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C O N F I D E N T I A L SECTION 01 OF 03 SUVA 000222 
 
SIPDIS 
 
SIPDIS 
 
MANILA FOR ADB 
 
E.O. 12958: DECL: 05/22/2016 
TAGS: EFIN EAID TN CH
SUBJECT: TONGA STRUGGLES TO STABILIZE ITS ECONOMY; HOPES 
CHINA WILL OFFER A HELPING HAND 
 
REF: A. SUVA 139 
 
     ¶B. SUVA 156 
     ¶C. SUVA 210 
 
Classified By: AMBASSADOR LARRY M. DINGER.  SECTIONS 1.4 (B) AND (D). 
 
¶1. (C)  Summary:  Tonga's economy continues to feel the 
impact of last year's public servant's strike settlement. 
The FY 2006/7 budget deficit, even after implementation of a 
planned "redundancy package" that will result in 700-1000 
fewer government workers, will be in the T$16-20 million 
range (about USD 8-10 million).  The government hopes to fund 
the redundancy package and deficit through fiscal restraint, 
selling off government assets such as its share in Westpac 
Bank of Tonga, and help from donors.  The Prime Minister, who 
politically sees merit in easing monetary policy and 
softening the austerity program, has asked for a grant from 
China to balance the budget and a soft loan to help 
repurchase Tonga's electricity utility from the Crown Prince. 
 The Chinese Ambassador to Tonga warned that Tonga should not 
be overly optimistic about the availability of funds from 
China.  It remains an open question how potential loans and 
grants from China would affect the ADB economic reform 
program in Tonga, and whether they would be good for Tonga's 
economy in the long run.  "Development Partners" intend to 
meet with the Government of Tonga in June or July.  End 
summary. 
 
Tonga's Plan to Get Its Fiscal House in Order 
--------------------------------------------- 
 
¶2.  (C)  Tonga Finance Minister Siosiua 'Utoikamanu told us 
May 15 that Tonga will be able to meet its wage obligations 
from last year's strike settlement and balance its 2006/7 
budget by reducing the government work force, cutting 
spending and selling off assets.  The key step is 
implementing a redundancy package that will result in the 
voluntary separation of up to 1000 government workers, more 
than one quarter of the work force.  As of May 15, 622 
employees had expressed interest in taking advantage of the 
separation package.  (Note: on May 16, 'Utoikamanu told 
Australian and New Zealand officials that he had informally 
heard the number had increased to the 700-800 range.)  The 
redundancy plan targets service employees such as clerical 
workers and drivers, and discourages applications from 
teachers and other workers in short supply.  'Utoikamanu said 
older civil servants thinking of early retirement and younger 
employees who had decided to emigrate were two of the main 
groups of workers likely to take advantage of the plan. 
 
¶3.  (C)  The redundancy package will be expensive, said 
'Utoikamanu, and some valuable workers will be lost.  (We 
hear several senior and capable civil servants in the 
Ministry of Finance are among those planning to leave.) 
Nevertheless, reducing the size of the civil service is 
imperative for the long-term financial health of the Kingdom. 
 Redundancy packages for 800 workers, he said, will cost 
about T$34 million (USD 17 million).  Some of the costs will 
be financed through an existing Asian Development Bank loan 
facility that Tonga has only partially tapped up until now, 
with most of the remainder coming from the sale of the 
government's 40% stake in Westpac Bank of Tonga.  'Utoikamanu 
said he is reluctant to part with Westpac, easily the 
government's most profitable investment, but has little 
choice.  Discussions with Westpac management about selling 
half of Tonga's stake in the bank are ongoing, he said.  The 
Government plans to offer the remaining half of its shares to 
private Tongan citizens.  After implementing the redundancy 
package, Tonga will have a budget shortfall in 2006/7 of 
T$16-20 million, 11-13% of the budget.  This shortfall will 
be covered by a mix of spending cuts, money remaining from 
the Westpac sale and, Tonga hopes, external assistance. 
 
