Emerging Economies and Exchange Rate Appreciation.
By Dale Johnson at Jul 04, 2011
Among the major consequences of the international financial crisis of 2007-2009 and continuing to the present day is a considerable investment of speculative capital from the United States, and to a lesser extent from Europe, to the more vibrant economies of Latin America and Asia. In Latin America in 2010 net private foreign investment reached $203.4 billion up from $57.5 billion in 2003. In a number of countries in the region, especially Brazil, Chile, Colombia, and Costa Rica, this influx of dollars has had the effect of rapid and substantial appreciation of local currencies. This has serious implications for these economies. To the extent that portfolio investments emanating from the United States find their outlet in national stock markets, local investment funds and financial instruments, real estate, commodity futures, short term currency speculations, and other mainly non-productive investments, the currency appreciates, local assets become overpriced, and bubbles of the kind that brought on the U.S. crisis of 2007-2009 (and the Iceland debacle and default of 2008, as well as the current debt crisis in Greece, Spain, and Portugal) can and will likely come about.
Most seriously, Latin American economies are highly dependent on primary exports in minerals and food products. An overvalued currency exchanges dollars for fewer cruzeiros, pesos, or colons required by export businesses to cover operating expenses, reducing profitability and limiting the export-led development strategy that these countries have adopted. Conversely, imports become relatively cheaper, harming local industry that serves the domestic market, while deepening balance of payments deficits. Overvaluation of local currencies invites speculative investment, especially short term activity with easy conversion to liquidity, but not to long term productive investment, as these investors must convert dollars or euros to local currency at artificially inflated rates.
Some might argue that the problem is not the appreciation of currencies in Latin America and elsewhere, but the decline of the U.S. dollar as the dominant currency in international commerce. No, the dollar will likely retain its place of dominance in commerce and capital flows. (1) While depreciated over the years in relation to the euro and yen, the exchange rates between these currencies seems to be holding for now. And if Greece, Spain, or Portugal were to heed the demands of protestors on the street and default on their debt and revert to their prior currencies so their Central Banks regain control over their economies, the euro will sink and the dollar strengthen its dominance, assuming that the intransigent Republicans do not force a United States default by closing down the government. The current problem is that the investment climate in the United States in particular is not inviting to those with liquid assets or access to credit. So investment flows around the world, in manufacturing disproportionately to China, in commodity futures driving up the price of raw materials, oil, and grains, and into economies that show signs of vitality that the U.S. economy entirely lacks or where interest rates are higher. Most of the capital escaping the United States is portfolio investment, some of it borrowed from low interest Federal Reserve funds, speculative in nature and not destined for production of goods and services. With the U.S. real estate market in collapse and the bursting of the various bubbles that until 2007-2008 sustained financial speculation by the big banks, investment firms, and plutocrats, idle money flows into foreign currencies, foreign stocks and bonds, and financial instruments and entities around the world where sources of funds can be concealed and made liquid and shifted to other activities at convenience. Added to the loose billions in the pockets of the rich tycoons are the billions of dollars in profits from the drug trade. These illicit funds are difficult to launder in the U.S.—drug lords have the same problem of what to do with their money as do the bonus rich Wall Street financiers, how to further profit from their illicit funds and stupendous bonuses.
A proximate cause of the flow of funds from the U.S. to other countries is the policy of Qualitative Easing (QE) by the Federal Reserve. QE1 was designed as a stimulus to the economic decline of 2008-2009 and the results were not particularly stimulating. QE2 is mainly a scheme to fund federal borrowing interest free. In essence, the Fed simply declared $600 billion in credit from non-existent real money (that is to say ¨prints money¨) loans it out at very low interest, and buys securities from the Treasury Department. When China buys U.S. Treasury securities to allow moderation of the U.S. balance of payments so dollars will still be available to continue importing cheap Chinese manufactures, the interest is added to the national debt. When the Fed buys Treasury Bonds one agency of the government pays another agency the interest, so that there is no net interest obligation. Neat. Potentially inflationary, but now counteracted by deflationary economic conditions.
One of the intended effects of QE2 is precisely to appreciate foreign currencies so that U.S. exports become cheaper to buy abroad while imports to the U.S. from these same countries become more expensive, a kind of protectionism, or as some Brazilians and other critics say, the U.S. in engaged in a trade war.
