Market Newsletter : The Latin Debt Quagmire: Unhappy Birthday No. 8

The Latin American debt “crisis” is approaching its eighth anniversary, with most of the region’s debtor countries no closer to resolving their grim economic and financial problems.

Although borrowing by Latin American debtors has slowed to a near-halt, they are not receiving enough money from other sources to finance the broad restructuring of their economies that is necessary to lay the foundation for growth.

In the absence of new sources of cash, a growing number of Latin American countries have been solving their debt problems by default--that is, by refusing to pay the interest on their outstanding loans from commercial banks. The Institute of International Finance, a Washington-based monitoring group set up by commercial banks, says the amount of interest payments in arrears from eight key Latin American countries has surged from just over $1 billion in 1985 to $16.9 billion in 1989.

Barry F. Sullivan, chairman of the First National Bank of Chicago and head of the Institute’s board of directors, calls the increase “alarming.” Unless some action is taken soon, Sullivan warns, “more serious difficulties lie ahead for these countries.”

Bankers and many other critics blame the Brady Plan, the sweeping Third World debt reduction scheme proffered by U.S. Treasury Secretary Nicholas F. Brady. The plan, launched in March, 1989, has been adopted by creditor countries as the new global debt strategy. Arguing that new loans only exacerbate the problem, the Brady Plan seeks to slash debt burdens by enabling banks to get rid of problem loans by selling them--at a discount--to the debtor countries, which finance them through World Bank-backed bonds. So far, Mexico, Costa Rica, the Philippines, Morocco and, soon, Venezuela have been the major beneficiaries of the plan. Brady has declared it a first-year success, as have finance ministers of the other major industrial nations that have embraced the scheme.

But critics argue that the scheme has provided little real benefit to the participating countries--and may well have been a factor in cutting off the new bank loans that Latin governments need to finance their badly needed economic reforms. Although bank lending to Third World countries was tapering off rapidly before the Brady Plan was put into effect, it has now all but dried up. “You can’t ask banks to take a hit by discounting their loans and then prod them to make new ones on top of that,” one critic says. At the same time, analysts say the plan’s emphasis on debt-reduction is misguided. Ordinarily, if a country receives $1 in new loans, it has 90 cents to spend--what is left over after interest. But if its debt burden is cut instead, it gains only the interest saved--about a dime.

Although Brady doesn’t seem ready to scrap his initiative, the plan is being transformed--by the marketplace. Despite the Treasury’s emphasis on debt-reduction, the new package being negotiated by Venezuela has a large new-lending component. Others may follow suit. A close look at recent “Brady Plan” packages shows that the rubric is now being applied to virtually any deal that the debtors and creditors can hammer out. The debt-reduction package put together for the Philippines leans heavily on bank lending.

Officials of the large industrial countries may formally encourage such a liberal interpretation at the annual seven-nation economic summit, to be held in Houston in July. The World Bank and International Monetary Fund already have laid the groundwork for such a switch.

The scarcity of new financing is forcing some countries to look inward and to begin making badly needed economic reforms on their own. Partly because of the dearth of available money elsewhere, Mexico has engineered sweeping changes that would have been politically unthinkable even three years ago--selling off inefficient state-owned industries, liberalizing trade and welcoming foreign investment.

Brazil’s newly elected president, Fernando Collor de Mello, also has moved swiftly to embrace free-market economic programs. Venezuela is beginning to move. Even Peru, which has been the region’s bad boy on debt issues since 1985, is expected to return to the fold soon.

Some of the shift stems from fears by the Latin governments that they had better move quickly before available money is diverted to Eastern Europe. Several of the region’s top economic policy makers already have issued pleas urging creditor governments not to flee. The worry was a prime topic of corridor conversation among finance ministers of developing countries at the meetings of the International Monetary Fund and World Bank earlier this month.

Many Third World officials are bitter over Eastern Europe, which they consider a newcomer and far better able to attract capital than their own countries. But industrial countries have seemed unfazed by the appeals. Put your houses in order, they are telling the Third World countries.

For now, the economic situation in Latin America ranges from tolerable to plainly grim. Mexico, Venezuela and Costa Rica are experiencing modest economic growth, with diminishing inflation. And Chile, Uruguay and Colombia are essentially under control. But Brazil and Argentina are going through traumatic periods now, with substantial uncertainty about how well they will fare. And the region’s smaller countries--such as Ecuador, Honduras, Jamaica, Peru, and Nicaragua--are in terrible shape.

New figures show that per-capita income in Latin America fell 1% over the region as a whole in 1989 for the second year in a row. By contrast, it grew steadily during the mid-1980s. At the same time, inflation across the region is more virulent than ever.

Much of the fate of the region’s economies will depend on the strength of the world economy over the next few years, analysts here say. If the industrial nations can maintain moderate growth and keep their markets open, Latin America will eke by. If not, a slump is certain.

The region’s biggest problem remains inflation, which is exacerbating the Latin countries’ own internal debt--the borrowing that governments must do at home to help finance their budget deficits. The internal debt crisis has become a far bigger strain on their resources than foreign debt. Brazil, for example, consistently has run a trade surplus of $16 billion to $19 billion for the past several years--the world’s third-largest, after Japan’s and West Germany’s--but has been unable to pay its foreign creditors easily, in large part because of its own debt crisis.

As a result, some experts believe that the real battleground over the next few months will be an effort by debtor countries to persuade governments--and international institutions such as the IMF and World Bank--to write off large portions of their Latin American loans, much as commercial banks already have.

Peter Hakim, staff director of the Inter-American Dialogue, a Washington-based research group, says the Brady Plan, which deals solely with debt owed to commercial banks, “has no meaning for” countries such as Jamaica, which have borrowed almost entirely from governments.

Hakim believes that the debt problem, which seems relatively quiet now, could re-emerge early next year, particularly if the U.S. economy begins to soften. “Right now, it’s off the front pages,” he says. “But it could be back again--soon.”

Latin Debtor Nations: A Sampling: How far eight countries have fallen behind on their debt, compared with the figure for each one five years ago.

Source: The Institute of International Finance, Inc.