![In addition, the system of mandatory technical norms should be reviewed. Other
measures could include refocusing institutions’ traditional export promotion and
competitiveness promotion to place a higher priority on their activities toward new
exports. This could be done by (i) promoting business associations, R&D in agricul-
ture and food, incubator programs, fiscal incentives for diversification (revising
traditional free trade zone incentives and eliminating other tax exemptions not
considered in the diversification strategy), and export consortia of small and medium
enterprises; (ii) by improving capital risk financing; and (iii) by revamping the quality
and standards institutional system.
Agreements of market access should be complemented with a set of policies
aimed at modernizing services and improving standards. One of the benefits of
market access agreements has been the inclusion of complementary measures that are
equally as important as trade promotion. These measures include adopting interna-
tional standards, modernizing the system of product quality control, reforming cus-
toms services, and improving transport and port facilities. The adoption of
international standards can be a very important vehicle for technology diffusion and
application of good practices, and the standards embed the right incentives for
increasing competitiveness of local firms in international markets. Quality control
ensures speedier market access and acceptance. Reforms of the customs system can
reduce costs and corruption. The same is true of the improvements in the transport
infrastructure, which should begin with the port facilities. With both customs and
ports, the government could review the regulatory and administrative measures that
lengthen clearance times, such as extreme physical inspections, the involvement of
many institutions, and the lack of competition among service providers. The most
pressing issue is to eliminate discretion and the curse of corruption. Although the
initial thrust in customs should be administrative reforms (as previously done in
Internal Revenue Service [Servicio de Rentas Internas—SRI]), modern systems and
techniques of random and risk-adjusted inspections, as well as cargo handling and
port management, can assist in the modernization process.
The Energy Sector—Petroleum and Electricity
The importance of the petroleum sector for the future of the Ecuadoran economy
cannot be overstated. The sector produces approximately 24 percent of GDP and
accounts for 30 percent of the nonfinancial public sector revenues and 60 percent of
total exports. Through the sector, the government heavily subsidizes the consumption
of energy, in the amount of almost 5 percent of GDP. The sector has attracted most
of the foreign investment in Ecuador. Private petroleum companies pay one-third of
income taxes. With proven reserves estimated to last 23 years at current levels of
production, the sector will continue to have a predominant presence in the economy
and would still be one of the most important sources of revenues for the country. The
variability of government oil revenues, however, will continue to be the main source
of the risks to macroeconomic management.
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- 9. © 2008 The International Bank for Reconstruction and Development / The World Bank 1818 H Street NW Washington DC 20433 Telephone: 202-473-1000 Internet: www.worldbank.org E-mail: [email protected] All rights reserved. 1 2 3 4 5 11 10 09 08 This volume is a product of the staff of the International Bank for Reconstruction and Development / The World Bank. The findings, interpretations, and conclusions expressed in this volume do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgement on the part of The World Bank concerning the legal status of any territory or the endorsement or accept- ance of such boundaries. Rights and Permissions The material in this publication is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. The International Bank for Reconstruction and Development / The World Bank encourages dissemination of its work and will normally grant permission to reproduce portions of the work promptly. For permission to photocopy or reprint any part of this work, please send a request with complete infor- mation to the Copyright Clearance Center Inc., 222 Rosewood Drive, Danvers, MA 01923, USA; telephone: 978-750-8400; fax: 978-750-4470; Internet: www.copyright.com. All other queries on rights and licenses, including subsidiary rights, should be addressed to the Office of the Publisher, The World Bank, 1818 H Street NW, Washington, DC 20433, USA; fax: 202-522- 2422; e-mail: [email protected]. ISBN-13: 978-0-8213-7145-9 eISBN-13: 978-0-8213-7146-6 DOI: 10.1596/978-0-8213-7145-9 Cover art: Dueños de la Noche (1987) by Gonzalo Endara Crow. Library of Congress Cataloging-in-Publication Data Revisiting Ecuador’s economic and social agenda in an evolving landscape / edited by Marcelo M. Giugale, Vicente Fretes-Cibils, Eduardo Somensatto. p. cm. Includes bibliographical references. ISBN 978-0-8213-7145-9—ISBN 978-0-8213-7146-6 (electronic) 1. Ecuador—Economic policy. 2. Ecuador—Economic conditions—1972–3. Ecuador—Social policy. 4. Ecuador—Social conditions. I. Giugale, Marcelo. II. Fretes Cibils, Vicente, 1956– III. Somensatto, Eduardo. HC202.R477 2008 330.9866—dc22 2007041806
- 10. Preface . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xv Acknowledgments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xvii Editor Biographies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xix Acronyms and Abbreviations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xxi Context and Executive Summary Eduardo Somensatto. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 I. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 II. Overview. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 III. Preserving Stability and Accelerating Growth . . . . . . . . . . . . . . . . . . . . . . . 6 IV. Promoting Sustainable and Equitable Social Development . . . . . . . . . . . . 24 V. Improving Governance and Strengthening Institutions . . . . . . . . . . . . . . . 32 Chapter 1. Fiscal Sustainability and Debt Management in Ecuador Vicente Fretes-Cibils, Rashmi Shankar, and Elizabeth Currie. . . . . . . . . . . . . . . . . 43 I. Background and Current Context. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 II. Fiscal Trends and Challenges. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48 III. Fiscal Policy and Public Debt Sustainability . . . . . . . . . . . . . . . . . . . . . . . 53 IV. Public Debt Trends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56 V. Policy Options to Strengthen Fiscal Sustainability. . . . . . . . . . . . . . . . . . . 62 Annex. Public Debt Management. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71 Chapter 2. Tax Policy and Administration Osvaldo Schenone . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 I. Background. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74 II. Three Primary Problems of Ecuador’s Tax Policy. . . . . . . . . . . . . . . . . . . . 76 III. Modernization of the Tax Administration—Two Priority Reforms . . . . . . 83 IV. Recommendations. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 90 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 93 Contents v
- 11. vi REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA Chapter 3. The Banking System: Current Context and Remaining Challenges Rashmi Shankar and Jean Clevy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95 I. Profile of Ecuador’s Financial System . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95 II. Structure of the Financial Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 102 III. Liquidity Management and Solvency . . . . . . . . . . . . . . . . . . . . . . . . . . . 106 IV. Risk Profile of the Banking System . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 111 V. Policy Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 115 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 123 Chapter 4. The Oil and Gas Sector Eleodoro Mayorga-Alba, Alfredo Monge, Oscar Arrieta, Jorge Albán, and Horacio Yépez . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125 I. Current Situation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125 II. Principal Aspects of Sector Reform . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 135 III. Final Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 147 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 152 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 155 Chapter 5. Economic Growth through Improved Competitiveness and an Enhanced Investment Climate Mike Goldberg, Juan Carlos Mendoza, José Guilherme Reis, and Eric Palladini . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 157 I Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 158 II. Competitiveness Challenges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 158 III. The Financial Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 169 IV. Policy Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 173 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 178 Chapter 6. Electricity Sector Susan V. Bogach and Eduardo H. Zolezzi . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 181 I. Overview of the Current Situation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 182 II. Key Challenges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 192 III. Policy Options. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 207 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 217 Chapter 7. Boosting Sustainable and Equitable Social Development Monique F. Mrazek . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 219 I. Sector Overviews, Trends, and Diagnostics . . . . . . . . . . . . . . . . . . . . . . 220 II. Policy Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 238 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 248
- 12. Chapter 8. The Pension System Rafael Rofman . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 251 I. System Diagnostic. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 252 II. Proposed Policy Solutions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 263 III. Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 266 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 269 Chapter 9. Sustainable and Inclusive Rural Development Francisco Pichon . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 271 I. The Context for Sustainable and Inclusive Development in Ecuador. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 272 II. The Agricultural Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 277 III. The Institutional Setup for Rural Development . . . . . . . . . . . . . . . . . . . 284 IV. Ethnicity in Rural Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 287 V. Environmental and Natural Resources Policy Challenges . . . . . . . . . . . . 290 VI. Conclusions and Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . 294 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 310 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 313 Chapter 10. Enhancing Public Sector Transparency and Accountability Edgardo Mosqueira. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 317 I. Three Key Governance Problems: Corruption, Lack of Transparency in Public Management, and Weak Delivery of Justice . . . . . . . . . . . . . . . . . 318 II. Foundations for Further Reform . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 325 III. Policy Alternatives to Increase Transparency and Accountability in Public Administration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 333 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 343 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 346 Chapter 11. Labor Market and Civil Service in Ecuador Jeffrey Rinne and Carolina Sánchez-Páramo . . . . . . . . . . . . . . . . . . . . . . . . . . . . 349 I. Labor Market in Ecuador . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 350 II. Civil Service . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 361 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 370 Chapter 12. Decentralization Jonas Frank . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 373 I. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 374 II. Issues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 375 III. Moving Forward: Strategy and Policy Options . . . . . . . . . . . . . . . . . . . . 383 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 392 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 398 CONTENTS vii
- 13. viii REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA Chapter 13. Basic Infrastructure: Water Supply and Sanitation, Telecommunications, Transport, and Urban Planning Franz Drees-Gross, Eloy Vidal, Emmanuel James, and Alexandra Ortiz . . . . . . . . 401 I. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 402 II. Description of the Sectors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 403 III. Diagnosis of the Main Problems and Challenges. . . . . . . . . . . . . . . . . . . 409 IV. Sectoral Policy Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 431 Annex . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 444 Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 452 Tables Summary of Some Policies for Improving Economic and Social Development in Ecuador. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 1.1 Ecuador Macroindicators, International Comparisons . . . . . . . . . . . . . . . 45 1.2 Banking System Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46 1.3 Key External Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 1.4 Main Fiscal Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50 1.5 Evolution of Public Wages and Salaries . . . . . . . . . . . . . . . . . . . . . . . . . . . 52 1.6a Assumptions Underlying Debt Simulations, 2007–10 . . . . . . . . . . . . . . . 55 1.6b Sensitivity of Debt Projections to Fiscal Assumptions . . . . . . . . . . . . . . . 55 1.7 Net Central Government Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 1.8 Credit Sovereign Debt Rating . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 1.9 Total Debt, by Source of Funds . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 1.10 Public Debt by Currency. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62 2.1 Total Income by the Nonfinancial Public Sector and the Central Government, 1995–2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74 2.2 Selected Tax Administration Indicators, 2001–03 . . . . . . . . . . . . . . . . . . . 76 2.3 The Structure of the Tax System . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 77 2.4 Estimated Tax Cost of the Internal VAT Exemptions in 2001. . . . . . . . . . 79 2.5 Tax Cost of Exemptions on Customs Tariffs and on the VAT on Imports, 2000 and 2001 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80 2.6 Preallocation Percentages of the ICE Tax Revenues, 2006. . . . . . . . . . . . . 82 Summary Table of the Estimated Tax Revenue Effects of the Recommendations in 2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 87 Summary Table of the Priority of the Recommendations . . . . . . . . . . . . . 87 Recommendation Matrix . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 88 A.1 Value of VAT Exemptions, 2000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 90 A.2 Value of VAT Exemptions, 2005. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91 3.1 Number of Entities in the Financial System . . . . . . . . . . . . . . . . . . . . . . . 96 3.2 Private Banking System: Consolidated Balance Sheet . . . . . . . . . . . . . . . . 99 3.3 Private Banks: Income Statement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100 3.4 Private Bank Financial Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100 3.5 Number and Size of Institutions in the Financial System . . . . . . . . . . . . 103
- 14. 3.6 Integration with Global Financial Markets . . . . . . . . . . . . . . . . . . . . . . . 106 3.7 Analysis of Liquidity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 107 3.8 Liquidity in the Banking System. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 108 3.9 Risk Indicators for the Banking System. . . . . . . . . . . . . . . . . . . . . . . . . . 112 4.1 Ecuador Hydrocarbon Reserves. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 126 4.2 Production, Imports, and Exports of Refined Products . . . . . . . . . . . . . . 129 4.3 Estimate of 2006 Subsidy Levels (without VAT) . . . . . . . . . . . . . . . . . . . 129 4.4 Average Gasoline and Diesel Prices Paid by Domestic Consumers . . . . . 130 4.5 Institutional Structure Proposed for the Oil and Gas Sector . . . . . . . . . . 136 5.1 Changes in Competitiveness Rank, 2005–06 . . . . . . . . . . . . . . . . . . . . . 159 5.2 Constraints to Doing Business in Ecuador . . . . . . . . . . . . . . . . . . . . . . . 160 5.3 Cost and Difficulty of Starting a Business . . . . . . . . . . . . . . . . . . . . . . . . 160 5.4 Business Licensing. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161 5.5 Employment and Competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161 5.6 Tax Burden . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 162 5.7 Requirements and Costs for Importing and Exporting . . . . . . . . . . . . . . 162 5.8 Dimensions of Investor Protection . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 163 5.9 Contract Enforcement. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 163 5.10 Closing a Business. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 164 6.1 Comparative Energy Statistics in Latin America . . . . . . . . . . . . . . . . . . . 187 6.2 Energy Balance of Distribution Companies, 2001–05. . . . . . . . . . . . . . . 188 6.3 OLADE Electricity Prices in LAC, 2004. . . . . . . . . . . . . . . . . . . . . . . . . 190 6.4 Average Price of Electricity for Distributors in Spot Market and Fixed-Term Contracts. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 190 6.5 Estimated Renewable Energy Potential for Electricity Generation . . . . . 191 6.6 Efficiency Indexes of Distribution Companies, 2005 . . . . . . . . . . . . . . . 193 6.7 What Happens to 100 kWh Purchased by a Distribution Company . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 194 6.8 Distribution of Tariff Deficit and Arrears to the MEM. . . . . . . . . . . . . . 196 6.9 Options to Eliminate Accumulated and Annual Tariff Deficits . . . . . . . 208 6.10 Options to Ensure Adequate Investment in Generation . . . . . . . . . . . . . 209 6.11 Options to Improve Sector Regulation for Price and Tariff Setting . . . . . 210 6.12 Options to Improve Governance to Facilitate Efficiency in the Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 210 6.13 Options to Develop Cost-Effective New and Renewable Energy Sources . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 211 6.14 Options to Maximize Energy Efficiency . . . . . . . . . . . . . . . . . . . . . . . . . 212 7.1 Increase in Social Spending by Expenditure Group, 2002–05 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 222 7.2 Real Change of Priority Program Budgets . . . . . . . . . . . . . . . . . . . . . . . . 222 7.3 Net Enrollment Rates . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 223 7.4 Internal Efficiency Indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 224 7.5 Total Education Sector Budget . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 225 CONTENTS ix
