## EXECUTIVE SUMMARY — _cr09182 ## Source details **Canonical URL:** [EXECUTIVE SUMMARY — _cr09182](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09182.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09182.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09182.pdf.json) --- ### Context and recent program history - Following stagnation and financial instability that led to a financial crisis in 2002, authorities implemented strong macroeconomic and pro-growth policies supported by two successive SBAs. - Economy stabilized and grew well above average; new administration took office in August 2008 with greater emphasis on social issues but global financial crisis and political difficulties delayed some plans. ### 2008 developments — output, inflation, fiscal, monetary, financial, external - Output - Real GDP growth estimated nearly 6 in 2008, after 6¾ percent in 2007. - Growth accelerated to about 7½ percent in H1 2008, slowed to some 3½ percent in H2 2008. - Contributing factors to slowdown: loss of export market shares for meat sector, sharp decline of commodity prices (mainly soybeans), drought in last quarter, manufacturing difficulties. - Inflation - Headline inflation rose to 12 percent (y-o-y) in June 2008, ended at 7½ percent in December 2008 (upper bound of Central Bank target). - Core inflation measure excludes fruits and vegetables but includes fuels and other food items. - Since January 2009, inflation fell to 3.4 percent (y-o-y) at end-March 2009. - Fiscal - Tax revenues grew by about 12 percent in real terms (about 1 percent of GDP). - Central government recorded a surplus of about 2½ percent of GDP in 2008, compared to surplus of 1 percent in 2007, owing to large reduction in capital spending in 2008. - Tax revenue performance significantly worsened in first two months of 2009, due in part to sharp decline in customs revenue. - Monetary - Monetary policy mostly accommodative throughout 2008. - Credit growth peaked at 75 percent and currency growth at 40 percent. - Foreign exchange flows partially sterilized started to reverse in July 2008. - With worsening global conditions in October 2008, Central Bank responded by reducing reserve requirements, introducing a short-term liquidity facility, and lowering the policy interest rate. - Intervention policy modified to allow greater exchange rate flexibility. - Growth of currency in circulation dropped to 1 percent by March 2009. - Financial sector - Global financial crisis impact relatively muted to date due to low integration and strengthened banking system. - Financial soundness indicators remain adequate; liquidity and asset quality showed some weakening. - Specific indicators: - Credit growth decelerated from about 75 percent in mid-2008 to 40 percent in February 2009. - Liquidity ratios modestly deteriorated from 24.3 percent at end-2007 to 23.5 percent at end-2008. - Nonperforming loans nearly doubled from G371 billion to G714 billion during 2008. - External sector - External position strengthened in H1 2008 but weakened in H2 as global slowdown unfolded. - Current account recorded a deficit of 1½ percent of GDP in 2008. - Central Bank sold some US$400 million to ease foreign exchange market pressures (80 percent of all foreign currency purchases accumulated during H1). - Net international reserves stood at US $2.86 billion at end-2008 (430 percent of short-term debt on a remaining basis). - Guaraní appreciated by 23 percent between end-2007 and June 2008, then allowed to slide back to its level at beginning of year during August–October 2008. - Politics and social conditions - President Lugo elected after 61 years of Colorado Party rule; government lacks a majority in Congress. - Paraguay’s poverty rate remains high and social situation deteriorating due to slowdown, drought, and falling commodity prices. - UNDP study cited: extreme poverty would rise from 19.4 percent of population (2007) to 22.5 percent during 2009 absent decisive policy measures. ### Authorities’ Economic Reactivation Plan (2009) — overview and key elements - Plan set in medium-term context addressing immediate challenges and structural weaknesses. - First step: implement fully the 2009 budget approved by Congress, which is more expansionary than that submitted by executive in Sept. 2008—without introducing cut-backs via a financial plan. - Budget envisages an overall deficit of ¾ percent of GDP. - Key elements: - (i) fiscal stimulus in 2009–10, mainly by increasing capital expenditures and conditional cash transfers (CCT); - (ii) increasing liquidity available to banking system to facilitate lending; - (iii) obtaining higher external financing from international financial institutions (including contingency credit lines); - (iv) addressing medium-term structural issues, including public financial management and financial sector reforms. ### Short-term macro outlook and projections (paragraph 14) - Real GDP expected to decline to about ½ percent in 2009 before recovering gradually toward long-term potential. - Output gap expected to turn negative in 2009 (about 3 percent of GDP), with considerable downside risks. - Inflation projected to decline from 7½ percent at end-December 2008 to 5½ percent by end-2009, before declining to 5 percent by 2010. - External current account deficit expected to improve to 1 percent of GDP in 2009 due to much lower imports. ### Fiscal stimulus sizing, financing, and staff recommendations (paragraph 15) - Staff concurs scope for fiscal easing given public debt below 20 percent of GDP. - Authorities can afford targeted fiscal stimulus of about 3 percent of GDP for 2009. - Discretionary fiscal expansion to be covered by external financing from World Bank, IDB and other IFIs: - World Bank could provide additional resources of US$100 million. - IDB could make available loans up to US$250 million (including an emergency credit line). - Authorities would scale back spending plans if expected financing shortfalls occur. - Staff recommendations: - Formulate policies in a medium-term context and line up necessary financing. - Renew efforts to execute capital budget, improve inter-ministerial coordination, and increase social spending, including substantial increases for CCT program. - Continue to improve tax administration and resist tax concessions. - Authorities concerned about political pressures to increase current expenditures and introduce tax concessions. - Staff concerned about inclusion in approved budget of a sharp increase in wage bill (about 16 percent compared to outcome for 2008). ### Monetary policy stance and guidance (paragraph 16) - Staff supported relatively accommodative stance at current policy rates (reduced by 200 basis points in Oct. and Nov. 2008) but cautioned against excessive further liquidity injections. - Authorities argued for prudent easing to facilitate loan repayments given sharply lower export revenues. - Since Sept. 2008, credit growth rates declined due to slowdown and higher lending rates; banks preferring higher liquidity. - Risks of excessive liquidity: - Could put pressure on exchange rate. - Staff to tighten policy if evidence of excess demand in FX market and/or inflation pressures reappear. - Scope for further temporary easing via new collateralized short-term lending facility if liquidity shortages due to financial system distress. - Authorities and staff agreed using international reserves to fund fiscal expenditures (as proposed in Congress) should be resisted. - Liquidity composition: about 45 percent of liquid assets in guaranís and the rest in U.S. dollars. ### Exchange rate flexibility (paragraph 17 & Box 3) - Authorities and staff concurred exchange rate should remain flexible to facilitate adjustment to external shocks and fundamentals. - Staff estimates guaraní broadly in line with fundamentals: - CGER-type methodologies estimated overvaluation of 1–5 percent as of end-2008. - By February 2009, guaraní depreciated by a further 3.3 percent. - MB approach: CA norm about zero percent of GDP; underlying current account deficit in 2008 estimated at -0.4 percent. - ES approach: overvaluation of about 3.5 percent in medium term; sustainable current account deficit estimated at 1 percent of GDP. - ERER approach: estimated overvaluation of some 6–8 percent as of end-2008 (6 percent using 1991Q1–2001Q4 sample; 8 percent using 1990Q1–2007Q2). - Staff stressed need to avoid unsterilized intervention through domestic liquidity injections as such policy would fuel outflow pressures. - Exchange rate policy since Oct. 2008 considered appropriate: limited interventions to avoid disorderly adjustment while preserving reserve cushion. ### Financial sector policies and priorities (paragraphs 18 onward) - Strengthen financial sector integral to Recovery Plan; framework for crisis mitigation and resolution needs updating given five crises during 1995–2003. - Cooperatives - Cooperatives account for approximately 25 percent of deposits and almost 28 percent of credits by end-2008 but are lightly supervised. - "General Regulatory Framework for Cooperatives" (entered into effect in 2007) aimed to establish capital requirements, loan classification and provisioning, liquidity requirements, and basic supervision framework. - Actions needed without delay: - (i) strengthen supervision and auditing regulations; - (ii) improve statistics and data analysis system; - (iii) enhance administrative and operational capacities of supervisory agency (INCOOP). - Deposit Guarantee Fund (FGD) - Fund currently worth US$80 million, of which US$60 million in cash (deposits at BIS of US$50 million and US$10 million in local currency deposits at the BCP). - As of Feb. 2009, Fund covered about 1½ percent of total deposits and 4 percent of eligible deposits, short of 10 percent target set by law. - According to 2003 FGD law, government expected to contribute about US$50 million in interest-free, non-negotiable bonds, but so far contributed only US$20 million. - Staff recommendation: honor promptly financial commitments to FGD to enhance resilience and credibility. - Liquidity measures introduced - Oct. 2008: short-term facility FLIR providing liquidity at penalty rate of 10.5 percent; to date, no institution used it. - Central Bank reduced reserve requirements: by 4½ percentage points on foreign-currency deposits and by 2 percentage points on domestic currency deposits in Nov. 2008. - Feb. 2009 adjustments: reserve requirements on FX term deposits of 361-540 days reduced to 16.5 percent; deposits over 540 days reduced to zero as were domestic currency deposits over 360 days. - Bank resolution and BCP recapitalization - Need to clarify responsibility for ultimate liabilities in bank intervention cases. - Superintendency of Banks (SIB) needs formal powers for administrative sanctions and remedial procedures. - Estimated BCP capital shortfall about 6 percent of GDP. - Government expected to send legislation by end-2009 to allow recapitalization through transfer of marketable treasury bonds that might replace LRMs in medium term. - Regulatory and supervisory reforms for commercial banks and other intermediaries - April 2007 strategy: improve governance rules, enhance independence of Superintendency, strengthen “fit and proper” criteria, strengthen capital requirements. - Resolución 1 (Oct. 2008) on asset classification and provisioning replaced Resolución 8 of 2003. - Remaining gaps to improve compliance with Basel Core Principles: amend Banking Law and Central Bank Law to improve governance, enhance independence and sanctioning capacity of Superintendency, strengthen fit-and-proper criteria, and capital requirements. - Insurance companies and pension funds need strengthened regulatory/supervisory frameworks; some estimate they account for about 