MERCOSUR's structural convergence fund (FOCEM)56

a. Main features

MERCOSUR is a regional integration process in the Southern Cone. It was created in 1991 by Argentina, Brazil, Paraguay and Uruguay. Venezuela became a full member in 2012 (six years after the signature of the Protocol of Accession).⁵⁷ In 2014 the region’s GDP was almost US$3.2 trillion; it had a population of 286 million people and an area of 12.8 million km². Intra-regional trade accounted for 14.4% total flows, but it was significantly more important for the small economies (e.g., Uruguay and Paraguay).

Since its early years, MERCOSUR has been confronted to a significant challenge: huge structural (economy, population, geographic extension) and policy asymmetries among its members. In 1991—1994 Brazil accounted for 79% of the bloc’s population, 72% of its area and 68% of its GDP, followed by Argentina (17, 23 and 29%, respectively). Paraguay and Uruguay accounted jointly for less than 4% of MERCOSUR’s area and population and less than 3% of its GDP (Gaya, 2008).

In contrast to other regional integration processes in the region (such as ALALC, CAN, CARICOM and MCCA), MERCOSUR did not include any special and differentiated treatment for small or less developed countries. According to IDB-INTAL (2007), the absence of compensation mechanisms was due to the assumption that Paraguay and Uruguay would be able to gain from scale economies arising from the access to the Argentine and Brazilian bigger markets and attract investments accordingly. Thus, instruments to reduce disparities among MERCOSUR members were limited to longer schedules of trade liberalization, larger lists of exceptions to common external tariff for Uruguay and Paraguay and flexibility in rules of origin in the case of the latter (Gaya, 2008).

Despite the progress in the integration process, some years later Paraguay and Uruguay began to claim that asymmetries had enlarged, in part because gains from integration were unfairly distributed among MERCOSUR members. Consequently, they demanded a compensation mechanism.⁵⁸

FOCEM was the regional response to those claims. It is a regional fund created in 2004’⁹ (in force since 2006) with the aim of reducing disparities among MERCOSUR countries. FOCEM’s specific purposes are to promote structural convergence, to develop competitiveness, to foster social cohesion (especially in small economies and least developed regions) and to support the operation of the institutional structure and the strengthening of the integration process. Paraguay and Uruguay are the main beneficiaries of the resources.

b. Planning, finance and institutional arrangements at regional level

As FOCEM’s main purpose is to reduce disparities, its contribution to regional physical integration can only be significant if it is considered as an adequate means to reach that goal by member countries. From the fund’s creation to date, many projects have been related to physical integration, but this emphasis can change as long as member countries’ priorities and perceptions do.

FOCEM deals with two issues that other regional mechanisms do not address. On the one hand, member countries make regular budgetary contributions tofinance projects. On the other hand, financing is conditioned to matching funds by local counterpart, which provides incentives for project execution.

Regional planning and project identification

Despite being conceived as a regional instrument, FOCEM is organized on an inter-government basis where projects are designed nationally and oriented mainly to reduce asymmetries among members. Thus, not all projects necessarily contribute to regional integration and some of them are purely national.

Each country submits proposals that are assessed according to FOCEM’s protocol. Pluri-state projects (involving more than one country) can be proposed by two or more governments or by MERCOSUR, institutions. Member countries — through the Commission of Permanent Representatives (CRPM for its Spanish acronym) — select projects to be financed taking into account their contribution to reduce regional disparities or strengthen integration.

There are two ways in which infrastructure can contribute to reduce disparities among MERCOSUR members: (a) through developing facilities in least developed regions and (b) through integrating these regions to others (transport and communication infrastructure). As projects are designed nationally, each government decides on the relative weight of (a and b) goals. Therefore, it is up to a government call to promote integration projects only when they are regarded the best way to reduce disparities.

FOCEM is divided into four programs shown below (Table 10.4): structural convergence, competitiveness development, social cohesion and support of the operation of the institutional structure and the strengthening of the integration process, each for one of the specific purposes of the Fund.

The main goal of Program I — which includes projects related to physical integration — is to foster development and structural adjustment of small economies and least developed regions, including improvement of border integration and communications. This is the most important program of FOCEM with 21 projects (out of 45 approved) relating to transport infrastructure, electricity and water representing 88.7% of total resources (US$876 million).

Four types of projects can be financed under Program I. The first category is specifically associated to physical integration. It accounts for 38.9% of total resources (US$529 million). Projects approved until 30th November 2014 are related to transport improvement. It is important to underline that MERCOSUR is not considered a single territory and projects are not aimed to develop a regional transport network. As explained above, they are supposed to reduce asymmetries and contribute directly or indirectly to increase intra-regional trade flows.

