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Regulation in Latin America: Prospects for the 1990s
The Quarterly Review of Economics and Fmance, Vol. 33, Special Issue, 1993, pages 119-133 CoWright 0 1993 Tmstee~ of the University of Illinois. All tights of reproduction in any form reserved. ISSN 00335797
Regulation in Latin America: Prospects for the 1990s MELISSA BIRCH and CA. PRIM0 University
BRAGA *
of Virginia and World Bank
The 1980s will be remembered as a period of sweeping economic and political changes in Latin America and the Caribbean. For the sake of simplicity, we will refer to the region as “Latin America.” The foreign debt crisis and the collapse of the importsubstitution industrialization model underscored the need to rethink the role played by the State in the region. Country after country, programs of structural reforms-often backed by multilateral institutions-began to be implemented. The “compass” utilized in these reforms was typically oriented in the direction of the so-called “Washington consensus,” to use John Williamson’s apt description of the conventional wisdom concerning the necessary micro and macroeconomic ingredients of successful structural reforms in developing countries.’ Deregulation has been one of the common ingredients of recent structural reforms in Latin American countries. It can be broadly defined as the removal of unnecessary controls and restrictions that constrain economic activity. Accordingly, it is rationalized as an instrument to promote competition and efficiency. A cursory evaluation of recent deregulation actions in the region may be interpreted as a sign that this trend finds wide popular and intellectual suppoit in Latin America.
One could even suggest that the only ones opposing
this trend
seem to act in this manner either because of inertia or, more likely, because they are the rentiers of “red tape” in the region.2 The forces behind the deregulation movement in Latin America are not, however, identical to the ones that fostered the previous wave of regulatory reforms at OECD level. It is true that in both cases, growing dissatisfaction with the results of interventionist policies have played a role in promoting regulatory reform. In industrialized countries, however, the deregulation movement was often pushed by the private sector in response to technological and economic developments that made regulation counterproductive to the interests of the regulated industries.” In Latin America, that notwithstanding private-sector’s 119
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QUARTERLY REVfEW OF ECONOMICS AND FINANCE
stake in the process, it can be argued that the main force behind the deregulation movementwas multilateral
(and still is) the public sector crisis and the external institutions.
and the distribution
This raises a series of questions
of the results of the deregulation
This article deals with “economic is concentrated barriers
on regulatory
regulation”
influence
of
about the sustainability movement
in Latin America.
in the region. Our analysis
activities which take the form of price controls
and
to entry.4 The State and the Economy, briefly reviews the roots of overregu-
lation in Latin America. Deregulation in Latin Americadescribes some recent trends towards deregulation in the region and the economic logic behind deregulation. Privatization and Regulatmy Rtfm explores the links between privatization and deregulation. The paper concludes with some remarks on the sustainability of the liberal trend in Latin America and the identification of issues that demand additional
research.
THE STATE AND THE ECONOMY IN LATIN AMERICA The roots of a preeminent
role for the state in the economies
are deep. Most of the region was colonized
of Latin America
by Spanish and Portuguese
explorers
acting on behalf of their crowns, rather than as independent entrepreneurs. During the colonial period, both the Spanish and Portuguese Crowns kept certain activities as their own, but often they delegated the right to exploit economic opportunities to private individuals, typically those with close connections to the official sector. The authorization to engage in a particular economic activity usually conferred monopoly privilege for some period of time or for some geographic
region,
and entrusted
to the monopolist
the right to represent
the
Crown in exchange for a share of the rents. The legacy of this tradition was a legal and cultural system in which regulated activities were the norm rather than the exception. Another legacy of the region’s colonial past was a tradition of disrespect for private property rights, particularly those established through private contracts. Politically created property rights, reflecting government’s changing priorities, characterized the region’s economic evolution. In such an environment, not only checks and balances to opportunistic behavior by the State remained weak, but the appeal of rentseeking activities from the perspective of private agents was magnified. After independence, many governments in the region adopted dejureliberal trade policies. A liberal attitude, as far as the role of foreign capital was concerned, also permeated governmental efforts to develop local infrastructure. Regulations were even used as instruments to attract foreign investors (e.g., through the offer of guaranteed rates of return for investments in public utilities and transportation systems). This liberal interlude, however, was not matched by
REGULATIONINLATINAMERICA
fundamental
changes in the political bias in the structure
the extent that governments or later opportunistic nationalization
ensued, fostering,
for example,
sooner
the progressive
of utilities.
The import substitution
industrialization
(ISI) strategy adopted in the post-
World War II period in many Latin American interventionist
of property rights. To
were not strictly bound to respect contracts,
behavior
121
bias in the region.
Because
the incipient
state of their modern
“authorized”
a limited number
countries
came to reinforce
the
of the small size of their markets or
manufacturing
sector, most countries
of firms in a given industry. Authorization
only in this
context included access to subsidized credit and tax incentives in a market sheltered from international competition. Some sectors of the economy believed to be particularly important to the nation state for economic or military reasons were reserved for direct ownership by the state, exclusively or in a joint venture with a foreign or domestic private partner. In this context, state-owned enterprises (SOEs) mushroomed in Latin American countries, providing an alternative channel for government intervention in the economy. In many cases, one of the explicit objectives of these enterprises was to foster the development of private domestic suppliers. Given the characteristics of the state-owned
industries,
a small number of domestic producers,
often connected
with foreign suppliers of the necessary technology, developed a “symbiotic” relationship with the state. The result was not competitive supplier markets, but rather highly concentrated domestic industries that wielded significant economic (and political) power. This pattern of development also tended to lessen concerns for quality and productivity among the firms of the region.5 This long history of closely intertwined public and private activity in Latin America nurtured overregulation. repression, complex bureaucratic
Price norms
economic
tax systems, foreign
activities, discriminatory
burdensome
labor laws-not
to mention
of the well known characteristics against this background
controls for basic staples, financial regulating entry in a whole host of restrictive
of these economies
that the deregulation
exchange
controls,
trade policies-were
and some
by the early 1980s.6 It was
movement in Latin America began
to take shape in the past decade.’
DEREGUIATIONINLATINAMERICA Table 1 provides a brief summary of the deregulation movement in selected Latin American economies. In addition to horizontal (i.e., measures that affect different industries) and sector-specific deregulation measures, the table also reports governmental efforts in the areas of privatization and trade liberalization.8 As mentioned before, deregulation has been typically pursued in the context of broader structural reforms.
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QUARTERLY RJZVIEWOF ECONOMICS AND FINANCE
Table 1. REGULATORY REFORM, PRIVATIZATION, AND TRADE LIBERALJZATION IN SELECTED LATIN AMERICAN COUNTRIES,
1987-1992
ARGENTINA REGULATORY l l l l l l
REFORM
(most of it associated
with the Decree
#2284 of 1991)
reinsurance monopoly was abolished retail pharmaceutical market was deregulated medium and long-distance road transport was deregulated labor and business monopolies in port activities were eliminated energy deregulation (including elimination of price controls) almost complete elimination of controls on prices, salaries, and foreign transactions (1990).
exchange
PRIVATIZATION l
l
Major companies privatized (1989-1991): ENTEL, Aerolineas Argentinas, companies, railroad lines (Rosario-Buenos Aires), radio and TV stations Value of the above listed privatization transactions: USS2.024 million (cash receipts) USg7.040 million (Cancellation of foreign debt)
oil-related
TRADE LIBERALIZATION
. . . . .
Reduction from 62 percent to 37 percent of the coverage of manufactured products subject to quantitative restrictions; obligatory import-permits were abolished for 2,000 items (1988). Prior examination requirements for 734 tariff positions were eliminated (1990). By mid-1986 more than 5,000 tariff positions were subject to the “Sworn Declaration of Import Need.” By 1991, only 24 tariff positions were still affected by this measure. In 1991, the average tariff was reduced from 16 to 12.2 percent in the context of a threetiered tariff structure (5 percent: 13 percent; 22 percent). Reference prices in the electronics sector are eliminated.
BRAZIL REGULATORY l
l
l l
REFORM
Most price controls (with the exception of those applying to natural rubber and public tariffs) were eliminated (1991). Air transportation, insurance, car dealerships, fuel commercialization were deregulated. Governmental monopoly of wheat imports was abolished (1990). More than 100,000 governmental decrees were revoked over the 1990-1992 period. Access of foreign investors to capital markets was liberalized.
