Distributional effects of dollarisation: the Latin American case

Abstract

Over the past two years Ecuador, El Salvador and Guatemala have adopted the US dollar as a legal currency in their countries. Several other Latin American countries, including Argentina, are currently discussing dollarisation. In this policy paper we look at the existing evidence for answers to two basic questions. First, under what general circumstances might dollarisation make sense? Second, are there clearly differentiated winners and losers from dollarisation and, if so, can we identify them, so that policy can take these political economy factors into consideration? Our review of the evidence demonstrates that there are consistent patterns of distributional effects, both positive and negative, from the choice of exchange rate regime. These effects are presently not considered in exchange rate policy decision making, but should be. While the effects are not as pronounced as those from major trade liberalisation agreements, they are significant. Ways to cushion the effects of exchange rate regime choice should be considered in the future by policy makers. Moreover, we find that dollarisation is embedded in the politics of the region. Dollarisation is often sold as a substitute for the deeper institutional reforms needed to improve economic performance and distribution in Latin America.