168. Letter From Roger
Robinson and David
Wigg of the National Security Council Staff to the
President’s Assistant for National Security Affairs (McFarlane)1
Washington, May 24, 1984
Bud—
This briefing book is designed to provide a comprehensive game plan for
the handling of the international debt crisis at the Summit2 with the President encouraging private
sector initiatives concerning (1) the formulation of a mechanism to
place a ceiling (cap) on debt service payments by debtor nations, and
(2) some revision of the traditional IMF austerity programs to permit greater economic growth
and increased exports. The book takes you through: an Executive Summary;
a comprehensive non-paper (the internal “next steps” section of which
can be detached for distribution purposes); a separate analysis of the
concept of an interest rate cap; proposed talking points for the
President; draft language on international debt for the London
Communique; and draft press guidance.3
As I will be meeting with you on Saturday4 at 11:00 a.m. on the “Look Ahead” paper,
perhaps we can discuss this package briefly at that time. Books
identical to this one will be distributed to John Poindexter and Don Fortier. No one else, with the
exception of Bill Martin, is
aware of this Summit strategy on the debt crisis, and we intend to keep
it that way. Moreover, we have sufficient time prior to departure for
London to incorporate your ideas and those of others you designate as
well as any late breaking developments.
Finally, we believe this is a very exciting set of initiatives for the
President that, if approved, would once again demonstrate his leadership
(ahead of the power curve) on a highly complex and critical
international economic issue (arguably more important than Gulf energy
preparedness and certainly longer term). As these developments strike us
as increasingly inevitable, the President alone should reap the
worldwide benefits.
- Roger W.
Robinson
- David G.
Wigg5
Attachment
Paper Prepared in the National Security Council6
EXECUTIVE SUMMARY
The international debt crisis continues to evolve in the direction of
an increasingly dangerous sequence of events. Indeed, our country’s
ninth-largest commercial bank was forced into reorganization last
week in part due to depositor concerns over the threat of third
world default. Arguably, the major U.S. banks are presently the weakest links among the
key players in the debt crisis because of their inordinately large
exposure in Latin America. Past Treasury successes in stemming
debtor default run the risk of being overtaken by a combination of
factors that could soon force changes in creditor positions in the
direction of accommodation. Among these factors are:
- ○
- Rising U.S. interest
rates
- ○
- Potential radicalization of LDC leaders over increasingly unpopular
economic austerity measures.
- ○
- Increasing pressures on U.S. banks to write-down losses due in large
part to unpaid interest on third world loans
We believe many of the key players in the debt crisis agree that we
confront two near-term problems—rising interest rates and
excessively rigid IMF programs—that
should, and will, be addressed to defuse irresponsible unilateral or
collective actions by beleaguered debtor nations.
We believe the President should take immediate steps to encourage
private sector efforts to put into place a mechanism (i.e. interest
rate cap) which places a ceiling on debt service payments by debtor
countries in order to forestall a further decline in the incentives
for these countries to maintain positive working relationships with
the banks and the IMF. In addition,
the IMF adjustment programs need to
be gradually altered to provide more flexible measures to promote
greater economic growth and increased exports.
In our view, it is essential that the President
benefit by advancing these positive initiatives which are
inevitably going to be implemented in the post-Summit
period.
The London Summit offers an extraordinary and appropriate opportunity
for the President to capture the high ground on these two key issues
concerning the debt crisis and provide leadership at a crucial
juncture in relations with the developing world.
[Page 434]
Interest Rate Cap
We envision the President encouraging “in principle” the concept of a
ceiling on debt service payments by debtor countries. The
President’s reference to a potential interest rate “cap” would be
couched in very general terms. He would make clear that he is not
endorsing any specific proposal, but merely encouraging an important
and useful concept to be explored in the private sector dialogue
between creditors and debtor countries with possible participation
of the IMF and World Bank. Any
criticism from farmers or home mortgage organizations can be
potentially defused by pointing out the similarities between this
concept and that of variable rate mortgage schemes in use
domestically.
