MARCHENKO BELIEVES ELECTIONS TO BE EARLY, CALLS

C O N F I D E N T I A L ALMATY 002637 SIPDIS DEPARTMENT FOR EUR/CACEN, EB/TPP/BTA/EWH, INR/REA TREASURY FOR CENTRAL ASIA DESK OFFICER GAERTNER COMMERCE FOR CENTRAL ASIA DESK OFFICER STARKS MOSCOW FOR LANIER DEPARTMENT PLEASE PASS TO USTR E.O. 12958: DECL: 07/18/2015 TAGS: ECON EFIN PGOV PINR KZ ECONOMIC SUBJECT: MARCHENKO BELIEVES ELECTIONS TO BE EARLY, CALLS OPPOSITION &PATHETIC,8 DOUBTS FISCAL DIRECTION OF GOK REF: A. (A) 04 ALMATY 4168 ¶B. (B) ALMATY 2119 Classified By: Ambassador John Ordway. Reasons 1.4 (b) and (d). ¶1. (C) Summary: At a July 11 meeting at the Almaty headquarters of the Halyk Savings Bank where he is Chairman of the Board, Grigoriy Marchenko had a wide-ranging discussion of the political and economic atmosphere in Kazakhstan with Econoff and the Embassy Moscow Treasury Attache. Inter alia, Marchenko expressed his certainty that presidential elections will be called for the end of 2005, evaluated the opposition and their electoral chances as "pathetic," and said that Kazakhstan has "lost two years" of opportunity for further economic reform. He also offered a fairly pessimistic view of the outlook for growth in the countries where "color revolutions" have taken place. End summary. -------------- "Our Opposition is Pathetic" -------------- ¶2. (C) Marchenko shares the widely held view that presidential elections will be held in December 2005. He dismissed the political opposition as "pathetic." He opined that the opposition has no coherent program, and that its most prominent leaders (in Marchenko's opinion) had all taken their turns benefiting from corrupt privatization deals in the past. (Note: As Marchenko discussed the opposition, he waved a July 6 personal letter from "For a Just Kazakhstan" leader and presumptive candidate Zharmakhan Tuyakbay, apparently seeking his participation in a forum on economic issues. We expect he will not attend. End Note.) -------------- "This Government Should Be Dismissed" -------------- ¶3. (SBU) Unsurprisingly, Marchenko's analysis of the political and economic landscape is based on a highly critical appraisal of Prime Minister Daniyal Akhmetov's policies. After reiterating his opinion that Akhmetov should be dismissed (Ref A),he criticized the expansionist fiscal tendencies of the current Government. He observed that an alternative to using higher spending as the means of passing the benefits of high growth to the population, the Government should take the opportunity to reduce tax burdens and eliminate red tape while sharply intensifying the struggle with corruption. ¶4. (SBU) Marchenko noted disapprovingly that the National Bank has come under criticism for sustaining losses to its reserves in calendar year 2005. According to him, the National Fund's sterilization function has been weakened considerably in the past three years: in 2003, 60% of oil revenues went straight to the Fund and 40% to the budget; now the opposite situation obtains. Further, the GOK's practice is to deposit funds into the budget accounts for the first 8-9 months of the year and only then supply the National Fund. As a result, the National Bank is left to its own resources for sterilization and incurs considerable costs. ¶5. (SBU) Marchenko briefly stated that he could not satisfactorily explain the latest trend in the tenge exchange rate, which has depreciated to 135 KZT/USD from 130. He suspected that the National Bank's recent lack of intervention in the currency market has engendered some speculative tendencies, but did not elaborate. (Note: Presumably the interventions ended as the dollar stabilized during the spring of 2005. End Note.) -------------- Want a Cluster? Get a Helicopter -------------- ¶6. (SBU) Marchenko was intensely critical of several of the Akhmetov government's key economic initiatives. (Note: Marchenko's low regard for Akhmetov is public and well known. Akhmetov was appointed Prime Minister in June 2003, so it is no accident that Marchenko would opine that policy has been deteriorating for two years. End note.) He was particularly acerbic regarding the Ministry of Economy and Budget Planning's reliance on Harvard Professor Michael Porter's "cluster theory" of development. He ridiculed the idea of establishing the cotton textile cluster in South Kazakhstan (Ref B). ¶7. (SBU) Marchenko dismissed the textile initiative, predicting that within two years the tax incentives that underlie it will be buttressed or replaced by direct subsidies, which will be a waste. Noting that labor costs in Kazakhstan (average wage $240/month) are up to eight times as high as in Uzbekistan and six times as high as in China, that both Uzbekistan and China have established textile industries, and that Kazakhstan produces comparatively little cotton on