6

CONTROLLING
HYPERINFLATION AND
STRUCTURAL ADJUSTMENT
IN NICARAGUA
Oscar Catalán Aravena

An unfavourable international context, long years of war and economic

blockade, and a policy of transformations which affected the efficiency in
the allocation of resources generated macroeconomic imbalances in the
period 1979–87 which brought the mixed Sandinista economy to the brink
of collapse. Structural adjustment, which had been postponed by the war
and the international political conjuncture, could not be put off any longer
by the beginning of 1988.
In 1988 the Sandinista government put an end to the expansionist policy
and initiated an adjustment programme orientated towards the reestablishment
of macroeconomic equilibrium by means of corrections in relative prices
and a reduction of demand. This policy, which could count on a solid base
of social support at first, but which lacked the support of the multilateral
financial organizations, failed through the lack of external funding. The results
were hyperinflation, increased recession and social frustration.
With the arrival of the new government, starting in April 1990, the war
was rapidly brought to an end and Nicaragua was readmitted to the
international financial community. From then on, the Violeta Chamorro
administration has implemented a strategy of accelerated transition towards
a free-market economy. Within the framework of the new strategy, the
stabilizing efforts initiated by the Sandinistas were continued.
The Mayorga Plan implemented in 1990 was unsuccessful in its attempt
to bring a rapid halt to inflation. During the first year of the Chamorro
administration, an inconsistent restrictive policy was applied, due to the
open resistance of wide social sectors and to the failure to materialize of
the foreign aid which had been promised. During this period, characterized
by the test of strength and open confrontation between the new government
and the Sandinista opposition, the country was on the verge of civil war.
At the end of 1990 the government signed economic and social agreements
with trade unions and peasant organizations. These agreements later

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functioned as a political basis for the implementation of the Lacayo Plan,

which came into force in March 1991 and which put a sudden stop to
hyperinflation in April. From the second quarter of 1991 the government
considered that the stage of economic reactivation had begun. In order to
guarantee a flow of concessionary resources to finance the deficit during the
period of economic restructuring, the government signed a stand-by agreement
with the International Monetary Fund (IMF) in October 1991. This agreement
enabled it to count on sizeable external resources in 1991 and 1992.
Despite the foreign aid received and the favourable renegotiation of the
foreign debt with the member states of the Club of Paris, the policy applied
was not able to reactivate the economy, and the process of impoverishment
and marginalization of broad social sectors continued. The attempts at
economic reactivation were limited by the restrictive policies that were
applied and the accelerated liberalization of foreign trade.
In 1993 the total flow of external resources contracted, particularly the
flow of liquid resources, as a result of which a substantial part of the
effective expenditure was tied to specific projects and to servicing the
external debt. The scarcity of external resources made it necessary to step
up the restrictive character of the fiscal and monetary policy. The year
1993 closed with a reduction in economic activity, the reduction of the
international reserves to a critical level, and with a slight upswing in inflation.
The aim of this chapter is to present: an analysis of the macroeconomic
stabilization and structural adjustment policies implemented in the 1988–
93 period; a critical evaluation of their effects; and an elaboration of
suggestions for a policy of reactivation capable of halting the prolonged
recession and initiating a sustainable economic growth.

THE STABILIZATION AND ADJUSTMENT

POLICY OF THE SANDINISTAS
Right from the monetary reform of February 1988 to the end of 1989, the
main objective of the economic policy of the Sandinista government was
to correct the macroeconomic imbalances which had arisen during the war
years and to apply the Sandinista mixed economy strategy. The Sandinista
stabilization and adjustment programme did not count on the support of
the multilateral financial organizations.
In 1988 efforts were concentrated on the realignment of the system of
relative prices. To this end, the multiple exchange rates were unified, the
córdoba was heavily devalued, and the main domestic prices were freed.
Furthermore, measures were taken to contain inflation by reducing the
fiscal deficit and controlling credit. The policy of correcting relative prices,
by means of devaluation of the exchange rate, generated increased inflation,
which in turn necessitated further devaluation. The result was a remarkable
devaluation/inflation spiral: the average annual devaluation of the exchange

