BI-WEEKLY REPORT ON ECONOMIC ISSUES, FEBRUARY 17, 2010

UNCLAS SECTION 01 OF 04 ISLAMABAD 000437



SENSITIVE

SIPDIS



REF: ISLAMABAD 410



E.O. 12958: N/A

TAGS: ECON, ETRD, EFIN, EAGR, EINV, ENRG, PREL, PK

SUBJ: BI-WEEKLY REPORT ON ECONOMIC ISSUES, FEBRUARY 17, 2010



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TOP STORIES

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1. (SBU) Government releases $42 million to cash-strapped Pakistan

State Oil (PSO). On February 15, Business Recorder reported that

the government had disbursed the funds in order to support the

company, which is "on the verge of collapse" because of extensive

debt. According to the article, PSO management was unhappy with

what they considered a "meager sum" as they were expecting to

receive over $141 million from the Ministry of Finance. PSO

representatives fear they will be unable to continue servicing the

power sector without an immediate injection of additional funds into

the company. Pakistan State Oil currently owes over $1 billion to

local oil refineries.

(Comment: This is not first, and almost certainly not the last

time, that PSO has had to press the Ministry of Finance to release

funds. Until the circular debt issue is fully resolved and the

energy sector reformed, PSO will continue to have to scrounge to

meet its payment obligations as it waits on payments from Pakistan's

power companies. End Comment.)



2. (SBU) IMF sets a 5.1 percent budget deficit target for fiscal

year 2009-10. On February 17, The News reported that the IMF agreed

to increase Pakistan's budget deficit target from 4.9 percent to 5.1

percent. As part of this initiative both parties agreed that the

GOP would neither increase nor implement any new taxes. In

addition, the IMF decreased the tax revenue target from $16.42

billion to $16.2. The IMF is expected to release Pakistan's 5th

tranche of funds totaling $1.21 billion some time next month.

(Comment: Contacts at the IMF confirmed this change in the budget

deficit target. Even with the more liberal budget deficit target,

the GOP will have a hard time meeting the IMF requirement, primarily

due to increased military spending and debt servicing. End

Comment.)



3. (SBU) Inflation increases to 13.6 percent. On February 11 The

News reported that inflation had increased by 3.16 percent compared

to December 2009. According to the director of the Top Lines

Securities (TLS) brokerage firm, this rise in inflation is

attributed to recent hikes in power tariffs, and increases in

commodity prices. (Comment: The State Bank Pakistan had already

predicted that the GOP would miss the IMF's 9 percent inflation

target. End Comment.)



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4. (SBU) Limited rainfall in Sindh likely to spoil wheat crop. On

February 7, Business Day reported that Sindh's lower agricultural

belt, which includes Sanghar, Hyderabad, Mirpurkhas and Nawabshah,

is facing a serious dry spell. Water levels in Sindh are at the

lowest point of the last decade. According to officials at the

Water and Power Development Authority (WAPDA),the flow of water

from the canals is 20 percent less than the average for this season.

(Comment: While water flows from the canals remain relatively low

nationwide, recent rains have helped to dampen concerns regarding

the prospects of the 2010 wheat crop. End Comment.)



5. (SBU) GOP proposes capital gains tax (CGT). Business Recorder

reported on February 13 that the government had invited stakeholders

to provide their input on the imposition of a capital gains tax

(CGT). Representatives from the Karachi Stock Exchange (KSE)

suggested that the GOP implement the tax gradually, starting with a

5 percent CGT this fiscal year with an incremental increase to 10

percent by fiscal year 2014-2015. KSE also said that the CGT should

only be applicable to short-term capital gains on holdings of less

than six months. (Comment: The KSE is proposing an incremental

increase in the CGT to ensure that portfolio investment inflows and

investment activities are not disrupted. End Comment.)



