Chapter

Chpater 1 Developments in the World Economy

Author(s):
International Monetary Fund
Published Date:
September 1982
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Introduction

World economic developments during 1981 and the first half of 1982 were marked by signs of progress in the difficult fight against inflation. Despite this favorable aspect, the general situation at mid-1982 remained troublesome, posing major challenges to economic policy for both national governments and international institutions.

The problems facing national authorities and the international community are manifold. Inflation still remains too high in most countries. Low or negative rates of growth are widespread, with the pronounced three-year economic slowdown in the industrial countries having had visibly adverse effects not only on their own economies but also on the developing countries. Unemployment rates are high and rising, having moved substantially above 1975 recession levels in most of the industrial countries. Growth in the volume of world trade has fallen to an extremely low rate. External payments positions in many countries are dominated by large imbalances on current account. The level and movement of interest rates and exchange rates among major industrial countries during the past two years have caused difficult problems for these countries and for the rest of the world. Taken together, these several problems are serious and have become a source of widespread dissatisfaction and concern.

The conditions of weak demand and high unemployment in industrial countries are bringing increased threats of protectionism—a vital area of policy demanding the utmost vigilance and prudence in government actions, inasmuch as yielding to protectionist pressures could have very serious consequences for the growth of world trade. Weak demand in the industrial countries also has had a negative impact on prices of primary commodities, and hence on the export earnings of many developing countries. Impairment of the international purchasing power of those countries, in turn, has contributed further to the slowdown in world trade.

The increasing social and political strains associated with high unemployment are creating pressures for a relaxation of the restrictive, anti-inflationary financial policies that have been pursued during the past few years by many Fund members, including several of the major industrial countries. This, too, is a very worrisome development; under present conditions, a shift to expansionary fiscal and monetary policies might be expected to have only limited and temporary positive effects on output and employment and would run a grave risk of aggravating inflationary expectations and pressures that, all too soon, could lead to an even worse condition of stagflation. Whatever the cost of preventing another damaging flare-up of inflation, it would be less painful than the arduous adjustment process that would almost certainly follow.

In several of the larger industrial countries, definite signs of progress in the effort to reduce inflation have emerged. This progress, attributable primarily to the restraint exercised by monetary policy over the growth of aggregate nominal demand, has brought these countries further along the path toward adjustment of their economies (after due allowance for the lags involved) than is perhaps evident from the current statistics. In several of the larger industrial countries, and particularly in the United States, the recent evolution of wage costs presages—in the absence of new upward pressures—distinctly lower rates of increase in final product prices than those reported over the past year. It would be most unfortunate if these hard-won gains were to be dissipated through untimely resort to expansionary policies.

An important problem in the industrial countries consists of various rigidities and structural imbalances that have become imbedded in the economic system. Examples are to be found in wage bargaining and price setting, in government subsidies or protection of ailing industries, in the governmental imposition of regulatory burdens, and in structural unemployment. In addition, a considerable degree of rigidity has characterized certain aspects of government spending and taxation, with the result that large budget deficits have become prevalent. These deficits not only have had adverse direct effects on prices and costs but also have hindered the effectiveness of monetary restraint in various ways. In particular, they have played an important role in escalating interest rates to their current high levels (in real as well as nominal terms).

The prevailing structural imbalances and rigidities—especially with respect to wage and price determination—tend to make inflation in the industrial countries rather sticky and economic growth sluggish. If the fight against inflation and unemployment in these countries is to be successful over time, a comprehensive policy approach is required—one that not only would need to control the growth of aggregate nominal demand so as to reduce inflation but also would include measures designed to reduce or eliminate existing rigidities and structural imbalances in the fiscal field, in the goods and labor markets, and in other problem areas. Without effective measures of this type, a policy of marked reduction in the growth of nominal demand—depending on the effect it has on expectations—could have an adverse impact on output and employment for a considerable period of time and thus prove politically difficult to maintain. To shorten that period and minimize the adverse impact, flexible or informal policies seeking to restrain the rate of increase in nominal incomes—while still permitting necessary adjustment in the structure of incomes and prices—could be helpful in some countries. Such policies, of course, would have to be geared to the political, social, and institutional considerations applicable in each country.

There is clearly a need in present circumstances for widespread pursuit of comprehensive policies of adjustment: policies tailored to the circumstances of individual countries and focused, to the extent required, on reduction of inflation, improvement of economic efficiency, and elimination of external imbalances. Over the past few years, comprehensive adjustment policies have been adopted by an increasing number of member countries, industrial and developing alike, and others will doubtless follow suit. Because of the deep-seated nature of the problems to be addressed, the policies of adjustment must be cast in a medium-term context. Pursuit of these policies will thus require time and patience; they also will require courage, in view of the fact that many of the problems to be faced in restoring national economies to a sound footing are both unusually difficult and politically sensitive.

If the tasks of economic policy confronting national authorities seem arduous and lengthy, it must also be recognized that there would not appear to be any satisfactory alternative to the general course of policy indicated above. It is clear, in the light of experience, that the necessarily difficult process of adjustment to non-inflationary economic growth cannot be cut short through resort to protectionist trade measures or to prematurely expansionary fiscal and monetary policies. Protectionist measures would be particularly injurious to the trade prospects of the developing countries, whose external purchasing power has already been severely affected in many cases by the recent declines in prices of primary commodities. Experience suggests that patient implementation of prudent policies and avoidance of trade restrictions should lead to a convergence of inflation rates at lower levels and thus lay the foundation for sustained growth and higher employment in the longer term. The current easing of inflation rates in major industrial countries represents a hopeful step in that direction.

This chapter reviews the developments in the world economy that have provided a background for the foregoing general remarks. In this review, three major groups of countries—industrial, oil exporting developing, and non-oil developing—are dealt with separately in order to facilitate analysis and because of their diverse and changing positions at the present time; but the wide variations in positions of individual countries and subgroups of countries are also given recognition. The treatment of these groups of countries is comprehensive, with discussions of both domestic and external economic developments and policies. A final section of the chapter is devoted to policy issues, serving (inter alia) to amplify a few of the observations presented in this Introduction.

Domestic Activity and Policies

Industrial Countries

Stance of policies.—Throughout 1981 and the first half of 1982, abatement of inflation remained the prime objective of financial policies in the industrial countries. Although the authorities in most of those countries were confronted with exceptionally high rates of unemployment, they did not generally consider it appropriate to adopt policies aimed at near-term employment objectives. They acted on the conviction-expressed repeatedly at ministerial meetings of the past two years, including the Helsinki meeting (May 1982) of the Interim Committee of the Fund’s Board of Governors—that firm and continuing control of inflation has become a prerequisite for lasting improvement of the employment situation.

Both monetary and fiscal policies have been used in the effort to control inflation in the industrial countries. However, these two major instruments of demand management have been applied rather unevenly. Generally speaking, monetary policy has carried the main burden, chiefly because the effectiveness of fiscal policies has been undermined by a gap between design and implementation. Primarily because of various social and political pressures, the fiscal systems of most industrial countries have developed rigidities that make adjustments to changing circumstances unusually difficult.

One important obstacle to the effectiveness of anti-inflationary fiscal policies is the widespread existence of major programs involving either relatively firm legal entitlements or a strong sense of de facto entitlement, on the part of particular classes of beneficiaries, to various types of transfer or subsidy paid by government agencies. Programs featuring such payments, rather than direct government purchases of goods and services, have accounted for most of the substantial increase since the middle 1960s in the ratio of total government expenditures to gross national product (GNP) in the industrial countries. This increase has reflected not only the social and political pressures brought to bear on governments by actual and prospective beneficiaries but also the high degree of automaticity built into many programs in which outlays are closely linked to inflation and to growth in the number of beneficiaries. Such automaticity also militates, of course, against a flattening or reversal of the upward trend. At the same time, reluctance of taxpayers to bear the full cost of the programs generates a persistent bias toward maintenance or enlargement of government deficits.

The withdrawals of fiscal stimulus that have taken place since 1979 have been generally limited. In most of the larger industrial countries, actual deficits of central governments have been raised by the effects of the current cyclical slowdown on government revenues and expenditures, although allowance for these cyclical effects indicates that recent fiscal balances have been generally more restrictive (or less expansionary) than those prevailing shortly before the recession that began in the second quarter of 1980. Among the major industrial countries, by far the largest restrictive shift over the past two years—equivalent to more than 3½ per cent of GNP—was that in the United Kingdom; no other shift exceeded 2 per cent of GNP, and some of the shifts ran in the opposite direction.

In historical perspective, the fiscal deficits of the major industrial countries have remained generally quite high. As a percentage of GNP, the weighted average for these deficits in 1981 was nearly 4 per cent—only about 1 percentage point lower than in 1975, a year of recession and countercyclical fiscal measures. The fiscal shifts implied by budgetary plans for 1982 would not involve much change in the overall average.

The size of current fiscal deficits raises concern about the degree to which their financing absorbs saving. It is estimated that the weighted average share of gross private saving absorbed by the borrowing requirements of central governments of the major industrial countries in 1981 was about 17 per cent. While this proportion was less than that in 1975 (when it was more than one fifth), it was much larger than the corresponding average proportion in the early 1970s (less than one tenth, for example, in 1972). Although these shares vary widely among individual major industrial countries, ranging from about 10 per cent to more than 40 per cent in 1981, they are now markedly higher in every country than they were a decade ago. In view of this major structural shift in the disposition of saving flows, concern that productive private investment may be “crowded out” by government borrowing cannot be lightly dismissed.

Monetary policies in the major industrial countries have been decidedly more restrictive during the past two or three years. Although monetary situations and developments have differed considerably from country to country, the general tendency toward tighter policies has been evident in both slower rates of expansion in the principal monetary aggregates and sharply higher rates of interest in real, as well as nominal, terms. With some considerable lags, these developments can be expected to result in a slowing of price increases.

A weighted average of indices of narrowly defined money supplies in the seven major industrial countries shows that the annual rates of expansion have been reduced from an average of 10 per cent during the period 1976-78 to 7½ per cent in 1979 and to about 6½ per cent in 1980 and 1981. A similar composite index of broad money supplies shows annual rates of increase in the range of 11-13 per cent during each year of the period 1976-78, followed by increases of approximately 10 per cent in each of the past three years. Measured in real terms, these decelerations of monetary growth have been more pronounced. A deflated composite of broad money (based on GNP deflators) indicates a progressive drop in the annual rate of expansion from 5½ per cent in 1976 to about 1 per cent in 1980. Although the rate edged up to 1½ per cent for 1981, the average of 1½ per cent per annum over the past three years was fully 3 percentage points below the 1976-78 average. Deflated stocks of narrow money leveled off in 1979 and actually declined by some 2-3 per cent per annum in 1980 and 1981, in contrast with growth averaging nearly 3 per cent per annum from 1976 through 1978.

These reductions in average rates of growth of key monetary aggregates reflect the downward paths on which the targets (or target ranges) for such aggregates have been set by the authorities in most of the larger industrial countries. Increased emphasis on the quantitative aspects of monetary management, as distinguished from the price elements embodied in interest rates, has been a feature of the tighter monetary policies pursued in recent years. Such an emphasis has prevailed even though changes in financial regulations and practices have complicated interpretation of the movements in monetary aggregates in some countries (most notably, the United States).

Partly because of the increased stress on regulating the growth of money and credit and partly because this change was instituted at a time of ongoing inflationary momentum, strongly inflationary expectations, and uncertainties in the world economy, interest rates not only have increased dramatically in recent years but also have displayed wide fluctuations. Nominal interest rates on both long-term and short-term financial claims in the major industrial countries averaged more than 13 per cent in 1981, compared with about 6-7 per cent for short-term rates and 8-9 per cent for long-term rates during the period 1976-78. The average rate prevailing in 1981 exceeded the rate of inflation (as measured in terms of GNP deflators) by some 4½ percentage points, in sharp contrast to the relationship prevailing for several years prior to 1979. During the period 1976-78, the weighted average of real long-term interest rates in the major industrial countries (calculated by reference to GNP deflators) was less than 1½ per cent, and the corresponding average of real short-term rates was slightly negative.

The wide amplitude of variations in short-term interest rates since late 1979 (Chart 1) has been disturbing to both private market participants and the monetary authorities. Since degrees of restraint have varied considerably from country to country, as have the circumstances in which national monetary policies have been implemented, changes in interest rates have been far from uniform. The resultant shifts in international interest rate differentials have sometimes generated capital movements and exchange market pressures giving rise to constraints on policy options within the industrial world (especially for countries that are reluctant to allow their exchange rates to adjust freely to market forces) and having repercussions on many developing countries as well.

Despite considerable variation in the firmness with which financial restraint was being maintained during the latter part of 1981 and early 1982, the current policy stances of industrial countries, if fully implemented, would result in an average degree of restrictiveness in 1982 at least as firm as that already prevailing for some time. Stated intentions of the authorities regarding monetary aggregates would imply a slight deceleration in the composite rate of growth of broad money, and budgetary plans for a number of countries call for reductions in central government fiscal deficits (after cyclical adjustment). However, several countries have moved toward more expansionary fiscal policies, and there remains considerable uncertainty how fully the budgetary plans of countries aiming at restraint will be implemented.

Inflation.—The past 12 months have been marked by signs of progress in the efforts of the industrial countries to reduce inflation. However, the recent deceleration of consumer price increases has stemmed in part from transitory influences, such as the decline in oil prices following their steep 1979-80 rise. Increases in basic costs (mainly wages) have not come down nearly so much during the past year as final product prices, and continued progress in reducing them will require both maintenance of restraint in financial policies and public conviction that such policies will not be reversed.

Chart 1.Major Industrial Countries: Short-Term Interest Rates, 1978-June 19821

(In per cent per annum)

1The rates shown are monthly averages of daily rates on money market instruments of about 90 days’ maturity.

As measured by quarterly changes in consumer prices, the average rate of inflation in the major industrial countries subsided in the first quarter of 1982 to an annual rate of about 5 per cent—well below the average rate prevailing in 1978, before the sharp bulge of the intervening period. (See Chart 2.) The phase of accelerating increases in consumer prices, touched off and led mainly by the second round of increases in oil prices, had lasted from the end of 1978 into the early part of 1980. During that period, the average annual rate of consumer price inflation in the major industrial countries rose from about 7 per cent to 14 per cent. Soon thereafter, with the tapering off of the oil price increases, a marked deceleration set in, lowering the average inflation rate to about 9-10 per cent in the latter part of 1980. Through most of 1981, however, further deceleration was limited and irregular. Decontrol of domestic oil prices in the United States and the effects of exchange rate changes on import prices in Europe were among the special factors that contributed to this pause in the deceleration of consumer price increases.

Chart 2.Major Industrial Countries: Consumer Prices, 1978-June 1982 1

(Percentage changes)

1 Three months ended in the month indicated over the preceding three months; seasonally adjusted, annual rates.

2 Average for the seven major industrial countries.

3 The figures plotted for the second half of 1979 are affected by the approximately 3¼ per cent increase in the United Kingdom’s value-added tax rates, effective June 18, 1979.

A number of factors combined to bring about the substantial drop in the average rate of consumer price increases that occurred in the major industrial countries in the first quarter of 1982. These interrelated factors included the relapse of the U.S. and other major economies into recession, the decline in oil prices, the marked softening of primary commodity prices, and an appreciable easing of wage demands in a number of industrial countries. Some of these factors, however, were clearly transitory, and the underlying rate of inflation in the major industrial countries during the early part of 1982 remained above the actual rate of increase in consumer prices.

A better gauge of the underlying rate of inflation is to be found in the movements of GNP deflators. As comprehensive measures of domestic unit costs of production (including profits), the deflators are much less susceptible than consumer prices to the influence of changes in the costs of imported goods, such as oil, or to the effects of fluctuations in exchange rates. For the industrial countries as a group, the average rate of increase in GNP deflators accelerated only from 7½ per cent in 1978 to 9 per cent in 1980, reflecting considerable success in containing the secondary repercussions of the 1979-80 round of oil price increases. (See Table 1.)

By the same token, however, subsidence of inflation as measured by changes in the GNP deflators has been relatively slow. The average increase in 1981 eased by only ¼ of 1 percentage point to 8¾ per cent, and this small improvement stemmed mainly from downward changes in Italy and the United Kingdom, where very high rates of inflation had prevailed in 1980. However, some further improvement was registered in the first half of 1982, especially in the United States. A recessionary squeeze on profit margins contributed to this improvement, but the fact that much of it can be traced to moderation of wage claims indicates that gradual progress toward lower underlying rates of inflation continued during the first half of 1982. Key elements governing those rates are summarized in the accompanying tabulation of annual percentage changes in relevant variables for the industrial countries as a group.

