INTERNATIONAL ECONOMIC & ENERGY WEEKLY

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP84-00898R000400010011-0
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 47
• Document Creation Date: December 22, 2016
• Document Release Date: February 18, 2011
• Sequence Number: 11
• Publication Date: October 28, 1983
• Content Type: REPORT

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Directorate of
Weekly
International
Economic & Energy
ecret
DI IEEW 83-043
28 October 1983
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Secret
International
Economic & Energy
Weekly
iii
Synopsis
1
Perspective-Turkey's Prospects Under Democracy
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3
Briefs
Energy
International Finance
Global and Regional Developments
National Developments
19
Internation
al Financial Situation: Status of Multilateral
Development Bank
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2bAl
21
Internation
al Financial Situation: Slow Growth Likely f
or ODA Flows to
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Turkey: Po
stelection Economic Prospects
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Israel: Eco
nomic Problems Facing the Shamir Governme
nt 25X1
2oA]
37
Central Am
erica: Grim Economic Prospects
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Comments and queries re arding this publication are welcome. They may be
directed to Directorate of Intelligence,
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28 October 1983
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Secret
International
Economic & Energy
Weekly
Synopsis
Perspective-Turkey's Prospects Under Democracy
Turkey's economic outlook on the eve of the country's return to democracy is
reasonably good. We are cautiously optimistic that the new government will
avoid past policy errors and generate sustained economic growth.
International Financial Situation: Status of Multilateral Development Bank
Lending
This article is part of a special series on the economic and political aspects of
the international financial situation. The article examines the status of
multilateral development bank lending.
International Financial Situation: Slow Growth Likely for ODA Flows to LDCs
This article is another of the special series on the economic and political
aspects of the international financial situation. This article examines the
trends in official development assistance from industrial countries.
Turkey: Postelection Economic Prospects
The parliamentary elections on 6 November will not bring about major
changes in economic policy. Turkey's economic rebound has lost some
momentum this year but expansion should continue at least through 1984.
Israel: Economic Problems Facing the Shamir Government
New Finance Minister Cohen-Orgad faces a difficult task in restoring public
confidence and in mustering support for his publicly professed goal of reducing
personal consumption. Faced with a difficult economic situation and the
attendant political pitfalls of austerity, the Shamir government most likely will
Central America: Grim Economic Prospects
Insurgent activity and the associated climate of uncertainty will remain the
most critical factors influencing Central American economic performance at
least through 1984
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DI IEEW 83-043
28 October 1983
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Secret
International
Economic & Energy
Weekly
Perspective Turkey's Prospects Under Democracy
Turkey's economic outlook on the eve of the country's return to democracy-
legislative elections are scheduled on 6 November-is reasonably good.
Although the pace of recovery has slowed sharply in 1983, following two years
of dramatic progress, the economy is still moving in the right direction. Ankara
is adhering rather well to the 1980 stabilization program, even though the
program's author, Turgut Ozal, resigned from the government more than a
We believe economic policy will not change much after the election. The two
center-right parties that will almost certainly dominate the new legislature-
one of them headed by Turgut Ozal-appear committed to maintaining the
market-oriented approach that has worked well so far.
The longer term outlook is much less certain. Talk of "dramatic progress,"
although true, can obscure how far Turkey still has to go. Inflation has been
cut by more than two-thirds but is still running at 30 percent. The State
Economic Enterprises have become much more self-sufficient, but the govern-
ment still subsidizes their investment outlays-to the tune of 3 percent of
GNP. Unemployment growth has been slowed, but one worker out of five is
still without a job.
Turkey's membership in the OECD may also obscure the fact that it is not in
the same economic league as the other members. Turkey's per capita GNP is
less than half that of Portugal's-the next-poorest OECD country. Turkey is
even further behind in terms of most material indicators of living standards.
It is also alarming that Turkey has now gone through three major economic
crises in less than 30 years-and all three were largely of Ankara's own
making. The first two episodes were cured by stabilization programs, backed
by foreign assistance, but as soon as the memories of crisis faded, Ankara
began to repeat the same policy mistakes. In particular, the exchange rate was
allowed to become badly overvalued as Turkish governments made refusal to
devalue the lira a point of honor. Government spending accelerated, monetary
growth soared, and controls and subsidies multiplied. Given this track record,
there is no guarantee that it will not happen again.
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Turkey also is torn by more than its share of factionalism-a constant threat
to political as well as economic stability. Extremist groups-leftist, rightist,
and religious-proliferated before the September 1980 military takeover.
While such groups are banned from politics under the new Constitution, and
while the military has ended the terrorism that was claiming 20 lives a day, no
one doubts that the extremist feelings are still there. Turkey's comparatively
low level of economic development, unequal distribution of wealth, ethnic
divisions, and 25-percent illiteracy rate create a fertile breeding ground for
such feelings to intensify.
Finally, Turkey remains a country torn between two worlds. Physically and
culturally part of the Middle East, Turkey is still embarked on the hectic
Westernization drive that Ataturk began half a century ago.
Turkey's multiple problems make long-term economic forecasting particularly
risky. Nevertheless, we are cautiously optimistic that Turkey will avoid the old
policy errors this time and generate sustained growth:
? The Turks seem finally to have learned the lesson of overvalued exchange
rates-the single biggest cause of Turkey's three postwar economic crises.
The exchange, rate, which was not changed once during the 1960s, is now al-
tered daily-and draws little or no comment. Since daily adjustments began
in May 1981, lira devaluations have more than offset the inflation differen-
tial between Turkey and its trading partners.
? The more outward orientation of the economy seems to have taken root.
Businesses are actively seeking export markets, Turkish construction firms
are doing a booming business in the Middle East, Turkish banks are opening
branches abroad, and the longstanding Turkish phobia against foreign
investment appears to be fading.
? The new Constitution-by giving greater power to the president and
severely impeding the formation of splinter parties-may forestall the
political wrangling that in the past contributed to economic policy blunders.
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Energy
Persian Gulf Oil Anticipation of Iraq's acquisition of Super Etendard aircraft from France has
Transportation Costs begun to boost rates on world tanker and insurance markets. Since mid-
Edge up October charter rates demanded by tanker owners for movements of crude
from the Iranian export facility at Khark Island and the Arabian loading ports
in the Persian Gulf have gone up several cents a barrel. Earlier in the month
war-risk insurance on the value of cargo was increased by 3 cents a barrel. Al-
though the war-risk hull insurance rates paid by owners of tankers in all areas
of the Persian Gulf are remaining steady, underwriters have shortened the
timespan during which hull insurance rates on ships trading at Khark Island
and other Iranian ports are valid.
Transportation Cost of
Crude Oil From Khark Island
to Western Europe
August-
September
1 October
1983
15 October
1983
1982
Tanker charter rate
2.66
1.10
1.10
War-risk hull insurance on value 0.17
of the ship a
0.04
0.04
War-risk insurance on value of cargo 0.94
0.11
0.14
Total cost to oil purchaser 3.60
1.21
1.24
a Payable by shipowner, but passed on to purchasers of the oil as a
component of charter rate.
We believe the situation in the Gulf will have to deteriorate drastically to raise
transportation costs to the peak of $3.60 per barrel reached in August and
September 1982, after the Iraqis sank freighters in the upper Gulf. During
that period, the Iranians had to discount their Khark Island crude to
compensate for the $2.90 differential between the shipping cost for a barrel of
their crude and the 70-cent shipping cost for a barrel from Arab suppliers in
the Gulf. Although there is a surplus of tankers worldwide, an effective Iraqi
campaign against tankers trading with Khark Island would cause underwriters
to deny insurance coverage, and owners and crews probably would refuse to
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Status of Persian An expected shift in prevailing winds this month could cause significant
Gulf Oilspill amounts of oil from the leaking and burning platforms in Iran's offshore Now
Ruz oilfield to reach the Kuwaiti and northern Saudi coasts by the end of the
The widely
reported appearance of tarballs throughout the Persian Gulf indicates that
currents have distributed submerged oil over a much wider area or that
tankers are using the spill as an excuse to dump oil illegally. When the oilspill
reaches the coasts of Kuwait and Saudi Arabia, it will pose a threat to major
desalination and electric power plants in those countries. The spill, which is
continuing at about 4,000 barrels per day, now totals some 1.5 million barrels.
Renewed Interest in Riyadh may bow to Baghdad's pressure for access to an oil pipeline across
Saudi-Iraqi Pipeline Saudi Arabia because of Iraq's mounting financial difficulties and the poor
prospects for reopening the pipeline across Syria. Saudi Foreign Minister Saud
told Prime Minister Thatcher last week that negotiations between the Gulf
Cooperation Council and Damascus to reopen the Iraqi-Syrian pipeline had
"totally failed," according to the US Embassy in London. Saud says Iraq and
Saudi Arabia are now working to link Iraq to the Saudi pipeline that extends
to the Red Sea. He estimated construction would take about 12 months.
the new Iraqi spur-with a capacity of up to 500,000
barrels per day-would be temporary until Baghdad could build a larger
pipeline across Jordan to Al Aqabah. Iraq currently depends on a pipeline
through Turkey to export 800,000 barrels per day. The existing Saudi pipeline
is operating below its capacity and could carry the additional Iraqi crude oil.
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The Saudis have not been enthusiastic in the past about an Iraqi pipeline
crossing their territory. They withdrew financial assistance for such a pipeline
proposed in 1981, effectively killing that project, and the question of financing
the new link still has to be addressed.
Iraq has to increase oil exports substantially to deal with its economic
problems, but the pipeline will not provide immediate relief. If financial aid is
not forthcoming, Baghdad could step up the war with Iran in an attempt to
bring Tehran to the negotiating table.
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West Europeans Cool The Spanish proposal for a pipeline linking Algerian and Nigerian gas sources
on Spanish Gas to Europe across the Straits of Gibraltar has met a cool response from major
Pipeline Proposal West European gas consumers. According to government officials, France has
no intention of buying additional quantities of Algerian gas because of past
supply and price disputes with the Algerians and the already high level of
dependence on Algerian gas. West
Germany see little merit in the proposal, citing potential unreliability of the
suppliers and cost factors. Italian officials view the proposed project as
redundant, stating that capacity of the existing Algerian-Italian pipeline could
be doubled if demand was sufficient. The lack of consumer interest probably
dooms the project and underscores the difficulty of bringing new supply
projects on stream during this decade, including the development of several
North Sea gas projects that would limit West European dependence on non-
OECD gas supplies in the mid-1990s.
