VZCZCXRO3500
PP RUEHIK RUEHPOD RUEHPW RUEHYG
DE RUEHBUL #3277/01 3581259
ZNR UUUUU ZZH
P 231259Z DEC 08
FM AMEMBASSY KABUL
TO RUEHC/SECSTATE WASHDC PRIORITY 6523
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC 0708
RUCNAFG/AFGHANISTAN COLLECTIVE
RUEHZG/NATO EU COLLECTIVE
RUEKJCS/OSD WASHINGTON DC
RUEKJCS/JOINT STAFF WASHINGTON DC
RUEKJCS/SECDEF WASHINGTON DC
RUEABND/DEA HQS WASHINGTON DC
RHMFIUU/HQ USCENTCOM MACDILL AFB FL
RHEHAAA/NATIONAL SECURITY COUNCIL WASHINGTON DC
RUEAIIA/CIA WASHINGTON DC
RHEFDIA/DIA WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
UNCLAS SECTION 01 OF 04 KABUL 003277
DEPT FOR SCA/FO, SCA/RA, AND SCA/A
DEPT PASS AID/ANE
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DEPT PASS OPIC FOR ZAHNISER
DEPT PASS TDA FOR STEIN AND GREENIP
USOECD FOR ENERGY ATTACHE
CENTCOM FOR CSTC-A
NSC FOR JWOOD
TREASURY FOR LMCDONALD, ABAUKOL, BDAHL, AND MNUGENT
OSD FOR SHIVERS
COMMERCE FOR DEES, CHOPPIN, AND FONOVICH
SENSITIVE
SIPDIS
E.O. 12958 N/A
TAGS: EFIN ECON EAID IMF PGOV AF
SUBJECT: AFGHANISTAN: IMF MISSION GIVES DOWNBEAT ASSESSMENT
SUMMARY
1. (SBU) An IMF staff mission has conducted the fifth review of
Afghan performance under the Poverty Reduction and Growth Fund
(PRGF) program and found shortcomings. Their overall message was
that GIRoA performance under the program, especially its fiscal
aspects, is slipping and political-level support for it waning.
Staff also raised concern about the health of the Afghan banking
system and welcomed continued US assistance to strengthen
supervisory capacity at the central bank. The team said it will
require the GIRoA to fulfill two prior actions relating to fiscal
performance before it will recommend IMF Board completion of the
review, tentatively planned for February 2009. They expect
implementation of these prior actions will be difficult, so
postponed completion of the review is a possibility. End Summary.
GDP GROWTH SLOWS; INFLATION MODERATES
2. (SBU) IMF staff forecast growth in real GDP for the Afghan fiscal
year ending in March 2009 will be 3.0 to 3.5 percent, down from an
earlier forecast of 7.5 percent and actual growth last year of 11.5
percent. The sharp deceleration was due to a double-digit decline
in agricultural production this year, caused by drought. Growth in
non-agricultural output remains robust, estimated at 12 percent.
Inflation declined from its peak of 40 percent (March 2008 over
March 2007) to 25 percent now, and Fund staff expect the March 2009
price level to be about 20 percent over March 2008. Staff said they
are not concerned about inflation.
POOR FISCAL PERFORMANCE
3. (SBU) IMF staff expressed concern about deteriorating Afghan
fiscal performance, on both the revenue and spending sides, only a
small part of which could be attributed to factors outside Afghan
control. Both problems are due in large part to a lack of
government support outside the Ministry of Finance for revenue
generation and restrained spending. As a result, the GIRoA will
have low cash balances at the end of the fiscal year in March, and
could face arrears on current obligations such as civil service
salaries unless it increases revenues or cuts expenditures. In
fact, it has been raising expenditures without a clear idea where
the money will come from. Fund staff said the GIRoA would face a
deficit in its operating budget including grants for the next two
years.
