A. Real Sector ¹

Output

3. After several years of double digit growth, real GDP growth slowed to an annual rate of about 3 percent in 1998-99, following the onset of the Russia crisis combined with a severe drought in the agricultural sector (Figure 1 and Appendix I, Table 8). The lack of resilience of GDP growth to these external shocks reflected underlying structural fragilities, particularly in the fiscal and governance areas. In the second half of 1998, agricultural output fell sharply following the advent of the Russia crisis; this was exacerbated by the drought. Incipient industrial output growth came to a halt and trade activities were disrupted. Moderate GDP growth continued into 1999 with signs of a modest pick-up in the third quarter of the year, mainly on account of expansion of the service sector and moderate gains in agriculture. Meanwhile, industry showed some recovery in 1999 and construction declined substantially relative to the previous year, following the completion of the Baku-Supsa pipeline and Supsa terminal. The weak fiscal position also played a role in restraining growth, as the government was unable to pay private contractors as well as wages in state-owned construction companies.

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Georgia: Macroeconomic Indicators, 1994-99

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Sources: Georgian authorities; and Fund staff estimates.1/ Commitment basis.2/ Excluding official transfers.3/ 1999 figures are preliminary.

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Box 1.

Revised GDP Estimates

Revised GDP estimates were published by the authorities in January 2000 for the period 1996-1999. These data reflect considerable work on the part of the State Department of Statistics in Georgia to address weaknesses in the compilation of national accounts statistics. A mission by the IMF’s Statistics Department in December 1999 found the data to be basically sound, although a number of further refinements were recommended. The new estimates of nominal GDP are about 34 percent below the previously published data. The biggest change made to the figures was the revision to the estimates for the informal economy. In the past, informal activities were estimated at more than 40 percent of total GDP. Following the revision, these activities now account for about 25 percent, which is more consistent with those in other transition countries.

4. After a period of steady growth agricultural output, which accounts for about one-third of GDP, declined sharply in 1998 but appeared to recover somewhat in 1999. Developments in the sector during 1998, reflected inter alia the impact of extremely unfavorable weather conditions, in particular a severe drought; as well as hail and mudslides, which hit several grain-producing regions just before the harvest season. Some recovery in agriculture was registered in 1999, with a moderate output gain of about 5 percent, reflecting successful grain, tea and early potato harvests. However, the lack of a well developed land market and limited access to credit continue to constrain growth in the sector (see Section II.E).

5. Industrial output continued to decline as share of GDP in the two-year period, 1998-1999 relative to 1997, reflecting in part inadequate restructuring in a number of industries and a shortage of long-term credit. ² These developments were further aggravated by the Russia crisis in the second half of 1998. After expanding by 5 percent in 1997, industrial output fell by some 6 percent in 1998 mainly due to a sharp decline in the fourth quarter. In 1999, output recovered relative to 1998, increasing by about 7½ percent. However, the performance among industries was uneven. Across industries, food processing companies made substantial gains in recent years, in particular in terms of fruit juice, soft drinks, beer and dairy products (Appendix I, Table 9). These products appear to have a comparative advantage over imported goods on the local market owing to lower transportation costs and cheap locally-produced agricultural inputs. Meanwhile, although registering some gains in 1997, heavy industry suffered among the largest setbacks in 1998 relative to other industries, particularly in steel, ferrous metal and machine tools, reflecting in part inadequate restructuring.

6. As in previous years, a major obstacle for private business development in Georgia was the poor state of the energy sector, mainly electricity (see Chapter VI). Despite the privatization of Telasi power company at the end of 1998, power cuts remained frequent in 1999 and the added cost of generating their own electricity (through the use of power generators) remained a major burden to enterprises. After increasing somewhat at the beginning of 1998, production and total supply of electricity declined in the fourth quarter of 1998 and in the first quarter of 1999 relative to a year ago. Output at the hydro power plants was adversely affected over this period on account of the scarcity of water following the severe drought in 1998.

Labor Market Developments

7. The labor market in Georgia is relatively free and open. Under the presidential decree of June 4,1999, the monthly minimum wage was to be binding for both private and public sector employees.³ Wage negotiations take place between employees and employers. At present, trade unions are not politically powerful. Some local and small scale strikes have taken place recently among teachers, pensioners, and workers in the energy and transport sectors due to lack of payment of wages. The major reason for the lack of powerful unions, most of which are organized under the Georgia Trade Union Amalgamation which represents ½ million workers across 32 sectors, is that they represent workers in the formal economy, and hence exclude the sizeable number of workers in the informal economy (estimated at 750,000 as of end-1997).

8. After several years of increases, total employment in Georgia fell between end-1997 and end-1998 (Appendix I, Table 11).⁴ The decline was mainly due to a reduction in self-employed persons, which accounted for 69 percent of total formal employment at end-1998. About 87 percent of self-employed workers are in agriculture. The large share of self-employed workers in agriculture is explained in part by the Law on Employment, under which all people and their families with access to agricultural land (1 hectare or more) are considered to be self-employed.

9. The unemployment rate, which was about 12½ percent at the end of 1998, stood at 13 percent in 1999 based on the ILO standard definition (Appendix I, Table 12).^{5 6} In addition, it is likely that under-employment and hidden employment remain widespread. Many employees in the public sector are paid only token salaries on an irregular basis. In addition, a large number of laid-off workers find both primary and secondary jobs in the informal economy.

10. After registering substantial gains in 1997 and 1998, real wages in the formal sector contracted, reflecting the impact of higher inflation at the end of 1998. Over the first half of 1999, average real wages for the total economy declined by about 6 percent, (Figure 2; Appendix I, Tables 13 and 14). Despite the gains made in earlier years, monthly wages remain very low at about US$30 as of June 1999. Across economic sectors, the largest increase in wages was recorded in public education, where nominal wages had been unduly depressed, while wages in construction and the transport sector were among the highest in the economy. The monthly minimum wage was raised in June 1999 from lari 19 to lari 20. Monthly minimum pensions were increased to lari 14 in November 1998. No reliable information is available about wages in the informal economy.

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Georgia: Average Monthly Wages for the Whole Economy, 1995-99

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Sources: Georgian authorities; and Fund staff estimates.

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B. Fiscal Sector

Overview

12. After several years characterized by robust improvements, fiscal performance leveled-off in 1998-99 and fell considerably short of budgetary expectations (Appendix I, Table 16 and Figure 3). While there was a reduction in the overall deficit of the general government in 1998 relative to 1997, there was also a significant shortfall in tax revenue, a large accumulation of expenditure arrears, and a decline in the ratio of tax revenue to current expenditure. Several factors contributed to these results, including the lack of a firm implementation of the fiscal measures introduced in May/June and November 1998, and the onset of the Russia crisis in mid-August which adversely affected overall economic performance. Diminishing marginal returns to improvements in tax administration and tax reforms (reflecting the fact that prior reforms had captured many of the easier gains) may also have played a role in the weakening of the overall fiscal performance in 1998. Moreover, attempts to reform the revenue collection agencies were often met with resistance by insiders who benefited from widespread corrupt practices, thus undermining revenue collections (Box 2).

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Georgia: Public Finances, 1995-99

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Sources: Georgian authorities; and Fund staff estimates.1/ Commitment basis.

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Box 2.

Fiscal Institutional Setting

During 1998, there were no major changes in the institutional structure of the general government, which comprises central and local governments and the extrabudgetary funds. In December 1999, a new revenue ministry was created, to which the State Tax Department (STD) and the State Customs Department (SCD) henceforth will be responsible to. The local governments include two autonomous republics (Abkhasia and Adjara), 10 administrative regions, and 53 administrative districts. There are three extrabudgetary funds, the Social Security Fund (SSF), the Road Fund, and the Employment Fund, which in conjunction with the central government are referred to as the state government.

Local government budgets, unlike the state budget, are not subject to parliamentary approval, but are nonetheless largely influenced by the state government. For example, local governments have no legal authority to levy their own taxes, but rather are allocated a portion of revenue from the various state taxes, with the shares varying according to both the region and type of tax. In 1999, the local authorities’ revenue share amounted to 30.4 percent of general government revenue. There are, however, also a group of what are essentially local taxes for which local governments receive 100 percent of the revenue, including property taxes. On the financing side, approval by the President (following advice by the Minister of Finance) is required by any jurisdiction that intends to borrow money both domestically and abroad.

13. Numerous fiscal measures were introduced by the government in May/June 1998 and again in November 1998 to redress the underlying fiscal weaknesses. The May/June measures aimed at increasing tax revenue and reducing expenditure commitments through sequestration to correct slippages in fiscal performance, especially regarding tax collections, clearance of domestic expenditure arrears, and reduction of tax arrears. The November fiscal package reflected the authorities’ renewed policy response to increasing tax revenue shortfalls experienced during the third and fourth quarters of 1998. The package included numerous measures that broadened the tax base by eliminating certain exemptions and preferential rates (Box 3). In addition, the parliament approved further expenditure cuts with respect to the 1998 budget amounting to lari 53 million (1 percent of GDP); for the most part, the cuts had already been executed de facto by the Ministry of Finance.⁸ Though these cuts in expenditure were insufficient to make up for the underperformance of revenues.

14. The fiscal difficulties continued through 1999. While there was progress in some areas, such as the elimination of tax offsets and the implementation of excise stamps on cigarette and alcohol, the problems of revenue shortfalls, expenditure arrears, and unrealistic budgets continued. In April 1999, excise stamps on cigarettes were introduced, and the expansion of the Large Taxpayer Inspectorate (LTI) was accelerated during the first half of the year. With effect from July 1999, the policy of granting tax offsets was abolished by decree. However, an expenditure control framework recommended by a technical assistance mission from the IMF was not implemented as expected during the year. As a consequence of this, as well as the unrealistic budget, expenditure was sequestered, but the sequestration proved insufficient to curtail spending for the remainder of the year. A revised budget for the year was therefore introduced in December 1999, partly in order to normalize, ex-post, actual expenditures that had not been approved in the original budget for the year.

C. Monetary Sector

Overview

31. Georgia’s monetary developments were characterized by strong growth in monetary aggregates, against a background of declining inflation and exchange rate stability from 1997 through mid-August 1998. However, the situation deteriorated in the final months of 1998 (Figure 4 and Appendix I, Tables 25-31). In particular, the Russia crisis as well as widespread publicity over budgetary problems triggered a sharp decline in lari money demand, which lead to excess demand pressures in the foreign exchange market The NBG intervened heavily in the foreign exchange market to defend the lari/dollar exchange rate, while at the same time tightening the stance of monetary policy. However, these measures were insufficient to eliminate pressures on the lari. In the event, the NBG stopped intervening in the foreign exchange market on December 7,1998, allowing the lari to float freely since then.