Revised IMF
Programs
The primary focus of “encouragement” directed at the IMF concerns tendency to rely on
draconian across-the-board cuts in LDC fiscal spending and money supply, which tend to
disrupt economic and social stability. A potential alternative is to
ease off on (or at least stretch out) fiscal austerity targets and
to insist on larger devaluations. We would envision the President
using carefully crafted language to roundly applaud the Fund’s
successful efforts to date, but at the same time identifying himself
and the U.S. as encouraging more
growth-oriented programs after nearly three years of serious
belt-tightening.
It would be our intention to shape the discussion at the Summit in
such a way as to ensure that the President is not upstaged and to
secure a consensus among the Summit partners on these two broad
points for inclusion in the London Economic Communique. This
development would, in turn, protect the President from being in any
way isolated on these issues. Secrecy will be a central component in
the success of these initiatives by the President.
After the President’s intervention in the first session, we would
immediately activate a number of key players connected with the
international debt problem (Feldstein, Volcker, Isaacs, Connover, Solomon, de Larosiere, Rockefeller, U.S. bank chairmen, European bankers,
the Chancellor of the Exchequer, and hopefully even some LDC spokesmen) to publicly applaud the
President’s vision and compassion in encouraging these measures to
be taken in private sector negotiations. We are informed that a
strenuous effort will be made at the Philadelphia Commercial Bankers
Conference on June 4 to forge a consensus on an interest cap which
may be announced a day or two prior to the Summit. Even should this
dramatic development occur, it would not materially alter our game
plan for the President as he will be the first world leader to
endorse and support what in his view is a positive development in
private sector deliberations concerning the debt crisis.
[Page 435]
Attachment
Briefing Paper Prepared in the National Security Council7
The LDC debt burden today totals
nearly $800 billion, involving more than fifty countries in debt
relief efforts (one third of total IMF membership). Latin American debtors alone now owe
creditors over $350 billion, with an inordinate share of the
exposure held by U.S. money-center
banks. Argentina, Brazil, Mexico, and Venezuela alone owe the nine
largest U.S. banks over $40
billion—greatly exceeding these banks’ total capital and reserves.
The vulnerability of the large U.S.
banks to the debt problem is reflected in the sharp decline in their
stock prices relative to market averages. Investor anxieties were
heightened recently with the collapse of the ninth largest U.S. bank—Continental Illinois
Trust—whose reorganization has served to underscore a phenomenon
that has receded from memory somewhat in recent decades, namely, the
vulnerability of bank solvency to depositor and investor confidence.
Although the international debt crisis tends to capture the
headlines, we should bear in mind that the major banks are also
under domestic portfolio pressures. Bankruptcies have reached all
time post-depression highs thus contributing to the likelihood that
certain large U.S. banks may well be
the weakest links among the key players in the debt crisis—a factor
presumably not lost on the debtor governments.
While Treasury has been successful to date in its policy of
supporting tough IMF austerity
measures emphasizing fiscal and monetary discipline, there are
political pressures building in the debtor countries that will—one
way or another—force changes in creditor positions in the direction
of accommodation. Some factors underlying this assessment are as
follows:
- ○
- Rising U.S. interest rates
are evoking particularly harsh criticism of U.S. policy toward the debtors.
An increase of only 50 basis points (half percentage point)
in the prime rate (or LIBOR) results in a $2 billion increase in the
annual payments burden of the major debtors, partially
undermining hard fought LDC
austerity efforts.
- ○
- The leadership of LDC’s
are increasingly of the view that present IMF programs, with their
emphasis on import contraction and fiscal discipline, are
becoming untenable and upsetting the already delicate
balance between economic austerity and political/social
stability. Three years of declining GNP and sharply reduced trade is beginning to
damage the infrastructure and export capability of certain
economies and is leading to increased pressure for
collective action by debtors toward
[Page 436]
their creditors. For example, leaders
of four Latin American countries (Mexico, Colombia, Brazil
and Argentina) recently laid down a new marker in the
intensifying war of words over debt by issuing a joint
statement demanding an easing of repayment terms.
