VZCZCXRO8930
RR RUEHDA
DE RUEHAK #3717/01 1741445
ZNR UUUUU ZZH
R 231445Z JUN 06
FM AMEMBASSY ANKARA
TO RUEHC/SECSTATE WASHDC 6820
INFO RUEATRS/DEPT OF TREASURY WASHDC
RUCPDOC/USDOC WASHDC
RUEHIT/AMCONSUL ISTANBUL 0855
RUEHDA/AMCONSUL ADANA 0903

UNCLAS SECTION 01 OF 02 ANKARA 003717 
 
SIPDIS 
 
TREASURY FOR INTERNATIONAL AFFAIRS - MNUGENT 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: EFIN BEXP TU
 
SUBJECT: Turkish Government Pulls Back Controversial Investor Tax 
 
Ref:  A) Istanbul 392;  B) 2005 Ankara  4494 
 
¶1. (SBU) Summary: In a bid to calm bearish financial markets, the 
Finance and Economy Ministers announced June 21 that the Government 
was eliminating the controversial 15% withholding tax on foreign 
investors' earnings from bonds and equities, while reducing the rate 
on domestic investors from 15% to 10%.   The withholding tax was 
cited as one of the factors causing the global sell-off to hit 
Turkey harder than other Emerging Markets.  Although market analysts 
praised the move, the Turkish press criticized the differentiation 
between foreign and domestic investors. The measure failed to stop a 
resumption in the lira's slide, leading to a Central Bank 
intervention June 23.  The Government's u-turn is also a success for 
USG advocacy:  the Ambassador had advocated on behalf of U.S. 
companies whose offices in Turkey were losing business due to the 
tax.  End Summary. 
 
--------------------------------------------- --------- 
Finance and Economy Ministers Announce Surprise Pullback on 
Withholding Tax... 
--------------------------------------------- --------- 
 
¶2. (U) On the morning of June 22, in a joint press conference, 
Finance Minister Unakitan and Economy Minister Babacan announced 
that the Government is submitting legislation to parliament to 
eliminate the withholding tax levied on foreign investors' earnings 
from equities and bonds.  The 15% tax will remain for deposits and 
repurchase agreements (repos).  For domestic investors, withholding 
on equities and bonds will be retained, but the rate will be reduced 
from 15% to 10%.  Unakitan vowed to pass the legislation before the 
summer recess (due to start July 1) and the legislation passed 
Parliament's Budget and Planning Commission on the day of the 
announcement. 
 
-------------------------------------------- 
.. in an attempt to Reassure Falling Markets 
-------------------------------------------- 
 
¶3. (SBU) Though Unakitan attempted to spin the move as conforming to 
EU taxation norms, the Government was clearly concerned about 
sliding markets.  The withholding tax had long been controversial 
with foreign investors and financial houses, which began complaining 
to the Embassy a year ago, as the GOT prepared for the January 1, 
2006 implementation of the withholding tax law.  The law was 
intended as a reform, equalizing taxation across all types of 
financial instruments while it also, in theory, equalized treatment 
between foreign and domestic investors.  In practice, many market 
contacts argued it was discriminatory to foreigners, who are not 
subjected to these kinds of withholding taxes in other Emerging 
Markets, and would have to institute cumbersome tracking and tax 
filing procedures, whereas domestic investors were already filing 
Turkish tax returns.  In what the GOT hoped was a compromise that 
would mollify foreign investors, the GOT watered down the original 
measure by exempting derivatives when it implemented the tax at the 
beginning of 2006. 
 
¶4. (SBU) Although the markets seemed to shrug off the introduction 
of the new tax in January, when Emerging Markets sold off in 
mid-May, analysts cited the tax as one of the reasons Turkish 
markets fell more than other markets.  The GOT seems to have been 
spooked on June 21, when the exchange rate fell even though global 
markets were up.   The IMF Deputy Resrep confirmed the Fund had been 
consulted on the move, but only at the last minute.  The Fund is 
studying the revenue impact from the elimination of the tax but 
doubts it will be significant, particularly in 2006.  Adding to the 
sense of GOT focus on markets was Babacan's presentation which 
recapped the GOT's accomplishments, reminding investors that 
approval of the third and fourth reviews under the IMF program was 
imminent.  In a sign of the urgency the Government has assigned to 
rescinding the tax, the legislation has already cleared Parliament's 
Budget and Planning Commission, and the head of the Tax 
Administration announced that the implementing regulations will be 
prepared such that the changes will be effective from the date they 
are announced in the Official Gazette - a lightning speed 
implementation compared to other measures. 
 
------------------ 
Sell-off Continues 
------------------ 
 
¶5. (SBU) Although markets briefly turned upwards following the 
announcement, they soon resumed their descent, particularly the 
beleaguered foreign exchange market.  Having fallen from 1.6166 per 
dollar to 1.6493 on June 21, the lira ended the day June 22 at 
1.6687  and continued falling at the opening June 23 to 1.7036 at 
mid-day.  The continuing descent of the lira on June 23 brought the 
 
ANKARA 00003717  002 OF 002 
 
 
Central Bank back into the market with its second intervention since 
Turkish markets started falling six weeks ago.   Although the 
reasons the for the severity of the sell-off in foreign exchange 
markets remain somewhat mysterious, analysts believe the bearishness 
reflects some combination of increased anxiety about domestic 
politics, inflation worries, lack of confidence in the new Central 
Bank team, concerns about the EU process, and, of course, a global 
flight to quality.   There are also new fears that some market 
operators are speculating against the lira. 
 
------------------------------------------ 
Praise from Analysts, Criticism from Press 
------------------------------------------ 
 
¶6. (SBU) Market analysts generally praised the GOT move as a 
positive market surprise that, over time is likely to render Turkish 
equities and bonds more attractive to foreign inestors.  In 
particular, it may help Turkish Teasury to resume issuing some of 
the longe-dated lira-denominated bonds, thereby helping to lengthen 
the average maturity of treasury det.  Though some analysts noted 
the measure was unlikely to be powerful enough to turn around market 
sentiment, it was still a market-friendly move.  The head of Raymond 
James/Istanbul told us the elimination of the withholding tax is 
also likely to bring back brokerage business that had moved to 
London.  It is also likely to help the American Depositary Receipt 
business which was threatened with extinction by the withholding 
tax. 
 
¶7. (SBU) The Turkish press, on the other hand, tended to be negative 
in its coverage, focusing on the differential treatment between 
foreign and domestic investors.  The mainstream daily Sabah was 
particularly harsh, comparing the decision to the reviled 
Ottoman-era "capitulations" to western interests.  The differential 
treatment has raised concerns that President Sezer, or the courts, 
could strike down the law.  As one analyst noted, however, in that 
case the GOT would simply eliminate the tax altogether, keeping the 
regime investor-friendly. 
 
-------------------------- 
A Success for USG Advocacy 
-------------------------- 
 
¶8. (SBU) The USG played a role in encouraging the GOT's decision. 
While we did not support a specific action or solution, we have been 
consistently advocating on behalf of American business interests 
that were negatively affected by the advent of the withholding tax. 
The Ambassador raised the issue with the Minister of Finance in 
April, and followed up with a letter June 16 passing on a 
presentation that the U.S.-based brokerage Raymond James had made to 
Turkish Ambassador to the U.S. Nabi Sensoy.  The letter noted 
Raymond James' arguments that the tax drove brokerage business 
offshore, hurting companies that had made direct investments in 
Turkey, and drove away needed portfolio investment.   Raymond James' 
U.S.-based executive responsible for the company's Turkish business, 
thanked the Embassy for our role. 
 
Wilson