Why is sector reform so unpopular in Latin America?

• Author: Shirley, Mary M.

Anyone contemplating sector reform in Latin America may wonder: Why is it so unpopular? Privatization--a reasonable proxy for sector reform more broadly--is widely disliked. Opinion polls by Latinobarometro (2002) find that approximately 70 percent of respondents disagree or strongly disagree that the privatization of state companies has been beneficial to their country (see figure 1). (1) Country surveys of Argentina and Peru reach the same conclusion. Public protests have led to cancellations of projects to privatize infrastructure in Argentina, Bolivia, Brazil, Costa Rica, Panama, and Peru, among others. (2) Negative views about privatization have increased over time as experience with reform has lengthened (see figure 2). Country studies suggest that Latin Americans' perceptions of privatization have been strongly shaped by privatizations of infrastructure, which made up more than half of all privatizations from 1990 to 2000 (Nellis 2003), and that they are reactions not just to ownership change but to the combination of cost-recovery pricing, tariff rebalancing, legal reform, regulatory restructuring, market liberalization, and other changes that constitute sector reform. (3) These adverse opinions raise doubts about whether future reforms are possible and past reforms can be sustained. For sector reform to have a future in Latin America, reformers will need to understand the sources of dissatisfaction and how--even whether--they can be dealt with.

In this article, I present evidence that sector reform is unpopular even when it is beneficial to most actors. This counterintuitive conjunction may occur because sector reforms have not been designed to be politically sustainable. Better design may make reforms more politically viable, even if less economically coherent. Dislike of even beneficial sector reforms, however, may have deeper roots. I advance the premise that many Latin Americans view pro-market reform as an ultimatum game: even when they benefit, they view their gains as unfair because the politicians and businesspeople who decide on the distribution of benefits keep a much larger share of the gains for themselves. If this view is correct, then the unpopularity of sector reforms is rooted in deeper institutional failures.

Some observers assume that reforms such as utility privatization are unpopular because most people are made worse off: However, Nellis (2003) reviews a number of empirical studies of the effects of infrastructure privatization in Latin America, all of which conclude that privatization improved financial and operating performance in most firms, relaxed constraints on new investments, extended coverage and access to services, and generally enhanced the quality of services. McKenzie and Mookherjee (2003) find that privatization of utilities in Argentina, Bolivia, Mexico, and Nicaragua had largely positive consequences for consumers (see table 1). Access increased, in some cases dramatically. Prices did go up in half the cases, but they went down in the other half, and because access increases have a much larger impact on consumer welfare than price increases, the reforms had a largely positive effect on consumer welfare. Sector reforms generally reduced inequality or left it almost unchanged. As for jobs, large layoffs occurred in Argentina and Mexico, but layoffs in these capital-intensive sectors had limited impact on economywide unemployment, especially over the medium term. Where layoffs were large, a significant percentage of the unemployed were reemployed in the same sector within five years: 45-50 percent in Argentina and 80-90 percent in Mexico.

Welfare calculations are vulnerable to assumptions about elasticities and counterfactuals, but other evidence points to benefits. In Mexico and Chile, privatization and regulatory reform of state electricity, telecommunications, and airline industries improved total-factor productivity and service quality, as well as consumer welfare, worker welfare, and total welfare (Galal et al. 1994). Similar outcomes are reported for urban water in Buenos Aires and Santiago (Shirley 2002). Studies of telecommunications reforms in large samples of developing countries find that privatization combined with competition increased access to services (Petrazzini and Clarke 1996; Ros 1999; Wallsten 2000). Ramamurti (1996) finds that privatization of the railroads in Argentina improved productivity and service and reduced costs.

Negative perceptions might have arisen because reforms had adverse effects on the most vulnerable groups, but in fact such adverse effects did not occur. Some observers maintain that privatization and competition leads profit-oriented utilities to "cream skim"--to serve the most profitable customers and ignore the less-profitable poor, who require new investment to give them access to the service. The poor are usually the ones who did not have access before reform, and, because of expanded access, their welfare increased in all the cases shown in table 1. Others suggest that even if access is expanded, cost-recovery pricing makes the service unaffordable to the poor. This view is challenged by Clarke and Wallsten (2003), who analyze household-expenditure surveys and find that consumption of services by the poor increased after reforms. For example, even though electricity prices increased after reform in Brazil, Colombia, and Peru, access by all households and especially by...