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ANNUAL REPORT

1976

©International Monetary Fund. Not for Redistribution

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INTERNATIONAL MONETARY FUND

ANNUAL REPORT

OF THE

EXECUTIVE DIRECTORS FOR THEFISCAL YEAR ENDED APRIL 30, 1976

WASHINGTON, D.C.


Contents

PageLetter of Transmittal xi

Chapter 1. DEVELOPMENTS IN THE WORLD ECONOMY 1General Survey 1Trends in Output and Prices 3

Overall View 3Features of the Current Economic Recovery 7

World Trade and Payments 9Volume of Trade 9Foreign Trade Prices 9Current Account Balances 12Capital Flows, Reserve Changes, and Exchange Rate Movements . . . 15

Policies, Wv \'ri'c& ^Z.oxm'iries 17Economic Setting 17Adaptations of Policy 17

The Situation of the Primary Producing Countries 19Major Oil Exporting Countries 19Non-Oil Developing Countries 20More Developed Primary Producing Countries 23

Chapter 2. EXCHANGE RATES AND INTERNATIONAL LIQUIDITY 24A. Developments in Exchange Rate Arrangements 24

Exchange Rate Practices 24Exchange Rate Developments 25Day-to-Day and Week-to-Week Fluctuations 27Short-Term Swings 28Exchange Trends and Competitiveness 31

B. Developments in International Liquidity 34Reserve Changes in 1975 34Factors Affecting the Adequacy of Reserves 39

Chapter 3. ACTIVITIES OF THE FUND 43Proposed Second Amendment 43Sixth General Review of Quotas 46Special Drawing Account 47

Transactions with Designation 48Transactions by Agreement 48Transactions and Operations Between Participants and

the General Account 48

V


CONTENTS

PageReconstitution 49BIS as a Holder of SDKs 49Valuation of SDR, Its Interest Rate, and the Rate of Remuneration. . 49

Transactions and Operations in the General Account 50Purchases in the Tranches 50Buffer Stock Facility 52Extended Fund Facility 52Compensatory Financing of Export Fluctuations 52Repurchases 53Oil Facility and Fund Borrowing 53Interest Payments on Oil Facility Borrowings 54Gold Sales 54Use of Currencies in Fund Transactions 56Charges, Interest, and Remuneration 57

The Subsidy Account 58The Trust Fund 60Consultations with Member Countries 61Training and Technical Assistance 61Relations with Other International Organizations 62Membership, Quotas, and Participation in the Special Drawing Account 64Executive Directors and Staff 64

Appendices 65

I. The Fund in 1975/76 69II. Principal Policy Decisions of the Executive Board and

Report to the Board of Governors 96III. Press Communiques of the Interim Committee and the

Development Committee 119IV. Executive Directors and Voting Power 128V. Changes in Membership of Executive Board 131

VI. Administrative Budget 134VII. Comparative Statement of Income and Expenses 136

VIII. Financial Statements 137

Index 155

LIST OF TABLES

Chapter 1. DEVELOPMENTS IN THE WORLD ECONOMY1. Growth of World Output, 1960-75 52. Price Increases in Developed Countries, 1960-75 63. Price Increases in Developing Countries, 1965-75 74. World Trade Summary, 1960-75 105. Terms of Trade Developments, 1960-75 126. Global Balance of Payments Summary, 1973-75 137. Industrial Countries: Balance of Payments Summaries, 1973-75 .. . 148. Summary of Payments Balances on Current Account 159. Non-Oil Developing Countries: Financing of Current Account

Deficits, 1968-75 20

vi


CONTENTS

PageChapter 2. EXCHANGE RATES AND INTERNATIONAL LIQUIDITY

10. Average Weekly Changes in Selected Effective Exchange Rates,Third Quarter 1973-Second Quarter 1976 27

11. Official Reserves, End of Years 1955-75 and End of April 1976 ... 3412. Distribution of Reserves, End of Years 1950, 1960, and 1970-75

and End of April 1976 3513. Composition of Reserve Change, 1969-75 3614. Composition of Reserve Change by Area, 1975 3815. Official Holdings of Foreign Exchange, by Type of Claim, End

of Years, 1969-75 3816. Ratios of Reserves to Imports, 1966-75 40

Chapter 3. ACTIVITIES OF THE FUND17. Use and Receipt of SDRs in Transactions with Designation,

Fiscal Year Ended April 30, 1976 4818. Use and Receipt of SDRs in Transactions by Agreement,

Fiscal Year Ended April 30, 1976 4819. Acquisitions of SDRs for Reconstitution from the Fund's General

Account, January 1, 1972-April 30, 1976 4920. Changes in Members' Super Gold Tranche, April 30,

1975-April 30, 1976 5621. Subsidy Account: Total Use of 1975 Oil Facility by Most

Seriously Affected Members and Subsidy Paid for theYear Ended April 30, 1976 59

22. Subsidy Account: Contributions 59

LIST OF CHARTS

Chapter 1. DEVELOPMENTS IN THE WORLD ECONOMY1. Semiannual Changes in Output and Prices in Industrial Countries,

First Half 1973-First Half 1976 42. Industrial Countries: Changes in Import Volume and Export

Prices, 1974-March 1976 113. Major Oil Exporters: Changes in Trade with Industrial

Countries, First Half 1974-First Half 1976 114. Non-Oil Primary Producing Countries: Changes in Trade with

Industrial Countries, First Half 1974-First Half 1976 125. Indices of Prices of Commodities Exported by Primary Producing

Countries, 1971-June 1976 126. Major Industrial Countries: Selected Short-Term Interest

Rates, January 1974-June 1976 187. Non-Oil Developing Countries: Debt and Debt Service Ratios,

1968-76 22

Chapter 2. EXCHANGE RATES AND INTERNATIONAL LIQUIDITY8. Exchange Rates Against the U.S. Dollar, January 1974-June 1976. . 269. Interest Rate Differential and Exchange Rate: The Federal Republic

of Germany and the United States, January 1974-June 1976 . . . . 2910. Indices of Effective Exchange Rates of Major Industrial Countries,

January 1974-April 1976 3011. Effective Exchange Rates and Relative Prices, First Quarter 1973-

Second Quarter 1976 33

vii


CONTENTS

12. Level and Composition of Reserves, End of Period, 1964-March 1976

Chapter 3. ACTIVITIES OF THE FUND13. Purchases Outstanding, April 30, 1966-7614. Average Annual Rates of Charges on Balances in Excess of Quota,

July 1974-April 1976

Page

37

51

57

The following symbols have been used throughout this Report:

( . . . ) indicate that data are not available;

(—) indicates that the figure is zero or less than half the final digitshown, or that the item does not exist;

(-) is used between years or months (e.g., 1970-76 or January-June)to indicate the years or months covered, including the beginningand ending years or months;

(/) is used between years (e.g., 1975/76) to indicate a fiscal year.

"Billion" means a thousand million.

Minor discrepancies between constituent figures and totals are due torounding.

The classification of countries employed in the Report is indicated in Table 1on page 5.

viii


International Monetary Fund

H. Johannes WitteveenManaging Director and Chairman of the Executive Board

William B. DaleDeputy Managing Director

Executive Directors

Sam Y. CrossWilliam S. RyrieEckard PieskeJacques Henri WahlKaichi KawaguchiLamberto DiniBernard J. DrabblePieter LieftinckNazih DeifS. Jagannathan

Alternate ExecutiveDirectors

Thomas LeddyP. H. KentGerhard LaskeJean FoglizzoRei MasunagaEduardo O. de ToledoDonal LynchTom de VriesMohamed FinaishWarnasena Rasaputram

Executive Directors

Jacques de GrootePer AsbrinkByanti KharmawanR. J. WhitelawHorace R. Monday, Jr.Francisco SuarezAlexandra KafkaJahangir AmuzegarDante SimoneAntoine W. Yameogo

Alternate ExecutiveDirectors

Heinrich G. SchneiderJ0rn H. KjaerSein MaungR. S. Deane

Roberto GuarnieriWinston Temple-SeminarioCosta P. CaranicasSantiago SevillaSamuel Nana-Sinkam

Senior Officers

The General Counsel Joseph GoldThe Economic Counsellor J. J. PolakAdministration Department Phillip Thorson, DirectorAfrican Department Mamoudou Toure, DirectorAsian Department Tun Thin, DirectorCentral Banking Service J. V. Mladek, DirectorEuropean Department L. A. Whittome, DirectorExchange and Trade Relations Department. . Ernest Sturc, DirectorFiscal Affairs Department Richard Goode, DirectorIMF Institute Gerard M. Teyssier, DirectorLegal Department Joseph Gold, DirectorMiddle Eastern Department John W. Gunter, Acting DirectorResearch Department J. J. Polak, DirectorSecretary's Department W. Lawrence Hebbard, SecretaryTreasurer's Department Walter O. Habermeier, TreasurerWestern Hemisphere Department Jorge Del Canto, DirectorBureau of Language Services J. S. Haszard, DirectorBureau of Statistics Earl Hicks, DirectorOffice in Europe (Paris) Leo Van Houtven, DirectorOffice in Geneva Edgar Jones, DirectorInformation Office Jay H. Reid, Director

Chief Editor Norman K. Humphreys

August 6, 1976

ix


LETTER OF TRANSMITTALTO THE BOARD OF GOVERNORS

August 6, 1976

Dear Mr. Chairman:

In accordance with Section 10 of the By-Laws of the International MonetaryFund, I have the honor to present to the Board of Governors the Annual Reportof the Executive Directors for the fiscal year ended April 30, 1976.

