Fourth Review Under the Extended Fund Facility Arrangement and Request for Modifications of Quantitative Performance Criteria-Press Release; Staff Report; and a Statement by the Executive Director for Georgia
The Georgian authorities would like to thank staff for their constructive engagement during the mission and their insightful report. They would also like to thank the Managing Director for her personal interest in the program during her visit to the country from May 19–21, 2019.
The authorities agree with staff that growth has proven resilient, inflation remains under control and external vulnerabilities have been reduced. At the same time, they acknowledge that continued efforts are needed to achieve high and inclusive growth against a background of external risks. They reiterate their strong commitment to the reforms under the Extended Fund Facility (EFF).
Two years underway, the EFF has served the Georgian economy well. Growth remained robust at 4.7% in 2018. Fiscal outturns and medium-term fiscal plans are in line with program objectives. Fitch recently upgraded Georgia’s sovereign rating to BB, while S&P revised its outlook to positive, up from BB- with a stable outlook. Inflation is close to the 3% target and expectations are well-anchored. International reserves increased from 88% of the ARA metric in 2016 to 91% in 2018 and are expected to reach 100% by end-2019. The current account deficit improved from 13% in 2016 to 7.7% in 2018 and will gradually narrow to below 7% in the medium term. The current account is mostly financed by FDI, which concentrates in the transport and energy sectors.
The authorities met all end-December quantitative performance criteria. Five out of seven structural benchmarks were implemented (one with a 1-month delay) and the remaining two will be implemented by end-December:
In consultation with staff, the authorities have not yet submitted legislation for a rule-based pension indexation mechanism to parliament by end-February. Pension levels are currently marginally higher than the subsistence minimum and a rules-based indexation would support inclusive growth and help reduce inequality. At the same time, the authorities agree that the fiscal implications of different alternatives need to be further assessed and are looking forward to continuing discussions with staff before submitting a proposal by end-December 2019.
The authorities will provide the Georgia Revenue Service (GRS) with access to third-party information to make tax administration more effective. This includes data from different sources on real estate, construction permits, suspicious transactions and changes in company equity. Access to data on suspicious transactions received by the Financial Monitoring Service from monitoring entities will help fight tax evasion and improve compliance but concerns about privacy and abuse warrant that appropriate safeguards are in place. The authorities are currently working on such safeguards and will submit legislative changes to parliament by end-December 2019.
The EFF is aimed at strengthening macroeconomic stability and financial resilience and supporting the government reform agenda focused on four pillars:
(1) education reform to promote skill development, productivity growth and job creation;
(2) investing in road infrastructure to transform Georgia into a transport and logistics hub connecting Europe and Asia;
(3) making the public administration more efficient; and
(4) improving the business environment to boost the private sector as a growth engine.
Progress has been achieved and is ongoing in pillars (2), (3) and (4): investments in core infrastructure are on track; a large number of fiscal reforms to strengthen public administration was implemented as part of previous reviews (Table 3a of the MEFP), including a remuneration law for public civil service, while the authorities will continue their efforts to strengthen SOE governance, to automatically refund new VAT credits, and to strengthen public investment management; the business environment will be improved by the measures to support local capital market development discussed in Box 1 and the new insolvency law which will ensure adequate protection of creditor rights, timely insolvency processes and an effective rehabilitation framework.
Education reform is the remaining pillar of the reform program. A comprehensive education reform and ongoing efforts to strengthen macroeconomic stability are the key priorities of the authorities.
A comprehensive reform of the education system will bolster inclusive growth. Although at its lowest level in 15 years, unemployment remains high at 12.7 percent as skill mismatches and underqualification persist. The authorities are working on a multi-year education reform to foster employment, productivity and inclusion. This comprehensive reform includes training and certification of teachers, severance of less qualified teachers, investment in school infrastructure and improvement of the curriculum. The reform is based on OECD benchmarks and designed in cooperation with the World Bank.
The authorities are committed to finance the education reform under the 3% deficit ceiling of the new fiscal rule. They will continue infrastructure investments, but as core infrastructure projects are finalized in the upcoming years, they will redirect spending towards education. Education spending will increase from 3.8% of GDP today to 6% of GDP in 2022. To safeguard their lasting commitment to the reform, they intend to introduce a floor on education spending. They understand staff’s concern about the rigidity of such a floor, and they would welcome engagement with staff about ways to strengthen the medium-term budget framework, but they see a strong multi-annual spending commitment under the deficit ceiling as an important safeguard for the success of this key policy priority.
Prudent monetary policy and reserve accumulation will strengthen macroeconomic stability. Monetary policy remains focused on the 3% inflation target. The National Bank of Georgia (NBG) stepped up its efforts to accumulate international reserves with the introduction of a regular auction for FX put options in January. These put options allow banks to purchase lari in exchange for dollars or euros when the lari exchange rate is above its average during the previous 20 working days. Banks will have an incentive to exercise these options when the lari appreciates, allowing the NBG to accumulate reserves without disrupting the exchange rate. In result, the net international reserve criterion was met with a comfortable margin and the authorities are committed to sustain reserve accumulation efforts.
The authorities are confident that they can meet the three new end-December structural benchmarks.
They will submit to Parliament a 2020 budget consistent with the program.
They will include a more comprehensive coverage of general government financial asset operations and information on the rates of return on general government equity holdings and loans in the fiscal risk statement in the 2020 budget.
In May, they submitted legal amendments to parliament to make emergency liquidity assistance and the banking resolution framework consistent with international best practice. They are committed to enactment of this legislation.