World Bank Document

Part I Overview and Historical Perspective
1 Overview
The economic turbulence of the past few years has This Report offers a broad and long-term persubsided.
The recovery of industrial economies in spective on the role of international capital in eco-
1983-84, policy adjustments by many developing nomic development. It emphasizes that internacountries,
and flexibility by commercial banks in tional flows of capital can promote global economic
dealing with debt-servicing difficulties have all efficiency and can allow deficit countries to strike
helped to calm the atmosphere of crisis. This does the right balance between reducing their deficits
not mean, however, that the world economy has and financing them. The availability of internaregained
its momentum of the 1960s or that devel- tional capital also involves risks, however: first,
opment is again making rapid progress. Growth that it may delay the policy reforms required for
has slowed in most developing countries that adjustment; and second, that countries may borexperienced
debt-servicing difficulties and in many row too much if they misjudge the way in which
of those that did not. Average per capita real external economic conditions are going to evolve.
incomes in most of Africa are no higher than they Both benefits and costs can be illustrated by
were in 1970; in much of Latin America, they are recent experience. On the benefits side, most
back to the levels of the mid-1970s. Dozens of developing countries have made substantial ecocountries
have lost a decade or more of develop- nomic progress over the past twenty years. Their
ment. GDP growth averaged 6.0 percent a year in 1960-
The experience of the past few years has raised 80. The life expectancy of their people rose from an
many questions about the role of international average of forty-two years in 1960 to fifty-nine
capital in economic development. Only a few years years in 1982, while infant mortality was halved
ago, there was general agreement that the more and the primary school enrollment rate rose from
advanced developing countries could and should 50 to 94 percent. These advances reflected princiborrow
more commercial capital from abroad. That pally the efforts of developing countries themconsensus
has been broken. Some people believe selves. But there is considerable evidence that
that the case by case approach to addressing debt capital flows, often accompanied by technical
difficulties is creating a sustainable balance of know-how, have played a part.
growth and debt servicing that will in time encour- Foreign capital has also helped individual counage
more lending, including bank lending. Others tries to cushion shocks-either internal ones such
believe that new approaches are needed if devel- as harvest failures or external ones such as big
oping countries are to service their debt and changes in commodity prices or recessions in
resume economic growth. As with so many industrial economies. External finance can act as a
changes in conventional wisdom, both new and shock absorber, allowing countries to adjust their
old arguments are often stylized and exaggerated. spending gradually and reallocate their resources
It is important not to lose sight of the fundamen- for a new environment. In the 1970s many develtals
of international finance.
oping countries were able, in the first instance, to
Capital has long flowed from richer to poorer pay for more expensive oil by borrowing more.
countries. It has done so because it is relatively Those countries that accompanied borrowing with
scarcer in economies that are at earlier stages of policy reforms restored rapid growth and avoided
development, and the expected rates of return debt-servicing difficulties. Other countries used
tend to be correspondingly higher. What is at issue borrowing to avoid the policy actions required for
is the nature of capital flows, their terms, and their adjustment. Many of them ran into debt-servicing
uses. These questions were relevant in the nine- problems and needed to take even more drastic
teenth century and remain so today.
and costly adjustments later.
I