Table 1.Industrial Countries: Changes in Output and Prices, 1963-811(In per cent)
Average

1963-722
Change from Preceding Year
197319741975197619771978197919801981
Real GNP
Canada5.57.63.61.25.52.13.62.90.53.1
United States4.05.8-0.6-1.15.45.54.83.2-0.22.0
Japan9.88.9-1.22.85.05.35.15.24.22.9
France35.55.43.20.25.23.13.83.31.40.4
Germany, Federal Republic of4.54.90.4-1.85.32.83.64.41.8-0.3
Italy34.67.04.1-3.65.91.92.74.93.9-0.2
United Kingdom33.07.2-1.9-1.12.82.23.71.9-2.1-2.2
Other industrial countries45.05.63.5-0.33.72.42.12.82.1-0.1
All industrial countries4.76.20.6-0.54.94.04.03.61.31.1
Of which,
Seven larger countries above4.76.30.1-0.65.24.34.33.71.11.3
European countries4.55.82.0-1.24.52.73.03.51.5-0.4
GNP deflator
Canada3.69.115.310.89.57.16.510.211.110.1
United States3.55.78.79.35.25.87.38.59.09.2
Japan5.511.721.27.56.65.74.62.63.02.9
France34.87.811.113.49.99.09.710.111.513.6
Germany, Federal Republic of4.06.06.96.73.33.83.83.74.94.3
Italy35.011.618.517.518.019.513.915.920.817.6
United Kingdom35.37.015.026.914.614.010.915.018.812.5
Other industrial countries45.49.312.212.910.410.39.07.78.39.0
All industrial countries4.27.411.711.17.67.77.57.98.98.7
Of which,
Seven larger countries above4.07.211.610.77.27.27.27.99.08.7
European countries4.98.011.713.89.79.98.68.810.710.1

Composites for the country groups are averages of percentage changes for individual countries weighted by the average U.S. dollar value of their respective GNPs over the previous three years.

Compound annual rates of change.

GDP at market prices.

Comprise Australia, Austria, Belgium, Denmark, Finland, Iceland, Ireland, Luxembourg, the Netherlands, New Zealand, Norway, Spain, Sweden, and Switzerland.

Composites for the country groups are averages of percentage changes for individual countries weighted by the average U.S. dollar value of their respective GNPs over the previous three years.

Compound annual rates of change.

GDP at market prices.

Comprise Australia, Austria, Belgium, Denmark, Finland, Iceland, Ireland, Luxembourg, the Netherlands, New Zealand, Norway, Spain, Sweden, and Switzerland.

Industrial Countries: Changes in Prices and Related Variables(In per cent)
1978197919801981
GNP deflator7.57.98.98.7
Wages and salaries per unit of real GNP7.07.39.28.6
Wages and salaries per worker Real GNP per worker8.99.110.09.8
Real GNP per worker1.81.70.81.1

The close parallel between changes in wages and salaries per unit of real GNP and in GNP deflators reflects, of course, the importance of payrolls among the various determinants of total costs or value generated by current production. At the same time, since the GNP deflator measures nominal value of total production per unit of real output, it also reflects changes in nonwage shares of national income, which were growing moderately in 1978 and 1979 but appear to have been squeezed somewhat in 1980 and 1981.

From the standpoint of gauging the underlying inflation rate, two significant developments are brought out in the tabulation. First, the rate of increase in wage and salary payments per employee, following its significant acceleration from 1978-79 to 1980, did not subside appreciably in 1981, although a modest deceleration is expected in 1982. Second, the rise in unit wage and salary costs accelerated considerably more in 1980 than did wages and salaries per worker because of the marked decline in productivity gains. Upward pressure on final product prices was thus intensified. Little overall progress toward restoring productivity gains was evident in 1981, nor is much expected for 1982. However, recent wage settlements offer encouraging signs. A substantial drop in the growth of unit wage costs—that is, either considerably lower increases in wages and salaries or better gains in output per worker (or both)—will be required to achieve any sizable and sustainable drop in the rate of inflation.

The geographic pattern of inflation rates in the industrial world did not change very much from 1980 to 1981. The U.K. rate, as measured by the GDP deflator, dropped from 19 per cent to 12½ per cent, and the Italian rate from 21 per cent 17½ per cent (Table 1); these rates, along with the 13½ per cent rate recorded for France, were still the highest among the major industrial countries. Elsewhere in that group, none of the changes from 1980 to 1981 exceeded 1 percentage point and the rate for the United States (about 9 per cent) did not decline at all from 1980 to 1981.

A factor that tended to sustain increases in GNP deflators of the continental European countries—and to raise directly their rates of inflation as measured by consumer price indices or domestic demand deflators—was deterioration of the terms of trade. For some of the European countries, in fact, such deterioration (associated in considerable part with the 1980-81 appreciation of the U.S. dollar) was sufficient to cause accelerated increases in domestic demand deflators even where some deceleration of domestic inflation as measured by GNP deflators was taking place. Because of the exchange rate changes, neither the tapering off of oil price increases in 1981 nor the weakening of primary commodity prices expressed in terms of U.S. dollars was translated into similar changes in import costs in terms of domestic currencies. On the contrary, these price developments were transposed into sizable increases in domestic currency prices paid by continental European importers. For example, the average increase in oil prices from 1980 to 1981, although amounting to only 10 per cent in terms of U.S. dollars, implied an increase of 36-37 per cent in terms of deutsche mark. Similarly, the deutsche mark prices of non-oil primary commodities imported by the Federal Republic of Germany rose by some 9 per cent, even though the corresponding U.S. dollar prices were declining by 12½ per cent. Increases in the deutsche mark prices of German exports were far from commensurate with those on the import side of the German trade account. In the United States, on the other hand, opposite influences affected price relationships. The rise in the U.S. domestic demand deflator was reduced by 1 percentage point from 1980 to 1981 despite a slight firming of the upward movement of the GNP deflator.

Output and demand.—At mid-1982, the economies of the industrial countries were stalled in a prolonged period of slow growth. Aggregate growth of real GNP in these countries averaged only about 1¼ per cent a year in 1980 and 1981, compared with 4 per cent from 1977 through 1979; and 1982 is shaping up as another year of weak expansion on an annual basis. Indeed, the first half of 1982 was marked by even lower (or negative) rates of growth in major industrial countries. However, several factors point toward better growth of real disposable income—and hence of household consumption expenditures—during the second half of 1982. Real wages in the major industrial countries have already begun to rise (following their decline in 1980) in reflection of a somewhat greater deceleration of consumer price increases than of nominal wage gains during the past year. Moreover, the personal income tax cut effective on July 1, 1982 in the United States should make for larger gains in real disposable income and consumption in the largest industrial country. In addition, the recently negative contributions of stock building to changes in aggregate demand, both in the United States and in several other major industrial countries, are likely to taper off or to be reversed as inventory adjustments induced by the cyclical slowdown in sales are completed. These factors may be expected to initiate a modest economic expansion during the second half of 1982. Still, the percentage increase in real GNP of the industrial countries for the full year would probably be even smaller than that of 1981.

With growth of output lagging well behind the estimated potential associated with available resources of manpower and real capital, unemployment rates have soared. However, despite the overhang of unused or underutilized resources implicit in these high levels of unemployment (discussed below), downward pressures on wage and price movements have been slow to emerge.

The duration of the current slowdown in economic activity has been to a considerable extent a by-product of the restrictive anti-inflation policies pursued by national authorities in the industrial countries since 1979. It has also reflected the corrosive effects of the inflation itself on real incomes and expenditures, along with the deflationary effects on oil importing countries exerted by the 1979-80 increases in oil prices. These developments resulted in a marked flattening of the growth of real disposable income, with consequent effects on aggregate demand.

Although the current slowdown has seriously affected all of the industrial countries, its extent has varied considerably among them. As measured by changes in average growth rates from 1978-79 to 1980-81, the most pronounced setbacks—all exceeding 3 percentage points per annum—were those in the United States, the Federal Republic of Germany, and the United Kingdom. The corresponding drop in France’s growth rate was 2½ percentage points, while decelerations in the range of 1½ to 2 percentage points were recorded for Canada, Japan, Italy, and the smaller industrial countries as a group.

The timing of recent changes in growth rates has also varied from country to country. In the United States and Canada (as well as in Australia and New Zealand), growth of output was particularly weak in 1980, but temporarily more buoyant (2-3 per cent) in 1981. A roughly opposite pattern prevailed among the continental European countries, including the smaller ones. Variations in real GNP growth for that group tended to parallel those in the Federal Republic of Germany, where output increased by 1¾ per cent in 1980, but declined by about ¼ of 1 per cent in 1981. The Japanese economy was consistently stronger than the others during this two-year period, while the U.K. economy was consistently weaker, registering declines of 2 percent a year.

These differences in the timing and direction of recent changes in economic activity in the major industrial countries are shown in Chart 3. For the United States and Canada, the profile is clearly one of recession during the first half of 1980, recovery over the period through about mid-1981, and renewed recession through at least the first quarter of 1982. In Europe, on the other hand, output has remained relatively stable at about the level to which it had receded by mid-1980.

Chart 3.Major Industrial Countries: Real GNP and Industrial Production, 1977-June 1982

(Indices, 1980=100)1

1 Seasonally adjusted.

2 Three-month moving average.

The same chart, which also plots the course of industrial production in the major industrial countries, brings out two additional and related points. It shows the generally greater amplitude of cyclical fluctuations in the industrial sectors than in the overall economies of these countries; and it indicates that the stagnation of the past two years has left industrial output far below previous peaks except in Japan. For the seven countries as a group, industrial production in early 1982 was about 5 per cent below the peak level of early 1980.

To a considerable extent, as already indicated, the origins of the present sluggishness of growth in output can be traced to a marked weakening of domestic demand under the combined effects of the 1979-80 oil price increases, accelerating inflation, and the accompanying implementation of restrictive financial policies. This weakening, as measured by changes in growth of real domestic demand from 1978-79 to 1980-81, was most pronounced in the Federal Republic of Germany, Japan, and the United Kingdom. In these three countries, which were the ones initially applying the most restrictive policies, the decelerations in domestic demand expansion over the indicated period exceeded 5 percentage points per annum. Corresponding decelerations were comparatively mild (about 1½ percentage points) in Canada, Italy, and the smaller industrial countries as a group. Intermediate declines in rates of demand expansion, on the order of 3 percentage points, were recorded for France and the United States. For the industrial countries as a group, the average annual rate of growth in real domestic demand dropped from 4 per cent in 1978-79 to ½ of 1 per cent in 1980-81.

The impact of this negative development on growth of output was softened to some extent by buoyancy of demand from outside the group of industrial countries, and especially in the oil exporting countries. Because of that buoyancy, real exports of the industrial countries increased in 1980 and 1981 at rates (8 per cent and 4½ per cent, respectively) far above the rates of increase in their total output. However, these relatively strong increases in exports were very unevenly distributed among the industrial countries, with Japan and, to a lesser extent, the Federal Republic of Germany accounting for particularly large shares of the aggregate increase.

The dominant element in the slowdown of domestic demand expansion was a sharp deceleration of consumer spending in real terms, induced by the slowing of growth in real income of households. The main elements in this chain of developments are outlined in the accompanying tabulation.

Industrial Countries: Changes in Household Consumption and Related Variables(In per cent)
1978197919801981
Total wages and salaries11.211.410.610.1
Per employee, in nominal terms8.49.29.99.9
Per employee, in real terms1.71.1-0.31.0
Total employment2.62.00.60.2
Disposable income11.611.611.010.0
Household consumption deflator6.68.010.28.8
Real disposable income4.73.30.70.9
Household consumption, in real terms4.53.71.01.4

The gradual slowing of growth in aggregate wages and salaries shown in the tabulation reflects, among other things, the tightening of financial policies since 1979, while the efforts of employed workers to maintain growth of their real incomes, although largely unsuccessful, are evidenced in the acceleration of increases in nominal wages and salaries per employee. The resulting decline in growth of employment is striking, as is the slowing of growth in real disposable income. The latter development was virtually paralleled by a slowdown in real consumption, although small declines in the average proportions of disposable income saved also occurred during 1979-81.

It is noteworthy that fiscal policy provided little or no support for the growth of real disposable income in 1980 and 1981. The absence of such support represents a sharp break with past experience, in which significant fiscal support for disposable income typically constituted an important element in the cushioning of cyclical downturns and the initiation of recoveries. In 1975, for example, net fiscal support equivalent to about 2 per cent of disposable income was provided. In 1980 and 1981, in contrast, such support made virtually no contribution for the major industrial countries as a group.

The weakness of consumer spending during 1980 and 1981 constituted a depressive influence on capital formation, along with lower profitability and the higher cost of capital. In real terms, gross fixed investment in the industrial countries, after increasing by 4-5 per cent per annum in 1978 and 1979, declined by 1½ per cent in 1980 and by another ¾ of 1 per cent in 1981. In relation to the slackening growth in consumption, however, these declines were considerably more moderate than those occurring during the 1974-75 recession. Moreover, much of the recent weakness of investment spending was centered in the interest-sensitive residential construction sector, where outlays of the industrial countries as a group were some 10-15 per cent lower in real terms in 1981 than two years earlier. Business fixed investment has been better sustained, showing slightly positive movements in both 1980 and 1981. Probable reasons for the better showing of business fixed investment include increases in tax incentives, investments intended to cope with recent changes in relative factor costs, and large investments in resource-based industries.

Finally, inventory changes have played a substantial part in the recent weakness of aggregate demand in the industrial countries. For the group as a whole, reduction in the rate of accumulation of stocks was equivalent to about ½ of 1 per cent of GNP both in 1980 and in 1981; and much larger negative contributions to GNP growth were recorded for individual countries in one or the other of those years. Drawdowns of oil stocks during the latter part of 1981, unbalanced relationships of inventories to current and prospective sales, and the impact of unusually high interest rates on the cost of holding inventories were among the factors behind the negative shifts in stockbuilding.

Employment.—The slow growth of demand in real terms over the past two and a half years has left a widening margin of underutilized economic resources, especially of manpower, throughout the industrial world. By mid-1982, unemployment had risen to about 8 per cent of the combined labor force of the industrial countries, compared with 5 per cent in 1979. In all of the major industrial countries, as well as most of the smaller ones, recent unemployment rates have approached or exceeded—in most cases, substantially—those reached during the 1975 recession.

For the industrial countries as a group, the recent increase in unemployment occurred despite a slowing of growth in the labor force. Partly for demographic reasons and partly because of cyclical influences, such growth dropped, on average, from 1¾ per cent per annum in 1977-79 to 1 per cent in the next two years. However, several of the European countries, including France and the Federal Republic of Germany, did not share in this slowdown. In these countries, growth of the labor force has remained relatively rapid (in relation to their own previous experience); and this circumstance, together with the worsening cyclical situation, has prompted various employment-creating programs.

For the major industrial countries as a group, labor force participation rates (which had been rising) have not changed greatly over the past two years. The rise in unemployment is thus largely a direct reflection of changes in employment, which was increasing in these countries at an average annual rate of about 2 per cent during the period 1976-79, but rose by only ½ of 1 per cent in 1980 and has subsequently stagnated. Employment in the service industries has continued to expand, although at a lower rate than during the late 1970s. In the manufacturing sector, however, outright declines of considerable magnitude have occurred. The number of workers employed in that sector was some 6 per cent smaller in early 1982 than three years earlier, and this downward adjustment was accompanied by a 2¼ per cent reduction in the average workweek.

While much of the current bulge in unemployment is cyclical in character, the severity of its implications is magnified by two considerations. First, there is an absence of any prospect of early reversal, given the outlook for only a moderate recovery from the current recession. Second, the recent cyclical increase in unemployment has been superimposed on a secular increase of more fundamental character. Even prior to 1980, unemployment in the industrial countries had been rising more or less continuously (except in Japan) for about a dozen years, with the increase especially marked in Europe after 1974. A comparison of average rates of unemployment in major industrial countries other than Japan for peak years of the economic cycle since the middle 1960s shows a progressive rise from about 3 per cent of the labor force in 1966 to 4 per cent in 1973 and 6 per cent in 1979. If this underlying trend is still operative, unemployment problems could remain serious even after recovery from the present recession.

Although many social groups have been affected by the secular increase in unemployment, the impact has been especially severe for younger segments of the labor force and for immigrant workers and other minority groups. In France, for example, the unemployment rate among workers under 25 years of age was about 20 per cent in early 1982, compared with 13 per cent in 1979 and only 4 per cent in 1973. Although corresponding increases elsewhere have, in general, been less dramatic, the average youth unemployment rate in the major industrial countries of Europe and North America reached 18 per cent in early 1982.

Demographic shifts have contributed to the change in unemployment rates in some of the major industrial countries, but they do not appear to account for the bulk of the secular rise for the group as a whole. Except for Japan, female labor force participation rates continued to increase during the 1970s, but the effects of this increase were largely offset in the four large European industrial countries by declining male labor force participation, especially among the youngest and oldest of the working age population.

The main factors contributing to the long-run rise in unemployment appear to have been threefold. First, there has been a large increase in the relative average cost of labor, particularly in European countries where real wages outpaced productivity gains by a wide margin during the first half of the 1970s. Sharp increases in labor-related taxes paid by employers, as well as in wage rates, have contributed to this shift.

A second factor has been lack of flexibility in labor markets. Where changes in a country’s allocation of resources among industries have required workers to switch from accustomed activities to new ones, established labor practices have often prevented potential employers from hiring workers in need of retraining at wages commensurate with their initial low productivity in the new activities. Minimum wage laws appear to have had similar effects in some countries.

