1. Fiscal and democratic legitimacy in Latin America
Javier Santiso
Economista Jefe
Centro de Desarrollo de la OCDE
Agenda de Desarrollo Iberoamericana 2007
Barcelona
 27 October 2007 

2. 1
Development and democracy 2
Fiscal policy: Quality and accountability 3
The fiscal transition

3. Never has there been so much democracy on the continent
The 1980s represent a dramatic turn around for the region in terms of polity
Democracy
Autocracy
Source: OECD Development Centre, Based on Polity IV project.
Note: Polity2 score shown, average of available data for Latin America. Poilty2 is the sum of two indicators “democracy” (0 to10) and “autocracy” (0 to -10 ). These indicators focus on institutionalized aspects of the polity, i.e. de jure. “Democracy is conceived as three essential, interdependent elements.
One is the presence of institutions and procedures through which citizens can express effective preferences about alternative policies and leaders. Second is the existence of institutionalized constraints on the exercise of power by the executive. Third is the guarantee of civil liberties to all citizens in their daily lives and in acts of political participation. ” The autocracy index focuses on how restricted political participation is; whether chief executives are chosen in a regularized process of selection within the political elite, and once in office they exercise power with few institutional constraints; and whether they
exercise a high degree of defectiveness over social and economic activity. 3

4. The region has left the 1980s behind and is recuperating growth in terms of GDP per capita
The 1980s were lost in terms of GDP per capita but not in terms of political reform
Source: OECD Development Centre, Based on Angus Madison, Historical Statistics. The World Economy, Paris, OECD, 2003; and Polity IV project. Data is average of available data. 4

5. Democracy is alive and well: Elections are competitive affairs
Support
(% votes)
Margin
(% victory)
1st round 50 19
2nd round 51 9
Number of
countries
Share (%)
Continuity 8 44
Change 10 56
Continuity
Change
Source: OECD Development Centre, Based on Daniel Zovatto “Balance Electoral Latinoamericano”, in Malamud, Isbell, and Téjedor (eds.) Anuario Iberoamerciano, Political Database of the Americas and Wikipedia (when based on official results).
Note: Support is the share of votes of the election winner and margin is the difference with the second highest recipient of votes. 5

6. Growth has resumed … but it is still far behind other emerging economies
% GDP annual growth
China
Latin America
India
Source: OECD Development Centre based on CEPALSTAT y ECLAC’s Panorama Social de América Latina 2006 and official press release of the Presidency of Chile, 23 September 2007. 6

7. Latin American economies have been loosing ground for some time
GDP per capita absolute terms
GDP per capita relative to US
Plebiscite in Chile, 1988
Source: OECD Development Centre, Based on Maddison (2003). 7

8. … while other regions are accelerating their convergence processes with richer economies
Convergence process in Brazil and Mexico compared with other emerging economies
6.0
6.0
5.0
5.0
1990
4.0
4.0
Mexico
Brazil
1980
2000/06
3.0
1970
3.0
1950
1980
2.0
2.0
2000/06
1.0
1970
1.0
1950
capita (% yearly)
GDP per capita Growth minus average world GDP per
capita (% yearly)
1990
1970
GDP per capita Growth minus average world GDP per
1960
1980
0.0
1990
0.0
1950
1950
-1.0
1960
-1.0
China
India
1970
1960
-2.0
-2.0
1960
2000/06
1980
-3.0
-3.0
2000/06
1980
-4.0
-4.0
-85
-75
-65
-55
-45
-30
-10 10 30 50 70 90
GDP Deviation (%) with respect to world average ($ 1990)
GDP deviation (%) with respect to world average ($ 1990)
Source: OECD Development Centre, Based on Groningen Growth and Development Centre and The Conference Board, Total Economy Database, 2005.
Note: Annual growth (%) calculated as the average annual rate for the last six decades. Deviation (%) at the beginning of each decade. 8

