Report No. 47193-GT Guatemala Investment Climate Assessment (In Two Volumes) Volume I June 26, 2008 Finance and Private Sector Unit Poverty Reduction and Economic Management Unit Latin America and the Caribbean Region Document of the World Bank FSAP Financial Sector Assessment Program Programade Evaluacidn del Sector Financiero FUNDESA Foundation for Guatemalan Fundaci6n para el Desarrollo de Development Guatemala GDP Gross Domestic Product Product0 Nacional Bruto GE General Electric General Electric GSP General System o f Preferences Sistema Generalizado de Preferencias GWh Gigawatt Hour Hora Gigavitio HACCP Hazardous Analysis Critical Control Peligrosos Anilisis de Puntos Criticos Points de Control ICA Investment Climate Assessment Evaluacion de Clima de Inversiones ICAO International CivilAviation Organizaci6n de Aviaci6n Civil Organization Internacional ICT Information and Communications Tecnologias de Informaci6n y Technologies Comunicaci6n IGSS Guatemalan Social Security Institute Instituto Guatemalteco de Seguridad Social IMF International Monetary Fund Fondo Monetario Internacional INATEC National Institute for Technical Training Instituto Nacional Tecnol6gico INDE National Electrification Institute Instituto Nacional de Electrificacibn INE National Statistics Institute Instituto Nacional de Estadistica INFOM Municipal Development Institute Instituto de Foment0 Municipal INTECAP Technical TrainingInstitute Instituto TCcnico de Capacitacidn INVEST Invest inGuatemala Invertir en Guatemala I S 0 International Standards Estindares Internacionales ITC United States International Trade Comisi6n de Comercio Internacional Commission de Estados Unidos kWh Kilowatt Hour Hora Kilovatio LAC Latin America and the Caribbean America Latina y el Caribe MAGA Ministry of Agriculture, Livestock, Ministerio de Agricultura, Ganaderia, y and Food Alimentacih MCIV Ministry of Communications, Ministerio de Comunicaciones, Infrastructure, andHousing Infraestructura, y Vivienda M S M E Micro, Small, and Medium Enterprise Micro, Pequefia, y Mediana Empresa Mw Megawatt Megavatios NGO Non-Governmental Organization Organizaciones N o Gubermentales OECD Organization for Economic Organizacih de Desarrollo y Cooperation and Development Cooperacih Econ6mica OPDFs Financial Private Development Organizaciones Privadas de Desarrollo Organizations Financiero PPA Power Purchase Agreement Acuerdo de Compra de Energia PRONACOM Office o f National Competitiveness Promotion ProgramaNacional de Competitividad R&D Research and Development Investigacih y Desarrollo SAT Tax Administration Superintendency Superintendencia de Administracibn Tributaria SME Small and Medium Enterprise Pequefia y Mediana Empresa TEU Twenty-foot Equivalent Unit Unidad Equivalente de Veinte-pies TFP Total Factor Productivity ProductividadTotal de Factores United Nations Conference on Trade Conferencia de Naciones Unidas de UNCTAD and Development Comercio y Desarrollo WEF World Economic Forum Foro Econ6mico Mundial WTO World Trade Organization Organizacih Mundial de Comercio Country Director :Laura Frigenti Sector Director :Marcel0Giugale Sector Manager :LilyL.Chu Task Manager :Stefka Slavova ... lll GUATEMALA INVESTMENT CLIMATEASSESSMENT ACKNOWLEDGMENTS ........................................................................................................ V EXECUTIVE SUMMARY ..................................................................................................... VI CHAPTER 1 OVERALL INVESTMENT CLIMATE FINDINGS . ................................... 1 1. INTRODUCTION ................................................................................................................................ 1 2. MACROECONOMIC PERFORMANCE ............................................................................................... 3 3. GOVERNANCE REGULATION................................................................................................ AND 8 4. INFRASTRUCTURE .......................................................................................................................... 12 5. .......................................................................................................... 14 6. SKILLS AND TECHNOLOGY TO 6. ACCESS FINANCE..................................................................................................................... 16 FIRMPRODUCTIVITY..................................................................................................................... 17 7. CONCLUSIONS................................................................................................................................ 18 CHAPTER 2 . TRADEANDTHE EARLY IMPACT OF CAFTAO NFIRMS ...............19 1. INTRODUCTION .............................................................................................................................. 19 2. WHAT FREETRADE OFFERSGUATE IZ.WL;I ................................................................................ 19 3. EARLYEXPERIENCE CAFTA............................................................................................ WITH 21 4. THEPERSPECTIVEOF GUATEMALAN EXPORTERS ................................................................... 31 5. RECO~LMENDATIONS:IMPROVINGCOMPETITIVENESSINTHE AGEOF CAFTA ................34 CHAPTER 3 . FIRMS'ACCESSTO INFRASTRUCTURE SERVICES ........................... 36 1. INTRODUCTION .............................................................................................................................. 36 2. .................................................... 37 3. PHYSICALINFRASTRUCTUREFORTRADE AND TRANSPORT TRANSPORT 4. RELATEDSERVICES ................................................................................................. 41 TRADE 44 5. FACILITATION................................................................................................................... AND ............................................. 45 6. POLICY RECOMMENDATIONSON TRANSPORT LOGISTICS ELECTRICITY .................................................................................................................................. 46 7. POLICY RECOhLVENDATIONSON ELECTRICITY ....................................................................... 56 CHAPTER 4 . GOVERNANCE INGUATEMALA ........................................................... 57 1. INTRODUCTION .............................................................................................................................. 57 2. REDTAPEAND CORRUPTION ...................................................................................................... 58 LAND ............................................................................................................................................... 62 4. 3. COURTSAND CONTRACTENFORCEMENT .................................................................................. 63 5. CRIMEAND INSECURITY ............................................................................................................... 64 6. POLICYRECOMMENDATIONSGOVERNANCE ON ..................................................................... 68 CHAPTER 5 . FIRMS'ACCESSTO FINANCIAL SERVICES ......................................... 71 1. INTRODUCTION .............................................................................................................................. 71 2. ACCESS FINANCE..................................................................................................................... TO 76 3. OBSTACLESAND POLICY RECOMMENDATIONS ........................................................................ 80 RECOMMENDATIONS SUMMARY TABLE ..................................................................... 84 BIBLIOGRAPHY .................................................................................................................... 89 iv Acknowledgments The Second Guatemala Investment Climate Assessment was written by a team ledby Stefka Slavova. The team comprised Veronica Alaimo, Michael Goldberg, Paola Granata, Tatsuji Hayakawa, Fernando Lecaros, Yira Mascar6, Ana Maria Oviedo, Thomas Haven, Bujana Perolli, Susana Shchez, Naotaka Sawada and Jordan Schwartz. Jorge Pefia did the productivity analysis. Wolfgang Mostert prepared a background paper on the energy sector inGuatemala. Otto Samayoa prepared a background paper on the early effects o f DR-CAFTA. Jorge Meza was incharge o f survey implementation. MonicaRivero, Micky Ananth, PatriciaMelo, Eric Palladini and Jane Hwangprovided editorial assistance. Lily Chu provided overall guidance and advice throughout the preparationof the report. Useful comments were also received from Jane Armitage, David Gould, JosC Luis Guasch, Pablo Fajnzylber, Humberto L6pez, Neeta Simr, Mario Marroquin andWaleska Garcia-Corzo. A presentation of preliminary survey findings was delivered to representatives of the Government and the private sector inJuly 2007. Feedback was received from the Ministries of Finance and Economy, FUNDESA, the National Competitiveness Program (PRONACOM), and the National Competitiveness Council. The team is particularly grateful to the Commissioners for Competitiveness Miguel Ferngndez and Emmanuel Seidner for all their support and inputs duringthe preparation o f the report. Peer reviewers are Mary Hallward-Driemeier and Paulo Correa. V Executive Summary 1. Guatemala has achieved substantial progress in improving its investment climate since 2004. This has been reflected in improvements in Doing Business indicators (World Bank 2006, 2007) and the 2007-2008 Global Competitiveness Report (World Economic Forum 2007) rankings. For instance, Guatemala ranked among the top 10 Doing Business reformers in 2005-2006 out of 175 countries worldwide and it was the top reformer in Central America in 2006-2007. Firm perceptions about major obstacles also improved substantially in recent years. Compared with 2003, far fewer f i r m s considered corruption, macroeconomic instability, crime, informal competition, tax rates, access to finance, and courts to be major or severe obstacles according to the World Bank's 2007 Enterprise Survey. 2. Despite these achievements, Guatemala continues to face significant challenges. Guatemala's overall Ease of DoingBusiness ranking is still relatively low-1 14* out of 178 countries-and it falls well behind the rankings of comparator countries such as ElSalvador (69), Nicaragua (93), andPanama (65). Economicgrowth inGuatemala over the past 25 years has been very modest, even by Latin American standards. Per capita GDP growth between 1980 and 2005 averaged only 0.2 percent per year, comparedwith between 1.2 and 2.2 percent for Costa Rica and Panama. 3. Productivity and export growth has been disappointing. Guatemala had negative growth in output per worker between 1980 and 2003. Inlarge measure, this was caused by a decrease intotal factor productivity (TFP), although a reductioninphysical capital also made a small negative contribution. Education levels-the third determinant of output per worker-improved, partially offsetting the negative changes in TFP and physical capital. Export performance has not kept up with comparator countries such as El Salvador, Costa Rica, and Chile. During the 1960s, Guatemalan exports of goods and services averaged 15 percent of GDP, and this percentage has barely changed since (it averaged 16 percent in 2006). Incontrast, Chilean exports grew from an average of 14percent of GDP in the 1960s to an average of 36 percent during the 2000s. Moreover, Guatemalan exports are dominated by basic commodities such as coffee, sugar and bananas, making them more vulnerable to external demand and price shocks. 4. The Central America Free Trade Agreement (CAFTA) brings new opportunities as well as competitive pressures. With its export mix, tourism, service sector, and potential for foreign direct investment, Guatemala has a lot to offer-and a lot to lose if it fails to invest inthe systems, technology and worker s k d s required in the new world of free trade. The first twelve months of CAFTA have begun to yield encouraging results as well as some structural weaknesses that need to be addressed. Many Guatemalan f i r m s have begun to adapt to the major changes represented by CAFTA, both in terms of finding export market niches and investing in I S 0 and other certifications, but they lag far behind many regional competitors. While FDI and exports have increased, the trade gap persists, with imports jumping significantly. The easy access to markets in the United States, Central America, and the Dominican Republic i s balanced by an increase in foreign penetration of vi the national market. The benefits to the country could include employment, worker training, management know-how, and access to new technologies. The risks to the country are clear: as some sectors and regions lose their share of the national markets, unemployment may grow. 5. To be competitive, Guatemala needs to aggressively tackle reforms in3 main areas: infrastructure, governance, and access to finance. These areas have been identified through analysis of a variety of data sources, including Doing Business in&cators, the Global Competitiveness Report, and Enterprise Surveys. Besides data on firm perceptions, the Enterprise Surveys were used for cross-country benchmarking and an econometric analysis of the drivers of firm productivity. For instance, the econometric analysis found that red tape, corruption and crime variables have the highest relative effect on average firm productivity (51 percent). Infrastructure-related variables had a cumulative contribution of 17 percent-the second highest (see Figure 1.7). Skills, technology adoption, and innovation are also significant areas for improvement, but they are not covered indepth inthis report (seeinsteadWorldBank2008). 6. Reforms in these areas, as well as other targeted initiatives, will better position Guatemala to take advantage of CAFTA. Investments in roads, ports, and airports would facilitate access to overseas markets. Reductions incorruption and crime and improved electricity service would reduce costs for exporters and make them more competitive internationally. Reducing red tape for imports and exports-e.g., througha one- stop shop for required licenses-would help as well. Developing the national quality system would makeit easier for firms to attain the product quality levels required by export markets. Quality system improvements relate to standards, firm certifications (e.g. I S 0 and HACCP), laboratory accreditation, metrology, and outreach to specific sectors with an export record or export potential. Strengthening rural competitiveness and outreach programs to small and medium f i r m s can also be an effective way to build export capacity and encourage internet use, foreign licensing, new product and service development, etc. 7. The Government should also build on what has been working in trade promotion. CAFTA guides for SMEs, the alliance with INTECAP for worker training, the increasingly effective investment promotion approach, and investments in the development of Guatemala's important tourism assets all contribute to an improved outlook. The leadership role of the Commissioner of Investment and Competitiveness and the M i n i s t r y of Economy should be maintained, as well as the strong operational leadership of the office of the National Competitiveness Promotion (Pronacom). A final recommendation related to trade i s to review the effects of the white corn exclusion in CAFTA in light of the growing food price surge locally and internationally. Open trade inwhite corn could help the majority of low income households, especially indigenous communities. Infrastructure 8. Road, port, and airport quality could all be improved, with private sector participation playing a key role. Despite the progress made inroad density, road quality has declined. Investments are needed to rehabilitate existing roads and to build new roads to h k remote areas. Portcapacity and efficiency needto anticipate the increasing demand from importers and exporters and continued investment in software and port staff training i s needed. For both ports and airports, the legal/institutional framework and private sector participation could be improved. Public expenditure levels have not been enough to keep up with infrastructure needs, therefore possible ways to attract private investment should be explored. 9. Electricity subsidies should be targeted in a more efficient manner and the social tariff system should be reconsidered. Eliminating the social tariff altogether and replacing it with social support paid to low-income families by municipalities would make socio-economic sense. It would improve targeting (reducing the number of beneficiaries) and also improve the financial situation of the national electricity company (INDE),thereby enabling it to accelerate planned investments intransmission and hydropower. 10. More effective mechanisms to promote investments in renewable energy should be adopted. The impact of the Incentive Law on N e w Investments in Renewable Energy and its regulation has been limited: most investments are very attractive without the added benefits. A local community tax on hydropower that provides local communities with improved financial benefits would serve as an effective instrument to accelerate investments inhydropower. Governance 11. Guatemala should continue reforming its regulation of private business activity-especially in firm registration, construction permits, and tax and customs administration. Action plans that have already been developed by the country's Credit Risk Task Force (Mesa de Riesgo delPais) should be implemented in the short term. The one-stop shop for firm registration should be replicated to municipalities outside of Guatemala City. Introducing online submission of tax declarations and making it possible to pay taxes online could improve tax administration. Customs could be improved by streamhung documentation and introducing performance incentives for customs officials. 12. The government should attack corruption directly. Building on current efforts could go a long way to further reducing the incidence of corruption. One example i s the Public Sector Modernization and Management Project, which works to improve government procurement practices, civil service performance and incentives as well as fiscal management. Strengthening institutions such as the judiciary and the police could also help reinforce control mechanisms at the national and municipal levels. 13. A concerted, long-term effort is needed to strengthen contract enforcement and the judiciary. The Justice Sector Modernization Project underway with World Bank assistance should help with court case management, training of judges, improving court infrastructure and performance and incentive schemes for judges. To reduce times to case disposition, backlogs should be dealt with. Other areas of judicial reform would include a review of the Civil Procedure Code and alternative dispute resolution mechanisms, such as mediation. 14. To lower crime, the strategy should be to emphasize preventive measures and support greater police enforcement. The quality of the police and the criminal justice system could be improved, with targeted interventions to reduce crime in high-risk communities in the short run, and work toward a human development strategy which aims to lower the underlying tendency for criminality in the mehum- to long run.Many of the targeted short-term interventions involve working with youth-at-risk groups, gang members and strengthening self-policing by communities. A number of Guatemalan NGOs have programs workmgwith gang members to disarm and find employment. Viii Finance 15. Creditor rights and insolvency proceedings should be strengthened. Enhancing the institutional framework for the enforcement of creditor rights and insolvency proceedings would foster credit growth, decrease its cost and increase the efficiency of collateralby increasingthe probability of recovering funds inthe event of default. 16. Sources of financing that can address the specific needs of MSMEs should be promoted. Currently external financing is coming almost exclusively from companies (through trade credit) and private banks. Promoting access for MSMEs would require encouraging the development of non-banking sectors, including micro-finance institutions, capital markets, and leasing and factoring firms. Specialized legal-regulatory frameworks wouldhave to be developed for bothleasingand factoring to grow. 17. The growth of commercially oriented microfinance institutions (MFIs) should be promoted through an adequate regulatory and supervisory framework. Larger MFIs are already mature enough to be moved into a regulated environment to preserve and reinforce their development. This would encourage prudent accounting and risk management practices among larger institutions and enhance their access to long-term commercially priced funding. 18. Accounting and auditing practices, financial information infrastructure, and regulatory norms for movable collateral should be strengthened. Currently, there is insufficient financial information about f i r m s due to weaknesses in accounting and auditing practices and incomplete databases of credit registries and credit bureaus. Adherence to credit bureaus i s typically voluntary-except for the system of the Superintendency of Banks (S1RC)-and, therefore, information tends to be partial. To increase the availability of accurate financial information on debtors it would be convenient, among other things, to provide legal backing to the adoption of international financial standards. This would increase transparency and ensure systematic reporting of debtors' financials to the Superintendency of Banks. Greater acceptance of movable collateral by financial institutions would help unlock access to credit for enterprises, especially MSMEs. To increase the viability of their credt proposals it i s important to have the appropriate legal-regulatory framework for movable collateral and an efficient judicial system to execute it. Chapter 1. Overall Investment Climate Findings 1. INTRODUCTION 1.1 This chapter reviews the investment climate in Guatemala using data from the Enterprise surveys of 2003 and 2007 and complementary sources such as the World Bank Doing Business reports, World Economic Forum (WEF) data, and other sources. It compares the results of the two Enterprise surveys on investment climate in the country. It further provides a benchmark for Guatemala's investment climate indicators- governance and regulation, finance, infrastructure (energy, transport, and telecommunications) and skills and technology-compared to the relevant comparator countries inLatin America (Costa Rica, El Salvador, Honduras, Nicaragua, Panama, Bolivia, Chile). In addition, Guatemala i s compared with Mauritius (with trade and tourism-based growth) and Sri Lanka (with manufacturing-led growth). Finally this and the following chapters present selected variations of the investment climate indicators within Guatemala accordmg to firm size, economic sector and region. 1.2 One of the main findings of the 2004 Guatemala Investment Climate Assessment (which was based on the 2003 Survey) was the failure to continue with the business climate reforms initiated in the 1990s. In particular, the report identified unnecessary regulations that were causing delays and increasing firms' costs, harassment of the private sector through informal payments, inefficient courts, and a high incidence of crime. The recommendations made at that time included: (1) to continue efforts to modernize the judicial system; (2) to review business operating regulations; and (3) to streamline administrative processes by eliminating unnecessary regulations. 1.3 Since 2004, Guatemala has achieved substantial progress in improving its environment for private business. This has been captured by different international benchmarking publications. Over the past few years, Guatemala recorded a notable improvement in its ranking on the Doing Business indicators (World Bank 2006, 2007) and the 2007-2008 Global Competitiveness Report (World Economic Forum 2007). For instance, Guatemala ranked among the top 10 reformers in2005-2006 out of 175 countries worldwide (and among the top 3 reformers inLatin America and the Caribbean) according to the Doing Business 2007 report. Although it was not a top-10 reformer in the Doing Business 2008 report, the report shows that between May 2006 and June 2007 Guatemala introduced 5 new reforms, becoming the top reformer inCentral America'. Similarly, on the Inaddition to the usual Central American comparator countries (Honduras, ElSalvador, Nicaragua, Costa Rica and Panama) Chile, Mauritius and Sri Lanka were chosen because: (1) Chile has been a leader in economic development inLatin America for the past 25 years; (2) Mauritius serves as an example of how trade and openness can contribute to growth; and (3) Sri Lanka doubled its per capita income between 1980 and 2005 by growing manufacturing exports. 2 In recognition o f the Government o f Guatemala's commitment to reform, former hlinister of Finance,Hugo Beteta, was invited to the inaugural Doing Business Reformers' Club meeting inWashington D C inApril 2007. 1 WEF's Global Competitiveness Index, Guatemala improved in the past two years. The 2007-2008 index ranks the country 87* out of 131countries ~ o r l d w i d e . ~ 1.4 Despite these achievements, Guatemala continues to face significant challenges. For instance, it ranks only 114* out of 178 countries on the overall Ease of Doing Business index, which i s better than Costa Rica (115), Honduras (121), and Bolivia (140), but substantially worse than the rest of the comparator countries included inTable 1- 1.A similar pattern is observed inthe Global Competitive Index 2007-2008. Inthat index, Guatemala outperforms only Bolivia (105) and Nicaragua (111) among the same comparator countries. Table 1.1:InternationalInvestment Climate Rankings Number of positive Ease of Doing Global Competitiveness (negative) reforms Business2008 Index 2007-2008 (rank 2006-2007 (rank out of 178) out of 113) Guatemala 5 114 87 Bolivia 0 140 105 Chile 0 33 26 Costa Rica 1 115 63 ElSalvador 1 69 67 Honduras 4 121 83 Mauritius 6 27 60 Nicaragua 0 93 111 Panama 0 65 59 Sri Lanka 2 (1) 101 70 Source: World Bank Doing Business in 2008; World Economic Forum, Global competitiveness Report 2007-2008 1.5 This report utilizes newly-available data from firms collected in2007 through the Guatemala Enterprise Survey. The Enterprise Surveys reflect both the subjective ,perceptions of entrepreneurs and objective assessments of the importance of various investment climate constraints-for example, in terms of the monetary costs that they represent for firms. This complements the Doing Business indicators, which measure the time, cost and procedures associated with different areas of government regulation of businesses as per laws and regulations in effect. The survey presents firms' perceptions, which may be biased by recent events reported in the media, by recent macroeconomic performance, or by other cultural factors. The perceptions may also reflect specific cultural and socioeconomic backgrounds of firm managers. For instance, managers of firms that concentrate on local as opposed to national or international markets may lack the necessary 3 The number o f countries covered by the Global Competitiveness Index varies from year to year, so comparisons across times are not straightforward. The WEF provides a comparison between the last two years available. Considering the same countries included in the 2006 report, Guatemala improved from 91St to 81st position. 2 benchmarks to judge the severity of the problems existing in their cities or provinces, and compare them to national or international best practices. Bearing these caveats inmind, firm managers' perceptions provide an important assessment of the importance of different obstacles to business activity. These are then weighted against more objective measures which derive from the Enterprise Surveys themselves. 