Another factor has been a reduction of incentives to avoid unemployment. Financial pressures in this regard have been eased by the growth of households with more than one income earner. Also, unemployment benefits have tended to increase, and eligibility for them has been expanded, to such an extent that in some countries shifts from unemployed to employed status appear to have been discouraged. This deterrent to seeking employment has apparently been reinforced by the prevalence of fiscal systems that impose high effective marginal rates of taxation on such shifts. These unintended effects of programs with otherwise worthwhile social objectives may call for some reassessment both of the techniques through which protection for the unemployed is provided and of the interaction of tax and benefit regimes at the lower income levels.

Developing Countries—Oil Exporting Group

The twelve developing countries included in the main oil exporting group are highly diversified, differing in geographic size, population, oil reserves, and nature of non-oil activities, as well as in political and social conditions. Nevertheless, they share certain important characteristics and experiences, including the dominant role of oil in their export trade and of oil revenues in their national budgets.

Total output of this group declined in each of the past two calendar years and seems likely to decline further in 1982. These declines, estimated at about 2½ per cent for 1980 and 4½ per cent for 1981 (Table 2), reflected a marked reduction in world demand for the group’s oil attributable both to the international recession and to reactions of oil consumers to the 1979-80 increases in oil prices. However, because of the sharp improvement in terms of trade resulting from those price increases, the real national income of the oil exporting countries rose sharply from 1978 to 1980 and continued upward at a moderate rate in 1981. The expected decline in total real gross domestic product (GDP), together with a downward shift in the terms of trade, is likely to result in a partial reversal of these gains in 1982.

Real output of the non-oil sectors in the oil exporting developing countries, which accounted for somewhat more than half of their combined GDP in 1980, has followed a much steadier course than total GDP over the past several years. (See Table 2.) It is estimated to have grown by 5 per cent in 1981, compared with 4½ per cent in 1980, and is expected to continue to expand at a fairly similar average pace in 1982. The average non-oil growth rate since 1979, although considerably lower than that achieved during the mid-1970s, compares favorably with the growth experience of the other major groups of countries over the period.

Table 2.Developing Countries: Changes in Output, 1968-811(In per cent)
Average

1968-722
Change from Preceding Year
197319741975197619771978197919801981
Oil exporting countries39.010.78.0-0.312.35.91.82.9-2.7-4.6
Oil sector13.2-1.0-11.113.51.8-4.23.1-12.2-15.7
Other sectors9.712.312.411.38.95.82.84.45.2
Non-oil developing countries
Weighted average45.56.45.04.82.5
Excluding China6.66.15.53.95.95.15.54.74.42.5
Median4.94.65.73.85.25.05.64.74.03.0
By analytical group
Weighted averages4
Net oil exporters57.08.36.16.26.63.56.27.27.36.6
Net oil importers5.96.44.74.41.9
Excluding China5.85.85.43.55.85.45.34.23.91.7
Major exporters of manufactures68.19.46.53.36.35.64.96.34.4-0.2
Low-income countries76.58.83.45.23.6
Excluding China3.42.13.04.94.35.25.90.13.44.3
Other net oil importers5.54.16.02.66.25.25.53.63.13.3
Medians
Net oil exporters15.46.56.75.97.43.56.25.57.05.1
Net oil importers4.84.15.73.34.85.05.54.53.52.7
Major exporters of manufactures68.511.26.23.56.96.46.76.85.54.1
Low-income countries73.91.65.13.14.83.85.14.14.02.9
Other net oil importers4.94.75.74.44.65.76.04.83.02.5
By area
Weighted averages4
Africa4.93.06.62.54.21.92.42.64.62.6
Asia7.19.64.64.84.7
Excluding China4.55.03.85.27.26.58.13.13.45.7
Europe6.25.64.34.47.15.25.44.11.72.7
Middle East7.54.93.24.74.45.66.85.06.14.7
Western Hemisphere7.68.57.23.25.35.04.46.76.0-0.1
Medians
Africa4.22.55.53.04.73.83.54.23.02.0
Asia4.95.35.73.24.96.46.26.15.85.0
Europe6.75.45.75.47.75.36.87.03.02.2
Middle East6.44.95.87.17.33.87.25.26.55.4
Western Hemisphere5.05.06.04.44.65.66.04.83.52.0

Data in this table cover all Fund members except those listed in Table 1, together with a few territories for which output statistics are readily available. The main groups of “oil exporting countries” and “non-oil developing countries,” as well as each of the regional subgroups of non-oil developing countries, conform to the classification used in International Financial Statistics.

Compound annual rates of change.

This group comprises only countries meeting both of the following criteria (applied at present to 1977-79 averages): that oil exports (net of any imports of crude oil) account for at least two thirds of the country’s total exports; and that such net exports are at least 100 million barrels a year (roughly equivalent to 1 per cent of annual world exports of oil).

Arithmetic averages of country growth rates weighted by the average U.S. dollar value of GDPs over the previous three years.

Comprise Bahrain, Bolivia, People’s Republic of the Congo, Ecuador, Egypt, Gabon, Malaysia, Mexico, Peru, the Syrian Arab Republic, Trinidad and Tobago, and Tunisia. Although these countries export more oil than they import, none of them satisfies both of the criteria mentioned in footnote 3.

Include Argentina, Brazil, Greece, Hong Kong, Israel, Korea, Portugal, Singapore, South Africa, and Yugoslavia.

Comprise 40 countries whose per capita GDP, as estimated by the World Bank, did not exceed the equivalent of US$350 in 1978.

Data in this table cover all Fund members except those listed in Table 1, together with a few territories for which output statistics are readily available. The main groups of “oil exporting countries” and “non-oil developing countries,” as well as each of the regional subgroups of non-oil developing countries, conform to the classification used in International Financial Statistics.

Compound annual rates of change.

This group comprises only countries meeting both of the following criteria (applied at present to 1977-79 averages): that oil exports (net of any imports of crude oil) account for at least two thirds of the country’s total exports; and that such net exports are at least 100 million barrels a year (roughly equivalent to 1 per cent of annual world exports of oil).

Arithmetic averages of country growth rates weighted by the average U.S. dollar value of GDPs over the previous three years.

Comprise Bahrain, Bolivia, People’s Republic of the Congo, Ecuador, Egypt, Gabon, Malaysia, Mexico, Peru, the Syrian Arab Republic, Trinidad and Tobago, and Tunisia. Although these countries export more oil than they import, none of them satisfies both of the criteria mentioned in footnote 3.

Include Argentina, Brazil, Greece, Hong Kong, Israel, Korea, Portugal, Singapore, South Africa, and Yugoslavia.

Comprise 40 countries whose per capita GDP, as estimated by the World Bank, did not exceed the equivalent of US$350 in 1978.

The relatively brisk increase in economic activity other than extraction and processing of petroleum in most of the oil exporting countries reflected the general prevalence of moderately expansionary demand management policies. A shift toward more expansionary fiscal policies had occurred in late 1979 or 1980, after a period of restraint involving curtailment of government spending. The renewed surge in oil export earnings that began during 1979 occurred at a time when, in general, inflationary pressures in the oil exporting countries had been brought under control or greatly reduced and previous supply constraints had been eased. These circumstances favored and facilitated a step-up in government spending, which tends to be the major determinant of non-oil economic activity in many of these countries. In some of them, the more expansionary fiscal policies were supplemented by an easing of monetary and credit policies.

The authorities of the oil exporting countries, however, have undertaken to avoid a repetition of earlier experience with supply bottlenecks and inflationary pressures—to reduce the strains associated with development and improve the quality and composition of economic growth. The 1979-80 shift toward expansionary policies was generally much less pronounced than the corresponding shift after the 1973-74 oil price increase. Both the acceleration of government spending and the average growth of domestic liquidity were much milder during 1980 and 1981 than during the earlier period of rapid expansion, and there was a tendency in several countries to slow down the growth of governmerit spending during the course of 1981 in response to the downturn of receipts from oil exports. Moreover, with the substantial weakening of oil market conditions, this tendency became more widespread in the first half of 1982, when some countries were obliged to make significant cutbacks in planned levels of expenditures.

Given the more moderate and cautious policy responses of oil exporting countries to the 1979-80 oil price increases than to the 1973-74 increases, demand pressures appear to have contributed little to an acceleration of inflation; and the recent shift toward retrenchment of government spending will tend further to reduce the risk of a repetition of the inflationary experience of the mid-1970s in most countries. The average rate of increase in consumer prices in the oil exporting countries did rise from 10½ per cent in 1979 to about 12½ per cent in 1980 and 13 per cent in 1981 (Table 3), but is expected to decline somewhat in 1982. In countries where the exchange rate against the U.S. dollar was kept unchanged during 1981 and the early part of 1982, the weakness of import prices expressed in U.S. dollars contributed to the containment of inflation. Although problems faced by the oil exporting countries were generally mitigated by the foregoing factors, a need for policy measures to promote adjustment to current circumstances did arise in some of these countries, as noted above.

Table 3.Developing Countries: Changes in Consumer Prices, 1968-811(In per cent)
Average

1968-722
Change from Preceding Year
197319741975197619771978197919801981
Oil exporting countries
Weighted average38.011.317.018.816.815.510.210.512.613.1
Non-oil developing countries
Weighted average23.020.024.732.131.4
Excluding China9.122.128.727.027.627.023.629.036.937.2
Median44.210.418.415.09.911.69.412.214.913.8
By analytical group
Weighted averages3
Net oil exporters4.111.120.614.614.922.817.717.724.224.6
Net oil importers23.020.325.833.332.4
Excluding China10.624.130.229.430.227.924.831.239.339.7
Major exporters of manufactures14.121.324.940.155,840.937.344.654.362.2
Low-income countries7.13.76.811.69.6
Excluding China6.521.930.211.9-0.111.26.511.515.917.6
Other net oil importers8.431.940.329.119.720.519.324.632.920.2
Medians
Net oil exporters3.811.218.715.510.512.110.59.015.114.7
Net oil importers44.210.318.414.79.811.49.312.214.913.4
Major exporters of manufactures7.618.224.315.213.312.214.419.024.923.3
Low-income countries44.310.017.818.58.310.99.311.913.113.5
Other net oil importers3.910.618.413.19.011.48.612.214.812.5
By area
Weighted averages3
Africa4.69.715.415.014.919.315.219.219.322.7
Asia5.83.76.512.69.9
Excluding China6.521.530.310.20.37.85.79.416.015.4
Europe6.112.717.514.712.516.221.127.540.525.9
Middle East4.212.122.121.619.119.621.125.842.732.8
Western Hemisphere15.332.137.552.066.251.242.449.658.365.7
Medians
Africa4.29.315.715.610.613.29.912.212.013.0
Asia43.814.024.310.56.27.66.18.215.012.5
Europe3.812.916.213.411.612.212.519.016.619.5
Middle East4.317.120.114.113.914.311.912.117.19.0
Western Hemisphere4.312.922.015.79.811.410.415.618.115.0

For classification of countries in groups shown here, see Table 2.

Compound annual rates of change.

Geometric averages of country indices, weighted by the average U.S. dollar value of GDPs over the previous three years.

Excludes the People’s Republic of China.

For classification of countries in groups shown here, see Table 2.

Compound annual rates of change.

Geometric averages of country indices, weighted by the average U.S. dollar value of GDPs over the previous three years.

Excludes the People’s Republic of China.

Developing Countries—Non-Oil Group

The past year was marked by a further sharp deceleration of economic growth in the non-oil developing countries. Their combined real output increased by only 2½ per cent in 1981, compared with 5 per cent in each of the preceding two years and 6½ per cent in 1978 (Table 1). The 1981 figure was almost 1½ percentage points lower than the one recorded for the recession year 1975 and was, indeed, the lowest such rate for several decades.

In part, the severity of the slowdown from 1980 to 1981 can be traced to adjustment measures undertaken in the latter year by three large developing countries—Argentina, Brazil, and the People’s Republic of China. Together, these countries account for about one third of the total output of the non-oil developing countries, and the curtailment of their growth rates exerted a strong influence on the overall average.

However, the slowdown in growth for non-oil developing countries as a group was by no means a narrowly based development. This point emerges clearly from an examination of the medians of individual growth rates over the past few years. (See Table 2.) The median rate, which has the merit of being more representative of the growth experience of typical developing countries than is the weighted average rate cited above, declined progressively from 5.6 per cent in 1978 to 4.7 per cent in 1979, 4 per cent in 1980, and 3 per cent in 1981.

The prolonged sluggishness of activity in the industrial world has been, of course, an important factor in the slowing of growth in non-oil developing countries. One direct manifestation of this linkage may be seen in those countries’ exports, which had grown in volume by about 9 per cent per annum during the period 1976-79 but decelerated to 5½ per cent in 1980 and 4 per cent in 1981. (See Table 4.) An additional negative influence, also linked to the weakening of demand in the industrial countries, was deterioration in the terms of trade of the non-oil developing countries. (See Table 5.) This deterioration, stemming mainly from oil price increases during 1979 and 1980, was extended through 1981 by the cyclical weakness of primary product prices, which seriously impaired the export earnings of many countries in the non-oil developing group. For the net oil importers in that group, the cumulative deterioration of the terms of trade from 1977 to 1981 exceeded 15 per cent—equivalent to some $45-50 billion in terms of 1981 trade values. The resultant erosion of real income gains compounded the dampening of aggregate demand and production attributable to the weakness of export volume growth.

Table 4.World Trade Summary, 1963-811(Percentage changes)
Average

1963-722
Change from Preceding Year
197319741975197619771978197919801981
World trade3
Volume8.512.54.5-4.011.05.05.56.52.0
Unit value (in U.S. dollar terms)3.022.538.59.51.58.510.018.519.5-1.5
(in SDR terms)42.011.537.58.57.07.52.515.019.09.0
Volume of trade
Exports
Industrial countries9.013.27.1-4.610.65.16.16.74.62.6
Developing countries
Oil exporting countries9.114.8-0.9-11.514.30.6-4.03.0-12.9-16.2
Non-oil developing countries6.78.9-0.1-0.511.64.79.59.45.63.9
Imports
Industrial countries9.012.10.7-8.113.94.25.28.4-1.3-2.3
Developing countries
Oil exporting countries8.320.338.541.420.615.24.8 --12.314.419.4
Non-oil developing countries6.211.67.5-4.43.86.78.011.03.92.2
Unit value of trade (in SDR terms)4
Exports
Industrial countries2.19.823.710.75.66.75.312.111.86.3
Developing countries
Oil exporting countries2.625.7202.54.011.88.4-6.342.158.121.2
Non-oil developing countries1.221.137.7-1.912.612.9-1.813.919.09.5
Imports
Industrial countries1.811.740.57.96.67.92.515.221.06.9
Developing countries
Oil exporting countries2.112.526.99.95.77.74.910.511.78.7
Non-oil developing countries1.114.245.87.86.26.52.514.224.312.0

For classification of countries in groups shown here, see Tables 1 and 2. Excludes data for the People’s Republic of China prior to 1978.

Compound annual rates of change.

Averages based on data for the three groups of countries shown separately below and on partly estimated data for other countries (mainly the Union of Soviet Socialist Republics and other nonmember countries of Eastern Europe and, for years prior to 1978, the People’s Republic of China). Figures are rounded to the nearest 0.5 per cent.

For years prior to 1970, an imputed value of US$1.00 has been assigned to the SDR.

For classification of countries in groups shown here, see Tables 1 and 2. Excludes data for the People’s Republic of China prior to 1978.

Compound annual rates of change.

Averages based on data for the three groups of countries shown separately below and on partly estimated data for other countries (mainly the Union of Soviet Socialist Republics and other nonmember countries of Eastern Europe and, for years prior to 1978, the People’s Republic of China). Figures are rounded to the nearest 0.5 per cent.

For years prior to 1970, an imputed value of US$1.00 has been assigned to the SDR.

Table 5.Summary of Terms of Trade and World Prices, 1963-811(Percentage changes)
Average

1963-722
Change from Preceding Year
197319741975197619771978197919801981
Terms of trade
Industrial countries0.3-1.6-11.92.7-1.0-1.12.7-2.6-7.6-0.6
Developing countries
Oil exporting countries0.511.8138.4-5.45.80.6-10.728.641.611.5
Non-oil developing countries6.1-5.6-9.06.06.0-4.1-0.3-4.3-2.2
World trade prices (in U.S. dollar terms) for major commodity groups3
Manufactures3.017.721.812.39.014.714.511.0-5.0
Oil3.040.0225.85.16.39.30.148.761.910.1
Non-oil primary commodities (market prices)2.553.228.0-18.213.320.7-4.716.59.7-14.8

Based on foreign trade unit values except where indicated. For classification of countries in groups shown here, see Tables 1 and 2. Excludes data for the People’s Republic of China prior to 1978.

Compound annual rates of change.

As represented, respectively, by (a) the United Nations export unit value index for the manufactures of the developed countries; (b) the oil export unit values of the oil exporting countries; and (c) the International Financial Statistics index of market quotations for non-oil primary commodities.

Based on foreign trade unit values except where indicated. For classification of countries in groups shown here, see Tables 1 and 2. Excludes data for the People’s Republic of China prior to 1978.

Compound annual rates of change.

As represented, respectively, by (a) the United Nations export unit value index for the manufactures of the developed countries; (b) the oil export unit values of the oil exporting countries; and (c) the International Financial Statistics index of market quotations for non-oil primary commodities.