PRIVATIZATION l
l
Major companies privatized (1991-1992): Alcalis, CST, Fosfertil, Polisul (companies Value of overall privatization transactions
Usiminas, Celma, Piratini, Petroflex, Copesul, with a sale value above US$50 million). (1991-1992): US$3,389 million.
TRADE LIBERALIZATION 0
Between 1987 and 1989, the average tariff was reduced program of scheduled tariff reductions was introduced 14.2 percent by.July 1993.
from 51 to 35.5 percent. In 1990, a and it will take the average tariff to
REGUL4TION
l
l
123
(Continued)
Table 1. l
IN LATIN AMXRICA
Import permits were reduced from 4,441 to 1,165 items between they were completely eliminated. The requirement for company and sector-specific annual import in 1990. The market-reserve for computers ended in October 1992.
1987 and 1988. In 1990, budgets
w
also eliminated
MEXICO REGULATORY l l
.
REFORM
Price controls were relaxed in 1990 and 1991. Trucking, intm-model transportation, petrochemicals, fishing, mining, commodities (sugar, coffee), and telecommunications were deregulated in 1989-1990. Financial sector was liberalized in 1988-1990 (measures include easier entry by domestic and foreign capital).
PRIVATIZATION Major Companies privatized (1988-1991): Telmex, Cananca Mining Co., Aerovias de Mexico, Mexicana de Aviation, Mexicana de Cobre, steel companies (Sicartsa I, AHMSA), banks (Bancomer, Banamex, Confla, Cremi, Comermex, Banpais, Bancreser, Banoriente), Foment0 Aaucarero, Conasupo (Tutilan plant), and sugar refineries. Value of privatization ttansactions (1988-1991): US$ 10,800 million (only companies with a sale value above US$50 million were considered in this calculation; debt-equity swap components were not included). TRADE LIBEI&ALIZATION l
l l
l
In 1988, the tariff range was compacted to G-20 percent (the maximum tariff in Mexico’s Protocol of Accession to GATYf in 1986 was 50 percent). Import reference prices were eliminated (1988). Import licenses were reduced (they continue to apply only to approximately 3 percent of the tariffpositions), 1988. Import licenses for computers and pharmaceuticals were eliminated in 1990. Local content requirements for passenger cars were reduced in 1989.
Sours: Argentina (1991);AbrcuandWcmcck(1992):GA~~1992);Ltig(l992):Ponu~l~lho(1992);RimoBn~(1993);Rojo(1992); World Bank (1992).
The conventional rationale.
argument
It is argued
introduced
by government
of goods and services. overshadow
rationale,
intervention
relies on a microeconomic
to entry and/or
income
“government
was indeed designed is sometimes
to promote
presented
failure” tends to
the intervention
in their favor. In Latin America,
deregulation
the price distortions
tend to hamper the efficient provision
In other words, either
the “market failure” which originated
tively, the regulation tributing
for deregulation
that the barriers
or, alterna-
sector-al interests, in addition
as an instrument
redis-
to the micro to advance
macroeconomic objectives. From this perspective, deregulation will also serve as a mechanism to curb relative price distortions, promoting competition in the provision of non-tradable
goods and services.
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QUARTERLY REVIEW OF ECONOMICS AND FINANCE
If one accepts
the proposition
pursuing
structural
question
of how to integrate
and trade
adjustment
liberalization
that well-meaning
governments
policies guided by efficiency regulatory
becomes
are currently
concerns
reform with stabilization,
relevant.g
them the
privatization
After all, the end result of such
reforms may be influenced by the order and timing of their introduction. The search for “optimal” sequencing is to a certain extent a hopeless
quest.
The results of structural reforms are not independent from the initial conditions of the economy in question. The availability of foreign funds, the prevailing inflation, the degree of indexation, and the capacity of the government to pursue fiscal austerity, as well as its credibility, are some of the factors that have to be taken into account
in establishing
the sequence
of the reforms.
It can be argued, however, that regulatory reforms promoting the contestability of markets -i.e., eliminating or lessening barriers to entry and exit in different industries-should be implemented as soon as possible. Failure to address inadequate domestic regulations may not only impair the reallocation of resources fostered by trade liberalization, but also convert the reform into an exercise in rent transfer. Furthermore, in high-inflation economies, stabilization cum trade liberalization tends to foster relative price changes, with nontradables becoming relatively more expensive. As mentioned above, deregulation may contribute
to diffuse inflationary
pressures by enhancing
competition
within the
non-tradables sector. Hence, the theoretical case to promote deregulation in tandem with stabilization and trade liberalization efforts seems well established. The immediate benefits of deregulation, however, are not always easy to gauge, particularly, those related to macroeconomic variables.” Furthermore, tradition and anti-competitive behavior of private and/or public firms may delay the micro impact of regulatory reform, a possibility which suggests not only the need to avoid presenting deregulation as a panacea, but also the importance of complementary policy actions-e.g., the adoption or strengthening of competition laws. The complexity
of regulatory
reform
should also not be taken lightly. One
priority is to disparage meaningless or redundant regulations which made the region the paradise for “fixers,” specialized in how to proceed through the bureaucratic maze.” Efforts to reduce the “costs of formality” (De Soto 1989) were long overdue in the region and their revival over the last few years finds widespread support, even though their effectiveness remains an open question. Once one moves into the realm of industries characterized by natural monopolies and asymmetric information, however, the issue on how to proceed with deregulation becomes much more controversial. It may be enough to remember the previous experience with financial liberalization in the Southern Cone in the late 197Os.‘* Although a careful reading of those experiences suggests that lax regulation played a secondary role in the ensuing financial crises (which were mainly explained by inconsistent
REGULATION
economic
programs,
that they illustrate
particularly,
the risks of financial
Actually, the experience prudential financial
overvalued
regulation
deregulation
of East Asian countries-e.g.,
and supervision
liberalization
exchange
IN LMlNAMERICA
rates),
it is undeniable
in unstable
economies.
Malaysia-suggests
should be strengthened
efforts.13 In short, deregulation
some recent
problems
privatization
that
in the context of
should not be viewed as
a journey towards laissez-faire. The proper coordination between regulatory reform and privatization poses additional
125
efforts
for Latin American policy makers. In the next section, experiences
are reviewed in order to illustrate
these
problems.
PRIVATIZATION AND REGULATORY As shown
in Table
deregulation
1, several
movements
REFORM
of the Latin
American
also had active privatization
countries programs.
engaged
in
This should
come as no surprise to the extent these efforts play a complementary role towards reducing government’s intervention in the economy. Moreover, the “Washington consensus”
promotes
both concepts.
Privatization
is meant to deal with govern-
ment’s direct intervention in the productive capacity of the economy, while deregulation intends to reduce indirect intervention through price controls and barriers
to entry. In both cases, the promotion
of allocative efficiency
is a major
objective. This is not the place to review the arguments in favor and against privatization.14The simple fact that “everybody’s doing it” (as pointed out by the Ecommist a few years ago) suggests that privatization efforts currently share widespread support among policy-makers internationally. There are estimates that more than two-thousand SOEs have been privatized in developing countries since the early 1980s. I5 Although most of these privatizations involved small firms, lately large SOEs also began to be privatized. Latin American countries have been particularly
active in this context
and most of the privatizations
involving gross
transaction values above US$ 100 million have occurred in the region.16 Privatization of large firms operating in noncompetitive environments requires that special attention be given to the post-privatization regulatory environment.
The potential
for conflict
is illustrated
by the fact that governments
pressed by fiscal considerations may be more concerned with the budgetary results of the operation than with efficiency objectives. Recent experiences with the privatization of telecommunications services in Latin America are particularly interesting in this context. The telecommunications sector is a natural candidate for analysis not only because of its size and strategic role, but also because its performance is significantly influenced by the prevailing regulatory environment.
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QUARTERLY REVIEW OF ECONOMICS AND FINANCE
The
conventional
wisdom
concerning
should occur in parallel with privatization
the regulatory
developments
that
efforts in the area of telecommunica-
tions is reviewed in detail in Wellenius (1993). In a nutshell, the main recommendations for privatization programs in this area are the following: 1.
the scope and duration should be reduced.
of monopoly
privileges formerly held by the SOEs
The privatized companies
should receive monopoly
privileges for limited periods-e.g., 10 years for the core telephony business--at the end of which competition may be introduced. 2.
competition should be allowed immediately in nonbasic operations as cellular telephony, value added and information services.