10 percent of financial system assets (of approximately 50 percent of GDP). - Foreign exchange pressures and lender-of-last-resort capacity - Dollarized economy risks: large share of unhedged borrowers and difficulty executing collateral imply significant FX-induced credit risk for private sector balance sheets (2005 FSAP observation). - Policy actions: tighter regulations on net foreign asset positions (long position limit reduced from 50 percent to 30 percent of capital) and introduced limit of US$1 million for change in daily position. - Staff recommendation: BCP should bolster lender-of-last-resort capabilities through international support if needed. ### Lessons from previous crises (Box 4) — distilled - Historical crisis costs: early crises cost around 15 percent of GDP; 2002 and 2003 crises cost 1 percent of GDP. - Key lessons: - Identify solvency vs. insolvency; supporting fundamentally insolvent institutions unlikely to succeed if inefficient owners remain. - Generous de facto deposit guarantees distort incentives; guarantees should be limited and tied to effective restructuring plans. - Clarify who bears ultimate cost (Treasury) upfront to avoid burdening central bank with non-performing assets. - Private sector lending recovers slowly even if profitability indicators rebound. ### Medium-term growth and poverty reduction priorities - Paraguay well placed to confront global turbulence due to prudent macro policies, fiscal surpluses, and reduced public debt. - Structural reform agenda priorities: - Create budgetary room for social and infrastructure spending. - Strengthen budgetary framework. - Sustain growth and boost competitiveness. - Measures to directly reduce poverty. - Fiscal and tax policy recommendations - Paraguay has one of lowest tax revenue-to-GDP ratios in Latin America. - Recommended tax reforms: eliminate/restrict reduced VAT rates and exemptions; lower number of products subject to excise tax but at higher rates; rationalize special regime for small taxpayers. - Authorities eliminated use of VAT credits against IMAGRO; stock of VAT credits around US$250 million implies IMAGRO revenues pick up only by 2011. - Personal income tax (PIT) became effective Jan. 1, 2009, though yield affected by exemptions and lack of withholding; Congress recently approved draft law to postpone PIT implementation. - Tax administration recommendations: submit new tax procedures code to Congress; enhance audit capacity; improve customs control; establish HR policies; implement comprehensive management system. - Expenditure and PFM priorities - Consolidate accounts into “Single Treasury Account”. - Strengthen medium-term expenditure framework; limit Congress’ ability to modify budget envelope, particularly salaries. - Comprehensive pension reform to ensure sustainability. - Renew efforts to increase execution rate of capital budget; adopt comprehensive public investment system. - SOEs, infrastructure, and FDI - Build on CSEE progress; establish incentive and sanction systems; adopt strategic and business plans linked to performance monitoring; encourage private participation (e.g., PPP). - Target underperforming INC and Petropar. - Infrastructure priorities: electricity (upgrade transmission/distribution), telecommunications (liberalize COPACO monopoly), roads (expand feeder road network). - FDI impediments: weak infrastructure, informality, perceived low judicial transparency. - Social investment and CCT program - Extreme poverty rose from 15½ percent in 2005 to 19½ percent in 2007, mostly due to rising food prices. - Recommendation: significantly scale up CCT program; institutionalize via legislation. - Authorities’ medium-term target: coverage of 120,000 households (about 2⁄3 of the extremely poor). - Authorities intend to embark on low-income housing and land reform. ### Short-term risks and channels of contagion (Box 1) - Paraguay enters episode from stronger position than previous crises: - Reserve coverage of short-term debt three times higher than in 2001 (import coverage broadly same). - External public debt as percent of GDP half level of seven years ago. - Banking system strengthened: NPL ratio at 1 percent in 2008 vs. 21 percent in 2003. - Return on assets increased from 0.4 to 3½ percent. - Trade and financial linkages: - Trade openness increased by half, to nearly 70 percent of GDP. - Dependence on imports from MERCOSUR declined while exports to region stable. - Share of assets of direct foreign subsidiaries in total bank assets declined from 40 percent to 20 percent between 2001 and 2008; share of majority foreign-owned banks increased from 42 percent to 46 percent. - Remaining vulnerabilities: deterioration of global sentiment in late 2008 and sharp decline in commodity prices have considerably affected Paraguay. - Historical episodes indicate potential severity depends on magnitude of depreciation, exposure through local subsidiaries, and availability of large external loans. ### Debt Sustainability Analysis — highlights (APPENDIX 1) - Overall assessment: external and public debt outlook robust to alternative macro assumptions. - Baseline public debt projection: debt-to-GDP ratio expected to decline from 19 percent to 15 percent. - Most adverse public-debt scenario: debt level would rise to about 27 by 2014. - External debt: strong growth reduced external debt to below 20 percent of GDP in 2008 from almost 25 percent in 2007. - Near-term driver: external debt ratio expected to increase by about 2 percentage points of GDP due to increased donor financing of public investment and below-trend GDP growth from global recession. - Medium-term: debt ratios stabilize as growth returns. - Extreme shock: one-time real depreciation of 30 percent would raise external debt-to-GDP by about 10 percentage points in medium term. - Gross financing need emphasized; currency depreciation identified as most damaging one-time shock (one-time real depreciation of 30 percent in 2009 used in scenarios). ### World Bank relations (ANNEX 2) — selected operational facts (as of Mar. 31, 2009) - New Country Partnership Strategy (CPS) proposed envelope US$500 million for FY09–FY13; initial two-year program US$265 million. - Bank portfolio: Road Maintenance Project (US$74 million, approved FY07); Secondary Education Reform (US$24 million, approved FY04). - Projects awaiting effectiveness: Sustainable Agricultural Development (US$37.5 million) and Additional Financing for Community Development (US$9.0 million). - Scheduled for Board consideration on 14 April 2009: Water and Sanitation Sector Modernization Project for US$64 million. - Four World Bank-financed projects under implementation or awaiting ratification: Total commitments US$144.5 million; Undisbursed as of Mar. 31, 2009: US$119 million. - IBRD/IDA active loans (Committed / Disbursed / Undisbursed): - Education Reform — 24.0 / 22.5 / 1.5 - Road Maintenance — 74.0 / 3.0 / 74.0 - Sustainable Agricultural Development — 37.5 / 0.0 / 37.5 - Pilot Community Development Project (AF) — 9.0 / 0.0 / 9.0 - Total active loans — 144.5 / 25.5 / 119.0 ### Data, statistics, and dissemination issues - National accounts: 2005 estimates broadly consistent with 1993 SNA but major data/compilation shortcomings remain (no comprehensive regular economic censuses; 1994 reference year needs updating; excessive use of fixed coefficients; informal activities not monitored). - CPI and PPI: reported regularly; since Jan. 2008 BCP using new CPI based on 2005–06 household budget survey; CPI geographic coverage limited to Asunción. - Monetary data: unified compilation and reporting system established; lack of coverage of credit cooperatives a concern (cooperatives account for around ¼ of deposits and loans). - Balance of payments and IIP: follow BPM5; quarterly and annual data available from 2001 onward; deficiencies remain in recording private capital outflows and unregistered trade. ### IMF Executive Board conclusions (May 20, 2009) — key points - Paraguayan economy performed well over past five years; real GDP growth averaged about 5 percent a year. - 2008 growth nearly 6 percent; deceleration in last quarter; 2009 growth expected to decelerate to about ½ percent. - Inflation projected at 5½ percent by end-2009. - Budget recorded sizeable surplus of 2½ percent of GDP in 2008. - Recovery plan components: - (i) fiscal stimulus of about 3 percentage points of GDP in 2009; - (ii) steps to provide liquidity to banking system; - (iii) securing additional external financing from multilaterals (including contingent credit lines); - (iv) addressing medium-term structural issues including PFM and financial sector reform. - Directors supported focusing stimulus on public investment and targeted social programs; emphasized improving PFM, inter-ministerial coordination, and tax/customs administration; recommended refraining from tax concessions. - Supported accommodative monetary policy but recommended close monitoring for inflationary or balance of payments pressures. - Encouraged strengthening central bank’s balance sheet and vigilance given rapid credit growth; recommended enhanced regulation and supervision of financial cooperatives and retirement plans; welcomed commitment to fully finance Deposit Guarantee Fund. ### Selected economic indicators (2004–09 highlights) - Real GDP at constant prices (annual percent change): 2004: 4.1; 2005: 2.9; 2006: 4.3; 2007: 6.8; 2008 Est.: 5.8; 2009 Proj.: 0.5. - Consumer prices (end-of-period): 2004: 2.8; 2005: 9.8; 2006: 12.5; 2007: 5.9; 2008 Est.: 7.5; 2009 Proj.: 5.5. - Central government overall balance (percent of GDP): 2004: 2.0; 2005: 0.6; 2006: 0.1; 2007: 0.9; 2008 Est.: 2.6; 2009 Proj.: -0.7. - Public sector debt (Nonfinancial Public Sector, percent of GDP): 2004: 45.1; 2005: 37.7; 2006: 27.7; 2007: 21.8; 2008 Est.: 19.3; 2009 Proj.: 19.5. - International reserves (millions of U.S. dollars): 2004: 1,168; 2005: 1,297; 2006: 1,703; 2007: 2,462; 2008 Est.: 2,864; 2009 Proj.: 2,864. - Credit to private sector (annual percent change): 2004: 15.0; 2005: 15.1; 2006: 29.0; 2007: 46.2; 2008 Est.: 36.5; 2009 Proj.: 9.7. ### Priority policy recommendations (staff view synthesized) - Implement 2009 budget fully (overall deficit of ¾ percent of GDP) and prioritize execution of capital spending and targeted social transfers (notably CCT expansion to reach 120,000 households). - Line up external financing before discretionary expansion (World Bank US$100 million potential; IDB up to US$250 million). - Strengthen public financial management: consolidate accounts into Single Treasury Account; strengthen medium-term expenditure framework; improve inter-ministerial coordination; increase capital budget execution capacity. - Preserve macro stability: maintain flexible exchange rate; resist using international reserves to fund fiscal expenditures; monitor inflation and FX pressures closely. - Financial sector reforms: - Strengthen supervision and regulation of cooperatives, pension funds, and insurance sectors. - Honor government commitments to Deposit Guarantee Fund (FGD) and clarify bank resolution responsibilities. - Bolster BCP capitalization (estimated shortfall about 6 percent of GDP) and lender-of-last-resort capacity, possibly with international support. - Amend Banking Law and Central Bank Law to enhance Superintendency independence and sanctioning powers and strengthen capital and governance requirements. - Structural reforms to boost competitiveness and growth: SOE reform and performance monitoring; infrastructure upgrades (electricity, telecommunications, roads); promote FDI by addressing infrastructure, informality, and judicial transparency. - Social policy: scale up and institutionalize CCT program; pursue housing and land reform; protect vulnerable groups during downturn. *Source: EXECUTIVE SUMMARY and selected sections of IMF staff report _cr09182 (excerpts).