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Georgia: Monetary Indicators, 1997-99

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Source: National Bank of Georgia.1/ Difference between amount sold and amount purchased.

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32. Monetary policy continued to be relatively tight in the first half of 1999, in support of the floating rate. However, by September 1999 the deteriorating budgetary situation and the run up to the elections in October placed pressure on monetary policy and there was a substantial increase in government credit, contributing to an increase in reserve money.

33. While the banking system appeared to weather the challenge posed by the effects of the Russia crisis, dollarization increased and the nascent treasury bill market was curtailed. Moreover, the lack of a treasury bill market caused a major setback to the development of indirect monetary instruments. ¹⁵

D. External Sector ¹⁹

41. Following an increase in 1997, the current account deficit (excluding transfers) widened further in 1998, from 16.5 percent of GDP in 1997 to 17.5 percent (Appendix I, Table 32). While the data on trade flows are subject to a wide margin of error, they do suggest that the impact of the Russian crisis in the last quarter of 1998 contributed to a significant slowdown of exports, as well as to a rapid growth in merchandise imports in response to the real depreciation of the Russian ruble in the last few months of 1998. In 1999, the current account deficit (excluding transfers) is estimated to have improved to about 14.1 percent of GDP.

42. According to staff estimates, merchandise exports in 1998 declined in nominal US$ terms by 3 percent compared with the strong growth recorded over the previous two years (Appendix I, Tables 32).²⁰ Exports showed steady improvement through the first three quarters of 1998 over the similar period in 1997, growing by about 11 percent in nominal terms, but then fell sharply in the fourth quarter by almost 40 percent on an annual basis. Much of the decline was due to the impact of the Russian crisis in 1998; Russia was the single largest market for Georgian exports accounting for almost 29 percent of the total in 1998.

43. Total merchandise imports grew by 11 percent in 1998 compared to 37 percent in 1997 (Appendix I, Table 32). As in 1997, much of the growth in imports was driven by imports associated with the construction and refurbishment of the “early oil” pipeline connecting Azerbaijan to the Black Sea. Official imports from Russia grew sharply in the second half of 1998, in particular following the sharp devaluation of the Russian ruble in the fourth quarter of 1998. For the year as a whole, imports from Russia increased by 67 percent in nominal terms compared to 1997.

44. Staff estimates for 1999 indicate a modest pick-up in export growth and a sharp decline in imports. In line with the real depreciation of the lari from the fourth quarter of 1998 through the first quarter of 1999, exports have increased. In particular, exports to Turkey, Germany and Italy gained momentum, while the declining trend in the share of Russia in total exports continued. The decline in import growth can, in part, be explained by the completion of the oil pipeline project.

45. According to the official trade data for 1998, Russia remained Georgia’s largest trading partner, accounting for 29 percent of its export market, and 15 percent of its total imports. Following Russia were Turkey (11 percent of exports, 11 percent of imports) and Azerbaijan (10 percent of exports and 8 percent imports).²¹ In 1999, Russia’s share of Georgian exports declined to 19 percent, while the share of Turkey (16 percent), Germany (10.3 percent) increased significantly. Russia’s share in Georgian imports increased further to 19 percent in 1999. The share of imports of the United States, Turkey, and France also increased.

46. The service account continued to improve, registering a surplus of US$86 million in 1998, compared to a deficit of US$12 million in 1997. Much of this improvement was due to the strong growth in credit for business and personal travel and, in particular, in the compensation of short-term Georgian workers living abroad.²² Inflows from short-term workers’ compensation were estimated to be around US$186 million in 1998 compared to US$181 million in 1997. Despite the fallout from the Russia crisis, inflows of short-term workers’ compensation remained strong throughout 1998, and actually grew during the last quarter of the year. While most short-term workers are employed in the Baltics, Russia, and other former Soviet Union countries (BRO), some of them are also located in Australia, Germany, Greece, Turkey, and the United States and their incomes were likely not affected significantly by the Russian crisis.²³ Income from business and personal travel also recorded a net increase, largely due to the increased number of foreigners visiting Georgia for tourism and business-related reasons. The improvements in the credit side of the service account are estimated to have continued in 1999.

47. On the debit side of the service account, interest payments on external debt in 1998 amounted to US$42 million of which US$32 million was for Georgia’s quarterly payment to the special account of the Netherlands Bank for interest on rescheduled debt The remaining US$10 million represented interest payments to multilaterals and for new bilateral lending. Georgia remained current on all interest obligations falling due in 1999. Interest payments in 1999 amounted to US$50 million, of which US$32 million was interest due to bilateral creditors on rescheduled debt.

48. Transfers (including private transfers) totaled US$211 million in 1998, up from US$196 million in 1997. Official transfers, of which the EU, the Netherlands, and the United States are the largest contributors, fell in 1998. By contrast, private transfers, made up of remittances from long-term Georgians working abroad, grew from US$103 million in 1997 to US$137 million in 1998. As with the compensation to short-term workers, the inflow of workers’ remittances remained steady during 1998, despite the impact of the Russian crisis. In 1999, transfers are estimated to be about US$175 million, of which official transfers amount to about US$68 million.

49. The capital account remained almost unchanged compared to 1997, largely on account of a small decline in foreign direct investment and the drawdown of foreign exchange reserves of the commercial banks. Total disbursements of medium and long-term loans grew by 5 percent to US$112 million. The World Bank remained one of Georgia’s largest creditors with total lending of around US$74 million in 1998. The World Bank approved several IDA projects in 1998 including those for Enterprise Development, Cultural Heritage, and Coastal Integration. In addition, the World Bank disbursed the second tranche under its SAC II program of US$20 million in December 1998. The EBRD approved two projects in 1998—the Enguri Hydropower Plant and the Trans Caucasian Rail Link, and disbursed US$9 million under existing projects in the areas of banking, manufacturing, and power rehabilitation. The remaining disbursements were made up of new bilateral lending from Germany and the U.S. which amounted to around US$30 million. Disbursements of medium- and long-term loans in 1999 amounted to about US$145 million. Disbursements from the World Bank in 1999 totaled US$74 million. In addition to disbursements of US$20 million from SAC III and US$12.5 million from the ESAC, disbursements in support of projects in the areas of education, water facilities, enterprise development, judicial reform, and coastal integration account for the rest. Disbursements from the EBRD in 1999 amount to US$33 million. These were directed at ongoing projects in power rehabilitation and the Trans Caucasian Rail link. The remaining disbursements were make up of new bilateral lending from Germany, Japan, and commercial loans.

50. Amortization payments falling due in 1998 totaled US$79 million, all of which were due to Turkmenistan. In December 1998, Georgia made a payment of US$22 million to Turkmenistan, of which US$19.8 million equaled one quarterly amortization payment on debt obligations, while US$2.2 million was payment toward extinguishing arrears on payments for gas imports in 1995. Georgia’s external arrears to Turkmenistan amounted to US$59 million in 1998. With Georgia making a payment of US$25 million to Turkmenistan in December 1999 as partial payment toward principal obligations of US$79 million falling due in 1999, arrears to Turkmenistan increased to USS$113 million at end-1999.

51. Other capital, which includes foreign direct investment (FDI) and foreign exchange deposits in commercial banks increased to US$218 million in 1998. FDI fell slightly from US$236 million in 1997 to US$221 million in 1998—as a share of GDP, from 4.5 percent to 4.2 percent. Much of the FDI was due to the work of the “early oil” pipeline Unking Sanachal in Azerbaijan and Supsa in Georgia which was completed in early 1999. Investment in the oil pipeline was estimated to be around US$174 million in 1998. Other major areas for FDI include energy and light industry (e.g., food, glass, and pharmaceuticals). The largest source of FDI flows was the U.S., followed by the U.K., Azerbaijan, and Russia. FDI in 1999 is estimated to have declined sharply, reflecting the completion of the oil-pipeline project.

52. Exceptional financing in 1998, which included macroeconomic support from the EU, other exceptional assistance, and external arrears financing, amounted to US$36 million in 1998. In July 1998, Georgia cleared its outstanding arrears with the EU, totaling around Euro 131 million (US$144 million), as part of an exceptional financial assistance package agreed in December 1997. In return, the EU disbursed a new loan of Euro 110 million (US$123 million), and has also agreed as part of its exceptional assistance package, to provide up to Euro 55 million (US$65 million) in grant assistance to be disbursed in successive annual tranches for helping meet Georgia’s future obligations to the EU. The first grant tranche of Euro 10 million was received in August 1998, while a second tranche for Euro 9 million was received in September 1999. In July 1998, Georgia received the first disbursement of US$37 million under the third-year ESAF arrangement Exceptional financing in 1999 included external arrears financing of US$54 million (Turkmenistan) and Fund financing. In July 1999, the Executive Board completed a review of Georgia’s ESAF arrangement and, as a result, Georgia made the final purchase under the ESAF-supported program of US$46 million in August.

53. Gross international reserves fell by some US$55 million, from US$173 million at end-1997 to US$118 million at end-1998 (Figure 5).²⁴ In terms of import coverage, gross reserves fell from 2 months in 1997 to 1.2 months in 1998. For the year, foreign exchange inflows to the NBG amounted to US$116 million, of which about half (US$57 million) represented disbursements from the IMF and the World Bank. Foreign exchange outflows for 1998 totaled US$171 million, of which US$42 million was for official debt-service payments. The gross international reserves position remained almost flat as of end-1999 relative to end-1998. Reserves at end-1999 were US$128.5 million, providing a cover of about 1.5 months of imports of goods and services. Foreign inflows totaled US$105 million, of which disbursements from the World Bank and the Fund accounted for about US$80 million. Grants from the EU for debt operation account for about US$9 million. Outflows totaled US$99 million, most of which represented debt servicing.

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Georgia: Foreign Exchange Market and International Reserves, 1997-99

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Source: National Bank of Georgia.1/ No interventions occurred in January nor February 1999.