3.
a strong independent regulatory the restructured telecom sector.
agency should be established
such
to oversee
These recommendations reflect the following presumptions. First, competition (or the threat of) is the best regulator. Accordingly, in those areas in which technological progress has eroded natural-monopoly conditions, competition should be introduced as soon as possible. Second, those services that continue to operate under quasi-natural monopoly conditions (e.g., local telephone services) should be regulated. In this context, the “rules of the game” should be established prior to the privatization. And the regulatory agency in charge of these rules should be sheltered from political pressure and protected from capture by the providers of the service. In practice, these normative recommendations are not easy to follow. In the case of Jamaica, for instance, the telephone company was privatized with exclusivity privileges on local andintemational services for 25 years (World Bank 1992, p. 22). Such a format suggests that financial concerns took precedence over efficiency considerations in this case. I’ In other words, by selling monopoly rights, the government was able to increase the selling price of its telecom at the expense tition.
of establishing
a regulatory
environment
which does not foster compe-
Chile provides another interesting example in this context. The commitment of the Chilean government to privatization is beyond doubts, having clearly survived the transition to the democratic regime. The most recent wave of divestiture in Chile, which began after the deep economic crisis of 1982-1983, had as its guiding principle the “belief that private property was fundamental in a free society” (Gala1 1992, p. 8). Maybe because of this strong ideological tone, regulatory concerns took a back seat in the privatization process. The case of the telecom sector is again illustrative in this respect. There is evidence that in broad economic terms the sale of Compania de Telefonos de Chile (CTC) was a success. la Still, the lack of clear established rules of the game with respect to competition and entry has now come to haunt the
REGULATION
Chilean
authorities.
The Empresa
which was originally established long-distance intention
National
IN LATJNAMERICA
(ENTEL) ,
de Telecomunicaciones
as a SOE with the mission to control the country’s
network (including
satellite operations),
is now challenging
to install an optical fiber network and its own longdistance
based operations.
127
As a consequence,
significant
investments
CTC’s satellite
in this area are now
on hold waiting for court decisions. Ironically,
the company (Telefonica
de Espana)
that acquired
control of CTC
in ENTEL
(20 percent).
In this context,
in 1990 also has a minority participation anti-trust either
concerns
led to a determination
one of the companies,
Chilean
Supreme
that Telefonica
a decision
which is now being appealed
Court. One possible interpretation
even in a market-friendly
environment,
protected,
regulatory
at sectoral
level, delaying investments
should divest from
in which
of the Chilean
case is that
private property
failure may induce sub-optimal
patterns
and diminishing
to the
rights
are
of development
efficiency.
The complexity,of the regulatory questions posed by telecom privatization is also illustrated by the recent experiences of Mexico and Argentina in this area. Despite the fast pace of their privatization of success--were
programs, efforts-with
made to develop a more elaborate
different
regulatory
levels
environment
in
parallel with the divestiture in both countries. In the case of Mexico, the Secretaria has been in charge
of regulatory
towards telecommunications. the rapid expansion
The surge in regulatory
of the Mexican
Free Trade Agreement
(NAFTA)
to introduce
sector.rg TELMEX
on long-distance
The
Mexican
authorities
for TELMEX
experience
illustrates
can be reduced
to maintain
regime
competition Another National since
in basic telecommunications,
interesting
case is provided
as a state-owned
telecommunications facturers
telecom only until
its monopoly
on local services.
upon
the regulatory
of a well conceived
privatiza-
failed to liberalize
it remains
to be seen
the how
will evolve in practice.
de Telecomunicaciones
1946
were
and quality targets were estab-
how the demands
by the implementation
on the
(TELMEX)
bias in the Mexican
tion program. Yet, to the extent that NAFTA negotiations investment
about by
pressure
de Mexico
services was extended
August 1996 and a series of network expansion lished as preconditions
(SCT) policies
issues brought
put significant
of Telefonos
a clear pro-competition
monopoly
y Transporte
telecom system and by the North American negotiations
agency. The terms of the privatization designed
de Comunicaciones
activities as well as the government’s
of telephone
by the privatization
(ENTel), in Argentina.*’ monopoly
with the dual objective
services and fostering equipment.‘l
of the Empresa
ENTel had operated
the development
of providing
of national
manu-
In recent years, the quality of telephone service had declined sharply, there were long delays for new lines and illegal connections were rampant. While local subsidiaries of international telephone
128
QUARTERLY REVIEW OF ECONOMICS AND FINANCE
equipment
manufacturers
had been created,
tion was high and conditions
concentra-
were ripe for abuse of market power.
The rules for the privatization in September
the degree of industrial
of ENTel were set forth in a presidential
decree
1989. It divided the firm into three regions and established
the buyer would obtain a monopoly
on telephone
that
services in each region for a
period of five years. These terms were modified four months later. The company was divided into two zones and the monopoly period was extended with the possibility
of a 3year extension
if certain
performance
to seven years, standards
were
exceeded. It is worth noting that these targets are modest and would result in service levels in the year 2000 well below international standards. At the end of 10 years, the monopoly privileges expire and new competitors can enter the market. In January 1990, the Secretary of Communications was identified as the regulatory body for the post-privatization period and the terms of reference for the international bidding were established specifying a rate-of-return pricing rule set at 16 percent.** In November 1990, just before that transfer of ownership, the pricing mechanism
shifted from a rate-of-return
basis to an RPI-xstandard
where
the price of telephone services was pegged to an index of the combined rates of inflation in the US and Argentina and x was set at 2 percent for the first seven years and 4 percent for an additional 3 years (if the performance targets were met in the first period.) Thus, x is fully exogenous (since there are no interim reviews) providing the strongest incentives for cost minimization, especially when the 10 year limit on monopoly is considered. This sudden shift so late in the process suggests that the buyers must have been at least as well off under RPI-x as a rate-of-return rule and that the government must have had a preference for the change. A simulation (Abdala 1992) using the RPI-x mechanism shows prices and profits consistently higher than under the alternative 16 percent rate-of-return rule. Thus, RPI-xpricing this case seems to imply greater returns for the new owners and higher
in tax
revenues for the government at the cost of higher prices for the consumer. The Convertibility Plan introduced in April 1991 made any form of indexation of contracts illegal and thus required the adjustment of the ENTel contract. In return for a reduction of the value-added tax on residential phone service, suppliers agreed to freeze the price of the basic pulse rate (with the privatization residential prices had increased 96.6 percent to an average pulse rate of US$ 0.042). However, since no new contractwas signed, it can be argued that the firms have not given up their right to adjust prices upward by the cumulative change in the index. On the regulatory front, an executive decree dated ofJune 1990 established the “Comision National de Telecomunicaciones (CNT) ,” as a new autonomous agency directly linked to the President. In practice, CNT was put under the Ministry of Public Works and Services, and after the abolition of this ministry,
REGULATION
IN LATIN AMERlCA
under the Ministry of Economy. Over its first fifteen months of existence, had a very discrete ment’s misgivings
performance
to say the least, probably
about the need for an active regulatory
1992, however, the government to recommendations
has been reorganizing
CNT
govern-
agency. Throughout
the agency-in
response
from the World Bank and growing consumer
dissatisfac-
tion-in an attempt not only to strike a better balance consumer interests, but also to promote competition. The Argentinean
reflecting
129
experience
further illustrates
between
producer
the costs of proceeding
and with
privatization amid fluid government positions with respect to the future regulatory environment. It also suggests that the concept of an independent regulatory agency requires
strong political determination
at the highest government
levels.
Frequent changes in the rules of the game tend to undermine the credibility of the government’s regulatory stance, amplifying the potential economic costs of the divestiture
process.
