Developing Country Debt and Globalisation
This chapter considers the relationship between developing country external debt and the integration of world markets in the 1980s and 1990s (‘globalisation’). Governments, companies, other institutions, and individuals contract debt, and it is a major confusion to refer to the debt of ‘countries’. Perhaps the defining characteristic of an external debt is that the contracting party is not, in general, the party upon whom the burden for repayment falls. In general, governments and the wealthy in developing countries contract the debt, while it is the mass of the non-wealthy population that bears the burden of its repayment. This is especially the case during periods of financial crisis.
DOMESTIC AND EXTERNAL DEBT
External debt has a long history, but was incidental to the world economy prior to the capitalist epoch. One of the first major external borrowings involving developing countries was by Latin American governments in the mid-nineteenth century. For the most part, the purpose of these loans was to finance infrastructure development, such as railroads and ports, in order to facilitate trade with the emerging capitalist powers. Among others, the Peruvian government defaulted on outstanding loans. The defaults did not result in a suspension of lending, for again in the early twentieth century Latin American governments sought loans, which private banks in the capitalist countries were eager to extend. During the Great Depression of the 1930s and during the Second World War there were further defaults, most notably by Mexico. These defaults did not result in suspension of lending for two major reasons. First, developed country banks served as intermediaries for loans of the 1920s, rather than as direct lenders. That is, they sold the Latin American debt on the bond market, thus incurring no risk of default themselves. Second, after the Second World War moderate to rapid growth in several Latin American countries ensured the creditworthiness of the borrowing governments.
This chapter deals with developing country debt after the Second World War, and one can distinguish three periods. From 1945 until the oil crisis of 1973–74, lending to developing countries was almost exclusively to governments, from the international financial institutions, the International Monetary Fund and the World Bank. During the rest of the 1970s, the governments of underdeveloped countries in which capitalism was more highly developed, and those with considerable mineral wealth, borrowed directly from the commercial banks of the advanced capitalist countries, which gave rise to the so-called debt crisis of the early 1980s. The remainder of the 1980s was characterised by the intense efforts of the commercial banks, aided by the governments of their home countries and the international financial institutions, to recover as much of the outstanding debt as possible. During the 1980s a new phenomenon emerged, which reached major proportions in the 1990s, namely private companies and banks in developing countries borrowing directly from commercial banks in the advanced capitalist countries.
This chapter focuses on this third period, which was the result of deregulation of currency markets in developing countries. To understand why there were these three periods requires consideration of the dynamics of capital and the nature of underdevelopment. Capital is a social relation in which money is advanced with the purpose of generating more money. That is, capital is not money, commodities or means of production, but takes the form of all of these in its cycle of reproduction.
Capitalist trade among countries involves either the purchase of raw materials and intermediate products from underdeveloped countries (conversion of money capital into commodity capital), the purchase of final products from those countries for resale in the capitalist countries at a profit derived from control of supply (market power), or the sale in underdeveloped countries of commodities produced in advanced capitalist countries (conversion of commodity capital into money capital). The sale of commodities can also lead to the export of commodity capital. When companies based in advanced capitalist countries establish production facilities in underdeveloped countries, productive capital is exported. If financial capitalists make loans to governments or companies in underdeveloped countries, this involves the export of money capital. In effect, this introduces an additional step into the circuit.
Therefore, loans to governments, companies, and individuals in other countries involve the export of money capital. This export of money capital differs from loans within a country in important ways. Most generally, it involves two currencies, the currency of the lender and the currency of the borrower. The revenue of the borrower, which will be used to repay the loan, will come partly or wholly in the currency of the country in which the borrower is located. In the case of a government borrower, the revenue will derive from taxes, and for a private borrower from domestic and foreign sales. In order to repay, the domestic currency must be converted to the currency of the lender.