1.6 Overall perceptions of the business environment improved substantially between 2003 and 2007. For example, corruption, the top constraint in both years, fell from 81 percent to 61 percent of firms that foundit to be a major obstacle (see Figure 1.1). Crime showed an even more impressive improvement-from 80 percent in 2003 to 37 percent in 2007. Macroeconomic instability, informal competition, and access to finance also improved substantially. Of the 15 measurements used, only electricity, transport, and access to land worsened between 2003 and 2007. Electricity was not a major concern in2003, but now appears as the second major obstacle. The rest of this chapter reviews the perceptions in more detail and seeks to establish whether the general improvement is matched by improvements inmore objective, quantitative measures. Figure 1.1:Guatemala: Perceptions of firms have improvedinnearly all areas (percent of firms that consider each area to be a major or severe obstacle) Corruption Electricity Macroeconomic instabihty 61 Crime 80 Informalcompetition Tax rates Inadequate educationof wor!dorce Tax administration Transport Access to Finance Access to land Customs & Trade Regulations Licensing& Permits Courts Labor regulations 0 30 60 Source: Enterprise Surveys 2003 and 2007 2. MACROECONOMIC PERFORMANCE 1.7 Guatemala's economic growth performance over the past 25 years has been very modest, even by Latin American standards. Per capita GDP growth between 1980 and 2005 averaged only 0.2 percent per year-a very low rate compared to the 0.7 percent for the region as a whole, and the 1.2 to 2.2 percent for Costa Rica, Panama and the Dominican Republic, and the 4.2 and 3.0 percent in Mauritius and Sri Lanka, respectively. Average per capita GDP in Guatemala i s well below the Central American average and the overall Latin American regional average. Indeed, the gap between Guatemala's per capita GDP and that of the rest of Central America widened between 1980 and 2005 (from 3 US$375 in 1980 to US$821 in2005). Likewise, while in 1980 Mauritius had about the same level of per capita GDP as Guatemala, by 2005 its income had triple, and Guatemala's had stayed practically the same. Sirmlarly, Sri Lanka's per capita GDP, although less than Guatemala's, more than doubled inthe same period (see Figure 1-2). I Figure 1.2: Per Capita GDP Comparisons, 1980-2005 5000 4500 4000 3500 64 VI 8 3000 250011 I I- .d 22 6 2000 1500 l+Central America +Guatemala +LAC +Mauritius *Sri Lankal Source: World Bank World DevelopmentIndicators2006 1.8 Guatemala-like most of LAC-recorded negative growth rates of output per worker between 1980 and 2003. The annual average was negative 0.5 percent per year. Only Costa Rica and Panama registered positive average growth of output per worker during the same period. In contrast, Guatemala, El Salvador and Honduras all had negative growth per worker of about 0.5-0.6 percent, and Nicaragua's average rate was a negative 2.2 p e r ~ e n t . ~ 1.9 Inlarge measure, the negative growth inoutput per worker inGuatemalawas caused by an average decrease in total factor productivity (TFP) of 0.7 percent between 1980 and 2003. Changes in physical capital made a small negative contribution of 0.1 percent, while improvements in education levels partially offset the negative effects of TFP and physical capital-with a 0.3 percent positive average annual contribution to growth in output per worker over the same period. By comparison, positive growth in output per worker in Costa Rica and Panama was largely due to higher growth inphysical capital, while the high growth rates of output per worker in Mauritius, Sri Lanka and Chile, resulted in great part from increases in TFP (e.g., a 3.4 annual average growth in output per worker in Mauritius over the same period can be decomposed into a 2.3 percent average growth in TFP, 0.8 percent of growth inphysical capital, and 0.3 growth in education). In Chile, TFP increases explained about half of the growth in output per worker. In Sri Lanka the driving factor was growth in physical capital (explaining about two-thirds of growth in output per worker) (Figure 1.3). 4Based on data fromBosworthand Collins (2003). 4 Figure 1.3: Components of Growth inOutput per Worker 1980-2003 I Capital Physical Source: Author's calculations using an updateddatabasefrom Bosworth and Collins (2003).The data show the average annualpercentage point contribution of total factor productivity (TIT), educationand physical capital to growth inoutput per worker. The numbersin white squares next to the circle icons denote the compound annualgrowth rate of output per worker between 1980and 2003. 1.10 Export performance in Guatemala has been disappointing-with lower growth in exports between 1980 and 2005 than in El Salvador, Costa Rica, Chile, Mauritius or Sri Lanka. During the 1960s Guatemalan exports of goods and services averaged 15 percent of GDP. During the next decade, exports grew to 21 percent of GDP. Since 1980 this share has fallen to 16-18 percent of GDP. In contrast, Chilean exports averaged 14 percent of GDP in the 1 9 6 0 ~ ~ but doubled within the next three decades, and averaged 36 percent of GDP between 2000 and 2005 (as opposed to 18 percent in Guatemala during the same period. In Mauritius, exports of goods and services also increased the share of GDP, from 46 percent in the 1970s to 60 percent in the 1990s and between 2000 and 2005. Figure 1-4 shows that Guatemalan export growth was very modest inthe 1990s, and has stagnated since 2000. Apart from disappointing export growth, the volume of realized exports in real terms i s low. Indeed, countries with substantially lower populations and economies, such as El Salvador and Mauritius, generated about the same volume of exports in2005 (inreal terms) as Guatemala. 1.11 Basic commodities such as coffee, sugar and bananas. These constituted roughly 30 percent of total merchandise exports in 2005 (Figure 1-4). They offer less value added and are susceptible to external demand and price shocks. Since the mid-1990s maqzda exports (based on apparel assembly in the Free Trade Zones) have increased, and gross maqada exports accounted for US$2.5 billion of exports in 20045, but dropped to US$2.2 billion in2005. The majority of these are bound for the U S market, but it has been difficult In 2003 the Bank of Guatemala changed the methodology for registering external trade to standard IhIF practice. Since then it includes gross maquila flows in total exports (and not net flows as previously done). Thus, in 2005 net maquila exports (value-added) were only US3543.3 million, while their gross value was US$2.2billion. 95 percentof maquila exports are for the US market. 5 to increase market share inthe face of growing competition from China. While coffee and sugar have recently recovered from the crisis of the late 1990s as a result of strong demand and high international prices, and exports of non-traditional agricultural products and manufacturing goods have risen, there i s still too strong a dependence on agricultural commodties for foreign revenue earnings. Figure 1.4: Exports of Goods and Services, 1980-2005 (inbillions of constant 2000 US$) +Guatemala +Costa Rica +El Salvador 1.12 Since the signing of the 1994-1996 Peace Accords, Guatemala has enjoyed considerable improvements in macroeconomic stability. The WEF World Executive Opinion Survey for 2006 found that macroeconomic factors such as inflation or foreign currency regulations were not considered a problem by interviewed domestic and foreign f i r m s (with less than 1 percent expressing concern over them, Figure 1-5). The challenge now-which confronts many Latin American countries-is to create the micro-foundations for economic growth, such as the climate for investing and doing business. Investors were not concerned with government instability or tax rates. However, investors perceived crime and theft, policy instability, the inefficient government bureaucracy, the inadequate supply of infrastructure and the inadequate education of the workforce as major obstacles. N e x t on the list were corruption and access to financing. Therefore, there i s a strong sense from these data that growth i s stifled by investment climate issues, but not by macroeconomic factors. 6 F nure 1.5: PerceDtions ofDoing.Business inGuatemala Cnme and theft Policy instability Inefficient government bureaucracy Inadequatesupply of infrastructure Inadequatelyeducatedworldorce Comptlon Access to financmp Resmcuvelabor regulations Tax regulations Poor work e b c m nauonal labor force Tax rates Gavernmenimstabilitylcoups Innatlon Foreigncurrencyregulations 0 2 4 6 8 10 12 14 16 18 percentof responses (weighted) iurce: World Economic Forum, Executive Opinion Survey 2006 Global Competitiveness Report 2006-2007,World Economic Forum, 2006 1.13 A productivity analysis carried out with the new Guatemala data found that red tape, corruption and crime variables have the highest relative effect on average firm productivity (51.4 percent). Infrastructure-related variables had a cumulative contribution of 16.7 percent-the second highest (Figure 1.6). Finance-related and quality, innovation and skills variables have a far lower contribution to average productivity (13.1 and 8.7 percent respectively). Figure 1. 6: Relative ICA effects on average productivity (Mixed Olley and Pakes decomposition) Yo hfrastructures Mtap,cornpticn&crime Finance&cap.gw. Qlality irrmation Cthscontrd &labor skills Variables 5 0 - 40- a- n 242 m - 6 7 1 T.l 11 12 13 14 15 16 T2 2.1 22 23 2.4 25 2.6 2.7 T.3 31 32 3.3 3.4 35 T.4 4.1 42 4.3 T.5 5.1 52 5.3 5.4 1 T.l Total infrastructures 23Dumyforconfiictsincourts 1.4 Total quality, innov. and labor skills rJthfimthatcbq u r t 1lD;gstocisarcustonstoeqort-interaction 2.4Dumyforsecurityeq~ees 2.5Dumyforcrlme 4.1Dumyfor Wqualitycatification 12OEctrlcityfmmagor 2.6Ma~-a#s timespent inbur.issues 42S&f - femsleworkers :,fc:"d, 13Durmyfor'Eifts'to obtaindectrlcitys@y 2.7P-s to s p dLpbureaucracy 4.3Trainirgto mryxoMionworkers 14MBtHOUtagaS 15W8rfrompkiicsources 1.3 Total finance andcorporate governance variables 16Sip-& losses,inports 32\hborking~al 3,Ilnitialinvestment:pivadetanks fi-edbinromalsources 52p~entageofmionidworkforce T.2 Total redtape corruptionand crime 3,3\hborking~alfi~eddmnorrbanWngfirancial5,491areof qurts 5.3Dufmyfor FDi 2.lSalesrqmrtedtotaQs institutions 22Durmyforconfiictsvjthclients 3.4Dvnmyforchkirgorsavi- ~ccount 3ADumyforcrdt line Source: Background analysis and paper on productivity, 2008 7 3. GOVERNANCE AND REGULATION 1.14 The quality of governance and regulation of business activity can be addressed from several perspectives. One perspective looks at the prevalence of the rule of law, which includes issues such as corruption, crime and informal activities. Another perspective refers to the efficiency of the legal and regulatory framework, as reflected inthe quality of the services provided or regulated by the government and the burden that f i r m s face in complying with regulations in taxation, entry and exit, labor relations, and other legitimate public interests. Previous studies suggest that to improve firm performance in Latin America, policies shouldbe oriented toward both strengthening the rule of the law and improvinggovernment institutions and regulatory frameworks.6 1.15 Evidence from the Enterprise Surveys and other cross-country data sources point to shortcomings in corruption, crime, and informality. Although the proportion of firms perceiving these issues as major constraints has fallen between 2003 and 2007, those areas still remain among the top obstacles for Guatemalan entrepreneurs. Accordmg to Kaufmann et al. (2007), Guatemala did not make progress between 2003 and 2006 in the rule of law and control of corruption indexes.' Compared to the selected comparator countries, Guatemala i s in the worst position in the rule of law; and i s only better than Honduras and Nicaragua in control of corruption (Figure 1-7). Figure 1.7: Governance Indicators, 2003 versus 2006 a. Ruleof Law b. Control of Corruption d Chde Chile Mauntius Costa R i a Costa Wca MBYIltlUS Sri h k a El Salvador Panama Panma ElSalvador -O ?o-0 5 Sri Lanka 1 Nicaragua Gua!eUlalB Honduras NlCXagW Guatemala I Hondwas -2.w -1.50 -1.00 4.50 0.00 0.50 l.w 1.50 2.w .zoo - 1 5 0 -100 -050 0 0 0 050 I O 0 1 5 0 2 0 0 pGiiiG Source: Kaufmannet al. (2007) 1.16 Guatemalan firms continue to suffer more from crime than their counterparts inother countries. There are several costs associated with crime, such as the direct cost of security to protect the firms' private property or losses due to theft, robbery or vandalism. On average, Guatemalan firms lose 4 percent of their annual sales in security expenses or theft, and this percentage increases to 8 percent when the sample i s restricted to those f i r m s that were victims of crime in the period. This figure i s the highest among comparator countries. Depending on their size, region of operation or exporter status, crime affects f i r m s differently (see Chapter 4 for more details). See Lopez et al. (2007). Kaufmann et al. (2007) produce indicators known as "Governance Matters" indicators. These are indexes that go from -2.5 to 2.5 (the higher the index, the better the outcome), which can be transformed into a percentile measure (0-100) for an easier interpretation. 8 1.17 The proportion of firms that pay bribes to "get things done" or to obtain public services fell dramatically between 2003 and 2007-from 35 percent to 16 percent.' Despite this impressive decline (see Chapter 4), corruption remains a concern for Guatemalan firms. Moreover, the 2007 figure i s still higher than inPanama, ElSalvador, Sri Lanka, Chile and Mauritius (Figure 1-8). Corruption shouldbe addressed inconjunction with other problems such as regulatory compliance and the judicial system, as various studies have linked these to corruption. On the judiciary front, the 1997 World Development Report focused on the quality of the judiciary and found that, controlling for other factors, the prelctability of the judiciary appears to lower the level of corruption. Ades and DiTella (1996) present a similar correlation between corruption and the independence of the judicial system. Other studies have found that corruption i s negatively correlated with both regulatory compliance (proxied by the percentage of sales that f i r m s report for tax purposes) and trust inthe courts' enforcement power. Figure 1.8: Bribe payments inGuatemala and comparator countries (togetpubliccontractsand/or"get thingsdone") ' 435 0 34.4 . a 2 30 25 LFI 20 k3 15 10 5 0 Note: Bribe payments are measured as a variable that equals 1if the firm's manager answers with apercentage greater than zero to the following question: "When establishments like this one do business with the government, what percent of the contract value would be typically paidinadditional or informalpayments or gifts to secure the contract?", or if the firm answers affirmatively to any of the questions "Was an informal gift or payment expected or requested to obtain the [service]?" in reference to a telephone, water, or electricity connection; an import, or operating license; or a construction permit. Source: Enterprise Survey. 1.18 Practices of competitors in the informal sector are a major concern among Guatemalan firms. Enterprise surveys interview only formal firms. On average, formally registered f m s report 73 percent of their sales for tax purposes. This figure i s not significantly different from the regional average (71 percent). However, this figure can be improved; within Central America this average i s lower only in Nicaragua (59 percent) and Panama (63 percent). The other comparator countries report a higher proportion of their sales for tax purposes. Firms are also asked about the proportionof workers reported for tax and social security purposes. Guatemalan f i r m s report, on average, 76 percent of their 8The difference increases when we compare the same (panel) firms which were interviewed inboth 2003 and 20007: 42% paidbribes "to get things done" in 2003 and 18% -- in 2007. 9 workforce, slightly higher than the Central America average of 74 percent, but far below Chile (82 percent). There are no available data on this issue for Mauritius or Sri Lanka. 1.19 In2003 Guatemala had the highest share of informalworkers among Central American countries. Gasparini and Tornarolli (2007) use household surveys to measure the share of informal workers inLatin America and the Caribbean. They define as "productive informality" the share of workers that belong to any of the following categories: (1) unskilled self-employed; (2) salaried workers in a small private firm; and (3) zero-income workers. Table 1-2 summarizes their estimations for Guatemala and the avadable comparator countries. Guatemala has the highest share in Central America (69.5 percent), and i s only surpassed by Bolivia (76.9 percent) among the comparator countries used inthis report. This i s also in line with a study by the Center for National Economic Research of Guatemala (CIEN), which estimated that in2004,75 percent of the economically active populationwas engaged ininformal a ~ t i v i t y . ~ Table 1.2: Share of informalworkers, 2003 Bolivia 76.9 ElSalvador 57.0 Guatemala 69.5 Panama 50.2 Nicaragua 64.7 Costa Rica 41.4 Honduras 63.8 Chile 37.0 Source: Gaspariniand Tornarolli (2007) 1.20 Informality is not an isolatedproblem. Schneider (2005) points out that heavy tax and social security burdens are one of the main causes for the existence of an informal economy. In addition, the intensity of regulation and the complexity of the tax system are also found to be important determinants of the shadow economy. Figure 1.9: Regulation Indicators, 2003 versus 2006 Regulatory Quality Government Effectiveness Chile Chile Mauntius Mauntius Costa Rca Costakca Panama Panama ElSalvador ElSalvador Guatemala SnLanka SnLanka Honduras Honduras Guatemala Nicaragua Nicaragua -200 150 -100 -050 000 050 100 150 2 0 0 -200 -150 -100 -050 000 050 100 I 5 0 2 0 0 /zEGz Source: Kaufmann et al. (2007) 1.21 Guatemala has made a significant improvement interms of regulatory quality during the past four years. According to Doing Business 2007, Guatemala was a top 10 reformer in 2005-2006, when it introduced reforms to facilitate starting a business, dealing with licenses, and registering property. Inaddition, the DoingBusiness 2008 report indicates that during 2006-2007 "Guatemala expedited a number of formalities by making them electronic. By allowingregistrars to submit electronic signatures, the time to register property CIEN 2006. 10 has been reduced from 37 to 30 days. The implementation of a new Electronic Data Interchange (EDI) system for electronic submission of customs declarations and the introduction of risk-based inspection regime decreased the time for exporting procedures by one day. With the full implementation of the one-stop shop, time for new company registration was cut from 30 to 26 days, and 13 procedures were reduced to 11. Guatemala focused on increasing efficiency across the board, expediting the decision processes for construction, reducing the time from 286 to 235 days, as well as reforming the courts: increasing the number of cases to be decided by justices of peace hereby expandmg their small claims 1.22 Alternative measures of regulation, such as those used by Kaufmann et al., indicate improvements but not along all dimensions of the regulatory regime. As Figure 1-9 shows, Guatemala's improvement in the Regulatory Quality indicator from -0.24 to -0.09 implies a movement from the 44' to the 5lStpercentile in the entire distribution. However, the index of Government Effectiveness has worsened for Guatemala during the same period. According to the Enterprise Survey, Guatemalan firms report tax rates as major obstacle for the operations of their business. Other issues as tax administration, access to land, customs and trade regulations, permits and licensing, courts, and labor regulations are not among the top 5 obstacles, but combined, regulatory issues remain a major concern for the private sector. 1.23 The proportion of Guatemalan firms that perceive the functioning of the courts as a major or severe obstacle for business has significantly declined-from 31 percent to 13 percent. Perhaps firms do not perceive the courts as much of a problem because very few of them use the courts-only 49.6 percent-the lowest percentage among the comparator countries. The percentage of commercial disputes that are taken to court, less than 50 percent, i s the lowest among comparator countries. Furthermore, only 24 percent of firms consider the court system to be fair, impartial, and uncorrupted (Figure 1- 10). Figure 1.10: Courts inGuatemala and comparator countries A. Percentage of firms that Consider the Court Systemto B.PercentageofFirmsthat Considerthat Courts are BeFair, Impartial, & Uncorrupted Quick Chlle Panama Guatemala 2007I 1744 I ElSalvador Guatemala 2007 Nicaragua ElSalvador Bolivia Bohvia Honduras Honduras 0 I O 20 30 40 50 60 0 10 20 30 % fim Iii f l o DoingBusiness 2008. 11 C. Percentage of disputes that use courts Bohvia Nlcaragua Panama Honduras Salvador Guatemala 0 10 20 30 40 50 60 70 80 '*o dlsputes Source: Enterprise Survey 1.24 Guatemala has the lowest number of procedures required to enforce contracts among comparator countries, but the longest time to do so-an average of 208 weeks (Table 1-3). Overall, Guatemala performs slightly better than the Central American average, and i s even better than Chile in terms of the number of procedures and enforcement costs (as a percentage of the amount disputed), but trails the other countries as far as the time to enforce a contract, probably the most important measure of contract enforcement. Table 1.3: Contract enforcement Enforcing Contracts Procedures Time cost Rank (number) (days) (% of debt) ElSalvador 54 30 786 19.2 Chile 64 36 480 28.6 Nicaragua 69 35 540 26.8 Mauritius 78 37 750 17.4 Guatemala 98 28 1459 26.5 CA 99 36 674 30.1 Bolivia 112 37 591 33.2 Panama 116 31 686 50.0 Honduras 124 45 480 30.4 Costa Rica 130 40 877 24.3 Sri Lanka 133 40 1318 22.8 Source: Doing Business 2008. Sorted by country's rank o n the index o f Enforcing Contracts 4. INFRASTRUCTURE 1.25 According to the Global Competitiveness Report 2007-2008, infrastructure i s perceived as the s i x t h most problematic factor for doing business in Guatemala." Thus, foreign investors thought that Guatemala had an overall competitive disadvantage due to its inadequate infrastructure. Overall infrastructure quality was ranked 63rd among 131 11F r o m a l i s t o f 15 factors, respondents were asked to select the five most problematic for doing business and to rank them between 1 (most problematic) and 5 (least problematic. The responses are weighted according to the rankings and summarized in a final ranking. According to the Global Competitive Report 2007-2008, the five most problematic factors are crime and theft, policy instability, corruption, inefficient government bureaucracy, and inadequately educated workforce. 12 countries in 2006, better than the regional average, Sri Lanka, and Bolivia, but worse than Chile and Mauritius (Table 1-4)." Table 1.4: Infrastructure indicators inCentral America Notable CompetitiveAdvantages and Disadvantages(RanW131 countries) (*) Bolivia Chile CostaRica Salvador El Guatemala Honduras Mauritius Nicaragua Panama SriLanka Overall infrastructurequality 123 30 110 40 63 72 44 108 51 74 Roads quality 125 22 121 31 56 62 43 102 52 77 Railroad infrastructurequality 102 66 115 117 120 114 101 129 63 60 Port infrastructurequality 87 34 125 81 73 40 41 124 15 62 Air transportinfrastructurequality 118 31 66 34 67 69 39 80 38 70 Electricity supplyquality 87 39 40 57 63 86 45 117 56 81 Telephone lines (harddata) 94 59 37 74 88 95 42 105 76 98 Source: World Economic Forum, Global Competitiveness Report 2007-2008. (*) The rankings inbold and italics are considered notable competitive advantages, while the rest are notable competitive disadvantages. 1.26 According to the survey data, manufacturing firms in Guatemala rely on the country's system of roads to transport their main product to its primary destination (see Chapter 3, Figures 3-6 and 3-7 for more details). Firms use transportation to buy inputs and sell their outputs. The vast majority of interviewed Guatemalan firms use land transport for getting their main product to the market, w h c h i s similar to elsewhere in Central America, with the exception of Panama (where maritime transport has a very high share). In the context of CAFTA and regional integration with other countries in Central America, improvements inroads and logistics can generate an important boost for the private sector. Only 9 percent of interviewed Guatemalan firms report another country as their main market destination. Of those, the average percentage of shipment lost due to breakage or spoilage i s about 0.3 percent, which puts Guatemala ina better positionrelative to the rest of the comparator countries, with the exception of Chile. 1.27 Access to reliable electricity supply i s a major concern for firms in Guatemala. A lower share of firms suffered power outages in2007 than in2003 (34 versus 73 percent respectively). But for the affected firms, outages lasted longer (17 hours per monthin2007 compared to seven hours per month in 2003). In line with the longer duration, losses associated with power cuts were higher in 2007 than in2003 across f i r m s that suffered from them. 1.28 Guatemala has been a net exporter of electricity to other Central American countries, although increased domestic demand has decreased the exportable surplus recently. In the last three years there have been problems satisfying peak demand lasting up to four hours-and the problem may b e even more severe if current economic growth forecasts are fulfilled. This issue should be addressed promptly, since the addition of new generation plants requires at least four years (four to five years for a coal plant, and five or six years for a hydroelectric plantwith a seasonal dam). l2However, thereisarelativeimprovement intheGuatemalan infrastructurerankings withrespectto the previous report. The 2006-2007 report ranked 117 countries, while the 2007-2008 report ranked 131 countries. Table 1-6 reports the ranking among 131countries. It i s possible to compare rankings across years by computing the percentile position of Guatemala in each report. Guatemala moved from the 23rd percentile in2005 to the 52"dpercentile in 2006. 13 1.29 Competition in the telecommunications industry has increased over the past eight years. The privatization of Guatel in 1998 and the aggressive expansion of mobile networks have led to an increase in penetration from 5.8 telephones per 100 inhabitants in 1998 to 45.7 in 2005. Broadband internet access is available in all major municipal towns through the incumbent's DSL service, and alternative broadband providers in Guatemala City are expanding to other cities inthe country. At the firm level, the proportion of firms that use own email or own web pages to communicate with suppliers and clients has grown from 67 percent in 2003 to 75 percent between in 2007. However, there is still room for further expansion, since these figures are below the levels observed in most comparator countries. 5. SKILLS AND TECHNOLOGY 1.30 Overall Guatemalan education performance is poor. The country has a highrate of illiteracy (the highest inLatin America), and the gross enrollment rates at both the primary and the secondary levels are low (the lowest in Latin America). In addtion, the level of public expenditure ineducation i s low, and it i s not compensated by a larger presence of the private sector (relative to other Latin American countries). There are three ways that the investment in education can contribute to economic growth: (i) demand for skilled labor to use modem technology, (ii) creation of stronger government and private sector the institutions, and (ii) improved efficiency of the education system.13 1.31 Despite the relatively low level o f education, firms seem less inclined to absorb additional worker training costs than before. According to the survey, the percentage of manufacturing firms providingtraining to their employees has decreased from 58 percent in 2003 to only 42 percent in2007. The 2007 level i s lower than the percentage of firms providing training in the comparator countries, with the exceptions of Nicaragua and Sri Lanka (Table 1-5). The share of f i r m s providmg training i s unevenly dstributed across dfferent types of f i r m s (by size, region, and exporter status). Small firms provide significantly less training than medium and large h s . Firms are more likely to provide worker trainingwhen they are located inthe capital city or are exporting products. Table 1.5: Percentage of manufacturing firms providing training Mauritius 62.4 Honduras 43.6 Guatemala2003 57.8 Panama 42.3 Bolivia 57.0 Guatemala2007 41.5 Chile 53.4 SriLanka 32.6 ElSalvador 48.5 Nicaragua 30.5 CostaRica 46.4 Source: Enterprise Survey. The difference between Guatemala 2003 and 2007 still persists if we restrict the sample to firms interviewed in both years (panel sample). 1.32 Guatemala has room to improve in innovation and technology. Figure 1-11 shows that 34 percent of Guatemalan firms invest in research and development (R&D), which i s significantly higher than the Central American regional average of 26 percent. In 13 Enterprise surveys do not provide enough information to analyze human capital performance. This analysis relies o n Artana, et al. 2007. 14 contrast, there i s no significant difference between Guatemala and the rest of Central America interms of I S 0 certifications. It i s important to note that the latter has significantly increased in Guatemala between 2003 and 2007, from 3 percent to 16 percent, even when we restrict the sample to the f i r m s surveyed in both years. Nevertheless, Guatemala sttll has room for improvement inthis area when compared to Chile (26 percent) and Mauritius (28 percent). Figure 1.11:Innovation inGuatemala and comparator countries Percentageof Firmsthat invest inR&D Percentage of Firmsthat have I S 0 certifications SnLanka COStaRlCa Honduras Nicaragua Panam Chde ElSalvador Guatemla 2037 Guaiewla 2003 Bohvia M8""tL"S 4 0 10 20 30 40 50 0 5 10 15 20 25 30 ck frm srfum; bource: Enterprise Survey 1.33 Guatemala still faces challenges with respect to its technological readiness and innovation capacity. Its only competitive advantage (Table 1.6) is foreign direct investment and technology transfer, where it ranks 40* out of 131 countries. Among the Central American countries, it also comes second only to Costa Rica in terms of capacity for innovation (59* compared to Costa Rica's 37* rank). Table 1. 