Created: 9/16/1988

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Director of Central Intelligence

J. Kerr

Deputy Director for Intelligence

Loans to the Soviet Bloc

froa DCI to DDI, dtdane subject


for your information only.

Background:ugust Jamestown Foundation letter compiles analyses that essentially assert that Moscow (a) Is able to obtain Western credits at overly attractive terms and (b) has taken advantage of Western financial markets to finance its overseas empire. These lines of analysis are commonly used by thoseard line with respect to Western economic dealings with the USSR and are cited by Congressional proponents of bills to restrict lending to the Soviet

on several occasions

SUBJECT: Untied Loans to the Soviet Bloc

1. We are conHdent lhat all-source data reporting provide us with an aocurate and fairly comprehensive picture of Soviet financial activity and in our assessment that (a) the USSR has not utilized untied credits to underwrite foreign policy Initiatives in any substantial way and (b) that Eastern Europe la not actingredit conduit for the USSR. Moreover, we conclude that the elimination of "untied" loans wouldanya difference in Moscow's ability to use Western credits for such purposes: untied loans account for less thanercent of Soviet hard currency inflows and lt would be relatively easy for the USSR to boost its use of "tied lending" by this amount, leaving the aggregrate inflow of hard currency unchanged.






of Central Intelligence

Chairman, National Intelligence Council *

Douglas J. MacEachin Director of Soviet Analysis

Analysis of Soviet Cash Flows

Memo from DCI, dtdame Subject

1. With regard to your memorandum ofwith Mr. Robinson that, in the aggregate, Sovietare possible only with foreign borrowing. However,calculations of USSR's balance of payments inflows, including borrowing, exceed knownan average ofillion over the last several years.

'i. while our estimates do not capture all of Soviet financial flows and, by implication, expenditures, we beiieve that unrecorded net inflowsincluding interbank deposits discussed by Mr.small. Because the Soviets conduct their financial transactions through western financial institutions that are required to routinely report their

SUBJECT: Analysis of Soviet Cash Flows


activities to government authorities, most of Moscow's financial flows are captured in reported Western statistics. These onditions hold true for Soviet-owned banks in the West. Like all Western financial institutions, Soviet-owned banks want to attract deposits from other Western entities, includingndj_j/


minerimiinriifiy ue mnrsi btteo iot must be lent in accordance with government regulationa--which limit the share of overallank can make to any borrower--and reported to the appropriate authorities. We estimate that outstanding Soviet loans from Soviet-owned banks in the West were underillion at the endboutercent of total Soviet debt to the West.




Honorable Richard L. Armitage Assistant Secretary of Defense for International Security Affairs

Soviet Financial Balance Sheet

Your Memo to DDCI,ame Subject

1. Gorbachev's difficulties in revitalizing his domesticyou clearly pointpotentially significant ramifications for Soviet foreign policy with both the developed West and its surrogates in the Third World. It remains to be seen, however, whether Moscow is willing to turn to the West for assistance.

it is our' View mar.:

leadership has heretofore sought an indigenous solution to its economic problems but may well decide to turn to the West for the technology, equipment, and consumer goods needed to get its modernization program on track.

has the ability to increase substantially its hard currency indebtedness without threatening its fundamentally strong balance of payments position or otherwise leveraging itself to the West. IT"

3. The Soviets have clearlyarder line with their Third-World clients on the terras for Soviet economic and, in some cases, military assistance. ortionhese flows, however. Involve hard currency

4. We are confident, moreover, that the annual overall hard currency cost of Soviet foreign involvements is less thanillion as opposed to0 billion cited by Rand:

Rand estimatemadeillion in "trade subsidies"the below market fuel prices charged toand the premium prices Moscow paid for imports

such as Cuban sugar. Although the hard currency opportunity costs are relevant, this subsidy "cost" is fundamentally different from the cash outlays cited above. Moreover, this "subsidy" has turnedtax" because the price Moscow now charges its clients for oil is above rather than below world market prices.

balance ofillion "burden" estimate is comprised of Soviet arms deliveries which do not require payment in hard currency. We do not agree that such deliveries equateard currency "burden" as there is no evidence that Moscow has lost out on hard currency arms sales by virtue of its sales and gifts of arms to soft currency clients. Our own analysis shows Moscowougher line with some of its clients over payments for arms deliveries but, at the same time, increasing the grant element in some of its contracts and offering easier credit terms in order to boost sales.

we are

comfortable in the judgment that actual boviex hard currency outlays are in theillion range.

