INTERNATIONAL ECONOMIC & ENERGY WEEKLY
Document Type:
Collection:
Document Number (FOIA) /ESDN (CREST):
CIA-RDP97-00771R000707300001-5
Release Decision:
RIPPUB
Original Classification:
S
Document Page Count:
35
Document Creation Date:
December 22, 2016
Document Release Date:
October 1, 2010
Sequence Number:
1
Case Number:
Publication Date:
November 30, 1984
Content Type:
REPORT
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Directorate of SeeFet-
Intelligence
c~ - ~ -,-7t0tU-e .
International
Economic & Energy
Weekly
se
DI IEEW 84-047
30 November 1984
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International
Economic & Energy
Weekly
15 / International Financial Situation: Status of Bank Lending to LDCs
iii Synopsis
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Perspective-Creditor Views on LDC Financial Prospects
Briefs Energy
International Finance
Global and Regional Developments
National Developments
19 /West Germany: Steel Restructuring
23 Australia's Economic Recovery: Hawke's Election Trump Card
27 / Egypt: Nuclear Power Program Falters
31 / Mexico: Border Assembly Operations Expanding
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Comments and queries regarding this publication are welcome. They may by
Directorate ofIntelligenceF - - - 25X1
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International
Economic & Energy
Weekly
Synopsis
1 Perspective-Creditor Views on LDC Financial Prospects
International bankers are more optimistic than they were several months ago
about LDC financial problems. Despite the more favorable economic environ-
ment, however, bankers admit their reluctance to extend many new credits to
LDCs. 25X1
15 International Financial Situation: Status of Bank Lending to LDCs
Commercial bank lending to LDCs remains depressed, reflecting creditor
reluctance to lend to debt-troubled countries and reduced LDC external
financing requirement. Bankers continue to reassess lending strategies and are
urging LDCs to seek funds elsewhere, particularly from official creditors and
foreign investors 25X1
19 West Germany: Steel Restructuring
The recently announced merger between Kloeckner-Werke and Krupp, West
Germany's second- and fourth-largest steel companies, is the first step toward
a much-needed consolidation of Western Europe's largest national steel
industry. F__~ 25X1
23 Australia's Economic Recovery: Hawke's Election Trump Card
Australia's popular Prime Minister, Bob Hawke, is relying on a resurgent
economy to guarantee his party's victory on 1 December. F 25X1
27 Egypt: Nuclear Power Program Falters
Lack of cash or a decent credit rating is thwarting Egypt's attempts at a
nuclear power program. Low domestic energy prices would make it impossible
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31 Mexico: Border Assembly Operations Expanding
The peso devaluations since the beginning of 1982 and favorable treatment
from the de la Madrid administration have spurred the growth of assembly op-
erations along the US border. The expansion may be short lived, however, due
to labor shortages, inadequate physical facilities, and increasing costs.
iii Secret
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Creditor Views
on LDC Financial Prospects
International bankers are more optimistic about LDC financial problems than
they were several months ago. They point to stronger LDC liquidity positions,
continued financial adjustment by debtors; increased LDC exports, declining
international interest rates, and a softening in the. oil market for their upbeat
outlook. Much of the talk about alternate solutions to the debt crisis-such as
capitalization of interest-has faded. European bankers favor the current case-
by-case approach because of its success. Despite the more favorable economic
environment, however, bankers admit their reluctance to extend many new
credits to LDCs.
Because commercial banks are hesitant to lend, debtors will be seeking more
multilateral institutions, particularly the World Bank and the Inter-American
Development Bank. Many members of the international financial community
are looking to the World Bank to take a more active role in LDC development.
Fonsequently,
debt-troubled LDCs are strong proponents of boosting the lending resources of
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Perspective
financial flows to debtor countries will rebound in
International
Economic & Energy
Weekly
could come from the repatriation of flight capital.
several stages if these countries continue to restore their creditworthiness. The
first stage would be a recovery in trade financing by the commercial banks.
We are already beginning to see signs of growth in short-term, trade-related
credits to Mexico and Brazil. The next would entail a renewal of long-term fi-
nancing from banks, governments, and multilateral institutions. Should confi-
dence within the financial community continue to grow, LDCs could expect
increased equity investment. Additionally, for those LDCs with good economic
performance and a generally stable political situation, another wave of funds
To restore confidence, the debtor countries must continue economic adjust-
ment. The case-by-case approach to the LDC debt problem has been
successful primarily because countries have undertaken austerity measures. As
LDCs move to export their way out of financial problems, they also must
adjust structurally to sustain this export growth. With flexibility and creativ-
ity, the international financial community should be able to ease the adjust-
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ment through bank lending, direct investment, and official flows. Still, we do
not believe the financial community will provide the funds needed for marked
rebounds in LDC growth rates.
Progress toward resolution of the debt problem could be threatened by
external factors. In the event of sharply rising interest rates, slowing OECD
growth, increased OECD trade restrictions, or a major oil shock, the financial
needs for some countries would grow to levels that lenders would be unwilling
to finance. Progress could be thwarted by reactions within debtor countries to
continued outflows of capital. In particular, we believe political leaders in
Latin America probably will come under increasing pressure to stem the net
outflow. At this time, a net inflow of funds could only be. achieved with a more
rapid growth of exports, a dramatic drop in dollar-related interest rates, or
interest' payment relief.
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Energy
OPEC Production' OPEC production averaged 16.9 million barrels per day (b/d) in October, and,
Update despite the organization's decision last month to reduce quotas to restore
stability to the market, preliminary indications are that November output will
top the cartel's self-imposed 16-million-b/d ceiling. Nigeria, Iraq, Indonesia,
and the UAE have been the principal violators, and the majority of other
members are merely paying lipservice to newly assigned quotas. The US
Embassy reports that Indonesia does not intend to abide by OPEC's month-old
agreement. Overproduction and a rash of price discounts by the UAE, Iran,
and Indonesia continue to undermine OPEC's official price structure and,
are partly responsible for the recent sharp drop
in spot prices. OPEC's lack of commitment to its latest accord .casts serious
Quota
1984
Third Quarter
October
November
Total
16.000
17.0
16.9
16.3-17.0
Algeria
0.663
0.7
0.7
0.7
Ecuador
0.183
0.2
0.3
0.3
Gabon
0.137
0.2
0.2
0.2
Indonesia
1.189
1.4
1.4
1.4
Iran
2.300
2.2
1.9
1.8-2.1
Iraq
1.200
1.2
1.3
1.3
Kuwait
0.900
0.9
1.0
0.9
Libya
0.990
1.1
1.0
1.0
Nigeria -
1.300
1.2
1.5
1.5
Qatar
0.280
0.4
0.4
0.4
Saudi Arabia
4.353 c
4.0
4.0
3.6-4.0
UAE
0.950
1.2
1.1
1.1
Venezuela
1.555
1.8
1.8
1.8
e Preliminary.
b Neutral Zone production is shared equally between Saudi Arabia
and Kuwait and is included in each country's production quota.
c Saudi Arabia has no formal quota; it acts as swing producer to
meet market requirements.'
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year.
doubt on the organization's ability to forestall a price drop in the next few
weeks and raises even more serious questions about defending prices early next
0of Oil r Spot prices for most crudes have fallen 25 to 75 cents per barrel in the past
arket Trends week. The spot price for the benchmark Arab Light crude now approximates
F___~several OPEC members have, not adhered to the terms of OPEC's
$1.65 and $1.50 below official levels. According to press reports
$27.35 per barrel, $1.65 below its official price, and prices for two other key
crudes-Brent and West Texas Intermediate-also respectively are about
OPEC producers.
October accord and have offered substantial price discounts to market
additional oil. Persistent price weakness already has forced several major US
oil companies to reduce posted prices, and many industry sources speculate
that North Sea oil producers-particularly Norway-will be forced to cut
official prices an additional 30 to 60 cents per barrel unless spot prices
strengthen appreciably in coming days. We believe the unseasonably warm
weather so far this year and expectations of further price reductions have
caused buyers to defer purchases. Any further price cuts by non-OPEC
producers probably would spur additional reductions by Nigeria or other
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Iian Petroleum
spects Dim
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India's drive toward petroleum self-sufficiency will begin to lose momentum
next year, according to the US Embassy. Sharp rises in output from the
offshore Bombay High field since 1982 have almost tripled domestic produc-
tion, which now satisfies about 70 percent of India's 796,000-barrel-per-day
(b/d) consumption. Net imports have declined to less than $3 billion a year
from a peak of $6.7 billion in 1980/81. Production at Bombay High is leveling
off, however, while consumption is still growing 5 to 7 percent a year. The Em-
bassy is skeptical of Indian Government estimates that new discoveries could
provide 161,000 b/d and improved recovery techniques an additional 101,000
b/d by the end of the decade. Despite New Delhi's tentative plans to spend
more than $18 billion on exploration and development during the next five
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Oil Development
in Sudan Stalled
Z
become a major problem again after 1990.
years and to rely more heavily on domestic gas and coal, we believe that
prospects for self-sufficiency will decline and India's oil import bill could
able to operate effectively in the south.
