Voices from the Region

The Economies of Central Asia in Search of New Models

By CAA Network

On April 6, 2016

The decline of oil prices and the recession in Russia have seriously affected the economies of the countries of Central Asia. According to data from Asian Development Bank, the average growth of the economies of the region of Central Asia and the South Caucasus declined by almost half in 2015  – to 2.9 percent from 5.3 percent in 2014. In 2016, the average growth rate was 2.1 percent, and in 2017, 2.8 percent. Even if oil prices were to rise in 2017, economic growth in the region would be below the mean achieved over the previous 5 years. Significant devaluation of national currencies in 2015 led to growth in inflation – the mean for the region was 10.8 percent. Double-digit inflation can be seen in Kazakhstan, Kyrgyzstan, and Uzbekistan. Foreign trade volume in these countries has significantly decreased; for the region as a whole, exports fell to just over one-third and imports to 20 percent.

Although positive economic growth is still forecast for the region (a tightening of the economy is predicted only for Azerbaijan), many experts characterize the ongoing processes as a serious economic crisis. Experts from the International Monetary Fund (IMF), for example, believe that the region is experiencing its most serious economic difficulties since becoming independent 25 years ago.

Is this truly the case? What are the long-term prospects and what effective economic strategy should be chosen for Central Asia under these circumstances? These and other questions will be discussed today by experts on the economies of the various countries of Central Asia as part of a special roundtable organized by the CAA Network. The moderator of the event is Konstantin Bondarenko (independent economist) and the discussant is Hans Holzhacker (economist, specialist on countries with transitional economies from the Bank of Austria, and scholarly consultant for Narxoz University, Kazakhstan).

EXPERTS:

  • Kassymkhan Kapparov, independent economist and director of the National Bureau of Economic Research (Kazakhstan)
  • Rafael Sattarov, independent political scientist and researcher on systemic reforms in post-Soviet countries (Uzbekistan)
  • Sobir Kurbanov, independent analyst and economist (Tajikistan)
  • Iskender Sharsheev, executive director of the Association for Foreign Investors and chair of the Committee for Support of Foreign Business under the Chamber of Commerce of the Kyrgyz Republic (Kyrgyzstan)

How do you characterize the economic situation in your country? Are there signs that what is happening can be called a crisis?

Kassymkhan Kapparov – In truth, one can say that the economic model in Kazakhstan today is not allowing growth. Consider that since 2000, the average growth of the economy was 7 percent (excluding 2009); today, the economic growth in Kazakhstan is practically zero. According to World Bank data, in 2015 it was 0.9 percent and in 2016 they expect 1.2 percent, although that forecast could be lowered. That is, the economy has practically not grown at all for two years, at a time when the average economic growth of developing countries in 2015–2016 is expected to be over 4 percent.

There are currently signs of crisis in the Kazakh economy: devaluation of the national currency, the fall of real income of the population, and decline of the standard of living. Lower consumption is particularly worrying, since after the crisis of 2007, the growth of consumption was made possible by consumer credit, but measures tightening credit have led to a slowing rate of consumer activity. There is also a slowing of domestic and foreign investment, and reduced government-sector spending. State budget revenues had fallen 40 percent in mid-2015 (before devaluation) in connection with the fall of oil prices, which also tightened the positive balance of foreign trade twice over.

On the whole, I think the crisis in Kazakhstan is structural: the old economic model based on the export of natural resources – oil, metals, uranium, and grain – doesn’t work.  Slowing economic growth in Kazakhstan was evident in the period from 2010 to 2014, when the price of oil was at the level of 100 dollars a barrel. After the price of oil fell to 40 dollars, the crisis began to intensify.

Rafael Sattarov – In the Uzbek economy, there are a number of difficulties. Although, according to data from the World Bank, GDP growth in 2015 was 7 percent, in 2016 the growth rate has dropped below 7 percent and in any case will be below the 8 percent growth of the previous year. Here, of course, we need to consider that statistics may exaggerate these numbers, and some experts allow that the real growth in GDP ranges from 4 to 5 percent.

In fact, the economy can’t not experience difficulties, seeing as the drop in oil prices led to a drop in prices for gas, which Uzbekistan exports, and Russia’s problems immediately affect a country for which Russia is its main trade partner, in addition to being the place where a large number of Uzbek citizens work. According to Federal Migration Service data, the number of foreign citizens from Uzbekistan on Russian territory at the beginning of spring 2016 was approximately 1.7 million, which is down by a fourth from a year or two earlier. The number of migrant citizens of Uzbekistan continues to fall: for two years, the general number at the beginning of spring was down to 590 thousand people. The crisis and the new migration rules had the strongest effect on migration in Uzbekistan. According to data from the Central Bank of Russia, in 2015, the total of all money transferred from individuals in Russia to Uzbekistan was 2.37 billion dollars. In comparison with the pre-crisis peak, there was a decline of almost 60 percent, but that is still somewhat higher than the crisis year of 2009.

