Regions and Countries

	Table of Contents
p. 1 of 4 BACK | NEXT I. Development Situation II. Implementation of the Country Strategy and Program III. Portfolio Management Issues IV. Country Performance and Lending Levels

Country Strategy and Program Update 2003-2005: Kyrgyz Republic

---

I. Current Development Issues and Trends

A. Recent Political and Social Developments

1. After the presidential and parliamentary elections of 2000 in the Kyrgyz Republic, the momentum of the reform process, which had slowed in the run up to the elections, picked up. There are signs now of the Government's willingness to address some of the difficult social and economic problems facing the country. These include measures to improve the banking system, the initiation of civil service reforms, the raising of electricity tariffs, and the improvement of pensions and other social benefits. The security situation in the Kyrgyz Republic has improved since the end of the hostilities in Afghanistan. The aftermath of the 11 September 2001 events has not had the serious impact on the Kyrgyz economy that was earlier expected. The Government has come out strongly in support of the international efforts to fight terrorism. It has allowed the stationing of American, French, and other international troops in the country and permitted the use of Manas Airport in Bishkek for humanitarian and other operations in Afghanistan. On 30 May 2002, a new Prime Minister was appointed following the resignation of the previous one and the Cabinet on 22 May 2002. These events followed civil unrest after the incidents of March 2002 in which five people lost their lives during protests in the southern part of the country and have led to growing concerns about the political and economic situation in the country.

2. About 52% of the population was living in poverty in 2000. Poverty levels fell to 47.4% by September 2001 as a result of improved economic performance in that year (particularly in the agriculture sector), an increase in real wages, and a marked fall in inflation. However, the quality of social services in the country continues to decline as service delivery becomes increasingly unsustainable due to severe budgetary constraints. In addition, a number of subsidies have declined in value and increased utility charges and other tariffs that have been introduced have impacted on the lives of the poor. Appendix 1, Table A1.1, indicates the country's progress towards the Millennium Development Goals and Targets.

3. The Government launched a comprehensive development framework (CDF) process in the country in 1999 with its central theme of poverty reduction and emphasis on economic and social development. The CDF process sought and received the involvement of a wide cross section of civil society. The CDF strategy was finalized in 2001 together with an interim national poverty reduction strategy (NPRS)¹. The CDF represents the development vision of the Government until the year 2010, while the NPRS represents the CDF's activities until 2005. Under the CDF, the goal of poverty reduction will be achieved through three major thrusts: (i) effective and transparent state governance, (ii) a fair and secure society, and (iii) sustainable economic growth and development. Within this overall framework, the NPRS seeks to identify the specific policies and priority areas of intervention that will have the greatest impact on poverty and growth over the first five years of the CDF period.

B. Economic Assessment and Outlook

4. In 2001, the economy grew at 5.3% and maintained the previous year's level of performance. But growth was not broad based. Agriculture grew at a healthy rate of 6.8%. Industry grew at 5.4%; however, excluding gold production, industrial output fell by 1.6% due to recession in several subsectors. The service sector registered a modest growth of 2.4%. Investment fell from about 20% of gross domestic product (GDP) to about 16% in 2001 due mainly to compression in public investment. The Government met its fiscal compression target by reducing investment and raising user charges. Tight monetary policy in 2001 restricted consumer price inflation to 6.9% from 18.7% in 2000 and maintained exchange rate stability. Foreign trade contracted by 10.2% in 2001 as both exports and imports shrank, yielding a positive trade balance of $50.5 million. Preliminary data for the first half of 2002 indicate a decline in GDP by 4.9% owing to a sharp fall in gold production and lower agricultural output due to weather induced delays in harvesting. Detailed economic, poverty and social, and environmental indicators are at Appendix 1, Tables A1.2 to A1.4.

5. The Government is pursuing a three-pronged approach to mitigate medium-term risks to the economy and to improve economic performance. The key components of the program are implementation of a credible debt strategy, continued pursuit of prudent fiscal and monetary policies to maintain macroeconomic stability under the poverty reduction and growth facility (PRGF) of the International Monetary Fund (IMF), and implementation of structural reforms with technical and financial assistance from ADB, the World Bank, and other financing agencies. In 2001, the Government undertook measures to improve nontax revenues and reform taxes. Tax administration is being modernized with special focus on the customs department. Measures were also taken to strengthen banking sector regulation and improve performance of the financial sector. The Government prepared a blue print and a time-bound implementation plan for judicial reforms, and initiated steps to expedite public sector restructuring.

6. The Kyrgyz Republic has a high debt burden (110% of GDP in 2001 of which about 86% is public and public guaranteed debt) and the bunching of repayment of high interest commercial debt made debt servicing unsustainable. During 2002-2004, the total debt service burden on the Kyrgyz Republic was estimated at about $480 million. This would have created an external financing gap (after factoring in projected foreign aid) of about $221.2 million. In March 2002, agreement was reached at the Paris Club whereby the principal and interest falling due to member creditors during 2002-2004 was consolidated; the loans were rescheduled to a 20-year period at the contracted interest rates; and the moratorium interest was substantially capitalized. It was also agreed to consider the extension of concessional terms to this debt in September 2004 if the Government successfully implements the ongoing PRGF program. These decisions have considerably reduced debt servicing and brought down the uncovered external financing gap to an estimated $125.8 million. The Government will now have to negotiate with non-Paris Club creditors, to whom it owes about $170 million in debt servicing during 2002-2004.

7. Restructuring of external debt on concessional terms is critical for long-term fiscal sustainability and macroeconomic prospects. The economy is projected to grow at 4.5% during the PRGF period. According to the PRGF, realization of this will need investment levels of 18-20% of GDP even as the externally funded public investment program (PIP) is designed to fall from 5.5% of GDP in 2002 to 3.0% in 2005. Therefore, economic growth will depend on the private sector's ability to substitute for the falling levels of public investment. This depends on expeditious implementation of structural reforms, improvement of public sector governance, and other measures to create favorable conditions for private investment. A critical reform that must be undertaken is the prioritization of the investments in the PIP (para. 19) during this period of scarce budget resources. Thus, economic prospects depend in large part on the Government's success in undertaking the necessary stabilization measures and reforms and creating the enabling environment for private sector led growth.

C. Implications for the Country Strategy and Program

8. The following issues and factors will have a bearing on ADB operations in the country: (i) absorptive capacity and debt sustainability need to be kept in mind while determining the size and composition of future programs; (ii) the Government's capacity to borrow more funds for its development needs will improve if the PRGF is successfully implemented and the Paris Club creditors offer further concessional treatment of the Kyrgyz debt stock in 2005; (iii) successful bilateral negotiations with non-Paris Club creditors will improve public finances and availability of counterpart funds; (iv) the ongoing projects in the PIP have requirements that exceed the medium-term resource availability (consequently the projects in the PIP need to be prioritized and a spring cleaning exercise undertaken); and (v) higher but viable levels of external assistance may become necessary after 2004 if private investment does not increase as assumed under the PRGF to replace reduced public investment.

Back Country Strategy and Program Update 2003-2005: Kyrgyz Republic	Next II. Implementation of the Country Strategy and Program