APRIL 1980 - VOLUME 1 - NUMBER 3
Future Bright for Lending
An interview with Irving Friedman
This month, Multinational Monitor spoke with two leading experts on international finance and Third World development. Their sharply divergent views reflect the wide range of opinions amongst bankers, economists and political figures on the current condition of world financial markets, the role of commercial credit in developing countries, and future prospects for development finance.
Irving Friedman, now a consultant with First Boston Corporation, is a forceful proponent of commercial bank lending to the Third World. His 35-year career includes service in the U.S. Treasury Department, the World Bank and International Monetary Fund, and, for the last six years, private banking. While a senior vice-president at Citibank, Friedman became best known for his role in negotiating controversial agreements to resolve debt crises facing Peru and Zaire. His globetrotting exploits prompted one U.S. magazine to label him the "Henry Kissinger of international finance." Friedman stressed that his views should be taken as those of an individual, reflecting his experience in public and private finance, rather than as a representative of any particular institution.
Michael Hudson, author of several books on international economics, spent six years as balance of payments economist with Chase Manhattan Bank. He has also worked with Arthur Anderson and Co., and was senior economist with Continental Oil. For the last three years, he has served as a research fellow at the United Nations Institute for Training and Research, where he developed a proposal to restructure Third World debt to be presented at the United Nations in May.
What follows are excerpts from, our conversations with Friedman and Hudson. The interviews should not be considered a debate, since neither man was asked to respond directly to arguments made by the other.
MULTINATIONAL MONITOR: A number of bankers and economists are expressing doubts about the ability, of private banks to continue to play a primary role in lending to the Third World. Kevin Parkenham of Amex Bank has said: "1980 will present new and more testing problems-greater than even 1974 and 1975. " Will international finance in the eighties differ fundamentally from the lending patterns of the seventies?
IRVING FRIEDMAN: My view would start from a different end of the telescope. Developing countries need a substantial inflow of external capital, and I see this need continuing in the 1980s. In nominal terms 1 see the figures getting larger rather than smaller.
The developing countries are creating more and more absorptive capacity to use development finance effectively-we are beginning to see the fruits of 20 to 30 years of activity. These countries still have very strong needs to maintain high rates of social and economic development-growth in the very broad sense of the word. I see more and more that when all is said and done, developing countries will continue to borrow from the commercial banks as they look at the tradeoff between domestic growth and social development and the burden of servicing increases in their external debt.
MONITOR: Can you define more precisely this concept of social development? Is there a harmony of interests between bank loans to promote export-oriented industries and social development?
FRIEDMAN: In the seventies, there was a growing awareness that progress in a developing country cannot be measured only by economic indicators. We must also use social indicators-what's happening to literacy, lifespans, and income distribution. These social indicators are just as important as economic indicators and the two are not unrelated. Unless you have economic growth, unless your productive capacity is increasing, you are not going to be able to deal with those social questions.
Now, when the commercial banks lend to a developing country they don't make this distinction. 'They don't lend for economic purposes or for social purposes. They lend to a specific borrower for a specific purpose. Even though the banks lend for specific purposes, the general development of the economy is facilitated. When you increase the foreign exchange holdings of a country, you enable that country to carry on its economic and social development plans.
MONITOR: Why don't we discuss a specific project, then. The Inga-Shaba transmission line in Zaire accounts for about 25 percent of all private loans to that debt-ridden country. It has proven a complete failure ....
FRIEDMAN: You'll have to excuse me from the Inga-Shaba thing. That happened considerably before I came to Citibank. I don't feel particularly qualified to discuss it. .. I'll be glad to discuss the more general question of Zaire.
MONITOR: Only 2 percent of all private bank loans to Zaire went into agriculture, while the air transportation sector received loans of more than $400 million. A recent World Bank report was sharply critical of the developmental impact of international banks in the country. Have private bank loans promoted an inappropriate development strategy for Zaire?
FRIEDMAN: It's pretty hard to know how to start to answer that question. The development strategy of a country is essentially something that the government of a country is in charge of; private banks are not in charge of general development strategies. Private banks are there in the particular parts of a development program making judgments about the individual usage of loans, and the overall capacity of a country to service its external debt.
