'There Are No Terrorists Here'.(Hezbollah activities in South America)

Ciudad Del Este offers something for everyone. Search the warrens of stores and galleries in the dingy Paraguayan town, hard by the borders of Brazil and Argentina, and you'll find the finest in French champagne, sneakers so cheap they might as well be free, bootlegged CDs at $2 a pop and genuine Steinways for considerably more. But U.S. officials say something more sinister lurks behind the grubby streets and unfettered capitalism. According to the latest U.S. State Department report on global terror: "the tri-border region [is] a focal point for Islamic extremism in Latin America."

For decades the no man's land where Brazil, Argentina and Paraguay meet has been a den of smugglers, gun runners and South American rebels. With little policing from far-away capitals and corrupt local officials, illegal trade of all kinds flourished. Tens of thousands of Lebanese were attracted to the area after their country sank into a brutal civil war in the 1970s. They became traders and formed a tight knit community that spans the border between Ciudad del Este and neighboring Foz do Iguacu, Brazil. Today they say they are mainstream Muslims, but authorities claim that among their ranks are the holy warriors of Al Qaeda, Hamas and Hizbullah. They use the region to recruit for their jihads and to finance terrorist acts in the Middle East and Latin America, says Washington. The United States had worried about the ungoverned region for years, but "since September 11, it has become the only item on the agenda," says Mark Davidson, first secretary of the U.S. Embassy in the Paraguayan capital, Asuncion.

The notoriety is scaring off tourists, long drawn to the area by the world-renowned Iguazu waterfall. As a result, the economy is crumbling. Streets that once buzzed until the wee hours are now largely deserted by 4 in the afternoon. Locals are incensed. "The allegations against us that have been broadcast worldwide are false," says Laura Galante de Meskin, Paraguayan coordinator of a movement to protect the region's reputation. "There are no terrorists here." Brazilian President Fernando Henrique Cardoso, on an official visit to the United States last week, declared the tri-border area "safer than London."

Maybe not. The 300,000 residents of Foz, for example, have seen 210 murders so far this year. With drugs passing through the region by the ton and assault rifles available locally for as little as $120, that is little surprise. Brazilian authorities reckon that more than $6 billion a year in illegal funds is laundered in the area. Across the "International Friendship Bridge" connecting Brazil and Paraguay, document checks are rare. Amid the crawling lines of traffic, vans brazenly unload consignments of cigarettes and electronics onto the pavement to be transported past Customs agents by local smugglers. And drivers change their license plates to match the country they're entering. All of which helps explain the area's attraction to bad guys of all stripes. Says Roberto Salvador Ontivero, head of the antiterrorist unit in Puerto Iguazu, Argentina, the third city in the tri-border zone, "Terrorist activity the world over is funded by other crimes."

Direct links to Islamic terror groups are hard to prove. But that hasn't stopped widespread press speculation about the goings-on in the border badlands and reports of ominous links to bin Laden. Recycling old information and unsubstantiated rumors to play up the terrorist angle has been a sure way to grab headlines around the globe. But what do we really know? U.S. counterterrorism officials are fairly certain that tens of millions of dollars have been raised in the region for Hamas and Hizbullah. There also are suspicions of Al Qaeda cells in the tri-border area, but that applies to Detroit, Michigan, too.

More concretely: Argentine officials suspect that Hizbullah operatives in the tri-border area carried out two bomb attacks in Buenos Aires--on the Israeli Embassy in 1992 and the AMIA Jewish welfare center in 1994, between them claiming more than 100 lives. The trial started in September of 20 suspects alleged to be local accomplices in the AMIA attack. In response to pleas from Washington after September 11, local police forces arrested two dozen Arabs, but most were ...