Transcript of meeting of the Executive Directors of the IBRD and IDA, held on Thursday, March 2, 1989

STRICTLY CONFIDENTIAL IJ run 1 INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION Thursday, March 2, 1989 Washington, .. D.C . The meeting of the Executive Directors was convened at 10:03 a.m. in the Board Room, 1818 H Street, N.W., Washington, D.C., Mr. Barber B. Conable, Chaii;man, presiding. MIU.ER AEPORTINO CO., 91C. )07 C S1ttet, N .E. Washington. D.C. 20002 (202) )<46-6666 run STRICTLY CONFIDENTIAL 2 .. C O N T E N T S ITEM PAGE 3 Other Business Progress Report on Argentine .Loans 32 Mr. Potter 47 Mr. Omeish 48 Mr. Al-Sultan 50 Mr. Sherwin 53 Mr. Rao Sahib 54 Mr. Arlman 54 Mr. Cassell 58 Mr. Boehmer 61 Mr. Vannini 68 Mr. Camarasa 71 MILLER REPORTING CO., INC. S07 C Smet, N.E. Washington, D.C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL .. nm 32 Item three is other business, and under other business I would like to ask for a progress report on the Argentine loans. As you may recall, the Board approved four loan packages to Argentina on October 27, 1988. It was agreed then that the staff would make an oral report on the implementation of the economic program. I Mr. Bottelier is here. He is the Country Director, as you know, for Argentina, and he is going to give us a progress report. And I wish to note also that Mr. Lachman, the Division Chief for the Western Hemisphere for the Fund, is in attendance. Mr. Bottelier, would you give us your oral report MIU.ER REPORTING CO., INC. )07 C Sattt, N.E. Washington, O.C. 20002 (202) )46-6666 STRICTLY CONFIDENTIAL .. run 33 please? MR. BOTTELIER: Thank you, Mr. Chairman. As you mentioned, last October the Board approved a package of loans to Argentina for $1.25 billion. It included two quick-disbursing adjustment loans: an amendment to an earlier approved $400 million banking sector loan, and a $300 million second trade policy loan. The loans were presented in the framework of a macroeconomic stabilization program described in the Goverrunent's Letter of Development Policy, which was included in the documentation at that time. A preliminary report of the progress and concerns were sent to you on December 2 last year. A Bank mission has just visited Argentina to review the progress in implementing the program, and I am here to brief you on the mission's findings. Let me being by briefly recapitulating the reasons why the Bank management proposed the package for · your consideration in October. Over the last few years, the Goverrunent and the Bank have engaged in a growing close dialogue on the major restructuring programs of the Argentine economy. The Goverrunent had undertaken a number of far- reaching structural reforms which the Bank supported. The Goverrunent was ready to do more in public enterprises, in IIILLER REPORTING CO., INC. 507 C Suttt, N.E. Washington, D.C. 20002 (202) ~6-6666  " STRICTLY CONFIDENTIAL nm 34 international trade policy and in the financial sectors, but it faced severe constraints: recurrent inflation, waning domestic political support, and reticent international support for Argentina's efforts. We felt that there was an urgent need for visible and prompt international assistance to Argentina so that the Government's reform efforts would not falter. The hope of Bank management, supported by the Board at that time, was that this good faith action by the Bank would have a strong catalytic effect on other financial agents. While the two adjustment loans were for $700 million, the tranching arrangements implied that only $150 million -- for the first tranche of the trade loan -- would be disbursed before reviews of the implementation of the Government's macroeconomic program. The flow of funds was to be graduated and closely linked to the progress of the reform. With this as background, let me now turn to the evolution of the macroeconomic program and then to the two sectoral adjustment loans. First, the program under the Letter of Development Policy: In the last six months Argentina has made progress in implementing its macroeconomic program. In the public sector, it promulgated a new industrial promotion law, and it Mu.ER REPORTING CO., INC. W7 C Smet, N .E. Washmgton, D.C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL run 35 is implementing a tax reform that will reduce the fiscal costs of industrial promotion, as well as its economic distortions. The rediscount budget for 1989 and the national budget proposals were submitted to Congress by end September, ahead of the new fiscal year for the first time in a decade. Privatization efforts continue despite some delays in Congress. Concrete proposals for the divestiture of the national airline and the communications company now appear to have support sin both political parties. The formulation of a plan to restructure the railways is proceeding, albeit somewhat more slowly than we had expected. Furthermore, the Government is making a major effort, supported by the Bank to strengthen tax administra- tion. By mid-year the tax authority will have put in place new auditing for the largest 2,000 contributors. It will have hired 600 more auditors, improved its computerized data base for automatic checks on tax returns, and it will substantially improve its internal control mechanisms. Argentina has also proceeded with reforms of the trade regime and of the financial sector. In trade, it lowered the average production-weighted tariff from 43 to 28 percent. It reduced the coverage of quantitative restriction MILLER REPORTING CO., INC. )07 C Succc, N.E. Washington, D.C . 