INTERNATIONAL ECONOMIC & ENERGY WEEKLY

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP97-00771R000807600001-1
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 37
• Document Creation Date: December 22, 2016
• Document Release Date: October 14, 2010
• Sequence Number: 1
• Publication Date: July 5, 1985
• Content Type: REPORT

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Directorate of
Intelligence
ecret-
Weekly
International
Economic & Energy
s J.ly 1986
DI IEEW 85-027
5 July 1985
navy
in1)
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Secret
International
Economic & Energy WeeklyF____1 25X
5 July 1985
iii Synopsis
1 ;'Perspective-The Current LDC Financial Situation
T ilippines: Holding a Weak H
Israel: Seekin the Elusive Austerity
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nd for Economic Recovery
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17 Vietnam: Rubber Exports for Western Markets
21 /China: Coping With Accelerated Growth
Energy
International Finance
Global and Regional Developments
National Developments
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Secret
DI IEEW 85-027
5 July 1985
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1 Perspective-The Current LDC Financial Situation
International
Economic & Energy Weekly 25X1
Synopsis
New developments in the LDC debt situation are a cause for increased
concern. Although impressive gains have been made in LDC economic
performance, their financial situation remains tight and political frustrations
are becoming evident.
3 The Philippines: Holding a Weak Hand for Economic Recover 25X1
We see no quick return to the politically acceptable 6- to 7-percent growth
rates enjoyed in the late 1970s. Slow growth means that President Marcos will
continue to be vulnerable to domestic criticism and will have to deal
increasingly with social tensions. 25X1
7 Israel: Seeking the Elusive Austerity
The National Unity Government has been only marginally more successful
than its predecessors in imposing the austerity needed to bring external deficits
under control. The government appears ready to abandon the "package deal"
approach, but we doubt it will follow through on any comprehensive programs.
13 Persian Gulf Oil: Little Change in Long-Term Strategic Importance
Although excess oil supplies and weak oil demand provide considerable
protection against supply disruptions in the near term, industry forecasts
indicate that the supply cushion will shrink in the years ahead. Dependence of
the industrialized countries on oil from the Persian Gulf is expected to increase
by the early 1990s, and they will be more vulnerable to supply cutoffs.
17 Vietnam: Rubber Exports for Western Market
As part of its drive to circumvent the US-led embargo, Hanoi is looking to in-
crease exports to the West from a rehabilitated natural rubber industry to earn
desperately needed foreign exchange. This export push may increase strains
with the Soviet Union because a 1983 agreement with Moscow requires Hanoi
to pay for development assistance with exports of raw materials, chiefly
rubber.
iii Secret
DI IEEW 85-027
5 July 1985
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21 China: Coping With Accelerated Growth
Beijing welcomes rapid growth as an indicator that industrial reforms are
achieving success but worries that an overheated economy will aggravate
shortages of energy and raw materials, strain transportation facilities, and add
to inflation. Beijing has adopted a combination of administrative measures and
Western-style monetary and fiscal adjustments to bring the economy under
control.
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Secret
Perspective
International
Economic & Energy Weekly
5 July 1985
increasingly outspoken about the need for new approaches to debt relief.
New developments in the LDC debt situation are a cause for increased
concern. While impressive gains were made in LDC economic performance
last year, they are not likely to be repeated. Moreover, the LDCs' financial sit-
uation remains tight, and political frustrations are more and more evident.
Although falling interest rates have provided a large measure of relief in debt
service, the political perception in some heavily indebted countries is that their
financial situation has become too burdensome; many leaders are becoming
earnings for a number of countries.
In 1984 impressive trade gains were made, particularly in Latin America. This
export boom restored an element of credit solvency and provided some
resurgence in domestic economic growth. The export performance of most
major debtors, however, now appears to be waning. We expect exports of the
key debtors to decline by $1 billion this year-after a $14 billion surge in
1984. As US expansion slows, and domestic demand in Western Europe
remains weak, the LDCs face deteriorating markets for their exports. De-
pressed commodity prices-and the strong dollar in which many commodities
are priced-plus increasing OECD protectionism serve to limit LDC export
deposits.
The deterioration in LDC trade balances is being tempered by falling interest
rates. The US prime rate and the six-month LIBOR are at their lowest level
since 1978 and are 3 to 4 percentage points lower than last summer. We
estimate that the lower rates are reducing total LDC debt service by about $12
billion. The net effect of falling interest rates on the overall LDC current
account position will be a savings of about $9 billion annually, however,
because of a $3 billion decrease in interest earnings on LDC floating-rate
would be seriously hurt by the loss of oil revenues.
The softening oil market will provide mixed results. Lower oil prices probably
will help spur OECD economies, further reduce interest rates, and cut oil
import bills for many LDCs. These benefits, however, will occur with a lag and
will not be sufficient to restore the financial footing of many nonoil LDCs. In
addition, oil-exporting debtors such as Mexico, Egypt, Nigeria, and Indonesia
hardships continue.
Even though their collective net current account position has not worsened
substantially, disappointment over their inability to address creditor nations at
the political level and difficulties with IMF-supported programs are heighten-
ing debtors' frustrations. As 1985 wears on, democratic governments in Brazil,
Argentina, and Peru will face increasing political pressures as economic
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We believe that recent support from Latin leaders-such as Peru's Alan
Garcia and Cuba's Castro-and prominent US figures calling for nontradi-
tional approaches to the LDC debt problem may be raising debtors' hopes for a
political solution. Moreover, we expect such public discussions to encourage
further coalescence in debtors' responses to creditors. In our judgment, with
little significant economic improvement foreseen in the coming months,
changing political dynamics could lead debtor countries to more actively
pursue additional concessions from creditors.
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The Philippines: Holding a Weak
Hand for Economic Recovery
We see no quick return to the politically acceptable
6- to 7-percent growth rates enjoyed in the late
1970s, even though the recent financial rescue
package and easing of the IMF austerity program
will probably slow the steep decline of the Philip-
pine economy. The process of adjustment has far to
go before the country could sustain the $3 billion
current account deficit we estimate would result
from even 3- to 4-percent annual growth. Slow
growth means that President Marcos will continue
to be vulnerable to domestic criticism and will have
to deal increasingly with social tensions that are an
outgrowth of the economic crisis. We believe these
factors will combine to undermine his party's
chances for victory in critical local elections next
May and efforts by the military to contain the
rapidly growing Communist insurgency.
press reports indicate that foreign and domestic
anxieties about the political stability of the Marcos
regime have further undermined investor confi-
dence.
Low international prices for export crops and slug-
gish local demand have hit insurgent-riddled rural
areas hardest. Sugar and coconut prices have fallen
25 and 45 percent, respectively, over the past year.
These two commodities provide the bulk of rural
employment. In the sugar-dominated economy of
Negros Occidental Province, for example, the shut-
down of sugar mills is causing mass unemployment,
starvation
now afflicts many in the province. Such hardship
has far reaching political overtones because approx-
imately three-fourths of the 54 million population
lives in rural areas.
The Philippines continues to endure its worst eco-
nomic crisis since World War II. The country's
debt crisis and repayment moratorium dramatical-
ly illustrate the difficulty of doing business with
meager levels of foreign exchange. Real GNP
contracted by 5.3 percent last year, and bankrupt-
cies and business closings have been widespread-
800 of the country's top 2,000 corporations had to
cease operations, at least temporarily, during the
first quarter of 1985. Fairly reliable estimates put
the unemployment rate at nearly 15 percent, about
3 million people. At the same time, less than half of
those employed hold full-time jobs.
