Held in Mangaratiba, Rio de Janeiro, under the sponsorship of the International Monetary Fund, the Central Bank of Brazil, and the Catholic University of Rio de Janeiro, this seminar brought together a large number of economists from different countries and institutions. The purpose was to discuss policies for sustained growth based on recent Latin American experiences. Although, at the time of the seminar, some economies—particularly that of Brazil—could not yet be deemed successful in their efforts to achieve price stability, the discussions centered on themes considered pertinent to the consolidation of stability and the recovery of growth.

Held in Mangaratiba, Rio de Janeiro, under the sponsorship of the International Monetary Fund, the Central Bank of Brazil, and the Catholic University of Rio de Janeiro, this seminar brought together a large number of economists from different countries and institutions. The purpose was to discuss policies for sustained growth based on recent Latin American experiences. Although, at the time of the seminar, some economies—particularly that of Brazil—could not yet be deemed successful in their efforts to achieve price stability, the discussions centered on themes considered pertinent to the consolidation of stability and the recovery of growth.

The first paper, by Ricardo López Murphy, looks at the general characteristics of recent stabilization programs in Latin America. Next, Edward Amadeo discusses distributive and social costs associated with the stabilization process. Thus, these first two papers address the specific themes of overcoming the inflationary episodes that all Latin American economies have experienced in recent decades.

The following papers are dedicated to the themes of the institutional reforms associated with stabilization. Roberto Steiner discusses financial liberalization and international capital flows. Tomás Baliño analyzes the problems of coordinating monetary and fiscal policies within a framework of enhanced central bank independence. Parthasarathi Shome examines recent trends in the fiscal area. Sebastián Edwards concludes with a discussion of trade liberalization and industrial policy.

These are rich, complex, and highly relevant themes, and the discussants do not claim to have exhausted them. The papers are, however, of fundamental importance to the discussion of the still incomplete process of stabilization undertaken in the aftermath of the inflationary crises in the Latin American economies in the 1980s. They are required reading for anyone wishing to understand the themes associated with the consolidation of price stability.

The panel discussions were extraordinarily vibrant and rich. The moderator had the difficult task of ensuring that the time frames, always insufficient, were at least minimally respected. The inevitable impression that the discussions could have been prolonged with no loss of interest is made easier to accept only when one recalls that there will be other opportunities to continue them within the cycle of debates periodically sponsored by the International Monetary Fund.

An even harder task was to prepare a summary worthy of the discussions. The feeling that much has been left aside grows into certainty. The summary that follows can only be a pallid attempt to summarize the wealth of the debate. With no intention of reconstituting the debates or obviating the reading of the papers, I have tried to set out the general lines of the discussions. To avoid even greater unfairness in capturing the richness of the arguments raised by each of the participants, I have opted to provide a general overview of the various arguments. Despite the moderator’s efforts to remain neutral, the result is inevitably subjective. I have tried to avoid at least what one of the participants described at the end of the meeting as “the risks of an excessively Brazilian vision” of the Latin American experience.

Pillars of the Stabilization Program

There is a consensus today on what could be termed the four great themes, or pillars, of price stabilization programs. These are, first, reestablishing fiscal equilibrium; second, overcoming chronic inflation inertia; third, implementing institutional reforms; and, finally, recovering credibility.

Eliminating the fiscal deficit was unanimously seen as a fundamental condition for the success of a stabilization program. Two aspects of the fiscal balance requirement deserve mention. The first is the definition of the deficit itself. It should not be restricted to the treasury’s budget deficit. The deficit must be viewed in its broad sense, encompassing all spheres of government, the social security system, and financial and nonfinancial public companies. The second aspect is the distinction between transitory balance and permanent balance. To re-establish permanent fiscal balance is crucial. Sustained price stabilization requires that intertemporal fiscal balance be achieved. It is not sufficient to generate a temporary fiscal surplus through transitory efforts to cut expenditures and increase revenues. These efforts are perceived to be unsustainable over the longer term. Already, the complex question of credibility, which permeates the entire theme of stabilization, comes to the fore.

