China one year after joining the WTO

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					Regional Governance Architecture   FES Briefing Paper February 2006   Page 1




                         Financing for Development and
                     the Reform of the Financial Architecture:
                            A View from Latin America
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Regional Governance Architecture          FES Briefing Paper 5 | April 2009                                       2



                                                                efforts, national savings continued to be linked
1. Introduction                                                 to fiscal surpluses and income from the pension
                                                                system rather than to additional rises in interest
Latin America seemed to face a new world at
                                                                rates that stemmed from the liberalization proc-
the beginning of the 2000s: prices of the main
                                                                ess. This low “sensibility” of domestic savings to
commodities exported by the region rose enor-
                                                                interest rates have two important implications
mously, providing extra sources of financing and
                                                                for economic policy: first, financial reforms that
easing old “bottlenecks” that affected their
                                                                raise real interest rates will not automatically
economies during the 1980s. The new growth
                                                                cause increases in private savings; and second,
limitations were associated with insufficient in-
                                                                fiscal incentives aiming to augment private sav-
frastructure and the need to channel resources
                                                                ings will be ineffective. In addition, improve-
in a way consistent with development goals. The
                                                                ments in national savings alone do not guaran-
favorable external environment provided the
                                                                tee that those funds will be channeled to sus-
impulse to accumulate vast amounts of reserves
                                                                tainable growth. This latter goal requires those
and design new policies to sustain growth.
                                                                funds to be directed to the most dynamic sectors
However, by the middle of 2008, the scenario
                                                                of the economy.
had changed drastically. The outburst of the
financial crisis in the United States began to                  Despite the fact that banks dominate the finan-
propagate around the world turning it into a                    cial system in Latin America, the productive sec-
“global crisis.” As a consequence, Latin Ameri-                 tor also has access to financing at the capital
can countries are expected to face a less benign                market. This market suffered important changes
international context since commodity prices                    in most of the countries in Latin America during
started to drop and global trade and growth                     the 1990s: new laws were ratified and a set of
decrease.                                                       new regulations and norms were launched to
                                                                organize stock exchanges and bond markets.
In the same vein, The Monterrey Consensus was
                                                                These reforms and better economic indicators
revisited in 2008 in the middle of the turmoil
                                                                during the 1990s accelerated the development
and faced numerous challenges. Due to the cur-
                                                                of these sectors. On many occasions, however,
rent circumstances, the project of financing de-
                                                                transnational companies and governments par-
velopment is in jeopardy and governments in
                                                                ticipated more actively in international markets
developing nations need to take hold of the
                                                                than in local markets reaping the benefits from
situation immediately. Nevertheless, this is a
                                                                internationalization. In this realm, the public sec-
good moment to reflect on the course of global-
                                                                tor took advantage of the new opportunities
ization and carry out a comprehensive debate on
                                                                and issued in local and international markets to
the reforms that the global financial architecture
                                                                assure sources of funding. Nonetheless, capital
needs. Taking all of these issues into considera-
                                                                markets showed low levels of capitalization and
tion, the objectives of this briefing are four-fold.
                                                                liquidity in terms of international standards.
First, it will revise alternative forms of financing
                                                                Issuing in foreign currency was common and the
that Latin American countries have developed
                                                                actors that actually profited from participating in
throughout the years to attain certain levels of
                                                                these markets were mainly top companies.
“independence” from traditional sources, such
                                                                Therefore, capitalization levels were concen-
as the World Bank and the Inter-American De-
                                                                trated in few shares.
velopment Bank; second, the implications for
domestic policies will be addressed with a special              The experience of capital liberalization in Latin
emphasis on the fiscal realm; third, the essay will             America showed that capital markets have not
reflect upon the prospects of the global financial              been fully connected to development require-
architecture in light of recent developments; and               ments. Thus, alternative ways need to be ex-
finally, conclusions will be drawn.                             plored to channel savings to productive sectors
                                                                of the economy.
