“Going for Broke?” by Alfred
J. Watkins, NACLA Report on the
Americas,
VOL. XIX, No. 2, March/April 1985.
The debt crisis is far from over and the banks are quickly losing leverage as Latin American debtor nations refuse to follow austerity programs set forth by the International Monetary Fund (IMF) and demand lower interest rates and payment rescheduling.
At the 1984 IMF and World Bank joint annual
meeting the fear of a collapse in the banking system was gone and optimism set
in. The big four Latin American
debtors (Mexico, Brazil, Argentina, and Venezuela) have promised to repay their
debts and banker expect smooth sailing in the future. However, the stock market signals that
the banking crisis is not over due to undervalued stocks that indicates that
loans to Latin America, a major portion of banks’ assets, are not worth 100
cents to the dollar and that the banks will not collect all they are
owed.
The gloomy analysis questions the soundness
of the bankers and the banking system as a whole. During the 1970s, banks found and
exploited loopholes in order to bypass regulations limiting the amount they were
permitted to lend any one borrower.
Salaries, bonuses, and promotions were also given on the basis of how
many loans were made, not how many were repaid. This led to a ridiculous frenzy of
lending without any thought to repayment and left the stability of the U.S.
banking system in the hands of a few Latin American government officials. Despite these ominous signs, bankers
deny any imprudence on their part and assert that debtors will completely repay
their debts.
From the bankers’ point of view, even the
charge of putting all their eggs in one basket is not valid. Although major banks all have
outstanding loans to Latin America, which are equal and in many cases greater
than their stockholders’ equity, bankers cling to the solution of “coercive
vulnerability.” Because so many
large banks made loans to a small group of borrows, the slightest hint of
inability to make payments threatens the entire Western banking system and not
just one bank. This assures the banks that the U.S. and other Western
governments will support them by pressuring debtors to make their payments. In the slim chance that the debtors
cannot make payments, coercive vulnerability increases the probability that the
government will bailout the banks.
Bankers also argue that adhering to legal
safeguards and financial requirements is meaningless since the economic
feasibility of an individual project is insignificant compared with the economic
prospects of the country. The most
important question is whether a country can export enough to generate the
dollars necessary to repay their loans.
No matter how profitable a Latin American company is, it generates
pesos or cruzeiros, while its liabilities are in dollars. Companies would normally just buy
dollars from the country’s central bank, but if too many subsidiaries try to
purchase dollars demand soon outstrips the limited supply. Banks also claim that the importance
does not lie with the current foreign exchange-earning ability of a country, but
its future prospects. They tout
that virtually every Latin American debtor’s potential export revenues are many
times great than the outstanding debt and therefore belts just need tightening
in order to induce debtor nations into slashing imports and increasing
exports.
In order to force debtor countries to direct
financial policy towards repayment, previous gunboat diplomacy has been replaced
by IMF troop. Ignoring what happens
to local economies or domestic standards of living the IMF assures the banks
that economic policies are oriented exclusively to repaying outstanding loans.
With the clout of the IMF behind them, banks can protect their old loans by
making new loans just large enough so that countries with outstanding debt can
make interest payments. Therefore
the banks view pleas for lower interest rates and other forms of debt relief
with hostility, claiming that these countries are more than capable of
generating required trade surpluses.
Latin American officials reply that although
feasible, generating a large enough trade surplus will be politically
intolerable and economically disastrous.
Already, countries are suffering from these austerity programs. Inputs
have been slashed by 40% (between 1981 and 1984) causing investment, economic
growth, and standards of living to drop dramatically. More frustrating is the fact that most
debtor countries still cannot meet payments because of high interest rates.
Much to the banks pleasure, studies by the IMF and Institute for International Economics report that by the end of the decade debtor nations will have made significant progress in restoring economic growth and financial stability. However, Latin American officials who face harsh economic reality view these reports as proof that the debt has sucked resources from their countries and deflated their economies and that bankruptcy is inevitable if interest rates remain high. High interest rate will also cause current accounts deficit—the gap between the trade surplus and required interest payments—to be high. Although banks and the IMF point to the possibility for debtors to borrow more and import more, these options are not particularly attractive to Latin American countries especially since revenues from increased exports would go directly to banks and not into producing goods and services for domestic use.
A study done by Thomas Enders at the Brookings Institution calculated that default would be the most viable and profitable option. Output and standards of living would be better off in the long run than if the countries followed IMF austerity plans. The cost of defaulting may be even less since the report assumed that the offending countries would undergo a total credit blockade. A total blockade is unrealistic since smaller banks will find debtor nations as excellent credit risks after they default and suppliers are unlikely to relinquish such a large market simply because their customers decided to pay them instead of the banks. Argentina has already taken safeguard measures against such a boycott such as systematically increasing its reserves. It has also followed the banks’ divide and conquer strategy (banks give concessions to compliant countries so they will have less incentive to join the more defiant ones) by paying its suppliers $2 billion as it balked at paying the banks much less in interest.
The defiance of Bolivia and Ecuador to make interest payment coupled with Mexican and Argentine debt rescheduling are vivid portrayals of the banks eroding bargaining power. In the face of countries that cannot repay their debts, the banks preserve only the options of renewing loans and extending payment schedules or refusing to do so and running the risk of not receiving any money at all. However making more loans dramatically increases the vulnerability of the international financial system and pushes debtor nations further and further into debt. In addition, banks must borrow the money they are lending, which requires them to dilute shareholders’ earnings per share and send the banks themselves deeper into debt. Even the few concession necessary to keep debtor nations in the game could drastically tarnish banks’ balance sheets. Therefore, banks may hold out for all or nothing and may also very likely come away empty-handed.
~by Ċetta Mainwaring