LATIN AMERICA: GRAPPLING WITH THE DEBT

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP87T00495R001101260002-8
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 26
• Document Creation Date: December 22, 2016
• Document Release Date: May 27, 2011
• Sequence Number: 2
• Publication Date: December 1, 1985
• Content Type: NIE

Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Director of
Central
Intelligence
M"ASE-1 FILE COPY
U'o-N-101 ceee OUT
It' A 142( ON
Latin America:
Grappling With the Debt
National Intelligence Estimate
ret
Sec t
NIE 80/90/3-85
December 1985
Copy 3 6 7
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
THIS ESTIMATE IS ISSUED BY THE DIRECTOR OF CENTRAL
INTELLIGENCE.
THE NATIONAL FOREIGN INTELLIGENCE BOARD CONCURS,
EXCEPT AS NOTED IN THE TEXT.
The following intelligence .organizations participated in the., preparation of the
Estimate:
The Central Intelligence Agency, the Defense Intelligence Agency, the National Security
Agency, and the intelligence organizations of the Departments of State and the
Treasury.
Also Participating:
The Assistant Chief of Staff for Intelligence, Department of the Army
The Director of Naval Intelligence, Department of the Navy
The Assistant Chief of Staff, Intelligence, Department of the Air Force
The Director of Intelligence, Headquarters, Marine Corps
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
N I E 80/90/3-85
LATIN AMERICA:
GRAPPLING WITH THE DEBT
Information available as of 19 December 1985 was
used in the preparation of this Estimate, which was
approved by the National Foreign Intelligence
Board on that date.
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
CONTENTS
Page
SCOPE NOTE ...................................................................................... 1
KEY JUDGMENTS .............................................................................. 3
DISCUSSION ........................................................................................ 7
Economic Progress Stalls .................................................................. 7
Financial Flows Reflect Nervousness .............................................. 10
Seeking New Solutions ...................................................................... 10
Potential Difficulties Ahead ............................................................. 11
Country Circumstances and Risks ................................................... 12
Outlook for Latin America's Willingness To Service Its Debt...... 14
A View of the Longer Term ............................................................ 15
ANNEX: Major Debtor Country Relations With the
IMF and Foreign Banks ................................................................... 17
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
SCOPE NOTE
NIE 3-84, The Political Repercussions of the Debt Crisis in Major
LDCs, November 1984, examined the political implications of the debt
crisis in seven countries-Argentina, Brazil, Chile, Mexico, Nigeria, the
Philippines, and Venezuela-and discussed other debtor countries
briefly. The Estimate's primary judgment was that "we expect numer-
ous conflicts between debtors and creditors over the next year or two"
but that "debtors and creditors are likely to agree on various ad hoc ar-
rangements to ease the debt service burden."
Recent problems with IMF-supported financial adjustment pro-
grams, the slowing recovery in the global economy, and the growing in-
clusion of the debt issue in the Latin American political arena are
putting the case-by-case strategy for resolving the debt problem to a
test. This Estimate assesses the likely impact of world economic
conditions on the willingness and ability of Latin debtors to continue to
service their foreign debts and the prospects for strategies aimed at
bringing about fundamental economic reform in these countries. It
focuses particularly on eight countries-Argentina, Brazil, Chile, Co-
lombia, Ecuador, Mexico, Peru, and Venezuela-that together owe
almost 95 percent of Latin American debt and more than 40 percent of
total Third World debt
1
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
KEY JUDGMENTS
Since the publication of NIE 3-84 a year ago, there has been a dete-
rioration in the global economic environment and, in some cases, the
political will of the debtors to continue the implementation of the
current approach to managing the LDC debt crisis. Gains in trade made
in 1984 are being eroded, many countries are falling short of economic
performance targets negotiated with the International Monetary Fund
(IMF), and progress on economic reform has slowed substantially.
External factors account for a large share of these difficulties:
- Economic growth in industrial countries and particularly the
United States, which fueled Latin American export growth in
1984, has declined.
- Commodity prices have fallen over the past 12 months, in some
cases to the lowest levels in decades.
- Increasingly, protectionism is blocking growth of LDC exports.
- Foreign banks further cut back on new credits for Latin debtors.
On the plus side, dollar interest rates have declined, relieving the
repayment burden. Also, debtor countries are reacting favorably to
Secretary Baker's announcement of a US initiative to encourage new
lending tied to economic adjustment.
Internal conditions among the debtor countries have deteriorated:
- Mexico adopted an expansionary fiscal policy in 1985 and
allowed the peso to become substantially overvalued, resulting
in a steep decline in the trade surplus, massive capital flight,
and a sharp drop in private domestic investment.
- President Sarney and his advisers are stressing a commitment to
rapid economic growth and social programs; Brazil decided to
avoid a new agreement with the IMF.
- Peru's President Garcia renounced IMF austerity and limithd
debt servicing to 10 percent of earnings from merchandise
exports.
- On the positive side, President Alfonsin announced a major anti-
inflation program that, to date, has strong popular backing.
3
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
While making clear that they do not support President Garcia's decision
to limit unilaterally debt service, the leaders of many Latin countries
have become more vocal about the negative impact of debt service on
their domestic economies.
Over the next year, these external and internal trends portend
continuing problems between the debtor and creditor countries. Mexico,
for example, will need a large infusion of new funds, coupled with a
substantial depreciation of the peso, because of de la Madrid's failure to
make economic adjustments in 1985, weak oil markets, and the costs of
the Mexico City earthquake. Economic conditions in Mexico will
deteriorate once again with inflation increasing and per capita income
falling. President Sarney, who has maneuvering room because of
Brazil's large trade surplus, is likely to avoid restructuring the economy
and taking the tough fiscal and monetary steps that creditors and the
IMF believe are necessary. Argentine President Alfonsin will face
growing pressure from trade unions, and probably members of his own
party, as the impact of his deflationary policies reduces real wages and
slows domestic growth.
Pressure to find additional solutions to the debt, such as schemes to
reduce interest payments or formally capitalize interest, will increase in
1986. This is particularly true in Mexico where President de la Madrid
faces acute financial problems, which he will seek to blame largely on
factors beyond his control such as the Mexico City earthquake, falling
oil prices, and high interest rates. De la Madrid's increasingly hardline
stance reflects in part the legacy of economic hardships that has
reduced the government's ability to respond to the interests of the ruling
Institutional Revolutionary Party's major constituents-farmers, labor,
and civil servants-and, hence, has limited the party's options for
economic action. In Brazil, President Sarney will be compelled by a
weak political base to heed the strong expansionist urgings of his
governing coalition while avoiding the constraints of an IMF program.
