Cablegate: Constitutional Court Ruling Throws Monkey Wrench

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

231521Z Jul 03

UNCLAS SECTION 01 OF 02 ANKARA 004666

SIPDIS

SENSITIVE

STATE FOR E, EB/IFD AND EUR/SE
TREASURY FOR OASIA - MILLS AND LEICHTER
NSC FOR BRYZA

E.O. 12958: N/A
TAGS: EFIN PREL TU
SUBJECT: CONSTITUTIONAL COURT RULING THROWS MONKEY WRENCH
INTO TURKISH BUDGET, IMF REVIEW

REF: A. (A) ANKARA 4551
B. (B) ANKARA 4480

1. (SBU) Summary: The Turkish Constitutional Court this
afternoon annulled an additional tax on motor vehicles,
potentially creating a $780 million budget hole just as the
government was moving to fill a $1.65 billion fiscal gap as

part of an agreement with the IMF. It is not clear yet
whether this decision will stick (i.e. is final), whether it
could prompt challenges to other GOT fiscal measures, or how
it will affect the IMF's Fifth Review. Earlier in the day,
IMF ResRep had told us that he expected the GOT to complete
the remaining prior actions for the Fifth Review this week.
He also had identified key issues for the Sixth Review,
notionally scheduled for October, to include keeping on track
on the fiscal side (including the 2004 budget), agreeing on
language for direct tax reform legislation, parliamentary
approval of the Public Financial Management Law, and further
progress on reducing redundant State Economic Enterprise
workers. End Summary.

2. (SBU) The Constitutional Court this afternoon annulled
an additional tax on motor vehicles that the GOT had imposed
earlier this year. The government had expected to collect
some TL 1.1 quadrillion ($780 million) in revenues through
this measure this year, so the court's decision potentially
creates a substantial hole in the budget. It comes just as
the GOT had agreed to implement additional fiscal measures to
close a TL 2.3 quadrillion gap identified in discussions this
month with IMF staff. The court, which was acting in
response to a suit brought by the opposition CHP party,
decided not to annual additional taxes on property.

3. (SBU) IMF ResRep and GOT officials with whom we spoke
tonight were scrambling to gauge the impact of the decision.
ResRep said the first question is whether this decision will
stick (i.e. is final) and, if so, whether it will affect the
nearly TL 400 trillion the government has already collected
via the tax. The second is whether it will prompt legal
challenges to other fiscal measures, potentially creating a
larger fiscal gap. The third, assuming the decision stands,
is how the GOT will fill the resulting gap, and how this
process will affect timing for the Fifth Review. Although
the Court has not made public its reasoning, one Istanbul
analysts speculates that its concern had to do with legal
process, in which case the government could reintroduce the
additional tax via separate legislation.

4. (SBU) Earlier in the day, before the Court's decision,
IMF ResRep had provided us with further details on Fund-GOT
discussions and the just-concluded LOI. He noted that the
fiscal gap was TL 2.3 quadrillion (not TL 2.5 quadrillion, as
previously reported), including the projected budget cost of
recent public sector pay hikes. He largely confirmed -- with
a few amendments -- the Finance Ministry's analysis (ref B)
of how the GOT would fill the gap: TL 1.2 quadrillion by
continuing a partial spending freeze (mostly on investments,
and including some savings from the lira's appreciation); TL
250 trillion via increasing Tekel (tobacco and spirits)
prices; TL 210 trillion via an increase in the Special
Transactions Tax and Educational Levy; TL 580 trillion
through turning "special revenues" over to the central budget
(see ref b for explanation); and TL 75 trillion through the
sale of Treasury's hazelnut stock. ResRep said late today
that the government had implemented all of these measures,
save the partial spending freeze, which required a Finance
Minister circular (and which ResRep expects to be done in the
next day or two). (Note: None of these measures required
Parliament's approval. End note).

5. (SBU) The other major prior action for the Fifth Review
was passage of the two remaining social security laws,
covering the Bag-Kur Fund for the self-employed and the
Social Security Fund. Parliament is expected to pass both
pieces of legislation this week. The one outstanding issue,
per ResRep, concerns the handling of social security arrears,
which total some $10 billion. Here, the GOT and Fund staff
had been unable to reach agreement for months, as Fund staff
insisted they could not accept anything that smacked of a
general amnesty. Fortunately, a Fund technical team that
came out with the latest Mission made significant progress,
and Fund staff now have an agreement on principles to be
inserted into the pending legislation. ResRep said this
approach would preserve the net present value of the arrears
by linking them to government t-bill rates, while determining
the payment schedule based on a the individual's (or
company's) ability to pay. ResRep expects the legislation to
reflect these principles, but is watching closely to ensure
there is no slippage.

6. (SBU) Given delays in other structural reforms, Fund
staff has added one more prior action for this review:
agreement on principles of the all-important Public Financial
Management Law, which will reshape Turkey's entire budgetary
process. ResRep noted that this legislation has prompted
major bureaucratic disputes between the relevant ministries
(and ministers), but added that a ministerial-level meeting
last week had produced general agreement. One of the more
difficult issues has been determining whether the Finance
Minister or State Planning Organization will have the lead on
implementing public investment projects. ResRep said World
Bank officials want to study this question further; once they
give their blessing, the Fund will consider this prior action
completed.

7. (SBU) Looking ahead to the Sixth Review, ResRep said the
key issues will be keeping the budget on track, including
preparation of the 2004 budget; obtaining Parliament's
approval of the Public Financial Management Law and
legislation designed to strengthen the Banking Regulatory and
Supervisory Agency's (BRSA's) ability to deal with legal
challenges; and final agreement on direct tax reform
legislation. On the latter, he noted that the intent of the
reform was to reduce tax incentives provided to various
regions and Turkey's numerous Free Zones. However, this
effort was facing stiff political opposition, including from
State Minister for Trade Kursad Tuzmen. The latest GOT draft
actually had extended tax incentives to nearly 50 percent of
Turkey's territory. Fund staff decided the best approach was
to stop this version of the legislation from moving forward
(they succeeded), and to bring in another technical
assistance team to try to move the GOT in a better direction.

8. (SBU) Finally, ResRep reported that the government had
fallen short of its end-June target of eliminating 9900
redundant positions at State Economic Enterprises (SEE's),
cutting only 7400. He expressed hope that, with public
sector wage negotiations out of the way, the GOT would step
up its efforts and come close to reaching its 19,400
end-September target.

DEUTSCH

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