(UNTITLED)

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP86T00589R000400490005-6
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 20
• Document Creation Date: January 12, 2017
• Document Release Date: September 30, 2010
• Sequence Number: 5
• Publication Date: December 1, 1985
• Content Type: REPORT

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ALA 85-10123
CR 85-16137
SW 85-10132
December 1985
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Directorate of
Intelligence
New Administration
Peru: Challenges Facing the
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Directorate of Secret
Intelligence
New Administration
Peru: Challenges Facing the
Office of African and Latin
American Analysis; Office of
Central Reference; and Office of
Scientific and Weapons Research. It was
coordinated with the Directorate of Operations.
Comments and queries are welcome and may be
directed to the Chief, South America Division, ALA,
This paper was prepared by
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ALA 85-10123
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SW 85-10132
December 1985
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Peru: Challenges Facing the
New Administration
Key Judgments Since inaugurated last July, President Alan Garcia--a center-left social
Information available democrat-has launched numerous initiatives aimed at alleviating Peru's
as of I November 1985 pressing national problems, which include a deteriorating economy, a
was used in this report.
persistent leftist insurgency, and an expanding illicit narcotics industry.
Garcia's populist appeal and flair for the dramatic have gained him
unprecedented public support and have muted criticism from the country's
most important interest groups-the military, the legitimate far left, and
labor.
Garcia is determined to reverse Peru's financial decline. Inflation is
nearing an annual rate of 200 percent, the budget deficit has swollen to 10
percent of GDP, and exports are declining while capital flight is accelerat-
ing. To meet these problems while still addressing his campaign pledges to
raise the living standards of the poor, Garcia is implementing a highly
nationalistic and socially oriented program that seeks to reactivate the
domestic economy through internal market development. To increase
revenues to fund his programs, Garcia has decreed that Lima will limit
payments on the country's $14 billion debt to 10 percent of exports over the
next year and will not seek a stabilization agreement with the International
Monetary Fund.F_~
The US Embassy believes Garcia is a pragmatist who understands that he
cannot produce sustained economic growth-and hence maintain his
domestic popularity-without US assistance and private capital invest-
ment. Thus, if Peru's financial fortunes continue to decline during his first
year in office-which we see as likely-the odds are better than even that
Garcia will shift course and adopt a more traditional economic program
involving tighter fiscal and monetary policies. We do not discount the
possibility, however, that a worsening economic situation could lead the
President to adopt more radical positions that include 25X6
increased government spending for investment and assistance programs.
Garcia's bold antinarcotics efforts include firing many corrupt senior police
officials and authorizing joint antinarcotics operations with security forces
from Colombia and the United States. We believe there will be continued
progress in this area because the President is personally committed to the
antinarcotics struggle. He has strong domestic support on his stand. He
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ALA 85-10123
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also desires to promote an issue that will strengthen his leverage with
Washington. Garcia will have to take on the more volatile issues of
immobilizing Peru's trafficking kingpins and significantly reducing coca
cultivation if he is to permanently damage the illicit cocaine industry.
On the insurgent front, Garcia has followed a dual approach. While
authorizing continued counterinsurgency operations, Garcia has publicly
called to account military personnel accused of human rights violations,
promised to devote substantial economic resources to civic action programs,
and formed a peace commission to examine possibilities for a negotiated so-
lution. We believe Garcia's strategy has potential, but, to succeed, the
government will have to follow through on its promises to address the broad
range of social and economic problems that have helped fund the insurgen-
cy. Increased government spending on rural agricultural projects and other
programs for improving the well-being of peasants and urban slumdwellers
could begin to undercut popular support for the insurgents, but Garcia is
unlikely even under the best circumstances to come up with the massive
funding for social and economic programs that we believe would be
necessary to rally the populace against the guerrillas.
