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The importance of trade and exchange rate policies for agriculture in Ecuador
The importance of trade and exchange rate policies for agriculture in Ecuador
Grant M. Scobie, Veronica Jardine and Duty D. Greene
The economic growth of Ecuador’s agricultural sector relative to the rest of the economy over the last two decades is analysed, with special emphasis given to the economic adjustment of the 1980s. While exogenous shocks to the sector from changes in the weather and world prices had significant shortterm impacts, they cannot explain the long-term performance of Ecuadorean agriculture. The key to understanding long-term sectoral growth trends is the policy matrix implemented by the Ecuadorean government and its impact on production incentives. This article examines the extent to which the performance of the agricultural sector was a predictable consequence of macroeconomic policy. The authors are with the Sigma One Corporation, PO Box 12636, Research Triangle Park, NC 27709, USA.
34
During the 1980s Ecuador faced extremely complex choices concerning the performance and growth of the economy. Natural disasters compounded the problems stemming from variations in world commodity prices, the most important of which was the dramatic decline in petroleum prices. Recovery from external and natural shocks has also recently been hampered by inflation. These shocks to the Ecuadorean economy are by no means unique to recent history. The entire economic history of the country is punctuated with such events. Successive waves of economic growth have been interspersed with periods of severe adjustment or recession, principally as commodity prices have fluctuated in international markets. In the past these shocks have followed changes in the prices of cocoa, coffee and bananas. The dominance of individual commodities has continued to characterize the pattern of Ecuadorean exports, with a massive rise in petroleum production and exports since 1972. Rather than assisting a diversification of the export portfolio, petroleum came to dominate export earnings, making economic management once more susceptible to the fortunes of world markets and commodity booms. While giving due regard to the shocks that have buffeted the Ecuadorean economy both favourably and unfavourably, relying solely on them to explain economic performance would be unduly simplistic. Sustained trends in key variables over long periods also reflect other factors. Evidence from many countries and time periods suggests that such measures as the rate of growth in income, the size and composition of the tradable goods sector, the levels of inflation and unemployment and the relative rates of growth of different sectors of the economy are largely determined by economic policies. Furthermore, while economic policies are an important determinant of long-run trends in economic performance, they also condition the nature and magnitude of the economy’s response to unanticipated shocks in output and prices. Governments can do little to affect the timing or occurrence of these shocks; however, their economic policies will determine, in large part,
0306-9192/91/010034-14
0
1991 Butterworth-Heinemann
Ltd
The importance of trade and exchange rate policies for agriculture in Ecuador
how the adjustment occurs and the effects on output, prices and the real incomes of different groups. An economy with controls on foreign capital flows, with a fixed exchange rate, with a large fiscal deficit or with price controls or large subsidies to major sectors will probably exhibit a different pattern of long-term performance, as well as different short-term responses to unanticipated shocks, from one relying on a different set of economic policies. These policies determine how the effect of shocks will be transmitted to the economy, which sectors will adjust, and how the costs and benefits of adjustment will be distributed, together with the pattern of changes through time. The primary purpose of this article is to analyse the economic growth of Ecuador’s agricultural sector relative to the rest of the economy over the last two decades, but giving emphasis to the economic adjustment of the 1980s. While exogenous shocks to the sector from changes in the weather and world prices undoubtedly had significant short-term impacts, they cannot explain the long-term performance of Ecuadorean agriculture. The key to explaining the long-term sectoral growth trends is the economic policy matrix implemented by the Ecuadorean government and its impacts on production incentives. The remainder of the article, which examines the extent to which the performance of the agricultural sector was a predictable consequence of economic policies, is divided into four parts. In the first section we briefly review the evolution of the economy, and identify a number of periods in Ecuador’s recent economic history. We then consider some of the underlying economic policies that help explain the observed production responses in the major sectors of the economy. In the third section we consider the consequences for the agricultural sector of a complex matrix of trade policies, aimed at subsidizing and taxing various parts of the agricultural sector together with the long-term pursuit of an industrialization strategy based on protection of the import-competing manufacturing sector. The article concludes with a synoptic view of the changes in household incomes resulting from the economic structural adjustment policies implemented in the 1980s.
Performance of the economy The course of economic growth during the period 19.5048 is shown in Figure 1 in terms of annual percentage changes in real gross domestic product (in constant 1975 sucres). We have chosen to call the period 195@73 the ‘traditional’ period because it reflects the importance of traditional agricultural exports from the coastal region. With the surge of petroleum exports in 1973, real economic growth soared to unprecedented levels, qualifying the years 1974430 as the ‘oil boom’ period, The period from 1981 to 1985 was one of economic ‘crisis’ with sharply falling real incomes. The remaining period, from 1986 to 1989, is defined as that of adjustment and ‘recovery’. Despite having one of the highest population growth rates in Latin America, Ecuador’s real GDP per capita grew at an annual rate of 2.3% from 1950 to 1988, significantly above the average of other Andean countries. The evolution of real per capita incomes generated in agriculture and manufacturing (Figure 2) shows a marked contrast between the two sectors. For a long time prior to the boom, the manufacturing sector had been expanding, albeit from a small base.
FOOD POLICY
February
1991
35
The importance of trade and exchange rate pc dicies for agriculture in Ecuador
-4-
Figure 1. Annual percentage changes in real GDP growth, 1950-88.
‘V. Corbo, ‘Problems, development theory and strategies of Latin America’, World Bank, Washington, DC, mimeo, 1986. ‘F.X. Swett, El Mode/o de Desarrollo Agricola: N Caso Ecuatoriano, Corporacibn de Estudios Econ6micos, Guayaquil, 1983.
Figure 2. GDP per capita, (1975 = 100).
36
1965-88
-0”““““““““““““““““” 1951 1956
1961
1966
1971
1976
1981
1986
Ecuador in fact came rather late to the policy of import-substituting industrialization so prevalent throughout Latin America since the second world war.’ Value added in manufacturing rose rapidly in the oil boom period. In the recovery period, however, the absolute decline in real per capita incomes generated in manufacturing contrasts with the modest, but steady, improvement in the agricultural sector. Within the agricultural sector the pattern of growth has varied substantially, depending on the type of commodity and hence the region. The traditional export crops lost ground during the period 196546 (Table 1) in part because of the explicit and implicit taxation that prevailed for decades. The recovery of these exports in the latter part of the 1980s reflects in part the removal of the export taxes. While livestock production benefited from rising internal demand,2 the overall output growth of agriculture was disappointing during 1974-83. This stagnation occurred despite the fact that the government channelled
401 ’ 1965
’
’
’
’ ’ 1970
’
’
’
’ ’ 1975
’
’
’
’ ’ 1980
’
FOOD POLICY
’
’
’ ’ 1985
’
’
February 1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 1. Percentage growth rates of agricultural output per capita (1975 producer prices). Traditional exports
a Livestock 1966-85.
Table 2. Trade-weighted (1965-73 = log). Period
Years
Traditional Boom Crisis Recovery
1966-73 1974-80 1981-85 198&88
exchange
rates ,ndex
100 94 89 162
%.L. Espinel, ‘Transformaciones de la agricultura Ecuatoriana y sus perspectivas; 1970-80’, paper presented to a seminar of ILDIS-FODERUMA, Quito, 26-27 November 1987. “R. Urriola and M. Cuvi, La Agroindustria Alimentaria en el Ecuador en /OS Aiios 80, ILDIS y CEPLAES, Quito, 1986. ‘G.M. Scobie and V. Jardine, National income Dafa for Ecuador: Restructuring for Agricultural Policy Analysis to a Nine Sector Framework, Working Paper EMT.WP.03, Sigma One Corporation, Raleigh, NC, 1988. %ee V. Thomas, Linking Macroeconomic and Agricultural Policies for Adjustment with Growth: The Colombian Experience, Johns Hopkins University Press, Baltimore, MD, 1985; and A. Valdes, ‘impact of trade and macroeconomic policies on agricultural growth: the South American experience’, Economic and Social Progress in Latin America, Inter-American Development Bank, Washington, DC, 1986. 7A.0. Krueger, M. Schiff and A. Valdes, The Political Economy of Agricultural Price Interventions: The Case of Latin America, Johns Hopkins University Press, Baltimore, MD, forthcoming. ‘A.G. Keeler, G.M. Scobie and D.D. Greene, Exchanoe Rates and Foreion Trade Policies ii Ecuador: 1960-1985, Working Paper EMT.WP.06, Sigma One Corporation, Raleigh, NC, 1987.