Although we believe these pressures will fall short of a unilateral
decision by one of the three major debtors to limit debt service, there
are some risks in this judgment. For one, as the debt problem drags on
and debtor countries fail to make substantial economic gains, frustration
with the burden of debt service and depressed living standards will
grow. It is impossible to predict with any accuracy, however, when this
frustration might prompt a debtor to take unilateral action. To a large
extent, external events will dictate the degree of pressure on debtors. A
4
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
substantial worsening in economic conditions would cause major debtors
to take a much harder line on debt. Such conditions include:
- A significant slowdown in growth in the industrial countries or a
sharp rise in dollar-denominated interest rates.
- Failure of creditors to provide adequate new funds under the
US initiative.
- A sharp decline in oil prices or another substantial decline in
commodity prices.
These events, particularly if occuring together, could cause the existing
approach to break down. In that event, we believe debtors and private
creditors would cooperatively seek out new remedies including, per-
haps, a plan to capitalize interest rates. Should a mutual willingness not
prevail, Latin debtors would be likely to feel compelled to take
unilateral or collective action to curtail the burden of interest
payments.'
' The Department of the Treasury believes that the tone of this Estimate is too negative. Specifically,
Treasury believes that the 1986 economic outlook for industrial countries is good. Growth is expected to con-
tinue at or above current rates of about 3 percent, and interest and inflation rates should change little. If oil
prices fall, as seems likely, a few debtor countries will be badly hurt, but most will benefit, as will the indus-
trial nations. The likelihood that the debt problem will continue to be successfully managed depends more
on the internal policies of the debtor countries than on external factors.
5
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
DISCUSSION
1. By the end of 1984, a number of Latin debtor
countries had made considerable strides in overcoming
their financial difficulties under a debt strategy that
called for a combination of economic adjustments,
strong growth of debtor exports, and additional finan-
cial assistance by international creditors. The com-
bined trade surplus of the eight major Latin debtors
rose 20 percent to almost $40 billion as exports soared
to a recovering industrial world, especially the United
States. Debt service requirements also fell as interna-
tional interest rates declined several percentage points
in the second half of the year and large amounts of
principal repayments were rolled over (table 1). Mexi-
co and Brazil led the Latin countries in implementing
adjustments, prompting the IMF to tout them as its
model clients. Even Argentina, which had long resisted
IMF-prescribed adjustment, came to terms with the
Fund in December. Commercial creditors responded
late in the year by reaching tentative agreement with
Mexico on a multiyear debt rescheduling package that
stretched out principal repayments. Similar agree-
ments were nearly concluded with Brazil and initiated
with Venezuela and Ecuador
2. The successes of the debt strategy were tempered
by several negative developments in 1985:
- Slower growth in industrial country economic
activity, depressed commodity prices, and
mounting foreign protectionism prevented addi-
tional export gains for almost all Latin countries.
Although lower dollar interest rates eased interest
payments, debt service ratios for most key debt-
ors in the region increased mostly as a result of
failure to sign agreements to reschedule principal
repayments.
- Increased popular resistance to austerity through-
out Latin America put strong pressure on govern-
ments to restore economic growth and higher
living standards, reducing the willingness of some
civilian leaders to undertake internal adjustments
acceptable to the IMF.
- In large part because of the other problems, bank
creditors are increasingly reluctant to supple-
ment IMF adjustment packages with new medi-
Table 1
Ratio of Scheduled Debt Service to
Exports of Goods and Services, 1980-85
1980 1981 1982 1983 1984 Estimated
1985
um-term loans and to maintain short-term credit
lines (table
Economic Progress Stalls
3. IMF-coordinated adjustment programs in the
two largest Latin debtors are in trouble (table 3).
Brazil's negotiations with the Fund hit an impasse over
the government's refusal to respond to IMF calls for
stronger actions to lower the country's high and rising
inflation rate-currently running over 200 percent per
year. President Sarney is handicapped by a small
political base and feels the need to accommodate
widespread pressure for more rapid growth and pla-
cate the sizable left-of-center faction within his gov-
erning coalition. Accordingly, he has rejected IMF
recommendations for deep cuts in public spending,
arguing that it is not possible to target an elimination
of the federal deficit and that any program must allow
for at least 5-percent growth
4. Mexico was declared out of compliance with
IMF public-sector deficit and inflation targets in
September because of the de la Madrid administra-
tion's decision to boost economic growth with expan-
sionary measures so that the ruling party would make
a strong showing in last July's local and gubernatorial
7
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Table 2
Latin America: Debt Outstanding, End of 1984
Total Held by US Banks Held by UK Banks Held by German Banks
(billion US $) (percent) (percent) (percent)
Argentina 47.8 17 7
Table 3
Key Economic Indicators
Real GNP Growth (percent) Inflation Rate (percent)
Brazil
0.9 -3.2 4.3
6.5
100 211
224
225
Chile
-14.1 -0.7 6.3
1.0
21 23
23
30
Colombia
1.1 0.9 3.0
2.5
25 20
16
25
Ecuador
1.4 -3.1 4.1
2.5
24 53
25
23
Mexico
-0.5 -5.3 3.5
3.5
99 81
59
60
Peru
0.7 -11.8 4.0
1.0
64 111
110
200
Venezuela
0.7 -5.6 -1.4
0
8 7
18
6
Public Deficit/GDP (percent)
Trade Balance (billion US $)
17 17 12
5
2.8 3.7
4.0
3.5
14 19 20
25
0.8 6.5
13.1
12.0
Colombia
7 8 8
5
-2.2 -1.5
-1.3
-0.5
Ecuador
7 1 0
a
0.2 1.0
1.1
0.9
8
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Latin American Public-Sector Reform:
Dealing With the Parastatals
GDP for the region increased by 2.4 percent overall
in 1984. Per capita income in 1984, however, remained
roughly stagnant overall at about the 1976 level and
diminished in 13 of the 23 countries for which data are
available. The IMF's forecast of 3.2-percent GDP
growth for the region in 1985 seems optimistic given
first-half export expansion below that of 1984. The
decline in investment (both domestic and foreign) por-
tends continued slow growth=
Urban unemployment continues to rise in almost all
of the countries for which data are available. With labor
forces growing by 3 percent a year in most countries,
very high rates of economic growth would be necessary
to absorb all new entrants. In addition, inflation in-
creased in 1984 for the seventh straight year (to a
weighted average of 120 percent from 100 percent in
1983) and is running about the same for 1985.
elections. Capital outflow picked up as the public lost
confidence in the government's economic policies.
There are also signs of serious differences among de la
Madrid's key economic policy makers that are hinder-
ing progress on adjustment.
5. Among the other debtors, Peru-with President
Garcia now in office-is refusing to accept the IMF
prescriptions for tougher measures to resume its lapsed
standby agreement. Chile, too, exceeded fiscal deficit
and foreign exchange reserve targets, requiring a
waiver from the IMF in November. Argentina, on the
other hand, has taken strong action to break inflation
and restore conditions for domestic growth. The suc-
cess of the program, however, will depend on contin-
ued strong domestic backing for President Alfonsin in
the face of an adjustment-induced recession. =
6. Trade balances in many Latin countries are also
deteriorating. Slowing economic growth in the indus-
trial countries and the still high international value of
the US dollar-to which most Latin currencies are
linked-are dampening demand for Latin manufac-
tured products and depressing commodity prices.