- ○
- Slippage in scheduled interest payments by major Latin
American debtors has led to the problem of an increasing
amount of over 90-day arrearages for the U.S. money-center banks each
quarter, adding to pressures on both banks and regulators to
avert a crisis of confidence in the U.S. banking system. (The end March financial
package for Argentina was in large part structured to avoid
such a problem.)
- ○
- Although creditor terms on new money are becoming more
favorable for responsible debtors such as Mexico (lower
spread over prime, lower fees, longer grace period and
maturity), rising interest rates tend to offset these gains
and thus undermine the discipline/reward mechanisms of the
financial markets.
We are, therefore, at a crossroads in the management of the debt
crisis, with two basic near term problems—rising interest rates and
excessively rigid IMF programs—that
if permitted to continue unabated could potentially translate into a
number of serious developments, but if altered in time could provide
a measure of breathing space to defuse a potential debtors’
revolt.
Initiatives
We should take immediate steps to encourage private sector efforts to
put in place a mechanism (i.e. interest rate cap) which places a
ceiling on debt service payments by debtor countries in order to
forestall a further decline in the incentives for these countries to
maintain positive relationships with the banks and the IMF. Between the Summit and the
IMF/World Bank meetings in September (where the President has
traditionally made the opening address), interest rates will
probably be an explosive topic generating increased hostility
directed against the U.S. and the
IMF if we do not preempt this
process. In addition, the IMF
adjustment programs need to be altered to provide more flexible
measures to promote economic growth and increased exports.
In our view, it is essential that the President
benefit by advancing these positive initiatives which are
inevitably going to be implemented in the post-Summit
period.
The London Summit offers an extraordinary and appropriate opportunity
for the President to capture the high ground on the two key issues
of the debt crisis and provide leadership at a crucial juncture. If
properly structured and qualified, the President’s encouragement of
these initiatives at the Summit would be greeted with applause by
all of the relevant participants—the banks, the IMF, and debtor countries and his
Summit counterparts. It could also provide an important boost to the
President’s (and the U.S.) image
concerning the North-South dialogue
[Page 437]
in general, including the potential for
increased Latin American cooperation on U.S. policy initiatives in Central America.
Proposed Plan of Action
Interest Rate Cap
We envision the President encouraging “in principle” the concept of a
ceiling on debt service payments by debtor countries because of the
shared sensitivity of the industrialized countries to the plight of
those beleaguered nations who have courageously “bit the bullet” in
implementing tough and unpopular austerity measures (i.e. coming to
terms with the IMF). In addition:
- ○
- The President would cite the “wind being knocked out of
the sails of responsible debtor nations” concerning the
impact of rising interest rates on the positive results of
economic contraction and discipline.
- ○
- The President’s references to a potential interest rate
“cap” would be couched in very general terms and he would
make clear that he is not endorsing any specific proposal,
but merely encouraging an important and useful concept to be
explored by private sector creditors and the debtor
countries with possible participation of the IMF and World Bank.
- ○
- In a Summit discussion, the President would make clear
that any proposed mechanisms to put a ceiling on payments (a
“cap” or extended maturities) is essentially a private
sector initiative between creditors and debtors. It is
therefore not
a Presidential or U.S. initiative nor does it alter our
basic five-point debt strategy agreed to by the Heads at
Williamsburg.
- ○
- The President would also state that he looks to Secretary
Regan to monitor
this private sector process as well as to maintain a
dialogue with the IMF and
other relevant parties concerning appropriate means of
implementation.
