PANAMA'S BUDGET CRUNCH

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP85T00875R001700010042-3
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 13
• Document Creation Date: December 22, 2016
• Document Release Date: September 19, 2011
• Sequence Number: 42
• Publication Date: May 1, 1971
• Content Type: IM

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Secret
DIRECTORATE OF
INTELLIGENCE
Intelligence Memorandum
Panama's Budget Crunch
Secret
ER IM 71-91
May 1971
Copy No. 54
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WARNING
This document contains information affecting the national
defense of the United States, within the meaning of Title
18, sections 793 and 794, of the US Code, as amended,
Its transmission or revelation of its contents to or re-
ceipt by an unauthorized person is prohibited by law,
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CENTRAL INTELLIGENCE AGENCY
Directorate of Intelligence
May 19 71
INTELLIGENCE MEMORANDUM
Panama's Budget Crunch
Introduction
1. The military regime of National Guard Com-
mander Omar Torrijos, who seized power in October
1968, has greatly increased government spending
during the past two years to offset lagging private
investments and build political support. Reflect-
ing the monetary constraints imposed by Panama's
use of the Yankee dollar as its currency, a signif-
icant part of the expanded outlays was financed
with foreign short-term borrowing. This year,
budget strains induced partly by the large rise in
debt service requirements are forcing a contraction
of public investment outlays. This memorandum re-
views Panama's budget difficulties and assesses
the prospects for easing them over the next three
years.
Discussion
Background
2. Panama's current financial problems follow
a long period of rapid, relatively orderly economic
progress. The growth of gross domestic product
(GDP) in 1961-67 -- the most rapid in Latin
America -- was sparked by expansion in manufacturing
and construction, by strong export performance
(particularly in sale of goods to the Canal Zone),
and by rising wages for that 10% of the country's
urban labor force employed in the Zone. Growth
Note: This memorandum was prepared by the Office of
Economic Research and coordinated within the Direc-
torate of Intelligence.
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was also aided by sizable direct US investment
mainly in manufacturing, commerce, and banking --
which totaled about $1 billion at the end of 1969.
US investment was encouraged by Panama's use of
the US dollar and the narrow limits thus placed on
financial and foreign exchange regulation. Although
Panamanian governments incurred budget deficits in
the mid-1960s, rising revenues (aided by economic
growth and fiscal reforms) helped keep them small.
These deficits were financed without great diffi-
culty through domestic bond sales and foreign aid
receipts.
Origin of Panama's Financial Problems
3. In 1968, Panama's enviable record was dis-
rupted. Business confidence was shaken by a turbu-
lent election campaign and by Torrijos' subsequent
takeover from newly-elected President Arnulfo Arias.
The growth of private investment and GDP both
slowed significantly. Urban unemployment rose a
little as increasing numbers of the substantial
annual flow of migrants from the countryside failed
to find jobs (see Figure 1).
4. The investment climate was further disturbed
in 1969 by Torrijos' strongly reformist posture.
Early in the year the new regime announced plans
for a sweeping agrarian reform program and nation-
alized the workers' compensation insurance system --
heretofore in private hands. It also talked of
nationalizing a number of cement, dairy, and sugar
firms and establishing several plants to compete
with private companies. Even more upsetting to
business interests was the regime's plan to organize
a national labor union, to be nurtured as its
political base. As a consequence, the private
sector cut its investment 10% compared with 1968.
Torrijos' Expansionary Spending Programs
5. To offset falling private investment and
develop his image as a public benefactor, Torrijos
more than doubled central government investment in
1969 compared with a year earlier. Government
spending rose one-third; about three-fifths of the
increase represented investment (see Figure 2).
Government investment was directed largely to labor-
intensive projects such as construction of roads,
public buildings, and facilities in Panama City
for the 1970 Caribbean Olympic Games. Government
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Panama: Economic Growth and Urban Unemployment Figure 1
Real GODP: Percent Change
1961.67 Annual Average 6.2
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spending more than offset the drop in private in-
vestment, cutting the unemployment rate and boost-
ing GDP growth.
Panama: Central Government Revenues and Expenditures
Million US ffi
280
1968 1887 1988 1988 1870 1971
(Revised
Plan)
6. In 1970, Torrijos sought to woo private
investors by dropping or toning down his reformist
plans and by removing several populist firebrands
from his cabinet. He also attempted to gain favor
with non-business groups by increasing outlays for
social services, especially education. Central
government investment continued to stress domes-
tically planned road construction, but there also
was some increase in outlays for electrification
and agricultural projects partly financed by the
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I PM
US Agency for International Development (AID), the
World Bank, and the Inter-American Development
Bank (IDB). Although investment expenditures re-
mained about the same as in 1969, increased outlays
for social services helped to give a 16% boost to
total expenditures. Improving business confidence
pushed private investment well above the 1968 level,
unemployment was cut further, and the GDP growth
rate was restored to nearly the pre-1968 level, as
shown in Figure 1.
kets for about 60% of the needed fund
Financing the Deficits in 1969-70
7. Increased government spending created a
severe financial pinch in 1969. Considering the
magnitude of the increase, the government handled
its fiscal affairs reasonably well, but its heavy
reliance on short-term borrowing meant greater
problems in subsequent years. Although the resump-
tion of rapid economic growth and improved tax
administration yielded a 13% rise in revenues, the
deficit increased to $47 million -- 26% of expend-
itures compared with 11% in 1968. The usual sources
of deficit financing were clearly inadequate, so
the government tapped foreign commercial money mar-
table .
financing, Panama's gross external credit needs
8. Panama's financial situation worsened in
1970 despite a tax increase early in the year that
helped raise revenues 22%. In addition to financ-
ing the resulting $47 million deficit -- unchanged
from 1969 -- Panama had to repay foreign obligations
of about $20 million, including $15 million borrowed
in 1969. Allowing for a small amount of domestic
thus amounted to $59 million.