Garcia has moved quickly to implement a Third World-oriented foreign
policy that is markedly less pro-United States in tone and substance than
that of his predecessor. On Nicaragua, for example, Garcia has blamed
Washington publicly for confusing a popular revolution with Soviet
penetration, and has outspokenly opposed the use of economic sanctions or
other coercive measures against the Sandinista regime. Garcia is not
viscerally anti-American and has in fact expressed admiration for the
United States' democratic system and its economic achievements. His
understanding of the United States is superficial, however, and is strongly
influenced by his party's historically "anti-imperialist" ideology
Although Garcia has toned down his anti-US rhetoric somewhat since
taking office, we anticipate he will continue to foster the image of conflict
with Washington on occasion, both to distract public opinion from the
economic "castor oil" the nation is being asked to swallow, and as part of
Garcia's effort to carve out a position of nonaligned leadership for himself.
Garcia hopes, for example, that his confrontational approach on the debt
issues will propel him to the forefront of Latin American diplomacy.
Garcia and Fidel Castro have rivaled each other for leadership on the issue
however, and few Latin leaders have rallied behind either's approac
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The Soviet Union has had important equities in Peru since the early 1970s,
and Soviet officials are optimistic that with Garcia in power they can
expand their involvement.
is actions already are
a or mg the oviets new opportunities. arcia has solicited-and ob-
tained-offers for expanded Soviet military and technical training, as well
as additional equipment. Moreover, he stated before his election that he
hoped he could rely on Moscow and its allies for economic assistance if
Western creditors proved inflexible.
We believe that Garcia's strong nationalism and the ruling party's anti-
Communist tradition will act as a brake on the degree to which his
administration will align itself with Moscow. If Peru is unable to reach an
accommodation with foreign creditors and the economy takes a nosedive,
we believe Garcia might turn increasingly to the USSR for economic and
other assistance. We expect Moscow would increase its development aid,
purchase more Peruvian commodities, and encourage the assimilation of
Peru into Bloc economic relationships. Such a response would bolster
Soviet prestige in the eyes of many Peruvians and would reatl strengthen
Moscow's prospects for making new inroads in Peru
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Contents
Key Judgments
Domestic Challenges
The Insurgent Threat
The Illicit Cocaine Industry
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Peru: Challenges Facing the
New Administration
Alan Garcia's assumption of the presidency on 28
July 1985 began a new phase in Peru's five-year-old
experiment with democracy. His inauguration-only
the second peaceful transfer of power between civilian
administrations in Peru during this century-marks
the first time the center-left American Popular Revo-
lutionary Alliance (APRA), the country's oldest and
largest political movement, has headed the govern-
ment since the party's founding in 1924. Garcia's five-
year term is widely viewed by Peruvians as a test of
whether the country's intractable socioeconomic prob-
lems can be remedied by reform or whether more
drastic solutions (which either the far left or the
military would offer) will eventually prove necessary.
Garcia, a handsome 36-year-old and a spellbinding
orator, captured international attention and the
imagination of his countrymen during his run for the
presidency. He has maintained strong popular back-
ing during his first four months in office while
grappling with a host of formidable difficulties. On
the economic front, Garcia publicly admitted that
Peru's inflation may reach 250 percent by the end of
this year. The recent declaration by US authorities
that Peru's debt to US commercial banks was "value
impaired" will further complicate Lima's efforts to
obtain the resources needed to reactivate the econo-
my. Security problems are also serious. Over the past
year, the growing appeal to Peruvian youth of revolu-
tionary solutions was underscored by the emergence
of two new terrorist organizations and expanded
operations by the entrenched Sendero Luminoso
(Shining Path) guerrilla group. At the same time,
illicit narcotics trafficking is on the increase.F__1
Domestic Challenges
The Economy
The President's most formidable challenge is the
rapidly deteriorating economic situation. By the end
of August-a month after Garcia's inauguration-
domestic inflation was running at 184 percent annual-
ly, and two-thirds of the 6.5 million workers were
either jobless or employed in irregular work, accord-
ing to the US Embassy. Paying the foreign debt has
been increasingly difficult because of stagnating ex-
ports and increasing capital flight. The country's
debt-servicing obligations rose from $1.7 billion in
1979 to $2.5 billion last year, and the ratio of debt
service to exports reached 76 percent by the end of
1984.F__1
To remedy this situation, Garcia has charted a course
that emphasizes highly nationalistic economic policies
aimed at restoring growth and reducing foreign de-
pendence. We judge Garcia's intent to be a self-
imposed stabilization program, similar to those in
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Colombia and Venezuela, that would win support
from foreign lenders without the need for a formal
IMF adjustment program:
? Externally, Garcia has limited debt servicing to 10
percent of export earnings over the next 12 months,
promoted joint action among Latin debtors to secure
easier repayment terms, strengthened controls over
foreign investment, and tightened exchange controls
to bolster exports and reduce imports.
