## _cr1460 — Impact of External and Domestic Shocks on Paraguay’s Non-Agricultural Sector (selected sections)

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### Recent developments (2012–2013)
- Real GDP:
  - 2012: -1.2 percent (contraction).
  - 2013: staff expects GDP growth to be about 13 percent; real GDP grew by 14.5 percent (y/y) in the first three quarters of 2013.
  - Non-agricultural sector in 2013: growing around potential.
- Primary sector and agriculture:
  - Primary sector accounts for about 30 percent of GDP.
  - Strong rebound in soy output drove the 2013 recovery.
- Fiscal position and public debt:
  - Central government fiscal balance in 2013: deficit of about 2 percent of GDP.
  - Public debt: about 14 percent of GDP (lowest in the region).
  - Tax revenue increase in 2013: 6 percent in nominal terms.
  - Central government occasionally requested short-term financing from the central bank due to limited cash availability.
- Monetary policy and inflation:
  - Policy rate raised by 50 basis points to 6 percent in December 2013, and a further hike in January 2014 to 6.5 percent.
  - Ex post real policy interest rate reached about 2.5 percent.
  - Central bank’s estimated neutral real interest rate: between 3 percent and 2.2 percent.
  - End-2013 inflation: 3.7 percent (below the central bank’s 5 percent target).
- External sector and reserves:
  - Current account in 2013: surplus of almost 1 percent of GDP.
  - Net international reserves increased by almost US$900 million to US$5.9 billion by end-2013.
  - Over half of the increase in NIR was from a US$500 million international bond issued in January 2013.
  - External debt: about 20 percent of GDP.
- Financial sector:
  - Credit growth slowed to about 17 percent a year in nominal terms since end-2012.
  - Nonperforming loan (NPL) ratio: 2.2 percent of total loans in November.
  - Loans for consumption account for about 15 percent of total banks’ loan portfolio.
  - Top four banks accounted for 61 percent of total assets by end-2012 (up from 52 percent in the mid-2000s).
- Structural and legislative developments:
  - Congress approved a revamped tax on agricultural income and a generalized VAT to include unprocessed agricultural products (October 2013).
  - Fiscal Responsibility Law (FRL) approved to be applied to the 2015 budget.
  - Public-Private Partnerships (PPPs) and joint-venture laws approved.
  - State Financial Administration Modernization law approved to improve government cash management.
  - Personal income tax became effective in August 2012; minimum taxable income to be gradually decreased every year through 2019.

### Outlook and projections (baseline scenario)
- Key baseline projections (selected series)
  - Real GDP Growth (in percent): Est. 2012: -1.2; 2013: 13.0; 2014: 4.8; 2015: 4.5; 2016: 4.5; 2017: 4.5; 2018: 4.5.
  - Consumer prices (end of period; in percent): Est. 2012: 4.0; 2013: 3.7; 2014: 5.0; 2015–2018: 5.0 each year.
  - Output gap (in percent of potential GDP): Est. 2012: -4.8; 2013: 2.0; 2014: 1.7; 2015: 1.1; 2016: 0.7; 2017: 0.3; 2018: 0.1.
  - Central government overall balance (percent of GDP): Est. 2012: -1.8; 2013: -2.0; 2014: -1.8; 2015–2018: -1.0 each year.
  - Consolidated public debt (percent of GDP): Est. 2012: 12.6; 2013: 15.1; 2014: 14.6; 2015: 14.5; 2016: 14.3; 2017: 14.4; 2018: 14.4.
  - Current account (percent of GDP): Est. 2012: -1.0; 2013: 0.9; 2014: -0.9; 2015: -0.8; 2016: -0.6; 2017: -0.8; 2018: -1.0.
  - Net international reserves (percent of GDP): Est. 2012: 20.0; 2013: 20.8; 2014: 19.4; 2015: 18.5; 2016: 17.7; 2017: 16.9; 2018: 15.8.
- Medium-term narrative:
  - 2014 GDP growth expected at 4.8 percent, supported by agriculture and livestock and an increase in overall investment of 0.5 percent of GDP.
  - Inflation expected to reach 5 percent toward end-2014 due to rising food prices and public services tariff adjustments.
  - 2015–2018: real GDP growth about 4.5 percent a year; inflation in line with 5 percent target.
  - FDI projected to rise to 2.9 percent of GDP by 2018.
  - Current account expected to post small deficits around 1.0 percent of GDP over the medium term.
  - Reserve coverage projected to remain within recommended levels per IMF reserve adequacy metric.

### External position and exchange rate
- Staff assessment:
  - CGER-based assessment: guaraní is, on average, about 8 percent above its equilibrium level.
  - 2013 average REER appreciation of some 7 percent mainly reflected sharp bilateral nominal appreciation of the guaraní against the currencies of Argentina and Brazil.
  - After a small depreciation in 2012, REER appreciation in 2013 occurred even as guaraní depreciated against the U.S. dollar and the Euro.
- Authorities’ view:
  - Loss of competitiveness with respect to Argentina likely temporary; Paraguay maintains cost advantage vis-à-vis Brazil.
  - Tighter fiscal settings should help rebalance pressures on the real exchange rate.
- Exchange rate and competitiveness (additional indicators)
  - Real exchange rate has appreciated by about 60 percent since 2005.
  - In 2013, REER appreciated by about 7 percent; nominal depreciation vis-à-vis the U.S. dollar was 8.5 percent (y/y) and versus the euro 13.5 percent (y/y).
  - CGER components show divergent signals: ERER method implies guaraní above equilibrium by 25 percent (high uncertainty); MB approach implies slightly undervalued by just 3 percent; other indicators average about 11 percent above equilibrium in 2013.

### Risks and policy responses
- Principal downside risks:
  - Sustained decline in commodity prices.
  - Protracted global financial volatility.
  - Regional shock, including sharp slowdowns in key partners (especially Brazil).
  - Weather-related shocks impacting agricultural exports.
  - Weak PPP management and/or execution of public investment.
- Principal upside and domestic risks:
  - Strong domestic demand could lead to overheating.
  - Positive upside from faster institutional improvements and higher formal-sector employment.
- Selected staff risk assessments and policy responses:
  - Sustained decline in commodity prices: Relative likelihood: Low; Impact: High; Policy response: Use exchange rate as a shock absorber; reserves could be used to avoid excessive volatility; flexible fiscal stimulus as last resort.
  - Protracted global financial volatility: Relative likelihood: Medium; Impact: Low; Policy response: Use exchange rate as a shock absorber; reserves could be used to avoid excessive volatility; ease of monetary and macro-prudential policies.
  - Regional shock: Relative likelihood: Low/Medium; Impact: Medium/High; Policy response: Use exchange rate as a shock absorber; accelerate measures to improve productivity and business climate; ease monetary and macro-prudential policies; temporary and flexible fiscal stimulus as last resort.
  - Strong domestic demand/overheating: Relative likelihood: Low; Impact: High; Policy response: Accelerate structural measures; tighten monetary policy including macro-prudential measures; consider fiscal withdrawal if positive output gap rises rapidly.
- Policy guidance and priorities:
  - Maintain fiscal discipline and low, stable inflation while strengthening bank supervision.
  - Use PPPs and private sector participation to close infrastructure gaps while improving PPP management and execution.
  - Strengthen tax administration to broaden tax base; continue phased reductions in minimum taxable income through 2019 to expand taxable base.
  - Use exchange rate flexibility and reserves as buffers against external shocks; monetary and macro-prudential policies to preserve financial stability.
  - Starting in 2015, fiscal response guided by the Fiscal Responsibility Law (FRL).

### Stronger Fiscal Framework — findings and recommendations
- FRL and cash management:
  - FRL provides an effective fiscal anchor; Treasury Single Account and issuance of short-term debt under State Financial Administration Modernization law expected to modernize cash management and eliminate short-term central bank borrowing.
  - FRL enacted in October 2013 with effect in 2015.
- Staff medium-term fiscal projection and caveats:
  - Central government deficit projected to be, on average, about 1.0 percent of GDP a year in 2016–18.
  - Projection assumes additional tax collection increases (but less than government estimates) and restrained current primary spending growth, especially the wage bill.
  - Solid GDP growth would keep the debt to GDP ratio below 15 percent of GDP.
- Revenue and tax administration:
  - Government estimates new taxes will increase tax collection by 2 percent of GDP over the medium term; staff estimate about half that amount.
  - Tax collection remains relatively low (estimated at about 51 percent of its potential vis-à-vis a regional average of 71 percent).
  - New taxes could increase taxpayers by about 15 to 20 percent short-run; tax agency not fully prepared.
  - Staff recommendations: be cautious on revenue projections; prioritize strengthening tax and customs administration, information and risk management systems, taxpayer registry and database crosschecks, and audit and arrears collections.
- Civil service and pension reform:
  - Aggregate pension system generated a small cash surplus equivalent to 0.2 percent of GDP in 2013; several pension regimes run deficits of about 0.3 percent of GDP covered by the central government.
  - Pension reform recommended to reduce fiscal liabilities; authorities working on new legislation and establishing a pension regulator.
- PPPs and public investment:
  - PPPs offer efficiency gains but pose fiscal risks; staff advised strengthening public investment management, planning and regulatory capacity before large PPP projects.
  - Include PPPs in SNIP and publish contingent liabilities alongside the budget; prioritize projects with high economic rates of return (e.g., roads and energy).
- Medium-term fiscal table (selected rows)
  - Fiscal impulse (- = withdrawal): 3.2, 0.1, -0.8, -0.9, 0.0 (Est., 2012, 2013, 2014, 2015, 2016–18 (avg))
  - Non-royalty non-grant structural revenue (- = more revenue): -0.6, 0.5, -0.4, -0.9, -0.2
  - Primary expenditure (- = less spending): 4.0, -0.5, -0.5, 0.0, 0.1
  - Wages and salaries (of which): 2.2, 0.4, -0.9, 0.3, -0.4
  - Capital expenditure: 0.9, -0.5, -0.1, 0.1, 0.2
  - Public capital expenditure (percent of GDP): 4.8, 4.0, 4.0, 4.1, 4.3
  - Consolidated public debt (percent of GDP): 12.6, 15.1, 14.6, 14.5, 14.4
  - Overall balance (percent of GDP): -1.8, -2.0, -1.8, -1.0, -1.0
  - Primary current expenditure real growth (percent): 20.7, 4.9, 2.9, 4.0, 4.0

### Monetary and exchange rate policy — findings and recommendations
- Inflation targeting progress and operational changes:
  - Significant advances since 2011: bi-annual inflation report, minutes of monetary policy committee, refined liquidity management, daily liquidity forecasts, overnight standing lending and deposit facility corridor of ±100 basis points.
  - Moving reserve requirements towards an average system; November launch of RTGS payments system.
  - Beginning in 2014, central bank narrowed band around 5 percent target from ±2.5 to ±2.0 percent.
- Transition to full-fledged IT:
  - Priority actions: develop active interbank money market; increase predictability of central bank operations and instruments; improve communication; eliminate legal impediments to secondary market trading; strengthen bank risk supervision.
  - Staff reiterated recommendation to fully recapitalize the central bank with marketable and fungible securities.
- FX framework and de-dollarization:
  - Disciplined FX framework since mid-2013; pre-announced auction system for sale of government dollar proceeds; FX interventions limited to offsetting excessive volatility.
  - Dollarization ratios at 40 percent for both loans and deposits.
  - Exchange rate pass-through declined to 21.5 percent (2000–2013) from 26.7 percent (2000–2010).
  - Staff suggested macroprudential tools to tilt against foreign currency loans and deposits (e.g., higher provisioning, spread in reserve ratios).
  - Authorities noted dollarization will remain a key feature given openness and agricultural sector trading in dollars.

