Javier Milei’s unexpected victory in Argentina’s presidential run‐off is a remarkable feat.
Not only did Milei defeat Peronism’s formidable political machine while leading a new political party; he also convinced a majority of voters to choose a return to Argentina’s lost tradition of classical liberalism, with an overt emphasis on the unqualified respect for the fundamental rights of life, liberty, and property as the true source of prosperity.
Nonetheless, the time for glee will be short‐lived. Milei will become Argentina’s new president on December 10 with annual inflation levels above 140 percent, a practically worthless national currency, and 40 percent of the population living below the poverty line. The president elect seems aware, however, that the gravity of Argentina’s economic crisis leaves no time for half measures.
Implementing Milei’s economic program is Argentina’s only chance of defeating inflation, regaining monetary stability, and returning to economic growth. A free‐market economist, the president elect understands that price and currency controls must be done away with, as is the case with all taxes on exports. Milei has even suggested that he will get rid of Argentina’s barriers to global trade unilaterally, a radical and necessary volte‐face after eight decades of protectionist failure.
Most importantly, Milei plans to dollarize Argentina’s economy and shut down the central bank. Dollarization is the best available means to bring inflation down to single digits rapidly and permanently. Granting the dollar legal tender also protects citizens’ purchasing power by rendering the devaluation of a local currency vis‐à‐vis the dollar impossible.
Milei’s own party does not control Congress, although he will likely form a coalition with Juntos por el Cambio, a center‐right party. Even if he struggles to have all of his intended reforms approved by Congress, dollarization would be a magnificent achievement in and of itself.
As the experience of Panama, Ecuador, and El Salvador shows, dollarized countries in Latin America enjoy lower interest rates and longer loan periods for solvent private sector actors. Moreover, dollarization imposes a hard budget constraint on the local political class, thus providing an institutional curb on public spending that has been sorely lacking in Argentina.
Dollarization is no silver bullet; it guarantees neither high levels of economic growth nor sound fiscal management. Nonetheless, granting the dollar legal tender does tame inflation and provide price stability, thus ushering the basic conditions that Argentina’s next government needs to implement other, much‐needed supply‐side reforms.
If carried out successfully, Argentina’s dollarization can have consequences across Latin America. Since Panama, Ecuador, and El Salvador are relatively small countries, dollarization’s success in the region has been mostly overlooked. Argentina, however, is a large and influential country. A dollarized Argentina would create an enlarged, Latin American “dollar zone” that, informally, also includes Venezuela, a country that has become de facto dollarized. Besides bringing monetary stability, the common use of a hard currency also could boost intraregional trade, which has remained at minimum levels in Latin America (especially if compared to North America and the European Union).
The presidential campaign in Argentina acquired an international dimension as several of the region’s leftist leaders—among them Brazil’s Lula Da Silva and Colombia’s Gustavo Petro—blatantly intervened in Argentine politics by opposing Milei and supporting his opponent, Peronist finance minister Sergio Massa.
Given recent election victories for the Peronists’ hard leftist allies in Brazil, Chile, Colombia and other countries, today’s election in Argentina can be seen as a referendum on the future of Latin America itself. This makes Milei’s win even more significant.
An irony of the BRICS summit in South Africa last August, which included “de‐dollarization” in the official agenda, was the touting of Argentina as one of the group’s new members. Argentina, of course, is on the brink of a presidential run‐off in which the candidate who leads most polls, free‐market economist Javier Milei, vows to shut down the central bank and officially dollarize the country.
Having lost over 95 percent of its value relative to the dollar since January 2019, Argentina’s national currency has been effectively destroyed. Even if Milei’s opponent, current Peronist finance minister Sergio Massa, wins the election on Sunday, he will have to face the fact that the country is already unofficiallydollarized.
Indeed, Argentines have flocked to the dollar to protect their savings and gain monetary stability. For instance, 80 percent of used cars are now being sold through dollar transactions according to one report.
Nor is Argentina alone in terms of its de facto dollarization. In Venezuela, where socialists also destroyed the currency and unleashed hyperinflation, autocrat Nicolás Maduro relaxed a series of currency and price controls in 2019, thus granting people greater access to US dollars. Venezuelans embraced the opportunity without delay. By 2021, over half of all purchases of basic goods were being made in dollars. Maduro is now trying to curb the use of the dollar once again. Venezuelans, however, are fully aware that access to a sound currency is among the most basic of property rights.
Nearby, the citizens of Panama, Ecuador, and El Salvador, Latin America’s three officially dollarized countries, also know the advantages of a hard currency firsthand: low inflation, low interest rates, longer loan periods, and strong purchasing power. This is why large majorities in those nations have no desire to de‐dollarize. Nor do they wish to grant legal tender to one of the BRICS currencies. The case for de‐dollarization, it seems, has been overstated.
As economist Tyler Cowen writes, the US dollar is still used for the lion’s share of all global transactions, while American financial markets remain unparalleled in terms of their depth and liquidity. Fears of Chinese expansionism across the world have even strengthened the view of the dollar as a safe haven currency.
In Latin America, capital flight to the US financial system has long been the standard reaction to high taxes and fiscal profligacy, especially when governments add a penchant for monetizing the debt, devaluing local currencies and expropriating private property. Official dollarization, meanwhile, eliminates the option of devaluation, imposes a hard budget constraint on politicians, and introduces a strong rule‐of‐law element to the monetary sphere, as Professor Steve Hanke has argued.
Since Panama, Ecuador, and El Salvador are relatively small countries, dollarization’s success in Latin America has been mostly overlooked, regarded only as a regional anomaly. Argentina, on the other hand, is a large and influential country. If Milei wins, Argentina’s dollarization could be a regional watershed. If executed properly, other Latin American countries, not only those suffering under hyperinflation, might begin to consider the dollarization alternative.
In this sense, Brazilian President Lula Da Silva and his left‐wing allies are correct in arguing that Latin America needs a common currency. Contrary to what they propose, however, the optimal currency for the region is that which ordinary Latin Americans use if given a choice: the US dollar.
Widespread dollarization would not only bring broad monetary stability to Latin America, an achievement in and of itself. Dollarization also can accelerate the next wave of regional integration through free trade, especially if the region’s democratic republics are granted access to USMCA, the free trade area formerly known as NAFTA (as a bipartisan group of members of Congress now propose).
In fact, as Shannon K. O’Neil notes, one of Latin America’s most underrated economic problems is its lack of intraregional trade, which accounted for a mere 15 percent of overall trade in 2018 compared to 55 percent for the European Union and 38 percent for North America.
Thus, a single free trade area encompassing most of the Americas is a brilliant prospect. Its achievement would create a trade bloc larger than that of the EU’s Single Market. And, as in the Eurozone, the widespread use of one, strong currency can boost the free flow of goods and services across national borders, especially for “later adopters.” In Latin America, this can be achieved without the serious drawbacks of an EU‐like fiscal or political union.
If Milei wins the election on Sunday, Argentina’s dollarization can be a major step toward an enlarged, Latin American “dollar zone,” which can spur extraordinary opportunities for wealth creation across the region. But even if the Peronists hold on to power, the dollarization cat already might be out of the bag. Milei’s unexpected electoral success has made it evident that, in one of the region’s largest countries, “monetary sovereignty” has only amounted to sovereign monetary blundering.
In a recent article, The Economistassures that inflation‐ridden Argentina should not and cannot dollarize. The publication’s anti‐dollarization stance is part of a broader warning against free market economist Javier Milei, who gained a surprise victory in last month’s primary elections and vows to dollarize the Argentine economy if he wins the presidency later this year.
The Economist misunderstands the most fundamental aspects of Milei’s plan to dollarize Argentina and shut down its central bank. This is, in fact, the best thought‐out and most urgent part of his political platform. It affirms, for instance, that “Argentine banks and households would need a float of dollars to get up and running, which Mr. Milei has no way of providing.”
