Cablegate: Updated Input for Icras Process

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

UNCLAS E F T O SECTION 01 OF 03 BOGOTA 002634

SIPDIS

E.O. 12958: DECL: 03/18/2010
TAGS: BEXP ECON EFIN CO
SUBJECT: UPDATED INPUT FOR ICRAS PROCESS

1. Summary: The 2005 ICRAS draft contains out of date
information on the political, economic, and security
situation in Colombia. Below, post provides an accurate
update for input to the ICRAS process. End Summary.

2. Expected Payments Performance Overview: In 2003, the
economy grew at 3.9%, but it was due only in part to higher
commodity prices (although marginally ) coffee prices were
depressed in 2003). Investor confidence did increase in
2003. This was a result of significant improvements in the
security situation of Colombia, and also due to the optimism
surrounding the beginning of President Uribe,s
administration. This increase in confidence has accelerated
and investment has increased apace.

3. Foreign direct investment (FDI) increased by almost 50
percent in 2004, demonstrating a renewed interest and
confidence in Colombia. In addition, the Colombian stock
exchange was the best performer of the exchanges tracked by
Bloomberg, with over 100 percent growth over the past two
years. Domestic investment has also increased, leading to a
7 percent increase in industrial output in 2004.

4. The Central Bank maintains an inflation targeting policy
that has been very successful in bringing inflation into
check. In 2004, the inflation rate was 5.5 percent, the
lowest in 49 years, and is targeted for 5.1 percent in 2005.
The appreciation of the peso relative to the dollar is due to
investment inflows, balance of trade surpluses, improved
prospects for the economy, and global trends.

5. The report is incorrect in asserting that Uribe,s lack
of robust party support in congress is a major roadblock to
his agenda. The same congress recently amended the
constitution by large majorities so Uribe could run for the
Presidency again. An informal Uribe block has coalesced and
may form into a party soon. Certain elements of his agenda
have not been approved by congress (fiscal, pension reform),
but there is a concern that the post-congressional election
period is the target window for passage. But, his agenda has
moved forward and Colombia is better off as a result.
Uribe,s budgets have moved through congress and congress has
agreed with Uribe on important strategic shifts in budgetary
allocations that have contributed to the dramatic improvement
of the GOC,s war on illegal armed groups.

6. The report incorrectly describes the status of Uribe,s
re-election campaign. The constitutional amendment was
passed through congress, but must be reviewed by the
Colombian court system, especially the Constitutional Court.
Recent polling shows Uribe would likely win re-election, if
he is able to run. His most recent approval rating in
independent polls is well over 70 percent and stable.

7. The report incorrectly characterizes the security
situation. The security situation is dramatically better,
for example, now than it was in 1999, when Colombia last held
a &C-& ranking in the ICRAS model. Colombians now use
intercity roads. The illegal armed groups have been cleared
from major cities; the military campaign is chalking up
success with few setbacks. The external debt trend is
favorable, and the security situation much more so.
Colombia's unbroken record of not having defaulted on
sovereign debt and good reputation for implementing economic
reforms ) when viewed against the 1999 &C-& ranking
warrent more than a "D" rating.

8. The statement that foreign exchange availability could
become a problem is also incorrect unless, there are dramatic
changes to the prices of key exports such as petroleum or
flowers. Colombia,s diverse traditional export sector is a
strong generator of foreign exchange. In addition, foreign
direct investment is strong in Colombia, and will become
stronger over the short- to medium-term, thanks to a new free
trade agreement with the U.S.

9. While there is a lack of clear resolution to the internal
conflict in Colombia, the situation has not looked as
positive in several years ) certainly more positive than in
1999 (the last time Colombia held a &C-& rating), when the
FARC controlled a large swath of the country during thge
government's failed attempt to negotiate a peace settlement.

10. Foreign Debt Service Burden ) D minus Rating: The GOC
has adopted an aggressive policy of switching from
predominately foreign-denominated debt to domestic debt. The
GOC will also use approximately USD 1.25 billion of reserves
(currently at USD 14.35 billion) to prepay debt with the IDB.
Colombian exports, especially non-traditional exports, are
increasing, indicating that the debt service as a percentage
of foreign exchange receipts will continue to drop from a
high of 51.2 percent in 2002 to 29.3 percent in 2004 to
levels in the low 20,s within the next 18 months.

11. On March 2, the GOC announced it will abandon the
capital control decree put in place in December of 2004.
Post assesses as unlikely the possibility that the GOC will
implement new capital controls to slow the appreciation of
the peso. Colombia,s finance minister has made recent
public statements calling these controls &useless8.
Completion of an FTA will improve the inflow of foreign
exchange over the forecast period and should improve, to a
greater extent, Colombia,s FX to external debt ratios.
Concerning the report,s figure noting debt service as a
percentage of foreign exchange receipts, post suggests that
the improvement from 51.5 percent in 2002 to the current 29.3
percent would present more a mitigation than a continued
constraint of the factor.

