World Development Vol. 27, No. 3, pp. 477±503, 1999 Ó 1999 Elsevier Science Ltd All rights reserved. Printed in Great Britain 0305-750X/99 $ ± see front matter PII: S0305-750X(98)00152-1 Stabilization and its Discontents: Argentina's Economic Restructuring in the 1990s

MANUEL PASTOR JR. University of California at Santa Cruz, USA

and

CAROL WISE * Johns Hopkins University, Washington, USA Summary. Ð This paper assesses the Argentine stabilization and market reform strategies since 1989. We argue that Argentina may be penned in by its own success: exchange rate targeting quelled in¯ation but the resulting real appreciation has limited export and employment growth; microeconomic reforms raised eciency but have threatened in- come distribution and hence political stability; exclusive styles of policy-making helped enact reform but have led to corruption and policy insensitivity and contributed to rising social discontent. We close by suggesting how a ``second generation'' of reforms could tackle these issues and spread the proceeds of reform to a wider segment of the Argentine public. Ó 1999 Elsevier Science Ltd. All rights reserved.

1. INTRODUCTION President with a market-reassuring economics Ph.D. from the University of Chicago. More Until not so long ago, Argentine economy minister fundamentally, it appeared that the country Domingo Cavallo was fond of saying, ``Argentina is had made the transition from sole reliance on Mexico two years later''. When, in late December, the credibility of just a handful of ocials to a the shockwaves of the Mexican devaluation caused a deeper faith in the macroeconomic laws now fall in the Buenos Aires stockmarket and an upsurge governing Argentina's economy. in demand for US dollars, Cavallo changed his tune. ``Argentina,'' he said, ``is not Mexico''. Latin Ameri- can Weekly Report, January 12, 1995. * The authors thank the North-South Center at the University of Miami, the US Institute of Peace, the On July 26, 1996, Argentina's ¯amboyant Social Science Research Council, and the Fulbright economics minister, Domingo Cavallo, was Commission in Buenos Aires for funding the research on summarily removed from oce by Argentina's which this article is based. Maria Barboza, Julie Jacobs, equally ¯amboyant President Carlos Menem. Rachel Rosner, and Walter Weaver provided excellent With the ocial announcement coming late on research assistance. Special thanks to Fernando Flint, a Friday afternoon, markets had little time to whose help and support in Buenos Aires contributed react to the departure of an ocial who had greatly to our ®eld work; to Adolfo Canitrot for hosting been the architect, and self-styled guarantor, of this project at the Instituto di Tella in Buenos Aires; and the famed ``Convertibility Plan'' responsible for to Carol Graham, Fernando Flint, Robin King, Victoria delivering Argentina from the throes of hyper- Murillo, Bill Smith, Nestor Stancanelli, and two anon- in¯ation. Yet as the next business week opened, ymous referees for their thoughtful comments. An the peso held its value and stocks actually rose. earlier version of this paper (under the same title) was In the short-run, this favorable reaction sig- published as Agenda paper 31 by the University of nalled a positive assessment of Cavallo's re- Miami North-South Center (Coral Cables, FL: May placement by a low-key former Central Bank 1998). Final revision accepted: 21 September 1998. 477 478 WORLD DEVELOPMENT

But should Argentina be celebrating a sort of agree that, in light of the prevailing high in- ``end of history'' Ðor at least its own history of ¯ation, there was little alternative to the erratic policy cycles, chronic macroeconomic Convertibility Plan when it was adopted, but instability, and prolonged bouts of social and argue that the resulting appreciation has likely political turmoil? While the Convertibility Plan dampened the potential for export and em- purged the economy of in¯ation, and fostered a ployment growth. Section 3 reviews the key return to growth, particularly as pent-up de- microeconomic initiatives that were undertak- mand surged through the economy during en in conjunction with the convertibility sta- 1991±1994, there have also been some clear bilization plan and elaborates on the main pitfalls to this strategy. Most obvious has been dimensions of distributional stress (including a sharp appreciation of the exchange rate, underperforming labor markets, increasingly which has worked against the country's full unequal household incomes, and growing dis- realization of its export potential and may parities in the performance and asset base of make it dicult to sustain higher growth into small and large ®rms); we then review the the medium term. A major symptom of this politics of the reform process, noting that the dilemma is the precarious rate of unemploy- Menem administration's autocratic and insu- ment, which in Buenos Aires had increased to lated style of decision-making, especially when around 13% by 1994 and then skyrocketed to combined with the uneven distribution of 20% in the wake of Mexico's 1994 peso crisis. bene®ts from new policies, has worked against While the labor market has improved since, the need to broaden the social base for reform. much of the available work is now temporary, The conclusion sketches strategies to address and underemployment remains a serious today's shortcomings, with speci®c attention problem. Not surprisingly, social tensions are on the macro, micro, institutional, and politi- again running high in Argentina, with public cal dimensions. concern over hyperin¯ation giving way to the fear of ``hyperunemployment,'' and opposition politicians making gains in recent political contests. 2. MACROECONOMIC STABILIZATION: In this essay, we assess the Argentine exper- CONTEXT, STRATEGIES, AND iment and speculate on its future prospects. OUTCOMES While the growth and in¯ation results may have been impressive, there are worrisome employment and distributional trends which Argentina has always been a country with moderate are more than transitional costs related to growthÐbelieving that spectacular growth and riches market restructuring. Rather, they have re- are right around the corner. And when a good year sulted from the failure to coordinate micro and comes, the Argentines say, ``ah-ha, here comes the life we have been waiting for and so deserve''ÐDaniel macro reforms, that is, to o€set rigid manage- Heyman, Sta€ Economist, UN Economic Commis- ment of ®scal and exchange rate policy under sion for Latin America and the Caribbean, Buenos the Convertibility Plan with programs designed Aires.2 to help economic agents adjust to the addi- tional simultaneous challenges of trade liberal- (a) In¯ation, convertibility, and growth ization and privatization. As a result, Argentina needs what Michel Camdessus, the 1989 marked a dramatic break with Argen- head of the International Monetary Fund tina's past. For the ®rst time ever, a demo- (various years) (IMF) has termed a ``second cratically elected president from one political generation'' of reforms,1 especially a more co- party was succeeded by a democratically elect- hesive set of market-supporting strategies and ed president from another party (McGuire, far more attention to repairing the distribu- 1995, p. 200). Unfortunately, this positive po- tional stresses and political strains that have litical transition occurred in the midst of the been part and parcel of Argentina's contem- country's worst economic crisis; as newly porary political economy. elected President Carlos Menem took oce in The remainder of this essay develops these July, the monthly in¯ation rate soared to 197% arguments as follows. Section 2 analyzes and (see Figure 1).3 Given the urgency of the crisis, critiques the macroeconomic stabilization the President reached beyond the working class program that began with the implementation and populist roots of his own Peronist backers of Cavallo's Convertibility Plan in 1991. We in the Partido Justicialista (PJ) and sought STABILIZATION AND ITS DISCONTENTS 479

Figure 1. Argentine monthly in¯ation, 1982±97.

the support of business interests and the This new set of rules also enhanced the private middle classes in the e€ort to tame skyrocketing sector's in¯uence over the economy: if local in- prices. vestors were displeased with the course of eco- At ®rst, the Menem team moved gradually nomic policy, the exodus of their resources via on the macroeconomic front, launching a capital ¯ight could trigger a destabilizing reces- ``Bunge and Born Plan'' named after the sion.7 To bring the private sector more ®rmly on county's largest transnational ®rm whose ad- board in facilitating the process of disin¯ation, visors had helped to design it.4 The moderately the government initially asked leading compa- heterodox program, which relied on the same nies to ``voluntarily'' engage in price restraint. As sort of price controls as had been implemented the currency gradually stabilized, so did prices. under Alfonsõn's Austral Plan, unraveled By May 1991, monthly in¯ation had tapered quickly when the government was forced to down to around 3% and by 1992, the monthly carry out a large step devaluation in December average was less than 1.5%. By 1994, annual in- 1989. At this time, all price controls were ¯ation was less than 4%. eliminated, and the currency was allowed to On the ®scal side, the Menem administration ¯oat. Not surprisingly, in¯ation exploded once had inherited a public sector de®cit that averaged again in the ®rst quarter of 1990; thereafter, 9% of GDP through the 1980s.8 Because the in¯ation slowed, albeit to a still worrisome rate Convertibility Plan excluded the possibility of of 11% a month.5 domestic credit creation, the central government In January 1991, Domingo Cavallo was ap- was under intense pressure to keep its ®scal house pointed as Economics Minister and soon in order. Fortunately, the Menem administration launched the now famous Convertibility Plan. had moved, even prior to Convertibility, to Passed quickly by the Argentine Congress into eliminate tax evasion, improve tax administra- formal legislation, the Plan obliged the Central tion and compliance, and curtail rampant public Bank to: (i) back up a ®xed exchange rate by spendig. Legislative reform centered on increas- agreeing to convert national currency into for- ing tax revenues on income, a sizeable increase in eign exchange at that rate; and (ii) calibrate the the value-added tax (from 13% to 18% ± subse- monetary base to the level of foreign currency quently raised again to 21% in March 1995 as an assets. Like the approach that evolved in Me- ``emergency measure'' but never reduced as the xico during 1987±94, a key assumption was that ``tequila crisis'' subsided) and the construction of a ®xed exchange rate, when coupled with im- a regulatory framework for the privatization of port liberalization, would provide an e€ective state-owned companies and assets. control against domestic price hikes. More The impacts of these monetary and ®scal re- signi®cantly, by removing discretion from forms on growth were initially positive. As can monetary creation, convertibility sought to be seen in Figure 2, the ®rst two years of the impose the sort of macroeconomic discipline program prompted a bouyant recovery, with once provided by the historic gold standard.6 growth sustained at a slightly more moderate 480 WORLD DEVELOPMENT

