Cablegate: Istanbul Analysts On Current Account Risks

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





E.O. 12958: N/A

Sensitive but Unclassified. Not for internet distribution.

1. (SBU) Summary: Despite positive international and
domestic developments, including the Turkish government's
recognition of the need for a new stand-by agreement for the
2005-2007 period, Turkish markets have remained range-bound
in recent weeks. Many analysts attribute the markets'
failure to rally to concern about the burgeoning Turkish
current account deficit, which grew 95 percent year-on-year
in the first six months of 2004 and at 9.9 billion for that
period is now approaching 4 percent of GDP. Most analysts
doubt the deficit is near crisis levels; however, there is
some difference of opinion on the severity of the problem, as
can be seen by the contrasting positions rating agencies such
as S and P, Fitch, Moody's, and JCR have taken. Istanbul
market observers we have canvassed in recent weeks agree that
the high level of the current account is the largest cloud on
Turkey's economic horizon, but largely concur with Fitch and
S and P that it has not yet reached crisis proportions. They
argue instead that currently projected levels are
financeable, and that the government's attention to the
problem, while unlikely to be effective in and of itself,
sent an important message to the markets that it was
monitoring the issue, a point Economics Minister Babacan
reiterated on August 25. End summary.

2. (SBU) A dramatic jump: January to June 2004 figures showed
the current account gap at 9.9 billion USD, a 95 percent jump
from the 5.09 billion USD deficit in the same period in 2003.
While exports have grown quickly, imports have expanded even
more rapidly, leaving the trade deficit at 12.2 billion USD.
(The trade deficit continued to worsen in July, when it
reached 3.2 billion USD.) Other negative items include
investment, whose deficit was 2.8 billion USD for January to
June. On the positive side of the ledger, services (largely
tourism) were in surplus at 3.5 billion, as were transfers
(from Turks living abroad) at 1.6 billion. As is typically
the case in Turkey, tourism revenues are bunched in the third
quarter, such that the full-year current account deficit may
not be much higher than the first half number. For the first
half, Turkey financed the overall current account gap with
net capital inflows of 9.4 billion USD and (given an increase
in official fx reserves of 2.7 billion USD) 3.2 billion in
net errors and omissions.

3. (SBU) Financing Concern: Indeed, more than the absolute
level of the deficit, the financing mix on which Turkey
relies was of more concern to our interlocutors. Global
Securities' Cem Akyurek, for instance, told us on August 19
that he sees an encouraging trend towards repatriation of
foreign capital by Turkish businesses in the net errors and
omission total, but finds the overall composition of Turkey's
capital inflows less inspiring, particularly the country's
reliance on "hot money," i.e. short-term portfolio
investment. Indeed, figures show that of the net inflow only
1 billion USD came into Turkey as FDI from January to June.
While this is a significant improvement on the abysmal FDI
level of the first half of 2003, it falls far short of the 3
billion in portfolio investment that came into Turkey in
January-June. The remainder of Turkey's capital inflow came
from bank and non-bank borrowing, while government borrowing
was negative because of net repayments to the IMF. Bender
analysts Murat Gulkan and Emin Ozturk concur that dependence
on portfolio investment leaves Turkey vulnerable to sudden
shifts in sentiment (the maxi-devaluation scenario which
briefly spooked the markets when it was raised by a Moody's
senior credit officer), but they also saw positive financial
developments on the horizon that should help cover the gap.
These include the recent agreement between the Cukorova Group
and the Savings Deposit Insurance Fund (SDIF), whereby the
group will repay 4 billion USD over the next two years,
almost exclusively from (admittedly mysterious) foreign
sources, privatization or sale of big ticket items such as
Tupras, Telsim, and Petkim (which should bring foreign
interest), and prospects for a new stand-by agreement with
the IMF.

4. (SBU) Unavoidable Result: Analysts also reminded us that
given the nature of the Turkish economy, with its dependence
on imported capital equipment, an expanding deficit is an
inevitable result of an economic recovery. Akyurek argued
that obviously a current account deficit of 5 percent of GDP
would not be sustainable, but that similarly the economy
could not grow with a deficit at its post crisis levels of
1.5-2 percent of GDP. Citibank Treasury Vice President Cem
Koksal similarly viewed the deficit as a sign of the
"success" of the government's economic program, and predicted
that government measures would be successful in controlling

5. (SBU) A Demand Explosion?: Though concern has been raised
recently about the dramatic expansion in consumer loans and
credit card debt, most analysts, like Deputy Prime Minister
Sener, were reluctant to attribute the deficit to credit
expansion. Citibank noted that while they have increased,
the absolute level of consumer loans is not that high, while
Garanti Bank Vice President Kubilay Cinemre argued that
automotive loans, one of the fastest growing items, simply
represent the fulfillment of pent-up demand from the
post-crisis period, and are rapidly reaching their limit.
Similarly, Murat Ucer of Eurosource saw signs in July
consumer data that consumption is starting to ease, while
Global's Akyurek stressed that except for consumer durables,
for which demand also accumulated in the post-crisis period,
demand pressures are not excessive.

6. (SBU) Government Policy: While some, particularly in the
banking sector, are critical of the government's decision to
increase the natural resources tax to dampen consumer
lending, market analysts like Baturalp Candemir at HC
Istanbul were impressed by the government's attention to the
current account issue. For the first time, he suggested, the
government had taken action before a problem had hit the
market. On the other hand, the move is likely to complicate
upcoming negotiations with the IMF. IMF Deputy Resrep
Christoph Klingen has told Embassy Ankara econoffs that the
increase in the resource utilization tax had been taken in
defiance of Fund staff, which opposed it as contrary to the
GOT-agreed strategy of reducing bank intermediation costs.

7. (SBU) More generally, however, there is broad consensus
that current account pressures dictate that the government
should maintain a tight fiscal policy for the foreseeable
future, so most analysts in Istanbul are focused on the
upcoming IMF-GOT negotiations. Meeting the government's
inflation target is likely to be tough next year, Akyurek
suggested, and the government needs to maintain a high
primary surplus to keep possible demand pressures under
control. Both he and Candemir did not see a 6.5 percent
level as essential, but saw room for some give and take so
long as the quality of fiscal adjustment is improved and its
duration lengthened. Hence a primary surplus of 6 percent
could be acceptable to the market, as could exclusion of some
investment items from the primary balance, so long as the
government made clear its commitment to that level over a
number of years. Only such a commitment, Akyurek argued,
would permit real interest rates to decline from their
current 15 percent level. While some are concerned that such
rate declines could further fuel imports, Candemir pointed
out that the rates' current high levels themselves help fuel
the current account deficit by encouraging short-term capital
inflows that keep the Turkish lira overvalued. Note:
Istanbul analysts' willingness to contemplate some loosening
of the 6.5 percent primary surplus does not take into account
the likely resistance from the IMF board to easing the GOT's
contribution to the financing gap that the IMF is being asked
to fill. End Note.

8. (SBU) GOT policymakers clearly remain attuned to the
market's concerns about the current account deficit. Both
Economics Minister Babacan and Deputy Prime Minister Sener
sought to emphasize the government's vigilant attention to
the current account issue in public comments on August 25,
with Babacan noting that the government will undertake
further strong measures to control the deficit if necessary,
while downplaying the seriousness of the problem in further
comments on August 31. For his part, Sener implicitly gave a
green light to gradual devaluation of the Turkish lira,
arguing that such a development would inevitably help resolve
the problem by leading to a decline in imports and rise in


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