Dollarization and Available Dollars
As we explain in our recent policy brief, Argentina’s central bank might lack dollars, but Argentine citizens and companies do not. Private sector actors do try to shield themselves from the country’s frequent bank runs by holding dollars in other jurisdictions or under their mattresses. At the end of 2022, Argentines held over $246 billion in foreign bank accounts, safe deposit boxes, and mostly undeclared cash, according to Argentina’s National Institute of Statistics and Census. This amounts to over 50 percent of Argentina’s GDP in current dollars for 2021 ($487 billion). Hence, the dollar scarcity pertains only to the Argentine state.
To dollarize, Argentina needs to replace the peso‐denominated monetary base with the equivalent in U.S. dollars at — or slightly above — the free market rate of exchange. Dollarizing at a rate far above that of the free market would be counterproductive because it would produce even higher inflation levels for a prolonged period. On the other hand, dollarizing at a rate below the free‐market exchange rate would lead to a bank run because depositors would act to protect their savings from a forced devaluation.
In Argentina’s particular case, there is an official exchange rate—currently ARS $365—which most people cannot access. Hence, the black market exchange rate, known locally as the “blue dollar,” is the closest approximation to what a free‐floating peso would be worth in dollar terms. At the moment, ARS $740 will buy you one blue dollar.
In Argentina’s case, economist Iván Carrino argued in May that, while the central bank’s liabilities amounted to ARS $18.8 trillion, dollarizing overnight at ARS $470, the blue dollar exchange rate at the time, would have required around USD $40 billion (the result of dividing the central bank’s liabilities by the exchange rate). The central bank’s total assets, meanwhile, were worth $34.5 billion. In theory, therefore, the government would have lacked around $5.5 billion—or around 1.1 percent of GDP— to dollarize at the market rate.
Nevertheless, the aforementioned imbalance is not as significant as it may seem at first. The last two dollarization processes in Latin American countries prove that “purchasing” the entire monetary base with U.S. dollars from one moment to the next is not only impractical, but it is also unnecessary.
The Mechanics of Dollarization
In both Ecuador and El Salvador, which dollarized in 2000 and 2001 respectively, dollarization involved parallel processes. In both countries, the most straightforward process was the dollarization of all existing deposits, which can be converted into dollars at the determined exchange rate instantly.
As Argentine economist Nicolás Cachanosky explains, when you dollarize deposits, the danger of a bank run is minimized insofar as dollarization takes place at the market rate and monetary transactions continue to take place within the banking system.
Crucially, in both Ecuador and El Salvador, dollarization not only did not lead to bank runs; it led to a rapid and sharp increase in deposits, even amid economic and political turmoil in Ecuador’s case. With the mere announcement of dollarization in January 2000, Ecuadorians began to deposit their dollars in banks even though the latter were so beleaguered they were paying negative interest rates.
The tendency held. Between January and December of 2000, Ecuador’s total deposits increased by $733 million, whereas the total amount of international reserves in December of 1999 stood at a mere $872 million. Also, whereas deposits accounted for just around 15 percent of GDP in 1999, they had increased to 19.1 percent of GDP at the end of 2000.
Deposits continued to increase over the following decades. At the end of 2022, Ecuador’s deposits amounted to 37.9 percent of GDP. By way of comparison, Argentina’s deposits reached a meager 22.5 percent of GDP at the end of last year.
Dollarizing the Circulating Currency
The other, parallel dollarization process involves turning the national currency in circulation into U.S. dollars. Critics who claim that Argentina cannot dollarize due to an insufficient amount of dollars assume that the government must count with the entire dollar amount necessary to buy all pesos in circulation on day one. Nevertheless, this was not the case in either Ecuador or El Salvador.
In Ecuador, the sucres in circulation were dollarized within a nine‐month period mandated by the government, which had to rely on the Coca‐Cola Company’s supply network to exchange dollars for sucres in remote rural areas.
According to Miguel Dávila, the president of Ecuador’s central bank when dollarization took place, the monetary authorities only had to back the central bank’s liabilities that needed to be liquid on day one of dollarization. These included all sucre coins and bills in circulation, banking reserves deposited at the central bank, and central bank deposits from state entities that were likely to require immediate withdrawals. The rest of the central bank’s liabilities were not available for withdrawal immediately. Rather, they were restructured.
This seemed like a risky bet. In December 1999, the central bank’s liabilities in dollars amounted to $1.25 billion, a figure that far surpassed the country’s international reserves. Experts thus claimed that dollarization was only viable at the extremely high exchange rate of 40,000 sucres. The market rate on the streets, meanwhile, was at or above 25,000 sucres. So who provided the dollars?
Ecuadorians did. Dollarization was announced on January 9, 2000, at a near‐market rate of 25,000 sucres per dollar. By September of that year, 97 percent of all sucres in circulation—equivalent then to $577 million— had been exchanged for dollars. In other words, new dollar deposits had matched and even surpassed the dollar amount of the circulating national currency.
Emilio Ocampo, the Argentine economist whom Milei has put in charge of plans for Argentina’s dollarization should he win the presidency, summarizes Ecuador’s experience thus:
People exchanged their dollars through the banks and a large part of those dollars were deposited in the same banks. The central bank had virtually no need to disburse reserves. This was not by design but was a spontaneous result.
The Salvadoran Model
Dollar deposits also increased spontaneously in El Salvador, a country that dollarized in 2001. By the end of 2022, the country’s deposits amounted to 49.6 percent of GDP—in Panama, another dollarized peer, deposits stood at 117 percent of GDP.
El Salvador’s banking system was dollarized immediately, but the conversion of the circulating currency was voluntary, with citizens allowed to decide if and when to exchange their colones for dollars. Ocampo notes that, in both Ecuador and El Salvador, only 30 percent of the circulating currency had been exchanged for dollars four months after dollarization was announced so that both currencies circulated simultaneously. In the latter country, it took over two years for 90 percent of the monetary base to be dollar‐based.
Cachanosky explains that, in an El Salvador‐type, voluntary dollarization scenario, the circulating national currency can be dollarized as it is deposited or used to pay taxes, in which case the sums are converted to dollars once they enter a state‐owned bank account. Hence, “there is no need for the central bank to buy the circulating currency” at a moment’s notice.
The corollary is that, although it is important for Argentina’s new government to announce dollarization as quickly as possible, the actual process of dollarizing the circulating currency can and should be drawn out. The region provides two relatively recent and successful examples of dollarization, one of which (Ecuador) was achieved fully in nine months, the other (El Salvador) in roughly 24.
The Remaining Stage of Dollarization in Argentina
The most difficult stage of dollarizing Argentina involves a particular feature of that country’s recent and tremendous inflationary build‐up: namely, the $30 billion in LELIQ liquidity notes that, as we explain in our policy brief, are a fiscal time bomb:
The central bank issues LELIQs to mop up pesos from the market in an attempt to revive domestic demand for the local currency. Despite their constant escalation, nominal LELIQ interest rates—the current rate is 97 percent, versus 38 percent in early January 2022—have not kept up with what is now triple‐digit inflation. The effective rate, on the other hand, stands at an astronomical 155 percent per annum.
The central bank has only been able to pay for such drastic interest rate hikes by expanding the monetary base aggressively, thus boosting inflation further. Since higher inflation leads to greater demand for hard currency, the use of LELIQs as a means to strengthen the peso has become counterproductive.
Ocampo and Cachanosky, who co‐wrote a book titled Dollarization: A Solution for Argentina, propose to defuse the LELIQ bomb without defaulting or taking on further debt. The plan, which we summarize, involves swapping the central bank’s assets—namely, its loans to the Argentine treasury—for bonds in a foreign jurisdiction. As we summarize, the latter would then be deposited
In a new trust with the ability to issue asset‐backed commercial paper with short‐term maturities. The trust, which would be supported by an underwriting backstop facility … would swap LELIQs for dollar‐denominated commercial paper, which would be paid off with proceeds from the trust’s assets until the entirety of LELIQ debt is liquidated.
Whether or not LELIQ debt is dollarized and restructured in this fashion, the issue at stake is not whether Argentina now has enough dollars to do so. The issue is that the central bank has no liquid assets with which to back this rapidly growing liability. With or without dollarization, the next government, which will take office in December, will have to deal with the LELIQ problem. After all, LELIQs are a fiscal liability of the Argentine state which will have to be restructured with or without dollarization and even without a central bank.