Still on the theme of fiscal equilibrium, an important question has recently been raised. It deals with the functionality of inflation in reducing the deficit. According to the well-known “Tanzi effect,” fiscal revenues are reduced when inflation accelerates because of the erosion of the real value of revenues between the moment the tax is due and the moment it is effectively collected. However, a recent line of argument states that, after many years of chronic inflation, the combination of indexed fiscal revenues and shorter periods between the moment the tax is due and the moment it is collected creates what could be termed an “inverted Tanzi effect.” Fiscal revenues would be sufficiently indexed so as to be relatively immune to any significant degree of inflationary erosion. Government would, on the contrary, use inflation to reduce the real value of approved budgetary expenditures by postponing their release. In this case, a sudden reduction of inflation would increase the fiscal deficit, instead of reducing it as the Tanzi effect would suggest. According to this hypothesis, inflation helps a politically weak government, incapable of imposing, a priori, a balanced budget to reduce the ex post budget deficit. Although certainly controversial, the hypothesis was considered relevant for countries that have been exposed to long periods of inflation, have developed sophisticated indexation mechanisms, and have been saddled with weak governments in the face of a congress with power over the budget. Brazil and Israel are examples of countries where these conditions have prevailed.

Insofar as the second pillar of price stabilization—overcoming inflationary inertia—is concerned, there is a reasonable degree of consensus. Deep-rooted inflation, including moderate but chronic inflation, demands measures aimed at eliminating the inertial element of generalized price increases. Here, a distinction should be made. There are countries that have developed formal and informal indexation but are still using the national currency as a means of payment; there are also countries nearing open hyperinflation in which currency substitution has reached a significant degree. These circumstances have different implications and require distinct therapies.

The third theme is that of institutional reforms. Four great reforms were emphasized and unanimously accepted as fundamental to stabilization programs: trade liberalization, international financial integration, privatization, and, finally, the creation of a more independent central bank.

The complex and elusive theme of reclaiming credibility is the last of the four great stabilization topics. Once more, there is a solid consensus on the importance of credibility but a great deal of difficulty in defining the conditions capable of guaranteeing it. Credibility seems to be associated with the three great themes treated above, particularly with that of institutional reforms. An inflexible institutional structure that would grant independence to the central bank, or the extreme case of a “currency board,” would seem to contribute to regained credibility. But here the discussion takes on a polemical character. It was stressed that the homogeneity of the government team and, more specifically, of the team responsible for economic policy was important to credibility. The importance of policy continuity was also stressed. Above all, the importance of a conviction within society that stabilization is a national priority emerged as the main determinant of credibility. Society’s option for stabilization based on the conviction that inflation has become fundamentally dysfunctional is the single most important determinant of credibility, without which stabilization is not possible.

A fifth theme was briefly discussed. It is whether stabilization requires or is facilitated by an authoritarian political system. Although the question is complex, it seems that society’s conviction as to the need for stabilization weakens in the face of the suggestion that authoritarian regimes are necessary to the stabilization process.

The panel that followed upon the opening session examined these major themes.

Social Costs of Stabilization

What are the social and distributive costs of stabilization? Experience demonstrates that the recessive or distributive costs of the period immediately after the reduction of inflation are low or nonexistent. There is no evidence of recession or of a significant worsening of income and wealth distribution in the immediate aftermath of stabilization. Quite the contrary, stabilization generates increased consumption, recovery of investments, and a strong growth surge. Although a consensus existed in this regard, Amadeo questioned whether the costs had not been incurred previously. The debate called attention to the fact that, once the question is formulated in this manner, the analysis runs the risk of confusing the costs of high inflation—recognizably high—with the costs of stabilization. There was unanimity with respect to the perverse social and distributive effects of inflation. The brutally regressive character of the inflationary tax was insistently recalled. The fact that stabilization does not eliminate poverty cannot be used as an argument against stabilization, just as it does not permit one to conclude that stabilization causes poverty. In order to judge stabilization from the point of view of equity and social justice, one must compare it with the alternative of not pursuing stabilization. The consequences would be unmistakably worse.