* ### EXECUTIVE SUMMARY ### EXECUTIVE SUMMARY ### Context and recent program history - Following a period of stagnation and financial instability that led to a financial crisis in 2002, the authorities have been implementing strong macroeconomic and pro-growth policies, supported by two successive SBAs. - The economy was successfully stabilized and began to grow well above average. - A new administration took over in August 2008 promising more emphasis on social issues but the global financial crisis and political difficulties have delayed some of those plans. ### 2007 Article IV consultation - The last Article IV consultation was concluded in June 2007. - Directors stressed the importance of continuing to adhere to the strong macroeconomic policies in the authorities’ program, as well as the structural reforms, including: - enhancing prudential regulations; - strengthening the financial position of the Central Bank; - sharpening expenditure control systems; and - improving the investment climate. ### 2008 developments - Output - Real GDP growth is estimated to have reached nearly 6 in 2008, after a record performance of 6¾ percent in 2007. - Growth accelerated to about 7½ percent in the first half of 2008, then slowed to some 3½ percent in the second half of the year. - Contributing factors to the slowdown: loss of export market shares for the meat sector, sharp decline of commodity prices (mainly soybeans), a drought in the last quarter, and difficulties in the manufacturing sector. - Inflation - Headline inflation rose to 12 percent (y-o-y) in June 2008, then ended at 7½ percent in December 2008 (the upper bound of the Central Bank’s target). - The measure of core inflation used by the Central Bank excludes fruits and vegetables but includes fuels and other food items. - Since January 2009, inflation fell to 3.4 percent (y-o-y) at end-March 2009. - Fiscal - Tax revenues grew by about 12 percent in real terms (about 1 percent of GDP). - Central government recorded a surplus of about 2½ percent of GDP in 2008, compared to a surplus of 1 percent in 2007, owing to a large reduction in capital spending in 2008. - Tax revenue performance significantly worsened in the first two months of 2009, due in part to a sharp decline in customs revenue. - Monetary - Monetary policy was mostly accommodative throughout 2008. - Credit growth peaked at 75 percent and currency growth at 40 percent. - Foreign exchange flows that were only partially sterilized started to reverse in July 2008. - With worsening global conditions in October 2008, the Central Bank responded by: - reducing reserve requirements; - introducing a short-term liquidity facility; and - lowering the policy interest rate. - Intervention policy was modified to allow greater exchange rate flexibility. - Growth of currency in circulation dropped to 1 percent by March 2009. - Financial sector - The impact of the global financial crisis has been relatively muted to date, reflecting low integration with global financial markets and strengthened banking system. - Financial soundness indicators remain adequate, but liquidity and asset quality indicators showed some weakening. - Specific indicators and developments: - Credit growth decelerated from about 75 percent in mid-2008 to 40 percent in February 2009. - Liquidity preference increased; demand for guaraní and dollar liquidity rose and banks redeemed holdings of maturing sterilization paper (LRMs). - Liquidity ratios showed modest deterioration from 24.3 percent at end-2007 to 23.5 percent at end-2008. - Nonperforming loans nearly doubled from G371 billion to G714 billion during 2008. - External sector - External position strengthened in the first half of 2008 but weakened in the second half as the global slowdown unfolded. - Current account recorded a deficit of 1½ percent of GDP in 2008. - Central Bank sold some US$400 million to ease foreign exchange market pressures (80 percent of all foreign currency purchases accumulated during the first half of the year). - The guaraní, which had appreciated by 23 percent between end-2007 and June 2008, was allowed to slide back to its level at the beginning of the year during August–October 2008. - Net international reserves stood at US $2.86 billion at end-2008 (430 percent of short-term debt on a remaining basis). - Some progress in resolving external disputed claims. - Politics and social conditions - President Lugo was elected after 61 years of Colorado Party rule, on a platform of social change, but the government lacks a majority in Congress. - Paraguay’s poverty rate remains high and the social situation is deteriorating due to the economic slowdown, drought, and falling commodity prices. - UNDP study cited: in the absence of decisive policy measures extreme poverty would rise from 19.4 percent of the population (2007) to 22.5 percent during 2009. ### 2009 policy response and staff recommendations - Authorities adopted an Economic Recovery Plan to counter adverse effects of the global crisis. - Authorities and staff concurred that: - a relaxation of the fiscal stance and the continuation of a flexible monetary policy was appropriate. - Staff recommended: - deepening ongoing structural reforms, especially to strengthen the financial position of the central bank; and - reinforcing financial oversight and regulation, particularly of the large cooperative, pension fund and insurance sectors. ### Mission and consultations - Discussions took place during March 4–18, 2009. - Mission met with Finance Minister Borda, Central Bank President Corvalán, Deputy Finance Minister Caballero, senior government officials, and representatives of the banking community and the private sector. - Staff team: P. Alonso-Gamo (head), M. Mlachila (WHD), S. Maziad (SPR), A. Lemgruber (FAD) and J. Gasha (MCM). A. Santos (WHD) joined for a few days. Assisted by T. Roy, resident representative in Asunción. Liaison with World Bank and IDB staff. J. Maciel (OED) participated. ### Outlook and risks - Paraguay enters the global slowdown from a position of relative strength—solid growth, continuous budget surpluses, significantly lower public debt ratios, and increased international reserves. - Economic outlook significantly worsened due to sudden external shock and regional drought. - Risks highlighted: - legacy of two years of very rapid credit expansion could lead to deterioration in bank portfolios; - contagion from Brazil and Argentina poses a major risk; - government’s lack of a majority in Congress could complicate political consensus on tough decisions and create pressures to follow populist policies. *EXECUTIVE SUMMARY — _cr09182 - EXECUTIVE SUMMARY* ### 12. Authorities’ plan. To help limit the adverse effects of the global crisis, the ### 12. Authorities’ plan. ### Plan overview - The authorities have adopted an Economic Reactivation Plan to limit the adverse effects of the global crisis. - The plan is set in a medium-term context, with measures to address immediate challenges as well as medium-term structural weaknesses. - First step: implement fully the 2009 budget approved by Congress, which is more expansionary than the one submitted by the executive in September 2008—without introducing cut-backs via a financial plan. - The budget envisages an overall deficit of ¾ percent of GDP. - Key elements: - (i) implementing a fiscal stimulus in 2009–10, mainly by increasing significantly capital expenditures and conditional cash transfers (CCT); - (ii) increasing liquidity available to the banking system to facilitate lending; - (iii) obtaining higher levels of external financing from international financial institutions (including contingency credit lines); - (iv) addressing medium-term structural issues, including public financial management and control, and financial sector reforms. ### Policy dialogue — three themes - Short-term fiscal and monetary policies to sustain domestic demand during the downturn while preserving stability. - Policies geared to strengthen the banking system in the face of a slowdown of economic activity, while reinforcing preparedness against spillover risks of the global credit crunch. - Medium-term structural policies to sustain growth and reduce poverty through a carefully planned reform agenda. ### Risks and channels of contagion (Box 1) — key findings - Paraguay enters the episode from a stronger position than in previous crises: - Reserve coverage of short-term debt is three times higher than in 2001 (but import coverage is broadly the same). - External public debt as a percent of GDP is half the level of seven years ago. - Banking system strengthened: NPL ratio at 1 percent in 2008 against 21 percent in 2003. - Return on assets increased from 0.4 to 3½ percent. - Trade and financial linkages: - Trade openness increased by half, to nearly 70 percent of GDP. - Dependence on imports from MERCOSUR has declined while exports to the region have been stable. - Financial linkages have somewhat decreased: share of assets of direct foreign subsidiaries in total bank assets declined from 40 percent to 20 percent between 2001 and 2008; share of majority foreign-owned banks increased from 42 percent to 46 percent. - Vulnerabilities remain: deterioration of global sentiment in late 2008 and the sharp decline in commodity prices have considerably affected Paraguay. - Historical episodes indicate potential severity depends on specific factors (magnitude of depreciation, exposure through local subsidiaries, availability of large external loans). ### Short-term macroeconomic outlook (paragraph 14) - Real GDP expected to decline to about ½ percent in 2009 before recovering very gradually towards long-term growth potential. - Output gap expected to turn negative in 2009 (about 3 percent of GDP), with considerable downside risks. - Inflation projected to decline from 7½ percent at end-December 2008 to 5½ percent by end-2009, before declining to 5 percent by 2010. - External current account deficit expected to improve to 1 percent of GDP in 2009, reflecting much lower imports. ### Fiscal stimulus (paragraph 15) — staff view and authorities’ plans - Given public debt below 20 percent of GDP, staff concur there is scope for fiscal easing. - Authorities can afford a targeted fiscal stimulus of about 3 percent of GDP for 2009. - Discretionary fiscal expansion to be covered by external financing from the World Bank, IDB and other IFIs. - World Bank could provide additional resources of US$100 million. - IDB could make available loans up to US$250 million (including an emergency credit line). - Authorities would scale back spending plans in the event of shortfalls in expected financing. - Staff recommendations: - Formulate policies in a medium-term context and line up necessary financing. - Renewed efforts to execute the capital budget, improve inter-ministerial coordination, and increase social spending, including substantial increases in outlays for the CCT program. - Continue to improve tax administration and resist tax concessions. - Authorities expressed concern about political pressures to increase current expenditures and introduce tax concessions. - Staff expressed concern about the inclusion in the approved budget of a sharp increase in the wage bill (about 16 percent compared to the outcome for 2008). ### Monetary policy (paragraph 16) - Staff supported the relatively accommodative monetary stance at current policy rates (reduced by 200 basis points in October and November 2008), but cautioned against excessive further liquidity injections. - Authorities argued for prudent monetary easing to facilitate loan repayments given sharply lower export revenues. - Since September 2008, credit growth