Real per capita income has now declined for four
consecutive years and stands nearly 15 percent
below the 1981 peak. Probably the most worrisome
development, however, has been the recent lack of
private investment. Real gross fixed capital forma-
tion fell by one-fourth last year after stagnating
during 1982-83. In addition to the chilling effect of
20- to 30-percent average annual interest rates,
The Financial Squeeze
The Philippines "depression" is now largely the
result of austerity measures including IMF-
supported restrictions on the government budget
deficit and growth of the money supply.' The
budget deficit, for example, has been cut from $775
million in 1982 to just over $105 million last year,
and the inflation-adjusted money supply has
dropped by 40 percent since the first quarter of
' The Philippines' financial crisis reflects over-borrowing in the face
of a declining terms of trade. Agricultural export prices, over the
longer term, have failed to keep up with the prices of imported
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5 July 1985
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The Philippines: Economic Indicators
Real GNP Growth
Percent
Consumer Price Inflation Real Effective Exchange Rate-
Percent Index: 1980=100
Trade weight exchange rate-adjusted for inflation.
Estimated.
J 0 O _ _ M M I I I I I I I I i I I I I I I I I I I I I I I I~
1979 80 81 82 83 84 85h 60 1979 80 81 82 83 84 85n
1983.2 Spending cuts have produced a steep drop in
inflation-from a nearly 50-percent annual rate
late last year to only a 5-percent annual rate in
March 1985, with prices actually declining in
April.
We expect the current account deficit to improve
from $3.2 billion in 1982 to a projected $1.0 billion
this year. Slack demand has cut purchases from
abroad sharply, with imports currently running at
an annual rate of $4.9 billion, the lowest level since
1978. Export earnings in the first quarter fell
nearly 10 percent below last year's already de-
pressed levels. This reflected reduced earnings from
coconuts and sugar and an unexpectedly poor show-
ing by electronics products, the country's leading
export. In addition to the slump in the US semicon-
ductor industry, press reports indicate that overseas
electronics companies are hesitant to place orders
with Philippine firms because economic and politi-
cal uncertainties threaten the industry's tight pro-
duction schedule. Other significant,foreign ex-
change earners, such as remittances from Filipino
workers abroad have performed poorly.
Part of the reason for the export slump this year is
the appreciation of the peso, which has reduced the
competitiveness of Philippine products in world
markets and discouraged repatriation of export
proceeds. The peso has appreciated nearly 15 per-
cent on an inflation-adjusted, trade-weighted basis
since last November-an anomaly in the adjust-
ment process that has dismayed the IMF.
Regulatory factors account for much of the appre-
ciation; legal limits on the foreign exchange hold-
ings of Philippine commercial banks have forced
banks to sell foreign exchange in a market where
the Central Bank is the only major buyer. Recent
rumors that the Central Bank wants the peso to
depreciate are persistent, and Manila has taken
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The Philippines: Balance of Payments
a Projected.
b Including interest arrears.
End of period.
d April.
some preliminary steps in this direction, including
raising the amount of foreign exchange assets
commercial banks may hold.
Ingredients of an End to the Slide?
We believe that the signing of Manila's long-stalled
financial rescue agreement with nearly 500 private
banks in mid-May will provide a modicum of
financial relief for the economy. The agreement
includes a nine-year $925 million loan, rollover of
$3 billion in short-term trade credits, and restruc-
turing of $5.7 billion in principal payments falling
due during 1983-85.
Most of the economic benefits from the rescue
package will come from the revolving trade credits,
which will allow an immediate increase in imports
by reducing the cost of import financing. Since the
-3,211
-2,750
-1,298
-970
-2,646
-2,482
-679
-110
5,021
5,005
5,391
5,660
582
694
702
726
onset of the financial crisis in late 1983, the import
shortage has forced firms to delay or cancel pro-
duction schedules.
In the meantime, the IMF Executive Board has
agreed to some softening of the financial perfor-
mance conditions set late last year. Under the new
terms, Manila can expand reserve money by 15
percent this year, up from 11 percent. The higher
ceiling is aimed at building international reserves
and allowing the Central Bank to rescue financially
ailing banks. Also, Manila has scrapped plans for
higher corporate and sales taxes.
Overall, we expect the Philippine economy to con-
tract by 2 percent this year-albeit an improve-
ment over last year's drop. Nonetheless, we believe
that the commercial bank rescue package is unlike-
ly to provide major relief for the economy in the
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short term. The country will use most of the $925
million loan to settle overdue interest payments-
leaving only about $225 million to finance imports.
In addition, the release of the first $400 million and
establishment of the trade facility are contingent on
Manila's compliance with the IMF's financial tar-
gets for the end of May. Although we expect the
IMF will render a favorable verdict, the earliest the
Philippines can draw on the funds is early this
month because data was not available until late
June. By meeting the targets, Manila will also be
able to draw $107 million in delayed IMF credits.
Outlook: More Adjustment in Store
The medium-term outlook is clouded by the need
for further adjustments. For one thing, the lack of
new investment means that the Philippines will find
it difficult to support an increase in demand with-
out rekindling inflation or an unacceptable leap in
imports. We estimate that the Philippines cannot
sustain current account deficits of $3 billion that
would develop if the economy grew at a 3- to 4-
percent annual rate-still less than the 6 to 7
percent achieved in the late 1970s.
From Marcos's perspective, the political costs of
the economic crisis are far from over. The sluggish
economy and a projected 3.3-percent annual in-
crease in the Philippine working-age population
means that joblessness will continue to increase,
contributing to growing worker unrest. Strikes are
already increasing rapidly. During the first four
months of this year, 31,000 workers staged 127
strikes-an increase of 51 percent over the same
period last year.
The economy will hurt Marcos in local elections
next May and presidential elections in 1987. Mar-
cos's ruling party is taking the brunt of the criti-
cism on the economy, a development that is under-
scored by the opposition's success in increasing its
representation from 12 to 59 in last year's National
Assembly elections. We also believe the economic
crisis will continue to be a valuable asset to the
Communist Party, which has made rapid military
and political gains in the country's most economi-
cally depressed areas.
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Israel: Seeking
the Elusive Austerity
The National Unity government has been only
marginally more successful than its predecessors in
imposing the austerity needed to bring external
deficits under control. Social concerns and political
realities have hindered the implementation of a
long-term stabilization program and have encour-
aged the coalition government to devise a series of
wage-price package deals acceptable to both labor
and producers. The inequities and distortions creat-
ed by these "quick fixes" have only aggravated
underlying economic weaknesses and recently have
sparked new strikes and work actions. With the
effective collapse of the latest package plan, the
government has proposed a host of new austerity
measures, but its political will to implement them
remains uncertain.
move-the memory of the bank shares collapse in
October 1983 was a costly example to Israelis that
living beyond their means had to end.
The government acted quickly upon entering office,
proposing substantial budget cuts, devaluing the
shekel by 8.3 percent, and raising energy prices 9
percent. The next step was to seek a wage-price
accord to cool inflationary expectations and give
the government time to develop a more comprehen-
sive economic program. After weeks of squabbling,
Prime Minister Peres's personal intervention finally
resulted in the first package deal. As modest and
inconclusive as these moves were, they nonetheless
paid some shortrun dividends in terms of a needed
economic slowdown:
A Failed Agenda
The formation of the National Unity government
last September was meant in part to assure biparti-
san support for tackling Israel's growing economic
morass. Seven years of Likud Party rule had left
Israel with soaring inflation and widening external
deficits. The political goals of the Begin govern-
ments-such as returning the Sinai to Egypt, ex-
panding settlements in the occupied territories, and
eventually invading Lebanon to remove the PLO-
in themselves were costly for this resource-poor
state. Likud added to the economic problems by
protecting the voters' pocketbooks to blunt public
opposition to its broader political and security
strategies. Thus, economic downturns were short
lived with private consumption growing sharply.
The new coalition government-with Labor and
Likud controlling at least 85 of the Knesset's 120
seats-possessed the political clout to push through
a long overdue austerity program. Moreover, con-
sumers were psychologically prepared for such a
? The slide into hyperinflation slowed as the
monthly CPI dropped to 3.7 percent and 5.3
percent in December and January, respectively,
compared with monthly rates exceeding 20 per-
cent before the accord.
? Real wages began to erode rapidly because of
temporary modifications in the indexing system.
? Consumption also dropped sharply in the last
quarter of 1984, resulting in a 5-percent decline
for the entire year.
