 ECUADOR'S
ECONOMY |
Ecuador is a country of 12.87 million inhabitants
located on the equator in South America. The economy
generated an estimated gross domestic product
(GDP) of $13.6 billion in 2000 and provides formal
sector jobs for about 2.9 million people. With
271,000 square kilometers, Ecuador is the size
of the state of Colorado and contains dramatic
geographical and biological diversity with rich
economic potential. The country consists of four
distinct regions: the tropical lowlands of the
Pacific coast, the mountains and valleys of the
Andean Sierra, the Amazon rain forest of the Oriente,
and the Galapagos Islands.
Petroleum production continues to be the mainstay
of the Ecuadorian economy. The largely state-operated
oil sector accounts for about 45% of public sector
revenue and 50% of export earnings. Oil production
is expected to further increase following the
recent conclusion of a deal, after years of delays,
to build the new Transandean Heavy Oil Pipeline
(OCP, in Spanish) to transport Ecuador's crude
to market. The project will generate 56,000 new
jobs, inward investment of $3.5 billion (including
direct project investment of over $1 billion),
and as much as $730 million in annual royalties
and tax payments. The pipeline becomes operational
during the fall of 2003.
However, the public sector continues to be inefficient
and suffers from endemic corruption. The Government
has begun efforts to attract investors for various
joint venture projects in the electricity sector,
although initial interest from investors has been
modest. The petroleum and telecommunications sectors
would also benefit from increased private participation.
The Government has made some efforts to reform
and streamline Ecuador's outdated tax system,
and has indicated that it will pursue further
tax reform in the second half of 2001. The dysfunctional
judicial, public pension and education systems
remain in desperate need of reform.
Ecuador announced its intention to adopt the
dollar as its official currency at the start of
2000. The sucre and the dollar were permitted
to circulate simultaneously for a period of one
year. The official conversion rate was fixed at
25,000 sucres to the dollar during the transition
period. Despite minor glitches, such as an initial
lack of small change and low-denomination bills,
the process proceeded remarkably smoothly. By
the beginning of 2001, over 98% of transactions
were being conducted in dollars and familiarity
with the new currency was widespread throughout
the country.
Dollarization has led to a marked deceleration
in inflation. Inflation fell from an annual rate
of 96.1% in 2000, to a projected annual rate of
46.6% in April 2001. Preliminary monthly inflation
in May was just 0.2%, indicating that the rate
of inflation will likely continue to fall throughout
2001.
Ecuador has liberalized its trade regime since
1990, resulting in a reduction of tariffs and
tariff dispersion, elimination of most non-tariff
surcharges, and enactment of an in-bond processing
industry law. It is relatively open to U.S. exports
and direct investment.
When Ecuador joined the WTO in January of 1996,
the country set most of its tariff rates at 30
percent or less. Ecuador's average applied tariff
rate is about 13 percent ad valorem. The Andean
Community common external tariff (CET) has a four-tiered
structure with levels of 5 percent for most raw
materials and capital goods, 10 or 15 percent
for intermediate goods, and 20 percent for most
consumer goods.
Ecuador's tariff schedule is based on the Harmonized
System of Nomenclature. Consistent with the Andean
Common External Tariff (CET), the tariff range
is 0-20 percent; the highest duty, 35 percent,
is levied on automobile imports to protect the
local assembly industry. Most consumer goods imports
pay 20 percent, while intermediate goods are usually
imported at 10 or 15 percent rates. Raw materials
and capital goods generally pay 0 or 5 percent.
Ecuador has negotiated exceptions under the Andean
common tariff that allow for lower duties for
certain capital goods and industrial inputs.
Ecuador has been slow to embrace the market-oriented
reforms that have taken place elsewhere in Latin
America. In early 2000, a new law was passed which
included important elements to allow for privatization/modernization
in the electrical, port, and telecommunications
sectors. Sale of the Government's electrical utilities
is planned by the fall of 2001, with the sale
of the generation and transmission facilities
in early 2002. Ecuador's potential USD 2 billion
telecommunications market for all services will
be open to free competition by January 2002. A
new USD 1.1 billion oil pipeline will begin construction
in the fall of 2001. As a result, oil producers
plan to invest additional USD 2.5 billion in new
exploration projects.
Although the Ecuadorian Government publicly welcomes
foreign investment, the economy remains one of
the most statist and protected in Latin America.
There are restrictions or limitations on private
investment in many sectors that apply equally
to domestic and foreign investors. As a member
of the Andean Pact, Ecuador's foreign investment
policy is nominally governed by Decisions 291
and 292 of 1991. Implementing regulations issued
in January 1993 and a 1997 law to promote foreign
investment represent the first efforts to liberalize
the investment regime. Additional legislation
to facilitate private sector investment in the
telecommunications and mining sectors was passed
in 2000.
Under current regulations, foreign investors
receive the same rights of entry as Ecuadorian
private investors. Foreign investment with up
to 100% foreign equity is allowed without prior
authorization or screening in most sectors of
the Ecuadorian economy currently open to domestic
private investment. Remittances of 100% of profits
and capital are permitted. Foreign investors must
register their investments with the Central Bank
for statistical purposes.
There is no legal discrimination against foreign
investors at the time their investments are made.
Limitations on foreign equity in the financial
sector, prior authorization for foreign companies
investing in public services, and discriminatory
tax treatment for foreign investors no longer
exist. Foreign investors may participate in government-financed
research programs. Visa and residence requirements
do not inhibit foreign investment. Cumbersome
labor laws which apply equally to domestic and
foreign investors discourage investment through
mergers, acquisitions, or takeovers.
Although the scope for private sector participation
has been expanded in recent years, foreign investors,
and often domestic investors as well, still operate
with limitations in certain sectors of the economy.
Foreign and domestic private entities can own
business enterprises and engage in almost all
forms of business activity. Private entities can
compete freely with the public sector in most
areas, although in some cases the Government has
clearly favored state-owned enterprises in awarding
its business. In theory, foreign and private firms
enjoy equal access in bidding for purchase of
state-owned firms or long-term concession contracts.