rates have been declining due to the economic slowdown and an increase in lending rates; banks preferring to hold higher levels of liquidity. - Risks of excessive liquidity: - Could put pressures on the exchange rate. - Staff stressed preparedness to tighten policy if there was evidence of excess demand in the foreign exchange market and/or if inflation pressures reappeared. - In the event of liquidity shortages due to unexpected financial system distress, there is scope for a further temporary easing through a new facility for collateralized short-term lending. - Authorities and staff agreed that using international reserves to fund fiscal expenditures, as proposed in Congress, should be firmly resisted. - Liquidity composition note: about 45 percent of liquid assets in guaranís and the rest in U.S. dollars. ### Exchange rate flexibility (paragraph 17 & Box 3) - Authorities and staff concurred that the exchange rate should remain flexible to facilitate adjustment to external shocks and fundamentals. - Staff estimates guaraní broadly in line with fundamentals: - CGER-type methodologies estimated overvaluation of 1–5 percent as of end-2008. - By February 2009, guaraní depreciated by a further 3.3 percent. - MB approach: CA norm about zero percent of GDP; underlying current account deficit in 2008 estimated at -0.4 percent. - ES approach: overvaluation of about 3.5 percent in the medium term; sustainable current account deficit estimated at 1 percent of GDP. - ERER approach: estimated overvaluation of some 6–8 percent as of end-2008 (6 percent using 1991Q1–2001Q4 sample; 8 percent using 1990Q1–2007Q2). - Staff stressed need to avoid unsterilized intervention through domestic liquidity injections, as such a policy would fuel outflow pressures. - Exchange rate policy since October 2008 considered appropriate: limited interventions to avoid disorderly adjustment while preserving the reserve cushion. ### Financial sector policies and recommendations (paragraphs 18 and onward) - Further strengthening the financial sector is integral to the Economic Reactivation Plan. - Paraguay suffered five consecutive financial crises during 1995–2003; framework for crisis mitigation and resolution needs updating and strengthening. - Recommendations and priorities: - Cooperatives: - Cooperatives account for approximately 25 percent of deposits and almost 28 percent of credits by end-2008 but are lightly supervised. - "General Regulatory Framework for Cooperatives" (entered into effect in 2007) aimed to establish capital requirements, classification of loans and provisioning requirements, liquidity requirements, and a basic framework for supervision. - Actions needed without delay: - (i) strengthen supervision and auditing regulations; - (ii) improve the system of statistics and data analysis; - (iii) enhance the administrative and operational capacities of the supervisory agency (INCOOP). - Protection of depositors: - A deposit guarantee fund (FGD) was created in December (text cuts off here for further details). *Source: _cr09182 - 12. Authorities’ plan. To help limit the adverse effects of the global crisis, the* ### 2003. While depositors paid their contributions, the government has fallen behind in ### _cr09182 - 2003. While depositors paid their contributions, the government has fallen behind in ### Financial sector vulnerabilities and recent policy responses - Deposit insurance fund (FGD/Fund) status: - Fund is currently worth US$80 million, of which US$60 million is in cash (deposits at BIS of US$50 million and US$10 million in local currency deposits at the BCP). - As of February 2009, the Fund covered about 1½ percent of total deposits and 4 percent of eligible deposits, well short of the 10 percent target set by law. - According to the 2003 original FGD law, the government is expected to contribute about US$50 million in interest-free, non-negotiable bonds, but so far has only contributed US$20 million. - Staff recommendation: honor promptly the financial commitments to the FGD to enhance resilience and credibility of the deposit insurance system. - Identified main vulnerabilities (authorities’ view): liquidity concerns, high level of dollarization, drying-up of external credit lines, and deterioration of credit quality. - Liquidity measures introduced: - October 2008: short-term facility providing liquidity at a penalty rate (FLIR); penalty rate is 10.5 percent. To date, no financial institution has used the facility. - Central Bank reduced reserve requirements: by 4½ percentage points on foreign-currency denominated deposits and by 2 percentage points on domestic currency-denominated deposits in November 2008. - February 2009 adjustments: reserve requirements on FX term deposits of 361-540 days were reduced to 16.5 percent, and those on deposits of over 540 days were reduced to zero as were those on domestic currency deposits of over 360 days. - Operational responses: - Bank resolution framework is being strengthened. - Superintendency of Banks established a Financial Stability Department to monitor effects of the global financial crisis. - Authorities discussing capitalization of part of exceptionally strong 2008 profits to enhance capital buffers. ### Bank restructuring, resolution framework, and central bank recapitalization - Framework shortcomings: - Responsibility for the ultimate liabilities in case of bank intervention needs clarification. - Superintendency of Banks (SIB) covered by insurance against personal liability for bank intervention and resolution, but needs formal powers to apply administrative sanctions and remedial procedures. - Any restructuring should aim to consolidate the financial system while ensuring public financial support is repaid over time. - Central Bank (BCP) recapitalization: - Past bank bailouts caused BCP’s capital to become negative, impairing policy capacity. - Estimated BCP capital shortfall of about 6 percent of GDP. - Government expected to send, by end-2009, legislation to Congress to allow for a recapitalization through a transfer of marketable treasury bonds that might, in the medium term, replace LRMs. ### Commercial banks and regulatory/supervisory reforms - April 2007 strategy: improve governance rules, enhance independence of Superintendency of Banks, strengthen “fit and proper” criteria, and strengthen capital requirements. - Key implementation: - Resolución 1 (October 2008) on assets classification and provisioning requirements replaced Resolución 8 of 2003. - Remaining gaps to improve compliance with Basel Core Principles: - Amend Banking Law and Central Bank Law to: (i) improve governance rules; (ii) enhance independence and sanctioning capacity of the Superintendency of Banks (SB); (iii) further strengthen “fit and proper” criteria; and (iv) strengthen capital requirements. - Other intermediaries: insurance companies and pension funds need strengthened regulatory and supervisory frameworks; they are estimated by some to account for about 10 percent of financial system assets (of approximately 50 percent of GDP). ### Foreign exchange pressures and lender-of-last-resort capacity - Dollarized economy risks: - Central bank’s foreign exchange position must be strong enough to withstand sudden increases in public preference for foreign currency. - Large proportion of unhedged borrowers and difficulty executing collateral imply significant foreign-exchange-induced credit risk for private sector balance sheets (2005 FSAP observation). - Policy actions to moderate pressures: - Tighter regulations on net foreign assets positions: limit for long positions reduced from 50 percent to 30 percent of capital. - Introduced a limit of US$1 million for the change in the daily position. - Staff recommendation: BCP should bolster lender-of-last-resort capabilities through international support if needed. ### Lessons from previous banking crises (Box 4: Paraguay, 1995–2003) - Historical crisis costs: - Early crises cost around 15 percent of GDP; 2002 and 2003 crises cost 1 percent of GDP. - Summary of crisis episodes (date, bank size by deposit share, policy response): - 1995: Second and third largest banks with 16 percent of deposits; authorities honored deposits in intervened banks without imposing sanctions on underperforming banks. - 1997: First bank with 7 percent of deposits; authorities closed two banks, increased deposit insurance coverage, regulatory forbearance and transfer of public sector deposits to weak banks. - 1998: Fourth largest bank with 6 percent of deposits; bank closed and SIB encouraged merger and recapitalization. - 2002: Third bank with 11 percent of deposits; bank closed (deposit freeze in Argentina led to local run). - 2003: 8th largest bank with 5 percent of deposits; bank closed (fraud). - Distilled lessons: - Identify solvency vs. insolvency; supporting fundamentally insolvent institutions is unlikely to succeed if inefficient owners remain. - Generous de facto deposit guarantees distort incentives; guarantees should be limited and tied to effective restructuring plans. - Clarify who bears ultimate cost (Treasury) upfront to avoid burdening central bank balance sheet with non-performing assets. - Private sector lending recovers slowly even if profitability indicators rebound. ### Medium-term policies to sustain growth and reduce poverty - Overall assessment: - Paraguay is well placed to confront global financial turbulence due to prudent macroeconomic policies, continued fiscal surpluses, and reduced public debt burden. - With an appropriately designed and implemented recovery plan, Paraguay can support economic activity and social needs while setting basis for sustained growth. - Structural reform agenda priorities: - Create budgetary room for social and infrastructure spending. - Strengthen the budgetary framework. - Sustain growth and boost competitiveness. - Measures to directly reduce poverty. ### Fiscal and budgetary measures - Tax revenue context: - Paraguay has one of the lowest tax revenue-to-GDP ratios in Latin America. - Staff estimates that a combination of tax policy changes and administrative improvements could significantly increase the tax ratio over the medium term. - Tax policy recommendations: - Eliminate/restrict use of reduced VAT rates and exemptions. - Lower the number of products subject to excise tax but at higher rates. - Rationalize the special regime for small taxpayers. - Recent and pending changes: - Authorities eliminated the use of VAT credits against IMAGRO (tax on agricultural income); current stock of VAT credits can be used to continue offsetting IMAGRO revenues; given the size of the stock (around US$250 million), the IMAGRO revenues are estimated to pick up only by 2011. - Personal income tax (PIT) became effective from January 1, 2009, although yield will be substantially affected by extensive exemptions and deductions, and lack of withholding mechanisms. Congress recently approved a draft law to postpone once again the PIT implementation. - Tax and customs administration recommendations: - Submit new tax procedures code to Congress. - Enhance audit capacity on taxpayers. - Improve customs control. - Establish HR policies for tax and customs administrations. - Implement a comprehensive management system in tax and customs administration. - Expenditure and public financial management (PFM) priorities: - Consolidate all accounts into the “Single Treasury Account”. - Strengthen the medium-term expenditure framework to better integrate with annual budget cycle (e.g., include recurrent costs of any investment). - Limit Congress’ ability to modify budget envelope, particularly salaries. - Comprehensive pension system reform to ensure financial sustainability and improve efficiency and coverage. - Budget execution: - Staff recommended