(SANITIZED)PERU: ECONOMUC RECOVERY IN 1970 AND PROSPECTS FOR CONTINUED IMPROVEMENT

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP85T00875R001700010084-7
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 15
• Document Creation Date: December 22, 2016
• Document Release Date: February 1, 2010
• Sequence Number: 84
• Publication Date: July 1, 1971
• Content Type: IM

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C~.~~Pe~m ~i i3a
Secret
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DIRECTORATE OF
INTELLIGENCE
Intelligence Memorandum
Peru: Economic Recovery In 1970
And Prospects For Continued Improvement
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WARNING.
This document contains information affecting the national
defense of the United States, within the meaning of Title
18, sections 793 and 794, of the US Code, as amended.
Its transmission or revelation of its contents to or re-
ceipt by an unauthorized person is prohibited by law.
GROUP 1
EMCludcd from aulomo,ic
down ,,dlnp and
doda,dfeniton
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CENTRAL INTELLIGENCE AGENCY
Directorate of Intelligence
July 1971
INTELLIGENCE MEMORANDUM
PERU: ECONOMIC RECOVERY IN 1970
AND PROSPECTS FOR CONTINUED IMPROVEMENT
Introduction
1. Peruvian economic growth picked up notably in 1970 after two
years of near stagnation. Foreign exchange reserves reached a record level,
and conservative financial policies brought continued price stability. Last
year's progress was largely the result of good weather, high export prices
for minerals and fishmeal, and a large inflow of foreign grants for earthquake
relief. Foreign reserves were further enhanced by the forced repatriation
of foreign balances. Improved economic performance, however, will not
necessarily be maintained during the next few years. Mineral prices already
have turned down, and no further windfalls in foreign exchange are in view.
At the same time, the social and economic reform goals of President Juan
Velasco's regime continue to inhibit investment by both Peruvian and
foreign businessmen. This memorandum examines recent economic trends
and assesses prospects for the next few years.
Discussion
Background
2. The Velasco regime came to power in October 1968, during Peru's
first major postwar economic crisis. After averaging 6% annually for two
decades, economic growth fell to 2.4% in 1967 and 0.5% in 1968. Although
political factors were the immediate cause of the military takeover - with
the controversy over the International Petroleum Company (IPC) serving
Note: This memorandum was prepared by the Office of Economic Research
and coordinated within the Directorate of Intelligence.
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Jr.l)Kt'~ l
as a pretext - general dissatisfaction with economic conditions and concern
for social reform were important in prompting General Velasco's move
against the government of Fernando Belaunde.
3. The Velasco government has pursued two basic goals --
strengthening the state's economic control and redistributing income at the
expense of foreign investors and the domestic economic elite. A rapid and
pervasive land reform is being carried out, some industries have been reserved
for the state, and foreign ownership has been severely restricted. The
government also has taken over the marketing of Peru's principal exports,
imposed rigid exchange controls, and forced repatriation of private bank
deposits held abroad. Under the 1970 industrial reform law and related
decrees, fishing and manufacturing firms were ordered to distribute 10%
of pre-tax profits to their workers and to gradually give
them half-ownership. Profit-sharing and worker ownership arrangements
now are being applied to the mining companies as well.
4. The government's first action - expropriating IPC - solidified
popular support but created serious economic problems. 1 / In the
aftermath, foreign investment and banking credit flows fell sharply, as did
new economic assistance from international agencies and the United States.
Despite massive efforts, the regime was unable to obtain much usable
assistance from Communist countries or attract substantial new capital from
such non-US sources as Western Europe. While the government's
stabilization policies improved public finances, the balance of payments,
and price stability, the economic and social reform program caused domestic
businessmen to hold back with investments. The recession continued
through 1969, with per capita output declining for the third successive year
(see Figure 1).
Domestic Economic Developments in 1970
Output and Investment
5. Fortuitous circumstances led to a resumption of economic growth
in 1970. Except for private construction, all sectors contributed to the
advance in output of about 611o. Good weather increased agricultural output
by about 5%, and the fish catch soared by 40%/o to a record high. Despite
continued strikes by rival unions, mine output rose in response to high
world market prices, and increased liquidity and rising wages helped fuel
an 1 I% increase in manufacturing output. Even construction rose slightly
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Porcontngo Change In GOP
Total Per Capita
rrn
logo
Percentage Increase In
Consumer Prices
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because of increased public investment and large earthquake relief
expenditures at the end of the year (see Figure 1). Nevertheless, domestic
private investment remained depressed, not only because of the regime's
reform program but also because' of the excess capacity created by the
investment boom of 1964-67 - when gross domestic investment averaged
23% of gross domestic product (GDP).