Revised IMF
Programs
This is a somewhat more sensitive initiative because of the fine line
between the necessary discipline of rigorous adjustment measures and
the pressing political need for economic growth if leaders of debtor
countries are to maintain popular support for these measures. The
primary focus of criticism directed at IMF programs is on its “excessive reliance” on
draconian across-the-board cuts in LDC fiscal spending and money supply, which tend to
disrupt economic/social stability. A potential alternative is to
ease off on (or at least stretch out) fiscal austerity targets and
to insist on larger devaluations. The net effect would be keeping
more people employed and benefitting from social welfare programs in
the short term while shifting resources into new and more
competitive export-oriented industries which, in turn, eventually
permits a larger volume of imports. We envision the President using
carefully crafted language to roundly applaud the Fund’s successful
efforts, but at the same time
[Page 438]
identifying himself and the U.S. as encouraging more
growth-oriented programs after nearly three years of serious
belt-tightening.
It would be our intention to shape the discussion at the Summit in
such a way as to make sure that the President is not upstaged (these
initiatives should ideally be incorporated into his summary
presentation in the first session the morning of June 8). Securing a
consensus among the Summit partners on these two broad points in the
subsequent discussion for inclusion in the London Economic
Communique which would, in turn, protect the President from being in
any way isolated on these issues. The French and others may well
seek to take credit for this “high ground” approach to the debt
crisis themselves.
Next Steps
Secrecy will be a central component in the success of these
initiatives by the President. Although we believe Treasury is now
basically on board concerning the inevitability of these
developments, Treasury’s fundamental conflict as the responsible
agency argues for holding off on discussing this game plan with
Secretary Regan until just
before the President’s intervention. Treasury may argue that the
Argentina/IMF negotiations should be concluded prior to U.S. encouragement of the concept of an
interest cap. The counter-argument to this point is that
implementation of a ceiling on debt service payments would be
restricted to those countries fully engaged in an IMF program and thus represents a
strong incentive for Argentina to proceed expeditiously with the
Fund. There is always the possibility that Argentina and other
debtor countries will not view the type of ceiling envisioned as
adequate, but we will have to live with this kind of initial
criticism in order to preserve the integrity of our measured step by
step approach to the debt crisis.
The President should be given the proposed talking points, the
executive summary and this non-paper as soon as possible to ensure
that he is comfortable with this approach. We should then hold
another McFarlane-Shultz-Regan breakfast prior to the Summit after
which Bud should consider the merits of discussing this game plan in
strict secrecy with Secretary Shultz for his informal review and concurrence.
Together, they could bring Secretary Regan on board prior to the beginning of the Summit.
Treasury can then work with NSC and
State on finalizing press guidance immediately following the first
session in which the President makes this intervention.
Backgrounders should be pre-arranged to ensure that the President’s
comments are properly qualified and correctly interpreted. We would
then immediately activate a number of key players connected with the
international debt problem—Feldstein, Volcker, Isaacs, Connover, Solomon, de Larosiere,
[Page 439]
Rockefeller, U.S. bank chairmen, European bankers,
the Chancellor of the Exchequer, etc. and hopefully even some LDC spokesmen—to publicly applaud the
President’s vision and compassion in encouraging these measures to
be taken in private sector negotiations.
We could take charge of discussions with as many relevant parties as
possible to cover remaining risks to the extent possible. Drafts of
the President’s talking points and the proposed language for
inclusion in the Summit Communique are included in this package. We
will provide an update to this non-paper as we track late breaking
developments leading up to the Summit.
One such development which we will attempt to closely monitor will be
the Philadelphia Commercial Bankers Conference where we are told a
strenuous effort will be made to forge a multi-year rescheduling
proposal for Mexico and possibly a consensus on an interest cap
could be announced a day or two prior to the Summit. (Walter Wriston
is reportedly still the principal hold-out to achieving such a
consensus.) Nevertheless, even should this dramatic development take
place, it would not materially alter our game plan for the President
as he would be the first world leader to endorse and support what in
his view is a very positive development in the private sector
deliberations concerning the debt crisis.
