Bulmer-Thomas V., Coatsworth J., Cortes-Conde R. The Cambridge Economic History of Latin America: Volume 2, The Long Twentieth Century
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232 Roberto Cort
´
es Conde
those rents, also help them through externalities (infrastructure) or sub-
sidies. The assumption was that capital formation would result from the
reinvestment of these extraordinary profits (economic rents), allowing sus-
tained economic development. However, these goals were not attained
because those who received the rents did not reinvest them, especially in
countries where such privileges were thought not to last long (because of
the growing and sustained struggle over income distribution caused by the
government-induced changes in relative prices).
Difficulties in obtaining financing and large fiscal deficits led to repeated
crises, followed by devaluations and reforms aimed at balancing fiscal
accounts and the external sector and at stabilizing currencies. By the end
of the 1950s and the early 1960s (toward the end of the 1960sinMexico),
it was no longer possible to obtain financing from the appropriation of
savings by means of monetary and exchange mechanisms, which now had
serious inflationary consequences. Appropriation of the natural resources’
rents through controls with multiple exchange rates also led to crises in
the balance of payments, which interrupted growth, and depreciations,
which contributed to a marked monetary instability. In turn, all this led
to the implementation of reforms aimed at recovering fiscal and monetary
balance, as well as an improvement in the external accounts.
In Argentina, imbalances had a strong impact on the foreign sector, where
a first payment crisis occurred in 1949,tobefollowed by a more serious one
in 1951–2, complicated by the weather conditions that produced two crop
failures. The government was forced to implement a stabilization plan.
Until 1964, the Brazilian government was able to collect the inflation tax,
keeping inflation over 20 percent in the second half of the 1950s. Serious
fiscal imbalances led to a second episode of high inflation at the beginning
of the 1960s. High inflation caused a demonetization of the economy – that
is, a drop in the actual amount of money, both monetary base and deposits.
In 1945, the monetary base was more than 20 percent of the GDP, but had
fallen to 10.5 percent in 1964.
In 1958, under President Kubitschek, a Plan of Monetary Stabilization
was implemented as an answer to inflationary pressures in the foreign and
public sectors. The reforms failed to replace the tax structure based on
foreign trade that had existed up to the 1930s. It proved impossible to come
to an agreement on a new tax regime and the resulting imbalances were
large.
Although state intervention in the industrialization and growth process
was not abandoned, it became necessary to find other sources of capital
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Fiscal and Monetary Regimes 233
formation. This meant opening the economies to capital inflows and, con-
sequently, to foreign trade. To do this, the Latin American governments had
to achieve a modicum of fiscal and monetary stability, a goal that remained
unfulfilled for two more decades.
Powerful vested interests had developed that were reluctant to embrace
changes that implied a loss of the privileges they had acquired through
changes in relative prices, protection, and subsidies. Simultaneously, a social
transformation had taken place that resulted in huge urban concentrations
(in Mexico City, Rio de Janeiro, S
˜
ao Paulo, and Buenos Aires, the popu-
lation was more than 10 million), implying greater political participation
and popular pressure on governments, a phenomenon unknown to prewar
Latin America. The new tax structure had to be adapted in the middle
of extremely complex conditions. For this reason, during the 1960s and
1970s, ambition was limited to reducing the imbalances and to handling
expenditures more carefully with the aim of avoiding an excessive closing
of the economy.
To the powers of the Central Bank to preserve monetary stability, the
1946 reform in Argentina added other objectives such as to expand the
economy and to maintain employment. It also decreed that private banks’
deposits should be nationalized and that these banks should operate from
then on as agents of the Central Bank. The latter was to remunerate pri-
vate banks for the deposits it received from them; it would in turn grant
rediscounts so that banks could give credits and would collect interest from
them. The Central Bank recycled private savings to favored banks – mainly
official ones – with the peculiarity that it lent this money at nominal rates
below inflation, which meant an assignment of income from creditors to
debtors. Rediscounts surpassed deposits systematically, turning themselves
into a significant money creation, and feeding the inflation of those years.
