The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
D e p a ir a r if iie m October 10,1975 Beyond Recycling Nearly two years have elapsed between the history-making events of late 1973, when the Organization of Petroleum Ex porting Countries quadrupled the price of oil and embargoed ship ments to the U.S., and the more prosaic events of September 1975, when the OPEC nations deliber ated for a week before imposing a relatively modest (for them) increase in oil prices. In this situa tion, it would be useful to examine how well the consuming nations have been able to cope with this difficult problem, and how well the exporting nations have been able to cope with circumstances that normally would undermine any cartel. Following the end of the embargo, developed and underdeveloped countries alike were left with enormous belance-of-payments dislocations induced by the oil price increase. To forestall com petitive unilateral currency depre ciations, import restrictions or ex cessive domestic restrictive poli cies, the major consuming nations first concentrated on the prob lem of financing the huge current account deficits created by the sudden OPEC actions. Financing mitigated—and postponed—the real transfers of resources stem ming from the oil price increase. Recycling experience In the aggregate, the importing countries' current-account deficit has as its counterpart an equivalent current-account surplus of the exporting countries. Because this 1 Digitized for FRA SER surplus must be invested some where, capital flows to oil importing countries in the aggre gate must necessarily balance their aggregate current-account deficit. As a practical matter, the bulk of OPEC's financial surplus must be invested in the world's principal money and capital markets, which are located in a comparatively few major oil-importing countries. For individual countries there are wide differences between the size of capital inflows and the size of current-account deficits. The Euro-currency markets, which invested over one-third of OPEC's $60-billion surplus last year, performed reasonably well. The U.S. absorbed almost one-fifth of the total, and another one-fifth went into various investments in the U.K. and other developed countries. The other one-fourth of the $60-billion surplus represented OPEC investments in the obliga tions of international institutions such as the World Bank and the IMF, loans and grants to developing countries, and military assistance to Arab states. Commercial banks of the principal industrial countries played a major role in facilitating the flow of OPEC funds. Despite this encouraging experi ence, there is some doubt that large-scale recycling through pri vate money and capital markets can continue indefinitely. Some of the problems include: (1) the risks resulting from loan exposure in any one country, especially in view of the impaired debt-carrying (continued on page 2) Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, nor of the Board of Governors of the Federal Reserve System. capacity caused by previous loans still outstanding; (2) the risks result ing from large concentrations of liabilities to a few depositors with similar response patterns and motives, and (3) the portfolio imbalances created by distorted relationships between maturities of assets and liabilities, with OPEC depositors prefering short-term liquid claims but borrowers requir ing longer-term financing. Because some countries might have difficulty in obtaining private financing, it has seemed imperative to expand various international financing schemes developed in the earlier stages of the oil crisis. For example, the International Monetary Fund expanded its special oil facility by SDR 5 billion (roughly $6 billion) and the Organi zation for Economic Cooperation and Development agreed to es tablish (subject to legislative ratification) a “ solidarity fund” or “ safety net” in the initial amount of SDR 20 billion, (about $25 billion). OPEC surplus These official arrangements will help to forestall oil-induced balance-of-payments crises in the immediate future. But how manageable will the deficits of oil importing countries be over the longer term? Prospects of success would be improved if the oil exporters' cumulative investible surplus at the end of the current decade approximates the Treasury Digitized for FRA SER estimate of $195 billion (in 1974 prices) rather than the much higher figures estimated earlier. The size of these surpluses de pends (on the one hand) on the amount of OPEC oil revenues, investment income and other earnings, and (on the other hand) on the amount of OPEC goodsand-services imports plus financial-aid transfers. Oil reve nues currently are being depressed by the world-wide recession and by consuming countries' conserva tion measures, but they should rise again as economic activity increases—provided the cartel price can be maintained. As for investment income, earnings on OPEC's already large, and still growing, accumulation of assets should increase rapidly. On the other hand, OPEC imports and financial grants will retard asset accumulation. OPEC imports in particular were