The Canal Zone

“China is operating the Panama Canal. We didn’t give it to China, we gave it to Panama, and we’re taking it back,” announced US President Donald Trump at his second inaugural address. Since his return to office, Trump’s repeated vows to “take back” the canal have emerged as part of a broader push to return to the heyday of American expansionism, throughout which Panama served as a key neocolonial outpost. Today, 5 percent of all global commerce crosses through the Panama Canal, a crucial node in a network of 144 international routes and 1,700 ports worldwide. More than 40 percent of US container traffic relies on the waterway, which was controlled and operated by the US from the completion of its construction in 1914 until December 31, 1999, after which the 1977 Torrijos-Carter Treaty handing over control of the waterway to Panamanian authorities went into effect. 

Trump’s threats have intensified ongoing political instability in the Central American isthmus. Following months of mass protests sparked by corruption scandals and growing inequality, Panama’s latest electoral cycle culminated in May 2024 with the victory of José Raúl Mulino, who ran for president after his running mate, former president Ricardo Martinelli, was convicted of money laundering. During Martinelli’s tenure, from 2009 to 2014, GDP grew at an average annual rate of 8 percent—one of the highest rates in recent history, largely attributed to the construction boom related to the canal’s expansion projects. The memories of this growth seemed to prevail in the minds of Panamanian voters, who supported Martinelli’s bid for reelection despite his legal disputes. Nonetheless, the path forward remains unclear. While Mulino promised “Más chenchén en tu bolsillo,” or “More cha-ching in your pocket,” he outlined few concrete policies to achieve this goal. After assuming office eight months ago, Mulino faces a series of immense challenges. His government is tasked with revitalizing one of the economies most battered by the pandemic, beset by high unemployment and a fiscal deficit, along with the latest dilemma of US pressure over the canal and the implementation of Trump’s mass deportation agenda. 

Upon handing over control of the canal to Panamanians at the start of this century, US officials warned that the waterway’s economic performance would decline. To the contrary, Panama has experienced historic rates of economic growth, while suffering from increased regional and income inequality as a result. 86 percent of the country’s GDP today is concentrated in the three provinces surrounding the canal—Panama, Panamá Oeste, and Colón. The canal’s economic significance over the past two decades has solidified the transit-oriented consensus of Panama’s developmental model, often referred to by scholars as transitismo. This consensus describes an enclave economy oriented to the needs of global commerce and premised on a transgression of territorial sovereignty, given the construction and management of the canal by the US.¹ Transitismo has long extended beyond the canal itself to include assets such as the port system, hubs for air transportation, the flag of convenience registry, low-tax investment regimes, and banking services. In spite of national control, this model has continued to produce a dual economic structure, in which productive and high-earning activities located around the canal zone of influence coexist with an agrarian countryside characterized by low-productivity and subpar labor conditions.

Panama lies at the center of the American continent, in the narrowest stretch of land between the Atlantic and Pacific oceans, and as such the country has long held a “historic vocation” of facilitating the circulation of commodities and natural resources for the needs of capital accumulation. The struggle for national control of transit-oriented assets has shaped Panama’s development throughout the twentieth and twenty-first centuries, especially given the shifting positions of domestic political and economic elites toward the US. Through the transitista model, we can understand the Panamanian isthmus as part of a world-system that since the colonial era has subjugated the colonies to the interests of imperial metropolises.² Today, as Panama faces yet another challenge to its sovereignty, the gaps in this developmental model—vulnerable to the ebbs and flows of global trade and geopolitical dispute—are laid bare to see. 

Forms of enclave      

In contrast to other peripheries of the Spanish Empire, Panama was historically dominated by a merchant class dedicated to the commodities trade. In the nineteenth century, the construction of the transcontinental railway became essential to this economy. With the discovery of gold deposits in the San Francisco Bay of California in 1849, the railway was meant to connect the Caribbean coast to the Pacific. Construction lasted until 1855, which also marked the beginning of the circulation of US dollars in Panama, since it was the currency used by passengers and railroad workers. The sudden influx of dollars incentivized the development of a service industry that catered to railway users, normalizing the use of US dollars within Panama. The railway also served an instrumental purpose, as the US attempted to halt investments in the American continent from other imperial rivals including England. At the same time, the Americans hoped to develop their own manufacturing industries. Thus, from its onset, the transitista model has been intimately bound to imperial rivalries of the world.