If done correctly, dollarization can provide a positive confidence shock that can help the new government steer Argentina away from the fiscal cliff. In fact, adopting a sound currency and reaching single‐digit inflation levels as soon as possible are prerequisites for all the other supply‐side reforms that Argentina needs. Dollarization is the surest and fastest way to achieve that. Furthermore, restructuring any fiscal obligation, including the LELIQs, becomes far easier with lower interest rates, another proven benefit of dollarization.
Is There a Realistic Alternative to Dollarization?
In fact, the burden of proof falls on dollarization’s critics, many of whom reveal a Panglossian belief in the sudden emergence of a responsible and independent central bank in Argentina, to show how they intend to stabilize the Argentine economy without granting legal tender to a hard currency. As Cato Senior Fellow Lawrence White explained with regard to Ecuador, “the relevant alternative to dollarization is thus not an imagined regime in which precisely calibrated depreciations of the local currency’s exchange rate are administered by experts to adjust wages.”
That is, the purported costs of losing the ability to depreciate the local currency with utter precision should be compared with the actual, massive costs of the central bank’s excessive money creation, spurred as it is by the fiscal profligacy of Argentina’s political class. It is true that ipso facto, dollarization will not turn Argentine politicians into fiscal conservatives. However, adopting the dollar will separate fiscal policy from monetary policy, which will no longer respond to local political pressure. Hence, dollarization in Argentina will significantly limit the scope of the damage that reckless fiscal policy can wreak. This brings us to another of The Economist’s mistaken assumptions
The Point of Dollarization
In its article on Milei, The Economist also argues that dollarization would make any future default “even more painful, since there would be no lender of last resort if Argentina’s central bank disappeared with the peso.” Argentina, however, already has no effective lender of last resort at the national level. Instead, its governments turn recurrently to the IMF (International Monetary Fund) as a de facto lender of last resort that provides them with—what else?—U.S. dollars.
The Economist adds that, even with dollarization, Argentine politicians “would still try to borrow too much, and there would be no central bank to inflate the debt away.” This fully misses the essential point behind the adoption of the dollar, which is to protect ordinary people’s purchasing power from the excesses of chronically profligate politicians and often subservient—or simply incompetent—central bankers. As we have mentioned, by depriving the local political class of all ability to manipulate the currency, dollarization separates fiscal policy from monetary policy.
This is why, as Manuel Hinds, a former finance minister in El Salvador, has explained, solvent Salvadorans in the private sector can borrow at rates of around 7 percent on their mortgages while international sovereign bond markets will only lend to the Salvadoran government at far higher rates. As Hinds writes, under dollarization, “the government cannot transfer its financial costs to the private sector by printing domestic money and devaluing it.”
This is yet another lesson of dollarization’s actual experience in Latin American countries. It is also a reason why the vast majority of the population in the dollarized nations has no desire for a return to a national currency. The monetary experiences of daily life have taught them that dollarization’s palpable benefits far outweigh its theoretical drawbacks.
After paying little attention to dollarization in Latin America for over two decades, the international press suddenly features regular commentary on the subject. This is a result of Argentina’s primary elections of August 13, when Javier Milei, a candidate whose flagship proposal is to dollarize the Argentine economy, delivered a surprise victory.
In our last blog post, we took on seven myths about dollarization in Latin America that are often put forth against the measure. Myth #3 refers to the theory that dollarization already failed in Argentina in the 1990s, when the government of former president Carlos Menem (1989–1999) implemented a convertibility system.
As we explain, the equivalence is false because the convertibility system amounted to an unorthodox currency board in which the central bank still carried out monetary policy, something that does not take place under an orthodox currency board. Under full dollarization, whereby the dollar is granted legal tender, the central bank either disappears or is rendered obsolete in terms of its ability to implement monetary policy.
In a recent article, Bloomberg’s Eduardo Porter relies on myth # 3, claiming that dollarization in Argentina is “a dangerous delusion” because “the proposition has essentially been tested already.”
Strangely enough, Porter recognizes that the convertibility system did not amount to dollarization. He writes that the set‐up allowed “the government in Buenos Aires wiggle room,” which, though narrow, “could still be used destructively.”
He adds that economic agents “would operate under the assumption that laws could be changed and the plan could be undone,” so that “the promise was short of being rock solid.”
Nonetheless, Porter writes that the convertibility system was “the next best thing” after dollarization. It was not, because the next best thing would have been an orthodox currency board, which strictly limits a central bank’s scope to fixing the exchange rate to the dollar.
The claim that convertibility was not a “rock solid” promise, moreover, is a gross understatement; the convertibility system’s leeway to the monetary authorities caused its eventual failure. Thus, the convertibility system’s experience in no way proves that dollarization is not feasible in Argentina. If anything, convertibility’s failure shows that the country’s monetary authorities can do much damage with minimum leeway.
The main point of dollarization, meanwhile, is precisely to get rid of all leeway for the monetary authorities. Dollarization is a superior alternative because it requires no promise from a central bank to abide by a fixed exchange rate.
Porter, however, argues that anyone who points to the convertibility system’s fundamental design flaws “misunderstands the root cause of convertibility’s failure. It collapsed, in essence, because the Argentine economy — its households and businesses, governments and banks — could not generate enough dollars to cover the debts incurred to maintain consumption in the convertible era.”
While this might describe the consequences of the convertibility system’s failure, it is a bizarre argument against dollarization. In a fully dollarized country, there is no need to “generate dollars” in order to cover dollar debts incurred while using a local currency because there is no local currency.
In fact, a main advantage of dollarization is that, by granting the U.S. dollar legal tender, the entire economy operates in dollars, so that there can be no balance of payments crisis. Under dollarization, a debt crisis or a default will force the government to pay the price via higher interest rates in global sovereign bond markets, but this will not affect the money supply, the value of the currency, or even the interest rates for solvent private sector actors (see below).
It is only by creating a conflict between monetary policy and the exchange rate policy—that is, by keeping a national currency pegged to a foreign currency while allowing the central bank to dictate monetary policy— that a balance of payments crisis can arise. This is what took place in Argentina in 2002.
Porter further quotes a paper by economists Sebastian Galiani, Daniel Feynmann, and Mariano Tomasi, who argue that “the dollar value of incomes had to be sufficient to maintain spending and service debts, and for that to happen, a sufficient growth in the output of tradables had to materialize before the supply of credit dried up.” This was not the case in the wake of the Asian financial crisis of 1997, which, as Porter writes, “slashed capital flows and increased the costs of foreign borrowing.” Argentina’s exports suffered with the subsequent devaluation of the Brazilian real, and the convertibility system exploded thereafter.
But, again, the tension between rising debt and the dollar value of incomes and output earned in pesos was a feature of convertibility, not of a dollarized system. In their paper, in fact, Galiani et al. argue— in a footnote— that “the dollarization proposals would count as a particularly strong form of raising the bet, by exiting convertibility in the other direction.” But they go on to state that the proposal “did not find significant international support,” which is not surprising; as we have explained, no official institution in Washington supports dollarization.
They add that “in any case, (dollarization) could not restore export growth or solve the fiscal problems if the economy stagnated or went into a recession for more fundamental reasons.” This is true because dollarization is no guarantee of fiscal prudence or economic growth. However, dollarization does prevent the type of currency mismatch that blew up the convertibility system, which, at one point, established different exchange rates for imports and exports.
Porter doubles down on the “convertibility failed, hence dollarization is impossible” non sequitur when he writes: “It is a dubious proposition that ditching the peso altogether and adopting the dollar would have allowed Argentina to hold on. It rests on the fantasy that a dollarized Argentina would have kept attracting foreign money regardless of its economic realities.”
Although he does not state it explicitly, Porter seems to imply that dollarization would work in Argentina only if the country’s export growth outpaced or kept up with that of its imports. This focus on the balance of trade is wrong not only in terms of dollarization; it is a rehash of the fallacy that trade surpluses are desirable and even necessary for a nation to prosper, a theory refuted by Adam Smith in the 18th century as part of his demolition of mercantilist theory. (Porter displays mercantilist sympathies when he states that the government needs to run the economy).
