(Part 2)
As mentioned in Part 1 of this article, Chile at the beginning of its development process after the Second World War was no different from the typical Latin American economy.
Its government protected its domestic industries with high tariffs, expanded state ownership of strategic industries, increased social spending, and implemented land reform. Under Eduardo Frei Montalva, land reform and partial nationalization of the copper industry began. His successor, left-wing president Salvador Allende, accelerated these policies by nationalizing the copper industry, expanding state ownership of banks and businesses, raising wages and increasing public spending.
At the start, growth was strong. By 1972-1973, however, the inordinate increase in the money supply from the pump priming of the economy led to hyperinflation (as high as 500% annually), severe shortages of goods, a fiscal crisis, and political polarization. The political instability ultimately led to the 1973 military coup led by Augusto Pinochet.
Under the new regime, Chile adopted sweeping market-oriented reforms designed by some US-trained economists who were labeled the “Chicago Boys” because they were tutored by none other than the Nobel Laureate Milton Friedman, Professor of Economics at the University of Chicago, and the high priest of free market economics. They championed free markets, privatization, deregulation, and trade liberalization.
Sergio de Castro was the principal architect of Chile’s early market reforms. He served as Minister of Economy (1975-1976) and Minister of Finance (1976-1982). He was recognized as the intellectual leader of the Chicago Boys. His contributions included: liberalizing prices and eliminating most price controls; reducing import tariffs to expose Chilean firms to international competition; privatizing many state-owned enterprises; and, tightening monetary and fiscal policy to reduce inflation, which had exceeded an annual rate of 500% in 1973. His reforms fundamentally shifted Chile from a highly protected economy to one of the world’s most open.
Let it be noted here that the move towards deregulation, liberation, and privatization happened in the Philippines only 20 years later during the presidency of Fidel V. Ramos (1992-1998) who I consider arguably the best president from the point of view of economic development. Thanks to the market-oriented foundations he and his economic managers laid, subsequent administrations succeeded in slowly and painfully removing from the Philippines the notorious label of “Sick Man of Asia” and, by the second decade of the Third Millennium, enabled the Philippines’ GDP to grow at a sustained 6-7% annually, one of the highest in the Indo-Pacific region. It was providential that the President of the Philippines during the second decade of the Third Millennium was also a competent and honest leader, Benigno “Noynoy” Aquino.
To give a more detailed view of what “deregulation, privatization, and liberalization” involved under the Chicago Boys, let me briefly describe here the major contributions of the other leading economists who worked in the Pinochet Administration.
There was Jose Pinera, Minister of Labor and Minister of Mining. Under him, the following landmark reforms were introduced: a.) the private pension system (AFP), replacing the pay-as-you-go public pension system; b.) labor market reforms that increased flexibility in hiring and wage negotiations; and, c.) modernization of mining laws, which encouraged large-scale private investment while maintaining state ownership of the copper giant Codelco. His pension reform became one of the most studied — and debated — retirement systems in the world.
Then there was Hernan Buchi, whom I personally met in a trip to Santiago de Chile when he was Minister of Finance (1985-1989). Following Chile’s severe financial crisis of 1982-1983, Buchi repaired the banking system; strengthened financial regulation; continued privatization; and promoted exports and fiscal discipline. It was during his tenure that Chile experienced rapid economic growth averaging around 6-7% annually, setting the stage for decades of expansion after the return to democracy.
Complementing the contributions of the older members of the Chicago Boys was a youthful technocrat who died at the age of 34 — Miguel Kast, who was the Minister of Planning and later President of the Central Bank. He had a lasting influence by reforming the public sector; improving the targeting of poverty reduction programs; promoting efficiency in government spending; and strengthening market-oriented public policy. Many of the younger economists considered him one of the most intellectually gifted members of the Chicago Boys.
Together, these economists transformed Chile into Latin America’s most open economy, one of the region’s most attractive destinations for foreign investments; a country with consistently low inflation; and a leading exporter of copper, meat, fruit, wine, salmon, and forestry products. Between the mid-1980s and the late 2010s, Chile’s GDP per capita roughly tripled and the national poverty rate fell dramatically — from over 40% in the late 1980s to below 10% before the COVID-19 pandemic.
It can be affirmed that Chile was a Latin American country that, from the economic development standpoint, had East Asian characteristics mirroring the success stories of Singapore, Taiwan, Hong Kong, and South Korea — all of whom escaped the Middle Income Trap.
Sadly, at least for several decades up to the 2010s, the Philippines was a Southeast Asian country that was more identified with the Latin American formula for economic disaster: inward-looking, protectionist, interventionist, with ultra-nationalist and populist policies. This reminds me of a conversation I had with some Spanish farmers on a train I took from Barcelona to southern France in 1963. They asked me if “las Islas Filipinas” were in the Caribbean!
This reflection on the history of the economic development of Chile has made me nostalgic about the beginnings of the Center for Research and Communication or CRC (now the University of Asia and the Pacific) that was founded in 1967 (same year that the first diplomatic mission from Chile was established in the Philippines). Jess Estanislao (Ph.D. Harvard) founded CRC and I helped him in putting up a graduate program in industrial economics. Jess and I were among a handful of economists who were trying to help the Philippine Government in a similar way to how the Chicago Boys helped Pinochet. I can remember Armand Fabella, Cesar Virata, Gerry Sicat, Alex Melchor, Tony Ayala, Tito Mijares, Pepe Encarnacion, and a few others, most of us with graduate degrees from US universities, i.e. Harvard, MIT, Wharton, Annapolis, Northwestern, Georgetown, etc. It was also a coincidence that Pinochet and Marcos Sr. started their authoritarian rules almost at the same time, i.e., at the beginning of the 1970s.
During the first four to five years of Martial Law, the technocrats led by Alex Melchor and Armand Fabella prevailed in economic policy and program implementation. Those were years of high growth, of GDP at 7% or more. Unfortunately, by the late 1970s, the technocrats were eased out of power, and the influence of the “cronies” of Marcos Sr. increased. That was the beginning of the end.
In fact, as late as 1983, the Marcos regime was still aggressively promoting the so-called 11 Major Industrial Projects, the epitome of Import Substitution Industrialization. These projects were an integrated steel mill, a copper smelter, an aluminum smelter, a petrochemical complex, fertilizer plants expansion, heavy engineering industries, a machine tools industry, diesel engine manufacturing, a pulp and paper integrated mill, cement capacity expansion, and industrial forest plantations. Even the most cursory feasibility studies done by our young industrial economists at CRC showed that the domestic markets for these products were too small and therefore the costs of their products were too high to be competitive in the export market.
Fortunately, the famous EDSA People Power revolution put a stop to all this economic nonsense. The Philippine economy was saved from the inevitable bankruptcies that all the “11 White Elephants” would have eventually suffered!
(To be continued.)
Bernardo M. Villegas has a Ph.D. in Economics from Harvard, is professor emeritus at the University of Asia and the Pacific, and a visiting professor at the IESE Business School in Barcelona, Spain. He was a member of the 1986 Constitutional Commission.