Economic policies that improved global living standards : The Indicator from Planet Money In 1985, then Treasury Secretary James Baker gave a speech in South Korea laying out a series of economic proposals that would transform economics around the world.
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Evaluating The Washington Consensus

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Evaluating The Washington Consensus

Evaluating The Washington Consensus

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UNIDENTIFIED PERSON #1, BYLINE: NPR.

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CARDIFF GARCIA, HOST:

You want a blast from the past? Try this from NPR - in 1985.

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UNIDENTIFIED PERSON #2: U.S. Treasury Secretary James Baker, speaking in Seoul, South Korea, outlined a new American approach for dealing with the third-world debt crisis.

GARCIA: When Treasury Secretary James Baker gave that speech in 1985, he was trying to convince poor countries to put in place reforms so that their economies would grow faster. And he also wanted banks around the world to commit to lending money to these countries to help them pay off their existing debt.

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JAMES BAKER: I would like to see the banking community make a pledge to provide these amounts of new lending and make it publicly, provided that the debtor nations also make similar growth-oriented policy commitments.

PADDY HIRSCH, BYLINE: Some of the specific reforms that Baker recommended for these countries came to be known later as the Washington Consensus. And in the subsequent debates after Baker's speech, dozens of poor- and middle-income countries actually did put in place those reforms.

GARCIA: And the ideas in the Washington Consensus shaped the way that countries all across the world, from Mexico to Hungary to Thailand, approached economic policy. But did the reforms work?

This is THE INDICATOR FROM PLANET MONEY. I'm Cardiff Garcia.

HIRSCH: And I'm Paddy Hirsch. Today on the show - a new study by three economists has looked at dozens of countries that put these policies in place. Did the policies work or not? We speak to one of the authors of the study who explains the lessons of the Washington Consensus.

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GARCIA: Anusha Chari is an economist at the University of North Carolina at Chapel Hill. And along with her co-authors Peter Blair Henry and Hector Reyes, Anusha just completed a working paper about the reforms that were recommended in James Baker's 1985 speech; the reforms that Baker encouraged low-income and middle-income countries to adopt.

ANUSHA CHARI: And Baker's speech subsequently unleashed a very contentious debate about the economic impact of the reforms that he had recommended and that have somewhat remained unresolved over the last 30, 35 years.

HIRSCH: So Anusha and her co-authors asked a simple question.

CHARI: Did countries that implemented and maintained this set of reforms that were prescribed by Secretary Baker grow faster after they implemented their reforms compared to prior to their implementation?

GARCIA: Before we get to the answer, we have to know what the reforms actually were that Anusha and her colleagues studied. There were four of these reforms.

HIRSCH: Reform No. 1 - bringing down inflation. When the prices of goods and services in the economy are skyrocketing, that can be really bad for economic growth.

GARCIA: Yeah, high inflation makes it hard for people and companies to plan for the future because they don't know what things will cost in the future. And one reason why high inflation is so bad for the economy is that banks and other financial institutions might become afraid to lend money to companies and to people. The banks worry that if they lend the money now, they'll just get paid back later with money that's not worth as much, that doesn't go as far because inflation has been so high.

HIRSCH: So if a country brings down inflation, that makes it easier for companies to plan and to borrow money. And the economy can hopefully grow faster.

GARCIA: Reform No. 2 - trade liberalization.

CHARI: So trade liberalization basically means opening up your economy to international trade, which is buying and selling goods and services from different countries.

GARCIA: In other words, no trade wars. Don't charge high tariffs on goods that your country imports from other countries. And this can also mean encouraging companies in your own economy to make goods and services that can be exported to other countries.

CHARI: And once you have open trade or free trade, that allows countries to specialize in the mix of goods and services to which their economies are best suited to producing.

HIRSCH: This specialization should help a country's economy grow more quickly, Anusha says, because it makes the economy more efficient, more productive.

GARCIA: Reform No. 3 - allowing more foreign investment into your country. Specifically, Anusha and her co-authors studied what would happen if a country allowed foreign investors to invest in a country's stock market. Here's the idea. When a company needs money to build a factory or hire people or start a project, it can get that money from investors, for example, by selling its shares on the stock market.

HIRSCH: And when foreign investors are allowed to buy shares of that company, that's another source of money that the company can use to fund its projects.

GARCIA: And companies can raise more of the money they need, the capital, when foreign investors are allowed to give it to them. Capital is cheaper and easier to get that way. And with more capital to invest in projects, the overall economy can grow faster, Anusha says.

CHARI: What this allowed was that countries could now have access to cheaper capital, that they could then invest in productive investment opportunities, which spurred the economic growth that we saw.

GARCIA: And finally, the fourth and last reform - privatization; specifically that if countries want their economies to grow faster, then, in theory, they should sell some of the companies that are owned by the government to the private sector.

HIRSCH: And then hopefully, the private sector will do a better job of running the company than the government, which can be bloated with too much bureaucracy or plagued by corruption or, you know, little things like that.

GARCIA: So those are the four reforms of the Washington Consensus that the paper studied. Taken together, Anusha says, here is the overall result.

CHARI: So in a group of countries that we examined, on average, these countries were growing at an average rate of 3.3% per year between about 1980 to 1994. And if we look at the years following the implementation of the reforms, which is about 1995 to 2018, we find that these countries were growing at an average growth rate of 5.3% per year.

GARCIA: Raising an economy's growth rate from 3.3% a year to 5.3% is a huge deal. It's like a miracle pill for economic growth. It means living standards over time grow much, much faster. And so the bottom line is that the reforms recommended in the Washington Consensus, according to this paper, worked.

HIRSCH: But that's not the end of the story. Anusha says there's a number of caveats. Some of these reforms are more controversial than others, and they haven't all worked in every country they were tried in.

GARCIA: Yes. Sometimes, it depends on how they are implemented. And when Anusha and her co-authors studied the reforms individually, they found that lowering inflation, opening up to trade and allowing foreign investment were generally followed by faster economic growth. But the record of privatizing parts of the economy, the fourth reform, that was more mixed and harder to assess, just more complicated.

HIRSCH: You might also notice that these reforms are friendly to markets. They're designed to allow markets to work without too much interference from governments. But Anusha says that doesn't mean that there's no role at all for governments to play. I mean, think of a country's economy as a pie.

CHARI: Our view is that the reforms are necessary to make the pie bigger. Unless you have economic growth, you're not going to have a bigger pie. However, what that needs to be accompanied by is sort of redistributive policies that make this feel more fair and just.

GARCIA: What Anusha means is this. As a country's economy gets bigger and bigger, richer and richer, governments have the option to use other policies to redistribute some of that new wealth so that everyone in the country benefits, so that everyone gets a slice of the bigger pie. The reforms from James Baker's speech won't do that on their own. But without them and without the economic growth they generate, the pie won't grow in the first place.

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GARCIA: We'll include a link to the paper by Anusha and her co-authors at npr.org/money. This episode of THE INDICATOR was produced by Jamila Huxtable and fact-checked by Sean Saldana. It was edited and co-hosted by Paddy Hirsch, and THE INDICATOR is a production of NPR.

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