30 years of the Real Plan: Unoriginal Lessons from Latin American Stabilizations

 

Original thoughts

 

The 30 year anniversary of the stabilization plan that controlled high inflation in Brazil, the so-called Real Plan, just passed earlier in July. I wanted to write something about it, but it got buried with other things. Here just some very short reflections.

 

There was a huge coverage in the media and several new books and papers written about it, including by several of the actual participants of the stabilization plan. If I have to leave one impression beyond the problems of all the mythology making, and the self-congratulatory mood of the whole thing, is that most of the analysts, including the economists that designed the plan, unlearned what they knew back then. People start defending some ideas because they are convenient, and next thing they end up believing their own half-baked justifications. The book shown above by three central figures in the conception and management of the Real -- Gustavo Franco, who wrote a dissertation under Jeff Sachs, with Lance Taylor in the committee that is worth reading, Pedro Malan, who was a very reasonable macroeconomist concerned with balance of payments problems in the 1970s, with a thesis supervised by Albert Fishlow, and Edmar Bacha, perhaps mostly known for his Belindia paper with Lance Taylor -- is a disappointment, but not a surprise. It suggests stabilization was possible because of the fiscal adjustment, and (this is somewhat interesting given the current debates in Argentina, where everybody wants a Plan) because the Plan wasn't really a plan, in the sense that it had no surprise measures. They mean, there was no price freeze.

The book is composed of short newspaper pieces, some previously unpublished but similar in size and style, over the last 30 years. The more recent are more illuminating for obvious reasons. The diagnostic is essentially that stabilization followed a serous fiscal commitment, an independent central bank concerned with inflation, and a flexible exchange rate to solve the external problem. There is almost nothing about the URV (Unidade Real de Valor), based on the Larida proposal, which was the center piece of the plans way of dealing with the realignment of relative prices during the transition to the new currency (one of the main problems with price freezes). Prices kept changing in cruzeiros, the actual currency, but remained fixed in URVs, that had a daily exchange rate with the cruzeiro. Then the cruzeiro was eliminated and the URV became the real, with a stable exchange rate with the dollar, one might add. Perhaps the lack of discussion can be blamed on the fact that neither Pérsio Arida nor André Lara-Resende participate in the book.

However, in a recent piece on Piauí, Lara-Resende, the more controversial and less conventional, at least these days, of the Real Plan forefathers, although he does say that the URV is the Columbus' egg that allowed to eliminate the problem of inertia, but then goes on to say that:

"Inflation is the result of a long process of fiscal disorder, that mirrors social demands and political conflicts, that cannot be resolved by the established institutional channels" (my translation).

In other words, inflation is caused by too much social spending and fiscal imbalances. The conflict is not, apparently one about income distribution, in the face of an external problem (foreign debt back in the 1980s). There is no mention of the exchange rate, the external obligations or the amount of reserves held by the central bank necessary to service the foreign debt.

Of course what allowed for the stabilization was the change in capital flows in the 1990s, in part the result of the lower rates in the United States after the financial crash of 1987, and more so after the 1991 recession, together with the Brady renegotiation of the external debt, that Brazil signed in 1992. By 1994 the reserves were reasonably large as can be seen below.

Reserves were very low in the 1980s, and that was the main reason for the failure of the heterodox plans, not just in Brazil, but in many other countries like Argentina. In May 1993, when Fernando Henrique Cardoso became Finance Minister, reserves were at about US$ 23 billion, and by the time the real became the currency, and the exchange rate between the real and the dollar was stabilized, reserves had more or less doubled (one can see the erosion of them after the 1999 crisis, and all of that is dwarfed by the accumulation of reserves that started in the second Lula government). There is a brief comment on the round-table at the Catholic University in which someone said that Gustavo Franco was instrumental in trying to keep the exchange rate stable, but it is almost an after thought.

This is lack of understanding of what allowed for stabilization in the 1990s, and not in the 1980s (in the case of Israel the US provided a large transfer of reserves to their central bank; stabilization by invitation, one might call it), is generalized. Many papers trying to find some specific element of the stabilization plans miss the fact that everybody stabilized in the 1990s, once dollars started flowing to the periphery.

At any rate, many other problems with these papers, books, round-tables, on Lula, and his views, on what would allow for higher growth now, on why price stability has been maintained, and so on. But the ideas are mostly conventional, unoriginal, and for the most part incorrect. They provide less knowledge now than what they knew back then.

Is dependency over?

Short clip of part of an interview. I discussed that in an old paper here, and in another interview here.