For the most part, Ecuadorian law provides adequate
protection for property rights. However, it is
sometimes difficult to gain effective protection
via the legal system due to problems in transparency
and endemic corruption.
The U.S. - Ecuadorian Bilateral Investment Treaty
provides for national treatment, unrestricted
remittances and transfers, prompt, adequate and
effective compensation for expropriation, and
binding international arbitration of disputes.
However, the Government of Ecuador does not always
honor its obligations with respect to the Treaty.
Foreign investment in Ecuador remains concentrated
in the oil sector. The completion of the Transandean
Heavy Oil Pipeline this spring will reinforce
this trend. This massive construction project
carried out by a consortium of five foreign oil
producers will result in inward investment of
$3.5 billion, including direct project investment
of $1 billion. Foreign direct investment (FDI)
outside the oil sector remains modest and is focused
on financial services, food processing, the chemical
and pharmaceutical industries, and machinery and
vehicle manufacturing. Overall FDI inflows totaled
$720 million (5% of GDP) in 2000. Ecuador needs
to attract more FDI to offset the balance of payment
impact of debt service payments and promote economic
growth.
2. ECONOMIC TRENDS
A. MAJOR TENDENCIES
Until the 1970s, Ecuador was an agrarian country
dependent on commodity exports, such as cacao
and bananas. Starting in 1972, oil development
in the Amazon basin fueled a decade of rapid growth,
averaging 9% annually, that financed expanded
public services, state enterprises, infrastructure,
and import-substitution manufacturing. When oil
prices fell during the early 1980s, Ecuador failed
to reduce inefficient state involvement in the
economy. Consequently, the 1980s were a decade
of stagnation under the burdens of debt and inflation.
During the 1990s, Ecuador made some market-oriented
structural reforms, but incomplete implementation
failed to create sustainable growth. Falling oil
prices, the El Nino weather phenomenon and the
international financial crisis further exacerbated
Ecuador's economic woes in the 1990s.
Ecuador is the world's largest exporter of bananas
($821 million). The country is also a major exporter
of shrimp ($285 million). Exports of non-traditional
products such as roses ($194 million) and tuna
($72 million) have grown in recent years. Ecuador's
farmers also produce a variety of domestic consumption
crops. Ecuador's protected industrial sector is
largely oriented to producing for the domestic
market. The services sector provides some modern
infrastructure. Tourism plays an increasingly
important role in the Ecuadorian economy and is
now the third-largest source of foreign exchange
(after petroleum and repatriated capital from
emigrants). Tourism to Ecuador in 2000 increased
27%, with 637,000 visitors spending more than
$400 million.
The public sector continues to be inefficient
and suffers from endemic corruption. The Government
has begun efforts to liberalise the electricity
sector, although initial interest from investors
has been modest. The petroleum and telecommunications
sectors would also benefit from increased private
participation, and the government has adopted
a shared management approach in order to lure
foreign investment without having to privatise
their state-owned corporations. This is also done
in order to comply with the recent International
Monetary Fund (IMF) agreement signed in January
2003. The Government has also made some efforts
to reform and streamline Ecuador's outdated tax
system, and has indicated that it will pursue
further tax reform. The dysfunctional judicial,
public pension and education systems remain in
desperate need of reform.
The country's economic outlook has stabilized.
After falling 7.3% in 1999, GDP grew steadily
the country has experienced growth of 5% in 2002,
followed by estimated figures of 2.3% growth in
2003 and another 5% growth in 2004. However, serious
economic problems remain. Poverty has more than
doubled in the last five years. According to UNICEF,
70% of the population lived in poverty in 2000,
up from 32% in 1995. The financial sector remains
weak, and public confidence in Ecuadorian banks
is extremely fragile.
Fiscal Policy
Dollarization has imposed a fiscal discipline
not previously in evidence in Ecuador. The 2001
budget submitted by the Administration and approved
by Congress was unrealistic and did not take into
account the phase-out of the controversial financial
transactions tax and customs surcharges imposed
during the crisis in 1999. Faced with an unfinanced
deficit, the Noboa Administration raised fuel
prices and lowered subsidies on domestic cooking
gas at the start of 2001. In May 2001, the Government
raised the value-added tax from 12% to 14% (from
June 1, 2001). Under the new government of President
Gutierrez, further fiscal reforms are planned
to further streamline Ecuador's cumbersome tax
system, reduce fiscal earmarking to allow the
Government to better target spending, and improve
efficiency at Ecuador's notoriously corrupt Customs
Service. It is hoped that these measures, if implemented,
will lead to medium-term fiscal stability.
Monetary and Exchange Policy
Ecuador announced its intention to adopt the
dollar as its official currency at the start of
2000. The sucre and the dollar were permitted
to circulate simultaneously for a period of one
year. The official conversion rate was fixed at
25,000 sucres to the dollar during the transition
period. Despite minor glitches, such as an initial
lack of small change and low-denomination bills,
the process proceeded remarkably smoothly. By
the beginning of 2001, over 98% of transactions
were being conducted in dollars and familiarity
with the new currency was widespread throughout
the country.
Dollarization has led to a marked deceleration
in inflation. Inflation fell from an annual rate
of 96.1% in 2000 to a projected annual rate of
46.6% in April 2001. Preliminary monthly inflation
in May was just 0.2%, indicating that the rate
of inflation will likely continue to fall throughout
2001.
Relations with International Financial Institutions
In January 2003, the Gutierrez Government concluded
agreement with the International Monetary Fund
(IMF) for a one-year $240 million stand-by arrangement.
The program is going ahead even though the timetable
for reforms is constantly being postponed by the
government. Agreements have also been reached
with the Paris Club, ensuring a stable international
financial loan program as long as Ecuador's government
manages to keep its promises to reform the banking
sector, customs union, and liberalise the telecom
and energy sector.
B. Principal Growth Sectors
Petroleum
Under the constitution, all subsurface resources
are the property of the state. Petroleum is the
basis for Ecuador's external economy, accounting
for 19.6% of GDP. Exports of 86 million barrels
of crude and 15.8 million barrels of refined products
earned $2.4 billion, up from $1.47 billion in
1999. The price of Ecuadorian crude averaged $24.87
per barrel in 2000, up sharply from the $15.50
per barrel average in 1999. The average price
for Ecuadorian crude in the first quarter of 2001
was $19.47 per barrel. Although the Government
technically allows for free retail pricing of
gasoline, wholesale margin controls effectively
set the pump price.
