Argentina – a warning to the United States and China

One can wonder why it is that North America is prosperous, but Latin America has fallen far behind. After all, about 500 years ago both started from the same point. Why did some end up thriving when others did not?

Historians dislike “what if” speculations as they cannot change the past. Dr. Rok Spruk is not a historian; he is an economist. His Ph.D. was in quantitative economic history. Finding out why some countries do better than others is his specialty. Understanding why some nations succeeded when others failed can help us to identify the early signs of future prosperity or decline. In his recent study, Dr. Spruk focused on the case of Argentina.

Most of us know Argentina because of tango, Evita, a series of military coups, and ongoing economic problems. It is not commonly known that by the beginning of the 20th century, Argentina was one of the wealthiest countries in the world. By some estimates, in 1895, Argentina had the highest GDP per capita in the world. For about two generations, from about 1870 until 1930, Argentina was firmly among the 10 most prosperous countries in the world. As Financial Times wrote, at the beginning of the 20th century, for European emigrants, Buenos Aires was an equally attractive destination as New York.

How Argentina became rich

It was relatively simple. Before 1800, today’s Argentina was, to some degree, as the American Wild West. Formally it was a Spain’s colony but not as tightly controlled as the territories farther north. Unsuccessfully, England tried to gain some influence there as well. Also, indigenous nomadic tribes were sparse and not as advanced as the Incas or Aztecs. The wealth of the locals mostly derived from agriculture on the fertile land and from mining silver. In Latin, argent means silver; the term Argentina has been used since the beginning of the 17th century as the name for this territory.

In the first decade of the 1800s, Spain was preoccupied with Napoleonic Wars. Spanish colonies saw this as an opportunity to seek independence. Argentina did it in 1816, but for decades, it was torn by conflicts about the political shape of a new country. It ended with the Constitution signed in 1853, establishing a federal political system modeled on the United States. That political consensus brought foreign investors and immigrants. Modern agriculture expanded into new areas. Newly built railroads allowed the transport of crops to ports for export. Universal free education started in 1884, soon giving Argentina the highest literacy rates in Latin America. Argentina entered the 20th century as a wealthy and, with extended railroads, a technologically advanced modern country.

The laws on paper and in reality

In his dissertation, Dr. Spruk writes: “In 1913, Argentina’s per capita income stood at 72 percent of the US level. In 2010, Argentina achieved barely a third of US level. In 1860, Argentina needed about 55 years to attain the per capita income level of Switzerland. Today Argentina would need more than 90 years to achieve the Swiss level of prosperity.” Then, he asks: “What went wrong?” One can guess that politics are to be blamed. However, as always, looking at the details is telling.

Dr. Spruk points out the differences in culture and traditions between Argentina and the United States. The Constitution of the United States emerged from norms practiced by immigrants in North America for a long time. Equality, personal liberty, and the right to pursue prosperity in a just society were self-evident values commonly respected, despite often not entirely implemented; slavery is an example.

As Dr. Spruk writes: “The Spanish elites immediately instituted (…) an exploitative labor system that rested on a forced distribution of goods and services to the local population at heavily inflated prices, keeping the nonelite population in heavy and permanent debt.” This “led to the near absence of economic opportunities for non-elites.” With the Spanish Crown selling public offices, “Intimidation, bribery, and fraud became the cornerstones of the distribution of political and economic power.” The tradition of the rule of law was much weaker than in North America. The Constitution of 1853 represented aspirations of enlightened Argentinians, not reality. It was accepted because it offered a satisfactory political compromise at that time.

In legal terms, in the United States, the situation de jure was reflecting politics as they were practiced de facto. In the newly established independent Argentina, there was a big disassociation between the two.

What went wrong

Following the Constitution, many new laws have been enacted to break from the long tradition of lawlessness. It stipulated the expansion of agriculture into new territories. The nation’s economy thrived. By the end of the 19th century, there were no more new territories for expansion. Any further growth required a higher efficiency. When facing this challenge, the old underpinnings of politics de facto prevailed over the laws as written on paper.

Agriculture was the cornerstone of the Argentinian economy. In his dissertation published in 1971, Professor Carl Solberg details the disintegration of the Argentinian economy on the example of agriculture.

In the United States, family-owned farms were the norm. New immigrants could easily acquire land for themselves. Owning his land, an American farmer was interested in improving its efficiency. In Argentina, an elite class of landlords, who usually did not cultivate their lands but rented plats to many farmers, had owned most of the arable land. Their financial aim was to get the maximum rent. They forcefully sold supplies to their tenant farmers at high prices. They rented the farmland on yearly contracts and refused to pay for any permanent improvements. Despite these structural inefficiencies, by owning a lot of lands, they had income supporting their lavish lifestyle, drastically contrasting with that of the exploited farmers.