### Stronger supervisory-regulatory framework — findings and recommendations
- Financial supervision and standards:
  - Major improvements in line with FSAP recommendations; migration to IFRS for bank and supervisory reporting underway.
  - Regulatory move to risk-based supervision and prudential norms.
- Cooperatives:
  - Cooperatives account for 20 percent of financial system assets; supervisory strengthening planned over two years beginning in 2014 (capital adequacy, provisioning, liquidity requirements, reporting).
  - This would facilitate liquidity assistance facility and deposit insurance for cooperatives; governance changes pending.
- Credit growth and supervision:
  - Credit growth stabilized since end-2012 but requires close monitoring if it accelerates.
  - Collateral practices common; improvement in credit information expected with up-to-date registry data.
  - Staff recommended strengthening loan classification systems, proper identification of transaction terms and credit quality, and increasing competition to reduce interest rate spreads.
- AML/CFT:
  - Anti-money laundering plan launched June 2013; agreement with Central Bank of Brazil on cross-border cash flow controls.
  - Additional efforts needed to address legal and operational shortcomings on cross-border physical transportation of cash and bearer negotiable instruments; corruption remains a serious obstacle.

### Promoting inclusive growth — findings and recommendations
- Poverty reduction and social programs:
  - Government focuses on vulnerability, social exclusion, and economic exclusion via social safety nets, access to schooling/health/electricity/water/sewerage, rural infrastructure, and reforestation.
  - Long-term sustainability of initiatives is crucial.
- Labor market and informality:
  - Large informal sector hinders productivity; labor market institutions weak with rigidities on hiring/firing and redundancy costs.
  - Policies to increase female labor force participation and improve training quality recommended.
- Public enterprises (PEs):
  - Combined operating surplus declined from 1.4 percent of GDP in 2011 to about 0.4 percent of GDP in 2013; investment level below 10 percent of total expenses.
  - Staff welcomed steps to strengthen PE monitoring, transparency, and audits.
  - Recommended water and electricity rates likely need to be raised after being fixed for about 11 years and eliminate general diesel fuel subsidy; any tariff increases should be accompanied by targeted safety nets.
  - Recommended establishing a long-term development plan for PEs to accommodate growth and avoid bottlenecks.

### Impact of external and domestic shocks on non-agricultural sectors (key quantitative findings)
- Dependence on agribusiness and regional ties:
  - Agribusiness: 20 percent of GDP.
  - Brazil absorbs close to one-third of Paraguay’s exports.
  - Brazilian branches and subsidiaries account for 20 percent of total bank credit to the non-financial private sector.
- Commodity price shock:
  - A 10 percentage point change in commodity prices increases industrial production by about 1.2 percent over a year, translating into a 0.2 percentage point increase in overall GDP growth.
  - Agricultural sector expands by 3.5 percent in response to the same shock, increasing GDP growth by 0.7 percentage points.
- Regional shocks (Brazil):
  - Services (60 percent of non-agricultural GDP) has largest non-agricultural response with an implied elasticity of 0.9 percent.
  - A 1.5 percentage point increase in Brazil’s output increases non-agricultural output by 0.6 percentage points over a year, raising overall GDP growth by 0.5 percent.
  - Agricultural sector expands by 5.2 percent in response to the same shock, contributing roughly 1.0 percentage point to overall GDP growth.
  - External financial channel accounts on average for about two-thirds of total variations in non-agricultural GDP growth.
- Agricultural output shock:
  - A 10 percent increase in agricultural production raises construction output by about 2 percent during one year and services output by 0.7 percent; total non-agricultural response roughly 0.5 percent.
  - Banks’ historical exposure: 35 percent of loans are directed towards agriculture.

### Banking credit developments (Annex I — selected points)
- Credit growth and composition:
  - Credit to the private sector reached about 36 percent of GDP in 2013—an increase of almost 20 percentage points of GDP in six years.
  - Consumer loans now represent 15 percent of total credit (compared to 8 percent in 2007).
  - Bank lending concentrated in agriculture and livestock: 1/3 of total loan portfolio.
- Funding and dollarization:
  - Deposits constitute about 85 percent of total liabilities; checking and savings accounts make up 60 percent of total deposits.
  - Non-deposit funding about 13 percent of total liabilities.
  - Ratio of foreign currency denominated credit to total credit about 40 percent (compared to 70 percent in 2000).
- Soundness indicators (selected):
  - Regulatory capital to risk-weighted assets (CAR): 16.8 percent.
  - Nonperforming loans (NPL) to gross loans: 2.3 percent at end-2013.
  - Return on equity (before tax): 26.8 at end-2013.
  - Return on assets (before tax): 2.8 for 2013.
  - Liquid assets to total assets: 42.7 for 2013.
  - Customer deposits to total (noninterbank) loans: 122.9 for 2013.
  - Foreign-currency-denominated loans to total loans: 45.6 (table series).
- Risks and policy priorities:
  - Credit boom during 2007 Q4–2011 Q1; moderation since then.
  - Policy priorities: monitor credit expansion closely, maintain banking buffers, strengthen supervision, improve credit information, and modernize legal frameworks.

### Migration to full-fledged inflation targeting (Annex V — status summary)
- Completed actions:
  - Communicate explicitly that the 5 percent inflation is the monetary policy target. — Completed
  - Commit to a medium-term target horizon for the inflation target. — Completed
  - Start publishing minutes of the Monetary Policy Committee (CEOMA). — Completed
  - Implement standing lending/deposit corridor, risk-free yield curve up to 1 year, credit expectations survey revision, inclusion of exchange rate in inflation model, and several modeling and institutional tasks. — Completed (various items).
- In progress / Near completion / Pending:
  - Improve Monetary Policy Report (In progress).
  - Increase Economics Department staffing (In progress).
  - Continue full recapitalization of the BCP (In progress).
  - Introduce averaging system for reserve requirements (Near completion).
  - Remove legal impediments to repo/secondary markets; daily reference exchange rate publication at 1:00 p.m.; open mouth operations (Pending or In progress).

### Poverty reduction strategy (Box 4 — Sembrando Oportunidades)
- Poverty and extreme poverty (selected levels):
  - Overall poverty: peak 49.7 percent in 2002; declined to 32.4 percent in 2011.
  - Extreme poverty: 18 percent of the population in 2011 (220,000 families), 67 percent of them rural.
- Program objective:
  - Halve extreme poverty to about 9 percent by 2015.
- Program components:
  - Support small-scale farmers: scale up PRODERS with additional financing of US$100 million from the World Bank; increase beneficiary families from 50,000 in 2013 to 120,000 in 2014.
  - Infrastructure hiring of rural labor for roads, schools, health centers, water and sewage.
  - Expand conditional cash transfers (Tekopora): beneficiary families from 83,000 to 100,000.
  - Increase training and labor opportunities in urban areas coordinated with private sector.

### Governance, surveillance, and staff recommendations
- Implementation focus:
  - Carefully execute regulations for newly enacted laws (FRL, PPP, Financial Modernization, tax changes).
  - Strengthen public investment management, regulatory capacity, and project appraisal for PPPs.
  - Improve credit information systems and bank supervision to support monetary policy transmission and reduce perceived credit risk.
  - Monitor credit growth and inflation dynamics closely during transition to full-fledged IT.
- Surveillance:
  - Recommended next Article IV consultation on the standard 12-month cycle.

*Source: _cr1460 - IMF staff report excerpts (selected sections and annexes).*

### 1. Impact of External and Domestic Shocks on Paraguay’s Non-Agricultural Sector______________ 19

### 1. Impact of External and Domestic Shocks on Paraguay’s Non-Agricultural Sector

### Recent developments (2012–2013)
- Real GDP:
  - 2012: -1.2 percent (contraction).
  - 2013: staff expects GDP growth to be about 13 percent; real GDP grew by 14.5 percent (y/y) in the first three quarters of 2013.
  - Non-agricultural sector in 2013: growing around potential.
- Primary sector and agriculture:
  - Primary sector accounts for about 30 percent of GDP.
  - Strong rebound in soy output drove the 2013 recovery.
- Fiscal position and public debt:
  - Central government fiscal balance in 2013: deficit of about 2 percent of GDP.
  - Public debt: about 14 percent of GDP (lowest in the region).
  - Tax revenue increase in 2013: 6 percent in nominal terms.
  - Central government occasionally requested short-term financing from the central bank due to limited cash availability.
- Monetary policy and inflation:
  - Policy rate raised by 50 basis points to 6 percent in December 2013, and a further hike in January 2014 to 6.5 percent.
  - Ex post real policy interest rate reached about 2.5 percent.
  - Central bank’s estimated neutral real interest rate: between 3 percent and 2.2 percent.
  - End-2013 inflation: 3.7 percent (below the central bank’s 5 percent target).
- External sector and reserves:
  - Current account in 2013: surplus of almost 1 percent of GDP.
  - Net international reserves increased by almost US$900 million to US$5.9 billion by end-2013.
  - Over half of the increase in NIR was from a US$500 million international bond issued in January 2013.
  - External debt: about 20 percent of GDP.
- Financial sector:
  - Credit growth slowed to about 17 percent a year in nominal terms since end-2012.
  - Nonperforming loan (NPL) ratio: 2.2 percent of total loans in November (Annex I).
  - Loans for consumption account for about 15 percent of total banks’ loan portfolio.
  - Top four banks accounted for 61 percent of total assets by end-2012 (up from 52 percent in the mid-2000s).
- Structural and legislative developments:
  - Congress approved a revamped tax on agricultural income and a generalized VAT to include unprocessed agricultural products (October 2013).
  - Fiscal Responsibility Law (FRL) approved to be applied to the 2015 budget.
  - Public-Private Partnerships (PPPs) and joint-venture laws approved.
  - State Financial Administration Modernization law approved to improve government cash management.
  - Personal income tax became effective in August 2012; minimum taxable income to be gradually decreased every year through 2019.

### Outlook and projections (baseline scenario)
- Growth and inflation projections (table):
  - Real GDP Growth (in percent): Est. 2012: -1.2; 2013: 13.0; 2014: 4.8; 2015: 4.5; 2016: 4.5; 2017: 4.5; 2018: 4.5.
  - Net private savings (percent of GDP): Est. 2012: 1.0; 2013: 3.3; 2014: 1.9; 2015: 1.0; 2016: 1.2; 2017: 0.9; 2018: 0.8.
  - Net public savings (percent of GDP): Est. 2012: -2.0; 2013: -2.4; 2014: -2.8; 2015: -1.8; 2016: -1.8; 2017: -1.7; 2018: -1.8.
  - Gross domestic investment (percent of GDP): Est. 2012: 15.4; 2013: 15.9; 2014: 16.4; 2015: 17.2; 2016: 18.0; 2017: 18.8; 2018: 19.5.
  - Consumer prices (end of period; in percent): Est. 2012: 4.0; 2013: 3.7; 2014: 5.0; 2015–2018: 5.0 each year.
  - Output gap (in percent of potential GDP): Est. 2012: -4.8; 2013: 2.0; 2014: 1.7; 2015: 1.1; 2016: 0.7; 2017: 0.3; 2018: 0.1.
  - Central government primary balance (percent of GDP): Est. 2012: -1.6; 2013: -1.7; 2014: -1.4; 2015–2018: around -0.6 to -0.5.
  - Central government overall balance (percent of GDP): Est. 2012: -1.8; 2013: -2.0; 2014: -1.8; 2015–2018: -1.0 each year.
  - Consolidated public debt (percent of GDP): Est. 2012: 12.6; 2013: 15.1; 2014: 14.6; 2015: 14.5; 2016: 14.3; 2017: 14.4; 2018: 14.4.
  - Current account (percent of GDP): Est. 2012: -1.0; 2013: 0.9; 2014: -0.9; 2015: -0.8; 2016: -0.6; 2017: -0.8; 2018: -1.0.
  - Foreign direct investment (percent of GDP): Est. 2012: 1.9; 2013: 1.3; 2014: 1.7; 2015: 1.9; 2016: 2.2; 2017: 2.6; 2018: 2.9.
  - Net international reserves (percent of GDP): Est. 2012: 20.0; 2013: 20.8; 2014: 19.4; 2015: 18.5; 2016: 17.7; 2017: 16.9; 2018: 15.8.
- Medium-term outlook narrative:
  - 2014 real GDP growth expected at 4.8 percent, supported by agriculture and livestock and an increase in overall investment of 0.5 percent of GDP.
  - Inflation expected to reach the central bank’s 5 percent target toward end-2014 due to rising food prices and public services tariff adjustments.
  - Medium-term (2015–2018): real GDP growth of about 4.5 percent a year; inflation in line with the central bank’s target of 5 percent.
  - FDI projected to rise to 2.9 percent of GDP by 2018.
  - Current account expected to post small deficits over the medium term, around 1.0 percent of GDP.
  - Reserve coverage projected to remain within recommended levels per IMF reserve adequacy metric.

