The Latin American Crisis

Downhill

I have not written on the problems in the region for a while now (last stuff that is more comprehensive here in the talk at Keene, for example), in part, because the whole theme is a bit depressing (more recently the Honduras crisis, and the return of the right in Chile). As I have noted before, there is no doubt that the collapse of commodity prices has played a significant role in the downturn in the region, but it is also true that a lot of the problems are political in nature, and the resurgence of neoliberalism (with the support of the US, btw) has played a significant role too. In my view, the latter is far more relevant.

Two recent issues that I wanted to note, and that prompted my return to the issue of the crisis in the region. One is the downgrading of the Brazilian public debt by Standard & Poor's (I've written on credit rating agencies before here, and on the  previous downgrading of Brazil too). As I noted before, the Brazilian economy didn't face any significant fiscal or external problem. Figure below, from IMF WEO data, shows that the primary balances were actually positive until Dilma decided to cave and do a fiscal adjustment in 2015 (which did not save her from the coup, btw). And the external (current account) deficit was small, and manageable given the humongous external reserves and the great amount of global liquidity.

At any rate, why the new downgrading, you ask. The reason is to force the Brazilian government to push once again for pension reform. The whole point is that the crisis was caused to create the conditions for the dismantling of the old remnants of the very incomplete welfare state, if one can speak of one in Brazil, that survived the neoliberal onslaught of the 1990s under Fernando Henrique Cardoso. One should not minimize the importance of the soft power of US institutions, including the credit rating agencies, and how they can be used to promote certain political agendas.

The other issue is related to Venezuela (see my two previous posts here and here). I noted before that Venezuela's democracy (very problematic one, as I noted, before you complain; read the posts in the links please) is under attack, and that right wingers should not be seen as pushing for democracy against an authoritarian regime. That rhetoric, that still permeates most of the coverage in the US, is simply incorrect. I was somewhat shocked to read the recent op-ed by Ricardo Hausmann asking for military intervention by foreign powers (meaning the US). By the way, this comes from someone with the authority of being a Harvard professor (not that Harvard is supporting the coup, as far as I know). The role of the soft power of US institutions again.

If there were any doubts about their (right wingers that supported the 2002 coup) commitment to democracy I think this clears it up. I'll leave a discussion about the accuracy of the claim that elections have been rigged and the extent of the 'famine' for another post (something old on the latter here). I just wanted to note that here there is that step that is always there in the authoritarian argument about the justification for violence and the removal of the democratic institutions. Unacceptable.

Overdose of heterodoxy, failed Keynesian policies or same old balance of payments constraint?

The hunger games

Ricardo Hausmann blames the situation in Venezuela to excessive heterodox policies. The piece is not particularly well written, but if you look for the deep cause of the crisis, according to Hausmann, then you must conclude that it is a fiscal one. The government spent too much, and got into too much debt. In his words:

Governments often struggle to balance their books, leading to over-indebtedness and financial trouble. Yet fiscal prudence is one of the most frequently attacked principles of economic orthodoxy. But Venezuela shows what happens when prudence is frowned upon and fiscal information is treated as a state secret... Venezuela used the 2004-2013 oil boom to quintuple its external public debt, instead of saving up for a rainy day. By 2013, Venezuela’s extravagant borrowing led international capital markets to shut it out, leading the authorities to print money.

So fiscal problems, too much spending and borrowing, too much money printing, which caused inflation and the currency crisis (the black market gap between the official and parallel value of the domestic currency). As I have discussed in many posts (too many to link) and in a recent paper causality is upside down. It is the external problem, the current account deficit (as I noted in the previous post) that is at the heart of the problem.

Actually, as far as I know the authorities remained for a long while very anti-Keynesian and not particularly in favor of spending. In the immediate aftermath of the global crisis in 2008-9 Venezuela did not pursue Keynesian anti-cyclical policies vigorously. If memory doesn't fail me Mark Weisbrot actually organized a symposium in which government officials encountered a few heterodox economists to try to convince them of the need of counter-cyclical policies. Mind you, many on the left also assume that the problem is the failure of Keynesian policies, like Michael Roberts suggests in a recent post.

On the problem of food shortages, it is important to note that for the most part the wealthy are fine. Only regulated products are scarce, and those tend to be the ones needed by the low income groups (see here; you can follow this guy who keeps showing how much food, and how well the wealthy live in Caracas here). Contrary to what Hausmann suggests nobody is dying for lack of food, even though the situation for the poor is incredibly difficult. And yes, the opposition and orthodox policies are all about making the life of the poor easier, aren't they?*

Again, the problems of Venezuela are perennial, and have to do with the excessive dependence on oil, and the need to diversify production, including probably having a preoccupation with food security, and diversifying exports. Hausmann should know, since he has been writing about the importance of what a country exports, or maybe he thinks that orthodoxy (laissez faire, in this context) would magically produce a more diversified export structure. History is not on his side on this.

* If you have any doubts see what happened in Argentina after Macri's election. That would be a guide (perhaps a moderate one) to what to expect if a Brazilian like parliamentary coup occurred in Venezuela.

The US Net International Investment Position (IIP)

The graph below shows the Net International Investment Position (IIP) as a share of GDP for the US, since 1976. The last report by the Bureau of Economic Analysis (BEA) is available here. Note that by the first quarter of the year the IIP corresponded to US$ 5.5 trillion, or slightly more than 30% of GDP.

