A Historical Analysis of Bolivian Hyperinflation: The Lost Years

February 12, 2020

Throughout the 1980s, a debt crisis enshrouded the economy in Latin America causing this decade to become known as the ‘Lost Decade.’ This crisis was provoked by the international macroeconomy experiencing the oil shocks of the 1970s, sudden shifts in the overall economy, and poor policies regarding borrowing (the Import Substitution Industrialization policy) in Latin America. Specifically, Bolivia found itself with a massive amount of foreign debt and little means to pay it back (3). The strategy Bolivia pursued to reduce it’s increasing debt was a monetary strategy that focused on money creation (8). This paper will explain how this strategy and the depreciation of the Bolivian peso resulted in Bolivia experiencing hyperinflation, as well as the theories and models that explain hyperinflation. Also, there will be a discussion on the consequences this hyperinflation period had on Bolivia’s economy, such as decreases in the economic growth rate, the GDP, the savings rate, the investment rate, and the consumption rate. Finally, there will be a discussion on the policies Bolivia enacted to fight this case of hyperinflation.

 Specifically, the oil shocks of the 1970s, the Import Substitution Industrialization policy (ISI), and the established monetary strategy impacted both the supply and demand of the economy. For example, on the supply side the oil shocks led to a price increase in oil in 1973 and 1979, which initiated surpluses in Bolivia and the other countries that were primary oil producers. These surpluses came in the form of petrodollars and were a form of financial intermediation in the banks of the oil producing countries. Also on the supply side, interest rates were low. Corresponding to these factors, on the demand side Latin American countries including Bolivia were large borrowers because of the low interest rates. For the purpose of consumption, there was also a large amount of borrowing from oil producing countries. In addition, Latin America kept their exchange rates overvalued to maintain low prices of the imports they needed for production.  Each of these factors disrupted the macroeconomy in South America leading to a financial crisis that would ultimately cause many countries such as Bolivia to experience a period of hyperinflation (3).

This paper will analyze Bolivia’s hyperinflation period of April 1984 through September of 1985 (18 months). The primary factor that laid the foundation for this period of Bolivian hyperinflation was that because of the debt crisis external financing became non-existent, and Bolivia was in major need of monetary assistance. This was the trigger that led to the determinants of Bolivian hyperinflation: a depreciating currency and extreme monetary growth.  Specifically, in the case of Bolivia they created more money to ‘relieve’ their financial crisis of having large fiscal deficits which led to extreme monetary growth. Simultaneously, their currency depreciated which reduced the purchasing power of the Bolivian peso and caused inflationary pressures (11). Specifically, in 1985, the depreciation rate reached its peak at a rate of 7,655.7 percent (11).

When reviewing the causes of this case of Bolivian hyperinflation, an analysis of Bolivia’s monetary policy is crucial. As defined by Cardoso (1989), monetarism describes inflation as “the result of overspending,” or in this case money creation (8). Bolivia’s hyperinflation had a  “clear link between the debt crisis, the increase in the budget deficit, and money creation” (8). After the debt crisis, the Bolivian government had no tax revenue inflow, and thus their debt reduction strategy was to just simply increase the money supply and print more money (6). The problem with this strategy is that once  money is printed it must be monitored carefully to avoid inflation and subsequent hyperinflation. With an increase in the money supply there would be an increase in the price level. Thus, in the case of Bolivia there was a rapid expansion of money supply that got out of control very quickly, causing prices to increase quickly resulting in hyperinflation.  

The statistical perspective of this time period presents that the cumulative inflation that was incurred was 97,282.4 percent (9). In 1985, Bolivia’s inflation rate was the seventh highest inflation rate in its history, as “the total inflation averaged one percent per every 10 minutes” (6). It reached its monthly peak in September 1985 where the rate was 23,464.36 percent (5). Phillip Cagan (1956) provides a definition of hyperinflation as a period in which the monthly inflation rate rises above 50 percent for at least one month. However, hyperinflation usually occurs for more than one month. During this time period of economic crisis, Bolivian hyperinflation had a monthly average rate of 51.8 percent with its highest monthly rate being 128.2 percent (9). 

In order to properly analyze the causes of hyperinflation in Bolivia, it is important to address not only the monetary theory, but also the economic models that are used to address hyperinflation. For example, the primary model that is used to explain hyperinflation is the Cagan Model. Cagan proposes a classical model that is able to describe hyperinflation through both the function of “fundamentals (exogenous variables)” and the “hyperinflation bubbles” (4). Barbosa (2016) discusses how Cagan’s Model addresses three factors of hyperinflation through his equations: money demand, the expected rate of inflation in respects to the adaptation rate of inflation (the difference of expected inflation and actual), and taking the growth rate of money as an exogenous variable (4). Cagan draws his final conclusions from these equations. He states that the demand for money is a stable variable even when there is hyperinflation. Also, he explains that inflation is not initiated by sources outside of money supply. This idea correlates with the statement by Milton Friedman, “inflation is always and everywhere a monetary phenomenon” (4). This statement means that the only thing that can instigate inflation is increases in the money supply. 

