Latin American Exceptionalism: The Politics and Economics of Unfulfilled

Potential

Professor Victor MenaldoUniversity of Washington

Recent Progress• Democratization• Rule of Law• Economic Growth• Decreasing Inequality and

Rising Middle Class

Latest Democratizations

Argentina 1983 Honduras 1982Bolivia 1982 Mexico 2000Brazil 1985 Nicaragua 1984Chile 1990 Panama 1989Ecuador 1979 Paraguay 1989El Salvador 1984 Peru 1980Guatemala 1986 Uruguay 1985

Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009)

Steady Economic Growth1

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11

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20

13

0

Ind

ex

of

Re

al P

er

Ca

pita

In

com

e (

19

96

= 1

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)

1996 1998 2000 2002 2004 2006 2008year

Note: Avg. Real Per Capita Income in 2005 dollars for Latin American countries excluding Central America Source: USDA. Macrostatistics

Declining Inequality

Taken from the World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López-Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and Renos Vakis.

Rising Middle Class

Taken from World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López-Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and Renos Vakis.

Chile• GDP per capita has doubled over past 18 years,

fastest sustained expansion in country's history.• Poverty rates have fallen precipitously. • Chileans from humble families attending college.• Chile has attained homeownership rate roughly

equal to that of the United States, about 70%.

Peru

• Country has grown at 7% per year over past few years.

• Commodity boom has fed public investment & consumption boom

• FDI keeps pouring in & currency strong.

MexicoLiving standards—infant mortality rates, life expectancy and years of education—have improved greatly.

Country is growing again; giving China run for its money with skilled labor.

Immigration to USA has been drastically reduced.

LATAM exceptionalism:unfulfilled promise

• Lower economic development than expected given these countries’ age, resources & proximity to foreign markets.

• Serious corruption and challenges to rule of law.

• Spending on education, health, social insurance & infrastructure less than expected, given the vast needs.

• Lower & more regressive taxes than rest developing world.

• Still highest inequality in the world

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Average Global Income Levels, by Geograhpic-Cultural Region

Source: Haber and Menaldo (2010). Notes: regions defined by Hadenius and Teorell (2005); Latin America includes Cuba and Dominican Rep.; Cyprus included in Western Europe/North America; Mongolia included in East Europe/post USSR

What if 2008 Financial Crisis was the norm?

This chart is taken from Bordo et al. (2000)

We think Greece has it bad today?

This chart is taken from Bordo et al. (2000)

This chart is taken from Bordo et al. (2000)

In 1899, Argentina was wealthier than the USA!2

000

400

06

000

800

01

0000

120

00R

eal G

DP

Pe

r C

apita

(20

00 In

tern

atio

nal D

olla

rs)

1800 1850 1900 1950 2000

Year

Argentina's Long-Run Economic Development

Source: Haber and Menaldo (2010) and Coatsworth (1998). Notes: linear interpolation used between 1800 and 1874.

A big challenge is corruption

Notes: Transparency International’s 2012 Corruption Perceptions Index. Source: Screenshot taken by Julia Knight: http://foreignpolicyblogs.com/2012/12/08/in-case-you-missed-it-transparency-international-corruption-perceptions-index/

Progressivity of Taxation in 2005

02

46

8

S.S.Afr. Avg

S.E. Asia Avg.

Ta

xes

on

In

com

e,

Pro

fits

& C

ap

ital %

GD

P

PRY BOL URYDOMGTM ECU CRI HND SLV PER MEX NIC COL VEN BRA CHL

Notes: Income, Profits & Capital as defined by IMF GFSY. Source: Albertus and Menaldo (2013).

Income Inequality

Source: UN Human Development Report

Income Share of the Top Ten Percent

Haiti

Canada

U.S.A.

MexicoBrazil

0

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15

20

25

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Source: World Bank, World Development Indicators (data refer to most recent year available)

LATAM Exceptionalism is Very Puzzling!

Consider a natural experiment• Areas conquered by Spaniards

populated by more sophisticated, wealthier civilizations.

• LATAM colonies wealthier & more important than North American ones.

• LATAM countries just as old as USA.

YET THERE WAS A NOTABLE REVERSAL OF FORTUNE

After colonialism, North America surpassed LATAM and became much wealthier and influential.