Two Transitions in Brazil: Dilemmas of a Neoliberal Democracy

By Alfredo Saad Filho

The mass movements starting in June 2013 were the largest and most significant protests in Brazil in a generation, and they have shaken up the country's political system. Their explosive growth, size and extraordinary reach caught everyone – the left, the right, and the government – by surprise. This article examines these movements in light of the achievements and shortcomings of the democratic transition, in the mid-1980s, and the experience of the federal administrations led by the Workers’ Party since 2003.

Read the rest here.

PS: If you read in Portuguese, an alternative explanation of the protests, by Marcos Nobre, is available here.

More on The Sociology of Development - Reposted by Hampton Institute

More on The Sociology of Development: Towards A Re-articulation of Dependency Theory see here. For the original post see here.

More on The Sociology of Development: Towards A Re-articulation of Dependency Theory

The sociology of development as a field of study, a structure of knowledge, providing an interpretive grid through which to render impoverished regions of the world intelligible has its roots after the completion of Second World War with the crystallization of ‘Modernization theory', which constituted an ideation that societies are understood to move from social positions of tradition to modernity polar ends of an evolutionary continuum. At some point, incremental changes give way to a qualitative jump into modernity, marked by the essence of industrialism. In this sense, the Third world is perceived to be below the threshold of modernity, with a preponderance of traditional-like features such as an extended kinship social structure and, due to the lack of progress towards political differentiations, similar to that of Western forms of democratization, strict hierarchical sources of authority, altogether negating the possibilities to move beyond disintegrated autarkic primary economic activities (Parsons, 1964).

The development of a high extent of differentiation: the development of free resources which are not committed to any fixed, ascriptive groups; the development of wide non-traditional, “national,” or even super-national group identifications; and the concomitant development, in all major institutional spheres, of specialized roles and of special wider regulative or allocative mechanisms and organization, such as market mechanisms in economic life, voting and party activities in politics, and diverse bureaucratic organizations and mechanisms in most institutional spheres (Eisenstadt (1973: 23).

According to Rostow (1960), all societies can be placed along a linear continuum from undeveloped to developed along a ‘stages of economic growth’ path, derived from an extensive study of Western economic development. In ‘traditional society’, the first stage, it is deemed that economic output is limited because of inaccessibility to innovative technology. At the second stage, ‘the preconditions for take-off, modern science, attributed to “Western Europe of the late seventeenth and early eighteenth centuries” (Rostow, 1960, p. 6) ensues new innovations in production in agriculture and industry, fostering widespread education, entrepreneurship, and institutions capable of mobilizing industrial capital; capitalistic investments increase, especially in transport, communication and raw materials. Nevertheless, despite the development of some modern manufacturing, traditional social structures and production techniques remain:

In many cases, for example, the traditional society persisted side by side with modern economic activities, conducted for limited economic purposes by a colonial or quasi-colonial power (Rostow, 1960, p.7)

Rostow’s third stage is ‘the Take-off’, in which traditional barriers to economic growth, like the effect of a dual economy, are overcome. At this point, capital investment increases rapidly and new industries expand exponentially, as does an ‘entrepreneurial class’—economic growth becomes a normal condition” (Rostow, 1960, p. 36). At the fourth stage, ‘the Drive to Maturity’, technology becomes more complex and what produced is now less a matter of economic necessity, and more a question of consumer choice. This leads to the final fifth stage of high consumption, in which economic sectors specialize in the manufacturing of highly sought after consumer durables and basic life needs are mutually satisfied. In a play on Marx, Rostow’s analysis suggests that the West, which “is more developed industrially only shows, to the less developed, the image of its own future’ (Marx, 1954, p. 19). The assumption is that capitalism is a historically progressive system, which is transmitted from the privileged economically advanced countries to the rest of the world by a continual process of destruction and replacement of pre-capitalist social structures (Palma, 1978).

The problem with modernization theory is that it is quite ahistorical, with respect to the global capitalist exploitation. 'Modernization’ theory can, and has been, be interpreted as a ‘blame the victim’ approach to problems affecting the ‘Third World’. Rostow ignores the external influences like colonialism that contributed to social in the Third World. Rostow’s, and for most of ‘modernization’ theory, the unit of analysis is the nation-state of the ‘Third World’, emphasizing internal dynamics, sectors and sub-sectors, combined with the causal role of technology. As such, conclusions drawn from this approach are that all nations, regardless of the history of imperialism, colonialism, etc., should be able to modernize with emulation of more developed economies and their diffusing of highly advanced technology.