renewed efforts to increase execution rate of the budget, especially capital expenditures. - Authorities note intensified training in line ministries to increase implementation capacity. - Staff emphasized adopting a comprehensive public investment system to enhance efficiency and accountability of capital budget execution. ### Enhancing growth: SOEs, infrastructure, and FDI - SOE reforms: - Build on Consejo Supervisor de las Empresas del Estado (CSEE) progress and its scorecard information system; shortcomings include lack of reliable financial data and limited performance improvement. - Agreed reform focus: (i) establish incentive and sanctioning systems; (ii) adopt comprehensive strategic and business plans for all SOEs linked to realistic performance monitoring; (iii) encourage increased private participation, e.g., PPP mechanisms. - Targeted efforts needed for underperforming companies INC (cement production) and Petropar (oil products). - Infrastructure priorities: - Electricity: need to upgrade transmission and distribution despite abundant hydro-electricity; current power cuts and lack of capacity constrain new business projects. - Telecommunications: COPACO monopoly in landlines and internet has led to inefficient service at high unit costs; liberalization expected to bring private capital and improve service quality. - Roads: expansion of feeder road network would improve market access and raise incomes of rural communities. - FDI promotion: - FDI inflows have been relatively limited compared to regional peers despite a low corporate tax rate (10 percent). - Impediments include weak infrastructure, widespread informality, and perceived low judicial transparency regarding enforceability of contracts. ### Social investment and poverty reduction - Poverty trends: - Overall poverty reduced by growth over past five years, but extreme poverty rose from 15½ percent in 2005 to 19½ percent in 2007, mostly due to rising food prices. - Social protection recommendations: - Significant scaling up of the conditional cash transfer (CCT) program; program has been successful with meaningful improvements in poverty indicators among beneficiaries. - Institutionalization: adopt appropriate legislation to safeguard the CCT program. - Authorities’ medium-term target: coverage of 120,000 households (about 2⁄3 of the extremely poor). - Authorities intend to embark on construction of low-income housing and land reform. *Source: _cr09182 - 2003. While depositors paid their contributions, the government has fallen behind in* ### 26. Fiscal policy. The government’s plan to support the economy through fiscal stimulus ### 26. Fiscal policy. The government’s plan to support the economy through fiscal stimulus ### Fiscal policy - The government’s plan appropriately focuses on public investment and effective social programs to mitigate poverty, financed by external official resources. - To achieve desired impact, it will be important to: - Improve public financial management and inter-ministerial coordination to ensure timely and effective implementation, especially of the public investment program. - Improve tax and customs administrations to prevent a deterioration in compliance levels and avoid undesired revenue falls. - Set the recovery program in a medium-term context to better articulate priorities, encompassing an appropriate mix of short-term temporary measures with immediate impact on employment and growth, and medium-term sustainable programs to develop infrastructure and advance the social agenda. ### Monetary policy - Inflation is on a firmly downward trend, well within the Central Bank’s target range, in part due to weakening import prices. - Improved fundamentals have led to renewed confidence in the guaraní. - Authorities have reacted appropriately to adverse economic conditions by easing monetary policy and injecting liquidity into the financial system by retiring sterilization bills. - Close monitoring is key; authorities need to respond promptly to signs of inflationary or balance of payments pressures. ### Exchange rate and external policies - Exchange rate flexibility acts as a shock absorber against commodity price fluctuations and strong regional linkages. - Staff analysis indicates that as of end-2008, the exchange rate was broadly in line with fundamentals. - While the banking system remains relatively well-sheltered from global turbulences, a tightening of external financing is to be expected. - Proposed external financing from international financial institutions to cover the fiscal stimulus would provide much-needed relief. ### Financial sector - The banking system is solid and recent improvements of prudential regulations are welcomed and should not be diluted. - Efforts are required to improve incentives for medium-term savings because the lack of long-term domestic funding constrains banks’ capacity to meet private sector financing needs. - Avoid directed credit schemes that would erode confidence. - Urgent measures are needed to strengthen regulation and supervision of cooperatives, insurance and retirement plans given the large amounts of funds intermediated by these sectors and the risks of contagion from perceived weaknesses. ### Structural Reforms - Continue progress across the reform agenda. - Priority: implement a strategy to strengthen the central bank balance sheet, since its chronic negative net worth could weaken monetary policy. - Administrative steps have been taken to improve supervision and launch reforms of SOEs, but these need decisive actions to enhance efficiency and financial viability to remove bottlenecks in productive capacity. - Sustain efforts to improve the business environment, especially in the area of contract enforceability. ### Risks - External risks: - Exports would suffer if commodity prices remain depressed and export demand falls, particularly following a slowdown in trading partners affected by tightening credit conditions. - Remittances will also be negatively affected. - Foreign direct investment and financing are likely to be lower in 2009–10. - Maintaining a strong reserve position is needed to bolster confidence, especially in view of the high dollarization of the banking system. - Domestic risks: - Slow implementation of the recovery plan could blunt its effectiveness as an anti-cyclical tool and erode support for reforms. - Emergence of financial weaknesses in a cooperative or small bank might threaten contagion. - Political risks: - Fragmentation in Congress might thwart the government’s ability to adopt effective anti-crisis measures and implement its reform agenda. - Pressures from interest groups may emerge to backtrack on recent reforms or to increase spending on distortionary or non-sustainable measures that would undermine macroeconomic stability. *Source: _cr09182 - 26. Fiscal policy. The government’s plan to support the economy through fiscal stimulus* ### 32. Consultation. The staff proposes that the next Article IV Consultation take place ### _cr09182 - 32. Consultation. The staff proposes that the next Article IV Consultation take place ### Consultation - The staff proposes that the next Article IV Consultation take place within the 12-month cycle. ### Real Sector Developments - Real GDP growth was solid in 2008 but growth decelerated sharply in 2008Q3 after a strong acceleration in 2007 and early 2008. - Energy and food supply shocks have reversed, contributing to a decline in inflation despite possible pressures from the depreciation of the currency. - The unwinding of supply shocks contributed to the decline of core inflation. - Agriculture, livestock, secondary, and services components show variability: GDP annual growth series presented for sectors (Agriculture/Livestock, Secondary, Services, GDP). - Primary export volumes declined, as evidenced by export volume indices for Soya, Wheat, and Meat (index, 2007 = 100, SA). Key statistics (as presented): - Real GDP growth series for Paraguay and peers (2005–2008) shown on charts. - Index of economic activity (IMAEP) and Y-o-Y growth series graphed (Jan-05 to Oct-08). - Inflation (annual growth, percent): Headline, Core, Non food non transport series (Jan-05 to Oct-08). ### Fiscal Developments - Significant progress in reducing fiscal imbalances in line with regional trends; Paraguay performed better than MERCOSUR partners. - Paraguay has one of the strongest fiscal positions in the region and one of the lowest levels of public debt in the region. - Improvements achieved through: - Improved revenue performance. - Contained current expenditures. - Fiscal policy described as quite counter-cyclical with good tax revenue performance and well-contained current expenditures. - Capital expenditures were heavily underexecuted in the year under review. - Execution rate of capital budget fell (index series, 2004–2008). Selected fiscal figures (from Central Government and Consolidated Public Sector tables): - Total revenues (Jan-Dec 2006 reported as 9,588; later series show totals and quarterly breakdowns). - Tax revenues and components: Corporate taxes, Excises, Value added tax, Import Duties, Other. - Nontax revenues and notable receipts: Itaipu-Yacyreta (e.g., 1,883; 2,042; quarterly entries shown). - Current expenditures, including Wages and salaries, Goods and services, Interest payments, Transfers (including pensions and benefits). - Capital expenditures and net lending and capital expenditure underexecution noted. - Overall balance examples: e.g., Overall balance entries include 485, 478, 0, 2,193, 1,830, 389, 866, 897, -545 (presented in table context). - In percent of GDP: Total revenues series include entries such as 18.3, 17.6, 4.3, 8.9, 13.4, 18.3, etc.; overall balance examples include 0.1, 0.9, 1.2, 2.1, 3.1, 2.6, 0.5, 1.2, 1.2, -0.7. Consolidated public sector (selected): - Revenue (2006–2009 projections): e.g., Revenue 11,821 (2006), 13,508 (2007), projections to 2009 shown. - Primary balance memorandum: Primary balance 3.7, 3.4, 2.3, 3.9, 5.1, 3.9, 0.3 (percent of GDP series in Table 3). ### Monetary Developments - Currency and credit to the economy grew at a very high speed until the third quarter; foreign inflows fueling currency growth started to revert as early as July. - Monetary authorities attempted to resist downward pressures on the exchange rate until October; in October the central bank and commercial banks adjusted measures to provide sufficient liquidity. - As financial constraints became binding, the central bank reduced reserve requirements and decreased its policy rate while banks raised deposit and lending rates. - Inflation and the LRM rate rose in response to external shocks in 2007 but declined as shock effects dissipated. - Banks reallocated assets away from sterilization paper (LRM) and used free reserves at the central bank; lending continued to increase until October despite early deposit declines. Key monetary statistics (preserved exactly as presented): - Reserves (lhs, US$ million) and Currency growth (rhs, y-o-y) series (Jan-06 to Jan-09). - FX intervention (lhs, mo US$) and Guarani / US$ (rhs, inverted scale) series (Jan-06 to Jan-09). - Deposit and credit growth indicators: monthly and y-o-y series (Jan-07 to Jan-09). - LRM (lhs) and Free reserves (rhs) series (Jan-06 to Jan-09). - Local currency interest rates (average weighted by maturity): LRM rate, Lending rate, Deposit rate on Certificate of Deposits (Jan-06 to Jan-09). - LRM rate (at 91 days) and Core inflation rate series (Jan-06 to Jan-09). Central Bank summary (selected numbers from Table 4): - Currency issue examples: 3,371; 4,326; 4,326; 4,168; 4,385; ... projected to 7,821 (2014) — series given by period. - Net international reserves (in local units and US$): e.g., 8,514; 12,555; 12,309; 13,189; 15,983; (In