(UNTITLED)

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP84-00898R000100050006-5
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 34
• Document Creation Date: January 12, 2017
• Document Release Date: July 11, 2011
• Sequence Number: 6
• Publication Date: February 4, 1983
• Content Type: REPORT

International
Economic & Energy
Weekly
4 February 1983
DI IEEW 83-005
4 February 1983
copy 0854
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International
Economic & Energy
Weekly
4 February 1983
iii Synopsis
Secret
4 February 1983
1 Perspective-South American Debt Problems Spreading
3 Briefs Energy
International Trade, Technology, and Finance
National Developments
19 Japan: Fiscal Constraints on Industrial Policy
23 Japan: Evolving Policy Toward the Third World
27 West German Arms Sales: Policies and Prospects
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Comments and queries regarding this publication are welcome. They may be
directed to Directorate of Intelligence,
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International
Economic & Energy
Weekly
Synopsis
Perspective-South American Debt Problems Spreading 25X1
New lending to South America continues to slow, jeopardizing the region's
ability to service its $210 billion foreign debt, about 30 percent of the LDC to-
tal. South American borrowers are increasingly tempted to resort to extreme
actions to resolve their financial problems.
Quito started negotiations with its creditor banks in late 1982 when it became
apparent that it could not cope with mounting debt strains. Final approval of
recent tentative agreements to refinance $5.6 billion of public debt is
contingent upon the outcome of ongoing negotiations with the IMF.
Japan: Fiscal Constraints on Industrial Policy F___1 25X1
Tokyo's concern over its mounting fiscal deficit will constrain industrial policy
related expenditures in FY 1983. MITI has partially compensated for the tight
budget by increasing funds available through various government lending
institutions.
Japan: Evolving Policy Toward the Third World F___1 25X1
Foreign aid, particularly to strategically important Third World countries, has
increased rapidly since the mid-1970s. We expect this trend to continue under
Prime Minister Nakasone, although budget problems will slow the increase in
aid commitments.
West German Arms Sales: Policies and Prospects 25X1
West Germany, the world's fifth leading arms supplier, is likely to encourage
more arms sales to strengthen the domestic economy and its national defense.
Nevertheless, we believe West Germany will have difficulty holding its market
share over the next several years
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International
Economic & Energy
Weekly (u)
4 February 1983
Perspective South American Debt Problems Spreading
New lending to South America continues to slow, jeopardizing the region's
ability to service its $210 billion foreign debt, about 30 percent of the LDC to-
tal. Smaller foreign banks are refusing loan requests outright, demanding
repayment of maturing loans, and reducing short-term credit commitments.
Brazil's current financial bind illustrates the severe impact of the lending
slowdown. Since late December, a steady rise in requests for repayment of
maturing short-term loans has caused Brazilian banks difficulty in meeting
daily foreign exchange requirements. Creditors' failure to restore short-term
credit lines are now jeopardizing the success of Brazil's balance-of-payments
financing plan for 1983 and the finanical position of Brazilian institutions
operating in overseas markets. The Bank of Brazil could face bankruptcy,
probably forcing Brasilia to declare a temporary moratorium on all debt
repayments. Such a declaration probably would lead to a temporary cessation
of all foreign lending, thereby forcing larger-than-anticipated import cutbacks
Even if Brazil meets scheduled payments, its publicized financial problems will
heighten banker perceptions of risk for the region. Chile and Venezuela are
now encountering debt problems while Peru is vulnerable to another credit
.contraction; Argentina already is rescheduling.
? Santiago had to begin talks in late January to reschedule $4.8 billion in
maturing foreign debt. It also hoped to convince creditors to resume new
lending-halted after a recent financial dispute with the government-but
their unwillingness to do so caused Santiago to declare a 90-day moratorium
on debt repayments last weekend.
? Venezuela is in financial trouble because of a loss of banker confidence;
mounting arrearages over the past month have undermined the government's
plans to refinance maturing short-term public debt.
? Argentina remains vulnerable to another credit contraction because of its
need to arrange new financing and to roll over maturing debts. Smaller US
banks, increasingly concerned about political developments in the country,
are not lending except in the rescheduling package.
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? Peru is also encountering difficulty in obtaining longer term credits, despite
its willingness to pay higher rates. With limited financial maneuvering room,
Peru may join neighboring Bolivia and Ecuador in debt-restructuring talks.
Debt problems are forcing economic retrenchment throughout South America.
Argentina, Brazil, Chile, and Peru-accounting for 85 percent of regional
GNP-are undertaking IMF stabilization programs this year. South Ameri-
can intraregional trade and payments links will exaggerate the effect of these
austerity programs. In 1981, for example, Brazil and Argentina each sold
about 20 percent of their exports to other South American countries and
purchased about 15 percent of their imports from them. Bolivia, Paraguay,
and Uruguay probably will find it increasingly difficult to meet debt payments
and import bills because of their heavy dependence on sales to their troubled
neighbors.
Latin debt problems will hinder global recovery. Cutbacks in imports and
tighter exchange controls will increasingly restrict developed countries' exports
to the region, hamper the repatriation of profits, and slow overall recovery
from the global recession. The United States will be especially hard hit. In
1982, for example, US banks had about $50 billion in outstanding loans to the
region, US manufacturers had some $20 billion in direct investments, and US
exports totaled about $17 billion.
South American debt problems have yet to precipitate a financial crisis.
Instead, Argentina and Brazil are both receiving support from major banks in
assembling necessary balance-of-payments financing plans. Ecuador is also
rescheduling maturing debts.
For the next few months, however, major banks in the United States and other
industrial countries may again be called on to provide a quick infusion of cash
to these borrowers to avert a liquidity crisis. If smaller institutions continue to
reduce their lending, debt servicing will become unmanageable.
South American borrowers are increasingly tempted to resort to drastic
measures to resolve their financial problems. In early December, Buenos Aires
unilaterally rescheduled some $5 billion. Later in the month, Brasilia an-
nounced a suspension of principal payments for January and February. Most
recently, Chile has declared a 90-day standstill on debt repayments before it
exhausted international reserves. Domestic political support is growing for
collective action by South American debtors, but Embassy
sources have yet to detect any official support for outright debt repudiation.
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Energy
1982 Soviet Oil Oil production in the USSR increased less than 1 percent in 1982 and fell
Production slightly below the official target. The USSR reported that production of oil
and gas condensate during 1982 was 613 million tons, or 12.26 million barrels
per day. This is slightly less than the planned goal of 614 million tons but a 4-
million-ton increase over 1981. Production in West Siberia reached 354
million tons, a 20-million-ton increase over 1981. Production outside West
Siberia declined by 16 million tons.
With an annual production increase of less than 1 percent for the second year
in a row, however, oil production has nearly reached a plateau. The plan for
this year calls for production of 619 million tons, or a daily rate of 12.38 mil-
lion barrels. Soviet hopes for continued production increases hinge primarily
on continued growth in West Siberia, where an increase of 18 million tons is
planned for this year. The Soviets also must reduce the annual decline in
regions outside West Siberia from 15 and 16 million tons respectively over the
past two years to the planned level of 12 million tons to meet their production
goals for this year.
