Doing Business in Latin America

By MARY ANASTASIA O'GRADY
September 15, 2006

When the International Monetary Fund and the World Bank convene their annual meetings in Singapore in the next few days, they will be eager to discuss a common problem: how to justify their existence in a world that no longer wants or needs them.

The more elegant term for this discussion is "reform" of the international financial institutions, which were born at Bretton Woods more than 60 years ago under the gold standard. In a world of floating exchange rates and open capital markets, the IMF's raison d'être no longer exists. Its "clients" are rapidly repaying their outstanding loans. Macroeconomic accountability has improved world-wide, not because the fund mandates it but because without the guarantee of IMF rescues, investors now impose their own discipline. If hazards remain it is because, with the IMF still hanging around looking for work, future bailouts cannot be ruled out.

The IMF's sister, the World Bank, is also facing an existential crisis on its lending side. The bankers at the International Finance Corporation, which is dedicated to the private sector, now busy themselves financing big business, a job that ought to be left to the market. The bank's main business of lending to governments in middle-income countries -- that neither seek nor require bank loans -- is drying up. More broadly, foreign aid as a tool for development has increasingly come under scrutiny as wasteful and even counterproductive.

If only the bank would pay more attention to its own research, specifically the annual report titled "Doing Business," which looks at the regulatory policies and tax climate of 175 countries. The 2007 edition was released last week and, not surprisingly, finds that poor countries could be much better off if only they would stop discouraging legal, tax-paying business activity.

When governments make it expensive to operate in the legal sector, small and medium-sized businesses go underground, giving up economies of scale, the benefits of technology and productivity gains. Governments have to rely more and more on large companies for tax revenues and high tax burdens take a toll on competitiveness. Growth rates suffer. Joblessness and poverty persist.

Serious leaders have taken steps to free animal spirits. Much of Latin America has not. In this year's report, as the nearby table shows, the region largely finishes in the cellar. Even Africa outperformed Latin America in its pace of reform this year.

Lest we lose hope, there are a few positive developments to note. Three Latin American countries made the top 10 list of most improved business climates. Mexico is the world's third best reformer (after Georgia and Romania). The report praises Mexico's new securities law that protects minority investors, a streamlined process for business start-ups and a graduated cut in the corporate tax rate to 29% this year from 33% in 2004.

Yet Mexico's corporate tax rate is still too high relative to Eastern European competitors. And even though the country jumped 19 places in its overall rank, it lost ground in important areas such as registering property, international trade and enforcing contracts.

Guatemala and Peru also made the top 10 list of most reformed. But both are still far from exhibiting respect for their entrepreneurial populations. In Guatemala, for example, the bank says that to complete the process of licensing a business takes 23 steps, 390 days and costs 496.47% of income per capita. In the category of "trading across borders," researchers found that importing a container costs $1,985 versus an OECD average of $883. It takes 1,459 days and 36 steps to enforce a contract.

Peru moved up 13 places, but it still ranks a lowly 158th in the regulatory burden of "employing workers" and 135th in "paying taxes." For a medium-sized business to be tax compliant in Peru requires 53 payments, taking 424 hours and costing 40.80% of gross profit. Like its neighbors, Peru doesn't need foreign aid. It needs a leader to take a machete to its red tape.

These countries constitute the good news in the region. The rest of the hemisphere has an even grimmer profile. Costa Rica and Ecuador made zero net reforms over the past 12 months while Venezuela and Bolivia both lost ground. Venezuela dropped 20 places and now has the honor of ranking below Zimbabwe (153). In the "paying taxes" category the survey finds that Venezuelan "entrepreneurs must make 68 payments, spend 864 hours and pay 51.92% of gross profit." To enforce a contract it takes 41 steps and 435 days.

Most troubling for the region is the performance of the South American giant, Brazil. As a middle-income democracy with a young, talented, eager population and a world-class industrial sector, Brazil ought to "get it" by now. But its rankings on paying taxes, starting a business, getting credit and registering property are all worse this year and its overall rank moves up only one place. No wonder the government is always broke and poverty in the favelas is booming.

The World Bank researchers understand that the problem here is politics. They even have some wisdom for would-be poverty-fighters: "In the top reforming economies in the past three years, nearly 85% of reforms took place in the first 15 months of a new government," the report notes. "The message: for a government recently elected (as in Benin) or re-elected (as in Colombia and Mexico), the time to push through ambitious reforms is at the start of its term."

There are at least 10 new governments in Latin America this year and that means there is plenty of opportunity for change. Latin America has taken lots of money from international financial institutions over the years, along with lots of dreadful advice. Now it's time to take note of some sensible guidance, even if that would be bad for those who earn a living shoveling money out the door from Washington.