EC Coal EC coal imports were down 20 percent in the first half of 1983, compared with
Purchases Drop year-earlier levels. High stocks and depressed demand cut sharply into import
requirements, particularly in Belgium, Italy, and the Netherlands. High cost
Thousand Metric Tons
Percent Change
1st-Half 1982
1st-Half 1983
Total
35,105
28,231
-20
France
8,034
7,455
-7
Italy
8,145
6,492
-20
West Germany
4,144
3,732
-10
Denmark
2,955
2,815
-5
Netherlands
3,885
2,711
-30
Belgium/Luxembourg
5,016
2,486
- 50
United Kingdom
2,256
1,764
-22
Greece
327
416
27
343
360
5
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Proposed Africa-Europe Gas Pipelines
Proposed pipeline
A
B
C
-Existing pipeline
Existing LNG facility
? Natural gasfield
o iooo
North Atlantic
WEPERN
SAHARA
PORTU AL
Strait of Gibraltar-r
MOROCCO
IVORY
COAST
CENTRAL AFRICAN
REPUBLIC
SAO TOME AND PRINCIPE
O
SOVIET
UNION
'MALTA
Mediterranean Sea
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US suppliers were the hardest hit, with EC purchases of US coal down nearly
35 percent to around 12.6 million metric tons. Both Poland and Australia
significantly increased shipments to the EC, with supplies up some 30 and 50
percent, respectively. Stock drawdowns and weak demand are likely to
continue to dampen import requirements for the remainder of the year. A
recent EC estimate put 1983 imports at 63 million tons compared with 72
million tons last year. We believe imports are likely to be even lower.
Italian Coal Demand Prospects for rapid growth in Italian coal use during the decade are dwindling
rapidly as a result of transport problems, siting difficulties for new power
plants, surplus Algerian gas and French electricity exports. Italy presently
consumes around 20 million metric tons of coal-over 90 percent of which is
imported-and unofficial government forecasts had called for this to increase
to nearly 36 million tons by 1990. Italy is the second-largest overseas
purchaser of US coal, importing 11 million tons last year. Because of difficulty
in obtaining local and regional approval for new coal-fired electric generating
plants, a government official has indicated proposals for new coal-fired plants
have been temporarily shelved. The need to use Algerian gas under "take or
pay" contracts, moreover, has caused at least one large plant to be slated for
conversion from oil to gas rather than to coal. In addition, the French have re-
cently offered surplus electricity to Italy at very competitive prices-a further
disincentive to the construction of new coal-fired plants.
Japanese Divided on Recent Japanese press reports indicate that the Ministry of International
Issue of US Coal Trade and Industry (MITI) is planning to switch the emphasis in the country's
Imports coal imports from Australia and other suppliers to the United States. Japanese
steel industry executives, however, continue to indicate that increased pur-
chases of US coal are unlikely due to declining steel production, realization of
long-term coal development projects elsewhere, and the high cost of US coal.
According to these executives, the steel industry-which accounts for around
80 percent of Japan's coal imports-is operating at only 60 to 70 percent of ca-
pacity, and production estimates for 1985 have been slashed by 18 percent.
Moreover, the executives contend that realization of Japan's long-term coal
projects with equity partners in Australia, Canada, China, and the USSR will
compel the Japanese to use an even higher percentage of non-US coal in 1984.
Because US coal is the most expensive, Japanese industrialists plan to stabilize
purchases of US metallurgical coal at 10-12 million metric tons in the near
term, compared with around 20 million tons in recent years. In the absence of
a significant reduction in the cost of US coal, we believe Japanese Government
pressure on industrialists to purchase additional quantities of US coal will have
little effect.
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Colombian Coal The Israel National Coal Company has signed a letter of intent with
Marketing Efforts Carbocol-the Colombian state coal firm-for steam coal supplies from the El
Cerrejon north zone. The contract is the fourth agreement the joint partners
Carbocol and Intercor (an Exxon subsidiary) have lined up for the $3 billion
coal export project scheduled to begin operations in 1986. Denmark, Spain,
and Ireland have already contracted for coal supplies, bringing current
contractual commitments to about 3.5 million metric tons per year. With
production planned to reach 15 million tons annually by the late 1980s, the
partners are looking to other markets in Europe, the Far East, and the
Caribbean. Colombian coal is expected to be competitive with low cost South
African coal and some US coal producers are concerned it could make inroads
New Brazilian Brasilia's substitute austerity law, decreed immediately after last week's
Austerity Law Faces congressional repeal of a controversial wage restraint law and three other
Resistance unpopular measures, has drawn fire from major domestic political constituents
and evoked concern from the IMF. While the progressive tax changes and
sliding wage-adjustment scale contained in the substitute measure ease the
burden on the lower-income classes, they further squeeze purchasing power in
Brazil's influential middle class. According to the US Embassy, Brazil's'
financial and business community has harshly criticized the new law as
severely recessionary and damaging to the middle class. Meanwhile, the IMF
is concerned that the substitute legislation will be less effective in combating
inflation and could invalidate Brazil's recently signed letter of intent.
We believe the new austerity law will require further negotiation with the
opposition to assure congressional passage. According to the US Embassy, an
attempt to railroad the new law through Congress most likely would be
blocked by resentful opposition members and government party dissidents.
Negotiating an acceptable compromise will require protracted talks-perhaps
a month or more-and will add to foreign creditor uncertainty about the
government's ability to enforce austerity. As a result, efforts to restore IMF
support would stall and foreign bank loans would be delayed further.
Argentine Moratorium Argentina is being forced into a de facto payments moratorium, which will
on Debt Payments cause severe economic problems for the new government. President Bignone,
under pressure from nationalist elements, this week told international banks
that debt negotiations were suspended until a civilian government can
participate. A government is to be elected on 30 October, but it will not be in-
stalled until the end of the year. as a result, a $500 25X1
million commercial bank loan will not be disbursed on 28 October. In a further
complication, the IMF has not granted the waiver necessary to release $320
million tied up since August. According to the US Embassy, recent increases
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in public-sector wages and the prices of state-supplied goods will put Argentina
even more out of compliance with its IMF agreement and probably will result
in the loss of another $320 million payment scheduled for November.
The Central Bank projects that without these funds overdue debts will reach
$1.7 billion by the end of the year, as compared with less than $100 million in
net reserves. A decline in exports during the fourth quarter, increased capital
flight, and large maturing debts are causing the deteriorating cash position.
With Argentina unable to service its debts, a payments waiver by bankers is
increasingly likely. The moratorium will result in the cessation of trade credits
and any new foreign lending to the private sector. The reduction in imports
and business investment will quickly be felt in higher prices-inflation already
is at an annual rate of 925 percent-and a slowdown in economic activity.
Negotiations over the financial impasse probably will be even more difficult
with a new civilian government. It will have difficulty imposing the austerity
measures likely to be required by bankers for a resumption of financial
assistance and at least initially would have to live with election campaign
pledges to obtain more favorable terms than those that were offered to the
Bignone regime.
Colombian Financial Bogota is scrambling to cover its widening payments deficit. Despite tougher
Pressures Intensify import and exchange controls, recently released government statistics indicate
Colombia posted an estimated $700-800 million current account deficit during
the third quarter of this year, 30 percent larger than the same period a year
earlier. According to the US Embassy, the weaker current account stems from
declining earnings from exports, tourism, and worker remittances. Bogota so
far has managed to cover the payments gap by drawdowns in liquid reserves;
they declined 30 percent between 30 June and 30 September to $1.6 billion.
Additional drawdowns, however, could deplete the liquid reserves within the
next six months.
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Nigeria Placates Nigeria has resumed paying off debt obligations to select US and European
Bankers banks after previously failing to make payments on letters of credit. The
Nigerian action followed a threat by one US bank to initiate default
proceedings debt rescheduling agreement signed last July. 25X1
Such a move, however, requires the support of banks holding at least two-
thirds of the rescheduled debt and most are willing to give Lagos until the end
of October to settle arrears. 25X1
Nigeria's inability to make payments on time apparently results more from
bureaucratic ineptitude than a foreign exchange shortage. Trade data through
June 1983 indicate monthly imports are averaging $600 million; export
receipts are running about $950 million a month. Nevertheless, we anticipate
further payments problems, hampering the Shagari government's ability to
attract additional funds and reschedule the remainder of its estimated $5
billion in unpaid trade credits. Settling up with the banks is certain to be a con-
dition for an Extended Fund Facility agreement with the International
Monetary Fund and bankers do not expect that an IMF letter of intent will be
signed before early next year. Talks with the Fund are behind schedule
because of the recent Nigerian elections and uncertainties over the Fund's
ability to provide new loans.
Ivory Coast Averts Ivory Coast, Sub-Saharan Africa's second largest debtor after Nigeria,
Debt Rescheduling continues to keep one step ahead of having to reschedule its $7 billion foreign
debt. Abidjan last month secured a $75 million bridge loan from 10
international banks. The funds should allow the country to keep current on its
debt servicing obligations until November, when cocoa and coffee earnings
start to come in. Last year, Abidjan was able to put off a formal rescheduling
only after the French Government made payments to French banks-Ivory
Coast's primary creditors-on Abidjan's behalf and pressured the banks to
defer principal and interest payments.
Prospects for sidestepping a debt rescheduling in 1984, however, look bleak.
Principal payments on debt incurred since 1979-nearly half of Ivory Coast's
total external obligations-will begin to come due then, boosting estimated
debt service requirements from $1.4 billion this year to more than $2 billion.
The Ivorian Government, well aware of the financial crunch ahead, has
already called a meeting of the country's major lenders in December to discuss
a loan package. We believe Abidjan's prospects for such a loan are seriously
clouded by the reluctance of international bankers to step up lending to
troubled LDCs and by signals from Paris that financial problems eclude
continued French support at current levels
Portuguese Lisbon's seven-year loan syndication has been oversubscribed, and the amouni.
Syndicated Loan has been raised from $300 million to $350 million. In addition, a two-year
$150 million revolving trade credit facility is being marketed. Competitive
pricing of the seven-year loan, Lisbon's agreement to pursue an IMF
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stabilization program, and sharp improvements in Portugal's current account
deficit have renewed the financial community's willingness to extend financ-
ing he seven-year loan will be in two tranches, one
carrying an interest rate 0.5 percentage point over the US prime rate and the
second paying 0.875 percentage point over LIBOR.
general syndication probably will be completed by the end of
October and that disbursement will take place early in November.
