Chile’s "Shock Therapy" and structural adjustment programs in Latin America. Reforms and outcomes

Same but different? A review

Seminar Paper 2017 26 Pages

Politics - International Politics - Region: Middle- and South America


Table of Contents

1. Introduction
1.1. Brief Historical Perspective on Neoliberalism
1.2. Structural Adjustment Programs and their Critique

2. The Chilean Regime of Neoliberalism
2.1. Radical Reform Period 1975 - 1983
2.2. Pragmatic Neoliberalism 1983 - 1990
2.3. Evaluation: The Current State of Literature

3. The Case of Peru

4. The Case of Bolivia

5. The Case of Argentina

6. Discussion

7. Bibliography and Lists


In this short paper, I followed a comparative case study approach to explore the reforms and reform outcomes in four different Latin-American countries during the 1980s. I chose Chile as a successful example of structural adjustment politics and Bolivia, Peru and Argentina as deviating cases to evaluate different reform success. My findings supported a case-by-case evaluation. It turned out that orthodox structural adjustment policies were implemented differently in every country due to country-specific political, historical and institutional features as well as an altering relationship to international financing institutions. Generally, orthodox reforms seemed to back economic stabilization but not necessarily structural economic adjustment. A review of the current state of literature showed differing explanations for varying reform success. While some researchers attribute failure to heterodox deviation, others see a too orthodox course or suggest an explanation by inappropriate time and place for the reforms. Further research will be needed to clarify causalities. It is suggested to put a stronger focus on underlying context-dependent reform drivers and stumbling blocks.

~ 7.500 words.

1. Introduction

A recently published article in a major German newspaper illustrated Chile as a “colorful painted house”: the unemployment rate is with six percent quite as low as in Germany, the inflation rate not even worth mentioning. Compared to their surrounding Latin American neighbors, Chileans are known as reliable and trustworthy business partners. The infrastructure is in a good shape, investments and constructions keep the country busy. The standard of living has remarkably increased in the past years, also for the poor (see Zeit Online 27.06.17). Just as often as Chile is criticized for its low social mobility and low social inequality, it is at the same time seen as one of the economic leaders of the Latin-American continent (Piketty 2014; El Mostrador 14.02.15).

Yet, Chilean economic performance has not always been this way. Its upturn is most commonly related to the politics of the so-called “Chicago Boys” initiated in the late 1970s and 1980s. As students of the neoliberal doctrine of Milton Friedman, they prescribed their country a “great transformation” (Martinez and Diaz 1996). High-debts Latin-American countries were later confronted with reform demands by international donors that were labeled by their critics as “neoliberal” as well. Apparently, Chile’s neighboring countries yet don’t seem to catch up. Since this has become more or less the common historical notion, many scholars examined the neoliberal reform waves in Latin-America, drawing different explanations and implications for the economic and political arena until today. Nevertheless, answers to the question how such similar reform initiatives seem to have led to different outcomes remains ambiguous.

The purpose of this paper is therefore twofold: on the one hand, I will compare the key reforms that were undertaken under the influence of the Chicago Boys in Chile with those implemented under SAPs in other selected Latin-American countries. Due to the limited scope of my paper I will focus on the cases of Peru, Bolivia and Argentina. Thus, I will firstly try to point out how much neoliberal policy initiatives in these countries genuinely had in common. Second, I will try to give an overview of the state of literature on the outcomes of these reforms. This paper’s aim is therewith to suggest a clearer image of the interaction between the neoliberal reforms and reform outcomes as well as cross-country comparability in the Latin-American context.

The structure of this paper will be as follows: after a brief introduction to the key terms and their historical context, I will provide a short contemplation on the Chilean reference case before I will move on with review on the selected further cases. I will conclude with a discussion of my findings.

1.1. Brief Historical Perspective on Neoliberalism

The term neoliberalism was originally brought up to re-establish liberalism as a “third path” between anticommunist and anticapitalistic ideas, much rather than what is later perceived as a road to mere market radicalism. Alexander Rüstow suggested a first official definition in 1938 (Mirowski and Plehwe 2009:13). In the 1970s, however, it was taken up against economists that took an opposing perspective to Keynesianism and state interventionism, although its most popular speakers ever rejected the label of neoliberalism. The Austrian School of Economics is typically classified as the birthplace of neoliberalism in its opposition to Marxian economics and its countering model of methodological individualism. Throughout multiple generations of scholars, Ludwig von Mises and his student Friedrich August von Hayek are seen as its most well-known representatives. The Chicago School developed from its opposition towards the New Deal Era in the U.S. and is for its countering macroeconomic theory of monetarism seen as the second birthplace of neoliberalism. It is commonly associated with scholars such as Milton Friedman. Both schools had in fact enormous influence on the 1980s policy-making under U.S. President Ronald Reagan (also referred to as “Reagonomics”) and British Prime Minister Margaret Thatcher (also referred to as “Thatcherism”).