¶4.  (C)  When the budget is stabilized, 'Utoikamanu hopes to 
reverse some cuts in services.  Road maintenance has been 
badly neglected, he said; police vehicles frequently have no 
fuel.  The government cannot let this situation continue. 
'Utoikamanu reaffirmed his commitment to Tonga's unpopular 
15% consumption tax, which in 2005 replaced a sales tax and a 
hodgepodge of import taxes.  Going back to the import taxes, 
he said, is not an option given Tonga's WTO accession 
commitments.  Moreover, those taxes were subject to numerous 
 
SUVA 00000222  002 OF 003 
 
 
special interest exemptions (read: Royal Family business 
interests) and were easily avoided by those who knew how to 
manipulate the system or who to bribe. 
 
Western Donors Take Wait and See Attitude, 
So PM Turns to China 
------------------------------------------ 
 
¶5.  (C)  'Utoikamanu understands why western donors have not 
rushed in to bail Tonga out of a budget crisis of its own 
making.  Donors, he said, are waiting for greater clarity 
about how political and economic reform in Tonga will play 
out.  This is a reasonable attitude, he said, because 
economic reform won't work if the right political governance 
structures are not in place.  "Unfortunately," he continued, 
"I cannot wait.  I need to move forward on a budget package 
now."  'Utoikamanu noted that PM Sevele asked China for T$12 
million in budget support when he met Premier Wen during the 
China-Pacific Island Countries Economic Development and 
Cooperation Forum in Fiji in April (refs A and B). 
 
¶6.  (C)  Sevele also asked Wen for a T$60 million (US$30 
million) soft loan that Tonga would use to repurchase the 
former national electric utility (now Shoreline) from the 
Crown Prince.  'Utoikamanu insisted the latter is only a 
fall-back option.  Tonga still hopes to find a foreign 
investor who could purchase Shoreline directly from the Crown 
Prince's investment group.  'Utoikamanu acknowledged that the 
government needs to accelerate steps to limit Royal Family 
involvement in the economy, noting Royal involvement in 
aviation, telecommunications, power generation, etc. 
Unfortunately, the government doesn't have the money to buy 
back most assets, and eager investors are few and far between. 
 
¶7.  (C)  China's Ambassador to Tonga, Hu Yeshun, confirmed to 
us that Tonga made the two requests for assistance.  Beijing 
has not yet given Tonga an answer, he said.  Hu warned that 
Tonga should not be overly optimistic.   Up to now, he said, 
all of Beijing's assistance to Tonga has been via RMB-funded 
projects, such as the Tonga high school and renovation of the 
Dateline Hotel.  Hu questioned whether Beijing would be 
willing to approve hard-currency grants or soft loans, 
although it is possible Tonga could tap into the planned RMB 
3 billion loan facility Wen announced during the Fiji 
conference (ref B).  (Note:  A frequently heard rumor in 
Tonga is that a Chinese entity gave the Crown Prince a 
personal US$30 million soft loan a few years ago.  This loan 
was reportedly related to the Shoreline investment.) 
 
A Development Partners Meeting Planned 
for June or July 
--------------------------------------- 
 
¶8.  (C)  At an informal Development Partners Meeting 
regarding Tonga held via video conference May 16, 
representatives from the United States, Australia, New 
Zealand, the EU, Asian Development Bank (ADB), IMF and the 
World Bank agreed that future donor assistance should be 
predicated on the government's acceptance and adoption of the 
strategic development plan drawn up with the help of the ADB, 
as well as progress on political reforms.  Participants 
agreed that Development Partners should meet again soon 
face-to-face to review Tonga's economic and political 
environment and consider next steps.  The meeting is expected 
to take place in Nuku'alofa in late June or July.  An Embassy 
representative will attend. 
 
