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S. H rg . 99-501




JUNE 17, 21, AND 24, 1985

Printed for the use of the Joint Economic Committee

55-590 O


198 6

[Created pursuant to sec. 5(a) of Public Law 304, 79th Congress]
DAVID R. OBEY, Wisconsin, C hairm an

S c o tt L illy ,
R obert


JAMES ABDNOR, South Dakota,
Vice C hairm an

WILLIAM V. ROTH, J r ., Delaware
PETE WILSON, California
EDWARD M. KENNEDY, Massachusetts
Executive Director
Deputy Director

T o steru d ,


M onday, June

17, 1985

Obey, Hon. David R., chairman of the Joint Economic Committee: Opening
.............. .......... ........
— ......................... — ......
Adams, F. Gerard, University of Pennsylvania, and Wharton Econometric
Forecasting Associates, Inc ... .......... ........... ..........
Petty, John R., chairman, Marine Midland Banks, Inc......................................
F r id a y , J u n e


21, 1985

Obey, Hon. David R.. chairman of the Joint Economic Committee: Opening
statement...... ............................. .................. ..... ..... .............................................
Stevenson, John L.> vice president, J.I. Case Co., Racine, WI, accompanied by
Michael Moe, general manager, international sales finance..... ...................
Richards, John C., vice president, Kellogg Rust, Inc., the Signal Companies,
Inc., accompanied by Abram E. Hoffman, Price Waterhouse, on behalf of
the International Engineering and Construction Industries Council............
M onday, June



24, 1985

Obey, Hon. David R.. chairman of the Joint Economic Committee: Opening
...................... ................
..... ............................................
Chimerine, Lawrence, chairman and chief economist, Chase Econometrics,
Bala Cynwyd, PA, accompanied by Romualdo A. Roldan, vice president and
director, developing countries services . .......................... ......... ........................
Hormats, Robert D., vice president, Goldman, Sachs & Co., New York, NY ....
Lissakers, Karin, former Deputy Director, Policy Planning, the State Depart­


M onday, June

17, 1985

Adams, F. Gerard: Prepared statement. .................... .............................................
Petty, John R.: Prepared statement. .........................................................................
F r id a y , J u n e

21, 1985

Richards, John C., et al. Prepared statement.........................................................
M onday, June


24, 1985

Chimerine, Lawrence, et al.: Prepared statement..................................................
Hormats, Robert D.: Prepared statement.................................................................
Lissakers, Karin: Prepared statement.....................................................................
(h i )




MONDAY, JUNE 17, 1985
C o n g r e s s o f t h e U n it e d S t a t e s ,
J o in t E c o n o m ic C o m m i t t e e ,

Washington, DC.
The committee met, pursuant to notice, at 10:05 a.m., in room
2359, Rayburn House Office Building, Hon. David R. Obey (chair­
man of the committee) presiding.
Present: Representative Obey and Senator Proxmire.
Also present: Don Terry, Democratic staff director; and Kent
Hughes and Sandra Masur, professional staff members.

Representative O b e y . Good morning.
Today, the Joint Economic Committee begins a series of three
hearings on the international debt crisis and its impact on the U.S.
economy. Although the Latin debt crisis, for instance, and its
impact on us has largely been off the front pages for the last
couple of years, it has by no means been solved. Latin governments
continue to struggle to make interest payments on foreign debt.
Latin economies are deteriorating, unemployment is rising, and po­
litical opposition to continued austerity is always present.
Thus, the Latin payment crisis is still very much with us and it
affects in vital ways the performance of the U.S. economy.
Furthermore, if the slowdown in the U.S. economy persists, we
could very easily see another round of crisis management. We all
hope that that will not happen, but it’s certainly possible—and
international financial instability of equal, if not greater, magni­
tude than we witnessed in the summer of 1982.
No doubt there is growing sensitivity in the Congress to the
impact of the global economy on our own economic well-being.
Rising imports, poor U.S. export performance, and the uncompeti­
tive dollar are all topics of concern and focus.
Oddly enough, however, the domestic economic problems associ­
ated with the Latin debt crisis have been largely ignored. Japan
has become the symbol of all of our trade problems and frustra­
tions. And to be sure, inadequate access for United States goods in
Japanese markets is a legitimate problem which warrants atten­
tion and correction.
But our trade problems with Latin America, in many respects,
parallel the problems we face with Japan. They certainly do so in
overall magnitude. We enjoyed a surplus in our trade with Latin



America throughout the seventies. In 1980, our surplus was $4.8
billion. That has deteriorated to a $15.7 billion deficit last year and
is likely to get worse. That $20 billion turnaround rivals the dete­
rioration in our bilateral trade relations with Japan.
Today’s witnesses have been asked to review the causes of the
Latin debt crisis, where we stand today, and have been asked to
document the impact of this crisis on the U.S. economy in terms of
lost jobs and growth.
The second hearing will focus on the debt problems' effect on
specific industries, such as construction and engineering, heavy
equipment or farm machinery.
The third hearing will include testimony on the ability of Latin
countries to continue to meet their debt obligations, the additional
problems that could arise if growth in the U.S. economy remains
weak, and the stability and continued viability of democracy in
Latin America.
Today's witnesses are Mr. Jerry Adams, Wharton Econometric
Forecasting and the University of Pennsylvania, and Mr. John
Petty, chairman, Marine Midland Banks, and former Assistant Sec­
retary of the Treasury for International Affairs in the Ford admin­
Mr. Adams, why don't we begin with you? And because I have
not had an opportunity to read either of your prepared statements,
instead of summarizing, why don't you just go through the full
statement, unless you have a time problem? That will give me a
better opportunity to understand exactly what it is you're saying
before we proceed with questions.

Mr. A d a m s . Thank you, Mr. Chairman, for inviting me to express
my views before the committee.
I'll do as you suggest, go through the entire prepared statement.
I may occasionally add some comments and perhaps eliminate a
paragraph here and there. I'll warn you so that you can follow it.
Representative O b e y . I'll do the same thing.
Mr. A d a m s . As you already pointed out and as we are all too
well aware, the international debt crisis has been like the multiple
episodes of a cliffhanger. Since 1982, when the crisis first dropped
into the consciousness of bankers, government officials and econo­
mists, and finally, the public at large, the situation has never been
far from the headlines. And, indeed, we see that in yesterday and
today's headlines as well. The good news has been that so far, the
crises have been managed and the crash averted. The risk of de­
fault and of shock to the international banking system is still con­
siderable, but the institutions have proved remarkably robust and
the efforts by the IMF, the commercial banks, and the debtor gov­
ernments have so far proved effective in avoiding the worst poten­
tial outcomes.
In the process of watching the daily events, many observers have
lost sight of the bad news. The bad news is the continued severe
impact of the debt overhang on the economies of the debtor coun­


tries and on the economies of the creditors as well. The Latin
American debt crisis has adversely affected the economy of the
United States and continues to do so. So I am concerned in this tes­
timony with the impact of the debt situation in Latin America and
on the United States. I’m going to begin by commenting on the de­
velopment of the debt crisis and then I want to turn to its impact
and make some concluding comments on future prospects and solu­
The general recognition of the debt crisis as an American prob­
lem came suddenly in August-September 1982, around the time of
the World Bank-International Monetary Fund meeting in Toronto,
when Mexico and Brazil indicated that they were unable to find
continuing financing for their debts and sought aid from the
United States.
Between 1977 and 1982, the external debt of the six largest Latin
American countries—Argentina, Brazil, Chile, Columbia, Mexico,
and Venezuela—increased from $95 billion to $272 billion, an in­
crease of $177 billion in 5 years and an increase of $56 billion in
just 1 year, from 1980 to 1981, alone.
As we know, of the total Latin American debt outstanding, a pre­
dominant share was lent by U.S. banks and an increasingly large
part consisted of short-term credits linked closely to prevailing in­
terest rates.
The debt built up in the 1970's surprisingly quickly. If one looks
across the various countries, one finds that the debt buildup is not
simply explainable by one factor. Clearly, in some cases, the debt
was incurred because countries were unwilling to bear the real
burden of high energy costs and finance these imports by rising
debt. Brazil is a case in point.
In some countries, however, the debt was incurred in order to fi­
nance excessively rapid development plans. And that's clearly the
case in Mexico, which had oil, after all, and foresaw the growth of
these oil revenues more rapidly than was eventually to materialize.
And like in the Brazilian case, some of those funds went for devel­
opment purposes.
Finally, some of the money went for speculative activities. That's
the case in Argentina. So that in some cases, the funds were used
productively; in others, they were not.
The other point that perhaps ought to be made about that build­
up is that it takes two to tango and that this was a period when
American banks were pleased to make loans at high interest rates
and like sovereign debts, which they considered to be secure.
So there are two participants in this game—on the one hand, the
borrowing of the borrower countries; on the other hand, the willing
lending by the lenders.
I have said in this paragraph that wide recognition of the crisis
dates to August-September 1982. The fact is, however, that certain
bankers were aware of the possibility long before that. I remember
a U.N. meeting in Geneva with an economist from the American
Express Bank in London who at that time was warning quite clear­
ly that the debts were rapidly exceeding the capitalization of the
lending banks and that sooner or later, the banks would have to
put a stop to this lending. That was 2 years before 1982.


The interest burden rose from 12.7 percent of exports in 1977 to
32 V2 percent of exports in 1982, partially, of course, as a result of
the larger debt, but also partially as a consequence of the unexpect­
ed rise of interest rates. And the debt service ratio, including re­
payment of maturing loans, rose from 32.8 percent of exports in
1977 to 60.3 percent in 1982.
As you know, as I've mentioned already, the critical turn in the
debt situation came in mid-1982. Until then, the commercial banks
had been willing to underwrite continued rapid expansion of debts,
even though their holdings of country debt obligations greatly ex­
ceeded the capitalization.
As the inability of the countries to meet their debt obligations
without assistance became apparent, the commercial banks would
have liked to withdraw from further Latin America lending. When
the banks were unable to reduce their exposure and further cut
loan extension, what William Cline has called involuntary lending
was required in order to avoid defaults. Such lending, by the way,
amounted to about $14 billion in 1984.
The situation since 1982 has been characterized by repeated
crises. Each renegotiation, after all, could be seen as a sort of a
crisis process. The initial one in the fall of 1982, and again the situ­
ation in mid-1984, are illustrative. The IMF has negotiated agree­
ments with the debtors, conditioned on economic targets and policy
reform and, in turn, the banks have provided limited additional
lending to avoid a financial crash.
This process was particularly notable in mid-1984, when a varie­
ty of events seemed to suggest that the crisis would be inescapable.
The debtor governments were meeting in mid-1984 in Cartagena at
what appeared to be the formation of the debtors' cartel. Banks in
the United States were shaken by the difficulties of Continental Il­
linois and it appeared that the commercial banks would not be able
to extend more credit. Finally, the targets set by the IMF, particu­
larly for inflation, were not being achieved, although the external
trade balance objectives were exceeded in some cases. The flexibil­
ity shown by the various participants in the bargaining process is a
welcome omen that future crises can also be managed.
We've seen a number of recent examples of this in the past
week—the developments in Argentina, the rescheduling in Mexico
are all cases where a great deal of flexibility was shown by the par­
ticipants and that was a helpful factor.
The debt crisis has provoked serious economic adjustment in
Latin America. These adjustments have gone a long way toward
easing financial pressure and greatly affect living standards, and
they've had significant impact on the United States as well.
The striking fact is the drastic change in trade balances. I'm
dealing here in almost all cases with data for the six major Latin
American countries. From an approximately balanced merchandise
trade in 1981, we've gone to a surplus of $36.4 billion to cover the
interest bill on the outstanding debt, so that in 1984, their current
account was actually roughly in balance.
This change was accomplished first through a cutback in im­
ports. In the principal countries, imports were diminished from $78
billion in 1981 to $46 billion, approximately, in 1984. An expansion
of exports came on later. The recession which resulted in the prin­


cipal Latin American countries has reduced per capita income by
some 9 percent on average from 1980 to 1983. But significant dis­
equilibrium still exists—runaway inflation in Brazil and Argenti­
na, and large public sector deficits, and so on.
While the pressures appear to have been temporarily defused,
threats of default by smaller debtor countries, arrearages of inter­
est payments, and difficulties in reaching restructuring agreements
with the bigger countries represents risks of renewed crisis.
The effect on the United States has not gone unnoticed. Indeed,
it's very interesting to look at the trade statistics in the summer of
1982, when the sudden deterioration of United States exports to
Mexico was one of the first signals of the impending crisis. The
United States stands on the flip side of the improvement of the
Latin American trade balance, since the bulk of Latin American
trade is in a north-south direction, and particularly with the
United States.
As shown in table 3, the United States exports to Latin America
deteriorated from $39 billion to $26 billion—$39 billion in 1981 to
$26 billion in 1984. In return, U.S. imports have increased sharply,
from $32 billion in 1981 to $42 billion in 1984.
These numbers are based on U.S. trade statistics with Latin
The trade balance has swung from a surplus of $7 billion to a
deficit of $16 billion, a change which is concentrated, for the most
part, in manufactures.
Now, it can be argued that not all of this swing is attributable to
the debt crisis. U.S. trade has deteriorated with respect to other
parts of the world as well.
On the other hand, the Latin American picture is dominated by
the debt situation and it was the debt burden which made such a
trade turnabout imperative. The magnitude of the trade swing is
probably just about what was necessary to make the debt managea­
What is the impact of trade readjustment on the U.S. economy?
In order to gauge the impact, my colleague at Wharton Econome­
trics, Kurt Carl and I have introduced a trade swing of $23 billion
into the Wharton annual model of the U.S. economy. The impact of
the change in trade flows is approximately $65 billion on current
GNP. I summarize these various dimensions of this in table 5.
In real terms, the impact is about $18V2 billion in 1972 dollars,
approximately 1 percent of GNP. This accounts for approximately
800.000 jobs. The number 800,000 comes out on the high side as far
as my expectations are concerned. The explanation of why it is on
the high side is that the bulk of this swing in trade is concentrated
in manufactured goods, not all of it, but more than two-thirds.
We've put it into the model this way and we get an impact of about
800.000 jobs.
Other aspects of this change are shown in table 5, and particular­
ly notable, of course, is the impact on particular industries. Here,
the biggest impact is in the primary metals, motor vehicle, and in
the miscellaneous manufacturing industries.
We might have stretched our baseline assumption somewhat fur­
ther, assuming, for example, that Latin American growth had con­
tinued into the 1980's at the pace of the previous decade. And had


we done so, we would have seen a larger trade swing and still a
bigger impact. But I think that such an assumption lacks realism
in that to assume that growth would continue would have required
us to assume that lending would continue, when that clearly is not
We tried to say something about the impact of Latin American
crisis on the dollar exchange rate, but I must say, that's a very dif­
ficult thing to evaluate. Obviously, if we were looking at the bilat­
eral exchange rates between the United States and various Latin
American countries, the demand for dollars relative to the supply
has sharply pushed up the value of the dollar. The exchange rates
of the Latin American countries vis-a-vis the dollar have moved,
moved enough to effect a very sizable trade swing and some more,
presumably, because of the financial pressures.
This bilateral exchange rate relationship has already been al­
lowed for in our calculation. We've taken effectively the imports
and exports that have resulted and introduced the swing of those
into our calculation.
An altogether separate issue is whether the situation has caused
the dollar to be high relative to other currencies as well, and
whether that would reduce the U.S. competitive position with re­
spect to third country markets and thereby affect U.S. trade and
economic activity.
I think, on balance, it's not possible to provide an unequivocal
answer. It's quite clear that capital flows have been toward the
United States and that has tended to raise the dollar. It's been ef­
fectively a flight of capital, not only from Latin America, but from
many countries toward the United States. On the other hand, the
precariousness of the Latin American debt has raised fears about
the state of the U.S. banks and that may, in fact, discourage some
capital movement to the United States. So it's not clear to us
whether the value of the dollar with respect to the currencies of
Europe and Japan has been affected, nor is there clear evidence of
the impact on interest rates.
As we note earlier, the successive debt crises have been defused.
There are still significant arrearages with respect to several of the
smaller countries, and even with some of the large ones, but out­
right defaults have been avoided. This has minimized the potential
impact on the banking system, although certainly we can't assume
that there is no impact.
We have noted the large value of holdings of Latin American
debt by U.S. banks relative to their capitalization. Bill Cline's num­
bers point to figures from 100 to over 200 percent, in the case of
some of the banks.
On the one hand, such figures exaggerate the risk, since there's
no question of writing off 100 percent of Latin American debt. On
the other hand, such figures do not account for the expectational
impact, fears of depositors and the possibility of a premium in in­
terest rates as a result of increased risk.
However, it's our judgment that such risk premiums have been
small so far.
The probability of an outright default in the future is real, of
course, but it is small. Nevertheless, such an event could have sig­
nificant implications for the developed economies. We've studied


that sort of possibility at some length, although it's very difficult to
study the possibility of a default because there are so many things
that can go wrong. It's very unclear exactly how a default would
operate and, moreover, it's very unclear what the policy responses
would be. The impact of a default depends, to a very large extent,
on what the policy response on the part of the Federal Reserve
would be.
Our calculations would suggest that a default could lead to a re­
cession in the United States and certainly would mean a long-term
reduction in the growth prospects of the Latin American countries.
Next, I consider the prospects for the Latin American debt situa­
tion. Last year was one of almost universal recovery in Latin
America, with regional GDP growth at 3.3 percent and the first in­
crease in per capita GDP since the beginning of the debt crisis. The
major countries showed surprisingly good balance of trade results
and, as a consequence, the current account of the six major coun­
tries achieved a small surplus.
But it is important to note that domestic economic performance
was still deficient in most Latin American countries, which high
unemployment rates, per capita income some 9 percent below earli­
er peaks, and runaway inflation particularly in Brazil and Argenti­
na. The domestic performance of most of these countries remains
far outside the bounds of the conditions proposed by the IMF. Nev­
ertheless, the favorable element is that, despite the serious econom­
ic difficulties, progress toward political opening in the direction of
popular democracies is still being made in many countries, particu­
larly in Brazil.
There are prospects for some further improvement in the eco­
nomic situation throughout Latin America, except in Argentina for
next year. For the region as a whole, growth can be expected at 2.8
percent in 1985 and then we project 4 to 5 percent annual growth
of GDP for the later years of the decade.
Unfortunately, that 4 to 5 percent projection, which would look
healthy from the perspective of a developed country, nevertheless
falls considerably below the growth rate of the most favorable
recent decades in Latin America and it doesn't recoup the welfare
losses suffered as a result of the debt problem.
Whether one can say that the debt situation has been overcome
is largely a matter of perspective. Default has been avoided and
with increased flexibility on the part of the lenders, it is likely that
restructuring agreements will ultimately be reached with many
But from another perspective, the burden on the debtor countries
continues to be a heavy one. The terms of trade have gone against
the debtors. In order to service their debt, the Latin American
countries transfer some $30 billion annually to their creditors.
While limited lending has continued in order to avoid defaults, tra­
ditional flows of capital from the developed to developing countries
have all but dried up.
From the perspective of trade and balance of payments, the slow­
ing of exports from the major Latin American countries in the first
quarter of 1985 suggests that the spectacular trade performance of
1984 will not be repeated. And the softness of oil prices promises
difficulties for Mexico and Venezuela.

On the other hand, the easing of interest rates is worth about $3
billion for each percentage point of interest rate reduction and
that's a favorable prospect.
Let me add at this point that there is, quite properly, consider­
able concern about the impact of a potential slowdown in the U.S.
economy on the expansion of Latin American trade. We are not
predicting a recession, but we are every week marking down our
forecast for the U.S. economy. The U.S. economy has been slow and
sluggish. And, indeed, I suspect that the slowing of Latin American
exports, which has been widely observed in the first quarter of
1985, is already a reflection of a slowdown in demand in the United
So that the situation from the trade side certainly does not look
favorable in 1985, not nearly as favorable as in 1984, and it may
worsen as a consequence of slowing economic conditions in the
United States.
On the other hand, the quite sharp decline in interest rates
which has occurred in the last couple of months is certainly a posi­
tive factor from the perspective of Latin America, and one can ask
to what extent is there a tradeoff between these two.
I have some brief comments about what can be done about the
problem. It's clearly not a situation which will disappear quickly,
even if default can be avoided, and that's our most probable out­
come. There will be repeated negotiations, in themselves costly and
disruptive. The resource costs to the developing economies of Latin
America will continue.
The debt overhang will affect Latin American growth for many
years to come. So will the impact on the U.S. trade balance and on
U.S. industries. And that means that there is considerable com­
monality of interest between the debtor countries and the United
States in resolving the problem.
In very general terms, what are the possibilities? First of all, it
goes almost without saying that proper management of economic
policy to establish a healthy and growing world economy with real­
istic interest rates is a basic requirement. The runup of real inter­
est rates was certainly a contributor to bringing on the debt crisis.
I don't think that the debt expansion was sustainable, even without
the runup of interest rates that occurred in 1981 and 1982, but it
was certainly that runup of interest rates which brought on the
crisis in the immediate sense. Much could be achieved with a more
balanced economic policy, one that has easier monetary policy with
lower interest rates and reasonable, but not excessive, fiscal stimu­
lus to set the world economy on a limited growth path. Lower in­
terest rates would ease the burden on the debtors. The growth of
demand would provide markets for the products of the Latin Amer­
ican economy.
I will summarize other approaches very briefly here. One of
them is to meet the problems of default: increasing the flexibility
of the IMF, of other international institutions and of the commer­
cial banks in dealing with crisis situations.
Second, a stretching out of the debt and the reduction of the in­
stability of interest rates. The critical issue here is the conversion
of short-term debt at variable interest rates into longer term fund­
ing at stable, predictable, preferably lower rates of interest.


And, finally, I think it’s time to evaluate the long-term implica­
tions to try and distribute the burdens more equitably on a no-fault
basis. The issue here is not to hold one party or the other responsi­
ble, but to recognize that the debt has become burdensome to both
creditors and debtors. There have been a number of proposals that
have been made which would try to reduce the rate of interest, per­
haps offer some public guarantees, and convert the outstanding
credits into new forms of securities. There are all kinds of possibili­
ties along these lines and they deserve serious consideration.
Thank you.
[The prepared statement of Mr. Adams follows:]

P repared Sta t em e n t


F. G erard A d a m s

P e rsp e c tiv e s on The L atin American Debt C r is is
Im p lica tion s fo r L atin American Development and fo r the United S ta te s Economy

As we are a l l too w e ll aware, the in te rn a tio n a l debt c r i s i s has been li k e
the m u ltip le episodes o f a " c l i f f h a n ger".

Since 1 9 8 2 , when the c r i s i s

fir s t

dropped in to the con sciou sn ess o f bankers, government o f f i c i a l s , e con om ists,
and f i n a l l y the p u b lic a t la r g e ,
h e a d lin e s.

the s it u a tio n has never been fa r from the

The good news has been that so fa r the c r is e s have been managed

and a crash av e rte d .

The r is k s of d e fa u lt and o f shock to the in te r n a tio n a l

banking system are s t i l l c o n sid e r a b le , but the in s t it u t io n s have proved
remarkably robust and the e f f o r t s by the IMF, the commercial banks and the
debtor governments have so fa r proved e f f e c t i v e in av oiding the worst
p o te n tia l outcomes.
In the process o f watching the d a ily e v e n ts, many ob servers have lo s t
sig h t o f the bad news, the continued severe impact o f the debt overhang on the
economies o f the debtor c o u n tr ie s , and on the economies o f the c r e d ito r s as
w e ll.

The L atin American debt c r i s i s has adversely a ffe c te d the economy of

the United S tates and continues to do s o .

This testim ony i s concerned with

the impact o f the debt s it u a t io n on L atin America and on the United S t a t e s .
We begin by commenting on the development of the debt c r i s i s .
the im pact.
s o lu tio n s .

Then we turn to

We conclude with an e v a lu a tio n o f future prosp ects and p o te n tia l

Development o f the Debt C r is is
Recognition o f the in te r n a tio n a l debt as an American problem came
suddenly in August-September 19 8 2 , around the time o f the World BankIn te r n a tio a l Monetary Fund meeting in Toronto, when Mexico and B r a z il
in d icate d that they were unable to fin d continuing fin a n cin g fo r th e ir debts
and sought aid from the IMF.

(Debt problems e a r lie r in the 1970s concerned

A fric a n cou n tries and Eastern Europe and could be seen e ith e r as is o la t e d
country problems, in the A fric a n c a s e , or as p rim arily a European concern in
the case o f the S o c i a li s t c o u n t r ie s .)

Between 1977 and 1982, the e x te rn a l

debt o f the s ix la r g e s t L atin American c o u n trie s (A rgen tin a, B r a z i l, C h ile ,
Colombia, Mexico, and Venezuela) in creased from $95 b i l l i o n to $272 b i l l i o n —
an in cre ase o f $177 b i l l i o n in 5 years and an in crease o f $56 b i l l i o n
1980 to 1981 alone (Table 1 ) .


Of the t o t a l L atin American debt ou tstan d in g,

the predominant share was le n t by United S tates banks.

Moreover, an

in c r e a sin g ly la rge part c o n siste d o f short term c r e d its linked c lo s e ly to
p r e v a ilin g short term in t e r e s t r a t e s .

The in te r e s t burden rose from 12 .7

percent of exports in 1977 to 3 2 .5 percent o f exports in 1982— p a r t i a l ly as a
r e s u lt o f the la rg e r debt but a ls o as a consequence of high in te r e s t r a te s —
and the debt se rv ic e r a t io

(in c lu d in g repayment o f maturing lo an s) rose from

3 2 .8 percent o f exports in 1977 to 6 0 .3 percent in 1982.
The c r i t i c a l turn in the debt s it u a tio n came in mid 1 9 82.

U n til then the

commercial banks had been w illin g to underwrite continued rapid expansion of
d e b ts, even though th e ir holdings o f country debt o b lig a tio n s g r e a tly exceeded
th e ir c a p it a li z a t i o n ( C lin e ,

1 9 8 4 ).

As the in a b ili t y of the cou n tries to meet

debt o b lig a tio n s without a s s is ta n c e became apparent,

the commercial banks

would have lik e d to withdraw from fu rth e r L atin American le n d in g .

But the

banks were unable to reduce th e ir exposure and fu rth e r c r e d it e x te n s io n , what
W illiam C lin e has c a lle d "in v o lu n ta r y le n d in g ", was required to avoid
d e f a u lt s .

Such lending has amounted to $14 b i l l i o n in 1984.

The s it u a t io n sin ce 1982 has been c h aracterized by numerous c r i s e s .


th e se , the i n i t i a l one in the f a l l o f 1982 and again the s it u a tio n in mid 1984
i l l u s t r a t e how the s it u a t i o n has been d e fu se d .

The IMF n eg o tia te d w ith the

debtors agreements conditioned on economic ta r g e ts and p o lic y reform and in
turn the banks provided lim ite d a d d itio n a l lending to avoid a f in a n c ia l
crash .

This was p a r t ic u la r ly no tab le in mid 1984 when a v a r ie ty o f events

together seemed to suggest th at the c r i s i s would be in e sca p a b le .

The debtor

governments were meeting in Cartagena a t what appeared to be the form ation o f
a d e b to rs' c a r t e l .
Continental I l l i n o i s

Banks in the US were shaken by the d i f f i c u l t i e s of
( d i f f i c u l t i e s which were re la te d to dom estic rath er than

to fo re ig n len din g) and i t appeared that the commercial banks would not be
able to extend more c r e d i t .

F in a lly , the ta r g e ts s e t by the IMF, p a r t ic u la r ly

fo r i n f l a t i o n , were not being achieved (though the e x te rn a l trade balance
o b je c tiv e s were exceeded in some c a s e s ) .

The f l e x i b i l i t y

shown by the various

p a r tic ip a n ts in the b argain ing p ro c e ss, which u ltim a te ly helped to avoid a
c r i s i s in 1984, i s a welcome omen that future c r is e s can a ls o be managed.

Adjustment o f the Debt C r is is
The debt c r i s i s has provoked se rio u s economic adjustment in L atin

While these adjustm ents have gone a long way toward easing the

fin a n c ia l p ressu re, they have g r e a tly a ffe c te d li v in g standards and they have
s ig n if ic a n t impact on the United S tates as w e ll.
The s tr ik in g f a c t , ob servab le in Table 2 , i s the d r a s tic change in trade
balances which has taken p lace in the s i x major L atin American c o u n trie s in


the l a s t 4 y e a rs.

From an approximately balanced merchandise trade ( s i x

la r g e s t c o u n trie s) in 1981, they have gone to a surp lus o f $ 3 6 .4 b i l l i o n to
cover the in te r e s t b i l l on the oustanding debt so that th e ir current account
was in balance in 1984.
in im p orts.

The change was accomplished f i r s t through, a cutback

In the p rin c ip a l co u n trie s (T able 2 ) , im ports were dim inished

from $ 7 8 .3 b i l l i o n in 1981 to $ 4 5 .8 b i l l i o n in 1 9 84.

An expansion o f exp orts

only came l a t e r , in 1984 p a r t ic u la r ly , going from exports o f $ 7 8 .3 b i l l i o n in

to $ 8 2 .3 b i l l i o n in 1 9 84.

The re c e ssio n which re s u lte d in the p r in c ip a l

L atin American cou n tries has reduced per c a p ita GNP by some 9 percent from
1980 to 1 9 83.

Moreover, s ig n if ic a n t d ise q u ilib riu m s t i l l e x i s t s — runaway

i n f l a t i o n ra te s in B r a z il and A rgentina, and la rg e p u b lic s e c to r d e f i c i t s .


long term debt restru ctu rin g has been achieved in Mexico but more adjustm ents
w i l l be necessary before a d d itio n a l debt re str u c tu rin g agreements can be

While the pressures appear to have been tem p orarily d e fu se d ,

th rea ts

o f d e fa u lt by the sm aller debtor c o u n tr ie s , arrearages o f in t e r e s t payments,
and d i f f i c u l t i e s in reaching re str u c tu rin g agreements with the b igg er
co u n trie s represents r is k s of renewed c r i s i s .

E f fe c t s on the United S tates Economy
What are the channels through which the US economy has been a ffe c te d ?
F ir s t i s the d ir e c t channel of exports to L atin America, an im portant market
fo r US products, and imports from L a tin America.

Secondly i s

the impact on

fin a n c ia l flo w s, the flow o f US lending to L atin America, a supply o f d o l la r s ,
and the flow o f debt se rv ic e payments, a demand fo r d o l l a r s .

F in a lly ,


i s the threat to the s t a b i l i t y of the United S tates banking system from
o u trig h t d e fa u lt or writedowns o f L a tin American d e b t.
The impact on the United S ta tes trade has not gone un n oticed .

Indeed, in


the summer of 1 9 82, the sudden d e te rio ra tio n o f US exports to M exico, was one
of the f i r s t s ig n a ls o f the impending c r i s i s .

The United S ta tes stands a t the

s id e " o f the improvement o f the L atin American trade b a la n c e.

Since the

bulk o f L atin American trade i s in a North-South d ir e c tio n and p a r t ic u la r ly
w ith the US.

As shown in Table 3 , United S tates exports to L a tin America

d e te rio ra te d from $ 3 9 .0 b i l l i o n in 1981 to $ 2 6 .3 b i ll i o n in 1 9 8 4 .

In tu rn , US

imports have in creased sharply from $ 3 2 .0 b i l l i o n in 1981 to $ 4 2 .3 b i l l i o n in

The trade balance has swung from a surplus of $ 7 .0 b i l l i o n

to a d e f i c i t

o f $ 1 6 .0 b i l l i o n , a change which i s concentrated for the most part in
manufactures (T able 4 ) .
I t can be argued o f co u rse,

that not a l l the swing in U S-L atin American

trade i s a ttr ib u ta b le to the debt c r i s i s .

US trade has d e te rio ra te d with

re sp e c t to other p arts o f the world as w e ll. On the other hand, the L atin
American p ic tu re i s dominated by the debt situ a tio n and i t was the debt burden
which made such a trade turnabout im perative.

The magnitude o f the trade

swing i s probably ju s t about what was necessary to make the debt manageable.
What i s

the impact of the trade readjustment on the United S ta tes

In order to gauge other dimensions o f the impact, we have introduced

a trade swing o f $23 b i l l i o n
of the US economy.

(cu rren t d o lla r s ) in to the Wharton Annual model

The impact o f the change in trade flo w s, summarized in

Table 5 i s approxim ately $65 b i l l i o n in current GNP.

in r e a l terms the e f f e c t

o f $ 1 8 .5 b i l l i o n (1 9 7 2 $ ) or approximately 1 .0 percent of GNP.

This accounts

fo r alm ost 800 thousand jo b s .
Other dimensions o f the impact are summarized in Table 5 .

P a r tic u la r ly

n otab le i s the e f f e c t on economic a c t i v it y and employment in the primary
m e ta ls, motor v e h ic le and m iscellan eous manufacturing in d u s tr ie s .
Had we stretch ed our b a se lin e assumptions somewhat fu r th e r , assuming fo r


example, that Latin American growth had continued in to the 1980s a t the pace
o f the previous decade, we would observe a s t i l l la r g e r trade swing and, o f
c o u rse, a ls o a consequently la rg e r impact on US economic a c t i v i t y .

But such

an assumption lacks re a lism , in that i t would assume a con tin u ation o f lending
to L a tin America a t the to r rid pace o f the 1979-81 p e rio d .
The impact o f the fin a n c ia l flow s i s more d i f f i c u l t to e v a lu a te , and we
have not attempted to put a q u a n tita tiv e dimension on i t s e f f e c t .
to L atin America has diminished d r a s t i c a l l y .

The lending

While lim ite d lending has

continued i t dropped sharply to $14 b i l l i o n o f loans in 1 9 8 4 , compared to $56
b i l l i o n in 1981.

Thus, the supply o f d o lla r s on fo r e ig n exchange markets has

c le a r ly dim inished.

In te r e st payments increased tremendously with the growth

o f the debt and the in crease in in t e r e s t ra te s e a rly in the 1 9 8 0 s .


expansion of the debt in recent y e a r s , has been la r g e ly o f f s e t by lower
in t e r e s t r a te s .

In combination with improved trade balances the current

account d e f i c i t of the L atin American cou n tries i s near b a la n c e.


su b s ta n tia l component o f the fo rc e s in flu e n c in g the d o lla r has been c a p it a l
flig h t,

recorded in the balance o f payments as "E rro rs and O m issions” .

Anectodal evidence suggests that t h is problem has eased and should not
e x e rc ise as much upward pressure on the d o lla r c u rren tly as i t did during the
past three or four y e a rs.
On balance the impact of the L atin American c r i s i s on the d o lla r exchange
ra te i s d i f f i c u l t to e v a lu a te .

O b viou sly, with respect to the b i l a t e r a l

exchange rates between the US and various L atin American c u rr e n c ie s ,


demand fo r d o lla r s r e la t iv e to the supply has pushed up the value o f the
d o l la r .

This b i la t e r a l exchange ra te r e la tio n sh ip i s already encompassed in

the US-Latin American trade balance used in the computation d iscu ssed above.
Another issu e i s whether the s it u a tio n caused the d o lla r to be high


r e la t iv e to oth er c u rren cies as w e ll to reduce the US com petitive c o n d itio n in
th ird country markets and to a f f e c t US trade and economic a c t i v i t y .
balance i t

i s not p o s s ib le to provide an unequivocal answer.

c a p it a l flow s have been g e n e r a lly toward the US.


On one hand,

On the other hand, the

p recariousn ess o f L atin American debts raised fe a rs about the s t a t e o f US
banks, and that may have discouraged c a p ita l movement to the US.

I t i s not

c le a r con seq u en tly, whether the value of the d o lla r with resp ect to European
and Japanese cu rren cie s has been a f f e c t e d , nor i s there c le a r evidence o f the
e f f e c t on US in t e r e s t r a c e s.
As we have noted, the su c c e ssiv e debt c r is e s have been d e fu se d .


there are s ig n if ic a n t arrearages with respect to several o f the sm aller
cou n trie s and even with some o f the large ones, ou tright d e fa u lts have been

This has minimized the p o te n tia l impact on the banking system though

one should not assume that there has been no impact.

We have noted the la rg e

value o f holding o f L atin American debt by US banks r e la tiv e to th e ir
c a p it a li z a t i o n (from 100 to over 200 percent in some c a s e s ).

On one hand,

such fig u r e s exaggerate the r i s k , sin ce there i s no question o f w ritin g o f f
100 percent o f L a tin American d eb t.

On the other hand, such fig u r e s do not

account fo r the e x p e c ta tio n a l im pact, the fe a rs of dep ositors and the
p o s s i b i l i t y o f a premium in in t e r e s t rates as a r e s u lt of the increased
risk .

However, such r is k premiums appear to have been quite sm all so f a r .


we w i l l note below the p r o b a b ility o f o u trig h t d e fa u lt in the fu tu re i s r e a l
but sm a ll.

N e v e rth e le ss, such an event could have s ig n ific a n t im p lica tio n s

fo r the developed c o u n tr ie s , a re c e ssio n , and fo r the developing w orld, a long
term reduction in th e ir growth p ro sp e cts.
Econometric F orecastin g A s s o c ia te s ,
1 9 84, P h ila d e lp h ia , P a .)

(For a d iscu ssion see Wharton

"What I f L atin America D e f a u lt s ? ". F a ll


Prospects fo r the L atin American Debt S itu a tio n
Last year was one o f almost u n iv e rsa l recovery in L atin America (though
from a low le v e l) with re gion a l GDP growth o f 3 .3 percent and the f i r s t
in crease in per cap ita GDP sin ce the beginning o f the debt c r i s i s

(T able 6 ) .

The major countries showed su r p r isin g ly good balance o f trade r e s u lts and as a
consequence the current account o f the s ix major co u n trie s achieved a sm all
surplus in con trast to the la rge d e f i c i t s incurred in previous y e a rs .


remarkable reduction in B r a z i l's current account d e f i c i t from $ 6 .8 b i l l i o n in
1983 to $ 0 .7 m illio n in 1984 was p rim a rily re sp o n sib le fo r th is r e s u l t .)
But i t i s important to note that dom estic economic performance was s t i l l
d e f ic ie n t in most o f L atin America with high unemployment r a t e s , per cap ita
income some 9 percent below e a r lie r peaks, and with runaway i n f l a t i o n ra te s
p a r tic u la r ly in B r a zil and Argentina.

The domestic performance o f most o f the

c ou n tries remains fa r ou tside the bounds o f the c o n d itio n s proposed by the

N everth eless, the favorab le element i s th a t, d e s p ite the se rio u s

economic d i f f i c u l t i e s , progress toward p o l i t i c a l opening in the d ir e c tio n of
popular democracy i s s t i l l being made in many c o u n tr ie s , p a r tic u la r ly in
B r a z il.
Prospects are for some fu rth er improvement in the economic s it u a tio n
throughout Latin America, except next year in A rg en tin a .

For the region as a

whole growth can be expected at 2 .8 percent fo r 1985 and then at 4 to 5
percent annually fo r la t e r years o f the decade.

U n fortu n ate ly, th is

p ro je c tio n f a l l s considerably below the growth ra te o f the most favo rab le
recent decades and does not recoup the w elfare lo s s e s su ffe re d as a r e s u lt o f
the debt problem.
Whether one can say that the debt s it u a tio n has been overcome i s la r g e ly


a matter o f p e r s p e c tiv e .

D efau lt has been avoided and, with in creased

f l e x i b i l i t y on the part o f the le n d e r s, i t i s li k e ly that re s tr u c tu rin g
agreements w i l l u ltim a te ly be reached with many c o u n trie s .

A d m itte d ly , there

are some r e a l problems among the sm aller cou n tries which are a lre ad y
e f f e c t i v e l y , i f not n o m in ally , in d e f a u lt .
From another p e rsp e c tiv e however, we must recognize that the burden on
the debtor co u n trie s c o u n trie s to be a heavy one.
gone sh arply a g a in st the d e b to r s.

The terms o f trade have

In order to service th e ir d e b t, the L atin

American co u n trie s tr a n s fe r over $30 b i l l i o n annually to th e ir c r e d it o r s .
While lim ite d lending has continued in order to avoid d e f a u lt s ,

t r a d it io n a l

flow s o f c a p it a l from developed to developing countries have a l l but d ried up.
From the p ersp e c tiv e o f trade and balance of payments, the slow ing o f
exports from the major L atin American countries in the f i r s t quarter o f 1985
su ggests that the sp e c ta c u la r trade performance of 1984 w i l l not be
rep eated .

And the s o ftn e s s of o i l p rice s promises to c reate a d d itio n a l

d i f f i c u l t i e s fo r Mexico and Venezuela.

On the other hand, the easing o f

in t e r e s t ra te s i s worth $3 b i l l i o n fo r each percentage p oint of in t e r e s t ra te
reduction and that i s a fa v o ra b le p ro sp ect.
F in a lly , with re sp e c t to the burden o f the debt, we note that the r a tio
o f in t e r e s t payments to exports shows only l i t t l e
next few y e a rs.

further reduction in the

Our p r o je c tio n shows th a t, even in 1988, 39 percent o f L atin

American exports w i l l go to cover the in te r e s t payments.

Lower in t e r e s t rates

would, o f c ou rse, be h e lp fu l in th is regard.

What Can Be Done About I t ?
What then can be done about the problem?

Are there any a c tio n s which

w i l l ease the th reat o f c r i s i s or reduce the long term burden?


I t i s not li k e ly that the debt s it u a tio n w i l l disappear q u ick ly from the

Even i f d e fa u lt can be avoided, and that i s our most probable outcome,

there w i l l be repeated n e g o tia tio n s, in them selves c o s t ly and d is r u p tiv e .


resource c o st fo r the developing economies o f L atin America w i l l con tin u e .
The debt overhang w i l l a f f e c t L atin American growth fo r many years to come.
The impact on the US trade balance and on US in d u s tr ie s w i l l remain fo r many
y e a r s.

There i s considerab le commonality o f in t e r e s t between the debtor

c o u n trie s in L atin America and the United S ta tes in r e s o lv in g the problem.
We cannot simply wipe out the d e b t, but we can lend support to measures
which w ill ease i t s


I t goes almost without saying that proper management o f economic p o lic y ,
so as to e s ta b lis h a healthy and growing world economy with r e a l i s t i c
r a t e s , i s a basic requirement.

The runup in r e a l in te r e s t ra te s was a

con trib u tin g fa c to r to the debt problem.
economic p o lic y :

in te r e s t

Much could be achieved with balanced

E asier monetary p o lic y and reaso n ab le, but not e x c e s s iv e ,

f i s c a l stimulus to se t the world economy on a f u l l employment growth path.
Lower in te r e s t ra tes would ease the burden on the d e b to rs;

the growth of

demand would provide markets fo r the products of the L atin American economies.
Other approaches in clu d e:


Increasing the f l e x i b i l i t y o f the IMF and o f the commercial banks in

d ealin g with debt c r i s i s s it u a t i o n s .

This in clu d es any measures which w ill

f a c i l i t a t e and smooth over the process o f debt re n e g o tia tio n and avoidance of
d e f a u lt .

A ddition al funding fo r the IMF and other org a n iza tio n s in volved in

the rescheduling process would be h e lp fu l.
2 . Stretch out the d e b t, reduce the i n s t a b i l i t y o f in t e r e s t r a t e s .


c r i t i c a l issu e here i s conversion o f short term debt at v a ria b le in te r e s t

ra te s in to longer term funding at s t a b le , p red ictab le in te r e s t r a t e s .


need to lengthen m a tu ritie s and to s t a b i li z e in te r e s t rates has been
recognized in the Mexican rescheduling and w i l l even tu ally be a part o f other
debt re str u c tu rin g as w e ll.
3 . D is tr ib u te the burdens o f more e q u it a b i li t y on a "no f a u l t " b a s i s .


issu e here i s not to hold one party or the other re sp o n sib le , but to recognize
that the debt has become burdesome to both debtors and c r e d it o r s .

Steps which

would reduce the ra te o f i n t e r e s t , perhaps by o ffe r in g public guarantees and
by issu in g new p r e fe r e n tia l c r e d its in to which outstanding debt can be
converted need to be con sid e re d .
It is

time to eva lu ate the long term im p lica tio n s of the debt overhang

and to take p o s itiv e ste p s to tear down a b arrier to world economic expansion .

Latin American E xternal Debt ( B i l l i o n s o f U .S . D o lla r s )








1 9 .0

2 7 .2

3 6 .2

3 8 .3

4 3 .6

4 6 .9

B r a z il

5 2 .9

6 0 .5

7 3 .3

8 7 .6

9 1 .6

1 0 0 .2

C h ile

7 .9

1 0 .9

1 5 .7

1 7 .2

1 8 .6

2 0 .0


6 .4

7 .5

9 .0

1 0 .3

1 1 .9

1 3 .3


4 0 .0

4 9 .0

7 4 .5

8 1 .9

9 0 .6

9 1 .4


3 1 .3

2 5 .5

2 7 .8

3 6 .5

3 3 .4

3 1 .6

1 5 7.5

1 8 0 .6

2 3 6 .5

2 7 1 .8

2 8 9 .7

3 0 3 .4

% Change








Wharton Econometric F orecastin g A s s o c ia te s , L atin American Economics
Outlook, F a ll 1983 and Spring 1985; F. Gerard Adams, E .P . Sanchez,
and M.E. Adams, "Can L atin America Carry I t s In te r n a tio n a l D eb t?"
Journal o f P olicy Modeling 5 ( 3 ) : 421 (1 9 8 3 ) .