6: Technological Readiness and Innovation Indicators Notable CompetitiveAdvantages and Disadvantages(RanW131countries) (*J Costa Rita Salvador El Guatemala Honduras Nkaragua Panama Technological readiness Availnbiliry of latest technologies 12 75 62 96 118 18 Firm-level technology absorption 56 86 60 IO0 126 19 Laws relating to ICT 60 7 4 91 86 106 5 1 FDI and technology transfer 7 88 40 52 111 29 Innovation Capacity for innovation 37 87 59 85 107 104 QuaIi1) of scienrifrc researchin3titutions 34 I21 103 I20 125 95 Company spendingon R&D 30 loa 64 101 121 19 CN! ersit) -industr) researchcollaborarion 35 1 I 5 51 94 II? 83 Governmentprocurementof advancedtechnology pro 61 90 85 88 II2 19 Availability of scientistsand engineers 39 I19 99 107 115 97 Bolivia Chile hlauritius Sri Lmka Technological readiness A iailability of latest technologies I24 34 5 1 68 Firm-le!el technolog) absorption 131 38 73 61 Laus relating to ICT 122 25 44 6.5 FDI and technolog) transfer I O 1 30 68 55 Innolation Capacity for innovation II7 50 96 36 Quality of scientific researchinstitutions I26 S I 69 41 Company spending on R&D 122 60 83 39 L'ni! ersity-industr) researchcollaboration 122 1 3 7 1 39 Go\ernment procurementof advancedtechnology pro 130 40 6 1 5 1 Aiailability of scientistsand engineers 124 31 I06 44 Source: World Economic Forum, Global Competitiveness Report 2007-2008. "The rankings in italics are considerednotable competitive advantages,while the rest are considerednotablecompetiti\,edisadvantages. 15 6. ACCESS FINANCE TO 1.34 Domestic credit to the private sector has increased in the past few years- from 19.8 percent of GDP in 2000 to 26.8 percent in 2006. However, it remains well below the Central American average (almost 47 percent in 2006). In addtion, interest rate spreads are relatively high when compared to other countries in the region-an average of 10 percentage pointsinGuatemala during2001-2005, only surpassed by the average of Costa Rica (almost 14percentage points between 2001-2006) (Table 1.7). Chile 71.16 78.41 82.40 5.64 3.45 2.89 CostaRica 24.01 31.17 39.29 11.51 15.17 12.42 ElSalvador 45.24 43.52 43.66 4.64 Guatemala 19.79 22.57 26.78 10.71 10.20 8.26 Honduras 40.70 40.92 48.99 10.89 9.32 8.10 Mauritius 60.66 16.49 78.01 11.16 11.48 11.53 Nicaragua 33.18 22.94 33.35 7.34 10.00 6.71 Panama 101.89 91.81 88.56 3.41 5.95 4.56 Sri Lanka 28.83 29.93 6.99 4.34 CA 44.13 42.15 46.77 8.08 10.13 8.01 Source: World Bank, World Development Indicators 1.35 A similar picture arises from the survey data, which quantify the demand for credit by interviewed firms. The percentage of firms with checking or savings accounts in Guatemala i s significantly lower than the regional average. The same i s observed for the percentage of firms with credt lines or loans, but there are no significant differences in the percentage of firms with overdraft facilities. In terms of the demand for credit, only 32 percent of Guatemalan f i r m s applied for a loan and this percentage i s sigmficantly lower than the regional average (Table 1-8). The majority of loans require collateral, but collateral- to-loan values have declined since 2003 (Figure 1.12). Table 1.8: Access to Finance inCentralAmerica % fiims with checkinglsavings % rejected accounts Overdraft Credit linedloans applied for loans applications CostaRica 43.15 47.81 12.85 ElSalvador 92.34 54.21 62.12 43.54 12.53 Guatemala 84.36 52.90 43.99 31.98 10.29 Honduras 91.49 51.88 54.27 42.43 10.49 Nicaragua 73.32 30.03 40.93 36.69 12.11 Panama 97.68 63.65 57.29 32.76 3.86 Source: Enterprise Survey 16 Figure 1.12:Access to Finance 2003-2007 I 120 100 80 8 60 40 20 0 % Loans requiring Collateral as % loan collateral value Source: Enterprise Survey 6. FIRMPRODUCTIVITY 1.36 An econometric model was estimated to yield concrete details about the effects of the investment climate on firm performance and other economic performance variables such as workers' earnings, following the econometric methodology of Escribano and Guasch (2006), and using survey data for Guatemala only.l4The results were consistent with other findings indicating that governance issues and crime negatively correlated with productivity. Firmproductivity i s also higher when there i s access to financial services and a well-functioning legal system. This result i s captured by the positive effect of having a credit line and usingnon-bank financial sources to finance working capital, and the negative effect between using informal sources to finance working capital. As far as other control variables are concerned, firms that chose to be incorporated are more productive. This is important because, as Demirguc-Kunt, Love, and Maksimovic (2006) point out, firms are more likely to be incorporated in countries with a well-functioning legal system. Therefore, an improvement in the judiciary may improve firms' productivity indirectly through this channel. Finally, exporters have higher productivity than non-exporters, w h c h i s consistent with the literature on exporter premiums (see Olarreaga et al., 2007). 1.37 By solving a system of simultaneous equations, it i s possible to estimate the contribution of each area of the investment climate toward different measures of economic firmperformance, such as productivity,employment, real wages, exports and foreign direct investment (FDI). Figure 1-13 confirms the regressions in background note; the largest contribution to firm productivity i s given by improvements inred tape, corruption and crime (51 percent). This area is also important to attracting FDI (34 percent), increasing employment (13 percent), and increasing exports (9 percent). The gains in productivity, in turn, have a large positive effect on realwages, exports and FDI, thus further increasing the importance of governance and infrastructure inhcators for the economic performance of Guatemalan firms. 1` The methodology and detailed tables are available in a background paper (WorldBank, 2008b) 17 Figure 1.13:Contribution of investment climate variables to economic performance measures Prcductidty Real wages rn lnfrastructures Red tape, corruption and crime Finance and corporate gownance Quality, innovation and labor skils Other control variables Source: Background paper, Pena(2008) 7. CONCLUSIONS 1.38 The analysis of firm level data and intemtional benchmarks confirms the importance of the investment climate for productivity inGuatemala. The impact vanes according to the investment c h a t e factor. Since the first ICA based on 2003 data, Guatemala has acheved significant progress in the regulatory front, but it needs to persist with the regulatory reforms of the past four years. In addition, corruption and crime still remain major bottlenecks for firm productivity. There i s a substantial scope for improvement in infrastructure, especially in the energy sector, and the country needs to invest further in its human capital. Addressing these challenges will be crucial to promote sustainable growth and create the conditions for Guatemala's integration in the global economy and take advantage of trade agreements, such as CAFTA. 18 Chapter 2. Trade and the Early Impact of CAFTA on Firms 1. INTRODUCTION 2.1 It is too early to attribute recent gains in foreign direct investment, exports and sectoral development to CAFTA, but initial indications reveal some concrete benefits. A review of trade trends, enterprise survey results, a commissioned background paper based on Central Bank of Guatemala data, and available research finds that significant benefits have already been generated. M o r e than new incentives, CAFTA offers permanent favorable access to the U.S. market along the lines of the 1993 Caribbean Basin Initiative and the General System of Preferences. The value-added effects of CAFTA are tempered by already low tariffs, and the success of efforts to integrate the Central American economies that pre-date CAFTA. CAFTA benefits can also be swamped by volatihty in the U.S. demand for Guatemalan exports, highlevels of crime and corruption that can affect national and international investment decisions, and the relatively slow adoption of new technologies by firms. 2.2 With its diversified export mix, tourism and services potential for foreign direct investment, Guatemala has a lot to offer-and a lot to lose if it fails to invest in the systems, technology and worker skills required in the new world of free trade. To fully understand recent trends in international commerce for the country, this chapter provides (i) an assessment of the promise and early results of Guatemala's participation in CAFTA, (ii) perspective of Guatemalan exporters on the business environment (from the ICA surveys), and (iii)recommendations for usingCAFTA as a way to increase employment, promote regionally balanced growth, and improve private sector competitiveness. 2.3 T h e government and the private sector face different challenges, if they are to take full advantage of the CAFTA opportunity. The government must build on strong competitive advantages (includmg the new Aurora airport, a large domestic market, and attractive tourism assets)-and b d d confidence w i t h the private sector and in international markets that macroeconomic stability and fiscally responsible behavior will be continued. An efficient productive infrastructure system i s necessary to take advantage of CAFTA, attract foreign direct investment, and increase exports, including transportation infrastructure, availability of energy, and communications. Finally, government efforts to control crime and corruption will need to bear fruit to take advantage of the CAFTA window. For its part, the private sector must increase investments inlabor training, quality, market research and international product and process certifications, if it i s to prosper from CAFTA's opportunities. 2. WHAT FREE TRADEOFFERSGUATEMALA 2.4 T h e empirical literature shows that exporting firms are more productive, innovative, grow faster, and create employment with higher wages, especially for 19 skilled ~ 0 r k e r s .The benefits can be even more pronounced insmall domestic economies l ~ like that of Guatemala, thanks to the exporting firms' greater capacity utilization, economies of scale, worker training, and technological know-how. The literature states that free trade agreements should create addtional economic activity by encouragmg specialization, rather than merely redistributing wealth. In fact, for a sample of 16 Latin American countries, enterprise survey results confirm that there i s a premium for exporter firms as measured by a positive total factor productivity contribution." 2.5 There are two possible links between productivity and exporting firms. Higher productivity could be a result of exporting, with f i r m s learning how to improve productive processes and resource use by interacting with foreign markets. The second causation chain could be that, as firms become more productive, it i s natural for them to increase production and begin to export. The data inthe enterprise survey shows that firms that export are more productive in terms of total factor productivity, but this data does not provide the basis for understandmg the causal linkbetween productivity and f i n n s that are exporters. 2.6 When free trade agreements lead to increased investment in equipment and human capital, there can be improvements intotal factor productivity (TFP).TFP has been identified as one of the leading contributors to economic growth, proving to be more important than capital accumulation.17 Structural policies, including trade openness, are also identified as an important determinant of growth. A calculation of Guatemala's total factor productivity based on the Enterprise Survey shows that there i s a positive correlation between the share of exports and TFP, but does not answer the question of causality." (For more detailed analysis, see Chapter 1on Guatemala's total factor productivity calculations.) 2.7 However, the benefits from free trade agreements are not automatic. Experience also shows that there are winners and losers in free trade agreements, often based on the sector, geographic location, firm size and income strata. If CAFTA i s going to contribute to faster growth, greater productivity, and jobs creation, Guatemalan firms must adopt new technologies and production processes, obtain certifications, and invest inworker training. The benefits of free trade interms of faster economic growth, technology transfers, and capital inflows derive from countries' ability to shift labor and other resources toward the sectors that are most productive and reflect their economies' comparative advantage. 2.8 CAFTA reduces barriers to imports, exports and financial flows on a permanent basis. Under CAFTA, tariffs on about 80 percent of U S exports to the participating countries will be eliminated immediately, and the rest will be phased out over the next decade. U S trade barriers also fall, but because the vast majority of goods produced in the participating countries already entered the US duty-free under the Caribbean Basin lj BernardandJensen, 1995,1999,2004; Clerides, Lach, andTybout, 1998. l6 Chapter 7, BOOK, Carlos Casacuberta, Nestor Gandelman, Marcelo Olarreaga, Guido Porto, and Eliana Rubiano,2007. l7 Loayza, Fajnzylber, and Calderbn, Economic Growth in Latin America and the Caribbean, The World Bank, 2005, pages 91-94. Different policy implications would arise from a causality assumption. If exporting causes higher productivity, the government should consider additional incentives to stimulate first-time exporters. If higher productivity causes greater export potential, incentives could be linked to productivity-enhancing investments by firms. 20 Initiative (CBI) of 1983, U S barriers had less to decline. The CBI was a unilateral trade preference subject to p e r i o l c review and approval by the U.S. Congress. CAFTA builds on the General System of Preferences and CBI, making duty free access to the giant U.S. market permanent. This should facilitate long-term investments inthe region. While this i s excellent news or Guatemalan exporters, the effects on non-exporting national producers could be negative over time, since U.S. and Central American f i r m s gain improved access to the domestic market (See the lscussion below for additional analysis). In addition, given the economic slowdown of the U.S. economy and the inroads of Chmese and other low-cost exporters to both the US. and Central American markets, CAFTA's short term effects may b e limited. 2.9 CAFTA requires changes ina wide range of business topics and government regulations. These include practices and policies in market access, agriculture, intellectual property rights, antidumping regulations and practices, cross-border trade, financial services, investment, government procurement, dispute resolution, environmental protections, labor standards, and transparency requirements. 2.10 Finally, there are important poverty repercussions from CAFTA membership that should make up part of the "complementary agenda" of programs to help the most vulnerable producers and households. According to specific research carried out as part of the World Bank study on CAFTA, "84 percent in Guatemala.. .are net consumers of sensitive agricultural commodities, and as such can be expected to benefit from the decrease in food prices.. (while only) 16 percent (of households) in Guatemala.. .are net producers . of sensitive c~mmodities."'~ 2.11 Attention should be focused on net producer low income households, since they are the most vulnerable to changing trade and investment patterns in the long term. Specifically, condtional cash transfers, technical assistance to improve productivity and adjust the household's investment strategies and product mix would be beneficial. Investments in rural infrastructure and well-designed rural credit could also help such households to make the necessary changes. 2.12 There are also important regional and socioeconomic effects that can arise from free trade agreements. The CAFTA opening could help more productive rural areas to develop rapidly. Guatemalan has emphasized the development of non-traltional exports, such as artisan products, cardamom, and a variety of agricultural outputs. Non-traditional exports in Guatemala tend to be more labor-intensive, creating local employment opportunities and lessening the pressure for out-migration (to Guatemala City and to other countries). 3. EARLYEXPERIENCEWITH CAFTA 2.13 CAFTA has only been in effect for Guatemala since July 1,2006, so it is not possible to measure the direct effects in terms o f productivity, jobs creation, and contributions to economic growth. If CAFTA opens export opportunities to large markets, it seems reasonable to expect that existing and new Guatemalan exporters would J a r a d o , et. al. 2005 21 become engines of growth and innovation. However, to take full advantage of the new trade regime, there are many requirements for the government - including improved institutional efficiency, simplification of business registration and licensing processes, effective support for labor mobhty, and macroeconomic stabihty. The Bank of Guatemala has developed a simulation of the impact of CAFTA on the gross domestic product (GDP) in 2006, which shows that 0.62 points would be added to the GDP for the twelve months that CAFTA i s in effect. This growth would be caused by the combination of increased exports, increased imports, foreign duect investment and a decrease intax income?' 2.14 CAFTA comes at an important time for the country. Guatemalan economic growth was stagnant from 1990 to 2002, averaging only 3.8 percent per year compared to a robust 5.5 percent recorded from 1960 to 1979. As the Guatemala ICA of 2003 revealed, "structural reforms have improved economic growth in Guatemala, [but] they have had a limited impact on per capita income. Contributingto this lower per capita growth trajectory were low investment levels and relatively lower levels of integration with the world economy.''21 Therefore, Guatemalan policy makers have high expectations for CAFTA as a means of attracting investment and improvingregional economic integration. 2.15 Based on economic advantages reinforced by CAFTA, foreign direct investment has increased dramatically since 2002, and represents an increasing share of GDP (Table 2-1). Chapter 10 of the CAFTA agreement guarantees that foreign investors will be treated equally to their domestic counterparts, in terms of expropriation and indemnity. But the real attraction for investing in Guatemala in the past five years has been the economic factors-sugar for the candy industry, affordable labor for the clothing assembly industry (maqzlih), a range of vegetables and spices produced year-round, and a combination of modem and historic tourism assets. Investments in some sectors have increased value added content, as shown by a $45 million aluminum factory investment linked to an $86 million investment in fruit juice and canned vegetable processing. N e w sectors have also sprung up in recent years, and are likely to grow rapidly as CAFTA takes hold.These include call centers and business process outsourcing. 2.16 An econometric model developed by the Bank of Guatemala determined that the trade effects of CAFTA were largely positive. Without CAFTA, the report estimated that foreign direct investment would have been US$200.6million, an increase of only US$7.4 million (representing negative growth in real terms). However, with CAFTA, the actual investment was US$325.0 million, almost 60 percent higher than without the free trade treaty's incentives (Table 2.2). 2O Bank of Guatemala calculations, presented inS$o XXI,June 12,2007 and at a conference on CAFTA, in July, 2007. It i s worth noting that the tax effects of CAFTA are projected to be minimal (-0.10 percent)), given the already low level of customs duties. 21 Guatemala ICA, page 7, World Bank, 2004 22 Year Foreign direct Annual Percentage Share of investment increase increase GDP 2002 110.6 5.1 4.8 0.47 2003 131.0 20.4 18.4 0.53 2004 154.7 23.7 18.1 0.57 2005 208.0 53.3 34.5 0.66 2006 (estimated with 325.0 117.0 56.3 0.92 CAFTA) 2006 (estimated 200.6 7.4 (-3.5) 0.57 without CAFTA) 2007 estimate I507.0 I 182.0 I56.0" --- ~ 2.17 Even before CAFTA, Guatemala offered incentives to international investors through the services of the public/private investment promotion agency (INVEST). Incentives included assistance with visa requirements, arrangements with municipal governments, and a special training fund. The National Competitiveness Program (Pronacom) and INVEST established a special fund to provide a training subsidy on a per worker basis to international investors establishing plants in the country. I N V E S T management directly attributes recent large investments by GE Money, Envases Mexico, and Parras Textiles to this innovative worker training fund. Together, these investments represent 2,980 new jobs. In addition, the CAFTA Tours initiative of I N V E S T brings private sector leaders from Guatemala to niche markets with potential investors. This outreach approach has begun to bear fruit, with new investments from Indiana and Illinois under development. 2.18 Guatemala has implemented a number of free-trade agreements. These agreements have contributedto an expansion in Guatemala's level of total exports over time and a gradual diversification of its export markets. The four free trade agreements, in addition to CAFTA, include those with Taiwan, Mexico (northern triangle), the Dominican Republic, and Chile. I Table 2.2: Importance of ForeignDirect Investment on GDP in2006 (US$ millions) Investment without I Actual Investment IIncrease attributable IIncrease attributable CAFTA (estimated) with CAFTA to CAFTA to CAFTA (in%) 200.6 325.0 124.2 59.7% 2.19 Investment opportunities and specific incentives are attracting a diversified group of investors from Taiwan, Colombia, India, Canada and Europe, in addition to traditional investors from Central America, Mexico and the United States (Table 2-3). Guatemala's free-trade agreement with Taiwan came into effect on July 1, 2006, and the country is expected to pursueother bilateral trade agreements inthe near future. It shouldbe 23 noted that these figures do not capture reinvestment by foreign companies and their national subsidiaries. The Bank of Guatemala i s developing a system to capture this additional Investment. Source: 2007 statistics are for the period January-June. * 2.20 The rewards to capturing an increasedshare of FDI are most notable interms of jobs creation, but there is no central monitoring of such gains. There i s no central registry of all foreign direct investment, or the jobs created by such investments, so data i s only partial. In 2006, FDI registered with INVEST in Guatemala directly created 14,685 jobs, not including jobs from reinvestment and indirect jobs created through links to national suppliers. Call centers and business process outsourcing (BPO) offer the least expensive investment per job created, buildingon a large pool of English-speaking university students to provide services to overseas firms. An example of a call center i s an alliance between GE Money of General Electric and Banco de America Central (BAC). The call center wdl provide services to Spanish-speaking clients of GE Money in the United States and Mexico, as well as BAC clients in Guatemala. In addition to this new entrant, there are around 50 Call Centers of medium and large companies, employing 3,000 workers. To satisfy the increased demand for fluent English language speakers, the government has signed an agreement with the government's Institat0 Tecnico de Capacitarion (INTECAP) to deliver a bilingual technical training program. (Table 2.4). Table 2.4: Tobs createdbv Foreim Direct Investment in2006 Sector Jobs created Manufacturing 2,540 Call Centersand BPO 3,850 Agro-industrialproduction 1,750 Others 6,390 Total all sectors 14,685 2.21 Despite these gains, Guatemala still lags far behind other Central American countries inFDI as a share of GDP. Except for 1998,when a large privatization affected 24 the trend, Guatemala has steadily under-performed in percentage terms, with foreign direct investment well under 1.0 percent of GDP. At the same time, Costa Rica, El Salvador, Honduras and Nicaragua are inthe 3 to 6 percent range (Figure 2.1). Figure 2.1: FDIas a share of GDP Net Inflows of FDI as a Percent of GDP in Guatemala and Comparator Countries, 1995-2005 (Source: WDI) -Costa Rica --e Salvador El Guatemala ~ Honduras -Nicaragua Source: World Development Indicators 2.22 Whether caused by opportunities, investment promotion strategies or market changes, investment invarious sectors of the economy has shifted. Investors seem to be moving out of clothing assembly (mapila) and other manufacturing to services, such as call centers and business processing (Table 2-3). While clothing manufacturing represented 52.2 percent of the new foreign direct investment in 2005, it had dropped to only 45.6 percent by June of 2007. Even taking into account that investment i s "lumpy," there are important short term employment challenges. While exports have grown remarkably, up 24 percent year-on-year for January and February of 2007, there are sectoral changes. 2.23 There are labor dislocation issues caused by such changes in sectoral participation in international trade. For instance, the employment level of workers in clothing assembly fell from a peak of 113,200 in 2004 to just 88,250 in early 2007 (a decline of 22 percent). The maqzdu industry's changing fortunes are linked to increased Asian competition, tempered partially by improved access to the U.S. market through CAFTA and greater vertical integration (using the complete package production model).'' Except for its employment benefits and foreign exchange earnings, this sector does not offer many advantages: it uses known technologies and has few backward linkages to local producers. Exporters in other sectors have made more rapid adjustments. For instance, changes in coffee may reflect a gradual shift from low value blend coffees to greater export of organic and certified "free trade" coffee. 2.24 Such shifts have direct implications for the education system, technical training, and infrastructure investments. In addition, a key question for policymakers would be to assess whether the "winners" under CAFTA are exportingproducts with higher value added content, or more extractive innature (such as i s the case with mining).Another 22 The entry of Vietnam into theWTO poses a specific challenge to the Guatemalan maquilaindustry. 25 issue would be how to develop a safety net, private and public sector retraining capacity, and an improved labor market to help f i r m s and workers in adversely affected, less competitive sectors and regions to adjust to the new realities under the free trade regme. The increased demand for local labor has begun to translate into higher salaries, as productivity increases over time.23 Sector 2005 2006 2007 Agro-industry 24.6 23.7 30.5 Coffee 7.4 7.1 8.5 Banana 8.7 7.2 7.8 Other products 8.5 9.4 14.2 Manufacturing 66.4 65.9 58.5 Clothing mfg. 52.2 51.6 45.6 Sugarlcandies 2.8 1.9 1.2 Other products 11.4 12.4 11.7 Mining sector 8.9 10.5 11.0 Total 100.0 100.0 100.0 2.25 These regional gains are most evident in the Central and Southwestern parts of the country. Key reasons for these gains include investments in new transportation infrastructure, the introduction of electricity and communications, strong local leadership, irrigation, and interest in adopting new technologies. With the signing of CAFTA, new programs were launched in the Western Highlands, includmg the departments of QuichC, Alta Verapaz, Huehuetenango and San Marcos. Ninety percent of the vulnerable population lives in these departments, and the poverty alleviation effects of new programs to improve productivity and commercial viability of local producers could be enormous. 2.26 Several non-traditional products showed increased export value from 2006 to 2007. Among the leaders were rubber (31 percent increase), vegetables (25 percent), flowers (9 percent), and shrimp (32 percent). Processed products also increased significantly, led by traditional foods ("productos nostalgicos", 32 percent) and electrical machmery (37 percent). 2.27 CAFTA has reinforced a longstandingtrend of trade balance deficits with the United States. With the exception of 2003, the trade balance has worsened every year since 2002. The gap in 2006 amounted to almost 10 percentage points, and more than US$1.6 billion. While exports jumped about 7.3 percent during the first three months of 2007, imports also grew. It is unclear whether imports are growing to fuel exporters (with increased supplies of inputs and capital goods, for instance) or are a reflection of increased consumption. One analyst estimates that exports would have to grow at an annual rate of 12 percent (invalue) to begin to close the trade deficit.24 As Table 2.6 reveals, Chma has begun *3 Medici6ndel Impact0 Socioecon6mico de las Actividades de Producci6ny Comercializaci6n de Productos Agricolas no tradicionales de Exportacih Estud~opreparado por ECODESXRROLLO, bajo convenio AGEXPORT/AID -520-0403. Guatemala, octubre 1997. 24 Samayoa, C A F T A Backgroundstudy for Guatemala Investment Climate Assessment, June, 2007 26 to eat into Guatemala's small share of the U.S. market, while Chile andBrazil have managed to slightly increase their participation inthe U.S.market over the past five years.25 Year Imports I Exports I Trade balance I Imports I Exports 2003 3372.8 2384.2 -988.6 43.8 29.9 2004 3673.3 2660.4 -1012.9 40.9 29.3 2005 3982.4 2686.4 -1296.0 39.4 30.9 2006 4414.8 2781.8 -1633.0 35.4 26.6 2007 4075.9 3032.2 -1043.7 Fieure 2.2: Guatemala's Trade Balance Deficit. 