In legal terms, tenant farmers had their civil rights violated by landowners who forced unfair contracts on them. However, there was no reliable public support to enforce equality for all citizens. In political terms, existing de facto protectionism constrained the free market. Deprived of their freedom of enterprise, farmers could not accumulate enough capital to buy their own farms. By exploiting their tenant farmers, the wasteful landowners could stay profitable. Had the free market been in place, like in the United States, the most inefficient landowners would have been forced to sell their land to the most industrious farmers. That self-regulating market mechanism, despite that being guaranteed de jure, had not been working de facto. Elites grabbed most of the wealth in Argentina.

A series of social unrest tore the country apart as farmers, and their laborers demanded better treatment. Pro-socialistic ideas arriving from Europe helped relatively well-educated Argentinians realize the injustice was taking place. Elites manipulated the formally democratic voting system to their advantage. At the beginning of the 20th century, Argentina was becoming politically unstable. With the leaders fearing a revolution, in 1912, the Sáenz Peña Law was passed. It reinstated the constitutional rights and introduced secret compulsory suffrage for all males. Unfortunately, the Sáenz Peña Law did not address the politics de facto, which, by distorting the free market forces, were the crux of Argentina’s problems.

Despite being mostly praised by historians, the Sáenz Peña Law can be seen as the beginning of the end of prosperity in Argentina. First, it did not eliminate de facto unlawful exploitation of the masses by the elites, which was the hurdle blocking the poor from advancing themselves by work. Recognizing the wealth disparity, the Sáenz Peña Law empowered the government to run wealth redistribution programs. This calmed political tensions at the moment but had a long-term demoralizing effect. For the underprivileged, getting access to welfare from the government became an easier way to advance economically than by work.

Second, by compulsory suffrage, the Sáenz Peña Law gave real political voice to the masses seeking an easy fix by supporting populist politicians. Hipólito Yrigoyen, who won a presidential election in 1916, was such a politician. Since then, until today, subsequent governments in Argentina have tried to micromanage the Argentinian economy by exploring many variants of populist policies.

How things got worse

The grain bags story is a telling example of how government involvement affected the economy of Argentina. In the United States, since the middle of the 19^th century, grain elevators had been built to store grain for wholesale trade. It increased efficiency and lowered losses. With the tenant farmers system in Argentina, there was no market incentive to build grain elevators. All grain was packed and handled in bags. Also, landowners were selling these bags to their farmers at a high profit. Most of these bags were made with fabric imported from India.

In the years 1917-18, due to trade disruptions caused by World War I, Argentina experienced a shortage of grain bags. Their price tripled. The Argentinian government tried to help. It arranged with the British Consulate that Argentinian farmers could buy their bags at a reasonable price from the British agency operating at the consulate. It did not work well, as most farmers did not have the cash to pay for these bags in advance, as required. Then, the ordered bags were delivered too late, resulting in a significant loss of grain.

Frustrated, the government went into the bag business itself. It provided its bags too late for the 1919 -20 season. Furthermore, the bags ordered by the government agents were 25% smaller than the industry standard. In the meantime, the market reacted, and since 1920, bags were again available at a reasonable price. The press publicized that because of the corruption of the whole process, the government ended up with 29 million bags that no one wanted to buy.

The prosperity was flowing away slowly

The populist policies lost public support when the Great Depression hit Argentina. Although the writing was on the wall before 1912, most historians see the decline of Argentina starting with the military coup in 1930. It restricted the populist redistribution of wealth and restored the privileged position of the oligarchy. Electoral fraud and political oppression further destroyed the political institutions, which, in the United States, formed a legal framework for economic prosperity despite the imperfections.

In 1943, the next political turn brought back the anti-elitist orientation, leading to the decade under Juan Peron, a famous populist leader. As the supreme court supported the legality of the previous military junta, Peron is remembered for the illegal firing of supreme court judges and forcing others to resign. It had weakened the next cornerstone institution of a stable political system.

Surprisingly, the economy was withstanding the political chaos pretty well. As I wrote earlier, the conditions contributing to the economic growth of Argentina practically existed for only about the last 40 years of the 19th century. By 1900, they were gone. In 1895, Argentina was on par with the United States. Then, until 1915, the Argentinian GDP per capita still fluctuated around 70% of that of the United States. It declined slightly in the following 25 years. Then, in early 1940, it dropped to about 50% of the GDP per capita of the United States and stayed at this level for the next 35 years. Next, it dived again in the 1970s, staying around one-third of that of the United States for the last decade. These numbers indicate how resilient the once-prosperous economy can be. For almost half a century after the political condition for prosperity ceased to exist, Argentina still was relatively wealthy. It hit the bottom spot on a century later, in 2002. It is hard to kill prosperity, but Argentinians proved that it could be done.

Interestingly, there are no signs that Argentinians realize how they did it to themselves. Political factions there still are busy trying to fix the economy. The concept of a small government is not popular. The free-market ideas do not have voters’ support. The simple notion that Argentinians can fix their country themselves, not asking their next government to do this for them, is not trendy.