The IIP position has been negative since the late 1980s, which is the reason why economists argue that the US is a debtor country. The negative position follows as a result of the persistent current account (CA) deficits, which imply that foreigners accumulate dollars and dollar denominated assets. A negative IIP means that foreigners have more financial claims on residents than vice versa, and is seen often as a problem for most countries.

The conventional view also suggests that CA deficits are not dangerous if they finance domestic investment, which leads to growth, and presumably higher exports, even though this is often not explained by mainstream authors that tend to forget that most countries borrow in foreign currency. In this case, in which the CA deficits allow for higher exports in the future, a negative IIP is seen as sustainable. On the other hand, if the CA is used to finance consumption, then the negative IIP would be unsustainable. Many analysts think that the US IIP is not sustainable and from time to time someone suggests that a run of the dollar is possible. For example, Paul Krugman famously predicted that a run on the dollar would eventually occur, what he termed a 'Wile E. Coyote moment,' in which agents holding dollars would finally get that the floor was gone, and the dollar would depreciate sharply (this was before the Lehman's collapse and the run for dollar denominated assets, and the appreciation of the dollar; subsequently the gradual depreciation of the dollar returned, but so far no Wile E. Coyote moment).

Some mainstream authors are also puzzled by the fact the US, in spite of having persistent CA deficits and a large and negative IIP, has consistently had a positive net investment income position. In other words, interest and profits resulting from holding foreign assets has exceeded the payments of income to owners of US assets. Hausmann and Sturzenegger argued creatively (let's call it that) that the reason for this 'paradox' is that the CA does not measure well the net international investment position, since insurance and liquidity services go unaccounted. Their adjusted measure to add those invisible services, which they refer to as 'dark matter'* would explain the paradox, and why the US IIP is sustainable after all.

Note, however, that once one takes into account that the US holds the reserve/vehicle currency much of the discussion about the dangers of the CA deficits, the sustainability of IIP and the paradox of the positive net investment income position sort of vanishes. US debts are in dollars, which implies that there is no possibility of default in a fiat system. Chartalism holds in the open economy too.

The US does not need to export to obtain dollars, and how it uses the accumulation of financial claims on the US by foreigners is not crucial for sustainability. Holding the key currency does NOT come without consequences, but those are not the ones often suggested by the mainstream. Certainly given US policy choices there has been a loss of industrial jobs in the Rust Belt, yet as noted in another post, not with a significant loss in terms of technological advantage for US corporations. The consequence, thus, of the hegemonic position of the dollar, together with other policy choices (e.g. financial deregulation, lower taxes for the wealthy, deregulation of labor markets, etc.) has been one that affected the balance between labor and capital domestically.

Also, there is no need for dark matter, or other neologisms, to understand why the US has positive net investment income flows. By definition, the key currency is the risk free asset, and hence investments denominated in other currencies must pay a risk premium. Yes, sure BOP accounts are imperfect, like NIPA or any other measure of the economy. But there is no need to revamp the BOP accounts to get that the US CA deficit and the negative IIP are not really unsustainable.

* Hausmann has a flair for coining terms for ideas or problems that were well known by heterodox authors, and to incorporate them inconspicuously in the mainstream discourse. He refers to the notion that developing countries cannot borrow long term in their own currency as "the original sin." Note that the original sin is exactly the notion suggested by Prebisch, Kaldor, Thirlwall and others, that argue that since these countries cannot borrow internationally, and must pay with exports in the long run, then the CA becomes a constraint for economic growth.

Who's afraid of foreign public debt?

Ricardo Hausmann decided to get his two cents on the public debt debate started by the Reinhart and Rogoff debacle. Hausmann was a famous defender of dollarization (see here his instructions for implementation, because, you know, it's a no brainer; you can go here to see his predictions that emerging markets will no longer have national currencies, since they cannot borrow long term in their own currencies) in the past, when he was the chief economist at the Inter-American Development Bank, and was for it in Argentina, Ecuador and other places.

Coming from Venezuela, Hausmann knows that foreign debt and domestic debt should not be mixed. He fudges the issue and does not explicitly says that public debt in national currency is not a problem (and that you cannot default on a currency you print), but he does say that: "The level of debt does matter, and its currency composition matters even more." In other words, foreign denominated debt does matter, since a government cannot monetize a foreign denominated debt. The level that matters is the foreign one, that is, the composition. That's all, and actually this points out a significant problem in Reinhart and Rogoff's work, which does not distinguish carefully enough between foreign and domestic denominated debt.

Note that the examples given by Hausmann of countries were high public debt became problematic ("Mexico in 1994, Russia in 1998, Ecuador in 1999, Argentina in 2001, Uruguay in 2002, the Dominican Republic in 2003, and even the UK in 1976") are all in countries which debt was denominated in foreign currency (dollars for the most part). His explanation that Spain could not pursue expansionary fiscal policy, because as deficits increased interest rates also increased, misses the point that Spain debt is in Euros, and the European Central Bank (ECB) has been, for the most part, unwilling to buy enough Spanish bonds to keep their interest rates low.*

So his conclusion that you must be an Austerian in a boom in order to be able to be a Keynesian in the crisis is plain wrong. Like his defense of dollarization (which he later retracted, and suggested a plan B for Argentina). The principle that debt in domestic currency is not problematic is fine, but his defense of austerity in the face of a recession for certain situations is just plain wrong. Hopefully he will change his principles on this subject too.

* Interestingly enough Spain is like a dollarized country, something he defended in the past.