CONCLUDING
REMARK!3
This paper has tried to establish the following propositions: (1) Latin American countries have embarked on the deregulation and privatization “bandwagons” in the 1980s (with Chile being an earlier entry); (2) privatization efforts, however, often demand complex regulatory reforms (as illustrated by the telecom examples) that may run counter
to the overall deregulation
trend. In practice,
Latin
American countries are now faced with the challenge of establishing credible regulatory regimes for industries characterized by natural monopolies.23 It is sometimes argued that the deadweight losses related to the higher prices ofunregulated private monopolieswill be more than compensated by an increase in productive efficiency following privatization. Such an argument relies on the hypothesis that a private firm is more likely to pursue cost minimization than a public enterprise.24
In this context,
the pursuit of “proper” regulation
is charac-
terized as a waste of time and resources. In the case of Latin America, this argument is even more powerful if one believes that an arm’s length relationship (as a mechanism to diminish chances of “capture”) between regulatory agencies and private regulated firms is unlikely. It would be naive, however, to abstract from the distributional impact of the ongoing reforms. Political friction is inevitable as rents are transferred from the State and government bureaucracies to private owner(s), and consumers face higher prices for services that used to be subsidized. This is particularly true when mass privatization is a central component of structural reform programs. There is an intrinsic conflict between the role of government as the regulator concerned with the “protection” of consumers and as the seller of a valuable asset and receiver of tax revenues. If fiscal considerations and the need for rapid results
130
QUARTERLY REVIEW OF ECONOMICS AND FINANCEI
prevail,
the government
private operators.
will be more
As a consequence,
may be reduced
to sell monopoly
the contestability
backlash
perspective,
how to specify and sustain a set of economic
policies
clear that respect for private property provisions,
for example,
ment intervention. is a proper excessive
the central
structural proper
reforms
to the previous
balance
of monopolies is the challenge
between
consumer
without dissipating
behavior, it seems
regulatory
of recidivism interests
regime,
recommendation.
enlist the support
then the chances
The
of consumers
of also
to the ongoing
and those of the private operators
too many resources
in the regulatory
that will be most effective
exercise
in the Latin American
distinct historical
and existing “symbiotic” linkages between business and government, that a US or European adaptations. can provide
privatizations
dangers
of plain laissez-faire
ahead.
The kind of regulation
America
in turn,
are even greater. To strike the
context warrants further study. Given Latin America’s
without
is:
market
the scope for erratic govern-
of a credible
are well known, but the alternative
entails its costs. If one cannot
question
rights is part of the answer. Constitutional
may play a role in limiting
complement
This,
agents? In a region
pursued opportunistic
The establishment
regulation
markets
enhanced.
that will encourage
forces, without allowing them to trample weaker economic have historically
to
in the future.
up, from a politicaleconomy
in which governments
privileges
of the affected
and the market power of private monopolists
in turn, may induce a regulatory Summing
inclined
model
Detailed useful
of regulation analyses
insights
and help the ongoing
can be successfully
of recent
regulatory
for the organization
process of regulatory
tradition
it is unlikely transplanted
efforts
in Latin
of the remaining
reform in the region.
NOTES *The viewsexpressed in this paper are those of the authors and do not necessarily reflect those of the institutions they are associated with. Comments and suggestions from Keith Rosenn and Pablo Spiller are gratefully acknowledged. The usual “caveats”apply. 1. For details see Williamson (1990). 2. It should not be forgotten, however, that the concept of a mixed economy continues to find strong support in many Latin American countries. As the recent experience of countries like Brazil and Uruguay suggests, the reform of the State remains a controversial topic. 3. For further details see Peltzman (1989). 4. Accordingly, “social regulation” measures-i.e., interventions designed to establish quality, health, safety, and environmental standards, as well as labor market regulations-will not be addressed in detail in this paper.
REGULATION 5.
IN LATIN AMERICA
131
There are exceptions to this pattern, however. Domestic suppliers to transnational
corporations, for example, were sometimes pushed into developing world-class operations in order to maintain their partnership with outward-oriented companies. 6.
For more details on the regulatory environment
which prevailed in several Latin
American countries by the early 1980s see Balassa, Bueno, Ruczynski and Simonsen (1986). 7. In the case of Chile, regulatory reform was initiated much earlier in the context of the Pinochet regime. Argentina and Uruguay also experimented with deregulation of financial markets in the second half of the 1970s. Broad regulatory reforms in the region, however, became much more common at the end of the 1980s amid structural adjustment programs. 8. It is worth mentioning that the tax system in Latin America, with its high nominal rates and discretionary concessions available for actors and activities favored by government policy, takes on many regulatory characteristics. 9.
A quite different perspective is offered by La1 (1987). According to him, economic
liberalization is in essence a means for governments to regain the control of the economy amid an economic crisis. He argues that there is “a sort of “Laffer curve” of government intervention, so that after a certain stage, increased government intervention, instead of increasing the area of government control, diminishes it” (La1 1987, p. 281). From this perspective, the current retreat of the State in Latin America may be interpreted as preparing the way for a new cycle of intervention. 10. For details concerning the Argentinean experience see Rojo (1992). 11. 12.
See, for example, Rosenn (1984). See, for instance, Barletta, Blejer and Landau (1983), Hanson and de Melo (1985))
Calvo (1986), andLa1 (1987). 13. On this theme see Wong (1992). 14. For a theoretical analysis of how ownership may influence economic outcomes, see Vickers and Yarrow (1988). 15. Worldwide this figure goes up to approximately 7,000 (a number heavily influenced by recent developments in the former east Germany) and would increase several times if the large number of privatizations affecting the retail and services sector of the former socialist economies were also taken into account. For further details see World Bank (1992). 16. Over the 1988-1991 period, seven privatizations involved Latin American SOEs with a gross value above US$ 1 billion. Ibid, p. 9. 17. It is worth noting that these considerations say nothing about the ultimate welfare implications of the privatization in question. 18.
For details see Gala1 (1992).
19. 20.
For further details see Tandon (1992) and Wellenius (1992). The chronology of events reported here is taken from Abdala (1992).
21. In some parts of the country, small cooperatives or foreign companies operated telephone service over a limited area. These companies were allowed to continue to exist but were subject to controls imposed by the Secretary of Communication. 22. There was a provision to grant refunds to consumers when profits exceeded
16
percent. 23. It is true that technological progress is eroding barriers to entry in certain industries and diminishing the weight of the “natural monopoly” argument. Still, the possibility of abuse of market power remains a major political concern in the case of public utilities. 24. See, for example, Bradburd (1991).
132
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REVIEW OF ECONOMICS
AND FINANCE
Abdala, M. A. 1992. “Distributional Impact Evaluation of Divestiture in a High-Inflation Economy: The Case of ENTel Argentina,” Ph.D. Dissertation, Boston University. Abreu, Marcel0 de P. and Rogerio L.F. Wemeck. 1993. “Privatization and Regulation in Brazil: The 1990-1992 Policies and the Challenges Ahead.” I;luarterly Revieu of Economics and Finance S: 27-44.
Argentina, Presiobt Menem Administration: A Vievjrmm the Priuate Sector in Argentina, (Buenos Ayres, 1991). Balassa, Bela, Gerard0 M. Bueno, Pedro-Pablo Kuczynski, Mario Henrique Simonsen. 1986. Toward Renewed Economic Growth in Latin America. Washington, DC: Institute for International Economics. Barletta, Nicolas A., Mario A. Blejer, and Luis Landau, eds. 1983. Economic Liberalization and Stabilization Policies in Aqentina, Chile, and Uruguay. Washington, DC: The World Bank. Bradburd, Ralph. 1991. “Privatization of Natural Monopoly Public Enterprises: The Regulation Issue.” Williams College, mimeo. Calve, GA. 1986. “Fractured Liberalism: Argentina under Martinez de Hoz.” Economic Decrel+t and Cultural Change 34 (April): 51 l-534. Cowan, L. Gray. 1990. Aivatizution in the Deueluping World. New York: Greenwood Press. Galal, Ahmed. 1992. “Chile,” paper prepared for the World Bank Conference on the Welfare Consequences of Selling Public Enterprises. Washington, DC: The World Bank. GATT. 1992. International Trade and the Trading System, Report by the Director-General 19911992. Geneva: General Agreement on Tariffs and Trade. Hanson, J. and J. de Melo. 1985. “External Shocks, Financial Reforms, and Stabilization Attempts in Uruguay During 1974-83.” W&d Deuebpment, 8 (August): 917-939. Kay, John and David Thompson. 1986. “Privatization: A Policy in Search of a Rationale.” The Economic Journal, 96 (March): 18-32. Lal, Deepak. 1987. “The Political Economy of Economic Liberalization.” The World Bank Economic Review, (January) : 273-299. Lustig, Nora. 1992. Mexico: TheRemahingof anEconomy. Washington: The Brookings Institution. Peltzman, Sam. 1989. “The Economic Theory of Regulation after a Decade of Deregulation,” Brookings Papers on Economic Activity. Washington, DC: The Brookings Institution. Portugal Filho, Murillo. 1992. “0 Programa Federal de Desregulamentacao do Govern0 Brasileiro,” paper presented at the “Seminario International de Desregulamentacao,” IPEA, Brasilia, August 3-5, mimeo. Primo Braga, CA. 1993. “International Transactions in Services: A Primer,” IECIT Discussion Paper. Washington, DC: The World Bank, mimeo. Rojo, Pablo. 1992. “Deregulation of the Argentine Economy,” Fundacion Mediterranea Newsletter, 7 (September) 47. Rosenn, Keith S. 1984. “Brazil’s Legal Culture: the Jeito Revisited,” Florida International Law Journal, 1 (Fall). Salamon, Lester M. (ed). 1989. BeyondPrivatization: The Tools of Government Action, Washington, DC: The Urban Institute Press. -. 1991. Ramamurti, Ravi and Raymond Vernon (eds). Privatization and Control of State-Owned Enterprises. ED1 Development Studies. Washington, DC: The World Bank. Tandon, Pankaj. 1992. “Mexico,” paper prepared for the World Bank Conference on the Welfare Consequences of Selling Public Enterprises. Washington, DC: The World Bank. Vickers, J. and G.K Yarrow. 1988. Privatization: An Economic Analysis. London: MIT Press. Waterson, Michael. 1988. Regulation of the Firm and Natural Monopoly. Oxford: Basil Blackwell.
