INTERNATIONAL ECONOMIC & ENERGY WEEKLY

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP97-00771R000707110001-6
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 38
• Document Creation Date: December 22, 2016
• Document Release Date: November 15, 2010
• Sequence Number: 1
• Publication Date: August 3, 1984
• Content Type: REPORT

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Directorate of
Intelligence
International
Economic--& Energy
Weekly
Secret o
DI IEEW 84-031
3 August 1984
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International
Economic & Energy
Weekly
3 August 1984
iii Synopsis
Perspective-Pressures for Another Oil Price Decline I 25X1
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Energy
International Finance
Global and Regional Developments
National Developments
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13 The Midyear Oil Market Update
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estern Europe: Vulnerabil
itie
s to a Persian Gulf Oil Cutoff 25X1
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Nigeria's Military: Difficult Times Ahead
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/Internationa1 Financial Situation: Creditor Attitudes
37 cuador: Economic Challenges. for the New Administration
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Comments and queries regarding this publication are welcome. They may be
Directorate of Intelligence, F----] ~ . 25X1
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3 August 1984
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International
Economic & Energy
Weekly
Synopsis
1 Perspective-Pressures for Another Oil Price Decline
The dramatic drop in spot oil prices in recent weeks has renewed pressure on
official oil prices,
13 The Midyear Oil Market Update
OPEC oil production rose sharply over year-earlier levels in first-half 11984
because of a strong increase in non-Communist oil consumption in major
countries and maintenance of higher-than-expected inventory levels. High
stock levels and uncertainty about continued oil consumption growth, however,
probably will cause OPEC to maintain production near the cartel's ceiling of
17.5 million b/d for the next few months to prevent further downward oil price
pressure.
19 Western Europe: Vulnerabilities to a Persian Gulf Oil Cutoff
Western Europe remains dependent on Persian Gulf oil, but is less vulnerable
to a short-term cutoff than it was during the 1979 oil crisis.
31 Nigeria's Military: Difficult Times Ahead
Economic hard times are straining the already delicate fabric of Nigeria's
armed forces. We expect Nigeria's political climate to become increasingly
volatile as military leaders strive to contain the political fallout from the
country's economic decline.
35 International Financial Situation: Creditor Attitudes
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Although commercial bank creditors continue to endorse the present strategy
for resolving debt problems on a case-by-case basis, the banks are sig I aling a
more flexible attitude in dealing with debtors.
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37 Ecuador: Economic Challenges for the New Administration
After taking office on 10 August, President Leon Febres-Cordero will
encounter significant economic hurdles in attempting to balance heightened
expectations for economic recovery with the need to sustain adjustments under
an IMF-supported loan program.
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Perspective
International
Economic & Energy
Weekly
3 August 1984
Pressures for Another Oil Price Decline
July, more than $2 below its posted price.
The oil market remains weak despite some rebound in non-Communist oil
consumption in first half 19.84. Overproduction by OPEC members in' the
second quarter-particularly Saudi Arabia-in response to heightened con-
cerns of a supply disruption in the Persian Gulf added to excess oil supplies.
Oil companies began curtailing purchases after realizing that inventories had
reached higher-than-desired levels, particularly in the absence of a disruption.
As a result, spot crude oil and product prices have fallen sharply in recent
weeks:
? Spot prices for benchmark Arab Light crude were quoted at $27 per barrel
at the end of July-$2 below its official price-while prices for Nigerian
Bonny Light and UK Brent crudes fell to about $3 below their official prices.
? West Texas Intermediate-the most important crude traded in the US
market-declined from $30.80 in early June to $27.85 around the end of
The dramatic drop in spot oil prices in recent weeks has renewed pressure on
official oil prices. The USSR-which typically adjusts its selling price to
reflect sustained changes in spot prices-recently announced a "temporary"
reduction of $1.50 per barrel ,in the contract price for its crude oil exports to
Western Europe. In addition, several US oil companies lowered posted prices,
some by as much as $2 per barrel. Deteriorating oil prices apparently also
sparked rumors that Nigeria and Iran had refused to abide by their production
quotas and were withdrawing from OPEC.. Both countries officially denied the
Under present market conditions, we believe that cartel members must quickly
and jointly reduce output and halt price discounting if they expect to maintain
the current OPEC price structure. As usual, Saudi Arabia remains the key to
OPEC price stability. In the past, Riyadh has shown its willingness to live with
temporary significant reductions in its output in order to support official oil
prices. Preliminary data indicate that Saudi oil production in July fell about 1
million b/d from June's level of 5.5 million 25X1
Riyadh had increased output before OPEC's midyear meeting in part to exert
downward pressure on prices and preclude the need'to-undertake a major
renegotiation of production quotas. A more pronounced decline in Saudi
output-at least through the next few months-may be required to reassure oil
market participants that Riyadh has not abandoned support of the $29
benchmark price. Press reports indicate, however, that Saudi Oil Minister
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Yamani was overruled by the King and Defense Minister Prince Sultan in his
attempt to implement a larger production cut. Prince Sultan-third in line to
the Saudi throne-reportedly pressed hard to maintain oil production at a high
level in order to provide sufficient oil to barter for 10 Boeing 747 jumbo jets.
The increase in oil consumption this year has been less than some OPEC
members had hoped. With no major turnaround in sight, we believe OPEC
must show production restraint now to avoid a challenge to the cartel's current
oil price structure in the coming weeks. Further reductions in US posted prices
would place extreme pressure on British official prices. The British National
Oil Company (BNOC) obtained only reluctant acceptance of its proposed
freeze on third-quarter prices, and several customers reportedly will seek to
reopen contract negotiations this week. BNOC is
already selling 250,000 to 300,000 b/d of oil on the spot market and probably
will have to sell even more oil on the spot market if additional contracts are,
terminated. Any reduction in British oil prices-particularly for Brent crude-
could force a price cut by Nigeria, which sells comparable quality oil.
Although we expect OPEC will be successful in propping up the current price
structure over the short term-largely because of Saudi output restraint-a
number of. factors could cause the market to remain weak into 1985. A
decision by oil companies to liquidate the additional oil stocks that have
accumulated since early this year combined with expectations of slower
economic growth in 1985-as projected by the OECD-could again delay the
long-predicted increase in demand for OPEC oil and would make it increasing-
ly difficult for the organization to maintain current prices.
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UK and Norway
Moving Toward
Deal on Sleipner Gas
Energy
The United Kingdom and Norway have moved closer to completing the North
Sea Sleipner natural gas deal for 12-14 billion cubic meters a year after a
meeting between Alick Buchanan-Smith, the UK Energy Minister, and Kaare
Kristiansen, his Norwegian counterpart. According to US Embassy reporting,
an agreement between British Gas Corporation and Statoil, 'the Norwegian
state oil company, could be concluded before the end of August.
volume, price, and pipeline capacity for an agreement to be reached soon.
Parliamentary approval will.be required in both Norway and the UK! London
has dragged its feet on Sleipner terms since February, and has considered
purchasing Dutch gas, largely as a means of pressuring Norway. If negotia-
tions break down, further delays could cause Oslo to postpone negotiations for
gas sales from other fields that will need to be developed to limit Soviet gas
Renewal of San Jose Venezuela and Mexico are expected to announce today that they will continue
Agreement terms for another year. To reflect falling oil consumption in recipient
countries, Mexico and Venezuela will cut volumes available by 25 percent, to
some 125,000 b/d, according to US Embassy reports. Five-year credits for 20
percent of the oil bill will remain at 8-percent interest. We expect Mexico and
Venezuela to insist that the recipients use a portion of the credits in donor
countries to offset some of the. costs of oil aid. Indeed, Caracas will now
demand that one-half of their credit cover purchases of Venezuelan goods and
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The recipients, already struggling with foreign exchange shortages, will be
concerned that the new credit arrangements limit their access to. dollars. We
expect many to ask for payments delays or other concessions. Mexico City
recently granted Guatemala a 90-day payment extension for oil deliveries in
response to a special request by the Foreign Minister. We believe Guatemala
also has petitioned Venezuela for financial relief. According to press reports,
Jamaica asked Venezuela earlier this month to delay payments on some of its
debt, including past-due interest payments on oil credits, and will now
approach Mexico City for rescheduling. But we expect no new financial
concessions for Nicaragua. Caracas still refuses to provide Managua with oil
under the accord until it can pay for previous deliveries. Mexico City probably
will continue to supply Nicaragua at current levels-6,400 b/d-without
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Ur quay Purchases -Uruguay has agreed to purchase 900,000 barrels of oil from the Soviet Union
viet Oil over the next six months to secure an alternative supplier to Iran and to
maintain trade relations with the Soviet Union.
Uruguay has experienced delays in receiving ship-
ments of Iranian oil. The new Soviet oil deliveries will cover one-quarter of
Uruguay's needs and will help Montevideo balance its trade account with
Moscow. During the first quarter of this year, Uruguay's imports from the
USSR were less than $200,000 while exports were $22 million.