Since the term of neoliberalism was mainly coined by its critics and charged with a diffuse agglomerate of practices, defining neoliberalism is, as McCarthy and Prudham (2004:276) put it, “no straightforward task”. I will follow therefore their example and restrict my definition to mentioning “identifiable dimensions”. On the one hand, these are rooted in particular non-interventionist economic policies, the belief in a “self-regulating market” (Polanyi 1944) and a “commodation of everything” (ibid, Harvey 2005) as a consequence out of that. On the other hand, actors are seen as a benefit-maximizing, entrepreneurial homo oeconomicus - the well-known idea of the indivíduum in classical liberalism.

1.2. Structural Adjustment Programs and their Critique

What is most commonly known under the term of Structural Adjustment Programs (SAPs) emerged in the 19070s due to economic turmoil such as the oil crisis, debt crisis and subsequent economic depression and political crisis not only in Latin-America but worldwide. Confronted with the structural causes for some of these crisis (such as a heavy increase of long- and short­term foreign debt of developing countries), voices for intervention and change to the dominating economic courses such as a “foreign borrowing binge” (Edwards 1989:162) became stronger. The International Monetary Fund (IMF) was called in to follow its mission to "correct maladjustments in their balance of payments without resorting to measures destructive of national or international prosperity" (IMF 1947). At annual meetings of the World Bank (WB) member states, the suggestion was raised as well to initiate lending programs for highly indebted countries in turn for structural adjustment measures. The WB thereafter started its first programs in 1980 (Stern 1983). Both Bretton Woods institutions, later also termed as the International Financing Institutions (IFI), provided conditional loans in return for a set of reform policies aiming at economic improvements.

Enough research has been conducted to distinguish WB from IMF programs on their specific features and frameworks. For the purpose of this paper, both will be however tied together to focus on IFIs programs between 1980 and 1990, which were implemented in close coordination between IMF and WB. The core policy change IFIs programs asked was the one from closed, state-led economies to free trade markets (Arnaut 2013). Although programs were decided on a case-by-case policy (Pop-Eleches 2008:137), I will therefore summarize the SAP measures undertaken in this period by the ten broad agenda points of the Washington Consensus. This Consensus presented by the economist John Williamson in 1989 represents the dominating beliefs of how Latin-American countries should react to and recover from financial crisis in the 1980s, shared by international donor institutions at this time. It covered the following policy recommendations (Williamson 2002):

1. Fiscal Policy Discipline

IFIs stressed the danger of large fiscal deficits relative to GDP and opposed Keynesian stimulation policies.

2. Public Expenditure Priorities

IFIs programs aimed to redirect public spending from subsidies to key pro-growth policies like education, healthcare and infrastructure investments.

3. Tax Reform

According to the Consensus, the state tax base should be broad and adopt moderate marginal tax rates.

4. Interest Rates

Interest rates should be determined by the market and positive, but moderate.

5. Competitive Exchange Rates

Exchange rates should promote a rate of export growth.

6. Trade Liberalization

IFIs trade policies liberalized imports and diminished trade protection as tariffs and licensing regulations.

7. Foreign Direct Investment (FDI)

FDI should be liberalized and encouraged (although not seen as a high priority by the Consensus actors).

8. Privatization

IFIs programs privatized state property, enterprises and resources on a large scale, following the image of a lean state.

9. Deregulation

In order to lower the market entry level and ease competition, IFIs programs also cut back state regulations. Safety, environmental and consumer protection grounds and other justified fields should be yet excluded.

10. Property Rights

Procedures to obtain property rights should be facilitated at acceptable cost, legal security for owners should be provided.

These are what is referred to as the “orthodox measures” of the Washington Consensus, which were, as will be shown, not always and entirely implemented. Yet, including some deviation from the orthodox IFIs policy demands, SAPs were confronted with strong critique which should not be left unmentioned. Fundamental critique was in the first and early stages expressed towards undermining national sovereignty through the rigid conditions imposed by the IFIs. It was argued that, by ignoring the political consequences for elected governments or by cooperating with authoritarian regimes, IFIs showed themselves ignorant towards the democratic will of the people. Thus, various scholars tried to trace a relationship between SAPs and conflict courses or even human rights situation (Abouharb and Cingranelli 2006, Hartzell, Hoddie and Bauer 2010). Similarly, studies echoed on the cutback of state welfare programs and drew a line to a decrease in social standards such as poverty or health measures (Loewenson 1993, Peabody 1996, Easterly 2001, Lugalla 2007). A more comprehensive approach has been taken by the nowadays established critique of Joseph Stiglitz and Dani Rodrik. They pointed at at “the inappropriateness of the standard reform agenda” (Rodrik 2006:2) or: the flaws of a “one size fits all” approach. They also referred to East Asian success stories, where governments intervened with industry policies and steering which suggests a link to the social transformation model of developing countries (Khan 2002, Stiglitz 2008). Eventually, this critique was taken up by the famous WB study “Economic Growth in the 1990s: Learning from a Decade of Reform” in 2005 as it says: “There is no unique universal set of rules” (WB 2005).