9. The poorest segments of the population have not shared in the prosperity
Unlike other regions, growth in Latin America has left out the poor 5 10 15 20 25 - 1 2 3 4 6 7 Q Q2 Q3 Q4 Q5
Latin America
1993
2003
change
Quintile annual growth in GDP per capita
GDP per capita by quintile
Quintile annual growth in GDP per capita
GDP per capita by quintile
Quintile annual growth in GDP per capita
GDP per capita by quintile
Quintile annual growth in GDP per capita
GDP per capita by quintile
Source: OECD Development Centre, Based on IMF , Globalization and Inequality, OECD* includes: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Ireland, Israel, Italy, Japan, Korea, Netherlands, Norway, Singapore, Spain, Sweden, UK, US. 9

10. Poverty is falling but it still affects a large part of the population
% population in poverty
Millions of people in poverty
Source: OECD Development Centre, Based on CEPALSTAT y ECLAC’s Panorama Social de América Latina 2006. 10

11. Improvements in inequality are modest or absent
Changes in inequality during the last decade
deteriorations
improvements
Source: OECD Development Centre, Based on CEPALSTAT y ECLAC’s Panorama Social de América Latina 2006. 11

12. President Michelle Bachelet at the European Union - Latin America
“There is no mature and constructive democracy when equity and social justice are not tackled …our democracies have not been efficient … they have not managed to rapidly improve the living condition of the people, especially of those in most need, and the political consequences are visible today.”
President Michelle Bachelet
at the European Union - Latin America
Forum on Social Cohesion
Source: CEPALSTAT y ECLAC’s Panorama Social de América Latina 2006 and official press release of the Presidency of Chile, 23 September 2007. 12

13. 1
Development and democracy 2
Fiscal policy: Quality and accountability 3
The fiscal transition

14. Inequality before and after
Fiscal policy plays a very limited redistributive role, especially taxation
Inequality before and after
taxes and transfers
Points of Gini change
(% change in inequality)
The effects of
taxes and transfers
Gini coefficient
A central reason why fiscal legitimacy is so low in Latin America is that fiscal systems do not have a progressive distributional impact.
Here, it is useful to compare Latin America with Europe:
=> Inequality in Latin America before taxes and transfers is similar to that in Europe.
But the impact of taxes and transfers in reducing inequality is significant in Europe.
This is not the case in Latin America.
This difference in fiscal impact explains why inequality is much lower in Europe than in Latin America.
Source: OECD Development Centre, Based on data by Goñi, López, and Servén (2006) 14

15. There is no Latin curse: Quality fiscal policy is not a matter of DNA
Inequality before and after taxes and transfers
Gini coefficient
A central reason why fiscal legitimacy is so low in Latin America is that fiscal systems do not have a progressive distributional impact.
Here, it is useful to compare Latin America with Europe:
=> Inequality in Latin America before taxes and transfers is similar to that in Europe.
But the impact of taxes and transfers in reducing inequality is significant in Europe.
This is not the case in Latin America.
This difference in fiscal impact explains why inequality is much lower in Europe than in Latin America.
Source: OECD Development Centre, Based on data by Goñi, López, and Servén (2006). 15

16. Fiscal reform has achieved fiscal discipline
Overall Balance
Latin America average
Country forecast 2006
Source: OECD Development Centre, Based on ECLAC, Economic Survey of Latin America and the Caribbean, , June 2007.

17. Reform has succeeded in strengthening fiscal institutions
The path of reform for fiscal institutions
Source: OECD Development Centre, Based on Filc and Scartascini (2007), “Budgetary Institutions” in Lora, The State of State Reform in Latin America, IADB and Stanford University Press
Note: To construct the figure, the reforms were weighted in accordance with their relevance and direction and were normalized between 0 and 1. So, each curve shows the transition of the institutions from their initial situation in 1990 to their situation in The slope measures the number of reforms and their relative importance.

