Chile - The Return to Democracy, 1990

The return to democracy, 1990

On March 11, 1990, General Pinochet handed the presidency of Chile to Patricio Aylwin. When Aylwin's Coalition of Parties for Democracy (Concertación de Partidos por la Democracia--CPD) government took over, Chile had the best performing economy in Latin America.

Continuity in Economic Policy

For years, opponents of the Pinochet government had argued that its economic program was based on ideas alien to the Chilean tradition. In early 1990, analysts, scholars, stockbrokers, and politicians throughout the world wondered if the new democratic government of President Aylwin would maintain some, or for that matter any, of the most important aspects of the military government's market-oriented policies, or if the CPD government would reform the system along the lines of the decade-long criticisms of the opposition. What made this question particularly interesting was that at the time of the restoration of democracy, Chile was considered by many, including international institutions such as the World Bank and the IMF, as a premier example of the way the adjustment process after the debt crisis should be carried out. A number of analysts asked themselves how the advent of democracy would affect Chile's economic policy. In particular, analysts were concerned about the new government's attitude toward the free price system and Chile's new openness to international competition.

Regarding price competition, the Aylwin program's position was stated as follows: "We affirm that within an efficient economic policy there is no role for price controls." In discussing the role of the market, the program noted: "The market cannot be replaced as a mechanism for consumers to articulate their preferences." These views were a far cry from those sustained by Frei's Christian Democratic government of the 1960s and, especially, from those of Allende's UP government of 1970-73. They were also substantially different from those of the new market critics of the 1970s and mid-1980s. Indeed, the CPD program conveyed that there had been a significant convergence of domestic views on the role of markets in the economic process.

Addressing the opening of the economy to the rest of the world, the CPD program stated: "The most important instruments of the external sector policy are the maintenance of a stable high real exchange rate and a reasonably low import tariff" [emphasis added]. This statement suggests that from its onset the Aylwin government was not prepared to implement major changes to one of the most fundamental features of Chile's new economics.

Emphasis on Social Programs

In seeking funding for new social programs, the Aylwin government made clear immediately that the only way of increasing social spending without generating unsustainable macroeconomic pressures was by finding secure sources of government revenue. Economists associated with Alywin's CPD coalition calculated in 1989 that in order to implement their antipoverty social programs, annual funds on the order of 4 percent of GDP would be required. They argued that these resources could be obtained through a combination of expenditures, reallocation, foreign aid, and increased tax revenues. In order to implement these programs rapidly, in April 1990 President Aylwin submitted to the newly elected Congress a legislative proposal aimed at reforming the tax system. The main features of the package were the following: the corporate income-tax rate was to be increased temporarily from 10 percent to 15 percent for 1991-93; and the tax base, which in 1985 had been defined as distributed profits, was to be broadened to include total profits. The progressiveness of the personal income tax was to be increased by reducing the income level at which the maximum rate was applicable; and the rate of the value-added tax ( VAT) would be increased to 18 percent from 16 percent. During most of the Pinochet government, the VAT rate had been 20 percent. It was only reduced to 16 percent prior to the electoral contest before the plebiscite on Pinochet's continuation in power. After intense and often frustrating negotiations between the Aylwin administration and the opposition, the tax reform was approved in late 1990.

Pinochet's labor reforms of 1978-79 had been, from the beginning, strongly criticized by the opponents of the military regime. Although the 1979 decrees had modernized labor relations in some areas, they had also severely limited the activities of unions and, as initially conceived, had made real wage rates unusually rigid. Reforming the labor plan was an important priority of the new democratic government.

After the support of some opposition senators was obtained, a mild labor reform was passed in 1991. An important characteristic of Chile's constitution of 1980 is that it stipulates the seating of nine nonelected senators in the legislature's upper house, as well as former presidents and former justices of the Supreme Court. The CPD coalition lacked a parliamentary majority because the nonelected senators had been appointed by Pinochet. Consequently, in order to approve legislation it had to obtain support from the opposition for some measures.

The new labor legislation restricted the causes for firing employees, increased the compensation that firms had to pay to lay off employees, and restricted employers' recourse to lockouts. Although there was little doubt that these new regulations had increased the cost of labor, it was too early to know the effect of the new legislation on job creation. It was known, however, that the reform of labor laws by a democratically elected government had greatly legitimated the modernization of labor relations. In a way, the concept of labor-market flexibility had ceased to be associated exclusively with the authoritarian military regime and had become generally accepted by the population at large.

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