Georgia’s Invasion Pretext Preamble

Frontier bond investors marked the first anniversary of Russia’s fight with Ukraine by recalling the fate of Georgia now a laggard in JP Morgan’s NEXGEM index, where 2014’s 10 percent advance was double the main EMBI and at the opposite extreme of the local currency index’s negative performance. That military incursion was just before the global financial crisis and spawned a range of post-conflict programs with the EU and multilateral partners, with the latest 3-year $150 million IMF standby in effect for six months. GDP growth should again be 5 percent in 2015 with “limited” Russian trade and remittance links, the Fund predicts. Inflation may also rise to 5 percent with food price and currency depreciation influence with the lari down close to 10 percent against the dollar. Annual 20 percent credit expansion, heavily concentrated in real estate, has also stoked the money supply. Fiscal policy aims to meet Brussels’ 3 percent of GDP deficit target after a free trade agreement was signed with a lengthy adjustment period. External accounts are a “concern” with the 10 percent current account hole and external debt at 85 percent of output. The banking system in turn remains 60 percent dollarized and relies 15 percent on non-resident deposits, one tenth Russian, according to a recent financial sector analysis.  The 2008 shocks precipitated a liquidity squeeze and one-fifth the system deposit flight as holdings were switched into cash. Banks were closed briefly and the central bank suspended reserve ratios and provided uncollateralized loans. European parent helped local units meet foreign debt payments as international financial institutions extended aid. Cyclical recovery began in 2010 to partially restore health, but large foreign exchange and property exposures persist that call for stricter monitoring in view of regional geopolitical and Eurozone events, the IMF advises. Elsewhere in the Caucuses Armenia issued an inaugural sovereign bond last year on “subdued” 2.5 percent growth from lower exports and remittances, according to the Fund’s December Article IV report. Inflation will revert to 5 percent with dram depreciation requiring central bank intervention against “disorder” and an overnight interest rate hike above 20 percent. Banks’ NPL ratio has risen from 6.5 percent, but modest public debt at 45 percent of GDP has helped stabilize the thinly-traded bonds. Higher FDI in agriculture and tourism goes to offset the current account shortfall, but competitive and regulatory reforms have stalled, the survey notes.

Ukraine’s original $17 billion package has been delayed pending new government formation and budget adoption, and an additional $15 billion was requested by the prime minister. International reserves are at a decade low under $10 billion and the currency has halved against the dollar. External debt repayment before energy imports is $7 billion in 2015, with short-term bond yields at 30 percent. Bank liquidation and default has spread along with the conflict toll demanding $5 billion in defense outlays and stripping the fiscal austerity pretext.