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rate in 1988 was 281,757 per cent (Neira and Acevedo 1992:38), and the
cumulative inflation for that year stood at 33,657 per cent.
Despite the reduction in economic and social investment, the attempts
to reduce the fiscal deficit failed in 1988 as a result of the inflexibility of
defence expenditure and the exceptional social costs of hurricane Juana.
The main adjustment variable was the real wage, which contracted by
more than 40 per cent. The contraction of demand in turn brought about
a reduction in economic activity of 13.5 per cent.
The main aim of economic policy in 1989 was to contain the
hyperinflation unleashed by the series of devaluations. To this end, drastic
cuts in public spending were applied, which brought down the fiscal deficit
from 26.6 per cent of the Gross National Product (GNP) in 1988 to a mere
6.7 per cent in 1989, while the real liquidity of the economy fell by more
than 50 per cent in relation to the 1988 level (Acevedo 1993:109). These
measures enabled a significant de-acceleration of inflation, which was
reduced to 1,689 per cent in 1989, and deepened the economic recession:
the GNP fell by 1.8 per cent and underemployment and unemployment
increased to almost 40 per cent of the active population.
To sum up, as a result of the lack of support of international reserves
and of the failure of any foreign financial injection to materialize, the
Sandinista government’s attempts to correct the macroeconomic imbalances
which had accumulated in the course of ten years of revolution released a
hyperinflationary process and a profound recession, with the concomitant
enormous costs in economic, social and political terms.
The GNP fell by 15.3 per cent during the period 1988–9, and the per
capita fall in the GNP was almost 20 per cent. The outbreak of the recession
affected all productive activities, especially those connected with the
domestic market: production in the manufacturing sector dropped by 25
per cent in 1988 and 2.7 per cent in 1989 (Dijkstra 1994:19). As a result of
the recession, almost half of the small industrial companies had to close
down. The social costs were primarily expressed in the explosive growth
of underemployment and unemployment and in the accelerated deterioration
of basic social services.
The defeat of the Frente Sandinista de Liberación Nacional (Sandinista
Front of National Liberation, FSLN) in the elections held in February 1990
and the triumph of the Unión Nicaraguense Opositora (National Opposition
Union, UNO) coalition reflected the social discontent arising from the
consequences of the adjustment and the weariness at the sacrifices imposed
by the war. During the transitional period from February to April 1990,
which followed the UNO’s electoral victory, the new government
considerably loosened up the rigorous fiscal regime applied during 1989,
mainly by means of significant adjustments to salaries in the public sector,
leading to a new acceleration of the fiscal deficit and inflation (Dijkstra
1992:183). The government of President Chamorro put an end to the

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Sandinista policy of mixed economy and initiated the transition towards a

free-market economy in Nicaragua.

CONTROLLING HYPERINFLATION
After the change of government, the war came to an end, the United
States lifted the trade blockade which had been affecting Nicaragua since
1985, and the country was readmitted to the international financial
community. The Chamorro administration continued the attempts at
stabilization by the previous government and simultaneously launched an
accelerated programme to liberalize the economy. The strategy of
stabilization and structural reform that was formulated is in line with the
conceptual framework promoted by the IMF and the World Bank (Medal
1993:93).
With the so-called Mayorga Plan, from April 1990 attempts were made
to contain inflation through a restrictive monetary policy and the reduction
of public spending. Thanks to the successful resistance of the labour
movement to measures that implied a reduction in employment or salaries,
current expenditure increased as a percentage of the GNP and the restrictive
policy was reflected in a drastic reduction in fiscal investments, which fell
to 1.3 per cent of the GNP. The liberalization of foreign trade was also
initiated by reducing import tariffs and selective consumer tax. Moreover,
a change of policy was implemented aimed at unifying the official rate of
exchange with that of the free market by means of weekly devaluations.
A new unit of currency, the ‘córdoba oro’, was introduced in July
1990. According to Mayorga’s plans, the córdoba oro, which was indexed
to the dollar, was intended to replace the ‘córdoba nuevo’ as a unit of
exchange and subsequently to facilitate the stabilization of prices, provided
there were sufficient international reserves available to maintain the parity
of the córdoba oro with the dollar within the regime of free convertibility
(Catalán 1993).
After the outbreak of a hyperinflationary process, the monetary and
fiscal measures applied were not sufficient to stabilize prices. Independently
of its origin, inflation was now spreading not only because of the increase
of the money supply or the pressures of demand, but also because of the
increase in the velocity of circulation of money due to the inflationary
expectations aroused among the economic agents by the constant and
massive devaluations. In an economy with prices expressed in dollars, a
spiral of devaluation/inflation emerged, and the restrictive measures
provoked an increased contraction of demand and a crisis of liquidity,
without managing to check the inflationary spiral.
In 1990, far from disappearing, inflation continued to accelerate, reaching
13,490 per cent. The economic recession continued with a new drop in
the GNP of 0.1 per cent, and underemployment reached the record of 44.6