2. The Chilean Regime of Neoliberalism

Chilean neoliberalism is a case sui generis. Its particular roots are linked to a time when economists were divided along the frontline between structuralists and monetarists. Especially in Latin America, structuralist economics constituted the predominating, “clear intellectual hegemony” (Silva 1991:389) which originated in fact from the work of the Santiago-based Economic Commission for Latin America (ECLA) and its director Raúl Prebisch (Kay 1989). Central to its policy recommendations was the idea of import substitution industrialization (ISI), an approach which aims to replace the import of goods by domestic products, therefore protecting domestic industry, strongly intervening in the market through exchange rates and fiscal measures and reducing a country’s dependency on foreign trade. This paradigm can be derived from or related to development theory: Prebisch was a proponent of the Dependency Theory, regarding the world system as divided into a “core” of industrialized, developed states and a periphery of least developed countries (LDC) - states, being dependent on the core (Barber 1995). As it was shown in the introduction of this paper, neoliberal thoughts were clearly to be found on the opposing side, conditions for neoliberalism in Chile were therefore not the best to begin with.

In this context, the University of Chicago offered between 1955 and 1963 a postgraduate program for economists of the Universidad Católica (see Valdés 1989). A total number 30 Chilean graduates made use of the Chicago grants and took classes at the faculty of Milton Friedman, at that time, as it was shown in the beginning, a bastion of the monetarist school of thought. Returning to their home country, they found a setting of excessive public spending, increasing state intervention, imbalanced relative prices and centrally fixed nominal wages. A setting which can be seen until 1973 as a classical one for its region “[profoundly in] need of both stabilization and adjustment” (Riveros 1995:5). A setting, in which the “Chicago product” made a difference: all of the returning postgraduates shared a “commitment to the primacy of market solutions and a suspicion of governmental intervention” (Barber 1995:2). Isolated by their economic views, but steadily gaining influence, the “Chicago Boys” took control of the economics faculty of their university by the end of 1964. In 1968, they established their own neoliberal think tank, the CESEC. Proposing the diminution of the state and market liberalization, they won the attention of the business community by the time of the national elections in 1970 and initially obtained advisory positions in ministries and state agencies after the military coup in 1973. The new regime of Augusto Pinochet relied on the economists of the conservative party at the first stage, but as things got worse in the course of an international crisis, the Chicago Boys and their “harsh recipes” were called upon (Silva 1991:392). A seminar on economic policy in March 1975 gained broader audience when Milton Friedman and Arnold Harberger visited Chile to declare their support for a severe “shock therapy” (FEE 1975). Not very long after that, a Chicago Boy was appointed Minister of Economic Affairs: Neoliberals had gained influence over strategic economic planning positions.

2.1. Radical Reform Period 1975 - 1983

The “shock-treatment”, or what Martínez and Díaz (1996) called the “neoliberal counter­revolution”, began immediately. Following basic neoliberal principles, the size of the state needed to be reduced. Therefore, public sector reforms were introduced to cut state services and reduce expenditures. A major privatization program was initiated - a fundamental reversal: the share of public firms in the GDP constituted 39% in 1973, state employment made up 14% of the total employment. Companies that were formerly expropriated during the “socialist experiment” of Salvador Allende were immediately reprivatized: by the end of 1974, 202 out of 259 firms had been returned to their owners (Larrain 1988). Yet, the program went even further, also privatizing public healthcare and education. Espinoza (2008:272) illustrates its impact on higher education. Trade policies were among the first to be implemented. The ISI was reversed, protectionist policies dismantled, the economy was opened for foreign trade and investments. The Chilean economy lastly experienced dramatic market deregulation: price regulation was almost eliminated at once, job security regulation abandoned, union activities restricted and union leaders “hand-picked” by the government itself.

The neoliberal stabilization program instantly showed some considerable success: in the first year, the fiscal deficit was cut enormously and accompanied by a tighter monetary policy. Inflation was curbed until 1978 (see Figure 1) and continued its declining course due to a nominally fixed exchange rate - the only exception from the Chicago school book. Scholars however unanimously agree on the unconsidered social costs of the great transformation.