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54. At the end of 1999, Georgia’s total stock of external debt stood at US$1,754 million, of which nearly all is public or publicly-guaranteed debt (Appendix I, Table 36).²⁵ External debt rose from 44 percent of GDP in 1997 to 63 percent in 1999. Multilateral creditors, including the IMF, made up around 52 percent of the entire stock, while bilateral debt made up the rest. Of the total stock of bilateral debt, Turkmenistan is the largest creditor (20 percent of the total stock of external debt), followed by Russia (10 percent) and Austria (6 percent).

55. Actual debt-service payments in 1998 amounted to US$89 million, of which US$22 million was for principal repayment. Georgia continued making quarterly interest payments of US$8 million into a special account at the Netherlands Bank on its rescheduled stock of bilateral debt while it remained current on all other interest payments. Total debt service due as a share of exports of goods and non-factor services increased from 6 percent in 1997 to 17 percent in 1998. In February 1998, Turkey agreed to reschedule its stock of debt valued at US$54 million with an interest rate of 4 percent, 7 years grace from end-1994, and 16 years maturity. As a result of the agreement with Turkey, Georgia has now concluded a round of debt rescheduling with all its bilateral creditors. Debt-service payments in 1999 amounted to US$77 million, of which US$25 million was partial payment toward obligations falling due to Turkmenistan. Georgia continued to remain current on all interest payments.

56. The nominal exchange rate against the U.S. dollar depreciated sharply in 1998 by 27 percent, following a 3 percent decline in 1997. Much of the decline took place in the last three months of the year (Appendix I, Table 38). The end-of-period lari/US$ exchange rate declined from 1.304 in end-1997 to 1.790 at end-1998. At end-March 1999, the exchange rate has depreciated even further to 2.215. Since then, however, it has appreciated and remained stable at about 2 lari/US$.

57. Largely as a result of its continued low inflation relative to its partner countries, the real effective exchange rate for Georgia is estimated to have declined in 1998 by about 8 percent. End-of-period inflation in Georgia was estimated to be 11 percent in 1998, compared to 29 percent in its partner countries. In 1998, in real terms, the Georgian lari depreciated against the Turkish lira by 25 percent, the U.S. dollar by 19 percent, the Azeri manat by 17 percent, and the Armenian dram by 14 percent (Figure 6). However, against the Russian rouble, the lari appreciated in real terms by 49 percent in 1998. After a real depreciation between November 1998 through the first quarter of 1999 (9 percent), there has been a gradual appreciation of the lari through September (18 percent). This trend in the real effective rate is discernible across the currencies of all major trading partners.

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Georgia: Bilateral and Real Effective Exchange Rates, 1995-99 1/

(1995 = 100)

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Source: IMP, Information Notice System; and Fund staff estimates.1/ Increase indicates appreciation.

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E. Structural Reform ²⁸

60. While there has been significant progress in small scale privatization, the government’s program for medium- and large-scale privatization has only just started to be implemented.²⁹ Some 12,860 small scale enterprises were privatized between 1993-98 and about 80 percent were in the trade and services sector. While 900 of the 1,250 medium and large-scale enterprises had been privatized by end-1998, the majority of enterprise equity remained in government hands (estimated at over 75 percent of the original state-owned portion), as most of the enterprises sold were small, with relatively low asset values.

61. To accelerate the privatization of medium-and large-scale enterprises, a new law, which allowed for auctions without floor prices, was introduced in May 1999. A new privatization strategy, which will gradually include nearly all infrastructure (e.g., telecommunications, postal services, railways, ports), was adopted in 1998; this was supported by a Presidential decree abolishing a previous regulation suspending the privatization of “strategic” enterprises. The highlight of the reform program was the privatization of the Telasi power company in December 1998, with 75 percent of the shares sold to a U.S. investor (AES) via international tender (See Chapter VI). Receipts from the sale of Telasi (approximately US$25 million) represented an important source of foreign financing for the central and local governments. ³⁰

62. During 1999, about 50 medium- and large-scale enterprises were privatized through tender, public auction, direct sale or liquidation. These privatized enterprises included major producers in cement, tobacco, textiles, construction and mining. However, total receipts amounted to only lari 52 million, reflecting enterprise indebtedness, the poor state of the capital stock, and social obligations. In 1998-99, the government entered into four-year management contracts with four companies—Rustavi metallurgical plant, Madneuli cooper/gold mine, Phero (non-ferrous metallurgical) plant, and Borjomi bottled mineral water plant—which are scheduled to run until 2002-3. The government is committed to the full privatization of these enterprises once the management contracts expire.

63. Agricultural land privatization, which began in 1992, continued in 1996-97 through land leasing programs and then accelerated in 1999 through the survey and registration of agricultural land.³¹ The government’s reform program envisages the creation of a land registration system, which would be the basis for the development of a land market (e.g., bank collateral, mortgage of land). In 1999, with assistance from the World Bank and USAID, the government was able to start the registration of agricultural land parcels that had been surveyed. As of December 1999, approximately 330,000 plots had been titled.

64. Privatization of urban and industrial land started in 1998. By end-1999, over 3,200 private enterprises had registered their land holdings with the regional and municipal registrars of the State Department of Land Management. The law allows the sale of land to privatized enterprises, private legal persons, and private citizens based on existing documentation without additional surveying.³² The registration of the privatized land is also envisaged.

65. A second law created the framework for the privatization and lease of state-owned nonagricultural land.³³ The shortcomings in the initial version of the law, e.g., leasing in favor of privatization, and broad discretionary powers for the government agencies in charge of the land’s disposal were eliminated. However, the regulations for full enforcement of the law are not yet worked out.

66. Another important step toward structural reform was the government’s initiatives in the area of judicial reform. Judges were required to pass an examination in order to retain their seats. In May 1999,150 new judges were sworn in following four examinations; these examinations were judged to have been fair by international observers (see Chapter III).

Establishing the Rule of Law

68. The principal concept in the rule of law is the supremacy of the legislative framework over other considerations—in other words a law-based state as specified in Article 1 of the Constitution of Georgia. In principle, state power is to be exercised and based upon legal principles as specified in Article 54 of the Constitution of Georgia and state officials and their agents act in accordance with the law. Moreover, the law is meant to be accessible to all individuals and legal claims are to be recognized and enforced. Where disputes arise, they are meant to be resolved through impartial adjudication through the appropriate legal body. Correspondingly, this implies that the judiciary is in principle broadly independent of the executive.

69. An important part of Georgia’s legacy from the Soviet period has been an inheritance of strong informal networks defined by regional, personal or clan loyalties. These informal networks thrived in the command economy environment as a means of allocating resources outside of the externally determined economic plan. As a result, a culture which accepted rule-breaking arose in conjunction with a subtle system of persuading outsiders that the plan or other rules were being followed faithfully. Civil unrest in the early 1990’s combined with a reduction of the effectiveness of state bodies further reinforced informal networks and the shadow economy. Nonetheless, in the transition from a planned economy to a market economy, the legacy of informal networks has been increasingly challenged by the emerging rule of law which allocates resources and resolves disputes according to clearly specified legislative norms.

Preconditions for Rule of Law

70. Georgia successfully established a constitutional parliamentary democracy, after a period of civil war and economic instability that ensued after regaining independence. In August 1995, a new constitution of Georgia was enacted which set the basic framework of a law-based state. Shortly thereafter, national elections in accordance with the constitution put in place the head of state and parliament against a background of increasing political stability. Local elections in November 1998 passed control of city councils in six major cities to the opposition. National parliamentary elections in October 1999 also confirmed the continuity of a democratically elected legislature.

71. The democratic process has withstood several potential threats, including two assassination attempts against President Shevardnadze (September 1995 and January 1998). Political stability has also been achieved in the face of significant internal and regional territorial tensions. The Abkhazia region—and to a lesser extent the region of South Ossetia—continues to contest Georgian sovereignty while the autonomous region of Ajara periodically challenges central authority. Moreover, the regional situation remains tense with Russian military activity in both Chechnya and Dagestan regions of the Russian Federation in 1999.

Development of the Legislative Framework

72. Georgia has continued to develop the legal framework for a market economy. Since 1995, laws enacted by parliament have increasingly displaced Presidential decrees as the main vehicle for decision making (see below).³⁴ In 1997, legislative codes were approved for the tax system, customs system, and a civil code; although these have been periodically amended. During 1998–99, the parliament passed the criminal code, criminal procedure code and the administrative code.

Georgia: Number of New Laws and Codes Approved by Parliament

^1/Includes five codes: Naval, Tax, Civil, Customs and Civil Procedural.

^2/Includes Administrative Code and Criminal Procedure Code.

^3/January-September. Includes Forest Code and Criminal Code.

Georgia: Number of New Laws and Codes Approved by Parliament

1990	1991	1992	1993	1994	1995	1996	1997 1/	1998 2/	1999 3/
4	2	0	7	7	12	57	61	58	51

^1/Includes five codes: Naval, Tax, Civil, Customs and Civil Procedural.

^2/Includes Administrative Code and Criminal Procedure Code.

^3/January-September. Includes Forest Code and Criminal Code.

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Georgia: Number of New Laws and Codes Approved by Parliament

1990	1991	1992	1993	1994	1995	1996	1997 1/	1998 2/	1999 3/
4	2	0	7	7	12	57	61	58	51

^1/Includes five codes: Naval, Tax, Civil, Customs and Civil Procedural.

^2/Includes Administrative Code and Criminal Procedure Code.

^3/January-September. Includes Forest Code and Criminal Code.

73. Significant progress has been made in adopting legislation that regulates a market economy. As discussed in Box 4, legislation has been enacted for the operation of the land market and securities market, for adopting international accounting standards, and reforming the judicial system.

Enforcement of Legislation

74. The judiciary does not yet enjoy the broad support of the population in impartially applying the legislative base, according to consumer surveys, although the authorities have prioritized improvement of the judicial system to address these concerns.

75. As discussed in Box 4, parliament passed the Law on Common Courts, which requires judges to pass an examination in order to retain their seats. The Constitutional Court suspended part of this law in 1998, relating to the appointment of judges, on the grounds that it provided insufficient basis to remove judges before their term was complete. However, an amendment to the Law on Common Courts addressed the legal basis of this ruling, and newly accredited judges began to take their seats in mid-1999, following four examinations judged to be fair by international observers. The law also provides for increased salaries for judges. While the new judges are being selected in a transparent manner, they will remain a focus of financial and political pressure. An additional unresolved issue is whether “lay judges” selected through a political process will continue to adjudicate in serious criminal cases.

