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p. 46 of 77 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. Promoting competition for long-term development Statistical appendix

Asian Development Outlook 2005 : II. Economic trends and prospects in developing Asia : Central Asia

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Kazakhstan

Rapid economic growth continued in 2004, and the medium-term outlook is positive. The Government has maintained its prudent macroeconomic and reform policies, and has also adopted programs for economic diversification. Successful implementation of current development priorities and creation of a conducive environment for the private sector will ensure sustainable, broad-based growth.

Macroeconomic assessment of 2004

The brisk economic advance of recent years continued through 2004 with GDP rising by 9.4%. The boom was fueled by a combination of high world oil prices, expanded domestic production, buoyant investment, strong domestic consumption, and prudent macroeconomic policies. On the supply side, an 11.5% rise in oil production--aided by high world oil prices and greater capacity at the Karachaganak and Tengiz oil fields in western Kazakhstan--was the main factor in the rapid 10.1% advance in industrial output. Other industrial components were also buoyant: manufacturing grew by 8.9%, spurred by the engineering and chemical subsectors (up by 32.5% and 11.5%, respectively), while construction strengthened by 11.2%, reflecting significant investment in housing and infrastructure in the new capital, Astana. Based on the broad-based expansion in activity and incomes, the services sector increased by 10.8%, in part driven by vibrant banking and financial services activities. Meanwhile, the agriculture sector grew by only 0.1%, well below its historical average, mainly due to a poor harvest caused by bad weather conditions.

On the demand side, strong private consumption, generated primarily by large increases in real incomes and bank credit, was a major source of the economy’s advance, as was (to a lesser extent) a surge in government spending. Investment rose by 10.6%, mainly due to large private foreign investment in oil and gas, private domestic investment in housing, and public investment in manufacturing and transport. A 66% surge in net exports contributed 0.9 percentage point to GDP growth.

Continuing economic growth has resulted in higher living standards. According to official statistics, real per capita income grew by 13% in 2004 while unemployment declined from 8.8% in 2003 to 8.4% at end-2004 (Figure 2.22). This reflected the increased demand for qualified workers in certain areas (construction, services, and agriculture) and the impact of government measures for reducing unemployment through a public works program, providing training for the unemployed, and supporting SME development to create jobs. The Government also strengthened the Labor Code during the year to protect employee rights, and improved safety regulations. The share of the population living below the subsistence minimum (T5,427 or $40) fell from 19.8% in 2003 to 15.0% in 2004, reflecting the economic expansion and the impact of the Poverty Reduction Program for 2003-2005. Improving living standards remains a major challenge in many rural areas, however, and reducing the urban-rural gap is a current development priority.

The general government budget, inclusive of the large savings of oil revenues made by the National Fund of Kazakhstan (NFK), recorded a surplus of 2.3% of GDP in 2004. The cautious fiscal stance helped restrain aggregate demand and mitigate inflationary pressures in the context of large current and capital foreign exchange inflows during the year.

Excluding the NFK savings of 2.6% of GDP gives a small budget deficit of 0.3% of GDP. Despite tax cuts amounting to an estimated 1.2% of GDP, general budget revenues rose to 23.5% of GDP (excluding the NFK), reflecting strengthened tax administration, high world oil prices, and one-time payments related to oil and gas. Total budget expenditures grew to 23.8% of GDP, driven largely by higher expenditures on education, health, and social welfare; the state housing program; the Industrial-Innovative Development Strategy 2003-2015 (to foster economic diversification and technological upgrading); and public sector investments in Astana and Almaty. Total public debt in 2004 rose by 7.5% to $5.1 billion (12.1% of GDP), entirely reflecting increased domestic borrowing as the outstanding external debt component declined by 11.0% to $2.7 billion.

Monetary aggregates climbed rapidly in 2004. Nevertheless, inflation at 6.9% for the year was held just within the revised inflation target of the National Bank of Kazakhstan (NBK) of 5.6-7.0%. Higher prices for gasoline, transport services, and utilities contributed cost-push inflationary pressures, which also felt the demand-pull of rapid monetary expansion (M2 accelerated to 36.4% from 27.0% in 2003). Credit to the economy spiraled up by 51%, with banks giving priority to consumer, housing, and SME financing. Interest rates remained broadly stable. Remonetization of the economy has helped keep inflation within the NBK target; the ratio of M2 to GDP increased to 25.8% in 2004.

NBK continued its interventions in the market to prevent excess of volatility and undue appreciation of the exchange rate. There were pressures on the tenge due to a surge of inflows related to exports and FDI as well as greater external borrowing by the private sector. Over 2004, the tenge appreciated in real terms by 15.3% against the dollar, 7.0% against the euro, and 1.3% against the Russian ruble. The real effective exchange rate appreciated by 5.9% year on year, eroding domestic producers’ price competitiveness.

Exports soared by 53.7%, propelled by high world oil and metal prices in 2004. Although imports also shot up by 47.7% as a result of strong domestic demand, the trade surplus expanded by two thirds to $7.0 billion. While the usual deficits on the net balances in services, income, and current transfers widened (mainly due to hydrocarbons operations), preliminary data suggest that the current account switched to a surplus of 1.6% of GDP ($0.7 billion). Total international reserves (including the assets of the NFK) improved by $5.7 billion to $14.3 billion at end-2004. Of this total, NBK’s net international reserves amounted to $9.3 billion (or 6 months of imports of goods and services). External borrowing by commercial banks, in response to offers of attractive rates and long maturities, increased substantially during the year to bring outstanding external debt (excluding intracompany debt) from 29.3% of GDP in 2003 to 34.2% at end-2004.

