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I N T E R N A T# 0 N A L > HEALTN&DEVELOPMENT VOLUME 1  NUMBER 2 MINISTERS OF HEALTH SPEAK OUT SURVEY REPORT: HEALTH NEEDS OF THE 2IST CENTURY BY SL'S.4.ti' U. R9Y.IfO.1D DG\OR POLICIES AND THIRD WORLD HEALTH BY FAi:ti'Y FRIED.4f.9.'1', .41.D. AfD1GAN SOLUTIONS WHY CAN'T AFRICA FEED ITSELF? BY GEORGE B. N. AYITTEY THE INVISIBLE ENTREPRENEURS OF SOUTH AFRICA BY GRAGIEL.4 D. TEST.A PRIVATIZATION AND DEVELOPMENT SOCIAL SECURITY I\ CHILE: AN INTERVEIW WITH JOSE PI1ERk BY ERIC RC SSI SHIFTING THE BALANCE TOWARD GRO%NTH BY RO.ti:4LD D. UTf ,~ THE STRUCTURE OF RIGHTS SUMMER 1989 FREE SPEECH: THE BASIS OF A FREE SOCIETY BY BARRY LY.ti'.ti' INTELLECTUAL PROPERTY RIGHTS: THE BA.SIS OF A`'IGOROI:S ECONOMY BY P.91'L DIETRICH

LETTERS ONE OF THE GREAT PEOPLE OF TNIS CBYiURY... [The first issue of IH&D) is really very good and contains lots of material full of uncon- ventional thought. I was particularly thrilled to read the interview with Mr. de Soto and the two articles elaborating his view s on the informal economy. His views are really re- freshing and relevant to the situation pre- vailing in many developing countries, in- cluding India, and they would make many reconsider the development strategy that has been adopted so far - resulting in over-regulation and excessive State inter- vention. lWnYa1lskea BAW Bombaf.1011111 for the World Health Assembly in Geneva. ...[T]his is entirely due to cost increases, mainly as a result of a decline in the value of the U.S. dollar against the Swiss Franc, without which there is a real decrease of 4.9% for our Health Assembly. The most recent WHO program budget is in fact the one for 1990-1991, published 1 December 1988. Human Resources for Health represent about 10% (not "only 5%") in both 1988-1989 and 1990-1991. In Water Supply, and many other pro- grams, it is true that economies have been made, but in fact these are mainly at the global level, rather than country level, where we rely very much on extrabudgetary con- tribut-ions (amounts not yet known). All WHO programs work closely with all available partners, public, private and chari- table, and therefore there is no need for a separate program to deal with private sec- tor issues... Disease Control represents 14% of the regular budget, but 39% of the total budget. Our AIDS program, for ex- ample, is particulariy focused on Africa, and relies extensively on voluntary contri- butions. The list could go on. The point is, budg- etary analysts should be careful with the facts. One of the real problems WHO has faced is the withholding by certain mem- ber states of their contributions to UN- related agencies for political reasons extra- neous to WHO and its work. These politi- cal issues should be put aside as WHO takes up new challenges of urbanization, the elderly, economic development, chemi- cal and food safety, and the environmental impact on health... AsUanY PId waM Hom org»nkation L'enM 8YYRmixd the World Health Assembly doesn't. It simply budgets its cost increases, still is two weeks long, still is held in Geneva (WHO's highest unit cost mrter), and still (in 1990191) will cost $2.5 million peryearor$179,il00perday. It ishard formt ooermytunasandwich, to workup much sympathy. Afterall, thatdaily$179,000isoccr ten times the annual poccrty line income in the U.S. The bulk of Mr. Piers letter is dtc•oted to a budget docu ment for subsequent years a c ailable afur my article was written. I apologiseforits unavailability. In any erxnt, severalenlighten- ing points n7arding that 7990/91 budget were rnrntly made in The Wall Street Journal (May 9, 1989). l1'oc that I harx that 1990/91 document, afew rejoinders to Mr. PrePsspecific points are in ordtr. Ia 1990/91, tke Human Resourres program gr& nk largest real decrrase of any II HO pro- gram. This will br'of~set by a"cost" increase avhiaf asillstill karaetheprogram s•ith a 1% net inerrase, tbe lostist ofany program categoey. Y'et health is one of t,te most labor rntensirxsecto rs in deasrlopment andpersonnel ofun make orbreak health systems. As rrgards disease control, Mr. Piel is quite corirct that funding from other soumes is not completely known. It is pu=linghoar the delo- gates to the II FL4 can, therefar, be expectrd to make a rational evaluation of WHO's pro- gramsandpriorities io-hen RHOstaffcan'tgiz•e dlem the complete frnaneial picturr. II'ith regards to disease control, in the 19901 91 budget, only "cost" increases saved 10 of 18 disease program areas from real budget de- clines. "Real" inereases (i.e., program expan- sion) oceartrd in only 8 cases. Overall, the budget category "disease prevention and con- trol" inarased bp a net 3.8%, thefourrh small- estinereaseofthe 15budgetcategories. Compare this 3.8% to a 4.4% net increase for the II orld Health Assembly and a whopping 14.5% in- crzase (including an 8% real inerrase)forgen- eral program management and development in Geneva. II hen it comes to "othersources"offunds for disease control, nearly half of those funds in 1990/91 are recertrdjor.