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...enforcement property rights, maintenance macroeconomic stability, integration with the world economy, and creation of a sound business environment. Results have been extraordinarily varied. In fact, what the experience of the past 15 years has shown is that policies that work wonders in one place may have weak, unintended, or negative effects in other places.
In this article, we propose a new approach to reform--one that is much more contingent on the economic environment. Countries, we argue, need to figure out the one or two most binding constraints on their economies and then focus on lifting those. Presented with a laundry list of needed reforms, policymakers have either tried to fix all of the problems at once or started with reforms that were not crucial to their country's growth potential. And, more often than not, reforms have gotten in each other's way, with reform in one area creating unanticipated distortions in another area. By focusing on the one area that represents the biggest hurdle to growth, countries will be more likely to achieve success from their reform efforts.
We propose a decision tree methodology to help identify the relevant binding constraints for each country. While our methodology does not specifically identify the political costs and benefits of various reform strategies, its focus on alternative hypotheses will help clarify the options available to policymakers for responding to political constraints. We are concerned mainly with short-run constraints. In this sense, our focus is on igniting growth and identifying constraints that inevitably emerge as an economy expands, not on anticipating tomorrow's constraints on growth.
We demonstrate how this approach would work through case studies of Brazil, El Salvador, and the Dominican Republic. In the first two countries, policymakers sought to implement wholesale reform following international best practice during the 1990s. But the results in both countries were disappointing, with low growth throughout most of the period. The Dominican Republic also implemented reforms, but on a much more limited scale, and yet it exhibited strong growth throughout the 1990s until it was hit by a banking crisis in 2002. The Dominican Republic, as we will see, managed to find a way around the most important binding constraint on its economy with minimal reform effort, whereas Brazil and El Salvador still have not overcome the main obstacles to growth in their economies.
Drawbacks of current reform strategies
Economists define an underperforming economy as one that is characterized by rampant market distortions. Such distortions, whether government-imposed or inherent to certain markets, prevent the best use of the economy's resources, hindering its productivity and driving wedges between the value attributed to specific economic activities by society on the one hand and by individual citizens on the other. For...
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