Forstater Keynes for the Twenty-First Century [economics] (Palgrave, 2008)

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6.The McKinsey Global Institute has conducted a number of studies comparing productivity developments, by industry, in a number of countries. The findings are summarized in Lewis 2004. In case after case, the keys to good productivity performance are found to be two: (1) exploiting new economies of scale and (2) allowing competition to drive out the old, less productive activities.

7.Here I should acknowledge, as did Charles Goodhart in his paper at the conference, the influence of Martin Shubik’s “mathematical institutionalism.” His work on monetary theory over many years culminated in Shubik 1999.

8.Or we assume at least that all default risks are, in principle, insurable.

REFERENCES

Bryant, John. 1983. A simple rational expectations Keynes-type model. Quarterly Journal of Economics 98 (3): 525–28.

Cooper, Russell W., and Andrew John. 1988. Coordinating coordination failures in Keynesian models. Quarterly Journal of Economics 103 (3): 441–63.

Gintis, Herb. 2007. The dynamics of general equilibrium. Economic Journal 117 (523): 1280–1309.

Howitt, Peter. 2006. The microfoundations of the Keynesian multiplier process.

Journal of Economic Interaction and Coordination 1 (1): 33–44.

Howitt, Peter, and Robert Clower. 2000. The emergence of economic organization. Journal of Economic Behavior and Organization 41 (1): 55–84.

Keynes, J. M. 1936. The General Theory of Employment, Interest and Money. London: Macmillan.

Koo, Richard C. 2003. Balance sheet recession: Japan’s struggle with uncharted economics and its global implications. Singapore: John Wiley & Sons (Asia).

Lewis, William W. 2004. The power of productivity: Wealth, poverty, and the threat to global stability. Chicago: University of Chicago Press.

Ljungqvist, Lars, and Thomas J. Sargent. 2003. European unemployment: From a worker’s perspective. In Knowledge, information and expectations in modern macroeconomics: In honor of Edmund S. Phelps, ed. Phillippe Aghion et al. Princeton, NJ: Princeton University Press.

Lucas, Robert E., Jr. 2003. Macroeconomic priorities. American Economic Review 93 (1): 1–14.

Phelps, Edmund S. 1994. Structural slumps: The modern equilibrium theory of unemployment, interest and assets. Cambridge, MA: Harvard University Press.

Shubik, Martin. 1999. The theory of money and financial institutions. Vols. 1 and 2. Cambridge, MA: MIT Press.

van der Hoog, Sander. 2005. Microeconomic disequilibrium dynamics. Amsterdam: Thela Thesis. Available online at http://dare.uva.nl/record/150442.

Note: My own attempts to pursue the lines of inquiry sketched in this chapter can be found at www.ceel.economia.unitn.it/staff/leijonhufvud.

P A R T I I

KEYNES’S CONTINUING

IMPACT ON POLICY

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C H A P T E R 6

KEYNES IN LATIN AMERICA

AND LATIN AMERICAN

KEYNESIANISM

JULIO LÓPEZ G.*

The Keynesian revolution was one of the great modern accomplishments in social design . . . [However] the history of the revolution is, perhaps, the worst told story of our era. It is time that we knew better this part of our story and those who made it.

—John K. Galbraith, 2001

MANY READERS ARE FAMILIAR with the name Raúl Prebisch and know of his central role at the Economic Commission for Latin America and the Caribbean (ECLAC) and the United Nations Conference for Trade and Development (UNCTAD). But probably few know that Prebisch also wrote the widely read Introduction to Keynes. And probably even fewer know that he played a decisive role in framing two Keynesian economic recovery plans for his native Argentina.

Similarly, it may surprise many readers to hear that several Latin American countries had important Keynesian demand management episodes. Some of these took place during the crisis of the 1930s, and

*I want to thank Patricia Audino, Carlos Mallorquín, and Arturo O’Connell for their help; but, most of all, I thank Ignacy Sachs, with whom I have discussed many of the ideas developed in this paper. I also acknowledge the financial support received from Universidad Nacional Autónoma de México, through DGAPA/ PAPIIT-Proyecto IN301606.