this case, it took until 1994 before domestic in¯ation fell more or less in line with interna- tional in¯ation.9 As a result, the real currency value steadily increased over the period, but especially in the earlier higher-in¯ation years. This pattern is evident in Figure 3, which shows the average annual real exchange rate.10 Dis- counting the upward surge in 1989Ðhyperin- ¯ation episodes are often associated with a sharp decline in the value of the local curren- cyÐwe can see that, by 1993, Argentina's real exchange rate had settled to about half of the value that it had held during most of the period following the 1982 debt crisis.11 While this level may be a misleading benchmarkÐthe earlier period was characterized by high in¯ation, low growth, and signi®cant uncertaintyÐthe dra- Figure 2. GDP growth in Argentina, 1982±97. matic shift in the peso's value did present a challenge to economic balance.12 pace in 1993±94. In regional terms, Argentina Indeed, both the rising value of the peso and posted the second fastest growth rates for this the steady increase in GDP (and hence de- period in Latin America, and the Argentine mand), were soon felt in the trade balance. In recipe was pronounced a success both at home Argentina, export sales have often been a ``vent and abroad. In light of the extreme policy for surplus'' rather than a primary goal of do- swings and political economic decline that had mestic producers. As can be seen in Figure 4, characterized the country throughout the post- exports were indeed brie¯y ``crowded out'' by war era, it appeared that Argentina had ®nally the 1991±92 resurgence in demand within the turned a necessary corner. domestic economy, and then grew moderately thereafter.13 What was most striking in the (b) All that glitters is not (the) gold (standard) trade sector was the dramatic surge in imports: during 1990±94, the dollar value of imports Or had it? By late 1994, some investors and swelled by more than 400%. The trade balance ®nancial analysts were again expressing con- correspondingly moved from a US$8.6 billion cern about Argentina, particularly with regard surplus to a US$4.2 billion de®cit, a shift on the to the rising value of the peso. In the aftermath order of 7% of GDP. of hyperin¯ation, it is typical for price move- The medium-term sustainability of such large ments to take time to completely stabilize; in de®cits depends on whether those investors

Figure 3. Real exchange rate in Argentina, 1982±97. STABILIZATION AND ITS DISCONTENTS 481

Figure 4. Exports, imports, and trade balance in Argentina, 1982±97. who provide the o€setting capital ¯ows believe investment; the huge in¯ow in 1993 partly re- that trade surpluses are likely in the future. If ¯ects a spate of privatizations of state-held international investors are rational, the pres- companies, including the state-owned oil com- ence of a de®cit may therefore be a sign of pany, YPF (de la Balze, 1995, p. 93; Grosse and con®dence; however, it is useful to recall that Yanes, 1996). Nonprivatization FDI increased equally rational ®nanciers may simply be tak- modestly and there also seems to have been a ing advantage of high post-stabilization interest substantial return of ¯ight capital during this rates while maintaining a short position that period.14 Overall, the pattern suggests a mix of will allow an easy exit. It is crucial, then, that both permanent and more short-term ¯ows. de®cit countries try to attract longer-term ¯ows The government squirreled away a signi®cant and to steer their enhanced supplies of foreign portion of the currency in¯ow, allowing re- savings away from current consumption and serves to increase dramatically through 1994. toward the expansion of productive capacity. Part of the reason for this was that the gov- What was the nature of ®nancing and the ernment still needed to fully back the currency; investment/consumption balance in post-stabi- as Williamson (Williamson, 1995, p. 9) notes, lization Argentina? Figure 5 indicates the dra- the Central Bank initially had full cover in matic, though uneven, increase in portfolio terms of gross reserves but not in terms of net

Figure 5. Foreign direct and portfolio investment in Argentina, 1982±97. 482 WORLD DEVELOPMENT

Figure 6. International reserves in Argentina, 1982±97. reserves (see Figure 6) and did not achieve the ment ratios however, rose even more dramati- latter until 1992. After this, reserve accumula- cally, each increasing by about 10 percentage tion continued, partly to provide for remone- points during 1990±94. tization in the wake of falling in¯ation and the While the import boom was worrisome, consequent increase in demand for real liquid- Figure 8 shows that imports of capital goods ity. and accessories rose from around a third of With regard to the investment/consumption total imports in 1990 to nearly 44% in 1994. Of balance, we should note that consumption up- course, consumer goods rose dramatically as swings in the wake of stabilization may simply well, going from below 10% of imports to re¯ect consumer con®dence in future income nearly 25%; the relative loser in the import (Tanner, 1997).15 Still, investment increases, boom was intermediate goods; one reason may particularly in export capacity, are key to fu- have been that ®nal goods imports displaced ture trade supluses. In Figure 7, we plot con- old import-substitution industries, hurting sumption, investment, and imports as a ®rms which had been signi®cant importers of percentage of GDP. As can be seen, consump- parts for assembly.16 tion was indeed on the upswing during 1990± In any case, investment was a key component 94, increasing by nearly ®ve percentage points of both GDP and import growth over the pe- over this period. Both the import and invest- riod. While some of the documented burst in

Figure 7. Consumption, investment, and imports as a percentage of GDP in Argentina, 1982±97. STABILIZATION AND ITS DISCONTENTS 483

Figure 8. Composition of imports ± Argentina, 1990 and 1994. capital spending was due to pent-up demandÐ lined their operations in response to new liberal driven by low interest rates, a favorable ex- economic incentives, and labor productivity change situation, and the need to rebuild cap- increased dramatically.20 But, in light of Ar- ital stockÐthe government had clearly met its gentina's historically low levels of unemploy- objectives of enhancing private investment. ment, and the context of economic boom that Still, some observers worried that the bulk of prevailed until 1995, the 1994 jump in the investment was devoted to the nontradeable number of unemployed was both alarming and sector,17 while others argued that low value- politically problematic.21 added agricultural products continued to By 1994, with unemployment rising, an ap- dominate Argentina's exports.18 preciated peso dampening export growth, in- Meanwhile, as can be seen in Figure 9, the vestment still below its 1980 level, and capital economic recovery did little to alleviate the accumulation distorted toward nontradeables, sharp rise in unemployment, which hit 13% in some began to worry about the medium-term Buenos Aires in late 1994.19 To some extent, viability of the Argentine strategy. In Decem- increasing labor market dislocation re¯ected a ber of that year, one multilateral banker ob- positive development, as companies stream- served that ``there actually is no `model' beyond

Figure 9. Unemployment in Argentina, 1982±97. 484 WORLD DEVELOPMENT the adjustment plan which Cavallo introduced manent jobs actually fell by nearly 6% over the in 1991. Argentina should start thinking hard course of that year and the employment im- about what it will do next.''22 provement came from a dramatic increase in temporary positions (EIU, 1997, p. 19).26 In (c) The 1995 ``crack'' and beyond 1997, GDP rose a startling 8.2%; while this was welcome news, a sizeable trade de®ct resulted Before Argentine policy makers had a chance and the employment e€ects were relatively to address these challenges, the Convertibility weak. Not until October 1997 did unemploy- Plan itself had come under attack.23 In the ®rst ment in Buenos Aires drop below 15% and few months that followed the December 1994 national unemployment below 14% (see Fig- Mexican currency crisis, over US$8 billion ex- ure 9), still above the pre-crisis level. Estimates ited from Argentina, an amount equal to about suggest that half of the new jobs created were 18% of all deposits in the domestic banking temporary, and many worry that both the system. As Domingo Cavallo observed in Au- composition of trade, with the biggest export gust, 1995, ``the fall in deposits between Janu- increases in primary products with little value- ary and April was similar to that of the crack of added, and the yawning commercial de®cits 1929.''24 Publicly, the government reacted by will constitute a bottleneck for future job cre- holding a ®rm line on its quasi-gold standard; ation.27 Portfolio investment also rebounded quietly, rules were bent to prevent a massive through 1996 and 1997; while this reassured recession. The Convertibility Plan included a some, it led others to wonder whether Argen- ``loophole'' which allowed the Central Bank to tina was again becoming vulnerable to the va- hold up to one-third of its assets as dollar-de- garies of international capital markets. nominated government debt, and the bank Still, the major achievement of this adjust- moved quickly to purchase such debt in order ment period was the maintenance of credibility: to inject new dollars into the system. Previously the government had (more or less) stuck with steep reserve requirements in the private Convertibility and had been willing to su€er the banking system were also cut by half, allowing employment consequences and other costs. Of for an expansion in liquidity. course, the key policy issue is whether staying The above measures helped to slow the de- this particular course simply saddled Argentina cline in GDP, but investment and employment with an ``overvalued'' exchange rate which continued to plummet through 1995 (see Fig- leaves the country vulnerable to yet another ure 10), with unemployment in Buenos Aires crisis. In short, should Argentina have used the hitting 20.2% in May of that year. By the end of ``cover'' of the tequila crisis to devalueÐand 1996, output had more or less recovered its pre- not having done so then, should it consider crisis level,25 but unemployment had declined depreciation possibilities now? by just 2±3 percentage points; moreover, per- The answers to these questions depend, in part, on whether the currency was or is actually overvalued. Argentine policy-makers naturally reject any notion that the peso is overvaluedÐ as well they should since public statements to that e€ect by high ocials are likely to trigger a stampede from the currency. These same policy- makers argue that the currency was initially undervalued and further note that the exchange rate is validated by steady capital in¯ows. Morever, they suggest, improving productivity by Argentine labor is superior to depreciation as a tool for achieving export competitivenessÐ and there has indeed been a signi®cant increase in industrial output per worker, partly because of employment downsizing.28 These explana- tions would perhaps be more convincing if they did not resonate so closely with those recited by Mexican technocrats prior to that country's Figure 10. Growth of real GDP, consumption, and in- 1994 crash; moreover, beyond the gamesman- vestment in Argentina, 1982±97. ship in which policy-makers are afraid of STABILIZATION AND ITS DISCONTENTS 485