Global and Regional Developments
EC-US Dispute on EC foreign ministers last week agreed to step up pressure on the United States
Specialty Steel to settle the dispute over US restraints on specialty steel imports. The
Community has rejected the most recent US offer to reduce tariffs on a variety
of products as compensation for the duties and quotas it imposed on EC
specialty steel last July. The EC is seeking US tariff reductions worth at least
$500 million-more than double the recent US offer-and has filed a
complaint against the United States within the GATT. The EC warned last
summer that it would retaliate against the United States if no acceptable
compensation arrangement could be worked out and has set a 30 November
deadline. Deliberations at the recent foreign ministers meeting indicate the EC
might retaliate by raising tariffs against US exports of computers, office
equipment, radio and TV equipment, textiles, and steel tube and pipe fittings.
About 45 percent of total US exports of computers and office equipment goes
to the EC.
Status of Proposed EC member states last week endorsed the Commission's negotiations with
Hungarian-EC Trade Hungary for a trade agreement and urged Commission Vice President
Agreement Haferkamp to draft a bilateral protocol as soon as possible, according to US
Embassy reporting. The Hungarians requested a trade agreement last April to
gain access to EC markets for beef and industrial exports and, in recent weeks,
they have pushed hard on this issue during high-level meetings with the West
Germans. Budapest's pursuit of an agreement is part of a broader strategy of
turning to the West to improve its precarious balance-of-payments position.
Negotiations over specific concessions, however, are likely to be protracted.
The West Germans and British apparently favor an agreement in order to
loosen Hungary's ties to the East, but the French and Italians fear increased
competition from Hungarian agricultural products. While Budapest probably
notified Moscow before approaching the EC for exploratory talks, the Soviets
may be concerned that closer ties with the EC could reduce Hungary's
traditional role as a food supplier to other CEMA countries.
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National Developments
Developed Countries
Japanese Trade Japan's bilateral trade surplus with the United States is growing rapidly.
Surplus With the Through September the surplus on a customs clearance basis was $12.2 billion,
United States Growing a 31-percent increase over the same period a year earlier. If the trend
continues-and that appears likely-the 1983 surplus could reach $18 billion.
The weak yen, sluggish Japanese demand, and the US recovery are the major
reasons for the trade gap. Japanese shipments of manufactured goods have
been especially strong since the second quarter as US distributors began
rebuilding inventories. Japanese purchases of US products have declined
2 percent this year.
Japan: Trade Surplus With the United States
Japanese Economic The Cabinet last week approved an economic program designed to dampen
Stimulus Package foreign criticism of its growing trade surplus. Tokyo probably views the
package mainly as a means of demonstrating good will to Washington before
President Reagan's visit and of diverting public attention from the bribery
verdict against former Prime Minister Tanaka. Highlights of the plan include
a 0.5-percentage-point cut in the discount rate, reduced tariffs on 44 industrial
items, slightly lower personal income taxes, and introduction of low-interest-
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rate loans for import financing. Some measures that had been under consider-
ation, including an investment tax credit for small businesses, were dropped
from the package for budgetary reasons or because of public opposition.
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The package will do almost nothing to restrain the growth of the current
account surplus in 1983, and it will have only a limited impact in 1984. The
tariff reductions and the bulk of the tax cuts will not take effect until next
April. The cut in the discount rate-intended to spur domestic economic
activity-could have an adverse effect on Japan's trading partners. If suffi-
cient capital flows out of Japan in search of higher interest rates overseas, this
could cause the yen to decline and strengthen Japan's export competitiveness.
of Voluntary Auto Japan will extend its voluntary curb on automobile exports tote United
Restraint States for one more year but will push the United States for an increase in the
yearly quota allotment to 1.9 million vehicles starting 1 April 1983 from the
current 1.68 million vehicles. An increase in the quota allotment is necessary
so that Susuki and Isuzu can fulfill their agreement to supply 180,000
subcompacts to General Motors during 1984. Difficulties over distribution of
the quota allotment among the Japanese automakers may develop if the
increase is not large enough to accommodate Susuki and Isuzu plans for
increasing exports.
EC Disagrees Over
Industrial Policy
in the EC from imported components.
proposed "significant but temporary increases" in EC external tariffs on
finished products, accompanied by greater constraints on products assembled
just another way for Paris to get more money out of EC coffers.
uch attempts to close EC markets
would aggravate current EC-US strains over the Community's agricultural
policy. Economics Minister Otto Lambsdorff also criticized the French plan as
the growing interest within the
Community for an EC-wide industrial policy but indicates that future EC
debate over this issue could become increasingly contentious. Bonn,
has reacted more favorably to a British paper
Secret
28 October 1983
featuring a free market approach to industrial policy and less reliance on EC
funding. France's EC proposals closely follow its national policy, which
emphasizes substantial government involvement in industrial development and
limits competition between firms. The French are pressing for new protective
barriers because they believe that emerging West European high-tech indus-
tries-particularly their own-can compete only within a protected and
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regulated EC market sheltered from US and Japanese competition. Paris will
continue to push its EC partners on industrial policy and is likely to intensify
its efforts when it assumes the EC presidency in January 1984.
Increased Canadian Since mid-1982, Canada's Foreign Investment Review Agency (FIRA) has
Foreign Investment approved 94 percent of new foreign investment applications, as compared with
Approvals an average of 91 percent through 1974-82. We believe this increase can be at-
tributed more to Canada's deep recession than to substantive and procedural
changes made to FIRA in July 1982. The changes reduced the review period
and clarified previously ambiguous application procedures but did not free the
review process from political considerations; final Cabinet approval of applica-
tions is still necessary. The sharp drop in economic activity in 1982, however,
emphasized the Canadian economy's need for increased investment-foreign
and domestic-and the Cabinet appears to have unofficially eased require-
ments that foreign investments yield significant benefits to Canada. Now that
economic recovery is under way, Ottawa is likely once again to levy more
restrictive requirements on foreign investment since most senior government
officials still believe that FIRA should be used to promote their nationalist
approach to economic affairs.
Ottawa currently is studying a July GATT panel report which found aspects of
FIRA to be in violation of international trade regulations. Government
officials hope that FIRA's recent performance and the changes already
implemented will soften criticism of Canada's foreign investment review
process when the issue comes before the full GATT assembly at its next
meeting in November. Whatever the decision of the GATT assembly, the
current Liberal government is unlikely to change substantially the popular
FIRA, particularly since the Liberals are preparing for an election that
probably will be held in late 1984.
Less Developed Countries
Grenada's Potential The probable reorientation of Grenada's Government will spark requests for
Foreign Exchange US aid. We estimate that to maintain imports close to the 1982 level of $70
Needs million, Grenada could need as much as $40 million through 1984 to replace
sources of foreign exchange lost because of the expected change of government
and concern over unsettled conditions. We foresee dropoffs of capital inflows
from commercial banks, official aid (primarily from Cuba), and tourism
Further Philippine The poor economy is leaving President Marcos little room to maneuver to stem
Unrest Expected growing political disaffection with his regime. Labor strikes last week
involving approximately 50,000 workers added fuel to opposition demands for
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Marcos's resignation. The strikes shut down the Bataan Export Processing
Zone, disrupted international communications, and closed roughly half the
city's elementary and high schools. Further unrest is likely as recent austerity
measures will cause additional layoffs and price hikes.
Moderate opposition leaders presumably believe that the economic situation
will help them by keeping the business community and labor groups firmly in
their camp. They are holding out for additional political concessions by
Marcos before agreeing to take part in National Assembly elections scheduled
for next year. Radical groups, meanwhile, are blaming the United States for
the economic crisis. Marcos's use of harsh methods to break up strikes and
demonstrations will further damage the President's poor public image.
Possible Policy Political maneuvering over economic policy is likely to result in the replace-
Changes in Chile ment of Finance Minister Caceres and new policies aimed at stimulating the
economy. US Embassy and press reporting indicate that Caceres only
narrowly escaped being fired on 14 October and that his tenure is expected to
be short. F_ I Interior Minister Jarpa is urging
President Pinochet to replace Caceres to clear the way for more expansionary
economic policies. Jarpa believes such policies would aid him in negotiations
with opposition elements on the transition to civilian rule.
Most Chileans would welcome a rapid reactivation of the economy. Growth-
oriented policies, however, probably would result in a rapid monetary expan-
sion that would accelerate inflation. This would endanger agreements with the
IMF and with commercial banks whose credits are necessary to avert a foreign
financing crisis.
Zimbabwean Austerity Drought and a worsening foreign exchange shortage have resulted in tough
Measures new austerity measures. Agricultural production is projected to fall 20 percent
this year, led by a 50-percent drop in corn, the staple of the diet. The
government earlier this month announced Zimbabwe's first-ever corn ration-
ing in an effort to stretch supplies until next April's harvest. Harare also
decided to reduce foreign exchange allocations to importers through 1984.
While import restraints will help hold the current account deficit this year to
about $600 million compared with $730 million in 1982, fundamental
problems persist. Prices for Zimbabwe's principal mineral exports-including
gold, chrome, and copper-have not yet recovered from the world recession.
Repayments of short-term debts, set to begin next year, will create additional
strains.
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Venezuelan Oil Venezuelan oil output-including natural gas liquids-averaged 1.8 million
Production and Exports b/d during the first eight months of 1983, according to US Embassy reporting
of recent official data. During the April to August period, production averaged
just over 1.7 million b/d, slightly above the OPEC production quota assigned
to Venezuela in March. Caracas has been able to meet domestic consumption 25X1
and maintain exports of crude oil and refined petroleum products at an
average of 1.53 million b/d this year-only 70,000 b/d below the 1983
budgetary planning goal-by taking about 200,000 b/d of oil out of storage.
Venezuelan export earnings have been
reduced to about $25 per barrel, $2 less than projected in January. As a result,
oil revenues for the year are expected to be about $14 billion-$2 billion below
what Caracas had hoped to receive.
Government Financial The government of Lesotho is experiencing a cash crunch midway through its
Crisis in Lesotho fiscal year and will have trouble financing a budget deficit projected to reach
$60 million, according to the US Embassy. Unexpected drought relief costs
and politically motivated extrabudgetary spending are primarily responsible.
Maseru plans to seek commercial loans in South Africa to finance government
operations through next March, and economic officials have outlined an
austerity budget for 1984-85.
Some Lesotho officials have proposed approaching the IMF or the South
African Government for help. Neither option is attractive to the government.
