US embassy cable - 03SANTODOMINGO6075

C O N F I D E N T I A L SECTION 01 OF 04 SANTO DOMINGO 006075 
 
SIPDIS 
 
DEPARTMENT FOR WHA/CAR, WHA/ECPS AND EB/IFD/OMA; 
TREASURY FOR OASIA; NSC FOR SHANNON 
 
E.O. 12958: DECL: 10/27/2005 
TAGS: EFIN, ECON, ECIN, ENRG, EINV, DR 
SUBJECT: AMBASSADOR AND EXIM BANK METTINGS WITH PRESIDENT, 
ECONOMIC CABINET AND IMF 
 
REF: SANTO DOMINGO 5564 
 
Classified By: Ambassador Hans H. Hertell; Reasons: 1.5 (B AND D) 
 
 
1. (C)  Summary: The Ambassador and Ex-Im Bank officials had 
a series of meetings October 20-21, with President Mejia, 
members of his economic cabinet and International Monetary 
Fund Representatives. Mejia expressed frustration about 
delays in disbursement of loans from the IMF and the 
multilateral development banks.  GODR officials reaffirmed 
their commitment to the Fund program; separately, IMF 
representatives said they were working closely with the GODR 
and noted problems in the energy sector and political 
pressures on the President. Embassy is submitting septel its 
assessment of the Dominican financial and political 
situation.  End summary. 
 
2.  (SBU)  On October 20-21 an EXIMBANK team accompanied the 
Ambassador for discussions of the Dominican financial 
situation and bilateral lending. The group called first on 
Technical Secretary Carlos Despradel, Central Bank Governor 
Jose Enrique Lois Malkun and Finance Secretary Rafael 
Calderon; on October 21 they met President Mejia and visiting 
IMF staffers. EXIM officials also had contacts with local 
bankers and the private sector. (Exim team consisted of 
Senior VP for Finance Jeffrey Miller, Senior VP for Credit 
and Risk Assessment John McAdams, Counsel Peter Gilbert, and 
Country Manager Kathy Flanigan.) 
 
-------------- 
Difficult times 
-------------- 
 
 
3.  (C) Technical Secretary Despradel reviewed the financial 
situation since the Baninter crisis emerged this past spring: 
the country has reduced imports 20-25 percent; even so, 
exports, tourism and remittances are at record levels. The 
GODR has reduced capital expenditures by 35 percent in 
nominal terms (60 percent if inflation is into acount). 
Inflation, running currently 35 percent, is a serious issue. 
One proximate cause has been  the "tremendous outflow of 
capital."  Despradel acknowleged that the government had 
increased its payroll 6 percent. 
 
4. (C)  Despradel reiterated his reluctance to approve any 
new debt, including any Ex-Im financing, except for projects 
of the very highest priority to the President (for example, 
water projects and asphalt).  He said there was a lot of 
pressure on the President to approve costly projects, but he 
(Despradel) was opposed.  If he approved anything at all, he 
wouldn't be able to control political pressure on other 
projects and the GODR would not meet IMF limits. 
 
5.  (C) Finance Secretary Calderon commented that "reports 
that arrive concerning the country are not always accurate." 
Calderon noted that the Dominican Republic had suffered 
external shocks over the past 2-3 years, "like the rest of 
the world." These included the U.S. economic slowdown, the 
effects on tourism of the Sept. 11 terrorist attacks and the 
Iraq war, oil price spikes, and Venezuela's cutoff of oil 
exports ("a situation that will remain bad as long as Chavez 
is in power").  On top of that, Calderon said, came the 
internal shock of Baninter, followed by two other bank 
failures, that have created a huge quasi-fiscal deficit. 
Calderon said that the GODR knew it had no choice but to 
assure monetary and fiscal discipline "with or without an IMF 
agreement." 
 
 
6.  (SBU) Calderon said that despite all of these adverse 
factors, GDP growth for 2002 was  4.2 percent. Although IMF 
has projected a three percent contaction in 2003, the first 
six months of the year showed only minus eight-tenths 
percent.  He commented that exports for 2003 were at record 
levels; tourism was up 24 percent over last year, with hotel 
rooms "fully booked" until mid 2004; and remittances were up 
five percent over last year.   Economic statistics showed 
strong investment, even in the electricity sector.  (COMMENT: 
In contrast to this assurance, recent press reports show 
investment decreased more than 9 percent over last year, with 
its annual contribution to GDP down nearly half over the past 
five years -- from 7.91 percent contribution to GDP in 1999, 
to a projected 3.98 percent for 2003.) 
------------------------ 
Status of arrears to USG 
------------------------ 
 
7.  (C)  Calderon expressed surprise when Ex-Im bank asked 
about GODR arrears of USD 600,000 to EXIM for a power project 
loan and said he had already instructed the Central Bank to 
pay. 
 
