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p. 43 of 69 BACK | NEXT Foreword, Acknowledgments, Acronyms and Abbreviations, Definitions I. Developing Asia and the World II. Economic Trends and Prospects in Developing Asia East Asia Southeast Asia South Asia Central Asia Azerbaijan Kazakhstan Kyrgyz Republic Tajikistan Turkmenistan Uzbekistan The Pacific III. Foreign Direct Investments in Developing Asia

Asian Development Outlook 2004 : II. Economic Trends and Prospects in Developing Asia : Central Asia

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Kyrgyz Republic

Aided by a recovery in gold production, the economy rebounded in 2003 and inflation was kept in check. Negotiations with bilateral creditors, on the basis of the 2002 Paris Club understandings, were successfully concluded. The Government has again formulated strong macroeconomic and structural policies for its third year of the IMF’s PRGF in 2004 that should maintain growth and poverty reduction while keeping external debt on a sustainable track.

Economic Assessment

The economy rebounded in 2003, having been virtually stagnant in 2002, as output from the Kumtor gold mine recovered to the levels prevailing before the July 2002 accident. GDP climbed by 6.7%, but excluding the gold sector (accounting for about one tenth of GDP and two fifths of industrial output), a 4.9% expansion was seen, indicating broad-based strengthening. Industrial output, excluding gold, was up by 8.5% with strong gains in electricity generation, food processing, chemicals, and nonmetallic products. Agriculture grew by 3.8% despite unfavorable weather affecting the summer crops, mainly grain and cotton. Falling public investment was reflected in a 6.8% decline in construction output. Increased tourism and sales to foreign military bases helped the services sector grow by 5.8%.

Gross domestic investment and savings are low, and amounted to 17.6% and 13.8% of GDP, respectively, in 2002. These levels are inadequate to foster economic diversification and rapid growth. Since the Government will continue to cut public investment as part of its debt reduction strategy, maintaining even the existing level of aggregate investment will depend on securing higher levels of private investment-both domestic and foreign. Preliminary data for 2003 indicate a fall in public investment from 4.8% to 3.6% of GDP; however, larger FDI and high growth in bank credit to the commercial sector indicate a possible rise in private investment.

Preliminary labor market data indicate a fall in unemployment in 2003, and a gain in real wages of 14%. The previous year, absolute poverty-based on the cost of a basket of basic goods containing two thirds food-fell to 44.4% from 47.6% in 2001 (Figure 2.23). Rural areas showed a slightly steeper decline. Initial estimates indicate a fall in absolute poverty to 40.8% in 2003. Regional differences in poverty, too, have generally narrowed, except with regard to the poorest oblast, Naryn, which is in an inaccessible mountainous region. Sustained farm sector-led expansion since 1996 has fostered poverty reduction that resulted from mutually reinforcing reforms in the agriculture sector and a high level of public investment. These conditions will be difficult to replicate in the future and broadening the sources of growth is essential to reduce poverty in the medium term.

The 2003 fiscal deficit was reduced to 5.0% of GDP from 5.4% in 2002, as against a target of 4.7%. Total domestic revenues rose by 0.8 percentage point to 18.7% of GDP as a result of new tax measures, though a delayed foreign grant kept the overall revenue-to-GDP ratio below the projected level. The fiscal gap widened prior to the fourth quarter, mainly due to unanticipated spending on disaster relief and emergency rehabilitation in the south following large-scale floods and mud slides. Partly to offset this, various spending items were cut or postponed in the fourth quarter to minimize slippage from the deficit target. The Government negotiated agreements with all bilateral creditors (except Kuwait where discussions are ongoing) following the Paris Club understandings reached in March 2002. External public debt is estimated to amount to about $2.0 billion, or about 103% of GDP at end-2003, down from about 124% at end-2000.

At a similar rate to 2002, broad money supply (M2) grew by 33.5% in 2003, mainly reflecting a large increase in foreign exchange reserves. Rising demand for the som due to remonetization of the economy accommodated the growth, without causing inflation. Commercial bank credit to the private sector surged by over 40%. Interest rates eased somewhat during the year, yet remain high. Consumer price inflation was 3.0% (below the 4.0% target), though a poor regional grain harvest and delayed petroleum shipments in the last quarter pushed up the CPI to 5.5% on an end-year basis.