The automobile market is stagnating. Even according to official data, the foreign trade volume of Uzbekistan in 2015 decreased by 10 percent as compared with 2014. And although there is now a building boom in the country that provides some work for returning labor migrants, and the government has announced large-scale privatization with the required participation of foreign investors, it is clear that the economy that existed and that exists now, dependent on money transfers and the export of natural gas, cotton, and gold, is ineffective.

Sobir Kurbanov – I think the current crisis in Tajikistan was caused to a lesser degree by external factors and more due to the fact that the previous growth model, which was based on transfers and external factors, turned out to be unsustainable. What’s more, this crisis is not global, but rather regional. Nevertheless, in 2015, Tajikistan still achieved rather significant growth: 6 percent as compared to 6.7 percent in 2014. However, economic growth had become less beneficial to the poor; that is, it encompassed broad layers of the population to a lesser degree. Certain sectors of industry, as well as capital investment, showed growth last year (2015) – 13.5 percent – but the growth of agricultural manufacturing slowed, and services, demand, and consumption have been falling. Official data on poverty show a decline to 31 percent, at the same time that data from various sociological polls show a sharp decline in the purchasing power and income of the population, especially in connection with the decline in money transfers.

External factors that enabled growth in previous years began to lose ground; in particular, money transfers dropped by 33 percent, according to data from the National Bank of Tajikistan, and by 66 percent, according to Russian Central Bank data, largely in light of a sharp drop in the value of the Russian currency as compared to the dollar. Indicators also worsened for foreign trade: imports dropped by 25 percent, exports by 8 percent. Currency and financial markets are experiencing problems: the drop in the value of the somoni was 25 percent, and reserves in the National Bank are low. The banking sector is experiencing problems with liquidity, high dollarization, and growth in the share of default loans. Monetary, tax-budget, and currency policies were made stricter, and regulation of the financial sector was tightened, against a backdrop of defaulted loans up to 35 percent. The labor market has now been complicated by the return of migrant workers, although there are no reliable estimates for the level of unemployment.

On the whole, the external factor and crisis atmosphere are radically different than in 2008–2009. The crisis has a sharply expressed internal and regional character, connected with weakly developed institutions, the lack of economic freedoms, and, as a result, the weakly competitive structure of the domestic economy. Once more I underscore that at the basis of the crisis are internal structural elements, while there is a false sense that the crisis is the consequence of external shock and sanctions against Russia and can therefore pass on its own (that is, it can be waited out, as in 2008–2009). Consequently, there is no understanding of the need for examination of the domestic socio-economic policy and for charting a more radical course of structural and institutional reforms.

Iskender Sharsheev – Until recently in Kyrgyzstan, there was a good economic model based on re-export. The largest markets in Central Asia were there: the Dordoi bazaar, with a turnover of 4.5 billion dollars, and the Karasuu bazaar, with a turnover of 1.5 billion dollars. Resale of automobiles in Kazakhstan did a brisk business. But with the creation of the Customs Union and the closing of borders for Kyrgyzstan, this model began to experience great difficulties. Now it can be said that the re-export model has collapsed: the development of cross-border trade between Kazakhstan and China through the Khorgos zone and the tightening of competition led to a decline of 50 to 80 percent in the turnover of markets in Kyrgyzstan. The fall in the value of the ruble and a 70 percent decline in money transfers have complicated the situation.

The crisis showed the shortcomings of excessive concentration on the markets of Russia and Kazakhstan and not paying enough attention to foreign markets. The cultural space determines the economic model of the Kyrgyz Republic. The bulk of our businesspeople, the majority of our entrepreneurial people, know only Russian as a foreign language. Few know English and only a handful know Chinese, Hindu, Urdu, Pushtu, or Farsi. Thus, the country ignores the huge markets of two billion people that are located nearby. Thus, Kyrgyzstan became dependent on the markets of Kazakhstan and the Russian Federation with their over-reliance on oil, through re-export of goods from the People’s Republic of China (PRC). Therefore, when oil prices fell, so did the income of the population.

Kyrgyzstan turned out not to be ready for the Customs Union or the Eurasian Economic Union (EEU). Politics won out over the economy. After joining the Customs Union, the country began to ignore the rules of the World Trade Organization (WTO). Under the WTO, our tariffs on imports were 3.5–5 percent; since entering the Customs Union they have been raised to 7–12.5 percent. Contraband from the Russian Federation and Kazakhstan has begun to create tough competition for domestic production and exports.