? Unemployment grew to 6.9 percent in the last
quarter, with the 5.9-percent yearly rate for 1984
the highest in nearly two decades.
The government failed, however, to use the breath-
ing space provided by this accord-as well as the
early provision of US economic aid-to implement
a more lasting stabilization program. Moreover, it
encountered great difficulty in executing the bud-
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Israel: Unemployment Rate, 1983-85
subsidy cuts-eliminating most of last year's over-
spending-by increasing fees and taxes, and only
partly by reducing other expenditures.
get cuts initially agreed upon. What few cuts
actually occurred were soon negated by revenue
shortfalls and rising expenditures on subsidies be-
cause of the inclusion of government goods and
services in the price freeze.
The coalition frittered away the last month of
Package 1 seeking minor, politically palatable ways
to correct its deficiencies and since then has ad-
hered to this quick-fix approach. Package 2, Pack-
age 2a, and the spate of additional measures-tax
hikes, higher travel fees, import restrictions, and
the like-were merely cut-and-paste attempts to
close the budget deficit, halt foreign exchange
losses, and recapture the public optimism generated
in the first weeks of Package 1.
The one clear opportunity for action-the 1985
budget commencing 1 April-was also wasted. The
$23.3 billion budget agreed to was slightly higher
than the budget passed in 1984. This year's budget
aims at reducing the deficit largely by continuing
The coalition's waffling already is beginning to
reverse the achievements recorded in the last quar-
ter of 1984:
? Inflation averaged almost 13 percent per month
between February and May and may have ex-
ceeded 20 percent last month.
? Preliminary estimates for the first quarter of
1985 show the unemployment rate dropping
sharply to 5.5 percent.
? Private consumption shows signs of reviving
somewhat instead of falling as predicted, due in
part to periodic upswings in imports of durable
goods.
The government's continuing inaction on the econo-
my is largely the result of severe political con-
straints. The most obvious shortcoming is the fail-
ure of the two major parties to set aside ideological
differences-Likud tends to favor free enterprise
while Labor espouses a quasi-socialist philosophy-
and present a united front.
In addition, political posturing has plagued eco-
nomic strategy sessions because the specter of an
early national election continues to encourage La-
bor and Likud leaders to move cautiously. The
fragility of the coalition-deriving directly from
the uneasy Labor-Likud association-makes the
government's early demise a possibility
Another issue that compounded the paralysis in
economic decision making was the mid-May elec-
tion in Israel's dominant labor confederation, the
Histadrut, that embraces nearly 90 percent of the
work force. Although Histadrut is controlled by
Labor, Likud had made unexpected inroads in past
elections, and both parties felt compelled to play to
their constituencies. This was the major factor
leading to the revisions of Package 2-in particular
the two-month price freeze that, to no great sur-
prise, lasted until shortly after the election.
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Israeli Package Deals
Program Key Measures
Package 1 Prices of all goods and ser-
(4 Nov 1984-4 Feb vices frozen at 2 November
1985) level. The 2 November ex-
change rate used to deter-
mine import prices. Cost-of-
living allowances for wages
held to two-thirds of existing
indexation system. A 5-per-
cent income tax credit for
three months starting in Feb-
ruary.
Package 2 Immediate price hikes of 25
(4 Feb 1985-4 Oct to 55 percent for fuel, water,
1985) public transportation, and
basic foodstuffs due to subsi-
dy cuts. Additional hikes of
12 to 13 percent on average
expected later. Lump sum
payments to workers for two
months equal to one-third
anticipated CPI rise of 6 per-
cent. Normal indexation for
CPI rise above 6 percent.
Price boosts for nonsubsi-
dized goods held to a one-
time 5 -percent hike followed
Election paranoia essentially prevents any politi-
cian from being linked directly to policies leading
to rising unemployment and falling living stan-
dards, both of which would necessarily result from
the major reforms needed to resolve Israel's eco-
nomic crisis. Indeed, an unwritten tenet in Israel is
that the economy must remain strong enough not
only to continue attracting new Jewish immigrants
but also to prevent an outflow of those now residing
in the state. An upturn in emigration last year
coupled with the recent wave of labor unrest no
doubt weighs heavily on the minds of Israeli de-
cisionmakers.
Program
Package 2
(continued)
Package 2a
by monthly increases of 3 to
5 percent thereafter. Exemp-
tion of government goods,
services, fees, and taxes from
price controls. Higher travel
tax, increased deposits on
imports, boosted property
taxes, and the elimination of
interest payments on some
types of saving schemes.
Price hikes averaging 7 per-
cent on 1 April to be followed
by a two-month price freeze.
Additional price adjustments
equal to 80 percent of shekel
devaluation in June followed
by another two-month price
freeze. Supplemented in mid-
May by a hike in the VAT; a
doubling of the travel tax;
and a freeze on public-sector
hiring, wages (excluding nor-
mal indexation), and con-
tracts.
We believe the government can and must imple-
ment a tougher austerity program. Many political
constraints at the moment are more illusory than
real. The Histadrut election is over, and the threat
of an early national election appears to have reced-
ed. Recent public opinion polls suggest that Prime
Minister Peres's opportunity to force a new election
in hopes of forming a labor-dominated government
has passed. And Vice Prime Minister Shamir-the
Likud leader-clearly recognizes that his best hope
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The problem Israeli governments have in coping
with austerity is demonstrated by the troubles
surrounding the ATA textile firm. This company
located near Haifa, employs about 2,200 people as
well as indirectly offering support to numerous
small businesses nearby. The plant is nearly 50
years old and for several years has lost money
because it cannot compete effectively with newer,
more efficient textile plants worldwide.
is about $20 million in debt and
would require an additional $20 million to up-
grade.
Israeli governments have not let the plant die
because of the limited employment opportunities in
the immediate vicinity for such a large number of
employees. At least several million dollars of
government funds already have been pumped into
the plant over the past couple of years to stave off
closure. Nonetheless, about 400 employees were
I I I
90 IV I II 111 IV 1 II III IV 1
1982 83 84 85a
released in March.
Sharp divisions within the coalition exist as to how
to handle the situation. Peres would like to keep
the company going although some of his economic
advisers, including Finance Minister Modai, wish
to do nothing. Industry Minister Sharon has un-
successfully sought to obtain government funding
to help find a private buyer. Histadrut leader
Kessar has supported the Sharon plan and pro-
posed that the union confederation buy some of the
company's assets, particularly land, to help raise
funds.
Nondurable
consumption
Total
consumption
of assuming power is to wait for his turn in the
prime-ministership in the fall of 1986 under the
terms of the coalition agreement.
In addition, we believe that consumers would ac-
cept a further dose of austerity, despite official
claims of the severity of last year's downturn:
? Although real wages plummeted in the final
quarter for the year, they finished only slightly
below the 1983 level.
The issue has been complicated by a 28 May ruling
in the Haifa district court to close the plant. ATA
workers immediately barricaded themselves in the
plant, and some began a hunger strike. Press
coverage of the protesters, who include Holocaust
survivors, is generating a great deal of public
sympathy. On 30 May an estimated 1.3 million
Histadrut members staged a one-hour strike to
demonstrate solidarity. The ATA plant has be-
come a test case on unemployment for the National
Unity government.
Israel: Private Consumption and
Real Wages, 1983-85
? The "unprecedented" drop in consumption was
due largely to reduced imports of consumer dura-
bles such as TVs, VCRs, and cars. Consumption
of most other goods was much less affected.
? A thriving "underground" economy allows many
Israelis to circumvent official policies. For exam-
ple, last year's wage decline was surprisingly
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accompanied by a sharp rise in the private sav-
ings rate according to the IMF and Bank of
Israel. Thus, a comfortable nest egg still exists for
many Israeli citizens.
The government may be deterred by recent work
actions instigated by both labor and producers. To
date, much of the unrest, however, reflects the
concerns of those most heavily hit by the inequities
resulting from wage-price accords, and this unrest
does not necessarily imply that the populace will
not tolerate any erosion of living standards. Strikes
or shutdowns by taxi drivers, truckers, gas station
dealers, and food producers, for example, stemmed
from growing losses directly attributable to price
ceilings. The sudden surge of work actions by
public workers probably arose out of the latest
government machinations that give tax breaks and
hints at better job security to workers in the
"producing sectors" of the economy. And strikes by
teachers and textile workers can be partly linked to
some policies that predate the National Unity
government.
