Kyrgyz Republic: 2022 Article IV Consultation-Press Release; and Staff Report
Author:
International Monetary Fund. Middle East and Central Asia Dept.
Search for other papers by International Monetary Fund. Middle East and Central Asia Dept. in
Current site
Google Scholar
PubMedClose
Publication Date:
16 Feb 2023
eISBN:
9798400234859
ISBN:
9798400234859
Language:
English
Download PDF (1.5 MB)

1. The Kyrgyz Republic weathered the Covid shock relatively well. Macroeconomic stability was maintained despite a significant contraction in 2020 thanks to the buffers that had been built before the pandemic: inflation was in low single digits; external reserves had reached 6.4 months of imports; total public debt had fallen to 51.6 percent of GDP, and the fiscal deficit was small.

Abstract

1. The Kyrgyz Republic weathered the Covid shock relatively well. Macroeconomic stability was maintained despite a significant contraction in 2020 thanks to the buffers that had been built before the pandemic: inflation was in low single digits; external reserves had reached 6.4 months of imports; total public debt had fallen to 51.6 percent of GDP, and the fiscal deficit was small.

Context

1. The Kyrgyz Republic weathered the Covid shock relatively well. Macroeconomic stability was maintained despite a significant contraction in 2020 thanks to the buffers that had been built before the pandemic: inflation was in low single digits; external reserves had reached 6.4 months of imports; total public debt had fallen to 51.6 percent of GDP, and the fiscal deficit was small.

2. The economy is now facing new challenges. The authorities are confronted with increased uncertainty stemming from the spillovers from Russia's war in Ukraine and the global slowdown. Like the rest of the Caucasus and Central Asia, the Kyrgyz Republic is particularly exposed to Russia through remittances, trade (including energy imports) and financial linkages. However, with macroeconomic buffers largely eroded, there is little policy space left to respond to future shocks. Public debt stood at 60.8 percent of GDP at end-2021, while inflation rose to double digits and reserves declined.

3. The political situation remains calm, but rising poverty could spark social tensions. The security situation has remained stable since the ceasefire agreement with Tajikistan in September. Based on the authorities' estimates, the poverty rate increased to 33 percent in 2021 from 25 percent in 2020, partly due to inflation, while the social safety net was unable to provide adequate protection. On the other hand, the recent resolution of the dispute around the Kumtor gold mine between the authorities and a foreign investor could strengthen the investment climate and facilitate gold exports1.

Figure 1.
Figure 1.
Figure 1.

Kyrgyz Republic: Real Sector and Social Indicators

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Sources: Country authorities and IMF Staff calculations.

Recent Developments, Outlook, and Risks

4. The Kyrgyz economy has shown resilience to the spillovers from the war, but inflation remains high. Following the 8.6 percent contraction in 2020, real GDP grew by 3.6 percent in 2021. Activity picked up strongly from the fourth quarter of 2021, and this momentum carried into 2022, which recorded 7 percent growth in the first eleven months of 2022. The Russian economy's less-than-expected contraction and migration of capital and labor from Russia to CCA countries, including the Kyrgyz Republic, appear to have muted the war's spillovers so far. Growth was primarily driven by gold production, agriculture, trade, and transportation (Table 2). Inflation increased to 14.9 percent in November (y/y), partly due to high global food and fuel prices, but core inflation also rose into double digits. The cyclical recovery in revenue supported by improved tax administration continued in 2022, and the state budget recorded a surplus of 1.6 percent of GDP in the first three quarters of the year. However, this does not yet fully reflect the impact of public wage and pension increases, which were introduced from April and October 2022 respectively, and significant investment spending included in the amended budget in the last quarter of the year. Although wage and pension increases were motivated by significant gaps between private and public wages, and by further erosion of public pay and pensions due to high inflation, the near doubling of wages of the large public sector will raise the already high wage bill.

uA001fig01

CCA: Public Wage Bill, 2021

(Percent of GDP)

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Note: Public wage bill corresponds to the compensation of employees of general government.Sources: IMF WEO database; and IMF staff calculations.

5. The external position has weakened since 2020. The current account turned from a surplus in 2020 into a deficit of 8.6 percent of GDP in 2021 and widened significantly more in 2022. Net money transfers from abroad—which in addition to remittances may also be capturing capital flight from Russia—declined by 15 percent through October. Imports increased by 80 percent in the first three quarters, partly due to higher oil prices. A large part of non-oil imports is likely to reflect re-exports to Russia, which are not fully captured by the intra-Eurasian Customs Union trade statistics because monitoring of trade within the Union is limited. These unrecorded exports could explain large positive errors and omissions, which reached 18.6 percent of GDP in H1 2022, and helped sustain exchange rate stability. At the same time, gold exports were negligible as most domestic gold was purchased by the National Bank of the Kyrgyz Republic (NBKR). Mirroring the path of the ruble/USD exchange rate, the som has fully recovered against the dollar after the depreciation in February and is now at the pre-war levels.

Text Figure 1.
Text Figure 1.