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some of them occurred during the Second World War. All of these left a big imprint on Keynesian-inspired economic thought in our region.

In telling the story of Prebisch and the historical episodes, I will adhere to the approach followed by Galbraith (2001) in his authoritative account of Keynes’s arrival in the other America. But I will also give some factual antecedents that will, I hope, allow for a better understanding of the impact of Keynes’s thought in our region. Besides that, I will give an account of how Latin American economists further developed Keynes’s ideas.

HISTORICAL EPISODES

Before the crisis of the 1930s, all Latin American economies had strong links with the world economy as suppliers of raw materials and foodstuffs. Therefore, the crisis hit them hard, causing a severe decline in prices and volume of exports. The export multiplier worsened the impact of the decline of exports on domestic demand. Besides, since export taxes represented most of the public revenues, the normal, orthodox reaction was a tightening of government spending, which provoked another round of demand contraction.

Sometimes, however, the government policy stance deviated from this pattern. The first episode involving what we would call Keynesian economic policy measures took place in Brazil. Celso Furtado, one of the greatest Latin American economists, masterfully analyzed this episode, and probably the best I can do is follow closely his description of the events (Furtado 1954, 1962).

When the crisis hit Brazil, the country was the largest coffee producer in the world. (It had significantly raised its production capacity as a result of huge investments made in the preceding period.) Excess supply appeared, and coffee prices declined to one-third of their previous level.

Brazil had an important previous experience with government intervention to protect coffee prices when confronted with adverse external shocks. The procedure was known as “valorization” of production— meaning that the government used external credit to purchase surplus production and thus stabilize prices.

When the 1930s world crisis arrived, Brazil had to face the ineluctable decline of its import capacity, by about 50 percent, coupled with the need to finance huge stocks of coffee that did not find a market abroad. This involved a great government effort. Consider that, in some years, the value of coffee production the government bought reached about 10

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percent of gross domestic product (GDP), and that external credit for this action was not now available. The authorities had to destroy a large part of these stocks to avoid the costs of stocking the product.

Government purchase of the coffee surplus implied an expansion of loan-financed expenditure, which preserved monetary incomes of landlords and peasants despite the decline in the value of exports. Therefore, it conserved domestic and aggregate demand and employment. Brazil had a small industrial base, but it was nevertheless capable of responding to the demand forthcoming for domestic output with increased supply. As Furtado put it, “The value of the [coffee] product destroyed was much below the value of the income created. We were, in fact, building Keynes’s famous pyramids” (Furtado 1962, 198).

Thanks to government policy intervention, the decline of Brazil’s GDP from 1929 to the bottom of the crisis, although large—that is, about 25 percent—was not as large as it would have been otherwise. Also, already in 1933, output started to rise; that is earlier than in the United States, where the recovery began a year later.

Defense of domestic income during the world crisis entailed a bal- ance-of-payments deficit, which provoked currency depreciation. The latter, in turn, brought about a change in relative prices in favor of manufacturing. This was of major importance. As Furtado put it:

While defending . . . domestic money income, when import capacity had declined, the policy of favoring the coffee sector came to be, eventually, an industrialization policy. With the fast depreciation of domestic currency, the domestic prices of imports rose, even as the competitiveness of domestic producers improved. The profitability of the coffee sector and of the export sector in general, was declining, because government support only partially compensated for worsening export earnings. Manufacturing production for the domestic market became the most profitable business of the Brazilian economy. Therefore, financial resources and entrepreneurial abilities transferred from the traditional export sector, mainly coffee production and commercialization, to the novel manufacturing industries. (Furtado 1962, 94–95)