12. Balance of Payments Adjustment Capacity ) D Rating:
Colombian exports have increased by 20 percent a year since
the Uribe administration came to power in 2002. Increases
have not been based solely on the increased price of major
commodities such as oil, coal, and coffee, but also on a
diversification of the export base into non-traditional
products other than commodities. Post suggests Colombia,s
exports will continue to increase in 2005 and beyond, not
decrease as described in the report. Given the high prices
of oil and coffee, and increased exports to Venezuela,
Colombia,s trade surplus for 2004 was far in excess of the
USD 95 million mentioned in the report. Trade figures for
January through October 2004 show a USD 897 million trade
surplus. In addition, the report makes no mention of the
FTA, which should enter into force during the forecast period.

13. Macroeconomic Environment ) C minus Rating: The GOC
dramatically exceeded its IMF-mandated fiscal deficit target
of 2.5 percent, turning in an impressive 1.2 percent deficit.
The GOC is committed to privatizing remaining state
enterprises or opening them to competition from the private
sector.

14. Political/Social Constraints ) D Rating: On the
ratings chart, number 35 lists the ranking of &Relations
with the United States8 as a &D8 rating. A strong case
can be made that Colombia is the United States' strongest
political ally in Latin America. Colombia is certainly our
strongest ally in the region on the war against drugs and
terrorism. Colombia supports U.S. policy in the region, even
at the price of generating considerable political friction
with the growing number of region's left-leaning leaders.
Colombia is the third-highest recipient of U.S. foreign
assistance in the world, and the program enjoys broad
bipartisan support in Congress. Colombia has the most
successful extradition relationship in the world with the
United States, and is part of the Coalition of the Willing in
Iraq. The Uribe administration is a strong supporter of
counter-narcotics and counter-terrorism efforts and is a
strong ally of the U.S. in international fora. We are also
currently negotiating an FTA with Colombia, which will
strengthen our economic ties and provide stronger guarantees
for U.S. investors. Post would suggest that this be ranked
at least a &C8, if not more.

15. Vulnerability to Foreign Exchange Crisis ) D Rating:
Post disagrees with the statement that, &(Colombia,s good
liquidity is supported, in large part, by capital controls on
shot-term investment.8 While Uribe did issue a decree to
impose a tax on short-term capital transactions, this decree
will soon be abandoned. Even so, the capital control program
had a very limited effect on the Colombian market.

16. Banking System ) D Rating: Progress is being made on
the privatization of Bancafe. The GOC is preparing for the
sale of Bancafe by splitting off poorly performing assets and
liabilities, including some pension liabilities, for
liquidation. The stronger Bancafe will then be privatized.
Virtually all lending banks have made record profits due to
reforms earlier in the decade and the growing economy. The
system appears sound with no major bank in trouble except the
newly created entity taking Bancafe,s bad loans.

17. Legal System ) D Rating: In 2003-2004, the GOC cleared
up existing trade and investment disputes with U.S.
companies. The GOC also presented legislation before the
Colombian congress to guarantee conditions for foreign
investment. The &E8 rating for contract enforcement and
dispute resolution (number 49) cannot be justified. The
legal system is slow, but it works. The private sector has
generally not complained of corruption in appeals courts or
higher courts.

18. Foreign Exchange Availability - D minus Rating: The
&F8 ranking for Foreign Exchange Controls (number 53) seems
harsh. Remittance flows and increases in FDI have caused a
net positive inflow of foreign currency, leading to a 15
percent appreciation of the peso over the last year. Exports
are increasing at a 20 percent annual rate, driven in large
part by a billion dollar-per-year growth in exports to the
U.S. This will increase as the U.S.-Andean FTA comes into
effect during the forecast period.

19. The limited exchange control had marginal impact on the
amount and types of transactions. The GOC has announced it
will abandon this limited capital control regime. The peso
is a freely floating currency and individuals can change
money with the central bank, commercial banks, 13 official
money-changing houses, or on any local market via several
thousand regulated exchange professionals.

20. Business Climate ) C minus Rating: Post would add that
the central bank,s tenacious inflation targeting policy had
more to do with meeting the inflation target than the
appreciation of the peso. The security situation is also far
better than it was in 1999. In addition, Colombia's stock
market index has been one of the best performing indices over
the past two years, although the report correctly points out
that it is undercapitalized. The GOC has greatly improved
its new business registration regulation. It now takes, on
the average, 2 days to register a new business.

21. Comment: In summary, it appears the ICRAS rating is for
a pre-2003 Colombia. Foreign debt is a much smaller burden
going forward due to Colombia taking advantage of market
conditions to reduce its debt burden. ForEx reserves are
high. The Colombia of 2005 is dramatically improving the
legal system, sharply reducing narcotics production and
exports, opening its trading system, and welcoming the
increased foreign investment. There are no serious
challenges to these processes in the political system.
WOOD

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