This record is a partial extract of the original cable. The full text of the original cable is not available.
161608Z Mar 04
UNCLAS SECTION 01 OF 04 ANKARA 001578
SIPDIS
SENSITIVE
STATE FOR E, EB/IFD, AND EUR/SE
TREASURY FOR OASIA - JLEICHTER AND MMILLS
NSC FOR MBRYZA AND TMCKIBBEN
E.O. 12958: N/A
TAGS: EFIN ECON PGOV TU
SUBJECT: MIXED SIGNALS--OR WORSE--ON STATE BANK
PRIVATIZATION
REF: A. ANKARA 1319
B. ANKARA 1437
C. ANKARA 851
1. (Sbu) Summary: According to World Bank and IMF officials,
GOT officials up through Economy Minister Babacan have agreed
on a strategy to privatize the state-owned Banks. The
government will withdraw some state bank capital and
gradually shrink the deposit base and government securities
portfolio, facilitating Halk Bank's privatization by June
2005 and Ziraat Bank's by December 2005. However,
state-owned bank executives have yet to show any signs of
preparing to shrink their banks to prepare for privatization,
and have taken actions to expand both deposits and loans.
The IMF has incorporated the first steps towards downsizing
the state banks in its Seventh Review. End Summary.
World Bank Team Engages on a New Strategy:
-----------------------------------------
2. (U) A World Bank team has been in Turkey over the past few
weeks, working with a GOT interagency committee to analyze
how to revive the stalled program of state bank
privatization. In the wake of the 2000-2001 crisis, the GOT
had to recapitalize the state banks at a cost of 16 percent
of GDP. Turkey's post-crisis program with the IFI's called
for a shrinkage of the state banks to prepare for their
privatization. Over the past year or so, the process has
completely stalled. The GOT recently agreed to re-open a
dialogue with the World Bank on state bank privatization, as
part of its recent re-engagement on a broader array of issues
(ref C).
3. (Sbu) In a March 10 meeting with econoffs, World Bank
Financial Economist Rodrigo Chavez called the state banks the
"Achilles Heel" of the economy that stand in the way of the
Structural Adjustment Program. He said that the World Bank
had come to accept that its initial strategy for privatizing
the state banks would not work. Ziraat and Halk Bank hold
about thirty percent of government securities, and with their
huge balance sheets are unlikely to be marketable in their
current form. Moreover, the idea of merging Ziraat and
Halk--which do not appear to have complementarities--would
probably make it even harder to sell these banks. According
to Chavez, the World Bank therefore "took a step backward"
and is working on a new action plan or road map.
A New "Road Map":
---------------
4. (Sbu) The new plan would entail privatizing Halk by June
2005 and Ziraat by December 2005. To reach the point at
which these banks could be ready for privatization, a number
of actions would be taken to shrink the banks' balance
sheets. First and foremost, the state banks would reduce
their deposit base by offering lower interest rates and
ending their aggressive bidding for deposits. With a
recently-adopted law limiting the state's insurance guarantee
on all bank deposits over TL 50 billion (about $38,000) in
July, the state Banks should offer rates that are lower than
their private sector counterparts on a risk-adjusted basis.
Chavez agreed with econoff that there was a danger depositors
would assign a lower risk to the state-owned banks' implied
government backing--hence the need for a risk-adjusted
interest rate. In a March 16 meeting, IMF Deputy Resrep
Christoph Klingen said the Fund had secured a commitment from
the GOT--as part of the Seventh Review--not to allow state
banks to offer either deposit interest rates as high as
private banks or loan rates lower than private banks' rates.
5. (Sbu) As they run down their deposit base on the liability
side, Ziraat and Halk would be able to reduce their outsized
government securities portfolio on the asset side by not
rolling over securities as they come due. The government
securities portfolios would be further reduced as repayment
to the Treasury via a withdrawal of a portion of the capital
it contributed in 2001 to save the banks. Chavez said the
write-down would be for 6 Quadrillion TL ($4.6 billion) at
Ziraat and 2 Quadrillion ($1.5 billion) at Halk. Klingen
later told econoffs that the GOT had committed to a $3
billion write-down of Ziraat's capital and would write down
Halk Bank's capital by $1 billion if the Halk-Pamuk merger
was not structured in such a way that Halk "eats" Pamuk's
negative net worth. Note: It's not clear why Klingen and
Chavez were citing different numbers. End Note. Klingen also
pointed out that the overcapitalization of the two banks
creates room for expansionary activities that run counter to
the shrink-to-privatize strategy.
6. (Sbu) Chavez said that the State Banks have been taking
substantial interest rate risk, through asset-liability
maturity mismatches. With a strong trend of declining
interest rates, the banks have borrowed short-term and bought
one-to-two year government paper. Though this has frequently
meant a negative short-term carry, the banks have made
profits from the capital gain at the time of sale. Chavez
said that Ziraat Bank's $556 million 2003 profits might have
been a small loss were it not for these bets on interest
rates. If interest rates come back up, Ziraat and Halk will
be badly hurt.
