CHILEAN PAYMENTS POSITION: BREATHING SPELL

Created: 8/25/1977

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Chilean Payments Posltloni Breathing Spell

Two years of harah austerity have reduced Chile's financial gap*anageable site. The military junta is now gradually easing austerity and allowing imports to increase byoercent this year. Although Santiago is counting on Increased commercial bank and supplier credits, it will have to draw heavily on its small foreign reserves to cover this year's0 million financial gap.

The military government's ability to further relax demand management policies will be constrained by slug-qish copper prices and difficulties in obtaining more foreign capital. Availability of foreign funds depends partly on the junta's willingness to curb its human rights violations. The recent announcement that thehas disbanded the National Intelligence Directorate (DINA) seems toenuine effort to curtailses and modify the most severe aspects of political repression. Given the prospects for aid, even withhuman rights policies, Chile's growth for the next few yeara will notharp rise in the living standards of most of the population.

The Allende Legacy endS Crisis

Chile's precarioua paymentslarge part the aftermath of economic mismanagement by the Marxist regime of Salvadordevelopedinancial crisis The crunch was brought on by the collapse of world copper prices and the due date

'Financial gap is defined at tht ourrtnt-aooount dtfioit plus amortise tier, of mtdium- and long-term debt; thiftt In short-tarn capital art not included.

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of large schaduled debt repayments, whioh pusheddeficit0 oilllon and1 billion. The gap waa closed onlyhird of0 million in

To prevent an even larger deficit and ease therate, the new militaryhad seized power inmpoaed an austerity program. Private sector credit all but disappearedhile government spending waa slashed by one fourth. The squeeze on domestic demand cut the volume of foreign purchases by nearly one fifthr real GDP fellercent and Industrial output plummetedercent. From the viewpoint of the military government, such unpopular and wrenching changes could be installed only by tightening the Junta'a already strong political grip on institutions and individuals.

Bantering Equilibrium6

The effects of the austerity program carried over6 when import volume fell anotherercent to about2 level. At the same time, Chile benefited from the recovery in copper pricea and from rapidlynon-copper exports, the resultigorous export promotion campaign and devaluation of the peso roughly in line with the country's triple-digit inflation. Total exports gained more thanercent inmall current-account surplus and more than halving the financial gap0 million.

By narrowing the gap, Santiago was able to meet scheduled debt repayments for the first timerivate foreign lenders, encouraged by the government's belt-tightening and improved ability to repay ite debta, provided0 million increase in long-term capital lest year, more thanall in official lending brought on by Chile's human rights policies. These funds, togetherillion in directinflows, closed the financial gap andubstantial increase in foreign exchange reserves. By the end of the year, reservss amounted to about four month's imports.

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The Improved payment* situation paved the way for the gradual easing of fiscal and monetary restraints beginning in Despite somewhat easier private credit and Increased foreign demand, real GDP rose roseercent and induatrial output recoveredercent. The strongest revival occurred in the copper industry where output last yearillion tons, uponshe growth in economic activity barelyent in the record unemployment rate. The inflation rate, fueled bylarge budget deficits and parallel monetary growthercent for the yearhole, ccraparedercent

7 Payments Situation

He expect Chile's financial gap to widen by more thanercent this year, to0 million. foreign sales are being bouyed by non-copperearnings, aagging copper demand and pricea will prevent any increase in total exports. Copper shipments this year will totalons,ercent from last year, while copper earnings are prelected to slip more thanercent.

lJBe' SantlaSO is providing enoughtoporcent rise in imports,rade surplus0 million this yearT The deficit in transportation, other services, and interest paymanta together with debt amortiiation coats, will

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The military government is relying on commercial banX borrowing and expanded use of supplier credits to financa the payments gap. Anticipating criticism and pressure from the OS and other creditors for its human rights practices, Santiago has forgone negotiations for debt relief again thla year. For the same reason,from bilateral and multilateral sourcee is off

f8 fromwill amount to leas than half ofear's inflows. Direct Investment win not grow much, partly because of bureaucraticin approving new projects. ecrease in reserves of0 million probably will bethis year.

To keep import growth withinand maintain prograaa against inflation, tha junta la staying with its plan to aase austerity measures only gradually. Real wages this year are being allowed to increase onlyeroent, leaving them still well2 levela. On the budgetary side, Santiago's program calls for moderate tax reductions, small increases in socialand some limited wage Increases for government workers. In these circumstances, Santiago willudget deficit equal toercent of government5 percentage points smaller than last year. Consumer credit is also being eased, but not very fast.

On balance, we estimate that these measures will allow real GDP to rise by close to theercent target this year. Real output7 will still be slightly below4 level, unemployment will remain at aboutercent, and inflation is likely to averageercent. Given the authority of the junta, Chilean labor is in no position to protest the slow revival in Its real income. For Its part, the business community still feels it is better off under the present regime than under the Allende government.

Looking Ahead

Unless world copper prices rise more than can reasonably be expected, the military government will be unable to further relax its austerity measures over the next few years and may have to tighten them again. Debt amortization payments will not begin to decline untilnd obtaining external financing willtoerious problem. By the end of this year, foreign reserves will be down to two month's import cover and thus cannot continue to underwrite increased imports. Without higher copper pricea, Santiago0 million0ear in gross capitalif the junta's targetercent economic growth is to be met. Even though the junta seemingly is relaxing its human rights attitudes, Chile cannot count on filling such of the gap with bilateral orfinancing.

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Substantial incraaaoa in diraot foreign investmentalso unlikely over the next few years. Thus, the outlook is for prolonged constraints on imports, slower economic growth, and continued high unemployment leveln.

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