Republic of Belarus
2007 Article IV Consultation-Staff Report; Staff Supplement; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director for the Republic of Belarus
Author:
International Monetary Fund
Search for other papers by International Monetary Fund in
Current site
Google Scholar Close
Publication Date:
10 Sep 2007
eISBN:
9781451805277
Language:
English
Keywords:
ISCR; CR; inflation pressure; deficit; monetary policy guideline; IMF staff estimate; Belarus authorities; broad money; energy price pass-through; terms-of-trade gain; Energy prices; Credit; banking system
Download PDF (789.7 KB)

This 2007 Article IV Consultation highlights that Belarus’s centralized economy grew rapidly over the past few years, enhancing social development. The state redistributed large and growing terms-of-trade gains stemming from favorable Russian energy pricing across the economy, boosting domestic demand. A new energy agreement, however, has abruptly reversed terms-of-trade gains. Belarus now pays Russia twice as much for gas supplies as in 2006 and a fifth more as a share of world market prices for crude oil. This resulted in an estimated loss of 5½ percent of GDP in 2007.

Abstract

This 2007 Article IV Consultation highlights that Belarus’s centralized economy grew rapidly over the past few years, enhancing social development. The state redistributed large and growing terms-of-trade gains stemming from favorable Russian energy pricing across the economy, boosting domestic demand. A new energy agreement, however, has abruptly reversed terms-of-trade gains. Belarus now pays Russia twice as much for gas supplies as in 2006 and a fifth more as a share of world market prices for crude oil. This resulted in an estimated loss of 5½ percent of GDP in 2007.

I. Introduction

1. Benefiting from a favorable energy arrangement with Russia, Belarus’s centralized economy grew rapidly over the past few years. The state redistributed terms-of-trade gains associated with energy trade across the economy, boosting domestic demand, while a de facto peg anchored inflation expectations. As a result, output expanded rapidly. Of CIS states, Belarus received the largest energy subsidy from Russia since 2002.

2. A new multi-year energy agreement, however, has abruptly reversed these terms-of-trade gains. Belarus now pays twice as much for Russian gas supplies as in 2006 and the windfall earnings it received from re-exporting cheap Russian oil supplies have diminished. This represents a 45 percent decline in its energy terms of trade in 2007, resulting in an estimated loss of 5½ percent of GDP. Higher export prices and lower energy intensity of production could lower the net impact by about 1½ percentage points this year. Energy prices are set to rise in the next few years, but losses will be smaller, particularly if additional declines in energy intensity occur.1 Nevertheless, cumulative losses through 2012 may reach 10–15 percent of GDP.

uA01fig01

Higher energy import prices and WEO price projections imply front-loaded terms-of-trade and output losses.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Source: IMF staff estimates.

A. Economic Developments

3. Economic growth remained strong through the first half of 2007. Growth accelerated to 9.9 percent in 2006 as rapid real wage gains supported consumption, while state-directed credit boosted investment—up 26 percent in 2006 and 30 percent (y-o-y) in the first quarter of 2007. Fuel exports, a main driver of industrial production, have slowed significantly in the first half of 2007, as production dropped at both refineries owing primarily to import interruptions in January-February (Figure 1). As a result, annual real growth moderated to 8.6 percent in January-June.

Figure 1.
Figure 1.

Belarus: Indicators of Real Activity, 2001–06

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; NBRB; IMF International Financial Statistics; and IMF staff estimates.
uA01fig02

Growth has remained strong, but industrial production has weakened.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Source: Belarus authorities.

4. However, capacity constraints appear to be emerging. Supply has responded strongly during the expansion, supported by high investment. Rising output also boosted measured productivity.2 However, simple output gap analysis and capacity utilization indicators as well as labor market data signal incipient capacity constraints. The PPI-based real exchange rate appreciation—up 55 percent since 2000—and strong import demand also indicate tightening resource constraints.

uA01fig03

Available indicators point to the economy being close to full capacity utilization.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; and IMF Staff Estimates.1/ Percentage point deviation from long-term average in industry.

5. Headline inflation declined further in 2006, but use of administrative controls has increased. Price controls, decelerating money growth and the exchange rate anchor helped to slow consumer price inflation to 6.6 percent by end-2006. With producer prices and import costs still rising rapidly—and the direct and indirect effects of higher energy prices now being felt—underlying cost pressures have increased. While producer prices jumped by 13.5 percent through May, annual CPI inflation rose to 7 percent—limited by additional price caps (Figure 2).

Figure 2.
Figure 2.

Belarus: Indicators of Inflation, 2001–06

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; IMF International Financial Statistics; and IMF staff estimates.
uA01fig04

Administrative controls over prices remain strong.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Source: EBRD Transition Report 2006.1/ A rating of 1 indicates most prices formally controlled by the government; 4.33 indicates complete price liberalization with no price control outside housing, transport, and natural monopolies.