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STOCK EXCHANGE

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6. (SBU) The Karachi Stock Exchange (KSE)-100 Index ended the week

of February 12 at 9,813.08, up 0.44 percent over the previous week's

close. Overall market capitalization increased slightly from $33.09

billion to $33.25 billion. The week initially opened on a tentative

note as the bomb blast in Karachi the previous Friday kept investors

hesitant. Foreign portfolio investment, which has been relatively

muted for the last few weeks, gathered some steam towards the end of

the week with a net foreign portfolio investment inflow of $3.62

million. (Comment: Contacts at KSE and local brokerage houses said

the past week saw a roller coaster ride in the KSE index, which is

highly susceptible to both economic and political developments in

the country. According to these contacts, the inflation rate, which

was released last week, dampened investors' mood as it was higher

than expected. End Comment.)



7. (SBU) Lahore Stock Exchange (LSE). The LSE continues to hover



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just over the 3,000 mark. The index climbed 2.1 percent in the

first half of February, recovering from a modest decline in late

January. Market capitalization was up a strong 2.83 percent.



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POWER & WATER

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8. (SBU) Shell Petroleum decides to remove itself from the Pakistani

LPG business after 44 years of operation. On February 12, The News

reported that Shell made the decision as a result of the 73.8

percent decline in Shell Gas Pakistan's profits from October through

December 2009 compared to the same period in 2008. Shell Petroleum

Company Limited is currently seeking potential investors to purchase

67.91 percent of its LPG shareholdings in Pakistan. Comment: In

recent months at least two major energy sector companies have

expressed interest in divesting from Pakistan; AES and Shell. End

Comment.)



9. (SBU) The Government of NWFP building six small dams in Nowshera.

On February 14 Business Recorder reported that the total project

cost will be $18 million. The dams would be used to irrigate 14,633

acres of agricultural land and 4 percent of the water will be used

to supply drinking water for local residents. Construction on the

dams is wrapping up and all six are projected to become operational

by June 2010.



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TRANSPORTATION & SHIPPING

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10. (SBU) Advance scanner system installed at city's port. On

February 10, Daily Times reported that the GOP had recently

installed the Rapiscan Eagle Gantry scanner system at Karachi Port.

This scanner will enable port authorities to detect smuggled

weaponry and drugs, and is capable of rapid, automated scanning of

containers, cargoes and vehicles.



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AGRICULTURE

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11. (SBU) Government decides to monitor sugar mills' production. On

February 13 Business Recorder reported that the Ministry of



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Industries has instructed the provincial governments to depute

officials to all local sugar mills to monitor their daily

production. Representatives from the Pakistan Sugar Mills

Association (PSMA) were in an uproar over the decision and have

deemed the measure as "an anti-business move." The GOP's decision

is attributed to the ongoing shortage of sugar on the local markets

and the government's desire to ensure that millers are reporting

their production numbers accurately. In early January, the GOP had

given the green light to the private sector to import sugar duty

free. In spite of these tax breaks, the private sector has imported

no sugar to date. According to a February 17 article in Business

Recorder, private sector representatives have no incentive to import

sugar into the country because of the price disparity between the

prevailing local price of sugar and the costs of importing sugar.

(Comment: The GOP is hoping that this latest initiative will help

discourage the hoarding and the smuggling of sugar into neighboring

countries; however, all of these problems result from the GOP's

policy of maintaining sugar prices artificially low compared to

international market prices. The GOP will continue to face similar

issues until it decides to finally let market forces set the price

of local commodities. End Comment.)



12. (SBU) The establishment of industrial zones in Bostan,

Balochistan, may damage agricultural tube wells. On February 3,

Daily Jang Quetta reported that local populations from Bostan met

with the acting speaker Balochistan Assembly and the Senior

Provincial Minister regarding concerns over the proposed

establishment of an industrial zone in Bostan. They argued that

Bostan is an agricultural area, and the establishment of an

industrial zone in the area will damage the water table. (Comment:

Contacts in Bostan said that the declining underground water level,

the main source of water in the area, is the key concern of people.

They added that agriculture in the area had suffered in recent years

given that a large number of tube wells had gone dry while the

remaining tube wells have to go deeper every year. The

establishment of industries in the area will require a large amount

of water, which would compete with the scarce water available for

agricultural purposes. End Comment.)



PATTERSON