Latin American Exceptionalism: The Politics and Economics of Unfulfilled Potential. Professor Victor Menaldo University of Washington

Latin American Exceptionalism: The Politics and Economics of Unfulfilled Potential. Professor Victor Menaldo University of Washington

Recent Progress Democratization Rule of Law Economic Growth Decreasing Inequality and Rising Middle Class

Latest Democratizations Argentina 1983 Honduras 1982 Bolivia 1982 Mexico 2000 Brazil 1985 Nicaragua 1984 Chile 1990 Panama 1989 Ecuador 1979 Paraguay 1989 El Salvado 1984 Peru 1980 Guatemala 1986 Uruguay 1985 Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009)

Steady Economic Growth Index of Real Per Capita Income (1996 = 100) 100 110 120 130 1996 1998 2000 2002 2004 2006 2008 year Note: Avg. Real Per Capita Income in 2005 dollars for Latin American countries excluding Central America Source: USDA. Macrostatistics

Declining Inequality Taken from the World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and RenosVakis.

Rising Middle Class Taken from World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and Renos Vakis.

Chile GDP per capita has doubled over past 18 years, fastest sustained expansion in country's history. Poverty rates have fallen precipitously. Chileans from humble families attending college. Chile has attained homeownership rate roughly equal to that of the United States, about 70%.

Peru Country has grown at 7% per year over past few years. Commodity boom has fed public investment & consumption boom FDI keeps pouring in & currency strong.

Mexico Living standards infant mortality rates, life expectancy and years of education have improved greatly. Country is growing again; giving China run for its money with skilled labor. Immigration to USA has been drastically reduced.

LATAM exceptionalism: unfulfilled promise

Lower economic development than expected given these countries age, resources & proximity to foreign markets. Serious corruption and challenges to rule of law. Spending on education, health, social insurance & infrastructure less than expected, given the vast needs. Lower & more regressive taxes than rest developing world. Still highest inequality in the world

Average Global Income Levels, by Geograhpic-Cultural Region East Europe/post USSR Latin America Middle East/North Africa Subsaharan Africa Western Europe/North America East Asia South-East Asia South Asia The Pacific (sans Austr. & N.Z.) The Caribbean Real GDP Per Capita (2000 International Dollars), 2000-2006 average 0 5,000 10,000 15,000 20,000 25,000 Source: Haber and Menaldo (2010). Notes: regions defined by Hadenius and Teorell (2005); Latin America includes Cuba and Dominican Rep.; Cyprus included in Western Europe/North America; Mongolia included in East Europe/post USSR

What if 2008 Financial Crisis was the norm? Thischartistaken frombordo et al. (2000)

We think Greece has it bad today? This chart is taken from Bordo et al. (2000)

This chart is taken from Bordo et al. (2000)

In 1899, Argentina was wealthier than the USA! Real GDP Per Capita (2000 International Dollars) 2000 4000 6000 8000 10000 12000 Argentina's Long-Run Economic Development 1800 1850 1900 1950 2000 Source: Haber and Menaldo (2010) and Coatsworth (1998). Notes: linear interpolation used between 1800 and 1874. Year

A big challenge is corruption Notes: Transparency International s 2012 Corruption Perceptions Index. Source: Screenshot taken by Julia Knight: http://foreignpolicyblogs.com/2012/12/08/in case youmissed it transparency international corruption perceptions index/

Progressivity of Taxation in 2005 Taxes on Income, Profits & Capital % GDP 0 2 4 6 8 S.E. Asia Avg. S.S.Afr. Avg PRY BOL URYDOMGTM ECU CRI HND SLV PER MEX NIC COL VEN BRA CHL Notes: Income, Profits & Capital as defined by IMF GFSY. Source: Albertus and Menaldo (2013).

Income Inequality Source: UN Human Development Report

50 45 40 35 30 25 20 15 10 5 0 Haiti Income Share of the Top Ten Percent Brazil Mexico U.S.A. Canada South Africa Ecuador Brazil Honduras Nicaragua Chile Madagascar Panama Mexico Rwanda Kenya Philippines Thailand Sierra Leone C.A.R. Nigeria India Indonesia U.S.A. Israel U.K. Ireland Poland Italy Spain Greece Switzerland Canada Norway Sweden Germany Source: World Bank, World Development Indicators (data refer to most recent year available) Colombia Bolivia Haiti

LATAM Exceptionalism is Very Puzzling!