2. Financing for Development
                                                                Foreign Direct Investment: Revisionist Atti-
Domestic savings                                                tude and New Actors
In the 1990s, Latin America undertook an ambi-                  The search to reap the benefits from foreign
tious liberalization program that gave priority to              direct investment (FDI) drove countries in Latin
the private sector in administering financial re-               America to pursue a stark competition to attract
sources. This was carried out through the priva-                investors. Many countries have set up public
tization of public banks, pension systems, and                  institutions with the goal of promoting FDI and
the opening of capital markets. Despite these                   design policies to seduce and provide incentives
Finance for Development                    FES Briefing Paper 5 | April 2009                                        3



to foreign capital. Just to mention a few exam-                  tionalization in sectors such as natural resources,
ples, in Argentina, an institution called ProsperAr              manufactures, mining, cement, steel, and food.
was created to promote investments, and in Bra-                  Petrobras (the Brazilian state oil company) al-
zil, the Program to Accelerate Growth (PAC) was                  ways had an important role in the industrializa-
launched.                                                        tion process of the country, especially through
                                                                 its policy of buying national products.
In Latin America, the liberalizing experience, to-
gether with the remission of restrictions to FDI,                It is still premature to judge how this new con-
did not fully generate complementarities with                    figuration of investors will change the logic of
local economies; on the contrary, transnational                  transnational corporations in the region since
corporations were allowed to take full advan-                    “translatins” are also motivated by natural re-
tage of the local capabilities. In many cases, and               sources and access to the regional markets.
contrary to neoclassical theory, crowding-out of                 However, the transnationalization of these com-
investment was experienced. The relation be-                     panies in the region raises complex issues re-
tween FDI and domestic investment is not al-                     garding energy security and basic services where
ways positive, initial conditions, local capabilities,           there is potential conflict with governments.1 The
and policy instruments are important inputs in                   scenario is still not clear as to what extent
explaining the possibility of creating technologi-               “translatins” can mold the integration process in
cal spillovers. The presence of FDI alone does                   the region and whether they can play a better
not assure technological spillovers; the experi-                 role than extra-regional FDI in bringing about
ence during the 1990s in Latin America showed                    developmental outcomes.
that the “quality” of FDI becomes more impor-
tant than “quantity.” In South America, most of                  Development banks in Latin America: New
the transnational corporations followed a                        Priorities and Challenges
source-seeking behavior looking for natural re-
                                                                 The World Bank and the Inter-American Bank
sources such as copper, gas, and oil. In these
                                                                 (IADB) had a key role in the region during the
types of sectors, technological transfers to the
                                                                 1980s and 1990s. However, their presence has
domestic economy are smaller and they operate
                                                                 been challenged by local development banks
as “enclaves.”
                                                                 and regional associations with the same aim: to
According to the Economic Commission for Latin                   provide funds for development projects in Latin
America and the Caribbean, in 2007, the region                   America. In 2007, countries in South America
showed the highest increase in the stock of FDI                  supported the initiative to create the Bank of the
(46%) compared to other developing regions of                    South. With an initial capital of USD 7,000 mil-
the world, reaching USD 106,000 million. This                    lion, the Bank seeks to fund infrastructure pro-
sum was unevenly distributed; Brazil received                    jects for the nations belonging to the South
USD 34,585 million while Mexico benefited from                   American Union of Nations.
USD 23,230 million. In turn, Chile received USD
                                                                 In general terms, the debt issued by regional
14,457 million, and Colombia USD 9,028 mil-
                                                                 development banks shows a better credit rating
lion. This performance is related to the boom in
                                                                 in relation to issuances by national governments.
natural resources during that year. The rising
                                                                 Therefore, these banks allow government better
demand of China and India propelled businesses
                                                                 access to international markets by providing
around the production of basic commodities.
                                                                 funds at better conditions. This is especially cru-
Despite the fact that developing nations con-
                                                                 cial for smaller countries such as Bolivia and
tinue to grow in 2009 commodity prices are ex-
                                                                 Paraguay. In addition, the management of these
pected to decline.
