INTERNATIONAL ECONOMIC & ENERGY WEEKLY

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP97-00770R000100680001-8
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 43
• Document Creation Date: December 22, 2016
• Document Release Date: July 22, 2011
• Sequence Number: 1
• Publication Date: December 5, 1986
• Content Type: REPORT

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ELLIGE
Sceret
Intelligence
in terna ona
Economic
Weekly
SMrst
DI IEEW 86-048
S December 1986
Copy 677
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International
Economic & Energy Weekly 25X1
iii Synopsis
1 Perspective-Foreign Acquisition of US High-Technology Firms
3 Iran: Political Repercussions of the Slumping Economy
7 Nicaragua: Compounding Economic Problems
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LOA-1
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17 Sudan: The Economy in Shambles
21 Ecuador: Coping With Lower Oil Prices
Energy
International Finance
International Trade
Global and Regional Developments
National Developments
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Comments and queries regarding this publication are welcome. They may be
directed to Directorate of Intelligence
Secret
DI IEEW 86-048
5 December 1986
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International
Economic & Energy WeeklyF__~ 25X1
Synopsis
Perspective-Foreign Acquisition of High-Technology Firms
Growing foreign acquisitions of US high-technology firms have raised concerns
over increased US dependence on foreign-owned suppliers-particularly in ad-
vanced military technologies-and possible leakages of controlled technology to
3 Iran: Political Repercussions of the Slumping Economy
resources away from the war to shore up domestic support.
Serious shortages of necessities, the result of Iraqi air attacks and low oil prices,
are causing unrest among key lower-class supporters of the Iranian regime. If
antiregime sentiment continues to grow, Tehran may be forced to divert more
7 Nicaragua: Compounding Economic Problems
battlefield losses mount as the insurgency heats up.
The Sandinistas' economic problems continue to mount. The Sandinistas are using
tight regulations and repressive measures to retain political control, while in-
creased Soviet Bloc aid has apparently created an economic safety net. Neverthe-
less, the dismal economy may spur growing antiregime sentiment, especially if
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Sudan: The Economy in Shambles) 25X1
political unrest.
Sudan's Government continues to postpone urgently needed structural reforms,
opting instead for band-aid economic measures that it hopes will allow it to muddle
through. With supplies of essential commodities dwindling and inflation soaring,
the living standards of a broad segment of the urban population is declining,
increasing the threat of more strikes and protests and the potential for serious
21 Ecuador: Coping With Lower Oil Prices
increased attack in the leftist-controlled congress.
Ecuador faces severe foreign payments problems and constraints on growth of its
oil-based economy in 1987. If oil prices do not begin to rise by the end of this year,
we believe President Febres-Cordero's free market reforms will come under
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DI IEEW 86-048
5 December 1986
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International
Economic & Energy Weekly
Perspective Foreign Acquisition of US High-Technology Firms
Since January 1985, foreign firms-primarily British, French, West German, and
Japanese-have acquired, or are about to acquire, almost 150 US high-technology
firms. In addition to chemicals and pharmaceuticals, their main target has been
the electronics sector, especially semiconductors, computers, and telecommunica-
tions. These acquisitions are driven by a combination of factors, including:
? The desire to obtain advanced US technology to bolster indigenous development
capabilities, spurred, in part, by increasingly stringent enforcement of US patent
and copyright laws.
? The need to gain access to the US market, especially to secure proximity to
customers and to sales, distribution, and service networks-prompted by fears of
US import restraints.
? Attempts by cash-rich firms to diversify into the high-growth, advanced
technology area.
? The recent depreciation of the dollar, which is allowing foreign companies to
acquire US firms at lower domestic currency costs. For example, Fujitsu's $250
million offer for Fairchild is one-third less, in yen terms, than it would have been
at the exchange rate of a year ago.
Foreign interest in the US semiconductor sector-ranging from materials, to
devices, to manufacturing equipment-has been particularly strong. While the
acquisition of major US semiconductor manufacturers such as Mostek, Zilog, and
Zymos have received considerable press, there are a number of smaller deals that
some observers see as contributing to the erosion of this strategically important US
industry. For example, two US producers of silicon wafers and two lead frame
(packaging) producers have already been acquired. Several advanced production
equipment manufacturers have also become foreign acquisition targets.
Although foreign buyouts of US firms are dwarfed in comparison with US merger
activity, these acquisitions expose the United States to significant vulnerabilities.
Some foreign acquisition efforts could weaken the US infrastructure in selected
industries and could potentially leave US companies dependent on foreign-owned
suppliers. This is a particular concern for advanced, military technology. This
reliance could lead to supply uncertainties, considerably higher prices, and, more
important, potential erosion of the domestic technology base needed to support
development of next-generation weapon systems. Foreign acquisitions will also
complicate technology transfer issues and increase the chances for leakages to the
Soviet Bloc. Although relatively few of the US firms acquired thus far are major
defense suppliers, many of the companies possess technologies that are useful for
military as well as civilian applications.
Secret
DI /EEW 86-048
5 December 1986
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Secret
Foreign acquisitions of US high-technology firms will probably accelerate-at
least for the near term. Armed with substantial financial backing and the
advantages offered by the declining dollar, Japanese, West European, and other
foreign firms will seek vulnerable US companies-particularly those weakened by
slumping markets, smaller firms with restricted product lines, or those strapped by
ever increasing R&D and capital investment requirements. At the same time, the
explosive increase in the speed, size, and scope of international financial transac-
tions might not only facilitate foreign investment in US firms, but also might
disguise the source of this investment, especially if foreign firms begin to use
leveraged buyouts. As global financial markets become more complex, US firms
could be acquired by investors of unknown identity whose interests are adverse to
those of the United States.
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Iran: Political Repercussions
of the Slumping Economy
Serious shortages of necessities, the result of Iraqi air
attacks and low oil prices, are causing unrest among
key lower-class supporters of the Iranian regime.
Tehran has been seeking to recover frozen foreign
exchange assets to avoid still more austerity and to
shore up its dwindling reserves. The dire economic
situation is contributing to political maneuvering
among opposing clerical factions over war policy and
Khomeini's succession. If antiregime sentiment con-
tinues to grow, Tehran may be forced to divert more
resources away from the war to shore up domestic
support.
Cutbacks and Increasing Tension
Over the past several months, Iraqi attacks and low
oil prices have forced Tehran to impose severe auster-
ity. Since midyear Tehran has limited spending al-
most exclusively to military items, agricultural prod-
ucts, medicine, and fuels. More recently, even
formerly sacrosanct food imports have been cut. As a
result of Iraqi attacks on oil refineries, Tehran has
reduced rations of heating fuel by 60 percent com-
pared with last year and introduced strict rationing of
gasoline
Periodic shortages have been fairly common in recent
years, but scarcities of a broad range of goods includ-
ing many necessities are reportedly becoming routine.
Meat is the most frequently mentioned item in short
supply, but others recently cited include cheese, tea,
cooking oil, butter, gasoline, soap, paper products, and
medicines. Even the black market, usually able to
provide almost any commodity for a price, is reported-
ly short of food. Rumors of imminent bread rationing
have touched off panic buying in some areas.
Widespread shortages have kicked off a surge in the
inflation rate that had been running about 20 percent.
Rice prices have doubled since May, and the price of
Improved Relations With Saudi Arabia
Iranian officials, according to the US Embassy.