- 15. 7.6 Trends in Selected Health-Related MDG Indicators . . . . . . . . . . . . . . . . 227 7.7 Social Assistance Spending, 2003–06 . . . . . . . . . . . . . . . . . . . . . . . . . . . 231 7.8 Nutrition Outcomes of Children under Five in Selected Countries. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 231 7.9 Overview of Social Security Network . . . . . . . . . . . . . . . . . . . . . . . . . . . 236 8.1 Average Monthly Pension Benefits, 2000–06 . . . . . . . . . . . . . . . . . . . . . 259 9.1 Selected Characteristics of Ecuadoran Subregions . . . . . . . . . . . . . . . . . . 274 9.2 Characteristics of Core Rural Territories . . . . . . . . . . . . . . . . . . . . . . . . . 275 9.3 Total Productivity Contribution of Labor and Capital to the Value-Added Growth, 1994–99 . . . . . . . . . . . . . . . . . . . . . . . . . . 279 9.4 Sources of Farmers’ Technical Assistance . . . . . . . . . . . . . . . . . . . . . . . . . 281 A.1 Selected Characteristics of Ecuador’s Rural Zones . . . . . . . . . . . . . . . . . . 310 A.2 Ecuador: Main Dynamic Rural Territories. . . . . . . . . . . . . . . . . . . . . . . . 311 10.1 Public Institutions Perceived as Most and Least Transparent . . . . . . . . . . 323 10.2 Key Areas and Activities of CSOs in Ecuador . . . . . . . . . . . . . . . . . . . . . 326 10.3 Average Duration of a Civil Case in Quito . . . . . . . . . . . . . . . . . . . . . . . 332 10.4 Clearance Rate in Pilot Courts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 332 A.1 Ecuador Governance Indicators. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 343 A.2 Comparison of Governance Indicators with Other Countries of the Region . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 344 A.3 Regulatory Quality, Selected Countries, 2005 . . . . . . . . . . . . . . . . . . . . . 345 A.4 Rule of Law, Selected Countries, 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . 345 11.1 Economic Growth and Key Indicators for Labor Market . . . . . . . . . . . . 351 11.2 Employment Distribution by Sector and Employment Situation . . . . . . 353 11.3 Real Monthly Labor Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 355 11.4 Structure of Government Jobs under the Public Employees System, 2002. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 363 12.1 Basic Services Coverage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 375 A.1 Special Laws Governing the Transfer of Resources and Revenue Sharing for the Benefit of Municipalities and Provincial Councils . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 393 13.1 Institutions Related to the Water Supply and Sanitation Sector . . . . . . . 404 13.2 Service Providers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 405 13.3 Coverage of Potable Water Supply and Sewerage Services, 2001 . . . . . . 410 13.4 Operational Efficiency of Water Supply Companies in a Selection of Large- and Medium-Size Cities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 412 13.5 Machala: Monthly Expenditure on Water Supply and Sanitation Services—Families with and without Home Connection, 2002 . . . . . . . 413 13.6 Characteristics of the Ecuadoran Road System, by Region . . . . . . . . . . . 421 A.1 Measures of Migration as a Proportion of Total Population, by Province . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 446 A.2 Characteristics of Poor and Nonpoor Urban Households in Ecuador, 1997–2002 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 448 x REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 16. A.3 Access to Basic Services in 12 Intermediate Cities in Ecuador. . . . . . . . . 449 A.4 Population, Built-up Areas, and Densities in Five Intermediate Cities in Ecuador, 2006. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 451 A.5 Population, Density, Built-Up Area, and Urban Area Projections for 2030 for the Five Intermediate Cities in Ecuador . . . . . . . . . . . . . . . 451 Figures 1.1a Non-oil Exports, 1995–2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49 1.1b Noncommodity Exports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49 1.2 NFPS Oil Revenues and Primary Expenditure . . . . . . . . . . . . . . . . . . . . . 51 1.3 Ecuador’s Share of Transfers and Subsidies in GDP . . . . . . . . . . . . . . . . . 52 1.4 Total Debt Levels as a Percentage of GDP . . . . . . . . . . . . . . . . . . . . . . . . 56 1.5 EMBI Plus Ecuador and Latin America . . . . . . . . . . . . . . . . . . . . . . . . . . 58 1.6 Composition of Total Public Debt, by Interest Rate . . . . . . . . . . . . . . . . . 61 1.7 Amortization Profile . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 3.1 Bank Assets, Loans, and Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 97 3.2 Financial Depth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 98 3.3 External Lines of Credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101 3.4 Concentration Ratios (HH Index) for Ecuadorian Banking System . . . . 105 3.5 Evolution of Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 109 3.6 Banking System’s Capital Adequacy, 2006. . . . . . . . . . . . . . . . . . . . . . . . 113 3.7 Risk Perception Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 114 4.1 Production . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 140 4.2 Consumption of Petroleum Products . . . . . . . . . . . . . . . . . . . . . . . . . . . 143 4.3 Balance of Trade, Oil and Gas Sector . . . . . . . . . . . . . . . . . . . . . . . . . . . 143 4.4 Sector’s Contribution to Public Revenues . . . . . . . . . . . . . . . . . . . . . . . . 143 6.1 Institutional Setup of the Electricity Sector. . . . . . . . . . . . . . . . . . . . . . . 182 6.2 Cross-Subsidy Scheme for Bolivar and CATEG-D . . . . . . . . . . . . . . . . . 199 6.3 Maximum Demand Balance, 2006–11 during Critical Month in Dry Season . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 201 6.4 Energy Balance, 2006–11 during Critical Month in Dry Season. . . . . . . 201 7.1 Ecuador Real per Capita Social Expenditure . . . . . . . . . . . . . . . . . . . . . 221 7.2 Ecuador Social Sector Spending . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 222 7.3 School-Age Population without Teacher Coverage . . . . . . . . . . . . . . . . . 225 8.1 Overall Financial Performance of the IESS Pension System, 1993–2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 256 8.2 Financial Performance of the IESS Pension System, 1993–2004. . . . . . . 257 8.3 Government Contribution to IESS Pensions. . . . . . . . . . . . . . . . . . . . . . 258 8.4 Percentage of the Labor Force Participating in Contributive Pension Programs in South America . . . . . . . . . . . . . . . . . . . . . . . . . . . . 260 8.5 Pension Coverage of Economically Active Population, 1965–2005 . . . . . 261 8.6 Coverage of Pension Systems, by Age Group and Gender . . . . . . . . . . . . 262 10.1 Respondents Who See Progress in Fighting Corruption, 2005 . . . . . . . . 319 CONTENTS xi
- 17. xii REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA 10.2 Respondents’ Perception of Percentage of Corrupt Public Officials, 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 319 10.3 Governance Indicators, 2005 versus 1998 . . . . . . . . . . . . . . . . . . . . . . . . 320 10.4 Average Delay Reduction in Pilot Courts . . . . . . . . . . . . . . . . . . . . . . . . 331 10.5 Number of Cases Adjudicated by Civil Court per Month . . . . . . . . . . . 332 11.1 Emigration from Ecuador . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 352 11.2 Labor Force Informality in Latin America. . . . . . . . . . . . . . . . . . . . . . . . 354 11.3 Labor Regulation in Ecuador . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 355 11.4 Constraints for Job Creation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 356 11.5 Public Employment in Latin America . . . . . . . . . . . . . . . . . . . . . . . . . . . 362 11.6 Personnel Expenses in the Nonfinancial Public Sector. . . . . . . . . . . . . . . 363 12.1 Vertical Fiscal Imbalances, 2004 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 376 12.2 Intergovernmental Transfers, 1996–2005 . . . . . . . . . . . . . . . . . . . . . . . . 378 12.3 Execution of Payments to Municipalities and Provincial Councils under 15 Percent Law, 2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 379 12.4 Subnational Government per Capita Expenditures and Consumption-Based Poverty, 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 383 A.1 Subnational Government per Capita Expenditures and Poverty . . . . . . . 392 13.1 Mobile and Fixed Telephony, 1999–2006 . . . . . . . . . . . . . . . . . . . . . . . . 406 13.2 Access to Water Supply (Connection), by Income Level . . . . . . . . . . . . . 411 13.3 Water Treatment by Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 411 13.4 Fixed-Line Density and GDP per Capita . . . . . . . . . . . . . . . . . . . . . . . . 414 13.5 Fixed-Line Density Rate, by Province . . . . . . . . . . . . . . . . . . . . . . . . . . . 415 13.6 Mobile Penetration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 417 13.7 Internet Users in the Region . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 418 13.8 Participative Planning Process for Rural Roads . . . . . . . . . . . . . . . . . . . . 429 Boxes 3.1 Liquidity Management and Payment System . . . . . . . . . . . . . . . . . . . . . 110 4.1 Fiscal Terms Applicable to Oil and Gas Production . . . . . . . . . . . . . . . . 128 4.2 Reducing Flaring of Associated Gas in Ecuador . . . . . . . . . . . . . . . . . . . 134 4.3 The Energy, Environment, and Population Program. . . . . . . . . . . . . . . . 135 4.4 Efficient State Oil Companies. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 139 4.5 Sensitivity Analysis: The Impact of Lower Oil Prices. . . . . . . . . . . . . . . . 144 4.6 Criteria of the Extractive Industries Transparency Initiative . . . . . . . . . . 146 5.1 Successful Clusters in Nicaragua: Gains in Income, Exports, and Jobs . . 167 6.1 Explanation of Tariff Deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 188 6.2 Payment Priorities from Distribution Companies and Accumulating Debts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 197 6.3 Peru’s Fondo de Compensación Social Eléctrica . . . . . . . . . . . . . . . . . . . 198 7.1 Expanding Health Coverage to the Poor: Lessons from Colombia . . . . . 230
- 18. 7.2 Major Causes of Malnutrition in Ecuador. . . . . . . . . . . . . . . . . . . . . . . . 232 7.3 Chile’s Use of Monitoring Systems—A Nutrition Success Story . . . . . . . 233 10.1 Progress in Implementing the Law of Transparency and Access to Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 321 10.2 Preconditions for the Development of a Financial Management Information System. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 334 10.3 Quick Gains: The Case of Ceará, Brazil . . . . . . . . . . . . . . . . . . . . . . . . . 336 10.4 International Best Practices for Improving Procurement Systems . . . . . . 337 11.1 Government Plan 2007–11 and Its Relation to Labor Markets. . . . . . . . 350 11.2 Tripartite Table Dialogue. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 360 11.3 The New Civil Service Law. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 364 11.4 Human Resources Management Systems: Some Examples of Positive Fiscal Impact . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 366 CONTENTS xiii
- 20. xv Ecuador is at a crossroads in the early years of the new millennium. Political, economic, and social instability have long affected the country’s path of development. Though it is rich in cultural traditions and natural endowments, the stop-and-go cycles of past public policies have prevented the country from realizing its potential for economic prosperity and social equity. Ecuador has the opportunity to define a development agenda that will benefit all of its citizens. In this agenda, stability, growth, competi- tiveness, social development, decentralization, and transparency would constitute the mileposts. We at the World Bank feel honored to contribute to the public policy debate through publishing the follow-up to Ecuador—An Economic and Social Agenda in the New Millennium. We have updated this book to provide an account of Ecuador’s current key development challenges, many of the reasons behind those challenges, and some options to overcome them. The analysis here does not claim to provide definitive solutions to all of Ecuador’s challenges. Rather, we hope that this second edition can enrich the national discussion among Ecuadorans as they search for their own solutions to these challenges. The work presented here is organized around three overarching themes: fiscal con- solidation and growth, social development, and quality of government. The main messages within each of these themes are summarized and brought together in an opening synthesis. The importance of these three broad themes has become increas- ingly evident around the world during the past decades and has been accentuated by global integration (financial and commercial) and by the information technology revolution. Understanding those forces is critically important because, in the end, their value will be measured by one simple yardstick—their impact on people’s qual- ity of life, especially among the poor. This second edition is the product of the analytical work of a large number of World Bank staff members. It documents Ecuador’s main development trends, poli- cies, and options, and places the country in the context of relevant international com- parisons. Extensive dialogue, reflection, and direct operational work with our counterparts in Ecuador and elsewhere are detailed in this volume, which spells out critical lessons and challenges that are relevant for the country and for Latin America as a whole. Finally, the book’s second edition proposes policy matrices for each sector and topic, including a proposed sequencing of policy steps. I am extremely grateful for the cooperation and contributions of our many friends in Ecuador to this very important endeavor, both directly and through several years Preface
- 21. of working side by side with us. I would like to thank the staff members who have worked to compile this book—editors, authors, and producers. Their work reveals not only their professional talents, but also, and more importantly, their passion for poverty reduction. Pamela Cox Vice President Latin America and the Caribbean Regional Office Washington, D.C. May 2007 xvi REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 22. xvii This volume is the result of a team effort and, as such, it has benefited from an array of invaluable contributions. Thanks are therefore due to a large number of people. First, the chapter authors not only provided material of outstanding technical quality, but also made a remarkable effort, working in record time and thus enriching the Ecuador debate at a critical period. We consider ourselves fortunate to share this book with these principal authors—Susan Bogach, Jean Clevy, Elizabeth Currie, Franz R. Drees-Gross, Jonas Frank, Conrado Garcia-Corado, Michael Goldberg, Christopher Humphrey, Julio Ricardo Loayza, Eleodoro Mayorga-Alba, Edgardo Mosqueira, Monique F. Mrazek, Francisco J. Pichon, Rashmi Shankar, and Eloy Eduardo Vidal. All authors are affiliated with the World Bank Group unless otherwise indicated in their respective chapters. Other authors of individual chapters are recognized in the credits of each specific chapter. While this book reflects the authors’ views (and not necessarily the views of the World Bank, its Board of Directors, or its member countries), its production was institutionally housed at the World Bank. We thus benefited greatly from the general guidance of Guillermo Perry (Chief Economist for the Latin America and the Caribbean Region) and from the auspices of the office of Pamela Cox (Vice President for Latin American and the Caribbean Region). This volume commenced with an internal workshop held on January 18, 2007, in Washington, D.C. The discussion allowed all the authors to present their findings in a friendly forum and to explore various synergies. In addition to the authors, many others participated. Our thanks are extended to: Alejandro Alcala Gerez, Maria Dolores Arribas-Banos, Garry Charlier, Henry Forrno, Fernando Lecaros, Jeffrey Rinne, Marco Scuriatti, Samuel Taffesse, Marco Varea, Eduardo Velez Bustillo, Ian Walker, and David Warren. During this initial exercise, the early stages of the volume benefited from the comments of peer reviewers, who were: Robert Bacon, Franz Drees-Gross, Pablo Gottret, Jose Luis Guasch, James Hanson, Jorge Munoz, and Fer- nando Rojas. We also recognize the importance of the workshop held on March 19th and 20th, 2007, in Quito, Ecuador, and thank its participants. This workshop not only brought together a majority of the authors under one roof for a day of candid discussions but also, and more importantly, included officials and consultants from government administration. Among the consultants and government officials present at the workshop, we would especially like to thank the following: David Alor- ris, Victor Arrar, Manuel Badillo, Winston Balanos, Gustavo Bedon, Caria Caiero, Acknowledgments
- 23. Nicholas Castellianos, Rita Decy, Sylvia Diaz, Roberto Esteves, Grace Fuerrgo, Doris Gordon, Carlos Julio Jarce, Fausto Jordain, Diego Manchero, Jose Martinez, Julio Oleas, Pedro Montalvo, Pabel Munoz, Viviano Munoz, Juan Nieto, Jorge Orbe, Ruben Paez, Nicolay Pastelanos, Rene Ramirez, Guido Rivadeneira, Paulina Romau, Wladimir Rosero, Hugo Ruiz Coral, Malki Saenz, Maria del Pilar Trayat, Eugenia Vallejo, Galo Viteri, Katiuushka Yanez, and Guido Zambrano. Their comments, suggestions, and input, along with those from the many others who attended this workshop, added greatly to this volume. We are especially thankful to Marcelo Romero and Nelson Gutiérrez for their exceptional work in preparing the Spanish version of this publication as well as piec- ing together the English version. We are very grateful for the work of Michael Geller, who gave key administrative and logistical support to the process of this work, as well as to Chris Humphrey for having collaborated on the technical editing of the English version of various chapters. The World Bank team in Ecuador should also receive a well-deserved thank you for their outstanding support and help in coordinating the March 19–20 workshop in Quito: Alexandra Del Castillo, Cinthia Guzmán, Daniela Jaramillo, Pilar Larreamendy, Vinicio Valdivieso, Lucy Vargas, and Ana Maria Vil- laquirán. Without them, achieving the right environment for these important dis- cussions would not have been possible. The World Bank team in Washington was also a strong component during this whole process. Finally, we would like to thank the World Bank publication team: Santiago Pombo-Bejarano, Stuart Tucker, and Rick Ludwick supervised the entire process and provided key information and assistance at all stages of publication. We extend our sincere thanks to all. Vicente Fretes-Cibils, Marcelo M. Giugale, and Eduardo Somensatto Washington, D.C. May 2008 xviii REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 24. xix Marcelo Giugale, an Argentine/Italian national, holds a PhD and MSc in economics from London School of Economics, and a BA in economics from Universidad Catolica Argentina. After a spell in academia, he joined the World Bank’s Young Pro- fessionals Program in 1989 as an economist in the financial research department. From 1990 to 1994, he was a Senior Economist in the Middle East Operations Vice Presidency, supervising Egypt’s structural adjustment program and leading the Bank’s reconstruction work in postwar Lebanon. From 1994 to 1998, Mr. Giugale was Prin- cipal Economist in the Europe and Central Asia Region, responsible for the Bank’s lending and analytical economic work in Lithuania and Kazakhstan. In September 1998, he became the Lead Economist for the Colombia-Mexico-Venezuela Depart- ment. From December 2002 to June 2007, he was the director of the Bank’s Andean Countries Department (Bolivia, Ecuador, Peru, and República Bolivariana de Venezuela). Currently Mr. Giugale is the Bank’s Director for Poverty Reduction and Economic Management in the Latin America and the Caribbean Region. He has held teaching positions at London School of Economics and American University in Cairo, and has many publications in the areas of applied econometrics, finance, busi- ness economics, and economic development. Vicente Fretes-Cibils, a native of Argentina, completed his undergraduate work at the Universidad Nacional del Nordeste, in Argentina, and subsequently pursued postgraduate studies at the University of Pennsylvania and North Carolina State Uni- versity, where he received, respectively, a master’s degree in business administration and a PhD in economics. Following his university studies, he joined the World Bank in 1987 through the Bank’s Young Professionals Program. Following stints in the Bank’s Office of the Vice President for Europe and the Middle East and its Treasury Department, he served from 1988 to 1992 as Economist in the Office of the Vice President for West Africa Operations. Later, from 1992 to 1996, he served as Chief Economist in the Department of Operations for Andean Countries, supervising adjustment programs and heading up economic and analytical missions to Bolivia. From 1996 to 2002, Mr. Fretes-Cibils served as Senior Economist for República Bolivariana de Venezuela, and subsequently for Colombia and Mexico. From 2002 to 2007 he was Lead Economist in the Poverty Reduction and Economic Management sector for the Andean Countries Department (Bolivia, Ecuador, Peru, and República Bolivariana de Venezuela). He is currently a Division Chief of Fiscal and Editor Biographies
