Macroeconomic Stability and Income Inequality

Sixteen years of military rule under General Augusto Pinochet had produced many changes in the economic picture of Chile; some were for the better, some were not. Now, sixteen years after the military ousted the last populist government in Chile, Arturo was once again in a position to influence economic policies.
Chile had changed since the military takeover in 1973. After some rough economic times, the economy posted strong gains in the late 1980s. Real GDP growth had averaged 6.2 percent per year, unemployment fell to 6.3 percent from a peak of 30 percent in 1982, and export growth surged. However, sixteen years of conservative economic policies and authoritarian rule had taken their toll on the working class, almost half of the population was living below the poverty line, and real wages remained 19 percent below their 1970 level. Income inequality had worsened, especially in the first decade of the Pinochet regime, when the poor had seen their wages stagnate while social spending had fallen drastically. It is now 1990 and President Patricio Aylwin, a centrist, is the head of a center-left coalition known as “Concertacion”. Chileans, while satisfied with recent macroeconomic successes, have become concerned about poverty; in fact, the poverty issue and low income levels were critical in compelling Pinochet to allow the plebiscite of October 1988 that cleared the way for the Presidential and Congressional elections in December 1989. As Chile’s first democratically elected President in sixteen years, Aylwin must deliver to those treated worst during the prolonged adjustment process of the 1980s. At the same time, he must tread carefully — he has a diverse coalition, the right still controls enough seats in the Senate to block policy changes, and General Pinochet has refused to relinquish control of the military.

Arturo’s task, as President Aylwin’s advisor, is to devise a strategy to reduce income inequality rapidly without sacrificing the macroeconomic gains of the military regime.

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A country of islanders.
Chile, a country stretching along 2600 miles of the Pacific coast of South America, is abundantly endowed with natural resources. It is the world’s largest producer and exporter of copper: It produces 24 percent of world output of copper ore and CODELCO, the state-owned copper corporation, holds about 20 percent of the world’s known copper reserves. There are also substantial deposits of nitrates and of iron. Arable land is appropriate for the production of fruits, vegetables and wine, while there are as well substantial forested areas for timber exploitation. With a population of just over 13 million, its resources in these areas have been in excess of the domestic needs. Chile has as a consequence been oriented from the beginning toward foreign trade and international markets. As political scientist Federico Gil states, “the Chilean people … are in reality islanders”. This international dependence is heightened by the relative shortage of crude oil deposits within Chile.

In 1970 Salvador Allende was elected President on a populist platform. His Unidad Popular coalition had the goal of transforming Chile into a socialist society. The socialist experiment was marked by property confiscations, economic mismanagement and general chaos, and ended with Allende’s death during the 1973 military takeover led by General Augusto Pinochet. Pinochet liberalized the economy to increase the role of markets and privatized many of the firms taken over by the Allende government. In 1989, Pinochet, after losing a plebiscite, allowed free elections to be held. Patricio Aylwin, a centrist who welcomed the 1973 coup — he was from the first a determined enemy of Allende’s socialist policies — was elected President. Aylwin heads a coalition of 15 center-left parties, has cabinet members who took part in Allende’s government, and recognizes the need to include the right in the governing process.

The Economy under Allende: 1970-1973
Unequal income distribution is not a new issue for Chilean democrats; in 1970, Allende’s economic advisors considered it to be the most serious problem faced by the country. Their solution involved revolutionary reforms — the nationalization of the mining, banking and agricultural sectors and much of the manufacturing sector — along with a policy of expansionary aggregate demand. It was thought at the time that there was sufficient excess capacity in the economy that aggregate demand could be increased without sparking inflation. In 1971 there were generalized wage increases, higher rates of money creation and significantly higher government expenditure.

Under Allende the government’s payroll swelled — between 1970 and 1972 public sector employment grew at an average of 11.4 percent per year. Unions were very powerful and able to negotiate wages for entire industries. Labor law was highly protective during Allende’s regime, it was difficult to lay off workers, severance costs were high, and strikes could continue indefinitely. Also, wages were generally adjusted 100 percent to past inflation.

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