                                                                 regional and development banks is in charge of
In terms of countries of origin, the share of                    the countries interested in those development
Spain and the United States as main investor                     projects, giving them greater independence from
countries decreased and that of the Netherlands                  the IADB or even the World Bank, where indus-
increased timidly. This is due to advanced priva-                trialized countries control an important part of
tization processes where companies from Spain                    the governance mechanism.
had a key role, while some US companies left
the region. Nevertheless, a new dynamic added
to this trend. This is the increasing participation              1
                                                                           Roberto Bouzas, Pedro Da Motta and Sandra
of Latin American companies that lead intra-                         Rios, “Crisis y perspectivas de la integracion en
regional trade where Brazil, Chile and Mexico                        America Latina del Sur”, in Ricardo Lagos (comp.)
are leaders in the region. Labeled “translatins,”                    ^ãÉêáÅ~= i~íáå~W= áåíÉÖê~Åáµå= ç= Ñê~ÖãÉåí~Åáµå?,
these companies are expanding their transna-                         Edhasa, Buenos Aires, 2008.
Finance for Development                    FES Briefing Paper 5 | April 2009                                        4



In this vein, many Latin American countries to-                  3. Domestic policies:
gether with private funds and bilateral loans                       What are the options?
were able to set up their own development
                                                                 Rising commodities prices throughout the 2000s
banks with the aim of funding projects consid-
                                                                 allowed governments in Latin America to accu-
ered strategic for them. Among this prolifera-
                                                                 mulate vast amounts of reserves and also im-
tion, the National Bank of Economic and Social
                                                                 prove their fiscal balances. Mexico, Chile, Bolivia,
Development (BNDES) from Brazil stands out. Its
                                                                 and Ecuador profited from higher prices for
loan portfolio is similar to the one administered
                                                                 minerals. However, in Latin America, 35.1% of
by the IADB. In 2007, its loans totaled USD
                                                                 the population live below the poverty line. Close
33,962 million, representing a 43.8% annual
                                                                 to 7% of Latin American children under five
increase.
                                                                 years old weighs less than normal, and three in a
Similarly, from 2000 on, the Corporacion Andina                  thousand births die before the age of five. This
de Fomento (CAF) has become the main source                      situation clearly calls for sound social policy and
of financing for Andean countries, exceeding the                 increased social spending. Social spending is an
volume of loans issued by the IADB and the                       important factor to reduce poverty and to en-
World Bank. The CAF is a multilateral financial                  hance development conditions.
institution that mobilizes resources from interna-
                                                                 Currently, tax regimes among Latin American
tional markets to Latin America, in order to pro-
                                                                 countries vary substantially; nevertheless, they
vide multiple banking services to both public and
                                                                 share a common feature: the tendency to
private clients of its shareholder countries. The
                                                                 propagate unequal distribution of income. Re-
main reasons Andean countries resort to it are:
                                                                 gional GDP reaches USD 2 trillions, but only a
a) loans are approved within three to four
                                                                 small share of the society can reap the benefits
months; b) there is no formal conditionality as
                                                                 of that production. Looking at the Gini coeffi-
the international financial institutions pose; and
                                                                 cient (which is a good indicator of income ine-
c) despite presenting the same cost as the IADB
                                                                 quality), we see that the richest 10% of the
for instance, these loans represent an easier al-
                                                                 population earns thirty times more than the
ternative for countries with poor credit ratings.
                                                                 poorest 20%. Fiscal policy could play a big role
Additionally, regional banks assure countercycli-                in easing inequality, but for many years, it has
cal flows while private funds are normally very                  been focused on obtaining fast revenues by re-
cyclical. Due to the current financial context,                  gressive tax instruments such as the VAT. In ad-
where developed nations are trying to solve their                dition, many of the fiscal incentives to produc-
own financial problems, private flows to devel-                  tion have been channeled to big corporations
oping countries are expected to decrease. There-                 instead of enhancing business opportunities for
fore, regional banks represent a more stable                     mid-sized companies that are the main source of
source.                                                          job creation.