Tougher austerity under an IMF accord probably would further undercut
popular support for Prime Minister Jonathan's regime, according to the US
Embassy. Relations with Pretoria have deteriorated sharply this year, and
appealing to South Africa would risk Pretoria's increased use of its economic
leverage to gain political and security concessions from Lesotho.
USSR's Hard Soviet shipments of crude oil and oil products to OECD countries for hard cur-
Currency Oil Exports rency declined by only about 2 percent in the first half of 1983 compared with
Down in First-Half first-half 1982, according to preliminary OECD data. Because of the drop in
1983 oil prices, the resulting decline in hard currency earnings was probably about
10 percent. If the decrease in Soviet oil exports for hard currency continues for
the rest of 1983, hard currency oil earnings could fall by about $1.5 billion
from the record $14.8 billion in 1982. Last year's exports of about 1.24 million
b/d provided more than half of Moscow's hard currency receipts from
commodity exports.
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USSR Diversifies The USSR is seeking to diversify sources of imported superphosphoric acid
Imports of because of a perception of US unreliability and a need to boost phosphate
Superphosphoric Acid fertilizer production in accordance with the Food Program. The Soviets plan to
purchase a minimum of 700,000 tons of high-quality superphosphoric acids a
year under a 10-year contract with Tunisia,
Trade with Tunisia would most likely begin sometime after 1985 following
completion of a superphosphoric acid plant in Rehesa, Tunisia. The Soviets
recently approached Morocco with a similar offer. Current Soviet import
requirements are about 1.5 million metric tons a year,
this requirement will increase to 2 million tons a
year by the end of 1984. About 700,00 tons of superphosphoric acid now come
from the United States as part of a long-term agreement.
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28 October 1983
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International Financial Situation:
Status of Multilateral
Development Bank Lending
This article is part of a special series focusing on
the economic and political aspects of the interna-
tional financial situation.
Multilateral development banks have been able to
steadily increase lending to LDCs during the cur-
rent financial crisis. According to data from public
reports of the four major development banks (the
World Bank, Inter-American Development Bank,
Asian Development Bank, and African Develop-
ment Bank), their net new lending to LDCs in-
creased by $1.5 billion in 1982 to $8.8 billion. This
compares to the nearly $10 billion falloff in com-
mercial bank lending to $36 billion in 1982. We
estimate that the development banks this year will
lend close to $12 billion to LDCs, while new
commercial bank lending will have fallen another
$10-11 billion to only $25 billion.
Role of Development Banks
The decline in commercial lending to LDCs has
renewed the importance of the development banks
as sources of funds, especially in the key, more
Multilateral Development Banks: Billion US $
Net Loan Disbursements
6.2
7.3
8.8
11.5
4.6
5.6
6.6
8.9
Inter-American Development
Bank
0.9
1.0
1.3
1.5
Asian Development Bank
0.5
0.6
0.7
0.8
African Development Bank
0.2 "
0.1
0.2
0.3
developed LDCs that are heavily in debt. As LDCs
such as Mexico, Brazil, Argentina, the Philippines,
Nigeria, and South Korea intensified their develop-
ment spending in the 1970s, commercial banks
replaced official institutions as primary sources of
external financing. Last year, however, nearly one-
half of loan disbursements from the multilateral
development banks went to these six countries, a
trend that is continuing through 1983. This year
Brazil, for example, will depend on the multilateral
development banks for almost 15 percent of its net
new borrowing.
We expect the multilateral development banks to
continue to play a strong role in financially trou-
bled LDCs through at least the next several years:
commercial banks 25X1
have, for the most part, withdrawn from project
financing because of the high risks of cost over-
runs and inadequate and inconsistent revenue
generation to guarantee repayment.
? LDCs have had to cut back sharply new develop-
ment spending to comply with IMF criteria for
Multilateral Development Banks: Loan Billion US $
Commitments and Disbursements to
Major LDC Borrowers, 1982
Total 5.5 4.1
Brazil 1.9 0.9
Mexico 1.2 1.5
Philippines 0.8 0.4
Argentina 0.4 0.3
Nigeria 0.1 0.2
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budget deficits and inflation; at the same time,
these austerity measures are forcing the multilat-
eral development banks to assume a larger share
of the financing burden for projects already
under way.
? The multilateral development banks will continue
to be the key source of project financing for
poorer LDCs that lack access to commercial
financing.
Resource Squeeze
Against this backdrop of rising demands for multi-
lateral development bank financing, the banks
themselves are under a resource squeeze:
? Industrial countries are reluctant to contribute
substantially greater funds to the multilateral
banks. The World Bank, for example, is currently
debating a proposed $17 billion increase in its
membership quota to parallel the quota increase
granted the IMF; several of the industrial nations
are instead proposing an increase of only $3
billion.
? Global recession has slowed receipt of contribu-
tions already promised to development banks. As
of June 1983, for example, the World Bank had
received only 45 percent of the capital increase
agreed in 1981 and has been urging members to
accelerate their payments.
? The appreciation of the dollar during the past two
years has eroded the value of the nondollar
contributions to the banks from other industrial
nations.
? As a result of the generally high interest rates in
the past three years, the cost of funds borrowed
by the multilateral development banks themselves
has risen. This year, for example, the World
Bank's cost of borrowing from private banks has
averaged 9.4 percent, compared with 7.4 percent
in 1981.
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28 October 1983
The multilateral development banks are likely to
remain pressed for funds for several years until
economic and political conditions in the industrial
countries improve sufficiently to allow an increase
in the banks' supplies of loanable funds. Until then,
the development banks will probably step up the
rate of disbursements on existing projects, while
slowing new commitments to all but the advanced
LDCs that have more economically viable projects
and more political clout within the banks.
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International Financial Situation:
Slow Growth Likely for
ODA Flows to LDCs
This article is part of a special series focusing on and have little access to alternative sources of
the economic and political aspects of the interna- funds. Contributions by industrial countries to mul-
tional financial situation. tilateral institutions also are crucial to LDCs, but
Official development assistance (ODA) from indus-
trial countries to developing countries and multilat-
eral institutions remains a relatively small but
important portion of total resource flows, particu-
larly with the large cutbacks in private lending
during 1982-83. We do not expect ODA flows to
increase sharply during the next few years, but
maintenance of current levels is important for
LDCs. The least developed countries receive nearly'
one-fourth of total bilateral development assistance
we expect future growth to be limited at best.F_
According to data recently published by the
OECD, net disbursements of ODA totaled $27.9
billion in 1982, a 9-percent increase from the 1981
total. The increase is misleading, however, as de-
lays in disbursements of ODA to multilateral insti-
tutions caused 1981 figures to be understated and
1982 figures to be overstated. The average for
1981-82 is less than the 1980 total with the decline
coming from reduced flows to multilateral institu-
DAC/ODA: Net Disbursement Aid Flows
tions, which absorb about 30 percent of total ODA.
The major LDC recipients of ODA by region are
Asia and Africa, where most of the countries have
limited access to private sources of funds and rely
heavily on official flows. Egypt, India, Bangladesh,
Tanzania, and Pakistan are among the largest
recipients. Indonesia, a major exception, has bor-
rowed heavily from private capital markets, al- .
though the country has more debt outstanding to
official sources than private.
Only four of the 20 largest ODA recipients are
experiencing major debt problems. Sudan and
Zaire, which have deeply entrenched domestic eco-
nomic problems, have been undergoing debt re-
scheduling for the better part of the last decade;
Morocco and the Philippines have only recently run
into debt servicing difficulties. For all four coun-
tries, ODA flows are an important source of funds
but have been inadequate to ease substantially their
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DAC Countries: Net Disbursements
of Official Development
Assistance, 1982
We expect 1983 ODA totals to increase only
slightly, to $28-30 billion. The rate of growth will
probably be slower than in previous years and the
ODA/GNP ratio will remain at about 0.4 percent.
DAC total
27,851
0.38
United States
8,202
0.27
France
4,028
0.75
West Germany
3,163
0.48
Japan
3,023
0.29
United Kingdom
1,793
0.38
Netherlands
1,474
1.08
Canada
1,197
0.42
Sweden
987
1.02
Australia
882
0.57
Italy
812
0.24
Norway
559
0.99
Belgium
501
0.60
Denmark
415
0.77
Austria
354
0.53
Switzerland
252
0.25
Finland
144
0.30
New Zealand
65
0.28
financial strains. The Philippines, for example, has
debt servicing payments of some $3.5 billion this
year, compared with ODA receipts on the order of
$300 million
The OECD's official target for individual country
aid disbursements is 0.7 percent of GNP but only
five of the 17 countries in the OECD's Develop-
ment Assistance Committee (DAC) exceeded that
level in 1982. The attainment of the 0.7-percent
target would ease the payments situation of LDCs
but would not cover their entire financing needs.
For example, achieving the 0.7-percent mark in
1982 would have produced a total of $50 billion in
aid compared with the $90 billion LDC current
account deficit.
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28 October 1983
For 1984, we expect a similar pattern. These
estimates depend on several factors:
? For countries that have adopted GNP-related
targets, ODA prospects depend directly on world
economic recovery.
? In countries such as the United Kingdom and
Canada, successful efforts in fighting inflation
would ease budgetary constraints on the expan-
sion of ODA, but other priorities could limit
increases.
? Contributions of ODA to multilateral organiza-
tions by individual countries could be delayed
because of debate in the United States over
IMF/IBRD quota increases and the linkages
between US agreement and other donors' com-
mitments.
The ODA outlook for individual industrial coun-
tries varies considerably. Countries that have
adopted GNP-related targets in recent years-
including Austria, Canada, Finland, France, Italy,
and Japan-will most likely undergo fairly rapid
and sustained ODA growth over the next few years,
according to the OECD. Countries with the highest
ODA/GNP ratios-Denmark, Netherlands, Nor-
way, and Sweden-will probably continue to in-
crease ODA flows roughly in line with GNP
growth. Modest ODA increases may be forthcom-
ing from Australia, Belgium, and Switzerland.
The outlook for three major donors-West Germa-
ny, the United Kingdom, and the United States-is
one of marginal growth at best. The OECD expects
the growth of German ODA in 1983-86 to be
modest-about 4 percent in current prices-be-
cause of a restrictive budgetary policy; the
ODA/GNP ratio is likely to decline. UK aid will
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probably remain stable in the next few years with
perhaps a slight increase as the British economy
works its way out of recession. US officials expect a
li
h
i
s
g
t
ncrease in US bilateral ODA, but t outlook for multilateral ODA is uncertain.