Growth in the United States in 1985 was less than half
that registered in 1984 when US purchases provided
the primary impetus to a surge in Latin American
exports. Higher prices for exports other than basic
dollar-based commodities also eroded competitiveness
of Latin goods in European and Japanese markets. On
the import side, strong domestic growth and improved
price competitiveness of foreign goods led to a re-
bound in imports. Only the continued easing of world
interest rates this year-which reduced interest cost by
The progress made by Latin debtors in reducing the
large economic role played by state-owned enterprises
has come to symbolize the degree of government
determination to push public-sector structural reforms
and the impediments they are encountering. Latin
American state-owned enterprises grew especially rap-
idly during the 1970s, substantially increasing state
control of national production and distribution. By the
early 1980s, Latin parastatals, which relied on heavily
capital-intensive investment, commonly accounted for
more than one-fourth of national gross fixed capital
formation. They also have been largely responsible for
generating large public-sector deficits in many debtor
countries and for contributing major shares of accumu-
lating foreign debt burdens.
Most Latin debtor governments recently have com-
mitted themselves to parastatal divestiture or liquida-
tion programs in efforts to reduce public expenditure,
cut public-sector borrowing, and reallocate investment
capital to the private sector. To date, however, only
modest achievements have been recorded. In the cases
of the three largest Latin debtors:
- In February 1985, the Mexican administration
announced its intention to sell, close, or merge 236
of its then 1,155 publicly owned enterprises. Since
that time, the government has sold 21 small and
unprofitable firms for only $37 million at the
current exchange rate.
- The Brazilian Government began a drive to priva-
tize or eliminate some of its 560 parastatals in
1981. So far, it
has privatized, closed, or merged 87 enterprises,
all of which were of small-to-medium size and
together constituted only a small portion of the
country's parastatal sector.
- Early this year, the Argentine Government public-
ly stated that it plans to sell many of its 350 state-
owned firms, many of which are chronic money
losers. No concrete program for divestiture has yet
been announced, however, and no successful sales
to the private sector are known to have been
concluded.
Further movements toward privatizing significant
segments of Latin debtor parastatal complexes will
inevitably be slow and cautious. The larger publicly
owned firms in key sectors almost certainly will remain
under government control. The main obstacles to stron-
ger and more rapid parastatal reform will continue to
be the historical bias in the region toward government-
led industrialization and development, established ar-
rangements or ties to powerful interest groups, and
pressures for public-sector job creation in the face of
high unemployment.
9
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Investment in the key Latin American debtors has
plunged during the past four financially troubled years,
shattering the decades-old trend of sustained invest-
ment growth. The contraction of investment in Latin
America was more severe than the general slump in
economic activity; real GDP in the region fell, on
average, about 0.5 percent annually from 1981 to 1984,
and the share of GDP devoted to investment fell at least
5 percentage points since 1981 in all but one (Colombia)
of the eight largest Latin debtors before bottoming out
in 1984:
8. To make matters worse, slowed progress on
domestic adjustments and lack of confidence in gov-
ernment policies have precipitated renewed capital
flight from CPVPrAI T afro Amnril qn countries.
restructuring interest payments.
American countries for the first time since data began
to be compiled in the mid-1970s. Recent loans in
conjunction with IMF programs and debt restructur-
ings for Argentina, Ecuador, and Chile all encountered
strong creditor resistance. Smaller banks around the
world are dropping out of these new loan packages at
a greater rate. Indeed, many of the smaller banks are
writing off their Latin debts, selling loans at discounts,
and reducing outstanding short-term credit lines. Most
creditors remain willing to roll over principal repay-
ments-primarily because the only other major option
is to write them off-but have resisted formally
The economic adjustment programs-with or with-
out IMF involvement-that Latin debtors had to adopt
over the past four years to deal with the financial crisis
were largely responsible for the investment slump.
These programs required some mix of domestic credit
contraction, lower government deficits, real wage re-
ductions, exchange rate devaluations, and deregulation
of prices and interest rates. Piecemeal implementation
of these adjustment measures in the key debtors and
failure to undertake financial market reform have
resulted in financing difficulties, economic recession,
and heightened uncertainty over economic policy-the
some $2 billion for the Latin debtor countries-along
with reserve drawdowns and tight import restrictions
prevented a resurgence of serious cash problems.
Financial Flows Reflect Nervousness
7. Declining capital inflows reflect banker concern
about lack of progress on economic adjustment.In the
first half of 1985, BIS statistics showed that commer-
cial lenders actually reduced their exposure to Latin
similar trend in Peru.
contributed to an exodus of $2-3 billion from Mexico
in the first six months of this year; and the recent
sharp decline of the free market peso indicates capital
flight has picked up to an estimated $1 billion per
month since September. In Argentina, an unrelenting
rise in inflation to 1,000 percent at an annual rate and
uncertainty stemming from Buenos Aires's slowness in
coming up with a coherent adjustment plan, caused a
heavy outflow of capital in early 1985. Rapidly ex-
panding inflation, President Garcia's moves to lower
domestic interest rates, and private-sector fears of
tighter regulatory controls are probably fostering a
an overvalued peso,
rising inflation, and government policy vacillation
Seeking New Solutions
9. After four years of depressed conditions, Latin
American leaders are stepping up their calls for new
approaches to the debt problems. A number of Latin
officials, led by Brazil's President Sarney, stressed at
the opening sessions of the UN General Assembly the
need to ease debt burdens to permit renewed econom-
ic growth and protect democratic institutions. Earlier
this year, Colombian President Betancur enthusiasti-
cally endorsed former US Secretary of State Kissinger's
call for a "Latin American Marshall Plan." President
de la Madrid of Mexico is calling for an "equilibrium"
between the amount of debt servicing paid to creditors
and a socially acceptable domestic growth. Through
the world financial press, officials of most debt-
troubled countries-even those that have been the
voices for moderation during the past three years such
as Mexico and Brazil-are urging interest payment
relief, an enhanced role for the multilateral financial
10
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
institutions, and a greater commitment by industrial
governments to improve global economic conditions.
10. The Cartagena Group is also becoming more
active in discussing innovative debt relief schemes:
- The foreign ministers of Argentina, Brazil, and
Uruguay worked out a plan for Latin debtors
collectively to stretch out debt payments to banks
to allow more funds for economic growth by
capitalizing a portion of interest payments.
- The Argentine Government is working on details
of a proposal to have banks relend 50 percent of
interest payments to debtors to fund new devel-
opment programs.