Tax Reform and Stabilization

Recent tax reform trends in Latin America were discussed next. From the more aggressive cases, such as the Argentine experience, to the more gradual reforms, as carried out in Colombia, the reforms were geared toward simplification. The tax systems that emerged from these reforms are less sophisticated and conceptually more rudimentary than the ones that preceded them. They are based less on direct taxes and more on indirect taxes. For practical reasons, there has been a tendency to reduce income tax rates and broaden the range of exemptions in all Latin American countries. Direct taxes are operationally more complex and more expensive to collect. With respect to the income tax, the motivation has been “let’s not worry the small taxpayer,” for whom collection costs are excessively high. The overriding emphasis of the reforms has been on simplification and the reduction of collection costs. The neutrality and equity aspects of the value-added tax were questioned and the tax proposed as the theme of future analyses.

The fiscal reforms of the stabilization programs, which can be characterized as emergency measures, were considered far from adequate. Innumerable difficulties remain to be solved. The social security system is the first one. It is a broad and complex question that must be an essential element of future discussions. Among the other thorny issues raised were the questions of federalism; the distribution of revenues and responsibilities among the various levels of government; fiscal incentives, exemptions, and waivers; and the challenges created by the irreversible trend toward internationalization and economic integration. The discussion went on to encompass the question of how to tax primary products, which are still so relevant to Latin American countries.

The panel came to an unequivocal conclusion: recent tax reforms have been implemented with the limited objective of price stabilization. Much remains to be done. A careful analysis of how to act with respect to tax matters is imperative.

Trade and Industrial Policies

Trade and industrial policies were the next theme. Since the mid-1980s, Latin American countries have undertaken the unprecedented process of unilateral trade liberalization. The elimination of quantitative restrictions was followed by across-the-board reductions in import tariffs. The early experiences, such as Chile’s, have been very successful. Costs in terms of industrial output and employment were much lower than initially feared. Consequently, the more recent experiences of Brazil and Colombia were implemented at a faster pace than the earlier programs. The chronological sequence once considered imperative—stabilization, followed by trade liberalization, and, finally, financial liberation—now seems open to question. The Brazilian case stands as evidence that there is no rigid chronological order because trade and financial liberalization started well before inflation could be said to be under control.

The topic is still being hotly discussed. There is considerable disagreement on the effects of trade and capital account liberalization on productivity. The difficulty of measuring productivity gains adds to the difficulty of the discussion. The Mexican case is cause for some perplexity. At least from the point of view of the economy as a whole, significant gains were not achieved. Some would even question whether any productivity gain at all was attained.

A comparison was drawn between the Latin American industrial policy experience of the last three decades and the highly successful experience of the countries of Southeast Asia. It was argued that Latin America attempted to combine stimuli specific to particular industries, sectors, or technologies, with a generalized system of tariff protection for domestic industry. The successful policies adopted in Southeast Asia were quite different. More generalist policies were used to promote exports. The decision as to which industries and technologies had comparative advantages, and what would actually be exported, was left to market forces.

No definitive conclusions were drawn in this regard. Trade liberalization is no panacea and does not necessarily substitute for an indicative industrial policy. However, because liberalization exposes inflationary and excessively protected economies to foreign competition, it is a fundamental element of stabilization. But even though most participants agreed with this statement, some participants called attention to the fact that liberalization had occurred within a favorable international economic environment. According to them, those years were marked by abundant foreign credit and the absence of adverse external shocks.

The compatibility of regional trade agreements with multilateral trade liberalization was questioned. It was recalled that the trade unions in industrial countries might bring pressure on Latin America to impose certain standards of “ecological correctness” that could well be extremely burdensome. It was also argued that, given a rigid structure of wage and exchange rates, trade and financial liberalization could aggravate adverse external shocks. These arguments are not new. Some participants argued that the unusually favorable environment of recent years has given rise to an excessive optimism in relation to the risks inherent to trade and financial liberalization.