Yours sincerely,

/s/

H. JOHANNES WITTEVEEN

Chairman of the Executive Board

Chairman of the Board of Governors

International Monetary Fund

xi


Chapter 1Developments in theWorld Economy

General Survey

At mid-1976, the world economy was completing thefirst year of recovery from its most severe recession infour decades. Production in the industrial countries wasagain expanding at a satisfactory pace, and rates ofinflation were considerably below those experienced in1974 and the first half of 1975. By past standards,however, both unemployment and inflation remainedexceptionally high for the early phase of a cyclical up-swing. Although demand and output were not risingfast enough to reduce unemployment and excess indus-trial capacity over the short term to levels consideredacceptable by the authorities of most countries, theexpansion was sufficiently brisk to arouse widespreadconcern about the risk of renewed acceleration of priceincreases.

Cautious management of aggregate demand was thusessential for the purpose of bringing down inflation andeliminating inflationary expectations. A number of themajor industrial countries were in the process of with-drawing some part of the fiscal stimulus that had beenapplied during 1975 to combat the recession. Similarly,monetary authorities in those countries were shiftingtoward somewhat more restrained provision of liquidityto their respective banking systems. Rates of monetaryexpansion in the industrial countries at mid-1976 weredistinctly lower than those during the comparable phaseof the 1971-73 cycle in real terms—that is, after allow-ance for the prevailing higher level of price increases.Nevertheless, the circumstances called for avoidance ofsteps that would generate adverse effects on the unem-ployment front, and there was an apparently wide-spread recognition that the required policy course ofrestoring a reasonable degree of price stability over themedium term would have to be gradual but firm. Obvi-ously, the task faced by national authorities in formu-lating policy is exceedingly difficult.

Both the inflation and the recession generated bycyclical developments in the industrial countries havehad sharp repercussions on world trade. Primarilythrough the medium of changes in trade and in associa-ted financial flows, the impact of the recession, like thatof the preceding boom and inflation, has radiated out-ward to nonindustrial countries throughout the world.The adjustments of the primary producing countries tothese developments have been difficult and, in manycases, less than fully successful.

The total volume of world trade declined by some4-5 per cent from 1974 to 1975, chiefly in reaction tothe deepening and spreading of the international reces-sion during the latter part of 1974 and the first half of1975. Since about the middle of 1975, the directionof movement has been reversed by the cyclical recoveryof import demand in the industrial countries. Worldtrade volume rose at an annual rate of about 10 per centin the first half of 1976, and the prices of many inter-nationally traded commodities firmed noticeably duringthis period.

The recent restoration of buoyancy to both the vol-ume and the prices of primary commodities is bringinga renewal of growth in export earnings of primaryproducing countries—shared by the oil exporters, thenon-oil developing countries, and the more developedcountries of the primary producing group. Except forimports of the oil exporting countries, which were rela-tively unaffected by the substantial decline in oil exportearnings from 1974 to 1975, imports of the primaryproducing countries are lagging behind their exports inthe current upturn, as is usually the case at this stageof a cyclical recovery. Both the non-oil developingcountries and the more developed primary producingcountries borrowed heavily abroad during 1974 and1975, and reduced their reserves in 1975, in efforts tosustain import volume during a period of rising costsof manufactured goods, sharply increased oil and foodprices, and weakness in export markets. By 1975, the

1


ANNUAL REPORT, 1976

volume of imports into both groups of non-oil primaryproducing countries was shrinking under the pressureof external financial strains and of restraints on domesticdemand for the purpose of curbing price increases andprotecting balance of payments positions. Through atleast the first half of 1976, these pressures and restraintsprevented imports from turning upward in full parallelwith the recovery of export earnings. Moderate reduc-tions of the huge current account deficits of the past twoyears—which in 1975 had reached $37 billion for thenon-oil developing countries and $14 billion for themore developed primary producing countries—thusappeared to be in process, serving to ease somewhatthe problems of external financing.

Among primary producing countries, the oil exportersoccupied a unique position with respect to externalbalances in 1975. Although their export, eatom^s, wexaconsiderably reduced by the recession (as well as byoil conservation measures in the importing countriesand consumer reactions to the oil price increase of1974), most of them were under little or no externalpressure to restrain imports, which continued to riseat an extraordinary pace during much of the year. Theresult was a sharp reduction in the current accountsurplus of the major oil exporting countries, from$67 billion in 1974 to an estimated $35 billion in 1975.However, some rise in this surplus appeared to be tak-ing place in the first half of 1976 under the impetus ofthe cyclical recovery in world demand for oil.

The impact of the international recession on the non-industrial world extended beyond external trade andfinancial flows to domestic economic activity. Expan-sion of production and incomes was markedly retardedboth by primary effects on exporting industries and bysecondary effects on domestic demand. In many cases,the impact of foreign exchange constraints upon thecapacity to import was also a significant dampeningfactor. On the whole, however, the slowdown of growthin real output during 1975 was considerably moremoderate in the primary producing countries than inthe industrial world. Whereas the aggregate real grossnational product (GNP) of the industrial countriesdeclined by about \l/2 per cent in 1975, after ceasingto expand in 1974, the primary producing countriesmaintained a rate of increase in real output estimatedat 5l/2 per cent for 1974 and 3Y2 per cent for 1975.Before the downturn, the respective rates of growth in1973 had averaged about 6 per cent for the industrialcountries and 7 per cent for the primary producingcountries.1

In the global pattern of current account balances, theprincipal counterpart of the large downward shift in thesurplus of the oil exporting countries from 1974 to

1 Each of these rates was about 1 percentage point above thecorresponding average for the dozen preceding years.

1975 was to be found in the accounts of the industrialcountries. The combined current account balance ofthe latter showed a positive swing of $29 billion, froma sizable deficit in 1974 to a surplus of about $19 billionin 1975. This unusually large swing reflected cyclicalshifts (owing mainly to reduced imports) in balanceswith every major group of nonindustrial countries, plusthe ability of the industrial countries to supply mostof the goods and services involved in the extraordinaryexpansion of imports by the oil exporting countries.

The 1975 current account surplus of the industrialcountries was quite unevenly distributed among indi-vidual countries in the group, with two of the largestcountries—the United States and the Federal Republicof Germany—more than accounting for the total, whileseveral others, including Canada and the United King-dom, bad •y.iate.Vt ds&z&a. F'&i Vr>t TUWSV pai\, \icrwevei,current account imbalances were roughly matched bycompensating net flows of capital (including officialtransfers), so that pressures on exchange rates or ex-change reserves that might otherwise have resulted werelargely absent. Exceptions included France (where capi-tal inflows combined with a moderate current accountsurplus in 1975 to produce sizable reserve gains and asubstantial appreciation of the effective exchange rate)and Italy (where official transfers and sizable net out-flows of capital, including repayments of compensatoryforeign borrowing and an improvement in the net for-eign position of Italian commercial banks, exceeded thecurrent account surplus by a wide margin and broughta substantial impairment of the net reserve position),as well as the United Kingdom (where capital inflowsin 1975, although virtually sufficient to finance the cur-rent account deficit, included substantial amounts ofofficial or officially induced external borrowing, andwhere the effective exchange rate depreciated).

Early in 1976, the weakness of the Italian and U.K.balance of payments positions, associated with highrates of domestic inflation, became more directly visible.Sharp downward movements of both the lira and thepound under intensified market pressure dominatedexchange rate developments during the first half of theyear, and the French franc also weakened somewhat inthat period. The counterpart of these developmentswas a substantial appreciation of other major currencies,combined with reserve increases in some cases.

In addition to the broader changes in average ex-change rate relationships sketched above, the periodsince early 1975 has witnessed—apart from day-to-dayand week-to-week fluctuations—a number of shorter-term movements of a few months duration. The morenotable of these movements, as well as the major shiftsof a less transitory character, are discussed in Chapter 2,where one of the points emphasized is the degree towhich exchange rate changes have become a more

2


DEVELOPMENTS IN THE WORLD ECONOMY

important means of balance of payments adjustmentsince the widespread adoption of floating in early 1973.In a situation characterized by increasing diversity inFund members' exchange arrangements, even countriesthat have attempted through large-scale use of reservesto regulate the levels of the exchange rates for theircurrencies have at times been forced—or have foundit expedient—to allow their rates to change quite sub-stantially.

While exchange rate movements are obviously sub-ject to a wide variety of influences and quarter-to-quarterchanges are only loosely associated with concurrentchanges in relative prices, the experience of the pastthree years has shown a strong correlation betweenrelative price movements and changes in exchange rates.Trends of most countries' exchange rates over the float-ing period as a whole have been broadly commensuratewith major differences in rates of domestic inflation.

