ZARDARI, TARIN ASK NSC LIPTON FOR LEEWAY ON ELECTRICITY

UNCLAS SECTION 01 OF 03 ISLAMABAD 001473

SENSITIVE
SIPDIS

E.O. 12958: N/A
TAGS: EFIN ECON EINV ETRD PREL PK
SUBJECT: ZARDARI, TARIN ASK NSC LIPTON FOR LEEWAY ON ELECTRICITY
TARIFFS


1. (SBU) Summary: In a June 30 meeting, President Zardari asked
National Security Council Senior Director David Lipton to help
convince the International Financial Institutions (IFIs) to allow
Pakistan to delay an increase in electricity tariffs until December
and for a subsidized oil facility. Although Lipton appreciated
Zardari's concern that increasing electricity tariffs in July would
put stress on him politically, Lipton did not agree that the GOP had
to wait for adequate power supplies before raising prices. Lipton
encouraged the President to work closely with the IFIs to find the
best way to eliminate subsidies, but recommended that the GOP not
wait until December. In a separate meeting, Finance Adviser Tarin
also asked Lipton for immediate market access for Pakistan's exports
and a five-year oil financing facility, in addition to quick
disbursement of Tokyo pledges and Kerry-Lugar money, as well as
Coalition Support Fund reimbursements. End Summary


3. (SBU) National Security Council Senior Director for
International Economics David Lipton, Deputy Assistant Secretary for
Asia Robert Dohner, Economic Advisor to Senior Special
Representative for Afghanistan and Pakistan Mary Beth Goodman, and
the Ambassador met President Zardari and a GOP delegation
(consisting of Finance Adviser Shaukat Tarin, Secretary General to
the President Salman Faruqui, Foreign Secretary Salman Bashir,
Finance Secretary Salman Siddique, Commerce Secretary Suleman Ghani,
and Senator Sughra Imam) at the Presidency on June 30. Lipton told
Zardari that President Obama is keenly focused on the GOP's economy,
and hoped this visit would elevate the economic dialog between the
U.S. and GOP. Lipton acknowledged the difficulties Pakistan had
suffered, saying a "perfect storm" hit its economy in the form of a
balance of payments crisis, the effects of an overheated economy, a
global economic downturn, and a major security problem.


4. (SBU) Despite this economic downturn, Lipton highlighted two
bright spots: the banking sector, which, due to sound business
practices and good regulation, had not experienced large-scale
collapses; and the positive rate of GDP growth, unlike the large
declines in GDP suffered by some of the more developed countries.
On this second issue, Lipton appreciated Pakistan's poverty levels,
and the harsh effect that even flat growth can have on its
population.


5. (SBU) Zardari made a plea for understanding. Specifically, the
President would like the United States and the international
community to support the GOP's proposal to delay electricity tariff
increases until December, when additional rental power units will
have presumably come on line. (Note: The Asian Development Bank
(ADB),in coordination with the IMF and World Bank, wants Pakistan
to raise tariffs by 17.5 percent, and had agreed to a 10 percent
increase in July and the remainder in September. End Note.) The
President appreciated the need to reform the power sector, but said
his government needed more time from the International Financial
Institutions (IFIs). Zardari said increasing tariffs in July would
force him from office. President Zardari also asked for $2 billion
per year for five years for energy support.


6. (SBU) Lipton acknowledged that the politics of this issue are
difficult, but fundamentally disagreed with the GOP's premise that
they cannot raise electricity tariffs until additional power comes
on line. Rather, Lipton told Zardari, the reverse is true: the GOP
cannot increase power output until the power companies improve their
fiscal situation. If their balance sheets improve, they will likely
be able to supply more power. President Zardari agreed this was
true in the long term. However, Lipton said this was also true in
the short term. Cash flow is a critical issue for the health of
Pakistan State Oil Company and of the state-run electricity
distribution companies, noted Lipton. (Note: According to the ADB,
the circular debt situation is causing distribution and generating
companies to defer critically needed operation and maintenance
expenditures; independent power producers and other generators to
lack the means to buy sufficient fuel to run at optimal capacity;
and the power sector to borrow massively from the banks. End Note.)
Lipton said he was uncomfortable supporting a delay until December
before raising prices, and made clear that the circular debt needed
to be cleared and electricity prices must reflect the full cost.


