Opening Markets in
The Dream of Prosperity That Never Comes True
Ana I. Eiras (5)
The Heritage Foundation
May 8, 2003
literature on economic growth, development, and prosperity mostly agrees that
the key to prosperity is open markets and sound institutions, particularly a
strong rule of law (1). Sound institutions and a strong
rule of law permit individuals to accumulate wealth, through savings,
investment, or purchases, and permit people to work and enjoy the fruits of
their labor. The protection of private property is the pillar to foster and
sustain economic growth, because for individuals to work, save, and invest, or
for companies to begin and expand their operations, they need to have a
guarantee that their property will not be taken from them (2).
America went through a period in the early 1990s in which countries began to
open their markets more aggressively than ever before. The opening of the
markets, it was said, would modernize the Latin economies, eliminate
bureaucratic distortions, attract foreign investment, and ultimately enable
ordinary Latins to have more jobs and a better standard of living. A persistent
recession since 1997 that spread out throughout the region, along with political
instability, financial crisis, and increasing poverty, shattered the hopes for
prosperity and left many wondering if the U.S. free-market theory would really
work in Latin countries, or if it were a plan to benefit the rich at the expense
of the poor. I am here today in an attempt to provide an answer to that question
and to look at what can be done so that Latin countries can grow and prosper as
they hope to do.
I would like
to use the Heritage Foundation/Wall Street Journal annual Index of Economic
frame the Latin American economies and to help understand what liberalization in
the region was about. Economic freedom is defined in the Index as "the absence
of government coercion or constraint on the production, distribution, or
consumption of goods and services, beyond the extent necessary for citizens to
protect and maintain liberty itself." The Index measures economic freedom in 10
This factor looks at the obstacles to trade in the form of tariffs or
non-tariff barriers, including quotas, licensing, and corruption in customs.
Fiscal Burden of
This factor looks at the top income and corporate tax rate, as well as
government expenditures as a percentage of GDP.
This factor measures government consumption as a percentage of GDP, government
ownership of business and industries, the share of government revenues from
state-owned enterprises, and government ownership of property.
This factor includes the weighted average inflation rate for the past 10
Banking and Finance
This factor looks at the amount of regulation affecting banking and finance
Capital Flows and
This factor looks at the degree to which foreign investment faces the same
regulations as domestic investment, and at restrictions on capital flows.
Wages and Prices
This factor assesses the freedom to set prices privately, whether there is a
minimum wage, and government subsidies.
This factor looks at the regulations affecting businesses, such as steps
required to open a business or to get a license, labor and environmental
regulations, and corruption in the bureaucracy.
This factor assesses the strength and independence of the judiciary to enforce
the law and whether expropriation exists in a country.
This factor assesses the size of the informal sector.
factor, a country receives a score from 1 to 5--where 1 is freest and 5 most
repressed. These scores are averaged to obtain a country's overall score.
Finally, the countries are placed in a world ranking of economic freedom.
One of the
major findings of the Index is a strong, positive correlation between economic
freedom and income per capita (See Chart 1). In fact, every country in the world
with more than $16,000 annual per capita income is economically free or mostly
free in all of the Index factors, not just a few. A recent research study by
Richard Roll and John Talbott from the University of California at Los Angeles,
on the relationship between political and economic freedom indicators and income
per capita, indicates that these variables of study explained about 80 percent
of the variation in per capita income across countries (4).
Of all the variables involved in the study, the property
rights, regulation, and black market factors of the Index were found to have the
highest significance in explaining that variation. In other words, this study
indicates that individuals and businesses invest, save, and work where it is
less costly to do so and where the fruits of their efforts are best protected.
1990s were years of promise for Latin America. The world saw democracy
strengthening, markets opening, freedom flourishing, and investment flowing to
the region. The developed world applauded reform efforts in Argentina, Peru,
Chile, Bolivia, Colombia, and saw reform replicating, although at a slower pace,
in Uruguay, Mexico, and Brazil. People who had left their countries for economic
or political reasons returned to bet, along with their compatriots, on the
promise of prosperity in their countries.
Index as a framework to take a picture of the reform process in the countries I
just mentioned, we find that economic freedom took the form of privatization,
tamed inflation, deregulation of the banking sector and of foreign investment,
and price liberalization. But with the exception of Chile, no Latin country
strengthened its judicial system to protect property rights, nor did any of them
ease regulations on starting and operating, primarily, a small and medium-sized
business. In addition, the informal sector activity increased. All of these are
areas that, as the research we just mentioned indicates, are key to long-term
economic growth and prosperity.
answer to our original question--why liberalism did not deliver prosperity in
Latin America--is that liberalism did not deliver prosperity because it never
existed. To call this partial opening of markets a "free market" is to not
understand what a free market is in the first place. And to expect a partial
opening of markets--which precisely for being "partial" concentrates wealth,
destroys small businesses, and benefits parts of society at the expense of,
mostly, the poor--to deliver the kind of prosperity that developed countries
enjoy is like hoping to win the lottery without buying a ticket.
quickly mention that Uruguay is a peculiar reform case. Reform in Uruguay has
been slow, although progressive, and reform efforts have been preserved. It has
a sound judiciary. So, from this perspective, Uruguay has a tremendous
opportunity to advance reform and bring prosperity, since it seems to have the
institution--the judiciary--that will make that reform sustainable. All it needs
is the political will to open the markets fully.
back, again, to the Latin experiment with reform in the framework of the Index,
let me offer a few insights about our region:
Chile, there is no principled commitment to the reform process in Latin America.
The Latin countries reform in response to a crisis, or to the prospect of good
relations with the United States that eventually can give them some kind of
access to the U.S. market. Also, reform sometimes is imposed by international
organizations like the World Bank or the International Monetary Fund (IMF) in
exchange for loans. When reform is imposed, it is hard to sustain.
easing the burden of taxation, corruption and bureaucracy on small and medium
business, the Latin countries will not be able to foster a dynamic economic
environment. As a result, problems of unemployment, recessions, and political
instability will become persistent.
And the most
important conclusion is that economic reform without a strong rule of law cannot
right policies, Latin countries can expect to have economic ups and slowdowns,
but they will not plunge into a deep crisis every 10 years, wiping out years of
reform efforts. It is ultimately their choice whether they want to develop or to
live eternally in poverty and instability.
Analyst in the Center for International Trade and Economics at The Heritage
Foundation. She spoke at the Artigas Institute of Foreign Service in Montevideo,
Uruguay, on March 12, 2003.
Examples of these studies include, but are not limited to, Richard Roll and John
Talbott, "Why Developing Countries Just Aren't," available at
www.worlddevelopmentnow.com/id21.htm ; Robert J. Barro, Determinants of
Economic Growth: A Cross-Country Empirical Study (Cambridge, Mass.: The MIT
Press, 1997); Robert Cooter, "The Rule of State Law and the Rule-of-Law State:
Economic Analysis of the Legal Foundations of Development," in Law and Economics
of Development, ed. Edgardo Buscaglia, William Ratliff, and Robert Cooter
(London: JAI Press Inc., 1996); Hernando de Soto, The Other Path (New York:
Harper and Row, 1989).
Lee Hoskins and Ana I. Eiras, "Property Rights: The Key to Economic Growth," in
Gerald P. O'Driscoll, Kim R. Holmes, and Mary Anastasia O'Grady, 2002 Index of
Economic Freedom (Washington, D.C.: The Heritage Foundation and Dow Jones &
Company, Inc., 2002).
Available in English and Spanish at
Roll and Talbott, "Why Many Developing Countries Just Aren't."
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May 31, 2003