With the effective collapse of Package 2, the
government has approved a new plan for more
equitably applied economic stabilization. Its main
features are:
? Reducing government spending by $750 million
on an annual basis.
? Imposing additional taxes on corporations, self-
employed individuals, and luxury apartments.
? Reducing public-sector employment in selected
ministries.
? Allowing price increases to correct for subsidy
reductions along with partial real wage compen-
sation, to be followed by a three-month general
wage-price freeze.
? Devaluing the shekel by nearly 19 percent.
Reaction to the new austerity plan predictably has
been sharply critical. Cabinet voting split essential-
ly along party lines as seven of 10 Likud members
opposed it, and most Labor members voted in
favor. In addition, the Histadrut argues that the
plan disadvantages workers. Histadrut has called
for a national strike as a show of force against the
plan, but support for it appears to be diminishing.
continued high-profile personal intervention
will be imperative to maximum prospects for imple-
menting the new program.
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Persian Gulf Oil:
Little Change in Long-Term
Strategic Importance
Although the present combination of excess oil
supplies and weak oil demand provides considerable
protection against supply disruptions in the near
term, industry forecasts indicate that the supply
cushion will shrink in the years ahead. The depend-
ence of the industrialized countries on oil from the
Persian Gulf is expected to increase by the early
1990s because of rising consumption and lower oil
production. At the same time, they will be more
vulnerable to supply cutoffs and renewed upward
pressure on oil prices despite the success of policies
to conserve energy, diversify away from oil, and
build strategic oil stockpiles. Weak market condi-
tions, however, are causing some complacency in
consuming countries and are reducing incentives to
invest in new productive capacity.
Non-Communist Proved Oil Reserves,
Yearend 1984
North America
5.5 r- Western Europe 3.9
Dependence on Persian Gulf Oil Supplies
The Persian Gulf region remains a critical source
of oil supplies for the non-Communist world. The
Persian Gulf countries produced an estimated 12
million b/d in 1984, roughly 25 percent of total
non-Communist output while available productive
capacity approximates 17 million b/d. Currently,
nearly 80 percent of the supply cushion is in Saudi
Arabia. Despite lower use and increased produc-
tion, OECD countries as a group still relied on the
Persian Gulf for about one-fifth of total consump-
tion in 1984. US oil imports from Persian Gulf
countries were 500,000 b/d-roughly 3 percent of
consumption. Western Europe and Japan are more
dependent, relying on the Persian Gulf countries
for about 25 percent and 60 percent of oil require-
ments, respectively.
Both developed and developing countries will re-
main highly dependent on oil from the volatile
Persian Gulf. We expect that at least one-fourth of
total non-Communist supplies will continue to pass
through the Strait of Hormuz into the mid-1990s.
Even the United States-despite its sizable oil
stockpile-would not be immune to an oil supply
disruption. A rise in world oil prices would cause an
equivalent increase in domestic US prices. IEA
members have agreed in principle that any shortfall
would be shared.
Most market forecasts project that the non-
Communist world will experience real economic
growth of about 3 percent per annum in 1985-95
and that oil prices will fall in real terms through
1990 and then hold fairly steady for the next five
years:
? Non-Communist oil consumption is expected to
rise slowly through the mid-1990s. Most of the
growth in oil use is expected to occur in the less
developed countries while consumption in OECD
countries holds steady or rises slightly.
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Non-Communist Oil Production and
Available Capacity, 1984
Available
Capacity
Surplus
Capacity
Total
45.0
53.3
8.3
OPEC
18.9
26.8
7.9
Persian Gulf
11.6
17.2
5.6
Iran
2.4
3.2
0.8
Iraq
1.2
1.2
0
Kuwait
0.9
1.3
0.4
Qatar
0.4
0.6
0.2
Saudi Arabia
4.4
8.0
3.6
United Arab Emirates
1.2
1.7
0.5
Neutral Zone
0.5
0.6
0.1
Natural gas liquids
0.6
0.6
0
Non-Persian Gulf
7.4
9.6
2.2
Algeria
0.7
0.8
0.1
Ecuador
0.3
0.3
0
Gabon
0.2
0.2
0
Indonesia
1.4
1.6
0.2
Libya
1.1
1.8
0.7
Nigeria
1.4
2.2
0.8
Venezuela
1.7
2.2
0.5
Natural gas liquids
0.6
0.6
0
Non-OPEC a
26.1
26.5
0.4
? Most forecasters expect non-OPEC supplies to analysts believe 2-3 million b/d of spare capacity is
trend downward. According to most industry needed to ensure price stability. Industry assess-
forecasts, higher LDC output will be more than ments indicate that surplus production capacity
offset by lower production in the United States will become increasingly concentrated in the Per-
and Western Europe and a decline in net exports sian Gulf region.
from Communist countries.
Reduced spending on development and mainte- Future Import Dependence and Vulnerabilities
nance of oil productive capacity in OPEC countries
has already caused available capacity to decline 8 We expect that US oil import dependence will rise,
million b/d from its 1977 peak of nearly 35 million and other major developed countries will remain
b/d. Given our estimate of demand for OPEC oil,
surplus available capacity will range from 2 to 5
million b/d in the early-to-mid-1990s. Industry
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OECD: Economic Indicators and Oil Price Trends, 1973-84
Change in Landed
Crude Oil Price
Consumer Price Growth
heavily dependent on oil imports-particularly
from the Middle East-through the mid-1990s.
Nearly 65 percent of total non-Communist oil
reserves are located in Persian Gulf countries:
? US oil imports will be more than one-third of oil
consumption by 1995, according to industry
studies.
? Western Europe will rely on imports for about
three-fourths of oil requirements.
? Japan will remain virtually totally dependent on
foreign supplies.
Industrialized countries have considerable protec-
tion against a short-term oil supply disruption
because available surplus capacity is about 9 mil-
lion b/d this year. Only some 2-3 million b/d of
that surplus, however, is outside the Persian Gulf.
As excess productive capacity erodes, the non-
Communist world will face increased reliance on
Persian Gulf oil supplies. Under these circum-
stances even a relatively minor disruption could
trigger another crisis.
Producing Country Policies and Interests
The availability of alternate oil supplies in the
event of a disruption depends in large part on the
willingness of countries with excess capacity to
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increase output. The Persian Gulf countries are not 25X1
homogeneous in production capabilities or policies.
Because Saudi Arabia accounts for the largest
portion of this excess capacity, an early decision by
Riyadh to raise production to offset a supply
shortfall in a disruption-assuming Saudi produc-
tion and export capabilities were still intact-would
be critical to minimize market uncertainty and
upward pressure on oil prices.
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Oil Supply and Demand Projections Million b/d
1984
Preliminary
1995
-
Non-Communist oil
45.7
49.5-53.5
51.0
consumption
Of which:
United States
15.7
14.5-16.5
15.8
Western Europe
11.5
11.8-12.6
12.1
Japan
4.5
4.1-4.8
4.5
Oil supplies a
45.7
49.5-53.5
51.0
Of which:
OPEC
18.9
21.3-29.2
25.5
Non-OPEC
26.1
24.2-29.4
25.5
Of which:
United States
10.4
7.6-8.9
8.6
Western Europe
3.8
2.7-3.6
3.1
Net Communist
1.6
-2.0-1.9
1.3
exports
Net import requirements
United States
4.7
6.6
Western Europe
7.7
9.1
Japan
Decisions taken by Saudi Arabia and each of the
other Persian Gulf oil-producing countries regard-
ing their oil productive capacities and price policy
will influence the future path of oil prices, even in
the absence of an oil supply disruption. The precise
role each of these countries will play is difficult to
assess, but, because Riyadh has an interest in
preserving a long-run market for Saudi oil, Saudi
price policy probably is more complementary to the
interests of the oil-consuming nations than other
producers with larger populations and lower oil
reserves. The negative effects of past supply disrup-
tions and the resulting decline in the demand for
OPEC oil in recent years appear to have reinforced
the Saudi belief that major oil producers and
consumers have a common interest in world oil
price stability.
