No Short-cuts to Development Remarks by Lawrence H. Summers Deputy Secretary of the Treasury To the IDB Conference on Development Thinking and Practice

Click here to read it. From 1996. Excerpt:

"I am honored to have this opportunity to address so distinguished a group of people concerned about development thinking and practice. I would like to thank President Iglesias for inviting me to speak.

Consider for a moment the purpose of development. It is not just about low inflation rates or vibrant stock markets, although these are important. The ultimate objective of development is improved living standards for all people.

In the last 25 years we have seen unprecedented progress in improving living conditions. Average infant mortality rates, for example, have been nearly halved, and average per capita incomes have doubled. But there has been enormous diversity of experience. Among regions, striking dissimilarities have emerged.

Per capita growth rates in Asia reached an impressive 7% last year, while in Africa the average has been just 1-2% per year in good years.

Income distribution in East Asia is much more equitable than in Latin America. In Indonesia, the richest fifth of the population averaged about 5 times more income than the poorest fifth, while in Brazil the ratio is 32 and in Guatemala it is 30.

In 1994, the average infant mortality rate in Africa was more than double the infant mortality rates in both East Asia and Latin America.

What policies have shaped these disparate outcomes? And what have we learned as a result?

There are no short-cuts...

It’s clear that there are no short-cuts in development. We have learned some profound lessons from those countries that have tried them.

The first is that inflation produces no enduring output benefit but carries a wide variety of costs. Inflation corrodes markets, discouraging the accumulation of capital and distorting its allocation. Inflation tends to hurt the poor most -- either they are ravaged by the inflation tax or they get ejected from the formal economy entirely.

And inflation undermines democracy, as Latin America has sadly seen during the course of the 20th century. Citizens will not trust governments that cannot maintain the value of their currencies and protect their savings. And governments have resorted to progressively more authoritarian measures to try maintain control while avoiding genuine economic adjustment.

Let me be clear -- I am against a high rate of inflation not because it is morally bad, or because it hurts bond-holders. Rather, experience has shown that in countries where inflation is 30% or higher, the poor stay poor.

The second lesson is that price and exchange controls inevitably create harmful economic distortions. Both the distortions and the economic damage get worse with time. Take the case of exchange controls. In most instances, they lead to layer after layer of restrictions on imports and capital flows. And when they are finally lifted, as inevitably they are, price shocks burst onto the population. These often hurt the poor most, because they have the thinnest, most thread-bare cushion for absorbing adjustments to relative prices.

Meanwhile, attempts to preserve price controls induce otherwise avoidable rationing schemes and goods shortages. And when goods disappear from official markets -- except perhaps those designated for privileged consumers -- they reappear in unofficial ones, but at much higher prices. Anyone who lived in Eastern Europe during the last 50 years, or in Cuba today, understands this phenomenon well.

A third lesson is that closed markets lock in inefficiencies and, in the long run, suppress real wages. Import substitution has been discredited as an approach to development. It has led to protection that often has been used not to nurture nascent industries but to safeguard the interests of the wealthy and well-connected.

I would even include in this last group the relatively well-off labor groups that work for protected enterprises. Not only have other workers been deprived of opportunities for employment in industries outside the system of protection, but all consumers have endured higher prices and inferior products and services.

A fourth lesson is that state-run enterprises, including state-owned banks, have a disappointing record of performance. While there are exceptions, the reality is that politics usually intrude in the operation of a public enterprise, and efficiency, financial performance and quality of service are often sacrificed.

That is why governments around the world have already shed many state-owned enterprises. The results are beginning to show. Companies that were chronic drains on public treasuries now pay taxes and plow profits back into productive investment. And services to the people improve -- the lights stay on, the phones stay connected, buses operate, the water is kept clean. Basic public services matter most to those who can’t afford to buy themselves generators or water tanks, and who depend on public transportation to get to work.

A fifth lesson is that excessive and inappropriate regulation can strangle an economy and corrupt markets. Even if they start small and are well-intentioned, regulations tend to propagate, as both the regulated and the regulator start to see mutual advantages in their relationship. Moreover, when regulation becomes pervasive, business decision-making shifts to governments, and political entrepreneurship displaces economic entrepreneurship. The poor and politically powerless don’t stand a chance when governments literally rule them out of the formal economic system.

To boil down these five lessons, we must: One, avoid inflation -- macro stabilization is an essential first step; Two, let markets set prices for goods, services and currencies; Three, open trade regimes and allow economic integration; Four, privatize state-owned companies; Five, reduce the size of government by eliminating excessive regulation."