Regarding trade, one of dollarization’s main advantages is that it provides an economy with a real exchange rate, through which trade and payments tend to balance each other. As such, dollarized economies operate in a way that is akin to the classical gold standard.
As David Hume, another eighteenth‐century critic of mercantilism, wrote at a time when precious metals provided the means of exchange for international trade, the gold accumulated via exports that exceeded imports tended to raise a nation’s domestic prices. This made imports more attractive. Conversely, when imports began to exceed exports, gold flowed out and domestic prices would fall. The process would reverse once more as exports began to exceed imports.
Hence, under the classical gold standard, the balance of trade might never have been in a state of perfect equilibrium, but it did tend to balance automatically. Dollarization operates with the same type of automatic adjustment, with U.S. dollars, not gold, serving as the means of exchange. But politicians first have to allow dollarization to take place. To Argentina’s detriment, this did not take place in the 1990s.
The main problem with Porter’s argument is not even that he equates convertibility with dollarization, claiming that the latter would fail because the former failed. Much worse is that he assumes that convertibility is the only relevant comparison for Argentina today, but he fully omits the experience of all the Latin American countries that have dollarized successfully.
Panama had already used the dollar for nearly a century when the Asian crisis struck in the late 1990s and it suffered none of Argentina’s trauma: its last year of negative GDP growth before 2020 was 1988, the year before a U.S. invasion toppled General Noriega. In recent decades, dollarized Panama has posted some of Latin America’s highest growth rates in terms of per capita GDP, thus refuting the myth that dollarization prevents a country from achieving solid growth.
Nor did Argentina’s woes at the turn of the century prevent Ecuador and El Salvador from dollarizing in 2000 and 2001 respectively. Both countries have benefitted considerably from dollarization despite their lack of rapid growth.
El Salvador has proven that the private sector in a dollarized country still can access dollars at relatively low interest rates regardless of the government’s fiscal problems. Non‐dollarized countries, on the other hand, must counter outflows in times of crisis with drastic interest rate hikes, thus undermining investing incentives across all sectors. As Manuel Hinds, a former finance minister in El Salvador, writes about his country’s recent experience:
In the last two years, there was a scare that the government would not repay a large instalment of its long‐term debt, and the EMBI (the difference between the yield of the Salvadoran bonds and the American ones) went up to almost 30%… This indicates how the international secondary markets for sovereign debt consider the risks of lending to a government.
Yet, in El Salvador, both short‐term and mortgage interest rates remained around 7%, highlighting how the international markets (into which El Salvador is directly inserted, without intermediation by the central bank) assigned a considerably higher risk to the government compared to the private sector.
It was dollarization, moreover, that reduced El Salvador’s interest rates and lengthened loan periods in the first place. As Hinds notes: “after dollarizing, the interest rate fell from 20% to 6% for mortgages, increasing their maturity from 5 to 25 years. Short‐term loans also became cheaper. And this was not a fad.”
In Ecuador’s case, dollarization has succeeded in a classic “banana republic” — the country is the world’s largest exporter of bananas — that is also largely dependent on oil exports and remittances. Ecuador is thus uniquely subject to external shocks. Nonetheless, since it dollarized in 2000, the country has withstood major fluctuations in the price of crude oil, its main export, and sharp reductions in the flow of remittances.
Ecuadorians, in fact, lived through the Great Recession, the end of the country’s second oil bonanza, and the COVID-19 pandemic, all while maintaining a stable financial system and one of the lowest inflation rates in the region.
Yes, Ecuadorians could have enjoyed higher growth rates if other structural reforms had been implemented. In their absence, however, at least Ecuador did not experience the type of wipeout that was the norm between 1980 and 2000, when an external shock would be followed by an even stronger internal one.
Ecuador’s case also proves that a hard dollar regime, while no guarantee of fiscal prudence, still imposes significant budget constraints on profligate governments. Former president Rafael Correa, who governed from 2007 until 2017, was a poster boy for twenty‐first‑century socialism and a declared enemy of dollarization. Nonetheless, Correa failed in his attempt to introduce a digital currency and was forced to reduce public spending — from 44% of GDP to 37% — between 2014 and 2017.
Being no free trader, Correa joined the European Union’s free trade agreement with Colombia and Peru in 2017 (after an accession process of several years). Mainly, this was because he found himself with no political support for further tax hikes, unable to monetize fiscal deficits, andwithvirtually no access to capital markets. Arguably, the EU trade deal was Ecuador’s most important trade liberalizing measure in the past quarter century.
The success of dollarization in Latin America has gone under the radar because the dollarized trio are relatively small countries, Ecuador being the largest with a population of 18 million. Were Argentina to dollarize, however, it hardly would be feasible to ignore or hide its benefits — monetary stability, low inflation, low interest rates, longer loan terms, built‐in hard budget constraints — in one of the region’s largest and most influential countries.
If dollarization has been a regional anomaly hitherto, Argentina’s official adoption of the dollar could be a hemispheric watershed. Could this explain why the anti‐dollarization camp has become so vocal of late?
When we published our Cato Institute Policy Brief (“Argentina Should Dollarize, Pronto,”) on July 27, few outside of Argentina were paying attention to the dollarization debate. This changed on August 13, when Javier Milei, the only pro‐dollarization candidate taking part in the primary elections, won a surprise victory, thus unleashing a barrage of commentary about the supposed dangers of dollarizing the Argentine economy. Many commentators, however, appear to rely on theories that do not reflect the actual experience of dollarization in three Latin American countries: Panama, Ecuador, and El Salvador. In this post, we attempt to refute some of the most salient myths about dollarization in Latin America.
1. Dollarization leads to a loss of competitiveness and weak growth.
False: The main advantages of dollarization are a) it ends currency devaluation / depreciation b) it prevents the political class from monetizing the debt and causing high inflation à la Argentina.
Those advantages do not take away from a dollarized country’s ability to be economically competitive and maintain above‐average growth. See the case of Panama, which dollarized in 1904. In recent decades, Panama’s economic growth has been among the highest in the region, and its current level of per capita GDP far exceeds those of non‐dollarized peers such as Brazil and Colombia.
While some argue that Panama’s success is due to the Panama Canal, the proceeds from the Canal’s activity as a percentage of GDP has been less than what other countries in the region obtain by exporting a single commodity. Rather, Panama’s economic strength is based on its open, internationalized banking system, which allows the country to attract foreign capital and guarantees liquidity in the economy.
A country does not become competitive via currency devaluation or depreciation. Were that the case, Argentina today would be extremely competitive, but it is not. Conversely, if an economy became competitive by devaluing its currency in real terms, then Japan would have become significantly less competitive while its currency appreciated by 176 percent versus the U.S. dollar between 1960 and 2004. However, the Japanese economy enjoyed an export boom during said period. On the other hand, the Colombian peso depreciated by 48 percent between 1960 and 2004, yet its exports grew half as fast as those of Japan.
As Manuel Hinds, a former finance minister in El Salvador, explains, Japan succeeded not by devaluing its currency, but rather by “shifting from lower‐ to higher‐value‐added production when the currency appreciated in real terms. Germany did the same [in the post‐war period]. That is true competitiveness.” Hinds adds that devaluation merely favors the profitability of current, lower‐value‐added production and deters a shift towards higher‐value‐added production.
2. Because growth has been slow in Ecuador and El Salvador, dollarization has not succeeded there.
False: Ecuador has not put in place the right supply‐side policies to generate Panama‐like economic growth, and El Salvador has backtracked in this respect since the 2000s. Dollarization is not a silver bullet. It needs to be accompanied by other pro‐growth policies that have been absent in Ecuador and El Salvador, thus their mediocre growth since they dollarized in 2000 and 2001 respectively.
Nonetheless, dollarization has succeeded in both countries because their dollar regimes prevented fiscally profligate, hard left‐wing governments from de‐dollarizing, re‐introducing weak currencies, and monetizing the debt (Rafael Correa in Ecuador and the FMLN in El Salvador).
