LOOKING NORTH IN THE 90's: THE SEARCH FOR FOREIGN INVESTORS IN THE

PRIVATIZATION OF LATIN AMERICAN RAILROADS

_________________________________________ International Economic Development Seminar

Professor Bolton George Mason University School of Law

December 20, 1995 _________________________________________ David Embrey Pickeral

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TABLE OF CONTENTS

Page I. INTRODUCTION...........................................................................................................1

II. A CLIMATE FOR CHANGE: POLITICAL FACTORS..............................................2

III. ECONOMIC, TECHNOLOGICAL AND ENVIRONMENTAL FACTORS................................................................................................................4

IV. IMPLEMENTATION...................................................................................................6

V. THE BASIC MODELS OF RAILROAD PRIVATIZATION.......................................7

VI. PRIVATIZATION IN PRACTICE...............................................................................9

VII. MEXICO...................................................................................................................14

VIII. ARGENTINA...........................................................................................................18

IX. CONCLUSION...........................................................................................................25

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I. INTRODUCTION Just as they came to symbolize the Industrial Revolution itself, arguably no other institution in history has symbolized the expansion -- and sometimes the intrusion -- of the established world into developing nations in quite the way railroads have. In 1853, as they would for the next ninety-four years, Indian Railways began supporting the objectives of the British Empire both in exploiting the resources of, and in maintaining its sovereignty over, the Subcontinent. In the United States, the driving of the gold spike at Promontory, Utah, to complete the first transcontinental rail line was seen by contemporaries as the ultimate fulfillment of Manifest Destiny. Throughout the 1890's, Imperial Russia labored to complete the Trans-Siberian Railway creating a 9,300 kilometer link between Europe and the Pacific which ironically did as much to strategically and commercially unite the Soviet Union as it ever did to foster the policies of the Czar. Throughout this period, too, railroads of various descriptions emerged in Latin America. These were not created, as in the previous examples, as part of an overall transportation scheme but by and large to facilitate the marketing of a specific product or industry, such as copper mining or sugar plantations, or connecting the few accessible population centers within individual countries. Then as now, Latin American railroads lacked a unified structure;

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individual railroads often differed vastly in terms of equipment, services provided and track gauges, even within the same country. In the past half-century, the fortunes of the railroads worldwide have in many senses paralleled one another. One of the first objectives of the Marshall Plan was to restore the 557 kilometer Athens - Thessalonica railroad linking northern and southern Greece, which had been inoperative since 1944, and other European railways followed. It was a natural goal for the United States to support this objective, since in the early postwar years the railroads were enjoying their last prominence as the mainstay of North American transportation network. In the decades to come, however, the reduction of colonial commerce, political unrest, and general apathy for the railroads in Latin America, quite probably exacerbated by the North America and Europe's new attraction to superhighways and aviation, began to take their toll. By the 1970's, it was commonplace for half to two-thirds of the locomotives on South and Central American railroads to be inoperative, while the work force, swollen by corruption or just plain inefficiency, was two to three times what it needed to be to run a fully-operational railroad at peak capacity, let alone what little of the systems remained.

II. A CLIMATE FOR CHANGE: POLITICAL FACTORS Perhaps the most significant administrative difference between the United States railways and those in Latin America and the rest of the world involves ownership. Until massive railroad failures forced Congress to intervene with the formation of the National Railroad Passenger Corporation (AMTRAK) passenger service and the Consolidated Rail Corporation (CONRAIL) freight network in 1971, American railroads had been almost exclusively private concerns. Conversely, their counterparts to the south, and indeed throughout the rest of the world, had been largely state-owned enterprises, and remain so today. At about the time the United States was attempting to preserve and control its ailing railway network through direct government control, Latin American governments began contemplating a move in the opposite direction, towards privatization.

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This decision was in large part motivated by a change in the political landscape of Latin America. Whereas for most of this century the ruling military dictatorships and/or hereditary oligarchies had pursued a strict policy of economic and social isolationism from the rest of the world, the replacement (or in some cases transformation) of these governments by more democratic systems in recent decades has permitted, for the first time, a political climate amenable to a market economy. There was also outside encouragement. The World Bank had concluded that both society as a whole, and particularly the poor, would benefit from the introduction of market principles into the operation of existing state-owned enterprises (SOEs). Having realized the merits of privatization on their own based on the experience of other developing nations in this area worldwide, and eager to maintain the support of the World Bank and the governments of developed nations in attracting foreign participation, Latin American governments began to lay the groundwork for privatization. In order to attract the participation of other nations, who were unfamiliar with Latin America as a practical matter, and wary of its recent past, it was necessary for its nations to actively and openly replace protectionist policies with legislation specifically tailored to support foreign investors. As a result, between 1989 and 1992, Latin America accounted for roughly 70 percent of developing country privatization worldwide. More than two thousand SOEs were either transferred or liquidated, accounting for as much as 90 percent of the SOEs in some countries. Both as a logical component of economic development itself and as a catalyst for continued growth, infrastructure development, and transportation in particular, became a national priority. Much of the development was financed or facilitated by the World Bank's International Finance Corporation. As a means of achieving self-help objectives for the nations of Latin America, railroads were among the first investment possibilities encouraged by the IFC, and eagerly embraced by the new progressive leadership in Latin America.

