Leadership and Economic Prosperity

I was going to write about Leadership and its role in economic prosperity in the third world before I came upon this McKinsey Quarterly interview with Michelle Bachelet, the new Chilean President. Her insights illuminate the role of key government officials in economic development and well being. Her vision of a free market Chile where people are free to pursue their aspirations of wealth creation while assured of security and protection for the vulnerable is one that every African leader should adopt.

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McKinsey Quarterly

Economic Studies: Productivity & Performance

Interview

Promoting growth and social progress: An interview with the president of Chile

Michelle Bachelet discusses her views on the roots of political upheaval in Latin America, and the link between economic development and the fight against poverty.

Gonzalo Larraguibel and Marcelo Larraguibel

2007 Special Edition: Shaping a new agenda for Latin America

Michelle Bachelet, President of Chile, is one of Latin America’s most prominent leaders. A moderate Socialist who has pledged to combine pursuit of the country’s free-market policies with social measures to narrow the gap between rich and poor, her actions and pronouncements are of special interest to the outside world at a time of turbulent political change elsewhere in the region.

Bachelet’s life and political career have been significantly shaped by Chile’s troubled recent past. Detained and roughed up in 1975—two years after the late General Pinochet came to power in a military coup—she spent a period in exile, first in Australia then in the German Democratic Republic (the former East Germany), before returning to Chile in 1979. Like others on the left, she was active in the battle to restore democracy to the country in the late 1980s.

A trained surgeon who has also studied military strategy, Bachelet first came to national political prominence as health minister in the government of her predecessor Ricardo Lagos, where she initiated an in-depth review of Chile’s health care system. Subsequently appointed the minister of defense, she was credited with reforming the military pension system and modernizing the Chilean armed forces.

One year after her election victory as candidate of Concertación, the center-left coalition that has held power since 1990, President Bachelet faces a range of social and political challenges. The economic outlook appears robust—with GDP growth expected to rebound in 2007—and healthier-than-expected budget revenues last year (fueled by record-high copper prices) have raised hopes for social change. Political preoccupations have included street protests, a forced Cabinet reshuffle just three months into her term, and corruption scandals. On the external front the Bachelet Government has continued Chile’s pursuit of free-trade agreements (FTAs).

In this interview in the Presidential Palace in Santiago, Michelle Bachelet talked with McKinsey principal Gonzalo Larraguibel and McKinsey director Marcelo Larraguibel about the climate for foreign investment, political upheavals elsewhere in Latin America, and the changes needed to make her vision a reality.

The Quarterly: How do you view the rise of populist governments in Latin America and the reduced enthusiasm in some countries for free markets and free trade? And what do you see as Chile’s wider role in the region?

Michelle Bachelet: Latin America is facing an important moment. There have been 12 elections in the past year, all of them democratic, which represents a wonderful success and development of the regional political system. At the same time, economic and social indicators for the region are improving. However, there are countries where people are uneasy about the process of economic liberalization, because structural economic reforms were not accompanied by the social policies that were necessary. Therefore, many people in the region have been disappointed and are looking to see what else can be done.

The problem has not been with open economies per se but rather the lack of action in addressing poverty and social injustice. Chile has had its own experience—combining political stability, sound macroeconomic policies, and social cohesion—and we believe you cannot have one without considering the other.

When you ask about the role of Chile, it has been to share our experiences with our counterparts in Latin America. Many other leaders have been interested to know more about the experience of Chile. For example, we have brought together businesspeople from different countries and have tried to support countries that are interested in the skills our teams have acquired in negotiating FTAs. We have 54 of them, after all, giving us access to markets of 3 billion people throughout the world. We talk to colleagues about the complementary benefits these agreements can bring.

The Quarterly: Do you think other countries could give the region a bad name with their recent actions?

Michelle Bachelet: Every country has the self-determination and sovereignty to decide on their economic policies, and I would never speak about what others have done. I think that the best thing I can do is support them, continue to work with them, and be available to help.

Like any group of countries such as the European Union, Latin America has many different political, historical, and economic situations. We have been working on a South American Community, and some people even talk about a common currency. Looking at the EU, that would be a wonderful future goal. But today we have diverse countries, some with high external debt, others with low, some with very open economies, others less open. I still believe in integration, and there are working groups across the continent studying how to better connect our infrastructure and other topics such as social protection, energy, and education.

The Quarterly: What is your vision of the sort of country you would like Chile to become in ten years?