76. Further reforms to the legal process are in progress. During 1999, public notaries have begun an accreditation process. In 2001, an accreditation procedure for officials in the procuracy is envisaged.

77. Enforcement of legislation is also hampered by ambiguity in many of the legal texts. In part, this reflects outdated legislation still in effect, the rapid pace of the legislative drafting process and lack of familiarity with new laws. Legal problems take a number of forms including: imprecise definition of terms in laws; imprecise drafting of laws which makes two or more interpretations possible; contradictory drafting in different laws; technical errors, e.g., in cross-referencing other articles; and subsidiary implementing regulations not consistent with governing law.

78. Government officials also have a reputation for dishonesty in the eyes of the public, businessmen, and other government officials, as established by a World Bank sponsored survey in 1998. Officials are not seen as objective enforcers of regulations. On the contrary, it is not unusual for government officials and departments to operate businesses, some in areas which they regulate.

79. Georgia possesses a free press, which can reinforce the role of the justice system in enforcing the rule of law. It is not unusual for the press to report on accusations of corruption and violations of law, even at a high level. Nevertheless, accusations often appear to reflect the agenda of media backers, undermining their credibility. In addition, prosecutions of judges and government officials are extremely rare, even in well-known cases of corruption; in most instances, the penalty is a loss of position or reassignment.

80. The loose interpretation of contracts—particularly the lack of enforcement of hard budget constraints and respect for property rights—has undermined Georgia’s financial stabilization and impeded the emergence of a formal market economy. Although Georgia has established political stability and an extensive new legal framework, strict enforcement remains elusive. The following section discusses the difficulties faced in budget implementation, where public sector commitments are not fulfilled on a timely basis. This in turn sends a signal to the private sector that non-payment and non-fulfillment of contracts is an inevitable facet of economic life.

The Soft Budget Constraint

81. Georgia has a history of unfulfilled budgets. During the last three financial years, unpaid domestic budgetary obligations—largely in respect of wages, pensions and social benefits—have cumulated to an estimated level (at end-December 1999) of lari 240 million (just over 4 percent of GDP).

82. The obstacles to budget fulfillment arise on both the revenue and expenditure sides. Weak tax compliance is closely linked to corruption and tax evasion, as well as the extensive shadow economy. Roughly half of the tax revenue that could be raised at existing tax rates is foregone (see Annex I). Effective tax rates on many excisable goods are very low by international standards, in part resulting from political influence and patronage, which at times have been translated into de jure exemptions incorporated in the Tax Code and customs tariff. These sectors include cigarettes, alcohol, fuel products and automobiles. In addition, the limited authority of the central government in some regions facilitates smuggling and hampers the transfer of revenue to the central budget. Likewise, transit across Georgia into neighboring countries, especially of petroleum products, cigarettes and ethyl spirits, is open to potential abuse.

83. Tax arrears are widespread, for example tax officials indicate that only 20 percent of the 600 largest taxpayers pay taxes due in full and on time. However, court cases are rarely successful in recovering unpaid taxes. An official assessment of the ten largest delinquent taxpayers in mid-1999 showed that in four cases enforcement actions envisaged in the tax code had not been taken, in three cases court proceedings had been inactive since 1997 and in one case, a court rejected the request for bankruptcy proceedings. A major factor in the persistent high level of tax arrears (and accrued fines and penalties) is the unwillingness of the authorities to pursue arrears of state enterprises (although, many are not profitable), which is equivalent to issuing a tax preference. ³⁵

84. Profits from state-owned assets are another source of foregone revenue. In general, state-owned enterprises do not submit dividends or profits to the budget, with the exception of the NBG. Although many state-owned enterprises are not profitable, enterprises which could submit dividends to the budget include the ports, railways, airport, local and international telecommunications, natural gas transit and distribution, oil extraction, and privately managed state-owned hotels. A better managed electricity generation and distribution system could also contribute to the budget rather than being a drain on it. The revenue from state forest is not transferred to the budget, but to enterprises which maintain the forests. The budget did not receive significant license revenue from the issuance of three cellular telecommunications licenses, worth tens of millions of U.S. dollars.

85. Budget constraints also do not operate effectively for many large state-owned enterprises. They have significant accumulated arrears on tax payments, wages and supplier contracts. As described in Chapter VI, the lack of financial discipline is particularly acute in the energy sector where sizeable off-balance sheet liabilities have been accumulated.

86. The difficulties in executing the budget extend beyond shortfalls in revenue. Monthly cash limits for expenditures have not fully reflected revenue shortfalls, with the result that the limits are not fulfilled. In addition, the increase in expenditure arrears cannot be explained by shortfalls of revenue alone. The other explanatory factors include unrealistic monthly cash limits, the offsetting of tax arrears against expenditure arrears, unbudgeted spending and reallocation of funds by spending units. Budget sequestration during 1997—1999 failed to control expenditure sufficiently to avoid the accumulation of expenditure arrears. The Ministry of Finance’s monitoring of expenditures is partial, focussing on obligations to spending units, rather than the obligations of the government as a whole to the non-government sector. The problem of expenditure arrears has led to other problems, as unpaid suppliers of the government withhold tax payments, seek offsets that distort the allocation of expenditure, or accumulate arrears to other parts of the economy. Thus, financial difficulties of the government have set the pattern for the economy as a whole.

Legal System Enforcement in Other Sectors

Poverty and Income Distribution Profile as of end-1997 ³⁶

93. In Soviet times, poverty was not widespread in Georgia. The main reasons were Georgia’s relative economic prosperity (supported in part by favorable terms of trade vis-à-vis other Soviet republics) and the fact that the Soviet system ascribed great ideological importance to the elimination or absence of poverty and thus supported a generous system of social transfers. However, the collapse of the Soviet Union and the breakdown of monetary and trade relations among Baltic countries, Russia, and other countries of the former Soviet Union (BRO), together with an increase in energy prices, took a heavy toll on the Georgian economy. In addition, hyperinflation in 1993-94, together with civil war in Abkhazia and forced migration out of conflict zones, led to a substantial impoverishment of the Georgian population.

94. During 1996-97, the restoration of macroeconomic stability and civil order led to a resumption of economic growth and some marginal reduction of poverty rates (compared to 1994). This occurred mainly in the urban areas, although regional differences in poverty rates and high vulnerability to poverty persisted.

95. Poverty rates (i.e., the percentage of the population below the poverty line) in urban areas declined during 1996-1997, reflecting a recovery in transportation and trade and services sectors in the metropolitan centers. Rates in rural areas remained largely unchanged in 1996/97 with respect to 1992/94, mainly due to the low levels of labor productivity in agriculture.³⁷ This said, however, urban poverty remained deeper and more severe than in the countryside. In particular, in 1997, the poverty gap (i.e., the gap between the consumption of the average poor and the poverty line) and squared poverty gap index (measuring the degree of inequality among the poor) in urban areas were 40 and 60 percent, respectively, higher than those in rural areas. The incidence of poverty in rural areas was lower than in urban centers because the rural population had access to land and therefore could achieve higher in-kind consumption. ³⁸

96. There are wide differences in poverty rates and poverty gaps among the regions, with poverty rates in the richest regions (Samegrelo/Poti, Adjara/Batumi) being half of those in the poorest ones (Imereti, Guria). Differences in poverty rates reflect mainly the regions’ initial conditions and hence their differing opportunities for economic growth. In particular, regions with high poverty rates are those areas which were predominantly heavy-industry centers during Soviet times (and which became inactive with the breakup of the Soviet Union) and whose populations have lacked gainful employment opportunities and/or access to land for agricultural self-employment. By contrast, regions with low poverty rates are diversified agricultural and agro-industrial centers, as well as trading centers such as the ports of Batumi and Poti. Geographical differences also play a role. Imereti, with the highest poverty rate, has the highest proportion of the population living in remote, high-altitude areas. Because of lack of road and infrastructure maintenance, many of those areas in the mountainous regions are isolated (i.e., cut off from the market) during winter months.

97. As of end-1997, some 11.1 percent of the total Georgian population were poor, that is, about 600,000 people had a consumption level which was less than the World Bank poverty line.³⁹ Of this total, some 120,000 (equivalent to 20 percent of the poor) were chronic poor whereas 80 percent of the poor were transfer poor—that is, they remained poor for only part of the year.⁴⁰ The fact that the average household in Georgia faces a high risk of falling into some form of poverty during the year suggests that average household consumption is highly volatile and therefore the vulnerability to poverty is high. The volatility of consumption is caused by three main factors: (i) the informalization of the economy and hence a lack of stable employment and income; (ii) the seasonality of in-kind consumption, which ranges from about 13 percent of total consumption in the first quarter of the year (winter period) to about 23 percent in the third quarter; and (iii) the limited ability of households to smooth their consumption due to the limitations of the formal and informal safety net schemes (see below).

98. The majority of the chronic poor (73 percent) are concentrated in urban areas with the Imereti region (formerly a heavy industry center) claiming the lion’s share of the chronic poor (48 percent) followed by Tbilisi (21 percent). This reflects inter aha a high concentration in urban areas of individuals—such as single pensioners, the disabled, single mothers, and those with serious medial conditions—who are less able to make use of informal coping mechanisms.

99. The Gini coefficient based on monetary incomes was estimated for end-1997 at 0.52. ⁴¹ However, the consumption-based Gini coefficient—which is a more accurate measure of inequality in Georgia given the high level of unreported income and in-kind consumption—was 0.36 in the last quarter of 1997. The distribution of consumption in Georgia was thus slightly more equal than in Latin America, but less equal than in most central European transition or BRO countries.

Recent Developments

100. The improvement of poverty indicators observed in 1996-97 was reversed in 1998-99. During 1998-1999, the poverty indicators based on the official (SDS) poverty line worsened (Table 1). The country’s average poverty rate (measured against the SDS subsistence minimum basket) increased from 43 percent in Q4 1997 to 58.5 in Q2 1999. Also, the economy’s poverty gap (depth) and the squared poverty gap (severity of poverty) increased by 19.2 and 5.9 percentage points, respectively. Moreover, poverty rates in urban center appear to have increased faster than those in the rural areas during 1998 and into the first half of 1999, probably as a result of the direct and indirect effects of a rapid accumulation on government wage, pension, and social transfers arrears (see below).