The Federal Reserve enacted QE1 and QE2 releasing billions of dollars in credit with interest rates near zero. The rationale is that easy credit will revitalize the U.S. economy. This has not happened and with the entrenched power of Wall Street in the Fed and Treasury Department, an Obama administration compromised with these interests and lacking a vision of economic and social development beyond the rhetorical level, and the political stalemate with Republican servants of economic power, it will not happen. To bring about an economic revival in the United States, the Fed could make billions available to states and cities burdened with debt incurred for necessary infrastructure projects, or to the Federal government for clean energy programs, interstate highways and rapid transit systems, high tech research and development, public works projects, improvements in education-- in short a new New Deal of the kind that rescued the U.S. for the Great Depression. No way, not when President Obama capitulates to the Republicans and the Democrats allow the right wing zombies to define economic policy as deficit reduction, while giving tax cuts to the rich and spending billions upon billions of dollars in futile wars.
The now famous bailout of banks by the Fed in 2007-2008 could have been with strings attached, requiring government control of majority stock in these banks and instituting policies requiring funds to be used for credit to productive enterprise, refinancing of mortgage foreclosures for the millions losing their homes, and investments in America´s future. Instead the banks were allowed to go back to Business As Usual and call the shots at the Fed and Treasury Department. A main Business As Usual is lending at near zero interest to banks and plutocrats to buy higher interest Treasury bonds (2), and to provide funds for these interests to channel their graft into speculative activity in foreign markets, with the negative effects noted in this analysis.
THE FINANCIALIZATION OF CAPITAL AND THE POLITICAL POWER OF PLUTOCRACY
Throughout his long tenure as Chairman of the United States Federal Reserve Alan Greenspan regularly appeared before the Congress. The obsequious Senators bowed to Greenspan as if he were the Messiah of the century illuminating the most profound words of wisdom, an appreciation enthusiastically shared by President Clinton in the 1990s and President Bush in the 2000s. The financial crisis devastatingly revealed that Chairman Greenspan was a blower of bubbles, a purveyor of obscurantism, a servant of Wall Street power, a charlatan. President Obama´s appointments to the Fed and the Treasury Department, and the staff that surround them, are all out of the same Wall Street mold—just as Obama´s appointments to the Department of Defense, the National Security Agency, and the CIA are figures associated with the wars in Afghanistan and Iraq and the war crimes and crimes against humanity of the Bush era.
Given the depth of the financial crisis and the subsequent economic decline in the United States and extending throughout much of the world and given the widespread comprehension of the causes of the debacle, how can one understand the Business As Usual ambient that prevails in the United States, and in somewhat different circumstances in Europe?
The United States is a nation in which the economy is controlled by finance capital and the moneyed elite at the head of big banks and investment firms have very substantial political power. Two statistical references illustrate the increased dominance of the financial sector within the U.S. economy. During the decade of the 1960s financial profits as a per cent of total corporate profits averaged 15%. This percentage increased in the 1970s, hovering around 20%. The proportionate increase in financial profits rocketed from 1985 to 1995 to over 30%, dipped a bit in the economic difficulties of the late 1900s, to again take off in the 2000s, ascending to 40% in 2005-2007. The corollary to this is a long-term decline since 1985 in non-residential fixed investment as a per cent of Gross Domestic Production. During the 1970s productive investment averaged over 4% of GDP—a relatively low figure reflecting the long-term stagnation tendency of the U.S. economy—but by 2005-2007 reached a low of 2.7%. Excess productive capacity of U.S. industry has steadily increased, while American industrial corporations shifted their investments to China and to countries where labor is cheap and the investment climate good. Thus, the modest growth of the U.S. economy since 1985, but especially in the 2000s, has been due to activity in the financial sector not in the ¨real economy¨, that is to say in financial speculation, not in the production of useful goods and services. (3) In a functioning capitalist system the financial sector is the facilitator of production, not a usurper of surplus and economy power.
Economic growth of the U.S. economy over the years since 2000 was due largely to two factors, government military expenditures in armaments and war and speculative financial bubbles in real estate mortgages and various asset derivatives. For many years the U.S. has spent more on armaments than all other nations in the world combined! While vast ¨defense¨ expenditures provide employment to American workers, American consumers cannot eat bombs or live in drone aircraft. Meanwhile, big banks and Wall Street investment firms packaged home mortgages into Collateralized Debt Obligations (CDD), invented derivatives and other aggregated assets into marketable instruments and sold them throughout world financial markets. This precipitated an extreme appreciation of real estate and other asset values in the U.S. and elsewhere, especially Europe. The Federal Reserve, largely deregulated from controls over Banks under President Clinton, obligingly facilitated the real estate spiral and consumer debt by lowering the interest rate to historic lows in the 2000s. Consumers borrowed against equity in their homes and charged heavily against credit cards liberally advanced by the banks. In 2007 all the bubbles began to burst. But the financiers who created the world´s greatest Ponzi schemes are still there doing Business As Usual, having been bailed out finanancially and reinstated politically.
