This record is a partial extract of the original cable. The full text of the original cable is not available.
UNCLAS SECTION 01 OF 02 ISTANBUL 001015
SIPDIS
SENSITIVE
STATE FOR E, EB/IFD AND EUR/SE
TREASURY FOR OASIA - MILLS AND LEICHTER
NSC FOR BRYZA
USDOC FOR 4212/ITA/MAC/OEURA/DDEFALCO
E.O. 12958: N/A
TAGS: ECON EINV EFIN PGOV TU
SUBJECT: MARKET ANALYSTS OPTIMISTIC FOR THE SHORT-TERM, BUT
SEE RISKS RE-EMERGING IN THE FALL
REF: A. ANKARA 4480
B. ANKARA 4551
1. Sensitive but Unclassified. Not for internet
distribution.
2. (SBU) Summary: Istanbul market analysts have welcomed
recent progress in Turkey-IMF relations and indications that
the oft-delayed fifth review can be wrapped up by early to
mid-August. As a result they are "optimistic" for the short
term, seeing no clouds on the immediate horizon and believing
investors can realize 8-9 percent returns over the next two
months in dollar terms on Turkish bonds. Beyond this market
play, however, they warn us that overall sentiment is not
good, and they continue to see significant "implementation
risks" for the fall, particularly as the tougher requirements
of the sixth review come into play. The wild card in the
picture remains the strong Turkish lira, which analysts
continue to have difficulty explaining. Criticism of the
Central Bank is growing, however, with few buying its
argument that its interventions have been aimed solely at
curbing volatility in the market. End Summary.
3. (SBU) Guarded Optimism: Recent soundings with analysts at
Istanbul brokerages and banks show that optimism is
increasing, at least for the immediate future. Bender
analysts Emin Ozturk and Murat Gulkan, who earlier this year
highlighted to us the frequent failure of the summer "carry
trade" (purchasing government bonds to earn high rates, while
counting on the exchange rate to stay fairly stable) to be as
profitable as markets expected, told us this week that, this
year at least, the bet appears to have paid off. Baturalp
Candemir at HC Istanbul shares that view, arguing that with
no major clouds on the horizon following progress registered
during the recent IMF mission, investors should be able to
realize 8-9 percent in dollar terms over the next two months.
In a world where investors are scraping to realize 2 percent
elsewhere annually, the opportunity makes Turkey appear very
attractive, despite its currently overvalued exchange rate.
Ozturk and Gulkan noted that while July and August are
typically "dead" periods at their firm, this year the phone
has been ringing off the hook with inquiries about
opportunities in Turkey.
4. (SBU) Implementation Risk: While progress registered
during the recently concluded IMF mission removed the last
clouds from the short-term horizon of these analysts,
Candemir did express some scepticism about whether the
additional financial measures the IMF and government have
agreed on will prove sufficient to achieve the program's 6.5
percent primary surplus target. The IMF's blessing, he said,
however, would be enough to satisfy the markets. For the
longer term he is less sanguine, seeing significant
implementation risk, particularly if his expectation is met
that these measures will be insufficient. Given the
political difficulties inherent in laying off more employees
at state-owned enterprises, he predicted that the sixth
review would drag on until the end of the year. The real
crunch, most analysts here suggest, will begin in September,
as investors start to worry about next year's debt burden,
and intensify in the second half of October, when
government-IMF discussion of the 2004 budget begins in
earnest. Ozturk and Gulkan note that while the AK government
has "moved up a learning curve," the ingredient that is
currently missing is word about their plans for next year:
Will it seek to scale back the primary surplus, or accept
that it needs to be maintained at a high level? Key to
market stability at that point, Candemir argued, will be
evidence that promised U.S. assistance is on track, and
continued reform implementation.
5. (SBU) Exchange rate dynamics: The key wild card in the
current economic picture is the strong Turkish lira, which
has gone from strength to strength, shrugging off the Central
Bank's July 18 intervention and not losing ground to the
dollar, even as it has strengthened against other currencies.
Observers remain divided on the reasons for the lira's
strength. Some, like Candemir, see "under the mattress"
money reentering the system to benefit from high interest
rates and to participate in various recent economic
amnesties. Others, like former Yapi Kredi Chairman Burhan
Karacam, see other issues at work, attributing the lira's
rise to a timing gap between payments for imports and
exports. Karacam suggests that a large supply of dollars
accumulated in the run-up to the Iraq war, as exporters held
off exchanging their earnings in expectation that the lira
would weaken. When the war ended quickly, those dollars
flooded into the market, driving its rate down. In contrast,
however, while Turkey's current account deficit would suggest
there should be strong demand for dollars, in fact importers
utilize delayed payment terms and invest the money in
short-term government bonds to benefit from high real rates.
Karacam suggests that many of these payments come due in
mid-October, at which point he predicts that there could well
be a "squeeze" in the currency market, and a sudden sharp
drop in the lira. (Karacam noted that he recently made these
points to Central Bank governor Serdengecti, who is looking
into the issue.)
6. (SBU) Differences: Not all agree with this explanation,
however. While most see merit in the first part of the
story, in the flood of dollars that followed the war, they
are less convinced that most importers are deferring their
payments to the fall. (Our random sampling of importers
confirms that such extended payment terms are not by any
means general.) Ozturk and Gulkan suggest a combination of
other factors can explain most recent developments: in
addition to "under the mattress" money, some "hot money" has
flowed into the market (perhaps 1.5 billion usd), while
Turkish financial institutions (acting largely through
subsidiaries, since under BDDK rules limit their ability to
do so themselves) have opened short positions. Candemir
noted that he had expected the lira to continue to appreciate
to 1.35 million during August, due to an essential balance in
currency inflows and outflows. The Central Bank's recent
intervention, however, has changed the market's dynamics.
Far from easing the market's volatility, he suggested, it has
increased it. Ozturk was similarly critical, suggesting that
the bank had "panicked" because of the failure of its recent
interest rate cut to move the currency.
7. (SBU) Bank Credibility: Both Ozturk and Candemir warn that
the key risk from the bank's recent intervention is to its
credibility. While it continues to insist that it is acting
only to prevent market "volatility," many observers have
concluded that its true concern is the currency's value.
With the government enjoying only limited credibility in the
market, Candemir warned that if the bank similarly "loses
credibility," it will leave the country without any credible
voices on economic policy.
8. (SBU) Comment: Though the underlying dynamics of concern
with the long-term plans of the AK government on economic
policy have not changed, clearly recent progress on the 5th
review and Turkey's traditional "summer optimism" have
combined to give the government some much needed breathing
space. That will not last forever, however. As Mehmet
Besimoglu wrote in Radikal on July 21, because it's summer
there is a "tendency to see the glass as being half full; if
necessary measures are not taken before fall attention will
shift to the empty half." Istanbul analysts worry, though,
that such warnings may now have little resonance. Just as
the government has little credibility with them, so they have
little credibility with it, in that their warnings of dire
consequences for the government's policy missteps have not
been realized. End Comment.
ARNETT