4. (SBU) Spending. IMF staff said the GIRoA hopes donors will cover
the increase in teachers' salaries, equal to some $43 million. But
the Ministry of Education did not administer to donors' satisfaction
a test of basic literacy and numeracy skills meant to weed out
unqualified teachers, which was a commitment to justify the
donation. Indeed, in a meeting on December 15, Finance Minister
Ahady urged donors to shift funds from development projects (e.g.
building schools and purchasing text books) to cover higher teacher
salaries. Donors were unenthusiastic and complained that the salary
increase was granted even though unqualified teachers have not been
let go.
5. (SBU) Additional spending pressure comes from GIRoA purchases of
imported fuel used to subsidize DABM, the electricity utility, and
$100 million to buy wheat, which the GIRoA is expected to give away.
IMF staff said that there is some evidence the GIRoA recognizes the
need to rationalize spending, but they do not expect the government
to take many tough decisions before the 2009 elections.
6. (SBU) Revenues. At the current pace of revenue collection, the
GIRoA will miss PRGF revenue targets for the third quarter of Solar
Year 1388 (ends December 21) by roughly 15 percent. At the time of
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the fourth PRGF review, the IMF agreed to reduce the revenue/GDP
performance target for this fiscal year from 7.5 percent to 7.0
percent. Now Fund staff say Afghan performance will fall below even
the reduced target, and a revised target remains under negotiation
with the GIRoA.
7. (SBU) Staff were also disappointed that customs revenues declined
in nominal terms in the first seven months of this fiscal year,
compared with the same period last year, even though inflation and
the value of imports were up. (Note: Total revenues increased in
nominal terms but are still well below the program target.) Staff
said corruption in the Fuel and Liquid Gas Enterprise (FLGE), the
government-owned fuel importer under the Ministry of Commerce and
Industries, was responsible for a sharp decline in customs revenues
from the northern border port of Hairatan. They called for a change
in FLGE leadership (see para 14). Since customs revenues make up 40
percent of total GIRoA revenues, the Fund puts special emphasis on
the weak performance there.
8. (SBU) Taxation of airlines, especially private carrier KamAir, is
the other big revenue issue. KamAir alone among private airlines
has refused to pay taxes in recent months. MOF has been unable to
win cooperation from the Transport Ministry to ground KamAir, while
banks have refused to comply with MOF's attempts to garnish KamAir's
bank accounts. Reportedly under lobbying from owner Zamirai Kamgar,
the President has established two committees under his office to
look into airline taxation issues. One committee is determining
whether GIRoA should waive KamAir's back taxes as compensation for
KamAir's losses from the 2007 Hajj operation. The other committee
is studying a proposal to reduce airlines' Business Receipts Tax
from 20 percent to 10 percent. IMF staff argue that both committees
erode the authority of MOF to decide tax policy, and could lead to
reduced revenue just when GIRoA badly needs cash.
CONCERNS ABOUT AFGHAN BANKS
9. (SBU) IMF staff expressed concern about the health of Afghan
commercial banks and see an urgent need to strengthen the central
bank's (DAB) supervisory capability. They cited the collapse last
month of a small bank, Development Bank of Afghanistan (DBA), which
resulted from supervisors not seeing problems in time and giving
owners too many chances to fix them. Now that it has collapsed, DAB
supervisors are absorbed in the clean-up and not paying enough
attention to the health of larger Afghan banks. Any problems at the
larger banks would be harder for DAB to handle and have greater
systemic impact.
10. (SBU) Eighty-five percent of Kabul Bank's assets are loans,
mostly overdrafts without a fixed repayment schedule (it is
currently in the process of converting overdrafts to fixed-term
loans). It would be hard pressed to deal with any panic by its
500,000 depositors. At Azizi Bank, a more comfortable 60 percent of
assets are loans, but the bank's shareholders -- and possibly the
loan portfolio -- are heavily exposed to problems in the Dubai
property market. Both of these banks say they are taking steps to
improve credit assessment and internal auditing, and DAB has
increased regulatory requirements since the DBA collapse. IMF staff
do not see signs that the Afghan banking system faces a funding
crisis, as was reported in the international press recently, but
note that the health of banks is hard to judge because of weakness
in supervisory capacity.