Michelle Bachelet: I would love Chile to be regarded as a modern society with a modern system of social protection and an open economy, both regionally and internationally, and also to be seen as a player on the world stage. Not, of course, in the sense of throwing its weight around, but rather as a contributor to the task of global development. We want Chile to be a country where you can find all the conditions needed to create wealth and innovate, but at the same time one that protects the vulnerable and looks after those with liabilities or those who started too far behind to benefit from the opportunities and possibilities we have here.

Over the past 16 years we have emerged from a difficult history to build a country that has political stability, economic stability, and social cohesion. In addition to social justice, everything we do is intended to promote a better quality of life and greater dignity for our people. You cannot have winners and losers—everyone has to win.

The Quarterly: It’s been almost a year since you were sworn in as President. What achievements from the past 12 months have you been most proud of?

Michelle Bachelet: I think the Chilean people clearly perceive the distinctiveness of our administration—democratic strengthening, economic growth, and social protection—which is very much in the spirit of the Concertación de Partidos por la Democracia. In our opinion, there is no incompatibility between growth and a more equal distribution of wealth. Indeed, we are convinced there is a virtuous relationship between the two. International experience shows that extreme inequality is not just unfair and a source of social tension but also reduces the dynamism of the economy. Countries lose the main motor of growth—the capacity to innovate and to take risks—and populism arises.

Concrete policies in the first year have included bills for the protection of children, reform of the pension system, educational reform, new ways to encourage entrepreneurship, and a new approach to housing that not only focuses on construction but also incorporates security, health care, and child care. In the first year we have doubled the number of public nurseries and child care facilities, which had not changed much in 30 years. We have to fight inequality from the very beginning of people’s lives, and this initiative also creates better conditions for women to take jobs. The challenge we have is to enable everyone to respond to the opportunities provided by globalization, which are increasing constantly.

Another positive aspect is that in 2006 we ratified and enacted our free-trade agreement with China—now our second-biggest commercial partner, after the United States—as well as our Trans-Pacific Strategic Economic Partnership with New Zealand, Brunei Darussalam, and Singapore. We successfully negotiated the same type of agreement with Japan. We also signed two additional free-trade agreements with Colombia and Peru and opened negotiations with Malaysia.

The Quarterly: Can you tell us more about the important levers that will turn your medium- and long-term vision into a reality?

Michelle Bachelet: Equal opportunities from the beginning would be one slogan, and education is the main issue here. We need to move from where we are now—with everyone guaranteed an education under the constitution—to the point where everybody gets an education of excellent quality. This is not just a matter of social justice; education is a vital economic agent. More still has to happen on coverage—notably for the 9th through 12th grades and kindergarten, where only 90 percent of children attend. We have specific goals for each age group. The same goes for higher education: about 650,000 people attend universities and colleges today, compared with about 77,000 in my day, but to develop innovation in science and technology we need to double that number. We have a particular problem in Chile because of the shortage of people with technical qualifications: in most countries the ratio is ten technical graduates for each professional. Here things are the other way round.

Education is also fundamental in attracting foreign investment, particularly in the regions of the country where we do not always have enough people with the necessary skills.

The Quarterly: It’s the reform of the pension system, though, that has probably attracted the most outside attention. How will that evolve?

Michelle Bachelet: Twenty-six years ago, we made some important reforms, as you say, that have been copied in other places. The old system, based on fixed compensation, also known as a defined benefit, was replaced by an individual capitalization system, or defined contribution, and managed by private entities.

That has brought several benefits for Chile, but we now realize that there were some significant gaps. We therefore need to find ways to make the pensions industry more competitive and transparent, introduce proper incentives to foster individual and collective savings, and ensure that every citizen receives a reasonable pension. The latest reforms represent a new architecture of benefits based on the integration of these three pillars. What people did not foresee in 1981 was the way people now move between jobs, perhaps only spending nine months in one place, with a period of unemployment in between. Women have been discriminated against, and young people do not think ahead as much and have made fewer contributions. A lot of the original assumptions proved overly optimistic. It was thought that the replacement rate—the amount of pension as a proportion of final salary—would be 80 to 85 percent, but it has turned out to be much lower: 51 percent for men, less than 30 percent for women.

The Quarterly: What are your other plans to improve the competitiveness of the Chilean economy?

Michelle Bachelet: One key area is innovation, around which we are developing tax incentives to encourage more industry participation. By OECD1 standards the 0.7 percent of GDP that Chile invests in research and development for science and technology is not only low, but over two-thirds of it comes out of public expenditure. The private sector contributes very little. Our aim is to get industry more closely involved with universities, science centers, and biotechnology research centers so we can add more value to our products. Our economy is very dependent on natural resources—copper, pulp and paper, and the fishing industry represent 54 percent of exports—and we need to do more than just produce more of them.