Financial Liberalization

The opening of capital accounts and international financial integration are today a reality. In recent years, capital flows to Latin America have been abundant. Against this background, two major questions were discussed. The first one was whether these flows were permanent or transitory. The second one was whether these capital flows were driven mainly by internal attraction or by external expulsion. The predominant view was that capital flows are transitory—at least at current abundant levels—and that external factors are dominant or at least as important as internal factors.

The old distinction between speculative flows and long-term investments was considered pertinent and still deserving of attention. Mention was also made of the distinction between flows mediated by the banking system—such as those that preceded the foreign debt crisis of the 1980s—and the more recent flows, dominated by securitization and stock markets. However, no consensus was reached as to whether this distinction was relevant or had major implications.

The fact that deficit and surplus countries must adjust their current accounts over the course of time was recalled. Consequently, interest rates in industrial countries should rise in relation to the levels of recent years, and the flows of foreign capital to Latin America should decline. The relevant question is just how traumatic will be the landing forced by the reduction—or the end—of these flows.

Countries’ experiences with a fixed exchange rate—using the gold standard or currency boards—were the subject of much controversy. It was argued that the convenience of adopting a fixed exchange regime was intrinsically linked to the abundance of external capital flows. Recent experiences were greatly facilitated by the abundance of capital and the absence of external shocks. There was, however, considerable wariness with respect to the ability of fixed exchange regimes to adjust to a reversal of foreign capital flows or to a deterioration in the conditions of the world economy.

A fixed exchange rate regime and financial liberalization require the abdication of any active monetary policy and—when taken to the limit of the currency board—of the right to have a lender of last resort. It was argued that to eliminate risks of financial distress, countries would additionally have to abdicate having a national banking system. Most participants considered that this would be terribly difficult to justify.

Central Bank Independence and Policy Coordination

The discussion of exchange and monetary regimes leads to the topic of the structure of the monetary authorities and to the final theme of the seminar: central bank independence and monetary and fiscal policy coordination. The need for coordination is self-evident. The compatibility of monetary, exchange, and public debt policies would not even be a subject of discussion were it not for the recent trend—some would term it a fad—to emphasize central bank independence.

What do we mean by “independence”? First, it was argued that there is a lower correlation between formal, or legal, independence and practical independence of central banks than one would suppose. There is, however, a positive correlation between formal independence of the central bank and an enhanced fiscal austerity and lower rates of inflation. The direction of this causality was questioned. Is it the formal independence of the central bank that leads to fiscal discipline and price stability? Or is it the opposite? Isn’t it true that countries that have made the political choice to adjust and stabilize have, a posteriori, instituted formally independent central banks?

Once more, there was a high degree of consensus as to the conclusion that central bank independence—no matter how one may define the term—is not a panacea. However, it was agreed that the central bank must have a single, well-defined objective: to preserve the stability of the national currency. This is essential for credibility. It was questioned whether “lack of independence” might not be the more correct expression, because the central bank, under this definition, actually has less freedom.

The relevant alternative is not between “dependence” and “independence,” but rather between rules and discretion. The advantages and disadvantages of a central bank with no freedom to deviate from a strict policy in defense of the purchasing power of the national currency were discussed. Would it be desirable to simply abandon the idea of a central bank and adopt a currency board? On this subject, the discussion was heated and opinions divided. However, even those who defend the currency board recognize that it is not the ideal regime. They argue that its complete lack of flexibility is the price to pay for regaining the credibility lost after many years of fiscal and monetary irresponsibility. It is, therefore, important to distinguish between the ideal system and the necessary system until the price stabilization is consolidated.

There was general agreement that central bank independence cannot, by itself, ensure stability. On the contrary, if independence were to mean a lack of coordination between monetary, fiscal, and public debt policies, it could be extremely costly. A central bank institutionally protected from circumstantial political pressures was, however, unanimously considered a sign of the political decision to stabilize. It is, therefore, an important factor in the effort to recover credibility.

Finally, it was noted that recent experiences in Latin America with independent central banks have not yet been submitted to the test of adverse circumstances. They have neither seen a period of adverse external shocks nor had to cope with the fiscal policies of populist governments uncommitted to price stabilization or with a crisis in the domestic financial system. Consequently, definitive conclusions cannot yet be drawn.