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Box 4.2 Careful borrowing and risk avoidance: the case of India Throughout the 1960s and 1970s, India controlled surplus, a comparatively low debt to GDP ratio (around inflows of foreign capital. Whenever balance of pay- 15 percent), and large foreign reserves ($8.3 billion in ments pressures became severe, the government 1978, equivalent to almost eleven months of imports). reduced imports-in the short term through contrac- Stabilization and adjustment had been emphasized to tionary fiscal and monetary policies, investment licens- the extent that the economy's growth had been held ing, and direct controls; over the long term through back. selective import substitution. What foreign borrowing In the early 1980s, to raise efficiency and speed up did take place was mainly on concessional terms. growth, India gradually liberalized import controls, The first round of oil price increases in 1973-74 wors- increased incentives for investment, and borrowed more ened India's already vulnerable external accounts and from abroad. Although most borrowing continued to be exacerbated inflation. Although the economy was concessional, foreign loans from commercial sources already in recession, the government decided against increased modestly, from 3 percent of external public borrowing abroad to absorb this new shock. Instead, debt in 1979 to roughly 8 percent in 1983. Domestic savdomestic savings were boosted from 14 percent of GDP ings also rose further and averaged 23 percent of GDP in 1965-72 to 19 percent in 1973-78 by raising taxes and during 1976-83-well above earlier rates. interest rates, reducing public spending, and tightening Despite another increase in oil prices and a severe monetary policy. Domestic energy prices were also drought, India's growth rate has picked up. In 1979-84, raised quickly to the new international levels. The reces- it averaged 5.1 percent a year, compared with 3.6 percent sion deepened, narrowing the trade deficit significantly. a year in 1950-79. Although the debt service ratio is In addition, workers' remittances increased from $200 expected to rise somewhat in the next few years, diminmillion in 1974 to almost $1 billion in 1977, as many ished dependence on imported food and energy, com- Indians worked in the Middle East construction boom. bined with good prospects for raising export growth, By 1978, India's external adjustment was complete. provide India with greater flexibility than before in man- Indeed, the country had become a net lender to the rest aging its external debt and the balance of payments. of the world, with a small trade and current account Box 4.3 Foreign borrowing and investment efficiency in the Philippines, Argentina, and Morocco The damage done by inefficient investment is well illus- around 22 percent of GDP. Nearly two-thirds of this trated by three otherwise dissimilar countries. investment was in the private sector. However, much of * The Philippines. In the 1960s and 1970s, the Philip- it was inefficient-the result of volatile and often inconpines had an investment-led, high-growth strategy, sistent policies, import-substituting industrialization, based on import substitution. Its economy grew rapidly, and high and variable inflation. The economy-wide but its investment was less productive than that of many ICOR rose from 4.4 in 1963-72 to around 11 during 1973- neighboring developing countries. Much of it went into 81. This ratio was by far the highest among big Latin industries protected by high and uneven import barriers. American economies. Of the $35 billion borrowed from The currency was overvalued, interest rates were held abroad between 1976 and 1982, little, if any, was used to down by controls, and credit was often allocated on finance net additional investment. This was a critical facpolitical rather than commercial criteria. tor in explaining the dimensions of Argentina's current In the early 1970s public enterprises increased their debt difficulties. investment considerably. Lacking internal finance, many * Morocco. Heavy foreign borrowing during the 1970s became dependent on government support and foreign helped sustain investment of 25 percent of GDP in credit. The government's mechanisms for evaluating Morocco, nearly double the rate of the 1960s. Increasing and supervising projects remained weak. Investments domestic protectionism-coupled with inflationary macwere concentrated in infrastructure projects with long roeconomic policies, subsidies, and price controls-disgestation periods. Consequently, the large rise in foreign torted investment incentives. The economy's ICOR rose borrowing did not produce a matching increase in debt- from 2.6 in 1965-72 to 6.7 in 1979-82. The public sector, servicing capacity. The incremental capital output ratio which undertook the bulk of new investment, achieved (ICOR-the measure of investment per unit of additional low, sometimes negative, rates of return on projects in output) more than doubled during 1978-82. The govern- irrigation, transport, and education. Public investment ment is now seeking to strengthen its investment pro- for each new job created was about thirty times higher gramming and evaluation and is reforming some key than the national average, while the production costs of incentives for efficient investment. some state products, such as refined sugar, were as * Argentina. Until recently, Argentina had one of the much as 2.6 times the world price. highest investment ratios in Latin America, averaging 52