11. (SBU) The IMF Mission met December 15 together with DAB Governor
Fitrat, USAID and Treasury to discuss the state of capacity building
efforts within banking supervision. The IMF and DAB expressed
satisfaction with USAID's plans to continue to provide advisors to
improve the DAB's supervision capacity. A new salary and incentive
KABUL 00003277 003 OF 004
structure is now in place, and should help reduce the high turnover
the department has experienced. Governor Fitrat also outlined steps
that DAB is taking to strengthen banking supervision, including a
reorganization of the department and the hiring of 15 new
college-educated bank examiners, bringing the department's total
staff to 50.
BOTTOM LINE: TOUGH PRIOR ACTIONS REQUIRED
12. (SBU) Fund staff said the patience of IMF Board members was
fraying, as poor Afghan performance postponed the arrival of fiscal
sustainability. For this reason, before recommending completion of
the fifth PRGF review, staff will insist on GIRoA fulfillment of two
prior actions meant to improve government finances in the fiscal
year starting next March. First, the government must apply the
Business Receipts Tax to imports, either by legislative enactment or
Presidential decree. Second, it must implement the MOU between the
Finance and Commerce ministries on access by Customs officials to
FLGE fuel depots, to check quantities and reduce corruption.
13. (SBU) IMF staff said these steps are required to show GIRoA
resolve to improve fiscal performance but will be difficult to
implement. A prior action for the fourth review was signing the MOU
on depot access, but nothing beyond signature has been done. If the
GIRoA does not fulfill these two prior actions, completion of the
fifth review will be postponed. Staff hope that the prior actions
are completed in late January or early February, allowing the fifth
review to come before the IMF Board by late February. Staff said
that in the event of an extended delay the PRGF could be extended
for up to one year. This, in turn, could affect action at
Afghanistan's HIPC completion point, planned for June 2009. Staff
said they did not discuss a possible successor program with the
GIRoA during this review but would plan to during the sixth (and
final) review.
14. (SBU) According to the IMF and Minister Ahady, Minister of
Commerce Farhang has pledged cooperation from his ministry in
implementing the MOU on fuel depots. However, there are reasons to
doubt that progress will be forthcoming. The MOU would presumably
deprive the powerful head of FLGE, Engineer Rozi, from collecting
payments from fuel importers in exchange for his help in avoiding
customs duties. It is unclear whether the Minister of Commerce has
the political weight to constrict the activities of Rozi or remove
him from power. The MOU will focus on FLGE activities at the
Hairaton border crossing with Uzbekistan, the entry point for
roughly 70 percent of fuel imports into Afghanistan. (Late breaking
news: Minister Farhang was impeached by the Parliament on December
20).
COMMENT
15. (SBU) Staff observe weak support from the Palace and other
ministries for MOF efforts to raise revenues and meet IMF fiscal
targets. The ability of GIRoA to keep the IMF program on track will
depend on the support of President Karzai and the rest of the
Cabinet for the reforms pursued by Minister Ahady. In a closed-door
meeting with the IMF attended by Treasury Attache, Minister Ahady
acknowledged "the disconnect" within GIRoA on its reform program and
commitments to the IMF. Referring to his recently submitted
resignation letter, Ahady said he agreed to stay on as Finance
Minister only after receiving a pledge from President Karzai to back
the revenue collection effort and other reforms. Ahady says he
plans to take the IMF commitments to the "president and Cabinet,"
and "tell him to find someone else" for Finance Minister if support
is not forthcoming.
16. As of December 22, Ahady's advisors reported that he is close to
KABUL 00003277 004 OF 004
resigning. In addition to the perceived lack of support for economic
reform and revenue generation, Ahady is frustrated with President
Karzai's refusal to remove the Deputy Minister of Finance,
Wahidullah Shahrani, with whom Ahady has had a running feud during
the last year.
WOOD