Israel's stabilization program

In order to combat inflation, Israel launched a stabilization program in July 1985 which resulted in inflation decreasing to a low 20 percent annually as compared with more than 400 percent in 1984. What contributed to this decline? This paper attempts to analyze the major factors which made the transition to low inflation possible. It deals with such issues as the role of U.S. aid and of domestic fiscal adjustment, of monetary and exchange rate policies and of the change in the rules of the game concerning government-labor interactions. The paper focuses on the evaluation of the stabilization program from the 1987 perspective and examines the evolution of the disinflationary policies in the course of the program. Although Israel has obviously made strides in correcting inflation, several problems remain for the economy. The final section of the paper deals with these issues and the policy dilemmas which face the government.Economic Stabilization,Economic Theory&Research,Environmental Economics&Policies,Financial Intermediation,Fiscal&Monetary Policy

The inflation - stabilization cycles in Argentina and Brazil

The Austral plan in Argentina and the Cruzado plan in Brazil were major stabilization attempts with lasting effects on the inflation process in both countries. The purpose of this paper is to understand the reasons that led to the large instability in inflation in both countries, and to explain why neither country succeeded in sustaining a high, but stable rate of inflation. This instability was not accompanied by a noticeable increase in the average rate of inflation. In Argentina inflation was in fact lower on average during the first three years after the Austral plan than in the previous three years, while in Brazil the increase in the average rate of inflation after the Cruzado plan was not dramatic. The paper presents the view that the type of instability that emerged following the failure of the heterodox shocks was a consequence of the large reliance on income policies for stopping inflation in the Austral and Cruzado plans and in the follow-up programs. It was the repeated use of controls accompanied by expectations and anticipations about government actions by firms and works that introduced the observed instability during this period. The paper presents a summary of the process of inflation and gives an in-depth analysis of the inflation - stabilization cycles. It concludes with thoughts about the sustainability of the regime, and the implications of these developments for the design of stabilization programmes in both countries.Environmental Economics&Policies,Economic Theory&Research,Inflation,Banks&Banking Reform,Public Sector Economics&Finance

Macroeconomic performance before and after disinflation in Israel

The Israeli stabilization program of 1985 is generally considered one of the most successful such programs in years. Under it, the inflation rate plummeted from about 400 percent a year to about 15-20 percent a year. This paper examines how stabilization affected other key economic variables after 1985. The authors particularly struck by the immediate, abrupt reduction in the rate of inflation and the timing and impact of disinflation on other real variables. For more than two years after the program, a private consumption boom was accompanied by increased economic activity, relatively high real wages and real interest rates, and a low real exchange rate. The recent rise in unemployment seems to reflect the beginning of a process of structural adjustment whereby resources are reallocated across the economy. This process will allow an increase in long term growth after adjustment is completed. In reducing inflation, the program seems to have had the same effectiveness as other shock treatment programs; a sharp and immediate disinflation. In terms of the real costs of disinflation, the program may seem more gradualist. The real costs, in terms of increased unemployment, were postponed for several years and in the transition there was actually a boom in economic activity.Economic Theory&Research,Environmental Economics&Policies,Economic Stabilization,Macroeconomic Management,Statistical&Mathematical Sciences

The business cycle associated with exchange-rate-based stabilization

This paper deals with the effects of disinflation on economic activity in"chronic inflation"countries -- countries with a long inflationary history above the rates in industrialized countries, where labor and capital markets are adjusted to function in the inflationary environment. The sample is based on a number of Latin American countries and Israel. The main finding is that stabilization processes in chronic inflation countries do not normally follow the usual Phillips curve trade off in the medium run. Specifically, stabilization progams in these countries are often associated with a business cycle, beginning with a boom and ending with a recession. This finding relates to the programs which used the exchange rate as the main nominal anchor, referred to as"exchange rate based stabilization"(ERBS). This paper documents the main features of the business cycle phenomenon in ERBSs, and tries to understand its causes and to derive some policy implications for future stabilizations. It refers to relevant features of stabilizations in industrial low-inflation economies and in hyperinflationary episodes, and then turns to chronic inflation countries. It highlights the main facts concerning the business cycles in these experiences and discusses the differences between ERBSs and disinflation programs which use money as the nominal anchor. This paper concludes with issues related to the countercyclical policies.Economic Theory&Research,Environmental Economics&Policies,Economic Stabilization,Macroeconomic Management,Fiscal&Monetary Policy