millions of U.S. dollars) 1,703; 2,462; 2,462; 2,638; 3,197; ... - Monetary base and annual growth: Monetary base 4,724; 6,390; 6,390; 6,510; 6,901; ... with annual growth rates such as 13.0, 35.3, 35.3, 26.0, 33.9, 27.2, ... - Total stock of LRMs outstanding (memorandum): 3,224; 3,907; 3,907; 4,491; 5,543; 4,828; ... Exchange rate valuation notes: - Foreign-currency denominated items valued at 5,100 guaraníes per U.S. dollar for dates preceding December 2007. - Foreign-currency denominated items valued at 4,000 guaraníes per U.S. dollar for dates following December 2007. ### Financial System Developments - Financial markets are the least developed in the region but continued expanding and strengthening as macroeconomic conditions improved. - Maturity of assets and liabilities lengthened. - Loans performed well, contributing to declining financial delinquency and increased profitability. - The system remains well-capitalized with CARs well above the 10 percent regulatory minimum. - Market capitalization is low but capital markets are considered ripe for development. - Credit to the private sector is beginning to recover, increasing financial deepening; dollarization continues to decline. Banking indicators (selected exact figures): - Capital Adequacy Ratio (total banking system): 20.9, 20.5, 20.4, 20.1, 16.8 (years 2003–2007). - NPLs/total loans (total banking system): 20.6, 10.8, 6.6, 3.3, 1.3 (2003–2007). - ROA and ROE trends presented (ROA 0.4, 1.7, 2.1, 3.0, 2.8; ROE 4.5, 18.3, 22.6, 31.7, 34.7 for same period). - Market capitalization (percent of GDP) positioned low for Paraguay versus peers in chart series. - Private credit (percent of GDP) increasing trend (1996–2008 series). Banking system summary (Table 5 highlights): - Net foreign assets and net domestic assets series for Central Bank and Monetary Survey across 2006–2014 projections. - Broad Liquidity (M4) series: 13,603; 17,846; 17,725; 20,178; 21,766; ... projected to 32,757 (2014). - Credit to the private sector levels: 6,991; 10,316; 10,223; 11,885; 12,958; ... projected to 22,593 (2014). ### Balance of Payments Developments - Continued large flows from hydroelectric binational entities led to increased net international reserves (NIR). - Surging soy export prices contributed to strong export performance through 2007; growth in imports widened the trade balance. - External position weakened somewhat in 2008 largely due to surging fuel prices and a slowdown in regional trade partners. - Paraguay's external current account recorded a deficit in 2008 on account of high fuel prices. - Appreciation against the US dollar was strong in 2007 and 2008 compared to most countries in the region, assisted by depreciation of the real effective exchange rate. Selected external figures (preserved): - Real Effective Exchange Rate index (1991–2008 series, average=100). - Exports (millions of US dollars) time series for Cereals, Meat, Soy, Cotton (2003–2008). - Trade (percent of GDP) series with Registered exports, Re-exports, Imports, Trade balance (2003–2008). - Current Account (percent of GDP): e.g., Paraguay series for 2005–2008 shown in chart. - Reserve indicators: NIR in months of imports (lhs) and Receipts from binationals (mn US$, rhs) series. - Balance of Payments Table 7 (selected projections): - Current account (2006–2008 and projections): 45; 82; -227; -153; -133; -3; 116; 138; 120 (table series across years). - Trade balance series: -696; -520; -1,034; -758; -782; -754; -764; -825; -908 (2006–2014 projection sequence). - Exports and Imports series with registered and unregistered components; notable import o/w fuel products: e.g., -701; -723; -1,308; -596; -715; -814; -906; -990; -1,080. - Gross reserves projections (in millions of U.S. dollars): 1,703; 2,462; 2,864; 2,864; 2,979; 3,103; 3,230; 3,360; 3,495. Memorandum items (from Balance of Payments): - Current account in percent of GDP (historical and projections): 0.5; 0.7; -1.4; -1.0; -0.9; 0.0; 0.7; 0.8; 0.6. - Gross reserves (in millions of U.S. dollars) series: 1,703; 2,462; 2,864; 2,864; 2,979; 3,103; 3,230; 3,360; 3,495. - Net international reserves (increase -) and Overall Balance series provided in table. ### Indicators of External Vulnerability and Medium-Term Scenario - Monetary and financial indicators: - Broad money (M3), percentage change: 18.3, 13.5, 10.0, 14.8, 31.5, 15.6 (2003–2008). - Credit to the private sector, real (percentage change): -25.7, 12.0, 4.9, 3.5, 38.2, 27.0 (2003–2008). - Share of nonperforming loans in total loans (percent): 20.6, 10.8, 6.6, 3.3, 1.3, 1.2 (2003–2008). - Average domestic lending rate, real: 19.3, 17.4, 18.5, 15.4, 19.2, 20.7. - Central Bank bill yield, real: -1.2, 1.0, -0.1, 0.8, 1.3, 1.6. - International reserves (millions of US$): 983; 1,168; 1,297; 1,703; 2,462; 2,864. - External indicators: - Merchandise exports (percentage change): 16.8, 32.0, 17.4, 31.2, 24.4, 42.0 (2003–2008). - Merchandise imports (percentage change): 14.4, 27.0, 22.9, 33.7, 17.6, 46.9. - Merchandise terms of trade (percentage change): 0.1, -1.4, -9.9, -2.3, 6.2, -1.1. - Real effective exchange rate (percentage change): -6.6, 3.7, -6.5, 13.0, 10.8, 16.4. - Current account balance (percent of GDP): 2.3, 2.1, 0.3, 0.5, 0.7, -1.4. - External public debt (percent of GDP): 48.1, 41.3, 34.6, 25.4, 19.9, 18.6 (2003–2008). - Debt service (in percent of exports GNFS): 11.5, 7.3, 8.7, 6.5, 5.5, 3.9. - Medium-term macro framework (Table 9 highlights): - Real GDP growth (annual percentage change) trajectory (2004–2014): 4.1, 2.9, 4.3, 6.8, 5.8, 0.5, 1.5, 3.0, 4.0, 5.0 (selected sequence). - Consumer prices (annual percentage change) series: 2.8, 9.8, 12.5, 5.9, 7.5, 5.5, 5.0, 4.0, 3.0, 3.0. - Public finances and debt projections: Revenues, current primary expenditures, capital expenditures, primary and overall balances, public sector debt (percent of GDP) time series provided. *Source: Paraguayan Authorities and Fund staff estimates (excerpts from the IMF staff report tables and figures).* ### APPENDIX 1: DEBT SUSTAINABILITY ANALYSIS ### APPENDIX 1: DEBT SUSTAINABILITY ANALYSIS ### Overall assessment - Paraguay’s external and public debt outlook is quite robust to alternative assumptions for the underlying macroeconomic variables. - A scenario setting key variables at their historical averages significantly improves the overall debt dynamics beyond the baseline. - Additional temporary negative shocks to key variables, such as interest rates, the exchange rate, and GDP growth, would lead to some increase in the level of public and external debt, but the ratios return to a declining path once conditions normalize. ### Public debt: baseline, scenarios, and risks - Current public debt levels are described as quite low and are likely to remain so under various scenarios. - Baseline projection: - Debt-to-GDP ratio is expected to decline from 19 percent to 15 percent. - Most adverse scenario: - Debt level would rise to about 27 by 2014. - Main risks not explicitly considered in the current DSA framework: - A sharper and prolonged decline in GDP growth should the global crisis prove far worse than expected. - Approval by Congress of highly expansionary expenditure policies. - Figure AI.1 notes and methodology (as presented): - Shaded areas represent actual data. - Individual shocks are permanent one-half standard deviation shocks. - Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. - Ten-year historical average for the variable is also shown. - Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and primary balance. - One-time real depreciation of 30 percent and 10 percent of GDP shock to contingent liabilities occur in 2009, with real depreciation defined as nominal depreciation (measured by percentage fall in dollar value of local currency) minus domestic inflation (based on GDP deflator). - Selected scenario summary values shown in figure annotations: - Baseline and historical scenarios: Historical 6; Baseline 16. - Combined shock: Combined shock 22; Baseline 16. - Contingent liabilities shock: 24; Baseline 16. - Primary balance and no policy change scenario annotations: - Baseline: 0.6 - Scenario: -0.7 - Historical: 1.2 - Baseline (gross financing need right scale): 2.8 - Scenario: 1.3 - Historical: 2.0 - Baseline: 0.8 - Scenario: 2.9 - Historical: -5.8 ### External debt: baseline, scenarios, and shocks - External debt levels remain low and are projected to remain around 20 percent of GDP in the medium term. - Historical context: - Strong real GDP growth over the past few years contributed to a significant reduction in external debt in 2008 to below 20 percent of GDP from almost 25 percent in 2007. - Near-term projection drivers: - External debt ratio is expected to increase by about 2 percentage points of GDP in the coming years due to increased donor financing of public investment and the below-trend GDP growth as a result of the global recession. - Medium-term outlook: - Debt ratios will stabilize as growth returns to its trend level. - Shock simulations: - The extreme shock would be that of currency deprecation, which would raise the debt to GDP ratio by about 10 percentage points in the medium term. - Figure AI.2 notes and methodology (as presented): - Shaded areas represent actual data. - Individual shocks are permanent one-half standard deviation shocks. - Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. - Ten-year historical average for the variable is also shown. - Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance. - One-time real depreciation of 30 percent occurs in 2009. - Selected scenario summary values shown in figure annotations: - Baseline and historical scenarios: Historical 17; Baseline 22. - CA shock: 29; Baseline 22. - Combined shock: Combined shock 27; Baseline 22. - Real depreciation shock (30% depreciation): 33; Baseline 22. - Growth shock annotations: - Baseline: 4.6 - Scenario: 4.9 - Historical: 3.9 - Baseline: 3.2 - Scenario: 1.6 - Historical: 2.3 - Baseline: 1.1 - Scenario: 0.0 - Historical: 1.1 ### Gross financing needs and vulnerabilities - Gross financing need is highlighted in both public and external debt figures (noted as "Gross financing need under baseline (right scale)"). - Identified vulnerability: - Currency depreciation is the most damaging one-time shock considered (one-time real depreciation of 30 percent in 2009 is used in scenarios). *Source: APPENDIX 1: DEBT SUSTAINABILITY ANALYSIS* ### ANNEX 2. PARAGUAY—WORLD BANK RELATIONS ### ANNEX 2. PARAGUAY—WORLD BANK RELATIONS ### Country Assistance / Partnership Strategy - Ongoing Country Assistance Strategy (CAS) approved in December 2003. - New Country Partnership Strategy (CPS) to be submitted to the Board of Executive Directors for consideration on 5 May, 2009. - CPS proposes an envelope of US$500 million for FY09-FY13 and a rich non-lending program in the Government’s priority areas. - CPS will be flexible to accommodate changing needs and priorities, and frontloaded to assist the authorities in addressing the global crisis. - CPS focus: improving governance and building state institution, as well as reducing poverty and enhancing growth. - Program identified for the initial two years of the CPS: US$265 million. ### Portfolio and Projects (as of March 31, 2009) - Bank portfolio consists of two projects under implementation: - Road Maintenance Project (US$74 million, approved in FY07). - Secondary Education Reform (US$24 million, approved in FY04). - Two projects awaiting effectiveness pending Parliamentary approval: - Sustainable Agricultural Development (US$37.5 million, approved in January 2008). - Additional Financing for the Community Development project (US$9.0 million, approved in FY08). - Scheduled for Board consideration on 14 April 2009: - Water and Sanitation Sector Modernization