Economy, Partnership for Growth, U.S. Relations

The Price for a $277 Million MCC Grant

Since Sanchez Cerén became the President of El Salvador on June 1, his administration has said securing the $277 million Millennium Challenge Corporation (MCC) grant is a top priority. Vice President Oscar Ortiz said they want to get it done within their first 100 days in office, which means within the next three months.

The MCC approved the grant in September 2013, but the US Embassy blocked the release of the funds until the government met conditions such as reforming the Public Private Partnership Law (P3 Law) and restructuring a popular seed program.

The P3 Law facilitates government contracts with private entities to provide public goods and services. The US Embassy made the P3 Law a prerequisite for the MCC funds but they don’t like the law passed by the Legislative Assembly. They don’t approve of the oversight role the Legislature created for itself – a committee that must approve all P3 contracts. The Embassy and business community also don’t like that the law exempts important public goods and services like water, health, education, and public security from public private partnerships.

One of the most vocal opponents of the P3 Law has been El Salvador’s labor movement. Unions fear that public private partnerships will result in a loss of jobs, decrease in wages, and even worse working conditions as private investors maximize profits. Other civil society organizations fear the P3 Law, even with the exemptions, will lead to the privatization of important goods and services – like water, health care, and education.

The US Embassy also doesn’t approve of the Seed Distribution Program operated by the Ministry of Agriculture (MAG). Officials argue the procurement process violates the Central American Free Trade Agreement (CAFTA) because the government only buys seeds from Salvadoran Farming Cooperatives, excluding international seed producers like Monsanto. The program provides thousands of jobs for people working for the cooperatives and ensures that more than 400,000 farmers have quality, non-GMO seeds.

Last week US Ambassador said that the Embassy’s problem was not with the seeds, but with the process. On May 2 Voices wrote an article arguing that the problem was not the seeds or the procurement process, but CAFTA.

The MCC program is popular with a lot of Salvadorans and politicians who see it as free money for development projects. But a growing number of environmentalists, unions, and communities argue that the Embassy’s conditions are too high a price to pay for development projects they don’t want anyway. And many see the conditions as an encroachment on El Salvador’s sovereignty.

Among those who oppose the MCC program outright are environmental groups and communities in the Jiquilisco Bay. MCC funds will support tourism development in the Bay and residents fear it will cause irreparable harm to mangrove forests, nesting grounds for the critically endangered Hawksbill sea turtle, and El Salvador’s most fertile agricultural land. (Voices has written about Tourism on this blog in the past – here are two reports we wrote on tourism in the Jiquilisco Bay).

Roberto Lorenzana, President Sanchez Cerén’s Chief of Staff said two weeks ago that the administration already has a draft Fomelinio Law (in El Salvador the MCC is called Fomelinio) that they will send to the Legislative Assembly soon. It’s unclear what is in the Fomelinio Law, but it likely contains all of the reforms the US Embassy is requiring for release of the MCC funds. Even before he became Chief of Staff, Lorenzana said the new administration is going to open the procurement process to national and international seed producers, in an apparent effort to satisfy the Embassy’s concerns.

While some Salvadorans have spoken out against the second MCC compact, the P3 Law and other neoliberal policies, many have not. The politics of opposing neoliberal economic policies grew more complex when the leftist FMLN party took office in 2009 and again on June 1, 2014. People and groups that organized against privatization, dollarization, CAFTA, and the first MCC compact (all policies adopted by the rightwing ARENA party between 1994 and 2008) have not been as critical since the leftist FMLN party took power. The result is that opposition to these destructive policies is less now that the FMLN is power.

El Salvador will soon get a $277 million grant from the U.S. Millennium Challenge Corporation, but it should be clear – this is not free money.

The 17 farming cooperatives that have been growing seed corn and beans for the MAG’s Seed Distribution Program will pay for the MCC grant when they have to compete with Monsanto and other international seed giants.

