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  Guatemala / A View of the Economy


Guatemala – An Overview of the Economy
Fritz Thomas, dean
School of Economic Sciences
Universidad Francisco Marroquín
August 2006

As measured by GNP, Guatemala is a $30 billion economy (2005), making it the largest in Central America. A population of 13 million (2006) corresponds to a per capita GNP of $2,300. However, as happens with most national averages, a substantial part of the population is at living standards well below that.

In the past decades, Guatemala has experienced broad fluctuations in its economic growth, in line with the general pattern of Latin American—not flying as high as others, but not falling as hard either. Growth was relatively robust during the '60s and '70s, averaging 5.5% per year, above the population growth hurdle (2.7%).

Lost Decade
It is for good reason that the '80s are known as “the lost decade”: the loss of economic ground is evidenced by negative per capita GNP growth rates for the period. In a regional context, this setback is commonly attributed to two main factors: 1) internal conflicts (Sandinistas in power in Nicaragua; Marxist guerrillas at the gate in El Salvador with land and bank expropriations led by the U.S. State Department; leftist guerrillas gaining ground in Guatemala), and 2) the exhaustion of the import substitution model within the framework of the Central American Common Market. In his book La Década Perdida (1989), Manuel Ayau recognizes the importance of these factors, but offers convincing evidence and arguments for how misguided monetary policy—a central bank persistently unwilling to abandon a sacrosanct fixed exchange rate—contributed heavily to the economic downturn.

Guatemala's growth performance improved in the '90s, averaging 4.1% (2.9% for Latin America), compared to 1% in the previous decade. In the early part of the current decade, the economy again entered negative territory in per capita growth (while suffering a nasty bout of state capture), but reversed this tendency with growth of 2.7% in 2004 and 3.2% in 2005, slightly above the population growth rate of 2.5%. Growth for 2006 is projected at 4.4%, and some analysts (mostly policymakers) predict (hope) that this is signaling a smooth take-off.

Macro View
From the perspective of macroeconomic performance and with the proviso that the misfortune of others is a fool’s consolation (mal ajeno, consuelo de tontos), Guatemala has never experienced the monetary upheavals suffered by some Latin American countries. While Latin America as a whole saw inflation of 221.8% in 1981–1990 and 46.7% in 1991–1999, Guatemala experienced a more modest (“modest” if you weren't living it) 17.7% and 9.4% for the same periods. The central bank (Banco de Guatemala) has been somewhat successful at convincing the public that 9% inflation (2005) belongs in the realm of price stability (perhaps due to what behavioral scientists call systematic desensibilization), despite the fact that average bank liabilities are well below that rate.

Monetary Policy
In theory, the Guatemalan currency floats freely against the dollar. However, on close inspection, the central bank also boasts that it practices state-of-the-art “inflation targeting lite”: monetary policy is anchored to the price level. This implies, theory notwithstanding, that the Banco de Guatemala intervenes if it thinks the exchange rate is straining an imaginary leash (with little success, usually buying high and selling low, as central banks are wont to do). In past decades, the central bank lost tons of money trying to prevent currency devaluation; for the last couple of years it has lost money by trying to prevent its appreciation (unsuccessfully). From a high of Q8.15 x $1 in October 2001, the quetzal has gained ground against the dollar and in August 2006 traded at Q7.58 x $1.

While the US dollar has lost value on its own merit, the strength of the quetzal has been aided by the fact that for a generation Guatemala’s most dynamic export sector has been people. Remittances from Guatemalans working abroad (mostly in the U.S.A.) amounted to $96.5 million in 1990, jumped to $2.5 billion in 2004 and reached $3 billion in 2005. One has to sympathize; any central bank would have a hard time propping the dollar up with such a growing stream of them coming in.

Guatemala took important steps toward liberalizing the economy in the last decade, particularly in telecommunications, electricity, banking and finance. This has lead to robust growth and competition in these sectors.

The General Communications Law enacted in 1996 established property rights and freedom of entry in the telecom business. This was followed in 1998 by the privatization of Guatel, the state owned telephone monopoly. Rather than submit data, this writer offers anecdotal testimony that the time required to get a telephone line installed has gone from years (or never) to mere days. And I have a number of providers scrambling for my business.

In a similar vein, the enactment of the General Law of Electricity in 1996 opened the electric sector to private investment and was followed by the privatization of the government's distribution business in 1998. Anecdotally again, weather no longer mysteriously provokes the rationing of electricity and blackouts as water levels fluctuate at Chixoy, the state owned hydroelectric facility.

In the '90s, the banking sector was liberalized and opened to competition, leading to some “irrationally exuberant” growth in the sector. After a few hard lessons on the cost of subsidizing bank bankruptcy, the central bank was relieved, by law, of this responsibility. A set of financial laws in 2000, though not abandoning fiat money and fractional reserve banking as we might wish, did contribute to greater competition, soundness and transparency in banking. Today, local banks offer US$ and EURO accounts. They are free to determine interest rates and trade freely in foreign currency. Although barriers have been lowered, thanks to money laundering hysteria, regulatory energy is now focused on tracking the movements of people's money.

It is worth noting that these reforms significantly increased the central bank's independence. Indeed, they actually turned the tables by prohibiting the central bank from lending money to the government. Furthermore, the central bank can no longer monetize losses from its monetary (stabilization) policies, and must pass the bill along to the Ministry of Finance, which then floats bonds to make good (to which, according to Ricardian Equivalence, we are indifferent).

Doing Business
Guatemala has a country risk rating of BB- from S&P and Ba2 from Moody's. Along with most countries, Guatemala has a “Freedom” rating. In the index Economic Freedom of the World (Fraser Institute), Guatemala scores 6.5, and ranks 59 out of 127 countries (not as good as Thailand but better than Mexico). In the Index of Economic Freedom (Heritage/Wall Street Journal), it scores 3.18, ranking 85 out of 155 (below Tunisia and Bosnia, above Mali and Morocco), falling into the “mostly unfree” category. From this writer's personal index, in Guatemala you can move about freely, say or write whatever you like, vote, run for office and start a business. However, such freedoms are undermined by regulation, taxation, distortion, intervention and, in general, low quality of public sector governance and accountability—many of the usual maladies associated with poverty. While contract law is perhaps not so bad, enforcement of it is.

The recently signed Central American Free Trade Agreement (CAFTA) should, in theory, open a lot of opportunities for Guatemala. In practice, to leverage CAFTA Guatemala will need to continue liberalizing and strengthening the institutions that matter to markets.