20002 (202) )46-6666  •, STRICTLY CONFIDENTIAL nm 36 from 30 percent to 18 percent of domestic production, and it considerably reduced the coverage of discretionary import l icensing. In the financial sector, the Government libera- l ized interest rates, closed the overdraft window for the public banks at the Central Bank, and slashed rediscounts that were in fact disguised fiscal expenditures. The Government's anti-inflationary efforts enjoyed initial success: the monthly inflation rate, which had reached 30 percent last August, was reduced to an average of 6 percent over the last quarter. The improved macroeconomic environment attracted substantial short-term private capital inflows and the economy partly remonetized. These positive developments, however, were -- MR. CONABLE: Excuse me. Did you say the economy partly -- MR. BOTTELIER: Partly remonetized. The ratio of the money supply to national income increased from somewhere around 3 to over 4 percent in the last few months of last year. MR. CONABLE: From 3 to 4 percent. MR. BOTTELIER: Three or over 4 percent, yes. MR. CONABLE: You will remember there was a lot of demonetization t hat had gone on there in Argentina. MILLER REPORTING CO., INC. )07 C Street, N .E. Wuhingt00, D .C. 20002 (202) )46-6666  "' STRICTLY CONFIDENTIAL run 37 Excuse me. MR. BOTTELIER: But these positive developments were not enough to create the atmosphere of stability necessary to reverse the inflationary expectations. This was also in part because of events outside the Goverrunent's control. As you know, Argentina is in the midst of a presidential election campaign, which in a new democracy is cause enough for nervousness in financial markets. To make matters worse, a major insurrection of right~wing military officers in December was followed in January by a bloody attack on an army base near Buenos Aires, allegedly per- petrated by left-wing groups, in which 39 people died. A number of shooting incidents have since occurred at various military bases around the country. All of this has increased uncertainty. In addition, at a time when the terms of trade for Argentina's agricultural exports were improving, the country suffered from an extensive drought, which reduced production and exports. The drought also caused severe and prolonged shortages of electric supply, electricity supply throughout the country, as hydro power generation, which accounts for a third of the total, fell. Finally, the negotiations with commercial banks for new money, as you know, have stalled. All of this contributed to ML&.ER REPORTING CO., INC. )07 C Stttet, N.E. Washington, D .C. 20002 (202) ~6666  STRICTLY CONFIDENTIAL run 38 i ncreased economic uncertainty. Shortcomings on the part of the Government in the implementation of the -program as agreed with the Bank c ontributed also to unstable macroeconomic fundamentals. In our communication to you of December 2, we expressed incipient concerns over the fiscal situation, and these were subse- quently borne out by events. The tax reform package for 1989 emerged from the Argentine Congress at a value of about half the 1.5 percent of GDP anticipated in the Letter of Development Policy, despite forceful lobbying on the part of the Executive Branch. Congress would not accept a widening of the base for the value added tax as anticipated. Transfers to the provinces had to be increased over the budgeted levels because provincial spending did not immediately adjust as quickly as had been anticipated to the new revenue-sharing law. In fact, late in November provincial governors organized protest demonstrations in Buenos Aires to give weight to their claims for additional resources. Furthermore, public enterprise tariff adjustments were kept below the rate of inflation, although the Goverrunent did limit Treasury transfers to public enterprises to agreed levels . The continued large, albeit significantly reduced, MILLEA REPORTING CO., INC. )07 C -Suttt, N.E. Washington. D .C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL run 39 losses of the railway system were fully covered by surpluses as elsewhere in the group of public enterprises. Taken together, these shortcomings implied that progress towards reducing the deficit of the non-financial public sector has been slower than anticipated. The insuffi- cient adjustment in the fiscal accounts put the burden of stabilization on monetary policy. The monetary authorities were compelled to raise real interest rates to very high levels in the last quarter of 1988 in order to maintain the exchange rate in the range desired to slow inflation . These high interest rates increased the quasi-fiscal deficit of the Central Bank. The combined deficit for 1988 will, therefore , probably be of the order of 5 . 9 percent of GDP, about 1.3 percent higher than we had projected in September and October. It is of even greater concern that without new policy initia tives it will be difficult for the Goverrunent in 1989 to hold the combined deficit to less than 5 percent of GDP. This would be more than twice the 2.4 percent target agreed upon . And this means that the macroeconomic program, on which we had agreed, is un f ortunately o f f-track. It will take some time for the Goverrunent to put in place a newly- reformulated and viable macroeconomic program. The forthcom- ing p r es i dentia l e lect i ons no doubt e x acerba t e the u nce r tainty MILLER REPORTING CO., INC. ~07 C Succ,, N.E. Washington, D.C. 20002 ( 202) ~46-6666  "· STRICTLY CONFIDENTIAL nm 40 and limit the Government's influence with Congress in taking fiscal action. The political instability and continuing imbalances in macroeconomic fundamentals precipitated a run on the national currency, the Austral, in the final days of January. At first, the Central Bank reacted by firmly defending the currency. It sold over $900 million in this effort, and tightened monetary policy by requiring additional forced savings from the commercial banks, increased . reserve require- ments and by raising interest rates, all of which exerted a strong contractionary pressure on money markets. But these measures were not enough. On February 6, the Government decided to cut the parallel exchange rate loose by ending the dollar auctions of the Central Bank. This was intended to defuse the pressures in the financial markets, permit a fall in nominal interest rates, and preserve the remaining liquid reserves at the cost of opening up a significant risk of accelerating inflation. Unfortunately, continued nervousness in financial markets has kept the free exchange rate high without propor- tional declines in real interest rates. It now seems unlikely that the situation will change fundamentally until after the May elections. MILLER REPORTING CO., INC. )07 C Street, N.E. Washiogtoo, D.C. 20002 (202) ~6-6666  "· STRICTLY CONFIDENTIAL nm 41 Despite this troublesome near-term situation, Mr . Chairman, progress has been commendable on the specific covenants of the two quick-disbursing loans, to which I will now turn . First, I would like to report on the second trade loan. In October 1988 the Government took impressive steps in the implementation of its trade reform program. As already noted, the country sharply reduced its