TURBULENCE HITS PARAGUAY'S AVIATION INDUSTRY

UNCLAS ASUNCION 000742

SIPDIS

SIPDIS
SENSITIVE

E.O. 12958: N/A
TAGS: ECON EAIR PREL PA
SUBJECT: TURBULENCE HITS PARAGUAY'S AVIATION INDUSTRY


1. (SBU) SUMMARY: Despite low passenger volumes and
unprofitable conditions, several airlines are expanding
operations to Paraguay. Regional politics, as opposed to
market realities, drive their decisions. Additionally,
concerns over Bolivia's nationalization of key industries
prompted one airline to shift assets to Paraguay. The
International Civil Aviation Organization (ICAO) expressed
concern over the safety of Paraguay's airports and may issue
an advisory opinion in 2008 warning member countries of these
safety issues. TAM Mercosur airline executives demanded that
DINAC, Paraguay's aviation regulatory agency, repair key
airport infrastructure and equipment, but lax security
controls -- exacerbated by corruption and bribes -- expose
Paraguay's airports to security threats by terrorists, armed
robbers, and traffickers. While DINAC submitted a plan to
the Finance Ministry to upgrade its airports and allow
flights to the United States, the upcoming election season
could increase interest in the airports' deficiencies and
give DINAC an opportunity to improve airport safety. END
SUMMARY.

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CONGESTION IN THE AIRLINE INDUSTRY
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2. (U) Paraguay has two ICAO-monitored international
airports, Asuncion's Silvio Pettirossi International Airport,
and Ciudad del Este's (CDE) Guarani International Airport, as
well as several small, unregulated landing strips. Eleven
airlines served Asuncion in 1996; now, just three airlines
serve Paraguay -- Paraguay-based TAM Mercosur, Bolivia-based
Aerosur, and Brazil-based GOL (Brazil-based Varig, a
wholly-owned subsidiary of GOL, also flies to Asuncion).
Chilean Airline LAN has a code share agreement with TAM
Mercosur but does not operate flights to Paraguay.


3. (SBU) Paraguay's small aviation market continues to
shrink, and many airlines have exited the market because of
low passenger volumes and unprofitability. Paraguay's
airports served 381,357 passengers in 2003, down from an
average of 520,000 per year in the 1990's. American Airlines
served Paraguay for 16 years until January 2006, when it
stopped flying to Asuncion. American ceased operations
because of a law that went into effect in December 2005
obligating airlines to pay travel agents a six percent
commission on tickets sold. (NOTE: Prior to the passage of
the tourism law, the government did not regulate commission
rates, and airlines paid varying commission rates. END
NOTE.) American claimed that both unprofitability and the
regional precedent set by the mandated six percent drove it
out of the market. However, it recently indicated that it
may resume flights to Paraguay by the end of 2007.


4. (U) Several airlines recently entered the market or plan
to offer flights to Asuncion. GOL started a weekly flight
December 2006 from Asuncion to Sao Paulo. According to
Aerosur Sales Director Alberto Cabrera, Aerosur, which
recently opened for business in Asuncion and now offers daily
flights to Santa Cruz, Bolivia; Buenos Aires; and Sao Paulo,
plans to add additional flights from Asuncion not served by
TAM Mercosur such as Montevideo and Madrid. He stated that
Aerosur plans to offer service from Asuncion to Miami by July
2008, the first direct flight to the United States since
American's departure. Cabrera stated that Aerosur focused on
developing a decentralized, point-to-point aviation network
-- in contrast to TAM's hub-and-spoke network emanating from
Buenos Aires and Sao Paulo. Aerolineas Argentinas, in turn,
expressed interest in adding an Asuncion-Buenos Aires route,
and Brazil-based OceanAir may add an Asuncion-CDE-Sao
Paulo-Caracas flight.

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MARKET DYNAMICS
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5. (SBU) Several airlines are expanding operations to
Paraguay due to the country's intensive lobbying efforts.
TAM Mercosur Operations Director Dario Maciel and Commercial
Director Javier Hickethier told EconOff August 14 that
neither passenger demand nor airport safety had improved in
recent years -- in fact, both progressively worsened.
Instead, the executives claimed that DINAC actively recruited
airlines to enter the market. They stated that then DINAC
Chief Tomas Bittar, at Vice President Luis Castiglioni's
behest, personally contacted LAN Chile, Aerosur, Ocean Air,
and Aerolineas Argentinas to encourage them to operate in
Paraguay. Bittar's efforts yielded Aerosur's market entry, a
code share agreement between LAN and TAM Mercosur, and a
commitment by Aerolineas Argentinas to enter the market by
September. Bittar, a close friend and associate of
Castiglioni, resigned from DINAC in June to join
Castiglioni's presidential campaign.


6. (SBU) Cabrera confirmed August 16 that regional politics
prompted Aerosur's move into the country. The Bolivian
government suspended the operations of its flagship carrier,
Lloyd Aereo Boliviano (LAB),in April 2007 due to financial
insolvency. Aerosur says it now carries over 90 percent of
Bolivia's air traffic. Cabrera stated that concerns over
Bolivia's nationalization of key industries prompted the
company's leadership to shift some assets to its Paraguayan
holding company, Aerosur Paraguaya S.A. Cabrera admitted
that the company plans to use its Paraguayan operations as a
failsafe in the event that the Bolivian government decides to
nationalize its civil aviation industry. He stated that
Aerosur informed President Evo Morales of its diversification
plan to discourage him from targeting the company for
nationalization. U.S. Department of Transportation (USDOT)
Negotiator Brian Hedberg told EconOff that the Bolivian
government planned to relaunch a smaller, nimbler LAB in
September 2008 and that Aerosur also faces increased domestic
competition from the new LAB and startup airline Aerolinea
Sudamericana -- another reason why Aerosur entered the
Paraguayan market.