Financing requirements associated with the wideningof current account deficits in recent years have broughtgreatly increased reliance by member countries uponthe Fund's resources. Members' purchases amountedto a record SDR 4.7 billion during the calendar year1975 and came to more than SDR 4.9 billion in thefirst half of 1976 alone. Furthermore, the Fund'scapacity to serve members' needs, and to perform itsrole in the functioning of the international monetarysystem, was augmented in the past year by a variety ofactions.

Substantial work was completed on a number ofmatters that have been under discussion for some time,and various initiatives to deal with new situations wereundertaken. Among the projects completed, as de-scribed in Chapter 3, several may be singled out foremphasis here. One was the approval by the Board ofGovernors of a Proposed Second Amendment of theFund's Articles of Agreement. This comprehensiveAmendment, when accepted by the necessary majorityof members (three fifths of the number of members,having four fifths of the total voting power) will go along way toward adapting the Fund and its operationsto present-day conditions. Provision is made for greatflexibility in members' choices of exchange rate arrange-ments, subject at all times to certain general obligationsand to firm surveillance by the Fund. A reduction inthe role of gold, changes in the characteristics of thespecial drawing right (SDR) so as to enhance its role,simplification and expansion of the types of financialtransactions that can be conducted in the Fund's gen-eral operations, and the possible establishment of apermanent Council as a new decision-making organ ofthe Fund are among the other provisions of the pendingAmendment.

Another of the projects completed in the past yearwas the Sixth General Review of Quotas, which, after

it becomes effective, will increase substantially theaccess of member countries to the Fund's resources.The scope for helping members was also expanded bya temporary enlargement, pending adoption of the Sec-ond Amendment, of 45 per cent in the size of eachcredit tranche, as well as by modification and liberali-zation of the compensatory financing facility to permitgreater assistance to members encountering balance ofpayments difficulties occasioned by temporary shortfallsin export earnings. The temporary oil facility set up in1974 to assist members to meet the impact on theirbalances of payments of increases in the prices of petro-leum and petroleum products was terminated in early1976, but contributed greatly to the availability of Fundcredit throughout the preceding year.

Also, further assistance of special types is now to beprovided through two new accounts which the Fundadministers. The Trust Fund and the Subsidy Accounthave both been established to provide financial assist-ance to developing countries on concessionary terms.The Trust Fund is expected to receive its resourcesprincipally from profits on sales of one sixth of theFund's gold through public auctions, while the SubsidyAccount utilizes cash contributions received from mem-ber countries to subsidize the interest cost, for the mostseriously affected developing countries, of using the1975 oil facility.

These various actions have been broadly in conform-ity with the judgment expressed in last year's AnnualReport that the Fund's most suitable contribution to themaintenance of international reserve adequacy wouldlie in the provision of conditional liquidity. As notedin Chapter 2 of this Report, the international commu-nity will keep under close scrutiny the Fund's ability tofulfill its objectives. In this context, the Report observesthat the Seventh General Review of Quotas—to be con-cluded by February 1978—will provide a timely oppor-tunity for detailed reassessment of the Fund's capacityto continue playing its central role of providing balanceof payments financing where needed and encouragingall members to follow appropriate adjustment policies.

Trends in Output and Prices

Overall ViewResumption of economic expansion throughout the

industrial world has become progressively more appar-ent during the past year. The deep and prolongedinternational recession that started late in 1973 reachedits low point in the first half of 1975, when real GNPin the industrial countries declined at an average annualrate of 4Vi per cent. In that period—the third consecu-

3


ANNUAL REPORT, 1976

tive half year of negative growth for these countries as agroup—rates of decline in the range of 5l/2-l per centwere registered by all the major industrial countriesexcept Canada and Japan, and Japan was the only oneof these large countries whose real economic activityshowed any expansion at all. (See Chart 1.) However,an upturn in the second half of 1975—common in vary-ing degrees to almost all the major industrial coun-tries—held the average rate of decrease for the fullcalendar year (in comparison with 1974) to about1 Vz per cent. (See Table 1.)

By the first half of 1976, as the chart shows, resump-tion of output expansion was widespread. Annual ratesof increase over the second half of 1975 ranged as highas 6-9 per cent for the three largest economies (thoseof the United States, the Federal Republic of Germany,and Japan), as well as for the Canadian and Frencheconomies, and averaged about 6Yi per cent for thewhole group of industrial countries. To date, the rateof recovery has been generally moderate by referenceto prior cyclical experience in the postwar period whenallowance is made for the severity of the 1974-75recession.

The depressed conditions of 1974 and 1975 resulted,though only with a considerable lag, in an easing of thevirulent inflation that has afflicted the world economysince the late stages of the 1972-73 boom. (SeeTable 2.) From a peak annual rate of 13Vi per centin the second half of 1974 (nearly a full year after thecrest of the boom), the overall rate of price inflation inthe industrial countries dropped to 8Yz per cent in thesecond half of 1975 and to 7 per cent in the first halfof 1976 (Chart 1). This latter rate, however, was stillvery high, being twice the annual average for the decadeof the 1960s. In several countries, moreover, the revivalof demand expansion appeared to be arresting earliertendencies toward easing of inflation or bringing arenewed upward tilt to price movements. Unsatisfactoryprice trends thus remained a major problem throughoutthe industrial world.

Considerable disparity in rates of price increase—although less than in 1974 or 1975—prevailed in thefirst half of 1976. Among the larger industrial coun-tries, the lowest rates of price inflation in this semi-annual period were those of the Federal Republic ofGermany, the United States, and Japan—3 per cent,4Y2 per cent, and 7Yi per cent, respectively, at annualrates (as measured by GNP deflators); as noted above,these three countries also ranked highest in estimatedgrowth of real GNP. At the opposite end were Italyand the United Kingdom, which had the highest ratesof inflation (17 per cent and 13 per cent, respectively)and the lowest rates of output expansion (4Y2 per centand 5 per cent). France and Canada occupied inter-mediate positions on both counts, as did the group of

Chart 1. Semiannual Changes in Output and Prices inIndustrial Countries, First Half 1973-First Half 1976

(Percentage changes in real GNP and GNP deflators from pre-ceding half year, seasonally adjusted, at annual rates)

T Include, in addition to the countries shown separately in thechart, Austria, Belgium, Denmark, Luxembourg, the Nether-lands, Norway, Sweden, and Switzerland.

4



Table 1. Growth of World Output, 1960-75

(Percentage changes in real GNP or GDP)

Annual Average l

Industrial countries

CanadaUnited States

Japan

FranceGermany, Federal Republic ofItalyUnited Kingdom

Other industrial countries 2

Primary producing countries

More developed 3Less developed 4

Worlds

1960-70

4.8

5.24.0

10.8

5.74.95.72.7

4.8

5.6

5.85.5

5.0

1960-65

5.1

5.64.7

10.0

5.75.05.23.2

5.0

5.3

5.95.1

5.1

1965-70

4.5

4.83.1

11.6

5.64.85.92.2

4.6

5.8

5.85.8

4.8

1971

3.7

6.53.0

7.3

5.33.01.62.0

3.4

5.4

5.75.3

4.1

Change

1972

5.7

5.95.7

9.1

5.73.43.13.1

4.3

5.5

5.65.4

5.7

from Preceding Year

1973

6.0

7.25.5

9.9

5.85.16.85.5

4.4

6.8

6.27.1

6.1

1974

—3.2

-1.7

-1.2

3.80.43.4

-0.1

3.5

5.6

4.06.2

1.1

1975

-1.5

0.6-1.8

2.0

-2.5-3.4-3.7-1.7

-1.8

3.5

1.64.2

-0.5

Sources: National economic reports, IMF Data Fund, secretariat of the United Nations, U.S. Agency for International Develop-ment, International Bank for Reconstruction and Development, and Fund staff estimates.

1 Compound annual rates of change.2 Austria, Belgium, Denmark, Luxembourg, the Netherlands, Norway, Sweden, and Switzerland.3 Comprise Australia, Finland, Greece, Iceland, Ireland, Malta, New Zealand, Portugal, Romania, South Africa, Spain, Turkey,

and Yugoslavia.4 Comprise Fund member countries not listed above as "Industrial countries," or as being "More developed" (footnote 3, above).

In some of the other tables in this chapter, the less developed countries are subdivided to distinguish the "major oil exporters"(Algeria, Bahrain, Indonesia, Iran, Iraq, Kuwait, the Libyan Arab Republic, Nigeria, Oman, Qatar, Saudi Arabia, the United ArabEmirates, and Venezuela) and "other developing countries" (or "non-oil developing countries").

5 Fund member countries (listed in Appendix I, Table I.I) plus Switzerland.

"other" (seven smaller) industrial countries with re-spect to price increases. The average rate of real GNPexpansion in the smaller countries, however, was laggingbehind that of the major industrial countries. Such alag is characteristic of the early stages of a cyclicalupswing.

The disparity in rates of price increase in the indus-trial countries during recent years has impinged directlyon developments and policies with respect to interestrates, exchange rates, reserves, and capital flows. It hasthus tended to generate special problems for economicpolicy, particularly as regards the management of bal-ance of payments positions.

