Foreign Relations of the United States Diplomatic Papers, 1937, The American Republics, Volume V

611.2231/192

The Minister in Ecuador (Gonzalez) to the Secretary of State

No. 878

Quito, August 26, 1937.
[Received September 2.]

Sir: With reference to my despatch No. 868 of August 13, 1937,⁴² reporting the substance of my conversation with Doctor Francisco Banda in the matter of the proposed trade agreement, I have the honor to state that I have had three conversations with the Minister for Foreign Affairs on the subject. While these conversations have revealed that the Foreign Minister will do everything in his power to reconcile the conflicting points of view, I seriously doubt that he will be able to convince his Government that acquiescence in an appreciable number of the concessions sought is compatible with existing political and economic conditions. I shall give the substance of these conversations as well as my conclusions.

In my first interview with the Foreign Minister on August 16th, I stated that in my conversation with Doctor Banda I had gathered that Ecuador is prepared to grant in a very limited manner only a few of the concessions and assurances which we seek. In fact, Doctor Banda had stated categorically that local economic conditions did not permit the according of favorable consideration on our requests in excess of those already indicated (See page 6 of my despatch No. 868 of August 13, 1937). I told the Minister that I was unable to reconcile this attitude with his very broad statement on foreign commercial policy made in response to the statement of Secretary Hull of July 16th.⁴³

The Foreign Minister stated that his country is confronted with two serious problems which have not yet been solved, namely, a deficit in its international balance of payments and a deficit in the national budget. He added that their solution is complicated by the recent depreciation in the local currency, as well as by the fact that the Government has always depended upon its customs receipts as the chief source of budgetary revenue and that the people have become accustomed to that practice. He emphasized that the customs policy of Ecuador is primarily for revenue and that the present difficult fiscal situation places his Government in a position where it cannot renounce any of this very secure source of revenue. In fact, it finds itself where it must seek to augment budgetary receipts and that this was the reason for the recent increase in customs duties as well as in internal taxes. He explained that while he and the President are of the opinion that steps must be taken to reduce customs charges, they cannot ignore the fact that while the total budgetary revenues of the country must be increased, the attitude of the people is one of resistance to direct taxation. In view of these circumstances he expressed the hope that the American Government would understand why Ecuador cannot at this time accord to our requests the favorable consideration which it should like to do.

I consider it appropriate at this point to add parenthetically that the Foreign Minister made no mention of the purchases of armaments and of the expenditures for military training and preparedness which, in my opinion, are primarily responsible for the two acute problems now confronting the country. Neither did he refer to the loans obtained from Italy for some of these purchases (see my despatch No. 872 of August 19, 1937⁴⁴) which have not yet been taken up in the Budget. It is indisputable that these purchases aggravated an already difficult national and international financial situation, and it is thought that the additional budgetary revenues now required are principally to cover those expenditures. Furthermore, I am inclined to believe that this situation was an important factor in the decision of the Government to cancel the highway contract of the Foundation Company of New York (see my despatch No. 875 of August 19, 1937⁴⁴), and it will not be a cause for great surprise if a substantial proportion of the taxes earmarked and now accumulating for the construction of highways is diverted from that purpose and used to cover the budgetary deficit caused by military expenditures. Verily, the state of fiscal finances is both delicate and difficult, and the renouncement of any existing revenues would probably serve to aggravate rather than to remedy the situation.

I pointed out to the Minister that several of our requests involve only the binding of the present rates of existing duty on certain items, but that Doctor Banda had stated that favorable consideration could not be accorded these requests inasmuch as the conclusion had been reached from experience in the operation of the Chilean Agreement that such a commitment is not advantageous. The Minister confirmed this statement and added that the Commercial Treaty with Chile is highly inexpedient because of the clause binding the rates of duties on various articles. He said that considerable study had been given this particular phase of the treaty and that a decision had been taken to denounce it and that it will expire in December of this year.

