Mission Concluding Statement 

Paraguay: Staff Concluding Statement of the 2024 Article IV Consultation, Third Review Under the Policy Coordination Instrument, and First Review Under the Resilience and Sustainability Facility

May 8, 2024

Asunción, Paraguay: An International Monetary Fund (IMF) team led by Mr. Mauricio Villafuerte held meetings with Paraguayan government counterparts, private sector, civil society, and development partners during April 29-May 8, 2024, in the context of the 2024 Article IV consultation, the third review of the Policy Coordination Instrument (PCI), and the first review of the Resilience and Sustainability Facility (RSF).

Economic Outlook

Paraguay experienced strong growth in 2023 led by the recovery in agricultural production and electricity generation from the severe drought in 2021/2022. Inflation has been maintained around or below the 4 percent inflation target of the Central Bank of Paraguay (BCP) in the last few months, allowing the central bank (BCP) to significantly reduce its monetary policy rate. Given the favorable macroeconomic conditions and prudent policy management, activity remains robust and risks to the outlook are balanced. Several important administrative reforms took place since the new administration took office and more are envisaged, including under two IMF-supported programs.

The fiscal deficit jumped to 4.1 percent of GDP in 2023, in part due to one-off outlays linked to the recognition of outstanding claims accrued during the pandemic with construction companies and pharmaceutic suppliers . The December 2023 targets under the Policy Coordination Instrument (PCI) on the central government fiscal deficit, and the net incurrence of floating debt limits were met, while the target on the current primary expenditure was missed due to a higher-than-expected repayment of outstanding claims with pharmaceutic suppliers. The fiscal deficit is projected to fall substantially to 2.6 percent of GDP in 2024 in line with the authorities’ objective to converge back to the 1.5 percent of GDP deficit ceiling under the fiscal rule by 2026. The corresponding adjustment would be achieved through a reduction in investment spending (with the completion of large road construction projects) that could be compensated by additional non-tax revenue from Itaipú and an improvement in tax collections, which have increased strongly in the first few months of 2024.

Policy Priorities

Enhancing domestic revenue mobilization should be a key priority given a low tax-to-GDP ratio in Paraguay, sizable development gaps, and the need to rebuild fiscal buffers in the presence of recurrent shocks and fiscal risks . While the authorities do not plan to raise statutory tax rates, they expect to achieve greater revenue generation through increased digitalization of payments and information, standardization of processes and procedures at the recently merged domestic revenue and customs directorates, and a gradual streamlining of tax expenditures. In terms of diversifying the sources of public financing, the efforts to reduce the dollarization of public debt with the successful international issuance of local currency-denominated bonds are important. Further development of domestic capital markets should also help, including through the recent creation of the Superintendency of Securities under the BCP and the Superintendency of Pensions. The latter should lead to increased foreign and institutional participation in the local debt market. These efforts would be complemented by the government’s initiative to foster private investment in infrastructure through the modification of the law on public private partnerships.

There is room to improve the efficiency of public spending, including through strengthening the effectiveness of institutional structures. The implementation of the new regulations on public procurement, the rollout of the new State Resource Management System (SIARE), and the design parametric reforms to the public pension fund system (Caja Fiscal) are specific efforts that are being actively pursued by the current administration in this regard. In addition, implementation of proposals to reform the structure of the state and the civil service should help limit institutional overlaps, enhance the cohesiveness and effectiveness of policy implementation, and lead to a more professional civil service and better workforce planning. Improved supervision and governance of public enterprises is important to address contingent fiscal risks and administrative deficiencies. Finally, there is a need to better target social assistance programs to the most vulnerable beyond current efforts to improve their administration and monitoring. Increased reliance on public-private partnerships could partially compensate for the planned contraction in public investment, and its corresponding law is being significantly revised to facilitate them.

A well-functioning inflation targeting regime with a transparent flexible exchange rate continues to serve Paraguay well . The BCP’s decisive monetary policy actions contributed to a rapid fall in inflation, allowing a gradual relaxation starting in the third quarter of 2023, and monetary policy is now approaching a neutral stance. The BCP should continue to set its monetary policy stance guided by incoming data. This is particularly relevant regarding inflation drivers and the feedback effects between actual inflation and inflation expectations, which have remained well-anchored around the target.

The banking system remains well-capitalized and profitable, and the authorities should continue their efforts to both deepen and widen financial supervision, including risk based. Important advances have been made to expand financial inclusion over the past decade but more needs to be done to enhance financial literacy, improve internet access and connectivity, and lower subscription and financial transaction costs. The identification and understanding of the risks of AML/CFT in Paraguay remain an important objective as still many weaknesses persist as identified by GAFILAT (Financial Action Group of Latin America).

An inclusive growth strategy should aim at reducing informality and expanding integration with international markets. Medium-term growth prospects are positive, partly due to potential foreign investments in green sectors like forestry. There is a need for greater diversification in both export products and markets, multilateral cooperation, and investments in infrastructure to foster trade and economic development. Reduction in a still high level of informality is also warranted to have a meaningful impact on productivity and poverty. Reducing or eliminating taxes and social security contributions alone may not reduce informality and may harm fiscal balances and/or the provision of social services. A multipronged strategy should include reducing transaction costs by simplifying paperwork, making formal employment more accessible, and improving business environment and productivity growth by eliminating inefficient, complicated, and distorting rules. To enhance growth potential further, steps need to be taken to strengthen the anti-corruption framework, governance, and transparency. Some steps in this direction are being taken, including through the roll out of the National Ani-Corruption Strategy in 2023. Registration and tracking of the state officials’ assets through a new information system will increase transparency in public service, while improving the system of purchase and distribution of medicines will also help improve spending efficiency. In addition, revising and upgrading the frameworks on insolvency and land ownership rights should reduce the uncertainties of doing business and should help attract foreign investment.

PCI Review

The authorities remain dedicated to bolstering macroeconomic stability, advancing their structural reform agenda, and sustaining a close policy dialogue with the IMF under the PCI. Commitments under the PCI’s structural reform agenda for end December and March were mostly met. The pension fund supervision law was approved in end-December. The guidelines of decree on "SIPEN" (Pension Information System) to the beneficiaries of the “Coordination of Various State Obligations" (CODE) were implemented. The regulations of the Law Creating the National Council of Public Companies to clarify and strengthen the role of the supervisory Council of Public Companies will be revised prior to the Board meeting. The preparation of a proposal on the formalization of workers employed in micro-small, and medium-sized enterprises, and self-employed is being revaluated by the new government and alternative approaches being considered.

RSF Review

Paraguay has been enacting reforms under the IMF’s RSF to further advance its ambitious climate adaptation and mitigation agenda. In February, the authorities enacted regulation of the non-conventional renewable energy law. By the time of the Executive Board meeting in June, they expect to replace the decree to create the registry of industrial biomass users and establish the prerequisites for the use of biomass and enact a decree to create joint intervention protocols for land use change; and change INFONA’s normative framework aiming at strengthening its institutional and financial capacities to protect native forests and respond to deforestation alerts. Delivering on commitments to implement a comprehensive set of climate-related reforms (measures to increase the resilience of public investments, develop a green taxonomy, contain climate risks to the financial sector, preserve and expand the country’s clean electricity matrix, decarbonize its economy, and conserve its forests) will open investment opportunities and help build resilient and sustainable growth.

The IMF team is grateful to the Paraguayan authorities and other counterparts for the productive discussions.”