Inflation in Chile

Inflation in Chile has been a significant issue for the economy since the start of the 20th century. During the 2020s Chile again surfaced as an economic problem during the second presidency of Sebastián Piñera (March 2018–March 2022) and has remained such. Current inflation has been attributed to a series of private pension fund withdrawals allowed by the Congress of Chile in response to the economic hardships of the COVID-19 pandemic in Chile. Besides this, food prices are held by the Food and Agriculture Organization to have increased as consequence of the 2022 Russian invasion of Ukraine.

Central Bank autonomy, inflation targeting and counter-cyclical fiscal rules are important elements in the Chilean state policy to keep inflation low.

Starting in 1878, the Chilean state increased the issuing of new banknotes (fiat currency) causing the Chilean peso to devaluate. When the War of the Pacific began in 1879 the government issued more fiat currency in order to afford the costly war, and continued to do so in 1880 and 1881. In 1881 the country prepared for a return to the gold standard and to gradually eliminate fiat currency. However, during the Chilean Civil War in 1891 the government of José Manuel Balmaceda issued more fiat money to finance this new war. By 1891 a dispute begun between those who supported a return to gold convertibility of money ("oreros") and those who opposed convertibility ("papeleros"). In 1892 the "oreros" succeeded in having the convertibility of currency approved by law and in December 1895 non-convertible legal tender was pulled out of circulation. In 1898 the convertible regime collapsed once again in the face of severe economic instability (crop failure, war scare) and was abolished. Issuing of fiat money then continued until 1907 but from there on currency was issued with convertibility to gold or saltpetre mining related legal titles.

Edwin W. Kemmerer, referred to in an expression of the time as the money doctor, was invited to Chile in 1925 to deal with monetary policy and inflation problems which were considered one of the principal economic problems of Chile at the time. The visit by Kemmerer was used to back up monetary policies already outlined by Chileans. These reforms included the creation of a central bank, the establishment of a government budget law and general bank law. All these reforms were established by rule by decree by Arturo Alessandri who had been reestablished in power following a coup d'etat against him in 1924 (where the coup-makers protested among other things against inflation). Gold convertibility was established in 1925. As result of these reforms Chile managed to tame inflation to such degree that over the 1890–1980 period, the 1920s were the decade with least inflation. Another consequence of the reforms was an increased easyness by Chile to obtain loans not only in the United States but also in the United Kingdom, Switzerland and Germany. In the years after the visit of Kemmerer there was a sharp increase in foreign investments. The Great Depression in Chile brought initially a period of deflation of currency followed by inflation in 1931 and 1932. The inflation was brought under control momentarily after 1932 but resurfaced again in 1936.

Much of Chile's chronic inflation in the 1945-1989 period was in part caused by government budget deficits financed by "money printing". In general terms budged deficit and other causes of inflation were related with internal as well as external economic turmoil in the period. The case of Chile drew the attention of both Albert O. Hirschman and Arnold Harberger both of whom published work on Chilean inflation in 1963.

During 1972, the macroeconomic problems of the Allende administration continued to mount. Inflation surpassed 200 percent, and the fiscal deficit surpassed 13 percent of GDP. Domestic credit to the public sector grew at almost 300 percent, and international reserves dipped below US$77 million.

In 1975 Milton Friedman explained the inflation that Pinochet's Chile was experiencing was the result of a government budget deficit. Exchange rates were not a major topic during Friedman's and Arnold Harberger's visit to Chile in 1975. Economists tended to converge on the idea that Chile was not prepared neither for a floating nor a fixed exchange rate.

Following a series of economic reforms implemented from the mid-1970s onward Chile's economy bounced back and boomed. The boom ended in the economic crisis of 1982. The Latin American debt crisis had a devastating impact on every Latin American country, but Chile was hit hardest with a GDP decline of 14%, while Latin American GDP diminished by 3.2% within the same period. Besides the Petrodollar recycling and the 1979 energy crisis there were some specific Chilean reasons for the crises too. The Chicago Boys had expected that since the government had achieved a fiscal surplus and the decision for external borrowing was left to private agents a foreign exchange crisis would not occur. But in an effort to fight inflation Dollarization was introduced which lead to a Peso revaluation that caused high current account deficits which led to an increase in foreign lending. Additionally capital controls were abandoned and the financial market deregulated which led to an undamped increase in private foreign borrowing. The debt crises led to a bank run which led to an economic crises.