The rough parallel between changes in average growth rates for the oil importing developing countries and those for the industrial countries that is shown in Chart 4 for the years since 1976 represents a departure from prior experience. Neither the 1974-75 recession in the industrial countries nor the 1969-70 slowdown induced a commensurate reduction in the pace of expansion of real output in the oil importing developing countries. Although some slowing of that pace occurred both times, the decelerations were mild in comparison with those occurring in the industrial world. Such a result was consistent with the longer-term history of this relationship, which has indicated only a rather loose linkage of the two sets of growth rates, at least so far as year-to-year movements are concerned.

Chart 4.Selected Groups of Countries: Growth of Real Output, 1968-811

(Annual percentage changes)

1 GNP or GDP.

2Excluding the People’s Republic of China.

The widespread nature of the slowdown among developing countries during 1981, together with the closer linkage between changes in their domestic growth rates and developments in the industrial countries that has emerged over the past few years, suggests the presence of pervasive influences that had not been so strongly felt during earlier cyclical slumps. One such influence was probably the progressive integration of the world economy and the growing reliance of a number of the industrially more advanced developing countries on exports of manufactured goods and intermediate products to markets in the industrial world. Since the late 1970s, however, a more immediate influence may have been that exerted by programs of economic adjustment introduced by a number of countries in response either to external imbalances or to inflation—or, in many cases, to both. In this particular period, the restraints on demand embodied in such programs have tended to work in the same direction as the restrictive policies being applied in the industrial countries.

As indicated in a later section of this chapter, the typical size of external current account deficits among oil importing developing countries (as measured by the median of ratios of such deficits to exports of goods and services) rose far above earlier peak levels in both 1980 and 1981. In order to contain these deficits, many governments have been obliged to adopt measures designed to curb the demand for imports of goods and services, and most such measures have necessarily exerted a restraining influence on demand for domestic output, as well as for imports. Moreover, constraints on supplies of imported products have hampered the maintenance of domestic growth in a number of developing countries, particularly among those in the low-income category, where utilizable resources tend to be scarcest. Overall growth in the volume of imports into oil importing developing countries was reduced from some 8-9 per cent in 1978 and 1979 to an average of about 1 per cent in the past two years; indeed, outright declines in import volume in 1980 and 1981 were fairly typical of the group, as its aggregate import volume was sustained by the relatively strong external purchasing power of a few countries in the subgroup whose exports include large proportions of manufactured goods.

It is possible that the widespread acceleration of inflation among developing countries after about 1978 was among the factors contributing to the slowing of growth rates. A recent study by the Fund staff,1 based on inflation and growth records of more than 100 developing countries over the past decade, has found that relatively high rates of economic growth have been associated with relatively low (or declining) inflation rates, and vice versa. Although this statistical association cannot properly be viewed as evidence of a cause-and-effect relationship, it is consistent with the hypothesis that such a relationship may exist.

Although the slowing of growth among non-oil developing countries became widespread by 1981, marked differences in the experiences of individual countries have been apparent. Among the analytical subgroups shown in Table 2, the one whose growth record has differed most from that of the majority comprises the net exporters of oil. These countries, with the comparative freedom from external constraints afforded by their oil revenues, were able throughout the period 1979-81 to maintain rates of growth averaging 7 per cent—well above their annual average during the years 1976-78. On a weighted average basis, the weakest record in 1981, both in absolute terms and relative to 1976-78 performances, was that of the major exporters of manufactures. Their average record, however, was greatly affected by the adjustment policies adopted by Brazil and Argentina in 1981. In terms of median rates of growth, the recent records of both the low-income and the middle-income countries whose exports consist mainly of primary products (i.e., “Other net oil importers” in Table 2) have been appreciably weaker than the records of the developing countries that export oil or manufactured goods. In 1981, the typical (median) rates of growth in the first two subgroups were barely sufficient to keep pace with the increases in population, and there were many countries in these large subgroups where per capita output declined.

Regionally, the slowdown in growth among developing countries has been most pronounced over the past few years in Europe and the Western Hemisphere. In these two regions, median growth rates in 1981 were only 2 per cent, compared with some 6-7 per cent three years earlier. For Africa, where the median rate in 1981 was also 2 per cent, the contrast with earlier rates (about 4 per cent from 1977 through 1979) was less striking statistically, but perhaps more significant economically in view of the inadequacy of per capita incomes in the African area. The highest median rates of growth in 1981 (about 5 per cent) were those of the Asian and Middle Eastern regions, which were able to maintain economic activity at a pace only moderately below that of the late 1970s.

Despite the introduction of stabilization policies by a number of countries in the non-oil developing group, progress during 1981 toward reduction of the very high average rates of inflation reached in 1980 was limited in most cases. The (weighted) average inflation rate for the group as a whole, after rising to 32 per cent in 1980, compared with 20 per cent in 1978, was reduced by only about 1 percentage point in 1981 (Table 3). However, both the levels of the 1980-81 inflation rates and the degree of increase over the already high rates prevailing in the late 1970s reflect exceptionally rapid price increases in a few of the larger non-oil developing countries, particularly in the Latin American area. The median rate for the whole group rose from 9½ per cent in 1978 to 15 per cent in 1980 before declining, like the average rate, by about 1 percentage point in 1981. Even the median figures, however, clearly indicate that both the 1978-80 upsurge of inflation and the limited degree of success to date in reversing it have been developments shared by a high proportion of all non-oil developing countries.

Over the longer period since the global recession of 1974-75, the record is somewhat less discouraging. The median inflation rates of the past two years (14-15 per cent) were well below the peak rate of 18½ per cent in 1974 and slightly under the 1975 rate. The difference between this comparison and one based on weighted average inflation rates for the same years (37 per cent, excluding the People’s Republic of China, in 1980-81 versus about 28 per cent in 1974-75) is indicative of the role of some of the larger developing countries in raising the average rate of inflation of the non-oil developing group. Moreover, the relatively favorable comparison of recent inflation rates in “typical” non-oil developing countries with those of 1974-75 holds good for all of the analytical subgroups except the major exporters of manufactures, as well as for every regional subgroup except the European countries. For the low-income countries and for the middle-income exporters of mainly non-oil primary commodities (the two largest subgroups in terms of numbers of countries), the weighted average inflation rates, as well as the median rates, have remained below their 1974-75 peaks. These observations suggest that the majority of non-oil developing countries may be in a better position to achieve adequate control over inflation than would seem to be implied by the general averages, dominated as they are by the larger countries.

Although the acceleration of inflation among non-oil developing countries during the past three years can be attributed in part to the more inflationary external environment, it must also be ascribed to the maintenance of unduly expansionary policies by many countries throughout the latter 1970s, and by some of them, especially among the larger ones, even in 1980 and 1981. For the whole group, the average rate of expansion of broad money aggregates (money and quasi-money combined) was about 35 per cent per annum during the period 1976-78 and rose progressively in each subsequent year to 39 per cent in 1981.

Nevertheless, some evidence attests to the fairly widespread adoption of less expansionary policies since about 1979, even though no very noticeable effects on price movements have yet emerged. First, the median rate of growth of broadly defined money declined moderately from 1979 to 1980 and again in 1981, implying a divergence between the typical course of policy in numerous small countries and that in the large developing countries whose developments tend to dominate the weighted averages. Second, the recent growth of money aggregates can be viewed as relatively restrictive when measured in real terms. The degree to which annual rates of monetary expansion exceeded current rates of inflation was lower in 1980 and 1981 than during the latter 1970s by about 7 percentage points in terms of weighted averages and by 9 percentage points in terms of medians. Although monetary policies prevailing in the earlier period involved in this comparison were typically expansionary, such a sharp cutback in the growth of real money holdings is bound to have contributed to the deceleration of growth in output and, if the less accommodative policies of the recent past are maintained and extended, may be expected to exert in due course a progressively stronger downward influence on inflation.

The expansionary thrust of monetary policies in the non-oil developing countries during the latter 1970s was closely linked to their fiscal positions, which in recent years have featured deficits averaging about 3½ per cent of GDP. Although this average level in relation to GDP has been fairly stable, it has been held down by fiscal restraint exercised in a few large non-oil developing countries. The median ratio of the fiscal deficit to GDP has been drifting steadily upward, from some 3 per cent in 1975 to 6 per cent in 1981, signifying the continuation of expansionary fiscal policies in a considerable number of small developing countries. There, as in the industrial world, relatively large fiscal imbalances have made it difficult to curb monetary expansion without placing a severe squeeze on the availability of credit to private borrowers, and hence on credit-sensitive elements of private demand.

International Trade and Payments

Overview

The principal changes in the global pattern of payments balances in 1981 were partial reversals of the large shifts occurring during the preceding two years. The current account surplus of the oil exporting countries declined steeply, while the aggregate current account deficit of the industrial countries was reduced by an almost equally large amount. (See Table 6.2) Further substantial shifts in the same direction were in progress during the first half of 1982, with the prospect that the surplus of the oil exporting countries for the full year would drop much further and that the combined balance of the industrial countries (exclusive of official transfers) would swing into moderate surplus.

Table 6.Summary of Payments Balances on Current Account, 1973-821(In billions of U.S. dollars)
19731974197519761977197819791980198119822
Industrial countries17.7-13.917.8-2.2-4.930.5-10.2-43.7-3.711.0
Seven larger countries12.7-4.922.17.57.633.92.7-17.513.023.5
Other industrial countries5.0-8.9-4.3-9.7-12.6-3.5-12.9-26.2-16.7-12.5
Developing countries
Oil exporting countries6.768.335.440.330.82.969.8116.468.625.0
Non-oil developing countries3-11.6-37.0-46.5-32.0-28.3-39.2-58.9-86.2-99.0-97.0
By area
Africa4-2.1-3.5-6.9-6.1-6.6-9.0-9.7-12.7-13.3-13.0
Asia3-2.4-9.6-8.9-2.6-0.6-6.8-14.2-24.9-22.7-27.0
Europe0.3-4.3-4.7-4.1-7.6-5.2-8.5-10.9-7.9-6.0
Middle East-2.6-4.5-7.0-5.4-5.2-6.5-8.5-7.8-9.0-12.0
Western Hemisphere-4.7-13.5-16.4-11.9-8.7-13.2-21.3-33.1-41.5-35.5
Total512.817.46.76.1-2.4-5.80.7-13.7-34.1-61.0

On goods, services, and private transfers. For the industrial countries, alternative current account balances including official transfers are given for the years 1978-81 in Table 8. Projected 1982 balances including official transfers are—$11 billion for the industrial countries as a group, $5.5 billion for the larger countries, and—$16.5 billion for the other industrial countries. For classification of countries in groups shown here, see Tables 1 and 2.

Fund staff projections. Figures are rounded to the nearest $0.5 billion.

Excludes data for the People’s Republic of China prior to 1977.

Excluding South Africa.

Reflects errors, omissions, and asymmetries in reported balance of payments statistics on current account, plus balance of listed groups with other countries (mainly the Union of Soviet Socialist Republics and other nonmember countries of Eastern Europe and, for years prior to 1977, the People’s Republic of China). The large increase in this statistical asymmetry from 1979 to 1982—a matter of concern—is discussed in the Fund staff’s 1982 report on the World Economic Outlook, pages 141-42, as well as page 5.

On goods, services, and private transfers. For the industrial countries, alternative current account balances including official transfers are given for the years 1978-81 in Table 8. Projected 1982 balances including official transfers are—$11 billion for the industrial countries as a group, $5.5 billion for the larger countries, and—$16.5 billion for the other industrial countries. For classification of countries in groups shown here, see Tables 1 and 2.

Fund staff projections. Figures are rounded to the nearest $0.5 billion.

Excludes data for the People’s Republic of China prior to 1977.

Excluding South Africa.

Reflects errors, omissions, and asymmetries in reported balance of payments statistics on current account, plus balance of listed groups with other countries (mainly the Union of Soviet Socialist Republics and other nonmember countries of Eastern Europe and, for years prior to 1977, the People’s Republic of China). The large increase in this statistical asymmetry from 1979 to 1982—a matter of concern—is discussed in the Fund staff’s 1982 report on the World Economic Outlook, pages 141-42, as well as page 5.

Not all of the major shifts of the 1978-80 period, however, have been put into reverse. The current account deficit of the non-oil developing countries, which had increased steeply in that period, rose still further in 1981, to about $100 billion. It is not expected to decline appreciably in 1982.

The latest swings in current account balances of major groups of countries have occurred in a setting of weakness in world trade, induced by the recession in the industrial countries and the external financing constraints encountered by many of the non-oil developing countries. Growth in the volume of world trade, which had slowed down markedly in 1980, ceased altogether in 1981. Valued in terms of U.S. dollars, the total flow of trade declined for the first time in many years, although its value in terms of other major currencies or SDRs continued to rise. (See Table 4.)

The only element of significant buoyancy in the global trade picture during 1981 was a 20 per cent increase in the volume of imports purchased by the oil exporting countries. However, with their own exports sharply reduced in real terms and the price of oil declining during the first part of the year, the imports of those countries are expected to show a much more moderate expansion in 1982. Imports of the industrial countries, in contrast, declined by 2½ per cent in real terms in 1981 (with a 12 per cent drop in the volume of oil imports accounting for virtually the entire decline) and remained depressed in the early part of 1982. In the world trade aggregate, the 1981 decline in import volume of the industrial countries roughly offset not only the strong increase in import demands of the oil exporting countries, but also a small increase (2 per cent) in real imports of the non-oil developing countries. The pattern of shifts in export volume in 1981 also featured relatively small increases for the industrial countries and the non-oil developing countries (by 2½ per cent and 4 per cent, respectively), in contrast with a large decline for the oil exporters (by some 16 per cent).

The inflation of foreign trade prices decelerated markedly in 1981. In terms of U.S. dollars, such prices declined slightly, on average, in striking contrast to annual increases of almost 20 per cent in 1979 and 1980. On an SDR basis, world export-import prices increased by 9 per cent in 1981, after rising by 15 per cent in 1979 and 19 per cent in 1980.

Whatever the unit of measurement, movements of prices for different categories of goods varied widely, generating corresponding differences in price movements of countries’ exports and imports, depending on their composition. In this context, attention may be called to Table 5, showing terms of trade changes for three major groups of countries, as well as comparative price movements for three broad categories of internationally traded goods. One feature of the table is the contrast in 1981 between the decline in market prices of non-oil primary commodities, which amounted to 15 per cent in terms of U.S. dollars, and the decline of only 5 per cent in U.S. dollar prices of manufactures. Both of these declines contrast even more sharply, of course, with the 10 per cent rise from 1980 to 1981 in the U.S. dollar price of oil. The decline in non-oil commodity prices continued during the first half of 1982, leaving the index of those prices at mid-year some 13 per cent (in terms of U.S. dollars) below its average level in 1981. In “real” terms (i.e., deflated by the price index for manufactures used in Chart 5), non-oil primary commodity prices in mid-1982 were lower than at any other time for more than three decades, and 21 per cent lower than in the recession year 1975.

Chart 5.Indices of Prices of Non-Oil Primary Commodities Exported by Primary Producing Countries, 1976-Second Quarter 1982

(In U.S. dollar terms; 1975=100)

1Ratio of index for all primary commodities to the United Nations index of export unit values of developed countries’ exports of manufactures.

Because of the foregoing contrasts in foreign trade price movements, as well as further differences among individual categories of primary products, shifts in the terms of trade contributed importantly to the movements of current account balances in 1981, although not to the same extent as in the preceding two years. For the oil exporting countries, an 11½ per cent improvement in the terms of trade from 1980 to 1981 cushioned the adverse change in the net volume of exports and imports. For the other two major groups, the directions of change in both terms of trade and net export volume were the opposite, in varying degrees. The positive swing in net export volume of the industrial countries was moderately sizable and was offset only to a small extent by slippage of the terms of trade. For the non-oil developing countries, on the other hand, the corresponding positive swing was smaller and the terms of trade deterioration larger, so that the latter more than offset the former.

Some of the main changes in the service accounts of the balance of payments (Table 7) were also very unevenly distributed among the major groups of countries. In particular, the rise in international interest rates and outstanding indebtedness added substantially to the external payments of the non-oil developing countries and the external receipts of the oil exporting countries in 1981. The combined payments balance of the industrial countries was not so strongly affected, despite enlargement of both payments and receipts of interest, since these countries continued—as a group—to perform essentially a financial intermediary function in the international capital and credit markets.

Recent developments in the external payments positions of various groups of countries, and of a few of the major industrial countries individually, are reviewed more fully in the following sections. The first of these deals with the industrial countries, discussing both changes in their current account balances and the wide fluctuations in exchange rates for major currencies that have occurred during the past two years. Subsequent sections cover the external transactions of the oil exporting countries and of the non-oil developing countries.