Finance capital is now highly concentrated into conglomerate groups. The 10 largest conglomerates hold more than 60% of U.S. financial assets, compared to 10% in 1990. (4) These giants include JP Morgan Chase, Bank of America, Wells Fargo, Citigroup, and Goldman Sachs. This constellation—not established industrial giants like GM or the high tech innovators like Microsoft—is the center of economic power in the U.S. The financier Warren Buffet, not Microsoft´s Bill Gates, is the symbol of where money, systemic direction, and political power now reside. All of President Obama´s top appointments to the Federal Reserve, the Treasury Department, the National Economic Council, down to the President´s Chief of Staff and Budget Director, are from or closely linked to the Wall Street conglomerates. Plutocracy rules economic policy, government is of, by, and for financial capital, and not just in Washington but in the European Union as well.
The ideology and the economic and social policies that flow from the political power configurations of capital are termed ¨neo-liberalism¨, closely associated with the notion of ¨globalization¨. Neo-liberalism´s essential tenants are free market fundamentalism—financial deregulation, elimination of economic controls and subsidies, dismantling of state sponsored development programs leaving all to private enterprise, financial orthodoxy of Central Bank policies confined to inflation control and interest rate adjustments, free trade in commodities and services, privatization of state enterprises, rollback or dismantling of programs of social amelioration, and labor flexibilation. Dating from the 1970s these policies became globalized, although held in check in some parts of the world by the strength of traditional state intervention, trade unions and popular organization, and social democracy.
In Latin America during the 1970s and 1980s, neo-liberal policies were ruthlessly implemented by military dictatorship, as in Chile, Argentina, and Uruguay, or by right wing Central American governments, supported by the U.S., employing death squads and military massacres in counter-insurgency operations. The corollary to neo-liberalism is American militarism and interventionism. From the 1980s onward, neo-liberal policies were imposed by international institutions such as the IMF and World Bank, with ¨conditionality¨ attached to all lending. A number of countries in the region experienced debt crisis and ¨structural adjustments¨ were required to move these countries into a proper mode of globalization. Economic difficulties and growing social inequalities and social injustice in Latin America had political consequences by the 2000s. Left of center governments were elected in Argentina, Brazil, Uruguay, Nicaragua, El Salvador, Guatemala, even Paraguay and most recently Peru, and in more radical form in Venezuela, Bolivia, and Ecuador. The civilian governments that ruled Chile since the fall of General Pinochet have largely maintained the neo-liberal polices imposed under the dictatorship, but most of the rest of the region is moving decidedly away from these foreign prescriptions, save in Colombia, Panama, Honduras and Costa Rica.
The United States itself is a principle victim of the neo-liberal policies of which Washington has been the originator, promoter, and enforcer. In the United States, the financial crisis and economic recession precipitated by these policies since 2007 have had the effect of intensifying the process of rigidification of social inequalities that had been in the process for many years.
It is not just that U.S. unemployment stands at 9% in 2011 with no indication of improvement. Wage levels for those still employed are being forced downward while benefits in health and retirement are cut, unions where they still exist are under attack and not able to protect jobs and benefits, income inequalities between the rich and their higher paid staff and the middle and working class, increasing since the 1980s, are now at record levels. American corporations close down their U.S. plants and shift their investments to low wage countries, technical jobs are outsourced abroad, millions of home owners are having their mortgages foreclosed, families, cities and states are facing bankruptcy. And the political response is more of the same neo-liberalism that created the problems, cut government spending for any and all social services, strengthen the repressive apparatus of the state, build more prisons, curtail civil liberties, play the racist card and discriminate against and jail immigrants and Muslims, allow the corporate media to shut out critical viewpoints and incite an incipient neo-fascism, vigorously pursue the Imperial Vision with endless military interventions.… America is in serious trouble and Obama and the more progressive Democrats are not of a mind, or in a political position, to do anything about it.