7. (Sbu) The road map would also call for the state banks to
sharply reduce their lending activities during the transition
period, and there would be a detailed analysis of the branch
network. Chavez said that, surprisingly, many of the
small-town and rural branches of Ziraat and Halk are highly
profitable. Since the state banks have little competition in
these remote locations, the branches tend to do well from
sight deposits and fee income. By contrast, Ziraat's urban
branches tend to lose money.
8. (Sbu) Chavez confirmed that the GOT and BRSA/SDIF had made
a firm decision to integratemerge SDIF-intervened Pamuk Bank
with Halk Bank. Instead of having to recapitalize Pamuk
Bank, which has a negative net worth, the SDIF would give
Pamuk to Halk. Halk would take the useful assets of Pamuk
Bank and dispose of the residual, as the SDIF would have had
to do anyway. In this way Halk would in effect pay for the
Pamuk recapitalization, which it can afford because of its
large capital base. The synergies would also help Halk
prepare for privatization. Note: Though, on its face, this
might appear to work against the strategy, in that the merger
would expand Halk Bank's balance sheet, a variety of
contacts--Chavez, the IMF's Odd Per Brekk, BRSA V.P. Ercan
Turkan, and former BRSA Chairman Engin Akcakoca--have all
told econoffs that the deal makes sense because of the
synergies between the two banks. According to these
contacts, Pamuk Bank's better quality staff and systems would
improve Halk Bank. End Note.
IFI-GOT Negotiations:
--------------------
9. (Sbu) According to Chavez and the IMF's Klingen, Economy
Minister Babacan and the interagency GOT committee insist
they are committed to privatization. Given past missteps,
such as the failure of the Vakif Bank privatization (see
below), and the interrelationship between state bank
privatization and the Treasury's domestic borrowing program,
these GOT officials say they want to be very careful to avoid
mistakes in the process of privatizing the state banks.
10. (Sbu) Chavez explained that the component of the strategy
that most worries their GOT counterparts is the impact on
Treasury's borrowing program. Though the write-down of
capital (via return of government securities to Treasury)
would reduce Treasury's debt, the shrinkage beyond the
capital reduction would oblige Treasury to replace state
bank-held government securities with securities held by the
private sector investors (mainly banks) at shorter
maturities. Chavez said the World Bank believes that the
market could absorb this additional supply of government
securities under current conditions: there is strong demand
for government paper and the market will gain extra liquidity
from the drawdown of Ziraat and Halk time deposits. Chavez
asserted that the markets would view government paper as a
close substitute for these deposits.
11. (Sbu) According to Chavez, the GOT officials want to
bring in a third party as a kind of insurance policy that the
World Bank knows what it is doing. The Bank is willing to
accommodate the GOT by agreeing to bring in an investment
bank, provided the terms-of-reference are carefully
structured and the investment bank has responsibility to see
the privatization through to conclusion. Chavez is preparing
a World Bank response for his management's approval along
these lines. He is hoping the World Bank and GOT will reach
agremeent on the terms of reference this spring and conduct a
tender to select the investment bank. Given the GOT's track
record on privatization and SDIF asset sales, econoff warned
of the dangers of the investment bank setting a valuation
that would kill the privatization. Chavez and Arslan agreed
and claimed the key will be how the terms of reference are
structured.
12. (Sbu) Perhaps because of the disconnect between GOT
actions and words (see below), the IMF has included the first
steps towards state bank privatization in its Seventh Review
requirements. In a meeting March 16, IMF Deputy Resident
Represent Christoph Klingen told econoffs that the GOT had
reached agreement with Fund staff on a draft Letter of Intent
which included commitment to progress on state bank
privatization. In the Letter of Intent itself, Klingen said
there is a structural benchmark that the GOT will come up
with a State bank privatization strategy , the key elements
of which will be publicly announced by mid-June. The Fund is
also requiring completion of the Halk-Pamuk merger.
Disconnect with State Bank Managers:
-----------------------------------
13. (Sbu) Meanwhile, the statements and actions of state bank
executives, suggest that either they have not yet been reined
in by Babacan and the interagency committee or are openly
defying the World Bank strategy. In a February 24 meeting
with Econoffs, State Bank Board Chairman Zeki Sayin was
careful to accept that Halk and Ziraat would eventually be
privatized but was otherwise completely out of sync with the
shrinkage strategy. By referring to the state banks
competing with private banks for deposits and loans, he
implied a strategy of growth rather than shrinkage. He
emphasizing the banks' "autonomy" from the Government, and
claimed the Government was not interfering in the Banks'
"restructuring." Sayin said the banks are run by
"professionals" whose prerogative includes decisions on
interest rates, but claimed these rates were not below the
banks' cost of funds. According to Sayin, though the banks
were not increasing the number of employees or branches,
management was trying to run the banks effectively and
profitably so the banks would not be a burden on the state.
14. (Sbu) The CEO's of Halk and Ziraat have also made public
statements that seem contrary to the IFI strategy. These
managers have announced low-interest loan programs for
farmers and small businesses in recent months, and talk about
their vision for the banks for the year. One private
Istanbul analyst reports that a government official told him
the GOT strategy for 2004 was for the State Banks to grow
their loan portfolios, because the government fears that the
State Banks would become unprofitable in this year's
lower-interest rate environment. BRSA V.P. Turkan told
econoffs Ziraat was offering 1.9 percent monthly interest on
consumer loans, undercutting the private banks' 2 percent
rate.