- 25. Municipal Management, Institutional Capacity and Finance at the Inter-American Development Bank. Additionally, he has taught at Argentina’s Universidad Nacional del Nordeste and at North Carolina State University, and has published numerous works addressing topics in finance, applied econometrics, public finance, interna- tional economics, and economic development. Eduardo Somensatto, a Brazilian national, did his doctoral work at Georgetown Uni- versity (1980), where he also earned his MA (1977), and earned a BS in Economics Development at the University of Michigan (1974). He joined the World Bank in January 1988 as an Economist in the Development Economics and Chief Economist’s Office. He has since held various positions in the Bank and the International Finance Corporation; he has been responsible for the preparation of several economic studies and country strategies, mostly for Latin America and Eastern European countries. Most recently, he was Country Manager in Guatemala and Country Manager in Ecuador. Before joining the Bank, Mr. Somensatto taught at Georgetown University and was Assistant Director of Economic Policy Studies at the American Enterprise Institute. xx REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 26. xxi AADT annual average daily traffic ADR alternative dispute resolution ADV added distribution value AE Eat Well Ecuador (Alimentate Ecuador) AFTA American Free Trade Agreement AGD Deposit Guarantee Agency (Agencia de Garantia de Depositos) ALADI Latin American Integration Association ALNAFT Agency for the Valuation of Hydrocarbon Resources AME Association of Municipalities of Ecuador API American Petroleum Institute APRENDO academic achievement testing APTDEA Andean Trade Promotion and Drug Eradication Act ARPEL Asociación Regional Petrolera Empresarial Latinoamericana AUS Universal Health Insurance BCE Central Bank of Ecuador (Banco Central de Ecuador) BdE Banco del Estado BDH conditional cash transfer (Bono de Desarrollo Humano) BE Beca Escolar BEDE Ecuadoran Development Bank BEV Banco Ecuatoriano de Vivienda Boe barrels of oil equivalent BNF National Development Bank (Banco Nacional de Fomento) bpd barrels per day BS Bono Solidario CAE Ecuadoran Customs Corporation (Corporación Aduanero de Ecuador) CAF Andean Development Corporation CAN Andean Community of Nations (Comunidad Andina de Naciones) CATEG-D Corporación para la Administración Temporal Eléctrica de Guayaquil (formerly Empresas Electricas del Ecuador— EMELEC) CCCC Civil Commission for the Control of Corruption (Comisión Civica de Control de la Corrupción) Acronyms and Abbreviations
- 27. xxii REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA CEDEGE Center for Development of the Guayas Basin CEL Special Bidding Committee CELADE Latin American Demography Center Centro (Latinoameri- cano de Demografía) CEMs Educational Matrix Centers (Centros Educativos Matrices) CENACE National Center for Energy Control (Corporación Centro Nacional de Control de Energía) CEREPS Special Account for Productive and Social Reactivation (Cuenta Especial de Reactivación Productiva y Social) CESA Central Ecuatoriana de Servicios Agrícolas CET Common External Tariff CETES short-term Treasury Certificates CETUR Ecuadoran Tourism Corporation CFN National Finance Corporation CNJ National Council on the Judiciary CNRH National Council on Hydraulic Resources CNPC China National Petroleum Company CNTTT National Land Transit and Transport Council CODAE Council for Afro-Ecuadorian Development CODENPE Council for the Development of the Indigenous Nations and Peoples of Ecuador COICA Coordinadora de Organizaciones Indígenas de la Amazonia CONADES National Wages Council (Consejo Nacional de Salarios) CONAM National Modernization Council CONAREM National Council for Public Sector Remuneration CONARTEL National Council of Radio and Television CONATEL National Telecommunications Council CONCOPE Consortium of Provincial Councils of Ecuador CONELEC National Electricity Council (Consejo Nacional de Electricidad) CONSEP National Council for the Control of Substances COPEFEN Coordinator of the Emergency Program to Cope with the El Niño Phenomenon CORPEI Exports and Investment Promotion Corporation (Corporación de Promoción de Exportaciones e Inversiones) CPC Code of Civil Procedure CPI Consumer Price Index CPI corruption perception index CREA Center for the Economic Reconversion of Azuay CRM Center for the Reconversion of Manabí CSO civil society organization CTI Technical Commission on Investments of the IESS (Comisión Técnica de Inversiones) CTH Mortgage Titling Company DAC Civil Aviation Office
- 28. ACRONYMS AND ABBREVIATIONS xxiii DECEVALE S.A. depository institution DGVD Decentralized Roads Management Unit DIGMER maritime transport administration DINEPP National Directorate of Continuing Popular Education (Dirección Nacional de Educación Popular Permanente) DNH National Hydrocarbons Directorate DNP National Personnel Directorate DRC domestic resource cost DVP delivery versus payment EAP Energy, Environment, and Population Program EAP economically active population ECOPETROL Colombian Petroleum Company (Empresa Colombiana de Petróleo) ECORAE Eco-Development Institute of the Ecuadoran Amazon EDAP pension savings deposit institutions (Entidades Depositarias del Ahorro Previsional) EEQ Empresa Eléctrica de Quito EIS environmental impact study EITI Extractive Industries Transparency Initiative EMAPS environmental management action plans EMBI Emerging Markets Bond Index EMPROVIT Empresa Nacional de Comercialización de Productos Vitales (National Agency for Vital Products) ENAC Empresa Nacional de Almacenamiento y Comercialización (National Agency for Storage and Commercialization) ENAP National Petroleum Enterprise (Empresa Nacional del Petróleo), Chile ENDEMAIN Survey on Demographics and Maternal and Infant Health (Encuesta Demográfica y de Salud Materna e Infantil) ENFE Ecuadoran National Railway Company ENSO El Niño–Southern Oscillation EPHF Essential Public Health Functions EPR effective protection rate FAC Savings and Continguency Fund (Fondo de Ahorro y Contingencia) FASBASE Strengthening and Expanding the Scope of Basic Health Serv- ices in Ecuador (Fortalecimiento y Ampliación de los Servicios Básicos de Salud en el Ecuador) FATF Financial Action Task Force FDI foreign direct investment FEIREP Fund for Stabilization, Social and Productive Investment, and Reduction of Public Debt (Fondo de Estabilización, Inversión Social y Productiva, y Reducción del Endeudamiento Público)
- 29. FEISEH Ecuadorian Fund for Investment in the Energy and Hydrocar- bons Sectors (Fondo Ecuatoriano de Inversión en los Sectores Energéticos e Hidrocarburos) FENAJE National Federation of Judicial Officials FEP Petroleum Stabilization Fund (Fondo de Establización Petrolera) FEPP Fund for the Progress of the People (Fondo Ecuatoriano Populo- rum Progressio) FERUM Fund for the Electrification of the Rural and Urban Marginal Areas FISE Social Investment Fund (Fondo de Inversión Social Ecuatoriano) FLAR Latin American Reserve Fund FODESEC Sectional Development Fund (Fondo de Desarrollo Seccional) FODETEL Telecommunications Development Fund (Fondo de Desarrollo de las Telecomunicaciones) FONDIFA National Children’s Fund FOPEDEUPO Permanent Fund for University and Polytechnic Development FOSE Fondo de Compensación Social Eléctrica (in Peru) FRTL Fiscal Responsibility Law FTAA Free Trade Agreement of the Americas FTA free trade agreement GCR Global Competitiveness Report GDP gross domestic product GEF Global Environmental Facility GGFR Global Gas Flaring Reduction GNP gross national product GOE government of Ecuador GSP General System of Preferences GSRT gross settlement in real time GUO Global Urban Observatory of the United Nations HACCP Hazard Analysis and Critical Control Point HDI Human Development Index HRM human resources management ICE special consumption tax (Impuesto sobre Consumos Especiales) ICSID International Center for Settlement of Investment Disputes ICT information and communications technology IADB Inter-American Development Bank IEOS Ecuadoran Institute for Water and Sanitation Works IESS Ecuadoran Social Security Institute (Instituto Ecuatoriano de Seguridad Social) ILDIS Instituto Latinoamericano de Investigaciones Sociales ILO International Labour Organization IMCI Integrated Management of Childhood Illness IMF International Monetary Fund xxiv REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 30. INEC Survey on Employment, Unemployment, and Underemployment INECEL National power company INEN Ecuadoran Standardization Institute INGALA National Galápagos Institute INIAP National Institute for Agricultural Research INNFA National Child and Family Institute INTERAGUA International Water Services Guayaquil IOC international oil companies IPO indigenous people’s organization ISP Internet service provider ISR income tax (Impuesto Sobre la Renta) ISSFA Social Security Institute of the Armed Forces (Instituto de Seguridad Social de las Fuerzas Armadas) ISSPOL Social Security Institute of the Police (Instituto de Seguridad Social de la Policia National) ITT Ishpingo-Tambococha-Tiputini ITU International Telecommunications Union IVA value-added tax (Impuesto al Valor Agregado) JAPS water users associations (Juntas de Agua Potable y Saneamiento) JASS water and sanitation councils LAC Latin America and Caribbean Region LEXI Law on Foreign Trade and Investment LIBOR London interbank offered rate LMG Law on Free Maternity Care (Ley de Maternidad Gratuita) LOAFYC Law on Financial Administration and Control (Ley Orgánica de Administración Financiera y Control) LPG liquid petroleum gas LRFP Law on Reform of Public Finances LRSE Reform Law of Electricity Sector Legislation (Ley Reformato- ria de la Ley de Régimen del Sector Eléctrico) LSCCA Civil Service and Administrative Career Law LSMS Living Standards Measurement Study M&E monitoring and evaluation MAG Ministry of Agriculture MBS Ministry of Social Welfare MCCH Maquita Cusinchi MDMQ Municipality of the Metropolitan District of Quito MDGs Millennium Development Goals MDOGs government ministries, departments, and agencies MEC Ministry of Education and Culture MEF Ministry of Economy and Finance MEM Ministry of Energy and Mining ACRONYMS AND ABBREVIATIONS xxv
- 31. xxvi REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA MFI microfinance institution MICIP Ministry of Industry and Competitiveness MIDUVI Ministry of Urban Development and Housing (Ministerio de Desarrollo Urbano y Vivienda) MIVI Ministry of Housing MODERSA Modernization and Development of Comprehensive Health Services Networks (Modernización y Desarrollo de Redes Inte- grales de Servicios de Salud) MOP Ministry of Public Works MSP Ministry of Public Health NAP network access point NFPS non-financial public sector NGO nongovernmental organization NOCs national oil companies NTB nontariff barrier OCP Heavy Crude Oil Pipeline (Oleoducto del Crudo Pesado) ODEPLAN Planning Office OECD Organisation for Economic Co-operation and Development OLADE Latin American Energy Organization ONN National Standardization Agency OPEC Organization of Petroleum Exporting Countries ORI Children’s Rescue Operation (Operación Rescate Infantil) OSCIDI Civil Service and Institutional Development Office PACMI Supplementary Food Program for Mothers and Infants (Programa de Alimentación Complementaria Materna-Infantil) PAE School Meals Program (Programa de Alimentacion Escolar) PAHO Pan-American Health Organization PAN Food Program for Boys and Girls (Programa de Alimentacion de Niños y Niñas) PDI Children’s Development Program (Programa de Desarrollo Infantil) PDM Municipal Development Program PPS Social Protection Program (Programa de Protección Social) PRAGUAS Water and Sanitation Program for Rural Communities and Small Municipalities—financed by the World Bank PRG reference generation price PROAUS Universal Health Insurance Program (Programa de Asegu- ramiento Universal en Salud) PROBONA Native Andean Forests Program PRODEPINE Proyecto de Desarrollo de los Pueblos Indígenas y Negroes del Ecuador (Development Project for Indigenous and Black Peo- ples of Ecuador)
- 32. PROFDs Associative Products of Promotion PROJUSTICIA Unidad de Coordinación para la Reforma de la Administración de Justicia PROLOCAL Poverty Reduction and Local Rural Development Project PROMECEB Program for Better Quality Basic Education (Programa de Mejoramiento de la Calidad de la Educación Básica) PROMSA Agricultural Services Modernization Program PRONEPE National Preschool Education Program (Programa Nacional de Educación Preescolar) PROST Pension Reform Options Simulation Toolkit PSP private sector participation PT transmission toll PUCE Catholic University of Ecuador RER real exchange rate RFR Red Financiera Rural RGP referential generation price RISE Ecuadoran Simplified Tax System (Régimen Impositivo Simpli- ficado Ecuatoriano) ROA return on assets ROAA return on average assets ROAE return on average equity RUC centralized taxpayers registry (Registro Único de Contribuyentes) SAPYSB Sub-Secretariat of Potable Water and Basic Sanitation SAPSyRS Sub-Secretariat of Water Supply, Sanitation, and Solid Waste SBS Superintendency of Banks and Insurance (Superintendencia de Banca y Seguros) SCP Subsecretariat of Public Credit (Secretaría de Crédito Público) SelBen System of Identification and Selection of Beneficiaries (Sistema de Identificación y Selección de Beneficiarios) SENATEL National Secretariat of Telecommunications SENDA Secretariat for National Administrative Development SENDOSEP National Secretariat for Organizational Development of the Public Sector SENRES National Technical Secretariat for Human Resources Devel- opment and Compensation in the Public Sector SESA Ecuadoran Animal and Plant Inspection Service SGO General Obligatory Insurance (Seguro General Obligatorio) SG sectional government SIAN Integrated System of Food and Nutrition (Sistema Integral de Alimentacion y Nutricion) SIAP Integrated Personnel Administration System SICA Agricultural Information and Census Service ACRONYMS AND ABBREVIATIONS xxvii
- 33. SIGEF Integrated Financial Management System SIISE Integrated System of Social Indicators of Ecuador Social Indicators System of Ecuador (Sistema Integrado de Indicadores Sociales de Ecuador) SIPREM Public Sector Compensation Budgetary System SINOPEC China Petrochemical Company SIV Housing Incentives System SME small- and medium-sized enterprise SODEM MDG Secretariat (Secretaria de Objectivos del Milenio) SOTE TransEcuadoran Pipeline System (Sistema de Oleoducto Transe- cuatoriano) SP service provider SPC service-providing company SPNF Sector Público No Financiero (see NFPS) SPNG Galápagos National Park Service (Servicio del Parque Nacional Galápagos) SRI Internal Revenue Service SSC Rural People’s Social Security Program (Seguro Social Campesino) SSO Obligatory Social Security (Seguro Social Obligatorio) STFS Social Sector Technical Secretariat SUMA Single Environmental Management System (Sistema Unico de Medio Ambiente) SUPTEL Telecommunications Superintendency TROLE Economic Transformation Law TFP total factor productivity UCV Local Road Works Unit UDENOR Development Unit of the North UOST Trolleybus System Operating Unit URC Credit Restructuring Unit (Unidad de Reestructuración de Créditos) USAID United States Agency for International Development VAD value-added distribution VAT value-added tax WLL wireless local loop WRM water resource management WTI West Texas Intermediate WTO World Trade Organization xxviii REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 34. Context and Executive Summary 1 Eduardo Somensatto I. Introduction The World Bank has prepared this series of notes as a contribution to the policy debate in Ecuador. The notes were written by experts from both within and outside the World Bank, who offer a broad perspective on the issues confronting Ecuador, while taking into consideration international experiences. The notes presented here are not intended to be exhaustive, but rather analyze and present policy options for a limited number of topics considered to be critical for the country’s social and economic development. The policy notes for Ecuador are part of a series of books that the Bank prepares periodically summarizing its accumulated knowledge on the economic and social issues of member countries. The timing of the notes, early 2007, coincides with a new presidential period, which offers the country the opportunity to consolidate many of the gains of the past few years, while building the basis for a more dynamic, equitable, and inclusive growth process. The current volume updates the policy notes prepared four years ago, presented in the book Ecuador: An Economic and Social Agenda for the New Millennium. Much of the analytical work presented in the earlier book remains relevant today, and as a result, certain sections of the current document essentially update that material. The conditions in many sectors have not changed dramatically, and many of the policy recommendations presented in the previous notes are still applicable. Thus, while the current volume can be read as a freestanding work, it has greater analytic power and policy impact when used in tandem with the previous policy notes. Several of the notes in the current volume are based on recently produced World Bank studies. In the past few years the Bank prepared analytical work for Ecuador in several areas. The list is quite extensive and includes an Ecuador poverty assessment, a public expenditure review (jointly with the Inter-American Development
- 35. Bank—IADB), a country financial accountability assessment, a country procure- ment assessment (jointly with the IADB), a social security analysis, a rural develop- ment strategy, a labor market study, a country economic memorandum, and a nutrition study. These studies represent a wealth of analytical work and contain greater detail than some of the notes presented here. The policy notes that follow cover many areas and issues and are grouped under three broad themes: • Preserving stability and accelerating growth. The topics addressed include (i) maintaining fiscal discipline to ensure the continuity of a stable macroeco- nomic framework; (ii) accelerating and broadening economic growth through increased competitiveness, expanded opportunities, and greater employment generation; (iii) dealing effectively with the myriad problems affecting the energy sector; and (iv) broadening the benefits of growth through more inclu- sion, particularly for the rural sector of the economy. • Promoting sustainable and equitable social development. The discussions cover human, natural, and social capital. Particular attention is devoted to the educa- tion and health sectors, as well as the social protection system, all sectors that offer the greatest opportunities for reducing the country’s deep and ingrained inequalities. The notes also cover other facets of the development challenge, such as ensuring the sustainability of reforms and preserving Ecuador’s unique environmental and natural resource base. In a country with such a rich and diverse cultural base, broadening the benefits of development will entail giving greater voice to the country’s increasingly empowered ethnic and social groups and making the state more accountable. • Improving governance and strengthening institutions. The topic encompasses a broad range of issues, including institutional reforms aimed at building a high- quality and efficient system of government, the challenges of decentralization, and effective measures to reduce corruption. II. Overview The analysis contained in the policy notes indicates that Ecuador is a country with great potential, with a society that has exhibited incredible resilience and the ability to adapt to new challenges. The Ecuadoran society has overcome adversity with great determination in the past few years. Periodic economic crises, external shocks, and even natural disasters tested the country’s ability to cope with difficulties. Despite these challenges, the country has maintained a forward-looking perspective and has achieved some important goals. Economic stability in the past few years has given Ecuador the opportunity for a period of sustained economic growth. During this period several development indicators have improved, and several sectors of the economy have demonstrated the dynamism and entrepreneurship that are present in 2 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA-