L atin American Trade: T o ta l Imports and Exports o f the Six Major Countries
( B i l l i o n s o f U .S . D ollars)





5 3 .2

5 1 .0

2 .2


6 9 .5

6 8 .9

0 .6


7 8 .3

7 8 .3

0 .0


7 2 .0

6 0 .2

1 1 .8


7 3 .4

4 2 .4

3 1 .0


8 2 .3

4 5 .8

3 6 .5

Wharton Econometric F orecasting A sso c ia te s ,



U .S. Trade With L atin America ( B i l li o n s o f U .S . D o lla r s )

U .S . Exports

U .S . Imports

U .S . Merchandise


2 6 .3

2 4 .8

1 .5


3 6 .0

2 9 .9

6 .1


3 9 .0

3 2 .0

7 .0


3 0 .1

3 2 .5

- 2 .4


2 2 .6

3 5 .7

- 1 3 .1


2 6 .3

4 2 .3

- 1 6 .0

- 1 2 .7

1 0 .3

- 2 3 .0


*T o ta l U .S . Trade with twenty L atin American r e p u b lic s .

U .S. Bureau o f the Cnsus, Survey o f Current B u sin ess, March I s s u e s ,
1 9 8 0 -8 5 .


U .S . Trade with L atin American By Category o f Merchandise^
( B i l li o n s o f U .S . D o lla rs)


Imp. B a l.



4 .9

7 .2



B a l.



B a l.

-2 .3

3 .0

6 .5

-3 .5

3 .7

6 .9

-3 .2

3 .1

8 .2

- 5 .1

0 .8

1 .8

1 .0

0 .8

1 .7

1 .0

0 .7

2 .6

1 .2

1 .4

1 3 .7 - 1 2 .9

1 .7

1 5 .2 - 1 3 .5

1 .0

1 5 .4

- 1 4 .4

1 .0

1 6 .5

-1 5 .5

B a l.


Processed M aterials
2 .1

1 .3

0 .8
3 0 .4

9 .9

2 0 .5

2 2 .5

9 .8


1 5 .5

1 2 .4

3 .1

1 8 .7

1 6 .5

2 .2

3 9 .0

3 2 .0

7 .0

3 0 .1

3 2 .5

-2 .4

2 2 .6

3 5 .7

- 1 3 .1

2 6 .3

4 2 .3

- 1 6 .0


T o ta l U .S . trade with twenty L atin American re p u b lic s .
may not sum to t o t a l due to rounding.


C ategories

1984 fig u re s are e stim ated .
U .S . Bureau o f the Census, H ig h lig h ts o f U .S . Export and Import
Trades, Report FT990, December is s u e s .



E ffe c t o f the Latin American Trade Swing on the U .S . Economy*

Gross National Product
Real Gross N ational Product (7 2 $)
Employment (m illio n s )
Unemployment Rate (%)
Corporate P r o fits Before Taxes
Net Exports
Real Value-Added Output (7 2 $)
A g r i c ., F orestry and F ish e rie s
Durable Goods
Primary Metals
Fabricated Metal Products
Motor Vehicles
Nondurable Goods




-1 7 .0
- 7 .2
- .1 8
-5 .1
- 6 .1
- .7 2
- .2
- .1
-3 .7
-2 .8
-1 .1
-1 .0
- .3
- 2 .4

- 4 6 .0
- 1 6 .5
-.5 3
.4 5
-9 .4
- 1 4 .6
- 1 6 .5
- 8 .6
- 6 .3
-1 .0
- .6
- 2 .3
-1 .0
-2 .3
-5 .5

- 6 5 .0
- 1 8 .5
- .7 8
- 6 .4
- 1 6 .4
- 1 8 .5
- .5
-9 .6
-7 .0
-1 .3
-2 .5
-1 .1
- 2 .6
-6 .0


Figures are in b i l l i o n s o f US d o lla r s unles otherw ise in d ic a te d .


Wharton Econometric F orecasting A s s o c ia te s ,



Econometric F orecast fo r the Six Major L atin American Countries
( B i l li o n s of U .S . D o lla rs)









8 2 .3

8 4 .4

8 7 .9

9 3 .8

1 0 1 .9

1 1 1 .5

1 1 9 .5


4 5 .8

5 3 .1

5 7 .2

6 2 .5

7 0 .2

7 7 .4

8 3 .7

Trade Balance

3 6 .5

3 1 .3

3 0 .8

3 1 .3

3 1 .6

3 4 .1

3 5 .9

0 .2

-3 .8

-6 .9

- 1 1 .1

- 1 3 .8

- 1 2 .6

- 1 5 .8

3 0 3 .4

3 0 5 .1

3 1 0 .7

3 1 9 .7

3 3 2 .4

3 4 2 .2

3 5 8 .5

Current A c c t. B a l.
T o ta l External Debt
I n t e r e s t Payments/


0 .4 4

0 .3 8

0 .3 6

0 .3 8

0 .3 9

0 .3 6

Wharton Econometric F orecasting A sso c ia te s , Latin American Economic
Outlook, Spring 1 9 8 5 .



R eferences

Adams , F. Gerard, Enrique P. Sanchez and Mark E. Adams, "Can L atin America
Carry I t s In tern a tio n a l Debt? Journal o f P o lic y Modeling 1 9 83, pp.
4 1 9 -4 4 1 .

Adams, F . Gerard, "Review of W illiam C line In te r n a tio n a l Debt and the
S t a b i lit y of the World Economy," Journal o f P o lic y M odeling, 1984.

B o lin , W. H. and Jorge d e l Canto "LDC Debt Beyond C r is is Management, Foreign
A ffa ir s ",

1983, pp. 1 0 9 9 -1 1 1 2 .

C lin e , W illiam R ., "In te r n a tio n a l Debt and the S t a b i l i t y o f the World
Economy". Washington, D .C ., I n s t it u t e o f In te r n a tio n a l Economies,

C lin e , W illiam R .,

"In te r n a tio n a l Debt: System atic R isk and P o lic y R esponse".

Washington, D .C ., I n s t it u t e of In te r n a tio n a l Economics, 1 9 84.

Kenen, P eter, New York Times, March 6 ,


Rohatyn, F e lix "Testimony Before Committee On Foreign R e la tio n s ,'
January 17 , 1983.

US Senate,


Sanchez, Enrique,

"L a tin American C r i s i s " in Wharton Econometric F orecasting

A s s o c ia te s , Crunch, C r i s i s , Crash, P h ilad e lp h ia, P a .,


Wharton Econometric F orecastin g A s s o c ia te s , "What I f Latin America D efau lts?
P h ila d e lp h ia , P a .,


Wharton Econometric F orecasting A s s o c ia te s , L atin American Economic O utlook,
Sprin g, 1 9 85.

Representative O bey. Thank you very much, Mr. Adams. Mr.
Petty, why don't you proceed?

Mr. P e t ty . Thank you, Mr. Chairman; Senator.
In your opening statement, Mr. Chairman, you referred to a cer­
tain parallel emerging of thought with respect to Japan's surplus
with the United States and Latin America's trade impact on the
U.S. economy.
I didn't want to miss the opportunity to say that I don't see that
a parallel exists, that, in the first place, the development of eco­
nomic growth in Latin America has been an object of national
policy in the United States and other countries over the years in
terms of our development assistance program.
The second is that the yen is undervalued. I don't think of a
Latin American currency that I can say that for.
Third, I think that Japan does not have a large foreign debt to
repay. Indeed, it is equilibrating to the world's system to have
Latin America settle, improve its exports. It tends to be destabiliz­
ing for Japan to have an excessive trade surplus absent that debt.
Fourth, Japan's export performance is what created that surplus.
And to a large extent, the fifth, I would say the Latin American
import restrictions during the early periods of this adjustment
crisis are contributing elements to that trade surplus.
That's a digression, sir, but I did want to make a point that came
In my prepared statement, which I will highlight as I walk
through them, the United States-Latin relationship is both broader
and deeper than most people realize. We were reading Rousseau
and Voltaire 200 years ago, and gaining a common heritage of
thought which has stimulated our aspirations for generations.
These traditions fostered common inspirations, which make up
the prevailing sentiment within all the Americas.
Steadily, however slow each has been to recognize it, all of Latin
America and the United States have reached a degree of independ­
ence, partly political, partly historic and cultural, strategic, and
certainly economic. To be interdependent does not mean that each
cannot, if it must, get on without the other. Rather, interdepend­
ence is a reflection that the overall interest of each is enhanced by
a continuing, and even intensifying, relationship underpinned by a
basic recognition of mutual responsibilities and respect. Such has
long been the case for the United States with Canada and in recent
years, it has become more so for our friends in Latin America.
For example, one trend now creating a quantitatively stronger
linkage within the hemispheres, the unprecedented migration to
the north, along with a sizable expansion in tourism. This traffic
further serves to intermingle our cultural heritage and our social
Recent demographic figures bear this out. For other two genera­
tions, the dramatic growth of Latin America has added to the ex­
traordinary mosaic which is the United States and from which our
country has gained added vitality.

5 5 -5 9 0 O




The benefits of this hemispheric relationship have grown as they
have become fully two-sided, reciprocal, if not identical, advantages
grow, unevenly, nation by nation, to be sure, but certainly they
President Eisenhower’s initiative in 1959 to create the InterAmerican Development Bank, President Kennedy’s Alliance for
Progress, and President Reagan’s Caribbean Basin Program reflect
far more than political gestures. Chapultepec, the Rio Treaty, and
countless bilateral efforts are expressions of succeeding administra­
tions to reveal our mutual interests through increasing activity
with Latin America.
Commercially, of course, these interests are reflected in a host of
ways—from coffee and orange juice in the morning to tequilla in
the evening, with a range of goods during the day. Altogether, we
consume nearly $50 billion worth of imports from South America,
representing nearly 2 percent of our disposable income and a
higher percentage of our discretionary expenditures.
In the last 2 years, imports have surged with the strong dollar
and the emphasis on exports in Latin America, all to the benefit of
adjustment among the world economies.
Meanwhile, our exports to Latin America, while beneficial to our
own expanding and dynamic economy, have suffered significantly
for over 2 years—a result of the necessary, restrictive, and reces­
sionary actions which inflationary, debt-ridden societies needed to
employ temporarily. Our $12 to $15 billion export decline has hurt
U.S. employment levels, and stands as one more reason why it is in
our interest for these nations to regain sustainable economic
growth patterns.
Tourism is another example of the growing cultural and econom­
ic flow between the United States and Latin America. While trade
flows eclipse investment flows, the latter are still key ingredients
to our economic relationship. Investment also has a major impact
on the pattern of international trade, finance, and technology
Nonetheless, direct investments in Latin America are not always
remembered fondly, either by investors or by many of the coun­
tries. The attitude toward foreign direct investment has been
uneven when it has not been hostile, and investment growth in
Latin America has been much slower than in other areas of the
The current environment, however, is more constructive. The
prospects for the future might even be promising.
U.S. banks have loaned almost $90 billion to Latin American
countries, while banks in other major industrial countries loaned
$135 billion more. However, net new lending by commercial banks
has dwindled to almost nothing.
The tables I have in the prepared statement reflect this shift.
Starting in 1982, as a result of the debt crisis, GNP growth rates
in much of Latin America have plunged or turned negative. Per
capita incomes have been adversely affected, as nations retrenched
to put their economic houses in order.
To facilitate adjustment, Mexico, for example, suffered a per
capita income reduction of over 20 percent. While some others have

so far suffered less, all have recently foregone the growth critical
to their aspirations and key to their greater welfare.
Emergency economic adjustment needs preempted immediate
goals, a sacrifice necessary to best assure long-term growth. Politi­
cally, the equations involved near-impossible choices for the debtor
countries. In each case, the long-term benefits of the people dictat­
ed the harsh choices of severe economic restraints. Yet, happy sur­
prises sometimes appeared. Mexico's import restrictions proved an
unexpected boon to small and medium-sized Mexican businesses as
they responded to the need of supplying local industry and also in­
creased Mexican employment far beyond expectations.
Adversity brings forth strengths, as its burdens fall unevenly.
The United States itself has also suffered from the debt situa­
tion. Formerly buoyant markets have contracted. Payments have
been interrupted or stretched out many years. Losses suffered by
South American companies and banks have also had an impact on
U.S. investors. Finally, the efforts of Latin American countries to
generate trade surpluses in order to service external debt have led
them to devalue their currencies, making their exports more com­
petitive with U.S. goods.
More specifically, the U.S.-Rio Grande border area suffered se­
verely when its cross-border markets were restricted. The peso de­
valuation created substantial book losses on investments and de­
faults on loans, both of which resulted in tax-deductible losses.
Tourist bargains may have induced additional travel south, but
many Latins were forced to abandon property in this country. The
extent of the losses is as hard to identify as it is to quantify, re­
flecting the significant admixture of our economies.
To cite another example, even though frost harmed Florida
citrus groves, U.S. consumers avoided major price increases at the
breakfast table because Brazilian exporters stepped in to meet a
major portion of our demand for orange juice. Bad luck to the Flor­
ida growers, but benefits to the Brazilian exporters and reasonable
price stability to us as consumers.
Such is the interaction of our economies. Truly, we all benefit
most in a general atmosphere of sound growth and reasonable
price stability.
The major worldwide recession in 1981 bringing sharply declin­
ing commodity prices, a U.S. fiscal policy which has helped raise
interest rates to extraordinarily high levels, were also chief con­
tributors to the absence of enough foreign exchange to service
much Latin American debt.
Lending by commercial banks, U.S. and foreign, grew substan­
tially following the oil price increase of 1973 and 1979. As oil sur­
plus countries deposited their sudden new profits in London and
New York, the banks redistributed the funds as loans to world
economies. This intermediation was the basic equilibrating factor
in the world monetary system at the time.
Looking back today, we know that banks of the industrial coun­
tries were too eager to lend, and that foreign governments and for­
eign companies alike were too eager to borrow and press ahead
with their growth. It is clear, too, that official capital sources—bi­
lateral and multilateral both—did not have the resources to meet
this type of demand. This was not just a matter of overreliance

upon economic forecasts and misjudgment by financial people. Po­
litical leaders were not remote from the arena.
Moreover, this money was not wasted. The proceeds of the fi­
nancing were constructively employed for the most part and will be
repaid, although well beyond the dates originally intended. We lose
sight of the fact that these resources were directed toward mean­
ingful projects and that they also contributed substantially to the
development of institutional strength, qualified people, and experi­
enced organizations. To no small extent, their dividends are what
make adjustment possible today.
In summary, bank lending provided for these countries ten years
in which to build institutions and pursue economic growth after
the initial oil shock. And, in my judgment, without the economic
distortions in this country, combined with some poor planning and
execution on their own part, more of the developing nations stood a
very reasonable chance of missing the generalized debt problem.
Who is to say that the political risks occasioned by severe eco­
nomic restraints today are more than what might have existed in
the recent past, had the aspirations for growth in these countries
not been strongly served by a rather aggressive development pro­
gram aided by the large volume of bank loans?
In addressing the Latin debt problem, I find it useful to speak of
its three stages:
Stage 1, the crisis, evoking a short-term response of payment de­
linquencies and political and economic adjustment by the borrower;
Stage 2, establishing a meaningful economic program with the
requisite political support, earning the endorsement of the IMF,
and the extended rescheduling of debt by lending banks;
Stage 3, the long-run reconstitution of the economy and a pro­
longed period of adjustment.
The depth of the adjustments in these distressed economies has
not received widespread recognition. Their sacrifices through the
burden of adjustment belie a sometimes popular image of profliga­
cy. Mexico, for example, cut its budget deficit from 16 to 8 percent
in one year, and has cut it more since.
But this is the cost of prolonged imbalances in an economy: the
proverbial chickens coming home to roost. There is no alternative
to the implementation and steady pursuit of a combination of
fiscal, monetary, and foreign exchange rate policies appropriate to
each nation. Countries must pursue their long-run development at
an appropriate pace, and not be tempted by a quick-fix which will
only lead to a relapse. Too often we forget that it was the tortoise
that beat the hare. There is far more pain than glamor in balanc­
ing a budget, more pressure than applause in allocating limited re­
sources. This latter is the day-to-day chore of leadership and man­
The driving development imperative of our times is the aspira­
tion of people demanding necessities and seeking more—limited by
the reality of economic development processes that are too slow.
The urge to move faster proves, recurrently, irresistable. The re­
sultant distortions then require adjustment. Political leaders are
caught between their reading of their people's needs and the good
advice they receive about proceeding toward development in a

measured way with a reasonable blend of monetary and fiscal
It is my experience that intense crises breeds one of two reac­
tions—compounded misunderstandings and graduated animosities,
or a cooperative understanding fed by a commitment to work to­
gether toward the lowest cost solution.
In the present circumstances, the second and wiser path has
been chosen—never easily, not always happily, but certainly. How
else can one explain the Mexican initiative in April 1984 to provide
the financial assistance necessary in the early stages of the Argen­
tine program? Surprising, too, was the prompt and constructive re­
sponse of Brazil and Venezuela. It was a major new event in intrahemispheric relations and, in fact, more noteworthy politically
than economically.
So, my first conclusion is that the supportive, cooperative, “we
are all in this together, let's work it out" attitude has been sub­
stantially enhanced.
Second, understanding in this country of the dilemma of the de­
velopment—the twin realities I've just referred to—has improved
and a high degree of cooperation is underway. Indeed, it is a vital
ingredient for progress toward a solution.
Third, the debt rescheduling exercise has been truly extraordi­
nary. Bringing together the thinking of hundreds of bankers from
a couple dozen countries to bear on the particulars of a nation's de­
velopment needs is an achievement, indeed. More significant, to
have the conclusion reached by the bankers prove compatible with
the borrower's perception of its own best interest—that is an
achievement few may recognize.
Fourth, the process of reasoning through the issues together has
served to underscore where the interests of each of us really lie—
they lie together. Perceiving and understanding this can only en­
hance cooperation in the future.
Finally, the visceral reactions we all must have gone through at
one point or another gave way to fair conclusions reached through
serious consideration of the issues and the choices. Latin American
countries themselves, after going through this crucible of crisis,
have reevaluated where their interests really lie. One can only be­
lieve that the stage for increased cooperation in the future is well
set. Thank you, Mr. Chairman.
[The prepared statement of Mr. Petty follows:]

P repared S t at ement
The U. S.

The R e l a t i o n s h i p :

Extent and Nature
the Un i t e d S t a t e s - L a t i n American

i s both b r o a d e r and de e p e r

and i t becomes more so day by day.

in a l l


the Amer i c a s ,

our a s p i r a t i o n s

True a l s o ,


thought whi ch has s t i m u l a t e d

for gen erations.

Tr ue,

Danton and R o b e s p i e r r e

to some in South America and i g n o r e d to the Nort h.
the a b i l i t y

to r e a d,

was f ar more p r e v a l e n t
in e i t h e r

than most p e o p l e r e a l i z e ,

Two hundred y e a r s ago

were r e a d i n g Rousseau and V o l t a i r e ,

the common h e r i t a g e o f

were g u i d e s

J ohn R. P etty

R e l a t i o n s h i p w i t h L a t i n America

The e x t e n t o f


as P r e s c o t t

has p o i n t e d o u t ,

in the E n g l i s h - s p e a k i n g c o l o n i e s


the Spani sh or P o r t u g u e s e - s p e a k i n g c o u n t e r p a r t s ,

that o n l y p o i n t e d to a d i f f e r e n t


Mo r e o ve r ,

had i t s d i r e c t

a na l o g


in Mi randa,

These t r a d i t i o n s

path toward p o l i t i c a l

i n s p i r a t i o n o f George Was hi ngt on
B o l i v a r and San Ma r t i n .

f o s t e r e d common i n s p i r a t i o n s and s i m i l a r

a s p i r a t i o n s whi ch make up the p r e v a i l i n g s ent i ment w i t h i n

the Amer i c as .

They have g e n e r a t e d a c o n s i d e r a b l e

for a l t e r n a t i v e p o l i t i c a l
Of c o u r s e ,

and e c o n o mi c a p p r o a c he s

t h e r e have been s i t u a t i o n s ,


to our hopes.

sometimes r e c u r r e n t ,



al ways ephemeral;

when that p r e v a i l i n g s e nt i me n t has been


By and l a r g e

the t i e s

that bi nd have proven

much more e n d ur i ng than a ny t h i ng whi ch mi ght s e p a r a t e us


our common p u r p o s e s .


however s l o w we each have been t o r e c o g n i z e

o f L a t i n America and the Uni t ed S t a t e s have reached

a degree of


and c u l t u r a l ,


partly p o l i t i c a l ,

and c e r t a i n l y e c o n o mi c .

do e s not mean that each cannot
the o t h e r

Ra t h e r ,


intensifyin g

o f mutual
the c a s e




i t must

is a r e f l e c t i o n


Such has

the Uni t ed S t a t e s wi t h Canada,

i t becomes more so f o r our
For exampl e,


in L a t i n America.

one tr end now c r e a t i n g a q u a n t i t a t i v e l y


to the North

■■ a l o n g wi t h a s i z a b l e


Thi s

furt her


the hemi sphere

h e r i t a g e and our s o c i a l



■■ way to gauge how entwi ned t hes e

or New J e r s e y ,
blend o f


to a number o f



the unpr e c e de n t e d



i n t e r m i n g l e our c u l t u r a l

A quick

■* i f u n s c i e n t i f i c

t r a d t i o n s have become is

radio s ta t io n s

in New York

in C a l i f o r n i a or Texas or F l o r i d a .

the hemi s pheres

i nvo 1ve me nt ,


long been

and in r e c e n t

linkage wi th in

to l i s t e n

that the

under pi nned by a b a s i c

and r e s p e c t


s i mp l y

To be i n t e r d e p e n d e nt

- - g e t on wi t hout

o f each are enhanced by a c o n t i n u i n g and

f or

partly h isto rica l

the media




Recent demographi c
percent o f


the U.S p o p u l a t i o n

bear t h i s out.

is Hispanic


in o r i g i n .



o n l y two d e c a d e s ago H i s p a n i c o r i g i n was n’ t c o n s i d e r e d n u m e r i c a l l y

enough t o r e c o r d

in census da t a .

Some 4 . 5 p e r c e n t

o f our p o p u l a t i o n

is Spani sh or Po r t u g u e s e s pe a ki n g t o da y.

And over


the l a s t

to 1 1

the annual growth r a t e


the H i s p a n i c

in the Uni t ed S t a t e s has a ver a ge d 3 . 7 p e r c e n t



the c o u n t r y as a who l e .

For over


two g e n e r a t i o n s

the d r ama t i c growt h o f L a t i n Americans has added to the e x t r a o r d i n a r y
mos a i c whi ch i s

the Uni t ed S t a t e s and f rom whi ch our c o u n t r y

has ga i ned added v i t a l i t y .
economi c
o f what

impact o f

Far more s i g n i f i c a n t

t h i s growth


i ncre as ed His panic

than the

the more g e n e r a l


i n f l u e n c e has to b r i n g .

B e n e f i t s o f Thi s He mi s ph e r i c R e l a t i o n s h i p
The b e n e f i t s


t h i s h e mi s p h e r i c r e l a t i o n s h i p

grown as they have become f u l l y


to be s ur e ,

a dva nt a ge s grow

but c e r t a i n l y



I n t e r a me r i c a n Development

P r e s i d e n t Kennedy’ s A l l i a n c e



are e x p r e s s i o n s

for Progress,

our mutual


Amer i c a .

the Ri o T r e a t y ,

and P r e s i d e n t

f ar more than p o l i t i c a l
and c o u n t l e s s b i l a t e r a l

s ucc ee ding a dm i n i s t r a t i o n s



Pr esid ent Eis enho we r’ s

Reagan' s Ca r i b b ea n Basi n program r e f l e c t


-■ unevenl y n a t i o n by n a t i o n ,

they grow.

in 1959 to c r e a t e


to r e v e a l

i n c r e a s i n g a c t i v i t y wi t h La t i n


C o mme r c i a l l y ,
in a h o s t o f ways
to t e q u i l l a


of course,


from c o f f e e

i n t e r e s t s are r e f l e c t e d

and orange j u i c e

in the morning

in the e v e n i n g , wi t h a range o f manuf act ured goods

d u r i n g the day.

A l t o g e t h e r we consume n e a r l y $50 b i l l i o n

wort h o f

f rom South Ameri ca,

import s

p e r c e n t o f our d i s c r e t i o n a r y


r e p r e s e n t i n g nearly 2
In the

i mport s have s urged wi t h the s t r o n g d o l l a r
on e x p o r t s

in L a t i n America

among the w o r l d ' s

-- a l l

our e x p o r t s

to L a t i n Ameri ca,

two y e a r s


a result of

and r e c e s s i o n a r y a c t i o n s which

o f adj ustment


why i t

in our



while b e n e f i c i a l

have s u f f e r e d s i g n i f i c a n t l y

the n e c e s s a r y ,

in flationary,

Our $12 to $ 1 5 - b i l l i o n

hurt U. S.

and the emphasis

to the b e n e f i t

to our own expandi ng and dynamic economy,

needed to employ.

two y e a r s ,

e c ono mi es .

Meanwhi l e,

f o r over



debt-ridden societies

e x p o r t d e c l i n e has

and stands as one more reason


t hes e n a t i o n s

to r e g a i n s u s t a i n a b l e

e c o n o mi c growth p a t t e r n s .
Tour i s m is a not he r example o f
and ec o n o mi c

f l o w between the Uni t ed S t a t e s and L a t i n America.

by U. S.


to La t i n American c o u n t r i e s has

gone s t e a d i l y upward in the l a s t

f our y e a r s .

i n s t a n c e , more than h a l f a m i l l i o n U. S.

South American c o u n t r i e s .
Americans v i s i t e d

the g r o wi n g c u l t u r a l


and that

f i g u r e does

from the Ca r i b b ea n or Me x i c o .

Department o f Commerce,

residents visited

In t urn, more than a m i l l i o n South

the Uni ted S t a t e s ,


In 1983 a l o n e ,

a visit

to Mexi c o


To the

the same as a



t o Canada,

What a l l


in t r a v e l

and i t

i s not r e c o r d e d as o v e r s e a s

t r a v e l means

is an aver age o f $10 b i l l i o n

are s t i l l

t r ad e

f l o ws


key i n g r e d i e n t s

i nvestment

in new and improved c a p i t a l


to w o r l d ec onomi c growt h.

impact on the p a t t e r n s o f

and t e c h n o l o g y t r a n s f e r s .
the impact o f



some $35 b i l l i o n

in La t i n Ameri ca.





is a s i g n i f i c a n t

Investment a l s o has

import ant

that U.S.

Whi l e 20 p e r c e n t o f

a l mos t h a l f was


to our ec onomi c r e l a t i o n s h i p .



a nn ua l l y


Whi l e

a maj or




to c o n s i d e r ,


that was


have i n v e s t e d

in the p e t r o l e u m

in ma n uf a c t u r i n g and about 11 p e r c e n t

in banking.


i nves t ment s

not always remembered f o n d l y ,

the c o u n t r i e s .


in L a t i n America are

e i t h e r by i n v e s t o r s or by many

Legend and c i r c u m s t a n c e s may va r y ,


The a t t i t u d e

toward f o r e i g n d i r e c t

has been uneven when i t has not been h o s t i l e ,

in L a t i n America has been much s l o we r

areas o f

the w o r l d .


and the f ar more s o p h i s t i c a t e d
new i nves t ment s

the c u r r e n t

•- not


and i nvestment
than in o t h e r

With the p r e s e n t g e n e r a t i o n o f

which are not so h e a v i l y


in e x t r a c t i v e

i n v e s t me nt s ,


s t r u c t u r i n g and a r r a n g i n g o f

to menti on more s e n s i t i v e management

envi ronment

i s more c o n s t r u c t i v e .

The p r o s p e c t s

the f u t u r e mi ght even be p r o mi s i n g .
Bank l e n d i n g ,

banks have


is a d i f f e r e n t

l oaned al mo s t $90 b i l l i o n



to L a t i n American c o u n t r i e s ,


wi t h banks

in o t h e r maj or

b i l l i o n more.
in U. S.

Thi s

i n v e s t me n t s ,


f or Latin




addi ng $135

is s u b s t a n t i a l l y more than the $35 b i l l i o n
and c l e a r l y
investment ,


has been an import ant channel
As the accompanyi ng c h a r t

net new l e n d i n g by commerci al banks

has d wi n dl e d to al mos t n o t h i n g .
Ou t s t a n d i n g Bank Clai ms on L a t i n America
(in b illi o n s of dollars)

U. S. Banks
BIS r e p o r t i n g banks
U. S. Share








3 9%

Annual Net New Bank Lendi ng t o La t i n America
(in b illio n s of dollars)
U. S. banks
BIS r e p o r t i n g banks
U.S. Share


$350 b i l l i o n ,



and i n t e r e s t



L a t i n American debt

More r e v e a l i n g ,

the debt




l a s t year came to

payments on that debt were $37


the c o s t

of servicing

payments were a s u b s t a n t i a l

L a t i n American e x p o r t s


39 pe r c e n t

o f both goods and s e r v i c e s .

t hems el ves amounted to 29 p e r c e n t o f


expo r t s .
growth r a t e s

in 1982,

as a r e s u l t


the debt



in much o f La t i n Ameri ca have pl unged or turned


Per c a p i t a

incomes have been a d v e r s e l y a f f e c t e d

as n a t i o n s


to put

To f a c i l i t a t e
a per c a p i t a
some o t h e r s

a dj us t me nt ,

Me x i c o ,

ec o n o mi c houses
f o r exampl e,

have so f ar


the growth c r i t i c a l


to t h e i r


in or der


income r e d u c t i o n o f o ve r 20 p e r c e n t

to t h e i r g r e a t e r w e l f a r e .



have r e c e n t l y


and key


Emergency ec onomi c adj us t ment needs p r e - e mp t e d

a sacrifice



the e q u a t i o n s

i n v o l v e d near

the d e b t o r c o u n t r i e s .
the p e o p l e d i c t a t e d


to b e s t a s s u r e

In each c a s e


l o n g - t e r m growt h.

impossible choices

the harsh c h o i c e s

Yet happy s u r p r i s e s


long-term be ne fit s


s e v e r e eco nomi c

sometimes a pp e a r e d.


pr o ve d an u ne x p e c t e d boon to s mall and

me d i um- s i z ed Mexi can b u s i n e s s e s as they res po n de d to the
need o f


strengt hs


Impact o f



i t s burdens


Adversity brings


uneve nl y.

the Debt Pr obl em on the U.S Economy

The U. S.


has a l s o


f rom the debt

Formerly buoyant market s have c o n t r a c t e d .
been i n t e r r u p t e d or

situatio n.

Payments have

s t r e t c h e d out many y e a r s .

Lo s s e s


by South American compani es and banks have a l s o had an impact
on U.S.




to g e n e r a t e
debt have

making t h e i r

led them to de v a l ue

s e v e r e l y when i t s

on l o a n s ,

the U. S.


many L a t i n s were f o r c e d


Ri o Grande b o r d e r area s u f f e r e d

book l o s s e s

bot h o f which r e s u l t e d

T o u r i s t b a r g a i n s may have



to s e r v i c e

c r o s s - b o r d e r markets were r e s t r i c t e d .

devaluation created

The e x t e n t

o f L a t i n American

in o r d e r

e x p o r t s more c o m p e t i t i v e wi t h U.S.

More s p e c i f i c a l l y ,


the e f f o r t s

t r ad e s u r p l u s e s

the l o s s e s

in t a x - d e d u c t i b l e

induced a d d i t i o n a l

to abandon p r o p e r t y
is as hard to

The pes o

on i nve s t ment s and




in t h i s c o u n t r y .

i d e n t i f y as




to q u a n t i f y

- reflecting

the s i g n i f i c a n t

a dmi xt ure o f

our eco n o mi e s .
To c i t e

anot her



even though f r o s t

harmed F l o r i d a

U.S consumers a v o i d e d maj or p r i c e

the b r e a k f a s t

incre as es

t a b l e b e c a us e B r a z i l i a n e x p o r t e r s

s t epped

in to meet a maj or p o r t i o n o f our demand f o r o range j u i c e .
Bad l uck t o the F l o r i d a g r o we r s ,
e x p o r t e r s and r e a s o n a b l e p r i c e
Such is


in a g e n e r a l

reas onable p r i c e




we a l l

atmosphere o f sound growth and


the Debt Pr obl em on the Fi n a n c i n g System

L a t i n America has a b s o r b e d
last century,

foreign capital

and f rom time to time

c o u n t r y pr obl ems n e c e s s i t a t i n g
debt p r obl em is more g e n e r a l




there have been


more than j u s t

the p o l i c i e s

Others b e s i d e s

bankers di d not a n t i c i p a t e


to the B r a z i l i a n

f o r us as consumers.

i n t e r a c t i o n o f our eco n o mi e s .

b e n e f i t most


but b e n e f i t s





the c u r r e n t

the b o r r o wi n g c o u n t r i e s

th e ms e l v e s .

the economi c devel ome nt s

the 1 9 8 0 ’ s.
In f a c t ,

the maj or wor l d wi de r e c e s s i o n

s h a r p l y d e c l i n i n g commodi ty p r i c e s ,
whi ch has h el ped r a i s e
high l e v e l s ,


were the c h i e f

o f enough f o r e i g n exchange

in 1981

and a U. S.




to e x t r a o r d i n a r i l y


to the abs ence

to s e r v i c e much L a t i n American


The debt pr o bl e m o f d e v e l o p i n g c o u n t r i e s
-- and L a t i n c o u n t r i e s

are e a s i l y

has had p o t e n t i a l l y maj or e f f e c t s
of various countrie s,
( 2)



upon ( 1 )

substantia lly
' 79.

the banki ng systems

both b o r r o w e r e s and l e n d e r s ,


As o i l

new p r o f i t s

the o i l




Thi s


in the w o r l d monetary

we know that banks o f


pr e s s ahead wi t h t h e i r growt h.

-- b i l a t e r a l

not have the r e s o u r c e s

and that




f o r e i g n government s
to b o r r o w and

is c l e a r ,

and m u l t i l a t e r a l

to meet t h i s


that o f f i c i a l


type o f demand.


di d

j u s t a mat t er o f o v e r - r e l i a n c e upon ec o n o mi c f o r e c a s t s

and mi sj udgment by f i n a n c i a l
were not

The p r o c e e d s o f


t h i s money i s n e i t h e r a l l


gone nor wa s t ed.

the f i n a n c i n g were c o n s t r u c t i v e l y employed

the most part and w i l l

the d a t e s o r i g i n a l l y

be r e p a i d ,


r e s o u r c e s were d i r e c t e d
they a l s o c o n t r i b u t e d


remote from the arena.

Mo r e o v e r ,



the banks r e d i s t r i b u t e d

and f o r e i g n companies a l i k e were t o o ea ger



the time.

L o o k i n g back t o d a y,



i n c r e a s e s o f 1973

to wo r l d e c o n o mi e s .

c o u n t r i e s were t o o eager

was not

and upon

and f o r e i g n ,

surplus c o u n t r i e s d e p o s i t e d

was the b a s i c e q u i l i b r a t i n g
s ys tem at

U. S.

in London and New York,

the funds as



i n t e r n a t i o n a l monetary sys t em.

Lendi ng by commerci al banks,



in g e n e r a l

although well

We l o s e s i g h t o f
toward me a n i ng f u l



the f a c t


to the devel opment o f


in stitutional




To no s mall e x t e n t !

make adj us t me nt p o s s i b l e
In summary,
ten y e a r s



the d i v i d e n d s are what


bank l e n d i n g p r o v i d e d

in which to b u i l d

growth a f t e r

p e o p l e and e x p e r i e n c e d




s hock.

the e c onomi c d i s t o r t i o n s

these c o u n t r i e s

and pursue ec o nomi c

And in my judgment,

in t h i s c o u n t r y ,


wi t h some poor p l a n n i n g and e x e c u t i o n on t h e i r own pa r t ,
more o f

the d e v e l o p i n g n a t i o n s

s t o o d a ver y r e a s o n a b l e chance

o f m i s s i n g the g e n e r a l i z e d debt pr obl em.

the p o l i t i c a l


Who is

o c c a s i o n e d by s e v e r e e c onomi c r e s t r a i n t s

today are more than what might have e x i s t e d

had the a s p i r a t i o n s

not been s t r o n g l y

to say

f or growth

in the r e c e n t

in thes e c o u n t r i e s

s e r v e d by a r a t h e r a g g r e s s i v e devel opment

program a i d e d by the l a r g e volume o f bank l o a n s ?
In a d d r e s s i n g the L a t i n American debt pr o bl e ms ,
it useful

to speak o f

- - S t a g e one.


th r e e s t a g e s ;

the c r i s i s ,

o f payment d e l i q u e n c i e s

I find

e v o k i n g a s h o r t r t e r m res po n s e

and p o l i t i c a l

and e c onomi c a dj us tment

by the b or r ower ,
- -Stage


wi t h the r e q u i s i t e


. e s t a b l i s h i n g a me a n i ng f u l ec onomi c program

s up p o r t ,

e a r n i n g the endorsement

IMF, and the e xt end ed r e s c h e d u l i n g o f debt by l e n d i n g

b a nk s .
St age t h r e e .

the l o n g - r u n r e c o n s t i t u t i o n o f

and a p r o l o n g e d p e r i o d o f adj us t ment

the economy


The depth o f
has not

the a d j us t me nt s

in t hes e d i s t r e s s e d e c o n o mi e s

r e c e i v e d w ide -s pre ad r e c o g n i t i o n .

Th e i r


through the burden o f a dj us t ment b e l i e a sometimes po p u l a r
image o f p r o f l i g a c y .

Me x i c o ,

f o r exampl e,


f rom 16 t o 8 p e r c e n t o f GNP in one y e a r ,

and has

i t more s i n c e .
But t h i s



the c o s t

of prolonged

is no a l t e r n a t i v e

exchange r a t e p o l i c i e s
must pursue t h e i r
pa c e ,

imbal ances

to the

i mpl e me nt at i o n and s t ea d y



and f o r e i g n

to each n a t i o n .


that beat

Too o f t e n we f o r g e t
the hare.


in b a l a n c i n g a b ud get ,

in a l l o c a t i n g


to -da y chore of



f ar more pai n than

more p r e s s u r e


Thi s

than a p p l a u s e


i m p e r a t i v e o f our

■■ l i m i t e d by the r e a l i t y

that are t oo s l ow.

reading o f

is the day-

l e a d e r s h i p and management,

The d r i v i n g de vel opment


The urge to move f a s t e r
The r e s u l t a n t




and s e e k i n g

o f eco nomi c devel opment p r o c e s s e s


pr oves


then r e q u i r e

l e a d e r s ar e caught between t h e i r

t h e i r p e o p l e ’ s needs and the good a d v i c e

r e c e i v e about p r o c e e d i n g toward devel opment


in a measured

way wi t h a r e a s o n a b l e b l e nd o f monetary and f i s c a l


i t was the

the a s p i r a t i o n o f p e o p l e demanding n e c e s s i t i e s

a d j us t ment .


l o n g - r u n de v el o pme nt at an a p p r o p r i a t e

and not be tempted by a q u i c k f i x whi ch w i l l

l ead to a r e l a p s e .


in an

the p r o v e r b i a l c h i c k e n s coming home to r o o s t .

p u r s u i t o f a c o m b i n a t i o n o f mo net a r y ,


i t s budget



The Current St atus o f

the Economic R e l a t i o n s h i p

is my e x p e r i e n c e that

two r e a c t i o n s :


intense c r i s i s

compounded mi s u n d e r s t a n d i n g s and gr a d ua t e d

or a c o o p e r a t i v e u n d e r s t a n d i n g f ed by a commitment

t o work t o g e t h e r

toward the l o we s t c o s t

In the pr e s e n t c i r c u m s t a n c e s ,
path has been chosen
but c e r t a i n l y .
in A p r i l



■- never e a s i l y ,

s ec ond and w i s e r

not always h a p p i l y ,

How e l s e can one e x p l a i n

of 1984,

to p r o v i d e

in the e a r l y s t a g e s o f

a s si sta nce necessary

the A r g e n t i n e program?

It was a maj or new event

r e l a t i o n s and,

the Mexican i n i t i a t i v e ,

the f i n a n c i a l

t o o was the prompt and c o n s t r u c t i v e
Ve n e z ue l a.

b r e e ds one

in f a c t ,


r e s p o n s e o f B r a z i l and
in i n t r a - he mi s p h e r i c

more n o t e w o r t h y p o l i t i c a l l y


So, my f i r s t
"we are a l l


in t h i s




the s u p p o r t i v e ,


l e t ' s work i t o u t " a t t i t u d e

has been s u b s t a n t i a l l y enhanced.
S e c o n d , u nder s t a nd i ng in t h i s c o u n t r y o f
o f development
■■ has

- the twin r e a l i t i e s



I just

the dilemma


and a high de g r e e o f c o o p e r a t i o n
is a v i t a l



is under

for progress


a solution.
Th i r d , the debt r e s c h e d u l i n g e x e r c i s e has been t r u l y
o f bankers

Br i n g i n g t o g e t h e r

the t h i n k i n g o f hundreds

from a c o u p l e dozen c o u n t r i e s

to bear on the

p a r t i c u l a r s o f a n a t i o n ’ s devel opment needs
in i t s e l f .

More s i g n i f i c a n t ,

is an achi eveme nt

to have the c o n c l u s i o n r e ac hed

by the bankers prove c o m p a t i b l e wi t h the b o r r o w e r ’ s p e r c e p t i o n


own be s t



I think i t ' s

-• that

is an achi evement

al mos t a m i r a c l e .

few may


Four t h , the p r o c e s s


r e a s o ni n g through the

o f us r e a l l y


they l i e


F i n a 1l y , the v i s c e r a l

in the f u t u r e .

r e a c t i o n s we a l l must have gone

through at one p o i n t or anot her gave way to f a i r
reached through s e r i o u s c o n s i d e r a t i o n o f
L a t i n American c o u n t r i e s

through t h i s c r u c i b l e o f c r i s i s ,



increased co op era tio n

o f each

P e r c e i v i n g and

u n d e r s t a n d i n g t h i s can o n l y enhance c o o p e r a t i o n



has s e r v e d t o u n d e r s c o r e where the i n t e r e s t s


the i s s u e s and the

t he ms el v es,

a f t e r going

have r e - e v a l u a t e d where t h e i r

One can onl y b e l i e v e
in the f ut ur e

is we l l


the s t a g e f o r

Representative O bey. Thank you , Mr. Petty.
Let me say before I begin on my questions that I think you mis­
understood my point in my opening statement. I was not suggest­
ing that there was somehow a series of parallel lines that you have
underlying the causation of our trade deficit with Latin America
versus Japan, for instance. The only point I was trying to make,
and it's a very simple one, it is that these days, almost all of our
attention is focused upon our economic problems with Japan. Out­
side of the occasional reference to what an individual government
is doing in Latin America, there's very little attention being fo­
cused on the fact that there is a definite domestic benefit to be
gained by our providing similar attention to the problems that we
have in Latin America.
And the point I was trying to make is that to the extent that we
focus upon “the Japanese problem," in quotes, as being the only
major problem we have in terms of our own trade deficit, to that
extent, we continue to ignore the real role that a healthy Latin
America can play in expanding our own economic opportunity,
something which I think Mr. Adams' statement spelled out quite
Mr. Adams, in that regard, Senator Proxmire has often asked
the question here of other witnesses, including Ms. Norwood from
the Bureau of Labor Statistics, she is often asked the question, how
many jobs have we lost because of our trade deficit situation?
You have made an attempt to quantify the job loss that we are
experiencing because of Latin America's troubles. How do you
arrive at the figure that you use in your testimony?
Mr. Adam s. Well, in this case, what we did was really rather
simple. We began by looking to see how much of a swing there was
in that trade balance, the same kind of number that you referred
to in your opening statement.
Then we argued that that's at least one indication of the kind of
swing that was necessary in order for the Latin American coun­
tries to meet their debt obligations, make the interest payments on
their debt, effectively, bring their current account balance back
into some equilibrium.
And then what we did was we simply introduced that kind of an
adjustment into the trade numbers of the Wharton Econometric
model. This is a very large, very complex model of the U.S. econo­
my. We recognized, to some extent, the composition of these im­
ports and exports. We made the adjustments in the appropriate
categories. And then we allowed the model to operate. We com­
pared the result that we obtained to a base solution which didn't
have these adjustments and we found that with that kind of an ad­
justment, we lost almost 800,000 jobs.
Now, that really is a result of spinning the whole system. There
are multipliers that operate. There are specific industrial impacts
that operate. But that gives us an approximate measure of what
the impact is throughout the whole economy.
Representative O bey. I don't suppose that your model enables
you in assessing the impact in terms of job loss, I don't suppose
that model enables you to tell us where those jobs have been lost,
except as you indicated in your statement, that that job loss has
occurred primarily in the manufacturing sector.