### External position and exchange rate
- Staff assessment:
  - CGER-based assessment: guaraní is, on average, about 8 percent above its equilibrium level.
  - 2013 average REER appreciation of some 7 percent mainly reflected sharp bilateral nominal appreciation of the guaraní against the currencies of Argentina and Brazil.
  - After a small depreciation in 2012, REER appreciation in 2013 occurred even as guaraní depreciated against the U.S. dollar and the Euro.
- Authorities’ view:
  - Loss of competitiveness with respect to Argentina likely temporary; Paraguay maintains cost advantage vis-à-vis Brazil.
  - Tighter fiscal settings should help rebalance pressures on the real exchange rate.

### Risks and policy responses
- Principal downside risks:
  - Sustained decline in commodity prices (triggered by deceleration of global demand).
  - Protracted global financial volatility (triggered by prospective exit from unconventional monetary policy).
  - Regional shock, including sharp slowdowns in key partners (especially Brazil).
  - Weather-related shocks impacting agricultural exports.
  - Weak PPP management and/or execution of public investment.
- Principal upside and domestic risks:
  - Strong domestic demand could lead to overheating.
  - Positive upside from faster institutional improvements and higher formal-sector employment.
- Risk assessment matrix (select entries, staff judgments):
  - Sustained decline in commodity prices: Relative likelihood: Low; Impact: High; Policy response: Use exchange rate as a shock absorber; reserves could be used to avoid excessive volatility; flexible fiscal stimulus as last resort.
  - Protracted global financial volatility: Relative likelihood: Medium; Impact: Low; Policy response: Use exchange rate as a shock absorber; reserves could be used to avoid excessive volatility; ease of monetary and macro-prudential policies to ensure domestic financial market stability.
  - Regional shock: Relative likelihood: Low/Medium; Impact: Medium/High; Policy response: Use exchange rate as a shock absorber; accelerate measures to improve productivity and business climate; ease monetary and macro-prudential policies; temporary and flexible fiscal stimulus as last resort.
  - Weather-related shock: Relative likelihood: Low; Impact: High; Policy response: Use exchange rate as a shock absorber; reserves could be used to avoid excessive volatility.
  - Strong domestic demand/overheating: Relative likelihood: Low; Impact: High; Policy response: Accelerate structural measures to reduce supply constraints; tighten monetary policy, including macro-prudential measures; consider fiscal withdrawal if positive output gap rises rapidly.
  - Weak PPP management/execution: Relative likelihood: Medium; Impact: Medium; Policy response: Strengthen public investment monitoring and selectivity.
- Policy guidance and priorities:
  - Maintain fiscal discipline and low, stable inflation while strengthening bank supervision.
  - Use PPPs and private sector participation to close infrastructure gaps while improving PPP management and execution.
  - Strengthen tax administration to broaden tax base; continue phased reductions in minimum taxable income through 2019 to expand taxable base.
  - Use exchange rate flexibility and reserves as buffers against external shocks; monetary and macro-prudential policies to preserve financial stability.
  - Starting in 2015, fiscal response guided by the Fiscal Responsibility Law (FRL).

*Source: _cr1460 - 1. Impact of External and Domestic Shocks on Paraguay’s Non-Agricultural Sector, IMF.*

### 14.      Discussions focused on policies and reforms to cement strong economic fundamentals

### _cr1460 - 14.      Discussions focused on policies and reforms to cement strong economic fundamentals

### Near-term policy mix and outlook
- Fiscal policy is expected to be tightened in 2014 and 2015 to reflect the transition toward a more rigorous fiscal stance under the FRL.
- The 2014 budget approved by Congress envisages a deficit of 2.8 percent of GDP—higher than the 2.2 percent of GDP submitted by the government—staff estimates a lower deficit (1.8 percent of GDP) as a result of expected lower capital expenditure execution in line with past experience (60 percent of the budgeted amount).
- Staff projects a further reduction in the deficit (to 1 percent of GDP) in 2015, as the FRL takes effect.
- A fiscal withdrawal of close to 1 percent of GDP would take place in 2014 and 2015, which will also support some external rebalancing.
- Monetary policy settings have recently tightened, moving closer to neutral levels; the central bank stressed that it will continue to adjust the policy rate as necessary to keep inflation near the target rate of 5 percent.

### A. Stronger Fiscal Framework — findings and recommendations
- Improvements noted:
  - The fiscal responsibility law (FRL) provides an effective fiscal anchor, limiting current spending and making fiscal policy more predictable.
  - Implementation of a Treasury Single Account and issuance of short-term debt beginning in 2014 under the State Financial Administration Modernization law will modernize cash management and should eliminate the need for short-term loans from the central bank as in 2013.
- Staff medium-term fiscal projection and caveats:
  - Central government deficit projected to be, on average, about 1.0 percent of GDP a year in the period 2016–18.
  - Projection based on additional increases in tax collection—though less rapidly than envisaged by the government given weaknesses in tax and customs administration—and restrained growth in current primary spending, in particular the wage bill.
  - Financing of these deficits should be manageable through domestic and/or foreign sources.
  - Solid GDP growth would keep the debt to GDP ratio below 15 percent of GDP.
- Revenue and tax administration:
  - Government estimates the new taxes will likely increase tax collection by 2 percent of GDP over the medium term, while staff estimate is about half that amount.
  - Tax collection remains relatively low (estimated at about 51 percent of its potential vis-à-vis a regional average of 71 percent) due to limited human and information system resources.
  - The tax agency is not fully prepared to rapidly absorb an increase in taxpayers by about 15 to 20 percent in the short-run due to the new taxes.
  - Staff recommendations: be cautious on revenue projections; prioritize strengthening tax and customs administration with new information and risk management systems, improve taxpayer registry and database crosschecks, and enhance audit and arrears collections systems and procedures.
- Civil service and pension reform:
  - Staff recommended civil service and pension reform as part of a medium-term strategy to strengthen the fiscal framework.
  - Aggregate pension system generated a small cash surplus equivalent to 0.2 percent of GDP in 2013, while several pension regimes run deficits of about 0.3 percent of GDP that are covered by the central government.
  - Pension reform required to reduce potentially large fiscal liabilities and improve national savings and domestic capital markets; authorities working on new legislation and establishing a pension regulator.
- Public-private partnerships (PPPs) and public investment:
  - PPPs offer potential efficiency gains but can pose significant fiscal risks.
  - Staff advised strengthening public investment management, planning and regulatory capacity before engaging in large PPP projects; include PPPs in the national public investment system (SNIP) and publish data on contingent liabilities alongside the budget.
  - Prioritize PPP projects with high economic rates of return (e.g., roads and energy).
- Institutional and efficiency measures:
  - Formed a ministerial group to ease decision-making on priority investments and an inter-ministerial group to remove bureaucratic obstacles and enhance monitoring.
  - Consider outsourcing management of public investment projects in certain cases; all PPP projects to be done through international open bids.
  - Ongoing efforts to reduce red tape and strengthen legal protection of investment to encourage private and foreign investment.

Key fiscal statistics from the medium-term fiscal outlook table (central government, unless otherwise indicated; projections)
- Fiscal impulse (- = withdrawal): 3.2, 0.1, -0.8, -0.9, 0.0 (Est., 2012, 2013, 2014, 2015, 2016–18 (avg))
- Non-royalty non-grant structural revenue (- = more revenue): -0.6, 0.5, -0.4, -0.9, -0.2
- of which: tax revenue 2/ -0.2, 0.2, -0.4, -0.9, -0.2
- Primary expenditure (- = less spending): 4.0, -0.5, -0.5, 0.0, 0.1
- of which: wages and salaries 3/ 2.2, 0.4, -0.9, 0.3, -0.4
- capital expenditure: 0.9, -0.5, -0.1, 0.1, 0.2
- Memo items:
  - Public capital expenditure (in percent of GDP): 4.8, 4.0, 4.0, 4.1, 4.3
  - Consolidated public debt (in percent of GDP): 12.6, 15.1, 14.6, 14.5, 14.4
  - Overall balance (in percent of GDP): -1.8, -2.0, -1.8, -1.0, -1.0
  - Primary current expenditure real growth (in percent): 20.7, 4.9, 2.9, 4.0, 4.0

### B. Monetary and exchange rate policy — findings and recommendations
- Inflation targeting (IT) progress:
  - Central bank made significant advances in implementing an IT regime since 2011; recent measures include publishing a bi-annual inflation report and minutes of the monetary policy committee, refining liquidity management and monetary policy instruments, and preparing daily liquidity forecasts for operations.
  - Introduced overnight standing lending and deposit facility establishing a corridor of ±100 basis points around the policy rate.
  - Moving reserve requirements towards an average system within a reserve maintenance period, facilitated by the November launch of the Real Time Gross Settlements (RTGS) payments system.
  - Beginning in 2014, the central bank narrowed the band around the target inflation rate of 5 percent from ±2.5 to ±2.0 percent.
- Transition to a full-fledged IT regime:
  - Priority actions: develop an active interbank money market, increase predictability of central bank operations and available instruments, improve communication with market participants, eliminate legal impediments to secondary markets trading, and strengthen bank risk supervision.
  - Staff reiterated recommendation to fully recapitalize the central bank with marketable and fungible securities, building on the 2012 process where the Ministry of Finance offered nonmarketable bonds paying 0.25 percent a year.
- Foreign exchange (FX) framework:
  - Central bank has implemented a more disciplined FX framework since mid-2013, pre-announcing an auction system for sale of government dollar proceeds from two binational hydroelectrical companies.
  - FX interventions outside pre-announced sales limited to offsetting excessive volatility; authorities adhere to a flexible exchange rate policy and do not target the level of the exchange rate.
  - Maintaining exchange rate flexibility expected to incentivize deepening of the forwards market and contribute to reducing dollarization.
- De-dollarization:
  - Dollarization ratios at 40 percent for both loans and deposits.
  - Exchange rate pass-through declined to 21.5 percent in the period 2000–2013 from 26.7 percent in 2000–2010.
  - Staff suggested macroprudential tools to tilt against foreign currency loans and deposits, e.g., increasing provisioning requirements for foreign currency loans and the spread in required reserve ratios between foreign and domestic deposits.
  - Authorities noted dollarization will remain a key feature due to openness and prominence of the agricultural sector, which trades exclusively in dollars.

### C. Stronger supervisory-regulatory framework — findings and recommendations
- Financial supervision improvements:
  - Major improvements in recent years in line with FSAP recommendations; efforts to align bank and central bank legislation with international best practices in risk-based supervision and prudential norms.
  - Steps to migrate to international accounting standards (IFRS) for bank and supervisory reporting.
- Cooperatives:
  - Cooperatives account for 20 percent of financial system assets; supervisory approach and soundness to be strengthened over two years beginning in 2014 via increased capital adequacy, provisioning and liquidity requirements and better information reporting.
  - These changes would facilitate introduction of a liquidity assistance facility and a deposit insurance scheme for cooperatives; recommended governance changes still pending.
- Credit growth and supervision:
  - Credit growth stabilized since end-2012, but closer monitoring warranted if it accelerates.
  - Collateral practices common; significant improvement in credit information expected with up-to-date data to credit registry agencies.
  - Staff recommended strengthening loan classification systems, ensuring proper identification of transaction terms and credit quality, and increasing competition to reduce large interest rate spreads.
- AML/CFT:
  - Paraguay’s anti-money laundering plan launched in June 2013 is being activated; recent agreement with the Central Bank of Brazil on cross-border cash flow controls is important.
  - Additional efforts needed to address legal and operational shortcomings in controlling cross-border physical transportation of cash and bearer negotiable instruments; corruption remains a serious obstacle.