11. So far, only Peruvian President Garcia has
taken an overtly defiant stand with creditors. He
asserted in his inaugural address on 28 July that his
administration would implement a stabilization pro-
gram without IMF involvement, would pursue direct
negotiations with commercial banks, and would limit
debt service to 10 percent of export earnings. Although
Garcia's announced intentions represent a continua-
tion of Peru's unofficial policies in effect for more
than a year, most banks are insisting that no debt
rescheduling will occur without Peruvian acceptance
of IMF involvement. Although a number of other
Latin American governments have expressed support
notionally for linking debt servicing to exports, none
show any inclination to follow Peru's lead at this time.
12. In a propaganda campaign, Cuban President
Castro has urged Latin debtors to refuse to pay their
debts, sponsoring a series of debt conferences in
Havana beginning last July. The governments of the
major Latin countries, however, recognized that Cas-
tro was trying to exploit the debt issue for his own
purposes. They quickly renounced any association
with his proposals, preferring to deal with the debt
issue on their own.
13. Even with the new US initiative at Seoul (see
inset), several events could make it more difficult for
the Latin countries to remain current on their debt.
Mexico, Venezuela, and Ecuador are vulnerable to
lower oil prices. Each $1 drop in the price of oil
reduces export earnings in both Mexico and Venezuela
by $500-600 million. If discord among OPEC produc-
ers leads to substantial production hikes, the resulting
plunge in oil prices-some industry analysts believe a
Treasury Secretary Baker announced a new US plan
for strengthening the international debt strategy at the
IMF/World Bank annual meetings in Seoul. The US
initiative proposes a three-point "Program for Sustained
Growth." It calls for:
- Debtor countries to adopt macroeconomic and
structural reforms to promote long-term growth
and balance-of-payments adjustment and to re-
duce inflation.
- The World Bank and Inter-American Develop-
ment Bank to take on larger roles in the debt
strategy to facilitate longer term structural adjust-
ment although IMF will continue its central role.
- Commercial banks to increase lending to support
comprehensive economic adjustment programs in
debtor countries.
The initiative proposes that creditors provide debt-
troubled developing countries prepared to implement
comprehensive economic adjustment programs with
access to a total of over $40 billion in new funds from
commercial and multilateral development institutions
over the next three years. The intended flow would
represent a reversal of the recent downward trend in
net lending to these countries
of the IMF should be eliminated.
Latin American debtors generally have welcomed the
US initiative on debt. High-ranking government offi-
cials in Brazil, Mexico, and Argentina view the proposal
as an important gesture, a sign that the US recognizes
the needs of debtor countries to restore economic
growth and to obtain more foreign capital. They are
particularly encouraged by US intentions to promote
substantially increased lending by multilateral institu-
tions-the World Bank and the Inter-American Devel-
opment Bank-and by commercial banks. None of the
region's debtors have voiced opposition to the initiative,
although Peruvian Finance Minister Alva Castro reaf-
firmed Lima's position that the debt-related functions
Considerable skepticism exists in Latin America,
however, about the initiative's potential to ease the
region's financial burden. Brasilia be-
lieves the new approach is modest in scope and doubts
the capability of the World Bank or the willingness of
the commercial banks to expand significantly loans to
debtor countries. Buenos Aires questions the future
value of the initiative if interest rates rise or commodity
prices fall
11
SECRET
25X1
25X1
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
$5 price decline or more is possible within the next
year-would have a major impact on the economies of
both countries and would severely impair their ability
to continue servicing debt. The potential gains to be
reaped by the major non-oil-exporting Latin debtors
are small in comparison with the harm that would be
inflicted on the exporters. Peru is a minor exporter,
while Argentina and, at.present, Colombia are essen-
tially petroleum self-sufficient and remain unaffected
by oil price swings. Only Brazil imports sizable quanti-
ties of oil, and would now save about $280 million for
each $1 decline in oil prices.
14.. A further slowdown in growth among the indus-
trial countries through 1986 would impede the export
performance of Latin countries. If combined with a
gradual rise in interest rates, projected by some fore-
casters, the capability of Latin countries to service
their debt would be especially constricted. Trade
restrictions, which have affected exports of cereals,
sugar, steel, textiles, and a number of other important
Latin American products, are limiting the possibility
for export gains.
15. Although still committed to finding solutions to
their debt problems through cooperation with their
international creditors, we believe the leaders of Latin
America's largest debtors are increasingly vulnerable
to building domestic political pressures for greater
concessions from creditors. Brazil's President Sarney
faces a more assertive Congress, a more active labor
movement, an emboldened far leftist opposition, and
popular resistance to IMF prescriptions. To consolidate
his political power and keep his opponents off balance,
Sarney has promised to restore growth and meet
neglected social needs in addition to stabilizing the
economy. He is demanding that conditions for an IMF
or any other program allow for at least 5-percent
domestic growth.
16. With half of his six-year term still to go,
Mexico's de la Madrid is facing growing opposition to
further economic reforms and austerity from major
domestic interest groups. Both organized labor and
business have indicated to the government that they
view an increase in living standards and an improved
private-sector environment as vital to their continued
support. At the same time, in the aftermath of wors-
ened external payments accounts and a devastating
earthquake, Mexico City has made it known that it
wants substantial new loans and more generous repay-
ment terms from commercial banks to facilitate recon-
struction and restored growth.
17. Both de la Madrid and Sarney will watch
closely the impact of the announced decision by Peru's
President Garcia to circumvent the IMF in his future
dealings with banks and to limit debt repayments to 10
percent of export earnings. Brazil's Foreign Minister
Setubal publicly commended Peru for being the first
Latin country to link trade and debt payments by its
actions. For now, however, the leaders of most major
debtors view Garcia's moves as radical actions thwart-
ing the continued cooperation of creditors. A number
of Latin Americans reportedly believe that Peru,
because of its desperate financial condition, will even-
tually be forced to undertake tough adjustment mea-
sures.
18. Despite its past ineffectiveness, the Cartagena
Group could become a more potent force if Mexico or
Brazil decides to take on more activist roles. Both
countries, previously disposed toward counseling mod-
eration within the group, increasingly are stressing the
need for innovative approaches to the Latin American
debt problem. They, together with Argentina, drafted
the declaration issued at the conclusion of a Cartagena
Group meeting in December. The declaration called
for new measures to deal with the Latin debt problem
that go beyond the US initiative, which they view as a
positive but insufficient first step. The Cartagena
proposals call for lower interest rates and an increase
in bank lending that would double the amount out-
lined in the US proposal. The declaration also pointed
out that, should economic conditions not improve,
some individual countries might be forced to put a
ceiling on debt payments linked either to economic
growth or to export earnings.