``talking down'' the currency, lies a more serious crisis. While this may, to some degree, re¯ect debate about the behavior of the real exchange equilibrium processes a la Uribe (1997)Ðand rate in a poststabilization economy. while ``both theory and evidence suggest that As Dornbusch and Simonsen (1987) note, real appreciation is an unavoidable product of ®xing the nominal exchange rate can cause real lowering in¯ation'' (Calvo and VeÂgh, 1994, p. appreciation when inertial forces lead to a slow 44)Ðthis is still a worrisome pattern. disin¯ation. If economic agents belive that the One substitute for a ¯exible exchange rate real appreciation will bring future problems, would be a ¯exible labor market. If wages ad- they are likely to step up current consumption, a justed easily, as per theoretical models, then trend which merely exacerbates the pressure on there might be no need to employ the relatively de®cits and hence increases the likelihood of an blunt tool of depreciation. But, as detailed be- eventual meltdown (Guidotti and VeÂgh, 1997).29 low, progress on this microeconomic front has Yet it is hard to know whether a high currency been erratic and thus the burden of adjustment value (or even a consumption boom) are prob- has fallen heavily on employment. While some lems while one is still in the midst of stabilization: might argue that restoring the tool of depreci- as Uribe (1997) suggests, real appreciation can ation would simply postpone necessary labor occur even with ¯exible exchange rates, primar- market ¯exibilization, seven years of footdrag- ily because the in¯ation tax falls more heavily on ging in ®nalizing a comprehensive package of nontradeable goods and its decline forces a shift new labor market regulations does suggest a in relative demand (and hence relative prices) trend of strong resistenceÐand the changing away from tradeables.30 Thus, distinguishing political climate, which has begun to favor whether appreciation is an equilibrium phe- those more worried about labor incomes even nomenon which re¯ects a natural and positive as the ruling party may become more depen- course of events, or the result of a poor (and re- dent on its union supporters, is probably not versible) exchange rate policy, can be dicult. conducive to reform. In the meantime, Argen- Here, we take a simple approach based on tina has the worst of both worlds: its hands are the methodology developed by Goldfajn and tied by rigid exchange rate rules and labor Valdes (1996) in their study of currency ap- market ¯exibilization remains stymied by po- preciation episodes in 93 countries during litical deadlock. 1960±94. Gathering monthly data on the Ar- There is little doubt that Cavallo had little gentine exchange rate for the last 37 years choice but to ®x the peso against the dollar at (from January 1960 to August 1997), we cal- the outset of his tenure as Economics Minister: culated an ``equilibrium'' (or purchasing power in the wake of hyperin¯ation, the Convertibility parity) real exchange rate, as well as deviations Plan o€ered a highly visible and essential signal from this equilibrium value.31 Our results sug- of the government's commitment to ®scal and gest that the Argentine peso was modestly un- monetary discipline.33 It is also likely that de- dervalued when Cavallo took oce, but preciation in the context of the ``tequila shock'' crossed a 25% appreciation threshold (above would have squandered hard-won gains in the equilibrium rate) less than two years later. public con®dence. Over time, however, the Goldfajn and Valdes note that of the 71 cases Menem administration has perhaps hung too they studied that crossed this threshold, less much of its credibility on the exchange rate than 5% returned to within 5% of the equilib- anchor, and at the expense of cultivating a rium real exchange rate without a nominal de- much broader range of con®dence-enhancing valuation; instead, most governments switched signals within the country's economic and po- from a ®xed to a ¯oating rate, and in 90% of litical institutions.34 It is to these broader in- their cases, more than half of the movement stitutions that we now turn. back to equilibrium was done by currency de- preciation and not price shifts.32 Since 1970, every time Argentina crossed this threshold for more than two months, the deviation from the 3. THE MICROECONOMIC SCENARIO: real exchange rate continued to the point of a THE POLITICAL ECONOMY OF ®nancial explosion. In the current episode, the ADJUSTMENT threshold was crossed in a sustained fashion and this was subsequently followed by a modest downward trend; thus, the e€ect has been one of It is not so much a question of having con®dence in a ®nancial ``simmer,'' rather than a full-blown the market, as it is of creating markets. (Bernardo 486 WORLD DEVELOPMENT

Kosako€, Sta€ Economist, UN Economic Commis- ratio was lopsided: exports nearly doubled over sion for Latin America and the Caribbean, Buenos 1990±95, but imports jumped fourfold over this 35 Aires) same time period. Á Á Á we support the model, but we do not want to be While most economists would endorse Ar- buried by it. (Jorge Blanco Villegas, President of the Union Industrial Argentina)36 gentina's increased trade and outward orienta- tion as key to expanding growth and incomes (a) Microeconomic initiatives (Edwards, 1995, ch. 5), Argentina has experi- enced an extended lag in the realization of So far, we have focused on the macroeco- employment gains. While some of this is due to nomic stabilization strategy devised by the exchange rate as well as labor market rigidity, it Menem administration. Yet the government has is important to note that the country's com- also been engaged in an ambitious program of mercial expansion has been dominated by low microeconomic reforms, including trade liber- value-added exports of agricultural and energy alization, privatization, and deregulation. In products. Indeed, low value-added natural re- this section, we review both the microeconomic source exports jumped from about 25% of all initiatives and the distributional stresses they, in exports in 1989 to 34% in 1994, suggesting the conjunction with the prevailing macroeconomic limited progress that has been made in shifting strategy, have triggered. We then turn to the to the kinds of high value-added exports nec- politics of reform, focusing on the changing essary for triggering future income and job bene®ts and costs of the administration's style growth (Edwards, 1997; Toulan and GuilleÂn, of closed and autocratic decision-making. 1997, p. 402). In regional terms, Argentina is certainly not alone in facing this need to gen- erate higher value-added economic activities, (i) Trade liberalization which are essential for improving a given country's level of development. Policy-makers Like many Latin American countries since have responded to this challenge by granting a the late 1980s, Argentina has pursued its trade range of tax incentives to those producers who liberalization goals unilaterally, through the can credibly demonstrate an increase in their multilateral Uruguay Round, and within a export capacity (de la Balze, 1995, pp. 117± subregional context (Berlinski, 1996; Tussie, 122). The lackluster response of higher value- 1996; Wise, 1998). In 1988, Argentina ®rst added exports to such policies appears to be a opened slowly with considerable pressure and matter of other crosscutting incentives which ®nancial support from the multilaterals, build- favor production for the domestic market, es- ing in part on the bilateral integration thrust pecially the appreciated peso. In this sense, with Brazil that began in 1986. The reduction there has been a lack of coordination between of tari€ and nontari€ barriers was then esca- micro and macroeconomic strategies. lated in 1990±91 as Argentina followed in Me- Other structural factors have worked against xico's footsteps, seeking to link trade a trade-led reactivation of employment. The liberalization with a ®xed exchange rate as the top conglomerates in the main tradeable sectors centerpiece of a stabilization strategy. At the have indeed increased eciency and consoli- subregional level, Argentine ocials have dated their assets and ties with foreign capital, committed to further liberalization and dereg- but in a highly capital-intensive and concen- ulation under the Mercosur customs union trated manner. By 1994, the 30 largest export- (which includes Argentina, Brazil, Paraguay, ing ®rms controlled 55% of all exports, and in and Uruguay, and Chile and Bolivia as asso- just four sectors (petroleum, foodstu€s, steel ciate members) that was launched on January products, and motor vehicles) (Toulan and 1, 1995 (Guira, 1997). GuilleÂn, 1997, pp. 406±407). The bigger ®rms By April 1995, Argentina's average tari€ was have not been the major employment genera- half of what it had been in October 1989, and tors: whereas the country's 500 largest ®rms some progress had been made in reducing the accounted for about 30% of GDP in 1994, these dispersion rate around the tari€ (Artana and top companies employed just 20% of the Navajas, 1995, p. xiv).37 Meanwhile, one stan- workforce. Meanwhile, during 1984±94, the dard measure of opennessÐexports and im- total number of manufacturing establishments ports as a percentage of GDPÐhad risen from that employed 11±50 workers fell by 21%, as less than 17% in 1990 to over 30% by 1996.38 As did the number of employees in these same Figure 4 indicated, the growth in this trade sized companies (FIEL, 1996, p. 140). STABILIZATION AND ITS DISCONTENTS 487

The basic problem is that most of the small pirically remains problematic.42 In any case, and medium-sized ®rms that form the core of Argentina does seem to have settled into a the country's traditional industrial base lack pattern in which trade is dominated by one full access to the technology, skills, and market main trading partner (Brazil) and in just one information that would enable them to partic- sector (autos) (Toulan and GuilleÂn, 1997, pp. ipate more fully in the new market economy.39 404±406).43 It is not clear that the situation is Since these ®rms have traditionally accounted improving: for example, Argentina's exports to for the majority of jobs created, the resulting the European Union expanded by 2% in 1996 squeeze has contributed directly to the growing while exports to Brazil grew by slightly more unemployment challenge. A special diculty than 20%, and the divergence was likely worse has been the limited availability of reasonably in 1997.44 The risks of this excessive reliance on priced credit with which to ®nance moderniza- one partner have become clear as Brazil's at- tion: in late 1996, large companies in Argenti- tempt to counter the negative e€ects of the 1997 na's highly segmented credit markets reported currency disruptions in Asia has quickly re- paying 8±10% interest on business loans, while sulted in a burgeoning de®cit for Argentina. smaller ®rms paid between 15% and 30% inte- rest.40 Equally important has been the lack of (ii) Privatization45 integrated ties between small and large ®rms, links which in East Asia and elsewhere have By the late 1980s, it was estimated that Ar- provided the large exporters with service inputs gentina's approximately 400 state-owned com- and ¯exibility and bene®tted the small ®rms panies accounted for 7% of domestic GDP and through increased demand. 21% of total gross investment. At the same Interestingly, one of the most important time, the combined losses of the 13 largest factors in Argentine export growth has not public ®rms were US$4 billion in 1989, re¯ect- been liberalization per se but rather trade en- ing the extremely low levels of productivity hancement under the elaborate set of rules within the government enterprise sector. With governing Mercosur, as well through special in¯ation running at 5000% that same year, and arrangements with Brazil in sectors such as public opinion rebelling against the low quality autos. Partly as a result, the share of Argentine of goods and services provided by state com- exports going to Brazil rose from 5.9% in 1985, panies, the newly inaugurated Menem admin- to 11.5% in 1991 at the beginning of the Con- istration seized the opportunity to act against vertibility Program, to nearly 28% by 1996 longheld preferences for state ownership in (CEP, 1997, p. 54); indeed, the increase in Ar- Argentina. Two laws were immediately passed gentine exports to Brazil accounted for nearly in 1989, the Economic Emergency Law and the two-thirds of the entire increase in exports State Reform Law, which together enabled the during 1991±94, and the improvement in Ar- government to quickly begin unloading state- gentina's trade balance with Brazil accounted held assets. for a full third of the trade adjustment over the This legislation initially authorized the Pres- dicult 1995±96 period.41 In one of the most ident to place trustees in charge of the state dynamic growth sectors, the motor vehicles ®rms for up to one year, with the broad man- industry, higher levels of intraindustry trade date to begin selling o€ as much as possible, have resulted as much from the two countries' and by whatever means necessary. Assets were balancing requirements as from competitive rapidly sold across all economic sectors, specialization and economies of scale (Biel- including airlines, oil companies, steel, petro- schowsky and Stumpo, 1995, p. 159; Mondino chemicals, insurance, banks, telecommunica- and Roca, 1997, pp. 189±192). tions, and postal services. The positive impact Some have worried that both the overall on the ®scal balance, particularly in the crucial Mercosur pact and the growing Argentine± years of 1991 and 1992, can be seen in Fig- Brazil relationship has simply diverted trade ure 11 (the huge privatization yield from the away from more competitive trade partners 1993 sale of the state oil company was not outside of this subregional scheme (Yeats, applied to the ®scal accounts for that year, 1996). Others have suggested that the overall which would have shown a large divergence trend within Mercosur is one of trade creation between government revenues with and without (Sepulveda and Vera, 1997, pp. 9±10); because privatization).46 The overall receipts have been Mercosur is still riddled with numerous excep- impressive: during 1990±94 the federal govern- tions, any attempt to resolve this debate em- ment raised nearly US$10 billion in cash and 488 WORLD DEVELOPMENT

