SCENE-SETTER FOR CODEL ENGEL TO PARAGUAY

C O N F I D E N T I A L ASUNCION 000747

SIPDIS

PASS TO NSC DFISK, STATE FOR WHA/BSC MDRUCKER, BFRIEDMAN
AND MDASCHBACH, H/CTO DRICH

E.O. 12958: DECL: 10/08/2028
TAGS: PREL ECON PGOV SNAR PA
SUBJECT: SCENE-SETTER FOR CODEL ENGEL TO PARAGUAY

Classified By: Deputy Chief of Mission Michael J. Fitzpatrick for reaso
ns 1.4 (b) and (d).

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SUMMARY
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1. (C) Embassy Asuncion warmly welcomes Codel Engel November
11-13. President Fernando Lugo's administration represents
the first break in the Colorado Party's 61-year streak in
power; as such, it is shaking the foundations of Paraguayan
society. Just on the heels of President Lugo's October 27
meeting with President Bush in Washington, your visit offers
the United States an opportunity to reaffirm its interest in
Paraguay, particularly on trade issues. Lugo's challenges
are many: An inexperienced team, exceedingly high
expectations for change, endemic corruption, weak
institutions, a divided Congress, and meddling by Venezuelan
President Hugo Chavez. Lugo must generate jobs and promote
economic development while downsizing a bloated state and
tackling social and security issues of key concern to his
constituents. Lugo's top goals are fighting corruption and
the underground economy, strengthening weak institutions and
the rule of law, and promoting economic growth. The new
Paraguayan government has indicated its interest in reversing
Paraguay's long-standing objections to U.S. positions in the
WTO. Your visit demonstrates broad U.S. interest in the
bilateral relationship and support for the Paraguayan
government at a critical moment in the country's history.
END SUMMARY.

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LOCAL AND REGIONAL POLITICS
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2. (C) Fernando Lugo's administration represents the first
interruption in Colorado Party rule in 61 years, and as such,
it is shaking the foundations of Paraguayan society. Former
Catholic bishop Fernando Lugo won 40.8 percent of the vote in
April national elections. His Patriotic Alliance for Change
(APC),a loose coalition of political parties, won a large
block of seats in Congress but does not have a majority. By
voting overwhelmingly for change, the Paraguayan people gave
Lugo a mandate for political, economic, and social reform.
However, they also have high short-term expectations. Since
his August 15 inauguration, Lugo has assembled a diverse team
of politicians and technocrats to serve in his cabinet; he
has encouraged each of his ministers to implement a 100-day
plan to show the Paraguayan people that his government is
making progress.


3. (C) Just on the heels of President Lugo's October 27
meeting with President Bush in Washington, your visit offers
the United States an opportunity to reaffirm its interest in
Paraguay, particularly on trade issues. During their hour
and a half-long meeting, President Bush expressed his
commitment to support health, education, and economic
development in Paraguay. The President announced an
additional USD 10 million in U.S. assistance over the next
year for health initiatives and economic development.
President Bush also applauded Lugo's anti-corruption efforts,
which will be supported by Phase Two of the Millennium
Challenge Corporation's Threshold Program. Paraguay submitted
its Stage Two Threshold proposal September 30, with great
interest and support from Lugo and his economic cabinet. The
proposal is now being reviewed by the Millennium Challenge
Corporation. President Bush also recognized Lugo's
commitment to fighting drug trafficking.


