As external financing dwindles, the government prints more money, fueling inflation. The value of the peso plummets. Siles Zuazo outlaws dollar deposits and loans, used by 90 percent of the economy, to restore faith in the national currency. Massive capital flight ensues. Several attempts at stabilization fail due to political opposition. Bolivia reaches a state of financial crisis.
Prices soar. Inflation tops 24,000 percent. Illegal cocaine dollars flood the economy. Many financial institutions are insolvent. In response, the government deregulates the financial sector, legalizes deposits in U.S. dollars, frees interest rates, and stresses tax reform. The decision to float the peso against the dollar causes massive devaluation. Inflation drops below 20 percent.
The Central Bank establishes a flexible exchange rate through mini-devaluations. An auction mechanism, the Bolsín, determines the daily value of the peso on the basis of supply and demand. A tax reform measure lowers the country's highest tax bracket and institutes a general value-added tax. This reform and an aggressive tax-collection policy help reduce public sector deficit.
By 1988 the currency, now called the boliviano, is relatively stable. The official and black market rates differ by one percentage point. The government succeeds in reducing its massive debt through international financial schemes, including debt purchase agreements and debt-for-equity swaps. The budget deficit falls from 36 percent of the GDP to 4 percent. Inflation hovers around 6 percent.
The government launches a program to strengthen investments and financial institutions. Congress approves a law establishing many guarantees to promote private investment. A new banking law replaces an older decree in establishing clear rules for commercial banks and authorizing them to maintain foreign currency accounts. The government helps recapitalize and restructure several major banks.
Bolivia owes more than $3 billion to foreign creditors, which is mitigated by $854 million in debt relief. Flaws in the pension fund system force the government to borrow at a high interest rate to cover $50 million in pension payments in 1997 alone. Inflation tops 7 percent in 1998 as a result of a world economic slowdown, falls to 4 percent, and rises again in 2000 following social conflict.
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