As a result, both Ecuador and El Salvador have faced fiscal crises in the last few years. However, said problems have not affected the average citizen, who has maintained a sound currency and some of the lowest inflation levels in Latin America.
Also, as citizens of dollarized countries, Ecuadorians and Salvadoreans benefit from far lower interest rates and longer loan periods than under “monetary sovereignty” regimes. Plus, dollarization imposes an intrinsic hard budget constraint on both their governments and parliaments. Hence, those countries’ fiscal situation likely would have been much worse under a national currency.
3. Dollarization failed in Argentina in the 1990s.
False. In the 1990s Argentina had a currency board that exchanged dollars for pesos, a system and that is sometimes confused with dollarization. In fact, equating that exchange‐rate system with dollarization is misleading. As Professor Steve Hanke explains, “There are three distinct types of exchange rate regimes: floating, fixed, and pegged—each with different characteristics and different results” (see the table below).
Source: Steve H. Hanke, “A Money Doctor’s Reflections on Currency Reforms and Hard Budget Constraints,” in Public Debt Sustainability: International Perspectives, eds. Barry W. Poulson, John Merrifield, and Steve H. Hanke (Lanham, MD: Lexington Books / Rowman & Littlefield, January 2022), pp. 139–69.
Given the differences between exchange rate regimes, it is incorrect to ascribe the main characteristics of dollarization to a currency peg, which can be changed or done away with. This is not the case with dollarization, whereby a country replaces its currency with the U.S. dollar at a given rate and grants the latter legal tender (de‐dollarization is most feasible under a totalitarian regime such as Robert Mugabe’s in Zimbabwe). A peg also leaves a country with monetary policy faculties, a partly domestic source of the monetary base, and, hence, the possibility of a balance of payments crisis. None of these factors are present under dollarization.
An orthodox currency board provides an alternative version of a fixed exchange rate regime. Once in place, it sets the exchange rate but carries out no monetary policy, so that the foreign‐based monetary base remains, as Hanke writes, “on autopilot.” Under a currency board—as with dollarization— the balance of payments determines the monetary base as it moves “in a one‐to‐one correspondence” with any changes in foreign reserves. This prevents monetary policy and exchange rate policy from colliding, thus precluding balance of payment crises (as is the case in floating rate systems).
Had Argentina implemented an orthodox currency board in the 1990s, it would have carried out a fixed exchange rate policy but no monetary policy (such a currency board acts as a straitjacket on the local monetary authorities). Under official dollarization, the dollar would have had legal tender, the peso would have ceased to circulate, and the central bank would have become obsolete in terms of monetary policy. Neither was the case.
As we explain in our policy brief, Argentina’s convertibility system of the 1990s, which fixed the peso to the U.S. dollar, had several characteristics that made it, in Professor Hanke’s terms, an “unorthodox currency board.” Namely, the central bank still controlled the impact of capital inflows and outflows on the money supply (through sterilization and neutralization), it carried out monetary policy, and it acted as a lender of last resort. The convertibility system even came under a dual currency regime, with different official exchange rates for imports and exports. Each of these features made the convertibility system incompatible with both an orthodox currency board system and official dollarization,
Despite its inherent defects, Argentina’s convertibility system did cause the inflation rate to drop from over 2,600 percent in 1989–1990 to less than 1 percent in 1998. Due to its design flaws, however, the Argentine peso began to lose parity with the dollar in 2001, when currency market speculators smelled blood. In January 2002, Argentina carried out a chaotic exit from its fixed exchange rate.
4. The loss of monetary sovereignty leaves a country at a disadvantage due to the inability to counter external shocks with monetary policy.
False. As Hinds writes, Panama, Ecuador, and El Salvador have all “calmly endured the 2008 and COVID-19 crises with much lower interest rates than in the rest of Latin America.”
Besides, dealing with a crisis by devaluing the local currency might bring the mirage of (very) short‐term relief, but this is offset by the necessary consequences of devaluation: the loss of purchasing power, higher inflation and interest rates (than in a dollarized scenario), and the strong incentive to maintain low‐value‐added production.
In extreme circumstances, finance ministers of developing countries—both formally dollarized and non‐dollarized— head to Washington looking for the same thing: a loan in U.S. dollars from the IMF, the repayment of which becomes more onerous with a weakening currency. As Hinds explains, the IMF’s power lies in its ability to allow developing countries to access dollars, particularly in times of crises and when the market shuts out funding for particular governments.
Consider, moreover, the effects of devaluation. As Andrei Levchenko and Javier Cravino found in the case of Mexico’s 1994 “Tequila crisis,” “the consumers in the bottom decile of Mexican income distribution experienced cost of living increases about 1.25 times larger than the consumers in the top income decile” during the two following years. Hence, the authors conclude that the distributional effects of large devaluations are “anti‐poor”. In Professor Hanke’s words, “when the currency loses value, you import inflation.”
Maintaining a weak national currency might appeal to certain central bankers, who would remain employed and could still act as protagonists in times of crisis, when, according to theory, currency devaluation or depreciation is in the national interest. The very rich are largely unaffected, not least because a large portion of their assets tends to be held already in U.S. dollars or other hard currencies.
For the bulk of the population, however, maintaining purchasing power is of the utmost importance. In fact, as we have seen, a sharp loss in a currency’s value is most detrimental to the poorest segments of the population.
5. Dollarization can lead to very high unemployment levels because of external shocks, while flexible exchange rate regimes can withstand such shocks far better.
False: Panama and Ecuador have proved that dollarized countries in Latin America can maintain low unemployment levels compared to non‐dollarized peers, even those with independent central banks such as Brazil and Colombia.
A depreciating currency hinders economic growth in the long term, all things being equal. While a weakening currency might reduce the price of labor, thereby stimulating growth and employment in the short term, it raises the cost of capital in the form of higher interest rates. This discourages investment, which is the source of job creation in the long run.
6. The Federal Reserve oversees all monetary policy for dollarized countries.
False. Although dollarization does take away a country’s ability to set its own interest rates and print its own national currency, while dollarized countries’ inflation rates tend to merge with those of the United States, liberalization of the banking system can grant an important degree of independence.
As economist Juan Luis Moreno‐Villalaz argued in the Cato Journal in 1999, Panama’s banks, which have been integrated to the global financial system after a series of liberalization measures in the 1970s, allocate their resources inside or outside the country without major restrictions, adjusting their liquidity according to the local demand for credit or money. Hence, changes in the money supply—which arise from the interplay between local factors and the specific conditions of global credit markets—and not the Federal Reserve, determine Panama’s monetary policy. Fed policy affects Panama only to the same extent that it does the rest of the world.
7. Dollarization is a U.S. imperialist policy.
False. No official institution in Washington supports or promotes dollarization. The White House and the U.S. Congress are usually disinterested in the monetary policy of Latin American countries. On the other hand, the large multilateral organizations, namely the World Bank and especially the International Monetary Fund (IMF), tend to oppose dollarization initiatives. For instance, when former Ecuadorean president Jamil Mahuad dollarized in early 2000, he did so against the express wishes of the IMF and the World Bank. Unsurprisingly, current and former IMF economists now oppose Argentina’s potential dollarization.
In part, the IMF’s resistance to dollarization can be explained from a public choice perspective. As part of its mission, the IMF provides member countries with “capacity development, which is technical assistance and training of government officials” in different areas, including “monetary and exchange rate policies.” If a country dollarizes, it no longer carries out such policies. Nor does it employ central bank officials for the IMF to train in terms of monetary and exchange rate policies. This is problematic not only for the IMF. In Latin American countries, economists have strong incentives to work for the local central bank. As Professor Hanke argues, a stint at a Latin American central bank has become the equivalent of holding an advanced university degree. Moreover, central bank economists in Latin America often aspire to an eventual post at the IMF itself. In a dollarized country, no such career path exists for economists. In part, this also explains the opposition to dollarization that is often voiced by local macroeconomists.