I then explained that we are seeking, in so far as may be compatible with the situation existing in each country, to remove unnatural barriers to trade, to reduce especially high duties and to stabilize normal duties. I added that the reason advanced by Doctor Banda for the inability of his Government to accord favorable consideration to binding normal duties was the recent depreciation of the local currency and the necessity of having a free hand to adjust the duties to the new exchange levels. I recognized that this explanation seemed to cover specific duties but that I failed to see the application as concerns ad valorem duties inasmuch as these latter are effectively a percentage of the gold value of imported merchandise. Under the circumstances, the binding of ad valorem duties could in no way affect unfavorably the Government’s revenues in local currency except to increase the amount thereof in proportion to any depreciation which may occur. The Minister admitted this argument and stated that he would discuss the point with the Minister of Finance.

With regard to specific duties I recognized that the Government of Ecuador may desire to adopt a policy which would assure it of definite revenues in foreign as well as local currency. In view thereof I intimated that the Minister for Foreign Affairs might desire to make some proposal for the stabilization of these rates which he agreed to do.

I then referred to the statement of Doctor Banda with respect to the reductions on hog lard and wheat flour in which he had indicated that the Minister of Finance would not consent to a reduction greater than 50% of the old tariff rates. I explained that upon learning of the tariff changes of July 5, 1937, I had inquired of Doctor Banda what effect these would have on our requests for concessions, and that he had stated that we must accept the new tariff as the basis for negotiation. I added that I had remarked at the time to Doctor Banda that the application of this principle would entitle us to a reduction of 50% of the new reduced rates on wheat flour and hog lard which he had admitted. The Foreign Minister immediately said that he considered this position unreasonable and that it is the existing rates which must be taken into consideration. He assured me that he would discuss this point with the Minister of Finance and endeavor to have him accept the principle of 50% of the present tariff rates.

In my second interview with the Minister for Foreign Affairs on August 24th, he read a memorandum prepared by Doctor Banda on the points raised by me in our previous interview which simply restated the observations reported in my despatch No. 868 of August 13, 1937. The only new point brought forth was with regard to the general provisions, the memorandum indicating the necessity of the inclusion of a provision similar to Article X in the Treaty of Commerce and Navigation between Ecuador and Holland⁴⁵ (see my despatch No. 807 of June 18, 1937⁴⁵). I told the Minister that I did not consider it feasible to include such a provision in the proposed agreement for the reason that it must be interpreted as a qualification and restriction of the broad scope of the unconditional most-favored-nation clause upon which it had previously been agreed to predicate the negotiation of the agreement. Accordingly, I agreed to prepare a memorandum on this point which I would deliver to him on the following day.

Yesterday I had a further conversation with the Foreign Minister and I presented to him the memorandum on the unconditional most-favored-nation clause, a copy of which I enclose herewith.⁴⁶ The reaction of the Minister was surprising to me notwithstanding it reflected the peculiar interpretation which Ecuador has always endeavored to give to the unconditional most-favored-nation clause. In effect, he indicated that the clause in question is applicable only in cases where reciprocal advantages might be received by Ecuador, such as in its trade relations with France, Germany and the United States, but that advantages could not be extended to other countries whose trade balances might be unfavorable to Ecuador. I emphasized that the inclusion of the proposed provision concerning the balance of trade must be construed as a restriction of the unconditional clause, thus converting it into the conditional rather than the unconditional most-favored-nation principle. I believe that I was successful in making the Minister see that should such a clause be included in the proposed trade agreement and should our commerce at any time show a visible balance of trade unfavorable to Ecuador, it would be incumbent upon his Government to withhold from the United States the advantages of the Preferential Tariff. I added that he must realize that in such an event we would be obliged to view such action as a discrimination since we could not ignore the fact that there was being accorded to a third country a treatment more favorable than that granted to the United States. The Minister agreed to discuss this situation further with the President and the Finance Minister.