The majority of crude production comes from fields
in the Amazon basin originally developed by Texaco
and now operated by Petroecuador, the state oil
company. Remaining proven reserves are 4.1 billion
barrels, according to Petroecuador. Private oil
companies (e.g. Occidental, Oryx, YPF Ecuador)
operating under service and participation contracts
have brought new fields on line. The construction
of the new oil pipeline is expected to be launched
in the spring of 2003, which should spur further
research, development and production.
Oil producers in the Oriente had previously relied
on the only intra-national pipeline, the Trans-Ecuadorian
Oil Pipeline (SOTE, in Spanish), with a nominal
capacity of 325,000 barrels per day to move crude
to the oil terminal at the port of Esmeraldas.
Due to the capacity limits of the pipeline, the
volume of crude extraction by private contractors
is being rationed. The OCP (Heavy Oil Pipeline,
or Oleoducto de Crudos Pesados in Spanish) is
expected to more than double transit capacity.
Since Ecuador's oil concessions are largely located
in the ecologically fragile Amazon rain forest,
developments in the sector are of keen interest
to the international environmental community.
The Government has incorporated environmental
criteria and requirements into the licensing process.
The new oil pipeline has also attracted attention
due to ecological concerns with the proposed transit
route.
Mining
Ecuador has extensive, but underdeveloped, mining
potential. According to a British Geological Survey
completed in 2000, Ecuador is estimated to have
24.6 million ounces of gold, 56.4 million ounces
of silver, and 680 million pounds of copper/molybdenum.
The country also has significant quantities of
nonmetallic minerals such as cement, marble, clay,
and silica. These reserves are attracting international
interest -- four well-known foreign mining firms
have been granted large concessions in Ecuador
over the past year.
In August 2000, the Government adopted a new
mining law. The accompanying regulations were
published in April 2001. The aim of the new law
and regulations is to spur investment into the
sector by enhancing legal protection for mining
investors, eliminating royalties and addressing
environmental concerns.
Under the new law, investors can acquire mineral
rights for exploration and investment for an initial
period of thirty years, indefinitely renewable,
instead of having to acquire multiple rights for
exploration and exploitation. Once the rights
have been granted, the Government can only cancel
them for lack of payment of the required licensing
fees, known as "conservation patents."
The patents are no longer based on the type of
material mined, but instead on the size of the
concession area and the number of years in the
exploration and/or exploitation process. The fees
are $1/hectare during years 1-3; $2/hectare during
years 4-6; $4/hectare during years 7-9; $8/hectare
during years 10-12, with a maximum fee of $16/hectare
from year 13 on. Concessions are limited to 5,000
hectares, but there is no limit on concessions
that can be held by individuals or companies.
Concession areas can be modified. As areas of
exploitation are defined and established during
exploration, the concession can be condensed,
and consequently licensing fees reduced.
Concessions are now "transmittable"
and "transferable." Ecuador defines
"transmittable" as capable of being
passed to heirs, and "transferable"
as capable of being rented, leased, or sold. The
new law eliminates the requirement that mining
take place only in areas designated as special
mining zones, opening up several areas that were
previously off-limits.
The application process for mineral rights concessions
is also clarified in the new regulations. Once
an application is completed, the Ministry of Energy
and Mines has 15 business days to approve or reject
the application. Existing concessions and available
areas can be found on the Ministry's Web page
at www.mineriaecuador.com. The new regulations
will eventually be posted on the Web page, too.
The new regulations define the Undersecretariat
of Environmental Protection in the Ministry of
Energy and Mines as the controlling environmental
authority for mining activities. This eliminates
the previous requirement to obtain environmental
clearances from up to 11 municipal, regional and
national environmental bureaucracies.
The new Law of Mining also eliminates royalty
payments. However, mining interests are still
liable for all other taxes, including business,
income, and value-added taxes.
Electricity
Ecuador has begun efforts to liberalise its mostly
state-owned electricity sector. Management contracts
and various small energy generation projects are
up for tender, and the government is eager to
lower the price of electricity, which is one of
the highest in Latin America. Recently the Mazar
project was awarded to the main hydroelectricity
company of Ecuador, Hidropaute, and another major
hydro project is also in the works, called the
San Francisco Project, thanks to Brazilian financing
and participation of companies like Hidroagoyan
(Ecuador) and Odebrecht (Brazil).
Although some progress has been made in reforming
the sector, major obstacles remain. The ownership
structure of distributorships, which belong to
various branches of the government (including
provincial and municipal entities), complicates
efforts to attract private investment. Additionally,
under state control the Government has historically
repressed electricity tariffs, forcing distributors
to operate at a loss. In turn, this has hampered
efforts to expand supply. To address this problem,
the Government initiated monthly price hikes which
it hopes to bring prices up by 10% in 2003. With
inflation finally starting to decelerate sharply,
these monthly increased are starting to make significant
headway in bringing tariffs closer to the break-even
point and increasing the attractiveness of the
sector for private investors.
Telecommunications
A new law liberalizing the telecommunications
market was adopted in March 2000. It was approved
by CONATEL (the National Council of Telecommunications)
in September 2000. Regulatory efforts are underway
to clarify remaining areas of legal uncertainty
to facilitate liberalization.
The Government has auctioned a new mobile phone
license in 2003, which was won by a consortium
of Pacifictel and Andinatel (the two state-owned
telcos). A public auction was then launched and
won by Ericsson in order to build up the cellular
network in preparation for its launch in the winter
of 2004. At present, two competitors exist in
the cellular market: Porta (owned by the Mexican
group America Móvil) and BellSouth.
C. GOVERNMENT ROLE IN THE ECONOMY
The state has long played a significant role
in the economy, characterized by bureaucratic
regulation, unproductive subsidies, and state
ownership of "strategic" economic assets.