Elsewhere in the world, fortunately, people are rising up with demands for real democracy and social justice, in North Africa and the Middle East, in Greece, Spain, and Portugal, and in most of Latin America progressive governments are departing from the policies of neo-liberalism and globalization. Might one expect that sooner or later the American people will rise up and reclaim their progressive traditions?
I turn now to a more concrete focus on a small Latin American country, Costa Rica, that has a deserved reputation for its traditions of peace, social development, and democracy, but is being pushed away from those traditions by recent developments.
EXCHANGE RATE, COSTA RICA COLONS AND DOLLARS
How to ruin an economy? The short answer to that question is—overvalue the national currency. That is exactly what Costa Rica has been doing for more than two decades. Throughout the years since 1984, under a system of daily mini-devaluations, the dollar exchange rate for the Costa Rica colon was gradually increased. But in most years the domestic rate of inflation exceeded by several percentage points the devaluation rate. In 2006 the Central Bank replaced the mini-devaluations with a system of bands in which the colon was allowed to float between lower and upper limits with the upper limit gradually increasing, in July 2010 reaching 630 colons for one dollar and July 2011 over 700 colons with a continuing floor of 500. However, beginning in October 2009 the colon gained value precipitously, the exchange rate falling from a high of 590 in October 2009 then continuously going downward to then hover near the 500 floor since June 2010. If this continues for any length of time the Costa Rican economy will greatly suffer.
An overvalued currency harms exports, subsidizes imports, exacerbates balance of payment problems, negatively effects tourism and foreign residents with dollar incomes, deters productive foreign investment, inflates real estate prices, and invites currency speculation.
Costa Rica has an economy highly dependent on export earnings. If exporters try to increase their prices to compensate for a weak dollar a strong colon means less competitively priced products on international markets. If prices cannot be increased, as is usually the case, businesses must nevertheless pay their operating costs in colons while receiving fewer in return for the dollars earned-- 92% of export earnings are in dollars, but 70% of costs are in colons. Citing the appreciation of the colon, two of the biggest agricultural exporters, Dole and Del Monte, have closed down some of their container and melon operations, laying off a considerable number of employees.
With an overvalued colon imports become relatively cheaper. This has the adverse consequence of encouraging import of goods that compete with locally based production. The consumer goods industry in Costa Rica is relatively well-developed, with some sectors also geared to exporting to Central America. Historically, national production has been to some extent protected by import tariffs. These are now largely being eliminated under the provisions of CAFTA, the Central American Free Trade Agreement with the United States implemented under the Arias Administration. The combination of an overvalued colon and the elimination of protective tariffs could mean that some sectors of domestic industry will go under.
While the economy began to recover in late 2009 from the internationally induced recession, Costa Rica maintains a chronic problem with balance of payment deficits. The combination of reduced or lower valued export earnings and increased import expenditures impels the balance of payments into further deficit. During the first Quarter of 2010 exports, lead by pineapple and bananas, grew 11% with respect to Q1, 2009. Pineapple exports continued to increase moderately during 2010 and 2011. However, as might be expected with cheapened dollars, imports increased 24% in the same period, widening the current account deficit, a trend which continued into 2011.
The principal foreign exchange earner in Costa Rica is tourism, an industry with income in dollars but expenditures in colons. For visiting foreigners Costa Rica is no longer a bargain. Hotel rates are up, restaurants and car rentals expensive. When word gets around in the United States and elsewhere that their dollars don´t go very far, tourism will suffer.
An overvalued currency is a deterrent to productive foreign investment, a central element in the development strategy of the Arias government and the current administration. For a foreign company to establish and operate a business in Costa Rica they must exchange dollars for colons and these won´t go nearly as far as they should.
There are many thousands of foreigners resident in Costa Rica that depends upon pensions or other income in dollars. In the months since late 2009 foreign residents have been hit hard in their pockets, a substantial decline in value of the dollars they exchange, plus suffering additionally from a 4% domestic inflation in the cost of goods and services. The nation has programs to attract foreign retirees that will fail if their dollars won’t go very far. So too will programs like medical tourism suffer.
The real estate market is negatively affected by overvaluation of the colon. Sellers almost always list their property in dollars, so there is now a higher price. This is a problem in that many real estate sales are to foreigners. This problem is seriously compounded by the appreciation of real estate values over the last decade. Even during the 2008 and 2009 financial bust and international recession, when real estate most everywhere in the world was falling in price, this was not generally the case in Costa Rica. There has been a highly inelastic price response to abundant offerings of properties of all types and falling demand. All real estate companies report a substantial decline in business.