Country Circumstances and Risks
19. Although we believe the overall Latin debt
situation has worsened over the past 12 months,
conditions vary widely among countries. Mexico cur-
rently is facing acute financial difficulties as a result of
expansionary economic policies, a downturn in the
price of oil, and the need to reconstruct following the
September earthquake. High government spending
and an accommodative monetary policy have caused
the public deficit as a percentage of GDP to nearly
double the targeted level and resulted in Mexico's
falling out of compliance with the IMF. Moreover,
Mexico's trade surplus is down almost 50 percent from
last year as falling petroleum prices and an overvalued
peso depress exports and swell imports. Mexico City
will ask foreign creditors to renegotiate its already
rescheduled debt, to grant concessions on interest
12
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
payments, and to provide at least $5 billion in new
money in 1986, and substantially more if oil prices
drop and capital flight continues. To bolster its bar-
gaining position with the banks, Mexico probably will
approach the Fund for a new program to replace the
three-year agreement that ran through 1985. In doing
so, however, President de la Madrid will argue that
additional years of austerity could lead to social unrest
in Mexico and insist on easier terms for a new
program
20. To strengthen his weak political standing within
his governing coalition, President Sarney of Brazil has
given highest priority to restoration of rapid economic
growth and augmented social programs. Unwilling to
accede to IMF requirements for budgetary and fi-
nancing restraints, the administration announced in
November that it was suspending negotiations for a
new agreement with the Fund.
Brasilia believes it can conc u e a mu tiyear
debt rescheduling with foreign banks even if a formal
agreement with the IMF is not reached. Equipped
with large foreign exchange reserves, Brasilia appears
content to hold out for a favorable package. With
important national elections scheduled for late next
year, Brasilia will be reluctant to make substantially
greater adjustment concessions in the coming months.
Public expenditures and the money supply probably
will continue to rise substantially, causing inflation to
rise to or over 300 percent-from the current level of
about 225 percent. We believe there is a risk that
Sarney's economic policies or some external factors
could lead to a deterioration in Brazil's trade account,
forcing him to embrace more radical and confronta-
tional debt solutions.
21. In Argentina, President Alfonsin agreed to a
rigorous IMF stabilization program last summer, but
prospects for continued restraint on inflation and
compliance with the Fund conditions are not strong.
Without signs of an economic recovery in the months
ahead, popular support for Buenos Aires's program
probably will erode rapidly as the recession fueled by
wage restraints deepens. Argentina's powerful labor
movement, already voicing its unhappiness with in-
creased unemployment and depressed wages, will
press hard for higher pay and other concessions. To
avert domestic restiveness, Alfonsin reportedly is con-
sidering some economic stimulation and an easing of
wage and price controls. If he takes this course, it is
likely another renegotiation for IMF targets would be
necessary next year. A decision by the banks at that
time to withhold new disbursements coupled with a
worsening trade balance-resulting in large part from
the impact of flood damage to grain sales-could lead
to resurgent payments problems and renewed interest
arrears
22. Venezuela's self-imposed stabilization plan and
$14 billion in reserves should enable it to service its
debt with little difficulty, barring a large drop in oil
prices. Moreover, a public-sector debt rescheduling
agreement was concluded with bank creditors last
month and probably will be signed by the end of the
year. At the same time, President Lusinchi has come
under heavy political pressure to raise wages, ease
fiscal austerity, and reactivate the economy. Although
the administration probably will increase goverment
spending to reverse rising unemployment-because of
the government's strong ties to labor-Lusinchi is
unlikely to permit large increases in imports that could
jeopardize Venezuela's strong financial position. A
drop of $5 a barrel or more in the price of oil over the
coming year, however, would hinder debt servicing
and could prompt the government to invoke a contin-
gency clause allowing for reconsideration of the terms
of its recent debt agreement. Past differences of view
between Caracas and the bankers suggest that oppos-
ing interpretations of the loosely defined contingency
could provoke a possible confrontation with bank
creditors.
23. The financial prospects of some midsized debt-
ors are generally worrisome:
- Peru's decision, to avoid the IMF and limit
annual debt servicing has drawn the ire of
creditors, which have severely constricted their
trade credit lines. Furthermore, the assessment of
Peruvian loans as "value-impaired" by US bank
regulators in October probably will preclude any
hope of new bank loans for quite some time.
Coupled with weak export prices, Peru's deterio-
rated relations with bankers will cause increas-
ingly severe cash-flow problems for Lima,
mounting economic and political problems at
home, and perhaps increased Soviet aid and
trade ties to Peru.
- Chile is headed for another larger current ac-
count deficit in 1986 because of depressed com-
modity export prices, and its reserves have
dropped dangerously low. Moreover, recent steps
by Santiago to revive Chile's stagnant economy
and defuse mounting popular discontent may
endanger its IMF-supported austerity program.
13
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Expeditious disbursement of committed IMF,
IBRD, and commercial bank lo tal to
~sill_be v}
keep its debt servicing current.
Outlook for Latin America's Willingness
To Service Its Debt
24. We believe debtors will increase pressure on
banks and creditor governments in 1986 to make new
funds available and reduce the interest burden. As-
suming these funds are made available, however, we
believe these pressures will fall short of a decision by a
major debtor to limit unilaterally the debt service
burden. In public and private, most Latin leaders still
indicate a willingness to repay their debt, and most
admit the need for continuing adjustment efforts.
Even some of the civilian governments that briefly
dabbled with nationalist policies and confrontational
debt tactics-such as Argentina and Bolivia-have
come to recognize the importance of making painful
adjustments and sustaining creditor cooperation. In-
deed, most Latin debtors are reacting favorably to the
Baker initiative proposed at Seoul or are, at a mini-
mum, taking a wait-and-see attitude about the willing-
ness of banks to increase lending. Latin debtors also
support an enhanced role in the debt crisis for the
World Bank vis-a-vis the IMF both to encourage
longer run economic reform and to provide develop-
ment credit on longer repayment terms. They hope
that the Bank will provide easier terms and tailor them
to individual country needs.
25. Latin spokesmen stress that deteriorating exter-
nal conditions-a major decline in oil prices, a signifi-
cant slowdown in growth in the industrial countries,
increased protectionism, and a gradual rise in interest
rates-would make it almost impossible for a number
of Latin American countries to uphold their interest
payments. Although we think it unlikely that these
conditions taken together will prevail over the next 12
months, they nevertheless present a downside risk to
this Estimate. Under such conditions, heavy domestic
political pressures probably will compel civilian gov-
ernments in Latin America to demand additional
major concessions from creditors. The leaders of the
major debtors-including Mexico, Brazil, Venezuela,
and Argentina-would appeal to their principal credi-
tors to join in a search for mutually acceptable new
remedies to ease their debt payments, perhaps includ-
ing formal provision for capitalization of some interest.