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it-Sharjah
ipeline Proposal
Kuwait and the United Arab Emirates sheikdom of Sharjah are considering
construction of two pipelines between their countries
The proposal reportedly calls for an oil pipeline from Kuwait to the
Sharjah town of Kalba on the Gulf of Oman and a natural gas pipeline from
Sharjah's Sajaa field to Kuwait. The project would take at least 'two years to
complete, and its estimated cost of $300 million would be paid by Kuwait.
The project would give Kuwait an alternative oil-export route bypassing t e
Strait of Hormuz. It also would enable Sharjah to export some of the 14
million cubic meters per day of gas that is currently being flared; Kuwait
would use the gas in its developing petrochemical industry. Q
oviet Gas-Marketing The Soviet Union has successfully concluded three new natural gas sales
contracts since the beginning of the year. Terms of the contracts demonstrate
Soviet price flexibility and Moscow's intention to expand natural gas exports.
Agreements with Finland, Austria, and Italy have been concluded at prices
below those for fuel oil, and sales from these-contracts are expected to provide
Moscow with around $1 billion in hard currency annually by 1990. The
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Soviets are negotiating with Turkey, Greece, and Sweden. Soviet discussions
with Belgium led the Netherlands' Gasunie to cut industrial gas prices to
Belgium's Distrigaz by 15 to 20 percent for three months. The Soviets are con-
templating construction of another pipeline through Bulgaria and Romania to
supply 2-5 billion cubic meters of natural gas annually to Turkey and Greece.
Discussions are also under way on possible Soviet gas sales to Sweden as well
as to Japan. We expect the Soviets to continue to engage in aggressive gas-,
marketing efforts.
USSR: New Gas Export Agreements in 1984
Importer
Year of Peak
Delivery
Billion Cubic
Meters Per
Year
February
Finland
By 2000
1.8
March
Austria
By 1989
1.5
May,
Italy
1990
4.4-5.5
1992-2008
4.8-6.0
Price will not be linked solely to -
crude oil prices. t:
Lowest price (about $3.60/mil-
lion Btu) yet granted to any
purchaser since the 1979-80 oil
price hikes. j
Moscow agreed in principle to
deliver gas at below the price of
fuel oil.
Bucharest will supply Isome
equipment and manpower for
gas development. I
ILLEGIB
New Soviet-Romanian Romania and the Soviet Union signed an agreement in Moscow on 19 July for
Gas Project.
the joint development of a natural gas field in Soviet Turkmenla. Under the
agreement, Romania will supply equipment and manpower for the project and
will receive 500 million cubic meters of gas annually in addition to its current
imports of 1.5 billion cubic meters a year from the USSR. Work on the' project
is scheduled to begin this year and last until 1988.
Although Romania and the USSR have discussed joint resource development
in recent years, the agreement marks the first time Romania will supply labor
for an energy project in the USSR. Bucharest reportedly has also agreed in
principle to participate in future Soviet oil and mining projects. Moscow's
refusal to supply oil on concessional terms and the financial problems
hampering Romania's trade with the West have probably led Bucharest to
begin investing in Soviet projects in exchange for energy deliveries. Even with
the planned increase, however, Soviet deliveries will account for only about 5
percent of Romania's annual gas consumption.
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Cartagena
W king Level
eeting Delayed
Nigerian Offer
The technical meeting of Cartagena Signatories scheduled for 2-3 August in
Buenos Aires has been postponed until 13-14 August. The date was reportedly
pushed back to give the new President of Ecuador an opportunity to appoint
his country's representatives, according to Embassy reporting. Differences of
opinion also exist among participants on the purpose and agenda of the
meeting, which is to be held at the deputy minister level and precede the
September meeting of foreign and economic ministers.
The Central Bank of Nigeria this week announced a proposal for refinancing
to Insured Creditors arrearages on officially guaranteed trade credits. The plan is essentially a
repeat of the terms and conditions offered last April to holders of $4-6 billion
in uninsured trade credits. The Central Bank would issue six-year promissory
notes bearing interest at 1 percentage point. above LIBOR to trade creditors
with debts insured by governments or export credit agencies. We estimate
Lagos is behind on payments totaling nearly $3 billion to insured creditors.
Ivory Coast
Reschedules
Commercial Debt
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3 August 1984
program.
This is the latest in a series of moves designed to ease Nigeria's foreign
exchange shortage, and it is likely to prove unsatisfactory to the official
creditors. Government creditors have`voiced increased dissatisfaction with
Lagos's failure to meet principal or interest obligations on short-term trade
debt and last week addressed a stern statement to the Minister of Finance call-
ing the current situation "unacceptable" and rejecting any attempt to force
creditors to accept promissory notes. The statement, issued by the Paris Club
chairman, reiterated official creditor insistence on multilateral rescheduling
negotiations within the context of an IMF-supported economic adjustment
Abidjan reached agreement with the London Club steering committee to
reschedule $750 million late last week, according to US Embassy reporting. In
addition, banks have agreed to provide $125 million in new money in 1984 and
will remain open to the possibility of additional funding for 1985. Abidjan's
commercial debt rescheduling closely follows a Paris Club rescheduling of
$350 million in official debt earlier this month and helps pave the way toward
disbursement of an $82 million IMF standby facility approved in May.
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Moroccan Debt
Rescheduling
anguishes
position.
Government officials are worried about the delay in completing a rescheduling
agreement with commercial banks covering about $500 million in 1984
obligations. The Moroccans are resisting the banks' requirement that the
Moroccan Central Bank guarantee repayment to the extent of its foreign
exchange holdings. The Prime Minister has petitioned governments in' key
creditor countries, including the United States, to help resolve the problem,
and has stressed to US Embassy officials in Rabat that continued trouble-with
American banks will adversely affect US-Moroccan relations. Another high-
level Moroccan official has expressed concern that the commercial reschedul-
ing delay may compromise negotiations on official debt rescheduling for 1985
and 1986. Although most of Rabat's 200 commercial creditors so far have
maintained short-term credit lines, the level has not been increased since last
October, and some bankers are reluctant to continue these credits. A reduction
in short-term credit would be a major blow to Morocco's shaky financial
Yugoslav Skirmish Yugoslavia's failure to provide financial information and its attempt unilater-
W,~th Commercial ally to develop an economic adjustment program for 1985 has caused its 25X1
,&anks commercial bank creditors to cancel their first meeting on a new debt
rescheduling, The 1983 and 1984
bank refinancing agreements require Belgrade to report regularly on balance-
of-payments performance, and the creditors are insisting on new data as a
condition for beginning discussions on rescheduling. The banks also have told
Yugoslavia that IMF involvement in the country's economic program 1is 25X1
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Yugoslav officials may be making a risky effort to seize the initiative on
refinancing negotiations. Belgrade is pressing for a multiyear rescheduling on
concessionary terms, and some officials want to minimize IMF involvement.
An attempt by Yugoslavia to outmaneuver its creditors would jeopardize
Belgrade's improving relations with the banks and seriously complicate
negotiation of a new rescheduling agreement.
Implications
of Mirage 2000
Purchase by Peru
The purchase of 26 Mirage 2000 fighters for $650 million may placate the mil-
itary, but is jeopardizing Peru's foreign financial support. The US Embassy
reports that the accord for this purchase, which has been under negotiation for
over two years, was concluded after Paris agreed to forgo the downpayment
and finance the deal over 12 years. Lima has been stalling on a proposal to buy
16 Blackhawk helicopters from a US firm, arguing that the purchases! would
violate IMF debt and deficit targets. Coming on the heels of Peru's failure to
meet interest payments to foreign banks on 5 July, the deal will make (bankers
more reluctant to extend new credit. It also could threaten Lima's compliance
with IMF performance criteria, increasing the likelihood of another foreign
exchange shortage in the coming monthsF___7
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Guatemalan Foreign
Ex ange Difficulties
Tokyo Boosts
Arguments for
Domestic Satellite
De elopment
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The suspension in June of Guatemala's IMF standby agreement because of a
rising budget deficit is putting pressure on the government's meager foreign
exchange holdings. Foreign Minister Andrade recently secured from Mexico
credits for oil purchases even more generous than those granted under the San
Jose Accord. Nonetheless the
government is considering the imposition of fuel rationing. Meanwhile,
Guatemalan officials took a step toward devaluation by quietly authorizing
coffee and cotton exporters to sell some of their foreign exchange earnings in
the black market. This move, however, will spur demands from other exporters
for similar treatment and may cause them to withhold foreign exchange in
expectation of future permission to use-the free market. Moreover, official
acceptance of dual exchange rates technically violates Guatemala's standby
agreement with the IMF and could make it harder for the government to reach
Global and Regional Developments
According to the chief of Japan's Science and Technology Agency, Japan must
develop "100-percent-Japanese" satellites to avoid the types of failures now
plaguing foreign-produced components in Japan's weather and broadcast
satellites. The camera-drive systems in two weather satellites have malfunc-
tioned, and two of three transponders in Japan's first direct-broadcast satellite
have failed. Japanese industry blames the
major US parts supplier for problems with the broadcast satellite.
the breakdown may have resulted from changes the
Japanese made in the configuration of the transponders to fit a smaller
satellite that could be launched by a Japanese rocket.