The current exchange rate opens the door to currency speculation. Windfall profits will accrue to those who buy dollars when the rate is near the floor and sell them for colons when the rate returns toward the upper limit, as should eventually happen, assuming the Central Bank authorities have any sense or if there is an economic collapse occasioned by the overvaluation. The other side to this is a flight from dollar holdings into instruments in colons, with the potential of creating asset bubbles.
In fact, the drop in the value of the dollar when the same currency is holding against the Euro is related to an apparent influx of speculative capital and wealthy Costa Ricans changing currencies. In the United States and Europe interest rates are very low and the economies stagnant, whereas in Costa Rica interest rates are quite high and the economy, so far at least in spite of high interest rates and tight credit, is modestly recovering. DELETE--Why the Central Bank maintains high interest rates while the economy needs stimulation is one more indication that something is wrong in the higher circles of power. So dollars and Euros enter and the local moneyed elite move around their liquidity, but not necessarily into productive investments. The interest rate on bank issued Certificates of Deposits has fallen in 2010-2011 to an average of 2.5% so this is not where capital is flowing. Both private and state banks here carry their accounts in dollars and banking assets have fallen as the devaluation is recorded as operating losses. However, this does not mean that banks and other financial entities are not in receipt of these dollars. Data is just not publically available to determine where the dollars are coming from and where they land-- or how much money is entering and being laundered from illicit activities. There are some Investment Funds that are returning 5% to over 8% (see www.acobo.com however there is no information available on investment flows at the websites of either the Central Bank or the Superintendence of Financial Entities, www.bccr.fi.cr or www.sugef.fi.cr )There is no evidence of an investment boom in productive activity. There has been a modest recovery of productive foreign investment in 2010 from the decline caused by the financial crisis and international recession. In 2008 foreign direct investment was $1,896 million; in 2009 this fell to $1.354 million and in 2010 recovered slightly to $1.413 million. Only manufacturing and services investment evidenced increases in 2010, mainly for medical supply products and call centers. Tourism, banking, and real estate declined in value since 2008, while levels of foreign investment in agriculture were negative between 2008 and 2010. So where are all these dollars going? The Central Bank knows, but appears to keep that a well-guarded secret.
In reading what little is available on the Costa Rican exchange rate there are some innuendos that the wealthy friends of Central Bank officials and the PLN hierarchy are scheming to enrich themselves through currency or other financial speculation. It is certainly the case that personalities in the dominant political party, the PLN, have a cozy relationship with the moneyed interests; this became very clear in the great debate over CAFTA. However, I have found no evidence to lend these assertions any credibility. After all, Costa Rica has indicted three former presidents for graft, so it is difficult to believe that corruption on this scale could be involved. Rather, it is the ideological blindness of official thinking combined with control of the Central Bank by the local plutocrats that is the problem. Since 1984, the Presidency of the Central Bank has been occupied by only 4 notables of the financial elite class of Costa Rica—two of the Presidents, Eduardo Lizano and Rodrigo Bolaños, for lengthy tenures of repeated appointments.
It is important to keep in mind the experience of Argentina in 2001-2003. That country suffered a complete economic collapse due in good part to pegging the peso to the dollar so that the peso was overvalued by a wide margin. Dollarizing meant surrendering control over monetary and fiscal policy. Exports collapsed, imports increased, balance of payment deficits ballooned. Then to make matters worse productive state enterprise were privatized at bargain prices to local and foreign capital. State policies allowed a great inflow of foreign loans and speculative capital. During the 1980s and 1990s Argentina followed the neo-liberal strictures of the IMF to the letter—and as a result the economy collapsed and the people suffered. Argentina under the left of center Kirchner government recovered in subsequent years by devaluing the peso, defaulting on foreign debt, ending speculation, renouncing the neo-liberal policies that created the disaster and reorienting its monetary and fiscal policy toward national development.
Greece, Portugal, and Spain are now approaching an Argentine like collapse. The choice is to adopt extreme austerity measures or, following Iceland´s example, default on their debt. Returning to their old currencies and leaving the euro behind will reassert national control over their economic and social policies, now being dictated by the German and French financiers, the European Central Bank, and the IMF.
