UK Expert Shares Views on Foreign Exchange Reserves, Oil

UNCLAS SECTION 01 OF 03 KHARTOUM 001070 NSC FOR MGAVIN, LETIM DEPT PLS PASS USAID FOR AFR/SUDAN ADDIS ABABA ALSO FOR USAU SENSITIVE SIPDIS E.O. 12958: N/A TAGS: ECON EFIN EPET PGOV SU SUBJECT: UK Expert Shares Views on Foreign Exchange Reserves, Oil Sector REF: KHARTOUM 895 ¶1. (SBU) Summary: Laura James, Senior Economic Advisor for the UK's Department for International Development (DFID) said that implementation of the wealth-sharing provisions of the Comprehensive Peace Agreement (CPA) have been "fairly smooth", but problems remain. In 2008, the North stopped paying the South its share of oil revenues in foreign exchange, shifting payment to Sudanese pounds (SPG); the South, which has no economically-significant exports, has spent all of its reserves on imports. Any IMF technical assistance that may be provided will facilitate a political deal on the handling of reserves. If the North's argument that the recent Permanent Court of Arbitration (PCA) decision requires repayment by the South of oil revenues misallocated under the Abyei Roadmap prevails, the Unity Fund may also have to repay the North, James noted. ¶2. (SBU) Summary continued: While, in James' view, accounting for oil revenues is transparent, the underlying contracts are not; responsible management of oil reserves would require a review of the contracts. (Note: Global Witness, in an early September report (Septel) on Sudan's oil industry, points out discrepancies in reported data, and recommends mechanisms for improving transparency across the range of oil-related transactions. End Note.) U.S. economic sanctions have prevented Sudan from entering into agreements with U.S. companies in the oil sector. This in turn has forced Sudan to enter into worse deals than would otherwise have been available, as well as helped hide the corruption inherent in such arrangements. Wealth-sharing has not been decentralized, and is tightly held by the Government of National Unity's (GNU's) Ministry of Finance, making it difficult for states to carry out their responsibilities, James noted. The Government of Southern Sudan (GoSS) has entered into a 2 billion SPG (USD 800 million) contract for roads which, like grain contracts (Ref),is entirely off-budget. End Summary. ¶2. (SBU) Pol-Econ Chief met with Dr. Laura James, Senior Economic Advisor for the UK's Department for International Development (DFID). James, who said she had followed Sudan's economy for years as part of "The Economist" magazine's economic research unit, called implementation of the wealth-sharing elements of the Comprehensive Peace Agreement (CPA) "fairly smooth", but also said issues remain. -------------- -------------- Foreign Reserves: Entitlement, Management Are Problems -------------- -------------- ¶3. (SBU) One issue currently under discussion between the North and the South, and in aid circles, is management of foreign reserves. The North remitted oil revenues to the South in U.S. dollars until September 2008, but then began making remittances in local currency SPGs. According to James, the underlying rationale for the switch was that the South had begun hoarding dollars. With its access to foreign exchange restricted, the South began to spend down what few reserves it had. The South now has virtually no foreign reserves with which to purchase imports. ¶4. (SBU) Both entitlement to and management of foreign reserves have created problems between the parties. Recently, the South had to ask the North for sufficient foreign exchange to allow its officials to travel outside Sudan, James said. In the NCP-SPLM Points of Agreement resulting from the U.S.-led trilateral process, the parties to the CPA agreed to refer these issues to the International Monetary Fund (IMF). These questions, however, are not merely technical ones; the heads of the Bank of Southern Sudan and its parent, the Central Bank of Sudan, are both professionals, have worked together in the past, and have handled transfers between the banks with ease, James noted. Consequently, she believes IMF technical assistance will provide political cover for whatever political deal the parties are able to make on these two issues. -------------- North Argues Arbitration Mandates Repayments -------------- ¶5. (SBU) The CPA, of which the Abyei Protocol is a part, sets out a formula for the division of oil revenues: 50 percent to the North, 42 percent to the South, and two percent each to the Misserya and Dinka tribes and to the States of South Kordofan and Blue Nile, James said. From 2005 to 2008, the CPA parties were unable to decide on the boundaries of the oil-rich Abyei area. Consequently, during that period, Abyei area oil revenues went only to the North. In 2008, the Abyei Roadmap was agreed upon as a temporary mechanism for allocating between North and South the oil revenues from various KHARTOUM 00001070 002 OF 003 Abyei fields until such time as the Permanent Court of Arbitration (PCA),to which the parties had referred the issue of demarcation, could render a decision, James noted. ¶6. (SBU) The July 2009 arbitration decision decreed that the Diffra field was included within the Abyei boundaries. However, it also held that the Heglig and Bamboo fields were not within the Abyei area. After the PCA rendered its decision, the North claimed that the implication of the arbitration decision is that the parties should look back, and apply the formula from the CPA to rectify any misallocations that had taken place under the Abyei Roadmap, James said. Following that argument, they claimed that any revenue paid on oil from the Diffra field should have been divided according to the CPA, and thus that the South must repay the North's share. In addition, the NCP claimed that revenues paid to the South from the Heglig and Bamboo fields for the years 2008-9 must be repaid to the North because these fields were not determined, based on arbitration, to be within the Abyei boundaries. ¶7. (SBU) If carried to its logical conclusion, James said, the North's line of argument will also affect the Unity Fund. The North