•1IDS. Tre•elt•e of I8 disease categories see a decline in outside funds. In fact, net of the special AIDS allocation, the disease control resources from "other sourres" actually go down from about $27 7 million in 1988/89 to about $262 million in 1990/91. (continued on page 31) I I read with great interest the interview w•ith Hernando de Soto, one of the great people of this century, along with the articles by Jerry Main and Mario Vargas Llosa. Pret. Juhe P. Powelsae UniversDy d Coloraft 9oulder, CDbrado, USA Congratulations on a first rate publication - stimulating, interesting, diverse opin- ions. ... I found de Soto's approach fascinat- ing. Good Luck. Clqtord A. Pease, JP., M.D. CaMax, YlrpDtla, USA [The first issue of IHe3'Di is very interest- ing and informative. I found de Soto's section very thought provoking - and I think there are greater implications for development. I intend tocarry on research in that area K hen I return to Cameroon. Aroysius Amin Peae State DNveMslty P®eesyhroolo. USA     WHO's BUDGET: POIYUCOtRItT8iP01YT The first issue of IH&D is a welcome addi- tion to the literature. But Susan U. Ray- mond's "analysis" of the "most recent" biennial budget of the World Health Or- ganization for 1988-]989leaves something to be desired: the facts. To begin with, Dr. Raymond states that the largest increase for 1988-1989 is 38% I 2501205024 Dr. DatYommd ressponft Seeeral questions need to be raised with regard to.Ifr. Piel's defense of the 11HO budget. As regards "cost" increases at the World Heallh Assembll• ( I{ HA l, these are of th ree h pes: inflationarr, exchange rate related, and "statu- tory," i.e., guaranteed by pre-existing agree- ment. But it is the rare organization which has the luxury of simply passingsuch inarases along, in i; HO's caseto financial supporters sehog:ee it hard-earned tax dollars. 11 hen steakgets too expensit•e peoplr hat•eto ssritch to tuna frsh. But I I ~ 2 SUMMER 1989 INTERNATIONAL HEALTH & DEVELOPMENT

f i HEALTH & DE1/ELOPMENf Editor Graciela D. Testa Production Manager Elisabeth M. Squire Art Director Wendy L. Kelly Publisher Elizabeth Kristol INSTITUTE FOR INTERNATIONAL HEALTH AND DEN'ELOPMENT THE CATHOLIC UNIVERSITY OF AMERICA The Catholic University of America's Institute for International Health and Development is a nonprofit, tax-exempt educational foundation devoted to ex- amining public health and development policies affecting developing nations. The Institute providesaforum for debate on existing governmental and private programs and encourages policymakers in the field to explore alternative ways of meeting the pressing health and eco- nomic needs of developing nations. Chairman David Morse President Paul Dietrich Executive Director Elizabeth Kristol Editorial Director Graciela D. Testa Chief Financial Officer Alison Joyce-Price International Heatth &Developmentis pub- lished quarterly by The Institute for International Health and Development. Subscription rates: $24.00 a year; $40.00 outside the U.S. All foreign subscrip- tions must be paid in U.S. dollars. Re- printing of non-copyrighted material, in w-hole or in patt, is permitted with proper attribution to International Health d? Development. Address all correspondence to: 1. ItiSITTCTE FOR INTERNATIONAL HEALTH AND DEVELOPMENT 1120 Vermont Ave., N.W. Suite 610 Washington, D.C. 20005 Tel: (202) 835-9056 FA.t:(202) 452-1269 IMTERNATIONAL HEALTH & DEVELOPMENT i I ! i . ~ CONTENTS F E A T U R E S PIWAT1uTf8N AIID DEYB.APN®fti Facedwith inefficientbureaucraciesandfinaneialcontraints, many countties are turning to the private sector to manage et erything from industries to so4al seeurity systems.  Shittln8 the Ba1mN:e Toward Growth by Ronatd D. UM ............................. 4  SOdal SeCUPIly in (hile: An ittea'lrlew wRh Jose P(oera by Eric Russi ......... 8 Ai®fIST9iS OF REAITH SPEAI( OUT ' Donor agencies base their programs on the perceived needs of developing nations. Ministers of health in those countries often see a t..ery different picture.  Stsrttey Report Heelth Needg of the 21st Centm by Susan U. Raymond...12  DINIOr Poicies sOd Thirli World Heettll by Fanny Friedman, at.D. ..........18 AFWM SOLUTMW Much of development policy assumes that Africa's future rests on the 6ienevolence of Western generosity and expertise-an assertion that is being challenged by Africans themsel>:,es.  Why C811't AtMCe ft.®d fteli4 by George B.:V. Ayittey ...............................18  The ftsvisW EntrBphfxleuN of South Ah'iCe by Graciela D. Testa ............ 22 TtE STRDCTt>IiE OF R16Hi8 Political freedoms-large and small-have repeatedly been linked to economic growth and improe;ed quality of life. Tlrey rest on some very basic assumptions.  Free SpecIC The BeIs of a fM Society by Barry Lynn .........................Y4  iddkCtual Property Rigltf: The Basls of a YfgoPAnt HoIloiqy by Paul Dietnich .................................. 28 U P D A T E Yiet118m'i fePtity TyPfl1Yry: Council of.ltinistets' Decision .........................28 0 P I N 1 0 N PqN881IoD Fa(edes by P. T. Bauer .............................................................80 Designs similar to the one on this blan- ket woven by the Fulani people of Mali, appear throughout the region around the IV iger River. The centralized composi- tion of this blanket called for accurate planning in both weaving and assem- bling the component strips of w•eft-faced plain cotton weave. Courtesy of the Textile Museum. 1975.15.9, Washing- ton, D.C. -2501205025 SUMMER 1989 3