Canada Approves New Canada's National Energy Board (NEB) has authorized the additional export
Natural Gas Exports of 330 billion cubic meters (bcm) of natural gas. Of the newly authorized
volumes, 265 bcm was allocated to markets in the United States with the
remaining 65 bcm set aside to support Dome Petroleum's proposal to ship
liquefied natural gas to Japan. Although the NEB's decision more than
doubles the authorized export level, it will provide less than half of the natural
gas that had been sought by US buyers for markets in the northeastern United
States. According to the NEB, the expense of expanding the pipeline from
Alberta discouraged approval of the full request. Because the NEB hearings
did not include a formal application for export of gas from Sable Island or oth-
er gasfields offshore Nova Scotia, we believe the NEB probably will authorize
additional exports to the northeastern United States at a later date. Actual gas
deliveries remain subject to approval by federal and provincial authorities in
Canada and by US regulators.
Potential Problems (cutbacks in Aramco's capital investment 25X1
in Saudi Gas Project budget could lead to major problems in Saudi Arabia's master gas system. To
complete the nonoil-associated Khuff gas project at the beginning of 1985-
one year early-Aramco has decided to eliminate sour-gas handling facilities
at the wellhead. This will reduce the $300 million cost of the program by an es-
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timated 30 percent. As now envisioned, sour gas from the Khuff formation
underlying the giant Ghawar oilfield will be piped directly into the Saudi
master gas system for treatment in existing natural gas processing centers.
Left untreated, however, the carbon dioxide and hydrogen sulfide in the gas
could eventually cause severe corrosion, requiring the costly replacement of
large sections of gas pipeline. Khuff gas is needed to offset the drop in
associated gas output as a result of projected lower levels of Saudi crude oil
production.
Planned Increase in The announcement by the United Arab Emirates that it intends to increase oil
UAE Oil Production production by one-third is another step in an apparently coordinated series of
moves by the Persian Gulf states to force other OPEC nations into line on
prices. The government justified its decision on the grounds of economic need.
There are conflicting reports about whether the nations of the Gulf Coot era-
tion Council will meet soon to consider their next move.
The UAE posted a $3.8 billion current account surplus last year, and the claim
of economic need is specious. At its current production rate of 1.2 million
barrels per day, the UAE would still earn enough this year to allow for
increased imports and a $2.7 billion surplus. Abu Dhabi would almost
certainly have to cut its oil price to sell the larger amount. The UAE's
statement lends support to press reports warning that the Arab Gulf producers
will cut prices by $4 per barrel if OPEC fails to agree soon on prices and pro-
duction quotas
Possible Saudi Oil Saudi Arabia is negotiating to sell 40,000 barrels per day of Saudi oil to Japan
Sales for Iraq on behalf of Iraq, Japanese companies believe
Saudi Arabia is planning similar arrangements with other oil importers to
make up the difference between the proposed OPEC production quota of 1.2
million b/d for Iraq and its current production of about 850,000 b/d.
Saudi Arabia is likely to view such deals as an alternative to direct cash
assistance to Iraq, which it has been reluctant to provide because of its own fi-
nancial difficulties. The contract with Japan, however, would be worth less
than $500 million to Iraq over one year. Even if Riyadh were able to sell the
350,000 barrels a day for Iraq at the $34 benchmark price, the resulting
revenue would not be enough to eliminate the need for cutting imports. The
weak world oil market, moreover, probably would dictate lower exports or
sales at lower prices.
Big Seven Electricity During the first nine months of 1982, electricity demand in the Big Seven
Consumption Falls declined 1.3 percent-about 270,000 b/d oil equivalent-primarily because of
sluggish economic growth. Electricity demand in the United States and the
United Kingdom dropped by more than 2.5 percent. In France, where
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economic growth was slightly stronger, electricity demand increased by about
3 percent. Most forecasters expect electricity demand in the Big Seven to grow
by about 3 percent in 1983 if the economic recovery materializes as expected.
11,268 MWe, already are undergoing startup and low-power testing.
Prospects for additional growth are good as 13 plants, with a capacit~of
Increase in OECD Nuclear power generation in OECD countries increased 8.3 percent in 1982
Nuclear Power Output and accounted for about 15 percent of total OECD electricity generated. Six
new reactors, with a capacity of 6,055 megawatts-electric (MWe), entered
commercial operation last year while one reactor (150 MWe) was retired.
Improved performance and the addition of new reactors boosted nuclear
electricity output in Japan and West Germany by 25 and 19 percent,
respectively. Nuclear electricity generation in Western Europe increased
nearly 10 percent. France's rapidly growing nuclear power program stalled in
1982 with no new plants entering commerical operation while several existing
plants required more extensive maintenance and repair.
OECD: Nuclear Electric Generating
Capacity and Output
Installed Capacity a
(thousand MWe, net)
Gross Electricity Generation
(billion kWh)
1981
1982
1981
1982
127.6
133.5
708.8
767.6
55.3
57.6
288.6
298.7
Western Europe
52.0
54.0
293.4
321.8
Belgium
1.7
2.6
12.8
15.6
Finland
2.2
2.2
14.5
16.5
France
20.2
20.2
105.2
108.9
Italy
1.4
1.3
2.7
6.8
Netherlands
0.5
0.5
3.7
3.9
Spain
2.0
2.0
9.4
8.8
Sweden
6.5
6.5
37.7
38.8
1.9
1.9
15.2
15.0
United Kingdom
7.0
7.0
38.9
44.1
West Germany
8.6
9.8
53.3
63.4
Japan
15.0
16.6
83.5
104.5
a Net installed capacity, excluding plants that have gone critical but
are still in startup and low-power testing.
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Ecuador To Assume Ecuador's state oil company, CEPE, has notified Texaco that it intends to
Texaco's Oil assume responsibility for all operations of the CEPE-Texaco consortium as of
Operations 1 January 1985. The original 1965 concession awarded to the then Texaco-
Gulf joint venture provided for a changeover in operators every 10 years. The
1975 changeover from Texaco to Gulf never occurred when Gulf decided
instead to sell its share of the project to CEPE. There is some question of
CEPE's legal right to become the operator, but Texaco apparently is not
planning to challenge the move. As operator, CEPE will assume all responsi-
bility for exploration, development, and construction; the agreement technical-
ly will not affect Texaco's assets or access to crude. The CEPE-Texaco venture
produces over 90 percent of Ecuador's current crude oil production of 220,000
b/d.
Thailand Begins Crude oil production began in mid-January at a Shell field in Kamphaeng
Commercial Oil Phet Province, 400 kilometers north of Bangkok. Shell expects production to
Production increase from the current rate of 5,000 b/d to 17,000 b/d by 1985; recoverable
reserves are estimated at 20-35 million barrels. The field also is producing a
small quantity of natural gas that eventually will fuel an electric power plant.
Although the Phet crude is high-gravity, low-sulfur oil, it has a high wax
content and will solidify below 350 C, necessitating complicated transportation
and refining procedures. Bangkok is buying the crude at a provisional price of
$28 a barrel while negotiations for a long-term contract continue. Although
17,000 b/d will replace less than 10 percent of Thailand's petroleum imports,
it will reduce somewhat the country's nearly $3 billion a year oil import bill.
International Trade, Technology, and Finance
East German East Germany in late January purchased 1 million tons of Canadian grain on
Purchases of the basis of two-year commercial credits guaranteed by the Canadian
Canadian Grain Government.
The sale, Canada's first major entry into the East German grain market,
undoubtedly will erode the US share, which in recent years has accounted for
roughly two-thirds of East German grain imports. Since the late 1970s, the
United States and East Germany have informally agreed to sales of 1.5 to 2.0
million tons of US grain annually. So far in the current marketing year ending
30 June, US exports have totaled approximately 400,000 tons, one-fourth to
one-fifth of estimated East German grain imports for the year. Berlin
diversified its sources of grain to obtain more favorable financing and probably
to respond to a perceived US policy of economic discrimination. In the past
year US grain traders and bankers generally have refused to grant the two-
year financing insisted upon by the East Germans.
