Plagued by political corruption, the recent economic performance of Paraguay has been dismal. For the first time since the transition to democracy began in 1989, the government of President Duarte Frutos is now laying the basis for improved governance and sustainable development.
The incoming government of President Duarte Frutos is making great strides in improving the governance of Paraguay by focussing on the central challenge of combating endemic corruption. Gains are already emerging in the areas of improved tax collection, transparent tendering for government expenditure and reform of the judiciary at the highest level. The government is also embarking on a progressive fiscal reform with the first-ever introduction of personal income tax and rural land tax. Three priority areas of governance will still need to be addressed: civil service reform, poverty reduction and, most difficult of all, land reform. In order to lay the basis for sustainable development over the long term the government will also need to encourage an industrialisation process through the domestic utilisation of its enormous hydro energy resources.
Paraguay is one of the most underdeveloped and least industrialised countries in Latin America, with a per capita income of only US$1,100 (2003). During the thirty-five year dictatorship of President Alfredo Stroessner (1954-89) the country became a byword in Latin America for corruption, smuggling and the gross violation of human rights. When the transition to democracy began with his overthrow in 1989, indicators of access to primary health care and basic education were among the lowest in the Americas. Despite the promulgation of a new democratic constitution in 1992 and the introduction of free elections, the legacy of the past has weighed heavily against efforts for improved governance. Under a succession of venal and inept presidencies –Andrés Rodríguez (1989-93), Juan Carlos Wasmosy (1993-98) and Luís González Macchi (1999-2003)– corruption escalated, earning Paraguay the 129th place out of 133 countries on the 2003 Corruption Perception Index of Transparency International. Powerful elite groups that had emerged during the dictatorship jostled to retain their power in the new democratic environment, often through the buying of congressional votes. Three bouts of military instability (in April 1996, March 1999 and May 2000) provided additional obstacles to reform efforts. As ill-gotten fortunes were rapidly amassed through the narcotics trade, counterfeiting and the flagrant misuse of foreign aid inflows, the indices of inequality of income and of rural landholding worsened –becoming the third most unequal in Latin America by the end of the decade, after Brazil and Guatemala (according to the World Bank)–.
Meanwhile, economic growth was stagnant from 1996, with GDP contracting by an annual average of 0.3% between 1998 and 2002, while GDP per head measured at purchasing power parity contracted by an annual average of 1.2% over the same period (Economist Intelligence Unit). Once a ‘haven of peace and tranquillity’ under Stroessner, violent crime emerged from the mid-1990s as open unemployment doubled from 5.7% in 1998 to 10.8% in 2002 (idem). Growing resentment at the failure of the ‘transition’ to deliver improvements in living standards was evidenced in annual public opinion surveys carried out by Latinobarómetro, in which Paraguayans consistently expressed the lowest commitment to democracy in Latin America. It was also reflected in widespread support for former army chief Lino Oviedo, an autocratic demagogue who founded his own party, Partido Unión de Ciudadanos Éticos (PUNACE), from exile in 2002.
In this bleak context, Nicanor Duarte Frutos was elected in April 2003 for the presidential term from 2003 to 2008. As candidate for the ruling Colorado Party, he polled 37% of the vote, compared with 24% for the traditional and non-programmatic Partido Liberal Radical Auténtico (PLRA), 21% for Patria Querida, a party that was founded in 2002 on an anti-corruption ticket, and 13% for PUNACE. Unlike previous leaders of the Colorado Party –which has been in power continuously since 1948, the longest for any party in the world– Duarte Frutos comes from a poor rural background and is a fluent speaker of Guaraní, the indigenous language spoken by most Paraguayans.
Since assuming the presidency in August 2003, the Duarte Frutos government has surprised many observers by making a serious and concerted effort to address the country’s fundamental governance problems that had been avoided by his predecessors. First, the government had to correct a massive fiscal imbalance inherited from his ineffectual predecessor, President González Macchi. By early 2003 this had led to weeks of arrears in the monthly payment of teachers and other public sector workers. The incoming finance minister, Dionisio Borda, began a major campaign to stamp out collusion between corrupt tax inspectors and taxpayers through the rotation and ‘freezing’ of officials known to be corrupt. In a surprise move, he abolished a 250-person special unit for investigation of the country’s largest 5,000 company taxpayers. Within months, tax receipts from this sector had increased substantially because of the reduction in corruption. This and other measures led to a dramatic increase in overall fiscal revenue –by January-March 2004 tax receipts were averaging 37% higher in real terms than twelve months before–.