surprisingly large last year—amounting to over onethird of their $60-billion surplus— because of the initiation of major development programs and the outlay of large sums for military hardware. However, there is some question how long this rate of imports can be sustained, because time is needed to make full use of such a massive inflow of resources. Real economic costs The success experienced thus far in recycling OPEC oil funds has drawn attention away from some basic problems stemming from the oil price increase. While recycling has eased the adjustment, it has forced the consuming nations to pile debt upon debt, except for relatively small amounts of grant aid. Debt repayment at some point will be due, including not only the sums borrowed but huge interest payments as well. These payments will have to take the form of real transfers embodying the heavy costs imposed by the higher import price of oil—costs payable in the form of a larger volume of exports of goods and services. Unless sufficient aid is forthcoming from the wealthier countries, especially the major oil exporters, repayment could impose a very severe burden on the poorest oil importers. Prices and the cartel A significant and early decline in the price of oil would ease the real transfer problem and help the oil-importing countries manage their current-account deficits. Within the present decade, large supplies of Alaskan and North Sea oil should become available, and new discoveries in Bolivia, China, Malaysia, Mexico and elsewhere may provide important additional supplies. Oil exploration and the development of other energy sources should be stimulated by the high price of oil. Optimistic observers claim that we are seeing the emergence of conditions which typically lead to the collapse of cartels. Downward price pressures develop either from increased supplies—whether from outside sources or from the breaking of cartel agreements—or from a weakening of demand such as we've experienced this year. In either case, a cartel must progres sively reduce output to maintain prices. Smaller producers are tempted to increase output, taking advantage of the price umbrella maintained by the domi nant producer—which must then cut back its own production again to keep prices high. Historically, this process sooner or later results in the destruction of the cartel and a drop in prices. In this view, because price maintenance by the cartel usually results in additional sources of supply, prices may even fall below the level obtaining before the cartel was formed. At times this year, OPEC has had nearly a third of its capacity shut down, and price-shaving by some members of the cartel has been reported even in the wake of the recent price boost. Indeed, the September meeting of OPEC ministers apparently was as much concerned with holding the cartel together as with raising prices in the face of the current worldwide glut. Continuation of downward pressures on cartel prices could make the recycling problem somewhat less frightening than it appeared to be a year or two ago. But this sanguine conclusion should receive an early test, as worldwide oil demand expands in line with a worldwide business recovery. Ernest Olson □1911128% for FRA SER uojSinqsBM • qe ifl • uoSa-io • epeA3N • °MePI M BM BH • E |U J O p |B 3 . B U O Z IJ y • *I!|B3 'O D spuejj u b s Z£L ON llW U H aivd aovisod s n HVW SSV1D lS d lJ BANKING DATA—TWELFTH FEDERAL RESERVE DISTRICT (Dollar amounts in millions) Selected Assets and Liabilities Large Commercial Banks Amount Outstanding 9/24/75 Change from 9/17/75 Loans (gross, adjusted) and investments* Loans (gross, adjusted)—total Security loans Commercial and industrial Real estate Consumer instalment U.S. Treasury securities O ther securities Deposits (less cash items)—total* Demand deposits (adjusted) U.S. Governm ent deposits Time deposits—total* States and political subdivisions Savings deposits O ther time deposits}: Large negotiable CD's 85,559 64,162 1,016 22,727 19,565 10,039 8,811 12,586 86,077 23,779 315 60,618 5,805 20,776 30,153 16,397 Weekly Averages of Daily Figures W eek ended 9/24/75 Member Bank Reserve Position Excess Reserves Borrowings Net free (+) / Net borrowed (-) Federal Funds—Seven Large Banks Interbank Federal fund transactions Net purchases (+) / Net sales (-) Transactions of U.S. security dealers Net loans (+) / Net borrowings (-) - + + + + + - + + + + + 393 556 697 33 4 16 151 12 67 466 300 687 15 22 508 667 Change from year ago Dollar Percent + + 1,833 3,015 564 1,426 350 + 314 + 4,836 + 12 + 5,460 + 1,560 587 + 4,585 196 + 3,033 + 1,305 + 839 W eek ended 9/17/75 - + + + + + - + - + + + 2.19 4.49 35.70 5.90 1.76 3.23 121.66 0.10 6.77 7.02 65.08 8.18 3.27 17.09 4.52 5.39 Comparable year-ago period + 37 19 18 + 981 + 1,678 + 520 + 668 + 964 + 945 - 20 119 99 - 58 204 262 in c lu d e s items not shown separately. ^Individuals, partnerships and corporations. Information on this and other publications can be obtained by calling or writing the Public Information Section, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco 94120. Digitized for f R A SER < 4,5) 397' 1137' E>|S E|V
@FedFRASER