6. The current account swung into deficit in 2006, with a further marked deterioration in the first quarter of 2007. Net export volumes fell by 27 percent in 2006 and by 11 percent in the first quarter against the background of declining export market penetration to Russia and rising unit labor costs (Figure 3). Propelled by strong import growth in non-oil products and muted non-oil export growth, the current account went from a surplus of 1.6 percent of GDP in 2005 to a deficit of 4.1 percent in 2006 (Figure 4). This shortfall from a targeted surplus occurred despite favorable terms-of-trade developments last year. The 2007 first quarter deficit reached 1½ percent of annual GDP compared to a small surplus in Q1 2006 and a 2.3 percent of GDP surplus in Q1 2005. Boosted also by privatization receipts, external borrowing allowed a rebuilding of NBRB foreign exchange reserves to around one month of imports by July.

Figure 3.
Figure 3.

Belarus: External Competitiveness, 1995–2006

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: NBRB; and IMF staff estimates.
Figure 4.
Figure 4.

Belarus: Evolution of External Position, 2002–06

(Percent, unless otherwise indicated)

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; Haver; and IMF staff estimates.
uA01fig05

The current account deteriorated sharply in the first quarter of 2007 from the same period of 2006.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; and IMF staff estimates.

7. External borrowing increased, and more was being secured for 2007. External debt was low at around 19 percent of GDP at end-2006, but is rising rapidly. Loans and asset sales receipts expected in 2007–08 exceed the estimated net impact of the terms-of-trade decline. Besides having applied for a sovereign rating, the government is also contemplating T-bill issues in Russia.

Belarus: Expected New Financing, 2007–08

(Percent of GDP)

article image
Source: IMF staff estimates.

Funds received by end-June, 2007.

8. Staff estimates that the rubel is overvalued by about 10 percent. This estimate is subject to considerable uncertainty.

  • The macrobalance approach indicates a sizable gap between Belarus’s underlying and structural current account. Applying estimates from CGER regressions to Belarus data, staff estimates the structural deficit at around 5 percent of GDP—a percentage point above regional norms, but in line with other fast-growing countries. The underlying current account has steadily deteriorated—from a surplus to a large deficit—as real appreciation eroded competitiveness while domestic absorption rose.3 A real exchange rate elasticity of 0.4 for current account changes would imply an overvaluation of about 8 percent (it was in the 7–15 percent since 2004). The lack of correlation between the actual and underlying current accounts, however, suggests that the latter may be imprecisely estimated.

uA01fig07

The gap between the underlying and structural current account has increased.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; and IMF staff estimates.

  • A regression of U.S. dollar wages on productivity for Eastern European and CIS countries suggests the rubel may be overvalued by about 15 percent. Non-wage compensation, which can be substantial in the region, was excluded from the analysis.

uA01fig08

Gross dollar wages are out of line with relative productivity levels.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Haver; Eurostat; and IMF staff estimates.

  • A vector error-correction model for the real exchange rate implies an overvaluation below 10 percent. It finds significant long-run coefficients of 0.8 to 0.9 for the terms of trade, net foreign assets, and relative productivity. Several of these variables are likely to decline over the medium term in the absence of policy adjustment, which could increase the overvaluation, although the economy’s response to the terms-of-trade deterioration is uncertain at this stage.

B. Policy Developments

9. The fiscal stance turned contractionary in 2006 and in the first half of 2007.

  • The general government moved from a deficit of 0.6 percent of GDP in 2005 to a surplus of 0.5 percent in 2006 (Figure 5). Indeed, higher cyclical revenues and energy-related gains—a more than doubling of excise rates on oil products, and one-off receipts4—also allowed the authorities to cut the sales tax rate from 3.9 to 3.0 percent and abolish the Chernobyl tax and the employment insurance contribution. Moreover, the taxation of financial and nonfinancial enterprises was harmonized. Expenditures were cut by 1 percent of GDP (¾ percent in goods and services).

Figure 5.
Figure 5.

Belarus: Fiscal Developments, 2003–07

(Percent of GDP)

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus Authorities; and IMF staff estimates.

  • During the first five months of 2007, fiscal policy was tighter than budgeted, as expenditure restraint and a new tax-subsidy system raised the surplus to 1.9 percent of annual GDP,5 against an annual 2007 budget deficit target of 1.5 percent of GDP.

10. However, government intervention in the economy continued to provide an underlying expansionary impulse. This included directed concessional lending—of about 5½ percent of GDP in 2006, up from 4¼ percent in 2005—through state owned banks to SOEs, and the placement of large government deposits in selected state-owned banks to raise bank liquidity depleted by credit growth. Government-mandated wage increases in excess of productivity at SOEs constituted a third channel, prominent through end-2006. Wage growth has now been scaled back,6 although real wages and unit labor costs continue to increase. Moreover, real income growth in the first five months of 2007, compared to the same period last year, reached 17.2 percent. Real incomes grew by 17.3 percent in 2006.

uA01fig09

Directed lending remained high on the back of rising terms-of-trade gains.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; and IMF staff estimates.1/ Commercial bank directed lending is estimated for 2006.2/ Calculated as the difference between the import bill that would arise at full world market energy prices and the actual one.
uA01fig10
Sources: NBRB; and IMF staff estimates.