2002 to 2007 Guatemala International Trade 15,000 g 10,000 5,000 f o -5,000 -10,000 2002 2003 2004 2005 2006 2007 SO~r~eBankof GUBIwmIa IImportsrn Exports Trade Balance I Source: Bank of Guatemala 2.28 The United States International Trade Commission's (ITC) figures on imports of consumer goods reveal that China, Brazil and Chile have gained a bigger share of the U.S. market, at the expense of the Central American countries. Chinese exports to the UnitedStates. (for consumer goods) grew 18 percentin2006 and 12.6 percent in 2007, while European (OECD 27 Group) exports to the United States jumped by 7.2 percent (2006) and 6.4 percent (2007). These increased trade flows compare to only 3.1 percent for Guatemala in 2006 and 3.0 percent in 2007 (U.S. Census figures on imports). While the value of exports of consumer goods was stable (about US$3.0 bitlion per year), the share for Guatemalan exporters dropped from 0.18 percent of the U.S. market in 2003 to only 0.16 percent by 2007. (Table 2.7) 2.29 CAFTA has substituted for the previous trade preference systems, but not created new opportunities. The ITC's data for imports from Guatemala confirm that CAFTA has only substituted for GSP and CBI preferential entry for certain goods, and the share of imports covered by these has remained steady at around 40 percent from 2003 to 2007 Fable 2.8). *jOxford Analytica, May 1, 2006, "The recent evaluation of trade and investment relations between Latin America and China". 27 Table 2.7: U S Imports from CAFTA, EUand China T O T A L 16.9 17.7 18.0 18.6 18.8 Percentage Change 4.7% 2.1% 3.0% 1.1% EU27 GROUP(In US$ Billon) I I I I I Country 2003 2004 2005 2006 2007 TOTAL 251.6 281.1 308.6 330.9 352.2 Percentage Change 11.7% 9.8% 7.2% 6.4% Countr Sources: USITC (U.S. Department of Commerce and the U.S. International Trade Commission) Table 2. 8: Participation of Guatemalan exporters inU.S. Preferential Duty Programs I under trade preference Percentage GT imports I 38% I 40% I 42% I 41% I 42% 1 CAFTA'seffects on the Public Sector 2.30 Inanticipation of the approval of CAFTA, the pace of reformwas so dramatic that Guatemala was listed as one of the Top Ten Reformers by DoingBusiness 2007. There have been important institutional changes, spearheaded by the Ministry of Economy, 28 Pronacom, the Tax Administration Superintendency (SAT), the National Statistics Institute (INE)and the National Institute for Technical Training (INATEC). Private sector leaders, such as chambers of commerce and the Non-Tradtional Exports Association (Agexport), have also made important contributions. N e w programs that improve the country's export potential and attractiveness as an investment location include: (1) a one-stop registration office (Ventunilla Agil"); (2) fairs to encourage investment by the Guatemalan emigrant community; (3) international conferences for sectors ranging from wood./furniture and call centers to corporate social responsibility; (4) practical guides for CAFTA; (5) streamlined import and export services; and (6) special cluster formation and training programs for SMEs. 2.31 Free trade agreements affect the public sector significantly, in terms of taxes generated, taxes forgone, and trade balance issues. The tax burden of CAFTA and increased exports i s relatively low because Guatemala has maintained low customs duties. The Bank of Guatemala's analysis of CAFTA effects found that the expected gains from value added tax are slightly lower than the expected losses from foregone customs duties. Table 2.9 reveals that the decline in customs duties collection due to CAFTA-related liberalization i s only a net loss of 0.1 percent of GDP. Table 2.9: Customs duties from CAFTA Source: Samayoa, 2007, usingdata provided by the Bank of Guatemala and the hlinistry of Finance 2.32 The institutional environment for business and investment has improved in many areas over the last several years. The National Agenda for Competitiveness provides a ten year roadmap for a national competitiveness effort, bringing together the private sector, public sector, civil society, and academic leaders in an inclusive approach covering urban and rural sectors. This ambitious agenda i s coordinated by the National Program Office for Competitiveness (PRONACOM), supported by the Bank's Guatemala Competitiveness Project.26 PRONACOM has taken the lead by buildingalliances with more than forty ministries, private sector chambers and associations. PRONACOM and its allies have undertaken a long list of activities to implement the six strategic axes of the National Competitiveness Agenda. Topics have included infrastructure (airports, ports, roads, and energy), taxation, business registration and licensing, and rural competitiveness (inalliance with Agexport, AGER and a number of sector-specific clusters) 26 Guatemala Competitiveness Project, #7044-GU, for US$20.3 million, scheduled to close onJune 30,2008. 29 2.33 Guatemala continues to provide incentives and investment facilitation through its investment promotion agency, "INVEST in Guatemala". This agency assists international investors with visa requirements, coordination with local governments, and worker training. INVEST i s complemented by PRONACOM, the National Competitiveness Program, in promoting sound competitiveness policy and a favorable investment climate. For example, INVEST and PRONACOM partnered to create a special fund of US$500,000 to support worker training for international investments to establish plants and increased manufacturing in Guatemala. This facility was a decisive factor in the investment choices of GE Money and the Mexican firm EnvasesMem'co. 2.34 The Ministry of Economy has undertaken a number of important institutional reforms in support of CAFTA implementation. A major example i s the creation of the one-stop shop (Ventanilla Agil) for business registration, which reduced the average time to register a business by four days and was cited by Doing Business 2007 as an important reform. The Ministry of Economy has also created an information center to promote access to information on best practices for Guatemalan enterprises." CAFTA and Poverty Alleviation 2.35 CAFTA has the potential to help alleviate poverty. A study by the World Bank provides a statistical projection of consumption, employment, income and welfare benefits for indigenous households, using ENCOVI 2000 data. The study concludes that "on average, a typical indigenous householdwould enjoy gains equivalent to nearly 15 percent of i t s average per capita expenditure". This i s the result of lower prices for food (indigenous f a d e s devote 42 percent of household income to food, while non-indigenous households only use 31 percent for these purchases). Estimated food price savings ranged from 3 percent to fruit, 20 percent for cereal, 14 percent for fish, and 48 percent for dairy products.28 2.36 Income effects are also likely to be positive, although the magnitude is not projected to be as large. As exports increase thanks to CAFTA, there shouldbe a positive effect on employment creation, both directly and indirectly, especially given the low levels of unemployment in the country (a 2000 estimate was 1.4 percent). On the other hand, increased demand for labor i s a factor inraising wages, more so if the labor productivity also increases. This seems to be happening relatively more in the Central and Southwestern region of the country. The estimated gain for indigenous households would be about 0.26 percent, usingthe ENCOVI 2000 survey. 2.37 CAFTA is generating similar incentives in departments with high levels of poverty, such as Quiche, Alta Verapaz, Huehuetenango, and San Marcos. Recent efforts to strengthen productive infrastructure in the priority regions are expected to enhance productive activities and export products commercialization, hence leading to poverty reduction. 2.38 The analysis of the positive effects on indigenous and all households masks one important flaw in the CAFTA design-the exclusion of white maize from the 27 Samayoa (2007), p 13; DoingBusiness 06/07 list of reforms 28 Porto 2006. 30 tariff liberalization framework. The CAFTA exclusion of white corn was based on a concern that low income producers in Central America would be adversely affected by trade liberalization, as low costs from subsidized imports drove nationalprices down. However, as the food crisis has materialized rapidly in the country and the region in 2008, it i s clear that international prices are spiraling rapidly and open trade would benefit the country. Additionally, the number of white corn producers who trade surplus i s quite small, making it easy to develop well-targeted transfers duringa transitional period.29 4. THEPERSPECTIVEOFGUATEMALAN EXPORTERS 2.39 In 2003, Guatemalan exporters reported that they were more affected by customs and trade regulations, business licensing, transportation, and property rights and the legal system than firms that did not export. With the exception of financing (cost and access to credit), corruption and legal systems, firms with foreign ownership claimed to be significantly more constrained than domestic f i r m s along most dimensions in the business climate. T h i s was especially true for trade and customs regulations, tax administration and business li~ensing.~' 2.40 In 2003, formal barriers to trade were insignificant. With an average of 7.2 percent in 2002, Guatemala's tariff rates are close to those of El Salvador and Costa Rica, and among the lowest in the region. Inaddition, the use of non-tariff barriers appears to be limited in Guatemala. No recourse of anti-dumping, countervailing or safeguard measures has been made in recent The 2003 Guatemala ICA cited direct costs from inadequate infrastructure and indirect costs from corruption as possible causes of low trade levels and poor international integration. However, since 2004, there have been notable improvements ininfrastructure, such as ports, airports, and highways.32 2.41 By 2007, Guatemalan exporters were reporting far fewer problems with infrastructure, corruption, and macroeconomic instability. Perceptions of "major or severe problems" no longer d f f e r significantly from other firrns, except in the area of taxes (both tax rates and tax administration). Table 2.10 reveals that barriers for exporters and non-exporting firms face similar constraints. However, exporting f i r m s were more likely to cite informal payments (corruption) for construction permits and operating permits. Twenty five percent of exporters cited obtaining these permits as a significant problem, compared to only 8 percent of non-exporting firms. This was also more of a problem for firms outside Guatemala City. However, informal payments represented a smaller share of sales and percentage of contracts for exporters than for other firms. Bribes for exporters were reported to be 9.5 percent of a contract and 6.2 percent of sales, while other firms reported 15 percent of contract value and 9.4 percent of sales ininformalpayments. 29 For a further analysis, seeJ a r a d o and Lederman, World Bank, 2006; Also Porto, World Bank, June, 2006. 30 Guatemala ICA 2003, Appendix C 31 Guatemala Country Economic Memorandum, 2004, cited in Guatemala ICA, World Bank, 2005. 32 Guatemala I C A 2003. 31 Table 2.10: Concerns of ExDortinn andNon-ExDortinn Firms Corruption 60 61 Political Instability 53 47 Electricitv 50 45 Macroeconomic Instability I 43 43 Taxes 39 27 Informality 38 37 Crime 37 37 I I Source: Enterprise Survey 2.42 The trade environment remains a significant challenge. Guatemala ranks last among CAFTA members in trading across borders in the 2008 Doing Business survey (see Table 2.11). This low rating does not appear to be due to specific trade policies, as Guatemala maintains low average tariff rates and the use of non-tariff barriers by the government i s limited.33 Guatemala has also made major investments in its trade infrastructure, which have succeeded in reducing import and export costs compared to previous years. Despite this investment, it continues to have the highest import costs, the second highest. export costs, and among the highest number of documents required for both importingand exporting among CAFTA members. Additional improvements are required in trade infrastructure and customs management to reach regional norms in terms of the ease of cross-border trade. More details on customs delays are covered inChapter 3. across borders inCAFTA countries Documents Time for to Documents Time for cost to Economy Rank for export export export for import import import (number) (US$per (days) container) Per (number) (days) container) Dominican Republic 35 6 12 815 7 13 1015 Costa Rica 54 7 18 660 8 25 660 ElSalvador 68 8 21 540 11 18 540 Nicaragua 87 5 36 1021 5 38 1054 Honduras 103 7 20 1065 11 23 975 Guatemala 116 11 19 1052 11 18 1177 Source: Doing Business2008. Rankings are out of 178 countries. 2.43 Perceptions of crime reduce the attractiveness of Guatemala as an investment location. Eighty-five percent of exporters report investing in security services and systems, compared to only 59 percent of non-exporting firms. Exporters are more likely to suffer from theft (41 percent, compared to 34 percent for other firms) and absenteeism caused by crime (23 percent, versus 15 percent). Security expenses represent 2.1 percent of sales, compared to only 1.8 percent for other firms. However, exporters report losses due to theft are half of that of other firms (1.2 percent of sales, compared to 2.5 percent for non- exporting firms).Adding another 1.3 percent for theft during export processes, the total cost 33World Bank, "Guatemala Country Economic Memorandum," Washington, D.C., 2005, pg. 144. One exception to the low tariff rates is in the area of agriculture, where quotas and tariffs rates may be higher for certain goods. 32 for all kinds of crime amounts to 6.1 percent of sales. (For more details on firm losses from theft and breakage, see Chapter 3.) A recent United Nations review of crime in Central America estimated more than 6,000 deaths due to violent crime in the country in 2006, confiming this to be a major issue for the public and for potential investors. 2.44 Infrastructure problems make Guatemala less competitive and less attractive for FDI. Infrastructure affects the cost, timeliness and reliability of delivery of products, making it a critical area for exporting firms. Infrastructure issues reviewed in the sample include electricity, transportation, and telephone lines. In 2007, half of the Guatemalan exporters interviewed stated that an unreliable supply of electricity was an obstacle to their operations. However, one in four exporters overcame this problem by purchasing their own generators (twice as many as non-exporters). Exporters mentioned that there were an average of 28 outages each year, and each event lasted about 2.8 hours. Non-exporters only suffered about 17 outages, lasting an average of 3.2 hours. For telecommunications, exporting firms waited an average of 46 days for telephone and internet installation, compared to just 27 days for non-exporting f m s . Once they had internet service, exporters used it routinely to reach suppliers (96 percent) and throughwebsites (89 percent). For more details on infrastructure, see Chapter 3. Innovation, Skills Training and Quality Issues 2.45 Few Guatemalan firms possess the necessary quality certifications, compared with other Latin American countries. Quality and process certifications such as International Standards (ISO) and Hazardous Analysis Critical Control Points (HACCP) are often required to gain access to international markets. Efforts to promote national quality certification, led by AGEXPORT, have not yet yielded significant results. Efforts by the M i n i s t r y of Economy and the Chamber of Construction to develop metrology systems also seem to be laggingbehind the private sector's needs.34 2.46 More importantly, many Guatemalan firms are not expressing interest in I S 0 certification. On the other hand, the private sector, led by the exporting firms, is investing in innovation (Table 2-12). Such investments range from purchasing foreign licenses to adding new products and processes and investing in research and development activities. However, the amount invested in research and development i s extremely low as a share of sales. In fact, non-exporting f i r m s report investing more inresearch and development, both interms oftheir ownandsubcontractedactivities. Table 2.12: Innovation investments in2007 Source: Enterprise Survey results 34I S 0 Survey 2005. 33 2.47 Guatemalan exporters are less likely to report losses from crime and transportation and import delays than exporters inthe comparator countries. They are more hkely to cite export delays as barriers to growth. All exporters inthe sample mentioned senior management time in dealing with regulations as a constraint. W e businesses in the comparator countries performed well in terms of internet use, foreign licensing, research and development, and new product/service development, Guatemalan exporters did not show such characteristics. Therefore, it i s not surprisingthat Guatemalan exporters lagged behind the comparator countries in key productivity measurements, includmg sales per worker and value added per worker. 5. RECOMMENDATIONS: IMPROVINGCOMPETITIVENESSINTHE AGEOF C N T A 2.48 With its diversified export mix, tourism and services potential for foreign direct investment, Guatemala has a lot to offer-and a lot to lose if it fails to invest in the systems, technology and worker skills required inthe new world of CAFTA trade. The first twelve months of CAFTA have begun to yield encouraging results-but have revealed some structural weaknesses that need to be addressed. Many Guatemalan f i r m s have begun to adapt to the major changes represented by CAFTA, both in terms of findmg export market niches and investing in I S 0 and other certifications, but they lag far behind many regional competitors. While FDI and exports have increased, the trade gap persists, with imports jumping significantly. The easy access to markets in the United States, Central America and the Dominican Republic i s balanced by an increase in foreign penetration of the national market. The benefits to the country could include employment, worker training, management know-how, and access to new technologies. The risks to the country are clear: as some sectors and regions lose their share of the national markets, unemployment may grow. 2.49 T h e main barriers to growth for exporting firms are corruption, political instability, electricity, and macroeconomic instability. However, while the 2003 survey showed 65 percent to 80 percent of the f i r m s shared the top four "major or severe barriers", the average in 2007 for exporters and non-exporting f i r m s has declined by 20 to 30 percentage points in these areas. In addition, while not hghhghted by the survey, other sources find that there i s a need for streamlined export-oriented financing mechanisms and improved training for workers (given a lack of personnel with m o d e m production skills in the national labor market). 2.50 While short term improvements inthe business climate faced by exporters are encouraging, there is a risk of medium term dislocations affecting low income households and workers with low skills training. While tourism should continue to grow, other industries are not immune from the demands for greater efficiency, improved quality, and increased scale of production. Competitors from the region and beyond (notably China and Vietnam) could negatively affect certain sectors, such as magz4iila, leather and furniture and other wood products. There are also structural puzzles that should be investigated. For instance, although foreign direct investment i s growing rapidly, Guatemala still lags significantly interms of FDI as a share of GDP. 2.51 There are five recommendations that promise to buildon the early gains from CAFTA and an improvedbusiness climate for exporters. First,it wouldbe important to 34 make it easier for exporters to obtain I S 0 and HACCP certifications. Lessons can be learned from the regional leaders in certifications, such as Brazil, Colombia, Argentina, Cue, Ecuador and El Salvador. The M i n i s t r y of Economy should accelerate the development of a national quality system, with laboratories, metrology, and outreach to specific sectors with an export record or export potential. Specific recommendations to improve quality systems in Central America can be found inWorld Bank (2008). The financial sector may hold the key to certifications, since Guatemalan firms need to update production technologies to remain competitive. Details on financial sector recommendations are contained inChapter 5. 2.52 The second recommendation i s to prioritize the government's investments in ports, airports, and roads to facilitate access to overseas markets. (A complete discussion of infrastructure shortcomings and recommendations i s contained in Chapter 3). Alongwith physical infrastructure, the survey finds that import and export times have been increasing in the past four years, despite significant investment by the government in software and port staff training. Guatemala has created a one-stop shop for company licensing, which helped to make it one of the top ten reformers according to DoingBusiness 2007. Exporters would benefit from a s d a r s t r e a k e d approach for documentation and handling of imported inputs and products to be exported. An evaluation of the systems complemented by a one-stop shop approach to documentation would likely contribute to improvedresults and less complaints by exporters. 2.53 The third recommendation i s to review the effects of the white corn exclusion in CAFTA, in light of the growing food price surge in the country and the region. Available data reveal that the expected effects on producers (caused by cheap food imports) are, infact, cutting inthe opposite direction. To improve the welfare of the great majority of low income households, especially indigenous communities, open trade inwhite corn would be an important short term measure. 2.54 The fourth recommendation is to strengthen rural competitiveness and outreach programs to small and medium firms. For rural areas, existing programs with Non-Traditional Exporters Association (Agexport), the Asoaaaon Guatemalteca de Empresarios hrales (AGER), FUNDESA (with tourism centers), the National Coffee Producers Association (Anacafk) and other organizations with proven outreach and attractive products shouldbe expanded. For SMEs, emphasis should be placed on outreach programs to small and medium f i r m s to encourage internet use, foreign licensing, research and development investments, and new product and service development. At the same time, industry specific tracking of key productivity measurements (sales to worker and value added per worker) would help to measure the success of such measures. 2.55 Finally, the Government should build on what has been working in trade promotion. CAFTA guides for SMEs, the alliance with INTECAP for worker training, the increasingly effective investment promotion approach, and investments in the development of Guatemala's important tourism assets all contribute to an improved outlook. Most importantly, the leadership role of the Commissioner of Investment and Competitiveness and the M i n i s t r y of Economy should be maintained, as well as the strong operational leadership of the office of the National Competitiveness Promotion (Fronacom). 35 Chapter 3. Firms'Access to Infrastructure Services 1. INTRODUCTION 3.1 This chapter presents an overview of Guatemala's transport and logistics using available information and the findings of the survey. The chapter discusses physical infrastructure for transport (roads, airports, and ports), transport related services, and trade facihtation issues. The findings of the chapter identify the areas of intervention needed to make transport and logistics key contributors to growth. 3.2 Infrastructure is a major contributor to economic growth, particularly for developing countries. The approach to understanding this linkage has varied. Krugman (2004), for example, considers the impact of infrastructure on aggregate Total Factor Productivity. Roller and Waverman for telecommunications and Femald for roads consider the impact of indmidual sectors on growth. Calder6n and Servkn (2003) review the Latin American region-specific impact of infrastructure stocks. Esfahani and Ramirez (2002) and Calder6n and Servtn (2004) discuss the separate impact of service quality on growth. The cumulative result of this growing literature i s a robust demonstration of infrastructure's role as'a driver of growth. Underlying the "direct linkage literature" (infrastructure and growth), i s the recognition that infrastructure i s an important determinant of firm productivity. That is, the supply, quality and price of infrastructure are defining elements of firm competitiveness. 3.3 With the spread of trade liberalization, logistics has become more relevant for developing countries as a strategic source of competitiveness. Firms require moving inputs from providers to their factories and after the production process they also need to move their outputs to distributors or the end client. To that end, firms rely on physical infrastructure for transport (e.g., roads and ports), transport related services (e.g., logistic operators, trucking industry), trade facilitation regulation (e.g., customs, border agencies, tariffs), and their inventory processes as well as their transport endowments. Logistics costs alone tend to be higher than duties imposed on imports as well as the cost of quotas and other non-tariff barriers. (Table 3.1). 3.4 In the context of the implementation of CAFTA, Guatemalan firms are identifling the relevance of transport issues for growth. In 2007, about 20 percent of surveyed manufacturing firms perceived transport as a major or severe constraint to growth. At the regional level, Guatemalan firms (20 percent) rank among the top 5 countries where transport i s perceived as a major or severe constraint. However, only 7 percent of f i r m s indicate that transport i s one of the top 3 constraints. Large f i r m s are more likely to perceive transport as an obstacle to growth than small and micro firms. Compared to 2003, Guatemalan f m s , as well as their counterparts in Central America, perceived that transport i s becoming a more important barrier to growth. In the case of Guatemala, non-exporters 36 are the ones that report an increased worsening of transport as an obstacle for Itis important to note that firms' perception may not coincide with actual changes made in the ti-ansport sector. Table 3.1: Transport as a Major or Severe Constraint to Growth Small Medium Large All firms Source: Enterprise survey 3.5 In addition to the immediate impact on firm competitiveness, Guatemala's ability to attract foreign investment may also be affected by its low marks in overall infrastructure quality. As noted in Table 1.4 (Chapter l), Guatemala ranked below the average of comparator countries in terms of overall infrastructure quality in the survey of business executives contained in the World Economic Forum's Global Competitiveness Report, even though it improved between 2004 and 2006, but it ranks below ElSalvador and Honduras. Inthe area of air transport, Guatemala's score was below the peer group average. However, it showed marked improvements in recent years, partly attributed to technical supportto upgrade L a Aurora airport andimprovements insafety standards. 2. PHYSICAL INFRASTRUCTURE FOR TRADEAND TRANSPORT Roads 3.6 Guatemala has made some improvements in increasing its road endowment. Inroad density, measured as the length of paved roads per worker, Guatemala ranks better than El Salvador and Honduras, but worse than Costa Rica, Panama, and Mexico. Guatemala's paved road density has improved steady since 1996 partly attributed to more rapid growth inkilometers of pavedroad than inthe labor force. Improvingroad access and quality were considered essential by 1996, after the end of the civil conflict in Guatemala. For rural areas, the Government carried out a pilot program to integrate poor rural communities into the modern economy, through the construction of rural areas. As such, the share of rural roads has been increasing, partly because rural roads that were previously unclassified (not part of the official inventory of roads) have been c l a ~ s i f i e d .The~ ~ quality of the road network shows significant deterioration in recent years. In 1999, 75 percent or 35 The share of firms reporting transport as a constraint for growth increased from 12 percent in 2003 to 23 percent in 2007 among Guatemalan non-exporters. However, there was not significant change for exporters. The same result holds for the set of firms interviewed inboth years. 36 It i s estimated that unclassified rural roads amount to around15,000 kilometers (World Bank, Guatemala - ICR-RuralRoads Project). 37 roads were classified in good condition. By 2003 that number had declined to 45 per~ent.~' Since 2003, there have been some notable gains, includmg the expansion of the major coastal highway through a concession system. (Figure 3.1) Figure 3.1: Paved Roads and RuralRoads Paved Roads and Growth in Paved Roads Stock of Classified Paved and Rural Roads, 1985-2006 14.m 40% 12,033 35% 30% 10,033 25% -E i 8,033 20% 8,033 15% 4,m 10% 2,033 5% 0 0% 1985 1990 1995 2033 2035 I-Tafal mad lengtht%-A-% paved mads ~ R mads I 1 Guatemala's road system presents some important challenges. First, the system i s vulnerable to natural disasters as illustrated by the substantial damage caused by Hurricane Stan inOctober 2005. Second, the road system needs to reform its regulatory and supervisory framew01-k.~~ To start, there are several agencies involve in road rehabilitation and maintenance, such as Direcridn de Caminos, Fonapaz, FIS, INFOM, and COVIAL, resulting in duplication of efforts and lack of coordination. Third, the road network does not integrate many regions of the country. A recent completion report of the pilot project of rural roads points out that the decentralized management of the rehabilitation of rural roads has improved access to roads and reduced travel time and transport costs for the rural population in the Department of San Marcos. The government i s replicating this pilot in Huehuetenango. Finally, there are issues of security in domestic shpments, with about 24 percent of f i r m s reporting theft for domestic cargo.39 3.8 Public expenditure levels for road maintenance seem insufficient, and the private sector has not been allowed to play a compensatory role. Getting estimates of level of public expenditures i s complicated by the fact that several agencies are involved in road rehabilitation and maintenance. The most recent estimates on road expenditures put it at 1.3 percent of GDP in 2002, w h c h i s substantially lower than in Nicaragua.40 This situation also requires a good level of coordination that has not materialized, resulting in a deterioration of the road netw01-k.