The Monetary And Fiscal History Of Bolivia, 1960-2017

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The Monetary and Fiscal History of Bolivia, 1960–2017Timothy J. KehoeUniversity of Minnesota,Federal Reserve Bank of Minneapolis,and National Bureau of Economic ResearchCarlos Gustavo MachicadoInstitute for Advanced Development Studies (INESAD)José Peres-CajíasEconomic History Department, University of BarcelonaStaff Report 579February 2019DOI: Bolivia; Monetary policy; Fiscal policy; Hyperinflation; Public enterprisesJEL classification: E52, E63, H63, N16The views expressed herein are those of the authors and not necessarily those of the Federal Reserve Bank ofMinneapolis or the Federal Reserve System.Federal Reserve Bank of Minneapolis 90 Hennepin Avenue Minneapolis, MN 55480-0291

Federal Reserve Bank of MinneapolisResearch Department Staff Report 579February 2019First version: August 2010The Monetary and Fiscal History of Bolivia, 1960–2017*Timothy J. KehoeUniversity of Minnesota,Federal Reserve Bank of Minneapolis,and National Bureau of Economic ResearchCarlos Gustavo MachicadoInstitute for Advanced Development Studies (INESAD)José Peres-CajíasEconomic History Department, University of BarcelonaABSTRACTAfter the economic reforms that followed the National Revolution of the 1950s, Bolivia seemedpositioned for sustained growth. Indeed, it achieved unprecedented growth from 1960 to 1977.Mistakes in economic policies, especially the rapid accumulation of debt due to persistent deficitsand a fixed exchange rate policy during the 1970s, led to a debt crisis that began in 1977. From1977 to 1986, Bolivia lost almost all the gains in GDP per capita that it had achieved since 1960.In 1986, Bolivia started to grow again, interrupted only by the financial crisis of 1998–2002, whichwas the result of a drop in the availability of external financing. Bolivia has grown since 2002, butgovernment policies since 2006 are reminiscent of the policies of the 1970s that led to the debtcrisis, in particular, the accumulation of external debt and the drop in international reserves due toa de facto fixed exchange rate since 2012.Keywords: Bolivia, Monetary policy, Fiscal policy, Hyperinflation, Public enterprises.JEL Codes: E52, E63, H63, N16.*This paper was written as part of the Monetary and Fiscal History of Latin America project sponsored by the BeckerFriedman Institute at the University of Chicago and the Heller-Hurwicz Economics Institute at the University ofMinnesota. We thank participants at the following conferences for helpful suggestions: “The Monetary and FiscalHistory of Latin-America, 1960–2010” at the Federal Reserve Bank of Minneapolis, especially Kjetil Storesletten;“La Historia Monetaria y Fiscal de Bolivia: 1960–2014” at the Universidad Católica Boliviana “San Pablo”; “TheMonetary and Fiscal History of Latin-America: A Comparative Case Study Using a Common Approach” at theUniversity of Chicago, especially Fernando Alvarez; and “The Monetary and Fiscal History of Latin-AmericaConference at the University of Chicago, especially Manuel Amador and Simon Cueva. The views expressed hereinare those of the authors and not necessarily those of the Federal Reserve Bank of Minneapolis or the Federal ReserveSystem.

