ECONOMICS LATIN CAPITAL GOES NORTH
By Holley Knaus SINCE IT BURST on the international scene in 1982,
the debt crisis has dominated Latin American economic policy decisions.
But Latin American countries' efforts to pay back debts have continually
been undercut by their domestic elites. Wealthy Latin Americans have sent
capital abroad, adding significantly to balance of payment problems which
arise when more money leaves a country than enters. From 1973 to 1987,
capital flight from Latin America amounted to $151 billion, or over 40
percent of the total foreign debt Latin American countries acquired during
the same period. The magnitude of the capital flight problem for Latin
America has recently attracted the attention of economists and bankers
worldwide. The 1989 Brady Plan, proposed by U.S. Treasury Secretary Nicholas
Brady, sought to address the problem by improving the investment climates
in Latin American countries. But economists are increasingly questioning
this approach. And some are pointing to evidence which suggests that capital
flight can only be stemmed by debt forgiveness and direct controls on capital.
The cost of lost capital Capital flight has intensified Latin America's
economic crisis in a variety of ways. Since the mid-1980s, when new loans
dried up and their debt grew to over $400 billion, Latin American countries
have found it harder to make interest payments. Not only has capital flight
exacerbated balance of payments deficits, it has also diverted funds that
could be used to service the debt. Capital flight hinders economic development
by limiting Latin American countries' ability to import the vital industrial
inputs which Latin American countries need to make use of their existing
economic capacity. Capital flight has also reduced the taxable assets and
income available to governments in the region. Latin American governments
have not traditionally taxed their citizens for income earned outside their
country of residence, explains Manuel Pastor, Jr., an economist at Occidental
College, in a report for the Washington, D.C.-based Economic Policy Institute.
Latin American governments scrambling to service the debt, and no longer
able to look to foreign banks for relief, have had to rely increasingly
on inflationary taxes. With the assets of the wealthy shielded in foreign
countries, the burden of debt relief falls disproportionately on the poor.
The combined effects of capital flight have devastated Latin American societies.
The economies of wealthier countries such as Argentina, Brazil and Mexico
have stagnated in a decade of no growth, while the internal structures
of poorer nations such as Ecuador and Peru have dramatically deteriorated.
Desperate to repatriate lost capital, Latin American governments are adopting
many of the policy recommendations of the multilateral banks. But these
recommendations are brutalizing the people of the region. Sheldon Rappaport,
a spokesperson for the World Bank, says that international lending institutions
offer governments "tough policy advice." They recommend measures designed
to bolster confidence in the Latin American financial situation by increasing
the "opportunity to get returns on investments [through] reforms to make
the economy more market- oriented," he says. World Bank and International
Monetary Fund (IMF) schemes to improve domestic investment climates typically
involve the imposition of austerity and deregulatory measures including
cutbacks in health services, education, housing and other social programs
and the lifting of price controls. The social costs of IMF measures designed
to attract lost capital were revealed in Venezuela in 1989. Venezuela has
a higher proportion of its assets abroad than any other Latin American
country. Capital flight has contributed more to the country's balance of
payments difficulties than its debt; over the past 15 years, the overseas
assets Venezuela has acquired have exceeded foreign borrowing by $20 billion.
When President Carlos Andres Perez took office in early 1989, the government,
in an attempt to bring home Venezuelan flight capital, imposed strict austerity
measures. The nation's standard of living plunged, wages plummeted and
unemployment rates soared. In February 1989, anti-austerity riots broke
out, leaving over 300 people dead. Courting capital U.S. policymakers expressed
concern about the Latin American debt crisis throughout the 1980s. In March
1989, Treasury Secretary Brady announced a plan that offered the possibility
of some form of debt relief to Third World nations [see "Bank Relief, Not
Debt Relief," Multinational Monitor, November 1989]. While the Reagan administration
primarily called on countries to run trade surpluses to generate income
to pay off their debt, the Brady Plan focuses on ways to reverse capital
flight. Responding to this new emphasis, the IMF made its support of debt
reduction efforts contingent upon a country's demonstration of its ability
to repatriate flight capital. But bankers and government officials are
already beginning to see the flaws of this approach. Pastor says that the
Bush administration has realized that this contingency in effect "puts
the cart before the horse" and that capital will return to Latin American
only after the debt shrinks. Still, countries hoping to be placed on the
"Brady list" are expected to implement orthodox IMF policies to stem capital
flight: a combination of austerity measures, including strict wage controls,
and moves toward deregulation to open trade and liberalize foreign investment
rules. So far, the Brady plan has not met with much success, as the test
case of Mexico, a "model debtor" with a government friendly to the United
States, illustrates. Mexico's only success in repatriating some of its
lost $55 billion in flight capital did not come through an improvement
of its investment climate based on IMF measures, but through much more
direct means. In August 1989, the government offered a general tax amnesty
to investors who repatriated foreign assets; about $2 billion has returned
to Mexico. IMF critics such as Andrew Zimbalist, an economist at Smith
College, say that the Fund's policy prescriptions are "much too simple-minded
[and] ideologically based." Although a combination of austerity and deregulation
may help stem capital flight from certain countries, Zimablist says, IMF
measures "tend not to work" and should not be applied across the board
to all Latin American economies. The IMF's formulaic prescriptions do not
appear to jibe with reality. In his study, Pastor concludes that one of
the central tenets of the IMFs policy recommendations--its emphasis on
lower wages as a means to improve the investment climate--is unjustified.
His statistical analysis found little connection between increases in the
labor share of national income and the outward flow of capital. Pastor
suggests that one explanation for these results may be that higher labor
share raises internal demand, making investment opportunities more attractive.
Controlling capital The scope of the capital flight problem and the failure
of IMF- type measures to solve it suggest that new approaches are necessary.
The IMF and World Bank have long opposed legal limits on capital movement
as incompatible with free market ideology, and have claimed that such measures
will actually exacerbate capital flight because they worsen countries'
investment climates. Pastor, however, found that countries which institute
capital controls tend to exhibit lower levels of capital flight. It is
clear, however, that capital controls will not spur the repatriation of
flight capital. Many economists say the very size of the debt scares off
potential investors, who fear that any profits they generate will be taxed
away by governments in need of cash. Pastor says that only a far-reaching
program, based on substantial debt relief and incorporating moderate use
of capital controls, a progressive redistribution of income and a more
efficient tax system, offers the possibility of solving Latin America's
capital flight problem and, more broadly, extricating the region from its
debt crisis.