by Michael Mercadante

Created on: April 23, 2009

In the 1970's and 1980's, an unfortunate chain reaction struck many third world nations, as an oil crisis led to disastrous debt crises, which suffocated their economic development.
As the price of oil shot up in the 1970's, many third world nations were forced to borrow money from the banks of developed nations just to maintain the levels of oil needed to keep their industrial sectors operating. But the money went just to maintaining the status quo, keeping everything from shutting down or stalling out. Nothing was spent on building new industry, to make new money.

In addition, these nations cut back on import goods, in the same way a person who suddenly gets a pay cut usually reduces the amount of consumer goods they purchase. When it came time to start paying on these loans, the money that normally could be used for import goods or infrastructure development (either of which improves the standard of living for the nation's citizenry), went instead into the coffers of the developed nations, adding to their wealth.

As an analogy, consider a full-time worker with a store credit card. This card was used to buy compact discs the worker could not afford, but which neither substantially improved his standard of living nor provided a means to increase earning capacity. As the debt comes due, it is added on top of his regular, ongoing cost-of-living expenses, which means it comes from his free spending money. Given interest costs and inevitable late fees, he ends up paying considerably more back than he originally borrowed. This means that, although his earning potential has remained constant, his cost-of-living expenses have increased, and his long-term standard of living ultimately suffers.
This is what happened with these third world nations who entered into debt following the oil crisis. In his book Promises Not Kept, author John Isbister relates that, between 1985 and 1987, "Nigeria's per capita income fell by more than half, from $800 to $380" (p. 182). Why? Part of the reason is how a nation manages to pay back its debt. In order to increase income to have money to pay the debt, a nation can alter is trade ratio, so that it is exporting (selling) more than it is importing (buying). In our analogy above, our worker could sell some of his CD's instead of buying more, giving him extra cash to pay off the credit card bill. But he is only one person. In the model of a nation, it is the citizenry that is consuming import goods, and so the government would need to suppress the purchasing power of its citizenry. A dramatic income loss effectively manages this. As people become poorer, they stop buying as many goods altogether, import or otherwise, and the government achieves a favorable trade balance at a terrible price, sending more and more of its people into abject poverty.
As the nations of the third world borrowed money just to maintain their industrial infrastructure during the oil crisis, they created a disastrous debt crisis which became severely detrimental to the citizens of their nations, leading to a systemic stalling of their economic development. As they became poorer, their money funneled into the developed nations, making them wealthier, creating a persistently widening economic gap.

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