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1991
Highland food crops
Coastal crops
Livestock products
Total
2.8 2.6 -14.1 7.4
1.6 1.4 -0.4 6.9
1.9 -2.6 -5.9 5.5
1966-71a
0.1
1972-79 198&83 1984-86’
-2.9 -13.7 6.2
-1.1 -14.2 6.0 -2.6
1985-86=
pi.8
-5.2
3.1
1.4
-0.2
considerable resources in terms of subsidized credit and infrastructural investment towards the sector” and into agricultural processing.4 The decline in per capita production of highland food crops starting in the mid-1960s was accompanied by a substantial increase in Ecuador’s food imports, particularly in the mid-1970s.’
Underlying economic policies The central thesis of this section is that the observed patterns of agricultural sectoral growth in Ecuador have their origins in the economic policies that prevailed. These policies are of two major types.h The first set are those which relate specifically to the agricultural sector; these include price supports and controls, investment in infrastructure, and the provision of credit, research and extension services. The incidence of these policies is seldom uniform across the whole sector and explains in part the differing performance of the subsectors. The second set of policies does not relate directly to the agricultural sector. These policies comprise the whole matrix of trade, exchange rate and macroeconomic policies. Their importance to the performance of the agricultural sector has increasingly become recognized. Where they are unfavourable they can totally negate any positive impact that sectorspecific policies might have had.’ These economy-wide policies assume even greater importance in small, open economies in which a high proportion (if not all) of the agricultural sector is comprised of tradable goods whose domestic prices reflect supply and demand conditions in international markets and the influence of the country’s trade and exchange rate policies. In contrast, non-traded or home goods are those whose domestic prices are determined by the equilibrium of domestic supply and demand. In an economy where there is a high share of tradable goods in total production, policies which affect the exchange rate assume prime importance in determining the performance of the agricultural sector. Ecuador has used a bewildering array of exchange rate regimes and controls aimed at altering the terms at which different commodities are traded.s Table 2 presents the trade-weighted real exchange rate in which the nominal bilateral rates with each of Ecuador’s major trading partners are adjusted for relative inflation rates and summed in accordance with the trade shares. The index shows that in the oil boom period the real trade-weighted exchange rate appreciated with the greatly increased supplies of foreign exchange driving down the sucre price of foreign exchange. The appreciation of the sucre imposed an explicit tax on Ecuadorean exports and an implicit subsidy of Ecuadorean imports. The real appreciation of the sucre came about as a consequence of a policy that maintained a fixed nominal exchange rate, but allowed
The importance of trade and exchange rate policies for agriculture in Ecuador
domestic inflation rates to exceed those of Ecuador’s trading partners. With accelerating inflation and some (albeit insufficient) rises in the nominal sucre price of foreign currencies, the real trade-weighted rate appreciated further during the crisis years 1981-85. Ecuador became more competitive internationally in the period 198688, when a floating exchange rate regime allowed the sucre price of foreign currencies to be determined almost entirely by market forces. The performance of the tradable sector relative to the home goods sector followed a predictable path (Figure 3). Prior to 1973 the rates of growth for agriculture and manufacturing had been comparable. Even with the expansion of petroleum exports, growth in the home goods (non-tradables) sector accelerated during the boom; while in the crisis years real growth rates in all sectors fell to very low levels. The recovery was notably successful in 1987 and 1988, when real growth of the tradable sector exceeded 5% annually and that of the non-traded goods sector fell slightly. This result represents a remarkable restructuring of the economy. The devaluation of the trade-weighted exchange rate stimulated a positive response in the output of the traded goods sector, despite falling international oil prices and the disruption in oil production and exports caused by the earthquake in March 1987. The performances of the agricultural and manufacturing sectors (Figure 4) follow the general pattern of growth in the tradables sector. The superior growth rates of the manufacturing sector up to and retlect the direct protection and including the boom years, however, differential access to financial resources given that sector, in contrast to the taxation of traditional agricultural exports. In the recovery period both these key parts of the tradable sector recovered, and the disparity between the growth of the two sectors was lower than at any time since the mid-1960s, suggesting that a more neutral set of policies emerged from the reforms of the 1980s. The relative performance of the sectors is further analysed by plotting the ratio of value added in the tradable sector to that of home goods together with corresponding relative prices. Obviously, there was a 9-
Q)
i
Figure 3. Relative GDP growth in the tradable (inc petroleum) and nontradable sectors, 1966438.
38
8-
Tradable sector
7
Non-tradable sector
6-
1973-81
1982-86
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1987-88
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador
7 6 5 4 3 2
I Figure 4. Relative GDP growth in the agricultural and manufacturing sectors, 1966-88.
0 -I 1966-72
1973-81
1982-86
1987-88
relatively high degree of association between the economic incentives from changes in the real exchange rate and the evolution of the tradable goods sector as a whole (Figure 5) and for the agricultural sector in particular (Figure 6). When the real exchange rate appreciates, as in the period 197441, the relative profitability of the agricultural sector falls. Despite attempts to channel resources to the sector, the overall economic climate was sufficiently unattractive to largely negate the effects of the subsidized credit and infrastructural investments. Following the crisis period there was a steady growth in the output of the agricultural sector relative to the home goods sector, reflecting the success of a structural adjustment
Figure 5. Relative GDP and prices: ratio of traded to home goods, 196588. 1975 = 1
FOOD
POLICY
February
1991
1965
0
Relative
prices
t
Relative
output
1967 1969 1971 1973
1975 1977
1979 1981 1983
1985
1987
39
The importance
of trade and exchange rate policies for agricuhre
in Ecuador
I .30r
+
1.20
I .I5 1.10 I .05 I .oo 0.95
0
Relative
output
0.90
t
Relative
prices
1969
1971 1973
0.85 Figure 6. Relative ratio of agricultural
GDP and prices:
to home goods,
1965-88. 1975 = 1
‘G.M. Scobie and V. Jardine, Macroeconomic Policy, the Real Exchanoe Rate and Agricultural Output in Ecuador, Working Paoer EMT.WP.04. Siama One Corooration, Raleigh, NC, i98i. “Centro de Estudios y Analysis, Rentas Petroleras y Gastos en Renumeraciones, No 4, February 1988.
Figure 7. Real public expenditures 1975 sucres per capita), 1950-88.
40
(in
0.80
1965
1967
1975
1977
1979
1981 1983
1985
1987
programme involving some key policy changes, of which a flexible exchange rate regime was the centrepiece. Clearly the real exchange rate played a central role in setting the incentives for resource allocation, investment and growth in the major sectors of the economy. The real exchange rate was not only affected by external shocks, but also by domestic economic policies in which the level of public expenditures and the associated public sector deficits are of prime importance.” The petroleum boom gave the government an unprecedented amount of revenue, which led to a doubling of real public expenditures in less than four years (Figure 7). Public consumption expenditures rose much more rapidly than public investment. In fact, during the years 1972-85 expenditures on public sector wages amounted to 78.8% of the total income received by the government from petroleum rents and taxes.“’
0
Total
+
Consumption
0
Investment
OTI”“““““““““““““““““’ 1950
1955
1960
1965
1970
1975
1960
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1965
February
1991
The importance
“Absorption is the total spending by domestic residents on consumption, investment and government services. “G Abril Ojeda, folirica Monetaria y De-
sar~ollo 7983),
Industrial
en
el Ecuador
(197s
Banco Central del Ecuador, Quito,
1985.
