Monetary Fund Displays New Flexibility on Peru

Nobody wants to see the bloody aftermath of a head-on collision, but the world of international finance recently braced itself for one. Fortunately, the crash was averted and the near-victims--Peru and the International Monetary Fund--now can reflect on where they should steer their conflict-ridden relations.

Last Monday the IMF board met to consider whether to declare Peru ineligible for IMF programs because of the nation’s failure to make prompt payments on its debts. A game of chicken between Peru and the fund was called off, for the time being, when Peru offered--and the IMF accepted--a partial payment of $30 million on its overdue debts. The payment hardly puts Peru back on the conventional path in its handling of debt, but the IMF’s decision to postpone a decision on ineligibility until May 5 signaled a new and much-needed flexibility in the international debt regime.

Peruvian President Alan Garcia sparked a conflict in the world of international finance last July when he announced that debt payments would be limited to 10% of export earnings for the year. Peru’s debt of $14 billion is small when compared with the debts of several of its Latin neighbors, and only $6 billion of it is owed to commercial banks.

Nonetheless, Garcia’s strident rhetoric against the IMF and the banks and his unprecedented unilateral capping of interest payments have cast a spotlight on Peru. Creditors and debtors alike are watching anxiously to see what becomes of the Peruvian strategy.

Peru still owes about $110 million to the fund in past-due loan payments. The IMF board, which represents the 149 member governments, is virtually unanimous in pressing for full repayment, especially in light of Peru’s accumulation of $1.4 billion in net reserves. Garcia argues, however, that economic recovery in Peru is being stifled by huge debt payments and the IMF does not deserve to be treated as a preferred creditor because it, too, drains Peru of crucial foreign exchange and is an unlikely source of new loans.

Yet both sides backed off when confronted with the prospect of a declaration of ineligibility. Peru fears the loss of future credit from the World Bank and other lenders, and worries that some unpaid creditors might take legal action and even try to seize Peruvian exports and other assets, including AeroPeru planes. The IMF is worried that a deepening confrontation lessens the prospects for eventual repayment. The fund also should be concerned because its mandate is to integrate nations into the global economy, not exile them.

IMF ineligibility bans a country from most fund programs, and the World Bank would reconsider its lending to an IMF-ineligible country with a strong presumption that such a nation is no longer credit-worthy. Liberia, Sudan, Guyana and Vietnam have been ineligible since 1985, and none seem close to improving their standing with the international financial system. Indeed, no special procedure has been established for these ineligible countries to redeem themselves, and their overdue payments continue to mount.

The IMF should seek to work with Third World countries to help them become productive participants in the global economy. Its decision to keep working with Peru, rather than abruptly sanctioning it, shows that the fund is making a renewed effort to fulfill this role. Behind-the-scenes negotiations have already persuaded Peru to modify its stance as the incorrigible bad boy of Latin debtors, and Peru may be quietly preparing to end its self-declared isolation from the established channels of international finance.

Garcia will most likely continue to decry “financial imperialism,” however. His chief domestic political opposition comes from the Marxist left, so he can be expected to keep making a show of disdain for the IMF and commercial banks. The IMF and the World Bank should be mindful of these political undercurrents, and not be misled by Garcia’s populist poses.

In fact, his efforts to reduce Peru’s new foreign borrowing and to impose a drastic economic readjustment program coincide with the IMF’s desire to retrench in the Third World, and with its tentative new support for the variations on IMF “shock” treatments now being attempted autonomously by other Latin America democracies, notably Brazil and Argentina.

Peru’s fledgling democracy still faces a rough road to economic recovery, along with serious political obstacles, which include rising urban crime and the entrenched Sendero Luminoso guerrilla movement. But it has cleared one hurdle by buying time for negotiations on its IMF debts. One must hope that this signals a new acknowledgement by the IMF of the need for flexibility in working with problem debtors struggling with unprecedented economic hardships and political pressures.