external tariffs, decreased the coverage of quantitative restrictions and reduced discretionary licensing. These efforts exceeded the conditions of effectiveness and first tranche release, enabling us to declare the Second Trade Policy Loan effective in November and to release the first tranche of $150 million. Since then, the Government has made progress towards complying with the second-tranche conditions. In particular, it introduced a very important modification of the industrial promotion law, more extensive than had been hoped for, and this will substantially reduce Treasury losses and stimulate efficient investment in the future. The Government has assured us that the remaining loan specific measures necessary for second-tranche release - - a further reduction in quantitative restrictions to 15 percent of local production, the complete elimination o f MILLER REPORTING CO., INC. 107 C Suttt, N.E. Washington, D .C. 20002 (202) S 4 ~  .. STRICTLY CONFIDENTIAL nm 42 remaining discretionary import licensing, and the removal of all remaining export controls -- will be taken by mid-March,· the target date agreed upon with the Government. Let me now turn to the banking sector loan. In the financial sector also important reforms have already been implemented: the . freeing of deposit and lending interest rates; reducing Central Bank quasi-fiscal expenditures; strengthening Central Bank supervision; streamlining loan portfolio administration; and, in general, increased transpa- rency. The Government and the Central Bank have demonstrated political courage in successfully limiting · central Bank rediscounts as agreed; the new flow of new rediscounts excluding the Housing Bank has been negative, as had been agreed, and those to the Housing Bank have been kept within the agreed limits. In addition, the Government has kept reserve requirements within the agreed limits, and has accelerated the procedures for the intervention and liquidation of troubled banks. Also some progress has been made in the preparation of -action plans for the restructuring of the Housing Bank and the Industrial Development Banka, but not to the point of complying with the condition of the loan. On the other hand, the failure to reduce the fiscal MIU.ER AEPORTINO CO., INC. >07 C Suect, N .E. Wuhingt00, D.C. 20002 (202) ~6-6666  STRICTLY CONFIDENTIAL run 43 deficit to target levels has compelled the Goverrunent to i ncrease forced savings in the banking system beyond agreed l imits. In the envirorunent of very high real interest rates, open market operations entailed huge interest costs which added substantially to the deficit of the Central Bank. Real i nterest rates averaged 4.7 percent per month in the last quarter of 1988, as compared to 1-1/2 percent anticipated under the plan. Also capital inflows entering the country in r esponse to the program, private foreign capital inflows, were much greater than had been anticipated. This left the Central Bank with little alternative but to resort to forced savings from the commercial banks to sterilize these new capital inflows. It is important to stress, however, that the failure to make the banking sector loan effective is not due to lagging discretionary action on the part of the monetary authorities. Almost all the important agreed policy measures and regulatory improvements have been made. The slower-than-expected fiscal adjustment, however, and the consequent increases in forced savings from the banking system means that one of the principal objectives of the loan, namely increasing intermediation by domestic commercial banks for private lending at a lower cost, has not been realized. We are thus not in a position to make the MILLER REPORTING CO., INC. W7 C Saect, N.E. Washington, D.C. 20002 (202) ,46-6666  •, STRICTLY CONFIDENTIAL run 44 banking sector loan effective at this time. However, we will work with Argentina in trying to define a new framework for Bank involvement in the financial sector. As a consequence of the mission's findings, which I have just summarized, the Bank has informed the Goverrunent that the combined $350 million for the second tranche of the Second Trade Policy Loan and the first tranche of the Banking <' Sector Loan will not be available to them at this time. The Goverrunent has accepted this. We made this judgment because compliance with the conditions of the two loans and the Letter. of Development Policy is not complete. The status of the loans will, therefore, remain unchanged until such time as the loan- specific conditions are fully met and we feel that · the macroeconomic situation has improved sufficiently to make it likely that the loans can attain their objectives. In summary, Mr. Chairman, I would like to . stress the following four main points: In October last year, the Bank provided leadership at a time when most external agents were adopting a wait and see attitude. The board accepted the obvious risks involved in going ahead at that time because the October package was structured in a way that provided maximum support and MILLER REPORTING CO., INC. 507 C Stttet, N .E. Washington, D.C. 20002 (202) ~6-6666  STRICTLY CONFIDENTIAL ·- run , 45 encouragement for structural reform in Argentina while minimizing the risk to the Bank. In fact, as noted, the Goverrunent has achieved much of the loan conditionality since then, but only $150 million has been disbursed out of the two quick-disbursing sectoral loans of $700 million. Nonetheless, the support provided by the Bank to Argentina through the October package enabled the Government to strengthen and consolidate its structural reform program. It is mainly on the fiscal adjustment that significant slippage has occurred, partly due to factors outside the control of the Executive Branch. While this slippage is important and ultimately decisive in shaping the macroeconomic environment, we should recognize that other programs are on track. Turning to the future, much remains to be done by this and by the next administration in Argentina. Structural changes are a very difficult thing. to introduce. There are vested interests to overcome, habits to change, political sensitivities to consider. It takes time and a consistent effort on the part of the authorities. There are bound to be .. ups and downs. But the basic thrust of Bank support should look to the longer term. In Argentina, while we don't feel that the conditions are right now to disburse under the two IILI.ER REPORTING CO., INC. )07 C Sm:ct, N.E. Washington, D.C . 