Project for US$64 million. - The four World Bank-financed projects presently under implementation or awaiting ratification by Parliament: - Total value of commitments: US$144.5 million. - Undisbursed as of March 31, 2009: US$119 million. ### Grants and Analytical Work - Grants mobilized for: - Institutional strengthening of Congress (US$0.4 million). - Institutional strengthening of the Ministry of Finance (US$0.3 million). - Improving the management of indigenous lands (US$1.7 million). - Support social development in two municipalities (US$0.9 million). - Promote development in indigenous communities (US$1.6 million). - Improve biodiversity and forestry: - US$0.3 million from the Institutional Development Fund. - US$0.3 million and US$0.9 million from the Global Environment Fund. - Paraguay elected to become a governance and anti-corruption (GAC) pilot country. - Analytical work completed or underway: - FY07: Land Tax Study and an Integrated Fiduciary Assessment (jointly with the Interamerican Development Bank and the European Union). - FY08: Secondary Education Attainment Assessment and the Policy Notes for the New Administration. - FY09: Mercosur Trade Study and a Transport Sector Assessment completed. - Underway/planned: A Fee for Services for the Payments System and a Programmatic Poverty Assessment (planned for FY09). ### Financial Relations With The World Bank — IBRD/IDA Active Operations (as of March 31, 2009) - Active loans (Committed / Disbursed / Undisbursed): - Education Reform — 24.0 / 22.5 / 1.5 - Road Maintenance — 74.0 / 3.0 / 74.0 - Sustainable Agricultural Development — 37.5 / 0.0 / 37.5 - Pilot Community Development Project (AF) — 9.0 / 0.0 / 9.0 - Total active loans — 144.5 / 25.5 / 119.0 - Aggregate balances and status: - Total IBRD/IDA 865.1 - Repaid 797..0 - Total outstanding 292.3 - O/w IBRD (including exchange rate adjustment) 276.3 - O/w IDA 16.0 ### IFC Operations (as of March 31 2009) - Commitments: - Loans 625 - Equity 0.0 - Total 62.5 - Held by IFC 0.0 / 0.0 / 0.0 - Undisbursed 0.0 / 0.0 / 0.0 ### IBRD/IDA Loan Transactions (calendar year) - Disbursements by year: - 1999: 42.1 - 2000: 46.6 - 2001: 26.8 - 2002: 13.5 - 2003: 42.3 - 2004: 16.2 - 2005: 16.7 - 2006: 31.9 - 2007: 13.0 - 2008: 9.1 - Repayments by year: - 1999: 24.6 - 2000: 20.2 - 2001: 15.3 - 2002: 16.8 - 2003: 21.0 - 2004: 34.8 - 2005: 26.6 - 2006: 27.5 - 2007: 27.5 - 2008: 29.9 - Net Lending by year: - 1999: 17.5 - 2000: 26.4 - 2001: 11.5 - 2002: -3.3 - 2003: 21.3 - 2004: -18.5 - 2005: -9.9 - 2006: 4.3 - 2007: -14.5 - 2008: -20.7 *Prepared by the staff of the World Bank (As of March 31, 2009).* ### 2006. The country is a GDDS participant. ### _cr09182 - 2006. The country is a GDDS participant. ### A. Real Sector - National accounts estimates released in 2005 are broadly consistent with the guidelines of the 1993 SNA. - Major data and compilation shortcomings: - No comprehensive regular program for data collection through economic censuses and surveys exists (an industrial survey was conducted in 2002). - Source data for nonfinancial services, household consumption, and changes in inventories are insufficient. - The 1994 reference year needs to be updated. - Excessive use is made of fixed coefficients for value added and household consumption. - Changes in inventories are obtained residually. - Informal activities are not monitored. - Supply and use tables have been compiled only until 1997. - Periodicity and timeliness: - Periodicity of annual GDP meets GDDS recommendations. - Timeliness does not meet GDDS recommendations because data are disseminated with a lag of 11 months. - Quarterly national accounts (QNA): - An STA mission on the compilation of QNA was fielded in August 2007 and August 2008. - Production of definite QNA series would need to await a revision of the national accounts base year and the compilation of supporting basic data, tentatively scheduled for completion by 2009/10. - Price indices and labor statistics: - Both the consumer (CPI) and producer price indices (PPI) are reported on a regular and timely basis. - Since January 2008, the Central Bank of Paraguay (BCP) has been using a new CPI index based on the 2005–06 household budget survey. - CPI geographic coverage is limited to Asunción and expenditure weights represent urban household consumption patterns. - PPI has a base weight period of December 1995, a basket of 150 items, and excludes electricity, water, gas, and services. - Since the introduction of a regular household survey in 1998, coverage and quality of employment and unemployment statistics have improved; frequency remains annual and publication lag is close to one year. - Wage indices are updated twice a year. - Resources and capacity: - The data ROSC mission found resources insufficient for real sector statistics, constraining full adoption of the 1993 SNA. - Authorities have been attempting to address resource shortcomings in the context of the new CPI compilation and provisional QNA production. ### B. Fiscal Sector - Coverage and consistency: - Government finance statistics (GFS) used internally and for WHD reporting are broadly consistent with GFSM 1986. - Authorities have not prepared a plan to migrate to GFSM 2001. - Data availability: - Monthly data are available for the central administration (budgetary central government). - Asset position of the social security system is available on a daily basis. - Central administration statistics include the Postal Service Directorate (a nonfinancial public corporation). - Nonfinancial public sector statistics include data of financial public corporations — four employer social insurance schemes treated as financial corporations in monetary and financial accounts. - Debt and reporting issues: - Data on medium- and long-term external debt are reliable and available monthly. - Domestic debt data are available on request but need full integration with the external debt database. - Deficiencies remain in recording short-term supplier and commercial credit of the public sector. - Discrepancy exists in fiscal data reported by monetary and fiscal authorities; measures are being taken to increase transparency. - Publication and reporting: - Annual data covering general government for 2006 were reported for publication in the 2007 GFS Yearbook. - Since 1994 no outstanding debt data and no breakdowns for expenditure by function have been provided for publication in the GFS Yearbook. - Monthly and quarterly data are not reported for publication in IFS. ### C. Money and Banking Sectors - Monetary data system: - Paraguay completed establishment of a unified compilation and reporting system for monetary data to harmonize data for BCP use, STA reporting, and operational/monitoring purposes. - Revision of classification criteria reduced discrepancies in interbank positions. - Coverage gaps and planned improvements: - Lack of coverage of credit cooperatives is a concern; they account for around ¼ of deposits and loans of the banking sector. - The BCP, with STA assistance, plans to include monthly data of the 20 largest credit cooperatives in the monetary survey during 2009. - Financial system oversight: - The Superintendency of Banks publishes a detailed and informative report on the soundness of the financial system. ### D. External Sector - Classification and availability: - Balance of payments and IIP classification follows BPM5 recommendations. - Quarterly and annual data on balance of payments and IIP are available from 2001 onwards on the central bank website and are reported once a year to STA for IFS publication. - Improvements and deficiencies: - Improvements in quality of capital flow data, especially coverage of foreign direct investment and recording of external debt transactions. - Special central bank studies improved estimation methods for remittances and unregistered trade, but serious deficiencies remain. - Deficiencies persist in recording private capital outflows due to Paraguay’s open capital account. - STA assistance: - An STA mission on Balance of Payments Statistics assisted the BCP in November 2006, focusing on: - Assessing surveys used to capture data on services, direct investment, nonfinancial private sector portfolio investment, and other investment. - Reviewing and updating techniques to calculate unrecorded trade. - Reassessing treatment of binational hydroelectric energy enterprises in external sector accounts. - Reviewing and preparing a preliminary template for reporting international reserves and foreign currency liquidity. ### Table of Common Indicators (as of March 31, 2009) — selected quality and frequency notes - Exchange Rates: Latest observation Mar. 2009; Date received 4/03/09; Frequency: Daily (D) for observation and reporting; Data Quality Methodological soundness: (not printed in full table here). - International Reserve Assets and Reserve Liabilities of the Monetary Authorities: Latest observation Mar. 2009; Date received 4/03/09; Frequency: Daily observation, Monthly reporting, Daily publication. - Reserve/Base Money: Latest observation Feb 2009; Date received 3/30/ 09; Frequency: Daily observation, Monthly reporting, Daily publication; Data Quality Methodological soundness: O, LNO, LO, O; Data Quality Accuracy and reliability: O, O, O, LO, LO. - Consumer Price Index: Latest observation Mar 2009; Date received 4/03/ 09; Frequency: Monthly; Data Quality Methodological soundness: O, LO, O, O; Data Quality Accuracy and reliability: O, LO, LNO, O, LO. - Revenue, Expenditure, Balance and Composition of Financing—General Government: Latest observation Feb. 2009; Date received 3/30/ 09; Frequency: Monthly; Data Quality Methodological soundness: LO, LO, LO, LO; Data Quality Accuracy and reliability: LO, LNO, O, LO, LO. - Stocks of Central Government and Central Government-Guaranteed Debt: Latest observation Dec. 2008; Date received 3/30/ 09; Frequency: Quarterly. - External Current Account Balance: Latest observation Dec. 2008; Date received 3/30/ 09; Frequency: Quarterly; Data Quality Methodological soundness: O, LO, LO, LO; Data Quality Accuracy and reliability: LO, O, LO, LO, LO. - GDP/GNP: Latest observation 2009; Date received 3/30/ 09; Frequency: Annual; Data Quality Methodological soundness: O, LO, LO, LO; Data Quality Accuracy and reliability: LO, O, LNO, O, LO. - Footnotes (selected): Frequency codes D, W, M, Q, A, I, NA; Reserve assets include pledged assets and net derivatives; Interest rates include market-based and official rates; General government includes central, extra budgetary, social security, and state/local governments; Public sector debt figures based on end-of-period exchange rate conversion of U.S. dollar-denominated debt. ### Public Information Notice: IMF Executive Board Conclusions (May 20, 2009) — key findings and projections - Background and outlook: - Paraguayan economy performed very well over past five years, with real GDP growth averaging about 5 percent a year. - Economy grew by nearly 6 percent in 2008, with deceleration in the last quarter. - Global deterioration and an agricultural drought impacted the outlook. - Economic growth in 2009 expected to decelerate to about ½ percent. - Inflation projected at 5½ percent by end-2009. - Budget recorded a sizeable surplus of 2½ percent of GDP in 2008. - External current account deficit expected to moderate to 1 percent of GDP in 2009. - Government Economic Recovery plan components: - (i) A fiscal stimulus of about 3 percentage points of GDP in 2009. - (ii) Steps to provide liquidity to the banking system to enhance lending. - (iii) Securing additional external financing from multilaterals (including contingent credit lines). - (iv) Addressing medium-term structural issues, including public financial management and financial sector