Oil development activities by a US firm in Sudan will remain sharply curtailed
despite recent statements by the Sudanese Government suggesting an agree-
ment had been worked out for the company to resume operations in southern
Sudan. The firm has reiterated it will not recommence activities in the south
until the security of its personnel is assured, and it is withdrawing its general
manager and reducing its staff in Sudan. The Sudanese Government has been
pushing the firm to resume operations since last February, when insurgents
attacked the company's facilities at Sudan's main oilfield at Bentiu. Recently,
Khartoum has threatened to turn oil development over to a joint venture being
formed by the Saudi entrepreneur, Adnan Khashoggi. However, in the absence
of a settlement with the insurgents, it is unlikely that any company would be
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EC Cancels
Steel Accord
With United S at
Global and Regional Developments
ing table to avoid escalation of the dispute.
The EC has renounced its 1982 agreement to limit exports of steel pipes and
tubes to the United States. The move came in response to US rejection of an
EC offer to reduce its current share of the US market to 7.6 percent. For the
first nine months of this year, EC pipe and tube exports to the United States
leaped 92 percent compared with the same period a year ago, in part because
of the dollar's strength; the Community now accounts for 14 percent of the US
pipe and tube market. The 1982 agreement pledged to limit pipe and tube
shipments to 5.9 percent of the US market but had no enforcement provisions.
Without a negotiated agreement, EC pipe and tube exports will face a
unilateral US embargo for the remainder of the year and in 1985 be limited to
5.9 percent of the projected US market, or roughly 560,000 tons. The EC is
threatening retaliation-it is already seeking compensation through the
GATT-but the Community probably would prefer to return to the bargain-
W t Germany The West German Cabinet earlier this month confirmed the planned extension
tends Territorial of West German territorial waters in Helgolander Bay on the North Sea from
aters 3 nautical miles to 16 nautical miles. To prevent oilspills from tanker
accidents, Bonn is planning new traffic regulations and a new radar system for
the area-one of the world's busiest shipping lanes. The extension is to take ef-
fect in three to four months. The original October 1983 decision had been
under review because of US objections that the decision would create a
precedent for other extensions, which might hamper the freedom of movement
of Western naval forces and merchant vessels. Recent publicity surrounding
the Law of the Sea Convention and heightened environmental pressures,
however, led to the Cabinet decision, which was made on short notice and
reportedly without consideration of alternative proposals.
Aenewed CEMA-EC The EC is deflecting new CEMA efforts to negotiate a bloc-to-bloc trade
Trade Talks agreement. The CEMA summit last June agreed to attempt to revive
moribund negotiations with the EC for an umbrella agreement and chose
Bulgaria to make the approach. The Bulgarian Foreign Trade Minister
accordingly told EC Vice President Haferkamp late last month that CEMA
was flexible on terms and procedures. The Bulgarian stated that, after the
umbrella agreement is reached, CEMA countries could sign separate accords
with the EC, as Romania did in 1978. Haferkamp responded that the EC still
awaits a written reply to its March 1981 letter and that the EC sees little value
in a framework agreement with CEMA.
The EC Commission almost certainly will proceed cautiously. The Community
probably continues to prefer negotiating trade agreements with individual East
European countries. EC members also may be concerned that an EC-CEMA
agreement would widen trade deficits with Eastern Europe. The Soviet-
initiated CEMA proposal might-as perhaps originally intended-slow the
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efforts of some East European countries to deal directly with the EC. The East
Europeans, however, are likely to resume such talks when the failure of, . .
USSR Strengthening
Economic Ties
With Iraq
CEMA-EC talks again becomes apparent.
Iraq has awarded the USSR a
$200 million contract for a gas pipeline to connect Iraq's southern
. Ar Rumaylah oilfield to Baghdad. Earlier this year Moscow extended
Baghdad a $2 billion credit for the construction,of two thermal power stations,
the development of an oilfield, and the purchase of Soviet weapons. Iraqi
civilian imports from the USSR since the war began total roughly $1 billion.
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Tight steady next year, spending increases in some programs, including EC contribu-
tions, will be balanced by decreases in others. Despite a nearly $1 billion
Iraq's economic difficulties make Baghdad willing to forgo the advanced
Western technology for more attractive credit terms. Dependence on Soviet
weapons could be an additional incentive to look favorably on Soviet bids for
economic projects. Nevertheless, Baghdad remains wary of Moscow's inten--
tions and probably will restrict economic deals to electric power, communica-
tions, and energy projects- areas in which the USSR is already deeply
involved. Iraq still imports about three-fourths of its civilian goods from the
West and is likely to rely primarily on Western firms to rebuild its economy.
National Developments
Developed Countries
British Economic London's recent expenditure statement confirms Prime Minister Thatcher's
Policies To Remain commitment to tight fiscal and monetary policies. To hold real public spending
overrun in the.projected budget deficit this fiscal year, which Chancellor of the
Exchequer Lawson attributes to the ongoing miners strike, London hopes to
implement a $2 billion tax cut in the next budget. An end to the strike would
improve the current account deficit as coal and steel exports recover and oil
imports to offset coal losses cease. Budget critics,. however, are likely to point
to the lack of measures to stem rising unemployment-currently 13. percent;
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The Treasury has presented an optimistic forecast of 3.5 percent for FY 1986
economic growth-assuming complete recovery from the costly miners strike,
which shaved an estimated 1 percentage point off growth in FY 1985. Lawson
claims that 3.5-percent growth will bring public spending as a share of GDP
down to 41 percent-its lowest level in 6 years. Most forecasters, however,
estimate real growth next year at only 3 percent as low inflation, falling
interest rates, and a record low pound boost investment and exports, offsetting
sluggish consumer spending.
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VI
UK Defense Spending Despite earlier Cabinet pressure, London has announced the defense budget
of Cut for 1985/86 will not'be affected by the latest round of government spending
cuts. The US Embassy reports that defense spending is projected to increase
Reforms
West German Surtax
Declared
Unconstitutional
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30 November 1984
Trident missile program.
by 2.8 percent in real terms in the next fiscal year. No real increases are pro-
jected after 1985/86. The 2.8-percent projection of real growth, however, is
based on a 4.5-percent increase in defense costs. If, as is likely, defense costs
grow faster than the overall inflation rate, this target will not be met.
According to the Embassy, even most Conservatives are convinced that
defense is taking up enough of the government budget, and Defense Secretary
Heseltine avoided projected spending cuts in future years only by abandoning
his call for continued real growth after 1985/86. Preservation of 1985/86
spending levels will strengthen Prime Minister Thatcher's goal of maintaining
current NATO commitments and modernization programs, including the
through government channels.
Finance Minister Pierre Beregovoy has announced three small reforms of the
financial system in the past month that signal a modest step toward a more
market-oriented approach. A system of progressive reserves and capital ratios
will replace bank-by-bank credit ceilings, which limited competition between
banks. The government will still favor certain types of loans, such as exports
and industrial investment and, according to the US Embassy, most bankers
think this first step may actually, tighten credit. Foreign exchange controls
have also been eased. French nationals may now send about $160 abroad
monthly rather than quarterly. French companies will be allowed to finance 50
percent of investments within the EC from domestic sources rather than 25
percent, and EC institutions will be given greater access to French financial
markets-especially for European Currency Unit issues. This move probably
reflects an improving foreign payments position, and rules can be tightened
again if necessary. Several forms of subsidized credit will be eliminated and re-
.placed by market rate loans. Although this reform will reduce costs to the
government, it is not likely to reduce greatly the total amount of loans granted
welcome stimulus to holiday retail sales. Bonn can easily cover the reven
West Germany's constitutional court earlier this month ruled against a 1983
surtax on upper-bracket taxpayers. The 5-percent "forced loan," earmarked
for housing construction, was to be levied on 1983-85 tax liability and repaid
without interest during 1990-93. The $700 million in refunds will provide a
loss,
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U
Japanese Planners
See wth Continuing
985
Anot er Israeli
In tion Record
op'Vest Bank
oneychangers
the persistent deficit.