20002 (202)~6  STRICTLY CONFIDENTIAL run 46 quick-disbursing loans, we do feel that the structural reform programs to date are heading in the right direction. If the election sustains the political will and consensus to continue along that path, we intend to continue to support Argentina's effort at structural reform. In our lending program for the future, we will focus particularly on public enterprise reform, thereby hoping to attack Argentina's continuing fiscal problems at one of its root causes. We also expect to become more active in the social sectors, where we have already made an important start through the Housing Sector Loan and through a Social Sector Management Technical Assistance Loan, both of which were approved last year. In addition, we expect to support industry and agriculture through credit lines and help finance direct investment programs in infrastructure, particularly in transport and power. In all of these ways, we hope to maintain a momentum in Argentina for introducing profound structural improvements. Thank you, Mr. Chairman. MR. CONABLE: Mr. Bottelier, will a written copy of your statement be made available to the Board? MR. BOTTELIER: If you so desire. MILLER REPORTING CO., INC. )07 C Street, N.E. Washington, D .C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL ~ 47 MR. CONABLE: I think it should be, if you please. Now what comments or questions do we have on this oral report? I would like to say something. I wish somebody would go first. But I would like to, rather than dredging up the past, make sure that we know where we are going from here. I have to say that I didn't think it was altogether fair of Mr. Bottelier to say that the Board accepted all the risks in October. You know, we read about this in the papers in September and we didn't have a whole lot of choice in October. But where we are now is a loan which is for the moment off the rails, and one which we all hope, I know, will get back on the rails. But I would like some assurance that we don't hear about tranche release second-hand. MR. CONABLE: Don't hear what? MR. POTTER: About tranche release second-hand, and that we are drawn into this issue as it develops and that, if there are tranche releases, that they will come to the Board. I would like that assurance please. MR. CONABLE: Mr. Qureshi, do you wish to respond? MR. QURESHI: I do not anticipate, Mr. Chairman, that it is likely that there would be any tranche releases before new measures and new steps are t a ke n to correct, i n MILLER REPORTING CO., INC. )07 C Street, N .E. Washington, D .C. 20002 (202) H6-6666  STRICTLY CONFIDENTIAL run 48 particular, the fiscal program that will need to be streng- thened in order to be able to disburse under the existing loans. So, therefore, I do not see any problem in reporting to the Bank if there are any substantial changes in the Argentine program that will, in fact, make it possible for us to move forward in this matter. MR. CONABLE: Mr. Potter. MR. POTTER: It will be ex ante, will it? MR. QURESHI: It is always ex ante. MR. POTTER: Well, it is not always ex ante. MR. CONABLE: Mr. Omeish. MR. OMEISH: Mr. Chairman, I have to take the floor because I consider this question is a very serious matter, and my concern is not information about the second tranching or the third tranching. My concern relates, Mr. Chairman, to the role of the Bank as a development institution in assisting member countries. I must confess that I consider what happened unfortunately a setback for the Bank for the following reasons: We, especially also thi s Chair, advocate the necessity for the Bank to take a l e ading role i n assisting MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL " run 49 member countries in investment financing as well as structural adjustment. But at the same time, whenever we try to tailor our adjustment lending, we have to tailor it in a way that will help member countries but also not to that extent that the Bank cannot do it alone, regardless of the size of financing. And this is a very serious problem, Mr. Chairman. We remain a development institution, and it is the raison d'etre of our institution. Our embarking on adjustment lending is an additional task . We take this responsibility in order to help member countries, but at the same time it doesn't mean that whenever we try to assist member countries, we will be faced with such, what shall I say, obstacle that it will send a very serious and wrong signal, that even the experience of the Bank in this sort of lending, that is to say policy lending, is a complete failure, as it appears also to some extent that we did find difficulties in financing projects in general. So I didn't like to have this sort of impression. I mean, this country that we are considering now, or we have this very comprehensive briefing on it, deserves due attention because it is one of the member countries, and we do not like to create a sort of precedent that will affect the operation of the Bank . It will have its own setback and problems for MILLER REPORTING CO., INC. )07 C Street, N .E. Washington, D .C. 20002 (202) ~ 6-6666  STRICTLY CONFIDENTIAL -- nm 50 this sort of lending not only to Argentina as such but to other member countries. And I must confess, Mr. Chairman, also that the way we are going to deal with this question is not appropriate. It is not fair to leave any member country in the midst of its problems. We know in advance that this sort of lending is characterized or dominated by uncertainties. Member countries are facing a very serious problem. They are beyond their control, and they are part of the responsibility to take any adjustment or policy reforms, but at the same time it is not fair, Mr. Chairman, in the critical situation just we pack away and say because member countries did not fulfill the necessary conditions, we have to stop. Mr. Chairman, I urge management to consider seriously to revisit this sort of financing and take the necessary action to avoid any future problems. Argentina now is the first country and I am sure other member countries will be forthcoming. For this reason, I have to take the floor and caution against this sort of problem. Thank you very much, Mr. Chairman. MR. CONABLE: All right. Mr. Al-Sultan. MIUER REPORTING CO., INC. )07 C