* Oil shutdown strangles currency inflow, sends prices soaring
* Ruling ex-rebels call for belt-tightening patriotism
* Alarmed donors, China press for oil deal with Sudan
* Hardship will not be equal in world's newest state
By Pascal Fletcher
JUBA, May 28 (Reuters) - South Sudan's citizens who paid in blood for their independence in a long liberation war are being told freedom carries its own price - in hardship.
An oil shutdown from January by the former bush rebels who now run the world's newest nation has strangled the flow of dollars into an economy that produces almost nothing else, and sent the South Sudanese pound tumbling against the greenback.
This has hiked the costs of everything from fuel to cooking oil, rice, charcoal and bananas. It is forcing the government to cut education and health spending in a state whose development indicators were already near the foot of world rankings.
"We don't know what will happen. We only know everything will be very hard. We are going to suffer," said Hamza Salim, 22, at a charcoal stand in Juba's Konyo-Konyo market. Citizens say prices have tripled since the start of the year.
When it became the world's newest nation in July 2011, South Sudan inherited three-quarters of the previously unified Sudan's oil output. Oil is the lifeblood of north and south.
The abrupt oil shutdown - made by the ruling Sudan People's Liberation Movement (SPLM) in the heat of a dispute with northern neighbour Sudan over oil export transit fees and border demarcation - closed off 98 percent of South Sudan's revenues, jolted both economies and stunned foreign donors.
It was followed in April by border fighting. The African Union and United Nations scrambled to halt a slide into all-out war.
The oil shutdown is defiantly presented by SPLM leaders as a new phase of their nationalist struggle to wrest complete independence, including economic freedom, from former 'coloniser' Khartoum.
"Today, we, the world's youngest nation, are able to prove we are capable of defending our independence," said SPLM Secretary-General Pagan Amum, who is also South Sudan's chief negotiator with Khartoum. The new government still spends more on defense than on education and health put together.
But with experts warning of state collapse, the message being delivered behind closed doors to South Sudan's leaders by Western donors is that the heroic narrative of survival without oil is a fairy tale and that they must parley with Sudan.
"It's pie in the sky ... Everybody is telling them 'Do the deal' (with Sudan). Plan B? There isn't one. State shutdown," said one foreign development expert, who asked not to be named.
Under pressure too from China, the main oil investor in both states, Sudan and South Sudan have agreed to resume negotiations on Tuesday to try to settle their differences.
With prospects of a lasting accord still very uncertain, President Salva Kiir is asking South Sudanese to tighten their belts and grow food to replace imports as his government looks to leverage subsoil oil reserves to obtain bridging loans.
The SPLM is counting on targeted spending cuts and foreign loans and aid to keep South Sudan on its feet until planned alternatives pipelines can be built in 2-3 years to carry the crude to Kenya or Ethiopia, instead of through Sudan.
Officials call it "economic war". The price for ordinary South Sudanese can be gauged in long lines of vehicles and bikes outside petrol stations seeking scarce fuel and shoppers in markets complaining of rocketing prices for food and essentials.
A bag of charcoal, the basic cooking fuel, has gone from 50 South Sudanese Pounds (SSP) to 75 in a month. A bucket of onions now costs 200 SSP, up from 80 two months ago.
Since the oil shutdown, the pound has slipped to around 5 SSP to the dollar from 3.55, squeezing businesses, supermarket and restaurant owners and even small traders who have to import everything in dollars, trucked in from Uganda and Kenya.
"All the costs are higher. To convert back to dollars, you lose," said Ali Hodroj, a Lebanese businessman who owns the Phenicia supermarket, one of Juba's largest.
"This is war. It's no less war than being bombed from the air," said Professor John Akec, Vice-Chancellor of Northern Bahr El Ghazal University, recalling Sudan's air bombings of the south which were a feature of the civil war and have persisted.
But the prospect of months, even years, of austerity has triggered a fierce debate inside and outside South Sudan between those who say the "baby" nation can survive the financial famine, and others who say it cannot or should not have to.
"Just as people are sitting back and expecting a peace dividend from independence, we are demanding more from them," said South Sudan's Undersecretary for Culture Jok Madut Jok.
He faults the national government for communicating the oil shutdown decision poorly and failing to prepare for it.
"Will we really be able to run our economy for three years without this oil?," asked one anxious caller to the "Wake Up Juba" Radio Show broadcast by private Radio Bakhita.
"WE CAN MAKE IT"
Some government officials blithely assure reporters that as two-thirds of the population are peasants and cattle-herders, isolated from the urban cash economy, who can survive on little, they will hardly feel the austerity crunch, if at all.
"South Sudan will be able to negotiate and finance the 'gap' that we will have," Amum says, referring to the gaping revenues hole. He says the country has enough foreign exchange reserves to last more than a year and is confident of obtaining loans from friendly states and investors.
"They're buying a month at a time," the foreign development expert said bluntly.
On the surface at least, patriotism is still running high.
"It's OK, we can make it," said student David Kasubi after hearing President Kiir's appeal for more belt-tightening. But the 27-year-old student admits he is struggling to find a job.
"We are proud of our independence. Even though we have hunger we can bear it, because this is our home now," he said.
Not everybody is so sanguine.
Professor Akec compares the Juba-Khartoum standoff to the 1962 Cuban Missile Crisis between the United States and Soviet Union. He says that now as then each side is waiting for the other to blink first, with potentially disastrous consequences.
He advocates a mutually reasonable deal. "Insecurity as we have it right now is not attractive for investors to come to South Sudan ... capital is cowardly", Akec said.
Government officials take a different line, citing "huge" interest from investors to build new pipelines and refineries to end the south's dependence on the facilities of the north.
But analysts say that with some studies viewing the Sudans' oil production as already peaked, there are serious questions about the commercial feasibility of an alternative pipeline.
Fueling the debate is a leaked March 1 memo citing a top World Bank official warning South Sudan faces a catastrophic collapse in GDP, reserves running out by July, runaway inflation and increased poverty as a direct result of the oil shutdown.
The World Bank has sought to distance itself officially from the leaked memo, which infuriated South Sudan's government.
"The situation is not as desperate as painted by the World Bank," Information Minister Barnaba Marial Benjamin said.
But other donors see justified reasons for alarm.
"There are no winners from the oil crisis ... no effort should be spared in attempting to arrive at a negotiated settlement," says a March report on South Sudan's education sector by former UK Prime Minister Gordon Brown.
Seen by Reuters, it says South Sudan's parents and children are still waiting for the "peace dividend" from independence.
U.N. agencies are preparing to feed 2.7 million South Sudanese as they expect the economic crunch to squeeze tens of thousands of households and push many out of the food market.
"Our top priority during the period of austerity is to help keep the people alive," U.N. humanitarian coordinator for South Sudan Lise Grande said in Juba.
There are questions too about just how evenly the sacrifices will be shared. Austerity is being proclaimed by foreign-educated state officials who enjoy generous state salaries and vehicles and form a small, powerful elite in a mostly poor, uneducated and rural population of 8.6 million.
Inequalities are shockingly visible in Juba. Luxury SUVs, mostly Toyota Land Cruisers but also some Hummers, cluster like fat flies around government offices, foreign-owned restaurants and walled private residences, which exist alongside mud and thatch hovels, open drains, and many unpaved dirt streets.
Juba resembles a permanent building site and the sense is of a nation literally under construction by the hour.
"This is tougher than fighting," acknowledges the government's Deputy Information Minister Atem Yaak Atem. (Additional reporting by Hereward Holland; editing by Janet McBride)