Peru's Great Depression: A Perfect Storm?

Abstract

We describe Peru's great depression over the 1970’s and 1980’s and discuss possible hypotheses that may explain its deep collapse and slow recovery. The main finding of the paper is that it is very hard to find a single explanation for Peru's great depression. Very much like a perfect storm, so many things went wrong at the same time, with the effects of each negative shock amplifying those of the other shocks. In particular, our findings suggest that the external shocks that hit the country in the 1980s were amplified by a weak and fractionalized political system (for a discussion of the interaction between external shocks and ability to recovery from external shocks, see Rodrik, 1999), limited domestic entrepreneurial capacity, and lack of a coherent industrial policy that could lead to the discovery of new productive activities. * Authors’ E-mail addresses: lllosa@pucp.pe and ugo.panizza@graduateinstitute.ch. We would like to thank Miguel Castilla, Jeff Frieden, Ricardo Hausmann, Eduardo Moron, Francisco Rodriguez and seminar participants at Harvard's JFK School for useful comments and suggestions. The opinion expressed in this paper are those of the authors and do not necessarily reflect those of Centrum Graduate School of Business PUCP or Graduate Institute Geneva. The usual caveats apply. CENTRUM Catolica’s Working Paper No. 2015-07-0008 The expression “Perfect Storm” refers to the simultaneous occurrence of events which, taken individually, would be far less powerful than the result of their combination. Such occurrences are rare by their very nature, so that even a slight change in any one event contributing to the perfect storm would lessen its overall impact. (Wikipedia) Introduction Over the 1970s and 1980s Peru went through a series of deep and protracted economic crises which generated enormous output losses. While output collapses are not uncommon in the emerging world (in a sample of 31 emerging market countries over the 1980-2004 period, Calvo et al., 2006 identify 22 events), Peru stands apart for the rapid succession of crises. For three times in a row, as soon as output would recover to its pre-crisis level, a new crisis would hit the country and destroy all the progress made during the previous years. As a consequence, the growth rate of Peru's GDP per capita averaged to 0 percent over a thirty-year period (1975-2005), a horrible performance even when compared to Latin America's dismal rate of economic growth. Moreover, while Calvo et al. (2006) document that great depressions tend to be V-shaped (i.e., characterized by a rapid collapse and a rapid recovery with almost no investment), the recovery from Peru's deepest collapse took 15 years, clearly not a V-shaped crisis. The objective of this paper is to describe Peru's great depression and discuss possible hypotheses that may explain the deep collapse and slow recovery of the Peruvian economy. The main finding of the paper is that it is very hard to find a single explanation for Peru's great depression. Very much like a perfect storm, so many things went wrong at the same time, with the effects of each negative shock amplifying those of the other shocks. In particular, our findings suggest that the external shocks that hit the country in the 1980s were amplified by a weak and fractionalized political system (for a discussion of the interaction between external shocks and ability to recovery from external shocks, see Rodrik, 1999), limited domestic entrepreneurial capacity, and lack of a coherent industrial policy that could lead to the discovery of new productive activities. The Lost Three Decades A deep regional economic crisis led the UN Economic Commission for Latin America (ECLAC) to call the 1980s the continent's lost decade. While the 1980s were not a