### D. Promoting inclusive growth — findings and recommendations
- Poverty reduction strategy:
  - Government focuses on reducing poverty via a holistic approach supported by sustained strong economic growth, targeting vulnerability (social safety nets and conditional cash transfers), social exclusion (access to schooling, health care, electricity, safe water and sewerage), and economic exclusion (rural infrastructure, small-scale farmers’ earnings, reforestation).
  - Long-term sustainability of initiatives is crucial.
- Labor market and informality:
  - Large informal sector hinders productivity and overall growth; labor market institutions weak with rigidities linked to hiring/firing and redundancy costs.
  - Policies to increase female labor force participation and improve training quality recommended to raise productivity and lower poverty.
- Public enterprises (PEs):
  - PEs play an important role across ten sectors; combined operating surplus declined from 1.4 percent of GDP in 2011 to about 0.4 percent of GDP in 2013; investment level represents below 10 percent of total expenses.
  - Staff welcomed steps to strengthen PE monitoring, performance, transparency in accounts and audits.
  - Staff advised that water and electricity rates will likely need to be raised after being fixed for about 11 years and recommended eliminating the general diesel fuel subsidy; any tariff increases should be accompanied by targeted safety nets.
  - Recommended establishing a long-term development plan for PEs to accommodate robust growth outlook, particularly in energy, to avoid bottlenecks.

*Source: _cr1460 - 14.      Discussions focused on policies and reforms to cement strong economic fundamentals*

### 32.      Staff commends the government’s ambitious agenda of growth-enhancing reforms

### _cr1460 - 32.      Staff commends the government’s ambitious agenda of growth-enhancing reforms

### Overall assessment
- Staff commends the government’s ambitious agenda of growth-enhancing reforms and poverty reduction.
- Paraguay’s per capita income remains significantly below the region average and income distribution has deteriorated.
- The reform strategy targets key areas, in particular closing the large infrastructure gap, to sustain robust economic and productivity growth and support Paraguay’s aims to transition to a dynamic emerging market economy over the next decade.
- The country’s medium-term outlook is positive with balanced risks.
- Critical legislation has been already enacted, signaling commitment to address institutional and structural weaknesses; implementation regulations will need to be executed carefully.

### Fiscal framework and the Fiscal Responsibility Law (FRL)
- A steady implementation of the FRL will be critical to buttress fiscal discipline and support near term macro management needs.
- Implementation of the FRL will support a near term policy mix of tighter fiscal settings and monetary policy settings close to neutral.
- Congress and the executive should use the new fiscal framework to ensure the budget becomes a true macroeconomic planning instrument.
- As experience is gained, some features of the law might need revision to provide more flexibility across economic cycles and to make escape clause more effective and clear.

Key elements and limits of the FRL:
- Enacted in October 2013 with effect in 2015.
- Real growth of current primary spending of the consolidated public sector (excluding municipalities) should not exceed 4 percent a year.
- The overall deficit of the central government, including transfers to the rest of the public sector, should not exceed 1.5 percent of GDP (3 percent in periods of crisis).
- The FRL sets a medium-term (3 years) average deficit ceiling of 1 percent of GDP a year.
- Public sector wages will increase in line with the increase in the minimum wage (which is adjusted when accumulated annual inflation reaches 10 percent).
- Current deficit was 2 percent of GDP in 2013.

Areas identified for strengthening the FRL and its implementation:
- Extend or encourage similar rules to municipalities, which currently are autonomous but can issue debt.
- Regulations should include more explicit guidelines for compliance, accountability and escape clauses.
- Consider setting the deficit ceiling in terms of a structural/cyclically-adjusted balance to strengthen fiscal demand management.

### Fiscal policy recommendations and fiscal risk management
- Strengthen budget design, control and monitoring with a stronger emphasis on results.
- Establish a medium-term expenditure framework as a priority alongside mobilizing additional resources.
- Strengthen public investment management, planning, and regulatory capacity to reduce fiscal risks from PPP projects and ensure high-quality, efficient infrastructure services.
- Implement civil service and pension reform as part of a medium-term strategy to strengthen the fiscal framework and open fiscal space for essential social spending and reduce large fiscal liabilities.
- To raise tax collections to regional peers, drastically reduce high levels of informality, tax evasion and exemptions; Fund TA recommendations are an appropriate reform guide.

Specific fiscal context and historical figures:
- After eight consecutive years of fiscal surpluses, the central government fiscal position switched to a deficit since 2012 due to a sharp rise in the wage bill.
- At its peak in 2012 the wage bill accounted for 60 percent of current spending, absorbed 75 percent of tax revenue and reached almost 10 percent of GDP.

### Monetary policy, inflation targeting, and macroprudential considerations
- The central bank’s track record in keeping inflation on target amid greater exchange rate flexibility is fortifying the credibility of the IT framework.
- To complete the transition to a full-fledged IT regime and enhance monetary policy transmission:
  - Priority should be given to developing an active money market.
  - Strengthen bank supervision to reduce the perception of high credit risk among banks.
- Macroprudential measures, such as reversing the decline in banks’ reserve requirements for foreign currency deposits, could help sustain de-dollarization over time.
- Although credit growth has recently slowed, closer monitoring is warranted if it accelerates; improve credit information for companies and households.
- Given uncertainties during the regime transition, the central bank should remain vigilant to respond to incipient price pressures.

### Exchange rate policy
- Maintaining exchange rate flexibility is instrumental in cushioning the economy against potential shocks and supporting the IT regime.
- Limited foreign exchange intervention could be necessary to reduce volatility and contain excessive balance sheet risks in a highly dollarized economy, but exchange rates should continue to be driven by fundamentals.
- Exchange rate flexibility will create incentives for deepening the incipient forwards market as the private sector internalizes exchange rate risks.

### Poverty, social policy, and public services
- Long-term sustainability of initiatives addressing social and economic exclusion is crucial to succeed in the fight against poverty.
- Address labor market inefficiencies and increase female labor force participation to reduce informality and lower poverty.
- Improved public enterprises management and long-term investment plans will facilitate access to basic public services at reasonable cost, though near-term increases in certain rates might be unavoidable despite ongoing efforts to reduce operating cost.

### Infrastructure and Public-Private Partnerships (PPPs)
- Closing Paraguay’s large infrastructure gap is a central element of the reform strategy.
- The recently approved PPPs law is expected to play a key role in encouraging and facilitating private sector participation in an ambitious infrastructure investment plan.
- Identified PPP projects:
  - Modernization and operation of the Asuncion airport: US$100 million.
  - Concession of the Asuncion-Ciudad del Este-Encarnacion roads: US$900 million.
  - Paraguay River dredging: US$100 million.
- The PPPs law includes many components of international best practices and comprehensive fiscal risk management provisions:
  - Ministry of Public Works responsible for developing, selecting, awarding and executing transportation projects; PPP unit under the Secretaría Técnica de Planificación (STP) to promote, communicate and coordinate initiatives in other sectors.
  - Limit to government exposure: contingent and actual liabilities not to exceed 2 percent of GDP in net present value and not to be higher than 0.4 percent of GDP in a given year.
  - A Fiduciary Guarantee and Liquidity Fund will be set to meet contractual obligations; the Ministry of Finance participates as gatekeeper throughout implementation.
- Areas for strengthening the PPP framework in the regulatory decree:
  - Provide clear guidelines about typical risks (construction, demand and availability) and guidance for renegotiating and terminating PPP contracts given weak institutional contracting capacity.
  - Specify methodology for accounting and reporting contingent liabilities in fiscal accounts and the budget in line with international standards.

### Impact of external and domestic shocks on non-agricultural sectors (key quantitative findings)
- Paraguay is highly dependent on agribusiness (20 percent of GDP) and has strong ties with Brazil (Brazil absorbs close to one-third of the country’s exports).
- Cross-border lending by foreign banks is an important transmission channel; Brazilian branches and subsidiaries account for 20 percent of total bank credit to the non-financial private sector.
- Commodity prices shock:
  - A 10 percentage point change in commodity prices increases industrial production by about 1.2 percent over a year, translating into a 0.2 percentage point increase in overall GDP growth.
  - By comparison, the agricultural sector expands by 3.5 percent in response to the same shock, increasing GDP growth by 0.7 percentage points.
- Regional shocks (Brazil):
  - Services (60 percent of non-agricultural GDP) has the largest non-agricultural response with an implied elasticity of 0.9 percent.
  - A 1.5 percentage point increase in Brazil’s output increases non-agricultural output by 0.6 percentage points over a year, raising overall GDP growth by 0.5 percent.
  - By comparison, the agricultural sector expands by 5.2 percent in response to the same shock, contributing roughly 1.0 percentage point to overall GDP growth.
  - The external financial channel accounts on average for about two-thirds of total variations in non-agricultural GDP growth.
- Agricultural output shock:
  - A 10 percent increase in agricultural production raises construction output by just about 2 percent during a one year window.
  - The same shock leads to a 0.7 percent increase in services output.
  - The total response of the non-agricultural sector is roughly 0.5 percent.
  - Banks’ historical exposure: 35 percent of loans are directed towards agriculture.

### Institutional and operational recommendations
- Carefully execute regulations to implement newly enacted laws to address institutional and structural weaknesses.
- Strengthen public investment management, regulatory capacity and project appraisal to ensure PPPs and public projects deliver high-quality infrastructure efficiently and with contained fiscal risks.
- Improve credit information systems and bank supervision to support monetary policy transmission and reduce perceived credit risk.
- Continue to monitor credit growth and inflation dynamics closely during the transition to full-fledged IT.

### Governance of surveillance
- It is recommended that the next Article IV consultation takes place on the standard 12-month cycle.

*Source: IMF staff report excerpt (sections 32–38 and Boxes 1–3).*

### Box 4. Paraguay: The Government’s Strategy to Reduce Extreme Poverty

### Box 4. Paraguay: The Government’s Strategy to Reduce Extreme Poverty

### Background and current situation
- Despite a decline over the past decade, poverty in Paraguay still remains among the highest in the region.
- Overall poverty:
  - Reached a peak of 49.7 percent by 2002.
  - Gradually declined to 32.4 percent in 2011.
  - Slightly below the level achieved in the mid-1990s (36.1 percent).
- Extreme poverty:
  - Practically no improvement over the period; 18 percent of the population in 2011.
  - Equivalent to 220,000 families in 2011, of which 67 percent live in rural areas.
  - Compared with 18.8 percent in the mid-1990s.
- Income inequality has continued to deteriorate over the past decade, in contrast with the trend in the region.

### Program objective
- The government’s program “Sembrando Oportunidades” aims to halve extreme poverty to about 9 percent by 2015.

### Program components and policy measures
- Support small-scale farmers:
  - Provide technical, financial and managerial assistance to improve access to markets and development of value chains.
  - Scale up and expand the Paraguay Sustainable Agriculture and Rural Development Project (PRODERS) with additional financing of US$100 million from the World Bank.
  - Target expansion to regions with the highest incidence of rural poverty.
  - Increase the number of beneficiary families from 50,000 in 2013 to 120,000 in 2014.
  - Expand income opportunities through work in reforestation activities.
- Investment in infrastructure:
  - Hire rural labor to build and maintain infrastructure (roads, schools, health centers, and water and sewage) to generate alternative income sources for families not involved in agricultural activities.
- Expansion of conditional cash transfers (CCT) programs:
  - Increase the number of beneficiary families under the Tekopora program from currently 83,000 to 100,000.
  - Expand access to education, health care and food security for up to six years.
- Increase training and labor opportunities in urban areas:
  - Coordinate with the private sector to match technical careers and training courses with demand requirements.