The trade gap widened in 2003 to $82.7 million from $54.0 million the previous year. Exports posted an 18.5% gain mainly due to a recovery in gold exports, but non-gold exports fell as electricity and agricultural exports shrank. Imports grew by 21.9% reflecting (i) the economic rebound, (ii) the fact that a stronger som made consumer goods imports cheaper (the average exchange rate against the US dollar appreciated by 7.3% in 2003), and (iii) the rise in recorded imports (attributable to excise tax reforms that reduced the smuggling of oil products). Preliminary data for the year indicate a fall in the current account deficit to $30.7 million, equivalent to 1.6% of GDP.

Policy Developments

A large external public debt; declining levels of public investment; a difficult policy, regulatory, and legal environment for the private sector; a weak financial sector; and transit difficulties in accessing export markets are the key constraints to sustainable development. In 2003, the Government implemented structural reforms to strengthen public resource management, the financial sector, the energy sector, and governance in order to promote private sector-led economic development. Reflecting these endeavors, the Government successfully completed the second year of IMF’s ongoing 3-year PRGF.

In 2003, VAT was introduced on large farms (those with turnover exceeding Som500,000). Property tax legislation was approved by Parliament and is likely to be introduced in 2004 once valuation and exemption limits are decided. Annual yields from these two taxes are expected to reach 0.4% of GDP in 2004. Excise duties on oil products were cut by 40-50% resulting in a sharp fall in smuggling and a rise in revenues. A new draft customs code based on international standards was submitted to Parliament and measures were adopted to streamline tax administration, including the setting up of a large taxpayers unit. A new consolidated tax code is in preparation to simplify and rationalize taxation.

The enactment by Parliament in 2003 of the Law on Banks and Banking Activity strengthened the regulatory powers of the central bank to ensure good management and corporate governance in banks, improve financial disclosure, and control insider dealing. Other important financial sector laws pending in Parliament include a draft law on pledges to protect creditor rights and a draft law on bankruptcy of commercial banks to facilitate speedy closure, restructuring, or reorganization of problem banks. Passage of these laws will substantially improve the legal framework for the financial sector. The largest public sector bank, Kairat, is to be privatized in 2004.

Progress was made on various structural reforms. The Government launched a broad program of judicial reforms by (i) completing a comprehensive review of adjudication processes to develop a reform road map; (ii) accomplishing legal and administrative steps to allow third-party arbitration for swift out-of-court resolution of commercial disputes; and (iii) amending laws to bring finality to the judgments of higher courts. The National Council for Good Governance was established to supervise the implementation of anticorruption and governance reforms. Concerned by the lack of progress to bring down the high quasi-fiscal deficit (over 12% of GDP) in the electricity sector, the Government established an energy sector crisis group under a special representative of the President. It is expected that a combination of better management, higher tariffs, improved collection, reduced arrears, and action to limit theft of electricity will reduce the quasi-fiscal deficit by 2.0% of GDP in 2004.

Outlook for 2004-2005

GDP growth is expected to slow to 4.1% in 2004 and pick up somewhat to 4.5% in 2005. Reflecting recently adopted revenue measures, the fiscal deficit is targeted to narrow to 4.4% of GDP and to 3.5% over these 2 years. Continued monetization is expected to allow a 20.0% expansion in broad money in 2004 and to be consistent with keeping inflation at less than 4.0%. The external current account deficit is forecast to widen to 4.2% of GDP, as gold exports fall because of depleting ore reserves at the Kumtor mine, so limiting overall export growth to 2.3%. Import expansion at 5.4% is estimated to be in line with the GDP growth rate (given the one-time factor of larger oil product imports moving into official channels in 2003). The current GDP projection is lower than the 5.0% target set for 2003-2005 under the National Poverty Reduction Strategy because (i) gold production is expected to decline as ore is worked out and (ii) the current investment climate does not provide the confidence to assume that private investment will be sufficiently offsetting to sustain the higher growth rate. Two small gold mines, planned for development with foreign investment, are not expected to be working before 2006.

Achieving GDP growth of 5% or more, which is necessary for poverty reduction, will require (i) further external debt restructuring; (ii) improvement in public resource management; (iii) expeditious implementation of structural reforms; (iv) easing of trade barriers by neighboring countries and enhanced regional cooperation to diversify exports; and (v) a favorable external environment. The Government’s medium-term challenge is therefore to achieve sustainable growth while pursuing further fiscal consolidation but without burdening vulnerable groups.

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