The Council of Economic Advisers said yesterday that confidence in the Third World debtor nations has been shaken by a flight of capital seeking safer haven elsewhere, and implied that these nations would benefit more from applying growth-oriented, free-market principles than from new loan money.
However, the council acknowledged that additional commercial bank-lending will be needed "over the next few years" for countries following "appropriate policies."
There was a brief, and approving, mention of Treasury Secretary James A. Baker III's initiative on debt, which calls for more loans by the multilateral development banks and commercial banks over the next three years, pegged to changed policies by 15 major debtor countries.
But at another point in the CEA narrative, Chairman Beryl W. Sprinkel and member Thomas Gale Moore said that "in the final analysis, successful growth and development [among the debtor nations] do not depend only or primarily on government policies. They depend on the effort, investment, ingenuity, and entrepreneurship of the citizens of a country."
On other international financial issues, the report:
*Reiterated Sprinkel's long-held view that intervention in foreign exchange markets "is not an appropriate long-range strategy to resolve external balances," noting that this was recognized by the Group of Five industrial nations when it agreed in September to intervene to lower the dollar.
*Predicted a continued net inflow of foreign capital into the United States, because savings would continue to outpace investment in Japan and Europe, while falling below investment needs here.
*Rejected the notion that the United States is slipping into a debtor status comparable to that of less-developed countries (LDCs)such as Brazil and Mexico, stating that "there is little similarity between the positions of LDC debtors and that of the United States."
The CEA's discussion of Third World debt noted that not only foreign investors, but citizens of some of the middle-income debtor countries had become dubious about the ability of the countries to pay the interest on huge loans by commercial banks. Where possible, they have been shipping money out of their countries.
"If domestic residents cannot be persuaded to keep their capital at home and return some that they have moved abroad, there is little hope that foreign investors can be induced to fill the gap for very long," the CEA said in its annual report to Congress.
The CEA report said that "the key requirement" for solving the debt crisis is the adoption of economic policies that support growth and adjustment, and that assure foreign and domestic investors of a fair return on their capital.
They defended the International Monetary Fund against frequently made charges that the lending institution's requirements for belt-tightening as a condition for loans had pushed some of the debtor nations into recession. The report said that the situation might have proved even "more painful" without the IMF's assistance.
"It is certainly true that several countries that adopted economic policies recommended by the IMF suffered severe recessions in the 1980s," the report said. "It is far less clear that these policies were primarily responsible for the severity of these recessions or that, under the circumstances, there was any real alternative to adopting some of these policies."
The report cited a generally favorable economic performance in the Third World between 1955 and 1984, despite a doubling of population, which it said showed that fears that population growth would be accompanied by an increase in "human misery" were unfounded. Instead, the report said there had been rising living standards, longer life expectancy, and social progress in this period.