*Source: Box 4. Paraguay: The Government’s Strategy to Reduce Extreme Poverty.*

### 2013. The government is

### 2013. The government is

### Laws and institutional reforms (implementation status and main features)
- Fiscal Responsibility Law
  - Working on the regulation of the law. It will apply as of 2015.
  - Introduces a ceiling on: central government deficit of 1.5% of GDP (or 1% average in a 3-year period), current primary expenditures' growth of 4% in real terms and wage increases in the public sector in line with changes in the minimum wage.
- Public Private Partnership (PPPs) Law
  - Enacted in early November 2013. The government is working on the regulation of the law.
  - Regulates public-private participation in infraestruture and service projects.
  - Introduces a trust fund for guarantees and liquidity of PPP contracts.
- Joint Ventures Law
  - Enacted in October 2013. The government is working on the regulation of the law.
  - Expands the scope of the PPP law to include more areas for joint venture projects.
  - Establishes that the local component has to be at least 25%.
- New Personal Income Tax
  - Enacted in July 2012; applies as of August 2012.
  - Income taxed up to 10%. Some incomes are exempted, such as pensions; numerous deductions, including personal expenses and (text truncated in source).
- VAT Generalization
  - Enacted in early October 2013; applies as of Jan. 2014.
  - Extends VAT of 5% (half of the general rate) to primary production.
- New Agricultural Income Tax
  - Enacted in early October 2013; applies as of Jan. 2014.
  - Introduces up to a 10% annual tax on agricultural income (IRAGRO) in substitution of the IMAGRO which taxed the size of the landholding.
  - Annual tax paid in March of the following year.
- Financial Modernization of the State
  - Enacted in October 2013. Regulations approved; applies as of Jan. 2014.
  - Improves liquidity management by introducing a Treasury Single Account (TSA) and short-term local debt titles.
- Superintendence of Pensions
  - Draft Law under study at the Ministry of Finance.
  - Improves management, control, and financial sustainability of the pension system.
- Modification of the Central Bank Law
  - Draft law under study at the Central Bank.
  - Updates the law on the main functions, objectives and structure of the central bank.
- Modification of the Securities Market Law
  - Under discussion in the Senate.
  - Update the law on financial markets innovation and practices. Corrects for overlapings and introduces security mechanisms.
- Modification of the Banking Law
  - Draft law under study at the Central Bank.
  - Updates the law to strenghten risk-based supervision in line with best international standards.
- Deposit Guarantee Fund Law
  - Project under study at the Central Bank.
  - Updates the law to strenghten control mechanisms.
- National Land Directory Law
  - Draft law.
  - Regularizes property ownership of rural and urban land.
- Legal Security for Investments Law
  - Draft law under study at Ministry of Industry.
  - Promotes legal security for investors.

### Fiscal policy, tax measures, and public finances (selected figures and projections)
- Central government (selected aggregates, in percent of GDP)
  - Total revenues: 15.8 (2008); 17.5 (2009); 17.1 (2010); 17.4 (2011); 19.0 (2012); 17.0 (2013); 17.0 (2014); 17.8 (2015 proj.)
  - Tax revenues: 10.7 (2008); 11.6 (2009); 12.0 (2010); 12.1 (2011); 12.7 (2012); 11.7 (2013); 12.0 (2014); 12.8 (2015 proj.)
  - Current expenditures: 11.1 (2008); 13.4 (2009); 12.5 (2010); 12.8 (2011); 16.0 (2012); 15.0 (2013); 14.9 (2014); 14.8 (2015 proj.)
  - Wages and salaries: 6.5 (2008); 7.7 (2009); 7.3 (2010); 7.4 (2011); 9.6 (2012); 9.3 (2013); 8.5 (2014); 8.8 (2015 proj.)
  - Capital expenditures and net lending: 2.4 (2008); 4.1 (2009); 3.4 (2010); 3.9 (2011); 4.8 (2012); 4.0 (2013); 4.0 (2014); 4.1 (2015 proj.)
  - Overall balance: 2.3 (2008); 0.1 (2009); 1.2 (2010); 0.7 (2011); -1.8 (2012); -2.0 (2013); -1.8 (2014); -1.0 (2015 proj.)
  - Primary balance: 2.8 (2008); 0.6 (2009); 1.6 (2010); 1.0 (2011); -1.6 (2012); -1.7 (2013); -1.4 (2014); -0.6 (2015 proj.)
- Fiscal memorandum items
  - Current primary expenditure real growth (in percent): 3.7 (2008); 16.4 (2009); 8.3 (2010); 9.8 (2011); 20.7 (2012); 4.4 (2013); 3.0 (2014); 4.2 (2015 proj.)
  - Structural primary balance 3/: -0.4 (2008); -3.2 (2009); -1.7 (2010); -2.8 (2011); -6.0 (2012); -6.0 (2013); -5.2 (2014); -4.3 (2015 proj.)
  - Fiscal impulse: -2.0 (2008); 2.9 (2009); -1.5 (2010); 1.1 (2011); 3.2 (2012); 0.1 (2013); -0.8 (2014); -0.9 (2015 proj.)

### Public sector and consolidated accounts (selected figures)
- Consolidated public sector (percent of GDP)
  - Revenue: 20.1 (2008); 21.0 (2009); 20.9 (2010); 22.6 (2011); 23.9 (2012); 21.5 (2013); 21.1 (2014 proj.); 22.1 (2015 proj.)
  - Expenditure: 17.3 (2008); 21.8 (2009); 20.4 (2010); 21.1 (2011); 25.7 (2012); 23.9 (2013); 23.9 (2014 proj.); 23.8 (2015 proj.)
  - Net lending / borrowing (overall balance): 2.8 (2008); -0.8 (2009); 0.5 (2010); 1.4 (2011); -1.8 (2012); -2.3 (2013); -2.7 (2014 proj.); -1.7 (2015 proj.)
  - Primary balance: 3.9 (2008); 0.0 (2009); 1.3 (2010); 2.1 (2011); -1.1 (2012); -1.7 (2013); -1.8 (2014 proj.); -0.9 (2015 proj.)
  - Public debt (excl. LRMs): 19.0 (2008); 18.0 (2009); 15.3 (2010); 12.4 (2011); 12.6 (2012); 15.1 (2013); 14.6 (2014 proj.); 14.5 (2015 proj.)

### Central Bank and monetary sector (selected indicators)
- Monetary instruments and balances
  - Currency issue: 15.0 (2008 growth); 11.3 (2009); 18.5 (2010); 11.6 (2011); 17.5 (2012); 13.9 (2013); 10.1 (2014 proj.)
  - Net international reserves (in millions of U.S. dollars): 2,876 (2008); 3,817 (2009); 4,165 (2010); 4,971 (2011); 4,983 (2012); 5,889 (2013); 5,763 (2014 proj.)
  - Net domestic assets (levels): -9,690 (2008); -13,929 (2009); -14,262 (2010); -17,529 (2011); -16,308 (2012); -19,639 (2013); -18,022 (2014 proj.)
  - Reserve requirements (levels): -3,476 (2008); -4,278 (2009); -4,927 (2010); -6,388 (2011); -6,828 (2012); -8,262 (2013); -9,183 (2014 proj.)
- Memorandum and performance
  - Total stock of IRMs outstanding: 3,282 (2008); 3,412 (2009); 3,137 (2010); 4,155 (2011); 3,601 (2012); 7,488 (2013); 6,324 (2014 proj.)
  - Quasifiscal balance (cumulative since beginning of year): -216 (2008); -306 (2009); -324 (2010); -601 (2011); -644 (2012); -641 (2013); -868 (2014 proj.)
  - Costs of monetary policy operations: 375 (2008); 140 (2009); 142 (2010); 433 (2011); 400 (2012); 374 (2013); 575 (2014 proj.)

### Financial sector reforms and vulnerabilities
- Legal reforms under study or discussion:
  - Modification of the Securities Market Law (Senate): updates on innovation, corrects overlapings, introduces security mechanisms.
  - Modification of the Banking Law (Central Bank draft): strengthens risk-based supervision in line with best international standards.
  - Deposit Guarantee Fund Law (Central Bank project): strengthens control mechanisms.
- Financial indicators (selected)
  - Credit to private sector (annual percentage change): 62.0 (2008); 21.4 (2009); 37.3 (2010); 25.8 (2011); 15.8 (2012); 17.5 (2013); 11.9 (2014 proj.)
  - Share of nonperforming loans in total loans (percent): 1.1 (2008); 1.6 (2009); 1.3 (2010); 1.7 (2011); 2.1 (2012); 2.2 (2013).
  - Average domestic lending rate, real: 17.6 (2008); 23.0 (2009); 21.5 (2010); 6.0 (2011); 11.0 (2012); 12.0 (2013).

### External sector and macroeconomic indicators (selected historical and projected values)
- National accounts and prices (annual percentage change unless otherwise indicated)
  - Real GDP: 6.4 (2008); -4.0 (2009); 13.1 (2010); 4.3 (2011); -1.2 (2012); 13.0 (2013); 4.8 (2014 proj.); 4.5 (2015 proj.); 4.5 (2016 proj.); 4.5 (2017 proj.); 4.5 (2018 proj.)
  - Nominal GDP: 16.3 (2008); -2.0 (2009); 20.0 (2010); 14.6 (2011); 0.0 (2012); 15.6 (2013); 9.7 (2014 proj.); 9.7 (2015 proj.); 9.8 (2016 proj.); 10.1 (2017 proj.); 10.6 (2018 proj.)
  - Consumer prices (end of period): 7.5 (2008); 1.9 (2009); 7.2 (2010); 4.9 (2011); 4.0 (2012); 3.7 (2013); 5.0 (2014 proj.); 5.0 (2015 proj.); 5.0 (2016 proj.); 5.0 (2017 proj.); 5.0 (2018 proj.)
- External sector (selected)
  - Exports (fob, percentage change): 29.7 (2008); -20.3 (2009); 35.1 (2010); 20.7 (2011); -7.8 (2012); 16.0 (2013); 5.3 (2014 proj.); 5.1 (2015 proj.); 6.3 (2016 proj.); 5.7 (2017 proj.); 5.7 (2018 proj.)
  - Imports (cif, percentage change): 44.7 (2008); -23.6 (2009); 44.7 (2010); 22.9 (2011); -5.8 (2012); 10.1 (2013); 9.0 (2014 proj.); 4.3 (2015 proj.); 6.0 (2016 proj.); 6.6 (2017 proj.); 6.9 (2018 proj.)
  - Current account (percent of GDP): 1.0 (2008); 3.0 (2009); -0.3 (2010); 0.5 (2011); -1.0 (2012); 0.9 (2013); -0.9 (2014 proj.); -0.8 (2015 proj.); -0.6 (2016 proj.); -0.8 (2017 proj.); -1.0 (2018 proj.)
  - Trade balance (in millions of U.S. dollars): 1,051 (2008); 1,124 (2009); 882 (2010); 855 (2011); 556 (2012); 1,302 (2013); 919 (2014 proj.); 1,071 (2015 proj.); 1,180 (2016 proj.); 1,107 (2017 proj.); 983 (2018 proj.)
  - Gross reserves (in millions of U.S. dollars): 2,876 (2008); 3,817 (2009); 4,165 (2010); 4,971 (2011); 4,983 (2012); 5,889 (2013); 5,763 (2014 proj.); 5,943 (2015 proj.); 6,143 (2016 proj.); 6,356 (2017 proj.); 6,403 (2018 proj.)
- External vulnerability indicators
  - External public debt (percent of GDP): 17.6 (2008); 15.7 (2009); 13.3 (2010); 11.1 (2011); 10.7 (2012); 11.8 (2013).
  - Debt service (in percent of exports GNFS): 13.0 (2008); 17.4 (2009); 12.6 (2010); 10.1 (2011); 11.0 (2012); 9.1 (2013).
  - Net foreign direct investment (percent of GDP): 1.1 (2008); 0.6 (2009); 1.0 (2010); 2.3 (2011); 1.9 (2012); 1.3 (2013).