A preliminary forecast by Japan's Economic Planning Agency (EPA) puts real
GNP growth for fiscal year 1985 (beginning next April) at 4.6 percent, down
from this year's projected 5.3 percent. With exports likely to slow next year,
the economy will have to depend increasingly on domestic demand. Investment
is forecast to increase by 8 percent, down from this year's estimated 10
percent. Private consumption-over half of GNP-is expected to rise by 4
percent, about the same as this year. Despite the export slowdown, Japan's
current account surplus-running at record levels this year-is not likely to be
reduced, according to the forecasters. A separate EPA forecast, based on the
EPA's world model, shows growth of 4.1 percent in 1985. The Ministry of
Finance is pushing the EPA for a lower final forecast, hoping to point to
expected lower government revenues to justify a tighter budget to help reduce
freeze will dampen inflation in November and December.
Israeli consumer prices rose by 24.3 percent in October, breaking the record
for the second straight month. The annual rate based on the first 10 months of
the year hit 491 percent. Under the terms of the wage-price freeze agreement
signed in October, workers will receive a cost-of-living adjustment of only
12.9 percent on wages paid on 1 December; previously the adjustment would
have been 19.4 percent. Israeli officials expect the 3-month wage and price
The Israeli Government has ordered unlicensed West Bank moneychangers to
close down and licensed moneychangers to deal only in shekels and Jordanian
dinars. While dinar transactions now require a. Jordanian passport, many West
Bankers who convert their depreciating shekels daily into dinars, do not have
passports. In addition, West Bankers, who are allowed to bring up to $5,000
with them when entering the West Bank from Jordan, must now deposit those
funds in Israeli banks within 48 hours. By these new measures, the Israelis are
trying to stem illegal purchases of US dollars, which the US Consulate in
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quality of life in the occupied territories.
Jerusalem estimates exceed $100,000 per week. They will not succeed unless
the crackdown is also applied to Jewish moneychangers in Tel Aviv and
Jerusalem. Moreover, the recent moves, if actually enforced, will undercut
Prime Minister Peres's stated aim of trying to improve the Palestinians'
Tough New Zealand The Lange government's first budget-for the fiscal year ending in March
Budget 1985-is a political gamble designed to tackle the country's.. serious economic.
problems, particularly a burdensome US $2.1 billion budget deficit. According
to .the US Embassy, Lange wants to get painful reform measures in place
quickly, while his popularity-recently recorded at 75 percent-remains high.
The new budget raises the average income tax rate and imposes increased
duties on cigarettes, alcohol, gasoline, and electric power, while reducing
subsidies to farmers and manufacturers. Increased social benefits, however,
are expected to boost government spending more than 9 percent, offsetting
some of the revenue gains. Although some party stalwarts are unhappy with
the tax reform measures, domestic economists are praising the efforts to
reduce the deficit and support the emphasis on free market pricing policies.
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Less Developed Countries
1 oviet Famine Relief Despite its provision of equipment to transport famine relief supplies in
for Ethiopia, Ethiopia, Moscow has not altered its tough stand on economic assistance or di-
Nicaragua's Banana
Exports Remain High
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USSR's self-reliance during its early years.
salter relief. Ethiopia has agreed to Moscow's demands that Soviet aircraft be
fueled at Ethiopian expense, according to a US Embassy source. The Soviet
Ambassador, in acrimonious talks with a senior Ethiopian Workers' Party
official, required per diem reimbursement for Soviet Air Force personnel. The
USSR's tightfisted approach is typical of its economic aid practices. It has
tried to use its logistic support for the relief effort to make Western aid seem
less important, to forestall Ethiopian acceptance of Western transportation
offers, and to convince the Ethiopian people that the USSR, not the West, is
providing most of the food. During Ethiopian ceremonies for the Revolution's
Tenth Anniversary, however, Politburo member Romanov pointedly disavowed
Soviet responsibility for Ethiopia's economic plight, recalling examples of the
Despite insurgent activity, Nicaragua's banana exports are moving briskly.
as of mid-November, Nicaraguan banana exports
were averaging 2,000 metric tons per week-about 40 percent above the rate
.for the first nine months of 1984. If exports continue at the mid-November
rate, we estimate that total 1984 banana exports will reach 75,000 tons valued
at around $25 million, compared with about 62,000 tons valued at $20.2
million in 1983, and only 38,000 tons valued at $9.6 million for 1982. US im-
ports of bananas from Nicaragua for the period of January-September totaled
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nearly 51,000 tons, valued at $17.4 million. Although Nicaraguan bananas
represent only about 4 percent of total US imports, the US market represents
the bulk of the export market for Nicaragua. 25X1
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Chinandega Province have not suffered damage from rebel activity, banana
production next year and beyond could be hurt by the current lack of spare
parts for equipment and machinery. Worker efficiency reportedly also is ~-
suffering from a scarcity of foodstuffs, medicine, and clothing. F__~.
Indon;sia Pressuring Manpower Minister Sudomo's heavyhanded pressure on a US-owned firm to
Afghan Food
Price Ireases
gn Investors
accept a union at its semiconductor plant in Jakarta may damage Indonesia's
investment'climate. Earlier this month, Sudomo stated that the law requires
the company to accept a union immediately. Company officials have said they
are willing to obey the law but believe most of their employees do not want a
union.
According to the US Embassy, even though the outcome of the case against
the firm-one of two US semiconductor firms producing solely for export-
could have been foreseen, it will discourage other potential foreign investors.
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Price increases for basic food items in Kabul have been moderate over the last
two years, but prices in the countryside have risen rapidly. Market surveys by
US Embassy officers during October indicate that the average price of basic
food items in Kabul is about 16 percent higher than two years earlier, although
vegetable oil and lamb prices increased by 64 percent and 29 percent, 25X1
respectively. Surveys taken in provinces outside Kabul indicate prices for
staples have risen by more than 25 percent annually in most areas, no faster
than prices of nonfood items. The increase in Kabul is modest, given the war.
The Soviets have made sizable food deliveries to Kabul to help ensure a degree
of normality .in daily life. Food prices for many in the capital are heavily
subsidized by the government, which has its costs underwritten by the Soviets.
While some price increases for food in areas outside Kabul are caused by
shortages, we believe the inability of the government to dictate prices, the
rapidly growing money supply, and spiraling transportation costs also are
principal factors. F____-] - - 25X1
Pakistani Five-Year Planning Minister Mahbub-ul-Haq announced last week that the five-year
Plan$crapped
economic development plan (1983-88) would be replaced by a rolling three-
year plan. According to the US Embassy, growth targets will be revised
downward and several projects, including the Chasma nuclear power plant,
would be deferred. The scrapping of the plan, barely into its second year,
reflects the slowdown in the economy over the past year and the government's
continuing difficulty funding development projects. Last year's disastrous
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cotton crop resulted in negative growth in the agricultural sector, and worker
remittances began to decline for the first time since the early 1970s, probably
because of declining job opportunities in the Middle East for Pakistani
workers. One of Islamabad's next steps probably will be to request additional
To/romote Exports private-sector incentives through a major revamping of the tax and tariff
assistance from Western aid donors.
NewSr`i Lankan Budget Sri Lanka's CY 1985 budget announced last week focuses on export and
system. Colombo plans to reduce most import tariffs, lower export taxes on
plantation crops-tea, rubber, and coconuts-and extend tax holidays for
nontraditional export industries. Over time, the new tax package is expected to
raise revenues, mainly through increased exports and economic growth.
During the next year, however, added expenditure for development projects,
debt service, and internal security is estimated to raise the budget deficit about
9 percent in real terms compared with 1984. Despite these incentives for
domestic and foreign entrepreneurs, new investment is constrained by lack of
attractive opportunities and political instability stemming from the continued
Tamil insurgency.
Soviet 1985
Economic Plan
allocated for next year.