Much of LATAM got stuck in neutral.

Some LATAM countries went in reverse.

We became rich, steadily and then explosively!

Source: Haber and Menaldo (2010)

01

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1800 1850 1900 1950 2000

Year

The United States Long-Run Economic Development

So did our neighbors to the north

Source: Haber and Menaldo (2010)

01

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1870 1895 1920 1945 1970 1995

Year

Canada's Long-Run Economic Development

As did other “settler colonies”5

000

100

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5000

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5000

300

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(20

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1900 1920 1940 1960 1980 2000

Year

Australia's Long-Run Economic Development

Source: Haber and Menaldo (2010)

Comparing growth records5

001

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= 1

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1800 1820 1840 1860 1880 1900 1920 1940 1960 1980 2000

Year

Argentina BrazilChile MexicoUnited States

Cumulative Growth of Real Per Capita Income, United States versus Latin America

Source: Haber and Menaldo (2010) and Coatsworth (1998). Notes: linear interpolation used for Latin American countries to fill in missing values during the nineteenth century.

Steady growth culminated in pronounced income differences

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USA

Variation in Income Levels across Latin America and versus "Settler Colonies"

Source: Haber and Menaldo (2010)

What explains Latin American Exceptionalism?

Some popular explanations

1. LATAM countries cursed by abundant natural resources

2. LATAM dependency on the vagaries of international capitalism

3. Protestant Work Ethic versus Catholicism4. British Cultural Legacy versus Spanish Legacy5. NA had brilliant founding fathers while

LATAM suffered from inept, myopic leaders

These explanations are all wrong!1. United States, Canada, and Australia have greater

resource wealth than LATAM2. LATAM countries have been historically more

protectionist and isolated than North America3. British colonies in Africa have not fared better than

French or Portuguese colonies4. I don’t disagree that we had brilliant founding

fathers, but they had Simon Bolivar, Miguel Hidalgo and O’Higgins.

What explains differences between North America and Latin America?

• Differences in soils, climates & native pop. densities

• Differences in political & economic institutions

• Differences in distribution of wealth/income/knowledge

• Differences in policies that reinforced these institutions & distribution of wealth, income & knowledge

The North American Model1. Temperate climate & fertile soils + diffuse & small

native populations 2. Colonial strategy based on European settlements

and economy based on grains at small scale 3. Colonial institutions favored equality & middle

class 4. Postcolonial institutions centered on democracy &

federalism 5. Public policies reinforced equality & democracy

The Latin American Model1. Tropical soils & climates or inheritance of mining

centered economy + dense native populations/slave trade

2. Colonial strategy based on plantation agriculture & mining. Mercenaries impressed servants/slaves

3. Colonial institutions favored small elite of European heritage. Created vast differences in wealth/knowledge/opportunity

4. Postcolonial institutions centered on oligarchy 5. Policies reinforced inequality & oligarchy

Relationship btwn Land Suitable Wheat & Family Farms (1888)

USACAN

HTI

DOM

MEX

GTM HND

SLV

NIC

CRI

COL VEN

ECU

PERBRA BOLPRY

CHL

ARG

URYGBR

NLDBEL

FRA

CHE

ESP

PRT

DEU

AUT HUN

ITA

GRC

ROM

RUSSWE

NOR

DNK

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TUR

CHN

JPN

THA

02

04

06

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Ag

ricu

ltura

l La

nd

as

Fa

mily

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-4 -2 0 2 4

log(Soil Suitable for Wheat/Soil Suitable for Sugar)

Predicted Values of % Agricultural Land as Family Farms

Sources: Family Farms is from Vanhanen (2003); Wheat to Soil Ratio (Menaldo 2013). See that paper for the methods and sources used.

Relationship btwn Family Farms in 1888 & Distribution Income Today

USA

CAN

DOM

MEX

GTMHND

SLV

NICCRI

COL

VEN

ECUPER

BRA

BOL

PRY

CHL

ARG

URY

GBR

NLD

BELFRA

CHEESP

PRT

DEU

AUT

HUN

ITAGRC

ROM

RUS

SWE

NOR

DNK

IRN

TUR

CHN

JPN

THA

20

30

40

50

60

70

Inco

me

Gin

i Co

eff

icie

nt

in 2

00

5

0 20 40 60 80% Agricultural Land as Family Farms

Predicted Values of Income Gini Coefficient in 2005

Sources: Income Gini is from the SIDD Dataset); Family Farms is from Vanhanen (2003).