- 36. the Ecuadoran culture. In general, surveys show that Ecuadorans feel that their individual conditions are likely to improve in the future. Many factors have precluded the country from fulfilling its full economic potential. Foremost among them is political instability. A major obstacle to achieving a higher level of development has been the lack of political constancy and policy continuity. Frequent changes of authorities and policy reversals have stifled economic performance by generating uncertainty and harmful economic cycles. Political insta- bility and discord have precluded the country from agreeing on a long-term national agenda and have prevented the pursuit of consistent policies to reduce Ecuador’s long-time problems of exclusion, inequity, and lack of opportunity for much of the population. Among the factors driving this instability are deep social, ethnic, and regional divisions, along with weak political institutions. In the past 10 years, the political environment has been particularly volatile in Ecuador. Starting in 1996, none of the elected presidents have been able to complete their constitutionally mandated term. There have been no fewer than six presidents and numerous cabinet ministers during this period. Several factors contributed to this volatility, including questioned ethical conduct, economic crisis, the loss of public confidence, and unstable coalitions. The developments of the past 10 years reveal the challenges the country faces in strengthening its democratic institutions. Today Ecuador has a unique opportunity to consolidate and improve on the recent economic gains. The country is currently experiencing a period of improved economic and social conditions unmatched since the return of democracy in 1979. Thanks in part to greater macroeconomic stability achieved through dollarization in 2000, the increase in petroleum prices, and greater remittance flows, social and eco- nomic indicators have risen considerably in the past five years. The improvement has been particularly noteworthy in levels of consumption; in the growth of imports and nontraditional exports; and in investments, housing, construction, and the recovery of the financial sector. The economy seems to have sufficient momentum to ensure continuity in these trends. The financial situation of the government is also better. In fact, the current administration, of President Rafael Correa, is the first, during the new democratic period, that will inherit a relatively favorable fiscal position. Though the financing requirements of the central government will be significant, ways could be devised to finance many of the newly proposed initiatives and to enhance the role and design of those programs that benefit the needy. Several layers of the state apparatus are in better condition to assume certain responsibilities. In particular, the subnational governments have shown the ability and the competence to handle many of the public sector services and have been extremely successful in responding to their constituencies. This trend, which has given rise to calls for greater regional and local autonomy, offers an opportunity to build a new, more efficient and effective system of political administration and public service delivery. However, important challenges remain to be tackled if Ecuador is to take advantage of the current favorable economic environment. These challenges range from implementing policies that will sustain and broaden the benefits of current CONTEXT AND EXECUTIVE SUMMARY 3
- 37. growth, to dealing with inequality and institutional weakness and modernizing the public sector. Other major areas include expanding and improving the quality of public services, ensuring a more inclusive development pattern, and addressing the needs of the rural areas. An overarching objective is to make effective use of the country’s rich natural resources, particularly of its diminishing hydrocarbon resources. The current windfall from higher petroleum revenues offers a major opportunity to use those resources more equitably and efficiently. From an intergenerational perspective, equality may require using the current revenues from extracting resources to endow future generations with the higher level of assets and greater opportunities. Today, a large proportion of the petroleum revenues are being enjoyed by the current genera- tion and are financing large universal subsidies, increases in public spending, and a pro-cyclical fiscal policy. Ample opportunity exists to consider alternatives, such as targeting the subsidies, saving some of the additional revenues, pursuing counter- cyclical fiscal policy, and investing in activities that are certain to have high rates of return for society. To broaden and sustain the benefits of the recent economic performance, the country could spur growth in sectors that promote employment creation and improve its competitiveness. Ecuador, as all countries that are participating in the inexorable process of global integration, will confront increasingly competitive markets for its products. Special efforts made now would improve the investment and business climate in the country, which is ranked one of the worst in Latin America. To preserve the effects of dollarization under such an environment, it will be crucial to adopt measures to increase productivity, particularly since the country’s cost structure is being artificially lowered by significant subsidies that might not be sustained. In addi- tion, the lagging performance of the agricultural sector and the special needs of small rural producers will require specific programs to incorporate the sectors more effectively into the national and international markets. Expanding the benefits of development and making opportunities more equitable will work only if the country devotes special attention to those who have been excluded in the past. Ecuador is a country with deep social and regional divisions. It has historically excluded large segments of its society from the benefits of development. This is especially true for the case of indigenous peoples and Afro- Ecuadorans. Both exclusion and inequality fuel much of the resentment and discon- tentment that prevail in some segments of society that are looking for new political directions. While many parts of the country have seen great improvement, many provinces did not get the assistance necessary to lift their population from poverty. Most of those are predominantly rural provinces, with an inefficient agricultural base and a large number of small producers who lack access to credit and services. Besides the support those sectors require, the regions have deficient infrastructure that can only be improved by significant public investment. To reduce inequality and break the intergenerational poverty trap, it will be important to make more effective use of the country’s social programs. Despite the improvements of the past few years, Ecuador still lags behind many Latin American 4 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 38. countries in terms of its social indicators. An important segment of the population, essentially the poor, lacks access to basic services. However, the country has an array of social programs that, if properly managed, could be the foundation for helping the poor to become more active participants in the development process. For example, Ecuador has in place the largest cash transfer program in Latin America, in terms of percentage of population covered. Making the program conditional, requiring beneficiaries to demonstrate that their children are attending school and using the health services available, can help reduce school desertion, particularly at the crucial secondary level. Ecuador is also just starting to ensure health access to the poorest people through a universal health insurance program that will change the budgeting for the sector, basing reimbursements on services provided. These programs, along with the effective use of the free maternity care program, can help accelerate the very important trend of reduced infant and child mortality rates, as well as reduced fertility rates, which have declined dramatically in the past two decades. This trend of smaller families is becoming one of the most important factors in improving conditions of many families. Another critical challenge will be to strengthen the institutional and delivery capacity of the public sector. Currently, many of the government agencies and public enterprises face organizational difficulties that prevent them from providing effective and efficient public services. In particular, several social sector programs can be reformed and be structured with the aim not only of improving services, but also of helping to expand opportunities and becoming more inclusive. The country now has an opportunity to take greater advantage of the management abilities that have been demonstrated by several municipalities and provinces, and begin to consider using a more decentralized process of service delivery. These challenges will be encountered in an environment of increasing expectations, in a country full of contrasts. In the past few years, individuals and households have seen their welfare improve. Polls show that individuals and house- holds anticipate that their economic conditions will continue to get better, particularly given the prospect of petroleum revenues and remittances remaining high.This positive individual expectation, however, does not seem to be reflected in the attitude of society as a whole. Polls also show a certain level of collective pessimism. There is an interesting contrast of collective uncertainty versus a more positive individual out- look. A dichotomy exists whereby individuals feel they might be better off in the future, but they do not necessarily feel that the country will. One possible explana- tion is that dollarization has introduced stability, which now allows for longer-term planning and reduces individual uncertainty. The public also now has a sense that the economy is shielded from political instability, the factor that had created most individual uncertainty in the past. The policy notes presented in this book take into consideration the context presented above, and identify many of the challenges the country will face in the near future. The notes cover many areas and subjects but are grouped into three broad themes: preserving stability and accelerating growth, promoting sustainable CONTEXT AND EXECUTIVE SUMMARY 5
- 39. and equitable social development, and improving governance and strengthening institutions. The remainder of this chapter summarizes the main findings and recom- mendations of the policy notes. III. Preserving Stability and Accelerating Growth Many individual policy notes cover issues that come under the broad umbrella of stability and growth. This summary focuses on macroeconomic policies, growth and job creation, the business climate, labor markets, the financial sector, trade and com- mercial policy, the energy sector, agriculture, and rural development. Each chapter follows a similar pattern, with a description of recent and current developments in the sector, along with policy proposals. Recent Economic Developments Despite political difficulties, Ecuador’s economic performance of the past few years has been impressive. Fueled by increasing oil revenues and recovery from the deep financial crisis of 1998–99, the economy has grown at an average of 5 percent per year since 2000. Consumption has grown even faster, averaging close to 6 percent per year. Inflation, which peaked in the middle of 2000 at 100 percent, declined to 3 percent in 2006. Several other economic indicators reveal widespread improvement in economic conditions. Deposits in the banking sector, along with credit, have more than doubled and now are above the precrisis level. Many sectors of the economy, such as construction, agriculture, and nontraditional exports, also have recovered, with nontraditional exports growing at an impressive 15 percent a year since 2002. The recovery during the current decade is in sharp contrast to the performance of the 1990s. The economy at the time had experienced protracted fiscal, inflationary, and financial difficulties that were fueled by external shocks, lax policies, and natural disasters. Those conditions culminated in the deepest financial and foreign exchange crisis in the country’s recent history, leading to financial costs of 15 percent of gross domestic product (GDP). To address the crisis, the government enacted a series of policies, the most drastic of which was to replace the domestic currency with the dol- lar in 2000. Other measures included a series of laws that improved the flexibility of markets and allowed for greater participation of the private sector in certain sectors of the economy. More important, the Fiscal Responsibility and Transparency Law that was passed in 2002 called for saving extra resources from increased petroleum rev- enues and reducing the budget financing vulnerabilities. The law was based on fiscal policy rules that placed limits on the growth of expenditures, while providing for pri- ority programs even in the face of cyclical changes in revenues. The outcome of the dollarization and the supporting policies has been a period of macroeconomic stability. The country has enjoyed the benefits of a favorable 6 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 40. external environment, which has meant low rates of inflation and declining interest rates. Domestic interest rates have fallen to single digits, and a more stable economic environment has given rise to a rapid extension of long-term financing, including mortgages. Real wages have grown by more than 20 percent in the past four years, as has GDP per capita. Employment has grown in line with the growth of the labor force. Macroeconomic stability and growth have also been driven by increases in both the production and the price of petroleum, Ecuador’s largest export product. The September 2003 opening of a privately financed heavy crude oil pipeline allowed private companies to increase exports from around 20,000 barrels a day in 1998 to about 350,000 barrels a day in 2005. Coupled with the output from PetroEcuador, total production in the past three years has averaged around 550,000 barrels per day, an increase of more than 50 percent from the levels at the beginning of the decade. This increase in production was accompanied by a surge in prices, which have almost doubled in the past three years. Both the fiscal positions and external accounts have improved substantially as a result of the higher oil revenues. The primary balance of the central govern- ment reached 5.5 percent of GDP in 2006 (while the overall balance rose to 3.3 percent), compared with about 1 percent in 2001. Ecuador also recovered credit- worthiness, with the decline in its debt burden. Public sector debt as a share of GDP fell from 90 percent in 2001 to 33 percent in 2006. In the external sector, the trade balance showed a surplus of over 4.5 percent of GDP in 2006, despite significant increases in imports. The current account balance also recovered and now has a similar surplus, after having reached a deficit of over 2 percent of GDP in 2001. Foreign exchange reserves now exceed US$2.3 billion, compared with the dangerously low levels of 2000. The confluence of higher oil revenues, dollarization, and the accompanying policies established the basis for a rapid recovery from the financial crisis of the late 1990s. The improvements in the economy have been steady and fairly broad since 2000. Some of the examples are the impressive increases in imports, which have doubled in the past five years. Their strong growth has been present in all categories, particularly imported capital goods, which grew at a remarkable 30 percent annually during this period. The latter reflects the strong performance of investment, especially foreign investment, which has been assisted by greater opportunities in infrastructure and natural resources development, and by better financing mechanisms.The economy’s improvements also generated new jobs and helped lower the unemployment rate to approximately 10 percent of the labor force. The prospects in the near term are favorable. With the price of petroleum expected to remain at current levels for the foreseeable future, the economic outlook is still positive in the near term. Growth is likely to remain above 4 percent for the year. Many of the other macroeconomic indicators are also expected to remain within reasonable ranges. Inflation seems to be under control for the moment, and the external position of the country should be sound enough to preserve the dollarization. CONTEXT AND EXECUTIVE SUMMARY 7
- 41. Despite the recovery of the economy, a general perception persists that the policies of the past few years have not benefited all of the groups in society. This is one of the factors that led the new administration to change the course of economic policy in 2005. The thrust of the new policy is to use public spending to reactivate the economy and to channel the additional petroleum revenues to social programs and projects that could benefit the most disadvantaged of the population. Macroeconomics: Risks and Policy Proposals Uncertainties challenge the sustainability of the recent trends. Part of the good economic performance of the past few years has been a recovery from depressed eco- nomic levels during the 1998–99 crisis. Once that process, now in its final stages, is completed, continued economic growth will depend much more on the expected policy environment. Given the variability in policies and the lack of definition of a longer-term national agenda, the path of future policies is uncertain. The main con- cerns are the preservation of macroeconomic stability, improvement in the business climate, and a more stable legal and regulatory framework. The relaxation of fiscal policy in the past couple years could strain macro- economic stability in the future. Recent measures to raise expenditures and reduce the savings of the public sector have placed fiscal policy in a more vulnerable position. Expenditures have risen by more than 50 percent in the past four years. This has been driven in great part by impressive increases in revenues, owing to additional petro- leum income. The expenditure structure, however, is fairly rigid, and any possible decline in the price of petroleum could wipe out the current surpluses being generated by the nonfinancial public sector. Containment of expenditure increases that have averaged close to 10 percent a year will be essential to maintaining macroeconomic stability, since in a dollarized economy, fiscal policy is the primary policy tool for macroeconomic management. Recent policy measures have liberalized the fiscal management framework as well as liquidity of Ecuador’s treasury and public debt management. The amend- ment of the Fiscal Responsibility and Transparency Law, along with many other measures to ease the use of the oil stabilization funds, lifted the limitations on expenditure growth and modified the allocation of oil revenues in a manner that discouraged public savings. While the funds can now be used for public investments, it is essential that the fund be channeled for productive alternatives, and not current expenditure. As such, the use of the savings could facilitate short-term liquidity management, while making fiscal management more vulnerable to adverse inter- national conditions or other adverse shocks. The key to ensuring continued stability will be to consolidate Ecuador’s fiscal position. In a dollarized economy, fiscal policy is the centerpiece of macroeconomic management. In a petroleum-based economy, fiscal policy is also a key collective instrument to generate savings for future generations. In this context, the course of fiscal policy depends on the decision of how much to save from the current petroleum 8 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 42. revenues and how those savings will be allocated. The creation of many savings funds in the past has obscured fiscal decisions and has added to the already saturated system of earmarking. Consolidating the funds and easing the earmarking would aid the management of fiscal policy. It would give greater flexibility and also a clearer picture of the overall surplus of the nonfinancial public sector. Such a surplus is necessary if the country decides to transfer current wealth to future generations, which can also be effected by bequeathing a lower public debt. The country has made great progress in the past few years in lowering the debt burden, when measured as a share of GDP. This does not mean the country has reached a manageable level of debt. The central government still confronts considerable financing needs, given the scheduled amorti- zations, particularly of domestic debt. To deal with this condition, there are different options, including lengthening the amortization schedules of domestic debt and relying on lower-cost and longer-term-maturity external debt. To carry out such policy, it would be important to have a group of professionals, equipped with the tools and the legal basis, to carry out an active debt management program. The note on debt man- agement in this book highlights the need to develop a strategy to minimize risks and better develop both the primary and secondary markets for public debt. Achieving the goals of fiscal consolidation will require restraining the growth of expenditures while continuing to improve tax administration. The trend of growing expenditures of the nonfinancial public sector has been accelerating in the past few years. Most of this growth has taken place in current expenditures, without much consideration of their social effectiveness. The continuation of such a trend is not consistent with the objective of using the petroleum windfall for the benefit of future generations. It would be preferable to devote more to public investments, but even in that case, it is essential to ensure that those outlays have high social rates of return and are properly managed. Much of the increase in the cost of public investment in Ecuador is due to an inefficient system of procurement, deficient administration, and delays in con- struction. Many of these problems could be overcome by introducing a transparent, more technologically advanced, and more competitive system of procurement throughout the public sector. Similarly, the country has an excellent opportunity, given the advancements in technology, to introduce a system of monitoring the advancement of public works. This system could be coupled with a better process for evaluating the merits of individual components of the public investment program, that is, by consolidating those responsibilities within a single agency or vice ministry. The past few years’ improvements in the management of tax administration are an excellent example of what can be accomplished in the Ecuadoran public sector. Its modernization process has been an unparalleled success, mainly as a result of the continuity in the administration and the determination of its leaders to effect changes. As a result, tax revenues have increased fourfold in seven years, and the efficiency of the tax administration system is one of the best in Latin America. Despite these improvements, much remains to be done, such as reducing tax evasion CONTEXT AND EXECUTIVE SUMMARY 9