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Morocco Receives France's recent $255 million loan and export credit to Morocco will provide
French Financial Rabat with needed foreign exchange and support for the country's deteriorat-
Assistance ing external accounts. This financial package is a strong indication that Paris
intends to remain Morocco's principal trading partner and its primary Western
source of foreign financing. The financial agreement last month followed a
French Government decision not to make additional assistance contingent on
resolution of Morocco's arrears on military purchases which again have begun
to accumulate. The signing of the accord preceded President Mitterrand's first
visit to Morocco and reflects in part growing French concern over US
influence in the region.
National Developments
Developed Countries
Limited Policy In outlining Tokyo's economic program, Jun Shiozaki-Director General of
Stimulus for the Economic Planning Agency (EPA)-indicated that the government's
Japanese Economy options for stimulating the economy are limited. With cutting the government
budget deficit a key goal of the Nakasone cabinet, Shiozaki argued that only
token fiscal stimulus, in the form of tax concessions for small business and de-
pressed industries, is possible. While there is leeway to loosen monetary policy,
Japanese authorities fear easier credit will renew downward pressure on the
yen and arouse the indignation of Japan's trading partners. A discount rate cut
planned for January was abandoned when the yen started to fall against the
dollar.
Japanese Trade Japan registered an aggregate trade surplus of $18.2 billion last year,
Surplus Falls compared with $20 billion in 1981. The surplus with the United States was
$15 billion, down from $17 billion. Exports slipped 7.9 percent in value and 3
percent in volume as the global recession and export restraints offset improve-
ments in price competitiveness because of the weak yen. The declines in motor
vehicle and consumer electronics sales were particularly sharp. Restocking of
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raw material inventories and increased imports of semimanufactures early in
the year kept import volume at roughly the 1981 level. Imports fell about 7.8
percent in value, however, mostly because of lower oil and raw material prices.
Crude oil imports, reflecting the domestic economic slowdown and conserva-
tion gains, fell by 7 percent in volume terms. A narrowing of the deficit on ser-
vices and transfers-caused in large part by an increase in investment income
from Japan's rapidly growing direct overseas investments-pushed the current
account surplus to $6.9 billion compared with $4.8 billion in 1981.
Japan's trade and current account surpluses probably will expand this year.
Strong price competitiveness combined with economic recovery overseas
should boost exports, while improved domestic growth should spur imports.
Soft prices for oil and raw material probably will hold down the total import
bill. We believe the trade surplus this year will reach $23-25 billion; the
current account surplus should total $10-12 billion
Less Developed Countries
Mexico Reassures On a recent trip to the United States, Europe, and Japan, Treasury Secretary
Creditors Silva Herzog and other Mexican financial officials reassured international
creditors that the possibility of lower oil revenues had been considered in
drawing up the 1983 budget and would not jeopardize Mexican repayments.
Mexican Treasury officials estimate that the recent decline in interest rates
will offset some of the drop in oil prices and have stated that 1983 interest pay-
ment projections of $12 billion were deliberately overstated. While Mexico
may be able to handle a slight oil price decline, we believe a substantial drop in
oil earnings would not be offset by falling interest payments and would
severely limit de la Madrid's economic policy alternatives.
In a separate move, officials from the Ministries of Energy and Foreign
Affairs recently visited six oil-exporting nations, apparently to lay the
groundwork for cooperation with other oil producers without joining OPEC.
Mexico City has publicly announced that it will not undercut OPEC by
reducing prices to increase exports. We believe, however, Mexico will reluc-
tantly lower its prices to maintain its market share.
Lebanese Central Lebanon's central bank has informed President Jumayyil it will not lend his
Bank Rebuffs government foreign exchange for reconstruction until the cash-starved trea-
Jumayyil sury can assure steady collection of tax revenues. The central bank's decision
precludes a major government reconstruction program any time soon. Customs
duties, Beirut's main source of tax revenue, dropped last year to $106
million-barely half of the 1980 total. Revenue growth will be slow because
the Lebanese Forces, a powerful Christian militia, has refused to turn over
control of several lucrative illegal ports to the central government. Meanwhile,
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the Arab states of the Persian Gulf are unlikely to grant Jumayyil significant
reconstruction aid while Israeli forces remain in Lebanon or if he goes too far
in normalizing relations with Israel. The World Bank also has been reluctant
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Threat to Southern Western donors may be asked to supply substantially increased emergency
African Food Supplies food relief this year to southern African states as drought threatens to curtail
food exports from Zimbabwe and South Africa. A second year of drought is
reducing Zimbabwe's projected output of foodgrains and is forcing emergency
slaughter of livestock. Market deliveries of corn, the region's principal staple
and an important Zimbabwean export, will fall by 50 percent in 1983.
According to US Embassy reporting, corn stocks will fall to the level of annual
domestic consumption and Harare may be reluctant to-make much corn
available for export to drought-stricken Tanzania and Mozambique, or to the
chronically food-short Shaba region in Zaire. Zimbabwe itself may seek
assistance in overcoming wheat and vegetable oil shortages.
Drought also has intensified in South Africa, the world's fifth-largest corn
exporter. Last month officials in Pretoria discussed a suspension of corn
exports but delayed a decision until more precise crop estimates are available.
Botswana and Zambia-traditional purchasers of South African corn and
major recipients of international food aid-are plagued by the same drought
conditions.
The drought is adding to the dismal outlook this year for Zimbabwe's
economy, already beset by fuel shortages, declining mineral exports, and a
slump in manufacturing. The drought's intensity in the cattle-raising region of
Matabeleland, the home of Zimbabwe's disaffected Ndebele tribal minority,
also will compound Harare's difficulties in maintaining internal security.
Pretoria may be tempted to try using South Africa's limited food surplus as le-
verage to gain political concessions from its black neighbors. These states,
however, probably will prefer to turn to the West for additional food
assistance
Results of Southern Leaders from the nine black African states comprising the Southern African
African Economic Development Coordination Conference-Angola, Botswana, Lesotho, Malawi,
Conference Mozambique, Swaziland, Tanzania, Zambia, and Zimbabwe-held their third
annual meeting late last month in Maseru. Representatives from 29 donor
countries and numerous international organizations also attended, reportedly
pledging around $200 million in new support for agricultural, industrial,
transport, and other regional development projects. This would bring to about
$1.6 billion the amount of foreign aid reportedly promised for projects
sponsored by the organization since its formation in 1980. Even with increased
international assistance, however, the nine states are unlikely in the near
future to reduce significantly their dependence on South Africa. The aid
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commitments and the member countries' technical capabilities are too limited
to accomplish this goal, and Pretoria probably will continue its efforts to keep
neighboring states-especially those, that assist anti-South African insur-
gents-unstable and economically dependent.
Austere Zambian In an attempt to strengthen its case for a $225 million, one-year standby loan
Budget from the IMF, Zambia last week announced a budget for 1983 that calls for
large cuts in government spending and substantial increases in taxes. Lusaka is
projecting a deficit of $270 million, half of last year's deficit. Although this
equals almost 10 percent of GDP, the US Embassy believes this figure may be
acceptable to the Fund in view of the depressed state of the Zambian economy.