11. The exchange rate peg to the U.S. dollar drove monetary policy, with monetary conditions accommodative. In 2006, monetary conditions were relaxed as the refinance rate was reduced by 100 basis points and reserve requirements lowered as credit growth was picking up (Figure 6). Pressure on the peg—owing to concerns over new energy prices and the immediate availability of foreign financing—forced the NBRB to raise its policy rates and restrained money growth in early 2007.7 However, monetary conditions eased from April and the NBRB lowered the refinance rate by 25 basis points in July.

Figure 6.
Figure 6.

Belarus: Monetary Developments, 2003–07

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: NBRB; and IMF staff estimates.

12. Continued rapid credit growth is now partly being financed by increases in banks’ foreign liabilities. Annualized credit growth picked up substantially, exceeding 50 percent in real terms by end-April (Figure 7). Surging credit had been financed by rapid growth in rubel deposits (up by over 40 percent in 2006). However, the rise in interbank interest rates throughout 2006 suggests that liquidity was tightening. Following the market turbulence in early 2007, the switch into dollar deposits has not reversed—and growth in longer-term rubel deposits has been non-existent. Thus banks are now financing the upsurge in credit growth increasingly through rising foreign borrowing and government deposits.

Figure 7.
Figure 7.

Belarus: Credit Developments, 2001–07

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus Authorities; and IMF staff estimates.1/ Poland display average growth rates for 2001-2005.
uA01fig11

A sharp rebound in credit growth to SOEs has boosted overall credit to the economy.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus authorities; and IMF staff estimates.

13. Financial soundness indicators appear adequate, but significant weaknesses remain. Banking system net domestic assets—at 20 percent of GDP—remain relatively low and largely short term, with over 80 percent controlled by four large state banks. Recurrent recapitalizations of these systemic banks fall short of the long-run costs of directed lending, imperiling their solvency; moreover, their liquidity depends in part on government deposits. While increased bank lending and a change in tax laws have increased banking assets and profitability, state owned banks’ profitability remains relatively low. NPLs are also low, but there are liquidity concerns at state-owned banks (Figure 8).

Figure 8.
Figure 8.

Belarus: Banking Sector Developments, 2001–06

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: IMF International Finance Statistics; WEO; and IMF staff estimates.1/ With required loan provisioning.2/ Data are for 2005.3/ Sectors with no access to foreign exchange are households, agriculture, and construction.
uA01fig12
Sources: NBRB; and IMF staff estimates

14. The pass-through of higher energy import costs to domestic energy tariffs was partial. Natural gas prices have risen by up to 89 percent for enterprises, but only 20 percent for households. Electricity and heating tariffs went up by 40 percent for all users. The new tariffs represent an average pass-through of approximately 60 percent of the terms-of-trade shock. This places additional burden on enterprises, possibly requiring higher future subsidies.

15. Progress in structural reform has been limited. Belarus lags behind its peers in most structural reform indicators and has attracted a low level of foreign direct investment. Fixed investment, while ample, has been mainly directed to housing construction, agriculture, and state industrial concerns. Low profitability of SOEs and commercial banks as well as high ICOR figures imply relatively low investment productivity.

Belarus: Performance Indicators

article image
Sources: EU Commission, EBRD Transition Report.

Range 1-4; industrial market economy standards equal 4.

Average 2002-06.

II. Report on the Discussions

16. The discussions focused on the outlook and the appropriate policy response to the terms-of-trade shock. Staff and the authorities agreed that the shift toward world market energy prices was permanent. Views, however, did not converge on the sustainability of current policies, and hence on the need for fundamental adjustment, or the components of the appropriate policy response.

  • The authorities expected a much stronger supply response within existing policy and institutional frameworks than staff. They considered gradual adjustment with heavy reliance on external financing as appropriate, expecting government-led investment to raise productivity and energy efficiency, thus avoiding capacity constraints going forward. Staff was more skeptical, viewing public investment as less efficient and spare capacity less abundant. Staff also pointed to low enterprise profitability, and viewed the past surge in productivity as largely cyclical in nature. It argued that since sharply higher energy prices made part of the existing capital stock obsolete, absent structural reforms, the supply response would remain limited.

  • The authorities wished to retain the exchange rate as the key nominal anchor. They considered this feasible given their expectation of a strong supply response and assessment that competitiveness was adequate. In staffs view, the authorities’ planned policies were not sufficient to maintain an exchange rate anchor, potentially resulting in unsustainable current account deficits over the medium term. Staff was skeptical about the authorities’ ability to generate an adequate supply response to maintain the peg. The mission argued, therefore, that the authorities would have to rely more than currently envisaged on demand-management policies, which would require tighter monetary, fiscal, and incomes policies.