The economic goals for 1985 announced to the Supreme Soviet this week
indicate Moscow is looking for a rebound in economic growth over the
expected 1984 results. Planning chief Baybakov revealed that agricultural
output fell this year, but he expressed general satisfaction with results in most
other sectors of the economy. He emphasized the consumer-oriented aspects of
the 1985 Plan, citing the rising share of industrial output accounted for by con-
sumer goods and large expenditures on health, housing, and education
The implied growth rate of 3.5 to 4.0 percent for GNP next year is extremely
ambitious. The target for agriculture is not beyond reach, but it will require
much better weather than in recent years. Industry will have to grow at this
year's relatively healthy pace, which will require productivity gains at least as
great as those in recent years and greater savings of energy and metals. The
plan also calls for much larger additions to plant and equipment, while cutting
back the rate of investment growth. Despite Baybakov's consumer emphasis,
the plan could accommodate faster growth in defense spending. The target for
the machine-building sector, in particular, is high enough to support a rise in
Secret
30 November 1984
the production of military hardware.
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USSR: Economic Indicators Average annual growth in percent
1981
1982
1983
1984
1985
(Preliminary) (Projected)
(Planned)
GNP
1.9
2.5
3.2
2.3
3.5-4.0
Industry
2.4
2.3
3.4
3.5
3.9 a
Agriculture
-0.1
6.1
6.3
-1.0
6`7.8
Soviets1Seek Western The USSR has solicited bids from several Western firms for a large
Petr~o,ehemical petrochemical complex at Budenyenovsk in the north Caucasus. The complex
Tedfinolo2v , probably will cost over $500 million and will be financed on a compensation
basis. Planned for 1986-90, it will increase substantially the USSR's capability
to produce plastics. Annual capacity of the major units will be 250,000 metric
tons of ethylene, 200,000 tons of linear low-density polyethylene (LLDPE),
100,000 tons of polypropylene, 50,000 tons of polybutylene, and 60,000 tons of
compounded polyolefines. Polypropylene from the complex will be used by an
electrical devices plant recently ordered from France. This turnkey project
underscores the continuing dependence on Western technology. The USSR is
seeking US technology for the LLDPE plant, which is its first.
Ea t'German
redit Increased
East Germany's previously announced six-year credit of $150 million has been
raised to $400 million
The deal is to be signed on 21 December and will be the largest commercial
loan to an East European country since 1980. Terms include interest at 1
percentage point over LIBOR and a three-and-a-half-year grace period,
making it more attractive than last summer's "jumbo" loan guaranteed by
Bonn. The heavy oversubscription follows two smaller credits announced
recently and indicates East German success in reentering medium-term credit
markets.
German debt next year is likely.
I We believe East Germany will use the funds primarily to lenghten
the maturities of its debt and is likely to seek several medium-term credits next
year to further improve the maturity structure. Midyear figures of the Bank
for International Settlements show another quarterly rise in reserves, to $4.2
billion, while net debt again fell, and we believe another reduction in East
13 Secret
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China Sells Recently the Bank of China issued Japanese yen-denominated bonds worth
Samurai Bonds about US $83 million for sale on the Tokyo Stock Exchange-the first time
the Bank has ever made a public offering. The bonds will carry an interest rate
of 7 percent, only a fraction above those issued by the Japanese Government, a
reflection of the "AAA" rating the Bank has received from Japan's credit
rating institutions. Over the past three years, organizations such as the China
International Trust and Investment Corporation and provincial trust corpora-
tions have issued about $200 million worth of private placement bonds in
Japan and Hong Kong, but, presumably, none of these had the full backing of
the Chinese Government. If the issue is fully subscribed, China probably will
be encouraged to sell bonds in other markets, including the United States. The
recent decision of the Alabama court to throw out the Huguang Railway Bond
case clears the way for such an issue.
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International Financial
Situation: Status of Bank
Lending to LDCs
Commercial bank lending to LDCs remains de-
pressed, reflecting creditor reluctance to lend to
debt-troubled countries and reduced LDC external
financing requirements. Net bank lending to LDCs
at the end of June was only 2 percent-about $6
billion-higher than at yearend 1983, according to
recent Bank for International Settlements data.
This was nearly the same rate of increase as in the
first half of. 1983, but bankers do not expect a
repeat of last year's strong second-half perfor-
mance, which brought the yearly increase-in lend-
ing to about 8 percent, or $25 billion.
Bankers continue to reassess
lending strategies and are urging LDCs to seek
funds elsewhere, particularly from official creditors
and foreign investors.
Syndicated Lending in 1984
Medium- and long-term syndicated lending to
LDCs is continuing the downward trend begun in
1982 following the advent of the debt crisis. Several
major patterns in syndicated lending in 1984 are
evident:
? Over 40 percent of new medium- and long-term
credits have been tied to debt-rescheduling pack-
ages. Nearly all of this "involuntary" lending
went to Latin American debtors. Most other
lending went to Asian and OPEC borrowers.
? Asian countries in general continue to attract the
most favorable loan terms among LDCs. Malay-
sia and Thailand, for example, have been able to
obtain spreads of less than 0.5 percentage point
above LIBOR. Indonesia and South Korea, be-
cause of the magnitude of their external debt,
have had to accept higher spreads but still are
getting an average of 0.75 percentage point above
LIBOR.
December
December
June
1982
1983
1984
Total LDCs
319.2
344.3
350.2
Latin America
196.8
208.0
210.0
Of which:
Argentina
22.2
24.5
23.6
Brazil
56.1
58.8
61.8:
Chile
10.4
11.7
11.8
59.0
64.4
65.8
Peru
5.2
5.2
5.1
Venezuela
22.7
22.8
22.2
52.9
57.7
59.9
India
1.6
2.1
2.2
Indonesia
6.2
7.7
8.5
Malaysia
4.6
6.0
6.6
Philippines
8.3
8.3
8.9
South Korea
18.8
19.5
19.4
Taiwan
5.2
4.7
4.8
Thailand
3.0
4.1
3.8
Middle East
37.5
45.2
47.4
Egypt
4.3
5.8
6.5
Africa
32.0
33.4
32.9
Of which:
Algeria
6.5
6.7
7.0
Ivory Coast
2.9
2.8
2.7
Morocco
3.6
3.8
3.8
Nigeria
7.0
8.5
8.1
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1983
1984
(Jan-Oct)
Total
37.5
27.4
Non-OPEC
30.8
24.6
Of which:
Argentina
1.8
0
Brazil
4.6
6.5
Chile
1.4
0.8
Colombia
0.4
0.2
Hong Kong
0.8
0.8
India
0.8
0.4
Malaysia
1.6
1.2
Mexico
5.1
3.8-
Philippines
0.7
0
South Korea
3.7
3:4
Taiwan
0.3
0
Thailand
6.4
0.4
OPEC
6.7
2.8 .
Of which:
Algeria
1.7
0.3
Ecuador
0.4
0
Indonesia
2.0
1.7
Nigeria
0.2'
.0
Saudi Arabia
0.5
0.5
Venezuela
0.2
0
? The total interest cost on new syndicated loans
has increased by about 1.4 percentage points in
1984. The average spread for LDCs has fallen
slightly, but LIBOR has risen from an average of
9.6 percent in 1983 to 11.1 percent in 1984. The
average maturity on LDC credits lengthened
slightly from six to seven years.
Latin American borrowers remain unable to obtain
many new syndicated credits outside of reschedul-
ing packages. Brazil, Chile, and Mexico have re-
ceived new money in conjunction with their IMF-
supported programs but have obtained only a few
Secret
30 November 1984
small, additional credits. Mexico recently failed to
raise a $50 million loan on international capital
markets., Argentina and Venezuela, once major
borrowers, have been inactive in 1984; Argentina is
attempting to line up new funds along with its IMF
program and rescheduling efforts, while Venezuela
did not seek any new money to better sell its
rescheduling package. Colombia, which was the
last major South American borrower to be consid-
ered a good credit risk, has seen lending fall off
because of problems in its banking sector and
general creditor concern about the region.
Among the major Asian debtors, South Korea
continues to borrow heavily, but commercial banks
are becoming more concerned about South Korea's
short-term debt-about $12 billion-and are more
hesitant about new medium-term loans, without a
rise in the spread. Indonesia and Malaysia, have
been active borrowers, taking advantage of their
relatively good credit ratings. The Philippines,
meanwhile, has not obtained any new syndicated
credits this year but is rescheduling its debt and
seeking new money for 1985.
Most other major LDC borrowers have been rela-
tively inactive in 1984. Algeria, after lining up $1.7
billion in 1983, has been a minor borrower. Nigeria
has yet to obtain any new credits this year because
of its unwillingness to agree to an IMF-supported
adjustment program as the precursor to a debt-
restructuring package.
