BURMA'S MAGIC FEC: WHAT GOES DOWN MUST COME UP

C O N F I D E N T I A L SECTION 01 OF 02 RANGOON 001238

SIPDIS

STATE ALSO FOR EAP/BCLTV, EB
COMMERCE FOR ITA JEAN KELLY
TREASURY FOR OASIA JEFF NEIL
USPACOM FOR FPA

E.O. 12958: DECL: 09/29/2013
TAGS: EFIN ECON AFIN PGOV BM
SUBJECT: BURMA'S MAGIC FEC: WHAT GOES DOWN MUST COME UP


Classified By: COM CARMEN MARTINEZ FOR REASONS 1.5 (B,D)


1. (SBU) Summary: After following closely the gyrations of
the U.S. dollar/kyat market exchange rate, the Burmese
Foreign Exchange Certificate's (FEC) value has diverged
significantly in recent months. Sharp dips and climbs
unrelated to the greenback are very unusual, and no solid
explanation is available for recent occurrences. However,
the recent moves have reinvigorated speculation over the
FEC's future with no satisfactory conclusions except that the
increasingly useless FEC has little importance to the Burmese
economy. End summary.

The SPDC and its FEC


2. (SBU) The Foreign Exchange Certificate (FEC) was
introduced in 1993, as a way for exporters, Burmese
nationals, and others who earned foreign exchange to withdraw
their money from government banks -- the only banks
authorized to hold foreign currency -- without the GOB losing
any of the precious cash. The FEC cannot be converted back
into hard currency, ensuring that the government would get
every penny of the mandated USD 300, later USD 200,
conversion to FEC imposed on foreign independent travelers
from 1994 until August of this year. The banks hand out FECs
at a 1 FEC to USD 1 rate, with FEC in theory backed by actual
foreign exchange reserves. At first, the FEC could be
exchanged legally at only the official 6 kyat/FEC rate.
However, in July 2001 authorities bowed to the active black
market and changed the authorized FEC rate to 450 kyat/FEC --
still lower than the market rate prevailing at the time.


3. (SBU) With the continued weakening of the economy,
increasing inflation, and depreciating kyat, the FEC's black
market value has strayed significantly from its fixed 450
kyat value -- maxing out at 1095 kyat/FEC in October 2002.
However, during most of this period the FEC/kyat value tended
to track fairly closely the gyrations of the USD/kyat rate.
Until the spring of 2003, the FEC/USD gap was stable, with
the greenback worth about 5-10 percent more, widening
occasionally to 15-20 percent depending on the comparative
demand for the more liquid, but illegal, U.S. dollar vs. the
legal, but less useful and non-covertible, FEC.


4. (SBU) The FEC/USD gap began to widen in early May 2003 as
the dollar's relative stability against the kyat was not
matched by a steadily weakening FEC. Talk of the FEC's
abolition, a recurring theme in the country's hyperactive
rumor mill, fed this move out of FEC. The FEC dove 26
percent in late June/early July as merchants became
increasingly reluctant to accept FEC at par with the U.S.
dollar. Even some government businesses, previously willing
to accept or even mandating payment in FEC, refused to take
it. After a brief FEC revival, the GOB's removal of its
airport FEC counters on August 15th was taken as evidence by
many of imminent demonetization of the FEC, and brought the
FEC crashing down to 540 kyat/FEC on August 19 -- its lowest
point in two years. Because many were at the same time
buying up U.S. dollars in anticipation of the impact of U.S.
sanctions, in late August the FEC/USD gap reach an historic
level, about 42 percent.


5. (SBU) Beginning in mid-August a strange reversal of the
FEC's fortunes began. Predictably, because of continued
import controls, combined with a move by the government to
respond to new U.S. sanctions by denominating all letters of
credit in euro, the dollar's value against the kyat slipped
-- down 5 percent by mid-September. However, for no apparent
reason, the FEC went the other direction rocketing 45 percent
against the kyat during that period. By late September, the
yawning USD/FEC gap had closed to 15 percent.

What Gives?


6. (C) Understanding how currencies move in Burma is a
difficult task even when they do what they're "supposed" to.
When one of the three (kyat, U.S. dollar, FEC) does something
starkly counterintuitive, comprehension is all the more
elusive. However, the reviving FEC may be a result of a
concentrated strategy by some actor or actors to reduce the
supply of FEC in the marketplace while sparking speculative
demand. The demise of the garment sector, largely due to new
U.S. sanctions banning imports of Burmese goods into the
United States, is another apparent factor.


7. (C) On the supply side, the most obvious change is the
removal on August 15th of the requirement for all foreign
tourists to exchange USD 200 into 200 FEC. Overnight, and
without subsequent explanation, the authorities removed the
exchange counter from the Rangoon airport arrivals hall.
More diaphanous evidence of a supply-side explanation comes
to us from an array of business sources who report it very
difficult to find large supplies of FEC from the usual black
market brokers.


8. (SBU) Problems in the country's garment sector may also be
impacting the supply of FEC. Garment factories, employing
100,000-200,000 workers, generally changed FEC export
earnings into kyat to pay salaries. Now that many of these
factories are closed and many employees have been laid off,
this monthly infusion of FEC is no longer occurring.


9. (C) On the demand side, a coordinated campaign of rumors
may be encouraging some speculative demand. Currently, very
few businesses are obligated to accept FEC -- international
hotels, airlines, and some government utilities for example.
However, several of our most reliable business sources have
independently reported to us that various
government-controlled commodities previously sold in U.S.
dollars -- most notably sugar, GSM cellphones, and gems (the
biannual international gems emporium is coming up in
mid-October) -- must now be purchased only with FEC. Sources
also reported that Myanma Petroleum Products Enterprise, the
parastatal gasoline and diesel retailer, is now selling large
amounts of diesel only in FEC. However, these rumors seem to
have little backing. Government entities controlling these
commodities deny that there has been any change in their
previous U.S. dollar-only policy, but it's clear that the
rumors are out there and may be leading to some speculative
purchasing or hoarding of FECs.

Comment: What Lies Ahead for the FEC?


10. (SBU) The FEC's future is as uncertain as its recent
levitation. Other than to "save face" by prolonging a worn
out policy, or protect the hoarded wealth of a few generals,
the GOB has no real reason to keep the FEC, as there are very
few practical uses for it. Even most Burmese paid in foreign
exchange (such as Embassy, UN, and international NGO
employees) never make FEC withdrawals, instead transferring
the foreign exchange in their bank accounts into the account
of a broker who gives them an "account transfer" kyat rate --
usually somewhere between the current black market rates for
FEC and U.S. dollars. Presuming currency laws would continue
to prohibit Burmese citizens from holding foreign exchange,
abolishing the FEC might even give a boost to demand for the
beleaguered kyat -- shops and utilities accepting FEC would
have to convert to kyat.


11. (SBU) Some argue that the current appreciation of the FEC
is a GOB plot to informally eliminate the FEC by gradually
removing it from circulation. More likely, though, after
this current inexplicable blip, the FEC will remain in the
market and resume its normal role as a safer, but
second-best, choice for cash holdings. Either way, the FEC
has been so marginalized in recent months that we don't see
much impact on the economy for the better or worse.
Martinez