26. Foreign bankers clearly would view some inno-
vative schemes for helping Latin American govern-
ments more favorably than others. They almost cer-
Other Latin American countries also are experiencing
major problems with their debt, which, though modest
in size, rivals or exceeds gross domestic product in many
cases:
- Although Colombia has avoided a formal IMF
standby accord, a recent tentative agreement by
foreign banks to provide $1 billion in new money
is contingent on an IMF approval of the Betancur
administration's economic program. Bogota's deci-
sion, however, to postpone an IMF review until
early 1986 because a prematurely leaked Fund
position statement is likely to delay final approval
of the new money package and further squeeze
Colombia's already beleaguered cash reserves.
- Costa Rica is implementing an IMF stabilization
program to obtain crucial commercial debt resche-
dulings and balance-of-payments support. Mea-
sures taken under the program have succeeded so
far in slashing the government's fiscal deficit and
reducing inflation. President Monge has encoun-
tered difficulty, however, in complying with Fund
conditions because of growing opposition in the
legislative assembly, wage pressures from public-
sector employees, and the presidential election
scheduled for February 1986.
- Depressed prices for bauxite and alumina exports
have aggravated Jamaica's financial condition and
forced the government to seek increased foreign
financing. Although austerity measures prescribed
under its IMF program have led to decreased
public waste and higher private savings, domestic
protests over retrenchment threaten the stability
of the Seaga administration.
- As long as the government sticks to its present
policy course, Ecuador's financial position will
show steady gains. These improvements, however,
are vulnerable to external and internal disruptions.
If oil prices should drop $5 or more, Ecuador
would be hit by a financial squeeze and would be
likely to appeal to its creditors for further debt
relief. Moreover, although President Febres-Cor-
dero has a majority in Congress, his ability to
sustain adjustments could be impaired by embit-
tered leftist adversaries.
tainly would be receptive to proposals to establish an
interest rate facility in the IMF-similar to the current
compensatory financing facility for exports-to help
debtor countries meet their servicing requirements
when global interest rates rise above a given level.
Also, banks are indicating they might be willing to
14
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
support some variation of an idea widely discussed in
Latin America to recycle 50 percent of interest re-
ceived to fund new development projects.
27. The failure of industrial-country governments
and commercial banks to make additional concessions
for easing debt burdens would generate strong
anticreditor reaction in Latin America and could
prompt recourse to radical steps, either collectively or
in a succession of unilateral actions. Rising interest
rates-as part of worsening global economic condi-
tions-could provide the precipitating event that
causes the debtors to coalesce into a unified force.
Protectionism disguised as nontariff barriers and an
institutional inability of the World Bank to provide
immediate assistance would add fuel to the fire.
Building on the superstructure of the Cartagena
Group, Latin debtors are in a stronger position to
reach a quick political decision to take joint action to
pressure banks to lend or extend other financial
concessions. Even in the absence of organized collec-
tive action, major debtors may be emboldened indi-
vidually to declare their intentions to suspend all
further debt servicing payments for a prolonged peri-
od. They also could choose to limit debt servicing to a
certain percentage of exports
28. Confrontational actions taken against interna-
tional banks, in turn, would lead not only to a cessation
of new medium-term loans but also a sharp contrac-
tion of short-term credits. In most cases, sharp cut-
backs in Latin imports would follow, along with an
economic decline more severe than previously experi-
enced in this decade. Latin debtors, faced with such
bleak prospects, would have little choice but to resort
to more populist policies in an attempt to revive their
economies accompanied by tighter controls on foreign
payments and investments. Deficit spending, large
wage increases, and rapid monetary expansion could
boost growth in the short run, but at the cost of driving
inflation skyward. The eventual economic stagnation
that would result from rampant inflation would pro-
vide a rallying point for antidemocratic forces.
30. Some Latin debtors are, in fact, making strides
in bolstering their export sectors. For example, Argen-
tina, Brazil, and Colombia undertook major currency
devaluations to increase the price competitiveness of
their exports. Progress in cutting back the public
sector's role and enhancing the efficiency of the
private sector in most countries has been slow, how-
ever.
31. Most of the key debtors have also pledged major
efforts to trim the spending of their large, entrenched,
and influential public corporations. In this area we
believe achievements will come only slowly and will
fall well short of government promises. We expect to
see only limited progress in such key areas as tax
reform, labor reform, and the financial reforms re-
quired to make long-term funding available to the
private sector. For the most part, Latin governments
will continue to do only the minimum necessary to
secure creditor cooperation because of lack of domes-
tic political consensus, bureaucratic vested interests,
and at least a partially enduring commitment to state-
led development strategies. Indeed, as debt problems
drag on, governments will find it increasingly difficult
to convince their people to take short-term sacrifices
against the prospect of long-term economic gain. =
32. The debtors increasingly emphasize that eco-
nomic management in the industrial countries also will
have a key impact on the ability of Latin America to
expand its exports and meet debt payments. World
Bank analysis shows that debtor countries can expand
their economic output more than 5 percent a year
while steadily reducing their debt-to-export ratios.
This optimistic forecast is predicated on the assump-
tions that over the next five years industrial economies
will grow at the yearly rate of 3.5 percent, their real
interest rates will decline further, there will not be
significant new barriers to LDC exports, and the
strength of the US dollar will gradually subside. There
are no indications that either the European countries
or Japan intend to adopt policies to allow for such a
A View of the Longer Term
29. A number of private forecasters, although ad-
mitting that considerable uncertainties and risks lie
ahead, maintain that the Latin American countries
can meet their debt servicing obligations over the next
five years and attain a reasonable rate of growth. This
outcome would require sustained debtor country ad-
justment policies, a reasonably favorable international
economic environment, and continued creditor coop-
eration
high rate of economic growth, however.
33. The continued availability of foreign capital
also will be crucial to the efforts of Latin American
countries to deal with their debt problems and support
economic growth. This means not only that more
foreign investment has to be attracted to the region by
liberalizing onerous regulations on investors but addi-
tional foreign credit will be needed. Until such time
that voluntary bank lending again becomes possible,
creditor banks will be called on to combine their
15
SECRET
25X1
25X1
25X1
25X1
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
resources with those of the IMF, the World Bank, and account performances, will help convince bankers that
other multilateral institutions to provide debtors with it is in their interest to undertake new financial
the minimum amounts of funds they will require to commitments. Bankers state that they are at least two
complete their adjustments. Sustained adjustments by to five years away from resuming voluntary lending to
debtor countries, evidenced by improved external Latin America, depending on the country
16
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
ANNEX
MAJOR DEBTOR COUNTRY RELATIONS WITH
THE IMF AND FOREIGN BANKS
1. Following more than two years of earning credi-
tor praise as Latin America's model debtor country,
Mexico is facing acute financial difficulties as a result
of relaxed policy restrictions and a downturn in the
price of oil. Tough economic adjustments undertaken
by Mexico City during 1982-84 under an IMF pro-
gram led to a dramatic $20 billion improvement in its
current account, a $5 billion increase in official re-
serves, a cut in the public-sector deficit from 18
percent of GDP to slightly more than 6 percent, and a
slash in inflation from 99 percent to 59 percent.
