How will the global economic crisis affect the Kyrgyz Republic?Up until recently, the view was widely held that countries such as the Kyrgyz Republic would to a great extent be protected from the effects of the global credit crunch by their lack of integration with international financial markets. In late 2008, however, the global financial and economic crisis, having surfaced in the US property market a year earlier, deepened and spread rapidly across eastern Europe. From September the crisis swept over Russia, the region's largest economy, as investors withdrew, and the Russian Central Bank (RCB) was forced to make massive drawdowns on its reserves to increase liquidity in the banking system and to try to prevent a rout of the rouble. Kazakhstan had been an earlier casualty of the drying up of the international credit markets. Because of their size, the spillover of the world financial crisis into the real economies of the two countries has sharply worsened the short-term outlook for regional economic growth. The question of the likely impact on the Kyrgyz Republic has thus become more pressing, and has already forced an adaptive reformulation of Kyrgyz economic policy. At the same time, the country continues to grapple with the aftermath of a number of severe economic shocks from an earlier phase. By tracing some of the knock-on effects of these developments, the scale and complexity of the problems confronting Kyrgyz economic policymakers becomes apparent.
Impact of the regional economic slowdown
Reduced foreign demand. Between them, Russia and Kazakhstan bought around 40% of Kyrgyz exports in 2007. Most obviously, therefore, the regional economic slowdown will substantially reduce the growth in external demand for Kyrgyz goods, making the domestic economic growth rates achieved during the past couple of years more difficult to sustain. By tightening the limits on revenue growth to the budget, it will also constrain the ability of the government to deal with the multiple consequences of economic deceleration.
Reduced foreign investment. Russia and Kazakhstan are both heavily dependent on oil. Until the recent past, they were both also significant players in the international bond and syndicated loans markets. With these capital flows to the region drying up or declining significantly, and the price of oil plummeting from its mid-year peak, it would be prudent—based on purely commercial rather than geo-strategic grounds—to expect a scaling back of foreign investment. On preliminary figures from the National Statistical Committee (NSC), for 2008 as a whole, fixed capital investment from all sources, at Som29.2bn, was already down by more than 5% on 2007. In turn, a reduction in investment will have a negative impact on economic growth and add to difficulties in covering the widening external imbalance.
A slowdown in remittance inflows. Russia and Kazakhstan have been the main sources of inflows workers' remittances to the Kyrgyz Republic. At US$715m in 2007, according to the World Bank, remittances equalled almost one-fifth of the country’s GDP in that year, and were assessed at approximately the same level in 2008. At the beginning of November the head of the Kyrgyz State Committee for Migration and Employment estimated the figure for 2008 at between US$800m and US$1bn. Curiously, local press reports suggest that there has as yet been no large-scale return home of migrant labour from these destinations, but a slowdown in the growth of remittance inflows, particularly as the economic crisis takes its toll of the Russian and Kazakh property and construction sectors, is certain. This will restrain the expansion of household disposable income, and thus the pace of growth of private consumption. It could also add to unemployment and wage competition if migrants begin to return home in large numbers.
Spillover from the Kazakh banks. Although the Kyrgyz financial system has been protected by its underdevelopment and relative lack of international integration, the impact of the crisis in international credit markets on Kazakh banks—which own about half of the Kyrgyz Republic's commercial banks—has already seen a steep slowdown in the growth of "credit to the economy", which peaked at above 110% year on year in late 2007, according to the IMF, but slowed to annual growth rates of 20-30% a year later. The sharp deceleration in credit growth, in combination with a likely tightening up of lending criteria, will affect businesses that had been planning to expand by using resources from outside the firm, as well as the borrowing of households, thus subduing the expansion of private consumption and domestic investment demand.
Reduced foreign demand. Between them, Russia and Kazakhstan bought around 40% of Kyrgyz exports in 2007. Most obviously, therefore, the regional economic slowdown will substantially reduce the growth in external demand for Kyrgyz goods, making the domestic economic growth rates achieved during the past couple of years more difficult to sustain. By tightening the limits on revenue growth to the budget, it will also constrain the ability of the government to deal with the multiple consequences of economic deceleration.
Reduced foreign investment. Russia and Kazakhstan are both heavily dependent on oil. Until the recent past, they were both also significant players in the international bond and syndicated loans markets. With these capital flows to the region drying up or declining significantly, and the price of oil plummeting from its mid-year peak, it would be prudent—based on purely commercial rather than geo-strategic grounds—to expect a scaling back of foreign investment. On preliminary figures from the National Statistical Committee (NSC), for 2008 as a whole, fixed capital investment from all sources, at Som29.2bn, was already down by more than 5% on 2007. In turn, a reduction in investment will have a negative impact on economic growth and add to difficulties in covering the widening external imbalance.