Communities that depend on the mangroves for their survival will pay for the MCC grant when developers cut down forest to build resorts and golf courses.

The Salvadoran labor force will pay for the MCC grant when private contractors take over government services and cut jobs and wages to increase profitability.

And all Salvadorans will pay if public goods and services like water, education, and health are contracted out to for-profit entities, especially if there is no oversight in the process.



Dollarization: “A Sack of Unfulfilled Promises”

In January 2001, El Salvador began the dollarization process, which changed the official currency from the Salvadoran Colon to the U.S dollar. According to an article posted on Tim’s El Salvador Blog, former President Francisco Flores and his Minister of Finance, Manuel Enrique Hinds, made the change in order to keep interest levels low, control inflation and increase foreign investment.

In the twelve years since, Salvadorans have engaged in a constant debate over dollarization – has it been good or not, and should they keep the U.S. currency or revert back to the Colon. In June 2011, we posted an article on this blog looking back at ten years of dollarization, concluding that it has not brought about the positive benefits promised.

Others have reached the similar conclusions, including the current President of El Salvador’s Central Reserve Bank, Carlos Acevedo who earlier this month said dollarization was “a sack of unfulfilled promises.” The Central Reserve Bank is a government-controlled entity that regulates many aspects of El Salvador’s economy, including its currency, and Acevedo’s opinion carries some weight.

This is not the first time Acevedo has criticized dollarization. In March 2012 he penned an opinion piece for El Faro that described the process of planning for and implementing dollarization as “hasty and improvised.” He also said that reversing dollarization (de-dollarization) would be even more detrimental. Acevedo, however, also told Contrapunto that “the next government will be forced to consider the possibility of de-dollarization to allow for a monetary policy that provides greater flexibility of public finance, and so it will be able to return to printing money and adjusting interest rates to stimulate the economy.

Bank President Acevedo made his most recent statements (reported by Active Transparency) following the release of a government study on dollarization, which reached some rather negative conclusions. The report found that many key economic indicators, including exports and GDP fell, while inflation and interest rates rose. Dollarization has failed to shield the economy from downturns and instead made El Salvador more susceptible to instabilities in the U.S. economy, as witnessed during the 2009 recession. The Economista published an article yesterday reaching very much the same conclusions.

In his statements this month, Acevedo said dollarization was “badly designed, improvised and lacking consultation,” and that El Salvador’s fiscal performance with dollarization was the worst in sixty years. He also said the performance was so poor that even proponents of dollarization could not ignore its negative impacts. Even in his most recent comments, however, Acevedo stressed that the Funes administration is not considering de-dollarization and that doing so would cause more economic hard and instability. One of his fears is that Salvadorans would make a run on the banks, withdrawing dollars before they were converted to Colones or another currency.

While President Funes may not have de-dolarization plans for the last year of his administration, Vice President and FMLN 2014 presidential candidate Sanchez Ceren said in May 2012 that dollarization was the cause of the current economic recession and that El Salvador’s currency had to be changed back to the Colon.

Norman Quijano, the Mayor of San Salvador and the ARENA party’s 2014 presidential candidate stated in the past that dollarization would be beneficial to consumers. In a more recent interview he said, “reversing dollarization would be the worst thing to do.” Former President Tony Saca, who may run as the GANA party’s 2014 presidential candidate, stated in the past that he supported dollarization and that de-dollarization would be detrimental.

Acevedo’s comments paint a pretty difficult position for El Salvador in terms of the country’s economic policy. Dollarization has been bad, but de-dollarization would be really bad. While the current slate of presidential candidates have made general statements, it is unclear whether they are open to more nuanced positions that will give government economists more tools to promote a more stable economy.

U.S. Relations

Salvadoran VP Sanchez Cerén Greeted by Protesters in Freeport, NY

Sanchez Cerén – El Salvador’s Vice President and 2014 presidential candidate for the FMLN party – drew a crowd of protestors this past Monday when he visited the Long Island town of Freeport, New York. Vice President Cerén was in town to celebrate Salvadoran American Day with the over 100,000 Salvadorans that live on Long Island.

