The Trilateral Commission (© 1987)
Martin Feldstein, Hervé de Carmoy, Koei Narusawa and Paul R. Krugman
ISBN: 0-930503-02-3
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Introduction
I. The Debt Problem, 1982-87
A. Comparisons and Contrasts Among Debtor Countries
B. The 1983 Debt Strategy for Latin America
C. The African Debt Strategy
D. The Evolution of the Latin American Situation, 1983-87
E. The Effect of the Debt Problem on Growth
F. The Outlook in 1987
II. Conceptual Issues
A. Borrowing, Indebtedness, and Resource Transfers
B. Resource Transfer and Economic Growth
C. Liquidity and Solvency Problems
III. Broader Interests
A. The Interests of Creditor Nations
B. The Interests of Debtor Countries
IV. Possible Dimensions of New Debt Initiatives
A. Three Basic Issues
B. Options for New Debt Initiatives: A Preliminary View
C. Who Pays for Debt Initiatives?
V. A Survey of Major Proposed Debt Initiatives
A. Procedural Reforms
B. Changing the Nature of Claims
C. Changing the Ownership of Claims
D. Changing the Value of Claims
VI. Evaluating Debt Initiatives
A. Procedural Reforms
B. Changing the Nature of Claims
C. New Institutions
D. Debt Relief
VII. Concluding Comments
Appendix: The Origins of the Debt Problem
Text of Introduction
It has been five years since the foreign debt of developing countries emerged as a major policy concern. So far events have not fulfilled the expectations of either the optimists or the pessimists. We have not, as many feared in 1982, seen a collapse of the international financial system. On the other hand, many had expected that over time the debt issue would fade away, and that both normal access to capital markets and healthy economic growth in debtor nations would resume; and that has not happened either. The debt of developing countries has remained as a constant source of worry both to bankers and governments.
In our view, the core of this problem is the need to restore adequate growth rates in debtor nations. As long as debtor growth remains slow and living standards in the developing world continue to stagnate or decline, the overhang of debt will continue to present important risks to the stability of the international economy. The inadequate performance of debtor economies will lead to continuing domestic pressures for drastic unilateral action to reduce the debt burden, with an attendant risk to world financial stability; the stagnation of developing country trade will contribute to the world trade problem, and hence to protectionist pressures; and the political and security risks arising from economic dissatisfaction may rise.
Growth in the debtor countries is at least as much dependent on those countries' own policies as on external financing. This report, however, is addressed primarily to an audience representing advanced creditor nations and thus we feel it inappropriate to devote much of it to lecturing developing countries on their policies, The issue of economic policies in the debtors cannot be completely avoided, since any financial plan must be contingent on responsible action on the part of the debtors. Similarly, debtor governments must take steps to encourage a return of flight capital and to prevent further capital flight. Nonetheless, our main focus in this report will be on the options available to the creditors, both public and private.
Chapter I offers a brief review of the attempts to manage LDC debt since the emergence of the debt crisis in 1982. These attempts have had at their core a basic approach -- a combination of concerted lending by banks with IMF-monitored adjustment by debtor nations -- that we call the "1983 strategy." The "Baker initiative" of October 1985 represents an extension of this strategy, but with an emphasis on the need to finance debtor country growth.
Chapter II sets forth a conceptual framework for thinking about the debt situation. The key issue is the need to balance the claims of creditors against the cost in economic growth if debtors are required to transfer too large a fraction of their resources abroad. The Baker strategy sought to find a middle ground in which significant resource transfer was combined with rescheduling and new lending to allow a resumption of growth at the same time that the ratio of debt to countries' ability to service it was steadily reduced. The chapter reviews the logic underlying this strategy, as well as the difficulties that have made its implementation less easy than expected.
Chapter III sets out the broader concerns of creditor and debtor countries, with special emphasis on those interests of the Trilateral countries that go beyond direct financial return.
