Optimum Currency Pegs for Latin America

Abstract

THE POSTWAR ECONOMIC RECORD of Latin America from 1950 to 1979 is a mixed one. Inflation rates range from a low of 3 percent in Honduras, Panama, and Venezuela to highs of 120 percent in Chile, 67 percent in Argentina, and 37 percent in Brazil. Further, these rates have been stable in the low inflation countries with a standard deviation (S.D.) of about 4 percent, while in Chile, Argentina, and Brazil the standard deviations in the inflation rates were 1 15 percent, 95 percent, and 20 percent respectively. Monetary growth rates exhibit the same pattern: low and stable in some countries, high and unstable in others. Real growth rates range from lows of 1 percent in Uruguay to highs of 9 percent in Brazil and Mexico. For the eighteen Latin American countries as a whole, the inflation rate since 1950 has averaged 21 percent with a standard deviation of 30 percent, monetary growth rates 29 percent (S.D. of 25 percent), and real growth rates 5 percent (S.D. of 2 percent). One striking fact emerges from a cursory examination of this historical record: countries that peg to the U.S . dollar experience low and stable inflation rates, while those that do not exhibit high and unstable inflation rates. The choice to peg to the dollar is, simultaneously, a decision not to inflate more than the United States. It is a clear signal regarding the future supply of local money. Similarly, a decision to inflate more than the United States is, simultaneously, a choice not to have a fixed