AND 25Q12U5026 n 1987 the FLTCENSA foundry in Honduras was teetering on the brink of bankruptcy. Taken over by the government, it employed few workers, produced little and cost the government of Hond uras precious funds that it could not afford to waste. With nothing to lose, the government decided to sell the enterprise to private owners by way of a$Z.8 million equity fordebt swap. The new ow•ners added $4 millio¢ in new investment and six- teen months later, in early 1989, the once bankrupt foundry employed 200 local work- ers to produce high alloy railroad tracks for export. What was once a drain on the govern- ment's budget is now a source of jobs, earns a profit, pays taxes, and earns needed foreign exchange through exports. What happened in Honduras is beginning to happen with greater frequency through- out the world as more and morecountries rec- ognize the benefits of "privatization;" the process whereby activities or enterprises that were once performed or operated by the government and its Dr. C tt is former assoriate director for privatization, Office of .Nanagearent and Badget, under the Reagan .9drainistration and former editor of tke Journal of Economic GroWth. BY RUNALD 0. UTT SHIFTING THE BALANCE TOWARD GROWTH I employees are now performed, managed and/orowned b. privatebusinessesandindividuals,oftenwithmuch better results in terms of costs and quality of service. The process of privatization achieves these results by replacing government monopolies with the competi- tive pressures of the marketplace to encourage effi- ciencv_ qualitv, and innovation in the delivery of goods and services. ~ From the United Kingdom to the Peoples' Repub- lic lic of China, governments throughout the world are j confronting the challenge of costly government pro- grams, grams, bureaucratic inefficiencies and economic stag- nation by turning to the private sector for assistance. Three key reasons explain this phenomenon: 1) During most of this centurs, governments in- creased creased the scope of their involvement in their econo- mies mies and in the lives of their citizens. Whether through regulation, taxation or expropriation, the ; growth in government was sustained and relentless, ! and took place in north and south, rich and poor na- tions, tions, making no distinction between democracies and dictatorships. By attempting to do so many different ; things and produce so many different goods and serv- ices, ices, government management became thinly spread ; across thousands of diverse product lines, and quality and efficiencv suffered as a result. ; 2) From the perspective of government budgets, the mismanagement and inefficiencies manifested J 4 SUMMER 1989 INTERNATIONAL HEALTH & DEVELOPMENT

f ® themselves in higher costs to produce government services. This led to more government spending and larger deficits which, in turn, led to more borrowing and higher taxes. By the 1980s. the governments of many countries had reached or exceeded their ability to borrow or tax. Confronted with burgeoning deficits and collapsing services, many governments had no choice but to get rid of money-losing enterprises and limit themselves to the provision of essential services. 3) Although all governments grew during this cen- tury. some grew more rapidly than others. Most mar- ket economies were better able to limit government growth than their socialist and statist counterparts. By the 1980s, the results were unambiguous - countries that were successful in limiting the growth in govem- ment and maintaining a viable and competitive private sector experienced much higher rates of economic growth and prosperity than those countries that fol- lowed the opposite course of action.' These three trends created an environment condu- cive to a dramatic reversal in nearly a century's worth of govemment growth. Rejecting the statist solutions of the past, many developed and developing countries have begun to seek ways to diminish the role of gov- emment bureaucracies and enhance the responsibili- ties of the private and commercial sectors. Tax cuts, deregulation, privatization and the liberalization of in- temational trade restrictions have become the key eco- nomic reforms for achieving this objective. s adevelopment tool, privatization achieves this by transferring govem- i ment sen: ices, assets and/or enterprises to private sector owners and suppliers when those owners and suppliers have the capability of providing better services and products at lower costs. If done properly, privatization pro- vides a blueprint for the orderly with- drawal of the state from activities that can best be managed and pro- vided by private enterprise. It is essential to understand that privatization need not imply the abrogation of government responsibility for any essential services or for the general welfare of the people. Privatization merely recognizes that what matters most is the quality and cost of the product or service provided, not who provides it. In every case, government may, if it wishes, use its authoritn; and re- sponsibility to make sure that certain sen•ices and products are provided and that minimum standards are met, but it need not provide the service or products itself as long as others are able and willing to do so. In INTERNATIONAL HEALTH & OEVELOPMENT i I Itis ESseBtiat to uudarstaod tnat privatiration ueed oot imply the agrogatioo of govoromeot responsihi(ity. i most cases, the private sector, operating in a competi- tive environment, is willing and able to provide higher quality goods and services for lower costs. PrirUfan TecWOes There are three main techniques through which privatization can be executed. The first is the process of divestiture wfiere the assets or rights to a gos-ern- ment activity or enterprise are sold or transferred to private owners. The new owners could be another private business enterprise, the public at large, the existing employees or some combi nation thereof. The process of divestiture is most appropriate for those government