Box 4.4 Guidelines for borrowing Debt accumulates when loans are used to finance an path. Example 3 shows an intermediate case. While the excess of imports over exports as well as interest pay- debt ratios grow continuously, their rate of growth ments on existing debt. Countries running a resource diminishes, and the ratios move toward a stable plateau. gap need to be concerned with the behavior and relation- Such a country may, therefore, be able to maintain both ship of a number of critical debt-related variables, includ- liquidity and solvency. Apart from these guidelines that ing the growth rate of debt, the growth rate of exports relate to macroeconomic variables, a borrower will, of and income, the size of the resource gap relative to course, want to ensure adherence to a simple rule of income or debt, and the interest rate at which borrowing prudent borrowing: the cost of an additional loan should takes place. Specifically they will want to ensure that not exceed the rate of return on the additional investneither the interest rate nor the growth of debt persis- ment. tently exceeds the growth of exports or income. If these guidelines are not observed, debt and debt 1. The guidelines can be derived mathematically as follows: ratios may well grow at explosive rates.' Example 1 in T + iD Box figure 4.4A shows a hypothetical country that t T/D adheres to the guidelines. Both exports and GDP grow fast enough for the current account deficit eventually to ADID = D t + i decline-and, with it, debt and debt ratios. Example 2 where D is debt outstanding; T is the current account balance on decline-an, 'goods and onoractor services; t is the resource gap as a proportion of shows a country that violates both guidelines. The debt; and i is the interest rate on debt. Overdots indicate growth rates. growth of debt exceeds the growth of exports and Hence, income, and the interest rate exceeds the growth rate of (DiY) = D - Y t + (i - Y) both GDP and exports. Capital inflows accelerate; debt (D/X)= D - X t + (i - X) and debt ratios grow on an explosive, unsustainable where Y is GDP, and X is exports. Box figure 4.4A Hypothetical borrowing experiences Example 1 Example 2 Example 3 Trade deficit Interest payments D_1;5z,ev t exports Deb 53
Page 1 and 2:
Public Disclosure Authorized Public
Page 3 and 4:
World Development Report 1985 Publi
Page 5 and 6:
Foreword This is the eighth World D
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Contents Definitions and data notes
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A.4 Population and composition of G
Page 11 and 12:
Definitions and data notes Capital
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culated without making deductions f
Page 15 and 16: Part I Overview and Historical Pers
Page 17 and 18: Figure 1.2 Trends in selected debt
Page 19 and 20: countries depend on three variables
Page 21 and 22: ties includes many countries in Lat
Page 23 and 24: intermediation of the World Bank an
Page 25 and 26: In dealing with all these issues, t
Page 27 and 28: tury. By contrast, net capital infl
Page 29 and 30: tees on terms that seldom preserved
Page 31 and 32: mid-1960s and France a few years la
Page 33 and 34: Table 2.2 (continued) Country group
Page 35 and 36: Table 2.3 Net resource receipts of
Page 37 and 38: anking assets and liabilities. They
Page 39 and 40: Box 2.3 How inflation affects loan
Page 41 and 42: Box 2.4 The changing nature of debt
Page 43 and 44: agreement has been reached with Ecu
Page 45 and 46: Part II Role of Economic Policies 3
Page 47 and 48: Table 3.1 Current account balances
Page 49 and 50: eceipts minus social security outla
Page 51 and 52: expected to be high-a view consiste
Page 53 and 54: story. Difficulties had started ear
Page 55 and 56: Box 3.4 The costs of protecting sug
Page 57 and 58: 4 Foreign borrowing and developing-
Page 59 and 60: World Development Indicators, Table
Page 61 and 62: Box 4.1 The debt cycle hypothesis A
Page 63 and 64: guarantee that enough foreign excha
Page 65: Figure 4.5 Borrowing and growth in
Page 69 and 70: have been forced to reschedule thei
Page 71 and 72: happened to different developing co
Page 73 and 74: Figure 4.6 Change in investment, sa
Page 75 and 76: Figure 4.7 The composition of credi
Page 77 and 78: tion started increasing consumer su
Page 79 and 80: Box 4.6 Capital flight in the South
Page 81 and 82: and tighter fiscal and monetary pol
Page 83 and 84: Export Rehabilitation Program to pr
Page 85 and 86: 5 Managing foreign finance The prev
Page 87 and 88: Box 5.2 Integrated debt management:
Page 89 and 90: vate borrowing more carefully. In M
Page 91 and 92: available to the country. Some tech
Page 93 and 94: The maturity structure of debt earl
Page 95 and 96: developing countries greatly. For e
Page 97 and 98: help to develop debt management sys
Page 99 and 100: Part III Mechanisms for Internation
Page 101 and 102: Box 6.1 The growth and distribution
Page 103 and 104: Box 6.2 The deployment of the OPEC
Page 105 and 106: Box 6.3 The international interbank
Page 107 and 108: investment grew steadily for much o
Page 109 and 110: "graduation" of some developing cou
Page 111 and 112: Figure 7.1 Net receipts of official
Page 113 and 114: issue is the right balance between
Page 115 and 116: tive performance of different count
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tion of aid directly supports priva
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happened in the absence of aid. Two
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gram. This involves close collabora
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Box 7.8 Aid coordination Aid coordi
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Figure 8.1 Net position of developi
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Box 8.2 Arab banks and internationa
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default clauses would ensure that a