its own, Marchenko claimed, "as Friedman says," that the only way to sustain the cluster would be "to drop money on it from a helicopter." ¶8. (C) Marchenko confirmed that he still advises the President on economic policy. He told us that his latest advice was a single paragraph. Marchenko said that he told the President that "he is kidding himself" if he thinks that investment in non-oil sectors will happen if the corporate tax rate stays at 30%. Marchenko was pessimistic that serious reforms would be made until after the elections, and even then perhaps only if oil prices were to fall. ¶9. (SBU) The reforms Marchenko favors include revamping the tax system - not necessarily by cutting rates but by simplifying it to reduce the incentive for and ability of taxpayers at every level to hide income. He would also encourage simplification of the Administrative Code, both to reduce red tape and to prevent it from being an effective tool for harassment of small and medium entrepreneurs. ¶10. (C) Marchenko also expressed disgust at the continuing high levels of corruption across the civil service of Kazakhstan. Despite the fact that Halyk Bank pays its professional employees 5-7 times the salary of (for example) city court judges, Marchenko observed tongue-in-cheek that better than 60% of the bank's mortgage clients are bureaucrats. -------------- "Paragon of Proper Development" Needed -------------- ¶11. (C) Marchenko also shared his views on economic development in the post-Soviet space writ large. He was deeply pessimistic about the Yushchenko government's prospects and felt that it was taking considerable inflationary risks that would jeopardize its electoral prospects. Citing conversations with Andrey Ilarionov, he offered the opinion that meaningful reforms would not likely spread throughout the CIS unless Russia or Ukraine sets the example. He doubted that other post-Soviet countries would look at Poland or the Baltic states as examples to be followed; he similarly doubted Russia's ability to absorb lessons from its former possessions. -------------- Banking Sector Overview -------------- ¶12. (SBU) Finally, Marchenko discussed the state of play in Kazakhstan's banking sector and his concerns about the growing real estate "boom" in Almaty and Astana. Of particular concern, he said, was the extent to which commercial bank portfolios are tied up in real estate investments, either as the purpose for loans as the collateral for them. He said that Halyk is conservative in its mortgage lending practices, requiring 100 percent collateral and a 15 to 20 percent down payment. Even so, the bank has made 19,000 mortgage loans in the past two years. Marchenko said that those loans that go bad are most likely to do in the fifth to eighth years of the typical ten-year term. In his view, there is a danger that the bubble will burst, disastrously for banks overexposed to real estate, mainly because up to 40 percent of the buyers are not living in the apartments they buy. This increases the risk of a sell-off across the market. ¶13. (SBU) Marchenko did not comment on Halyk bank's search for a "strategic investor" to increase its capital and growth prospects. On becoming Chairman of Halyk, Marchenko said that a partner would be found by the end of March 2005 (Ref A). This has not happened to date, and EBRD's Almaty Principal Banker told us separately that the deadline moved first to the end of June, and now to the end of October. The EBRD banker said that five to six foreign banks were interested, with "a French bank" (NFI) the most likely suitor. Apparently no Russian banks are interested, and Halyk is specifically seeking a Western partner. (Note: Marchenko told the Ambassador on June 14 that the only remaining step was for the bank's principal owner to "make up his mind" on which strategic partner to select. He said that there were a couple of possibilities, each was excellent -- but that the owner did not seem to be in a rush to decide. End note.) -------------- Comment -------------- ¶14. (C) As always, Marchenko was outspoken, authoritative, candid and even entertaining. Apparently he still has direct access to President Nazarbayev, but it also seems that his economic prescriptions are for the moment not finding a receptive ear in Astana. While Marchenko does little to hide his contempt for Akhmetov and his team (which probably means he is much happier in the private sector),his criticisms are, as always trenchant and well informed. Unsurprisingly, he is as dismissive of the opposition's economic platform as he is of the government's. His comments indicate to us that to the extent Marchenko remains an opinion leader, President Nazarbayev's challenger(s) can expect nothing from this still highly regarded former official. End comment. ORDWAY NNNN