The Fund will monitor Lusaka's spending carefully, however, because of the
government's massive budget overruns in recent years. The temptation for
pump priming will be particularly strong when President Kaunda's campaign
for reelection gets under way later this year
Status of Libya's Libya's large-scale agricultural development projects continue to have only
Agricultural Program limited success, and Tripoli remains dependent on imports for about 70 percent
of consumption. Bottlenecks in distribution are keeping key inputs from being
available on time. In particular, scarce water is allocated wastefully according
to political demands. Delays in government funding-worsened by revenue
shortfalls last year-are hampering needed purchases of imported equipment.
A more basic problem is the disaffection of the rural labor force with
Qadhafi's collectivist land policies and agricultural price controls. In addition,
US trade restrictions are beginning to affect Libya's development projects in
the desert; the 1982 summer grain harvest was delayed because of a shortage
of US-made spare parts.
East European- East European imports from the USSR rose 8 percent in the first nine months
Soviet Trade of 1982 as compared with the same period a year earlier; exports were up 12
percent. The slower rise in imports in 1982 suggests that East European
countries have not redirected trade to compensate for a 20-percent cutback in
imports from the West. The increase in exports probably reflects pressure by
Moscow on East European countries to reduce their bilateral trade deficits.
Poland and Romania, which made the deepest cuts in hard currency pur-
chases, lowered imports from the USSR by 3 and 10 percent, respectively.
Bulgaria, East Germany, and Hungary increased imports by approximately 10
percent, while Czechoslovakia had a 19-percent rise. Yugoslavia increased its
imports by about 7 percent. Most, if not all, of the import growth resulted from
higher Soviet prices and thus represents little gain in the volume of resources
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shipped. The decrease in Eastern Europe's trade deficit with the USSR in the
first three quarters of this year suggests that Moscow provided less help last
year than in 1981 to its financially strapped neighbors.
East European Trade With the USSR
Exports
Imports
Balance
Exports
Imports
Balance
Total
24.6
26.8
-2.2
27.6
28.9
-1.3
Bulgaria
3.8
4.5
-0.7
4.5
4.9
-0.4
Czechoslovakia
4.3
4.3
-0.1
4.8
5.2
-0.3
East Germany
5.4
5.6
-0.2
5.9
6.3
-0.4
Hungary
3.4
3.4
NEGL
3.7
3.7
NEGL
Bank of China to The Bank of China-China's official foreign exchange bank-will begin
Extend Export Credits extending export credits to promote sales of Chinese machinery and ships. The
credits will amount to $500 million over the next three years. The pilot
program will begin in Beijing, Shanghai, Tianjin, and Dalian; increases in
foreign competition for export sales may compel Beijing to expand the
subsidies)
The Bank also will continue making domestic loans to help small- and
medium-size firms purchase foreign equipment and technology for technical
upgrading. This year's economic plan calls for a 25-percent increase in
imports-led by technology and industrial raw materials. The Bank currently
has over $8 billion in foreign exchange reserves after two years of record trade
surpluses. We believe US firms stand to gain from increased Chinese imports,
although cutbacks in imports of US grain, cotton, and other products in
retaliation for textile quotas may reduce the overall growth of US-Chinese
trade
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Secret
Ecuador: The
Debt Problem
Ecuador's financial troubles have mounted as
successive oil booms triggered government spend-
ing and investments, which outpaced petroleum
revenues. Last year the government encountered
growing difficulty in financing its spiraling fiscal
and current account deficits. Quito started negotia-
tions with its creditor banks in late 1982 when it
became apparent that it could not cope with mount-
ing debt strains. Final approval of recent tentative
agreements to refinance $5.6 billion of public debt
is contingent upon the outcome of ongoing negotia-
tions with the IMF.
Ecuador will have to reduce the size of the fiscal
deficit, enforce a tight monetary policy, and close
the gap between the official and the market
exchange rate to secure additional foreign credit
Ecuador: Financial Indicators
and IMF assistance. These measures, however, will
delay recovery and heighten social and political
pressures. The coming months will be especially
difficult. The Hurtado administration will continue
to face sagging revenues for oil and other commod-
ities. If Quito fails to adhere to austerity measures,
IMF assistance expected in February or March
probably will be discontinued after the first draw-
ing. The long-run overall economic outlook for
Ecuador is bleak. President Hurtado-much like
his predecessors-is still adhering to short-sighted,
oil-dependent policies and avoiding politically sen- 25X1
sitive policy shifts, which limit his ability to deal
with the underlying causes of Ecuador's economic
problems.
Current account balance
-12
22
-239
-30
-377
-730
-635
-772
-1,116
-1,400
Trade balance
187
350
7
259
40
-175
73
303
209
50
Exports, f.o.b.
585
1,225
1,013
1,307
1,401
1,529
2,170
2,510
2,568
2,470
Of which:
282
693
516
565
484
523
1,032
1,394
1,560
1,200
125
125
157
146
163
180
200
241
229
210
Coffee
65
68
64
205
157
281
263
130
106
120
Cacao
26
103
42
33
59
50
41
31
44
100
0
0
37
54
73
89
123
156
182
220
Imports, f.o.b.
398
875
1,006
1,048
1,361
1,704
2,097
2,207
2,359
2,420
Net services and transfers
-199
-328
-246
-289
-417
-555
-708
-1,075
-1,325
-1,450
Foreign exchange reserves c
210
319
253
477
623
636
722
1,013
632
200
a Estimated.
b Projected.
c Excluding gold.
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Ecuador: Trade Composition
1975 76 77 78 79 80 81 82a
Capital goods
Raw materials
Other
The Legacy of the Problem
Ecuador historically has relied on a few commod-
ities to finance social and economic development.
Bananas replaced coffee as the principal export in
the early 1950s and, by 1960, accounted for about
two-thirds of total exports. By the early 1970s, oil
supplanted bananas as the primary earner of for-
eign exchange.
The jump in oil prices in 1973/74 brought in
greatly increased revenues, but also triggered addi-
tional government spending. Quito pursued large
investment projects such as the state refinery at
Esmeraldas and, at the same time, channeled funds
into education, health, and housing. Expenditures
rapidly outpaced cash inflows, and inflationary
pressures mounted.
In a politically motivated attempt to combat infla-
tion, the population was treated to low-priced pe-
troleum and food products. Costly government
Secret
4 February 1983
subsidies on petroleum encouraged domestic con-
sumption, decreasing the exportable surplus needed
to generate additional revenues, while the lack of
further oil exploration significantly depleted proved
reserves. Moreover, cheap domestic oil prices led to
an overdependence on petroleum for electricity
generation. Low food prices and tight agricultural
credit hindered domestic incentives to increase food
output, necessitating the import of increasing
amounts of foodstuffs.
Large oil revenues swamped the country's manage-
ment capabilities. Ill-conceived development poli-
cies undermined efforts at economic diversification
and pushed imports ever higher. Import-substitu-
tion strategies-designed to promote industrial de-
velopment by restricting imports of manufactured
goods-proved unsuccessful and increased depend-
ence on both imported capital goods and raw
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Real GDP Growth Inflation Debt Service Ration Trade and Debt
Percent Percent Percent Billion US $
I I I 1 I I I I I
0 1973 75 80 82d 0 1973 75 80 82d 0 1973 75 80 82d 0 1973 75 80 82d
a Debt service as a share of exports of goods and services.
b Includes short-, medium-, and long-term debt.