Sueet, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL nm 51 MR. AL-SULTAN: Thank you, Mr. Chairman. Mr. Chairman, I would just like to start by fully supporting what my colleague, Mr. Omeish, has said. I think Argentina is certainly in a very difficult situation. MR. CONABLE: Can you speak up? MR. AL-SULTAN: I was just supporting what Mr. Omeish has said that Argentina is in an extremely difficult situation, and the Bank should try and show as much flexibi- lity as it can possibly. I think we must continue to survey and continue our dialogue with the Argentineans to again, as I said, be as flexible as possible. The point I wanted to make was something that I didn't quite understand. It was on existing procedures for tranche release. Mr. Potter mentioned ex ante and that seemed to bring something up. The question basically is that the Board has approved conditions for tranche release. These are clear. It is up to management to implement it. Those are the procedures and I assume that those are the procedures that will continue. If and when conditions are not met or there is slippage, management will stop release. If and when those conditions are met, management wi ll release it, and it is up to us to be informed at a later stage. And, as usual, Mil.LEA REPORTING CO., INC. )07 C Suttt, N.E. Washington, D .C. 20002 (202) H 6-6666 STRICTLY CONFIDENTIAL " run 52 management is accountable to the Board and that is the procedure. And I hope that that will stay. We don't want a situation where the Board is going to look at every single tranche release and every single situation where it feels it needs to interfere, and basically become an impediment to what is a continuing dialogue between member governments and the Bank. Thank you, Mr. Chairman. MR. CONABLE: Mr. Qureshi wishes to come back to the tranche release issue, I think. MR. QURESHI: Mr. Chairman, I think that there really is not an inconsistency between the position that Mr. Al-Sultan has taken and with which I agree and the response that I gave to Mr. Potter. Let me try to clarify that. I think that the position that we have taken, the management has taken on this issue of tranche releases is that disbursements of loans under conditions that . are approved by the Board is a management issue. Only when these conditions are materially changed do we come back to the Board. And in that sense, I say that the procedure hasn't changed. In this particular case and responding to Mr. Potter, what I wanted to be quite clear of was · that it will MILLER REPORTING CO., INC. )07 C Strttt, N.E. Washington, D .C. 20002 ( 202) s-46-6666  STRICTLY CONFIDENTIAL run 53 need substantial changes in the economic environment and in economic policies, requiring basically change in the condi- tions that now exist in the existing loans for us to be able to disburse in this case. Therefore, I see no problem in coming with those changed conditions, if you wish, in these loans and according to th~ Board on an ex ante basis because we will need Board approval for doing that. So that is why I had no trouble at all in responding in that way to Mr. Potter. MR. CONABLE: Mr. Sherwin wants to make a comment, I think. MR. SHERWIN: I just wanted to say, Mr. Chairman, that, firstly, I will read and cogitate on the written statement. This has always been a difficult and I guess in some sense a high stakes operation. That was clear at the outset and it was a controversial one, as we all recall. I think it is terribly important that we pay very close attention to the conditionality that is. imposed the first time around, and for that reason I support the decision which has been taken at this point. In terms of subsequent release, I don't want to get into a procedural issuei but again I will reiterate this was a controversial and difficult loan and will continue to be so. And for that reason, I MIU.ER REPORTING CO., INC. ~07 C Sm:et, N.E. Washington, D .C. 20002 (202) )46.6666  • STRICTLY CONFIDENTIAL run 54 think it is in the interests of the Bank as a whole that we make sure that we all understand exactly what we are doing at each step, and that is going to require a good deal of communication all around. I don't see anything wrong in those circumstances with ensuring that it comes back to Board members in some form. Thank you. MR. CONABLE: Mr. Rao Sahib. MR. RAO SAHIB: Mr. Chairman, my point was exactly the same as that raised by Mr. Al-Sultan. Mr. Qureshi has answered it. MR. CONABLE: Very good. ,·.· Mr. Arlman. MR. ARLMAN: Thank you, Mr. Chairman. Mr. Chairman, two comments and three brief ques- tions. One is I would like to express appreciation for the introduction by Mr. Bottelier and specifically for the balance that the introduction gave us. I must say I am impressed by quite a number of measures taken by the Executive Branch of the Argentine Government. The second comment is I took very good note of the, quote/unquote, "compromise" that Mr. Qureshi put on- the MLLER REPORTING CO., INC. )07 C Suttt, N .E. Washington, D.C. 20002 (202)~  •, STRICTLY CONFIDENTIAL nm 55 table, and I can certainly live with that. Three small questions, Mr. Chairman. One is: Do I understand correctly that disbursements under other projects, both projects recently approved and other projects, simply continue as planned? Secondly, you said that an IMF representative was present. Does he or she have anything to add, subtract or whatever to the staff introduction? If so, then I think this would be a nice occasion. And, thirdly, Mr. Bottelier's introduction was very brief about the position of the commercial . banks and the discussions going on. And if we could hear a little bit more about that, I would certainly appreciate it. Thank you very much. MR. CONABLE: First of all, Mr. Lachman, is there anything new to report from the Fund side? If you would like to come forward, or if you have essentially a negative report, that is all right too. (Laughter. ) MR. LACHMAN: No, I don't have very much to add to Mr. Bottelier's statement. MR. CONABLE: There have been ongoing discussions with the Fund I know. IIIUER REPORTING CO., INC. ,01 C Sucet, N.E. \Vuhiogtoo, D.C. 20002 (202) , 4 ~  STRICTLY CONFIDENTIAL run 56 MR. LACHMAN: That is correct. We have been having ongoing discussions with the Argentineans. Unfortunately, we haven't been able to find a basis for the formulation of the program pretty much for the reasons to which Mr. Bottelier has alluded, namely