Miracle of Chile

Chilean (blue) and average Latin American (orange) GDP per capita (1950-2007).

The "Miracle of Chile" was a term used by free market Nobel Prize winning economist Milton Friedman to describe liberal and free market reorientation of the economy of Chile in the 1980s, 1990s and the purported benefits of his style of economic liberalism. He said the "Chilean economy did very well, but more important, in the end the central government, the military junta, was replaced by a democratic society. So the really important thing about the Chilean business is that free markets did work their way in bringing about a free society." ^[1] Other economists (such as Amartya Sen) have argued that the experience of Chile in this period rather demonstrate the failure of Friedman-style economic liberalism, claiming that there was little net economic growth from 1975–1983 (during the "pure Monetarist experiment") with sustained economic growth only coming after later reforms, and social indicators remain poor. The military dictatorship made the unpopular economic reorientation possible by repressing opposition to it.

In 1973, Chile had experienced hyperinflation that had hit 700 percent, at a time when the country, under high protectionist barriers, had no foreign reserves, and GDP was falling.^[2] The economic reforms were originally drafted by Chilean economists known as the "Chicago Boys" because many of them had studied at the University of Chicago. The plan had three main objectives: economic liberalization, privatization of state-owned companies, and stabilization of inflation. The first reforms were implemented in three rounds – 1974–1983, 1985, and 1990.^[2] The reforms were continued and strengthened after 1990.^[3] Hernán Büchi, Minister of Finance under President Augusto Pinochet between 1985 and 1989, wrote a book detailing the implementation process of the economic reforms during his tenure. Successive governments have continued these policies. In 2002 Chile signed an association agreement with the European Union (comprising free trade, political and cultural agreements), in 2003, an extensive free trade agreement with the United States, and in 2004 with South Korea, expecting a boom in import and export of local produce and becoming a regional trade-hub. Continuing the coalition's free-trade strategy, in August 2006 President Bachelet promulgated a free trade agreement with the People's Republic of China (signed under the previous administration of Ricardo Lagos), the first Chinese free-trade agreement with a Latin American nation; similar deals with Japan and India were promulgated in August 2007. In 2010, Chile was the first nation in South America to win membership in the Organization of Economic Cooperation and Development, an organization restricted to the world's richest and best-run countries.

Background

In 1972, Chile's inflation was at 150%.^[4] According to Hernán Büchi, several factors such as expropriations, price controls, and protectionism led to economic problems.^[5] The Central Bank increased the money supply to pay for the increasing deficit. Büchi states that this increase was the primary cause for inflation.^[5]

Immediately following the Chilean coup of 1973, Augusto Pinochet was made aware of a confidential economic plan known as El Ladrillo ^[6] (literally, "the brick"), so called because the report was "as thick as a brick". The plan had been quietly prepared in May 1973 ^[7] by economists who opposed Salvador Allende's government, with the help from a group of economists the press were calling the Chicago Boys, because they were predominantly alumni of the University of Chicago. This document contained the backbone of what would later on become the Chilean economic policy,^[7] recommending a set of economic reforms that included deregulation and privatization. Among others reforms, they made the central bank independent, cut tariffs, privatized the state-controlled pension system,^[8] state industries, and banks, and reduced taxes. Pinochet's stated aim was to "make Chile not a nation of proletarians, but a nation of entrepreneurs.^[4]

Reforms

The first reforms were implemented in three rounds – 1974–1983, 1985, and 1990.^[2]

The government welcomed foreign investment and eliminated protectionist trade barriers, forcing Chilean businesses to compete with imports on an equal footing, or else go out of business. The main copper company, Codelco, remained in government hands due the nationalization of copper completed by Salvador Allende, however, private companies were allowed to explore and develop new mines. Copper resources were, however, declared "inalienable" by the 1980 Constitution.