C Total merchandise exports, f.o.b.
d Estimate.
materials. Massive development projects were
funded through uncontrolled foreign borrowing by
state corporations. Consequently total external debt
soared to $3.1 billion by yearend 1978, up from
$435 million in 1973. Despite increasing oil ex-
ports, the debt service ratio more than tripled to
over 30 percent by 1978.
Since 1979, former President Jaime Roldos and his
successor, President Osvaldo Hurtado, have tried to
curb previous excesses. A tight monetary policy, for
example, did not succeed in slowing inflation, but
interest rates were allowed to rise in an attempt to
slow capital flight and shore up investor confidence.
The sucre also was devalued to restore export
competitiveness.
The most difficult decisions, however, have been
avoided. Quito has been unwilling to broaden
revenue sources by imposing higher taxes. Only
limited progress has been made in scaling down the
ambitious goals of the 1980-84 National Develop-
ment Plan, and the government has failed to trim
the losses of the large state sector that accounts for
half of public expenditures. In addition, austerity
measures have been watered down in the face of 25X1
popular opposition. Gasoline price increases, for
example, unleashed general strikes and civil
disturbances that forced Quito to backpedal. More-
over, the government granted wage increases to
soften the impact of its austerity program. At the
same time, foreign borrowing continued to grow;
foreign debt reached $6.8 billion by yearend 1982.
Private foreign banks, mainly US, hold almost 70
percent of the total.
Ecuador-an OPEC member and the third-largest
oil exporter in Latin America-has been hard hit
by the falloff in world oil consumption. Oil reve-
nues in 1982 totaled $1.2 billion compared to $1.4
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Coping With the Financial Crisis
Negotiations with the IMF are still under way.
Ecuador's quota in the IMF is $75.6 million,
including a freely available gold tranche of some
$19 million and a "standby" quota of $57 million.
Possible use of the Extended Fund Facility, the
compensatory financing mechanism, and other
IMF programs reportedly could give Ecuador ac-
cess to an additional $380 million. Key conditions
for an IMF agreement focus on the size of the
fiscal deficit, monetary policy targets, and the
foreign exchange rate. The IMF probably will press
to close the gap between the free market value of
the sucre-60 sucres to the dollar-and the official
exchange rate of 33 to one. Fund officials will also
recommend tight control on the expansion of do-
mestic credit to curb inflation and, as in the case of
Peru, may prescribe a short-term debt ceiling.
Depite the success of the debt renegotiation effort,
we foresee 1983 as a particularly difficult year for
Ecuador. Declining oil revenues are exposing weak-
nesses and vulnerabilities that the two successive oil
booms did little to eliminate. The economy remains
Secret
4 February 1983
declines.
dependent on oil for about half of export earnings
and 35 percent of total government revenues. Tight
fiscal and monetary policy are slowing growth.
Another large devaluation of the sucre may be
necessary because the economic measures have
neither reduced capital flight nor increased domes-
tic liquidity. Increased strikes and the continued
lack of private investment-reflecting political un-
certainties-will exacerbate prospective declines in
manufacturing output. Moreover, recent floods-
after four years of drought-have lowered crop
estimates for 1982-83. The expected revenue gains
.from ongoing negotiations for oil export contracts
with Israel and the USSR-for Cuba-and from
the hoped-for lifting of the US embargo on Ecua-
dorean tuna may be offset by further oil price
Prospects for a successful resolution of Ecuador's
financial difficulties this year are dim. Ecuador
probably will muddle through its financial crisis-
seeking "quick fixes" to short-term problems and
neither attacking the roots of the country's econom-
ic ills nor making significant progress in holding to
austerity programs. Although President Hurtado
wants to implement tough austerity measures-
reduce the budget deficit, further cut gasoline and
wheat subsidies, and devalue the lucre-popular
opposition will sharply constrain his ability to act.
Even if the Hurtado administration reaches an
agreement with the IMF, as we foresee, continuing
backsliding from austerity after the first drawing
would endanger subsequent IMF assistance. In this
case, a renewal of the lending cycle would arise.
Ecuador would again have to go to its foreign
private creditors for relief and they, in turn, would
demand strict adherence to IMF guidelines.
If Ecuador fails to reach agreement with the IMF
and creditor banks, economic disruptions would
become pronounced. The social and political pres-
sures stemming from the continuing economic dete-
rioration would increase and labor unrest would
intensify, providing Hurtado's military opponents
with a rationale for intervention.
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Secret
Ecuador has yet to take a firm stance to manage
the economy over the longer term. Many of the
necessary policy shifts are politically sensitive and
Hurtado has not been able to build the political
consensus that would permit the measures required
for long-term economic development. Petroleum
will remain a key source of revenue through the
mid-1980s, but unless subsidies are reduced and
exploration is increased, Ecuador will become a net
importer of petroleum in the late 1980s.
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Japan: Fiscal
Constraints on
Industrial Policy
Tokyo's concern over its mounting fiscal deficit will
constrain industrial policy-related expenditures in
FY 1983, which begins on 1 April. Nonetheless,
spending in this area will grow-unlike many other
parts of the budget such as education and aid to
local governments, which will be cut below FY
1982 levels.
The Budget
Press summaries of the general account budget
draft approved by the Cabinet in December indi-
cate that spending on energy and science and
technology, two categories that include many in-
dustrial policy programs, are to increase modestly
but far less than last year. The projected rates of
growth-6.1 and 1.5 percent, respectively-exceed
the 1.4-percent rise in the total budget but compare
unfavorably with the 13.2- and 4.7-percent in-
creases in FY 1982.
MITI has partially compensated for the tight gen-
eral account budget by successfully lobbying for
increases in the amount of money the Japan
Export-Import Bank and the Japan Development
Bank will be able to borrow through the Fiscal
Investment and Loan Program (FILP). FILP will
allocate some $85 billion from the postal savings
system and national pension funds to public corpo-
rations and lending institutions in FY 1983. Even
in this case, however, the slowing growth of postal
savings deposits-the largest single source of FILP
funds-has constrained spending. The FILP bud-
get will increase only 2 percent in FY 1983,
compared to 3.5 percent a year ago.
Japan: General Account Expenditures for FY 1983
Expenditures
(billion US $) a
Percent Change
From Initial
Budget for
FY 1982
Total expenditures
214.4
1.4
Social security
38.9
0.6
Education, science, and
technology
20.5
-0.9
National debt expenses
34.9
4.6
Pensions
8.1
-0.1
11.7
6.5
28.3
0
Repayment to debt consolida-
tion fund
9.6
NA
High-Technology R&D
Research and development projects already in pro-
gress emerged from the review of the general
account budget with only slight, if any, reductions
from MITI's original request:
? The top-priority Fifth-Generation Computer 25X1
Project received the $12 million requested by
MITI. This would push total spending on the
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project to $13 million since its inception in FY
1981. A large increase in funding will be neces-
sary next year to meet MITI's expenditure goal
of $43 million by the end of FY 1984. The bulk of
the spending for this project will occur between
1985 and 1991.
? The Cabinet approved $25 million, $2 million less
than MITI's request, for research on new materi-
als, biotechnology, and new semiconductor ele-
ments. This represents a 22-percent increase over
FY 1982 but is still well below the level of
expenditures that will be necessary if MITI is to
complete the $473 million program in 1990.
? Subsidies for the next-generation civil airliner
and the RJ-500 jet engine projects will be re-
duced from 70 to 65 percent and 66.5 to 65
percent of the total cost, respectively. Tokyo will
spend $10 million on the airliner and $20 million
on the jet engine in FY 1983.