Table 7.Global Balance of Payments Summary, 1978-81(In billions of U.S. dollars)
Balance onCapital Account Balance1Change in Liabilities to Foreign Official Agencies2Balance Financed by Changes in Reserve Assets3
TradeServices and private transfersCurrent account excluding official transfers
Industrial countries4197810.320.230.5-18.0532.444.9
1979-35.225.0-10.238.25-16.711.3
1980-64.821.1-43.751.0524.131.4
1981-17.613.9-3.7-23.655.0-22.3
Oil exporting countries4197840.8-37.92.9-12.9-10.0
1979113.2-43.469.8-55.814.0
1980168.7-52.3116.4-96.719.7
1981120.5-51.968.6-67.61.0
Non-oil developing countries41978-33.0-6.2-39.255.1-0.115.8
1979-47.6-11.4-58.971.00.312.4
1980-70.6-15.6-86.289.41.74.9
1981-75.2-23.7-99.095.25.41.6
By analytical group4
Net oil exporters1978-3.7-4.2-7.99.11.2
1979-1.8-6.7-8.512.4-0.13.8
1980-1.5-9.5-11.015.1-0.43.7
1981-7.8-12.8-20.620.50.1
Net oil importers1978-29.4-2.0-31.346.0-0.114.6
1979-45.8-4.6-50.458.80.38.7
1980-69.1-6.1-75.274.42.11.3
1981-67.5-11.0-78.474.75.31.6
Major exporters of1978-9.9_-10.020.4-0.69.8
manufactures1979-19.0-2.5-21.525.0-0.43.1
1980-26.3-6.0-32.429.60.6-2.2
1981-26.7-9.3-36.032.51.0-2.5
Low-income countries1978-8.80.5-8.39.3-0.10.9
1979-12.30.7-11.613.40.22.0
1980-19.02.0-17.016.10.8-0.1
1981-14.11.9-12.210.21.5-0.5
Other net oil importers1978-10.7-2.5-13.216.50.63.9
1979-14.5-2.8-17.420.50.53.6
1980-23.8-2.1-25.828.70.73.6
1981-26.7-3.5-30.227.12.7-0.4
Total, all countries6197818.1-23.8-5.824.232.350.7
197930.4-29.80.753.4-16.437.7
198033.3-46.8-13.543.725.856.0
198127.7-61.7-34.14.010.4-19.7

This balance is computed as the difference between the balance financed by changes in reserve assets and the sum of the current account balance and the change in liabilities to foreign official agencies; it includes net errors and omissions, as well as reported capital movements, government transfers, SDR allocations, valuation adjustment, and gold monetization. (See also footnote 2.)

The concept of “liabilities to foreign official agencies” used in this table encompasses use of Fund credit and short-term balance of payments financing transactions in which the liabilities of the borrowing country are presumably treated as reserve assets by the creditor country.

The changes in reserve assets indicated here are calculated as the changes in U.S. dollar equivalents of period-end stocks of total reserves with gold valued at SDR 35 per ounce. It may be noted that official agencies of some countries hold external financial claims that are not classified as reserves. Changes in such claims are included in the column “Capital Account Balance” of this table. The dividing line between capital movements and reserve asset changes remains particularly uncertain for some oil exporting countries.

For classification of countries in groups shown here, see Tables 1 and 2.

See footnote 6.

Global balance of payments aggregations inevitably contain many asymmetries arising from discrepancies of coverage of classification, timing, and valuation in the recording of individual transactions by the countries involved. A major area of asymmetrical classification during recent years concerns the recording of official claims placed in Eurocurrency markets. Some of these transactions, although treated as changes in reserve assets by the investing countries, are recorded as capital inflows by the recipient countries (mainly, the industrial countries). Had such transactions been recorded symmetrically, the global summations would show both a smaller net capital inflow and a larger aggregate change in liabilities to foreign official agencies. If identified Eurocurrency reserve placements (shown in terms of SDRs in Table 19 of this Report) were assumed to have been placed in industrial countries, then the adjusted net capital inflows to those countries would amount to—$21.7 billion, $32.4 billion, $38.2 billion, and—$26.2 billion over the years 1978, 1979, 1980, and 1981, respectively. (See also Table 6, footnote 5.)

This balance is computed as the difference between the balance financed by changes in reserve assets and the sum of the current account balance and the change in liabilities to foreign official agencies; it includes net errors and omissions, as well as reported capital movements, government transfers, SDR allocations, valuation adjustment, and gold monetization. (See also footnote 2.)

The concept of “liabilities to foreign official agencies” used in this table encompasses use of Fund credit and short-term balance of payments financing transactions in which the liabilities of the borrowing country are presumably treated as reserve assets by the creditor country.

The changes in reserve assets indicated here are calculated as the changes in U.S. dollar equivalents of period-end stocks of total reserves with gold valued at SDR 35 per ounce. It may be noted that official agencies of some countries hold external financial claims that are not classified as reserves. Changes in such claims are included in the column “Capital Account Balance” of this table. The dividing line between capital movements and reserve asset changes remains particularly uncertain for some oil exporting countries.

For classification of countries in groups shown here, see Tables 1 and 2.

See footnote 6.

Global balance of payments aggregations inevitably contain many asymmetries arising from discrepancies of coverage of classification, timing, and valuation in the recording of individual transactions by the countries involved. A major area of asymmetrical classification during recent years concerns the recording of official claims placed in Eurocurrency markets. Some of these transactions, although treated as changes in reserve assets by the investing countries, are recorded as capital inflows by the recipient countries (mainly, the industrial countries). Had such transactions been recorded symmetrically, the global summations would show both a smaller net capital inflow and a larger aggregate change in liabilities to foreign official agencies. If identified Eurocurrency reserve placements (shown in terms of SDRs in Table 19 of this Report) were assumed to have been placed in industrial countries, then the adjusted net capital inflows to those countries would amount to—$21.7 billion, $32.4 billion, $38.2 billion, and—$26.2 billion over the years 1978, 1979, 1980, and 1981, respectively. (See also Table 6, footnote 5.)

Industrial Countries

Current account developments.—The combined current account balance of the industrial countries, as already indicated, rebounded in 1981 from the deep deficit into which it had fallen as a result of the 1979-80 oil price increases. From a peak of some $66 billion, inclusive of official transfers, the aggregate deficit of these countries shrank to $25 billion in 1981. Exclusive of official transfers (which were little changed), the deficit was almost eliminated in the latter year. (See Table 8.)

Table 8.Industrial Countries: Balance of Payments Summaries, 1978-81(In billions of U.S. dollars)
Balance onCapital Account BalanceChanges in Liabilities to Foreign Official Agencies 3Balance Financed by Changes in Reserve Assets4Memo: Current Account Including Official Transfers
TradeServices and private transfersCurrent account excluding official transfersTotal1Long-term capital and official transfersOther2
Canada19783.5-7.5-4.04.03.01.0-4.3
19793.5-7.8-4.33.62.70.9-0.7-4.2
19807.3-8.5-1.21.31.00.30.1-0.9
19816.1-10.9-4.85.01.73.30.3-4.5
United States1978-33.822.2-11.6-19.4-14.9-4.531.20.2-14.8
1979-27.330.43.110.9-18.429.3-13.60.4-0.5
1980-25.331.56.2-13.7-13.714.97.41.5
1981-27.936.99.0-11.66.6-18.24.92.34.5
Japan197825.3-7.318.0-7.8-13.96.110.217.6
19791.8-9.8-8.0-4.9-13.58.6-12.9-8.8
19802.1-11.6-9.514.61.113.55.1-10.7
198120.0-13.86.2-2.7-7.95.23.54.8
France19781.53.75.2-1.8-4.52.70.33.73.7
1979-1.24.23.04.3-6.711.00.17.41.3
1980-12.05.7-6.315.4-10.125.50.59.6-7.9
1981-9.22.6-6.6-10.010.01.2-5.4-7.9
Germany,197825.5-12.113.4-2.5-5.83.33.214.19.0
Federal197917.5-17.40.13.30.72.6-0.33.1-6.0
Republic of198010.5-19.3-8.8-1.3-3.01.75.4-4.7-16.3
198117.9-18.9-1.0-0.2-2.01.8-3.5-4.7-7.7
Italy19782.95.07.9-3.8-0.9-2.9-0.83.36.4
1979-1.07.46.41.1-1.32.4-1.16.45.5
1980-16.46.9-9.514.35.19.24.8-9.7
19815-10.63.1-7.54.25.0-0.8-3.3-8.2
United Kingdom1978-3.08.15.1-7.2-8.41.2-1.9-4.01.8
1979-7.39.72.44.6-8.813.4-3.53.5-2.0
19802.88.811.6-14.9-13.5-1.44.20.97.3
19817.210.517.7-24.6-20.9-3.71.4-5.514.2
Other industrial1978-11.88.3-3.520.51.718.80.417.4-5.4
countries61979-21.38.4-12.915.3-3.919.21.74.1-15.2
1980-33.77.5-26.235.35.829.5-0.98.2-29.0
19815-21.14.4-16.76.23.03.21.0-9.5-20.3
Total industrial197810.320.230.5-18.07-43.725.732.444 914.0
countries1979-35.225.0-10.238.27-49.287.4-16.711.3-29.9
1980-64.821.1-43.751.07-27.378.324.131.4-65.7
19815-17.613.9-3.7-23.67-24.50.95.0-22.3-25.2
Memorandum:
Total industrial countries excluding United States197844.1-2.042.11.4-28.830.21.244.728.8
1979-7.9-5.4-13.327.3-30.858.1-3.110.9-29.5
1980-39.4-10.5-49.964.7-13.678.39.224.0-67.3
1981510.3-22.9-12.6-12.1-31.119.00.1-24.6-29.6

See Table 7, footnote 1.

Includes SDR allocations, recorded net movements of short-term capital, net errors and omissions, valuation adjustments, and gold monetization.

See Table 7, footnote 2.

See Table 7, footnote 3.

Partly estimated.

Australia, Austria, Belgium-Luxembourg, Denmark, Finland, Iceland, Ireland, the Netherlands. New Zealand, Norway, Spain, Sweden, and Switzerland.

See Table 7, footnote 6.

See Table 7, footnote 1.

Includes SDR allocations, recorded net movements of short-term capital, net errors and omissions, valuation adjustments, and gold monetization.

See Table 7, footnote 2.

See Table 7, footnote 3.

Partly estimated.

Australia, Austria, Belgium-Luxembourg, Denmark, Finland, Iceland, Ireland, the Netherlands. New Zealand, Norway, Spain, Sweden, and Switzerland.

See Table 7, footnote 6.

The largest single factor in the upswing of some $40 billion was a marked reduction in the volume of oil imports of the industrial countries. An almost equal contribution came from improvement of the net volume of exports and imports in non-oil trade, in considerable part through growth of exports to the oil exporting countries. However, these positive factors were partly offset by some deterioration of the terms of trade. Although the non-oil component of the industrial countries’ terms of trade improved slightly in 1981, this movement was not sufficient to compensate for the further increase in oil import prices (on an annual basis).

Both the upswing from 1980 to 1981 and the resulting current account balances for 1981 were quite unevenly distributed among the industrial countries. (See Table 8.) Japan and the Federal Republic of Germany—the two countries in the group with the largest deficits in 1980—accounted for more than half of the total improvement for the group as a whole, and the United Kingdom, whose current account was already in surplus in 1980, accounted for nearly half of the remainder. Only Canada, among the larger countries, had a larger current account deficit in 1981 than in 1980. Most of the other countries in the group, however, also remained in deficit. Exceptions included, in addition to the United Kingdom with its very large surplus of $14 billion (including official transfers), Japan (with a surplus of $5 billion) and the United States (with one of $4½ billion, up from $1½ billion in 1980). The current account deficits of industrial countries other than these three still totaled about $50 billion in 1981, including about $20 billion for the smaller industrial countries as a group.

Although the U.K. and U.S. surpluses are expected to decline in 1982, Japan’s is unlikely to show much change, and the current account of the Federal Republic of Germany may return to surplus. With deficits generally declining among the smaller industrial countries, the prospect is that the combined deficit of the whole industrial group will be reduced considerably again in 1982. Grounds for expecting the positive swing to continue include the outlook for relatively stable oil prices, continuing weakness in non-oil commodity prices (Chart 5), and the improbability of any sizable year-to-year increase in the volume of imports of the industrial countries, given the sag in their domestic economic activity in the first half of 1982 and the prospect of only a mild recovery in the second half.

In 1981, Japan’s current account balance showed an upswing of $15 billion—from a deficit of $11 billion in 1980 to the $5 billion surplus mentioned earlier. This re-emergence of a Japanese surplus reflected both a decline in the volume of imports (especially of oil) and a rise—although less rapid than in 1980—in export volume. Weak domestic demand and structural adjustments in Japanese industry that lowered consumption of both energy and raw materials underlay the decline in imports. Japan’s export volume gains—amounting to about 11 per cent in 1981, on top of a 17 per cent increase in 1980—reflected a strong international competitive position following the substantial depreciation of the yen from late 1978 to early 1980. However, a higher average effective exchange rate for the yen prevailed during 1981 than during 1980, and the improvement in the current account balance tapered off in the latter part of 1981. Further improvement in 1982 is unlikely to proceed at the 1981 pace, particularly in view of the voluntary controls on export deliveries being undertaken by certain Japanese industries.

The recent positive swing in the current account balance of the Federal Republic of Germany started later than that in Japan (Chart 6) and was not so large in 1981 (on an annual basis). Germany’s competitive position also showed considerable strength, with exports outpacing market growth by several percentage points (although not to the extent of the corresponding margin for Japanese exports); and German imports declined appreciably in real terms. The improvement in Germany’s trade balance was especially marked in the second half of 1981. It reflected favorable effects on trade volumes resulting from the depreciation of the deutsche mark during the year, although it was dampened by the adverse J-curve effects of the change in the exchange rate.

The remaining large increase in an industrial country’s current account surplus in 1981—that of the United Kingdom—bore little resemblance to the two already discussed. The competitive position of U.K. manufacturers, as measured by any of the usual indices of internationally comparative costs or prices (Chart 8), had deteriorated to an extraordinary degree throughout 1979 and 1980 under the combined impetus of a strongly appreciating effective exchange rate and one of the highest inflation rates among the major industrial countries. At least partly for that reason, the volume of non-oil exports from the United Kingdom declined by about 3 per cent, despite a growth of 4 per cent in the foreign markets to which they were directed. However, the volume of non-oil imports of the United Kingdom showed little change, reflecting the depressed state of domestic demand, and U.K. net exports of oil increased significantly. In addition, the terms of trade continued to improve, and the 1980 surplus on services and transfers increased substantially. These two positive influences on the current account balance outweighed the decline in export volume by a wide margin in 1981. However, the revival of import growth expected to accompany a degree of recovery in domestic demand seems likely to reduce the current account surplus in 1982—especially if, as expected, one component of the pickup in domestic demand should be a substantial rebuilding of stocks of imported raw materials and semifinished products.

Chart 6.Major Industrial Countries: Payments Balances on Current Account, Including Official Transfers, 1978-First Quarter 19821

(In billions of U.S. dollars)

1Seasonally adjusted, annual rates.

2Because of a U.K. Civil Service dispute, data for the second and third quarters of 1981 are not available.

Chart 7.Major Industrial Countries: Exchange Rates, 1978-June 1982

(Indices, 1980=100)

1 Based on the Fund’s multilateral exchange rate model.

Chart 8.Major Industrial Countries: Relative Costs and Prices of Manufactures, Adjusted for Exchange Rate Changes, 1978-First Quarter 19821

(Indices, 1977=100)

1 Indices of the type shown here are frequently referred to as indicators of real effective exchange rates.

2 Annual deflators for gross domestic product originating in manufacturing with quarterly interpolations and extrapolations (beyond the latest available annual data) based on wholesale price data for raw materials and manufactures.

3 Index of hourly compensation divided by index of potential “output per man-hour.”

The current account of the United States, which had swung sharply from deficit to surplus in 1979, when the current accounts of most other industrial countries were deteriorating, showed moderate increases in the surplus in both 1980 and 1981. Strong gains in U.S. shares of export markets and in total export volume had followed the marked depreciation of the U.S. dollar during 1978. By 1981, renewed appreciation of the dollar and sluggish growth of markets abroad were deterring further U.S. export expansion. In addition, the volume of non-oil imports rose again after two years of stagnation. However, a substantial further drop in the volume of oil imports and a favorable shift in the terms of trade prevented any substantial worsening of the U.S. trade deficit, and a sizable increase in the large surplus on services and transfers tilted the movement of the current account balance upward.

The slippage of the U.S. competitive position with respect to manufactured goods during 1981 may result in a considerably larger loss of export market shares in 1982. However, a larger improvement in the terms of trade and a further decline in oil imports, as well as the continuing uptrend in net receipts from services, are expected to limit any deterioration in the current account balance.

The only major industrial country to undergo a significant deterioration in its current account balance from 1980 to 1981 was Canada. That country’s deficit on service transactions continued to worsen, while its trade balance was adversely affected by the weakening of commodity prices and an increase in net petroleum imports resulting from a cutback in domestic production. Neither the French nor the Italian current account deficit showed much change in 1981, nor is either expected to change substantially in 1982.

Among the smaller industrial countries, whose combined current account deficit declined from $29 billion in 1980 to $20 billion in 1981, a large majority recorded positive movements of their individual balances. A notable exception was Australia, where the deficit doubled; and other exceptions included Belgium-Luxembourg (with no change), Ireland, and New Zealand.