Over time, Panama’s merchant faction formed alliances with urban landlords and rural landowners. In 1903, this merchant elite diverged with Colombian landowners on the issue of granting the US a land concession in the center of the isthmus to construct a waterway. Panama seceded from Colombia, formalizing an unequal relationship with the US and becoming its own nation-state. The Hay-Bunau-Varilla Treaty of 1903 granted the Panama Canal to the US in perpetuity, turning the country into a de facto neocolonial protectorate. For a single payment of $10 million, the United States controlled some thirty kilometers in the heart of the country, excluding Panama City and Colón. Half of this initial payment was granted through JP Morgan investments in New York real estate. Any additional territory deemed necessary to the maintenance and security of the canal was also bequeathed. Panama renounced its ability to tax the Canal Zone, subsidiary companies, and their employees. In exchange, the US government agreed to pay a lifelong rent of $250,000 starting in 1913.³.

The monetary convention of 1904 further established the US dollar as legal tender. The circulation of the dollar reduced transaction costs for the US, and as Colombia faced a crisis of hyperinflation from 1899 to 1902, Panama was disincentivized from forming its own Central Bank, in an effort to avoid the risk of an inflationary spiral.⁴ The new republic’s 1904 constitution sanctioned American interventionism, granting the US the right to meddle in local affairs and ensure constitutional order whenever necessary. In parallel, Panama’s independence secured the dominant classes’ access to the country’s customs authority, which was formerly controlled by the Colombian government. Thus, the nation’s foundational framework, as well as the network of businesses and services that the US established around the Canal Zone, restricted the ability of the dominant classes to capitalize on the interoceanic waterway,  real estate, and the management of public finances.

The construction of the canal was completed in 1914, furthering dependence on the world market and US interests. Taxation jumped from an average of $6 million between 1918 and 1920 to an average of $9 million between 1926 and 1932. About 9 percent of the increase came from the rents around the canal and investments in the New York real estate market.⁵ Nonetheless, alliances between the dominant classes—often based on clientelist regimes of strongman leaders—splintered throughout the twentieth century. Periods of economic crisis, such as the Great Depression, produced conflicts that ultimately diversified the dominant classes’ strategies to capitalize upon the interoceanic shipping route, including renegotiating the protectionist measures around the Canal Zone, such as trade between territorial entities, the taxation of the Canal Zone and its related industries, and harvesting lands owned by US multinationals. Meanwhile, periods of economic growth, such as the onset of the Second World War, intensified anti-imperial demands against US occupation. In 1945, the Canal Zone accounted for 21 percent of the national GDP—the war boom had the effect of consolidating productive domestic capital, especially in the construction sector.⁶. With the end of US military operations related to the war and the changing sizes of commercial vessels, canal transit dropped significantly, leading to a postwar recession. The US was unwilling to expand the canal in order to accommodate new vessel dimensions. To replace the lost income of urban landowners no longer leasing to the military, the Colón Free Trade Zone was inaugurated in 1948. By 1950, as part of the greater Canal Zone, it represented 8 percent of national GDP. 

The Remon-Eisenhower Treaty of 1955 renegotiated Canal rents, increasing import substitution and encouraging the development of an internal market. These measures were successful: by 1960, internal production in Panama accounted for 86.9 percent of food consumption in general, total investment grew by 13.6 percent, and 25 percent of GDP went to capital formation. From 1960 to 1965, investment in machinery doubled. By the end of the decade, spending had grown by more than 20 percent annually.⁷ The alliance between the dominant classes was, above all, maintained by US control of the Canal Zone, which justified military intervention throughout the century and allowed for the diversification of elite strategies to capitalize on the canal.

