In El Salvador, the dollar is no panacea

U.S. dollars can buy anything and everything in the sprawling Central Market in El Salvador’s capital: steaming tortillas, live ducks, bootleg liquor, love potions -- even a hit man if you know whom to ask

This Central American nation adopted the greenback as its official currency in 2001, thinking the move would spur economic growth. But the ubiquitous “$” sign on shoe racks and vegetable bins hasn’t been the magic elixir many had hoped. And it’s been a particular disappointment among low-income shoppers and vendors here.

Potato peddler Jessica Janette said she used to sell 100 pounds of spuds daily from the dirt-encrusted pile in her tiny stall. Now, she’s lucky to move that much a week. The switch from El Salvador’s former currency, the colon, to the dollar drove up the prices of many staples as producers and merchants rounded up to the nearest nickel, dime or quarter. Many workers’ salaries never caught up. Janette’s customers are pinching pennies as tightly as she is.

“Life is harder now because I can’t make ends meet on the little I earn,” said the barefoot 27-year-old single mother. “The dollar is a curse.”

Dollarization -- the official replacement of a nation’s currency with the U.S. dollar -- has been a hot topic in Latin America in recent years. Ecuador made the switch in 2000 to rein in runaway inflation. Argentina considered doing the same before its economic meltdown in 2001. A painful 2003 devaluation in the Dominican Republic had some people there clamoring to replace the peso with the buck. Panama, the senior member of Latin America’s dollar club, has used the greenback for more than 100 years.

Dollarization, advocates say, preserves workers’ earnings and savings against the monetary mischief of their governments. The move lowers inflation and interest rates, reduces transactional costs with other dollarized nations and encourages fiscal discipline by preventing treasuries from printing money to finance spending.

But dollarization isn’t a panacea for troubled economies, nor is it a one-size-fits-all strategy. The use of dollars doesn’t automatically make a country more attractive to investors or guarantee its entrepreneurs an edge in the global economy. It doesn’t absolve governments of the hard work necessary to ensure that their nations are competitive.

Critics of El Salvador’s currency change say it’s a prime example of how dollarization’s costs can outweigh its benefits if policymakers don’t follow through with other measures to strengthen the economy.

“The poorer you are, the worse it is,” said Silvia Borzutzky, a professor of political science and international relations at Carnegie Mellon University who has studied El Salvador’s dollarization.

“The policy has had extremely negative effects on the lowest-income groups without doing much to help the overall economy.”

Economists have long contended that having 200-plus currencies circulating around the globe is inefficient, costly and fraught with risk from irresponsible central banks. Far better, some say, for developing nations to swap their sucres and balboas for big-league currencies such as the dollar or the euro.

But once in place, there is almost no reversing dollarization. Many nations have opted for lesser measures, such as pegging their currencies to the dollar or dollarizing parts of their financial system such as bank loans and deposits.

For El Salvador, dollarization was an extension of the free-market policies that the nation has implemented since the end of its civil war in 1992. Many in El Salvador’s business and financial circles as well as the conservative Arena party supported the move.

They touted it as a way to bulletproof the banking system, lower inflation, reduce interest rates and ignite economic growth by attracting more foreign investment. They also saw it as a way to keep monetary policy out of the hands of the leftist FMLN party, which some feared was gaining political ground.

Some experts say an extreme measure like dollarization wasn’t necessary. Unlike Ecuador, which sought refuge in the dollar to quell hyperinflation, El Salvador’s inflation the year before dollarization was 4.3%, modest by Latin American standards.

“This was a remedy for a sickness that we didn’t have,” said Arturo Zabla, a conservative former minister of the economy.

Others say that El Salvador’s open economy, small size and close ties with the U.S. made it a good candidate for dollarization. But the weakening dollar, which normally would be expected to boost a dollarized nation’s exports by making them cheaper, hasn’t proved a bonanza for El Salvador’s exporters because much of their trade is with the United States.

And the country can no longer adjust its currency to keep its products competitive.

Salvadoran hammock maker Elena de Alfaro said she couldn’t match the prices coming out of China, which has been accused of keeping its currency artificially low against the dollar. El Salvador’s imports have grown nearly three times faster than exports since dollarization, according to government figures.

On the plus side, dollarization has lowered market interest rates in El Salvador and proved a boon for its banks, which can borrow dollars cheaply in U.S. financial markets and re-lend them profitably at home without exchange-rate risks.

But those looking for big gains in gross domestic product have been sorely disappointed. El Salvador’s economic growth has averaged a lackluster 2.6% a year since dollarization, inferior to the 3.6% average registered in the six years leading up to the change. Nor has the country experienced a windfall of foreign direct investment.

Pamela Starr, a Latin America analyst with Eurasia Group, a Washington-based consulting firm, said foreign investors consider a host of factors before sinking money in a country, not just what currency it’s using. El Salvador’s small domestic market, its relatively high wages compared with those of neighbors and exploding gang and drug violence have persuaded potential investors to go elsewhere, she said.

To compete, Starr said, El Salvador needs to improve security, fight poverty and boost productivity by investing in infrastructure and education for its workforce.

But she said the conservative government had shown little willingness to boost taxes. The result, she said, is a sluggish economy that isn’t creating enough new jobs to keep Salvadorans at home.

More than 15% of people born in El Salvador are living abroad, mostly in the United States. The amount of remittances they send home has exploded since dollarization and now accounts for nearly 18% of GDP.

Many Salvadorans couldn’t survive without those funds. Since 2004, the minimum wage for a maquiladora worker has risen 4% to $157.25 a month. A market basket of food and drinks tracked by the independent, nonprofit Center for the Defense of the Consumer has risen 14% over the same period, according to the agency’s director, Armando Flores.

Julia Margot, 53, used to raise chickens to sell in the Central Market. She said dollarization posed a double whammy. First, feed prices jumped, raising her costs and squeezing profit. Then many customers stopped buying because their incomes would no longer stretch far enough to buy chicken.

Margot culled her 2,000-bird flock to 600, then abandoned the business. She now sells staples such as rice and beans and can rarely afford chicken herself.

Her advice to other nations considering dollarization: “Don’t do it.”

marla.dickerson@latimes.com

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Times researcher Alex Renderos contributed to this report.