The Economist: The challenge to paternalism

Economist, The (London, England) - Saturday, April 6, 2002
Two of Latin America's smaller but more successful countries face pressure to change. We report first on Costa Rica's election, and then on Uruguay's woes

THE campaign for Sunday's presidential election has centred on personalities and peccadillos, with scarcely any discussion of the main issue: how much longer can Costa Rica afford to be different? Standing out from its impoverished neighbours in the turbulent Central American isthmus, Costa Rica has been a small haven of egalitarian, democratic tranquillity since a 1948-49 revolution which abolished the army, assigned the defence budget to education, and created a powerful, paternalist state. Though not a rich country, life expectancy in Costa Rica (at nearly 77 years) is not only the highest in Latin America but higher than Denmark 's.

After defaulting on its debt in 1982, Costa Rica began cautious free-market reforms. But the issue facing the country now is how to sustain a European-style welfare state on a Latin American tax base. Tax revenues total just 12% of GDP, while public debt has grown to almost $9 billion, or 55% of GDP. "We spend like we're rich but pay taxes like paupers," says Eduardo Lizano, the president of the central bank. "It has to end soon but it will be painful."

That may be why the candidates have not wanted to debate this issue. Nor, apparently, do the voters. When Miguel Angel Rodriguez, the outgoing president, tried to open up the state telecoms and energy monopolies to private competition, he triggered the biggest street protests since the revolution .

Mr Rodriguez did succeed in opening up the economy to foreign competition, signing free-trade deals with Mexico and Canada. Skilled workers and political stability have attracted foreign investment, such as an Intel silicon-chip factory (the only plant of its kind in Latin America), and a pharmaceutical plant. Such investments have stimulated clusters of high-tech local firms. They helped turn Costa Rica into an export powerhouse, and fuelled economic growth that averaged 5.6% a year in the 1990s.

The president's critics say that this has created a two-speed economy. Many Costa Ricans work in traditional industries, such as bananas, coffee and other sorts of farming. These are struggling. On the one hand, the government has withdrawn subsidies. On the other, businessmen say that expensive state-run services such as electricity and telecoms undermine their competitiveness. In a country of 4m, there is a waiting list of 100,000 for a mobile-phone number, and only one Internet service provider. The government's debt keeps interest rates high. "Think of the country as an aircraft with two engines. The private-sector engine works but the public-sector one does not," says Samuel Yankelewitz, a businessman.

The private engine may work, but many voters suspect that privatisation leads to corruption. Such fears were strengthened by claims that the state power distributor has overpaid private electricity generators, some of them owned by politicians. Such scandals are breeding disillusion with the two parties that have alternated in power since the revolution , the social-democratic National Liberation Party (PLN) and centre-right Social Christian Unity Party (PUSC). In the election's first round in February, Otton Solis, a defector from the PLN who has formed a new party, grabbed 26% of the vote, forcing the two main parties into a run-off for the first time. Mr Solis campaigned against corruption, and for protectionism. In another sign of public disaffection with politics, only 69% of voters went to the polls, the lowest turnout since 1958.

Opinion polls suggest the run-off will be won by Abel Pacheco of the ruling PUSC. But Mr Pacheco, a psychiatrist who hosts a television show, is himself something of an outsider: he won his party's nomination against the opposition of its bosses. He says he wants Costa Rica to follow the Netherlands, combining economic efficiency and high social spending.

Whoever wins will lack a majority in Congress, in which the grip of the two traditional parties has been challenged not just by Mr Solis (who will hold the balance of power) but also by a free-market party (which captured six of the 57 seats). So Costa Rica looks set to muddle on.

The new president's first decision will be whether to endorse a report by a group of former finance ministers which is expected to call for tax reforms, including the introduction of VAT, to cut the fiscal deficit from 2.9% of GDP to zero over five years. But economic reform may need to be preceded by political reform: the constitution bans presidents and congressmen alike from running for a second term, giving little accountability and every reason to take money and run. When Oscar Arias, a successful president of the 1980s, organised and won a referendum to allow him to run again, the party leaders united to thwart this.

Even so, Costa Rica remains a success story, attracting some 300,000 migrants from Nicaragua, its poorer neighbour, for example. And its difficulties, such as how to pay for pensions and social entitlements, resemble those of the developed world. They are problems that many of its neighbours would welcome.