? Domestically, Garcia has stressed agricultural de-
velopment so as to eliminate food imports and has
encouraged import substitution behind tariff barri-
ers to reactivate industry. According to the US
Embassy, Lima will try to redistribute income and
reduce unemployment by obtaining funding from
international organizations for employment pro-
grams focused on housing, health, transportation,
and agriculture. He has promised tax incentives to
industrialists who hire more workers. To stabilize
the economy, Garcia wants to increase taxes on
wealthy individuals and corporations and to balance
the budget by tighter planning.0
Garcia has moved swiftly to try to restore growth,
improve social welfare, and reduce foreign dependen-
cy, but-in our judgment-his piecemeal approach
falls short of a coherent reform agenda. To bolster
living standards and attack inflation, he lowered
domestic interest rates, froze rents, and put price
controls on staples for 90 days. He also granted wage
hikes to mollify workers and promised technical and
financial assistance to farmers. To reduce capital
flight, Garcia froze dollar deposits for 90 days and
devalued the currency 12 percent. He placed import
controls on 300 items to protect industry and foreign
exchange. He sought to reduce the government's
budget deficit by reducing salaries of top officials,
freezing government hiring, and taking steps to re-
structure the management of the state oil monopoly.
A major problem for Garcia will be reconciling his
desire for social programs for the country's poor with
the need to reduce the budget deficit. We concur with
the US Embassy that Garcia has provided mixed
signals about the direction of his fiscal policy. While
forcing most cabinet ministers to reduce expenditures,
he has promised additional spending on high-priority
projects, such as development funds for the guerrilla-
infested emergency zones. His agricultural assistance
program is not well defined and could also cause
significant budgetary overruns. Finally, Garcia's suc-
cess in controlling spending hinges on his ability to
limit arms purchases, traditionally one of the largest
components of the government budget
Garcia's anger with
foreign creditors over their alleged inflexibility re-
garding Peru's debt is the driving force behind his
current stance on debt repayment. The President has
yet to formulate repayment schedules, and the US
Embassy believes he may copy Bolivia by dribbling
out payments to multilateral institutions and then to
government donors. Finance Ministry officials have
requested that all longer term debt maturities be
extended through January, according to US Embassy
and press reports. A representative of the foreign bank
steering committee for Peru has visited Lima to
discuss current debt policy on interest payments, but
Garcia's hostile public posture is impeding the re-
sumption of negotiations. F-7
We believe it will be extremely difficult to revive the
economy without the help of the Western banking
community.
many US and West European
banks have repeatedly insisted they will permit no
debt rescheduling until Peru accepts an IMF-support-
ed economic stabilization program. Moreover,
many bankers view Garcia's
unilateral cap on debt repayment as a dangerous
precedent, and as a result, some US regional banks
are downgrading their Peruvian loans. Overall, credit
lines for Peru have fallen by one-third to $200 million
since Garcia's inauguration.
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Principal Insurgent Organizations
Sendero Luminoso (SL)
? Peru's largest and most powerful insurgent organi-
zation with approximately 1,000 to 1,500 armed
militants.
? Maoist oriented, shuns contact with foreigners and
all indigenous political organizations.
? Founded and controlled by Abimael Guzman, a
former professor, whose goal is to launch a rural-
based revolution with Marxist activists leading
peasant forces against the central government in
Lima.
