The dreaded day of reckoning on Latin American debt seems to have arrived. Brazil is not paying interest on $68 billion of its $108 billion in international borrowings, and U.S. banks have begun to list their Brazil loans as non-performing--an action that will penalize their profits and reduce their all-important capital bases.
Partly as a result, many of the same banks have hiked their prime interest rates by a quarter of a point, an action that normally would cause worry about growth in the U.S. economy.
Yet financial markets have reacted with a spring-like calm, and nowhere is there panic or gloom. In the stock market, shares of the major banks lost a dollar or two when Brazil suspended interest payments on Feb. 20 but lately have been gaining a fraction. Standard & Poor's and Moody's have lowered the credit ratings of some banks but spared that of Citicorp, the bank with the largest portfolio of loans to Brazil.
Engaging in Brinksmanship
Why such calm? First, because most people recognize that Brazil and the banks are engaging in brinkmanship. Negotiations on the debt are scheduled to begin in Washington next week, and it is likely that Brazil will pay most, if not all, of its back interest before the end of the year, so the banks won't have to declare huge losses. Their stocks, says analyst Lawrence Cohn of Merrill Lynch, are "an opportunity for those with strong stomachs."
But more significant is the prospect for change, for new solutions to the old problem of Third World debt. Innovative ways of dealing with developing-country loans are being tried--converting dollar loans, for instance, to local investments in Brazilian cruzados or Mexican pesos. And bold initiatives--a $300-billion Marshall Plan for the developing countries--are being discussed seriously by international bankers and government officials.
Everybody agrees that the current system of rolling over the same old loans has failed to bring prosperity either to the countries or the banks.
And now it has become unworkable. It proved impossible last year to get 400 banks to agree on Mexican debt restructuring, and nobody wants to try again. Some U.S. banks--Mellon Bank and Minneapolis' First Bank System, for example--are selling their Latin loans at a discount from face value through secondary markets that are being set up by Wall Street investment houses and by some of the banks that hold the Latin loans: Citicorp, Bankers Trust, Security Pacific, Morgan Guaranty.
Mexican loans, for example, were trading at Merrill Lynch the other day for 57 cents on the dollar--the buyers wagering that Mexico would eventually pay more than 57% of the principal. Brazilian debt was going at 53% of face value, which could be a bargain, because Brazil's paper brought 75 cents on the dollar before its current interest moratorium. Argentina is at 61 cents, Venezuela at 75 cents and so forth.
Markets for such loans could begin to grow. Japan's major banks decided recently to dispose of 5% of their Latin loans via the secondary market.
Why don't the big American banks do likewise? Because American accounting rules make it prohibitive for them to write off even part of their massive loans. If Citicorp, for example, were abruptly to write down its Brazil debt to 53 cents on the dollar, it would reduce its stockholders' equity by more than $2 billion, or 24%. BankAmerica would suffer a 32% decline in its equity, Manufacturers Hanover 30%, and so on.
Such drastic reductions in capital would force the nation's main banks to curtail lending and could seriously affect the U.S. economy.
A better solution, if accounting regulations were changed to accommodate it, would be for the banks to gradually write down the loans, setting aside 5% a year. Citibank could write its Brazil loans down to a realistic value--75% of principal say--by setting aside roughly $50 million a year for 20 years; Bank America could do the same by reserving $34 million a year.
Why should they do that? As a first step toward jump-starting the stalled Latin economies, which were prime markets for U.S. banks and companies before the debt crisis and should be again. In 1981, U.S. exports to Brazil, Mexico, Argentina and Venezuela totaled $30 billion. Last year exports to the same four countries totaled $20 billion, but the lost opportunities amount to far more than the $10-billion difference.
If U.S. exports to those countries could have continued growing as they did from 1977 through 1981, the 1986 total would have been closer to $60 billion. That's a $40-billion difference, counting only four Latin countries and leaving aside such once-expanding markets elsewhere as the Philippines and Nigeria. A lot of world economic growth--and American jobs--have been lost because of the debt impasse.
But out of desperation, hope. One reason for the ferment of ideas on Third World debt--and for the buoyant financial markets--is that the richer countries now realize it's in their interest to help revive the poorer countries' economies. Call it enlightened self-interest.