External shocks weaken Eurasia growth and increase vulnerabilities

External shocks weaken Eurasia growth and increase vulnerabilities
By Naubet Bisenov, Carmen Valache December 21, 2015

The Central Asian and Caucasus countries are likely to continue to suffer from low global oil and other commodity prices in 2016, together with an economic recession in Russia and a slowdown in China. The impact of these external shocks will depend on individual countries’ exposure to trade, remittances and foreign direct investment from Russia and on their reliance on commodity exports.

These significant external shocks have weakened growth prospects and increased vulnerabilities in the region. Despite increases in public spending in 2014, almost all regional economies – except for the isolated Turkmenistan and Uzbekistan – experienced falling growth rates in 2015.

The uncertainty over oil prices has forced governments and international financial institutions to reduce forecasts for economic growth for oil-exporting countries in 2016. Meanwhile, the benefits of low commodity prices for oil-importing countries are being offset by sluggish trade with oil producers such as Russia.

Despite significant devaluations of national currencies against the dollar in 2015 – namely in Kazakhstan by more than 60% and Azerbaijan by 50% – which helped support competitiveness in the short term and preserve forex reserves, the significant drop in export earnings and the dollar values of remittances in poorer countries are continuing to exert considerable pressure on them to devalue further.

Stronger growth in Russia, Europe and regional trading partners may push regional growth to about 4% in 2016, the IMF predicted in November. This growth projection was downgraded from the 4.2% estimate made in May.

The IMF predicts growth for the region’s oil-exporting countries – Azerbaijan, Kazakhstan, Turkmenistan and Uzbekistan – will reach 4% in 2016, 0.4 percentage points down from the May projections, reflecting a further fall in the global price of oil. For oil-importing countries – Armenia, Georgia, Kyrgyzstan and Tajikistan – the IMF predicts a growth of 3%, an increase of 0.4 percentage points compared to the May estimate.


The region’s largest economy, which is heavily based on oil and other natural resources, is perhaps the greatest victim in the region of sluggish global demand and low commodity prices. The government has repeatedly revised growth projections for 2015 downwards as the price of oil continued to fall: it now expects the country’s economy to grow by 1.2% in 2015 against the earlier estimates of 1.5% and 4.3% in 2014. The downgrade is partly blamed on the strong tenge for a prolonged period in 2015, during which Kazakh consumers rushed to make purchases in neighbouring Russia to benefit from lower prices in dollar terms there.

The low global oil price affected the development of the oil sector, the backbone of the economy, as the country’s mature fields require a higher price of oil because of the high costs of extracting oil from them, while the embattled offshore Kashagan field is expected to relaunch production at the end of 2016, according to optimistic government predictions.

The government expects oil output at 77mn tonnes at an annual average price of $40 per barrel in 2016, or 79mn-80mn tonnes at $50 per barrel, or 73mn tonnes at $30 per barrel. The country is expected to produce 79.5mn tonnes of oil in 2015 against 80.8mn tonnes in 2014.

Despite grim prospects for the oil sector next year, the government expects real GDP growth of 2.1% in 2016, 3.6% in 2017 and 2.9% in 2018, according to the central budget for 2016-2018. While the 2016 figure may be repeatedly revised depending on the development of the economy and the price of oil, the high 2017 figure is the result of the expected relaunch of production at the Kashagan field, whose output is expected to reach 13mn tonnes in 2020.

The IMF predicted a 2.4% real GDP growth for Kazakhstan in 2016 in its November outlook, a downgrade of 0.7 percentage points from the May forecast before the oil price dipped below $50 per barrel. At the same time, the World Bank forecasts of October are in tune with the Kazakh government figure – 2.1% in 2016 and 3.3% in 2017.

Because of an actual drop in oil output and export earnings the government envisages transfers from the National Oil Fund at KZT2.4tn (€6.7bn at the current exchange rate) a year in 2016-2018, foregoing the usual annual increase of 15%. At the same time, the government will also draw a total of €4bn to provide a stimulus to the economy in 2016 and 2017.