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A final factor to be considered, though seldom articulated explicitly as such, concerns the prolific internationalization of corporate ownership during the last decade. In a world where Swedish and Italian automobile manufacturers are owned by a U. S. corporation, U. S. hotels are owned by British investors, British newspapers are part of an Australian media empire, and Toyotas are built in Alabama, foreign ownership and control simply does not carry the stigma it once did. In the 1990s Latin American governments must certainly have considered that economic nationalism is simply no longer germane to the current market.

III. ECONOMIC, TECHNOLOGICAL AND ENVIRONMENTAL FACTORS From a market perspective, the decision of Latin American leaders to enter the world economy through railway privatization could not have been more fortuitous. In the early years of the 1990's railways have made a startling comeback worldwide based on simple economy and value for the transportation dollar. By late 1995, the cost of shipping materials by rail even in developed countries with modern vehicles and well-maintained limited access highways is, conservatively, about one third the expense per kilometer than that of shipping by truck. Considering the fact that Latin America does not have, nor is likely to develop until well into the next century, a complete Interstate-type highway system, revitalization of the old railroads is not so much an attractive option for development there, but an absolute necessity. Progress will be facilitated by the ready availability of foreign private capital. A 1993 study by the IFC estimates that private investment grew by 16.4 percent between 1970 and 1991, including a one third jump in direct investment projects such as railway and other infrastructure privatization projects. The previous year, the IFC had established an infrastructure department with the dual purposes of assisting developing countries in managing infrastructure development, as well as promoting participation by outside investors in the privatization projects. These economic developments have been concurrent with technological developments which are likely to make the rail industry even more economically viable for developing countries than ever before. Cellular communications, computerized manifesting, and satellite

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location and tracking of equipment have reduced costs by streamlining administrative procedures and maximizing both equipment and personnel utilization. The Continuous Welded Rail (CWR) system now allows rails to be laid in place and welded together into single uninterrupted unit in rather than bolted together in individual segments as previously. This method decreases wear on equipment, personnel, and passengers by providing a smoother ride, lasts substantially longer, is significantly safer, and eliminates the tremendous labor expense of having tighteners inspect and adjust track bolts by hand, often a daily requirement on heavily-used lines. Efficient supercharged or turbine locomotives with computerized braking control systems are more able than any of their predecessors to safely and reliably handle the longer trains and steeper grades of the mining industry railroads. Perhaps the most significant innovation in the context of Latin American railways in recent years has been the introduction of low cost, warp-free, corrosion-free concrete or stainless steel crossties to replace the wooden ones that have been used worldwide since the first primitive railroad became operational in England in 1803. This simple innovation will without question slash maintenance costs, nowhere more so than in the South American rain forests where the rotting away of wooden crossties in a matter of years or even months has been substantially responsible for the railroads' deteriorated condition. As an incidental benefit, the increased use of modern railroads has a great deal of potential to revise Latin America's worldwide image of insensitivity to environmental concerns. In addition to being less expensive, railroads involve far less pollution (less than half by even the most conservative estimates) in terms of exhaust emissions and runoff, than highways carrying the same freight tonnage or passenger capacity, and require far less impact in terms of clearing or other modification of the landscape. Concrete crossties can be manufactured on-site from local materials, will not require the manufacture or use of creosote preservatives, and will obviate the need for the cutting of South American forests that has drawn worldwide condemnation in recent years. Improving Latin America's image in this regard can do much for garnering both financial and political support abroad.

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One of the greatest potential areas for transportation development in Latin America involves the use of intermodal systems. Intermodalism is gaining in popularity and application throughout the rest of the world, but is as yet virtually nonexistent in Latin America. Intermodalism will allow for unprecedented speed and efficiency by transferring cargo packaged in standard containers at terminals which interface directly between highway, rail, marine, and aviation platforms. In Latin America, this system could also mitigate the problem of incompatible railway gauges. For example, shipment between neighboring Argentina and Brazil now requires that cargoes be offloaded from rail cars in one country, trucked across the border into the other, and re-loaded onto other rail cars. As of now, intermodalism is not only unavailable, but in a bizarre protectionist hold-over, is forbidden in Brazil, whose statutory law currently forbids Intermodal Bills of Lading (IBLs). Investors are certain to insist on intermodalism, however, and legislation is likely to change accordingly in response to that demand.

IV. IMPLEMENTATION Before beginning privatization itself, it is essential for the government to lay the proper groundwork. The initial step is for the government to successfully undertake a monetary policy conducive to foreign investment. This is done by achieving two objectives. The government must curtail inflation, usually below ten percent to be considered competitive. This is generally accomplished by legislation adopting the gold standard or tying the currency to that of a developed nation. Secondly, the nation must show an appreciable growth in gross domestic product. Many Latin American nations, notably Chile and Argentina, which had suffered from hyperinflation and no real change in gross domestic product throughout the 1970's, were in this manner able to turn their monetary policies around in the late 1980's, thereby providing the proper credentials to obtain financing for their privatization efforts. Beyond overall economic improvement, however, in order to implement railway or other SOE privatization, it has been essential in all cases for the governments of Latin America to pass