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98

(In percent of population)

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98

(In percent of population)

			Q4 1997			Q1 1998			Q2 1998
Poverty measures			World Bank subsistence minimum	SDS subsistence minimum 1/	40 percent of median consumption	SDS subsistenct minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum	40 percent of median consumption	60 percent of median consumption
Urban poverty
	Tbilisi
		Incidence	8.6	43.8	7.3	47.0	5.2	15.9	54.2	6.5	22.9
		Depth	…	…	…	15.7	1.5	4.5	19.3	1.4	5.8
		Severity	…	…	…	7.3	0.7	2.0	9.2	0.5	2.1
	Average urban
		Incidence	12.1	45.0	10.0	47.9	7.8	18.6	55.9	12.3	28.0
		Depth	3.9	16.0	2.4	17.5	3.1	6.4	23.0	4.0	9.4
		Severity	1.9	8.1	1.2	9.0	1.8	3.4	12.5	2.0	4.6
	Rural poverty
		Incidence	9.9	40.1	7.5	24.3	6.3	10.4	45.3	8.9	20.6
		Depth	2.8	13.9	1.5	9.4	2.5	4.4	17.6	2.8	6.8
		Severity	1.2	6.7	0.6	5.4	1.5	2.6	9.3	1.3	3.2
	Average poverty
		Incidence	11.1	42.7	8.9	37.0	7.1	14.8	51.0	10.7	24.5
		Depth	3.3	14.9	2.7	13.7	2.8	5.5	20.5	3.4	8.2
		Severity	1.5	7.4	1.2	7.3	1.6	3.0	11.0	1.7	4.0

View Table

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98

(In percent of population)

			Q4 1997			Q1 1998			Q2 1998
Poverty measures			World Bank subsistence minimum	SDS subsistence minimum 1/	40 percent of median consumption	SDS subsistenct minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum	40 percent of median consumption	60 percent of median consumption
Urban poverty
	Tbilisi
		Incidence	8.6	43.8	7.3	47.0	5.2	15.9	54.2	6.5	22.9
		Depth	…	…	…	15.7	1.5	4.5	19.3	1.4	5.8
		Severity	…	…	…	7.3	0.7	2.0	9.2	0.5	2.1
	Average urban
		Incidence	12.1	45.0	10.0	47.9	7.8	18.6	55.9	12.3	28.0
		Depth	3.9	16.0	2.4	17.5	3.1	6.4	23.0	4.0	9.4
		Severity	1.9	8.1	1.2	9.0	1.8	3.4	12.5	2.0	4.6
	Rural poverty
		Incidence	9.9	40.1	7.5	24.3	6.3	10.4	45.3	8.9	20.6
		Depth	2.8	13.9	1.5	9.4	2.5	4.4	17.6	2.8	6.8
		Severity	1.2	6.7	0.6	5.4	1.5	2.6	9.3	1.3	3.2
	Average poverty
		Incidence	11.1	42.7	8.9	37.0	7.1	14.8	51.0	10.7	24.5
		Depth	3.3	14.9	2.7	13.7	2.8	5.5	20.5	3.4	8.2
		Severity	1.5	7.4	1.2	7.3	1.6	3.0	11.0	1.7	4.0

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98 (concluded)

(In percent of population)

Sources: World Bank; and State Department of Statistics.

^1/See Box 1 in the text for the definitions of World Bank subsistence minimum for Georgia and the official (SDS) subsistence minimum. The median per capita consumption for each period is estimated by the State Department of Statistics using household survey data.

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98 (concluded)

(In percent of population)

			Q3 1998			Q4 1998			Q1 1999			Q2 1999
Poverty measures			SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption
Urban poverty
	Tbilisi
		Incidence	60.8	17.2	31.5	50.4	11	24.2	59.8	9.1	25.7	63.2	8.2	23.3
		Depth	26.8	7.0	12.9	178	5.4	7.5	39.0	6.7	18.7	38.1	6.3	17.1
		Severity	15.8	4.1	7.4	8.7	5.4	5.4	9.8	0.9	3.0	12.8	0.7	2.5
	Average urban
		Incidence	55.3	13.1	27.3	49.7	12.8	25.6	59.4	12.1	29.1	67.5	13.4	29.1
		Depth	22.9	4.7	9.9	18.8	3.7	8.9	36.4	8.2	9.8	37.9	9.4	19.6
		Severity	12.7	2.5	5.2	9.9	1.8	4.3	11.9	1.9	4.5	16.5	1.8	4.5
	Rural poverty
		Incidence	44.2	6.8	17.0	40	8.9	18.4	33.9	7.5	15.5	48.3	6.4	15.7
		Depth	15.8	2.3	5.5	15.5	2.9	6.3	21.4	4.9	10.2	29.8	4.1	10.5
		Severity	7.9	1.1	2.7	7.4	1.4	3.2	6.6	1.4	2.8	9.7	1.3	2.6
	Average poverty
		Incidence	50.3	10.2	22.6	45.2	11	22.3	47.6	9.9	22.8	58.5	10.1	22.8
		Depth	19.6	3.6	7.9	16.8	3.3	7.7	29.5	6.7	15.4	34.1	6.9	15.4
		Severity	10.5	1.9	4.0	8.7	1.6	3.8	9.4	1.7	3.7	13.3	1.6	3.7

Sources: World Bank; and State Department of Statistics.

^1/See Box 1 in the text for the definitions of World Bank subsistence minimum for Georgia and the official (SDS) subsistence minimum. The median per capita consumption for each period is estimated by the State Department of Statistics using household survey data.

View Table

Table 1.

Georgia: Poverty Indicators at Different Poverty Lines, 1997-98 (concluded)

(In percent of population)

			Q3 1998			Q4 1998			Q1 1999			Q2 1999
Poverty measures			SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption	SDS subsistence minimum 1/	40 percent of median consumption	60 percent of median consumption
Urban poverty
	Tbilisi
		Incidence	60.8	17.2	31.5	50.4	11	24.2	59.8	9.1	25.7	63.2	8.2	23.3
		Depth	26.8	7.0	12.9	178	5.4	7.5	39.0	6.7	18.7	38.1	6.3	17.1
		Severity	15.8	4.1	7.4	8.7	5.4	5.4	9.8	0.9	3.0	12.8	0.7	2.5
	Average urban
		Incidence	55.3	13.1	27.3	49.7	12.8	25.6	59.4	12.1	29.1	67.5	13.4	29.1
		Depth	22.9	4.7	9.9	18.8	3.7	8.9	36.4	8.2	9.8	37.9	9.4	19.6
		Severity	12.7	2.5	5.2	9.9	1.8	4.3	11.9	1.9	4.5	16.5	1.8	4.5
	Rural poverty
		Incidence	44.2	6.8	17.0	40	8.9	18.4	33.9	7.5	15.5	48.3	6.4	15.7
		Depth	15.8	2.3	5.5	15.5	2.9	6.3	21.4	4.9	10.2	29.8	4.1	10.5
		Severity	7.9	1.1	2.7	7.4	1.4	3.2	6.6	1.4	2.8	9.7	1.3	2.6
	Average poverty
		Incidence	50.3	10.2	22.6	45.2	11	22.3	47.6	9.9	22.8	58.5	10.1	22.8
		Depth	19.6	3.6	7.9	16.8	3.3	7.7	29.5	6.7	15.4	34.1	6.9	15.4
		Severity	10.5	1.9	4.0	8.7	1.6	3.8	9.4	1.7	3.7	13.3	1.6	3.7

Sources: World Bank; and State Department of Statistics.

^1/See Box 1 in the text for the definitions of World Bank subsistence minimum for Georgia and the official (SDS) subsistence minimum. The median per capita consumption for each period is estimated by the State Department of Statistics using household survey data.

101. While poverty indicators based on the World Bank’s poverty line (see Box 5) are not available for 1998,⁴² one can still conclude that poverty in Georgia increased during 1998 and first half of 1999, irrespectively of the benchmark used to assess poverty.⁴³ In particular, all official poverty indicators (i.e., the economy’s average poverty rate and the average depth and severity of poverty) increased during the year. Based on these data, one could argue that many of those who were clustered between the SDS and the World Bank poverty lines at the end of 1997—almost a third of the population—must have fallen below the new poverty line between 1998 and mid-1999. Thus, during 1998 and into early 1999, the number of poor unambiguously increased, and the poor became poorer. Three factors help explain the observed worsening of the poverty indicators over this period: (i) the rapid accumulation of wage and social transfers arrears; (ii) a decline in private incomes, possibly caused by a contraction in agriculture and onset of the Russia crisis in late 1998;⁴⁴ and (iii) a worsening of the income distribution.

102. The level of consumption of low-level budgetary sector employees and poverty-vulnerable segments of the population was adversely affected by a rapid accumulation of government expenditure arrears on protected items during 1998-99. In particular, arrears on pension and family allowances increased by lari 36 and 10 million, respectively; wage arrears of local budgets alone increased by lari 16 million in 1998.⁴⁵ As of end-1998, the outstanding stock of arrears on protected items (such as wages, pensions, unemployment and family benefits) stood at lari 140 million and then increased further to an estimated lari 240 million at end-1999. Because of high concentration of budgetary sector employees, pensioners, and the unemployed, the urban areas were the most affected by the nonpayment of wages and benefits. The failure of the State to honor its liabilities resulted in an increased recourse by households to sale of assets and accumulation of debt as a source of cash income (Table 2); the share of consumption expenditure financed by selling assets and borrowing increased from 5 and 9 percent for urban and rural households, respectively, in the first quarter of 1998 to 8 and 13 percent in the second quarter of 1999.

Table 2.

Georgia Average Monthly Cash Income and Expenditure per Equivalent Adult, 1997-98

(In percent of population)

Source: State Department of Statistics.

^1/Includes lease of property and interest income.

^2/Includes pension, family allowances, and unemployment benefits.

^3/Includes real estate, consumer durables, jewelry and antiques.

^4/Includes interest on debt and self-employment related expenses.

Table 2.