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per cent of the active population. The fiscal deficit, which had been reduced
to manageable levels in 1989, increased explosively, reaching 17 per cent
of the GNP. Exports, which had made a considerable recovery in 1989,
continued to grow, but at a slower rate. Imports, which had fallen by 22
per cent during the last year of the previous government, picked up again,
so that the trade balance demonstrated a rather insignificant improvement.
The failure of the Mayorga Plan is due not only to the resistance of
popular sectors, but also to the low level of support from the employers’
sector, the US government’s delay in the disbursement of the aid it had
promised, and the impact of the liberalization of trade. In view of the
failure of the promised resources to materialize, it was impossible to support
the stabilization of the exchange rate which was to serve as an anchor for
prices. Devaluations increased inflation, thereby making fresh devaluations
necessary, and the fiscal and monetary restrictions deepened the recession.
In spite of the restrictions on the demand side, the balance of trade was
not corrected because a real devaluation failed to take place and the
commercial liberalization favoured an increase in imports.
From August 1990, a heavy reduction in import duties and selective
consumer taxes which mainly affected imports were begun. The rate of
nominal protection fell from 43.2 per cent in 1990 to 15.2 per cent in 1991
(Medal 1993:144–5). This alleviation of duties reinforced the existing pro-
importer bias due to the overvaluation of the córdoba.
After this first period of a trial of strength with the Sandinista opposition,
the government decided to try to make economic and social agreements
with the organizations of producers and workers. What was at stake was an
attempt to resolve the extreme political polarization pragmatically in order
to secure political viability for the project of structural adjustment. In October
1990 the trade union federations, the Unión Nacional de Agricultores y
Ganaderos (National Union of Agricultural Producers, UNAG) and the
government signed important agreements. As a result of these agreements,
the government committed itself to applying a more gradual economic policy
and selective reactivation and reorganization of agricultural loans. Furthermore,
it recognized the assignment of property by the Sandinista government (prior
to 25 February 1990) and promised to compensate landowners who had
been unjustly expropriated. For their part, the unions agreed not to organize
strikes, while the government accepted the privatization of some of the state
enterprises in favour of the workers. The union of large industrialists Consejo
Superior de la Empresa Privada (Supreme Council for Private Enterprises,
COSEP) refused to sign these agreements.
The economic agreements at the end of 1990 created the political
conditions for the implementation of the Lacayo Plan, which put an end to
hyperinflation. In March 1991 the córdoba nuevo was devalued by 400
per cent, which resulted in an increase in prices of 300 per cent. From
now on the córdoba oro came into use, replacing the córdoba nuevo as a