The recovery now under way in the industrial worldis accompanied by high rates not only of price inflationbut also of unemployment, which in most of the indus-trial countries is at record postwar levels for the presentphase of the cycle. National authorities are thus con-fronted with the prospect, based on past experience,that policies to expand production and alleviate unem-ployment will encounter a risk of aggravating the prob-lem of inflation. Assessment of this risk, however, isclouded by uncertainties as to the degree of resourceunderutilization that might be available for the expan-sion of output without causing an acceleration ofprice increases and an intensification of inflationaryexpectations.

Usual indicators of the utilization of resources—e.g., unemployment rates, indices of capacity utilization,and broad estimates of the gap between actual GNPand "potential" GNP (see the 1975 Annual Report,page 4)—show that the recent recession, in the indus-trial countries produced an extraordinary degree ofeconomic slack. But questions arise as to the actualextent of available slack, which is difficult to determineand might be considerably smaller than would be indi-cated on the basis of such conventional calculations.

For example, the movement of overall unemploymentrates to successively higher levels (after allowance forcyclical influences) over the past decade or so suggestsa possible trend toward structural imbalances. Part ofthe rise of unemployment in the industrial countries hasbeen associated with various long-term demographicand institutional changes, such as the increasing par-ticipation of women in the labor force; the reduction,on account of developments going back to WorldWar II, in the average age of the labor force; the sub-stantial improvement in benefits obtainable from unem-ployment insurance; and job-security arrangements insome countries that appear to have caused employersto defer hiring of workers during periods of economicuncertainty.

Similarly, effective plant capacity and the rate atwhich it is growing have probably been adversely

5

.5

07

2

.1

.8

5.5


ANNUAL REPORT, 1976

Table 2. Price Increases in Developed Countries, 1960—75

(Percentage changes in GNP deflators)

Annual Average '

Industrial countries '-

CanadaUnited States

Japan

FranceGermany, Federal Republic ofItalyUnited Kingdom

Other industrial countries2. 3

More developed primary producing countries 2

AustraliaSpainOther countries 2. 4

1960-70

3.4

3.02.7

5.1

4.33.54.44.3

4.5

4.8

2.95.85.2

1960-65

2.6

1.91.4

5.1

4.13.65.53.6

4.4

4.7

2.26.65.0

1965-70

4.2

4.14.1

5.1

4.43.43.55.0

4.5

4.9

3.65.05.4

1971

5.4

3.15.1

4.4

5.67.97.18.9

7.2

8.4

6.57.49.8

Change from Preceding Year

1972

4.8

5.04.1

4.8

6.15.96.28.0

7.3

8.2

7.68.98.1

1973

7.3

9.25.8

11.6

7.35.7

11.97.8

7.7

11.8

12.011.511.9

1974

11.8

14.310.0

20.7

11.66.8

16.212.9

9.8

16.7

17.013.918.0

1975

10.8

10.79.3

7.3

12.68.2

17.427.6

10.7

16.7

15.516.317.5

Sources: National economic reports, IMF Data Fund, and Fund staff estimates.1 Compound annual rates of change.2 Average of percentage changes for individual countries weighted by the U.S. dollar value of their GNPs at current prices in the

preceding year.;i Austria, Belgium, Denmark, Luxembourg, the Netherlands, Norway, Sweden, and Switzerland.4 Finland, Greece, Iceland, Ireland, Malta, New Zealand, Portugal, South Africa, Turkey, and Yugoslavia.

affected to some extent by various factors. For example,the sudden raising of energy prices rendered some exist-ing facilities obsolete; the severe slump in businessinvestment during the recession has curtailed growth ofcapacity; and the rising proportion of investment outlaysgeared to environmental needs may be tending to lowerthe ratio of conventionally measured output to the stockof capital. In addition, the fact that some key sectorsof manufacturing industry are operating much closer tocapacity than others heightens the possibility that emer-gence of "bottlenecks" could abort the absorption ofcurrently unused capacity.

As noted earlier, the declines of economic activity inthe industrial world during 1974 and 1975 had pro-nounced repercussions on activity in the primary pro-ducing countries. Chiefly through effects on both thevolume and prices of primary product exports, the chainof adverse developments quickly spread to production,incomes, and investment in those countries. Except forthe oil exporting group, these reactions then fed back,through downward adjustments of primary producers'imports, into the stream of decelerating forces at workin the industrial countries themselves.

The statistical picture of the current economic situa-tion is much less adequate for the primary producingcountries than for the industrial countries. However,the available figures (summarized in Table 1) serve toindicate the degree to which economic growth wasretarded in the two groups of primary producing coun-tries during the past two years. In neither the moredeveloped nor the less developed group did the average

rate of change in total output turn negative, as it didin the industrial countries. In both groups, however,significant decelerations are clearly evident in the esti-mates for 1975.

Among the more developed primary producing coun-tries, the average rate of expansion in real GNP wasabout 6 per cent in 1973, roughly the same as theaverage for the industrial countries as a group. It fellto 4 per cent in 1974 and to \Vz per cent in 1975,chiefly under the influence of the international recession.The decline from 1973 to 1975, although markedly lesssevere than that occurring in the industrial world, wasmore pronounced than the slowdown of growth in thedeveloping countries, partly because the higher percapita incomes and the generally more flexible econo-mies of the developed primary producers put them inbetter position to deal with external financing problemsof the period through downward adjustments of domes-tic demand. The closer integration of the economiesof the more developed countries with those of the indus-trial countries, especially within the European area, wasalso a factor in the larger degree of slowdown for themore developed group.

Among developing countries, the response of domes-tic economic activity to the global recession emergedwith an appreciable lag. From 1973 to 1974, the rateof expansion of total real output declined by only about1 percentage point, to 6 per cent. Growth rates forthe oil exporting countries were relatively high (about10 per cent, on average), reflecting the effects ofstepped-up domestic expenditures made possible by in-

6



creased oil revenues. In the other (non-oil) developingcountries, the volume of both domestic demand andimports maintained a high rate of increase from 1973to 1974, broadly similar to that from 1972 to 1973.For 1975, it would appear that growth rates were gen-erally well sustained in the oil exporting countries (apartfrom the drop in oil production) but fell appreciably inthe non-oil group of countries, where the volume ofimports declined by 4 per cent from that in 1974. Theaverage rate of output expansion in the non-oil develop-ing countries from 1974 to 1975—somewhat less than4 per cent—was still substantially above the corre-sponding average for either the industrial countries orthe more developed primary producing countries, but itwas small in relation to population growth and repre-sented a temporary setback to the developmental aspi-rations of many countries.

Rates of inflation in developing countries can best becompared in terms of consumer price indices, which aremuch more widely and currently available than areGNP or GDP deflators. Weighted averages of consumerprice increases in both the non-oil developing coun-tries—separately by regions—and the major oil export-ing countries are set forth for recent years in Table 3.The table shows that, after adjustment to eliminate theeffect of certain cases of hyperinflation upon the aver-ages, price inflation in the non-oil group of countriescontinued to accelerate in 1974, after the peak of realoutput expansion had been passed, but began to taperoff during 1975. On this adjusted basis, the averagerate of increase in consumer prices for the non-oil groupis estimated to have been about 18 per cent in 1975,compared with 26 per cent in 1974, 15 per cent in1973, and some 10 per cent for the period 1965-72.

Most of the decline in the inflation rate of non-oildeveloping countries from 1974 to 1975 stemmed fromdevelopments in the Asian region. There, the 1975

increase in consumer prices fell back to 10 per cent,compared with 30 per cent in 1974 and 17 per cent in1973; the 1975 figure was not very far above the pre-1973 average for Asia. The record in other regions wasless satisfactory. For 1975 as a whole, the average risein consumer prices was about the same as in 1974among African countries, and it declined very little inthe (non-oil) Middle Eastern group and in the WesternHemisphere (exclusive of Argentina and Chile).

In the major oil exporting countries, the rate ofincrease in consumer prices edged upward in 1975. Theprice record for these countries in 1974 and 1975 wasnot very different from that of non-oil developing coun-tries outside Asia.

Rates of inflation in the more developed primaryproducing countries can be gauged from the figures onGNP deflators shown in Table 2. On average, theserates continued to rise in 1974 and leveled off onlyin 1975, when they remained substantially above anyof the annual increases recorded prior to 1974. In both1974 and 1975, the level of price inflation was muchhigher in the more developed group of primary pro-ducers than in the industrial countries, as it had beenthroughout the previous decade.

Features of the Current Economic RecoveryAn almost universal factor in the current upswing

of economic activity in the industrial countries is thestimulus provided by the recovery of consumer spend-ing. This development is due in large part to a returnof consumer confidence, as manifested by declines inpersonal saving ratios in most of the major countries.The restoration of confidence stemmed broadly fromimprovements in the economic climate since the troughof the recession—particularly the deceleration of infla-tion, the gradual strengthening of the employment situa-tion, and increased liquidity of households.

