Adopted on January 9, 2000, amidst a severe financial and economic crisis, dollarization in Ecuador has survived left-wing governments and even the economic effects of COVID-19.
On March 8, 1999, Ecuadorians found bank doors closed. They couldn’t withdraw their savings. Then-President Jamil Mahuad had declared a bank holiday that plunged thousands of savers into despair. It was announced that the measure would last 24 hours but lasted months. This was the prelude to dollarization, which marks its 25th anniversary on January 9.
The bank holiday was a desperate measure to avoid what was already evident: the financial system’s collapse. Customers had rushed to withdraw their deposits, an effect generated by the capital circulation tax that replaced the Income Tax. The new tax, which was 1%, taxed financial transactions, which also caused a capital flight from the country of USD 2.6 billion, equivalent to 18.7% of GDP, aggravating the liquidity crisis the economy was experiencing.
The freezing of bank accounts accelerated Ecuadorians’ distrust in their currency, the Sucre. The Sucre was losing value, and salaries were becoming increasingly worthless. The Sucre was experiencing one of the worst devaluations in its history: it went from 4,493 sucres per dollar in January 1998 to 7,119 in January 1999, and by December of that same year, the exchange rate had climbed to 18,287 sucres per dollar, a devaluation of 276% in 1999 alone.
And nothing seemed to stop it. Newspapers of the time report that on January 8, 2000, a day before Ecuador decreed official dollarization, the exchange rate was dangerously approaching 30,000 sucres per dollar.
The crisis was more than palpable in Ecuadorians’ daily lives as they saw their purchasing power plummet. Thus, in January 1999, the monthly minimum wage was USD 134.18, but by October of that same year, it was equivalent to only USD 64.12, and in December of that year, it was barely USD 50.
An inflationary process with chronic rates compounded this. At the end of 1999, a baguette cost 5,000 sucres, and a bus fare was 1,000 sucres. Ecuador even issued a 50,000 sucre bill in October 1999.
The crisis was such that the vital forces of the province of El Oro, in southern Ecuador, openly spoke of federalism to separate from Ecuador, as did Guayaquil, says economist Marco Naranjo, who was an advisor to the Central Bank at the time and a defender of the system.
Official Dollarization
Finally, on January 9, 2000, then-President Jamil Mahuad took the most radical monetary measure: eliminating the Sucre and switching to the dollar.
Economist Marco Naranjo says Mahuad officially made a “decision that Ecuadorians had already made.” Dollar deposits in the financial system represented 60% of the total, both in local accounts and in offshore banks (accounts abroad), and that’s without counting the dollars kept in homes and safe deposit boxes, says Naranjo. Moreover, businesses had already replaced the Sucre with the dollar as a means of payment. The prices displayed in commercial establishments were already in dollars.
Dollarization in Ecuador was decreed at 25,000 sucres per dollar, which covered the entire monetary base: the money in circulation, bank deposits, and current accounts.
Economist Pablo Lucio Paredes says that the crisis was so intense at that moment that there was awareness of the need for an essential change of direction, and any of the proposed alternatives would have failed. “People had already shown in daily life their preference for the dollar over the sucre,” he recalls.
The measure had devastating consequences, a cost paid by Ecuadorians who saw their life savings melt away. If a person had savings of 100 million sucres in a bank account at the beginning of January 1998, they were equivalent to about USD 25,000. By January 2000, just two years later, when the economy was dollarized, they were only equivalent to USD 4,000. The social discontent led to an indigenous uprising that ended in Jamil Mahuad’s removal from power on January 22, 2000.
The Dollar Today Enjoys Great Acceptance
But 25 years later, there is little consensus in Ecuador, one of which is that dollarization in Ecuador should continue, says Naranjo.
Economist Marco Naranjo explains that Ecuador’s single-digit inflation rate in the last 25 years is the system’s greatest success. Indeed, in November 2024, Ecuador’s annual inflation was 1.51%, the lowest in Latin America.
Moreover, the amount of money in Ecuador has multiplied healthily, thanks to economic activity, not by discretionary decisions of the Central Bank, as occurred before 1999, which led to devaluations and a chronic increase in inflation.
7.3 million Ecuadorians have only lived with the dollar
Magdalena Barreiro, professor at the Universidad San Francisco de Quito and former Minister of Finance, believes that young people born during dollarization in Ecuador cannot comprehend what it was like for people who knew the Sucre to live in that inflationary era.