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unit of currency. Prices rose by 20 per cent in April, and inflation came to
an abrupt halt after then.
The anti-inflationary policy consisted of indexing domestic prices to the
dollar and then freezing the exchange rate. Once prices had become indexed
to the dollar, the exchange rate was stabilized through the introduction of
the córdoba oro (indexed to the dollar) as the unit of currency. In order to
discourage inflationary inertia and to back up the stabilization of prices
which had been achieved, the government decreed the reduction of certain
prices and tariffs for public services and exercised administrative supervision
of the key prices, including freezing wages and the exchange rate. The
donations by the United States Agency for International Development
(USAID) ensured a plentiful supply of food during the first three months,
thereby reinforcing the package of heterodox measures which had been
applied.
A stable exchange rate, in a regime of free convertibility in which the
Banco Central de Nicaragua (National Bank of Nicaragua) does not emit
currency which is not backed by international reserves, was possible thanks
to the resources received from abroad in 1991, especially from the United
States. The total in foreign aid in 1991 amounted to US$884.5 million in
donations (equivalent to 51.2 per cent of the GNP) and US$604.6 million
in loans (Banco Central 1992:194–7). The Economic Stabilization Programme
was supported with US$717 million, of which US$306 million were liquidities
in the form of bills of exchange which were used to finance imports, to
increase the international reserves, and to finance the fiscal deficit (‘Nitlaplán’
1993:4–10).
After prices had been stabilized in the second quarter of 1991, the
government considered the stabilization stage to have come to an end. It
announced the start of the stage of economic reactivation. With price stability
and the guarantees that had been offered, it was initially hoped that private
investment would play a spontaneous reactivating role. However, the role
of the private sector turned out to be a different one.
The lack of interest on the part of the sectors with investment capacity
and the repatriation of capital can be explained by economic factors, such
as the poor state of the infrastructure, the overvaluation of the córdoba,
the fact that energy prices were above regional levels, the lack of liquidity,
the fragility of the stabilization, and by political factors connected with the
problem of the properties confiscated during the previous administration.
The medium and small producers did not reactivate their investments
for mainly economic reasons. The maxi-devaluation of the dollar in March
1991, combined with credit restrictions, had destroyed their work capital
and broken the small and medium producers, who could not pass on their
increased costs in prices because of the price stabilization. Moreover, once
prices had been stabilized, the fiscal and financial policies maintained
their restrictive character, which accentuated the recessive tendencies.

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Table 6.1 Nicaragua: main economic indicators (1988–93)

Source: CEPAL, based on official statistics

The success gained over inflation in 1991 was overshadowed by the

economic recession and the social consequences of the policies
implemented: although inflation reached minimal levels from April 1991,
the GNP fell by 0.2 per cent, representing a drop of 3.6 per cent per capita
(see Table 6.1). The trade deficit rose by 68 per cent, unemployment and
underemployment affected more than 53 per cent of the active population.
Unemployment, low wages, and the deterioration in education and health
services exacerbated extreme poverty and social tensions, bringing about
a dangerous process of social disintegration.

THE IMF CONDITIONS AND THE ATTEMPTS

AT REACTIVATION
In September 1991, six months after prices had been stabilized, the
government signed a stand-by agreement with the IMF, which was initially
to last for eighteen months. This agreement consisted of a loan of 41
million IMF Special Drawing Rights (SDRs), equivalent to 60 per cent of
the Nicaraguan quota (Acevedo 1993:21), dependent on the application of
a Financial Programme. From then on, the economic policy of the country
has been subject to the conditionality agreed upon with the IMF.
These terms consist of the laying down of quantitative quarterly limits to
central government spending, loans to the non-financial public sector, the
public external debt, and the internal assets of the Banco Central de Nicaragua
and its international reserves. In the event of an exogenous shock, current

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expenses must be automatically adjusted to compensate. Current expenses

are only to be paid with current income, and capital expenses are to be
financed with internal savings and external funds. Together with the financial
programme, it was decided to continue the programme of accelerated
commercial liberalization with the application of a programme of financial
liberalization allowing the functioning of private banks, the liberalization of
the rates of interest and the privatization of state enterprises.
In 1992 the government recognized the need to promote economic
reactivation with an autonomous increase in spending. As it could count
on the external funds promised by the multilateral banks (World Bank and
Interamerican Development Bank), an ambitious Public Investment
Programme (PIP) was drawn up to generate 80,000 new jobs and to serve
as the driving force behind reactivation. Due to the successful checking of
inflation, the signing of the stand-by agreement, and the favourable
renegotiation of the debt with the members of the Club of Paris, the
government’s expectations for 1992 were very optimistic: the implementation
of the Financial Programme was considered compatible with an annual
economic growth of 4.7 per cent, an increase of the international reserves
by US$15 million, and a reduction of inflation to an annual rate of 15 per
cent (Banco Central 1992:11).
Although there was a significant drop by comparison with 1991, external
aid was still considerable in 1992. US$378.6 million (equivalent to 20.6 per
cent of the GNP) were received in donations, of which US$ 142
corresponded to liquidities. The total loans received amounted to US$380.5
million, of which US$335 million consisted of liquidities (Banco Central
1992:11).
Although the government could count on sufficient resources to fund
an investment programme intended to launch economic reactivation (central
government external financing almost doubled the deficit), the PIP had a
low level of implementation and a low impact on the job market. The
main problem was the lack of national resources to meet current expenses
as a counterpart of the external resources which had been approved. In
accordance with the agreements, this problem had to be solved by a
reduction of the investment programme or a reduction of current expenditure
to generate savings. The government opted for a policy of not cutting
operating expenses even further than they had already been reduced.
The fiscal restrictions of 1992 are due to the compensatory adjustment
in public spending. This mechanism was activated as a response to the
deterioration of the external situation at the end of 1991 and the beginning
of 1992 because of the drop in prices of export products (the terms of
trade deteriorated by 5.3 per cent in 1991 and 7.3 per cent in 1992) and to
the difficulties in the disbursement of multilateral loans.
Although the disbursement of liquid credits and donations was speeded
up in the second quarter of 1992 to accelerate the execution of the