Consider a natural experiment Areas conquered by Spaniards populated by more sophisticated, wealthier civilizations. LATAM colonies wealthier & more important than North American ones. LATAM countries just as old as USA.

YET THERE WAS A NOTABLE REVERSAL OF FORTUNE After colonialism, North America surpassed LATAM and became much wealthier and influential. Much of LATAM got stuck in neutral. Some LATAM countries went in reverse.

We became rich, steadily and then explosively! 0 10000 20000 30000 40000 Real GDP Per Capita (2000 International Dollars) The United States Long-Run Economic Development 1800 1850 1900 1950 2000 Year Source: Haber and Menaldo (2010)

So did our neighbors to the north 0 10000 20000 30000 Real GDP Per Capita (2000 International Dollars) Canada's Long-Run Economic Development 1870 1895 1920 1945 1970 1995 Year Source: Haber and Menaldo (2010)

As did other settler colonies Australia's Long-Run Economic Development 5000 10000 15000 20000 25000 30000 Real GDP Per Capita (2000 International Dollars) 1900 1920 1940 1960 1980 2000 Year Source: Haber and Menaldo (2010)

Comparing growth records Cumulative Growth of Real Per Capita Income, United States versus Latin America Real Per Capita Income (PPP) Index, 1800 = 100 500 1000 1500 2000 2500 100 1800 1820 1840 1860 1880 1900 1920 1940 1960 1980 2000 Year Argentina Chile United States Brazil Mexico Source: Haber and Menaldo (2010) and Coatsworth (1998). Notes: linear interpolation used for Latin American countries to fill in missing values during the nineteenth century.

Steady growth culminated in pronounced income differences Variation in Income Levels across Latin America and versus "Settler Colonies" 0 10,000 20,000 30,000 40,000 Real GDP Per Capita (2000 International Dollars), 2000-2006 average HND BOL NIC GTM PER ECU SLV PRY CUB COL DOM VEN BRA MEX PAN CRI URY ARG CHL AUS CAN USA Source: Haber and Menaldo (2010)

What explains Latin American Exceptionalism?

Some popular explanations 1. LATAM countries cursed by abundant natural resources 2. LATAM dependency on the vagaries of international capitalism 3. Protestant Work Ethic versus Catholicism 4. British Cultural Legacy versus Spanish Legacy 5. NA had brilliant founding fathers while LATAM suffered from inept, myopic leaders

These explanations are all wrong! 1. United States, Canada, and Australia have greater resource wealth than LATAM 2. LATAM countries have been historically more protectionist and isolated than North America 3. British colonies in Africa have not fared better than French or Portuguese colonies 4. I don t disagree that we had brilliant founding fathers, but they had Simon Bolivar, Miguel Hidalgo and O Higgins.

What explains differences between North America and Latin America? Differences in soils, climates & native pop. densities Differences in political & economic institutions Differences in distribution of wealth/income/knowledge Differences in policies that reinforced these institutions & distribution of wealth, income & knowledge

The North American Model 1. Temperate climate & fertile soils + diffuse & small native populations 2. Colonial strategy based on European settlements and economy based on grains at small scale 3. Colonial institutions favored equality & middle class 4. Postcolonial institutions centered on democracy & federalism 5. Public policies reinforced equality & democracy

The Latin American Model 1. Tropical soils & climates or inheritance of mining centered economy + dense native populations/slave trade 2. Colonial strategy based on plantation agriculture & mining. Mercenaries impressed servants/slaves 3. Colonial institutions favored small elite of European heritage. Created vast differences in wealth/knowledge/opportunity 4. Postcolonial institutions centered on oligarchy 5. Policies reinforced inequality & oligarchy

Relationship btwn Land Suitable Wheat & Family Farms (1888) % Agricultural Land as Family Farms 0 20 40 60 80 BRA DOM CRI HTI GTM COL VEN NIC NOR SLV THA IRNECUHND PRY BOL PER GRC CHL CHNCHE JPN ITA ESP ARG MEX SWE CAN USA DEU AUT HUN DNK RUS FRA NLD ROM BEL TURPRT URY GBR -4-2 0 2 4 log(soil Suitable for Wheat/Soil Suitable for Sugar) Predicted Values of % Agricultural Land as Family Farms Sources: Family Farms is from Vanhanen (2003); Wheat to Soil Ratio (Menaldo 2013). See that paper for the methods and sources used.