Minister of Finance Sergio de Castro, departing from Friedman's support for free floating exchange rates, decided on a pegged exchange rate of 39 pesos per dollar in June 1979, under the rationale of bringing Chile's rampant inflation to heel. The result,^[9] however, was that a serious balance-of-trade problem arose. Since Chilean pesos inflation outpaced U.S. dollar inflation, every year Chilean buying power of foreign goods increased, all fueled by foreign loans in dollars^{[citation needed]}. When the bubble finally burst in late 1982, Chile slid into a severe recession that lasted more than two years.

Chile had a strong economic recession in 1982–1983, its second in eight years (in 1975, when GDP fell by 13 percent, industrial production plunged by 27 percent, and unemployment shot up to 20 percent). Real economic output declined by 19% just in 1982 and 1983 and most of the recovery and subsequent growth took place after Pinochet left office,^[10] when market-oriented economic policies were additionally strengthened.^[3]

In his Memoirs ("Chapter 24: Chile", 1998), Milton Friedman criticized De Castro and the fixed exchange rate.^[11]

Starting in 1985, with Hernán Büchi as Minister of Finance, the focus of economic policies shifted toward financial solvency and economic growth. Exports grew rapidly and unemployment went down, however, poverty still represented a significant problem, with 45 percent of Chile's population below the poverty line in 1987. Büchi wrote about his experience during this period in his book La transformación económica de Chile: el modelo del progreso. In 1990, the newly elected Patricio Aylwin government undertook a program of “growth with equity”, emphasizing both continued economic liberalization and poverty reduction. Between 1990 and 2000, poverty was reduced from 40 percent of the population to 20 percent. 60 percent of this reduction can be attributed to GDP growth, with the remaining 40 percent attributable social policies.^[12]

Free trade agreements

Successive Chilean governments have actively pursued trade-liberalizing agreements. The process began in the 1970s, when De Castro cut tariffs on imports to 10%. Prior to that, Chile had been one of the most protectionist economies in the world, ranking 71 out 72 in a 1975 Cato Institute and Fraser Institute annual report.^[13] During the 1990s, Chile signed free trade agreements (FTA) with Canada, Mexico, and Central America. Chile also concluded preferential trade agreements with Venezuela, Colombia, and Ecuador. An association agreement with Mercosur—Argentina, Brazil, Paraguay, and Uruguay—went into effect in October 1996. Continuing its export-oriented development strategy, Chile completed landmark free trade agreements in 2002 with the European Union and South Korea. Chile, as a member of the Asia-Pacific Economic Cooperation (APEC) organization, is seeking to boost commercial ties to Asian markets. To that end, it has signed trade agreements in recent years with New Zealand, Singapore, Brunei, India, China, and most recently Japan. In 2007, Chile held trade negotiations with Australia, Thailand, Malaysia, and China. In 2008, Chile hopes to conclude an FTA with Australia, and finalize an expanded agreement (covering trade in services and investment) with China. The P4 (Chile, Singapore, New Zealand, and Brunei) also plan to expand ties through adding a finance and investment chapter to the existing P4 agreement. Chile's trade talks with Malaysia and Thailand are also scheduled to continue in 2008.^[14]

Performance on economic and social indicators

Amartya Sen, in his book Hunger and Public Action examines the performance of Chile in various economic and social indicators. He finds, from a survey of the literature on the field:

The so-called "monetarist experiment" which lasted until 1982 in its pure form, has been the object of much controversy, but few have claimed it to be a success...The most conspicuous feature of the post 1973 period is that of considerable instability...no firm and consistent upward trend (to say the least).

Nobel laureate and economist Gary Becker states that "Chile's annual growth in per capita real income from 1985 to 1996 averaged a remarkable 5 percent, far above the rest of Latin America."^[15] Since then the economy has averaged 3% annual growth in GDP.^[16]

Developments were very positive with regards to infant mortality and life expectancy—infant mortality rate fell so much that Chile achieved the lowest level of infant mortality in Latin America in the 1980s.^[17] Infant mortality rate in Chile fell from 76.1 per 1000 to 22.6 per 1000 from 1970–85.^[16] In 1988, the military government passed a law making all abortion illegal, and the law remains in place today.