Finally, in recent years, regional banks also pro-               Since the financial markets of the region have a
vide ”regional public goods” by financing activi-                low degree of capitalization and depth, a pack-
ties with positive externalities in the region. For              age of fiscal measures is also needed to keep up
instance, efforts to maintain tropical forests have              lending. This is the policy that many countries
been led by Costa Rica and Brazil with the sup-                  are pursuing. However, the extent of these
port of governments, civil society and, academic                 measures depends on fiscal capabilities and pos-
institutions as well.                                            sibilities to access funds. At this stage, it is very
                                                                 important to highlight that the fiscal conditions
All in all, regional development banks help chal-
                                                                 in many countries are much better than in the
lenge the paradigm that Latin American coun-
                                                                 past and although the region will not be im-
tries should rely on the World Bank or other in-
                                                                 mune to the financial crisis, quickly acting gov-
ternational financial institutions to carry out their
                                                                 ernments may ease the pain.
development processes. In the current financial
turmoil, these banks will play an even more ac-                  The current situation will impose new constraints
tive role in financing development in the region.                and will affect Latin American economies differ-
Therefore, the region’s governments should put                   ently, thus, governments need to outline meas-
further efforts in fostering their activities.                   ures to minimize the impacts of the global
                                                                 downturn. Let us now have a brief look at the
                                                                 fiscal policies introduced in some of the coun-
                                                                 tries:
Finance for Development                  FES Briefing Paper 5 | April 2009                                      5



Argentina. The government introduced a con-                    Mexico. A plan was approved to increase ex-
troversial reform of the pension system that                   penditures related to infrastructure and a pro-
eliminated pensions linked to capitalization in                gram of national purchase from small- and me-
private markets transferring those funds to the                dium-sized enterprises. The government assured
public sector. The government will administer all              coverage in USD 70 per oil barrel against price
the funds and will be in charge of the pensions.               fluctuations. There will also be a freeze in the
In 2009 it will put in place an ambitious plan in              price of gasoline and a decrease in the price of
infrastructure of around USD 17,100 million. It                electricity.
has also extended incentives to purchase capital
                                                               Venezuela. The government announced that it
goods that guaranteed a drop in tariffs and re-
                                                               will maintain an active program of public infra-
imbursed 14% to local producers for one year.
                                                               structure.
Finally, a reduction in export taxes was agreed
to.                                                            Despite all efforts, the reform of the tax system
                                                               in many countries in Latin America is still a pend-
Bolivia. The government had to intervene to
                                                               ing subject. Countries face the challenge of in-
maintain the price of zinc through a special ac-
                                                               troducing changes that will benefit long-term
count that deals with these contingencies. Public
                                                               sustainable growth while caring for the pres-
investment will be 20.6% higher than 2008. It is
                                                               sures of the short term.
also envisaged that the budget for housing, ag-
ricultural projects, the energetic sector, and es-
                                                               4. Towards a more inclusive financial
pecially mining will increase considerably in rela-
                                                                  architecture
tion to the previous year.
                                                               The policies and measures that Latin American
Brazil. The government reduced its target of
                                                               countries are putting in place are no substitute
primary surplus from 4.3% to 3.8%. In order to
                                                               for a real and inclusive debate over the future of
assure the level of investments, the level of in-
                                                               the global financial architecture. The subprime
debtedness of Petrobras will be authorized to-
                                                               crisis and the way it unfolded showed that in-
wards the BNDES in USD 5,300 million. The ex-
                                                               dustrialized countries gathered around the G8,
penditures for the social program Bolsa Familia
                                                               the Financial Stability Forum, or any other ad-
will also be extended. A sovereign wealth fund
                                                               hoc groups, can no longer outline global policies
of 0.1% of GDP will be established to protect
                                                               without considering the global reconfiguration
the economy from the oscillations of the cycle.