Tokyo has strongly resisted purchasing foreign satellites for reasons of national
security and pride in its national space program, and will probably use the fail-
ures of satellite components to bolster the arguments. In addition, the recent
problems may persuade some Japanese companies who wanted to buy foreign
satellites to more actively support the domestic program, lessening US ability
to persuade Tokyo to allow foreign satellite purchases. 0
The US Embassy in Belgrade reports that the Yugoslavs want to begin
discussions with the US Export-Import Bank and US commerical banks about
guaranteed financing for the purchase of up to 24 Boeing 737-300 aircraft. To
meet its immediate need for aircraft, the Yugoslav national airline, JAT,
expects to sign a contract with Boeing soon to lease and eventually purchase
two jets for delivery in 1985. JAT, an important hard-currency earner for
Yugoslavia, plans to order the additional aircraft in 1986-89 to overhaul its
fleet.
Boeing is facing stiff competition for the JAT orders from the West European
r
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Outlook Dim
for a Agreement
Tokyo Sets
Another Tight Budget
Boeing is facing stiff competition for the JAT orders from the West European
Airbus consortium. The Yugoslavs apparently will give Boeing the 1985
contract for two aircraft because Airbus cannot begin delivering its compara-
ble A-320 jets until 1988. Boeing also has agreed to increase its purchases of
Yugoslav-made 737 parts-currently running at $6 million per year-to help
offset the costs of the aircraft. Yugoslav officials claim, however, that they,will
choose Airbus for the subsequent orders unless Boeing can match the 8.6-',
percent interest rate allegedly offered by the West Europeans. Moreover,
according to Embassy sources,. West German political leader Franz Josef
Strauss has been pressing senior Yugoslav officials to block the JAT-Boeing
deal and buy the Airbus.
The world's major tea exporters-Sri Lanka, India, and Kenya-failed at
meetings last month in Geneva to move any closer to the creation of an
International Tea Agreement (ITA). The major stumblingblock to an agree-
ment is the size of export quotas. Both India and Sri Lanka are pushing for
quotas based on historical market shares, while Kenya, with record tea export
earnings in 1983 and a vibrant young tea industry, is seeking a quota that
would allow for considerable export growth. We doubt that Kenya will change
its position unless prices decline sharply. Nairobi has been unhappy with its ex-
port quota under the International Coffee Agreement and may want to avoid
any limits on its tea exports. Kenya's position, along with the failure of sugar \
producers to negotiate a new sugar agreement in June, reflects a shift by key
LDCs away from participation in commodity agreements incorporating iprice-
National Developments
Developed Countries
The Japanese Cabinet this week approved budget ceilings for JFY 1985 that
are designed to control persistent deficits and will allow an overall goveinment-
spending increase of less than 1 percent. Although most ministries face a 10-
percent cut, Defense-with a spending-increase cap of 7 percent-and foreign
aid-with a ceiling of 11 percent-are major exceptions. The ceilings provide
guidelines for budget planning, which concludes in December with Cabinet
The Defense Agency ultimately may not win the full 7-percent increase, but
Tokyo probably hopes the ceiling-double what the Finance Ministry 'has
pushed for-will win points in Washington. It will probably touch off sharp
criticism at home from the press and opposition parties. The persistenti
weakness of the yen vis-a-vis the dollar, which is boosting the contribution of
foreign demand to growth, has aided Finance Ministry efforts to hold down
spending. The Ministry is trying to fend off demands for stimulative economic
measures by casting doubt on their effectiveness. Prime Minister Nakasone's
political rivals probably will continue to blame his austere fiscal policy for
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Ne Israeli Economic Finance Minister Cohen-Orgad threatened in an interview published on 27
P licies Threatened July to impose new austerity policies. He said that if the Histadrut, the large
trade union organization, would not join in a "social compact," he would
impose a wage-price freeze by decree. During the freeze, the government
would submit $1 billion in budget cuts, primarily in defense and welfare. As an
incentive to the Histadrut, Cohen-Orgad implied that subsidies would not be
reduced as rapidly if it joined in an agreement. Cohen-Orgad also said that the
shekel will depreciate at the same rate as inflation.
The Histadrut is unlikely to go along with such a plan, particularly not before
a new government is formed. If Cohen-Orgad imposes a temporary wage-price
freeze under emergency powers, the Knesset would then have to pass
legislation within three months or the freeze would expire. Cohen-Orgad
would like to implement austerity policies along the lines he advocated in the
interview, but he also may be trying to demonstrate control of the situation to
keep his job if Likud forms a new coalition government. Likud needs the
support of Ezer Weizman to form a new government, and Weizman has
expressed a willingness to take Cohen-Orgad's finance portfolio.
Australian Deflation Australia's falling prices are proving a mixed political blessing for Prime
Ru,Ws Out Wage Hike Minister Hawke. The CPI-the basis for determining wage increases under
Hawke's price-and-incomes policy-fell nearly 1 percent at an annual rate
during the first six months of 1984. As a result, government and union leaders
believe the next national wage adjustment-scheduled for October-will be
shelved, and that there will be no wage increases until April 1985 at the
earliest. Unions have said that their continued support of the wage accord will
depend on the government's acceptance of tax cuts in the August budget
debate. This puts Hawke in a bind because he is trying to reduce the
government's $6.6 billion budget deficit but wants to retain labor support as he
prepares for early elections-expected late this year or in early 1985.
Less Developed Countries
Multiplying Financial Signs of deterioration in the Nicaraguan Government's finances and in
Problems in Nicaragua popular living standards are multiplying. US Embassy sources report that the
junta already has used up all the foreign exchange it earned from the harvest
season that ended in May. To finance its immediate needs, the government has
resorted to selling crops-probably at a discount-that will not be harvested
until November.
should Nicaragua fail to sign a new agreement or to
make any payments by the end of 1984 the banks may try to attach
Nicaragua's meager foreign assets.
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In recent public speeches, junta members have emphasized the need for
civilian sacrifices, and the populace is suffering from the economic decline.
The US Embassy reports that market shelves are bare of such basic items as
beans and rice, even in some agricultural areas, and that much larger grain im-
ports will be needed soon. Growers claim that the shortage is due partly to the
fighting in areas, normally used to grow basic grains. A particularly severe fuel
crunch also forced several industrial plants to close down temporarily in July,
Unable to alleviate the immediate problems, the government has responded,by:
mounting.a propaganda campaign to convince the populace that economic
times were worse under Somoza; delaying implementation of the sharp food-
price hikes announced in June; and stepping up land distribution in the central
highlands. Moreover, Managua has decided to treat all economic information
as classified, according to the US Embassy. Despite the regime's claims that
national problems are the fault of US policy, the populace appears to lay the
blame for its declining living standards primarily at the government's' doorstep.
up to 20 new Army battalions When
completed, this action will add some 12,000 troops to the force, which until re-
cently numbered 95,000. At least three units have formed since January, and
an unusually strong recruitment campaign in the media is under way!
The military, traditionally one of the first groups to suffer budget cuts' in times
of economic difficulty, has done relatively well during the past two years
because of the President's security worries. Nonetheless, total defense. spend-
ing remains at less than 4 percent of budget outlays. Increased intelligence
collection against domestic dissidents and more active monitoring of refugees
and Guatemalan guerrillas along the southern border probably make the
personnel increase necessary: The expansion, however, is likely to be slow; until
this year only 20 new battalions were established under the military's
modernization program begun in 1970.F__~
S9lfadoran Budget Rising salaries triggered by labor unrest are eroding government finances and
Mexican Army President de la Madrid's administration, still concerned about potential
Receives More Money domestic unrest, has appropriated an extra $16 million in the budget to create
reducing the chances for an IMF accord. After striking postal workers won
pay raises in early July, the Assembly approved substantial wage hikes for all
public employees. Another round of increases could follow if leftist efforts to
provoke additional public-sector strikes succeed. The new salary hikes and
lower-than-expected tax revenues have pushed projected internal borrowing
needs well beyond the $130 million ceiling that the IMF stipulated during last ` 25X1
year's unsuccessful loan negotiations. The rising deficit, coupled witht Presi-
dent Duarte's resistance to a devaluation, are dimming prospects for an IMF
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Arg tine Beef
E orts Drop
loan this year. Instead, Duarte is-pressing for an increase in El Salvador's US
sugar quota and a relaxation of US insistence on partial devaluation as a
Argentina's beef exports for 1984 are expected to earn around $300 million,
down $80 million from 1983 and the lowest since 1975. The decline contrasts
sharply with the pickup in overall Argentine exports expected this year. It
largely reflects reduced imports by the European Community (EC)-a major
Argentine market. Competition from subsidized EC beef exports and competi-
tively priced Brazilian and Uruguayan beef in Middle Eastern markets also
have played a role in the downturn. Partially offsetting the decline in beef
exports to the EC and the Middle East are increased shipments to the Soviet
Union.
