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Colombia: Economic Adjustment and the Poor

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
January 1992
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Measures to protect the living standards of low-income groups complement a sound economic strategy

In the mid-1980s, faced with a rapidly deteriorating economic and financial picture, Colombia undertook a strong adjustment program, monitored by the IMF. By putting the economy on a sounder footing, the Government felt that the population in general stood much to gain from the program in the medium run. But it also recognized the likely short-run hardships for low-income groups.

With that in mind, the Government enacted measures designed to protect lower-income groups—mainly increases in the minimum wage and the exemption of all food items from the import surcharge. As we look at the program in retrospect, the Government’s efforts to reorient the economy largely appear to have paid off. Getting hard evidence on how the “core” poor fared during this period, however, is more elusive. Nevertheless, the information available suggests that the program was probably successful in protecting the lower middle class and the working poor.

The need for a change

Colombia’s economy began to show signs of a serious deterioration in the early 1980s, when real economic growth averaged only 1.6 percent, sharply down from the 4.9 percent annual rate during 1975–80, and the public sector and balance of payments deficits widened markedly. This was due both to outside factors, principally the decline in international coffee prices, and to expansionary domestic policies.

After trying a series of piecemeal measures that did little to correct the situation, in 1985, Colombia adopted a tough reform program, relying on tight monetary and fiscal policies and a large exchange rate devaluation. It was designed to quickly restore the level of external competitiveness that had prevailed in the mid-1970s. In addition, a medium-term effort to liberalize the foreign trade regime was begun. At the Government’s request, to facilitate financing arrangements with foreign commercial banks, the IMF provided support by reviewing and monitoring the reform program. The World Bank provided adjustment loans to support the structural reforms in trade policy, agriculture, and related areas.

By realigning the relative prices of foreign and domestic goods, reducing inflation, and improving economic growth, the Government hoped to raise living standards in both the short and the long run. At the same time, however, the Government recognized that certain measures could hurt lower-income groups in the short run. These included: an increase in the cost of imports due to the large depreciation of the exchange rate and the imposition of an 8 percent import surcharge; large increases in gasoline prices and public sector tariffs; the elimination of transportation subsidies; the removal of certain exemptions from the sales tax; and a sharp reduction in real terms in the public sector wage bill.

Exactly how low-income groups would be affected, however, was difficult to predict, as the poor are by no means a homogeneous group, and there are important gaps in information about their income and expenditure patterns. Nevertheless, it appeared that the above measures could add as much as 7 percentage points to the consumer price index for low-income households during the first year of the program. This was a real concern, given that roughly 14 percent of the urban population and 31 percent of the rural population are classified as poor, using the Government’s narrowest definition of poverty (i.e., individuals whose incomes are not sufficient to buy a “basic basket” of goods).

Two caveats are in order, however. First, rural poverty may be overstated, as farmers can supplement their cash income with crops that they grow and consume themselves or barter for other goods. Second, there are important differences in poverty levels within rural and urban areas. In urban areas, for example, poverty is more prevalent in the smaller regional centers than in the large cities. In rural areas, the level of poverty is half the national average in the coffee growing areas, but double the national average in the Caribbean region where large estates predominate.

Information on sources of income is only available for the urban poor. As might be expected, most of them work in the informal sector, and as a result, close to two thirds of their income is derived from self-employment and temporary work. In rural areas, employment data suggest that about one quarter of the poor work on large farms and thus derive most of their income from wages. The rest of the rural poor, one must assume, receive their income primarily from working on their own land and from occasional jobs.

Measures to protect the poor

Given the many problems involved in designing specific measures to protect the core poor (e.g., identifying individuals, and logistic and administrative difficulties), the Government opted for measures to protect low-income groups generally, combined with an itensification of existing antipoverty programs. These took the form of:

Wage policies designed to protect the real earnings of low-income groups. The minimum wage was increased by 20 percent, in line with projected inflation for the low-income consumer price index, as were wages of public sector workers at the bottom of the wage scale despite an overall cap of 10.5 percent on the public sector wage bill. Adjustment of the minimum wage has been traditionally an important social policy tool in Colombia, a country in which wage indexation is widespread. While generally adjusted annually, the minimum wage is set at a very low level, just equivalent to the income required to keep an individual above the Government’s definition of the “poverty line.”