~~Government agencies involved in road rehabilitation and maintenance have limited resources for investment and face budget challenges. An 37 SeePronacom 2005. 38 Ernst and Young 2005. 39 Seesection on losses from theft and breakages for more information. Jo Ernst and Young (2005) 11 SeePronacom (2005) 38 example i s COVLAL paying contractors with arrears.42 In terms of projects with private sector investments, the private participation in infrastructure database indicates that there were two concessions in the late 1990s in Guatemala. A recent study prepared for the National Competitiveness Program (Pronacom) indicates that Guatemala may need around US$2.3 billion for roads projects.43Given the budget constraints of the government, it i s unlikely that investments of the amount required will be forthcoming in the short-term. Thus, creating the conditions for attracting private investment for road infrastructure will become crucial for Guatemala's roadinfrastructure network. Airports 3.9 Guatemala has many airports and heliports distributed around the country, but L a Aurora Airport concentrates most of the traffic volume. La Aurora operates as an origin and destination airport. Passengers must go through it when entering or leaving the country or when traveling between interior cities. The smaller airports do not operate as a network.& 3.10 The government has embarked on a modernization process of airport infra~tructure.~~ The overall program will invest about $92 million in six airports (La Aurora $80 million, San JosC $3 million, Tikal $2.5 million, Puerto Barrios $2 million, Retalhuleu $0.5 million, and Quetzaltenango $3.5 million). The program i s being managed and supervised by the Technical Cooperation Bureau of International Civil Aviation Organization (ICAO).The modernization process also included meeting LATA'Snorms and regulations. InJune 2007, Guatemala's Civil Aviation Authority (DGAC) was upgraded from a Category 2 to Category 1FAA (Federal Aviation Administration) rating, opening the skies for Guatemalan air carriers to the United States. The DGAC envisions the creation of an autonomous q o r t authority (the law i s currently pending in Congress) as well as a private concession (pending a concession law). There i s wide debate regarding concessions in Guatemala, and it i s not clear whether an agreement will be reached regarding private sector participation in the form of concessions. Ports 3.11 Because a significant share of Guatemala's exports is directed outside Central America, ports play a strategic role in the logistics system for cargo transport. The country's largest trading partner, the United States, provides 39.6 percent of Guatemala's imports and receives 28.9 percent of its exports. 3.12 Guatemalan ports manage about one-sixth of the containers in Central America (including Panama). According to data from the American Association Port Authority (AAPA), Guatemalan ports managed 16 percent of cargo traffic in2006, slightly 42 See for example, the annual reports of the Guatemalan association of construction reports that COVWL pays with arrears ($http://~~~,c0n~trug~1ate.com/negocios/publicaciones/Web%20113/3.htm). 43 According to the publication in the Prensa Libre on November30,2007, the road projects identified by the study were: A d o Metropolitano PS$lbillion), Franja Transversal del Norte (US$300 dons), ejes troncales CA-2 y CA-9 (US$400 dons), and ampliation of existing roads (US$600 d o n ) . aNathanAssociates (2005, p.80) 45 SeeWorldBank (2006). 39 lower than in 1997 (18 percent). The cargo volume inTEUs grew at an average growth rate of 11 percent per year, higher only than Costa Rica (7 percent) and Honduras (5 percent). Representing an important channel for regional commerce, Puerto Santo Tomis de Castilla on the Caribbean side accounts for the largest share among Guatemalan ports (50 percent). Overall, Guatemalan ports managed 840,367 TEUs in 2006, very similar to Costa Rica (Figure 3.2). In terms of quality, Guatemalan ports have improved as measured by two indicators: the port infrastructure quality index and the Liner Connectivity Shipping Index (see Figure 3-3). Figure 3.2: Port Activity inTEUs inPorts inCentralAmerica and Guatemala Rate 01 Cpatnlaup P I20 4 3.13 Guatemalan ports present some striking features and growth prospects. In terms of ownershp, the Ports of Puerto Quetzal and Puerto Santo Tomas de Castillas are autonomous government agencies while Puerto Barrios i s privately owned. Puerto Quetzal has become the most dynamic port in Guatemala, increasing its container traffic by 77 percent between 2003 and 2006. During the same period, Puerto Barrios reduced its container traffic (a 12 percent drop) while Puerto Santo Tomis de Castilla grew by seven percent. Puerto Quetzal has been for various years an example of effective private-public partnership, and it i s known as the most efficient port in Central America for container traffic as well as wholesale operations for certain products.46 Figure 3.3: Liner Connectivity ShippingIndex for CentralAmerica and Panama, 2004-2006 C32004 R2005 02006 HGNI per capita 6,000 8 c 0 5,000 5 E v) 4,000 4 b9 3,000 5 2,000 0 1,000 - z0 El Salvador Nicaragua Honduras Costa Rica Guatemala Panama The Liner ShippingConnectivity Index is a compositeindex that includesfleet assignment, liner services,and vessel and fleet sizes. Source: UNCTAD (2006) and WDI 46 Nathan Associates (2005, p. 22) 40 3.14 Forecasts of maritime trade from the ports of Central America (excluding Panama) undertaken by UNCTAD anticipate Guatemala's leadership in the area of cargo shipment. Indeed, Guatemala is expected to nearly double Costa Rica's East Coast shipping movements by the year 2020 while even Honduras is expected to surpass Costa Rica over the same period. At current performance levels, Caldera (Costa Rica) will be an even less significant player in Pacific cargo movements w i h 10 years.47 Two of Guatemala's key advantages are the declining costs per container (using the standard Doing Business defintion) and the modernization efforts underway at Puerto Quetzal and Puerto Barrios. (Figure 3.4). - Figure 3.4: Projected Port Output by Country and Coast (million of metric tons) --a.Guatemala CaribbeanPorts b. Pacific Ports 24- -- Guatemala , / -E / u) - Salvador / HOnduraS / .-+ 18-- __ / Nicaragua / s0 -Caldera, CR / / 5 ! 0 1 I 2003 2010 2020 2003 2010 2020 Note: Pacific ports' forecasts do not include developmentof the Port of Cutuco at La Unih,El Salvador. Source: Authors' calculations basedon forecasts of UNCTAD (2006) 3.15 T o meet this increasing demand, Guatemalan ports need to address certain challenges. The main challenges for Guatemalan ports include an obsolete legal framework, high operating costs, restrictions to private sector participation, lack of incentives for investments and efficient port operation, and a lack of competition. Addressing those challenges will determine whether Guatemalan ports will improve their role in Central America.48 3. TRANSPORT RELATEDSERVICES Mode of Transportfor Exports 3.16 Each mode of Guatemala's transport endowment-roads, ports and airports-serves as a critical component of the logistics network for exporters. The survey provides information about the relative importance of each transport mode in terms of number of exporters and the value of the last shipment of the main product. (Figure 3.5). 3.17 Maritime transportation i s the primary transport mode for exporters. Figure 3.6 below shows use of transport mode by number of firms-thus giving equal weight to all -17 Importedvolumes in Caldera were seven times export volumes in 2003. This suggests that all Asia and most West Coast-bound exports must travel to Panama to find a port of exit. .M Nathan Associates2005. 41 f i r m s regardless of how much they ship or the value of their shipments. It shows that about 24 percent of firms that exported their main product shipped their main products through the Atlantic ports. Surface transportation was reported by 39 percent of f i r m s exporting their main product. The data usingthe value of the last shipment, which reflects importance interms of national trade, also shows that maritime transportation is the primary transport mode. The fact that the share of Port Santo Tomas i s three-times higher when measure in terms of value suggests that this port i s used for exporting high-value goods. At the regional level, there i s wide variation inthe transport mode, depending on the geographical location of the primary destination as well as the conditions of maritime, surface, and air corridors. Finally, because of the small share of f i r m s exporting directly, these transport mode shares shouldbe interpreted with caution. Figure 3.5: Guatemala Transport mode for firms exporting their mainproduct - Percentof Firmg Percent of Value of Last ShiDment Airport &other Port Quetzal Airport &other Port Sto Tomas 21% Land 40% portStoToma ~ Source: Enterprise Survey Figure 3.6: LatinAmerica Transport mode for firms exporting their main product - Percent ot Firms. Percent 01 Value of Last Shloment I 3 mLmd #Air60ther~Port60lh.r 0Land .Air 6 0th 0Port 6 01 f Ugc 100.0 'tcg 100 9 75.0 5-m 75 50.0 -6 50 Fe 0 I 2B 25.0 5 25 L E 0.0 E o Source: Enterprise Survey 3.18 AU three modes are important but for different reasons. The road network surfaces may be important for smaller firms which are trying to export; the ports are vital because they handle the vast majority of Guatemala cargo movements; and the role of international airport may increase due to the ongoing upgrade of the infrastructure. A logistics or transport strategy intended to increase the competitiveness of Guatemala's exports will thus have to pay due respect to all three modes as well as their interconnectivity. 42 Type of Transport 3.19 Guatemalan firms rely on a combination of own and third party transport services. Guatemalan firms transport the equivalent of 57 percent of annual revenue using their own transport-similar to Nicaragua (54 percent) but lower than Panama (70 percent). Honduran and Nicaraguan firms were more likely not to use transport when s e h g their primary product (24 percent and 19 percent, respectively). A small share of Guatemalan f i r m s (8 percent) do not use transport services as they produce and sell their goods in the same place. Small Guatemalan f m s tend to rely more on their own transport than medium or large-sized firms. See Figure 3.7. Figure 3.7: Type of transport use for main product, all industries 0lOO%shippedwithowntransport HUseown andthird partytransport 0Tranportmainproductusingthird party providers Don't use transport - - _ _ _ _ _ _ _ _ - - - _ _ - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - _ El Salvador Guatemala Honduras Nicaragua Panama Source: Enterprise Survey Lossesfrom Theft and Breakage 3.20 Transport quality and security affect the cost of production and shipment, and thus the competitiveness of Guatemalan firms. One indication of the costs associated with logistics is that of theft and breakage for domestic or direct export shipments. At the regional level, Guatemalan firms reported the highest incidence of theft when transporting their cargo for either domestic or direct export shipments: 22 percent of direct exported and 24 percent of firms ship domestically. This hghhghts issues of security in the road network, point of exit, transport and shipping companies, and/or firm employees. The incidence of breakage for domestic shipments (28 percent of firms that ship domestically) i s roughly sirmlar than other countries in the region (e.g., Mexico (28 percent) or Panama (30 percent)), but among the lowest for direct export shipments (15 percent of f i r m s that export directly). 3.21 Because of the incidence of theft and breakage, Guatemalan firms incur losses that influence their ability to compete in foreign markets, as well as their costs of production in the domestic market. For domestic shipments, their losses amount to 7.6 percent of domestic cargo value for firms that experience either theft or breakage, which i s among the highest in Central America (after Nicaragua with 7.9 percent). For duect exports, the losses associated with theft and/or breakage reaches 2.9 percent of consignment value, substantially lower than for Nicaraguan firms (12 percent) and El Salvador (7.4 percent). 43 3.22 Damage and theft in transit cost Guatemalan direct exporters about 0.8 percent of their total sales. For those exporters that reported breakage (15 percent) or theft (22 percent), losses rose to over 1.8 and 2.6 percent of export value. Losses from breakage were smaller than other countries in Central America as well as Mexico for f i r m s reporting breakage. 4. TRADEFACILITATION Perceptions regardingregulation 3.23 About 15 percent of firms reported that custom and trade regulations as a constraint to growth in 2007.4' As shown in Figure 3.8, almost 15 percent of manufacturing f i r m s in Guatemala indcated custom and trade regulations as a major or severe constraint to growth in2007. Figure 3. 8: Custom and Trade Regulations as a Constraint m: ExDorters & NOn-eXDOrlelp !.atin America: 2006 0Non-exporiera Exporters Source: Enterprise Survey 3.24 An indication of the performance of custom services in Guatemala is the number of days it takes to clear customs when either exporting or importing. 50 Guatemalan exporters take an average of 4.2 days to clear customs, and report having taken at most 8 days to perform the corresponding procedures during the year precedmg the survey. This i s along the line of other Central American countries. For importers, the average and longest delays reported by importers were about 16 and 32 days. Guatemala continues to have the highest average wait for imports to clear customs among Central America countries. (Figure 3.9). 49 W e did not include a comparison with the 2003 survey because the questions are not comparable for both surveys. 50 W e did not include a comparison with the 2003 survey because the questions are not comparable between the two surveys. 44 Figure 3.9: Custom Delays for Exports and Imports, Guatemala lmMds IAverageperiod.2006ILongestperiod-2006 HAverage period-2006 ILongestperiod-2006 35 -30 30 I 25 I I I n m t 20 222520 f 15 2 15 L L z 10 2 10 5 5 0 0 El Salvador Guatemala Honduras Nicaragua El Salvador Guatemala Honduras Nicaragua ource: Enterprise survey 5. POLICY REXOMMENDATIONS O NTRANSPORT LOGISTICS AND 3.25 While Guatemala has made some achievements in transport and logistics, it faces some important challenges to remain competitive. Although Guatemala has attained some progress in its classified road density, there i s decay in the quality of such roads. Port capacity and efficiency will need to anticipate the increased demand to address the logistics need of exporting and importing firms. Security issues are also affecting loglstics for domestic and international shipments. The administrative burden of exporting and importingwill need to be further reduced to make Guatemalan firms more competitive vis- h-vis their counterparts inthe rest of CentralAmerica. 3.26 To address these logistics challenges, Guatemala will need to explore all possible ways to attract private investment in infrastructure. Public expenditure levels have not been enough to keep up with the infrastructure needs and the private sector has not been allowed to play a compensatory role. To reverse this trend, public resources will have to be re-dedicated to selective rehabilitation and expansion while some reforms that will be needed to allow private sector participation. 3.27 Various recent studies offer specific recommendations to upgrade Guatemala's physical infrastructure for trade. All of those studies indicate that the sector with the greatest investment needs i s that of the roads. The main recommendations emerging from the various studies are: Roads: Investments are needed to rehabilitate existing roads and to build new roads to link remote areas. The recent multi-modal infrastructure transport plan estimated investment needs of US!$l.S billions for the road sector alone. Resource allocation can be improved: (1) strengthening MCWs planning capacity to better coordinate the prioritization of road construction and maintenance (especially in rural areas) and improve budget preparation and execution; (2) establishing a proper regulatory and institutional framework to promote private sector participation; and (3) introducing 45 more efficient road maintenance mechanisms based on results-oriented contracts that combine rehabilitation with maintenance activities over a multi-year period.51 e Ports: Improve the legal framework for port administration and private sector participation. Prepare master plans for all ports. Promote competition, and provide incentives for investment and efficient port operations. The report prepared by Nathan Associates (2005) contains detailed recommendations. e Airports: Improve the institutional framework and promote a division of responsibilities for policy, regulation, and operation functions, improve private sector participation to attract investments through the concessions. The report prepared by Nathan Associates (2005) contains detailed recommendations. a Security: Design and implement a strategy to improve security for domestic and international shipments. Guatemalan f i r m s reported the highest incidence of theft for domestic and international shipments. 6. ELECTRICITY Demandfor Electricity 3.28 Access to reliable electricity at a reasonable price is important for all firms. Poor electricity supply is costly as firms are forced to self-supply at a higher price, or to suffer damage to their equipment due to voltage fluctuations. Indeed, earlier reports have foundthat a reliable electricity supply raises firms' prod~ctivity.~' 3.29 In2007, Guatemalan firms complained more about access to electricity as an obstacle to business than they did in 2003. In 2007, 47 percent of interviewed firms considered electricity a serious obstacle. In 2003, only 27 percent made the same complaint. This is a serious deterioration in perceptions, especially given the improvement in entrepreneurs' perceptions on almost all other investment climate dimensions (Figure 3.10, Panel A). Compared to the rest of Central America, Guatemala i s only performing better than Nicaragua (Figure 3.10, Panel B). 3.30 Perceptions have worsened especially among firms located in the Guatemala City metropolitan area. In 2003, 23 percent of firms located in the capital city area considered electricity a serious obstacle. That figure more than doubled in 2007-to 48 percent (Figure 3.11). For firms located inthe rest of the country perceptions did not change much (39 versus 41 percent). Since the sample i s made of mostly f i r m s in the Guatemala City area (80 percent in 2003 and 78 percent in 2007) overall perceptions appear to have worsened. 51 SeePronacom(2007). 52 See Chapter 6, World Bank (2004), World Development &port 2005: A Better Investment Climatefor Eueyone, World Bankand OxfordUniversityPress:WashingtonD.C. andNewYork, N.Y. 46 Figure 3.10: Perceptionsof electricity as an obstacle (percent of firms that agree electricity is a major or severe obstacle to doing business) A. 2003 vs. 2007 B. CentralAmerica EleunatyIS a senous obstade I Nicaragua cn . 2" Guatemala 43 Panama 30 ElSalvador 20 Hondurac 10 Costabn 0 Guatemala(2003) Guatemala(2007) 0 10 20 30 $0 50 60 70 Source: Enterprisesurvey Figure 3.11: Perceptions of electricity as an obstacle, byyear and location (percent of firms that agree electricity is a major or severe obstacle to doing business) I 60 I 1 1 50 40 30 20 10 0 Guatemala City Rest of country 1 2003 W 2007 1 3.31 Out of 15 LatinAmerican countries surveyed in 2007, Guatemala ranks quite favorably in reliability of power supply, measured by the incidence of power outages. In 2006, just over a third of interviewed Guatemalan firms had experienced a power outage-considerably less than Nicaragua (68 percent), Panama (66 percent), Honduras (62 percent) and El Salvador (47 percent) (Figure 3.12, Panel A). Furthermore, the incidence of outages among Guatemalan firms declined between 2003 and 2007. In the 2003 ICA, 73 percent of interviewed firms in Guatemala had been through at least one power cut. That share was reduced by more than half in 2007 - to 34 percent, the same as in Mexico and Chile. Inlight of these objective improvements in the reliability of supply, it i s puzzhng as to why perceptions of electricity have worsened so sharply. More importantly, the share of firms reporting energy-outage-related losses has fallen since 2003 - from 66 to 26 percent In almost all cases, firms that reported outages reported losses associated with those. (Figure 3.12, Panel B). 47 Figure 3.12: Power Outages A. Percent of firms that experienced B. Percentof firms that incurred losses power outages due to power outages Ki,camgua hlC2ragua Paniguay Honduras Panama PW2gudV Hondunir Ecuador Ecuador P%"2.llU El Salvador ElSahadar hieuco hleuca Guatemala Guatemla ClUlC Chde B O h S Bolivia .Lgentma 4rgentma Colambii Colombia V."CZ"& V e " e Z d 2 P W Peru Urvguay Lruguay 0 10 20 30 40 50 60 70 0 I O 20 30 40 50 60 1 Source: Enterprise Survey 3.32 One of the possible explanations for the deterioration in entrepreneurs' perceptions about the electricity sector, from the Enterprise Survey data, is that the frequency of power outages has increased since 2003. The average number of outages per month (for those firms that did experience them) increased from 1.5 times a month in 2003 to 5 times a monthin2007 (Figure 3.13). While the average duration of a single outage actually declined, from 4.6 hours in 2003 to 3 hours in 2007, the increase inthe incidence of outages resulted in a greater number of total hours of outages. Therefore, while the overall share of Guatemalan firms subject to power outages has dropped, the number of cuts for those who bear outages has actually increased, which perhaps explains why f i r m s are more negative about the power sector as an obstacle to business. Figure 3.13: Number and duration of power outages per month 15 10 5 0 N u m b e r of Average duration Total durationof outages per of a single outage p o w e r outages month (hours per month) Guatemala (2003) Guatemala (2007) Source: Enterprise Survey 48 3.33 In2007, generator ownership among Guatemalan firms was comparable to the level of other Central American countries, but self-generation was among the highest inLatinAmerica. Usually, generator ownershp and self-generation (which i s more expensive) signal that energy supply i s unreliable, or expensive, or both. For those firms that owned or shared a generator, 28 percent of their energy needs on average were met through that generator, i.e. through self-generation. This i s among the hghest levels of self- generation among Latin American f i r m s (Figure 3.14). In addition, in 2007, important hfferences existed in self-generated energy consumption for firms in the Guatemala City area and the rest of the country-24 percent of energy needs for f i r m s in the capital area were met through self-generation as opposed to 39 percent for f i r m s in the interior of the country (See Figure 3.14). Figure 3.14: Generator Ownership and Self-Generated Energy A: Percent of Firmswith Ownor Shared B: Percent of Energy from Own or Shared Generator Ecuador Bolivia 47 Panama \leuco 43 Chile Guatemala 128 ElSalvador 23 \1caragda 21 Honduras Pacaguar 25 Argentsna 18 Ecuador 21 Guaremala 1 I 7 Honduras 21 P e N 17 Panama 14 d Nlcaragda 15 Chle 14 Utuguay 12 El Salvador 14 P a r a g q 1 I O PeN I? hieuco 1 9 Colombia -7 Colombia ' 8 Argentina -6 Uruguq 3 3.34 The impact of power outages are the losses that firms suffer due to lost production opportunities and these losses rose for those firms that suffered outages in2003 and 2007. While across the whole sample of interviewed firms, average losses have declined since 2003, reflecting that less f i r m s suffer outages inthe aggregate, if the sample i s restricted to those that did experience outages inbothyears, losses have actually increased- from 3.7 to 6.1 percent of annual sales between 2003 and 2007 (Figure 3-15). This findingis inlinewiththe one that totaldurationofoutages hasincreased(again for the subset of firms with power cuts). This could be another potential explanation about the deterioration in perceptions of the electricity sector. Also, losses reported by Guatemalan firms are quite high, compared to the rest ofLatinAmerica in2007. 49 Figure 3.15: LossesIncurreddue to Power Outages: 2003 vs. 2007 I7.0 6.1 I 6.0 5 0 4.0 3.0 2.0 1.o 0.0 Losses due to power outages (acrossall Losses due to power outages(across affected firms) firms only) 0 Guatemala(2003) Guatemala (2007) Source: Enterprise Survey 3.35 Obtaining an electricity connection i s still a problem. The time to obtain an electricity connection declined after 2003 by 8 days on average, but stdl remains high-at 54 days on average in 2007. This i s similar to Honduras and Nicaragua, but well above Mexico, Panama and Bolivia (Figure 3.16, A). The incidence of bribe requests to get an electricity connection shows substantial improvement since 2003 (Figure 3.17, A and B), and in 2007 the share of firms that reported a request for bribes in the process of getting electricity connections was well below that inHonduras, Paraguay and Ecuador. Figure 3.16: Time to Get an Electricity Connection A. LatinAmerica, 2007 B: Guatemala: 2003 vs. 2007 Honduras Guatemala 70 62 fuicaragua Peru Argentm Umgual. Venezuela Chde Ecuador Paragua) ElSahador Colombia Bohrla Panama Mexico Guatemala(2003) Guatemala(2007) 0 10 20 30 40 50 60 Source:EnterpriseSurvey 3.36 Disparities in terms of access to electricity, incidence of outages and losses due to outages exists among different locations within Guatemala. Two-thirds of firms outside of the Guatemala City area suffered power cuts in 2007; less than half experienced the same in Guatemala City and its surroundmgarea (Figure 3.18). Firms in rural areas had 50 to also wait longer to get connected to the gnd, as well as had more frequent and longer lasting power interruptions. Figure 3.17: BribesRequestedfor Electricity Connections,% of firms that applied - A. LatinAmerica; 2007 B. Guatemala:2003 vs. 2007 - Honduras 17 Paraguay 20 1 Ecuador Nicaragua Guatemala Meuco Bolivia Colombia Peru Umguay ElSalvador Panama Chile Argentina kenezuela , , , , Guatemala (2003) Guatemala (2007) 0 2 4 6 8 10 12 14 16 Source: Enterprise Survey Figure 3.18: Access to Electricity and Incidence of Outages: Guatemala City vs. Rest of Country 70 1 60 50 40 37 30 20 in 0 \Vat to obtan Share o f firms N u m b e r of Average Durauon o f electrical with power power outages durauon o f a power outages connecuon ougges, O/o per m o n t h single outage (hours per (days) (Inhours) month) FA Metropolitan Area Rest of Country Source: Enterprise Survey 3.37 This also helps explain why firms outside of Guatemala City suffered higher losses due to power interruptions and received a greater share of their energy supply from own generators. Across the subset of affected firms, losses were nearly twice as high in the rural areas than in the Guatemala City area (9.1 vs. 4.9 percent of sales). Given the 51 higher frequency and losses associated with power supply interruptions in rural areas, it i s also not surprising that a larger portion of their energy consumption was from own or shared sources, that is, generators. (Figures 3.19). Figure 3.19: Losses Due to Power Supply Interruptions I 40 35 30 25 20 15 10 5 0 Losses dueto Share of F i r m s Permt of poweroutages with Own powermming (across affected Generator, Yo from own h s only), Yo generator (for of sales firms with generators) Source: Enterprise Survey Supply of Electricity 3.38 Untilthe beginningofthe 1990s, the electricitysector inGuatemala was state- owned and vertically integrated (generation, transmission, distribution). Constant growth from the demand side and stagnant generation with h t e d financing options for new investments, gave a clear signal that the state-run model needed a structural reform. The Government reoriented the electricity sector development policy towards a mixed system with private sector participation. The Electricity Law of 1993 and its regulatory framework introduced a market with low barriers to entry into generation, transmission and supply/sales, emphasis on incentives for operational efficiency, and free access to the trans6mission and distribution grids. Both system operation and wholesale power market administration being inthe hands of the same private organization. 3.39 The reforms led to the establishment of the Wholesale Market Administrator (AMM),(Admritistradordel Mercado Mayorhta), which is the core of the present energy market structure. It is also the system operator for transmission, distribution and international connections. The AMM determines the hourly spot market prices and i s responsible for the reliability and availability of energy provision. All market agents fulfilling minimumsize requirements have a right to participate inthe AMM and select its Board.53 j3Changes introduced in 2007 lowered the size requirement for: generators (> 5 hfiv?, transmission (contracts > lOhfiW), distribution (> 15,000 customers), suppliers ("cornerciakpdore?", > 2 hTW), large consumers (> lOOk\v, importers and exporters (contracts > 10h1w). 