- 43. and avoidance, and incorporating into the formal systems a large segment of the economy that is still operating in the informal markets and not paying taxes. Esti- mates show that up to 60 percent of the Ecuadoran economy is still laboring outside the formal structures. As discussed in the next section, incorporating informal activities into the economy will require reducing the barriers to formality, such as business registration and tax administration burdens. Another major policy change will involve the effective joint management of customs administration, with the proper cross-checking of information, and the application of systems similar to those intro- duced in the tax administration area. Economic Growth and Job Creation—Current Conditions and Policy Proposals Perhaps Ecuador faces no greater challenge than to improve its growth prospect and promote greater employment generation. The growth of the average real per capita income in the past decade has been extremely low, around 1 percent per year, essentially the same as productivity growth. With such performance it would take more than 70 years to double per capita income. Whereas, if the country could raise per capita income growth to 4 percent per year, incomes would double every 17 years and would rise eight times over the 70-year period. Ecuador has all of the natural and human conditions to achieve higher growth rates, but it needs to improve the environ- ment and framework that could generate such growth. It will be important to imple- ment policies to expand markets and thereby increase productivity and job creation. To achieve higher growth rates it will be critical to expand the levels of invest- ment (both public and private). Despite the barriers to doing business (discussed below), investments have grown solidly in the past four years. During this period, overall capital formation has been growing twice as fast as GDP. The investment rate today is about 22 percent of GDP. The performance of investment is highlighted by significant increases in the importation of capital and industrial goods, which have increased by more than 60 percent in just four years. Sector data are not easily available, but large investments have taken place in the petroleum sector. With respect to job creation, the evolution of (urban) labor markets has been closely associated with macroeconomic conditions. After reaching a high of 14.4 percent at the height of the economic crisis in early 2000, the unemployment rate declined to less than 10 percent in 2006. During the same period the popula- tion classified as economically active rose by an average of 3 percent per year. Thus, employment creation has mirrored the growth in the economy (the long-term output elasticity of employment is slightly smaller than 1). Most of the employment creation, however, occurred in the informal and temporary job market, which currently accounts for more than half of the economically active population. Most disconcerting are the underemployment figures, which are above 45 percent. Despite the timid employment creation in the formal sector, figures show that most employment creation occurred in those firms that are more productive, use foreign technology more 10 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 44. intensively, have a higher exposure to international competition, and have employees with a higher level of education. As in many other countries, productivity increases and employment creation are associated with educational levels and technology use. Ecuador has a number of barriers to job creation, such as high levels of labor protection and entitlement profit sharing, among others. As a result, there has been tremendous growth in the use of temporary workers, who do not enjoy similar guarantees. Removing or reducing these barriers, as well as improving the regulation of the temporary workers markets, will be key to improving job creation. The lack of significant policy reforms in the past few years could limit future growth and investment. After the initial adoption of some reforms following the financial crisis of 1999, the government has not undertaken significant recent efforts to address the pressing issues that afflict certain sectors of the economy. A number of strategic sectors are in need of fundamental reforms. This is most evident in the energy sector, where both the electricity and hydrocarbon sectors face major challenges. Investors are discouraged by a deficient legal and regulatory structure, arbitrary decisions by the government, the management of public enterprises, the lack of prompt payments, and the large number of nontransparent subsidies being channeled through the sector. In general, political instability and discretionary policies have generated one of the worst business and investment climates in Latin America. Ecuador ranks low in essentially all measures used to qualify countries in terms of their attractiveness to investment. Unless the country addresses many of the factors that influence the business climate, it will be harder to bolster private invest- ment and accelerate economic growth. Many other areas and sectors require attention if the aim is to accelerate growth. Although the financial sector has improved considerably in the past few years, it still suffers from many shortcomings, such as poor access to credit markets, segmented and incomplete markets, low innovation, high operational costs, poor protection of creditors’ rights, weak supervision, among others. Similarly, interna- tional trade policy suffers from the lack of a long-term strategy of integration and from the failure to open the markets to greater competition. Also, the agricultural sector is hampered by low levels of technology, underdeveloped rural financial systems, lack of competitiveness in some products, protected markets, and a price support system that distorts the function of the markets. The supporting infrastruc- ture system needs to be modernized. Ports and customs facilities are some of the most inefficient in Latin America. The time delays for processing both imports and exports raise production costs, and the labyrinth of discretionary policies that are applied in the processing of trade can be a source of corruption. The road network is also deficient and increases operational costs. Science and technology policies are lacking, particularly those that spur innovation and increases in productivity. Complementary to this, and as discussed in the next section, are the insufficient improvements in secondary education enrollment and the quality of education in general. The current environment provides an excellent window of opportunity to carry out the reforms necessary to make growth more sustainable and broader. CONTEXT AND EXECUTIVE SUMMARY 11
- 45. International economic conditions are favorable. The momentum in the economy will afford some time for the implementation of the reforms. The new administration has a chance to redefine economic policy and has a mandate to implement key reforms. Below are just a few recommendations and options that could lead to improvement in the growth prospects. Business Climate and Labor Markets There is a pressing need to generate an environment propitious to investment, both domestic and foreign. The business climate ranks very low when compared with other countries and tends to discourage greater investment. In the Doing Business 2007 rankings, Ecuador ranked 123 out of 175 countries in the sample. This makes the country the fourth worst in the region, after Venezuela (164), Haiti (139) and Bolivia (131). Ecuador lags far behind regional leaders such as Chile (29), Peru (65), El Salvador (71), Colombia (79), and Panama (81). Despite the urgent need to improve the business climate, the country has not made reforms in any of 10 principal areas tracked by the Doing Business database. The cost of doing business and barriers to business formation are still high and burdensome. Registering property was the only area in which Ecuador improved significantly in 2006, moving from 106th to 84th in the international ranking. However, this gain was insignificant when compared with very poor performances in employing workers (161st of 175 in the sample), starting a business (139), closing a business (134), protecting investors (135), and trading across borders (126). Ecuador has a rigidity employment index of 51, compared with a regional average of 32. This index measures labor market regulations and practices related to the costs of hiring and firing workers. For example, in Ecuador the cost of letting an employee go is 135 weeks of wages, when the average for Latin America is approximately 60 weeks. Perhaps the greatest source of uncertainty and cost of doing business lies with the lack of judicial certainty, contract security, and the enforcement of legal agreements. The prevalence of the rule of law and confidence in the judiciary are among the lowest in Latin America. Ecuador ranks in the lower one-third of the countries when measured by the index of the rule of law. Business activity in Ecuador has to contend with arbitrary nullification of contracts, unilateral and retroactive changes of these contracts, failures to collect on payments, and, more generally, consid- erable complexity in handling matters related to intellectual property, insolvency and bankruptcy, antitrust actions, consumer protection, and environmental degradation. These have high economic and social costs, and their application often overwhelms the capacity of civil courts. The traditional resources and capacity of a civil court are clearly inadequate to meet demand. Although the Judiciary Organic Law allows specialization of certain courts or judges for the rapid adjudication of more complex cases, this power has not been fully exercised and could be extended to new areas that have high economic or social impact. The institutional framework for creditor rights and insolvency proceedings is weak, and the prestige of the judiciary is very low. The most frequent complaints of users of the 12 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 46. system are as follows: (i) judges lack sufficient knowledge of business issues and commercial law matters; (ii) in practice, judges lack training and continued education; (iii) most judges exert a pro-debtor tendency in commercial cases; (iv) undue political influence on judges often affects their decisions; (v) corruption issues often affect the court officials and some judges; (vi) inefficiencies abound in court organization; and (vii) issues involving lack of transparency and unpredictability in the judicial decision- making process are frequent. The enforcement of creditors’ rights is a particular concern, since it is weakened by an outdated and ineffective registration system of property rights and the lengthy procedures to enforce unsecured credits. The municipal cadastres and registries of immovable properties are segmented and not easily accessible, making them difficult to use effectively in enforcement proceedings. The country could undertake several measures to improve its investment climate ranking, such as preparing an action plan to respond to the key findings of the Doing Business 2007 report. Among the main measures are to lower the cost of starting and operating a business and to improve labor flexibility and mobility. The regulatory burden in Ecuador is quite high, and a complete review of these required procedures is warranted. The government had prepared a list of the many procedures mandated to start a business, which amounts to 14 steps that take over 90 days and cost 10 times the per capita income in the country (one of the highest costs in the region). These steps can be simplified and the time reduced. Similarly, Ecuadoran businesses spend 15 percent of their time dealing with government regulations, more than in any other country in Latin America. Such requirements increase the possibility of corruption. One approach would be to embark on an administrative simplification program aimed at expediting the granting of licenses and permits. Another would be to reduce the number of visits by regulators, through a process of inspections based on noncompliance risks. Reforms could involve great efforts to modernize the judicial system’s handling of the civil code and to provide greater security for contract and legal agreements. Many legal and administrative reforms can be carried out to modernize the judicial system. In the area of the civil code, they include reviewing the bank- ruptcy and corporate restructuring laws and the laws governing creditors’ rights. The Code of Civil Procedure, which governs bankruptcy processes, is hardly ever used, and the alternative of administrative restructuring under the Preventive Measures Law has failed to achieve its objectives. Hence, an urgent task is to review the laws in order to modernize and facilitate the restructuring procedures. Similarly, new laws and regulations governing secured transactions could make possible the use of a broad range of assets as collateral (e.g., accounts receivables, farm equipment and durable products, and warehouse receipts). Also urgent is the effort to update and upgrade the information systems of title and land registries, lower registration costs, and simplify foreclosures. In general, an essential course is to change the cumbersome legal framework that still favors debtor over creditor rights and to address the lack of speed and predictability of the court system. In this same vein, the public sector itself can take the lead in reducing the degree of arbitrariness and unilateral discretionary CONTEXT AND EXECUTIVE SUMMARY 13
- 47. management of its contracts. One alternative to reduce discretion and possible corruption (discussed in greater detail in section IV) would be to modernize the public procurement system by introducing an Internet-based transactional system that would promote greater transparency and the participation of more service providers. Labor market reforms could be the most critical and difficult. The core issue is how to deal with the divisions and differences that exist between permanent and temporary contracts. In a recent study, “The Ecuadorian Labor Markets; Tendencies and Recommendations,” the World Bank analyzed the different options of maintaining the status quo, restricting temporary contracts, and making permanent contracts less costly and more flexible. Each combination has its advantages and disadvantages. The basic proposals would be to limit temporary contracts to purely temporary activ- ities, limit the number of consecutive temporary contracts any individual can have with a single firm, and have a different social security contribution for temporary workers. For permanent workers, the options are to reduce the compensation for job losses, consider economic reasons as just cause for dismissal, establish an independent arbitration system to resolve conflicts, make the profit system more flexible and the accounts more transparent, and make the firm pension system more equitable among workers. The choice among these options should be based on criteria aimed at making the overall labor market system more flexible, less costly, more equitable, and geared toward employment generation. The Financial Sector The improvement in investment and consumption of the past few years has been assisted in part by the recovery of the financial sector. Since the crisis of 1999–2000 the financial intermediation role of the banks has been restored and the sector has performed relatively well. Deposits have grown rapidly (at an average rate of more than 20 percent per year). The growth of credit has been very similar and has been accompanied by a diversification of the loan portfolio. The sector has had significant increases in nontraditional credit instruments, such as housing and micro- credits. Ecuador now has a vibrant home mortgage market, with tenure of more than 10 years, and historically low interest rates are perhaps the most important factor driving the construction sector. The financial sector today is also on a more solid foundation, with sufficient liquidity, reserves, and high rates of return. The quality of credit has improved, with the share of nonperforming loans now down to below 5 percent (from 15 percent in 2001). The system risk ratio is lower, and credit ratings of banks have risen. Despite the recovery of the financial sector, and its more healthy condition today, important issues are still to be addressed. Financial depth is still rather low, with total assets of the financial sector around 40 percent of GDP, and credit to the private sector only around 18 percent of GDP. The system lacks adequate mechanisms to deal effectively with a liquidity crisis. This is a particular problem in a dollarized economy. Liquidity management remains problematic for Ecuador since the Deposit Guarantee Agency is bankrupt and has no liquidity to honor its obligations. The 14 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 48. current proposals to reform the liquidity fund are too expensive or fall short of providing adequate insurance against a systemic liquidity risk. Banking sector vulner- abilities are also exacerbated by the concentration of the investment portfolio and by the country’s volatile economic and political environment. Markets are shallow and narrow, with limited competition and differentiated access to financial services. The sector still caters mostly to large firms and well- established credit clients. While new products, such as long-term mortgages, have grown rapidly, innovation in the capital markets has been slow, stifled in part by the lack of instruments to reduce credit risks. Capital markets can be deepened in many areas, particularly pension and retirement services, insurance, contractual savings, and the stock market. Pension reforms could be a catalyst to much-needed capital market development, particularly given the absence of mutual funds and other pooling mechanisms. Though interest rates have declined overall (mostly owing to lower inflation), the cost of credit remains high compared with other dollarized economies. The large spreads between borrowing and lending rates, along with the complex system of fees used by the banks, have generated concerns about the inadequate protection of consumers and the lack of transparency. The challenge of the sector is to develop better and more efficient services to small and medium enterprises, and within the whole structure of microcredits. Although Ecuador has a fairly established microfinancing structure (through cooper- atives and other institutions), and the formal banks have considerably increased their presence in the sector, most microenterprises still lack access to the formal market. Small and medium enterprises count on financial credit for only 25 percent of their financing needs. This figure is even smaller for microenterprises. Most of the loans are of short duration, and have a high cost. The greatest barrier to a wider market remains the lack of solid credit histories of or information about potential borrowers and the lack of collateral. Many of the solutions recently proposed are to strengthen the role of the public sector banks and the system of public cooperatives. But other options also exist. One near-term focus might be on promoting private institutions that are already involved in microfinancing to raise credit availability to the small and medium enterprises. Although existing public financial institutions might play a role in direct lending, a more effective means would be to strengthen the existing system of cooperatives and to concentrate on credit information systems and on risk- sharing mechanisms. The cooperatives and other alternative providers offer a base for delivery, but they are limited by liquidity and their ability to pool and share risk. The government could consider allowing for mutually owned institutions and provide incentives for the creation of pooled networks, for example, by reducing capital requirements for those who pool. Partnering with other possible delivery systems, such as the forthcoming network of 1,000 telecommunication centers, could be an alternative, although much training of providers would be needed. Unquestionably, one of the urgent measures is to create better information on small borrowers by establishing effective credit information bureaus that share their credit histories with CONTEXT AND EXECUTIVE SUMMARY 15