Toward the end of 1984, bank creditors rewarded
Mexico with an agreement to reschedule $48 billion in
debt due during 1985-91. Recent backsliding, howev-
er, threatens to jeopardize these hard-won gains.
2. Mexico City fell considerably short in meeting
most of the economic performance targets pledged to
the IMF for the first half of the year and has been
declared out of compliance with the Fund.
the government decided
sometime in late 1984 that it must speed economic
recovery even at the cost of rising prices and overvalu-
ation of the peso to make a strong showing in the July
1985 local and gubernatorial elections. This decision
unleashed a sharp rise in public spending during the
first half of 1985. Some measures were taken in July to
trim the government bureaucracy and spending, but
they have had only a marginal impact. On balance,
Mexico City is shifting away from its past adherence to
policies designed to bring government spending in line
with revenues, which had forced the country to
sacrifice economic growth to meet its foreign debt
servicing obligations. As a result of the government's
more expansionary policies, the public deficit as a
percentage of GDP-a key IMF program target-will
be almost double the level pledged to the Fund. =
3. Meanwhile, a weakening balance of payments
this year is worrying bankers. Mexico's trade surplus is
down almost 50 percent as falling petroleum prices
and an overvalued peso have caused exports to decline
and imports to surge. As a result of the poorer trade
performance coupled with high interest payments on
foreign debt, Mexico probably will experience its first
current account deficit since the 1982 financial crisis.
Moreover, Mexico City's policy vacillation has fueled
an acceleration of capital flight. The growing foreign
exchange squeeze has forced Mexico City not only to
draw down $3-4 billion of its official reserves in 1985
but also to run some arrears on foreign debt payments.
So far, the government has managed to persuade
international bankers to consider some $2.5 billion in
new loans for 1986, far less than Mexico believes will
be necessary.
4. Brazil's first civilian government in over 20 years
inherited an economy from the military this past
March that was making dramatic improvements in its
previously hobbled external accounts but was still
struggling to stabilize spiraling prices internally. An
aggressive exchange rate policy, a successful import-
substitution program, and an economic recovery in the
industrial world allowed Brazil to expand its trade
surplus from less than $1 billion in 1982 to over $13
billion in 1984. As a result, Brazil not only erased its
previously massive current account deficit and met all
of its debt servicing obligations, but it augmented its
foreign exchange reserves by $6 billion. Despite these
gains, the IMF suspended its support to Brazil the
month before President Sarney took office because the
previous military regime failed to comply with end-of-
1984 monetary, fiscal, and inflation target conditions.
Consequently, foreign banks postponed completion of
a multiyear rescheduling of $45 billion in debt matur-
ing over 1985-91
5. The Sarney administration has affirmed its hope
of negotiating a new stabilization program with the
IMF, but only one that would allow at least 5-percent
economic growth. He has insisted that slower growth
would result in political instability. Brasilia and the
Fund held frequent and lengthy talks during the
summer, but they were continually stalemated over
the size of cuts in Brazil's public-sector deficit. The
government recently announced what it viewed as a
nonnegotiable economic program for 1986 that is
expected to reduce Brazil's public-sector deficit sub-
stantially but not as much as asked by the Fund. When
17
SECRET
25X1
25X1
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
the IMF balked, the Sarney administration indicated
that it would indefinitely cease efforts to reach an IMF
accord. Brazil's economic team reportedly believes
that an IMF stabilization program aimed at reducing
inflation below the current rate of somewhat more
than 200 percent would be political suicide for Presi-
dent Sarney. The Brazilians now may seek a formal
1985-86 bank debt rescheduling with informal IMF
monitoring, deferring rescheduling of later maturities.
In the interim, the government is asking creditor banks
for yet another standstill on debt repayments and
short-term credits that are due to expire 17 January
1986, to allow sufficient time for debt restructuring to
be negotiated.
6. Sarney's major shakeup of the economic policy
team in late August has been popular at home but is
likely to heighten difficulties with creditors abroad.
Sarney ended three months of policy inconsistency
and interminable squabbling between Finance Minis-
ter Dornelles-who urged large cuts in public spend-
ing-and Planning Minister Sayad-who counseled
less restrictive policies-by accepting the resignation
of Dornelles. Dilson Funaro, Sarney's selection as new
Finance Minister, is known to share Sayad's views and
has criticized orthodox IMF doctrine as damaging to
Brazil's best interests. The revamped economic team
has stressed its commitment to rapid growth and social
spending and to soft-pedal orthodox inflation-fighting
policies. At a minimum, the recent ministerial change
has raised widespread concerns about Brazil's pros-
pects for containing its high inflation rate and is
making the task of bridging differences with the IMF
and creditor banks more difficult.
Argentina
7. Following more than a year of insisting that
economic recovery cannot be sacrificed to pay debts
and avoiding IMF austerity, President Alfonsin has
embarked on a rigorous adjustment program and has
convinced the Argentine business community, the
Fund, and foreign bankers that he means business.
The IMF formally approved renegotiated targets for
Argentina's $1.25 billion standby loan in July. Also,
foreign banks completed a $4.2 billion loan package.
These funds, combined with a trade surplus, have
enabled Argentina to meet its debt obligations. Al-
though depressed grain prices are hurting export
revenues, Argentina is likely to show a $3.5 billion
trade surplus for 1985 with the help of the large
devaluation in August. A continuing slump in crop
prices as well as agricultural losses to November floods
probably will prevent any trade improvement in 1986,
however. Reportedly, Buenos Aires believes it will
need a further $3 billion in new bank money in 1986.
8. The adjustment program announced in June
features wage and price controls, increased taxes,
higher utility rates, cuts in public spending, and
monetary reforms. Although the program so far has
not adequately addressed the need for structural
changes in the economy-such as selling substantial
additional numbers of inefficient state-owned firms to
the private sector-it does represent the boldest eco-
nomic step taken by President Alfonsin since he took
office. Tightened fiscal policies reduced the public-
sector deficit from 12 percent of GDP in 1984 to 5
percent in 1985, the first annual decline in Argentina
in this decade. Most Argentines, including labor, con-
tinue to support Alfonsin's efforts despite signs of
increasing unemployment and falling real wages. A
dramatic slowdown in inflation, from 30.5 percent in
June to 2.4 percent in November, appears to have
been a key factor in maintaining this support. F__1
Venezuela
9. An almost completed multiyear debt reschedul-
ing agreement, combined with more than $14 billion
of official reserves and continuing current account
surpluses, should assure Venezuela of a solid basis for
coping with its debt servicing obligations, at least over
the near term. Participating banks generally have
reacted positively to a plan proposed by the Lusinchi
administration and endorsed by Venezuela's bank
advisory committee that would reschedule $21 billion
of public-sector debt due over 1985-89 on reasonably
generous terms; they probably will ratify the public
debt rescheduling early in 1986. Meanwhile, Caracas
continues to buttress its financial position with net
earnings from its current account that, despite a $2
billion fall in oil revenues, probably will post a surplus
of more than $3 billion for 1985.