Federal budget expenditure accounts for 22% of
GDP. Ecuador's armed forces are major economic
players and run a large commercial empire that
includes interests in aviation, agriculture, banking,
transportation, shrimp, and flowers, among other
areas. The DINE Holding is the main military corporation
of Ecuador, while TAME (the national aircraft
carrier) and FLOPEC (the national petroleum transporter)
remain under military ownership.
The government has also found itself managing
a large part of Ecuador's financial sector, following
state intervention to prevent a systemic banking
collapse in late 1999. While some state-intervened
financial institutions have been closed, none
have been sold and many remain in government hands.
Structural Reform and Privatization
Ecuador has been slow to embrace the market-oriented
reforms that have taken place elsewhere in Latin
America. Fundamental structural changes needed
to attract investment and spur growth have not
been implemented despite new laws allowing greater
private participation in the economy. There have
been no serious proposals to privatize the large
complex of companies owned by the military. Efforts
to allow private pension funds have met stiff
opposition from the bankrupt Social Security Institute
and other groups.
Efforts to reduce the state's role in the economy
are just beginning. In early 2000, legislation
was passed to permit a broader role for private
investors in the electricity, telecommunications
and petroleum sectors.
Industrial Policy
The Ecuadorian government has largely abandoned
formal industrial promotion policies characterized
by tax breaks and subsidized credits. However,
businesses do benefit from very generous government
policies permitting debt restructuring over repayment
or bankruptcy. Tax evasion by Ecuadorian business
is also widespread. Some tax incentives in the
fishing industry and for agricultural industrial
investment still exist. Free trade zones and "maquila"
procedures allowing companies to import goods
duty-free for processing and re-export exist,
but are not widely used.
D. BALANCE OF PAYMENTS SITUATION
Trade and Current Account
According to Central Bank balance of payments
data, Ecuador had a current account surplus of
$1.6 billion or 11.7% of GDP in 2000. Ecuadorian
exports in 2000 were $4.8 billion, up 10% from
1999. The increase was largely due to higher prices
for oil, Ecuador's largest export. Imports for
the same period were $3.2 billion, up 15% from
2000, reflecting a recovery in demand after the
economic collapse of 1999.
The United States maintained its position as
both the primary market for Ecuadorian exports
and the key supplier of Ecuador's import needs
in 2000. The United States purchased $1.8 billion
in Ecuadorian exports in 2000, or 38% of the total.
The United States provides markets for Ecuador's
crude oil exports, shrimp, bananas, coffee, and
cut flowers. Other major Ecuadorian exports to
the United States include fish, cocoa, sugar,
plywood, and gold.
Ecuador's eight largest non-U.S. suppliers are
Colombia, Japan, Venezuela, Chile, Germany, Mexico,
Argentina, and Brazil, which together enjoy a
45% share of the Ecuadorian import market. Ecuador
has free trade agreements with Colombia, Venezuela,
and Chile, obtaining 26% of its imports from those
countries in 2000, up from 23% in 1999. In January
1995, Ecuador instituted a common external tariff
system with Colombia and Venezuela. Ecuador joined
the World Trade Organization (WTO) in January
1996, but has yet to meet a number of its accession
commitments.
Capital Account and Foreign Reserves
Ecuador posted a capital account deficit of $1
billion in 2000. Capital flight and undocumented
imports, recorded as "other capital outflows",
totaled $1.8 billion, a small improvement over
last year's level of $1.9 billion. Direct investment
in 2000 was $708 million, up 11% over the previous
year. Direct investment in 2001/2002 is expected
to rise sharply with the construction of the new
oil pipeline. Theoretically, dollarization and
decelerating inflation should mitigate capital
flight and help bring the capital account back
to a surplus. However, in the short term capital
flight will likely remain high due continued economic
and political uncertainty, the difficult investment
climate, and a fragile banking system.
External Debt
The stock of public external debt was $13.37
billion at the end of 2000. External debt in 2000
was approximately 80% of GDP, a sharp improvement
over the previous year when the debt-to-GDP ratio
was 100%, due to the dramatic depreciation of
the sucre prior to dollarization. Private external
debt at the end of 2000 was $2.59 billion. Although
Ecuador concluded negotiations in September 2000
with the Paris Club of official creditors for
a one-year rescheduling of $880 million in debt
and arrears, the agreement could not enter into
force until the completion of the IMF's second
review under the Ecuador standby program. Successful
completion of the second review in May 2001 clears
the way for the entry into force of the 2000 Paris
Club, which should provide some interim debt relief
E. INFRASTRUCTURE
Transportation
The two international airports in Quito and Guayaquil
are serviced by several major carriers, including
American and Continental, and several U.S. air cargo
companies. Ecuador's TAME airline (owned and operated
by the Ecuadorian military) provides connections
within the country and abroad. A concession to build
a new airport in Quito has been granted to Quiport,
a Canadian investment corporation, who is planning
its construction in a new site outside the city
centre together with CORPAQ, the municipal airport
corporation. Meanwhile the Guayaquil airport is
undergoing a refurbishment which should modernise
its international terminal |
The containerized port of Guayaquil handles most
of the country's imports and exports. The port
is fully utilized, with ship turnaround times
typically taking five days. The main oil terminal
is located at Esmeraldas on the north coast. On
the central coast, Manta handles much of Ecuador's
cocoa and coffee exports as well as almost all
tuna exports. Machala's Puerto Bolivar on the
south coast is the major banana port. Municipal
and provincial authorities in Manta have announced
ambitious plans to expand Manta's port. While
an expansion of capacity would be welcome, the
most urgent need is for a modernization and rationalization
of Ecuador's notoriously corrupt and inefficient
customs service.
Ecuador has an extensive system of all-weather
roads linking populated parts of the countries.
While there are projects for expanding the road
system in sparsely populated regions, repairing
existing roads damaged by regularly occurring
floods and mudslides, as well as maintenance and
widening of other roadways, is deemed to be of
greater urgency. Subsidized urban, intercity,
and rural bus service is available throughout
the country. Trucking companies move almost all
in-country freight. Goods must be moved by national
carriers when crossing the border with other members
of the Andean Pact. The railroad system has been
largely inoperative for the past decade, following
damage by a major earthquake.