Financial coups

Transitismo grounded the disputes over control of the Canal Zone and the US-Panama relationship, with significant implications for Panamanian politics. When Arnulfo Arias, a Nazi-sympathizer who had served as president twice before, won the presidential election of 1968, the National Guard led a coup d’etat that reorganized the transit-oriented consensus. Arias was replaced eleven days into his administration by the military leader Omar Torrijos Herrera, who oversaw the reordering of this developmental model toward a more active incorporation of global finance into the enclave structure. The Torrijos regime not only wrote and implemented a new constitution—one which remains in place until this day—but it also oversaw the establishment of the International Banking Center in 1970 and the successful negotiation of the Torrijos-Carter Treaties of 1977.

Earlier amendments to the US Bank Holding Company Act allowed for the expansion of US banking services to international markets, in an effort to compete with Euromarkets that had emerged after the Second World War. Following the recommendations of economist Arnold C. Harberger, also known as a founding father of the Chicago Boys, Torrijos moved to establish the International Banking Center in response to these shifts, enabling the circulation of money through the export of banking services. The establishment of the Center reinforced Panama’s dependency on the world market, and US bank holding companies became lenders of last resort, guaranteeing liquidity for the domestic market and replacing issuers.⁸ The economy grew immediately after the establishment of the Center, but to a limited extent. GDP rose at an annual rate of 6.5 percent up until 1973, but fell to 2 percent in 1974 with the onset of the oil crisis. Economic deterioration was uneven: while manufacturing, construction, and commercial sectors saw declines in their annual growth rates, banking and financial sectors grew considerably. In response to the global recession, the Torrijos regime launched the 1976–1980 National Development Plan, which actively pursued the incorporation of the banking and financial sectors into the transitista model of development. The changes were dramatic: in 1960, Panama had five banks; by 1984, the country had 122. This outcome marked a compromise between imperial interests and the dominant merchant classes, a consensus which also backed the Torrijos regime. At the regional level, the creation of the International Banking Center would prove essential to the transnationalization of Latin American economies at the start of the twenty-first century.⁹

Importantly, the Torrijos-Carter Treaties stipulated the handover of the canal and its operations to Panamanian authorities on December 31, 1999. With these treaties, national sovereignty over the entire territory, including the Canal Zone, was finally recognized. The agreements included the gradual replacement of the Panama Canal Commission—a US corporation—with the Panama Canal Authority, an autonomous legal entity. The lands and infrastructures that belonged to the Canal Zone, such as the railway and the port system, were also returned, except for those deemed strategic for its military defense, some of which were handed over with restrictions, as in the case of the Smithsonian Museum and its affiliates. Panama acquiesced to military cooperation and defense coordination with the US to guarantee the neutrality and safety of Canal operations during war and peacetime. 

Torrijos’s sudden death in an airplane crash in 1981 prompted the rise of military strongman Manuel Antonio Noriega, who ruled as a de-facto dictator from 1983 to 1989. Noriega, initially a key US ally, assisted in aiding anti-Sandinista forces in Nicaragua and pushed forward economic liberalization measures, exposing the Panamanian economy to even greater market vulnerabilities. But by 1988, Noriega’s deals with other nations led the US to reverse its position, as the Northern power sought to depose the dictator amid the looming prospect of the canal handover. That year, the United States accused the Noriega regime of drug trafficking and imposed stringent sanctions on the Panamanian economy, freezing assets held in the National Bank of Panama, cancelling import quotas for Panamanian products, suspending payments from the Panama Canal Commission, and prohibiting US citizens and companies from conducting business with the Panamanian government.¹⁰ The resultant liquidity crisis generated the largest contraction that the Panamanian economy had ever experienced up to that point. GDP plummeted by 13.5 percent in 1988 and the unemployment rate grew to 16.3 percent.¹¹