Paul Baran and Paul Sweezy, in Monopoly Capital (1960), building on the path-breaking work of Michel Kalecki and Joseph Steindl, assess the degree to which monopoly, as measured by the market concentration ratio of large capitalist firms (corporations) in economically advanced countries, ensues an inverse of Marx’s famous hypothesis that the ‘laws of motion’ of capitalist development in produces a ‘tendency for the surplus to fall. Rather, the economic surplus, defined as the gap, at any given level of economic activity—effective demand in Keynesian terminology—, between what is produced and the socially necessary costs of producing it, under monopoly capitalism has a tendency to rise (Baran & Sweezy,1966, pp. 9, 52-57).

Since aggregate levels of effective demand for total output determine the level of economic activity, crises of capital accumulation are inevitable if the monopoly sector cannot sustain its power via sufficient investment opportunities to absorb its accumulating share of the total surplus produced. Rather than let this insufficiency put downward pressures on potential profits as a whole, various stabilizing factors are set in motion, which include classical Keynesian government deficit spending, research & development (although risky without reliable forecasts potential spillover effects), waste (as evidenced by a sales effort, i.e. consumerism), or imperialism—the last of which provides the foundations for the dependency theoretical approach to economic development.

In this sense, for an understanding of the fundamental division between economically advanced countries and impoverished ones, it is requisite to place attention to the extent to which foreign investment acts as an outlet for investment-seeking surplus generation. Unlike Lenin’s theory of imperialism, foreign investment is a method of extracting wealth, not a channel through which surplus is directed, ensuing underdevelopment (Baran & Sweezy, pp. 104-105). Underdevelopment is a thus process by which monopoly capital in economically advanced nations exploit economically weaker countries by exporting capital to the extent that profits produced (from the production of cheaper consumer goods or raw materials via lower wages in these countries, for example) are repatriated. It is the process by which the expropriation of “foreign sources of supply and foreign markets, ena[ble] [the agents of] monopoly capital to buy and sell on specially privileged terms” (Baran & Sweezy 1966, p. 201), ensuring, caeteris paribus, their positions of power in the world are sustained. The result is that economically weaker countries suffer the retardation of the requisite forces to spawn autonomous and dynamic process of self-governance of the conditions that constitute independent social/political/economic coordination, planning and control.

The argument is that (Baran & Sweezy, pp. 9,178-179) monopoly capitalism is tantamount to the degree to which large capitalist firms in economically advanced countries have as their counterpart the “exploitation of much of the rest of the world” and, as a result, constitute international relations as a “hierarchical system with one or more leading metropolises, completely dependent colonies [even if not name, certainly in practice] at the bottom, and many degrees of superordinate and subordination in between […] [t]hese features are of crucial importance to the functioning of both the system as a whole and its individual components […] (Baran & Sweezy, 1966, pp. 178-179). As such, “we cannot hope to formulate adequate development theory and policy for the majority of the world’s population who suffer from [impoverishment] without first learning how their past economic and social history gave rise to their present underdevelopment” (Frank, [1966] 1969). Underdevelopment is neither an original nor traditional social position. Hence, it cannot be assumed that the contemporary position of the Third World can be understood as solely a reflections of its internal historically specific social, political, economic, and organizational characteristics. The process by which monopoly capital in economic advanced countries extract surplus from less-developed countries through capital exports limits the latter’s ability to achieve the status of the former. Thus, 'modernization theory' is utterly unsatisfactory, for such an approach

[…] in all its variations, ignores the historical and structural reality of the underdeveloped countries. This reality is the product of the very same historical process and systemic structure as is the development of the now developed countries’ (Frank 1969, p. 47).

To suggest that social, political, and economic advancement of the underdeveloped world can be generated by the diffusion of what is deemed modernizing institutions, values, etc. is fundamentally erroneous. If development fails to occur, it is not because within the Third World there are mere obstacles to diffusion because of innate poverty arising from some form Gerschenkronian ‘backwardness’, but due to the net outflow of vital resources, whether natural, monetary, human, technological etc. The implication is that underdevelopment is not because of the “the survival of archaic institutions”, or some inability to contract some ‘modern man’ (Inkles, 1969) syndrome; on the contrary, it is generated by the same capitalist development that led to the domination by economic advanced countries, that is, “the development of capitalism itself” (Frank, [1966] 1969). Capitalism, hence, is an operation that cements a peripheral latifundium system, via the constant forces of ‘primitive-accumulation', what Myrdal (1957) defined as international ‘backwash’ effects, that reproduces a cleavage between ‘town and country’, centre and periphery, on a tremendously enlarged basis (cf. Bukharin & Lenin, 1929).

