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Cablegate: Nicaragua: 2007 Inflation Rate May Reach 16.5%

VZCZCXRO0953
RR RUEHLMC
DE RUEHMU #2524/01 3350037
ZNR UUUUU ZZH
R 010037Z DEC 07
FM AMEMBASSY MANAGUA
TO RUEHC/SECSTATE WASHDC 1739
INFO RUEHZA/WHA CENTRAL AMERICAN COLLECTIVE
RUEHLMC/MILLENNIUM CHALLENGE CORP WASHDC
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHRC/DEPT OF AGRICULTURE WASHINGTON DC

UNCLAS SECTION 01 OF 02 MANAGUA 002524

SIPDIS

SENSITIVE
SIPDIS

STATE FOR WHA/CEN, WHA/EPSC, AND EEB/IFD
TREASURY FOR SARA GRAY
USDA/FAS FOR BRIAN GRUNENFELDER, ONA; YVETTE WEDDERBURN, OCRA
USDOC FOR 4332/ITA/MAC/WH/MSIEGELMAN
3134/ITA/USFCS/OIO/WH/MKESHISHIAN/BARTHUR

E.O. 12958: N/A
TAGS: ECON EFIN ETRD EAGR PGOV NU
SUBJECT: NICARAGUA: 2007 INFLATION RATE MAY REACH 16.5%

REF: A. MANAGUA 2368
REF: B. MANAGUA 2516

1. (U) Summary: In the last four months, the GON has thrice revised
its 2007 inflation estimate from the 7% target established in the
recently approved Poverty Reduction and Growth Facility (PRGF) with
the International Monetary Fund. The Nicaraguan Central Bank's
(BCN) latest estimate is 16.5%, higher than the 13.5% predicted by
most private economists. The increase in prices of basic
commodities has had the greatest impact on poor and working class
Nicaraguans. One significant factor contributing to inflation has
been the continuing rise in the international price of crude oil,
but the government believes that the most important factor has been
the weather. Its solution, therefore, is to supplement the local
supply of basic foodstuffs by opening the economy to cheaper imports
of beans, wheat flour, oats, barley, noodles, pastas, and foods with
a soybean base. End Summary.

Inflation Surges
----------------

2. (SBU) In the last four months, the GON has thrice revised its
2007 inflation estimate from the 7% target established in the
recently approved Poverty Reduction and Growth Facility (PRGF) with
the International Monetary Fund. The first revision was in August,
when the BCN announced that the rise in world oil prices would drive
inflation to 9.5%; the second, on November 23, when the BCN
announced a rate of 14.5%. On November 28, only five days later,
the BCN released an inflation estimate of 16.5%. If this figure
proves true, 2007 would have the second highest annual inflation
rate since 1998, when oil prices were low but shortages caused by
Hurricane Mitch produced 18.5% inflation.

3. (SBU) BCN's latest inflation estimate is higher than the 13.5%
predicted by most private economists. According to Mario Arana,
former BCN president and CEO of local economic think tank FUNIDES,
BCN president Antenor Rosales announced a higher rate to "control
expectations and cap the upward trend." Arana feels that this
strategy is ill-advised because producers and suppliers are likely
to raise prices on the expectation that inflation will be higher.

4. (U) The increase in prices of basic commodities has had the
greatest impact on poor and working class Nicaraguans. According to
the Ministry of Labor, the last two months have shown a marked
reduction in purchasing power. The price of the market basket of 53
basic consumer products, tracked by the BCN to measure consumer
inflation, currently exceeds the monthly minimum wage. The costs of
transportation, communications, housing, education, food, and
beverages have most contributed to price increases.

Internal and External Factors
-----------------------------

5. (U) Both internal and external factors are responsible for the
inflation spike. One significant external factor has been the
continuing rise in the international price of crude oil, now more
than $90 a barrel. More expensive oil not only affects the cost of
shipping and transportation, but also the cost of power because
Nicaragua generates 80% of its electricity by burning imported fuel
oil and diesel. This dependency means that the negative
consequences of rising oil prices flow quickly and directly to all
segments of the Nicaraguan economy.

6. (U) The most important external factor has been the weather. On
September 4, Category 5 Hurricane Felix slammed into the north-east
coast of Nicaragua, killing more than 130 persons and destroying
440,000 hectares of tropical forest. Felix was followed by low
pressure weather systems hovering over the country for the next two
months, producing sustained rainfall that flooded farmlands and
destroyed homes, roads, and crops, including staples such as rice,
beans, and corn. Shortages of these basic grains have led to higher
prices for bread, tortillas, and processed foods, as well as animal
feed, thus increasing the cost of beef and poultry.

7. (U) A significant internal factor contributing to inflation has
been persistent and growing electricity shortages caused by rising
demand, lack of investment in power generation, poor regulation, and
periodic breakdowns of aging power plants. Interruptions to the
supply of power raise the cost of business throughout the country
and reassign value chain incentives. In particular, sales of
refrigerated products have plummeted, as retail stores close out
inventories of chilled and frozen products to avoid losses caused by
daily power outages. Many manufacturers are forced to run diesel or
gasoline powered generators to avoid shutdowns and meet their
production targets.

8. (U) Another contributing internal factor has been BCN's decision
in October to reduce the reserve requirement from 19.25% to 16.25%,
injecting liquidity into the market. BCN made the move because the
growth in lending capacity and deposits had returned, signaling a
recovery in borrower confidence to pre-2006 election levels (Ref A).
The increased liquidity, however, coming at a time of rising oil
prices and commodity shortages, may have had the unintended
consequence of contributing to inflation.

GON Response
------------

9. (U) The GON views the crisis as primarily weather related and
thus temporary. Its solution has been to supplement the local
supply of basic foodstuffs by opening the economy to cheaper
imports. In the past two months, the Ministry of Trade and Industry
(MIFIC) has eliminated tariffs for three months on beans and for six
months on wheat flour, oats, barley, noodles, pastas, and foods with
a soybean base. Based on consultations with local producers, MIFIC
is also considering temporarily removing tariffs on other products,
such as rice and chicken, and extending the window on zero tariffs.
The idea is that lower priced imports will keep local food prices
down and discourage hoarding and speculation.

10. (SBU) To date, very small amounts of food commodities have been
imported under the zero tariff import scheme - only 245 metric tons
(MT) of beans, 78 MT of which are from the U.S. A MIFIC source
relates that the GON has purchased beans from a local FSLN
cooperative - the third local bean harvest having commenced - with
the objective of selling them at below-market prices through the
Citizen Power Councils (CPC), established by President Ortega to
carry out his social and political agenda (Ref B). A Taiwanese rice
donation has reportedly also been sold through the CPCs.

11. (U) The disconnect between rising inflation and the lack of
adjustment to the cordoba's crawling peg is worth noting. While
inflation estimates have risen from 7 to 16.5 percentage points, the
rate of depreciation of the Nicaraguan Cordoba against the U.S.
dollar (set at a 5.5% annual rate) has not changed. The increasing
spread between Nicaraguan and U.S. inflation (16.5% vs. 3.3%)
suggests that the cordoba may now be overvalued, making Nicaragua a
more expensive place to do business.

TRIVELLI

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