Exchange rate developments.—Volatility of exchange rates for major currencies has been one of the outstanding features of international financial conditions during the past few years. However, the latest series of really substantial movements—involving the marked appreciation of the U.S. dollar from October 1980 to August 1981 and substantial effective depreciation of continental European currencies, as well as strong movements (first upward and then downward) in the effective rates for the Japanese yen and the pound sterling—was essentially completed by the third quarter of 1981. (See Chart 7.) Although further significant changes have occurred since then, their magnitude has not in most cases approached that of the previous swings, and they have not altered the pattern of real exchange rate relationships that emerged during the latter part of 1981.

The appreciation of the effective exchange rate for the U.S. dollar from October 1980 to August 1981 amounted to 22 per cent. Subsequently, the rate receded moderately for several months, but firmed early in 1982 and by the second quarter was several percentage points above the peak of the previous August. These movements since August 1981 appear to have been induced mainly by changes in U.S. interest rates and in short-term interest differentials vis-à-vis other major industrial countries. The nominal exchange value of the dollar during the second quarter of 1982, as measured by the effective exchange rate, was above the level of any period since the latter part of 1971.

Effective exchange rates for all of the other major currencies except the Canadian dollar depreciated over the period from late 1980 to mid-June 1982. The largest declines—cumulating to 20 per cent and 18 per cent, respectively—were those in the French franc and the Italian lira. Both of these currencies depreciated more or less continuously in effective terms throughout the period. Effective rates for the deutsche mark and the pound sterling, although also generally declining throughout the first three quarters of 1981, recovered somewhat during the latter part of that year and early 1982, so that their cumulative declines were much smaller than those in the French and Italian currencies. In the case of the deutsche mark, indeed, the recovery carried its effective rate back to about its October 1980 level. For the pound sterling, the cumulative net decline amounted to 7½ per cent.

Movements in the effective rate for the Japanese yen, which had been the largest of any during the two years preceding October 1980, were subsequently relatively moderate. The exchange value of the yen rose by 8 per cent from October 1980 to February 1981, in extension of a strong upward movement already in process during the middle quarters of 1980, but this rise was later reversed by a gradual decline in the yen. By mid-June 1982, the effective rate for the yen was about 2 per cent below its October 1980 level.

Over the period from October 1980 to mid-June 1982, the Canadian dollar displayed the steadiest effective rate of any major currency. Its gradual depreciation against the U.S. dollar was more than offset by appreciation against the currencies of other principal trading partners, so that a cumulative appreciation of 6 per cent resulted.

Underlying the foregoing changes in effective rates were a number of sharp and highly varied shifts in bilateral exchange rate relationships. These altered competitive positions of particular countries in particular markets in ways that are not necessarily apparent in the movements of effective rates. Some of these alterations are summarized in Table 9, which shows key changes in bilateral exchange rates of the five largest industrial countries from the third quarter of 1980 to the first quarter of 1982, both in nominal terms and in real terms.

Table 9.Selected Industrial Countries: Changes in Bilateral Exchange Rates and in Relative Unit Labor Costs for Manufactures, Third Quarter 1980-First Quarter 1982(In per cent)
United StatesJapanFederal Republic of GermanyFranceUnited Kingdom
Bilateral exchange rates1
United States6324529
Japan-6243721
Germany, Federal Republic of-24-2010-2
France-31-27-9-11
United Kingdom-23-18313
Relative normalized unit labor costs—unadjusted for exchange rate changes2, 3
United States_128-3-3
Japan-11-4-14-14
Germany, Federal Republic of-84-11-11
France31511
United Kingdom31511
Relative normalized unit labor costs—adjusted for exchange rate changes2, 3
United States19434125
Japan-1620185
Germany, Federal Republic of-30-17-1-13
France-29-161-11
United Kingdom-20-51413

Currency of the country specified in the heading in terms of the currency of the country specified in the stub.

Costs of the country specified in the stub relative to those of the country specified in the heading.

Normalized unit labor costs are calculated by dividing an index of actual hourly compensation per worker by an index of output per man-hour adjusted so as to eliminate estimated cyclical swings.

Currency of the country specified in the heading in terms of the currency of the country specified in the stub.

Costs of the country specified in the stub relative to those of the country specified in the heading.

Normalized unit labor costs are calculated by dividing an index of actual hourly compensation per worker by an index of output per man-hour adjusted so as to eliminate estimated cyclical swings.

One of the points brought out in the upper section of the table is the degree to which the appreciation of the U.S. dollar against the European currencies exceeded its appreciation against the Japanese yen. The other two sections of the table make it clear that the appreciation against the yen and the deutsche mark was substantially greater in real than in nominal terms, while the dollar’s nominal appreciation against the French and U.K. currencies was not accompanied by any substantial change in comparative labor costs (before adjustment for exchange rate movements).

Another important point emerging from the table is that the Japanese yen, while depreciating moderately against the U.S. dollar, rose quite substantially in terms of the other three currencies. Part of that appreciation vis-à-vis the European currencies, however, was offset, from the standpoint of competitive positions, by Japan’s relatively favorable labor cost changes.

Significant features of exchange rate relationships among the three European countries are also evident. In real terms, the pound sterling appreciated considerably against both the deutsche mark and the French franc (for different reasons), while the relationship between the two continental European currencies was held steady through the first quarter of 1982 by compensating changes in the nominal exchange rate and in relative rates of inflation.

The table indicates, however, that compensation for sizable inflation rate differentials has not been a consistent feature of exchange rate changes over the past year and a half. On the contrary, some of the principal exchange rate changes of the period—and most notably those of the U.S. dollar against the Japanese yen and the deutsche mark—have magnified the implications of inflation differentials for competitive positions, rather than offsetting them.

The recent changes in real exchange rates for currencies of the major industrial countries have brought the majority of those rates to levels not very different from their respective averages during the past decade. The principal exception is the United Kingdom, where relative costs and prices for manufactures (adjusted for exchange rate movements) are high in such historical perspective, chiefly because of the impact of a restrictive monetary policy and of North Sea oil on the exchange rate.

Apart from the inflation differentials taken into account (at least, in principle) in the construction of indices of real effective exchange rates, the principal measurable forces operating on exchange rates in the past few years have been developments with respect to current account balances and interest rates. International differences in the latter (and in the national financial policies—actual or expected—behind them) have sometimes dominated the exchange rate movements for several months at a time (as in the period from August to November of 1981, for example). However, they do not appear to have exerted great influence over longer-term changes in exchange rate relationships, partly because of the tendency for capital movements or policy changes, or both, to narrow the real interest-rate differentials (with due allowance for confidence factors of noneconomic types). The influence of current account developments—themselves responsive partly, of course, to exchange rate changes—has tended to be slower acting, but more lasting. The strength of the U.S. dollar during 1981, for example, owed much to the marked upward swing in the current account from 1978 to 1980. Similarly, the firming of exchange rates for the Japanese yen and the deutsche mark in late 1981 reflected—in addition to the decline in U.S. interest rates during that period—the rapid recoveries in the current account balances of the two countries, just as the decline of the yen in 1980 and of the deutsche mark in 1981 had reflected earlier deteriorations of the respective current accounts.

Exchange rate responses to influences emanating from current account positions and comparative monetary conditions are much more visible when the two factors work in the same direction—as in the case of the U.S. dollar in late 1980 and again in the middle months of 1981—than when they exert contradictory influences. Japan’s position from late 1980 through most of 1981 presents an example of the latter type. During that period, higher interest rates abroad than in Japan and the capital outflows that they helped to generate tended to negate the potential impact of a strong upswing in the current account balance.

An institutional factor contributing toward uniformity of exchange rate movements within Europe during the period under review has been the operation of the European Monetary System. That arrangement has evidently smoothed or mitigated the effects on its members of a number of temporary disturbances in their external payments relationships. However, economic and financial conditions in the member countries have not converged sufficiently to preclude the periodic emergence of strong pressures. On four occasions during the past year and a half, such pressures have led to realignments of exchange rates among the EMS countries. In March 1981, the central rate of the Italian lira was devalued by 6 per cent. In October 1981, the central rates of the deutsche mark and the Netherlands guilder were revalued by 5½ per cent, while the French franc and the Italian lira were devalued by 3 per cent. In February 1982, the Belgian franc and Danish krone were devalued by 8½ per cent and 3 per cent, respectively. In June 1982, the central rates of the deutsche mark and the Netherlands guilder were revalued by 4¼ per cent, while those for the French franc and the lira were devalued by 5¾ and 2¾ per cent, respectively.

Developing Countries—Oil Exporting Group

Attention has been called earlier to the recent sharp drop in the current account surplus of the oil exporting countries, which fell from $116 billion in 1980 to $69 billion in 1981 and is projected at $25 billion for 1982. The principal elements of this movement have been sharp declines in export volume, a weakening and partial reversal of previous terms of trade gains as world oil demand softened, and accelerated growth of import volume in 1981.

The sluggishness of economic activity in major oil consuming countries, particularly in the latter part of 1981 and early 1982, was one reason for the magnitude of the declines in oil export volume. A more important factor, however, was the strong response of consumers to the oil price increases of 1979 and 1980. The shift toward conservation was coupled with continuing increases in oil production outside the main oil exporting countries, so that the decline in world consumption was more than fully reflected in the export volume of the oil exporting group. For 1982, that volume is expected to be more than one fourth below its 1980 level. With oil exports accounting for about 80 per cent of the group’s current account receipts, the major role of this decline in reducing the current account surplus is clear.

The oil exporting countries’ imports rose in volume terms by about 20 per cent in 1981, compared with 15 per cent in 1980, and a moderate further increase (of perhaps 5 per cent) is expected in 1982. However, the role of import expansion in curtailing current account surpluses has been smaller than in the years following the 1973-74 oil price increases, when it was the predominant factor. This difference reflects the less pronounced shift toward expansionary policies in 1979 and 1980 than in the previous period of major increases in oil prices.

There is also a contrast with respect to the evolution of net payments for services and private transfers. These had risen rapidly after 1974, reflecting the linkage of many current payments (such as those to foreign contractors and consultants, as well as remittances by expatriate workers) to the development efforts of the oil exporting countries. The net deficit of these countries on services and private transfers widened continuously through 1980. Since then, however, it has leveled off because of a slowdown in the growth of payments on invisibles and a sharp rise in receipts of investment income on external assets, reflecting both the large additions to such assets over the past three years and the increase in international interest rates.

Thus, although the drop in the current account surplus of the oil exporting countries that is now in process is reminiscent of that which occurred during the period 1975-78, the principal factors underlying the recent change are quite different. Since 1980, weakness of demand for oil exports has played a much larger role, and expanding absorption of foreign goods and services a smaller role, than in the earlier period.

The decline in the aggregate current account surplus of the oil exporting countries since 1980 has been concentrated in the external balances of six countries that had registered surpluses in every calendar year from 1970 through 1980.3 The other six countries in the oil exporting group, all of which had moved into deficit on current account by 1978, had sizable combined surpluses in 1979 and 1980, but their share of the group’s aggregate surplus remained much smaller in 1980 than in 1974. This change was due largely to the increased concentration of oil export earnings in the subgroup of countries with a 1970-80 record of persistent surpluses. In 1981, the latter subgroup accounted for the larger part of the drop in the aggregate surplus of the oil exporting countries. The combined current account balance of the other six countries swung into deficit in 1981, though by a much smaller amount than in 1978.

Because of significant borrowing by some of the countries in the deficit subgroup, cash flows available to the oil exporting countries for investment abroad were larger in 1981, as in most other recent years, than their net receipts on current account. These countries are estimated to have placed some $80 billion in various external assets (mostly in the industrial countries) or in grants to non-oil developing countries during 1981, compared with more than $120 billion in 1980 and roughly $70 billion in 1979. The amounts placed during these three years represented about three fifths of the total accumulation of cash surpluses since 1973, estimated at some $475 billion. Although comprehensive statistics on the gross foreign asset holdings of the oil exporting countries at the end of 1981 are not available, the latter figure may be taken as a rough gauge of their order of magnitude. Holdings of commercial banks and the nonbank private sector accounted for somewhat more than one fourth of the total, but the bulk of it was held in the form of official reserves and other foreign assets owned by public sector agencies. The total stock of external assets was concentrated, of course, among the six surplus countries, which accounted for more than 90 per cent of the cumulative current account surplus of the whole group from 1974 through 1981.

Most of the funds invested abroad by the oil exporting countries have been placed in bank deposits (particularly in the form of Eurocurrency deposits) and other placements in the industrial countries. The upsurge of placements during recent years has again displayed a pattern of initial concentration in relatively liquid assets, followed by progressive diversification of holdings, with increasing proportions going into longer-term and less liquid investments, such as corporate equities and bonds, long-term government securities, direct investments in business enterprises, and inter-official loans to some of the industrial countries. According to the limited data available, identified placements in bank deposits, after accounting for well over half of the cash surplus available for disposition in 1979, represented only about one third of the larger surplus accruing in 1980 and dropped to considerably less than one tenth in 1981. The latter development reflected not only diversification, but also some drawdown of bank deposits by oil exporting countries having need to utilize their reserves.

Part of the explanation for the trend toward longer-term or less liquid investments lies in the increasing concentration of total external asset holdings of the oil exporting group in a few countries with already strong liquidity positions. Rising shares of the private sectors in total holdings and the development of more sophisticated investment policies in the major surplus countries have also contributed. Diversification among types of financial assets has been accompanied by a tendency toward diversification also with respect to geographic distribution and currency of denomination; but changes in the composition of holdings have been brought about mainly through reorientation of new placements, rather than through any major shifts among existing investments.

A notable feature of recent developments is the enlarged role of banks and other financial institutions set up by the oil exporting countries in arranging flows of syndicated loans through international credit markets to borrowers in both industrial and developing countries. Another recent feature is the undertaking of direct investments by a few oil exporting countries in petroleum-related activities in other parts of the world. In addition, claims on the Fund and the World Bank have risen in the past two years, in large measure through Saudi Arabia’s support of the Fund’s enlarged access policy. There has also been an expansion in flows of concessional assistance to non-oil developing countries, both through bilateral loans or grants and through contributions to multilateral development aid institutions (in addition to the World Bank). Cumulatively, such assistance has accounted for about 14 per cent of the total current account surplus accruing to the oil exporting developing countries since 1974.

Developing Countries—Non-Oil Group

Changes in current account balances.—The current account deficit of the non-oil developing group of countries rose in 1981 to about $100 billion. This latest annual increase amounted to $13 billion, bringing the cumulative growth of the group’s current account deficit since 1978 to $60 billion. Highly unfavorable external factors, including the oil price increases of 1979-80, the sharp rise of interest rates in international financial markets since mid-1979, protectionist trade policies, and the severe slowdown of economic activity in the industrial countries, were primarily responsible for this enlargement of external imbalances. However, an important role has been played by domestic factors in individual developing countries, many of which have followed unduly expansionary financial policies in their efforts to foster development and have failed to correct the resulting distortions in relative prices.

The most important unfavorable influences of external origin, both in the past year and over the period from 1978 to 1981, were those affecting import and export prices. The oil price increases and the weakening of primary commodity prices contributed heavily to a substantial deterioration of the terms of trade of the non-oil developing countries in recent years (Chart 9); and the declines in commodity prices during the latter part of 1981 and the early months of 1982 point toward a further significant worsening of the terms of trade in 1982. Over the past three years, this factor accounted for more than two thirds of the entire increase in the aggregate deficit on current account.

Chart 9.Non-Oil Developing Countries: Terms of Trade by Analytical Subgroups of Countries, 1972-81

(Index, 1972=100)

1Consisting of middle-income countries that, in general, export mainly primary products.

However, terms of trade changes have differed greatly among countries within the non-oil developing group. Those that are net exporters of oil (although not meeting the criteria for inclusion in the main oil exporting group discussed above) benefited from sharp improvement of their terms of trade from 1978 to 1980 and did not suffer a terms of trade loss in 1981, while those whose exports consist mainly of primary products underwent substantial deterioration in each of the past three years—a deterioration that was especially severe for the low-income countries. For the relatively few developing countries that have become major exporters of manufactured goods, deterioration of the terms of trade over this period was moderate.

Although terms of trade developments have dominated the changes in current account deficits of the non-oil developing countries during the past several years, the cyclical slowdown in the industrial world has also exerted a major influence on the volumes of trade carried out by those countries. It has directly curtailed real demand for their exports and indirectly dampened the real growth of their imports by holding down increases in the purchasing power of their exports.

For the non-oil developing group as a whole, real growth of exports declined from 9-10 per cent a year in 1978-79 to 5-6 per cent in 1980 and 4 per cent in 1981; this deceleration was distributed fairly evenly among the various analytical subgroups. Changes in import volume, however, were quite uneven, mainly because terms of trade developments resulted in marked differences among individual countries and subgroups with respect to growth of export purchasing power. (See Chart 10.)

Chart 10.Non-Oil Developing Countries: Real Export Earnings and Imports by Analytical Subgroups of Countries, 1972-81

(Indices, 1972=100)

1Exports of goods deflated by import prices.

2Consisting of middle-income countries that, in general, export mainly primary products.

For the net oil exporting subgroup, the growth of such purchasing power was rapid in 1979 and 1980 and the increased spending on imports that it induced continued strongly in 1981. In the latter year, the ability and willingness of the net oil exporters to expand their external borrowing was also a major factor helping these countries to sustain real import growth in the 12-16 per cent range for a third consecutive year.