Telecommunications
While telecommunications has improved over the
last few years, basic telephone service is still
poor. State-owned Andinatel and Pacifictel provide
basic telephone services, while two private companies
(Bellsouth and Porta) provide cellular telephone
services. Call-back and bypass services are illegal.
Domestic and international dialing is available,
although the completion rate is poor. Domestic
telephone rates are still subsidized by international
calling rates. Satellite and value-added services
provided by the private sector include trunking,
paging, Internet, and data transmission services.
Electric Power
Ecuador has an installed electricity generating
capacity of 3,000 megawatts (MW), with an effective
capacity of 2,2210 MW after transmission, plus
300 MW in new thermal capacity installed by the
private sector in 1996. Hydroelectric power plants,
including the 1,075 MW Paute hydro plant, account
for over half of installed capacity and supply
three-quarters of the country's current needs.
Supplemental thermal power is often required during
the dry season to avoid brownouts if rainfall
is insufficient. Although a number of new thermoelectric
plants have been opened, there is still an estimated
power deficit of 120-150 MW.
Long suppressed electricity rates are finally
being raised to encourage badly needed new investment
into the sector. There has been a reduction in
the cross-subsidization of low volume residential
electricity users with higher commercial rates.
Currently one private firm, EMELEC, provides distribution
and generating services in Guayaquil. Several
private companies operate thermal plants.
There is currently no natural gas market in Ecuador,
although that could change once gas fields in
the Gulf of Guayaquil and the Oriente are developed.
Highly-subsidized liquefied petroleum gas (LPG)
is the most common cooking fuel and large quantities
are imported to meet demand.
Water and Irrigation
Ecuador's surface and subsurface water resources
are administered by the National Council of Hydro
Resources. Urban water supplies are provided by
municipally owned water utilities, while the Ministry
of Urban Development and Housing provides technical
assistance to rural municipalities and water boards.
Several large-scale, highly-subsidized flood control
and irrigation schemes are run by regional bodies.
Access remains a problem. As of 1999, only 40%
of Ecuadorian households had access to running
water, and only 44% are connected to sewage systems.
Municipalities are beginning to turn to private
sector concessions to expand water and sewage
availability. In early 2001, a $500 million twenty-year
contract was awarded to Bechtel (operating locally
under the name of InterAgua) to provide potable
water and sewage services in Guayaquil.
3. POLITICAL ENVIRONMENT
MAJOR POLITICAL ISSUES AFFECTING BUSINESS
CLIMATE
Following a major financial crisis in 1999, Ecuador
is overcoming its worst economic crisis in 70
years. Factors contributing to its recovery include,
among other things, Ecuador's recent dollarization
that has resulted in falling inflation and an
increase in GDP, although inflation is still relatively
high and wages low. The rising price of oil has
additionally contributed to the rise in GDP, and
the construction of a pipeline near the Colombian
border, to begin in August, promises an influx
of revenue, serving to stabilize the economy and
encourage foreign investment. These improving
economic conditions, along with the implementation
by the Ecuadorian government of an increased VAT,
from 12 to 14 percent, have furthermore enabled
a significant reduction in the country's foreign
debt. The government's efforts to maintain macroeconomic
stability, decrease the extent to which it provides
social services, which it has done, and modernize
the state bureaucracy, which it is endeavoring
to do, are the major internal political issues
affecting thc Ecuadorian business climate. The
successful resolution of the border dispute with
Peru greatly lessened Ecuador's external threat,
but the dangers posed by narco-guerrillas and
paramilitary groups on its northern border with
Colombia remain and have intensified since the
U.S. approved Plan Colombia.
Despite the economic reforms of this past year,
Ecuador's economy remains under pressure. Capital
flight is no longer a serious concern given the
growing economy and increasing foreign investment,
and neither is devaluation since dollarization;
however, interest rates are still high, Ecuador's
inflation is among the steepest in Latin America,
and the poverty level is close to 70%.
Many Ecuadorians who have suffered from the cuts
in internal spending still fail to understand
why the country cannot afford to continue massive
subsidies and increase salaries in the current
climate. They believe renegotiating debts and
paying creditors should be a secondary interest.
Public sector unions and some political parties
vigorously oppose reform of state companies, while
indigenous peasants fear that free market agrarian
policies threaten their economic and cultural
survival. Political protests against reform are
a staple of Ecuadorian life. Increased political
involvement by indigenous leaders led to their
widespread victories and a coalition with President
Gutierrez in the government. For the first time,
Ministers in government were members of the indigenous
"Pachakutik" party. Yet the coalition
became split as the Gutierrez government grew
to adopt a free-market stance, and the Pachakutik
has retired from the government in opposition
to the stringent economic measures prescribed
by the IMF and followed by the Gutierrez government.
Over the longer run, only sustained economic
growth can convince average Ecuadorians that their
living standard will improve from economic reform.
That, in turn, is needed to prevent a shift back
to state intervention in the economy that could
worsen the business climate.
4. TRADE REGULATIONS, CUSTOMS AND STANDARDS
MEMBERSHIP IN FREE TRADE ARRANGEMENTS
Ecuador is a member of the Andean Community,
the ALADI (Latin American Integration Association)
and the WTO. In addition, Ecuador has concluded
bilateral free trade agreements with Colombia,
Bolivia, Venezuela and Chile.
The Ecuadorian government is negotiating a trade
agreement with Mexico and has expressed interest
in joining a Mexico-Colombia-Venezuela or "G-3"
trade agreement. Ecuador is also engaged in trade
negotiations with Mercosur (Brazil, Argentina,
Paraguay, and Uruguay) and participates in the
Free Trade Area of the Americas (FTAA) working
groups.
5. INVESTMENT CLIMATE
OPENNESS TO FOREIGN INVESTMENT
Although the Ecuadorian Government publicly welcomes
foreign investment, the economy remains one of
the most statist and protected in Latin America.