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Turkey: Postelection
Economic Prospects
The parliamentary elections on 6 November will
not, bring about major changes in economic policy.
Only three parties are participating, and the two
center-right parties certain to dominate the new
legislature have campaigned on a platform of main-
taining the market-oriented, outward-looking eco-
nomic policies adopted in 1980. Moreover, the
current military rulers will play an important role
for several more years.
Following two years of extraordinary gains,
Turkey's economic rebound has lost some momen-
tum this year, but expansion should continue at
least through 1984. Export growth has slowed
because of reduced sales to OPEC countries and a
poor harvest has cut GNP growth this year to
3 to 4 percent; exports and GNP should both do
better in 1984. The country's most intractable
problem is its 20-percent unemployment rate, and
inflation remains at about 30 percent. Although aid
inflows are declining, we do not believe Turkey will
have much difficulty in financing its current ac-
count deficit either this year or next.
The seeds of Turkey's economic difficulties were
sown by the 1973/74 oil crisis-the huge oil price
hikes created a new economic environment to
which Ankara failed to adapt. Always jockeying to
stay in power, the weak coalition governments that
ruled Turkey in the 1970s were reluctant to take
unpopular steps. Prices of oil and other goods thus
were held down by a combination of price controls,
subsidies, and an overvalued exchange rate. To
offset the deflationary impact of the higher oil
import bill, Ankara embarked on a massive spend-
ing program that pushed government outlays as a
share of GNP from about 23 percent in 1973 to
27 percent in 1977.
For about four years Ankara's strategy gave the
appearance of working, as Turkey averaged real
GNP growth of 7 percent annually from 1973 to
1977 while the rest of the world experienced a deep
recession. Beneath this facade, however, problems
mounted. The public-sector borrowing requirement
soared, monetary growth accelerated, and between
1973 and 1977 the inflation rate doubled to
47 percent. The combination of higher oil prices 25X1
and an overvalued exchange rate wrought havoc on
the current account balance, which plunged from a
$0.5 billion surplus in 1973 to a $3.4 billion deficit
in 1977. Through 1977 the expanding deficit was
financed mainly by reserve drawdowns and short-
term borrowing.
The string ran out about mid-1977 when foreign
banks, realizing that Turkey would soon be unable
to meet its debt service obligations, cut off the flow
of loans. Turkey was forced to slash imports-
which plunged about 40 percent in volume terms
from 1977 to 1979. Half-hearted stabilization pro-
grams failed in 1978 and in 1979; the government 25X1
deficit remained large, monetary growth acceler-
ated further, pushing inflation above 80 percent by
yearend 1979. The effects of two devaluations were
quickly eaten away by soaring prices. While re-
duced imports lowered the current account deficit,
they also caused shortages that disrupted produc-
tion. As a result, real GNP grew only 2.9 percent in
1978, and in 1979 declined for the first time in 25
years.
By yearend 1979 the Turkish economy was in a
full-blown crisis, to which the second massive
OPEC oil price hike dealt the final blow. Inflation
was near triple digits and rising while production
was falling mainly because of a lack of imported
inputs. Fuel shortages disrupted the transportation
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system and caused daily blackouts in major cities, Turkey: Economic Indicators
while the lack of heating oil forced many to endure
an unusually cold winter without heat.
Rapid Recovery: 1980-82
In the fall of 1979, a coalition headed by the
conservative Justice Party came to power and chose
the internationally respected economist Turgut
Ozal to draft a serious stabilization program. An-
nounced in January 1980, the program aimed for
nothing less than a fundamental restructuring of
the Turkish economy by making it more responsive
to market forces and more oriented to the outside
world. A large devaluation was implemented and-
in a sharp break with past policy-several follow-
up devaluations were carried out later in the year.
Prices charged by the State Economic Enterprises
were raised sharply, in order to reduce the cost of
government subsidies, and these firms were given
greater autonomy. Other important policy changes
included the lowering of barriers to foreign invest-
ment in Turkey, the removal of price controls, cuts
in government spending and large increases in
interest rates-which had been substantially nega-
tive in real terms.
Turkey's stabilization effort received generous sup-
port from the OECD countries, the IMF, and the
World Bank. Aid provided in 1980, including debt
rescheduling, totaled $4.0 billion, more than double
the 1979 amount. The increase in aid, however, was
almost completely offset by the increase in
Turkey's oil bill in 1980 in the wake of the OPEC
price hike.
The September 1980 military takeover brought
with it a reinforcement of the stabilization pro-
gram. The generals immediately banned strikes,
which had been running at exceptionally high levels
and disrupting production. They soon implemented
a tax reform that boosted revenue and distributed
the tax burden somewhat more equitably. In 1981
Ankara moved to a system of daily exchange rate
adjustments and also took further steps to improve
the efficiency of the public-sector firms.
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28 October 1983
Consumer Prices and
Money Supply (Ml)
Percent changea
-Consumer prices
-Money supply
Worker Remittances
and Worker Foreign
Currency Depositsb
Million US $
- Remittances
plus deposits
-Remittances
Exchange Rate Indexc
Index: 1975=100
Exports by Regiond
Million US $
- OECD
- OPEC
Other
350
300
50
I I I I I I I I 11111111111111 I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I I[ lit!]
0
Imn111111111111111111111111111111111111IIIIII11111[11111!IIIIl1 11111
70 1978 79 80 81 82 83
a From 12 months earlier.
b Seasonally adjusted, 3 month moving average.
CTrade-weighted and inflation-adjusted.
dSeasonally adjusted, quarterly data.
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The stabilization program brought dramatic results
during its first three years, especially with regard to
the balance of payments. The monthly inflow of
worker remittances doubled within about six
months; exports responded more slowly but by 1982
were 150 percent above the 1979 level. Higher
foreign exchange earnings enabled Turkey to in-
crease import volume by 40 percent during these
three years-despite higher oil prices-and still
hold the 1982 current account deficit well below
the 1979 level. With import shortages alleviated,
economic growth resumed in the fall of 1980 and
real GNP grew more than 4 percent during each of
the next two years. Inflation meanwhile declined
fairly steadily, to an annual rate of slightly below
25 percent in early 1983.
Turkey's recovery has continued in 1983, albeit at a
much slower pace. For the most part the slowdown
resulted from factors beyond the government's
control. Contrary to some fears, Ankara did not
deviate significantly from its stabilization policy
following Turgut Ozal's resignation in mid-1982.
Ankara, however, has allowed a surge in the money
supply that Ozal might have prevented. Fearing a
banking crisis last year after the failure of several
money brokers, the central bank pumped reserves
into the system. As a result, the money supply
expanded almost 50 percent during the 12 months
ending in August 1983. This surge is the main
reason that inflation has accelerated to about 30
percent.
Ankara has taken action to strengthen the recov-
ery. The pace of lira devaluation was stepped up,
slightly more than offsetting the inflation differen-
tial between Turkey and its trading partners. The
government moved to strengthen management of
public-sector firms. Furthermore, an important
bank reform law was passed that should improve
the efficiency and stability of the banking system.
First-half 1983 exports were up only 5.3 percent
from the year-earlier period, a sharp decline from
the 1980-82 growth pace. The main reason was the
contraction in demand from OPEC countries,
which accounted for 39 percent of Turkey's exports
in 1982. Exports to OPEC were down 11 percent in
the first half due mainly to a 75-percent plunge in
sales to Iraq. Exports to OECD countries were up a
healthy 20 percent in the first half, while industrial
exports rose 23 percent.
We think the trade deficit for the year will total
about $3.1 billion, the same as last year and $0.3
billion larger than Ankara's forecast. Exports
should pick up a bit in the second half and
total $6.1 billion for the year, versus Ankara's 25X1
original target of $6.6 billion. Imports for the year
should be up about 4 percent to $9.2 billion.
Recorded worker remittances are off sharply in
1983 and probably will be down by about one-fifth
for the full year, to $1.8 billion. Most of the missing
$400 million will return to Turkey, however, in the
form of workers' foreign currency deposits-a de-
vice encouraged by Ankara. Because the workers
can withdraw their deposits later, the funds are
considered short-term capital flows. In fact, the 25X1
withdrawal rate is extremely low and Ankara
meanwhile has the use of the foreign exchange.
The current account deficit for 1983 probably will
be close to last year's $1.3 billion figure. Although
this is double Ankara's target, it would not be a bad
performance considering the weak OPEC market
and the conversion of some worker remittances into
capital inflows. We do not think Ankara will have
problems financing the deficit. Foreign aid, al- 25X1
though down from last year, will cover most of it,
and private foreign investment will help some.
Turkey also is slowly recovering its ability to tap
private capital markets, as evidenced by the $205
million credit approved last month by American
Express Bank.
Real GNP growth will slow to 3 to 4 percent this
year, due almost entirely to a drop in agricultural
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Turkey: Balance of Payments
Million US $
Trade balance
-2,808
-4,999
-4,230
-3,097
-3,100
Exports
2,261
2,910
4,703
5,746
6,100
Imports
5,069
7,909
8,933
8,843
9,200
Invisibles balance
1,158
1,319
1,888
1,830
1,730
Worker remittances
1,694
2,071
2,490
2,187
1,800
Interest payments b
-1,010
-1,138
-1,443
-1,566
-1,370
Tourism (net)
179
212
277
262
300
Other services (net)
295
174
564
947
1,000
Current account balance
-1,650
-3,680
-2,342
-1,267
-1,370
Medium- and long-term capital
356
2,342
1,049
1,202
760
Project and suppliers' credit
356
547
642
754
875
Program loans
230
377
480
495
350
Imports with waiver
124
95
69
49
50
Direct investment
86
53
60
55
80
Petroleum loans
50
215
0
25
0
Loans from banks
-370
165
-182
89
285
Special OECD aid
225
996
315
487
100
Debt repayments b
-945
-1,556
-1,185
-1,502
-1,980
Debt relief
600
1,450
850
750
1,000
Short-term capital
-577
-8
80
105
450
Errors and omissions
818
949
1,124
128
350
SDR allocations
27
27
24
0
0
Overall balance
-1,026
-370
-65
168
190
Financing
1,026
370
65
-168
-190
Net use of IMF resources
8
461
335
205
135
Accumulation of arrears
839
0
0
0
0
Change in reserves
-179
91
270
373
325
a CIA forecast.
b Before debt relief.
output following last year's excellent harvest. In- Transition to Democracy
dustrial output actually has picked up and is ex-
panding at a 6- to 7-percent pace. Industry will not, The legislative election on 6 November will bring to
however, create enough jobs to stop the decade-long an end three years of direct military rule and will
rise in unemployment. constitute an important first step in the transition
to democracy-a process that is likely to take most
of this decade. Anxious to avoid the proliferation of
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small, frequently extremist, parties that contribut-
ed much to past political instability, the generals
imposed various hurdles that ultimately eliminated
all but three parties from participating in the
election
Considering the magnitude of Turkey's recent eco-
nomic difficulties, economic issues have played a
surprisingly small role in the campaign. All three
parties have tended to couch their economic policy
statements in terms of generalities and platitudes.