Mr. Adam s. We do get some breakdown by----Representative O bey. By “where," I meant geographically.
Mr. A dam s. But geographically, we do not. That would be a
tough job. You really need a much more complex system than we
have here to do that.
I think that there are two kinds of impacts. Mr. Petty made the
very valid point that we can see some of that impact directly in
those areas along our southern border, for instance, that connect
with Mexico. It’s immediately apparent there.
But what this work suggests is that that impact is more wide­
spread in the United States, that it hits the automotive industry
where it’s located and other miscellaneous manufacturing indus­
tries, which means an impact which extends beyond the border
areas throughout the whole country.
Representative O bey. Let me ask a question. We’ve all been as­
suming that economic—and I’d like both of you to answer the ques­
tion—we’ve all been dealing with assumptions, whether we’re
trying to pass a budget resolution or look at other questions, we’ve
all been dealing with assumptions on economic growth which
appear to be somewhat higher than those which we’re likely to ex­
perience over the next year.
If the United States—I gather, Mr. Petty, you feel that if the
U.S. economy continues to grow at 3 percent or more a year, that
that would be sufficient to avoid a resurgence of the Latin debt
What if the U.S. economy were to grow over the next year or two
at the 2.2 figure which has been recorded over the past three quar­
ters? How significantly would that exacerbate the Latin American
problem and what variables would you have to look at in determin­
ing whether or not it would be a significant problem?
Mr. P e t ty . I’ve generally thought that the 3 percent is, indeed, a
rate of growth in the industrialized countries which would permit
normal equilibrating factors to take place; 2.2 is at the lower end of
that range. It would be compensated somewhat, I imagine, by a
lower interest rate and maybe by some secondary growth generated
by a lower interest rate.
You could conceivably offset that eight-tenths of 1 percent GNP
growth—I’ll defer to Professor Adams on this—but something on
the order of 3 or 4 percent interest rate reduction in terms of cap­
ital flows for Latin America.
So I would postulate that a 2-percent or 2.2-percent growth rate
would have a lower interest rate environment than some of the
models have now been forecasting and that that would mitigate the
adverse impact significantly, if not substantially.
My concern is if the growth is not even 2 percent. There, indeed,
I think is a scenario for which I have no final act and that would
be much more difficult for adjustment.
Representative O bey. What if the interest rates did not decline to
the degree to which you would postulate?
Mr. P e t ty . Clearly, the cheese would bind.
Representative O bey. I mean, there are pressures on the Fed
both ways.
Mr. P e t ty . There are, indeed, and one of them is the concern
that we all share that if the lesser developed world does not have

the capacity to service its debt. How that's weighed by the Fed
open market committee vis-a-vis the other elements, I'm not sure,
but it would be an important factor just as our strong dollar is an
important factor.
Representative O bey. Mr. Adams.
Mr. A dam s. I would largely support what Mr. Petty has said,
that there is, after all, a significant element of tradeoff. A s the
economy softens, there will be an impact on interest rates and, to
some extent, that will offset the trade impact. One could make an
attempt to quantify that.
But there is something of a complication in that, which is that
the exports of Latin America are not only demand-driven, but they
are also, to some extent, supply-driven. The exchange rates in
Latin America will continue to drop if needs for foreign exchange
aren't met. This won't have an immediate impact, but I suspect
that exchange rate adjustment in terms of trade adjustment will
allow them over a period of time to continue to export even if the
world economy is going somewhat more slowly.
Indeed, if they can't continue to export and if the banks are not
willing to provide additional credits under those circumstances,
then we are on the high road toward default.
I don't think that will happen. I think, most likely, even with a
slowing economy, they'll find it more difficult to export, and they
have to export at even more adverse terms. But they'll do their
damnedest to continue to do so. Frankly, I think, as we look at our
banks, we may be tempted to do our damnedest to enable them to
do so because if they don't export, they're simply unable to meet
their obligations.
Representative O bey. Senator Proxmire.
Senator P r o x m ire . Thank you , Mr. Chairman.
Mr. Petty, you're chairman of the Marine Midland Banks and
it's great to have you and this distinguished expert from Wharton,
Mr. Adams, here as a panel. You're a fine panel for this panel, and
I'm sure for many other purposes, too.
I'd like to ask you first, Mr. Petty, what prospects, in your judg­
ment, there are for Argentina? As you know, Argentina has had a
1,000-percent inflation in the last year. That means that if you
were making $20,000 a year, that by the end of the year, that
would be worth about $2,000. In other words, it's absolutely devas­
tating, a tremendous effect on that economy.
Your general conclusion for the Latin American countries, by
and large, is highly upbeat and optimistic, and it was very wel­
come, coming from an expert like you. But President Alfonsin has
asked the Argentine congress to give him what seems to me to be a
textbook-perfect cure for inflation. It's very similar to what the
Germans did after World War I. It consists, as you know, of a payas-you-go fiscal policy. It would be a drastic, wrenching change for
that economy, because they printed money for 25 percent of their
And then he also proposes a series of sharp spending cuts as part
of that fiscal policy, especially in military spending, a series of tax
increases, legislation that would require a fixed—forced savings, I
should say—from high income Argentinians, wage-price controls,
and a 1000:1 revaluation of Argentine currency.


The New York Times on Saturday reported that there was very,
very powerful opposition to this austere program, including the
opinion of economists and bankers that it was too much. One econ­
omist, I think, said it was like giving a cancer patient chemothera­
py, drugs, and x-ray treatments all in the same day, and a feeling
that it would totally collapse the economy.
Now my questions are, first, will Alfonsin get his way? Second, if
he does, will the program work? And—well, then I have another
followup question on that.
First, will Alfonsin, in your judgment, get his way?
Mr. P e t t y . Senator, you’ve shown your characteristic capacity to
go to the heart of the matter and ask the toughest question.
It’s a political choice that the president of the country is making,
and I can’t second-guess that. Whether cutting inflation from 20
percent a month to 8 percent, he had the opportunity 15 months
ago, 16 months ago when he came into power, and he chose to go a
little bit slow. In my last meeting with him, he made clear the
point that—I think his phrase was, “Bringing inflation down under
control has proved much more difficult than I originally anticipat­
He came into that office, frankly, I think, unprepared for the as­
signment of reorganizing the economy of Argentina. He had won
an election which he hadn’t expected to win and the next thing he
had to do was to reorder the economy and do that in 60 days. And
they didn’t. And he was forming some new alliances with the Paranistas, or a new restructuring of the Paranista influence, and he
was at the same time committed to the program of sending the
military back to the barracks.
He is assessing again how much authority he has in the country
at this time. A banker can advise what to do, but the choice has to
be the political leader of that country. I simply can’t guess that.
I’m sure he’s confident that he can do it; otherwise, he wouldn’t
make this choice. That it has risks, there’s no doubt. No doubt.
Senator P r o x m ir e . In your view, can it work?
Mr. P e t t y . This is the type of program that can work. This is the
type of program that will work. They had three reorganizations of
the Argentine economy in the last decade or two, the same general
type of program where they had to bring down the share of the
government in the economy, which, by the way, had a very large
percentage of the transportation and railway industry consuming
those large deficits, and a strong opposition toward changing the
featherbedding practices in parts of the industry. And they’ve
tucked away at it. He’s taking another hard program.
I think it can work because the basic resources in the country
exist, because the institutional strengths are strong, and I think, in
the last analysis, the alternatives are few.
Senator P r o x m ir e . Well, the part of it that seemed to be the
shakiest was the proposed wage-price controls. You see, they tried
that in Argentina before and it didn’t work there. We tried it here,
of course. It worked in World War II, but it hasn’t worked, except
under war conditions. They don’t have war conditions now. They
say the labor unions are opposed to it. Much of the business com­
munity is opposed to wage-price controls, and the experience has
been bad.

Mr. P e t ty . And how long it lasts and how you phase it in to the
post-price freeze environment is critical.
Senator P r o x m ire . Do you think they could succeed if they don't
get wage-price controls? Are wage-price controls essential?
Mr. P e t ty . I think it's essential to have an announcement in
effect within the entire economy that he means business, that
things really have to be dealt with in an aggressive way. Wage
freezing is not a long-term solution. Wage freezing can only be a
short-term device for a transition to a more enduring system.
Senator P r o x m ire . H ow will this affect United States trade with
Mr. P e t ty . In the short term, it will certainly hurt it; in the
longer term, as they're successful, and I think they can be and will
be, it will help, although most of Argentine trade is with Western
Europe, relatively less with the United States. We compete togeth­
er for wheat, in particular, and they're underselling us in the
wheat market today.
Senator P r o x m ire . H ow about the ability of Argentina to repay
its debts, including the debts to American banks?
Mr. P e t ty . I think they'll demonstrate that capacity, Senator.
The numbers, relative numbers at different points in the past are
not substantially different than what they were at earlier crises.
The difference here is it's a more general problem.
It's a problem this time as it has been in the past that Argentina
and the leadership reflects sufficient confidence in their program
and their results, that capital held by Argentines abroad will be re­
patriated. So the capital flight problem or holding their reserves
overseas, they'll be encouraged to bring it back into Argentina.
And that will be a major ingredient of their increased debt service
Senator P r o x m ire . Mr. Adams, how do you assess the effects of
this program on the Argentine economy?
Mr. Adam s. I think it's very difficult to forecast. I go along with
pretty much everything that Mr. Petty has said. The critical issue
is the degree of confidence and support that Mr. Alfonsin has.
Senator P r o x m ire . That seemed to be what the New York Times
article focused on. They seemed to imply that it was unlikely, pos­
sible, but unlikely, that he would get the support he needed.
Can you give me any assessment as an expert on that, or do you
think it's just something we'll have to wait and see?
Mr. A dams. N o, I feel not sufficiently close to give an assessment
of that. I suspect it's a little difficult to say, anyway, on the basis of
past history because this does seem to be, in a sense, sort of a first
positive step, the only step, I think, that Argentina could take to
set things right.

Senator P r o x m ire . Mr. Petty indicated that there's a likelihood
that the first effects may be adverse and in the long run, it would
work out. The question is would they have staying power.
The first effect is to throw people out of work and to depress the
economy and businesses fail and so forth. It's very, very hard for a
congress, the Argentine Congress, in this case, to stay with the pro­
gram. And the question is, as the inflation has been so bitter and
so cruel, do they recognize that they've just got to take their medi­
cine, as painful as it is?

Mr. A dam s. I agree with that and want to simply say that it's a
very difficult one to call in the case of Argentina.
Senator P r o x m ir e . Let me ask you, Mr. Adams, and Fd like Mr.
Petty to comment, too. If the U.S. trade position with Latin Amer­
ica improves, say we swing from an adverse balance of $16 billion,
which it was in 1984, according to the figures that you provided.
Won't that have an adverse, even a crushing, effect on the econo­
mies of Latin America as it goes from $16 billion adverse to a bal­
ance of trade so that they don't have that $16 billion payroll bal­
ance? And don't the Latin American countries desperately need
the foreign exchange engendered by their favorable balance of
trade to pay interest on their foreign debt, including their debt, of
course, to our banking institutions in this country?
Mr. A dam s. I think the answer to that is yes, and I think that's
how we all can interpret the difference between the trade disequi­
librium between the United States and Latin America and the
United States and Japan.
There's no question in my mind that if the situation is to be han­
dled, we must continue, and we will continue, a trade deficit with
Latin America.
In the long run, we have to ask ourselves whether there are
ways of easing out of this situation—perhaps lower interest rates,
larger flows of capital toward Latin America, things like that. But
in the short run, there's no question. The only way in which these
debt obligations are going to be met is if Latin America exports
more than it imports.
Senator P r o x m ir e . As far as Argentina is concerned, Mr. Petty
pointed out that much of their trade is with Europe. So that might
not affect us directly. Mexico, of course, it's the other way. And, in
general, I presume that much of their trade is with us, then, unfor­
tunately, we can't have it both ways. We can't have a favorable
balance of trade without it having an adverse effect on their ability
to repay our debt.
Isn't that right, Mr. Petty?
Mr. P e t t y . I quite agree with that and, I think, it is important to
disaggregate Latin America because the trade patterns of countries
and the debt service problems are quite different by country. But
in the aggregate, I agree with Professor Adams.
Senator P r o x m ir e . I just have one other question. Mr. Adams, in
your prepared statement, you say that you expect improvement in
the economic situation throughout Latin America, except in Argen­
tina—no, I guess that's not it. Where is it?
Senator P r o x m ir e . Here we are. Some industries are badly in­
jured by foreign competition and they've called for an overall 20percent increase on tariffs on all goods coming into the United
That's an appealing and attractive proposal to many people be­
cause the tax, in the first place, wouldn't fall on Americans, al­
though, ultimately, it would be higher prices. But it wouldn't fall
on Americans and it would help, at least in the short run, jobs in
this country.


Let me ask you first, Mr. Petty, what will such a policy have on
Latin American economies in their debt crises if we applied it just
across the board, 20 percent, regardless of the country?
Mr. P e t ty . I think it would be a brutal slap in the face. When we
have this commonality of interest, we have an interest really in
having Latin America work out of its debt problem, and when they
want to work out of it, which is what they do through exports, to
restrict their access to our markets, it would be contrary to our
total policy. It would be short-term bad for the U.S. consumer, it
would be medium-term bad for the U.S. consumer, it would be long­
term bad for the U.S. consumer.
I hope we do just reject outright such restrictions. They'd have a
way of compensating for it by their exchange rate, for example, as
well, which would probably fuel more inflation and be counterpro­
ductive if they overdid it.
Senator P r o x m ire . I think that's my time.
Representative Obey. That's all right.
Senator P r o x m ire . One other question. My time is up, but the
chairman has generously allowed me to ask it.
Mr. Adams first and then Mr. Petty.
Today's New York Times reports that the World Bank may guar­
antee a portion of loans Chile would get from commercial banks.
Brazil and Paraguay have received similar loans. A spokesman for
the Center for International Policy, an institution that monitors
human rights, says that the loan guarantees would be used by
Chile's President Pinochet, and I quote, “to tell his military that he
can increase repression without risk of losing vital foreign sup­
Would you comment on the problem of economic support for op­
pressive governments?
Mr. Adam s. I personally think that the political questions greatly
complicate the economic questions here. I imagine that there are
people who are split between a concern for the repressive policies
of Mr. Pinochet and the desire to improve economic relationships
between us and Chile and to improve the well-being of Chilean citi­
zens, which has been disastrously hit in the past few years.
I don't know how to reconcile those alternative objectives.
I do think that, in principle, the idea of providing in appropriate
places some guarantees so that the flow of commercial credit will
continue and continue at moderate interest rates is a good idea.
But I don't know how to resolve the political and economic compli­
Senator P r o x m ire . Mr. Petty.
Mr. P e t ty . In the first place, the report that I saw is new to me
and one of the things that I want to do this afternoon is learn more
about it. I'm surprised by it. I would assume that, upon further in­
vestigation, it would pertain to incremental lending and not cer­
tainly prior loans rescheduled.
Second, I think the World Bank is the tool of economic develop­
ment and in its charter and the treaty that creates it and every­
thing else, it is not to be an instrument of political policy.
I think the aggressive steps we must take against the Pinochet
government and their repressive policies should not be pursued
through multilateral lending agencies, but through the political


channels, and that the long, steady road we have toward economic
development and building up the infrastructure where the individ­
ual aspirations can be achieved can’t be turned on and off by each
morning’s headlines.
Senator P r o x m ir e . Well, they can’t be turned on and off by each
morning’s headlines, but doesn’t it depend on the degree of repres­
sion and how extensive it is and so forth? It seems to me if we have
a human rights policy, the one reliable, nonmilitary action we can
take is to use our great economic capability.
And if we overlook that, aren’t we condoning repression?
Mr. P e t ty . We have many objectives. In Chile, for example, one
of which is for economic development in the country. A second one
is to stop repressive government. The third is to move toward popu­
lar democracy as soon as possible.
Do we abandon one and forget the other, or go after one and
abandon the other two momentarily? Or do we pursue a balanced
program of driving toward these three objectives, recognizing that
if you were to analyze each step from 11 to 12 in the afternoon, it
may not be consistent with the other ones.
I think, basically, it is in our interest to shore up the economy,
help them help themselves, and the economic faucet-turning has
not, of itself, been an effective tool toward achievement of political
ends. But it has been an affective program in creating improved
welfare in that country.
So I would vote for using our administration, through normal ex­
ecutive branch actions, to foster the changes that are going on and
must be advanced in that country.
Senator P r o x m ir e . Thank you, Mr. Chairman.
Representative O bey. I would like to follow up on the question
that Senator Proxmire was asking earlier because, frankly, I was a
little disconcerted with the response that both of you provided. And
maybe you meant it. Maybe you want to do that. But I would doubt
My impression from your response to Senator Proxmire’s earlier
question is that you gave the impression that—you said we ought
to disaggregate Latin America’s trade situation, separate it out
from Japan’s. It’s different. They need it in order to be able to pay
back their debt.
My concern is that that seems to leave the impression that we
have no alternative except to continue that trade deficit with Latin
America for the foreseeable future, that there really isn’t a hell of
a lot that we can do about it if we want to see Latin America con­
tinue to grow.
I think that was the impression that I got from your response.
But isn’t it true that if we had a different mix of fiscal policy and
monetary policy in this country, if we had a tighter budget, lower
deficit, which would allow the Feds to be more relaxed in their
monetary policy, isn’t it true that that would ease the Latin Ameri­
can debt problems and at the same time ease our dollar valuation
problems so that we could perhaps have a better world on both
ends of the trading stick, with them being able to provide less of
their resources to repay old loans and with us having a better op­
portunity to export because of the improved dollar situation on the
part of our own currency?

Mr. P e tty . Yes, sir. I think my response was in the short-termtime framework. I believe, given net capital flows and the current
environment, adverse or neutral to Latin America, without their
having an export surplus in the short term, 1 year or 18 months
ahead, it is difficult to see how they would earn the capacity to
service their debt.
Representative O bey. Yes.
Mr. P e tty . I would hope with the better domestic economic
policy of the United States, a better interest rate environment and
growth, that there would be restitution of at least some type of cap­
ital flows, including direct investment, which I would think is not
absurd to think will be a major factor in the future.
Then it’s possible—Chile, for example, could have—the United
States could have a trade surplus with Chile, but Chile could have
a trade surplus with Western Europe, and Asia, and, in total,
through their copper exports, for example, have a trade surplus to
service it.
So if we looked at it bilateral for this country, that was my point,
by disaggregating it with the Senator, that we could have a trade
surplus in one case and maybe not in another, or when that coun­
try has a worldwide surplus.
Representative O bey. Mr. Adams.
Mr. Adam s. Well, I’d be the first one to agree with you that a
different mix of policy would make a difference. I do think we need
to ask ourselves whether, over a longer time perspective, there
isn’t something that we should do in order to restructure that
Latin American debt, to stretch it out over a long period of years,
to try to reduce the interest rates, and even at some cost to us. A
more stable debt, more assured of repayment, is a gain which we
might be willing to offset with somewhat lower rates of interest.
And, finally, I agree that once Latin America is back on reasona­
ble health, we could see more capital flow. And ultimately, we
would probably see a multilateral trading world where we aren’t
constantly buying more from Latin America than we are selling
But trade is, in part, at least, north-south in the Western Hemi­
sphere and, as a consequence, it may well be that the United
States will have a bilateral deficit with respect to Latin America
and, hopefully, a bilateral surplus with respect to other countries.
Representative O bey. Let me ask Mr. Petty—in light of Mr.
Adams’ suggestion about something further being done about that
long-term debt, I think I know what you’re going to say, but, none­
theless, I’ll ask the question.
You have a lot of people who are saying, not just in the Congress,
but out, that we’re really fooling ourselves, that these debts really
aren’t going to be repaid long term. There may be an effort made
now and a very admirable one, to try to repay them, but that over­
hang is a long one and a heavy one, and that, really, in the end,
we’re going to be lucky if we can just keep this ball rolling in the
air and that we really aren’t going to see banks get back that
That’s a devil’s advocate question. Respond to it any way you
want to. But, I mean, are we really fooling ourselves? Do we really


have a Rube Goldberg approach going on here, pretending that
we're going to, that those debts are going to be eventually repaid?
Mr, P e t ty . I think, Mr. Chairman, 2 years ago, at somewhat
similar hearings on Eastern Europe, I got the questions about the
world coming to an end, the sky was falling, and that the capacity
for Eastern European countries to reduce their obligations. And
talking about the generalized debt problem in the world, they felt
that, you know, you just had to wipe it all off and start anew.
But I think events have shown that that's not what you have to
do. I think what you have to do really is to encourage those coun­
tries to develop the type of economic program that's sustainable,
that the lenders themselves must work with them and make the
concessions from normal lending policies that they do only when
they have to, and that the system will adjust over time, and that
the type of rescheduling we've done in some countries—and here I
remind Professor Adams that having an 8-year grace period on
principal and 6 years from year 9 through 14 for principal retire­
ment, is a very substantial debt rescheduling, and once again, an
adequate concession. And I think that's deserved because the coun­
tries have shown a capacity to meet their—a will to repay their
debt and a commitment to establish their economic house in order,
if you will.
So I am not discouraged. I'm disappointed that it hasn't hap­
pened faster. But we don't live in that type of world. I think this
debt will be repaid and I believe we can manage this in a manner
that is consistent with those countries achieving their own long­
term development objectives.
Representative O bey. Well, let me follow up on that. Obviously,
right now, we are looking at the situation from the vantage point
of a time in which the situation has certainly been looking rosier
than it was 2 years ago. The question is is it looking rosier than it
might look 3 years from now.
You say that what is necessary is for these countries to establish
a repayment program that is sustainable and all of that. We have
the question of what's sustainable economically. We also have the
question of what's sustainable politically.
When I wear my other hat, I'm chairman of the Subcommittee
on Foreign Operations of the Appropriations Committee, and my
ranking member is Congressman Kemp. Congressman Kemp has
spoken at great length about his concern about the political pres­
sures that this repayment puts on people like Mr. Alfonsin, for in­
His program sounds terrific now, sounds serious now, sounds de­
termined now. But what happens in 4 months, 6 months—Lord
knows how long—what happens if people say, forget it, baby. We're
not going to sit in the dentist's chair for that long—without novo­
cain. We're going to look for some relief. And what happens if you
start having—what happens if you have one explosion or two down
there that says, to hell with it. We ain't going to do it.
Aren't we really—I won't say closer to it—but don't we really
have more of a likelihood that we're going to face that with one,
two, three countries than we might think if we simply look at it in
terms of the way the world is looking right now, today?

Mr. P e tty . Well, Congressman Obey, we’re full of uncertainties.
You’re asking a question to which there are no clear answers.
In the fall of 1982, when the new Mexican program was being
formulated just upon the inauguration of the new President, the
type of limitations and cutbacks in budget, everybody said, it’s not
possible that the Mexican economy is going to react adversely and
it won’t hang together.
One of the reasons that I emphasized in my prepared statement
the institutional strength that has developed in Latin America and
the political leadership that’s needed to make this pay off is that’s
really where the answer to your questions lay. Who, for example,
would have imagined 4 months ago that the newly elected Presi­
dent of Brazil would not be with us right after that, when he had
just fired the imagination of his country and developed a team to
lead an aggressive economic program to bring the house in order?
But, yet, we see that the people he designated and the new Presi­
dent are working hard to fulfill that commitment.
I think there’s this recognition that you can’t cheat Santa Claus,
that you’ve got to develop an economic program that is sustainable
over time and that’s the best way to increase the welfare of your
I think that message is understood. It’s never liked. It’s never
easy. It’s not without its uncertainties. And I’m sure we’re going to
have more crises. I’m not quite sure where they’re going to occur,
but I’m very convinced that the players in the game recognize
where their interests lay, recognize the advantage of working their
solutions out together, and they’re going to deal with them.
Representative Obey. Well, I’m struck by the differences between
the program announced by Mr. Alfonsin recently—cold turkey,
hard, quick, get it over with quickly—and the Israeli approach to
dealing with their economic problems. I don’t know how familiar
you are with that. I think there are two questions that come to
mind in terms of what will work economically, which model—the
Alfonsin model or the more cautious incremental approach being
taken by the Israelis, is likely to be economically effective?
And also, the other side of the question—which of those models
is likely to be more politically sustainable? The theory behind the
Alfonsin approach is you get it over fast, you try to make your ac­
tions dramatic enough so that people can begin to experience the
benefit sometime more quickly than they would if the pain were
gradually inflicted. You have the other concern being whether or
not any government that institutes that kind of program can stick
around long enough to see it through.
I don’t know if you have any observations on that.
Mr. P e tty . It clearly is a contrast. Of course, Alfonsin does not
have a coalition government and the role of the military figures
differently in Tel Aviv than it does in Buenos Aires. And I think
that those are key ingredients of different political equations that
each of the leaders of the countries are dealing with.
And I think it’s true that the Israeli Government had a lot of
very direct, outside, bilateral assistance from the United States to
pick up some of the check in foreign exchange terms that Argenti­
na has not had.

President Nixon sent me to Buenos Aires in 1971 to tell the
President of Argentina that we were not going to give him any
money until he had his own economic house in order. As a special
ambassador, that was not a happy message to carry.
Similar trips aren’t quite taken to the Middle East because of the
whole configuration of the Middle East situation. And that’s part of
the equation, too.
Representative O bey. Well, I would say that this administration,
I think, has worked pretty hard to try to convey to the Govern­
ment of Israel that they aren’t going to just let loose the money
purse without some real action. There have been some other pres­
sures that events, as well as politics, have brought on them in that
regard, which are unfortunate.
Let me ask you, because you’re frankly much more optimistic
than I am about the Latin American situation—at least I think you
How long do you think it will be before we see a significant
return to voluntary lending on the part of financial institutions to
Latin America?
Mr. P e t t y . This will be selective, Mr. Chairman. In Mexico, be­
ginning over 1 year ago, there was a modicum of voluntary lending
on trade transactions. In a country such as Peru, I don’t think it’s
on anybody’s calendar, and you would sort of have to address each
situation in each country. Clearly, the commercial banks would
look first toward trade transactions, whether it’s to finance U.S. ex­
ports or Latin exports of a 3- and 6-month normal trade transac­
tion basis. And that would be minor in numbers.
It is encouraging to reestablish the commercial confidence for
further trade and significant in that sense, but not in significant
numbers in aggregate capital flows.
I think you’re going to see in some countries, again, Mexico, first
because they received with the crisis first and dealt with it most
rapidly and are further along, the question about the direct invest­
ment. I don’t see Mexico changing their direct investment laws, but
I do imagine that they will be administering them with more flexi­
bility than they have in prior years. And I can well imagine that
Mexico will be viewed in a happier light as a direct investment
source. Tourism fostering, notable examples.
I would think the question is being considered as Brazil presently
has a law which permits bank loans—Brazilian obligations result­
ing from bank loans to be converted to finance direct investment.
Some direct investments are now being considered, some is being
done. I’m looking at some myself, which would shift the structure
of the liability and convert it into a direct investment.
There’s no way to quantify how significant that’s going to be attitudinally. It certainly is significant.
Down the road, if 3 or 4 years from now there’s world growth
and the economies are looking on the up, it is well within the
imagination of investment bankers in the marketplace to see other
ways to stretch out and to finance Latin American debt.
I would anticipate that happening if there is that growth and
sustained prospect of recovery. I can’t say when; I can’t say exactly
how it will be done. But, clearly, there’s a whole host of able people

in New York and London who make a living doing that and the
market place will, the marketplace could accommodate that.
Representative O bey. Mr. Adams, do you have any comment that
you want to make on that question?
Mr. Adam s. N o; I think that's a complete answer, coming from a
banker, probably one that's more authoritative than the one that I
could give.
Representative Obey. I have two or three other questions that I'd
like to ask both of you, which I'll just give you. You might want to
respond for the record to flesh out some holes here.
Let me ask you—do either of you have anything else that you'd
like to say?
Mr. P e tty . N o, I appreciate the chance to speak, Mr. Chairman,
Representative Obey. Nothing?
[No response.]
Representative O bey. All right. Thank you both very much. The
committee stands in recess.
[Whereupon, at 11:45 a.m., the committee recessed, to reconvene
at 10 a.m., Friday, June 21, 1985.]


FRIDAY, JUNE 21, 1985
C ongress of the U n ited S tates ,
J o in t E co n o m ic C o m m itte e ,

Washington, DC.

The committee met, pursuant to recess, at 10 a.m., in room 2359,
Rayburn House Office Building, Hon. David R. Obey (chairman of
the committee) presiding.
Present: Representatives Obey and Scheuer; and Senator Proxmire.
Also present: Don Terry, Democratic staff director; and Kent
Hughes, Sandra Masur, and John Starrels, professional staff mem­

Representative O bey. Good morning. Let me explain first that we
are probably going to have a vote very quickly, and if we do, Fll
have to leave. And Til be back as quickly as I can. Let me simply
say that before we hear testimony this morning, that the interna­
tional economic situation for the United States is anything but
In 1983, we suffered a merchandise trade deficit balance of pay­
ments of $61 billion. If you add in the cost of the insurance and
freight, the 1984 deficit rises to $123 billion on a GIF basis.
On Tuesday, the Commerce Department announced the United
States has become a debtor nation for the first time since World
War I, and we have seen a number of projections indicating how
long it will take before we pass Brazil as the world's No. 1 debtor
The list of current American trade problems is long and growing.
Most of our attention has been focused, however, on the uncompeti­
tive dollar, the competitive challenge of Japan. Today marks the
second of three hearings on an often neglected question—the
impact of the Latin American debt crisis on U.S. exports and em­
ployment in the U.S. financial system.
This past Monday, the committee received some sobering testi­
mony from Prof. Gerard Adams of the University of Pennsylvania
and Wharton Econometrics. According to Professor Adams, the $7
billion surplus with Latin America in 1981 became a $16 billion
deficit by 1984, a $23 billion deterioration in just 4 years.

5 5 -5 9 0 0



Over the same period of time, our bilateral trade with Japan de­
teriorated by just over $18 billion and we lost some employment as
well as we lost exports.
Mr. Adams calculated the loss to be somewhere in the neighbor­
hood of 800,000 jobs in 1984. Among the markets affected by the
Latin debt crisis has been construction equipment and farm imple­
ments. The problems have extended beyond manufacturing to
effect some of the most competitive service industries as well.
Construction activity and, therefore, business for U.S. engineers,
architects, and oversea builders has declined as a result of slow
growth in the region.
To help demonstrate that the loss of jobs and lost exports are not
just an economic abstraction, we have invited two prominent busi­
nessmen whose companies have extensive economic ties with the
Latin American market. And I am pleased to have with us here
this morning Mr. John Stevenson, vice president of J.I. Case Co.,
and the president of J.I. Case Credit Corp. J.I. Case is headquar­
tered in my own State of Wisconsin, although not in my district.
We call Milwaukee and points south of that the Deep South
where I come from. And I’m also very pleased to have Mr. Jack
Richards, vice president of Kellogg Rust, a major oversea builder.
Mr. Richards is also chairman of the action group of the Interna­
tional Engineering & Construction Industries Council. And I did
not know this, but Mr. Richards tells me that he was born in Madi­
son, WI. ril not hold that against you. [Laughter.]
But I am happy to have both of you here. That was a bell which
just rang and so I will leave at this point to vote and be right back.
I have read both of your prepared statements and so I know what
you're going to say, but if each of you would proceed to summarize
your statements for about 10 or 15 minutes, I would ask Senator
Proxmire to take over while I retreat and vote.
Senator P r o x m ir e [presiding]. Thank you very much, Mr. Chair­
Mr. Stevenson, we are honored and delighted to have you here.
You are a constituent of mine. I don't know if you're a constituent
of Dave's or not. I suppose you have so many employees in the
State, some of them undoubtedly are. But we are very happy to
have you with us and honored. You're a great company and do
some fine work and I want to hear everything you say. Please go

Mr. S te v e n s o n . Thank you very much. I'd like to introduce my
colleague, Senator, Mr. Moe, who is our general manager of inter­
national sales finance.
Senator, members of the committee, my name is John Stevenson,
vice president of J.I. Case Co., and president of the J.I. Case Credit
Corp. We are indeed very pleased to have been asked to present
our experiences to this committee regarding the negative effect
that the country debt has had on our ability to export. We do
thank you for this opportunity.

The J.I. Case Co. was founded in Wisconsin in 1842, is a world­
wide leader in the manufacture of agricultural and construction
equipment. We are the second largest manufacturer of construction
equipment in North America and the third largest worldwide.
With the acquisition of International Harvesters' agricultural divi­
sion, we are the second largest manufacturer of agricultural equip­
ment in North America.
The majority of our products are manufactured in nine locations
in the United States for worldwide distribution. In addition, we
have manufacturing plants in England, France, Germany, Spain,
Brazil, and Australia. The J.I. Case operations employ approxi­
mately 17,000 worldwide, down from over 28,000 in 1980. With the
acquisition of International Harvester—and I hasten to add, the
numbers I just gave you were prior to the International Harvester
acquisition, which took place on February 1. With the acquisition
of International Harvester, our current employment is 23,400, of
which 14,239 are in North America.
By State, total employment in Wisconsin is 3,800; in Iowa, 1,870;
in Illinois, 2,300; in Indiana, 590; in Oklahoma, 330; and in Kansas,
170. In addition, we have over 4,000 employees in marketing, parts
supply, and support services throughout the United States.
For J.I. Case, not including International Harvester, the 1984
worldwide sales were over $1.7 billion, down from a high of $2.4 bil­
lion in 1979. International sales, which traditionally have been
from 35 to 38 percent of our total sales, dropped to 21 percent in
Our U.S. export sales, excluding shipments to Canada, which we
treat as part of our North American operations, have declined from
a high in 1981 of $168 million to $86 million in 1984, a 49-percent
decrease. The 1985 shipments are down an additional 25 percent on
an annualized basis.
More specifically, U.S. export sales to the marketing territories
of Asia-Pacific, Africa-Middle East, and Latin America have de­
clined steadily since early 1981 by some 59 percent. Latin America
alone has declined 68 percent since 1980.

Let us move now to a discussion of the question at hand—the
international debt problem and its effect on U.S. exports, especially
Latin American debt and its effect on J.I. Case.
We have all heard and read the reasons given for the 1982 to
1983 country debt crisis; sharp increases in interest rates, major
drop in export and commodity prices, commercial banks and export
credit agencies sharply cut back their lending and support.
During 1983, 30 countries rescheduled their loan agreements
with the IMF and commercial banks; 17 countries requested the
Paris Club to reschedule their official debt. In the 1983 to 1984
period, there was discussion of a debtors cartel and the possible re­
pudiation of debt. Recently, we have seen new signs of the linger­
ing debt problems with bank failures and new requests for further
reschedulings. Internally, at the Case Co., we review regularly our
country exposure and sales achievements by region. Not surprising­


ly, we find our problems center in the same 30 or so countries, pri­
marily in Latin America.
During the past 2 years, a number of the major debtor countries
have made significant progress for resolving their debt problems.
They have made improvements in their trade account balances, in­
creasing their exports while curtailing imports, enabling them to
make debt service payments. Ironically, however, as Mr. Adams
told this committee on Monday: “The United States stands at the
flip side of this improvement," since the bulk of Latin American
trade is with the United States and significantly in the manufac­
turing sector.
Therefore, action taken by these countries, the so-called austerity
measures, actually hamper if not prevent our ability to export into
those markets. Actions such as increases in the import tax, which
can range from 20 to 25 percent in Latin America, the complete
closing of the borders for certain products unless it is locally manu­
factured, requirements for barter or countertrade in order to
import, and 150-percent deposit requirement in order to obtain an
import license.
In addition to these direct restrictions there are other disincen­
tives such as the favorable treatment given to products manufac­
tured within the Latin American region. These may be imported at
lower duties and with subsidized financing, such as from Brazil, Ar­
gentina, or Mexico. Those U.S. exporters without local assembly
are shut off from these markets. Fortunately, we have a Brazilian
plant but it produces only a limited construction equipment prod­
uct line and, thus, we are restricted from many markets.
The countries of Latin America had been traditional markets for
the Case Co. in both agricultural and construction equipment. We
extended the normal terms of the trade offered by the industry,
short-term financing to dealers during a floor plan period, with the
flexibility to roll over or convert to medium term if needed to sup­
port a retail sale, and, of course, if the creditworthiness of the
buyer warranted. Export credit insurance agencies developed the
programs around these terms and provided commercial and politi­
cal risk coverage subject to country and by eligibility. During the
period of growth in these countries in the late 1970’s and the recy­
cling of the petrodollars, continuing sales and collections allowed
dealers to service their debt.
But, then, along with other economic problems, as interest rates
rose and bank lending was shut off, country liquidity was severely
pressured. More importantly, local bank liquidity and various gov­
ernment actions and restraints severely hampered the ability of
private buyers to borrow locally.
In some countries, foreign exchange moratoriums were officially
imposed such as Mexico or, in others, such as Venezuela, where
there were unofficial restrictions but virtually no dollar availabil­
And, of course, the accompanying massive devaluations when
dealers and retail customers saw their dollar get increased two,
three, and four times its original value. It was during this time
that much was written about the massive country debt problems
and impending financial crisis. But most of the discussions cen­
tered on the public sector debt to commercial banks and official


export credit agencies. Rarely was mention made of the private
sector debt due to suppliers such as ourselves, who had always pro­
vided a large part of the trade financing needed by these countries.
For the most part, we have had to wait until the public debt to
commercial banks has been negotiated and rescheduled. Trade debt
has been given second or even third priority, or we find ourselves,
a private foreign company, negotiating with a private local compa­
ny for a rescheduling of their debt, companies who, for their very
survival, demand long terms, cash settlements at a fraction of book
value, forgiveness of late interest and below market refinancing
If equipment was involved, many times we were forced to repos­
sess it, if we legally can. Even then, it usually cannot be reexported
to the United States or any other country. And of course, the value
of that repossession is much less than the total that is due us.
Many times, we have no choice in the refinancing. We are forced to
operate under Government mandated long-term refinancing—5, 10
years in some cases.
Some may comment that the problem is one we created our­
selves. Admittedly in some cases, that may be true. However, we
mention this to point out that we suppliers also have large
amounts owing to us. Unfortunately, we do not have the same
amount of influence on the debtor that commercial banks and
export credit agencies have with the public sector. But yet we real­
ize that if we want to protect our outstandings and maintain pres­
ence in a particular market, we must accept these negatives, pro­
vide long-term refinancings to our customers, while in many cases
granting additional credit to keep them operating and maintain
the market presence.
It means that we must offer creative financing packages which
keep further political and commercial risk to a minimum, while
waiting for a government to lift the moratorium on dollar pay­
ments for previous shipments such as in Venezuela or Argentina.
Or it may mean that we must accept Government issued long­
term bonds and payment of debt. Paper which we have to hold to
maturity unless we are willing to take a very deep discount and
sell to a third party.
We would like to point out that our company is not unique in
these problems. Other U.S. companies in our industry can attest to
similar debt and negotiation problems in Latin America. There are
times, of course, when we may not be willing to take additional
risk for any reason. In this and every case, we first pursue commer­
cial bank financing or credit insurance cover for the buyers. But as
you can well expect, these institutions are unwilling to increase
their exposure to a country with which they have severe payment
problems. It is for these countries that we rely on the financing
provided by the international development banks and the U.S.
AID. For many countries, funds provided by these agencies is the
only way through which they can purchase needed products and
spare parts and the only way we can make the export sale.
The strength of the dollar was undoubtedly restricted U.S. ex­
ports. However, we have no doubt that for our company the Latin
American debt problem has been the major deterrent.

To summarize—obstacles for our export sales efforts are: Heavy
debt burden has forced Latin American countries to maintain
direct and indirect restrictions on imports; high tariffs to discour­
age imports of new equipment; import substitution is heavily en­
couraged if not required; export-oriented industries are empha­
sized; severe shortage and restrictions on dollar availability;
double- and triple-digit inflation and continuing devaluations; em­
phasis on barter and countertrade, usually for nontraditional
export products; and local bank credit availability is very restric­
What can be done?
As a company, we will continue to maintain a presence in all the
Latin American markets. Prudently, we will continue to provide fi­
nancing support in the major markets without credit insurance for
support, if necessary. We expect the economic recovery process in
Latin America to be long term. But we must continue our presence
or lose markets which will take years to recover.
What can the U.S. Government do?
Develop monetary and fiscal policy which will lower interest
rates to ease the debt burden on debtors.
Continued support for the U.S. export credit agencies; namely,
FCIA and Eximbank.
Continued funding of the multilateral lending institutions.
Develop a trade policy which exporters can look to for consisten­
cy, a policy which at the very least is not a disincentive to our
export efforts. Thank you very much.
Representative O b e y [presiding]. Thank you, Mr. Stevenson. Mr.
Richards, why don't you proceed?

Mr. R i c h a r d s . Thank you, Mr. Chairman. I am Jack Richards,
vice president of Kellogg Rust Co., an international engineering
and construction company group with world headquarters in Hous­
ton, TX. We are one of the Signal Companies and soon to be, we
believe, part of a larger corporation known as Allied Signal.
I am representing the International Engineering and Construc­
tion Industries Counsel—IECIC. We are delighted to be here and
have the opportunity to talk a little about the impact of the debt
crisis on our engineering-construction industry.
Before going further, I would like to introduce my colleague from
Price Waterhouse, who has been the project leader of a very inter­
esting report sponsored by the IECIC. It has the purpose to estab­
lish the size and nature of the AEC—Architect Engineering Con­
struction industry—and to measure the secondary effects these ex­
ports have on the U.S. economy.
I have not been able to put in the prepared statement approxi­
mate information on several of the LDC debt laden countries in our
company experience. I have since been able to obtain some approxi­
mate information which, if you should desire, I can provide for you.

Representative O b e y . Sure.
Mr. R i c h a r d s . IECIC was established in 1967 when our industry
recognized the serious problems causing the erosion of the U.S.
competitive position in our industries. We believed these problems
and mutual interests could be best dealt with under the umbrella
of IECIC thereby providing a collective contact with the Congress
and Federal agencies, financial institutions, and the private sector.
We are composed of four major associations—the American Con­
sulting Engineers Council; the American Institute of Architects,
representing a large number of professional architects; and the As­
sociated General Contractors composed of some 8,500 general con­
tracting companies and the National Constructors Association con­
sisting of 40 of the largest U.S. firms with nearly half a million em­
ployees engaged in the design, engineering, and construction of
major industrial facilities throughout the world.
As an association today, IECIC represents some 4 million AEC
employees in the United States. Our total contribution to the U.S.
gross national product was approximately $230 billion gross reve­
nues or over 7.5 percent of the total. This figure is higher than the
contribution of other major industries. For example, petrochemical
is only 6 percent; banking, 5; and transportation and communica­
tions is 6.5. In 1982 our contribution was very much lower than it
was in the previous 20 years when it averaged something like 9
and 10 percent.
In the 1970’s as multinational companies took advantage of ex­
panding farm markets and cheaper productive resources abroad,
there was a large increase in investment in oil refineries, chemical,
and petrochemical processing plants, and this was fueled and sub­
stantially expanded our engineering construction business.
The importance of this market increased markedly in the 1970’s
because at the same time, particularly in the late 1970’s, there was
a large overall decline in domestic project awards.
In the early 1980’s, the worldwide recession, however, combined
with the slowdown in revenue growth of oil exporting nations
caused a leveling off and more recently a sharp decline in interna­
tional construction activities. Continuing worldwide inflationary
pressures and high interest rates have restricted further the ability
of many nations to finance new projects. This has caused a sharp
drop in industrial development and expansion in both developed
and developing countries, many with large amounts of long-term
external debt.
As a consequence, the industry has a greatly reduced business
volume, resulting in a loss of jobs and revenues to the U.S. econo­
In June 1984, we engaged Price Waterhouse to undertake a study
defining and measuring the benefits to the U.S. economy of AEC
exports. We have, as an industry, been concerned with the liability
of data published on the performance in the international sector.
The principal private source is the engineering news record which
compiles reports annually on the volume of oversea business. But it
has many deficiencies, not the least of which is that awards are re­
ported by each company participating in a project thus double­
counting exists between prime or managing contractors.