In Costa Rica, the overvaluation of the colon is a direct consequence of the policy of the Central Bank. According to the President of the Central Bank, Rodrigo Bolaños, where the colon falls within the band is a strict function of the number of dollars as versus the number of colons in circulation. More dollars exchanged on the Monex, the money market for the large players, and at the state and private banks, means a fall in the value of the dollar. The more short-term speculative dollars enter, the greater the appreciation of the colon.
I suppose such narrow criteria for establishing the exchange rate is to be expected from a Central Bank staff of Costa Rican economists with a U.S. education and business administration graduates of Harvard, Wharton or other bastion of monetary orthodoxy. They are fully indoctrinated in the conventional wisdom of neo-liberalism. Two of key elements of this narrow thinking are that the purpose of monetary policy is to control inflation and that state guidance of the economy is contrary to the economic principles of free enterprise.
Central Bank officials have stated that the elimination of the mini-devaluations and adopting the system of bands was to have better control of inflation, moderate the trend toward dollarization, and to avoid Central Bank injection of dollars to protect the exchange rate, causing Central Bank deficits. Actually, the mini-devaluations worked reasonably well. For businesses the rate was predictable and it facilitated the export development strategy adopted since the 1980s. The rate was adjusted on the value of dollars and other traded currencies in relation to domestic inflation, although the spread between inflation and devaluation in most years meant an appreciation of the colon. Contrary to Central Bank spurious rationales, Costa Rica´s high rates of inflation, as well as the partial dollarization of the economy, have been consequences of its export-led integration into the global economy and really not to exchange rate policies. The current 4% rate of inflation, down from double digit levels previously, is a consequence of the slow economy, certainly not an overvalued colon.
One of the more absurd pronouncements by international business publications espousing the doctrines of monetarism and globalization is that every country should peg its exchange rate for dollars to the price of a McDonald’s hamburger in the United States. Well, today a Big Mac in Costa Rica is more expensive in dollar terms than in the U.S. In this wisdom, it does not matter that the cost of labor that serves up the burger in a local franchise is 1/5 the cost in the U.S., or that the cost of constructing a fast food joint is 1/5 that in the U.S., or that the cost of producing buns and meat are lower, or that commercial land to locate a franchise is cheaper.
The McDonalds idea has more relevance if it is reversed. An intelligent exchange rate policy would at least in part evaluate the cost of the factors of production-- labor, materials, and capital--in the national economy in relation to the values in the economies of trading partners. If these were the criteria than a $3.75 Big Mac in the United States would cost the equivalent of $.80 in colons. Actually, the Big Mac in a San José McDonalds is priced around 2000 colons, not including fries and soda, which at the current exchange rate of 500c/1$, is $4. This $.80 price would have the added virtue of making the Big Mac affordable for the low-waged Costa Rican servers who dish out the burger. It would also help the deteriorating standard of living of ordinary Costa Ricans if the government development strategy would provide incentives for domestic production of food staples like rice and beans, also helping to keep famers on the land and out of the urban slums, instead of removing tariffs on the import of foreign foodstuffs and a range of consumer goods as required by CAFTA, the Free Trade Agreement with the United States.
Certainly controlling inflation and adjusting disequilibrium’s in the supply of currencies need be factors in monetary policy. But the essential goals of the policies of the Central Bank should be those of development of the national economy. This is accomplished by fiscal policies that allocate resources into chosen sectors vital to economic and social development and monetary policies that support the development goals established. The current and past political administrations in Costa Rica, blinded by their neo-liberal ideology, have no idea how to go about this.
Apparently, the Central Bank intends to take two measures that might be expected to at least partially contain the flow of speculative capital. In June, 2011 the Central Bank lowered interest rates by 1% to a reference rate of 5%, expecting to stimulate credit extension to businesses and stimulate consumer spending, with a possible consequence of raising the inflation rate from a projected 4% to 6%.. This might make the country less attractive to foreign speculators searching for high interest returns. The other policy, to take effect in August 2011, is a form of capital control, ¨encaje¨, used elsewhere in Latin America and has the grudging acquiescence of the IMF--a 15% interest free deposit in the coffers of the Central Bank will be required of all foreign investments in instruments of less than one year maturity.