Unemployment increased to 26% in 1976, real wages and aggregated domestic demand dropped and income equality deteriorated (see Riveros 1995, Pop-Eleches 2008, Corbo-Fischer 1994). Gregore Pop-Eleches suggests that the consequent application of neoliberal economics was therefore easier due to the highly centralized military regime power, the suppression of leftist parties and labor unions and the selective cooptation of business interests (ibid:252). The transition also went much further than William J. Barber described it by “visible hands [which] needed to be replaced by invisible ones” (Barber 1995:4). Rather it can be stated:

„What Pinochet and the Chicago Boys intended to do was to change the way Chileans thought about the world, their very mentality. They wanted the market approach, the belief in individual action rather than state responsibility, to permeate all of society. This was the real revolution.” (Oppenheimer 1994:148)

2.2. Pragmatic Neoliberalism 1983 - 1990

From 1982 to 1984, Chile was affected more than its neighbors by the repercussions of the financial crisis due to its uncontrolled and widely liberated financial sector. Open capital flows under the fixed exchange rate had led to large capital inflows, but thus worsened external indebtness. The binding index of wages, which had been introduced in 1979 to decrease inflation, now caused increasing production costs for exporters. The collapse of the copper price and investment politics of corporate conglomerates (see Rozas and Marín 1989) eventually led the Chilean economy into a deep recession and the Pinochet government into its most severe crisis of its tenure. Despite its status as a IFI “darling”, it also found itself challenged to pursue its external debt obligations and while promoting economic recovery (Pop-Eleches 2008:253).

By the mid 80’s crisis, following Riveros, the regime’s attention thus shifted from stabilization to structural adjustment (ibid: 11). The political crisis was solved with a combination of stronger repression on the one hand and parallel policy concessions on the other. These included labor market reforms to design the reallocation of workforces more flexible, a healthcare reform to increase the participation of the private sector, administrative decentralization and a more effective targeting of social expenditures to the poor. With a slight turnover towards interventionist market policies in the following years, the Chilean reforms were called not genuinely neoliberal anymore - and its better performance thereafter not being attributed to neoliberalism, but its corrective measures (see e.g. Spiegel Online 05.09.2003).

For further instance, the regime started encouraging aggregated domestic demand, fostering selected sectors with a comparative productive advantage and thus, introducing deliberate economic stimuli, following a comprehensive agenda for growth. It maintained a high real exchange rate after 1985 to develop export business and promote investments (Riveros 1995:14) through devaluation. It bailed out several Chilean banks (including some, that had formerly been privatized) and renationalized a number of 50 enterprises (Barber 1995:1946). And it managed to eventually “convert external debt into domestic investment”, succeeding in a drop of the total external debt in more than 10% (ibid).

The Chilean government, its political course and program in the sense of the earlier quote of Oppenheimer, was eventually strengthened at the end of the crisis. It succeeded to rise the acceptance for its economic and societal model, despite the first generation of Chicago Boys had to drop out of government in the meanwhile. In fact, Pinochet lost a plebiscite which he expected to win in 1988, which lead to the end of the dictatorship in 1990. Facing the first democratic elections, the Chicago Boys warned to not give up on the ongoing economic course. Perhaps also partly attributed to the need of IMF loans, the following democratic governments left the economic course mainly unchanged, addressing instead worsened income distribution.

2.3. Evaluation: The Current State of Literature

It is a mostly shared opinion that it was the particular academic and political circumstances that allowed Chile its radical reform approach. That being said, it is however contested if such authoritarian regime was inevitably needed for the implementation of the reforms. Furthermore, it can be questioned if in the Chilean case the “universalist claim of economics” (Barber 1995:1948) was valid and the purity of these reforms helpful at all. Chile had undertaken comprehensive market reforms already in the mid-1970s, when high rates of inflation and unemployment, alike other South American countries, triggered structural changes (Arnaut 2013:127). Luis Riveros therefore assigns the growth-promoting reforms in the pragmatic neoliberal reform period a key role, while “at the same time giving [also] a more prominent role to the private sector in resource allocation” (ibid: 16). Karin Fischer consolidates both, microeconomic domestic stimuli and a macroeconomic monetaristic course to her summary of the Chicago reform era (Fischer 2007:161).



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University of Potsdam – Chair for Political Science, Public Administration and Organization
SAP Structural Adjustment Programs Latin America Chile Peru Argentina Bolivia Argentinien Bolivien Neoliberalismus Neoliberalism Development Politics Austerity Economics




Title: Chile’s "Shock Therapy" and structural adjustment programs in Latin America. Reforms and outcomes