TURKEY IMF AGREEMENT IN TROUBLE OVER INVESTMENT LAW

C O N F I D E N T I A L ANKARA 000606

SIPDIS

TREASURY FOR OASIA -- LOEVINGER, MILLS, PLANTIER
NSC FOR BRYZA, MCKIBBEN

E.O. 12958: DECL: 02/03/2010
TAGS: EFIN TU
SUBJECT: TURKEY IMF AGREEMENT IN TROUBLE OVER INVESTMENT LAW


Classified By: Classified by DCM Robert Deutsch. Reasons 1.4 (b) and (
d).


1. (C) Summary. According to the local IMF representative,
a Turkish government decision to move ahead with a regional
investment incentives law is imperiling the Fund's December
agreement on the terms of a new three-year stand-by program.
Minister Babacan was apparently powerless to prevent Council
of Ministers approval of the law, to which senior IMF
officials, including Managing Director Rato and his deputy
Krueger had expressed strong opposition directly to Prime
Minister Erdogan. With the Fund feeling rebuffed, this
development is part of an emerging and disturbing pattern of
lack of Turkish commitment to a new IMF program. This has so
far escaped the attention of markets, which tend to react
abruptly and dramatically when surprised. End Summary.


2. (C) IMF Resrep Hugh Bredenkamp (strictly protect) said
Treasury U/S Canakci informed him on the evening of February
1 that the cabinet and Prime Minister Erdogan had approved
and were about to send to Parliament for final action a new
law on regional investment incentives about which the IMF had
previously expressed strong concerns to the Turkish
government. The law, which Bredenkamp said would increase
the number of regions available for such incentives and
greatly expand company eligibility for incentives, would in
the IMF's opinion invalidate the draft letter of intent that
had been the basis of the December 14 public announcement of
ad ref agreement on a new three year stand-by arrangment.
Canakci told Bredenkamp that State Minister Babacan had been
unable to prevent the cabinet's action. Babacan, he said,
would try to hold up transmission to Parliament, but he
doubted that he could do so for more than a few days.


3. (C) The IMF staff had been working behind the scenes to
prevent the regional incentives law from moving foward. IMF
Managing Director Rato sent a letter to Erdogan in
mid-January warning that passage of the law could derail the
December agreement. After the Turks did not reply to Rato's
letter, Deputy Managing Director Krueger raised the subject
in strong terms in a bilateral meeting with Erdogan in Davos.
Erdogan left her with the understanding that the Turks and
IMF would discuss and work together to find ways to make the
law acceptable. Thus, IMF management was shocked to learn
that the law had been approved by the cabinet and called a
special informal meeting of the Executive Board for February
2 to seek guidance.


4. (C) Bredenkamp said that if the law passed through
Parliament an IMF team would need to return to Turkey to
renegotiate the letter of intent. More fundamentally,
however, the issue was one of principle. If the law were to
go forward it would demonstrate a lack of respect for the
integrity of the national budget process that would be at
odds with the entire point and purpose of IMF engagement with
Turkey. He said Rato was firm that the IMF could not work
with a partner that did not respect commitments. Options for
IMF action, Bredenkamp thought, included a public statement
of concern by the Fund spokesman in Washington. He also
thought Rato could raise the issue during the upcoming G-7
ministerial.


5. (C) Comment: With the Treasury seemingly in crisis
mode, Turkish officials have been unavailable to comment to
us on this development. Cabinet approval of the incentives
law (which has not become publicly known) comes at the same
time as the GOT seems to be dragging its feet in implementing
the three "prior conditions" on banking, tax, and social
security legislation foreseen by the draft letter of intent.
Bredenkamp said that the Fund accepted that there could be
valid technical reasons for the lack of action on these laws.
However, a disturbing pattern was emerging of a lack of
commitment to the December agreement, including as ministers
seem to compete among themselves in announcing populist
schemes (such as the agriculture minister's call for an
agricultural support or the labor minister's proposal for a
fund for government payments to laid-off workers). It is
even more disturbing that the Prime Minister seems to be
taking the lead. This all fits with a more general pattern
of wrong-headedness, including the recent announcement of
pharmaceutical regulations that had been strongly opposed by
the EU and the United States as well as a new upswing in
statements critical of the United States. Post recommends
that we continue to take a very firm line in supporting Rato
and the IMF.
EDELMAN