Table 3. Price Increases in Developing Countries, 1965-75

(Percentage changes in consumer prices)1

Non-oil developing countries

In AfricaIn AsiaIn the Middle EastIn the Western Hemisphere

Major oil exporting countries

Annual Average1965-702

11

584

17

10


1971

10

456

16

6

1972

14

586

22

5

1973

223

91712313

11

1974

32 s

193020383

17

1975

303

191019533

18

Sources: IMF Data Fund and Fund staff estimates.1 Calculated from weighted geometric means of country indices expressed in terms of local currency. Weights are proportional to

GDP (in U.S. dollars) in 1970.2 Compound annual rates of change.3 Excluding Argentina and Chile, the figures for non-oil developing countries in the last three columns are 15 per cent, 26 per cent,

and 18 per cent, respectively; with a similar exclusion, the Western Hemisphere figures in the last three columns would be 14 per cent,25 per cent, and 24 per cent, respectively.

7


ANNUAL REPORT, 1976

The recently more confident spending of consumersfollowed two years of unusually weak growth of realconsumption. This weakness (contrasting with the typi-cally stronger behavior of private consumption in priorrecessions) was rooted in the fact that advances in wagerates—rapid as they were—did not keep pace with theaccelerated increase in consumer prices during 1974.Real earned income of households ceased to grow, andthe support given to disposable personal income byfiscal policy measures—reduced taxes and increasedgovernment transfer payments—was largely offset byhigher rates of personal saving, apparently induced inpart by caution'in the face of high rates of inflation andrising unemployment and underemployment. In realterms, consumer spending in the major industrial coun-tries in the first half of 1975 was at much the samelevel as two years earlier. The lack of support for realoutput growth from this main component of aggregatedemand was a major factor in the cutbacks of bothinventory accumulation and fixed investment that ac-counted for the downturn in aggregate real GNP of theindustrial countries during 1974 and 1975.

Inventory investment has been a very important ele-ment of recent cyclical swings in economic activity, asit was in corresponding stages of most previous cycles.The shift to liquidation of stocks in the seven majorindustrial countries, equivalent in 1975 to about 2 percent of their combined GNP, was a major depressant ofproduction and employment, while the opposite shifttoward renewed inventory accumulation provided im-portant leverage in the initial upturn through mid-1976.This source of increase in aggregate demand, however,is likely to be of considerably less importance in theperiod immediately ahead.

Real gross fixed investment (including residentialconstruction) declined sharply in each of the past twoyears. For the seven major industrial countries takentogether, this cyclically volatile component of aggregatedemand is estimated to have dropped by some 6-7 percent in 1974 and by another 8-9 per cent in 1975. How-ever, the downward plunge was arrested after the middleof 1975. A small positive change in the second half ofthe year was followed, with roughly the customary lag,by a somewhat stronger movement toward recovery inthe first half of 1976, when growth of fixed investmentwas fairly brisk in all the major industrial countriesexcept Italy and the United Kingdom. Even in thosetwo countries, the changes in the first half of 1976 con-tributed significantly to the gain in economic momen-tum, as real fixed investment had declined in bothcountries in the second half of 1975.

The latest surveys of the outlook for business fixedinvestment in some of the larger industrial countries,together with the improved prospects for general eco-nomic activity and strengthening of financial positions

of business firms, appear to foreshadow an increasinglyimportant role for private fixed investment in the cur-rent upswing. The recent strengthening of businessfinancial positions stems partly from the rebound inprofit margins because of productivity gains associatedwith the initial phase of the cyclical rise in sales andpartly from the effects of liberalized depreciation allow-ances on cash flows.

Government policies in the industrial countries duringthe recession period were directed strongly toward com-bating slack demand and unemployment. In the main,supportive measures took the form of accommodativemonetary policies and of adjustments in taxes or trans-fer programs, rather than of variations in direct gov-ernment purchases of goods and services. The sameobservation holds, generally speaking, for shifts in thedirection of fiscal restraint now being widely planned.Changes in fiscal programs are discussed later in thischapter, along with monetary and other economic policyactions.

For the industrial countries as a group, shifts in thereal balance of net exports of goods and services in1974 and 1975 were mildly countercyclical, and therewas little further change in this balance in the firsthalf of 1976. However, the faster growth of domesticdemand has induced a marked revival in internationaltrade that, in a number of industrial countries, hascontributed importantly to the momentum of recovery.

To a considerable extent, the improvement of pricetrends in the industrial countries since 1974 can beascribed to a decline in rates of increase in unit laborcosts, stemming partly from a more subdued movementof hourly earnings of employees and partly from a betterproductivity record. At the peak of the inflation, in thesecond half of 1974, hourly earnings in the manufac-turing industries of the seven major industrial countrieswere rising at an annual rate of more than 20 per cent(in terms of the respective national currencies), andoutput per man-hour was declining in the fashion typi-cal of a cyclical downturn, in which employment tendsto be much better maintained than production. Theresult was an annual rate of increase in unit labor costsaveraging about 25 per cent. In 1975, however, theaverage rate of increase in wages subsided appreciably,while output per man-hour began to increase again withthe cyclical upturn in the second half. By the first halfof 1976, the average annual rate of increase in hourlyearnings had declined to roughly 12 per cent, and strongcyclical gains in output per man-hour had reduced theannual rate of increase in manufacturing unit labor costsbelow 5 per cent for the major industrial countries as agroup. Because of the cyclical element in the recentproductivity gains, part of that reduction was doubtlesstransitory. Nevertheless, it made a contribution to theeasing of price pressures, the restoration of business

8



profit margins, and the general improvement of pros-pects for production and investment.

The slowing of consumer price increases after thefourth quarter of 1974 was, in turn, an important ele-ment in the moderation of wage demands. It reflected aflattening of food price trends as agricultural suppliescame into better balance with current demand, as wellas the developments sketched above with respect to costsand prices of manufactured goods. Another factor in theretardation of inflation was the sharp decline in nonfoodprimary commodity prices during 1975. Although theseprices rebounded rather strongly in the first half of1976, the upward pressure on production costs fromthis source remained considerably lower than beforethe downturn. Still another development that contribu-ted to the abatement of inflation during 1975 was themarked leveling off of export price indices of the indus-trial countries (discussed further below). After havingbecome an independent source of additional inflationarypressure during 1973 and 1974, these reverted duringthe course of 1975 into a more customary relationshipto domestic prices, again rising much less rapidly thanthe latter in most industrial countries.

The net result of all these decelerating influences wasan appreciable drop in rates of inflation, with the aver-age rise in GNP deflators for the industrial countries(as noted above) declining to an annual rate of about7 per cent in the first half of 1976, compared with13]/2 per cent in the second half of 1974. At mid-1976,it seemed possible that there could still be room forsome further unwinding of the inflationary processthrough the momentum of forces (such as lower de-mand pressure, improved productivity and unit laborcost positions, and more satisfactory business profitmargins) that had brought pronounced gains in priceperformance since 1974. In most of the industrialcountries, however, rates of price increase appearedto be stabilizing at extraordinarily high levels. Thereremained a danger that deceleration of productivitygains and a gradual whittling away of high unemploy-ment and excess plant capacity as the expansion pro-ceeded, together with the greater buoyancy of economicexpectations, might induce a renewed acceleration ofprice increases.

This danger seemed to be accentuated by the wayin which the cyclical recovery was developing amongcountries. For it appeared at the middle of 1976 thatthe early "lead" of the United States in the recoverywas disappearing and that, once again, economic expan-sions in the industrial countries would soon come intobroad alignment. Such a synchronization of cyclicalrecovery occurred in the period 1971—73 and contrastswith the significantly divergent timing of cyclical fluc-tuations in the industrial world during the late 1950sand the 1960s.

World Trade and Payments

International trade developments during 1975 andthe first half of 1976 were dominated by cyclical influ-ences. Until about the middle of 1975, the volume ofworld trade was declining in response to the deepeningand spreading of the international recession, and in-creases in foreign trade prices were tapering off or beingreversed under the influence of slack demand. How-ever, as economic activity in the major industrial coun-tries stabilized and then expanded again during thelatter part of 1975 and the first half of 1976, upwardmomentum was restored to world trade. Its volumerose once more, as did the prices of many internationallytraded commodities. These oscillations in internationaltrade had substantial effects on the external positionsof member countries.

Volume of TradeThe recovery of global demand occurred too late to

prevent 1975 from becoming the first calendar year ofdecline in the volume of world trade since 1958. Withimports of all major groups of countries except the oilexporting group declining noticeably in real terms, thetotal volume of world trade in 1975 was some 4Vi percent below the previous year's total. (See Table 4.)This decline in import demand was manifested in lowerexports of the industrial countries and the oil exporters,and the exports of non-oil primary producing countriesalso ceased to grow in volume.

However, the cyclical rebound of import demand inthe industrial countries, together with continuing strongadvances in imports of the major oil exporting coun-tries, is imparting renewed strength to world trade. (SeeCharts 2 and 3.) Both in the recession and in the recov-ery to date, import volume of the industrial countrieshas shown an unusual responsiveness to changes inreal GNP. Largely for this reason, the ground lost withrespect to world trade volume in 1975, as continuedexpansion the year before gave way to decline, seemslikely to be regained in 1976 even if an upturn in importdemands of the non-oil primary producing countriesshould lag behind the improvement of their export earn-ings now in process. (See Chart 4.) Both larger vol-umes and a marked firming of commodity prices sincethe second half of 1975 are currently contributing tosuch an improvement. The industrial countries and theoil suppliers are also sharing in the renewed growth ofworld markets.

