A LOOMING COTTON CRISIS IN TAJIKISTAN

UNCLAS SECTION 01 OF 04 DUSHANBE 001584

SIPDIS

SENSITIVE
SIPDIS

STATE FOR SCA/CEN;
TREASURY PASS TO JEFF BAKER

E.O. 12958: N/A
TAGS: EFIN EAGR ECON PGOV PREL EINV ETRD TI
SUBJECT: A LOOMING COTTON CRISIS IN TAJIKISTAN

REF: Dushanbe 1285

DUSHANBE 00001584 001.2 OF 004



1. (SBU) Summary: International banks have begun calling in
part of their $360 million in agricultural loans to Tajikistan,
which lacks the ability to pay, threatening a liquidity crisis
in the banking sector here. Behind the scenes of this week's
Sixth Ministerial Conference of the Central Asia Regional
Economic Cooperation in Dushanbe, the international financial
institutions will grapple directly with key Tajik government
officials on how to handle the immediate crisis and how to make
the sector profitable in the future, including a strong
recommendation that the government enter into a new
International Monetary Fund program. The international
community will try to use this opportunity to push the Tajik
government to implement painful agricultural reforms. End
Summary.

Looming Macroeconomic Crisis
--------------


2. (U) Over the past year, external shocks from inflation and
the global credit squeeze have hurt Tajikistan's fiscal health
(reftel). Increased prices of food and energy resources in
particular have resulted in 12-18% annual inflation in 2007. In
addition, the government's 2008 budget is attempting to squeeze
increased revenues from a relatively few generators of tax
revenues. Reviewing the Tajik state budget, World Bank's
Annette Dixon characterized Tajikistan's fiscal policy as "going
to hell in a handbasket."


3. (SBU) The international development banks have begun to come
to some agreement on what the key issues are and how to resolve
them. The Asian Development Bank is focused mostly on a
perceived liquidity crisis in the financial system. In
response, they have prepared an $80 million budget support
program to pay off international investors. The World Bank is
looking at the cotton debt's impact on the overall macroeconomy,
and would like Tajikistan to reenlist in an International
Monetary Fund program to help monitor and control fiscal and
monetary policy. Both international banks have the ear of the
government's key decision makers, although the Asian Development
Bank maintains a closer relationship to the government.


4. (SBU) Both the World Bank and Asian Development Bank plan to
use their meetings with President Rahmon over the weekend to
convince him that the government's fundamental management of
fiscal policy is falling apart, and to go back on an
International Monetary Fund Poverty Reduction and Growth
Facility program. Under this program, which is specifically not
a bailout, the government would receive funds, along with a
policy framework and monitoring program that help keep the
government on target. The International Monetary Fund will
reiterate to President Rahmon that Tajikistan is not eligible
for the Policy Support Instrument, which is designed for more
advanced low-income countries and which the IMF Board rejected
for Tajikistan last year.

The Cotton Debt - Sovereign Guarantees?
-------------- --------------


5. (SBU) The Tajik government has quietly disclosed the nature
and amount of the external loans related to cotton debt. These
loans total $373 million, and are largely owed to German and
Kazakh banks, including KazCommerce Bank, ATF Bank, Deutche
Bank, Commerce Bank of Germany, and Paul Reinhard. Credit
Invest is a non-banking institution under control of the Tajik

DUSHANBE 00001584 002.2 OF 004


National Bank that inherited the cotton debt and must pay off
these loans.


6. (SBU) The first of these loans are coming due at the end of
November. Due to the credit crunch in Kazakhstan, the
international banks are predicting that Kazakh banks will make
Tajikistan pay up on its loans rather than roll them over. The
World Bank's Annette Dixon told the Ambassador November 2 that
Tajikistan has $200 - $320 million in reserves available, and
the government has not requested a bailout from the IMF to pay
off the debt.


7. (SBU) According to Dixon, if the Tajik government had failed
to disclose to the IMF that it had guaranteed loans while under
an IMF program, it would be in breach of its agreement and
theoretically obliged to pay back the IMF. So far, no one in
the international financial institutions has actually seen the
loan agreements. It is likely that the government provided oral
guarantees to the international banks rather than written
sovereign guarantees underwritten by the Minister of Finance.
It is unclear whether Tajikistan can be legally held to these
oral guarantees. The Government of Tajikistan may also try to
cut a deal with Kazakhstan by giving away other assets,
including mining or energy rights, as a way to pay down the
debt. However, the international financial institutions will
advise the Tajik government against a fire-sale of the country's
assets.