enterprises and activities that are easily defined and separable from other government activi- ties. Such activities and enterprises should also pos- sess commercial potential to assure economic viability after divestiture. Divestiture has been the major form of privatization in those nations that had nationalized parts of their private sector or had created state-owned enterprises (SOEs) to provide certain products or services to society. i I n Great Britain, which has perhaps the most ag- gressive and successful privatization program of any nation, divestitures accomplished through the open sale of shares to investors have been the major technique for_transferring govern- ment assets to the private sector. The British success spurred many developing countries to give serious consideration to creating their own divestiture programs. Many of these programs are now becoming operational after several years of intense opposi- tion and limited progress. A few Latin American countries are making firm plans to hive off their un- com petitive, money-losing operations. Argenti na sold off its interest in the once private airline Austral but has had to postpone its plans to sell the larger Aerolineas Argentinas. Chile has had an active and successful divestiture program since the mid-1970s. Plans have been drawn up to increase private participation in electric utilities and telecommunications, and to pri- vatize the national airline, water companies serving the major cities, oil exploration and insurance. In response to a crushing debt burden and a deterio- rating economy, in 1982 Mexico announced plans to reduce the number of SOEs from 1,155 to just 200. About half the goal has been met through mergers, transfers to state governments and some privatiza- tions. The plan remains in effect and progress is ; occurring, albeit slowly. Recently,:llexieanadelCobre (copper mining) was sold for over a billion dollars and Z5a12D5027 SUMMER 1989 5

the airline .aerovias de Mexico is under contract for sale. The new government intends to continue the program and has pledged to sell the telephone com- pany, possibly through a regional break-up. Budget and debt problems and pervasive economic stagnation have led to aggressive divestiture programs in several African countries. Kenya established a di- vestiture committee in 1983 with plans to sell off its more than 400 SOEs. Its most notable success was the recent sale of the Kenya Commercial Bank. During that sale, prospective shareholders made firm offers for more than three times the number of shares actu- ally available. Ghana is using a process of incremental divestiture to raise capital for faltering SOEs while gradually transferring them to private ownership through the sale of newly-issued shares in the 30 SOEs in need of financial infusions. In Togo, the private company leasing the defunct steel mill from the government successfully offered shares to the public to raise money for new equipment. urther to the east, in the Peoples' Re- public of China, divestitures through share offerings have been underway for several vears. I n an effort to raise needed investment funds over and above what was allocated by the state plan, approxi- mately 6,000 small- and medium-sized enterprises are now partly worker owned through sales of shares to the workers. For the same -reason, about 100 larger enterprises have experimented with share offerings to the general public and to other en- terprises. Current procedures will permit up to 25% public ownership by individuals, with another 25% available for sale to institutions. Although China had announced a slowdown in the current pace of reforms, officials contended that the slowdown would not apply to the privatization plans. Given recent events, how- ever, what will develop in the months ahead is any- one's guess. Contractingout is the second major technique used to privatize a government service or enterprise. Under this technique government enters into contracts with privately-owned firms to provide goods and services or to manage certain government activities. Contract- ing might be preferred to divestiture for those activi- ties for which there are no well defined assets or operations to sell, when the activity is inherently gov- ernmental and requires close public supervision or when commercial viability is not likely to occur no matter how much the management is improved. Wastewater treatment, public health facilities and contpacting out ictroduces competition into the prouisioo of Me goueromeot seruices. medical clinics for the poor are activities that govern- ments must provide because a free market, left to itself, would probably provide such services at less than adequate levels. But government responsibility need not extend to actually operating the facility with government employees. Government could, for ex- ample, contract with a professional health care comx pany that would manage the facility, hire the employ- ees and provide the needed services. Under such an arrangement, the government would pay the company to provide a specific level of care to a designated part of the community. The government's responsibility would be to properly manage the contract and make sure that the private firm provides the agreed upon services. The advantage of contracting is that it introduces competition into the provision of government serv- ices, leading to lower costs and higher quality as profit- making firms seek to win government business and attract and keep customers. Contracting