REGULATION
IN LATIN AMERICA
133
Wellenius, Bjorn. 1993. “Telecommunications Restructuring in Latin America: An Overview,” in ImplementingRefm in the Telecommunications Sector Lcssonsj-om Experience, edited by B. Wellenius and PA. Stern, forthcoming, (The references in the text refer to the draft version presented in a conference in 1992). Williamson, John. 1990. “What Washington Means by Policy Reform,” in Latin A&can Adjustment: How Muzh Has Happened?, edited by J. Williamson. Washington, DC: Institute for International Economics. Wong, Chomg-Huey. 1992. “Reform of Monetary Policy Instruments,” finance andDeue&nnent (March): 16-18. World Bank. 1992. “Privatization the Lessons of Experience.” Washington, DC: Country Economics Department/The World Bank.
Regulation in Latin America: Prospects for the 1990s MELISSA BIRCH and CA. PRIM0 University
BRAGA *
of Virginia and World Bank
The 1980s will be remembered as a period of sweeping economic and political changes in Latin America and the Caribbean. For the sake of simplicity, we will refer to the region as “Latin America.” The foreign debt crisis and the collapse of the importsubstitution industrialization model underscored the need to rethink the role played by the State in the region. Country after country, programs of structural reforms-often backed by multilateral institutions-began to be implemented. The “compass” utilized in these reforms was typically oriented in the direction of the so-called “Washington consensus,” to use John Williamson’s apt description of the conventional wisdom concerning the necessary micro and macroeconomic ingredients of successful structural reforms in developing countries.’ Deregulation has been one of the common ingredients of recent structural reforms in Latin American countries. It can be broadly defined as the removal of unnecessary controls and restrictions that constrain economic activity. Accordingly, it is rationalized as an instrument to promote competition and efficiency. A cursory evaluation of recent deregulation actions in the region may be interpreted as a sign that this trend finds wide popular and intellectual suppoit in Latin America.
One could even suggest that the only ones opposing
this trend
seem to act in this manner either because of inertia or, more likely, because they are the rentiers of “red tape” in the region.2 The forces behind the deregulation movement in Latin America are not, however, identical to the ones that fostered the previous wave of regulatory reforms at OECD level. It is true that in both cases, growing dissatisfaction with the results of interventionist policies have played a role in promoting regulatory reform. In industrialized countries, however, the deregulation movement was often pushed by the private sector in response to technological and economic developments that made regulation counterproductive to the interests of the regulated industries.” In Latin America, that notwithstanding private-sector’s 119
120
QUARTERLY REVfEW OF ECONOMICS AND FINANCE
stake in the process, it can be argued that the main force behind the deregulation movementwas multilateral
(and still is) the public sector crisis and the external institutions.
and the distribution
This raises a series of questions
of the results of the deregulation
This article deals with “economic is concentrated barriers
on regulatory
regulation”
influence
of
about the sustainability movement
in Latin America.
in the region. Our analysis
activities which take the form of price controls
and
to entry.4 The State and the Economy, briefly reviews the roots of overregu-
lation in Latin America. Deregulation in Latin Americadescribes some recent trends towards deregulation in the region and the economic logic behind deregulation. Privatization and Regulatmy Rtfm explores the links between privatization and deregulation. The paper concludes with some remarks on the sustainability of the liberal trend in Latin America and the identification of issues that demand additional
research.
THE STATE AND THE ECONOMY IN LATIN AMERICA The roots of a preeminent
role for the state in the economies
are deep. Most of the region was colonized
of Latin America
by Spanish and Portuguese
explorers
acting on behalf of their crowns, rather than as independent entrepreneurs. During the colonial period, both the Spanish and Portuguese Crowns kept certain activities as their own, but often they delegated the right to exploit economic opportunities to private individuals, typically those with close connections to the official sector. The authorization to engage in a particular economic activity usually conferred monopoly privilege for some period of time or for some geographic
region,
and entrusted
to the monopolist
the right to represent
the
Crown in exchange for a share of the rents. The legacy of this tradition was a legal and cultural system in which regulated activities were the norm rather than the exception. Another legacy of the region’s colonial past was a tradition of disrespect for private property rights, particularly those established through private contracts. Politically created property rights, reflecting government’s changing priorities, characterized the region’s economic evolution. In such an environment, not only checks and balances to opportunistic behavior by the State remained weak, but the appeal of rentseeking activities from the perspective of private agents was magnified. After independence, many governments in the region adopted dejureliberal trade policies. A liberal attitude, as far as the role of foreign capital was concerned, also permeated governmental efforts to develop local infrastructure. Regulations were even used as instruments to attract foreign investors (e.g., through the offer of guaranteed rates of return for investments in public utilities and transportation systems). This liberal interlude, however, was not matched by
REGULATIONINLATINAMERICA
fundamental
changes in the political bias in the structure
the extent that governments or later opportunistic nationalization
ensued, fostering,
for example,
sooner
the progressive
of utilities.
The import substitution
industrialization
(ISI) strategy adopted in the post-
World War II period in many Latin American interventionist
of property rights. To
were not strictly bound to respect contracts,
behavior
121
bias in the region.
Because
the incipient
state of their modern
“authorized”
a limited number
countries
came to reinforce
the
of the small size of their markets or
manufacturing
sector, most countries
of firms in a given industry. Authorization
only in this
context included access to subsidized credit and tax incentives in a market sheltered from international competition. Some sectors of the economy believed to be particularly important to the nation state for economic or military reasons were reserved for direct ownership by the state, exclusively or in a joint venture with a foreign or domestic private partner. In this context, state-owned enterprises (SOEs) mushroomed in Latin American countries, providing an alternative channel for government intervention in the economy. In many cases, one of the explicit objectives of these enterprises was to foster the development of private domestic suppliers. Given the characteristics of the state-owned
industries,
a small number of domestic producers,
often connected
with foreign suppliers of the necessary technology, developed a “symbiotic” relationship with the state. The result was not competitive supplier markets, but rather highly concentrated domestic industries that wielded significant economic (and political) power. This pattern of development also tended to lessen concerns for quality and productivity among the firms of the region.5 This long history of closely intertwined public and private activity in Latin America nurtured overregulation. repression, complex bureaucratic
Price norms
economic
tax systems, foreign
activities, discriminatory
burdensome
labor laws-not
to mention
of the well known characteristics against this background
controls for basic staples, financial regulating entry in a whole host of restrictive
of these economies
that the deregulation
exchange
controls,
trade policies-were
and some
by the early 1980s.6 It was
movement in Latin America began
to take shape in the past decade.’