There are restrictions or limitations on private
investment in many sectors that apply equally
to domestic and foreign investors. As a member
of the Andean Pact, Ecuador's foreign investment
policy is nominally governed by Decisions 291
and 292 of 1991. Implementing regulations issued
in January 1993 and a 1997 law to promote foreign
investment represent the first efforts to liberalize
the investment regime. Additional legislation
to facilitate private sector investment in the
telecommunications and mining sectors was passed
in 2000.
Under current regulations, foreign investors
receive the same rights of entry as Ecuadorian
private investors. Foreign investment with up
to 100% foreign equity is allowed without prior
authorization or screening in most sectors of
the Ecuadorian economy currently open to domestic
private investment. Remittances of 100% of profits
and capital are permitted. Foreign investors must
register their investments with the Central Bank
for statistical purposes.
Prior authorization is required for license and
franchise transactions. No limits exist on the
amount of royalties that may be remitted. All
license and franchise agreements must be registered
with the Ministry of Industries and Commerce.
In September 1997, the Ecuadorian Congress repealed
the law for the protection of representatives,
agents and dealers of foreign enterprises, which
imposed discriminatory restrictions on foreign
companies in their dealings with their Ecuadorian
agents. However, dealers whose relationships predated
the repeal may continue to take action under the
law. As a result, several foreign firms continue
to be harassed by lawsuits filed by former representatives.
There is no legal discrimination against foreign
investors at the time their investments are made.
Limitations on foreign equity in the financial
sector, prior authorization for foreign companies
investing in public services, and discriminatory
tax treatment for foreign investors no longer
exist. Foreign investors may participate in government-financed
research programs. Visa and residence requirements
do not inhibit foreign investment. Cumbersome
labor laws which apply equally to domestic and
foreign investors discourage investment through
mergers, acquisitions, or takeovers.
CORRUPTION
Corruption is considered to be endemic and widespread
in Ecuador. Transparency International ranked
Ecuador last among countries it surveyed in the
region in its 2000 Corruption Perceptions Index.
The ranking conveys the views of international
investors operating in the country.
Ecuador has laws and regulations to combat official
corruption, but they are rarely enforced. Illicit
payments for official favors and theft of public
funds take place frequently. Dispute settlement
procedures are complicated by the lack of transparency
in the judicial system and the openness of many
judges to bribery. Local authorities often demand
"gratuities" for issuing necessary permits.
Offering or accepting bribes is against Ecuadorian
law and is punishable by imprisonment for up to
five years. Bribes to a foreign official cannot
be deducted from Ecuadorian taxes. The Controller
General of the Nation is responsible for the oversight
of public funds and there are frequent investigations
and occasional prosecutions for small-scale irregularities.
Autonomous agencies are subject to little effective
oversight. Government officials and candidates
for office often make an issue of corruption.
Politically-motivated corruption scandals are
a feature of Ecuadorian political life. High-profile
cases have rarely led to convictions.
LABOR
Ecuador's population was 12.6 million in 2000.
About 38% of the urban population works in the
informal sector. Approximately 25% of the total
population are members of rural indigenous communities.
In 1999, the literacy rate in Spanish was 89%.
Workers with artisan skills are relatively abundant
at low wages, although widespread emigration over
the past few years has led to shortages of skilled
workers in some parts of the country. Minimum
compensation levels are set by the Ministry of
Labor according to the job and industry and can
be adjusted by Congress. The minimum compensation
package was about $121 a month in mid-2001.
A weak public university system produces a surplus
of semi-qualified graduates in the professions.
Trained financial professionals and engineers
can be difficult to attract and many graduates
require additional training to reach international
standards. There are not many high technology
investments in Ecuador, although a few foreign
firms are conducting agricultural research here.
Little post-graduate education exists in Ecuador,
and scientists and medical professionals are nearly
all foreign-trained. Upper-level Ecuadorian managers
have frequently been educated abroad, most often
in the United States. Private sector professional
salaries have been rising in dollar terms in recent
years, while government employees have seen their
pay severely eroded by inflation.
Cumbersome labor regulations apply equally to
both foreign and domestic firms and tend to inhibit
investment. Legal changes to modernize the country's
Labor Code were passed by Congress in 2000 as
part of omnibus economic reform legislation. However,
the Constitutional Tribunal declared virtually
all of the changes unconstitutional. Since then,
efforts to reform Ecuador's antiquated labor laws
have stalled.
The Labor Code provides for a 40-hour work week,
15 calendar days of annual paid vacation, restrictions
on child labor, general protection of worker health
and safety, minimum wages and bonuses, maternity
leave, and employer-provided benefits. Companies
must distribute at least 15% of pre-tax profits
to their employees. Some employers rely on short-term
contracts since job tenure rules make it difficult
to lay off permanent workers.
Labor-management relations are generally adequate.
Most workers in the private and parastatal sectors
enjoy the constitutional right to form trade unions
and local law allows for unionization of any company
with more than 30 employees. Less than 10% of
the urban work force, mostly skilled workers in
medium- to large-sized enterprises or state industries,
is officially organized. Private employers are
required to engage in collective bargaining with
recognized unions. The Labor Code provides for
resolution of conflicts through a tripartite arbitration
and conciliation board process. The Code also
prohibits discrimination against unions and requires
that employers provide space for union activities.
Except for public servants and workers in some
parastatals, workers by law have the right to
strike. Legally striking employees are entitled
to full pay and benefits and may occupy the premises
under police protection, although there are restrictions
on solidarity strikes. Most public sector employees
are technically prevented from joining unions,
but most are members of a labor organization and
most labor actions are in fact illegal strikes
by public employees. Although trade union political
influence has declined in recent years, the Unified
Workers Front (FUT) and other labor groups occasionally
attempt to stage national strikes to protest the
modernization process and economic reform measures.
Labor organizations help mobilize street protests
that contributed to the removal of President Bucaram
from office by Congress in February 1997. More
recently, transportation strikes organized to
protest fuel price increases in early 2001 were
very effective in extracting government concessions.