                                                               of power. The current crisis has its epicenter in
Together with these measures, the government
                                                               the developed world, but the consequences will
is trying to expand consumption and public in-
                                                               be global, therefore, real global action is
vestment to stimulate the economy.
                                                               needed.
Chile. The Fund for Social and Economic Stabili-
                                                               Industrialized nations will not prioritize develop-
zation will be used for the first time to provide
                                                               ment in the current financial turmoil since they
fiscal stimulus to the economy. In addition, spe-
                                                               are still trying to put the pieces of the break-
cial economic support to investment and con-
                                                               down together and the crisis has still not fully
sumption, financing for enterprises and early
                                                               unveiled. Thus, it is imperative for developing
reimbursement of income tax due to 2010 is
                                                               countries to take the bull by the horns and play
expected. The country plans to apply counter-
                                                               a more active role in the new blueprint of the
cyclical policies in 2009.
                                                               financial world. The crisis revealed that financial
Colombia. A USD 500 million infrastructure                     stability, which is a public good, it is not pro-
fund will be created with the help of the CAF                  vided by financial markets so countries need to
and the IADB. There will be higher investments                 reflect seriously about the course of modern
in infrastructure and a tax cut in 2009 that has               capitalism and its underlying assumptions.
already been approved.
                                                               What should countries consider for a more com-
Ecuador. There will be a deferral in income tax                prehensive and deeper reform?
for exporters who suffered a drop in their sales,
                                                               •     A more effective division of labor in
and a reduction in taxes levied on exports. The
                                                                     development policy. Currently, there are
tax on capital flight will be augmented from
                                                                     many organizations and institutions within
0.5% to 1%. The government put in place a
                                                                     the UN, the World Bank, the IADB, and re-
project to reform the tax system to provide bet-
                                                                     gional banks that deal with the same prob-
ter opportunities to the productive sector and
                                                                     lems. The creation of the Bank of the South
improve the local financial system.
                                                                     adds another element to this constellation
Finance for Development                    FES Briefing Paper 5 | April 2009                                       6



     of international organizations. To assure                         closed to avoid the repetition of current cri-
     that funds are effectively channeled to at-                       ses.
     taining development goals, the debate over
                                                                 •     Form a consensus on macroeconomic
     global reform should reflect upon what
                                                                       policies. In Latin America, many countries
     roles are desirable for each institution and
                                                                       have implemented expansionary fiscal poli-
     effective coordination can be accomplished.
                                                                       cies, but these policies were not coordi-
     It is important not to lose the vision of “sys-
                                                                       nated among countries; rather, they re-
     tem” within discussions over the reform of
                                                                       sulted from the current situation. It would
     the financial architecture because finance
                                                                       be desirable for developed countries to
     for development lies at the intersection of
                                                                       agree on expansionary policies to mitigate
     two spheres: the international financial sys-
                                                                       the downturn. Many policies in this regard
     tem and international development organi-
                                                                       have been implemented in the United
     zations. The vision of “system” does not
                                                                       States and most of the EU countries, among
     imply that all institutions should be re-
                                                                       others, but there is still no coordinated ac-
     garded as the same; it actually means tak-
                                                                       tion. This could be important to counter
     ing into consideration its specificities and
                                                                       fears of harmful and rising protectionism.
     regional operations.
                                                                 All in all, developed countries should exercise
•    Revisit the Monterrey Consensus. The
                                                                 their leadership by putting forward the debate
     Doha Financing for Development Review
                                                                 about the reform from a more responsible and
     Conference, which took place in 2008 in
                                                                 inclusive standpoint. Development is a long-term
     the midst of the propagation of the crisis,
                                                                 process that requires financial stability – globally
     has not addressed the urgency that the de-
                                                                 and internally – therefore, it should be addressed
     velopment challenges need. It does not pro-
                                                                 immediately. Developing countries in Latin
     vide a full rethinking of the way the global
                                                                 America are in a better position than in the past
     systemic forces unfold and how they should
                                                                 and regional banks will have a key role in mak-
     be tackled to meet development goals. The
                                                                 ing the impacts of the crisis less severe. How-
     Consensus continues to promote Bretton
                                                                 ever, this is no substitute for global rethinking
     Woods institutions as the core pillars of in-
                                                                 and reform.