The ‘external’ character of the debt (involving at least two currencies) means that while a domestic borrower faces the problem of generating enough revenue to repay the debt, the external borrower must do this, and must also be able to convert his/her national currency into the currency of the borrower. The differences between domestic and external debt are summarised in Table 13.1. These differences arise from the apparently simple issue of conversion of the borrower’s currency into the lender’s. Following Marx’s analysis, one sees that the problems of repayment of external debt represent an extreme example of the problems arising from money’s use as means of carrying out exchange (means of exchange) and as means of cancellation of a debt (means of payment).
A debt is contracted at a given amount by a promise to pay at some future date. When the principal of the debt falls due; the value of the contracted amount may have changed. This can occur within an economy due to falling or rising prices, but the intervention of a currency exchange dramatically increases the probability that the value of the debt at the point of repayment will be different from the value when it was contracted. Formally, the difference often results from change in the exchange rate, which can be provoked by a range of causes: changes in export and import prices, capital flight from the debtor country, or the infamous ‘loss of market confidence’.
The difficulties in repayment are increased if governments guarantee the external debt of the private sector. Prior to the 1980s, governments of developing countries typically restricted the convertibility of their currencies; for example, they required all foreign exchange earned by the private sector to be deposited into the central bank, and conversion to foreign currencies required government approval. In such circumstances, private sector external debt was small or non-existent, as governments gave explicit guarantees to the lender to pay the debt should the private sector fail to do so. Once governments deregulated currency trading, guarantees of private sector external debt were no longer necessary, since companies and banks had free access to foreign exchange. In principle, free convertibility eliminates the difference between domestic and external debt, and the consequence of any nonpayment by the private sector should be bankruptcy according to the rules of markets.
However, in practice, private sector failure to service external debt, even with free convertibility, led to ex post facto government guarantee of that debt. Perhaps the most infamous case of this occurred in Chile in the 1980s. Following sound market logic, the Chilean dictator Augusto Pinochet announced in 1982 that his government would not assume responsibility for foreign debts contracted by the private sector. However, within days pressure from banks in the United States, conveyed via the US government, forced the dictator to reverse his stand, provoking the particular form of Chile’s debt crisis, namely an inability of the government to service the debt without a dramatic contraction of the Chilean economy. This contraction was required in order to generate trade surpluses for debt service.
In summary, governments acquire external debt for the purpose of public sector investment or to cover deficits in the balance of payments (usually trade deficits). Prior to the 1970s, governments contracted these debts with the international financial institutions. In the 1970s, external debt remained largely that of governments, contracted with private commercial banks. With the deregulation of currency markets in the 1980s and 1990s, the door opened for private sector external debt and associated financial crises.
PATTERN OF DEVELOPING COUNTRY DEBT
In the 1990s progressives vigorously took up the call to cancel developing country debt. Almost without exception, the call was for the cancellation of ‘official’ debt; that is, debt owed to the governments of advanced capitalist countries and the international financial institutions. Those holding this position frequently based their advocacy on the following arguments: (a) that underdeveloped countries, especially the poorest, suffered from high indebtedness; and (b) that cancellation of debt would have a substantial impact on the growth potential of the indebted countries. While an argument can be made for the cancellation of the official debts of the poorest countries, both of these arguments were wrong. Most heavily indebted countries in terms of absolute debt were the middle-income countries, in Latin America and Asia, not the poorest countries. And for the poorest countries, debt cancellation would have a minor impact on growth. From the perspective of the capitalist world market, the importance of external debt lay in its close relationship to financial crisis, rather than to the debt burden itself.
