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DE RUEHTG #1053/01 2891834
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O 161834Z OCT 09
FM AMEMBASSY TEGUCIGALPA
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UNCLAS TEGUCIGALPA 001053 
 
SENSITIVE 
 
SIPDIS 
STATE PASS TO USTR 
 
E.O. 12958: N/A 
TAGS: EFIN ECON ETRD PGOV PREL PHUM HO
SUBJECT: TFHO1: PRIORITY ECONOMIC TASKS FOR UNITY 
GOVERNMENT OF HONDURAS 
 
REF: TEGUCIGALPA 903 
 
¶1. (SBU)  Summary:  If the negotiations now underway between 
representatives of President Manuel "Mel" Zelaya and the 
Micheletti regime lead to a political settlement, a new unity 
cabinet will be appointed to lead the government through the 
November elections until a new administration takes over 
January 27.  The unity government will have pressing economic 
and financial issues to address.  These issues include 
reordering public finance, closing the budget gap, restarting 
stalled projects and improving tax collection and helping to 
improve the investment climate.  Successful implementation on 
these fronts is essential in order to facilitate a smooth 
transition from the unity government to the new government to 
be elected in November and taking power on January 27, 2010. 
Assuming the new government achieves international 
recognition, the international community needs to be prepared 
to provide resources (technical assistance and funding) to 
assist it.  End Summary. 
 
¶2.  (SBU)  With representatives of the Zelaya government and 
the Micheletti regime engaged in face-to-face discussions, a 
negotiated settlement may be close at hand.  If a political 
agreement is announced, international donors will have to 
move quickly in developing a technical assistance program to 
address the daunting economic and financial challenges the 
unity government will face.  Following is a discussion of 
these challenges and what we and other donors can do to help 
address them. 
 
Public Finance 
-------------- 
 
¶3.  (SBU)  A first step would be announcing the intention to 
recognize all sovereign debts incurred under both the Zelaya 
government and the de facto regime.  This will calm markets 
and allow the unity government to continue issuing bonds to 
finance the budget deficit and to contract with multilateral 
and bilateral lenders. 
 
¶4.  (SBU)  Public finance was restructured under the de facto 
regime, which should give the unity government breathing 
space to develop a transitional financing plan (ref A).  The 
Zelaya administration borrowed with no clear purpose (e.g. 
through Venezuelan President Hugo Chavez's PetroCaribe and 
ALBA initiatives).  Its domestic debt issuance lacked a 
coherent rationale, serving both to fund government and to 
control interest rates; this caused a great deal of confusion 
among investors.  The de facto regime restructured a short 
term loan from the Central Bank (about USD 200 million) to 
ten years, issued three-year bonds to the banking system 
after Central Bank changed its rate of required investments 
(see Monetary Policy below), and was rolling over maturing 
debt (approximately USD 200 million).  The unity government 
would need to continue these efforts and also look to 
restructuring maturities falling due early in 2010 (about USD 
150 million) to relieve pressure on the newly elected 
incoming government. 
 
Finance Budget Gap 
------------------ 
 
¶5.  (SBU)  Although the Zelaya government projected a fiscal 
deficit of 2.4% of GDP, the de facto regime increased this 
forecast to 4.2%, primarily due to a drastic decline in tax 
revenue resulting from the international financial crisis and 
domestic political unrest (pre and post coup).  However, this 
increased budget gap projection may still be too low, since 
it relies on two optimistic assumptions: 1) that the 
international community will continue to provide project 
funding and budget support at previous levels, and 2) that 
the protracted political crisis will not unduly harm business 
activity.  The unity financial team will need to address the 
possibility that the budget gap will be larger than forecast 
and to develop mechanisms to address this possibility.  The 
team will also need to work with the international community 
 
to restart stalled projects and to make sure that budget 
support funds are available. 
 
Monetary Policy 
--------------- 
 
¶6.  (SBU)  The monetary policy of the Zelaya administration 
was to inject liquidity into the banking system and force 
down interest rates in the hope that this would spur economic 
growth despite the international financial crisis.  The 
policy, however, upset the banks and did not lead to an 
increase in lending.  (Comment: Systemic deleveraging is a 
worldwide phenomenon and not specific to Honduras.  End 
comment.)  The de facto regime changed the focus of monetary 
policy to providing stability to the banking system by 
allowing interest rates to rise and sopping up some of the 
idle excess liquidity by increasing the amount of investments 
that can be used as reserves at the Central Bank; this has 
eased some of the concerns of the banks.  The unity financial 
team could continue this policy in order to give the next 
administration a stable financial system that will be able to 
support the policy decisions of the new government. 
 