Finally, awards do not represent the net U.S. revenues from AEC
The Government studies of our industry concentrate more on
theoretical or policy implications, not on economic impact. Com­
merce Department studies rely heavily on ENR data and are there­
fore suspect.
The Price Waterhouse survey covering the years 1982 and 1983
was designed to overcome these difficulties. It was administered to
a representative sample of AEC industry firms and the results pro­
jected to the entire export industry.
The overall response was excellent. The international firms ac­
count for 76 percent of known revenues stemming from foreign
construction projects and 62 percent of known revenues from for­
eign AEC projects.
I think you will be interested in the following brief review of the
significant findings of the study. We have included in our prepared
statement as appendix A, a more detailed executive summary of
the report. It shows that the AEC industry had export revenues in
1983 of approximately $19.6 billion of which $4.8 billion represents
direct U.S. revenues. The total 1983 export revenues were more
than $2 billion lower than in 1982 and U.S. export revenues de­
creased by $800 million from the previous year.
What's more important, the biggest reduction was in the materi­
als and equipment sector which declined by $900 million from 1982
to 1983.
The significant results are that this $19.6 billion generated an
additional $6.1 billion domestic revenue. For every billion of direct
revenues produced by these AEC exports, there's an additional
$1.27 billion of indirect revenues from associated sales of goods and
services and employment. Total employment was 261,000.
We established in the study that every $1 billion in total reve­
nues generated by these exports results in approximately 24,000
jobs. I should add that this is on the low side. It represents AEC as
opposed to manufacturing. We think that manufacturing on its
own is probably higher than that.
Total U.S. wages resulting from the AEC exports in 1983 were
$6.3 billion and total Federal, corporate, and personal income taxes
resulting from these AEC exports were $1.13 billion.
Last, AEC exports supported $1.4 billion in contracts to U.S. sub­
contractors and the purchase of $1.9 billion in U.S. materials.
We are particularly pleased with the results, and you can see
that the value of the AEC industry in 1983 produces $11 billion in
both direct and indirect revenues and provided employment for
261,000 U.S. personnel.
In our prepared statement, we have suggested that the commit­
tee should address the international competitive issue of our indus­
try as it has a pronounced impact on the U.S. economy. It is not
directly related, I will concede to the principle purpose of this hear­
ing, but it does have a relevance to the action of our Government
that affects our future ability to obtain business. Government
action to reduce the Federal deficit, for example, to improve the
strong-dollar relationship with other currencies is an essential, and
the removal of federally imposed disincentives such as unfavorable

tax arrangements and other restrictive conditions. On these we ask
for your support.
I’d add here that the heavy debt burdens of the debtor countries
have been eased considerably in recent years by the financial sup­
port from multilateral development banks—the World Bank, the
Inter-American Development Bank, and others. They deserve, we
feel, increased support from the U.S. Government which is the key
to additional financial support from other developed countries.
The potential benefits of the United States and the world econo­
my of this industrial and infrastructure development is immeasur­
able. This country and the world needs the support of the Congress
and the administration for this increased funding.
In our industry today, this seems to be about the only game in
town—the World Bank and the Development Banks. Particularly
in the developing world there is very little funding available, as I
am sure you all know.
Briefly, I would like to add that the most important disincentive
or disadvantage to our industry is the lack of competitive export
financing of the Eximbank. My colleague, Mr. Stevenson, has
stressed this in his testimony as well. He also has mentioned the
importance of the World Bank funding. Even as we speak, Mr.
Chairman, the House-Senate Budget Conference is meeting to con­
sider, among other items, the elimination of the Eximbank direct
credit authority.
We feel that should this program be terminated that our indus­
try as well as U.S. manufacturers will be severely handicapped in
their export efforts.
I would like to conclude now with a summary of our industry
views on what the future holds for our competitiveness on AEC
international major projects.
I’d like to at the same time acknowledge to the committee the
contribution made by the Department of Commerce in their com­
petitive assessment report, July 1984, and I am advised by them
that they intend to issue this report again in July of this year. And
it will include the results of our IECIC-Price Waterhouse study
which we have discussed.
The future demand for our international services and the conse­
quent impact on the U.S. economy will depend largely on the eco­
nomic strength of the world and international economies, our na­
tional construction needs and the capabilities of developing coun­
tries to carry out projects on their own.
Until the worldwide recession eases and debt servicing and high
inflation continue to affect the Third World, we do not forecast an
improvement in major international construction projects in the
next 2 or 3 years.
Moderate growth may be expected through the late 1980’s and
through the 1990’s, and it should occur in all geographic regions.
Of course, this projection assumes no major economic collapse,
major acts of war and moderate economic growth worldwide.
Now, we are going to find that developing countries will continue
to increase their capability to undertake construction projects on
their own and this will shrink the volume of business available to
us, the U.S. firms.

On the other hand, large and technologically sophisticated
projects should continue to be available to U.S. firms. It is clear,
however, that the levels of competition in all market segments will
be intensive and the competitive environment for U.S. firms will be
very difficult.
The future U.S. international industry competitiveness and our
ability to continue our strong contribution to the U.S. economy, we
believe, will depend on the following four major points:
We would have to sustain technical and project managerial lead­
ership on major nonlabor-intensive projects; competitive financing
assistance through Eximbank and other financing institutions as
appropriate must be maintained; we must ease or remove several
government disincentives to successful U.S. participation, which
are the key to successful U.S. international participation in the
AEC market; and we must continue the highly favorable reputa­
tions of major U.S. firms for reliability, performance, and effective
management of large and complex projects, which American com­
panies are famous for.
That is the completion of my oral remarks. If you care to, I
would be happy to talk about some very rough estimates we made
of projects deferred in Latin America and one other country that
were not available to us at the time of the prepared statement.
It’s difficult—there are so many factors involved in this equasion
of assessing what the impact is on our industry of debt problems.
There are such things as the strong dollar, the shortage of hard
currency, the intensive foreign competition and the lack of export
finance, and others.
We can go on at some length. However, with this Price Water­
house study, I think we can say that when AEC business is either
unavailable or has been postponed, or lost to the foreign competi­
tion, the loss to our economy is definable in a sense of knowing
what the direct and indirect loss of revenue is to the U.S. economy.
It’s difficult to put an accurate number to it; however, we have
looked at specific situations in three or four countries in Latin
America where my company has been active and we have been
able to or attempted to identify in an approximate way projects
that had been planned prior to 1980, for the 1982 to 1986 period,
but were deferred, we think for ostensible reasons because of the
debt crisis.
The countries looked at are Argentina, Brazil, Mexico, and Nige­
ria. Essentially, all of our AEC business has dried up in these coun­
tries, principally because, and mostly because of the hard currency
being used almost entirely to service debt.
About the only business potential our industry has seen over the
past 3 or 4 years is associated with possible compensation, trading
arrangements through local joint ventures and own and operate
type projects with hard currency being supplied for these projects
from abroad.
For example, my company is now developing a methanol project
in Chile along these lines. Moreover, these countries are undertak­
ing expansion work through existing facilities using local engineers
and equipment supplied from local sources.
This is particularly true in Argentina and Brazil. As a rough es­
timate, I would say that our company business in Latin America

has dropped on the order of 75-85 percent from the mid-1970’s.
That is before the debt crisis reached us in the early 1980’s.
Argentina, in the oil and related gas industry sector, for exam­
ple, such plants as liquified natural gas, liquified petroleum gas, re­
finery modernization and expansion in the fertilizer industries, we
believe as much as $8 to 10 billion in AEC project values have been
postponed over the past 3 or 4 years.
If we assume the U.S.A. could obtain about one-quarter of this
business, the loss to the U.S. economy using the Price Waterhouse
equations would be roughly $1 to $1.25 billion or 24,000 to 30,000
Brazil is in a difficult situation because they have virtually no oil
or gas reserves, as you know. Thus, it’s very hard hit by the big oil
price increases in the late seventies and early eighties, in addition
to their debt problem. There were a number of large hydroelectric
thermal power plants planned there. There was coal gasification
and a number of refinery modernization projects—expansion
projects—and we believe that some $12 to $14 billion in these
projects has been deferred over 2 to 3 years at least because of the
financial problems. Using the same assumptions that we did for
Argentina, this relates to a loss of total revenues of about $1.5 to
$1.7 billion to the U.S. economy, and 36,000 to 42,000 jobs.
In Mexico, in 1980, Mexico’s petroleum monopoly, PEMEX,
planned to spend $16.5 billion in plant and equipment by 1980
through 1986. In the expansion—this was to be in the expansion of
the oil production, oil refining and petrochemical facilities. A com­
bination of factors such as lower crude prices and debt burden
caused a deferment of roughly two-thirds, we believe, of this expan­
That is roughly $11 billion. Most of this was in the processing
area. They have continued to expand in the oil production and ex­
ploration. In Mexico, the U.S.A. traditionally gets about half of this
market and accordingly a loss of total revenues to the United
States economy would be about $2.25 billion total revenues and
54,000 jobs.
Nigeria is a country we have been active in and are now doing a
very large fertilizer complex there. They have a serious debt prob­
lem, as you know, and several major projects have been deferred—
a large energy project, a major refinery and chemical facility have
been deferred.
There estimated total value is thought to be about $7 billion,
which at a 25 percent probability award rating to a United States
engineer contractor equates to a revenue loss to the U.S.A. of $880
million and 21,000 jobs.
I thank you, Mr. Chairman and Senator Proxmire, Mr. Hoffman
and I will be pleased to answer any questions you have on our
[The prepared statement of Mr. Richards follows:]

P repared Sta t em en t


J o h n C R ic h a r d s


M r. Chairman and Members of the C om m ittee:
M y name is Jack Richards.

I am a Vice President of Kellogg Rust Inc., an

international engineering and construction company with world headquarters in Houston,

We are one of the Signal Companies and expect in the near future be a part of a

larger corporation to be known as A llie d Signal. I am here today as the Chairman of the
(IE C IC ).

Group of the


Engineering and Construction

Industries Council

In addition, 1 represent the National Constructors Association where I presently

serve as Chairm an o f the International A ffa irs C o m m ittee . We welcom e this opportunity
to m eet with you today to present our views of the e ffe c t on our industry associated with
the financial problems of debt-laden countries.
IE C IC was established in 1967 when our industry recognized the serious problems
causing the erosion of the USA com petitive position in the arch itec tu ral, engineering and
construction comm unity overseas. We believed these problems and mutual interests could
be dealt with most e ffe c tiv e ly under the umbrella of IE C IC , thereby providing a collective
contact w ith the Congress, federal agencies, financial institutions and the private sector
concerned with development projects abroad.
IE C IC is composed of four major associations involved in international engineering
and construction


The A m erican




(A C E C ),


engineering society representing 3,800 firm s and 120,000 members; the

Am erican Institute of A rchitects (A IA ) representing 41,000 professional architects; the
Associated General Contractors composed of some 8,500 Am erican general contracting
firms and 32,000 associated firm s involved in heavy construction projects such as dams,


large comm ercial buildings and highways; and the National Constructors Association
consisting of 40 of the largest U.S. firm s w ith nearly half a m illion employees engaged in
the design, engineering and construction of major industrial facilities throughout the

These contracts include ’’turnkey" projects such as oil refineries, steel m ills,

petrochem ical and chemical plants.

My own company is now heavily engaged in the

construction of three major projects overseas:

a fe rtiliz e r complex in N igeria, an

arom atics project in Indonesia and an LPG and LN G gas processing fa c ility in Western
A ustralia.
IEC1C today represents direc tly some four m illion arch itectural, engineering and
construction (A EC ) employees

in the U nited States.


1982 the

estim ated


contribution of our industry to the U.S. GNP was approxim ately $230 billion or over 7.5%
of the to ta l.

This figure is higher than the contribution of other major industries; for

exam ple, petrochemical is 6%, banking 5% and transportation and communications is

The A E C industry contribution in 1982 was much lower than the previous 20 year

average of between 9 and 10%.
The international A E C m arket experienced a general expansion in the 1970s as
m ultinational companies took advantage
productive resources abroad.

of expanding foreign markets and cheaper

A large increase in investment in oil refineries, chemical

and petrochem ical processing plants and other major projects fueled this expansion, and
LDC's, particularly those w ith oil and gas resources, participated in this industrial
expansion. T h erefo re, the importance of this international m arket to U.S. A E C companies
increased m arkedly in the 70s because of the overall decline in domestic project awards.
The ea rly 1980s worldwide recession, however, combined with the slowdown in
revenue growth of oil-exporting nations have caused a leveling o ff, and more recently, a
sharper decline in international construction a c tiv ity .

Continuing worldwide inflationary

pressures and persistently high interest rates have restricted fu rther the a b ility of many


nations to finance new projects.

This has caused inevitably a sharp drop in industrial

development and expansion in both developed and developing countries, many w ith large
amounts of long-term external debt a t high interest rates.

As a consequence, the U.S.

A E C industry today has a g rea tly reduced business volume, resulting in a loss of jobs and
revenues to the U.S. economy. W hile it is not possible to assess accurately the magnitude
o f this loss of business attrib u tab le solely to the long-term debt problems o f many
countries, we are able to analyze with reasonable accuracy the direct and indirect im pact
o f this loss of revenues to the U.S. economy when off-shore A E C business is not obtained.
In June 1984, IECIC engaged P rice Waterhouse to undertake a study defining and
measuring the benefits to the U.S. economy of A E C exports.

The purposes of the study

I) to establish the size and nature of the A E C export industry, and 2) to measure

the secondary effects these exports have on the U.S. economy in the form of revenues,
employment, taxes and in the extent of U.S. m aterials and services purchased.
A t the outset of the study work, the consultant confirmed the industry view th at
very little data collection and statistical analysis was being performed by government or
private sources on the size of the A E C export industry,

or on the direct and indirect

effects of the industry on the U.S. economy. The principal private source of A E C export
industry data, the Engineering News Record (E N R ), compiles and reports annually data on
awards of contracts for overseas work. As a basis for estim ating the volume of overseas
business and the impact on the U.S.

economy, awards data suffer deficiencies.


example, a contract award -will generally cover work undertaken over several years.
Moreover, awards are reported by each company participating in a project, thus double­











subsidiaries. Finally, awards do not represent the net U.S. revenues from A E C exports.
Government studies of our industry concentrate more on the theoretical or policy
implications of A E C exports, not on their economic impact on the U.S. economy.



industry response rates, reporting e n tity complexities and terminology confusion raise
questions as to the v a lid ity of the results.

Commerce D epartm ent studies published

frequently as the "C om petitive Assessment" or in "Industrial Outlook" rely heavily on ENR
awards data and are therefore suspect as to the accuracy of overseas business volume.
The Bureau of Census studies are subject to significant delays between data collection and
publication so th at their data loses much of its effectiveness.
The P rice Waterhouse survey of the A E C industry covering the years 1982 and 1983
was designed to overcome the d iffic u ltie s of the government and private sector studies
mentioned above.

The survey was administered to a representative sample of AEC

industry firm s, and the results projected to the entire A E C export industry.


Waterhouse was solely responsible for receiving and compiling the survey responses,








confidentiality of individual firm s1 sensitive commercial inform ation.



It is of interest to

note th at the overall survey response rate was 60% of all of the firm s sampled, with a
40% response of the firm s classified as international. These international firm responses
account for 76% of known revenues stemming from foreign construction projects and 62%
of known revenues from foreign arch itectural, engineering and construction projects.
I think you w ill be interested in the following b rief review of the significant findings
of the IEC IC study of the AEC industry. A ttached to this testim ony as Appendix A is the
Executive Summary of the form al study w ith Exhibits I, II and 111 which w ill provide a
rather more detailed explanation of the size of the contribution our export industry makes
to the domestic economy. The com plete study is now being printed in volume and w ill be
available for distribution within the next few weeks.
The study shows th at the A E C industry had export revenues in 1983 of approximately
$19.6 billion of which $4.8 billion represents direct U.S. revenues.

Total 1983 export

revenues were more than $2 billion lower than in 1982, and U.S. export revenues decreased


by $800 m illion from the previous year. The largest reduction in 1983 took place in the
m aterials and equipment sector which declined by $900 m illion from the 1982 level.
Other significant results show that in 1983:

An additional $6.1 billion of domestic revenues were generated as a result of
A E C exports.


For every $1 billion of direct revenues produced by AEC exports there is an
additional $1.27 billion of indirect revenues from associated sales of goods and
services, employm ent, etc.


T o tal U.S. employment resulting from A E C exports was 261,000.


Every $1 billion in total U.S. revenues generated b y -A E C exports results in
approxim ately 24,000 jobs.


T o tal U.S. wages resulting from A E C exports were $6.3 billion.


T o tal federal corporate and personal income taxes resulting from A E C exports
w ere $1.13 billion.


A E C exports supported $1.4 billion in contracts to U.S. sub-contractors and the
purchase of $1.9 billion in U.S. m aterials.

IE C IC is pleased w ith the results of the study which demonstrate firm ly th at from
the standpoint of the U.S. economy, the A E C industry in 1983 had a value of $11 billion, it
employed 261,000 U.S. personnel and, in addition, generated over $1 billion in federal
corporate and personal income taxes.

When debt-laden countries are not able to expand

their industrial base w ith the U.S. A E C industry, it is clear th at the loss to the U.S.
economy is substantially greater than the d irec t U.S. revenue.

The additional domestic

revenues generated as a result of A EC exports are a significant boost to the U.S.
A related problem faced by the A EC industry in seeking business internationally in
developing countries is the competitiveness issue, which we believe should be addressed by


this C om m ittee as it has a pronounced im pact on the U.S. economy. To be successful in
the international AEC markets, firms need to convince th e ir clients th at th eir services
w ill be com petitively priced and equal to or b etter than the foreign com petition.

In most

cases, a contract award is based not only on price, but in consideration of many other

Major items common to most m arkets in the current com petitive international


include price, quality, technology, management capabilites, experience,

export financing, exchange rates and U.S. government disincentives.
I would like to discuss briefly a few of these factors which are considered the most
im portant to our industry.

The first four or five mentioned can be controlled to some

extent d irec tly by the industry. Price is a key, but not the principal com petitive factor in
international construction. We can control this by improved productivity and lower labor
costs for example, by using third world country labor on labor intensive construction

O f course, we are at a price disadvantage when we are unable to match the

mixed cred it finance packages and soft cred it offers of our com petition. On the quality
of our product, experience and technology and management capabilities, U.S. firm s
overall continue to enjoy a com petitive advantage.

Many foreign firm s have the design

and engineering technology, but lack the a b ility or experience to organize, im plement and
com plete large and complex industrial projects. The international reputations of our A E C
firm s remain high, and the political role and strength of the United States continue to
o ffer advantages.
W ith regard to exhange rates and U.S. government disincentives, these are in the
hands of the Congress and the Adm inistration, and we hope some progress can be made in
easing the conditions.

A reduction in the federal d e fic it should improve the current

strong dollar relationship with other currencies and thereby increase the competitiveness
of the U.S.

manufacturing and services industries.

progress in removing U.S. government disincentives.

However, we would like to see more


I would add here th at the heavy debt burdens of the debtor countries have been
eased considerably in recent

years by the financial

support from

the m ultilateral

development banks — The World Bank, the Inter-Am erican Development Bank and others.
They deserve increased support from the U.S. government which is the key to additional
support from other developed countries.

The potential benefit to the U.S. and world

economy of this industrial and infrastructure development is immeasurable.

special set of factors affectin g the competitiveness of U.S. firm s seeking

international A E C


involves U.S. government regulations for which



generally no counterparts for our European and Japanese competitors. For example, many
countries impose a ta x on services used in their country even if those services were
performed outside the host country.

U.S. tax law considers such services U.S. sourced

and, accordingly, impose a ta x, and we are not able to offset this foreign income tax
against our U.S. income ta x . Most other countries make allowance for this particular type
of foreign taxation placing U.S. firm s at a significant disadvantage on many projects.
Another disincentive is the U.S. taxation of foreign earned income of U.S. citizens
working overseas. These taxes were eased in 1981 by establishing a large exemption, but
the new rules required th at employee benefits in kind, such as housing and dependents'
educational needs be counted as income, thereby reducing the benefit of the exemption.
A ccordingly, U.S. firm s are required to pay higher wages and benefits for U.S. managerial
and technical personnel than if foreign-earned income were fu lly tax exempt as is the
practice of our major foreign com petitors.

U.S. tax policies thus rem ain a com petitive

problem restricting the use of U.S. personnel on overseas project.
Tw o









construction projects are the Foreign Corrupt Practices A ct and the A nti-B oycott
provisions of the Export Adm inistration Regulations. U.S. AEC firm s do not disagree with
the intent of U.S. laws on corrupt practices and boycotts, however, we take the position


th at it should be possible to preserve the intent of these laws while removing the
ambiguous and unnecessarily restrictive provisions.
Perhaps the most important disincentive or disadvantage to the A E C export industry
is the lack of competitive export finance from Eximbank. Our foreign competitors often
subsidize project financing for their design and construction work, provide mixed credits
and supply more adequate and tim ely financing.
House-Senate Budget Conference

is m eeting

Even as we speak, M r. Chairm an, the

consider, among other



elim ination of the Eximbank direct credit au tho rity. Should this program be term inated,
we feel our industry as well as U.S. m anufacturers w ill be severely handicapped in their
export e ffo rts .
Because of these com petitive disadvantages, a va rie ty o f business practices have
been developed by international AEC firm s. For example, U.S. firm s over the years have
established subsidiaries abroad or arranged jo int ventures w ith foreign firm s to obtain
financing assistance to m eet the finance requirements of construction offers invited by
third country clients.

In this way, more com petitive finance can be obtained by the

subsidiary in the host country than is available in the USA.

As m aterials and equipment

supply is linked to the financing source, the trade benefits accrue to the host country of
the subsidiary rather than to the U.S. economy.
Joint ventures are now a common practice in the international A E C m arket,
principally to bring together com petitive strengths; these are usually arranged between a

company and a major supplier in a foreign country.

As an exam ple, my company

with technical and management expertise in designing and building fe rtiliz e r plants will
team -up w ith a European or Japanese equipment supplier and constructor to bid on a
project in order to provide the most com petitive finance and construction labor costs.
I would like now to conclude w ith a summary of our industry views on what the
future holds for our competitiveness on A E C international m ajor projects.

In this respect,

I acknowledge to this C om m ittee the contribution made by the U . S. Departm ent of

Commerce in the July 1984 report entitled A Competitive Assessment of the U.S.
International Construction Industry.

We understand this report is to be issued again in

July of this year and, furthermore, will include the results of the IECIC Price Waterhouse
study which we discussed earlier.
The future demand for international services, and the consequent impact on the U.S.
economy will depend largely on the economic strength of world and national economies,
on national construction needs, and the capabilities of developing countries to carry out
projects on their own. Until the worldwide recession eases, and debt servicing and high
inflation continue to affect the third world, we do not forecast an improvement in major
international construction projects in the next two or three years. Moderate growth may
be expected through the late 1980s and through the 1990s, and it should occur in all
geographic regions.

This projection, of course, assumes no major economic collapse,

major acts of war and moderate economic growth worldwide.
Developing countries will continue to increase their capability to


construction projects which will shrink the volume of business available to U.S. firms. On
the other hand, large and technologically sophisticated projects should continue to be
available to U.S. firms. However, it is clear that the levels of competition in all market
segments will be intensive and the competitive environment for U.S. firms will be
The future U.S. AEC international industry competitiveness, and our ability to
continue our strong contribution to the U.S. economy, we believe, will depend on the

Sustained technical and project managerial

leadership on major non-labor

intensive projects as oil refineries, petrochemical plants and other industrial
process facilities.









institutions as appropriate.

Easing or removal of the several government disincentives to successful U.S.
participation in the international AEC market; and


Continuance of the highly favorable reputations of major U.S. firms for

performance and effective management of

large and complex





"This study demonstrates thatt from the standpoint of the
U.S. economy, the AEC export industry is an $11 billion
industry which employs 261,000 U.S. personnel and gener­
ates over $1 billion in federal corporate and personal
income taxes."







services industry is composed of more than 25,000 firms engaged in














Of the firms in this industry, approximately 400 directly engage in
international AEC projects.

It is this subset of the AEC industry

that is the focus of this study.


nature of


its exports


the U.S.

the AEC

in 1983










the impact of these



this report are based upon a survey of a representative sample of
AEC firms.


The survey was conducted by Price Waterhouse on behalf

the AEC industry from October to December
in this survey are listed on Exhibit

terms used

Appendix A.

In reporting

This study was




The partici­

and a glossary of
is included


financed by the private donations

survey results


the companies shown in Exhibit V.
The results of this study show that in 1983:

AEC industry had export
approximately $19.6 billion of which
represents direct U.S. revenues.


An additional $6.1 billion of domestic revenues were
generated as a result of AEC exports.

$4.8 billion




For every $1 billion of direct revenues produced by
AFC exports there is an additional $1.27 billion of
indirect revenues from associated sales of goods and
services, employment, etc.


Total U.S. employment resulting from AEC exports was


Every $1 billion in total U.S. revenues generated by
AEC exports results in approximately 24,000 jobs.


Total U.S. wages resulting from AEC exports were
$6.3 billion.


Total federal corporate and personal income taxes
resulting from AEC exports were $1.13 billion.


AEC exports supported $1.4 billion in contracts to
sub-contractors and
the purchase
billion in U.S. materials.

Profile of the AEC Export Industry






generally privately held corporations.








Some of the many construc­




Bechtel, Blount, Fluor, Guy F, Atkinson, J. A. Jones, Lummus Crest,

W. Kellogg,


Morrison-Knudsen, Parsons,

St Veatch,

CH2M Hill,

Gilbert Commonwealth,

CRS Sirrine,

and Perini Corporation.
Emery Roth h Sons,


IECO, I, M. Pei & Partners, The Louis Berger

Group, Metcalf & Eddy, Skidmore, Owings St Merrill and TAMS are just
a few of the many architectural and engineering firms who frequent­
ly export their services.
T wenty-four


of all

firms who export AEC


participate in joint ventures.
This participation in joint ven­
tures is a result of the complex nature of AEC projects, the need
to increase bonding capacity or enhance financing capability, and
the frequent practice of foreign governments to require local
participation in AEC projects.

Foreign AEC




a Saudi Arabian

for a sewage plant.


the planning,
to an

Illustrative AEC





foreign projects


1983 and 1982 include:

Planning and designing a railway system in British
Columbia, Canada;


Planning and designing the rapid transit systems in
Seoul, Korea and Vancouver, Canada;


Designing earthen dams in the Phillipines, Nigeria,
Chile, New Guinea and Argentina;


systems and water treatment
stations in the Middle East;


Designing and building
Saudi Arabia;

the King Khalid



Designing and building
Seoul, South Korea;

a nuclear power



Installing a telecommunications


Constructing a pre-cast steel plant in Macao.


and pumping




in Nigeria;

The U.S. materials purchased to support these foreign projects
include building materials such as steel and roofing material,
spare parts, pumping and sewage equipment and technical electronic

Direct Impacts of AEC Exports on the U.S. Economy
The AEC industry had export revenues in 1983 of approximately













foreign revenues









in $2.2 billion

federal personal income taxes paid.


in wages



for U.S

and $267 million in

Further, the 1983 AEC exports

generated $97 million in federal corporate income taxes.








in 1983






sub-contractors and incurred $625 million in U.S.

overhead expenses.

In addition,

the AEC



support and

purchased $1.9

billion in U.S. materials to supply their foreign projects.



in 1982.


In 1983 U.S.


from those in the previous year.






decreased by


$800 million

The most significant reduction in

goods and services supplied for foreign projects in 1983 took

place in the materials sector which declined by $900 million from
the 1982 level,

Indirect Impact of AEC Exports on the U.S. Economy



the U.S.


of AEC



projects, however, is not measured only by the direct revenues they

The U.S.










multiplier analysis.







Its results







their AEC export




turn purchase


and use









employ other U.S.


from exports cause successive rounds








service exports may be more widespread and



impact of



originally indicated.



applied are U.S.







Department of Commerce statistics which estimate

the production required by each of 537 business sectors to support

of direct revenue.



The multiplier values




for construction


$1.00 of direct revenue




in construction

generates $1.40 of indirect revenue in other sectors while $1.00 of













U.S. Revenues Resulting from AEC Exports

$ 4,774,966,000

$ 5,605,969,000






U.S. Employment Resulting frcm AEC Exports



U.S. Employment Income Resulting from AEC Exports





$ 97,260,000






$ 267,992,000




Federal Corporate Income Taxes Resulting
from AEC Exports
Federal Personal Income Taxes Resulting
from AEC Exports


Economic multiplier analysis of 1983 AEC exports demonstrates
that an additional $6.1 billion in U.S. revenues were generated as
a result of foreign AEC projects.

to derive



indirect U.S.


Multiplier analysis can also be









illustrated in Exhibit II, the results show that in 1983 exports of
AEC services indirectly generated:

216,000 jobs for U.S. personnel;


$4.2 billion in U.S. wage income;


$102 million in federal corporate income taxes; and


$665 million in federal personal income taxes.










major impact in the manufacturing industry where they generated an
additional $3 billion in revenues in 1983.
Exhibit III

Indirect Revenue Impact of AEC Exports
by Major Industries

MANU FAC. (4 8 .8 % )

This result is not surprising, given that the AEC industry spends
10% of its export

income on U.S.

supplied materials and that the


nature of this industry requires that these materials be manufac­
tured goods

such as building materials

(e.g.r steel)


equipment, construction equipment and spare parts.





the first comprehensive

study of


impact on the United States of the AEC export industry.

The study is based on an industry survey which was unusual due to
its extremely high response rate.



construction revenues



The survey received responses


of known

firms that generate 62% of known A&E export revenues.




and the architectural and engineering





This high




study1s results.
This study demonstrates that the benefit of AEC exports to the
U.S. economy far exceed the initial export revenues returned to the


In order to measure the full

impact of AEC U.S.

revenues, it is necessary to include their indirect effects as well
as their direct benefits.
standpoint of the U.S.

This study demonstrates that,


from the

the AEC export industry is an $11

billion industry which employs 261,000 U.S. personnel and generates
over $1 billion in federal corporate and personal income taxes.






forth the background and

approach to this study, the details of the study’s findings and the









design the

Representative O bey. Thank you both very much. I think that in­
formation is very much what we have been looking for. I have a
number of specific questions I would like to ask each of you about
your operation. I just have one observation on the Eximbank,
which I'd like to make first, and then ask you more general ques­
tions. Then, of course, I'll get back to the specifics.
On Exim, I simply want to caution you, don't pay too much at­
tention to the number that is allegedly being set aside for Exim in
the Budget Conference. The reason I say that is when I wear my
other hat, Fm also chairman of the Subcommittee on Foreign Oper­
ations of the Appropriations Committee, which has jurisdiction
over appropriation for Exim on the House side. And the fact is that
the President, as he said, has eliminated all direct credits. He's
presented us with a budget which is $3.2 billion or so below last
year's level.
He has presented an overall budget of foreign assistance and
that's where you'll find Exim, in that bill, which is many billions
lower than last year and largely is lower because of that reduction.
The political realities of this place are such that there's not a
chance of a snowball in you-know-where that we are going to have
a foreign aid bill which is one penny higher than the President's.
In fact, I expect it to be significantly lower.
Under those circumstances, I think the Budget Committee num­
bers for Exim will be very largely misleading because they are
based on the assumption that the overall bill for foreign assistance
will be a billion dollars higher than the administration's. That's an
Alice-in-Wonderland assumption as far as 1'm concerned. That
means that they are playing with something that isn't real money.
I have met with Exim people two or three times. And, as a
matter of fact, will be meeting with some of them again later
today, and I will be telling them that unless they can get the ad­
ministration to change their mind there's very little room, given
the realities around here, for Exim financing, although I certainly
share your assessment that the administration's quaint new way of
going about it is going to be ineffective at best.
Having said that, let me ask both of you a broader question. Mr.
Felix Rohatyn yesterday—1'm sure you're both familiar with him—
a very respected figure in the entire area of international finance
as well as the world of finance in general—said yesterday that the
problem that he sees on the whole debt situation is that we have—
he said—he didn't say this was a prediction, but he said you always
have to take into account significant risks, and there is certainly a
very significant risk.
He said we have a situation in which the entire world system
right now is being built on a very huge amount of debt and a
narrow base to support that debt in many regions of the world.
He said, for instance, that because of the fact that the United
States is about the only country that's importing appreciably right
now, that we are facing a situation in which our world economic
conditions and our own economic policies as they are seen here do­
mestically—and the implications for that internationally—are in
effect creating more anti-American feeling and more opportunity
for Marxism than Nicaragua is, that in terms of longtime threat to
our national interests, that this problem is a far more serious prob­

lem to our own national interests than it is to a dictator in Nicara­
gua for the moment.
He also indicated that in his judgment right now what we had
was a policy under which we are essentially squeezing out the op­
portunity for sufficient economic growth in Latin America in order
to simply repay banks for past loans, and that means little oppor­
tunity for job growth in this country related to exports. For that
region, it means little opportunity for them to either stabilize their
political systems or to expand their imports in any way, and it was
his judgment that we needed a series of actions, including debt re­
structure—or debt stretchout, I mean, further debt stretchout, re­
duction of our own interest rates through better control of the
budget deficit situation, which he suggested included action on the
revenue side as well as the spending side.
And one, that unless we were willing to do that, we were really
slowly but surely acquiescing in the loss of a region like Latin
America. I don't know if you feel that is close to accurate or not,
but I would like both of your comments on it.
Mr. R ic h a r d s . I do not feel particularly well qualified to answer
that question. I did see this morning that there is a dispute be­
tween the Chairman of the Federal Reserve and the Vice Chair­
man pretty much along the same lines, and there is the additional
suggestion that some of this debt ought to be converted to equity. I
have heard this suggestion before, and it may have some substance,
although the Chairman of the Federal Reserve is not interested in
that approach.
I don't really feel that I'm qualified. I think this is more a ques­
tion that should be answered by an economist rather than a chemi­
cal engineer, and I would defer to an economist to respond.
I would though say that we, in order for our company to be in­
volved in some of these debt-laden countries, have undertaken
some innovative approaches to get business. One of them is the
project I mentioned initially, where we are looking at equity par­
ticipation ourselves and own and operate projects in the fertilizer
industry. We can utilize natural gas that's now being flared to
create energy in a number of forms.
So this is one approach we have tried. But I would prefer to con­
fine my remarks to the industrial side.
Representative O bey. Mr. Stevenson.
Mr. S te v e n s o n . I would pretty much think that is more of an
economic question, Mr. Chairman.
Representative O bey. OK. Let me just ask one more question
before I ask Senator Proxmire to proceed.
Mr. Stevenson, the 1982 debt crisis pushed much of Latin Amer­
ica into a severe recession that we have all been talking about,
which has been followed by the slow growth and limited availabil­
ity of hard currency, and you indicated what that meant in terms
of export sales of J.I. Case to Latin America. It's declined by 68
percent since 1980.
How does that correspond to the overall industry performance?
What does the loss of export sales mean, in terms of jobs to your
company and how has the debt crisis affected the workings of your
Wisconsin-based operation? People also always asked, well, what
does this mean to us? This has all happened in a faraway place,

and it doesn't mean much, in terms of our own backyard. What is
your response to that?
Mr. S te v e n s o n . Well, Mr. Chairman, Mr. Richards used the term
24,000 employees or $1 billion worth of export sales. He did say—
and it's something I concur with—that probably in the manufactur­
ing sector, the 24,000 jobs or $1 billion worth of exports is probably
low. If you ask us to give you an educated guess, I think we would
say closer to 30,000 jobs for each $1 billion worth of exports.
If you asked how this affects our company, I think I can answer
that as to how it affects the industry. I think all I could say is prob­
ably a mirror image. We are not privy to their numbers, and I
would prefer to speak only to J.I. Case.
Perhaps closer to home, especially for some of us from Wisconsin,
our employment has dropped in Wisconsin from 4,900 people to ap­
proximately, 3800 people at this time.
Now having said that, I would add that it is not all a result of
international or Latin American debt crises. We have a few domes­
tic problems in our industry, but we feel in our company, again,
back to the international situation, our best estimate would be that
probably totally worldwide, the lack of export sales has cost us
about 2,200 jobs. In Latin America, probably 450 to 500 jobs.
Representative Obey. Mr. Richards, do you want to comment on
anything Mr. Stevenson said?
Mr. R ic h a r d s . Well, I think we can say—I can speak for my own
company—we have reduced the number of people in our various of­
fices. We have had to close one office in New Jersey, and we are
probably down at least 30 or 40 percent in the numbers of people
in our organization since the late 1970's and early 1980's, so it's
been a substantial drop in our numbers. And of course, the profits
have declined as the volume of business has gone down.
So that it has had a very definite impact. I mentioned to you
that the industry has suffered—the overall industry, architects, en­
gineering, and construction—quite substantially, pretty much in
the same ratio, probably in the range of 30 percent, at least.
Representative Obey. Senator Proxmire.
Senator P ro x m ire . Thank you, Mr. Chairman.
I am delighted that both of you witnesses certainly are very help­
ful to us.
I notice, Mr. Stevenson, that in your prepared statement you say
that your export sales, excluding shipments to Canada, which is
part of the North American operations, have declined from a high
in 1981 of $168 million to $86 million in 1984. That is a tremendous
Then you say, however, “The strength of the dollar has undoubt­
edly restricted U.S. exports. However, we have no doubt that for
our company, Latin American debt problem has been the major de­
Frankly, I am very surprised at that. I would think that the
major problem for virtually all of our exports is the terrific beating
of the dollar. After all, when you talk of this kind of situation, you
have a price increase in effect for your customers in Latin Ameri­
can and elsewhere, don't you?
Mr. S te v e n s o n . N o question, Senator.

Senator P r o x m ir e . So it's cheaper for us to buy abroad and more
expense for them to buy in this country. How did you arrive at
your conclusion that that is a lesser factor than the debt situation?
Mr. S te v e n s o n . I think what we're saying there, Senator Prox­
mire—we concur completely with everything you just said on the
strength of the dollar; however, we really do feel that were Latin
American countries able to buy, they would buy, almost regardless
of price, and we really think we have been hurt. I don't know if it's
60-40, or pick a number, but we feel, as well, the strength of the
dollar is hurting us. The inability of these countries to service the
debt they have is far less than, you know, incurring more debt and
has been very detrimental to our business. I think this is what we
were trying to say.
Senator P r o x m ir e . Well, if that's the case, I think you would
come down hard on the side of Paul Volcker. He's done a terrific
job. There are a few people who seem to think his policy, tough as
it is, is the right policy, and on the other hand, the Preston Martin
would seem to have the position that placing a cap on interest
rates on loans to financially ailing developing nations and convert­
ing some of their debt to U.S. banks into equity would certainly
help the South Americans service their debt problems in the short
Why wouldn't that be the better approach than the tough text­
book approach which Volcker is proposing, that is, to go through
an austerity period which would mean they have less ability to buy
from your company?
Mr. S t e v e n s o n . What we're trying to say, Senator Proxmire is
right now the lack of their ability to buy has had more of an effect
on us than the dollar's strength. Their austerity to fix the thing
long range, we cannot disagree with.
Senator P r o x m ir e . Well now, the World Bank and the IMF have
both insisted on austerity, have insisted on a tough program of cut­
ting down on their imports, which would affect you, of course.
Mr. S t e v e n s o n . N o question.
Senator P r o x m ir e . Getting inflation under control, and so forth,
yet you say—you and Mr. Richards, I think, both of you seem to
agree that the only game in town, as far as you're concerned, is the
World Bank and the International Monetary Fund.
Mr. S t e v e n s o n . I'll defer to Mr. Richards.
Senator P r o x m ir e . Incidentally, I'd appreciate it, Mr. Richards,
if you would talk to your junior Senator from Texas on that, and if
you would talk to your Representative in Wisconsin and elsewhere
to get off our back on IMF and on the World Bank. I think that
you're absolutely right. It makes all the sense in the world. Here
we have other companies putting in most of the capital, and we put
up about 20 percent, and it's the most productive and economical
kind of foreign aid operation.
Dave Obey has been one of the leading spokesmen in Congress on
this, but we get clobbered by the Republicans who say we're help­
ing the Commies, because once in a while, a relatively small loan is
made to Yugoslavia or some other country that isnt on our side.
But in your book, these are very useful organizations and very im­
portant to you.
Mr. S te v e n s o n . Yes, they are.

Senator P r o x m ir e . Important to your industry and to jobs in
Wisconsin; is that right?
Mr. S te v e n s o n . I agree.
Mr. R ic h a r d s . I would have to say the same as I said earlier. It
is the only game in town. When we do not have competitive fi­
nance and can arrange for materials and equipment to be supplied
from this country. They have funds available in developing coun­
tries. For example, we have done a number of ammonia projects
using World Bank finance. We are also working with the IFC on
some projects in the private sector where they are providing funds,
so we are great supporters of additional funding for the World
Bank. And when the U.S. increases their money, obviously, other
countries do the same, so that we think it's a very worthwhile or­
ganization and it stimulates business in this country.
Of course, it also, under their procurement procedures opens up
the market to all other countries—130 countries, potentially.
Senator P r o x m ir e . I do have great admiration and respect for
our Chairman, but he and I may disagree on the Eximbank. I
really wonder why we can't make the reductions the administra­
tion has suggested. This is an organization which, by and large, has
been known as the welfare state for Boeing. They get about 30 per­
cent of this. Seven corporations get the great majority of it. I don't
know how much J.I. Case gets. I doubt if you get a lot from the
Eximbank, and I wonder why it would make any difference if, in­
stead of direct loans, they simply subsidized the difference in inter­
est rates. It would be a lot cheaper, which is what the administra­
tion has proposed. Why wouldn't that solve your problem?
Mr. R ic h a r d s . Well, I have to argue with you, Senator Proxmire,
that it's much cheaper. The IMATCH program, we estimate, is
going to cost anywhere from $40 million to $60 million more per
year to subsidize commercial banks. It is a budget item, I concede,
which I don't think it should be, because the money gets paid back.
Senator P r o x m ir e . Y o u say it will be $40 to $60 million cheaper?
Mr. R ic h a r d s . More expensive. The IMATCH program takes $40
to $60 million more, because the cost of borrowing from the private
sector is going to be at least 1 or 2 points interest rate more than
borrowing from the government.
Senator P r o x m ir e . So if you subsidize the interest rate, you say
that will be more or less?

Mr. R ic h a r d s . I'm saying, if you subsidize it, it's more; it's going
to cost the U.S. Government more money—$40 to $60 million more
than if Eximbank borrows from the Federal Government.
Senator P r o x m ir e . But it doesn't show up that way at all in the
budget, because you don't make the loan, and the loan is like an
expenditure, as far as the budget is concerned.
Mr. R ic h a r d s . Our argument is that it shouldn't show up in the
budget, or it shouldn't be in the budget to begin with, and because
the money does get paid back, therefore the only real cost to the
government is the difference between the borrowing and the lend­
ing rate.
Senator P r o x m ir e . You're speaking for a trade association; is
that right?
Mr. R ic h a r d s . Yes; and also for my company.