Figure 13.1 shows the total debt and private sector debt of developing countries, and Figure 13.2 disaggregates the total debt by region. In both charts debt was divided by the US GDP deflator to adjust for inflation. These two charts demonstrate the points made above. Since 1970, total debt of underdeveloped countries has grown at a relatively constant rate, except for the 1980s, when it was virtually constant. In contrast, private sector debt was quite small until the end of the 1980s, after which it grew at an extraordinary rate of over 20 per cent per year (see Table 13.2). The only decade of rapid growth of public debt was the 1970s, when governments borrowed to cover balance-of-payments deficits that resulted form the petroleum price increase of 1973–74 and 1979. During the 1990s, when private sector debt boomed, growth of public debt was well below the rate of increase of both national income and exports; i.e. in most countries the relative burden of public debt declined. Figure 13.2 shows that for three regions, the Middle East and North Africa (ME&NA), South Asia (So Asia), and Africa south of the Sahara (SSA), the increase of total debt was quite slow after 1980. For Latin America, debt increased in the 1980s as a result of borrowing to cover balance-of-payments deficits, then, after holding constant for a decade, grew rapidly in the 1990s. For East Asia and the Pacific (which includes the South East Asian countries), there was a long increase to the end of the 1980s, after which growth was more rapid than before. China, with 20 per cent of the world’s population, shows a similar pattern, beginning from near zero in the early 1980s and rising to over US$100 billion in 1995 prices.
The reason for the different growth trends is revealed in Figure 13.3, which shows private sector debt by region. For the three regions with slow growth of total debt, private sector debt is tiny. But for Latin America and East Asia, private sector debt exploded in the 1990s. This phenomenal increase, 24 per cent per year for Latin America and 21 per cent for East Asia, was the direct result of the deregulation of currency markets, which allowed private companies to borrow directly from international commercial banks. Companies were motivated to do this because borrowing costs in the advanced capitalist countries were generally lower than in the local capital markets.
Thus, with regard to external debt, one can identify three broad categories of countries. First, there are the low-income countries in which the development of capitalist production is incipient at best. These countries, most of them lying south of the Sahara, along with a few in Asia and the poorest of the Latin American countries, carry an official debt burden. With a few exceptions, this debt burden is relatively low. That many of these countries cannot service their debts reflects a general problem of national development, of which debt is a symptom rather than a cause. For another, smaller group of countries, debt burdens are low because the governments in question have not liberalised currency and capital markets, or only partially. In this group are most of the countries of the Middle East, China, and India. Third, there are the liberalised middle-income countries of Latin America, East Asia and South East Asia. These countries, along with several of the countries in transition from central planning (not covered in this chapter), have, as a result of their governments’ policies, accumulated large private sector debts.
A major difference between the Latin American countries and those of East and South East Asia is that because the latter grew so much more rapidly during 1980–97, their debt service burden declined, while that of Latin America grew in the 1990s (see Figure 13.4). However, if prior to deregulation of markets a falling debt service burden implied less vulnerability to a debt-provoked crisis, that was no longer the case in the ‘globalised’ 1990s. Despite a falling debt burden for most of the East and South East Asian countries, the financial crisis of 1997 struck the region with virulence. This was essentially a crisis of deregulation; since national policies of deregulation are the basis of ‘globalisation’, this crisis could correctly be called a crisis provoked by ‘globalisation’.
Based on our analytical discussion and review of the pattern of developing country debt, we can provide a schematic summary of the relationship between external debt and financial crisis. Deregulation of markets creates the possibility of a financial crisis. In the absence of deregulation, countries would not be crisis-free, but their crises would be of a different nature. The deregulation of markets
results in the accumulation of private sector external debt, so that the form of the crisis will be excessive debt accumulation. The proximate cause of the crisis, or ‘trigger’, might be a range of otherwise mundane events, such as a decline in the country’s terms of trade, transitory political instability, or the perception by international currency dealers that the country would be vulnerable to a speculative attack. Once the crisis hits, the neoliberal policy orthodoxy will ensure that it passes form the financial sector to the entire economy, through imposition of high interest rates and reductions in public sector expenditure. If the government has the political independence to reject the neoliberal orthodoxy and reregulate, the crisis may be painful, but not disastrous, as in Malaysia between 1997 and 1999. If the government zealously embraces the neoliberal policy package of austerity, the result will be disastrous (Indonesia after 1997) or even catastrophic (Argentina in 2001–02).