Exchange Rate Policy 
-------------------- 
 
¶7.  (SBU)  Neither the Zelaya administration nor the 
Micheletti regime has been inclined to modify the fixed 
exchange rate policy started in 2005 during the Maduro 
administration.  This policy has outlived its usefulness and 
the unity financial team should be encouraged to take steps 
to liberalize the exchange rate as a means to spur export 
activity.  This will have little impact on prices, as 
deflationary conditions prevail worldwide.  It will also 
eliminate one of the main stumbling blocks to reaching an 
agreement with the International Monetary Fund (IMF), which 
has maintained that the Lempira is overvalued. 
 
2009 Budget 
----------- 
 
¶8.  (SBU)  After the Zelaya government failed to pass a 2009 
budget, the de facto regime passed a budget in July.  Given 
the short amount of time remaining in the fiscal year (less 
than three months), it would not make sense for the unity 
government to prepare a new 2009 budget.  Since the diversion 
of funds was a hallmark of the Zelaya administration, the 
unity government should name a budgetary oversight committee 
encompassing representatives of Zelaya supporters, de facto 
regime supporters, the political parties and possibly others. 
 The work of this committee could be supported by technical 
assistance from the international community. 
 
Tax Collection 
-------------- 
 
¶9.  (SBU)  There will not be sufficient time for an increase 
in tax rates or levying of new taxes to generate funds during 
the mandate of the unity government.  Furthermore, a tax 
increase could delay the possibility of an economic recovery 
in the short term.  The focus of tax administration should be 
on enforcement of existing regulations and increasing tax 
compliance.  The U.S. Treasury through its Office of 
Technical Assistance can help the unity government in 
achieving improved tax compliance by restarting a number of 
projects that have been stalled during the political crisis. 
 
Unity Financial Team 
-------------------- 
 
¶10.  (SBU)  The reappointment of either President Zelaya's or 
Micheletti's financial teams to a unity government would 
create problems.  Minister of Finance Rebeca Santos and 
Central Bank President Edwin Araque were ineffective in 
mitigating the profligacy of the Zelaya administration. 
Their replacements by the de facto regime (Gabriela Nunez and 
 
Sandra de Midence, respectively) have done a credible job in 
strictly macroeconomic terms, but Nunez in particular has 
played a high-profile political role, and the two may be too 
controversial to fit into a unity government.  Nevertheless, 
there remain a number of experienced technocrats that should 
be able to fill these posts. 
 
Emergency Response Team 
----------------------- 
 
¶11.  (SBU)  The urgency of the problems facing the unity 
government will require the ability of the international 
community to respond quickly to the needs of the unity 
government.  The international community should name an 
Emergency Response Team (made up of IMF, World Bank, U.S. 
Treasury, other diplomatic representatives, and others) that 
not only have technical expertise in government finance but 
also the ability to obtain resources from their governments 
and institutions. 
 
Transition to the Next Administration 
------------------------------------- 
 
¶12.  (SBU)  The goal of these recommendations would be to 
provide the newly-elected legitimate government a solid base 
of public finance, a stable financial system, and the 
financial and technical resources necessary to implement its 
policies beginning at the end of January 2010.  One of the 
Emergency Response Team's first steps should be to work with 
the unity government and the transition team of the next 
administration toward putting together an emergency stand-by 
arrangement and working toward reaching a new Poverty 
Reduction and Growth Facility (PRGF) agreement with the IMF. 
These lines of credit will reduce the exposure of the 
Honduran economy to exogenous variables such as environmental 
disasters, a double-dip recession in the U.S., etc.  The 
Emergency Response Team can also work with the unity 
government and the transition team to develop a revised 
2010-2014 budget and an indebtedness policy and debt strategy 
document for 2010-2014 which will give confidence to the 
international community and to investors regarding the future 
of Honduran finances. 
 
Comment 
------- 
 
¶13.  (SBU)  The recommendations contained in this cable are 
based on the presumption of a successful conclusion of the 
current negotiations between the representatives of the 
Zelaya government and the de facto regime and the 
installation of a unity cabinet composed of members of the 
Zelaya government, de facto officials, and others.  There is 
a further presumption that the unity cabinet would take 
office well in advance of the installation of the newly 
elected government on January 27th.  If the process of 
arriving at an internationally recognized government is 
different from these assumptions, the timing of some of the 
recommended actions may change, and the recommendations may 
apply to the new government rather than a unity government. 
Still, the challenges and recommended solutions will not 
change significantly, and the need for urgent action will 
remain.  End comment. 
LLORENS