February
1991
rate policies
for
agriculture
in Ecuador
In other words, the bulk of the increased expenditure by the government was comprised of home goods and services. The consequent excess demand for non-traded goods raised their prices, resulting in an appreciation of the real exchange rate. Not only did the government increase its spending based on its share of the petroleum revenues, it also increased the deficit. With its new-found oil wealth as collateral and the ready availability of lowinterest loans in international capital markets, the government’s deficit averaged almost 9% of GDP during the oil boom period (Table 3). Concurrent with this internal imbalance was a growing external imbalance. The current account deficit rose from 3.2% of GDP prior to the oil boom to an annual average of 5.3% during the oil boom period. With the rise in government spending, total absorption” soon exceeded even the expanded levels of national income from petroleum exports; the shortfall was met by increased foreign borrowing. In 1972, prior to the oil boom, foreign borrowing accounted for 4% of total domestic absorption. By 1978, after five years of unprecedented income growth, Ecuador was using foreign borrowing to meet 20% of its total absorption (Figure 8). At the start of the oil boom the foreign debt was US$O.4 billion and servicing costs were 8% of exports. From 1973 to 1981 foreign debt grew at an annual rate of 41%. By 1981 over half the present debt was acquired and servicing of a debt of US$5.9 billion would cost over 70% of export earnings. In interpreting the real burden of the debt, the low price of Ecuadorean paper in secondary markets is an indicator of creditors’ assessment of the likelihood of repayment. If an allowance is made for discounting the nominal debt to its ‘market value’, the true share of borrowing in domestic absorption is much lower (Figure 8). Part of the public sector deficit was financed by credits from the Central Bank. Similar credit lines were used for a number of state-owned enterprises and sector loans at subsidized interest rates.‘* The expansion of the monetary stock that followed was accompanied by an acceleration in the inflation rate (Table 4). The net effect of the macroeconomic and exchange rate policies pursued in the oil boom period was a sharp decline in the output of the agricultural sector relative to home goods. With the change in the international economic conditions starting in 1981 Ecuador faced a serious economic crisis. No significant reserves of foreign exchange had been built up, much of the petroleum revenue had been dissipated in public sector wages, the manufacturing sector was highly protected, and numerous controls on both capital and goods markets impeded savings, misallocated investment and fostered smuggling and misreporting of foreign transactions. The poor economic management of the oil boom revenue had left the country ill-equipped to deal with the impact of the recession in the OECD countries, the dramatic rise in real interest rates and the fall in the external terms of trade (Table 5).
Table 3. Macroeconomic
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of trade and exchange
balances (percentage
of GDP).
Period
Years
Internal balance (public sector deficit)
External balance (current account deficit)
Traditional Boom Crisis Recovery
196573 1974-80 1981-85 198-8
-6.4 -8.6 -3.4 -4.6
~3.2 -5.3 -4.9 -11.8
41
The importance of trade and exchange rate policies for agriculture in Ecuador 40
35
30
Figure 8. Foreign borrowing: tage of absorption, 1972-88.
q
Face value
+
Discounted
value
t
percen1972
1974
1976
1978
1980
1982
1984
1986
1988
A lengthy period of stabilization and structural adjustment began in 1981. Over the next four years the public sector deficit was reduced, and even became a small surplus in 1985 (Figure 9). Simultaneously, the current account deficit fell to levels prevailing prior to the oil boom. Severe import restrictions were introduced at the onset of the crisis to stem the demand for scarce foreign exchange. The level of foreign trade interventions fell during 198548, however, as some import restrictions were removed and taxes on traditional exports were reduced. The reduced demand for home goods, because of the reduction in public deficits, and the reforms to the trade and exchange rate regimes contributed to a significant improvement in the real exchange rates for tradables, particularly agricultural goods. In the latter years of the recovery period the public deficit was again allowed to expand, with almost half the total domestic credit of the financial system represented by public sector credits at the Central Bank (Figure 9). The associated excess growth of the nominal money stock led to a drastic acceleration in inflation in 1988 and 1989. In August 1988 a crawling peg exchange rate policy was adopted in an attempt to prevent the sucre from overvaluing; however, the real exchange rate tended to appreciate in 1989, because of the high relative inflation rate vis-a-vis Ecuador’s major trading partners. Failure to maintain purchasing power parity would inevitably result in taxing the tradable sector once again. In addition, the protection of the industrial sector resulted in an implicit taxation of agriculture, emphasizing the overall negative effect of macroeconomic policies on agricultural growth.
Table 4. Public sector credit, money growth and inflation.
a Calculated as the rate of expansion of the money stock (M2) less the sum of real income and population growth.
42
Period
Years
Public sector credit (% total credit)
Excess money growth” (average annual %)
Inflation (average annual %)
Traditional Boom Crisis Recovery
1952-73 1974-80 1981-86 1987-88
16.2 18.2 16.4 44.8
3.7 15.4 21.3 45.9
3.7 13.8 27.2 43.9
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February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 5. Exogenous shocks. Terms of trade”
Real interest rates0
a LIBOR less US CPI. b Intersectoral import to export prices excluding petroleum.
Years
%
Years
1975 = loo
1974-60 1981-66 1987-88
-1.3 9.1 4.4
196573 1974-60 1981-89
0.59 1.25 1.07
Burden of protection Trade policies designed to protect or assist one sector of the economy have been shown to have effects, often unintended, on other sectors. Protection to one sector comes inevitably at the expense of ‘disprotecting’ other sectors. Trade policies designed to stimulate the industrial sector by tariffs and other impediments to imports distort the economic incentives facing different sectors by changing relative prices in the economy. Typically, agriculture bears part of the costs of industrial protection, because import protection imposes an implicit tax on agriculture. The imports that are used in agricultural production are made more expensive by tariffs that are levied to protect domestic producers of import substitutes. Furthermore, the tradable sector is reduced, as the cost of home goods is raised. Because the prices of tradable products are set in international markets, any increased costs which are imposed on agriculture cannot be passed on by producers. Given that agriculture in Ecuador is a highly tradable sector it is particularly susceptible to the impact of trade policies which directly or indirectly affect the incentives to produce and consume agricultural products. Ecuador, like many other countries in Latin America, has pursued a development strategy in which the protection of the industrial sector has been a central element. Trade policy (consisting of tariffs, import licences, prior deposits for imports, and quotas) has been accompanied by favourable tax and credit policies to accelerate the growth of the manufacturing sector. This strategy, initiated in the late 195Os, proceeded at a modest pace in the 1960s. A more vigorous policy was pursued following the leap in national income that accompanied the oil boom starting in 1973 (see Table 6).
q n
-IL?-l3_14-
Figure 9. Private and public savings as percentages of GDP, 1979-89.
FOOD POLICY
February
1991
-15
’
1980
Public savings Private
savings
I
I
I
I
I
1981
1982
1983
1984
1985
1986
1987
1988
43
The importance
of trade and exchunge
rate pf Cdicie.s for ugriculture
Table 6. index of openness (1975 = 100). Period
Years
Index’
Traditional Boom
196573 1974-80
62.5 92.6
Crisis Recovery
1981-83 1984-89
73.8 92.1
a Computed as the sum of actual X + M relative to GDP.
13G.M. Scobie and V. Jardine, ‘Efectos de las politicas macroecon6micas de adjuste sobre el sector agricola y alimentario del Ecuador’, in Ajuste Macroecondmico y Sector Agropecuario en America Latina, lnstituto Americano de Cooperacibn para la Agricultura, Buenos Aires, 1989. 141bid.
in Ecuador
The true effective protection of a sector is a measure of the proportional change in value added resulting from protection. This measure combines the true nominal protection to each sector with the effects of tariffs on intermediate inputs; it can be used to estimate the actual gains and losses from trade intervention. The respective gains and losses are distributed among the primary factors of production, enabling the effect of trade policy on the returns to labour and capital in each sector to be estimated. The pattern of taxes and subsidies that prevailed in Ecuador in several sectors was used to evaluate the impact of simulated policy reforms on changes in value added and the respective gains and losses.” The basic agricultural exports (axb) were explicitly taxed, while the agricultural processing sector (axp) was protected as a deliberate strategy to diversify output and add domestic value. Agricultural coastal production (amc) was protected through input subsidies, cheap credit, infrastructural investment and barriers to imports, including explicit prohibition. In contrast, agriculture in the Andean region (urns) was implicitly taxed through subsidized imports (wheat). price controls (milk) and less access to subsidized inputs (eg credit and irrigation water). The remaining tradable sectors are the petroleum sector (FZX), which had a high equivalent export tax. and the manufacturing sector (nm), with its long history of protectionist policies (including tariffs, licensing, prohibition, multiple exchange rates and prior deposit schemes). Within each sector, trade policies create transfers between producers (exporting and import-competing), consumers and government.‘” The net intersectoral transfers from producers to consumers resulting from the pattern of intervention described above indicate that consumers paid higher prices for manufacture and agricultural importable goods produced on the coast (Table 7). Exporters of basic agricultural foods would lose 42.5% of sectoral GDP as a result of taxes on exportables, while import-competing producers would lose 68.7% of sectoral GDP as a result of the implicit tax on highland agriculture. The transfers into the manufacturing sector would be more than offset by substantial transfers out of agriculture. Only the coastal agriculture sector would benefit from a very small net gain. The transfers would be dominated by the petroleum sector because of its relative importance and the high tax rate. Even with the removal of sector-specific taxes and subsidies in agriculture, an overall trade reform policy would continue to result in substantial transfers out of the agricultural sectors because of the persistence of protection to manufacturing. The net change in value added by labour in each of the sectors resulting from trade policy reform is shown in Table 8. Labour in the
Table 7. Intersectoral
effects of trade policy reforms: transfers to consumers. Typical trade policies
sector axb =P amc am.5 “X “ITI Total
44
Nominal tariffs
Transfers as % of sectoral GDP
-0.15 0.20 0.30
-1.1
-0.10 -0.50
68.7 97.7
0.40
42.5 27.1
-21.5
Overall trade policy reform Nominal tariffs
Transfers as % of sectoral GDP
0.00 0.00 0.00 0.00 ~0.25 0.20
16.0 48.6 24.7 29.1 55.2 -11.8
38.8
26.5
FOOD POLICY
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 8. Change in returns to labour from overall trade policy reform. Sector
% change
axb -=P
16.6 17.1 16.4 16.5 56.5 -12.9
0.1 -0.3 -0.1 0.1 66.4 -2.3
14.9
20.6
amc ams “X “f7I
Total
As % of sectoral GDP
protected manufacturing sector would suffer a decline of almost 13%, while returns to labour in the agricultural sectors would rise by around 17%. A reduction in taxes on petroleum exports would increase the returns to labour in that sector significantly. The costs to the agricultural sector of industrial protection have been substantial. The agricultural sector of Ecuador is a major source of income, employment and foreign exchange. It has a vital role to play in restoring sustainable growth to an economy suffering from nearly a decade of natural and economic shocks. Clearly, the existing pattern of taxes and subsidies creates significant transfers between different groups of producers and consumers. The reform of that pattern, which reflects a complex set of historical and political forces,‘” will depend on the resolution of inherent conflicts between different groups of gainers and losers.