South. Kolean Efforts South Korea will soon impose tariffs of up to 60 percent on 14 items that were
recently freed from import restrictions. The government is using the discre-
tionary powers in its liberalization policy announced earlier this year to stem a
deteriorating current account deficit. The deficit after six months was $1.1
billion-$ 100 million greater than the planned level for all of 1984. Seoul has
also announced measures to curb oil consumption by 10 percent and to
strengthen regulatory control and supervision of imports. Cognizant of its
position as the fourth-largest LDC debtor, Seoul believes a favorable current
account position is essential to continued access to foreign capital. We believe
South Korea remains committed to reducing imports barriers, but further
deterioration in the current account or increased protectionist measures in
major trading partners could lead to more restrictive import policies.
Bangladesh Bangladesh agreed in principle to buy 1:5
ice Purchase
1 million metric tons of rice from Thailand during 1985-87. This move to tie
Tourism Boom
Seychelles
Secret
3 August 1984
down future Thai supplies probably is motivated by concern over the coming
fall harvest; floods last spring destroyed an estimated 700,00 tons of expected
domestic production. Dhaka also may be concerned about tight world rice
stocks, which stand at a 10-year low and are expected to fall further before
next summer.
The US Embassy reports that almost 20 percent more tourists arrived in the
Seychelles during the first six months of 1984 compared with the same period
last year. The government's aggressive advertising campaign and cut-rate
package tours, the upturn in the world economy, and a more stable political
environment are responsible for these improvements. Although tourism direct-
ly and indirectly accounts for almost one-half of GDP and foreign exchange
revenues in the Seychelles, we believe that the current upswing probably will
not be sufficient to pull the economy out of the doldrums. Increasing capital
flight, low export earnings, decreased foreign assistance, and lagging private
investment will offset the tourism gains.
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Secret
The Midyear Oil Market Update
OPEC oil production rose sharply over year-earlier
levels in first half 1984 because of a strong increase
in non-Communist oil consumption in major coun-
tries and maintenance of higher-than-expected in-
ventory levels. High, stock levels and uncertainty
about continued oil-consumption growth, however,
probably will cause OPEC to restrain production
near the cartel's ceiling of 17.5 million b/d for the
First . April May
Quarter
reaches about 20 million b/d in the fourth quarter. Italy 0.4 1.6 12.6
Saudi Arabia, for its part, will be reluctant to West Germany -0.6 -1.4 NA
Selected Countries: Percent Change Over Same
Trends in Inland Oil Period a Year Earlier
Consumption, 1984 a
next few months to prevent further downward oil- United States
price pressure. Some OPEC members probably will Japan
push for an increase in the organization's produc- Canada
tion quota if, as we expect, demand for OPEC oil France
discuss new quotas and will probably keep its
output high enough to keep the,market soft
Recent Trends
Consumption Patterns. Led by strong increases in
the United States and Japan, non-Communist oil
consumption rose approximately 3 percent over
year-earlier levels in first quarter 1984, the first
quarterly increase since 1980. US and Japanese oil
consumption rose 7 and 10 percent, respectively.
Consumption trends in other industrialized coun-
tries varied widely; we estimate that oil consump-
tion in Western Europe in the first quarter showed
little change from year-earlier levels, in part be-
cause of sluggish economic growth and the contin-
ued strength of the US dollar. Although informa-
tion on current trends in LDC oil use is limited, we
estimate that total LDC oil consumption fell slight-
ly early this year as declining consumption in Latin
America and Africa more than offset increased
demand in the Far East. Preliminary data indicate
that non-Communist oil consumption rose about 2
percent over year-earlier levels in the second quar-
ter; most of this increase again occurred in the
United.States and Japan.
a Measured as sales of refined petroleum products. Except for the
United States, figures exclude bunkers, refinery fuel, and losses.
I
Inventory Adjustments. We estimate that non-
Communist oil stocks were drawn down at a rate of
about 2 million b/d in the first quarter of this year,
as compared with a normal seasonal rate of about
2.5 million b/d. In our judgment, uncertainty over
the size and duration of the rebound in consump-
tion-combined with uncertainties over the situa-
tion in the Persian Gulf-caused some companies
to be more cautious about liquidating inventories.
We estimate that oil stocks increased by 1.2 million
b/d in the second quarter-approximately the nor-
mal seasonal rate but 0.5 to 1 million b/d higher
than most forecasters had expected. As a result,
non-Communist oil stocks on land at the end of
June stood at about 4.1 billion barrels, or 94 days
of forward consumption. Commercial inventories
represented about 3.5 billion barrels, most of which
are working inventories or compulsory stocks man-
dated by government or IEA emergency reserve
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Non-Communist Primary Oil Stocks
on Land,1980-848
10
I I I I I 1 1 1 1 1 1 1 1 1 1 1 1
0 I I I I I
1980 81 82 83 84b
a. End of quarter.
b Estimated.
obligations.
Total
Government-
owned strategic
reserve
the only inventories immedi-
ately available to help offset a supply disruption are
about 100 million barrels of surplus commercial
stocks, about 60 million barrels of Saudi stocks,
and an unspecified part of the 560 million barrels
of oil in the United States, Japan, and West
Germany held as strategic government stockpiles.
Production Trends. Non-OPEC oil supplies includ-
ing natural gas liquids and net Communist exports.
approximated 25.5 million b/d in first half 1984,
an increase of 1.2.million b/d over year-earlier
levels. Increases in output in the North Sea and
Canada accounted for 600,000 b/d of the gain, and
production increases in the non-OPEC LDCs add-
ed another 500,000 b/d to non-OPEC supplies.
Despite press reports of delivery problems early in
the year, we estimate that net Communist exports.
averaged 1.6 million b/d in the first half of the
year, up.100,000 b/d from year-earlier levels.
OPEC oil production averaged 19.1 million b/d in
first half 1984, including 1 million b/d of natural
gas liquids. A sharp increase in Saudi crude oil
production to 5.5 million b/d in June pushed total
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3 August 1984
OPEC: Crude Oil Production, 1984 a Million b/d
Quota
First
Quarter
April May June
Total
17.5
18.1
18.2
17.7
19.2
Algeria
0.725
0.6
0.6
0.8
0.7
Ecuador
0.2
0.2
0.2
0.2
0.2
Gabon
0.15
0.2
0.2
0.2
0.2
Indonesia
1.3
1.5
1.5
1.5
1.5
2.4
2.3
2.4
2.1 .
2.4.
Iraq
1.2
1.0
1.1
1.1
1.1
Kuwait
1.05
1.0
1.0
0.9
1.0
Libya
1.1
1.2
1.2
1.1
1.3
Neutral Zone
b
0.5
0.4
0.4
0.4
Nigeria
1.3
1.5
1.4
1.2
1.3
Qatar
0.3
0.4
0.4
0.4
0.4
Saudi Arabia
C
4.8
4.8
4.7
5.5
United Arab Emir-
ates
1.1
1.3
1.3
1.3
1.3
Venezuela
1.675
1.8
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 a swing producer to
meet market requirements.
OPEC output for the month to 20 million b/d. and
added to downward pressure on spot prices immedi-
ately prior to the OPEC meeting. Several other
OPEC countries including Indonesia, Qatar, Ku-
wait, Libya, Venezuela, and the United Arab
Emirates also contributed to market. weakness by
exceeding their production quotas by 100,000 b/d
or more.,
Price Developments. The realization that oil inven-
tories rose more sharply in the. second quarter than
most industry forecasters had anticipated, com-
bined with continued high OPEC production,
forced spot crude and oil product prices down
steadily in-July. The spot price for Arab Light
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Spot Oil Market: Difference From,
Official Prices, 1984
crude fell almost $1 per barrel over the month to
$27 per barrel-$2 below its official price.1UK
Brent and Nigerian Bonny Light crude prices
declined to $27 and $27.60 per barrel, ending the
month at approximately $2.50 to $3.00 below their
official prices. Spot prices in the Rotterdam market
were at their lowest level for the year in late July,
and spot prices for West Texas Intermediate in the
US market fell well below its posted price of $30 to
The OPEC Ministerial Meeting. Against this
background of weakening spot oil prices, OPEC oil
ministers meeting in Vienna on 10 July reaffirmed
the current $29 per barrel benchmark price and the
cartel's production ceiling of 17.5 million b/d.