An evaluation of the Costa Rica´s economic policy by the IMF in June 2011 recommended that the Central Bank eliminate the system of exchange rate bands and adopt a policy of currency flotation. Were the CB to eliminate the floor supporting the colon, this could have the effect of further appreciating the colon. The IMF also stipulated that the fiscal deficit be further reduced, that inflation control must remain the main purpose of CB policy, and that the legislature act on tax reform. These recommendations flow from the long-standing IMF pressures to globalize the neo-liberal policies that have been so disastrous for so many countries for decades.
These prescriptions by the IMF to float the colon is interesting in view of the IMF analysis in April 2011 which was somewhat self-critical of inflation targeting as the core of Central Bank policy and endorsing ¨Capital Control Management Measures¨ (5) on destabilizing and volatile capital inflows causing currency appreciation and asset bubbles. Such measures to curtail the flow of capital forcing the appreciation of national currencies have been adopted by Brazil, Iceland, Taiwan, Chile, Colombia and several other countries to good effect.
An undervalued national currency is better than an overvalued currency, at least in relation to export booms. Perhaps Costa Rica should look closer at the example of China. The United States charges that China undervalues their currency to the detriment of the U.S. economy by the flood of cheap Chinese imports. While this is no doubt overstated—or a diversion to obfuscate the practice of closing manufactures in the U.S. to invest in China where labor is cheap-- it is true that China carefully controls its currency exchange to promote its own economic development. Of course, this is not the main factor in China´s unparalleled success story. China rather turned Marx on his head; socialism laid the groundwork for a transition to a raw but vital capitalism. Not the neo-liberal global capitalism of the West, but a capitalism that utilizes the socialist tradition of strong state institutions that centrally plan the social and economic development of the nation.
Reform of the Central Bank is a necessity for Costa Rica. A law to effect reform is currently in the Legislature but not yet on the agenda for action. The law would make the CB Board of Directors more open to representation by economists of diverse viewpoints and contains strictures against conflicts of interest. (6)
In June 2011 the Legislature rejected a candidate, Kathya Araya Zuñiga, that the Chincilla administration had proposed to fill a vacancy on the Central Bank´s Board of Directors. Reasons cited by some delegates were her lack of qualifications and experience. The current administration and the Aris government before it are experiencing critiques of their clientele appointment practices, the sinecures in the Foreign Ministry especially have been consistently activists or friends of the ruling PLN.
Establishing an exchange rate that makes economic sense is just a first step for national development. Costa Rica would do well to strengthen its state institutions and define development goals, not by emulating China, but by leaving aside the dogmas of monetarism and neo-liberalism and replacing the Central Bank personnel with figures that look to the Nation´s strong tradition of social democracy and social justice. Costa Rica´s South American neighbors have learned their sad lessons from 20 plus years of globalization orthodoxy and taken new, progressive directions, but Costa Rica, together with Colombia, Honduras, and Panama, just the opposite. China´s export-led development has very substantially increased the economic situation and welfare of millions of people. Yet it has also meant that millions of peasants are displaced to barracks in the industrial centers, work for a pittance and live in the most unjust of social conditions, while the bureaucrats and businessmen accumulate incredible wealth. On a lesser dramatic scale than China, growing inequality and social injustice are prime features of Costa Rican society. And this is mainly a result of the export-led development strategy, the abandonment of programs of genuine national development, such as food sovereignty, the permissive attitude toward business regulation and business activity while strong arming labor unions, the lack of effective ameliorative programs for the increasing problems of social inequality, and now the privatization of the very state enterprises that once formed the economic basis of Costa Rica´s social democracy. It is time for real change.
Dale Johnson is a retired sociologist resident in Costa Rica since 2000. He currently does consulting work in agricultural and other development projects. Email email@example.com website www.eltucan.co.cr
(1) Kimberly Amadeo, *Power of the Dollar, or Why the Dollar Won´t Collapse,* http://USeconomy.about.com/of/tradepolicy/p/Dollar_Power.htm
(2) Bernie Sanders, http://truthout.org/backdoor-bailouts-bankers-play-shell-game-taxpayer-dollars/1308
(3) Data based on charts in John Bellamy Foster, *The Financialization of Capital and the Crisis¨, Monthly Review, Volume 59, April 2008.
(4) John Bellamy Foster and Hannah Holleman, ¨The Financial Power Elite¨, Monthly Review, Volume 62, May 2010
(5) ¨The IMF´s Welcome Rethink of Capital Controls,¨ www.guardian.co.uk 6 April, 2011
(6) http://www.frenteamplio.org December 10, 2010