Nevertheless, there are critiques to this ideal that increases in the money supply may not have the same direct increase in prices, but there will be an increase in prices nonetheless (it depends on the level of inflation).  It is typically a safe assumption that high growth rates of money are followed with high levels of inflation. Overall, there are many lines of causation that can be drawn: between money demand and money growth, change in prices and money demand, and inflation and money growth and prices. However, none can be labeled as the sole cause of every hyperinflation, as there are endless variables that can be accounted for in every case. This means that although there are usual correlations that attribute to inflation, there are differences in the levels of inflation that are context and variable specific (4). 

In addition to Cagan’s model, Fisher's Quantity Theory of Money can help to explain hyperinflation. The Quantity Theory of Money equation is MV=PY where  the velocity of money (V) is held constant and the real level of output (Y) is considered an exogenous variable outside of the main equation so is also a constant. Thus, the relationship between money supply (M) and price level (P) is being examined which is very relevant in explaining hyperinflation. It is described that a change in the money supply would not unbalance the MV=PY equation. This means that when there is an increase in the money supply a simultaneous equal increase in the price level would have to occur to maintain the equilibrium because all other variables are held constant. The Quantity Theory of Money (MV=PY) demonstrates how inflation occurs due to increases in the money supply because prices are forced to increase by the proportionate amount. Therefore, hyperinflation can also be portrayed through this equation in the context that money supply is rapidly increasing at a high growth rate causing the price level to also increase at an equally high growth rate.  In relation to Bolivia, the Quantity Theory of Money and Cagan’s Model can verify the idea that a main cause of the Bolivian hyperinflation was financing debt by increasing the money supply growth rate. This parallels with the monetary theory’s main argument as well. 

Cagan’s Model can help explain how Bolivia incurred such high rates of inflation and how hyperinflation occurs in general. Likewise, looking back at monetarism one can see the relationship between increasing the money supply, the increase in prices causing inflation, and the dynamic cycle of inflation that caused the hyperinflation in Bolivia.  In addition to this prior analysis, it is crucial to examine the consequences of this hyperinflation period on the Bolivia economy. The main consequences hyperinflation had on the Bolivia economy were decreases in growth rates, saving rates, investment rates, and the real GDP. In addition, there was an overvaluation of the currency which caused many of the previously stated to occur (Caldoso, 1989).  In Bolivia, there was a decrease in private saving because the currency would lose its purchasing power daily during this period. Specifically, there is an inflation ‘tax’ on goods when the currency value is dropping due to overvaluation because the government earns revenue when people save money when the currency increases in value. This increase in value is problematic because it is a price value that is not rationalized by the financial strength of the economy.  Therefore, people do not want to hold their overvalued currency, so they spend their money quickly (12). Aizenman (2005) presents data that demonstrates how countries with higher savings and investment are correlated with a corresponding higher GDP and growth rate (2). Thus, the low economic growth in Bolivia can be explained by the low savings and investment due to the persistent inflation. 

There was a general study by Fischer, et al (2002) on the direct effects of inflation on overall economic performance. The study was based on evidence of 18 countries that went through periods of hyperinflation (Bolivia was among the countries being analyzed). Results from this study include that these countries experienced a real GDP per capita drop by 1.6 percent (during periods of low inflation it was a positive growth of real GDP by 1.4 percent); a decrease in private consumption of 1.3 percent; and finally, a decrease in investment of 3.3 percent during the high inflation period (9). Based on this evidence, it can be concluded that there is a correlation between periods of high inflation and low macroeconomic growth. 

However, the question that remains is what measures did Bolivia take to combat the effects of hyperinflation. In July of 1985 the inflation rate was over 60,000 percent, and it was estimated that in approximately three months the inflation rate would be the highest in world history. Thus, Jeffrey Sachs, a 29 year-old Harvard economics professor, combined his expertise with the Bolivian Minister of Planning, Gonzalo Sanchez de Lozada, to combat the severe hyperinflation. Sachs knew that a gradual implementation of a new policy would not fix the hyperinflation, as it was far too out of control. For this reason, Sachs and Lozada took radical steps and implemented “Shock Therapy” as a macroeconomic stabilization program under the “New Economic Policy” (6). 

The New Economic Policy (NEP) was a dramatic turn for the economy of Bolivia. NEP was characterized by an extremely rigid fiscal policy. Specifically, “Shock Therapy” was the label for the NEP because it put a restriction on government spending, price controls, and import tariffs forcing the government budgets into equilibrium. “Shock Therapy” appropriately dramatizes the shift that the NEP forced the Bolivian economy to make.  For example, the major problem of excessive increases in the money supply was eliminated because borrowing from the Central Bank was no longer needed, as the Bolivian government was limited to the allowance of spending the exact income it received: “earn one peso spend one peso” (6). The government froze not only spending, but also salaries and investment in the short-term. Another portion of the NEP was to liberalize trade and remove all trade barriers and create a minimal stationary tariff. A third characteristic of the NEP was to stabilize the volatile exchange rate that was undermining the Bolivian trade system. A final goal of the NEP was to stimulate the revenue and capital income. This would assist in the exchange rate problem, as capital inflow would decrease the inflationary pressures of minimal export income (11).  