Macroeconomic policy developments

Underlining its commitment to prudent macroeconomic policy management, the Government took several major fiscal policy initiatives in 2004, including the development of the first medium-term fiscal policy for the period 2005-2007 (approved in September 2004) and improvements to the budget code. The objectives of the former are to improve the efficiency of government spending, ensure stability of government revenues, and more consistently achieve the targets of development programs. In similar vein, the Government is considering adopting target limits on the non-oil budget deficit in an attempt to reduce volatility of oil-revenue fluctuations on fiscal policy, a step advocated by IMF.

The changes to the budget code have provided a basis for greater transparency in budgeting and a clearer delineation of financial responsibilities between central and regional governments. For example, expenditures on health, social assistance to invalids, and special education programs were transferred to local budgets while spending on fire prevention and special state allowances were kept in the central budget. Furthermore, budget transfers were fixed for a 3-year period, allowing local governments to better plan their medium-term budgets.

The Government has continued to strengthen the financial sector in order to assist economic diversification and private sector development, and articulated a number of policy initiatives including promotion of a stock market, pension system reform to improve asset management, modern risk-management systems for commercial banks and pension funds to facilitate investments in foreign securities markets, and development of insurance markets. The independent Financial Supervision Agency, established in January 2004 to oversee financial institutions, is now formulating a detailed action plan to implement these policy initiatives.

Following the establishment of the agency, NBK has concentrated on its macroeconomic policy functions. As part of its objective of price stability, NBK plans to adopt an inflationary targeting framework by 2006, and has developed a set of core inflation indicators that are closely monitored. To keep inflation within the target range in 2004, NBK conducted open-market operations to contain excess liquidity and growth in broad money. It also increased bank reserve requirements and raised the refinance rate from 7.0% to 7.5%.

The Government has strengthened efforts to diversify the economy through the development of nonextractive sectors. The Industrial-Innovative Development Strategy aims to develop priority nonextractive sectors in the context of a competitive economy. Detailed studies have identified seven priority clusters: tourism, oil and gas engineering, food, textile, logistics services, metallurgy, and construction materials. These clusters are expected to facilitate development of industrial bases outside the extractive sectors. State-owned funds supporting the strategy have identified 24 projects for assistance and a further 350 are under consideration. The Government’s efforts to support food industries will help prepare agriculture and agro-industries for WTO accession, while government infrastructure investments are being undertaken to provide an environment conducive to developing non-oil industries.

In addition, promoting a favorable environment for SMEs is among the Government’s key development efforts, including streamlining of administrative procedures for business operations and setting up a small business development fund to help finance SME business opportunities.

While making efforts toward economic diversification, the Government is also seeking to ensure balanced, inclusive growth through support to rural areas. Priority programs are supporting the rural population. The 2004 budget allocated an additional T30 billion for rural education and health. A detailed medium-term plan for rural infrastructure has been prepared and the Government is planning to augment the 2005 budget by T100 billion with a large part directed to rural areas.

Outlook for 2005-2007 and medium-term trends

The economic outlook for the next 3 years is positive. Economic diversification remains a priority for reducing the impact of external shocks to the economy, and the Industrial-Innovative Development Strategy is expected to play an important role in promoting a larger non-oil sector. In the medium term, however, the oil and gas sector will remain the principal engine of economic expansion, with services, construction, and manufacturing continuing to play their supporting roles.

GDP growth is forecast to moderate to 8.5% in 2005, reflecting some easing in world oil prices and a softening of global growth. Oil production is expected to rise from 56 million tons in 2004 to 69 million tons in 2007. In 2006-2007, economic growth will likely continue at around 8%, on the back of accelerated activity in the non-oil sector stemming from economic diversification. These projections, of course, are sensitive to factors such as world oil prices, global demand, as well as the actual response to government policies and incentives in the non-oil sector.

The fiscal position is expected to remain strong in the medium term, since growing oil revenues and improvements in tax administration are expected to offset plans for additional tax cuts and to cover nearly all planned expenditures. Estimated revenue performance and future medium-term spending plans (particularly on infrastructure development, employment creation, and social welfare) indicate that the general budget deficit (excluding the NFK) will be in the range of around 1% of GDP in 2005-2007.

Fueled by increases in public sector wages and expansion in the money supply, inflation is expected to again be at the higher end of the current NBK target range (4.5-6.5%). Inflation of 6.0% is projected for 2005, moderating to 5.7% and 5.3% in the next 2 years. The tenge is expected to continue appreciating but a weakening in world oil prices would halt this. Despite NBK plans to adopt an inflationary targeting policy in 2006, it will most likely continue sterilized intervention operations to prevent an undue appreciation of the exchange rate, as development of the non-oil sector is a key priority.

Exports of goods will likely remain buoyant at the level of $20 billion-35 billion given expected world prices for Kazakhstan’s major commodities (oil and metals), and projected production trends. Driven by anticipated strong domestic demand, imports of goods are set to rise to around $15 billion in 2005 and to about $23 billion in 2007. The trade balance is forecast to record a surplus in the medium term, scaling up from $7.7 billion in 2005 to $8.6 billion in 2007. The current account balance is projected to be positive at around 1-1.5% of GDP over 2005-2007, despite a rising trend deficit in services, income, and current transfers as payment outflows grow, especially of foreign investors’ earnings.

Continued economic expansion will help improve living standards. According to official forecasts, the Government’s efforts to reduce the urban-rural gap and to strengthen the social safety net for vulnerable people are expected to bring down the number of people living below the subsistence minimum to 10% by end-2007. However, improvements in living standards will depend substantially on new job creation by the private sector. In this regard, the ongoing measures to diversify the economy are likely to play an important part. A new state program on employment, approved in January 2005, sets specific measures to promote employment in SMEs and tourism, where two thirds of the targeted nearly 1 million new jobs are to be created during the next 3 years.

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