### Social and demographic indicators (selected)
- Population 2012 (millions): 6.6
- Unemployment rate (2012): 4.9
- Percentage of population below the poverty line (2011): 32.4
- Gini index (2011): 52.0
- Life expectancy at birth (2010): 72.3
- Adult illiteracy rate (2011): 4.7
- Rank in UNDP development index (2012): 111 of 186
- GDP per capita (US$, 2012): 3,730.2

*Source: National authorities; Central Bank of Paraguay; Ministry of Finance; and Fund staff estimates and projections.*

### Annex I. Paraguay: Banking Credit Developments

### Annex I. Paraguay: Banking Credit Developments

### Recent credit growth and composition
- Total banking system assets have grown significantly in recent years, fueled by rapid credit growth.
- Credit to the private sector reached about 36 percent of GDP in 2013—an increase of almost 20 percentage points of GDP in six years.
- All bank credit categories experienced strong growth, especially consumer loans:
  - Consumer loans now represent 15 percent of total credit (compared to 8 percent in 2007).
- Bank lending remains concentrated in agriculture and livestock, which account for 1/3 of the banking system’s total loan portfolio.
- Drivers of increased credit demand since the mid-2000s include economic stability, a strengthening of labor markets, and a marked reduction in poverty.

### Financial system structure and market access
- Banking system metrics and market structure:
  - Banks account for 77 percent of total system assets.
  - Foreign asset ownership represents about 45 percent of total bank assets.
  - There are 15 commercial banks, of which three are foreign-owned and five are majority foreign-owned.
  - The financial system also includes 12 finance companies, 372 cooperatives, 32 insurance companies, and 5 pension funds.
- Financial access indicators (per 1,000 adults) show increased borrowers and depositors with commercial banks (World Bank WDI).

### Risks from rapid credit expansion
- International evidence links rapid credit expansion to increased macro-financial vulnerabilities; Dell’Ariccia et al. (2012) find about one in three booms followed by sub-par growth or a banking crisis.
- Credit boom definition used: annual growth rate of the credit-to-GDP ratio exceeds 20 percent.
  - Paraguay experienced a credit boom from the last quarter of 2007 up to the first quarter of 2011.
- More recent moderation: growth of credit relative to GDP has moderated in the past couple of years, shrinking the credit-to-GDP gap that emerged during 2006–11.

### Funding structure and currency exposure
- Funding and dollarization:
  - Loans-to-deposits ratio has remained significantly below the 1.5 benchmark ratio for potential banking crises.
  - Deposits constitute about 85 percent of total liabilities; checking and savings accounts make up 60 percent of total deposits.
  - Non-deposit funding has hovered around 13 percent of total liabilities in recent years.
  - The ratio of foreign currency denominated credit to total credit currently stands at about 40 percent (compared to 70 percent in 2000).
  - Prudential limits: net open foreign positions are low due to a net open position limit of 50 percent of bank capital.
  - Most foreign-currency-denominated loans are directed to the agriculture sector, which trades exclusively in dollars.

### Soundness indicators and resilience
- Key financial soundness indicators (selected, in percent unless otherwise indicated):
  - Regulatory capital to risk-weighted assets (CAR): 16.8 percent (above the minimum requirement of 12 percent).
  - Nonperforming loans (NPL) to gross loans: 2.3 percent at end-2013 (table reports 2.4 percent for 2013 end-June).
  - Return on equity (before tax): 26.8 at end-2013.
  - Return on assets (before tax): 2.8 for 2013.
  - Liquid assets to total assets: 42.7 for 2013.
  - Customer deposits to total (noninterbank) loans: 122.9 for 2013.
  - Foreign-currency-denominated loans to total loans: 45.6 (table entries across years show 44.6, 42.9, 38.5, 40.6, 43.6, 42.3, 45.6).
- Additional observations:
  - Banks remain well-capitalized, sound, and profitable.
  - According to the 2011 FSAP update, most banks appear resilient to shocks, though exposure to large borrowers is high and some small banks face significant liquidity risk.
  - The increase in NPLs partly reflects a change in NPL composition, with a larger share of recently overdue loans (which carry a lower provision); provisioning regulations have been tightened by the Central Bank.

### Regulatory and supervisory developments
- Progress and constraints:
  - Regulation and supervision have become more risk-based.
  - The central bank approved a capital adequacy adjustment in line with Basel I; more stringent provisioning measures and higher capital requirements became effective in January 2012.
  - The legal framework remains outdated: current banking and central bank laws are unusually detailed and prescriptive, limiting the central bank’s delegated capacity.
  - Ongoing reforms: new central bank and banking laws are being drafted to establish principles and general requirements and to give the central bank responsibility for specific requirements and technical details.
- Areas needing further improvement:
  - Improve availability of credit information on borrowers.
  - Strengthen the bank supervisor’s loan classification system.

### Financial inclusion and policy implications
- Financial deepening and inclusion:
  - Mobile money platforms have been important for financial inclusion alongside rapid financial deepening.
  - The Central Bank of Paraguay, with the World Bank, introduced programs to expand access to financial services and improve consumer financial education.
- Policy priorities to preserve sustainability of financial deepening:
  - Monitor the current credit expansion closely.
  - Maintain banking sector buffers.
  - Continue strengthening financial supervision and modernizing legal frameworks.
  - Improve public and private investment in long-term financial deepening to support infrastructure and development needs.

*Source: Annex I. Paraguay: Banking Credit Developments (prepared by J. Yepez).*

### 3.      The current account balance is

### 3.      The current account balance is

### Current account outlook
- The current account balance is expected to switch to a deficit of about 1 percent of GDP over the medium term under the baseline scenario and the current level of the real exchange rate.
- Drivers of the weakening:
  - A slight deterioration in the terms of trade.
  - Rising import volumes associated with an expected increase in FDI inflows, mainly into the agricultural and export oriented manufacturing sectors, to take advantage of recent government reforms and relatively lower cost than other countries in the region.
  - Narrowing of the private sector’s net saver position due to rising investment through 2018.
- Offsetting factors:
  - Increased public sector savings as fiscal settings are tightened in the near term consistent with the requirements of the new fiscal responsibility law.
  - External gross financing needs are expected to remain within reasonable levels in the medium term and covered to a great extent by FDI.

### Exchange rate developments
- Real exchange rate changes:
  - Paraguay’s real exchange rate has appreciated by about 60 percent since 2005, against a backdrop of substantial reserve accumulation.
  - In 2013, the real effective exchange rate appreciated by about 7 percent, mainly due to nominal appreciation against the Argentinean peso (18 percent y/y) and the Brazilian real (6 percent y/y).
  - The guaraní depreciated in nominal terms vis-à-vis the U.S. dollar (8.5 percent y/y) and the euro (13.5 percent y/y).
- Drivers:
  - Appreciation higher than in other countries of the region, explained in part by favorable terms of trade and stronger economic fundamentals, including eight consecutive years of fiscal surpluses (2003–11).
  - The real appreciation has been driven primarily by nominal appreciations.

### Competitiveness assessment
- CGER (CGER Methodology, October WEO data) summary:
  - On average, the guaraní appears to be slightly above equilibrium by about 8 percent, mostly due to the equilibrium real exchange rate methodology.
  - Macroeconomic balance approach (MB):
    - CA/GDP Norm: -1.8
    - Projected underlying current account balance: -0.4 percent of GDP.
    - Implied real exchange rate result: slightly undervalued by just 3 percent (not statistically significant).
  - External sustainability approach (ES):
    - Current account deficit norm: 0.2 percent.
    - Suggests REER slightly above equilibrium by about 2 percent.
  - Equilibrium real exchange rate methodology (ERER):
    - Guaraní appears to be above equilibrium by 25 percent.
    - The estimated deviation has a high degree of uncertainty given wide confidence intervals.
- Other indicators:
  - Relative prices and market shares indicators show the guaraní was above equilibrium by on average about 11 percent in 2013.
- External price and volume competitiveness (visual indicators in source):
  - Relative price competitiveness: deviations from 2003-2013 average presented as percent deviations.
  - External volume competitiveness (substitution ratio): negative values indicate loss of export market position; percent deviations from 2005-2013 average shown.

### Business environment
- Institutional and structural weaknesses affect capacity to attract private investment and diversify production.
- Rankings and indices:
  - World Bank Doing Business Index 2014: overall ranking went down to 113 from 110 in the previous year.
  - World Economic Forum Global Competitiveness Index (WEF) 2013–14: Paraguay went down to 119 from 116.
- Specific weaknesses highlighted:
  - Problems in dealing with construction permits, getting credit, resolving insolvency.
  - Most problematic areas: an inadequate educated workforce and supply of infrastructure, corruption and inefficient government bureaucracy.
  - International Transparency Indices: Paraguay performs worse than the regional average on perception of institutional corruption (Congress and political parties) and paying bribes.

### Capital and financial account, FDI, and IIP
- Capital and financial account:
  - Has been on surplus since 2008.
  - Main components: FDI and private and public sector borrowing (portfolio inflows are very small).
  - FDI has hovered around 1.4 percent of GDP in the past five years, below the regional average.
  - FDI profitability: according to ECLAC annual report, profitability of FDI in Paraguay is the 2nd highest in the region.
  - Expected medium-term increase in FDI in response to recent government reforms and relatively higher production cost advantages in other countries in the region.
  - Sectors attracting FDI include: agricultural, metallurgic, and maquila/export processing zones (clothing, shoes and auto parts).
- Net international investment position (IIP):
  - As of 2012, net IIP was negative equivalent to 37 percent of GDP, compared to negative 153 percent of GDP in 2005.
  - Main cause of negative position: debt of the two binational electricity companies included as net liability after change in national accounts methodology.
  - Stock of binational companies' debt estimated at US$9 billion (35% of GDP) for 2013.
  - Debt has been declining mainly because Itaipu’s debt has been repaid by the Paraguayan government with procedures of the energy sold to Brazil and is expected to expire by 2023.

### Reserve adequacy
- Net international reserves reached US$5.9 billion at end-December 2013, an increase of $0.8 billion from end-2012.
- Using the composite reserve adequacy metric (100–150 percent), the actual level of reserves is above the recommended range.
- Medium-term projection: reserves will cover around 4 months of imports.

### Debt sustainability (public and external)
- Public sector DSA (selected figures and assumptions):
  - Nominal gross public debt and projections presented in source tables (annual entries for 2011–2018).
  - Public gross financing needs series presented (annual percent of GDP for 2011–2018).
  - Real GDP growth (in percent) projections: Baseline: 13.0 (2013), 4.8 (2014), 4.5 (2015), 4.5 (2016), 4.5 (2017), 4.5 (2018).
  - Inflation (GDP deflator, in percent) projections: 2.3 (2013), 4.7 (2014), 5.0 (2015), 5.0 (2016), 5.4 (2017), 5.8 (2018).
  - Primary Balance (in percent of GDP) projections: -1.5 (2013), -1.6 (2014), -0.7 (2015), -0.8 (2016), -0.7 (2017), -0.8 (2018).
  - Effective interest rate (in percent) series for baseline and scenarios shown in source tables.
- Composition and dynamics:
  - Change in gross public sector debt and contribution breakdowns provided (identified debt-creating flows, primary deficit, automatic debt dynamics, other identified debt-creating flows, residual).
  - Key automatic dynamics contributions and interest-rate/growth-differential components are tabulated.
- External debt sustainability (Table A4.3 and Figures):
  - Baseline external debt trajectory and projections for 2008–2018 provided (external debt in percent of GDP and external debt-to-exports ratio).
  - Gross external financing need (in billions of U.S. dollars) projections: 0.4 (2008), 0.2 (2009), 0.8 (2010), 0.6 (2011), 1.0 (2012), 0.5 (2013), 1.0 (2014), 1.0 (2015), 0.9 (2016), 1.0 (2017), 1.1 (2018) as shown in the table.
  - Key macroeconomic assumptions underlying the baseline include historical and projected series for Real GDP growth, GDP deflator in US dollars, nominal external interest rate, growth of exports and imports (US dollar terms), current account balance excluding interest payments, and net non-debt creating capital inflows.
- Stress tests and scenarios:
  - Bound tests and scenario shocks illustrated include interest rate shock, CA (current account) shock, combined shock, real depreciation shock (one-time real depreciation of 30 percent occurs in 2010 in a scenario), and growth shock (in percent per year). Specific scenario average projections are presented in figures and tables.
  - Historical scenario and alternative scenarios (constant primary balance, historical averages) are provided with comparative projections.