Despite earlier hopes by some members for an
increase in OPEC's overall ceiling and in individual
allocations, only financially pressed Nigeria re-
ceived special consideration. Saudi Arabia report-
edly agreed to reduce its production by 100,000
b/d and 150,000 b/d in August and September,
respectively, to allow Lagos to exceed its produc-
tion quota of 1.3 million b/d by those same
amounts. Other OPEC members, however, agreed
to adhere strictly to their individual quotas and
official prices. In addition, the ministers named a
special delegation to visit major non-OPEC oil
producers to urge these countries to show produc-
tion restraintF 2 X 1
The Base-Case Forecast. In our base-case forecast,
we expect non-Communist oil consumption to show
an increase.of about 1.5 percent from yearearlier
levels in the last half of 1984. This scenario as-
sumes normal weather patterns and economic
growth of about 3 percent in the OECD. On the
basis of these assumptions, we expect non-Commu-
nist oil consumption to approximate 43.7 million
b/d in the third quarter, and then increase) to 46.2
million b/d in the fourth quarter. This projection is
in line with most recent industry forecasts we have
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Non-Communist Oil Supply and Demand million b/d
1983
1984
Preliminary
Projected
First Second
Quarter Quarter
Third Fourth Total
Quarter Quarter
Consumption a
44.1
46.4
43.6
43.7
46.2
45.0
Stock Change
-1.0
-2.0
1.2
0.6
-0.3
-0.1
Production b
43.1
44.4
44.8
44.3
45.9
44.9
Non-
OPEC
24.5
25.4
25.6
25.6
25.8
25.6
OPEC
18.5
19.0
19.2
18.7
20.1
19.3
a Excludes refinery gain.
b Includes natural gas liquids and net Communist exports.
Our analysis indicates that non-OPEC oil supplies
will approximate 25.6 million b/d and 25.8 million
b/d in the third and fourth quarters, respectively, a
gain of about 200,000 b/d from average output in
the first half of the year. This assumes that non-
OPEC oil producers, except Mexico, produce near-
ly at capacity levels for the balance of the year. Our
base-case forecast, which includes a 200,000-b/d
increase in strategic inventories, assumes a
600,000-b/d increase in oil stocks in the third
quarter and a fourth-quarter stock drawdown of
about 300,000 b/d. Our inventory forecast, which
is generally in line with industry estimates, indi-
cates a fourth-quarter stock reduction that is sub-
stantially less than the normal seasonal rate of
about 1 million b/d
As a result, we expect demand for OPEC oil-
including natural gas liquids-to approximate 19.4
million b/d in the last half of the year. Because of
the normal seasonal decline in oil consumption and
the higher-than-expected second-quarter stock in-
crease, however, demand for OPEC oil in the third
quarter probably will approximate only about 18.7
million b/d. We believe OPEC will have to restrain
crude production through the early fall to near its
production ceiling of 17.5 million b/d to avoid
further downward pressure on oil prices. Under this
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3 August 1984
scenario, we expect Saudi Arabia-in its role as
OPEC's swing producer-to reduce its output to
about 5 million b/d as long as other OPEC produc-
ers generally adhere to agreed-upon production
Forecast Uncertainties. A number of factors could
alter our base-case oil consumption forecast:
Weaker-than-anticipated economic performance
in the OECD could dampen the increase in
OECD oil consumption in the second half. We
estimate that a 1-percentage-point difference in
OECD economic growth could change consump-
tion by roughly 500,000 b/d.
A resolution of the coal miner's strike in the
United Kingdom in the near future could lower
projected West European oil consumption by
about 200,000 b/d.
The OECD base-case economic forecast assumes
unchanged nominal exchange rates through the
end of the year. A fall in the value of the dollar,
however, could lower real oil prices in Europe and
help spur an increase in West European oil
consumption.
Colder or warmer winter weather could alter
projected consumption levels by as much as
500,000 b/d.
A change in industry perceptions about events in
the Persian Gulf or expectations about future non-
Communist oil consumption probably would alter
projected inventory patterns. A weaker-than-ex-
pected third-quarter inventory buildup and a higher
fourth-quarter stock drawdown would significantly
decrease our base-case estimate of demand for
OPEC oil in the second half of the year. In our
judgment, this is the one element of our forecast-
and of most industry forecasts-most susceptible to
change because of uncertainties over events in the
Persian Gulf and because of the current pressure on
oil prices.
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OPEC Production Quotas
Demand for OPEC oil of 20.1 million b/d-our
base-case forecast-in the fourth quarter probably
will cause some members vigorously to pursue an
increase in OPEC's production ceiling. Indeed,
according to press reports, the Kuwaiti Oil Minister
has indicated that he expects demand for OPEC oil
to be strong enough in the second half of the year to
justify a special OPEC meeting in October to
discuss a quota increase. Because most member
countries-particularly Nigeria, Venezuela, and
the UAE-are likely to argue strongly for a quota
increase, such discussions could become conten-
tious.
So far, OPEC has avoided the controversial issue of
a reallocation of individual production quotas, pri-
marily because of actions taken by Saudi Arabia.
Increased Saudi oil production that added to mar-
ket weakness before July's OPEC meeting, and
special concessions for Nigeria that avoided any
formal increase in Lagos's quota, indicate Riyadh's
reluctance to deal with this issue. Until market
conditions clearly indicate a sustained growth in
consumption, we expect the Saudis to maintain
output at sufficiently high levels to cause market
weakness and dissuade other members from push-
ing demands for higher quotas. Riyadh, however,
probably will continue to be flexible on overproduc-
tion by particularly hard-pressed OPEC members
in order to maintain OPEC unity.
17 Secret
3 August 1984
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Secret
Western Europe: Vulnerabilities
to a Persian Gulf Oil Cutoff
Western Europe remains dependent on Persian
Gulf oil, but is less vulnerable to a short-term
cutoff than it was during the 1979 oil crisis. Some
West European countries still rely heavily on Gulf
production, and the region as a whole still imports
25 percent of its oil from the Gulf, compared with
50 percent in 1979. Moreover, West European oil
stocks are insufficient to cover requirements in the
event of a lengthy disruption. Excess production
capacity in countries outside the Persian Gulf,
however, currently amounts to almost 3 million b/d
and could help cover a supply shortfall
The West Europeans believe that the United States
would intervene to keep Persian Gulf oil flowing
and therefore that any interruption would be brief.
Although several of the International Energy
Agency (IEA) countries are now willing to consider
the early use of oil stocks in an emergency, we
believe that many would react to a short-term
disruption by imposing demand-restraint measures.
A complete and prolonged shutoff of the Persian
Gulf would result in serious problems for Western
Europe because of the impact on world oil prices.
We estimate that, if oil exports from the Gulf were
cut off for a year or more, world oil prices would
rise to $65 to $70 a barrel. Assuming no accommo-
dating shifts in government policies, West Europe-
an economic growth would be cut by about 2
percentage points, and unemployment would in-
crease by 800,000, thus threatening the region's
tentative economic recovery.
Declining Oil Dependence
on the Gulf
Western Europe has sharply reduced its depend-
ence on Persian Gulf oil in recent years. In 1979,
Western Europe imported roughly 8 million b/d, or
Western Europe: Oil Imports, 1974-83
I
50 percent of its oil, from the Gulf states. BIy 1983,
the West Europeans had cut these imports 6y more
than half, to about 3.1 million b/d-25 percent of
total West European oil imports. The Gulf coun-
tries' share of total West European energy supplies
plunged from 31 percent in 1979 to about 113
percent last year.F__~
Although the recession and energy-conservation
efforts cut West European oil consumption '20
percent over the period of 1979-83, imports from
the Gulf states also dropped because:
? Domestic oil production increased.
? Oil supplies were diversified.
? Other forms of energy were substituted for oil.
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Western Europe:
Dependence on Persian Gulf
Oil Imports, 1983
Persian Gulf as a Share of
Oil Imports Oil Consumption
25 27
Turkey 74 70
Portugal 51 55
Greece ' 1 41 58
21 12
18 47
15 13
13 13
13 14
9 11
Indigenous West European crude oil production
rose more than 50 percent over the period. The
United Kingdom, which accounts for 70 percent of
West European production, boosted output from
1.5 million b/d in 1979 to 2.3 million b/d last year.
Norwegian production increased 52 percent. At the
same time, imports from . Mexico soared from
11,000 b/d in 1979 to more than 400,000 b/d in
1983, while imports from the Soviet Union in-
creased 31 percent. Moreover, oil is playing a
slightly smaller role in European energy supplies.
In particular, the share of nuclear power has risen
from about 3 percent of total energy consumption
in 1979 to about 7 percent.
Several individual countries, however, remain
heavily dependent upon the Persian Gulf region.
Turkey, Italy, Greece,, and Portugal each receive
between 40 percent and 74 percent of their oil
Secret
3 August 1984
imports from the Gulf states. By comparison, im-
ports from the Persian Gulf represent only 2 per-
cent of US oil requirements.