The case of the United States

In defense of the Argentinians, the free market does not have a good press in the United States either. Interestingly, at the beginning of the 20th century, there was a lot of discontent in the United States as well. For the same reason as in Argentina. The underprivileged were dissatisfied that they did not take part in the growing wealth as they deserved. Similarly, as in Argentina, the United States government received extra powers to intervene in the economy. It was secured by the 16th Amendment to the Constitution, establishing a federal income tax in 1913.

In the following years, the government voted in Prohibition and got deeply involved in micromanaging immigration. Prohibition has been repealed, but the government is still tightly controlling immigration today. Later, Social Security came to life, as well as Medicare, Medicaid, pensions for government employees, and numerous other wealth redistribution programs.

Despite a few bumps, the economy of the United States is still growing; however, the pace of this growth within the last hundred years is slower than before. The ideas of a small government and the market-driven economy are still robust among Americans, and grassroots support for a limited government protected the United States from following the path of Argentina. But this is changing. Populist ideas are gaining support. When facing a problem, the American pioneers of the 19th century, at first instinct, tried to find out how to resolve it by themselves, or with the help of their compatriots. When today’s Americans see a problem, their first instinct is to ask the government to fix it for them.

Similarly, when addressing social disparities, the government tends to do more wealth redistribution. Creating conditions that encourage people to advance themselves by work is a second thought. Likewise, as Argentinians did about a hundred years ago, many Americans believe that elites have too much political power, and the abilities of individuals to prosper are limited as a result. As Argentinians did before, many Americans fall for the illusion that the solution is in electing populist politicians.

The recent rapid growth of China shows how many growth possibilities the United States has missed. The analogies to Argentina come to mind. On a positive note, the slow decline of the Argentinian economy due to adverse political conditions gives us hope that it may take many decades before the United States ends up as Argentina did. Most of the readers of this text might be gone by then. On the negative side, the slow slope of the decline might be ignored until it is too late to stop it.

The case of China

It appears that the leaders of the Communist Party of China did not get the memo that the free market is out of fashion. In the 1970s, they noticed that tiny Hong Kong had a GDP per capita that was about 30 times higher than mainland China’s. The crucial difference between the two was the free market economy in Hong Kong. The well-being of Chinese citizens is the principal objective of the CPC; hence, if the free market worked for Chinese people in Hong Kong, why not try it in the rest of China as well? They started in 1980 with the Shenzhen Special Economic Zone in the area bordering Hong Kong. As it worked fine, the free-market policies expanded. In 2018, China’s GDP per capita was 22 times higher than in 1980. Hong Kong got its cut as well, as its GDP per capita grew 3.6 times in the same period. At the same time, the GDP per capita in the United States increased only 1.9 times. The comparison to Hong Kong shows the lost growth opportunities.

The last 40 years in China are analogous to four decades of the rapid growth of Argentina in the years 1860-1900. For a long time, mainland China had a centrist government with a marginal tradition of the freedom of enterprise. The overwhelming success of China shocked the world, but it seems equally surprising to the Chinese as well. Similarly, as in Argentina, it did not arise from a long tradition; it resulted from a conscious adoption of a faraway idea. The CPC leaders took full credit for that unprecedented economic growth, despite the fact that their most significant contribution was in stepping aside and not stopping people from advancing themselves.

Emboldened by their success, Chinese leaders are eager to manage it. Forty years ago, they were keen to learn from Hong Kong; now, they feel entitled to tell Hong Kong how things should be run. From the thousands of posts on Quora about the social turmoil in Hong Kong, one can conclude that the mainland Chinese do not get what the people of Hong Kong want. Personal liberty is often etheric; it manifests itself in a multitude of commonly petty things that people do their way. But, the sum of these individual choices makes people happy and societies prosperous; despite that, for an outside observer, those personal preferences might seem nonsensical. The recent tension between Hong Kong and China reveals a conflict between formal, de jure recognition of the benefits of the free market policy, and the old fashion politics as de facto are still there.

In previous decades the CPC launched many ambitious projects like the Great Leap Forward or the Cultural Revolution. They turned disastrous not only because of the errant concept but also because the impoverished country could not afford extravagant ventures. Now, Chinese leaders have money for such projects. Some of them, such as building an extensive network of rapid railroads, or the Belt and Road Initiative, make economic sense. Others, as expanding surveillance networks, especially when targeting ethnic minorities, asides from moral objections, seem to be economically pointless. Those might be the augury of a decline of the prosperity that China has just begun enjoying. Looking at China’s spectacular success, Argentinians can learn a few things as well, if they aspire to repeat the success of their ancestors. For China, the challenge is in avoiding the fate of Argentina. It may take a few decades before we will know how severe this challenge is.

The lessons from Argentina

There are plenty. Societies seem to ignore them. Wise people say that history is a great teacher. However, smarter skeptics tell us that history teaches us that it cannot teach us anything.