6. Increasing government pressure on foreign investors to develop
their long-held mineral concessions resulted during 1970 in the start of work
on the $355 million Cuajone copper project and the $12 million Madrigal
mine. In addition, work continued on a $25 million expansion program
at the Marcona iron mine, and the Belco Petroleum Company initiated a
$20 million investment program. Despite these developments, there was a
net outflow on total direct investment of some $15 million, as in 1969.
Moreover, the book value of direct foreign investment fell sharply because
of the negotiated nationalization of foreign-owned equity in domestic banks
and an International Telephone and Telegraph Company subsidiary and the
sale of several US-owned properties to Peruvians.
Trade and Balance of Payments
7. High fishmeal prices and production and increased sugar output
raised export earnings by 17% during 1970, while import controls and
stagnating demand for capital goods by manufacturers held imports to a
4% rise (see Figure 2). Contributing to the boost in export earnings was
the government's takeover of fishmeal marketing in mid-1970. Because Peru
normally accounts for about 60% of world fishmeal exports, the new
government marketing agency was able to fix prices at high levels despite
a record catch and increasing stocks. High prices helped Peru to boost fishery
export earnings by 58% (to $347 million) in 1970, but the fishmeal stocks
are now proving troublesome because of deterioration and the high cost
of storage.
8. Net foreign exchange reserves soared from $152 million at the
end of 1969 to $410 million - the equivalent of seven months' imports --
at the end of 1970. In addition to achieving a record trade surplus, Peru
obtained nearly $60 million in balance-of-payments relief in 1970 by
renegotiating its foreign debt payments the previous year (see Table 1).
This action helped to offset the reduction in economic assistance resulting
from the IPC controversy. Moreover, Peru received about $60 million in
US and other foreign grants for earthquake assistance and $14 million in
special drawing rights from the International Monetary Fund. Nevertheless,
the capital account would have had a substantial deficit had it not been
for the forced repatriation of about $170 million in foreign currency
deposits of Peruvian citizens.
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Peru: Exports, Imports, and Not Foreign Reserves
Million US S
1,250
0 1
1006
811648 7.71 CIA
Table 1
Exports (F.(
Imports (C.I.F.)
Not Foreign Reserves
1070
Peru:
Net Long-Term Capital Flows
Million U
S
$
Official Flows
Year
Private
Flows
With Debt
Servicing Gai
as from
Scheduled Renego
ned
Debt
tiation T
t
l
o
a
1966
+ 35
+ 143
+
1
78
1967
+ 27
+ 142
+
1
69
1968
15
+ 54 +
50 +
8
9
1969
- 11
+ 40 +
80 +
10
9
1970
- 23
+
59 ?-
1
9
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Public Finance
9. After two years of austerity, budget policy became expansionary
during 1970. Investment expenditures increased by 38%, while current
expenditures rose about 12%. Because revenues increased only 11%, the
budget deficit widened considerably, although it remained much smaller
than in 1966-68 (see Table 2). As in 1969 (but unlike previous years),
public savings were sufficient to finance a large share of public investment.
Moreover, despite the lack of new foreign loans to finance the budget deficit,
little recourse to inflationary bank credit was necessary. The forced
repatriation of Peruvian bank deposits abroad greatly increased domestic
liquidity and allowed the government to place about $80 million in domestic
bonds, which covered almost the entire deficit.
Implementation of Reforms
10. The Peruvian "revolution" appears to have entered a period of
consolidation and, perhaps, reconsideration. J Few new reforms have been.
introduced since mid-1970, although the regime has broadened the scope
of some earlier bills and continued to increase its control over the economy.
Recent developments - the replacement of the Minister of Agriculture and
the Minister of Industry and Commerce by more moderate officers, the
toughening attitude toward Communist union leaders, and the new favorable
oil exploration regulations - indicate that the regime may be giving more
consideration to the economic consequences of socially and politically
motivated actions. There is little doubt, however, that it remains committed
to the basic goals of economic independence, greater state control over
the economy, destruction of the oligarchy's economic and political power,
and more equitable income distribution.
11. Velasco views agrarian reform as a key program and has vigorously
promoted it. In the first 15 months of his five-year program, some 50,000
families were settled on expropriated lands, compared with the 13,000
families settled during five years under the previous government. 31 F
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Table 2
Peru: Government Finances
Billion Soles
1966
1967
1968
1969
1970
Revenues
20.3
23.5
28.9
33.8
37.5
Curren expenditures
19.5
23.6
27.5
28.4
31.9
Public savings
0.8
-0.1
1.4
5.4
5.6
U
lam".
x
Foreign grants for earthquake relief
-
-
-
-
0.4
71
Capital expenditures
Deficit
Financing of the deficit
5.9
6.3
6.1
6.3
8.7
1
H
Foreign loans
1.8
3.2
1.8
1.7
-0.7
Domestic loans
Of which:
3.3
3.2
2.9
-0.8
3.4
Central Bank credits
3.7
1.8
1.5
-0.2
0.3
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12. Industrial reform has advanced more slowly, probably reflecting
growing concern in the government over the feasibility of some measures.