4. (C) We believe Lugo is a leftist at heart, but a
pragmatist of mind. Lugo has acknowledged the
Washington-Caracas tug-of-war, and has said he is not Chavez,
and will not blindly follow Chavez' Bolivarian ideas. Lugo
told Ambassador October 9 that international relations are
between countries, not specific individuals, and are based on
mutual respect and independence. (NOTE: Lugo made similar
comments privately to President Bush and in his subsequent
White House press conference October 27. During the meeting
with President Bush, Lugo also highlighted his interest in
the Uruguayan model as an appropriate approach for Paraguay.
END NOTE). Lugo appears to be determined to steer his own
course, but will likely be sensitive to attempts to
strong-arm Paraguay or to undermine its independence or
sovereignty, whether by Venezuela or the United States. Lugo
appears to have played a helpful role in Union of South
American Nations (Unasur) talks on Bolivia, and is developing
constructive relationships with Uruguay, Chile and Colombia.
He visited Washington for the first time in May 2007, and
traveled to New York for the United National General Assembly
(UNGA). Lugo has traveled extensively since his April
election.

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AN UPHILL BATTLE
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5. (C) Lugo's challenges are many: His inexperienced team
needs to meet Paraguayans' high expectations for change, but
will have to overcome endemic corruption, weak institutions,
and a divided Congress to do so. He faces continued
criticism related to President Chavez' attempts to meddle in
domestic politics. Lugo does not have his own political
party, and has distant (at best) relations with his Liberal
Party Vice President, Federico Franco. His own inner circle
continues to jockey for power and ideological influence. So
far, Lugo has weathered the minor storms he has faced, but he
has yet to develop a clear national agenda, or to engage in
the political brokering which will be critical to his
administration's success. A more in-depth discussion of some
of Lugo's challenges follows.

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THE ECONOMIC REALITY
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6. (SBU) Lugo must promote economic development while cutting
the bloated Paraguayan state. Agriculture represents 21.9
percent of gross domestic product (GDP),and the economy is
heavily dependent on exports of soybeans, cotton, grains,
cattle, timber, sugar, and electricity. More than 250,000
families depend on subsistence farming activities and
maintain marginal ties to the larger productive sector of the
economy. Paraguay boasts vast hydroelectric resources,
including the massive Itaipu hydroelectric dam built and
operated jointly with Brazil, but fails to capitalize on
those resources. The new government welcomes foreign
investment, but widespread corruption and a weak judicial
system are deterrents to investment. Paraguay's real GDP in
2007 was USD 12.8 billion (in 2000 dollars),with a
per-capita GDP (purchasing power parity) of USD 4,000 in
current U.S. dollar terms in 2007; inflation in 2007 was 6.0
percent, down from 12.5 percent in 2006. In addition to
retail, banking, and professional services, there is
significant commercial activity involving the import of goods
from Asia and the United States for re-export to neighboring
countries. The underground economy, which is not included in
the national accounts, probably equals the formal economy in
size.


7. (U) The domestic labor force included an estimated 2.73
million workers in 2006. Total unemployment for 2006
officially stood at 11.4 percent, up from 9.4 percent in

2005. Total underemployment for 2006 stood at 24.0 percent,
down from 25.1 percent in 2005. With a population growth
rate above two percent annually, a key challenge is the
creation of enough jobs to meet increasing demand. While the
supply of workers is relatively large and growing, experts
cite the lack of a skilled work force as an obstacle to
economic growth.


8. (U) Bilateral trade with the United States has increased
over the last six years. Although U.S. imports from Paraguay
were only USD 68 million in 2007, up from USD 58 million in
2006, U.S. exports to Paraguay in 2007 were USD 1.2 billion,
up from USD 910 million in 2006. More than a dozen U.S.
multinational firms have subsidiaries in Paraguay, and some
75 U.S. businesses have agents or representatives in
Paraguay. Cargill, ADM, Coca Cola and Exxon Mobile are the
largest U.S. companies operating in Paraguay. As of March
2007, the total foreign direct investment in Paraguay stood
at USD 1,602.52 million. The United States was the largest
foreign investor in Paraguay, with USD 616.50 million,
followed by Brazil with USD 230.85 million. Foreigners
invested a total of USD 110.98 million in Paraguay in 2006,
up from USD 34.79 million in 2005. The largest foreign
investors in 2006 were the United States with USD 67.37
million, followed by Brazil with USD 31.10 million.