Another frequent argument against dollarization is that it is economically harmful due to the loss of seigniorage, the price paid to a currency’s issuer. As we explain in our policy brief, however, the so‐called loss involved is small and, ultimately, a minimum price to pay for an end to high inflation. Especially in countries with poor monetary policy, the cost of giving up seigniorage is the equivalent of an insurance premium paid for protection against the higher risks of maintaining a local currency.
“We are all Peronists,” remarked Argentina’s corporatist strongman Juan Domingo Perón in 1972, the year before he assumed the presidency for the second time. His quip turned out to be more accurate for the 21st century than for his own times; in 1976, Perón’s second wife, Isabel, was ousted from power by a military junta that ruled until 1983, when the Peronist Justicialist Party lost the presidential election in an upset. Since 2003, however, Argentina has been under left‐wing, Peronist governments for all but four years.
In the 2015 presidential election, Mauricio Macri, a center‐right businessman, narrowly defeated his Peronist opponent with the promise to cut inflation to a single digit and allow a stagnant economy to grow. During Macri’s four‐year term, however, inflation doubled (from 27 to 54 percent), the country’s Gross Domestic Product shrank, and the Argentine peso plummeted against the dollar. Having failed to cut public spending, Macri turned to the International Monetary Fund for the largest loan in the institution’s history ($57 billion). In late 2019, Macri lost his reelection bid to the current, Justicialist Party president Alberto Fernández, a Peronist ally of former leader Cristina Fernández de Kirchner. The latter was in office between 2007 and 2015, having succeeded her deceased husband, Nestor Kirchner, the winner of the 2003 election.
In theory, this year’s election should have been a rematch of the 2019 campaign. However, neither Fernandez nor Macri will be on the ballot. The former, who has presided over a debt default in 2020 and what is now triple‐digit inflation—the official, annual rate was 114 percent in June—decided (no doubt wisely) not to run. Macri, who would have faced serious primary contenders in his own party, stepped aside as well. Still, the pundits were expecting their respective successors to face off for the presidency. Voters had other things in mind.
The Peronists are grouped under a coalition called “Frente de Todos” (Everyone’s Front). The main center‐right opposition, led by Macri until recently, is called “Juntos por el Cambio” (United for Change). Contrary to polling forecasts, neither side obtained the largest percentage of the vote in Sunday’s mandatory presidential primaries. Instead, the overall winner—with 30 percent of the vote— was Javier Milei, a free‐market economist who was first elected as a Congressman for a newly created party—Liberty Advances— in November of 2021.
Milei came to prominence as an outspoken guest in political television shows, where he lambasted Cristina Kirchner, the current vice‐president, for economic incompetence and her government’s blatant corruption (last December, an Argentine federal court found Kirchner guilty of appropriating close to USD $1 billion from sham contracts and spurious infrastructure projects). Macri, Kirchner’s successor, fared little better according to Milei, who remarked that the former president’s government merely offered “socialism with good manners.”
A former heavy metal vocalist, Milei has proven to be a skilled showman, with a particular talent for illustrating that, when applied, the theories of classical liberalism benefit the ordinary man. From the outset of his congressional term, Milei announced that he would not accept his due salary. Instead, he carries out a monthly raffle in which anyone can register for a chance to win around nine times the national monthly minimum wage. Whereas his opponents decry a dangerous, self‐promoting scheme to gather personal data from thousands of participants, Milei explains that he is returning to the taxpayers what is rightfully theirs.
Milei’s idiosyncracies—he thanked his four dogs for helping him to victory— his disheveled, polemical style, and his routinely packed political rallies, which resemble hard rock concerts, all might seem to preclude any ideological coherence. That is not the case. Milei’s platform affirms that “the Argentine state is the principal cause of Argentines’ poverty.” It includes a unilateral commercial opening for highly protectionist Argentina, the privatization of all state‐owned companies, a universal school voucher program, a 15 percent reduction in public spending as a percentage of GDP, eliminating 17 of 25 ministries or departments of state, and getting rid of utilities, subsidies, and price controls.
Milei’s main mentor is Alberto Benegas Lynch, a respected classical liberal economist. He considers Milei an heir to Juan Bautista Alberdi, the creator of the 1853 constitution, and credits him with having “transferred (classical) liberal ideas to the political sphere after an absence of eight decades.” Benegas Lynch’s father, Alberto Benegas Sr., founded a think tank in the 1950s, the Center for Liberty Studies, which invited Austrian economist Ludwig von Mises—among other scholars— to lecture in Buenos Aires. Milei is thus the product of a rich intellectual pedigree.
Milei’s critics still denounce him as a demagogue with an arsenal of questionable antics, beginning with his trademark profanity, which he routinely aims at particular opponents and the “political caste” in general. Ideologically, left‐wingers tend to attack Milei for his radical “neoliberal” agenda. The intelligentsia also has tried to associate Milei with nationalist and “populist” right‐wing figures such as Donald Trump and Jair Bolsonaro. The press regularly describes him as “ultra right‐wing.”
The problem with that theory is that, although Milei seems not to mind the Trump‐Bolsonaro associations and even encourages them, he is certainly no economic nationalist. In fact, his trademark policy proposal to tame inflation in Argentina is to dollarize the economy, shut down the central bank, and get rid of the national currency. As my colleague Gabriela Calderón and I argue in a recent Cato Institute policy brief, dollarization is both necessary and long overdue in Argentina. In the primaries, the largest block of voters agreed.
The charges of demagoguery against Milei ring most true in terms of certain policy proposals that seem unachievable. For instance, his platform aims to cut public spending drastically without firing any current functionaries and to eliminate subsidies and price controls without affecting artificially low utility bills. As economist Iván Carrino notes, solving such problems painlessly is highly improbable.
A few days ago, Milei was still an underdog, struggling for relevance in a three‐way race according to the polls. Now he is the man to beat for both of his main opponents: Patricia Bullrich, Macri’s former Minister of Security, and Sergio Massa, the Peronist candidate and current Minister of Finance. Were he to win the presidency in October, Milei is unlikely to implement all of his ambitious agenda. If he manages to dollarize Argentina, however, Milei will have deprived the political class of any ability to carry out monetary policy, thus breaking the long cycle of currency devaluation, monetized debt, triple‐digit inflation, and chronically decreasing purchasing power. This alone would be a monumental service to his countrymen.
As things stand, Massa would be eliminated in the first round of voting in October, with Milei and Bullrich proceeding to a run‐off in November. In which case one thing will be certain: Argentines are all Peronists no longer.
Any American who smoked pot in the 1970’s likely came across Colombian marijuana. In 1979, in fact, Colombia was providing “roughly two‐thirds of all the pot smoked” in the United States, according to Time Magazine. The industry certainly was illegal, but it also arose from an exemplary instance of bicultural exchange and bilateral trade. It was, after all, American Peace Corps volunteers who came across the legendary “Santa Marta Gold” strain on Colombia’s Caribbean coast, thus kicking off the country’s decade‐long “marijuana bonanza.”
The boom times for Colombian pot came to an end due to the onset of the War on Drugs—which President Nixon officially declared in 1971— and the rapid rise of indoor cannabis farming in the fifty states. Today, with nearly half of U.S. states having legalized recreational consumption, and with the end of federal prohibition perhaps in sight, is there any chance that Colombian cannabis can regain its former glory days—this time legally— in the American market? Much depends on if, when, and how federal prohibition is repealed, but also on Colombia’s capacity to reform its own byzantine drug laws.
A law approved in 1986 (no. 30) defined any quantity up to 20 grams of marijuana as the “minimum dose” for personal consumption, and it applied a series of criminal charges for its possession. In 1994, however, Colombia’s Constitutional Court ruled that no individual could be penalized for carrying said minimum dose. However, the law, which is still in effect, makes it a criminal offense to possess or carry a narcotic, “whatever its quantity, for the purpose of distribution or sale.”
As I wrote in Foreign Policy, the minimum dose rule provides a good example of Colombia’s trademark legalism: unless one grows cannabis oneself (more on which later), the only way to obtain a legal gram for personal consumption—or 20—is by buying it, illegally.
