Peru Takes the Other Path

By MARY ANASTASIA O'GRADY

Iquitos, Peru

It's about 90 minutes flying time from Lima to this jungle metropolis of 400,000. But daily life here is light years away from what it is in the Peruvian capital.

After almost two decades of gradual reforms by the central government, Lima is today home to first-world services, globally competitive businesses, shopping malls and an emerging middle class. But here in the hub of the Peruvian Amazon, living standards are all too similar to what they were 30 years ago.

WSJ Americas columnist Mary Anastasia O'Grady says although the Peruvian economy is experiencing growth, it's not uniform throughout the country. She speaks with Kelsey Hubbard about the struggle between modernity and atavistic socialism. (May 2)

The differences between the two cities illustrate one of the biggest challenges for the government of President Alan García, who was once a renowned socialist but now says he embraces democratic capitalism.

Peru has been experiencing fast growth – better than 6% annually – for almost seven years, and it has largely occurred on the coast and in the capital city. But the mountain and jungle regions of the country have not kept up. They remain vulnerable to the siren song of left-wing populism.

This is what makes Peru ground zero in the continental struggle between modernity and atavistic socialism. Hugo Chávez is circling like a vulture in the poorer parts of the county, hoping to pick off a prized Andean nation to add to his collection of revolutionary allies in South America. Meanwhile, reformers are trying to push ahead with deeper liberalization.

The good news is that the white hats have the momentum. If it is true that remote locations like this city are vulnerable to ideological incursions from the authoritarian left, it is also true that much of the rest of the country is beginning to think and act more like Chilean entrepreneurs than Cuban apparatchiks. Understanding why is critical to further progress.

A fundamental change that has won converts to market reforms in the past two decades is price stability. In 1990, inflation reached 7,000%, but over the past six years it has averaged 2.3%. That means that even before any other changes in government policy, every Peruvian has enjoyed a tax cut and a boost to his savings power.

Yet price stability on its own would have left the country well below its potential. Far more impressive is the restructuring of the economy, which has led both to growth and to a more equal distribution of opportunity. While a boom in commodity prices has certainly fueled development of late, Peru is also sprouting entrepreneurs in a variety of nontraditional industries. And these innovators are making their way onto the global stage.

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The key reform that has made all this possible is the opening of the economy, which until 1990 had very high tariffs designed to protect local industries.

Peruvian journalist Jaime Althaus documents the effects of the opening in his 2007 book (Spanish only) titled "The Capitalist Revolution in Peru." Far from "deindustrializing" the country, Mr. Althaus argues, trade liberalization has strengthened Peruvian manufacturing. Under high tariffs, the industrial sector served mainly as an auto and electronics assembler, using inputs from abroad. But when protection ended, local manufacturing began to discover its comparative advantages.

There were plenty. High growth rates – averaging 11% a year from 1990-2002 – have occurred in sectors that make china, porcelain, knitted fabrics, plastic products and basic chemicals, to mention a few.

The story of the "cluster" of small metallurgical companies that has emerged in Lima is especially compelling. In recent years, these entrepreneurs have been competitive in bidding for work that was previously dominated by important international firms. They have also become exporting powerhouses.

The agricultural sector on the coast has also revived, in part because private-property rights there (though not in the interior) have replaced the collectivized system of the 1970s. As a result, investment has poured in. Modern farming has put the coast on the map as a global supplier of asparagus, grapes, sweet yellow onions, mangos and organic bananas. All of this has been supported by the deregulation and privatization of key sectors like telecom and banking. And the biggest beneficiaries of openness have been consumers.

So what's the matter with Iquitos? It is not, as you might think, the fact that it is so isolated. Mr. García told me that he believes the real problem is that its most valuable resources – mahogany and cedar – grow on land that has no property rights. There are some long-term concessions, but he says he would like to see many more so that those who harvest the wood have the proper incentives to care for the forests.

See what I mean about the change in thinking? Now if only the president will seize the day, the chavistas from Caracas might begin to look like no more than footnotes in Peruvian history.