Figure 11. Fiscal performance in Argentina, 1990±97. absorbed an even larger amount of public On the upside, the auction of assets ranging bonds from the market. Since this boom peri- from ports to gas and petrochemical plants has od, the pace of privatization has slowed con- attracted world class investors who, in con- siderably. The receipts for 1995±96 were junction with various local consortia, have in- approximately US$640 million, representing troduced those standards, know-how, and the sale of a handful of ®rms in the hydro- technologies most conducive to increased electric sector, and one large petrochemical competitiveness. In particular, the widespread enterprise.47 privatization of Argentina's public services Given the context of high in¯ation, the ur- holds strong potential for improving the quality gent need to reduce the ®scal de®cit, and the of those nontradeable inputs which are essen- general public dissatisfaction with state ®rms, tial for supporting exports and growth. there is no doubt that the time had come for the On the downside, in its rush to balance the Argentine state to shrink the government en- budget and produce some concrete results in terprise sector. Still, while the privatization the eyes of wary investors and in¯ation-weary process has been praised for placing Argentina voters, the government rode roughshod over in the vanguard of Latin America's market re- some of the basic principles that have under- formers, public sentiment sees privatization as pinned the privatization process elsewhere. For a main factor in the country's high rates of example, not all state ®rms went to the highest unemployment.48 The data tell a slightly dif- or most sophisticated bidder, and the barrage ferent story: because state ®rms have tradi- of sales in the early 1990s was made in the tionally accounted for just 3±4% of the absence of a proper regulatory framework to country's total employment (de la Balze, 1995, prevent the emergence of costly private mo- pp. 88±89), any recessionary impact of nopolies in such sectors as telecommunications privatization on the real economy may have as and the airlines industry (Gelpern and Harri- much to do with the pace and manner in which son, 1992).49 To date, foreign majority control assets have been transferred from public to of assets and technical expertise has been the private hands, with the key being whether such rule, with domestic partners relegated mainly to transfers achieve the eciency and productivity the lower level administrative functions of pri- gains that can attract further investment and vatized ®rms. But more to the point, the gen- lay the groundwork for employment expansion erous inducements o€ered thus far to foreign and sustainable growth over the long-run. bidders and their Argentine partners have yet Recent research on the politics of to foster a more dynamic pattern of production privatization in Argentina suggests that while and investment geared toward the external the successes of the privatization drive have market. In a survey of 28 privatized companies been notable, so too have the failures (Chud- which represent nine di€erent individual sec- novsky et al., 1995; Saba and Manzetti, 1997). tors, Chudnovsky et al. (1995, p. 99) found that STABILIZATION AND ITS DISCONTENTS 489 only two had adopted an outward export ori- that business desires, and labor's key role in the entation (a meat-processing ®rm and a manu- Menem coalition has allowed this sector to facturer of gear boxes), while the research and block reform. The result has been higher labor development activities of all but a handful of costs (including nonwage labor costs that run respondents were basically nil. The picture is as high as 50% of gross wages in Argentina, as more of oligopolistic rent-seeking than of dy- compared to 30% for the OECD countries) and namic enterpriseÐand the potential negative continuing diculties in hiring and dismissal, impacts for employment are clear. both of which have contributed to today's high levels of un- and underemployment, and to the (iii) Deregulation ¯ight of some workers and producers into the informal economy.52 The mass of regulatory reforms that have The government has made some headway in been legislated since July 1989 represents legislating new rules on health insurance and nothing short of a revolution. Across sectors, workers' compensation. The more dicult ®scal and administrative barriers to competi- challenge has been a reduction in payroll taxes tion have been removed, and the Argentine and the replacement of severance payments for economy is now a considerably more stable and dismissed workers by an unemployment insur- cost-e€ective environment for conducting ev- ance scheme based on individual capitalization eryday business transactions (de la Balze, 1995, accounts with payroll deductions. The sever- pp. 99±104). Moreover, while foreigners have ance issue is particularly important: since ®rms been granted the same rights and treatment as are required to provide one month's wages for national investors since 1979, sectoral restric- each year's service in the event of a dismissal, tions and prior authorization procedures have they become extremely reluctant to hire. A 1995 been recently streamlined; indeed, Argentina's law allowed for temporary employment but FDI laws are now so liberal that inscription legislation proposed by President Menem in into the national Registry of Foreign Invest- 1998, partly in response to union pressures, ments is optional (AgosõÂn, 1995, p. 12).50 would ``eviscerate'' this act.53 The political The one area where deregulation has pro- opposition inching toward power is not likely ceeded more erratically is within domestic labor to reverse this situation since much of their markets. Admittedly, the President has shown appeal is based on public concerns about the great political acumen in maintaining organized deterioriation of wage and employment condi- labor's backing while simultaneously disman- tions. As a result, full labor market reform still tling a statist model that many of his own labor seems far o€. constituents within the Peronist Party (PJ) still Another pressure point in the regulatory re- hold dear. One cost has been an unwillingness form process has been the government's mixed to tackle various distortions in Argentina's la- record in constructing e€ective oversight bor markets, most of which originated during mechanisms for newly privatized ®rms now the heyday of Peronism in the 1940s. providing such services as water/sewerage, In theory, fuller wage/employment ¯exibility telecommunications, natural gas, and electrical should speed up sectoral adjustments, allow for power. Again, the high presence of foreign in- a more ecient allocation of resources, ame- vestors in the privatization of public utilities liorate unemployment, and relieve the pressure (37% over 1992±95) re¯ects both the pro®t- on the exchange rate (Pessino, 1997; World ability conditions that were built into the Bank, 1996a, p. 55). Unions and employers transfer clauses and the captive nature of the have not been completely rigid: de facto ``¯ex- domestic market (Chudnovsky et al., 1995, p. ibilization'' strategies have included everything 40). The crucial role for public policy in over- from the incorporation of productivity and seeing the quality and price competitiveness of work reorganization clauses into collective private service delivery under such circum- bargaining contracts; to the purchase by the stances has not been lost on the Menem ad- unions of struggling ®rms in the represented ministration. sector; to union management of employee- Yet the regulatory bodies designed for this owned stock of privatized state enterprises task have varied greatly in their e€ectiveness (Murillo, 1997, pp. 80±87).51 Yet union forces (Urbiztondo, 1997, pp. 13±28). At one end of have resisted signi®cant changes in ocial leg- the continuum are the gas (ENARGAS) and islation, partly because they do not want to electricity (ENRE) commissions, which regu- send the formal signal of free market surrender late numerous service providers, are funded 490 WORLD DEVELOPMENT autonomously, and fall under Congressional almost 40% of the population, and more than jurisdiction; at the other end are the telecom- 50% of national GDP). We plot two measures munications (CNT) and water/sewerage of income distribution: the percent of income (ETOSS) commissions, which are the target of received by the top 20% of households relative intense lobbying by 1±2 large ®rms, funded by to the bottom 40% of households, and the revenues that sometimes carry questionable percent of income received by the top 10% political ties, and are subject to frequent ad- relative to the bottom 10%. While there is some ministrative interventions by the President and volatility, both measures show a pattern of other local ocials. The latter pattern has cre- worsening distribution over the course of the ated lucrative opportunities for corruption, period.55 which sheds light on the numerous scandals A detailed breakdown of the evolution of that have surrounded the Menem administra- labor market trends since 1991 helps to explain tion since its inception (Saba and Manzetti, some of this distributional worsening. By May 1997).54 1993, the unemployment rate of blue-collar workers, those most likely to be at the bottom (b) Distributional outcomes in the reform of the distributional hierarchy, was four times process that of university-trained professionals. While part of the employment diculties for less While market reform inevitably creates win- skilled workers were a result of the country's ners and losers, it also holds out the promise of rigid labor laws, another reason has been that distributional improvements. In theory, liberal the boom in nontradeable sectors like ®nancial trade regimes can generate new demand for services has favored workers with much higher low-skilled labor; meanwhile, a reduction in the skills. realm of government should deter rent-seeking Adding to the distributional problem has and favoritism toward elites. In practice, how- been a continuing concentration of assets on ever, most of Latin America's market reformers the business side. Even as the 1995 recession have experienced distributional deterioration in provoked higher unemployment and rising the process of liberalization, marked by sizable rates of bankruptcy throughout the economy, transfers of wealth toward the top income Argentina's top 200 companies increased their deciles. Argentina is no exception. sales and pro®ts that same year by 11% and Figure 12 illustrates the shift in income dis- 30%, respectively.56 The restructuring of the tribution over the course of the Convertibility ®nancial system, particularly in the wake of the program, (up until October 1997, the last pe- tequila shock, also resulted in asset concentra- riod for which we have data), making use of a tion; while few banks went under in the midst twice-a-year household survey collected for the of the 1995 crisis, many were absorbed by Greater Buenos Aires area (which accounts for larger, more solvent banks and by late 1996, the

