What was Italy’s secret?
As inflation has been a widespread problem in Latin American countries since the 1980s, the article by Erich Spitller and Carlo Cottarelli, “Why did the Italian Stabilization of 1947 Succeed?” (June 1990) proves to be instructive.
The process of disinflation in Italy after World War II shows how inflation can be reduced in tandem with economic growth. Two comments can be made in this regard. First, in a different context, stabilization programs in Latin American countries have been characterized by demand control as a major measure for slowing the rapid inflation evidenced in various countries. Second, with the advent of the Marshall Plan, fears arose that it could cause inflation in the receiving countries. In the case of Italy, credit reduction measures were applied, and, according to the authors, this deceleration further contributed to the dampening of inflationary pressures. Two questions arise from this: Did the fact that Italy counted on strong financial support under the Marshall Plan not translate into monetary expansion? And, does this mean that external loans are not inflationary?
Martha Pantoja Lopez
Mexico City, Mexico
Mr. Spitäller responds:
Announcement of the Marshall Plan, and subsequent disbursement of funds, boosted market confidence, removed the external constraint, and strengthened the exchange rate. This helped calm inflationary expectations and, in the process, inflation. These positive developments were further aided by domestic monetary restraint, which soon put a halt to bank credit expansion. Financial support from abroad did not, therefore, spur monetary expansion. Further, the improvements in confidence, the resurgence of GDP growth, the return of positive real interest rates, and the prior removal of monetary overhang, all revived the demand for real money balances. Generally, therefore, whether an external loan is inflationary or not, depends on what happens to the domestic component of the money supply end to real money demand.
Latin America: The transition to development
Marcelo Selowsky, in his article “Stages in the Recovery of Latin American Growth,” June 1990, reduces the problems of growth to the consolidation of economic policy reforms through adjustment and external financing.
The economic history of Latin America shows that the roots behind the lack of development in these countries is much more profound and complex. The causes of their underdevelopment include the heterogeneity of economic and productive structures, the concentration and distribution of income and savings, and the uneven exchange of products, securities, and goods between rich and poor countries. Consequently, to carry out fiscal, monetary, and financial reforms, together with relieving the debt burden, is merely to attack part of the problem of growth.
I fully agree with the author that long-term growth can only be achieved through greater domestic savings, and that external borrowing should only be complementary. One of the endemic and structural ills of the countries of Latin America is the low level of gross capital formation and the high propensity of consumption. Accordingly, the necessary prerequisite for restoring growth is to increase domestic savings as the principal source of investment financing, for which, indeed, macro-economic stability and a good incentive system for private investment are needed.
While the author does emphasize the need to pass through the three stages in order to restore growth, he neglects three aspects that are fundamental in the transition to development in Latin America.
• The redistribution of income to a much broader social base in the context of structural reforms. While high inflation rates permanently distort the structure of incomes, the latter must be protected and are an essential basis for any reforms.
• Industrial restructuring to enable effective competition in international trading and attain the needed technological development.
• Subregional and regional integration to promote intraregional trade and to consolidate domestic markets.
Unrealistic assumptions on trade taxes
In her article “The Fiscal Implications of Reducing Trade Taxes” (March 1989), Adrienne Cheasty’s assumptions relating to less developed countries are unrealistic. First, import liberalization is unlikely to give rise to a substantial increase in consumption, given that imports of consumer goods are relatively less important to the total economy. While national income may be expected to increase in the long term as a result of liberalization, it is doubtful whether spending will increase proportionally.
Second, the author assumes that exporters are poor and dispersed and hence makes no distinction between exporters and producers of goods for exports.
Finally, the author fails to clearly define the goal of maintaining or increasing fiscal revenues, since trade liberalization should occur within a framework of measures for reducing the public sector’s relative impact on the economy and thus for reducing real public expenditure.
Ms. Cheasty replies:
In my article, I make the point that the effect on consumption depends on the effect of liberalization on domestic income—which could be positive or negative in the short run. In other words, I do not assume a substantial increase in consumption following liberalization. However, a small share of consumption good imports prior to liberalization may be evidence of severe demand restrictions, and hence, may lead to large inflows of consumer goods as soon as restrictions are lifted.
Mr. Paredes doubts whether spending will increase proportionately with income. All evidence, however, shows that the long-run average propensity to consume is constant.
It is not essential that trade liberalization should occur only in the context of expenditure cuts; but, if it were so, the cuts would make maintenance or an increase in revenues a correspondingly less imperative goal.
Cover art by David Wisniewski. Art on pages 26 and 43 by Eric Westbrook. Charts by P. Torsani, IMF Graphics Section. World Bank photographs by I. Andrews. IMF photographs by D. Zara and P. Hughes-Reid.