Latin America s s Foreign Debt

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Lorin Henderson
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1 Latin America s s Foreign Debt Causes and Effects Internal Causes of the Debt Overvalued currency associated with ISI Returns on projects in future, but payments now: Debt trap Populist economic policies: borrowing for current consumption Food subsidies for the poor Health subsidies Military goods 1

future, but payments now: Debt trap Populist economic policies: borrowing

2 EXTERNAL CAUSES OF THE INTERNATIONAL DEBT: 197 S 1973: OPEC formed and oil prices quadrupled International banks had too much money to lend Interest rates low Commodity prices high Most loans made at variable rates based on the London Inter-bank Offer Rate (LIBOR) EXTERNAL CAUSES OF THE INTERNATIONAL DEBT: SEQUENCE OF EVENTS: Worldwide inflation and recession U.S. switched monetary policy, causing worldwide interests rates to almost triple Debt-service jumped up to unmanageable levels 2

Offer Rate (LIBOR) EXTERNAL CAUSES OF THE INTERNATIONAL DEBT: 1979-82 SEQUENCE OF EVENTS: Worldwide inflation and recession

3 OIL PRICES INCREASED U.S.DOLLAR PER BARREL Price of oil in $ per barrel l YEAR COMMODITY PRICES FELL Example: Price of Sugar 12 8 U.S.Dollar per tonne YEAR 3

4 WORLD INTEREST RATES ROSE DRAMATICALLY PERCENTAGE LIBOR YEAR THE DEBT CRISIS APPROACHES: early 198 s Many countries unable to meet full debt-service payments Banks treated problem as a short-term term liquidity crisis Loans made to cover unpaid debt- service Added to the debt and future debt service payments 4

CRISIS APPROACHES: early 198 s Many countries unable to meet full debt-service payments Banks treated problem as a

5 6 RATIO OF DEBT SERVICE TO EXPORT EARNINGS ROSE TO UNMANAGEABLE LEVELS 5 4 %OF XGS 3 2 SUB-SAHARAN AFRICA LATIN AMERICA AND THE CARIBBEAN YEAR 197 s: Growth-led Debt 198 s: Debt-led Debt 5

CARIBBEAN 1979 198 1981 1982 1983 1984 1985 1986 1987 1988 1989 199

6 THE DEBT CRISIS: 1982 Mexico defaulted on debt-service payment Several other countries followed Forced international banking community to look at the problem RESPONSE TO THE CRISIS Treated as a short-term term liquidity crisis IMF put in charge Bridge loans to countries in crisis Loans came with conditionalities Loans refinanced at higher rates Loans now considered higher risk Increased spread above the LIBOR Loan charges added to the debt 6

liquidity crisis IMF put in charge Bridge loans to countries in crisis Loans came with conditionalities Loans

7 IMF Conditionalities Absorption approach: Y-A=BY Devalue official exchange rates Lower trade barriers Abolish import controls Eliminate government deficits Decrease growth in money supply Raise interest rates Encourage foreign investment Eliminate controls on DFI Lower wages Effect of Debt: Net Capital Outflow Trade policies shifted towards increasing exports Rose from 93.9 b. in 198 to 95.6 b. in 1985 Merchandise imports fell from 95.5 b. in 198 to 62.9 b : 32.5 b. merchandise trade surplus, but 3.6 b. deficit on current account (debt service) Despite trade surplus, had to borrow, increase debt 7

Capital Outflow Trade policies shifted towards increasing exports Rose from 93.9 b. in 198 to 95.6 b. in 1985 Merchandise imports fell from 95.5 b.

8 Capital Flight added to capital shortage during 198 s Capital attracted to U.S. High U.S. interest rates 1983 tax law provided tax exemptions on interest earned by foreigners Within countries Negative growth rates High inflation Negative real interest rates 8

9 Argentine capital in U.S.=1/2 debt Mexican capital in U.S.=2/5 debt Capital Flight for Mexico billions U.S. dollars EFFECTS OF THE DEBT Net capital outflow from capital poor countries Negative growth rates Decreased imports from U.S. and other developed countries Decreased public resources for Health Education Infrastructure Development 9

1 1979 198 1981 1982 1983 1984 EFFECTS OF THE DEBT Net capital outflow from capital poor countries

10 EFFECTS OF THE DEBT TO EARN DOLLARS FOR DEBT SERVICE More members of family join workforce Social unrest Shift agriculture from food to export crops Hunger Mining Deforestation Soil erosion Ecuador

11 Is the Debt Crisis over? Central America Present Value of Debt 23 & 25 (US$ billion) Nicaragua Honduras Guatemala Dominican Republic El Salvador Panama Costa Rica Mexico Source: World Development Indicators data base 25 11

179 157 5 2 2 3 3 5 6 6 7 8 7 11 12 6 6 Nicaragua Honduras

12 South America Present Value of Debt 23 & 25 (US$ billion) Paraguay Colombia Ecuador Peru Brazil Venezuela Argentina Uruguay Chile Source: World Development Indicators data base 26 Central America: Total Debt Service (% of exports of goods and services) Nicaragua Guatemala Dominican Republic El Salvador Panama Costa Rica Mexico Source: World Development Indicators data base 25 12

data base 26 Central America: Total Debt Service (% of exports of goods and services)23 25 2 21 15 12 7 8 9 11 5

13 South America: Total Debt Service (% of exports of goods and services) Paraguay Colombia Ecuador Peru Brazil Venezuela Argentina Uruguay Chile Source: World Development Indicators data base 25 13

ECON 4311: The Economy of Latin America. Debt Relief. Part 1: Early Initiatives

ECON 4311: The Economy of Latin America Debt Relief Part 1: Early Initiatives The Debt Crisis of 1982 severely hit the Latin American economies for many years to come. Balance of payments deficits and