Low oil revenues and deteriorating economic condi-
tions in Iran may be prompting Tehran to try to
improve relations with Saudi Arabia in the hope that
Riyadh will work for higher oil prices and will
discourage Iraqi attacks against Iranian economic
targets. Since Iran and Saudi Arabia reached a
compromise at the August OPEC meeting, bilateral
tensions have eased. Saudis have noted a lack of
fanaticism and less intractability on the part of
Iranian public statements indicate that the Iranians
believe the Saudis have become more accommodat-
ing. They view the shift in Saudi oil policy since
August and the firing of Oil Minister Yamani as
conciliatory gestures. Riyadh, for its part, sees an
opportunity to exact concessions on Tehran's policy
toward Iraq in return for greater Saudi flexibility on
Saudi Arabia and Iran will probably continue efforts
to narrow their differences. They are likely to try to
coordinate strategy at the December OPEC meeting,
and they probably are prepared to make mutual
concessions that would improve the prospects for a
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price and production agreement.
meat has increased 80 percent since Auguste
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the cost of living in
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Tehran is making it very difficult for the urban poor.
School children increasingly must share textbooks,
notepads, and pens, because shortages of these materi-
als have pushed prices higher than many lower class
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5 December 1986
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Shortages of spare parts and raw materials continue
to force contraction of Iran's industrial sector, leading
to further increases in Iran's 30- to 35-percent unem-
ployment rate. Many factories and small businesses
have been forced to make significant cutbacks or shut
down completely. factory
output is down 70 percent from last year. businesses
have sought to cut work forces by encouraging early
retirement and layoffs. According to the Iranian
press, 6,000 workers will be laid off at Iran's largest
industrial facility, the Esfahan steel mill.
Signs of Unrest
Demonstrations and open grumbling throughout the
country have recently increased in response to deterio-
rating conditions gasoline
rationing recently sparked protests in Iran's three
largest cities. Demonstrators blocked thoroughfares
and attacked gas stations, prompting authorities to
call out the Revolutionary Guards. In Mashad, about
2,000 citizens marched on the governor's building,
Soon after
arriving, the protestors were surrounded by Komiteh
Guards who checked demonstrators for proof of mili-
tary service. Those without proof were arrested and
sent to the front, some others were reportedly beaten.
Disregard for authority appears to be increasing, an
indication that popular tolerance is wearing thin.
Public complaints about economic problems are be-
coming common, particularly among consumers stuck
in ration lines. Residents in one section of Tehran
recently attacked government buildings to protest
food shortages In
another section, local clerics and their followers ig-
nored an official restriction limiting their participa-
tion in an annual religious ceremony and drove off
Revolutionary Guards attempting to impose compli-
ance. Robberies and muggings in Tehran have in-
creased
Tehran could temporarily alleviate its current auster-
ity by drastically drawing down its foreign exchange
reserves and expanding its use of credit. We estimate
Iran has already drawn down its foreign exchange
assets by at least $2 billion this year. Tehran currently
has about $2.5 billion in cash reserves and another
$4.5 billion in other available assets and gold. Never-
theless, these assets would buy only a few months'
respite and would leave the Islamic Republic in a far
more difficult financial position.
The replacement in late November of Iran's financial-
ly conservative Central Bank director raises the likeli-
hood of a shift from its current cautious policies of
husbanding reserves and avoiding foreign loans. Eco-
nomic woes have already prompted Tehran to seek
foreign overdraft facilities and increase its use of
short-term trade credits. But indicate
great reluctance by foreign banks to extend signifi-
cant credit to Iran. More important, Iran's majles-
the consultative assembly-is unlikely to give the
necessary approval for the Central Bank to seek
formal loans because of opposition to borrowing on
religious grounds and a determination to maintain
Iran's economic independence.
With few alternatives, Tehran has increased its efforts
to recover frozen assets, particularly from France and
the United States. Iran and France are negotiating a
settlement on Iran's $1.3 billion loan made before the
revolution by the former Shah to the French nuclear
firm Eurodif. Some $330 million has been transferred
to Iranian accounts; the remainder may be held up
over French counterclaims and negotiations for the
release of French hostages in Lebanon. About $1.3
billion is being held in escrow accounts set up to
handle various US bank and business claims against
Iran. Speaker Rafsanjani recently claimed that the
release of these frozen assets would lead Iran to
encourage the release of US hostages in Lebanon.
Political Maneuvering and Military Strategy
Economic problems and the resulting popular unrest
are aggravating the infighting among ruling clerics. A
recent editorial in a government-controlled newspaper
stridently criticized the management of the economy.
Radicals have been using the shortages and revenue
shortfalls as an excuse to harass groups that generally
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support more moderate politicians. Radicals in the
majles have pushed bills cracking down on profiteer-
ing by bazaar merchants and allowing the government
to confiscate property from members of the middle
class under the pretext of their former support for the
Shah. Moreover, Khomeini's deteriorating health has
apparently reduced his ability to act as peacemaker
and intensified maneuvering over his succession.
By jeopardizing support for the regime, economic
difficulties have magnified pressure on Tehran to
show progress in the war but raised the political risks
of a defeat. The huge mobilization undertaken over
the past several months was accompanied by declara-
tions that sacrifices are necessary to achieve victory
by next spring. Although Iran's vulnerability to Iraqi
air attacks puts pressure on the regime to launch the
offensive, concern over the state of the economy and
the impact of a military defeat in the face of privation
on the home front probably played a key role in the
decision to postpone the Iranian offensive this fall.
Shortages, inflation, and unemployment will worsen
in the coming months. Iraq appears determined to
keep attacking oil facilities, especially refineries. Con-
tinued effective Iraqi airstrikes would cause shortages
of heating fuel to become more severe this winter.
Even if Iranian oil exports were to recover, relatively
low world crude prices would continue to make it
difficult for Tehran to sustain the war at current
levels and keep the economy afloat.
Antiregime sentiment among the lower classes-the
backbone of the government's support-probably will
increase during the coming months in response to the
economic deterioration. Although a major military
victory would probably buy Tehran some time, do-
mestic pressure to solve the country's economic prob-
lems will continue to build. If economic privations are
combined with a major defeat, the regime would
probably have to reconsider its aggressive military
policy and devote more resources to shoring up domes-
tic support.
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Nicaragua: Economic Indicators, 1978-86
Real Per Capita Percent Consumer Price
Per Capita
Income
Index: 1977=100 Export/Import
Volumes
Import
Export
Percent Budget Deficit as
Share of GDP
External Public
Debt
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Nicaragua: Compounding
Economic Problems'
The Sandinistas' economic problems continue to
mount. Recent harvests have been the worst this
decade, and industrial output and commercial services
are also suffering. Overall, per capita income is now
one-half prerevolution levels, and government officials
expect inflation to top 600 percent this year. Public
discontent over food shortages has led to numerous
small-scale protests in Managua and other cities since
last summer. The Sandinistas are using tight regula-
tions and repressive measures to retain political con-
trol, while increased Soviet Bloc aid has apparently
created an economic safety net. Nevertheless, the
dismal economy may spur growing antiregime senti-
ment, especially if battlefield losses mount as the
insurgency heats up.
The agricultural sector is taking its worst pounding
since the major disruptions caused by the Sandinista
revolution. Overall, we project that agriculture-
which accounts for one-fourth of Nicaragua's GDP,
nearly one-half of its employment, and the bulk of its
exports-will probably fall by an additional 15 to 20
percent this year. The coffee harvest, which alone
accounts for 20 percent of agricultural production,
appears to be among the hardest hit. Statistics from
INCAFE, the state coffee-trading monopoly, indicate
this year's coffee harvest fell to 35,000 metric tons,
one-third below last year and about 35 percent below
pre-1979 levels. Private producers say this year's
cotton harvest, which accounts for about 15 percent of
all farm output, was one-third below last year and 60
percent below pre-1979 levels.