MONITOR: But given that private banks in the last five years have provided two-thirds of all external finance for the Third World, and given that any bank's decision on financing a specific project is linked to its view of the general strategies being implemented, isn't it difficult to see the banks as passive actors?
FRIEDMAN: Yes. If I understand your point correctly, the private lender does tend to have a view as to what it considers good economic management. And part of that view is influenced by the development policies of a country. Private banks by and large feel more comfortable with countries that are promoting exports, trying to earn more foreign exchange, diversifying their exports by commodities and markets, etc. In that sense, that is something intimately related to the development' strategy of a country. The borrowing country, knowing the concerns of the lending banks, probably does take them into account when it makes economic policy.
But there is usually not a sharp difference between what a country wants to do and what the banks see as good economic management. I don't know any developing country that doesn't want to increase its earning capacity, increase output, and hold down inflation. In this respect it is very important to point out that the lending institution is apolitical. It's not political. It lends to Poland, Peru, Yugoslavia, Brazil, Chile, Malaysia. This is profoundly important.
MONITOR: You've said that the banks are apolitical. Is it possible, though, for the banks, on a day to day basis, to avoid becoming involved in what are essentially political questions. Take the refinancing scheme in Peru during 1976-77. It was widely reported that the banks took a responsive view of the situation because they feared that if the country defaulted, there would be a coup by the left portion of the military. When a bank has to make a decision like that, how is it possible to say the banks are apolitical?
FRIEDMAN: What you're saying about the attitude of bankers towards Peru, I think, is utterly wrong.
MONITOR: Barbara Stallings, in a major article a few years ago, quoted one banker as saying. the main reason for the loan "was to perpetuate Morales Bermudez in power." *
FRIEDMAN: Well, it's not for me to say she misquoted anybody. I'd rather talk about my experience and this question of debt repayment and restructuring, because it helps explain what I mean by being non-political.
Banks cannot lend as private institutions except on the assumption that they are going to be paid fully and on time. Therefore a bank inevitably places a great deal of emphasis on whether or not a borrower has and is fully and properly servicing its debt. If a country ceases servicing its debt fully and promptly, its creditworthiness suffers.
Now, when a bank is making a judgment as to whether or not it will extend a new loan, it looks to the economic management of a country. The are very objective, very easy inflation, the money supply, exchange rates, these are all considered. And when these indicators give you reason to believe that a country is not under good economic management, you have to express your concern about outstanding loans and new borrowings. Now, in my opinion, to have a view as to whether or not the combination of economic, social, and political conditions are favorable or unfavorable to debt servicing, is not to be political. I've never accepted that we were political in Peru. We weren't political in Peru. If some people want to allege that we were, that's interesting, but the fact is we weren't.
MONITOR: Let's move to some more economic questions. In the event of immediate repayment problems, critics are suggesting that stabilization policies supported by the banks and the IMF concentrate too much on simply repaying the debt, and that too often short-term shock treatments are applied when long-term restructuring is called for. Is there a need to reevaluate stabilization programs as they Pare currently being implemented?
FRIEDMAN: To start with, I think we can agree that what's common in all this is that when a country has gotten into difficulty, either something happened within the country or something happened externally. In most cases the countries are in difficulty either because of political, economic, or social mismanagement by themselves. The problems are not created for them.
No the appropriate policies for getting out of those difficulties, that's in the hands of the government itself. Banks don't tell governments how to solve these problems.
MONITOR: Well, in your opinion, how effective have IMF-supported adjustment policies been? Are they the most appropriate policies for long-term adjustment?
FRIEDMAN: I don't know how to answer that question. It's really much too unrealistic. The people in a country working on its problems, and the Fund people assisting the country, are all well aware of the country's developmental objectives.
