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Report No.31737-UYReport No. Uruguay Sources ofGrowth 31737-UY Uruguay Sources of Growth Policies for the Development of Human Capital, Public Disclosure Authorized Public Disclosure Authorized Integration, Competition and Innovation June 14, 2005 Poverty Reduction and Economic Management Unit Latin America and the Caribbean Region Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Document of the World Bank Public Disclosure Authorized Public Disclosure Authorized ICT Information and Communications Technology IDB Inter-American Development Bank IMF InternationalMonetary Fund IMM Municipality ofMontevideo INMvIE National Institute for Minors INDA National Food Institute INE National Statistical Office INIA National Institute for Agricultural Research I" National Institute for Youth IPR Intellectual Property Rights LATU Technological Laboratory ofUruguay MECAEP Full Day Schools Program MERCOSUR Southern Cone Common Market MEVIR Rural Housing Program MFN Most Favored Nation MPYMES Micro and Small and Medium-Size Companies MSP Ministry of Health MTOP Ministry ofTransport and Public Works MTSS Ministry of Labor and Social Security MVOTMA Ministry of Housing, Land Organization and Environment NBC New Commercial Bank NGOs Non-government Organizations NPLS Non-performing Loans NIS National Innovation System NTBs Non-tariff Barriers OECD Organization for Economic Co-operation and Development ORT ORT University PAE School Feeding Program PAYG Pay As You Go PISA International Program for Student Evaluation PNCA National Program for Food Supplements PPP Purchasing Power Parity PSP Private Sector Participation PROJOVEN Young Training Program R&D Research and Development SAAC Food Assistance Service for Collectives SEBRAE Brazilian Support Service for Micro and SMEs SCOT Supervision System for Objective Work Conditions SICE Integrated State Purchasing and Contracts System SME Small and Medium Enterprise NIS National Innovation System SR Remuneration System TCC Thermal Combined Cycle TFP Total Factor Productivity UdelaR University ofthe Republic UI Inflation Unit UNESCO United Nations Educational, Cultural and Scientific Organization UNIT Uruguayan Institute ofTechnical Standards URSEA Power and Water Services Regulatory Unit URSEC Regulating Unit for Communications Services UTE Electric Plants and Transmissions Company UTU Uruguayan Technical University ACKNOWLEDGEMENTS This report has been prepared by a team led by Daniel Oks (Task Manager, LCSPE) based on contributions fiom World Bank staff and consultants during October 2003 and June 2004. The team benefited fiom the cooperation of various government officials as well as from participants of the private sector, think tanks, NGOs, political parties and academia in various seminars and workshops organized between December 2003 and December 2004 in Montevideo; in particular it appreciates the comments received from the current Minister of Economy, Danilo Astori, and the former minister of Economy, Isaac Alfie, during the seminar held in December 2004. The main contributors to the chapters of the main report were: Daniel Oks (Macroeconomics, LCSPE), Julio NoguCs (Trade, Consultant), Omar Chisari (Infiastructure, Consultant), Alvaro Clarke (Capital Markets, Consultant), Guillermo Rozenwurcel (Small and Medium Enterprises, Consultant), Jean Guinet (Innovation, OECD consultant), Raimundo Soto (Factor Productivity, Consultant), Lisa Bhansali (State Reforms, LCSPS), Truman Packard (Social Sectors, LCSHS), Alvaro Forteza (Pensions, Consultant), Carlos Winograd (Competition Policy, Consultant), Alejandro Guerson (Debt Management, LSCPE) and Luis de la Plaza (Banking, FIPSI), The report also benefited from contributions by: Alejandro Guerson (Macro Section and Data), Eduardo Siandra (Capital Markets, Consultant), Germin Lambardi (Infiastructure, Consultant), Carlos Casacuberta (Factor Productivity, Consultant), Nora Lusi (State Reforms, Consultant), Cristina Flood (Social Programs, Consultant), Carlos VClez (Infrastructure, LCSFW), Pablo de Silveira (Education, Consultant) and John Fiedler (Health, LSCHH). The report was enhanced by the valuable comments by peer reviewers responsible for the official review of the document- Luis ServCn and Marcel0 Bisogno, as well as by the following participants at discussion meetings and/or readers of the document at its various stages: Axel van Trotsenburg (Director, LCC7), Guillermo Perry (Chief Economist, LCRCE), Juan Gaviria (Sector Leader, FPSI), Carlos Vdlez (LCSFW), Phillipe Durand (LCSFE), Carlos Winograd (Consultant), Jesko Hentschel (Sector Leader, LCSHD), Emiliana Vegas (LCSHE), and Mauricio Carrizosa (Sector Manager, LCSPE), who improved this report, as well as those who participated in the