What are the most likely scenarios you see for the economy of your country? What key factors will affect the situation?

Kassymkhan Kapparov – Everything will depend on the price of oil. The scenario of high prices (100 dollars per barrel and higher), though unlikely, will attract the growth of government spending, growth of National Fund reserves, the renewal of the policy of tying the value of the tenge to the dollar, the growth of the volume of economic subsidies, reduction of manufacturing labor, and growth in the share of oil in the general volume of exports. That is, the Dutch Disease is here to stay, and the parasitical tendencies in society will continue to grow as well. The scenario of low prices (around 50 dollars a barrel and higher) includes privatization, reforms, some liberalization, and the reduction of government spending. In this case, the National Fund could run out in 3–5 years, and there will be a series of devaluations, default by corporate borrowers, and an increase in social tensions. There are some hopes connected with China, with the possibility of increasing export there, especially agricultural, but it will hardly replace oil export in volume.

Rafael Sattarov – No big changes in state policy are expected in the near term. The government has already set in motion several projects, like the free trade zone in Navoi and industrial zones in Jizzax and Angren, which are at the crossroads of transportation routes. The government has also set in motion a project to recapitalize large industrial, metallurgical, and transportation companies, with the goal of attracting foreign investors. The result will be transport projects, especially in the Ferghana Valley. By 2020, large energy projects could start working. There will be growth in construction and agriculture. But whether other problems will be solved in connection with the investment climate is unknown. For that, some truly deep upheaval will have to take place.

Another question is regional cooperation. China, by creating various trade centers in the border territories and promoting transport corridors, is profiting from Central Asia at a time when we ourselves could profit from creating this very kind of project between our countries. Unfortunately, it is now popular to dig around in history and argue about small border issues, in this way not giving a chance to the promotion of realistic small and medium-size projects.

Sobir Kurbanov – All scenarios depend on the development of the situation in the neighboring countries of Russia and China. Though there are some predictions according to which growth in Russia will be restored in 2017, there is a risk that the crisis in Russia will drag on for a fairly long time. A continuation of the slump in the Russian Federation will curtail the flow of money transfers. The decline of world prices for commodities like cotton, oil, natural gas, and aluminum will lead to a loss of export earnings. Under a bad scenario, the banking system could go bankrupt, and under a good one, there could be improvement of the environment and development of regional projects, primarily in energy (CASA 1000) and transport.

Much depends on government policy measures. We should not overlook the necessity of economic diversification; the development of the private sector; fighting corruption by curtailing the monopolization of certain businesses, the development of institutions, and conducting reforms of governance; and liberalization of regulation and administration of the private and finance sector. All this could have been achieved in earlier, prosperous years, when external factors for growth were positive. Now, response measures by the government are limited to monetary and fiscal pressure, increasing the tax burden on the private sector, and even repression of the financial and currency market. The risks create a vicious circle: reduction of growth and exports, pressure on the private sector, and declining revenue. Serious reforms are not being undertaken, as hopes are pinned to lines of credit and budget support from the IMF, the World Bank, the Asian Development Bank, and the European Bank of Reconstruction and Development. Under such a course of events, unfortunately, all hopes are on external factors and scenarios.

That said, we can’t forget about the fact that new risks and factors are appearing that need to be reacted to, specifically climate change, drought, extreme natural disasters leading to casualties, increasing instability and radicalization from the southern borders. On the whole, the economic forecast from the IMF and the World Bank says that the country will see 4 percent growth in 2016, but it will be accompanied by a further fall in real and nominal transfers, increase in tension, and serious risks to the liquidity of the banking system from external accounts and growth in the budget deficit.

Iskender Sharsheev – I think it is important how business can adapt to the realities of the Eurasian Economic Union over the long term. There is particular concern over compliance with the technical regulations of the EEU, the World Food Council, and Hazard Analysis and Critical Control Points (HACCP). Our agricultural producers were given two years to move production over to HACCP standards, or else goods would not be allowed to be sold even within the country. HACCP includes EEU technical regulations on goods. So far, business is not ready for these regulations, and if they cannot come into compliance, trade will stop. Of course, the consumer is so far the winner in these conditions, since for him some imported goods have become cheaper, but this will lead to the bankrupting of domestic businesses.