9. (U) Paraguay has inefficient state-owned monopolies in the
rail, oil and gas, cement, steel, electricity, water, and
telephone service industries. Political realities render
outright privatizations of state-owned enterprises unlikely
in the short term, although Lugo's economic team is
discussing public-private partnerships to reform state-owned
enterprises. The large state-run companies most attractive
to foreign buyers (such as the telecom and electricity
distribution companies) employ thousands of potential voters
and are outlets for political patronage.


10. (SBU) Paraguay and the United States annually discuss
investment and commercial issues via the Joint Council on
Trade and Investment (JCTI). Key trade and investment issues
in the last JCTI, held in December 2007, included U.S.
certification of Paraguayan beef; technical assistance and
investment in biofuels; FDA approval of Paraguay's natural
sweetener stevia, and Paraguay's request to be given
preferential U.S. treatment such as under the Andean Trade
Preference and Drug Eradication Act (ATPDEA). As the
Commerce Minister likes to say, "we seek trade, not aid." In
2006, Paraguay entertained the idea of a Bilateral Trade
Agreement (BTA),but efforts stalled because Paraguayans
believed they were not ready. Post has not receive any
further formal expressions of interest in a BTA, but the new
government has provided strong indications of its interest in
reversing its objection to U.S. trade preference programs in
the WTO, which would open the door for future trade
discussions. (NOTE: The next WTO meeting on this issue is
November 18. END NOTE).

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PUBLIC SECURITY AND SOCIAL ISSUES
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11. (SBU) Security and social issues are top concerns of
Lugo's constituents. Violent crime is increasing in urban
and rural areas, and the public generally believes that
Paraguayan security forces (particularly the corrupt police)
do not meet their security needs. The "landless" farmer
movement has increasingly taken to protesting and "land
invasions" -- illegally occupying large, privately-held
ranches -- in agitating for agrarian reform. On some
occasions, protests and "land invasions" have resulted in
deaths or injuries.


12. (C) The Tri-Border Area (TBA) of Paraguay, Argentina and
Brazil is a hub for trans-national criminal activity
including drug trafficking, trafficking in persons (TIP),
arms trafficking, intellectual piracy, and money laundering.
Paraguay is a major transshipment point for cocaine from
Colombia and Bolivia to Brazil; it is the top marijuana
producer in South America, and Paraguay remains a regional
haven for money laundering. Paraguayan authorities often
experience difficulties enforcing the law because of hostile
geography, corruption, chronic understaffing, and the
political and judicial power some drug traffickers wield.
Paraguay took a giant step forward on money laundering,
intellectual property violations, and trafficking in persons
by passing a tougher penal code in June that will go into
effect next year. Like his predecessors, Lugo is sensitive
to "satanizing" the TBA, but has sent some promising signals
by mentioning the need to eradicate terrorism during his
speech at the UNGA, and by signing agreements with Colombian
President Uribe to promote collaboration in that area.


13. (SBU) Inefficient, state-run institutions dominate
Paraguayan social services, and Lugo pledged to improve
social services spending and make health care and education
reform government priorities. Social services spending
increased since 2003; however, most spending augmented
employees' salaries. Many Paraguayans lack basic access to
health care facilities, particularly in rural areas, and many
more are uninsured. Government agencies and state-owned
enterprises provide basic public services, but access is
limited and services have deteriorated in quality.

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LUGO'S GOALS AND U.S. ASSISTANCE TO PARAGUAY
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14. (U) Lugo's goals are to strengthen democratic
institutions, fight corruption and informality, create a
professional civil service, and promote economic growth.
Reforming the National Police and land reform, including a
national land survey, are also priorities. He promised
improved social services and to promote a "social justice"
agenda. Lugo and several key ministers told the Ambassador
October 9 that his government is interested in discussing
commercial issues (particularly beef and stevia) and economic
development with the United States. This broader trade
relationship was again repeated in the October 27 Bush/Lugo
meeting.