Relationship btwn Family Farms in 1888 & Distribution Income Today Income Gini Coefficient in 2005 20 30 40 50 60 70 BRA PRY COL GTM HND MEX NIC CHL ECU PER BOL VEN DOM IRN ARGBR URY CRI SLV TUR THA ITA PRT ROM FRA ESP BEL NLD GRC DNK JPN RUS SWE AUT HUN CHN CHE DEU USA CAN NOR 0 20 40 60 80 % Agricultural Land as Family Farms Predicted Values of Income Gini Coefficient in 2005 Sources: Income Gini is from the SIDD Dataset); Family Farms is from Vanhanen (2003).

Relationship btwn Land Suitable Wheat & State Capacity 2007 ICRG Quality of Institutions Index 0.2.4.6.8 1 NOR SGP CYP MYS BWA KWT IND QAT ARE OMN TZA VNM SAU BHR JOR CUB NAM TTO GMB GUY UGA IDNPHL CRI IRN EGY MNG LKA JAM ECU ZMB PER BGD GHA PAN NIC PAK BOL MDG LBN GNB GIN BRA CMR COL SLV THA SEN BFA AGO LBY PNG HND MOZ AZE DOM GTM MMR GAB COG YEM LBR NGAMLI NER SLE SDN TGO VEN PRY CIV HTI IRQ ZAR SOM FIN NZL CHL DNK SWE NLD AUT CAN AUS DEU IRLCHE GBR BEL USA JPN ISR FRA ESP PRT KOR SVN HRV CZE POLHUN GRC EST SVKMAR LVA TUN ITA TUR MEX CHN ARG LTU KAZ SYR MWI ZAF DZA BGR MDAROM URY BLRUKR RUS ALB ARM KEN PRK ZWE -4-2 0 2 4 log(soil Suitable for Wheat/Soil Suitable for Sugar) Predicted Values of ICRG Quality of Institutions Index Sources: ICRG and Menaldo (2013).

Relationship btwn Family Farms 1888 & State Capacity 2007 ICRG Quality of Institutions Index 0.2.4.6.8 1 NLD DNK SWE AUT GBR CHL BEL ESP PRT FRA JPN HUN GRC ITATUR MEXARG IRN CRI PER ECU URY BOL NIC ROM RUS COL BRA THA HND SLV DOM GTM VEN PRY HTI DEU CHE CHN USA CAN NOR 0 20 40 60 80 % Agricultural Land as Family Farms Predicted Values of ICRG Quality of Institutions Index

Relationship btwn Family Farms in 1888 and Per Capita Income in 2005 log(per Capita Income) 6 7 8 9 10 11 GBR CHL ARG URY MEX VEN BRA DOM IRN COL PERPRY ECU GTM NIC BOL HND ESPITA CRI THA SLV PRT TUR HTI NLD BEL ROM FRA SWE DNK AUT JPN GRC HUN RUS CHE DEU CHN USA CAN NOR 0 20 40 60 80 % Agricultural Land as Family Farms Predicted Values of log(per Capita Income) Source for Per Capita Income: Haber & Menaldo (2011).

Postcolonial institutions & policies North America

North America Extended the suffrage widely. Taxed and spent. Strengthened federalism & autonomy of local governments. Embraced market based development, promoted middle class & built safety net.

North America: Taxes & Education 1) Progressive taxation at state and local level Property and wealth taxes; income taxes. 2) Provision of public education Tied to local property taxes; increasingly expanded and improved.; eventually included state universities

United States FEDERAL income taxation 1800 1810 1820 1830 1840 1850 1860 1870 1880 1890 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 0 5 10 15 Income Taxes as % GDP year Source: NBER; OECD Fiscal Statistics

North America 1. Open immigration and generous land grants to small farmers with secure titles 2. Investment in Public Works 3. Low barriers to market entry & incentives for innovation: e.g., patent laws 4. Liberal bank charter policy with healthy competition between local level banks.