Foreign Trade PricesIn the vast array of goods moving in international

trade, those whose prices typically show the widestamplitude of fluctuations in response to cyclical and

9


ANNUAL REPORT, 1976

Table 4. World Trade Summary, 1960-751

(Percentage changes in volume and in unit value of foreign trade)


World trade 3

Volume of trade

Unit value of tradein SDR terms 4

VolumeUnit value (U.S. dollar terms)

(SDR terms) 4

Imports Industrial countriesOther developed countriesMajor oil exportersOther developing countries

Exports Industrial countriesOther developed countriesMajor oil exportersOther developing countries

Imports Industrial countriesOther developed countriesMajor oil exportersOther developing countries

Exports Industrial countriesOther developed countriesMajor oil exportersOther developing countries

1960-70 2

SVi

11

9941/2

6

81/2

7%

96

1111

l!/2

1

-1

P/2

1971

65'/2

5'/2

61/2

310!/2

6V4

61/251/288

5656

54'/2

22W-3V4

1972

9!/2

871/2

111/2

3121

9111/2

71Q1/2

—1

1/2

1/2

1

4'/2

51

1973

131/22312

12V4141/223161/2

1441/2

13V214i/2

ll!/2

11

99

9V4221/227i/222!/2

1974

64038i/2

17

43Vi15

8VA.|

7

3945251/239

23i/2241/2

20633

1975

-4V481/2

71/2

-71/2-71/248W-4

-41/2—

-111/2

891/271/27

1131/23

-4

Sources: National economic reports, IMF Data Fund, and Fund staff estimates.1 For classification of countries in groupings shown here, see Table 1 (and especially footnotes 2—4).2 Compound annual rates of change.3 Fund member countries (listed in Appendix I, Table I.I) plus Switzerland. Based on approximate averages of growth rates for

world exports and world imports.4 For years prior to 1970, an imputed value of US$1.00 has been assigned to the SDR.

other temporary factors are the primary commodities.The recent behavior of market prices for such commodi-ties tends to confirm this general observation. (SeeChart 5.) In terms of U.S. dollars, these prices (exclud-ing petroleum) dropped by some 18 per cent, on aver-age, from 1974 to 1975 but began to recover in thefirst half of 1976, when they were already 5 per centabove the 1975 average and about 8 per cent abovetheir semiannual low in the second half of 1975. Interms of most other currencies, or of SDKs, the reboundin the first half of 1976 would appear stronger becauseof the depreciation of those units against the U.S. dollar.By mid-year, commodity prices expressed in SDRs weresome 23 per cent above their late 1975 level.

The drop in commodity prices in 1975 was perva-sive. Demand for metals and agricultural raw materials,being especially dependent on the level of global eco-nomic activity, began to weaken soon after the onsetof the economic slowdown in early 1974. World sup-plies of these goods, which by that time had been gen-erally adjusted to the peak demand requirements of1973, soon became excessive in relation to shrinkingdemand; and growing supply imbalances resulted insharp price reductions for these commodities through-out 1974 and most of 1975. The downward movementswere gradually arrested during 1975, however, and abroadly based firming of prices for agricultural rawmaterials was perceptible during the first half of 1976.

This firming was partly due to the fact that national orinternationally coordinated stabilization measures (e.g.,for rubber and wool), which were originally put intoeffect to stem the price erosion during the world reces-sion, remained in effect during the early months of1976. The market for metals, on the other hand, hasrecently been going through a period of adjustmentassociated with the running down of stocks, which hadbeen built to unusually high levels during the recession.

With respect to food products, large variations inannual supplies often play a more prominent role inshort-term price formation than do cyclical influences.This was notably true in 1974, when supply shortagesfor a number of important products kept food priceshigh and rising for several quarters after the downturnin prices of raw materials. During 1975, however, therecession-induced weakness of demand, combined withlarger food crops stimulated in part by the high pricesof 1974, brought sharp declines in food prices. Forsome major foodstuffs, this movement was interruptedabout mid-1975, when substantial purchases of grainsby the U.S.S.R. confirmed the existence of a supplydeficiency in that country, and when a severe frost inBrazil significantly reduced the medium-term outlookfor coffee supplies. Nevertheless, the food price indexas a whole was lower in the second half of 1975 thanin the first; and it may be expected, after a bulge in thefirst half of 1976, to reflect the downward pressure of

10

2

2

2



Chart 2. Industrial Countries: Changes in ImportVolume and Export Prices, 1974-March 1976(Quarter-to-quarter movements, in per cent)l

1 Seasonally adjusted, actual rates.

more ample supplies of foods that were in relativelyshort supply during the 1975/76 marketing year. Withthe food category representing nearly half the total, sucha development would exert a decelerating influence onthe overall index of primary commodity prices.

Aside from the recent swings in commodity pricesand a moderate increase in the price of oil in the fourthquarter of 1975, movements of foreign trade pricesduring most of 1975 and 1976 to date have beenrelatively small. Indeed, by comparison with thesharp increases of the pre-recession period, the flatten-ing of foreign trade price trends during 1975 and thefirst half of 1976 was a striking development.

The deceleration of price increases in the industrialcountries since the end of 1974 has been more pro-nounced for exports than for domestic output in gen-eral. From the first quarter of 1975 to the first quarter

of 1976, unit values of exports from the industrialcountries rose only moderately in terms of either localcurrencies or SDRs and declined considerably in termsof the U.S. dollar, reflecting the appreciation of thatcurrency since early 1975. (See Chart 2.) There wassubstantial diversity among countries, however, in thelocal-currency movements of export prices, ranging froma decline of about 10 per cent for Japan to an increaseof almost 20 per cent for the United Kingdom.

The slackening or (in terms of U.S. dollars) reversalof export price increases in the industrial countries isattributable mainly to the impact of recessionarydemand conditions. For many types of manufacturedgoods, competitive pressures tend to be sharper ininternational markets than in the domestic markets ofsome of the producing countries, and export pricesappear to have been more sensitive than domestic pricesto the general sag in demand during 1975. Althougha continuing slack in global demand conditions is to beexpected during 1976, recovery is now proceedingbriskly, and some renewed upward movement of exportprices is already evident. In terms of domestic-currency unit values, the rate of increase in the firsthalf of 1976 was high in relation to the virtual stabilityof foreign trade prices from about the mid-1950sthrough the decade of the 1960s; but it portrayed a

Chart 3. Major Oil Exporters: Changes in Trade withIndustrial Countries, First Half 1974-First Half 1976(Semiannual percentage changes in trade values, expressed inU.S. dollars)

11


ANNUAL REPORT, 1976

situation in which international market forces were nolonger contributing importantly to world-wide inflation,as they did so powerfully in 1973 and, especially, in1974.

The easing of inflation as manifested in export pricesof the industrial countries since early 1975 is permittingsome improvement in the terms of trade of the non-oil primary producing countries after two years ofdeterioration. That deterioration was particularly severe

Chart 4. Non-Oil Primary Producing Countries:Changes in Trade with Industrial Countries, First Half1974-First Half 1976(Semiannual percentage changes in trade values, expressed inU.S. dollars)

Chart 5. Indices of Prices of Commodities Exportedby Primary Producing Countries, 1971^June 1976

(Expressed in U.S. dollars; 1968-70 = 100)

in 1975 for the non-oil developing countries, whose ownexport prices declined while their import prices in-creased markedly. (See Tables 4 and 5.) For thenon-oil primary producing countries as a group, theupswing in commodity prices in the first half of 1976outpaced the change in import prices.

Current Account BalancesThe changes in world trade discussed above have

been instrumental in generating a number of shifts inthe global pattern of balance of payments surpluses anddeficits on current account. From 1974 to 1975, the

Table 5. Terms of Trade Developments, 1960-751

(Percentage changes)


Primary producing countriesMore developed countriesMajor oil exportersNon-oil developing countries

1960-70 2

1/2

1/2

— 2

1/2

Change from

1970

1/2

— 1— 2— 1

1971

-1/2

-11/2

179

1972

1/2

31/2

51/2

Preceding Year

1973

-2

1017

61/2

1974

— 11

-14144-41/2

1975

3

-6— 4

-10

Sources: National economic reports, IMF Data Fund, and Fund staff estimates.1 For classification of countries in groupings shown here, see Table 1 (and especially footnotes 2-4).2 Compound annual rates of change.

12

anmnal Aveer



largest change for any major group of countries was adecline of more than $30 billion—from $67 billion to$35 billion—in the combined current account surplusof the oil exporting countries. (See Table 6.) Thischange had as its principal counterpart a sharp swingfrom deficit to surplus in the current account balanceof the industrial countries. As the latter swing was byno means evenly distributed among individual countries,the pattern of balances within the industrial group wasaltered considerably. (See Table 7.) Both the more

developed and the less developed (non-oil) primaryproducing countries remained heavily in deficit on cur-rent account in 1975, and the deficit of the less devel-oped group was substantially larger in 1975 than in1974.