A. Medium-Term Outlook

17. Uncertainties regarding the external environment and implementation of national policies provided background to the outlook. The term-of-trade deterioration will adversely affect growth, inflation, the current account and fiscal balances. However, scope for further increases in energy efficiency and reductions in energy import volumes that would limit external vulnerabilities was less assured. Similarly, the refineries may not receive contracted crude oil volumes during 2007, although this remains possible with additional governmental assistance. Also, it was unclear if recent increases in non-oil export prices could be sustained. A key question was external financing: the terms and conditions of loans were undefined and the ability to attract sustained capital flows, including FDI, uncertain. Finally, the extent to which the authorities plan to follow stated policies as described in their socio-economic plan was equally uncertain.

uA01fig14

High net energy imports and intensity in production creates vulnerability to price shocks.

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Source: IEA and EU Report OP, No. 30, June 2007.1/ Total energy supply to GDP, t.o.e. per thousand of U.S. dollars.2/ Net energy imports times energy intensity.

18. Staff noted that the negative impact of the terms-of-trade deterioration created macroeconomic tensions under planned policies, and advocated reforms. If—as officially planned8—directed lending continues and the budget runs deficits while real wages rise further, pressures on the current account and on reserves will escalate, eventually forcing the authorities off the peg (see Figure 9 and text table for an illustrative scenario denoted “Officially planned policies’” along these lines). Instead, to support the peg under a reform scenario, the authorities should allow a full energy price pass-through, compress real wage growth, restrain second-round inflation effects through tighter fiscal and credit policies, and implement structural reforms to reduce government intervention and liberalize markets. In such a reform scenario, inflation would temporarily rise and growth would decelerate, but the underlying external instability problem would be addressed with a much lower debt buildup. Most importantly, these measures would set the stage for sustainable growth over the medium term. Staff baseline projections strike a middle ground that staff considers feasible. They broadly reflect the authorities’ objectives and plans, with fiscal policy adjusted—consistent with the actual fiscal stance through June 2007—and with flat real wages to make the overall policy mix compatible with a financeable current account path.

Figure 9.
Figure 9.

Belarus: Macroframework Scenarios

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: Belarus Authorities; and IMF staff estimates.

Belarus: Alternative Scenario Table

article image
Sources: Ministry of Statistics and Analysis; and IMF staff calculations.

Staff scenario that reflects implementation of policies under the authorities’ 2006–10 Socio-Economic Plan. The plan assumes continued high rates of credit growth, directed lending, real wage increases, and import substitution. Under this scenario, staff assumes the rubel will be forced off the peg, and devalued by 25 percent in 2009.

Staff scenario which reflects the outcome of broadly implementing the authorities’ plans, but with fiscal policy adjusted in line with the actual fiscal stance in the first half of 2007. With a further assumption of zero growth in real wages, the overall policy mix is compatible with a financeable current account path.

  • In the short term, higher energy prices, marked credit growth, and seasonal government spending should raise inflation to double digits. Owing to substantial carryover effects and continued high investment spending, growth will remain strong, reaching 7¾ percent in 2007. At the same time, with the nominal peg intact and further energy import price increases, the real exchange rate will likely appreciate, keeping the current account deficit around 8 percent in 2007–08.

  • Over the medium term, second-round energy price effects, continued loose credit policies and binding capacity constraints would keep inflation around 8–9 percent. With a continued neutral fiscal stance, wage moderation, and higher inflation, the decline in real incomes should scale back consumption. While state-directed investment spending would support activity, growth should fall over the medium term to around 4½ percent. Given the lack of structural reforms, progress toward improving competitiveness would remain limited. With further terms-of-trade losses and rising debt service costs offset in part by weakening domestic demand, the current account deficit would hover around 8 percent. The doubling of the external debt-to-GDP ratio to almost 50 percent and extensive short-term borrowing highlights growing risks.

19. The authorities saw staff’s baseline forecast as overly pessimistic and were confident their economic targets could be met. Despite the changed external environment, they considered their targets for 2007 and beyond—growth of 8½ percent, inflation under 8 percent, and current account surpluses—achievable with the policies and institutions underpinning their pro-growth model largely intact. Arguing that there was no competitiveness problem, the authorities considered they could reach a current account surplus through concessional lending to export-oriented and import-substituting activities. In their view, the pause in dedollarization was temporary, the economy’s recent performance proved the efficiency of public investments, and Belarus’s low debt levels left scope for large-scale foreign financing for many years. Borrowed funds would be invested to reduce energy intensity, mitigating the impact of rising energy prices and improving competitiveness. Finally, offering SOEs in manufacturing, food processing, and communications for sale would generate new innovation-enhancing FDI.

B. Fiscal Policy

20. Staff argued for avoiding a fiscal stimulus. Additional terms-of-trade losses expected in coming years and the need to offset the expansionary stance of other policies requires fiscal tightness. The large surplus in January–June helped stabilize currency markets and lower inflationary pressures. Allowing spending to rise during the remainder of the year—in line with the government’s budget deficit target of 1.5 percent—would raise liquidity by 3.2 percent of GDP in the second half of 2007. This could be destabilizing given loose credit conditions. Avoiding a fiscal stimulus would require a surplus of ½ percent of GDP, still allowing a deficit of about 1.4 percent of GDP during the second half of the year.