Rediscounts, which surpassed deposits by 17 percent in 1947,exceeded them
by 70 percent in 1956.
35
In Brazil, throughout the whole period (1945–60), money emission was
huge. A nonconvertible paper-money system ruled, and the Banco do Brasil
enjoyed the issuing monopoly. The local currency devalued by 9,700 per-
cent. Prices rose 7,000 percent in this fifteen-year period (in contrast to 80%
in the United States).
36
At first, under an exchange control regime and with
a significant gap between the official and the black-market exchange rates,
35
Aldo Arnaudo, Cincuenta A
˜
nos de Pol
´
ıtica Financiera Argentina (Buenos Aires, 1987), 56.
36
Goldsmith, Desenvolvimento Financiero, 250.
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234 Roberto Cort
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the government maintained an overvalued currency, affecting imports and
the balance of payments. The money supply increased by 26 percent per
year between 1946 and 1964, although at a varying pace. During the first
half of the period (1946–56), it grew at a yearly 16 percent; in the second
half, at 49 percent; and in the last three years, at 75 percent. The increase
was mainly caused by a rise in the monetary base. This was lower at first,
but grew enormously during the 1960s.
In Mexico, the economy underwent a monetization process after the end
of the revolutionary period. Money supply was boosted after 1925, when
the Bank of Mexico was created, and again from 1932, when wages started
to be paid in paper money. Checks against bank deposits became a more
usual means of payment. The budgetary balance, reached after the 1954
devaluation, limited the internal causes of monetary expansion until 1959,
with deficits below 1 percent of the GDP.
37
The reserves’ fluctuations were
the most significant factor in money creation, followed by credits to the
private sector.
The economy became more and more monetized. The stock market did
not play a significant role and most of the transactions were related to
government bonds. The share of floating interest bonds was low, at least
until 1960.Between 1955 and 1960, the Bank of Mexico reduced its bond
holdings, as a way to contract the money supply, whereas private banks and
individuals increased theirs.
38
The Bank of Mexico resorted to the legal
reserves’ mechanism in order to route credit and to compel other insti-
tutions to finance the fiscal deficit through the purchase of public bonds.
During this period, financing institutions appeared and gradually came
under the Bank of Mexico’s regulations. Private credit also began to flour-
ish. During the 1950s, financing institutions grew more than deposit and
savings banks (which had had their golden age during the 1940s), because
they could offer more profitable and liquid instruments, which became
popular among savers. Moreover, these institutions were less affected by
the limitations imposed by the Bank of Mexico on the use of funds than
most private credit institutions.
After 1954,asharp devaluation in exchange rate stability (1 dollar =
12.5 pesos) contributed to a significant capital inflow that came to finance
the private sector, relieving the state from such tasks. Mexico also had an
37
C
´
ardenas, La hacienda p
´
ublica.
38
Dwight Brothers and Leopoldo Sol
´
ıs, Evoluci
´
on Financiera de M
´
exico (Mexico City, 1967), 60–5 and
90–2.
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Fiscal and Monetary Regimes 235
important source of reserves derived from transactions in the U.S. border
area, and from tourism.
In Mexico, the main public credit institution was the Nacional
Financiera, which managed (and guaranteed) international loans and a great
number of funds and special trusts for different sectors.
39
Most resources
from the national credit institutions were devoted to financing industrial
and agricultural activities, although loans granted to small companies, for-
eign trade, construction, and public utilities were also significant. The
Banco Nacional de Cr
´
edito Ejidal,theBanco Nacional de Cr
´
edito Agr
´
ıcola,
and the Banco Nacional Agropecuario were aimed at the agricultural sector,
which received special support.