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Vietnam: Rubber Exports for
Western Markets
As part of its drive to circumvent the US-led
international trade and aid embargo, Hanoi is
looking to increase exports to the West from a
rehabilitated natural rubber industry to earn des-
perately needed foreign exchange. Vietnam has
already had modest success in reviving neglected
and war-damaged plantations in the south, and,
over the next two years, we expect Hanoi to
accelerate attempts to obtain modern rubber-pro-
cessing equipment and technology from the West
and possibly seek to join the International Natural
Rubber Organization (INRO). This export push
may increase strains with the Soviet Union because
a 1983 agreement with Moscow requires Hanoi to
pay for development assistance with exports of raw
materials, chiefly rubber.
aid, technology, and potential markets. As a result,
as many as 80 percent of the trees planted in 1976-
79 died, according to Vietnamese press accounts.
The situation improved somewhat in the early
1980s because of a combination of incentive-based
economic reforms and a sharp increase in Soviet
Bloc aid aimed specifically at the rubber sector.
With Moscow's help, Hanoi drew up systematic
plans for renovating existing plantations and ex-
panding the area under cultivation. The Soviet
Union and Bulgaria agreed to supply material and
equipment for planting 70,000 hectares of rubber,
effectively doubling productive capacity. Moscow,
moreover, provided the tractors, fertilizer, technol-
ogy, petroleum, and markets Hanoi could no longer
Rubber Rehabilitation Strategy
In the mid-1960s the natural rubber industry in
South Vietnam-although small by international
standards-was the country's top foreign exchange
earner. The French-owned plantations produced a
high-yield, premium-priced latex. The Vietnam
war, however, cut the area under cultivation by
two-thirds to about 40,000 hectares in the early
1970s, with production and exports dropping pro-
portionately. Much of the rubber-processing equip-
ment was also destroyed.
Hanoi's initial efforts at renovation after taking
control of South Vietnam in 1975 proved disas-
trous. Nationalizing the plantations and processing
companies drove out the remaining French mana-
gerial and technical talent. Many of the skilled
Vietnamese workers also fled the country, and a
large share of the hundreds of thousands of unem-
ployed who were moved to rubber-growing areas
without adequate provisions and shelter soon left,
preferring life as undocumented urban residents. In
addition, the Vietnamese invasion of Cambodia in
1978 cut Hanoi off from international development
get from the West.
On the labor side, workers at rubber plantations
designated as new economic zones were better
provisioned, and a performance-based incentive
system was introduced for planters, maintenance
workers, and tappers. Hanoi also used division-
sized army units to clear and plant rubber estates,
according to refugee reporting.
Progress So Far
Vietnamese statistics indicate that recent efforts
have begun to pay off. Beginning in 1981, planting
accelerated sharply, and maintenance improved in
response to higher procurement prices and other
incentives. The area planted to rubber has trebled
since 1975 and now approaches the level of the
mid-1960s, according to Vietnamese statistics.' Ex-
ports, largely to the Soviet Bloc, totaled 45,000
Secret
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Vietnam: Rubber and Industry
Recovery, 1975-84
Area Planted to Rubbers
Thousand hectares
120
Production
Thousand metric tons
80 40
40 20
Exports
Thousand metric tons
metric tons last year-about double since 1975. A
few thousand tons were sold on international mar-
kets.
Although the survival rate of new trees is still low
by industry standards, a substantial proportion
planted since 1980 should begin producing latex in
the next two to three years. Domestic use of
rubber-for tires, shoes, and insulation-will prob-
ably expand, but Hanoi clearly intends to export
most of the increased production for hard currency.
Hanoi hopes soon to export
rubber and other crops to the West to ease Viet-
nam's hard currency debt burden.' Top Politburo
members, moreover, have characterized rubber ex-
ports as a matter of "strategic significance."
Eying International Markets
Hanoi is likely to find boosting rubber sales to the
West more difficult than increasing production.
Vietnamese officials admit that processing equip-
ment is dilapidated and quality control poor. Hanoi
will thus be forced to sell in the low end of an
increasingly high-quality, standardized market.
Moreover, world demand for rubber remains de-
pressed, and Hanoi faces sharp competition from
higher quality latex produced by Malaysia, Thai-
land, and Indonesia-the dominant rubber produc-
ers. Marketing-particularly competitive pricing-
remains an alien concept to the Vietnamese.
Nonetheless, to circumvent the US-led internation-
al trade and aid embargo, Hanoi is likely to try
over the next year a variety of tactics to improve its
prospects of selling rubber to the West:
? Stepping up efforts to obtain modern rubber-
processing technology from companies based in
Malaysia and Singapore.
? Encouraging Western investment in joint ven-
tures to produce rubber products. Hanoi is al-
ready talking about
establishing a modern tire factory in Ho Chi
Minh City.
? Attempting to join INRO to improve its image as
a natural rubber producer. Stiff opposition is
expected from Malaysia, Thailand, and Indone-
sia, who oppose Hanoi's Cambodia policy.
' Hanoi has been in de facto default on its $1.7 billion hard
currency debt since 1982. The IMF in January suspended Viet-
nam's access to the Fund's general resources because of arrearages
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New Hard Currency Export Push
Hanoi over the past few months has taken several
halting, but nonetheless important, steps to boost
foreign exchange earnings and regain access to
Western credit markets. We believe these moves
are part of a general policy to reduce the resources
devoted to the occupation of Cambodia in order to
get started on the 1986-90 economic plan:
Hanoi is encouraging West Euro-
pean countries to establish joint ventures.
? Hanoi hopes to send Vietnamese guest workers
to France and Italy to earn foreign exchange.
? Hanoi devalued the currency by 90 percent early
this year in an attempt to boost exports.
? Possibly to pave the way for an approach to the
IMF, the Politburo last month ratified long-
debated measures to curtail expensive food and
salary subsidies.
Straining Soviet Relations?
ment.
A major stumblingblock to hard currency rubber
exports is a 1983 long-term economic cooperation
agreement with the Soviet Union. Under this
agreement, we believe Hanoi promised to export
increasing quantities of raw materials-including
rubber-to the Soviet Union as payment for eco-
nomic aid. Although we have no reason to believe
Moscow opposes Hanoi's quest for trade with the
West, the Soviets probably will put pressure on the
Vietnamese to live up to the terms of the agree-
We thus expect Vietnam to have moderate success
in boosting rubber sales to the West over the next
few years. Although the additional foreign ex-
change will by no means solve Vietnam's debt
problem, it will help ease critical shortages of food,
fertilizer, and fuel. Moreover, the experience
gained in this venture can-if Hanoi takes advan-
tage of it-be transferred to the marketing of other
products in the West.
? Expanding markets for rubber exports to West-
ern Europe on both a cash and countertrade
basis. Earlier this year Hanoi offered to pay for
Spanish and Portuguese goods with rubber and
rubber products.
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China: Coping With
Accelerated Growth
China's industrial output has been accelerating
since 1983. Beijing welcomes rapid growth as an
indicator that industrial reforms are achieving suc-
cess but worries that an overheated economy will
aggravate shortages of energy and raw materials,
strain transportation facilities, and add to inflation.
Unlike in the past, when reforms were halted in the
face of problems, Beijing has adopted a combina-
tion of administrative measures and Western-style
monetary and fiscal adjustments to bring the econ-
omy under control. Growing worker expectations of
improved living standards and the view of manag-
ers and local officials that rapid growth is the key
measure of their performance, however, may make
it more difficult to slow the economy than Beijing
China: Economic Performance Percent change
except where noted
anticipates.