8.  (C)  Central Bank Governor Lois Malkun told Ex-IM that 
the GODR was modestly in arrears to a number of creditors, 
and he could not say when Ex-Im might be paid.  The Governor 
did takee note that if the arrears persisted byond November 
15, Ex-Im would be taking steps to suspend lending. 
 
--------------------- 
Central Bank Outlook 
-------------------- 
 
9.  (C) Central Bank Governor Lois Malkun offered a less 
optimistic assessment.  He sees the GODR facing two principal 
problems: 1) a revenue shortfall, and 2) the consequences of 
the GODR decision not to honor the IMF's request to consult 
before buying out the shares of electricity distribution 
companies held by Spanish company Union Fenosa. Lois Malkun 
mentioned the President's frustration at the political 
obstacles to getting Congress to approve additional tax 
measures. Though the GODR had decreased expenditures, it had 
nevertheless acumulated USD 114 million in arrears in 
September -- a period for which the Fund agreement set a 
ceiling of USD 70 million in arrears.  Lois Malkun said that 
the GODR  had reduced arrears to USD 63 million by October 
14, but could not continue to pay "without pesos."  The 
Governor said a priority for him was obtaining disbursement 
of IDB and World Bank loans.  He said that the GODR might 
need bridging finance.  He projected an improvement in the 
exchange rate and economic conditions by December. 
 
10.  (C)  Lois Malkun said that further serious problems had 
emerged in the banking sector  after conclusion of the IMF 
agreement.  Books at the failed Bancredito were not clear and 
might cause problems for the expected takeover of Banco 
Profesional by the Leon Jimenez Group. Even so, he expected 
the deal to be concluded very soon.  He said the Central Bank 
did not intend to issue certificates of deposit to back 
Bancredito depositors, as it had with Baninter.  (NOTE: we 
have heard from various sources that some CDs were issued 
quietly but then stopped.  End Note.)  The Governor said that 
other Dominican banks were in good shape and 40 auditors 
would arrive within the week to conduct the banking sector 
audit  required by the Fund agreement. 
 
 
----------------------------------- 
President's View: A Long Time Coming 
----------------------------------- 
 
11.  (C) President Mejia reiterated to the Ambassador and 
Ex-Im visitors his frustration at the slow disbursement of 
international financial institution (IFI) loans (reftel).  He 
pointed to incomplete projects in the country and said that 
in three-and-a-half years of discussions and negotiations, he 
had received nothing from the World Bank, despite its 
repeated promises to assist with the electricity sector.  The 
President blamed current economic problems on the banking 
sector crisis and said that subsequently, the IMF and IDB had 
paralyzed the country by not disbursing funds.  The President 
said that if he did not help the people in need it, he would 
be thrown out and that he could not wait for "manna from 
heaven." 
 
12.  (C)  Mejia again defended his decision to repurchase 
from Union Fenosa two of the country's three electricity 
distribution companies. Union Fenosa management had been 
exploitive and corrupt; the company had left many unpaid 
debts behind. GODR officials had commented earlier that the 
repurchase would improve cash flow and reduced GODR debt 
(arguing that as a partner, the GODR was already responsible 
for half of the companies' liabilities). 
--------------- 
Raising Revenue 
--------------- 
 
13.  (C) CB Governor Lois Malkun, also present along with the 
other officials, said the GODR was still working with 
Congress on passing a five percent export tax, but indicated 
there was not much support among members.  The Supreme Court 
recently declared unconstitutional the August presidential 
decree imposing the tax. Lois Malkun described the situation 
as "complicated" and said the GODR was working on other 
ideas.  He commented that real fiscal reforms would be 
impossible prior to presidential elections.  Technical 
Despradel was also pessimistic on that point: Congress would 
not approve any tax increase and the business community would 
not support any tax that could not be directly passed on to 
the consumer.  Despradel expressed concern that some elements 
of the GODR might propose some type of exchange rate control. 
 