18. But reform has failed to raise significantly more revenue
Tax revenue (Central Government, % GDP, 2006)
Source: OECD Development Centre, Based on ECLAC’s ILPES Database and OECD Revenue Statistics Database. 18

19. Tax productivity has increased, but remains low for income taxes due to widespread loopholes and informality
Tax productivity
(rate/revenue)
Tax exemptions
(% GDP)
Shadow economy
(%GDP)
Source: OECD Development Centre, Based on data by Goñi, López, and Servén (2006) for tax productivity, Lora (2007) for tax exemptions (original source: Gómez-Sabaini) and Schneider and Enste (2005) for shadow economy. 19

20. The reliance of revenue systems on commodities produces unpredictability
Revenues from non-renewable
as a share of total fiscal revenue
( )
Coefficient of Variation
in fiscal revenues
( )
Source: OECD Development Centre, Based on Jiménez, J. P. V. Tromben. “Fiscal policy and the commodities boom: the impact of higher prices for non-renewables in Latin America and the Caribbean”. Cepal Review 90. December 2006.

21. The result is very limited political capital to work with… fiscal legitimacy is low
% of citizens who trust
tax revenue is well spent
( )
Firms’ assessment of the
neutrality/composition of government decisions/spending ( )
Fairer/
Wiser
Unfair/ Wasteful
We define fiscal legitimacy as the % of survey respondents who trust that tax revenue in their country is well spent.
Because this information is from household surveys, it is more representative of taxpayers’ views than are indicators of the quality of public policies, which are based on surveys of the opinions of business managers and experts.
We would have liked to compare our results for Latin America with a number of countries in Europe, like Spain, and Ireland, but unfortunately Euro-barometer does not seem to collect such information.
Source: OECD Development Centre, Based on Latinobarómetro (2003, 2005) and World Bank Institute, Governance Indicators Database. Based on World Economic Forum, Global Competitiveness Report, 21

22. 1
Development and democracy 2
Fiscal policy: Quality and accountability 3
The fiscal transition

23. Fiscal legitimacy enhances democratic governance50
Costa Rica 45
Uruguay 40
Venezuela
Honduras
Nicaragua 35
Argentina
Chile
El Salvador 30
Bolivia
Brazil
Democratic performance
(% satisfied with democracy) 25
Panama
Ecuador
Colombia 20
Guatemala
Mexico
Fiscal legitimacy interacts closely with democratic legitimacy, in both directions. (Even though there are, of course, other determinants of democratic legitimacy as well.)
For example: when populists in Peru -- or perhaps even in Mexico -- win the support of a significant proportion of the population, despite strong growth and good economic conditions, it reflects a lack or weakness of democratic and fiscal legitimacy. 15
Peru 10
Paraguay 5 5 10 15 20 25 30
Fiscal legitimacy
(% who trust taxes are well spent)
Source: OECD Development Centre, Based on Latinobarómetro (2003). 23

24. Social cohesion and fiscal legitimacy go hand in hand
(% trust taxes well spent)
Fiscal legitimacy interacts closely with democratic legitimacy, in both directions. (Even though there are, of course, other determinants of democratic legitimacy as well.)
For example: when populists in Peru -- or perhaps even in Mexico -- win the support of a significant proportion of the population, despite strong growth and good economic conditions, it reflects a lack or weakness of democratic and fiscal legitimacy.
Inequality (Gini coefficient 2000s)
Source: OECD Development Centre, Based on Latinobarómetro (2003, 2005) and ECLAC’s Panorama Social 24

25. It is not (only) a question of quantity but of quality (efficiency)
This difference also shows up in comparisons of quality and quantity of public spending on eductation.
Source: OECD Development Centre, Based on PISA (2003) and OECD Education at a Glance (2005) 25

