Chile is widely regarded as having the best-run economy in the whole Latin America. For three decades, it has been the fastest-growing economy in the region. Poverty has fallen dramatically, and living standards have soared.
Since the country returned to democracy in 1990, successive left-leaning governments have combined a free-market economy with prudent government spending. Instead of wildly spending the country’s vast copper reserves – it has one-third of the world’s supplies – governments have saved a lot of these funds. As a result, Chile has one of the lowest government debt to economic output ratios in Latin America. At the same time, its inflation and interest rates are very low. Needless to say that Chile has a strong credit rating, which makes it relatively easy and cheap for it to borrow any funds it needs on the international markets.
But where exactly this economic prudence has come from and how it became a “Latin Tiger”? Answer: their modern thinking (“free market”) economists, mostly educated at the University of Chicago under Nobel Prize economics professor Milton Friedman.
“Pinochet had no clue about economics,” one of the “Chicago Boys” recalls, “and our country was in a desperate situation.” But when Pinochet asked Friedman, who had helped mold Chicago’s economics department, to provide solutions for hyperinflation, the great economist proposed just the right cure: monetary control.
“The economic solutions we provided for Chile had nothing extraordinary about them,” Chicago Boy Lüders said about the Miracle of Chile. “We privatized the companies, which had been nationalized by the Socialist Allende regime. We stabilized the currency. We opened the borders to trade. The strong Chilean tradition of entrepreneurship took over from there.”
Pension reform is the best-known economic reform in Chile. Ever since the early 1980s, workers have been allowed to put 10 percent of their income into a personal retirement account. This system, implemented by José Piñera, has been remarkably successful, reducing the burden of taxes and spending and increasing saving and investment, while also producing a 50-100 percent increase in retirement benefits. Chile is now a nation of capitalists.
Regarding business taxation, retained profits used to be taxed at almost 50 percent, but the tax rate was dropped to 10 percent in 1984, which eliminated a big barrier to production and freed businesses to invest more. Chile’s score for size of government shows significant improvement since 1975. The pension reform presumably helped, as did reforms that lowered the top income tax rate by almost half.
Not surprisingly, lower tax rates generated many benefits. Chile cut out many of the loopholes that favored certain interest groups and encouraged inefficient economic choices. Tax evasion dropped significantly because businesses didn’t have to pay as much and their taxes became less complicated. Indeed, the government collected more total revenue because of the lower tax evasion.
Its massive privatization plan generated substantial benefits. Some of the major sales included the fuel distributor Copec, the main electric company Endesa, telephone and steel companies, and some of the banks, which took on private investors. The newly privatized companies had much more opportunity for development and expansion, exports increased, and new enterprises began to grow.
A free market economy
The regulatory burden also was decreased. The World Bank reports that it used to take up to 27 days to begin a new business in Chile; it now takes seven. Investment rose significantly, as the domestic savings did. As businesses experienced greater freedom to expand and develop, Chile saw more innovation with higher profits and savings.
In other words, the “Milton Friedmanesque” reforms helped create South America’s most prosperous nation. The lesson from Chile is that free markets and small government are a recipe for prosperity.