Although there is no direct evidence concerning the relevance of the minimum wage for the poor, recent studies indicate that the adjustment of minimum wages explains a significant portion of the increase in average wages in construction, the public sector, and the informal sector—activities in which the poor might be expected to be more heavily represented. Moreover, the adjustment of the minimum wage has apparently had a moderate, but increasing, influence on the growth of the average wage in rural areas, especially in traditional activities.

Selective exemptions from the import surcharge. A number of goods were exempted from the 8 percent surcharge, most notably food and fertilizers. There are no data on the importance of imports and imported production inputs in the food consumed by low-income groups. However, this measure, although not well targeted, was intended to mitigate the effect of the surcharge on low-income groups.

Antipoverty programs. The Government also continued to channel resources into one of its core poverty alleviation programs—the DRI (Program for Integrated Rural Development)—which concentrates on providing basic services and financial resources to small farmers. After 1986, a number of other antipoverty programs were launched, including:

  • The PNR (Plan for National Rehabilitation)—a program that focuses on providing the basic necessities for the poorest 10–12 percent of the population, and includes land distribution, improvements in infrastructure, and enhanced public services; and

  • The HBI (Better Homes for Children)—an innovative and successful World Bank-supported program that combines supplemental feeding and day care for children in poor communities with the education and training of their mothers.

How the poor fared

Most of the major objectives of the 1985 adjustment program were either achieved or exceeded. Real GDP rose by 3.1 percent, inflation was only slightly higher than targeted, and the unemployment rate stabilized at the 1984 level. On the external side, competitiveness was restored, as the exchange rate depreciated by 22 percent in real terms against the currencies of Colombia’s main trading partners and by 50 percent against the US dollar.

External conditions shifted once again in 1986, due to the recovery of international coffee prices. The Government’s main concern was to consolidate the gains made in 1985 and to prevent the surge in coffee earnings from leading to higher inflation. As a result, the 1986 program concentrated on further reducing the fiscal and external deficits, preventing the exchange rate from appreciating, and continuing with the gradual liberalization of foreign trade. The combination of the coffee boom and prudent domestic policies helped to eliminate the fiscal and balance of payments deficits in 1986. Real GDP grew by 6 percent, inflation was reduced, and real wages and employment recovered strongly.

What did this mean for low-income groups? With the data available, it is difficult to trace exactly how the poor were affected and which segments did better than others. Nonetheless, data on the evolution of income distribution in urban areas show that, over the period 1983–85, those in the lower middle class (i.e., those in the second to the bottom income bracket) improved their position relative to other groups, while those in the lowest income bracket lost ground (see table).

Steps to protect the low wage earners were critical. Given that the consumer price index of low-income groups rose by 22.7 percent in 1985, those receiving the minimum wage and lower-level public sector workers were thus relatively well protected from the price increases by the government’s wage policy. This compares with typical reductions in the inflation-adjusted wages of those in other sectors of around 4.5 percent. In 1986, under the influence of the coffee boom, real wages for the poor and nonpoor alike recovered strongly.

Colombia: evolution of income, 1983—881(As percent of total)
Assignment of changes in income distribution
Income distribution1983–851985–88
Income percentile198319851938GainersLosersGainersLosers
1–257.16.87.515.264.1
26–5014.515.015.229.321.4
51–7521.320.720.638.414.527.0
76–9021.821.120.640.949.9
91–9511.611.511.55.52.9
96–10023.824.924.770.720.2
Total100.0100.0100.0100.0100.0100.0100.0
Gini coefficient20.430.450.44
Source: Moreno. A.. ‘La Distribución del Ingreso Laboral Urbano en Colombia, 1976–88,” Desarrollo y Sociedad, No. 2i (September 1989), Table 5.

Trying to trace the impact of the adjustment measures on the position of low-income groups in the medium run, however, is complicated by the sharp recovery of coffee prices in 1986. Although hard evidence is lacking, it would seem that the adjustment measures, particularly the realignment of the exchange rate, placed the economy in a better position to benefit from the subsequent coffee boom and to maintain balanced growth in the longer run—a development that would improve the position of all income groups, and the poor in particular. The income distribution data in the table indeed suggest that between 1985 and 1988, the position of those in the bottom 50 percent of the income scale did improve, and this improvement was most noticeable for those in the lowest income group. Thus, the strategy of putting the economy back on the right track with sound macroeco- nomic policies, together with specific measures to help low-income groups, appears to have paid off.

Claire Liuksila

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