Several new industrial policy programs have been
included in the budget but at less-than-requested
funding levels. MITI's new project to develop sens-
ing robots with sophisticated sight and touch capa-
bilities for use in mining, ocean resource develop-
ment, and nuclear power plants received only
$170,000 instead of the $4 million scheduled. The
small appropriation probably reflects MITI's in-
ability to identify research themes that would
benefit the robotics industry as a whole rather than
individual firms.
the
project is unlikely to make a significant contribu-
tion to the robotics industry because the $65-85
million that MITI has planned to spend over the
seven- to eight-year life of the project is too little to
divert companies from their internal research pro-
grams.
Other Spending
The new budget also helps declining as well as
high-technology industries. MITI has secured $2
million to assist research and development in such
Secret
4 February 1983
industries as pulp and paper, chemical fertilizers,
ferroalloys, and nonferrous metals. The govern-
ment will subsidize up to 60 percent of research
and development costs for technologies that offer
some hope of restoring the competitiveness of these
industries. In addition, the depressed aluminum
smelting industry was allocated a $1.3 million
subsidy for research on a blast furnace refining
method that could lower the industry's energy costs
dramatically.
The politically important small business sector was
not forgotten. The Small Business Finance Corpo-
ration and the People's Finance Corporation, two
official institutions that specialize in lending to
small firms, will receive subsidies of $17 and $32
million respectively to cover deficits. The deficits
result from Tokyo's efforts to stimulate capital
investment in the small business sector through
interest rate subsidies. The actual subsidy is small
because most loans exceed the cost of funds. Small
business will also benefit from a $5 million appro-
priation for Regional Frontier Technology Develop-
ment Enterprises, which will build research insti-
tutes around the country to serve small business.
MITI has also secured money to promote the
development of venture capital firms.
Loans for Energy, High Technology, and Overseas
Investment
Within the FILP budget, top priority has been
given to financing natural resources and energy-
related investments and imports. A $500 million
increase in Japan Export-Import Bank lending for
such projects accounts for a major part of the 15.3-
percent increase in the bank's budget. The Japan
Development Bank's (JDB) resource and energy-
related loan program-which finances nuclear
power plants, domestic oil companies, nonoil energy
development, and energy conservation measures-
will increase 4.3 percent to $2 billion.
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Secret
Borrowing
Through
FILP a
Other
Borrowing or
_ Internal
Funds
Total
Small Business Finance
7.1
2.2
Corporation
Percent change b
3.3
3.3
3.3
Japan Export-Import Bank
4.4
1.3
5.7
Percent change b
14.8
17.7
15.3
Japan Development Bank
3.5
1.3
4.8
Percent change b
1.9
2.4
2.0
a Fiscal Investment and Loan Program.
b Percent change from FY 1982.
JDB's other high priority is its "development of
technology" lending program, up 4.6 percent to
$481 million. Within this program the distribution
of funds between major projects is unlikely to
change drastically in FY 1983. In FY 1982:
? 48 percent went to the development of the elec-
tronic computer industry.
? 42 percent went to the domestic development of
new technology or machinery, including pilot
manufacturing plants.
? 10 percent went to promote the use of high
technology in designated electronic and machin-
ery industries.
The Japan Export-Import Bank also is emphasizing
promotion of industrial cooperation with other
The bank's plans for FY 1983 include
as muc as $200 million in financing for the Nissan
truck plant now under construction in Tennessee.
Approximately $60 million has been allocated to
finance the export of steel pipe for a coal pipeline in
Japan: Lending Programs of Major
Official Financial Institutions
in FY 1983
the United States.
The Ministry of Finance continues to hold a tight
rein over special tax benefits for individual indus-
tries. Revenue losses from special tax measures as a
percentage of corporate tax collections have de-
clined from 9 percent 10 years ago to an estimated
1.8 percent in the present fiscal year. Even so,
special tax measures of all kinds-special deprecia-
tion, tax-free reserves, and tax credits-will cost
Japan's treasury an estimated $936 million in
FY 1982. 25X1
The highlight of the changes being made in
FY 1983 is the beginning of phased repeal of the
special 10-percent, first-year depreciation allow-
ances that purchasers of many robots and machine
tools presently enjoy. This decision also may be a
reaction to the US industry's pressure on Washing-
ton-reflected by the Houdaille Industries peti-
tion-to declare US purchasers of Japanese ma-
chine tools ineligible for investment tax credits
because of various forms of assistance Tokyo has
given the Japanese industry.
Ironically, major Japanese corporations now are
complaining that US investment tax credits and the
10-5-3 accelerated cost recovery system give their
US competitors an advantage. The Japanese press
recently cited a comparison of Caterpillar and
Komatsu, the world's number-one and number-two
construction machinery manufacturers. In 1981
corporate taxes as a percentage of sales were
5 percent in Komatsu's case and only 2.4 for
Caterpillar. A JDB calculation cited in the press 25X1
holds that a US firm can write off capital invest-
ments in a seamless steel pipe mill in 6.6 years. A
Japanese firm would require 8.3 years. The Japa-
nese corporations propose to eliminate the disad- 25X1
vantage by reducing the useful life for depreciation 25X1
of many fixed assets. 25X1
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Spring Ministry of Finance (MOF) informally con-
sults with ministries about requirements for
the coming year.
June or July The Cabinet approves MOF-proposed ceilings
for budget requests being prepared by minis-
tries. MOF also makes its first revenue and
expenditure estimates during the summer.
End of August Ministerial requests are presented to MOF.
September MOF begins the examination and hearings
process for requests.
MOF fits ministrial requests into a framework
of revised revenue and expenditure estimates.
This process is subject to considerable informal
political pressure.
Late December MOF budget draft is presented to other
ministries. Presentation is followed by a week
of "revival" negotiations during which other
ministries and agencies, with the support of
their allies in the Diet, argue for restoration of
cuts made by MOF. Cabinet members and the
three senior Liberal Democratic Party leaders
meet at the end of the week to make final
decisions.
Year's end Government budget draft, which is almost
never changed in the Diet, is approved by the
Cabinet.
January-March Government draft is presented to the Diet.
Public hearings, committee deliberations, and
passage by the Lower and Upper Houses
follow. Opposition parties may delay passage
to force concessions on other issues, but the
contents of the budget generally remain
unchanged.
End of March Official budget is approved.
April The new fiscal year begins.
already cited, a press report indicates that the JDB
may begin to finance the commercialization of new
technologies that will improve the competitiveness
of declining industries. Aid to these industries
appears certain to expand in the future.
Judging from the composition of the new budget,
Tokyo will continue to support high-technology
growth industries such as computers, which are
considered essential to Japan's future but still
vulnerable to foreign domination. In addition to
budgetary measures, NTT continues to support the
development of the computer, semiconductor, and
communications industries. On the other hand, in
the case of robotics, where Japanese companies are
now highly competitive, the Ministry of Finance is
showing sensitivity to domestic and foreign doubts
about the need for official involvement. This sensi-
tivity should persist as long as Japan continues to
run large government deficits.
25X1
E
25X1
The Diet normally passes the government budget
draft virtually intact; this year is unlikely to be an
exception. From a longer term perspective, the
most striking development in the budget is the
inclusion of new programs to aid declining indus-
tries. In addition to the general account items
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Japan: Evolving Policy
Toward the Third World
Strategic considerations are playing a larger role in
Japanese policy toward LDCs as Japan's own view
of its national interests evolves and as Tokyo
responds to US pressure to play a global role
commensurate with its economic power. Foreign
aid, particularly to strategically important Third
World countries, has increased rapidly since the
mid-1970s. We expect this trend to continue under
Prime Minister Nakasone, although budget prob-
lems will slow the increase in aid commitments.