Harvests of foods for local consumption are also down
sharply, according to Nicaraguan agricultural ex-
perts. Food distribution officials report the winter rice
harvest was only one-half of that expected and the
summer crop was poor. While providing no estimates,
official sources indicate that the crucial corn and bean
harvests also have been highly disappointing, and that
consumer rations would have to be cut.
Government officials cite bad weather and shortages
of manpower and imported inputs for the declines,
but, according to US Embassy reporting, private
growers place more blame on government controls,
the lack of credit, and civil war disruptions. For
almost every crop, most private producers say that
price and marketing regulations preclude acceptable
profits. government mis- 25X1
management of state arms and cooperatives has also 25X1
been an important factor in the decline. FI 25X1
While information on 1986 industrial activity is still
sketchy, output apparently continues to fall. Capacity
utilization at numerous factories apparently has de-
clined sharply this year. Among the firms hardest hit
are food-processing plants and processors of chemicals
and wood products, largely because of raw material
shortages.
These conditions are made worse by the continued
flight of capital and human resources. During the past
year, press and US Embassy reports have indicated
that many professionals who have seen their practices
disrupted by new Sandinista controls are leaving the
country. Despite tough foreign exchange controls, the
US Embassy notes that comparison of Nicaragua's
trade statistics with partner data indicates that tens of
millions of dollars are being diverted by the private
sector and government officials using false invoicing 25X1
techniques.
Secret
DI IEEW 86-048
5 December 1986
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Costs of the Military Buildup
The military is placing increasing strain on Mana-
gua's weakening economy. Military spending now
absorbs 60 percent of the government budget and one-
As military spending soared, vital managerial
skills have been allocated to the war, and labor
shortages in combat zones have contributed to lower
harvests of export crops. Moreover, scarce raw mate-
rials and capital goods have been increasingly divert-
ed from development projects, further undermining
long-term economic growth. While the regime claims
the military expenses have been necessary to fight the
insurgency, the active military grew to two-thirds its
present size before the insurgency began.
On a net basis, we estimate-based on cost studies
prepared by the US Embassy-that the insurgency
has cost Managua some $500 million since 1982. The
bulk of the loss is from lower productivity and
reduced farm exports. Direct costs involve insurgent
attacks on infrastructure, state farms, and
government-controlled cooperatives. The regime's
losses, however, have been more than offset by Soviet
Bloc and Cuban aid, which has totaled $2.5 billion in
Soviet Bloc and Cuban financial support and military
assistance since 1982. Military aid alone ballooned
from $6 million in 1980 to $248 million in 1984.
Growing External and Internal Deficits
Depressed economic activity is further undermining
Nicaragua's international accounts. Recent official
Nicaraguan projections indicate that exports will
amount to less than one-third of imports and that the
trade deficit will exceed $600 million this year.
Managua is faced with the nearly impossible task of
borrowing or rescheduling more than $1.1 billion
during 1986 to finance its imports and to stay current
on debt obligations.
Impact of the US Trade Embargo
Direct losses attributable to the embargo since its
inception in May 1985 have reached $75 million,
according to Nicaraguan figures and our own analy-
sis. Export losses have driven Nicaragua's hard
currency earnings to less than one-half the 1984
levels, and denial of critical imports has stunted
production. The US Embassy reports that Managua's
banana sales are no longer profitable because ship-
ment to new European markets is costly and the fruit
often rots enroute. Moreover, the regime has been
unable to find new customers for its seafood and beef,
and withdrawal of the US sugar quota means Nicara-
gua has to sell on the glutted world market at less
than one-third the subsidized price. In addition, the
lack of imported spare parts, machinery, and other
raw materials and intermediate goods has reduced
agricultural production and virtually shut down the
fishingfeet
The Sandinistas have been somewhat successful at
offsetting the embargo, and its effect probably will be
substantially lowered in the future. Immediately
following the imposition of the embargo, Soviet Bloc
countries responded to Sandinista pleas by providing
over $100 million in increased economic assistance,
much of that in hard currency. Since last year the
Soviet Bloc has continued to boost financial support,
partly in response to Nicaraguan pleas for protection
As a result, Nicaragua is virtually ignoring its debts.
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Nicaragua's 1986 Economic Plan also indicates that,
to help keep their military and political programs
going, the Sandinistas have continued to rely on
printing currency to cover deficit spending. Mean-
while, on the black market the cordoba has plummet-
ed from 500 to the dollar at the beginning of the year
to about 2,500 to the dollar now. Although a govern-
ment-controlled exchange house is buying dollars at
about one-half the black-market rate, the regime has
resisted a major devaluation and the official rate
remains greatly overvalued at 70 to the dollar.
New Distribution Controls and Consumer Shortages
As production and trade continue to deteriorate, the
regime is assuming direct control over more of the
wholesale and retail network, and has further tight-
ened food rationing. The Ministry of Internal Com-
merce (MICOIN) has launched two separate, highly
publicized campaigns this year designed to force
consumers and merchants to observe state-authorized
distribution channels and prices. The new controls
include highly restrictive licensing procedures and a
cadre of uniformed and plainclothes inspectors autho-
rized to impose fines, confiscate goods, and suspend
commercial licenses. Using these new controls, MI-
COIN has forced thousands of independent mer-
chants out of business, according to Embassy report-
ing. Despite well-publicized emergency shipments
from the Soviet Union, food shortages remain serious.
A number of staples-including rice, beans, bread,
and cooking oil-have been practically unavailable.
Despite increasing government controls, inflation is
spiraling. Last month the Minister of Agriculture
reported that, during the 12 months ending in Octo-
ber 1986, official prices for rice had increased 82
percent, chicken 252 percent, beans 314 percent,
bread 1,147 percent, corn 3,923 percent, and tortillas
by 7,600 percent. In these circumstances, regime
economists reluctantly admit that overall inflation is
running between 600 percent and 700 percent on an
Growing shortages and government controls have led
to unprecedented consumer disturbances:
? Two government market inspectors were killed in
separate incidents early this year as they tried to
enforce Sandinista policies against the black mar-
ket, according to the US Embassy.
? In June four police detachments were needed to
restore order when a crowd attacked a MICOIN
inspector trying to arrest a woman for illegally
selling beans.
? Shortly thereafter, an Embassy source reported that
hungry consumers hijacked a government corn
truck near Managua and made off with its cargo.
? During July and August the Embassy reported that
peasant groups took corn and Soviet rice during
raids on state farms.
? In September a patrol car was smashed by angry
vendors as police attempted to close a clandestine
food market just north of Managua.
? In November the US Embassy reported that local
journalists were pelted with stones and commodities
when attempting to prepare stories on new illegal
markets sprouting up around Managua.
The Soviet Safety Net
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Nicaragua: Foreign Financial Gap, 1978-86
Current account balance
-25
180
-392
-563
-505
-559
-631
-801
-908
Trade balance
93
227
-353
-422
-316
-349
-415
-545
-608
Exports, f.o.b.
646
616
450
500
408
429
385
297
232
Coffee
200
158
166
136
124
154
122
123
127
Cotton
141
136
30
122
87
110
134
91
40
Other
305
322
254
242
197
165
129
83
65
Imports, f.o.b.
553
389
803
922
724
778
800
842
840
Net services and transfers
-118
-47
-39
-141
-189
-210
-216
-256
-300
Debt amortization due
68
117
130
97
113
157
166
197
220
Financial gap
-93
63
-522
-660
-618
-716
-797
-998
-1,128
Official capital disbursements
111
115
371
424
458
369
412
525
650
Other capital and errors and omissions
-242
-256
-186
164
-29
-112
-91
-95
-100
Debt rescheduling a
138
135
92
7
269
278
179
200
Change in reserves
-224
60
-202
57
-99
38
10
-117
-128
Other financial items
External debt yearend
1,261
1,531
2,147
2,566
2,918
4,185
4,922
5,601
6,300
Owed
133
202
225
266
293
336
394
496
530
Paid
133
64
90
192
203
106
79
69
60
a Includes conversion of Central Bank short-term liabilities from
previous arrears into medium-term debt.
will be available to increase productive imports for
industry and agriculture because of compensating
reductions in Nicaragua's export earnings, the contin-
ued decline in Western financial support, and higher
prices for most nonoil imports.