Cotton Debt Resolution
--------------


8. (SBU) The World Bank remains wary of the Asian Development
Bank's $80 million proposal to relieve the cotton debt. The
World Bank feels that investors made plenty of money over the
years from cotton profits and should largely write off the
remaining debt, which Annette Dixon described as "fake." The
World Bank also does not know how the Asian Development Bank
will structure its budget support program. At the request of
the Tajik Prime Minister in May 2007, the Asian Development Bank
hired Recovery Partners, a high-profile Canadian debt
restructuring consulting company, to examine the Tajik debt.
According to the ADB's Betty Wilkinson, since August, the
government provided Recovery Partners information on the amount
and nature of the debts that alarmed the Asian Development Bank,
who then ensured the information was given to the International
Monetary Fund.


9. (SBU) The Asian Development Bank insists their program will
be based on government performance. According to the ADB, the
key questions regarding the debt are: Is the debt legally
enforceable? And is it within farmer ability to re-pay? The
Asian Development Bank's consultants presented their debt
restructuring proposal to the government and have received
general approval on the approach. The World Bank informed the
Ambassador that the Asian Development Bank meanwhile is seeking
additional funds for its debt resolution program. ADB's Betty
Wilkinson approached EmbOffs to query whether the United States
could forgive the $17 million in official debt to buy into the
ADB's cotton debt restructuring program.

Cotton Reform
--------------


10. (SBU) The government approved a cotton sector reform roadmap
earlier this year, which is designed to provide farmers the

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freedom to farm what they choose, promote land reform, and
remove government interference from the agricultural sector.
The donor community is engaged with the Tajik government and
with the private sector to implement reforms as laid out in the
roadmap. Land reform and freeing up farmers from government
control are top priorities. The government dragged its feet on
both these issues this year: the draft land reform legislation
went through several undesired revisions, and President Rahmon
continues to demand cotton quotas from his regional governors.
Several weeks ago, he lambasted the Khatlon Governor for not
meeting cotton targets, calling to mind the days of central
planning. The combined diplomatic and donor corps sent a letter
November 2 to the government expressing its desire that the
reform process be taken seriously.


11. (SBU) At a donor briefing November 1, members of the
Principals' Group in Dushanbe asked the Asian Development Bank
if cotton is a viable economic product for Tajikistan, after the
ADB showed figures indicating Tajikistan's cotton yield at a
meager 1.60 tons per hectare - a third to half less than in
neighboring countries. Betty Wilkinson of the Asian Development
Bank gave three reasons why cotton is viable in Tajikistan:

-- Tajikistan has plenty of water;
-- Tajikistan has a cold winter and few pests to kill off the
crop;
-- The world's biggest cotton user China is right next door.


12. (U) Comment: After farmers remove land that is less viable
for cotton use from production, remaining areas should be able
to produce a competitive product. Vertical mechanisms for
buying and selling, though flawed, are already in place. Also,
Tajikistan has the potential to produce long-staple cotton, a
higher and more valuable grade of cotton for export. China,
though nearby, has not been a major purchaser of Tajik cotton.
End Comment.

Funding next year's crop
--------------


13. (U) The World Bank has a $7 million loan guarantee program
to attract new investors and break the current financing
monopoly in order to sow next year's cotton crop. Dixon
estimates that this will cover half of the $80-$100 million
necessary to plant the crop. The USAID credit development
authority program will supply at least an additional $5 million
of liquidity for non-cotton agricultural loans starting next
year. Agricultural observers will watch next year's planting
closely for signs of whether the harvest will be sufficient to
produce a living income for the population, and also to provide
cotton sticks that rural residents use to heat their homes in
the winter.


14. (U) All parties want to see the "investors" taken out of the
picture of funding the cotton crop, but the Asian Development
Bank warned donors that this process should be done slowly
because the local banking sector is not ready to take over
agricultural lending from investors. The Asian Development
Bank's program will help banks build up their technical and
financial capacity.


15. (U) Comment: The situation is likely to evolve rapidly over
the next few months. The Asian Development Bank remains the
lead on cotton debt sector reform, and their local
representative will remain a key partner for coordination. The

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government's actions will be key for the development of
Tajikistan's economy. End Comment.
JACOBSON