Georgia Average Monthly Cash Income and Expenditure per Equivalent Adult, 1997-98

(In percent of population)

			Q1 1998				Q2 1998				Q3 1998				Q4 1998				Q1 1999				Q2 1999
			Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural
			Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share
Total cash income			129.4	100.0	97.3	100.0	142.4	100.0	107.2	100.0	149.8	100.0	133.7	100.0	137.0	100.0	110.5	100.0	140.9	100.0	117.9	100.0	129.9	100.0	112.9	100.0
	Contractual employment		54.1	41.8	17.7	18.1	63.8	44.8	20.2	18.8	62.6	41.8	20.4	15.4	57.6	42.0	17.6	15.9	62.8	44.6	18.4	15.6	58.7	45.2	18.9	16.8
	Self-employment		38.5	29.8	10.8	11.1	32.8	22.3	9.1	8.5	32.3	21.5	9.5	7.1	27.8	20.3	7.0	6.3	22.7	16.1	8.1	6.9	21.4	16.5	7.0	6.2
	Sales of agriculture products		3.0	2.3	39.7	40.8	1.4	1.0	37.6	35.1	2.2	1.5	40.9	30.6	2.3	1.7	49.1	44.4	3.0	2.2	50.3	42.7	2.9	2.3	50.4	44.7
	Income from asset holding 1/		0.6	0.4	0.0	0.0	1.2	0.9	0.2	0.2	1.0	0.6	0.6	0.5	1.0	0.7	0.3	0.3	2.2	1.6	0.0	0.0	4.2	3.2	0.1	0.1
	Social transfer 2/		10.4	8.1	11.1	11.4	10.1	7.1	9.8	9.2	10.8	7.2	9.4	7.0	7.0	5.1	5.8	5.3	8.0	5.7	7.4	6.3	8.7	6.7	6.6	5.8
	Remittances from abroad		4.2	1.2	2.8	2.9	4.0	2.8	2.1	1.9	7.4	4.9	4.4	3.3	4.2	3.0	3.4	3.1	4.4	3.1	2.2	1.8	4.8	3.7	6.1	5.4
	Remittances from relatives		8.0	6.2	2.5	2.5	6.8	4.8	2.5	2.3	7.2	4.8	3.3	2.5	11.6	8.5	4.2	3.8	10.2	7.3	4.1	3.4	10.6	8.2	3.0	2.6
	Sale of assets 3/		5.2	4.0	8.1	8.4	6.6	4.6	10.1	9.5	9.1	6.0	23.6	17.7	11.6	8.5	7.3	6.6	9.9	7.0	5.9	5.0	7.0	5.4	4.8	4.3
	Debt		5.5	4.2	4.6	4.8	16.8	11.8	15.6	14.5	17.3	11.5	21.4	16.0	13.8	10.1	15.7	14.2	17.5	12.4	21.5	18.2	11.5	8.8	16.0	14.2
Total cash expenditure			218.7	100.0	137.6	100.0	224.2	100.0	129.8	100.0	201.6	100.0	139.8	100.0	228.9	100.0	143.7	100.0	222.1	100.0	156.1	100.0	219.1	100.0	156.3	100.0
	Total cash expenditure on consumption		210.5	96.3	120.2	87.4	203.4	90.7	103.5	79.7	185.9	93.2	112.1	80.2	207.0	90.4	130.2	90.6	206.7	93.1	144.0	92.3	203.7	93.0	135.6	86.8
		Food items	113.7	52.0	63.0	45.8	120.1	53.6	59.3	45.7	100.9	50.0	62.7	44.8	114.4	50.0	65.2	45.4	118.4	53.3	77.2	49.5	113.8	51.9	76.1	48.7
		Alcohol and tobacco	5.3	2.4	4.0	2.9	6.1	2.7	3.9	3.0	5.3	2.6	3.4	2.4	5.1	2.2	3.9	2.7	5.7	2.6	4.3	2.7	5.7	2.6	4.7	3.1
		Clothing and footwear	13.0	6.0	9.4	6.9	10.9	4.8	7.5	5.8	12.8	6.4	8.4	6.0	14.5	6.3	9.0	6.3	13.1	5.9	10.6	6.8	11.0	5.0	8.5	5.4
		Household items	21.7	9.9	16.9	12.3	20.6	9.2	10.9	8.4	19.5	9.7	14.5	10.4	19.7	8.6	20.9	14.3	20.8	9.4	19.3	12.4	23.8	10.9	14.7	9.4
		Health care	2.8	1.3	2.0	1.5	5.8	2.6	3.8	2.9	6.6	3.3	4.0	2.8	7.6	3.3	4.3	3	7.2	3.3	6.4	4.1	7.7	3.5	5.2	3.3
		Fuel and electricity	16.2	7.4	11.7	8.5	9.3	4.1	6.5	5.0	12.2	6.1	8.3	5.9	15.1	6.6	15.4	10.7	13.9	6.3	12.3	7.9	9.5	4.3	8.2	5.2
		Transportation	18.1	8.3	4.3	3.1	16.5	7.4	6.3	4.8	15.8	7.8	5.1	3.6	16.6	7.2	4.7	3.3	14.4	6.5	6.1	3.9	13.9	6.4	7.5	4.8
		Education and recreation	7.3	3.3	2.5	1.8	7.4	3.3	2.3	1.8	6.5	3.2	2.7	2.0	8.2	3.6	3.4	2.4	6.5	2.9	3.3	2.1	5.3	2.4	2.1	1.4
		Other	12.4	5.7	6.3	4.6	6.6	3.0	3.1	2.4	6.3	3.1	3.1	2.2	5.7	2.5	3.2	2.2	6.7	3	4.5	2.9	6.5	3	4.3	2.7
	Other cash expenditure 4/		8.2	3.7	17.4	12.6	20.9	9.3	26.3	20.3	15.7	7.8	27.7	19.8	21.9	9.6	13.5	9.4	15.4	6.9	12.1	7.7	15.4	7	20.7	13.2
Memorandum item:
In-kind consumption			14.4		37.5		11.4		63.9		14.7		76.1		18.1		57.9		17.9		45.1		15.5		51.4

Source: State Department of Statistics.

^1/Includes lease of property and interest income.

^2/Includes pension, family allowances, and unemployment benefits.

^3/Includes real estate, consumer durables, jewelry and antiques.

^4/Includes interest on debt and self-employment related expenses.

View Table

Table 2.

Georgia Average Monthly Cash Income and Expenditure per Equivalent Adult, 1997-98

(In percent of population)

			Q1 1998				Q2 1998				Q3 1998				Q4 1998				Q1 1999				Q2 1999
			Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural		Urban		Rural
			Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share	Lari	Share
Total cash income			129.4	100.0	97.3	100.0	142.4	100.0	107.2	100.0	149.8	100.0	133.7	100.0	137.0	100.0	110.5	100.0	140.9	100.0	117.9	100.0	129.9	100.0	112.9	100.0
	Contractual employment		54.1	41.8	17.7	18.1	63.8	44.8	20.2	18.8	62.6	41.8	20.4	15.4	57.6	42.0	17.6	15.9	62.8	44.6	18.4	15.6	58.7	45.2	18.9	16.8
	Self-employment		38.5	29.8	10.8	11.1	32.8	22.3	9.1	8.5	32.3	21.5	9.5	7.1	27.8	20.3	7.0	6.3	22.7	16.1	8.1	6.9	21.4	16.5	7.0	6.2
	Sales of agriculture products		3.0	2.3	39.7	40.8	1.4	1.0	37.6	35.1	2.2	1.5	40.9	30.6	2.3	1.7	49.1	44.4	3.0	2.2	50.3	42.7	2.9	2.3	50.4	44.7
	Income from asset holding 1/		0.6	0.4	0.0	0.0	1.2	0.9	0.2	0.2	1.0	0.6	0.6	0.5	1.0	0.7	0.3	0.3	2.2	1.6	0.0	0.0	4.2	3.2	0.1	0.1
	Social transfer 2/		10.4	8.1	11.1	11.4	10.1	7.1	9.8	9.2	10.8	7.2	9.4	7.0	7.0	5.1	5.8	5.3	8.0	5.7	7.4	6.3	8.7	6.7	6.6	5.8
	Remittances from abroad		4.2	1.2	2.8	2.9	4.0	2.8	2.1	1.9	7.4	4.9	4.4	3.3	4.2	3.0	3.4	3.1	4.4	3.1	2.2	1.8	4.8	3.7	6.1	5.4
	Remittances from relatives		8.0	6.2	2.5	2.5	6.8	4.8	2.5	2.3	7.2	4.8	3.3	2.5	11.6	8.5	4.2	3.8	10.2	7.3	4.1	3.4	10.6	8.2	3.0	2.6
	Sale of assets 3/		5.2	4.0	8.1	8.4	6.6	4.6	10.1	9.5	9.1	6.0	23.6	17.7	11.6	8.5	7.3	6.6	9.9	7.0	5.9	5.0	7.0	5.4	4.8	4.3
	Debt		5.5	4.2	4.6	4.8	16.8	11.8	15.6	14.5	17.3	11.5	21.4	16.0	13.8	10.1	15.7	14.2	17.5	12.4	21.5	18.2	11.5	8.8	16.0	14.2
Total cash expenditure			218.7	100.0	137.6	100.0	224.2	100.0	129.8	100.0	201.6	100.0	139.8	100.0	228.9	100.0	143.7	100.0	222.1	100.0	156.1	100.0	219.1	100.0	156.3	100.0
	Total cash expenditure on consumption		210.5	96.3	120.2	87.4	203.4	90.7	103.5	79.7	185.9	93.2	112.1	80.2	207.0	90.4	130.2	90.6	206.7	93.1	144.0	92.3	203.7	93.0	135.6	86.8
		Food items	113.7	52.0	63.0	45.8	120.1	53.6	59.3	45.7	100.9	50.0	62.7	44.8	114.4	50.0	65.2	45.4	118.4	53.3	77.2	49.5	113.8	51.9	76.1	48.7
		Alcohol and tobacco	5.3	2.4	4.0	2.9	6.1	2.7	3.9	3.0	5.3	2.6	3.4	2.4	5.1	2.2	3.9	2.7	5.7	2.6	4.3	2.7	5.7	2.6	4.7	3.1
		Clothing and footwear	13.0	6.0	9.4	6.9	10.9	4.8	7.5	5.8	12.8	6.4	8.4	6.0	14.5	6.3	9.0	6.3	13.1	5.9	10.6	6.8	11.0	5.0	8.5	5.4
		Household items	21.7	9.9	16.9	12.3	20.6	9.2	10.9	8.4	19.5	9.7	14.5	10.4	19.7	8.6	20.9	14.3	20.8	9.4	19.3	12.4	23.8	10.9	14.7	9.4
		Health care	2.8	1.3	2.0	1.5	5.8	2.6	3.8	2.9	6.6	3.3	4.0	2.8	7.6	3.3	4.3	3	7.2	3.3	6.4	4.1	7.7	3.5	5.2	3.3
		Fuel and electricity	16.2	7.4	11.7	8.5	9.3	4.1	6.5	5.0	12.2	6.1	8.3	5.9	15.1	6.6	15.4	10.7	13.9	6.3	12.3	7.9	9.5	4.3	8.2	5.2
		Transportation	18.1	8.3	4.3	3.1	16.5	7.4	6.3	4.8	15.8	7.8	5.1	3.6	16.6	7.2	4.7	3.3	14.4	6.5	6.1	3.9	13.9	6.4	7.5	4.8
		Education and recreation	7.3	3.3	2.5	1.8	7.4	3.3	2.3	1.8	6.5	3.2	2.7	2.0	8.2	3.6	3.4	2.4	6.5	2.9	3.3	2.1	5.3	2.4	2.1	1.4
		Other	12.4	5.7	6.3	4.6	6.6	3.0	3.1	2.4	6.3	3.1	3.1	2.2	5.7	2.5	3.2	2.2	6.7	3	4.5	2.9	6.5	3	4.3	2.7
	Other cash expenditure 4/		8.2	3.7	17.4	12.6	20.9	9.3	26.3	20.3	15.7	7.8	27.7	19.8	21.9	9.6	13.5	9.4	15.4	6.9	12.1	7.7	15.4	7	20.7	13.2
Memorandum item:
In-kind consumption			14.4		37.5		11.4		63.9		14.7		76.1		18.1		57.9		17.9		45.1		15.5		51.4

Source: State Department of Statistics.