5. This evidence leads us to conclude that hard currency "shortages" have yet to affect substantially Soviet behavior. Soviet intransigence on the Northern Territories, for example, demonstrates that non-economic issues continue toey role in foreign policy decisions. esire toore benign world environment and otherwise improve the atmosphere for expanded trade and technology flows clearly plays an important part in Gorbachev's foreign policy strategy. At the same time, one should not overlook the more general Impact of perestroyka on Soviet foreign policy thinking and decisionmaking. Only time will allow us to sort out the economic variables in this equation.


Robert M. Gates Deputy Director of Central Intelligence

ussr: holding ihe line on foreign credits i-

growing concern in the Soviet hierarchy over tbe slow progress of both tbe modernization drive and of consumer goods produclion, Moscow does noi yet appear ready to run up its hard currency debt to finance sizable purchases from the West. Should Moscow seek to substantially increase imports, it would have no difficulty securing needed financing at attractive rates because the Soviets have managed toound credit rating in the face of lower export earnings. Indeed, most of theillion increase during the past three years in the value of grosslarge by Sovietbeen the result of exchange-ratenot new borrowing. To the extent Moscow is borrowing, it is showing renewed interest inloans tied to imports and testingwaters with previously unused instruments such as bonds. Nevertheless, the Soviets are only likely to turn heavily to world financial marketsast resort. I I

Rbing But Manageable Debt

A decline in oil revenues, coupled with growing credit extensions to traditionally hard currency paying LDCs to finance arms transactions, have increased Soviei activity in world credit markets in recent years. Although preliminary estimates indicate thatgross debt climbedillionestern bankers remain unconcerned about Moscow's creditworthiness. The Soviets havea strong financial standing in large partthe bulk of the debt buildup has resulted from exchange rate movements, not new borrowing. We estimate that more lhan three-fourths of the nearlyillion increase in gross debts due solely to exchange rate movements. Last year, for example, new borrowing actually declined, but the large exchange rate effect pushed up gross debt by more than S4 billion. With more than one-half of

Moscow's debt estimated lo be held inthe dollar value of total debt haswith the appreciation of nondollar

Other factors have also sustained Moscow's creditworthiness;

Soviet hard currency deposits in Western banks have climbed almost S3 billion in the lasl three years, thus holding down the gtowlh of net debt.

Moscow's estimated goldthanillion troyworth moreillion at curreni market prices.

The Soviets' debt servicingespectableercent of total hard currency earnings is at roughly the same level as recorded during the last period of debt buildup in the-

Prudent Borrowing Strategy

Moscow's ability to bold on to Us sound credit standing stems from its willingness to forgo subsian-tial borrowing during tbe current decline in hard currency earnings, occasioned by falling oil earnings and the depreciation of the dollar.esult, hard currency imports ofillion7 were downercent in nominal terms from peak imports recorded3 and an estimatedercent in real terms. The fall would probably have been more severe, but Moscow boosted gold sales to an estimatedillion65 billionell above sales lhai averagedittle overillion.

To the extent that Moscow has sought foreign loans in recent years, it has maintained its postureough bargainer, insisting on highly favorable terms and concessions from both lenders and exporters. The



USSR: tstimalfd Hard Currency Debt io tbe

us 1

libit is

usually negotiate at length with severalforeign financial injliuitions and firms, with financing often the critical factor in awardingfor large projects. The Soviets have also sought and received good terms for syndicatedeflection of its excellent repayment record and strong credit ratingis other prospective borrowers. The USSR has been particularly sensitive lo interesi rates, not only to hold down its debt servicebut also because Ibe interest rates il is accordedignal of its overall creditworthiness.]