Relationship btwn Land Suitable Wheat & State Capacity 2007

USA

CAN

HTI

JAMTTO

GUY

GBRIRL

NLD

BELFRA

CHE

ESP PRT

DEU

POL

AUT

HUNCZE

SVKITA

ALB

HRVSVNGRC

CYP

BGRMDAROM

RUS

EST LVA

LTU

UKRBLR

ARMAZE

FINSWENOR

DNK

GNB

GMB

MLI

SEN

NERCIV

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LBR SLE

GHA

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CMR

NGAGAB COG

ZAR

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KEN

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SOM

AGOMOZ

ZMB

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MWI ZAF

NAM

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MDG

MAR

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SDN

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IRQ

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LBN

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KAZ

CHNMNG

PRK

KOR

JPN

IND

PAKBGD

MMR

LKA

THA

VNM

MYS

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AUS

PNG

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CUB

DOM

MEX

GTMHND

SLVNIC

CRI

PANCOL

VEN

ECU PER

BRABOL

PRY

CHL

ARGURY

0.2

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ICR

G Q

ua

lity

of

Inst

itutio

ns

Ind

ex

-4 -2 0 2 4log(Soil Suitable for Wheat/Soil Suitable for Sugar)

Predicted Values of ICRG Quality of Institutions Index

Sources: ICRG and Menaldo (2013).

Relationship btwn Family Farms 1888 & State Capacity 2007

USA

CAN

HTI

GBR

NLD

BELFRA

CHE

ESP PRT

DEUAUT

HUN

ITAGRC

ROMRUS

SWE NORDNK

IRNTUR CHN

JPN

THADOM

MEX

GTMHND

SLVNIC

CRI

COL

VEN

ECUPER

BRABOL

PRY

CHL

ARGURY

0.2

.4.6

.81

ICR

G Q

ua

lity

of

Inst

itutio

ns

Ind

ex

0 20 40 60 80% Agricultural Land as Family Farms

Predicted Values of ICRG Quality of Institutions Index

Relationship btwn Family Farms in 1888 and Per Capita Income in 2005

USA

CAN

HTI

DOMMEX

GTM

HND

SLV

NIC

CRI

COLVEN

ECUPER

BRA

BOL

PRY

CHLARG URY

GBR NLDBEL FRACHE

ESP

PRT

DEUAUT

HUN

ITA

GRC

ROM

RUS

SWE

NORDNK

IRNTUR CHN

JPN

THA

67

89

10

11

log

(Pe

r C

ap

ita I

nco

me

)

0 20 40 60 80% Agricultural Land as Family Farms

Predicted Values of log(Per Capita Income)

Source for Per Capita Income: Haber & Menaldo (2011).

Postcolonial institutions & policies

North America

North America

• Extended the suffrage widely. Taxed and spent.

• Strengthened federalism & autonomy of local governments.

• Embraced market based development, promoted middle class & built safety net.

North America: Taxes & Education

1) Progressive taxation at state and local level

Property and wealth taxes; income taxes.

2) Provision of public education

Tied to local property taxes; increasingly expanded and improved.; eventually included state universities

United States’ FEDERAL income taxation0

51

01

5In

com

e T

axe

s as

% G

DP

180

0

181

0

182

0

183

0

184

0

185

0

186

0

187

0

188

0

189

0

190

0

191

0

192

0

193

0

194

0

195

0

196

0

197

0

198

0

199

0

200

0

yearSource: NBER; OECD Fiscal Statistics

North America1. Open immigration and generous land grants to

small farmers with secure titles

2. Investment in Public Works

3. Low barriers to market entry & incentives for innovation: e.g., patent laws

4. Liberal bank charter policy with healthy competition between local level banks.

Costs to Transport One Ton in the United States(Cents per Mile)

Land

1815 Mode of Transportation 1860

30 ¢ Road 15¢ or more

Railroad 2¢ or more

Water

1/3¢ or more6¢

River•River Raft downstream•Boat upstream•Steam boat

1/3¢ or more

Canal 1¢ or more

Great Lakes 1/10¢

1¢ or less Ocean 1/2¢ or less

Source: George Rogers Taylor, The Transportation Revolution (New York: Holt, Rinehart, 1962) Appendix A, Table 2

Postcolonial institutions & policies

Latin America

Latin America

• LATAM experienced authoritarianism, inequality & political instability

• LATAM became centralized

• LATAM countries embarked on crony capitalism to benefit politicians, bankers, and a small cadre of industrialists and unions.

