THE KHALIFA LEGACY: BAD HABITS PERSIST AS ALGERIA

1. (C) At least one bank in Algeria's public-dominated
banking industry appears to have retained some of the bad
habits that caused the collapse of the entire sector in 2003.
Ambassador and Econoff learned May 24 from the president of
a large western bank in Algeria that the specialized Algerian
Bank for Rural Development (BADR) has made a loan valued in
the "hundreds of millions of dollars" to paper manufacturer
Tonic Emballage, considered the largest printer in Africa and
an important supplier of paper products to the domestic,
regional, and European markets. According to the source, the
loans were made "with only a phone call" without any
evaluation of the borrower. The source had heard speculation
that the value of the loan could be as high as $500 million.



2. (C) The recipient of this unquestioned loan, the Tonic
Emballage paper company, has achieved somewhat legendary
notoriety in Algeria. The 10 percent annual growth of Tonic,
its 2005 unprecedented purchase of 160 printing units and
several other presses, and a planned doubling of the
workforce from 5,500 in 2005 to 10,000 by the 2006-7 period
are in response to robust growth and good contract potential.
Tonic estimates its 2005 exports will be worth 35 million
Euros. Certain aspects of the Algerian market make it a
sensible location for investment in the paper industry: low
cost of energy for energy-intensive processes, the
availability of desalinized water to use in manufacturing,
and a skilled, low-cost labor force. Nonetheless, the
apparent ease with which the BADR loan was supposedly
approved contradicts the spirit of Algerian banking reform.
It also raises the prospect that Algerian banks are still
capable of damaging the national banking system by granting
loans that are not risk-evaluated. The state-owned banking
sector has historically made "directed," non-performing loans
to state-owned enterprises to keep state sectors afloat.
Unchecked loans to private firms are likely to be more rare,
since Algeria has only had a significant private sector since
the mid-1990s.



3. (C) The granting of an unquestioned loan resembles the
tactics of the former Khalifa Bank from 1998 to 2003, when
the Khalifa family conglomerate opened private retail and
institutional banking services with the approval of the
Central Bank. The owners completely replaced the Central
Bank-approved management team shortly after receiving GOA
approval, and Khalifa Bank proceeded to make generous loans
to family and related businesses, sending millions of dinar
overseas disguised as payments for illegally overbilled goods
or for projects that never materialized. The government and
the broad public attributed the ensuing collapse to
inadequate Central Bank regulation of the banking industry,
resulting in the loss of $2 billion from the savings,
pensions, and other deposits of public and private
enterprises, individuals, and even state-owned banks.



4. (C) The BADR loan to Tonic appears to have bypassed normal
oversight procedures for loans of that size, indicating that
in practice the Central Bank does not exercise effective
supervisory authority in the banking sector, even when it
comes to large transactions. A former Canadian Treasury
official who has been consulting independently with the
Ministry of Finance since 1997 indicated to econoff June 18
that banking reform has been extremely difficult to achieve
because of the power wielded by public banks. They have for
years stymied Minister Delegate of Financial Reform Karim
Djoudi's efforts to move toward privatization and efficient
industry procedures. Djoudi has been frustrated at the lack
of progress. For example, in a September 2004 conversation,
Algerian Central Bank officials insisted that central banks
around the world were not responsible for regulation of their
national banking industries -- an indication of the Central
Bank's consistent abdication of its own supervisory role.



5. (C) Finance Minister Medelci's recent assurances to
Ambassador (ref A) that three banks would be privatized soon
-- something he subsequently announced publicly this week --
could be easier to declare than implement, given the Finance
Ministry's perennial and unfinished struggle to regulate the
industry. However, former Finance Minister Benachenhou's
removal of three public bank CEOs in May, and Medelci's
statement that the state would privatize majority stakes in
public banks, appear to be more robust efforts to shake-up
the system. Much as WTO accession will give the GOA the
political cover it needs to enact new, unpopular rules, the
gathering momentum for bank privatization has the potential
to reform the industry in ways that internal efforts have
been unable to achieve.

ERDMAN