? Operates almost on a nationwide scale but with
principal manpower concentrations in Lima; the
southern departments of Ayacucho, Apurimac, and
Huancavelica; and the upper Huallaga River valley
in northern Peru. l
tion of MRTA, or possible front group for MRTA.
People's Revolutionary Command (CRP)
? Began operations in July 1985.
? Unclear whether new organization, breakaway fac-
Revolutionary Movement Tupac Amaru (MRTA)
? First appeared in September 1984 although claims
responsibility retroactively for several terrorist inci-
dents in 1983.
? Open to foreign and domestic support; possibly
receiving some aid from Communist Party of Peru
(PCP); no evidence of any direct support from
Moscow, although several suspected leaders are
former Peruvian guerrillas from the mid-1960s
with extensive contacts to Havana and Managua.
? Operates mainly in Lima and southern Department
of Cusco.
Sendero Luminoso, which re-
lion property damage last year,
The Insurgent Threat
Garcia's economic difficulties are compounded by
widening insurgent violence that caused over $1 bil-
mains by far the most potent guerrilla movement,
expanded its rural areas of operation last year. Both it
and the Revolutionary Movement Tupac Amaru
(MRTA) have improved their capability for urban
terrorism against the police, government officials, the
diplomatic community, and other foreigners. The US
Embassy reports that there is no persuasive evidence
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of cooperation between Peru's two major insurgent
groups, but guerrilla actions last summer indicated
that each group has mastered the ability to attack a
number of targets at once.
So far, Garcia has indicated he plans to negotiate with
insurgents seeking a peaceful solution but will imple-
ment a vigorous counterinsurgency campaign against
those who refuse his overtures. He has consistently
condemned terrorism, cracked down on human rights
abuses by security forces, and called for reform of the
country's woefully inefficient criminal justice system.
In numerous speeches, Garcia has emphasized civic
action and economic development so as to lessen the
insurgents' appeal to the long-neglected peasantry.
In August, the MRTA publicly announced it was
halting armed actions against the government and
APRA. The group's primary purpose, in our view, was
to recapture the public relations initiative from the
President. This tactic is in line with its strategy, which
centers on maintaining a positive public image. In
early November, however, MRTA members attacked
foreign businesses and government security forces in
Lima. Moreover, the group has made a number of
demands-including amnesty for jailed terrorists and
termination of the current state of emergency-that
the Garcia government almost certainly will not ac-
cept. Although Garcia appears disposed to negotiate
with the MRTA, we believe he will not hesitate to
approve harsh military reprisals against the organiza-
tion if he concludes that it is irrevocably committed to
armed struggle.
In contrast, Sendero Luminoso has stated publicly
that the change in administrations will not affect its
war against the government. The group attacked
APRA officials and facilities immediately after Gar-
cia's electoral victory and has since staged various
operations in Lima and elsewhere. US Embassy re-
porting indicates that neither Garcia nor his top
advisers hold any hope for a negotiated settlement
with Sendero Luminoso and will pursue a strong
counterinsurgency effort.
The Illicit Cocaine Industry
Garcia inherits a burgeoning, illegal narcotics indus-
try that exerts strong political and economic influence
throughout the country. The industry employs thou-
sands of Peruvians in the cultivation, production, and
trafficking of coca leaf and its derivatives: paste, base,
and cocaine hydrochloride. The President's public
statements underscore his belief that illicit drugs
threaten the nation's youth, severely retard national
development, and create institutional corruption. He
asserts that the traffickers' control of many rural
areas undermines Peru's national security. Garcia
called for a national drive against narcotics during the
election campaign and was the only presidential can-
didate to visit university campuses to urge students to
abstain from drug use. Since his inauguration, the
President has vowed to press the fight until neither
traffickers nor users are left in Peru.F___1
Garcia has moved boldly to match his rhetoric with
concrete actions. In August, he authorized the first
joint Colombian-Peruvian-US antidrug operation-
one of the largest raids in over a year against South
American processing centers. The action resulted in
the seizure of two cocaine laboratories, five modern
aircraft, and assorted arms and communications
equipment worth an estimated $500 million, accord-
ing to press reports. The US Embassy expects intensi-
fied antinarcotics raids to continue both in northeast-
ern, and possibly southern, Peru. In addition, Garcia's
Interior Minister told the US Ambassador that Peru's
narcotics strategy will emphasize regional unity.