21. With over 20 percent of revenues linked to the energy sector, the impact of the terms-of-trade deterioration on budgetary performance is likely to be significant. Revenues would decline by 2.8 percent of GDP, while a discretionary increase in assistance to refineries, automatic stabilizers and a higher goods and services bill adds another 2.5 percentage points of GDP to expenditures, resulting in an overall budgetary deterioration of 5.3 percentage points. This gap is partially offset (2.4 percentage points) by higher export taxes on oil products as required under the agreement with Russia. Given an already high fiscal burden, staff advocated covering the remaining 2.9 percentage points by cuts in subsidies to enterprises and banks, together with improved targeting of social spending and reduced investment and net lending.

The 2007 Fiscal Impact of Higher Energy Prices and Possible Compensatory Measures

(Change from 2006 in percentage points of GDP)

article image
Source: Belarus authorities; and IMF staff calculations.

22. The authorities indicated that fiscal policy would be geared toward maintaining macroeconomic stability. They agreed fiscal policy had an important stabilizing role to play given the peg. Pointing to the lack of financing constraints, they saw no need to deviate from the fiscal goals identified in their medium-term program, arguing that fiscal policy should continue to support growth and meet social objectives, including through social transfers and public investment. However, they stressed that they would adjust policies to ensure macroeconomic stability, noting that the fiscal stance through May left room for tighter budget implementation. In this regard, they have not ruled out a moderate surplus in 2007, if required by economic circumstances.

23. The authorities felt that it was premature to discuss the 2008 fiscal stance. Macroeconomic stability will most likely require continued tight fiscal policies, depending also on monetary conditions and incomes policy. However, significant uncertainty remains. If growth slows down markedly, inflation pressures subside, and financing constraints are not binding, some fiscal stimulus might become appropriate.

24. The government plans to streamline tax and expenditure policy next year. They plan to abolish the distortive sales tax, various local fees, and lower the local retail trade tax, planning to partially offset the revenue loss by eliminating exemptions from the real estate tax and raising the VAT rate, or through spending restraint. The introduction of means-testing for transportation cost allowances, medicines, and sanatorium treatment will enhance the targeting of social support. The authorities also envisage phasing in a medium-term fiscal framework, building on good recent progress with enhanced program budgeting. Staff welcomed these plans, but noted that the estimated 0.8 percent of GDP revenue impact of tax policy changes should be primarily offset through lower spending.

25. Ageing, and other longer-term considerations argue for continued fiscal savings. The UN projects working-age population to decline by 8.4 percent by 2020. Such looming demographic changes require saving the Social Protection Fund’s surpluses. Rising health-care costs associated with ageing, the long-term costs of directed credits, and the need to avoid using one-off privatization receipts on current spending also call for building up net fiscal assets.

C. Exchange Rate and Monetary Policies

26. The authorities did not agree that the real exchange rate was overvalued. The NBRB noted that on a PPP basis, the real exchange rate appeared substantially undervalued. Given trading patterns, they argued for a larger weight for the real exchange rate vis-à-vis the Russian ruble, which would imply steady real effective exchange rate depreciation and improving competitiveness.9 They did not see wages out of line with regional developments, in fact, they argued that as a percent of GDP, they were comparatively low. Pointing to the preponderance of the dollar in energy trade and capital flows, staff argued for a higher weight for the Br/US$ real exchange rate.

27. The NBRB expressed confidence that it can maintain the peg—and achieve its inflation objective—even with continued rapid credit growth. Pointing to diverging price indicators, the hiatus in dedollarization, and the widening current account deficit, staff argued that the change in the external environment and a loose policy stance had softened rubel money demand. Thus, more cautious credit policy was called for. The NBRB rejected staff’s call for slowing credit growth to reign in domestic demand and inflation pressures. It contended that rapid credit growth—including an undiminished directed component—was critical for sustaining growth, and would not exacerbate inflation pressures given rising demand for rubels. The NBRB considered foreign borrowing by state-owned banks desirable, and argued that these inflows were commercial in nature, and should thus not be limited. The NBRB agreed with staff that moving government deposits to the central bank by end-2007 would be helpful in tightening liquidity.

28. Staff argued that the fixed exchange rate regime required policy tightening to be viable. With limited progress in structural reforms, supply in the economy may not be able to keep up with buoyant demand given the authorities’ current policy plans. This in turn raises external financing needs and pressures on the peg. To keep these in check and bolster the credibility of the exchange rate anchor, policy interest rates should not fall in the near term and directed lending should be curbed, while wage and fiscal policies must be tightened. Policy tightening is also made necessary by the likely weakening of the authorities’ control over capital flows. Pervasive state ownership has allowed them to control capital flows up to now, but privatization, particularly of banks, and the move toward more market-based financial relations with Russia might erode their ability to guide these flows.

29. The NBRB also needs to prepare the ground for an alternative monetary policy regime. It should continue to develop its monetary policy instruments and modeling capacities for inflation. Once liquidity management becomes more efficient and the depth of money markets is enhanced, a credible policy mix with liberalized price and wage setting can provide an alternative nominal anchor, possibly in the form of inflation targeting. This would pave the way toward greater exchange rate flexibility.