^1/Includes lease of property and interest income.

^2/Includes pension, family allowances, and unemployment benefits.

^3/Includes real estate, consumer durables, jewelry and antiques.

^4/Includes interest on debt and self-employment related expenses.

103. Official data indicate that both cash expenditure on consumption and in-kind consumption were lower in 1998 than in 1997 (Figure 7). These trends contrast with an upward trend for average reported income registered for most of 1998 (although income fell in the final quarter of 1998). A possible explanation of these differences could be that, while total household income declined, the gap between reported and actual (reported plus unreported) income narrowed during most of 1998.⁴⁶ The decline in in-kind consumption has been sharper in rural areas which traditionally rely more on self-sufficient farming. Adverse weather conditions resulted in a 10 percent decline in agricultural output in 1998. Agriculture accounts for about 50 percent of total employment in Georgia. In early 1999, expenditure on consumption in rural areas increased relative to 1998, partly due to some recovery in the agricultural sector.

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Georgia: Average Monthly Consumption, 1997-99

(In lari)

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Source: Conjuncture Research Center; and Fund staff estimates.

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104. During 1998, there was a marked increase in inequality of income distribution. Official data indicate that the share of the top decile in the total income of the population increased from 34 to 41 percent between the first and third quarters of 1998, whereas the share of all the other deciles declined. The income-based Gini coefficient increased from 0.48 in the first quarter of the year to 0.54 in the third quarter.

105. Taken together, the decline in total consumption relative to 1997 and the deterioration of income distribution imply that the total income of the population most likely declined in 1998 and early 1999 and the richest 10 percent of the population got a bigger share of it. This conclusion is corroborated by the results of a survey of households in Tbilisi conducted in December 1998 by The Conjuncture Research Center. During the survey, households were asked to assess changes in their economic conditions that occurred in 1998, as well as their expectations for 1999. Almost 70 percent of surveyed households believed their economic situation worsened in 1998, and about 40 percent of the households expected their economic situation to worsen in 1999. Only 11 percent of households believed that their economic condition improved in 1998 (Figure 8).

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Georgia: Assessment of Economic Conditions by Households in Tbilisi, 1997-98

Citation: IMF Staff Country Reports 2000, 068; 10.5089/9781451814422.002.A001

Source: Conjuncture Research Center.

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Formal and Informal Social Safety Nets

106. The collapse of the Soviet Union, together with the hyperinflation period of 1993-94, virtually destroyed the system of social benefits provided in Georgia during Soviet times. Since 1995, however, the government has been trying to restore social benefits for the population to meaningful levels. In particular, the pension system, the system of unemployment benefits and family allowances, together with a program aimed at protecting internally displaced persons (i.e., refugees from the civil war) and other transfers to individuals have been put in place in recent years to protect the poor. These formal mechanisms of social protection add to a system of informal coping mechanisms which have emerged to supplement the government programs. The government’s ability to finance a formal social safety net has been limited however by a tight fiscal resource constraint in recent years. This, in turn, has resulted in a situation wherein social benefits ⁴⁷ (on a commitment basis) have tripled in real terms over the past three years, but still remain approximately 70 percent below the cost of the official survival basket. ⁴⁸ Paid cash benefits are even lower because of the low tax revenue collections and poor budgetary execution caused by a widespread tax evasion and inefficiencies of public administration.

Formal Social Safety Net

107. Despite significant reforms which limited pension entitlements during 1995-98 (increased retirement age, introduction of a flat pension and elimination of early retirement provisions), the pension fund remains in an extremely difficult financial position and is unable to fully finance a basic pension of US$7 per month. The pay-as-you-go pension system is financed through a 27 percent payroll tax and a 1 percent employee contribution levied on wages and salaries. This source of revenue, however, covers only about 60 percent of the Pension Fund outlays. ⁴⁹ The rest is, in principle, covered by transfers from the central government, although in practice these transfers have generally not been made on time, resulting in an accumulation of pension arrears. ⁵⁰ As of end-1998, there were 890,000 registered pensioners, of which 220,000 resided in Tbilisi. ⁵¹ The basic pension benefit received by 817,000 pensioners was lari 14 per month (compared with an official subsistence consumption basket of lari 104). ⁵² WWII veterans receive a monthly pension of lari 40. Disabled pensioners (about 30,0000) receive a monthly pension of lari 45. The responsibility for collecting pension contributions was transferred from the Pension Fund (otherwise known as United Social Security Fund) to the State Tax Inspectorate in October 1998 in an attempt to streamline the tax collection process. Early retirement was eliminated in April 1998. These administrative changes, however, were not sufficient to avert a decline in Pension Fund revenues related to the nonpayment of wages in the budgetary sector and an overall tax revenue decline in the second half of 1998. All pensions are delivered to the recipients by the postal service, with postmen hand-delivering cash to the pensioners.

108. The pension system suffers from a high number of “ghost” recipients and diversion of pension funds at the local level. The latest registration of pensioners revealed 37,743 deceased pensioners “receiving” their pensions. The high cost of funerals forces many people to bury their relatives without registering or declaring their death. Postal workers responsible for the delivery of pensions have a clear incentive to retain the pensions of those deceased but not reported. Furthermore, according to the Ministry of Social Security, Labor, and Employment, postal offices oftentimes delay the delivery of pensions for several weeks in order to engage in commercial activities with the recipients’ money.⁵³ During 1996-97, the average delay was 6 weeks. Reportedly, the misuse of pension funds and delays in delivery escalated in the second half of 1998 when those responsible for delivery reportedly engaged in foreign exchange market speculation.

109. Unemployment benefits are paid for up to 12 months at the rate of lari 13 (less than US$7) a month. Payments are financed out of the Employment Fund which collects a 1 percent payroll tax contribution. In 1998, the replacement rate—the ratio of the unemployment benefit to the last wage received—was approximately 20 percent. ⁵⁴ Individual incentives to register as unemployed with a State Employment Office were weak because of the low level of unemployment benefits, frequent payment delays, time-consuming registration procedures, and a widely held perception that registration is of no help in finding a job. ⁵⁵ Furthermore, because of the limited duration of the unemployment benefits, many of those who are currently registered may no longer be eligible. ⁵⁶ As of mid-1998, about 50 percent of the registered unemployed were out of work for more than 3 years, and 33 percent of 1 to 3 years. Therefore, only 3.5 percent of the registered unemployed were eligible for unemployment benefit.

110. The family allowances program was introduced in 1997 and was initially intended to cover some 350,000 individuals with a benefit level per person of lari 9 per month. In 1998, due to a lack of funding, the program was reduced in scope to cover only single pensioners and was renamed into the State Social Allowances program. By end-1998, the number of recipients stood at 56,000 individuals. The actual government spending on family allowances amounted to lari 7.8 million in 1997 (49.1 percent of the budgeted expenditure level) and to lari 4.1 million in 1998 (28.5 percent of the budgeted expenditure).

111. The Internally Displaced Persons (IDP) assistance program comprises various cash and in-kind benefits and is second only to the pension program in size. In 1997, actual expenditures of the state budget on IDP assistance totaled lari 53 million, compared with lari 122 million spent on pensions. As of end-1998, there were 286,000 individuals officially registered as IDPs. According to current legislation, IDPs are eligible for benefits regardless of their income or asset ownership, which makes the program poorly targeted. Consequently, those refugees who successfully integrated into local communities face a lower than average risk of poverty. ⁵⁷ IDPs used to receive a large proportion of foreign humanitarian aid in recent years, but this type of funding is now drying up. ⁵⁸

112. In addition to cash benefits, the government provides electricity tariff discounts to two broad categories of households regardless of their actual consumption of electricity, although legislative amendments in December 1999 capped the discounts (see below). The first category—distinguished pensioners, WWII and civil war veterans, and IDP’s—are eligible to receive free electricity (i.e., 100 percent discount). The second category—tax and customs officials and defense and security personnel—are eligible for a 50 percent discount. According to Telasi, some 4 percent of electricity consumers in Tbilisi are eligible to receive free electricity while an additional 13 percent are eligible for a 50 percent discount. Through 1997, Telasi (main electricity distributor for “Tbilisi) and Sakenergo (electricity distributor for the rest of the country) received transfers from the budget for the amounts of the subsidy. In 1998, however, the transfers were replaced by tax offsets to these companies. In general, these electricity discounts are poorly targeted. For example, war veterans who are eligible for a 100 percent discount receive a monthly pension of lari 40, compared to the basic pension of lari 14 a month received by 95 percent of pensioners. Moreover, the delivery of the benefit in the form of indirect consumer subsidy is inefficient and distortionary. In December 1999, Parliament passed legislative amendments which replaced discounts for unlimited consumption with fixed amounts of discounted consumption, and eliminated some categories of discounts. This is estimated to reduce the budgetary cost of discounts from about lari 35 million in 1999 to lari 5 million in 2000.