could base its case by arguing only revenues from the Diffra field should have gone into the fund, while the fund should pay back the revenues from the Heglig and Bamboo fields that were mistakenly allocated to it. ¶8. (SBU) One issue that was outstanding in 2008, the year of the roadmap, was the issue of USD 9 million in payments that the North owed the South. Those arrears were paid to the South by the North in March, James noted. -------------- Oil Revenues Transparent, Contracts Not -------------- ¶9. (SBU) In James' view, the reporting of oil revenues is quite transparent; it is unlikely that the figures can be faked, or that there have been any massive diversions of Southern oil. (Note: Global Witness, in its September report (Septel) on Sudan's oil industry, points out discrepancies in reported data, and recommends mechanisms for improving transparency across the range of oil-related transactions. End Note.) What is not transparent, however, are the terms of the original contracts for exploration and sale of the oil. It is unlikely that the North got the best deal possible, she said, and likely that corruption is involved. It is very much in the South's best interest to play a more participatory role in the management of the oil sector. However, what prevents the South from playing such a role is their lack of people trained and experienced in the sector, James noted. -------------- Strategic Management Requires Contract Review -------------- ¶10. (SBU) To answer the question of whether Sudan's oil reserves are being managed in the best possible way for the long term, one would have to review the terms of the existing concessions, and to renegotiate them if necessary. It is probably too late for that ever to be accomplished, James said, in light of what appear to be cozy arrangements between the companies and government decision makers. -------------- Sanctions Help Hide Corruption, Bad Deals -------------- ¶11. (SBU) Asked the impact of sanctions on the oil industry, James said sanctions keep big companies out, which in turn allows the Chinese and Malaysian companies, which otherwise could not compete, to come in. Sanctions have not stopped deals; they have merely assured that the deals that are made are not the best ones they could be for Sudan. Even if sanctions were lifted, she said, there is no guarantee that other companies would come in. The existing relationships are too well established, and likely too corrupt, to brook any interference. Sanctions have helped cover up the bad deals and corruption, she said. -------------- Darfur Delays Debt Relief -------------- ¶12. (SBU) Sudan has USD 34 billion worth of debt, much of it arrears on 1970s development projects and the accumulated interest. The North believed that, after signing the Comprehensive Peace Agreement (CPA),the next step was to do debt relief. In James' KHARTOUM 00001070 003 OF 003 view, the war in Darfur stopped debt relief cold, but the North nonetheless felt that a promise had not been delivered, and blames the international community for "upping the ante." -------------- Wealth Sharing Not Decentralized -------------- ¶13. (SBU) While most of the wealth sharing focus has been on oil and issues linked to the sharing of oil revenues, James believes that issues surrounding the decentralization of wealth sharing are of equal significance to the CPA, and have affected whether citizens actually receive a peace dividend. While the Fiscal and Financial Allocation and Monitoring Committee (FFAMC) does monitor funds transfers to the states, allocation of funds to the states is still handled by the Ministry of Finance and is a very political matter. State governors have to come in to the Ministry from their states to ask for money with which to fund their budgets. As a result, a governor may not know whether he will have sufficient funds with which to pay teachers in the schools, she said. The end result is that responsibilities, for education and the like, have in fact been devolved down to the state, but access to a predictable quantity of funds has not been similarly handed down. As oil revenues have shrunk during the global economic crisis, this problem has become very clear. ¶14. (SBU) A wealth sharing issue that has not gotten much attention is access to Nile River water, James said. Foreign assets held abroad, including museum exhibits, money in foreign accounts and embassy properties, represent comparatively small amounts of money. However, if division of this wealth is not thought through, problems between the parties could arise, James noted. -------------- Enormous Roads Contract Entirely Off-Budget -------------- ¶15. (SBU) According to James, the Government of Southern Sudan has massively overcommitted its income stream. . This prevents the South from allocating funds to the areas that most need attention. Disarmament, Demobilization and Reintegration (DDR) efforts in the South are starved for funding, James claimed. ¶16. (SBU) The problem with GOSS grain contracts (Ref) is well-known, James said, but there are other similar problems with other contracts that have not yet gotten much attention. In June, the GOSS entered into a contract for the construction of roads with Ayot, a Northern Sudanese company. The total value of the contract is 2 billion SPG (approximately USD 800 million),which is paid in monthly installments of 10 million SPG (approximately USD 40 million) per month; the contract will run for six years. More importantly, the contract is entirely off-budget; payments are made out of the South's share of oil revenues before they are remitted to the South. James said the contract has obligated far more than the South can hope to gain from oil revenues. Moreover, it is unclear what the people of Southern Sudan are getting for their money. While the contract may result in roads being built, there has been no planning conducted, and most will represent political commitments. ¶17. (SBU) Comment: James' remarks dovetail with the conclusions of the September 2009 report (Septel) produced by Global Witness on transparency in the oil sector. WHITEHEAD