5 5 -5 9 0 O



Senator P r o x m ir e . And your company. How much does your
company use the Eximbank?
Mr. R ic h a r d s . We now have an Export-Import Bank loan for a
fertilizer complex in Nigeria, which has a value of about $230 mil­
lion, and it is going smoothly. However, we have not used Exim­
bank as much in recent years. This loan was negotiated about 4
years ago.
Senator P r o x m ir e . So you borrowed 4 years ago, $230 million,
your company did?
Mr. R ic h a r d s . Yes.
Senator P r o x m ir e . Mr. Stevenson, how about J.I. Case?
Mr. S te v e n s o n . We use the guarantee program.
Senator P r o x m ir e . So you wouldn't be affected if they knock out
the direct loan?
Mr. S te v e n s o n . N o.
Senator P r o x m ir e . Why do you think the direct loan is impor­
tant? You're a typical firm. It may not help Boeing if you knocked
it out, and a few other mammoth aircraft sellers, but why would it
affect anybody in Wisconsin adversely?
Mr. S te v e n s o n . It would not affect us and we do use the guaran­
tee program.
Senator P r o x m ir e . D o you know any firm in Wisconsin that uses
Exim in any significant way?
Mr. S te v e n s o n . Can I turn that to Mr. Moe?
Senator P r o x m ire . Sure, go ahead.
Mr. M oe. Let me just add, historically, we have used the Exim
programs, particularly the guarantee program. We used to deal
with the discount loan program. Recently, we have used----Senator P r o x m ire . When you say “we ', you mean J.I. Case?
Mr. M oe. J.I. Case Co. Recently, we have used the credit pro­
gram—the medium term credit program—but fortunately we have
internal financing that can compete or is much easier and flexible.
The problem with using the Eximbank for ourselves is the debt
problem itself, the inability to be able to obtain the Eximbank
guarantee program for countries where we need to export, meaning
that because of their debt burden, because of their ineligibility, be­
cause of their political risk, the burden of the debt Eximbank al­
ready has.
Senator P r o x m ir e . Can either of you gentlemen give me any idea
what difference it would make in terms of jobs for J.I. Case if you
didn't have the direct loan program? Would it make any differ­
Mr. M oe. I'd like to say that if we did not have the ability to
borrow and because of our company's strength itself, I think the
medium term program would be very beneficial to us.
Senator P r o x m ir e . But you do have the ability to borrow? As far
as you're concerned, it wouldn't make any difference?
M r. M o e . Y o u 'r e right.
Senator P r o x m ire . Thank

you, Mr. Chairman. I have other ques­
Representative O bey. Congressman Scheuer.
Representative S c h e u e r . N o questions.
Representative Obey. Let me say, following up that point, I guess
the difference between Senator Proxmire and myself on this issue

is that theoretically I agree with him. I used to oppose Eximbank
vociferously because I do think it's a welfare program in a sense
for companies in that any subsidies of any kind in our society are
in fact a welfare assist for somebody, whether it's housing assist­
ance or whether it's export assistance, whether it's medical assist­
ance, you name it.
It all costs. But, the problem that I have is that our trading com­
petitors are pushing us to the wall in terms of their use of these
same subsidies, and I hate to see us—the administration says it's
reluctant to follow unilateral disarmament on the military side.
I hate like blazes to see us following on the economic side. While
the administration would dispute that interpretation, it is true that
Mr. Draper, in testimony before the Senate Appropriations Com­
mittee on this subject, admitted that the administration's proposal
would cost $60 million more—I believe the figure was 60 million—
than the old direct financing or direct credit program would cost.
I also agree with the Senator that in terms of having to accept
the cutbacks, there's no question Exim direct credit or no, is going
to have to accept a major cutback. I would be amazed if the export­
ing community would be satisfied with what I intend to put in the
bill as a mark.
But my only response to that is that if they can somehow figure
out how to get the President to change his ceiling, then they can
responsibly ask me to do something else; otherwise, they can't.
Let me ask some specific questions. Mr. Stevenson, in your testi­
mony, you noted that you had a manufacturing facility in Brazil.
Has the debt crisis affected the demand for goods of your Brazilian
Mr. S te v e n s o n . Yes.
Representative O bey. H ow ?
Mr. S te v e n s o n . Mr. Chairman, to give you a number, about 50
percent. We were doing roughly $20 million worth of business prior
to 1980—export business from Brazil to other Latin American
countries—and that is now about $10 million.
Representative O bey. And you attribute that directly to the debt
Mr. S te v e n s o n . Debt and inability of countries to purchase.
Representative O bey. Y ou note in your testimony that the com­
mercial banks had considerably more leverage in rescheduling
their debt. Has the ability of the banks to be first at the reschedul­
ing table made it significantly more difficult to finance your trade
with that region, or is that irrelevant?
Mr. S te v e n s o n . I think really the question there, Mr. Chairman,
is the high debt and the bank's rescheduling. And, by the way, I
hasten to add a lot of that bank debt perhaps was created by our
industry, Mr. Richards' industry, and everyone else. A lot of it was
trade-based in the first place.
But our problem is that the countries must be able to service
their debt or we will continue to suffer. I think what we were
trying to do in our testimony was point out the problems that pri­
vate trade industry has. We certainly have no quarrel with com­
mercial banks and really it is the country that determines the pri­
orities of rescheduling, and they obviously are going to pay more

attention to the huge debt the banks have than they do to our type
of trading credit.
Representative O bey. Are any of you familiar with any proposals
to bring private companies to finance trade into the rescheduling
sectors of the commercial bank?
Do the various manufacturing companies work as a group when
it comes to rescheduling issues?
Mr. S te v e n s o n . Not really, Mr. Chairman. No. 1, there is some
political, and believe it or not, while Macy's speaks to Gimbers, we
are competitors.
There was an attempt here in 1984 for a committee to be set up.
Do you remember the name of that?
Mr. M oe. I don't recall the name, but it was a Washington ad
hoc committee that was going to be formed, and I don't know if it
ever got off the ground. I think particularly for Venezuela it tried
to get trading creditors together as a body for leverage. But I can't
recall the specific name. We tried to find that name and I cannot
Mr. S t e v e n s o n . But to the best of our knowledge, it never got off
the ground.
Representative S c h e u e r . Y ou say you provide for leverage?
M r. M oe. Well, as a group. We as a company did not. We don't
have the leverage and as a group that was trying to bring suppliers
together, if I recall, for Venezuela to influence the Venezuelan
Government that other than the public sector debt there's a lot of
trade debt outstanding. And, please, as a Government, address that
issue also; don't leave us sitting in the lurch while the public sector
debt is being rescheduled. And we're still waiting for that particu­
lar country.
Representative S c h e u e r . You're still waiting?
Mr. M oe. For the country debt to be rescheduled. There is an un­
official moratorium in debts in Venezuela. Imposed February or
April 1983. We have several million dollars outstanding in Venezu­
ela to date. J.I. Case Co. has several million dollars outstanding in
Venezuela that have not been paid—interest or principal—because
the country is waiting to reschedule officially that debt. They're
first addressing the public sector debt, the private sector comes
Representative S c h e u e r . Can I ask a question?
Representative O bey. Sure.
Representative S c h e u e r . When you talk about rescheduling of a
debt, do you have any sober second thoughts as to whether it was
wise in the initial instance for you to place a debt on of the order
of magnitude that was placed by the private sector? I would ask
the same thing of banks.
We tend to look at the problem of debt rescheduling and the ter­
rific burden it is causing Latin America as something they did that
was unwise—and it probably was—but it seems to me that some­
times we forget to crank into the computer whatever complicity
there might have been up here, both in the private sector—both in
the individual firms and the banks, where it may be that they
should have seen the early warning signals and they should have
known that the order of magnitude of these debts and the order of

magnitude of the debt service payments were simply too large for
those countries to cope with.
And maybe we helped structure a situation for which there could
be no return for them, which it had to be failure, which failure
could be the only end product.
Do you have any sober second thoughts on the original place­
ment of these debts? The judgmental factor?
Mr. M oe. Again, as we point out in our testimony, admittedly,
we made some mistakes in some particular areas. But remember
that we were providing regular terms of the trade. We had to pro­
vide those terms in order to compete in the industry. We had to
provide----Representative S c h e u e r . In order to compete with whom?
Mr. M oe. With our competitors. It was demanded by the buyer,
whether it be our own dealer or the end user—the retail customer.
We were providing what we call the terms of the trade, providing
floor plan financing for the deal and a 1- to 3-year term of financ­
ing for the end user when that product was sold.
The debt problem for us came and for the dealer came suddenly.
It came, you know, overnight. In Mexico, 1 night, we were shipping
into Mexico, providing those terms.
Sure, we saw it coming, there was a gradual devaluation and we
were very cautious in adding additional debt and we're doing it
very cautiously, but at the same time we had debt that had gone
back 1 and 2 and 3 years.
But, overnight, Mexico declared a moratorium on that debt and
we were forced to wait. Our dealer was faced with the devaluation
of the peso from 24/1 or 25/1, and today it's 200/1. He was resell­
ing in dollars, his customers were buying in dollars and the cus­
tomer was telling our dealer take the equipment back, forget it, I
can't afford to pay. We, in turn, were refinancing and supporting
that dealer. It just happened overnight.
Yes, we made—like I said, we made some mistakes in some cases,
but at the same time we had to provide financing and were caught
with it.
Representative O bey. Let me ask both of you, since you both re­
ferred to the importance of Exim, the importance of the interna­
tional financial institutions.
I am a strong believer in the value of those international finan­
cial institutions and I am a strong believer that they play a very
significant role in defending our own national interest abroad by
their role in helping other economies to grow and restructure what
those economies are doing or those government policies are doing.
But all of that money has to come from someplace. In your judg­
ment, right now, as you know, it's all being financed by borrowing.
Of the administration's foreign assistance request, 18 percent, if
you would assign a percentage share to each of the 13 appropria­
tion requests, every appropriation would have to be cut by 18 per­
cent in order to equal its share of deficit.
We know that whatever we get on the spending side is going to
be by way of—by way of savings it's going to be about $50 billion.
That doesn't close the gap.
In your judgment, if you had to make a choice between pulling
the plug significantly on the banks because we don't want to

borrow the money to support the banks, or raising revenue in order
to go along with spending reductions so that we are not financing
those international institutions with borrowed money, which would
you chose? Are they important enough to raise revenues to pay for
or aren't they?
Mr. R ic h a r d s . Well, I'd have to preface any comments I make on
that question with the caveat that it's a personal observation
rather than the views of our industry or my company. I personally
feel that we have got to look at increased Federal revenues, and, I
think, these institutions are sufficiently important for this economy as well as for the world economy, and I feel that if I had to
make a choice that I'd go for some additional revenue.
Representative O bey. Mr. Stevenson.
Mr. S te v e n s o n . I'll go back to our number.
What better way to raise revenue if, in fact, the numbers we
gave you have any realism. Let's pick 24,000 or 30,000 jobs. I don't
care which number you use.
Representative O bey. I'm not talking about that. My point is
that if we finance any of these institutions to any degree, it's going
to be on borrowed money. It's going to add to the deficit and it's
going to help keep interest rates high.
My question is—I've got a choice. I can either fund those institu­
tions on borrowed money which keeps interest rates high or I can
say I ain't going to fund them, baby, until we get revenues to pay
for them. Which would you do?
Mr. S te v e n s o n . I guess I'd take the middle of the road. I think
you have to have more revenue, Mr. Chairman.
Again, though, I go back. They need funding.
Representative O bey. OK.

Senator Proxmire.
Senator P r o x m ir e . Let me follow up on that and broaden it a
little bit.
You say, Mr. Stevenson, you're recommending what governments
can do is develop monetary fiscal policies which will lower interest
rates, ease the debt burden on debtors.
Now, the way you do that in the long run, of course, is to follow
an anti-inflation policy, however tough and cruel and mean it may
be. As you do that, because the expectations are that prices won't
rise, interest rates tend to fall.
Now, if we are going to develop the kind of policy that I think
you have in mind—perhaps I don't, correct me if I'm wrong—it will
mean we've got to sharply cut the deficit, and to sharply cut the
deficit we not only have to drastically cut spending but we also
have to raise taxes. Are you willing to face that?
Mr. S te v e n s o n . Yes.
Senator P r o x m ir e . Mr. Richards.
Mr. R ic h a r d s . I w ou ld be.
Senator P r o x m ir e . Raise taxes as well as cut spending?
Mr. R ic h a r d s . Yes.
Senator P r o x m ir e . And you recognize that's essential if you're
going to have a monetary and fiscal policy which will lower inter­
est rates, ease the debt burden, and make our contributions to the
international well-being?
Mr. R ic h a r d s . R ight.

Senator P r o x m ir e . Then, Mr. Stevenson, you're last recommen­
dation is develop trade policies which exporters can look to for con­
sistency, a policy which, at least, is not a disincentive to our export
efforts. Will you tell us what you mean by that?
Mr. S te v e n s o n . I'm going to give that to Mr. Moe.
Senator P r o x m ir e . OK.
Mr. Moe.
Mr. M oe. I think that exporters would like to look to the U.S.
Government for a parallel support that we can consistently know
where the Government is coming from in our export efforts.
In terms of disincentives, I think we're talking about some of the
disincentives that you have heard before—the Foreign Corrupt
Practices Act, the antiboycott legislation----Senator P r o x m ir e . The Foreign Corrupt Practices Act?
Mr. M oe. Yes, sir.
Senator P r o x m ir e . That's my bill.
Mr. M oe. I know. [Laughter.]
Senator P r o x m ir e . That's why you mentioned it?
M r. M oe. Sure.
Senator P r o x m ir e . The purpose of that is so that corporations
wouldn't do what some of our corporations have been convicted of
doing, bribing officials overseas. Are you in favor of that kind of
M r. M oe. Obviously, not.
Senator P r o x m ir e . Well, then why don't we need a Foreign Cor­
rupt Practices Act?
Mr. M oe. Because I think we have to realize that it is occurring
in countries overseas by other countries.
Senator P r o x m ir e . If they do it, we should do it?
M r. M o e . N o, I'm n ot sayin g that, bu t I th in k y ou have to m ake
sure the p olicy, the law , the legislation, is n ot o v e rly restrictive in
term s of, y ou k now , a ccou n tin g restriction s.
Senator P r o x m ir e . May I interrupt for a minute because the

Representative O bey. I just want to explain that these are the
second bells on two votes which are occurring right now. So Con­
gressman Scheuer and I are going to have to leave, so you're at the
mercy of Senator Proxmire until we return. [Laughter.]
Senator P r o x m ir e [presiding]. Go ahead, Mr. Moe.
Mr. M oe. Again, as I say, from an accounting standpoint inter­
nally. It's not overly restrictive in terms of the exporter. We know
when we're acting in oversea markets exactly what we can and
can't do.
Senator P r o x m ir e . H ow can we stop this kind of bribery which is
wrong? I'm sure you agree with me that sales ought to be on the
basis of cost and competition and quality and not on the basis of
how much you can pay some politician in another country in order
to make a sale. And if we don't lead the way, how are we ever
going to do this? You just have to accept the notion that this is a
world in which bribery is going to have to be paid and we're going
to have to pay our share?
Mr. M oe. N o, we don't condone bribery. As a matter of fact, our
company has a stricter internal policy than the U.S. laws.

Senator P r o x m ir e . Well, then, what's wrong with our going
ahead with legislation that prohibits it and does it in an effective
Mr. M oe. A s long as it's realistic and not overly restrictive in
terms, again, of accounting practices that we have to conform to.

Senator P r o x m ir e . Well, accounting practices are the guts of it.
If we didn't have the accounting detail it wouldn't be an effective
and enforceable law. If we didn't require a paper trail so that we
can determine and make the top executives of the corporations re­
sponsible for payments, you know perfectly well that those bribes
would be paid. Is there any evidence at all—I haven't heard any­
body explicitely show in any study or in any other way that this
country has lost because of that legislation, because of the Foreign
Corrupt Practices Act.
Mr. M oe. You're right. I think it's very difficult.
First of all, it's very difficult to pinpoint.
Senator P r o x m ir e . It seems to me there's a good argument that
you can make that it helps. If I were a foreign official, I'd be much
more inclined to deal with the United States and I could say, look,
I'm not engaged in bribery; the United States has a law that is
very effective, that stops it.
So the United States is one country they can deal with knowing
that they're not going, after what happened to one of the top offi­
cials in Japan and in Italy and in the Netherlands and elsewhere.
Mr. M oe. I agree with that.
Senator P r o x m ir e . Mr. Richards, you say, and I quote,
Two other controversial disincentives to U.S. participation in international com­
mercial projects are the Foreign Corrupt Practices Act and the antiboycott revisions
of the export administration regulations.
U.S. AEC firms do not disagree with the intent of U.S. laws on corrupt practices
and boycotts, however, we take the position that it should be possible to preserve
the intent of these laws while removing the ambiguous and unnecessarily restrictive

I'd be willing to do all I can to remove ambiguous and unduly
restrictive provisions if they did not also cut the enforcement effect
out of the law.
Mr. S te v e n s o n . I would add to what Mr. Moe said. I think our
real criticism of the FCPA and the antiboycott restrictions are, one,
that they are ambiguous and we—for example, we think there
probably are too many restrictions in the accounting procedures. It
makes a tremendous amount of work to create this paper trail you
refer to. We don't think that's necessary and we think also that
businessmen do not know precisely what they can do.
For example, there are some instances in doing business overseas
where you entertain government officials and you might be in vio­
lation of the FCPA. So that, I think, is really amending it in order
to remove some of the ambiguities.
Senator P r o x m ir e . I'd be very grateful to you, Mr. Richards and
Mr. Stevenson and Mr. Moe, if you would write the committee—
write me and give me a detailed and specific language how you
would correct this to eliminate any ambiguity and to make this, in
your judgment, also effective.
Certainly we want legislation that will not in anyway hinder our
export market which is so critical. At the same time, all of us agree

that the scandals which really rocked this country and the interna­
tional scene about 10 or 15 years ago, can do great damage to us
and to our credibility as well as, of course, create an international
atmosphere that makes sales abroad a fiasco because, as I say, if
we rely on bribery and not on quality and price.
You also had other disincentives. Can you comment on those? In
your final recommendation, Mr. Richards, you say, “Easing or re­
moval of the several Government incentives to successful U.S. par­
ticipation in the international AEC market," and the one I high­
lighted is the Corrupt Practices Act, but what else?
Mr. R ic h a r d s . Well, the antiboycott provisions have been, we
think, restrictive and, I think, there has been easing of that recent­
ly. There are countries that have eased this considerably. But there
is an ambiguity there because there are regulations that are pre­
scribed by two different agencies—the Commerce Department and
the Treasury—and it doesn't affect our industry nearly as much as
it does our suppliers.
Senator P r o x m ir e . This is particularly with reference to the boy­
cotts with respect to Israel by Arab countries?
Mr. R ic h a r d s . Yes, that's primarily it.
Senator P r o x m ir e . Have there been specific examples of loss of
trade amounting to a significant amount of money because of the
antiboycott provisions that we have?
Mr, R ic h a r d s . I can think of some, years ago.
Senator P r o x m ir e . In the last, say, 3 or 4 years?
Mr. R ic h a r d s . I can think of one or two in Arab countries where
they required us to state that we do not do business with Israel.
Senator P r o x m ir e . What are they? Can you tell us what they
Mr. R ic h a r d s . I recall one that involved a project in Kuwait
where a company was required to state they did not do business
with Israel and if they did not agree to this, they couldn't do the
business. They had to decline to bid. And I know this has happened
in other instances. But I don't think that's a principal problem; it
has been a problem but it is easier now. I think our main problem
is having to follow a number of regulations that are difficult to in­
Senator P r o x m ir e . Do you do business with Japan? A significant
Mr. R ic h a r d s . N o, we don't sell to Japan, but they are very good
trading partners and joint venture partners on a number of
Senator P r o x m ir e . Would you buy from Japan, if—I should say,
wTould you sell to Japan, if you had a different situation with re­
spect to our currencies?
My question is, do you not sell to Japan because you can't get
into their markets, because you're not price-competitive because of
the difference in the value of the dollar and the value of the yen?
What is the reason that you don't?
Mr. R ic h a r d s . Well, I think you should ask that question more of
the manufacturing industry than the engineering and construction
industry. We have sold to Japan where we have a special techno­
logical advantage, for example. We have sold ammonia and urea
plants to Japan in past years. That market is no longer open, be­

cause they have obtained the technology and they can now do this
design engineering and construction themselves.
Senator P r o x m ir e . The reason I am asking this question—and
perhaps Mr. Stevenson can help us on this too—you are very re­
freshing witnesses, in that you haven't come in and cried and wept
about the argument that the other countries are keeping us out of
their markets. I haven't heard a word about that, but I want to
hear something about it now, if there's anything to be said, because
there is that complaint. This conviction on the part of many Mem­
bers of Congress—I don't know to what extent it's true—that we
are excluded from many markets—the Japanese markets, the
common market, to a considerable extent for many products, and
that we have to find some way of opening up those markets. One
way is by retaliation on our part, and I'd like to get both of you
gentlemen to give me your opinion on what we should do about
Mr. R ic h a r d s . Well, one of the problems engineering contractors
and architect-engineers have in foreign markets is that there is a
trade barrier, in that they have certain restrictions that do not
permit open engineering opportunities in both developed and devel­
oping countries. So there are certain trade barriers that have been
set up.
We, as an engineering constructor, are not as affected by this, be­
cause we try to do most of our engineering in the U.S.A., in any
case. And right at the moment, because of the very favorable Japa­
nese situation on currency, and their competitiveness in their own
manufacturing industry—we are using them on oversea projects.
For example, a large project in Australia where we're building—a
liquefied natural gas project and also a large LNG project that we
have completed recently in Malaysia. We are using Japanese engi­
neers, and we are using a large amount of Japanese equipment,
simply because they are the most competitive, and they can offer
very good finance terms.
So I would conclude that market access is not as important a
factor to the engineering and construction industry as it is to man­
Senator P r o x m ir e . Mr. Stevenson, you mentioned something
about the methods used by Latin American countries to hamper
your abilities to export into their markets. Can you give us a little
more data on that and what your recommendations are as to what
we can do about it?.
Mr. S t e v e n s o n . Again, I'm going to pass to Mr. Moe.
Senator P r o x m ir e . All right. Mr. Moe.
Mr. M oe. I think what we said is that in Latin America there
are high tariffs in many countries. There are austerity measures
that have been introduced, like in Argentina, where an importer
has to put up 150 percent deposit, in order to open up a letter of
credit to import—or to get the import license.
Senator P r o x m ir e . Y o u say “austerity measures." You say that's
part of Alfonsin's program?
Mr. M oe. When I'm talking about austerity measures, I'm saying
Latin America, in general. And I'm using that as a figure of speech
in terms of methods the governments impose, in order to restrict
imports. They emphasize the exporting industries and deemphasize

imports into those countries. And in some countries, if there is
local manufacturing, we are completely shut off from those particu­
lar countries.
Senator P r o x m ir e . For instance, J.I. Case's tractors?
Mr. M oe. Right. And Mexico is an example. It is very difficult to
get import licenses for some of our construction equipment, if not
Senator P r o x m ir e . Is that protectionist?

Mr. M oe. Again, to emphasize their exports and to encourage
their own industry.
Senator P r o x m ire . D o you have any recommendations what we
can do to overcome that? Is that a violation of GATT, in your view?
Mr. M oe. I don't believe it is. They are, again, trying to develop
their own infrastructure. What we have to do is to find a way to
manufacture locally, if it is profitable for us.
Senator P r o x m ir e . The fact is that Mexico is not a member of
GATT, as I understand it, but it still could be a violation of the
Mr. M oe. I'm not qualified to be able to say whether or not at
this point.

Senator P r o x m ire . D o you think it is practical for us to devote
an effort to opening up the market, or do you think that because of
the necessity for their protecting their industries that it is unlikely
that we can get much in the way of results that way?
Mr. M oe. I think the bottom line is that what we like to see is
reciprocity. In other words, treat ourselves as well as we treat
them in imports into our country.
Senator P r o x m ire . We would like to see that, but the question is,
how do we get it?
Mr. M oe. I think that is where the Government can play a key
role. As I said before, arm and arm with business in trying to pro­
vide that support rather than verbally talking about it, actually
saying we need your support, or we are going to support the U.S.
industry when you are talking in your negotiations with foreign
governments. You have to be firm.
Senator P r o x m ire . Well, here you have a situation where, as I
understand it, Mexico has a favorable balance of trade now with
the United States.
Mr. M oe. It has dropped considerably in the last year again.

Senator P r o x m ir e . It's dropped, but it's still favorable.
Mr. M oe. Right.

Senator P r o x m ir e . So it seems to me we're in a stronger bargain­
ing position. In other words, if trade should cease between the two
countries, they would lose more than we would, plus the fact our
economy is so much bigger and stronger, and it would have a far
more devastating effect on them than on us. It seems to me we
have a bargaining position, so why not use it?
Mr. M oe. I agree that we should use it.
Senator P r o x m ir e . Y o u agree with that, Mr. Richards?
Mr. R ic h a r d s . Yes; I th in k so.
Senator P r o x m ir e . H ow would you do it?
Mr. R ic h a r d s . Well, it's very difficult. I wanted to mention along
those lines a very interesting bill that has just been introduced,
sponsored by two Members of the House, Representative Duncan

and Representative Guarini, and in the Senate by Senator Heinz. It
has been developed by a coalition in Washington called LICIT, the
Labor Industry Coalition for International Trade. It has a number
of important provisions, and has gone through about 29 revisions
over the last 2 or 3 years. I think it has a number of remedies for
the trade problems we are discussing.
Senator P r o x m ir e . H ow does that proposal by Senator Heinz,
LICIT, as you call it, prevent us from slipping into a protectionist
situation which would be inflationary and which would damage our
opportunities to have healthy trade in the long run?
Mr. R ic h a r d s . F m not sure that I'm capable of answering that
one. I am involved with LICIT, but I’m not really an expert on
I would like to respond to your question by calling on others in
LICIT who are experts on this trade bill.
Senator P r o x m ir e . I'd appreciate that very much, if you would
let us have your response in the record.
Mr. R ic h a r d s . I would like to, Senator Proxmire, because I think
it is a very important bill, and I think it does have remedies for a
number of these trade problems, but I don't think it causes the
problems that you're suggesting.
On the subject of joint ventures that we spoke about earlier, Mr.
Hoffman of Price Waterhouse has mentioned he has some statistics
in our study—the IECIC study—that I think may clarify it.
Senator P r o x m ir e . Good. We have neglected Mr, Hoffman, unfor­
Mr. Hoffman, you are the scholar. You have done the work here.
And we'd like very much to hear from you. Go ahead.
Mr. H o ffm a n . Thank you very much, Senator Proxmire. I would
just like to make a point on the issue of how much work U.S. firms
are prevented from doing overseas due to various trade barriers.
There is some evidence in the study of the number of joint ven­
tures that are formed on larger projects. We heard from many of
our correspondents that these joint ventures are specifically formed
with local firms to get around the limitations on foreign content in
local engineering projects, although many of the joint ventures, I'm
sure, are formed for competitive purposes—to keep our prices as
low as possible. One statistic that does come out of the study is that
of the total export revenues of the AEC industry in 1983 of close to
$20 billion, $15 billion of that, fully three-quarters, was left in for­
eign countries. Less than $5 billion came to the United States as
U.S. revenues.
So when we talk about the impact of that $5 billion coming to
the United States, the number of jobs it creates and the amount of
income taxes paid to the Federal Government as a result, we're
only talking about one-quarter or the total export earnings of the
AEC industry. Three-quarters of that work is done overseas.
Senator P r o x m ir e . So everybody gains from this, but our trading
partners gain even more than we did, but we gain too?

Mr. H o ff m a n . That's right. We certainly gain in the number of
jobs and the amount of taxes paid, but our trading partners are
gaining to a great extent. Local countries are gaining by increasing
their skills and their competitive stance.

Senator P r o x m ir e . All four of you gentlemen got into the per­
formance contract use and I’d like your comments on the use of socalled performance contracts in which certain Government-set re­
strictions on both the nature of production and the marketing of
Mr. Stevenson, you made an excellent point that while we often
hear about the problems facing banks because of the Latin Ameri­
can debt crisis, we rarely hear mention of problems of private debt
owed to suppliers such as yourself.
Could you elaborate a little bit on your comments concerning J.I.
Case's experience in that regard as a supplier?
Mr. S t e v e n s o n . Well, I think, Senator Proxmire, what we are
saying there, Mr. Moe had mentioned Venezuela and we would like
to see some type of effort where the governments of countries with
whom we do business recognize the fact that as well as the public
and bank debt that the trade suppliers have made a real contribu­
tion to them. Now----Senator P r o x m ir e . Well, that's a very good point and it kind of
falls through the cracks. In other words, what you're saying is that
the governments recognize how vital it is that their companies
have an ability to borrow from American banks—Citibank, or
whatever. They don't have the same regard for the credit which
might be much bigger, or at least is comparable from----Mr. S t e v e n s o n . I think it would be smaller.
Senator P r o x m ir e . But, at any rate, it is substantial from suppli­
ers such as J.I. Case, and others.
Mr. S t e v e n s o n . Yes. It's significant. And we would like to point
that out.
Senator P r o x m ir e . Of course, the difficulty is that I suppose it's
easier for a bank to kind of step away from a situation. You point­
ed out that once you give up that market, it's lost. Or likely to be
lost forever.
Mr. S t e v e n s o n . At least a number o f years.
Senator P r o x m ir e . And you devoted a long, long time to build­
Mr. S t e v e n s o n . And, again, back to why do you do it? What does
it cost you if you don't do it? If you walk away from that, you
know, we talk about Brazil and it's a country of tomorrow, but if
you ever walk away from that thing, it will be a long time before
you're back in there.
Senator P r o x m ir e . D o either of you gentlemen or your firms do
much business with Argentina?
Mr. R ic h a r d s . Yes. We're not doing very much now. As I said
earlier, we feel that we have statistics that are very rough and ap­
proximate indicating that our business since the 1970's has de­
creased on the order of 75 to 80 percent in Argentina. We have
built many of the refineries and petrochemical plants in Argentina.
They do have the raw materials, for example, to produce fertilizers.
They simply do not have hard currency to build the plants.
Senator P r o x m ir e . Well, in view of the terrifically restrictive Alfonsin program, as announced the other day, which is the most re­
strictive that I have heard anywhere, in which they are trying to
revalue their currency 1,000 to 1 , slapping on wage-price controls,
requiring forced savings and a big increase in taxes, including cus­

toms, so that it's harder to sell into Argentina, the expectation is
that the economy is going to go into a nosedive and stay there for a
while as they recover.
It's probably the right medicine, but it's very, very strong medi­
cine. It seems to me that that would be the kind of a situation that
would be very hard to sell in.
Mr. R ic h a r d s . I think it is. One of the areas I did mention was
the possibility of getting together a group of investors to build a
plant—outside investors to build a fertilizer plant that can utilize
the natural gas in Argentina and produce ammonia there which
can be exported for hard currency and help them out on their debt
Senator P r o x m ir e . Mr. Chairman, I'm glad to see you back. I've
been conducting kind of a filibuster here, but it's been very enlight­
Representative O bey. Y ou ?
Senator P r o x m ir e . Imagine that. But these are excellent wit­
nesses and I certainly learned a lot and I want to thank you very
Representative O b ey [presiding]. Well, thank you. I just want to
apologize for the disjointed nature of the hearing, given the rollcalls that we have had. It's another example of the way this place
works. A terribly crucial rollcall when I left the House floor. The
amendment was ahead 108 to 2. But we had to have a rollcall on it
I don't know what you have been covering with Senator Prox­
mire. I have a number of questions, but in light of the time, I'll
forego most of them. Let me just ask two.
You mentioned you are engaged in a number of innovative ef­
forts to try to keep exports going. Let me ask you what would seem
to be an offbeat question.
Do people pushing your products speak the language of the coun­
tries you are dealing with?
Mr. R ic h a r d s . Yes.
Mr. S te v e n s o n . Yes.
Mr. R ic h a r d s . We have representatives in Latin America that
are Spanish speaking.
Representative O bey. Let me ask you, Mr. Richards, obviously, in
part when you talk about what you see in terms of your export op­
portunities, you are also taking into account what America's eco­
nomic policy is going to be and what our economic conditions are
going to be here at home.
What expectations about the U.S. economy underlie the view
that you expressed in your testimony that you did not expect a
major pickup of business in the next year or two?
Mr. R ic h a r d s . Well, I was referring to the AEC—the architects
and engineering construction business—more than the overall
economy. We do not see that in our particular line of business in
heavy industry that there's going to be a great deal of expansion.
For example, the oil refining and petrochemical and fertilizer in­
dustries, the steel industries, are not operating at full capacity now
and we do not see that as improving much over the next few years.
The business that we look for is going to be pretty much modern­
ization, expansion in certain parts of the refineries and plants. I

don't think that I can comment as well on the overall U.S. econo­
my, and I'd rather leave that to the economists.
Representative O bey. Well, you may feel the same way about
this next question but I want to ask it anyway.
Mr. Stevenson, some analysts have noticed that the pattern of re­
scheduling—and I touched on this before—has been designed to
maintain the earnings of the lenders, including the money center
banks and that as a result, Latin American countries have been
less able to import construction equipment, farm implements, and
other goods, that in turn, U.S. exports and jobs in the effective in­
dustries have been lost.
Do you think your own experience tends to support that view?
And while I know you indicated that you would prefer to leave the
question to the economists, in light of the argument going on today
and in the newspapers, for instance, I noticed that David Mulford
of Treasury—Assistant Secretary for International Affairs, said
that while it would be comforting to believe Latin America is
poised for resumption of growth and prosperity, there's a real
danger we are seeing the calm before the storm.
With the region arguably at the brink of new financial problems.
And when you see other stories, such as the one that appeared in
the Wall Street Journal on the 26th of April, which said that de­
spite the respite from the cliffhanger days of 1982 and 1983, many
economists argue and some bankers privately agree that major
problems could abruptly resurface.
In light of that, you must have some feelings, and you may have
touched on this while I was gone. You must have some feelings
about the advisability of stretching out those repayment schedules
in order to make available some greater opportunity to those coun­
tries to use a portion of their earnings to finance trade and develop
it, rather than using them so heavily just for existing debt repay­
Do you want to make any comments on that?
Mr. S te v e n s o n . Well, I think only this. No. 1, I don't think we
can comment on bank procedures, nor do we care to. But we do feel
that until these countries can reschedule some debt, not arguing at
all that long term obviously is to get this thing happening, but it's
a little like, you know, putting the brakes on when you're going
ahead, rather than throwing the thing into reverse.
I guess our feeling is we will continue to suffer unless there is
some kind of a rescheduling.
Mr. R ic h a r d s . I think there is a case definitely for rescheduling
and I would also add that—I think we've got to add to the funding
of the development banks in order to get these developing coun­
tries, who are debt-laden, over these crises, so that they can at the
same time as they're struggling to pay off these debts, they can
expand their economy in order to do so. So I would very strongly
support the funding of the development banks.
And I might add one other point that has always been a difficult
problem with me and that is that AID has not always been as sup­
portive of industry in their activities in the developing world.
There is a philosophy of being much more involved in the infra­
structure and they don't seem to think that the creation of jobs in
the industrial sector is as important.

Now, we think they are changing. For example, much of the AID
work in Egypt is going into industrial projects which do benefit the
economy locally as well as the economy in the United States. So I
am happy to see that, but I think those are two areas where we
can help developing countries that have large debts.
Representative O bey. Well, there are three or four other ques­
tions I would like to put in the record and ask you to respond to.
But let me just make one last observation on the international fi­
nancial institutions.
I agree again that the problems are crucial. I regret it very
much, seeing the administration cut back its negotiating—or the
level of its negotiating position for the new slices. And, yet, I have
to say I don't see any real prospect for increasing it much in the
future through direct U.S. participation.
I am intrigued by the suggestion of Mr. Rohatyn and others that
there ought to be some way, since Japan is the OPEC of the eight­
ies, in terms of the money they have sloshing around. They're
going to have, by the end of the century, anywhere from half a tril­
lion dollars to $1 trillion in loose capital, and I am intrigued by the
question of how you can get them to participate in an international
financial effort to allow some opportunity for growth in Latin
America, perhaps in return for a share of the economic proceeds on
the other end.
But it seems to me that that is an area that needs to be explored
heavily, given a limited financial ability at this point or political
ability to deliver any greater levels of support for the international
Congressman Scheuer, did you have a question or a comment?
Representative S c h e u e r . Yes.
Mr. Richards, you were saying before that while we're helping or
hoping that the Latin American countries are going to repay their
debts and while we presume we will help them restructure their
debts, we ought to help them expand their economies; is that right?
Mr. R ic h a r d s . Yes.
Representative S c h e u e r . H ow would you advocate we help them
expand their economies without falling into the same trap we fell
in the last time we helped them expand their economies which was
to place them in this impossible debt situation, albeit with their
Mr. R ic h a r d s . Well, it seems to be inconsistent, but I think
Representative S c h e u e r . There may be other ways of helping
them expand their economies.
Mr. R ic h a r d s . There are two ways. One, of course, is increased
World Bank funding to help them out.
R epresentative S c h e u e r . Y ou m ean d irect gran ts?
Mr. R ic h a r d s . Direct grants.
Representative S c h e u e r . Not loans.
Mr. R ic h a r d s . And the possibility of equity participation

by out­
side foreign interests with hard currency; such as the United
States and other major countries.
Representative S c h e u e r . From the political point of view, I
would have to say, I would have great reservations as to whether
that would hold a great deal of promise.

Mr. R ic h a r d s . The first part.
Representative S c h e u e r . N o, the second part. The great colossus
of the north coming down here. Look at how sensitive Canada is to
the fact that Americans own practically everything in sight or a
major share of their oil industry, their coal industry, their forest
products industry, and they are a very civilized, sophisticated, and
advanced, developed country. They harbor the most deep-seated,
emotionally tinged anti-American hostility that they're only just
beginning to get over with their new conservative Prime Minister.
The anti-Americanism has been so endemic in Latin America for
so many years, I'm just wondering whether equity participation,
which is a phase that rolls very glibly off all of our lips here as the
way we've prospered over a century or more, but for the colossus of
the north to go down there, grabbing equity shares in their profits,
I think would be fairly politically explosive.
But, anyway, continue. How do we help them expand their econ­
Mr. R ic h a r d s . Well, we're going to try equity participation in a
methanol plant in Chile, and that project is in the formative period
right now. We think it's going to be a success and certainly we'll
utilize their natural gas resources to produce a product which they
can sell for hard currency—we're going to give it a try.
Representative S c h e u e r . Will this be guaranteed by OPIC?
Mr. R ic h a r d s . Yes; I believe so.
Representative S c h e u e r . N ow , later on you comment that it
would be a good idea if we could make them see the light on the
role that industry played in their overall development program.
Is the industry that you're promoting down there high technolo­
gy? Is it capital-intensive industry?
Mr. R ic h a r d s . Yes, pretty much. Our industry designs and builds
large plants in the processing industries there.
Representative S c h e u e r . That kind of industry according to the
World Bank is capital intensive and job saving.
Mr. R ic h a r d s . Yes.
Representative S c h e u e r . It's really not the kind of economic de­
velopment that most Latin American countries need. What is
scarce down there is capital. What is plentiful down there is labor.
What they need is capital-saving, labor-intensive industry, to put
their people to work, to put the one thing they have in abundance,
to use domestic supplies to turn out a product for the domestic
market as well as the international market, using above all domes­
tic labor.
The problem causing the most instability in Latin America is the
lack of jobs. And I know there are officials in the World Bank that
feel they have to change the investment patterns in the developing
world countries from capital intensive and labor saving to labor in­
tensive and capital saving. I mean it's so transparently clear to
professionals like you that what they have in abundance is labor
and what they have in great scarcity is capital, and for us to give
them something that saves labor by large investments in capital,
just defies every rule of economic sense.
I might also say, from the political point of view, that the largest
source of instability, chaos, revolution, call it what you will, is hap­
pening and will continue to happen in larger and larger degree

from joblessness as the population growth outstrips their ability to
provide employment for their people.
Let me just give you a brief example.
Are we running out of time? You want me to shut up, Dave?
Representative O bey. G o ahead.
Representative S c h e u e r . The World Bank tells us that by the
end of this century the developing world will have to find approxi­
mately 800 million new jobs. Now, that is more than the entire em­
ployed population of advanced industrialized developed world. It's
inconceivable that they could do a fraction of one-tenth of that. It
costs about $10,000 a job to create a job in Mexico. It costs $1,000 to
create a job in Egypt.
Let's take $1,000 in Egypt. It probably costs more than that in
most of Latin America, but let's take the Egypt figure. They have
to produce 4 million jobs by the end of the century just to keep the
present pitiful level of unemployment and underemployment,
about 50 percent. So you're talking about $4 billion. I don't know
where we're going to find $4 billion to create new jobs in the next
15 years in Latin America; 4 million jobs a year.
Our own GNP, the American economy, is about five times that.
About five times the Hispanic-American economy of all Hispanic
America. We have never exceeded the production of about 3.2 mil­
lion jobs. We did that 1 year during the roaring seventies, so to
think that they're going to meet the need of 4 million jobs a year is
preposterous. They're going to keep falling farther, and farther,
and farther behind. So what they urgently need is labor-intensive,
capital-saving, economic enterprises.
And it seems to me this is what the World Bank and the InterAmerican Development Bank, and our own AID people, and the
most creative minds in the industry should be concentrating on.
I would very much like it of you four highly trained professional,
thoughtful people, would give us the benefit of your thinking on
how we could add to employment in Latin America. They really
don't need heavy industry. What they need is jobs, jobs, jobs, to
prevent instability, chaos, disintegration of their society, vast
hordes of people coming north to crash through our borders as is
happening now; 60 percent of the people who crash through our
border—the Mexican border into our country—are Mexicans, but
40 percent of them just transit Mexico from Central and South
America because they're looking for one thing—jobs. And that's
the result of a whole lot of things, but among others, to some
extent it's a preoccupation with capital-intensive, laborsaving eco­
nomic patterns, when what they need is exactly the contrary.
I beg everybody's forgiveness for this long question. There's no
question mark at the end. Would anybody like to respond?
Mr. H o ff m a n . Representative Scheuer, I agree with you that
what Latin America needs is jobs and what it has in abundance is
labor. One other element it has in abundance is natural resources.
Many of the projects that we're talking about, although they them­
selves are capital intensive and laborsaving, jobs open up in natu­
ral resources.
For example, take a pipeline or a rail line that allows you to
open a coal mine in the interior. That does provide a large number
of jobs even though the rail line itself is capital intensive. So I

think it's a balancing that one looks for and also the indirect
impact of a particular project that you're investigating.
R epresentative S ch eu er . Y ou m ake an e x ce lle n t point.
Representative O bey. Let me just say in closing that I appreciate

your coming.
One of the reasons that I have such a special concern about
Latin America, or really there are two. One, I think is summarized
by the way the Japanese have manhandled us in the semiconduc­
tor industry. You see the way they dealt with us. If you try to
assess whether we're playing on a level playing field or not, you
see what small portion of the Japanese market we get in that prod­
uct line, and then you see how we do vis-a-vis the Japanese in an
area where there's a more level playing field, such as Europe. And
you see that we're going to have difficulty for a long time, despite
the best efforts of any administration to sufficiently penetrate an
Asian market.
If you add to that what some people see in this maze as certainly
oversimplified as I'm describing it, and certainly it may not be the
picture at all, but at least some people see a trend toward the fol­
lowing: They see Europe, because of their reluctance to invest, fall­
ing farther and farther behind in terms of their ability to compete.
If we had an even playing field in terms of the dollar value, they
see eventually there trading clusters, with a lot of exceptions, but
essentially three trading clusters.
They see Western Europe, and increasingly Eastern Europe, and
the Soviet bloc using Africa as a raw material base. At one region­
al center they see the Japan-led Asian arena, then they see the
United States/Canada/Latin America. And I keep repeating, with
obvious exceptions, certainly not hermetically sealed trading areas,
but with heavy emphasis in that direction.
If that is at all even closely resembling what the future could
hold, then one must be concerned about what is going to happen in
the next 10 years in developing the ability of Latin America to
import as well as export, because of the effect that that has, not
just on their economy, and on their society, and on their politics,
but also on the political and economic effects that has here in the
United States.
And when you see Morgan Stanley, for instance—Morgan Guar­
antee Trust, I'm sorry—saying that banks concerned for their cap­
ital limit their ability to extend substantial new loans to develop­
ing countries for some years to come. And when you see others sug­
gesting that it won't be until the end of the decade before you see
any significant reentry of those countries into real lending mar­
kets, it does have at least a potential for serious long-term conse­
quences to the United States.
And I think you have helped us in at least a small way paint a
piece of what that picture could be, and I thank you for coming.
The committee will stand in recess.
[Whereupon, at 12:05 p.m., the committee recessed, to reconvene
at 10 a.m., Monday, June 24, 1985.]


MONDAY, JUNE 24, 1985
C ongress of the U n ited S t ates ,
J o in t E c o n o m ic C o m m itte e ,

Washington, DC.
The committee met, pursuant to recess, at 10 a.m., in room 2218,
Rayburn House Office Building, Hon. David R. Obey (chairman of
the committee) presiding.
Present: Representatives Obey and Hamilton.
Also present: Kent Hughes, Sandra Masur, and John Starrels,
professional staff members.

Representative O bey. Good morning. Today is the third day in a
series of JEC hearings on the impact of the Latin debt crisis on the
U.S. economy. The first 2 days of hearings have helped flesh out
some of the dimensions of the problem.
In terms of Latin trade, we've gone from a $7 billion surplus in
1981 to a $16 billion deficit in 1984, according to Professor Jerry
Adams, who testified before us a week ago. The $23 billion swing in
our regional trade balance cost the country, in his estimate,
800,000 jobs in 1984. Those jobs and export losses are not just eco­
nomic abstractions. On Friday, we took testimony from J.I. Case, a
major manufacturer of construction equipment and farm imple­
ments, and from Kellogg Rust, a leading overseas construction
firm, which illustrated the impact of Latin debt problems on indi­
vidual firms.
In addition, as we know, the debt crisis put considerable strain
on the U.S. financial system. A week ago, John Petty, the chair­
man of the Marine Midland Bank, testified that in 1984, U.S.
banks had almost $90 billion on loans outstanding to various Latin
American countries. And according to figures contained in a recent
report of the CRS, that for many banks, their Latin American ex­
posure exceeds their total capitalization, and in the case of at least
three major money center banks—Citicorp, Chase Manhattan, and
Manufacturers Hanover—Latin loans are more than double the
banks' capital.
The questions involved are not just economic in nature. I apolo­
gize for often referring to my subcommittee when I'm discussing
issues like this, but in that subcommittee, we are reminded daily
that countries like Brazil and Argentina are struggling to build de-


mocracies under enormous pressures of international debt, slow
economic growth, and rising populations.
Mexico is under enormous pressure. Foreign policy issues have
tended to obscure the serious debt problems of a number of Central
American countries, including Nicaragua.
Beyond politics, the debt crisis also raises a series of ethical ques­
tions, which, in turn, have political implications. It appears that a
significant amount of international debt accumulated by Argentina
flows into private accounts overseas. The average working Argen­
tinian may have difficulty understanding why he or she should be
making major sacrifices for a sustained period of time to repay
American banks for funds that have already found themselves
back to Miami, or are on the way back to Miami.
And there are other questions involved. And, finally, the debt
crisis, itself, as we know, is a product of the sharp and sudden shift
in U.S. economic policy. In John Petty's words, the major world­
wide recession in 1981 and a U.S. fiscal policy which has helped
raise interest rates to extraordinary high levels were the chief con­
tributors to the absence of enough foreign exchange to service
much Latin American debt.
The current mix of U.S. macroeconomic policy, with, at least
until recently, a relatively tight monetary policy, and loose fiscal
policy, has redistributed domestic income to debt holders, and it
would seem that it has had a similar impact on a number of Latin
American countries.
The prospects for Latin American countries are debatable. What
is going to happen in the future is debatable. The consensus esti­
mate seems to be that if a number of key factors go reasonably
well, that there may be no serious problems.
The problem is that all too often in life, and in politics and in
economics, the consensus estimate winds up being wrong. I don't
know what the probability of that is, but it is something that we
need to take into account. I think we're not just dealing with what
we each think is probably going to happen. We're also dealing with
questions of the degree of risk associated with any policies that we
follow. And even if the risk is less than 50-50, often if the conse­
quences of that scenario being true are serious enough, the risks
are very much higher than any rational country would like to en­
To help us assess the economic and financial and political out­
look, we have assembled a panel of, I think, very credible experts:
Larry Chimerine of Chase Econometrics will lay out for the com­
mittee several different economic futures for the United States,
several different scenarios that we might encounter; Karin Lissakers, former Deputy Director of Policy Planning in President
Carter's State Department, will assess what the high level of Latin
debt could mean for the U.S. financial system; and finally, Bob
Hormats, currently vice president, Goldman, Sachs and most re­
cently, the Assistant Secretary of State for Economic and Business
Affairs, will lay out the impact of the debt crisis and economic
trends on the political future of individual Latin American coun­
tries and have a few other things to say as well.