On December 20, 1989 the US launched “Operation Just Cause,” a military invasion of Panama City. The US justified the attack through the Treaty Concerning the Permanent Neutrality and Operation of the Panama Canal, signed as part of the Torrijos-Carter Treaties of 1977. The military dropped a bomb on the capital every two minutes for fourteen hours, leaving at least 3,000 dead, 6,000 injured, and thousands of unacknowledged and missing victims. This brutal end to Noriega’s regime marked the beginning of a new chapter in the transitista developmental model: the interoceanic shipping route would soon be under Panamanian control.¹²

Uneven growth

In accordance with the 1977 Treaties, Panama gained full control of the canal at the start of 2000, a watershed moment that marked the incorporation of the most crucial asset of the transitista development model to Panama’s national economic structure. In the twentieth century, transit-oriented consensus was shaped by struggles between dominant classes and the US, who negotiated how the canal could contribute to projects of national development. After the canal handover, the primary concern became one of macroeconomic management. Panamanian control of the canal and the consolidation of other transitista assets—the port system, the air transportation system, the flags of convenience registry, and low taxation investment regimes—laid the foundation for Panama’s high economic growth in the twenty-first century. The canal and its operations could be enlisted directly to serve national development, immediately fueling public and private construction for the canal’s expansion. Following the turn of the century, Panama was home to one of the most dynamic and attractive economies in the region (Figure 1).

But economic growth did not alter the domestic market’s dependency on the world market: during the construction boom, trade between China and the US accounted for 80 percent of transit through the canal. Even with national control of the transitista developmental model, domestic stability depended on the tax revenue collected from the canal’s zone of influence.¹³

Figure 1

At the sectoral level, the activities that propelled economic growth were closely related to canal activities—construction, financial intermediation, commerce (especially in the Colon Free Trade Zone), transportation, storage, and communications performed much better than the agrarian sector, manufacturing, and natural resource exploitation (Figure 2). While the industrial composition and evolution of the national economy yielded profits for one segment of the population, it deepened structural inequalities overall. The sectors that saw the lowest growth were those that employed the majority of the country’s workers. 

Figure 2

The transitista development model also exacerbated territorial inequalities. According to recent studies done by CEPAL, Panama suffers from the highest territorial disparity in terms of GDP per capita in Latin America. While provinces like Panamá and Colón boast per-capita income levels similar to those in Spain and Portugal, the rest of the country, including Darién and Bocas del Toro, have per-capita income levels equivalent to those in sub-Saharan Africa.

Figure 3

In other Latin American countries, increases in production have led to convergences in income, but in Panama the territorial income gap per capita has tended to grow. This is a result of the nation’s dual economic structure,¹⁴ which hinders the development of provinces outside of the canal transit zone¹⁵ and bears important implications for the country’s political currents. The banking sector and special economic zones operate in enclaves, operating exclusively around the canal and isolating themselves from the laboring population. An ecosystem of low taxes limits the resources available to the state to support more equitable development in the countryside. Panama has continued to suffer from high poverty, deficient public services, a poor education system, grave institutional inefficiencies, a lack of government transparency, and labor precariousness. While investment regimes that include multiple tax benefits for private capital have employed an array of highly qualified professionals, they have not benefited the overall population. Panama’s transit-oriented consensus may have sustained the growth of recent decades, but it has also reproduced this dual reality.¹⁶

Prior to 2009, the Panameñista Party and the Democratic Revolutionary Party had alternated in power for almost twenty years after the US invasion. Although macroeconomic indicators were positive, the dividends of growth were not enough to address the country’s structural problems (Figure 4). The widening growth gap thus posed a political opportunity for Ricardo Martinelli, founder of the Democratic Change party. Martinelli rode on Panama’s discontent toward the “traditional” political elite, winning the 2009 election with more than 60 percent of the vote.

Figure 4

During Martinelli’s five-year term, the economy surged at a rate unprecedented in the country’s history, earning Panama praise from multilateral organizations and international media. GDP grew at an annual rate of 8 percent, the highest ever observed for a five-year term in Panama. Likewise, the unemployment rate fell to historic lows of 4.1 percent. But for all the positive macroeconomic indicators, the country’s dual economic structure remained firmly in place, tied to the persisting transitista development model.

