Limits of technocratic policy making -- Lessons from Argentina

Limits of technocratic policy making -- Lessons from Argentina

Anis Chowdhury Professor of Economics University of Western Sydney Australia Senior Economist United Nations Support Facility for Indonesian Recovery (UNSFIR) Jakarta

The culmination of three and half years (1998-2001) of recession in the sudden collapse of the Argentine economy and the ensuing political crisis last year was not surprising given Argentina's history of economic crisis. During 1981-1990, the Argentine economy contracted by -1.3 percent a year. Hyperinflation ravaged the country in the 1970s and 1980s, and by 1989 the inflation rate reached nearly 5,000 percent. It needed drastic measures to put the economy on track. The task was entrusted to Domingo Cavallo (1991-1996).

Cavallo came to office with a deep commitment to change the economic system, and he was given full authority to right the economy. The president allowed Cavallo to become the most influential person in the cabinet. All other parts of the executive involved in economic affairs, which in other countries tend to have cabinet ranking (e.g., energy, industry, finance, trade), were formally subordinate to the Ministry of Economy.

The Ministry of Public Works was merged with that of Economics. State-owned banks were governed by the Ministry of Economy. The central bank was informally subordinate as well (Cavallo chose the central bank president). All these created the most powerful ministry of the economy ever assembled in Argentina's democratic period, the peak of the state's technocratic development.

Cavallo recruited a cadre of highly trained, like-minded technical experts to fill bureaucratic positions. In his first year in office, Cavallo introduced the largest number of economic reform bills ever introduced in one year. The radical market- oriented reform pursued by Cavallo produced dramatic results; the economy grew by close to 7 percent a year between 1991 and 1995. The Tequila crisis of 1995 which caused the economy to decline by -2.8 percent was very short-lived compared to other Latin American countries. It came out roaring from the Tequila crisis within a year and managed to grow at about 6 percent between 1996 and 1998.

However, unemployment, poverty and inequality continued to worsen even before the Tequila crisis. The unemployment rate soared from 6.5 percent in 1991 to over 17 percent in 1995, the number of people living in poverty increased from 22 percent in 1993 to over 27 percent in 1995, and the Gini coefficient (a conventional measure of inequality) rose from 0.45 in 1992 to 0.47 in 1995. Cavallo himself left the Cabinet in 1996 in the midst of brewing social discontent.

The new coalition government of De la Rua who came to power in 1999 appointed Jose Machinea as Finance Minister. Machinea's appointment was greeted positively by international capital markets and multi-lateral agencies as evidenced by flow of foreign direct investment and new credit from the IMF.

However, domestic investors remained unimpressed, and the economy continued to slide. By 2001 the number of people living in poverty swelled to over 34 percent, despite near zero or negative inflation rates, and the Gini coefficient approached 0.50. Investors were much more worried about worsening social condition and its likely consequences.

However, some analysts blamed the pessimism of investors on the lack of conviction of policy makers, or "political will", and called for a more forceful leader. This brought back Domingo Cavallo. He demanded and was granted special powers to fix the economy by decree. All major policy requests were granted: Labor market reforms, several tax increases, a special powers act in April 2001 and a zero-deficit rule in the summer of 2001 that involved the cutting of wages and pensions and making their recipients junior to bondholders; budget bills were passed on time.

But the investors reacted negatively; with the passing of every decree, the market reacted with a sharp rise in country risk. And at the end, destiny proved unavoidable -- the country exploded in violence and political crisis, and the economy declined by 11 percent.

What can we learn from the Argentine experiment with technocratic policy making and rule by decrees? There are at least four lessons. First, political will cannot be generated by the appointment of strong economic ministers, or by-passing due political processes. Second, the market players are much smarter and understand the futility of such attempts. They know that rule by decrees is not sustainable in a democracy and hence respond negatively.

Furthermore, investors give more attention to other factors, most importantly social cohesion, than purely economic variables such as budget deficit, inflation or interest rates. Third, people may not be willing to accept austere measures that lead to a prolonged economic stagnation. Fourth, in a nascent democracy, the issue of inequality and social justice (as manifested in mass unemployment) cannot be ignored and made subservient to grow first philosophy. The government has a stabilization role as well, as it must provide public goods adequately.

The views expressed herein are entirely personal.