Regulatory Policy in South America
Impressions from 10 days in Chile and Argentina
10 Apr 2007 in Regulatory Economics, Regulatory Policy
Neutral Source has not vanished; rather, we went away for about two weeks on a wine tour of Chile and Argentina. Blogging from abroad was entirely possible, as we had excellent internet connections almost everywhere, but it did not seem to be an optimal use of time.
Today we begin an occasional series comparing and contrasting regulatory science, economics, and policy in Chile and Argentina with the US. Though not a travelogue, we will provide a few suggestions for readers who are interested in taking such a trip or just happen to be interested in South American wine.
Chile and Argentina are neighbors over a long border located on the Andean continental divide. They are divided also by different histories, culture, and a thousand other matters. Today we will focus on macroeconomics.
Chile has one of the freest economies in the world, ranking #11 on the Heritage Foundation/Wall Street Journal Index of Economic Freedom, behind Ireland, Luxembourg, Switzerland and Canada, but ahead of Estonia, Denmark, Netherlands and Iceland:
Chile is a regional economic power and receives good scores in virtually all areas of economic freedom. Scores in fiscal freedom, freedom from government, monetary freedom, property rights, and labor freedom are particularly high. Despite high income taxes, corporate tax rates are an extremely low 17 percent. Total government spending as a proportion of GDP is also moderate. Inflation is low, but the state maintains certain price controls. The rule of law is transparent and fair.
Prices are stable; Inflation averaged 2.5% over the past several years. PPP-adjusted per capita income in 2004 was $10,874 (cf. $39,676 in the US). It is a major exporter of minerals, food and wine -- hence our interest -- and government policy encourages exports. Our excellent tour guide described Chile as favoring US economic policies and EU social policies. It scores above average on all ten elements of the economic freedom index. The CIA reports Chile's Gini index is 58.3. (The Gini coefficient is a commonly used index of income inequality that ranges from zero to 1, and is multiplied by 100 to yield the index. In general, higher numbers imply greater income inequality. However, the index is easy to calculate incorrectly and thus to misinterpret.)
Argentina is strikingly different, ranking #95 on the economic freedom Index -- behind Ghana, Zambia, The Gambia and Greece, but ahead of Morocco, The Philippines, Tajikistan and Paraguay:
Argentina scores high in fiscal freedom, freedom from government, and monetary freedom. Top tax levels are comparable to those of the United States, as Argentina levies corporate and top income tax rates of 35 percent. While this is relatively high, government tax revenue as a percentage of GDP is low, and expenditure is correspondingly low as well. State ownership of businesses is also comparatively insignificant.
Property rights, labor freedom, and freedom from corruption are all problems for Argentina (labor freedom less so than the others). Political interference with an inefficient judiciary hinders greater foreign investment, and numerous popular and official obstructions of due process make international courts preferable to Argentine courts. Not surprisingly, corruption is also a problem. On the labor side, employing and dismissing employees is complicated, expensive, and a further hindrance to economic flexibility.
Property rights, labor freedom, and freedom from corruption are all problems for Argentina (labor freedom less so than the others). Political interference with an inefficient judiciary hinders greater foreign investment, and numerous popular and official obstructions of due process make international courts preferable to Argentine courts. Not surprisingly, corruption is also a problem. On the labor side, employing and dismissing employees is complicated, expensive, and a further hindrance to economic flexibility.
Prices are unstable, with inflation averaging 8.7% in recent years (including periods with double-digit rates). PPP-adjusted per capita income in 2004 was $13,298. The Argentine peso was devalued when the nation defaulted on billions of dollars of debt in December 2001. In January 2002, the government terminated its peg to the US dollar. The current rate of exchange is 3 pesos to the dollar. The CIA reports Argentina's Gini coefficient is 48.3.
Even a short visit is sufficient to observe how Chile and Argentina differ with respect to financial freedom, the protection of property rights, and freedom from corruption. Argentines avoid the use of banks and prefer to invest in real estate, which is widely believed to be more difficult for government to expropriate. Routine encounters with Argentine authorities suggest that corruption is endemic. Chile's wine country during crush is helter-skelter activity, even at night if necessary; in Argentina, we saw the harvest postponed on account of the Easter weekend even though bad weather was forecast to begin when the weekend was over.
In Chile we observed an incentive-based labor market; grapes are harvested by hand and farmworkers are paid based on the quantity they harvest. We were told that Argentine farmworkers are paid a flat monthly wage. Though we were not able to confirm this, the lack of harvest activity prior to forecast rainfall was consistent with a regulated labor market and inconsistent with a freely functioning one.
The conventional wisdom is that Argentina was blessed with more natural resources and a better educated population than Chile, but unlike Chile it remains hampered by decades of bad economic policies and corrupt governance. This appears to be broadly correct. Chile has been the less prosperous nation but appears poised to overtake its neighbor very soon. Both countries have endured extensive periods of politically repressive military dictatorship. In Argentina, military governments did not implement free market reforms and little, if any, economic progress was noted. In Chile, political repression was accompanied by free market policies that reversed a short-lived experiment with communism and established a sound foundation for economic growth. These policies have not been abandoned by successive elected center-left governments. Nevertheless, the recent downward tick in Chile's graph above bears watching.
On January 1, 2004, a free trade agreement between the US and Chile came into force. Tariffs on Chilean wine were "equalized at low U.S. levels, then eliminated." Chilean imports have increased slowly since 1998 from 48 million liters to to 56 million liters in 2005, probably reflecting Chile's price stability. In contrast, Argentine imports have risen from 12 million liters in 1998 to to 28 million liters in 2005. Almost all of this growth occurred after the Argentine loan default and currency devaluation at the beginning of 2002.
In both nations we found that US wine was not available. In 2006, the value of wine imports from Chile was $170 million, with wine exports to Chile totaling only $0.3 million. Imports from Argentina in 2006 were valued at $93 million; wine exports were only $0.2 million. We were unable to ascertain the reasons for this discrepancy, but we are sure that it was not the result of a lack of consumer demand. We presented our Chilean tour guide with a gift from Napa Valley, which he appeared to regard as a sacred artifact.