Informal Coping Mechanisms

113. A number of informal coping mechanisms have emerged to supplement the formal social safety net Informalization of income sources has affected all Georgian households regardless of income level. The following are the most important coping mechanisms: subsistence farming, petty trade, family support networks, and sale of assets. On average, these informal sources of income jointly represent over 50 percent of all reported incomes of the poor, and at least 30 percent of all reported incomes of the non-poor.

114. Subsistence farming has become the main informal safety net in urban areas (titling small family-held plots in the urban periphery). Incomes from agricultural self-employment constitute about 50 percent of total population incomes and over 70 percent of total incomes in rural areas. Petty trade typically involves cross-border buying and selling on a small scale. By end-1997, small-scale trade accounted for about 40 percent of all self-employment in urban areas. Poor families are less likely to engage in petty trade because of the need for a start-up capital and administrative barriers to staying in business which usually have to be settled with bribes and informal payments.

115. Family support comprises intra-family monetary transfers and multigenerational households, Intra-family monetary transfers account for up to 10 percent of total reported incomes of the poor living in urban areas. Regrouping nuclear households into an extended multigenerational household under a single roof has the advantage of exploiting existing economies of scale. For example, if a dwelling is registered in the name of an individual eligible for an electricity tariff discount, the whole family can consume free or subsidized electricity. At present, multigenerational households represent over 50 percent of all households in Georgia.

116. Sale of assets (distress sale) such as housing, consumer durable, jewelry and antiques is used by households as “bridging” source of funds. According to a survey of households in Tbilisi conducted in December 1998 by The Conjuncture Research Center, the average monthly sale of household possessions and real estate totaled about lari 92 per household in the second half of 1998, while average monthly purchases of consumer durables and real estates did not exceed lari 189 (i.e., a net sale of assets of lari 74).

117. Social ties and connections have become extremely important in securing jobs and access to services in addition to the above informal coping mechanisms. The jobs secured via connections usually do not pay much in terms of stated wage but provide access to rents. Because of the importance of the network-based support system, the poor who have little to offer in terms of bribes or connections find themselves increasingly isolated from job opportunities and access to services. Once on the job, connections are also becoming increasingly important for securing timely payments of salaries and wages.

Access to Health Care and Education

118. Two additional indicators of the magnitude of poverty in Georgia are the very limited access to health care and basic education by households with scarce means. Between 1990 and 1995, public expenditure (in real terms) on health care and education declined by about 90-95 percent with respect to their Soviet time levels. The lack of funds by the Ministry of Health forced the government to separate all health care institutions from the state budget in 1995. Also, resources were no longer available for maintaining buildings and providing school supplies, and school teachers experienced a sizeable decline in their real wages.

119. By mid-1998, the situation with health care had not improved significantly compared to 1995, with government covering only 30 percent of direct costs (such as medical supplies) of health care provision. ⁵⁹ The remaining costs have been covered by patients, often times in the form of unofficial gratuities to health care providers to compensate for their low wages. The situation has been further aggravated by a bias in public expenditures inherited from the Soviet times, against preventive health care which would benefit the poor. Specifically, in 1998, only 8 percent of state budget health expenditures was allocated to preventive health care. The rest was allocated to curative health care which the poor can hardly afford. However, the absolute public health expenditure figure is so low that it is doing little to improve either curative or preventive care: in 1996 for example, 13 out of 15 health care programs carried out by the state were badly underfinanced. ⁶⁰

120. The situation with the government education programs is also very difficult. Although primary and secondary education is still free up to the 9^th grade, parents have to pay for transportation to school, textbooks, catering, heating fuel, and minor repairs. Many parents are unable to afford these expenses, especially in the rural areas. Consequently, enrollment rates in primary and secondary education fell from 95 percent each in 1990 to 80 and 76 percent in 1994, respectively. The poor may also have been negatively affected by a skewed allocation of state budget expenditures on education: about 50 percent of executed expenditures goes to financing university education versus 20 percent spent on primary and secondary education (Table 3).⁶¹

Table 3.

Georgia: Public Expenditure on Health and Education, 1996-99

(In millions of lari)

Source: Georgian Ministry of Finance.

^1/Includes special funds of budgetary organizations.

Table 3.

Georgia: Public Expenditure on Health and Education, 1996-99

(In millions of lari)

			1996	1997			1998
			Total executed	Total budgeted	Total executed	Total executed in percent of total budgeted	Capital	Of which: Wages	Capital expenditure	Total budgeted	Total executed	Total executed in percent of total budgeted
Total public expenditure on health			…	…	…	…	…	…	…	75.4	42.2	56.0
	State budget expenditure		27.3	45.8	25.6	55.9	4.0	2.1	0.6	53.7	26.5	49.3
		Preventive programs	…	…	…	…	6.0	…	0.0	6.0	2.1	35.0
		Curative programs	…	…	…	…	9.8	…	0.0	9.8	7.2	73.8
		Transfers to SMIC	…	…	…	…	15.8	…	0.0	15.8	11.5	73.1
		IBRD financed programs	…	…	…	…	…	…	…	12.9	2.0	15.4
		Other 1/	…	…	…	…	8.6	2.1	0.6	9.2	3.6	39.3
	Local budget expenditure		…	…	…	…	…	…	…	21.7	15.8	72.6
Total public expenditure on education			…	…	…	…	…	…	…	133.3	99.5	74.7
	State budget expenditure		26.6	54.3	46.3	85.3	39.4	14.2	6.0	45.5	21.6	47.4
		Primary education	…	…	1.6	…	1.4	0.6	0.6	2.0	1.1	53.0
		Secondary education	…	…	6.6	…	5.1	2.8	0.3	5.4	3.5	64.4
		Higher education	…	…	22.2	…	21.7	8.4	4.1	25.9	11.2	43.4
		Other 1/	…	…	15.9	…	11.2	2.4	1.0	12.2	5.8	47.6
	Local budget expenditure		…	…	…	…	…	…	…	87.8	78.0	88.8

Source: Georgian Ministry of Finance.

^1/Includes special funds of budgetary organizations.

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Table 3.

Georgia: Public Expenditure on Health and Education, 1996-99

(In millions of lari)

			1996	1997			1998
			Total executed	Total budgeted	Total executed	Total executed in percent of total budgeted	Capital	Of which: Wages	Capital expenditure	Total budgeted	Total executed	Total executed in percent of total budgeted
Total public expenditure on health			…	…	…	…	…	…	…	75.4	42.2	56.0
	State budget expenditure		27.3	45.8	25.6	55.9	4.0	2.1	0.6	53.7	26.5	49.3
		Preventive programs	…	…	…	…	6.0	…	0.0	6.0	2.1	35.0
		Curative programs	…	…	…	…	9.8	…	0.0	9.8	7.2	73.8
		Transfers to SMIC	…	…	…	…	15.8	…	0.0	15.8	11.5	73.1
		IBRD financed programs	…	…	…	…	…	…	…	12.9	2.0	15.4
		Other 1/	…	…	…	…	8.6	2.1	0.6	9.2	3.6	39.3
	Local budget expenditure		…	…	…	…	…	…	…	21.7	15.8	72.6
Total public expenditure on education			…	…	…	…	…	…	…	133.3	99.5	74.7
	State budget expenditure		26.6	54.3	46.3	85.3	39.4	14.2	6.0	45.5	21.6	47.4
		Primary education	…	…	1.6	…	1.4	0.6	0.6	2.0	1.1	53.0
		Secondary education	…	…	6.6	…	5.1	2.8	0.3	5.4	3.5	64.4
		Higher education	…	…	22.2	…	21.7	8.4	4.1	25.9	11.2	43.4
		Other 1/	…	…	15.9	…	11.2	2.4	1.0	12.2	5.8	47.6
	Local budget expenditure		…	…	…	…	…	…	…	87.8	78.0	88.8

Source: Georgian Ministry of Finance.

^1/Includes special funds of budgetary organizations.

Summary and Conclusions

121. The initial years of transition in Georgia witnessed a significant impoverishment of the population caused by output collapse, hyperinflation, civil war and forced migration from the conflict zones. The adverse effect of the output collapse during 1991-94 was somewhat mitigated by the informalization of employment and the reallocation of labor out of industry and into small-scale low-productivity agriculture and trade.

122. The poverty indicators improved during 1996-97, especially in the urban areas, when economic growth resumed in Georgia following the restoration of macroeconomic stability and civil order. The positive trend was reversed however in 1998 owing largely to a decline in agriculture, which provides an informal safety net to the population, and the accumulation of wage and social expenditure arrears. The recent experience in Georgia has also shown that opportunities have been created for well connected segments of the society while other segments of the population have seen their living standards, equality of opportunity, and economic mobility eroded.

123. The predominantly transient (as opposed to chronic) nature of poverty in Georgia implies that poverty can be alleviated by creating a “bigger and better” social safety net (which would allow households to smooth their consumption and thus to reduce their vulnerability to poverty) and by setting the economy on a non-inflationary growth path. Accordingly, the role of the government should aim at ensuring macroeconomic stability, peace and civil order, and to create legal and market conditions conducive to private sector development, including infrastructure rehabilitation and development as well as an appropriate level of investment in human capital. Well-targeted and cost-effective expenditures—such as those for primary education, basic public health care, and rural infrastructure—should be efficient tools for providing the poor with opportunities to escape from poverty. Redirecting health and education expenditures in Georgia from hospital treatment and university education to preventive health care and primary education would increase access of the poor to health care and education.

124. As noted above, some social assistance programs—such as refugee benefits and electricity tariff discounts—have been poorly targeted and do not represent cost-effective social safety nets. Improving the targeting of refugee benefits, stepping up efforts to reintegrate refugees into local communities, and eliminating in-kind benefits such as electricity tariff discounts would reduce the burden on the budget, improve resource allocation, and ensure a more equitable provision of social benefits. It is important to build an institutional capacity to manage and deliver services effectively to the poor. Better tracking and registering recipients as well as monitoring the use of funds at the local level would help prevent diversion of funds and payment delays.

125. Creating a “bigger” safety net would call for raising social benefits—such as pensions, unemployment benefits, and family allowances—to meaningful levels in relation to the subsistence minimum. The ability of the government to do so is severely circumscribed by the fiscal resource constraint. Even the small size of the social benefits at present have imposed significant budgetary burdens which proved to be unsustainable because of the low tax revenue collections to date. Broadening the payroll tax base, inter alia, by bringing the informal sector into the tax net and enforcing tax compliance would enhance revenues of the social funds and generate resources for paying adequate pensions and social benefits to all eligible recipients without delay.