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Cablegate: Nicaragua Tries to Suspend Payment On Local Bank

VZCZCXRO9198
RR RUEHLMC
DE RUEHMU #0443/01 1012154
ZNY CCCCC ZZH
R 102154Z APR 08
FM AMEMBASSY MANAGUA
TO RUEHC/SECSTATE WASHDC 2427
INFO RUEHZA/WHA CENTRAL AMERICAN COLLECTIVE
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUEHLMC/MILLENNIUM CHALLENGE CORP WASHDC
RHEHNSC/NSC WASHINGTON DC
RUEAIIA/CIA WASHDC
RHEFDIA/DIA WASHINGTON DC
RUMIAAA/CDR USSOUTHCOM MIAMI FL

C O N F I D E N T I A L SECTION 01 OF 04 MANAGUA 000443

SIPDIS

SIPDIS

STATE FOR WHA/CEN, WHA/AND, WHA/EPSC, INR/IAA, AND EEB/OMA
STATE PASS TO OPIC AND USOAS
DEPT PASS TO USAID/LAC FOR D BATTLE
USDOC FOR 4332/ITA/MAC/WH/MSIEGELMAN
3134/ITA/USFCS/OIO/WH/MKESHISHIAN/BARTHUR

E.O. 12958: DECL: 04/11/2018
TAGS: EFIN ECON PGOV NU
SUBJECT: NICARAGUA TRIES TO SUSPEND PAYMENT ON LOCAL BANK
BONDS

REF: A. MANAGUA 373

B. 07 MANAGUA 2564
C. 07 MANAGUA 2539
D. 07 MANAGUA 2185
E. 07 MANAGUA 1719
F. 06 MANAGUA 2611

Classified By: Ambassador Paul Trivelli for reasons 1.4 b&d.

1. (C) Summary: On April 4, a Criminal District Court judge
issued a sequestration order for all of the remaining USD 190
million in Negotiable Investment Certificates (CENIs), in
order to stop the Central Bank (BCN) from making a USD 20
million coupon payment on April 15. The CENIs have been a
long standing source of tension between President Ortega's
political and economic advisors. When President Ortega
rejected a refinancing agreement between the BCN and the
banks holding the CENIs, he told the banks to negotiate a new
agreement with the Attorney General and Comptroller General,
FSLN political hardliners. The banks declined, believing the
negotiations would not be "voluntary." Despite the public
legal and political pressures the GON is exerting on the
banks holding the CENIs, the BCN staff view the bonds as
legally binding obligations and absent a Supreme Court
decision or a new refinancing deal, they continue to prepare
to make the April 15 payment. The current political meddling
in financial policy, if sustained, will do damage to the
country's creditworthiness, the good operations of the
banking system, and the prospects of creating a well
functioning capital market. Post will present the CENIs
history and political implications septel. End Summary.

The CENIs hit the Headlines Again
---------------------------------

2. (SBU) At 4:30pm on Friday, April 4, Assistant Prosecutor
Ana Maria Guido requested that Criminal District Court Judge
Julio Cesar Arias issue an order to sequester all of the USD
190 million in "Bonos Bancarios" (aka CENIs) still in
circulation in order to legally suspend the USD 20 million
coupon payment due April 15. The CENIs are held by two of
Nicaragua's largest banks, BanPro, holding USD 150 million in
CENIs with a capital base of USD 80.6 million, and Bancentro,
holding USD 39 million in CENIs with a capital base of USD
65.8 million. (Note: In 2003 the original CENIs we
refinanced and replaced with Bonos Bancarios. Although the
GON and public still use the term CENIs, they are referring
to the replacement instruments, Bonos Bancarios. We will use
the same shorthand throughout this cable. End Note)

A Deal Gets Done and Then Undone
--------------------------------

3. (C) The CENIs have been a long standing source of tension
between President Ortega's political and economic advisors.
Back in January it seemed that Senior Economic Advisor
Bayardo Arce and Central Bank (BCN) President Antenor Rosales
had convinced Ortega of the importance of continuing to pay
the CENIs and to negotiate their refinancing instead of going
into default. In February, Rosales, Arce, and the banks
agreed to replace the bonos bancarios with new 10-year
instruments at a 1% point reduction in interest rate to an
average of 7.3%. In net present value the agreement saved
the GON USD 20 million; however, it increased nominal
payments by USD 5 million over the bonds' ten-year life span.
The BCN Board of Directors refused to sign off on the
agreement for fear of judicial attacks as the refinancing is
exactly the same operation for which opposition leader
Eduardo Montealegre is being prosecuted.