Incomplete data and Fund staff estimates suggest thatsome of the principal shifts in the pattern of currentaccount balances in 1975 are being partly reversed in1976. (See Table 8.) A substantial decline in thecurrent account surplus of the industrial countries is

Table 6. Global Balance of Payments Summary, 1973-75(In billions of U.S. dollars)

Industrial countries 3

Major oil exporters 3

Other primary producing countries 3

More developed areas

Less developed areas

In Africa

In Asia

In the Middle East

In the Western Hemisphere

Total, all countries r>

197319741975

197319741975

197319741975

197319741975

197319741975

197319741975

197319741975

197319741975

197319741975

197319741975

Trade

12.2-10.5

20.9

18.882.350.8

— 11.4— 41.4— 48.0

-4.8-19.1-18.9

-6.6-22.4-29.1

0.70.5

-2.4

-2.8-9.7

-10.6

-4.3— 5.9-7.7

-0.2-7.3-8.5

19.630.423.7

Balance on

Servicesand private

transfers

-0.30.9

-1.4

-12.6-15.6-15.8

2.7— 1.5-3.3

6.14.84.6

-3.5-6.3-7.9

-2.3-2.9-2.6

0.80.61.0

2.31.91.7

-4.2-5.8-7.9

— 10.2-16.2-20.5

Currentaccount

11.8-9.6

19.4

6.266.735.0

-8.7— 42.9-51.3

1.3-14.3-14.3

-10.0-28.6-37.0

-1.6— 2.4— 5.0

-2.0-9.1— 9.5

-2.0-4.0-6.0

-4.4-13.2-16.5

9.314.23.1

CapitalAccountBalance l

-13.2*-5.3*

— 19.64

-1.9-23.7— 15.0

19.039.543.1

1.09.5

10.3

18.030.032.8

2.02.54.0

4.610.410.1

3.24.04.4

8.313.014.4

3.910.58.5

Change inLiabilitiesto Foreign

OfficialAgencies 2

5.818.44.2_0.10.1

0.11.65.1

-0.10.41.7

0.21.33.4

0.10.30.5

0.90.7

0.10.11.5——0.6

5.920.0

9.4

BalanceFinanced by

Transactions inReserve Assets

4.33.44.1

4.343.020.0

10.4-1.9-3.1

2.3-4.4-2.3

8.12.5

-0.8

0.50.4

-0.5

2.62.21.3

1.10.1

-0.1

3.8-0.1— 1.5

19.044.621.0

Sources: Data reported to the International Monetary Fund and Fund staff estimates.1 This balance is computed residually as the difference between the balance financed by transactions 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 asreported capital movements, government transfers, and gold monetization. (See also footnote 2.)

2 The concept of "liabilities to foreign official agencies" used in this table encompasses use of Fund credit and short-term balanceof payments financing transactions in which the liabilities of the borrowing country are presumably treated as reserve assets by thecreditor country. See also footnote 4 in the text.

3 For classification of countries shown here, see Table 1 (and especially footnotes 2-4).4 See footnote 5.5 Global balance of payments aggregations inevitably contain many asymmetries arising from discrepancies of coverage or classi-

fication, timing, and valuation in the recording of individual transactions by the countries involved. A major area of asymmetricalclassification during recent years concerns the recording of official claims placed in Euro-currency markets. These transactions,although treated as changes in reserve assets by the investing countries, are recorded as capital inflows by the recipient industrialcountries. Had such transactions been recorded symmetrically, the global summations would show both a larger net capital outflowand a larger aggregate change in liabilities to foreign official agencies. If identified Euro-currency reserve placements (shown in termsof SDRs in Table 13 of this Report) are excluded from the recorded net capital account balances of the industrial countries, theiradjusted net capital outflows amount to $21.2 billion, $23.9 billion, and $26.2 billion over the years 1973, 1974, and 1975, respectively.

13

3

6

86

832

5

9

7

33

33

65

9

4

8

5

1

1

630

20

1

4


ANNUAL REPORT, 1976

Table 7. Industrial Countries*. R-ji-i.wKt


oil conservation. The renewed strength of worlddemand for oil during the latter part of 1975 andearly 1976 is the overriding element in the prospectiveincrease of the oil exporters' current account surplusin 1976. (See Chart 3.) However, with their importsof goods and services still rising at an unusually fastrate, this increase seems likely to be rather moderate.

To a large extent, the shifts in the accounts of theoil exporters from 1974 to 1976 are reflected in thecurrent account balance of the industrial countries asa group. A major part of the positive swing in theindustrial countries' current account balance from 1974to 1975 stemmed from two factors: (a) the predomi-nance of those countries as suppliers of goods andservices imported by the oil exporters group and (b)the cyclical downturn in the industrial countries' importsof oil. The renewed upsurge of oil imports by the indus-trial countries since about the middle of 1975 is con-tributing to the drop in their combined current accountsurplus that is occurring in 1976. The swings in bothdirections have also reflected, of course, the stagnationor decline and subsequent recovery of imports from thenon-oil primary producing countries.

For the less developed group of non-oil primary pro-ducing countries, the $37 billion current account deficitregistered in 1975 (Table 8) represented the culmina-tion of adverse developments over a two-year period.Cessation of growth in export volume and deteriorationin the terms of trade were superimposed on a 1974current account deficit already enlarged by sharpincreases in the costs of oil and other imports at a timeof cyclical slowdown in the growth of export volume.However, a partial reversal of the 1974-75 increase inthe current account deficit of the non-oil developingcountries seemed to be under way in the first half of1976. Export volume was rising rather strongly, andthe terms of trade were improving. If these tendenciescontinue in the second half of the year, they will resultin a decline of perhaps $5 billion in the group's currentaccount deficit. A decline of similar magnitude, forbroadly similar reasons, would also appear to be inprospect for the more developed primary producingcountries in 1976.

Among the industrial countries, the United States,where cyclical influences on the trade balance have beenstrong, accounted for a somewhat disproportionateshare of both the upward swing in the aggregate currentaccount balance in 1975 and the downward swingoccurring in 1976. Other industrial countries wherecyclical factors contributed importantly to positiveswings in 1975 included Japan, Italy, France, and theUnited Kingdom. In most cases, however, reversals ofthe cyclical elements in the 1975 position did not appearto be as far advanced by mid-1976 as in the UnitedStates.

For the Federal Republic of Germany, Canada, andthe smaller industrial countries taken together, the influ-ence of cyclical factors on current account balances wasnegative in 1975, absorbing part of the opposite cyclicalmovements in the accounts of the major industrial coun-tries mentioned in the preceding paragraph. Withrespect to Canada and the majority of the seven smallerindustrial countries, the effects of the recession on theirexport markets appear to have been appreciablystronger in 1975 than the impact of a slower pace ofdomestic economic activity on their demands for im-ports. This situation, however, is being reversed in1976. For the Federal Republic of Germany, the nega-

Table 8. Summary of Payments Balances on CurrentAccount1 2

(In billions of U.S. dollars)

19761973 1974 1975 (Projection)«

Major oil exporters


Non-oil primary producingcountries

More developedLess developed

Total4

6

12

1-10

9

67

— 10

-14-29

14

35

19

— 14-37

3

40

3

-10-32

—

Sources: Data reported to the International Monetary Fundand Fund staff estimates.

1 Goods, services, and private transfers.2 For classification of countries in groups shown here, see

Table 1 (and especially footnotes 2-4).3 The 1976 projections are subject to considerable uncertainty

and should be viewed as rough orders of magnitude.4 Reflects balances of countries covered here with nonreport-

ing countries, plus (quantitatively more important) statisticalerrors and asymmetries.

live character of net cyclical influences in 1975 stemmedfrom somewhat different causes. It reflected primarilythe relatively high sensitivity of the country's exports2 todemand conditions in foreign markets; but the fact thatdomestic demand held up better in the Federal Republicof Germany than in most of its trading partners was anadditional factor tending, through the support of im-ports, to hold down the current account surplus in 1975.This surplus was well maintained in the first half of1976 despite rapid domestic recovery that, by itself,could have a considerable negative effect.

Capital Flows, Reserve Changes, andExchange Rate Movements

In 1975, the only major industrial country recordingboth a current account surplus and net capital inflowswas France (Table 7). This combination of external

2 Because of the preponderance of capital and other durablegoods, together with intermediate industrial products, such assteel and chemicals, in their composition.

15


ANNUAL REPORT, 1976

transactions resulted in both a substantial accumulationof reserve assets (some $4 billion) and a 10 per centappreciation of the effective exchange rate 3 for theFrench franc. The strength of France's external finan-cial position faded somewhat after about the middle of1975, however, and the first half of 1976 was markedby a weaker current account, reduction of reserve assetholdings, France's departure from the European com-mon margins arrangement, and a 2 per cent semiannualdecline in the effective exchange rate. The paymentsbalances of the smaller industrial countries displayedconsiderable diversity. As a group, however, they alsohad a current account surplus accompanied by a netinflow of capital in 1975; and here, too, both reservegains (totaling more than $4]/4 billion for the group)and appreciation of effective exchange rates resulted.The combined current account surplus of this groupappears to be rising further in 1976, and effectiveexchange rates in all the countries appreciated in thefirst half of the year.