EFFICIENCY OF CAPITAL MARKETS AND PORTFOLIO
INVESTMENT
The 1993 Capital Markets Law set up a modern
regulatory structure, opened stock market trading
to banks and other firms, and encouraged the development
of mutual funds. However, Ecuadorian capital markets
remain underdeveloped. Most large industrial groups
are privately held, and are financed largely through
debt. The bulk of activity on the country's two
small stock exchanges currently involves trading
in short-term commercial paper, bank obligations,
and government debt. Regional rivalries complicate
efforts to develop a truly efficient capital market
in Ecuador's small market.
Most stock trades involve shares in a handful
of banks and companies. Public offerings by major
Ecuadorian firms and the development of private
pension funds could help to deepen the market.
Bank credit on market terms is available, although
Ecuador's financial institutions are still recovering
from a systemic collapse triggered in large part
by massive insider lending. Foreign investors
are able to borrow competitively on the local
market in dollars, although higher lending spreads
tend to make such financing unattractive in a
dollarized market. The private sector has access
primarily to short-term bank credit. Most of Ecuador's
blue-chip firms maintain external credit lines
or other forms of foreign financing.
International accounting firms audit the books
of most major companies in Ecuador, including
large state-owned entities, under standards established
by the Superintendency of Companies.
CONVERSION AND TRANSFER POLICIES
In January 2000, Ecuador announced its intention
to adopt the dollar as its official currency.
The sucre and dollar were permitted to circulate
freely for a period of one year. The official
conversion rate was fixed at 25,000 sucres to
the dollar during the transition period. Despite
minor glitches, such as an initial lack of small
change and low-denomination bills, the process
proceeded remarkably smoothly. As of mid-2001,
all transactions were being conducted in dollars
and familiarity with the new currency was widespread
throughout the country.
Foreign investors may remit 100% of net profits
without restriction. Investors may also repatriate
the proceeds from liquidation of their investments
freely. There are no current limitations on outflows
of funds for debt service, capital gains, returns
on intellectual property, or imported inputs.
Ecuadorians may also export capital, and there
are substantial Ecuadorian financial holdings
in the United States and other offshore banking
centers. Ecuador has no export credit arrangements.
FOREIGN DIRECT INVESTMENT
The largest foreign investors in Ecuador are
petroleum companies engaged in exploration and
production in the Amazon Basin, including Occidental
Energy Corporation and Kerr-McGee Energy Company
from the U.S. Alberta Energy Corporation (Canada),
YPF/Repsol (Spain), and AGIP (Italy) are also
major players in the oil sector. There are also
several U.S. oil service and distribution firms
active in Ecuador, including Texaco and Exxon
Mobil. Newmont Gold Corporation (U.S.) and Gold
Fields (South Africa) have investments in the
mining sector. Morton (U.S.) produces salt with
a local partner. Duke Energy (U.S.) also operates
in Ecuador.
American firms active in the manufacturing sector
include: General Motors, which holds an interest
in two automotive assembly plants, Owens-Illinois
(glass containers), Phelps Dodge (copper and aluminum
conductors), Philip Morris (cigarettes), Borden
(chemicals), Eveready Battery, and Fuller (paints).
General Tire (U.S./Germany) manufactures tires,
Holderbank (Switzerland) produces cement, Akzo
(Netherlands) makes fibers and textiles, and Eternit
(Switzerland) fabricates construction materials.
There are several American pharmaceutical companies
operating in Ecuador, including Schering Plough,
Bristol-Myers Squibb, Merck, Upjohn, American
Cyanamid, Abbot, and Pfizer. U.S. firms Colgate-Palmolive,
Kimberly Clark, and Johnson & Johnson manufacture
toiletries and cleaning products. Grupo Santo
Domingo (Colombia) owns the major brewery. Nestle
(Switzerland) and Nabisco (U.S.) are leading food
product manufacturers, while a number of other
foreign firms have invested in processing facilities
for non-traditional vegetables and fruits. Continental
Flour (U.S.) mills flour and, along with several
other U.S. firms, is a major investor in shrimp
farming. Standard Fruit/Dole (U.S.) is involved
in banana marketing. Exxon Mobil (U.S.), Texaco
(U.S.), and Shell (Holland/U.K.) have invested
in wholesale gasoline distribution. Several U.S.
franchise chains are now operating in Ecuador,
including Tricon (Pizza Hut/Kentucky Fried Chicken/Taco
Bell), Burger King, McDonalds, Domino's Pizza,
and Blockbuster Video. Citibank (U.S.), Lloyd's
(U.K.), and ABN AMRO (Netherlands) have commercial
banking operations in Ecuador. Bellsouth operates
one of Ecuador's two mobile phone services. U.S.
hardware (IBM, Xerox) and software (Microsoft,
Oracle) companies are also active.
Foreign investment in Ecuador remains concentrated
in the oil sector. The construction of the Transandean
Heavy Oil Pipeline from 2001-2003 will reinforce
this trend. This massive construction project
carried out by a consortium of five foreign oil
producers will result in inward investment of
$3.5 billion, including direct project investment
of $1.067 billion. Foreign direct investment (FDI)
outside the oil sector remains modest and is focused
on financial services, food processing, the chemical
and pharmaceutical industries, and machinery and
vehicle manufacturing. Overall FDI inflows totaled
$720 million (5% of GDP) in 2000.
The United States is the major source of foreign
investment capital. The petroleum sector accounts
for the lion's share -- about $2 billion -- of
this inflow, but there are significant U.S. investments
throughout the Ecuadorian economy. Registered
investment for "off-shore" locations,
such as Panama, the Bahamas, and the U.S., includes
movements of Ecuadorian-owned capital that would
not normally be considered as FDI. Ecuador needs
to attract more FDI to offset the balance of payment
impact of debt service payments and promote economic
growth.
6. TRADE AND PROJECT FINANCING
BANKING SYSTEM
The liberalization of the Ecuadorian economy
in the early 1990 stimulated its financial sector
to expand rapidly in the first half of the decade.
However, both external and internal factors created
a deep economic crisis by the end of the 1990s.
The GDP per capita dropped to the level of the
1960s. Bank operations reduced dramatically so
that of the 42 banks existing before the collapse,
just 22 managed to survive in private hands. The
government intervened by taking control of the
defaulting banks, and therefore today it controls
over 70% of the market via two of the three largest
banks in operation: Pacifico, which merged with
state owned Banco Continental, and Filanbanco,
which merged with Banco La Previsora.