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programme, it was not possible to initiate the majority of the planned

construction programme. Construction is a state activity in Nicaragua. It
takes place during the dry season (November–April). This explains why
public investment in construction dropped by 0.8 per cent, while investment
in machinery and equipment increased by 110.4 per cent. Part of the
external resources obtained in 1992 had to remain frozen in the Banco
Central de Nicaragua without contributing to the mobilization of productive
resources which were lying idle because of the recession. These resources
could have doubled the investment programme (Acevedo 1993:48–9).
A second factor which explains the low level of execution of the PIP is
the dismantling of the capacity for preinvestment studies and the execution
of projects as a result of the reduction of civil servants. Although the repair
of the infrastructure does not require large-scale studies, part of the
disbursement of the external resources was hindered by delays or the lack
of back-up studies for the investment plans (Acevedo 1993:51). A third
factor which explains the low level of execution of the investment
programme was the crisis brought about by the suspension of part of the
US financial aid (Banco Central 1992:11). The importance of the US$100
million of USAID lies in the fact that these were liquid resources and that
their retention generated speculation on the exchange market.
Internal prices were kept at a stable level during 1992, with inflation
running at a mere 3.5 per cent, an achievement which was well above the
programmed target. However, as for the growth target, far from being
reactivated, the economy practically stagnated; the growth in the GNP was
only 0.4 per cent, implying a per capita reduction in the GNP of 3.3 per
cent. This modest result is due not only to the low level of execution of
the PIP but also to its reduced multiplier effect. As a result of the commercial
liberalization, the increased demand created by the investment programme
was translated into a strong growth in imports, revealing that internal
production is not in a position to compete with imported goods as a result
of its low level of efficiency and considerable technological backwardness.
The growth in imports at the expense of national production, and the
drop in exports, were reinforced by the overvaluation of the exchange
rate and the deterioration in the terms of trade: it is estimated that the
córdoba oro was overvalued by 22 per cent in 1992, while the deterioration
in the terms of trade was 7.3 per cent.
The relations between the government and the IMF were affected by
the problems connected with the implementation of the PIP. In addition,
other sources of tension emerged: the agreements signed by the government
to cut down the army and to demobilize the resistance implied expenditure
which had not been planned. The government financed this ‘investment
for peace’ with excess external funds because of the low execution of the
PIP, thus departing from the IMF agreement. By drawing on resources
which had not been used in the PIP, the government disbursed US$42.2

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million in debt payment—more than twice as much as planned. The stand-

by agreement was frozen prematurely in December 1992. From then on
until the end of the first half of 1994, when the negotiations on resources
and the terms of the new Enhanced Structural Adjustment Facility (ESAF)
ended, the government operated de facto in terms of an unsigned shadow
agreement.
The year 1993 was characterized by the sudden reduction in foreign
aid. The effective disbursements of loans and donations were reduced to
US$383 million, of which only US$127 million were realized in liquidities.
The rest of the aid consisted of resources tied to specific projects and to
the payment for the service of the foreign debt (‘Nicaragua: Evolución
económica durante 1993’:1).

Table 6.2 Nicaragua: fiscal indicators (1990–3)

Sources: CEPAL, based on the statistics of the Ministry of Finance and the Banco Central de
Nicaragua.

