Running in place

Andres Velasco

SANTIAGO, Chile - A billionaire with a Harvard degree runs for president of Chile, promising reforms to enhance productivity and competitiveness, and wins.

Once he takes office in 2010, the economy recovers quickly from the global financial crisis, creates jobs, and continues growing until recently.

The billionaire, never one to shy from publicity, claims the credit.

Chile is a case of successful pro-market reform, argues Sebastian Pinera, who stepped down from the presidency on March 11. He is wrong. The Chilean economy has expanded, and no one with his or her heart in the right place can fail to celebrate that; but this growth has little to do with the former president’s policies. Even worse, the expansion is proving to be unsustainable, and Chileans will soon feel the consequences of Pinera’s failure to carry out the pro-growth reforms he once promised.

Chile was hit hard by the 2008-9 financial crisis: foreign loans vanished and the price of copper, Chile’s main export, collapsed. But this time around, the Chilean economy was in shape to withstand massive external shocks.

The government had been running surpluses, public debt was almost nil, and banks were well regulated. As a result, the government of President Michelle Bachelet (who was in office from 2006 to 2010 and has just been sworn in for a second term) was able to launch a potent anti-crisis fiscal stimulus, financed with resources saved from the earlier copper boom.

The central bank, autonomous from political pressures and run by highly respected professionals, did its part by slashing interest rates.

In Europe, the recession has lasted six years and counting; in Chile, it lasted 10 months. Tough regulation and record-low interest rates left companies and households with no debt overhang and little need to deleverage.

By late 2009, the Chilean economy was growing again, and in the years since, growth has been helped by highly propitious external conditions. Sky-high commodity prices, rock-bottom dollar interest rates, and ample international liquidity are what Chile hopes for in the rest of the world; they are also precisely what Chile got since 2010. Unsurprisingly, growth was swift - until late last year, when the combination of the US Federal Reserve’s gradual exit from quantitative easing and lower commodity prices worldwide caused a swift deceleration in economic activity.

After recording annual GDP growth of more than 5 percent on average during the last four years, Chile’s economy is expected to grow by 3.7 percent or less in 2014. Pinera blamed the incoming Bachelet administration, and its plan to raise taxes, for the drop in the growth rate.

If so, Bachelet’s economists are very influential indeed, because a similar slowdown has occurred all over Latin America and in emerging countries worldwide.

The immediate cause of Chile’s slowdown is the decline in investment, particularly in mining; but the underlying problem is that the failure to diversify the economy sufficiently makes it far from clear what new kinds of investment, and which new exports, will take up the slack.

The export basket of economically diversified countries like Thailand, Malaysia, Mexico and Ireland is entirely different from what it was a generation ago. By contrast, Chile’s export basket has remained unchanged. In 1984, Chile exported copper and other minerals, paper and pulp, fruits and wine, fishmeal and a smattering of light manufactures. Thirty years later, Chile’s exports comprise the same items.

Investment in energy would probably take off - if only Chile’s institutions were modernized to make that possible. This is another area where Pinera’s legacy is wanting. Chile is unique among its neighbors in having no oil or gas. Chileans today pay the highest electricity rates in the region, because generating capacity has failed to keep pace with rising demand. A prolonged dry spell could cause the lights to go off in the next few years.

Ensuring both cheaper energy and a clean environment is a big challenge. Experts agree that it will require a national plan for locating generators across Chile’s mountainous territory, a revamped regime for the transmission of power, more intensive use of natural gas, and a concerted effort to promote renewables, particularly wind and solar.

Regrettably, Pinera took action in none of these areas.

Employment policy was yet another shortcoming of his administration. With the post-2009 recovery came a drop in measured joblessness, which allowed the government to pay scant attention to a labor market that leaves out far too many women and young Chileans.

There is broad consensus that Chile must change hiring and firing rules, allow unions to negotiate shifts and working hours, improve on- and off-the-job training, and make more information available to job-seekers.

But these are all politically sensitive areas, where the smallest legal change can elicit howls of opposition. Pinera took the safe route of attempting no changes at all.

Pinera’s government became embroiled in a fight with protesting students over who should pay for university education. That controversy prevented most other changes in education from going forward. Bachelet has vowed to end this paralysis and make educational reform her administration’s top priority. The goal is laudable, but achieving it will not be easy.

Every year, Chile’s Finance Ministry asks a group of independent experts how fast Chile can grow without triggering inflation or other imbalances. In 2008, before Chile felt the consequences of the financial crisis, the average answer provided by those experts was 4.83 percent.

In 2013, after three years of center-right government in Chile, the corresponding answer was .?.?. 4.85 percent.

Under Pinera’s government, pro-growth rhetoric was abundant. But rhetoric alone cannot boost an economy’s growth trajectory.

Copyright: Project Syndicate, 2014.

*The author, a former finance minister of Chile, is a visiting professor at Columbia University.

By Andres Velasco