There are some encouraging signs. I recently saw how Codelco, the state-owned copper business, has been developing advanced techniques to produce copper in a more environmentally sustainable way. The salmon-farming industry is creating new vaccines and special medicines for this species. Similar developments are happening with mining supplies and through genetic engineering in forestry. The wine industry is looking to develop premium bottles. And we are also targeting agribusiness and tourism, which has great potential given our beautiful geography, highway infrastructure, and safety record.

In all this we see business clusters as a key mode of innovation, along with increased collaboration between the public and private sectors. We are also prioritizing small and medium-sized businesses, and we are considering a range of other initiatives, including a simplification of the tax system that has just passed through the Senate. These businesses account for 70 to 80 percent of employment here, but we can do much more: if you look at Sweden and other European countries, the export capability of these enterprises is much higher. Medium-sized businesses, for instance, are responsible for 50 percent of exports there, whereas ours account for only 3 percent of the total.

The Quarterly: What is your view of further privatization in Chile? For example, would you consider the privatization of minority stakes in state companies?

Michelle Bachelet: My government is not contemplating new privatizations, among other reasons because state-owned companies such as Codelco have demonstrated that they already function very well. What we want is to improve corporate governance in public companies—their transparency, management, professionalism, and the value they add for their owners, the people of Chile.

The Quarterly: What is your view of public-private partnerships in Chile for the development of areas such as infrastructure?

Michelle Bachelet: Public-private partnerships have been fundamental in the improvement of roads, ports, and airports. The mechanism of concessions2 to the private sector not only has allowed more funds to be invested in public assets, thereby improving the country’s integration and competitiveness, but has also been used to redirect limited public financing to activities with a high social impact. These are generally not profitable if one does not take that social impact into account. Concessions have also redefined the way in which public institutions work and think, allowing them to focus not only on the production of goods and services but also on their wider purpose to serve the needs of citizens. For the period of 2007 to 2010 we aim to invest more than $2.2 billion in concessioned infrastructure.

The Quarterly: That brings us to your own leadership style, notably in Chile. Do you think you bring a different perspective to change than what the country has experienced in the past?

Michelle Bachelet: It’s always difficult to say if some attributes are gender linked or more personal to women and men. I know women who are very hard, who act like a man and tell you, “If you don’t act like a man, you are dead.” Equally, I know men who share my style. I have made a conscious choice that I will pursue a leadership style that can be strong and authoritative but can retain “womanly” attributes, if you will. That is why I push for social dialogue, because I think the best thing for the economy and the people is for everyone—owners, managers, and workers—to sit down and see how we can move forward together.

When developing the latest pension system reform, for example, I set up a commission of intellectuals and practical people—those with know-how and different political perspectives. Many people laughed and said it was because I was unable to make decisions. They were completely wrong. The same thing has been done with education and childhood reforms. In both cases there has been wonderful work that has enabled the government to make decisions based on all points of view. I admire Denmark’s permanently standing Globalization Council, which consists of groups representing different parts of society, seeing how they can improve competitiveness and address social and human-capital challenges. Ultimately, this way of working results in better and quicker decisions. It is also important here because the issues we are discussing are not just for a one-term government to decide. Political parties and representative democracy are very important, but they are not enough. We have to move further.

The Quarterly: Finally, what is your message to foreign investors and CEOs looking at Chile and the region?

Michelle Bachelet: Trust Chile, believe in Chile, and invest here. It is a stable, fairly low-risk country, and we have developed serious and responsible policies. We will continue along the path Chileans have chosen democratically. Although we have done it well for the past 16 years, we are ready to make a new leap forward.

An example of responsibility is the two external funds created in response to the structural budget surplus caused by high copper prices. One is to finance the new pension system, since we know that the ratio of retired people to the productive sector is going to get bigger over the next ten years. The other fund, based on the Norwegian model, is to separate social benefits from the ups and downs of the economic cycle.

We are working on greater transparency and consistency in applying rules to local investors. We are also working very hard to get rid of any corruption—we are aware that one rotten apple can destroy the whole crop, but I do not think corruption is part of the Chilean way.

We are optimistic about the next year and probably the next two. We are working hard to ensure sustainable growth that will get us back to the normalized level of economic growth that we have had for many years.

About the Authors: -

Gonzalo Larraguibel is a principal and Marcelo Larraguibel is a director in McKinsey’s Santiago office.

Notes

1 Organisation for Economic Co-operation and Development.

2 The law on concessions permits the government to grant private companies the right to invest in, construct, and exploit, for an agreed period of time, projects that would otherwise have to be financed and managed by the public sector. So far, these projects have included airports, dams, hospitals, jails, ports, and roads.

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