We calculate that probable increases in foreign finan- Looking Down the Road
cial support will not be enough to reverse Managua's
economic slide in the near term. Because the key determinants of economic policy
we project Soviet Bloc financial making-political concerns and the war-almost
support to increase by more than $150 million during surely will not change, we believe economic activity
1986 to a total of some $600 million-probably just will continue to fall through 1987 at about the same
enough to maintain imports at the depressed 1985
level. In our estimation, however, little if any of this
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rate experienced over the past two years. The slide
could be even greater as anti-Sandanista insurgent
activities intensify the drain on the Sandinistas' limit-
ed resources. In these circumstances, Managua's abil-
ity to keep the economy afloat and consumption at
acceptable levels will increasingly depend on the
Soviet Bloc's willingness to continue to underwrite the
economy.
We see only a remote chance that the Sandinistas
would adopt measures needed to increase business
confidence and restore trade and financial flows from
the West. tolerance of
the private sector is only a short-term tactical accom-
modation. the Sandinista
leaders share a common economic goal-the creation
of a centrally controlled economy in a Marxist-
Leninist state.
As state domination continues to grow, the critical
shortage of managers and a growing official corrup-
tion will constrain the economy further.
government inefficiency is
rampant, particularly in retail and wholesale distribu-
tion channels and in state farms and industries.
According to US Embass state
graft is more prevalent now t an at any time in recent
memory.
In our assessment, the dismal economic situation will
become an increasing point of vulnerability for the
Sandinista regime. As living standards continue to
erode, we believe chances are growing that govern-
ment policy moves could spark more widespread
consumer reactions, including serious food riots or
even work disruptions over the next year. The growing
economic plight, particularly if combined with in-
creasing battlefield losses, will continue to erode
internal confidence in the Sandinistas, and could
eventually translate into increased popular support for
the insurgents. Moreover, based on tactics to date we
believe there is greater likelihood the Sandinistas will
be viewed by many Nicaraguans as both unresponsive
and repressive.
11 Secret
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Iq
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Sudan: The Economy
in Shambles
Sudan's Government continues to postpone urgently
needed structural reforms, opting, instead, for band-
aid economic measures that it hopes will allow it to
muddle through. Neither new aid nor a self-initiated
economic rebound appears likely, however, and the
Sudanese economy-or at least that segment support-
ed by government payrolls and subsidies-continues
to deteriorate. With supplies of essential commodities
dwindling and inflation soaring, the living standards
of a broad segment of the urban population is declin-
ing, increasing the threat of more strikes and protests
and the potential for serious political unrest.
Debt and Mounting Arrears
Sudan's official economy is virtually bankrupt. The
budget deficit is growing rapidly with total expected
1987 revenues of $1.1 billion and official expenditures
totaling $2.2 billion. Moveover, debt arrears total over
$2 billion-the 1987 debt payment alone is $815
million, or 74 percent of total revenues.
Khartoum hopes to cover some of the deficit through
foreign assistance, but the government's unwillingness
to address seriously the repayment of arrears totaling
over $400 million owed to the IMF has stymied
efforts to organize a new multilateral aid package.
Consultations between the Fund and the Sudanese
Government occur on a periodic basis, but, without
any meaningful reforms on Khartoum's part, these
discussions are likely to lead nowhere. As a result,
neither a Paris Club rescheduling nor a consultative
group meeting is likely in the near term.
Sudan's system of multiple exchange rates and con-
fusing foreign exchange regulations is causing the
government to lose revenues. Artificially high ex-
change rates have depressed exports, especially cot-
ton, which was the number-one export and foreign
exchange earner in the past. Cotton exports have also
suffered from crop losses and low world prices. Work-
er remittances through official channels have dropped
Sudan's Current Account, 1986-87 Million US $
Other 235 235
408 404
173 169
50 35
17 17
-815
346
a Estimated.
b Projected.
from approximately $30 million per month in 1981 to
about $4 million currently, in part because of the
unfavorable exchange rate offered recipients. More-
over, economic conditions in the Gulf states have led
to layoffs and wage cuts for foreign workers. Short-
ages of needed imported inputs have hurt industry,
which is operating at only 20 percent of capacity.
Living Standards Deteriorate
Meanwhile, the US Embassy reports that the cost of
living is the source of frequent complaints by residents
of Khartoum. Excessive government spending and
Secret
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5 December 1986
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Sudan: Cotton Production and Exports, FY 1979-86'
IMF
improvements
1979 80 81 82 83 84 85 86b
" Data for fiscal year (FY) ending 30 June.
b Estimated.
0 1979 80 81 82 83 84 85 86b
IMF
improvements
Sudan: Worker Remittances, 1980-87
shortages of consumer and industrial goods are fuel-
ing inflation, currently running at an annual rate of
70 percent.
Million US $
400
1980 81 82 83 84 85 86a 87b
Estimated.
Projected.
Shortages of fuel, electricity, meat, and other consum-
er items resulted in five days of student rioting in
Khartoum this fall. The government faces a growing
threat from both the approximately 1 million resi-
dents and perhaps another million squatters that have
fled civil war, drought, or famine. Currently, the US
Embassy reports that Khartoum food markets have
adequate supplies of local produce, but imported
commodities including canned goods, soft drinks, and
cigarettes are in short supply, obtainable only through
the black market. In outlying areas, away from
government price controls, commodities are available
but at much higher prices.
According to US Embassy reporting, Sudan's oil
refinery is temporarily shut down for lack of crude oil
supplies. Saudi Arabia, Libya, and other donors have
in the past supplied oil or funds to buy oil, but are
withholding further donations until Khartoum comes
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through with substantial economic reforms. Sudan,
with enough in storage to last only until the end of the
year, is scrambling to secure future petroleum
supplies.
Government Response
Aid donors are insisting on a comprehensive economic
reform package before they supply any more aid. Key
elements of this package include:
? Reform of the multiple foreign exchange rate
system.
? Reducing the budget deficit.
? Curtailing the system of commodity subsidation and
parastatal support, which drains government reve-
Sudan's economic prospects appear bleak for the
foreseeable future. The outlook for a rebound in
cotton earnings and worker remittances-two princi-
pal hard currency sources-remains limited by the
weak cotton market and poor economic conditions in
the Gulf states. Debt arrears recently triggered provi-
sions of the Brooke Amendment cutting off access to
new US economic and military assistance. Mean-
while, with government inaction, hard currency short-
ages will only continue to increase, further depressing
imports of commodities and heightening the risk of
civil disturbances. Currently, there are few signs that
the government can or will take significant steps to
Prime Minister Sadiq al Mahdi appears to lack the
will and the political skills to bring about the reforms
needed to revamp the Sudanese economy. A few of
the changes that have taken place so far-a slight
improvement in the exchange rate for exporters and
remittance transfers, and the sale of a few small
parastatals-are not far reaching enough to be effec-
tive. They are designed primarily to give donors and
the IMF the aura of progress. More significant
reforms are not under serious consideration at this
time because Sadiq fears a public outcry against the
austerity measures they would entail.
head off this deterioration.