The prospects for commercial bank lending to
LDCs probably will not improve over the next year.
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Much of the new bank lending for 1985 will again
be linked to IMF-supported financial packages. A
number of major debtors are already lining up new
funds, seeking a total of $9-12 billion:
Bankers
? Brazil began negotiations in mid-November with
commercial banks on debt rescheduling and new
money for 1985. Bankers have indicated that
Brazil is not seeking any medium-term new mon-
ey but is instead pushing for a $4 billion increase
in short-term trade credit lines. Bankers generally
believe that this would be an easier package to
sell to the large group of creditor banks. Creditors
expected negotiations to carry over until after the
presidential elections in January.
? The Philippines is seeking $925 million in new
money from banks and is attempting to sell the
package to the individual creditor banks. Manila
needs to obtain commitments for 90 percent of
the money before the IMF will approve a standby
program, a level that can be reached with com-
mitments from the top 100 of the over 480
foreign creditors.
? Argentina, like the Philippines, needs new money
commitments from commercial banks before ob-
taining an IMF agreement. Argentina originally
requested $5.5 billion, but bankers have stated
that $3.5 billion is the limit. Buenos Aires had
hoped. to obtain the commitments by the end of
November, but negotiations probably will contin-
ue into December.
? Ecuador has indicated that it will need $500
million in new money from banks in 1985 as
opposed to the original estimate of $350 million,
generally are pleased with Ecuador's perform-
ance but are reluctant to provide an additional
$150 million because of the many other new
money requests from Latin American countries.
Among other debt-troubled LDCs, Mexico is at-
tempting to avoid any new borrowing from com-
mercial banks in 1985, but some bankers doubt
that Mexico will be successful. Venezuela will not
be able to raise new money until its restructuring
package is signed. Nigeria and Peru each will have
to reach agreement with the IMF before any new
bank lending will be provided.
Most Asian debtors will continue to attract new
credits, but we believe banks will be more cautious
in their lending toward the larger debtors, particu-
larly South Korea, Indonesia, and Malaysia. Many
smaller banks want to get out of international
lending and may be unwilling to lend even to the
relatively good LDC credit risks.
The slower growth of bank lending will push LDCs
to turn to official sources-Western governments
and multilateral institutions-to fill any funding
gaps. Official creditors, however, thus far have not
been willing to substantially boost their share of
LDC lending. If this pattern remains unchanged,
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West Germany:
Steel Restructuring.
The recently announced merger between
Kloeckner-Werke and Krupp, West Germany's
second- and fourth-largest steel companies, is the
first step -toward a much needed consolidation of
Western Europe's largest national steel industry.
The new company, Krupp-Kloeckner Steel, will be
able to close redundant, older facilities and to
economize on. distribution and raw materials costs.
While backing Bonn's opposition to EC steel subsi-
dies, the West German steel industry will.demand
matching subsidies if the influx of subsidized steel
imports continues beyond next year. The Kohl
government, however,. is likely. to continue its free
market policies-pushing restructuring and shun-
ning mass subsidies and protectionism.
Fighting To Recover
Foreign competition and sluggish demand dropped
crude steel production from a peak of 53 million
tons in 1974 to 36 million tons in 1983. During the
period, West Germany lost market shares in intra-
European trade and suffered in the US market
from Japanese and South.Korean competition. The
independent Italian producers from the.Brescia
area were particularly aggressive in invading the
West German market.
The-merger agreement coincides with a fledgling
recovery for the West German steel industry. Steel
output in 1984-aided by robust export growth,
especially to the United States-should rebound to
40 million tons. The volume of West German steel
product exports rose at a 30-percent annual rate
during the first half of the; year as competitiveness
was buoyed by the strong dollar. In addition, severe
price discounting, which undermined sales revenues
during the early 1980s, is disappearing because of
higher demand and EC minimum price rules
Modernization and work force reduction are per-
mitting the West German mills to generate positive
cash flows at utilization rates that are low by
historical standards. Capacity utilization in the
West German steel industry should average 66
percent this year, compared to about 56 percent in
1983. In contrast, utilization rates were well above
80 percent in 1973-74. If operating rates continue
to improve and prices hold up, West German steel
companies could be in the black by 1985. After five
consecutive years of losses, some mills are predict-
ing break-even points by the end of this year. The
metalworkers did not target steel-during the 1984
strikes because of the precarious state of the indus-
try. F___1
West German steel has weathered a prolonged. ..
crisis, but at a heavy cost.-We estimate that crude
steel capacity has been cut 9 million tons-or
roughly 15 percent-since' 1979. The industry work
force shrank from 169,000 in 1975 to 116,000.by:_
the end of last year. The Kloeckner-Krupp merger
will reportedly cut another million tons of-crude
steel capacity and eliminate 3,000 more jobs. Even
so, more cuts are needed. German steel executives
told US Embassy officials last summer that the
industry must shed another 10-15 million tons of
capacity to run at peak efficiency,
The steelmakers blame much of their. plight- on the
bureaucracies in Brussels and Bonn. They. argue
that the EC should force larger capacity cutbacks
on the much more heavily subsidized. steel indus-
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West Germany: Crude Steel Capacity and
Production, 1973-848
70
I , I,I I I I ~ I ~ I 'I
0 1973 75 77 79 81 83,84a
tries of other European countries, and-they want
Bonn to enact. stringent antidumping rules to keep
out subsidized steel imports. At the same time, they
complain that Bonn is too stingy with financial
assistance.
According to the US Embassy, steelmakers also
believe that the industry's inclusion under EC steel
policy has disadvantaged West Germany's third
country trade, particularly with the United States.
They argue that they have been unjustly harmed by
quotas on EC carbon and specialty steel shipments .
to the United States that were implemented by the
EC as a substitute for US antisubsidy penalties.
The steelmakers feel their industry-the. least sub-
sidized in the. EC-would fare better -under bilater-
al agreements with the United States. West Ger-
man steelmakers are concerned that the new round
of orderly marketing agreements being negotiated
between the United States and foreign steel suppli-
ers will curb pipe and tube sales, and they, along
.with other EC producers, are anxious about possi-
Secret
30 November 1984
ble diversions from the US market to Europe,
especially by LDC steel producers.
subsidy pledge.
The Kohl government has conflicting objectives.
While recognizing the need to consolidate the
industry, it is alarmed by high unemployment rates
in the steel-producing regions, where important
state and local government elections will be held
next year. To ease the pain of restructuring, Bonn
has made a fund of DM 3 billion (US $1 billion) in
adjustment assistance available to steelmakers
seeking to rationalize production. The public mon-
ey will partly offset the costs of reinvestment and
termination and retraining for redundant workers.
The steelmakers complain that the bulk of the fund
is reserved for employee programs, while the new
investment subsidies are available only on a match-
ing contribution basis. Bonn has resisted industry
demands for unilateral import restraints, but is
pushing the other EC countries to honor their
commitments to ban steel subsidies by yearend
1985. Industry leaders, however, are skeptical that
other EC states will follow through on the no-
Bonn's own record on the subsidy issue is not
entirely clean. The Kohl government has been
willing to modify its free market orientation when
faced with job losses in politically sensitive regions.
For example, it recently approved, subject to EC
concurrence, another injection of public money to
keep the Arbed Saar steelworks solvent. Economi-
cally depressed Saar is one of the states holding
elections next year, and Arbed generates one-third
of all industrial jobs in the area. The opposition
Social Democrats have promised government take-
over of Arbed if-as seems likely-they win the
elections.
Merger Activity
A much ballyhooed merger plan between Thyssen,
Germany's largest steel producer, and Krupp dis-
integrated last year when Thyssen dismissed as
inadequate. Bonn's offer of DM 500 million ($160
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West Germany:
Steel Production, 1982
Thousand metric tons
Total
35,880
30,796
Thyssen
10,915
10,223
Kloeckner-Werke
4,697
4,286
Hoesch
4,070
3,485
Krupp
3,991
2,644
Salzgitter
3,797
3,071
Arbed Saar
3,510
2,960
Dillinger
2,145
i,806
Edel
290
206
Other
2,465
2,115
million) in special consolidation assistance. The
Thyssen-Krupp merger would have been consistent
with the recommendation of a panel of experts that
German steelmaking be consolidated into two re-
gional centers: a Thyssen-Krupp combine operating
in the Rhineland and a Kloeckner-Hoesch-Salzgit-
ter group operating in the Ruhr valley.
