Growth Framework: macroeconomic environment and investment climate

1
Growth Framework macroeconomic environment and
investment climate

• CEM for Republic of Belarus

2
Main Message

• Recent performance was strong and based on a
  certain set of competitive advantages
• The effect of these advantages has been eroded
• Earlier growth drivers weakened, while no
  replacement has emerged
• We expect a slowdown in growth if there is no
  policy reform
• Moreover, the economy is highly vulnerable to
  external shocks

3
GDP Growth and Poverty Outcomes are impressive
4
Broad based growth

• Growth benefits are broadly shared among
  different population groups
• Income/wage policy a high share of GDP growth
  was channeled to finance wage increases
• High growth in labor intensive sectors
• Low cross-sectoral differentiation in wages
• 40 reduction in employment in agriculture

5
Average Annual GDP Growth,
6
Two growth phasesPhase I 1996-2000

• The expansionist monetary policy that helped to
  keep the real value of the Belarusian rubel low
• The policy of multiple exchange rates that was
  used as an instrument of hidden targeted support
  for some exporters and as a tool of taxation for
  others
• The strict policy of wage and price controls that
  helped to keep production costs low and support
  cost advantages of traditional exports
• The encouragement of barter transactions with
  Russia, which in combination with multiple
  exchange rates generated a considerable resource
  transfer to Belarusian exporters
• The active political re-integration with Russia,
  which resulted in improved market access, ensured
  preservation of preferable gas import prices, as
  well as tolerance of energy arrears it also
  helped to improve capacity utilization in oil
  refineries and secure a debt write-off in 1996

7
Cost advantage against Russia
8
Two growth phasesPhase II 2001 - onwards

• Improved macro policies unified exchange rate,
  stricter monetary policy, considerable fiscal and
  quasi-fiscal adjustment, and lower inflation
• Energy and utility policy that aimed at attaining
  full cost recovery in tariffs and strict payment
  discipline
• New wage and income policies that stimulated
  domestic demand
• Phasing out barter, which inter alia helped
  somewhat accelerate export diversification out of
  the Russian market
• Maintaining its political and administrative
  effort aimed at the preservation of the
  Belarusian traditional niche at the Russian
  market
• Improved external environment (oil prices,
  Russian growth, etc.)

9
Cost Recovery in Housing
10
Significant Fiscal Adjustment
11
Reduced Inflation Tax
12
External Debt to GDP Ratio,
13
Inflation remains high
14
Incidence of State Support, of GDP
15
Weaknesses of the Macro Framework

• High level of re-distribution a heavy tax burden
  and excessive government interventions
• Government spending is concentrated on social
  spending and housing , while less funding is
  available for public investments in
  infrastructure
• Subsidization remains high, especially in
  agriculture
• High share of intermediary product
  under-developed service sector, as well as a
  relatively low level of value added in industry
• Profit/wage ratio is low hampers both savings
  and investments in the real sector
• The financial sector remains under-developed even
  relative to the modest saving level.

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Major Macroeconomic Risks

• Low international reserves
• High dependence on a single and unstable export
  market (Russia)
• High concentration of the economy
• Large size of the government
• Vulnerabilities in the banking sector
• The pension system is unsustainable
• Costs of adjustment to future higher prices of
  Russian energy

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Index of Economic Freedom
18
Incidence of Price Control
19
Restrictive Employment Policies
20
Business Registration is too Slow (days)
21
Trade Restricting Logic of Economic Policymaking

• Pressures to meet output targets
• Regional support for local enterprises
• Restrictions for imports and inter-regional
  competition
• Monopolization of regional markets
• Threat of Import Substitution

22
Perception of Corruption, 2002
23
Market Socialism Re-discovered?

• Similarities with market socialism in Yugoslavia
  and Hungary in the 70s, not real transition as we
  see it in the CEE
• Excessive state ownership and government control
• This model proved to have fundamental weaknesses
  soft budget constraint, over-borrowing,
  inflation, weak export performance, and external
  debt problems

24
Economic Policiesnot conductive to growth in
competitiveness

• High cost economy taxes, interest rates, price
  controls, costs of administrative interventions
• Business environment is difficult for new entry
  marginal growth from the new private sector,
  depressed FDI diminished opportunities for
  productivity growth and export expansion
• Expensive subsidization undermines competition
• Trade regime high incidence of NTBs discourages
  trade and will be a major barrier for global and
  regional integration

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Recommendations

• Strengthening market discipline for traditional
  enterprises
• - downsize and restructure existing system of
  state support
• - advance trade liberalization to expand
  international competition
• - accelerate exit of non-viable firms
• - harden budget constrains (esp. in the
  agro-food sector)
• - ensure financial sustainability and efficiency
  of the energy sector
• Encourage growth by reducing operating costs
• - reduce tax burden and reform tax structure
• - liberalize employment and wage policies
• - advance price liberalization
• - reduction regulatory costs of doing business
• - limit discretionary administrative
  interference
• - accelerate reform of standards system
• - consolidate recent progress towards a stable
  macroeconomic environment

26
Urgent steps to improve investment image

• FDI level integral measure of reform progress
• Measure of progress towards export
  diversification, enterprise restructuring
• New Policy Initiatives
• - Expansion of FEZs (Chinese experience)
• - Several visable privatizations (e.g. banks)
• - a targeted effort to attract FDI into ffod
  processing
• - Setting up an investment promotion agency
• - De-regulation trade restrictions, golden
  share, registration procedures

27
In the longer-term

• The comprehensive reform to sustain growth will
  be needed sooner or later
• Advance liberalization, privatization and
  de-politization of the economy
• Political will be required
• Currently, it is a great time to initiate such
  reforms

28
Window of opportunity

• Favorable conditions for acceleration of reforms
• growing economy
• positive trends in perceptions of both enterprise
  and households
• favorable global developments
• low debt
• strong administrative capacity of the state
• Belarus is well equipped to mitigate potential
  costs of reforms