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Ecuador: Coping With
Lower Oil Prices
Ecuador faces severe foreign payments problems and
constraints on growth of its oil-based economy in 1987
if international oil prices do not begin to rise by the
end of this year. The 1986 collapse in oil prices will
probably cost Ecuador more than $1 billion in antici-
pated export revenue this year. International credi-
tors-although increasingly concerned about Ecua-
dor's ability to meet its financial obligations-appear
willing to provide the support necessary to keep the
economy from plunging into a major recession. Presi-
dent Febres-Cordero responded to the economic crisis
in early August by implementing a series of reforms-
particularly of the foreign exchange system--de-
signed to reduce Ecuador's heavy dependence on
petroleum exports. Structural changes take time,
however, and the economic fortunes of the adminis-
tration will remain largely determined by oil price
fluctuations, availability of external financing, com-
modity prices, and ability of government institutions
to sustain the reform effort.
Shortly after coming to power in 1984, Febres-
Cordero enacted numerous free market reforms de-
signed to stimulate the economy and to attract foreign
investment. He eliminated or lowered direct and
indirect subsidies on many products, allowed domestic
interest rates to be determined by market forces,
reduced import duties, encouraged foreign direct in-
vestment through favorable profit and tax legislation,
and introduced plans to privatize certain state-owned
enterprises. Ecuador's economic performance im-
proved in 1985-GDP increased by 3.2 percent, and
inflation was reduced to 28 percent. Overall debt
service-including amortization-was reduced from
65 percent of exports to a more manageable 31
percent during 1985. In addition, Ecuador resched-
uled $4.8 billion in public-sector debt last December,
extending the repayment period to 12 years and
lowering the interest rate to 1.375 percentage points
Economic Squeeze
The drop in oil prices-from an annual average of $26
per barrel in 1985 to a projected average of $12 per
barrel this year-caused a major revision in Ecua-
dor's payments outlook, and in Quito's budget re-
sources. By late spring Quito had estimated it would
need $350 million in new foreign lending to cover the
financing gap in its balance of payments. In May the
United States provided a bridge loan to tide the
economy over the final stages of negotiations for an
IMF standby agreement completed in August.
The decline of oil prices will also cost the government
about one-fourth of its budget revenues. As a
consequence:
? Real GDP will grow about 1 percent this year,
? Debt service is projected at 45 percent of exports of
goods and services for 1986 and may reach over 50
percent by the end of Febres-Cordero's term in
office in 1988.
? The manufacturing sector may fail to grow at all
this year because of higher domestic costs of import-
ed industrial inputs, higher domestic interest rates,
and decreased domestic demand.
? The public-sector budget deficit will reach an esti-
mated 5.0 percent of GDP this year, forcing reduc-
tions in planned outlays for social programs.
In response to pressure from local exporters and in an
effort to obtain new foreign credits, Febres-Cordero
announced an economic reform package in August
designed to enhance Ecuador's international cre-
ditworthiness. The foreign exchange system was over-
hauled, unifying the official rate with that of the open
market-a devaluation of 35 percent. The Central
Secret
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Ecuador: Selected Economic Indicators, 1982-86
Agriculture
2.0
- 14.6
Balance of trade
146
940
1,055
1,147
380
Exports, f.o.b.
2,327
2,348
2,622
2,870
2,080
Imports, f.o.b.
2,181
1,408
1,567
1,723
1,700
Interest payments
767
714
849
787
788
Capital account
524
178
Net official international
reserves
-460
-58
Bank quickly intervened to prevent the value of the
sucre from decreasing too rapidly, but its recent
strengthening has minimized the need for further
government intervention. In addition, interest rate
ceilings on deposits and loans have been eliminated to
decrease capital flight and encourage savings. Import
duties on more than 150 items-raw materials, foods,
capital goods, and luxury items-have been lowered
by 50 percent to reduce smuggling and import costs of
selected items. Foreign exchange risk surcharges and
advance deposit requirements have also been removed
for imports.
These measures allowed Ecuador to conclude two
major financial agreements on 15 August-an IMF
standby accord and a compensatory financing facility
totaling $140 million, and an agreement with com-
mercial creditors to reschedule $1.4 billion of its
private foreign debt under more favorable terms. In
addition, the reforms facilitated the signing last
month of a syndicated commercial bank loan for up to
$220 million. The actual amount of the loan will
depend on the level of oil prices. This oil facility will
allow Ecuador to cover its 1986 payments deficit.
Impact of Reforms
The initial effects of the devaluation have favored the
export-oriented economy centered in the city of Gua-
yaquil-Febres-Cordero's home base of political sup-
port. According to US Embassy reporting, the value
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of nonoil exports jumped by 68 percent in one month,
with shrimp, bananas, coffee, and other agricultural
commodities accounting for the bulk of the increase.
Industrialists and manufacturers who depend on do-
mestic sales, however, have complained that the de-
valuation has made imported inputs more expensive,
driving up their production costs and retail prices.
Moreover, the industrial sector-which is located
mainly near Quito and consists primarily of textiles,
food processing, and assembly operations-has tradi-
tionally been highly protected.
Financial reforms have also put pressure on local
business interests by increasing borrowing costs. As of
October, local interest rates had increased 3 to 6
percentage points over August levels. According to
US Embassy reporting, banks are being urged by the
administration and the association of private banks to
refrain from hiking interest rates further. While there
has been no indication of an increase in savings
deposits resulting from higher interest rates, the local
business community has reacted strongly against
higher loan rates and tight credit. Many local busi-
nessmen are now blaming the government for the
economic slowdown caused by tight monetary and
credit policy, according to US Embassy reporting.
Economic prospects for 1987 depend on oil price levels
and the ability of adjustment measures to stimulate 25X1
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~f oil prices remain at $12 per barrel, 25X1
Ecuador faces an external financing gap of $168
million next year. Interest payments alone are project-
ed to reach an equivalent of 30 percent of exports.
Government officials have announced plans to renego-
tiate the terms of last year's rescheduling of public-
sector debt beginning 10 December in an effort to
ease the debt service burden, according to US Embas-
sy reporting. We believe that real GDP may increase
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by as much as 2 percent in 1987, based on prospects of
higher oil production and combined growth in agricul-
ture, fishing, and manufacturing.
Despite efforts to diversify the economy, the outlook
still depends heavily on world oil price trends. As a
result of the current OPEC production agreement,
Ecuadorean officials expect oil prices to reach be-
tween $16 and $18 per barrel. In addition, Ecuador
has privately stated its intention to produce at about
32,000 b/d above its OPEC production quota in order
to boost exports to 180,000 b/d. Even at $18 per
barrel, however, the probable rise in interest rates
would leave a $100 million financial gap to be
financed through external borrowing. If oil prices
were to plunge again, Ecuador would be faced with a
major financial crisis, requiring extensive new exter-
nal borrowing to cover deficits and continuous debt
reschedulings to meet interest payments. Highly un-
popular austerity measures would be required to rein
in the economy.
The IMF has recently added to pressure on the
administration by delaying disbursement of funds
under the standby agreement. According to US Em-
bassy reporting, Ecuador has failed to meet targets on
international reserves and domestic credit, and has
increased government expenditures, causing a marked
rise in the public-sector deficit. An IMF official told
the Embassy that the administration lacks the politi-
cal will to implement a serious adjustment program in
response to lower oil revenues. Although we believe
that Quito may get back on track with its targets by
early next year, relations with the IMF and interna-
tional creditors could become troubled again in 1987
if Ecuador fails to follow through with its austerity
measures.
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OPEC Production
Update
Energy
efforts to raise oil prices.
Preliminary data suggest that OPEC crude oil production averaged about 18
million b/d in November, an increase of about 200,000 b/d from October levels
and 1.3 million b/d over the November quota. Iran increased production by about
500,000 b/d after a sharp drop in October related to war damage, while Iraqi pro-
duction fell slightly because Saudi pipeline work curtailed exports to the Red Sea.