In addition, at the end of 2003 the government faced the prospect of a major debt default as the first repayments became due on a US$400 million ‘jumbo’ loan from Taiwan that the former president, Gonzalez Macchi, had negotiated in 1999, the proceeds from which had been largely squandered. In November 2003 the government signed an IMF stand-by agreement that provided emergency bridging finance from the World Bank and Inter-American Development Bank that enabled it to meet these heavy debt-service payments. As part of this IMF agreement, the government committed itself to a major fiscal reform package. Despite the outright hostility of the PLRA, the opposition-controlled Congress finally passed the new legislation in June 2004 thanks to support from Patria Querida. The law will introduce personal income taxation for high earners for the first time in Paraguay, as well as a land tax on all rural holdings above 300 hectares. In a country with a highly unequal distribution of income and rural land, these are very progressive fiscal reforms and they will gradually reduce the current over-dependence on regressive indirect taxation (VAT and import tax). Under the new law the rate of company taxation will fall from 30% to 10%. Nevertheless, the Finance Ministry estimates that net company tax receipts will actually increase because the lower rate will reduce the disincentive to continue the current widespread practice of ‘double’ accounting –one for the tax authorities and one for shareholders–. According to the Finance Ministry, in 2005 alone the law will increase Paraguay’s meagre tax effort by 1.5% from 9.7% to 11.2% of GDP.
Second, the government is making a concerted effort to reduce rampant over-invoicing that is prevalent in the tendering practice of most public sector institutions. A new public procurement law introduced a transparent system of tendering for public sector bodies and a state oversight body has been created to monitor the process, providing open web-based information on all contracts. This has already led to reductions of 40% in the average unit cost of medicines purchased by the Ministry of Health. These governmental reforms reflect growing mobilisation by civil society against corruption.
A local chapter of Transparency International, founded in 1997, was a major factor in the decision to introduce the new public procurement law. TI-Paraguay has also pressed for reform of the financing of political parties to stop the present arrangement whereby millionaire businessmen openly boast that they have obtained congressional seats in exchange for making personal contributions to election campaigns. In 2003 a concerted local media campaign forced the government to revise contracts for the purchase, river transport and insurance of crude petroleum imports from Argentina, hitherto a major source of corruption within Petropar, the state-owned petroleum company. In July 2004, 19 civil society organisations formed a joint body to press for a freedom-of-information law, which would open up Paraguay’s secretive public administration to public scrutiny. The same month, Pojoajú, an alliance of rural and environmental NGOs, signed an agreement with the World Bank for ‘social monitoring’ of four bank projects in Paraguay.
Third, the government is making strenuous efforts to put an end to Paraguay’s role as a regional centre for contraband that has led to growing tensions with its partners in Mercosur. In October 2003 Duarte Frutos removed his own Interior Minister Roberto González, following accusations of his involvement in a scandal surrounding contraband CDs. A central bank study in 2000 revealed that in 1989-99 about 35% of all goods imported from Paraguay by Mercosur partners were smuggled, leading to a loss of tax revenue for Paraguay’s trading partners. Many of these smuggled goods enter Paraguay under a preferential tax regime for alleged resale to tourists. A fall in exchange-rate competitiveness and stricter control by Brazilian customs both of tourist purchases in the Paraguayan border city of Ciudad del Este and of illegal imports have considerably reduced the re-export and contraband trade since the mid-1990s. Nevertheless, Paraguay remains a major conduit for counterfeit and pirated goods from East Asia and this has led to growing pressure from the US over infringements of intellectual property rights. The presence of organised crime, arms smuggling and even international Islamist militant groups has led to calls for increased surveillance of the area around Ciudad del Este.
Fourth, in a personal crusade, Duarte Frutos promoted a major overhaul of the nine-member Supreme Court, where impunity held sway as judges regularly accepted bribes in exchange for shelving proceedings against corrupt officials and politicians. By the time he came into office the actions of the Court had brought the whole judicial system into disrepute. Duarte Frutos moved swiftly to obtain all-party support for the impeachment of six of the nine members of the court, and their replacement by candidates selected by Congress on the basis of merit and political balance.
The progress made in these four areas –fiscal reform and macro-economic management, public sector tendering, contraband and judicial reform– bodes well for improved governance. However, the government must also address three major challenges in order to provide a sound foundation for sustainable development over the medium term. First, it must introduce a major reform of the decrepit and clientelist system of public administration, where there is no linkage between pay and post classification. Instead, individual salary levels and promotion prospects are determined primarily by personal and political loyalties, rather than pay grade and individual performance. A new civil service reform law (Law 1,626) had been passed in 2001 but was never implemented because of over 700 appeals to the Supreme Court by public sector trade unions on the grounds that it was unconstitutional. The government must press the new Court to rule on these appeals, so breaking the logjam on its implementation.