Instead, the Kloeckner-Krupp merger will be a
functional consolidation. Krupp-West Germany's
largest specialty steel producer-will concentrate
on stainless and high-grade products, while
Kloeckner will streamline its basic steelmaking
operations. An Australian minerals and mining
firm will receive an equity stake in the new venture
The parent holding companies welcome foreign
participation in the new company as a further
means to divest their steelmaking operations.
Thyssen has indicated it is not actively seeking a
merger partner, and will opt to consolidate by itself.
Thyssen and the new Krupp-Kloeckner will togeth-
er control over half of West German steelmaking.
The remaining smaller companies will now be
under increased competitive pressure to merge.
Bonn will face hard choices over steel policy during
the next several years. The steelmakers insist that
their consolidation efforts will be undercut if subsi-
dized imports continue. They issued a September
position paper backing the government's opposition
to an extension of EC steel subsidies into 1986; the
paper also demanded, however, that Bonn provide
matching subsidies if other EC members continue
to aid their domestic steel industries beyond next
year. Bonn realizes that expanded subsidies for
steel would elicit demands for similar treatment
from other declining industries and could provoke
trade reprisals by the United States. Moreover,
Bonn must decide what to do with Arbed Saarstahl,
which may need many more years of government
assistance to stay afloat.
The Kohl government is likely to continue its
present policy of minimal interference, pushing the
steelmakers to trim and modernize while shunning
mass subsidization or import restrictions. Short of
protectionism, Bonn has little leverage over other
EC steel producers' continuing subsidies beyond
next year. Bonn will probably seek compensation
for its industry in the form of higher steel produc-
tion quotas.
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Australia's Economic Recovery:
Hawke's Election
Trump Card
Australia's popular Prime Minister Bob Hawke is
relying upon a resurgent economy to guarantee his
party's victory on 1 December. As the opposition
struggles to find a campaign issue, the Prime
Minister points to:
? The role of expansionary fiscal and monetary
policies in spurring the recovery.
? A successful wage indexation scheme.
? A new national health insurance program.
? Recent tax cuts for lower and middle income
earners.
At the same time, Hawke is reminding business
leaders of reduced inflation, lower interest rates,
extended deadlines for tax deductions on business
investments, and the deregulation of the banking
and securities industries.
With the polls showing that Hawke is preferred by
two-thirds of the electorate, Labor appears headed
for a landslide victory. Economic challenges to
Hawke after the election, however, will be tougher.
Australia's structural economic problems do not
lend themselves to easy solution, and Hawke's own
party may impede further policy reform.
Since the Labor government was elected in March
1983, the Australian economy has done well by any
standard:
? Inflation has been reduced by half-to about 6
percent-aided by declining import prices.
? Unemployment has fallen from a near record 11
percent to below 9 percent.
? Real growth this year, near 6 percent, is the
fastest Australians have seen in a decade.
? Farmers have had a bumper crop, as the four-
year drought has ended.
? Australia's energy and resource sector is booming
again with economic recoveries in industrial na-
tions, especially the United States.
Although external factors have sparked the recov-
ery, praise for his government's role in stimulating
and sustaining it is being heaped on Hawke by both
business and labor.
One of Hawke's greatest achievements was forging
a consensus on economic policy among Australia's
disparate economic interest groups by calling an
economic summit in 1983 among government, la-
bor, and business leaders. Stressing the need for
slower wage growth to improve Australia's interna-
tional competitiveness, Hawke was able to sell the
prolabor Australian Conciliation and Arbitration
Commission on long-term wage indexation. As a
result, real wages fell last year and have risen only
slightly in 1984. Nonetheless, man-hours lost to
industrial disputes this year have been lower than
in any year'since 1967. At the same time, company
profits have surged to their highest level as a share
of GDP since 1973.
Hawke and Treasurer Paul Keating have also
engineered an unprecedented deregulation of both
the banking system and the securities industry
designed to encourage private business investment.
At least 10 foreign banks, including one or two US
banks, will probably win Australian licenses in the
coming year. On the domestic financial scene,
Keating has increased the scope of both banks and
nonbanking institutions; since their functions now
overlap, a wave of mergers is under way.
The Election Budget-Something for Everyone
Media cynicism about the government's attempt to
please everyone, including business, has not damp-
ened the generally favorable reaction to Hawke's
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1985 budget.' Keating boasted in his budget pres-
entation of a threefold commitment for 1984-85: to
cut the personal income tax, to reduce the deficit by
more than US $1 billion,' and to increase social
spending, particularly for those in greatest need.
On the tax front, the majority ofiworkers received
the tax cut demanded by the Australian.Council of
Trade Unions (ACTU). Tailored to traditional La-
bor voters, the cuts are directed to low= and middle-
income earners. Business leaders, meanwhile, are
pleased with the increased tax incentives for invest-
ment in buildings, equipment, and oil exploration,.
and writeoffs for losses by subsidiaries. Hawke's
social spending on welfare, unemployment assis-
tance, and rent subsidies also are directed at some
important political constituencies-young people,
single adults, and pensioners.
Although critics argue that the budget is unneces-
sarily expansionary, this year's deficit will be lower
than last year's. They argue that the increase in
government revenue as a result of the recovery
should be used to trim another US $2 billion from
the deficit rather than to expand social spending.
Many spending items, however, such as interest on
the national debt, do not lend themselves to econo-
my moves.
Prospects Look.Bright
Through Early 1985
Although no one expects next year's economic
performance to outdistance the expected 6-percent
growth in real GDP for 1984, growth should
remain above the rate: for the last years of the
Fraser government. For its part, the ACTU is
strictly enforcing its pact with the Hawke govern-
ment by revoking some of the privileges of rebel-
lious unions and threatening to expel some of the
more radical unions that have gone on strike.
Australia's external accounts, which have held up
reasonably well during the expansion, are now
weakening-the. one dark spot in the overall eco-
nomic picture. The growth of exports will be mo-
derated by a decline in agricultural output from the
mid-1984 peak. With consumption and capital
purchases increasing steadily, imports are expand-
ing more than last year, creating a small merchan-
dise trade deficit and widening the current account
deficit.
The only economic issue that the opposition has
seized on has been the government's, postelection
tax plans. Hawke has called for tax reform but 'has
disclosed few specifics because Labor's natural
constituency opposes the most obvious reform
route, a broadly based -consumption tax. Opposition
leader Andrew Peacock warns that not only a
capital gains tax but also a wealth tax and a
pensioners' assets test loom on the postelection
horizon if Labor wins. Australians, however, are
inclined to. believe that Keating will block any
wealth tax, and more people than expected.seem to
favor some-kind of capital gains tax to restrict tax
evasion and to direct funds into more productive
investments. The government's postelection tax
package, however, will surely include a capital
gains tax and probably a value-added or a sales tax
covering some services and all goods except-essen-
tials.
Economic Challenges Beyond the: Election.
With Peacock's popularity rating falling below 20
percent, Australian observers are treating a Hawke
victory as a foregone conclusion. The only questions
are how large amajority Labor will achieve in the
House of Representatives, and how strong the right
wing will be in the party caucus. Hawke undoubt-
edly hopes to use the election mandate to advantage
in his most formidable challenge-improving Aus-
tralia's international competitiveness and sustain-
ing long-term growth by restructuring the econo-
my. He will also use his mandate to contain
pressures from Labor's left and center-left factions
to return to the party's "postponed agenda" for
social reform.
' Fiscal year 1 July 1984 through 30 June 1985.
'Australian dollars converted to US dollars at the prevailing
(October 1984) rate of A $1.00 = US $0.83.
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Australian analysts agree that continued high
growth depends on buoyant private investment and
labor moderation. Although tax cuts have satisfied
labor for now, media reports suggest that strikes
will reappear next year if new union demands for
productivity-based wage increases or a national
pension scheme are not met. Increased union de-
mands are likely because inflation, wage indexa-
tion, and consequent advances into higher tax
brackets probably will wipe out all benefit from the
August tax cuts by mid-1985. Moreover, tax re-
form and a broadening of the tax base will also spur
labor's demands.
One problem that threatens to confound Hawke's
efforts is weaker-than-expected private business
investment, despite higher company profits and
retained earnings, investment incentives, and de-
regulation of the financial sector. Industry leaders
stress that capital expenditure decisions are being
depressed by a rate of return that remains below
that of the 1960s and 1970s. They suggest that the
bulk of the recovery in industry profits comes from
cutting costs, including laying off workers and
closing factories.