Despite continued calls for a price of $18 per barrel, the Arab producers-led by
Saudi Arabia-continue to produce above their quotas. As the OPEC ministers
prepare for the 11 December meeting, Saudi reluctance to lower output and
OPEC's unwillingness to address the problems of overproduction will hinder
OPEC: Crude Oil Production, 1986
November October November
Quota
Libya
a Iraq has no official quota; figure reflects
production at the time the quota was made.
b Includes production from the Neutral Zone.
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Iraqi Difficulties
Financing Pipeline
in Saudi Arabia
costs if necessary.
Iraq is having difficulty lining up financing for the construction of a second
pipeline across Saudi Arabia. According to the US Embassy in Baghdad, the three
firms-from West Germany, Japan, and Italy-bidding on the $1.5 billion project
are still trying to obtain financing guarantees from their respective export credit
agencies. The Embassy also reports that foreign subsidiaries of a US company
bidding to supply turbines were recently denied guarantees by Western export
credit agencies. Despite these problems, Iraq is likely to forge ahead with the
project-construction is scheduled to begin next spring-and pay higher financing
Argentina and Iran Argentine oil industry representatives were slated to visit Tehran this week to
Discussing Oil Trade
Tokyo Plans
Continued Cuts
in Coal Production
Secret
5 December 1986
discuss the purchase of up to 50,000 b/d of Iranian crude, worth up to $250
million a year at current world prices. Although Iranian officials are pushing
Argentina to redress a trade imbalance expected to reach $500 million this year,
Tehran is dangling the possibility of eventually doubling its purchases from Buenos
Aires if Argentina takes the oil, according to Embassy reporting. Buenos Aires is
reported to have balked at similar Iranian proposals in the past, but its need to di-
versify grain sales in the light of a sharp dropoff in Soviet purchases this year is
probably causing it to reconsider. A net oil exporter, Argentina would almost
certainly process any crude it purchased and resell it in regional markets.
MITI's Coal Industry Advisory Council last week recommended continued cuts in
Japan's domestic coal production-a policy Tokyo will probably adopt. Previous
coal policy aimed at supporting the highly inefficient domestic industry-and the
miners who live in remote areas with few other job opportunities-while slowly
phasing out domestic production. It appears this new plan will accelerate the
phaseout-an outcome pushed by Japanese coal users because foreign coal costs
two-thirds less than domestic coal. According to the report, domestic coking coal
production will be phased out completely by 1990 and steam coal production will
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New Brazilian
Debt Problems
be gradually reduced from 12 million metric tons currently to about 10 million
tons annually by 1991. As a result, MITI expects coal imports to increase by about
5 million tons by 1990. US firms, however, are not likely to capture much of the
increase because Canadian and, more so, Australian prices are more attractive. In
addition, China plans to use aggressive pricing tactics to boost its coal exports over
tow and new borrowing has virtually stopped, according to the Embassy.
A sharp decline in Brazil's trade surplus and growing domestic political pressure
may lead to another confrontation with creditors. The trade surplus dropped from
a monthly average through August of $900 million to $200 million in October-
only 25 percent of monthly interest payments on Brazil's debt. November's figure
is likely to be lower, according to press reports. Foreign investment is at a 15-year
Brasilia is rapidly drawing down international reserves -by as
Egyptian/IMF Talks
End Without
Standby Agreement
also be reluctant to devalue significantly to spur exports.
much as $3 billion in the fourth quarter-to meet debt servicing obligations. As a
result international bankers are publicly counseling Brazil to seek a new IMF
agreement. Leaders of the principal party in the governing coalition are demand-
ing a moratorium on debt service payments. Finance Minister Funaro says he is
prepared to negotiate but acknowledges the possibility of a moratorium as a last
resort. Brasilia probably hopes to negotiate a Paris Club accord soon to restore ac-
cess to official export credits, and it will probably approach commercial creditors
for lower interest payments or new money. Its longstanding opposition to a formal
IMF program, however, probably will impede a quick settlement with creditors.
Brasilia may centralize foreign exchange transactions, as it did in 1982, but is
unlikely to cut imports sharply in the face of domestic shortages. It probably will
Following inconclusive discussions in Cairo, the IMF now estimates that March
1987 is the earliest time by which a standby agreement and Paris Club
rescheduling can be negotiated. The IMF believes such a delay may cause severe
cash flow problems for Cairo and prevent it from funding critical imports and debt
payments. The Fund's extreme pessimism over closing the unfunded payments
gap, even with a standby program in place, together with its warning that a formal
standby may be inappropriate, suggests a hard bargaining stance by the IMF. As a
result, any quick resolution of differences between the two sides is unlikely. Cairo,
meanwhile, has made it clear that in the absence of a standby agreement it will
seek additional cash support from Egypt's friends. According to the US Embassy,
Egyptian officials expect as much as $500 million in new US aid. They also have
warned the US Ambassador that failure to support the Mubarak regime may
27 Secret
5 December 1986
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Comments on
Indonesia's
Balance of Payments
Panama Reaches
Compromise on
Debt Rescheduling
reschedule some of its $40 billion foreign debt by late 1987.
Foreign commercial bankers are concerned that Jakarta is not moving vigorously
enough to obtain up to $4 billion in loans from the IMF, according to US Embassy
reporting. At least this amount will be needed to help finance a current account
deficit that we calculate could reach $7 billion next year. The bankers believe that
the IMF loans, and the accompanying economic policy adjustments, are necessary
for Jakarta to maintain its good, but sagging, international credit rating and
continued access to foreign commercial credit. In the US Embassy's judgment,
Jakarta may delay the politically embarrassing step of seeking financial help from
the IMF until after the April 1987 parliamentary elections. Without IMF credits
or a sharp rise in world oil prices, we believe Jakarta will probably be forced to
World Bank to approve the loan and disburse the funds.
Panama and the World Bank have reached a compromise on the timing of
politically sensitive reforms of the social security system making disbursal of a
$100 million second structural adjustment loan (SAL) possible before the end of
the year. The US Embassy reports that only Cabinet approval is necessary for the
Delvalle should have little trouble achieving a quick
of $1.2 billion in maturities due between 1987 and 1990.
President and the Defense Chief time to line up the necessary support in the
legislature, which will consider the measures next March. Formal Bank approval
of the SAL package would allow disbursement of the final $39 million of the
commercial bank refinancing of 1985-86 public-sector debt this month. This new
World Bank and commercial creditor financing will enable Panama to meet the
public-sector deficit target contained in the current IMF standby accord. Delvalle
would then be able to resume negotiations with creditor banks for a rescheduling
consensus within the Cabinet. The compromise with the Bank will give the
World Bank Suspends The World Bank recently has suspended new credits to Kampala, cut off the
New Credits to Uganda remaining $4 million of a $35 million industrial-sector project, and criticized
President Museveni's policies as obstacles to economic rehabilitation, according to
US Embassy reporting. The government has increased interest rates only slightly,
leaving them well below the rate of inflation; has introduced a single exchange rate
that effected a 300-percent revaluation; and has programed spending that will
increase the FY 1986/87 budget deficit to three times the record level of FY
1985/86. Although Western donors and some of his own advisers have repeatedly
warned Museveni of his policies' detrimental effect on aid flows and the economy,
he remains wedded to his expressed desire to protect the "little man" and he is still
strongly influenced by xenophobic, leftwing ideologues in the government. As a
result, he probably will intensify efforts to garner aid from Third World and
Eastern Bloc sources.
Secret
5 December 1986
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Senegal's New
IMF Agreement
brotherhoods-that are profiting from the present system.