Nevertheless, there are some clear differences,
particularly between the Populist Party and the
other two:
? The Motherland Party (MP) is closely identified
with the views of its founder Turgut Ozal and
campaigns with the slogan "free enterprise and
market economy." Ozal's goal is to make Turkey
a modern, competitive trading nation. He would
have the state provide the transportation and
communication infrastructure but little more.
Thus he favors eventually selling off most public-
sector firms engaged in commerce or manufac-
turing. He is cautious about seeking EC member-
ship, believing that Turkey first needs to develop
further.
? The Nationalist Democracy Party (NDP) has
sounded more and more like the MP as the
election draws nearer, although it probably still
favors a somewhat greater role for the state in
guiding social development. The party's chief
economic spokesman is Memduh Yasa, an econo-
mist with views quite similar to Ozal's. Yasa says
that the NDP will follow market-oriented policies
to build a modern trading state with an open
economy. He favors introducing a value-added
tax and keeping interest rates above the inflation
rate. The party's program calls for selling those
public-sector firms that can compete in the
marketplace and advocates active pursuit of EC
membership.
? The Populist Party (PP) has been less explicit
than the others in spelling out its economic
program, but it favors a much larger state role.
Secret 29
28 October 1983
Party leader Calp has labeled. the 1980 stabiliza-
tion measures as unsuccessful and believes that
Turkey needs a mixed economic system combin-
ing the human elements of capitalism and social-
ism. The party would follow more expansionary 25X1
policies: its manifesto calls for stimulating hous-
ing construction and labor-intensive projects, and
party spokesmen have advocated cutting interest
rates and taking other steps to boost economic
growth.
Regardless of the election outcome, however, the
military has made it quite clear that it will continue
to play an important role for some years to come.
Former Gen. Kenan Evren, the head of the ruling
military council, was elected President last Novem-
ber and will occupy that post until 1989. The
military council will be reconstituted in the form of
a civilian advisory body to the President. Further-
more, under the constitution approved last year, the
powers of the President are substantially increased
relative to those of the legislature.
Turkey's market-oriented economic policies seem
certain to be maintained, and perhaps reinforced,
over the next year. Regardless of whether the NDP
or MP wins the election, the parliament will have a
large conservative majority. Both parties have cam-
paigned on a platform of reducing government
economic intervention and increasing Turkey's out-
ward orientation
Domestically, we think that GNP growth in 1984
will pick up to about 5 percent, as the industrial
recovery continues strong and agricultural output
returns to normal. With the doors to worker emi-
gration still largely closed, however, even this
growth rate will not be enough to prevent a small
increase in the 20-percent unemployment rate. We
expect Ankara to slow monetary growth substan-
tially next year and to reduce slightly the public-
sector deficit, but this will be too late to affect the
1984 inflation rate-which should remain around
30 percent
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Prospects for the balance of payments in 1984
appear reasonably good, although debt service pay-
ments on earlier reschedulings begin falling due in
the second half. The key uncertainty is Turkey's
heavy dependence on OPEC countries-particular-
ly Iran and Iraq-as an export market. We think
Ankara will continue to use its policy of daily
exchange rate adjustments to keep the lira at a
competitive level. Under these conditions exports
should expand at a faster percentage rate than
imports in 1984, holding the trade deficit to about
the 1983 level. Net invisibles earnings should in-
crease somewhat, reflecting small gains in tourism
and earnings by Turkish contractors in the Middle
East. On the capital account Turkey will continue
to receive substantial aid, mainly from the IMF,
World Bank, and the United States. Foreign invest-
ment inflows should increase, although remaining
low in absolute terms. With its credit rating gradu-
ally improving, Turkey may be able to turn to the
banks to cover the remaining financial gap or,
failing this, can draw down its foreign exchange
reserves.
30 Secret
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Israel: Economic Problems Facing
the Shamir Government
New Finance Minister Cohen-Orgad faces a diffi-
cult task in restoring public confidence and in
mustering support for his publicly professed goal of
reducing personal consumption. Faced with a diffi-
cult economic situation and the attendant political
pitfalls of austerity, the Shamir government most
likely will look to the United States for more aid.
Begin's Economic Legacy
Former Prime Minister Begin took little interest in
economic issues, and, in the few instances when he
involved himself in economic policy disputes, he
took the politically expedient path. As a result,
finance ministers did not have the Begin support
that would have been crucial to implement an
effective austerity program. For example, the aus-
terity policies announced by former Finance Minis-
ter Hurwitz in late 1979 fell apart a few months
later, and inflation soared when the Cabinet, with
Begin's acquiescence, thwarted Hurwitz's efforts to
cut government spending.
The politically expedient economic policies fol-
lowed during Begin's six-year reign resulted in:
? Real GNP growing at an annual rate of 2.8
percent.
? Real wages increasing at an annual rate of 7.7
percent.
? Private consumption expanding by 6.0 percent
annually in real terms.
? The unemployment rate ranging from a low of
2.9 percent in 1979 to a high of 5.1 percent in
1981.
The cost of this record, however, was substantial:
? Inflation accelerated from 42 percent in 1977 to
triple-digit levels in the past four years; prices
rose a record 133 percent in 1980.
? The external deficit on civilian goods and services
increased from $1.3 billion in 1977 to $3.2 billion
last year.
? Foreign debt nearly doubled from $11.1 billion at
the end of 1977 to $20.9 billion at the end of last
year; Israel increasingly relied on commercial
borrowing despite an increase in US aid from
$1.8 billion in FY 1978 to $2.5 billion in FY
1983, excluding Sinai redeployment aid.
The consequences of Begin's shortsighted policies
began to be felt last year as slumping exports
produced the first real decline in GNP since 1953.
Although recession in the West played a role in the
poor export performance, former Finance Minister
Aridor's policy of intervening to slow the deprecia-
tion of the shekel was also a major factor. Much of
the 7.5-percent real increase in private consump-
tion last year was met by imports, in part because
of their lower prices in relation to domestically 25X1
produced goods. Despite Aridor's exchange rate
policy and relatively modest price increases of 5
percent a month on government-controlled com-
modities, last year's inflation rate of 131.5 percent
narrowly missed setting a new record.
Tentative signs that the economy was beginning to
pick up this year have not stemmed growing public
concern. Industrial production increased 2.5 per-
cent in the first half of this year compared with the
same period in 1982, according to press reports,
and the unemployment rate in the second quarter 25X1
fell to 3.9 percent compared with 4.6 percent a year
earlier, according to official statistics. Despite these
improvements, recent press stories claiming that
Israel's credit rating in international financial mar-
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Real GNP Growth
Percent
Civilian Goods and
Services Balance
Billion US $
Consumer Price Growth
Percent
Real Wages Growth
Percent
-5 1977 78 79 80 81 82 83a
Secret
28 October 1983
Foreign Exchange Reserves
Billion US $
kets had dropped and that foreign exchange re-
serves have declined spurred the public in early
October to buy US dollars in anticipation of a
devaluation. Many Israelis sold stocks, particularly
bank stocks, for shekels to purchase dollars, there-
by precipitating a stock market crash and forcing
its closure.
In presenting his Cabinet for Knesset approval on
10 October, Prime Minister Shamir said that the
government would reduce public and private con-
sumption, cut subsidies, and raise labor productivi-
ty. He warned Israelis that the standard of living
would not go up until production increased. The
Shamir government's first act, taken after an
all-night cabinet session immediately following
Knesset approval of the new government, was
announcement of an 18.6-percent devaluation of
the shekel and a 50-percent boost in the price of
most government-controlled commodities, includ-
ing bread and milk. These moves will result in
record inflation-we believe prices will rise about
160 percent this year. At the same time, Aridor
stated his intention to weaken the indexation sys-
tem, thereby threatening the cushion Israelis have
against rapid inflation.
Aridor was forced to resign a few days later,
however, after his plan to make the US dollar legal
tender in Israel was reported in the Israeli press.
Opposition in the Cabinet centered on the greater
economic dependence on the United States that
such a plan would entail. Although Shamir quickly
made it clear that Aridor's plan would not be
considered by the government, Israelis reacted to
the uncertain economic climate by continuing to
dump shekels.
Policy Response
Despite public differences with Aridor over eco-
nomic policy, Cohen-Orgad supports many of the
measures Aridor was trying to implement before
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Civilian goods and services balance
-2,504
-2,121
-2,169
-3,200
-3,600
Exports
8,030
9,791
10,439
10,165
10,850
Goods
4,759
5,798
5,903
5,573
5,450
Services
3,271
3,993
4,536
4,592
5,400
Imports
10,534
11,912
12,608
13,365
14,450
Goods
6,769
7,326
7,250
7,352
7,720
Services
3,765
4,586
5,358
6,013
6,730
Self-financed military imports
250
250
-424
174
-104
Military import payments
1,420
2,018
1,483
2,295
1,930
US military assistance
1,170
1,768
1,907
2,121
2,034
Debt repayment (medium- and long-term)
893
1,025
1,152
1,525
1,635
Financial gap
3,647
3,396
2,897
4,899
5,131
Sources of financing
4,085
3,684
3,042
5,242
5,031
Unilateral transfers
1,400
1,474
1,584
1,422
1,530
US economic assistance
980
785
785
785
785
Israeli bonds
414
450
518
557
580
Other capital including net short-term
borrowing
1,240
968
118
2,434
2,136
a Estimated.
b Projected.
his resignation. Cohen-Orgad has publicly support-
ed budget cuts, including subsidies, and reductions
in cost-of-living adjustments. His differences with
Aridor are primarily over style rather than sub-
stance. Cohen-Orgad has publicly stated that
Aridor was not honest with the public by not
stating the hard facts about the economy and that
Israelis would support austerity measures once the
need for them was clearly presented. Unlike
Aridor, Cohen-Orgad will probably not seek cuts in
the defense or settlements budgets because of his
close ties to Defense Minister Arens and his com-
mitment to the West Bank, according to reporting
from the US Embassy; he lives in a West Bank
settlement and is chairman of the board of a
company that raises capital for investment in high-
technology industries in the West Bank.