Despite an over 60% depreciation of the tenge after it was allowed to float freely in August 2015, the Kazakh currency’s exchange rate against the dollar has not yet bottomed out to reach equilibrium.  If the oil price remains below $40 per barrel, this might push the exchange rate down further. The weaker exchange rate would exert inflationary pressure as the tenge cost of imports will go up. Despite this, the government expects to contain inflation within a range of 6-8% in 2016-2017, while the IMF and the WB predict 8.6% and 9.5% in 2016 respectively.

Kyrgyzstan and Tajikistan

Impoverished Kyrgyzstan and Tajikistan have similarly structured economies based on agriculture and remittances migrant labours send home, mainly from Russia. The weak ruble and limited employment opportunities in Russia pushed the dollar value of remittances down by nearly half, which along with falling export earnings widening the countries’ current account deficits, estimated by the IMF at 15.7% and 6.1% of GDP in 2016 respectively.

The key risks to the economic outlook of Kyrgyzstan and Tajikistan are primarily external, as developments in Russia and Kazakhstan, including movements in the ruble and tenge, will directly affect the value of the som and somoni and exert inflationary pressure. Both countries heavily depend on trade, remittances and investment, especially from Russia. The Kyrgyz government has floated the idea of setting prices of goods imported from Russia in rubles, which if implemented could ease inflationary pressure. The Kyrgyz government expects real GDP growth at 5.2% in 2016 and 3.9% in 2017, while the IMF expects it to be 3.6% and the WB 3.5% in 2016. The government forecasts the economy to grow by 3.1% this year.

The Tajik government projects real GDP growth to be 7% in 2016 against the IMF estimate of 3.4% and the WB’s 4.8%. The economy is expected to expand by 7.6% in 2015.

Uzbekistan and Turkmenistan

The region’s most isolated countries, Uzbekistan and Turkmenistan, managed to maintain their economic growth at above 8%, according to government figures, thanks to public spending on infrastructure and housing construction in 2015. Official statistics are unreliable in Uzbekistan and Turkmenistan because of the lack of transparency in methodologies applied by the governments. Nor do authorities consistently publish relative and absolute growth figures for individual sectors of the economy. The Uzbek government expects real GDP growth at 7.8% in 2016, while the IMF predicts 7% growth and the WB projects a 7.7% increase in GDP in 2016. In order to overcome external shocks and maintain growth, the government is expected to support consumption by raising minimum wages, pensions and social benefits, and public spending by investing in industrial and infrastructure projects.

Turkmenistan is reported to adopt a 2016 budget with revenue worth TMT102.5bn ($29.3bn) and expenditure of TMT104.9bn ($30.0bn). Next year’s budget sees little change compared to the 2015 budget, with revenue at TMT102.8bn ($29.4bn) and expenditure at TMT106.2bn ($30.4bn). The Turkmen government’s projections for GDP growth are not reported but the budget falling oil prices have driven down the value of Turkmenistan’s exports of hydrocarbons, its major driver of economic growth and source of foreign currency: exports are set to decrease to $11.61bn in 2015 and $8.93bn in 2016 from $18.54bn in 2014, the IMF predicts. Despite government-reported high levels of GDP growth of above 10%, the budget parameters point to a discrepancy between official statistics and the real situation in the country. Nevertheless, the IMF predicts GDP to expand by 8.9% in 2016, while the WB didn’t provide projections for the Turkmen economy in its October outlook.


A slump in investment is continuing to dampen growth and external demand also remains weak in Mongolia. Fixed investment fell by 43% in the first half , with foreign direct investment (FDI) turning into a net outflow of $27mn from a $363mn inflow in the same period of 2014. FDI plummeted to $381.9mn in 2014, down from $2.14bn in 2013.

FDI flows into the country and recovery in the country’s flagging economy are expected in 2017 after the Mongolian government and Rio Tinto agreed on a $4.4bn underground development of Mongolia’s flagship copper and gold mine Oyu Tolgoi in May 2015.