Much of the economic outlook rests on Hawke's
ability to maintain the prices and incomes accord.
Business seems incapable of uniting on policy, so
few observers expect successful opposition to a
national pension plan, the top ACTU demand for
the next wage negotiation phase. Labor costs are
expected to rise even if wage indexation remains
intact. If so, business investment will probably
continue to lag.
Also on the negative side, the unemployment rate is
unlikely to be lowered much further because of
increased labor force participation and natural
labor force growth. Optimistic forecasts claim that
recorded unemployment will not fall unless GDP
growth is sustained at least at 3.5 percent for
several years. Bill Kelty, ACTU secretary, how-
ever, believes 5-percent GDP growth is necessary.
In view of structural problems in the Australian
economy and the tenuous nature of the prices and
incomes accord, such an extended period of high
growth seems unlikely.
Inflation is unlikely to return to its former high
levels, if wage pressures can be stemmed. Floating
exchange rates, instituted in December 1983, allow
Canberra to control the money supply more closely
without worrying about a substantial deterioration
of its foreign payments position. Keating, announc-
ing the government's 1984-85 target for money
supply (M3) growth at 8 to 10 percent, has said that
monetary policy will be neutral.
Observers in the press predict that, when the
economy slows toward the end of 1985, Hawke will
lose some of his popularity and Australia will lose
the prices and incomes accord and many of the
government's other achievements. We agree that
Hawke will not be able to enact all the reforms he
has placed on his second-term agenda, primarily
because he is challenging longstanding traditions of
economic policy making. Still, slower economic
growth will probably be seen as insufficient cause
to abandon Hawke's leadership.
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Egypt: Nuclear Power
Program Falters
Lack of cash or a decent credit rating is thwarting
Egypt's attempts at a nuclear power program. Low
oil revenues have prevented Egypt from allocating
as much foreign exchange to its nuclear program as
it had planned, and Cairo's poor credit rating rules
out financing on the commercial market. Construc-
tion of the El Dabaa plant, near Alexandria-the
first phase of the Egyptian nuclear power pro-
gram-will require substantial external financing
from the home governments of interested compa-
nies. Egyptian officials hold the United States-
and, specifically, the Export-Import Bank-respon-
sible for their failure to secure financing for the El
Dabaa reactor.
Low domestic energy prices would make it impossi-
ble for a nuclear power project to pay for itself.
Egyptian officials generally agree that the energy
sector needs reform, but because of their fear of
popular unrest they are increasing prices cautious-
ly. Moreover, Egypt lacks the industrial capability
and trained personnel to construct, operate, and
maintain a nuclear power plant. A foreign-con-
structed turnkey plant would lessen this difficulty
but would be politically unpalatable to the Egyp-
tians.
Egypt's Nuclear Plans
According to US Embassy reporting, Cairo's cur-
rent interest in nuclear power development stems
from a 1978 US-Egyptian energy assessment that
recommended nuclear power as a way to conserve
oil for export. In addition, Egyptian proponents of
the program probably believe that Egypt's reputa=
tion as the intellectual center of the Arab world will
be reaffirmed by its mastery of a key advanced
industrial technology
US Embassy reporting indicates that Egyptian
officials planned early in 1983 to,award a contract
to the French for the construction of two power
reactors at El Dabaa, probably in the hope of
stimulating international competition to build an
additional six units by the year 2005. By March
1983, however, the Egyptian Nuclear Power Plant
Authority had invited US, West German, and
French companies to bid on the first two reactors.
US and West German firms and a French-Italian
consortium have submitted proposals.
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A lack of money has held back Egypt's nuclear
energy program from the start. Cairo established
an Alternative Energy Fund in June 1981 to chan-
nel petroleum revenues into nuclear power develop-
ment, but declining oil revenues caused officials to
scale back planned deposits from $500 million to
$150 million per year. The IMF recently reported
there is about $700 million in .the Fund. Neverthe-
less, the Egyptians are seeking very soft financing
to cover 80 percent of the cost of the first reactor.
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Trade officials in France, West Germany, and
Switzerland have been eager to secure the El
Dabaa contract. The finance ministries in these
countries, however, have expressed doubt about
Egypt's ability to repay the loans. Their concerns
center on Egypt's sagging international credit rat-
ing and its ability to implement such a complex
undertaking. The confidence of foreign lenders
eroded further when Egypt was late on its first
payment for enriched uranium fuel from the US
Department of Energy, before it even issued firm
specifications for its first power reactor.
Concerns About the Egyptian Economy
The concerns of Western lending agencies about
Egypt's future ability to repay loans are, in our
view, well founded. We expect that declining oil
exports will severely limit Egypt's foreign exchange
earnings by the end of this decade. Even if the
annual growth of domestic energy demand fell
substantially-from the present 13 percent to an
optimistic 5 percent by 1990-we expect annual oil
revenues-barring new discoveries-to fall from
about $2.3 billion this year to around $1 billion by
the end of the decade.
Cuts in consumption are contingent on continued
price rises and increased use of natural gas for
industrial and household purposes. Prospects for
nonoil exports are limited, and we expect growth of
earnings from Suez Canal tolls and remittances by
expatriate workers to slow. Although nuclear devel-
opment would free more oil for export, that saving
would not come before the drop in oil revenues
substantially worsened Egypt's financial situation.
Cairo is unlikely to enact the energy price reforms
to make the El Dabaa project self-sufficient. Ac-
cording to Prime Minister `Ali, a 20-percent in-
crease in electricity rates-promised during the
summer-probably will be postponed until next
February. Moreover, even substantial rises in ener-
gy prices would not immediately solve Egypt's
financial problems. Such price increases probably
would be accompanied by proportional budget sup-
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30 November 1984
port for public-sector firms affected by the adjust-
ments and by substantial wage hikes to offset the
resulting surge in inflation. These measures would
erode the budgetary benefits of increased energy
prices.
Blaming the United States
According to Embassy reporting and public state-
ments, Egyptian officials primarily blame the Unit-
ed States for their failure to secure financing for El
Dabaa. The Ex-Im Bank decided in August 1983
not to offer credits for the reactor project because it
believed low Egyptian electricity rates would be
insufficient to amortize the costs of the plant and
expensive support facilities such as power lines, a
water supply, and a port. The Bank informed
lending agencies in other Western governments of
the reasons for its decisions' arousing Cairo's anger.
According to US Embassy reporting, Egyptian
officials apparently believe the United States also
urged other Western nations not to provide credits
for El Dabaa and expressed a lack of confidence in
the Egyptian economy as a whole.
According to Embassy reporting and recent US
academic studies, Egyptian officials also believe
that the United States has reneged on a promise to
assist the nuclear power program in return for
Egyptian diplomatic cooperation on the Sinai Dis-
engagement Accord in 1974 and for ratifying the
Nuclear Nonproliferation Treaty (NPT) in 1981.
While US representatives have told the Egyptians
that Washington only offered technical cooperation
and training, we believe that US offers in 1981 to
sell enriched uranium and in early 1983 to provide
surplus nuclear power plants from 'the Tennessee
Valley Authority may have contributed to. the
Egyptian misperception.
Cairo will press the issue of financing for El Dabaa
with US officials until it makes a decision on .
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contract bids, possibly this month. President Mu-
barak's failure to secure financing during talks
with French and West German officials in early
November is likely to make the Egyptians even
more convinced that US support for the project is
critical.
Egypt probably will continue to avoid a close
association with the United States, when nuclear
energy is discussed in multilateral forums. As a
member of the IAEA Board of Governors, Cairo is
likely to side frequently with those nonaligned
nations that criticize major supplier states for
withholding nuclear technology and assistance. The
upcoming NPT Review Conference will provide
Egypt with another opportunity to chide the United
States for not assisting its nuclear power program.
Cairo has strong economic and strategic reasons to
continue its close relationship with the United
States, however, and it is not likely that disagree-
ment on El Dabaa will impair other aspects of US-
Egyptian relations.
Over the next two years, lack of foreign financing
would force Egypt to shelve most of its nuclear
power program quietly. Substantial delay in con-
struction of the first reactor probably would lead
Cairo to request cancellation of its contract with
the United States for uranium enrichment. The
Egyptians almost certainly would insist that the
contract's penalty clauses were void because of US
refusal to finance El Dabaa.