Overall, the New Economic Policy was a movement for “rapid economic stabilization, liberalization, privatization, and the opening of the economy to international trade” (7). The shock that attacked the hyperinflation succeeded in lowering the inflation in Bolivia. The rate of inflation was dramatically decreased to an annual rate of 11 percent by 1987. The NEP brought consistent economic growth, but it was very slow. The NEP succeeded because it confronted each of the main causes of the extreme economy hyperinflation. For example, there was a large reduction in the monetary growth. Also, a reduction in the deficit problem occurred with an increase in gas prices and then a new corresponding tax system that was regressive (11). Despite the success in relation to achieving the main goal of eliminating the hyperinflation, the strategies presented through NEP left Bolivia with a new set of problems. Nevertheless, Bolivia entered at a crucial point in their economic history, and required a radical modification to stop hyperinflation from crippling their entire economy. 

This economic change led to an  adjustment period where the lower income population bore more of the financial burden. For instance, when the NEP put a hold on government expenditures, finances for salaries, and investment the real wages of the public sector decreased greatly. Thus, the overall income of public workers found itself at a much lower level. This resulted in a labor force reduction where unemployment rose by almost five percent to a twenty percent total inflation in 1986. For this reason, the higher prices of basic commodities such as fuel and food that occurred during the NEP impacted the unemployed and the lower income Bolivians. These consequencs led to protests amongst the labor force and the unemployed, and many Bolivians shifted to the informal labor sector. Therefore, many informal activities arose due to the NEP because of unemployment and low formal wage earnings (11). 

The 1984-1985 hyperinflation in Bolivia was the only high inflation episode to not have been caused by the aftermath of war reparations (11). The indirect source for the hyperinflation was the 1980s debt crisis that led to the incurring fiscal deficit in Bolivia. The Bolivian economy had to find a source of revenue and sought out a monetary strategy as a result. Specifically, they chose to increase the money supply. The monetary theory, the Quantity Theory of Money, and Cagan’s Model each portray how increasing the money supply results in an increase in prices. Thus, they demonstrate that if there is a large increase in the money supply, prices follow suit by also increasing, which can lead to price level inflation. In the case of Bolivia, the money supply had been increasing at an uncontrolled rate. This strategy lead to such high rates of inflation that generated hyperinflation. The Bolivian economy experienced significant consequences due to the pressures of hyperinflation. For example, there was a negative economic growth rate and a decrease in GDP due to a loss of private consumption, investment, and savings. Finally, the Bolivian government established the New Economic Policy to combat the disorderly hyperinflation. The NEP was a “Shock Therapy” for the economy that succeeded in eliminating hyperinflation. However, the overall effectiveness of this ‘therapy’ is debated because it brought upon many other consequences for the economy, as well as the Bolivian people. In conclusion, the monetary over-expansion that caused hyperinflation had to be radically attacked with an innovative technique such as “Shock Therapy” because the Bolivian economy had been on the brink of unrecoverable ruin.



  1. Wikimedia Commons. (November 2008). "File:Boliviancurrency.jpg".
  2. Beatriz Armendáriz , Felipe Larraín . (May 5, 2017). "The Economics of Contemporary Latin America". MIT Press.
  3. Fernando De Holanda Barbosa. (October 18, 2018). "Hyperinflation Theories: An Abridged Survey".
  4. Trading Economics. (N/A). "Bolivia Inflation Rate: 1968-2018 Data Chart Calendar Forecast". Retrieved Wednesday, February 12, 2020.
  5. PBS. (N/A). "Commanding Heights: Bolivia Chapter 10 and 11". Retrieved Wednesday, February 12, 2020.
  6. PBS. (N/A). "Commanding Heights: Bolivia Timeline". Retrieved Wednesday, February 12, 2020.
  7. Eliana Cardoso. (February 1989). "Hyperinflation in Latin America". JSTOR.
  8. Stanley Fischer, Ratna Sahay, Carlos A. Vegh. (May 2002). "Modern Hyper- and High Inflations".
  9. Juan Antonio Morales, Jeffrey Sachs. ( June 1988). "Bolivias Economic Crisis". National Bureau of Economic Research.
  10. Manuel Pastor. (1992). "Inflation, Stabilization, and Debt: Macroeconomic Experiments in Peru and Bolivia".
  11. Michael K. Salemi. (N/A). "Hyperinflation". Library of Economics and Liberty. Retrieved Wednesday, February 12, 2020.

About Author(s)

Carley Clontz
Carley is an undergraduate senior at the University of Pittsburgh. She is studying Economics, Spanish, French, Global Studies, and Latin American Studies. Through academic and research programs, Carley has traveled to Mexico, Peru, and Bolivia. This is her second year as an intern for Panoramas.