The Outlook for Latin American Debt

The debt containment strategy designed in 1982 has run its course. In May Citicorp, the largest international bank lender both worldwide and in Latin America, announced the creation of an additional reserve of $3 billion—equivalent to almost one quarter of its loans to troubled developing country debtors, the bulk of them in Latin America. Other major banks promptly followed its example. These actions confirmed the end of the containment strategy, or at least its first stage. Thus far, no new scheme has taken its place. The question now is not only whether the big debtors in Latin America will pay, but also where the money will come from.

No long-term solution to the debt question is possible without a mixture of economic reform in the debtor countries and additional fresh capital, both of which are needed to revive economic growth. Both were important in the original debt strategy, but neither was forthcoming in sufficient amounts, despite considerable differences among debtor countries.

The coming year is likely to be one of major decisions as several debtor countries face fundamental choices. Brazil, which suspended interest payments on the bulk of its external debt in February, has to decide how to resume service. Mexico has to decide on the shape of basic national policies once a successor to President Miguel de la Madrid is announced in the fall of 1987. Argentina has to decide whether it should further intensify its effort at economic reform after two years of slow economic growth associated with the struggle against inflation and a growing budget deficit.

A scenario of a gradual economic "Albanianization" or autarky is conceivable if more highly indebted countries pursue unilateral defaults as have a few of the smaller debtors in Latin America and elsewhere. Following this path means that their economies would gradually become disconnected from the international financial system; credit would be difficult if not impossible to obtain, and foreign trade would be reduced to bare essentials. While the largest debtors—including Brazil, Mexico, Argentina, Venezuela and the Philippines—are quite unlikely to take this step, the creditors’ financial systems are put under increasing strain with each default, manageable perhaps, but very costly in terms of eventual write-offs of loans and ensuing higher domestic credit costs.