The pursuit of the best possible terms has resulted in Moscow shifting its borrowing between government-guaranteed credits linked to imports and largely untied loans from commercial banks. In the, interest rates on long-term syndicated credits, fell below the minimum interesi rate for official credits to the USSR as prescribed by ihe OECDoscow responded by turning tomarketsarger share of its borrowing.

During the pan two years, however, official foreign creditpursuit of Sovietfound ways lo offer competitive terms to ihe USSR without violating the Consensus agreement. Onefor lending countries wiib high interest rates is to 0Her loans in foreign currencies lhat carry lower interest rates. Thb strategy has shown some success, with the Soviets showing more interesi in official lines of credit the pastonths. On the downside of this quest for cheap loans, various reporting indicates thatget low inlerest rates for government-guaranteed credits withoutat times, paid higher fees or invoice prices (wilh the exporter rebating inlerest to the lending bank).!

Moscow has also soughtut borrowing costs by diversifying its sources of funding, either by lapping new market's, such as receni loans from Kuwait and Abu Dhabi, or by turning io new or previously unused types of financial instruments. The initiative thai has garnered the most attention has been the USSR's

The OECD Consent OS. originally signedatctorircs terra wees as rich, intermedial e, or poor, and at abilities minimum OtVcitl lendim rates for each The USSR -asKb countryhe agreement abo allows foe nocsubiidiicd Loansommercial basis | |

USSR: Estimated Change in Gross

DOwnje due to eulungf raw*

mm* Oun^fii> nci ato

to enter the international bond market for the first time inears. Since the beginning of the year, the Soviets have issued bonds in Switzerlandillion and in West Germany0 million.

Another well-publicized effort has been Moscow's willingness to accept direct investment via jointwith Western firms. The Soviet leadershipsuch arrangements help it secure Western capital and management expertise with far lower hard currency costs than are required with outrightMovement has been slow, however, with the actual flow of Western capital this year estimated in only the tens of millions of dollars. Nonetheless, the prospects for several sizable joint-venture deals have probably kepi the Soviets from signing somecontracts with conventional financing.f

To Borrow or Not To Borrow

The USSR remainstrong position to step up borrowing. Such an option is receiving more attention lately, given the shortfalls in implementingeconomic program. New and modernizedcapacity has been slow to come on line, while new measures designed lo change the way workers, factory managers, and central planners operate have disrupted industrial production. Moscow may decide that foreignthose from the West, givenEurope's weak contributionsuch larger role Noted Soviet economist Nikolay Shmclcv has repeatedly pushed in the Soviei press for the USSR lo borrow additional billions of dollars. Boi towing to finance imports could

USSR: Estimates of Tied Versus Untied Borrowing '



Billion torrent US $

ease current supply bottlenecks in industry and satisfy consumer restiveness by addressing some pent-up demands. Large imports of capital goods, however, will not have much of in impact on the overall modernization program until!

not repealing the mistake ofhen Moscow ran up its debt io finance imports, nutty of which were wasted because the internal mechanisms were not in place to effectively assimilate and diffuse Western equipment. Gorbachev himself hason Ihe "import plague" lhai has left the USSR addicted to some imports and stymied Soviet internal development. On several occasions, one of Gorbachev'i economic advisers, Abel Aganbegyan, bas spoken oul against rising indebtedness, arguing that Moscow's interest payments arc already too high and that the USSR, unlike Poland and Hungary, has no one to bail it out ahould it run into debt problems.

Should Moscow seek substantially more imports, it would have no difficulty securing tbe neededat attractive rales. But ihe leadership is more likely lo pursue other options, hoping that theof higher energy revenues and low world gram import prices would freeood portion of the funds needed to buy Western capital and consumer goods. Moreover, it is likely to continue emphasizing joint ventures to reduce up-front hard currencyIn the financial arena, the Soviets would likely continue recent efforts io diversify their sources of funds and io utilize new financial instruments, not only to help cut borrowing costs but also to help hide ihe level of their indebtedness. Onlyast resort are the Soviets likely lo turn heavily to world financial markets and allow their debt to run up substantially.

call for increased borrowing is still resisted by top Soviet officials. While Moscow is currentlycredit lines to help finance imports of capital goods from the West for the consumer goods industry, it does not appear to be actively stepping upacross the board. The leadership seems fixated on

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