Availability of Alternative
Oil Supplies
West European vulnerability is also reduced be-
cause alternative supplies are available on short
notice. Excess capacity in countries outside the
Persian Gulf amounts to 3 million b/d. In addition,
about 15 percent of the 10 million b/d exported by
the Persian Gulf countries moves via pipeline to the
Mediterranean and Red Seas. If shipping on the
Gulf were disrupted, the pipelines could transport
another 1 million b/d, and we believe Saudi Arabia
would step up pipeline deliveries.
In addition, oil stocks provide a short-term cushion
for Western Europe. Existing land-based stocks of
1.1 billion barrels are equivalent to 100 days of
forward consumption, according to the IEA. Due to
technical factors, however, roughly half of these
stocks would be unavailable for use in a disruption.
Tankers in transit, although not as readily accessi-
ble as land-based stocks, would provide supplies for
another 30 to 40 days. Saudi Arabia has also built
up stocks in tankers outside the Persian Gulf that
probably would be released in the event of a Gulf
disruption. We estimate this Saudi reserve at about
60-65 million barrels, about a week's net oil flow
from the Gulf.
Economic Impact
of a Gulf Oil Cutoff
A short-term disruption in Persian Gulf oil exports
would probably have little effect on West European
economies, but if the cutoff were complete and long
lasting, the impact would be severe. Simulations
with our Linked Policy Impact Model indicate that
such a cutoff would quickly drive the world price of
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Secret
Estimating the Impact of a Cutoff
in Persian Gulf Oil Imports
We used our Linked Policy Impact Model to
measure the economic impact on Western Europe
of a jump in prices due to a prolonged interruption
in Persian Gulf oil supplies. For our simulation we
assume a net loss for a year of 5 million b/d-the
amount of oil currently exported by the Persian
Gulf countries less the total of excess capacity that
does not flow through the Strait of Hormuz. To
balance supply and demand, oil prices go up 130
percent, from $29 per barrel to $67 per barrel.
Our conclusions depend on key parameters esti-
mated econometrically-such as energy prices and
income elasticities in each country-as well as on
assumptions about policy responses to an oil shock
and how quickly oil exporters use large earnings
increases to boost purchases from Western Europe
and elsewhere. In our scenario we assume:
e Government expenditures on consumption and
investment remain constant in nominal terms.
e The money supply in each country and real
interest rates remain constant while nominal
interest rates increase.
o OPEC countries spend nearly 60 percent of their
estimated additional oil-export revenues-$80
billion-on additional imports in the first year of
higher oil prices.
c Oil inventories of non-Communist countries are
drawn down at an average rate of 500,000 b/d
over the course of the cutoff.
scenario, unemployment-already at record lev-
els-would rise by 800,000, or about 0.6 percent-
age point, to roughly 12 percent. A substantial hike
in oil prices would also boost inflation and worsen
the combined current account. We estimate, infla-
tion would be 4.4 percentage points higher than our
baseline case, and that the current account balance
for all of Western Europe would deteriorate by
-nearly $5 billion.
Policy Response
For the moment, Western Europe is not particular-
ly concerned about an interruption in Persian Gulf 25X1
oil imports. The prevailing consensus in Western
Europe is that the United States would take action
to keep Persian Gulf oil flowing, and hence any
shortfall in oil supplies would be temporary., A
small oil price increase resulting from a brief
disruption in oil imports would probably have little
impact on either economic trends or policies. Al-
though several IEA countries are now willing to
consider the early use of stocks, many Westi Euro-
pean countries probably would respond by imposing
demand-restraint measures and stepping up im-
ports from other sources. France, in particular,
believes drawing on emergency oil stocks is a
measure of last resort.
To cope with a long-term disruption in Persian Gulf
supplies, Western Europe would probably adopt
policies similar to those used during previous oil
crises. Within the European Community (EC), ex-
port licenses probably would be required to ;ship oil
across national boundaries. The EC commission
oil up to around $65 to $70 a barrel, even assuming
a fairly substantial drawdown in inventories. If the
cutoff and the high oil prices lasted for a year,
West European real GDP would fall about 2
percentage points in comparison with our baseline
forecast. Real GDP is now expected to increase by.
about 2.2 percent this year and 2.4 percent in 1985;
a lengthy interruption thus would threaten the
West European economic recovery. It would also
boost unemployment, the most serious single eco-
nomic problem in Western Europe. Under our
would use this system to prevent one country that
allowed oil prices to rise from siphoning oil from
other member states that were applying price con-
trols. In addition, consultations would be held
regularly to coordinate demand-management
measures.
Although the IEA recently agreed to use stocks to
inhibit excessive oil price increases in the event of a
major supply disruption, most West European
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Western Europe: Impact of a One-Year Cutoff
in Persian Gulf Oil Exports a
Percentage points
(except where noted)
Change in Real Change in Current Change in Infla- Change in Num- Change in Unem-
GDP Growth Account Balance tion Rate ber of Unem- ployment Rate
(billion US $) ployed
(thousands)
countries do not have adequate stocks to participate
meaningfully in a coordinated stock drawdown.
Under the terms of the lEA agreement, these
countries would have to take actions, including
demand restraint, to help share the burden of a
disruption. Countries such as Italy that are heavily
dependent on Persian Gulf oil probably would press
for quick implementation of the IEA emergency
allocation system to more evenly distribute the
shortfall among the 21-member countries, includ-
ing the United States.
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Nigeria's Military: Difficult
Times Ahead
Economic hard times are straining the already
delicate fabric of Nigeria's armed forces, which
have been governing since a senior officer coup last
December. The current government-headed by
Maj. Gen. Muhammadu Buhari and dominated by
his fellow northern Muslim officers-appears in-
creasingly bewildered by the magnitude of Nige-
ria's economic problems and is in constant fear of
being ousted by disgruntled soldiers. We expect
Nigeria's political climate to become increasingly
volatile as military leaders strive to contain the
political fallout from Nigeria's economic decline.
Any regime in Nigeria must be responsive to the
attitudes and ambitions of the officer corps and the
military's increasing equipment and training needs.
The ability of senior officers to ameliorate discon-
tent in the military, however, is being weakened by
worsening economic conditions. In our judgment,
senior officers will continue to pay lipservice to the
goal of strengthening and modernizing the armed
forces, but there is little likelihood of significant
improvement in the overall capabilities of the
armed forces
The Military Inherits Chaos
Nigeria is in the .midst of its worst economic crisis
since independence in 1960, partly because of the
world oil glut. Nigerian oil production-which
provides 95 percent of foreign exchange receipts
and 80 percent of government revenues-has fallen
from 2.3 million b/d in 1979 to a range of 1.3-1.6
million b/d in 1984. Oil revenues-which peaked
at $24 billion in 1980-are estimated at $15 billion
this year. With export earnings plummeting, Nige-
ria's imports are dropping sharply. Most sectors of
Nigeria's import-dependent economy have been
crippled by the lack of imported raw materials and
The need to meet a growing debt-servicing burden
is adding to the military's domestic woes. Extensive
borrowing by former President Shagari's civilian
government is now causing Lagos to spend 'a large
portion of its export revenues on servicing its debt.
Nigeria's debt service on its medium- and long-
term debt will exceed $3 billion this year. In
addition, Lagos thus far has been unable to clear up
its $6-9 billion in short-term arrears, and this is
impeding its ability to import.
Running From Economic Reality
Buhari and his fellow senior officers. promised swift
and decisive action to revive Nigeria's economy
after they seized power, but they were unaware of
the magnitude of the problem. Early pronounce-
ments stressed that more prudent management and
the return of ill-gotten gains by former civilian
politicians were the keys to economic recovery.
Senior officers quickly set out to "control" the
economy by forcing powerful traders to release
hoarded goods and lower prices. At the same time,
senior officers sought to reassure international
creditors that Nigeria would honor its financial
obligations and follow through on negotiations with
the IMF.
After eight months in power, however, the regime
appears increasingly adrift and unsure of what
economic correctives to adopt. While the ruling
military council now appears to recognize that
there are no "quick fixes," responsibility for chart-
ing a long-term economic-recovery plan remains
unassigned. In our view, the Buhari regime m makes
most economic decisions in a crisis atmosphere,
attempting to minimize the short-run political im-
pact of its actions. As a consequence, the govern-
ment has been sending contradictory economic
most development projects have been halted.
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signals by its conflicting policy statements. In the
critically important oil sector, for example, the
managing director of the national oil company and
the federal minister for petroleum often find them-
selves at odds over what production policies the
government should pursue.
The government has taken some steps to bring
spending in line with reduced revenues, but these
moves have made life more difficult for most
Nigerians. Since seizing power, the government has
purged as many as 50,000 bureaucrats from federal
and state civil services, reduced spending on al-
ready inadequate public services, frozen wages, and
reintroduced several unpopular taxes and fees.
Moreover, the government's efforts to set import
priorities and gain better control of foreign ex-
change allocation have been undermined by bu-
reaucratic inefficiency and persistent corruption.