In March of 1999, the Government of Ecuador froze
monetary deposits in the system, and as of today
USD 815 million dollars have still not been recovered
by bank customers.
On June 13, 2000, Ecuador adopted the United
States dollar as the country's official currency.
The exchange rate was fixed at S/. 25,000.00 sucres
per USD 1. All transactions are now made in dollars.
Private Banks, financial companies, and insurance
firms are regulated by the Superintendency of
Banks. In December of 1998, the Deposits Insurance
Agency (AGD) was formed to cope with a growing
number of bank failures and liquidity problems,
and to implement necessary and comprehensive banking
reforms and controls. In 1999, Ecuador authorized
the AGD to restructure the banking sector based
on results of an international auditing process.
The Financial Institutions law established fully
consolidated financial disclosure requirements.
Although early intervention by the Superintendency
of Banks is no longer required in the event of
solvency problems, a regulation passed in 1996
requires the Superintendency of Banks to liquidate
the assets of the failed institutions. All new
banks are required to have a capital stock (technical
equity) of about USD 6 million (existing banks
must meet this requirement by 2002). Banks must
maintain 9 percent of technical equity in relation
to weighted assets plus contingents. The Central
Bank reserve requirements has been established
at nine percent per dollar. The AGD is the only
deposit insurance scheme in place, and small depositors
become senior creditors in the event of liquidation.
FOREIGN EXCHANGE CONTROLS
Ecuador has adopted the United States dollar
as the country's official currency. The dollar
replaced the sucre bills in circulation by early
2001. As of June 13, 2000, all savings and checking
accounts were officially converted to US dollars.
GENERAL AVAILABILITY OF FINANCING
Financing is a key ingredient in selling to both
the government and the private sector. Local banks
offer financing, in U.S. dollars, but interest
rates are in the 20 percent range, substantially
higher than those in the United States, with terms
that rarely extend for more than 90 days. As a
result, U. S. exporters with the capacity to provide
direct credit facilities will have a significant
competitive advantage. However, U.S. companies
are well advised to be very cautious about extending
credit facilities to Ecuadorian companies. The
Export-Import Bank of the United States is currently
open for short and medium-term loan guarantees
and export credit insurance for the private sector,
but is closed to the public sector.
Commercial banks serve as the primary outlets
for GOE-backed financing. The National Finance
Corporation (CFN), in particular, offers short-term
financing via private banks for industrial and
export development. In addition, capital can be
raised through the public offer of corporate notes
and equity shares via the Quito and Guayaquil
stock markets. However, these markets are currently
very small and are not an important source of
capital, although both have plans to expand sharply
in the near future.
Virtually all past private sector imports into
Ecuador were financed with terms of sale confirmed
by letters of credit. Sixty percent of the letters
of credit opened were at 90 days sight; the rest
were at sight. Unfortunately, letters of credit
are still currently very difficult to obtain.
Most banks abroad will not accept Letters of Credit
connected to Ecuadorian banks. Credit card orders
are popular among small importers, and cash transactions
have become increasingly common. Some U.S. exporters
with long-established Ecuadorian clients have
been extending lines of credit for periods of
90 to 120 days.
MULTILATERAL FINANCING
The Andean Development Corporation (CAF) is actively
involved in financing infrastructure development
projects in Ecuador. CAF is presently supporting
Peruvian and Ecuadorian projects in the Binational
Development Plan for the Border Region which forms
part of the Peace Agreement signed between Ecuador
and Peru in October of 1998. For a list of projects
currently being financed see: http://www.caf.com
The Inter-American Development Bank (IDB) and
the World Bank Group, composed of the International
Bank for Reconstruction and Development (IBRD),
the International Development Association (IDA),
the International Finance Corporation (IFC), and
the Multilateral Investment Guarantee Agency (MIGA)
are all potential sources for project financing.
The World Bank is active in Ecuador. Between
January 1991 and December 2000, the Bank (IBRD/IDA)
has made 16 loans to Ecuador totaling USD 628.0
million, net of cancellations, of which USD 300.1
million remain to be disbursed. These loans are
targeted primarily toward projects in environment
and social development (37.7%), poverty reduction
and economic management (29%), human development
(21.5%) and finance, private sector and infrastructure
(11.8%).
ECUADOR'S ECONOMIC FORECAST FOR 2003-2007
Policy towards private enterprise and competition
2003-04: Attempts to modernise state-owned
telecommunications and electricity companies via
private management.
2005-07: Microeconomic reform, deregulation
and strengthening of competition policy will remain
on the agenda, but will be subject to political
opportunism and administrative inefficiency.
Policy towards foreign investment
2003-04: The government seeks to attract foreign
direct investment (FDI) in oil and infrastructure.
2005-07: Efforts will be made to attract
FDI to most areas of the economy via part-privatisations
or capitalisation.
Foreign trade and exchange controls
2003-04: Efforts to reduce corruption in the
customs service. Occasional resort to tariff safeguards
on agricultural products.
2005-07: Competitiveness permitting, attention
will focus on export diversification and negotiations
towards the Free-Trade Area of the Americas (FTAA).
Taxes
2003-04: Reforms to widen the income tax base,
reduce exemptions, and remove nuisance taxes.
2005-07: Attempts will be made to establish
a more stable tax regime and to improve discipline
in the public finances.
Financing
2003-04: Government liquidates closed banks
under state control and re-privatises state-run
Banco Pacifico.
2005-07: Availability of financing improves,
but corporate investment mostly self-financed.
The labour market
2003-04: Gradual wage unification to simplify
salary structure, making wage costs more transparent.
Reforms aim to make it easier to reduce the public-sector
payroll.
2005-07: Wage unification will be completed.
Greater labour market flexibility and efforts
to raise skills levels.
Infrastructure
2003-04: Completion of a new oil pipeline
for heavy crude. Private investment to upgrade
airport infrastructure.
2005-07: Privatisation and economic growth
will encourage the upgrading of road, rail, post,
port, air and telecoms services. |