Viewed from this standpoint, dependency theory is a manifestation of what David Harvey (1978, 2007) defines as ‘accumulation by dispossession’ by virtue of which dialectical forces of motion and contradiction generate vast disparities of wealth and power on a worldwide scale. The world economy is reproduced as a world-system (Wallerstein, 1979) of ‘unequal exchange’ (Emmanuel, 1972; Amin 1974, 1976), in which ‘underdevelopment’ ensues peripheral internal long-run stagnation (Bornschier & Chase-Dunn, 1985, pp. 39-40). The terms of trade for the periphery fall precipitously – this is the Prebisch-Singer hypothesis (Prebisch 1950). As Samir Amin (1976, p. 292) notes, “whereas at the center growth means development, making the economy more integral, in the periphery growth does not mean more development, for it dis-articulates the economy. Since the imbalance of international trade defines the mechanisms by which capital is drained from former colonized countries, there is no way for peripheral countries in the world economy to ‘catch up’ in Rostowian fashion (p. 383).

Nevertheless, the social facts that constitute the particular social conditions for the constant negation of a ‘just price’ in international trade ‘admits of varying interpretation’ (Frank, 1977). Case in point is the extent to which the periphery is in fact ‘peripheralized’. To suggest that the capitalist world economy simply, by definition, produces a centre-periphery polarity (Frank, 1967; Wallerstein, 1974), is to pay insufficient attention to understanding the extent to which economic development in the periphery is a convoluted association of varying social processes, rather than the mere result of a state’s homogenized world-systemic position (Gellert, 2010).

According to Cardoso and Faletto ([1967] 1970), for instance, development in the periphery, while controlling for socioeconomic income differentials, is likely if foreign capital penetration creates spillover effects. That is, partial economic growth is viable through what Peter Evans (1995) describes as the practice of an ‘embedded autonomy’-an apparent solidified social network between the state and civil society (which consists of economic elites from the centre) that creates the capacity for the state, as such, to engage in domestic Keynesian aggregate demand management. Whether this is manifested is the extent to which a peripheral country does not suffer the inability to borrow in its own currency, in which a country, most likely a developing one, supplements its domestic unit account of fiduciary reserve assets with a foreign currency. This is the exemplification of a country foregoing its national ‘monetary sovereignty’ (Mundell, 1961).

The essence of national 'monetary sovereignty' is the cartelist (or chartelist) (Goodhart, 1998) conception that emphasizes state power to establish a particular unit of account, a national currency, which allows economic calculations to take place (Ingham, 2004). In this sense, money is a means for accounting for and settling of financial debts, the most important of which are tax debts, which, in turn, regulate the level of aggregate demand, and thus determination of national income through the use of fiscal policy; it represents a [store of financial value] [...] [of which] general purchasing power is held [...] (Keynes, 1930, p. 3).

In the United States, for example, and in contrast to James O’Connor ([1973] 2002) and Erik Olin Wright’s (1979) fiscal sociological model for analyzing the intricacies of public finance, which narrowly centers on a hypothetical natural limit to fiscal policy (Wright 1979, p.157), the federal government, through open-market operations, sells government bonds, Treasury securities, which are either bought or foregone by the Federal Reserve (Fed). If the Fed commits to a policy of purchasing Treasury securities, the interest rate by which the Federal government is liable on Treasury securities held by the Fed is lowered. Symmetrically, if the Fed sells Treasury securities, the Federal Government’s interest burden, which is paid through taxes denominated in dollars, is raised. By providing a guarantee for State debt, the Fed delivers the capability for the federal government to use fiscal policy to regulate aggregate demand. Thus, the extent to which fiscal policy is an option is determined by the burden of the federal government's interest payments on Treasury securities to the Fed (cf. Lerner, 1943; Domar, 1944).

From this perspective, 'underdevelopment', or 'dependency', is the powerlessness a peripheral country to establish its own unit of account and thus is forced to variably peg its national currency to a foreign reference currency. What ensues is the inability to use monetary policy—central bank purchasing and selling of government bonds denominated in the domestic currency for purposes of controlling the money supply, and thus the cost of credit—, and fiscal policy, via deficit spending, for domestic economic needs. Since the central bank is forced to maintain a certain level reserves of the foreign reference currency such that the price of the domestic currency, in terms of the reference currency, does not change, this produces a negative money-multiplier that sets in motion an inherent deflationary bias, which, if not counteracted by capital inflows to spur aggregate demand, can lead to abrupt contraction of the monetary base, stinting any supposed progress towards economic sustainability (cf. Fields & Vernengo, 2012, 2013).