4. (C) Rosales planned to sign the agreement himself instead
using his authority as BCN President, but Ortega rejected the
deal citing the increase in the nominal payments. Ortega
created a new negotiation commission comprised of political
hardliners, Comptroller General (CGR) Luis Angel Montenegro
and Attorney General (PGR - Procurador General) Hernan
Estrada, to try and negotiate "a better deal." However, the
banks refused to come to the table feeling the negotiations
would not be truly voluntary.

The GON Goes on the Offensive
-----------------------------

5. (C) In response to the banks' non-participation, the GON
reverted to a tactic that has worked well in the energy
sector: publicly and financially back the banks into a corner
forcing them to come to the table and accept any agreement
offered to them. The GON successfully used this tactic to
force Esso to bring in Venezuelan crude in the fall of 2007
(Ref B). Supreme Court (CSJ) Vice President Rafael Solis
(known as Ortega's legal right hand) confirmed this to the
local media: "Since the banks did not want to sit down and
negotiate with the new Commission (PGR and CGR), the
Commission is now pressuring them using judicial means." The
GON and banks now have until April 15, when the payment is
due, to negotiate and agreement. (Note: The Banks can accept
a grace period on payments as part of the refinancing, and
the GON would get out of the April 15 payment. End Note.)

6. (U) The payment suspension has been in the works for
several months. On February 13, in response to a request
from Deputy Prosecutor Guido, Judge Arias issued an order to
stop payment on the CENIs. On February 14, BCN President
Rosales filed a request to nullify Arias' order because it
violated the Capital Markets Law. The Capital Markets Law
states that payment on bonds can only be suspended if the
bonds and/or coupons are physically annotated to that effect.
In response, Guido and Arias worked together to issue the
April 5 sequestration order, allowing the court to physically
annotate the bonds, thereby stopping the April 15 (and
possibly the October 15) payment. On April 7, Arias denied
Rosales' request for nullification, although that decision is
more properly the purview of the CSJ. Continuing with the
sequestration effort, Judge Arias spent two nights in the
BanPro central offices trying to gain physical access to the
bonds to annotate them. Late on April 9, BanPro had
retrieved its CENIs and presented them to Arias.

7. (C) An observer present during an April 9 GON Financial
Committee meeting (comprised of BCN and Ministry of Finance
senior staff) views the media circus as an effort to play
"good cop/bad cop" with the banks to force them to
renegotiate the CENIs on terms more agreeable to the
political arm of the FSLN. The BCN staff regard the CENIs as
legally binding obligations of the GON and the rulings of a
criminal district judge and the actions of a special
prosecutor as non-binding. "The GON had the authority under
the Constitution to issue the bonds and the BCN has the
obligation to honor them, especially when provisions have
been made in the budget to honor them." This view could
change if the CSJ rules that the CENIs are unconstitutional.
Though Supreme Court Vice President Solis has repeatedly said
it is a decision that the CSJ is not yet ready to make.
Therefore, absent a CSJ decision or a new refinancing deal,
the BCN staff continues to prepare to make the April 15
payment. On April 9, the Finance Ministry stated that they
will not pay the CENIs until Arias rescinds the court order.

GON Motivations
---------------

8. (C) Both Comptroller General Montenegro and Attorney
General Estrada have made clear their belief that the CENIs
are illegal and are determined to use them for political
revenge against former Finance Minister Eduardo Montealegre
and anti-pacto Liberals. While they build their cases,
Montenegro and Estrada also want to stop GON payments to
"rich, corrupt bankers at the expense of the Nicaraguan
people." According to Banking Superintendent Victor Urcuyo,
FSLN party hardliners have been determined from the beginning
to make no CENIs payments at all during the Ortega
administration. Concentrating attention on payment also
allows the FSLN hard-liners to divert attention away from
questions about the role of several prominent Nicaraguans,
including FSLN party members, in the initial bank failures
that generated the CENIs.

