Consenso De Washington

13securities, driving domestic interest rates higher and making domestic securities even more attractive for foreign investors by increasing interest differentials. Thus, foreign investors attracted by rising interest rate differentials and rising domestic profitability have an even greater reason to expect future appreciation of the currency that will further increase their expected returns on investment in the country. Thus, most all of the heterodox and orthodox stabilization plans experimented with in Latin America in the 1980s and 1990s were grounded in an exchange rate anchor. The real question then is not whether the anchor was necessary, but why the plans introduced in the 1990s were successful when earlier plans had failed. It was characteristic of stabilization plans that the immediate fall in the inflation rate produced an increase in real incomes and an increase in consumption expenditure as consumers sought to benefit from price stability before the expected return of inflation. This, in turn, produced a rise in imports relative to exports and the eventual rise in the external deficit eventually led to a drain on reserves, a collapse of the exchange rate, and a return of inflation. However, in both the case of Brazil and Argentina, the 1990s stabilizations occurred after the economies had taken the Brady Plan measures to attract foreign capital inflows. Foreign capital inflows, in particular direct investment flows attracted by the opportunities of privatized state-owned industry and deregulation, were more than sufficient to cover the rising trade deficits, leading to nominal and real appreciation of exchange rates. The size of external flows thus made it possible to pursue stabilization even in the presence of rising external and internal deficits that previously had defeated the attempts to halt inflation. (see Kregel 1999, 2003). The return to price stability and the tendency to overvaluation was thus the result of the strong capital inflows that were initiated by the initial success of the Brady process, reinforced by the announcement of Washington Consensus-style reforms, including privatization and trade liberalization. Given the series of failed stabilization attempts and new currencies introduced in the 1980s, it seems clear that the success in eliminating inflation was the result of a reflexive,13a government’s policy by the faith it puts in a currency, devaluation can only send the market the signal that the government thinks its policies are not adequate, leading to an overshooting that may get out of control. 13 George Soros (1987) has identified this process as supporting the overvaluation of the dollar in the first half of the 1980s, and the experience of countries such as Brazil and Argentina seem very similar to the process he describes. Just as the U.S. overvaluation was justified by the increased returns available in the United States due to

14self-reinforcing, cumulative process driven by direct investment and speculative capital inflows. It is well known that such processes are not sustainable. As noted above, the new policy was meant to replace the monopoly inefficiencies and rent-seeking of external protection import substitution with market forces to transform microeconomic incentives to create an internationally competitive production structure. However, the rapid reduction in inflation that occurs with successful stabilization policies initially produces an increase in incomes and wealth; in the presence of more open trade this leads to increased imports and a rising current account deficit which can be easily financed by foreign investors who interpret the increased growth as the result of the impact of the reforms in raising domestic productivity and profitability. However, the technological innovation and restructuring associated with the creative aspect of destruction remains stymied by the macroeconomic environment of high interest rates, overvalued exchange rates, and volatile capital flows. Thus, the failure of the Consensus reform policies lies in the fact that they provided support for the “destruction” of inefficient domestic industry, but failed to provide support for the “creative” phase of “creative destruction” of a real transformation of the productive structure through higher investment and technological innovation. The adjustment was to be one patterned after the Schumpeterian process of “creative destruction.” Or, as the 2003 UNCTAD Trade and Development Report described it, the sound macroeconomic fundamentals required for fighting inflation were not the same as the strong microeconomic fundamentals necessary to transform domestic industry to meet foreign competition and increase exports. The problem with the Washington Consensus was that its success in eliminating inflation relied on high levels of capital inflows that produced byproducts that were crucial to its success—overvalued exchange rates, open capital markets, high levels of capital inflows—but were not part of the original Consensus and created domestic incentives that impeded the domestic restructuring required to provide improved growth and employment. Further, the disappointing performance of Latin American countries after the initial success in taming inflation has been due to the failure to provide a transition from inflation-fighting adjustment the introduction of supply-side policies, in Latin America it was suggested that overvaluation was, in reality, only a reflection of the higher rates of return resulting from the market-based policy reforms.

15policies to employment and growth-creating adjustment policies because of the difficulty in producing competitive exchange rates. The rapid improvement in the external accounts of many countries in the region, due to expanding markets and rising prices for primary products, has not made the process of providing a transition in policy any easier, for current account surpluses now join capital inflows in putting pressure towards appreciation. The Consensus calls on countries to maintain competitive currencies, but in the absence of exchange controls on capital inflows, this has proven to be extremely difficult to achieve in practice and if achieved risks creating a flight from the currency that would jeopardize the stability that has been achieved. Indeed, Williamson himself has now suggested that control of capital flows might be required, without realizing that had they been applied initially they would have diminished the success in stabilizing inflation. An additional difficulty that has been created by the failure to achieve a transition to employment and growth-creating policies is the impact that it has had on domestic investment and financial systems. The continued existence of large external debt stocks and the use of interest rate policies in the context of inflation targeting have led to conditions in which the return on the increasing supply of safe government assets far exceeds the return on investment in transforming the domestic production structure. As an example, fixed interest rates on five-year government securities (NTNF 2010) earned holders 17% per annum in 2005, while large companies such as the Pão de Açúcar group and AmBev reported a return on equity of 6.3% and 9.1%, respectively, for the year. Others such as Braskem (operating in petrochemicals) or Klabin (one of the largest paper producers) had returns of 14.9% and 14.7%, respectively; in telecommunications, Embratel showed a return of 3.9% (d'Amorim 2006). The same interest differentials that produce large capital inflows and currency overvaluation create interest differentials in favor of financial assets rather than domestic corporate restructuring to increase productivity to offset the decline in competitiveness caused by the overvaluation of the exchange rate. The same is true of banks who find it more profitable to hold indexed government bonds than to make commercial loans to the productive sector. This has produced banking systems that are solid, but whose asset portfolio is dominated by loans to the government rather than loans to

16the private industrial sector in support of domestic restructuring. What additional lending that is done tends to be for consumer credit or for house mortgages. Finally, the impact of the highly overvalued exchange rate simply aggravates these problems. A study of 110 stock exchange listed firms in Brazil shows that industries most exposed to exchange rate variation (such as paper, cellulose, chemicals, and transport) have suffered earnings declines due to the overvaluation of the real (Mandl 2006). These results also suggest that one of the major reasons for the failure of the Consensus to provide the basis for industrial transformation and recovery has been its success in reducing inflation, creating the paradox of providing stability to the financial system, while at the same time reducing its contribution to financing the industrial system. Thus, just as the sharp increase in external capital inflows provided financing for the continuation of rapid growth under import substitution, but eventually led to unsustainable external imbalances, the return of capital inflows after the lost decade provided the needed support to eliminate hyperinflation, but eventually led to domestic conditions that impeded domestic investment to provide restructuring to increase productivity and competitiveness, as well as to provide support for a return to growth and employment. It is ironic that the recent return of external surpluses in most countries in the region has been due to the rapid increase in global demand and prices for their primary commodities reinforcing the domestic deindustrialization that was produced by the “right” macroeconomic policies, rather than microeconomic

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