Clare Nuttall in Bishkek -

Whether a stable government can be formed following the October 10 elections will be the main factor in determining Kyrgyzstan's economic performance, according to the acting chairwoman of the country's central bank, Baktygul Jeenbaeva.

After four years of steady growth, even during the global economic crisis, Kyrgyzstan's economy took two severe knocks this year - first the April revolution, then the inter-ethnic violence in the south in June. "So far this year, the economy has grown by 0.3% due mainly to revenues from the Kumtor gold mine, but by the end of the year we expect a fall," says Jeenbaeva, who was appointed as head of the National Bank of the Kyrgyz Republic (NBKR) on July 23. "The greatest damage has been inflicted on the trade sector, and services including banking and other financial services. Agriculture also suffered."

The central bank forecasts a 3.5% contraction in GDP in 2010, which is in line with the International Monetary Fund's (IMF) forecast, and slightly more optimistic than the Ministry of Economic Regulation, which anticipates a 5.4% decline.

The uncertainty about the country's future has been a red flag to international investors, but the events in the financial sector have been of particular concern. The government takeover of the country's largest bank, AsiaUniversalBank (AUB), and several smaller banks including Manas Bank and Bank Issyk-Kul, was carried out immediately after the revolution, when the new government claimed the banks were connected to the former president's son Maxim Bakiyev. The claim has been denied by the former management of AUB, which is trying to regain control of the bank from the government. Michael Nadel, former chairman and majority shareholder of AUB, told bne that the fate of his bank, which he claims was a model of corporate and social responsibility, should act as a warning to international investors looking to do business in Kyrgyzstan.

"To outsiders it can be difficult to understand what is happening in Kyrgyzstan," Jeenbaeva tells bne. "For many years, there was a struggle to balance the power between parliament and president. We now understand that giving all the powers to the president was a mistake. Previously, the banking sector and other parts of the economy were dominated by the presidential family and clan. It came to a point where the people would no longer allow corrupted and autocratic leadership to remain in power.

"It is personally painful to me to acknowledge the problems in the banking sector. We must carefully examine why it was possible for fraud to take place within the banking sector, and how to rebuild the system and prevent it from happening again," she adds.

Rebuilding confidence

Despite the concerns raised internationally by the nationalisations, there has not to date been any panic in the banking system within Kyrgyzstan, and provided that the current political deadlock does not escalate into violence, Jeenbaeva expects confidence to gradually be rebuilt. In fact, in August and September, bank lending started to increase both because commercial banks maintained their lending volumes, and because of the actions of the special fund for refinancing commercial banks, which was established under the National Bank in May 2009, and has been providing the funds to the commercial banks.

In the wider economy, Jeenbaeva says the bank is concerned about inflation. As of late September, the bank forecast that inflation would be higher than the 7-9% originally predicted by the National Bank, possibly around 10%. "The main price increase has been for grain and flour, which is mainly imported from abroad, due to weather conditions in Russia," says Jeenbaeva. Further increases in food prices are likely to be connected to the election.

In addition, she says, "There are external factors contributing to inflation, most importantly the increase in the cost of gas imports from Uzbekistan, and of petroleum products from Kazakhstan and Russia."

However, the situation in the currency market is characterized by relative stability. The NBKR does not expect sharp changes in the exchange rate, says Jeenbaeva. In fact, Kyrgyzstan's currency, the som, has strengthened since August , although this is to an extend due to seasonal factors - the export of agricultural goods, tourism and an increase in remittances from labour migrants. "The NBKR constantly tracks the situation in the financial markets and if necessary takes measures to maintain a stable situation in the currency market. For this purpose the have sufficient stocks of international reserves," says Jeenbaeva.