out is.exten- sively used in the United States for a wide variety of government services including health care, refuse col- lection, weather forecasting, map making and the maintenance of military aircraft. Many traditional government services can be con- tracted out for considerable savings. In the U.S., studies have shown that on average the government achieves cost savings of 30% by contracting out. Sev- eral developing countries have contracted out their airline services to professional aviation companies, thereby saving scarce foreign exchange. In Indonesia, the government recently contracted out the nation's customs service as a way of both reducing costs and in- creasing revenues through better compliance and less corruption. Malaysia and Thailand are reviewing opportunities to contract with private providers for basic infrastructure services. he third major privatization technique is the use of vouchers. With a voucher program, the government provides eligible individu- als with dedicated purchasing power, often in the form of a certificate, that can be used ~ to buy specific goods and services from pri- ~ vate providers. Vouchers often represent the best way to assure access to basic social services for those in need. By taking advan- tage of the competitive market of service providers, vouchers assist the poor in obtain- ing ing high quality service at lower costs than would be ~ the case if the government attempted to provide the ~ product or service directly. i In the U.S., various forms of vouchers and voucher- 3 J G ~ , 2501205a28 MITERNATIONAL HEALTH & DEVELOPMENT 6 SUMMER 1989

f like arrangements are used to provide needy individu- als with basic welfare assistance. Rather than establish government hospitals and hire government doctors to provide medical services to the elderly and the indi- gent, the U.S. government provides eligible individu- als with the equivalent of medical vouchers that allow them to go to the private doctor and hospital of their choice at government expense. A program of housing vouchers has been imple- mented to replace the costly and poorly managed gov- emment housing projects as the main source of hous- ing assistance. These vouchers are given to the poor and can be used like cash to obtain privately owned and managed apartments. Similarly, food stamps that can be used to buy food from private merchants are dis- tributed to the poor. Through such vouchers, the gov- errtment can assure the availability of certain goods and services to the poor without having to actually provide and manage the housing, the food distribution or the medical services. C Ithough vouchers have been used most extensively in just a few industrialized countries, there are many opportuni- ties for their limited, experimental application in the developing world. Education is one potentially fruitful area. In many countries, education at the college and university level is provided free to eligible students at national universities. The results are often unsatisfactory, and educa- ( I .,rional quality suffers as national universities are over- whelmed with students who have no other choice. An alternative is to provide eligible students with education vouchers that can be applied to the univer- sity of their choice, including all private universities. Such a change would relieve overcrowding at the na- tional university, provide needed support for other col- leges and universities, and promote educational diver- sity. Certain elements of the health care process also lend themselves to limited voucher applicability. The dis- tribution of medicines and other health care products, certain elective medical procedures and specialized care might be better provided through vouchers than through costly gov6mment operated facilities. In addition to improving services available to consumers, vouchers will help spur the development of a private health care market to supplement existing goverrt- ment systems. ` I riuatization is a politieaiprocess wi(f< ecoHomic consequences. H81pllQ i( 3llCCBBd By focusing on the many privatization successes that have occurred in several countries, the reader could get the impression that the process of privatiza- tion is easy to effect and that it takes place with an absence of friction and opposition. In practice, how- ever, for every recorded success, there are many other initiatives that fail because of numerous obstacles and impediments. Brazil, for example, has a grand priva- tization plan, but precious little to show for it. In theory, Brazil will sell off 26 enterprises this year. In reality, it will likely sell none, largely as a consequence of intense political opposition. The same is true in the cases ofPakistan and France, which essentially ended its program in late 1987. n almost every case, the problem is politics. Pri- vatization entails change, and change is often seen as a dangerous source of instability and loss. The workers and managers often oppose privati- zation because they are afraid that they might lose their jobs. Some political leaders may op- pose it because they might lose their direct influ- ence over part of the economy. Consumers might oppose it because they believe that prices might rise. For these and other reasons, the process of privatization confronts significant obstacles in both developed and developing countries. These obstacles are not insurmountable, as the many successes demonstrate, but they must be recog- nized and confronted if the program is to achieve re- sults. For instance, worker resistance might be less- ened by guaranteeing them jobs in the new entity for at least some time. Consumers' fears might be allevi- ated by providing for some interim price regulation until a competitive market in the product or service is established. It is essential that public officials realize that privatization is a political process with economic consequences. This means that the politics of the issue must be addressed first, and that the process must be tailored to diminish the resistance and accom- modate as many opponents as possible in order to con- vert them into supporters.. ' See Gerald W. Scully, "The Institutional Framework and Economic Development," Journal of Political Economv. 