15. (Sbu) In a series of meetings in Istanbul March 3,
several private sector observers told Econcouns that the
State Banks have reversed course, and seemed to be trying to
grow rather than shrink. They saw the State Banks competing
on deposits as well as loans, and attributed at least part of
the motivation to Government populism. Baturalp Candemir of
HC Istanbul feared the aggressive lending would lead to
non-performing loans and said that BRSA Chairman Bilgin had
told him that Halk bank had to grow becaus of its important
role in the economy. Huseyin Kelezoglu, also of HC Istanbul,
said State Bank growth would: a) discourage foreign
investment in the banking sector; b) increase State Bank
vulnerability to political pressure; and c) hinder the
development of the private banks. Former State Bank Board
Chairman Vural Akisik also agreed the state banks had
reversed strategy. He had heard that Vakif Bank leadership
was now saying the bank could not be privatized. Akisik also
said the GOT was pressuring the Bankers Association to
reverse an Akisik-era reform, which was to shift chairmanship
of the Association from Ziraat to one of the private bank
executives.
16. (Sbu) In subsequent meetings with Istanbul Econoff the
week of March 8, a number of Turkish bankers echoed
Kelezoglu's concerns and reported additional evidence of
Government support for the expansion of State Banks. Huseyin
Imece, Executive Vice President at Yapi Kredi, noted that he
has heard that state agencies have been directed to shift
their deposits from private banks to either Ziraat or Vakif
Bank by August. In Yapi's direct experience, Imece said one
unnamed state agency recently cancelled its five-year
contract with the bank to make the shift. This shift will
provide interest-free demand deposits to the State Banks.
Imece and others, including Koc Bank CEO Kemal Kaya, noted
that the roll-back of the deposit guarantee to cover only
accounts up to 50 billion TL will enhance state banks'
competitive advantage, given the perception of continued
state backing. (While 99 percent of Turkish accounts will be
covered under the new policy, in volume terms well over half
of Turkish accounts will reportedly not be covered.) In sum,
Istanbul's privately-owned banks see the state bank policy
shift as an added and unwelcome challenge just as they adjust
to a more difficult, low-interest rate environment without
easy profits from government securities.
17. (Sbu) In the meeting with Chavez, econoff raised the
problematic behavior of the state bank managers. Arslan
pointed out that this was typical behavior for the managers
of State-owned enterprises on the verge of privatization and
Arslan attached greater importance to what the World Bank's
counterpart technocrats were saying. These executives have a
conflict of interest, in that they will lose their jobs from
the privatization. While admitting the state bank
executives' actions was counterproductive, Chavez said his
understanding is that Babacan and the Prime Minister will
make the decision on state bank privatization.
The Strange Case of Vakif Bank:
------------------------------
18. (Sbu) Chavez saw far greater challenges in moving forward
on the privatization of Vakif Bank. An earlier privatization
decision on Vakif was overturned by the Constitutional Court,
bringing the process to a halt. Chavez said the World Bank
team had come to the conclusion that for now, at least, Vakif
was not privatizable. He said there were market reasons
relating to the structure of the balance sheet but there was
also a lack of clarity in the ownership structure. Though it
is by law a private bank, owned by a grouping of foundations
and by its employee pension fund, Vakif is de facto
controlled by the state. Chavez said the key question is how
to reduce state control, and believes it could be done
through dilution of the existing owners' share in the
capital. Chavez said that Vakif CEO Kacar agreed in
principle to some dilution, but wanted to keep the
foundations' and pension fund's combined share at least at 55
percent. This is unacceptable for the World Bank since it
will render any share sale unattractive. According to
Chavez, it is not clear whether Kacar really speaks for the
GOT on this issue and the World Bank wants Treasury to seek
GOT views. Chavez also noted that a Vakif privatization
would require the approval of a broader array of actors than
for Ziraat and Halk: In addition to Babacan, Deputy Prime
Minister Sahin (also Labor Minister) would have to sign,
representing the owners. The SDIF would also have to
approve, under the conditions of a subordinated loan SDIF
granted Vakif. Finally, the pension fund would have a say
since it has a 25 percent blocking minority.
19. (Sbu) Klingen said the IMF Letter of Intent is also
committing to the completion of due diligence on Vakif Bank
by June 30, to be followed by a decision on how to dilute
Vakif's capital.
Comment:
-------
20. (Sbu) Comment: Though the World Bank's strategy seems
reasonable, and the renewed GOT engagement an improvement
from the previous stalemate, the disconnect between state
bank management actions and the World Bank's dialogue is
troubling. Part of the problem may be that, until now, the
state bank managers simply had not received the word yet, and
will soon be reined in by their ministerial overlords. It is
also possible, however, that the state bank managers have
some ministerial support for their actions, i.e. that Babacan
has not yet built broader support for the privatization. End
Comment.
EDELMAN