Until 2014, there were no projects related to fuel exploration, transport and distribution. All the projects approved under the third category are also related to physical integration: they aim at promoting the interconnection of electric systems of MERCOSUR countries, but there are no instruments to develop

TABLE 10.4 FOCEM programs: description, goals and approved resources’

Source: Authors' elaboration with data from CR.PM.

Note:³ Projects approved until 11/30/2014.

a regional electric market or to improve bilateral trade of electricity through interconnections already available. This component represents 56.9% of total investment with US$773 million, corresponding more than 70% to the biggest project of FOCEM.⁶⁰

In the fourth category (USS57.3 million) there is a bilateral project to improve water and sanitation in Acegua, a border region of Brazil and Uruguay.

Finance, project execution and the role of regional banks

In contrast to other regional initiatives, FOCEM has its own resources that come from regular and nonrefundable contributions by member countries. Its annual budget is US$127 million (US$100 million until Venezuela joined the fund in 2014), but member countries can make additional voluntary contributions for specific purposes. To date, only Brazil has made voluntary contributions for over US$200 million (more than one fifth of total resources since the fund was created). FOCEM cannot borrow funds from third sources. From the point of view of project financing, FOCEM is a non-reimbursable source that can adapt to other sources: national budget, private banks and multilateral financial institutions.⁶¹

As the Fund’s purpose is to reduce asymmetries, Paraguay and Uruguay are the main beneficiaries of the resources and Brazil, Argentina and Venezuela make the largest contributions (Figure 10.3).

Scale is one of the most important limitations of FOCEM. Infrastructure projects require large investments and the fund’s resources are scarce: regular contributions are small and there is no leverage. In addition, considering its annual budget is a fixed amount, the fund becomes relatively less important as economies grow. In 2015, FOCEM’s budget represents only 0.02% of forecasted GPD’" (including regular and voluntary contributions and resources available from previous years) compared to 0.5% of GDP of Cohesion Policy in the EU.⁶ However, some differences between both policies must be considered when comparing them. First, in absence of a regional trade policy and common customs revenues, MERCOSUR does not have its own resources. EU resources.

FIGURE 10.3 FOCEM: Regular contributions'¹ and fund availability by member country and Program IV (2015 budget).

Source: Authors’ elaboration with data from CMC Decision #40/14.

Note:^,1 Voluntary contributions not included.

TABLE 10.5 FOCEM: approved projects by beneficiary (quantity, value, participation and share of FOCEM resources in total financing³

Source: Authors' elaboration with data from CR.PM. ^a Projects approved until 11/30/2014.

in contrast, include members’ contributions⁶⁴ as well as EU traditional own resources (customs duties on imports from outside the EU and sugar levies).⁶⁵ Second, largest net contributions in the EU come from developed countries, but the main donors in FOCEM are developing countries where it is more difficult to get funds to finance development projects abroad. Third, resource allocation in FOCEM is defined on a national basis in order to reduce disparities among member countries. If EU convergence criteria were used in MERCOSUR, Uruguay would be a net contributor while least-developed regions in Brazil and Argentina will be among the main beneficiaries.

Each project is financed by grants (non-repayable funds) disbursed by FOCEM and matching funds from a local counterpart (at least 15% of eligible expenses). As shown in Table 10.5, FOCEM provides almost two thirds of total approved financing. As mentioned above, the existence of matching funds by the beneficiary provide an incentive for project execution and it provides assurances that funds are allocated to the agreed target.

Institutional arrangements

As mentioned earlier, FOCEM is organized on an inter-government basis. Member countries — through the Commission of Permanent Representatives (CRPM for its Spanish acronym) - select projects to be financed taking into account their contribution to reduce regional disparities or strengthen integration. FOCEM’s Technical Unit (UTF for its Spanish acronym), a regional institution depending of MERCOSUR Secretariat, is responsible for project evaluation and monitoring and it works closely to national technical units.

National States are in charge of project execution, even when they delegate this function to public, private or mixed institutions. Only legal entities or natural persons from MERCOSUR countries can be suppliers in acquisitions financed by FOCEM resources and they should be treated equally (national treatment). Projects with a higher degree of regional content will have a 10% preference.

Has FOCEM been a useful tool for reducing asymmetries? A proper answer to that question requires a thorough assessment of approved projects and this is a pending matter for future research. However, the review above suggests two features that are worth considering for an in-depth study. First, given MERCOSUR structural asymmetries, FOCEM policy rationale is justified though the volume of resources seems quite limited to the declared target. In this context, it is not easy to understand why FOCEM has not placed more emphasis on the financial leverage of its own resources. Second, given the absolute and relative importance of Program I - Structural Convergence — and its concentration of physical integration, it is not clear why MERCOSUR has not launched a more ambitious program of regional proportions.