In brief discuss the cause & the solution(s) to the international bank crisis involving less developed countries.
The international debt crisis started on August 20, 1982 while Mexico asked more than 100 U.S. and foreign banks to forgive its $68 billion in loans. Soon Brazil, Argentina & more than 20 other developing countries announced same problems in making the debt service on their bank loans. At the height of the crisis, Third World countries owed $1.2 trillion!
The international debt crisis had oil like its source. In the early year of 1970’s, the Organization of Petroleum Exporting Countries (OPEC) became the dominant supplier of oil worldwide. During this time period, OPEC dramatically raised oil prices and amassed a great supply of U.S. dollars, which was the currency normally demanded as payment from the oil importing countries.
OPEC deposited billions in Eurodollar deposits; by the year of 1976 the deposits amounted to nearly $100 billion. Eurobanks were faced with vast problem of lending these funds to generate interest income to pay the interest on the deposits. Third World countries were just too eager to assist the equally eager Eurobankers in accepting Eurodollar loans which could be utilized for economic development and for payment of oil imports. The high oil prices were accompanied through high inflation, high interest rates, and high unemployment during the year of 1979-1981 period. Soon, after that, oil prices collapsed and the crisis was on.
Nowadays, most debtor nations & creditor banks would agree that the international debt crisis is efficiently over. U.S. Treasury Secretary Nicholas F. Brady of the Bush Administration is mainly credited along with designing a strategy in the spring of year 1989 to resolve the problem. Three significant factors were essential to move from the debt management stage, employed over the years 1982-1988 to remain the crisis in check, to debt resolution. Firstly, banks had to realize that the face value of the debt would never be repaid on schedule. Secondly, it was essential to extend the debt maturities and to employ market instruments to collateralize the debt. Thirdly, the LDCs required opening their markets to private investment if economic development was to happen. Debt-for-equity swaps helped pave the way for raise in private investment in the LDCs. Though, monetary & fiscal reforms in the developing countries & the recent privatization trend of state owned industry were also significant factors.
Treasury Secretary Brady’s solution was to propose creditor banks one of three option: (1) convert their loans to marketable bonds along with a face value equivalent to 65 % of the original loan amount; (2) convert the loans in collateralized bonds along with a reduced interest rate of 6.5 percent; or, (3) lend added funds to let the debtor nations to get on their feet. The second alternative termed for an extension the debt maturities by 25 to 30 years and the purchase by the debtor nation of zero-coupon U.S. Treasury bonds along with a corresponding maturity to guarantee the bonds & make them marketable. These bonds have come to be termed as Brady bonds.