A slowdown in remittance inflows. Russia and Kazakhstan have been the main sources of inflows workers' remittances to the Kyrgyz Republic. At US$715m in 2007, according to the World Bank, remittances equalled almost one-fifth of the country’s GDP in that year, and were assessed at approximately the same level in 2008. At the beginning of November the head of the Kyrgyz State Committee for Migration and Employment estimated the figure for 2008 at between US$800m and US$1bn. Curiously, local press reports suggest that there has as yet been no large-scale return home of migrant labour from these destinations, but a slowdown in the growth of remittance inflows, particularly as the economic crisis takes its toll of the Russian and Kazakh property and construction sectors, is certain. This will restrain the expansion of household disposable income, and thus the pace of growth of private consumption. It could also add to unemployment and wage competition if migrants begin to return home in large numbers.
Spillover from the Kazakh banks. Although the Kyrgyz financial system has been protected by its underdevelopment and relative lack of international integration, the impact of the crisis in international credit markets on Kazakh banks—which own about half of the Kyrgyz Republic's commercial banks—has already seen a steep slowdown in the growth of "credit to the economy", which peaked at above 110% year on year in late 2007, according to the IMF, but slowed to annual growth rates of 20-30% a year later. The sharp deceleration in credit growth, in combination with a likely tightening up of lending criteria, will affect businesses that had been planning to expand by using resources from outside the firm, as well as the borrowing of households, thus subduing the expansion of private consumption and domestic investment demand.
The effects of other economic shocks
The inflationary surge. In the year from the middle of 2007, a surge in global prices for food and fuel was the main factor behind a rise in inflation, which peaked at 32.5% year on year in July 2008, although it has since tumbled, in line with falling commodity prices, to below 17% in October. According to preliminary figures from the NSC, consumer price inflation crept back up 20% in December 2008, probably under the impact of currency weakening. This compares with a target range originally set for the year of 12-15%. The Kyrgyz Republic’s peak rate was high even for the region. This is mainly because the Kyrgyz economy is heavily reliant on external sources for these items. Thus, as well as boosting inflation, the increased cost of food and fuel significantly raised the country's import bill in 2008, opening up the current account to more than 6% of GDP in 2008. The same development also put additional pressure on budget revenue, as the government tried to replenish its reserves of food and fuel, and to cushion the impact of the prices rises on the population.
A shortfall hydroelectric power. In 2008 a shortfall in domestic production of hydroelectric power because of low water levels in the Toktogul Reservoir constituted a second major economic shock. This necessitated further fuel and electricity purchases from within the Central Asian region (November 2008, Economic policy), at an additional cost of US$60m, on IMF estimates (the then minister of energy, Mr Balkibekov, put the figure at US$88m), widening the trade gap further, taking international reserves uncomfortably close to the "safe" level of three months of import cover, and adding again to unplanned government spending. The power shortages already appear to have had a direct impact on industrial production, which, excluding production from the booming Kumtor gold mine, contracted in real terms by just over 2% in 2008, according to NSC figures, compared with growth of over 10% in 2007. Over the same period, electricity output shrank by more than 20%.
The inflationary surge. In the year from the middle of 2007, a surge in global prices for food and fuel was the main factor behind a rise in inflation, which peaked at 32.5% year on year in July 2008, although it has since tumbled, in line with falling commodity prices, to below 17% in October. According to preliminary figures from the NSC, consumer price inflation crept back up 20% in December 2008, probably under the impact of currency weakening. This compares with a target range originally set for the year of 12-15%. The Kyrgyz Republic’s peak rate was high even for the region. This is mainly because the Kyrgyz economy is heavily reliant on external sources for these items. Thus, as well as boosting inflation, the increased cost of food and fuel significantly raised the country's import bill in 2008, opening up the current account to more than 6% of GDP in 2008. The same development also put additional pressure on budget revenue, as the government tried to replenish its reserves of food and fuel, and to cushion the impact of the prices rises on the population.
A shortfall hydroelectric power. In 2008 a shortfall in domestic production of hydroelectric power because of low water levels in the Toktogul Reservoir constituted a second major economic shock. This necessitated further fuel and electricity purchases from within the Central Asian region (November 2008, Economic policy), at an additional cost of US$60m, on IMF estimates (the then minister of energy, Mr Balkibekov, put the figure at US$88m), widening the trade gap further, taking international reserves uncomfortably close to the "safe" level of three months of import cover, and adding again to unplanned government spending. The power shortages already appear to have had a direct impact on industrial production, which, excluding production from the booming Kumtor gold mine, contracted in real terms by just over 2% in 2008, according to NSC figures, compared with growth of over 10% in 2007. Over the same period, electricity output shrank by more than 20%.
Inflationary outlook. Although falling commodity prices and a slowdown in the economy has eased upward pressure on the price level from these sources, in 2009 other factors will work in the opposite direction. Thus, the new year saw another steep rise in the price of gas imports from Uzbekistan, to US$240 per 1,000 cu metres in 2009, from US$145 per 1,000 cu metres in 2008. Other factors likely to boost inflation include the raising of utility tariffs as part of the programme of energy sector reform, and the impact of imported prices through the sharp nominal depreciation of the som.
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