VZCZCXRO5573
PP RUEHDA
DE RUEHAK #3644/01 1720510
ZNR UUUUU ZZH
P 210510Z JUN 06
FM AMEMBASSY ANKARA
TO RUEHC/SECSTATE WASHDC PRIORITY 6727
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
INFO RUEHIT/AMCONSUL ISTANBUL PRIORITY 0832
RUEHDA/AMCONSUL ADANA PRIORITY 0889
RUEHBS/USEU BRUSSELS
RUEHLO/AMEMBASSY LONDON 3027

UNCLAS SECTION 01 OF 03 ANKARA 003644 
 
SIPDIS 
 
TREASURY FOR CPLANTIER, MNUGENT AND KMATHIASEN 
LONDON FOR USED AT EBRD 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: EFIN TU
SUBJECT:  Treasury U/S Adams Visits Istanbul Amid Market Turbulence 
 
REF: ANKARA 3370 and previous 
 
Sensitive But Unclassified.  Please handle accordingly. 
 
¶1. (SBU) Summary: In a day in Istanbul June 13, Treasury Under 
Secretary Timothy Adams met with the Turkish Treasury Under 
 
SIPDIS 
Secretary, a Central Bank Vice-Governor and private sector analysts 
 
SIPDIS 
and bankers.  Despite the sell-off in Turkish markets, neither the 
officials nor the bankers seemed alarmed, though the analysts 
sounded a cautionary note. The Turkish Treasury Under Secretary 
stressed Turkey's much-improved fundamentals and said Turkey had 
nearly completed the prior actions for the reviews under its IMF 
program.  In a television interview, U/S Adams noted that Turkey had 
a strong economic team in place.  End Summary. 
 
 
--------------------------------------------- 
Turkish Officials Concentrate on Fundamentals 
--------------------------------------------- 
 
¶2. (SBU) In his meeting with U/S Adams, Turkish Treasury Under 
Secretary Ibrahim Canakci expressed confidence about Turkey's 
 
SIPDIS 
ability to withstand market turbulence.  Canakci admitted Turkey had 
been hit more than other countries, citing the slowdown in 
disinflation evident in the April and May inflation data.  Canakci 
said he believed, however, that the uptick in inflation was 
temporary and that the authorities had put appropriate policies in 
place. 
 
¶3. (SBU) Canakci praised the Central Bank's higher-than-expected 
rate hike.  While Treasury departments normally don't like higher 
interest rates, he was happy to see the Central Bank showing its 
commitment to price stability.  Treasury has suffered in the past 
from high real interest rates induced by high inflation and 
instability, and therefore welcomed the rate increase.  Canakci even 
claimed the politicians understand that the increase was necessary. 
 
 
¶4. (SBU) Canakci said fiscal policy has also been further tightened, 
with the IMF review adding a new performance criteria: an overall 
ceiling on primary expenditures expressed in nominal lira terms - a 
commitment by the Government to save any overperformance in 
revenues.  Treasury's financing position has been boosted by 
receipts from privatizations and from asset sales by the State 
Deposit Insurance Fund (SDIF), neither of which are being used to 
finance expenditures. 
 
¶5. (SBU) Canakci said the Government has nearly completed the prior 
actions for the third and fourth reviews under the IMF program and 
Canakci expected a board meeting to take place in early July.  One 
key structural reform, the law reducing Corporate Income Tax rates 
from 30% to 20% was passed by parliament on June 14, the day after 
U/S Adams met Canakci. 
 
¶6. (SBU) On June 15, as expected, President Sezer referred the 
social security reform legislation to the Constitutional Court. 
Sezer had vetoed the legislation for political reasons, according to 
Canakci, based on his "different perception" of the role of the 
state.  In the meeting, Canakci said that so long as the Court did 
not issue an injunction against the parametric changes to the 
pension system, the reform would achieve its aims. 
 
¶7. (SBU) Canakci also mentioned upcoming World Bank board decisions 
that would help demonstrate that the authorities are continuing to 
move ahead on structural reforms.  The first is the second tranche 
of the PFPSAL3 loan and the second is a new follow-on facility to 
continue and expand public sector reforms, known as the PPDPL.  Both 
loans cover social security reform, other fiscal reforms and banking 
sector reforms such as state bank privatization. 
 
¶8. (SBU) Canakci described the improvements in the structure of 
state debt in recent years.  FX-linked or -denominated debt had 
totaled 58% of total debt at the end of 2002, but had been reduced 
to 38% at the end of 2005.  Canakci said the recent fall in the 
exchange rate had brought this ratio back up to 40%.  Floating rate 
debt had been reduced from 63% of lira-denominated debt to 50% as of 
June 2, 2006.  Net debt to GDP was 55.8% at the end of 2005.  For 
the broader economy, foreign exchange reserves nearly cover all 
short-term debt, and do cover short-term debt if banks' reserves are 
included. 
 