*Source: IMF staff estimates and projections as presented in the source chapter.*

### Annex V. Paraguay: Migration to Full-Fledged Inflation Targeting

### Annex V. Paraguay: Migration to Full-Fledged Inflation Targeting Regime—Status of Main Recommendations

### Monetary Policy Framework
- Communicate explicitly that the 5 percent inflation is the monetary policy target. — Completed
- Commit to a medium-term target horizon for the inflation target. — Completed
- Start publishing minutes of the Monetary Policy Committee (CEOMA) meetings within two weeks after the meetings. — Completed
- Improve the content of the Monetary Policy Report (MPR) by addressing remaining weaknesses related to the horizon of the inflation projection, scarcity of other projections (e.g., on core inflation measures), and lack of risk balance analysis — In progress
- Develop and discuss with the Board the new research projects that would include an estimation of (a) a monetary policy reaction function; (b) an exchange rate pass-through; (c) other channels of monetary policy transmission mechanisms; and (d) the long-term real exchange rate. — Completed
- Include modeling as an integral part of the discussions between the members of the Board and BCP staff. — Completed
- Revise the Credit Expectations Survey in order to incorporate a sectoral analysis with additional questions related to various types of credit. — Completed
- Include exchange rate to the interest rate function in the inflation projection model. — Completed
- Develop a better understanding of the monetary policy transmission mechanism at work with the purpose to enhance efficacy of the main channels, i.e., interest rate and the exchange rate pass-through. — Completed
- Increase the human resources of the Economics Department in order to broaden the work on projection models. — In progress
- Prepare and disseminate additional forward-looking surveys on macroeconomic variables and a business confidence index. — In progress
- Continue efforts towards full recapitalization of the BCP — In progress

### Monetary Operations, Liquidity Management, and Forecasting
- Separate the functions of liquidity forecasting and the back-office. — Completed
- After moving to an averaging system of reserve requirements start forecasting the demand for reserves and extend the forecasting horizon to 1 month. — In progress
- Strengthen efforts toward reducing excess liquidity in the system and increase the absorption of structural liquidity via the regular issuance of Monetary Regulation Instruments (IRMs) and open market operations. — In progress
- Introduce the averaging system for the reserve requirements. — Near completion
- Clearly distinguish the standing lending facility from the BCP’s function as an LOLR; the separation of facilities should be based on institutional discretion for access, differences in maturities, and eligibility of collateral. — Completed
- Institute a symmetric corridor system, initially with the width of 200 basis points (difference between the rates of the standing lending and deposit facilities) around the policy rate. — Completed
- Take steps to establish a risk-free benchmark yield curve with maturities up to 1 year. — Completed
- Strengthen the BCP’s supervisory functions in order to ensure the soundness and stability of the banking sector and to reduce the existing perception of high counterparty credit risk. — In progress
- Maintain the Interbank Liquidity Management (VLI) window, but limit its tenure to overnight transactions. — Completed
- Take measures aimed at removing the legal impediments to horizontal repo agreements and broader secondary market trading. — Pending

### Foreign Exchange Operations
- Clarify the duality of objectives between the sale of government proceeds and FX interventions, and make a distinction between the two mechanisms: the auction system for the sale of government revenues in dollars, and bilateral trades for FX intervention. — Completed
- Pre-announce a monthly program for the sale of government proceeds and stick to the calendar and fixed amounts. — Completed
- Limit FX intervention to exceptional circumstances in order to enhance the BCP’s credibility in pursuing its policies and its commitment to having a unique nominal anchor—the inflation target. — Completed
- Consider conducting bilateral transactions via telephone rather than Datatec in order to strengthen the message given to market participants. — Pending
- Introduce a channel of communication for verbal intervention, so-called open mouth operations. — Pending
- Encourage a market making agreement, but transact only with a limited number of participants, who are the BCP counterparties for FX interventions. — In Progress
- Start publishing the reference exchange rate once a day at 1:00 p.m., based on interbank transactions. — Pending

### Key implementation status summary (Annex V)
- Multiple core monetary policy reforms marked as Completed (explicit target communication, medium-term horizon commitment, minutes publication, modeling integration, inclusion of exchange rate in inflation model, symmetric corridor, standing facility clarification, VLI window overnight limit, risk-free curve up to 1 year, Credit Expectations Survey revision).
- Several strategic items remain In progress (MPR improvements, Economics Department staffing, forward-looking surveys, full recapitalization of the BCP, reserve demand forecasting extension, excess liquidity absorption, supervisory strengthening).
- Near completion: averaging system for reserve requirements.
- Pending: legal impediments to repo/secondary markets, telephone bilateral transactions, open mouth operations, daily reference exchange rate publication at 1:00 p.m.

---

### Annex VI. Paraguay: 2011 FSAP Status of Main Recommendations

### Macroeconomic Risks: Financial Institutions Soundness and Vulnerabilities
- Legislations should adopt a CAR definition consistent with the Basel Accords (Basel I). — Completed
- Proceed with planned introduction of forward looking provisioning. — In progress
- Enhance the regulatory approach to renewed, refinanced, and restructured operations. — Near completion

### Payment and Security Settlement Systems
- Approve the draft payment system law to provide legal support to the new payment system. — Completed
- Complete implementation of the new payment system, including real-time gross settlements, a security repository, and automated clearing house. — Completed

### Financial Sector Oversight
- Amend the legal framework to empower the BCP to issue and develop prudential regulations and to apply due discretion, thus providing the BCP and the Superintendence with flexibility to exercise timely risk-based supervision and address evolving banking sector risks. — In progress
- Review the legal framework to avoid suspension of INCOOP’s corrective actions by ongoing judiciary appeal process to strengthen INCOOP’s enforcement capacity. — In progress
- Align cooperatives’ prudential framework with banking sector standards, in particular the capital adequacy and provisioning requirements of large cooperatives. — In progress
- Strengthen INCOOP’s governance by instituting appointment of its Board by the President of the country in accordance with the fit and proper qualification criteria. — Pending
- Set up a committee of all regulators at the highest level with a clear mandate, technical capacity, and deliverables to strengthen the coordination between regulators and enhance financial stability analysis. — In progress

### Financial Safety Net and Crisis Resolution Framework
- Strengthen the FGD contingency funding to ensure sufficient capacity to resolve a medium to large scale bank. — Pending
- Set up liquidity assistance facility for cooperatives to ensure effective and timely emergency liquidity assistance. Setup deposit insurance scheme for cooperatives. — In progress

### Financial Sector Development Agenda
- The government should develop and implement a comprehensive agenda to foster financial inclusion in a sustainable manner. — Completed
- MoF should prepare legislation establishing a dedicated pension supervisor and undertake actuarial assessments of the various pension regimes—adhering to international standards—to anchor their parametric reform. — In progress

### Money and Debt Markets and Systemic Liquidity Management
- MoF should expedite the planned recapitalization of the central bank. — Partially Completed
- The central bank should enhance its capacity for systemic liquidity management. — In progress

### Credit Information Systems and Creditor Rights Framework
- The central bank should prepare legislation establishing a sound legal framework for the credit reporting industry. — In progress
- Submit to parliament the law on organization and coordination of the registry general and the cadastre, and make electronic registries for immovable assets fully operational and available online. — In progress

### Key implementation status summary (Annex VI)
- Completed items include CAR alignment with Basel I, payment system law approval, and implementation of the new payment system, and a completed financial inclusion agenda.
- Several regulatory, supervisory, and safety-net reforms remain In progress or Pending (forward provisioning, legal framework amendments for BCP and INCOOP, contingency funding, cooperative insurance and liquidity facilities, pension supervisory legislation, recapitalization of BCP only Partially Completed).

---

### Fund Relations and Multilateral Engagement (Selected Data and Programs)
- Membership Status: Joined: December 28, 1945
- Quota: 99.90 SDR Million — 100.00 percent of quota
- Fund holdings of currency: 78.43 SDR Million — 78.51 percent of quota
- Reserve Tranche Position: 21.48 SDR Million — 21.50 percent of quota
- SDR Department net cumulative allocation: 95.19 SDR Million — 100.00 percent allocation
- SDR Department holdings: 110.64 SDR Million — 116.22 percent allocation
- Outstanding Purchases and Loans: None

Latest Financial Arrangements (dates and amounts)
- Stand-By: Date of Approval May 31, 2006; Expiration Aug 31, 2008; Amount Approved (SDR Million) 30.00; Amount Drawn (SDR Million) 0.00
- Stand-By: Date of Approval Dec 15, 2003; Expiration Nov 30, 2005; Amount Approved (SDR Million) 50.00; Amount Drawn (SDR Million) 0.00

Projected Payments to Fund (SDR Million; based on existing use of resources and present holdings of SDRs):
- Forthcoming Charges/Interest and Total for 2014: 0.00
- 2015: 0.00
- 2016: 0.00
- 2017: 0.00
- 2018: 0.00

Exchange Rate Arrangement
- Currency: Paraguayan guaraní
- De facto regime: other managed arrangement (de jure classified as floating)
- Exchange rate determined in the interbank foreign exchange market; central bank intervenes to smooth excessive exchange rate fluctuations due to strong seasonal pressures. The U.S. dollar is the principal intervention currency.
- Paraguay has accepted the obligations of Article VIII, Sections 2(a), 3 and 4 of the Fund’s Articles of Agreement. Its exchange system is free of restrictions on the making of payments and transfer for current international transactions.

Article IV Consultation
- The Executive Board concluded the 2012 Article IV consultation on August 2012.

Technical Assistance 2009–13 (selected topics and dates)
- STA Monetary and Financial Statistics — March 2009
- FAD Performance Budgeting — February 2009
- MCM Banking Supervision — May 2009
- MCM Cooperatives — September 2009 (two entries)
- FAD Medium-Term Fiscal Framework — September 2009
- FAD Debt Management — February 2010
- MCM First Issuance Sovereign Bond — March 2010
- STA Monetary and Financial Statistics — April 2010
- MCM Banking Supervision — April 2010
- STA National Accounts — August 2010
- MCM and WB FSAP/FSSA — November 2010
- FAD Tax and Customs Administration — December 2010
- MCM Monetary Policy, Central Bank Operations, and Accounting — April 2011
- MCM Financial Soundness Indicators and Financial Oversight — November 2011
- FAD Improve Fiscal Projections and Financial Planning — December 2011
- FAD Modernization of the Customs Administration — December 2011
- FAD Debt and Cash Management — March 2012
- MCM Inflation Targeting and Central Bank Operations — August 2013
- MCM/LEG Launching of the AML/CFT — June 2013
- FAD Revenue Administration — September 2013
- FAD Tax Administration — December 2013

Safeguards Assessment
- A full safeguards assessment of the Central Bank of Paraguay (BCP) was completed in October 2006. The report stated that while the BCP has made some progress since the 2003 safeguards assessment, vulnerabilities remain in areas such as financial reporting and program data reporting to the Fund.

Resident Representative
- Mr. Kevin Ross is the regional resident representative since July 2011. He is based in Lima, Peru.