We believe that the rapid industrial growth has
been caused, in part, by sharp increases in personal
income and investment spending. According to a
PRC-controlled Hong Kong newspaper, in first
quarter 1985, urban wage bills and bonus payments
by state-run enterprises grew at annual rates of
41 percent and 104 percent, respectively, while
capital investment rose at a 33-percent rate. This
followed a 19-percent hike in wages and bonuses
and a 22-percent jump in capital investment in
1984. Much of the growth in income and invest-
ment spending in 1984 was funded by domestic
bank loans, and we believe the money supply grew
much faster than planned.
Bumper harvests-largely the result of agricultural
reforms implemented during the past six years-
have increased the availability of raw materials for
industrial use, while boosting rural incomes and
fueling consumer demand. China's economy proba-
bly has also benefited from efficiency gains caused
by the appointment of better educated, technically
competent managers and Beijing's increased em-
phasis on enterprise profitability. In addition, high-
er production was spurred by increased ability to
Current account balance b
(billion US $)
Foreign exchange
(billion US $)
a First-quarter output at an annual rate.
b CIA estimates.
c End of March foreign exchange balance.
sell over-quota production at prices above the state-
set levels. The gradual extension of industrial re-
forms over the last few years has also had a positive
impact.
Dangers Ahead
Although welcoming the surge in industrial output
as an indicator that policies are on track, Chinese
leaders have expressed concern that such rapid
expansion will exacerbate long-standing problems
in the economy and, in fact, undermine reform
efforts. Despite impressive increases in the produc-
tion of coal, oil, and electricity in the first quarter,
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In the last six years Beijing has implemented
economic reforms that reduce the scope of central
planning while placing greater reliance on market
signals to guide China's economy. Although eco-
nomic reform will not transform China into a
capitalist country, it does represent a sharp break
with orthodox Marxist economic practices.
Agricultural Reforms
The "household responsibility system" that was
introduced in 1979 gave peasant families effective
control-but not ownership-over farmland, al-
lowed peasants to lease land, and gave them
leeway to manage the land as they wanted. Peas-
ants, in return, had to meet production quotas but
could sell above-quota output to the state at
premium prices or market it themselves. To en-
courage greater production, in the spring of 1979,
Beijing raised procurement prices of all major
farm products.
Industrial Reforms
Experiments with industrial reforms have been
under way since 1979. In October 1984, the party
formally approved a broad set of measures that are
designed to improve industrial performance. The
new policies will diminish the scope of central
planning: only major products-such as steel, pe-
troleum, and chemicals-will remain under man-
datory state production quotas. Most other goods
will be produced under state "guidance" plans
flexible enough to enable enterprises to adjust to
changing market conditions. Some consumer
items, many agricultural products, and the over-
quota production of most goods will be traded in
essentially unregulated markets.
A major goal this year is to increase the authority
of enterprise managers and reduce the control of
party and government officials over decisionmak-
ing in factories. Managers already have more
leeway to develop production and marketing strat-
egies and set prices and wages and are increasingly
held accountable for profits and losses. Competi-
tion between enterprises is encouraged.
Beijing has begun to adjust domestic prices by
instituting a three-tiered price structure. Prices of
key products, such as coal and steel, will still be
set by the state but at levels that better reflect
relative scarcities. The prices of many other prod-
ucts will fluctuate within bounds set by the state.
Supply and demand alone will determine the prices
of minor consumer goods and over-quota produc-
tion of industrial goods.
This summer China plans to introduce a wage
system that will link workers' wages and bonuses
with the economic results of their enterprises.
Enterprise wage funds will float upward or down-
ward based on profits and the amount of taxes
delivered to the state. More productive workers
will receive higher pay, and wages will also reflect
seniority, the cost of living, and skills in demand.
Beijing has eliminated the system under which
enterprises were required to turn over all profits to
the state. Enterprises now pay a share of their
profits in taxes, and enterprise managers have
considerable leeway to use aftertax profits for
worker bonuses or investment.
Reform leaders intend to transform China's banks
from fund disbursing organs to independent
banks-responsible for their own profits and
losses-that operate under broad state supervi-
sion. Beijing is also encouraging the development
of private credit institutions in the countryside as a
supplement to the rural banking system.
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Secret
energy supplies are strained. Additions to the trans-
portation network have not kept pace with the
growth in industrial output, and the system remains
seriously overburdened. Chinese media report that
factories must suspend production occasionally for
lack of electricity and raw materials.
Growth has also been accompanied by a rapid rise
in imports. According to Premier Zhao Ziyang,
recent output levels were possible only because
China imported large amounts of raw materials.
Imports of rolled steel last year, for example, were
equivalent to about one-third of China's total steel
production for the year, yet China's machinery
industries still face shortages of rolled steel, as well
as pig iron, copper, zinc, and other raw materials.
Large imports, moreover, are cutting into China's
foreign exchange holdings, which dropped by $5.5
billion since last September.
Inflation is a growing concern as the high demand
for consumer goods, equipment, and building mate-
rials continues to outstrip production. Rising prices
fueled by excess demand for finished goods and raw
materials threaten public acceptance of the overall
reform program.
Beijing seems especially concerned that recent eco-
nomic successes may have induced local officials to
set unreasonably high production targets, fearing
that undue emphasis on growth will cause resources
to be used wastefully. Chinese media report rising
production costs, wearing out of equipment, in-
creasing occupational hazards, and worsening pol-
Beijing is moving to cool the overheated economy
by implementing a combination of administrative
controls and Western-style macroeconomic adjust-
ments. China's 1985 budget, announced in March,
calls for slowing the rate of growth of government
spending, reducing administrative expenditures by
government units, and narrowing the budget defi-
cit. Beijing is also attempting to ease inflationary
pressures by absorbing excess currency. According
to press reports, Beijing this year is importing $2
billion worth of consumer goods-such as color
TVs, refrigerators, and cars-and selling them in
state-run stores. In April, Beijing raised interest
rates on time deposits held by individuals and
enterprises. Rates on loans for working funds and
capital construction also were raised, and officials
have stated their intention to raise rates for other
types of loans soon.
Beijing is tightening control of the banking system
and the People's Bank of China, its central bank, in
particular:
? The People's Bank will now set quarterly credit
limits for its branches and China's specialized
banks.
? Banks have been ordered to stop offering loans to
inefficient enterprises and firms that produce
poor-quality products for which there is little
demand.
? No loans are to be extended for capital construc-
tion projects for which spending exceeds the state
quota or for projects not listed in the state plan.
? Banks also have been ordered to make a better
effort at collecting overdue loans, and a new
regulation allows banks to take over assets of
borrowers who cannot repay their loans.
To prevent indiscriminate increases in wages and
bonuses, enterprises must now establish special
accounts for their wage funds, which will be moni-
tored by the banks. Beijing has also ordered more
rigorous efforts to recover back taxes on worker
bonuses and has suggested that it will implement a
tax on personal income above a designated level.
Since 1 April no departments or work units have
been allowed to increase their payrolls, and changes
will not be permitted until this month.
We believe that these policies will achieve some
success in slowing industrial growth. Nevertheless,
the task will be more difficult than Beijing antici-
pates. Exhortations to "get rich" through hard
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work are generating rising expectations among
workers for an increase in their standard of living.
Moreover, many local officials view "reform" as
synonymous with rapid growth in output and will
continue pressuring enterprise managers to prove
their competence by increasing production. Con-
sumer spending will remain high for some time
because of peasants' large cash holdings and the
widespread expectation that prices will rise further.
Beijing is determined to slow the economy gradual-
ly by strenghtening oversight and control without
backtracking on fundamental reforms. This re-
sponse seems to us qualitatively different from past
reactions to similar economic problems. Beijing is
proceeding with the reform program-implement-
ing politically sensitive hikes in urban food prices,
pressing ahead with management reforms, and
reiterating its intention to implement wage reforms
in July.
Despite the gains from Beijing's policies, most of
the industrial reforms remain controversial and
therefore vulnerable to political setbacks. Reforms
must be deepened and the contradictions resolved
between managerial autonomy and the lack of
market discipline for enterprises that make poor
choices. Otherwise, rapid industrial growth will
strain government revenues and foreign exchange
holdings, energy and transport bottlenecks will
worsen, and inflation will increase.