The Buhari government has been similarly unsuc-
cessful in sorting out Nigeria's tangled internation-
al financial situation. Its refusal to devalue the
naira, liberalize trade restrictions, or modify do-
mestic petroleum subsidies continues to block an
IMF agreement and stall negotiations with Nige-
ria's foreign creditors. In July the regime obtained
a temporary 150,000-b/d increase in its 1.3 mil-
lion-b/d OPEC quota, but will have difficulty
selling the added production unless it cuts prices.
Moreover, Lagos's efforts to secure bilateral assis-
tance-from countries such as Saudi Arabia-hold
little promise of success
Political Mission and Military Priorities
Nigeria's military views itself as the guarantor and
protector of national unity, and the final arbitor of
political power. Although the second-largest mili-
tary force in black Africa-behind Ethiopia-the
armed forces' prolonged involvement in politics has
undermined its capability to respond to an external
threat or to maintain a high level of readiness. The
problems plaguing the military-endemic to most
Third World countries-have been compounded in
Nigeria by the rapid expansion and contraction of
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3 August 1984
personnel. The military grew rapidly from 7,000 at
independence in 1960 to over 250,000 during Nige-
ria's 1967-70 civil war to its present strength of
about 130,000.
Nigeria's military establishment is beset by the
same political, social, ethnic, regional, and religious
divisions that characterize the society at large.
Although the precise ethnic composition of the
military is unknown, southern-particularly Yoru-
ba-and minority tribesmen from the Middle Belt
region historically have found themselves in compe-
tition with largely Muslim Hausa-Fulani northern-
ers. These tensions are heightened by personal
ambitions and rivalries among the highly politi-
cized officer corps.
Economic hard times notwithstanding, the current
government has promised to take decisive action to
modernize and upgrade military capabilities. In
particular, the current regime has acknowledged
that it needs to:
? Continue paring the military to what is believed
to be its optimum strength of between 80,000 and
100,000.
? Recruit a younger and more literate military
force.
? Increase training, which suffers from a lack of
purpose, coordination, and funding.
? Purchase more modern weaponry while improv-
ing the availability of spare parts, upgrading
maintenance, and establishing more dependable
Impact of Recent Austerity
The extent to which austerity has hurt the armed
forces remains unclear. Soldiers still enjoy better
living standards than their civilian counterparts,
but inflation and rising civilian unemployment are
adding to the already sizable number of extended-
family members who depend on a soldier's pay-
check. Thus far, economic realities have not tem-
pered the Buhari government's promises to buy
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more modern weaponry, upgrade training, and
improve soldiers' living conditions. The govern-
ment's May 1984 budget, for example, allocates 9.3
percent of total spending to defense, while the
deposed Shagari government recommended 10 per-
cent. In our judgment, while senior officers recog-
nize the importance of adjustments, they are un-
willing to slash military spending given their
concerns about forestalling a coup attempt by more
junior officers.
As a consequence, the government continues to
make military decisions on a piecemeal basis with
little apparent concern for long-range economic
consequences. The regime, for example, has decid-
ed to proceed with the controversial purchase of
Jaguar aircraft from the United Kingdom despite
reservations about the cost of the contract negotiat-
ed by the Shagari government. Similarly, the re-
gime is attempting to improve training by upgrad-
ing the newly named Armed Forces University-
formerly the Nigerian Defense Academy-to a
degree-granting institution. The government also
has launched a campaign to eradicate illiteracy in
the enlisted ranks, which is perhaps as high as 70
percent. The regime has threatened to expel those
who fail to achieve literacy in a specified time, even
though this would add to unemployment.
Economic Squeeze Poses Dangers
Despite Nigeria's currently dim economic outlook
and political uncertainty, we.expect no major
changes in defense policies or spending as long as
senior officers maintain control. We judge that
senior officers believe they have little choice but to
continue with stopgap policies designed to placate
demands from more junior officers. The regime is
more likely, in our judgment, to pursue a few "big
ticket" purchases-particularly for the Air
Force-while scaling back and canceling some
smaller contracts as evidence of the military's
bearing its share of economic hard times. Promises
of improved training-partially to gain the support
of less senior officers-will be highly publicized,
but, in our view, will be difficult to achieve given
current economic realities
In the near term, we doubt there will be significant
improvements in the military's overall ability to
respond to internal and external threats. In' our
judgment, the military will be distracted from its
professional missions, as long as it exercises direct
political power. The squeeze on government reve-
nues also will hurt. Projects such as the Defense
Industries Corporation designed to make Nigeria
largely self-sufficient in small arms production will 25X1
remain high on the government's priority list but
probably will receive little funding.F--]!
Although spending cutbacks are required for eco-
nomic stabilization, senior officers-well aware of
the threat of a junior- or middle-grade officer
coup-are unlikely to make sweeping changes in
the military's composition or organization. Whole-
sale retrenchments could provoke more coup plot-
ting and would add to already high unemployment.
Instead, we believe military leaders will continue to
retire and shuffle officers of suspect loyalty as need
be, while giving high priority to ensuring that
salaries are paid on time and that food and housing
needs are met at minimally acceptable levels. Even
so, we believe that the regime will be unable to
shelter the military from economic adversity, par-
ticularly enlisted men whose families are being hurt
by the contracting economy.
As economic stringencies worsen, senior officers
comprising the Buhari regime face a struggle in
countering the impression that they constitute a
"privileged class."
=growing perceptions among junior- and mid-
dle-grade officers-and we believe in the enlisted
ranks as well-that the current leadership is cor-
rupt, though not yet on the scale on their civilian
predecessors. In our view, ostentatious wealth-
which all past governments have exhibited during
a time of economic crisis will harden attitudes of
frustrated junior- and middle-grade officers. It will
also widen the gap between better paid senior
officers and those struggling to make ends' meet in
the enlisted ranks.
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As the Army is drawn more heavily into politics,
including responsibility for maintaining public or-
der in the face of economic decline, we expect force
readiness to decrease. Serious logistic and mainte-
nance problems-particularly spare parts short-
ages-will be aggravated by declining availability
of foreign exchange
In our judgment, Nigeria's military is likely to
become even more politicized and divided as long
as it remains in power. In particular, we believe
senior officers will find it increasingly difficult to
maintain discipline over junior- and middle-grade
officers disillusioned and frustrated by the inability
of the present government to make good on its
economic and political promises.
In our view, the best the current government can
hope for in the short run is to keep frustrated junior'
officers off balance and in check, while cushioning
the impact of continued economic decline on the
military. Although this could give the impression
that Nigeria is "muddling through," we see little
prospect that any government will be able to carry
out more far-reaching economic reforms essential
for longer term political stability.
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Creditor Attitudes
Although commercial bank creditors continue to
endorse the present strategy for resolving debt
problems on a case-by-case basis, the banks are
signaling a more flexible attitude in dealing with
debtors. Creditors are openly considering, and in a
few cases implementing, previously rejected actions
such as multiyear reschedulings, rescheduling with-
out an IMF-supported- program, and capping of
interest rates. Concerned with the quality of their
loan portfolios, commercial banks also have devel-
oped a secondary market for swapping LDC loans.
Multiyear Reschedulings
Commercial banks and Western governments have
publicly stated their willingness to consider mul-
tiyear debt reschedulings for major debtors that
have made economic adjustments. By rescheduling
several years of principal repayments coming due
instead of the usual one year's repayments, credi-
tors seek to eliminate bunching of repayments and
to avoid the usually long and arduous renegotiation
process each year. The major drawbacks to the
multiyear rescheduling plan in the eyes of creditors
are how to enforce austerity during the reschedul-
ing period and the fact that it does not ease the
burden of rising interest rates.
The only countries that creditors are considering
for multiyear reschedulings are Mexico and Brazil.
Negotiations between Mexico and its bank advisory
committee began in mid-July, with the Mexicans
requesting a rescheduling of all principal falling
due in 1985-90. The banks, however, prefer inclu-
sion of a large portion, but not all, of 1985-88
principal repayments. Disagreements also exist re-
garding the type of debt to be included, the re-
scheduling terms, and the role of the IMF as a
expect Brazil to oven negotiations 25X1
with its bank advisory committee this fall. Embassy
reporting indicates, however, that Brazil will wait
to see the terms that Mexico obtains in its agree-
ment and then request similar treatment from the
banks. Bankers are greatly concerned with the issue
of precedence, which will lengthen the Mexican
negotiations and thus postpone the Brazilian' talks.
Rescheduling Without an IMF-Supported Program
Creditors consistently have required that a country
seeking debt relief have an IMF-supported pro-
gram in place before any negotiations. A break in
this policy recently occurred when commercial
banks agreed to commence rescheduling talks with
Venezuela on 23 July. Although Venezuela has not
implemented an austerity program under the guid-
ance of the IMF, Fund representatives commented
favorably in July on Caracas's self-imposed eco-
nomic adjustment efforts. In addition, Venezuela is
not requesting any new money from banks and has
a relatively high level of foreign exchange reserves.