I hesitate always quoting newspapers, magazines, or anybody
else that can be remotely—well, never mind. I won't say what I
was going to say. [Laughter.]
But I do want to refer to the latest issue of “The Economist,"
which said as follows: “Every serious study of international debt
concludes that the Latin American debtors, now that they have
changed their policies, can service their billions and expand their
economies if OECD growth averages 3V2 percent a year for at least
5 years. With 3 percent, it would be touch and go. Anything less
would mean revolution and/or defaults."
I don't know whether the panelists think that that's optimistic,
pessimistic, or irrelevant, but why don't I ask all of you how you
feel about it, starting with Mr. Chimerine.

Mr. C h im erin e. Thank you very much, Mr. Chairman.
I am delighted to be here. I'd like to begin by introducing my col­
league, Aldo Roldan, who was primarily responsible for preparing
the statement this morning and, quite frankly, is much more
expert on the LDC debt situation than I am. He heads up our de­
veloping country analysis at Chase Econometrics.
I would like to summarize very briefly the prepared statement
which we've submitted this morning, which, hopefully, will be
made a part of the record, and focus on the essential issues that
you raised in your introductory remarks.
No. 1, particularly in view of the U.S. economic slowdown—is
worldwide economic growth sufficient to prevent a significant wors­
ening of the LDC debt crisis? What could trigger a worsening of
that crisis? And third, if it did deteriorate and if LDC debt prob­
lems resurface again, how will that feed back on the U.S. economy,
because, as you correctly pointed out this morning, this is an inter­
active problem. What happens in the United States and other in­
dustrialized countries has a big effect on the Latin American coun­
tries. But, of course, it's now working in the opposite direction as
I'd like to begin by very briefly reviewing what's happened in the
last several years among the high debt countries and talk about
the status of the U.S. economic situation and, to some extent,
Europe and other OECD countries as well, and then draw some
conclusions about what this all means for the future for the LDC's.
You're all aware of the tremendous improvements that have
been made among the high debt countries in recent years. It shows
up primarily in what has been an astounding turnaround in the
trade balance of high debt countries. If you take the 17 highest
debt countries, they've converted what was an $8V2 billion trade
deficit in 1981 to a $40 billion trade surplus in 1984, which is a
much sharper turnaround, I think, than anyone had expected at
that time.
There are two principal reasons for it. No. 1, the enormous aus­
terity measures that they've been forced to take within their own

countries, which have resulted in the sharp decline in their own
merchandise imports. And, second, a large increase in exports, par­
ticularly to the United States, and that, of course, in part reflects
the rapid recovery we have had in the United States in 1983 and
the first half of 1984.
These are the two principal factors. It has been that increase in
their trade deficit and the resulting improvement in the current
account balance that has enabled them to service their debt more
easily, on top of the debt rescheduling that has taken place during
this period.
As a result of the improvement in their trade balance, the
growth in their debt has slowed dramatically. And, in fact, their
debt-to-income ratio seems to be stabilizing for the first time in
many years. So, clearly, there has been a significant improvement
in the LDC debt situation in recent years. And, in fact, over the
last year or so, economic growth has resumed in several of the high
debt countries as well.
I don't think that anyone, however, Mr. Chairman, should under­
state the significant costs that have been involved here. Import
controls and tariffs have been instituted among some of the high
debt countries. Domestic currencies were sharply devalued. There
has also been enormous inflation, accelerating inflation, in many
cases, and a dramatic reduction in domestic purchasing power in
almost all of these high debt countries.
In fact, income per capita in most of these countries now is sub­
stantially below where it was 3 or 4 years ago before the debt prob­
lem surfaced.
So there has been an enormous cost involved, underlying the im­
provement in the LDC debt situation in the last several years.
Our assessment of the situation right now is similar to what you
pointed out in your introductory remarks, Mr. Chairman. It's a
very close call because we tend to agree that without at least 3 per­
cent real growth in the OECD countries, it will be hard to sustain
the improvement that the high debt countries have experienced in
recent years. And, in fact, the trade surplus among the high debt
countries is already eroding in 1985, in part because of slower eco­
nomic growth in the United States and, of course, in part because
of the acceleration of growth in the high debt countries has stimu­
lated demand for imports.
We believe, however, that 3 percent real growth on average will
be sufficient to generate enough demand for high debt countries'
exports that they can sustain the kind of improvement in their
debt situation they've had in recent years. While this will require
some additional external financing, it will be significantly less than
they've had in recent years and is very likely to be manageable
provided that the world economy continues to grow at 3 percent.
And the recent decline in interest rates will also help. While it's
hard to be precise, each percentage point decline in world interest
rates probably reduces high debt country interest costs by some­
thing like $4 billion a year. And if interest rates stay permanently
lower, this tends to build on itself as time goes by, and that will to
some extent offset the decline in their trade surplus that they're
experiencing in 1985 because of slower economic growth in the
United States.

In sum, what we're saying is, first, if U.S. economic growth con­
tinues or, in fact, accelerates somewhat, and, of course, the signs
are mixed right now and I'll get into that in a moment; second, if
economic growth in Europe, Canada, and Japan averages at least 3
to 3V2 percent during the next several years; and, third, if the
recent decline in interest rates in the United States and elsewhere
is sustained, we probably will muddle through the next several
years. That is, the trade surplus among the high debt countries will
start improving slowly again. Their interest costs will be lower.
The amount of new external financing they need will be relatively
modest and manageable, and while a crisis will crop up on occa­
sion, like has recently happened in Argentina, and while some spe­
cific reschedulings might be necessary, it is unlikely under those
conditions that we will see a massive worsening on a widespread
basis of the LDC debt situation.
Anything less than that, meaning a U.S. recession, in particular,
or a return to stagnation in Europe, and/or a reversal of the recent
downtrend in interest rates, will make it very tenuous and most
likely, the amount of external financing that the LDC's will need
under those conditions will be so large that it will be virtually im­
practical, which means that they would have to undergo more aus­
terity measures. And as you pointed out earlier, given the political
climate in these countries, that is a very difficult problem right
now. Therefore, it is essential that worldwide economic conditions
be favorable in order to ensure that the crisis does not worsen on a
widespread basis.
I think that raises the issue of what's happening in the United
As you well know, this rapid economic recovery that we had in
1983 and the first half of 1984, which was exaggerated in the first
place because it came from a very depressed level, nonetheless has
decelerated dramatically. Over the last 12 months, economic
growth in the United States has slowed to only a little bit more
than 2 percent. The industrial sector has completely stagnated and,
quite frankly, based on the feedback that we get from our clients,
there is no sign yet that conditions are beginning to improve in the
industrial sector. In fact, a number of industries are going in re­
verse, including some of the high-technology industries, as you
A major reason for that, in our judgment, has been the policy
mix in the United States in recent years, which we've discussed
previously at these hearings. You also pointed out, Mr. Chairman,
in your introductory remarks, these massive Federal deficits, com­
bined with somewhat restrictive monetary policy, have kept real
interest rates in the United States and elsewhere extremely high
and have kept the dollar extremely overvalued on world markets.
These are the two dominant factors that have limited economic
growth in the United States in the last 12 months and that threat­
en a recession now.
So I'm delighted to see a shift in that policy mix and our judg­
ment is that the economy will start to improve and grow closer to
the 3-percent long-term average that we think is absolutely essen­
tial, not only for U.S. economic conditions, but also to avoid any
worsening of the LDC debt problem.

With respect to Europe, conditions are mixed, as you know. Sev­
eral European countries are growing very slowly, at best. Others
have accelerated somewhat. Japan is growing quite rapidly and
Canada seems to be experiencing adequate growth.
The key, though, on a worldwide basis, in our judgment, is lower
interest rates, and a lower U.S. dollar, which will enable countries
overseas to pursue more expansionary domestic policies because
the limiting factor in economic growth outside the United States
has been weak domestic demand, which is primarily the result of
very restrictive fiscal and monetary policies in most of those coun­
tries. In turn, in our judgment, that reflects the strong dollar. They
have tried to prevent their currencies from weakening even further
and, as a result, have adopted these restrictive policies.
We feel very strongly, from a macrostandpoint, the best thing we
can do in this country to prevent a worsening of the LDC debt
crisis is to continue to shift the policy mix we've had in recent
years by taking even stronger steps to reduce Federal deficits, in­
cluding some modest tax increases, which we believe will be neces­
sary to accomplish that.
At the same time, we should continue to ease monetary policy,
by moving away from extreme monetarism, particularly in today's
environment when M -l numbers mean very little because they re
distorted by the increase in import penetration in the United
States. And if we continue to keep interest rates lower and ulti­
mately bring the dollar down, we feel reasonably confident that we
will muddle through with the LDC's and, as I said earlier, not ex­
perience a widespread worsening of the crisis.
Now, if that doesn't happen, if we do slip into a recession and/or
if Europe stagnates, or other countries stagnate, there is little ques­
tion but that the LDC debt problem will become unmanageable,
and, as I mentioned earlier, one of two things will have to
happen—either the amount of external financing will have to rise
sharply, back toward the levels we experienced 4 or 5 years ago
when they were increasing their debt in the range of $50 to $75
billion a year—and that strikes me as being unlikely in view of the
exposure that the banks already have—or, second, they will have
to implement more austerity programs to cut their imports further,
which would only worsen living standards and purchasing power
even further. This seems to me also to be a solution that is very
unlikely, which raises the potential for widespread defaults and fi­
nancial bankruptcies and a crisis that I think none of us would like
to think about.
So the alternatives here aren't very good. The only solution, it
seems to us, is to promote an economic environment in the OECD
countries of continued economic growth, low interest rates, and ul­
timately, a lower dollar, as the best way to prevent worsening of
the LDC debt problem.
One last comment, Mr. Chairman. And that relates to what
would happen to the U.S. economy if, in fact, the LDC debt crisis
worsens again? And now I'm talking about the feedback effects, if,
in fact, conditions deteriorate in some of the high debt countries.
The markets for many goods produced in the United States have
deteriorated dramatically in recent years in many of these coun­
tries—our ability to export has been limited dramatically as a

result of their cutbacks in imports—and depending on which esti­
mate you choose, weVe probably lost anywhere from 500,000 to
800,000 jobs in the United States, resulting directly from the de­
cline in U.S. exports to the LDC countries. And, of course, it has an
adverse effect, obviously, on GNP and other measures of economic
performance in the United States.
Our own judgment is that if the U.S. economy were to enter a
recession, and this, in turn, worsened the LDC debt situation, this
will then have adverse feedback effects on the U.S. economy and,
in fact, make any recession here even worse. And it will happen for
two reasons—No. 1, our exports would diminish further, although
not as dramatically as in recent years because, in many cases, they
have cut their nonessential imports from the United States as
much as they can. But, nonetheless, there is the potential for losing
another 200,000 or 300,000 jobs related to a decline in U.S. exports
to the LDC countries.
And second, and this is the thing that’s very difficult to wrestle
with, we run the risk of having financial problems in the United
States, through bankruptcies and through the adverse effects on
the financial system in the United States. In our judgment, that is
a far more serious risk and will have much more serious conse­
quences than simply the job loss or the loss of exports if the LDC
debt situation worsens.
No matter how you look at it, therefore, it is essential that we
avoid that by continuing to shift the policy mix in the United
States to ensure continued economic growth and low interest rates.
That, from a macroeconomic standpoint, is the best way to prevent
the LDC debt problem from resurfacing. Thank you, Mr. Chairman.
[The prepared statement of Mr. Chime* ine follows:]

P r e p a r e d St a t e m e n t


L a w r e n c e C h im

e r in e

E con om ic Prospects fo r the High D ebt Countries
and their Consequences on the U.S. Econom y

My nam e is Law rence Chim erine, and I am Chairman and C h ief Econom ist o f Chase
E con om etrics.

It is an honor to testify b e fo re the Joint Econom ic C o m m itte e on the foreign

debt situation and its con sequ en ces fo r the U.S. econom y. Mr. Aldo Roldan, V ice President, and
D irector o f D eveloping C ountries Services, and his s ta ff are primarily responsible fo r the
preparation o f this report.

In sum, we believe the m ost likely scenario is that the foreign debt

crisis is not likely to worsen significantly in the next several years.

This depends, h ow ever, on

the assum ptions that the U.S. econom y will not slip into a recession, but, in f a c t , that U.S.
eco n o m ic

grow th

w ill a c c e le r a t e

som ewhat



recent sluggish

p erform a n ce;


e co n o m ic grow th in oth er industrial countries will pick up; and that the recen t declin e in the
U.S. and world in terest rates w ill not be substantially reversed.


The Present Situation

Three years a fte r the onset o f the foreign debt crisis, high debt countries and the world
econom y probably fared b e tte r than the m ost optim istic assessments made at the tim e.





international system

widespread com m e rcia l lender bankruptcies.



payments and financing, or provoke

Nor did it lead to the creation o f a debtor

countries c a r t e l, or to m assive political unrest in the countries a ffe c t e d .

In short, the

adjustm ent to what looked like unsurmountable problems was a gradual one, not a painless one,
but one w ell within the cap ab ilities o f international cooperation and finance arrangem ents, o f

internal and external e co n o m ic policy adjustm ent m echanism s, and o f adaptation


c om m ercia l lenders.

The ex p erien ces o f 17 high debt developing countries with an aggregate debt o f $471
billion a t the end o f 1984 provide c le a r illustrations o f the types of adjustm ents to the foreign
d ebt crisis that have o ccu rre d .
transform ations.

The external se cto r o f these econom ies underwent profo"-id

M erchandise im ports declined approxim ately $44 billion in the 1982-33 period,

o r an equivalent 27 p e rce n t drop from 1981 levels.

Despite the co n tra ctio n in m erchandise

exports these coun tries ex p erien ced during that period as a consequence o f the concu rren t world
recession and d eclin e in co m m o d ity export prices, the savings on foreign purchases led to a


reversal in the trade balance from a d e fic it o f $8.5 billion in 1981 to a $26.5 billion surplus in

H elped by a surge in the debtor coun tries exports resulting from the U.S. e co n o m ic

recovery and sharp devaluations o f their do m e stic cu rren cies in the previous tw o years, this
trend continued during

1984, when the a g gre g a te

m erchandise trade surplus reached an

unp recedented $40.6 billion, as shown in T able 1.

Table 1

H igh-D ebt Countries E co n o m ic P erform a n ce

I. E conom ic A c tiv ity and P rices
(P ercen t)

GDP Growth
Per C apita GDP Growth
Capital Expenditures Growth
CPI Inflation


— —















— —


IL External S e c to r
($ Billions)
M erchandise Exports
% Growth
M erchandise Imports
% G rowth
Trade Balance
Current A ccou n t Balance
Interest Payments
Foreign D ebt
Change in Foreign Debt



(P ercen t)
Foreign D ebt/G D P
Current A ccou n t B alance/G D P



N ote:
The 17 high debt countries included here are::
A rgentina, B olivia, Bra--¿il, C h ile,
C olom bia, Ecuador, K orea, Malaysia,, M exico, M o ro cco , N igeria, Peru,, Philippines, Thailand,
Uruguay, Venezuela, and Zaire.

The com bin ed balan ce in the current account f o r these high d ebt countries underwent a
similar im provem en t, declining from a $55 billion d e fic it in 19S2 to a $19.4 billion d e fic it in

O utlays fo r in terest paym ents included in the current accou n t began to stabilize during

this period due to the slow er expansion o f the external indebtedness and the downward trend in
international in terest rates in 1984.

Although the im provem en t in the external accounts was not s u fficie n t to prevent these
countries from requiring add itional increases in their foreign indebtedness, the p erform a n ce so
far indicates that the d e clin e o f som e debt burden measures (the current a cco u n t d e fic it as
share o f GDP declin ed from 5.6 percen t in 1982 to 1.8 percent in 1984) and the-slow er rise in
others (the ratio o f foreign d e b t to QDP rose to 50.2 percent in 1983 from 40.7 p ercen t in 1982,
but only to 51.4 p e rce n t in 1984) suggest an im provem ent in the high d ebtor coun tries ca p a city
to pay, o r a t least s e rv ice , their foreign obligations.

These adjustm ents, h ow ever, did not co m e w ithout significant co s ts: s t iff im port co n trols
and ta riffs w ere instituted in many instances, while dom estic currencies w ere sharply devalued,
triggering inflation and reduction s in dom estic purchasing pow er.
pay declin e as a result o f re s tric tiv e w age p olicies.

Workers saw their take hom e

Fiscal austerity attem pting to elim inate

ch ronic d e fic its reduced governm ent current expenditures and investm ents.

GDP declined an

u np recedented 0.4 p e rce n t in 1982 and 1.2 percent in 1983, while recovering m eagerly during

C apital form ation expenditures experienced a sharper decline o f an accum ulated 19.2

p ercent during the th re e -y e a r period.
d eclined m ore sharply than GDP.

Given the steady growth in population, incom e per capita
Although recessionary conditions w ere com m on to m ost

debtor cou n tries, the m agnitude o f the outpui. declines d iffered m arkedly from country to
cou ntry.

Incom e per ca p ita losses in the m ost a ffe c t e d countries w ere substantial as shown in

Table 2 and it may take past the present decade fo r them to recover to earlie r peaks.

The steep losses in term s o f output, em ploym ent and standards o f living brought about by
econ om ic adjustm ent program s, o fte n instituted under the aegis o f the International M onetary
Fund, m et a substantial d eg ree o f d om estic political opposition and discon ten t.


resistance to the p rocess o f adjustm ent originated from the fa c t that the net financial resource
transfer to the high d e b t cou n tries (net increase in their foreign indebtedness minus their
interest paym ents on their extern al debt) went from a strong inflow during the pre-1982 period
o f rapid increase in indebtedness—am ounting to $22.8 billion in 1981—to an o u tflow o f $17.4
billion in 1984 as the foreign debt crises set in.

That ou tflow was equivalent to roughly 2

percen t o f these e co n o m ie s' output o f goods and services fo r that particular year.

Table 2

High D ebt C ountries
1984 Incom e P er C apita
(1980 D ollars)

C olom bia
K orea
M exico
M orocco
N igeria
V enezuela


Y ea r



1984 Incom e Per C apita
asi P e rce n ta g e o f Peak Y ea r

O ften during the last three years, these co s ts took their toil in term s o f the w illingness o f
the politica l bodies and governm ents to contin ue or deepen the d om estic adjustm ent process,
even at the risk o f fo rfe itin g additional o f fic ia l and c o m m e rcia l bank external funding.

Som e

countries declared m oratorium (or fe ll into arrears) on interest paym ents ow ed to c o m m e rcia l
banks, rejected stabilization programs proposed by the IMF, o r simply defaulted on the program s
already agreed to, or replaced eco n o m ic policym ak ers by individuals advocating e c o n o m ic


in open c o n flic t



IMF guidelines.


sign ifican t

ex cep tion s, countries cam e to reverse those stands and contin ued attem pts at im proving their
external accounts and restoring internal equilibrium , lured partly by additional ar

m ore

favorable financing conditions and partly by their hesitation to enter into an open defau lt
situation and risk the consequences o f s ev eran ce o f their international e co n o m ic links.

On the external cre d ito rs side, a significant adaptation to the new circu m stan ces has
taken p lace.

Early on, the International Monetary Fund assumed a leadership position to

maintain c o m m e rcia l c r e d it lines

fo r the countries requiring assistance.

Im plicit in the

argum ents that persuaded the international banking com m unity to re n eg otia te am ortization
paym ents, grant additional long-term

financing, and maintain short-term

cr e d it lines—all

through c om p lica te d ad h o c, nonm arket mechanism s—was the IMF seal o f approval o f the d ebtor
countries' policie s



im prove

their external cash





a m ore

fundam ental extern al and internal e co n o m ic equilibria, and, very im portantly, the IMF financial
resources that w ould support the coun tries transition.

During the th re e -y e a r period, the adjustm ent o f lenders to the new situation has been far
from p e r fe ctly sm ooth and n ot com p le te ly devoid o f c osts.

C om m ercial banks have had to

increase their loan loss reserves in som e cases and w r ite -o ff loan losises in others.


a t granting rollo v e rs, extensions and increasing their exposure in the debtor countries was
fueled by in terest and principal paym ents arrears. Early during the crisis, during 1983, a m ajor
con cern was the design o f m echanism s that would ensure the continuation o f co m m e rcia l bank

G enerous spreads and com m itm en t fees were accom panied by p eer pressure to

encourage bank co m m itm e n ts.
con sider altern ative


M ore recently, how ever, com m ercial lenders have began to

that m oved away from

the "crisis m anagem ent"

approach toward one that takes a longer-term view o f debtors' financing needs, and introduces
som e elem ents o f con cession in lending term s.


Prospects for Debtor Countries






e c o n o m ic

grow th


and declining


ch aracterized

rates, and taking


resum ption


a cco u n t


e x p erien ce o f the last three years, the future prospects fo r the foreign debt crisis continue to
be relatively op tim istic o vera ll, fo r the follow ing reasons:


D espite the reversal in foreig n trade gains in recent m onths, derived from J igher dom estic
e con om ic a c tiv ity levels that have acce le ra te d im port grow th, and slow er export revenue
expansion due to the m oderation in the U.S. e con om ic expansion and high U.S. dollar
exchange rates, the situation does not indicate a- collapse o f the positive trends in the
trade b alan ce, but simply an adjustm ent to a m ore stable longer term situation. Although
the com bin ed trade surplus fo r the high debt countries w ill decline to $34.8 billion in 1985


$40.7 billion a year earlier, Chase Econom etrics anticipates a slow but steady

im provem ent in the balance reaching approxim ately $41 billion by 1989 (see Table 3).
Continued growth in the world econom y and strong incentives to exports achieved by
realistic exchange rates w ill be re fle c te d in rising shipment volum es, while com m od ity
export prices should b e n e fit by a decline in the dollar strength and rising world demand.
Import growth, on the other side, will remain subdued in view o f the slow growth
anticipated in high debt countries' aggregate demand.


High debt countries eco n o m ic a ctiv ity has resumed positive grow th, albeit, within the
lim its imposed by continued austerity, making possible som e progress toward a recovery o f
em ploym ent levels and purchasing pow er, thereby reducing the political opposition to
stabilization program s.


The reduction in the trade surplus envisioned fo r 1985 and its slow im provem ent in future
years are being com pensated by low er than anticipated interest rates in the short and
medium term .

Just six months ago, debtors and lenders financial projections were based

on interest rates that are now being revised by 250 to 350 basis points.


projections indicate that interest paym ents on foreign debt fo r the high debt countries will
decline to $46.1 billion in 1985 from $47.9 billion in 1984, and that they will decline
further to $41.3 billion in 1986.


The projections fo r the external debt levels, consistent with this scenario, do not seem
excessive from the point o f view o f international lenders.

Assuming that short term

lending is likely to rise at approxim ately the rate o f the debtor countries' dollar im port
growth and that o ffic ia l cre d its will remain constant in real terms (that is, will grow at
approxim ately 5 percent per annum in accord an ce with recent IMF projections), private,
long-term lending should accou n t fo r the d iffe re n ce betw een the projected external debt
level and the other two c re d it c a te g o rie s. As shown in Table 4, long-term debt is ex p ected
to grow during the fo re c a s t period, at rates that would imply som e reduction in real
term s.

Assuming, as som e international bodies and som e industry observers suggest, that

long-term exposure by private lenders could conceivably grow at an annual rate o f 5
percen t, without implying an assumption inordinate o f additional risk, private long-term
debt could rise to $431 billion in 1989, or $32 billion above the level ex pected in these
projection s, without reaching funding constraints.

55-590 O



Table 3

Future Economic Prospects High Debt Countries

I. Economic Activity and Prices

GDP Growth
Per Capita GDP Growth
Capital Expenditures Growth
CPI Inflation
























II. External Sector
($ Billions)
Merchandise Exports
% Growth
Merchandise Imports
% Growth
Trade Balance
Current A ccount Balance
Interest Payments
'oreig n Debt
Change in Foreign Debt



Foreign D ebt/G D P
Current A ccount Balance/G DP



IH. External Assumptions
LIBO R ate, 3 months
U.S. GNP Growth




T able»

High Debt Countries
Base Forecast Composition o f the External Debt
($ Billion)







T otal D ebt
Annual grow th (%)







Short-Term D ebt
Annual grow th (%)







O ffic ia l Long-T erm D ebt
Annual grow th (%)







Private Long-Term D ebt
Annual grow th (%)







D espite this upbeat assessm ent, there are still som e aspects o f the foreign debt crisis that
contin ue to b e troublesom e.

For the m ost part, they arise from the still apparent inability o f m ajor

high debt countries to c o r r e c t som e o f the do m e stic distortions that w ere a t the root o f the early
e x cessiv e increases in external debt and o f their inability to render som e o f that borrow ing into fully
productive investm ent in the past.

Although a m oderate early success has been ach ieved on the

coun tries dom estic m anagem ent, fis ca l d e fic its , subsidies, and other form s o f m arket intervention
contin ue to prevent further progress.

Inflation has continued on an upward trend fed also in part by

the relu ctan ce o f the various internal groups to assum e the c o s t o f the adjustm ent, triggering a spiral
o f w age adjustm ents and inflation.

M oreover, inflation fo re ca sts give little hope fo r a quick reversal

in those trends.

External funding w ill contin ue to be a c r it ic a l asp ect o f foreign debt crisis m anagem ent; this w ill
in trod u ce strong s e lf co rre ctin g fo r c e s into the situation because relu ctan ce o f co m m e rcia l cred itors
to co m m it funds to countries w here a breakdown in stab ization program s occu rs e ffe c t iv e ly linking



constrain t





external accou n ts

ach ievem en t o f sound d om estic e co n o m ic m anagem ent.

p erform an ce




In addition, although the willingness o f

international lenders to fin a n ce the foreign d ebt crises has been traditionally regarded as a decision
dealing with net increases in exposure, it is cle a r that the safety o f the principal is also a cru cia l
con sid eration .

The decision to lend fo r purposes o f rollover o f outstanding debt, which involves far

higher volum e o f funds, is governed by country risk considerations.


This year, on ce again, IMF financing agreem ents have been tem porarily suspended in many
countries in order to pressure e co n o m ic
agreem ents
cla rifie d .


policy into a m ore austere stand, and the refinancing

foreign c o m m e rcia l cre d ito rs have been delayed until new po licy

targets are

External cash flow shortages have reappeared and paym ents arrears have grown larger in

som e c a ses.

Will the situation reach a point o f crisis?

We belie v e it is quite unlikely. D ebtors' c a r te l ^

initiatives have failed to m aterialize and coun tries are less willing today to risk the unforeseen c o s ts
o f an open d efau lt.

The situation w ill contin ue to muddle through, even in the m ost serious ca s e s , as

illustrated by the re ce n t e co n o m ic m easures taken by A rgentina.

With no m ajor disruptions taking

place in the world econ om y , high d ebt coun tries are likely to slowly re co v e r their lost standards o f

Progress in d om estic e co n o m ic m anagem ent how ever will be slow as many governm ents rem ain

fearfu l o f testing the p o litica l lim its o f m ore radical e co n o m ic program s.

An im portant question is what are the im plication s o f the foreign debt crisis and rela ted
developm ents on the level o f internal ca p ita l form ation , that is on the ability o f the high debt
econ om ies to gen erate adequate em ploym ent and business opportunities in the longer term .


E con om etrics p rojection s in dica te that investm en t expenditures are likely to r e c o v e r a t a slow p a ce
fo r the follow ing reasons:

(a) R e s trictiv e m onetary p olicies are likely to contin ue to r e in fo rce the

recen t hikes in d om estic interest rates, which w ill contin ue to remain p ositive in real term s,


Internal sources o f investm ent financing have been depleted over the last tw o or three years o f
d om estic recession and sharp increases in the c o s t o f servicing foreign currency denom inated d e b t, (c)
The w idespread elim ination o f subsidies and the sharp devaluations o f d om estic cu rren cies have
changed rela tive prices, m odifying co m p a ra tiv e advantages and altering the rela tive p ro fita b ility o f
new investm ents. C areful reassessm ent o f investm ent p ro je cts and priorities has begun to take p la ce ,



tim e


betw een

the design

and actual

im plem entation


investm ent p r o je cts, (d) U tilization o f plant ca p a city w ill only gradually im prove, given the slow rates
o f output expansion an ticipa ted , delaying ca p a city expansion plans,

(e) D om estic inflation


contin ue a t disturbingly high levels during m ost o f the fo re c a s t period in many co u n trie s, discouraging
d om estic savings and capital spending by d ifficu ltin g calcu lations o f p ro je ct viability and increasing
the risk premium on investm ent funds.



produ ctive investm ent.


w ide

High inflation is also associa ted with w ide flu ctu ation s in

in p ro fit







V ulnerability o f High D ebt C ou ntries t o W orld E con om ic Conditions

Tw o o f the main external variables a ffe c t in g the eco n o m ic perform an ce and p rospects o f the
high d eb t coun tries are w orld e c o n o m ic a ctiv ity and international interest rate levels.

The p rocess o f

transm ission o f these influences into their d om estic econ om y is com plex and m u ltifa ce te d . The im p act
o f a d eclin e in, for exam ple, OECD e c o n o m ic a ctiv ity on borrow ing countries would c o m e via exp ort
revenue changes caused by e xp o rt p rice and volum e changes. The reduction in the volum e o f exports
w culd d irectly im pact do m e stic output and the ensuing reduction in the trade surplus, vis-a -v is the
base fo re c a s t, would translate into a sim ilar deterioration in the current a ccou n t d e fic it .


financing o f the added current acco u n t d e fic it b e co m e s a cru cial issue, given the inability o f countries
to freely tap external sources o f funds. Two possibilities ex ist: (a) Countries would resort to d om estic
ag gregate demand adjustm ents to reduce im ports and keep their current a cco u n t d e ficits unchanged.
The output losses associa ted with this altern ative w ill be sm aller the higher the changes in im port
expenditures associa ted with a given variation in output; in other w ords, the higher the coun tries
m arginal propensity to im port,

(b) D ebtor cou n tries would be able to finance the additional interest

paym ents by increasing their external borrow ing.

The feasibility o f this altern ative w ill be o f cou rse

dicta ted by the availability o f foreign funds; i.e ., by the willingness o f foreign lenders to increase their
level o f exposure con cu rren tly .

In analyzing the im pact o f international in terest rate variations on high debt countries, the m ore
im m ediate e f f e c t is on the in terest paym ents on their foreign debt.

Given the key role played by

in terest rates in the determ ination o f e c o n o m ic a ctiv ity , exchange rates, and com m od ity prices,
in terest rate scenarios must also play p articu lar attention to those linkages. Our con ten tion , h ow ever,
is that relatively sm all interest rate deviations from the base scenario—on the order o f 1 percen tage
point—can b e treated, as a fairly independent even t, a ffe c tin g interest paym ents but unlikely to
produce a m easurable e f f e c t on oth er external e co n o m ic variables.

For interest rate increases above

that range, our scenario analysis s p e cifica lly assum es the follow ing e f fe c t s :

(a) Strengthening o f the

U.S. dolla r, with a consequent d eclin e in co m m o d ity p rice s, (b) R eduction in OECD e co n o m ic a c tiv ity ,
im plying a reduction in co m m o d ity , o il, and m anufactures im port demand by the OECD, resuiting in an
additional downward pressure on w orld co m m o d ity p rice s. These fa cto rs would necessarily bring about
a deterioration in the high debt coun ties* e x p o rt revenues that will only be partially o f fs e t by a
reduction in their im port bills (which would b e n e fit from low er im port prices).

As with the scenario

that in corp ora tes variation in w orld e co n o m ic a c tiv ity , the ensuing current accou n t d eterioration v is a -vis the base fo re c a s t can be financed by additional external borrow ings or by adjustm ents in the level
o f d om estic aggregate dem and.


Simulation ex ercises sum m arized in Table 5 show

the follow ing sensitivities

fo r scenarios

incorporating a one p ercen t perm anent reduction in OECD growth vis-a -v is the base p ro je ctio n
assum ptions, and separately, a one p ercen t perm anent increase in the assumed levels o f in terest rates.


The d eclin e in the OECD grow th rate, if additional external financing is available to high debt
countries to c o v e r the p r o je cte d additional current a ccou n t d e fic its , w ill imply a 0.5 p e rce n t
d eclin e in the GDP growth rate fo r those countries during the first year o f the sim ulation. If the
debtor countries are fo rc e d to adjust by reducing the level o f their im ports, the ensuing output
losses im ply a perm anent reduction in their GDP growth rate o f 1.5 percen tage points during the
first year and o f 1.1 percen tag e points in subsequent years.

This last e stim ate is particularly

sensitive to the assum ption with regard to the d ebtor countries m arginal propensity to im port,
that has roughly been on the order o f three during the last three years o f the foreign debt crisis.
If low er assum ptions are made fo r this param eter, considering that m ost o f the easy im port
reductions have already taken p la ce , the output losses w ill be m agnified.


The one percen t perm anent rise in in terest rates, would have a negligible im pact on high debt
countries' eco n o m ic a ctiv ity if foreign financing is available.

Lack o f financing, how ever, will

imply a one percen t d eclin e in their GDP grow th rate fo r the first year o f the shock.


The additional exposure o f international lenders by the fourth year o f the simulation (1989) under
the assumption o f full availability o f external financing, is o f $93 billion in the case o f the
declin e in OECD growth scenario and $24 billion in the ca se o f higher interest rates. Com paring
these figures with the p ro je cte d foreign financing leeway o f $32 billion described above fo r the
base projection s indicate that funding is likely to m eet resistance, particularly in the first c a s e ,
from international co m m e rcia l lenders.

Thus, it is clea r that sign ifican t downward risks exist regarding the foreign debt situation.

ca se



m odest

U.S. e c o n o m ic

grow th, a pickup o f

e co n o m ic

grow th


in o th er

industrialized countries (especially Europe), and continued low interest rates suggests that the debt
crisis is m anageable.

If, h ow ever, in terest rates should back up, or if the U.S. sinks into recession

an d /or Europe remains stagna: t, it w ill be very d iffic u lt fo r many o f these debtor countries to se rv ice
their debts w ithout sign ifican t further austerity m easures in view o f the d iffic u ltie s they are likely to
encou n ter in receiving m ore cre d its from outside financial institutions.


Table 5
High Debt Countries Scenario Analysis




One p ercen tage point d eclin e in annual OECD GNP grow th. Additional external financing.
Current A ccou n t Balance ($ billion)
Base F orecast
Foreign D ebt ($ billion)
Base F orecast
GDP Growth (percent)
Base F orecast















One p ercen tag e point declin e in annual OECD GNP grow th. No additional external financing.
GDP Growth (percen t)
Base F orecast





N ote: Foreign d ebt and current a cco u n t balan ce unchanged.


One p ercen t perm anent rise in in terest rates. Additional external financing.
Foreign D ebt ($ billion)
Base F orecast





N ote: GDP unchanged.


One percen t perm anent in terest rate rise. No additional external financing.
Interest Paym ents ($ billion)
Base F oreca st
GDP G rowth (percen t)
Base F orecast
N ote: Foreign d c.jt unchanged.




4 7.7







F eedback Im pact o f Foreign D ebt Scenarios on the U.S. Econom y

We have considered tw o scenarios fo r the U.S. eco n o m y, exam ining their im p act on the high debt
countries, and then subsequently considering the additional im pact that those changes would have on
the U.S. econ om y in term s o f em ploym ent and GNP.

The scenarios assume the U.S. GNP grow th rate su ffers a perm anent 1 p ercen t d eclin e vis-a -v is
the one anticipated in the base p ro je ctio n s.

For sim p lification purposes, we have assum ed that this

translates into an OECD grow th de clin e o f one percen t each year. With a neutral m onetary po licy and
the consequent decline in cr e d it dem and, we have assumed interest rate declines o f 2 p ercen tage
points in the U.S. in the first scen ario, with an equivalent im pact on world interest rates.


follow ing scenario assumes a r e s trictiv e m onetary policy as an initial trigger to the low er U.S. and
OECD grow th con dition .

Under these circu m stan ces, we have assumed that interest rates are higher

by 3 percen tage points every year.

T able 6 provides a summary overv iew o f these particular scenarios fo r the high debt cou n tries.
The m ost pessim istic scenario with high in terest rates im plies, a fte r a few years, an untenable position
fo r these countries in term s o f the needed financing to bridge the revenue shortage, or alte rn a tive ly, in
term s o f foreg on e GDP in order to o f fs e t the deterioration in the current a cco u n t.

From a pra ctica l

p ersp ective, how ever, it is unlikely that the com bin ation o f higher interest rates and OECD slowdown
will be maintained fo r a considerable num ber o f years. This scenario, consequently, should be regarded
as plausible in a short term , business c y c le type o f situation.

Considering the scenarios w here the lack o f external financing triggers a g gregate demand
reductions in the high debt countries (in particu lar, o f im port expenditures) it is possible to determ ine
the feedback o f those situations on the U.S. econ om y through the declin e that they im ply fo r U.S.
m erchandise exp ort a ctiv ity .

Table 7 provides a summary o f those im pacts in term s o f fo reg on e U.S. em ploym ent and GDP
losses. The m ore pessim istic scenario indicates that 100 thousand jobs could be lost during the second
year and tha

the losses cou ld m ount quickly reaching 220 thousand jobs during the fourth ye a r. Thus,

a U.S. recession a n d /or higher U.S. in terest rates that aggravates the foreign debt problem w ill have
unfavorable feed b a ck e f fe c t s fo r the U.S. econ om y and thus would deepen the dow nturn. The feed back
e f f e c t w ill be fairly m odest, how ever, since much rela tively non-essential U.S. exports to many high
debt countries have already been cu t dram atica lly.


Table 6
High Debt Countries Combined Scenario Analysis


Additional external





















One p ercent decline in OECD growth plus three p ercent higher interest rates. Additional external
Current A ccou n t Balance ($ billion)
Base F orecast
Foreign D ebt ($ billion)
Base F orecast
GDP Growth (percent)
Base F orecast



One percen t decline in OECD growth plus tw o p ercent low er interest rates. No additional external
GDP Growth (percent)
Base F orecast
Im ports (billion)
Base Forecast



One percent decline in OECD growth plus two p ercent low er interest rates.
Current A ccou n t Balance ($ billion)
Base F orecast
Foreign D ebt ($ billion)
Base F orecast
GDP Growth (percent)
Base F orecast















One percen t declin e in OECD growth plus three percent higher interest rates.
extern al financing.
GDP Growth (percent)
Base F orecast




No additional



Table 7

Feedback Impact on the U .5. Economy of
Alternative High Debt Countries Scenarios





One percent decline in OECD growth plus two percent lower interest rates.
external financing.

No additional

D ecline in Employment
(thousand workers)





D ecline in GNP
($ billion 1972 prices)





One percent decline in OECD growth plus three percent higher interest rates. No additional
external financing.
D ecline in Employment
(thousand workers)





D ecline in GDP
($ billion 1972 prices)





Representative O b e y . Thank you. Why don’t we go right down
the table? Mr. Hormats.