that we do not see the fiscal policy underpinnings that might lead to a successful stabilization program. We are continuing discussions with the Argentineans i n the context of our Article IV consultation. That is still t o be completed for 1988, but at this stage we are no nearer t owards the formulation of an economic program that can be s upported by Fund resources. I think that is all I would like to say. MR. CONABLE: Thank you, Mr. Lachman, very much. Would Mr. Bottelier or Mr. Husain want to comment on further questions? Yes, Mr . Bottelier. MR. - BOTTELIER: On the question of disbursements on other loans, Mr. Chairman, these are indeed proceeding on a normal basis. Most of those are investment loans. Of the two investment loans that the Board appr oved i n October, the power sector loan has in the meantime become effective and some disbursements have started under that. MIU.ER REPORTING CO., INC. )07 C Saect. N.E. Washington, D.C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL run 57 The Housing loan is expected to become effective within a matter of days. Disbursements will commence on that. And on other loans MR. CONABLE: These are investment loans. MR. BOTTELIER: These are investment loans that are proceeding. MR. CONABLE: But the dialogue with the Argentine Goverrunent continues also. MR. BOTTELIER: Very much so. MR. CONABLE: Close monitoring of their economic performance. It appears that they have been in good faith and the Executive Branch is making a serious effort to improve their economic situation and there is no indictment of them intended by this report. MR. BOTTELIER: I can confirm that, Mr. Chairman. I think, needless to say, the conclusions of the mission and the management were a source of great disappointment. But there was a complete understanding of the reasons for these conclusions and a complete acceptance. MR. CONABLE: But isn't it true also that their performance has considerably improved the economic situation over what it might have been had they not made the efforts that have been taken. MLLBI AEPOATING CO., INC. )07 C Sttcct, N.E. Washington, D .C. 20002 (202)~~  It STRICTLY CONFIDENTIAL run 58 MR. BOTTELIER: I would think -- it is a hypotheti- c al question, but I think it is almost certainly true that t he structural reform program would have collapsed or might not have been consolidated as it did if it had not been for t he support that -- MR. CONABLE: Excuse me. There was one other question that Mr. Arlman asked, was there not? The commercial banks, yes. MR. BOTTELIER: There is to the best of my knowledge I at the moment no progress in the discussions. MR. CONABLE: Thank you. Mr. Cassell. MR. CASSELL: Thank you, Mr. Chairman. I think this is a very unhappy state of affairs here because, as we saw in October, the actual reforms that were to be financed by these loans were very worthwhile structural reforms. But they did need the right macroeconomic conditions for them, and one would want to read very care- fully, I think, Mr. Bottelier's statement. But I think, like Mr. Potter, I was a little bit taken aback by, I think, the first of these general remarks that the Board accepted the risks in October. I mean, many o us or several of us anyhow thought the risks looked too high. MILLER REPORTING CO., INC. S07 C Street, N .E. Washington, D.C. 20002 ( 202) 5-46-6666  STRICTLY CONFIDENTIAL run 59 But I think what the Board accepted was management's assess- ment of those risks. Now there is obviously a lot of lessons to be drawn from this, but I don't think it is the right time to draw them now. This particular or these particular loans have acquired a sort of core celebres (Phonetic) status outside this institution, which I am afraid doesn't help the sort of dispassionate consideration of them. Mr. Chairman, when we had the discussion in October, this was reported to the press I remember, you know, immediately that evening in more ·detail I think than really it should have been done. I mean, can I ask today: Is there any intention of reporting this or what happens -- MR. CONABLE: Mr. Bottelier or Mr. Husain, what is your expectation? MR. HUSAIN: There is no intention that the Bank should take the initiative, Mr. Chairman, of reporting it to the press. But I have no doubt that we will get a lot of calls individually from press people and we will just provide the facts. That is it; no comments. MR. CASSELL: All right. Thank you. I mean you can't do less than -- MR. CONABLE: The dialogue continues. MILLER REPORTING CO., INC. 507 C Sattt, N.E. Wuhingtoo. 0 .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL nm 60 MR. CASSELL: That's right. Because this is, I mean, such a big thing in Bank/Fund relations or seem to be, I mean I think here, as on other things, the proper course is temperature as low as we to do all we can to keep the _ possibly can, Mr. Chairman. MR. CONABLE: I agree with that, Mr. Cassell. MR. CASSELL: There is one other separate point that my authorities have asked me to raise. They are very concerned about a particular aspect of the measures taken by the Argentine Government to implement the trade loan. Tariff reform laws were introduced in October in accordance with the loan conditions, but subsequently the Argentine Government published a resolution to amend the import permit system for those imports which benefitted from the October laws. And this resolution specifically stated that imports benefitting from the new scheme should not be goods originating or proceeding from British possessions or the United Kingdom. This application of a new restriction formally excluding the United Kingdom from liberalization measures carried out in accordance with the conditions of the loan is , .. regarded by my authorities as a very unwelcomed step back- wards, given the objectives of the loan. IIUER A£POATING CO., INC. ~07 C Sacct, N.E. Washington, 0 .C. 20002 (202) )46-6666  •• STRICTLY CONFIDENTIAL nm 61 Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Cassell. Do you wish to comment on that? I could understand that it would be unwelcome. MR. CASSELL: I wish no comment, but if anybody feels it is factually wrong -- but I mean I am sure that it is right. MR. CONABLE: All right. Mr. Boehmer, would you like to comment, sir? MR. BOEHMER: Thank you. I also find the developments in Argentina which have forced management not to release the respective tranches most unfortunate and regrettable, but under the prevailing conditions I believe management was right in deciding not to release. Management had no other choice, and I explicitly endorse the position of management. And since a failure to comply with a number of conditions is in a way irreparable, at ·least as far as the timing conditions are concerned, I understand that if any improvement in conditions, a change in conditions would be possible in the future, this would have to be considered by the Board anyway, as Mr. Qureshi said. I also had the impression as far as the risk MILLER REPORTING CO., INC. 107 C Smet, N .E. Wuhington, D .C . 