     ternational governance, without acknowl-
     edging the obsolescence of some of their
                                                                 5. Conclusions
     policies and the democratic deficits in their
     governing boards. Without tackling these                    Despite the fact that direct causality between
     thorny issues in a more realistic way, the                  the role of regional development banks and
     global financial architecture reform will not               economic and social performance in Latin Amer-
     materialize and if it does, it will not be suffi-           ica is hard to establish, they did have an impor-
     cient for developing nations.                               tant role in determining public policies and pro-
                                                                 viding funds in those activities where social earn-
•    Institutional configuration of institu-
                                                                 ings are higher than financial ones. Moreover,
     tions should be inclusive. Developing na-
                                                                 they have lately acquired a more prominent role
     tions not only need their voices to be heard
                                                                 in the provision of regional public goods. This is
     within international summits and interna-
                                                                 extremely important when we consider the re-
     tional organizations, they should also be
                                                                 form of the global financial architecture because
     able to rewrite international norms accord-
                                                                 regional development banks can play a stabiliz-
     ing to their developmental goals and par-
                                                                 ing role in the current financial turbulence. In
     ticipate more actively in the reform process.
                                                                 addition, developing countries need to gain pol-
     So far, only the IMF has introduced some
                                                                 icy space to design their monetary, fiscal, and
     modifications but they have been very
                                                                 trade policies so that funds can be channeled to
     modest.
                                                                 development. This autonomy in the mapping of
•    A stronger multilateral regulatory                          public policies is relevant to palliate the adverse
     framework. Basel II, with its emphasis on                   effects of the cycle.
     internal model of risk regulation, should be
                                                                 In terms of global reform, developing countries
     revisited and work towards a regulation of
                                                                 should be effectively incorporated in the policy
     financial transactions involving derivatives,
                                                                 and decision making mechanism of the debate.
     options and riskier instruments that are
                                                                 It is not enough for their voices to “be heard.”
     sometimes not traded within transparent
                                                                 Instead their questions and needs should be in-
     markets. Regulatory loopholes should be
                                                                 ternalized.
Finance for Development                           FES Briefing Paper 5 | April 2009                                                  7



Finally, the crisis brings a good opportunity to                        nancial architecture.
reflect about globalization and the course of
capitalism. This includes returning to the “politi-
cal” within “economics.” The separation of
“states” and “markets” – which is the main tri-                         qÜÉ=~ìíÜçêW=       =
umph of neoclassical economics – has fallen                             c~Äáçä~= jáÉêÉë= áë= ~= éçäáíáÅ~ä= ÉÅçåçãáëí= Ñêçã= íÜÉ=
short of solutions to social and economic prob-                         råáîÉêëáíó=çÑ=_ìÉåçë=^áêÉëI=^êÖÉåíáå~I=~åÇ=ÜçäÇë=
lems (especially in the developing world). There-                       ~å=j^=áå=fåíÉêå~íáçå~ä=píìÇáÉë=Ñêçã=aá=qÉää~=råáJ
fore, we need a reconceptualization of the                              îÉêëáíóI=^êÖÉåíáå~K=
framework in which we design policies to
                                                                        =
achieve a fruitful reform of the international fi-




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The views expressed in this publication are not necessarily the ones of the Friedrich-Ebert-Stiftung or of the organization for which the author works.
Friedrich-Ebert-Stiftung
Department for Development Policy
- Dialogue on Globalization –
Hiroshimastrasse 28
10785 Berlin
Germany
Tel.: ++49 (0)30 26935-7404
Fax: ++49 (0)30 26935-9246
Mail: globalization@fes.de
Hwww.fes-globalization.orgH

				
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