Eventually, local drug warriors would have their say. In 2009, former president Alvaro Uribe passed a Legislative Act (no. 2) which altered Article 49 of the constitution so as to prohibit “the possession and consumption of narcotic or psychotropic substances, unless prescribed by a medical doctor.” The following year, Uribe’s government introduced a bill (Law 248) that sought to regulate the legislative act and criminalize the minimum dose. The objective, professors Hernando Londoño and Adrian Restrepo argue, was to bolster the war against the drug cartels by targeting internal consumption. This latter initiative failed and the minimum dose was maintained. Nonetheless, by enshrining drug prohibition in the constitution, Uribe made any future reform of the country’s drug laws extremely difficult.
In 2015, when the government of former president Juan Manuel Santos sought to legalize medical marijuana, it had to resort to a decree (2467) that expanded on Law 30 of 1986. The decree regulated cannabis production for “strictly medical or scientific purposes.” While legalizing the medical use of marijuana was a step in the right direction, the local industry has been saddled by red tape.
For instance, physicians still are allowed to prescribe only manufactured cannabis‐based products, not dry cannabis flower.Also, the use of CBD—a multibillion‐dollar industry in the U.S.—is not allowed in Colombian food, beverages, supplements, or veterinary products. Since the local market has not been allowed to develop, local cannabis firms—including a few that raised funds in the U.S. and are even listed on the Nasdaq—are on the verge of bankruptcy. Potential investors, meanwhile, are eyeing other markets, and rightly so.
The black market, however, has thrived, not least because the 2015 decree allowed the “self‐cultivation” of up to 20 cannabis plants for personal use without a license from the Health Ministry. Since each plant can produce around a kilo of marijuana, massive amounts of pot are grown legally, only to be transported and sold illegally. Which is to say, Colombian lawmakers have created the worst of all worlds for consumers and legal producers alike, this in spite of the industry’s immense potential to generate profits, jobs, and tax revenues.
But Colombia’s Congress now has a chance to unravel the marijuana muddle. A new Legislative Act, introduced by Representative Juan Carlos Losada, a member of the Liberal Party, seeks to insert an exception for adult, recreational cannabis consumption into Article 49 of the constitution. This would create a legal market to buy, sell, and distribute marijuana in Colombia. After being approved in seven debates in Congress, Losada’s project faces one final hurdle in the Senate on Thursday, June 15.
Legislators should approve the measure. Colombian conservatives should keep in mind that extreme leftist Gustavo Petro, the current president, did not bring forth the initiative (despite his supposedly revolutionary stance against the drug war). Hence, supporting marijuana legalization does not involve supporting the government. Center‐right politicians also should remember the words of the great Alvaro Gómez, the conservative leader who warned as early as 1976 that the war on drugs was doomed to failure.
Regulating marijuana use for adults, on the other hand, implies seizing the local market from violent, criminal gangs and leaving it in the hands of the legal, regulated businesses that can assure quality, safety, and transparency. Eventually, when the United States and other countries open their markets to cannabis products from other latitudes, Colombia can regain its standing as a global exporting powerhouse. Far more than foreign aid handouts, the country could use a legal marijuana bonanza.
Less than a year ago, I wrote of the almost certain regret that awaited the prosperous, urban, multiple‐degree‐holding types who voted for Gustavo Petro, Colombia’s Chavista president. They thought they had supported a Nordic‐style social democrat—failing to notice that they had helped to elect a tropical socialist who, given his past as a guerrilla group member and Hugo Chávez supporter, was also a potential autocrat. Caveat emptor (or rather suffragator) indeed. But I never thought that voter’s remorse would set in so quickly. Or so extremely.
According to poll data from June 1, 2023, only 26 percent of Colombian citizens approved of Petro’s performance as president. And this was before the scandal that shook the country’s political scene last Sunday evening, when Semana magazine released a series of WhatsApp audio files sent by Armando Benedetti, Petro’s former ambassador in Caracas, to Laura Sarabia, the president’s former chief of staff.
Among the least bombastic revelations is Benedetti’s claim that Alfonso Prada, Petro’s former interior minister, “stole the whole ministry with his wife.” This implies massive levels of corruption around Petro, who came to power with an anti‐corruption agenda (quite cynically given his disreputable political alliances). Prada proceeded to sue Benedetti for libel.
Petro’s dwindling number of supporters may dismiss this as a politician’s petty slander against a rival in the cabinet. Far more concerning for them—and for Petro—is Benedetti’s matter‐of‐fact assertion to Sarabia that he himself obtained COP $15 billion (around USD $3.58 million at today’s exchange rate) for Petro’s 2022 presidential campaign, during which he served as the former candidate’s right‐hand‐man and main political handler. Petro’s campaign did not officially report any donation nearly as large. Its declared funds consisted mostly a series of bank loans, which were meant to be paid with the “reimbursement” sum that the Colombian state guarantees to candidates for each vote received in an election.
In many countries, an insider’s admission of how millions of undeclared dollars flowed into the president’s campaign coffers would bring down the government. Alas, Colombia is not one of them. This is not due to a lack of unashamedly corrupt presidents; as I wrote recently in The Wall Street Journal, the opposite has been the case. Rather, since the 1950’s, the Colombian elite’s idiosyncratic approach to presidential corruption has followed the maxim, attributed to journalist Hernando Santos (1922–1999), that the trouble with overthrowing a president is that he may fall upon those doing the toppling.
Already in Petro’s case, the three‐member House of Representatives commission created to investigate Benedetti’s statements includes two members of the president’s own party. The enquiry will be a charade, which is a pity since the source of the undeclared campaign money is as important as the sum itself. In an interview, Benedetti toldSemana that the money “did not come from entrepreneurs,” meaning the legal business community. Suspicion has fallen on the Marxist guerrilla groups and other drug trafficking organizations, but also on the Venezuelan regime of Nicolás Maduro. Anonymous, the hacker group, claims that Maduro financed “part of the campaign of the current president of Colombia,” but has not published evidence hitherto.
What is certain is that, in regional terms, the Maduro regime has been the principal beneficiary of Petro’s election. To begin with, Colombia recognized Maduro’s presidency after a three‐and‐a‐half‐year hiatus, and Petro himself has met Maduro fourtimes since his inauguration. His government, which opposes any future hydrocarbon exploration in Colombia despite dwindling reserves, has promoted the idea of importing Venezuelan natural gas.
While Petro wages a political war against Colombia’s key petroleum industry—crude oil has been the country’s main legal export for decades—he lobbied President Joe Biden to end American sanctions against the Maduro regime. This would imply renewed Venezuelan oil exports to the U.S. market (even if socialism devastated Venezuela’s oil industry well beyond immediate or even medium term repair). Petro’s “shoot yourself in the foot / prosper‐thy‐neighbor” policy is devoid of any rationality. Unless, of course, Colombia’s increasingly authoritarian president is somehow subject to the Venezuelan tyrant.
Petro’s eco‐fanatical crusade against the hydrocarbon industry is but one example of how his government is bent on destroying the few areas of the Colombian economy that are functional. Other examples include his plans to put the state in charge of centralized funding for the healthcare and pension systems, both of which are efficient—although certainly not perfect—thanks to private sector involvement and some degree of consumer choice. Where things are already problematic, Petro’s policies would make them worse. For instance, he wants to make a rigid, overregulated labor market even less flexible and more hostile to businesses.
Then there is the matter of rising insecurity, an old problem that, until recently, appeared mostly solved, only to resurface dangerously in the last year. Under Petro, illegal armed groups have expanded their power as they launch constant, deadly attacks against the armed forces and police. It all brings to mind the dark era of the late 1990’s, when Colombia was on the verge of becoming a failed state as it came under siege from the FARC guerrillas, which are still up in arms despite the much‐touted “peace” agreement of 2016.