- 49. lenders. The great barrier remains risk, and if public institutions are to be directly involved in the delivery of small credits, their primary role should be to help partici- pants develop a solid credit history. To strengthen and expand the role of the financial sector, the government can pursue a number of other policies. Most important is to ensure the stability of the system through sound macroeconomic policies and adequate liquidity management mechanisms. The latter may require either a fund that covers at least 20 percent of deposits or the internationalization of the Ecuadoran banking system. The opening of the sector would allow for greater reliance on international liquidity management. However, this approach would require a change in the law. It also would be impor- tant to raise capital requirements. The current deposit insurance system must be reformed with the adoption of a more credible arrangement. This could entail greater contributions, complemented by innovative methods of insurance, such as with contingent funds. Naturally, the reforms of the bankruptcy laws and creditors’ rights discussed earlier could also strengthen the system. Finally, so as not to undermine the health of the system, care should be taken in adopting recently proposed reforms that place ceilings on interest rates and eliminate all noninterest charges. The reforms should seek transparency and simplification of the processes. Pension reforms and innovation are essential for the future expansion of the financial system. The complexity of the social security system and the need for reforms constitute a very broad subject that deserves special attention and is beyond the scope of this exercise (it has been dealt extensively in the World Bank’s 2005 publication Ecuador: Policy Options for the Social Security System). A key element of any reform would be the transparent separation of the system’s health and other social protections from its retirement funding role. These are separate systems that should be managed separately. Whereas in both programs there is a cause for expanded cov- erage and a minimum guarantee, there is also a need to continue to promote the role of pension funds and individual contributions. The social security system in Ecuador is at a stage of accumulating surpluses, given the demographics of its working popu- lation. Hence, the system continues to be a key net creditor to the government, which means that future liabilities are dependent on the ability of the government to finance the pay-as-you-go system. In the future, other possible uses of the surpluses could be considered. The Ecuadoran Social Security Institute (IESS) could assist in pro- moting the mortgage market, not necessarily by direct lending to members, but in mortgage portfolios or backed securities, thus promoting securitization. Trade Sector and Commercial Policy Although Ecuador’s trade openness is similar to that of other countries in the region and to countries with similar levels of income, the country’s external per- formance is significantly weaker when only non-oil exports are considered. The ratio of non-oil exports to non-oil GDP has declined from 25 percent in 1990–94 to 21 percent in 2000–04 and currently is below the regional average. This decline, combined with strong import growth, has resulted in rising non-oil current account 16 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 50. deficits. Coverage of imports by exports fell to 85 percent in the period 2001–03. Moreover, trade volumes were not very responsive to trade liberalization efforts of the early 1990s. Growth of trade volumes as a percentage of GDP was similar in the eight years prior to and after the reforms. In contrast, other countries that have recently opened their economies to trade exhibit rapid increases in trade volumes following these changes. Limited trade growth is the result of the structure of Ecuador’s exports (con- centration on oil and traditional agricultural products) and inadequate trade and commercial policies. Ecuador’s export concentration ratio is significantly higher than that of its regional competitors, with 95 percent of all non-oil exports being accounted for by only 24 products, and the speed of diversification is slow. Moreover, its exports are much less sophisticated than those of countries with similar levels of income per capita as a result of the relative bias toward extractive and low-value-added exports. Finally, high tariffs on imported intermediate and capital goods and exten- sive use of nontariff instruments, together with deficient transport infrastructure and ineffective customs services, have increased the cost of accessing modern technologies and, more generally, curtailed the international competitiveness of Ecuadoran firms. Unfavorable conditions in international markets and the country’s inability to diversify its export base have also contributed to hampered trade growth. In recent years demand for Ecuadoran products has been weak, mainly as a result of the decline in the demand for traditional commodities (bananas, fish, crustaceans, cocoa, coffee, and textiles) and because of slower productivity gains relative to other countries. In fact, Ecuador’s internationally competitive position in the U.S. market has deteriorated over the past few years. In addition, Ecuador has failed to adapt its export basket to changing conditions in international markets. This contrasts with Eastern European countries, which have pursued an aggressive policy of export diver- sification targeted to strengthened economic integration with the European Union. Both increased diversification and deepened markets appear to be correlated with economic growth, suggesting that Ecuador is forgoing an opportunity for higher economic growth through greater international trade integration, particularly with the United States. The international experience shows that more open economies tend to be more productive. Firms that export and actively participate in the international markets are more efficient, with higher rates of productivity. They also tend to innovate more often, by making effective use of technology transfer. Ecuadoran firms have demon- strated a keen ability to compete internationally. Hence, measures and agreements that open the markets, with the appropriate support and compensation to those adversely affected, should be pursued. Besides agreements on market access with other coun- tries, Ecuador can unilaterally adopt several measures to open its markets, such as reducing tariffs on capital goods, lowering the dispersion of tariffs on intermediate and capital imports, and limiting the “effective protection” in low-value-added activities. It can sharply reduce unnecessary import authorizations and bans, which would permit lower prices and enhanced competition in the market for agricultural inputs. CONTEXT AND EXECUTIVE SUMMARY 17
- 51. In addition, the system of mandatory technical norms should be reviewed. Other measures could include refocusing institutions’ traditional export promotion and competitiveness promotion to place a higher priority on their activities toward new exports. This could be done by (i) promoting business associations, R&D in agricul- ture and food, incubator programs, fiscal incentives for diversification (revising traditional free trade zone incentives and eliminating other tax exemptions not considered in the diversification strategy), and export consortia of small and medium enterprises; (ii) by improving capital risk financing; and (iii) by revamping the quality and standards institutional system. Agreements of market access should be complemented with a set of policies aimed at modernizing services and improving standards. One of the benefits of market access agreements has been the inclusion of complementary measures that are equally as important as trade promotion. These measures include adopting interna- tional standards, modernizing the system of product quality control, reforming cus- toms services, and improving transport and port facilities. The adoption of international standards can be a very important vehicle for technology diffusion and application of good practices, and the standards embed the right incentives for increasing competitiveness of local firms in international markets. Quality control ensures speedier market access and acceptance. Reforms of the customs system can reduce costs and corruption. The same is true of the improvements in the transport infrastructure, which should begin with the port facilities. With both customs and ports, the government could review the regulatory and administrative measures that lengthen clearance times, such as extreme physical inspections, the involvement of many institutions, and the lack of competition among service providers. The most pressing issue is to eliminate discretion and the curse of corruption. Although the initial thrust in customs should be administrative reforms (as previously done in Internal Revenue Service [Servicio de Rentas Internas—SRI]), modern systems and techniques of random and risk-adjusted inspections, as well as cargo handling and port management, can assist in the modernization process. The Energy Sector—Petroleum and Electricity The importance of the petroleum sector for the future of the Ecuadoran economy cannot be overstated. The sector produces approximately 24 percent of GDP and accounts for 30 percent of the nonfinancial public sector revenues and 60 percent of total exports. Through the sector, the government heavily subsidizes the consumption of energy, in the amount of almost 5 percent of GDP. The sector has attracted most of the foreign investment in Ecuador. Private petroleum companies pay one-third of income taxes. With proven reserves estimated to last 23 years at current levels of production, the sector will continue to have a predominant presence in the economy and would still be one of the most important sources of revenues for the country. The variability of government oil revenues, however, will continue to be the main source of the risks to macroeconomic management. 18 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 52. Despite its importance, the sector is going through a very difficult situation that does not portend well for the future. The state petroleum company, Petro- Ecuador, is facing a crisis of significant proportion. Its production, which covers the best sites, is declining, and its investment capacity is limited. Its facilities have deteriorated, and the company is inefficient. Hence, the sector underperforms compared with international standards. Low productivity in the state-owned oil sector is particularly worrisome at present, when oil prices in international markets are hitting record highs, meaning that the opportunity cost of producing below potential is particularly high. While private sector investment has been the main source of increased production in the past few years, it has leveled off since the opening of the new pipeline. Ecuador has not signed a new production-sharing contract in the past eight years, and recent decisions by the government could discourage additional investment. Decisions to unilaterally change contracts retroactively, as well as the controversial decision to nullify the contract with a large multinational oil company, have generated doubts about the security of contracts. The investment needs of the sector are substantial, particularly if the country is to reduce its dependence on imports of refined products. A new refinery could cost upwards of US$4 billion, and to maintain production of crude oil, the whole sector may need an average of US$1 billion a year. These funds are not readily available in Ecuador’s public sector, and other partners will be needed. Finally, the oil companies face challenges in managing both the environmental impact of production and the community relations in the sparsely populated and fragile ecological zone of the Amazon. Because of high levels of subsidies and the complex system of earmarking the distribution of petroleum revenues, most of the benefits are accruing to the current generation and upper income levels. It has been well established that the energy subsidies in Ecuador are provided mostly to the top two quintiles of the pop- ulation (the top 40 percent in the income level). Despite many efforts to reduce and redirect the subsidies, all have failed, and with today’s high international prices and frozen domestic prices, the country is spending more in subsidies than at any time in the past 20 years. The financial burden of the subsidy is hidden in the finances of PetroEcuador and is not explicit in the public budget. The country also loses an estimated 2 percent of GDP through contraband petroleum products shipped to neighboring countries. The earmarking of petroleum revenues is so complex that it is almost impossible to analyze the beneficiaries. Just the four petroleum funds that were created in the past few years have intertwined financing allocations, whereby funds are difficult to trace. In general, the recent decisions by the government have been to reduce the savings from revenues and increase the benefits to the current generation. Though much of the revenues are allocated to investment in other sectors, the returns from some of those investments are uncertain. Under current policies, future generations are not likely to benefit much from the use of a depleted resource. The petroleum sector is in urgent need of reforms and clear policy direction. The principal objectives of the reforms would be to increase investment, production, and CONTEXT AND EXECUTIVE SUMMARY 19
- 53. efficiency while making better use of the resources and improving the environmental management of the sector. The core of the reforms would be to separate the regulatory and production functions by reforming the institutional, regulatory, and contractual functions of the state and allowing PetroEcuador to become an independent enterprise subject to clear rules, preferably similar to rules imposed on other companies. Under the proposed system, the definition of policies and norms would be the responsibility of the central government, and application of the policies and the regulatory function would be assumed by a specialized agency or ministry. This agency could be modeled after regulatory agencies in other countries, which have highly professional and independent regulatory systems. Its main responsibilities would be to administer reserves by assessing the level and economic value of existing oil reserves, promoting the exploration for new reserves, publishing transparent infor- mation, designing and implementing adequate policies regarding the management and exploitation of reserves, and entering into contracts with PetroEcuador and other companies. It would also be responsible for the enforcement of existing contractual arrangements and for the collection of royalties or other payments. PetroEcuador would be an independent public enterprise. It would operate under an autonomous board of directors and have transparent and independent finances. It would have to follow clear rules and regulations, as all other enterprises in the sector do, and could enter into alliances with other companies. Its finances would be transparent and not include the subsidies of refined products. It would eventually compete in the market (of both supply and distribution) of refined products. In the meantime, the state company would still be responsible for improving existing facilities and handling distribution. Making the current subsidies transparent in the budget and reviewing them along with budget earmarking could generate support for reducing them. The attempt to reduce energy subsidies in Ecuador has always been frustrated by public opposition, which has rarely considered other alternatives. Under the proposed reforms, the explicit inclusion of the subsidies in the budget would require approval by the Congress and the executive branch and would reveal the true magnitude of the cost, thus generating possible support for reducing the subsidies and making better use of the funds. Needless to say, the subsidies should be reduced and better targeted. The same applies to the earmarking process, which creates a very rigid allocation. One of the main objectives of the financial reform of the sector would be to make more of the resources available for economic and social projects, as well as for future generations. An important element of any reform in the sector is to improve environmental management of the operations and the relations with the affected communities. This requires a more active role of the Ministry of Environment and new legislation and regulation, along with explicit norms in the contracts. One part of the operation that would be addressed is the associated gas flaring, which can be used more efficiently with the proper application of technology. Reforms also could resolve the existing environ- mental liabilities through fees and particular arrangements with the communities. 20 REVISITING ECUADOR'S ECONOMIC AND SOCIAL AGENDA
- 54. In fact, it would be advisable for the environmental authorities to have a greater partici- pation in the definition of the policies governing petroleum companies’ operations. The electricity sector is also in a deep and growing crisis. The reforms in the 1990s helped to attract some private investment in generation, but they did not lead to the expected increases in competition, expanded capacity, and efficiency. The reforms were incomplete and did not fundamentally alter the public structure of the distribution system, which is fraught with inefficiency and technical and financial losses. The private sector’s interest in generation has been limited by the problems of the sector, by political instability, and by a lack of contract security and prompt pay- ments. The best performance has been in transmission, where modernization of the new structure has been consistent, and a new wholesale market has been introduced. Investment in generation has been insufficient, and the sector is vulnerable to hydrological conditions. Installed capacity has grown by a bit more than 10 percent in the past five years, while demand has increased by almost 20 percent. Part of the increase in demand came from the greater number of connections, with about 90 percent of households in the country now having access to electricity. Per capita use, however, is still low, approximately half the Latin American average. Most of the recent investment in generation has been in high-cost thermal generation that relies on subsidized diesel. The country must now import about 12 percent of the electricity used. Hydroelectric generation still accounts for 45 percent of supply, but it has been declining in importance. As a result, the cost of generation has increased. The projected needs of the sector are significant, and plans are under way to increase capacity by about 1 megawatt. Unfortunately, financing is secured for fewer than half of the projects. Given the gestation period of the investments, the country could face inter- ruptions in the short term, before two hydropower plants come onboard in two years. Thus, it is critical that reforms deal with the financing needs of the sector. The sector’s main problem is its dysfunctional distributional system. The 22 regional distribution companies incur considerable losses and are highly inefficient. Average losses for the system, between theft and technical shortcomings, are about 24 percent of total distribution, while actual collections hover around 90 percent of delivered electricity. As a result, the sector’s losses continue to mount. The accumulated deficit and arrears for the past five years (mainly to PetroEcuador, generators, and suppliers) are over US$1.3 billion and rising by US$200 million a year. Though tariffs have been adjusted, they are not sufficient to cover the cost of operation of the sector. The average tariff of 8.7 cents per kWh is about the midpoint for Latin American countries but below the real cost of the sector, which is about 10.8 cents per kWh. A recent legal reform included dispositions for the government to recognize the accumulated deficits and include in the public budget adequate resources to cover the annual deficits. It remains to be seen, however, how this will be implemented. Although recently enacted legal changes should help correct many pressing problems, fundamental reforms still must be carried out before the sector is on a sound footing. The change of the Electricity Law in 2006, besides addressing the CONTEXT AND EXECUTIVE SUMMARY 21