Agricultural incomes and improved incentives
15A. de Janvry, A. Fargiex and E. Sadoulet, ‘Economic, welfare and political consequences of stabilization policies: an analysis for Ecuador and Latin America’, monograph prepared for the Development Centre, Organization for Economic Cooperation and Development, Paris, by the University of California, Berkeley, CA, 1989.
Recently agriculture appears to have been reversing a long-term trend of decline in labour absorption, and employment levels in this sector have returned to the levels of 1980. This appears to be the result of a significant increase in labour productivity in agriculture, which in turn seems to have resulted from the improvements in the domestic terms of trade facing agriculture. The improvement in relative prices for agriculture was achieved through increases in the real exchange rate. This policy of depreciating the real exchange rate was pursued throughout the 1980s as the principal means of macroeconomic adjustment to the deterioration in the country’s international terms of trade. Agriculture’s response to the improvements in the exchange rate regime is the sole bright spot in the performance of the economy during the 1980s. The data in Table 9 indicate a major redistribution of income away from urban households to rural households during the period 1982-M. The value added per person in agriculture increased by 22.2%, while that in the industrial and service sectors declined by 7.6% and 24%, respectively. Agricultural output increased steadily throughout the decade (except in 1983 with the El Nina floods and drought) as a result of the improved incentives in relative domestic prices and in spite of decreases in world prices of some of Ecuador’s traditional agricultural exports. In particular, the production of Ecuador’s importable food commodities responded positively to higher relative domestic prices, especially in the mid-1980s. The food price increases, however, accounted for only about a third of the changes in relative incomes of the sectors shown in Table 9. The decreases in the real incomes of the
Table 9. Evolution of sectoral labour productivity (1982-68): Sucres. Agriculture Persons (‘000s)
1982 1963 1964 1965 1966 1967 1988
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February
1991
1199 1190 1 107 1 183 1 175 1 169 1 204
sectoral value added in ‘000 1975
VA/person
VA/person
27 25 26 26 30 32 34
321 331 341 348 360 369 379
59810 58 299 55 762 54 648 52 043 54 122 55 290
928 023 651 468 510 405 117
Services
Industry Persons (‘000s)
Persons (‘000s) 1339
1 424 1 507 1 597 1 669 1 762 1 641
VNperson 65 57 56 54 52 50 49
013 527 202 669 727 977 409
45
The importance of trade and exchange rate policies for agriculture in Ecuador Table 10.Realper capitaincomes in Ecuador(1975-88)by populationgroups in 1975 Sucres. Sierra
Quito
1975 1976 1977 1970 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988
16D. Hachette and D.L. Franklin, Employment and Incomes in Ecuador: A Macroeconomic Context, Sigma One Corporation, Durham, NC, 1990. “Ibid.
Guayaquil
Coast
Upper
Lower
Urban
Rural
Upper
Lower
Urban
Rural
45537 47482 49961 51 092 50697 53620 53563 51 268 44018 41 395 41 437 41 068 41747 40417
8896 9372 9879 10213 10223 10855 10875 10408 8837 8270 8242 8185 8253 8207
13968 14677 15361 15804 15768 17041 17166 16298 13395 12324 12397 12402 12703 12668
8160 8248 8 521 8820 0984 9975 10530 10392 9090 8801 9113 9203 9789 9907
59 298 64013 68661 68881 68877 70803 69441 66562 57397 55062 54451 55235 55173 56275
10507 11 268 11 989 12186 12265 12766 12662 12139 10359 9839 9716 9787 9761 10081
19 388 21 053 22665 23340 23571 25740 25769 24829 20940 19722 20177 20647 21 535 21 514
8830 10067 10832 11194 11738 12519 13336 13255 11 892 12099 12714 13308 14309 13835
industrial and service sectors are primarily attributable to the lower incentives resulting from falling world oil prices, the curtailment of international debt financing and declining government revenues. The rigidities in Ecuador’s labour and capital markets have prolonged the decline in real incomes in the non-agricultural sectors and accentuated the negative effects of the economic shocks on the urban population.lh Tables 10 and 11 present the evolution of incomes in per capita terms for specific population groups for the period 1975-88. These estimates, based on the data of the National Expenditure Surveys (Urban, 1976, and Rural, 1979), allocate annual sectoral value added to the households in each of eight population groups. The nominal incomes were converted to real terms by deflating with a cost-of-living index that was calculated specifically for each population group. The results measure the real per capita incomes or purchasing power of the households in each population group.” The data in these tables show the rise in per capita incomes for all population groups resulting from the oil boom in the period 1975-80. Per capita incomes then fall in 1982-83 as a combined result of the external economic crisis and the El Nifio disaster. Significantly, rural household incomes, especially on the coast, began to recover in 1984-85 in response to the economy-wide structural reforms, primarily the exchange rate policy. Through 1988 rural incomes continued to improve as a result of an exchange rate policy which attempted to maintain international competitiveness for the tradable sectors through the
Table 11. Real per capitaincomes in Ecuador (1975-88)by populationgroup (1975 = 100). Sierra
1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988
46
Guayaquil
Upper
Lower
Urban
Rural
Upper
Lower
Urban
Rural
100 104 110 112 111 118 118 113 97 91 91 90 92 89
100 105 111 115 115 122 122 117 99 93 93 92 93 92
100 105 110 113 113 122 123 117 96 88 89 89 91 91
100 101 104 108 110 122 129 127 111 108 112 113 120 121
100 108 116 116 116 119 117 112 97 93 92 93 93 95
100 107 114 116 117 122 121 116 99 94 93 93 93 96
100 109 117 120 122 131 133 128 108 102 104 106 111 111
100 114 123 127 133 142 151 150 135 137 144 151 162 157
FOOD POLICY
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador
government’s continuing effort to prevent the real exchange rate from appreciating. The data also confirm the significant decrease in real per capita incomes for the urban population, particularly in Quito and the Sierra. In general, the results presented here are consistent with those of Franklin, Leonard and Valdes for Peru.‘s Both studies show that the principal benefits of economic structural reform are captured by the producers of tradables, particularly agricultural households. The deof urban incomes cannot be attributed entirely to the ‘%ee D.L. Franklin, J.B. Leonard and A. terioration Valdes, ‘Consumptioneffects of agricultu- exchange rate reforms; however, urban wages must fall relative to rural ral policies: Peru’, in Trade Policy, Agriwages if the exchange rate reform is to be effective after a period of
cultural Prices, and Food Consumption: An Economy-Wide Perspective, Sigma One
Corporation,Durham, NC, 1985.