As for possible scenarios, the first prediction concerns participation in the Chinese Silk Road Economic Belt project. China is planning to invest $4.5 billion in transportation infrastructure, with particular interest in the China–Kyrgyzstan–Uzbekistan rail line. This project could raise the transit status of the country and grow trade. Kyrgyzstan has still not made a decision regarding this project, but there is a reason for that. One country wants the $4.5 billion to go to them, not to us. The second prediction is stagnation and collapse. Collapse would mean transfer of the country to the HIPC (Heavily Indebted Poor Countries) initiative and a reduction of social programs. The third prediction: opening of the markets of Iran, Afghanistan, Pakistan, India, and China. We already export meat, nuts and honey to China. We need an outlet to the sea. We need to learn Hindi, Urdu, Pushtu, Farsi, Mandarin, and Han. To learn to export to exporters, that is the challenge for our country.

What ways out of the current situation do you see? That is, which economic strategy, in your opinion, should the government of your country choose to overcome the recession and achieve stable economic growth?

Kassymkhan Kapparov – We need to change the economic model. This means large-scale liberalization of the economic system, privatization of 50 percent to 80 percent of the government and quasi-government sector, a switch to an exchange rate based on a multiple-currency bundle of countries that are the main trade partners (dollar, euro, yuan, ruble), lowering the amount of tax and raising the quality of government administration, reducing the volume of government contracts in the economy, transfer to targeting stable economic development and a balanced non-oil budget. We need to prioritize our objectives and, of course, not forget about improving the quality of education.

Rafael Sattarov – I think that the time is ripe for reforms in the law enforcement sector, and that we need to reduce the interference of strongmen in the economy. We need to strengthen guarantees for investors. We don’t need new laws; the existing legislative base is already sufficient. But we need to strengthen their implementation, to speed up solutions. It is becoming more pressing to create centers for border cooperation and trade with free conversion of currency and no visa requirements for visitation of citizens from other countries to these centers. Border trade with medium and large centers will allow for improvements in mutual trade. Today, the mutual trade for all the countries of Central Asia is 7 billion US dollars. That is a catastrophically low indicator.

Sobir Kurbanov – We need to change the growth model based on consumption and external factors, and transition to an economy based on internal production, a strong and competitive private sector, and an educated work force. I think that we need a combination of evolutionary short-term, mid-term, and long-term reforms. It is important to set the right priorities. Government concerns about liberal policies as a threat to current stability are a barrier to reforms. Meanwhile, the risks of procrastinating are even greater, considering the growing level of social tension in society and the economy. The main reforms should happen in public administration, where it is necessary to seriously cut back and optimize the state apparatus (for example, combining the Ministry of Finance and the Ministry of Economy) and reduce the number of duplicate regulation and control bodies putting pressure on the private sector. The time is also ripe for the reform of local administrations through decentralization. We need an immediate tax reform policy, strengthening the functions of internal control and cutting back the unnecessary functions of administration. Effective tax policy and administration should enable legalization and broadening of possibilities for private businesses, but right now the opposite is happening. In spite of the crisis, tax offices are increasing administrative pressure on businesspeople, which leads to them closing their doors or disappearing into the shadows. It is also necessary to finally improve business regulation and the investment climate, providing protection for property rights. We need to strengthen banking supervision and regulation of the banking system, considering current risks, to provide real protection of investment, and carry out liberalization of the financial sector and regulation.

At a time when the strategy of import substitution is necessary in principle, it is important to understand that holding to such a policy in its pure form is unrealistic in the conditions of globalization and market economics. This is an old Soviet model. It is so much more important to focus on promoting exports through “soft” reforms: liberalization, developing competition, and support for targeted competitive sectors (tourism, agribusiness). Of course, it remains very important to develop human potential through education (higher, secondary, and technical), social protections, and medical insurance.

Iskender Sharsheev – I also think that Kyrgyzstan needs reform of government agencies, a 70 percent reduction in the government apparatus, and an increase in monthly salaries in the government sector at least up to $1000 US. We also need tax reform, lowering the rate to draw businesses out of the shadows. Reform of the pension system, which should become the prerogative of the private sector. We need to privatize the remnants of state property and re-examine the conditions of the Customs Union and the EEU. Reform the judicial system.

We need to turn away from the heavy industry model in favor of a service model, including tourism, organic agriculture, and transit. This is the model that is de facto being implemented today. But the quality of goods and services is insufficient. The industrial model is imposed by the government due to the particular background of the current old bureaucrats and a young crop of socialists. But, being near the PRC, this is a deliberate strategy for bankruptcy. Services, re-export, organics, and information technology will bring in more money with fewer expenditures. In the end, the global market division of labor will put everything in its place. It isn’t worth building another China. I’m impressed with an economic model in the form of a country of programmers, open skies. A programmer on average around the world spends about 4 thousand dollars a year and earns 60 thousand. This is the model of Bombay, Gujarat.