D. Financial Sector Policies

30. The NBRB recognized that rapid credit growth, government operations through the banking system, and banks’ surging foreign liabilities had increased risks to the financial sector. It noted that sharply increasing credit has coincided with an almost doubling of the share of loss-making enterprises to 8.5 percent in 2006. Coupled with the worsened external environment, the increase in bank’s net foreign liabilities, and growing balance sheet mismatches, credit and interest rate risks have increased. Stress test results indicated that losses could be substantial if these factors undermined borrowers’ repayment ability, although capital adequacy ratios would remain above prudential norms. Moreover, in a scenario that encompassed a full pass-through of higher energy prices, several banks would fall below the minimum capital adequacy standard.

31. Against this backdrop, the NBRB continues to improve the supervisory and regulatory framework. In implementing the new Banking Code, it is tightening credit risk standards, improving bank governance, unifying licensing requirements and strengthening accounting and credit reporting standards. In progressing toward Basel II standards, it will move to consolidated risk-based supervision, and introduce new legislation on deposit insurance, payment operations, mortgages, and credit bureaus by 2008. Together with the elimination of the golden share rule for banks, such progress has raised foreign interest in the banking system, with two banks recently sold to Russian investors and the sale of further banks being discussed with interested foreign parties.10

E. External and Structural Policies

32. The authorities expressed concern about ongoing trade disputes. Despite recent progress, unresolved issues remain with Russia, and the European Union has rescinded its preferential tariffs for about a tenth of Belarusian exports in mid-2007. Staff noted that trade liberalization, particularly through WTO accession, would best promote exports. In this context, it welcomed the authorities’ commitment to making the domestic subsidy system WTO-compliant.

33. The government has adopted a case-by-case approach to structural reforms, focusing on asset sales. They have eschewed the golden share rule for Beltransgaz when they sold Gazprom a 50 percent stake and may drop its applicability in selected future cases. However, they rejected staff’s view that this rule should be repealed for all enterprises. The authorities are considering further sales of breweries, pharmaceutical and petrochemical companies and banks, and have not ruled out liquidating some long-term lossmakers.

34. Staff argued for wide-ranging structural reforms to raise productivity and contain macroeconomic risks. In the near term, efficiency gains could stem from a substantial roll-back of administrative controls to strengthen price signals; and a hardening in enterprise budget constraints through cuts in enterprise subsidies. Moreover, given the planned acceleration of external borrowing, a strong system to monitor all external debt contracted or guaranteed by the public sector is important. Subsequently, a well-sequenced strategy is needed to attain a functioning market economy, with the following key elements:

  • reducing the size of government by cutting taxes and streamlining expenditure while protecting the most vulnerable through targeted social assistance;

  • creating a stable, predictable legal and business environment that ensures a level playing field for all investors; and

  • implementing transparent privatization through open tenders to attract strategic private investors.

III. Staff Appraisal

35. Belarus’s macroeconomic performance and social development have so far been strong. Growth averaged in double digits during 2004–06 and inflation fell below 7 percent last year. Moreover, Belarus’s social indicators—notably its equal income distribution, high UN human development index and improving housing conditions—place it at the top of CIS league tables.

36. This performance, however, has been colored by strong terms-of-trade gains. These gains were a key factor behind the rapid expansion in output. Given little change in employment, productivity increased markedly as well—even though structural reforms lagged, FDI was low, and the introduction of advanced technologies was limited. High government-led investment also supported growth. The low profitability of SOEs and commercial banks however, shows that the efficiency of this investment is questionable. Viewed in this light, the economy’s supply response during the expansion and its overall performance was less buoyant.

37. Looking ahead, the increase in energy import prices presents a significant challenge. Past energy subsidies from Russia have hidden a deterioration in the underlying current account and a growing overvaluation of the real exchange rate. This suggests that policies were too expansive—even absent the new energy agreement. With the increase in energy prices in 2007 and further convergence toward European price levels in the medium term, a key source of growth and balance of payments support will be markedly reduced. Notably, the real exchange rate overvaluation might increase.

38. The authorities have taken important steps in adjusting to the new external environment. Fiscal policy played a critical role in saving some of the terms-of-trade gains in 2006 and its further tightening in 2007 was key for maintaining macroeconomic stability. Steps to lower wage growth, partially raise domestic energy prices, and eliminate the golden share rule in banking are welcomed. The authorities’ proposed policy package also has positive elements, notably the commitment to further moderate wage growth and commence privatization transactions.