Table 6.3 Nicaragua: monetary indicators (1990–3)

1 Current córdobas adjusted by the consumer price index at the end of each year (865.6 per
cent in 1991, 3.5 per cent in 1992, and 19.46 per cent in 1993).
2 Including the public property sector.
Sources: Own calculations based on CEPAL statistics

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The reduction in external resources is explained by the termination of

the stand-by agreement with the Fund in March 1993, by the temporary
suspension of US aid and, once again, because the limited capacity of
execution of projects slowed down the rate of disbursement of the loans
that had been promised. The reduction in external resources made it
necessary to step up fiscal and financial austerity measures. The fiscal
deficit was reduced from 7.6 per cent to 6.3 per cent of the GNP: current
expenditure was cut back by 10 per cent and capital expenditure by 5 per
cent (see Tables 6.2 and 6.3). The credit of the Banco Central de Nicaragua
to the financial system was drastically reduced from 607 million current
córdobas accumulated in 1992 to only 214 million current córdobas
accumulated in 1993 (Nicaragua: Evolución económica: 14).
In an attempt to correct the anti-export bias, the nominal unit of exchange
was devalued by 20 per cent in January 1993 and an annual 5 per cent
crawling peg was introduced. Due to the existing indexing in the economy,
inflation picked up, despite the restrictive policies and the freezing of
salaries in the public sector. As inflation reached 19.5 per cent, the real
devaluation of the exchange rate was minimal.
During 1993 the hopes of economic reactivation were dashed once
again: production fell by 0.9 per cent, implying a new per capita drop in
the GNP of 4.4 per cent. In the grip of the recession, the agricultural sector
displayed a slight upswing of 1 per cent and a heterogeneous behaviour
due to the process of restructuring which the sector was undergoing. The
recession continued in the traditional export items: coffee production fell
because of the drop in international prices and the insecurity in the main
zones of production; cotton exports practically disappeared because of the
drop in the international price; sugar exports fell despite the slight
improvement in the international price. The emerging exports of non-
traditional agricultural products increased by 67 per cent, attaining a value
virtually equivalent to that of coffee (statistics for agricultural and industrial
production in 1993 are taken from CEPAL 1993).
Agricultural production for internal consumption increased in rice,
sorghum and soya, but dropped in maize and beans. Livestock production
increased by 10 per cent, especially poultry. The export of meat increased
by almost 50 per cent, becoming the main export article (US$60 million).
Fishery production increased by 66 per cent.
The reduction in economic activity in 1993 is due to the drop in the
manufacturing industry and in services. In the manufacturing industry the
most striking decreases are in textiles and ready-made clothing, metallic
products, machinery and transport material. There was a growth in items
connected with export, such as abattoirs, leather and footwear and marine
product processing.
The decrease in domestic demand and the deterioration in export activities
such as coffee and cotton resulted in an increase in unemployment, which

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came to account for more than 50 per cent of the active population.
However, the positive aspect of the results obtained in 1993 is the growth,
although still very feeble, of the export sector. The trade deficit fell by 25
per cent as a result of the increase in exports by 19.7 per cent and the
reduction in imports of 12.3 per cent.
The increase in livestock, fishery and non-traditional agricultural exports
is an indication of the growth of activities forming the spearhead of the
reactivation. Some slight indications of reactivation were also perceptible in
the manufacturing industry in activities connected with the export of livestock
and fish. The reduced deterioration in the terms of trade in 1993 was due to
the variation in the structure of exports in favour of these items.
Thanks to the severe fiscal and financial restrictions, price stability was
kept within reasonable limits, although the reduction in international reserves
of US$100 million demonstrates the fragility of the stabilization that has
been achieved and its dependence on the flow of aid from abroad. The
increased social conflicts revealed once again the weakness of the base of
social support for the reform project that has been implemented. The political
viability of the transition to a free-market economy appears seriously
threatened by the mediocre economic results of the structural adjustment
and its high social cost.

