THE POLITICAL ECONOMY OF INTERNATIONAL LENDING

The outstanding level of external debt of non-oil developing countries raises problems of collective action on the part of lenders. To begin with, there is the issue ofthe appropriate action to ensure the stability of the international banking system. For that we argue that the Federal Reserve System must be ready to extend the lender-of-last-resort service to all banks, domestic and non-domestic, trans-acting in U.S. dollars. But even without immediate danger of a global dollar liquidity crisis, what is the optimal response of lenders as a group? The international banking system can be likened to a club whose cohesiveness depends on one or a few members having the dominant share of benefits and costs, The United States remains the leader of this club,which faces three challenges: moral hazard, adverse selection, and free-riding. The existence of these problems gives lenders incentives to take collective action. A significant part of the outstanding international debt should be classified as bad loans, for it is unlikely that dollar real interest rates will return to the low levels of the 1970s. On the other hand, since 1980 these real rates of interest have been unusually high and have prompted undue pessimism about the capacity ofborrowers to repay their debts. International bankers will find itin their own self-interest to lend new funds to some debtor countries to ensure that they can ride out the period of unusually high real interest rates. Finally, within each lending country the interests of different groups—banks, government agencies, and taxpayers—diverge on ho