Cohen-Orgad faces a difficult task in getting and
keeping cabinet and popular support for austerity.
Members of TAMI-a small party in the coalition
whose constituency is low-income Israelis-can be
expected to oppose cuts in social welfare spending
and subsidies, particularly if defense and settle-
ment spending are untouched. Other members of
the coalition would probably oppose reductions in
traditional public services, such as health care and
education.
Opposition to efforts to reduce cost-of-living adjust-
ments can be expected from the Histadrut, the
Israeli labor confederation, even though Cohen-
Orgad has pledged to work with its officials. A
Histadrut official recently told a US Embassy
officer that, although the Histadrut is willing to
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Options for a Sick Economy
Even if the Shamir government enforces the recent
budget and subsidy cuts agreed to when Aridor
was Finance Minister, it will still face higher
inflation, rising unemployment, and a widening
foreign financial gap.' Using the CIA's model of
the Israeli economy, we project the financial gap
under current policies would reach $6.4 billion in
1986 compared with $4.9 billion last year. Past
budget cuts have been known not to materialize
because ministers have become adept at using
"unanticipated" price hikes to justify actual out-
lays. For example, in FY 1982, which ended on 31
March, civilian expenditures rose 2.6 percent in
real terms, based on Finance Ministry estimates,
despite "cuts" approved in August 1982 to help
finance the invasion of Lebanon. Should Aridor s
cuts similarly go by the wayside-our baseline
scenario-we believe the foreign financial gap
would reach $7.1 billion in 1986.
It is highly unlikely that traditional sources of
foreign exchange-transfer payments and Israeli
bond sales-would grow enough to cover the larger
gap. The hoped-for increase in financial support
from abroad in the wake of the invasion of Leba-
non last year did not materialize. The $39~million
increase in Israeli bond sales last year was more
than offset by a drop in unilateral transfers of $162
million, and Israeli officials undoubtedly hope this
is not the start of a new trend.
' The foreign financial gap is the sum of the civilian goods and
services deficit, sell financed military payments, and debt repay-
discuss other issues with the government, it is
unwilling to negotiate reductions in real wages or
changes in the cost-of-living adjustment formula.
According to reporting from the Embassy, Hista-
drut officials believe that the two-hour strike on 16
October by 70 percent of the labor force gives them
a mandate for a forceful defense of their position.
Officials of the large trade union organization, the
Histadrut, are under little pressure to moderate
wage demands in order to protect jobs. Histadrut
officials believe that any Israeli government will
hold to the longstanding commitment to provide
jobs for foreign Jews taking up permanent resi-
dence in Israel and will remain extremely sensitive
to unemployment. Thus, under our baseline sce-
nario, real wage gains boost private consumption
by an annual rate of nearly 7 percent in 1984-86.
These demand pressures, combined with continued
budget deficits, are likely to push inflation to new
increased unemployment.
We have also considered a number of alternative
scenarios to measure the impact of various policies
on Israel's economic performance. The results
demonstrate that Israel must reverse the recent
decline in exports to prevent the financial gap from
widening. A 10 percent annual increase in export
volume in 1984-86 would result in a financial gap
of $4.6 billion in 1986. We do not believe, however,
that such an increase in exports is likely as long as
domestic demand remains buoyant. A more mod-
est increase in exports of 5 percent a year in real
terms would result in a financial gap in 1986 that
would exceed the 1982 level by $1.7 billion. Con-
straining domestic demand alone would increase
unemployment to double-digit levels, and the fi-
nancial gap in 1986 would still exceed the 1982
level. A combination of modest export and private
consumption growth and cuts in domestic govern-
ment consumption would prevent the financial gap
from increasing much but would still lead to
Even if the Shamir government does launch an
austerity effort, it would probably be short lived.
We do not believe that this government, with the
bickering parties that make up the coalition, has
the political will to stick with such a program for
the length of time-two to three years-that would
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Israel: Alternative Economic Scenarios
Baseline Scenario
(assumes budget cuts are not implemented)
Scenario 1
(assumes budget cuts are implemented)
Scenario 2
(assumes real export growth of 10 percent in 1984-86)
Scenario 3
(assumes real export growth of 5 percent in 1984-86)
Scenario 4
(assumes real private consumption growth of 2 percent in 1984-86;
cuts in government civilian consumption of 3 percent, 2 percent,
and 1 percent in 1984-86, respectively; cuts in domestic military
consumption of 5 percent in 1984-85 and no growth in 1986)
Scenario 5
(combines scenarios 3 and 4)
Real GNP Growth Unemployment Rate Financial Gap
(percent) (percent) (billion US $)
1984 1985 1986 1984 1985 1986 1984 1985 1986
6.7 5.8 3.7 6.9 6.8 6.9 5.9 6.3 7.1
be required for it to work. Whatever public accept-
ance of the need for belt tightening existed a few
weeks ago probably has been destroyed in the furor
over Aridor's "dollarization" plan. Israelis, who
have been scrambling to protect their assets in
recent weeks, are looking for a period of stability
and a continuation of the rising standard of living
they have enjoyed in recent years. They probably
will oppose any proposals that threaten the status
quo, such as lower subsidies, reduced public serv-
ices, or lower cost-of-living adjustments.
Rising unemployment, which would result if
Cohen-Orgad is able to implement the austerity
policies he has advocated, holds the greatest poten-
tial for causing political problems for the govern-
ment. Cohen-Orgad would probably be forced to
back off once unemployment rises above the politi-
cally sensitive level of 5 percent. The resulting
increase in inflation would be tolerated as long as
existing indexation remains in place.
We believe that politically expedient actions to hold
down unemployment and to continue indexation
policies would lead to a foreign exchange crunch
unless Washington increases its financial support.
Despite Cohen-Orgad's publicly stated desire to
reduce Israel's financial dependence on the United
States, we believe the Shamir government will take
the easier path by asking for increased aid on better
terms. It could also ask for generous debt relief.
Additional assistance would allow the Israelis to
postpone dealing with the balance-of-payments
problem.
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28 October 1983
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Secret
Central America:
Grim Economic Prospects
Insurgent activity and the associated climate of
uncertainty will remain the most critical factors
influencing Central American economic perform-
ance at least through 1984.' World demand for
agricultural commodities and foreign aid will be
important in determining the availability of desper-
ately needed foreign exchange, but business and
government investment decisions-colored by guer-
rilla actions-will direct the course of economic
development. If insurgent activity continues near
current levels, we calculate that the foreign aid tab
to avert further drops in real GDP this year and
next would reach $2.5 billion annually. We believe
that this level of aid is unlikely, however, and that
regional economic activity will fall by 3 to 5
percent this year and-at best-stagnate in 1984.
Shaken by Change: 1979-82
Regional economic growth fizzled in 1979 when the
beginning of sustained insurgent activity coincided
with dramatic deterioration in external terms of
trade. In those countries plagued by the fighting,
damage and losses directly disrupted economic
activity. Throughout the region, the specter of
instability darkened the investment climate and
dampened foreign lending. Violence and guerrilla
intimidation in the countryside reduced agricultur-
al labor migration and cut into harvests. Manufac-
turing withered as intraregional commerce dropped
precipitously. The doubling of oil prices, softening
world demand for agricultural commodities, and
higher interest rates compounded these problems.
By the end of 1982, real economic activity, meas-
ured in US dollars, plunged nearly 20 percent from
the 1979 peak, a drop of about one-third in per
' For the purposes of this article, we exclude Belize and Panama
from our discussion.
capita terms. Deterioration was the most severe in
El Salvador, where output slid about 25 percent.
Throughout the region, governments struggled to
cope with mounting economic chaos. Austerity
programs designed to control inflation and mollify
foreign lenders drained political support from those
segments of society most hurt by rising unemploy-
ment, higher taxes, and declining public expendi-
tures on social services.
The most significant and volatile variable in the
economic outlook for Central America through
1984 is the security situation. The region's political,
military, and economic linkages are so pervasive as
to make it unlikely that continuing turmoil in any
one country could be isolated. We judge that
ongoing difficulties in any country will undermine
the sort of revival in investor confidence and trade
that is crucial to economic recovery throughout the
region. Accordingly, we examined economic
performance and necessary foreign funding for the
region under various levels of insurgent activity.
Key Constraints. Regardless of military develop-
ments, however, certain insurmountable factors
will constrain economic activity. Thus, despite
brightening prospects for the international econo-
my, lower world interest rates and oil prices, appar-
ent progress on regional austerity programs, and
fairly generous foreign aid projections, Central
America probably will be unable to achieve dra-
matic economic improvement at least through
1984:
? The spectacular surge in commodity prices need-
ed to overcome the region's foreign exchange
difficulties is unlikely to occur even if global
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Secret
North
Atlantic
Ocean
MOPAN
ze
North
Pacific
Ocean
Secret
28 October 1983
SAN SALVADOR
El Sal
Nicaragua
Cay'rnan Guantanamo Do
( min
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Is ands (US. Naval Base) it,
virgin is.
(U.K.) Repub
Jamaica,N68TO SANT
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R .S)
WSJ
Colombia
*B06OTA
Boundary representation is
not necessarily authoritative.
Netherlands
Antilles
.. (Nerhj
lk,
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economic recovery is stronger than generally
expected.
? Without larger aid disbursments than now seem
likely, foreign funding will be inadequate to boost
imports significantly.
? Potentially positive external influences, such as
inclusion in the Caribbean Basin Initiative, will
take several years to reach maximum effective-
ness, under the best of circumstances.
? Production in the region's integrated manufactur-
ing sectors will remain 40 to 50 percent below
capacity until the existing tangle of commercial
arrears between the Central American countries
is straightened out. In addition, depleted industri-
al capital stock and inventories will take time to
correct.
? Uncertainty over land reform and past neglect of
fields and equipment will hold down agricultural
production.
? Even if regional chaos subsides, businessmen will
remain chary of making substantial new invest-
ment for several years.
? The shrunken tax base will limit governments'
ability to raise funds to finance public-sector
growth.