Figure 12. Income distribution in Argentina, 1990±97. STABILIZATION AND ITS DISCONTENTS 491 number of banks had fallen from over 200 to ing in, the President ®nally put aside earlier 148.57 ®scal concerns and launched a social plan. Another distributional tension has arisen Since this was also an election year, Menem with regard to the relationship between the began selectively targeting compensation to- central government and the provinces. Until ward valued constituents (Weyland, 1997, pp. 1995, local governments had not been subjected 21±22). The transparency of the ploy and its to the same ®scal discipline as that imposed on timing was lost on few citizens.60 the federal government. This was partly be- cause the early period of growth generated a (c) The politics (and anti-politics) of reform healthy increase in the local tax base.58 More- over, provincial ocials often forced province- Until 1995, the Menem administration ap- owned banks, not subject to convertibility peared to have accomplished the nearly im- regulations, to extend credit. Finally, even in possible task of winning over one of the the midst of sharp cuts at the federal level, the region's most ®esty electorates, while at the central government actually increased its same time launching the most far-reaching set transfers to the provinces by nearly 2% of GDP of economic reforms in the country's history. during 1990±92. Overall, from 1990±95, federal Despite the lack of a safety net strategy to resource transfers to the provinces more than garner political support for market adjustment, doubled (Gibson and Calvo, 1997, p. 8). In the the alarming jump in unemployment in 1994, face of such largesse, local-level state reform and the steep recession that followed from the was postponed. Mexican crisis, the President won re-election to When the 1995 recession hit and the federal a second term in 1995. Yet in 1996, the ruling surplus declined, however, provincial budgets party lost the ®rst open elections for the mayor quickly fell into a state of ®scal crisis. As the of Buenos Aires and the country began to ex- provincial de®cit rose to US$3 billion in 1995 perience a string of militant general strikes. By (slightly over 1% of GDP), the provinces ®nally early 1997, support for Menem in national quickened what had been an exceedingly slow public opinion polls had plummeted to just pace in the realm of privatization; since pro- 10% and in October of that year, a coalition of vincial banks were a prime target for such opposition forces managed to defeat Menem's privatization, the option to borrow locally was party in mid-term Congressional elections. now foreclosed to provincial ocials.59 With Understanding Argentina's political dynam- ®nances tightening, local ocials postponed ics requires that we analyze, ®rst, why Menem payments to suppliers, state employees, and enjoyed such an extended period of support, pensioners (World Bank, 1996b). Social tension and then why it evaporated. One oft-cited fac- percolated, then exploded; in May 1997 alone, tor was simply the willingness of the public, in there were more than 40 incidents of local the wake of very high in¯ation, to tolerate protest, including road blocks and clashes with austerity in exchange for price stability and the the police. promise of future economic gains (Starr, 1997). In many other countries with similar distri- Yet, as Corrales (1998) notes, high in¯ation is butional stresses, including Bolivia, Chile, and not necessarily a ``trampoline to heaven''Ðthe Mexico, governments have devised short-term chaos of price hikes is as likely to breed con¯ict ``safety net'' strategies to soften the pains of and more in¯ation as it is to create the implicit adjustment and win political support for re- or explicit cooperation necessary to halt the form (Graham, 1994). Because of the bouyant price spiral. Of course, once the in¯ation slows growth rates from 1991±94, the ®scal stringency and the evidence of success is in, the tolerance imposed by the Convertibility Plan, and the for austerity is likely to rise (at least for a ``hands-o€'' management approach of the while). Still, there were several key political Cavallo team, the government rejected this sort tactics which also helped sustain some degree of of strategy; moreover, the ®scal aspects of the support for reform. Convertibility Plan probably made distribu- The ®rst was the masterful overhaul of tional pressures more severe as the government Menem's Partido Justicialista (PJ) such that the became more dependent on the regressive party's mass base has expanded and diversi®ed VATÐwhich accounted for 45% of all taxes while the in¯uence of traditional Peronist trade collected in 1996Ðto help cover the de®cit unions has diminished greatly.61 By exploiting (EIU, 1997, p. 13). In 1995, with recession and the party's weak rules for leadership turnover the full impact of economic restructuring sink- and its historically strong ties to the country's 492 WORLD DEVELOPMENT working classes, Menem seized the leadership Given the measured success of these tactics, role, replaced the PJ's typically populist agenda what explains the sharp drop in political sup- with his own program of market reform, and port? In a recent study, Stokes (1996, p. 508) was thereby able to draw a larger business and argues that an ``intertemporal'' response (``no middle class segment into the party. He also pain, no gain'') to the sacri®ces invoked by managed to maintain organized labor's loyalty market adjustment can eventually shift to a in spite of its outright marginalization within ``distributional'' response (``my pain is your the party, due most likely to the latter's lack of gain'') on the part of voters, even those who other political alternatives.62 have been traumatized by hyperin¯ation: The second tactic involved playing o€ con- stituents in Argentina's urban centers against . . .support for reforms began high among all classes their compatriots in the country's less devel- and remained relatively high among the rich but de- clined notably among the poor. . .no one was willing oped provinces. As noted above, the provinces to su€er catastrophic losses, such as unemployment, had largely been spared the pain of ®scal ad- on the promise of future prosperity or with the excuse justment until 1995, at which point the tequila of ghosts of the past (Stokes, 1996, pp. 516±517). shock forced the federal government's hand. As Gibson and Calvo (Gibson and Calvo, 1997, p. The ``distributional moment'' has come in 7) explain, ``Peronism's seeming invincibility at Argentina. The Radical Party victory in the the polls...was due not to organized labor in the June 1996 Mayoral election in Buenos AiresÐ metropolis, but to its ties to clientelistic and where Menem's party garnered only 18% of the traditional networks of power and mobilization voteÐre¯ects the distinctly distributional mood in the periphery.'' Hence, a winning electoral that had settled in among urban voters worried coalition was maintained nationally by the over whether they would actually see some light phasing of harsh adjustment measures to the at the end of the economic tunnel. The prov- regions at a much later point. As noted above, inces followed suit in the October 1997 mid- central government transfers to the provinces term elections, where the Peronists lost control actually increased while the urban centers were of their majority standing in the lower house of subjected to a tight ®scal shock; moreover, the Chamber of Deputies.64 While this loss, in during 1989±94, although the federal govern- and of itself, has not seriously impaired Men- ment workforce was cut by 77%, public sector em's ability to govern (Perry, 1997), it is evident employment in the provinces held steady. The that Menem's previous political tactics for gar- force with which ®scal retrenchment is now nering support have now run into diculties. hitting the regions, where public employment The reworking of the Peronist party has has traditionally been more of a mainstay, worn thin, as the party's traditional base con- sheds light on why social protest has erupted stituency within organized labor is all but later and with such vehemence in the periphery. consumed with its own immediate economic Finally, like many other heads-of-state in survival. The arrival of market reform in the Latin America of the 1990s, Menem relied provinces has provoked a political backlash heavily on executive decrees in order to over- among those who thought they had escaped the come lingering anti-market sentiments within inevitable pain of adjustment. The President's Congress and the wider political arena (Teich- strong reliance on legislative decrees has un- man, 1997). Executive decrees have been uti- dermined executive legitimacy, as many of lized, for example, in the raising of taxes and these earlier decisions have become enshrouded the revision of tax laws, the modi®cation of in charges of corruption. Both the business and public and private contracts, the setting of the labor sectors have come to oppose an almost trade regime, and the structure of labor lawÐ purely autocratic decision-making style, with decisions which typically require broader input points of con¯ict centering on Menem's re- and consensus (LoÂpez, 1997).63 The previous peated circumvention of Congress, frequently Alfonsin administration issued just eight de- in de®ance of the Constitution, and his ready crees of ``necessity and urgency'' during its en- resort to other underhanded tactics, such as the tire tenure; in contrast, between July 1989 and stacking of the Supreme Court with members December 1993 more than 12,000 executive guaranteed to support executive-level policy decrees and 308 decrees of ``necessity and ur- directives.65 gency'' were passed, the latter comprising the To its credit, the Menem team took com- core of the reform program (LoÂpez, 1997, p. mand of a shipwrecked economy, imposed 15). economic rationale on a society that had long STABILIZATION AND ITS DISCONTENTS 493 been accustomed to ``storming the state,'' and recuperate the tradeables sector; while in the process secured the longest political privatization boosted the ®scal co€ers over honeymoon since the Peronist era. As e€ective 1990±94, the subsequent ®scal deterioration in as this style may have been for initiating and 1995 and 1996, and the only modest public implementing market reforms, the successful sector recovery in 1997, suggest the continuing consolidation of the reform process will require need for ®scal reform; while liberalization has the development of technocratic expertise and generated a welcome increase in labor produc- political skills beyond just the Economics tivity, unemployment has lingered at depres- Ministry and the oce of the executive. Meet- sion-era levels and the e€ects on overall ing the challenges of distributional improve- competitiveness have been quite mixed. ment and increased public accountability is As for Rodrik's second notion of insulating now imperative for the next phase of market technocrats to ®lter out societal pressures dur- reform in Argentina. ing the initiation of market reforms, it appears that the Menem administration has gone overboard in two respects. First, by issuing 4. CONCLUSION: THE NEXT PHASE FOR more emergency presidential decrees than the ARGENTINA total number issued by all constitutional pres- idents in the past 130 years (Teichman, 1997, p. 27), Menem secured his program, but also ef- There is no relation between unemployment and eco- fectively silenced the kinds of debate and input nomic policy. (Domingo Cavallo, Latin American that would now be useful as the reform pro- Weekly Report, August 3, 1995). gram moves into the medium term. Second, hindsight has gradually shown that the Menem What is this dollar to peso, one-to-one? The rest of team was perhaps too friendly with, or not in- Latin America is laughing at us... This has been an sulated enough, from Argentina's powerful act of inhumanity over the last six years. They have destroyed the technical schools, destroyed education, private sector conglomerates (e.g., Techint, destroyed the base of the future. They will be judged Compan~õa del Plata and the Perez Companc (Anonymous Businessman, Buenos Aires, July 1996). Group), all of whom have bene®tted dispro- portionately in the 1990s (Teichman, 1997, Rodrik (1991) has sketched an analytical p. 31). model of the reform process which provides a This excessive identi®cation with wealthy useful framework for assessing the medium- interests, a