The Policy
Tokyo places a high priority on maintaining stable
commercial relations with the LDCs, which are
valuable markets for Japan's manufactured exports
and supply much of the fuels, foodstuffs, and raw
materials indispensable to Japan's survival and
industrial growth. Japanese interest thus focuses on
the relatively fast-growing East Asian LDCs, the
raw material suppliers of ASEAN, and the oil
producers in the Middle East.
While economics still dominate Tokyo's relations
with LDCs, other factors began to play an impor-
tant role in the late 1970s. Tokyo's reevaluation of
its policy toward the LDCs was stimulated by
Vietnam's invasion of Kampuchea in 1978 and the
Soviet invasion of Afghanistan in 1979, which
threatened stability in ASEAN and the Middle
East. Underlying this, however, is a fundamental
change still under way in Japan's overall foreign
policy that reflects growing appreciation of the
Soviet threat, a deepening self-confidence stem-
ming from Japan's economic success, as well as US
demands that Japan use its economic power to help
deal with the Soviet challenge. The key policy tools
have been aid, loans, and investment. We believe
Tokyo's goals are to:
? Strengthen the economic underpinnings of politi-
cal stability in the LDCs and reduce opportuni-
ties for Soviet intervention.
? Ameliorate US dissatisfaction with Japan's fail-
ure to "pay its dues" as a member of the club of
advanced industrialized democracies.
Total aid commitments denominated in US dollars
increased rapidly in the late 1970s-from $1.5
billion in 1976 to $4.4 billion in 1980. Since then,
growth has slowed as Tokyo has tried to trim its
fiscal deficit and the yen has depreciated against
the dollar. The Japanese Government has tended to
favor bilateral over multilateral aid and is unlikely
to step up support for multilateral institutions
unless other aid donors, particularly the United
States, are willing to move in tandem with Japan.
In January 1983, however, Japan decided to join
the African Development Bank and to subscribe
$300 million.
Despite the budget crunch of recent years, econom-
ic assistance has fared well compared with other
government accounts. In FY 1983, for example, aid
increased by 8.9 percent while the total budget
grew only 1.4 percent. Nonetheless, Japanese offi-
cials now doubt that the government will be able to
achieve its goal of doubling aid disbursements over
the 1981-85 period, compared with the previous
five years. Future budget constraints will preclude
the increases in commitments necessary to reach
the target.
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Japan: LDC Suppliers of Crucial Commodities, by Region
100
80
s0
40
20
1971 75 81 1971 75 81 1971 75 81
Crude Oil Liquefied Iron Ore
Natural Gas
0 Asia
Middle East
M Latin America
Other LDC
Although the growth of aid commitments is slow-
ing, political considerations are playing a greater
role in determining the direction of Japanese aid.
Southeast Asia-particularly Thailand, ASEAN's
"frontline state"-has been the principal beneficia-
ry of Japanese economic assistance. Malaysia, an-
other key ASEAN state, capitalized on the $4
billion aid agreement just concluded between Seoul
and Tokyo and recently persuaded Japan to boost
its aid pledge for FY 1982 from about $90 million
to $300 million. Japan has also increased aid to
Turkey, Egypt, Pakistan, and other strategic coun-
tries in or adjacent to the Middle East. In addition,
in response to US requests, Tokyo recently agreed
to contribute $60 million in debt relief for Yugosla-
via and $20 million to help support the Multina-
tional Force in Lebanon.
International pressure and Japan's own estimate of
its strategic requirements will continue to push it
Secret
4 February 1983
toward a more active relationship with the LDCs.
The new Nakasone government will move further
in this direction. Nonetheless, there are limits to
how far and how fast Japan will proceed:
? Aid policy will continue to be driven by economic
imperatives, and Asia will continue to receive the
lion's share of foreign assistance.
? A severe budget crunch is likely to keep foreign
aid from expanding rapidly.
? The strategic rationale for economic assistance
will remain politically controversial in Japan, as
was demonstrated most recently in aid negotia-
tions with South Korea.
Although generally compatible with US interests,
there are some negative implications for Washing-
ton in Japan's new approach. Where LDC demands
are contrary to US policies, Japan may opt for a
more accommodating policy because of its eco-
nomic dependence on these countries. Japan's vul-
nerability to oil supply disruptions, for example,
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Japanese Aid to
Strategic LDCs, 1981 a
Million US $
Asia
1,448
ASEAN
1,113
Indonesia
462
Thailand
286
Philippines
234
Malaysia
114
288
95
90
Japan: Foreign Aid Commitments a
4,000
3,000
1,000
i i i i L L_'
0 1970 71 72 73 74 75 76 77 78 79 80 81
will continue to make it more responsive to the
concerns of Persian Gulf oil exporters. Tokyo also
will try to convince Washington to accept its more
positive approach to the LDCs as a partial substi-
tute for significant expansion of Japan's defense
capabilities.
25 Secret
4 February 1983
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Secret
West German Arms Sales:
Policies and Prospects I
West Germany, the world's fifth leading arms
supplier, has sold more than $10 billion in military
equipment and services during 1976-81. Although
the new conservative government is likely to en-
courage more arms sales to strengthen the domestic
economy and its national defense, West Germany
will have difficulty holding its market share over
the next several years. Domestic opposition to
greatly increased sales is significant, and export
restrictions remain fairly strong. Moreover, few
The West German Defense Industry
Although West Germany is the industrial leader of
Europe, its armaments industry has remained com-
paratively small. It ranks fourth in Western Europe
in terms of employment, accounting for less than
1 percent of the West German work force. This
reflects a government policy to restrict the growth
and importance of the arms industry to demon-
strate West Germany's postwar commitment to
peace. Bonn has laid out strict guidelines for the
defense industry in its periodic defense white
papers:
? The defense industry will operate on a private-
enterprise basis, and, when possible, firms will
diversify and avoid dependence on military busi-
ness.
? West Germany will not seek self-sufficiency in
defense production, and, whenever possible, ma-
jor armament projects will be coordinated or
developed jointly with its allies.
Selected West German Industrial Sectors:
Dependence on Defense Production
Aerospace/
Electronics
Vehicles/
Explosives/
Arms
Shipbuilding
Workers in defense 75,000 -
71,000
60,000
Of which:
Number dependent 22,500
on exports
7,100
9,000
Share of total production
(percent)
In defense 60
15
25
Sources: Unclassified trade journals, West German and European
Economic Community figures, and contractor studies.
? The defense industry will serve West German
and NATO defense and will not become depend-
ent on arms exports.
These policies have made Bonn the strongest West
European champion of defense collaboration and
reciprocal arms purchases in NATO. They also
have prevented the development of weapons pri-
marily for export-except naval vessels-and have
kept West German arms exports at about 0.5
percent of total sales.
Even though defense production accounts for less
than 2.5 percent of total manufacturing output,
several industrial sectors have become dependent
on military business. For example, the shipbuilding
industry receives about one-fourth of its orders
new, expensive weapons systems are available for
export, and the international market is increasingly
competitive. In addition, Bonn will be cautious
about weapons sales to the Middle East, the largest
Third Wnrld arms market
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from military customers, and the importance of this
business-especially exports-has increased as
worldwide demand for commercial shipbuilding has
declined.