Chapters IV, V, and VI then examine the possible dimensions of new debt initiatives, survey a number of proposals, and set forth the advantages and disadvantages of the variety of options available to the creditor nations. We consider both generic classes of options and specific proposals.
The final chapter sets out our own views about appropriate policy in the future. While the authors of this report agree on many issues, we also continue to have important differences; we report on these difference in what we hope is an instructive mannner.
Although we do not agree on the precise diagnosis of the present situation or on the policy that should be followed at the present time, we do all agree on several important things: that each country must be treated as a separate case in its own terms, that virtually all of the debtor countries will need additional new credit in the years ahead if they are to achieve satisfactory growth, and that outright debt forgiveness is not the solution to the problem. What we disagree about is how much credit the debtor countries will need to achieve satisfactory growth, how willing the creditor banks will be to provide the necessary amount of credit, and what the prospects are for substantial government funds to supplement the private lending.
Three of the authors of this report are sympathetic to the following appraisal: It is possible to restore satisfactory growth in the major Latin American debtor countries in a way that is consistent with continued cooperation of the debtor governments and the creditor banks. Achieving satisfactory strong growth in the major debtor countries need not require forgiveness of debt or any fundamental change in the nature of debt rescheduling. It does, however, require three things for at least the remainder of this decade and probably until the mid-1990s. First, the debts must be rolled over as they become due; there will in general be no repayments of principal during this period. Second, the interest rates charged on new loans must be very close to the banks' cost of funds and therefore often substantially below the rates implicit in the secondary market. Third, net new credit must be extended so that the debts of these countries will grow in nominal terms.
But although the debts of the major Latin American debtors must grow in nominal terms if satisfactory economic growth is to be achieved, the relative magnitude of that debt will decline. More specifically, even if debt grows at (say) 4 percent a year, that debt will be declining as a percentage of the debtors' ability to service that debt in the future. Debt will decline as a percentage of the debtor's gross national product and of the debtors' exports. Debt will be essentially constant in real inflation-adjusted terms.
This means that the debtors are not taking on an impossible burden. Similarly, it implies that although the banks' total debt exposure is growing, the banks' financial positions are actually improving over time because debt is declining as a percentage of the banks' assets and earnings and of the ability of the debtors to service that debt.
Our main concern is not about the technical feasibility of this favorable solution but about the willingness of the borrowers and creditors to act appropriately. For the debtors, there is the temptation to default or declare a moratorium. For the creditors, there is the temptation to write off existing loans and stop lending. At the present time, this temptation appears to be greater for some of the European and Japanese banks and the American regional banks than for the major American money center banks. Our judgment is that the incentives for continued satisfactory behavior by both creditors and debtors will dominate in the end, but the present risks are undeniable.
Hervé de Carmoy dissents from this optimistic prognosis and believes that satisfactory growth can only be achieved by a much more substantial infusion of new credit, provided primarily by public sources, with guaranteed credit increases for ten years. More specifically, the de Carmoy plan calls for additional new credit of $30 billion a year for ten years, a credit increase that is currently equivalent to a 10 percent rise in total credit. Half of this amount would be provided by governments of the creditor nations, one-fourth by the World Bank and other multilateral development banks, and onefourth by the commercial banks. A new agency would be established -- an Action Committee -- to administer the funds and agree upon structural reform programs with the debtor nations.
The other authors of this report believe that such additional public financing is neither politically feasible nor economically necessary. The difficulty of achieving political acceptance of the need for additional financing is also fully recognized by de Carmoy. The other authors are concerned, moreover, that the suggestion that such funds might be provided could encourage unrealistic expectations and inappropriate behavior by both debtors and creditors.
Authors
(titles at time of publication)
Martin Feldstein, President, National Bureau of Economic Research,
Inc.; George F. Baker Professor of Economics, Harvard University; former
Chairman, U.S. Council of Economic Advisors.
Hervé de Carmoy, Director and Chief Executive International,
Midland Bank.
Koei Narusawa, Economic Advisor to the President, Bank of Tokyo.
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