96, No. 3(June 1988), pp. 652-62; Ramgopal Agarwala, "Price Distortions and Growth in Developing Countries" (R'ash- ington, D.C.: World Bank, Staff Working Paper 575, 1983); Keith Mardsen, "Private Enterprise Boosts Growth," Jour- na of Economic Groanth, voL 1, No. 1(«'ashington, D.C.: l National Chamber Foundation, First Quarter 1986). pp. 17- 28. 25ai2n5nZ9 INTERNATIONAL HEALTH & DEVELOPMENT SUMMFp +Q89 7

SOCIAL SECURITY IN CHILE: 8 SUMMER i989 An Interview with Jos~ Piflera BY ERIC BUSSI s the 21st century approaches, the financial soundness of social secu- rity programs has become a vital concern of both developed and developing countries. Ari aging population is not a phenomenon unique to the developed nations. Medical advances which reduced birth and death rates have led to an increase in the propor- tion of the population in the older age groups throughout the world. Analysts note that the increasing proportion of older people in Asia and Latin America (and, in absolute terms, in Africa as well), is likely to have profound consequences. Most countries today have pay-as-you-go retirement schemes in which the working I population pays taxes to support those cur- rently retired. However, as the proportion i of the retired population increases relative to the number of workers, the taxes that those workers have to pay to support their elders become an increasingly onerous burden. Yet a reduction in the benefits to which retirees have become entitled through a lifetime of contributions to the system is as unfair as a sharp increase in the tax burden of the working population. Chile has resolved this dilemma in an inno- vative manner. In the process, it has sig- nificantly improved its prospects for sus- tained growth and development. In 1924, Chile was the first nation in the Western Hemisphere to adopt a social se- curity program. More than 50 years later, it had become a massive burden to the econ- omy. Despite high taxes, the program was i chronically short of revenue. Its haphaz_ard__ _ Dr. Rnssr,born in Unsgaay, isaneconomicandfrnancialconsnltant I distribution of benefits was viewed as arbi- rn lLiachrnotnn n r 2501205030 INiERNATIONAL HEALTH & DEVELOPMENT

f trary and inequitable. Faced with these problems, in I 1980, under the guidance of then-Minister of Labor and Social Security Jose Pinera, Chile adopted a revolution- ; ary new system. Rather than reforming the old pension ~ scheme, Chile scrapped it and introduced a new system which provided workers with an option to participate in ( a private, fully funded, retirement investment program. The new system is radically different from the tradi- ; tional systems now in existence. Traditional pay-as-you I!- go systems are constructed upon false assumptions about human behavior. They erroneously assume that people j will contribute independently of the benefits that they I receive. People do not behave in such a fashion, as the widespread evasion of social security taxes, the search for ~ special privileges and the inefficiency of traditional sys- tems show. Pinets's intention when designing Chile's new social security system was to explicitly link contributions and benefits so that the level of retirement income becomes j an individual decision. Under the previous system, Chileans could not satisfy their personal preferences ; (such as early retirement, for instance) in an individual : manner, but had to pressure the political system to grant j special favors to entire groups of workers. Under the new f system, someone who wants to retire earlier, or who ' wants to have more retirement income, makes an indi- i vidual decision when he chooses to increase his contribu- tions to his retirement account. By allowing people this j freedom ofchoice, the new system increases their happi- , ness and satisfaction. i The effective date of the Chilean reforms - May Ist, I 1981 - is symbolic. Throughout Latin America, May lst celebrates Labor Day, a day that has traditionally stood for class struggle and class hatred. Pinera felt that the existingantagonism in erasin ortant to be it w im g g p as 4between workers and employers and that there was no better time to implement a revolutionary system that would increase worker benefits and well-being than, i precisely, on Labor Day. I As minister of labor, in addition to reforming the social security system, Jose Pinera undertook a major reform of the labor codes making the labor market more flexible. 