Central Asia’s Skidding Transition Tread
The International Monetary Fund’s April update on the Caucasus/Central Asia (CCA) region quelled investor excitement about political and economic transition in Morgan Stanley Capital International frontier-listed market Kazakhstan and elsewhere, as it cited incomplete banking system and structural reforms among other legacies throttling competitiveness and growth. Kazakhstan’s 9% gain through end-April lagged the core emerging market index, despite President Nursultan Nazarbaev’s decision to turn over power to a successor after decades in office, and the prospect of large-scale state enterprise privatizations through the stock exchange following years of preparation. State governance is unlikely to improve should family members or political allies assume the post as expected, and the corporate version will also be stymied by public sector continued ownership control with asset divestiture. The Fund review points out that such ingredients threaten to repeat currency and financial system disaster patterns in the region amid low productivity, as main trading and investment partners China and Russia struggle with their own performance and stabilization challenges.
CCA forecast gross domestic product growth through next year is 4%, with oil exporters relying increasingly on the non-oil pillar. Kazakhstan can look to manufacturing and Azerbaijan to construction and services alongside new gas pipeline operation. Armenia, Georgia and Tajikistan will suffer from falling Russian remittances, offset by infrastructure projects within fiscal consolidation programs. Inflation through 2019 is estimated at 8%, before a drop to 6.5% at end-decade which could allow monetary easing. Medium-term growth will stay constant at 4%, half the clip in the post-independence 2000s, and insufficient to hike incomes to peer economy levels. Bank bad loan ratios in double-digits plague half a dozen countries; Uzbekistan has a long history of government-directed lending; and Armenia and Azerbaijan foreign currency borrowing is unhedged. Kazakhstan and the Kyrgyz Republic provided emergency liquidity, and insolvency is a “lingering risk” with bank resolution and supervision gaps, according to the outlook.
Interest and exchange rate regimes have been in flux since the 2014-16 Russian ruble depreciation, with widespread shifts toward inflation-targeting and floating currencies. However Tajikistan and Turkmenistan still manage overvalued units, which can raise bank balance sheet pressure in highly-dollarized systems, and foreign exchange trading is typically shallow. Fiscal rules and stricter tax codes were adopted throughout the region, but expansionary policy elevated public debt to 50% of GDP for oil importers. Geopolitics is a drag with the prospect of additional commercial sanctions against Moscow and US military and aid withdrawal from Afghanistan. The export range outside commodities is narrow, and concentrates disproportionately on China and Russia. Capital market development lags such as creation of local government bond yield curves, and better private business climates would foster global supply chain integration. While Bank cleanup is in limbo associated money laundering and corruption can persist, the review warns.
The Fund’s Middle East/North Africa take released at the same time also sounded the alarm by first noting that a new Reported Social Unrest index was at a multi-year peak. It calculates the share of media coverage devoted to conflict, protests and civil strife in recent flashpoint countries including Algeria and Sudan. The gauge has an inverse relationship to per-capita income growth, where Jordan and Lebanon score poorly, as well as investor-friendly rule of law. Gulf oil exporters will grow only 2% this year, but inclusion in the benchmark emerging market external sovereign bond index could spur $40 billion in inflows to counter credit deterioration from energy price swings and spillover from the Syria and Yemen civil wars. Domestic credit expansion is barely positive, and despite healthy bank capitalization real estate exposure will dent earnings and franchise value. Fiscal balance is remote and tax mobilization and spending restraint has slowed, and the state company-led loss-making model is unable to generate the million new jobs annually needed for Gulf Cooperation Council (GCC) members. Small business can be a major employer, but funding access is a chronic impediment demanding deeper securities markets. The Fund urges the GCC to construct a common financial and monetary conditions indicator to equally guide the real economy, but components are either absent or reported with serious lag. In oil importers Egypt, Jordan and Lebanon public debt is above 80% of GDP posing a next-generation burden, the review cautions for more investor pessimism.