DEREGUIATIONINLATINAMERICA Table 1 provides a brief summary of the deregulation movement in selected Latin American economies. In addition to horizontal (i.e., measures that affect different industries) and sector-specific deregulation measures, the table also reports governmental efforts in the areas of privatization and trade liberalization.8 As mentioned before, deregulation has been typically pursued in the context of broader structural reforms.
122
QUARTERLY RJZVIEWOF ECONOMICS AND FINANCE
Table 1. REGULATORY REFORM, PRIVATIZATION, AND TRADE LIBERALJZATION IN SELECTED LATIN AMERICAN COUNTRIES,
1987-1992
ARGENTINA REGULATORY l l l l l l
REFORM
(most of it associated
with the Decree
#2284 of 1991)
reinsurance monopoly was abolished retail pharmaceutical market was deregulated medium and long-distance road transport was deregulated labor and business monopolies in port activities were eliminated energy deregulation (including elimination of price controls) almost complete elimination of controls on prices, salaries, and foreign transactions (1990).
exchange
PRIVATIZATION l
l
Major companies privatized (1989-1991): ENTEL, Aerolineas Argentinas, companies, railroad lines (Rosario-Buenos Aires), radio and TV stations Value of the above listed privatization transactions: USS2.024 million (cash receipts) USg7.040 million (Cancellation of foreign debt)
oil-related
TRADE LIBERALIZATION
. . . . .
Reduction from 62 percent to 37 percent of the coverage of manufactured products subject to quantitative restrictions; obligatory import-permits were abolished for 2,000 items (1988). Prior examination requirements for 734 tariff positions were eliminated (1990). By mid-1986 more than 5,000 tariff positions were subject to the “Sworn Declaration of Import Need.” By 1991, only 24 tariff positions were still affected by this measure. In 1991, the average tariff was reduced from 16 to 12.2 percent in the context of a threetiered tariff structure (5 percent: 13 percent; 22 percent). Reference prices in the electronics sector are eliminated.
BRAZIL REGULATORY l
l
l l
REFORM
Most price controls (with the exception of those applying to natural rubber and public tariffs) were eliminated (1991). Air transportation, insurance, car dealerships, fuel commercialization were deregulated. Governmental monopoly of wheat imports was abolished (1990). More than 100,000 governmental decrees were revoked over the 1990-1992 period. Access of foreign investors to capital markets was liberalized.
PRIVATIZATION l
l
Major companies privatized (1991-1992): Alcalis, CST, Fosfertil, Polisul (companies Value of overall privatization transactions
Usiminas, Celma, Piratini, Petroflex, Copesul, with a sale value above US$50 million). (1991-1992): US$3,389 million.
TRADE LIBERALIZATION 0
Between 1987 and 1989, the average tariff was reduced program of scheduled tariff reductions was introduced 14.2 percent by.July 1993.
from 51 to 35.5 percent. In 1990, a and it will take the average tariff to
REGUL4TION
l
l
123
(Continued)
Table 1. l
IN LATIN AMXRICA
Import permits were reduced from 4,441 to 1,165 items between they were completely eliminated. The requirement for company and sector-specific annual import in 1990. The market-reserve for computers ended in October 1992.
1987 and 1988. In 1990, budgets
w
also eliminated
MEXICO REGULATORY l l
.
REFORM
Price controls were relaxed in 1990 and 1991. Trucking, intm-model transportation, petrochemicals, fishing, mining, commodities (sugar, coffee), and telecommunications were deregulated in 1989-1990. Financial sector was liberalized in 1988-1990 (measures include easier entry by domestic and foreign capital).
PRIVATIZATION Major Companies privatized (1988-1991): Telmex, Cananca Mining Co., Aerovias de Mexico, Mexicana de Aviation, Mexicana de Cobre, steel companies (Sicartsa I, AHMSA), banks (Bancomer, Banamex, Confla, Cremi, Comermex, Banpais, Bancreser, Banoriente), Foment0 Aaucarero, Conasupo (Tutilan plant), and sugar refineries. Value of privatization ttansactions (1988-1991): US$ 10,800 million (only companies with a sale value above US$50 million were considered in this calculation; debt-equity swap components were not included). TRADE LIBEI&ALIZATION l
l l
l
In 1988, the tariff range was compacted to G-20 percent (the maximum tariff in Mexico’s Protocol of Accession to GATYf in 1986 was 50 percent). Import reference prices were eliminated (1988). Import licenses were reduced (they continue to apply only to approximately 3 percent of the tariffpositions), 1988. Import licenses for computers and pharmaceuticals were eliminated in 1990. Local content requirements for passenger cars were reduced in 1989.
Sours: Argentina (1991);AbrcuandWcmcck(1992):GA~~1992);Ltig(l992):Ponu~l~lho(1992);RimoBn~(1993);Rojo(1992); World Bank (1992).
The conventional rationale.
argument
It is argued
introduced
by government
of goods and services. overshadow
rationale,
intervention
relies on a microeconomic
to entry and/or
income
“government
was indeed designed is sometimes
to promote
presented
failure” tends to
the intervention
in their favor. In Latin America,
deregulation
the price distortions
tend to hamper the efficient provision
In other words, either
the “market failure” which originated
tively, the regulation tributing
for deregulation
that the barriers
or, alterna-
sector-al interests, in addition
as an instrument
redis-
to the micro to advance
macroeconomic objectives. From this perspective, deregulation will also serve as a mechanism to curb relative price distortions, promoting competition in the provision of non-tradable
goods and services.
124
QUARTERLY REVIEW OF ECONOMICS AND FINANCE
If one accepts
the proposition
pursuing
structural
question
of how to integrate
and trade
adjustment
liberalization
that well-meaning
governments
policies guided by efficiency regulatory
becomes
are currently
concerns
reform with stabilization,
relevant.g
them the
privatization
After all, the end result of such
reforms may be influenced by the order and timing of their introduction. The search for “optimal” sequencing is to a certain extent a hopeless
quest.
The results of structural reforms are not independent from the initial conditions of the economy in question. The availability of foreign funds, the prevailing inflation, the degree of indexation, and the capacity of the government to pursue fiscal austerity, as well as its credibility, are some of the factors that have to be taken into account
in establishing
the sequence
of the reforms.
It can be argued, however, that regulatory reforms promoting the contestability of markets -i.e., eliminating or lessening barriers to entry and exit in different industries-should be implemented as soon as possible. Failure to address inadequate domestic regulations may not only impair the reallocation of resources fostered by trade liberalization, but also convert the reform into an exercise in rent transfer. Furthermore, in high-inflation economies, stabilization cum trade liberalization tends to foster relative price changes, with nontradables becoming relatively more expensive. As mentioned above, deregulation may contribute
to diffuse inflationary
pressures by enhancing
competition
within the
non-tradables sector. Hence, the theoretical case to promote deregulation in tandem with stabilization and trade liberalization efforts seems well established. The immediate benefits of deregulation, however, are not always easy to gauge, particularly, those related to macroeconomic variables.” Furthermore, tradition and anti-competitive behavior of private and/or public firms may delay the micro impact of regulatory reform, a possibility which suggests not only the need to avoid presenting deregulation as a panacea, but also the importance of complementary policy actions-e.g., the adoption or strengthening of competition laws. The complexity
of regulatory
reform
should also not be taken lightly. One
priority is to disparage meaningless or redundant regulations which made the region the paradise for “fixers,” specialized in how to proceed through the bureaucratic maze.” Efforts to reduce the “costs of formality” (De Soto 1989) were long overdue in the region and their revival over the last few years finds widespread support, even though their effectiveness remains an open question. Once one moves into the realm of industries characterized by natural monopolies and asymmetric information, however, the issue on how to proceed with deregulation becomes much more controversial. It may be enough to remember the previous experience with financial liberalization in the Southern Cone in the late 197Os.‘* Although a careful reading of those experiences suggests that lax regulation played a secondary role in the ensuing financial crises (which were mainly explained by inconsistent
REGULATION
economic
programs,
that they illustrate
particularly,
the risks of financial
Actually, the experience prudential financial
overvalued
regulation
deregulation
of East Asian countries-e.g.,
and supervision
liberalization
exchange
IN LMlNAMERICA
rates),
it is undeniable
in unstable
economies.
