How a plan to create economic miracle zones in one of the Western hemisphere’s poorest countries deteriorated into intrigue and confusion.

What if a corrupt or ineffective government could simply be disconnected from the country and replaced with a better version, like loading a new operating system into an old computer?

Octavio Rubén Sánchez Barrientos, an adviser to Honduran president Porfirio Lobo Sosa, had been mulling over variations on that idea since 2004. In 2009, a friend showed him a video of Paul Romer giving a TED talk. For some years now, Romer, an American development economist, has been preaching the idea of “charter cities”: small jurisdictions within a developing country that operate autonomously of the national government, their management handled by another country with stronger rule of law.

Inspired by historic examples like Hong Kong, and more recent ones like the Dubai International Financial Center, where British legal standards helped the economy flourish, Romer argues that such cities would limit corruption, provide clear legal frameworks for business dealings, and give investors certainty for the long term. In doing so they would spur growth and perhaps act as seeds for spreading good governance around the rest of the country.

Sánchez had helped draft telecommunications privatization laws in the mid-2000s as an advisor to a previous conservative president, and saw how getting government out of the way could help the economy. In Romer, he saw a potential ally: a well-regarded academic with connections at two top business schools, who could be a powerful international advocate.

And in Sánchez, who asked Romer to advise Honduras’ efforts, the American economist found a partner willing to put his theories to the test. In early 2011, Honduras passed a constitutional amendment that would allow the government to create a Región Especial de Desarrollo (Special Development Region), or RED.

And then, for Romer, it all went wrong. On September 4, the Lobo government made a secret and still somewhat opaque bargain with a consortium led by a libertarian guru with a different vision for the new cities. Three days later, Romer pulled out. And on Sept. 22, one of the Honduran lawyers who challenged the RED law in court was killed by unknown assailants, shot repeatedly outside a church where he had just attended the wedding.

A vision of stability

Nestled in the Central American isthmus, Honduras is among the poorest countries in the Americas, with a per capita GDP of $4,345; about a fifth of the national income is remittances from Hondurans living abroad. Besides suffering endemic corruption, drug trafficking and a reign of terror by criminal gangs, it has changed presidents four times in the last decade. It could desperately use some pockets of rectitude and stability.

The government has several areas in mind for the REDs. Most are undeveloped, but perhaps the most promising site, near the Caribbean coast in Puerto Castilla, has also attracted the most criticism, since it is near the lands of the indigenous Garifuna people. Wherever the zones end up being sited, the idea is to build the infrastructure—roads, housing, sewers, a power grid, industrial blocs—to support a city-scale industrial economy: Maquiladoras, factories assembling goods for export to the US under the Central American Free Trade Agreement (CAFTA); textile factories; and call centers, with broader opportunities to follow.

However, though the REDs had been inspired by Romer’s charter cities, the framework Honduras ultimately adopted was not quite what he had envisioned. Depending on a foreign government to guarantee that the cities were acting in the public interest had a proved a major sticking point both domestically, since Honduran citizens saw it as a violation of their sovereignty, and abroad, where it proved hard to convince developed countries to contribute. So the RED government’s creation and operation would be overseen by a transparency commission of outside experts, appointed by Lobo and headed by Romer.

“I didn’t want to be on the transparency commission, [but] I felt like I either had to oppose the law or… try to make sure it was used for a valid public purpose,” Romer says. “If you have special interests that capture the process in the middle of establishing a new institution of government, they can create something that is not in the public interest but is very durable and very hard to change.”

Lobo signed an executive order creating the transparency commission in December 2011, and the project proceeded, with Romer visiting Canada in April [pdf] to drum up support—perhaps the Royal Canadian Mounted Police and the country’s judges would lend a hand building the new city? But in September 2012, the press reported that the Honduran government had signed a deal to manage the first RED with MGK, a consortium of businesses created by an American called Michael Strong just for that purpose.

Freedom from interference?

Strong is not a conventional thinker. A self-taught intellectual and libertarian economic theorist, he promotes “conscious capitalism,” the idea that businesses should “gener[ate] every form of value that matters: emotional, social, financial.” He has promoted this idea through a variety of think-tank style organizations, many backed by John Mackey, the CEO of the high-end supermarket chain Whole Foods. One of his obsessions was the possibilities of economic free zones, which could bypass democratic obstacles on the way to the prosperity unleashed by libertarian reform.

When word first got out about Honduras’ plan for REDS, Strong got in touch with his network, co-founding the “Free Cities Institute” in nearby Guatemala in 2011. His partners organized a conference that April at Roatán, an island off the Honduran coast; hosting duties were shared with the Seasteading Institute, the organization backed by the libertarian American investor Peter Thiel, which also explored a bid to manage a RED. At the conference, Strong argued that the country could be set on the path to becoming an “anarcho-capitalist paradise” by ensuring that free cities maintained low taxes and limited regulation rather than adopting the “eurosocialist” preferences of American liberals. This, he argued, would be an incredibly effective way to spur investment and fight poverty. “Our goal is to be the most economically free entity on Earth,” Strong told Fox News in a triumphant interview after the government signed the deal with MGK.