26. But equity matters as well:
Regressive fiscal policies damage legitimacy
Fiscal legitimacy interacts closely with democratic legitimacy, in both directions. (Even though there are, of course, other determinants of democratic legitimacy as well.)
For example: when populists in Peru -- or perhaps even in Mexico -- win the support of a significant proportion of the population, despite strong growth and good economic conditions, it reflects a lack or weakness of democratic and fiscal legitimacy.
Source: OECD Development Centre, Based on Latinobarómetro (2003) and ECLAC’s Panorama Social. 26

27. Social spending is regressive, especially social security
Fiscal legitimacy interacts closely with democratic legitimacy, in both directions. (Even though there are, of course, other determinants of democratic legitimacy as well.)
For example: when populists in Peru -- or perhaps even in Mexico -- win the support of a significant proportion of the population, despite strong growth and good economic conditions, it reflects a lack or weakness of democratic and fiscal legitimacy.
Source: OECD Development Centre, Based on Latinobarómetro (2003) and ECLAC’s Panorama Social . 27

28. Policy dialogue and openness is key for financial accountability
Korea
United States
Switzerland
Ireland
Slovak Rep.
Turkey
Spain
Italy
France
Sweden
Haiti
Venezuela
Mexico
Ecuador
Peru
Bolivia
Nicaragua
Chile
Costa Rica
Colombia
Uruguay
Argentina
Brazil 10 20 30 40 50 60 70 80 90
100
Media quality and independence
(Index: 0-30=Not free, 31-60=Partially free, Free)
Tax Revenue
(2004 % GDP)
Another issue that deserves close attention is that of the role of the media, and freedom of the press.
This is a point the Report did not develop as fully as it might have.
Source: OECD Development Centre, Based on Freedom House (2007) and ECLAC and OECD Revenue Statistics (2007). 28

29. The democratic transition has not resulted in an overall transition in the media
Venezuela
Free
Chile
LatAm avge
LatAm avge
Partially free
Chile
Venezuela
Not free
The Report rightly speaks of the need in Mexico for a second democratic transition. This is also true because the first transition has not yet resulted in more free media in Mexico.
The contrast between Mexico and Chile, on the positive side, and Venezuela on the negative, shows that change can take place in these conditions, in both directions…
1988 Chile’s plebiscite
Source: OECD Development Centre, Based on Freedom House (2007). 29

30. Relative price of government services
Relying more on taxes to finance public spending enhances fiscal legitimacy
Fiscal legitimacy
(% trust taxes well spent)
This difference also shows up in comparisons of quality and quantity of public spending on eductation.
Relative price of government services
(share of taxes on total spending)
Source: OECD Development Centre, Based on ECLAC’s ILPES and Latinobarómetro (2003, 2005). 30

31. Fiscal policy is a powerful tool to promote democratic participation
( presidential elections)
Voter turnout
This difference also shows up in comparisons of quality and quantity of public spending on eductation.
Relative price of government services
(share of taxes on total spending)
Source: OECD Development Centre, Based on ECLAC ILPES database and Payne et al. (2007) Democracies in Development - Politics and Reform in Latin America International IDEA. 31

32. Conclusions
Democracy puts fiscal policy at the heart of the relationship between the state and its citizens
Building broad consensus is paramount to success in the implementation of fiscal reforms
Local think-tanks can play a crucial role in fostering constructive dialogue over policy options, if they can count on financial independence
It is not a technical but rather a political issue
This difference also shows up in comparisons of quality and quantity of public spending on eductation. 32

33. Follow ups Latin American Economic Outlook 2009 Policy Dialogue event
OECD-Club de Madrid sponsored policy dialogues
Current and past Ministers of Finance
Best practices, mutual learning
This difference also shows up in comparisons of quality and quantity of public spending on eductation. 33

34. Fiscal and democratic legitimacy in Latin America
Javier Santiso
Economista Jefe
Centro de Desarrollo de la OCDE
Agenda de Desarrollo Iberoamericana 2007
Barcelona
 27 October 2007 