THE BURDEN OF REPAYMENT
In the ‘globalised’ 1990s financial crises leading to general economic crises resulted from debt accumulation of the private sector, such that banks and companies faced bankruptcy on a massive scale. However, these are rarely, if ever, the victims that must bear the burden of the disaster. That role is invariably reserved for the urban and rural working class, the poor peasants, and, to a lesser degree the middle class.
Indonesia between 1997 and 2001 provided an extreme, though representative, example of the relative and absolute impact of economic crisis. The speculative run on the rupiah in mid-1997 resulted in a massive and uncontrolled devaluation. Because Indonesian banks and companies had accumulated large external debts, every decline of the rupiah increased the domestic currency cost of debt service. By the time the rupiah had risen from 2,500 to over 10,000 to the dollar, the entire medium- and large-scale manufacturing sector, and the entire banking system, was bankrupt. The government’s agreement to a series of IMF programmes aggravated bankruptcy. A major element in this process was the use of the domestic interest rate to attract capital from abroad and stabilise the currency. The practical effect of raising interest rates (to over 70 per cent) was to add a rising domestic debt cost to the external debt burden of the private sector.
With the private sector on the verge of total collapse, the government nationalised the entire banking sector and close to half of large-scale manufacturing. Far from using these nationalisations as a vehicle to maintain employment levels and reassert control over the financial system, the government set about a massive bailout. The collapse of the financial system implied that banks would not honour deposits, the vast majority of which were held by wealthy Indonesians. Further, loans to the manufacturing sector represented a substantial portion of the non-deposit assets of the banks. The collapse of large-scale manufacturing rendered these assets worthless. Under a so-called recapitalisation programme, the government issued public sector bonds to the nationalised banks with the purpose of entirely replacing the value of deposits and nonperforming loans. The government estimated in 1999 that the bond issue would reach US$75 billion, making it, in proportion to Indonesia’s national income, the largest financial bailout ever recorded. The annual interest on these bonds would by 2001 consume almost 40 per cent of the government budget and be over ten times the expenditure on health and education. To this flagrant transfer of resources to the rich was added the privatisation of the banks and manufacturing firms at ‘fire sale’ prices, in some case to the pre-crisis owners. Once the banks were privatised, the interest on the bonds would accrue to their private owners. Thus, through the tax and expenditure system, there would be built into the Indonesian economy a long-run transfer of income from the poor, the working class and the middle classes to the rich. The Indonesian crisis carried a profound message: it is the institutions and dynamics of capitalist society that generate crises, and the masses of the population that bear its cost.
DEBT AND CAPITALIST INSTABILITY
Debt in and of itself is not a problem for governments. Just as private corporations borrow to finance investments, so a government may borrow to foster modernisation and development. It becomes a problem in the context of the circuit of capital and the institutional arrangements that regulate capital. The international debt crisis of the 1980s resulted from the accumulation of public debt, compounded by the shifting of the burden of private sector debt repayment to governments.
In the 1990s the deregulation of money capital flows by governments throughout the world resulted in a rapid accumulation of debt held by private companies and banks in underdeveloped countries. This debt accumulation created the possibility of crises considerably more severe than those of the 1980s, realised in South East and East Asia in 1997–98, and Argentina in 2001–02. The greater severity resulted from the adoption by governments of unrestricted convertibility of domestic currencies into foreign currencies. In an important sense, the growing private sector debt was but the tip of the iceberg of potential instability. If currencies can be converted without restriction, then the entire money supply of a country becomes ‘external debt’, in that it can be converted at will and sent abroad as capital flight.
Unrestricted convertibility creates an international financial market continuously on the verge of a speculative dementia, holding out the promise to capital of unlimited profit without engaging in the time-consuming process of production. Marx wrote of the capitalist the pipe dream of profits without the annoyance of marshalling, supervising and disciplining workers, and without the need to satisfy the demands of consumers. The realisation of that dream is the systemic instability of capitalism.
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