US embassy cable - 04ANKARA4490

UNCLAS SECTION 01 OF 03 ANKARA 004490 
 
SIPDIS 
 
SENSITIVE 
 
TREASURY FOR INTERNATIONAL AFFAIRS - MMILLS AND MSCHWARZMAN 
STATE FOR E, EUR/SE, AND EB/IFD 
NSC FOR MBRYZA AND TMCKIBBEN 
 
E.O. 12958: N/A 
TAGS: EFIN, ECON, PGOV, TU 
SUBJECT: US TREASURY OFFICIAL'S VISIT: LOCAL ECONOMISTS 
WAITING FOR NEW IMF STANDBY 
 
REF: ANKARA 4455 
 
1. (Sbu) Summary:  In a round of meetings with visiting US 
Treasury official Marshall Mills at 
the end of July,  GOT economic officials, IFI 
representatives, and private sector analysts painted 
a picture of Turkey being at an important juncture in 
defining its policy direction over the next 
1-3 years, particularly its fiscal stance and relationship 
with the IMF.  Prolonged uncertainty 
over its eventual direction has made markets uneasy and 
fragile.  However, both technocrats 
inside the government and the private sector believed that 
the GOT will eventually decide on 
the direction necessary for market confidence and financial 
stability -- specifically, targeting a 
primary surplus at or near 6.5% of GNP and concluding a new, 
disbursing Stand-by Arrangement 
with the IMF.  Though the cost of delaying this decision has 
been and continues to be substantial, 
in the past few days the GOT has announced it will pursue a a 
disbursing SBA.  Judging by post 
contacts, comments, the structural reform side continues to 
be the weakest area in the Turkish 
authorities, program.  End Summary. 
 
Near-term uncertainties 
---------------------------- 
 
2. (Sbu) The fiscal framework -  In meetings with Turkish 
Treasury U/S Ibrahim Canakci, State 
Planning Organization (SPO) U/S Ahmet Tiktik and others, 
Mills and economic officers discussed 
future fiscal policy measures such as the GOT,s new 
three-year program (reftel) and the 2005 
primary surplus target.  On the three-year program, Turkish 
officials generally offered consistent 
explanations although some, such as Canakci, described it 
being a broad effort encompassing 
all areas of economic reform while others, like Tiktik, 
focused more on the debt sustainability 
elements. None were able to offer a date for an announcement 
of the details of the program.  On 
the primary surplus the economic bureaucrats were unanimous 
in wanting a "high" or "very high" 
number but were unwilling to give specifics, stating only 
that it was a decision that would be made 
and announced later. Regarding the composition of 
expenditure, U/S Tiktik asked for US support to 
exempt some investment expenditure from the primary surplus 
calculation citing the need for 
increased spending in this area due to high unemployment. 
 
3. (Sbu) Policy "anchors" - Mills met with private analysts 
from the banking and manufacturing 
sectors.  The large majority of analysts were clear about 
what was needed to maintain and/or improve 
market sentiment: a new disbursing IMF program and a positive 
EU decision in December.  Most 
also explained that the IMF was more important for near-term 
economic stability, stating that the 
EU will provide a more positive outlook only for the medium 
term.  (Note: the IMF Turkey mission 
chief, Reza Moghadam, made an unexpected visit to Ankara last 
week, to consult on the GOT 3-year 
program. Post will report septel on the Moghadam visit). 
Several of the market contacts said there 
would be a significant loss of confidence if the GOT did not 
seek a disbursing SBA and/or suffered 
an unfavorable EU decision on accession negotiations.  GOT 
technocrats, Canakci, Tiktik and others, 
are supportive of a new disbursing SBA, while also being 
optimistic about the EU.  However, until 
the past few days, the political leadership delayed any 
decisions or announcements, perturbing the 
markets.  Yapi Kredi Bank Vice President Huseyin Imece 
likened the GOT,s behavior to an airline 
pilot who does not provide information to passengers during 
normal turbulence and thus makes 
them more worried than they may need to be. 
 