The second episode of note took place in Argentina, and its features were similar to those of the Brazilian episode. When the world crisis hit the country, the economic authorities’ first reaction was an orthodox package.1 But the crisis lasted longer than expected, and the package did not bring about good results; at the end of 1933, the government named new economic authorities, who launched the Plan de Acción Económica Nacional. Raúl Prebisch played an important role in devising the entire

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plan. In his words, “The Plan de Acción Económica Nacional was Keynesian, of economic expansion controlling the external sector with a selective exchange rate policy . . . and with two exchange markets: the controlled and the free one. In the first one we controlled everything. Imports were subject to selective prior authorization; exports were subject to a fixed price for the exchange. We subsidized those exports that we could not sell at international prices; namely, an internal subsidy. And financial services and nontraditional exports remained in the free market” (Magariños 1991, 94).

An important part of the plan was its proposal to set up a government institution (Junta Reguladora de Granos) in charge of the purchase of all cereal crops, at a price higher than the international one. The roles of the Junta were “i) to set minimum prices at which the State would buy all the cereal supplied; these prices stimulated farmers to plant and to harvest; ii) to control the supply of Argentine exports of cereal to the world market, to avoid a large drop in the price in times of overproduction” (González and Pollock 1991).

The plan contributed to the important economic recovery that took place in Argentina between 1933 and 1937. GDP grew by 5 percent yearly, which was a rate almost as high as the 5.7 percent achieved between 1920 and 1925, a fast-growth period. A greater use of the productive capacity allowed an economic upswing. Yet, per capita GDP in 1937 still lagged behind the level reached in 1929.

The experience gained with the world crisis left a deep imprint on all Latin American economies. Governments could see that it was possible to face the outside-induced recession with expansionary economic policy measures. Monetary and fiscal policies, in particular, were especially important to defend production and demand. Those economies that confronted the crisis with nonorthodox policies achieved positive results. Industry could respond to the greater demand with a greater use of capacity and supply, despite its small size and the low degree of development.

But the economic authorities also discovered that demand management without control of the external sector was impossible. They had to recognize the usefulness of instruments rejected by orthodox theory, such as foreign exchange control, or import tariffs. The institutions and instruments used to confront the crisis remained a part of the arsenal that Latin American countries would use in the future.

Last, but not least, the crisis forced the authorities as well as Latin American thinkers to embark on an autonomous reflection about eco-

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nomic policies. Recurrent crises had hit all countries of the region, but these had not been as deep and protracted as the one of the 1930s. In part because of this, Latin Americans had not had an opportunity to thoroughly reflect on the peculiarities of their economies and societies and on economic policies and strategies to confront external shocks. The experience of the crisis forced a new economic thinking in these countries.

The third episode I want to relate has more to do with ideas than with policymaking. It is again about Argentina, and again Prebisch is a central character.

Following 1937, there was a new economic downswing and, when World War Two erupted, new problems appeared, especially in the financial sector and on the external front. The European markets drastically reduced imports from Argentina, and the country had to transfer part of its demand for imports to the United States.

Under this new set-up, the Central Bank and the Ministry of Finance devised a national economic recovery plan (Programa de Reactivación de la Economía Nacional), which they proposed to Parliament in November 1940.2

The plan recognized the central role of the state in creating favorable conditions for the private sector, since the latter should be the dynamic economic agent. The plan argued that, through state intervention and especially through monetary policy, it would be possible to stimulate the economy. It thus proposed to inject a fair quantity of purchasing power and of demand into certain sectors especially affected by the crisis that, at the moment, seemed likely to respond to a greater demand with a greater output. The plan also devised a scheme to guarantee that the economic expansion would not cause insurmountable balance-of-payments problems. Following is a description of how the proponents of the plan expected to achieve economic recovery.

