Honduras Hopes For IMF Letter of Intent by March 31

UNCLAS SECTION 01 OF 02 TEGUCIGALPA 000494

SIPDIS

SENSITIVE

STATE FOR WHA/CEN, WHA/ESPC, DRL/IL, EB/IFD/OMA
STATE PASS AID FOR LAC/CEN
STATE PASS USTR, EXIM, OPIC
STATE PASS USED IDB, USED WB, USED IMF
TREASURY FOR JOHN JENKINS

LABOR FOR ILAB, ROBERT WHOLEY
PANAMA FOR CUSTOMS

E.O. 12958: N/A

TAGS: EFIN ECON PGOV EAID ETRD ELAB HO
SUBJECT: Honduras Hopes For IMF Letter of Intent by March 31

Ref: Tegucigalpa 00010


1. (SBU) Summary. Honduras is putting the finishing touches
on a package of laws that will put the GOH's fiscal house in
order and satisfy the International Monetary Fund (IMF) team
negotiating the terms of Honduras' three-year Poverty
Reduction and Growth Facility (PRGF) program. The package
will include the long-awaited Civil Service Framework bill
that will supercede the salary provisions in the profession-
specific laws (called estatutos); expenditure measures that
will reduce the central government wage bill to 10.1 percent
of GDP in 2003 and reduce the wage bill of the entire public
sector by one percent of GDP annually in 2004 and 2005; and
a series of revenue measures that will widen the tax base
for income and sales taxes. The only important tax
exemption elimination that the GOH plans to propose to
Congress is the exemption for fuel products used in the
power sector; however, it appears that the other tax
measures will be sufficient to lower the deficit
significantly. The IMF and GOH are also working together
closely on improvements to the financial sector. The GOH
hopes the whole fiscal package will go to Congress by the
end of February and will be approved by mid March. The goal
is to sign a letter of intent with the Fund by the end of
March. The GOH believes that the letter of intent would be
sufficient to hold off pressure from Paris Club creditors,
until IMF Board approval in June. Much will depend on the
GOH's skill in getting the measures through Congress. End
Summary.


2. (SBU) In a February 18 meeting with econoffs, Minister of
Finance Arturo Alvarado explained that the GOH is very close
to an agreement with the IMF on the terms of Honduras' three-
year Poverty Reduction and Growth Facility program. The
program includes commitments on creating a professional
civil service, reducing the wage bill as a percent of GDP,
and adopting revenue measures. According to Ministry of
Finance projections, this will bring the central government
deficit down to three percent of GDP in 2003 (a marked
improvement over the last two years). The IMF and GOH are
also working together closely on policy changes to
strengthen the financial sector.


3. (SBU) After contentious late January meetings between the
GOH and IMF in Washington (in which the Fund at first
insisted on a constitutional amendment),there is now a
basic agreement on the text of the long-awaited Civil
Service Framework bill. Article 110 of the bill will
replace the salary provisions in the profession-specific
laws - the so-called estatutos - immediately upon entry into
force, except for the phasing in of the salary increases for
teachers by 2006. Alvarado is waiting for the IMF's final
comments on the draft bill (due any day now).


4. (SBU) The GOH identified expenditure measures that will
allow it to reduce the central government wage bill to 10.1
percent of GDP in 2003. Many of these measures have already
been implemented (wage freeze for non-unionized employees,
elimination of 60 percent of vacant positions, elimination
of ghost workers, retirement of public sector workers over
the age of 65, etc.). For 2004 and 2005, the GOH convinced
the Fund they would have more flexibility to reduce the wage
bill an additional one percent of GDP per year if they
included the entire public sector. Alvarado noted that
reductions in staff are already underway in autonomous
government agencies such as SANAA (the state water and
sanitation company) and COHDEFOR (the Forestry Service).
The IMF team agreed to exclude the severance payments from
the wage bill calculations. Note: IMF contacts indicate
that the GOH still needs to present more detail on these
planned expenditure measures in order to obtain Fund staff
support.


5. (SBU) The third part of the package is a series of
revenue measures (amounting to at least 2.5 percent of GDP)
that will widen the tax base for income and sales taxes.
Many bonuses and allowances will now be included as income
in the calculation for income tax and the minimum level of
salary for individuals subject to the tax will be reduced.
A type of withholding tax will be implemented for companies.
Many more products will be subject to the sales tax, leaving
only basic foods and medicines tax free (i.e., an expanded
"basic basket of goods"). The government still plans to
eliminate the tax exemption for fuel products used in the
power sector and will direct the state electricity company
ENEE to negotiate compensatory adjustments for the price of
electricity in its contracts with the private power
generators. The expected increased revenue from these
measures is expected to be:
Income tax 0.9 percent of GDP
Sales tax 0.5 percent of GDP
Oil taxes and others 1.1 percent of GDP


6. (SBU) Econcouns noted that the GOH has backed away from
its intent to reduce the numerous special tax exemptions for
companies, and that this would put the GOH on the defensive
as only raising taxes on the poor and lower middle class.
Alvarado acknowledged that elimination of special exemptions
turned out to be politically unfeasible. The GOH will do
its best to explain to the public that in fact tax rates are
not being raised. Note: IMF sources indicated concern this
week that the GOH might back off from some of the measures,
based on criticism from the public.


7. (SBU) Alvarado, who is consulting closely with President
of Congress Porfirio "Pepe" Lobo, hopes the whole fiscal
package will go to Congress the week of February 24 and will
be approved in Congress by early to mid March. The IMF team
would then return to Honduras March 24 to finalize and sign
off on a letter of intent on a PRGF program by March 31.
The package would go to the IMF Board in June. The Fund
staff said that once a letter of intent is signed, they
would signal to the Paris Club that the GOH is basically
back on track, taking pressure off from official bilateral
creditors for resumed debt payments. Honduras' extension of
debt relief from the Paris Club runs out on March 31.


8. (SBU) Comment: Although the umbrella public sector
organization COHEP expressed solidarity with the GOH on the
need to regain fiscal equilibrium and stop the dramatic
growth in public sector salaries (and despite the fact that
the current plan leaves many investment incentives intact),
key private sector groups have started to complain about the
proposed tax measures. Government pronouncements about the
measures, their impact on the poor, and the relationship to
the GOH's need for an IMF program have been confusing and
inconsistent. The next few weeks will be a key test of the
Maduro government's commitment (and ability) to take the
needed measures.

Palmer