At the opposite end of the spectrum of internationalpayments positions in 1975 were Italy and the UnitedKingdom. Italy's current account surplus of about $1billion, attributable largely to cyclical conditions, wasgreatly exceeded by the net outflow of capital. A reduc-tion of reserve assets and further reserve-related officialborrowing, together approximating $2l/2 billion, ab-sorbed most of the resultant pressure during 1975, andthe effective exchange rate for the Italian lira wasvirtually flat throughout the year at a level about 4 percent below its 1974 average. In early 1976, however,despite further official borrowing of $2 billion, theweakness of the current account position, the intensi-fication of domestic inflation (already higher during1975 than in most other industrial countries), andpolitical uncertainties combined to produce a sharpplunge in the exchange rate. In effective terms, itsdepreciation from the second half of 1975 to the firsthalf of 1976 amounted to about 16 per cent.

The external position of the United Kingdom in 1975included a current account deficit ($3 billion) togetherwith a capital inflow amounting to almost $3 billionthat was in large part a reflection of official or officiallyencouraged external borrowing. Interest rates in theUnited Kingdom, although considerably above those inother major national credit markets, did not exceed thelatter rates by anything like so wide a margin as thethen prevailing differential in inflation rates betweenthe United Kingdom and other major industrial coun-tries. In these circumstances, both a $l!/i billion liqui-dation of reserve assets and a 7 V2 per cent depreciation

3 Estimates of effective exchange rates mentioned in thischapter are based on calculations utilizing the weighting systemimplicit in the Fund staff's multilateral exchange rate model.See Chapter 2 for discussion of alternative measures of changesin effective exchange rates.

of the effective exchange rate for the pound sterlingcontributed to absorption during 1975 of the pressuresresulting from the excess of the current account deficitover capital inflows. In March 1976, however, marketpressures intensified, bringing a sharp decline in theeffective exchange rate for sterling despite consid-erable intervention to moderate this movement. Therate, which depreciated by 11 per cent from earlyMarch to late June, stabilized only after announce-ment of a massive international support facility, as notedin Chapter 2.

For the United States, the Federal Republic of Ger-many, and Canada, current account balances in 1975were rather closely matched by compensating capitalflows; for Japan, the deficit on current account was notlarge enough to give rise to heavy and sustainedexchange market pressures, even though it was accom-panied by a small net outflow of capital. None of thesefour countries increased or reduced its reserve assetsvery substantially during 1975, and only the UnitedStates showed any sizable increase in its liabilities toforeign official agencies (chiefly through placement ofreserve holdings by the oil exporting countries). Forall the countries, changes in effective exchange ratesfrom 1974 to 1975 were rather moderate. The largestof these changes was a 4 per cent depreciation of theCanadian dollar, but this was concentrated in the firsthalf of the year and was reversed by early 1976.Canada's large current account deficit throughout 1975and the first half of 1976 was virtually offset by anincreased net capital inflow, partly in reflection of inter-est rates substantially higher than relevant rates abroad.

The currencies of Japan, the Federal Republic ofGermany, and the United States also appreciated ineffective terms in the first half of 1976. These move-ments, mainly in reflection of the steep declines in theexchange rates for the pound sterling and the Italianlira, are discussed in more detail, along with relatedchanges in exchange reserves and official interventionpolicies, in Chapter 2. A key point in the presentcontext, however, is that the Federal Republic of Ger-many, Japan, and the United States were also the prin-cipal gainers of reserve assets among the industrialcountries in the first half of 1976. With their currenciesfloating relatively freely (apart from the Federal Repub-lic of Germany's participation in the European commonmargins arrangement), all three of these large coun-tries absorbed part of the "favorable" pressure of exter-nal transactions on their balance of payments positionsthrough effective exchange rate appreciation and partthrough acquisition of reserves. Their reserve gainswere in considerable measure the direct counterpart ofofficial borrowing by the United Kingdom and Italy,and doubtless reflected also the French use of reservesduring the early part of 1976.

16



Policies in the Industrial Countries

In this section, the current setting for economic policyin the industrial countries is first described very briefly.Then, against this background, there follows a discus-sion of how policies are being adapted, and might beadapted over the medium term, to meet the issues con-fronting national authorities.

Economic SettingSalient features of the economic situation in the indus-

trial countries may be outlined, for the most part,through a recapitulation of various points that werebrought out in the first two sections of this chapter.

—It now seems apparent, at the middle of 1976, thateconomic recovery in the industrial world has beenlaunched on a broad and satisfactory scale. Althoughjudgment cannot be at all certain, indications are thatthe automatically stabilizing features of modern fiscalsystems, an easing of fiscal and monetary policies, ashift from inventory liquidation to accumulation, anda drop in rates of consumer saving have combined tobring about an economic upturn that will be bolstered inthe period ahead by a gathering strength of businessfixed investment.

—The recovery that is now under way in the indus-trial countries is accompanied by rates of price inflation,averaging about 7 per cent (annual rate) in the firsthalf of 1976, that are very high by past standards. Overthe decade of the 1960s, for example, the industrialcountries as a group experienced price increases averag-ing 3V2 per cent a year, and for the first half of thedecade the corresponding average was only 2V2 percent. There was a considerable disparity in rates ofprice increase among the industrial countries in thefirst half of 1976, but in almost all of these countriesthe current level of price inflation is much too high tobe considered acceptable by the authorities.

—A similar generalization applies to unemployment.Immediately, therefore, a disturbing consideration arises—namely, that past experience indicates clearly thatpolicies aimed at expanding demand and reducing un-employment will incur the risk of causing an accelera-tion of price increases and an intensification of infla-tionary expectations.

—It might be thought that the importance of thisrisk, now and for some period ahead, could be dis-counted on the grounds that the 1974-75 internationalrecession produced an extraordinary degree of economicslack. Yet, the actual extent of available slack is diffi-cult to determine and, for reasons mentioned earlier inthis chapter, might be considerably smaller than wouldbe indicated by conventional measures of the utilizationof resources. Actually, in any assessment of the com-plex forces responsible for the determination of prices

in the current inflationary environment, it is difficult inany event to judge how much weight should be assignedto the degree of effective economic slack (howeverdetermined) as against the rate at which slack isabsorbed. Given the imponderables, the fact that priceincreases are currently at such a high level, and that theymight soon be tending even higher, must be regardedas a very serious problem for policy.

—The seriousness of this problem is underlined bythe likelihood that the cyclical expansions of real GNPin the various industrial countries seem to be movinginto close alignment. Such a synchronization, it maybe feared, could lead to a considerably greater upsurgeof activity and prices, especially primary commodityprices, than is now envisaged on the basis of admittedlylimited knowledge about the interaction of nationaleconomies in this type of process. Much of the fear onthis score undoubtedly derives from unexpectedlyadverse experience in the 1971—73 cyclical phase.

—Despite the shocks that have affected their currentaccount balances in recent years, most of the industrialcountries have avoided serious balance of paymentsdifficulties, in part because the existence of floatingexchange rates has increased the flexibility of adjust-ment. In Italy and the United Kingdom, however,recurrent weakness in the current account was com-pounded early in 1976 by pressures in the capitalaccount. Economic and financial policies in those twocountries, where inflation rates are the highest in theindustrial world, are now giving particular emphasisto a strengthening of the external position.

Adaptations of Policy

It is reassuring that in many of the industrial coun-tries current rates of monetary expansion are lowerthan those during the comparable phase of the 1971-73cycle in real terms, that is, after allowance for theprevailing higher levels of price increase. More gener-ally, national authorities are very apprehensive aboutthe possibility of another runaway boom, which remainsa vivid memory.

Also, as brought out in recent consultations with theFund, most of the industrial countries are alreadymoving in the direction of monetary and fiscalrestraint, albeit rather modestly. The United Statesand the Federal Republic of Germany have somewhatlowered their monetary targets for the year ahead; inthe industrial countries that do not formulate theirmonetary policies in terms of such targets, currentplans are rather varied but, on the whole, envisagesome tightening of monetary and credit policies and arise in interest rates. (As shown in Chart 6, short-terminterest rates in major industrial countries firmedsomewhat during the first half of 1976.) On the fiscal

17


ANNUAL REPORT, 1976

side, Fund staff calculations of fiscal balances on acyclically adjusted basis indicate that the major indus-trial countries are planning a modest withdrawal orlittle change in the degree of fiscal stimulus from 1975to 1976.

Despite the move toward restraint now envisaged,current rates of monetary expansion are still in doubledigits in most of the industrial countries, and will needto be reduced considerably if a return to reasonableprice stability is to be achieved in the next few years.Further, the amounts of fiscal stimulus—as distinctfrom the change in such stimulus—being planned for1976 are generally still sizable, and budget deficitsremain very large in a number of countries.

In the difficult and uncertain situation confronting theauthorities of industrial countries, attention obviouslymust be given to both inflation and unemployment.Nevertheless, recent experience indicates that, unless

Chart 6. Major Industrial Countries: Selected Short-Term Interest Rates, January 1974-June 19761

(In per cent)

1 All series are monthly averages of daily rates except forItaly where average

new international monetary fund annual report 1976 · 2013. 11. 13. · essential for the purpose...

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