While we all should applaud the turn of Eastern Europe, and the embryonic turn of the Soviet Union, to more democratic and market-oriented societies, we must ask where the funds are to come from to finance this transformation.
Only one country, East Germany, will have good access to funds. This is because West Germany stands ready to provide the credit. West Germany is financially strong. Its financial institutions are well capitalized, and its business corporations are generally highly liquid.
Moreover, the risks of providing funds to East Germany are limited. The economic and financial integration of the two countries will be followed by political unity. Thus, East Germany will become part of the business and financial structure of the West. This is an important singular difference from the other Eastern European countries, especially from a financing perspective.
To be sure, all this will not come cheap. Rebuilding East Germany will add to financing demands on the Federal Republic. German interest rates will be increased in order to quell inflationary pressures. But while its cost will rise, credit will be available.
No other country in the East is in such a fortunate position. With the exception of Romania, all still have large external debts to both Western governments and private bank creditors. These amount to about $50 billion for the Soviet Union, $40 billion for Poland, $20 billion for Hungary, $18 billion for Yugoslavia, $10 billion for Bulgaria and $6 billion for Czechoslovakia. To service this debt, all will need to generate either a trade surplus, borrow additional funds or have foreigners make substantial equity investments.
Where are these funds to come from? Some corporations are likely to be attracted to the new market potential in Eastern Europe. They will therefore use their own credit strength to put in place some factories, products and services with the expectation that in the long run they will be able to repatriate earnings. A few, such as Pepsi, will take vodka or something else in exchange.
These corporate investments will be modestly helpful, but no more. The political uncertainties that are bound to prevail during the transition to a decentralized economic system will deter larger-scale investment. Thus, corporate funds cannot be expected to overcome the heavy burden of a weak infrastructure and a decaying industrial plant and can hardly lift the Eastern European countries to an internationally competitive position.
Another traditional source of funds might be the large international commercial banks, but here, too, access is likely to be very limited. Besides the substantial indebtedness already owed by the Eastern European countries, recent experience with international lending generally has been very disappointing. Western European banks have already written off many of their loans to less-developed countries, and American banks are still provisioning for them. In addition, all major banks are now required to maintain tougher capital ratios than a few years ago when international lending to developing countries was flourishing, and their loan portfolios relative to their assets are extremely high historically.
The currently high level of interest rates globally also militates against the Eastern Europeans gaining access to private institutional funds. Even the most credit-worthy borrowers in the industrial countries are borrowing at near record inflation-adjusted interest rates, ranging from 3 percent in Japan to over 7 percent in Canada. The Eastern European countries and the Soviet Union would not be viewed by the marketplace as prime borrowers and thus would have to pay stiffer rates to gain access to funds on commercial terms. But high interest rates increase the debt burdens, a very serious consideration for marginal borrowers.
The only viable alternative, therefore, is the provision of sizable official financing from the major industrial countries. A Marshall Plan of the type that reinvigorated Western Europe after World War II might be in order. The United States, however, is not in a position to spearhead such an effort. Immediately after the war, the United States towered over all other nations in all major respects -- military, politically and economically. Our financial institutions were strong and highly liquid, and our corporations had the capacity to expand. Moreover, the aid provided by the United States went to countries with an embedded history of economic decentralization. The situation is far different today.
Given today's realities, an alternative version might be a consortium of major industrial countries that would provide grants, aid and soft loans to the countries in the East. Such an initiative would clearly put the issue in the correct light -- namely, that meeting Eastern Europe's financing needs is a political priority and not a matter that can be left to a standard market determination of risk and reward.
But no one is seriously talking about an official funding program anywhere near the size of the Marshall Plan. That effort was huge; measured in current (1990) dollars, it amounted to more than $125 billion. Some claim an ambitious aid package today for Eastern Europe would be more in the neighborhood of $50 billion. Yet, governments in the West are not clamoring to fund such a consortium.
The U.S. government has a huge budget deficit. The United Kingdom is in a period of tight money. Japan will most likely go slow until it has settled its dispute with the Soviet Union over the Northern Islands. While Germany has its first allegiance to financing East Germany, it nevertheless is urging financial aid for Eastern Europe, especially for the Soviet Union. In part, this reflects the German effort to win support from the Soviet Union for political unification of Germany.
The recent creation of the European Development Bank is a very modest step in the right direction. It is an official institution widely supported. But it will lend money, not give grants.
On balance, it seems that the West, in dealing with the assistance to the Eastern European countries, will be long on advice, technical help and moral support, but rather short on cash.
The writer is president of Henry Kaufman & Co., Inc., a money management and financial consulting firm.