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Balance of Payments and External Debt

Peru's balance of payments has been an almost constant problem since the early 1970s, or rather two kinds of problems alternating with each other. The most frequent difficulty is that the deficit on current account--the deficit for current trade and services--has increased too fast to be financed by feasible borrowing abroad. This situation is the common meaning of a "foreign exchange crisis," and it has been a recurring problem in Peru. The opposite kind of difficulty is that it has been too easy to borrow abroad in some periods in which fiscal restraint plus currency devaluation might have served both to improve the current account and promote steadier growth. In certain periods, especially 1972-75 and 1980-83, the government has been able to borrow so much abroad that the plentiful supply of foreign exchange has reduced pressures to take such corrective action. External credit can be so tight that its scarcity cripples production or so abundant that it encourages waste and discourages desirable policy change.

Peru's current account deficits and external borrowing to finance them were safely low fractions of GDP for the 1960s as a whole. For both 1971 and 1972, the deficits were barely 1 percent of GDP. But in the next several years, the rising fiscal deficits of the military government spilled over into generalized excess demand and the highest current account deficits Peru had ever known. The deficit in 1975, at over US$1.5 billion, far exceeded the previous peak of US$282 million in 1967. It was equal to a record 10 percent of GDP. Peru's external debt correspondingly rose well beyond any level known before, pointing the way to the rocky road ahead.

The deep deficits on current account in 1974 and 1975 and their financing were examples of the second kind of problem mentioned earlier. Peru had fallen into rising fiscal deficits and currency overvaluation, but pressures to take corrective action were forestalled because the government could borrow readily abroad and avoid changing its policies. By 1975 the disequilibrium was so great that foreign creditors began to back off, creating a foreign-exchange crisis that forced the government to take corrective action. Fiscal and monetary restraints and devaluation were finally adopted. These measures plus good luck with export prices gradually cut down the external deficits and achieved a significant surplus on current account by 1979.

The new civilian government of President Belaúnde started in 1980 with a very small external deficit and promptly turned it into a very large one. Rapidly rising spending plus temporary import liberalization raised the current account deficit from US$101 million in 1980 to over US$1.7 billion in 1981. Once again, the government's ability to borrow abroad, restored by the austerity of the late 1970s, proved to be costly to the country by permitting continued excess spending and currency overvaluation.

The Belaúnde administration was forced to adopt more restrained spending policies in its later years, slowing the economy but bringing the current account deficit down again. It left the García government with a small surplus by 1985. Then the seemingly inexorable cycle went right back into action: the García government plunged into an expansion program that temporarily revived the economy but raised demand too fast for external balance. The surplus of 1985 was replaced by deficits in the range of US$1 billion to US$1.5 billion from 1986 through 1988. In 1989 the combination of internal disruption and a brief attempt to restrain demand brought down production and imports so sharply that the current account moved back into surplus. The surplus clearly reflected a severe setback to the economy, rather than an achievement based on macroeconomic balance and rising exports.

The external borrowing in these repeated periods of high current account deficits naturally created a high level of external debt. External borrowing is normal for a developing country and can help increase the rate of economic growth by providing additional resources for investment. But the crucial questions concern degrees of borrowing and the country's ability to finance debt service out of its gains in productive capacity. In the periods described, Peru borrowed very heavily and was unable to make much headway in its capacity to finance imports plus debt service out of its export earnings. That combination led to major arrears in making scheduled debt-service payments.

Total long-term debt of the public and private sectors combined was estimated by the World Bank (see Glossary) at US$2.7 billion at the end of 1970 and US$13.9 billion at the end of 1988. At the latter level, it was equal to 56 percent of GDP. Peruvian estimates, including short-term debt as well, show totals of US$18.1 billion for 1988 and US$19.8 billion for 1989. The great increase in long-term debt between 1970 and 1988 resulted almost entirely from borrowing by the public sector. The public sector's long-term debt was equal to 12 percent of GDP in 1970 but 50 percent of GDP by 1988.

Actual payments of debt service have not been high proportions of exports or of GDP because both the Belaúnde government in its last years and the García government stopped trying to keep up with scheduled payments. Debt service had run at 2 percent of GDP and 12 percent of exports in 1970, when payments were being made on schedule, but they were only 1 percent of GDP and 8 percent of exports despite the much larger debt in 1988. Using the average rate of interest on Peruvian public debt in 1988 (7.6 percent), interest payments due would have been US$948 million; actual interest payments were US$164 million.

The Belaúnde government let scheduled debt payments slide by as quietly as possible. But President García converted the problem into a worldwide challenge to the creditor countries. In his inaugural address of July 1985, he declared that his obligations to the welfare of Peru came ahead of financial obligations to foreign creditors and announced that Peru would not allocate more than 10 percent of its export earnings to debt service. The International Monetary Fund (IMF--see Glossary) and the World Bank continued for some time to encourage multilateral negotiations instead of this unilateral limit, but when García persisted the IMF declared Peru to be ineligible for new credit.

The Fujimori government emphatically rejected García's position and requested renewed negotiations with external creditors. The government's willingness to negotiate and its accompanying programs of economic reform led the international financial agencies to resume discussions. Although the United States-led Support Group (Grupo de Apoyo) of nations failed to come up with the US$1.3 billion that Peru needed to clear its arrears with multilaterals, the IMF nevertheless decided in September 1991 to lend Peru the money to clear its arrears and then start new adjustment lending. This crucial step toward more normal relationships with the international financial and development agencies was once more put into question in April 1992, when the Fujimori government suspended democracy in Peru and the international agencies responded by suspending negotiations on external credit.

Data as of September 1992

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