Toward this end, Lima will push for antinarcotics
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those already in effect with Colombia and Bolivia.
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The centerpiece of the government's campaign has
been a sweeping crackdown on official corruption.
According to the press, Garcia has dismissed some
200 senior police officials for suspected narcotics
involvement and for incompetence and has promised
to remove many others. He also is attempting to form
a single, national police force from the country's
disparate services. The US Embassy reports the ad-
ministration also plans to reorganize the judiciary,
prepare tougher drug laws, and consolidate all anti-
drug efforts into one agency. Garcia probably hopes
that these moves not only will facilitate the war
against the traffickers but will prevent resumption of
the rampant corruption that exists within the police
and other government antidrug agencies.F___-]
some 3 percent of total cultivated area.
According to the US Embassy, Garcia's advisers
formulated a land reform and crop substitution pro-
gram during the election campaign that envisioned
using financial incentives to attract coca farmers to
areas more suited to the cultivation of legal crops. In
our view, such a program would require substantial
increases in funding and would be difficult to imple-
ment. Moreover, we believe that, despite the govern-
ment's inducements, few farmers will sacrifice the
huge profits of their illicit coca crop. To date the
government has proceeded with manual eradication
efforts but has yet to intensify such programs. At the
present rate, we believe the government is likely to
eradicate about 4,000 hectares of coca this year-only
The President's commitment to the antinarcotics
struggle apparently already is drawing strong reaction
from the traffickers: Garcia believes his police reform
measures have generated death threats against him
and his family. In addition, the US Embassy reports
that the narcotics mafia, in response to the joint
antinarcotics operations that are interfering with co-
caine trafficking out of northern Peru, is planning
retaliatory actions against both Peruvian and US
officials.)
Garcia is not likely to be deterred, however, from
pressing forward with his antinarcotics measures.
implicated-including any member of the ruling par-
ty-would be brought to justice and prosecuted to the
full extent of the law. 25X1
the President recently stated that he 25X1
was particularly pleased with the positive internation-
al press treatment he was receiving for his efforts. We
believe Garcia's personal commitment to the antinar-
cotics struggle, the strong support he is receiving
domestically for his initiatives, and his desire to 25X1
promote an issue that will strengthen his leverage with
Washington augur well for continued progress in this
area. 25X1
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Contrasting Policy Toward Cuba and Nicaragua
Since July, rivalry between Garcia and Cuba's Fidel
Castro over competing debt strategies has undercut,
in our view, the Peruvian leader's effort to monopolize
the subject and probably will delay long-rumored
plans to upgrade relations between Lima and Havana.
Garcia is
perturbed with Castro and is determined not to let the
Cuban leader usurp the issue. In public speeches, he
has hinted at Castro's hypocrisy in calling for a debt
moratorium because Cuba has no substantial debt to
Western creditors and is scrupulous in paying what
debt it has. Garcia's statements also show he recog-
nizes that a moratorium would have calamitous conse-
quences for most Latin debtor nations. The US
Embassy reports he resents attempts by Castro, whom
he recognizes as being solidly in Moscow's camp, to
portray debt as part of the East-West struggle, when,
in Garcia's view, it is a North-South problemF__1
By contrast, Garcia has been eager for cordial rela-
tions with the Sandinista government in Nicaragua.