SUGGESTIONS FOR A REACTIVATION POLICY

The stability of prices achieved in 1991 is extremely fragile, and the restrictive
policies applied to sustain it generate economic recession, which in turn
encourages social and political conflicts. In an economy with a rate of
unemployment running at more than 50 per cent of the active population,
with an idle productive capacity because of the reduction in expenditure,
the claim that the problem is one of excessive demand is hardly convincing.
Additional restrictions on demand are equivalent to a continuation of the
generation of recession, a destruction of productive capacity, and a lack of
governability.
In spite of the large amount of foreign aid received, the economy has
not been reactivated, nor have the conditions been created to replace
temporary foreign aid by investments. As a result of the policy applied,
exports—which should have been the driving force behind reactivation—
have fallen and imports have risen. Consequently, the increased trade deficit
has swallowed up an important part of the abundant concessionary resources
which the country had at its disposal.
The slight positive effects of the restructuring of the economy are
counteracted by the recessive effects, the conflicts, and the social
disintegration produced by the structural adjustment. A policy geared towards
increased use of the productive potential would enable economic recovery
and reduce unemployment. The solution to the crisis is not to be sought

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in trying to cut back demand, but in the availability of resources and, in

particular, in their efficient utilization. The Nicaraguan problem is how to
restore sustained economic growth.
The adjustment policies envisage measures to cut down expenditure in
order to reduce the difference between aggregate demand and supply, as
well as modifications in relative prices in favour of tradeable goods.
Expenditure cuts, which produce recession in the short term, are necessary
to the extent that it is not possible to finance a substantial part of expenditure
permanently from external resources. The recessive effects of the cuts in
spending should be compensated by the reactivation of exports and the
drop in imports encouraged by the real devaluation of the exchange rate
and other measures in favour of tradeable goods.
In the case of Nicaragua, drastic measures have been implemented over
a period of six consecutive years to reduce demand. However, the measures
tending to modify relative prices in order to encourage the production of
tradeables have not achieved the desired result, both because of a lack of
flexibility which prevent supply from reacting to the signals emitted by the
market, and because of the feebleness and contradictory nature of these
signals. The result is a profound recession and an increase in the trade
deficit, which has been covered by foreign aid.
In Nicaragua, in which the value of imports is almost three times as
high as that of exports, the elimination of the trade deficit by reducing
aggregate demand to the level of the supply would generate such an
enormous recession in the short term that it is not viable in political or
social terms. The magnitude of the problem calls for a gradual approach.
The gradual reduction of demand should be accompanied by measures
which help to overcome the existing inflexibility on the supply side. As
the majority of improvements on the supply side are only possible in the
medium or long term, breaking the vicious circle of economic recession,
restrictive policies, and social conflicts requires the maintenance of the
flow of aid from abroad to finance the changes in the supply side and to
support a climate of social and political stability.
The policies applied have been inconsistent in implementing an
accelerated reduction in tariffs with an overvalued exchange rate.
Furthermore, the financial liberalization has led to very high real interest
rates and high differentials between active and passive rates.
Nicaragua is an extremely polarized society which is undergoing an
accelerated process of social disintegration as a result of the marginal
existence and extreme poverty of the majority of its population. The forced
application of a policy which generates more recession, in the hope that
the market will resolve the problems, implies huge risks, not only for the
viability of the transition to a market economy, but also for the very viability
of the whole country. The gravity of the situation necessitates a revision of
the policies applied during the last four years. A reorientation of economic

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policies is required to break the vicious circle of economic recession/

restrictive policies/social and political instability.
The proposed reorientation consists of a change of emphasis from the
policy of limiting general demand to a differentiated policy of promoting
and restructuring supply. To this end, the structural adjustment programme
should be made more flexible with the introduction of heterodox elements,
and more attention should be paid to the relation between macroeconomic
and social balances, since the application of limited programmes to
compensate for the social effects of the adjustment is not sufficient to
guarantee its political viability.
Irrespective of the fact that priority was assigned to stabilizing prices in
Nicaragua and that the anchoring of the exchange rate was the instrument
chosen to achieve this end, it would appear that the real devaluation of
the exchange rate is not feasible in the short term. Although a restrictive
fiscal and monetary policy remains in force, a nominal devaluation implies
the resurgence of inflation due to the existing indexing in the economy
(increase in the velocity of circulation of money and economic recession).
On the other hand, a real devaluation implies a drop in real wages in the
short term, which in Nicaragua tends to be reflected in a drop in productivity;
moreover, it is uncertain whether it is politically sustainable. In these
circumstances, a real devaluation of the exchange rate depends on increases
in productivity and improvements on the supply side, which are only
possible in the medium term.
As long as the exchange rate remains overvalued, it is necessary to
counter the anti-export bias by means of selective intervention to channel
resources towards production, especially tradeable goods, and to divert
them from consumption, so that the external imbalance can gradually be
reduced. The proposed heterodox elements—policy of selective credits,
preferential rates of interest, freezing of the commercial relief, and
preferential fiscal policy—should form a package of measures aimed at
reactivating the economy and actively promoting exports.
In an open economy like the Nicaraguan one, an increase in the monetary
supply would generate an increased liquidity, which would manifest itself
as an increase in demand, which would be satisfied to a large extent by
additional imports. In the first instance the international reserves would
decrease; later prices would rise. Therefore, rather than increasing credits
outside the increase in the international reserves, it is a question of
channelling credit towards production and investment and fixing limits to
consumer credit. Similarly, it is necessary to adopt preferential interest
rates which, without failing to encourage saving (with positive real rates),
promote investment in production, especially in the export sector.
The commercial policy should in the first instance freeze the current
process of lowering tariffs, as long as the decided reactivation of the export
sector is not realized and as long as a real devaluation of the exchange

