started to be sold at laughable prices. Both transnational corporations and politically well-connected local entrepreneurs became the beneficiaries of this process. Hence, public wealth was transferred overseas or went into the coffers of newly created cast of local billionaires.
The great majority of Latin American countries followed the example of Brazil, who basically went back to the times of commodities’ producing and exporting. Mexico, and Costa Rica in a smaller dimension, reinvented themselves as assemblers of American goods. Hence, the region was divided into two kinds of economies: Brazilian and Mexican types. Both highly unsatisfactory systems. How different the outcome could have been, though, if instead of letting Genghis Khan’s hordes in, the river had been crossed by “feeling the stones at its bottom” as Deng Xiaoping was doing in China at the same time.
Alfredo Toro Hardy, PhD, is a retired Venezuelan career diplomat, scholar and author. Former Ambassador to the U.S., U.K., Spain, Brazil, Ireland, Chile and Singapore. Author or co-author of thirty-six books on international affairs. Former Fulbright Scholar and Visiting Professor at Princeton and Brasilia universities. He is an Honorary Fellow of the Geneva School of Diplomacy and International Relations and a member of the Review Panel of the Rockefeller Foundation Bellagio Center.
Photo by Pixabay
References
Gallager, Kevin P. and Porzecanski, Roberto (2010). The Dragon in the Room. Stanford: Stanford University Press.
Grandin, Greg (2006). Empire’s Workshop. New York: Metropolitan Books.
Halperin Donghi, Tulio (1997). Historia Contemporánea de América Latina. Buenos Aires: Alianza Editorial.
Loser, Claudio (2012). “The Impact of Globalization on Latin America Task Force”, University of Miami Center for Hemispheric Affairs, June 11.
Stiglitz, Joseph (2006). Making Globalization Work. London: Allen Lane, 2006.
Stiglitz, Joseph (2002). Globalization and its Discontents. London: W.W. Norton & Company.
Toro Hardy, Alfredo (2004). ¿Tiene Futuro América Latina? Bogotá: Villegas Editores.
Yergin, Daniel and Stanislaw, Joseph (1998). The Commanding Heights. New York: Simon & Schuster.