reform. - Fiscal stance and implementation: - Fiscal stimulus focuses on public investment and social programs, including targeted conditional cash transfers. - Full implementation would be consistent with an overall deficit of ¾-1 percent of GDP in 2009, expected to be financed by multilateral and bilateral disbursements. - Emphasis on effective, timely implementation and transparent monitoring. - Executive Board assessment and advice: - Paraguay faces the downturn from a position of relative strength due to prudent macroeconomic policies and buffers. - Directors supported authorities’ priorities: consolidate macro stability, implement structural reforms (especially financial sector), and strengthen social conditions with emphasis on poverty reduction. - Directors welcomed the recovery plan and advised focusing the stimulus on public investment and targeted social programs. - Need to improve public financial management and inter-ministerial coordination emphasized. - Encouraged further improvements in tax and customs administrations and recommended refraining from granting tax concessions. - Supported accommodative monetary policy given slowdown and downward inflation trend; recommended close monitoring for inflationary or balance of payments pressures. - Encouraged strengthening the central bank’s balance sheet to improve monetary policy effectiveness. - Flexible exchange rate regime seen to be serving Paraguay well; staff assessed the exchange rate as broadly in line with fundamentals. - Urged continued vigilance given rapid credit growth and recommended enhanced regulation and supervision of financial cooperatives and retirement plans; noted need to improve prudential framework for insurance companies. - Welcomed authorities’ commitment to fully finance the Deposit Guarantee Fund. - Emphasized need to address operational and financial weaknesses of state-owned enterprises. ### Selected Economic Indicators, 2004–09 (highlights) - Real GDP at constant prices (annual percent change): 2004: 4.1; 2005: 2.9; 2006: 4.3; 2007: 6.8; 2008 Est.: 5.8; 2009 Proj.: 0.5. - GDP at current prices (annual percent change): 2004: 16.4; 2005: 11.2; 2006: 13.2; 2007: 17.7; 2008 Est.: 13.3; 2009 Proj.: 7.4. - Consumer prices (end-of-period): 2004: 2.8; 2005: 9.8; 2006: 12.5; 2007: 5.9; 2008 Est.: 7.5; 2009 Proj.: 5.5. - Exports, f.o.b. (percentage change): 2004: 32.0; 2005: 17.4; 2006: 31.2; 2007: 24.4; 2008 Est.: 42.0; 2009 Proj.: -13.3. - Imports, c.i.f. (percentage change): 2004: 27.0; 2005: 22.9; 2006: 33.7; 2007: 17.6; 2008 Est.: 46.9; 2009 Proj.: -14.9. - Current account (in millions of U.S. dollars): 2004: 143; 2005: 19; 2006: 45; 2007: 82; 2008 Est.: -227; 2009 Proj.: -153. - Current account (percent of GDP): 2004: 2.1; 2005: 0.3; 2006: 0.5; 2007: 0.7; 2008 Est.: -1.4; 2009 Proj.: -1.0. - Gross domestic investment (percent of GDP): 2004: 19.2; 2005: 19.8; 2006: 19.6; 2007: 18.0; 2008 Est.: 18.3; 2009 Proj.: 17.7. - Gross national savings (percent of GDP): 2004: 21.4; 2005: 20.0; 2006: 20.1; 2007: 18.7; 2008 Est.: 16.9; 2009 Proj.: 16.7. - Central government primary balance (percent of GDP): 2004: 2.7; 2005: 1.9; 2006: 1.5; 2007: 1.8; 2008 Est.: 3.3; 2009 Proj.: 0.2. - Central government overall balance (percent of GDP): 2004: 2.0; 2005: 0.6; 2006: 0.1; 2007: 0.9; 2008 Est.: 2.6; 2009 Proj.: -0.7. - Public sector debt (end-of-year, percent of GDP, Nonfinancial Public Sector): 2004: 45.1; 2005: 37.7; 2006: 27.7; 2007: 21.8; 2008 Est.: 19.3; 2009 Proj.: 19.5. - Consolidated public sector debt (percent of GDP): 2004: 48.8; 2005: 42.7; 2006: 34.1; 2007: 28.2; 2008 Est.: 23.8; 2009 Proj.: 21.7. - Monetary indicators (annual percent change): Monetary base — 2004: 17.6; 2005: 4.3; 2006: 13.0; 2007: 35.3; 2008 Est.: 18.1; 2009 Proj.: 25.4. M2 — 2004: 24.6; 2005: 16.1; 2006: 15.3; 2007: 38.6; 2008 Est.: 21.3; 2009 Proj.: 8.9. Credit to the private sector — 2004: 15.0; 2005: 15.1; 2006: 29.0; 2007: 46.2; 2008 Est.: 36.5; 2009 Proj.: 9.7. - International reserves (millions of U.S. dollars): 2004: 1,168; 2005: 1,297; 2006: 1,703; 2007: 2,462; 2008 Est.: 2,864; 2009 Proj.: 2,864. - International reserves (months of imports): 2004: 3.4; 2005: 2.8; 2006: 3.2; 2007: 3.2; 2008 Est.: 4.3; 2009 Proj.: 4.0. - GDP (in billions of Guaranies): 2004: 41,522; 2005: 46,169; 2006: 52,270; 2007: 61,512; 2008 Est.: 69,708; 2009 Proj.: 74,842. ### Statement by Paraguayan Authorities (May 1, 2009) — key points - Recent performance: - 2008 GDP growth reached 5.8 percent; 5-year average growth 4.8 percent versus a historical rate of 3.7 percent. - Growth supported by sound macro policies, structural changes, favorable commodity prices, and exceptional weather conditions. - Subsequent declines in commodity prices, drought, and export market disruptions have affected the primary sector; modest growth still expected in 2009. - Policy objectives: - Consolidate macroeconomic stability over the medium term. - Continue critical structural reforms. - Significantly boost social conditions, focusing on vulnerable groups. - Fiscal measures and recovery plan: - 2008 fiscal surplus of 2½ percent of GDP in central government accounts. - 2009 budget includes increases in capital spending and higher social spending to finance conditional cash transfer program to reach 120,000 families. - Wage bill increases mainly result from new personnel in health, education, and security. - Economic Reactivation Plan projected to cost 2-3 percent of GDP in 2009-2010; financing to combine domestic savings and external financing from IDB, World Bank, among others. - Authorities committed to close monitoring to ensure the plan is well-targeted, transparent, and coherent with objectives. - Tax policy and administration: - System of low tax rates, broad-based and easy to collect. - Personal Income Tax implementation postponed by Congress until 2010; President vetoed the postponement, and its final operational status depends on Congress. - Improvements in tax administration have increased revenues and transparency, reducing rent-seeking opportunities. - Monetary sector: - Headline inflation reached 7.5 percent year-on-year in December 2008; at end-March 2009, annualized inflation dropped (exact end-March value not provided in source excerpt). *Source: _cr09182 - 2006. The country is a GDDS participant.* ### 3.4 percent as a consequence of the global economic slowdown and thanks to a coordinated ### _cr09182 - 3.4 percent as a consequence of the global economic slowdown and thanks to a coordinated ### Inflation outlook and macroeconomic policy response - Staff and authorities project inflation of 5½ percent in 2009 and 5 percent in 2010. - Easing of monetary policy in response to adverse conditions: - Central Bank injected liquidity by lowering reserve requirements. - Central Bank decreased the interest rates of its sterilization instruments. - Authorities view projected growth decline of 3.4 percent as a consequence of the global economic slowdown and the result of coordinated monetary and fiscal management. - Prudent fiscal and monetary management in recent years permitted a continued decline in the debt ratio and creation of substantial savings, enabling the possibility of implementing a stimulus plan to cope with declining growth prospects. ### Financial sector stability and supervision - Banking system characterized as solid and more stable following prudential regulatory improvements. - New rule on portfolio classification and provisioning requirements: - Approved in 2007 and fully implemented by October 2008. - Limited exposure to foreign banks’ credit helped shield the system from the global financial crisis. - Credit dynamics and asset quality: - Credit stabilizing and, from a very low base, currently growing at a much lower rate than a year ago. - Non-Performing Loans ratio currently at 1 percent. - Recent banking crises in Paraguay have led to conservative behavior by supervisors and bankers. - Degree of compliance with the Basel Core Principles for Effective Banking Supervision has substantially increased since the last FSAP. - Authorities requested an FSAP update, tentatively scheduled for the spring of 2010. ### Cooperative sector and external assistance - Main concern: cooperative sector, especially savings and loans cooperatives. - Immediate actions being taken to increase effective control of the sector. - International Financial Institution support: - World Bank and Inter-American Development Bank (IDB) assisting the sector. - IDB approved a loan to provide technical assistance to strengthen supervision and regulation of cooperatives. - Domestic coordination: - Economic Cabinet created a National Technical Committee led by the Ministry of Finance to coordinate efforts and monitor IFI resources. - IMF technical assistance requested by the authorities on cooperative-sector supervision and regulation. ### Deposit Guarantee Fund (FGD), bank resolution, and payments system - Deposit Guarantee Fund (FGD) created by law in 2003; funded by banks and the State. - Government payments to FGD: - Government has already paid $20 million. - Another $6 million is budgeted for the present year according to the schedule approved by the authorities. - Bank restructuring and resolution: - The law that created the FGD established a framework for bank resolution and clearly identifies responsibilities for troubled banks. - Framework was successfully used in the resolution of a finance company in recent years. - Payments System implementation: - Legal framework being prepared with IMF and World Bank technical assistance; final draft to be sent to Congress after Economic Cabinet approval. - Central Bank acquiring technological equipment with World Bank assistance. - Recent estimates indicate the system would be implemented by the second quarter of 2010. ### External developments and exchange rate - 2008 performance: - Exports registered record levels in 2008 despite a weaker global environment in the second semester. - Current account registered a deficit of 1½ percent of GDP at the end of the year. - Guaraní had appreciated by 17 percent annually by September 2008. - Central Bank of Paraguay accumulated record levels of international reserves in 2008. - 2009 developments: - Trend shifted between September 2008 and March 2009; Central Bank intervened in the exchange market to avoid sharper depreciation. - Presently, guaraní is stabilized at around the same level it was a year ago. - International reserves at the Central Bank have been increasing to almost $3 billion, the equivalent to 4¼ months of imports. - Authorities agree with staff’s appraisal that the guaraní exchange rate is in line with fundamentals. - Fiscal financing and reserves: - Projected bill to use international reserves to fund fiscal expenditures was promptly deactivated; draft bill withdrawn from Congress. - Legal disputes: - New government committed to resolve international dispute claims. - General Attorney of the Republic and the Legal Advisor to the Treasury cooperating to find resolutions. ### Final remarks and policy orientation - Authorities consider Fund programs and technical assistance important to Paraguay’s macroeconomic performance. - Sound macroeconomic policies and structural reforms consistent with the Fund’s advice place the country in a favorable position to face the global crisis. - Authorities determined to continue improving the business climate and promote investment to achieve higher and sustainable economic and social development. - Authorities thanked staff and Management for continuous support and committed to maintain ongoing policy dialogue. *Source: _cr09182 - 3.4 percent as a consequence of the global economic slowdown and thanks to a coordinated* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09182.pdf_