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El Salvador - Economy Monetary and Credit Policies
Monetary and credit policies
Between 1979 and 1982, El Salvador experienced a 23 percent fall in real per capita GDP, a 35 percent decline in export earnings, and a sharp rise in its unemployment rate to an estimated 27 percent. External and internal imbalance convinced the government to stabilize the situation under the guidance of the IMF. The government targeted monetary growth and other areas and, according to the IMF, accomplished most of its goals. In 1986, after a moderate reactivation of the economy in 1984 and 1985, the government adopted a short-term adjustment program to correct remaining internal and external imbalances. This program included the following changes: unification of the exchange rate, exchange and import restrictions, a more aggressive export promotion program, new fiscal revenue-generating mechanisms, agrarian reforms, a macroeconomic and external debt management committee, and strict monetary policies to curb the country's accelerating inflation rate, a major goal of government policy.
The rate of inflation in El Salvador was determined largely by the conduct of monetary policy and by variations in exchange rates and wages. Because of a net decline in capital formation and a major devaluation of the colon, inflation doubled during the 1980s relative to the 1965-80 period. El Salvador maintained an average annual inflation rate of 14.9 percent between 1980 and 1986, compared with 7 percent per year between 1965 and 1980.
Throughout the 1980s, the government employed monetary aggregate targets, price controls, wage controls, and exchange rate freezes as mechanisms to avoid accelerated price increases. On January 1, 1981, following a surge in wholesale and consumer price inflation, the government decreed a price freeze on basic goods and services. Efforts by the Regulatory Supply Institute (Instituto Regulador de Abastecimientos--IRA) to control prices through market intervention had failed to arrest the price rises for certain necessities, and prices seemed to be out of control. The government's price freeze, in 1981 was accompanied by an intended six-month wage freeze, which actually lasted until the end of 1983. Over the 1981-83 period, real wages dropped by 29 percent in the private sector and 26 percent in the public sector.
In response to the increase in the number of transactions occurring in the parallel market as a result of the unofficial depreciation of the colon, 1985 price controls were relaxed. The result was a sudden increase in consumer price inflation from 12 percent to 22 percent, which by the end of 1985 had accelerated to a 32 percent annual rate.
When El Salvador unified its exchange rate in 1986, the price of some goods, such as oil derivatives, increased by 50 percent, while others, such as foodstuffs and clothing, held constant. Since 1986 some price controls have been lifted, allowing prices to reflect market forces. In 1986 inflation rose to 30 percent by year's end but declined to 27 percent in 1987. Continued wage controls through government intervention in employer-labor wage negotiations, an officially fixed exchange rate since 1986, and slow monetary growth ostensibly tamed the country's high inflation rate. Overall, the major results of the government's anti-inflation program were slower price inflation and real wage losses for workers.
The Central Reserve Bank of El Salvador (Banco Central de Reserva de El Salvador--BCR) set interest rates and rationed credit, generally targeting available capital for high-priority government projects. The Central Reserve Bank also regulated--and often executed directly--transactions involving foreign exchange, under a 1980 regulation to curb capital flight and control monetary supply. Small businesses, especially export businesses, were granted a majority portion of the credit, often at preferential low interest rates.
The Salvadoran government pursued restrictive monetary policies during 1987 to satisfy IMF recommendations for improving the Salvadoran balance of payments and for controlling inflation. By restricting credit to the private sector and to public enterprises, the government had hoped to curb demand, which in turn would have reduced imports and saved precious foreign exchange. In fact, despite the government's austerity program, imports increased by 9 percent in 1987. Furthermore, the government hoped to slow the monetary expansion that had tripled the money supply between 1979 and 1986 to 15 percent during 1987.
The government provided credit to the industrial sector through the National Industrial Development Bank (Banco Nacional de Fomento Industrial--Banafi), which was created in 1981 to replace the former Salvadoran Institute of Industrial Development (Instituto Salvadoreno de Fomento Industrial--Insafi). Banafi provided credit to promising new industries that were not able to obtain credit from other sources.
You can read more regarding this subject on the following websites:
El Salvador and the International Monetary Fund - Wikipedia
El Salvador Country Studies index
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