Mr. H o r m a t s . Thank you, Mr. Chairman. The analysis that
we’ve just heard is one that I find myself very much in agreement
with in terms of the key elements in U.S. policy, U.S. growth, and
the broader implications of the deterioration in the situation.
Let me try to describe very briefly some of the major factors that
I see involved in this situation. In particular, I think that we
should be careful to draw a distinction between the very impressive
improvement in trade performance of these high debt countries
and their internal adjustment. There’s a big difference between the
As a result of growth in the United States, exchange rate devalu­
ations in a number of the high debt countries, and very tight fiscal
and monetary policy in many of these countries, their trade bal­
ances have improved rather substantially.
Internal adjustment, however, has been far more difficult, far
more painful, and much slower. In many cases, the internal adjust­
ments involved important structural changes that require capital.
The capital is not there in many of these difficult situations be­
cause they simply can’t borrow additional sums of money. Also, in­
ternal structural adjustment is much more difficult politically. And
I think we have seen in a lot of these countries that while they
have done what is necessary to improve their debt situation nu­
merically, a lot of internal difficulties still remain. I will just go
over them very briefly.
One, unemployment is extremely high. Unemployment in most
of the Latin American countries today is about the same as it was
during the Great Depression. It’s very, very high, particularly in
the cities and particularly among younger people: That gives rise
to pressures for more emigration, a lot of crime, a lot of social dis­
content. And while we can look at the numbers and perhaps be rel­
atively optimistic, the underlying circumstances in these countries
is a political tinderbox.
So far, I have been most impressed with the way countries have
been able to deal with these political pressures, but one doesn’t
know how long that can continue.
Second, we have to be careful to differentiate among the types of
debtor countries. There are really three broad types. There are the
big Latin debtors. And the big Latin debtors have been adjusting
reasonably well in their external accounts, although, as I say, there
are lots of internal problems still to be reckoned with.
Second is the middle tier of Latin countries. Those countries—Bo­
livia is an example—today are in what might be called a state of
suspended default. They’re not paying their debts on time. They’re
not paying their interest on time. But they’re not in default be­
cause the banks haven’t called them in default. The banks haven’t
said, you’re in default—with all the messy legal problems that that
would entail. So they’re really in a state of suspended default. Basi­
cally, that’s going to continue. And don’t forget, that suspended de­

fault situation has occurred in an environment where the United
States has been growing relatively rapidly.
Third, there are the African countries, who have an enormous
debt problem, but it’s mainly official debt rather than commercial
debt, and therefore, we tend to put it in a different category.
Now, what’s likely to happen to these countries and what does it
mean for us?
It seems to me that the key, really, in many of these countries is
what happens in the U.S. economy? I think that point is very well
One alarm bell that has begun to ring is when we saw the weak
U.S. statistics of the first and early part of the second quarters,
people began to worry about what this meant for the debt situa­
tion. Rightly so, because it has in large part, been the very strong
American engine which has helped a number of these countries to
increase their exports. If the American engine begins to lag, then
I’m afraid that we’ve got big problems.
As it was, even with substantial American growth, Argentina,
Brazil, Chile, and Mexico saw their exports last year decline from
what they were 1 year earlier—although Columbia, Equador, Peru,
Venezuela, had increased exports.
But if the U.S. economy were to weaken dramatically, the ex­
ports of many of these countries would deteriorate quite fast.
Another problem is, if the United States imposes lots of restric­
tive measures against the exports of these countries, that would
have a similar effect—reducing their ability to export. That would
certainly sour them on the whole debt situation.
And a third problem is that the flows from abroad are weak.
Many had felt that there would be somewhat of an increase in ex­
ternal flows. Those have increased, but not by enough.
Let me outline briefly three types of scenarios which could occur
over the next, say, 2 to 3 years.
One is the scenario which is likely to occur if growth in the
OECD remains reasonably high, say in the 3 to 3Vi percent range,
there’s no protectionism, and the high debt countries continue to
remain committed to some type of adjustment, which is still very
I’ll come back to that in a moment.
If that should occur, the big debtor countries are likely to be able
to go through the situation with some pain, but with continued rea­
sonable, although not rapid, progress.
The middle-size countries, I think, will find it very difficult to
service their debts in a timely way. And there will probably be a
number of renegotiations of stabilization agreements, renegoti­
ations of rescheduling agreements, and a number of other prob­
lems. But, basically, the situation is manageable without too much
disruption. And in the countries in which there would be disrup­
tion, the Bolivias and others, the disruption would be manageable.
The second scenario begins to loom larger on the horizon to the
extent that the assumptions of 3,
percent growth and minimal
protection are deviated from. To the extent that we don’t live up to
those assumptions, then the situation gets somewhat worse. Then
you will see, I think, a number of the bigger countries coming in
for very frequent renegotiations of debt rescheduling agreements

and of IMF agreements. They’ll make an effort to pay their debt on
time, but they’ll ask for considerably modified terms. And the little
countries will ask for some sort of limited or partial moratorium—
which is to say they will try to reach agreement on a situation
which de facto exists today—they simply can’t pay their debts. And
they will ask for special terms by the banks or acquiescence in the
The worst scenario is if the U.S. economy and others really
suffer a major recession, or there’s a lot of protectionism. Then I
think you will see a lot of dramatically changed terms of repay­
ment. IMF standby agreements will not be met. And a lot of the
smaller countries will find themselves virtually unable to pay and
will say, well, we’ll pay you 5 or 10 percent of what we owe you.
We can’t do any better than that. And you have to accept that
Now I’m saying these last two scenarios are not ones that I’m
predicting, but I think that we have to be aware that if the situa­
tion deteriorates substantially, they’re the types of things that we
will, whether we like it or not, have to look for.
Then there’s the question you raised in your opening statement,
Mr. Chairman, the political risk—political stability.
The answer to that is we really don’t know how much political
pressure these countries can tolerate. We know in our own country
that we can’t get very much support for reducing the budget deficit
by $50 billion. In these countries, we’re asking governments to un­
dertake very substantial austerity programs, eliminate social pro­
grams or cut them down, eliminate new development projects or
postpone them for a period of time.
These are important political and economic and social adjust­
Now I made the point earlier that adjustments have to continue.
I think it is imperative that these countries continue to adjust. The
reason that they got into these debt situations, in addition to the
change in the international environment, was that they were bor­
rowing to support a lot of development programs which were very
expensive. They were borrowing for subsidies. They were borrowing
for a lot of uses which they really shouldn’t have borrowed for and
which, quite frankly, the banks shouldn’t have lent for.
It’s a dual problem.
However one puts it, a certain amount of contraction is neces­
sary, has been necessary, and will continue to be necessary.
The real issue is whether what is economically imperative is po­
litically sustainable. And that we simply don’t know. It differs from
country to country.
So far, adjustment has been sustainable politically, quite remark­
ably in many cases. And we hope it can go on. But one has to
always be aware that in some cases, it might not be able to go at
quite the pace that we would like.
Now let me just identify—and we can probably discuss them a
little bit later—three considerations that have to be borne in mind
in addressing the situation.
The first is that we saw a big sea change in the world economy
around the turn of the decade, when we went from an inflationary
to an anti-inflationary environment. We went from low interest

rates to high interest rates. People who borrowed in dollars saw
the dollar shoot up and dollar interest rates shoot up.
In the future, we’re going to have to do a lot more to help coun­
tries manage their borrowing and their liabilities in such a way as
they’re not quite as vulnerable to these major changes in the world
Second, there are major differences among the developing coun­
tries today. Some have adjusted quite well. Some, like Korea, have,
in fact, avoided the worst elements of the debt problem. And some
have adjusted very poorly. It seems to me that they can learn a lot
from one another. These countries might usefully compare experi­
ences to determine which types of policies have been most success­
ful, and which have been least successful. Because even in this
cruel economic environment, some have done reasonably well. So
it’s not a fait accompli that all countries had to be in this serious
debt situation. The right sort of policies could have mitigated the
Third, the locus of world savings has dramatically shifted from
the 1970’s. OPEC in the 1970’s was the big saver. Today, OPEC is
an important saver, but Japan is a big saver. And within the indus­
trialized countries, institutional savings—insurance companies,
pension funds, and such things—are now big repositories of investable money. Somehow, ways need to be found to use that.
Now in terms of specific measures, let me just make a few gener­
al points. One, I think the key problem now for a number of these
countries, and for us, is to help them to reduce their foreign ex­
change constraints. One reason we’re not exporting much to them
is that they simply don’t have the foreign exchange to buy very
much from us. When they earn foreign exchange, they repay a
largfe portion to service their debt.
So one thing that has to be done is to find ways to increase
export financing for these countries, using, to a degree, government
support and, to a degree, private support.
Second, the World Bank has been toying with the idea of a
bank’s bank to try to use a higher gearing ratio to get more money
into these countries, particularly for things like cofinancing. That
should be encouraged.
Third, the International Finance Corporation of the World Bank
is doing some imaginative and helpful things to support the private
sector in these countries and the private sector in these countries
is hurting very badly. This also needs support.
The fourth area that can be addressed is multiyear reschedul­
ings. Mexico has received a very favorable multiyear rescheduling.
Other countries that are in reasonable positions should be able to
obtain the same thing.
Fifth, some way should be found to avoid an adverse impact on
these high debt countries if, in fact, interest rates do increase sub­
stantially. There has been all sorts of talk about interest payment
smoothing. It seems to me a number of these ideas are well worth
Another area that I think is particularly important is the way
the repayments to the IMF trust fund are used. This is one oppor­
tunity the world has to get some resources that are relatively un­
committed and use them to help deal with the debt situation. It

strikes me that this committee could make an important contribu­
tion to that debate because the U.S. Government has not yet made
a decision on what it will recommend to the IMF in terms of use of
the repayments from the old IMF trust fund. And the amounts of
those repayments are quite substantial. Those funds could well be
used in some way to help support additional financing for some of
the higher debt countries.
There are other areas that 111 talk about very briefly. One, trade
is extremely important. The lack of multilateral trade negotiations
reduces one constraint on this country and other countries to
impose new import restrictions. And, concessional assistance is par­
ticularly important for the poorer countries of the world, particu­
larly Africa, and some of the poorer countries of Latin America.
The private sector, as I mentioned, is a major problem in these
countries. It’s financially starved of resources. And there are ways
of helping to refurbish that.
But these are some general points. They’re covered more in my
prepared statement.
I would simply say, in closing, that the situation remains serious,
even though improvements have taken place. One has to look at
different types of debtor countries. The overall problem, however,
will be made much easier if there is growth in the industrialized
countries. But even that will not solve the problems of some of the
middle-tier Latin American countries. It won’t solve some of the
problems of the African debtor countries. And even with respect to
some of the larger Latin American countries, there are lots of in­
ternal political and social pressures which could lead to major
changes in policy or major social frustrations, even if the growth
rates in the industrialized countries, particularly the United
States, remain relatively strong.
We have here in the final analysis, a major problem—one that
affects the U.S. national security, political, and financial interest.
The banking system is very vulnerable if one or two of these big
countries should suffer major reverses. We focus a lot of our time
and attention on Central America, and rightly so. There are big
problems in Central America. But there are certainly major Ameri­
can interests in the rest of Latin America. And my fear is that we
have, in a way, let Central America overshadow some of the vital
American interests in South America. That is something that we
have to overcome. Thank you.
[The prepared statement of Mr. Hormats follows:]

P r e p a r e d S t a t e m e n t o f R o b e r t D. H o r m a t s

Mr. Chairman:
In recent weeks this Committee has received testimony
regarding the continued seriousness of the developing country debt
situation and its impact on the United States.Against that
excellent backdrop,I shall concentrate on the two subjects which
are the focus of this hearing: l)how the debt situation is likely
to evolve over coming months, and 2) whether,and how, the US can
influence it in a constructive direction.
The basic figures regarding the size of developing country
debt, particularly that of Latin America, are well known to this
committee.You are also well aware of the combination of adjustment
measures by the high debt countries, substantial trade surpluses,
new resources from the IMF and the commercial banks,and major
reschedulings that in 1982,1983 and 1984 improved the debt outlook
of several important developing nations.
These efforts helped to avert an international financial
crisis and the collapse of the economies of significant debtor
countries. But external adjustment has proved to be quicker and
easier than internal adjustment.The later is far more structural
and politically difficult.
As the result,the fundamental economic situation has not
significantly improved for many debtor nations.And concerns are
rising about the future debt outlook.Today, several medium size
developing countries,e.g. Bolivia, are in what might be called a
state of "suspended default," i.e. they are being kept from actual
or "legal" default by the injection of new funds or the
unwillingness of creditors to declare them in default (with all
the unpleasant legal and other actions that would likely follow),
Major adjustment — in the form of tighter fiscal and monetary
policies, reduced subsidies, market oriented pricing, and a more
market related exchange rate policy — was clearly needed after
the excessive build up of debt before mid-1982 and the large trade
and domestic imbalances it permitted.And in most high debt
countries the need for maintaining adjustment measures continues
to be recognized.The recent annoucement by President Alfonsin is

the latest evidence of that.Moreover,the pains of adjustment were,
to varying degrees, anticipated but even the most resolute
adjustors, such as Mexico, probably never expected them to be
quite so socially painful.
Many observers pointed out,however, that over time such
adjustment,supported by new IMF resources and prudent bank
lending,and accompanied by healthy growth in the industrialized
countries (particularly the US),would bring about economic
progress in high debt countries and eventually alleviate the
social stresses resulting from the debt problem.
It now appears that despite important improvements, and some
welcome growth in a few of the major debtor countries, new debt
problems may be on the horizon.And there is a realization that
many manifestations of the old problem have simply not gone
away.Unemployment in many debt-burdened countries remains
extremely high — especially in urban areas and among young
people.Slow growth and extremely high rates of inflation erode
real incomes^ and combine to undermine the middle classes —
historically a stabilizing political force in many
nations .Development projects have for the most part been put on
hold or cancelled altogether.Commodity prices, so crucial to the
least developed countries in Africa and still to a number of Latin
American and Caribbean nations, have not rallied as might be
expected in light of recovery in the US and other industrialized
nations.And pressures for new stimulus -- although impossible for
many countries because of foreign exchange constraints — are
emerging as the social costs of prolonged austerity weigh heavily
on governments.
Added to these problems is the concern in some quarters that
the rate of growth in the US — which has been a powerful, indeed
decisive, factor in improving the trade position of many Latin
American countries — may remain weak or falter. While it would be
a mistake to assume that the weakness of the last several months
necessarily forshadows a recession — because the more
expansionary Federal Reserve policy which began last fall, and the
attendant drop in interest rates, could well enable growth to
rebound — these poor figures at least serve to draw attention the
possible consequences of a serious US economic slowdown for high
debt countries and must force us to come to grips with that
possibility. Even late last year, with strong US growth the
balance of trade figures of some large debtors began to weaken and
commodity prices were soft.The exports of Argentina, Brazil,Chile
and Mexico are all down relative to the same period last year

while those of Columbia, Ecuador, Peru and Venezuela are up.But a
sustained period of very weak growth in the US and other
industrialized countries would almost certainly weaken exports of
all of these countries.
A second added concern is that new measures by the US and other
industrialized countries to protect their economies against
foreign competition will restrict export opportunities for high
debt countries and thereby reduce their ability and willingness to
repay their debts.A third is that new resource flows from abroad
— by banks and other sources — will not grow as fast as needed
to overcome foreign exchange constraints to growth and
There are three broad types of scenarios that — howvere
unconfortable to contemplate some are — must be considered in our
contingency planning.
One, slow but steady progress.This scenario is the most likely of
the three assuming:a continued recognition in high debt countries
that policy improvements remain necessary,reasonable growth (3% or
above) and market access in industrialized countries, and adequate
new financial flows to debtors.Under this scenario, adjustment
will probably continue in the major debtor countries and serious
problems can probably be either avoided or managed in the smaller
ones. There will be a number of negotiations of new IMF
stabilization agreements,and modifications in a several current
rescheduling agreements with the banks, but most countries will
maintain trade surpluses sufficient gradully to reduce the
debt/export and debt/GNP ratios and achieve enough domestic growth
to maintain social stability.
Two,this scenario — which attains a higher probability the
greater the departure from the above assumptions — involves
slower adjustment by some larger debtors and attempts by some
smaller ones to negotiate partial moratoria.Under this scenario
many of the larger debtors would seek to utilize a higher portion
of their foreign exchange for domestic needs.Most major debtors
would,however, continue to try to maintain reasonable repayment
schedules and have some type of adjustment understanding with the
IMF; but most would ask for important modifications in terms.A few
countries — mainly those now in a state of suspended default —
might declare themselves unable to repay their debts on the basis


of timetables established under earlier rescheduling arrangements
or anything close to them; they might also institute domestic
policies that would be unable to meet the terms of even the most
flexible type of IMF adjustment program. In such circumstances
some might well indicate to their creditors that considerations of
domestic political stability required them to channel resources to
domestic social development needs and that they would pay no more
than x millions of dollars per year in interest;they might well
ask their creditors to acommodate them by agreeing to or
acquiescing in something like a temporary»partial moratorium
involving a combination of debt write downs or more generous
Scenario three, which takes on a higher probability if the
industrial economies experience a deep recession or resort to
major protectionist actions, would involve a general internal
economic decline in many debtor countries and in the international
debt situation.In this scenario, many debtor countries might well
seek far more favorable rescheduling terms but try to keep current
on them; others might ask for agreement on partial moratoria, and
still others might unilaterally limit servicing their debt —
simply allowing arrears to pile up — and make little or no effort
to reach an understanding regarding stabilization with the IMF.
There is also the related question of political stability in
debtor is, of course, difficult to predict the
political consequences of prolonged austerity for individual
countries. What is clear, however, is that the weakening of middle
classes in many debtor countries and high unemployment threaten
social stability.For the new leader of Brazil,and its elected
congress,the task of agreeing on a sound stabilization program
becomes more difficult if growth in the world declines.For
President Alfonsin — trying to reestablish democracy — the task
is far more difficult as the result of the debt situation.For many
other countries»problems of crime, resort to drug exports,major
emigration pressures are growing.And for several the possibility
of serious political polarization — with the potential for
politics to lurch between right and left would grow if the debt
problem worsens.
Some of these scenarios may be unpleasant to contemplate, and
indeed harmful to debtors and creditors alike.But in the interest
of fulfilling this committe's request to describe possible future
developments and ways of identifying constructive actions for the
US, such scenarios need to be at least laid out so that
disasterous problems can be avoided.

Let me now discuss several different kinds of approaches to
the debt problem.These take acount of — and attempt to take
advantage of — three of what I believe to be fundamental changes
in the international economic environment in recent years.I
discuss these first because an understanding of them is useful in
deciding on what further measures are needed in order to cope with
the debt situation.
First, around the turn of the decade the major industrialized
nations — fed up with the social and economic costs of high
inflation — shifted to an anti-inflationary strategy.During the
earlier period inflation was high, real interest rates low, and
borrowing apparently "cheap" while the holding of interest bearing
securities was not especialy attractive.
The dominant force in this policy shift was the tight money policy
of the US Fed, and its refusal to monetize the large US federal
budget deficit. Other countries manifest their anti-inflation
policies in the form of tight monetary policy, tight fiscal
policy, or both.
One consequence of this world economic "sea change" was sharply
higher interest rates and, for a time, sharply lower growth. It
also meant that traditional "real" hedges against inflation (gold,
silver, land, etc) became less desirable to hold and financial
asssets , with their now higher rates of return, became more
desirable. Because over two-thirds of financial assets are
denominated in dollars, this shift in asset preferences itself
meant a higher demand for the dollar thus helping to push up its
foreign exchange value.
The net result was that those who had borrowed in dollars in
short term or floating rate financial instruments — i.e. most of
Latin America — incurred a double increase in their debt
burden;at the same time, they were hurt by a weakeness in foreign
markets for their products.A more balanced borrowing strategy —
gearing currency repayment obligations closer to export
earnings»providing for ways of smoothing out interest payments,
and ensuring productive use of borrowed funds however "cheap" —
would have reduced the intensity of the problem.This lesson can
help guide future borrowing strategy, as discussed below.

14 5

Second, there are growing differences among developing
countries in terms of economic circumstances, quality of policies,
and ability to adjust to the debt problem. The debt problems of
most African countries are, for instance, largely the result of
borrowings from official sources, whereas those of Latin America
stem from heavy commercial borrowing.Within Latin America some
countries, e.g. Columbia, did not engage in excessive borrowing or
make major policy mistakes and therefore retained their
creditworthiness.And some, like Mexico, have adjusted more rapidly
than others.
East Asian countries, except for the Philippines, have
managed to avoid the worst aspects of the debt problem because of
the basic flexibility of their economies, maintenance of
relatively market related exchange rates,and avoidance of major
price distortions or subsidies. They have also maintained a
climate hospitable to domestic and foreign investment. Korea, for
example,faced many of the same difficulties as Latin America, but
managed to adjust earlier and with less pain.
The quality of internal policies is, therefore, a critical
variable in a countries susceptibility to and ability to withstand
international economic problems.As described later, these
differences are a strength developing countries can take advantage


Third, the locus of world savings has shifted among and
within countries.In the 1970s OPEC nations were the world's big
savers.And while today they are still important, it is now Japan
which is the world's largest saver, with Germany and a few other
European countries also assuming greater importance.
Within the industrialized countries there also has been a
major change as pension funds and other institutional investors
assume an ever larger role relative to banks as intermediaries of
private savings.They are the largest participants in stock and
bond markets and their investable funds could support productive
investment in developing countries.
I now turn to the areas in which steps that could be taken to
alleviate some of the pressures of adjustment and thereby improve
prospects for its continuation and to establish the basis for
sustained growth in debtor nations.


Over arching ail of what I suggest below is domestic economic
policy in the US and other industrialized countries,and continued
resolute adjustment efforts in debtor nations.US policy, because
this country is by far the largest market for most high debt
countries, is critical.The Federal Reserve Board today, probably
more than any time in its history, is actively taking foreign
considerations into account in making policy has
evidenced strong recognition of the consequences for the US
economy and financial system if a major drop in US economic growth
or a sharp increase in interest rates were to cause a sharp
deterioration in the developing country debt problem.This
recognition and willingness to act is an important source of
optimism about the debt situation.
Let me now discuss a series of specific measures.
First, the major constraint on many debtor nations is foreign
exchange.One possibility to help alleviate this is for the EX-IM
bank to establish loan guarantee facilities to guarantee new
private export credits, with the commercial banks contributing(and
earning interest on) say 25% and the EX-IM using its own guarantee
authority for the remaining 75%.Other creditor countries would be
asked to establish similar facilities.A facility would be
established for each country pursuing a sound stabilization
program.Each would be administered by the EX-IM Bank but decisions
would be made based on consultations with authorities in the
debtor country;the facility would only guarantee export credits
for specific debtor country programs which improved industrial and
agricultural productivity.
Along the same line, the World Bank's management should be
encouraged to pursue the idea of a new "Bank's Bank", This would
have a higher gearing ratio than the Bank s charter currently
permits (i.e. one dollar callable for every dollar of lending
guaranteed).This new Bank, with a higher ratio,could participate
actively in cofinancing programs by,for example, guaranteeing
later year could also lend directly to soften terms
to poorer nations in debt difficulty.
Another varient is the positive involvement of the
International Finance Agency (the World Bank's window to support
the private sector) in joint underwriting of borrowings or equity
issues by private institutions in developing countries.Recently,
the IFC and Goldman Sachs were co-lead managers in a $50 million
floating rate issue by BLADEX — an export financing bank owned
largely by Latin American and foreign private banks and Latin


American central banks.This was the IFC's first co-lead
managership and the first Latin American capital market borrowing
in three years.More such co-managed borrowings, or joint stock
underwritings, for worthy companies in developing countries are
possible.They have the major advantage of diversification by
tapping the institutional lender market noted above.
A second group of measures relates to rescheduling and new
borrowing policies. Mexico's multiyear rescheduling, with improved
terms was helpful as a reward to it and an encouragement to
others. A major step forward would be to negotiate — on a case by
case basis — similar terms with a wider range of deserving
In addition,it would be desirable for each debtor country to
fashion a borrowing strategy which, through direct borrowing or
currency "swaps" (swapping say a dollar obligation for a DM
obligation,with appropriate adjusment in interest rates), to
maintain currency repaymnt obligations roughly equivalent to its
foreign exchange earnings.And some sort of interest payment
smoothing arragements should be incorporated into new borrowing
agreements (e,g. capitalization of interest over a certain level
or arrangements to defer payments when rates rise and repay more
quickly if interest rates decline below an agreed point).While
these features would raise accounting problems if incorporated
into existing loans, that option should be considered as an
alternative by babk examiners and accountants to help reduce the
impact of any future rise in interest rates;they can be agreed
more easily on new loans.
Similarly, developing countries today could make far greater
use of the forward and options markets to hedge against sharp
currency movements .Many such techniques have been used very
effectively by large corporations to reduce risk exposure, and
there is no reason that governments cannot do likewise.
A third area relates to trade.There is a surprising reluctance
among many developing countries to agree to a new round of
multilateral trade negotiations. Some want assurances that the
issue of graduation will not be raised; some argue that the
provisions of the Tokyo Round must be fully implemented first.Some
want preagreement on certain cuts in restrictions on textiles or
other goods.
Yet, tragically, the longer they wait the more industrialized and
developing countries alike impose new import restrictions which


limit trade. Paradoxically,it is the developing countries — which
have most to gain from a more open trading system and most to lose
if it continues to deteriorate, who seem least willing to support
the concept of a new round. They will need soon to reassess their
position. There is no perfect time to begin negotiations, but they
less than most can afford to stall the process.
Industrialized countries for their part need to recognize that
many trade barriers put heavy burdens on countries already hsving
great difficulty in servicing their debt.There needs to be greater
attention given to the vulnerabilities of our own financial
system, which is vital to our domestic growth, when new import
barriers are imposed.
The forth area is traditional concessional assistsnce.For the
poorer countries there is no substitute for soft loans. It is
somewhat surprising that we as a nation can respond so generously
to the enormous human tragedy of African hunger and not to the
crying need for longer term assistance to support development in
these extremely poor countries. Somehow we miss the connection
between the desperate problems of today and the inadequate amounts
and, it must be said, often ineffective use by recipients,of money
for the very poor countries. IDA, US AID, and the Inter American,
Asian and African Development Banks all have a major tole to play
m addressing the debt problem. Despite our own budgetary
constraints, now is hardly the time to cut back on support for
In addition,it would be desirable to encourage the World Bank to
lend to improve existing projects, even if it earlier played no
role in them.Sectoral adjustment policies ,to improve production
incentives, phase down subsidies, and improve investment
incentives should aiso remain an important component of new
lending.Andthis should achieve full US support.
A fifth area concerns the much neglected private sector.In many
countries the private sector has been seriously harmed by the debt
situation.Credit has been limited,devaluation has increased the
local currency cost of repurchasing dollars with which to repay
foreign bprrowing, and slow growth has cut profits.Moreover
private reschedulings normally follow public debt reschedulings
creating major uncertainty for private firms and their creditors.
It is largely up to the debtor countries themselves to
recognize the importance of a dynamic private sector to their
economies and to ensure that it does not suffer from excessive

14 9

resource constraints.But outside assistance from the IFC and the
IADB, through its new facility for this purpose, can prove
Moreover, much can be done to strengthen domestic capital and
equity markets so that the private sector can have access to is widely recognized that high debt countries need to
increase their savings rates and use savings more efficiently. A
well functioning capital and equity market can help in this
regard.Again the IFC has a major role to play.
Finally, the climate for foreign investment does not appear
very attractive in many high debt countries .Despite many
pronouncements that new investment is encouraged, regulations and
bureaucratic attitudes appear to the contrary in many nations.Such
attitudes mean that the imbalance between foreign debt and foreign
equity flows will continue, and the employment and technology
benefits of new direct investment will go elsewhere in the
world.The US Overseas Private Investment Corporation can play a
major role in encouraging private investment in high debt
countries,as it has in the past.But in the final analysis it is
the debtor countries themselves that must prove more encouraging.
The last area addresses what the developing countries can do
together to overcome the debt problem.Early last year the Quito
Declaration of Latin and Caribbean leaders underscored ways to
increasing trade, technolgy flows, and industrial cooperation
among nations of the region.These steps might well be supplemented
by a discussion, parhaps jointly sponsered by the World Bank,
IMF,IADB and ADB to discuss the experiences of each debtor nation
with its adjustment policy. This would be much like an OECD
Economic Policy Committee discussion — it would not issue a
communique but give ministers and officials of individual debtor
countiies the opportunity to have their policies privately
commented upon by others who have been through, are going through,
or have avoided the need for adjustment.
These measures do not add up to a panacea, but they together
can be of significant help to debtor countries in dealing with
what continues to be a very serious problem.1 believe it
particularly important that we address the debt question not with
a sense of panic but with a sense of urgency based on its
seriousness and its importance to the US.


O bey.

Thank y o u . Ms. Lissakers.


Ms. L i s s a k e r s . Thank you, Mr. Chairman. I would like to focus
my remarks on the relationship between the debtor countries and
the commercial banks which are their major creditors, and put
that relationship in the context of the broader political and eco­
nomic environment which the earlier witnesses have discussed.
As the other witnesses have pointed out, we have an extremely
delicate situation. Despite the rather remarkable performance of a
number of the debtor countries, and some very favorable economic
trends, external economic trends, most notably the decline in inter­
est rates, the situation, I believe, is extremely fragile. I think
there’s good reason to doubt that it will hold for any extended
period of time.
Fm one of those people that Walter Wriston refers to with con­
siderable contempt as a Cassandra on the international financial
situation. I think he’s forgotten that Cassandra was right.
In my opinion, the current situation, the current debt restructur­
ing approach does not constitute a solution to the debt crisis. I
have some support in this opinion from other bankers who are now
beginning to say, even in public, that they doubt that the current
situation is sustainable. Some American regional bankers point out
that the debt burden is still crushing and that this is really just the
very beginning of a very long process, indeed, of working out and
holding the situation together.
And the European bankers are, in general—I’ve just come from a
2-week trip, research trip for a book I’m working on on banking,
and I’ve talked to a number of bankers, both on the Continent and
in Britain. I must say that they generally express a good deal more
pessimism in conversations about the situation and the outlook
than do the U.S. money center banks.
A German banker said to me, whereas U.S. banks express cau­
tious optimism, we are cautious, but not optimistic. And the central
bankers I spoke to also were rather pessimistic.
Now as the other witnesses have pointed out, the economic condi­
tion, the economic performance of a number of the debtor coun­
tries, although by no means all, has been rather better than one
would have expected. And the treatment that they’ve gotten from
the banks in the so-called phase 2 of that restructuring has been
much more reasonable than it was in phase 1. I think that Con­
gress can take considerable credit for that by putting the heat on
through the International Lending Supervision Act of 1983 which,
for example, made it not very attractive for banks to charge up­
front fees, rescheduling fees, because of the change in the account­
ing rules. And the additional disclosure requirements and the pres­
sures that the Congress put on the regulators to be much tougher
on the international lending side, I think forced the banks to take
a new look at what they were doing, as did the conditions of the
debtor countries.

But these regulatory changes, as I will point out later on, also
have long-term implications for banks’ attitudes toward continued
or resumed lending to these countries.
The bankers have strengthened their own balance sheets, partly
as a result of pressure from the regulators. They have built up
loan-loss reserves. They have written down some loans, although in
the U.S. case, it’s pretty modest. The most significant improvement
in the U.S. banks’ situation, I think, is the buildup of capital. The
new banks, the large money center banks are now, for the first
time, operating under a firm minimum capital-asset ratio require­
ment. And there is, in fact, a differential requirement for banks
that appear to be somewhat, to have weaker balance sheets than
others, are subject to higher capital-asset ratio requirements than
the strong banks with stronger balance sheets.
The debtor countries, of course, have performed well on the ex­
ternal side, although, as Bob Hormats pointed out, the internal sit­
uation is still dicey and the price that’s been paid is enormously
high in terms of people’s declining standard of living. And the
price in terms of the long-term economic strength of these coun­
tries may also—if these external strains continue—be much higher
than they should be.
The question whether the current situation is sustainable and, in
some ways, constitutes a solution is partly a question of definition.
Certainly, it’s possible to jigger the numbers, barring some disaster
on interest rates or growth rates in the industrial countries, to
show, to project a situation for the next 4 or 5 years maybe where
these countries—at least the big debtors—can sort of limp along
and they can continue to service, can limp along and can maintain
debt service payments with minor disruptions and with a very
small external flow of capital. And they can have some growth,
some marginal improvements in living standards.
And that, from the banks’ view, is probably acceptable. I mean,
it protects their earnings stream and it protects their principal, at
least in theory.
But, as a matter of U.S. public policy, I don’t think that this
should be acceptable—first, because it’s very risky. As everyone
says, if there’s an adverse change in one of these factors, in inter­
est rates or growth rates, the whole program goes down the drain.
And second of all, it condemns these countries to rates of growth
that mean perpetuation of an extremely high unemployment situa­
tion, a very low standard of living for a large proportion of the pop­
ulation, and a not very healthy economic relationship with us.
I mean, it ultimately plays back to our own economic growth.
So far, the real cost of the debt crisis has been shifted from the
banking system to the debtor countries and to our own exporters
and manufacturing industries. If one expects to continue the cur­
rent arrangement, then that cost is going to continue to fall pri­
marily on those groups.
I think that the underlying bargain of the current debt arrange­
ment is not going to be sustainable for other reasons. The basic
bargain that was struck in the debt renegotiations was that the
debtor countries would take strong austerity measures and contin­
ue to pay their external debts, or at least make the interest pay­
ments to the banks and, in turn, the implicit promise from the

banking system was that you do this for a couple of years and then
you can come back to the market and you can resume borrowing,
not at the same level as before, but there will be a significant net
inflow of funds from the commercial credit markets to these coun­
tries. And then you can resume growth and there will be a much
more normal and positive situation.
The debtors have so far, with some exceptions, fulfilled their part
of the bargain, believe they have anyway.
But the banks—I think the banks are not going to hold up their
end of the bargain over the long term. That is to say, I doubt very
much that they will resume lending anywhere near a level that the
debtor countries expect from the banking system, not only because
the outlook for the debtor countries is so shakey, but because fun­
damental changes are taking place in the structure of the interna­
tional banking system and the international capital markets, in
general, that profoundly affect banks’ interest and attitude toward
international lending.
Among the changes that have taken place, first of all, are the
regulatory changes, the toughening of rules that I mentioned
before: the capital asset ratio requirements, the requirement that
banks improve the quality of their balance sheet; that is, they
eliminate loans to weak borrowers, doubtful loans. These all put a
real damper on the banks’ interest in lending, increasing their
lending to these countries.
When they lend now, when you talk to them, they say, first of
all, we’re not interested in asset growth; that is, loan growth, per
se. We’re interested in increasing the return on equity, increasing
the return on assets. We’re interested in low-risk lending. Insofar
as we do any lending, we want to lend to prime risks in the indus­
trial countries. We don’t want to lend to high-risk places.
Also, the disclosure requirement makes the banks, U.S. banks,
who are subject to much greater disclosure requirements than Eu­
ropean banks, very nervous about any apparent increase in expo­
sure particularly to Latin America. When they’re trying to go to
the stock market or to the capital markets to raise capital, they’re
very concerned about what the reaction would be if there’s an ap­
parent increase, other than under a forced lending program, where
they apparently have no choice.
So the attitude toward an increase in voluntary lending—and it’s
true for the European banks I’ve spoken to as well—is very nega­
tive. And a number of regional bankers simply say, look, we’re get­
ting out of the business. We’re not interested in doing any syndi­
cated lending business. We’ll do some trade finance. We may do
some project finance over the long term to support our local client,
our home client interest in these countries, but we’re not going to
be big players any more.
And there is this segmentation of the market which leaves the
big banks with the biggest chunk of this future business, potential­
ly. But they are also the banks in the least strong position to in­
crease lending because they have the largest exposures relative to
capital. And until you get a significant reduction in their exposure
to these countries relative to capital—which is not going to happen
as long as these countries aren’t amortizing the debt and, in fact,
you have some forced lending which actually increases outstand­

ing—there is very little room for those banks to do any additional
lending on a voluntary basis.
And one can see this in the numbers. The U.S. banks, since 1982,
have virtually not increased their exposure to the non-OPEC devel­
oping countries at all. What you have is some increase under
forced lending programs in a couple of the big debtors and an off­
setting decrease of exposures to other developing countries.
As far as I can see, it’s an absolute deliberate decision to keep
the overall exposure constant. Even Citibank, which, historically,
has been the most aggressive international lender and the most
upbeat about the outlook for the debt situation, points out, empha­
sizes in its 1984 annual report that it has not increased its interna­
tional exposure since 1982.
And I don’t see anything in the outlook that would dramatically
change that bank attitude; on the contrary, the fact that the
changes that would be—deregulation here in the United States and
deregulation that’s taking place in the financial markets in Europe
as well, the opening of opportunities for foreign banks in Britain
and in Germany, to an extent also in Japan and in Scandinavia,
and the warfare that one can expect and the takeover battles that
one can expect as we move to interstate and probably national
banking in the United States, means that banks’ attention and ef­
forts and resources are going to be focused here, not on Brazil.
They will do the bare minimum that is required to keep these
countries afloat, and not much more.
I should also point out in passing that the statistics turn out to
be even more horrendous than one had expected. It hasn’t been
very widely noted that the BIS has increased the scope, the
breadth of its data gathering by finally getting reports directly
from the major offshore money center, like the Cayman Islands
and Hong Kong and Singapore. And in the process they flushed out
another $70 billion in commercial bank claims on the non-OPEC
developing countries. It turns out that Brazil, for example, owes
$15 billion more than anybody had realized on the basis of the old
BIS statistics.
These numbers just came out in February 1985. So that at least
the academic exercises that looked at debt-to-export ratios and
debt-to-GNP ratios and so on are already overtaken by this new
data base. I mean, they understate the problem.
But I think, as I say, the most significant change is really in the
structure of the banking industry and the new regulations that are
putting pressures on banks to do other kinds of business even over
the medium term, even if there should be a significant improve­
ment in the outlook for these debtor countries.
Given that assumption, and I think at least the strong possibility
that one of favorable external economic conditions, interest rates
or growth rates in the industrial countries will take an adverse
turn at some point, I think we at least have to contemplate and
prepare for the possibility that countries are not going to be able to
maintain their interest payments.
I mean, really, we’re not talking about amortization payments
because there virtually aren’t any, except some short-term debt.
The cash-flow strain on these countries is the interest payments.
And I think we have to prepare now rather than have a continuing


series of disruptions in payments, even though countries, I don’t
think, are inclined to repudiate the debt. I mean, we’ve seen that
most debtors are willing to go through a lot of grief and pain in
order to maintain their interest payments. But there comes a point
when you simply can’t do it any more.
I think one has to be prepared now, and the Government has to
be prepared now, to consider an alternative path that would ease
the cash-flow strain on these countries. And one possibility, it
seems to me, is what Preston Martin suggested, apparently to the
chairman’s dismay, the other day, which is a cap on interest rates
and either forgiveness of interest payments above the cap or a de­
ferral and capitalization; that is, making the deferred interest por­
tion of the interest payments part of outstanding principal.
It’s not something the banks would be very happy to do. But one
does imagine that if the choice is that or simply having to report
your whole international loan portfolio as a nonaccruing asset, that
the choice between some interest payments and no interest pay­
ments or constantly disrupted interest payments, I should think,
would be a fairly easy one.
And as I noted before, the banks are generally in a stronger posi­
tion. Earnings are up because of the falling interest rates. Their in­
terest margins improve. The bank stocks have been rising signifi­
cantly, even the money center stocks. The stock market is fairly
bullish on big bank stocks, if one looks at some of the newsletters
from the various stock analyst outfits.
I think that such a step—capping interest payments—which
would require considerable pressure from the Fed and from the
Comptroller’s Office, and maybe from Congress, I think should at
least be contemplated.
The Europeans I’ve talked to, both central bankers and commer­
cial bankers, are certainly willing to discuss such a possibility.
Many, in fact, see it as quite a likely step. U.S. banks are still ex­
tremely reluctant, at least in public, to discuss such a step, espe­
cially the large money center banks.
I will end my comments there, except to say that I subscribe to
many of the other suggestions that Bob Hormats had, for example.
There are some things—I mean, the bankers are now saying, look,
the public sector is going to have to do much more—the IMF, the
World Bank, the U.S. Government, official aid donors, and so on,
are going to have to assume the burden. We’re not going to do it
any more.
Certainly, I think that there are some more things that could be
done. For example, temporarily eliminating or reducing the coun­
terpart fund requirement for World Bank and the other develop­
ment bank loans. I gather that the U.S. position has been very neg­
ative on this and it means that a lot of really desperately needed
development projects are now sitting on the shelf, not because the
development banks don’t have the money, but because the debtor
government is having to cancel its provision of counterpart funds
because it is trying to reduce Government expenditures. And a
number of other steps. But I certainly don’t see the possibility of
any increase in IMF or World Bank resources large enough to
cover, nor do I think necessarily that is the best use of official

funds—that is, to enable countries to make their interest payments
to the banks. Thank you.
[The prepared statement of Ms. Lissakers follows:]

P r e p a r e d S t a t e m e n t of K a r i n L issakers



Members of the Committee,

I appreciate

this opportunity to testify before you concerning the

debt crisis,

Previous witnesses have discussed the importannce of
economic ties between the US and heavily indebted Third
World countries,
you some

And other members of this panel

have given

indication of the effects various economic

scenarios would have on those ties.
l would

'ike to concentrate my remarks on the

relationship between the debtor countries and the private

banks that are their major creditors,

explain why

i believe the relationship wi

troubled for some time to come
favorable economic conditions
the viabi

I wi ii

be deeply

-- even under reasonably
-- and why I have doubts about

ity of the current approach to the


debt crisis
i am one of those Cassandras Walter Wriston refers to
so contemptuously

-- someone should remind Mr

Cassandra was right
of bank

Wriston that

-- who expressed concern about the

lending to sovereign countries

in the


1970's and who

now doubts that the current approach to the debt crisis
constitutes a long term solution to the debt problem.
Some bankers share my doubts

As Frederick Heldring,

Deputy Chairman of the Phi ladelphia National

monetary conference

Bank told an

last November

"To use a


sports metaphor,

we believe that at best we are at the

beginning of the third
extend as

long as 25 years

most cases.

in some cases and 15 years in

We agree that a great deal was accomplished

the first two


crushing burden on

inning of a long b a l 1 game that may

.However, the debt


is still a

most countries in Latin America.

I just returned from a trip to Europe where

bankers and regulators also expressed considerable pessimism
about the outlook,

A German banker told me:

have seen the full
Whereas some U.S.

"We may not

extent of problems with these countries,
banks express cautious optimism, we are

cautious but not optimistic."
An official

at the German Bundesbank told me,

outlook for Phase ill


market access for debtors]
get debt service
can't go on

the resumption of normal
is not good at a l '

in acceptable ratio to GIMP,


We have to
Even Mexico

u* ke this for the next decade."


the situation

looks far better than it did

a year and a half ago: bankers have curbed their greed
(in large part thanks to the pressure put on them
by Congress during the debate on the
and to the new rules enacted
Supervision Act of


last IMF quota increase

in the International

The banks have offered troubled

debtors better restructuring terms than

in the first round

of debt renego11ations. hatur 11 *es and grace


55-590 0





p eri ods


due debts are rescheduled at once,

spreads are narrower,

fees have been reduced or eliminated.

The bulge of excess short term loans requiring


amortization has been smoothed through rescheduling.
Bank regulators have taken a somewhat tougher


both here and in Europe and have forced the banks to
accumulate capital, build up loan loss reserves, write down
some foreign

loans and more accurately report non-accruals.

The banking system is stronger as a result,
large money center and regional
follows closely,

For the 35

banks Salomon Brothers

primary capital as a per cent of total

increased from 4.57. in 1980 to 6.37. in 1984, meaning

an addition of $33 billion dollars in capital


reserves as a per cent of total

less than

one per cent

in 1980 to

to $9.2 biiiion

loans went from


l ,257. in 1984, or from $4.5 bi

-- not dazzling,

but at

least moving

right direction.

At the same time,

twenty banks with

large foreign operations,


in the

for a sub-group of

loan chargeoffs rose from $208 mi > iion in 1980 to $1 bi
in 1984 while


non-performing assets rose from

i billion to $10 billion

exposure to non-oii
is $106 bi

in the period.

in some cases,

have produced surprisingly


years of deep

most notably Brazi

large trade surpluses,

largely to our enormous trade deficit,




Debtor countries have endured several
recession and

The total

developing countries for all

ion (September


and Mexico,

which enabled tnem to


meet debt servicing payments without new loans,
there were

large forced jumbo's for both

in the

last quarter

of 1983 that carried over

into 1984.)

There was some

accumulation of reserves,

All the major Latin American

debtors except Venezuela had some growth this year, although
not at the


necessary for employment to keep pace

with population growth.

It should be added that the

situation for smaller Latin debtors,
is much bleaker

not to mention Africa,

The banks have been

less accomodating on

reschedulings and new money and a number of the smaller
countries have made no or only sporadic


last year
The recent drop


interest payments

in interest rates helps everybody.

100 basis point fali

$500 mi iiion
$800 million,
mi i ion.

in dollar rates saves Argentina

in interest payments per year,

saves Brazi

Mexico $800 mil'ion and Venezuela $310

The weakness

in oi i prices

is obviously a mixed

blessi n g .
Despite all this good news there are reasons to doubt
that we now have a "solution” to the debt problem, unless by
solution one means that the major debtors can limp through
the next couple of years without major debt servicing
disruptions and with perhaps a

tittle growth.

From the banks' point of view, that may wel i be



pri mar- y o b j e c t i v e

loan exposures




(without any significant




and the

income stream from those

But as a matter of U.S.

is not acceptable.

debtor countries'


public policy,

such an an

It is in both our own and the

interest that we try to create the

conditions for real economic recovery in which the standard
of living in debtor countries steadily

improves and they

provide growing markets as well as products for the


The existing bargain between debtor countries and
creditor banks wi i• not create these conditions.
The basic bargain struck

in the debt negotiations to

date has been: economic austerity and faithful
servicing by debtors

in return for the promise by the banks,

if not explicit,

shortly resume.


that "normal" lending would

Underlying Mexico and Brazil

s acceptance

of deep recession at home and a net transfer of resources to
the banks to meet heavy

interest payments was the assumption

that these conditions were temporary and would
the market and to "norma 1" borrowing, that
transfer of capital

lead back to

is, a net

from the banks to the debtors.


bargain may begin to unravel as the resumption of "normal"
borrowing seems more remote than ever
Most of the major debtors have fulfilled their part of
the bargain,

beyond expectations.

But their political

economic capacity to do so for another couple of years

The successful

is in

trade effort of Brazi i and Mexico in


particular depended first on a drastic slashing of imports
and second on the extraordinary appetite for

imports in the

Morgan Guaranty estimates that 857. of the

Latin American exports went to the U.S,

increase in

But the weakening

dollar and slowing economy is likely to cut our trade
deficit without any assurance that the rest of the OECD,
whose weaker recovery depended

in part on exporting to the

US, wi ii take up the slack in demand for LDC goods.

economic recovery in the debtor countries

immediately generates demand for

imports necessary for

industry to expand production— imports the

countries can't afford while they have to meet heavy
interest payments on their debt and receive very little

from abroad.

interest payments

The BIS estimates that the net

(net of interest earned on reserves) by

the non-OPEC Latin American countries amounted to nearly $30
bi i iion in i984.
Any attempt by these countries to grow rapidly without
new money inflows

immediately bumps up against the

constraints of their foreign debt and the need to meet
interest payments,

The New York Times pointed to the

dilemma with a recent rather

ironic headline:

Encounters Problem of Growth” (June 10,
Mexico run



in the absence of new borrowing requires that
large trade surpluses,

But as the Times points

out "As soon as the economy showed signs of





soared," by 387. ♦ exports dropped and inflation picked up.
Also worrisome is the

low level of domestic


in these countries and the continued high rate of inflation
in most of Latin America which hurts the competitiveness of
their goods abraod.

if these countries manage to hold up their end of

the bargain for another year or two,

it will become

increasingly apparent that the banks are not about to hold
up theirs,

that the resumption of normal

remote than ever

lending seems more

The reasons have partly to do with a

continued uncertain economic outlook for debtors but more
importantly perhaps with structural


in the banking

A resumption of significant voluntary

lending to the


major debtors cannot,

wi i' not,

conditions are met: one,


loans to capital
The debt to

should not resume until two

that the debt to GNP ratios of the

and two, that the ratios of troubled
of the major

lending banks



export ratios of some debtors has

improved significantly, but it would take only a minor
economic downturn

in the OECD to reverse that

debt/GNP is a more meaningful


measure of a

country's debt carrying capacity over time.
Under the current debt arrangement,
have gone

into recession,

i .e. GNP has declined unti 1 last

whi te indebtedness has

the big debtors

increased through forced


lending and

IMF drawings,

little amortization.

And there has of course been


BIS improved and expanded

little noted fact is that the

its data gathering after

1983 by

adding data from several more European countries and from
off-shore bank havens
the process

like the Bahamas and Hong Kong.


it flushed out an additional $20 billion in bank

claims on the non-OPEC developing countries that had
heretofore gone unreported.

Claims on Asia jumped more than

$3 0 bi iiion whi 1e claims on Latin America turned out to be
$34 bi

lion higher than was thought when the debt crisis


It turned out that Brazi ‘ owed $72.9 billion to

foreign banks on December
numbers showed.
u n t i ‘ February


not $57.4 bi

'ion as the old

Since the BIS did not report this new data
1985, any calculations about relative debt

burdens done before then

is likely to seriously understate

the problem.
Debt/GNP ratios are therefore not

likely to improve

in the next few years,

The combination of tougher banking supervision and new
challenges and opportunities for banks
country markets

in the


is reinforcing the effect of the debt crisis

on bank attitudes toward

lending to developing countries,

As already n o t e d T American and European banks have
come under strong pressure from regulators to strengthen
their Da lance sheets

This means

improving c a p tt a 1/asset

educing the proportion of questionable


in the


portfolio, writing down doubtful

US banks have also been forced to publicly

disclose much more

loans, reporting

information about their exposure to

troubled borrowers.

Any bank trying to raise

is likely to be extremely cautious about

exposure to troubled debtors that will


have to be reported

to shareholders.
The emphasis at most banks today is on growth of

not assets,

and on assets,


increasing the return on equity

increasing the volume of loans on the



and on

income is expected to grow more rapidly

income for the bigger banks,

favorable spread between

despite a more

interest earnings and funding costs

as rates fa 1 •
When banks do


in demand,


it is to prime risks here or


A few Asian borrowers are st'

and the banks seem to have forgotten their

concerns about Eastern Europe and are now
region although not Poland.