1. IntroductionIn the early seventeenth century, Bolivia was so famous for its mineral wealth that MiguelCervantes in his Don Quixote used the phrase “valer un Potosi” (to be worth a Potosi) to indicatesomething of great worth, referring to the Bolivian silver mining city of Potosi. The phrase hadbecome popular in Spain in the late sixteenth century, and its use by Cervantes cemented it intothe Spanish language, where it is still used today, often with a small p. Unfortunately, Bolivia’sexports of its proverbial wealth in natural resources—first silver, then tin, and now natural gas—have not prevented it from becoming the poorest country in South America in 2017, according tothe World Bank’s World Development Indicators.1We study Bolivia’s poor economic performance, focusing on its modern economic history,from 1960 to the present. Figure 1 presents a graph of the evolution of real GDP per working-age(15–64 years) person (WAP) in Bolivia, in which we divide its modern economic history into fivedistinct periods. The first period runs from 1960 to 1977 and is characterized by the most rapideconomic growth that Bolivia has experienced. It is followed by the second period of debt crisisand hyperinflation, which runs from 1977 to 1986. The third period is a slow recovery that extendsfrom 1986 to 1998. The fourth period is the 1998–2002 financial crisis. The fifth and final periodstarts in 2002 and runs to 2017. This period is characterized by growth—although not as rapid asthat from 1960 to 1977—and, starting in 2006, by an increase in the participation of the state inthe economy through the nationalization of enterprises in key economic sectors.We develop a narrative for the uneven economic development depicted in figure 1 thatfocuses on monetary and fiscal policies, particularly on the external debt and the finances of stateowned enterprises. Our narrative is compatible with other theories for Bolivia’s unevendevelopment. The most common narrative for Bolivia’s economic problems stresses that thecountry’s continuing dependence on the export of a few natural resources makes its economysensitive to external shocks (see, for instance, Peñaloza Cordero 1985). Tin has accounted for atleast 50 percent of total exports from 1904 to 1985. After a short period of export diversification,natural gas has accounted for at least 40 percent of total exports at the end of the twentieth centuryand throughout the twenty-first century. Many economists have stressed the country’s dependence1It is difficult to compare GDP per capita in Venezuela with that in Bolivia. The International Monetary Fund’s WorldEconomic Outlook Database estimates that GDP per capita in Venezuela was USD 12,388 in 2017, compared to USD7,543 in Bolivia, but the Venezuelan number is subject to a lot of uncertainty. The World Bank has not been willingto publish any estimates for Venezuelan GDP per capita since 2014.1

on foreign aid, in terms of debt, grants, and foreign direct investment (Huber Abendroth et al.2001; Peres-Cajías 2014). Other economists point to the low level of industrialization (RodríguezOstria 1999; Seoane 2016). Production of manufactured goods has been stagnated at about 15percent of GDP since the early 1940s.Although these narratives differ in their focus, they agree that government intervention inthe economy has been the driving force in either promoting or impeding economic development.This government intervention took the form of intervening excessively in production activities inthe 1960s, 1970s, and recently, and took the form of intervening in the allocation of resourcesthrough regulations in the 1990s and early 2000s. Given this common agreement about thecentrality of government policies, we stress the need for a comprehensive analysis of these policiesthat focuses on the government’s intertemporal budget constraint.A special feature of Bolivia s modern economic history is that it has received subsidizedloans. It has also defaulted frequently. Although it has been in default on some loans during everyyear in the period 1960–2009, Bolivia nevertheless has continued receiving loans. In fact, it is theonly country in South America that has benefited from the joint International Monetary Fund–World Bank programs to reduce the debt of very poor countries: the Heavily Indebted PoorCountries (HIPC) Initiative and the Multilateral Debt Relief Initiative (MDRI).Our general argument runs as follows: After the economic reforms that followed theNational Revolution of the 1950s, Bolivia was well positioned for sustained growth. Indeed,Bolivia achieved unprecedented growth during the period 1960–1977. Mistakes in economicpolicies, especially the rapid accumulation of debt seen in figure 2, which was due to persistentdeficits, coupled with a fixed exchange rate policy during the 1970s, led to a debt crisis that beganin 1977. From 1977 to 1986, Bolivia lost almost all the gains in GDP per working-age person thatit had achieved from 1960 to 1977. In 1986, Bolivia started to grow again, albeit slowly,interrupted only by the financial crisis of 1998–2002, which was the result of a drop in theavailability of external financing. Bolivia has grown since 2002, but government policies since2006 are reminiscent of the policies of the 1970s that led to the debt crisis. Particularly troublinghave been the accumulation of external debt and the drop in international reserves due to a de factofixed exchange rate since 2013.As figure 3 shows, Bolivia has experienced only one period of hyperinflation, whereasother countries such as Argentina and Brazil have experienced multiple episodes of2