The fear of setting a precedent by reschedul i ing
without an IMF program remains with bankers 25X1
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much stronger than that of other major Latin
debtors. other, coun- 25X1
tries will closely watch the Venezuelan talks and
will seek similar treatment. Argentina has request-
ed a rescheduling without an IMF program in place
monitor of the agreement.
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Bankers are particularly worried about the
consequences if Brazil or Mexico reject an IMF
role in the debt strategy.
Capping of Interest Rates
A technique for reducing the LDCs' interest bur-
den that has been proposed by debtors and some
financial observers involves the capping of interest
rates. Banks have been firmly against such a move
because of the possibility of pushing the lending
rate below the banks' cost of funds, which would
cut sharply into earnings. Moreover, if interest
payments are capitalized-converted into princi-
pal-under this technique, banks face regulatory
problems and are increasing their exposure to the
borrowing country.
A slight change in banker attitudes toward interest
capping was evidenced, however, by a recent loan
to Paraguay. The $15 million loan, cofinanced by
the World Bank and commercial banks, was signed
in June and contained a capping provision. If
LIBOR exceeds 12 percent in the last five years of
the 10-year credit, the loan's maturity would be
extended. The World Bank would finance the
extension of the maturity.
Commercial banks probably will continue to refuse
to cap interest rates on loans unless, as in the
Paraguay loan, official creditors or institutions
issue some sort of guarantee to finance the amount
exceeding the cap. an
IMF special fund is being considered to lend to
countries hard hit by interest rate increases; this
fund would be organized somewhat like the 1974
IMF Oil Facility, which provided assistance to
countries to offset higher oil import costs. Unless
such a program is established or guarantees are
given, however, most observers do not expect inter-
est capping to become a widespread practice. F_
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3 August 1984
Secondary Market for LDC Loans
In the past 12 to 18 months, a secondary market for
bank loans to developing countries has evolved as a
means for banks to upgrade their loan portfolios.
many large US
banks have engaged in this activity, although to
different degrees. The main portion of the second-
ary market involves the swapping of loans between
banks to balance the banks' exposures to individual
countries. The loan swap often occurs between a
US bank and a domestic bank in a debtor country
as a way of reducing foreign exchange risk or
transfer risk.
US bankers are cautious in their dealings on this
secondary market because of the watchful eyes of
the US bank regulators. Since these loans often are
traded at a discount, questions are raised about
their quality. No formal data are available on the
volume and details of these transactions, and bank-
ers generally will only admit which countries' loans
were involved. bank-
ers do not see the secondary market becoming very
large because of the asset quality concerns.
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Ecuador: Economic Challenges
for the New Administration
After taking office on 10 August, President Leon
Febres-Cordero will encounter significant economic
hurdles in attempting to balance heightened expec-
tations for economic recovery with the need to
sustain adjustments under an IMF-supported loan
program. Despite likely opposition to his free mar-
ket economic policies from labor and leftist political
parties, solid backing from the military and influ-
ential business community probably will enable
Febres-Cordero to implement most of his programs.
We believe there is a good chance that his pro-
grams will gradually spur recovery, reduce infla-
tion, improve the external accounts, and strengthen
the five-year-old democratic process.
Febres-Cordero Takes Charge
A conservative businessman, Febres-Cordero
gained nationwide attention in the last few years
while serving in congress and exposing corruption
in government. Unlike many of his Latin American
counterparts, he is a firm adherent of free market
economic policies and believes they are essential to
spur economic growth. He believes that imposition
of fiscal austerity and reforms in monetary and
exchange-rate policies, along with free market prin-
ciples, will restore domestic and foreign business
confidence, resuscitate the stagnant industrial sec-
tor, and revive nonoil exports. Determined to re-
duce the government's role in the economy, Febres-
Cordero plans to eliminate basic commodity
subsidies, decrease regulation, liquidate state mo-
nopolies, and reorganize the state petroleum indus-
try to encourage efficiency. To fulfill his campaign
pledges to provide low-cost housing and increase
employment, he intends to funnel government
assistance to the private construction industry. We
believe that Febres-Cordero will also court foreign
investors. At a recent meeting with bankers in New
York, the President publicly sought foreign invest-
ment in mining, petroleum exploration, tourism,
The new economic team, drawn mainly from the
business community, is ready to impose its Town
brand of free market policies that allow for some
government intervention. Carlos Emanuel, the
leading candidate to head the central bank) favors
free market pricing policies, a reduction in the role
of the state, and a floating exchange rate. Francis-
co Swett, the architect of Febres-Cordero s;eco-
nomic plan, is slated to run the Finance Ministry.
He believes in positive real interest rates, afloating
currency, and the elimination of gasoline subsidies..
Other team members, however, are less oriented to
free market reforms. Javier Neira, the possible
industry minister, for example, prefers a gradual
phasing out of subsidies to national industry rath-
er than a direct dismantling.
Febres-Cordero's most immediate challenge will be
the issue he targeted in his campaign-the sluggish
economy. Central Bank projections indicate that
the economy contracted 3 percent in 1983, the
result of austerity policies that slowed domestic
demand, and, a steep decline in agricultural produc-
tion because of adverse weather. The manufactur-
ing and construction sectors remain depressed and
half of the labor force reportedly is idle or under-
employed. Inflation is running at 45 to 50 percent,
close to record levels in 1983.
An overvalued exchange rate, weak world demand
for Ecuador's exports, and hikes in international
interest rates are impeding improvement inithe
external accounts. There has been a slight recovery
agriculture, and export industries.
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Ecuador: Selected Economic Indicators, 1978-84
Real Economic Growth
Percent
Current Account Balance b
Million US $
-1,200
Total Debt
Billion US $
a Estimated.
b Excluding official transfers.
Consumer Price Growth
Percent
Foreign Exchange Reserves, End of Year
Million US $
Debt-Service Ratio
Percent
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in the trade balance because imports have re-
mained constrained. Although Ecuador is the third-
largest oil exporter in Latin America, the slack
international oil market is preventing any substan-
tial increase in oil export earnings, and traditional
exports-sugar, coffee, cocoa, and bananas-are
suffering from an overvalued currency, export tax-
es, and rising production costs. Interest payments
on the $8 billion debt will take about one-third of
export earnings this year and higher interest rates
will cut into export gains
Febres-Cordero will benefit from his predecessor's
efforts to stabilize the economy. US Embassy
reporting indicates that Quito remained in compli-
ance with the IMF program that expired in late
July and, has al-
ready secured an interim agreement with bankers
to reschedule the 1984 debt. Bankers, however,
refused to provide new loans before the inaugura-
tion, causing Quito to run up $200 million in
arrears. The IMF probably will require an elimina-
tion of these arrears before approving a new stand-
by.
Febres-Cordero favorably impressed bankers dur-
ing his recent visit to the United States,
He surprised them, however, by putting Qui-
to's new loan requirements for 1984 and 1985 at
$600 million-double the amount estimated by his
predecessor. During the meetings, Febres-Cordero
also indicated that he would seek lower interest
rates on foreign credits to ease payments con-
straintsJ
Prospects
In our view, the new President will move promptly
to meet these economic challenges, although his
policies will probably be resisted by several key
interest groups. To reduce the budget deficit,
Febres-Cordero will attempt to shrink the large
state sector-half of total public expenditures-
and reduce subsidies by increasing gasoline and
food prices. Such price increases are likely to spur
labor unrest. We believe that Febres-Cordero's
substantial backing from the military and the
business community will counterbalance opposition
from labor and leftist political parties, at least
during his first six months in office.
We believe that Febres-Cordero's approach, even if
accompanied by some backpedaling, will gradually
improve Ecuador's economic prospects and
strengthen the five-year-old democratic process.
Recent Central Bank estimates project a slight
increase in economic activity this year, mainly
because of normal weather and increased oil pro-
duction. The current account deficit is expected to
contract as exports rise and imports remain con-
strained. Rising agricultural output will ease price
pressures, enhance purchasing power, and boost
exports. We believe that, by early 1985, improved
business confidence, the elimination of an overval-
ued exchange rate, and increased construction ac-
tivity will provide momentum for economic recov-
ery.
We believe Quito will secure the $100 million IMF
standby agreement it seeks. There is also a good
chance that Ecuador will obtain loans fromm inter-
national development agencies, such as the World
Bank and the Inter-American Development Bank.
These funds will enable the government to modern-
ize infrastructure without an increase in domestic
spending. In addition, they will help soften the
political impact of austerity by creating jobs.
The generally favorable reaction to Febres-Cordero
from foreign creditors and businesses bodes well for
his plans to obtain new loans and direct investment.
Next month the new administration's team will
return to the United States to conclude the 1984
debt-refinancing plan
though we believe negotiations for new loans will be
difficult, creditors are encouraged by the halt in
capital flight since Febres-Cordero was elected.
Some US regional banks are reluctant to increase
their loan exposure, but are willing to keep trade
credit lines open.
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