Limited Experience with Democracy0

10

%3

0%

20

%4

0%

Pe

rce

nt

of

Tim

e a

s D

em

ocr

acy

sin

ce I

nd

ep

en

de

nce

MEX PRY NIC SLV BOL PER CUB HND BRA ECU DOM VEN GTM ARG PAN COL CRI CHL URY

Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009); Boix & Rosato (2001)

Latin America:

Regressive taxation and no taxes collected at state and local level: excise taxes on consumption goods & fiscal monopolies.

The wealthy provided private education to their own children and higher education was targeted to a narrow elite.

By 1900, LATAM had fallen way behind the education race

05

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Source: Banks' Cross-National Time-Series Data Archive

Sources: Income Taxation data for Latin American countries from native treasury sources (Menaldo 2008), OXLAD Dataset (2008) &Government Finance Statistics Yearbook (various years). GDP data is from OXLAD 2008). Income Taxation as share of GDP data for the EU 15 is from OECD Factbook (2007).

Latin America Failed to Adopt Progressive Taxation or Provide Safety Net

Latin America

1. Constrained immigration and land grants only to very large landholders

2. Limited investment in public works3. High market barriers to entry & low

incentives for innovation4. Restricted bank charter policy with credit

allocated on political grounds.

LATAM transportation costs over 30 times greater than within USA!

Circa 1842, costs of moving a ton of goods from Latin American countries’ major ports to their capitals (pounds sterling):

Lima, Peru: 1Santiago, Chile: 2.4New Granada: 45Mexico City: 13.8Quito, Ecuador: 15 Sucre, Bolivia: 19.3Caracas, Venezuela: 4.3

Source: Brading (1969: 243-4).

Dictator Porfirio Diaz, 1876-1911

Percent of non-government loans made to banks’ own boards of directors:

Banamex 1886 to 1901 100%Mercantil de Veracruz 1898-1906 86%Banco Coahuila, 1908 72%Banco Durango, 1908 51%Mercantil de Monterrey, 1908 31%Banco Nuevo León, 1908 29%

Source: Haber (2012)

Explanation for LATAM Exceptionalism

1. Factor Endowments: wheat vs. sugar2. Colonial Strategies: settlers vs. mercenaries3. Political-economic institutions: democrats &

federalists vs. oligarchs & centralists 4. Distribution of Wealth/Income: equality vs.

inequality5. Policies reinforced distribution of political-

economic power: inclusive/efficiency vs. exclusive/distortive

Cause for Hope? Democracy

Argentina 1983 Honduras 1982Bolivia 1982 Mexico 2000Brazil 1985 Nicaragua 1984Chile 1990 Panama 1989Ecuador 1979 Paraguay 1989El Salvador 1984 Peru 1980Guatemala 1986 Uruguay 1985

Note: Democracy coded as electoral democracy. Source: Cheibub, Gandhi & Vreeland (2009)

Reforms• Rule of Law• Decentralization• Prudential banking regulation• Clamp down on tax evasion • Cut down on wasteful government

spending and target spending towards poor & education

Accomplishments

• Political & civil liberties• More secure property rights & access to credit• Prudent fiscal & monetary policy• Much lower debt & inflation• Higher levels of trade & FDI• Less sensitive to global business cycle• Better education for more people

Increasingly decoupled from USA business cycle: skilled labor force

Taken from World Bank LAC Regional Flagship (2012). Original report written by Francisco H. G. Ferreira, Luis Felipe López-Calva, María Ana Lugo, Julián Messina, Jamele Rigolini, and Renos Vakis.

Sao Paolo: Financial Capital of South America