Lessons from the heterodox stabilization programs

This paper draws lessons from the advantages and disadvantages of the heterodox stabilization approach in chronic high inflation countries. Heterodox stabilization programs make temporary use of some income policies - price and wage controls - to support orthodox policies. Heterodox programs were successfully tried in two chronic high inflation countries, Israel and Mexico. In both cases these programs were followed by a second, more orthodox stage and included the use of the exchange rate as the nominal anchor. While the programs succeeded, both experienced costs in the form of an appreciation of the real exchange rate and high real interest rates. The main lessons from the experiences as analyzed by the authors are : 1) the initial, rapid reduction in inflation at the beginning of heterodox programs is the easy part; the difficult part is to maintain price stability over time; 2) income policies in heterodox stabilization programs are only justified in high chronic inflation countries (with annual rates of inflation above 100 percent) where inflationary persistence is more pervasive and problematic; 3) there is a case for a larger fiscal adjustment in heterodox programs because of the risk that a government that starts with price controls could be confused with one that tries to achieve price stability without adjusting; and 4) a heterodox program that fails is likely to lead to a large amount of inflation instability.Economic Theory&Research,Environmental Economics&Policies,Economic Stabilization,Insurance&Risk Mitigation,Insurance Law

Exchange-rate-based stabilization in Argentina and Chile : a fresh look

Exchange-rate-based stabilization is designed to reduce inflation by using the exchange rate as the main nominal anchor. This does not necessarily mean a fixed exchange rate. A crawling peg with a low rate of depreciation or a pre-announced gradual reduction in the rate of devaluation are alternative ways to use the exchange rate as a nominal anchor. Exchange-rate-based stabilization (ERBS) has been widely used in the high-inflation economies of Latin America. Argentina, Chile, and Uruguay adopted a pre-announced crawling peg in the late 1970s (the famous tablitas) to bring down inflation, with mixed results. Israel and Mexico used the exchange rate as a nominal anchor, and inflation came down significantly. More recently, Argentina relied on a fixed and convertible exchange rate (the convertibility plan) to bring to an end four decades of inflation. So far, the outcomes have been good. The authors find that ERBS have generally been more effective than money-based programs in bringing down inflation in the high inflation economies. But when inflation was reduced gradually, the process resulted in continuous (sometimes significant) real appreciation. Even fixing the exchange rate in Chile in 1979 did not reduce the underlying rate of inflation. Argentina's recent convertibility plan has been more successful in bringing inflation down significantly than previous money-based programs (from monthly rates of about 10 percent to just 1.5 percent in a few months). One could argue that this is a special case, since Argentina was coming from full-blown hyperinflation, so the authors compared the fixed-exchange-rate periods in Argentina and Chile, and came up with useful insights. Argentina's greater success cannot be explained only by fiscal arguments. When Chile fixed its exchange rate in 1979, it wasalready enjoying a budget surplus. Argentina in 1991 was running a small deficit - smaller than in previous years, but a deficit. Perhaps a better explanation is the government's perceived strong commitment to the fixed exchange rate and the potential large costs of reneging on it. The convertibility law made devaluation far more difficult (requiring congressional approval) and reduced the chances of discretionary devaluation. And the government tied its own hands further by legalizing the use of the dollar as a unit of account and means of exchange. The costs of abandoning the fixed exchange rate were also perceived to be greater in Argentina. Devaluation was (and is) perceived as opening the door for renewed hyperinflation, a dreadful scenario. Chile did not face this threat so it was more difficult - and took longer - to convince the public that the government was determined to maintain the parity. Governments tend to stick to the fixed exchange rate longer than is prudent. It is now apparent that some flexibility at an earlier stage would have reduced the costs of the final failure of the tablitas. Why do governments find it so difficult to make exchange-rate policy more flexible? Why do they wait for a balance of payments crisis rather than anticipate it? Perhaps because they fear the public will equate flexibility with failure and a loss of credibility. The authors found, however - in the experience of Israel and Mexico - that inflation does not necessarily go up when the exchange rate is made more flexible. Countries must balance the need to maintain an exchange rate rule (for credibility) with the need to keep external balance.Economic Stabilization,Economic Theory&Research,Environmental Economics&Policies,Macroeconomic Management,Fiscal&Monetary Policy