The President has publicly blamed Washington for
confusing a popular revolution against injustice and
despotism with Soviet penetration, and he outspokenly
opposes the use of economic sanctions or any other
coercive measures against Nicaragua. He has repeat-
edly defended the legitimacy of the Sandinista re-
gime, claiming that it represents a nascent, albeit
imperfect, experiment in democracy. The Peruvian
President's approach toward Nicaragua, in our view,
conforms to his notion that Latin American sovereign-
ty needs protection from outside involvemen
In our view, Garcia's early and bold policy initiatives
have created the appearance of a government with
vision and determination and have placed potential
adversaries decidedly on the defensive. His extraordi-
nary popularity should continue to help ward off any
serious challenges for some months to come
1986 will contract from this year's 3 percent because
shortages of industrial imports and foreign credit will
stifle domestic investment and construction. More-
over, we estimate that inflation will reach a record
200 percent as a result of a large budget deficit. Based
on current trade data, it appears that depressed prices
for key exports will lead to another current account
deficit next year. Meanwhile, the weak economy,
political uncertainty, and nationalistic legislation al-
most certainlvi will discourage foreign investment.
Continued deterioration of the Peruvian economy over
the next year or so is likely to add to existing strains in
relations with the United States. In our view, the
President probably expects growing domestic opposi-
tion in the coming months as the impact of his
economic austerity measures becomes apparent. We
agree with the US Embassy's judgment that continu- 25X1
ing attacks on Washington are likely as part of an
effort to distract public opinion from the economic
"castor oil" the nation is being called on to swallow.
We look for him to try to deflect criticism by playing
on historic anti-US sentiment, which arises largely
out of envy for US wealth and prosperity. In addition,
Garcia probably will continue to exploit the image of
conflict with Washington to bolster his nonaligned
credentials as he strives to carve out a leadership
niche for himself in the Third World. Finally, the
Peruvian President's willingness to strengthen rela-
tions with Moscow, especially in economic and mili-
tary areas, will directly affect US interests in Peru
and may help legitimize such interchanges in the a es
of other democratic leaders in South Americ 125X1
If, however, as we expect, the economy fails to revive
by the end of Garcia's first year in office, we judge
that he will be forced to reassess his current approach.
We agree with the US Embassy that the President is
a pragmatist who understands that he cannot produce
sustained domestic economic growth-and hence
maintain his popularity at home-without US finan-
cial assistance and private capital investment. Conse-
quently, should Peru's financial difficulties continue
In the economic area, we believe Garcia's preliminary
policy decisions could eventually lead to a self-
imposed stabilization program that would break the
financial impasse with Western creditors. However,
even in the best case, we believe economic growth in
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to grow over the next year, Garcia is likely to alter his
course and opt for a more traditional economic pro-
gram. Such a shift in policy direction probably would
also result in a toning down of Garcia's more strident
Third World rhetoric on a variety of subjects and
hence facilitate an improvement in Lima's relations
with Washingto
Under this scenario, for most of Garcia's first year in
office he would continue to emphasize social develop-
ment, income redistribution, central planning, and
state control. In so doing he would continue to rely
heavily on advisers associated with the leftist Velasco
military government of the early 1970s. Once it
became apparent that this approach was failing,
however, Garcia would initiate a second phase in
which he would adopt more orthodox economic poli-
cies. A key indicator that such a shift was occurring
would be the replacement of Minister of Finance Alva
Castro with Javier Silva Ruete or some other more
fiscally conservative economist, followed by private
overtures to the IMF
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We put the odds as better than even that such a
scenario will come about, but we do not discount the
less likely possibility that continuing economic diffi-
culties would lead the impetuous young President to
shift sharply leftward. At home, Garcia-anxious to
prevent his popularity from plummeting-might de-
cide to intensify efforts to promote growth and job
creation. In our view, increased government spending
for investment and assistance programs would quickly
outrun tax collection, thereby forcing the Central
Bank to print money. As a result, the budget deficit
could soar to a record 18 percent and push inflation
beyond 300 percent, according to an econometric
forecast by a Peruvian development institute. Under
such conditions, Garcia's continued commitment to
bypass the IMF and stick to his 10 percent debt-
service ceiling would cause creditors to cease financial
support. Peru's cash bind would intensify in the face
of weak exports and the likely cessation of trade
credits. Importing would have to be conducted on a
cash basis or through barter deals-as is already in
prospect for Peru's trade with the USSR, Israel,
France, and Brazil.
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