In the oil importing developing countries, on the other hand, import expansion came to a virtual standstill in real terms, dropping from 8-9 per cent annually in 1978-79 to about 1 per cent in 1980-81. This adjustment was most severe in the low-income group, where there were outright declines in the volume of imports amounting to roughly 2 per cent in 1980 and 7 per cent in 1981. Although the major exporters of manufactures were able to continue increasing their imports in real terms during those two years (by 3-4 per cent annually, compared with a 1978-79 average of about 10 per cent), imports of the “other” subgroup (comprising middle-income countries that, in general, export mainly primary commodities) were not quite fully sustained after 1979. Because of weak export earnings and inadequate financing, about two thirds of the countries in the low-income and “other” subgroups have utilized various types of quantitative control to restrain the flow of imports.

Adverse effects of developments in the industrial world on external payments balances of non-oil developing countries have not been confined to the trade accounts, but have extended also to the service accounts. The rise in unemployment in the industrial countries, for example, has affected the flow of private remittances from expatriate workers, and of receipts from tourism. However, by far the most important factor worsening the balance on external services was the rise in international interest rates, which roughly doubled from 1978 to 1981. Although much of the outstanding debt of the non-oil developing countries was not affected, the rise in interest rates accounted for well over half of a $23 billion increment over this period in the group’s annual payments of interest on long-term external obligations. This change was distributed rather evenly among analytical subgroups except the low-income countries, which were affected less than the others because of the preponderance among their external liabilities of long-term, fixed-rate loans on concessional terms.

The bulk of the increase in the combined current account deficit of the non-oil developing countries from 1980 to 1981 can be traced to the net exporters of oil. These countries took advantage of their increased national wealth and generally good international credit ratings to raise their imports by some 13½ per cent in volume (following similar or larger increases in both 1979 and 1980).

For the roughly 100 non-oil developing countries that are net importers of oil, the further expansion of their combined current account deficit was relatively slight, from $73 billion in 1980 to $80 billion in 1981. Indeed, apart from South Africa, whose current account balance swung from a surplus of $3 billion to a deficit of $4½ billion under the impetus of sharp changes in the price of gold, the movement was moderately downward. In relation to exports of goods and services, the total 1981 deficit of the net oil importers was well below the peak levels reached in 1974 and 1975, although considerably above the intervening levels. (See Chart 11.)

Chart 11.Non-Oil Developing Countries: Deficits on Current Account, 1967-81

(In per cent of exports of goods and services)

1Excluding the People’s Republic of China.

In itself, this observation would suggest a better record of adjustment to oil price increases and global economic weakness during the past few years than during the mid-1970s. However, a disproportionate share of the adjustment seems to have occurred in the larger countries of the oil importing group, with the external situations of the majority of countries evolving less satisfactorily than the aggregate (or weighted average) record might suggest. As shown in Chart 11, the median ratio of the current account deficit to exports of goods and services for the oil importers has risen much more sharply than the average ratio in recent years, and was considerably higher in 1980 and 1981 than in 1975. Since one fifth of the net oil importing developing countries accounted in 1980 for four fifths of the combined current account deficit of the entire group, the scope for divergence of a weighted average from a median representation of the group’s current account position is quite wide. The actual occurrence of such a wide divergence, however, is a phenomenon of fairly recent origin. Through the mid-1970s, differences between large and small developing countries with respect to the size of current account balances in relation to exports of goods and services were much less noticeable, and the wider fluctuations occurred among the large countries.

Chart 11 also shows that the difference between median and average ratios of current account deficits to exports during the past several years was widest in the large subgroup of low-income countries. For that group, both ratios are extremely high in comparison with corresponding ratios for the other analytical subgroups, reflecting generally weak export earnings in relation to import demand and the availability of concessional financial assistance on a scale that is large relative to their own exports, however inadequate in relation to their needs for economic resources. The sharp increase of recent years in the scale of current account deficits of the low-income countries in relation to their export earnings is attributable not only to the marked weakness of those earnings, but also to the difficulty experienced by many of these countries in making downward adjustments in their already suppressed demand for imported goods and services.

In this connection, the low-income countries provide a particular illustration of a more general point. The progress of developing countries in adjusting their external transactions to the circumstances that now prevail often cannot validly be judged only in terms of early curtailment of current account deficits. Because of the weakness of external markets, especially for primary commodities, and the decline in concessional assistance from the industrial countries, many developing countries have had to make major adjustments in their import demands just to keep the deficits from rising still further. They have had to deal first with the terms of trade effects of oil price increases and then with influences of a cyclical nature. In brief, they have had to run harder, as it were, merely to stay in place. Substantial adjustments are evidenced by the slowing of growth in the volume of their imports, even though the related current account deficits have not yet begun to shrink appreciably.

Among the analytical subgroups of non-oil developing countries whose historical records with respect to relative size of current account deficits are depicted in Chart 11, the one whose recent deficit/export ratios have remained most below previous peaks comprises the major exporters of manufactures. The only subgroup for which the corresponding ratios in recent years have surpassed earlier peaks is that consisting of the “other” net oil importers. However, ratios for this latter group of middle-income countries have long shown an uptrend; and their recent levels may reflect the records not only of countries with strained positions needing adjustment, but also of countries undergoing structural shifts toward larger current account deficits, fostering long-term development as they gain greater access to international credit markets.

External financing and debt.—Although the non-oil developing countries have succeeded in financing successively larger current account deficits in each of the past four years, the pattern of that financing reveals several signs of strain. One of these was a marked tapering off of reserve accumulations, which dropped to $5 billion in 1980 and $1½ billion in 1981 after having exceeded $12 billion a year from 1976 through 1979. Even for the group as a whole, the small nominal increases of the past two years imply a shrinkage of reserves in real terms; many countries were forced to reduce their reserves even in nominal terms.

Declines in reserves were particularly large (relative to the scale of current payments transactions) in the low-income countries, while the accumulations of the past two years were centered mainly among the net exporters of oil. Even for the latter subgroup, the ratio of reserves to imports of goods and services declined by several percentage points from 1979 to 1981. For the low-income countries, it dropped over those two years from 30 per cent to 18½ per cent; and the average ratio for all non-oil developing countries was lowered by 5 percentage points to 17 per cent. The implication of strain conveyed by these figures is reinforced by the consideration that many countries must have chosen to spend substantial amounts of interest income accrued on their currency reserves, rather than to add the accruals to reserve holdings. Otherwise, given the high rates of interest prevailing in 1980 and 1981, rather substantial additions to reserves would have occurred through interest accruals alone.

Because of the virtual cessation of reserve accumulation by the non-oil developing countries as a group, the size of the increase in their foreign borrowing that would otherwise have been needed, given the enlarged current account deficits of the past two years, has been greatly reduced. The pace of growth in net foreign borrowing was also tempered by increases in flows of financing through transactions that do not affect net debt positions, such as official grants and movements of direct investment capital. Together, the various non-debt-creating inflows were some $3 billion larger in 1981 than in 1979. The combination of these enlarged inflows with the reduction in reserve accumulation enabled the non-oil developing countries to finance a $40 billion increment in their combined current account deficit over the two-year period with an increase of just $26 billion in net borrowing from abroad.

Nevertheless, shifts in the composition of the borrowed funds clearly reveal additional signs of strain on external financial positions. Use of reserve-related credit facilities (in which Fund credit was the main element) swung sharply from small net repayments in 1979 to net inflows totaling some $5½ billion in 1981; and short-term borrowing—most of it from commercial banks and other private sources—also rose sharply, especially in 1980. This heavy reliance on temporary financing was a clear symptom of both difficulty in obtaining suitable long-term financing and reluctance of borrowers to make longer-term commitments at the prevailing rates of interest. Short-term capital (including reserve-related credit) accounted for about half of the total increase in net borrowing in 1980, but did not rise further in 1981, as the increase in use of Fund credit was roughly offset by subsidence of net borrowing from private sources in short-term forms. The bulge in private short-term (and medium-term) financing in 1980 was heavily centered in the accounts of a few large countries in the subgroups exporting oil or manufactures.

Of the cumulative increase in total borrowing from 1979 to 1981, somewhat more than two thirds took long-term forms. Here, too, the composition shifted from 1980 to 1981. In the former year, increases in loans from official sources (including multinational development financing institutions) accounted for the bulk of the expansion in long-term borrowing, while the net amount of long-term credit obtained from private financial institutions declined somewhat (Table 10). In 1981, the entire additional expansion of long-term borrowing came from private sources, with much of it in renewed growth of flows from financial institutions, while no further increase in net long-term borrowing from official sources was recorded.

Table 10.Non-Oil Developing Countries: Current Account Financing, 1973-811(In billions of U.S. dollars)
197319741975197619771978197919801981
Current account deficit211.637.046.532.028.339.258.986.299.0
Financing through transactions that do not affect net debt positions10.113.0311.812.014.917.223.024.126.3
Net unrequited transfers received by governments of non-oil developing countries5.46.937.17.48.38.210.912.312.9
SDR allocations, valuation adjustments, and gold monetization0.40.7-0.6-0.21.32.12.81.8-0.2
Direct investment flows, net4.35.35.34.75.36.99.210.013.6
Net borrowing and use of reserves41.523.9334.720.113.422.035.962.172.7
Reduction of reserve assets (accumulation—)-9.7-2.41.9-13.8-12.4-15.8-12.4-4.9-1.6
Net external borrowing511.223.3332.931.225.837.848.467.174.3
Long-term borrowing11.719.5326.627.926.535.337.945.555.8
From official sources5.49.3311.410.812.614.215.420.520.2
From private sources8.313.715.319.323.027.933.131.437.0
From financial institutions7.112.613.817.019.423.932.430.135.5
From other lenders1.21.11.52.43.64.00.81.31.5
Residual flows, net6-2.0-3.5-0.1-2.3-9.2-6.9-10.6-6.4-1.4
Use of reserve-related credit facilities70.21.72.54.4-0.10.5-0.61.75.4
Other short-term borrowing, net0.25.26.412.20.84.710.51
19.913.1
Residual errors and omissions8-0.8-2.7-11.2-1.1-2.50.5

Excludes data for the People’s Republic of China prior to 1977. For classification of countries in groups shown here, see Table 2.

Net total of balances on goods, services, and private transfers, as defined in the Fund’s Balance of Payments Statistics (with sign reversed).

Excludes the effect of a revision of the terms of the disposition of economic assistance loans made by the United States to India and repayable in rupees and of rupees already acquired by the U.S. Government in repayment of such loans. The revision has the effect of increasing government transfers by about US$2 billion, with an offset in net official loans.

That is, financing through changes in net debt positions (net borrowing, less net accumulation—or plus net liquidation—of official reserve assets).

Includes any net use of nonreserve claims on nonresidents, errors and omissions in reported balance of payments statements for individual countries, and minor deficiencies in coverage.

These residual flows comprise two elements: (1) net changes in long-term external assets of non-oil developing countries and (2) residuals and discrepancies that arise from the mismatching of creditor-source data taken from debt records with capital flow data taken from national balance of payments records.

Comprises use of Fund credit and short-term borrowing by monetary authorities from other monetary authorities.

Errors and omissions in reported balance of payments statements for individual countries, and minor omissions in coverage.

Excludes data for the People’s Republic of China prior to 1977. For classification of countries in groups shown here, see Table 2.

Net total of balances on goods, services, and private transfers, as defined in the Fund’s Balance of Payments Statistics (with sign reversed).

Excludes the effect of a revision of the terms of the disposition of economic assistance loans made by the United States to India and repayable in rupees and of rupees already acquired by the U.S. Government in repayment of such loans. The revision has the effect of increasing government transfers by about US$2 billion, with an offset in net official loans.

That is, financing through changes in net debt positions (net borrowing, less net accumulation—or plus net liquidation—of official reserve assets).

Includes any net use of nonreserve claims on nonresidents, errors and omissions in reported balance of payments statements for individual countries, and minor deficiencies in coverage.

These residual flows comprise two elements: (1) net changes in long-term external assets of non-oil developing countries and (2) residuals and discrepancies that arise from the mismatching of creditor-source data taken from debt records with capital flow data taken from national balance of payments records.

Comprises use of Fund credit and short-term borrowing by monetary authorities from other monetary authorities.

Errors and omissions in reported balance of payments statements for individual countries, and minor omissions in coverage.

The proportions in which the various types of external financing were used by non-oil developing countries differed sharply among individual countries and subgroups. The ones that are net exporters of oil or manufactures continued in 1980 and 1981 to rely predominantly on private credit markets, with a strong emphasis on short-term credit in 1980 being replaced by longer-term borrowing in 1981. Little or no increase in official long-term capital inflows was recorded for these two subgroups in either year, although their use of non-debt financing (most direct investment capital) did rise moderately.

The other two subgroups, containing the great majority of all non-oil developing countries, received only a small part of the total increase in private long-term capital inflows. However, they accounted for nearly all of the increase in long-term borrowing from official sources from 1979 to 1981. In addition, although their share of the bulge in private short-term inflows was relatively small, they were the recipients of virtually the entire increase in reserve-related credit.

For the non-oil developing countries as a group, the nominal increases of the past two years in long-term debt, while large in absolute terms, have not outpaced the group’s earnings from exports of goods and services. (See Chart 12.) Indeed, the overall debt/export ratio was only very slightly higher in 1981 than in 1979 and remained well below the 1978 level. Here again, however, marked differences among countries bar any complacent interpretation.

Chart 12.Non-Oil Developing Countries: Ratios of Long-Term External Debt to Exports of Goods and Services, 1973-81

(In per cent)

1Excluding the People’s Republic of China.

2Consisting of middle-income countries that, in general, export mainly primary products.

The first point to note in this context relates to the positions of the net oil exporters. Because of the sharp rise in the value of their exports in recent years, their average debt/export ratio was considerably lower in 1981 than in 1979 (or in any other year since 1974). Among the net oil importers, the major exporters of manufactures experienced broadly parallel—but less pronounced—results. The other two subgroups of net oil importers, however, recorded rather substantial increases in their debt/export ratios. Moreover, it is worth noting that the median of the ratios in each of these subgroups rose faster than the weighted average (Chart 12), signifying that the latter was held down by relatively moderate reliance on additional external borrowing by some of the larger countries in the group. The typical experience of the considerable number of small oil importing countries that are not major exporters of manufactures appears to have been less favorable, insofar as the buildup of external debt is concerned, than the group averages would suggest.

However, it should also be noted that the faster increase in median than in average debt/export ratios for the low-income countries and the “other” subgroup of net oil-importing developing countries has been in progress for a number of years, dating back at least to 1973. At that time, the median ratio was less than half of the average in the low-income subgroup and only about two thirds in the other subgroup. The medians were still lower than the averages in 1981, although only by a relatively narrow margin. The faster rise in the median ratios, from a starting point so much lower, may signify primarily the closing of a gap—that is, a gradual shift in the external payments structures of the smaller countries toward closer resemblance to those of larger countries that had embarked earlier on the path of externally assisted development.

These fairly marked differences in debt ratios among groups of countries do not, in general, translate into commensurate differences in debt service payments. While such payments are, of course, related to the size of the outstanding debt, they are even more dependent upon the particular maturity structure and creditor composition of that debt. For example, as mentioned above, the debt of the low-income countries is heavily weighted toward long-term official loans at concessional rates. As a result, although having the highest debt ratio of the four analytical subgroups of non-oil developing countries, the low-income countries also tend to have the lowest debt service ratio.

However, for this subgroup, as well as for other developing countries, debt service payments have been rising rapidly because of the sharp increase in international interest rates (which roughly doubled from 1978 to 1981) and the rapid escalation of outstanding long-term debt (Table 11). These factors have been reinforced by others, notably refinancing operations, which tend to boost amortization ratios, and a shortening of the maturity structure. As a result, debt service payments in relation to exports of goods and services have risen sharply, from 14 per cent in 1975-77 to 18 per cent in 1979 and 21 per cent in 1981 for non-oil developing countries as a group. (See Chart 13.)

Table 11.Non-Oil Developing Countries: Long-Term External Debt, 1973-811(In billions of U.S. dollars)
197319741975197619771978197919801981
Total outstanding debt of non-oil developing countries96.8120.1146.8181.4221.8276.4324.4375.4436.9
By type of creditor
Official creditors48.358.267.982.298.2117.4133.3155.5175.6
Governments35.742.648.557.567.479.688.9102.1114.3
International institutions12.615.719.424.730.837.844.553.461.4
Private creditors48.561.878.999.2123.6159.0191.1220.0261.4
Unguaranteed debt20.625.331.538.744.052.458.668.884.8
Guaranteed debt27.936.547.460.579.6106.6132.5151.2176.5
Financial institutions14.022.831.241.957.575.4101.9117.4138.8
Other private creditors13.913.816.218.622.131.230.633.837.7
By analytical group
Net oil exporters15.620.731.039.351.061.468.978.090.6
Net oil importers81.299.4115.8142.0170.8214.9255.6297.4346.3
Major exporters of manufactures38.347.055.868.982.7108.4128.3143.4169.1
Low-income countries21.625.829.134.340.747.353.462.370.6
Other net oil importers21.326.630.938.947.459.273.891.7106.6
By area
Africa13.115.919.924.231.738.744.749.256.0
Asia27.031.536.743.953.062.971.685.6102.8
Europe11.614.016.220.825.433.544.054.260.2
Middle East8.510.113.116.020.324.628.332.936.7
Western Hemisphere36.648.560.976.591.4116.7135.8153.4181.2
Sources: World Bank Debtor Reporting System; and Fund staff estimates.