FOOD POLICY
February
1991
maintaining an overvalued imported foods.
exchange
rate and consumer
subsidies on
47
Grant M. Scobie, Veronica Jardine and Duty D. Greene
The economic growth of Ecuador’s agricultural sector relative to the rest of the economy over the last two decades is analysed, with special emphasis given to the economic adjustment of the 1980s. While exogenous shocks to the sector from changes in the weather and world prices had significant shortterm impacts, they cannot explain the long-term performance of Ecuadorean agriculture. The key to understanding long-term sectoral growth trends is the policy matrix implemented by the Ecuadorean government and its impact on production incentives. This article examines the extent to which the performance of the agricultural sector was a predictable consequence of macroeconomic policy. The authors are with the Sigma One Corporation, PO Box 12636, Research Triangle Park, NC 27709, USA.
34
During the 1980s Ecuador faced extremely complex choices concerning the performance and growth of the economy. Natural disasters compounded the problems stemming from variations in world commodity prices, the most important of which was the dramatic decline in petroleum prices. Recovery from external and natural shocks has also recently been hampered by inflation. These shocks to the Ecuadorean economy are by no means unique to recent history. The entire economic history of the country is punctuated with such events. Successive waves of economic growth have been interspersed with periods of severe adjustment or recession, principally as commodity prices have fluctuated in international markets. In the past these shocks have followed changes in the prices of cocoa, coffee and bananas. The dominance of individual commodities has continued to characterize the pattern of Ecuadorean exports, with a massive rise in petroleum production and exports since 1972. Rather than assisting a diversification of the export portfolio, petroleum came to dominate export earnings, making economic management once more susceptible to the fortunes of world markets and commodity booms. While giving due regard to the shocks that have buffeted the Ecuadorean economy both favourably and unfavourably, relying solely on them to explain economic performance would be unduly simplistic. Sustained trends in key variables over long periods also reflect other factors. Evidence from many countries and time periods suggests that such measures as the rate of growth in income, the size and composition of the tradable goods sector, the levels of inflation and unemployment and the relative rates of growth of different sectors of the economy are largely determined by economic policies. Furthermore, while economic policies are an important determinant of long-run trends in economic performance, they also condition the nature and magnitude of the economy’s response to unanticipated shocks in output and prices. Governments can do little to affect the timing or occurrence of these shocks; however, their economic policies will determine, in large part,
0306-9192/91/010034-14
0
1991 Butterworth-Heinemann
Ltd
The importance of trade and exchange rate policies for agriculture in Ecuador
how the adjustment occurs and the effects on output, prices and the real incomes of different groups. An economy with controls on foreign capital flows, with a fixed exchange rate, with a large fiscal deficit or with price controls or large subsidies to major sectors will probably exhibit a different pattern of long-term performance, as well as different short-term responses to unanticipated shocks, from one relying on a different set of economic policies. These policies determine how the effect of shocks will be transmitted to the economy, which sectors will adjust, and how the costs and benefits of adjustment will be distributed, together with the pattern of changes through time. The primary purpose of this article is to analyse the economic growth of Ecuador’s agricultural sector relative to the rest of the economy over the last two decades, but giving emphasis to the economic adjustment of the 1980s. While exogenous shocks to the sector from changes in the weather and world prices undoubtedly had significant short-term impacts, they cannot explain the long-term performance of Ecuadorean agriculture. The key to explaining the long-term sectoral growth trends is the economic policy matrix implemented by the Ecuadorean government and its impacts on production incentives. The remainder of the article, which examines the extent to which the performance of the agricultural sector was a predictable consequence of economic policies, is divided into four parts. In the first section we briefly review the evolution of the economy, and identify a number of periods in Ecuador’s recent economic history. We then consider some of the underlying economic policies that help explain the observed production responses in the major sectors of the economy. In the third section we consider the consequences for the agricultural sector of a complex matrix of trade policies, aimed at subsidizing and taxing various parts of the agricultural sector together with the long-term pursuit of an industrialization strategy based on protection of the import-competing manufacturing sector. The article concludes with a synoptic view of the changes in household incomes resulting from the economic structural adjustment policies implemented in the 1980s.
Performance of the economy The course of economic growth during the period 19.5048 is shown in Figure 1 in terms of annual percentage changes in real gross domestic product (in constant 1975 sucres). We have chosen to call the period 195@73 the ‘traditional’ period because it reflects the importance of traditional agricultural exports from the coastal region. With the surge of petroleum exports in 1973, real economic growth soared to unprecedented levels, qualifying the years 1974430 as the ‘oil boom’ period, The period from 1981 to 1985 was one of economic ‘crisis’ with sharply falling real incomes. The remaining period, from 1986 to 1989, is defined as that of adjustment and ‘recovery’. Despite having one of the highest population growth rates in Latin America, Ecuador’s real GDP per capita grew at an annual rate of 2.3% from 1950 to 1988, significantly above the average of other Andean countries. The evolution of real per capita incomes generated in agriculture and manufacturing (Figure 2) shows a marked contrast between the two sectors. For a long time prior to the boom, the manufacturing sector had been expanding, albeit from a small base.
FOOD POLICY
February
1991
35
The importance of trade and exchange rate pc dicies for agriculture in Ecuador
-4-
Figure 1. Annual percentage changes in real GDP growth, 1950-88.
‘V. Corbo, ‘Problems, development theory and strategies of Latin America’, World Bank, Washington, DC, mimeo, 1986. ‘F.X. Swett, El Mode/o de Desarrollo Agricola: N Caso Ecuatoriano, Corporacibn de Estudios Econ6micos, Guayaquil, 1983.
Figure 2. GDP per capita, (1975 = 100).
36
1965-88
-0”““““““““““““““““” 1951 1956
1961
1966
1971
1976
1981
1986
Ecuador in fact came rather late to the policy of import-substituting industrialization so prevalent throughout Latin America since the second world war.’ Value added in manufacturing rose rapidly in the oil boom period. In the recovery period, however, the absolute decline in real per capita incomes generated in manufacturing contrasts with the modest, but steady, improvement in the agricultural sector. Within the agricultural sector the pattern of growth has varied substantially, depending on the type of commodity and hence the region. The traditional export crops lost ground during the period 196546 (Table 1) in part because of the explicit and implicit taxation that prevailed for decades. The recovery of these exports in the latter part of the 1980s reflects in part the removal of the export taxes. While livestock production benefited from rising internal demand,2 the overall output growth of agriculture was disappointing during 1974-83. This stagnation occurred despite the fact that the government channelled
401 ’ 1965
’
’
’
’ ’ 1970
’
’
’
’ ’ 1975
’
’
’
’ ’ 1980
’
FOOD POLICY
’
’
’ ’ 1985
’
’
February 1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 1. Percentage growth rates of agricultural output per capita (1975 producer prices). Traditional exports
a Livestock 1966-85.
Table 2. Trade-weighted (1965-73 = log). Period
Years
Traditional Boom Crisis Recovery
1966-73 1974-80 1981-85 198&88
exchange
rates ,ndex
100 94 89 162
%.L. Espinel, ‘Transformaciones de la agricultura Ecuatoriana y sus perspectivas; 1970-80’, paper presented to a seminar of ILDIS-FODERUMA, Quito, 26-27 November 1987. “R. Urriola and M. Cuvi, La Agroindustria Alimentaria en el Ecuador en /OS Aiios 80, ILDIS y CEPLAES, Quito, 1986. ‘G.M. Scobie and V. Jardine, National income Dafa for Ecuador: Restructuring for Agricultural Policy Analysis to a Nine Sector Framework, Working Paper EMT.WP.03, Sigma One Corporation, Raleigh, NC, 1988. %ee V. Thomas, Linking Macroeconomic and Agricultural Policies for Adjustment with Growth: The Colombian Experience, Johns Hopkins University Press, Baltimore, MD, 1985; and A. Valdes, ‘impact of trade and macroeconomic policies on agricultural growth: the South American experience’, Economic and Social Progress in Latin America, Inter-American Development Bank, Washington, DC, 1986. 7A.0. Krueger, M. Schiff and A. Valdes, The Political Economy of Agricultural Price Interventions: The Case of Latin America, Johns Hopkins University Press, Baltimore, MD, forthcoming. ‘A.G. Keeler, G.M. Scobie and D.D. Greene, Exchanoe Rates and Foreion Trade Policies ii Ecuador: 1960-1985, Working Paper EMT.WP.06, Sigma One Corporation, Raleigh, NC, 1987.
