'Chiqui' lasted less than a year at the helm following Martino's resignation, and leaves with the Guarani languishing near the foot of the Conmebol World Cup standings
The president of the South American nation's governing body confirmed in a press conference that Arce, who took over from Argentine Gerardo Martino following the 2011 Copa America, had been sacked from his role as head coach.
Arce's fate was sealed with a disappointing 3-1 defeat away to Bolivia at the weekend, which left the side second bottom of the Conmebol World Cup qualifying standings.
"I want to let everybody know that we are going through a very difficult time, and we have now made the decision to rescind Francisco Arce's contract," Juan Napout revealed to reporters in Asuncion.
"We have communicated our decision to him and his technical staff."
Arce took over from 'Tata' Martino after the current Newell's Old Boys trainer declined to renew his contract, following four successful years at the helm of the Albirroja that included a World Cup quarter-final in 2010 and finishing Copa America runners-up to Uruguay.
'Chiqui' could not emulate his predecessor, however, and in five official games only recorded one victory, against Ecuador. His replacement, yet to be named, will face a tough test on assuming command with the next qualifier against Argentina away in Cordoba.