39. However, the assumed supply response is overly optimistic and over-reliance on foreign financing rather than adjustment entails growing risks. For the most part, the policy mix remains accommodative, with the current account deficit set to double to 8 percent of GDP in 2007. Credit growth, in particular, has remained strong. Adjustment is expected primarily through government-led investments aimed at export promotion, import substitution and energy savings—measures that take time to materialize and whose efficiency is unknown. The energy price pass-through is incomplete and real wages continue to rise. Thus the burden of adjustment rests mostly on enterprises through a squeeze on their profits—which raises the threat of decapitalization. Foreign financing appears to be available for some time and is a viable short-run response. However, this strategy delays necessary adjustment and structural reforms, and raises risks. Foreign financing is susceptible to sudden stops and, given the non-market based nature of some of Belarus’s loans, subject to geopolitical risk. This strategy will also result in a sizeable buildup in debt—which is, to a worrisome extent, short term—and in the debt service ratio. Rapid credit growth will also raise pressure on banks, which cannot be shielded from macroeconomic strains and government intervention through stricter supervision and regulation.

40. A balanced policy package is needed to address the changed external environment. The change is permanent, calling for early adjustment through a tighter policy mix—especially credit policies—to rein in domestic demand. Curtailing the still-rapid growth in real incomes is key. Real wages might need to decline to lower unit labor costs, especially if other elements of the policy mix remain expansionary. A higher energy price pass-through is also needed to boost energy efficiency. Equally important, structural changes are needed to strengthen the supply response and improve market flexibility through a substantial roll-back of administrative controls. Financial system development would benefit from reducing the relative importance of state-owned banks.

41. Policies as being implemented entail serious risks, which would escalate further if policies aimed for official targets. The authorities want to maintain the peg as their nominal anchor. However, in the absence of structural reforms that could generate a strong supply response, aiming for budget deficits and marked real wage growth would result in widening current account deficits. These would raise pressures on reserves, and eventually force Belarus off the peg. Realizing this, the authorities have implemented stricter fiscal and wage policies than officially targeted in 2007 so far. Maintaining the peg while addressing the rubel’s underlying overvaluation would require sustained tight demand management policies. These include adopting a neutral fiscal stance, compressing real wages, and phasing out directed lending. Fiscal consolidation, in particular, is critical—to support the nominal anchor, avoid excessive declines in national savings, and address looming demographic pressures as well as other long-term risks. Even with these policies, however, external debt would rise rapidly, GDP growth would slow markedly and the peg abandoned eventually. These outcomes, the associated risks, and the inevitable lag with which supply can be expected to increase point to the need for early implementation of fundamental structural reforms. They also indicate that the maintenance of the peg requires that real wage growth be kept well below productivity growth.

42. It is recommended that the next consultation occur on the standard 12-month cycle.

Table 1.

Belarus: Selected Economic Indicators, 2003–12

article image
Sources: Belarus authorities; and IMF staff estimates.

Consolidates the state government and Social Protection Fund budget.

Table 2.

Belarus: Monetary Accounts, 2003–08

(Billions of Belarussian rubels, unless otherwise indicated; end-of-period)

article image
Sources: National Bank of Belarus; and IMF staff estimates.

Defined as annual GDP divided by average broad (rubel broad) money for the year.

Table 3.

Belarus: Fiscal Indicators and Projections, 2003–12

(Billions of rubels, unless otherwise indicated)

article image
article image
Sources: Ministry of Finance, SPF, and IMF staff estimates.

Includes innovation funds from 2002, formally incorporated into the state government budget from 2005.

Includes changes in expenditure arrears.

The actual deficits from above the line include all the closing expenditure for the year carried out in January of the following year and correspond to the authorities’ fiscal year reports. The deficit values from the financing side include January closing expenditure in the year they were actually paid.

Table 4.

Belarus: Balance of Payments (Baseline), 2003–12

(In millions of U.S. dollars, unless otherwise indicated)

article image
Sources: Belarus authorities and IMF staff estimates.

Includes accumulation, repayment, and forgiveness of arrears.

Table 5.

Belarus: Indicators of External Vulnerability and Financial Soundness, 2003–07

(Percent of GDP, unless otherwise indicated)

article image
Sources: Belarus authorities; and IMF staff calculations and estimates.

Appendix I. External DSA

Table I.1.

Belarus: External Debt Sustainability Framework, 2002–12

(Percent of GDP, unless otherwise indicated)

article image

Derived as [r - g - r(1+g) + ea(1+r)]/(1+g+r+gr) times previous period debt stock, with r = nominal effective interest rate on external debt; r = change in domestic GDP deflator in U.S. dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-r(1+g) + ea(1+r)]/(1+g+r+gr) times previous period debt stock, r increases with an appreciating domestic currency (e > 0) and rising inflation (based on GDP deflator).

For projection, line includes the impact of price and exchange rate changes.

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; nominal interest rate; dollar deflator growth; and both non-interest current account and non-debt inflows in percent of GDP.

Long-run, constant balance that stabilizes the debt ratio assuming that key variables (real GDP growth, nominal interest rate, dollar deflator growth, and non-debt inflows in percent of GDP) remain at their levels of the last projection year.

Figure I.1.
Figure I.1.

Belarus: External Debt Sustainability: Bound Tests 1/

(External debt in percent of GDP)

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: International Monetary Fund, Country desk data, and staff estimates.1/ Shaded areas represent actual data. Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.2/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.3/ One-time real depreciation of 30 percent occurs in 2008.

Appendix II. Public DSA

Table II.2.