It appears that protestors were out for a couple of reasons. One, some residents don’t seem to like the current Freeport government and welcome any opportunity to say so. More specifically, protestors were upset that their local representatives would meet with Sanchez Cerén who they called a terrorist for participating in anti-American, flag burning protests four days after the 9-11 terrorist attacks.

Calling Cerén a terrorist is nothing new. U.S. politicians and members in the conservative media frequently use the post-911 incident as justification for supporting for ARENA candidates and denouncing the FMLN as terrorists. As campaigning for the 2014 elections gets heated up, its surely going to be a story repeated again and again.

Ceren’s involvement in the rally has to be taken in context, however. September 15th is Independence Day in El Salvador – a day when many groups hit the streets to celebrate independence from Spain and even demad independence from the U.S. It happens every year.  September 15, 2001 Sanchez Cerén and other FMLN activists used Independence Day to protest El Salvador’s adoption of the U.S. dollar as its currency, which many people saw (and still see twelve years later) as a way the U.S. maintains control over El Salvador.

Many other groups were protesting in San Salvador on September 15, 2001 as well, including a radical student group that burned a U.S. flag. It’s dishonest and wrong to say that because Sanchez Cerén and others were speaking out against dollarization and privatization a few days after 9-11 that they are anti-American terrorists that support Al-Qaeda. In fact, before participating in the rally, Cerén led a delegation of FMLN officials to the U.S. Embassy to convey their condolences for the attack on the U.S. – hardly the act of an anti-American flag-burning protester. After the rally, Cerén told reporters that he and the FMLN were marching to condemn dollarization and privatization.

The distortion of Cerén’s activities on September 15th is similar to recent op/ed pieces posted in the Wall Street Journal discussing this summer’s constitutional crisis in El Salvador. Just like Cerén’s detractors have resorted to name calling instead of engaging in policy debates, the WSJ chose to use the important struggle between the judiciary and other branches of government to characterize the FMLN as anti-democratic Chavistas (Tim’s Blog wrote a great analysis of the WSJ and a similar Washington Post article).

The FMLN and its leadership are not perfect and there is plenty of reason to engage them in policy debates, but no one is served by the kind distortions and name-calling reminiscent of cold war and post-911 paranoia.

Economy, U.S. Relations

Ten Years Later- The Impact of Dollarization in El Salvador

Some economists argue that pursuing a dollarization strategy helps developing countries grow their economies through the stabilization of inflation and increases in investment. Other economists discourage a dollarization strategy because it causes these economically small countries to relinquish control over their own monetary policy. This past January marked the tenth anniversary of El Salvador’s adoption of the US dollar as its currency, and its worth assessing the “dollarized” currency regime to determine how successful its been.

Colones, the Salvadoran currency that was replaced by the US dollar in 2001

Adopting the US dollar as a nation’s official currency can be successful, such as in Ecuador. In the case of El Salvador however, dollarization does not seem to have improved economic development.  El Salvador’s economic growth since adopting the dollar as the official currency in 2001 has not been any higher than it was during the years leading up to dollarization. In fact, El Salvador saw higher growth rates in the years prior to its adoption of the dollar. It is difficult to directly attribute the country’s failure to obtain a higher growth rate solely to dollarization, but it most likely did play a role.

As it did in Ecuador, dollarization has helped many economies stabilize their high rates of inflation. El Salvador, however never faced hyperinflation and therefore did not reap any of the stabilizing benefits. Another argument favoring dollarization is that it lowers interest rates and stimulates investment. In the case of El Salvador however, investments did not flow into the country as much as expected due to instability caused by high crime rates and violence. If investors believe their money and capital is not secure, they will go elsewhere where labor costs are low (not denominated in dollars) and where violence and crime is less of a threat.