Malaysia-suggests
should be strengthened
efforts.13 In short, deregulation
some recent
problems
privatization
that
in the context of
should not be viewed as
a journey towards laissez-faire. The proper coordination between regulatory reform and privatization poses additional
125
efforts
for Latin American policy makers. In the next section, experiences
are reviewed in order to illustrate
these
problems.
PRIVATIZATION AND REGULATORY As shown
in Table
deregulation
1, several
movements
REFORM
of the Latin
American
also had active privatization
countries programs.
engaged
in
This should
come as no surprise to the extent these efforts play a complementary role towards reducing government’s intervention in the economy. Moreover, the “Washington consensus”
promotes
both concepts.
Privatization
is meant to deal with govern-
ment’s direct intervention in the productive capacity of the economy, while deregulation intends to reduce indirect intervention through price controls and barriers
to entry. In both cases, the promotion
of allocative efficiency
is a major
objective. This is not the place to review the arguments in favor and against privatization.14The simple fact that “everybody’s doing it” (as pointed out by the Ecommist a few years ago) suggests that privatization efforts currently share widespread support among policy-makers internationally. There are estimates that more than two-thousand SOEs have been privatized in developing countries since the early 1980s. I5 Although most of these privatizations involved small firms, lately large SOEs also began to be privatized. Latin American countries have been particularly
active in this context
and most of the privatizations
involving gross
transaction values above US$ 100 million have occurred in the region.16 Privatization of large firms operating in noncompetitive environments requires that special attention be given to the post-privatization regulatory environment.
The potential
for conflict
is illustrated
by the fact that governments
pressed by fiscal considerations may be more concerned with the budgetary results of the operation than with efficiency objectives. Recent experiences with the privatization of telecommunications services in Latin America are particularly interesting in this context. The telecommunications sector is a natural candidate for analysis not only because of its size and strategic role, but also because its performance is significantly influenced by the prevailing regulatory environment.
126
QUARTERLY REVIEW OF ECONOMICS AND FINANCE
The
conventional
wisdom
concerning
should occur in parallel with privatization
the regulatory
developments
that
efforts in the area of telecommunica-
tions is reviewed in detail in Wellenius (1993). In a nutshell, the main recommendations for privatization programs in this area are the following: 1.
the scope and duration should be reduced.
of monopoly
privileges formerly held by the SOEs
The privatized companies
should receive monopoly
privileges for limited periods-e.g., 10 years for the core telephony business--at the end of which competition may be introduced. 2.
competition should be allowed immediately in nonbasic operations as cellular telephony, value added and information services.
3.
a strong independent regulatory the restructured telecom sector.
agency should be established
such
to oversee
These recommendations reflect the following presumptions. First, competition (or the threat of) is the best regulator. Accordingly, in those areas in which technological progress has eroded natural-monopoly conditions, competition should be introduced as soon as possible. Second, those services that continue to operate under quasi-natural monopoly conditions (e.g., local telephone services) should be regulated. In this context, the “rules of the game” should be established prior to the privatization. And the regulatory agency in charge of these rules should be sheltered from political pressure and protected from capture by the providers of the service. In practice, these normative recommendations are not easy to follow. In the case of Jamaica, for instance, the telephone company was privatized with exclusivity privileges on local andintemational services for 25 years (World Bank 1992, p. 22). Such a format suggests that financial concerns took precedence over efficiency considerations in this case. I’ In other words, by selling monopoly rights, the government was able to increase the selling price of its telecom at the expense tition.
of establishing
a regulatory
environment
which does not foster compe-
Chile provides another interesting example in this context. The commitment of the Chilean government to privatization is beyond doubts, having clearly survived the transition to the democratic regime. The most recent wave of divestiture in Chile, which began after the deep economic crisis of 1982-1983, had as its guiding principle the “belief that private property was fundamental in a free society” (Gala1 1992, p. 8). Maybe because of this strong ideological tone, regulatory concerns took a back seat in the privatization process. The case of the telecom sector is again illustrative in this respect. There is evidence that in broad economic terms the sale of Compania de Telefonos de Chile (CTC) was a success. la Still, the lack of clear established rules of the game with respect to competition and entry has now come to haunt the
REGULATION
Chilean
authorities.
The Empresa
which was originally established long-distance intention
National
IN LATJNAMERICA
(ENTEL) ,
de Telecomunicaciones
as a SOE with the mission to control the country’s
network (including
satellite operations),
is now challenging
to install an optical fiber network and its own longdistance
based operations.
127
As a consequence,
significant
investments
CTC’s satellite
in this area are now
on hold waiting for court decisions. Ironically,
the company (Telefonica
de Espana)
that acquired
control of CTC
in ENTEL
(20 percent).
In this context,
in 1990 also has a minority participation anti-trust either
concerns
led to a determination
one of the companies,
Chilean
Supreme
that Telefonica
a decision
which is now being appealed
Court. One possible interpretation
even in a market-friendly
environment,
protected,
regulatory
at sectoral
level, delaying investments
should divest from
in which
of the Chilean
case is that
private property
failure may induce sub-optimal
patterns
and diminishing
to the
rights
are
of development
efficiency.
The complexity,of the regulatory questions posed by telecom privatization is also illustrated by the recent experiences of Mexico and Argentina in this area. Despite the fast pace of their privatization of success--were
programs, efforts-with
made to develop a more elaborate
different
regulatory
levels
environment
in
parallel with the divestiture in both countries. In the case of Mexico, the Secretaria has been in charge
of regulatory
towards telecommunications. the rapid expansion
The surge in regulatory
of the Mexican
Free Trade Agreement
(NAFTA)
to introduce
sector.rg TELMEX
on long-distance
The
Mexican
authorities
for TELMEX
experience
illustrates
can be reduced
to maintain
regime
competition Another National since
in basic telecommunications,
interesting
case is provided
as a state-owned
telecommunications facturers
telecom only until
its monopoly
on local services.
upon
the regulatory
of a well conceived
privatiza-
failed to liberalize
it remains
to be seen
the how
will evolve in practice.
de Telecomunicaciones
1946
were
and quality targets were estab-
how the demands
by the implementation
on the
(TELMEX)
bias in the Mexican
tion program. Yet, to the extent that NAFTA negotiations investment
about by
pressure
de Mexico
services was extended
August 1996 and a series of network expansion lished as preconditions
(SCT) policies
issues brought
put significant
of Telefonos
a clear pro-competition
monopoly
y Transporte
telecom system and by the North American negotiations
agency. The terms of the privatization designed
de Comunicaciones
activities as well as the government’s
of telephone
by the privatization
(ENTel), in Argentina.*’ monopoly
with the dual objective
services and fostering equipment.‘l
of the Empresa
ENTel had operated
the development
of providing
of national
manu-
In recent years, the quality of telephone service had declined sharply, there were long delays for new lines and illegal connections were rampant. While local subsidiaries of international telephone
128
QUARTERLY REVIEW OF ECONOMICS AND FINANCE
equipment
manufacturers
had been created,
tion was high and conditions
concentra-
were ripe for abuse of market power.