However, Sen claims that this improvement was not because of "free-market" policies but because of active public and state intervention. Chile had a very long tradition of public action for the improvement of childcare, which were largely maintained after the Pinochet coup:

... there is little disagreement as to what caused the observed improvement in the area of child health and nutrition...It would be hard to attribute the impressively steady decline in infant mortality ... (despite several major economic recessions) ... to anything else than the maintenance of extensive public support measures

Milton Friedman

Milton Friedman gave some lectures advocating free market economic policies in La Universidad Católica de Chile. In 1975, two years after the coup, he met with Pinochet for 45 minutes, where the general "indicated very little indeed about his own or the government's feeling" and the president asked Friedman to write him a letter laying out what he thought Chile’s economic policies should be, which he also did.^[18] To stop inflation, Friedman proposed reduction of government deficits that had increased in the past years and a flat commitment by government that after six months it will no longer finance government spending by creating money. He proposed relief of cases of real hardship among poorest classes.^[2] In October 1975 the New York Times columnist Anthony Lewis declared that "the Chilean junta’s economic policy is based on the ideas of Milton Friedman…and his Chicago School".^[18]

Commenting on his statement about the "Miracle", Friedman says that "the emphasis of that talk was that free markets would undermine political centralization and political control."^[19] Friedman stated that "The real miracle in Chile was not that those economic reforms worked so well, but because that's what Adam Smith said they would do. Chile is by all odds the best economic success story in Latin America today. The real miracle is that a military junta was willing to let them do it."^[20] Friedman said the "Chilean economy did very well, but more important, in the end the central government, the military junta, was replaced by a democratic society. So the really important thing about the Chilean business is that free markets did work their way in bringing about a free society." ^[19] The term Miracle of Chile is also commonly^{[by whom?]} used to refer to the favorable economic results of economic liberalization in that economy.

Friedman has wondered why some have attacked him for giving a lecture in Chile: "I must say, it's such a wonderful example of a double standard, because I had spent time in Yugoslavia, which was a communist country. I later gave a series of lectures in China. When I came back from communist China, I wrote a letter to the Stanford Daily newspaper in which I said, 'It's curious. I gave exactly the same lectures in China that I gave in Chile. I have had many demonstrations against me for what I said in Chile. Nobody has made any objections to what I said in China. How come?'" He points out that his visit was unrelated to the political side of the regime and that during his visit to Chile he even stated that following his economic liberalization advice would help bring political freedom and the downfall of the regime.^[19]

Current Chilean economy

See also: Economy of Chile

According to the 2010 Index of Economic Freedom (of the Heritage Foundation, Fraser Institute and WSJ), Chile's economy is the 10th freest.^[21] Chile is ranked 3rd out of 29 countries in the Americas and has been a regional leader for over a decade. Chile's annual GDP growth was 3.2% in 2008 and has averaged 4.8% from 2004 to 2008.^[16]

The percent of total income earned by the richest 20% of the Chilean population in 2006 was 56.8%, while the percent of total income earned by the poorest 20% of the Chilean population was 4.1%.^[16] Chile's GINI index (measure of income distribution) of 52.0 in 2006, compared to 24.7 of Denmark (most equally distributed) and 74.3 of Namibia (most unequally distributed).^[16]