- 55. Exploring the Variety of Random Documents with Different Content
- 59. The Project Gutenberg eBook of The Days of Auld Lang Syne
- 60. This ebook is for the use of anyone anywhere in the United States and most other parts of the world at no cost and with almost no restrictions whatsoever. You may copy it, give it away or re-use it under the terms of the Project Gutenberg License included with this ebook or online at www.gutenberg.org. If you are not located in the United States, you will have to check the laws of the country where you are located before using this eBook. Title: The Days of Auld Lang Syne Author: Ian Maclaren Release date: September 15, 2013 [eBook #43726] Most recently updated: October 23, 2024 Language: English Credits: Produced by David Widger *** START OF THE PROJECT GUTENBERG EBOOK THE DAYS OF AULD LANG SYNE ***
- 61. THE DAYS OF AULD LANG SYNE
- 62. By Ian MacLaren 1895 TO THE MEMORY OF MY MOTHER CONTENTS A TRIUMPH IN DIPLOMACY FOR CONSCIENCE SAKE A MANIFEST JUDGMENT DRUMSHEUGH'S LOVE STORY PAST REDEMPTION GOOD NEWS FROM A FAR COUNTRY JAMIE SERVANT LASS OOR LANG HAME
- 64. F A TRIUMPH IN DIPLOMACY arms were held on lease in Drumtochty, and according to a good old custom descended from father to son, so that some of the farmers' forbears had been tenants as long as Lord Kilspindie's ancestors had been owners. If a family died out, then a successor from foreign parts had to be introduced, and it was in this way Milton made his appearance and scandalised the Glen with a new religion. It happened also in our time that Gormack, having quarrelled with the factor about a feeding byre he wanted built, flung up his lease in a huff, and it was taken at an enormous increase by a guileless tradesman from Muirtown, who had made his money by selling “pigs” (crockery-ware), and believed that agriculture came by inspiration. Optimists expected that his cash might last for two years, but pessimists declared their belief that a year would see the end of the “merchant's” experiment, and Gormack watched the course of events from a hired house at Kildrummie. Jamie Soutar used to give him “a cry” on his way to the station, and brought him the latest news. “It's maybe juist as weel that ye retired frae business, Gormack, for the auld fairm's that spruced up ye wud hardly ken it wes the same place. “The merchant's put ventilators intae the feedin' byre, and he's speakin' aboot glass windows tae keep the stots frae wearyin', an' as for inventions, the place is fair scatted up wi' them. There's ain that took me awfu'; it's for peelin' the neeps tae mak them tasty for the cattle beasts. “Ye hed nae method, man, and a' dinna believe ye hed an inspection a' the years ye were at Gormack. Noo, the merchant is up at half eicht, and gaes ower the hale steadin' wi' Robbie Duff at his
- 65. heels, him 'at he's got for idle grieve, an' he tries the corners wi' his handkerchief tae see that there's nae stoor (dust). “It wud dae ye gude tae see his library; the laist day I saw him he wes readin' a book on 'Comparative Agriculture' afore his door, and he explained hoo they grow the maize in Sooth Ameriky; it wes verra interestin'; a' never got as muckle information frae ony fairmer in Drumtochty.” “A'm gled ye cam in, Jamie,” was all Gormack said, “for I wes near takin' this hoose on a three-year lease. Ae year 'ill be eneuch noo, a'm thinkin'.” Within eighteen months of his removal Gormack was again in possession at the old rent, and with a rebate for the first year to compensate him for the merchant's improvements. “It 'ill tak the feck o' twa years,” he explained in the kirkyard, “tae bring the place roond an' pit the auld face on it. “The byres are nae better than a pair o' fanners wi' wind, and if he hesna planted the laighfield wf berry bushes; an' a've seen the barley fifty-five pund wecht in that very field. “It's a doonricht sin tae abuse the land like yon, but it 'ill be a lesson, neeburs, an' a'm no expeckin' anither pig merchant 'ill get a fairm in Drumtochty.” This incident raised Gormack into a historical personage, and invested him with an association of humour for the rest of his life, so that when conversation languished in the third some one would ask Gormack “what he hed dune wi' his ventilators,” or “hoo the berry hairst wes shapin' this year.” One could not expect a comedy of this kind twice in a generation, but the arranging of a lease was always an event of the first order in our commonwealth, and afforded fine play for every resource of diplomacy. The two contracting parties were the factor, who spent his days in defending his chief's property from the predatory instincts of enterprising farmers, and knew every move of the game, a man of shrewd experience, imperturbable good humour, and many wiles, and on the other side, a farmer whose wits had been
- 66. sharpened by the Shorter Catechism since he was a boy,—with the Glen as judges. Farms were not put in the Advertiser on this estate, and thrown open to the public from Dan to Beersheba, so that there was little risk of the tenant losing his home. Neither did the adjustment of rent give serious trouble, as the fair value of every farm, down to the bit of hill above the arable land and the strips of natural grass along the burns, was known to a pound. There were skirmishes over the rent, of course, but the battle-ground was the number of improvements which the tenant could wring from the landlord at the making of the lease. Had a tenant been in danger of eviction, then the Glen had risen in arms, as it did in the case of Burnbrae; but this was a harmless trial of strength which the Glen watched with critical impartiality. The game was played slowly between seedtime and harvest, and each move was reported in the kirkyard. Its value was appreciated at once, and although there was greater satisfaction when a neighbour won, yet any successful stroke of the factor's was keenly enjoyed—the beaten party himself conceding its cleverness. When the factor so manipulated the conditions of draining Netherton's meadow land that Netherton had to pay for the tiles, the kirkyard chuckled, and Netherton admitted next market that the factor “wes a lad”—meaning a compliment to his sharpness, for all things were fair in this war—and when Drumsheugh involved the same factor in so many different and unconnected promises of repairs that it was found cheaper in the end to build him a new steading, the fathers had no bounds to their delight; and Whinnie, who took an hour longer than any other man to get a proper hold of anything, suddenly slapped his leg in the middle of the sermon. No genuine Scotchman ever thought the less of a neighbour because he could drive a hard bargain, and any sign of weakness in such encounters exposed a man to special contempt in our community. No mercy was shown to one who did not pay the last farthing when a bargain had been made, but there was little respect for the man who did not secure the same farthing when the bargain was being made. If a Drumtochty farmer had allowed his potatoes to
- 67. go to “Piggie” Walker at that simple-minded merchant's first offer, instead of keeping “Pig-gie” all day and screwing him up ten shillings an acre every second hour, we would have shaken our heads over him as if he had been drinking, and the well-known fact that Drumsheugh had worsted dealers from far and near at Muirtown market for a generation was not his least solid claim on our respect. When Mrs. Macfadyen allowed it to ooze out in the Kildrummie train that she had obtained a penny above the market price for her butter, she received a tribute of silent admiration, broken only by an emphatic “Sall” from Hillocks, while Drumsheugh expressed himself freely on the way up: “Elspeth's an able wumman; there 's no a slack bit aboot her. She wud get her meat frae among ither fouks' feet.” There never lived a more modest or unassuming people, but the horse couper that tried to play upon their simplicity did not boast afterwards, and no one was known to grow rich on his dealings with Drumtochty. This genius for bargaining was of course seen to most advantage in the affair of a lease; and a year ahead, long before lease had been mentioned, a “cannie” man like Hillocks would be preparing for the campaign. Broken panes of glass in the stable were stuffed with straw after a very generous fashion; cracks in a byre door were clouted over with large pieces of white wood; rickety palings were ostentatiously supported; and the interior of Hillocks' house suggested hard-working and cleanly poverty struggling to cover the defects of a hovel. Neighbours dropping in during those days found Hillocks wandering about with a hammer, putting in a nail here and a nail there, or on the top of the barn trying to make it water-tight before winter, with the air of one stopping leaks in the hope of keeping the ship afloat till she reaches port. But he made no complaint, and had an air of forced cheerfulness. “Na, na, yir no interruptin' me; a 'm rael gled tae see ye; a' wes juist doin' what a' cud tae keep things thegither.
- 68. “An auld buildin's a sair trachle, an' yir feared tae meddle wi 't, for ye micht bring it doon aboot yir ears. “But it's no reasonable tae expeck it tae last for ever; it's dune weel and served its time; a' mind it as snod a steadin' as ye wud wish tae see, when a' wes a laddie saxty year past. “Come in tae the hoose, and we 'ill see what the gude wife hes in her cupboard. Come what may, the 'ill aye be a drop for a freend as lang as a'm leevin.” “Dinna put yir hat there, for the plaister's been failin', an' it micht white it; come ower here frae the window; it's no very fast, and the wind comes in at the holes. Man, it 's a pleesure tae see ye, an' here's yir gude health.” When Hillocks went abroad to kirk or market he made a brave endeavour to conceal his depression, but it was less than successful. “Yon 's no a bad show o' aits ye hae in the wast park the year, Hillocks; a'm thinkin' the 'ill buke weel.” “Their lukes are the best o' them, Netherton; they 're thin on the grund an' sma' in the head, but a' cudna expeck better, for the land 's fair worn oot; it wes a gude fairm aince, wi' maybe thirty stacks in the yaird every hairst, and noo a'm no lookin' for mair than twenty the year.” “Weel, there's nae mistak aboot yir neeps, at ony rate; ye canna see a dreel noo.” “That wes guano, Netherton; a'hed tae dae something tae get an ootcome wi' ae crap, at ony rate; we maun get the rent some road, ye ken, and pay oor just debts.” Hillocks conveyed the impression that he was gaining a bare existence, but that he could not maintain the fight for more than a year, and the third became thoughtful. “Div ye mind, Netherton,” inquired Drumsheugh on his way from Muirtown station to the market, “hoo mony years Hillocks's 'tack' (lease) hes tae rin?”
- 69. “No abune twa or three at maist; a 'm no sure if he hes as muckle.” “It's oot Martinmas a year as sure yir stannin' there; he 's an auld farrant (far-seeing) lad, Hillocks.” It was known within a week that Hillocks was setting things in order for the battle. The shrewdest people have some weak point, and Drumtochty was subject to the delusion that old Peter Robertson, the land steward, had an immense back-stairs influence with the factor and his lordship. No one could affirm that Peter had ever said as much, but he never denied it, not having been born in Drumtochty in vain. He had a habit of detaching himself from the fathers and looking in an abstracted way over the wall when they were discussing the factor or the prospects of a lease, which was more than words, and indeed was equal to a small annual income. “Ye ken mair o' this than ony o' us, a 'm thinkin', Peter, if ye cud open yir mooth; they say naebody's word gaes farther wi' his lordship.” “There's some fouk say a lot of havers, Drumsheugh, an' it 's no a' true ye hear,” and after a pause Peter would purse his lips and nod. “A 'm no at leeberty tae speak, an' ye maunna press me.” When he disappeared into the kirk his very gait was full of mystery, and the fathers seemed to see his lordship and Peter sitting in council for nights together. “Didna a' tell ye, neeburs?” said Drumsheugh triumphantly; “ye 'ill no gae far wrang gin ye hae Peter on yir side.” Hillocks held this faith, and added works also, for he compassed Peter with observances all the critical year, although the word lease never passed between them. “Ye wud be the better o' new seed, Peter,” Hillocks remarked casually, as he came on the land steward busy in his potato patch. “A 've some kidneys a' dinna ken what tae dae wi'; a 'll send ye up a bag.”
- 70. “It's rael kind of ye, Hillocks, but ye were aye neeburly.” “Dinna speak o't; that 's naething atween auld neeburs. Man, ye micht gie 's a look in when yir passin' on yir trokes. The gude wife hes some graund eggs for setting.” It was considered a happy device to get Peter to the spot, and Hillocks's management of the visit was a work of art. “Maister Robertson wud maybe like tae see thae kebbocks (cheeses) yir sending aff tae Muirtown, gude wife, afore we hae oor tea. “We canna get intae the granary the richt way, for the stair is no chancy noo, an' it wudna dae tae hae an accident wi' his lordship's land steward,” and Hillocks exchanged boxes over the soothing words. “We 'ill get through the corn-room, but Losh sake, tak care ye dinna trip in the holes o' the floor. A' canna mend mair at it, an' it's scandalous for wastin' the grain. “It's no sae bad a granary if we hedna tae keep the horses' hay in it, for want o' a richt loft. “Man, there's times in winter a 'm at ma wits' end wi' a' the cattle in aboot, an' naethin' for them but an open reed (court), an' the wife raging for a calves' byre; but that's no what we cam here for, tae haver aboot the steadin'.” “Ay, they're bonnie kebbocks, and when yir crops fail, ye 're gled eneuch tae get a pund or twa oot o' the milk.” And if his Lordship had ever dreamt of taking Peter's evidence, it would have gone to show that Hillocks's steading was a disgrace to the property. If any one could inveigle Lord Kilspindie himself to visit a farm within sight of the new lease, he had some reason for congratulation, and his lordship, who was not ignorant of such devices, used to avoid farms at such times with carefulness. But he was sometimes off his guard, and when Mrs. Macfadyen met him by accident at the foot of her garden and invited him to rest, he was
- 71. caught by the lure of her conversation, and turned aside with a friend to hear again the story of Mr. Pittendriegh's goat. “Well, how have you been, Mrs. Macfadyen, as young as ever, I see, eh? And how many new stories have you got for me? But, bless my soul, what's this?” and his lordship might well be astonished at the sight. Upon the gravel walk outside the door, Elspeth had placed in a row all her kitchen and parlour chairs, and on each stood a big dish of milk, while a varied covering for this open-air dairy had been extemporised out of Jeems' Sabbath umbrella, a tea-tray, a copy of the Advertiser, and a picture of the battle of Waterloo Elspeth had bought from a packman. It was an amazing spectacle, and one not lightly to be forgotten. “A 'm clean ashamed that ye sud hae seen sic an exhibition, ma lord, and gin a 'd hed time it wud hae been cleared awa.” “Ye see oor dairy 's that sma' and close that a' daurna keep the mulk in 't a' the het days, an' sae a' aye gie it an airin'; a' wud keep it in anither place, but there's barely room for the bairns an' oorsels.” Then Elspeth apologised for speaking about household affairs to his lordship, and delighted him with all the gossip of the district, told in her best style, and three new stories, till he promised to build her a dairy and a bed-room for Elsie, to repair the byres, and renew the lease at the old terms. Elspeth said so at least to the factor, and when he inquired concerning the truth of this foolish concession, Kilspindie laughed, and declared that if he had sat longer he might have had to rebuild the whole place. As Hillocks could not expect any help from personal fascinations, he had to depend on his own sagacity, and after he had laboured for six months creating an atmosphere, operations began one day at Muirtown market. The factor and he happened to meet by the merest accident, and laid the first parallels. “Man, Hillocks, is that you? I hevna seen ye since last rent time. I hear ye 're githering the bawbees thegither as usual; ye 'ill be
- 72. buying a farm o' yir own soon.” “Nae fear o' that, Maister Leslie; it's a' we can dae tae get a livin'; we 're juist fechtin' awa'; but it comes harder on me noo that a'm gettin' on in years.” “Toots, nonsense, ye're makin' a hundred clear off that farm if ye mak a penny,” and then, as a sudden thought, “When is your tack out? it canna hae lang tae run.” “Weel,” said Hillocks, as if the matter had quite escaped him also, “a' believe ye 're richt; it dis rin oot this verra Martinmas.” “Ye'ill need tae be thinkin', Hillocks, what rise ye can offer; his lordship 'ill be expeckin' fifty pund at the least.” Hillocks laughed aloud, as if the factor had made a successful joke. “Ye wull hae yir fun, Maister Leslie, but ye ken hoo it maun gae fine. The gude wife an' me were calculating juist by chance, this verra mornin', and we baith settled that we cudna face a new lease comfortable wi' less than a fifty pund reduction, but we micht scrape on wi' forty.” “You and the wife 'ill hae tae revise yir calculations then, an' a'll see ye again when ye 're reasonable.” Three weeks later there was another accidental meeting, when the factor and Hillocks discussed the price of fat cattle at length, and then drifted into the lease question before parting. “Weel, Hillocks, what aboot that rise? will ye manage the fifty, or must we let ye have it at forty?” “Dinna speak like that, for it 's no jokin' maitter tae me; we micht dae wi' five-and-twenty aff, or even twenty, but a' dinna believe his lordship wud like to see ain o' his auldest tenants squeezed.” “It's no likely his lordship 'ill take a penny off when he's been expecting a rise; so I 'll just need to put the farm in the Advertiser —'the present tenant not offering '; but I 'll wait a month to let ye think over it.”
- 73. When they parted both knew that the rent would be settled, as it was next Friday, on the old terms. Opinion in the kirkyard was divided over this part of the bargain, a minority speaking of it as a drawn battle, but the majority deciding that Hillocks had wrested at least ten pounds from the factor, which on the tack of nineteen years would come to £190. So far Hillocks had done well, but the serious fighting was still to come. One June day Hillocks sauntered into the factor's office and spent half an hour in explaining the condition of the turnip “breer” in Drumtochty, and then reminded the factor that he had not specified the improvements that would be granted with the new lease. “Improvements,” stormed the factor. “Ye're the most barefaced fellow on the estate, Hillocks; with a rent like that ye can do yir own repairs,” roughly calculating all the time what must be allowed. Hillocks opened his pocket-book, which contained in its various divisions a parcel of notes, a sample of oats, a whip lash, a bolus for a horse, and a packet of garden seeds, and finally extricated a scrap of paper. “Me and the wife juist made a bit note o' the necessaries that we maun hae, and we 're sure ye 're no the gentleman tae refuse them. “New windows tae the hoose, an' a bit place for dishes, and maybe a twenty pund note for plastering and painting; that's naething. “Next, a new stable an' twa new byres, as weel as covering the reed.” “Ye may as well say a new steadin' at once and save time. Man, what do you mean by coming and havering here with your papers?” “Weel, if ye dinna believe me, ask Peter Robertson, for the condeetion o' the oot-houses is clean reediklus.” So it was agreed that the factor should drive out to see for himself, and the kirkyard felt that Hillocks was distinctly holding his own although no one expected him to get the reed covered.