PM and Finance Minister at Odds Over Economic Policy? 
--------------------------------------------- -------- 
 
¶9.  (C)  Participants in the meeting expressed concern about 
Prime Minister Sevele's purported attempts to influence 
monetary policy set by the Reserve Bank of Tonga (RBT).  IMF 
officials later told us that Sevele put pressure on the Bank 
to lower its statutory reserves level, apparently at the 
request of the commercial banks.  'Utoikamanu reportedly had 
to convince the RBT Governor not to resign over the PM's 
interference.  'Utoikamanu has inquired about getting a loan 
from the ADB to strengthen the RBT, thinking loan 
conditionalities could force politicians to accept the Bank's 
independence.  Donors suggested instead that technical 
assistance from the IMF would be more appropriate. 
 
SUVA 00000222  003 OF 003 
 
 
 
¶10. (C)  As noted Ref C, PM Sevele and FM 'Utoikamanu have 
different approaches to economic policy.  According to New 
Zealand High Commissioner to Tonga Michael McBryde, Sevele is 
far more focused on social issues than the Finance Minister, 
and is therefore reluctant to cut services or implement 
radical reforms which could negatively impact the poor.  Some 
donors suggest Sevele is primarily focused on facilitating 
business, given his own supermarket interests.  McBryde 
insists, however, that Sevele and 'Utoikamanu have learned to 
work together.  Tonga, he said, is moving forward on economic 
reform, though at a pace slower than 'Utoikamanu would have 
liked. 
 
The Public Has Its Say 
---------------------- 
 
¶11.  (C)  The East-West Center's Sitiveni Halapua, Deputy 
Chairman of the National Committee for Political Reform, told 
us economic issues are raised at every community meeting the 
Committee holds.   The most vociferous comments are usually 
directed at the recently-instituted 15% consumption tax. 
Halapua said that while Sevele appears to understand the 
public's concerns about the difficult economy, 'Utoikamanu is 
widely considered detached and tone-deaf to complaints. 
'Utoikamanu needs to do a better job explaining his policies 
to the public, said Halapua.  Halapua believes the government 
will eventually have to lower or otherwise modify the 
consumption tax to assuage public opinion. 
 
Comment - Plenty of Economic Challenges Ahead 
--------------------------------------------- 
 
¶12.  (C)  The Government of Tonga appears to have done a 
reasonably good job maintaining a stable economy since the 
strike settlement.  Despite the higher wages and increased 
budget deficits that resulted from the wage deal, inflation 
has remained under control and the Tonga pa'anga has kept 
most of its strength.  Inflation in March 2006 was 7%, up 
from 5% in February, but down from 12% in February 2005.  The 
pa'anga has depreciated about 3% from pre-strike levels. 
This performance contrasts with repeated warnings from the 
ADB that the wage settlement could spark inflation rates of 
20% or higher. 
 
¶13.  (C)  Tonga is not close to being out of the woods, 
however.  Civil service wages, which increased 46% in the 
2005/2006 budgetary year, will increase a further 42% in 
2006/7 as the second tranche of the wage agreement is 
implemented.  Tight fiscal and monetary policy, along with 
implementation of 'Utoikamanu's reform package, will be 
deeply unpopular but appear to be economic necessities. 
Steps needed to limit the Royal Family's role in the economy 
are unlikely to take place until far-reaching political 
reforms are put into effect. 
 
¶14.  (C)  Tonga's effort to obtain Chinese financial 
assistance has an interesting ADB twist.  We are told China 
is the ADB's biggest borrower.  If China should provide a 
loan or grant to help Tonga climb out of its self-imposed 
fiscal mess, that could, in effect, work to frustrate Western 
donor, including ADB, efforts to press Tonga to implement 
important political and economic development goals. 
Bail-outs from China or other donors might ease Tonga's 
economic pain, but would do little to solve the economic 
problems created by the strike settlement or resolve the 
inherent conflicts caused by pervasive Royal involvement in 
the economy.  Easing the economic pain without meaningful 
restructuring could also reduce the impetus for real 
political reform.  It remains to be seen whether PM Sevele 
will be willing to persevere with the difficult and often 
unpopular actions needed to keep Tonga's economy on a solid 
footing. 
 
 
 
 
 
DINGER