US embassy cable - 03ANKARA6623

C O N F I D E N T I A L SECTION 01 OF 03 ANKARA 006623 
 
SIPDIS 
 
 
STATE FOR E, EB/IFD, EUR/SE 
TREASURY FOR OASIA - MMILLS AND JLEICHTER 
NSC FOR MCKIBBEN AND BRYZA 
 
 
E.O. 12958: DECL: 10/21/2008 
TAGS: EFIN, TU 
SUBJECT: MEETINGS WITH GOT AND IMF ON SIXTH REVIEW, BUDGET 
 
 
REF: A. ANKARA 6448 
     B. ANKARA 6442 
 
 
Classified by Acting Economic Counselor Andrew Snow for 
reasons 1.5 (b) and (d). 
 
 
1. (C) Summary:  The GOT needs to take several 
actions--mostly submission of legislation to 
parliament--before signature of a Letter of Intent, expected 
by early next week.  Additional actions will be needed before 
the IMF Board vote, expected mid-November.  The GOT is making 
fiscal adjustments of 0.65 percent of GNP for the remainder 
of 2003, and of 2 percent of GNP for 2004 in order to meet 
the 6.5 percent of GNP primary surplus target for each year. 
Half of the 2004 adjustment stems from making permanent the 
temporary Special Communications Tax and Special Transaction 
Tax.  According to the IMF Deputy ResRep Finance Minister 
Unakitan played an important role in convincing the Prime 
Minister to make concessions on the Direct Tax Reform. End 
Summary. 
 
 
2. (Sbu) In a series of meetings with GOT officials and IMF 
Deputy Resident Representative Christoph Klingen (protect), 
Econoff discussed the IMF Sixth Review and the Budget 
submitted to parliament October 17. 
 
 
IMF State of Play: 
---------------- 
 
 
3.  (Sbu) The Fund Mission left October 15 without a Letter 
of Intent and with a series of actions the GOT needs to take 
before a Letter of Intent is signed, with additional actions 
needed by the date of the Board Vote.  According to Klingen, 
before the Letter of Intent, the GOT needs to: 
 
 
--Submit budget to parliament in line with IMF agreement 
(done but IMF reviewing details) 
 
 
--Submit BRSA and Financial Mgmt and Control law to 
parliament (not sure if done but about to be, if not) 
 
 
--Submit legislation creating additional incentives for SEE 
employees who retire before year-end. 
 
 
--Approve in Council of Ministers the Turk Telekom 
privatization plan 
 
 
--Announce the clean-up plan for Imar Bank 
 
 
Before the IMF Board vote, the GOT needs to: 
 
 
--Approve in Council of Ministers the Direct Tax reform 
 
 
--Pass BRSA and Financial Mgmt and Control laws 
 
 
Klingen was not aware of any particular problems with these 
issues, but the GOT has a lot of work to do.  On Pamuk Bank, 
Klingen believed it was just a problem of getting the Turkish 
Treasury to focus on the unpleasant task of transferring 
funds to BRSA. 
 
 
4. (C) On the Direct Tax Reform, Klingen said that Finance 
Minister Unakitan had played a key role, by joining forces 
with Babacan in convincing the Prime Minister to accept a 
significantly-watered down version of the geographic tax 
incentives.  According to Klingen, the incentives would only 
apply in the poorest regions, whereas the P.M. had earlier 
spoken of a much larger area.  The chief incentive is that 
employers will not have to pay Social Security premia for new 
employees, and that new employees will also get a tax 
exemption.  Since the poorer regions concerned account for a 
negligible portion of current tax revenue, and few new jobs 
are being created there, the IMF is not too concerned about 
granting these modest incentives. 
 
 
5. (Sbu) On the Free Trade Zones, Klingen confirmed that the 
GOT agreed to eliminate the personal income tax exemption on 
employees of newly-established companies in the FTZ's, and 
that exisiting manufacturing companies' employees would lose 
their personal income tax exemption in five years. 
 
 
6. (Sbu) Klingen said the Fund had no issues with monetary 
policy.  Turkey had easily exceeded all monetary targets. The 
only one that was a bit "tight" was base money but that this 
was understandable because of the reverse currency 
substitution in recent months.  Klingen reiterated earlier 
Fund staff comments about not wanting the disbursements under 
the U.S. loan to be used to repay domestic debt, since these 
inflows would have to be sterilized, exacerbating losses at 
the Central Bank.   Klingen was not concerned about the 
Current Account Deficit (Former Economy Minister Dervis had 
raised concerns about the Current Account in a speech last 
week).  Klingen felt that Turkey appeared to have adequate 
access to financing, and it's exports remain strong despite 
the currency appreciation. 
 