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legislation specifically and unambiguously designed to support foreign investment. This legislation must, obviously, serve to formally "de-nationalize" the railways by allowing for their conversion to private ownership or control. It must also be unequivocally clear from the legislation that foreign investment will be not only be permitted, but that the rights of all investors will be treated co-equally without regard to nationality. This concept, taken for granted in developed economies, is a fundamental reversal of more than sixty years of isolationist policies throughout Latin America. Once the legislation is in place to facilitate foreign investment, the government must then target major industries to be privatized. Not surprisingly, railways are at or near the top of virtually every Latin American nation's list, both for their almost universally poor condition and inefficient management in public hands, and for their potential to support new development throughout the country. Having selected railroads, governments generally do not attempt to transfer the entire system to a single private operator, but rather attempt to break it down by track gauge, regions or industries served, passenger / freight traffic, or existing administrative divisions. The idea is to develop so-called "growth corridors", where profitable industries or products already exist. This concentration both ensures that improvements to the railway will come first to those areas which can most serve to benefit the national economy, as well as provides a strong assurance of rapid profitability to attract potential investors.

V. THE BASIC MODELS OF RAILROAD PRIVATIZATION: While there are countless variations, there are four basic categories of privatization that could be applied to railroad operations. The first of these would properly be termed "liquidation", and involves selling off existing assets to the highest bidder for hard currency. The liquidation approach has generally been reserved for cases where the state railroads, as they frequently do, own assets such as hotels, plantations, or commercial real estate space that is not related to actual railroad operations. These assets generally were acquired during a more

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prosperous era, either for anticipated tie-in service with the railway, or for the investment of surplus capital. The second option, "initialization", involves essentially the opposite approach as liquidation. Initialization entails starting from scratch; to include the arduous bureaucratic process of design, approval, and land condemnation for the right of way which would require years, if not decades before the first rail was actually laid, let alone profitable service operations started. Thus, initialization has been restricted to those few applications where industries or markets have developed in areas that were never served by rail at all. The third category, "transfer," involves the conveyance of the entire railroad or selected lines to private hands. Here the difficulties are primarily political. Latin American railroads, unlike their counterparts in North America, have been operated for most or all of their existence by the state, and are regarded by the public as a national resource. The public conscience, and by association newly-democratized governments relying on broad public support, simply would not tolerate the outright sale of the railroads, especially to a foreign concern. Regardless of the privatization scheme, governments must retain ultimate control. From the perspective of a potential buyer, conversely, not only would such a buyer be more wary that a government would renege on an outright transfer, but even in the best political climate would not want to assume absolute risk for the railroad's permanent success or failure. Lastly, therefore, is the "lease / management" scenario, which has already been used successfully in the privatization of European, Indian and Asian Railways, and is ongoing in Britain and the former Soviet republics. For a number of immensely practical considerations, one or both of the two variations of this model have been applied to most railroad privatizations in Latin America. Leasing is in many ways the most Pareto-optimal setup, especially in the context of railroads. The lessee operator would obtain a legitimate property interest, and virtual control of the railroad, its assets, and personnel for a discrete period, but would not be saddled with the railroad (or its often staggering pension obligations) on a permanent basis. The lessor

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government, on the other hand, would be able to ultimately reclaim the railroad in its entirety, presumably able to either resume government operation in a substantially-improved form or sell or re-lease it at a substantially higher rate. This also comports with existing and long-standing legal doctrine in many Latin American countries, including Mexico, which prohibits foreigners from holding a fee simple interest in land. Management, also known as the "concession" model, allows similar benefits to both sides, but from a slightly different angle. Bringing in a contractor (concessionaire) to operate the railroad would allow the government to retain the national railway, in legal form at least, as wholly state-owned. Contractors would run the railroad for a specific period using whatever equipment or personnel they wished to bring in or contract for with the owner government or any other entity. Contractors would be assured that all assets not specifically conveyed to the railroad would be theirs upon dissolution, and that all railroad employees were both the resource and the continued responsibility of the contractor. Since the contractors are guaranteed a minimum return in the form of service contract payments, investments are thereby less risky, and thus tend to make newly-privatized railroads somewhat more attractive in comparison with ownership or leasing. Most often, some manner of "hybrid" model, including elements of two or more of these models is undertaken. These schemes are nation-specific, and best examined in the context of that particular country, as shall be done later. However, two of the more workable scenarios include the Build-Operate-Transfer (BOT) model, wherein the contractor or lessor operates and receives the right to collect substantially all of the revenues from the railroad, and as consideration makes certain permanent improvements in the system. At the expiration of the contract, the government then re-bids the contract. A variation of this, the Build-Operate-Own (BOO) model allows the operator the option to own the railroad at the expiration of the contract, contingent upon satisfactory improvements and service.