How is the situation in the labor market in your countries, and will unemployment grow worse?

Kassymkhan Kapparov – The share of self-employed in Kazakhstan, which is already rather significant (more than a third of all employed), could increase. Employment is suffering in labor-intensive sectors – construction, trade, agriculture – since it was precisely these sectors that were linked to the economy of oil revenues. In spite of measures taken against official unemployment (shortening the work week and unpaid vacations), unemployment will nevertheless continue to grow.

Rafael Sattarov – The work force in Uzbekistan has good qualifications and many migrant workers are already adapting to the changing situation: they are moving from Russia to the countries of the Persian Gulf, South Korea. Of course, within the country it is necessary to create more jobs, but for that we need investment, and for increased investment, we need reforms.

Sobir Kurbanov – The existing model in Tajikistan will not create jobs directly, but will create them through spillover. The unemployment data are unreliable. The situation, of course, is exacerbated by demographics: more and more young people are entering the job market (about 200–300,000) and many of them represent labor resources with low qualifications. It is difficult to confirm just how many jobs are being created in the economy, or to evaluate their stability.

Iskender Sharsheev – Officially, there are 102,000 unemployed out of a population of 6 million in Kyrgyzstan. But in reality, the number of unemployed is, of course, greater: 500,000 inside the country and 700,000 abroad. As I noted earlier, if every fifth company in the food industry were to close, we could expect growth in unemployment and in the number of self-employed. I see as a positive trend the development of youthful entrepreneurs who are their own employers.

Do you think there is political will among the elite of your country to implement a transition from the old economic model to a new one?

Kassymkhan Kapparov – The existing model is still bringing in good money, but among the elite there is a growing understanding that diversification is essential.

Rafael Sattarov – I think that on the whole there is movement in the direction of reforms, but  preference is given to reforms that are gradual and not radical. There is some tension between young members of the government, who are trying for quicker results, and more conservative members, who are defending the old approach.

Sobir Kurbanov – The interests of the elite are supporting stability and security in the country. The majority support a slow path of reforms, conservative, evolving. Though young technocrats are entering the government, they meet with opposition on reforms. In addition, there simply isn’t the staffing potential needed, considering the often low level of qualification of government workers. It is a difficult process.

Iskender Sharsheev – In Kyrgyzstan, reforms are ongoing and there is a big demand for their continuation and expansion. The war against corruption has begun, though of course it is going slowly, with only 5 percent of it being revealed.

How do you evaluate the prospects for regional cooperation in Central Asia?

Kasymkhan Kapparov – I think that if prerequisites for regional cooperation existed, then it would have happened over the past 25 years. At the moment, I think it unlikely that the countries of the region will truly begin a process of expansion of regional cooperation without the help of one of the world powers – Russia, China, or the USA.

Rafael Sattarov – I, quite the opposite, think that regional cooperation is unavoidable and the time has long been ripe. But it should happen precisely without the interference of a third power.

Sobir Kurbanov – I agree with Rafael and I think that an economy of water–energy partnership is absolutely obvious and mutually beneficial. However, politics is often contradictory and irrational. We need mechanisms for trust and political agreement.

Iskender Sharsheev – Regional cooperation should be achieved through diplomatic channels, and so far that is a potentially dangerous topic and difficult to implement.

DISCUSSION SUMMARY

As the discussion showed, there truly is a crisis in the countries of the region. What’s more, the crisis is not just something connected with the economic cycle, but a systemic crisis, one of imitation economies, of existing models based on the export of natural and labor resources. The experts participating in the discussion on the whole agree that, today as never before, there needs to be an examination of domestic socio-economic policy in the countries of the region and acceptance of a more radical course of structural and institutional reform.

That implies:

Reform of the system of governance,

Large-scale liberalization of the economic system,

Privatization of the majority of government enterprises and lowering of the volume of government contracts in the economy,

Lowering taxes and raising the quality of administration,

Transitioning to a flexible policy of currency exchange, including the use of multiple currency bundles,

Strengthening the openness of trade and investment,

Defense of private property rights.

In other words – the creation of an open and competitive business environment.

This is, a rejection of the stereotypical model of new industrialization, and the construction of a new economic model connected with reorientation to modern services, active re-export of goods, the search for a niche in agricultural production, and also the development of the information technology business.

In order to do this, the countries must:

develop human potential, including the skills of the work force,

and develop financial market infrastructure.

And lastly, an important point in many presentations: regional integration, including activation of border trade and the creation of centers for border cooperation.

 

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