IMF Advocates Accelerated Structural Reform, Sustainable Fiscal Policies to Weather Economic Crisis in Central Asia

ASTANA – The International Monetary Fund (IMF) is advocating accelerated structural reforms in Central Asia to combat slow gross domestic product growth in the region. The IMF cited external shocks in its Oct. 15 Regional Economic Outlook Report for the Middle East and Central Asia as the reason for the region’s lackluster economic progress.

“A wave of external shocks – a sharp drop in commodity prices, the slowdown in Russia, a plunge in the value of the Russian rouble, and a strengthening of the U.S. dollar – have weakened economic growth in [Central Asia and the Caucasus] despite countercyclical fiscal policies aimed at supporting output. … Fiscal policy needs to ensure that the near-term accommodation is sustainable in the medium term. Greater exchange rate flexibility will protect external buffers and help mitigate external imbalances, but needs to be accompanied by stronger supervision to ensure financial sector stability. Accelerating structural reforms will be key to boosting growth in the medium term,” the report said.

Growth in the region is predicted to be at some of the lowest rates since independence, according to the IMF, with real GDP growth in Central Asian oil exporting countries of 3.8 percent in 2015 and 4.1 percent in 2016. Real GDP growth year on year in Kazakhstan is predicted at 1.5 percent in 2015 and 2.4 percent the following year. The IMF cited lower oil, gas and metals prices and spillover from the economic contraction in Russia as reasons for lower growth.

The IMF also warned that the external factors leading to slowing growth are not expected to change any time soon. According to the report, Brent oil prices are expected to average about $53 per barrel at the end of 2015, and are not expected to recover beyond $66 per barrel by the end of the decade.

Therefore, structural reforms also remain necessary for sustainable growth and job creation in Central Asia, according to the IMF, especially those designed to develop the private sector and reduce reliance on commodities and remittances. According to the report, Kazakhstan falls below global emerging market averages in education quality, control of corruption and export diversity, and presumably should make those priority areas for reform.

China’s growing role in Central Asia – the country has become the region’s biggest trading partner in recent years, according to the Financial Times and is the biggest trading partner of Tajikistan, Kyrgyzstan and Turkmenistan according to the report – is seen by the IMF as an opportunity for growth, employment and diversification. Trade has grown almost tenfold in the past decade, the IMF reports, and Chinese foreign direct investment has also increased rapidly. Over the next three to five years, China is expected to invest $30–$35 billion in Central Asia and the Caucasus, mainly in infrastructure and mining.

China’s $14 billion investment commitment to Kazakhstan, through the One Belt, One Road initiative and other projects, is second in the region only to Pakistan, which has $45 billion of Chinese investment coming up, according to the report. The programme reportedly calls for investment of $150 billion into creating land, air and sea connections between Asia and Europe. However, the report cautions lower than expected growth in China and other major trading partners could keep commodity prices low and hinder economic recovery.

The report also urged sustainable fiscal policies. All Central Asian currencies have depreciated against the dollar this year, with Kazakhstan’s tenge falling by nearly a third of its value since moving to a free-floating exchange rate in August. The IMF noted that fiscal balances across the region have deteriorated because of lower commodities revenues and countercyclical fiscal measures and that fiscal break-even oil prices exceed current prices. The report called fiscal consolidation among oil exporters in the medium term “imperative” for rebuilding buffers and ensuring that countries could continue to save for future generations, and called for strengthening supervision, macroprudential policies and crisis management frameworks to mitigate ripple effects of the crisis through the highly dollarised financial sectors in the region. (The report also noted that preparations are underway in Kazakhstan to establish or enhance medium-term fiscal frameworks.)

The financial sector is not immune to current economic conditions, the IMF noted. Inflation is predicted to increase in Kazakhstan, Georgia and Kyrgyzstan in 2016, according to the report, mostly from the depreciation of local currencies against the dollar. Financial conditions have tightened and despite “a weak link between credit and economic growth in [Central Asia and the Caucasus],” tepid credit growth is hitting economic activity and could affect asset prices, further weakening banks’ balance sheets.

For Kazakhstan, nonperforming loans and dollarised bank balance sheets continue to be the major banking issues. “Reducing dollarisation requires tackling its root causes – improving policy credibility and developing financial markets – in addition to differentiating capital requirements for lending to unhedged borrowers,” the IMF said.

Countries in the region should increase their surveillance of emerging macro-financial risks and strengthen supervision and macroprudential policies, as well as crisis management frameworks for addressing bank distress, according to the IMF. Directed lending should be reduced, regulations limiting large exposures and other loan concentrations should be enforced, and the causes of dollarisation should be addressed.

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