During the discussion of this particular point the Minister remarked that according to preliminary customs statistics for the first part of the present year, the visible balance of American-Ecuadorean trade appeared unfavorable to the latter country. I took advantage of this statement to point out that under the circumstances the inclusion of the proposed clause would no longer be a simple acquiescence upon our part to a principle of Ecuadorean commercial policy with no possible adverse consequences, but would become an immediate threat to our trade and an effective discrimination in the treatment thereof upon importation into Ecuador. The Minister then outlined briefly the objective sought by Ecuador in the application of the Preferential Tariff and the attempt thereby to balance its trade with foreign countries. In other words, his statement simply confirmed that Ecuador adheres to the principle of the bilateral balancing of foreign trade. He referred in particular to Ecuadorean-German trade relations and called my attention to the increased purchases by the latter country. This gave me the opportunity to observe that Ecuadorean foreign commercial policy, in my opinion, would seem to be contributing effectively to the dislocation of foreign trade from its natural channels. I felt it incumbent upon me to point out informally that while the bilateral balancing of trade may have some useful results in a country having surplus exports which it is unable to dispose of in the world markets, this situation does not appear to exist in Ecuador inasmuch as, according to my information, Ecuador in latter years has disposed without difficulty of its entire export production. Therefore, the situation created by this dislocation will be that American importers will be unable to purchase in this country the products which they ordinarily require, not because of any indisposition upon their part but simply because of the inexistence of such products. I remarked that under these circumstances it would seem to me that Ecuador would achieve more if its policy were directed to augmenting the production of exportable products rather than to deliberately diverting them from the natural channels of its trade. This point of view would not seem to have been previously brought to the attention of the Minister. He was apparently much impressed and agreed to discuss these views with his colleague the Minister of Finance.

I felt that in my previous conversations the authorities had not comprehended fully the concessions and assurances we are seeking with respect to the items included in Schedule I. In fact, the Foreign Minister on August 24th indicated his impression that we desired these items included in the Preferential Tariff which would be in accord with the present foreign commercial policy of Ecuador. While I felt that I had made it clear that we desire the rates in Schedule I established as net rates independent of the existence of any other factor, I decided that it was indispensable to furnish him a memorandum in this respect, a copy of which I enclose herewith for the information of the Department.⁴⁸

After reading over the memorandum carefully the Minister appeared to understand precisely what we seek. Nevertheless, he remarked that it was his understanding that we are not interested in the Preferential Tariff and that we would be willing to surrender the advantages thereof. I immediately corrected this impression to the effect that while we have little interest in the Preferential Tariff as a whole, there are possibly several items contained therein, in addition to those already listed in Schedule I, which may be of interest to our export trade. I added, however, that aside from this fact I was unable to see how we could relinquish whatever advantages might accrue to us through the enjoyment of that Tariff, or the right to enjoy that Tariff regardless of whether or not the items listed therein are of interest to us, because of our adherence to the principle of the unconditional most-favored-nation treatment.

Our position with respect to the Preferential Tariff and our rights under the unconditional most-favored-nation clause would appear to be so clear that no further argument or discussion would seem necessary. Nevertheless, I am obliged to admit that I find a definite reluctance upon the part of the Ecuadorean authorities to admit this position. I can only explain this situation as being due to the conflict in the two commercial policies, and that Ecuador reserves the granting of the Preferential Tariff and the inclusion of new items therein as a bargaining power to obtain advantages from other countries.

The Minister for Foreign Affairs informed me that in a brief conversation with the President he had touched upon the subject of the proposed trade agreement. He added that the President had indicated to him that he must be extremely reluctant to grant any major reductions in customs rates for the reason that Ecuador cannot now afford to relinquish an appreciable part of its customs revenue—in fact, it should seek an increase in these revenues in order to cover the deficit in its Budget.

Another point emphasized by the Minister for Foreign Affairs concerns the extension to third countries of the advantages which might be conceded to the United States. During the course of my three conversations he repeatedly referred to that point and indicated the indisposition to grant us concessions because of the necessity immediately to extend them to Germany, Italy, Chile and France. I again outlined to him our general policy under the most-favored-nation clause to generalize all advantages that we grant. I added that while we hoped that Ecuador might see its way clear to follow this same practice, it is a matter which must, of course be decided by Ecuador. While the Minister understood the point made I feel that it will be extremely difficult to obtain concessions on items of which the countries mentioned are important suppliers. One commodity in particular is tariff item No. 372–c, Medicinal and Pharmaceutical Preparations. According to the statistics compiled by the Department for the year 1935 Germany supplied 34%, France 24% and the United States 32%. The Minister indicated that Germany’s participation in 1936 and particularly during the current year had increased appreciably. Therefore, he desires to retain the present rate of duty for subsequent negotiations with Germany.

