Caribbean & Central America - June 2021

On 12 May Guatemala’s congress passed a legislative reform, since sanctioned by the executive, that allows the creation of more free trade zones (FTZs) as part of a post coronavirus (Covid-19) pandemic economic recovery plan. However, critics say that FTZs have not brought sufficient economic benefits in the past and a new strategy is needed.

FTZs are subject to special rules on taxes, exports and customs designed to encourage national and international businesses to set up shop in them. There were previously 17 FTZs in Guatemala, but that number fell to six following a 2016 decree which prohibited 42 industrial activities in the zones and meant companies shut down operations.

Proponents of the latest reform, including economy minister, Antonio Malouf, hope that number will rebound. Malouf said the reforms could allow the creation of 32,000 jobs and attract over US$300m in additional investment. By way of comparison, the country received US$998m in foreign direct investment (FDI) in 2019, according to the United Nations Economic Commission for Latin America and the Caribbean (Eclac), and Malouf has set an FDI target of US$1.2bn in 2021.The reform passed with 84 votes in favour, 15 against and 61 abstentions, with supporters trumpeting it as a step forward in recovering from the pandemic.

However, congressman Samuel Pérez, a member of the Movimiento Semilla opposition party, said the FTZs favour the small number of industries permitted to use them by allowing companies to avoid paying taxes. “What this means is that Guatemala’s economic model becomes competition for a pittance, not competition for qualities or skills of workers, it’s basically competition for poverty wages and avoiding taxes”, Pérez said.

The Central American institute for fiscal studies (Icefi), a Guatemala-based think-tank, echoed these criticisms in a press release published 17 May, calling FTZs “an obsolete and ineffective model of attracting investment and generating jobs based on tax benefits for specific groups of businesses”. Tax privileges have not attracted more investment but reduced fiscal space to finance spending programmes, Icefi added. The think-tank points out that Guatemala has attracted foreign investment worth the equivalent of 1.5% of GDP on average over the last three decades, the least successful country in the region by this measure, despite the use of tax exemptions. Icefi said that tax rates do not solely determine whether or not companies invest in Guatemala, but rather investment decisions are influenced by high levels of crime and corruption, as well as inefficient bureaucracy and poor infrastructure. Icefi said the reform was passed without any serious cost-benefit analysis, and instead recommends a new law on foreign investment as well as a plan for growth and an updated fiscal policy. The reform will allow more tax avoidance and will have a negative effect on tax justice, Icefi argues.

Governments around the world are grappling with how best to get their economies back on track while dealing with the pandemic. While some are attempting to “build back better”, to borrow a phrase from US President Joe Biden, Guatemalan government officials are betting on a strategy which detractors say has a chilling effect on tax collection. Guatemala already struggles to collect taxes, with the second-lowest tax collection rate in Central America after Panama (10.4% and 7.5% respectively in 2020), according to a January report from Icefi. Any policy which makes this harder might seem misguided at a time when the country needs money to pay for measures to address the impact of the pandemic.