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VI. PRIVATIZATION IN PRACTICE Having thus far discussed railway privatization in the abstract, it is now appropriate to examine how various Latin American states are actually undertaking it. While other railroads have sought new applications, Chile is concentrating substantially on improving its traditional use of the railways, that of supporting its hugely profitable mining industry. A railway established in 1988 and financed and operated largely through private channels now links the Pacific Coast port of Antofagasta both with the copper and sulfur mines, as well as with La Paz, Bolivia. Existing rail lines were privatized and modernized as well, with more than a third of capital provided by U. S. mining concerns. Chile's efforts at luring foreign investors have been bolstered by its recent democratization from military rule, and its consistent and reliable policy of protecting foreign investors. Its financial credentials include a gross domestic product which has risen 6.1 percent on average for the last ten years, as well as a Standard & Poor rating of triple B-plus, both the highest in Latin America. Investments of more than $1 billion annually have been substantially diverted to the mining industry, and in turn to the railroads that serve it. Colombia's railroads are somewhat unique in that, unlike the other Latin American railways, which were neglected for as long as a half century, they reached their all-time capacity in the mid-1970s, when most other nations, including the U. S., were at the absolute nadir of railway operations. As a result, Colombia has a substantial advantage both in terms of relatively modern equipment and domestic human resources to successfully operate it. Its development program has therefore centered on an overall capital improvements program, as well as a 1,500 kilometers of extensions in existing rail trackage. The ongoing privatization efforts will basically result in a quasi-private scheme, with the government continuing to maintain track and equipment, and private investors taking over the freight and passenger service operations. At the opposite extreme is Brazil. This vast country's national railroad system consists of only a few small, unconnected lines, many of which have not been serviceable for decades. Any development here will involve not just upgrading, but outright replacement. As a result of

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the lack of railways, transportation costs for the Brazilian soybean crop by road are seven times that of the U. S., where the beans are now largely transported by rail. The construction of 1,725 kilometers of new railway linking soy production areas with the growing transportation facilities at Rondonopolis, Cubia, and Portco Velho is ongoing. This construction has been undertaken by a domestic private concern, Grupo Itamarati, which will then operate the system. The necessity of starting from scratch has, not surprisingly, involved tremendous expense, something on the order of $2.5 billion, but the capacity to slash costs by as much as sevenfold, as well as the fact that Brazilian soy farms produce significantly higher yield per acre than even the technologically advanced U. S. growers, has led to widespread governmental and private financial support. One of the most realistic suggestions regarding the privatization of Brazilian railways was put forth by the U. S. consulting firm of Ernst & Young two years ago. Realizing that, with the exception of India, passenger rail service is currently almost a sure money-loser, Ernst & Young has suggested that Brazil privatize freight operations only, and leave passenger rail to be operated along freight lines in a heavily-subsidized system based directly on AMTRAK. This particular recommendation has not yet been acted upon by Brazil, or elsewhere in Latin America, but as shall be demonstrated by the examples of Mexico and Argentina, such split privatization may be essential to lure investors and serve the public simultaneously. Guatemala has seen a relatively moderate degree of privatization, however, the railroad represents its most significant effort to date. While most railroad privatizations have dealt with selling, leasing or otherwise getting the railroad into private hands as soon as possible, Guatemala's approach is far more conservative. In 1993, Guatemala's legislature passed Decree 600-93. The Decree authorized the management of its unified national railroad system, Ferrocarriles de Guatemala (FEGUA) to liquidate its considerable non-industry related real estate holdings in Guatemala City at public auction. The proceeds from the sale are being employed to achieve two objectives. The first will be to pay off considerable outstanding wage and pension obligations. The second will be to renovate the rail lines, in particular the line from San Jose on the Pacific to Santo Thomas de Castillia on the Atlantic Coast. The railway will also restore or

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replace equipment and hire private contractors to maintain the system. Procurement laws have been established to allow both domestic and foreign bidders to participate equally in the procurement process. Once this is done, then the improved railway, presumably much more appealing to investors, will be transferred to private hands. This strategy is significant because it was reached through mutual agreement between employees, including the unions themselves, and management, further demonstrating to potential backers that existing human resources are capable of working together to achieve radical reform, and then to continue to run the railroad effectively without the labor disputes that have plagued railroads worldwide. Peru is in the process of auctioning so-called "concessions", actually long-term leases, ranging from twenty to forty years. The successful bidders will be given almost complete rights to operate and administrate one of six lines of the 1,610 km state railway, ENAFER. Consideration for this right will come in the form of an initial investment commitment, as well as annual payments. The length of the leases, as well as the decrepit condition of the equipment that investors will be forced to assume responsibility for -- including 2000 rail cars and 70 locomotives, many of which are more than fifty years old. -- will likely hamper Peruvian railroads in attracting investors. A $35 million loan from the World Bank in 1993 has been substantially invested in improving equipment, trackage, and service. In other respects, Peruvian railroads have a great deal of potential, and unlike the railroads of many Latin American nations, already play a significant economic role. One of the lines, the Cuzco-Quillamba, has generated a particular degree of interest among overseas investors because of the high volume of foreign tourists that use the line to visit the pre-Colombian ruins at Macchu Picchu. This line, which generated a substantial portion of the $25 million in profits ENAFER yielded in 1993, will be granted as a 20-year concession. The Huyanco-Callao and Mollendo-Arequipa lines, both critical to Peru's mineral industry by linking mines and port cities, will be leased as 40-year concessions. The Huyanco-Callao line in particular transports over 80 percent of the output from Peru's state mining firm, Centromin. The