'I He also subsequently served as minister of mines, re- ~ formingrhe mining code to provide added incentives to private investment. The result was a boom in the indus- ~ try. JosE Pinera's guiding principle while at the ministry I of mines was the importance of transforming inert wealt Ifh (the nation's natural resources), into human capital. By promoting the exploitation of natural resources, the state ' can tax natural wealth and increase expenditures on ! education and health, i.e. human capital: the real re '- source of the future. Pinera left public service voluntar- ily to promote not only a free market revolution, but i political freedom and freedom of speech: the pillars of a free society. i Eight years after the implementation of the private , pension program, it is appropriate to assess its impact and ask whatlessons other nations can learn from the Chilean experience. International Nealth d:°Development recently ~ interviewed Dr. Pinera. i ~ Ill r. Why did the traditional social security system fail in Ghi1e? 6Vhatffi~ere the circumstances that led to the crisis and the need for reform? ~~ Dr Pinera The problems that Chile's social security system faced are typical of most traditional pay-as-you-go systems. . First, there is the problem of demographics. As birth rates fall, maintaining the benefits level of the retired population becomes increasingly burdensome for the working population. When this happens, as it did in Chile, benefits are insidiously reduced through infla- tion. Allowing inflation to erode the benefits of the aged is a true injustice.  Second, it is unjust and unfair to the working poor. Because what people contribute to the system has no direct relation to what they obtain once they retire, the only way they can increase their benefits is by lobbying for changed conditions for entire groups. This occurred in Chile, creating a system that was grossly inequitable. For instance, manual (blue-collar) workers retired at age 65, yet public and private sector white-collar workers could retire at age 50-55 because for them, the date of retirement was set not by age, but by the number of ,, years worked (white collar workers could retire after 30 to 35 years ofservice). Some more powerful unions, such°" as bank employees and journalists, retired after only 25 y ears of service. And the most powerful group of all, the parliamentarians - the men and women who actually write the laws - were able to retire after only 15 years of service. This development, which is not unique to the Chil- ean experience, negates the idea of solidarity which is assumed in income distribution systems. In truth, the system ended up being the exact opposite: the higher income workers benefited at the expense of the poor. Any system that allows the allocation of benefits to be decided according to the power of the lobbying groups involved hurts the poor who are usually less well organ- ized and are less able to influence the political process.  Third, traditional systems create a "culture of dependency." In otherwords, people no longer believe that they are responsible for ensuring their financial se- curity through their own efforts. Instead, they believe that this is up to the state: "the philanthropic ogre," as Octavio Paz called it. This is a very negative attitude because it discourages the creation of a "culture of free- dom," that is, the attitudes and mores that are essential for a free society.  Fourth, the system was administered by an enormous state bureaucracy which was unresponsive to the needs of the workers, considering them a captive market. As a result, the provision of services to workers and retirees was abysmal, even humiliating as they were forced to stand in long queues and jump through myriad bureaucratic hoops in order to obtain what was rightly theirs.  Finally, traditional systems have an important negative economic impact: they are financed by what amounts to a tax on labor which reduces the incentives to work and raises the cost of labor, thereby raising un- employment. XiR'hat are the characteristics ofthe new system? Why is it considered revolutionary?  .The new pension system has four major charac- teristics:  The first and most important concept is the system of individual capitalization. That is, instead of paying a payroll tax, workers now contribute a minimum of 10% of their salary to an individual account. These contribu- tions-which are tax free - accumulate in the account and cannot be withdrawn until retirement (at which time taxes are paid, usually at a lower rate). When the 1~~~ of Me pension system was the largost transter of powor to individuals in Me economic history of Chile. r1i (.!l O_ ~ O Ul Q Ch) 0 INTERNATIONAL HEALTH & DEVELOPMENT SUMMER 1989 9

I I Workers ar~; no langer a ~ captive ! market... ~ worker reaches retirement age' (60 years of age for women and 65 for men) he can choose either to exchange the funds for a lifelong pension in a private insurance com- pany, or make programmed withdrawals (limited by his life expectancy). In both cases there are provisions for survivors' benefits.  A second characteristic of the new system is the pri- vate administration of the funds. This is absolutely crucial. Some people have suggested that a system of individ- ual accounts administered by the state w ould work just as well. This is not true. Competition between the private institutions that administer the retirement funds is indis- pensable for the optimum allocation of resources and to maximize the rate of return that workers receive on their investments. The system is administered by private businesses called Administradoras de Fondos de Pensiones (AFPs). There are 13 AFPs in Chile, three ofthem workerowned. All the AFPs are organized in the same manner: as formal enterprises which compete for the retirement accounts of the working population by charging a lower commission, offering better, friendlier or more personalized service, or providing a higher rate of return. Workers are no longer a captive market, they can choose among all the AFPs and may transfer their ac- counts from one to another. The AFPs do not offer a rate of interest on the accounts because if they were to do so they would become extremely vulnerable to market fluc- tuations.  