seeming lack of concern about the term sustainability of a program like Argenti- employment and distributional consequences of na's. According to Rodrik: (a) reforms must be reform, and an early determination to forego technically sound enough to produce the de- social policy has also done little for Rodrik's sired economic result and hence the basis for a third step: expanding the ``winners'' circle in new coalition; (b) technocrats must be su- Argentina in order to consolidate the political ciently insulated so that short-term lobbying base. The Menem team rightly prides itself on pressures can be withstood until the reform having purged the country of its self-destructive takes full e€ect; and (c) the ``winners'' from the populist past. Indeed, perhaps the most telling reform e€ortÐwho may not have been an ob- aspect of the October 1997 mid-term elections vious interest group at the beginning of the was the emphasis of the winning opposition processÐmust be persuaded or induced to de- candidates not on populist-style expansion but velop a collective voice to maintain the new on the need for a second round of social and policy regime. institutional reforms (especially anti-corruption In our view, Argentina's track record may be initiatives) to correct for past shortcomings, problematic on all three counts. With regard to and better facilitate the country's adjustment to technical coherence, the government's ability to a market economy.66 Such a strategy however, eliminate in¯ation and restore growth is testi- has still not been articulated by those at the mony to both the design and implemention of center of the ocial policy making apparatus. Convertibility. But while these broad medium- Argentina, in short, needs a ``second phase'' term macroeconomic outcomes are positive, the or ``second generation'' of reforms at the level strategy has discouraged investment in the of the macroeconomy, the microeconomy, state production of manufactured exports and al- institutions, and social policy. At the macro- lowed market forces to breathe new life into economic level, the two crucial issues are ®scal sectors, such as services, that o€er little to policy and exchange rate management. With 494 WORLD DEVELOPMENT regard to the former, the Menem administra- ployment compression, also seem less of an tion has made some important headway in in- option in the current economic environment. creasing tax compliance, simplifying the tax Hence, it is at least worth contemplating a more structure, and modernizing the country's bud- ¯exible second phase exchange rate strategyÐ getary process (Artana and Navajas, 1995). At particularly since the seriousness of Argentina's the same time, however, Argentine ®scal commitment to a market economy is now spending in the 1990s has followed a procyclical widely understood and need not be perma- patternÐexpanding during the good times and nently tethered to one nominal value or even abruptly contracting when bad times set inÐ one particular sort of exchange rate regime. just the reverse of what was needed, for exam- On the microeconomic front, the important ple, during the 1995 economic downturn. point is that market reform in and of itself is Moreover, ®scal policy in the 1990s has clearly not a development strategy. As Chile found out been manipulated for political purposes, most the hard way in the early 1980s, market-sup- obviously in the provinces. A second phase porting policies, including selective interven- ®scal reform requires that policy makers shift tions, are needed to promote an outward to a countercyclical strategy, decrease the reli- orientation and a stronger foothold in inter- ance on the regressive VAT, tighten the ad- national markets.68 Even in free-trading Me- ministration and collection of increased direct xico, which has had its own share of problems taxes on income, and resist the excesses of po- in implementing an outward-oriented develop- litical spending that marked the last two na- ment model based on higher value-added tional elections.67 manufactured exports, there has never been any As for exchange rate policy, since the im- doubt as to the government's intention to plementation of the Convertibility Plan in 1991, pursue such a strategy or its willingness to Argentina has de®ed conventional wisdom support such outward-oriented producers within the economic community which favors a (Pastor and Wise, 1997, pp. 429±440). more ¯exible approach to currency manage- In Argentina, a second phase will require that ment (Corden, 1994 p. 304; Edwards, 1995). market reforms actually build toward an out- Despite the rigid policy options intrinsic to the ward-oriented model. The speci®cs of such a currency board, growth and export rates have strategy need not include a retreat from trade been more than respectable, and the recovery liberalization. Indeed, a con®dence-enhancing from the tequila shock more rapid than ex- second phase trade strategy would honor ear- pected. Yet, given Argentina's comparatively lier commitments to trade opennessÐand we rich factor endowments and the continuing re- note with worry that Mercosur's common ex- sistence to full ¯exibilization of the labor mar- ternal tari€ has risen even as Argentina has ket, we are left to wonder whether the country used a ``statistical tax'' on imports to deter could better maximize its economic potential trade with nonMercosur partners.69 Of course, through the adoption of a more ¯exible as projections for the country's current account exchange rate strategy. In terms of a second- de®cit over the next two years balloon above phase exchange rate policy, at least two addi- 4% of GDP,70 the temptation to raise tari€s tional points recommend a more ¯exible ap- further will persist. The best way to resist will proach. be to implement other support measures. First, while strict ®scal policy enabled Ar- This would include enhanced support for the gentine ocials to survive the tequila crisis with small and medium-sized enterprise sector. Re- the Convertibility Plan intact, this adjustment cent preliminary survey research suggests that was facilitated by the bending of the rules on smaller industrial ®rms have made some head- reserve requirements, and by the simultaneous way in shifting to an export-oriented mode of expansion of Brazilian demand for Argentine production, but also indicates that greater gains products. Now, as the continued turmoil in could be achieved with the help of a more as- Asian currency markets reverberates through sertive public policy framework to guide this the Southern Cone, the Brazilian economy has economic restructuring (Robbio, 1997; Kosac- contracted, and forecasters have negatively o€ and Ramos, 1997). Some support has been adjusted their projections concerning Argenti- articulated in domestic legislation (FIEL, na's current account balance and growth 1996), but this has been weakly implemented. prospects. This leads into the second point: What is crucial now is the fostering of hori- Convertibility's two remaining stabilization zontal and vertical links to larger ®rms; the tools, high interest rates and wage and em- provision of publicity, marketing, and technical STABILIZATION AND ITS DISCONTENTS 495 know-how; and the creation of better ties be- the Argentine public has continued to view tween education, job training, and employment state institutions with suspicion. One bench- expansion in these ®rms. mark of the importance of institutional reform Meanwhile, public investment in infrastruc- to the long-term success of market policies is ture for productive purposes (railways, irriga- the IMF's remarkable 1997 o€er to open a new tion, industrial facilities) has dropped to line of credit for Argentina based on ``good historically low levels. The high concentration governance''.71 More to the point, during this of public expenditure on current allocations in second and more challenging phase of market the 1990s has been especially detrimental to the reform, public institutions are crucial conduits country's interior provinces, and has worked for guaranteeing greater equality of economic against the broader expansion and diversi®ca- opportunity and wider participation in the tion of production in industrial activities. In a bene®ts of growth. second phase, this de®cit in productive invest- Finally, a word about social policy. As Ar- ment must also be addressed, a task which will gentina boasts the region's highest per capita also necessitate determining the sources of new income (US$9,387),72 the most highly educated revenue. population, and relatively wide welfare cover- The contours of labor market reform will age, the Menem administration was able to also need to be settled. Since 1991, a series of launch a ®rst phase of market reform without piecemeal deregulatory laws have increasingly resort to the safety-net compensation schemes introduced ¯exibility, productivity, and other that were adopted in poorer countries like Bo- cost-cutting clauses into labor contracts. These livia and Peru (Graham, 1994). Since 1991, measures have already forced major adjust- however, the combined e€ect of the Convert- ments in Argentine labor markets in the 1990s, ibility stabilization program, government in- including various ad hoc arrangements that centives which favor low value-added grant ®rms e€ective ¯exibility (Murillo, 1997, investments, and higher levels of market con- pp. 77±82). Yet the remaining gaps in labor centrationÐincluding of ownership, produc- market reform and the failure of politicians to tion, and exports (CEP, 1997)Ðhas contributed push a comprehensive legislative package to persistent poverty (Burki and Edwards, through the Congress has perpetuated a credi- 1996, p. 8), and a worsening of distributional bility problem, particularly from the standpoint trends (see Figure 12). This could be tackled in of foreign investors. A second-phase labor the second reform phase through: (i) better market reform strategy demands that politi- targetting of social expenditures toward high- cians ®nally take a stand and complete the la- risk groups; and, (ii) a more concerted e€ort at bor reform agenda. Such an agenda need not encouraging the kinds of high value-added in- follow the draconian and politically problem- vestments and concommitant educational atic union-busting measures, such as eliminat- training which would o€er employment op- ing industry-level bargaining, as suggested in portunities for a much broader segment of the World Bank (World Bank, 1996a, p. 16); rather Argentine population. the goal should be to make hiring easier, partly Building a more viable political coalition to by codifying the many changes that have al- push forward a credible set of second phase ready occurred as a result of incremental bar- reforms is another matter. Despite some con- gaining and ad hoc adjustments in domestic cern on the part of private sector analysts that labor markets, and ®x in place rules that can at the end of the Menem administration's long least add more predictability to labor costs and reign would herald market instability, the un- relations. precedented political competition witnessed in The success of these macro and microeco- the October 1997 mid-term elections appears to nomic second phase reforms will hinge on the have had the opposite e€ect. Not only did the extent to which a badly needed overhaul of the results re¯ect an explicit commitment to policy most relevant public sector institutions is car- continuity, the growing allegations of govern- ried out (NaõÂm, 1995). While progress has been ment corruption and infringement on civil made in modernizing the state's main economic rights prompted the public to vote for those institutions, other public entities such as the who represented an end to the highly presiden- judiciary, the regulatory commissions, the so- tialist and autocratic style of management that cial ministries, and provincial governments are has been the hallmark of the entire Menem pe- still too easily permeated by corruption and riod.73 Opening the policy process up to more outside interests. Thus, and with good cause, citizen involvement may generate a reform 496 WORLD DEVELOPMENT agenda that is less ambitious, but a coalition checks that will induce policy-makers and po- that is capable of sustaining market reform into litical leaders to more closely harness market the longer-term (Graham, 1998); it could also policies to the productive and distributive tasks provide some badly needed accountability for which they were originally designed.