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concurrent privatization of Centromin is, by design, expected to boost railroad traffic considerably, and make both enterprises more marketable. Bolivia, which thus far has resisted moving towards a market economy, announced in October 1995 that it will privatize six major industries, including the national railroad, ENFE. The Bolivian government plans to sell a fifty percent interest in each industry, as well as the rights to management and control, in order to fund a social-security type pension system. The sales will be coordinated through an as-yet-to-be determined investment bank. The railroad privatization, along with the state-owned tin smelting industry, the fourth largest in the world and a primary customer of the railroad, are expected to be privatized next year. The primary goal of the newly-privatized railroad will be to complete and operate an Atlantic - Pacific line. Bolivia expects to benefit from feasibility studies done during the past year as a result of a $1.2 million grant from the U. S. Trade and Development Agency pursuant to an agreement coordinated by Vice President Gore. It is hoped that the examination of its own the potential market, as well as the successes and failures of other Latin American nations, will allow Bolivia to offset its late entry into privatization by benefiting from the experience of its predecessors. Panama's privatization has probably been the slowest, owing in large measure to the chaos following the deportation and imprisonment of dictator Manuel Noriega during the U. S. invasion. In 1992, the Inter-American Development Bank froze $120 million in financing for privatization until the government passed Law No. 16, the de-nationalization statute, later that year. Now improvements and transfers are ongoing, most notably infrastructure improvements, including railroads, ports and utilities. Two of the most conspicuous participants in railway privatization are Mexico and Argentina. They are presently the two largest recipients of foreign capital in Latin America, and among the six largest among developing nations worldwide. For these reasons they are likely to have pervasive influence other nations as a demonstration of the advantages and difficulties encountered. It is therefore appropriate that we examine each independently in turn.

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VII. MEXICO The Mexican National Railways (Ferrocarriles Nacionales de Mexico or FNM), some 26,000 kilometers, was substantially completed before the revolution of 1910 which ousted dictator Porfirio Diaz, and in many ways remains a time capsule of the days of Pancho Villa. Many of the rail lines were originally built, and even operated, by U. S. companies until the 1930s, when President Lorenzo Cardenas nationalized FNM. Although converted from steam by the end of the 1970's, FNM's locomotives, most purchased used from U. S. railroads, are some of the earliest models built, many exceeding fifty years old. Modern communications are virtually nonexistent; the primary method of railway communication employs telegraphic equipment installed in the Nineteenth Century. Service is so poor that as of 1995, less than thirteen percent of freight traffic and less than two percent of passenger traffic is handled by the railroads, despite the fact that the unprofitable passenger service currently uses more than sixty percent of current rail trackage exclusively. Even in the mid-1980's, when rail traffic in the U. S. neared an all-time low, freight tonnage in Mexico was twenty percent higher than it is now. Coordination and tracking of railway traffic is so notoriously bad that Mexican railways have been referred to as a "black hole" even by domestic shippers. Cargoes can disappear literally for months in the vast Mexican interior, and sometimes are never fully accounted for. It is a common practice for Mexican shippers to bring cargoes through the port of Los Angeles, transport them by U. S. railroads to Laredo, Texas, and then truck them to Mexico City on the more-developed highways of eastern Mexico rather than shipping directly by rail from Mexican ports on the Pacific. Labor problems are overwhelming on FNM. The workforce of about 50,000, although trimmed from 84,000 in 1991, is still currently at three times the necessary manpower. Furthermore, an almost equal number of retirees create a tremendous pension burden. A common and perfectly legal scheme is widely practiced by aging railroad retirees: The pensioner divorces his existing wife and marries a much younger woman, often a teenage relative or close friend of the former wife's family. When the pensioner dies, the younger woman will support the

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aging former wife for the remainder of her life. The second wife will be entitled to draw the pension for the remainder of her life, even after remarriage. This sort of scenario is daunting to investors, but is it somewhat typical of all Latin American state railways. Yet there are other factors which have contributed to make Mexico a particularly bad investment. Mexico has thus far served as a cautionary tale for other Latin American nations on now not to privatize. Although the Mexican government has delivered a substantial amount of rhetoric about privatization, the real-world difficulties encountered by foreign investors have substantially militated against further participation in Mexico. While progressive reforms are being enacted throughout Latin America, Mexico has both legally and practically resisted the removal of nationalist-era investment restrictions, and these have resulted in a litany of failures which have substantially chilled investor interest in the railroads. In 1991, for example, the Mexican government sold eighteen commercial banks. Almost incomprehensibly, it shut out foreign bidders entirely in favor of domestic banks, despite the fact that few of the bidders had any experience in banking. Few of the banks survived intact. The Mexican telephone company was simply "privatized" by decree, but remains the same bureaucratic monopoly it has always been. Lastly, and most disheartening for transportation investors, Mexicana and Aeromexico, the two national airlines, were turned over to under-funded, inexperienced Mexican investment groups selected without competition by the government. Within two years each was on the brink of bankruptcy. Even were it not for the examples noted previously, the regulatory mechanism for privatization in Mexico is stifling even in the abstract. The statutory prohibition against any project receiving more than forty-nine percent of privatization funding from foreign sources has particularly hurt the railroads. In addition to limiting projects generally due to the inability of the Mexican sources to provide the remainder of the funding, it has repulsed investors who are permitted a much more substantial participation by legislatures further south. Perhaps the only saving grace of the Mexican railways involves their potential for direct linkage with U. S. markets. This is certainly not a new concept. The Mexican railways were