Martinelli’s administration inherited favorable public finances: tax revenues ran a surplus from 2006 to 2008, which is exceptional considering the global recession. The debt-to-GPD relationship in 2009 was at 40 percent—the lowest of any political transition in the country—allowing for a vast and rapid expansion of public spending. The Martinelli administration embarked on a pro-cyclical fiscal policy: as the GDP grew, so did government spending, to the point that fiscal accounts began to run at a loss. To cover the deficit, public debt increased until it reached $18.23 billion, or 37 percent of the GDP. A large portion of the government’s infrastructure investments were executed as “turnkey” projects, paid for only after construction began. This allowed the government to transfer debt to the future, lowering pressure on state finances during incumbent presidential mandates.¹⁷

With the backdrop of the commodities boom boosting trade between China, Latin America, and the US, the construction sector in Panama became a key driver of the economy, growing 155 percent from 2009 to 2014, for an annual growth rate of 21 percent, tripling the overall economic growth rate. By 2006, the expansion of the Panama Canal unleashed a construction boom in public and private infrastructure projects, including the Panama City subway, a bridge over the Atlantic entrance to the canal, a healthcare center, the second and third phase of the Coastal Beltway in Panama City, and multiple highways. In the private sector, apartment buildings, skyscrapers, shopping malls, and offices increasingly dotted the city. The construction sector’s contributions to GDP rose from 9.7 percent in 2009 to 17 percent in 2014, making up almost a third of the economic growth over the five-year term.¹⁸

The rest of the population felt significant windfall gains: unemployment rate and informality dropped to historic lows; access to credit and financing swelled,¹⁹ and social protection programs were implemented via money transfers.²⁰ A strengthened labor market and increased social protections raised the incomes of the most vulnerable, but the national income distribution nonetheless remained deeply unequal, with a Gini coefficient above 50 points. While the end of the Martinelli years saw the deterioration of the government’s fiscal accounts, corruption charges against the administration, and the intensification of the country’s unequal economic structures, the period is largely remembered for bringing prosperity to a wide swath of the population.

Transitismo at its limit 

The bust following the boom revealed the limits of the transitista model. By 2014, global macroeconomic conditions had declined, a result of the drop in the price of natural resources and the end of the commodities supercycle, as well as the trade war between China and the United States. GDP growth fell from 5.1 percent to 3.3 percent in 2019, the lowest recorded since the 2009 recession.

The conclusion of major infrastructural projects meant that Panama’s investment growth rate fell from 14 percent in 2009 to 1.2 percent in 2019, while the average growth rate of the construction industry fell from double-digits between 2011 and 2015 to an average of 0.7 percent in 2019—the lowest recorded since 2005. Meanwhile, private consumption and exports from the Colón Free Trade Zone also diminished, in part because of the economic crisis in Venezuela, tariff conflicts with Colombia, and the drop in the price of natural resources. This led to a decline in trade, the foundation of the transitista model. 

Figure 5

The start of operations at the expanded Canal in 2016, however, did lead to an increase in transportation, storage, and communications. The Panama Canal Authority’s contributions to the National Treasury grew considerably by 2017, climbing to $3.1 billion, 63 percent more than the previous year. Nonetheless, public finances continued to worsen as the levels of public spending grew more than national income. The national taxation system remained unreformed, leading the government to adjust its fiscal rules in order to grow the deficit. Unemployment climbed from 5.1 percent in 2015 to 7.1 percent in 2019, while informality rose from 40 to 45 percent. The Panama Papers scandal aggravated the situation, and foreign investment immediately dropped to 5.6 percent of GDP—the lowest level since 2009.²¹ The contraction reinforced the extreme concentration of economic activity along the canal.