The questionable workability of several provisions of the automotive decree
(which drastically restricts the use of imported components while setting
low price ceilings for vehicles) has caused widespread dissatisfaction, and
doubts are growing about the economic costs of the decree granting workers
eventual 50% ownership in manufacturing firms. The new Minister of
Industry and Commerce has been welcomed by businessmen as being more
moderate and realistic but thus far has given little indication of the path
he actually will follow.
Foreign Economic Relations and the Copper Expansion Program
13. Velasco's foreign economic policies, emphasizing independence
from the United States, have been reflected in nationalization of
some US-owned firms, increased government control over others, and
concerted attempts to increase economic ties with Japan, Western Europe,
and Communist countries. Although Pe-au has increased its mineral and
fishmeal exports to Communist countries, it has not been markedly
successful in obtaining aid from them. Some $70 million in suppliers' credits
have been extended by the Communists, but so far there have been no
drawings on them. Two competing credit offers have been obtained from
Western Europe - a $69 million Belgian credit to finance a copper mine
and refinery and a British offer of $100 million to develop the same deposit.
In addition, a Yugoslav firm is negotiating to construct and help finance
an $80 million irrigation project in northern Peru
At the same time,
there has been substantial disinvestment by US firms and a drop of more
than $100 million in short-term credit outstanding from US banks.
Moreover, aside from the earthquake relief and about $55 million in loans
from the Inter-American Development Bank, Peru has received no economic
aid recently from the United States or international financial organizations.
14. Foreign investors' wariness of the Peruvian "revolution" has been
the major cause of Velasco's failure to locate financing for the important
copper expansion program. Since the 1968 coup, the regime has increasingly
press.ired US concession holders to develop Peru's large known deposits
while setting more and more stringent terms. The deposits' exploitation,
which would almost quadruple Peru's copper output of 200,000 metric tons,
would cost about $1.5 billion (see Table 3). Only the Southern Peru Copper
Company (SPCC) thus far has signed a contract to develop one of the
deposits - a step taken largely because it feared that otherwise its large
operating Toquepala mine might be taken. SPCC has agreed to put $25
million of its own money into the Cuajone deposit by October 1971, and
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Table 3
Peru: Status of Major Undeveloped Copper Deposits
Present or Former
Name of Deposit Concession Holder
Cuajone Southern Peru Copper Co. -- SPCC
(subsidiary of American Smelting
and Refining Corp., Cerro Corp.,
Phelps Dodge Corp., and Newmont
Mining Co.)
Quellaveco
Michi
uilla
q
Antamina
Tintaya
Las Mambas
Estimated Production
Ore Target Estimated
Reserves (Thousand Expected Development
(Million Metric Life of Cost
Metric Tons Mine (Million
Tons) per Year) (Years) Us 5) Status of Concession
Southern Peru Copper Co.
Northern Peru Copper Co.
(subsidiary of American Smelting
and Refining Corp.)
183
455
46
121
Anaconda Co. -
Cerro Corp.
Cerro Corp.
20
28
Cerro Corp.
8
18.6
Cerro Corp.
30
65
39 355 Under contract; in
execution
37
31
166 Returned to the government
334 Returned to the government
37 155
15 250
16
13
10
Returned to the government
Canceled by the government,
but a new contract is
under negotiation
56 Canceled by the government
37 Canceled by the government
150 Canceled by the government
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y
1-~ -
Cerro Verde
Morococha
CA
n
Nr,.~
lTJ
H
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the regime recently accepted the company's guarantee that financing will
be provided for the remaining $330 million cost of the project despite failure
to obtain outside financing after lengthy negotiations with the Japanese
and West Europeans. Cerro Corporation, which has a nonferrous mining
complex that also is vulnerable to adverse Peruvian action, has tried -- so
far without success to come to terms with the government.
15. Except for SPCC's Cuajone project, all major unexploited copper
concessions now have reverted to state ownership because the companies
failed to meet the regime's development deadlines. Although the companies
were reluctant to lose their concessions, they decided that they had little
alternative in the face of the government's increasingly confiscatory demands
concerning ownership rights, tax rates, and control of refining and
marketing. The companies were unwilling to risk their own capital in such
an unstable investment climate and were unable to arrange financing from
other private sources. Because of the IPC dispute, moreover, neither US
government investment guaranties nor Export-Import Bank loans have been
available for investments in Peru.