Costs to Transport One Ton in the United States (Cents per Mile) 1815 Mode of Transportation 1860 Land 30 Road Railroad 15 or more 2 or more 1/3 or more 6 River River Raft downstream Boat upstream Steam boat 1/3 or more Water Canal 1 or more 1 or less Ocean Great Lakes 1/10 1/2 or less Source: George Rogers Taylor, The Transportation Revolution (New York: Holt, Rinehart, 1962) Appendix A, Table 2

Postcolonial institutions & policies Latin America

Latin America LATAM experienced authoritarianism, inequality & political instability LATAM became centralized LATAM countries embarked on crony capitalism to benefit politicians, bankers, and a small cadre of industrialists and unions.

Limited Experience with Democracy Percent of Time as Democracy since Independence 0 10% 20% 30% 40% MEX PRY NIC SLV BOL PER CUB HND BRA ECU DOM VEN GTM ARG PAN COL CRI CHL URY Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009); Boix & Rosato (2001)

Latin America: Regressive taxation and no taxes collected at state and local level: excise taxes on consumption goods & fiscal monopolies. The wealthy provided private education to their own children and higher education was targeted to a narrow elite.

By 1900, LATAM had fallen way behind the education race Primary School Enrollment Per Capita in 1900 0 500 1,000 1,500 VEN BOL DOM BRA PER SLV COL NIC PRY ECU GTM MEX CHL HND CRI ARG URY CAN USA Source: Banks' Cross National Time Series Data Archive

Latin America Failed to Adopt Progressive Taxation or Provide Safety Net Sources: Income Taxation data for Latin American countries from native treasury sources (Menaldo 2008), OXLAD Dataset (2008) &Government Finance Statistics Yearbook (various years). GDP data is from OXLAD 2008). Income Taxation as share of GDP data for the EU 15 is from OECD Factbook (2007).

Latin America 1. Constrained immigration and land grants only to very large landholders 2. Limited investment in public works 3. High market barriers to entry & low incentives for innovation 4. Restricted bank charter policy with credit allocated on political grounds.

LATAM transportation costs over 30 times greater than within USA! Circa 1842, costs of moving a ton of goods from Latin American countries major ports to their capitals (pounds sterling): Lima, Peru: 1 Santiago, Chile: 2.4 New Granada: 45 Mexico City: 13.8 Quito, Ecuador: 15 Sucre, Bolivia: 19.3 Caracas, Venezuela: 4.3 Source: Brading (1969: 243 4).

Dictator Porfirio Diaz, 1876 1911

Percent of non government loans made to banks own boards of directors: Banamex 1886 to 1901 100% Mercantil de Veracruz 1898 1906 86% Banco Coahuila, 1908 72% Banco Durango, 1908 51% Mercantil de Monterrey, 1908 31% Banco Nuevo León, 1908 29% Source: Haber (2012)

Explanation for LATAM Exceptionalism 1. Factor Endowments: wheat vs. sugar 2. Colonial Strategies: settlers vs. mercenaries 3. Political economic institutions: democrats & federalists vs. oligarchs & centralists 4. Distribution of Wealth/Income: equality vs. inequality 5. Policies reinforced distribution of politicaleconomic power: inclusive/efficiency vs. exclusive/distortive

Cause for Hope? Democracy Argentina 1983 Honduras 1982 Bolivia 1982 Mexico 2000 Brazil 1985 Nicaragua 1984 Chile 1990 Panama 1989 Ecuador 1979 Paraguay 1989 El Salvado 1984 Peru 1980 Guatemala 1986 Uruguay 1985 Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009)

Reforms Rule of Law Decentralization Prudential banking regulation Clamp down on tax evasion Cut down on wasteful government spending and target spending towards poor & education

Accomplishments Political & civil liberties More secure property rights & access to credit Prudent fiscal & monetary policy Much lower debt & inflation Higher levels of trade & FDI Less sensitive to global business cycle Better education for more people

Increasingly decoupled from USA business cycle: skilled labor force Taken from World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and Renos Vakis.

Sao Paolo: Financial Capital of South America