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originally designed to be compatible in track gauge and equipment with the U. S., and for the most part still are. In 1872, U. S. and Mexican investors planned and began construction of a railway directly linking Kansas City with Topolobampo, the third largest natural harbor in the world, on the Mexican Pacific Coast. This route would have cut over 640 kilometers off the existing transcontinental route between Kansas City and San Francisco. Unfortunately, the opening of the Panama Canal in 1914 dramatically lowered transcoastal shipping costs and bankrupted the project. Yet the Mexican government quietly finished the line in 1961, and it exists today as a viable option for development. Another option, heavily-touted in recent months by Mexico's Minister of Transportation and Communications, Carlos Ruiz Sacristan, involves the single-track Coatzacoalcos Line, which crosses the narrowest part of the country, the Isthmus of Tehuantepec, between Coatzacoalcos on the Gulf of Mexico and Salina Cruz on the Pacific. Sacristan envisions constructing modern port facilities at both terminals, modernizing the railroad, and offering the three as a package deal, competing with the Panama Canal. This concept was tried unsuccessfully nearly a century ago with the Coatzacoalcos line, as well as in other Central American countries including Panama, before the Canal opened. Even then, it was not a terribly attractive option for transportation entrepreneurs, who would face the expense, delay and confusion of loading and unloading two ships and the rail cars in two foreign ports. It is hoped that the availability of modern intermodal freight handling techniques, and the increased communication and coordination now available for single-track operations, may be able to overcome these deficiencies. However, there is tremendous room for improvement -- currently the 240 kilometer journey takes twelve excruciating hours using antiquated equipment and marginally serviceable trackage, mostly through treacherous mountain terrain and including several kilometers winding through the narrow city streets of Tehuantepec. While no direct negotiations have yet taken place, U. S. investors themselves have begun to target prospective railway markets in the hope that given recent the passage of the North American Free Trade Agreement (NAFTA), the Mexican government will be more cooperative

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in the future. Several U. S. railroads, notably Santa Fe, Southern Pacific and Union Pacific, are interested in the more heavily used and better-maintained lineas del norte, running north from the manufacturing centers of Mexico City to the U. S. border cities of Laredo, Nogales, Calexico and El Paso. Southern Pacific, which itself owns almost the same amount of trackage as FNM, has six border crossings, more than any other railroad, and thus is mindful of the benefits it stands to gain from future privatizations. Union Pacific, with its access to major U. S. West Coast markets, has already formed a joint venture with the Mexican construction and engineering firm, ICA, to develop the El Paso line. All of these options, however, are as yet only theoretical. At the end of 1995, while many Latin American nations have been operating under privatization arrangements for years, Mexico has not even formulated a definitive concept for privatization. Some have argued for assumption of the entire system by the single highest bidder, another would divide it into operating districts corresponding with Mexico's four major service areas, and yet a third would involve even smaller zones, or perhaps individual lines. Proposed terms of railway privatization have ranged from an outright conveyance (thus far the typical method of privatizing Mexican SOEs), to fifty-year concessions, to short-term leases. Experts argue, and experience has painfully demonstrated, that a mass sale would generate quick capital, but do little to modernize equipment or improve service, while a fragmented scheme would produce less money in the short term, but would ultimately lead to improvement of service through competition and more focused development. The labor issues previously discussed have barely been addressed by the Mexican government. Yet while railroad development itself itself has for the present been stymied, encouragingly, investors are beginning to consider the potential for other development brought about by the attempts to privatize of FNM. On October 10, 1995, Grupo Tribasa, a construction company specializing in infrastructure development, signed a letter of intent with Impulsora Tlaxcalteca de Industrias and RailTex; the three companies intend to form a joint-venture consortium dedicated to locating and developing industries connected with the railroad. Grupo

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Tribasa is primarily Mexican-owned, but trades on the New York Stock Exchange. RailTex has participated in railway development and operations in twenty U. S. states and throughout Canada, and had provided technical support for FNM itself prior to this venture. In June of 1995, in the hope of jump-starting the Mexican economy following the 1994 financial crisis, the International Monetary Fund (IMF) cautiously extended an additional $17.8 billion in "standby" credit to the Mexican government to supplement the $17.8 billion provided in February. This made Mexico the IMF's single largest borrower. However, the IMF, acting in its long-established role of monitoring finances in developing countries, has emphasized the short-term revolving nature of this credit, and thus will make it unsuitable for speculative or long-term projects such as railways which are not likely to provide return of capital for years, even decades. How the Mexican railways will fare under NAFTA is not yet clear, mainly because the 1994 financial collapse has thus far not allowed the benefits promised under the treaty to be explored. On January 28, 1995, Mexico finally amended its constitution to allow privatization of its railroads and satellite communications. However, through its fiscal irresponsiblity and reactionary nationalist attitude towards privatization during the first half of the 1990s, Mexico may have squandered its opportunity to participate in the initial round of Latin American privatizations. The Mexican has government recently announced a plan to solicit direct private investment, without regard for nationality, for $85 billion in highway, port and railroad improvements or new construction. The promised result is that eighty percent of exports to the U. S. could then be moved by railroad as opposed to the current ten percent. Thus far, no investors have yet come forward to express an interest.