Any forced

lending to the

But US banks seem determined to

hold their foreign exposure constant,


excluding Western

increase in exposure to one developing

country is apparently off-set by reducing

loans to other

1d c 's ,


loans to foreign countries outside Western

Europe were only 0.57« higher at the end of September

in September




loans outstanding to Latin


America had

increased by 7,57. because of forced


loans outstanding to all other regions had declined.


banks are said to be disengaging from the

internationa1 markets,
of their foreign

having written down or sold off much

loan portfolio.

center banks are hanging back.
center banks'

But even the big money

An increase

in the nine money

exposure to Mexico and Brazil

been off-set by a reduction

has apparently

in claims on Korea and Taiwan

while claims on the eight other biggest LDC borrowers remain
virtually unchanged.

historically the most agressively

of US banks,

points out

report that "Citicorp's total

in its 1984 annual

worldwide cross-border

exposure has remained essentially unchanged since



1982, domestic operations accounted for 277. of Citicorps


the total

— only slightly more than Brazil 's
In 1984, domestic operations were over 407. of

Some money center banks are cutting their

internationa1 staffs and closing foreign rep offices.
Fargo, a large regional

with a substantial

portfolio recently announced that




it is going to shut down

its London office.
Liberalization of financial


in the industrial

countries has given the banks new interests and concerns

regionaIs are girding for the take-over battle that

ensuing with the advent of regional

if not yet national



interstate banking while the money center banks try to find
a way in through the back door.

Meanwhile Australia,

Norway, Sweden and Portugal are opening the front door to
foreign banks for the first time while Canada, Britain,
Germany and Japan have announced measures that will
substantially broaden the range of domestic banking
activities open to foreign banks on their turf.
All of this suggests that the slow-down
may be more than temporary.
seem likely to reduce their

in 1dc lending

Certainly the smaller banks

the forseeable future. The regional

participation over


I've talked to

say they would do some short term trade finance but stricly
to support the business of a local US client. The foreign

I spoke with

last month talked about the possibility

of new term lending to Latin America in the
Some US money center bankers still


talk bravely


public about a quick return to voluntary lending, to Mexico,
for example.

In private, they are not so sure.

And the fact

is that precisely these banks are in no position to lend
more money to the Mexicos or the Brazils because their
existing exposure to these countries relative to capital
still far exceeds any reasonable prudent
Based on the

1984 annual

Brazil and Venezuela are
Bank of America,

lending limit.

reports, the claims on Mexico,
152% of equity,

143%, and 1397* for

Chemical and Chase Manhattan Bank,

The claims of Manufacturers Hannover, Citibank


and Morgan Guaranty Trust Co. on Mexico, Brazil and
Argentina are 218%,

1437. and 1267. of shareholders equity,

respect iv e 1y .
One perverse effect of the debt restructuring has been
to increase the concentration of exposure

to the biggest

debtors by the banks already most exposed.
have refused to participate

As smaller banks

in new lending, for example the

jumbo to Argentina, the bigger banks have had to increase
their commitments to come \up with the requisite total. And
as the numbers show, the big banks have reduced their
exposure to stronger debtors
to make more

like Korea and Taiwan

loans to Mexico and Brazil.

large proportion of the private sector

in order

In addition, a


in these

countries have been replaced by loans to the central

in the restructuring,

thus further


the concentration of loans to a single borrower.
The banks'

reluctance to lend is correct:



banks are in no position to increase their exposures and the
big debtors are

in no condition to carry more debt.

if substantial

new money is not going to be

forthcoming from the banks anytime soon —
see where else

it might come from —


it is hard to

then the present debt

is not viable.

My expectation

is that debtors will become

increasingly reluctant to continue paying out tens of
billions of dollars

in interest with

little new money coming


in, if this means deferring growth indefinitely,
I am not predicting wide-spread debt repudiation.
These countries have been willing to suffer a lot of pain to
stay in the good graces of the international


Bolivia and Peru have stopped paying because

their economies are a shambles and they simply can't,


even r e v o 1utionary Nicaragua has scrupulously played by the

in managing


its external debt.

is gambling his political

And now President

future and perhaps that

of Argentine democracy in a bold and courageous effort to
p u l ‘ his country out of its economic tail spin while meeting
its external

financial obligations,

But there wili be additional


in the bank-

country relationship and more disruptions of payments flows,
Slow lDC growth and continued uncertainty about the

viability of debtor countries wi t i hang over the

banking system and more importantly, w i i 1 act as a drag on
the world economy.
I believe the time has come to look beyond the next
quarterly profit and loss statement of the banks and to
consider a new debt bargain that better meets the long term

interests of the debtors, of the US and of the

world economy,

of the

The essential

element would be a further

interest payment burden on debtor

countries to allow them more room for growth and for



1 69

The banking system is in a strong position to make
some interest concessions this year

In addition to the

build-up of capital and loan loss reserves over the last
year the big banks with a few exceptions,
strong earnings the last five quarters.

have enjoyed

Bank net interest,

margins are at an historically wide level according to
Salomon Brothers and non-interest earnings have also been
strong the

last eighteen months.

Stock prices for the group

of 35 large money center and regional

banks Salomon follows

closely rose sharply in 1984 although the money center banks
were stili trading at below book value.
group of 35 banks rose
Many of the

The stocks of the

16% in the first four months of 1985.

large European banks also enjoyed record

in 1984.

The degree of debt relief would be a function of

interest rates and other external

factors that affect countries'
could take several
with a new,


ability to pay,

Such relief

Replacing the old floating rates

low fixed rate would be most desirable from the

and deferring the rest,
palatable for the banks.

Capping current

interest payments

it to principal

would be more

The deferred interest would then

become part of the perpetual

rescheduling process but banks

could maintain the fiction that
German banks nave expressed an

it would eventually be paid.

US banks have been vigorously opposed.


In this approach but
They would prefer to


continue to

lend more money if necessary to enable debtors

to make f u 1 > payment of interest and maintain the fiction
that these are fully performing
European banks are
interest concessions.


in a better position to make

Their overall

exposure to troubled

is less than that of US or Canadian banks and they

have reportedly taken more write-offs and reserves.
banks are said to have written down some


loans to Latin

America by as much as 507. and some large German banks have
written off Poland completely.

I should add that European

banks generally get more generous tax treatment of reserves
and write downs than do U.S.


Congress should

consider carefully the


the proposed changes

tax treament of banks'

loan loss reserves.

in US

The current


already discourages banks from building up reserves and the

in Treasury


11 1 think would be a further

While l agree that banks should pay more

taxes than they do,

l also agree with Fred Heldring that

"accounting treatment should

lead to sound actions,

attempts to perpetuate a situation which

not to

is transparent 1y

unstab 1e ."
Europeans are clearly nervous about the health of the
US banking system.

Every announced S&L failure sends

tremors through the foreign makrets,
London admitted that whereas U.S.

An American banker

banks used to pay a

than others for eurodollar deposits,






Illinois collapse,

depositors have be e n just as

happy to keep their dollars with non-U.S.
funding costs have risen as a result,
European commercial




ban k

Virtually every

investment banker a n d bank

I talked to on my recent trip

indicated that, he

thought US regulators had been too soft on the banks with
regard to realistic valuation of
reserves against potential



loans and b u il d in g up
They think US banks are

faking their books, and that perception

is dangerous to the

large banks that depend heavi ly on the euromarkets for
fund in g .
A more realistic approach to the debt problem would
probably benefit US banks

in the

long run, even

if it costs

them some earnings.
Under current accounting rules,

loans on which

non-performing assets,

US banks would have to

interest had been reduced as
but not write them off as a

Bank earnings would be affected,

but not capital


some write-down of the face value of the asset might be

An interest reduction would be expensive for the

but not as expensive as an outright repudiation by

even a few borrowers,

For example, the exposure of the nine

U.S, money center banks to the twelve

largest LDC

borrowers— accounting for 6 2 . 5 % of total


c o u n t r i e s — was


US bank exposure to

Di 1 i o n d o I l a r s a s of 30 S e p t e m b e r

Assuming that the borrower

is paying Libor

the base



interest rate, currently at 8% plus a spread of

125 basis points,the gross
these loans

interest earnings to the banks on

(if they were all performing), would be $6

If these payments were reduced by 50% —

drastic example — the

a pretty

1984 pre-tax earnings of these banks

would also drop by something

less than

50% and after-tax

earnings by perhaps 30%. Costly, but by no means
catastroph ic .
The Bank for
most recent annual

Internationa1 Settlements says

in its



regarding the finacial

of the debtor developing countries that ’’Inverse flows of
the order of magnitude witnessed in 1984 are clearly
unsustainable, and some form of net capital

flows to these

countries needs to be restored as soon as possible to offset
part of their

interest payments.”

interest payments



In my opinion,


is an alternative to increased

Representative O b e y . Thank you. What strikes me, if you read
the assessment pieces in the New York Times yesterday, if you
read the Post pieces yesterday, if you listen to your testimony this
morning, what strikes me is that no matter who you talk to or
listen to, what people are almost always saying is that the amount
that we know that we don’t know seems to be larger every year.
People constantly referring to the fact that traditional economic
measurements—well, I don’t want to say that they don’t mean
what they used to, but people are having difficulty determining
what they really do mean in the context of the existing capital flow
situation internationally.
The other thing that strikes me is that if you look at what all of
you said today—Mr. Chimerine, you said that these countries will
probably muddle through if, if, and if. You gave us three pretty big
Mr. Hormats, in your prepared statement, you also list some
pretty big assumptions. Assuming policy improvements continue in
high debt countries, assuming growth of 3 percent or above, assum­
ing market access in industrialized countries, no political plunge
toward protectionism in an election year.
Then you say, under that scenario, there will be a number of ne­
gotiations on new IMF agreements, modifications in several cur­
rent reschedulings.
And Ms. Lissakers, you also indicate that even if you assume
that, you think the string is fairly short.
What that says to me is that unless we are willing to take out
permanent charter memberships in the Optimist Club, that Mur­
phy’s law is much more likely to take over than any economic
theory that we can have strong confidence in.
In hearings before my appropriations subcommittee, Mr. Schnei­
ders indicated that “the worst of the debt crisis is behind us.”
Mr. Hormats has made some suggestions about what we can do if
we don’t deal with some of the other questions that people like Mr.
Martin have suggested, and others, in terms of rescheduling.
If we don’t—and I recognize that sometimes the most construc­
tive thing you can do is simply just to do nothing for the moment—
but what do you think the most constructive thing is that we can
do to reduce that degree of risk that we don’t hit the optimistic sce­
nario, beyond what Mr. Hormats has suggested by way of the de­
vices we could follow with Exim, World Bank, et cetera, assuming
that we are going to hit what the two budget committees say is $50
billion, and most other people say is probably closer to $30 billion
in deficit reduction? What else ought we be doing, if you assume
that as a given, what ought we be doing to make more likely an
unfolding of events which gives us something close to your optimis­
tic scenarios?
Mr. C h i m e r i n e . Well, Mr. Chairman, from the standpoint of the
macroenvironment, I think we’ve got to approach this problem in a
way that would prevent the LDC debt problem from worsening
without strangling those countries.
And that’s why I think that the type of economic growth scenar­
io we talked about is an absolute minimum, but it may not be the
full solution to the problem.


One thing is clear—if the world economic situation deteriorates
either because of a resumption of economic stagnation in the
United States or elsewhere and/or because of a return to double­
digit interest rates, it will make the situation extremely unmanage­
able and even these more microkinds of solutions won’t solve the
problem without either some serious feedback effects on those
countries. I think you’ve got to use as a base, as several of us point­
ed out, that the standards of living in most of those countries are
already 10 to 15 percent below where they were 5 years ago. So
they can’t absorb much more of that.
I think, therefore, the first approach has to be at the macrofront.
And that gets at interest rates. It gets at worldwide economic
growth. And it gets at the overvalued dollar. They’re all interrelat­
ed, in our judgment, and the best solution is what we described ear­
lier—get our deficits down as quickly as we can by supplementing
some of the spending reductions that are now being discussed in
the Senate-House conference with some modest tax increases, but
also by going more heavily at some of the entitlement programs to
reduce spending in the longer term. In addition, it is important
that the thrust that the Fed has wisely adopted in recent months;
namely, ignoring M -l growth and basic monetarism, and focusing
more on getting interest rates down, be continued. And third, any­
thing we can do to keep pushing the dollar downward will benefit
some of these countries as well because one of the problems for
some of the high debt countries is depressed commodity prices.
And, to some extent, that reflects the strong dollar. Anything that
gets the dollar down that gets interest rates down permanently, as
well as speeds up worldwide economic growth, will be very con­
structive and is almost necessary to prevent the situation from
It may not be sufficient, but without it, there’s no chance of
avoiding a very serious problem relating to this high debt situation
in the years ahead.
Mr. H o r m a t s . I tend to agree that the macro is really the key
determinant in success or failure. In one sense, I’m optimistic in
that the Federal Reserve Board today, in my judgment, takes
greater account of international circumstances than ever before in
its history.
All of the analysis of open market committee discussions leads
me to the conclusion that they are very keenly aware of the impact
of their policies on the high debt countries and the dollar. And I
suspect one reason—certainly not the only one—but one reason
we’re seeing a loosening of monetary policy—we saw it in the be­
ginning of the fall of last year and we’re still seeing it—is that they
understand the consequences of the deep recession in this country,
or a shoot-up in interest rates in this country, on the debtor coun­
tries. And, in turn, they understand the impact that would have on
the financial system and the economy of the United States.
So that, it seems to me, is a very important consideration.
I think that there are several other reasons for optimism. Let me
read one portion of a speech that Secretary Baker made on June
21, in Tokyo at the meeting of the Group of Ten:

The interim meeting in Seoul will be considering a report by the managing direc­
tor on the possible uses of the resources that will be made available following repay­
ment of loans that have been made by the trust fund.

There’s a lot of money there. The trust fund, which was designed
to help some of the developing countries following the oil price
shocks in the 1970’s, lent a lot. It’s getting this money back. Some
of this is committed to make up the shortfall in IDA. As you well
know, Mr. Chairman, that is a problem. Bat there is still some sub­
stantial sums of money that are not committed.
It may well be that those sums can be leveraged or combined
with the private sector lending.
I think the basic point is to get prudent increases in new lending
to these countries. Karin mentioned the point earlier, and I think
it’s a valid one, that one part of the deal that was struck in 1982
and 1983 was that if these countries adjusted, they would see addi­
tional flows from abroad. And they haven’t seen those to the
degree they have anticipated.
It seems to me that the banks aren’t going to do it all them­
selves. The Eximbank isn’t going to do it itself. But together, if you
had the right types of coguarantees or cofinancing, you will be able
to use some official money combined with private money to in­
crease flows to these countries.
Let me comment on the interest capitalization idea that was, in
my judgment, somewhat imprudently prepared by a member of the
Federal Reserve Board.
There are several issues. One is how you make the point, how
you make the presentation. Coming right after the Argentines had
taken some very tough and needed measures, the timing was
highly inopportune, to put it nicely.
Also, it wasn’t just the interest capitalization point. He had some
scheme where the World Bank would somehow guarantee or take
over this money. All of these things were sort of floating around
Let me talk about the capitalization idea, in particular.
It is a well accepted feature of borrowing in certain markets like
the floating rate note market, that if you are a borrower and you
want to insulate yourself from an increase in interest rates, you
can put a cap on your interest payments.
Now, in order to do this, you pay a little bit of a premium to the
lender. The lender will, say, charge you a little bit more for the
money. In return, the lender accepts the fact that if interest rates
go up above x, the borrower won’t pay anything above that level.
In other words, there’s a cap on the interest payments that the
lender will be repaid by the borrower.
And this is all built into the terms of the loan. It is not a new
phenomenon in the market. It’s done. And the terms of the deal
are different in order to make it a little bit more attractive for the
lender, but it can be done.
In fact, on new bank lending, it seems to me, there is every
reason to believe that this type of feature could be worked out be­
tween borrowers and lenders. Obviously, there would be negotia­
tion of the terms, but that technique is not an unknown one and
probably a very appropriate one with respect to new lending.

The difficulty comes, in part, because the regulators have not al­
lowed old loans to be revamped to put these new types of caps in.
But that type of technique is not in the future one that we should
dismiss as being inappropriate or unusual.
I think the way it was done in that statement, and the fact that
it was combined with a lot of these other things has blurred the
Now the banks will have to work this out case by case with the
debtors. But it strikes me that this type of idea should be pursued.
There are a variety of other ideas that we could go into.
Representative O b e y . Do you want to add anything?
Ms. L is s a k e r s . Yes, just to pick up a little bit on Bob’s last point.
In the longer term, if one looks at the changes that are taking
place in the way that the capital markets operate and the sort of
blurring between the securities markets and the capital markets
and the credit markets, there are probably opportunities for sover­
eign borrowers which could give them access to a broader base of
lender, a broader source of funds, and a more stable source of
If you look at what Sweden has been able to do in the last couple
of years, for example, it has completely restructured its external
debt and reduced the bank component and gotten more fixed rate
and a more variable and flexible debt structure, which gives them
the opportunities to go into the market and get out of the market
more or less when they want to and to get a bigger variety of cur­
rency in their debt and all sorts of gimmicks.
And I suppose that one can look forward to the time when less
prime-sovereign borrowers might have access to some of the same
instruments. The problem is getting from here to there and getting
from here to there without any major crises.
And when one looks at the constraint on the countries, it comes
down to the interest payments to the bank. And obviously, the
major component of that is the base interest rate which is the func­
tion of the U.S. Government policy and of U.S. deficit and what
Congress does on the budget.
I mean, I hope you’re not saving that we simply have to resign
ourselves to the fact that there s only going to be a $30 million cut
in the U.S. budget deficit this year. One hopes not. Macroeconomic
conditions, the U.S. growth rate, and the interest rate are really
the most crucial point. One can tinker with a bank-sovereign coun­
try arrangement and certainly do something to ameliorate the situ­
ation, but the broader macroeconomic conditions are obviously the
governing factors in what’s going to happen in this debt situation.
Representative O b e y . Let me just ask one quick question and I
would appreciate short responses so that we can get to Congress­
man Hamilton.
But following up on your responses, let’s move beyond what—you
all emphasized macroaction that we need to be taking—moving
beyond that, getting into some of the other things that we’ve been
touching on, Felix Rohatyn last week said twice—well, let me put
it a little differently.
We had testimony in our other committee last week to the effect
that we cannot put pressure on some of these Latin American
countries on the drug traffic because it will put such tremendous

pressure on the governments that they may collapse. And so, there­
fore, we have very limited pressure that we can put on them.
And yet, we are putting excruciating pressure on them in order
to assure that they adhere to their payment schedule to the banks.
Felix Rohatyn indicated that he felt that our concentration,
when you mentioned, Mr. Hormats, our concentration on Nicara­
gua and El Salvadore, and really dismissing for the moment some
of the tougher problems in Argentina, Brazil, et cetera, and the
pressures that we’re putting on these countries to repay is really
going to cause us more long-term damage and put at risk democra­
cy in that part of the world than is sane for any country in our
I recognize the timing problem that you have associated with Mr.
Martin’s suggestion, but Rohatyn is also suggesting that, just flat
out, we ought to be, if not doing it now, we certainly ought to be
laying plans for at some time in the reasonably near future reshap­
ing those debt obligations, or we will face much worse results than
we would like to think.
Does anybody strongly disagree with that?
Mr. H o r m a t s . I haven’t seen this particular version of the Roha­
tyn plan, but I’ve seen earlier ones. They smack of the grand
design and they miss the point that there are a number of differ­
ences among debtor countries.
The great success Rohatyn had in New York City has led him to
believe you can do for the world what you can do for New York
City. It’s a lot more complicated than that.
I think you have to do it case by case. I don’t think the grand
designs are going to work. I don’t think somehow having the World
Bank pay this money back and issue bonds that some mythical
buyer is going to buy, which tends to be one type of scheme that
you hear, is going to work because that reduces the creditworthi­
ness of the bank.
A lot of these grand designs really are not going to get political
support and really don’t make too much economic sense.
Representative O b e y . Well, forgetting that, I guess my question
is should we admit, as I think some of the testimony that some of
you have given, at least marginally suggests, should we admit that
these are not loans that are likely to produce sufficient repayment
over the next few years and should we be thinking now about the
banks themselves making significant adjustments in those repay­
ment schedules in order to encourage the ability of those countries
to grow enough to do something other than pay their debts?
Mr. H o r m a t s . I think it differs from country to country. Some of
the loans are payable; some aren’t. And I think when one makes
the judgment as to whether or not they’re payable, it depends on a
whole broad range of other circumstances.
My instinct is that in a number of the bigger countries, perhaps
not all, but in most, if one provides the sort of resources that they
need to undertake the economic restructuring and improvement
that they are, in many cases, planning, then with a considerable
amount of pain and adjustment, the loans are over a period of time
My guess is that in a few of the medium-size countries—I’ve
mentioned a couple of them—they are, for the foreseeable future,

not payable. I don’t think that the terms, country by country, can
be worked out in advance. We need to do this on a case-by-case
basis. And if there are situations like Bolivia, the banks and the
Bolivians will somehow find a way of working out an accommoda­
tion—which probably won’t be particularly satisfactory to either.
The grand designs, I think, lack an awful lot of credibility and
simply don’t deal with the differentiation point that I mentioned
I do think, however, that we have to begin to think about, as you
say, the situation. If the thing should deteriorate, what do we do?
And there, it really depends on the type of deterioration. If the de­
terioration is in the form of a big increase in interest rates, then it
seems to me you can find some means, some type of interest rate
smoothing out process.
That, as I say, is not an unusual idea in international transac­
More difficult is what happens if the disruption occurs because of
protectionism in the industrialized countries, or a big decline in in­
dustrialized country growth. Then we can cap interest rates and do
all we want. That really won’t matter.
It seems to me that’s the bigger risk. That’s why I think that the
interest rate capitalization idea, while there may be ways of doing
it, may not really be the central risk of the moment, which is a
decline in growth. And there’s no other answer except to find some
way of helping to cushion the resource decline which would occur
as a result of that weakness in industrialized country growth and
the ultimate inability of these countries to increase their exports.
It’s not a capping problem; it’s a resource problem and that’s the
reason that I concentrated earlier on ways of trying to foster flows
of new resources.
Unless we’re able to do that, and it seems to me that it will not
be just the banks, it will not be just the Government, but it will be
the Government, the banks, and these new sources of capital—pen­
sion funds and other types of financial market institutions—unless
we can find some creative means of doing that, leveraging certain
resources in order to do that, we are going to find the system vul­
Representative O bey. Congressman Hamilton.
Representative H a m ilt o n . Thank you, Mr. Chairman. This has
been a good panel. I’ve appreciated the opportunity to attend.
It seems to me that the policy difference between you, Ms.—how
do you pronounce that last name?
Ms. L issa k ers. Liss-akurs.
Representative H a m ilt o n . Lissakers—I’m sorry, I didn’t know—
and the other panelists, is that you believe we should cap and for­
give right now, and that they talk in terms of additional resources,
muddling through, and the like, and apparently, oppose the idea of
beginning to discuss a cap or forgiveness at the present time.
Then I ask myself, why that difference with you, or among you?
And it seems to me that the key to it lies in your prepared state­
ment, where you say that this arrangement that we now have, or
the idea of muddling through, is not really acceptable for U.S.
public policy, although it may be acceptable for the U.S. banks.

And the reason that it’s not acceptable for U.S. public policy is it
doesn’t provide any real economic growth in the areas of Latin
I also had the impression in your prepared statement that you,
in a very diplomatic way, you’re really very critical of the banks
here. And so I think we ought to really let the bankers respond to
your fundamental criticisms here.
Are the banks really focusing on the problem in terms of getting
their money paid back? Is that their major concern here? Have
they, in fact, on the existing bargain that she talks about, really
defaulted, in fact, because they’re not going to be putting addition­
al resources in? And is, then, some kind of a new bargain neces­
I’d like to hear the response.
Mr. C h im erin e. Well, Congressman, I’m not a banker, but I’ll
take a stab at it, anyway, and then perhaps my colleague can add
to what I have said.
Representative H a m ilto n . Those of us from Indiana think that
any of you from New York tend to be bankers. [Laughter.]
Mr. C h im erin e. I’m from Philadelphia. [Laughter.]
I think that the issue gets back to the amount of hardship in the
LDC countries and what the banks and other lending agencies
have done to mitigate that problem. I don’t think anybody would
suggest that we should completely forgive all these loans. The ques­
tion is a matter of balance. And by any standards, I think, the
banks have bent over backward in recent years to stretchout many
of these loans, to defer payment of principal, to reschedule pay­
ments, and have made significant efforts in order to mitigate the
problem, at least in the short term, on some of these high debt
Now, this is a matter of judgment. We can always argue that
they should be doing more or less. I don’t think that anyone can
disagree with the view that they’ve moved heavily in that direc­
tion. Interest rates are not really the problem at this point. Inter­
est rates are coming down and even if we cap interest on some of
these loans, the savings will be a lot less than it would have been
when interest rates were 4 or 5 percentage points higher.
The big problem is slow worldwide economic growth. If those con­
ditions continue, there’s no way the banks can continue to make
new credits available to the LDC’s to cover the shortfall in their
needs. And under those conditions, they’re either going to have to
permit more reschedulings or some other source of financing will
have to become available. But at this point, I don’t see how anyone
can argue against the fact that the banking system in the United
States has moved extensively in the direction of rescheduling, prin­
cipal deferrment, and of other ways of reducing the short-term
impact of the debt problem on some of the LDC’s.
Representative H a m ilto n . But would you agree that normal
lending has not resumed?
Mr. C h im erin e. I think there’s been some.
Representative H a m ilto n . Would you agree that that was part of
the implicit or explicit bargain?

Mr. C h im e rin e . I think part of the bargain is that there would
be some. I can’t really argue whether or not they come forward
with as much as they should have.
But there has been some increased credits supplied to some of
these countries during the last several years during their adjust­
ment period.
Representative H a m ilt o n . But normal lending is not taking
place now. Is that a fair statement?
Mr. C h im e rin e . It has been very limited, yes.
Representative H a m ilt o n . Bob.
Mr. H o r m a ts . Well, since Congress, in its wisdom, years ago
passed the Glass-Steagall Act, fortunately, investment bankers
have saved themselves a lot of money and are not involved in
direct lending to these countries. So I can’t speak for the banking
I’d make a couple of points.
I think that there has not been the sort of resumption in volun­
tary lending that I, and I think many of us, had hoped for over a
period of time, largely for the reasons that Karin has mentioned
earlier. There is a reluctance to increase lending portfolios to trou­
bled countries and there are a lot of very attractive loan possibili­
ties in a growing and deregulated banking environment in this
country. And when you combine the two, there has been a negligi­
ble amount of voluntary lending—I don’t know what the amounts
are, but it’s not very much. Karin probably knows it better than I
I don’t have any intellectual argument or political or economic
argument with capping. As I say, it is an established technique in
the markets and as long as the cap is negotiated between borrower
and lender, it’s something that’s done relatively frequently.
And, in my judgment, the new lending to these countries, both
voluntary and involuntary, should have, if it can be negotiated be­
tween the borrower and the lender, some type of cap. That’s a very
prudent technique and is something that is done in mortgages in
the United States. It is not unusual and it could be done.
It’s harder to redo old loans, to put a cap on them. But even
there, maybe some way of smoothing out repayments that can be
worked out.
I simply don’t know. That’s something that would require a lot
more detailed negotiations and involve the regulators.
My basic point is, and I think we both indicated from all of our
projections about the future, that interest rates may rise in the
near-term a little bit. That’s certainly a possibility. And there’s
always a chance that they could rise a lot. And we could probably,
through some type of capping, deal with that.
The bigger risk at the moment is that we will see a weakness in
demand. And a weakness in demand will push rates down further,
most likely.
So that if one has a certain amount of energy and a certain
amount of political will, then the key point is to use what energy
and efforts we can to deal with what is the most proximate prob­
lem—the most likely problem—and that is a weakening of growth
which will weaken developing country exports and probably in the
process push down interest rates.

The question is how do we deal with the prospects of a weaken­
ing of growth and what do we do to shield the developing countries
from that tragic prospect? And that really involves not so much
capping of interest rates, although, as I say, I have no intellectual
argument with that. The most immediate problem is to get more
resources to them, particularly if the world economy deteriorates
because----Representative H a m ilto n . What do you mean when you keep
saying “ no intellectual argument” ----Representative O bey. Could I interrupt just a second, please,
Lee? Fm told that Mr. Chimerine has to leave.
Representative H a m ilt o n . I see.
Representative O bey. I see him nodding in agreement with Mr.
Hormats. [Laughter.]
That will have to be his last comment this morning. Thank you.
Mr. H o rm a ts . When I say “no intellectual argument,” I mean I
have no problem with either the technique of capping interest
rates or the validity of capping interest rates. It seems to me that
it is a very valid and, in fact, widely used technique. Billions and
billions of dollars of floating rate note issues today have capped in­
terest rates on them.
So it’s not something that I object to on the grounds that it’s
wrong or inappropriate or anything else. I’m simply saying that
the near-term problem is more likely to be a growth problem than
a run-up of interest rates.
That’s my basic point.
Representative H a m ilto n . What happens if we have a $200 bil­
lion deficit for the rest of this decade?
Mr. H orm a ts . What happens?
Representative H a m ilto n . Yes, what happens? Suppose we don’t
make much progress on getting this deficit down, we don’t make as
much as we’d all like to. Suppose you have a $200 billion deficit in
the U.S. budget. What happens, then?
Mr. H o rm a ts. It’s hard to predict. You’re more than likely to
have over a period of time a weakening of the economy because of
dissavings. It’s using money for nonproductive uses, nonproductive
in an economic sense. They may be productive in a political or a
social or a military sense.
A lot of the private sector borrowing is for investment, although
obviously some is for consumption. When the Government borrows,
it’s mainly for current expenditures, which don’t improve the pro­
ductivity of the United States, don’t improve the capital base.
Representative H a m ilto n . What happens with regard to this
debt payment problem?
Mr. H o rm a ts . Well, it depends on a number of other things. It
depends in part on the Fed policy. It will put a lot of pressure on
the Federal Reserve Board to monetize those big deficits. If it re­
sists, that will mean, in the short term, probably an increase in in­
terest rates. In the medium term, it will probably mean a substan­
tial weakening of growth.
Representative H a m ilto n . And with regard to the debt payment,
it makes it impossible----Mr. H o rm a ts . It’s a double negative for the debtor countries, be­
cause it will mean, in the near term, probably a higher dollar,

somewhat higher dollar, which hurts them because much of their
debt is in dollars. In the near term, it will probably mean some­
what of an increase in interest rates. That depends in part on a
number of other elements of Fed policy.
In the long run, it’s very bad. And bad for us, bad for the United
Mr. H a m ilt o n . Y o u mentioned in your comments that some of
the debtor countries have handled the situation pretty well.
Mr. H o rm a ts . Yes.
Representative H a m ilt o n . And that we could learn from them.
What is it that you have to learn from them?
Mr. H o rm a ts . I think it's useful to look at the differences in poli­
cies. Columbia is one of the countries in Latin America which has
maintained creditworthiness throughout this whole very difficult
period. But let’s take an interesting case of Korea.
Korea in the early 1980’s had a very serious debt problem. It con­
fronted that problem earlier than many of the countries of Latin
Now what did it do? It had large Government subsidies. It cut
those subsidies—not entirely, but to a degree. It had an overvalued
exchange rate. It reduced the value of the exchange rate. It did a
number of things to liberalize the internal economy.
And I think if you were to make the distinction between the
types of policies which made the debt problem manageable and the
types of policies which have contributed to the seriousness of it for
certain countries, you could identify a few key variables. One—ex­
change rates. Virtually every country that’s encountered a major
debt problem has had an overvalued exchange rate. And this has
meant a whole lot of other subproblems.
Second, very large-scale government borrowing, in part for stateowned enterprises. A lot of subsidies, a lot of government borrow­
ing in order to pay those subsidies.
Three, distorted price systems—they held down the price, for in­
stance, of oil or food, and therefore, didn’t provide the right produc­
tion and conservation incentives.
The fourth is that a lot of the Latin countries pursued internally
oriented policies. The East Asians were more export-oriented and
therefore, when they encountered these problems, they were able
to improve their competitiveness and relatively quickly boost their
exports, not eliminate, but to help overcome debt difficulties.
So these countries can learn from one another. We’re perhaps
not the best teacher, in fact—certainly not when it comes to reduc­
ing budget deficits.
Representative H a m ilt o n . Are you impressed with what Argenti­
na is doing now?
Mr. H o rm a ts . I am impressed with the fact that President Alfonsin has been able, in an awfully difficult environment, to make
these bold policy changes. How they’ll work out remains to be seen.
But I think that he’s taken a very bold set of steps.
Representative H a m ilt o n . The economics, quite apart from----Mr. H o rm a ts . Yes.
Representative H a m ilt o n [continuing]. Forget the politics.
Mr. H o rm a ts . The basic----Representative H a m ilt o n . The economic steps are sound?

Mr. H orm a ts. The basic economic steps are sound. They’ll be
very painful to implement, but I think that he knew, and most
people in Argentina knew, that they needed to confront these prob­
lems in their own interest, not just in the interest of dealing with
the debt problem. What is it, 1,000-percent inflation, something
like that? They couldn’t live with that.
Yes, I give him a lot of credit on economic and political grounds
for this.
Representative H a m ilto n . Thank you , Mr. Chairman.
Representative O bey. Thank you.
Ms. L issa k ers. Could I just----Representative Obey. Oh, sure.
Ms. L issa k ers [continuing]. Make one brief comment? I don’t
want to leave any misimpression about what I’m saying about the
banks’ side of the bargain.
When I say that they’re not holding up their side of the bargain,
I also say that they are right in not increasing their lending at this
point, in terms of their own position and the soundness of their
own balance sheet.
So I’m not saying that this is somehow wicked or evil on their
part. I’m saying that that is simply the situation and it’s likely to
be the situation for some time and that, therefore, the underlying
bargain in the current debt restructure approach is not tenable,
even over the medium term.
Representative H a m ilto n . But you would move right away to
cap, forgive.
Ms. L issa k ers. I certainly think it’s something that we should
have that should be in the back pocket. I mean, it depends. As Bob
says, if interest rates continue to drop significantly, then the inter­
est, the immediate interest payment problem becomes less signifi­
cant for these countries than some other aspect of the problem.
And therefore, that’s not necessarily the right response.
Representative H a m ilto n . Well, there’s a difference between
doing it right now and having it in your back pocket and you can
do it later.
Ms. L issa k ers. Yes, there is. There is. I mean, I’m saying maybe
sit through this year and see what happens with interest rates.
Representative H a m ilto n . I see. Thank you , Mr. Chairman.
Representative Obey. Thank you. As Congressman Hamilton is
pointing out, there’s an awfully tough line to walk between the
policy that allows the banks to strengthen themselves to be in a
better position to hedge against future problems and allowing the
developing countries to strengthen themselves in the hedge against
all kinds of political and economic developments that might not be
very pretty for them or us.
I don’t know if Mr. Greenspan is going to be regarded as the Cas­
sandra given his estimates of what the prospect is likely to be
through 1990, but let’s say his scenario was right, that we, between
now and 1990, see economic growth significantly lower than that 3
percent magic line that people seem to point to.
If that’s the case, then, Mr. Hormats, I guess—how long do you
think we should wait in assessing whether something more needs
to be done in order to prevent problems in that part of the world?


I mean, one thing that bothers me is that, I think while every­
body is making a lot of the fact that we have a lot of budding de­
mocracies in that part of the world these days, that in some cases,
we have that because the military couldn't figure out how to
handle the economic problems.
Mr. H o rm a ts . Exactly.
Representative O bey. And discretion was the better part of valor.
And so let the politicians take the heat.
You indicated that we maybe ought to wait it out this year.
What’s your suggestion for timetable? What if this flash that we
got last week is a flash in the pan rather than a signal that we
have resumed significant growth?
Mr. H o rm a ts . Mr. Chairman, I wouldn’t wait too long to do some
of the things that I mentioned in the testimony. That is to say, I
think there are a lot of arguments to be made for, in the near
term, moving to find ways of increasing the financing of exports to
these countries, of utilizing more cofinancing, of taking advantage
of the reflows from the IMF trust fund.
We talked about capping, but there are, I think we both agree,
an awful lot of other things that can be done right away. And it
seems to me that there is no time to be lost in moving on some of
the methods of increasing flows of resources to these countries, be­
cause the more you do that, the less political pressure on them
there will be now and in the future. It strikes me that that is a
very prudent course of action to take right away.
Representative O bey. Let me ask any of you one last—at least I
think it will be the last. I looked at a little paper over the weekend,
“The Debt Problem—1984 and Beyond,” by Mr. Rittiger Dornbusch, MIT Part of what is suggested in that paper is this—let me
just read a piece of it:
A single premise of the adjustment process is the proposition that debts must stay
intact and profitable to maintain the system, yet equity and good foreign policy are
simply— Long-run sense would indicate that some writeoffs are in most people's in­
terest. The issue should be addressed simply by asking what the prospects are,
thinking in terms of a decade for Latin America. The standard view is that debtor
countries will over some years work down their debts relative to exports by a combi­
nation of trade surpluses and export growth, and that one day some day banks will
spontaneously decide that enough is enough, turn around, and resume voluntary
lending. There’s no assurance that this will happen; certainly no indication as to
what is enough. Indeed, domestic regulators wince at the very thought that banks
should think of renewed foreign lending. The priority is clearly that LDC debts
should become a negligible item in both debtor countries and commercial banks’
balance sheets, until them austerity. But the prospect that commercial banks will
seek to reduce their LDC exposure means that most of the interest will have to be
earned rather than borrowed. The prospect combines with the unquestioned scarcity
of official lending and the lack of significant direct investment. It adds up to the
proposition that for the next decade, Latin America will be a net exporter of re­

Do you agree that that’s likely and what other comments would
you have on that statement? And do you think that such a prospect
would be sustainable?
Ms. L issa k ers. I think if we continue the current arrangement,
that is the prospect, but I don’t think that’s sustainable because I
don’t think that’s tolerable for those countries, either politically or

I m ean, you w ill have spasm s in th e fin a n cia l flow s w h e re cou n ­
tries m a y m ake an effort and th en th ey w ill fail or th ere w ill be
strikes or there w ill be problem s dom estically.

Even if countries somehow manage to do this for 2 or 3 or 4
years, my point is simply that that should not be an acceptable out­
come. That is not a desirable outcome from a broad U.S. public
policy interest, either political or economic, and that we should aim
higher. We should aim for something better than that.
I mean, the capping of interest rates, interest payments for the
banks is really just one feature. I focused on it because I was talk­
ing about the banks-creditor country relationships. And that seems
to me to be a more likely, a more acceptable measure to ease the
situation than more lending by the banks.
But there are certainly other things that can be done, that
should be done on the official side and should be done as soon as
Congress, for example, I think, is now going through the process
of authorizing funding the development banks. And I think it
would be very useful if Congress would take a look at this adminis­
tration's policy with regard to counterpart funds, for example. I
mean, it's not a huge amount, but it's a significant amount. And
it's yet one more constraint on what those countries can do inter­
nally to stimulate their own economies and do something to ease
the conditions under which people live in those countries.
A number of other measures can be taken—export finance sup­
port and leveraging some of the World Bank and other funds. So I
think that there are certainly steps.
The other side where I think more action is needed is on
strengthening the banks. The U.S. banks have not done enough yet
to write down foreign loans—it's ludicrous to be carrying the Ar­
gentine debts at 100 percent of face value. It may be that some day
Argentina will be able to repay many or most of these loans. But
you certainly shouldn't be operating, showing your books on that
assumption now because it's not a realistic assumption.
And the other aspect is, I think the banks—our current tax setup
is such now that there is an actual disincentive for U.S. banks to
build up loan loss reserves. And I think that something could be
done in that regard without significantly affecting the U.S. tax rev­
enue and give the U.S. banks the kind of allowance that the
German banks have, for example, to take loan loss, build loan loss
reserves out of pretax income rather than posttax income.
And the proposal that's in Treasury II with regard to loan loss
reserves I think is a bad one because it's going to be a further dis­
incentive to building up loan loss reserves. And banks should be
strengthening themselves more than they have so far to face the
prospect that you're going to have a deterioration in the debt pay­
ment situation.
R epresentative O bey . D o eith er o f y ou w an t to say an y th in g?

Mr. R o l d a n . When we are considering the next 10 years, Mr.
Chairman, I think we also need to look at the other side of the
coin; namely, the type of adjustments that the developing countries
themselves are pursuing in their domestic economies in order to
improve their economic health.

If we feel that banks might not be living up to their bargain by
not lending additional funds to these countries, I think there’s one
reason, and that is that we had a third party in the bargain, and
that was the IMF. The IMF assured the banks that countries were
going to go through adjustments that were not only going to solve
the cash-flow problem on the balance of payments in the high debt
countries, but that they were also going to solve the domestic dis­
equilibrium problems; namely, the high fiscal deficits and high in­
flation rates.
If we look back, there has been, indeed, a very substantial adjust­
ment on the external side of those economies, but not the same
progress on the domestic side. Despite the fact that the adjustment
costs have been very large in terms of foregone output investment
reductions and income per capita reductions, we still have not
solved that fundamental domestic equilibrium problem: inflation
rates are still growing very rapidly in these countries.
I think, there, we have to look at the other partner in the bar­
gain, the IMF, and the policies that it has been prescribing in these
From some perspective, it seems that we have lost a golden op­
portunity to force or institute in those countries the economic
policy adjustments that would allow a long-term improvement in
their internal economic equilibrium.
Still we have the inflation and the inflation outlook hasn’t im­
proved. The risk is that high debt countries will go back to the old
habits, and fiscal deficits, and that banks will be unable to lend
freely under market conditions for a long time.
Mr. H o rm a ts . Just one final thought. I think that while we
talked a little about and debated the point of interest rate cap, I
think neither of us would want you, Mr. Chairman, or Lee Hamil­
ton, to come away thinking that because we differed a little bit,
and probably not very much, on when to use that or about that
technique, that we both don’t share the sense of urgency.
I think that’s the key message of the whole thing, that there are
big risks out there for the United States and for these countries,
and that the cap is simply a technique.
The broader point, and, I think, the more fundamental one from
the point of view of the interest of this country, is that we have big
political stakes in these countries and that there are a number of
things that we can do right away that are consistent with promot­
ing the adjustment that these countries clearly need to promote,
but enables them to do this in a way which is not so socially and
politically painful that it creates internal pressures in those coun­
tries to deviate from their adjustment.
And it seems to me that there are a number of things that can
be done, and I would urge this committee, in its dialog with the
executive branch, and in its own deliberations on such things as
the multilateral banks, to take this with a sense of urgency, as I
know you do, Mr. Chairman, because it is very important to our
financial and our political interests.
Representative O bey. I just have to say on the last point, I cer­
tainly agree with you that it’s essential to buttress support for the
international banks. The problem is that everyone seems to think

that that's important enough to do, but that it's not important
enough to pay for.
Mr. H o rm a ts . Yes.
Representative Obey. Nobody on our subcommittee is a Wizard
of Oz or any other kind and we can't—I just don't think that you
can find the votes to do anything—I don't think you can find the
votes to even meet the administration's request for the banks this
year, so long as that's all borrowed, because people know in their
gut that that doesn't make sense. They just aren't willing to talk to
the country about what you have to do about it.
That's the dilemma we have. We see the problem, but there is
not support in the administration or the votes in the Congress to
do anything about it.
Ms. L issa k ers. Of course, something like counterpart funds
doesn't require additional resources, but just the internal rule
change that would allow release of funds that are already in the
banks more quickly.
Representative Obey. And the problem is that now, however, the
focus is almost exclusively, as you've indicated, on Central Amer­
Mr. H orm a ts. Yes.
Representative Obey. I recognize that the AID budget is not
something which absolutely reflects the attention we're giving to
the countries, but if you take a look at the $440 million to El Salva­
dor, population of 5 million or so, and if you take a look at the 2
percent of that amount that we are looking at for Argentina, ad­
mittedly, they are far different problems, but I think at least for
the moment it does give you some rough indication of the attention
being focused on both countries. Yes, Mr. Roldan.
Mr. R o ld a n . I would also submit some numbers of magnitude in
here, Mr. Chairman, because the initiative that one would like to
take on the interest rate side has a limited impact in terms of the
amount of money that we're talking about, for the high debt coun­
A 1 percentage point decline in interest rates that would come
through a cap, only amounts to something like $4 billion, $5 billion
in savings. By contrast, if you have the U.S. economy, for example,
altering its growth rate by 1 percentage point, the impact is far
larger. Over $15 billion in extra revenues would come or go to
those countries.
Representative Obey. I agree. But if we have less growth than
people are expecting, my problem is that I don't think next year
we get by pressures for real protectionism, which really puts a
crunch on the situation.
Thank you all very much.
Mr. H orm a ts. Thank you, Mr. Chairman.
[Whereupon, at 11:55 a.m., the committee adjourned, subject to
the call of the Chair.]



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