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Panama: Central Government
Expenditures, Revenues, and Deficits
million US $
Expenditures
Of which:
Investment
Revenues
Deficit
Financing the deficit
Drawings on external loans (net)
Long-term development loans
(net)
Drawings
Repayments
Other long-term loans
Medium-term suppliers' credits
Short-term commercial credits
(net) a/
Drawings
Repayments
Domestic financing (net)
National Bank
Bond issues and other
1971
Revised
1969 1970 Plan
179.9 209.2' 213.1
52.0 53.0 47.0
132.7 162.0 182.5
47.2 47.2 30.6
29.0 39.8 24.1
-0.8 0.5 2.0
3.2 5.1 8.0
-4.0 -4.6 -6.0
0 0 43.6
12.3' 13.2 0
17.5 41.1 0
0 -15.0 -21.5
7.0 -2.0
11.2 9.4
-0.5
7.0
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The 1971 Budget Crunch
9. Greater debt service requirements and the
growing difficulty of getting foreign funds have
made the financial situation more difficult this
year than last. Panama now expects to get $52
million in foreign funds this year, but only $24
million will represent new money to cover the
deficit. Even these funds are not now fully
as-
sured.
Panama has had to phase out some of its own make-
work road building and other domestically planned
projects, with an attendant increase in transitional
unemployment.
10. Limitations on new borrowing are sharply
restricting the growth of government expenditure.
Allowing for a 13% revenue rise (to $182 million)
and net new deficit financing (including domestic
borrowing) of $31 million, total expenditures would
be able to increase to $213 million -- only $4 mil-
lion over 1970. However, increases in interest pay-
ments on the public debt and a boost in teachers'
salaries authorized last year will amount to $10 mil-
lion. This means that central government investment
outlays probably will have to be cut at least $6 mil-
lion (or 11%) below the 1970 level.
11. The financial squeeze is being exacerbated
by the IMF's terms for granting a $14 million
standby credit for 1971, which is a condition of
the foreign loans. These terms require the govern-
ment to sharply restrict its use of short-term
credit from the National Bank and halt short-term
borrowing abroad. The restriction on National Bank
credit will make it difficult for the government
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to adjust to temporary discrepancies between
revenue and expenditure flows during the year. It
has already caused the government problems in meet-
ing its March payroll.
Prospects
12. The government's prospects for avoiding
financial difficulties during the rest of 1971 and
the following two years depend partly on private
investment trends. If private investment continued
to rise significantly, as now seems unlikely, the
government would be under less pressure than in
the recent past to increase expenditures and might
even reduce them. If private investment is sluggish,
the government will be under severe pressure to
further increase outlays in order to prevent in-
creases in unemployment, but higher outlays could
create grave difficulties unless new sources of
revenue are found.
13. The outlook for private investment seems
only fair. Elements of strength this year -- the
extremely high liquidity of private foreign-owned
banks and a prospective small upswing in direct
foreign investments in banana plantations and
tourist facilities -- are being offset by the ad-
verse effects on business confidence of the return
of two populist extremists to the cabinet in the
April shuffle. If the government turns to a more
radical course, private investment might suffer
severely. In any case, private investment probably
will be sluggish because of a decline in opportun-
ities for import substitution -- the main stimulant
to manufacturing expansion before 1968. Thus, Panama's
prospects for maintaining rapid economic growth and
checking urban unemployment in the coming years may
depend on continuing a fairly high level of central
government investment.
14. Panama probably cannot continue to rely on
private foreign banking sources for a major part
of the funds it needs. It will have to find new
financing sources to maintain, much less expand,
government spending. Relying more heavily on the
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international financial agencies such as the World
Bank and the 1DB to finance the external costs of
its investment projects would not be a solution.
Panama would still need additional funds to provide
its share of the costs of these projects.
15. Panama will press for financial benefits
under the upcoming Panama Canal treaty negotiations.
These offer the prospect of greatly increased direct
Canal receipts and an expanded tax base as its juris-
diction is extended into the present Canal Zone.
Financial considerations undoubtedly were an impor-
tant factor in Torrijos' move last year to reopen
negotiations. The 1967 draft treaty -- never ratified
by either party -- provided for direct payments to
Panama of nearly $20 million annually, compared with
the present $1.9 million annuity, and Panama undoubtedly
will seek more in a new treaty. However, it will take
time to complete negotiations and ratify the treaty in
both countries, and it seems doubtful that Panama can
count on funds from this source much before the end of
19 73 .
16. Panama might consider abandoning its use of
the US dollar and shifting to a dollar-linked cur-
rency, as authorized by the present Canal treaty.
The change would permit Panama to print money to
finance immediate government deficits. Over the
longer term, however, such a step would bo largely
self-defeating. The inflationary pressures gener-
ated, and the stringent exchange controls that
probably would be required would discourage direct
US investment and consequently add to Panama's
problems. Alternatively, Panama might substantially
raise taxes this year or next. Always an unpleas-
ant choice, such action would be doubly painful in
Panama's case because the tax burden is already well
above the Latin American average and thus might also
discourage direct US investment.
17. In sum, Panama seems likely to encounter
continuing financial difficulties over the next
few years. The probable failure of private invest-
ment to regain its former buoyancy will generate
great pressure for further government compensatory
action. At the same time, the government faces
growing difficulty in acquiring sufficient funds
to enlarge its spending while repaying debts
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incurred earlier. The general outlook consequently
is for appreciably slower economic growth than before
Torrijos' takeover and a renewed rise in the unemploy-
ment rate.
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