FOOD POLICY
February
1991
Highland food crops
Coastal crops
Livestock products
Total
2.8 2.6 -14.1 7.4
1.6 1.4 -0.4 6.9
1.9 -2.6 -5.9 5.5
1966-71a
0.1
1972-79 198&83 1984-86’
-2.9 -13.7 6.2
-1.1 -14.2 6.0 -2.6
1985-86=
pi.8
-5.2
3.1
1.4
-0.2
considerable resources in terms of subsidized credit and infrastructural investment towards the sector” and into agricultural processing.4 The decline in per capita production of highland food crops starting in the mid-1960s was accompanied by a substantial increase in Ecuador’s food imports, particularly in the mid-1970s.’
Underlying economic policies The central thesis of this section is that the observed patterns of agricultural sectoral growth in Ecuador have their origins in the economic policies that prevailed. These policies are of two major types.h The first set are those which relate specifically to the agricultural sector; these include price supports and controls, investment in infrastructure, and the provision of credit, research and extension services. The incidence of these policies is seldom uniform across the whole sector and explains in part the differing performance of the subsectors. The second set of policies does not relate directly to the agricultural sector. These policies comprise the whole matrix of trade, exchange rate and macroeconomic policies. Their importance to the performance of the agricultural sector has increasingly become recognized. Where they are unfavourable they can totally negate any positive impact that sectorspecific policies might have had.’ These economy-wide policies assume even greater importance in small, open economies in which a high proportion (if not all) of the agricultural sector is comprised of tradable goods whose domestic prices reflect supply and demand conditions in international markets and the influence of the country’s trade and exchange rate policies. In contrast, non-traded or home goods are those whose domestic prices are determined by the equilibrium of domestic supply and demand. In an economy where there is a high share of tradable goods in total production, policies which affect the exchange rate assume prime importance in determining the performance of the agricultural sector. Ecuador has used a bewildering array of exchange rate regimes and controls aimed at altering the terms at which different commodities are traded.s Table 2 presents the trade-weighted real exchange rate in which the nominal bilateral rates with each of Ecuador’s major trading partners are adjusted for relative inflation rates and summed in accordance with the trade shares. The index shows that in the oil boom period the real trade-weighted exchange rate appreciated with the greatly increased supplies of foreign exchange driving down the sucre price of foreign exchange. The appreciation of the sucre imposed an explicit tax on Ecuadorean exports and an implicit subsidy of Ecuadorean imports. The real appreciation of the sucre came about as a consequence of a policy that maintained a fixed nominal exchange rate, but allowed
The importance of trade and exchange rate policies for agriculture in Ecuador
domestic inflation rates to exceed those of Ecuador’s trading partners. With accelerating inflation and some (albeit insufficient) rises in the nominal sucre price of foreign currencies, the real trade-weighted rate appreciated further during the crisis years 1981-85. Ecuador became more competitive internationally in the period 198688, when a floating exchange rate regime allowed the sucre price of foreign currencies to be determined almost entirely by market forces. The performance of the tradable sector relative to the home goods sector followed a predictable path (Figure 3). Prior to 1973 the rates of growth for agriculture and manufacturing had been comparable. Even with the expansion of petroleum exports, growth in the home goods (non-tradables) sector accelerated during the boom; while in the crisis years real growth rates in all sectors fell to very low levels. The recovery was notably successful in 1987 and 1988, when real growth of the tradable sector exceeded 5% annually and that of the non-traded goods sector fell slightly. This result represents a remarkable restructuring of the economy. The devaluation of the trade-weighted exchange rate stimulated a positive response in the output of the traded goods sector, despite falling international oil prices and the disruption in oil production and exports caused by the earthquake in March 1987. The performances of the agricultural and manufacturing sectors (Figure 4) follow the general pattern of growth in the tradables sector. The superior growth rates of the manufacturing sector up to and retlect the direct protection and including the boom years, however, differential access to financial resources given that sector, in contrast to the taxation of traditional agricultural exports. In the recovery period both these key parts of the tradable sector recovered, and the disparity between the growth of the two sectors was lower than at any time since the mid-1960s, suggesting that a more neutral set of policies emerged from the reforms of the 1980s. The relative performance of the sectors is further analysed by plotting the ratio of value added in the tradable sector to that of home goods together with corresponding relative prices. Obviously, there was a 9-
Q)
i
Figure 3. Relative GDP growth in the tradable (inc petroleum) and nontradable sectors, 1966438.
38
8-
Tradable sector
7
Non-tradable sector
6-
1973-81
1982-86
FOOD POLICY
1987-88
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador
7 6 5 4 3 2
I Figure 4. Relative GDP growth in the agricultural and manufacturing sectors, 1966-88.
0 -I 1966-72
1973-81
1982-86
1987-88
relatively high degree of association between the economic incentives from changes in the real exchange rate and the evolution of the tradable goods sector as a whole (Figure 5) and for the agricultural sector in particular (Figure 6). When the real exchange rate appreciates, as in the period 197441, the relative profitability of the agricultural sector falls. Despite attempts to channel resources to the sector, the overall economic climate was sufficiently unattractive to largely negate the effects of the subsidized credit and infrastructural investments. Following the crisis period there was a steady growth in the output of the agricultural sector relative to the home goods sector, reflecting the success of a structural adjustment
Figure 5. Relative GDP and prices: ratio of traded to home goods, 196588. 1975 = 1
FOOD
POLICY
February
1991
1965
0
Relative
prices
t
Relative
output
1967 1969 1971 1973
1975 1977
1979 1981 1983
1985
1987
39
The importance
of trade and exchange rate policies for agricuhre
in Ecuador
I .30r
+
1.20
I .I5 1.10 I .05 I .oo 0.95
0
Relative
output
0.90
t
Relative
prices
1969
1971 1973
0.85 Figure 6. Relative ratio of agricultural
GDP and prices:
to home goods,
1965-88. 1975 = 1
‘G.M. Scobie and V. Jardine, Macroeconomic Policy, the Real Exchanoe Rate and Agricultural Output in Ecuador, Working Paoer EMT.WP.04. Siama One Corooration, Raleigh, NC, i98i. “Centro de Estudios y Analysis, Rentas Petroleras y Gastos en Renumeraciones, No 4, February 1988.
Figure 7. Real public expenditures 1975 sucres per capita), 1950-88.
40
(in
0.80
1965
1967
1975
1977
1979
1981 1983
1985
1987
programme involving some key policy changes, of which a flexible exchange rate regime was the centrepiece. Clearly the real exchange rate played a central role in setting the incentives for resource allocation, investment and growth in the major sectors of the economy. The real exchange rate was not only affected by external shocks, but also by domestic economic policies in which the level of public expenditures and the associated public sector deficits are of prime importance.” The petroleum boom gave the government an unprecedented amount of revenue, which led to a doubling of real public expenditures in less than four years (Figure 7). Public consumption expenditures rose much more rapidly than public investment. In fact, during the years 1972-85 expenditures on public sector wages amounted to 78.8% of the total income received by the government from petroleum rents and taxes.“’
0
Total
+
Consumption
0
Investment
OTI”“““““““““““““““““’ 1950
1955
1960
1965
1970
1975
1960
FOOD POLICY
1965
February
1991
The importance
“Absorption is the total spending by domestic residents on consumption, investment and government services. “G Abril Ojeda, folirica Monetaria y De-
sar~ollo 7983),
Industrial
en
el Ecuador
(197s
Banco Central del Ecuador, Quito,
1985.