Secret 24
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Secret
UK Oil Technology
Development
Norwegian Gas
Sales Negotiations
PEMEX Increasing
Safety Measures
Energy
London has initiated a policy requiring that foreign oil companies seeking new
offshore licenses must be willing to involve UK industry in new offshore
technology and R&D projects through joint ventures or licensing arrange-
ments. Similar policies have existed for some time in Norway and other
countries. In the first test of the new policy, Royal-Dutch Shell-at the behest
of the UK Department of Energy-pressured Bechtel GB Ltd. to form a joint
venture with Britain's Wimpey Offshore Engineers to compete on the design
contract for the Gannet/Kittiwate field in the central North Sea. The new UK
policy will help Britain become more competitive in the worldwide offshore oil
equipment and services market later this decade when most analysts see the
next major market resurgence. These gains will be largely at the expense of the
already troubled US petroleum equipment and services industry.
if North Sea gas resources are not developed.
Natural gas sales by Statoil-the Norwegian state oil company-to a
consortium of West European buyers are progressing well, according to recent
press reports The two sides tentatively
have agreed that deliveries under a proposed 20-year contract will start in
1995. Volumes are to rise gradually to 15 billion cubic meters annually with an
option to increase deliveries after 2000. Although the bulk of this gas will come
from the Troll field, gas from other fields will be supplied as well. Questions on
price and seasonal deliveries will be addressed in September. Statoil is
optimistic that agreement can be reached by the end of the year, but past ne-
gotiations suggest these talks could take much longer. If agreement is reached,
Continental West European dependence on Soviet gas in 2000 could be
reduced to about 30 percent of consumption compared with nearly 40 percent
Mexico's state-owned oil company PEMEX has stepped up the purchase arid
installation of safety equipment as a direct result of last year's explosion at a
Mexico City gas storage facility. Financial constraints, however, including
downward pressures on oil prices, may slow PEMEX's plans.
safety at its notoriously dangerous facilities.
the Mexican press reports that PEMEX
plans to hire over 5,000 additional workers to increase maintainence of
outdated equipment. Despite financial problems, the public outcry after the
San Juan Ixhuatepec disaster is likely to keep pressure on PEMEX to increase
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5 July 1985
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/Moroccan Oil ' Y'
11Supply Update
Morocco's oil import mix reflects Rabat's increasing dependence on conces-
sional oil arrangemets. Deals with Saudi Arabia, Libya, and the UAE have
provided up to 60 percent of Morocco's oil needs through May 1985 at up to $3
per barrel below official prices, according to the US Embassy in Rabat. These
arrangements also allow for long-term payment or provide concessional loans
to ease the burden on Rabat's weak foreign payments position. The difference
between domestic petroleum prices and import costs is used to finance
development projects and help meet Morocco's debt service obligations. The
US Embassy says that public disclosure of these concessional purchases has
been withheld to gain more favorable terms on a new IMF standby loan and
debt rescheduling agreement. The import mix, however, is ill suited to
Morocco's needs, yielding a surplus of light products and a shortage of fuel oil.
011 and Gas Finds in
Pakistan Confirmed
Secret
5 July 1985
million cubic meters per day and be completed by March 1986.
firms for a natural gas refinery. The refinery is to have a capacity of about 5
Union Texas has confirmed oil and natural gas finds in the Badin area of Sind
Province. These finds test at about 5,500 b/d of petroleum and 21 million
cubic meters per day of natural gas. Pakistan's production is now about 35,000
b/d of petroleum and nearly 30 million cubic meters per day of gas. Limited
pipeline capacity from the oilfields to refineries will probably hamper Islama-
bad's ability to rapidly exploit these finds. A Pakistani gas transmission
company has recently signed a contract with a group of British and Japanese
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Secret
Bulgarian Energy
Problems
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large hard currency outlays have been approved
for modernization and construction of energy production facilities. The need
for Western machinery and equipment is implicit in Bulgaria's investment
plans, which emphasize energy efficiency and development of domestic energy 25X1
sources. The Ministry's action may reduce some of the bureaucratic inertia
that has slowed major energy development projects. 25X1
Western firms specializing in energy-related technology, and
Bulgaria's recently created Ministry of Energy is anxious to upgrade energy
production facilities to prevent a recurrence of last winter's energy shortage,
according to the US Embassy. Energy Minister Todoriev has held talks with
Western imports will
not solve the construction delays and shortages that have plagued large nuclear
power and coal projects, nor enable Bulgaria to reduce significantly its
dependence on the USSR for energy supplies. 25X1
Mexican Foreign Mexico City's announcement last week that banks soon will buy and sell
Exchange Measure dollars at free market rates-currently between 75 and 100 pesos above the of-
ficial "market" rate of 245 pesos per dollar-has eased pressures on the
exchange market. According to the US Embassy, this reflects customers
adopting a wait-and-see attitude about how the new measures will work.
Financial officials are likely to see the market response as an indication that
they can hold off other action on the exchange rate until after the 7 July mid-
term elections. The scope of this measure will be limited because about 80 per-
cent of government transactions currently are made at the controlled rate of
about 230 pesos per dollar. In our view, Mexico City's ability to stem currency
speculation and capital flight over the longer term will depend on the
government's willingness to devalue sufficiently to achieve a competitive
exchange rate.
'hailand Receives The IMF earlier this month approved a $585 million assistance package to
support the economic austerity program Bangkok launched last fall. In
addition to $399 million in standby funds-which may be drawn in $50 million
installments through March 1987-Bangkok will receive $185 million in
compensatory financing. Thailand must meet performance targets that include
ceilings on domestic banking credit and on new commitments of public and.
publicly guaranteed external debt. The IMF program will enable Bangkok to
cut its foreign commercial borrowing and slow the growth of the country's debt
service ratio, which rose from 17 percent in 1980 to 24 percent last year.
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Global and Regional Developments
ntential Lufthansa The board of directors of Lufthansa Airlines voted in mid-June to buy 50
approval and financing arrangements are still required to complete the deal.
he estimated $2 billion order includes 10 A30 s, 25
A310s and 15 A320s; the options are for 25 A320s. Formal government
Airbus Industrie (Al) aircraft and take options on 25 more
the Lufthansa purchase included 10 Boeing 737-
The massive Airbus purchase by
E ropean Fighter
market share in an industry that is a major contributor to US exports
Lufthansa-a traditional buyer of US aircraft-especially when combined
with the recent Pan Am deal, will spur additional Al sales. Potential customers
include United, Delta, Spain's Iberia, Belgium's Sabena, and perhaps British
Airways. In addition, we believe Lufthansa's decision on the A320 may be tied
to a commitment by Al to develop a long-range transport, the A330, long
sought by the German carrier. The size of the Lufthansa sales, combined with
a growing "family" of Airbus aircraft, likely means further erosion of US
Uncertainty continues to mount over the future of the five-nation European
Aircraft Update Fighter Aircraft (EFA) program.
'ewer Egyptian
/Laborers in
Saudi Arabia
Secret
5 July 1985
Ithe British and French Defense Ministers
continue to publicly express a quiet optimism, and President Mitterrand
reaffirmed his commitment to EFA at the Paris air show. Dassault, France's
premier builder of fighters, could find its intransigence tempered by the
government's control of funding and by pressure from France's aerospace
industry association headed by Mitterrand's brother. Despite a basic econom-
ic, political, and technical impetus for the group to remain intact, the next
meeting of the defense ministers, scheduled for mid-July, could be pivotal. F
Egyptian workers lose jobs to Asians who work for less money.
Egyptians as teachers and skilled civil servants, and skilled and unskilled
Egyptian worker remittances from Saudi Arabia have decreased substantially
as a significant number of expatriates have left the country, and many others
are accepting lower wages, according to the US Embassy in Riyadh. Prime
Minister Ali's claim that remittances this year are off by 50 percent is
probably greatly exaggerated-firm data are unavailable-but the IMF has
revised its estimate downward from $3.9 to $3.6 billion. The decline in worker
remittances along with stagnation in foreign exchange earnings from oil and
the Suez Canal will further complicate Egypt's foreign payments problems.