Belarus: Public Sector Debt Sustainability Framework, 2002–12

(Percent of GDP, unless otherwise indicated)

article image

Indicate coverage of public sector, e.g., general government or nonfinancial public sector. Also whether net or gross debt is used.

Derived as [(r - π(1+g) - g + αε(1+r)]/(1+g+π+gπ)) times previous period debt ratio, with r = interest rate; π = growth rate of GDP deflator; g = real GDP growth rate; a = share of foreign-currency denominated debt; and ε = nominal exchange rate depreciation (measured by increase in local currency value of U.S. dollar).

The real interest rate contribution is derived from the denominator in footnote 2/ as r - π (1+g) and the real growth contribution as -g.

The exchange rate contribution is derived from the numerator in footnote 2/ as αε(l+r).

For projections, this line includes exchange rate changes.

Defined as public sector deficit, plus amortization of medium and long-term public sector debt, plus short-term debt at end of previous period.

The key variables include real GDP growth; real interest rate; and primary balance in percent of GDP; three-year historical averages.

Derived as nominal interest expenditure divided by previous period debt stock.

Assumes that key variables (real GDP growth, real interest rate, and other identified debt-creating flows) remain at the level of the last projection year.

Figure II.2.
Figure II.2.

Belarus: Public Debt Sustainability: Bound Tests 1/

(Public debt in percent of GDP)

Citation: IMF Staff Country Reports 2007, 310; 10.5089/9781451805277.002.A001

Sources: International Monetary Fund, country desk data, and staff estimates.1/ Shaded areas represent actual data. Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.2/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and primary balance.3/ One-time real depreciation of 30 percent and 10 percent of GDP shock to contingent liabilities occur in 2008, with real depreciation defined as nominal depreciation (measured by percentage fall in dollar value of local currency) minus domestic inflation (based on GDP deflator).
1

Natural gas import prices will reach Europe’s level by 2011; Belarus’s share of Russia’s oil export tax will rise from 29 to 36 percent by 2009.

2

Despite strong domestic investment, the recorded capital stock has remained low, suggesting high depreciation. With employment flat, implausibly high rates of TFP are implied.

3

The underlying current account filters out the effects of past changes in real exchange rates and relative absorption from the non-oil balance.

4

Presidential decrees centralized 0.9 percent of GDP from key SOEs income into the budget.

5

This was 1 percentage point above the average January-May surpluses in 2003–06.

6

Real wages rose by 10.1 percent in January–June 2007 compared with the same period a year ago, versus 20.1 percent on the basis of the same definition in the first half of 2006. Over the same periods, annualized unit labor costs rose by 1.6 and 10.5 percent, respectively.

7

Broad money growth January to May was 4 percent, versus 38 percent over same period last year.

8

Policies as promulgated in the authorities’ 2006–10 Socio-Economic Plan.

9

Since 2000, the Br/RUR real exchange rate has depreciated by 33 percent while the Br/US$ real exchange rate has appreciated by 131 percent.

10

A golden share can be declared for any enterprise with current or past government ownership, entitling the government to take decisions regarding that enterprise.

Other IMF Content

Other Publishers

  • Collapse
  • Expand
Cover IMF Staff Country Reports
Republic of Belarus: 2007 Article IV Consultation-Staff Report; Staff Supplement; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director for the Republic of Belarus
Author:
International Monetary Fund
Volume/Issue:
Volume 2007: Issue 310
Publisher:
International Monetary Fund
ISBN:
9781451805277
ISSN:
1934-7685
Pages:
63
DOI:
https://doi.org/10.5089/9781451805277.002

Higher energy import prices and WEO price projections imply front-loaded terms-of-trade and output losses.
Figure 1.

Belarus: Indicators of Real Activity, 2001–06

Growth has remained strong, but industrial production has weakened.

Available indicators point to the economy being close to full capacity utilization.
Figure 2.

Belarus: Indicators of Inflation, 2001–06

Administrative controls over prices remain strong.
Figure 3.

Belarus: External Competitiveness, 1995–2006
Figure 4.

Belarus: Evolution of External Position, 2002–06

(Percent, unless otherwise indicated)

The current account deteriorated sharply in the first quarter of 2007 from the same period of 2006.

The gap between the underlying and structural current account has increased.

Gross dollar wages are out of line with relative productivity levels.
Figure 5.

Belarus: Fiscal Developments, 2003–07

(Percent of GDP)

Directed lending remained high on the back of rising terms-of-trade gains.
Figure 6.

Belarus: Monetary Developments, 2003–07
Figure 7.

Belarus: Credit Developments, 2001–07

A sharp rebound in credit growth to SOEs has boosted overall credit to the economy.
Figure 8.

Belarus: Banking Sector Developments, 2001–06

High net energy imports and intensity in production creates vulnerability to price shocks.
Figure 9.

Belarus: Macroframework Scenarios
Figure I.1.

Belarus: External Debt Sustainability: Bound Tests 1/

(External debt in percent of GDP)
Figure II.2.

Belarus: Public Debt Sustainability: Bound Tests 1/

(Public debt in percent of GDP)