Americas Quarterly - Spring 2009

the destination of choice for investments in these market sectors.

Alas, to apply the words of Brazilian samba composer Vinicius de Morais: “Tristeza não tem fim, feli-cidade sim.” (Sadness has no end, but happiness certainly does.) Just as Latin America was getting used to growth rates that topped 5 percent, the music stopped abruptly in the fourth quarter of 2008. The fabled decoupling disappeared and the so-called commodity super-cycle shrunk super-quickly.

Can Latin America, and the world, recover momentum? The answer is yes—but only by turning to the international financial institutions that have been largely ignored in the run-up to the present crisis. A look at Latin America’s own turbulent economic history over the past decades can help to explain why.

More Things Change,
More They… Never Mind

In the mid 1970s, skyrocketing commodity prices made Latin America a preferred destination for the ample international liquidity that Middle Eastern petrodollars and lax U.S. monetary policy funneled toward financial institutions. That ended, however, in 1982, with a debt crisis caused by a sudden cutback in global liquidity, as the U.S. tried to contain rampant inflation by slamming on the brakes of its monetary policy.

It took the better part of the 1980s—the so-called Lost Decade—to arrive at a new policy consensus: fiscal policy needed to become more austere and sustainable; financial systems needed to be liberalized and reformed; trade had to be opened up; and state-owned enterprises needed to be privatized. This agenda, together with the Brady Plan, was supposed to provide a way out of the debt crisis and revive growth.

And so it did—for a while. The courageous market-oriented reforms enacted in countries like

Ricardo Hausmann is Director of Harvard University’s Center for International Development and Professor of the Practice of Economic Development at the John F. Kennedy School of Government.

Argentina, Mexico, Colombia, Peru, Uruguay, and Venezuela fueled a boomlet in the early 1990s—only to collapse in late 1994 with the Tequila Crisis. In hindsight, the growth seemed less a product of reform than of the temporary upsurge in short-term capital inflows brought about by the easing of Washington monetary policy during the 1990–92 U. S. recession. As soon as the U.S. started to raise interest rates in 1994, international liquidity tightened, and the region fell into currency and banking crises.

The boom-bust cycle continued through the early years of this century. A wobbly recovery during 1996 and 1997 was followed by another commodity price collapse in 1998. Between 1998 and 2002, which some refer to as the “lost half-decade,” the region was beset by a sequence of crises brought on once again by the drying-up of capital flows that occurred after the Russian 1998 crisis.

Still, after 2003, there was reason to believe that this time it really would be different. As the region started to run hefty current account surpluses, fueled by demand from China and India, Latin American countries seemed finally strong enough to finance their own market-led growth.

A small but significant number of countries used the terms-of-trade improvement of 2004–2008 to reassert state-led approaches and nationalize industries ranging from oil and gas to cement, steel, telecoms, pension funds, and banks. But most of the region’s countries used the good times to deepen their commitment to market-friendly approaches. Even as the U. S. economy got into trouble in the summer of 2007, the region kept moving ahead confidently.

Then, in the summer of 2008, terms of trade collapsed. As the global economy slowed down, the commodity price bubbles of 2007 burst. Oil, copper, soy beans, iron ore, steel, and rice fell to 2004 levels. Countries such as Argentina, Ecuador and Venezuela saw the yield on their bonds move above 20 percent, indicating an imminent probability of default. The best Latin American corporations from the best countries in the region lost access to international finance. Floating currencies such as the Brazilian real, and the Chilean, Colombian and Mexican pesos depreciated by over 40 percent. In early 2009, the IMF lowered its projected growth for Latin America to 1. 1 percent for