Uncertainty around succession and monetary policy influence Kazakhstan’s sovereign ratings

By Naubet Bisenov in Almaty October 21, 2015

The efficiency of the institutional system and governance mechanisms, and how they will cope with the succession to President Nursultan Nazarbayev, and the lack of trust in the efficiency of monetary policy are the main factors that influence the country’s sovereign ratings, the ratings agency Standard & Poor’s (S&P) argues.

S&P has confirmed Kazakhstan’s long-term foreign and local currency sovereign credit ratings at ‘BBB’ with a negative outlook which was assigned in February when the agency cut the rating from ‘BBB+’ with a negative outlook. “We retained the negative outlook on the rating which means that there is more than 30% likelihood that negative rating action will be carried out over the next two years,” Karen Vartapetov, associate director for sovereign ratings at S&P, told a conference in Almaty on October 20. “Key factors or triggers for negative rating action are the weakening of fiscal indicators for various reasons, and this could be the quick depletion of reserves or further worsening of macroeconomic conditions, and a new factor influencing the rating is monetary policy.”

The National Bank of Kazakhstan announced on August 20 that it would abandon a trading corridor for the exchange rate of the national currency, the tenge, and switch to inflation targeting. The announcement resulted in the tenge falling in value to about KZT255 from about KZT188 against the dollar. High volatility on the currency exchange market in September prompted the central bank to resume interventions in the currency market, spending billions of dollars in less than a month. As a result, the tenge strengthened from all time lows of KZT300 against the dollar and it has been trading around the 275 mark in the past three weeks.

The unpredictability of the tenge’s behaviour because of the National Bank’s technical unpreparedness for inflation targeting and the free-floating exchange rate regime, as well as uncertainty concerning the transfer of power in Kazakhstan in the medium term, are the main factors influencing the country’s sovereign ratings, Vartapetov said in an interview with bne IntelliNews.

“In assigning ratings we assess the efficiency of government institutions because a mechanism of transferring power has not yet been tested and the government system is highly centralised and lacks a system of checks and balance in Kazakhstan,” Vartapetov said. “It is hard to predict the vector of economic policy in the medium term as any changes in political power may lead to sharp turns of this vector.”

“This explains why our assessment of the efficiency of the institutional system is relatively conservative. And our assessment of trust in the efficiency of monetary policy is also relatively conservative despite the inflation rate having remained no more than 10%. At the same time, the deeds of the National Bank haven’t always corresponded to its words and promises,” the ratings analyst added. “This encourages distrust among market players whereas this is very important in a switch to inflation targeting.”

Nazarbayev, 75, who has been ruling Kazakhstan since before it obtained independence in 1991, was re-elected for another five-year term with about 98% of the vote on a 95% turnout in a snap presidential poll in April. Observers believe the deteriorating economic conditions would have complicated his re-election with an astonishingly high vote in 2016. Kazakhstan has never held elections deemed fair and free by credible international observers such as the Organisation for Security and Cooperation in Europe.

Before and after the election the incumbent himself and the National Bank repeatedly pledged that there will not be sharp movements in the exchange rate after the tenge was devalued by 19% in February 2014. However, the falling oil price and the weak Russian ruble forced the central bank to suddenly allow the tenge float freely in August, although it had previously said the move would take up to five years.

Vartapetov questioned the Kazakh government’s hasty switch to inflation targeting despite the fact that only in July the National Bank complained that it lacked technical instruments to adopt the new policy. “It has very few such instruments and it takes time to devise them. Another problem is that in order to set a target for inflation it should have very reliable macroeconomic and statistical models, the development of which also takes time,” he said, noting that the National Bank needs to establish channels to communicate with markets to explain its actions.

Local experts also question the National Bank’s hasty adoption the free-floating exchange regime which it practically had to abandon in less than a month. “I believe there exists more important problems than the free-floating exchange rate. That we haven’t managed to finally switch to a floating exchange rate or, more precisely, we did switch to a floating exchange rate but abandoned it after three weeks, is a sign of fundamental problems in decision-making processes, the structure of governance and the level of institutional development,” Sabit Khakimzhanov, head of research at Almaty-based investment bank Halyk Finance, told the conference. “Without a free-floating exchange rate we will not be able to switch to inflation targeting.”

S&P believes Kazakhstan’s GDP will grow by 1.5% this year, in tune with the government’s forecasts. The country’s economy expanded by 4.3% in 2014 and 6% in 2013.

The agency forecasts the global oil price to stand at $55 per barrel in 2016, $65 in 2017 and $70 per barrel in 2018.

GDP growth will stand at 2% in 2016, 3% in 2017 and 5% in 2018, according to the agency’s forecasts. Inflation is predicted at 6.2% this year and 8% in 2016, decelerating to 5.5% and 5% in 2017 and 2018 respectively.

The current account balance is expected to be negative and amount to 3.3% of GDP. In 2016, it is predicted to shrink to 2.2% and to 1.4% of GDP in 2017.

Asked by bne IntelliNews on S&P’s view on the embattled giant Kashagan oil field’s impact on Kazakhstan’s growth prospects and sovereign ratings, Vartapetov told the conference that because of repeated delays in the launch of production at Kashagan, in its assessments S&P excluded Kashagan from factors that influence rating actions on Kazakhstan until 2018 “beyond the rating horizon that is two years away”. However, “should the situation develop better than we expect, we might reconsider some of our premises on which our assessment is based”, he noted.

The Kazakh government expects the launch of production in the field by the end of 2016.

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