The WB projects economic growth to slow to 2.3% in 2015, revised downward from 3.3% because of weak crop harvests and slower-than-expected industrial production. Growth is expected to further slow to 0.8% in 2016 because of a sharp contraction in mining production, despite a gradual recovery of the non-mining sector.

Mining production is projected to decline in 2016-17, with lower mineral concentration in ores produced by Oyu Tolgoi mine and the weak global commodity market conditions. Non-mining GDP growth is expected to gradually recover in 2016 after a sharp slowdown in 2015. The non-mining sector of the economy will likely remain weak in early 2016, but a recovery in foreign investment in the mining sector is expected to support the industries supplying goods and services needed for large scale mining investment projects in the latter half of the year.

The Caucasus 

Like in Central Asia, growth prospects in the small countries in the Caucasus – Armenia, Azerbaijan and Georgia – are set to remain subdued in 2016 on the back of lower export revenues, currency depreciation, and shrinking remittances. Oil exporter Azerbaijan predicts GDP growth to fall to 1.8% in 2016 against estimated 4.4% in 2015. Georgia expects a 3% GDP growth and Armenia 2% growth in 2016.

It’s not just economic growth that has been hit by external factors such as the depreciation of the Turkish lira and the Russian ruble this year; the Caucasus currencies have been forced to follow suit. The Azerbaijani manat depreciated the most – by a total of 50% against the dollar during February and December, followed by the Georgian lari, 40%, and the Armenian dram, 15%.

The largest economy in the Caucasus, oil exporter Azerbaijan was perhaps the worst hit economy in 2015, and is facing an uncertain outlook for 2016 and 2017. With oil accounting for over 90% of export turnover and over 30% of GDP, oil prices are the single greatest predictor for Azerbaijan's future economic performance.

As a result of a 60% drop in oil prices in the last 18 months and a 1.5% y/y contraction in Azerbaijan's oil output in January-October, GDP contracted by 6.7% in nominal terms in January-November.

The government anticipates a modest 1.8% GDP growth in 2016, according to the 2016 state budget law voted in October. Baku slashed its expenditure for 2016 to $13.9bn, down from $18.6bn in 2015, which also estimated the baseline oil price at $50 per barrel, down from $90 per barrel in 2015.

Baku is new to budget deficits, for generous oil revenues have ensured sustained surpluses over the last decade, but is expected to incur a $1.6bn deficit in 2016, which it plans to cover using privatisations, foreign and domestic borrowing, grants and the Azerbaijani treasury as a last resort.

While Azerbaijan boasts generous savings worth $34.7bn in sovereign wealth fund Sofaz, and $6.2bn worth of foreign exchange reserves in its central bank, Baku is likely to resort to borrowing rather than its savings to cover next year's deficit. The move, however, could swell the country's commendably low debt to GDP level, which is 15% at the moment, to 25% in 2016, where it should stabilise according to rating agency Moody's.

Meanwhile, a 34% devaluation of the Azerbaijani manat in February and a further 48% devaluation in December have delivered a blow to the banking sector. Prior to February, the manat had enjoyed stable exchange rates for a decade and a four-year peg to the dollar, but Baku had no other option but to switch to a more flexible exchange rate, similarly to other regulators in the region. Floating the currency strengthened the government's balance sheet, but sent consumer confidence and profits, asset quality and lending in the banking sector plunging.

In politics over the last 18 months, authorities have moved to crack down on dissent in an unprecedented manner, and skirmishes at the "line of contact" with Nagorno-Karabakh have been increasing, raising fears that they could escalate into a bigger regional conflict, that would draw in Russia and Turkey. Observers quote economic woes as a partial explanation for both the crackdown on dissent and the violence at the border.

Armenia outperformed expectations for economic growth in 2015, with GDP increasing by 3.3% in January-September on the back of higher-than-expected output in agriculture and mining.