40
In Brazil, the Superintendencia de Moneda y Cr
´
edito (SUMOC) was cre-
ated in 1945 and added to two monetary agencies: the Carteirade Redescuento
(CARED) and the Caixa de Mobilizac¸
˜
ao Bancaria (CAMOB), already exist-
ing in the Banco do Brasil. The new agency, linked to the Secretary of
Finance, was created to implement monetary policy and check inflation. It
was granted powers to establish the requirements for opening new banks
and set legal banking reserves. CAMOB assisted commercial banks by
granting liquidity. It did so by discounting the short- and medium-term
bonds banks had in their portfolios. CARED assisted them in the short run,
contributing to increased means of payment and speeding up inflation.
41
growth and stabilization efforts: 1960–1980
As deficits, imbalances, and crises accumulated, even the least inclined
Latin American governments were forced to adopt measures to restore
balance: reduction of expenditures (mainly investments) and credit restric-
tion. These measures had recessive consequences and forced changes in
relative prices, which raised strong opposition. Mexico, with its long period
of “stabilizing development,” was a different case, because it avoided the
inflation that destabilized other countries.
Confrontations over who had to pay for industrialization and a more
equal income distribution were stronger in those countries where social
development was more advanced and industrializing processes had culmi-
nated in huge urban concentrations. Distributive conflicts leading to the
39
Ibid., 41–2.
40
Antonio Ortiz Mena, “El desarrollo estabilizador: Reflexiones sobre una
´
epoca,” E.T.E Nro
◦
146,
(M
´
exico City, 1970), 431.
41
Pel
´
aez and Suzigan, Hist
´
oria Monetaria, 238.
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236 Roberto Cort
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outbreak of a war of attrition between opposing sectors – similar to the
one Europe had gone through in the 1920s–developed during the Cold
War. Rulers with populist tendencies became suspect as potential allies of
those that threatened the stability of the hemispheric coalition headed by
the United States. That led, in different moments, to military interventions
(in Brazil in 1964 and Argentina in 1966), very often marked by the need to
adopt adjustment measures backed by some sectors and resisted by others,
creating deeply conflictive situations that were arbitrated by the military in
Argentina, Brazil, Chile, Peru, Bolivia, and Uruguay, among others.
In Brazil, several anti-inflation stabilization programs were adopted in
the decade after 1953, but none worked for more than a short time.
42
In
the early 1960s, problems caused by growth based on financing through
inflationary taxes led to a severe crisis in the balance of payments. In 1964,a
unilateral default on foreign liabilities was declared. The economic situation
was worsened by a political crisis and by the confrontation between the
left and the right, all in the middle of the tense Cold War climate that
had reached the South American continent. To avoid the victory of the
left and reorganize an increasingly chaotic economy, in March 1964, the
military seized power. The new regime, headed by General Humberto
de Alencar Castello Branco, set out to fight inflation and reach balance
of payments equilibrium, considered necessary conditions for sustained
growth. Inflation was deemed to be the result of demand pressures caused
by the fiscal deficit, the huge private sector debt, and excessive wage rises
(public sector included). It was decided to contain expenditure, curb private
sector credit, and reduce wages. The International Monetary Fund (IMF)
suggested a shock strategy, but Finance Minister Roberto Campos chose a
more gradual approach that reached some of the same goals by reforming
the inefficient tax system, centralizing and increasing the federal share, and
avoiding the erosion imposed by inflation on tax collection. To that effect,
a 1964 law applied a monetary correction factor to taxes. This, together
with a better organized tax collection, allowed an increase in revenues of
3.4 percent at all levels of government, from 15.2 percent of GDP in 1964 to
18.6 percent in 1966.
43
The budget deficit fell because of both a decrease in
expenditure, which went from 12.4 percent of GDP in 1964 to 11.2 percent
in 1967, and the reduction of public sector wages.
42
Thomas Skidmore, The Politics of Military Rule in Brazil 1964–85 (New York, 1988), 33.
43
Goldsmith, Desenvolvimento Financiero, 486.
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Fiscal and Monetary Regimes 237
Nonetheless, during its first years, the military regime’s efforts to contain
expenditure were unsuccessful. The budget was finally balanced, but this
was misleading, because the public sector now included not only the gov-
ernment but also a large number of public enterprises, and an important
quasifiscal cost generated by the Central Bank.