20002 (202) )46-6666  STRICTLY CONFIDENTIAL run 62 assessment - is concerned, this particular operation, since it has been widely publicized and got great attention, and there has been a great amount of money involved, of course, will add to our rate of failure or diminish our rates of success on adjustment lending in total. So the attitude of management and Board in terms of future risks taken might become a little more cautious in the future. And this, I think, is also a consequence of this operation, which may be un- avoidable. I also meant to ask about dealing with the media. I already got some calls yesterday from journalists and so there will be a lot of questions, and I share management's attitude and I hope we can deal with the press in a low profile fashion, but nevertheless there will be, I suppose, quite a bit of press reaction to this. Thank you. MR. CONABLE: Mr. Husain wishes to comment on your intervention, Mr. Boehmer. MR. -HUSAIN: Thank you, Mr. Chairman. I think that issue and the question is quite legitimate to ask whether this was a failed effort, and whether we should not have initially undertaken it. When I made a presentation to the Board on Latin Mu.ER REPORTING CO., INC. )07 C StRCt, N.E. Washington, D .C. 20002 (202) )46-6666  STRICTLY CONFIDENTIAL .. run 63 America a few months ago, one of the issues I drew attention was that since the problems that the Government is trying to correct and since the reform movements we are trying to support have a history of accumulation of problems over decades, very deep problems which have deep social and political links and since vested interests have developed in the preservation of the whole structure, clearly the reform movement will be in many cases troublesome or troubled, rather, and discontinuous. We have seen in Venezuela in the last two or three days what happens in some cases when a particularly courageous government tries to undertake major changes. And I am sure that we will see unfortunately similar issues in a number of cases. So the cases where the adjustments have been continuous, moot are very few in Latin America. Basically, we have to say that it is limited to Chile unfortunately under a government which many people don't regard as democra- tic, Uruguay -- a very homogeneous society, a small country, in Bolivia where you had a total breakdown and therefore a consensus developed in the wake of this total breakdown for reform and change, and in Jamaica where the external financing support for the reform was huge in relation to the Jamaican MILLER REPORTING CO., INC. )07 C Street, N.E. Washington, D .C . 20002 (202)~  STRICTLY CONFIDENTIAL nm 64 economy. In Mexico there has been, of course, commendable adjustment, but the strains are showing. The strains are showing in terms of declined per capita GNP and ·lack of growth, and there is the basic question arising as to whether this process can continue without reinitiating growth. And, therefore, looking back over the last six months of our involvement in this, clearly there has been disappointment, but what has been achieved is also very impressive in terms of laying the foundations, call for a basic change in enterprises, in the tax system, in the trade regime in a country where there is an old industry, very much attuned to rent receiving and rent creation. But I think a better achievement when one talks about the various shades of opinion in Argentina is a near consensus among opinion makers and intellectuals as well as parts of industry of the overwhelming need for change, of the overwhelming need to open up basically a society in an economy which has remained very closed in the last 30, 40 years, where basically rent creation and rent receiving has totally vitiated the economic growth process. As Mr. Bottelier said, this change, this dialogue, not just with the Government but with a large part of the Argentinean establishment, has been achieved at a very low lllllER REPORTING CO., INC. )07 C Succt, N.E. Washington, D.C. 20002 ( 202) ,46-6666  STRICTLY CONFIDENTIAL run 65 expense in terms of the overall resources of the Bank. And, therefore, we fully expect that, as the political situation stabilizes hopefully after the election, that this should itself· lead to a much deeper relationship between the Bank and Argentina on some of the key issues of reform and development. MR. CONABLE: Mr. Qureshi. MR. QURESHI: Just to add a few more words to what Mr . Husain has just said. Mr. Chairman, from my vantage point, I would not l ike to look upon this as anything more than a step in a d ialogue, in a very continuing and excellent dialogue that we c ontinue to have with the Argentinean Government. I also l ook upon this, in fact, as a continuing program. Indeed, I do not feel a sense of strong disappoint- ment. Yes, I wish that some of the fortuitous factors, in particular the drought, had not quite intervened in this p articular situation, which has really made and exacerbated t he balance of payments situation because it affected agricultural exports to a very significant extent. Yes, I had hoped that the Argentinean Government would have had greater success with the Congress, but we were very well aware that there were serious difficulties in their MILLER REPORTING CO., INC. ,07 C Smet, N.E. Wa.shingroo, D.C . 