15. (U) U.S. assistance in Paraguay supports many of Lugo's
goals. USAID/Paraguay's FY08 budget is USD 7.8 million and
focuses on Economic Growth; Improved Health Care; Sustainable
Management of Natural Resources and Protected Areas; and
Democratic Strengthening. USAID's Economic Growth Program
("Paraguay Vende") has generated over USD 60 million in
additional sales and over 30,000 full-time job equivalents
since 2003, thus supporting Lugo's goal to reduce poverty.
Likewise, USAID's Health Program supports Lugo's stated
interest in improving basic health services. Specifically,
it targets decentralizing health services, improving maternal
and child care services, and increasing Paraguay's capacity
to deliver family planning services. In the environment
sector, USAID continues to support improved management of
protected areas. The Democracy Program focuses on fighting
corruption, giving civil society a voice, and promoting
decentralization and municipal development. Additionally,
Paraguay's Millennium Challenge Account Threshold Program has
provided USD 35 million over the past two years in an effort
to fight corruption and formalize Paraguay's economy.


16. (U) The Embassy's leading public diplomacy effort is its
English language scholarship program, which identifies
academically outstanding young Paraguayans from families with
limited resources. Since the program's inception in 2006,
the Embassy has awarded over 500 scholarships. USG support
for the Paraguay Military Forces is second only to our
support for Colombia in South America. One highlight is the
U.S. Armed Forces' USD 4.1 million donation of Global Peace
Operations Initiative (GPOI) funds and technical assistance
to Paraguay's United Nations Global Peace Keeping Operations
Program (UNPKO). Other security funding includes State's
International Narcotics and Law Enforcement (INL) money,
which along with DEA and U.S. Special Forces, assists
Paraguay's Anti-Drug Secretariat (SENAD) in combating
narcotics trafficking, money laundering, IPR violations, and
trafficking in persons.

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PRESIDENT RUTHERFORD B. HAYES MEMORIAL
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17. (U) Following the War of the Triple Alliance (1864-70),
Argentina occupied a large portion of the Chaco, Paraguay's
western region. Paraguay and Argentina asked the United
States to rule on ownership of the occupied territory, and on
November 12, 1878, U.S. President Rutherford B. Hayes decided
in favor of Paraguay. Paraguay named the territory
"Presidente Hayes" and its capital, Villa Hayes, in honor of
Hayes. This year marks the 130th anniversary of Hayes'
decision, and your visit will include a brief stop in Villa
Hayes to attend Presidente Hayes' 130th anniversary
celebration. Along with the Ambassador, you will rededicate
the President Rutherford B. Hayes Elementary School,
refurbished this year with U.S. assistance, and donate books
to the school. The Paraguayans consider Hayes a national
hero, and your visit will help reaffirm our long-time
friendship with Paraguay.

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COMMENT
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18. (C) Lugo's meeting with President Bush sent a strong
signal regarding his desire for close relations with the
United States and his intent to steer a neutral course for
Paraguay. If we are to continue to make in-roads with
President Lugo, visits such yours are critical to convincing
him that he can count on the United States. More so than any
other president in modern Paraguayan history, Lugo has an
opportunity to affect real change. However, the deck is
stacked against him. We have an opportunity to forge a close
relationship with Paraguay at a moment when there is growing
anti-American sentiment in much of South America. Lugo told
Ambassador October 9 that the United States has a breadth of
experience that Paraguay could learn from, in spite of the
U.S.'s "own shadows." The meeting between Presidents Bush
and Lugo October 27 re-affirmed our long-term relationship
and highlighted the need for a broader commercial/trade
agenda. Your interest in Paraguay demonstrates broad U.S.
interest in the bilateral relationship, and support for
Paraguay's pragmatic president at a critical moment in the
country's history. END COMMENT.

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

Ayalde