44
The deficit did fall from
more than 4 percent of GDP in 1963 to approximately 1 percent in 1966.
Even so, the government, which had seen its liabilities eroded by inflation
(which beyond a certain level substantially reduced the inflation tax), had to
resort to another instrument: indexed debt issues. At first, this widened the
debt market (because it eliminated the fear of capital loss through inflation)
but, unlike the inflation tax, it imposed a heavy interest burden at constant
prices. Thus, the deficit was no longer financed by money emission but by
selling debt securities.
45
In Brazil, in 1967,anew customs system was established with a big tariff
reduction, though industries continued to be highly protected.
46
Mone-
tary correction clauses were applied to public debt issues, with which the
government tried to replace inflationary financing. From 1964 on, national
treasury liabilities, or ORTN (National Treasury Adjustable Bonds), were
issued with indexation clauses and became the basis of government financ-
ing in this period.
From 1967 on, with a healthier fiscal situation, fiscal incentives in Brazil
were introduced as a part of the government’s industrial policy, with an
emphasis on exports. In 1973, subsidies represented 21 percent of the effec-
tively collected income.
47
These policies would have consequences for the
fiscal deficit and public debt.
48
Indexation mechanisms reduced the infla-
tion tax collected by the public sector (or by the finance system on deposits
at sight). The inflation tax, representing more than 4 percent of GDP in
the first part of the 1960s, went down to 1 percent and 2 percent.
49
The
total financial transfers went down from levels higher than 7 percent of
GDP to around 3 percent.
44
Goldsmith, Desenvolvimento Financiero, 483
45
Andr
´
e Lara Resende, “Establizac¸
˜
ao e Reforma: 1964–67,” in AOrdem do Progresso, 218.
46
Luiz Correa do Lago, “A retomada do crescimento e as distorcoes do milagre: 1967–1973,” in AOrdem
do Progresso, 274
47
Ibid., 264.
48
Dionisio Dias Carneiro, “Crise e Esperanca: 1974–1980,” in AOrdem do Progresso, 313.
49
Marcelo de Paiva Abreu and Dorte Verner, Long-Term Brazilian Economic Growth, 1930–94 (Paris,
1997), 113.
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238 Roberto Cort
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In Argentina, the most populist period came to an end with the 1952
crisis that forced adjustments to balance the external sector. The limits to
expansion with inflationary financing were visible by the mid-1950s, but
it was President Frondizi, in 1959, who took a decisive turn. His govern-
ment intensified industrialization, extending it to capital and intermedi-
ate goods – this time not with the compulsory capture of savings but by
appealing to private foreign capital. The government saw the possibility of
mobilizing investment provided it offered to the largely foreign private sec-
tor the exploitation of natural resources and captive markets for a demand
that in some items (e.g., motor vehicles) had been repressed for years. The
government was conscious that it had to tackle the imbalances, aggravated
after it came to office in 1958. Therefore, a tough adjustment program
agreed to with the IMF was adopted at the end of that year. The program
implied a reduction in expenditure by cutting salaries of public employ-
ees and a decrease in the railways’ operating deficit by closing branches. It
also implied eliminating subsidies, reducing the money supply, contracting
credit, and keeping a stable exchange rate (abandoning controls and allow-
ing free convertibility). These measures caused harsh political and social
resistance during 1959 and a severe recession that preceded strong growth
in 1961 and 1962, when the exchange was kept fixed at eighty-two pesos per
U.S. dollar.
In Mexico, “growth with stability” had not solved the problems gen-
erated by population expansion and the need to give employment to the
increasing number of persons who were entering the labor market. Indus-
trial development goals had promoted rapid urban population growth that
created infrastructure, transportation, and housing problems. In addition,
wider communication and, consequently, greater participation and rising
social demands added to the potential for conflicts, which erupted in 1968.