Although Riyadh will continue to rely on a large foreign labor force, the
number of Egyptians will continue to decrease from the 1984 level of 428,000
as increasing numbers of Saudi university graduates gradually replace many
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2
Japanese Low-Cost
Advanced Composite
Fibers
Portuguese Current
Account Deficit
Improves
National Developments
Developed Countries
technology under license.
Japan has developed a high-performance, low-cost carbon fiber from coal tar
pitch that, if successful, will increase its world leadership in this technology,
with applications in the aerospace and automobile industries. According to the
Japan Economic Journal, a government industrial research institute has
developed a carbon fiber that the institute claims is much better than current
pitch-based fiber and as good as synthetic-based fiber, but much cheaper.
Japanese claims of superior properties, however, tend to be based on their best
laboratory results and usually exceed what is possible in near-term production.
Full-scale Japanese
production of high-performance, pitch-based carbon fiber could occur within
two years. If industrial production of the fiber is successful, Japan will be in a
position to dominate all facets of carbon-fiber technology, from precursors to
finished fibers. The improved process will lower the price of carbon fiber
without lowering the quality, allowing wider applications. Other countries,
such as the United States and the USSR, have yet to develop such a fiber and
many find it more economical to buy it from Japan or, if possible, to obtain the
Portugal's continuing recession prompted a first-quarter decline in the current
account deficit to $69 million from $267 million in the first quarter of 1984.
Weak domestic demand was largely responsible for a 14-percent fall in dollar
terms in imports that more than offset negative developments in the current
account. Exports increased only $5 million because of slower growth in
Lisbon's major trading partners, while the services deficit widened by $25
million because of falling tourism receipts and rising interest payments. At the
same time, worker remittances declined $100 million. Assuming domestic
29 Secret
5 July 1985
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demand picks up during the last half, the current account deficit probably will
again widen. The first-quarter results suggest, however, that the yearend
deficit will come in under the government's $850 million projection.
enyan Budget
Reforms
Lack Potential
Kenya's recently announced fiscal year 1985 budget reiterates the govern-
ment's commitment to improving investment incentives but contains few
important changes in economic policy. The most significant measures are new
tax incentives that increase the investment deduction rate from 20 percent to
50 percent for investments outside Nairobi and Mombasa, a reduction in the
writeoff period for capital expenditures in agriculture from five years to three,
and suspension of the capital gains tax. Price controls, local borrowing
restrictions for foreign firms, and excessive government redtape for new
investors, however, will continue to discourage investment. These impediments
plus an 11-percent cut in development spending will keep the growth rate well
below the projected 5 percent. As a result, Kenya's 4.2-percent population
growth rate is likely to continue to impede economic progress.
Ta an Investment V Under its two-year Caribbean and Central America investment incentive
i the Caribbean program (initiated September 1984) six Taiwan trade and investment missions
have visited the Caribbean area over the past eight months. Taiwan hopes to
boost its total investment to $50 million in the region by September 1986 by
attracting $500,000 investments from 100 Taiwan companies. To date,
however, Taiwan's Foreign Trade Commission has approved only six projects
totaling $3 million for the Dominican Republic, Guatemala, Honduras, and
Panama. The projects will produce yachts, sports shoes, asbestos shingles,
furniture, and clothing-all likely to be targeted at the US market. The region
offers a locale from which Taiwan can try to bolster sales dampened by quotas
that restrict its direct exports. At least one Taiwan firm, however, has already
left upon learning that Caribbean Basin Initiative incentives are not available
to third-country firms. Taiwan's objectives are also politically motivated,
serving to strengthen existing diplomatic ties and to express Taiwan's support
for US policy.
Less Military Support
for Soviet Harvest
only limited military support for this year's
harvest, suggesting the Politburo decision in 1984 to withhold large-scale
military support is still in effect
Weather conditions through late June were
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avorable, overall output may well be larger than last year. Soviet officials
are likely to limit military support to specific areas where the danger of losing 25X1
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Secret
? Soviet Plant
Officials Jailed After
Pollution Accident
credits during the period 1986-90 on easier repayment terms, reschedule
repayment of earlier credits, and increase exports of goods to meet Hanoi's
"urgent needs." In return, Hanoi pledged to make every effort to fulfill its ex-
port commitments under the existing bilateral agreement and to increase
exports of rubber and other commodities of particular interest to the Soviets.
The agreement reassures Hanoi of Moscow's continued economic support just
before Chinese Vice Premier Yao Yilin's visit to the USSR. It also indicates a
31 Secret
5 July 1985
part of the harvest is greatest. General Secretary Gorbachev, in his plan to re-
duce waste in the economy, is likely to repeat last year's call for more efficient
use of the county's 1.8 million trucks in agriculture, thereby eliminating the
need for military equipment.
Izvestiya has announced that five Soviet officials at a chemical plant in the
western Ukraine have been jailed for a term of two to five years in connection
with a pollution disaster that occurred in September 1983. The bursting of a
chemical waste dam seriously polluted the Dnestr River, killed more than
2,200 metric tons of fish, and deprived large cities in the Ukraine and
Moldavia of drinking water for several weeks. Plant officials had been warned
on two occasions by government inspection teams but had failed to take
corrective actions. These jailings mark a departure from past policy that
enabled managers to flagrantly defy environmental laws with little risk of
punishment. Although Moscow seems to be becoming increasingly aware of
the costs of environmental neglect, significant gains will require more than
increased discipline. Greatly increased investment in control equipment and
major changes to raise the priority of environmental targets relative to output
goals are also needed. Neither is likely in the current period of slow growth
that puts a premium on productivity gains. Indeed, investment in environmen-
tal protection actually fell in 1983.
N w Soviet-Vietnamese The USSR has agreed to increase economic assistance to Vietnam, according
conomic Package to a joint declaration signed on Saturday in Moscow. Moscow will grant new
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tougher line on Vietnam's failure to meet export commitments to the USSR.
Hanoi last week also requested a rescheduling of its debt to CEMA countries.
Cz hoslovak-Soviet
cooperation
Agreement Signed
'China Imports
Beef Ranches
aggravate the country's economic problems.
In late May, Czechoslovakia became the fifth East European country to sign
an economic, scientific, and technological cooperation agreement through the
year 2000 with the USSR. The agreement calls for a coordinated effort to
modernize the machine-building industry through investment in new plant and
equipment and for joint production of automobiles, nonferrous metals, and
advanced agricultural and construction equipment. The two countries want to
lessen dependence on the West by developing new technologies in computers,
steel production, chemicals, agriculture, energy, and telecommunications.
According to Embassy sources, Czechoslovakia will contribute 5 billion rubles
($5.8 billion) worth of investment and 1,200 technicians to construction of a
new gas facility in Siberia over the next five years with repayment in gas
deliveries in the 1990s. Although Czechoslovakia is Eastern Europe's strongest
supporter of economic integration with the Soviet Union, Prague may well fail
to meet all its commitments. The agreement does not seem to give Czechoslo-
vakia much in return for the large investment requirements that could
China has agreed to purchase a turnkey
market for US beef exports
cattle ranching operation from a Canadian firm. The package includes the
necessary equipment, buildings, purebred cattle, and training to create a
20,000-hectare ranch in Heilongjiang Province. Officials there are encourag-
ing livestock production to increase domestic meat supplies and to take
advantage of the province's vast grasslands and grain surplus. Meat from the
new ranch, however-20 such operations are planned-will be primarily for
export to other Asian nations and could compete effectively in the primary
Ycord Chinese Steel
Imports from Japan ,?
Secret
5 July 1985
worldwide glut of 4 million tons.
China is expected to import a record 7.3 million tons of steel from Japan's six
major steel companies during 1985. Last year the six accounted for about 80
percent of China's purchases from Japan. In the past two years, China has sur-
passed the United States as Japan's largest customer. A major factor in the in-
creased sales reportedly were Japanese price cuts because of a projected
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