7. (SBU) Zardari argued that, since the current conflict was
causing higher unemployment and an IDP crisis, he could not force
the people to pay higher electricity prices. Moreover, unemployment

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only added to the ranks of the extremists who used drug money to
entice the economically disadvantaged. Zardari asked for assistance
in cutting down the costs of fuel imports in order to make it easier
for the GOP to restructure its existing power sector industries. He
then asked Lipton to explain (presumably to the IFIs and the USG)the
difficult position reforming the energy sector placed him in with
the people of Pakistan.


8. (SBU) Lipton promised to bring the tariff issue up with the
World Bank and IMF. He noted the U.S. was sensitive to the
political problems associated with tariff increases, and that IMF
austerity measures had caused political instability in other
countries, something which must be avoided in Pakistan. However,
Lipton made clear to Zardari that he believed the right approach was
to work cooperatively with the IFIs, while accepting that tough
decisions must be made. Lipton said that convincing the IFIs to
accept a plan that continued energy subsidies until December would
be a tough sell, and that he did not encourage the GOP to make such
a presentation.


9. (SBU) Lipton emphasized the importance of Pakistan's improving
its tax-to-GDP ratio, as a ratio below 10 percent was dangerous to
any economy. Lipton applauded Finance Advisor Tarin's determination
to broaden the current tax base. Lipton cited the examples of
Turkey and Egypt, which twenty years ago had lower tax-to-GDP ratios
than Pakistan did and were experiencing much lower growth. Today
the reverse is true.


10. (SBU) In a separate meeting with Finance Ministry officials
(Tarin, Minister of State for Economics Hina Rabbani Khar, Finance
Secretary Salman Siddique, Additional Secretaries Asif Bajwa and
Abdul Rauf) earlier in the afternoon, many of the same points were
made. Tarin gave an overview of Pakistan's economic situation over
the past year as it faced a legacy of flawed, consumption driven
macro-economic policies, deteriorating terms of trade, the global
financial crisis, and the adverse impact of the war on terror.
Tarin reviewed the government's nine-point plan to deal with the
crisis (stabilization, social protection, improving the agricultural
sector and industrial competitiveness, human resource development,
energy, capital markets, public-private partnerships for
infrastructure development, and administrative reform).


11. (SBU) Tarin asked the U.S. for enhanced market access
immediately (as the ROZ's would take several years to come into
effect),a subsidized five-year oil facility, and timely receipt of
Tokyo pledges, Kerry-Lugar pledges and Coalition Support Fund refund
payments. He also asked that assistance flows be directed towards
credible, established Pakistani institutions, and to defer
electrical tariff increases until load-shedding is eliminated, as
well as financial support for eliminating circular debt. Tarin said
he would be in Washington July 16-17 to meet with the World Bank.


12. (SBU) Lipton promised U.S. support in general, and to provide
more clarity on the Tokyo pledges and CSF refunds, but stated what
he later reiterated to the President: load-shedding could not be
eliminated until tariffs were increased. He mentioned the burden
that circular debt had placed on the banks' balance sheets,
potentially crowding out more productive lending, and offered to
provide technical assistance to the GOP to help devise ways to
correct the situation.


13. (SBU) Comment: It is not clear whether the GOP actually will
renege on its agreement with the IFIs to eliminate electricity
subsidies fully by September, or whether it is approaching major
donors for support in a last-ditch attempt to put off the
inevitable. Its promise last November to eliminate subsidies by
the end of June 2009 was greeted with skepticism by many. We are
also somewhat skeptical of Zardari's claim that his government will
fall if rates are increased. Until a few days ago, our consulates
had expressed surprise at the lack of major protests in Lahore and
Karachi over load-shedding, and statistics had indicated that the
GOP had actually brought down the shortfall from 5,000 MW to 2,400
MW. Unfortunately, a major line failure this week has caused the
gap to widen considerably, which may be putting added pressure on
the government. We believe the GOP needs to undertake a
comprehensive public education campaign to explain their position
transparently, and ask for the people's understanding and sacrifice
while support for the conflict is still strong. There will never be

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an ideal time to eliminate subsidies, and this may be as good as it
gets for the Zardari government.


14. (U) NSC Lipton has cleared this cable.

PATTERSON