Under the dollarization regime, El Salvador has no control over its own monetary policy. By adopting the US dollar as its official currency, El Salvador has ceded its authority over money supply and interest rates to the Federal Reserve. It is highly unlikely that the Fed will consider El Salvador’s needs when determining interest rates. Therefore, the Salvadorian government has to depend on taxes and spending to stimulate the economy since it no longer has control over money supply and interest rates. This has caused El Salvador to run higher deficits through the last decade since the government was forced to raise expenditures to stimulate the economy as opposed to decreasing interest rates to spur consumption and investment.

The poorest Salvadorians are the most affected by dollarization. When the dollar was adopted, all businesses needed to change their prices and translate them into dollars. This led to a phenomenon known as “rounding up”. Because the colon-dollar exchange rate was not an exact value, but a fraction, the shift to the dollar caused businesses to change from colon to dollar by rounding up to the nearest dime, quarter or dollar. This left the poorest Salvadorians worse off because while prices rose, wages did not, leaving everyone with a lower real income. However, since the poorest Salvadorans have very low incomes, a fraction of a dollar comprises a larger part of their income than the average Salvadoran.

The effects of dollarization on trade have been somewhat ambiguous. Whereas it was able to compete against other developing countries when it had the colon, El Salvador’s exports have slowed because countries like China are trading with their own undervalued currencies while El Salvador trades with the dollar. Thus, El Salvador’s exports are relatively more expensive than Chinese exports. Use of the dollar, however, has helped trade with some countries by reducing transaction costs. Since so many of its goods are traded with the US, trade in El Salvador has benefitted. Thus, whether the net effect on trade has been positive or negative remains unclear.

Dollarization has provided some benefits. For instance, El Salvador has not faced hyperinflation like some of its Latin American counterparts have. Keeping inflation low is important because it allows banks to lend more, putting more money into the economy.  Additionally, having the dollar as their official currency has limited the chance of any sort of speculative attacks, which means that El Salvador is much less likely to face a Balance of Payments Crisis like Mexico or Argentina did.

The most important and perhaps disappointing part is that some economists believe a shift away from the dollar is not possible. Economists cite Gresham’s Law as the reason for this. In this context, Gresham’s Law argues that re-introducing the colon or another currency into the system would not work because Salvadorians would not trust it. The way this scenario would play out is: the government would try to introduce a new Salvadoran currency and it would ask its citizens to keep their dollars and instead use this new currency for all transactions. The problem is, without trust, that new currency will have no value. Because the dollar is much more trusted as a stable currency, Salvadorans would resist this change in currency and continue to make their transactions in dollars.

Dollarization is not for all countries. For this policy to be truly successful, hyperinflation must be a real concern and investment must be contingent on interest rates and not other factors such as violence. El Salvador has benefitted in some ways by dollarization, however in the long run, there seems to have been more costs than benefits.

Economy, Elections 2009

Impacts of the Global Economic Crisis in El Salvador

Since 1992, the political right has aligned itself with the US and pushed a neo-liberal agenda in El Salvador. This has resulted in free trade agreements, the deregulations of markets, and the privatization of banking, telecommunications, and other important sectors. While Salvadorans with the capital to take advantage of these neoliberal policies have benefited significantly, many have not. Economic stagnation, inequality, and a lack of gainful employment continue to characterize El Salvador’s economy.

Now, in addition to these chronic problems, El Salvador faces the effects of the global financial crisis, which are only just beginning to become apparent.  It’s estimated the 10-12 thousand jobs have been lost in the last 4 months. The predictions for growth in GDP range from the government’s optimistic 3% to JP Morgan’s prediction that GDP will actually fall by 0.5% (See article in El Faro for more info in Spanish)

Economic analysts predict that the worst impacts will be felt in 4 main areas: 1) decline in the value of the dollar, 2) contraction in the credit market, 3) a decline in the demand for Salvadoran exports resulting in unemployment, and 4) a decline in remittances from Salvadorans abroad. Click here for further discussion of these in the full article.