Excludes data for the People’s Republic of China prior to 1977. For classification of countries in groups shown here, see Table 2.

Sources: World Bank Debtor Reporting System; and Fund staff estimates.

Excludes data for the People’s Republic of China prior to 1977. For classification of countries in groups shown here, see Table 2.

Chart 13.Non-Oil Developing Countries: External Debt Service Payments, 1973-81

(In per cent of exports of goods and services)

1 Consisting of middle-income countries that, in general, export mainly primary products.

Policy Issues

After reviewing the world economic situation during 1980 and the first half of 1981, last year’s Annual Report singled out two basic problems that had to be tackled during the early 1980s. One was “stagflation” in the industrial countries—the prolonged disappointing performance of these countries with respect to both economic growth and price stability. The other problem area noted was that of balance of payments adjustment and financing.

These problems continue to preoccupy both national authorities and, more generally, the international community. The situation of the world economy has not changed greatly over the past 12 months, and much of what was said a year ago is still highly relevant. Yet, developments since then have, in certain respects, cast a different light on current problems and on some aspects of policy.

Stagflation in the industrial world.—It is well to recall that the widespread problems of high inflation, slow growth, and high unemployment in the industrial countries were built up during the 1960s and 1970s. They stemmed from a variety of long-term developments that have led to a marked increase in the degree of rigidity and inflexibility in the economies of many industrial countries; they also have led to a buildup of inflationary expectations, and otherwise have adversely affected public perception of the efficacy of national economic policies.

Since the origins of stagflation in industrial countries are both complex and deep-rooted, the policy approach to deal with it has to be multipronged. This fundamental point was discussed in the 1981 Annual Report, which—while observing that policies would have to differ among countries, in order to take account of their respective economic situations and objectives—set forth a needed general approach comprising several crucial elements. Of basic significance is the control of aggregate nominal demand, which is essential for the purpose of reducing inflation and breaking inflationary expectations and thus providing an economic environment conducive to the revival of private investment and the restoration of sustainable economic growth. Also important are various types of supporting or supplementary measures, intended essentially to produce a better split—than otherwise would occur—of the change in nominal demand into its growth and price components.

Among such measures are those designed to improve efficiency in the goods and labor markets through the removal of existing rigidities, as well as measures to eliminate disincentives, and provide positive encouragement, to saving and investment. In addition, flexible or informal policies to restrain the growth of incomes can serve in some countries as useful adjuncts to fiscal and monetary policies.

In the event, the fight against stagflation in the past year—relying mainly on fiscal and monetary policies—has proved to be very difficult. In view of the deeply entrenched nature of this problem, general expectations regarding output and employment in the industrial countries over this short period may have been set too high. Nevertheless, the results in this area, as well as with respect to the behavior of interest rates and exchange rates, have been disappointing. The following discussion focuses briefly on two issues: the conduct of fiscal and monetary policies and rising levels of unemployment.

As noted earlier in this chapter, government expenditures—particularly on social programs—have grown rapidly over the period since the mid-1960s, while governments have found it difficult to increase tax revenues as rapidly, if only because rates of long-run economic growth were declining and external terms of trade were deteriorating. Large budget deficits have become a persistent factor, instead of merely a temporary phenomenon related to an economic recession.

This aspect of prevailing budget deficits has had two ramifications of particular relevance for monetary policy. First, private market participants have feared that the absorption of private saving by the government might keep real interest rates high for a number of years to come. Second, they have also feared that, under such circumstances, the deficits would sooner or later be monetized, so that inflationary expectations have remained high. Both types of market attitude have contributed to the rise in nominal and real interest rates and, therefore, to the negative impact of monetary restraint on output and employment. Not surprisingly, the harmful effects of large budget deficits have been especially pronounced in countries with low rates of private saving.

Large and persistent budget deficits may also contribute to inflation by gradually weakening the private sector. The competition for available funds between the government and the private sector may lead to a “crowding out” of private investment through high real interest rates. In the longer run, this effect reduces economic growth because it lowers capital formation and productivity growth in the private sector. Inflation then becomes even more difficult to control because the sustainable rate of growth of real wages is reduced and workers are not easily reconciled to such an outcome.

The emergence of a persistent budget deficit is the main issue concerning policies of the United States, which is generally recognized to have a serious fiscal problem. U.S. financial markets have become highly sensitive to this problem over the past year, and it is likely that the expected persistence of the deficit and the uncertainty concerning its prospective level have indirectly affected the credibility of monetary policy and, more generally, of the Government’s commitment to bring down inflation, thus contributing to both the high level and variability of interest rates. The change in the policy mix of the United States that would result from adoption of measures aimed at avoiding a persistent deficit over the medium term, while the targets for monetary growth remained unchanged, would tend to reduce nominal and real interest rates and bring about a fundamental improvement in the conditions for sustained economic growth.

The fiscal problem is even more serious in countries such as Belgium, Denmark, Ireland, Italy, and Sweden, where budget deficits are a major hindrance to the effectiveness of monetary restraint because of the inflationary effects and the severe constraint the deficits place on investment and growth in the private sector. In France, also, there is room for concern that the prospective increase in the public sector deficit might sustain inflationary expectations and absorb a sizable share of domestic saving. In the Federal Republic of Germany, where there has been growing concern about the size and prospective growth of the budget deficit, the level of interest rates is partly attributable to the borrowing requirements of the public sector.

Another aspect of demand management policies in the industrial countries that has become a source of concern is the difficulty encountered by the monetary authorities in avoiding excessive variability in interest rates while still convincing private market participants that money growth rates are being reduced and will be maintained at low levels in the future. The credibility of the monetary authorities is a matter of key importance in view of the embedded strength of inflationary expectations, which are unlikely to moderate if it is thought that these authorities might become more accommodative.

There is no easy way to reconcile the need for credibility of policies to reduce money growth with the need for some stability in interest rates. Shocks of internal or external origin can shift the demand for money, causing changes in interest rates that are at least partly independent of policy actions, while recent and continuing structural changes in the financial systems and practices of various industrial countries are complicating the setting and implementation of targets for the growth of monetary aggregates. In such circumstances, notably in the United States, issues involved in the conduct of monetary policy are both difficult and controversial. Nevertheless, it is clear that in the present economic and financial environment doubts should be resolved on the side of steadfastness in restraining the rates of expansion of money and credit. With such steadfastness, there is reason to expect that future aberrations of interest rates from desired levels will be limited and temporary; without it, progress toward greater price stability and ultimate achievement of sustainable economic growth at a satisfactory pace would be jeopardized.

While an improvement in the conduct and efficacy of demand management policies would contribute to a reduction in unemployment, it is important to recognize that the serious problem of unemployment in industrial countries has deeper roots. As noted above, unemployment in these countries has been rising since the mid-1960s, with only brief interruptions during periods of economic upswing. The recent policy of restraining the growth of nominal demand in order to fight inflation has temporarily contributed to the rise in unemployment; but, in view of its secular trend, unemployment is likely to remain a problem in the future even with inflation brought under control, unless measures have been adopted to deal with its fundamental causes.

It would be a mistake for national authorities to try to bring down unemployment through resort to expansionary monetary and fiscal policies or to protectionism; such resort would impair the anti-inflation stance of policy and ratchet the economy to an even higher rate of inflation that, in due course, would lead to a still more costly process of adjustment in terms of unemployment. Another approach to avoid is the adoption of compulsory work-sharing measures, such as a reduction in hours of work. Such measures are generally inflationary, and they also tend to increase rigidities in labor markets and to reduce the efficiency of use of fixed capital equipment.

Reversing the secular rise in unemployment will be difficult, if only because many social and political factors are directly involved. At the same time, there is no doubt that the problem urgently requires greater attention on the part of national authorities. Priority should be given to a reduction of rigidities that contribute to inflexibility in the average cost of labor and in the structure of wage rates. Rigidities with respect to the average cost of labor are particularly detrimental at this time because of the sharp decline in the share of gross profits in national income that took place in many countries, especially in Europe, during the 1970s. This decline has contributed to a reduction in the overall rate of capital formation, a focus on labor-saving rather than capacity-expanding investment, and a shift toward lower rates of capacity utilization. All these effects have contributed to a dedine in the demand for labor.

The degree of inflexibility in the structure of wage rates also is particularly detrimental at the present time because of the magnitude of structural economic changes that have been taking place in recent years. Both the large increase in the real price of energy and the development of the newly industrializing countries’ comparative advantage in many traditional manufacturing activities have affected all industrial countries. Other factors, such as the development of North Sea oil, have affected specific countries. These structural changes require workers to switch from the activities for which they were trained to activities that are new to them. In many cases, labor practices and minimum wage laws prevent potential employers from hiring these workers in need of retraining at a wage rate corresponding to the productivity that they would initially have in their new activities. Ultimately, it may be necessary to move toward labor market mechanisms that allow for greater flexibility of the structure of real wage rates among firms and sectors. In this context, a noteworthy feature of the Japanese system is having a large share of labor earnings in the form of bonuses linked to the profitability of each firm.

To reverse the secular rise in unemployment, it may also be necessary to make sure that incentives for seeking employment are adequate. Unemployment benefit levels have tended to increase and to apply to a larger share of the labor force in recent years. While this is a welcome development from a social standpoint, benefit levels that are too high and that have to be financed from general public funds can both unduly prolong the period without employment and contribute to the budget deficit or the tax burden. The problem is often exacerbated by certain characteristics of the tax system that discriminate against earned income. While real unemployment benefits not subject to income tax have tended to rise over the past 15 years, the tax threshold on real earned income has tended to decline. This has led to large increases in the implicit marginal tax rate resulting from taking a registered job.

Global payments imbalances.—As discussed earlier, there has been a major shift in the global pattern of external current account positions over the past year, with the imbalance in positions between oil exporting and oil importing countries declining much more rapidly than had been generally expected. But other important problems of external adjustment remain. Not surprisingly, most of the counterpart to the decline in the current account surplus of oil exporting countries has been reflected in a decline in the current account deficit of the major industrial countries as a group, inasmuch as these countries are the principal oil importers. The weakness of the external positions of some of the smaller industrial countries and of many non-oil developing countries has remained unchanged.

Within the group of major industrial countries, as indicated above, current account balances have shown a marked divergence in movement during recent years. This divergence is symptomatic of a more basic situation, namely, a divergence in policies—and consequently in rates of inflation, interest rates, and competitive strength—that, in the past, has periodically led to volatility of exchange rates and unsettled market conditions. The need for better economic policies in the major industrial countries is just as clearcut for external reasons as it is for the purpose of overcoming stagflation.

The need for firm adjustment policies in some of the smaller industrial countries is, if anything, more pronounced this year than last, as the external adjustment difficulties of these countries are having increasingly adverse effects on their volume of exports and on their levels of economic activity and unemployment. As discussed in the 1981 Annual Report, domestic developments are to a large extent responsible for these external difficulties. Most of the smaller industrial countries experienced a sharp decline in the share of national income going to profits during the 1970s, particularly in the manufacturing sectors that provide the bulk of export earnings. This has led to a gradual shrinkage of the manufacturing sectors and, in turn, to a reduction of market shares in both domestic and foreign markets, as well as to a gradual rise in unemployment rates. Attempts to reverse this process have so far been too weak to have much effect.

In the non-oil developing group, most countries have experienced another year of large current account deficits and further increases in debt service ratios. Financing difficulties have become apparent in a number of cases. The major problem facing these countries is how to achieve the required external adjustment and, at the same time, to make progress toward restoration of adequate growth rates.

The experiences of the non-oil developing countries in responding to external difficulties of the past few years have been quite mixed. Differences in this respect have been related in part to factors such as the degree of dependence on imported oil and the commodity structure of exports, but the nature of the domestic policies pursued has also had an important influence. Recent experience has shown that countries which have been relatively successful in adjusting have placed emphasis on maintaining and improving the competitiveness of the traded goods sector by means of an appropriate structure of price incentives throughout the economy; these policies are discussed in more detail in Chapter 2. Nevertheless, for many countries, especially low-income countries with a narrow range of exportable products, the process of adjustment is a long and difficult one, requiring substantial external financing.

It is clear that successful pursuit of “outward-oriented” policies requires the support of complementary demand management measures. However, the unduly expansionary policies pursued in many non-oil developing countries, and the high inflation rates that have resulted, have prevented improvement in the external sector. While, in principle, the structure of relative prices and the allocative efficiency of the economy are independent of inflation, in practice this is not the case. Countries that have had a more satisfactory experience with regard to inflation have, in general, been better able to manage their economies so as to maintain a competitive external sector. By contrast, the political and social repercussions often associated with the impact of exchange rate changes on the prices of consumer goods and other essential commodities have tended to prevent countries with relatively high inflation rates from adjusting their exchange rates sufficiently.

Large fiscal deficits in non-oil developing countries have been a principal obstacle to maintaining an appropriate level of aggregate demand. Such deficits may also have undesirable effects on the supply side of the economy. To the extent that they reflect measures to shelter certain industries or social groups from adverse developments that are not expected to be quickly reversed, they may hinder the needed reallocation of resources. Furthermore, as discussed in the context of the industrial countries, the financing of these deficits often results in reduced real credit availability to the private sector, affecting the financing of both production and investment.

There is much that the developing countries can do on their own behalf in countering the adverse developments of recent years. However, the continuation of the unfavorable external environment and the time lags involved before policy measures take effect mean that an exceptionally high level of external financing will be required for some years.

The outlook for financing on concessional terms, unfortunately, continues to be weak. For one thing, there is a risk that the sudden sharp reduction in the current account surplus of oil exporting countries may affect their disbursements of loans and grants to non-oil developing countries. Also, on the basis of experience to date, the prospects for any sizable increase in the flow of development assistance from the industrial countries are far from bright.

In addition, concern has again recently been expressed as to whether capital adequacy considerations may be a constraint on bank lending. This capital adequacy constraint, although perhaps an inhibiting factor in lending by some banks, would not seem to be in the aggregate a major impediment to international lending in 1982. At present, international banks appear to be willing to expand their international assets at a rate close to that of 1981. However, banks are becoming more selective in their lending policies, and there is increased focus on economic policies and conditions in individual countries. Indeed, there is indication that the number of countries viewed by banks as “problem” countries has been growing, a situation reflected in the large number of Fund members known to have payments arrears at the end of 1981. In addition, concern about exposure concentration may inhibit bank lending to a few of the largest borrowers. These considerations suggest that demonstration of willingness to adopt appropriate adjustment policies may be an important prerequisite for continued availability of substantial financing on an individual country basis.

The discussion of external financing and indebtedness thus far has focused upon the non-oil developing countries as a group. However, this aggregation conceals differences in the experiences and prospects of different subgroups among these countries. In particular, the position of the low-income countries and of the “other” net oil importers (comprising middle-income countries exporting mainly primary products) is a major source of concern. These countries experienced a sharp increase in their real debt service burden in 1980-81.

Furthermore, many of them have only limited access to the international financial market and face serious constraints because of the slow growth of foreign aid and concessional lending. While adjustment policies of the types outlined above and in Chapter 2 are urgently needed in these countries, in the short run much will depend on renewed expansion, and increased openness, of the relevant markets in the industrial world. In the medium term, these developing countries must aim for a more diversified structure of production and exports. The speed with which such diversification policies bear fruit will depend crucially on the openness of industrial country markets.

With respect to the oil exporting countries, review of the results of development efforts in the 1970s has prompted a reorientation of the domestic economic policies pursued by a number of these countries. Even before the recent weakening of oil markets, most of these countries had been following fairly cautious demand management policies, and the problem of domestic inflation has been considerably reduced from that of the mid-1970s. As noted earlier, the declines in export earnings stemming from the recent world oil market developments have led to more restrained domestic policies in several countries. In some oil exporting countries, investment priorities are shifting toward projects that are more directly productive. Capital-intensive industries based on petroleum resources may be appropriate for those countries that have large petroleum reserves relative to current production, as well as relatively small populations. For others, increased emphasis is being given to the development of agriculture and manufacturing, and this approach appears generally suitable to their circumstances.

*****

The foregoing review of world economic developments demonstrates that member governments continue to face difficult economic problems. Dealing with these problems will require not only the courageous pursuit of sound policies of adjustment at the national level but also the exercise of strong international cooperation. One form of such cooperation is support for the adjustment policies of non-oil developing countries through provision of concessional assistance to them and avoidance of trade restrictions on their products. Another form of international cooperation is the support of member countries for the Fund in its continuing endeavors to adapt its policies and facilities in the light of changing circumstances so as to play an important role in promoting and assisting balance of payments adjustment.

World Economic Outlook: A Survey by the Staff of the International Monetary Fund (Washington, April 1982), pages 132-35.

The statistical asymmetry arising from the summation of current account balances on a worldwide basis—as reflected in the “Total” line in the table—shows a very rapid increase from 1979 to 1982. The increase is discussed in the Fund staff’s 1982 report on World Economic Outlook. as referred to in footnote 5 of this table.

Kuwait, Iraq, the Libyan Arab Jamahiriya, Qatar, Saudi Arabia, and the United Arab Emirates.

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