- 74. Hillocks received the great man with obsequious courtesy, and the gude wife gave him of her best, and then they proceeded to business. The factor laughed to scorn the idea that Lord Kilspindie should do anything for the house, but took the bitterness out of the refusal by a well-timed compliment to Mrs. Stirton's skill, and declaring she could set up the house with the profits of one summer's butter. Hillocks knew better than try to impress the factor himself by holes in the roof, and they argued greater matters, with the result that the stable was allowed and the byres refused, which was exactly what Hillocks anticipated. The reed roof was excluded as preposterous in cost, but one or two lighter repairs were given as a consolation. Hillocks considered that on the whole he was doing well, and he took the factor round the farm in fair heart, although his face was that of a man robbed and spoiled. Hillocks was told he need not think of wire-fencing, but if he chose to put up new palings he might have the fir from the Kilspindie woods, and if he did some draining, the estate would pay the cost of tiles. When Hillocks brought the factor back to the house for a cup of tea before parting, he explained to his wife that he was afraid they would have to leave in November—the hardness of the factor left no alternative. Then they fought the battle of the cattle reed up and down, in and out, for an hour, till the factor, who knew that Hillocks was a careful and honest tenant, laid down his ultimatum. “There's not been a tenant in my time so well treated, but if ye see the draining is well done, I'll let you have the reed.” “A' suppose,” said Hillocks, “a 'll need tae fall in.” And he reported his achievement to the kirkyard next Sabbath in the tone of one who could now look forward to nothing but a life of grinding poverty.
- 76. N FOR CONSCIENCE SAKE o man was better liked or more respected than Burnbrae, but the parish was not able to take more than a languid interest in the renewal of his lease, because it was understood that he would get it on his own terms. Drumsheugh indeed stated the situation admirably one Sabbath in the kirkyard. “Whatever is a fair rent atween man an' man Burnbrae 'ill offer, and what he canna gie is no worth hevin' frae anither man. “As for buildings, he 'ill juist tell the factor onything that's needfu', an' his lordship 'ill be content. “Noo, here's Hillocks; he'd argle-bargle wi' the factor for a summer, an' a'm no blamin' him, for it 's a fine ploy an' rael interestin' tae the pairish, but it's doonricht wark wi' Burnbrae. “A 've kent him since he wes a laddie, and a tell ye there's nae dukery-packery (trickery) aboot Burnbrae; he's a straicht man an' a gude neebur. He 'ill be settlin' wi' the new factor this week, a' wes hearin'.” Next Sabbath the kirkyard was thrown into a state approaching excitement by Jamie Soutar, who, in the course of some remarks on the prospects of harvest, casually mentioned that Burnbrae had been refused his lease, and would be leaving Drumtochty at Martinmas. “What for?” said Drumsheugh sharply; while Hillocks, who had been offering his box to Whinnie, remained with outstretched arm. “Naethin' that ye wud expeck, but juist some bit differ wi' the new factor aboot leavin' his kirk an' jining the lave o' us in the Auld Kirk. Noo, if it hed been ower a cattle reed ye cud hae understude it, but for a man——”
- 77. “Nae mair o' yir havers, Jamie,” broke in Drumsheugh, “and keep yir tongue aff Burnbrae; man, ye gied me a fricht.” “Weel, weel, ye dinna believe me, but it wes the gude wife hersel' that said it tae me, and she wes terrible cast doon. They 've been a' their merried life in the place, an' weemen tak ill wi' changes when they're gettin' up in years.” “A' canna believe it, Jamie”—although Drumsheugh was plainly alarmed; “a 'll grant ye that the new factor is little better than a waufie, an' a peetifu' dooncome frae Maister Leslie, but he daurna meddle wi' a man's releegion. “Bigger men than the factors tried that trade in the auld days, and they didna come oot verra weel. Eh, Jamie, ye ken thae stories better than ony o' us.” “Some o' them cam oot withoot their heads,” said Jamie, with marked satisfaction. “Forby that,” continued Drumsheugh, gaining conviction. “What dis the wratch ken aither aboot the Auld Kirk or Free Kirk? if he didna ask me laist month hoo mony P. and O.'s we hed in the glen, meanin' U.P.'s, a'm jidgin'. “He's an Esculopian (Episcopalian) himsel', if he gaes onywhere, an' it wud be a scannal for the like o' him tae mention the word kirk tae Burnbrae.” “Ye never ken what a factor 'ill dae,” answered Jamie, whose prejudices were invincible, “but the chances are that it 'ill be mischief, setting the tenant against the landlord and the landlord against the tenant; tyrannising ower the ane till he daurna lift his head, an' pushioning the mind o' the ither till he disna ken a true man when he sees him.” “Preserve 's!” exclaimed Hillocks, amazed at Jamie's eloquence, for the wrong of Burnbrae had roused our cynic to genuine passion, and his little affectations had melted in the white heat. “What richt hes ony man to hand ower the families that hev been on his estate afore he wes born tae be harried an' insulted by some domineering upstart of a factor, an' then tae spend the money
- 78. wrung frae the land by honest fouks amang strangers and foreigners? “What ails the landlords that they wunna live amang their ain people and oversee their ain affairs, so that laird and farmer can mak their bargain wi' nae time-serving interloper atween, an' the puirest cottar on an estate hae the richt tae see the man on whose lands he lives, as did his fathers before him? “A'm no sayin' a word, mind ye, against Maister Leslie, wha's dead and gaen, or ony factor like him; he aye made the maist he cud for his lordship, an' that wes what he wes paid for; but he wes a fair- dealin' and gude-hearted man, an' he 'ill be sairly missed an' murned afore we 're dune wi' his successor. “Gin ony man hes sae muckle land that he disna know the fouk that sow an' reap it, then a'm judgin' that he hes ower muckle for the gude o' the commonwealth; an' gin ony landlord needs help, let him get some man o' oor ain flesh an' bluid tae guide his affairs. “But div ye ken, neeburs, what his lordship hes dune, and what sort o' man he's set ower us, tae meddle wi' affairs he kens naethin' aboot, an' tae trample on the conscience o' the best man in the Glen? Hae ye heard the history o' oor new ruler?” Drumtochty was in no mood to interrupt Jamie, who was full of power that day. “A 'll tell ye, then, what a've got frae a sure hand, an' it's the story o' mony a factor that is hauding the stick ower the heids o' freeborn Scottish men. “He's the cousin of an English lord, whose forbears got a title by rouping their votes, an' ony conscience they hed, tae the highest bidder in the bad auld days o' the Georges—that's the kind o' bluid that 's in his veins, an' it 's no clean. “His fouk started him in the airmy, but he hed tae leave—cairds or drink, or baith. He wes a wine-merchant for a whilie an' failed, and then he wes agent for a manure company, till they sent him aboot his business.
- 79. “Aifterwards he sorned on his freends and gambled at the races, till his cousin got roond Lord Kilspindie, and noo he 's left wi' the poor o' life an' death ower fower pairishes while his lordship's awa' traivellin' for his health in the East. “It may be that he hes little releegion, as Drumsheugh says, an' we a' ken he hes nae intelligence, but he hes plenty o' deevilry, an' he 's made a beginnin' wi' persecutin' Burnbrae. “A'm an Auld Kirk man,” concluded Jamie, “an' an Auld Kirk man a 'll dee unless some misleared body tries tae drive me, an' then a' wud jine the Free Kirk. Burnbrae is the stiffest Free Kirker in Drumtochty, an' mony an argument a've hed wi' him, but that maks nae maitter the day. “Ilka man hes a richt tae his ain thochts, an' is bund tae obey his conscience accordin' tae his lichts, an' gin the best man that ever lived is tae dictate oor releegion tae us, then oor fathers focht an' deed in vain.” Scottish reserve conceals a rich vein of heroic sentiment, and this unexpected outburst of Jamie Soutar had an amazing effect on the fathers, changing the fashion of their countenances and making them appear as new men. When he began, they were a group of working farmers, of slouching gait and hesitating speech and sordid habits, quickened for the moment by curiosity to get a bit of parish news fresh from Jamie's sarcastic tongue; as Jamie's fierce indignation rose to flame, a “dour” look came into their faces, turning their eyes into steel, and tightening their lips like a vice, and before he had finished every man stood straight at his full height, with his shoulders set back and his head erect, while Drumsheugh looked as if he saw an army in battle array, and even Whinnie grasped his snuff-box in a closed fist as if it had been a drawn sword. It was the danger signal of Scottish men, and ancient persecutors who gave no heed to it in the past went crashing to their doom. “Div ye mean tae say, James Soutar,” said Drumsheugh in another voice than his wont, quieter and sterner, “ye ken this thing for
- 80. certain, that the new factor hes offered Burnbrae the choice atween his kirk an' his fairm?” “That is sae, Drumsheugh, as a 'm stannin' in this kirkyaird— although Burnbrae himsel', honest man, hes said naething as yet— an' a' thocht the suner the pairish kent the better.” “Ye did weel, Jamie, an' a' tak back what a' said aboot jokin'; this 'ill be nae jokin' maitter aither for the factor or Drumtochty.” There was silence for a full minute, for Whinnie himself knew that it was a crisis in Drumtochty, and the fathers waited for Drumsheugh to speak. People admired him for his sharpness in bargaining, and laughed at a time about his meanness in money affairs, but they knew that there was a stiff backbone in Drumsheugh, and that in any straits of principle he would play the man. “This is a black beesiness, neeburs, an' nae man among us can see the end o't, for gin they begin by tryin' tae harry the Frees intae the Auld Kirk, the next thing they 'ill dae wull be tae drive us a' doon tae the English Chaipel at Kildrummie.” “There's juist ae mind, a' tak' it, wi' richt-thinkin' men,” and Drumsheugh's glance settled on Hillocks, whose scheming ways had somewhat sapped his manhood, and the unfortunate land-steward, whose position was suddenly invested with associations of treachery. “We 'ill pay oor rent and dae oor duty by the land like honest men, but we 'ill no tak oor releegion, no, nor oor politics, frae ony livin' man, naither lord nor factor. “We 're a' sorry for Burnbrae, for the brunt o' the battle 'ill fa' on him, an' he's been a gude neebur ta a' body, but there's nae fear o' him buying his lease wi' his kirk. Ma certes, the factor chose the worst man in the Glen for an aff go. Burnbrae wud raither see his hale plenishing gae doon the Tochty than play Judas to his kirk. “It's an awfu' peety that oor auld Scotch kirk wes split, and it wud be a heartsome sicht tae see the Glen a' aneath ae roof aince a week. But ae thing we maun grant, the Disruption lat the warld ken there wes some spunk in Scotland.
- 81. “There 's nae man a' wud raither welcome tae oor kirk than Burnbrae, gin he cam o' his ain free will, but it wud be better that the kirk sud stand empty than be filled wi' a factor's hirelings.” Domsie took Drumsheugh by the hand, and said something in Latin that escaped the fathers, and then they went into kirk in single file with the air of a regiment of soldiers. Drumsheugh set in the “briest o' the laft,” as became a ruling elder, and had such confidence in the minister's orthodoxy that he was accustomed to meditate during the sermon, but on this memorable day he sat upright and glared at the pulpit with a ferocious expression. The doctor was disturbed by this unusual attention, and during his mid-sermon snuff sought in vain for a reason, since the sermon, “On the Certainty of Harvest, proved by the Laws of Nature and the Promises of Revelation,” was an annual event, and Drumsheugh, walking by faith, had often given it his warm approval. He had only once before seen the same look—after the great potato calamity; and when the elder came to the manse, and they had agreed as to the filling quality of the weather, the doctor inquired anxiously how Drumsheygh had done with his potatoes. “Weel eneuch,” with quite unaffected indifference. “Weel eneuch, as prices are gaein', auchteen pund, 'Piggie' liftin' an' me cairtin'; but hevye heard aboot Burnbrae?” and Drumsheugh announced that the factor, being left unto the freedom of his own will, had opened a religious war in Drumtochty. His voice vibrated with a new note as he stated the alternative offered to Burnbrae, and the doctor, a man well fed and richly coloured, as became a beneficed clergyman, turned purple. “I told Kilspindie, the day before he left,” burst out the doctor, “that he had made a mistake in bringing a stranger in John Leslie's place, who was a cautious, sensible man, and never made a drop of bad blood all the time he was factor. “'Tomkyns is a very agreeable fellow, Davidson,' his lordship said to me, 'and a first-rate shot in the cover; besides, he has seen a
- 82. good deal of life, and knows how to manage men.' “It's all bad life he's seen,' I said, 'and it's not dining and shooting make a factor. That man 'ill stir up mischief on the estate before you come back, as sure 's your name's Kilspin-die,' but I never expected it would take this turn. “Fool of a man,” and the doctor raged through the study, “does he not know that it would be safer for him to turn the rotation of crops upside down and to double every rent than to meddle with a man's religion in Drum-tochty? “Drumsheugh,” said the doctor, coming to a stand, “I've been minister of this parish when there was only one church, and I've been minister since the Free Church began. I saw half my people leave me, and there were hot words going in '43; but nothing so base as this has been done during the forty years of my office, and I call God to witness I have lived at peace with all men. “I would rather cut off my right hand than do an injury to Burnbrae or any man for his faith, and it would break my heart if the Free Kirk supposed I had anything to do with this deed. “The factor is to be at the inn on Tuesday; I 'll go to him there and then, and let him know that he cannot touch Burnbrae without rousing the whole parish of Drumtochty.” “Ye 'ill tak me wi' ye, sir, no tae speak, but juist tae let him see hoo the Auld Kirk feels.” “That I will, Drumsheugh; there's grit in the Glen; and look you, if you meet Burnbrae coming from his kirk ye might just——” “It wes in ma ain mind, doctor, tae sae a word for's a', an' noo a 'll speak wi' authority. The Auld and the Frees shoother tae shoother for the first time since '43—it 'ill be graund. “Sall,” said Drumsheugh, as this new aspect of the situation opened, “the factor hes stirred a wasp's byke when he meddled wi' Drumtochty.” The council of the Frees had been somewhat divided that morning—most holding stoutly that Doctor Davidson knew nothing of the factor's action, a few in their bitterness being tempted to suspect every one, but Burnbrae was full of charity.
- 83. “Dinna speak that wy, Netherton, for it's no Christian; Doctor Davidson may be a Moderate, but he's a straicht-forward an' honourable gentleman, as his father wes afore him, and hes never said 'kirk' to ane o' us save in the wy o' freendliness a' his days. “It 's no his blame nor Lord Kilspindie's, ye may lippen (trust) to that; this trial is the wull o' God, an' we maun juist seek grace tae be faithfu'.” Every Sabbath a company of the Auld Kirk going west met a company of the Frees going east, and nothing passed except a no'd or “a wee saft,” in the case of drenching rain, not through any want of neighbourliness, but because this was the nature God had been pleased to give Drumtochty. For the first time, the Auld Kirk insisted on a halt and conversation. It did not sound much, being mainly a comparison of crops among the men, and a brief review of the butter market by the women—Jamie Soutar only going the length of saying that he was coming next Sabbath to hear the last of Cunningham's “course”—but it was understood to be a demonstration, and had its due effect. “A' wes wrang,” said Netherton to Donald Menzies; “they 've hed naething tae dae wi 't; a' kent that the meenute a' saw Jamie Soutar. Yon 's the first time a' ever mind them stop-pin',” and a mile further on Netherton added, “That's ae gude thing, at ony rate.” Burnbrae and Drumsheugh met later, and alone, and there were no preliminaries. “Jamie Soutar told us this mornin', Burnbrae, in the kirkyaird, and a 've come straicht the noo frae the doctor's study, and ye never saw a man mair concerned. “He chairged me tae say, withoot delay, that he wud raither hae cut aff his richt hand than dae ye an ill, an' he 's gaein' this verra week tae gie his mind tae the factor. “Man, it wud hae dune your hert gude gin ye hed heard Jamie this mornin' in the kirkyaird; he fair set the heather on fire—a'm no settled yet—we 're a' wi' ye, every man o's.
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