NOTES

1. See ``Camdessus calls for `second generation' of 9. A model of how slow disin¯ation creates currency reforms in argentina,'' IMF Survey, Vol. 26, No. 11 appreciation is available in Dornbusch (1995); alterna- (June 9, 1997), pp. 175±176. tive views, which stress how such appreciation might be an equilibrium phenomenon, are available in Calvo and 2. Statement made during authors' interview on Au- VeÂgh (1994) and Uribe (1997) and are explored later in gust 1, 1996, Buenos Aires. the text.

3. Data sources for all ®gures are listed in Appendix A 10. As per the usual practice, declines in the real at the end of the text. exchange rate imply increases in the domestic currency.

4. While progress on the macroeconomic front was 11. The e€ect of the exchange rate appreciation was gradual, the adminstration did move ahead on tempered somewhat by the tax system. In 1992, the privatization, ®scal reform, and other measures that government decided to o€er a ``general reimbursement'' helped set the stage for the eventual stabilization. These on exports with the same added value scale structure as are discussed in more detail later in the article. had been established for imports. Thus, wheat was exported with a subsidy of 2.5% and was imported at a 5. Stabilization was made possible, in part, by the duty of 2.5% (Cristini, 1996, p. 2.9). These mirrored earlier ``Plan BONEX'' in which state debt was con- tari€s and rebates ranged from 2.5% to 20%; the e€ect verted into 10 year, dollar-denominated bonds; this was a ®scal devaluation. allowed the government to extend the maturity of public debt from less than one month to 10-years and to 12. By the calculations we present below, the Argentine eliminate the quasi-®scal de®cit (a savings estimated to peso was at least 25% below its long-term equilibrium equal approximately 5% of GDP). Both outcomes made value through much of the 1980s and so at least half of ®scal constraint easier to manage within the con®nes of the post-Convertibility appreciation re¯ected a normal the Convertibility Plan. See RodrõÂguez (1995) and process of recovery. Tanner and Sanguinetti (1996); for a nuanced account of policy-making during 1989±91, see Corrales 13. Likewise, Cristini (1996, p. 2.4) notes that the (1997, 1998). higher levels of exports from 1988±90 were due to both a decline in domestic activity and incentives to earn 6. For a detailed look at the speci®c rules of the dollars. Models of macroeconomies with such export Convertibility Plan and currency board in Argentina, see dynamics are o€ered in Arida and Bacha (1984) and Ades (1995). As we also note below, Argentina's Pastor (1987, ch. 5). program di€ered from a more orthodox currency board in that the Convertibility Law permitted part of the 14. Argentine investors were estimated to have stashed monetary base to be covered by dollar-denominated nearly US$45 billion abroad by 1987, an amount Argentine Treasury bonds. This gave the government a equivalent to over 75% of the country's external debt bit of breathing room when the 1995 crisis hit. (Pastor, 1990). Since hyperin¯ation in the late 1980s induced the exodus of even more monies, there was 7. For a general view of the role of capital mobility in ample ¯ight capital to return home. Latin American development and stabilization, see Mahon (1996). 15. While the point is salient on a theoretical level, Tanner (1997) uses Granger-causality tests with only a 8. On Argentine ®scal reform, see AcunÄa (1994), two-year lag structure; this leaves open the possibility Canitrot (1994), de la Balze (1995), pp. 70±72), Artana that his results simply record the impact of a consump- and Navajas (1995), and Berensztein (1996). tion boom on output itself. STABILIZATION AND ITS DISCONTENTS 497

16. By 1996, intermediary goods had staged a modest force and the shrinking of job opportunities, and comeback and capital goods fell to 41% of imports and virtually no change in long-outdated labor market consumption goods to 20%. regulations.

17. Chisari et al. (1996, p. 233) suggest that the very 22. Quoted in ``The markets are getting nervous,'' nature of relative prices channeled investment into the Latin American Weekly Report (December 15, 1994). nontradeable sector; see also Gerchuno€ and Machinea (1995). Chudnovsky et al. (1996) argue that there was 23. There was an earlier scare in November 1992, but some investment expansion into tradeables in 1993 and the government stuck by the convertibility rules and, as 1994, but the strongest investment was in Mercosur- Williamson notes (Williamson, 1995, p. 9), ``the crisis related sectors (e.g., autos), re¯ecting the growing passed rapidly.'' Also see Starr (1997). relationship with Brazil and the relative appreciation of the latter's currency. Bielschowsky and Stumpo (1995, 24. See ``IMF allows a de®cit this year,'' Latin Amer- p. 159) note that FDI was also drawn primarily into ican Weekly Report (September 14, 1995). This section nontradeables, with the largest ¯ows going toward on government policy responses to the 1995 ®nancial services and petroleum (which is a mostly domestical- crisis draws, in part, on authors' interviews with ly-oriented industry in Argentina). frontline managers at the Argentine Central Bank, conducted in July, 1996 Buenos Aires. See also GarcõÂa 18. The main export products were also capital-inten- (1997). sive, implying that this growth was not conducive to the creation of new jobs. For a review of export perfor- 25. See Figure 2, as well as Charles Newberry, ``Ar- mance and composition from the 1970s to 1990, see gentine growth pickup and lower rates seen,'' Bloomberg Bisang and Kosaco€ (1996); for a review of the Business News (December 26, 1996); another reason for contemporary period which suggests that there was the slow gain in employment was employer decisions to essentially no export boom in manufactures, see Cristini simply lengthen working hours (see ``Argentina: Longer (1996). hours, not more jobs,'' Latin American Weekly Report, March 11, 1997). Over the year, the ®nancial system had 19. While we present unemployment ®gures for Buenos also been shored up: in November 1996, bank deposits Aires and the provinces, we believe the former to be rose to US$53 billion, up sharply from the US$38 billion more reliable than the latter. The Ministry of Economics low of April 1995. has recently stressed, however, the improvement in the national unemployment rate, which has been lower than 26. The problem of GDP growth without employment the rate for Buenos Aires in the last several years. This growth has become common to many Latin American shift coincides with a methodological improvement in reforms; see ``Great reforms, nice growth, but where are the government's labor market survey, which recorded the jobs?,'' The Economist (March 21, 1998), pp. 37±38. the number of active job searchers in Buenos Aires but did not do so for the provinces and thereby tended to diminish the labor force divisor for the national series. 27. Oil, for example, rose 41% in value while raw See Ernesto Kritz, ``Tribuna Abierta: ¿Que hacer con las materials went up by 21%. See ``Growth of 6% forecast,'' mediciones de empleo?,'' Clarõn (April 7, 1997). Latin American Economy and Business (LAEB-97-03). Meanwhile, exports of industrial manufactures actually 20. Labor productivity reportedly rose by 4.1% per fell by 1% (EIU, 1997, p. 29). annum during 1990±95; see ``Insucient growth limits job creation,'' CEPAL News, Vol. 27, No. 6 (June, 28. The December 1997 issue of Notas de la Economõa 1997), p. 1. On the other hand, Argentine real wages Real from the Centro de Estudios para la Produccion grew by just 0.2% annually during 1990±95 (compared (Secretarõa de Industria, Comercio, y Minerõa, Argenti- to 5.1% for Brazil and 4.4% for Chile), with the rising na) indicates that labor productivity (per hour) in wage-productivity gap indicating one reason for the industry improved a striking 38% during 1990±95. worsening distribution of income. Figures in the October 1997 issue of Notas suggest that the gain in service sector productivity was probably 21. According to Pessino (1997), the unexpected sever- about half that and some of the 1990s increase in both ity of labor market adjustment was directly related to the industrial and service sector simply re¯ects catch-up higher relative price of labor with respect to capital in from the collapsed production and excessive employ- the aggregate, the simultaneous increase in the labor ment of the 1980s. 498 WORLD DEVELOPMENT

29. For more on this ``disequilibrium'' view of the 35. Statement made during authors' interview on exchange rate, see Dornbusch et al. (1995). August 1, 1996, Buenos Aires.

30. Uribe's model does ®t the data. although it should 36. Quoted in ``Cavallo provokes crisis, keeps job,'' be noted that consumption growth in Argentina was Latin American Weekly Report (September 7, 1995). nearly 50% more than he predicted, suggesting that the process in Argentina re¯ects both equibrium and 37. The policy has been slightly more activist than the disequilibrium (a la Dornbusch) processes; see also image; in 1993, for example, the government introduced Calvo and VeÂgh (1994) for a similar view. Felix (1995), restrictions and antidumping measures on the imports of p. 660) o€ers an entirely di€erent explanation for the real some goods, hoping to shrink the growth in the trade appreciation, suggesting that trade liberalization damp- de®cit. See Tussie (1996) for further detail. ened price increases in tradeables but exercised less discipline over prices in the highly cartelized nontrade- 38. Measured as export, imports, and GDP in constant able sector. 1986 pesos, these ®gures derive from the data compiled by the Ministerio de Economõa, Republica de Argentina. 31. The actual procedure involves regressing the log of While other measures (such as in current pesos) will the real exchange rate on time (entered linearly and as a show di€erent speci®c numbers, all reveal a general square) and using the result to obtain predicted values of growth in trade as a percentage of GDP. the equilibrium rate (see Goldfajn and Valdes, 1996, p. 7). We did not use a multilateral, trade-weighted 39. As of 1994, 99% of these companies employed less exchange ®gure and so we may be overstating the than 50 workers, and it is this group that accounts for appreciation to the degree that the dollar fell in 70% of all employment and 22% of GDP (FIEL, 1996, p. international value. It is interesting to note that the 14). Authors' interviews with Bernardo Kosaco€ at equilibrium value of the peso has been rising over time, ECLAC and Omar Chisari, Director, Instituto de implying that Argentine ocials may be partially right Economõa, Universidad Argentina de la Empresa, Au- when they point to the peso's appreciation as a long- gust 1, 1996, Buenos Aires. term and sustainable trend. This real adjustment is a very slow process however, and the movement of the 40. Authors' interviews with eight members of the actual rate has gone well beyond the long-term value. Confederacion General de la Industria, a business chamber which represents all of the small and medi- 32. Argentina has managed to generate some real um-sized ®rms in Argentina, July 26, 1996, Buenos depreciation without nominal devaluation; in 1996, Aires. Also see FIEL (1996). in¯ation was only barely above zero which, given ongoing international in¯ation, produced a slight de- 41. Data taken from Table 8.1.2, exports, imports and preciation in real terms and the real exchange rate ®nally balance, by economic region and principal countries, dipped below the 25% ``risk'' threshold in April 1997. If Statistical Yearbook Republic of Argentina, 1995 (CD- we generously assume that: (a) zero in¯ation continues, ROM), and Sõntesis de la Economõa Real, No. 9 (b) international in¯ation stays at around 3%, and (c) (November 1997), from Centro de Estudio para la the equilibrium currency value continues to drift up- Produccion, Buenos Aires. ward, then the actual real exchange rate will arrive within 5% of its equilibrium value by the end of 2001. 42. Mercosur's Common External Tari€ now averages Waiting through that process, particularly in light of the 17% and 80% of internal trade covered by the agreement high unemployment rates that have characterized con- has been liberalized. Major sectors such as autos and temporary Argentina, is not likely to be a comforting textiles have yet to be formally incorporated into the thought for most politicians. agreement, however, and the capital goods, informatics, and telecommunications sectors are still exempted from 33. For more on credibility, highly visible signals, and the CET (Nofal, 1997). the Convertibility Plan, see Canavan and Tommasi (1996). On the politics of the Convertibility Plan, see 43. While auto producers within Mercosur have ad- Corrales (1997) and Starr (1997). vanced quickly in modernizing their operations and increasing their export ratio, the ``price'' for this 34. For a general discussion of the problems of sophisticated system of protection has been the contin- exchange rate-based stabilization, see Reinhart and ued inability to compete e€ectively outside of the VeÂgh (1996). subregional market, not to mention higher auto costs STABILIZATION AND ITS DISCONTENTS 499 for consumers within the Mercosur bloc (AgosõÂn, 1995; 51. See also ``Argentina: Longer hours, not more Chudnovsky et al., 1995). jobs,'' Latin American Weekly Report (March 11, 1997).