hyperinflation.2 In contrast to Argentina and Brazil, Bolivia adopted a fixed exchange rate policyover long periods, which has allowed it to maintain inflation at low levels.We carry out a systematic data analysis of Bolivian monetary and fiscal policies and theireffects on the economy. We use Kehoe and Prescott’s (2007) growth accounting analysis toidentify the real impact of government policies, and we use Kehoe, Nicolini, and Sargent’s (2010)government budget accounting analysis to identify changes in government policies.In section 2, we perform the growth accounting analysis. Section 3 describes the differentperiods or cycles of Bolivia’s modern economic history between 1960 and 2017. In section 4, weperform the budget accounting analysis. In section 5, we present our conclusions. We also providean appendix in which we present a brief historical overview of Bolivia’s economic history before1960, focusing on the National Revolution of the 1950s and its aftermath.2.Growth accountingFigure 4 summarizes the macroeconomic history of Bolivia from 1960 to 2017 with the results ofa growth accounting exercise based on those in Kehoe and Prescott (2007). We use a CobbDouglas production function for real GDP:Yt At Kta L1t-a ,(1)where we cumulate investment deflated by the GDP deflator to measure capital and number ofworkers to measure labor. We employ a value of 0.42 for the capital share in the productionfunction, following the estimate of Machicado (2012).3The capital stock series is calculated using the perpetual inventory method, based on thelaw of motion for capital,Kt 1 (1- d ) Kt It ,(2)where is the depreciation rate that we assume is equal to 0.05, a standard value for yearly data.Our growth accounting rewrites the production function (1) as2Notice that the data in figure 3 are in terms of percentage growth factors—where the percentage growth factor is 100 percentage growth rate—rather than growth rates. This allows us to plot data with both positive and negative growthrates with a logarithmic scale. With this scale, 100 indicates a zero inflation rate or a zero growth rate of the moneysupply depending on the series.3Other estimations for Bolivia include that of Humérez and Dorado (2006) with a value of 0.35 and that of Jemio(2008) with a value of 0.69.3

a1 æYtK ö1-a æ L ö1-a ç t At çç ççç t ,Ntè Yt ø è N t ø (3)where Nt is the number of working-age persons. The advantage of this growth accounting is that, /(1 )in a balanced growth path, (Kt / Yt )and Lt / N t are constant, and growth in Yt / Nt is driven1 /(1 )by growth in At. Kehoe and Prescott (2007) apply this composition to data for the UnitedStates and use it to show that the US growth path is close to balanced: in particular, the growth inYt / Nt is close to that in At1 /(1 ) , and (Kt / Yt ) /(1 ) and Lt / N t are close to constant.In figure 4, there are four features worth noting. First, fluctuations in GDP per workingage person in Bolivia are driven mostly by fluctuations in total factor productivity (TFP). Second,during the 1960s and early 1970s, we observe a remarkable expansion in TFP that is almostcompletely lost during the debt crisis period. Third, although there was devaluation in 1972 and1973, TFP continued growing; it is in 1978 that it starts to fall. Fourth, TFP falls in 1999 to 2001because of the financial crisis.The beauty of this growth accounting is that we can identify the deviations from balancedgrowth. In fact, in this paper, we attempt to relate the major deviation from balanced growth inBolivia to shocks, both internal and external, and to monetary and fiscal policy. Our hypothesis isthat Bolivia followed economic policies up through 1985 that left it very vulnerable to shocks.Starting in 1985 with its new economic policy (NPE, Nueva Política Económica), the Boliviangovernment implemented a series of reforms that successfully isolated the economy from shocks,at least until 1998.3. Periods of economic development in modern Bolivia3.1. Stabilization and growth (1960–1977)In 1956, the Bolivian government enacted the Eder Plan.4 The plan intended to reduce the liquidityavailable in the economy by cutting public expenditures and loans, and by liberalizing prices,beginning with the exchange rate and then prices for goods. The plan also modified budget4The plan was named after George Jackson Eder, an economist sent by the United States as part of the technicalassistance provided to Bolivia.4

procedures by including the deficit of public enterprises, established a mining royalty and newtariffs, and restructured the tax system.The Eder Plan planted the seeds for the rapid growth that the Bolivian economyexperienced subsequently because it managed to control inflation, reducing it from 178 percent in1956 to 11.5 percent in 1960. In fact, between 1960 and 1969, the Bolivian economy grew by 3.0percent in terms of GDP per capita, a rate higher than those of Brazil and Chile (2.6 percent).An important feature of this period is that external debt increased, mainly to financemacroeconomic stabi