¶9. (SBU) Growth was now expected to slow in 2006, although the 
Government predicted it would come in at 5.5% whereas market 
analysts average projection is 4.7%.  The combination of slower 
growth and a weaker lira is expected to moderate the Current Account 
 
ANKARA 00003644  002 OF 003 
 
 
Deficit to around 6.5% to 6.7% (between $26 and $27 billion) versus 
the pre-sell-off forecast of 7%.  Canakci said Foreign Direct 
Investment would total somewhere between $13.5 billion and $20 
billion, with the lower end of this range already locked-in from 
previously-agreed transactions. 
 
¶10. (SBU) Canakci cited the banking sector's increased 
capitalization, reaching a capital adequacy ratio of 24%.  Even if 
adjusted for the Basel 2 criteria, he said the ratio was 16 or 17%, 
one of the highest in Europe.  The non-performing loan ratio has 
declined from 20% to 5%. 
 
¶11. (SBU) When U/S Adams asked him what worried him, Canakci cited 
the approaching elections and Turkey's continuing high unemployment 
rate despite job growth.  Canakci asserted that the politicians 
understand that the solution is not to loosen fiscal policy but 
unemployment remains a sensitive issue. 
 
¶12. (SBU) When U/S Adams asked how he could be helpful, Canakci 
asked for U.S. support in gaining access to European Bank for 
Reconstruction and Development Bank lending, by means of a board 
consensus.  He also reiterated his request for U.S. support for 
Turkey's candidacy to host the 2009 Bank/Fund annual meetings. 
 
¶13. (SBU) Later in the day, U/S Adams also met briefly with 
newly-appointed Central Bank Vice-Governor Mehmet Yorukoglu. 
Yorukoglu, having been on the job less than a week, did not have 
much to say about the Central Bank's view.  Earlier, both Koc Bank 
CEO Kemal Kaya and Murat Ucer of Globalsource praised the 
appointment of Yorukoglu, since he is a respected academic from 
Sabanci University.  Yorukoglu has extensive U.S. experience, having 
obtained his doctorate from the University of Rochester, followed by 
teaching stints at the University of Chicago and Wharton.  In the 
meeting, Yorukoglu described Turkey's current problems as a supply 
shock, meaning that the usual trade-off between growth and inflation 
were not relevant. 
 
------------ 
Bankers Calm 
------------ 
 
¶14. (SBU) In a series of private sector meetings, U/S Adams 
encountered no sense of alarm over the previous months' market 
sell-off, despite his visit coinciding with a particularly sharp 
fall in markets which led to a Central Bank intervention. 
 
¶15. (SBU) CEO's of leading Turkish Banks (Is Bank, Koc-Yapi Kredi, 
TEB, and HSBC) expressed  moderately favorable views of Government 
economic policies and the bank regulatory agency while criticizing 
the Government's handling of the Central Bank Governor appointment. 
Though the bankers admitted it was not yet clear how big a hit 
Turkish corporations had taken on the depreciation of the lira, they 
did not seem too concerned about it.  They said it was not clear how 
well corporates had protected themselves through  "natual hedges" 
(i.e. foreign exchange revenues to offset foreign exchange 
borrowings) and non-transparent off-balance sheet hedging.  HSBC CEO 
Piraye Antika implied that corporates had to borrow in foreign 
exchange to some degree: "If they had borrowed 100% in lira, they 
would be bankrupt." 
 
¶16. (SBU) On the recent outflows from Turkish markets, the bankers 
painted a more nuanced picture: as foreign portfolio investors 
pulled out of Turkish assets, local corporates and individuals took 
advantage of the lower exchange rate to buy lira.  At the same time, 
there was a trend from bonds to deposits. 
 
---------------- 
Analysts Worried 
---------------- 
 
17.(SBU) Economic analysts Murat Ucer of Globalsource and Emin 
Ozturk of TEB seemed worried about the medium-term outlook.  With 
global markets likely to be edgy, and the pillars of the Turkish 
"story" looking weaker, they expect more problems ahead.  Ucer 
described the pillars as political stability, liquid global markets, 
and Turkey's macro situation (lumping in IMF, EU, and disinflation). 
Reduced global liquidity is coinciding with problems on the other 
pillars.  Neither analyst had reservations about the Central Bank 
intervention in the foreign exchange market. Ozturk said the 
intervention was warranted in a small open economy dependent on 
capital inflows in an illiquid market, yet locked into inflation 
targeting. 
 
--------------------- 
TUSIAD Criticizes GOT 
 
ANKARA 00003644  003 OF 003 
 
 
--------------------- 
 
¶18. (SBU) U/S Adams also met with TUSIAD Chairman Omer Sabanci, who 
reiterated privately his public dismay over the Government's lack of 
strategic vision on EU accession and its excessive focus on 
religious issues. 
 
------------ 
TV Interview 
------------ 
 
¶19. (SBU) In an interview with the leading financial news TV station 
CNBC, U/S Adams noted that Turkey had a strong economic team in 
place, a comment that was picked up in several Turkish newspapers 
the following day.  Central Bank Vice-Governor Erdem Basci later 
told us that he appreciated U/S Adams' public comments. 
 
Wilson