44. Preliminary ®gures from Informe Economico, No. 52. Some estimates show that only 60% of the Argen- 24 (posted at http://www.mecon.ar) indicate that exports tine workforce is now formally registered (de la Balze, to the European Union declined 13% that year, exports 1995, p. 108). More general information on the labor to NAFTA countries declined 3%, and exports to market provided in a speech by Felipe Frydman, Mercosur countries (primarily Brazil) increased 14%. Economics Attache at the Embassy of Argentina, Washington, DC, ``Argentina under the convertibility 45. This section draws on: Gelpern and Harrison plan,'' Johns Hopkins University, School of Advanced (1992), Chudnovsky et al. (1995), de la Balze (1995), International Studies, November 13, 1996, Washington, pp. 88±99), Artana and Navajas (1995), and Saba and DC. Manzetti (1997). 53. See Cli€ord Krauss, ``Argentine labor code largely 46. While the ocial numbers used in Figure 11 intact,'' New York Times (March 16, 1988). suggest that 1996 saw a modest primary de®cit, newer cash basis numbers for the consolidated public sector 54. According to Saba and Manzetti (1997, p. 363), ``In indicate that such ocial ®gures may consistently less than four years the (Menem) administration su€ered overstate the balance by about 1±2% of GDP over some 19 scandals resulting in 29 ministers and senior 1991-96. According to the World Bank (1998), such a advisers being dismissedÐwith privatization scandals full accounting would reveal that the a nonprivatization extremely prominent.'' surplus was achieved only in 1993 and has since eroded sharply. The trends for both sets of ®gures are, however, 55. At the same time, poverty rates fell steadily similar to those in Figure 11 and thus the ®gure does between the start of the program in 1991 and its 1994 a€ord a reasonable sense of changes over time. peak (Petrecolla, 1995). Such improvements are com- mon in the wake of hyperin¯ation, and can in fact be 47. These ®gures are reported in the INDEC (1997) consistent with a relative worsening of income distribu- Statistical Yearbook of the Argentine Republic, Vol. 13, tion. This pattern is usually politically acceptable, unless pp. 480±483. The World Bank (1998, p. 6) reports that the absolute improvement is suddenly arrested, as it was public enterprise expenditures were reduced from 11% of in Argentina in late 1994. Data made available to the GDP in 1989 to 0.5% in 1995±96. authors by the Argentine Instituto Nacional de Estadis- tica y Censos (INDEC) indicate that the household 48. See, for example, Anthony Faiola, ``Argentine poverty rate (in Gran Buenos Aires) rose from a decadal private enterprise draws public opposition,'' The Wash- low of 11.9% in May 1994 to 20.1% in October 1996 (see ington Post (June 22, 1997), p. A20. also Beccaria, 1996); the poverty rates then fell by 1.3 percentage points in May 1997, which is the most recent 49. A study by Daniel Azpiazu found that 66 of period for which we were able to obtain data. This Argentina's 200 largest companies emerged out of the worsening of economic fortunes may help to explain the privatization program, with the 50 most pro®table ®rms subsequent political rejection of Menem's party in the receiving 60% of all pro®ts generated by the larger group 1997 elections. of businesses; see ``Big pro®ts for privatized services,'' Latin American Regional Reports-Southern Cone (March 56. Information on sales and pro®ts in 1995 taken 4, 1997), p. 3. An earlier study by Fundacion Capital, a from ``Big pro®ts for privatized services,'' Latin Amer- private think-tank, found that just three privatized ®rms ican Regional ReportsÐSouthern Cone (March 4, 1997), accounted for 40% of the total turnover of the 70 p. 3. An earlier report also suggested that the biggest companies quoted on the Buenos Aires Stock Exchange ®rms had seen their turnover increase even as the (see ``Argentina's drift toward concentration,'' Latin economy plummeted in the ®rst half of 1995 (see American Weekly Report, October 5, 1995). ``Argentina's drift toward concentration,'' Latin Amer- ican Weekly Report, October 5, 1995). As for bankrupt- 50. Authors' interview, Jaime Campos, Director of cies, there was a 26% increase in the number of ®rms INVERTIR, August 7, 1996, Buenos Aires. Campos ®ling for bankruptcy between ®rst half 1994 and ®rst notes that these rules also make it more dicult to track half 1995; see ``Going bust,'' Latin American Weekly new FDI ¯ows into Argentina. Report (August 3, 1995). 500 WORLD DEVELOPMENT

57. See EIU (EIU, 1997, p. 15); information also ``Back to square one on labour reform'', Latin American garnered from authors' interview with Roberto Bouzas, Weekly Report (May 20, 1997), p. 232. FLACSO, July 30, 1996, Buenos Aires. See also Caprio et al. (1996) for a general discussion of the tequilla shock 66. Comments made by Senator Graciela Fernandez and the ®nancial system. Meijide (FREPASO/Radical Alliance), at an event entitled ``Discussion on results and signi®cance of the October 26 elections in Argentina,'' Brookings Institu- 58. As Artana and Navajas (1995, p. vi) note, a tion, Washington, DC, November 17, 1997. Also see turnover tax counts for 50% of provincial own-source Calvin Sims, ``New Broom is Sweeping in Argentina,'' revenues; half of the remainder stems from property New York Times (November 10, 1997), p. A11. taxes. Both revenue sources were boosted by the 1991±92 recovery. 67. The idea of shifting away from VAT and toward income taxes is also suggested in World Bank (1998, p. 59. According to the World Bank (1996b), ``over a 18). dozen provincial banks were privatized...social security systems were transferred to the streamlined national system, salaries were cut, and a number of redundant 68. For more on Chilean reform, see Graham (1994), public employees were let go.'' For more on the Edwards (1995), and Velasco (1994). privatization of the provincial banks, see Banco Central de la Republica Argentina, Bulletin of Monetary and 69. ``Economõa elevarõa a 3.5% la tasa estadõstica,'' Financial A€airs (January±March 1996), pp. 13±14. Clarõn (May 2, 1997).

70. JP Morgan, ``World ®nancial markets: First quar- 60. A similar burst of spending targetted toward ter'' (1998), p. 63. electoral gainsÐalbeit with less successÐoccurred in 1997. See ``Spending round aimed at elections,''Latin American Weekly Report (February 11, 1997). 71. This included, for example, higher spending on health and education, an overhaul of the tax system, 61. This point, as well as our elaboration on it, improved court practices and judicial independence, borrows from Levitsky (1997). stronger guarantees on private property rights, and more transparency in government accounting. See Paul Lewis, ``IMF Seeks Argentine Deal Linking Credit to Govern- 62. Levitsky and Way (1998) point to other factors, ing,'' New York Times (July 15, 1997), p. D1. such as close personal ties between key labor leaders and Menem. 72. JP Morgan, ``Emerging markets: Economic indi- cators'' (New York: Morgan Guaranty Trust Company, 63. Corrales (1997, pp. 65±66) describes a more inclu- January 9, 1998), p. 22. The somewhat distant runner-up sive executive decision-making process, with stronger is Chile, with an estimated annual per capita GDP of congressional oversightÐan argument which we ®nd US$5591. Of course, unlike Chile, much of Argentina's lacking when the legislative track record is closely ®rst-place status is due to the extraordinary exchange scrutinized. rate appreciation of the 1990s.

64. ``La gobernabilidad esta asegurada,'' Clarõn (Oc- 73. In one incident, Alfredo Yabran, an entrepreneur tober 28, 1997). who has often speci®cally bene®tted from Menem's policies and who was suspected of having ordered the murder of press photographer Jose Luis Cabezas, main- 65. See ``Menem's decrees `unconstitutional'', Latin tained close telephone contact with the head of the American Weekly Report (January 7, 1997), p. 16 and Justice Ministry who was supposedly investigating him.

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APPENDIX A Ð DATA SOURCES gentina (see http://www.mecon.ar and http:// www.indec.mecon.ar). Fiscal performance data Argentine monthly in¯ation, the real ex- gathered from various issues of Informe change rate (calculated as the nominal rate Economico, as posted at http://www.mecon.ar; multiplied by the US wholesale price index, and the 1995-97 ®gures as a percentage of GDP then divided by the Argentine CPI), exports, involve some estimation by the authors. imports, trade balance, capital ¯ows and in- The unemployment ®gures are collected by ternational reserves are from the International the Instituto Nacional de Estadistica y Censos Monetary Fund's International Financial Sta- (INDEC); INDEC is also the source for the tistics. distributional data in the text which was pro- Growth of real GDP, investment, and con- vided by special arrangement to the authors. sumption, shares in GDP of investment, con- Composition of imports and exports taken sumption, and imports, and unemployment from INDEC, Statistical Yearbook Republic of rates from the Ministerio de Economõa of Ar- Argentina, 1995 (CD-ROM version).