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perceived creditworthiness of devel
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Debt rescheduling and the banks Ban
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Box 8.7 Increasing the flexibility
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Box 8.9 World Bank cofinancing The
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9 Direct and portfolio investment T
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Box 9.1 Direct foreign investment i
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however, there has been a positive
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By contrast, some of the newly indu
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ecognition of the relevance of this
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Table 9.2 Return on investment in e
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Part IV Perspectives and Policies f
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ently estimated at slightly more th
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mies would continue to grow faster
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Middle-income countries Major expor
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Table 10.6 Net financing flows to d
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cies and performance against the me
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Table A.3 GDP, 1980, and growth rat
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Table A.7 Consumption, savings, and
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Table A.9 Change in export prices a
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Table A.12 Composition of debt outs
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problems in the Latin American coun
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Interbank Market: A Descriptive Stu
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Diversification in the Nineteenth C
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Contents Key 168 Introduction 169 M
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Table 21. Labor force 214 Populatio
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Introduction The World Development
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that it is a weighted average; the
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Life expectancy The map classifies
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GNP per capital Life Area Average a
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Average annual growth rate (percent
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GDP' Distribution of gross domestic
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Average annual growth rate (percent
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Distribution of gross domestic prod
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Value added Food aid Fertilizer con
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Distribution of manufacturing value
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Energy consumption Average annual e
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Merchandise trade Average annual gr
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Percentage share of merchandise exp
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Percentage share of merchandise imp
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Destination of merchandise exports
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Destination of manuiactu red export
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Receipts Gross international reserv
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Public and publicly guaranteed medi
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External public debt Interest payme
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Average interest Average Average Co
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OPEC Amount 1975 1976 1977 1978 197
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Average annual growth Hypothetical
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Crude Crude Percentage Percentage o
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Percentage of population of Pretgof
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Urban population Percentage of urba
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Life expectancy at Iniant birth (ye
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Daily calorie supply Population per
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Number Number enrolled in enrolled
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Percentage of total expenditure Hou
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Percentage of total current revenue
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Percentage share of household incom
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appropriateness of the exchange rat
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and electricity, water, and gas. Al
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import unit value index, this indic
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The summary measures in this table
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Data are mainly derived from the Wo
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and other training institutions by
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Bibliography of data sources Nation
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World Devlelopment Report 1985 focu
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