Foreign Relations of the United States, 1981–1988, Volume XXXVIII, International Economic Development; International Debt; Foreign Assistance

291. Memorandum From the Chairman of the Policy Planning Council Bosworth to the Under Secretary of State for Economic Affairs (Wallis)¹

Washington, March 8, 1983

SUBJECT

• Commodity Agreements

REF

• Your Memorandum of January 18, 1983²

EB is sending on to you separately, and with our concurrence, a study which extensively and accurately describes and analyzes U.S. policy on specific commodity agreements in the post-World War II period.³ That study will provide the detail you have asked for on the various agreements and potential agreements.

I believe it would also be useful, however, to give you our views on the larger policy questions raised in your memorandum, admitting at the outset that it is difficult to generalize about commodities whose characteristics vary so widely.

Summary and Conclusions

The U.S. should examine skeptically on a case-by-case basis proposals for commodity agreements with price provisions (we should be more positive about purely informational exchange and market development agreements). We should refuse to join them if their economic provisions are not sound, regardless of the political merits which our membership might have. In the interests of good relations with the developing countries and in the search for workable, economically sound agreements, however, we should consider and discuss seriously proposals made by other countries with a significant share of the trade in a particular commodity.

On alternative schemes, our conclusion is that a serious examination of various proposals for providing additional compensation, whether through loans or grants, for shortfalls in commodity earnings is urgently needed. This should occur well before the convening of the UNCTAD–VI in Belgrade in early June,⁴ where the UNCTAD Secretariat’s proposal will be a centerpiece of the discussion. These various proposals include the UNCTAD Secretariat proposal itself (which has serious flaws), variations of that proposal, the latest FRG proposal for a global STABEX, and yet a further liberalization of the IMF’s Compensatory Financing Facility (CFF).

Past U.S. Commodity Policy

U.S. Government policy throughout the postwar period has been that free market forces should wherever possible determine international commodity prices. All previous U.S. administrations and this one as well have consistently opposed any extensive net of commodity agreements. We have said that only in particular instances, on a case-by-case basis, would we be prepared to enter into particular agreements. We are currently members of only three (coffee, sugar, rubber).

When we have joined agreements, we have tried wherever possible to insist that:

— buffer stocks rather than export quotas or other trade restrictive devices should be used as a means of stabilizing prices;

— the price bands chosen should be broad and built around the long-term market trend; and

— consumers should have an equal voice with producers in the agreements.

Our original view that financing of the agreements should be assumed by producers shifted in the mid-1970’s to a position endorsing joint producer/consumer financing.

We have refused to participate in some agreements where these conditions have not been adequately met (cocoa, the latest tin agreement). We have successfully insisted in some others that there be no substantive economic provisions (various study groups, recent versions of the International Wheat Agreement). In still others, we have worked to assure that the agreements focus on market development and not on price fixing (jute). Nevertheless, both the coffee and sugar agreements in which we participate contain controls on trade (although it could be argued on sugar that this represents no abrupt break with our historic pattern of import controls).

Why Commodity Agreements Arise

In recent years pressures have come from the developing country group as a whole (G–77) for a generalized approach to commodity agreements and income and export earnings stabilization schemes, as is evidenced by their proposals for UNCTAD–VI in June of this year (see below). These proposals are based on their view that firm management of the world economy is necessary to achieve their goal of a New International Economic Order.

But proposals for agreements on individual commodities are not always exclusively LDC-inspired, and sometimes contain elements of direct appeal to consuming countries such as the U.S:

— Some of the commodities are of strategic interest to the U.S. (e.g., tin), and we have stockpiled them. Even where absolute security of supply has not been essential, we have been concerned about adequate supplies at reasonable prices;

— Price fluctuations of some commodities (e.g., sugar) have been so great historically that both producers and consumers have had an interest in promoting greater stability in the market to improve rational economic planning and better distribution of resources; in some cases (e.g., coffee), these fluctuations have little to do with changes in consumer demand, but rather with extraneous forces such as the weather (there is an open question here as to why the markets concerned have not created their own devices to deal with instability, such as adequate buffer stocks and well-functioning forward markets);

— Frequently the agreements contain provisions on greater information exchange and transparency which are of value to the United States in creating a greater sense of reality in the commodity market concerned;

— Where the U.S. has its own domestic price stabilization and subsidy programs, international agreements can lessen our own government expenditures on domestic subsidy programs;

— As the EB paper points out, some commodities are produced in countries where these comprise the bulk of export earnings (e.g. sugar and coffee in the Caribbean); sharp price drops in these cases affect other goals in which the U.S. is interested, such as economic development, repayment of outstanding loans and political stability;

— In many cases, the governments of some of the producer countries have a strong political commitment to the agreement(s)—a good example would be Malaysia and the tin and rubber agreements. Brazil and Colombia and the coffee agreement would be another. U.S. foreign relations with these countries would be damaged by U.S. refusal to at least discuss the agreements. Such “damage” needs to be assessed carefully in each instance.

All these arguments need to be weighed by the United States in making its decision whether or not to discuss and participate in particular commodity agreements. Our conclusions will vary from commodity to commodity. Clearly the arguments against, at least on the purely economic side, are overwhelming in most cases—high start-up costs, misallocation of resources, failure to reflect changes in market forces and the resultant history of repeated failure of such agreements. They argue for an attitude of considerable skepticism in examining each proposal. Benefit/cost analyses will be needed in each instance (we discovered a few years ago, for instance, that there were substantial benefits to U.S. producers and consumers in stabilizing highly volatile copper prices, but that the costs in creating the buffer stock to stabilize prices were even higher.)