A third element of the new sy stem is the social safety net for the poor. The safety net works as follows: If someone reaches retirement age and has been unable to accumulate e ough capital in his retirement account to retire with a fifelong pension that will allow him to "live with dignity," the state steps in and makes up the differ- ence by means of a direct subsidy. The notion of a "minimum pension that allows an in- dividual to live with dignity" is defined by Parliament, and this is the only political decision that affects the new system. This minimum represents society's judgment regarding how it will treat its less fortunate members: how much should the minimum be? How high should the taxes that finance this subsidy be? These are ques- tions to be answered by elected officials. Because caring for the poor is a commitment that the entire society makes to its poorest members, the subsidy is paid from general revenues. That is, it is not financed only by workers (as would be the case if it were financed from within the system), but by society as a whole. This ensures that all sectors, including corporations, property owners, etc., participate in the support of society's less 'Tortunate.  Finally, the new system has added benefits, two of which are particularly important. The first is a system of private insurance in the event that the worker is disabled or dies before retiring. Workers contribute approxi- mately 3% of their salaries to a group life and disability in- surance taken out by each AFP with a private insurance firm. The second benefit involves the health care system. In Chile, everyone contributes 7% of their salary to a public health insurance system to which everyone has access. Those people who want to do so, are now permitted to buy private health insurance with their 7% contribution. The health insurance thus provided must meet a government specified minimum. By skimming off the system middle- and upper-income individuals, the public sector can now provide better care to the truly needy. ,H&L Hos¢ anasthetransitionfromtheoldsystemtothe new organized?   The system was not changed arbitrarily. Every worker who was covered under the old system was given the option to remain in it? All workers who chose to transfer to the new system were given a government bond which represented their approximate contributions to the system during their working life to that point.' Because the state does not have the fiscal resources to cash all of those bonds imme- diately, the bonds become a part of each workers' individ- ual capital account and will mature when the person becomes eligible for retirement. //liiDi The nerx pension s}stem has now been in opera- tion forabouteight years, how successful is it? Do you haveayq measures of the publu s support of and satisfaction with the s}stem?   Worker reaction to the new pension system was extraordinarily positive. Some analysts had estimated that during the first month of operation, 50,000 workers might transfer to the new system out of a total labor force of 2 million. During the first month halfamillionworkers - one quarter of the labor force - shifted. It was a massive exodus from the old system to the new despite the fact that labor leaders had opposed it and had urged their members not to shift. Today, 90% of the workers who had been covered under the old system have indi- vidually and of their own free will transferred to the new one. This vote of confidence in the private enterprise system is the best proof of its success. There are other indications of the system's success. Despite the fact that it is still in its infancy, retirement, disability and survivors' benefits are now substantially higher than they were under the old system. Another measure of success is the fact that the no op- position party platform calls for the rescission of the reform measures although they initially opposed it. This not only speaks of the success of the reforms, but assures a measure of stability to the system. ~ Il/&D: What is the role of the government in this new system? Is the new pension program entirely laissez-faire?  J  The system has various regulatoryelements. Be- cause the worker is required to contribute 10% of his salary to the system,-it is the government's duty to super- vise and regulate it so that it operates in a fair, competi- tive, and secure manner. It could not simply be left to laissex faire. A special regulatory institution (the Superin- ' tendencia de Administradoras de Fondos de Pensiones), was created and staffed with highly qualified technical per- sonnel. sonnel. i The government requires that the portfolio of each pension fund be suitably diversified. It does this by setting maximum limits by type of instrument and by emitting entity. That is, a fund may not have its assets concentrated in a particular enterprise or in the instru- ments of that enterprise' In order to safeguard workers against sharp fluctua- tions in the rate of return of the portfolio, the AFPs and ~ the pension funds that they administer are organized as 2501205032 10 SUMMER 1989 INTERNATIONAL HEALTH & DEVELOPMENT