VIII. ARGENTINA In contrast to Mexico's halting failure to achieve an effective privatization of its railways even in the face of relative prosperity, Argentina's transformation of its railway system, and its

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whole economy, out of a period of unprecedented financial despair have arguably made it the premiere success story in the annals of Latin American privatization. At the outset of the 1990's, Argentina's railway system remained as one of the more visible legacies of the despotic regime of the most sordid character in its history, dictator Juan Peron. In 1947 Peron seized control of Argentina's then-profitable railway network in keeping with a trend of nationalization throughout Latin America. Within the successive four decades the Argentine railroads suffered from maladies all too familiar to Latin America's national railways. In 1989 Argentina's national railways had an employee roster more than double the size it should have been, its equipment had an average age of more than thirty years, less than fifty per cent of its locomotives were in operational condition, and more than half of its track was considered "unsafe" or worse. The railroads, Argentina's largest landholder, were losing $2 million a day, and subsidies to them amounted to one percent of Argentina's entire gross domestic product. Argentina's development was tremendously facilitated by the passage of its 1991 Convertibility Law, a monetary policy of printing only one peso for each U. S. dollar in reserves. Largely as a result of this "dollar standard", inflation, at five thousand percent annually in 1989, has been kept to five percent since 1991, with a corresponding annual economic growth of seven percent. This policy, along with the bulk of privitization reform, may be credited to the Argentina's President, Carlos Menem. An obscure provincial governor before seeking the presidency, this charismatic and immensely popular leader has made privitization a way of life. Although originally limited to a six-year tenure under Argentina's often-ignored 1853 constitution, Menem's term was extended by popular election to 1999, demonstrating the broad public support for the privatization efforts that have been the focus of his administration. The positive domestic response to Menem's privatization efforts were soon paralleled by enthusiasm from abroad. In contrast to Mexico's lip-service protectionist approach to privatization, Argentina's "open door" policy earned votes of confidence quickly in the international community, and positive results were not long in following. In 1991, an investment

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treaty with the U. S., substantially engineered by Menem, was enacted to bolster the confidence of U. S. investors. That year, the Overseas Private Investment Corporation led a mission to Argentina in which twenty-one U. S. investment firms participated, and many subsequently agreed to finance various privatization projects there, including railroads. The World Bank offered a total of $332 million in 17-year loans. The railways were one of the first and largest recipients of this support. Although efforts to privatize the railways and other industries had officially begun in 1989 with the passage of the State Reform Act by the legislature, it had made little progress when Menem took office the following year. Virtually overnight, an aggressive program to solicit outside investors resulted in a wave of railway privatizations under the direction of Jorge Kogan, specifically appointed to oversee this undertaking. The initial capital came from debt-for-equity swaps, some $20 million. As of June, 1995, five 30-year concessions for freight services had been issued, with still others currently undergoing consideration with U. S. and European operators. Virtually all Argentine privatization has followed the concession model. This uniformity affords a simpler and faster transfer process, as well as assures that the agreements incorporate liabilities and benefits for both sides commensurate with other concessions. Ferro Expresso Pampeano (FEPSA), the first railway privatization, assumed control of 5,200 kilometers of track in 1991. The initial required investment from outside sources was $55 million, and included $29 million in direct loans and redeemable preferred stock from the IFC. An additional $16 million in loans and $2 million in direct capital for immediate improvements were provided by various private international commercial banks. Planned foreign investment from sources worldwide will total $223 million. The railroad is projected to be profitable as of 1997. Nueva Central Argentina, with its 5,100 kilometers of track, has been operated by Montana Rail Link since 1992, and within a few months of privatization, doubled its amount of freight traffic. The venture is expected to invest $410 million over ten years for overall modernization of existing routes.

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Ferrosur Roca (FR) has been operated by Canadian National Railways (CN) since 1993. Its network consists of 3,700 kilometers of broad-gauge track. Since the track difference precludes direct interface with other railroads, often an objective of private operators, FR / CN's focus has been on technological improvements to infra-road operations, a planned $173 million over the next fifteen years. This includes the CAMBS computer assisted manual-block system, which uses track-to train microwave relays to monitor trains during signal operations. The General Beograno Railway (FGB), with 5,866 kilometers of trackage, is planning to invest $50 million of its own capital for improvements in track, structures, locomotives and rolling stock. The concessionaire, expected to be in whole or in part the U. S. railroad, Burlington Northern, would then provide an additional $150 million in improvements as part of its operating agreement. Railroad Development Corporation, a Pittsburgh-Based U. S. firm, has formed an alliance with IMPSA International, Inc., an Argentine industrial manufacturing corporation that has its North-American headquarters in Pittsburgh. The two companies contracted to conduct freight operations the San Martin Railway, a 6000 kilometer line between Buenos Aires and Mendoza, IMPSA's main headquarters and center of operations. This is seen as a particularly advantageous marriage of American railroading expertise with Argentine market experience, aided by the close proximity of the two companies' activities in both the U. S. and Argentina. Finally CONRAIL, recently privatized itself, began operating the 5,475 kilometer Buenos Aires al Pacifico (BAP) system two years ago. Ongoing investments include upgrades in virtually all areas of railroad operation, including telecommunications. In addition, BAP plans to coordinate operations with its subsidiary, Mesopotamico Railway (FM), which serves northeastern Argentina with 2,700 kilometers of track and connects to railways in Uruguay, Brazil, and Paraguay. Both railroads also intend to conjoin operations in order to connect these and other markets in eastern South America to the Pacific Coast, notably Chile. Like other nations worldwide, Argentina's government has also had to grapple with the sharply reduced demand for, and resultant unprofitability, of intercity passenger service in its