Impact of Insurgency. Despite the probable ebbs
and flows in the fighting, we judge that no signifi-
cant change is likely to occur in the balance
between insurgent and military forces throughout
the region. Military developments in El Salvador,
probably the most reliable barometer of upheavel in
the region, continue to appear essentially stalemat-
ed. The insurgency in Nicaragua, another potential
harbinger of major regional change, appears inca-
pable of threatening the Sandinistas' hold on power
any time soon. Although we cannot rule out sudden
developments such as coups or assassinations that
would modify the current political situation, we
believe that such events would not prove disruptive
for any length of time unless they were accompa-
nied by a critical shift in the military balance.
~ Costa Rica
0 El Salvador
Guatemala
Honduras
Imports by Type
Million 1980 US $
1978
1,384
1,359
11,690
860
783
Gross Domestic Investment as a Share of GNP
Percent
External Public Debt
Million US $
1978
14,027
9,226
1,050
2,578
334
698
473
1,244
6 86
6
,735
1,735
1,484
Unemployment Rates
Percent
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28 October 1983
2,971
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Central America: Projected Foreign Financing Gap, 1984 a
No GDP Growth 3- to 5-Percent
GDP Decline
-2,003
-743
Exports (f.o.b.) 4,076
Imports (c.i.f.) 4,819
Net services and transfers -1,260
Amortization
Foreign financing gap
537
-2,540
-1,265
-5
4,076
4,081
-1,260
537
-1,802
a Assumes no change in the security conditions. Export earnings
could fall slightly from those shown if the tentative recovery in
commodity prices now apparently under way stalls.
b Assumes no change in current foreign financing levels.
3-Percent GDP Growth
Following No Growth
in 1983
3- to 5-Percent Decline
Following 3- to
5-Percent Decline
in 1983 b
-2,382
-1,193
-1,087
102
4,228
4,228
5,315
4,126
-1,295
-1,295
609
609
-2,991
-1,802
Under these circumstances, the level of foreign
financial support needed merely to avert further
economic declines would be sizable. We calculate
that the region would need about $2.5 billion in
both 1983 and 1984. To reach 3-percent growth-
the minimum needed to sustain per capita in-
come-next year, $3 billion would be required for
the region as a whole.
Because foreign exchange reserves are nearly de-
pleted in all countries and prospects for commercial
lending are bleak, foreign aid will determine actual
import levels and growth rates. Aid now anticipated
from official sources, however, falls short of our
projected requirements. We estimate that Central
America will receive about $1.8 billion in hard
currency assistance in 1983, of which about $600
million will come from multilateral lenders, includ-
ing the IMF. Bilateral sources are expected to
contribute $1.2 billion, including roughly $450
million from the United States, the largest individ-
ual lender. We doubt that aid levels will increase
significantly in 1984. Even if Central American
countries manage to adhere to austerity programs
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28 October 1983
necessary for IMF and other multilateral assist-
ance, these agencies probably will continue to face
shortages of lendable funds. The Central American
Bank for Economic Integration for example, a
small but important source of aid in the past, verges
on insolvency. Most bilateral lenders probably will
continue to offer only small aid packages until the
regional turmoil is resolved.
Lacking sufficient aid, we calculate economic out-
put in the region as a whole will fall 3 to 5 percent
this year and-at best-could stagnate in 1984
only if donor largesse increased somewhat beyond
current levels. Even in Costa Rica and Honduras,
where prospects are brightest, no growth is expect-
ed next year. Political pressures will mount
throughout the region in the wake of rising unem-
ployment, increasing bankruptcies, and shrinking
consumption.
Deterioration will be most pronounced in El Salva-
dor, where another 5 percent loss in economic
output is likely this year and next, furthering the
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insurgents' goal of crippling the economy. Al-
though steadily worsening economic conditions
may detract from popular support for the guerril-
las, we believe there is a serious risk that the
government's longstanding inability to arrest the
economic slide will work to the advantage of the
extreme right in the upcoming elections.
Economic performance probably will be similarily
weak in Guatemala. Following a roughly 4-percent
decline this year, a bottoming out is possible in
1984 if the government manages to stick to the
terms of the new IMF program, but growing
political strains are making that course less likely.
The Mejia regime already has scaled back the
contentious value-added tax in response to pressure
from far right elements in the military and business
communities. The resultant budget squeeze will
force deeper cuts in social services and public works
programs, according to the US Embassy, if Guate-
mala is to stay within IMF credit ceilings. Growing
economic hardship probably will have the most
pronounced effect on the poor and will provide
fresh opportunities for exploitation by the guerril-
las.
The faltering economy in Nicaragua probably will
slip roughly 3 to 5 percent this year and in 1984,
and we believe Managua will search for ways to
protect living standards of the lower class, the
Sandinistas' core of popular support. We expect
that taxes on the middle class will increase and that
property confiscations will be speeded up. For
example, to shore up popular support, the govern-
ment recently hastened the distribution of national-
ized farmland to peasants in areas affected by the
counterinsurgency.
In Honduras, economic decline of about 2 percent
in 1983 is likely to be followed by no growth in
output in 1984 even if Tegucigalpa continues to
adhere to rigorous IMF-mandated austerity. Nev-
ertheless, popular support for the government-
now bolstered by the perceived threat from Nicara-
gua and the expectation that President Suazo will
attract large amounts of US aid-could weaken,
and labor unrest and popular agitation could grow
in the face of expected increases in bankruptcies
and unemployment. Moreover, peasant land inva-
sions could rise because the government is short of
funds for legal expropriation of land.
In Costa Rica, projected economic decline of about
2 percent this year and stagnation-at best-in
1984 will test President Monge's willingness and
ability to adhere to the austerity measures crucial
to undergird long-term economic recovery. Recent
widespread protests prompted the government to
rescind planned utility rate hikes, and Monge's
substantial public support is eroding. Not surpris-
ingly, next year's budget proposal, currently under
legislative consideration, contains inflationary
spending measures that could torpedo the IMF
program and reverse the progress made on debt
rescheduling with foreign creditors.
In the event that the military situation shifts
markedly in favor of the insurgents in El Salvador
and possibly in Guatemala and Nicaragua, subver-
sive activity could become more widespread in
Honduras and Costa Rica. Although it is impossi-
ble to predict the regional military and political
outcome of such developments, the economic im-
pact would be clear:
? Production losses directly attributable to the
fighting would accelerate in El Salvador, Nicara-
gua, and Guatemala and could become a factor in
economic decline in Costa Rica and Honduras.
? Total investment would plunge as increased mili-
tary spending strained the shrinking tax base and
soaked up funds previously allocated to public
development projects.
? The flight of capital and manpower would surge
as investors smuggled assets out of the troubled
region. In addition to peasants fleeing the vio-
lence, emigration of skilled labor and managers
needed to accomplish any economic turnaround
also would rise.
Increased violence would shift production patterns
markedly. In agriculture, cultivation of export
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28 October 1983
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crops would wane and farmers-and others-
would revert to subsistence crops. Regional com-
merce would all but collapse, and manufacturing
sectors probably would remain active only to the
extent that factories could be retooled to produce
defense materials.
In these bleak circumstances, foreign aid needed to
ward off economic decline in 1984 would substan-
tially exceed $3 billion. Moreover, foreign aid
would do no more than prop up imports and living
standards. Because compliance with austerity pro-
grams would become increasingly difficult-both
from a political and economic perspective-new
lending from multilateral sources would be highly
unlikely. Countries would turn their appeals toward
bilateral lenders, particularly the United States.
On the other hand, even if government forces
achieve decisive victories in El Salvador, Guatema-
la, and Nicaragua, the region's economies would
take time to rebound:
? Guerrilla damage already inflicted would be cost-
ly and time-consuming to repair.
? Foreign and domestic lender and investor confi-
dence would be slow to revive even under opti-
mum security conditions.
? Governments would be largely unable to,compen-
sate for soft private investment.
? Demands for wage hikes would add to production
costs throughout the region as labor struggled to
regain former living standards.
? Low inventories and cannibalized equipment
would constrain manufacturing.
Foreign aid needs would most likely remain high
for, perhaps, a decade. Depending on the thrust of
Central American political developments, we be-
lieve bilateral and multilateral lenders might step
up aid programs substantially.
The Cost of Prolonged Insurgency
If insurgent activity drags on into mid-decade, the
costs of eventual economic reconstruction would
soar. The longer the fighting continues, the more
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28 October 1983
damage would be done to farms, factories, trans-
portation networks, and utilities, and the steeper
would be the final repair bill. Private capital stock,
already neglected, would depreciate further. Busi-
nessmen who have found ingenious ways to move
their assets out of the region would have little
reason to stay, and the drain of managerial and
technical talent would be difficult to reverse.
The longer that the battlefield is the arena for
settling conflicts, the smaller the eventual role of
the private sector would be in rebuilding the econo-
mies. Governments-working with minimal domes-
tic capital resources, a depleted tax base, and
generally lacking the skills found in the entrepre-
neurial class-would assume the key role in eco-
nomic decisionmaking. This major departure from
the private-sector-led growth path of the 1960s and
1970s probably would result in much slower
growth, reduced access to private foreign capital,
and a chronic demand for foreign aid.
Implications for the United States
Economic aid will become an increasingly impor-
tant feature in US-Central America relations in the
coming years. Not only would continuing economic
turmoil aggravate the already volatile political and
military balance in a region vital to US security
interests but the Central American countries would
petition Washington for aid with increasing urgen-
cy should weakening resolve to stick to tightening
austerity measures-as we expect jeopardize
IMF and other multilateral funding. Honduras and
Guatemala already have high expectations of US
aid, and unrealistic hopes would likely lead to
periodic misunderstandings. At the same time,
other potential donors would be watching the US
lead. Moreover, the number of Central American
refugees entering the United States illegally to seek
relief from intolerable military, political, and eco-
nomic conditions would grow.
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Although the broader implications of a continuing
economic decline in Central America would be
serious, the direct financial costs to the United
States would be relatively small. US private invest-
ment in the region currently totals less than $800
million, accor1ing to Commerce Department esti-
mates. Of that investment, more than half of it is
concentrated in Costa Rica and Guatemala. US
trade with Central America, which has been declin-
ing steadily since 1979, fell to about $1.4 billion in
each direction in 1982. US trade is distributed
roughly evenly among all countries except Nicara-
gua, where it is substantially lower. Agricultural
commodities readily available elsewhere on world
markets account for the lion's share of US pur-
chases from Central America. Because of continu-
ing problems with overdue accounts, many US
exporters authorize new shipments to the countries
only when payment is guaranteed in advance.
Although a large chunk of Central America's
commercial debt is held by US banks, the region's
outstanding debt to these banks is dwarfed by that
of other Latin American countries.
43 Secret
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