20002 ( 202) )46-6666  • STRICTLY CONFIDENTIAL run 66 ,. ability to get action from the Congress. What I would like to say, therefore, is that, as I view the situation today, in fact we find ourselves in a much better economic situation, in a much better economic base on which there is the potential to build further structural reform and further adjustment, and a further adjustment program. I think that in that sense the efforts that we have made are in no sense in vain. They have, in fact, in my view positively con- tributed to the evolution of a program on which following the elections, if the Goverrunent desires that it should continue in that direction, that we can indeed have a much stronger effort and a much better program on more solid foundations then would have been the case otherwise. In short, Mr. Chairman, I would not like it to be aeen that we are at all apologetic in any sense for the actions that were taken earlier. In fact, looking back, in ray personal view, sir, I think that we did the right thing and that with the benefit of hindsight I would do the same thing again. MR. CONABLE: Mr. Cassell, yes . MR. CASSELL: Could I just say, Mr. Chairman, in the present state of the debate on Bank/Fund relationship, I MILLER REPORTING CO., INC. ,07 C Succt, N.E. Washington, D.C. 20002 ( 202) >46-6666  •, STRICTLY CONFIDENTIAL run 67 wish Mr. Qureshi hadn't said that. You know, I don't want to open up a debate, but equally I don't want just to let that pass. I don't agree with him. MR. CONABLE: I hesitate to add anything to what Mr. Qureshi has said. I just would like to say that there is a lot of risk involved in development, and I think we are going to have to accept the fact that we will have ongoing risks that we will take. We will try to deal with them under circumstances that will have full support, but this institu- tion has an obligation to try to help its member countries. Mr. Omeish. MR. OMEISH: Mr. Chairman, allow me to bother you for minute, that is all. What I feel, Mr. Chairman, what is at stake at this moment is the credibility and the image of this institution. It is not a matter of. blaming management or commending management in this case. It is the image and the credibility of this institution, and also it is not a matter of Bank/Fund cooperation. I mean, we do not deny the necessity or utility of this sort of cooperation, coordination with the Fund. But what is at stake, Mr. Chairman, is the image and the credibi- lity of this institution. And this is the concern we have to pay attention to, not the other, what shall I say, secondary MILLER REPORTING CO., INC. )07 C Sacct, N.E. Wuhington, D .C . 20002 (202) S46-6666  • STRICTLY CONFIDENTIAL run 68 matters . Thank you very much. MR. CONABLE: Thank you, Mr. Omeish. Mr. Vannini. MR. VANNINI: Thank you, Mr. Chairman. Unfortunately, I was not able to listen to the beginning of Mr. Bottelier's excellent presentation. So I don't know if he referred at all to the adequacy of funding of the overall Argentine adjustment program. I did hear some later references to non-compliance and failure to comply and et cetera, et cetera. And I have a question that is, well, theoretical, if you want, but I think it is material to the next agenda item. That is: Would it have been easier for the Argentine Goverrunent to comply and go ahead with the adjustment program if it had been adequately f unded? Thank you. MR. CONABLE: Mr. Bottelier. MR. BOTTELIER: I did refer to it in the statement, g ir, mentioning that unfortunately the expectations that we h ad a t the time of the October Board meet ing did not materia- l ize, that ther e was no breakthr ough i n the negotiat i ons b etween Argenti na and commercial bank lender s. I n part, of MILLER REPORTING CO., IIC.. l07 C Strttt, N.E. Washingtoo. 0 .C. 20002 (202) l46-6666  •• STRICTLY CONFIDENTIAL run 69 course, it related to the failure to reach agreement with the Fund. Therefore, the entire external funding program that was anticipated as a basis for the macroeconomic adjustment program did not materialize and Argentina continued to fi nance itself through further accumulation of arrears. Had our expectation materialized, I think it would have substantially helped to calm the financial markets, to c reate an envirorunent within which macroeconomic management would have brought about the stability that we were all s eeking. MR. CONABLE: Mr. Potter. MR. POTTER: I know we all want to get on to the next subject, Mr. Chairman, but, having heard the comments of ay colleagues, I would like to add one or two things. I would, first of all, like to say that my criti- cisms are not aimed at Argentina. I think any fair assessment of what has happened there, as Mr. Bottelier has told us, has been considerable and should elicit admiration. I would like to say also that there is no suggestion that the Bank should somehow withdraw, no suggestion that we should scale down the dialogue. We are very happy to hear o f that inventory of issues which is under debate, and one hopes MILLER REPORTING CO., INC. 107 C Succt, N.E. Wuhingtoa. D.C . 20002 ( 202) )46..6666  STRICTLY CONFIDENTIAL nm 70 that they move forward . What I did want to say and what I would like to reiterate, to make awfully clear is that our concern is with the implications of this, and where we have got ourselves in terms of (a) a relationship with our sister institution across the street, which is on the front page of the news- papers. I would like to say that what has happened in this loan will not be without cost to our credibility. It will not be without cost to our authority elsewhere, as we attempt to deal with governments with difficult policy issues, and it may not be without cost or implications to capital markets, -. all of which would suggest to me that there is plenty of ground for modesty about where we are, and there is plenty of room for extra care, all of which I hope suggests that, as we move along, we engage the Board very closely in whatever happens. Thank you. MR. CONABLE: Are there further comments or q uestions? ( No response . ) MR. CONABLE: Thank you very much. Excuse me. Mr. Camarasa, yes. MIUER REPORTING CO., IIC. )07 C Strttt, N.E. Washington, D .C. 20002 ( 202) S46-6666  STRICTLY CONFIDENTIAL . ~ 71 MR. CAMARASA: Thank you, Mr. Chairman. I will be very brief. We also look at this in a positive sense, and I would like to convey to you what my authorities think in this respect. We think that only through the partnership with the World Bank, Argentina was able to accomplish major structural reforms. This has been in that sense a success and for that we are grateful to the Board of Directors that approved the loans and to the management of the Bank for its continuous support. Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Camarasa. MILLER REPORTING CO., INC. 507 C Saect, N.E. Wurungu,n, 0 .C. 20002 ( 202) )46-6666