Understanding Economic Policy Reform Essay Example for Free

Understanding Economic Policy Reform Essay What is the point of loudly proclaiming reforms if these are not aimed at improving the well-being of a large majority of the population? And if that is their goal, why should reforms be unpopular? In many areas of policy, there may ex1 Quoted by Jose Maria Maravall in Luiz Carlos Bresser Pereira, Maravall, and Adam Przeworski (1993). â€Å" T ist â€Å"technical† uncertainty as to what the appropriate solution is to the problems at hand. Think of President Clinton’s health care plan, for example, or of global warming. Consequently, reforms will arouse opposition if they are viewed as applying the wrong fix or if they are perceived as being primarily redistributive (that is, zero-sum). What is remarkable about current fashions in economic development policy (as applied to both developing and transitional economies), however, is the extent of convergence that has developed on the broad outlines of what constitutes an appropriate economic strategy. This strategy emphasizes fiscal rectitude, competitive exchange rates, free trade, privatization, undistorted market prices, and limited intervention (save for encouraging exports, education, and infrastructure). Faith in the desirability and efficacy of these policies unites the vast majority of professional economists in the developed world who are concerned with issues of development. 2 2 The convergence is not complete of course. But compared to two decades ago, the various sides have moved substantially closer to each other. One indicator of this is the recent book by Bresser Pereira, Maravall, and Przeworski (1993), which advocates a â€Å"social democratic† approach. The views expressed in this book concede an inor- 9 10 Journal of Economic Literature, Vol. XXXIV (March 1996) we observe such instances of collective irrationality. The events of the last decade have underscored the need to understand the political-economy of policy making. One of the eventual consequences of the global debt crisis that erupted in 1982 was a wave of market-oriented economic reforms, the likes of which have never been seen. The reforms were strongest and most sustained in Latin America, where countries like Bolivia, Mexico, Argentina, Peru, Colombia, and Brazil joined Chile in orthodoxy. But this was very much a global phenomenon. â€Å"Stabilization† and â€Å"structural adjustment† became the primary preoccupation of government leaders in Asia and Africa as well, even though the commitment to economic orthodoxy varied across countries and over time. These countries were in turn soon joined by the previously socialist economies of Eastern Europe and the former Soviet Union. Economists who had cut their teeth in Latin America’s economic quagmires became the advisors and analysts of these transitional economies. Even India, the giant archetype of a closed, import-substituting economy among developing countries, embarked on a process of economic liberalization in 1991 (see Jagdish Bhagwati 1993 and Arvind Panagariya 1994). These reforms were encouraging to economists and a vindication of sorts to those among them who had long advocated market-oriented reforms. But they in turn raise their own puzzles. Most fundamental of all, why are so many governments reforming now, after decades of adherence to policies of an opposite kind? This question poses a particularly important challenge to political economists: an understanding of these countries’ experiences now requires a theory that explains not only why seemingly dysfunctional policies had been initially un- Hence economists are often torn between two conflicting perspectives: on the one hand, good economic policy should produce favorable outcomes and therefore should prove also to be good politics; on the other hand, the implementation of good economic policy is often viewed as requiring â€Å"strong† and â€Å"autonomous† (not to say authoritarian) leadership. The experience of Chile, a country which has perhaps gone further than any other in implementing liberal economic policies, provides a good example. An essay on Chile’s reform strategy by Jose Pinera (1994), an economist and minister of labor and social security under General Pinochet, concludes: â€Å"[i]n the end, good policy is good politics† (p. 231). The irony is that most of the reforms the author glowingly discusses in the preceding pages required the suspension of normal politics and as heavy a dose of authoritarianism as seen anywhere. Good economics does often turn out to be good politics, but only eventually. Policies that work do become popular, but the time lag can be long enough for the relationship not to be exploitable by would-be reformers. In Chile’s case, free market policies (implemented after 1973) were eventually resoundingly endorsed in the presidential elections of 1989 and have become the envy of Latin America. 3 Conversely, bad economics can be popular, if only temporarily. President Alan Garcia’s popularity soared in Peru during his first two years in office (1985–86), thanks to expansionary fiscal policies whose medium-term unsustainability should have been obvious to anyone with common sense (see Ricardo Lago 1991). The puzzle is why dinate amount to the consensus view, and depart from it in remarkably few details. I will discuss this book in Section IV. 3 For a recent evaluation, see Barry Bosworth, Rudiger Dornbusch, and Ral Labn (1994). Rodrik: Understanding Economic Policy Reform dertaken and then maintained for so long, but also why these policies were suddenly abandoned en masse during the 1980s, often by the same politicians who had been among their most ardent supporters. Second, while the reforms were inspired at least in part by the East Asian experience, they took place much more quickly and, in many areas, are going considerably beyond those undertaken in East Asia. This raises the question of whether the new wave of reformers have internalized the correct lessons from the East Asian experience. Finally, are there any helpful rules for reformers to follow in guiding their policies through complicated political terrain? Can one hope to develop a â€Å"how-to† manual for the reformist politician? Puzzlement over such questions has led to a large and growing literature. A very short bibliography would include books by Merilee Grindle and John Thomas (1991), Robert Bates and Krueger (1993), Krueger (1993), Przeworski (1991), Ranis and Syed Mahmood (1992), Bresser Pereira, Maravall, and Przeworski (1993), Stephan Haggard and Robert Kaufman (1992), Dornbusch and Sebastian Edwards (1993), Haggard and Steven Webb (1994), Lance Taylor (1994), Williamson (1994), and Ian Little et al. (1993), not to mention countless papers. As this partial list indicates, both economists and political scientists have devoted their attention to these issues, often together in coauthored or coedited works. Indeed, no other area of economics or political science that I can think of has spawned so much interdisciplinary work. 5 In this essay, I will provide an econo4 One recent survey—Mariano Tommasi and Andres Velasco 1995—which overlaps with this one deserves special mention. 5 The litera ture on the economics of policy reform is of course even larger. For recent surveys, see Vittorio Corbo and Stanley Fischer (1995) and Rodrik (1995b). 1 mist’s perspective on the political economy of policy reform. I begin by examining the origins and analytical content of the new orthodoxy in development policy (Section II). I will focus here on two issues in particular which I feel remain in need of clarification. One of these concerns the distinction between (a) macroeconomic policies aimed at economic stability, such as fiscal, monetary, and exchange rate policies, and (b) liberalization policies aimed at structural reform and growth, such as the removal of relative-price distortions and the reduction of state intervention. It has become commonplace to conflate these two groups of policies, but for analytical purposes they are best kept apart. As we shall see, they also have different political-economy underpinnings. Moreover, maintaining the distinction reminds us that the consensus on what constitutes appropriate structural reform is based on much shakier theoretical and empirical grounds than is the consensus on the need for macroeconomic stability. The second issue concerns the appropriate lessons to be drawn from the experience of East Asian success stories. The new orthodoxy has tended to draw a somewhat biased picture that needs correction. Next, I will turn to the reforms of the 1980s and 1990s. This experience has opened an important window on the motivations of politicians, as well as on the nature of interactions between the economy and the polity. As indicated above, an important question is why so many countries have suddenly caught the reform bug. The confluence of economic crisis with reform has led to the natural supposition that crisis is the instigator of reform, a hypothesis that keeps reappearing in the literature and yet is inadequately analyzed.