Scope and Magnitude
West Germany sold more than $10 billion in
military equipment and services to 83 nations
during 1976-81.2 More than two-thirds of West
German sales go to the Third World, a proportion
that has remained fairly constant over the past
decade; Latin America and the Middle East ac-
count for almost 50 percent of West German arms
sales. Argentina has been Bonn's major customer in
recent years, with West German shipyards serving
as prime contractors for nearly all of Buenos Aires'
Z This does not include an estimated $1.8 billion returned to West
German arms manufacturers indirectly through sales of Alphajets
1954-69a 119
1970 517
1971 174
1972 355
1973 680
1974 954
1975 1,190
1976 1,256
1977 1,370
1978 2,836
1979 1,813
1980 1,484
1981 1,267
naval modernization program. The United States is
West Germany's second-largest customer, spending
about $150 million annually on military construc-
tion, consumables, and support.
Equipment Sales. West Germany exports a wide
range of military equipment. Over 40 percent of
West Germany's sales to industrial nations are for
ground forces equipment such as artillery and
tanks, while only 3 percent of its contracts with
developing nations involve ground weapons. In con-
trast, 50 percent of West German sales to the Third
World are for naval vessels, with only 10 percent of
sales to developed nations falling in this category.
During the 1970s West Germany became the lead-
ing non-Communist supplier of warships to the
Third World. A drop in naval sales since 1978 has
been an important factor in the overall decline in
West German sales.
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West Germany: Direct Sales by
Regions, 1976-81
23 23
Middle East
a Including Western Europe, Japan, Australia
and New Zealand.
b Includes $8 million in sales to Communist nations.
systems. For example, France markets the missiles
produced by Euromissile, a consortium between
Aerospatiale and the West German firm, Messer-
schmitt-Boelkow-Blohm. Paris also promotes ex-
ports of the jointly produced Alphajet light attack
aircraft.
The New 1982 Export Policy
Flagging growth during 1976-81 was partly due to
more stringent enforcement of the formal restraints
on West German arms exports. Bonn has been
forced to consider arms exports carefully because
of strong opposition from church and peace groups
and the left wing of the Social Democratic Party
(SPD).
We believe that corporate lobbying, increasing
unemployment, and a growing balance-of-pay-
ments problem encouraged former Chancellor
Schmidt to advocate a loosening of the export
guidelines. In a speech to the Bundestag in January
.198 1, Schmidt stated that export orders for nonmil-
An unusual characteristic of West German mili-
tary sales is the high percentage of nonlethal items.
West Germany is the largest non-Communist ex-
porter of military trucks, as well as a major supplier
of electronic equipment and construction services.
Of even greater significance are West German
sales of military production technology and arma-
ment facilities through licensed assembly agree-
ments. We estimate that at least 20 percent of
West Germany's military sales fall in this category,
more than any other major arms supplier. Such
sales have contributed significantly to the emer-
gence of defense industries in the Third World.
A surprisingly small proportion of West German
direct sales involve aircraft, helicopters, and mis-
siles. West Germany produces all of its combat
aircraft and missiles through international codeve-
lopment and coproduction programs and benefits
when consortium partners arrange exports of these
itary goods are often linked to Bonn's willingness to
sell arms and that West German security interests
have grown beyond the NATO area because of the
nations's growing need for imports of oil and other
raw materials.
Despite these economic and political incentives,
public controversy and a badly divided SPD-FDP
(Free Democratic Party) coalition prevented Chan-
cellor Schmidt from significantly relaxing export
restrictions. On 3 May 1982 the government an-
nounced that none of the laws governing arms sales
would change, but it modified the 1971 export-
policy guidelines.
We believe that the new guidelines give the govern-
ment greater discretion with arms sales because the
rules are ambiguous and because foreign or securi-
ty policy interests now justify sales to the Third
World. Nevertheless, sales to non-NATO nations
still must serve defensive needs only, and must not
go to nations where a danger of hostility exists or
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West Germany: Direct Sales by Type of Equipment, 1976-81
NATO/Developed Nations
Total: $3.2 Billion
Developing Nations
Total: $6.8 Billion
where a sale would heighten local tensions. By
allowing parliamentary participation on important
cases, the new guidelines leave government deci-
sions open to at least as much domestic political
influence as before
The federal government does not actively promote
arms sales. There is no government defense sales
office in West Germany, and the Ministry of
Defense contains no office to promote exports or to
consider the export issue when procuring weapons
for West German armed forces. Attache reporting
indicates that Bonn's military attaches do not carry
out a sales role, in contrast to those of other West
European nations.
No direct financial support for arms exports is
available from the federal government. Some ex-
port credit guarantees for military sales are avail-
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able through the government-insured Hermes con-
sortium of private banks,
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The terms are better than those generally
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available through normal commercial channels but
not as concessional as those offered by France to
important arms clients. Hermes also provides politi-
cal and economic risk insurance for 10 to 15
percent of the value of sales, but most Hermes
funds go for civilian exports.
Private Promotion of Exports
West German firms, in our judgment, are as
aggressive as their French counterparts in promot-
ing exports.
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Major Third World Recipients of West German
Defense Production Assistance
Algeria Military explosives, artillery rockets
Argentina Armored vehicles, naval vessels
Burma Small arms, artillery ammunition
Brazil Submarines
Chile Antitank guided missiles
Egypt Small arms, artillery ammunition
India Trucks, electronics, military explosives, ammuni-
tion, submarines
Indonesia
Iran
Singapore
Sudan
Small arms, helicopters, naval torpedoes
Small arms, military explosives, ammunition
Guided missile patrol boats
Small arms ammunition, military printing plant
West German firms also stimulate sales in the
Third World by offering licensed assembly ar-
rangements and other defense production assis-
tance. Defense production by West German subsid-
iaries or licensees in other nations are not covered
by Bonn's strict export controls.
West German firms have become proficient at
arranging offsets to stimulate arms sales. Arms-
exporting firms rely on trade associations and their
nonmilitary, domestic customers to guarantee West
German purchases from an arms customer that
offset part or all of the cost of the arms sale
We believe West Germany will have difficulty
maintaining its market share during the next two to
five years. The Alphajet, Tornado, and Euromissile
programs have almost exhausted their market po-
tential, and new production orders will eventually
end by the mid-1980s when their technology will
appear increasingly dated. We believe that the
follow-on to the Tornado program is likely to be a
Euro can consortium aircraft.
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combat aircraft seems to have the inside track. We
also believe that warship sales will level off because
of economic constraints on buyers, the near satura-
tion of the naval market, and sharp competition
from other shipbuilding nations.
West Germany's best opportunity for major weap-
ons sales probably will occur as Western nations
such as Belgium and Switzerland modernize their
ground forces. Bonn's greatest export potential in
the developing world probably remains in the area
of nonlethal equipment-vehicles, electronics
equipment, construction, and defense technology.
Domestic political controversy is less likely to hin-
der such exports, and many developing nations are
placing more emphasis on building military infra-
structure, logistics, command and control systems,
and on indigenous defense industries.
We believe that a new conservative government is
more likely to approve weapons sales to the Third
World. Although domestic sensitivities remain, a
conservative government does not face major fac-
tional splits on the issue of allowing more direct
sales of weapons. Currently, the coalition supports
a generally restrictive arms export policy with a
case-by-case determination of all sales based on
foreign and security policy.
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