Cablegate: Turkish Markets Await Imf Reaction to Court

This record is a partial extract of the original cable. The full text of the original cable is not available.

C O N F I D E N T I A L SECTION 01 OF 02 ANKARA 008596

SIPDIS

STATE FOR EUR/SE, EB/IFD/OMA AND E
TREASURY FOR OASIA - MILLS AND LEICHTER
STATE PASS USTR - NOVELLI AND BIRDSEY

E.O. 12958: DECL: 09/02/2006
TAGS: ECON EFIN PREL TU
SUBJECT: TURKISH MARKETS AWAIT IMF REACTION TO COURT
DECISION ON PAMUKBANK

REF: ANKARA 8545

Classified by Economic Counselor Scot Marciel for reasons 1.5
(b,d).

1. (C) Summary: Turkish markets are awaiting IMF and GOT
reaction to the administrative court decision of November 22,
which suspended the take-over of Pamukbank by the Banking
Regulation and Supervision Agency (BRSA). At the heart of
this legal battle lie about $5 billion in loans made by Pamuk
and Yapi Kredi to their owner Cukurova Holding. Cukurova's
legal challenge to the Pamuk take-over is part of the
bargaining over the repayment of these loans. Failure to
reach agreement on repayment terms poses systemic risks to
the banking sector, given that Pamuk and Yapi Kredi have $12
billion in deposits or about 15 percent of all deposits in
the Turkish banking system. Markets will watch closely on
both this issue and the primary surplus issue during next
week's visit of IMF Europe Director Deppler, and the December
9 IMF Mission to Turkey. End Summary.

2. (C) On November 22, BRSA Vice Presidents Ceyla
Pazarbasioglu and Teoman Kerman called us in to discuss the
court decision on Pamukbank (reftel). They summed up the
situation as follows:

-- The administrative court ("Danistay" or Council of
State), sitting in general assembly, suspended the BRSA's
June 18 take-over of Pamukbank. According to press reports,
the reason for the suspension was that BRSA didn't
sufficiently consider Cukurova's recapitalization plan, which
would have merged the insolvent Pamuk into sister bank Yapi
Kredi. BRSA will have 30 days (from the date of delivery of
the court's opinion, which hasn't yet occurred) to return
Pamuk to Cukurova, pending a final court decision on the
merits of the case. The BRSA plans to continue defending in
court the merits of its take-over of Pamuk, though given this
interim court decision to suspend its action, the final
outcome doesn't look favorable to BRSA.

-- Since its take-over of Pamuk, BRSA has injected cash and
T-bills of about $2 billion into Pamuk (about TL 2.7
quadrillion in bills and TL 800 trillion in cash). Local
media have publicized this injection of public funds, and
question whether Cukurova Holding will repay the BRSA.
Cukurova, according to press sources, plans to counter-claim
against the BRSA for damages, claiming that the BRSA's
take-over damaged the bank (the bank has lost over $1.5
billion in deposits since the BRSA's June declaration of
insolvency and take-over).

-- BRSA staff, and financial market analysts, expect that
Cukurova Holding will be unable to sufficiently recapitalize
Pamuk, and that this insolvent bank will eventually revert to
the BRSA. Cukurova's legal challenge is seen as part of the
bargaining process with the BRSA over the repayment terms for
Cukurova's outstanding loans to both Pamuk and Yapi (totaling
nearly $5 billion). Thus, while Cukurova may eventually be
forced to give up Pamuk, it may be able to bargain down with
the BRSA the amount of debt it owes its banks.

3. (C) Pamuk's and Yapi Kredi's $5 billion in loans to owner
Cukurova Holding lie at the heart of the problem. The
Pamuk/Yapi Kredi merger plan, presented last June by
Cukurova, involved large-scale forgiveness of these loans.
The BRSA rejected this plan. Cukurova's subsequent failure
to make payments to these banks is gradually leading to the
insolvency of Yapi Kredi Bank. In June, after the triple
audit under the recap plan, Yapi Kredi had positive equity of
about TL one quadrillion ($600 million), barely meeting the 8
percent capital adequacy standard. But its third quarter
results, to be released November 29, will show further
losses, bringing it under the 8 percent standard.
Furthermore, in light of Cukurova's continued failure to pay,
the BRSA should apply prudential standards that require Yapi
Kredi to increase its provisioning of capital for these
loans. The general concern in the markets and in BRSA is
that, without an agreement with Cukurova over repaying the
loans, Yapi Kredi could well be insolvent by year-end.

4. (C) Yapi Kredi treasurer Huseyin Imece told us November
25 that the banks' international creditors are worried, but
no one has cut credit lines to the bank yet. Yapi Kredi will
repay a $225 million syndication loan to international banks
in early December. The Turkish man in the street does not
appear worried as yet, and there is no run to withdraw
deposits. But Imece doesn't know if the situation can hold
until year-end.

Comment
-------

5. (C) The outcome of BRSA's legal battle with Cukurova
Holding (and its owner Mehmet Emin Karamehmet) poses systemic
risks to the financial system. First, if the BRSA's
take-over of Pamuk is rolled back, the credibility of the
newly created BRSA as an effective bank regulator is in
question. Second, Yapi Kredi and Pamuk together account for
$12 billion in deposits or 15 percent of all deposits in
Turkish banks. Yapi Kredi holds billions of dollars of
T-bills as assets. Giving Cukurova Holding back the banks,
without effectively recapitalizing them, leaves two large
sick players in the system relying most probably on overnight
funding from other local banks and/or the Central Bank.
Banks' failures to make payments in the overnight market was
the proximate cause of both the November 2000 and February
2001 financial crises.

6. (C) The IMF's Deppler will arrive in Turkey next Monday,
December 2, to begin discussions with the new GOT. Market
participants await IMF reaction to two issues: this banking
reform problem; and the GOT's commitment to maintaining a 6.5
percent primary surplus in 2003. Per IMF resrep, IMF Deputy
Managing Director Krueger raised the Pamuk issue with State
Minister Babacan in a bilateral in New Delhi November 23l;
her talking point was that this is an urgent priority for the
GOT to fix. In the meantime, locals markets remain
optimistic, based primarily on Turkey's chances of getting an
EU accession talks date in Copenhagen. As JP Morgan/Chase
Treasurer told us, "my horizon is one week, and this week is
still optimistic. Not sure about next week."
PEARSON

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