First, the state would purchase all wheat and corn harvests at a price higher than the world price. With this, they aimed to support producers and to avoid a drastic fall in international prices because of an excess supply. Second, the plan proposed an ambitious housing and building scheme, based on the idea that “when construction is doing well, all else will do well.” The authors of the proposal stressed several important features of the construction industry. They recognized the existence of a large, unsatisfied demand; they suggested that demand expansion could rapidly mobilize idle productive capacity; and they underlined the low

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coefficient of imports of the industry and its important input-output connections with the rest of the economy.

Third, the plan aimed to stimulate import substitution of manufacturing goods, and it proposed financial support measures to achieve this aim. The starting point was the notion that “precisely the periods of major industrial development in Argentina had been the world crisis and the first European war. In other words, when the country was forced to industrialize to supply that which it could not import industrialization speeded up” (Prebisch 1991–1993, 4:158). Note that here we find an early rationalization of import-substitution industrialization, the view that ECLAC would later develop.

With regard to public expenditure policy, the authors of the plan took as their point of departure the following opinion: “In the prior world economic depression . . . the violent expenditures contraction . . . had worsened the problem. It created new unemployed and hit negatively industry, construction and economic activity. According to the government, [the emphasis now] is not about increasing administration expenditures, but about increasing the expenditure on the field of the private economy, without momentarily having to worry for the financial problem. As the economy recovers, the government will get greater revenues and greater opportunities to collect new tax payments. Thus we will easily solve the financial problem” (Prebisch 1991–1993, 157–58).

To finance the whole scheme, the plan proposed that the Central Bank organize an emergency mediumand long-term financing system for domestic economic activity. This should receive the necessary resources and instruments to carry out its activities. At the same time, the plan argued in favor of creating a long-term capital market, which then was almost nonexistent in Argentina.

Most importantly, the plan proposed that the emergency financing system of the Central Bank should have as essential the duty of turning short-term commercial bank deposits into fifteen-year loans for the industry and into twenty-five-year loans for construction. It also envisaged a specific procedure to increase the liquidity of the economy, which, in essence, amounted to decreasing the commercial banks’ compulsory reserve coefficient. Commercial banks should transfer funds to the emergency financing system already mentioned. Banks, financial societies, and other private institutions would lend the money with resources provided by the Central Bank. Although these were private loans, the risk of the loans would be much reduced, for all of the engagements incurred by

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the supervising and approving organism of credit would be considered government obligations.

Last, but not least, the plan recognized that Argentina should remain an open economy. The country should make the best use of its natural comparative advantages, but it should also build new comparative advantages. Following are the measures that would achieve this objective (Llach 1984).

1.A commercial treaty with Brazil and extension of the treaty to other countries of the continent, with common commercial protectionist and preferential measures, to promote exchange with neighboring countries

2.Industrial export exchange incentives, especially for exports to the United States, since Argentina had a large commercial deficit with this country

3.Generalization of the draw-back regime

4.Special stimuli for industries processing national raw materials

5.A thorough revamping of tariffs and of the antidumping legislation

As we can see, the overall stance of the plan had clear Keynesian features. In particular, it stressed monetary and financial measures, instead of restricting itself to fiscal policy.3

Nevertheless, there was a feature of the plan that was novel and where it departed from Keynes’s outlook. It did not pretend to close the country to foreign trade and capital flows, but it did propose a strict control of the external sector. To ensure that injection of purchasing power and of demand would not put more strain on the balance of payments, it proposed to drastically control the monetary circuit in its external connections. This would be achieved through import controls and through multiple exchange rates for different types of external payments. This idea represented, in Prebisch’s words, “a clear evolution of the idea of how to make exchange control work. In its primitive conception exchange control was a mere restrictive instrument to achieve balance of payments equilibrium; we now see it as an instrument for strengthening domestic economic movements” (Prebisch 1991–1993, 159).

Unfortunately, Argentina never carried out this plan; for political reasons, the Argentine Congress denied its approval. Nevertheless, it stands out as the most remarkable Keynesian-oriented economic policy proposal in Latin America.