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rate to put an end to the anti-export bias is not possible. In addition, an

efficient use of the external resources signifies that they should finance the
reactivation instead of being limited to financing consumption. This calls
for temporary alterations to the policy of indiscriminate commercial freedom
which is in force at the moment. The temporary commercial policy should
facilitate the import of intermediate goods and vital consumer goods, as
well as temporarily reducing the import of luxury consumer goods or
goods that compete with national production.
Fiscal policy should develop direct activities of reactivation and promotion
of production to make it possible to exceed the minimal investment levels
of the past few years and to contribute to overcoming the enormous
technological backwardness and to increasing productivity. To this end, it
is necessary to finance a coherent package of infrastructural and productive
reconversion projects. The available external resources should be used
preferably to improve the infrastructure in support of the export activities
and restructuring projects in that sector.
Furthermore, mechanisms of social protection should be reinforced to
compensate for the social impact of the adjustment, in a search for solutions
to enable the sectors affected to come up with responses on the supply
side by developing productive alternatives. The financing of the deficit
should be tackled not only by cutting expenditure but also by increasing
revenue: the reduction of the regressive tendency of the policy on duties
is possible by increasing taxes on luxury goods and by increasing direct
taxes.
From 1992 onwards, the debt service has swallowed up external resources
and has seriously affected the fiscal budget. Nicaragua is not in a position
to maintain the debt payment schedule which has been drawn up. The
available external resources should be used primarily to finance the
reactivation of the economy: without economic reactivation, it will be
impossible to pay the debt.
The application of the proposed economic policy is a technical issue,
but it is also a political one, since it entails a redefinition of the agreements
made with the international organizations and creditor countries. This
requires a forceful government, capable of demonstrating to the international
community that the continuation of the present policy will place the country
in a cul-de-sac.

REFERENCES
Acevedo, A (1993) Nicaragua y el Fondo Monetario International: El pozo sin Fondo
del Ajuste, Managua: Latino Editores.
Banco Central de Nicaragua, Informe Anual (1990, 1992), Managua.
Catalán, A.O. (1993) ‘The logic behind the stabilisation policies of the Chamorro
government in Nicaragua’, in W.Pelupessy and J.Weeks (eds), Economic Mal-
adjustment in Central America, Basingstoke: Macmillan.

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Dijkstra, A.G. (1992) ‘Hervorming, stabilisatie en aanpassing in Nicaragua’, Economisch

Statistische Berichten, 3847:180–4.
——(1994) ‘The impact of structural adjustment on Nicaraguan manufacturing’, paper
presented at the XVII Conference of the Latin American Studies Association,
Atlanta, March 1994.
Medal Mendieta, J.L. (1993) Nicaragua: Políticas de estabilización y ajuste, su
interrelación con la estrategia de desarrollo, Managua: Multi-Print.
Neira, O. and Acevedo, A. (1992) Nicaragua: Hiperinflación y desestabilización,
Managua: Cuadernos CRIES, serie ensayos 21.
‘Nicaragua: Evolución económica durante 1993’ (1994), mimeo, April, Santiago de
Chile: CEPAL.
‘Nitlaplán, Tanta ayuda externa ¿adonde va?’ (1993) Envío 137, May: 4–10.
Observador Económico, Managua: FIDEG, various numbers.

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