The rules for the privatization in September
the degree of industrial
of ENTel were set forth in a presidential
decree
1989. It divided the firm into three regions and established
the buyer would obtain a monopoly
on telephone
that
services in each region for a
period of five years. These terms were modified four months later. The company was divided into two zones and the monopoly period was extended with the possibility
of a 3year extension
if certain
performance
to seven years, standards
were
exceeded. It is worth noting that these targets are modest and would result in service levels in the year 2000 well below international standards. At the end of 10 years, the monopoly privileges expire and new competitors can enter the market. In January 1990, the Secretary of Communications was identified as the regulatory body for the post-privatization period and the terms of reference for the international bidding were established specifying a rate-of-return pricing rule set at 16 percent.** In November 1990, just before that transfer of ownership, the pricing mechanism
shifted from a rate-of-return
basis to an RPI-xstandard
where
the price of telephone services was pegged to an index of the combined rates of inflation in the US and Argentina and x was set at 2 percent for the first seven years and 4 percent for an additional 3 years (if the performance targets were met in the first period.) Thus, x is fully exogenous (since there are no interim reviews) providing the strongest incentives for cost minimization, especially when the 10 year limit on monopoly is considered. This sudden shift so late in the process suggests that the buyers must have been at least as well off under RPI-x as a rate-of-return rule and that the government must have had a preference for the change. A simulation (Abdala 1992) using the RPI-x mechanism shows prices and profits consistently higher than under the alternative 16 percent rate-of-return rule. Thus, RPI-xpricing this case seems to imply greater returns for the new owners and higher
in tax
revenues for the government at the cost of higher prices for the consumer. The Convertibility Plan introduced in April 1991 made any form of indexation of contracts illegal and thus required the adjustment of the ENTel contract. In return for a reduction of the value-added tax on residential phone service, suppliers agreed to freeze the price of the basic pulse rate (with the privatization residential prices had increased 96.6 percent to an average pulse rate of US$ 0.042). However, since no new contractwas signed, it can be argued that the firms have not given up their right to adjust prices upward by the cumulative change in the index. On the regulatory front, an executive decree dated ofJune 1990 established the “Comision National de Telecomunicaciones (CNT) ,” as a new autonomous agency directly linked to the President. In practice, CNT was put under the Ministry of Public Works and Services, and after the abolition of this ministry,
REGULATION
IN LATIN AMERlCA
under the Ministry of Economy. Over its first fifteen months of existence, had a very discrete ment’s misgivings
performance
to say the least, probably
about the need for an active regulatory
1992, however, the government to recommendations
has been reorganizing
CNT
govern-
agency. Throughout
the agency-in
response
from the World Bank and growing consumer
dissatisfac-
tion-in an attempt not only to strike a better balance consumer interests, but also to promote competition. The Argentinean
reflecting
129
experience
further illustrates
between
producer
the costs of proceeding
and with
privatization amid fluid government positions with respect to the future regulatory environment. It also suggests that the concept of an independent regulatory agency requires
strong political determination
at the highest government
levels.
Frequent changes in the rules of the game tend to undermine the credibility of the government’s regulatory stance, amplifying the potential economic costs of the divestiture
process.
CONCLUDING
REMARK!3
This paper has tried to establish the following propositions: (1) Latin American countries have embarked on the deregulation and privatization “bandwagons” in the 1980s (with Chile being an earlier entry); (2) privatization efforts, however, often demand complex regulatory reforms (as illustrated by the telecom examples) that may run counter
to the overall deregulation
trend. In practice,
Latin
American countries are now faced with the challenge of establishing credible regulatory regimes for industries characterized by natural monopolies.23 It is sometimes argued that the deadweight losses related to the higher prices ofunregulated private monopolieswill be more than compensated by an increase in productive efficiency following privatization. Such an argument relies on the hypothesis that a private firm is more likely to pursue cost minimization than a public enterprise.24
In this context,
the pursuit of “proper” regulation
is charac-
terized as a waste of time and resources. In the case of Latin America, this argument is even more powerful if one believes that an arm’s length relationship (as a mechanism to diminish chances of “capture”) between regulatory agencies and private regulated firms is unlikely. It would be naive, however, to abstract from the distributional impact of the ongoing reforms. Political friction is inevitable as rents are transferred from the State and government bureaucracies to private owner(s), and consumers face higher prices for services that used to be subsidized. This is particularly true when mass privatization is a central component of structural reform programs. There is an intrinsic conflict between the role of government as the regulator concerned with the “protection” of consumers and as the seller of a valuable asset and receiver of tax revenues. If fiscal considerations and the need for rapid results
130
QUARTERLY REVIEW OF ECONOMICS AND FINANCEI
prevail,
the government
private operators.
will be more
As a consequence,
may be reduced
to sell monopoly
the contestability
backlash
perspective,
how to specify and sustain a set of economic
policies
clear that respect for private property provisions,
for example,
ment intervention. is a proper excessive
the central
structural proper
reforms
to the previous
balance
of monopolies is the challenge
between
consumer
without dissipating
behavior, it seems
regulatory
of recidivism interests
regime,
recommendation.
enlist the support
then the chances
The
of consumers
of also
to the ongoing
and those of the private operators
too many resources
in the regulatory
that will be most effective
exercise
in the Latin American
distinct historical
and existing “symbiotic” linkages between business and government, that a US or European adaptations. can provide
privatizations
dangers
of plain laissez-faire
ahead.
The kind of regulation
America
in turn,
are even greater. To strike the
context warrants further study. Given Latin America’s
without
is:
market
the scope for erratic govern-
of a credible
are well known, but the alternative
entails its costs. If one cannot
question
rights is part of the answer. Constitutional
may play a role in limiting
complement
This,
agents? In a region
pursued opportunistic
The establishment
regulation
markets
enhanced.
that will encourage
forces, without allowing them to trample weaker economic have historically
to
in the future.
up, from a politicaleconomy
in which governments
privileges
of the affected
and the market power of private monopolists
in turn, may induce a regulatory Summing
inclined
model
Detailed useful
of regulation analyses
insights
and help the ongoing
can be successfully
of recent
regulatory
for the organization
process of regulatory
tradition
it is unlikely transplanted
efforts
in Latin
of the remaining
reform in the region.
NOTES *The viewsexpressed in this paper are those of the authors and do not necessarily reflect those of the institutions they are associated with. Comments and suggestions from Keith Rosenn and Pablo Spiller are gratefully acknowledged. The usual “caveats”apply. 1. For details see Williamson (1990). 2. It should not be forgotten, however, that the concept of a mixed economy continues to find strong support in many Latin American countries. As the recent experience of countries like Brazil and Uruguay suggests, the reform of the State remains a controversial topic. 3. For further details see Peltzman (1989). 4. Accordingly, “social regulation” measures-i.e., interventions designed to establish quality, health, safety, and environmental standards, as well as labor market regulations-will not be addressed in detail in this paper.
REGULATION 5.
IN LATIN AMERICA
131
There are exceptions to this pattern, however. Domestic suppliers to transnational
corporations, for example, were sometimes pushed into developing world-class operations in order to maintain their partnership with outward-oriented companies. 6.
For more details on the regulatory environment
which prevailed in several Latin
American countries by the early 1980s see Balassa, Bueno, Ruczynski and Simonsen (1986). 7. In the case of Chile, regulatory reform was initiated much earlier in the context of the Pinochet regime. Argentina and Uruguay also experimented with deregulation of financial markets in the second half of the 1970s. Broad regulatory reforms in the region, however, became much more common at the end of the 1980s amid structural adjustment programs. 8. It is worth mentioning that the tax system in Latin America, with its high nominal rates and discretionary concessions available for actors and activities favored by government policy, takes on many regulatory characteristics. 9.
A quite different perspective is offered by La1 (1987). According to him, economic
liberalization is in essence a means for governments to regain the control of the economy amid an economic crisis. He argues that there is “a sort of “Laffer curve” of government intervention, so that after a certain stage, increased government intervention, instead of increasing the area of government control, diminishes it” (La1 1987, p. 281). From this perspective, the current retreat of the State in Latin America may be interpreted as preparing the way for a new cycle of intervention. 10. For details concerning the Argentinean experience see Rojo (1992). 11. 12.
See, for example, Rosenn (1984). See, for instance, Barletta, Blejer and Landau (1983), Hanson and de Melo (1985))
Calvo (1986), andLa1 (1987). 13. On this theme see Wong (1992). 14. For a theoretical analysis of how ownership may influence economic outcomes, see Vickers and Yarrow (1988). 15. Worldwide this figure goes up to approximately 7,000 (a number heavily influenced by recent developments in the former east Germany) and would increase several times if the large number of privatizations affecting the retail and services sector of the former socialist economies were also taken into account. For further details see World Bank (1992). 16. Over the 1988-1991 period, seven privatizations involved Latin American SOEs with a gross value above US$ 1 billion. Ibid, p. 9. 17. It is worth noting that these considerations say nothing about the ultimate welfare implications of the privatization in question. 18.
For details see Gala1 (1992).
19. 20.
For further details see Tandon (1992) and Wellenius (1992). The chronology of events reported here is taken from Abdala (1992).
21. In some parts of the country, small cooperatives or foreign companies operated telephone service over a limited area. These companies were allowed to continue to exist but were subject to controls imposed by the Secretary of Communication. 22. There was a provision to grant refunds to consumers when profits exceeded
16
percent. 23. It is true that technological progress is eroding barriers to entry in certain industries and diminishing the weight of the “natural monopoly” argument. Still, the possibility of abuse of market power remains a major political concern in the case of public utilities. 24. See, for example, Bradburd (1991).
132
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REVIEW OF ECONOMICS
AND FINANCE
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