MONITOR: The Brandt Commission feels that the typical policies of the Fund don't even achieve their short-term goals. According to its recent report, the Fund's stabilization programs often "reduce domestic consumption without improving investment, productive capacity sometimes falls even more sharply than consumption . . . Indeed, the Fund's insistence on drastic measures . . . has tended to impose unnecessary and unacceptable burdens on the poorest. . . "
FRIEDMAN: The Fund has been reexamining its conditionality, as you undoubtedly know. As I understand it, they now have the mandate to be more flexible in dealing with different kinds of conditions in various countries.
No one is unaware of the social needs of a country and no one is unsympathetic. But you can't forget that every institution has its own limited objectives. The Fund was not established to advise the world on everything or to run the world. Its area is monetary, its area is confined to balance of payments management, inflation, the budget. It has no mandate to be concerned with social problems.
MONITOR: But hasn't the power of the Fund evolved to such a point where its attitudes and policies have a very real impact on the social conditions in a country?
FRIEDMAN: Private banks aren't looking to the Fund to pass judgments on the social policies of a country. Banks look to the Fund to determine whether a country will be in a better position after adopting certain measures with its balance of payments, and to avoid interruptions in international payments. This, after all, is the purpose of the Fund. Nobody expects the Fund to say anything about the social and political conditions of a country.
MONITOR: Let's talk about the attitudes of private banks. Will splits develop between the major international banks during repayment crises, or will the banks continue to speak with one voice? There are numerous examples of banks with less exposure in a country taking a different view toward refinancing vs. restructuring than banks with a major stake. Zaire is a good example of that.
FRIEDMAN: I hope this is not oversimplifying things, but in the case of Zaire, my general attitude was that it was so important for a country which had lost its creditworthiness to try to reestablish it, that this had to be the aim of any program. We were going to try to come up with loans of $200 million or more for Zaire. If Zaire could take the needed steps to reestablish its creditworthiness, that would have been a big plus. However, the country wasn't able to create an economic program that lasted long enough to get the endorsement of the IMF.
Generally, when countries are in severe balance of payment difficulties, the banks should be willing to consider rescheduling, on the universal precondition that the rescheduling be based on some prior economic management change which has been endorsed by the IMF. Given that set of preconditions, banks should consider restructuring. However, it should also be remembered that restructuring weakens the creditworthiness of a country.
MONITOR: How do you see Zaire's future over the next four or five years?
FRIEDMAN: My view on Zaire has never been a short-run view. I have never been optimistic or pessimistic about whether a short-run management program could be implemented. Now, because you're considering one of the richest areas of the world in terms of natural resources, my long-run view is quite optimistic. However, that is not a comment on the political structure, the political system or the political leadership, which I consider short-run factors.
MONITOR: Is your long-term view one with Mobutu as president? I think at this point it's difficult to distinguish between the political structures of the country and its economic condition, given the unparalleled levels of corruption. Is it possible to get sound economic management under Mobutu?
FRIEDMAN: Sure, I think it's possible. But I'm not making any predictions.
MONITOR: The World Bank has concluded that the only way to get Zaire back on the track is to arrange a rescheduling of up to 30 years.
FRIEDMAN: Are you talking about public or private debt?
MONITOR: The report didn't distinguish between the two.
FRIEDMAN: Then I don't know how to answer that question. I would never have made that statement, so I don't want to get involved with it. I make a very sharp distinction between public and private debt, because I regard how you treat public debt as part of foreign aid policy. That's a broad statement, and for instance the Ex-Im Bank might feel that what it's doing really isn't foreign aid. Generally speaking, however, I feel public debt is always subject to treatment as foreign aid.
MONITOR: A number of officials in the U.S. government disagree with this interpretation of public credit as foreign aid. They stress the idea of comparability-the idea that private loans shouldn't be rescheduled at terms less generous than public credit. Anything less, they argue, represents a government bailout of the banks. Do you think your interpretation of public credit as foreign aid will come under attack?
FRIEDMAN: Governments don't reschedule private credits, private banks do. It's obviously very interesting to have the views of people in public life about the ways in which private banks ought to be run. But as far as I understand it, private banks set their own policies, which reflect their responsibilities as private institutions.
*See Barbara Stallings, "Privatization and the Public Debt: U.S. Banks in Peru," NACLA Report, July; August, 1978.