 
Budget: 
---------- 
 
 
7.  (C) Finance Ministry budget official Ahmet Kesik 
(protect), State Planning Organization Deputy Undersecretary 
Birol Aydemir (protect) and Klingen, in separate meetings, 
provided additional details on the fiscal situation.  To 
achieve the 6.5 percent primary surplus target for 2004, the 
GOT has agreed with the IMF to take adjustment measures 
amounting to TL 8.4 Quadrillion, about 2 percent of GNP. 
According to Aydemir, about TL 4.5 Quadrillion of this 
adjustment derives from making permanent the "temporary" 
Special Communications Taxes and Special Transaction Taxes. 
Much more modest amounts were derived from the more 
controversial measures on the Special Consumption tax rates 
for autos, alcohol and tobacco: TL 170 m Trillion from 
alcohol and tobacco and TL 200 Trillion from autos.  The 
rates for the Special Consumption Tax on autos were increased 
only slightly at the low end, and substantially increased for 
luxury vehicles.  On alcohol, Aydemir claimed that the rates 
were not increased.  Instead, the GOT set a floor for a 
minimum tax per unit of each product.  The reason, according 
to Aydemir, is that imports were coming in at very low 
prices.  Since the taxes are calculated as a percentage of 
the price, the more cheaply priced imports were paying a 
lower tax per unit than local producers. 
 
 
8. (Sbu)  Most of the adjustment came from revenue rather 
than spending measures.  According to Aydemir, the only 
spending measure was to hold Social Security Spending 
constant in nominal terms.  Broadly speaking, all other 
categories were allowed to increase in line with projected 
inflation, such that non-interest expenditure remained at the 
same percentage of GNP in 2003 and 2004.  Kesik provided the 
exact percentages projected: 22.6 percent of GNP (TL 94 
Quadrillion) in 2004 and 22.9 percent (TL 82 Quadrillion) in 
2003.  Kesik noted the wage restraint: a 13.8 percent increse 
for public sector workers, roughly in line with inflation. 
The public sector wage bill will remain 8.4 percent of GNP in 
2004, as in 2003.  Kesik contrasted this discipline on wages 
with the exorbitant, fiscally-damaging wage increases under 
the Ecevit Government.  According to Kesik, no significant 
fiscal savings will be realized from the reduction in SEE 
employees until 2005, since there will be severance payments 
in 2004 and many retirements take place near the end of the 
year. 
 
 
9. (C) According to Kesik, the 2003 fiscal adjustment is 0.65 
percent of GNP or TL 2.33 Trillion.  The most significant 
items were:  0.28 percent from cuts in investment spending, 
0.16 percent from restrictions on expenditures to be financed 
from special revenues (sic), .07 percent from tobacco and 
alcohol, and .06 percent from the Special Transaction Tax and 
Education Levies.  Klingen confirmed that the GOT now really 
does seem committed to the 6.5 percent primary surplus target 
for both 2003 and 2004.  In the negotiations, the GOT 
officials did not try to push back on the overall target, the 
necessity of which they seemed to recognize.  Aydemir pointed 
out that both in 2003 and 2004, the 6.5 percent primary 
surplus breaks down as 5 percent from the Central Government, 
and 1.5 percent from the rest of the public sector: SEE's, 
municipalities, Social Security funds and other special 
funds.  Aydemir saw little risk of not meeting the 2003 
primary surplus target. For 2004, the main risk area 
continues to be Social Security.  In his view, the IMF reform 
of Social Security is not working well. 
 
 
Monthly Primary Surplus Data: 
-------------------------------------------- 
 
 
10. (Sbu) According to Kesik, the August primary surplus was 
TL 5.5 Quadrillion, versus an expectation of TL 4.5 
Quadrillion. Klingen, on the other hand, said the IMF still 
does not have a final August primary surplus number, 
according to the Fund's definition. Klingen explained that 
although the Central Government reports its data fairly 
quickly, there is a huge lag in getting detailed data for the 
consolidated public sector, including the SEE's and the 
Social Security Funds.  Nevertheless, Klingen is fairly 
confident that the target was missed, but only by about TL 
200-300 Trillion.  Kesik and Treasury official Tulay Arslan 
stressed the seasonality in the fiscal data, with tax 
payments inflating the May, August, and November data.  The 
seasonality can be seen in the preliminary September primary 
surplus of only TL 1.2 Quadrillion. Klingen said the 
expectation had been around TL 1.5 Quadrillion. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
EDELMAN