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efforts to attract investors. It has chosen to respond in recent years by curtailing passenger operations by seventy percent nationwide. This involves cutting passenger service by as much as half even on major routes, transferring responsibility to provincial governments, or eliminating it entirely on some lines. This result, however, has not applied to urban rail transit, the use and development of which has grown enormously worldwide in the past five years, even in developed countries. Mass transit services have historically been indispensable in Buenos Aires as in virtually all major cities in automobile-scarce developing nations. Despite the inefficiencies of state operation, the Buenos Aires railways carry over a million passengers a day; the system is roughly equivalent in size and service to the New York City subway sytem, the largest in North America. The Buenos Aires system has five lines, 899 kilometers of track, and 267 stations. In an effort to attract investors to pay higher rates to operate the more profitable routes, the Buenos Aires system, mirroring the national railways, was divided into seven sections which were then offered as concessions, with a total of $993 million in start-up subsidies. Operation of the largest section was successfully contracted for by two U. S. firms, Morrison Knudsen and Burlington Northern. Each combined their expertise, respectively in urban transport and heavy rail operations, with an experienced local corporation, Cometrans. The privatization had been unusually slow by current Argentine timetables, delayed for nearly two years, in large measure because of objections both by the Argentine Congress and federal courts to the terms of the process. In May, 1995, however, President Menem signed a decree, overruling both judicial and legislative pronouncements, privatizing Trenes de Buenos Aires (TBA). Under the decree, control of the railways was transferred directly to the private consortium from the state-owned Ferrocarriles Metropolitanos Sociedad Anionima (FEMSA). TBA now owns three subway lines running throughout the city with a total of 95 stations, 96 motor cars, 480 passenger cars, and 590 kilometers of trackage. Under a ten-year concession, Morrison Knudsen will own 41.65 percent of the shares in the consortium, Burlington Northern will own 16.7 percent, with the remainder controlled by Cometrans and/or the Argentine government. Unlike other railway privatizations, which have often required significant capital

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improvements or replacement of equipment, TBA was transferred as a fully operational going concern, with equipment and properties "as is", and will thus provide a particularly useful case study in how management techniques alone affect post-privatization profitability. As of 1995, Argentina still has a long way to go. Its own government, characteristically optimistic about such things, estimated in early 1994 that it would take thirty years for the railways to achieve system-wide modernization on a level with their U. S. and European counterparts. Since then, development has been slowed further as result of the financial crisis in Mexico; during the first half of 1995 Argentines themselves have withdrawn approximately $2 billion from their own banks. Yet there have been some startling successes. Currently the Argentine government is saving over $1 billion a year on railway operations. The employee roster, 210,000 five years ago, is now down to 80,000. Regardless of the mix of both private, governmental, domestic and foreign participation, there have been real improvements in the quality and reliability of service throughout the system. Argentina has been looked on with increasing interest as a model for developing-country privatization worldwide. Roberto Pia, Argentina's National Railroad Commission President, was invited to Egypt and Albania in 1994 to counsel those governments in their privatization efforts. Most importantly, in moving from a nationalized to privatized railway system Argentina has decisively shown, in the words of its Subsecretary for Transportation, Raul Ercole, "[W]e were on the wrong road before, but we have resolved many problems and are serious about restructuring our economy." Unlike Mexico's railway development, which is focused primarily on trade with North America through NAFTA, Argentina's interest outside its borders is focused on its Latin American neighbors. One of the next steps for Argentine railway development will likely be participation in MERCOSUR, a common market composed of the Southern Cone countries; Argentina, Brazil, Paraguay and Uruguay. Much as in Europe, integrated rail transport systems will play an significant role in the economic unity of these countries.

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IX. CONCLUSION

At this juncture it is difficult to reach a conclusion from all of this. This is because as of yet the entire focus on Latin American privatization, both by investors and the nations themselves, has been of necessity process rather than result oriented. The results, and any attendant adjustments, are still years away. It is certain that privatization is now a fact of life in Latin America, and that it will ultimately and pervasively affect railroads in virtually every nation there. Privatization will not be the project of a certain political administration or nation, but a legacy that will be pursued from generation to generation in much the same manner as the original railroads were developed. Privatization is and will likely continue to be a pragmatic field, and this is nowhere more true than in railroads. From the failures in Mexico, the successes in Argentina, and the varying results throughout Latin America, railroad promoters and investors will learn much to apply in the ongoing privatization schemes. What remains to be seen is whether a unified, international and intermodal network will emerge there, and if so, when. While the years of holding themselves out of the competitive market have in many senses disadvantaged Latin America, it does derive one benefit in that now, entering the international market by largely by choice rather than Marshall-plan type necessity, its leaders will be able to manage the transition with a degree of control not available to previous generations. The railroad privatizations may thus be seen as the Marshall Plan doctrine having come full-circle. Whereas those railway improvements were selected by foreign governments half a century ago as the most effective use of their support to the developing nation, now developing nations have endeavored on their own to attract private foreign investors in this area. Whatever outcome is in store for the railroads, it will certainly continue to involve the nations of Latin America striving both collectively and individually to seek their own solutions, on their own terms.

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