The Implications of the Sequestration
-------------------------------------

9. (C) Banking Superintendent Urcuyo does not believe the
CENIs issue will destabilize Nicaragua's financial sector.
In the event of non-payment, Urcuyo plans to allow both banks
to write down the value of the bonds over the course of two
years. There will be short term problems with BanPro's
capitalization, but the Superintendency is determining
additional ways to help the bank through this period. (Note:
A back of the envelope calculation of BanPro's overall
capital/asset ratio is less than 1%, Bancentro's is 8.7%.
End Note.) As well, BAC and Banco Uno, the next largest
banks in Nicaragua are now wholly U.S.-owned and do hold any
CENIs. Therefore, the majority of Nicaragua's banking system
is not exposed and should be able to weather any storms.
Urcuyo does not expect any runs on BanPro or Bancentro as
most Nicaraguans do not understand the connection between the
payment of the bonds and the financial health of the
institutions that hold their money. That said, the
Superintendency and BCN are laying contingency plans in case
a run does materialize.

10. (C) The GON is avoiding the word "default," claiming the
sequestration and suspension is allowed by law. For
international markets and bankers, however, will likely be
viewed as default, no matter the vocabulary. Irrespective of
whether the CENIs are paid or not, these political games have
hurt Nicaragua's international credit rating and will make
future borrowing more expensive. IMF lawyers are studying
whether a domestic debt default would have the same
implications as a foreign debt default for Nicaragua's
standing with the IMF. Either way, both the World Bank and
IMF have made it clear to the GON's fiscal and monetary
authorities that they will withhold scheduled transfers if
the GON defaults on the CENIs payments (Ref A). The World
Bank has committed to USD 20 million in budget support
payments in 2008, but has informed the GON it will not
present the proposal to its Board if there is a CENIs default.

11. (SBU) The CENIs scandal has also hurt Nicaragua's nascent
efforts to create a domestic debt market, assisted by a U.S.
Treasury advisor (Ref E). The market is too young for
Nicaragua's reputation as a debtor to recover soon. This is
particularly bad news given that Nicaragua had finally
resolved its commercial foreign debt problem and was now able
to offer its instruments to the international financial
community (Ref B). A default would also limit the GON's
sources for budget deficit financing as the institutions
willing to purchase the newly created Treasury Bonds will be
limited. This will force the GON to revert to foreign
borrowing again; an activity currently limited by the terms
of the Highly Indebted Poor Country (HIPC) debt forgiveness
deal.

Comment
-------

12. (C) At this point many of our contacts still hope that
the more reasonable members of the GON will prevail and the
CENIs coupons will be submitted to the BCN and the payment
will be honored. Between now and then, however, there will
be much political hay-making and hand-wringing, and BanPro
and Bancentro will be roughly handled. The issue plays too
well domestically for the GON not to try to get election
mileage out of the case. The sad reality is that all of the
FSLN political hardliners have no understanding of the damage
they are doing to the country's creditworthiness, the good
operations of the financial system, and the prospects of
creating a well functioning capital market.

13. (C) This is the first serious case where FSLN political
leaders have begun to meddle in economic policy and
operations that have significant ramifications for the larger
national economy. Previous FSLN/Ortega economic attacks have
been against large foreign firms (e.g. Exxon/Esso and the
Spanish energy firm Union Fenosa). These economic attacks
have had little direct impact on the domestic private sector.
However, this new action by Ortega proxies, including
Estrada, Montenegro and judges, seeks to intentionally
default on sovereign debt obligations and in the process
severely damage the capital position of two major banks. We
are concerned, as we noted after the 2006 election, that this
is a severe lapse of the GON's responsibility (and Ortega's
2006 post-campaign promises) to adhere to fiscally
responsible and sound macroeconomic policy (Ref F).
TRIVELLI

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