Thus, if any form of government spending is to be engaged, an 'underdeveloped' country has to issue bonds that are not denominated in its own currency. This amounts to the attraction of external commercial loans with the faith of the country's financial markets by foreign investors used as collateral. As such, country risk is most likely going to exist. If confidence is lost in the strength of the country's financial markets, leading to a spread over bonds like US treasury securities, if the foreign reference currency is the dollar, for example, interest rates on domestic foreign currency denominated bonds are likely to rise, making government spending very costly, which removes any form of domestic capacity to spur public investment as an effective countercyclical policy in the face of economic downturns. This has been essentially the case of Argentina before the 2001–2002 crisis, and of the European periphery since the intensification of the Greek crisis in 2011.

Balance of payments constraints can be quite unsupportable, spawning self-fulfilling financial collapses. Moreover, they altogether constitute an ideological mask that normalizes the advance of global cosmopolitan money-capitalist power to dictate the terms of domestic democratic politics (Ingham, 2008). As such, the extent to which a country is 'peripheralized', is the degree to which its creditworthiness is essentially evaluated in terms of the degree to which the state takes steps toward lowering the social wage for the benefit of multinational corporations from the centre (or core).

***This is a work in progress and I would like to thank Matias Vernengo, Brett Clark, & Al Campbell for their assistance.***

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Say's Law Keynesians

In the 1990s Fernando Henrique Cardoso, the one time sociologist and dependency theory author, turned politician and president of Brazil said that people should forget about what he had written in the past (on dependency theory). Something similar could be said about the economists at Catholic University in Rio de Janeiro, who were the main economic advisors to Cardoso during his presidency.* They seem to have forgotten what they wrote in the past.

An interesting case of the switcheroo from heterodox to mainstream is Edward Amadeo (Labor Minister during the Cardoso administration, even though he had connections to the Worker's Party up to the early 1990s), author of a very good book on Keynes (Keynes' Principle of Effective Demand), based on his dissertation at Harvard supervised by Murray Milgate and co-supervised by Lance Taylor (who was at MIT at that time), with a preface by Vicky Chick. The book is still the best interpretation of Keynes' General Theory, and its relation with the Treatise on Money.

Among other things Amadeo shows that the conventional view which assumes that Keynes moved from an interpretation of the system with flexible prices and fixed quantities in the Treatise to one of fixed prices and flexible quantities in The General Theory (GT), as interpreted by Leijonhufvud for example (see his classic On Keynesian Economics and the Economics of Keynes), is incompatible with a careful reading of chapter 19 of the GT (Amadeo, 1989, p. 4).

Further, Amadeo correctly points out that the transition from the Treatise to the GT involves a change from a dynamic theory of the trade cycle in historical time to an equilibrium theory of the level of output, one in which the flexibility of prices does not guarantee full employment. And obviously the level of activity is determined by demand. Amadeo also wrote a few papers on what we would now call the Kaleckian models of growth (see here; subscription required).

That is why is interesting to read a recent paper by Amadeo (in Portuguese here; originally published in O Globo). He says that Cardoso's agenda, which would have been carried by Serra (defeated presidential candidate in 2002), would have:

"redoubled the emphasis on education, promoted savings, done the labor reform, flattened the tax structure, promoted global integration, invested in infrastructure and modernized the public administration."

Note that the emphasis is on supply-side policies (with the exception of investment in infrastructure, which was actually accelerated during the Lula administration so-called PAC). And yes he suggests that savings would have lead presumably to investment and growth in a typical Solow model result, meaning Say's Law.

One could go on and discuss the other incompatibilities with almost all his previous work (not sure if he wrote something theoretical in a neoclassical perspective), for example the defense of labor reform (meaning lower wages) to promote growth and employment (the opposite of what the GT says). Or the silliness of suggesting at this point that more liberalization (global integration) along the lines of the Washington Consensus would really work. Or the fact, that he seems to believe that fiscal adjustment is necessary now in Brazil and that this would be compatible with higher growth (contractionary expansions).

But the remarkable thing is at the end of the day the complete 180 degree change in theoretical perspective, with no justification of what made him change his mind. I assume that in his case we can paraphrase Keynes and suggest that when proven correct, he changes his mind.

* Other economists close to Cardoso, like Serra from the more radical Unicamp, also moved to the right, favoring privatization and fiscal adjustment, but arguably abandoned academic economics long ago, being like Cardoso politicians. Finally, some economists from the Fundação Getúlio Vargas from São Paulo, like Bresser Pereira, remained more heterodox, and defend now something called New Developmenatlism. I'll leave comments on that for another post.