The IMF approved a new $90 million standby agreement and structural adjust-
ment facility for Senegal in mid-November. The agreements are designed to
bolster Dakar's ambitious FY 1986/87 economic reform program, which aims at
boosting economic growth to about 4 percent, lowering inflation from 9 percent to
less than 7 percent, and reducing the current account deficit from an estimated
13.2 percent of GDP in 1985/86 to about 9 percent of GDP, according to press re-
ports. To reach these goals Dakar is planning to increase incentives for agricultural
production, renew efforts to collect back taxes, and privatize some parastatals.
Senegal's peanut exports-its major source of foreign currency-have in recent
years suffered from prolonged drought and an insect plague. In our view, the
ability of Senegal's farmers to rebound from these natural disasters is one key to
the success of the economic reform program. Dakar also faces a tough battle in
selling the reform measures to powerful interest groups-such as the Islamic
Secret
5 December 1986
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France Halts
Soviet Oil Purchases
Japan Limiting
Commercial Ties
to Cuba
their way to France through other West European countries.
The French Government has temporarily suspended imports of oil and oil products
from the USSR to protest against France's growing trade deficit with the Soviets.
French Trade Minister Noir stated that the embargo will last into early 1987. The
French trade deficit with the USSR is expected to increase to about $1.2 billion
this year from about $770 million in 1985. The move-which does not affect
natural gas, France's main Soviet import-is part of a long-running trade dispute
between the two countries. While the suspension will send a signal to Moscow, the
Soviets will probably have little difficulty finding other buyers-due to the
competitive price of their oil-and some Soviet oil and products will probably find
The Japanese Ambassador to Cuba told the US Interests Section recently that
MITI had cut the term of export insurance sales to Cuba from one year to six
months. The move follows a visit to Japan last month by the president of the Na-
Japanese exports to Cuba have risen
Secret
5 December 1986
developing countries, except those willing to barter.
markedly since 1984, when Tokyo resumed export insurance sales. Cuba's recent
failure to meet its debt payments, however, together with Tokyo's reduction of
export insurance, may dampen the enthusiasm of Japanese exporters to trade with
Cuba. Havana is trying to compensate for its declining hard currency trade with
the developed West by looking increasingly to South American suppliers such as
Brazil. Cuba's money problems, however, probably will also hinder trade with
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Secret
Hong Kong Imposes On 21 November Hong Kong imposed sanctions against South Africa that will
Limited Economic have little effect on their bilateral economic ties. The territory banned crude iron
Sanctions Against and steel imports, asked for a voluntary ban on new investments in South Africa,
South Africa and officially discouraged tourism. The ban excludes existing trade contracts and
imports of finished steel and iron products, and landing rights of South African
Airways. Furthermore, the Hong Kong Government refused to ban coal imports-
Hong Kong's largest import from South Africa-that were worth $91 million last
year. This coal provides 40 percent of the territory's needs and accounts for 5 per-
cent of Pretoria's coal exports. Hong Kong could buy more coal from China, but
the territory's two utilities want to retain their low-priced long-term contracts with
South Africa. Hong Kong Government officials have privately acknowledged to
US Consulate officers that the sanctions are largely symbolic. Moreover, the
officials admitted, Hong Kong lacks the enforcement capability to ensure compli-
Canadian Financial
Reforms To Limit
Access
National Developments
Developed Countries
federal plans focus partly on promoting domestic competition, foreign-
The province of Ontario and the federal government are planning to expand bank
participation in the securities industry as a step toward broader financial services
reform, but foreign firms will face capital and investment restrictions. The Ontario
Securities Commission has delayed the release of draft regulations for 1987 that
were expected to allow Canadian financial institutions to acquire up to a 50-
percent stake in securities dealers. Dealers pressing for limits closer to 100 percent
have prompted Ontario to reconsider. The regulations are also expected to keep
foreign investment below a 30-percent share in each firm and foreign capital below
30-percent in the securities industry as a whole. Each wholly-owned foreign
subsidiary will probably be limited to a 1.5-percent capital stake in the securities
industry. Ottawa's State Minister for Finance has said that federal proposals, to be
announced later this year, will accommodate greater bank participation in
securities, but will also strengthen regulation of the banking system and keep it
competitive in fast-changing financial services markets. Although provincial and
participation will remain limited until Canadian officials believe domestic
institutions can compete effectively.
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5 December 1986
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Japanese Steel
Facing a Bad Year
Secret
5 December 1986
90- to 95-million-ton range next year.
Japan's steelmakers are moving to stem the mounting flow of red ink. The five ma-
jor Japanese steel companies estimate their combined losses at $250 million during
the first half of the fiscal year (FY) that ended on 30 September, twice the losses
suffered in the recession during FY 1983. Moreover, most Japanese steelmakers
believe the situation will worsen as the year goes on. Industry spokesmen attribute
the losses chiefly to the yen's sharp appreciation, which has cut the yen price of
steel and triggered an increase in Japan's steel imports. To cut the losses, Japanese
steelmakers are reducing executive bonuses, laying off workers, and shifting
production to more profitable product lines. Production is also being cut back;
output this year probably will reach only about 98 million metric tons compared
with over 105 million in 1985. Dividend payments have been suspended for the
first time since 1978. Despite these efforts, the second half looks bleak. Production
is running at an annual rate of only about 95 million tons, down 5 million tons
from the levels prevailing early in the year. In addition, domestic steel prices will
probably be lower during the second half of the year as imports and the strong yen
continue to apply steady pressure. The longer term outlook also is poor. Industry
analysts report that the major companies believe production could remain in the
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Secret
West Germans Prepare
for Crucial Wage
Negotiations
Irish Industry
Urges Deficit
Reduction
to last time had only a modest impact on hiring.
One week before the beginning of formal wage negotiations in the auto and
mechanical industries-which will set the tone for most other wage negotiations-
the employers' association rejected the IG-Metall union's demand for a 3.5-hour
reduction in the workweek with no cut in pay. Citing the recent forecast by West
Germany's Council of Economic Advisors of only 2.2-percent economic growth in
1987, the employers' spokesman ruled out discussions of nonpay issues in the face
of economic slowdown. The union, however, is arguing that a shorter workweek is
necessary to cut unemployment, which is still above 2 million. The union will have
a difficult time achieving its goal in this pay round, in part due to new legislation
that makes it much more costly to implement selective strikes-a strategy that was
crucial to labor's partial success in the 1984 round. The union position is also
weakened by the OECD's conclusion that the 1.5-hour workweek reduction agreed
The Confederation of Irish Industry (CII) is calling for urgent action to reduce the
public deficit. The CII argues that Ireland's high budget deficit and massive
national debt-8.5 and 145 percent of GNP, respectively-are stifling manufac-
turing output and investment. In addition, spokesmen say industry has lost
competitiveness because of the weakness of the US dollar and the British pound,
the currencies of Ireland's major trading partners. The CII called on Dublin to re-
duce the deficit by $540 million-2.5 percent of GNP-in each of the next two
years, and to make similar reductions in future years until the deficit is eliminated.