Second, the government needs to strengthen its poverty eradication programme, which is the responsibility of the Social Action Secretariat, Secretaría de Acción Social (SAS), a branch of the presidency. Resistance from corrupt vested interests in the key ministries of agriculture, education and health have so far undermined efforts by SAS to coordinate a multi-sectoral approach to tackling poverty. Thanks to the work of the excellent national statistical office, the government now has the information that it needs to target its anti-poverty programme for maximum impact. But for this to happen, the Finance Ministry will need to work more closely with SAS to ensure that foreign aid inflows, which are increasingly channelled through line ministries for poverty alleviation, are not squandered as in the past.
Third, and most difficult of all, the government must address the growing plight of landless farming households, a key contributory factor to both rural poverty and urban crime. A land reform law was passed in 2001 after lying dormant in Congress for more than a decade but still lacks enabling legislation. This reflects the opposition of politically powerful landowners to its implementation –almost all members of Congress own an estancia (cattle ranch). Meanwhile, and in the absence of land reform, the number of invasions of large landholdings by groups of landless farmers has escalated since the mid-1990s. In more recent years, some have become infiltrated by criminal elements intent on illegal logging. As landowners hire private security guards and special police units to protect their land, this has led to a spiralling of violent shoot-outs and assassinations of peasant leaders.
To make matters worse, there has been a dramatic increase in the area under soybean cultivation, with Brazilian immigrant farmers consolidating their holdings by buying up land from smaller and impoverished Paraguayan farmers. Spurred by high world prices, soybean exports have rocketed, and by 2003 Paraguay ranked as the fifth largest soybean producer and the fourth largest soybean exporter in the world. Although this has given a much-needed boost to foreign exchange earnings at a time of economic recession, its ‘spread’ effect on job creation and local economic activity in rural areas has been extremely limited because of the highly mechanised nature of production and the repatriation of earnings to Brazil. Paraguay’s powerful peasant organisations are now expressing open hostility towards these Brazilian farmers, accusing them of poisoning peasant communities through the uncontrolled use of pesticides and aerial crop spraying, burning their crops and calling for their expulsion from the country.
The government will need to move swiftly to carry out a major land reform programme in order to defuse the politically explosive anti-Brazilian xenophobia that is now gaining hold in rural areas. But this will require Duarte Frutos to face down strong opposition from the Coordinadora Agrícola del Paraguay (CAP), an emerging alliance of traditional cattle-ranchers and Brazilian soybean producers. Any such land reform programme should incorporate three key aspects if it is to be successful: (1) the strict enforcement of a 20-year prohibition on the re-sale of land grants; (2) a radical improvement in the quality of the state agricultural extension service, which currently covers only 15% of small farmers; and (3) the targeting of the state development bank’s agricultural loan portfolio exclusively on small farmers –most of its loans are currently made to large cattle-ranchers–.
As he approaches his first anniversary in office, President Nicanor Duarte Frutos has already made important advances in laying the foundations for modernisation of the state and for sustainable development. The government has correctly identified the fight against corruption as the central governance challenge of Paraguay. This is the crucial underlying element that links together the improvements in tax administration, government procurement and the judicial system. Although his rating remains relatively high, he is facing growing criticism at the failure to show tangible benefits in terms of an economic upturn and job creation. Much of this criticism is unfair and orchestrated by powerful vested interests that have long benefited from the ‘privatised state’ in Paraguay and that are opposed to genuine state reform.
But in order to create the basis for sustainable development over the long term the government must encourage the use of its enormous hydro-electric resources in order to industrialise the country. Together with Nepal, Paraguay has the world’s highest per capita hydro energy resource potential. It already has a 50% share in two major hydro projects –the enormous 12,600MW Itaipú project with Brazil and the 3,600MW Yacyretá project with Argentina–. Yet, at present, virtually all its share in each project is exported to Brazil and Argentina respectively. Paraguay could overcome the disadvantages of its landlocked geography to become a regional hub for energy-intensive industries in South America. But this will require a strategic project for long-term national development that would finally put an end to the dependence on the production and export of agricultural products that has characterised the economy ever since the country achieved independence in 1811. President Duarte Frutos is already demonstrating his serious commitment to a ‘good governance’ agenda. It remains to be seen whether he also has the leadership qualities to spearhead a long-term ‘Korean-style’ project for the transformation of Paraguay’s archaic economic structure.
International Development Department, University of Birmingham