Some implications of policy games for high inflation economies

The authors used the policy game approach to gain insight into a problem that has puzzled analysts of high inflation economies. Why are programs based on tight fiscal and monetary policies slow at reducing inflation in high inflation countries? Distinguishing between regimes of rule and discretion the authors explain that governments that cannot abide by policy rules and tend to use surprise inflation in a discretionary manner to achieve short term goals ( e.g. eroding the real wage or the real value of domestic debt ), raising the rational public's inflationary expectations. If policy makers can convince the public that they will not resort to surprise inflation tactics, the long term level of inflation may be reduced considerably. Another problem addressed is how should policymakers who are genuinely interested in disinflation react to adverse public expectations? The policymakers are faced with the dilemna of sticking to their announced policy and paying immediate costs in terms of unemployment and capital flight, or compromising their initial targets at the cost of renewed inflationary expectations. They conclude that lack of credibility generates disinflation costs. And if the source of a credibility problem is the inability of weak policymakers to honor their committment, strong policymakers may need to compromise to some extent.Environmental Economics&Policies,Economic Theory&Research,ICT Policy and Strategies,Inflation,Banks&Banking Reform

Inflationary rigidities and stabilization policies

Latin American countries provide the best living laboratory to study inflationary processes and stabilization programs. The purpose of this paper is to analyze the experience with orthodox stabilization policies, which are based on a tight fiscal stance and not supported by a system of price controls. The analysis of these policies is structured as follows. Part I analyzes in detail the question of why purely orthodox policies were especially effective in stopping hyperinflation as opposed to chronic inflation processes. Part II turns to chronic inflation countries and analyzes three basic types of stabilization. The first type is based almost exclusively on fiscal adjustment. The second considers programs which employ nominal anchors in conjunction with fiscal adjustments. The third type examines the exchange rate based stabilizations which often evolve out of a monetary-fiscal package. In the final part of the paper, the authors consider the long run view which extends beyond specific programs and emphasizes the importance of persistence in fiscal discipline and in adherence to nominal anchors.Environmental Economics&Policies,Inflation,Banks&Banking Reform,Economic Stabilization,Economic Theory&Research

Faith in the Law – The Role of Legal Arrangements in Religion-Based Conflicts Involving Minorities

This Article examines the conflict-management role conferred upon the law within Western liberal democracies in the context of cultural tensions involving religious minorities. The Article finds that a threatened hegemonic Christian identity and secular illiberal sentiments disguised in liberal narratives often motivated legislative and judicial actions curtailing the freedom of religious minorities in leading liberal democracies. Based on these findings, this Article challenges the shortcomings of existing liberal scholarship to account for the potential bias presented in the liberal preference to facilitate cultural conflicts through legal means. Yet, the Article suggests that law’s limitations as a neutral vehicle in conflict resolution does not necessarily counteract its ability to manage conflicts. The continued attractiveness of law as the principal conflict-resolution device in liberal democracies springs from its political nature, namely the recognition that shifts in political power could translate into legal change

Shifting Nominal Anchors: The Experience of Mexico

In the mid-1980’s Mexico successfully brought down its high rate of inflation by using the exchange rate as nominal anchor in combination with strict fiscal discipline, tight monetary policy, and incomes policy. This paper discusses the role of exchange rate policy as nominal anchor in Mexico and develops the inflation target as the monetary framework for anchoring prices. It also describes how Mexico is applying this frame work while shifting to a more flexible exchange regime and discusses the role of the newly independent central bank and monetary policy in keeping inflation under control while shifting nominal anchors. This paper describes the situations as seen in early 1994, and makes no attempt to describe the events that led to the 1994 crisis and its aftermath.