52 3.40 In 2007, the agents operating on the wholesale market included 31 generators, 3 transmission companies, 3 private and 17 municipal dstribution companies, 21 suppliers ("comer~a~i~adores"of which 14 are members of the AMM) and 800 large consumers, most of which get their power through a contract with a supplier. The distribution companies have 2.3 million regulated "captive" consumers. The Ministry of Energy and Mines, MEM (ibfinisterio de Energia y Minas) has final oversight responsibility, issues authorizations to generators, transmission and distribution companies, prepares national energy plans and indicative generation plans and the ten-year national transmission plan that i s to be prepared bi-annually . 3.41 The national power sector regulator CNEE (Comkidn Nacional de Energia Elkctn'ca) receives and processes requests for authorization of projects (including expansion of plants) for final approval by MEM.It also supervises compliance with the law on the AMM, defines the formulas for the adjustment of regulated dstribution and transmission tariffs, approves tariffs, monitors service quality and issues norms for these. 3.42 The Government owns INDE (ZnstitutoNacionaf de Electn'ficacidn), which has two subsidiaries: INDE-Generation and INDE-Transmission. Prior to 1998, consumers in Guatemala were served by two publicly-owned distribution companies. Consumers in the Guatemala City area were served by Empresa Elktrica de Ggatemala S A . (EEGSA). EEGSA was privatized in 1998. In the rest of the country, the mostly rural consumers were served by INDE.In 1998, INDE's distributionbusiness was split into two companies covering the eastern (Distn'baidoraEkctrica de Oriente, DEORSA) and the westem (DistrihidoraEkctrica de Occzdente,DEOCSA) parts of the country. DEORSA and DEOCSA were privatized through a 50-year concession to Uni6n Fenosa Intemacional, S.A., which owns an 80 percent stake inthe two companies.54 3.43 The Guatemalan Government subsidizes electricity consumption through the so-called "social tariff." Introducedin1999 as support for power purchases of low-income families (families with monthly electricity consumption of 30-40 kwh per month), the tariff expanded in 2000 to include residential consumers with consumption under 300kWh per month and 1OOkwh for businesses. In 2004, 94 percent of residential consumers were beneficiaries of this scheme. 3.44 The consumer response to this artificial distortion of the market led to a cascade of repercussions. Households split their home consumption into several meters to qualify for the social tariff; it i s estimated that this fraud amounts to 31 MW. Small businesses switched to joint metering to qualify for the 100 kW lirmt. INDE saw its fmancial situation undermined by the low tariffs on its supply contracts for social-tariff customers; and was forced to postpone investments in maintenance of sub-stations and in the expansion of its transmission system. INDE's subsidies during 2004-2006 are estimated at 1.3 billion quetzal (US$173 million); of these INDE's subsidies to the social tariff amounted to 554 million quetzal (US$73 million), or 42 percent of total subsidies.55 54 For a full description of the energy market structure, see Mostert, Wolfgang(2007), Background Paper for the Guatemala ICA. jjSource: Table 18, I11InfomePresidentialal Congresode la Rtptrblica 53 3.45 These developments forced the Government to change the implementing regulations for the Social Tariff Law in 2007. Changing the Law was considered unrealistic, not the least because of the Presidential elections duringthe second half of 2007. A key change was the re-interpretation of the 300 kWh per month eligibility criterion: consumers in the 300 kWh/month consumption category get the first 100 kWh-not as previously 300 kWh-at the social tariff price. As a result of this and other developments, the prices of power to industry in the free contract market witnessed an increase of 40 percent from the year before. The difference in price between the price of comerrialiqadora and a bstributioncompany was almost eliminated in2007. The increase inthe prices on the free-contract market made self-generation more competitive and led companies to increase investments in own generation capacity. In general, industrialists now prefer to set up their own generation plants. 3.46 By 2008, the peak demand for capacity is expected to reach around 1600 MW. According to data from INDE energy demand i s expected to grow by 7 4 % per year. By year 2020, peak demand for generation shouldgrow to 3,125 MW. 100 MW of new capacity per year will be required to cover the growth indemand. In addition, approximately 50 MW of new capacity per year will be needed to replace existing generating capacity which i s becoming obsolete and inefficient. 3.47 Guatemala has important renewable energy resources, such as wind, geothermal and biomass In 2007, installed generation capacity was 1,837 MW, of w h c h 654 MW came from hydropower plants that during the dry season have a much lower generation capacity due to water shortages. To lessen this effect, the establishment of wind energy farms that reach better power factors inthe dry season should be considered. Hydro power and geothermal have medium to long term lead times and capital requirements per installed MW.56 Table 3.2: Composition of Generation 2006 Generation Technology GWh % Hydropower 3,246 43.6% Diesel engines 2,226 29.9% Steam turbines 1,013 13.6% Co-generation 804 10.8% Geothermal 142 1.9% Imports 8 0.1% TOTAL 7,445 100% 3.48 Guatemala has the highest power tariffs in Central America. Whereas in Guatemala the tariffs charged by comerrialiqadores had moved in 2007 to 16 U S cents/kWh (versus 12 U S cents in 2006), the tariffs charged to corresponding consumers in Honduras were 9 U S cents/kWh and in El Salvador 11.5-12 U S cents/kWh. The causal factors for the high tariffs include: (i) interference in the tariff setting in the form of a "social Political 56T h i s i s the case of the Costa Rica generation matrix, where wind farms (62.25 LEV) compensate for the low energy output of hydro projects during the dry months of November to May. 54 tariff' that sets higher prices for regulated users such as large consumers, and the social tariff itself;57(ii) inherited problems in the form of hgh-cost power-purchase agreements (PPAs) negotiated in the early 1990s, (iii) weaknesses in sector governance, (iv) the absence of complementary initiatives to facilitate private investments in renewable energy, and (v) inherent vulnerabilities inthe regulatory model applied in Guatemala. 3.49 The textiles and plastics industries are "electricity intensive" and heavily exposed to foreign competition either on the export markets, or by imported goods on the national market. For some specific products inthese industries, the cost of electricity can amount to 20 percent and more of value-added. 3.50 The relatively electricity-intensive manufacturing sector is hit by the high power prices in two ways. The most electricity-intensive industries resort to self- generation. To the extent that the capacity to invest of these industries i s restrained by their debt-sustaining capacity, investments in product expansion suffer. All relatively electricity intensive industries are affected by having to pay tariffs that are higher than the tariffs paid by their competitors. For instance, the textile industryin Guatemala is mainly a processing industry of products under foreign brand names; independent national brands - where the price elasticity of demand i s lower - have a lower share in total national value added. The textile industry i s in cut-throat competition with manufacturers in China and Bangladesh, where electricity tariffs charged to industry are much lower. There is, therefore, no doubt that the growth prospects of the Guatemalan textile industry are impaired by the high power tariffs. 3.51 Options to reduce the high energy prices in the short run are limited. This means that there i s little interest in Guatemala to change the power market model as such. Agents prefer stability inthe market. The possibilities of the current government-at least in the initial years of its mandate-to revoke the Social Tariff L a w are limited. The option for replacing the social tariff by social support to low-income f a d e s by municipalities could make socio-economic sense, and the benefit i s two-fold: improve the targeting (reducing the number of beneficiaries), and improve the financial situation of INDE, providingresources for planned investments intransmission and hydropower. 3.52 Various studies of Guatemala's energy sector conclude that the risk of energy shortage i s likely to increase considerably over the next two years. It is necessary to consolidate the implementing regulation of the Incentive L a w for Renewable Energy Investment. The introduction of long-term PPA-tenders i s of paramount importance. This should secure competitive financing models for an important number of projects. The government should set forth an indicative generation investment planwith its corresponding physicalinvestment plan for the expansion of the national transmission system. 3.53 In the short to medium term, it is important to reassess the State subsidy mechanisms towards an appropriate target population5'. In the medium to long term, the political agenda for Central American integration should include the topics of the 57 The social tariff law of2000, liberated users with a consumption of below 300 kWh/month (94% of regulated market) from co-paying the high PPAs and for purchase of capacity by obliging the distribution companies to organize tenders for the satisfaction of their consumption 58 One optionwould be to target consumers of less than 150kWh/month. 55 regional energy market and propose the approval of the correspondmg protocols that would make regional transactions feasible. 7. POLICY RECOMMENDATIONSO N ELECTRICITY 3.54 In 2007, the Government implemented a number of reforms aimed at accelerating investments in new generation. The plan for accelerated investments in transmission i s likely to have the greatest impact on the market. 3.55 T h e Government should re-consider the Social Tariff, and attempt to target subsidies ina more efficient manner. Elirmnating the social tariff altogether and replacing it by social support paid to low-income f a d e s by municipalities would make socio- economic sense: it would improve the targeting (reducing the number of beneficiaries) and also improve the financial situation of INDE, thereby enabling it to accelerate planned investments in transmission and hydropower. Yet, there are presumably no prospects for a repeal of the Social Tariff L a w inthe initialyears of the current Government. 3.56 T h e Government could consider more effective mechanisms to promote investments in renewable energy. The impact of the Incentive L a w on N e w Investments in Renewable Energy and its regulation is limited: most investments are very attractive without the added benefits. A more effective instrument to accelerate investments in hydropower would be to introduce by law a local community tax on hydropower producers that provides local communities with more financial benefits than i s the case now. 3.57 Accelerated investments in hydropower, geothermal energy and in wind- farms are expected to not only reduce generation costs, but also push out of the market high-cost generation units. Estimates show that the cost of new generation for all types of plant - peak, shoulder and base load - would be lower than the present cost of generation on the market in Guatemala estimated at 11.6 U S cents/kWh. An additional effect i s that new renewable energy generation will push out of the market extraordinarily highcost generation units that at present determine the hourly price. 3.58 In addition the Government may introduce a cap on how much additional payment a generator can receive from the spot market on top of its stated variable cost o f production. The present high hourly tariffs are caused by structural factors - such as the unexpected loss of pet-coal - that cannot be solved inthe nearest years. The situation creates extra-high profits for market participants without giving reliable price signals for investors in new plants. 56 Chapter 4. Governance inGuatemala 1. INTRODUCTION 4.1 Guatemala's governance system-its institutions regulating private business, its courts and the elements of its security environment-has shown improvements over the past four years. While the 2003 ICA revealed serious deficiencies in the area of governance, especially red tape and corruption, several important aspects of the governance environment have begun to show signs of improvement. For example, the malung of informal payments to government officials in relation to business services has declined dramatically. Fewer f m s foundit necessary in2007 to bribe officials inorder to get awarded a government contract, or to obtain licenses, permits or other business-related government services. This i s good news, no doubt reflecting the Government's efforts to make business regulations simpler and easier to comply with. 4.2 An important and well-documented success with respect to easing business regulations was the Government's effort to reform several areas captured by international benchmarking reports, such as Doing Business, the World Competitiveness Report, Transparency International's rankings and several others. The country won its 2007 Doing Business designation as one of the world's top ten reformers through reforms inthree areas: (1) easing starting a business through the creation of a one-stop shop for firm registration; (2) easing the process of obtaining a construction permit through introducing statutory time h t s for issuance of permits; and (3) easing the process of property registration by simplifyingregistration procedures and hiring more staff at the Registry Office. These reforms-effected betweenJune 2005 and May 2006-reduced significantly the time, costs and procedures in the three areas, and afforded Guatemala an impressive jump inits Overall Ease of DoingBusiness index. 4.3 More importantly, the impetus of the above reforms was sustained and Doing Business-related reforms were even farther-reaching in 2006-2007. For example, the government continued pushing further reforms in regulations of entry, construction permitting and property registration, but also added reforms intwo new areas-cross-border trade and contract enforcement. Making firm and property registration procedures electronic has reduced times to register, and cut procedures even further. Allowing electronic signatures in the transfer of real property has cut the time from 37 to 30 days, and on the Registering Property indicator Guatemala ranked 23 out of 178 countries worldwide in2008, a significant achievement. 4.4 Progress has also been made since 2003 in the area of security and crime, although concerns remain as to increasing violence in some parts of the country. Crime was perceived by Guatemalan businesses as less of a problem in 2007 than in 2003. Fewer firms were victims of criminal action in 2007 than in 2003. Losses due to crime were also lower, compared to 2003. This i s good news. But challenges in this critical area remain, as showninsection 4.5. 57 4.5 The courts-as a venue to resolve business disputes-are also perceived to be functioning better than in 2003. This i s a major result given the notoriously lengthy times to deliver a judgment and enforce a judgment which both the 2003 survey data and the DoingBusiness reports from recent years point to. The improvement inperception is inline with reforms captured by the Enforcing Contracts indicator of the DoingBusiness in 2008 report (with data as of June 2007). This was one of the areas where Guatemala was cited as having reformed-by expanding the jurisdiction ofJustices of the Peace to small claims. 4.6 Nevertheless, governance challenges remain. Despite reforming aggressively for two years in a row, Guatemala still ranks quite low on the global Ease of Doing Business index (114 out of 178 countries in 2007). In some areas-such as construction licenses and starting a business, Guatemala ranks very low-167 and 128 in 2007 respectively. Several successes of the past two years - such as the establishment of the one-stop shop for business registration (the Ventanilla Agid, the introduction into operation of an electronic property transfer system, the advances in tax administration - could be further strengthened and also expanded to areas outside of Guatemala City. With trade as an important source of income (see Chapter 2), Guatemala has begun improving its customs administration- implementation of a new Electronic Data Interchange (EDI) system for electronic submission of customs declarations and the introduction of a risk-based inspection regime decreased the time for exporting and importing, and also the associated costs. 2. REDTAPE AND CORRUPTION 4.7 Guatemala lags behind most of the other Central American countries in overall governance indicators. It is particularly weak in the area of confidence in the government's interpretation of business laws and regulations. Two-thirds of Guatemalan f i r m s do not believe that business laws wdl be applied in a predictable and consistent manner (Figure 4.1). In the area of bribery, 23 percent of f i r m s in Guatemala believe that bribes are common in order to do business, which, while less than in Honduras (43 percent), i s more than the other countries in the region. Of the subset of f i r m s who say that bribes to get things done are common, 58 percent report that they are aware of the amount needed to pay well in advance (Figure 4.2). This i s similar to El Salvador and less than in Honduras and Nicaragua (over 65 percent in both cases). When it comes to actual incidence of informal payments, however, Guatemalan firms report a rate of incidence sirmlar to the other Central American countries, with the exception of El Salvador where the incidence i s lower (Figure 4.3). 9 percent of interviewed firms in Guatemala who had applied for an operating license had been asked for a bribe. 6 percent of f i r m s which had tax inspections had been asked for an informalpayment. 58 Figure4.1: Perceptions of Governance across CentralAmerica I1 7 0 1 I Panama Costa %m ElSalvador Hondum Niaragua Guatemala EGovt lnterpretatianr oflaws and regulations are mmns~tent&unprediaable Source: Enterprise survey Figure4.2: Perceptionsof Bribery across CentralAmerica (percent of firms that consider bribes common and percent of those that say bribes are common who know the exDected bribe size) 80 i, l 66 '60 O 2 E a j0 E 30 20 10 0 Panama Nimagr ElSalvador Guatemala Honduras 1 ~It~smmmontopa~~nformdpa~mentsto"getth~ngsdone" 0 Peopleh o w m advancehowmu& to payto "get thing done" Source: Enterprise Survey. Comparable data for Costa Rica are not available (questions not included in the Costa Rican survey) Figure4.3: Percentof Firms Asked to MakeInformal Payments 14 12 10 8 6 4 2 0 Panama ElSalvador Honduras Nicaragua Guatemala dunng tay mspeaions to obtm unpoa h m s e to obtm opmnng Iimse Source: Enterprise Survey 4.8 Since 2003, the overall cost of bribes in Guatemala has fallen. Average bribe size has not changed much: the average reported bribe to obtain a public contract dropped from 13 to 11 percent of the contract value, but bribes "to get things done" has slightly 59 increased since 2003: from 7.3 to 8.4 percent of annual sales59.However, the incidence of bribes has dropped dramatically. In 2003, 33 percent of interviewed firms reported paying bribes to get a government contract; in2007, this had fallen to 15 percent (Figure 4.4, Panel A). Even more striking was that while in 2003 nearly half of interviewed firms reported paying bribes to "get things done"; in 2007 that number had dropped to 12 percent. The lower incidence of bribes has resulted in a lower average cost of bribes across all firms (Figure 4.4, Panel B). Figure 4.4: Costs of Corruption: 2003 vs. 2007 A. Incidence of informalpayments B. Average costsof informal payments Percentoffimspayngfor PemtofGmspayngto Guatemala (2003) Guatemala (2007) publicmntraas "get things done" Imntraavalueforproarement % Source: Enterprise Survey 4.9 While the number of tax inspections in 2007 was similar to the number reported in2003, there was a substantial reduction in the incidence of bribe-seeking by tax officials. In 2002, 19 percent of large firrns had to pay tax inspectors something extra; this went down to 6 percent in 2006. These results are in line with the generally observed trend of lower incidence of informal payments in 2007 (Figure 4.5, Panels A and B)* Figure 4.5: Average Number ofTax Inspections inPrevious Year / Informal payments requested Source: Enterprise Survey 59 Both averages are calculated for the subset of firms that report bribes for public contracts and for "getting things done". 60 4.10 For the panel of firms (227 manufacturing firms) interviewedinboth the 2003 and 2007 surveys, the improvements on the governance indicators are striking. For example, in the 2003 survey these f i r m s reported, on average, 9 visits by tax officials in the preceding tax year; in 2007-this number had dropped to 3. Not surprisingly, tax administration was seen as less of a problem in 2007. In2003, 16 percent of the panel firms saw tax administration as a very serious problem. That number fell to 7 percent &d so in 2007. Improvements inperceptions across this subset of firms interviewed in both surveys were noted across all indicators. 72 percent of them viewed corruption as a very grave issue in2003, and only 44 percent of the same l dso in2007. The objective measures do support t h i s perception: in 2003 38 percent of the same f i r m s paid to get a public contract; in 2007- only 13 percent did so. In the same vein, in2003 more than half of the same group of 227 f m s (52 percent) reported paying in general for public services; only 10 percent of the same group reported so in 2007. This is powerful evidence that the governance arena, broadly speaking, has been improving at a fast pace since then - something largely evident in the progress in the different Doing Business indicators which measure government regulations of entry, permits, landregistration, and trade, among others." 4.11 By definition, the Enterprise Surveys cover only formal, registered firms. Informality, however, is a serious issue in Guatemala, with estimates that 75 percent of the economically active population (about 5 million in 2004) i s engaged in informal and unregistered activity Inrural areas this number i s even higher - 90 percent of the labor force. Informality affects more Guatemala's indigenous peoples: while 67 percent of non-indigenous citizens are engaged ininformal businesses, the number goes up to 89 percent for the indigenous population and higher for geographic areas of the country where indigenous communities are concentrated. Informality i s usually associated with more burdensome government regulations and more corrupt practices inbusiness regulations." 4.12 The share of sales that firms report for tax purposes and the share of the labor force reported for social security purposes gauge the level of tax evasion and under- reporting by formal firms. The survey results indcate that in 2007 Guatemalan firms reported on average 73 percent of their income to the tax authorities, and 76 percent of their workforce62. These numbers are not lssimilar to the rest of Central America. There are, however, important regional differences within Guatemala. For firms located in the Guatemala City area the share of reported sales i s 76 percent; f i r m s located inthe rest of the country (where informality i s higher) reported 64 percent of their sales income. Similarly, f i r m s in the Guatemala City area reported 79 percent of their workforce for tax and social security purposes compared to 68 percent for firms elsewhere inthe country. 4.13 The quality of business services provided by the government varies between the Guatemala City metropolitan area and the remainder of the country. Firms around the capital city waited longer to get a construction permit in 2007 than their counterparts in the rest of the country (Figure 4.6). On the other hand, f i r m s in the interior waited considerably longer for an operating license (close to 3 months on average) and for an 6o Corruption was not covered by Doing Business reports thus far, but i s a new topic area for the forthcoming report Doing Btlsiness in 2009. CIEN 2006. 62 Since all surveyed firms are formal, actual compliance i s much lower. 61 import license. Aside from this, utility connections (electricity, telephone andwater) also take longer in the interior than in the Guatemala City area (see Chapter 3). On balance, f i r m s in the interior are facing more challenges with respect to the investment climate, especially where infrastructure and red tape are concerned. Figure 4.6: Regional Differences inTime to Get Licenses and Permits 2007 87 I I Days to obtain import liosnse Days to obtain operatinglianse Days to get amnnstmctionpermit 0 Guatemalaaty Rest of m u n q Source: Enterprise Survey 3. LAND 4.14 Land is an important factor of production. Secure land titles guarantee rights of ownership and allow a land market to develop. In 2007, interviewed Guatemalan f i r m s owned slightly more than half of the land they occupied, and leased the rest. This i s less than the average for Central America, where the percentage of land ownership was 65 percent on average in 2007. Firm land ownership i s higher in rural areas compared to Guatemala City (66 percent vs. 54 percent). 4.15 Access to land has begun to be perceived as more of a problem. Along with electricity it was one of the few areas inwhich there was a worsening of perception since 2003. This i s in h e with an increase inthe average time it took to get a construction permit between 2003 and 2007 (Figure 4.7). Access to land (as measured by the Enterprise Survey) could potentially reflect perceptions of both titling and transfer of ownership, as well as matters related to construction on owner-occupied land. Easing access to and transfer of land ownership i s important as land ownership i s associated with a higher likelihood that a fmwillgetabankloan.Forinstance, in2007, onehalfofGuatemalanfirmswhoownedat least some portion of the land where their business operated had a bank loan; in contrast, only a h d of non-owners had an existing loan or credit line by a formal financial institution (Figure 4.8). Therefore, secure land titling and ownership i s a way to secure bank loans and increase access to finance. Loan applications were also more likely to be rejected among f i r m s with no land ownership. 4.16 Given improvements in the land registration and real property transfer (as captured by the Doing Business report) it is puzzling why perceptions of access to land have worsened. A regional decomposition of these perceptions yields interesting results. While in 2003 14 percent of interviewed firms in Guatemala City and 19 percent of those in the interior considered land a major or severe problem, the proportions were reversed in the 2007 survey, that is. 20 percent of firms in the Guatemala City metropolitan 62 area considered access to land a serious issue as opposed to 15 percent of those inthe rest of the country. As major economic activity i s concentrated in and around the capital city area, f i r m s located there might indeed find it more difficult to acquire suitable land for their establishments' operation and potential expansion. Figure 4.7: Land and Construction Permits: 2007 vs. 2003 Amss to landis aproblem,O of h h s Days to get a mnstrudon permit @I(2003)HGuatemala(2007) Guatemala Source: Enterprise Survey Figure 4. 8: Land Ownership and Access to Finance: Guatemala, 2007 I 71) , 66 ;6050 2 40 Li c 30 20 10 0 Percent of fms with a loan Percentof firms with loans Percentof films with rejected or credith e that usedlandand buildings loanapplications to guaranteethe loan Source: Enterprise Survey 4. COURTSAND CONTRACT ENFORCEMENT 4.17 Guatemalan courts are routinely rated as among the slowest inthe world. For example, according to the Doing Business 2008, a standard debt collection case involving a claim of 200 percent of income per capita, would take 1459 days to resolve, one of the longest in the world. This measure has not changed since Doing Business began publishing i t s annual reports and gathering data on contract enforcement in 2003. The Enterprise Survey data, however, are not so clear. Although on average, the time to obtain a court judgment was reported as 50 weeks in 2007, closer review of the data shows that the average i s skewed by one outlier. The minimum reported time was 3 weeks; the maximum reported time was 313 weeks. Dropping the observation of 313 weeks lowers the average time in 63 Guatemala to 33 weeks. Similarly, the simple average for time to execute a judgment was 40 weeks; removal of one outlier (the same fm)drops the average to 12 weeks. Guatemala therefore would rank slightly better than its Central American comparators. 4.18 Perceptions of the court system have improved substantially since 2003. For example, 31 percent of interviewed firms inthe 2003 survey identified the courts as a major problem; only 13 percent did so in 2007. However, trust in the courts measured along several dimensions, such as fairness of process, speediness, affordability and ability to enforce judgments, i s not unlike that of other Central American neighbors (Figure 4.9). Only Panamanian f i r m s have consistently higher confidence in the judicial system. Figure 4. 