Import Substitution Industrialization (ISI): Looking inward as a source of growth Lecture # 9 Week 4

Structure of this class Recap from last classes on ISI Dependency Theory: An Explanation for Backwardness From Dependency Theory to Development Policy: ECLA and the Structuralist School From Structuralism to ISI The ISI Toolbox Performance of ISI The Crisis of ISI

Recap from last classes on ISI Economic historians argue that protection in Latin America can be traced back to the 19 th Century In the particular case of Argentina, we argued that a) the “terms of trade” hypothesis did not justify interventions, and b) Argentina fell behind because excessive ISI-style government intervention More generally, ISI policies adopted strongly by LA6 after the Great Depression, growth increased, but income distribution worsened or remained the same while poverty indicators did not improve

Dependency Theory: An Explanation for Backwardness Industrialized countries (“The Center”) caused underdevelopment in developing countries (“The Periphery”) I.e., Paul Baran (1952) International capitalists in industrialized countries & local elites in the center (monopolies and “latifundists”) hindered long-term growth because concentrated markets weakened competitive pressures  revolution Others (F. E. Cardoso and E. Faletto) agreed with the principle but disagreed had a different prescription  active state could counteract the power of the center

From dependency theory to structuralism Structuralism in Latin America strongly linked to Economic Commission for Latin America under leadership of Raúl Prebisch -disappointing growth performance first half of 20 th C linked to volatility primary commodity exports and terms of trade deterioration (increased difficulty paying for sophisticated technology imports) - seemingly positive correlation between growth and isolation during World War I and World War II - low income elasticity of primary commodities relative to technologically sophisticated industrial goods, in turn explained terms of trade deterioration

In addition Complete brake with neoclassical theory - economic activity conditioned by interest group politics - markets in Latin America: - producers: oligopolies (price makers) - consumers: followed consumption patterns set by elites - no trickle down ( trade as in the theory of comparative advantage) Economic historians would however argue that postwar growth was neither dynamic nor as isolated as dependency theorist would suggest

From structuralism to ISI Instead of relying on international trade as an engine of growth, ISI policies sought to develop industries in a protected environment Main goal: to create local industries capable of producing substitutes for expensive imports and promote industrial growth and expansion of domestic markets  state-led technical change

Reinforced with two key concepts (Albert Hirschman (1945, 1955, 1970): Bottlenecks Linkages: Backward and Forward -  Powerful state intervention for braking bottlenecks and for targeting growth in industries with largest linkages Moreover, powerful state also needed due to a market failure In turn led to populist movements (i.e., J. Peron and G. Vargas): mobilization of labor and industrial elites in the service of nationalist development strategies

ISI Toolbox 1)Industrial Policy – Form state-owned firms – Form “mixed” economic economic enterprises – Require foreign firms to form “joint ventures” – Pressure local firms to increase local content

2) International instruments - Tariffs on final goods - Quotas on imports - Exchange rate overvaluation - Foreign exchange rationing - Import licences

3) Fiscal and monetary policy - Subsidies for cheap inputs such as electricity - Subsidies for public transportation - Tax breaks in production - Preferential interest rates - Accommodating monetary policy

But performance varied across countries Strongest growth rates during 1950 – 1980 Brazil Mexico Ecuador

The Crisis of ISI Exhaustion due to the limited size of the internal market Export market could not develop because manufactured protected goods did not meet international standards Lack of economic integration due to sharp variation of economic performance across regions, small potential demand and politics Political and sociological explanations Exacerbated income inequality Fostered creation of inefficient institutions Neglect of agriculture

Lessons? Policies adopted during 1990s points to inherent flaws Appropriate policies for the period but times changed (Bauer in your syllabus) Macroeconomic stability and debt crisis in the 1980s? -  Next class: Topic 10 in your syllabus