Despite the fact that Armenia is a net importer of oil and gas, it depends "so heavily on oil-exporting Russia, that treating it as [an oil exporter] makes sense", according to Demetrios Efstathiou, head of trading strategy at investment bank ICBC Standard. With the Russian economy expected to pick up in 2016, despite oil price volatility, Armenia is likely to experience GDP growth of 2.2% in 2016 and 2.7% in 2017, according to the World Bank.

In January 2015, Armenia joined the Moscow-led Eurasia Economic Union (EEU) comprising Belarus, Kazakhstan and Russia, with high hopes for greater trade, especially in agricultural products, which did not materialise. Foreign trade turnover shrank by 20.4% y/y to $3.9bn in January-October, with imports dropping the most, by 26.6% y/y.

At the end of 2015, the Armenian economy had stabilised after suffering the shock of a 15% devaluation of the dram in December 2014, and remains "resilient, but vulnerable", according to Efstathiou.

Government debt, meanwhile, might rise to 50% of GDP by end-2016, up from 48% in 2015, which is manageable but presents a risk in that 80% of it is in hard currency, making it vulnerable to currency fluctuations. The dram is floated in a controlled manner, and pressures on it could arise in 2016 if oil prices continue to drop and the Russian ruble depreciates further.

Unlike mining and agriculture, the economic frontrunners in 2015, the country's undeveloped banking sector took a hit in 2015, resulting in a skyrocketing rate of dollarisation (66% of loans, 65% of deposits); weaker growth prospects, with lending contracting by 7% in January-September; and deteriorating asset quality, with the rate of non-performing loans (NPLs) up to 8.5% of total lending at end-September. As a result of these developments, Fitch downgraded the Armenian banks' rating outlook and sector outlook to negative in December.

The most diversified economy in the Caucasus, Georgia was hit by the same external pressures as its neighbours: lower trade revenues and remittances from Russia, which led the central bank to float the lari, resulting in a 40% devaluation of the Georgian currency in 2015. The move was largely commended by international observers, but harshly criticised by the ruling Georgian Dream-led coalition at home, with the regulator coming close to being stripped of its supervisory role over the banking sector.

In a pattern similar to neighbours' Armenia and Azerbaijan, Georgia experienced a 14% y/y reduction in its foreign trade, to $8.9bn, in January-November, resulting in a $4.8bn current account deficit (CAD), or 11% of GDP. While foreign direct investment (FDI) will cover between 75% and 90% of CAD, the country's external debt, at 100% of GDP, is by far the highest in the region and a source of concern. The state owes 30% of external debt, mostly to international financial organisation (IFIs), while the private sector owes more than 90% of its share to banks and other companies. 

With the exception of external debt, the country's macroeconomic fundamentals are healthy enough to withstand shocks in 2016, despite being somewhat eroded in 2015. The fiscal deficit increased to 3.2% of GDP in 2015, from 2.9% in 2014, but Tbilisi is looking to keep it in check in 2016-2017, having set its target at 3%. Meanwhile, the devaluation led to an increase in public debt from 35% of GDP to 42%.

Meanwhile, the banking sector is expected to offset the moderate deterioration in asset quality thanks to significant capital buffers, but "Georgia remains a fairly high-risk market with structurally weak, highly dollarised and cyclical economy, and weak external finances", rating agency Fitch writes in a December report. Banks should experience moderate growth in lending and reasonable asset quality in 2016, but high dollarisation, which reached 64% of loans at end-September, will remain a problem.

Georgian democracy, by far the best functional in the Caucasus, should pass the test of the parliamentary elections in October 2016 with flying colours despite increased political infighting between the ruling coalition and the opposition, led by the United National Movement (UNM) party.

The animosities between the founders of the two parties – billionaire Bidzina Ivanishvili (GD) and Mikheil Saakashvili (UNM), former president and current governor of the Odessa region in Ukraine – have escalated on an institutional level, as reflected by a chain of political scandals in 2015 revolving around the central bank's supervision of the banking sector, the political influence over the judiciary and the ownership of a television station critical of the government.