February
1991
rate policies
for
agriculture
in Ecuador
In other words, the bulk of the increased expenditure by the government was comprised of home goods and services. The consequent excess demand for non-traded goods raised their prices, resulting in an appreciation of the real exchange rate. Not only did the government increase its spending based on its share of the petroleum revenues, it also increased the deficit. With its new-found oil wealth as collateral and the ready availability of lowinterest loans in international capital markets, the government’s deficit averaged almost 9% of GDP during the oil boom period (Table 3). Concurrent with this internal imbalance was a growing external imbalance. The current account deficit rose from 3.2% of GDP prior to the oil boom to an annual average of 5.3% during the oil boom period. With the rise in government spending, total absorption” soon exceeded even the expanded levels of national income from petroleum exports; the shortfall was met by increased foreign borrowing. In 1972, prior to the oil boom, foreign borrowing accounted for 4% of total domestic absorption. By 1978, after five years of unprecedented income growth, Ecuador was using foreign borrowing to meet 20% of its total absorption (Figure 8). At the start of the oil boom the foreign debt was US$O.4 billion and servicing costs were 8% of exports. From 1973 to 1981 foreign debt grew at an annual rate of 41%. By 1981 over half the present debt was acquired and servicing of a debt of US$5.9 billion would cost over 70% of export earnings. In interpreting the real burden of the debt, the low price of Ecuadorean paper in secondary markets is an indicator of creditors’ assessment of the likelihood of repayment. If an allowance is made for discounting the nominal debt to its ‘market value’, the true share of borrowing in domestic absorption is much lower (Figure 8). Part of the public sector deficit was financed by credits from the Central Bank. Similar credit lines were used for a number of state-owned enterprises and sector loans at subsidized interest rates.‘* The expansion of the monetary stock that followed was accompanied by an acceleration in the inflation rate (Table 4). The net effect of the macroeconomic and exchange rate policies pursued in the oil boom period was a sharp decline in the output of the agricultural sector relative to home goods. With the change in the international economic conditions starting in 1981 Ecuador faced a serious economic crisis. No significant reserves of foreign exchange had been built up, much of the petroleum revenue had been dissipated in public sector wages, the manufacturing sector was highly protected, and numerous controls on both capital and goods markets impeded savings, misallocated investment and fostered smuggling and misreporting of foreign transactions. The poor economic management of the oil boom revenue had left the country ill-equipped to deal with the impact of the recession in the OECD countries, the dramatic rise in real interest rates and the fall in the external terms of trade (Table 5).
Table 3. Macroeconomic
FOOD POLICY
of trade and exchange
balances (percentage
of GDP).
Period
Years
Internal balance (public sector deficit)
External balance (current account deficit)
Traditional Boom Crisis Recovery
196573 1974-80 1981-85 198-8
-6.4 -8.6 -3.4 -4.6
~3.2 -5.3 -4.9 -11.8
41
The importance of trade and exchange rate policies for agriculture in Ecuador 40
35
30
Figure 8. Foreign borrowing: tage of absorption, 1972-88.
q
Face value
+
Discounted
value
t
percen1972
1974
1976
1978
1980
1982
1984
1986
1988
A lengthy period of stabilization and structural adjustment began in 1981. Over the next four years the public sector deficit was reduced, and even became a small surplus in 1985 (Figure 9). Simultaneously, the current account deficit fell to levels prevailing prior to the oil boom. Severe import restrictions were introduced at the onset of the crisis to stem the demand for scarce foreign exchange. The level of foreign trade interventions fell during 198548, however, as some import restrictions were removed and taxes on traditional exports were reduced. The reduced demand for home goods, because of the reduction in public deficits, and the reforms to the trade and exchange rate regimes contributed to a significant improvement in the real exchange rates for tradables, particularly agricultural goods. In the latter years of the recovery period the public deficit was again allowed to expand, with almost half the total domestic credit of the financial system represented by public sector credits at the Central Bank (Figure 9). The associated excess growth of the nominal money stock led to a drastic acceleration in inflation in 1988 and 1989. In August 1988 a crawling peg exchange rate policy was adopted in an attempt to prevent the sucre from overvaluing; however, the real exchange rate tended to appreciate in 1989, because of the high relative inflation rate vis-a-vis Ecuador’s major trading partners. Failure to maintain purchasing power parity would inevitably result in taxing the tradable sector once again. In addition, the protection of the industrial sector resulted in an implicit taxation of agriculture, emphasizing the overall negative effect of macroeconomic policies on agricultural growth.
Table 4. Public sector credit, money growth and inflation.
a Calculated as the rate of expansion of the money stock (M2) less the sum of real income and population growth.
42
Period
Years
Public sector credit (% total credit)
Excess money growth” (average annual %)
Inflation (average annual %)
Traditional Boom Crisis Recovery
1952-73 1974-80 1981-86 1987-88
16.2 18.2 16.4 44.8
3.7 15.4 21.3 45.9
3.7 13.8 27.2 43.9
FOOD POLICY
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 5. Exogenous shocks. Terms of trade”
Real interest rates0
a LIBOR less US CPI. b Intersectoral import to export prices excluding petroleum.
Years
%
Years
1975 = loo
1974-60 1981-66 1987-88
-1.3 9.1 4.4
196573 1974-60 1981-89
0.59 1.25 1.07
Burden of protection Trade policies designed to protect or assist one sector of the economy have been shown to have effects, often unintended, on other sectors. Protection to one sector comes inevitably at the expense of ‘disprotecting’ other sectors. Trade policies designed to stimulate the industrial sector by tariffs and other impediments to imports distort the economic incentives facing different sectors by changing relative prices in the economy. Typically, agriculture bears part of the costs of industrial protection, because import protection imposes an implicit tax on agriculture. The imports that are used in agricultural production are made more expensive by tariffs that are levied to protect domestic producers of import substitutes. Furthermore, the tradable sector is reduced, as the cost of home goods is raised. Because the prices of tradable products are set in international markets, any increased costs which are imposed on agriculture cannot be passed on by producers. Given that agriculture in Ecuador is a highly tradable sector it is particularly susceptible to the impact of trade policies which directly or indirectly affect the incentives to produce and consume agricultural products. Ecuador, like many other countries in Latin America, has pursued a development strategy in which the protection of the industrial sector has been a central element. Trade policy (consisting of tariffs, import licences, prior deposits for imports, and quotas) has been accompanied by favourable tax and credit policies to accelerate the growth of the manufacturing sector. This strategy, initiated in the late 195Os, proceeded at a modest pace in the 1960s. A more vigorous policy was pursued following the leap in national income that accompanied the oil boom starting in 1973 (see Table 6).
q n
-IL?-l3_14-
Figure 9. Private and public savings as percentages of GDP, 1979-89.
FOOD POLICY
February
1991
-15
’
1980
Public savings Private
savings
I
I
I
I
I
1981
1982
1983
1984
1985
1986
1987
1988
43
The importance
of trade and exchunge
rate pf Cdicie.s for ugriculture
Table 6. index of openness (1975 = 100). Period
Years
Index’
Traditional Boom
196573 1974-80
62.5 92.6
Crisis Recovery
1981-83 1984-89
73.8 92.1
a Computed as the sum of actual X + M relative to GDP.
13G.M. Scobie and V. Jardine, ‘Efectos de las politicas macroecon6micas de adjuste sobre el sector agricola y alimentario del Ecuador’, in Ajuste Macroecondmico y Sector Agropecuario en America Latina, lnstituto Americano de Cooperacibn para la Agricultura, Buenos Aires, 1989. 141bid.
in Ecuador
The true effective protection of a sector is a measure of the proportional change in value added resulting from protection. This measure combines the true nominal protection to each sector with the effects of tariffs on intermediate inputs; it can be used to estimate the actual gains and losses from trade intervention. The respective gains and losses are distributed among the primary factors of production, enabling the effect of trade policy on the returns to labour and capital in each sector to be estimated. The pattern of taxes and subsidies that prevailed in Ecuador in several sectors was used to evaluate the impact of simulated policy reforms on changes in value added and the respective gains and losses.” The basic agricultural exports (axb) were explicitly taxed, while the agricultural processing sector (axp) was protected as a deliberate strategy to diversify output and add domestic value. Agricultural coastal production (amc) was protected through input subsidies, cheap credit, infrastructural investment and barriers to imports, including explicit prohibition. In contrast, agriculture in the Andean region (urns) was implicitly taxed through subsidized imports (wheat). price controls (milk) and less access to subsidized inputs (eg credit and irrigation water). The remaining tradable sectors are the petroleum sector (FZX), which had a high equivalent export tax. and the manufacturing sector (nm), with its long history of protectionist policies (including tariffs, licensing, prohibition, multiple exchange rates and prior deposit schemes). Within each sector, trade policies create transfers between producers (exporting and import-competing), consumers and government.‘” The net intersectoral transfers from producers to consumers resulting from the pattern of intervention described above indicate that consumers paid higher prices for manufacture and agricultural importable goods produced on the coast (Table 7). Exporters of basic agricultural foods would lose 42.5% of sectoral GDP as a result of taxes on exportables, while import-competing producers would lose 68.7% of sectoral GDP as a result of the implicit tax on highland agriculture. The transfers into the manufacturing sector would be more than offset by substantial transfers out of agriculture. Only the coastal agriculture sector would benefit from a very small net gain. The transfers would be dominated by the petroleum sector because of its relative importance and the high tax rate. Even with the removal of sector-specific taxes and subsidies in agriculture, an overall trade reform policy would continue to result in substantial transfers out of the agricultural sectors because of the persistence of protection to manufacturing. The net change in value added by labour in each of the sectors resulting from trade policy reform is shown in Table 8. Labour in the
Table 7. Intersectoral
effects of trade policy reforms: transfers to consumers. Typical trade policies
sector axb =P amc am.5 “X “ITI Total
44
Nominal tariffs
Transfers as % of sectoral GDP
-0.15 0.20 0.30
-1.1
-0.10 -0.50
68.7 97.7
0.40
42.5 27.1
-21.5
Overall trade policy reform Nominal tariffs
Transfers as % of sectoral GDP
0.00 0.00 0.00 0.00 ~0.25 0.20
16.0 48.6 24.7 29.1 55.2 -11.8
38.8
26.5
FOOD POLICY
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador Table 8. Change in returns to labour from overall trade policy reform. Sector
% change
axb -=P
16.6 17.1 16.4 16.5 56.5 -12.9
0.1 -0.3 -0.1 0.1 66.4 -2.3
14.9
20.6
amc ams “X “f7I
Total
As % of sectoral GDP
protected manufacturing sector would suffer a decline of almost 13%, while returns to labour in the agricultural sectors would rise by around 17%. A reduction in taxes on petroleum exports would increase the returns to labour in that sector significantly. The costs to the agricultural sector of industrial protection have been substantial. The agricultural sector of Ecuador is a major source of income, employment and foreign exchange. It has a vital role to play in restoring sustainable growth to an economy suffering from nearly a decade of natural and economic shocks. Clearly, the existing pattern of taxes and subsidies creates significant transfers between different groups of producers and consumers. The reform of that pattern, which reflects a complex set of historical and political forces,‘” will depend on the resolution of inherent conflicts between different groups of gainers and losers.
