Since the debt crisis of the early 1980s, and with the support of the international financial institutions, economic policy in Latin America has focused on bringing price stability and a return to international capital by giving greater play to market forces. However, "the record in terms of growth, employment and poverty reduction has been disappointing", notes Rubens Ricupero, Secretary-General of UNCTAD, in his Overview to the Trade and Development Report 2003 (1), released today. A good part of the problem, he says, lies with the failure of the new policy orientation "to produce an appropriate macroeconomic environment for investors and firms to encourage and support the creation, expansion and improvement of productive capacity while at the same time unleashing the forces of global competition".
The Report shows that after two decades of reform, many countries are facing the same balance-of-payment and debt problems that had contributed to the earlier crisis. The Report traces the policy failure through a number of avenues:
- Exchange rate-based stabilization policies relying on capital inflows have led to appreciating and unstable currencies and to high interest rates, with damaging consequences for capital formation; monetary conditions have been too tight and unstable in Latin America throughout the 1990s;
- Rapid trade and financial liberalization has caused a swift deterioration in external balances; and as imports have soared and service payments risen, growing indebtedness has increased vulnerability to external shocks;
- FDI inflows, even when bringing needed technology and skills, have also contributed to financial instability; and
- High interest rates have damaged fiscal balances, even as governments have reduced expenditures, raising the spectre of deflationary overkill.
The negative impact on the investment climate in Latin America has been tangible, according to the Report. A prolonged "investment pause" since the debt crisis has left most countries with an investment ratio of around 20% of GDP, well below the level necessary to attain catch-up growth. And despite falling shares of public investment in GDP, private investment has not been crowded in. Even successful efforts to attract FDI have not acted as a catalyst for capital accumulation; FDI as a proportion of GDP was up 1.7 percentage points in the 1990s, but overall investment was down by 0.6 percentage points.
And unlike East Asia, which continued to industrialize apace following the debt crisis, rapid liberalization in Latin America, along with increased dependence on external capital flows, has come at a high price in terms of structural change and technological upgrading. According to the Report, many countries have suffered a "premature deindustrialization", marked by labour shedding and sluggish growth. Efforts to build technologically sophisticated sectors have been seriously damaged, while at the same time weak productivity growth in labour-intensive industries has led to intense competition with lower-wage economies. Moreover, the Report finds that rapid opening up to international competition and FDI has shifted production away from sectors with the greatest potential for productivity growth and technical progress, such as the machinery and equipment industries, towards those producing or processing natural resources. With the competitiveness of manufacturers seriously damaged by currency appreciations in many countries, successful exporting has been confined to low-skilled maquiladora-type assembly, producing almost exclusively for the US market, and capital-intensive resource-based industries.
"While the new policy direction has successfully uprooted the previous regime", the Report concludes, "it has failed to establish a flourishing alternative". And with financial markets scrutinizing policy choices and changes in the composition of the budget and external accounts neutralizing traditional policy instruments, the Report has doubts about the speed and sustainability of any turnaround. Among its recommendations to provide an escape from the vicious circle of low and unstable growth, high interest rates and rising indebtedness, the Report emphasizes:
- Direct action to reduce the burden of debt service, including a renegotiation of interest rate levels closer to the real returns earned on investment and a reduction of domestic and external debt to levels that do not inhibit growth;
- Less dependence on foreign capital and greater efforts to build stronger investment-export linkages to ease the balance-of-payments constraint; ways must also be found to improve the contribution of FDI to these goals; and
- More strategic policies to support higher investment and upgrading, and active policies in the areas of industrial support, technological progress and public infrastructure.