16. Peru probably thought it was dealing from strength in negotiating
with the US companies because of high world copper prices in 1969-70
and widespread interest in locating new copper supplies. The government
established a state mining company, Minero Peru, to develop the lapsed
concessions and apparently expected little difficulty in luring other foreign
capital into joint ventures or credit financing of the projects. Thus far,
Minero Peru has located financing for only one of its projects - the first
stage of the relatively small Cerro Verde deposit, previously held by
Anaconda. Details of the competing British and Belgian credit offers are
still being considered, and work on the project is unlikely to begin before
1972.
17. Aside from copper, the only other significant area of interest for
foreign investors is petroleum exploration in the Amazon region. Because
of the large oilfields discovered east of the Andes in both Ecuador and
Colombia, there has been considerable speculation that Peru may have
similar deposits. In late June, Peru signed a contract calling for Occidental
Petroleum Company to invest $50 million in exploration over the next seven
years. If oil is discovered, Occidental will share output equally with Peru.
In addition, the company will build a trans-Andean pipeline to carry the
crude oil if the strike justifies it. Occidental also has a contract for a much
smaller offshore exploration program. Since Peru's production from the
former IPC holdings is declining rapidly, output from new fields is needed
to avoid increasingly large petroleum imports. Even if substantial reserves
are found, their economic contribution will be small until the mid-1970s
because of the time required to construct a pipeline.
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OuCook
18. The economic growth rate probably will be relatively high during
1971, but such a pace will be difficult to maintain in subsequent years.
Overall demand should continue to increase in response to rising wages and
government spending, including an expanded public investment prc,ram.
Because of the low level of industrial investment since 1967, however,
manufacturing growth probably will soon be restrained by capacity
limitations, Domestic private investment may recover somewhat as capacity
output is reached, but much will depend on how the regime administers
the industrial reform law. Although no major additions to mining capacity
will occur in 1971, the government's hardening attitude toward disruptive
labor activities should result in expanded production from existing mines.
Prospects for continued rapid growth in agricultural output are not good,
however, because production already has recovered to pre-drought levels
and will be increasingly affected by agrarian reform.
19. Inflationary pressures will be strong during the next year or so
unless the regime raises taxes or reduces public investment -- moves that
would restrict growth. Because foreign loans probably will continue to be
scarce, domestic financing needs will be large. Despite continued excess
liquidity in the private sector, the government probably will be unable to
meet its financial requirements through non-inflationary domestic bond
issues, as in 1970. It thus will have to borrow heavily from the banking
system if it is to carry out its investment plans. Moreover, the government
will find it politically difficult to pursue a more austere wage policy and
economically counterproductive to increase credit and price controls. Even
if the government increases imports to offset slower agricultural growth
and manufacturing bottlenecks, more rapid inflation seems inevitable.
20. Peru faces a marked reduction in its trade surplus during the next
few years. Export earnings are expected to stagnate, and unless controls
are tightened, imports should rise rapidly after being depressed for three
years. The volume of mineral exports may rise slightly, but this gain could
be offset by further price declines. Fishmeal output has about reached an
ecological limit, and the large accrued stocks will tend to hold down prices
in the near future. Alth^ugh Peru has been able to increase fishmeal exports
to Communist countries - including recent sales of 105,000 tons to 'uba
and 200,000 tons to China - the shift of many US and West European
consumers to other, less expensive protein sources could force price
reductions. Agricultural exports - mainly sugar and cotton - also may suffer
declines as growing domestic demand for foodstuffs causes shifts in land
use. Moreover, sugar export proceeds are likely to fall because Peru's quota
for the US market is facing a substantial cut and Chile, a
traditional non-quota market, is now being supplied by Cuba.
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21. Although large net payments for services are expected to more
than offset a decreasing trade surplus during the next few years, capital
transactions will largely determine how much Peru will have to draw down
its foreign reserves. Foreign debt payments are scheduled to rise sharply
in 1972-75 and, although Peru probably will request another rollover, its
presently large reserve holdings may make creditors less forthcoming, than
they were in 1969.. Barring a major shift in the investment climate -- which
is not now anticipated - receipts of economic assistance and private foreign
investment are not likely to be sufficient to avoid fairly
large balance-of-payments deficits during the next few years.
22. In the long run, Peru's economic growth and foreign payments
position will depend heavily on its ability to attract large-scale investment,
particularly in mining. Attracting capital in turn will depend upon the
government's willingness to adopt policies more favorable to private business
and the ability to convince prospective investors of their durability. Under
the best circumstances, the long lead times and heavy costs involved in
completing new mines and other large projects will preclude any major
contribution to output capacity or export earnings before the mid-1970s.
If the Velasco government -- or its successor -- adheres to the nationalistic
and statist path it has thus far pursued, this timetable will almost certainly
considerably delayed and possibly indefinitely postponed.
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