This reasoning implies the need for even more skepticism in the case of generalized commodity price stabilization schemes proposed for UNCTAD–VI by the developing countries which are based on an overall philosophy of market controls and management of the international economy. As an example, the proposal by the UNCTAD Secretariat that UNCTAD agree in Belgrade that the Common Fund (which the U.S. has signed, but not ratified) should be made operational and extended to more commodities, should be strongly opposed by the United States. In this connection, it is interesting to note that even the existing international commodity agreement organizations have refused to affiliate themselves with the Common Fund.

Alternative Schemes

As you point out in your memorandum, there are also alternative schemes for dealing with sudden drops in commodity prices and the problems they create for the producing countries. The EB paper mentions UNCTAD’s proposal for a Complementary Facility, the IMF Compensatory Financing Facility (CFF) and the European Community’s STABEX system (which is commodity-specific, and quite limited in funding). There was also a proposal by OECD Secretary-General van Lennep a few years ago for a system of stockpiles to be held by the industrialized countries, in which these countries (consumers) would decide when to acquire and when to dispose, based on their own strategic and economic considerations.

The basic issue is all of this is to determine whether in fact a real need exists for such compensation in the absence of price agreements which we would not favor (there is an additional tactical consideration here concerning UNCTAD–VI: action on compensatory financing might diffuse pressures at the Conference for direct action on commodities):

— It seems clear from studying the operation of the IMF’s Compensatory Financing Facility (CFF) since its last liberalization in 1979 and of the Community’s STABEX that not all shortfalls of non-energy commodity earnings are being met, even for the least developed countries. It is estimated that the IMF Facility, even after liberalization, has met only about 2/3 of the shortfalls, and the STABEX, already limited only to countries associated with the Community, ran out of funds about a year ago.

— It further seems clear that shortfalls in commodity earnings are severely disrupting the functioning of the economies of some of the smaller countries, where there is great dependence upon one or two commodities; on top of the worldwide recession and the late-70’s oil price shocks, this has been a further debilitating factor in their economic performances.

The argument in favor of dealing with the problem through the IMF’s Compensatory Financing Facility (CFF) is that disruption to a country’s economy should be measured, not through any shortfall of earnings of a particular commodity, but rather through export earnings as a whole; if a particular commodity is important in the overall economy, its poor performance will be reflected in an overall drop in export earnings. If it is not, then the economy itself has made an adjustment in other sectors. Thus, if adequate compensation is not now available, the answer is to further liberalize the CFF (which could be done in a number of ways, but mainly by allowing countries to borrow more than 100 percent of their quotas). The IMF Facility, furthermore, exercises a watchdog role over the countries concerned, and in theory assures that their governments are taking accompanying measures to improve their economies’ performances.

The arguments in favor of a commodity-specific approach are much the same as those given above concerning commodity agreements. They provide stability in a given sector. There will be greater certainty in terms of income and economic conditions in the industry, the basis for rational decision-making. This should lead to more stable prices and supplies (the latter only in the long-run, if the commodity is susceptible to the vagaries of the weather). A key issue here is the ability of the compensatory financing to find its way to the particular industry affected, since governments in the past have frequently taken the additional revenues and sidetracked them to other purposes (there is obviously also a good side to this, if the industry is one in secular decline and needs to be phased out or down).

Evaluating the alternative schemes in the light of this, we come to the conclusion that a good deal more study is needed. UNCTAD–VI will be considering the proposal of the UNCTAD Secretariat for a facility complementary to those already existing, and with very broad coverage. Some estimates of its costs run as high as $19 billion per year, although UNCTAD itself estimates the costs at $45 billion for 10 years. This is chiefly because most major non-energy commodities are covered with respect to all developing countries, whether or not they have need, and qualification is automatic once the shortfall target is reached. The only conditionality involved is that the funds be applied within the sector(s) affected.

The Germans for some years now have been proposing a global STABEX scheme. A new version has just been issued (Bonn 4918),⁵ and it seems to have some interesting aspects: it uses a basket of commodities, rather than any single one; it proposes lower shortfall limits for the least developed; it suggests that the facility be “administered by some existing institution”; it proposes pro rata compensation when claims on funds exceed funds available.

We have been able to discuss here only the major elements and schemes involved; there is obviously a good deal more that needs more thorough examination than either our comments or those of EB provide. In the light of the inevitable extended discussion we can expect on the item of compensatory financing at the forthcoming UNCTAD–VI, we would urge that a special group be set up within State to examine the different proposals and variations thereof to determine whether any of them might merit U.S. support at UNCTAD–VI.

1. Source: Department of State, Bureau of Economic and Business Affairs, Office of International Commodities, Subject Files for 1983, Lot 86D76: E/C Commodity Policy General 1983. Unclassified. Drafted by Michael Boerner (S/P).
2. Attached but not printed.
3. See Document 292.
4. See footnote 9, Document 283.
5. Telegram 4918 from Bonn, February 25, is in Department of State, Central Foreign Policy File, Electronic Telegrams, D830133–0333.