9:Trust inthe Judiciary, 2007 50 I f, A 7 " C ._ 40 G 30 1 8 b 20 s 10 0 ElSalvador Guatemala Honduras Nicaragua Panama Source: Enterprise Survey 5. CRIMEAND INSECURITY 4.19 Guatemala's crime problem affects the business community and the citizenry. Buildinga strong judiciary a i d police becomes an even more urgent &k. A 2007 United Nations study on crime in Central America reveals the severity of the problem. The 2007 survey data demonstrate that perceptions of crime as an obstacle to business have improved considerably and that, in line with them, fewer f i r m s have experienced crimes against their businesses in the year preceding the survey. In 2003, 80 percent of interviewed firms had identified crime as a serious obstacle to business, in 2007-this share had shrunk by more than a half - 37 percent. Similarly, in 2003 more than half of interviewees reported having suffered losses as a result of criminal activity directed at their businesses; in 2007-only 36 percent of f i r m s had been victims of crime and incurred business losses in the process. (Figure 4.10). These are remarkable improvements in both subjective perceptions and objective measures, such as crime incidence. 64 Figure 4.10: Perception and Incidence of Crime 2003,2007 ~ 100 j 80 2 60 I L s 40 20 0 Percent of respondentsthat see cnme as a Percentage of tims that erpenenced lossesas a malor or severe obstacle result of theft, robbev, vandalism or anon Source: Enterprise Survey Figure 4.11 Crime Incidence inLatinAmerica (Percent of firms reporting losses as a result of theft, robbers, vandalism or arson) 4.20 Despite the reduction in crime reported by firms, Guatemala still ranks among the countries where private firms are worst affected by crime. Only ElSalvador and Honduras in Central America do worse in terms of crime incidence (Figure 4.11). Overall, Guatemala ranks among the worst hit countries inLatin America. Guatemalan firms incurred the hghest costs associated with crime among their Central American counterparts (Figure 4.12). On average, a typical Guatemalan firm registered losses due to crime equal to 2.23 percent of annual sales. In Panama, the same firm reported losses of 0.4 percent of annual sales. The difference i s enormous. Another 1.9 percent of sales was spent on preventive measures, such as private security personnel, cameras and equipment, and others. InCosta Rica, costs spent on private security averaged only 1percent of annual sales, nearly half of what was being spent in Guatemala, Panama and Nicaragua Figure 4-12). 65 Figure 4.12: Costs of Crime (Percent of Sales Lost due to Crime and Spent on Private Security) 4.0 3.0 2.0 1.O 0.0 Guatemala ElSalvador Nicatagua Honduras Panama CostaRia I?bsalesspentinsemrityIYOsaleslostduetotheft I Source: Enterprise Survey 4.21 Criminal activity such as theft of cargo being shipped within or out of the country, also affects Guatemalan firms more than most of their Latin American peers. Only El Salvador and Bolivia (for domestic shipments) record similar losses of consignment cargo as Guatemala does (Figure 4.13). In direct exporting, losses related to theft in Guatemala are 10 times higher on average than those for exporters in Chile, Argentina, Uruguay, Paraguay and Colombia. These losses are important as they impede the international competitiveness of Guatemalan exporters. Figure 4.13: Theft-Related Losses inTransit of Goods (for exportsanddomesticshipments) ElSalvador Guaternala Nicaragua Costa R ~ c a Panama Peru Mexim H o n d u r a s E o l a d o r Bolivia Chile Argentina Paraguay C o l o m b i a Uruguay 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 0 % mnsignment value ofdomesticshipmentlost due to theft I mnsignmentvalueofdirectexportslostduetotheft Source: Enterprise Survey 4.22 Crime also induces worker absenteeism due to security concerns-and this reduces productivity. In Guatemala, a larger share of firms (17 percent in 2007) reported 66 suffering from crime-related worker absenteeism, more than the average for Central America (15 percent) and Latin America overall (10 percent). Only interviewed Honduran and Salvadoran f i r m s reported a higher level of crime- and security-related worker absenteeism (Figure 4.14). For the subset of Guatemalan firms, which reported experiencing criminal activity against their businesses, worker absenteeism was even higher-27 percent. Figure 4.14: Share of Firms reporting increases in worker absenteeism due to crime and lack of security Honduras ElSalvador Guatemala Paragu*" ACgRlClnC, BoLvla Nleragu* Emador Umguay Chde MCWm Colombia PR-U Pallama 0 5 10 15 20 25 Source: Enterprise Survey 4.23 In 2007, medium-sized and large firms were more likely to be victims of criminal activity, and spend more on security and crime prevention. The hghest crime-related costs, however, were borne by small f i r m s (3 percent of sales as opposed to 0.9 percent of sales for large firms). Firms in Guatemala City and its surrounding metropolitan area were more likely to experience crime than f i r m s elsewhere in the country (39 percent vs. 25 percent). There were no significant differences, however, between crime losses incurred, and only marginal ones in terms of security expenditures for f i r m s in and outside of the capital city area.(Figure 4.15). Figure 4.15: Crime incidence and cost by Size A. Percentof firms,victimsof crime B. Costsof Crime, by size 50 4 3.0 4c 30 20 10 0 Small(<19) hledium (20-99) Lvge(>loo) Small (<19) .\lediurn (20.99) large (>100) 0 9.0sales spent on seolnty Q O'o finns reportingm e I?,osaleslostduetotheft,robbqnmdalismorarson Source: Enterprise Survey 67 4.24 At present, firms of all sizes are spending significantly less than in 2003 on preventive security measures (Figure 4-16). Across the whole sample, costs of crime prevention declined from 5 to 1.7 percent of sales income between 2003 and 2007 - a statistically significant difference. Crime-related costs, however, declined only for large f i r m s (from 1.4to 0.7 percent of sales), and actually increased for small and medium firms. At 2.2 percent of annual sales, these costs remained practically the same. A possible explanation i s that in 2003, when a new wave of rising crime started in Guatemala (especially related to drug-trafficking and gang violence), many f i r m s had been forced to invest in security measures that are fured costs (reinforcing walls, windows, cameras and other equipment). Once incurred, these costs need not be repeated, except for the variable costs of salaries of security personnel. In other words, what the survey i s capturing could potentially be that firms have already "walled themselves off' and are therefore spending less on security compared to 2003, but are by no means suffering less from crime as the losses incurred indicate (even with lower incidence of crime). Figure 4.16: Costs of Crime by Size andYear 7.0 I 6.0 5.0 4.0 3.0 3.0 2.0 1.o 0.0 2003 I 2007 96 sales spent on smrity II 2003 I 2007 `10sales lost dueto theft II HSmall(<19) 0 Medium (20-99) HLarge(>loo) Source: EnterpriseSurvey 6. POLICY RECOMMENDATIONSON GOVERNANCE 4.25 Guatemala should continue reforming its regulations of private business activity--especially infirm registration and issuingconstructionpermits, where there i s huge potential for moving up the rankings of the Doing Business report. Analyses and action plans developed by the country's Credit Risk Task Force (Mesa de Riesgo delpais), with participation from the think tank FUNDESAand other government and private sector organizations, shouldbe put into action. 4.26 The country's National Competitiveness Program can continue to play an important coordinating and supporting role. The one-stop shop for firm registration shouldbe replicated to municipalities outside of Guatemala City. This would take some time and resources but i s necessary to make services available to f i r m s in the interior. The same applies to the Property Registry. 68 4.27 There is also potential for further improving customs administration. Customs could be improved, for example, by reducing redundant documentation or by consolidating information onto one customs declaration form. The steps adopted last year to introduce risk-based cargo inspections and an Electronic Data Transfer system for exporting or transiting cargo are steps in the right direction. But more remains to be done, includmg introducing performance incentives and performance monitoring of customs officials. 4.28 Tax administration could also be further strengthened. For example, currently a standard limited liability medium-sized company must make 39 separate payments of corporate income taxes and social security contributions due over one fiscal year. This i s high relative to other countries such as Mexico (27 payments) or reformers worldwide. Introducing online submission of tax declarations and making it possible to also make tax payments online could improve tax administration. Well done tax administration reforms lead to higher compliance rates and more revenue (especially if taxes rates are lowered to broaden the base). Such reforms can also reduce opportunities for bribery. 4.29 The 2007 survey points to a dramatic shift in both perceptions and incidence of corrupt practices in regulation of business activity. Nevertheless, corruption continues to be a major concern. Current efforts can go a long way to further reduce the incidence of corrupt acts. One example i s the Public Sector Modernization and Management Project, which works to improve government procurement practices, civil service performance and incentives as well as fiscal management. Strengthening institutions such as the judiciary and the police could also help put a check on the Executive, at the national government, and municipal levels. 4.30 Guatemala has started some reforms in contract enforcement and the judiciary, but a more concerted, longer-term effort will be needed, possibly with support from donors. The Justice Sector Modernization Project underway with World Bank assistance should help with court case management, training of judges, improving court infrastructure and performance and incentive schemes for judges. To reduce times to case disposition, backlogs should be dealt with. For example, Colombia adopted a law allowing the dismissal of civil cases that have been inactive (with no action by either plaintiff or defendant) for 6 months or longer. This i s expected to reduce backlogs inhalf. 4.31 More sweeping reforms of the justice system would require time, sustained effort and resources. One reform is the review of the Civil Procedure Code to see where innovations aimed at faster resolution of disputes could be made. Alternative dispute resolution, especially mediation, could also serve to alleviate civil courts from certain claims, such as over small amounts. 4.32 Finally, in the crime area, the strategy advocated is to accompany preventive measures with active police enforcement, especially since a lot of crime is linked to alleged drug trafficking of cocaine from South America to the U S and European markets63.According to a recent World Bank Policy Note on Crime and Violence in Guatemala, the best approach would be for the new administration to focus on improving 63United Nations, Office on Drugs and Crime (2007), Cthe and Development in CentralAmerica: Caught in the Crossjre,New York, NY. 69 the quality of the police and the criminal justice system, with targeted interventions to reduce crime in high-risk communities in the short run, and work toward a human development strategy which aims to lower the underlying tendency for criminality in the medium- to long run.64 4.33 Many of the targeted short-term interventions involve working with youth-at- risk groups, gang members and strengthening self-policing by communities. Different Guatemalan NGOs have already ongoing programs tacking gang members and workingwith them to help them find employment, as well as workingtoward disarmament. rj4Draft Policy N o t e on Crime and Violence in Guatemala, prepared as a background note for the Central America ICA, 2008. 70 Chapter 5. Firms'Access to FinancialServices 1. INTRODUCTION 5.1 Satisfaction with access to financial services has improved in Guatemala in the last few years. In the 2003 survey, 47 percent of surveyed firms indicate that they thought access to finance was a major or severe obstacle; in2007, the number had dropped to 19 percent. While only 44 percent of surveyed firms have loans, 84 percent have a checking or savings account. Of the firms that did not have loans, most reported that they had not applied for a loan because they &d not need it. Ths higher level of satisfaction with access to finance, however, does not mean that access problems are resolved. Guatemala has the lowest financial depth in Central America and one of the lowest in Latin America, even when considering the level of income. Guatemalan f i r m s finance most of their needs with internal sources and there i s little diversification of external sources of financing. The financial system shows deficiencies in terms of outreach, with cre&t being concentrated in larger enterprises and urban areas. The system i s dominated by commercial banks that operate at the center of financial conglomerates. Non-banking sectors, which could address the specific need of underserved f i r m s (including micro-finance institutions, factoring and leasing companies) are little developed. Nevertheless, microfinance institutions have been growing fast and offering a wide set of financial products and services to underserved sectors. Overall, the diversity of financial products in the system i s limited though, with banks providingmost lending, largely in dollars and short term. 5.2 There have been considerable advances in the financial system and its enabling environment recently, but some weaknesses still hmder the development of the financial system. Stability and solvency have improved considerably and now leave more room to tackle access to finance issues and the remaining agenda to consolidate improvements. Weaknesses of the infornational framework include, for instance, problems with auditing and accounting standards that affect the quality of enterprises' financial statements and low coverage of private credit bureaus. Within the contractaalframework, problems with collateral and bankruptcy laws, judicial independence and protection of minority shareholder's interests restrict financial development. The regzllation and sapemision of the financial system also faces challenges, the largest being related to banking and consolidated supervision laws (even when they are currently under continuous improvement) and the development of regulation to foster non-banking sectors. 5.3 Bank efficiency still remains low. Interest rate spreads have decreased from 10.2 percent in 2003 to 8.26 percent in 2007, but that spread i s one of the highest in Central America, and substantially higher than more developed financial systems such as Chile (interest rate spread of 2.9 percent). 5.4 In this context, measures to increase the size of the financial system while benefiting smaller firms seem a priority. Ths includes: (i) strengthening creditor rights and insolvency proceedings to foster credit growth and increase the efficiency of collateral, 71 which i s more scarce at smaller firms; (ii) promoting the development of the non-banking sector and sources of financing that are better able to address the specific needs of MSMEs, like microfinance institutions, factoring and leasing; and (iii) promoting a business environment that increases the chances of approval of MSMEs loan applications by encouraging formality, and improving accounting and auditing practices and financial information infrastructure. 5.5 The most important issues on access to finance at the firm level in Guatemala are reviewed in this chapter, with a discussion of the most important obstacles and suggested policy recommendations to address them. Section I1 reviews the main features and structure of the financial sector inGuatemala, based on public financial market information and the International Monetary Fund and World Bank's 2006 Guatemala Financial Sector Assessment Program (FSAP) Update. Section I11 presents the main findings of the on access to finance that can be derived from the 2006 World Bank's Enterprise Survey. Based on the background set by Sections I1and 111, Section IV derives the main obstacles for access to finance in the real sector and relevant policy re'commendations to address them. 5.6 Guatemala's financial system is small compared with other countries in the region, it has outreach problems and lack of diversity. Guatemala compares unfavorably with other countries in the region in terms ,of domestic financing to the private sector (see Figure 5.1). Problems of size and outreach are accompanied with lack of diversity of financial institutions, markets and products. The development of non-banking sectors and the range of available products and services are limited, with most financing being short-term and indollars. Figure 5.1: Bank lending to the Private Sector as percent of GDP Bank Lendingto PrivateSector/ GDP 0.8 0.7 - 0.6 a p 0.5 5 0.4 0.3 0.2 0.1 0 Costa &a ESalvador Guatemla Honduras Nicaragua Panama Central America average 5.7 Although the financial system includes several types of supervised and unsupervised institutions, it is dominated by banks. The supervised system comprises banks (onshore and offshore); finance, insurance and bonding companies; foreign exchange houses; warehouses; and leasing, factoring and credit card companies. As of March 2008, the banking sector accounted for 89 percent of the assets of the financial system. Supervised non-banking sectors are all small. Finance and insurance companies account 72 only for 6.7 percent of the system's assets and the participation of bonding companies, warehouses and exchange houses does not reach 1 percent. The insurance and pension sectors are still underdeveloped and a proper securities market barely exists. As of March 2008 credit card companies accounted for 2.7 percent of the financial system's assets (US$0.5 bill~on).~~the unregulated sector, microfinance institutions have grownin recent In years reaching a total lending portfolio of about US$770 million or 4.3 percent of the banking system's credit portfolio (based on rough estimates as of March 2008). 5.8 The banking sector is mainly domestic and privately owned. As of March 2008, 20 onshore banks operated in the system, with three banks holding about 60 percent of the system's assets. In addition, 9 banks operated offshore and belonged to financial conglomerates associated with onshore banks. Interms of ownership, nine onshore banks had foreign capital, and there i s one fully-owned state bank (plus another with a minority participation of the state). The most notable foreign participation i s in the Citibank Group, which now includes Citibank, Banco Cuscatlhn and Banco Uno. In combined assets, the group represents 6.0 percent of bankmg sector assets. There are now no majority state- owned banks in the system. The government holds a minority position in Banrural, an institution with about 17percent of the financial sector's assets. 5.9 Lendinginforeign currency is declining, but still high. As of 2005, 42 percent of loans and 35 percent for deposits were in foreign currency; as of March 2008, 30 percent of loans and 15.6 percent of deposits were in foreign currency. The productive sector, particularly agriculture and manufacturing, i s mostly financed by short-term loans of up to one year. Bank credit remains concentrated in Guatemala City, which accounted for 79 percent of loans as of February 2008. Bank lending i s also concentrated inlarger enterprises but as ofJune 2005 some banks (largely Banrural but also Bancafe)66provided micro-credit (for about US$130 million). Interest rate spreads have fallen from 10.71percent in2000 to 8.26 percent in 2007, but still remain among the highest in the region (Table 1.9). Surprisingly, the share of consumer lending has dropped from 52 percent of total lending in 2005 to 25.4 percent in March 2008). The share of agriculture and commerce loans 6 percent in2005 to 26% inMarch 2008. 5.10 Finance companies represent a small and declining share of the system and tend to be part of financial conglomerates or economic groups. As of March 2008 there were 17 active finance companies with a lending portfolio of about US$172 million (2 percent of total bank lending). Twelve finance companies were related to financial conglomerates and the other seven were dedicated to support their controlling economic group. They take deposits from individuals, offer savings products as "pension funds" (not permitted to banks) and manage approximately US$700 million in guarantee trust funds and wealth from highincome individuals. Interms of assets, finance companies tend to invest in non-rated securities (e.g. government debt, mortgages, notes from non-regulated financial entities and project finance) and also extend loans to their bank`s large debtors. 65 Superintendency of Banks of Guatemala, hiay 2008 database. 66 Banrural i s a medium size bankwith the largest branchnetwork (and minority government shares). Bancaf.4, was the 4" largest bank in Guatemala but it failed in 2006, with i t s assets being bought by three local banks, including Banrural (See B o x 1). 73 5.11 The insurance sector i s small (although increasing) and heavily oriented toward non-life insurance and the pensions sector is small and largely public. Insurance penetration (total p r e m i u m to GDP) s t o o d only at 1 percent in 2004 and t h e sector has l i m i t e d scope to grow due to legal, technical, and environmental constraints." Within its operational limits the sector is highly competitive. T h e number of insurance companies has remained stable, dropping from 18 in 2005 to 17 in 2008, with most operating inboth life a n d non-life insurance business lines. T h e pension sector has a mix of pay-as-you-go, partially pre-funded mandatory schemes and some smaller f u n d e d plans.68 Box 5-1. Resolutionof Bancafk and Banco de Comercio- October 2006 andJanuary 2007 As of September 2006, Banco delCafe.SA (Bancafk) was part of the fourth largest financial group in the country, with a very large network of branches focusing on both retail and corporate segments. Inparticular, it providedfinancial services to a broadset of clients through the country, includmg SMEs, microenterprises, and lower income individuals. Bancafk was part of the Grupo Financier0 del Pais, which included an offshore bank inBarbados (BIB).BIBhadinvestments securities for about US$196.3 d o n held at Refco Capital Markets (Refco), a N e w York based financial services company primardy known for commodities and future contracts. T h e financial statements of BIB also indicated cash assets held in Refco for US$4.9 d o n , which resulted intotal BIB assets inRefco for US$201.2 million. The assets reportedwere eventually found to be partly pledged against other liabhties, which became known after Refco filed for Chapter 11in the US. The bankruptcyprocess froze Refco assets, including those of BIB. Given the extent of exposure to the domestic bank, rhroughi t s ownership linkages with BIB, the Guatemalan authorities took a series of supervisory measures that led to the request of suspension of the Bancafk license inOctober 19*, 2006. InJanuary 2007, Banco de Comercio, a small bank that was also subject to suspension oflicense due to problems withits previously undsclosed offshore affhate. T h e resolution of Bancafk was successfully implemented with the transfer of all deposits and an equivalent amount of assets to three other domestic banks (Banrural, Agromercantil, Reformador), with deposits available within 3-4 workingdays. The resolution also preserved the majority of banking jobs. T h e resolution of Banco de Comercio was successfully implemented with the transfer of all deposits and an equivalent amount of assets to the largest domestic bank (Industrial), also preserving the majority of banking jobs. These are the fEst resolution cases ever implemented with the new legal and regulatory framework (2002) without going through liquidation. There were some bank runs, but no major systemic effects. 5.12 The capital market barely exists. There is no equity market a n d the private debt market consists mainly of short-term promissory notes, mostly issued by credlt card companies and a f e w enterprises. T h e government and the B a n k of Guatemala (Banguat, 68This includes a dehed benefit pay-as-you-go scheme for civil servants, about 12 separate defined benefit pension schemes for autonomous public institutions and members of the military, a mandatory scheme for private sector workers, and some products offered to the high-end market by finance companies and banks. Among these, the pay-as-you-go public scheme and the mandatory private scheme present serious imbalances andproducts offered by banks and finance companies resemble savings more than retirement products. 74 the central bank) are the primary bond issuers. There i s no reference curve or mark-to- market by any investor class -includmg funds managed by brokerage houses. Companies report little interest in raising debt or equity in local capital markets as bigger firms obtain financing from financial conglomerates. 5.13 The universe of microfinance institutions comprises a wide range of mostly non-regulated entities. This includes Savings and Credit Cooperatives, NGOs, Private Development Finance Organizations, banks and producer cooperatives. Savings and CreQt Cooperatives are the most relevant microfinance institutions interms of lending and provide a wide range of financial services like micro-savings, remittances payments, micro-insurance, and housingloans to mostly un-banked, moderate-income Guatemalan~.`~There are close to 300 registered Savings and Credit Cooperatives organized under federations but there i s considerable variability in size, with the top 30 representing about 85 percent of total assets. Private Development Finance Organizations are mostly NGOs and include 40 organizations, of which the top five supply more than half of their lending. Producers' Cooperatives comprise 1,200 registered entities and are also organized in federations, some of which have been key to channel subsidized funds from MAGA (Ministeno de Agricultara, Ganaden'ay Alimentacidn). Their lendingportfolio was estimated at $770 d o n as 2007. 5.14 Although small, leasing and factoring could be important channels for improving access to credit for SMEs. In2005 there were eight unregulated leasing firms that served meQum to large firms, but they represented less than 1percent of the financial sector's total assets. Factoring i s also under-developed, representing US$170 million on banks' balance sheets. Both financial instruments have had success in other countries but they need a favorable legal-regulatory framework, which i s lacking in Guatemala. Leasing i s a potentially significant financing tool for SME capital expenditure. International experience shows leasing can offer competitive financing to SMEs for the acquisition of machinery and equipment, but its development requires, inter alia, having the ability to seize assets extra- judicially in the event of default, having a clear priority ranking, and the existence of secondary markets. Factoring has had notable success in the region (e.g., Brazil, Chile, Mexico) providingworking capital for SMEs, but it also needs an adequate legal-regulatory framework to grow; the framework in Guatemala stdl i s deficient, as it has a k t e d definition of receivables and lack of clarity on the its tax txeatment. See section on obstacles and policy recommendations for more details. 5.15 In recent years there have been notable improvements in some areas of the financial system and its enabling environment. Reported ratios of performance and solvency of onshore banks have improved after the banking sector crises of 2001. Macroeconomic stability, a key pdlar for financial development, has increased considerably based on prudent macroeconomic policies, with higher economic growth, low inflation and a surplus of the balance of payments (IMF 2007). Other improvements include the strengthening of the legal and regulatory frame~ork,'~initial supervision of off-shore banks and payment systems and liquiditymanagement among others. 69 They have more than US$300 million in lending, compared with Private Development Finance Organizations' US$lOO million and Producers Cooperatives' US$170 d o n . 70 In fact, according to the latest Doing Business Report, the regulation affecting access to crechti s one of the areas where Guatemala performs better in terms o f the regulatory framework for doing business. Getting 75 5.16 Nevertheless, some weaknesses of the enabling environment still hinder financial sector development. These include problems with the informational and contractual frameworks, regulation and supervision, and informality among firms: 0 Within the informational framework, there are weaknesses in auditing and accounting standards that affect the quality of financial statements of enterprises71 and, low coverage of private credit bureaus that typically have incomplete and segmented information on enterprise^.