The industrialists are also urging Dublin to allow private investment in state
33 Secret
5 December 1986
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Fine Gael-Labor coalition and force early elections.
enterprises, to cut electricity and telecommunications charges, and to suspend
social insurance payments on new employees-measures that, paradoxically,
would worsen the deficit. The government is considering the CII recommendations
but is likely to balk at large spending cuts that could disrupt the one-seat majority
Less Developed Countries
Brazil's Ambitious Brasilia's effort to keep inflation in check will be undermined by the government's
Development Plan
Mexico Outlines a
Growth Budget
turn the chronic budget deficits into a surplus by 1989.
national development plan, which aims to increase investment to spur long-run
growth. Announced by President Sarney in July, the $100 billion program is
designed to create 1.6 million new jobs per year and sustain an average annual
GDP growth rate of 7 percent through 1989. According to press and US Embassy
reporting, the new National Development Fund will be financed by new surtaxes
on luxury goods. The Fund was expected to raise $1 billion in seed money in 1986,
half earmarked for social development projects-nutritional, educational, and
housing programs for the poor-while the remainder would be targeted for
infrastructure investment. Despite the goals, the US Embassy reports that the
government will have difficulty raising even $500 million through these tax levies
in 1986. The likely resort to borrowing from the Treasury to provide startup
funding for the program would increase inflationary pressures. Moreover, the
government's pursuit of ambitious social goals runs counter to Brasilia's pledge to
the 1988 presidential election approaches.
Mexico City has announced it will increase spending by more than 100 percent
next year in an effort to stimulate the economy, but high domestic and foreign
debt payments will siphon off more than one-half of the total outlay. According to
Mexican officials, the new budget emphasizes large, labor-intensive construction
projects and public works. To help finance higher expenditures, policymakers will
count on lower tax rates and larger writeoffs to encourage private spending and
thus expand the tax base. Meanwhile, according to the US Embassy, President de
la Madrid is publicly stressing his resolve to cut inflation and domestic interest
rates next year. Stubbornly high inflation and interest rates will dampen the
effectiveness of these policies. Privately, Mexican officials have already lowered
GDP growth estimates from 3 to 4 percent to 2 percent. Chronic problems with tax
collection and the private sector's failure to respond to tax incentives would derail
efforts to reduce the budget deficit. De la Madrid recognizes that tougher
measures are needed, but such economic decisions will be increasingly difficult as
Venezuelan Economic President Lusinchi is considering new stabilization measures, according to the US
Secret
5 December 1986
Embassy, but may be unwilling to take the tough actions needed to restore
equilibrium to Venezuela's deteriorating economy. The shortfall in oil revenues for
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Secret
1986 has caused the Central Bank's foreign exchange reserves to decline almost $3
billion from the $13.7 billion level of last December and has widened the
government deficit. Embassy sources say measures under consideration include
devaluation and increases in the price of public-sector goods and services, but
Lusinchi has denied rumors he will authorize a sharp devaluation. He is concerned
about the potential inflationary impact of such unpopular measures on his major
political constituency-organized labor. He may opt for partial fixes such as a
small devaluation and limited increases in the prices of gasoline and electricity. To
compensate labor for such price increases, Lusinchi may mandate increases in
fringe benefits, but he is likely to resist demands for across-the-board pay hikes out
Peruvian Economic
Growth Continues
North Yemeni
Economic Pressures
Building
of fear of triggering a wage-price spiral.
Peru's GDP rose 6.9 percent in the first nine months of 1986 as compared with the
same period last year, according to preliminary figures. Most observers believe
robust growth will continue at least until mid-1987, largely because of anticipated 25X1
gains in consumer spending. President Garcia's strategy of granting real wage
increases-the minimum wage has doubled since he took office in July 1985-has
allowed the economy to compensate for a 20-percent drop in exports and a near
standstill in net foreign lending. Garcia warned a domestic business congress
recently, however, that the economy will lose momentum in late 1987 unless the
private sector begins to invest soon. Although business leaders reportedly share his
views, we believe Garcia's efforts to persuade industrialists to repatriate flight
capital and expand their operations will fall short unless he can offer them tax
breaks or provide greater legal assurances that business can retain their profits and
assets over the long term.F__~ 25X1
President Salih may accept the resignation of Minister of Economy Wajih to
mollify North Yemeni businessmen critical of the government's handling of the
economy. Wajih, the focus of growing discontent over deteriorating economic
conditions, tendered his resignation last week after the government closed down
more than 100 stores and moneychangers for not complying with foreign exchange
and pricing guidelines Yemenis protested
vehemently last month against storeowners who had not complied with the
guidelines. military personnel and civil
servants are also unhappy with the pricing system at government-run commissaries
and are leaving government service in growing numbers. Wajih's resignation
would only temporarily satisfy Salih's critics. The government will be unable to
improve the country's economic situation until at least 1988, when it expects to be-
gin earning money from oil exports. Salih's hold on power remains firm, but he is
likely to face increasing challenges, especially if the military is hurt by his
35 Secret
5 December 1986
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Secret
Businessmen Exit
Afghanistan
Malaysian Bank
Recovery Plan
Will Hurt Chinese
China and Britain
Continue Progress
Over Hong Kong
Secret
5 December 1986
approximately 130 Afghan business- 25X1
men with significant holdings have left the country with their assets since General
Secretary Najib's ascension to power in May. Other businessmen still in Kabul 25X1
have transferred their assets to financial institutions in the West in recent months,
according to the US Embassy. businessmen feel
that, even though Najib so far has not changed government policy, it is only a mat-
ter of time before he begins to nationalize the private sector. The exodus of
businessmen is undoubtedly hampering the regime's efforts to stimulate new 25X1
private investment. Many of the businessmen were involved in foreign trade and
foreign currency exchange. The regime will probably find it more difficult to
maintain a continuous flow of needed imports, and foreign exchange is likely to be
in short supply as well. 25X1
MCA.
Kuala Lumpur's plan to resolve the financial problems of deposit-taking coopera-
tives (DTCs) will hurt Malaysia's Chinese community at a time of growing ethnic
tensions, according to the US Embassy. The Central Bank suspended operations of
24 DTCs last July after discovering massive bad loans and insider dealings. The
government announced last month that only one DTC will be allowed to reopen
and two will be liquidated. Depositors of the remaining DTCs will receive only 60
to 80 cents on the dollar and have limited access to their funds for a three-year
period. By choosing not to bail out the DTCs-used predominately by Chinese
depositors-Kuala Lumpur has fueled the discord caused by the government's
official economic policy of favoring ethnic Malays. It has also embarrassed the
leadership of the Malaysian Chinese Association (MCA), the major Chinese
partner in the ruling coalition, because the largest of the DTCs is run by the
maintain business confidence in the territory.
Last week's meeting of the Sino-British Joint Liaison Group resolved several issues
left unsettled by the Hong Kong accord:
? Hong Kong will maintain its associate member status in the International
Maritime Organization. The two sides also agreed on the methods for continuing
the maritime conventions applicable to Hong Kong.
? Hong Kong will continue its participation in the International Telecommunica-
tions Union and will run its own telecommunication services after 1997.
? Use of Hong Kong Certificates of Identity will continue after 1997, easing the
concerns of the roughly 1 million Hong Kong residents who use this international
travel document.
? A pension scheme for civil servants was discussed to maintain the stability and
efficiency of Hong Kong's civil service.
The steady progress being made at the Joint Liaison Group meetings has helped to
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Secret
China Experimenting
With Bankruptcy
reaction to widespread job losses.
A new bankruptcy law enabling Beijing to close down debt-ridden state factories is
an attempt to improve industrial efficiency and reduce state subsidies. In contrast
to the original, hotly debated version reviewed by the National People's Congress
last June, the new law approved last week applies only to state-owned enterprises
in selected cities. Press articles indicate that the new law differs significantly from
Western concepts of bankruptcy-assets of closed enterprises will remain state
property and the government will play a major role in relocating workers. This
weaker version-apparently the first in a set of industrial reforms with which
Beijing will experiment in 60 cities-will help the leadership assess and, if
necessary, refine its policies before implementing them nationwide. Beijing will
probably use the bankruptcy law as a club to compel factories to improve
operations and accept further reforms. The leadership is not likely to shut down
many enterprises any time soon because of concern about the possible public
Secret
5 December 1986
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