Usually, a crisis in government breeds economic instability. Under Colombia’s current government, however, the opposite has been the case. Since the Benedetti scandal broke, the peso rallied to reach its highest value against the dollar since mid‐2022, when Petro was about to win the presidential election. In October, two months after he took office, the peso reached an all‐time low against the dollar. Amid the current political turmoil, forward‐looking markets are anticipating the failure of Petro’s legislative initiatives in health care, pensions, and labor law. Which is to say, there is speculation that Colombia’s institutional framework has already survived Petro’s statist onslaught. The weaker his position, the thinking goes, the less likely it is that non‐leftist parties will lend him their support, which he needs to obtain congressional majorities.
I fear, however, that markets may be getting ahead of themselves. The Colombian congress is minimally ideological and highly transactional. There is still a good chance that, issue by issue, Petro’s government can negotiate just enough votes to have his “reforms” approved, in which case only the courts will stand in the way of his agenda.
Not that Petro is respectful of any check or balance. This week, he propounded the theory that, since he was elected, his government represents “the will of the people,” meaning that any opposition to his political project—including from the news media—is part of an illegitimate, “soft coup.” The onslaught, in other words, is far from over.
In my view, the worst part about Petro’s election victory is that, at this time last year, Colombia was in need of radical reforms. Above all, a chronically sluggish economy required budget discipline, public spending cuts, drastic debt reduction, a strong currency (ideally through dollarization), far lower taxes, labor market deregulation, subsoil privatization, school choice, and an end to non‐tariff barriers. By electing Petro, however, voters decided to do precisely the opposite on all fronts. As warned, most already regret it.
Back in August of 2022, I wrote about how a small band of sanctimonious, sophomoric malcontents had—astoundingly—taken over the Chilean state. President Gabriel Boric, who was elected to his country’s highest office in 2021 at the age of 35, had assembled a team of former student activists. Since the early 2010’s, their main contribution to Chilean society had consisted of leading numerous protests against the country’s soi disant “neoliberal” model. First, it was against school choice and profit in the education sector. Then it was against the private pension system. Finally, in 2019, mild fare hikes for the Santiago metro led to some of the most violent riots in Latin America’s recent history, euphemistically labeled a “social outburst” in the media.
With 80 metro stations partially or fully destroyed, dozens of toll booths incinerated, and even churches set on fire, then president Sebastián Piñera, nominally of the center‐right, capitulated. He met with left‐wing parliamentarians, Boric among them, and agreed to hold a referendum on whether to summon a new constitutional assembly. When the vote was held in October of 2020, the option to get rid of Chile’s current constitution won with an overwhelming 78 percent of the vote.
At the time, it seemed that Chileans had needlessly committed an absurd act of self‐harm. After all, the constitution was originally ratified in 1980, under the Pinochet regime, but it was amended numerous times since, most thoroughly under the social‐democratic administration of former president Ricardo Lagos (2000 to 2006). The constitution’s unequivocal respect for property rights and basic economic liberties—something exceptional in Latin America—helps to explain the Chilean economy’s outstanding performance during the better part of four decades.
In 2019, the International Monetary Fund calculated that Chile was on track to reach levels of GDP per capita at purchasing power parity that would match those of Portugal and Greece. To approximate southern European standards of wealth was quite an achievement given that, between 1950 and 1970, Chile’s economy was “the poorest among Latin America’s large and medium‐sized countries” according to a Library of Congress country study.
While the current constitution ushered in an extraordinary run of economic success, its proposed replacement was almost certain to do the opposite. In May of 2021, leftist parties won the elections to choose a constitutional assembly by a landslide. They proceeded to draft a new constitution that The Economist described as “a fiscally irresponsible left‐wing wish list.” With its 54,000 words, it was a somniferous, exceedingly long blend of old‐fashioned statism and the type of social engineering that is so in vogue among first‐world progressives.
As I wrote at the time, the draft sought to ban “job insecurity,” expand welfare programs, mandate gender parity in all public institutions, and create “social” rights that would expand the role of the state in health care, education, and housing. The document would have allowed property and asset seizures by legislative decree without compensation for rightful property owners. It sought to constrain the mining industry, eliminate school choice, and to disband the Senate, making it easier for the executive branch to circumvent the opposition and enact its agenda. Alas, it all proved a bridge too far for a majority of Chileans.
Last September, 62 percent of voters rejected the constitutional draft in a national plebiscite. It was a serious political blow for President Boric, who had won the 2021 presidential election as the head of a coalition assembled specifically to introduce a new, left‐wing constitution. Boric’s plebiscite defeat forced him to steer his government away from the far left and negotiate with other political parties. According to the new agreement, there would be a new constitutional convention, to which the parties with seats in the Senate could appoint legal experts. This commission of experts proposed a framework of 12 basic rules that, they suggested, should not be breached in the drafting process. Plus, a new election would be held on May 7th, 2023 to choose a Constitutional Council responsible for drafting yet another constitution.
Held last Sunday, the election’s results amounted to a political upheaval. The Republican Party led by José Antonio Kast, a pro‐free‐market conservative who lost to Boric in the 2021 presidential election’s run‐off, came in first place among all parties with an impressive 35 percent of the vote. With their potential allies, the Republicans will be able to control the necessary three fifths of the Constitutional Council to veto any proposal that arises. Better yet, says Chilean lawyer Ricardo Meno, since the right holds two thirds of the Constitutional Council, it can reject the proposals of the Expert Commission, for instance the point that declares the “social rule of law” (Estado social de derecho) for Chile.
This is a crucial point since the “social rule of law” is a dangerous, positivist spin on the rule of law proper. In other countries, it has paved the way for outsized public spending and utter fiscal recklessness. As Chilean writer Axel Kaiser points out, Hugo Chávez applied the “democratic and social rule of law” to his 1999 constitution of Venezuela, a formerly rich country in relative terms that, thanks to Chavismo, became Latin America’s poorest. In Colombia, where the 1991 constitution also stipulates the social rule of law, the high‐level spending necessary to maintain a “social democratic” model has led to chronic fiscal deficits, constant tax increases, and an over‐reliance on oil revenues to cover current spending. Which is to say that when social rights take no heed of taxpayers’ real‐world capacity to pay for promised services, you have no rights at all. There is merely exploitation.
On a more amusing note, Mr. Meno comments that Chile’s new Constitutional Council could, in theory, come up with a draft that is both more economically liberal and more socially conservative than the 1980 constitution. In which case the hard left’s monumental struggle to get rid of Chile’s current, moderate constitution would backfire spectacularly. However, the Republicans have to consider that the new draft they will oversee still has to be approved in a plebiscite. This might motivate them to proceed with some moderation. Likewise, since Kast has his eye on the presidency, it is likely that he will look to build a pragmatic coalition that can carry him over the finish line in 2025.
Often branded “far‐right” in the Chilean and international media, Kast is a social conservative who broadly favors free market policies. As Chilean economist José Luis Daza noted, Kast’s Republicans merely stuck to bread‐and‐butter issues that the traditional Christian democrats had deemed too controversial to even mention: law and order, control over the borders, support for the popular gendarmerie (which Boric’s allies sought to eliminate) and the market economy, as well as a defense of the revered national symbols that the extreme left continually vilified, the Chilean flag being a case in point. By filling this large political void, the Republicans became Chile’s main conservative party. In the eyes of many voters, the Christian democrats had become indistinguishable from the center‐left parties, which, in turn, had subjected themselves to Boric and his extremist allies.
If the far left decides to reject the draft of the Republican‐controlled Constitutional Council—and it likely will—this will leave Boric’s coalition in the hilarious conundrum of having spent years assuring voters that Chile desperately needs a new constitution, only to campaign against the new constitution in offer. However, if the “reject” side wins the next plebiscite, Mr. Meno says, the 1980 constitution will remain in force. Cue years, or perhaps decades, of intra‐leftist squabbling over who is to blame for blowing a once‐in‐a‐lifetime opportunity to ditch Chile’s wicked, “neoliberal,” Pinochet‐tinged, prosperity‐producing project.
Leave the comedic aspect aside, and you will find that, paradoxically, all the most recent political uproar can only assuage the fears of the many Chileans concerned with what might have been the end of their nation’s astonishing success story. After four tumultuous years, it is time for Chileans to leave the constitutional nonsense behind. They should continue to build the first fully developed country in Latin American history.