meetings to discuss the principal aspects of the report. Yanina Budkin (LCC7C) was in charge of communications with media and the logistics of seminars and workshops. Jesica Zupnik and Mariela Alvarez (LCC7C) helped organize the seminars and workshops. In the concluding stages valuable comments and various editorial suggestions were received fiom James Parks (Sector Leader, LCC7A). Mariela Alvarez and Florencia Liporaci were responsible for formatting and compiling the final document. PREFACE Selected technical background papers prepared for this report were edited in a separate volume and are available upon request fiom the task manager; they can also be found on the regional website (www. bancomundial.ora.ar). The following background papers were included: “Fiscal prudence and debt management - reducing macroeconomic volatility in Uruguay” by A. Guerson; “Long- run growth and productivity changes in Uruguay - Evidence fiom aggregate and plant level data” by R. Soto and C. Casacuberta; “Trade negotiations for growth and development” by J. Nogues; “Cost and price of infrastructure - A computable general equilibrium appraisal of gains for Uruguay” by 0. Chisari and G. Lambardi; “Infiastructure sectors - Suumary diagnostics” by 0. Chisari and G. Lambardi; “An anhlisis of the capital market in Uruguay” by A. Clarke; and “Options for pension reform” by A. Forteza. CONTENTS EXECUTIVE SUMMARY .......................................................................... i CHAPTER I:INTRODUCTION ..................................................................................... 1 Structure of the Report ................................................................................................... 2 CHAPTER 11: SOURCES OF GROWTH AND EQUITY -......................................... 4 GROWTH STRATEGY.................................................................................................... 4 2.1 GROWTH.CAPITAL FLOWS AND REGIONAL VOLATILITY ........................................... 4 2.2 FACTORSOF PRODUCTION AND PRODUCTIVITY GROWTH.......................................... 5 2.3 GROWTH.EMPLOYMENT. POVERTY AND EQUITY ....................................................... 9 2.4 SOURCES OF GROWTH .STRUCTURAL FACTORS ..................................................... 11 2.5 THE 3-PILLAR GROWTH STRATEGY ......................................................................... 14 CHAPTER 111: FROM RECOVERY TO GROWTH-CONSOLIDATION OF MACROECONOMIC STABILITY AND SOCIAL PROTECTION .PILLAR 1... 19 3.1 RECENT REFORMS AND MACROECONOMIC DEVELOPMENTS .................................... 19 3.2 REFORMS AND FISCAL SUSTAINABILITY - MACROECONOMICSTRATEGY ...............22 3 . 3 DEBTMANAGEMENT .............................................................................................. ~9 3.4 DE-DOLLAFUZATIONAND MONETARY POLICY ........................................................ 31 3.5 STRENGTHENING BANKS ......................................................................................... 33 3.6 DEVELOPINGCAPITAL MARKETS ............................................................................ 35 3.7 LABORMARKETS .................................................................................................... 39 3.8 REFORMING SOCIAL SECURITY AND THE SOCIAL SAFETY NET ................................. 44 CHAPTER IV: SUSTAINABLE GROWTH . INVESTMENT CLIMATE . PILLAR 2 ......................................................................................................................... 51 4.1 TRADEPOLICY AND INTEGRATION.......................................................................... 51 4.2. FOSTEFUNGEFFICIENCY THROUGH COMPETITIONIN INFRASTRUCTURE .................. 56 4.3 COMPETITION POLICY ............................................................................................. 67 4.4 HUMANCAPITAL DEVELOPMENT AND EQUITY-HEALTH AND EDUCATION.............. 69 CHAPTER V : INNOVATION-DRIVEN GROWTH .PILLAR 3 ............................. 80 5.1 PRIVATE SECTOR DEVELOPMENT (PSD) ................................................................. 81 5.2 SMES AND INNOVATION ........................................................................................ 84 5.3 DEVELOPMENTOF A STRATEGY FOR THE NATIONALINNOVATION SYSTEM ...........88 5.4 MODERNIZINGTHE STATE ...................................................................................... 94 CHAPTER VI: CONCLUSIONS............................................................................. 100 Bibliography ................................................................................................................... 102 Statistical.. Annex............................................................................................................