7.3 million Ecuadorians, or 43% of the population, are under 25 years old, meaning they were born and have lived with the dollar, a hard currency that does not devalue.
Barreiro says that for the remaining 57% of the population who did know the Sucre, it is a memory of a severe crisis to which they do not want to return.
To illustrate this, she talks about what she herself experienced in that era when the loss of purchasing power for consumers was brutal.
She recounts that she needed a loan to build her house, but in the late nineties, most banks did not lend in sucres, only dollars, making costs very high and unpayable.
The few banks that offered loans in sucres at that time adjusted the rate to inflation to cover exchange rate risk. So, she acquired a loan of 80 million sucres. “By the time I had paid 100 million sucres to the bank, it turned out that I owed 200 million sucres. That’s how brutal it was.”
“We had no purchasing power; salaries were devalued every week. We couldn’t access credit, and what little there was became unpayable. The economic situation was terrible,” says Barreiro.
Professor Marco Naranjo adds that countries like Venezuela and Argentina are the closest examples of what would have happened to Ecuador if it had not dollarized its economy. These countries live in scenarios of hyperinflation, aggressive devaluations, and severe economic crises.
Not a “Magic Potion”
However, despite the system’s benefits, Ecuador is far from reaching the expected levels of economic growth.
For example, the World Bank estimated that the Ecuadorian economy would close in 2024 with a growth of 0.3% for the Gross Domestic Product (GDP), the lowest in the region, according to its latest October perspectives.
While Naranjo considers dollarization the best economic policy in Ecuador, he recognizes that legal reforms to consolidate the system were never completed. The main ones would allow Ecuador to become an international financial center with free entry and exit of capital.
On the contrary, he says Ecuador has put restrictions in place to move towards that goal, such as a 5% tax on the exit of foreign currency. “It’s as if a citizen were told that entering the cinema costs nothing, but leaving costs USD 50, so the result is that people don’t go to the cinema,” he says.
He says we will continue to depend on oil, exports, and external debt if this doesn’t happen.
Barreiro adds that although dollarization in Ecuador corrected many severe imbalances in the country’s economy, “it is not a miraculous potion,” which is why the country has been experiencing ups and downs in its growth.
She adds that several factors explain these results, including an unstable economic policy, excessive public spending that has led to indebtedness, and the lack of legal security that prevents sufficient foreign direct investment from arriving.
The country’s wealth has been based mainly on the oil sector, which has turned the country into a rentier state, where pressure groups increase public spending and leave aside the vulnerable population, says Barreiro.
What Awaits Dollarization
Naranjo highlights that the system has survived eight governments of different tendencies, from right to left. Moreover, it has resisted external shocks such as the 2008 global financial crisis and even overcame the economic effects of the Covid-19 pandemic. “They haven’t cracked it,” he concludes.
Then, President Rafael Correa, one of the system’s detractors and a great critic, maintained the model during the 10 years he governed the country (2007-2017).
Naranjo said that the 2007-2008 Constituent Assembly, which had broad powers, could have been the opportunity to change the system, but it wasn’t done. It would have been a decision with catastrophic consequences; that was known, and, therefore, it wasn’t touched, says Naranjo.
This was acknowledged in 2015 by then-Minister of Economic Policy Patricio Rivera. Then, Correa officials said that dollarization was irresponsible and forced the country to take tariff restriction measures, for example, but that dollarization “is here and we can’t leave. Dollarization is here to stay.”
More Popular than the President
And its popularity was not in doubt. In 2015, dollarization in Ecuador had the support of 85% of Ecuadorians, according to a survey by the consulting firm Cedatos, while the president at that time, Rafael Correa, had the support of 79%, according to data from the government of the time.
However, in its need to finance growing public spending, the government weakened dollarization in Ecuador by requesting loans from the Central Bank starting in March 2015, which expanded its balance sheet.
“That gluttonous appetite that the State has had has its limit in dollarization, and that makes many believe that it should disappear,” when what needs to be done is to have a rational spending policy.
Is dollarization in Ecuador at risk? Economist Pablo Lucio Paredes says that the only risk is the temptation to issue ” eucadollars,” that is, to return to the money machine that doesn’t solve problems but makes them worse.
“For this, the best antidote is to eliminate the Central Bank,” he says, as there would no longer be the temptation to reissue a currency.
Naranjo thinks that the Central Bank could be reformed to be more like a public bank, in charge of giving loans and competing with private banks.