The Echeverr
´
ıa administration (1970–6) inherited a difficult situation
with an overvalued currency resulting from keeping the exchange rate fixed
at 12.5 pesos per dollar from 1954,inspite of the differential evolution of
domestic prices compared with international ones. The current account
deficit widened 3.4 times between 1958 and the mid-1970s, going from
US$385 million to US$1,318 million, on account of large public projects
and the incapacity of industries to finance their own expansion. In 1971, the
government instituted restrictive monetary and fiscal policies. Then, faced
with the need to reverse the effects of contractionary policies, it sought
to continue with economic expansion by placing more emphasis on social
expenditure and a better income distribution to popular sectors.
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Fiscal and Monetary Regimes 239
However, in view of the persistence of imbalances, that decision ended
up aggravating the problems it intended to solve. The state took yet a
more active stance in the economy, as the public sector’s total expenses rose
from 17 percent to around 26 percent of GDP between 1970 and 1976.
Expenditures went from almost 15 percent to 21 percent of GDP; private
investment was stagnant; and public investment went from 7 percent to 9.7
percent of the GDP. Social expenditure rose from 4.3 percent to 7 percent
of the GDP. Expenditure was oriented mainly to financing urban sectors,
water, large transportation and housing programs, and the development
of agriculture, which practically tripled its share of government support
during the period, going from 0.9 percent to 2.6 percent of the GDP.
Tax collection did not match expenditure increases. The federal govern-
ment’s tax revenues went from 7 percent to 9.5 percent of GDP. Although
the income tax was the main source of public resources, its contribution
was unchanged. The state-owned companies’ contribution to the federal
government’s tax revenues declined from 24.6 percent to 19.1 percent. Tax
collection on consumption and production went from 12.6 percent to an
overall 20.8 percent. The price policy adopted by state enterprises, consist-
ing of subsidizing popular consumption, was one of the great deficit gen-
erators. The deficit went from 3 percent to 8.2 percent of GDP, financed
by money creation and domestic debt. The foreign debt was increased
nominally by 300 percent during the six years of Echeverr
´
ıa’s presidency
(equivalent to 20%ofthe GDP).
50
Already in 1975, the situation appeared untenable in terms of public
finances, the external deficit, and exchange rate overvaluation. Fiscal prob-
lems accelerated in 1975 because of massive capital flights and were fueled
by the government–business confrontation that ended with the devalua-
tion of the peso. In 1976,inthe middle of a fiscal and payments crisis, the
government called upon the IMF for assistance and applied adjustment
measures to control the fiscal deficit. The new administration of Presi-
dent Jos
´
eL
´
opez Portillo, which took office in December, reduced expen-
ditures and contracted the monetary supply, reformed the tax system, and
created the VAT, although the latter was implemented only in 1980.At
first, VAT had a 10 percent rate and 6 percent for border zones. Some
goods and services were exempted. With time, this tax would become the
second in importance, although the income tax continued to be first. A
50
Marcos Ch
´
avez, “Las Finanzas P
´
ublicas de M
´
exico, 1970–2000.Cr
´
onica del Fracaso de la Pol
´
ıtica
Fiscal,” Programa de Ciencia, Tecnolog
´
ıa y Desarrollo (Procientec), (M
´
exico City, 2001).
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240 Roberto Cort
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es Conde
National System of Fiscal Coordination was established, which attempted
to introduce greater efficiency in fiscal administration.
What passed largely unnoticed in the 1960s and 1970s, and in the end
frustrated most policy makers, was that generating the necessary macroeco-
nomic balances to attract private investment and a state with huge expen-
ditures in subsidies and an overextended bureaucracy were difficult to rec-
oncile. In most cases, efforts to restore macroeconomic equilibrium were
meant not to affect the industrializing process but to deepen it, making
it more efficient by strengthening import substitution in both intermedi-
ate and capital goods (in Brazil, 1964–80;inArgentina, 1967–9; and in
Mexico, 1972–80) and extending it to exports (a field in which Brazil was
more successful). Fixed exchange rates acted as an anchor for monetary
stability and a requirement for capital inflows, the assets of which in local
currencies were thus protected from local currency depreciation. On the
other hand, fixed exchange rates produced serious problems of currency
appreciation (Dutch disease) or overvaluation when domestic prices rose
faster than international ones.