Market fragility 
------------------- 
 
4. (Sbu) Why the delay? - Many of the private analysts 
wondered out loud why the government 
was delaying, particularly when the uncertainty costs them in 
terms of credibility and higher interest 
rates.  They offered different explanations: the GOT is 
waiting to see what the EU decision will be, 
as indicated by the Commission,s October 6th report, in the 
hopes that the EU anchor may substitute 
for the IMF; the AK party is not monolithic and the GOT is 
still selling a new program to certain factions 
within it; communication with the market-oriented technocrats 
is ineffective. 
 
5. (Sbu) Financing a growing current account deficit 
exacerbates market worries - Next to talk of 
policy anchors, the wider than expected current account 
deficit was the most discussed issue.  GOT 
estimates of the end-2004 deficit were $10.5 billion or 
3.5-4% of GNP.  Market projections were a 
bit higher, gathering in a range of $12-13.5 billion or 
4-4.5% of GNP.   GOT officials pointed to the 
measures they have taken to curb domestic demand, namely a 
reduction in incentives for purchasing 
cars, instructing the state banks to curtail their consumer 
lending and not spending the revenue over 
performance from the first part of the year.  They insisted 
they are ready to do more in coming 
months, if needed, but were not overly concerned about the 
growing deficit at the moment.  Markets 
explained their nervousness regarding the current account 
given the sensitivity of Turkey,s capital 
flows to interest rate developments in the United States and 
the ease with which there could be a 
halt or even reversal of these flows. 
 
6. (Sbu) Markets, guarded optimism - Nearly all market 
participants correctly predicted that the 
GOT would eventually accept that it has no other alternative 
to a disbursing SBA. They also predicted 
that the EU decision will be favorable.  In a meeting with 
Bender Securities, Mills asked why such 
expectations did not seem to be reflected in asset prices, 
which remain high.  Murat Gulkan, Bender 
Managing Partner, replied that risks are not negligible and 
the alternative scenario, while low probability, 
would be very costly so investors are not yet ready to put 
their money in.  Some of the analysts 
wondered if the government truly understood its economic 
position.  For them, the reluctance of the 
government to accept a strong macroeconomic framework and IMF 
program undermined already 
limited GOT credibility. 
 
Medium-term structural reform prospects discouraging 
--------------------------------------------- - 
 
7. (Sbu)  Judging by post contacts, comments, prospects for 
structural reform that will support sustained 
growth are less encouraging than for the broader 
macroeconomic framework. Progress toward 
privatization of the state banks was a particular case in 
point.  In a meeting early in the visit, the 
World Bank stated that a strategy for state bank 
privatization, developed by McKinsey consulting, would 
be announced in December and executed in 2005.  Turkish 
officials, including Canakci, BRSA chairman 
Tevfik Bilgin and Ziraat Bank CEO, Can Akin Caglar seemed to 
be operating with a longer time horizon 
with only a very distant prospect of eliminating effective 
state control..  Canakci and Caglar offered a 
timeline with privatization beginning in 2006 or 2007 and 
then only by piecemeal IPOs, rather than block 
sales.  Bilgin--until last year the CEO of Halk Bank--went as 
far as to say that privatization of Halk and Ziraat 
banks was impossible due to their asset structure.  Vakif 
Bank was the most likely of three remaining state 
banks to privatized, he said, but even this was not likely. 
Private sector representatives had similar views to 
Bilgin,s, believing that privatization in the near to medium 
term was unrealistic. 
 
8. (Sbu) On the issue of non-banking sector privatization and 
FDI, political will and legal system deficiencies 
were cited as the principal barriers.  Both U/S Tiktik and 
Treasury Director General Memduh Akcay, pointed 
specifically to the legal system with Akcay stating, "If I 
was the IMF I would focus on this."  The Privatization 
authority also highlighted the problems they have been having 
with the courts, specifically mentioning the 
cases of TUPRAS and Turk Telecom. 
 
EDELMAN