Turkey's Energy Bill Adds to Current Account Deficit

UNCLAS SECTION 01 OF 02 ANKARA 006380

SIPDIS

USDOE FOR CHARLES WASHINGTON
USDOC FOR 4212/ITA/MAC/CPD/CRUSNAK
EXIM FOR PAMELA ROSS AND MARGARET KOSTIC
OPIC FOR R CORR AND C CHIS
TREASURY FOR INTERNATIONAL AFFAIRS - JROSE

SENSITIVE
SIPDIS

E.O. 12958: N/A
TAGS: EFIN ENRG EPET TU
SUBJECT: Turkey's Energy Bill Adds to Current Account Deficit


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1. (SBU) Summary: Turkey imports well over 90% of the crude oil
and natural gas it consumes, and imported natural gas -- from Russia
and Iran -- accounts for 45% of electricity production. In addition
to the concern this raises about supply security, high energy prices
are a main factor adding to Turkey's sizeable and problematic
current account deficit and sustaining inflationary pressures. The
recent fall-back in oil prices brought welcome relief, but Turkey
remains very exposed to exogenous factors, and is taking a number of
steps to reduce reliance on high-cost imported energy. These
include adding nuclear and renewable energy to diversify its energy
mix, switching to lower cost suppliers, and increasing energy
efficiency. End Summary.

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High Energy Prices Drive Current Account Woes
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2. (SBU) Dramatic price increases over the last two years have
fueled an increase in Turkey's net imports of energy and gold from
5.5% of GDP in 2003 to 7.4% in 2006. According to a recent Morgan
Stanley report, net fuel imports alone are estimated at 5.7% of GDP
this year. Primarily due to increases in energy costs, Turkey's
current account deficit ballooned from 4.4% of GDP in 2003 to over
7.5% in 2006. If energy costs had remained unchanged, the country's
current account deficit would have narrowed -- not widened -- from
the price-adjusted peak of 5.8% of GDP in 2004 to 4.2% in 2005 and
3.4% this year.


3. (SBU) Turkey's exposure as a significant net importer of energy
and as a passive price taker reduces its control over its economy.
The recent drop back in prices from the $79 peak to below $60 will
clearly be fortuitous for Turkey's current account deficit, but the
impact depends on how long prices stay at today's levels or lower.
Moreover, if oil prices fall because of slowdown in global GDP
growth, the impact on Turkey's exports could more than offset the
windfall from lower energy prices.

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...and is a Key Factor in Inflation
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4. (SBU) The surge in energy prices is also a key factor in
Turkey's other big macroeconomic headache -- stubbornly high
inflation. Analysts estimate that every $10 per barrel change in
world oil prices cause a one percentage point increase or decrease
in Turkey's consumer price index, albeit with about a two-month lag.
This means that high oil prices before the early August peak
exacerbated the jump in inflation brought on by the May-June fall in
the exchange rate. Now that prices have fallen by about $20 per
barrel, the fall should help the Central Bank resume the
disinflationary trend that prevailed from 2002 through the first
quarter of 2006.

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Reducing Import Addiction - Changes in Energy Policy
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5. (SBU) According to the IEA's 2005 review of Turkey's energy
policies, Turkey's use of energy per unit GDP (energy intensity) is
low compared to OECD countries, but like developing countries in
general, energy intensity continues to rise. This indicates that
Turkey is using the energy it imports less efficiently than do other
countries. Recent statistics indicate that energy intensity may be
turning the corner and starting to decline, but this differs from
the most current IEA projections that forecast continued increase in
intensity through 2010.


6. (SBU) Turkey has made significant policy changes on both the
supply and demand sides to improve the efficiency of energy use.
The Minister of Energy announced the Government's intent to maximize
use of indigenous energy for electricity production, targeting
increased use of domestic coal (lignite) and hydropower. Unlike its
neighbors, Turkey has limited hydrocarbon reserves and production.
The GOT held out high hopes for BP/Chevron exploration in Turkey's
eastern deep water Black Sea, but the results of drilling are
uncertain. U.S. firm Toreador will soon start production of natural
gas in a shallow off-shore area east of Istanbul. Turkey is in the
process of passing a new Petroleum Law that would increase

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incentives for foreign investment in oil and gas exploration and
production in Turkey.


7. (SBU) The Turkish government has announced its decision to add
nuclear power to its energy mix, but this is a long-term prospect at
best given the large amounts of private investment that are
required. Turkey has passed both new Renewable Energy and Energy
Efficiency Laws, but incentives are still ambiguous or uncertain in
time frame and application. Turkey recently opened its first
commercial electricity wind farm near Bandirma in Western Turkey,
but wind and other renewables remain a small part of its energy mix.
Many of the changes in legislation and policy aim to move Turkey's
approach more in line with that of the EU, which has identified
specific targets for electricity generated from renewable energy.


8. (SBU) In addition to policies aimed to improve both demand and
supply side aspects of its energy balance, Turkey aims to improve
its energy security by augmenting supply source diversification.
Turkey is highly dependent on Russia (67% for natural gas) and Iran
(16% for natural gas),but these are high priced gas suppliers with
reliability risk. Turkey's ample trade deficit with Russia (over
$10 billion in 2005) is driven by purchases of $4.6 billion for oil
and $3.6 billion for natural gas. Therefore, in order to seek lower
cost supplies, Turkey is committed to gaining natural gas from
Azerbaijan, Iraq, and Turkmenistan. Turkey is strongly interested
in developing these sources for its own consumption, as well as
transit to Europe.

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Comment
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9. (SBU) While the recent down-turn in oil prices is welcome
(Economy Minister Ali Babacan announced that Turkey's projected
energy imports for this year - $28-29 billion -- are now projected
to fall back to $13.5 billion.),it underscores that Turkey as
significant net energy importer will retain a significant
vulnerability to exogenous factors until it can improve its energy
balance through both supply and demand policies.

Wilson