The Chilean Enigma
by robert looney
bob looney teaches economics at the Naval Postgraduate School in California.
Published April 13, 2023
Chile’s economic performance over the past four decades, often dubbed the “Chilean Miracle,” is a paradox of sorts. Since the early 1990s, Chile has been an exception on a continent known for economic mismanagement. While it hardly excuses former dictator Augusto Pinochet’s myriad faults — true crimes against humanity — his radical turn from socialism to a technocrat-managed free market system did set the stage for Chile to develop rapidly from a relatively poor mineral-exporting economy into a prosperous and diversified one. By 1998 Chile had achieved the highest per capita income (calculated in terms of purchasing power) in Latin America along with substantial reductions in deep poverty.
However, despite these successes, the economy hardly made a dent in income and wealth inequality (which was very high even by Latin American standards). Indeed, Chile was also unique in Latin America for exhibiting relatively low levels of social conflict in spite of severe inequality.
A model initially developed by Albert Hirschman, the German-American economist, provides a way to think about the Chilean paradox. In this model, people in rapidly developing economies become tolerant of income inequality, expecting the income gap to fall later. However, with growth slowing and consumption shifting to expensive services not subsidized by the state, many lower-middle income Chilean families face crippling debts from education and healthcare. And here’s the kicker: little to show for it in terms of socioeconomic mobility.
Many Chileans blame the economic system (now managed by a democratically elected government) for their plight: violent protests in late October 2019 were almost certainly brought on by the contrast between expectations of mobility and the reality of formidable barriers to change. This explanation fits well with the Hirschman hypothesis. For while per capita income grew at an annual rate of 4.4 percent in the 1990s, giving relatively poor Chileans reason to hope for better times, the rate tailed off to 3.1 percent from 2000 to 2015 and a meager 0.7 percent from 2016 to 2022.
For many Chileans this is no place to be stuck. From 2010 to 2021, the income share of the poorest 40 percent was barely double that of the top 1 percent. In 2019, 64,000 adults in Chile over age 18 held a net worth of over $1 million. In contrast, approximately 5.1 million adults averaged a net worth of less than $10,000.
The protesters advanced a diverse array of demands, everything from enhanced labor rights to education reform to the nationalization of energy public services. To get from here to there they demanded a new constitution that would, among many other things, unmoor the economy from its free-market anchor to become a welfare state with much more direct government involvement.
A New Constitution
Actually, calls to replace the country’s constitution date almost to its adoption in 1980, when Pinochet locked in free markets. While lawmakers did amend the constitution in 1988 at the end of the dictatorship and again in 2005, it didn’t have much impact on the economic prospects of the middle class. Conservatives view the constitution as facilitating the pro-growth policies designed by Nobel Prize winner Milton Friedman and the young economists he groomed at the University of Chicago (aka the “Chicago Boys“). Not surprisingly, the left views the constitution as an extension of the Pinochet regime (though the rule of law now matters). More tangibly, they see it as an impediment to labor protections and the creation of a stronger social safety net.
So did a majority of Chileans, who voted overwhelmingly for a convention to draft a new constitution. But the convention delegates apparently gave them a lot more than they asked for. If it had been approved in a national vote, the draft would have transformed Chile into a Scandinavian-style welfare state. More striking, it would have enshrined in law a list of radical social reforms — everything from true gender parity to the right of a dozen indigenous ethnic groups to assert self-rule. While polls suggested there was broad support for the underlying aim of reducing the country’s immense economic and social inequalities, almost two-thirds of the voters rejected the constitutional convention’s draft.
It’s no secret that a combination of more progressive taxation and means-tested social benefits targeting intergenerational mobility would do much to cure what ails Chilean society. What unfortunately seems to remain a secret is how to get there.
There were many reasons for this no vote. For one thing, convention representatives lacked political legitimacy. Many came as independents rather than from political parties and included numerous one-issue activists. And, for what it’s worth, only one of the 155 delegates was a trained economist. The rejection also reflected distrust of the current government, a coalition of left-wing parties that strongly favored the proposed constitution.
A sobered government is planning to try again. A Constitutional Council to be elected in May will almost certainly produce a more moderate proposal — if only because the rejection of another draft would likely topple the administration of President Gabriel Boric.
While the initial push for a new constitution reflected the desire for a symbolic rejection of the legacy of Pinochet and popular support for expanding the government’s role in health, education and retirement pensions, it has been a diversion from the country’s immediate problems. Indeed, the uncertainty may have exacerbated them. Foreign direct investment, lured by the promise of free markets and little regulation, helped fuel Chile’s sustained growth. But many worry that the foreign exchange, technology transfer and efficiencies that go along with greater integration in the global economy won’t be coming back.
Even more to the point, if the problem is exceptional income inequality, a new constitution is not needed to solve it. A recent OECD study shows Chile’s “market inequality” — that is, distribution of incomes before government taxes and welfare transfers — is not much different from that of other OECD countries. What stands out is that taxes and transfers sharply reduce inequality in Western Europe and North America, but not in Chile.
The OECD notes that much of Chile’s high levels of inequality would thus evaporate if the government adopted affordable direct payment programs for lower-income families. The same goes for financial assistance for higher education, where tuition is a major barrier to economic mobility. One-quarter of working age adults lacking tertiary training earned less than half the median income in 2017.
Change Is Hard
It is no tragedy, then, that support for a new constitution is fading. A poll taken in February found 57 percent of respondents having little or no confidence in constitutional reform. But the reality that the battle over the constitution is a red herring hardly means that the status quo is viable.
It’s no secret that a combination of more progressive taxation and means-tested social benefits targeting intergenerational mobility would do much to cure what ails Chilean society. What unfortunately seems to remain a secret is how to get there. Just weeks ago, the legislature narrowly rejected a tax reform package that would have been a big step in the right direction.
Actually, the source of Chileans’ discontent may be uncomfortably close to that of majorities in high-income countries. In Chile as in other OECD countries, poverty is a far less urgent matter than it was a generation ago. But as true hardship fades, dissatisfaction with glaring inequality and a lack of socioeconomic mobility burns ever brighter. And, like too many other relatively affluent societies, Chileans have yet to show they have the collective will to address these very modern challenges.