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Mexico: Border Assembly
Operations Expanding
The peso devaluations since the beginning of 1982
and favorable treatment from the de la Madrid
administration have spurred the growth of assem-
bly plants along the US border. These firms, which
import US raw materials and components and
reexport assembled goods under special tariff provi-
sions to US markets, number about 650 and em-
ploy about 215,000 workers, up 75 percent since
yearend 1982. The expansion may be short lived,
however, due to labor shortages, inadequate physi-
cal facilities, and increasing costs. In addition,
because concessions given to assembly operations
are an exception to foreign investment policy and
conflict with nationalistic industrial goals, the gov-
ernment might decide to discourage these ventures.
Growth of the Program
Mexico City initiated its assembly program in 1966
to reduce chronic unemployment along the border,
which had been aggravated by the end of the US
bracero program a year earlier. These plants were
exempted from Mexican import duties on material
inputs and equipment, local content regulations,
and legislation requiring a certain degree of Mexi-
can ownership. Regulations revised in 1972 allow
firms that had been limited to a 20-kilometer strip
along the border to locate in the interior. Such
plants manufacture a variety of products including
electronic components-about one-half the total
valud added by these firms-aircraft and auto
parts, sports equipment, chemicals, and textiles.
Although most in-bond operations are US owned,
Japanese electronics and auto parts firms have
established a significant and growing presence. By
locating in the United States and setting up a
Mexican-border subsidiary, Japanese firms skirt
United States Tariff items 806.30 and 807.00 are
essential to Mexico's assembly industries. Both
items permit tariff reductions on the reimport of
products assembled abroad from US components:
? Item 807.00 is by far the more important provi-
sion. Under it, imported articles are subject to
duty upon the full value of the imported product
less the value of the US fabricated components.
The US components must retain their physical
identity in the final product, but no further
processing in the United States is required. Al-
most 99 percent of Mexican assembly exports 25X1
use this tar provision.
? Item 806.30 applies only to metal articles (except
precious metals) that are exported for some
processing and then returned to the United States
for further processing. Duty is payable only on
the value of the foreign processing. The original
intent of this legislation was to allow manufac-
turers in the Detroit area to ship metal products
to nearby Canadian firms that had particular
processing equipment or when their own equip-
ment broke down. Only 1 percent of Mexican
assembly exports use this provision. 25X1
US import restrictions. Mexico's low wages and
proximity to the US market make it competitive
with the Asian assembly industry.
The program expanded steadily and by 1981 com-
prised 605 plants and 130,000 workers. In 1982, 25X1
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assembly declined slightly as an overvalued ex-
change rate, climbing wages, and new exchange
controls sharply cut profits.
Since taking office in December 1982, President de
la Madrid has introduced a number of measures
favorable to assembly operations. Some actions,
such as a sharp devaluation-of the peso and reduced
exchange restrictions, were in response to Mexico's
growing economic crisis. Others, such as a substan-
tial easing of border investment procedures, were
directly aimed at reviving the assembly activities.
Moreover, a new code for assembly firms published
in August 1983 rejected calls for mandatory in-
creases in local content and for limits on foreign
ownership, but offered incentives for more Mexican
participation.
Industry Performance in 1983-84
These policy actions, plus the strong economic
recovery in the United States, have resulted in a
substantial increase in production by in-bond in-
dustry over the past two years. According to US
statistics, Mexican exports from such firms in-
creased 31 percent in 1983. Mexico's Foreign
Trade Institute reports that over 40 new plants
opened in the first six months of 1984. We project
that the value added this year will increase 40
percent over last year's total and exceed $1 billion.
The :total value of exports to the United States
should, exceed; $4.6 billion, a 25-percent increase
over.1983.
Limits to Expansions
Assembly operators increasingly fear that Mexico
will be unable to keep up with requirements for
services and labor. Rapid expansion in Juarez, for
example, has already filled industrial parks and is
straining electricity and water supplies. Public
transportation in most border cities is also inade-
quate-to support an increased work force,,and
problems will increase as new plants locate farther
from urban centers. Moreover, highway and bridge
connections between US and Mexican border cit-
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30 November 1984
Mexico: Export Earnings From Billion US $
Border Industries
Value added in Mexico
0.98
0.85
0.83
1.16
Total assembly exports to the
United States
2.71
2.85
3.72
4.65
also becoming strained.
ies-particularly between El Paso and Juarez-are
Growing shortages of both skilled and unskilled
workers aggravated by high labor force turnover
are also limiting prospects for expansion. Turnover
was already a chronic problem because most work-
ers are young women who often leave when their
families move away, or when they marry or become
pregnant. The rapid expansion of firms has created
a sellers' market for workers. As a result, some
workers jump from plant to plant seeking better
fringe benefits-all plants continue to pay the legal
minimum wage. In addition, the.border area is a
relatively high-cost area, unattractive to many
Mexican workers.
Plant managers have adopted strategies to deal
with labor shortfalls.
firms have raised noncash
benefits, which are not subject to employer taxes,
substantially in 1983 and 1984..Firms are also
recruiting outside their traditional labor pool by
hiring older women, workers with less education,
and more men. According to press reports, govern-
ment officials supervising the program believe
about one-third of assembly workers will be male
by December 1984, an increase of about 25 percent
from a year before.
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Decisionmaking in Mexico City
Government policies could dampen investor enthu-
siasm, although recent Embassy reports suggest
Mexico City once again plans to promote assembly
operations in the states of Yucatan, Durango,
Jalisco, and Zacatexas to combat high unemploy-
ment. Plant owners, however, are aware that Mexi-
co City often regards them as a necessary evil, and
they are watching closely for signs that the govern-
ment may tighten regulations on these industries. A
long series of Mexican legislation-including the
foreign investment law, the technology-transfer
law, and specific industrial decrees-show a trend
to increased domestic control over foreign investors
and to greater participation by local businesses.
Because most assembly firms do not sell to the
domestic market, they have been exempted from
most of these regulations. Nevertheless, govern-
ment representatives have stated they would like
the industry to use more Mexican inputs. They
have also asked Mexican businessmen to invest
more in the assembly sector, which in mid-1983
was about 20 percent Mexican owned. Despite
these pressures, we do not believe that tighter
domestic content or ownership regulations are im-
minent.
Policy decisions on exchange rates will also affect
future investments in assembly operations. The
recent spurt in activity has been directly attribut-
able to the peso devaluation and the resulting sharp
fall in wages in dollar terms. At present, however,
Mexican officials are allowing the peso to appreci-
ate. We calculate that this year's inflation rate will
approach 60 percent, while the peso will have fallen
in value at an annual rate of only 33 percent. To
serve broader policy concerns, we believe Mexico
City will continue to let the peso float upward. As a
result, higher dollar costs will reduce the profitabil-
ity of these ventures.
Likewise, Mexican wage and labor policies will also
influence potential investors and current firms.
Wage costs are considerably higher in Mexico than
in many other LDCs. The legal minimum wage-
currently a little over $4.00 per day-represents
only a fraction of labor costs. Mandatory contribu-
tions to the social security system and the govern-
ment housing fund, as well as other labor expenses
and fringe benefits, add to the cost of labor. Real
wages fell in 1983; we believe they will decline
again this year. Nonetheless, Mexico City has
important midyear elections scheduled in 1985 and,
for this reason, may grant larger wage adjustments
next January and again in June or July. In addi-
tion, increased unionization-the US Embassy esti-
mates that only one-third of the plants are union-
ized-could drive up wage costs. Any of these
factors could influence not only future investments
but even current ones. Because the actual invest-
ment in Mexico is fairly small-all machinery, for
example, is imported inbond-it is easy for these
firms to move elsewhere.
Mexico is the largest recipient of US components
destined for assembly abroad, receiving 32 percent
of all US component exports and 37 percent of such
US exports to LDCs. Moreover, the majority of the
assembly firms are subsidiaries of American com-
panies. In large measure, these industries owe their
existence to special provisions in the US tariff
codes. Although US labor groups have supported
the repeal of these tariff provisions, most academic
studies show that assembly operations in Mexico do
not represent a net drain on American jobs. These
studies note that many American firms would move
all of their operations abroad if US tariff provisions
did not allow them to remain competitive. In
addition, assembly industries directly create US
jobs in the transportation industry and in such
service industries as warehousing.
Similar studies show that Mexican assembly work-
ers spend a substantial share of their salaries in US
border cities, although the amount has declined
since the devaluations. While recent Embassy and
business reports indicate some workers are crossing
into the United States, we do not believe the
numbers are significant. Assembly workers have
not historically been a major source of illegal
migration. 25X1
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