---

*Annexes V–VI and selected Fund relations, technical assistance, and program data from the Staff Report for the 2013 Article IV Consultation—Informational Annex (as provided).*

### 2006. The country is a GDDS participant.

### 2006. The country is a GDDS participant.

### National accounts
- National accounts estimates, broadly consistent with the guidelines of the 1993 SNA, were released in 2005.
- Major deficiencies and concerns:
  - No comprehensive regular program for data collection through economic surveys exists (an industrial survey was conducted in 2002).
  - An economic census was undertaken in 2011.
  - Source data for nonfinancial services, household consumption, and changes in inventories are insufficient.
  - (i) The 1994 reference year needs to be updated.
  - (ii) Excessive use is made of fixed coefficients for value added and household consumption.
  - (iii) Changes in inventories are obtained residually.
  - (iv) Informal activities are not monitored.
  - (v) Supply and use tables have been compiled only until 1997.
- Coverage and timeliness:
  - Annual GDP meets GDDS recommendations.
  - QNA meets DSSD timeliness requirements (90 days).
  - Several STA missions on compilation of quarterly national accounts (QNA) were fielded in August 2007, August 2008, November 2009 and March-April 2011.
  - QNA series were published in December 2010.
  - The STA mission of March-April 2011 assisted in outlining a work program for updating the national accounts’ base year.

### Labor market statistics
- Improvements since 1998 with the introduction of a regular household survey; coverage and quality of employment and unemployment statistics improved significantly.
- Since 2010, data are released on a quarterly basis, although the series covers the Asuncion area only.
- Last available observations:
  - Quarterly series: third quarter of 2013.
  - Annual data: 2012 (released in September 2013).

### Price statistics
- CPI and PPI are reported regularly and timely.
- CPI:
  - Since January 2008, Central Bank of Paraguay (BCP) has used a new CPI index based on the 2005–06 household budget survey (Dec. 2007=100).
  - Geographic coverage limited to Greater Asunción (capital and metropolitan area).
  - Expenditure weights representative of urban household consumption patterns.
- PPI:
  - Base weight period of June 2010.
  - Basket of 185 items representative of current national output.
  - Electricity, water, and gas are not covered.

### Resources and data ROSC findings
- The data ROSC mission found resources are insufficient for real sector statistics and constrain further development, particularly full adoption of the 1993 SNA.
- Authorities have been addressing resource shortcomings in compiling a new CPI and producing QNA series.
- A new ROSC mission was scheduled for February 2014.

### Government finance statistics (GFS)
- GFS used for internal purposes and reporting to WHD is broadly consistent with GFSM 1986 recommendations.
- No plan yet to migrate to GFSM 2001.
- Data availability and features:
  - Monthly data available for the central administration (budgetary central government).
  - Asset position of social security system available on a daily basis.
  - Central administration statistics include 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).
  - Data on medium and long-term external debt are reliable and available on a monthly basis.
  - Domestic debt data available on request but need full integration with external debt database.
- Deficiencies and issues:
  - Recording of short-term supplier and commercial credit of the public sector is deficient.
  - Discrepancy exists in fiscal data reported by monetary and fiscal authorities; measures are being taken to increase transparency.
  - Annual data covering general government for 2011 have been reported for publication in the 2012 edition of the 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.

### Balance of payments and IIP
- Classification follows Balance of Payments Manual, 5th edition.
- Quarterly BOP and IIP data available from 2001 onwards, but reported only once a year to STA for publication in the IFS.
- In May-2013, the CBP revised BOP and IIP time series to exclude transactions and positions between residents and the bi-national hydroelectric energy enterprises; they are now considered 50% residents.
- Improvements made:
  - Quality of data on capital flows, especially coverage of foreign direct investment.
  - Recording of external debt transactions.
  - Special central bank studies improved estimation methods for remittances of Paraguayans abroad and unregistered trade transactions.
- Remaining deficiencies:
  - Serious deficiencies remain in some areas.
  - Deficiencies in recording private capital outflows due to an open capital account.
- STA mission on Balance of Payments Statistics (November 2006) focused on:
  - (1) Assessing surveys capturing data on services, direct investment, nonfinancial private sector portfolio investment, and other investment.
  - (2) Reviewing and updating statistical techniques for unrecorded trade.
  - (3) Reassessing treatment of binational hydroelectric energy enterprises in external sector accounts.
  - (4) Preparing a preliminary template for reporting data on international reserves and foreign currency liquidity.

### Monetary and financial statistics
- Paraguay reports monetary data for the central bank and other depository corporations (ODCs) using standardized report forms (SRFs).
- An integrated monetary database meeting BCP, STA, and WHD needs is in operation.
- Credit cooperatives, accounting for around ¼ of deposits and loans of the banking sector, are included in ODCs with data beginning in December 2008.
- The Superintendence of Banks reports 11 of the 12 core and 7 of the 13 encouraged financial soundness indicators for deposit takers to STA on a month basis.

### Macro developments, outlook, and Executive Board assessment (Article IV — February 14, 2014 press release)
- Recent performance:
  - Paraguay grew at an average rate of 4.7 percent a year since 2003 (compared with about 2 percent the previous decade).
  - Activity rebounded to an estimated 13 percent in 2013 as agricultural sector recovered from a severe drought.
  - End-2013 inflation fell to 3.7 percent—below the central bank’s inflation target rate of 5 percent.
  - Private sector credit growth slowed to about 17 percent in nominal terms since end-2012.
  - Banking sector remains well capitalized and profitable, with low nonperforming loans.
- Macroeconomic policy stance in 2013:
  - Fiscal spending under the 2012 stimulus decelerated in 2013 due to stricter spending controls.
  - Central government deficit increased slightly to about 2 percent of GDP from 1.8 percent in 2012.
  - Monetary policy was on hold during much of 2013; policy rate was raised by 100 basis points over December 2013 and January 2014.
- 2014 outlook and projections:
  - Growth: 4.8 percent (2014).
  - Annual inflation: likely increase to the central bank’s target rate of 5 percent.
  - Fiscal deficit: should remain low under the recently approved Fiscal Responsibility Law.
  - External current balance: would revert to a small deficit amid slightly deteriorating terms of trade and rising import volumes.
  - Overall risks: balanced; downside risks include regional growth and global borrowing conditions; upside risks include faster-than-expected reform progress.
- Executive Directors’ views and recommendations:
  - Welcomed recovery and favorable outlook; highlighted low debt, sizeable official reserves, and small fiscal and external imbalances.
  - Emphasized need to improve social and economic development and strengthen macroeconomic policy framework.
  - Encouraged resolute implementation of enacted legislation and continued sound macroeconomic policies to reduce poverty and foster broad-based sustainable growth.
  - Fiscal policy: welcomed the fiscal responsibility law; encouraged improving quality of government spending, strengthening tax and customs administration, and enhancing capacity to manage public-private partnership risks; civil service and pension reforms needed.
  - Monetary policy: welcomed prudent stance and advances in inflation-targeting; encouraged steps to complete transition to full-fledged inflation-targeting regime, including developing an active interbank money market, strengthening risk-based bank supervision, and updating financial sector legislation.
  - Exchange rate and dollarization: maintaining exchange rate flexibility and greater efforts to reduce dollarization recommended.
  - Anti-money laundering: called for steps to address remaining deficiencies.
  - Social inclusion: reducing poverty and inequality is a priority; encouraged sustaining initiatives for social and economic inclusion and protection of vulnerable groups; reforms should focus on business climate, labor market inefficiencies, increasing female labor participation, and human capital investment.
  - Public enterprises: improved management encouraged to facilitate access to basic public services at reasonable cost.

### Selected economic and social indicators (selected bullets preserving numbers exactly)
- Population 2012 (millions): 6.6
- Gini index (2011): 52.0
- Unemployment rate (2012): 4.9
- Life expectancy at birth (2010): 72.3
- Percentage of population below the poverty line (2011): 32.4
- Adult illiteracy rate (2011): 4.7
- Rank in UNDP development index (2012): 111 of 186
- GDP per capita (US$, 2012): 3,730.2

- Key annual percent changes and levels (selected):
  - Real GDP: 2008: 6.4; 2009: -4.0; 2010: 13.1; 2011: 4.3; 2012: -1.2; 2013: 13.0; 2014 (proj.): 4.8
  - Nominal GDP: 2009: 16.3; 2010: -2.0; 2011: 20.0; 2012: 14.6; 2013: 0.0; 2014 (proj.): 15.6; 9.7 (note: table format in source)
  - Consumer prices (end of period): 2008: 7.5; 2009: 1.9; 2010: 7.2; 2011: 4.9; 2012: 4.0; 2013: 3.7; 2014 (proj.): 5.0
  - Currency issue: 2008: 15.0; 2009: 11.3; 2010: 18.5; 2011: 11.6; 2012: 17.5; 2013: 13.9; 2014 (proj.): 10.1
  - Credit to private sector: 2008: 62.0; 2009: 21.4; 2010: 37.3; 2011: 25.8; 2012: 15.8; 2013: 17.5; 2014 (proj.): 11.9
  - Exports (fob) percent change: 2008: 29.7; 2009: -20.3; 2010: 35.1; 2011: 20.7; 2012: -7.8; 2013: 16.0; 2014 (proj.): 5.3
  - Imports (cif) percent change: 2008: 44.7; 2009: -23.6; 2010: 44.7; 2011: 22.9; 2012: -5.8; 2013: 10.1; 2014 (proj.): 9.0
  - Terms of trade: 2008: 3.3; 2009: -3.0; 2010: 8.2; 2011: 14.3; 2012: -10.2; 2013: -7.0; 2014 (proj.): -9.1
  - Current account (in percent of GDP): 2008: 1.0; 2009: 3.0; 2010: -0.3; 2011: 0.5; 2012: -1.0; 2013: 0.9; 2014 (proj.): -0.9
  - Trade balance (in percent of GDP): 2008: 5.7; 2009: 7.1; 2010: 4.3; 2011: 3.5; 2012: 2.2; 2013: 4.6; 2014 (proj.): 3.1
  - Net international reserves (in millions of U.S. dollars): 2008: 2,876; 2009: 3,817; 2010: 4,165; 2011: 4,971; 2012: 4,983; 2013: 5,889; 2014 (proj.): 5,763
  - Stock of reserves (months of next year imports of goods and services): 2008: 4.8; 2009: 4.4; 2010: 3.9; 2011: 5.0; 2012: 4.5; 2013: 4.9; 2014 (proj.): 4.6
  - Gross domestic investment (percent of GDP): 2008: 16.4; 2009: 13.8; 2010: 16.2; 2011: 16.2; 2012: 15.4; 2013: 15.9; 2014 (proj.): 16.4
  - Gross national saving (percent of GDP): 2008: 17.4; 2009: 16.8; 2010: 16.0; 2011: 16.7; 2012: 14.4; 2013: 16.8; 2014 (proj.): 15.5
  - Central government revenues (percent of GDP): 2008: 15.8; 2009: 17.5; 2010: 17.1; 2011: 17.4; 2012: 18.9; 2013: 17.0; 2014 (proj.): 17.0
  - Central government expenditures (percent of GDP): 2008: 13.5; 2009: 17.5; 2010: 15.9; 2011: 16.7; 2012: 20.8; 2013: 19.0; 2014 (proj.): 18.9
  - Central government overall balance (percent of GDP): 2008: 2.3; 2009: 0.1; 2010: 1.2; 2011: 0.7; 2012: -1.8; 2013: -2.0; 2014 (proj.): -1.8
  - Consolidated public debt (percent of GDP): 2008: 22.8; 2009: 22.5; 2010: 18.6; 2011: 16.2; 2012: 15.9; 2013: 20.9; 2014 (proj.): 19.1
- Memorandum items:
  - GDP (in billions of Guaranies): 2008: 80,735; 2009: 79,117; 2010: 94,934; 2011: 108,795; 2012: 108,832; 2013: 125,856; 2014 (proj.): 138,079
  - GDP (US$billions): 2008: 18.5; 2009: 15.9; 2010: 20.7; 2011: 24.1; 2012: 24.9; 2013: 28.4; 2014 (proj.): 29.7

*Source: _cr1460 - 2006. The country is a GDDS participant.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr1460.pdf_