^' 0 The contractual framework includes problems with the regulation of collateral . (particularly movable collateral), the bankruptcy law? judicial independence and protection of minority shareholder's interests.74 Notwithstanding ongoing improvements, regulation and supervision (particularly banking and consolidated supervision laws) still need to be strengthened. Additionally, non-bank financing could be fostered through regulatory changes, including the development of factoring and leasing laws and the regulation and supervision of larger micro-finance institutions (MFIs). High informality, particularly among smaller enterprises, hinders their access to credit by both increasing the risk they represent to lenders and making it more difficult to estimate it. 2. ACCESS FINANCE TO 5.17 This section presents the mainfindings on access to finance derived from the 2007 Enterprise Survey. The survey collected data from 524 formal enterprises in Guatemala and included enterprises with different size, location and economic sector. Thus, the analysis presented in this chapter does not apply to informal enterprises (which are numerous and relevant in Guatemala) but it provides a general picture of access to finance issues and disparities across size, location and industry. Differences are reported only when Credit, which measures the legal rights of borrowers and lenders and the sharing o f creht information, i s the second highest ranking index for Guatemala in the 2007-2008 D o i n g Business Report. Guatemala compares favorably with LAC on some of the Getting Credit components (credit information sub-index and the coverage o f the public credit bureau) but unfavorably on others (the legal rights index and the coverage of the private credit bureaus). 71 T h i s encompasses divergence from the International Financial Reporting Standards (IFRS), tax oriented financial statements, lack of publicly available a u l t e d financial statements and the non-existence of a regulatory agency to enforce financial reporting 72 The Doing Business Report (World Bank 2007) calculates that the coverage o f private credit bureaus in Guatemala (measured as a percentage of individuals or firms listed in the credit bureau and expressed relative to total adult population) i s 13 percent compared with 32 percent inL A C . 73 Doing Business (World Bank 2007) finds that collateral and bankruptcy regulation in Guatemala has the following drawbacks in Guatemala: a narrow (specific) description of assets and debt permitted in collateral agreements, lack of a unified registq for all security rights on movable collateral, lack of absolute priority to secured creditors in bankruptcy proceedhgs, lack of suspension of management control on assets during a reorganization, lack o f legal authorization to parties to agree on out of court enforcement, lack o f legal authorization to creditors to seize and sell collateral out of court without restrictions. 74 The Global Competitiveness Report (Porter et. al. 2006) includes the protection o f minority shareholders and judicial independence as two notable competitive disadvantages inGuatemala. 76 they are statistically significant (with certainty of 5 percent or more). Covered topics include firms' access to saving and credit products, their perceptions on access to financing, sources of financing and the main features of credtt and its demand.75 In Guatemala, firms have greater access to savings than to credit products, with micro-enterprises being the most restricted in terms of access to credit. Approximately 84 percent of Guatemalan firms report to have checking or saving accounts but only 44 percent report to have loans from financial institutions (Figure 5.2). Access to saving products is widespread across different firm types butis higher inGuatemala City.76Access to credit vanes considerably across enterprise size, with large enterprises being considerably more likely also to have credit products from financial institutions versus smaller enterprises (see Figure 5-2). 77 Figure 5.2: Proportion of firms with finance products inGuatemala, LatinAmerica and CentralAmerica ( O h ) I I I 100 7 P A 88 90 80 60 40 20 0 Checkingkavings Overdraft facilities Credithoans H Guatemala (2007) HLAC CA Source: Enterprise Survey 75 Firm categories have been defined based on the sample composition of the enterprise survey, which provides greater weight to firms that are small, locatedin Guatemala City and belong to the manufacturing sector. Micro-enterprises (MIS),which are usually defined as firms with 5 or less employees, are estimated to be the most numerous in Guatemala and employ the most people in Nevertheless, probably due to their higher level of informality, they have a smaller participation in the sample. To cope with the small number of micro-enterprises (MI),the scope of the definition was enlarged to include firms with upto 10 employees. Thus, the findings that are presented in this chapter for MIare also applicable to small enterprises (SEs) of lower scale. Inturn, small and mediumenterprises (SMEs) are presented as a single category including enterprises with 11to 100employees and large enterprises are considered be those with more than 100employees. Following the distribution of economic activity (particularly formal economic activity) in the country, the sample provides greater weight to firms in Guatemala City. All the other firms were categorized as "Other Cities. Finally, and following the categorization of the enterprise survey, the chapter will differentiate between three industry-categories: manufacturing, services and other (the latter including construction and transport industries). Please note that the description-analysis of the features of credit from the financial system are basedon 44 percent of surveyed Guatemalan firms which currently report to have credit from financial institutions. 76 Approximately 73 percent of firms in Other Cities have checking or saving products versus 88 percent in Guatemala. 77Access to credit i s varies across different locations and economic sectors. Service firms receive relatively less credit than manufacturing firms (38 percent of service firms have credit versus 47 percent of manufacturing firms). 46 percent of firms in Guatemala City have loans, versus 36 percent of firms in other cities. 77 Figure 5.3: Proportion of firms with finance products by size (%) 100 80 60 40 20 0 Checkinghavings Overdraft facilities Creditfloans 0 Micro 0 SME 0 Large - 5.18 Although access to finance lags other countries, firm perceptions have improved. The proportion of surveyed firms which viewed access to finance as a major or severe obstacle to the current operation of their establishments dropped considerably, from 47 percent in 2003 to 19 percent in 2007. In the last fiscal year more than two thirds of f i r m s did not apply for creht, and most of those firms reported they did not need credit (which i s also the case inLatin America). All other reasons that are traditionally thought to play an important role in credit demand, like high interest rates, insufficient collateral, complex application procedures and insufficient maturity appear as largely irrelevant in comparison (see Figure 5.4). MSMEs and f m s located outside of Guatemala City demanded less credit and also reportedlack of need as the mainreason for not applying for credit.78 Figure 5.4: Applications for credit and reasons for not applying (YO) la Applied creditfloan No needfor loan 0 Application procediresare complex 0 Interest ratesnot favorable Collateral requirements are unattainable Bl Size o f loan and maturity are inssuficient W Did not think it would be approved 0 Other 32% I Source: Enterprise Survey 5.19 Rejection of credit applications by financial institutions is a less relevant explanatory variable for lack of access to financing, but it is more important for smaller firms. About 12 percent of loan applications were rejected during the last fiscal 78 During the last fiscal year 21 percent of MIand 29 percent of SMEs applied for credit compared with 52 percent of large enterprises and 25 percent of firms located out of the capital applied for credit compared with 34 percent in Guatemala. Fromthose which did not apply, most report not to need it. 78 year in Guatemala, which i s line with the regon. Unfortunately, given the small number of responses, it i s not possible to determine why financial institutions are rejecting credit applications with any degree of confidence. For illustrative purposes, among the few firms that provided data, problems with collateral and insufficient profitability appeared as the two most common reasons for reje~tion.'~High debt levels, problems with credit history, and incomplete loan applications were less relevant. Credit applications of smaller enterprises were more likely to be rejected. During the last fiscal year preceding the survey, no credit application from a large enterprise was rejected, while a third of applications from MISand almost 15 percent of SMEs' applications were tumed down by financial institutions. 5.20 Guatemalan firms finance most of their working capital and investment needs with internal funds. Duringthe last fiscal year, the most relevant sources of financing were internal funds, followed by private commercial banks (more relevant for investment financing), and trade credit (more relevant for working capital financing) Other sources of financing, like non-bank financial institutions and family and friends were largely irrelevant incomparison. The structure of financing of Guatemalan firms does notvary much across firm size, locationor economic sector, with a few exceptions (Figure 5.5)." Figure 5.5: Sources of Financing 2007 Fixed Assets Investments Working capital Internalfunddretained earning 1% 3% rn Newdebt I Source: Enterprise survey 5.21 The use of trade credit is widespread in Guatemala but there are some differences across enterprise size (most important), location and industry. Firms receive trade credlt mainly by buying inputs on credt (on average, 50 percent of inputs are bought on credit) and provide financing mostly by allowing their customers to pay after delivery (on average, 49 percent of total annual sales are on credit). In contrast, paying for inputs or receiving payment for sales in advance (i.e. before delivery) is less common." Larger enterprises and those located in Guatemala City engage to a greater extent in trade financing, receiving more financing by their suppliers and providmgmore fmancing to their 79 The importance of collateral seems plausible given the highlevel of collateralized lendinginthe country. ' O Private banks play a relatively larger role inthe structure of financing of large enterprises (vs. MSMEs) and Construction & Transport firms (vs. other industry-categories). Construction and transport firms also rely relatively more on trade credit and less on internal financing than the manufacturing and service industries. 81 Approximately 10 percent of total annual sales and 14percent of total annual purchases are paid in advance. 79 clients.82 Construction and transport f i r m s provided more financing to their clients (63 percent of their annual sales are on credit) than service and manufacturing f i r m s (41 percent and 50 percent correspondingly). Ingeneral, f i r m s providingmore trade credit also received more trade credit, reducing the changes of mismatches. Moreover, those providing more trade credit (larger enterprises) should be better able to handle liquidity problems emerging from delays inpayments. Nevertheless, the importance of accounts receivable highlightsthe need to develop factoring to a greater extent. 5.22 Almost all credit coming from the financial system is provided by private banks, highlighting the underdevelopment of non-banking sectors. Private banks represent 91 percent of outstanding loans in Guatemala, compared with non-bank institutions' 5 percent and state banks' 3 percent. This disparity i s also observed in Latin America and i s to be expected to some extent from bank-based financial systems but it reflects the low level of diversity in the financial system and presents access problems for f i r m s that do not constitute the target clientele of private banks, particularly MIs.~~ 5.23 Loans inGuatemala are relativelysmall, evenwhen consideringthe size of the economy.84 As expected, the average value of loans increases considerably with enterprise size.85According to the Superintendency of Banks, as of March 2008, 64 percent of the amount of loans outstanding and 85 percent of the number of loans had term of loan of 3 years or less. This compares to an average maturity of 3.2 years in Latin America and 4.8 in Central America (but the latter difference i s statistically irrelevant). Most loans (69 percent) are collateralized in Guatemala (less than in Central America) and collateral value matches loan value on average, which i s lower than the regional average. The most used types of collateral are land and buildings (the most relevant one), machinery and equipment and personal assets of the owner. Large enterprises and manufacturing industries, which generally are ina better position to provide collateral, use collateralized lending more oftenB6 3. OBSTACLES AND POLICY RECOMMENDATIONS 5.24 The previous sections have argued that the domestic financial system provides relatively little credit to firms and tends to be concentrated on larger 82 Large enterprises buy 65 percent of their total annual purchases on credit and sell 57 percent of their annual sales on credit. In contrast, MISbuy 37 percent o f their inputs on credit and sell 37 percent o f their annual sales on credit, while ShiEs lie in-between large and micro enterprises. In terms o f location, firms in Guatemala City buy roughly half o f their total annual purchases on credit and also sell approximately half o f their annual sales on credit. In contrast, firms located in other cities pay 41 percent of their annual purchases after delivery and receive payments for 36 percent of their sales after delivery. 83 Private banks finance 97 percent o f outstanding loans o f large enterprises and 91 percent o f S 5 E s ' versus 77 percent of MI'S. Average value o f loans granted during 2000-2006 in Guatemala was approximately US$336,000 versus US$ 500,000 inCentral America (excluding Costa Rica). 83 During2006-2006 the average value o f loans (at the time of approval) was USD 22,465 for MI,USD 112,210 for S X E s and USD 925,120 for large enterprises. Interms of differences among economic sectors, even when there are differences on the average size of loans, these are not statistically significant. 86 While 56 percent of loans for MISare collateralized, the equivalentpercentage for large enterprises i s 78. Inthe manufacturing industry 75 percent of loans have collateral versus 61percent inthe service industry and 44 percent in construction & transport. 80 enterprises. This emerges from the low depth of the financial system (;.e. size of the "pie") and the way credit i s being distributed among different groups of enterprises (or "sliced" among the dtfferent players). Below are the most relevant initiatives that would foster financial depth, with an emphasis on measures that would benefit MSMEs, given that they appear as the most underserved by the financial system. They emerge from the findings of the previous sections, and are also based on the Background N o t e on Developmental Issues for Corporate Sector and Non-bank Financing from the Guatemala FSAP, which provides an analysis on the potential causes for the low level of bank credit to the private sector, small participation of micro-finance institutions and incipient development of alternative financing instnxments @e leasing and factoring) and capital markets. 5.25 Creditor rights and insolvency proceedings should be strengthened. Problems with creditors' rights and insolvency proceedings have a negative effect on the cost and availabllity of credit in Guatemala, particularly for MSMEs. The framework for credttor rights shows deficiencies related to the creation, regstration, and enforcement of secured and unsecured rights. Liquidation proceedings involve lengthy and often costly judicial proceedings with a low prospect for recovery for creditors. The legal framework for insolvency has scarcely been used and i s perceived as ineffective as courts in charge of insolvency proceedings lack expertise and specialization and are overloaded with cases. Enhancing the institutional framework for the enforcement of creditor rights and insolvency proceedmgs would foster credit growth, decrease its cost and increase the efficiency of collateral by increasing the probability of recovering funds inthe event of default. 5.26 Promote the growth of commercially oriented microfinance institutions. Given that micro-enterprises are the most restricted, the development of microfinance institutions that target smaller enterprises should be encouraged.. Microfinance institutions have loan technology and products tailored to the needs and characteristics of MISand can cope with the typical problems these firms represent for tradttional banks, &e informality, lack of collateral and financial illiteracy. 5.27 InGuatemala, the largest microfinance institutions (Savings and Credit Cooperatives, CACs, and OPDFs) play a meaningful role in serving micro-enterprises. But, their future growth and financial stability would require an adequate regulatory and supervisory framework. Larger MFIs are mature enough to be transformed into a regulated environment to preserve and reinforce their development." This would encourage prudent accounting and risk management practices among larger institutions and enhance their access to funding. 5.28 Framework issues remain related to cooperatives and to the credtt information system for micro-enterprises. The 1978 General L a w of Cooperatives has become an ineffective framework for regulating CAC. It provides a registry (Inacop) and a surveillance body (Ingecop) that are not equipped to support all registered entities and does not allow the orderly resolution of inoperative cooperatives. The latest two draft laws on micro-finance entities (the Micro-Finance Companies L a w and the Non-Profit Micro-Credit Entities draft laws) may yield limited impact. Additionally, it would be convenient to create a comprehensive credit information system on micro-enterprises (Central de Riesgos) to mitigate 8' There areongoingefforts to regulate M F I s , with relevant draft laws under review. 81 the risk of over-indebtedness as the number of bank and non-bank entities supplyingmicro- credit grows. 5.29 Promote the development of financial instruments adjusted to the needs of SMEs. Currently, there is little diversification of financial services tailored to SMEs, like leasing and factoring, which can be offered by specialized firms. Although factoring and leasing are currently small in Guatemala, they would have good growth potential with the right legal framework. Further development of leasingwould imply, primarily, sanctioning a specialized leasing law to eliminate the uncertainties created by the legal void. Reforms to the legal-regulatory framework shouldinclude: (i) adopting accounting practices in line with L4S and approved by tax authorities, with clear distinctions between operational and financial leasing, (ii)granting the capacity to repossess the leased goods extra-judicially in case of default; (iii) establishing the transferability of ownership rights in case of collateralization of leasing contracts; and (iv) conferring clear priority rights in case of bankruptcy. Additionally, leasing could also be promoted by decreasing informality so that firms can take advantage of tax breaks and counting with an efficient registry system and propitiousjurisprudence. 5.30 On the other hand, and inthe context ofwide use of trade financing, factoring could become a powerful tool for financing SMEs' working capital needs by using accounts- receivable as liquidity generating assets. The development of factoring would mainly require establishing an adequate legal framework to: (i) adopt a wider definition of receivables to include services, credit cards, leasing contracts and international documents; (ii) that clarify factoring does not consist on the transfer of credit and give judicial strength to the `ffuct~ru"; (iii)clarity that factoring ofreceivables shouldnotbesubject toVAT since itis notan additional sale for the supplier; and (iv) adopt electronic signature and security for the development of e-factoring among others. 5.31 Promote the development of the capital market. Guatemala has a very h t e d domestic capital market. This emerges from lack of demand from economic conglomerates that obtain financing from financial conglomerates and an incipient universe of institutional investors (derived from small issuers' demand and an inadequate legal and regulatory framework for asset managers). The main investors in issued promissory notes are finance companies and investment funds. The latter are unregulated entities, which may limit their growth as investors can perceive them as risky vehicles. On the pension side, the social security institute (IGSS) i s not authorized to invest in private papers. As for insurance companies, they only buy public domestic debt. 5.32 Given the right framework there could be potential for the development of debt instruments to improve MSMEs access to credit. This would include mortgage- backed securities, debt issuance by large companies, and leasing, factoring and cre&t card companies. The development of capital markets would require: improving the regulatory and supervisory framework for financial conglomerates, the existing exchange, brokers and contractual saving vehicles. 5.33 Reduce informality by improving the cost-benefit decision for unregistered firms. It i s estimated than more than 80 percent of Guatemalan firms are informal and h s affects micro-enterprises more sharply. Informality harms enterprises' access to cre&t by 82 increasing the risk they represent for financial institutions as debtors, having the effect of locking them out of creQt (as financial institutions can decide to avoid riskier segments) or increasing their risk adjusted interest rate. Informal f i r m s face uncertain liabilities (e.g. tax debts) and financial information i s less transparent. Decreasing informality implies tackling both the costs and benefits that firms take into account when deciding if they should become formal or not. In Guatemala, the costs of being formal are high. According to the World Bank`s 2007 DoingBusiness database, the country still has a relatively low ranking in Latin America (23 out of 31 LAC countries) on the Ease of Doing Business. The most problematic areas for doingbusiness are dealing with licenses and starting a business.@ 5.34 Improve the regulatory norms for movable collateral. Guarantees on bank loans are mostly fiduciary. Greater acceptance of movable collateralby financial institutions would help unlock access to credit for enterprises, especially MSMEs. Smaller enterprises, particularly micro-enterprises, have less acceptable collateral than larger companies. While the latter can generally offer real estate as collateral, smaller companies not only have less collateral (as a percentage of loan value) but it consists more commonly on movable collateral. To increase the viability of their credit proposals it is important to have the appropriate legal-regulatory framework for movable collateral and an efficient judicial system to execute it. One positive step was the passage of the law on movable collateral (Ley de GarantiasReal'esMobiLiari6s) to develop other types of collateral and improve the availability of lower cost credit for MSMEsby correcting current deficiencies in the regulatory framework. 5.35 Improve accounting and auditing practices and financial information infrastructure. Currently, there i s insufficient financial information from firms emerging from weaknesses in accounting and auditing practices and incomplete databases of creQt registries and creQt bureaus. Adherence to credit bureaus i s typically voluntary-except for the system of the Superintendence of Banks called the Sistema de Inzma&n de Riesgos Creditici;os,SIRC- and, therefore, information tends to be partial. To increase the availabhty of accurate financial information on debtors it would be convenient, among other things, to provide legal backing to the adoption of international financial standards to increase transparency and count with systematic reporting of more accurate debtors' financials to the Superintendency of Banks. 88Starting a business requires 11procedures and 26 days and costs 47 percent of income per capita. Dealing with licenses i s requires 22 procedures, 235 days and 1142 percent of income per capita. 83 b. II. * . r- oo 0 0 & S o 0 0 * * co co BIBLIOGRAPHY A.C. Nielsen Company (2005), International StandardsOrganization Survey, Vienna, Austria. Artana, Daniel, Sebastian Auguste and Mario Cuevas (2007), Tearing Down the Wall: Growth and Inclusion in Guatemala, Inter-American Development Bank, Washington D.C. Bankof Guatemala(2007), Informationcited inSiglo XXI, June 12, 2007 edition. Bernard, Andrew B. and J. BradfordJensen (1995), "Exporters, Jobs, and Wages in U.S. Manufacturing: 1976-1987", Brookings Papers on Economic Activity. Microeconomics, Vol. 1995: 67-119. Bernard, Andrew B. and J. Bradford Jensen (1999), "Exceptional Exporter Performance: Cause, Effect, or Both?",Journal of InternationalEconomics, Vol. 47: 1-25. Bernard, Andrew B. and J. Bradford Jensen (2004), "Why Some Firms Export", The Review of Economics and Statistics, Vol. 86(2): 561-569. Bosworth, Barry P., and Susan M. Collins (2003), "The Empirics of Growth: An Update", Brookings Papers on Economic Activity, No. 2: 113-179, Brookings Institution, Washington D.C. Clerides, Sofronis K., Saul Lach, andJames R. Tybout (1998), "Is Learning by Exporting Important? Micro-Dynamic Evidence from Colombia, Mexico, andMorocco", The Quarterly Journal of Economics, 113,3: 903-947. Casacuberta, Carlos, Nestor Gandelman, Marcel0 Olarreaga, Guido Porto, and Eliana Rubiano, Chapter 7, 2007. Demirguc-Kunt, Asli, Inessa Love and Vojislav Maximovic (2006), "Business Environment and the Incorporation Decision", Journal of Banking and Finance, Vol. 30- 11:2967-2993. ECODESARROLLO (1997), Medicidn del Impact0 Socioecondmico de las Actividades de Produccidn y Comercializacidn de Productos Agricolas no Tradicionales de Exportacidn 89 Economist Intelligence Unit, Country Report, Country Profile, and Latin American industry:Maquilas Ander stress (August 1, 2007). Jaramillo, Carlos Felipe and Daniel Lederman (2006), Challenges of CAFTA: Maximizing the Benefits for Central America, World Bank, Directions in Development Series: Washington D.C. Kaufmann, Daniel, Aart Kraay, and Massimo Mastruzzi (2007), "Governance Matters VI: Governance Indicators for 1996-2006", World Bank Policy Research Working Paper No. 4280, World Bank, Washington D.C. Loayza, Norman, Pablo Fajnzylber, and CCsar Calderh, Economic Growth in Latin America and the Caribbean, The World Bank, 2005, pages 91-94. Matil, Hugo (2007), Presentation of CAFTA First Year Results, CAFTA Seminar, Guatemala City, July, 2007. Maul, Hugo, Lisardo Bolanos, Jaime Diaz and Javier Calderon (2006), Economia Informal: Superando las Barreras de un Estado Excluyente, Center for National Economic Research, Guatemala City, Guatemala. Mostert, Wolfgang (2007), "Investment Climate Assessment in Guatemala: Power Sector", a background paper. Lopez, J. Humberto, Pablo Fajnzylber and Jose Luis Guasch (2007), Economic Perj5ormancein Latin America and the Caribbean: A Microeconomic Perspective, Report N o 40717-LAC, Finance and Private Sector and Chief Economist's Office, Latin America and the Caribbean Region. Olarreaga, Marcelo, Carlos Casacuberta, Nestor Gandelman, Guido Porto, and Eliana Rubiano (2007), "Exporter premiums," in Economic Pegormance in Latin America and the Caribbean: A Microeconomic Perspective, Report N o 40717-LAC, World Bank, Washington, D.C. Oxford Analytica, (2006), "The recent evaluation o f trade and investment relations between Latin America and China", May 1, 2006 edition. Pronacom, Avances 2005-2006, Agenda Nacional de Competitividad 2005-2015, Guatemala City, 2007. Samayoa, Otto (2007), "Export and Early Effects of DR-CAFTA inGuatemala", a Background Study for the Guatemala Investment Climate Assessment, Guatemala City. World Bank, Guatemala I C A team discussions with Board o f Directors, Invest in Guatemala, July, 2007. 90 IMF(2007), "IMF ExecutiveBoardConcludes2006 Article IVConsultationwith Guatemala". Public InformationNotice (PIN) No. 07/41. InternationalMonetaryFund: Washington,D.C. Pena, Jorge (2008), "Productivity Analysis for the GuatemalaICA", BackgroundPaper. Porter, Michael E., Klaus Schwab, Augusto L6pez-ClarosandXavier Sala-i-MartinEds. (2006), The Global CompetitivenessReport 2006-2007.World EconomicForum: Geneva, Switzerland. Porter, Michael E., Klaus Schwab, Augusto L6pez-ClarosandXavier Sala-i-MartinEds. (2007), The Global CompetitivenessReport 2007-2008.World Economic Forum: Geneva, Switzerland. UnitedNations, Office on Drugs and Crime (2007), Crime and Development in Central America: Caught in the Crossfire,New York, NY. World Bank (2004a), World Development Report 2005: A Better Investment Climatefor Everyone. New York: OxfordUniversityPress. World Bank (2004b), GuatemalaInvestment ClimateAssessment: Evidencefrom the Manufacturing Sector, Finance, PrivateSector and InfrastructureDepartment,Latin America and CaribbeanRegion. World Bank (2004c), Guatemala Country Economic Memorandum, Washington, D.C. World Bank (2006), Doing Business 2007: How to Reform. World Bank:Washington, D.C. World Bank (2007), Doing Business 2008. World Bank:Washington,D.C. World Bank (2007), Guatemala Country Report inDoingBusiness2008, World Bank: Washington, D.C. Available online at www.doing.business.org World Bank (2006,2007 and 2008), WorldDevelopment Indicators,Washington, D.C. World Bank (2008), CentralAmerica InvestmentClimateAssessment, WashingtonD.C. World Bank (2008a),GuatemalaInvestmentClimate Assessment: BackgroundNoteson Productivity,WashingtonD.C. 91