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WILL THE AVIATION INDUSTRY CRASH AND BURN?
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7. (SBU) The ICAO advised DINAC in July of its concern over
the safety of Paraguay's airports and may issue an advisory
opinion in 2008 warning member countries of these safety
issues. The ICAO cited the Paraguayan government's failure
to address critical deficiencies in its airport
infrastructure, air traffic control systems, and security
systems -- particularly its broken radar systems and decrepit
runways. Although the Paraguayan government has long aspired
to transform Asuncion into a major South American airline
hub, its airports may not meet some or all of the safety
standards outlined in the 16 Annexes of the ICAO's Chicago
Convention. The ICAO advised DINAC that unless it addresses
these safety deficiencies, it may issue an advisory opinion
to member countries in early 2008 indicating that Paraguay
failed to meet ICAO standards. (NOTE: Cecilia Capestany of
the U.S. Federal Aviation Administration's (FAA) Western
Hemisphere Office told EconOff that each airline carrier and
member state -- notably Argentina, Bolivia, and Brazil --
would have to weigh the ICAO's opinion and decide whether to
respond to it. Increased aviation scrutiny in Brazil
following the TAM airliner crash in Sao Paulo July 2007 and
an adverse ICAO opinion of Paraguay's safety standards could
prompt some airlines to consider scaling back or suspending
local operations. END NOTE.)


8. (SBU) Reacting to the ICAO's warning, TAM Mercosur
executives demanded that DINAC repair key airport
infrastructure and equipment. In an official memorandum, TAM
cited non-existent radar and visual guidance systems,
unresponsive non-directional beacons (NDBs),faulty
ground-to-air communication systems, malfunctioning runway
lighting, and subpar runways that serve as thoroughfares for
unauthorized individuals, dogs, and fowl, as problems with
Asuncion's airport. TAM executives affirmed that Asuncion's
runways have not been resurfaced since 1964 and have been
repeatedly patched, exposing cracks, fissures, and uneven
pavement.


9. (SBU) Lax security controls -- exacerbated by corruption
and bribes -- expose Paraguay's airports to security threats
by terrorists, armed robbers, and traffickers. Gunmen stole
USD 1.2 million July 31 from two currency exchange service
employees transitting through the Asuncion airport. In a
separate incident in August 2000, eight gunmen disguised as
soldiers stole USD 16 million from security guards loading
the currency onto a TAM aircraft. TAM executives told
EconOff that evidence from the 2000 robbery pointed to
involvement by high-profile Paraguayan officials, indicating
a high level of sophisticated corruption and the systematic
targeting of airports for robberies and drug and contraband
transshipments. More frequently, thieves pilfer travelers'
checked-in luggage.

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PARAGUAY'S RESPONSE
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10. (U) Paraguay's aviation regulatory agency submitted a
plan to the Finance Ministry to upgrade its airports.
EconOff met DINAC President Colonel Eduardo Miers, Operations
Security Chief Colonel Pablo Maldonado, and Director Ceferino
Farias August 14. Miers stated that DINAC hired Spanish
contractor Indra December 2006 to renovate Asuncion's airport
operations. Based on Indra's recommendations, DINAC
submitted a proposal to the Finance Ministry requesting USD
22 million to improve infrastructure, air traffic control
systems, security, and personnel training. The improvements,
if implemented, would help the country's airports satisfy the
ICAO's safety standards. Miers stated that Congress must
approve the funds and has not yet set a timetable for
approval. According to Indra Representative Jose Luis
Galindo, renovations would not begin until mid-2008, even if
Congress approves the funds expeditiously. (NOTE: The
proposed 2008 DINAC budget allocates USD 7.7 million for
capital funding, including USD 2 million for the Asuncion
airport and USD 900,000 for the Ciudad del Este airport. The
budget does not include funds to adequately upgrade the
airports' infrastructure and systems. END NOTE).


11. (SBU) Miers also reported that DINAC approached the FAA
seeking permission for commercial aircraft to fly directly
from Paraguay to the United States. Although Paraguay and
the United States signed an Open Skies Agreement in 2005,
Paraguay's airports must meet the FAA's Category I safety
standards before direct flights can resume (NOTE: The FAA
downgraded Paraguay from Category I to Category II in March

2004. END NOTE). Miers confirmed that he met with FAA and
USDOT officials in Santa Cruz in July and discussed upgrading
Paraguay from Category II to Category I. USDOT Negotiator
Hedberg expressed skepticism that the USDOT would upgrade
Paraguay to Category I in the near term and that USDOT would
likely reject Aerosur's application to initiate direct
flights to Miami from Asuncion because it is not a sovereign
Paraguayan carrier.

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COMMENT
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12. (SBU) The upcoming election season could increase
interest in Paraguay's airport deficiencies and give DINAC an
opportunity to improve airport safety. DINAC and airport
officials seem genuinely concerned that an adverse ICAO
advisory opinion could impact airport operations, perhaps
prompting airlines to cease or scale back operations.
However, the Finance Ministry's failure to push through
DINAC's safety improvement funding request indicates that the
Paraguayan government has not yet prioritized airport safety.
Even if Congress approves the funds to improve airport
safety, DINAC's planned upgrades would not adequately address
the airports' vulnerability to security threats. Embassy is
working with DINAC to see where it can work to improve
airport deficiencies.


Please visit us at http://www.state.sgov.gov/p/wha/asuncion

CASON