10. Even though Caracas assiduously has avoided
subscribing to an IMF program, Venezuela's high
reserves and external account surpluses have resulted
in large part from tough austerity measures. President
Lusinchi has implemented a major retrenchment in
imports and sizable cuts in public spending, including
curtailed development projects and oil exploration.
These policies are contributing to a seventh year of
economic stagnation, sharply declining investment,
and unemployment near 14 percent. Labor, business,
and middle-class discontent has been building over the
depressed state of the economy and falling standards
18
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
of living. So far, Lusinchi has effectively deflected
criticism because he has achieved low inflation, favor-
able external payments, and multiyear debt reschedul-
ing.
11. By the time the previous administration of
President Belaunde left office last July, it had lost
control of Peru's foreign debt. Over the past three
years, high international interest rates combined with
stagnant export earnings, resulting from slumping
prices for oil and copper, not only forced Peru to trim
its imports and economic growth substantially, but also
made further debt servicing very difficult. Peru fell
into arrears on debt in July 1984; these arrearages have
continued to accumulate. Belaunde's reluctance to
implement tough adjustment measures also contribut-
ed to deteriorating conditions. Although Peru entered
into an IMF standby agreement in early 1984, the
agreement became defunct by September because the
government failed to comply with fiscal discipline
targets. As a result, inflation soared over 100 percent in
1983 and 1984 and to an annual rate of 200 percent by
midyear 1985.
12. Alan Garcia took over the presidency on 28 July
and soon began implementing populist economic poli-
cies to boost his domestic popularity and shore up
foreign exchange reserves-but at the cost of aggravat-
ing Peru's foreign financial relations. He has lowered
domestic interest rates, devalued the currency, raised
minimum wages, put price controls on staple products,
and imposed stiff licensing requirements on a long list
of imports. To reduce Peru's foreign dependency,
Garcia not only has bypassed the IMF and limited
Peru's annual debt servicing, but also is seeking tighter
control over foreign investment. As a result of Garcia's
actions, the perception that he is unpredictable, and
the decision of bank regulators to declare Peru's bank
loans as "value impaired," foreign banks are losing
confidence in Peru's ability to satisfactorily resolve its
outstanding obligations. Many banks have cut their
trade credit lines and are writing off their exposure in
Peru
13. Following long and arduous negotiations, the
IMF agreed in mid-August 1985 to provide a three-
year, $765 million extended fund facility for Chile. In
return, the Pinochet government promised to increase
international reserves, limit public-sector borrowing,
and cut the government's budget deficit from 4.6
percent of GDP in 1984 to 3.5 percent in 1985. In
collaboration with the IMF Fund and with IBRD
assistance, Chile's bank creditors promised to lend $1.1
billion for 1985 and 1986 and to reschedule $5.9
billion of debt due during 1985-87
14. Despite Chile's positive adjustment record, low
prices for Chile's major exports, especially copper,
have prevented significant improvement in export
earnings and replenishment of reserves. Moreover, the
government is having considerable difficulty in adher-
ing to its IMF program. It is worried that public-sector
retrenchment and low growth will aggravate unrest
and further weaken President Pinochet politically.
Accordingly, in the fall of 1985 the economic team
boosted the money supply, delayed a devaluation, and
raised wages. Although these measures have provided
short-term relief, they are likely to worsen the coun-
try's problems in 1986 by fueling inflationary expecta-
tions, provoking capital flight, and depressing domes-
tic savings
15. President Betancur has tentatively reached an
agreement with commercial banks for a $1 billion
refinancing package, including over $300 million in
new money, despite his refusal to enter into an IMF
standby accord, but he is encountering political prob-
lems domestically. Bogota plans to undertake a self-
imposed stabilization program and to permit the Fund
to informally monitor Colombia's economic perfor-
mance on a quarterly basis, which the IMF has
approved. Foreign creditors have been pleased by the
government's recent accelerated pace of peso devalua-
tions that already has shown signs of increasing the
competitiveness of Colombian exports. Still, recent
public opinion polls show that the depressed state of
the economy and continuing guerrilla violence are
badly eroding Betancur's popular standing. Slowing
growth coupled with a quickening pace of inflation is
ravaging personal real incomes. Continued fiscal re-
trenchment also may prevent the Betancur adminis-
tration from implementing its comprehensive publicly
financed program-including small business credits,
land grants, and provision of government jobs-for
ending civil strife
16. President Febres-Cordero's market-oriented re-
forms have strengthened Ecuador's current account,
bolstered business confidence, eliminated fiscal defi-
cits, and generally improved the economy since he
took office more than a year ago. In February, Quito
19
SECRET
25X1
25X1
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
concluded a $105 million standby agreement with the uled over 12 years of some $4.6 billion public-sector
IMF and arranged for the first multiyear rescheduling debt maturing between 1985 and 1989. Despite
of debts by the Paris Club. Commercial banks agreed slumping oil prices, renewed capital inflows have
in August to provide a new $200 million loan to help more than offset Ecuador's enlarged current account
Quito pay its interest arrears and tentatively resched- deficit.
20
SECRET
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
1. This document was disseminated by the Directorate of Intelligence. This copy is for the
information and use of the recipient and of persons under his or her jurisdiction on a need-to-
know basis. Additional essential dissemination may be authorized by the following officials
within their respective departments:
a. Director, Bureau of Intelligence and Research, for the Department of State
b. Director, Defense Intelligence Agency, for the Office of the Secretary of Defense
and the organization of the Joint Chiefs of Staff
c. Assistant Chief of Staff for Intelligence, for the Department of the Army
d. Director of Naval Intelligence, for the Department of the Navy
e. Assistant Chief of Staff, Intelligence, for the Department of the Air Force
f. Director of Intelligence, for Headquarters, Marine Corps
g. Deputy Assistant Secretary for Intelligence, for the Department of Energy
h. Assistant Director, FBI, for the Federal Bureau of Investigation
i. Director of NSA, for the National Security Agency
j. Special Assistant to the Secretary for National Security, for the Department of the
Treasury
k. The Deputy Director for Intelligence for any other Department or Agency
2. This document may be retained, or destroyed by burning in accordance with applicable
security regulations, or returned to the Directorate of Intelligence.
3. When this document is disseminated overseas, the overseas recipients may retain it for a
period not in excess of one year. At the end of this period, the document should be destroyed
or returned to the forwarding agency, or permission should be requested of the forwarding
agency to retain it in accordance with IAC-D-69/2, 22 June 1953.
4. The title of this document when used separately from the text is unclassified.
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495R001101260002-8
 Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8
Secret
Secret
Sanitized Copy Approved for Release 2011/05/27: CIA-RDP87T00495RO01101260002-8