The bust was expected in a country that had failed to propose a new development plan in the aftermath of a construction boom. The Covid-19 pandemic only exacerbated the crisis. The abrupt suspension of trade caused an unprecedented shock, causing Panama to experience one of the sharpest contractions of GDP in the world, at 17.7 percent. Construction, commerce, and transport accounted for 77 percent of this contraction. Since the country’s economic sectors were organized around the canal and its operations, there were no productive alternatives in the countryside to help weather the paralysis imposed by the pandemic. The unemployment rate surged to 18.5 percent, while informal labor climbed to 52.8 percent. The rate of participation in the formal workforce fell from 66.5 to 63 percent—an eleven-year setback. Salaried employment in the private sector contracted to such an extent that, even by 2023, the country had not fully recovered.²² A drop in tax revenue hurt public finances, and debt as a percentage of the GDP rose to 56.4 percent in 2023, running at about $47 billion.  

Though economic activity began to resume in 2022, external shocks like the Russia-Ukraine war increased oil prices and the overall cost of living. These pressures denoted a wave of mass protests in the country, responding to the state of economic crisis, corruption, and inequality. Droughts brought further disarray—the arrival of El Niño affected the reservoirs that provide water for Canal operations, forcing the canal to restrict the transit of commercial vessels until 2024. The decline in shipping traffic across the canal also meant fewer contributions to the National Treasury. According to INEC data, toll income had contracted by 11.7 percent as of June 2024. The last straw was a 2023 contract approved by Laurentino Cortizo, Panama’s leader throughout the pandemic, which greenlit operations in Minera Panamá, an open-pit copper mine spanning 13,000 hectares located 180 kilometers north of the capital. Protests against the signing—which occurred without a public bidding process—formed the backdrop of the 2024 election. Martinelli, and then Mulino, triumphed through an anti-incumbency platform that promised a new way forward.

A nation adrift  

Despite this massive popular mobilization, Panama’s political situation today represents continuity more than rupture. Mulino’s early economic plans have reinforced a reliance on transitismo, and a viable alternative to this model has yet to materialize. Mulino’s only concrete campaign proposal focused on the construction of the Panama-Chiriquí Train, which would offer an unsustainable economic boost, similar to the construction boom of the previous Martinelli government.

The Mulino Administration must now also contend with the Trump Presidency. Two weeks ago, amid Trump’s “oath” to recover control of the canal, newly sworn-in US Secretary of State Marco Rubio met with Mulino in Panama City, a visit that concluded with an agreement for Panama to host third-country nationals deported from the US. Thus far, nearly 300 deportees, many from Asian countries, have been flown to the country, with about a third transferred to a military jungle camp in the Darien region and the rest held in hotels in the capital. That Mulino is willing to comply with Trump’s severe and violent deportation agenda speaks to the importance of maintaining Panama’s economic and security relationship to the US.

Publicly, Mulino has responded to Trump’s threats by guaranteeing neutrality in canal operations and returning to the provisions of the Torrijos-Carter Treaties of 1977. But behind-the-scenes negotiations may soon reveal other power plays, with Panama potentially caving into pressures from the North on issues such as port concessions, infrastructural investments, tariffs on US ships, and a reinvigorated US military presence on the waterway. Already, a growing sect of Panamanians online have expressed support for handing back control of the canal to the US, a sentiment that undoubtedly stems from the rigid economic inequality produced by the transitista model. For many in the country, the question remains: Does the canal truly contribute to the greater good of the country?

Nonetheless, the transit-oriented consensus continues to dictate national economic policy. Trump’s statements pose significant threats to the extant path, even as US hegemony in Latin America faces rising challenges from China. Amid popular grievances concerning poor labor conditions and unaffordable living costs, state capacity for social protection still relies on an exhausted development model, marked by a dual economic structure and the cyclical deterioration of macroeconomic and social indicators. Even if Mulino pursues some form of geopolitical realignment to restrain the influence of the US, his attempts to revitalize the transitista model appear to be yet another bet on dependency, leaving adrift demands for meaningful change.

This article was translated from Spanish to English by Maria Cristina Hall.

Footnotes