VZCZCXRO0432
RR RUEHLMC
DE RUEHMU #1381/01 3182133
ZNY CCCCC ZZH
R 132133Z NOV 08
FM AMEMBASSY MANAGUA
TO RUEHC/SECSTATE WASHDC 3376
INFO RUEHZA/WHA CENTRAL AMERICAN COLLECTIVE
RUMIAAA/CDR USSOUTHCOM MIAMI FL
RHEFDIA/DIA WASHINGTON DC
RUEAIIA/CIA WASHDC
RUEHLMC/MILLENNIUM CHALLENGE CORP WASHDC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RHEHNSC/NSC WASHINGTON DC

C O N F I D E N T I A L SECTION 01 OF 02 MANAGUA 001381 
 
SIPDIS 
 
STATE FOR WHA/CEN, WHA/EPSC AND EEB 
TREASURY FOR SARA SENICH 
USDOC FOR 4332/ITA/MAC/WH/MSIEGELMAN 
 
E.O. 12958: DECL: 11/12/2028 
TAGS: ECON EFIN ELAB ETRD NU PGOV PREL
SUBJECT: NICARAGUA: INFLATION: A GATHERING STORM 
 
REF: A. (A) MANAGUA 1213 
     ¶B. (B) MANAGUA 1157 
 
Classified By: Amb. Robert J. Callahan for Reasons 1.4 b & d. 
 
¶1. (C) Summary.  The rate of inflation in Nicaragua is the 
highest in Central America and the second-highest in Latin 
America.  High petroleum and food prices, and off-budget cash 
inflows from Venezuela appear to be the main causes.  The 
steep rise in food prices disproportionately affects the 
poorest in Nicaraguan society.  President Daniel Ortega has 
raised the minimum wage three times since assuming the 
presidency, rendering the country,s apparel sector less 
competitive in global markets (Ref A) and likely contributing 
to inflationary pressures.  One problem from a monetary 
policy point of view is that the country,s crawling peg 
exchange rate has not kept pace with inflation, resulting in 
a stronger cordoba.  An abrupt devaluation of the cordoba in 
the future would result in higher prices for imports, 
especially for food.  End Summary. 
 
PRICES CONTINUE TO CLIMB 
------------------------ 
 
¶2.  (C) According to the Central Bank of Nicaragua, 
accumulated annual inflation for 2008 is forecast to be 18%. 
 The rate of inflation in 2007 was 17%, which means that by 
the end of this calendar year Nicaraguans will have 
experienced an approximately 35% increase in prices over the 
last two years. While August registered the lowest monthly 
inflation rate in two years as a result of the sudden 
worldwide decrease in petroleum prices, other inflationary 
pressures persist. Nicaragua,s rate of inflation is 
second-highest in Latin America after Venezuela. 
 
¶3.   (U) Prices of items in the basic market basket of goods 
have risen by more than 25% so far in 2008.  The dramatic 
increase in food prices (especially for rice, beans, and 
corn) disproportionately affects the poor:  20% of the 
country,s poorest households spend as much as 80% of their 
income on food, making them vulnerable to high prices for 
staples.  Transportation prices also have risen as a result 
of the international price of petroleum, although there has 
been some relief recently.  The steep rise in food and 
transportation prices motivated President Ortega to increase 
minimum wages for laborers in key sectors such as 
manufacturing, not coincidentally an important political base 
for the Sandinista National Liberation Front (FSLN).  Since 
taking office in January 2007, Ortega has increased minimum 
wages by 60%; the last time was an 18% hike on October 1 (Ref 
A).  While helping to mitigate the effects of inflation on 
the working class, these wage increases may be contributing 
to an inflationary spiral. 
 
¶4.  (U) To partially offset internal and external 
inflationary pressures, the Central Bank has pursued a strong 
cordoba policy, maintaining a controlled 5% per year 
devaluation against the dollar through a crawling peg 
mechanism--even as the differential between the Nicaraguan 
and U.S. inflation rate would support a devaluation more than 
twice this rate.  The strong cordoba policy has reduced the 
cordoba cost of importing beans and rice, as well as fuel. 
 
VENEZUELAN CASH, A HIDDEN INFLATIONARY CATALYST 
--------------------------------------------- -- 
 
¶5.  (C) Substantial Venezuelan assistance, most of which is 
off-budget, may be contributing to inflation, but no one 
knows how much.  In September 2008, the Central Bank of 
Nicaragua (BCN) published a report detailing in rudimentary 
terms Venezuelan assistance to Nicaragua in 2007 (Ref B). 
According to the report, Venezuela provided $185 million in 
official assistance to Nicaragua in 2007.  In May 2008, 
however, President Ortega declared that official Venezuelan 
assistance totaled $520 million, nearly three times the 2007 
figure stated in the BCN report.  Either amount of Venezuelan 
cash moving through a small economy such as Nicaragua,s 
(2007 GDP $5.7 billion) would likely contribute to inflation. 
 
EXPORTERS AND CURRENCY EXPOSED 
------------------------------ 

¶6.  (U) One problem, from a monetary policy point of view, is 
that the dollar exchange rate for the cordoba has not kept 
pace with inflation.  Despite an inflation differential with 
the United States of around 15% for two years running, the 
Central Bank has continued to depreciate the cordoba at an 
annual rate of 5%.  The cordoba,s relative strength 
vis-a-vis the dollar is hurting local businesses which export 
to the United States.  To counter pressures to devalue 
faster, the Central Bank had to increase its reserves, but at 
some cost to the economy.  While this strategy has allowed 
the country to import food and fuel at less expensive prices, 
inflationary pressures on the overvalued cordoba are 
mounting.  Remittances from the United States partially 
mitigate this pressure, but are expected to decrease in the 
near future as a consequence of the global financial crisis. 
As of November 6 the exchange rate was officially 19.70 
cordobas per dollar. 
 
COMMENT 
------- 
 
¶7.  (C) The GON cannot afford to ignore the creeping effects 
of inflation.  The apparel sector (which supports 75,000 
jobs) is suffering from the latest round of wage hikes and a 
declining U.S. market.  For the first time, garment companies 
in Nicaragua have started relocating to more competitive 
labor markets in East Asia.  Moreover, an abrupt adjustment 
of the crawling peg exchange rate would result in a sudden 
price increase for imported goods such as rice, fuel and 
certain foodstuffs that many Nicaraguans rely on to meet 
their basic needs.  Thus, the FSLN ignores inflation trends 
at its own peril. 
CALLAHAN