14.  (SBU)  Calderon noted that the GODR did have sources of 
funds to pay foreign debt and that those funds could not be 
used for other purposes.  These included the 3 percent carbon 
tax (on fuel puchases), a two percent temporary import tax, 
the 0.15 percent check cashing fee, and the departure tax at 
airports, recently raised from USD 10 to USD 20. 
 
--------------- 
The IMF view 
--------------- 
 
15.  (C) IMF Country Manager Marcelo Figuerola and temporary 
Resident Representative Ousmene Mandeng told the Ambassador 
and visitors that the GODR was cooperating with the Fund. 
The President was heavily involved in all areas of the 
financial issues with "the economic team taking orders." 
Figuerola acknowledged a rocky start to the standby with 
surprises in the banking sector and more fiscal and financial 
shortfalls than the GODR had initially estimated.  There had 
also been GODR delays in providing information, an economic 
team which appeared inexperienced in Fund procedures and not 
fully aware of Fund priorities. 
 
16.  (C) Figuerola identified three issues: 
 
-- The GODR's September approach to the Paris Club had caused 
concern.  It was not coordinated with the bank; the GODR was 
not facing a payments gap at that point. 
 
-- The GODR had continued to accumulate arrears. 
 
-- The impact of the Union Fenosa on fiscal balances was 
still unknown. The IMF had requested a 30-day delay, to no 
avail.  The GODR had proceeded, without taking into account, 
for example, the consequences for the World Bank electricity 
sector loan ready for approval within 2 weeks.  The Union 
Fenosa deal had raised questions of the degree of GODR 
commitment. As for the technical side, the GODR continued to 
assert that the electricity deal would not have a big impact. 
 Figuerola said IMF rarely got involved in energy sector 
issues, but in this case, problems in the sector were serious 
and the GODR needed to do something quickly. 
 
17.  (C)  The IMF rep said the GODR had moved forward in a 
number of areas, such as the banking sector audit and reforms 
and unification of the exchange rate. Further actions were 
required.  He could see that a core group in the 
administration was  committed to the Fund agreement, but, he 
said, "they need support from others in government to take 
the necessary steps." 
 
18.  (C) The IMF was not negotiating yet. Figuerola said they 
were consulting and helping the independent commission 
evaluate the electricity sector.  The review might begin 
before the commission is entirely finished, but the IMF 
needed commission results to conclude their analysis. 
Figuerola said it was possible that the review could go to 
the board before the end of the year. 
 
19.  (C) The IMF confirmed that that the banking sector audit 
was underway and that the Fund continued to deal with the 
consequences of the three bank failures.  Figuerola echoed CB 
Governor Lois Malkun: Baninter was in the liquidation 
process, some issues remained with Bancredito, and the 
acquisition of Banco Mercantil by Republic Bank of Trinidad 
and Tobago had gone well.  His impression was that banking 
sector reforms were moving as they should, but results of the 
audits would be important. 
 
20.  (C) Debt is another key issue.   The devaluation had 
essentially doubled foreign debt, a serious problem for a 
government which "likes projects."  The IMF reps said the 
GODR must determine its payment priorities within the limits 
of the agreement. The GODR would need to be very careful. 
Figuerola added that the GODR had provided the IMF with a 
list of assets it could sell if needed to help cushion the 
payment situation. 
 
21.  (C) The IMF team commented that presidential elections 
would make the situation more difficult, particularly because 
of the short-term political costs of austerity.  Popular 
expectations were always a problem, because reforms yielded 
evident gains only in the medium-term. 
 
-------- 
Comment 
-------- 
 
22.  (C) It is clear that the Dominican Republic is facing a 
difficult situation that may get worse in the next few weeks. 
 Septel provides Embassy's assessment.  Finance Secretary 
Calderon may be in the most difficult position, poised 
between IMF requirements and the President's desire for 
financing for priority projects such the proposals for Ex-Im 
for highways (asphalt) and water supplies. The Ambassador and 
emboffs continue to stress to the GODR at all levels the 
importance of working with the IMF and meeting the 
performance criteria.  At the same time, the GODR defenders 
of the IMF standby will find it politically easier once the 
GODR can access IFI funds identified for the electricity 
sector and social development. 
 
23.  (U) NOTE:  This cable was drafted after the departure of 
the EXIMBANK team. 
HERTELL