Consenso De Washington

13securities, driving domestic interest rates higher and making domestic securities even more attractive for foreign investors by increasing interest differentials. Thus, foreign investors attracted by rising interest rate differentials and rising domestic profitability have an even greater reason to expect future appreciation of the currency that will further increase their expected returns on investment in the country. Thus, most all of the heterodox and orthodox stabilization plans experimented with in Latin America in the 1980s and 1990s were grounded in an exchange rate anchor. The real question then is not whether the anchor was necessary, but why the plans introduced in the 1990s were successful when earlier plans had failed. It was characteristic of stabilization plans that the immediate fall in the inflation rate produced an increase in real incomes and an increase in consumption expenditure as consumers sought to benefit from price stability before the expected return of inflation. This, in turn, produced a rise in imports relative to exports and the eventual rise in the external deficit eventually led to a drain on reserves, a collapse of the exchange rate, and a return of inflation. However, in both the case of Brazil and Argentina, the 1990s stabilizations occurred after the economies had taken the Brady Plan measures to attract foreign capital inflows. Foreign capital inflows, in particular direct investment flows attracted by the opportunities of privatized state-owned industry and deregulation, were more than sufficient to cover the rising trade deficits, leading to nominal and real appreciation of exchange rates. The size of external flows thus made it possible to pursue stabilization even in the presence of rising external and internal deficits that previously had defeated the attempts to halt inflation. (see Kregel 1999, 2003). The return to price stability and the tendency to overvaluation was thus the result of the strong capital inflows that were initiated by the initial success of the Brady process, reinforced by the announcement of Washington Consensus-style reforms, including privatization and trade liberalization. Given the series of failed stabilization attempts and new currencies introduced in the 1980s, it seems clear that the success in eliminating inflation was the result of a reflexive,13a government’s policy by the faith it puts in a currency, devaluation can only send the market the signal that the government thinks its policies are not adequate, leading to an overshooting that may get out of control. 13 George Soros (1987) has identified this process as supporting the overvaluation of the dollar in the first half of the 1980s, and the experience of countries such as Brazil and Argentina seem very similar to the process he describes. Just as the U.S. overvaluation was justified by the increased returns available in the United States due to

14self-reinforcing, cumulative process driven by direct investment and speculative capital inflows. It is well known that such processes are not sustainable. As noted above, the new policy was meant to replace the monopoly inefficiencies and rent-seeking of external protection import substitution with market forces to transform microeconomic incentives to create an internationally competitive production structure. However, the rapid reduction in inflation that occurs with successful stabilization policies initially produces an increase in incomes and wealth; in the presence of more open trade this leads to increased imports and a rising current account deficit which can be easily financed by foreign investors who interpret the increased growth as the result of the impact of the reforms in raising domestic productivity and profitability. However, the technological innovation and restructuring associated with the creative aspect of destruction remains stymied by the macroeconomic environment of high interest rates, overvalued exchange rates, and volatile capital flows. Thus, the failure of the Consensus reform policies lies in the fact that they provided support for the “destruction” of inefficient domestic industry, but failed to provide support for the “creative” phase of “creative destruction” of a real transformation of the productive structure through higher investment and technological innovation. The adjustment was to be one patterned after the Schumpeterian process of “creative destruction.” Or, as the 2003 UNCTAD Trade and Development Report described it, the sound macroeconomic fundamentals required for fighting inflation were not the same as the strong microeconomic fundamentals necessary to transform domestic industry to meet foreign competition and increase exports. The problem with the Washington Consensus was that its success in eliminating inflation relied on high levels of capital inflows that produced byproducts that were crucial to its success—overvalued exchange rates, open capital markets, high levels of capital inflows—but were not part of the original Consensus and created domestic incentives that impeded the domestic restructuring required to provide improved growth and employment. Further, the disappointing performance of Latin American countries after the initial success in taming inflation has been due to the failure to provide a transition from inflation-fighting adjustment the introduction of supply-side policies, in Latin America it was suggested that overvaluation was, in reality, only a reflection of the higher rates of return resulting from the market-based policy reforms.

15policies to employment and growth-creating adjustment policies because of the difficulty in producing competitive exchange rates. The rapid improvement in the external accounts of many countries in the region, due to expanding markets and rising prices for primary products, has not made the process of providing a transition in policy any easier, for current account surpluses now join capital inflows in putting pressure towards appreciation. The Consensus calls on countries to maintain competitive currencies, but in the absence of exchange controls on capital inflows, this has proven to be extremely difficult to achieve in practice and if achieved risks creating a flight from the currency that would jeopardize the stability that has been achieved. Indeed, Williamson himself has now suggested that control of capital flows might be required, without realizing that had they been applied initially they would have diminished the success in stabilizing inflation. An additional difficulty that has been created by the failure to achieve a transition to employment and growth-creating policies is the impact that it has had on domestic investment and financial systems. The continued existence of large external debt stocks and the use of interest rate policies in the context of inflation targeting have led to conditions

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