Government expenditure began to be financed by debt in the 1960s.
The external debt had almost disappeared during the isolation of the 1930s
depression and the War World II years. Because financing instruments had
been reestablished with international public agencies, the Latin American
countries tried to secure loans for big public works (dams, roads, energy in
Brazil) and, to a lesser extent, private enterprises (aluminum and steel in
Argentina), which required state endorsement. When private companies
failed to pay their private debts, government guarantees turned them into
national debt.
In Mexico there was an important change in the sources of external
financing from multilateral organizations to private banks. Interest rates
were variable. Between 1974 and 1976, the foreign debt practically doubled
and went largely to finance deficits and maintain the fixed exchange rate,
which caused a huge capital flight.
51
Neither the Mexican federal government nor the public enterprises
could create enough savings to finance their investments. As a result, they
depended increasingly on debt, both domestic and foreign. By 1975, nearly
all investment was debt-financed. External debt increased significantly from
1973 to1976.Even though the flowof creditsfrom abroad dropped in 1977–9
51
Carlos Bazdresch and Santiago Levy, “Populism and Economic Policy in M
´
exico 1970–1982,” in
Rudiger Dornbusch and Sebastian Edwards, eds., The Macroeconomics of Populism in Latin America
(Chicago, 1991), 246.
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Fiscal and Monetary Regimes 241
as a share of GDP, the high level of investment, especially that of PEMEX
(Petr
´
oleos Mexicanos) and the federal government, required even greater
reliance on external debt than in the early 1970s. To finance the mounting
fiscal deficits, the government resorted more and more to foreign borrow-
ing. The external debt of the public sector increased, from US$4 billion in
1970 to US$19.6 billion in 1976 and US$33.1 billion in 1979.
52
In Brazil, as debt payments became a larger item in public expenditure,
the government decided to take them out of the treasury register and make
the Central Bank pay them directly with money creation. In 1973, the fiscal
accounts had a slight surplus. However, a substantial part of expenditure was
not included in the budget, as happened with subsidized interest rates and
public-debt monetary corrections, which were part of the so-called mon-
etary budget.
53
From 1967, subsidized credit policies were implemented,
which included credits for consumption, agriculture, exporting sectors,
and housing, in some cases accompanied by fiscal exemptions.
54
Indexation
and subsidized credits (to agriculture and export producers) determined the
existence of different exchange rates.
55
The increasing vulnerability resulting from an ever-growing debt was
further complicated by two factors: the 1973 oil price shock and the change
in U.S. monetary policies. In 1973, oil prices went up three times because of
an Organization of Petroleum Exporting Countries (OPEC) cartel agree-
ment. Brazil had developed an integration strategy for its huge territory,
choosing road-building as the least expensive one, its domestic trade becom-
ing deeply dependent on automobile transportation. Because 80 percent
of its oil supply was imported, the price shock affected imports, and the
government was forced to reduce the least critical ones, reducing growth
in important consuming sectors.
In 1972,Brazil entered the international capital markets. At first it placed
securities in Germany and deposits in the United States, thus reaching
apreviously nonaccessible market where there was a plentiful eurodol-
lar supply because of capital outflows from the United States caused by
large deficits and rising inflation.
56
Brazil decided to keep its high level of
growth (the 1975–1979 National Development Plan aimed at a 10 percent
annual growth) and financed imports by debt. Substantial expenditure
52
Jorge Hierro and Allen Sangin
´
es, “Public Sector Behavior in Mexico,” in Felipe Larra
´
ın and Marcelo
Selowsky, eds., The Public Sector and the Latin American Crisis (San Francisco, 1991), 157.
53
Ibid., 265.
54
Ibid., 237.
55
Ibid., 256.
56
Ibid., 278.