See also

• Chile pension system
• Economic history of Chile

References

1. ^ "Commanding Heights: Milton Friedman". PBS. http://www.pbs.org/wgbh/commandingheights/shared/minitext/int_miltonfriedman.html#10. Retrieved December 29, 2008. 
2. ^ ^{a b c d} Manfred Bräuchle. "Applied Theory: The Reforms in Chile". http://www.ecaef.org/klex/user/1/41894820_10_10.ppt.  HTML version
3. ^ ^{a b} Thomas M. Leonard. Encyclopedia Of The Developing World. Routledge. ISBN 1579583881 p. 322
4. ^ ^{a b} "Pinochet's rule: Repression and economic success". BBC News. 2001-01-07. http://news.bbc.co.uk/2/hi/americas/63821.stm. Retrieved 2010-05-12. 
5. ^ ^{a b} Büchi, Hernán (18 September 2006). "How Chile successfully transformed its economy". Backgrounder (Washington, DC: The Heritage Foundation) 1958: 1–10. http://www.heritage.org/Research/Reports/2006/09/How-Chile-Successfully-Transformed-Its-Economy. Retrieved 1 October 2010. 
6. ^ (Spanish)El Ladrillo: Bases de la Política Económica del Gobierno Militar Chileno. Santiago de Chile: june 2002, ISBN 956-7015-07-4
7. ^ ^{a b} >(Spanish) VILLAROEL, Gilberto. La herencia de los "Chicago boys". Santiago do Chile: BBC Mundo.com - América Latina, 10/12/2006.
8. ^ RIX, Sara E., Ph.D.Chile's Experience With The Privatization Of Social Security. , AARP Public Policy Institute, August 1995
9. ^ "The Political Economy of Unilateral Trade Liberalization". UCLA. 1990. http://www.anderson.ucla.edu/faculty/sebastian.edwards/W6510.pdf. Retrieved 2010-12-06. 
10. ^ BELLO, Walden Bello and KELLY, John. The IMF and Chile A Parting of Ways? International Finance, The Multinational Monitor, April 1983, Volume 4, Number 4
11. ^ "Two Lucky People". University of Chicago Press. 1998. http://books.google.com/books?id=6l0_vQ1zpI8C&printsec=frontcover&dq=To+lucky+people+milton+friedman&hl=en&ei=iEefTfftKtOzhAeDgYnxBA&sa=X&oi=book_result&ct=result&resnum=1&ved=0CCkQ6AEwAA#v=onepage&q=sergio%20de%20castro&f=false. Retrieved 2011-04-08. 
12. ^ Chile: Successes and Failures in Poverty Eradication. World Bank
13. ^ "Economic Freedom of the World 1970-1995". Cato Institute and Fraser Institute, 1996. http://www.fraseramerica.org/commerce.web/product_files/EconomicFreedomoftheWorld1975-1995.pdf. 
14. ^ "Background Note: Chile". United States Department of State, Bureau of Western Hemisphere Affairs, January 2008. http://www.state.gov/r/pa/ei/bgn/1981.htm. 
15. ^ Becker, Gary S. (1997). Robinson, Peter. ed. "What Latin America Owes to the "Chicago Boys"". Hoover Digest (4). ISSN 1088-5161. http://www.hoover.org/publications/hoover-digest/article/7743. Retrieved 3 October 2010. 
16. ^ ^{a b c d e} World Bank. (April 2010). Washington, DC: World Bank. Statistics retrieved 1 October 2010 from World Development Indicators database.
17. ^ French-Davis, Ricardo. Economic Reforms in Chile: From Dictatorship to Democracy. Ann Arbor, MI: U Michigan P. p. 188. 
18. ^ ^{a b} DOHERTY, Brian. The Life and Times of Milton Friedman: Remembering the 20th century's most influential libertarian. Reason Magazine, March 2007 Print Edition Friedman's 21 April 1975 letter may be found in Milton and Rose Friedman's Two Lucky People and in an online Chilean newspaper.
19. ^ ^{a b c} Friedman, Milton (10/01/2000). "Up for Debate: Reform Without Liberty: Chile's Ambiguous Legacy". PBS. http://www.pbs.org/wgbh/commandingheights/shared/minitextlo/ufd_reformliberty_full.html. Retrieved 2009-09-29. 
20. ^ Friedman, Milton (1992). Friedman, Milton; Szasz, Thomas Stephen. eds. "The Drug War as a Socialist Enterprise". Friedman & Szasz on Liberty and Drugs: Essays on the Free Market and Prohibition (Washington, DC: Drug Policy Foundation). http://www.druglibrary.org/special/friedman/socialist.htm. Retrieved 3 October 2010. 
21. ^ Miller, Terry; Holmes, Kim R.; Roberts, James M.; Kim, Anthony B. (2010). "Chile". 2010 Index of Economic Freedom. New York: The Wall Street Journal & The Heritage Foundation. http://www.heritage.org/index/country/Chile. Retrieved 2 October 2010.