Romer asked to review the documents of that deal. The government refused, saying that the order to create the Transparency Commission had never been formally published and thus was invalid. Romer and the other commissioners withdrew their participation from the project.

A law unto itself

Even now, there doesn’t seem to be total clarity about how the RED will be run. “You will have a government like you have elsewhere, you know, an appointed government,” Sánchez says. “No, the investors have nothing to do, it will always be the Honduran government.” Strong, on the other hand, seems to see it differently. “We make a distinction between commercial and criminal law,” he says. “We see the RED government as particularly involved in developing the criminal law for the region, but one of our partners [will] bring new commercial law.”

A memorandum of understanding (pdf, Spanish) between MGK and the government, which was released to the Honduran press, does not shed much more light, saying that a “model of administration and development for the RED… defining the levels of government and administrative organs” will be appended to whatever contract they sign. However, it also says that the company will be “the sole entity responsible for executing the administrative model,” under the government’s supervision.

Strong says the RED will adopt Texas state law concerning business agreements, hiring Texas judges to arbitrate disputes and training Honduran lawyers to replace them, because Texas law is familiar to American investors and provides few restrictions on business activity. There will be no taxes besides a property tax.

Where Strong’s and Romer’s visions of the RED diverge is that, while they share the basic idea that a new government can eliminate corruption and uncertainty, Strong thinks that government’s responsibilities should be minimal, while Romer argues that the biggest threat to charter cities is weak governance.

“There are a group of libertarians whose position is what you need to provide development and opportunity is basically corporate actors, and you don’t need something like government actors,” Romer says. “I’m very skeptical of that position, there is no evidence to support that view.”

Strong, for his part, says his plan is to start small and scale up organically, staying nimble and iterating. “We’re really doing a zones 2.0 [i.e., the next version of an economic free zone], a small, quick-start zones 2.0, which is consistent with the Honduran legislation, but it’s much simpler and easier than the large charter, conception-wise,” Strong says.

But indigenous groups, human-rights activists, and the Honduran opposition fear the new economic zones will be a land-grab, giving carte blanche to private interests to exploit workers without oversight. (Strong says the country will have a “dispute-resolution mechanism” for conflicts between workers and employers). There is also potential that it could become a tax haven, though Sánchez says that problem will be solved by Honduras’ generally low tax rates.

Cloak-and-dagger negotiations

However, what bothers Romer at least as much as the terms of the deal is the way it was reached. “It’s pointless to try and speculate about whether or not they would do a good job, it’s just a totally illegitimate way to approach a public policy question,” he says of MGK’s deal. “The process is just the caricature of the worst aspects of business as usual now in Honduras.”

Sánchez says the government acquiesced to MGK’s desire for secrecy because of the challenges that the project faced in the legislature and the judiciary: It was proving hard to attract investors when the fate of the project remained politically up in the air, an irony for a scheme meant to create stability.

“The thing about them [MGK] is that they agreed to keep moving their projects,” Sánchez said of the government’s willingness to sign a non-disclosure agreement. “They didn’t want to make that public. It’s pretty obvious why: There are some big shots from Silicon Valley and Wall Street involved in it.”

Strong, for his part, says he wanted the deal to remain secret because MGK was shopping for land for the REDs under a different name, that of MGK’s parent, a Nevada-registered company called Grupo Desarrollos Especial. Strong says he wanted to avoid connecting the purchases to the REDs to avoid inciting a wave of speculation. Now those negotiations have been halted. GDE itself is the subsidiary of a third firm, a Delaware-registered company, Project Futura, which is represented anonymously by a corporate-services company there.

Strong still refuses to disclose his backers other than a Guatemalan real-estate investment firm, but he says they include security contractors, corporations interested in setting up operations in Honduras, and those mystery Silicon Valley investors.

The loss of transparency

Given these unanswered questions about how the RED will be managed and where its final location will be, the transparency commission originally envisaged as an overseer ought to play an important part. But a new one hasn’t been appointed yet. “We are talking about several names,” Sánchez says. Without a transparent process for choosing its members or a clear idea of who is investing in the RED, however, the possibilities for a conflict of interest are obvious.

That worry, and the potential location of the RED near Garifuna land, led a group of lawyers to file an injunction against the plan in the country’s Supreme Court. One lawyer, Antonio Trejo Cabrera, was murdered a few weeks later in a targeted killing. There is no evidence that it had anything to do with the RED case; Human Rights Watch says that Trejo had received death threats for years after representing peasant groups in suits against landowners. Some 80 people have died in violence relating to land disputes in just the last three years. Yet the culprits in such killings are rarely found, and so far Trejo’s killers are still unknown and at large.

Now the wait is on for the Supreme Court’s decision, which could come in two weeks or longer. If it doesn’t uphold the constitutional amendment creating the RED, MGK is out of luck. But Strong hopes that even if the court invalidates portions of the amendment, it will maintain enough for work to proceed. ”We are enthusiastically looking forward to spreading this; we believe this is going to be the most potent approach to alleviating poverty,” he says.

Romer isn’t giving up either. ”There’s a saying from Silicon Valley—fail fast,” he says. “We uncovered pretty quickly that this is not going to work, from my perspective, in Honduras. Now it’s time to just move on and look in other places.”