The last quarter century has been a period of tremendous change
for Latin America. Twenty-five years ago, many countries in the
region were just emerging from authoritarian regimes and
Over this period we have learned to manage our economies.
When it comes to sound macroeconomic policy, we all now know
what that means. The fact that we had so many economic and
financial crises in the past meant, for example, that we were
better prepared to resist the 2008 crisis in the developed
From a political point of view, we now have democratic
institutions across the region. From an economic point of view,
most Latin American countries are rapidly approaching
middle-income status. From a social point of view, the number
of people living under the poverty line has also decreased
According to the IMF, over the next decade a large number of
Latin American countries are expected to reach per capita GDP
of above $20,000.
Avoiding the trap
With many Latin American countries approaching middle-income
levels, the big question now concerns the middle-income trap:
once you reach a certain income level, how do you keep growing?
From an economic point of view, this is the number one
Meanwhile, we now have an emerging middle class: people that
have left poverty behind them. In Chile, the social demands are
much bigger than they used to be. People have another demand:
education for their children. They hope that their children
will achieve what they were unable to. The demand for education
is the top priority.
We may have learned how to defeat poverty, but we still do
not know how to satisfy the growing demands of the emerging
It is also much more expensive to satisfy the demands of
that emerging middle class than to mobilize the fiscal
expenditures to reduce poverty. Those middle classes also feel
more empowered and so present their demands in a stronger way.
The unrest in Brazil and student demonstrations in Chile are
primarily middle class phenomena. At least in Chile, that is
This takes me to the question of taxation. Is it possible to
have the same level of taxation that we had in the past? Or,
once you are middle-income countries with middle-income
demands, do you need to increase the amount of taxation?
In a country like Chile our tax to GDP ratio is roughly 19%
to 20%. However, the average for OECD countries is much higher,
at around 34%.
Taxation is very difficult to tackle. Apart from Brazil,
that has a ratio of 35%-36% of GDP, the rest of Latin America
fares poorly with regards to taxation. In most of the countries
the average is roughly 15% of GDP.
At the same time, Latin America is still one of the most
unequal continents on the planet.
We have been successful in reducing poverty but that hasn't
meant that we've been improving our Gini coefficient with
regard to income distribution. OECD countries in general, on
average, have a Gini coefficient of 0.48 [out of 1, where 1 is
most unequal]. In Latin America it's about 0.56.
The big difference is that these numbers are before taxes.
After taxes, the OECD's 0.48 average drops to roughly 0.29.
Whereas, in Latin America, after taxes that change is one or
two points, to 0.54 or 0.53.
This is partly behind the sense of discontent, especially in
Chile: we have growth, good numbers, strong macroeconomics. But
there is dissatisfaction about how that growth is being
distributed and to what extent social cohesion has
This is also similar to what is happening in Turkey. Over
the past 10 years, Turkey has been seen as an economic miracle
in that part of the world. But suddenly, protests have erupted,
because of something that at first seemed unrelated. In the
case of Brazil, the trigger came from an increase in bus
So what are the future challenges of Latin America?
First, what kind of institutions are we going to have from
the political point of view to listen better to the growing
demands of much more empowered citizens. Second, how are we
going to avoid the middle-income trap and at the same time meet
the demands of the middle class? And third, those social
policies that were successful in reducing poverty will have to
On domestic policy, we have to undertake reforms according
to our new stage of development. To maintain our success in the
future, we need different economic and social policies:
economic policies to overcome the middle- income trap; and
social policies to satisfy the growing demands of the middle
End of the cycle
We are approaching the end of a cycle in three respects.
From the political point of view the question is now how you
make room for people who are asking for more participation. All
of us know that democracy, by definition, must be
representative. But political institutions need to be
established to provide more participation because people feel
more empowered and they want to be heard.
It is also the end of an economic cycle. The most important
issue now is how to achieve growth, because only with growth
are we going to increase per capita income and then we're going
to have better social and economic indicators.
Finally, it is the end of a social cycle with regards to
fighting poverty. Therefore, from an economic point of view,
the issue has changed: to have growth the policies of the past
no longer work, because we now have a different degree of
development. So it's essential to have growth, but with the
redistribution of income.
In today's Chile, we are proud of our per capita income, but
we fail to mention that more than 80% of Chileans are unable to
get that level of earnings. Chile is in the front pages because
of the things we have done well. But we must not forget our
problem with income distribution.
Unfortunately there is still a lot of ideology in the
political debate. The most difficult part is for politicians to
answer the question: why, if we've been so successful, don't
people recognize that we've been successful?
The answer, for Chile, is: this is now a different country.
In the long run, income distribution will improve through
education, but that will take a long time and we have people
protesting in the streets today. It's this generation that's
making its voice heard.
Ultimately, some kind of institutions will emerge. But we
still do not know what they will be.
The China factor
There is another reason why we have to undertake domestic
reforms. The success of the past 10 years partly comes from
China's incredible growth rate. As the OECD points out, when
China has a 1% increase in economic growth, Latin America's
growth automatically increases by 0.4%. Therefore, an average
10% growth rate in China automatically means at least an
additional four percentage points of growth in the major South
We need to keep this success in perspective.
If China grows at 6%-7% annually - which is the expectation
for the coming years - and we accept the metric of a 0.4
percentage point effect on Latin growth for each percentage
point of Chinese GDP growth, that means at least a 2.4% growth
drop for Latin American countries from the norm of the past
Instead of the growth rate of 5%-5.5% that we had in last
three or four years, in Chile we'll have average growth of
This is important in countries where commodities are so
important. You have to work according to long-term trends and
not today's prices. During the sunny days you save - and during
the rainy days you use those savings. That is very important to
avoid the extreme cyclicality of fiscal income.
Under my administration, we introduced the structural
surplus rule in the budget. If the long-term copper price was
high, we could spend more. But if the long-term copper price
were lower, then we could not spend more than what is
acceptable according to that long-term price. This way we could
spend more in the 2000 to 2002 period, when copper prices were
extremely low, roughly $0.60 per ounce. Now that price is more
In 2008, when the crisis hit Chile, the government was able
to take 4% of GDP for subsidies and to increase fiscal
expenditure. That 4% was from the savings we already had from
the copper fund. LF
Ricardo Lagos was President of Chile from 2000 to 2006.
He was interviewed by Taimur Ahmad.