Before making any recommendation as to procedure, it would seem desirable to review briefly the different factors in the present situation:

1. Ecuador is faced with two serious problems, first, a deficit in its international balance of payments and second, a deficit in its Budget. The first problem may be solved by an increase in the world price of its exports, by an increase in production, or possibly by a restriction in imports. The possibility of an appreciable and immediate increase in world prices would seem to be purely conjecture for the moment. An effort is being made to increase production, but this is subject to climatic conditions and other incontrolable factors. In the absence of the first two solutions Ecuador has apparently decided upon the restriction of imports (see my despatch No. 856 of August 2, 1937⁴⁹).

The deficit in the Budget is possibly a more urgent and serious problem since the depreciation of the currency aggravates the situation by increasing the local currency value of the already excessive purchases made abroad. A measure has been taken to stabilize this situation by the conversion of customs charges into United States currency at the rate of twelve sucres to the dollar and by the payment thereof in United States currency. This measure results in an increase of approximately 13% in the local currency revenue, but at the same time it causes a loss of approximately the same percentage in the foreign currency revenue of the Government. This latter is important in view of the payments which the Government must make abroad for armaments purchased. These circumstances, and particularly that the Budget does not cover all armament purchases made or contracted abroad, create a situation where the Government cannot afford to abandon its present revenues.

2. The conflict between American and Ecuadorean foreign commercial policy is now apparent. Ecuador, in attempting to enforce the theory of bilateral balancing of trade, would insist upon the inclusion of a provision stipulating that the visible balance of trade must be favorable to it, upon the failure of which we should be denied the advantages of the Preferential Tariff. While the latter may interest American export trade only slightly, it is thought that the provision would be a specific restriction and qualification of the unconditional most-favored-nation clause and, therefore, unacceptable.

3. Ecuador insists that it is unable to bind or reduce rates of duty because of the depreciation of the local currency. While this reason is apparently reasonable, I fear that the underlying cause is the necessity for budgetary revenue outlined in the second paragraph of No. 1 above. I consider that it might be possible to convince the authorities of the feasibility of binding the present ad valorem import duties. Also, it may be possible to work out an arrangement for the stabilization of specific duties by their conversion at a specified rate into United States currency and their payment in that money. For example, it might be possible to take advantage of the system which has been recently established by the Government providing for the conversion of customs charges into United States currency at the rate of twelve sucres to the dollar and the payment thereof in dollars. It will be necessary, of course, to include some provision to the effect that this system must obtain for all import duties.

Recommendations.

The international financial and the fiscal situations, and the consequent attitude of the Ecuadorean Government, would seem to make the present moment inauspicious for the negotiation of the proposed trade agreement. However, I feel that we should anticipate the arising of a difficult situation as a result of the large purchases by Germany which will undoubtedly reduce Ecuadorean exports to the United States, possibly to a point where the visible balance of trade may be unfavorable to this country. In view of this circumstance I would recommend that we proceed with the negotiations in an attempt to have the Ecuadorean Government withdraw from its present position in the matter of the Preferential Tariff and the penalty for the failure to show a balance of trade favorable to this country. It might be desirable to include some provision on this point in the Agreement in view of the question having again arisen when it was apparently settled when our modus vivendi was negotiated. I feel that I may be able to obtain bindings on ad valorem duties and possibly on specific duties if an arrangement for their stabilization can be worked out. I also believe that it may be possible to obtain the 50% reduction on the existing duties on hog lard and wheat flour. However, on this point I must reiterate that it would be unwise to accept this additional advantage and I strongly recommend that I be authorized to forego the extra reduction in the duties on these two products. I am certain that such an authorization would be welcomed by the Ecuadorean Government and would permit me to obtain concessions or assurances on other items which would not be so open to local criticism.

The Minister for Foreign Affairs proposes to discuss the whole question with the President and the Minister of Finance within the next day or two, after which he will afford me an opportunity of going over the situation with the President and Finance Minister. I shall promptly report by telegraph the results of this conference.

Respectfully yours,

Antonio C. Gonzalez

42. Not printed.
43. For text of statement of July 16, see vol. i, p. 699; for text of Ecuadoran response, see ibid., p. 730.
44. Not printed.
44. Not printed.
45. Signed May 27, 1937, League of Nations Treaty Series, vol. cxciv, p. 179.
45. Signed May 27, 1937, League of Nations Treaty Series, vol. cxciv, p. 179.
46. Not printed.
48. Not printed.
49. Not printed.