Agricultural incomes and improved incentives
15A. de Janvry, A. Fargiex and E. Sadoulet, ‘Economic, welfare and political consequences of stabilization policies: an analysis for Ecuador and Latin America’, monograph prepared for the Development Centre, Organization for Economic Cooperation and Development, Paris, by the University of California, Berkeley, CA, 1989.
Recently agriculture appears to have been reversing a long-term trend of decline in labour absorption, and employment levels in this sector have returned to the levels of 1980. This appears to be the result of a significant increase in labour productivity in agriculture, which in turn seems to have resulted from the improvements in the domestic terms of trade facing agriculture. The improvement in relative prices for agriculture was achieved through increases in the real exchange rate. This policy of depreciating the real exchange rate was pursued throughout the 1980s as the principal means of macroeconomic adjustment to the deterioration in the country’s international terms of trade. Agriculture’s response to the improvements in the exchange rate regime is the sole bright spot in the performance of the economy during the 1980s. The data in Table 9 indicate a major redistribution of income away from urban households to rural households during the period 1982-M. The value added per person in agriculture increased by 22.2%, while that in the industrial and service sectors declined by 7.6% and 24%, respectively. Agricultural output increased steadily throughout the decade (except in 1983 with the El Nina floods and drought) as a result of the improved incentives in relative domestic prices and in spite of decreases in world prices of some of Ecuador’s traditional agricultural exports. In particular, the production of Ecuador’s importable food commodities responded positively to higher relative domestic prices, especially in the mid-1980s. The food price increases, however, accounted for only about a third of the changes in relative incomes of the sectors shown in Table 9. The decreases in the real incomes of the
Table 9. Evolution of sectoral labour productivity (1982-68): Sucres. Agriculture Persons (‘000s)
1982 1963 1964 1965 1966 1967 1988
FOOD POLICY
February
1991
1199 1190 1 107 1 183 1 175 1 169 1 204
sectoral value added in ‘000 1975
VA/person
VA/person
27 25 26 26 30 32 34
321 331 341 348 360 369 379
59810 58 299 55 762 54 648 52 043 54 122 55 290
928 023 651 468 510 405 117
Services
Industry Persons (‘000s)
Persons (‘000s) 1339
1 424 1 507 1 597 1 669 1 762 1 641
VNperson 65 57 56 54 52 50 49
013 527 202 669 727 977 409
45
The importance of trade and exchange rate policies for agriculture in Ecuador Table 10.Realper capitaincomes in Ecuador(1975-88)by populationgroups in 1975 Sucres. Sierra
Quito
1975 1976 1977 1970 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988
16D. Hachette and D.L. Franklin, Employment and Incomes in Ecuador: A Macroeconomic Context, Sigma One Corporation, Durham, NC, 1990. “Ibid.
Guayaquil
Coast
Upper
Lower
Urban
Rural
Upper
Lower
Urban
Rural
45537 47482 49961 51 092 50697 53620 53563 51 268 44018 41 395 41 437 41 068 41747 40417
8896 9372 9879 10213 10223 10855 10875 10408 8837 8270 8242 8185 8253 8207
13968 14677 15361 15804 15768 17041 17166 16298 13395 12324 12397 12402 12703 12668
8160 8248 8 521 8820 0984 9975 10530 10392 9090 8801 9113 9203 9789 9907
59 298 64013 68661 68881 68877 70803 69441 66562 57397 55062 54451 55235 55173 56275
10507 11 268 11 989 12186 12265 12766 12662 12139 10359 9839 9716 9787 9761 10081
19 388 21 053 22665 23340 23571 25740 25769 24829 20940 19722 20177 20647 21 535 21 514
8830 10067 10832 11194 11738 12519 13336 13255 11 892 12099 12714 13308 14309 13835
industrial and service sectors are primarily attributable to the lower incentives resulting from falling world oil prices, the curtailment of international debt financing and declining government revenues. The rigidities in Ecuador’s labour and capital markets have prolonged the decline in real incomes in the non-agricultural sectors and accentuated the negative effects of the economic shocks on the urban population.lh Tables 10 and 11 present the evolution of incomes in per capita terms for specific population groups for the period 1975-88. These estimates, based on the data of the National Expenditure Surveys (Urban, 1976, and Rural, 1979), allocate annual sectoral value added to the households in each of eight population groups. The nominal incomes were converted to real terms by deflating with a cost-of-living index that was calculated specifically for each population group. The results measure the real per capita incomes or purchasing power of the households in each population group.” The data in these tables show the rise in per capita incomes for all population groups resulting from the oil boom in the period 1975-80. Per capita incomes then fall in 1982-83 as a combined result of the external economic crisis and the El Nifio disaster. Significantly, rural household incomes, especially on the coast, began to recover in 1984-85 in response to the economy-wide structural reforms, primarily the exchange rate policy. Through 1988 rural incomes continued to improve as a result of an exchange rate policy which attempted to maintain international competitiveness for the tradable sectors through the
Table 11. Real per capitaincomes in Ecuador (1975-88)by populationgroup (1975 = 100). Sierra
1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988
46
Guayaquil
Upper
Lower
Urban
Rural
Upper
Lower
Urban
Rural
100 104 110 112 111 118 118 113 97 91 91 90 92 89
100 105 111 115 115 122 122 117 99 93 93 92 93 92
100 105 110 113 113 122 123 117 96 88 89 89 91 91
100 101 104 108 110 122 129 127 111 108 112 113 120 121
100 108 116 116 116 119 117 112 97 93 92 93 93 95
100 107 114 116 117 122 121 116 99 94 93 93 93 96
100 109 117 120 122 131 133 128 108 102 104 106 111 111
100 114 123 127 133 142 151 150 135 137 144 151 162 157
FOOD POLICY
February
1991
The importance of trade and exchange rate policies for agriculture in Ecuador
government’s continuing effort to prevent the real exchange rate from appreciating. The data also confirm the significant decrease in real per capita incomes for the urban population, particularly in Quito and the Sierra. In general, the results presented here are consistent with those of Franklin, Leonard and Valdes for Peru.‘s Both studies show that the principal benefits of economic structural reform are captured by the producers of tradables, particularly agricultural households. The deof urban incomes cannot be attributed entirely to the ‘%ee D.L. Franklin, J.B. Leonard and A. terioration Valdes, ‘Consumptioneffects of agricultu- exchange rate reforms; however, urban wages must fall relative to rural ral policies: Peru’, in Trade Policy, Agriwages if the exchange rate reform is to be effective after a period of
cultural Prices, and Food Consumption: An Economy-Wide Perspective, Sigma One
Corporation,Durham, NC, 1985.
FOOD POLICY
February
1991
maintaining an overvalued imported foods.
exchange
rate and consumer
subsidies on
47