KGS/USD Rate and NBKR FX Interventions

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: Country Authorities

6. The outlook is subject to heightened uncertainty. Growth is expected to reach 5.5 percent in 2022 and slow to 3.5 percent next year, as the projected contraction in Russia starts to weigh on the Kyrgyz economy while gold production of the Kumtor mine reaches capacity and activity in the agriculture sector slows from exceptionally high levels. In the medium term, GDP is projected to converge to its potential growth rate of about 4 percent. Inflation is expected to remain in the mid-teens in 2022, held up by wage growth, a temporary demand boost from inflow of Russian migrants, and still elevated international food and energy prices. It should decline to about 10 percent by end-2023 and to mid-single digits thereafter if global commodity prices moderate and monetary policy is adequately tightened to contain demand pressures. After adjusting for re-exports,2 the CA deficit is projected to reach 28.7 percent of GDP in 2022 but narrow to 10.5 percent in 2023 provided gold exports resume. International reserves are projected to decline to 2 months of imports by 2027 from 3.9 months in 2021. Without gold exports, however, the CA deficit would remain at unsustainably high levels.

7. Risks are mostly to the downside. A stronger contraction of the Russian economy could result in lower growth and remittances, and a possible return of migrant workers. The resulting reduction in disposable incomes combined with high inflation, if persistent, would increase poverty further and add to social pressures. A growth slowdown could also weaken the quality of banks' loan portfolios. Without additional fiscal space, large new infrastructure projects, such as China– Kyrgyzstan-Uzbekistan railway and Kambarata-1 hydropower plant, would widen the fiscal deficit and weaken debt sustainability. These risks could be compounded by escalation of regional conflicts, the reemergence of the pandemic, shortages of power supply due to the ageing electricity infrastructure or a sustained reduction in gold prices. On the upside, the new wave of capital and labor immigration from Russia could improve the short-term growth outlook.

Figure 2.
Figure 2.
Figure 2.

Kyrgyz Republic: External and Monetary Sectors

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Sources: Country authorities and IMF Staff calculations.
Figure 3.
Figure 3.

Kyrgyz Republic: Fiscal Sector

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Sources: Country authorities and IMF Staff calculations.

Policy Discussions

Policy space is limited, while the projected medium-term growth is insufficient to generate enough income to lift people out of poverty. The Kyrgyz Republic needs to rebuild macroeconomic buffers to strengthen the resilience that served it well during the pandemic. It will need to reduce inflation and fiscal deficits and replenish foreign exchange reserves. Structural reforms are needed to accelerate growth and job creation.

A. Fiscal Policy

9. The amended 2022 budget envisages widening of the general government deficit to 5.2 percent of GDP from 0.8 percent in 2021.3 Excluding Kumtor's onetime payment of back taxes of 1.8 percent of GDP, tax revenue has increased by 4.3 percent of GDP, which is an exceptional accomplishment thanks to improved tax administration (Annex II). However, expenditure has increased considerably more, including public investment by about 4 percent of GDP to 10.7 percent of GDP, compensation of employees by 2.5 percent of GDP to 13 percent of GDP, as well as social benefits, goods and services, and other spending. Net external financing, including from a partial draw-down of the 2021 SDR allocation, accounts for 2.7 percentage points of GDP. Excess liquidity in banks should allow raising the remaining 2.5 percent of GDP domestically, currently at annual interest rates of up to 16 percent. The issuance of domestic bonds to inject capital in three state-owned banks to support subsidized lending to agriculture, SMEs and housing adds 1.1 percent of GDP to public debt.4

10. The authorities project a significant fiscal consolidation from 2023 resulting in surpluses from 2024. This is predicated on a continuous improvement in tax revenue to nearly 31 percent of GDP in 2023 and to over 37 percent by 2025. The authorities also project a sharp decline in capital spending (to 6 percent of GDP in 2023 and 5.3 percent in 2025), the wage bill and other spending. Staff cautioned against excessive optimism about tax revenue without specific tax policy and administrative measures, noting that any tax amnesty and new preferential tax regimes would undermine revenue. The envisaged cuts in capital spending would delay infrastructure investment and could reduce growth, while a reduction in goods and services spending could adversely affect delivery of public services. To avoid these expenditure cuts, however, decisive measures will be needed to create fiscal space and mobilize concessional external financing.

Text Table 1.

Kyrgyz Republic: State Government Budget, 2022-2025 1/

(in percent of GDP)

article image
Sources: Kyrgyz authorities, and Fund staff estimates and projections. 1/ The State government comprises central and local governments, 2/ Expense and net lending/borrowing include capital transfers to energy SOEs for the IMF projections and do not include them for the state budget projections.

11. Staff projects the fiscal deficit to decline to 4.6 percent of GDP in 2023 and remain just under 5 percent of GDP in the medium term. After adjusting for one-off tax payments by Kumtor in 2022, total tax revenue is projected to remain around 25.5 percent of GDP. With the full year impact of the wage and pension increases and no wage indexation in 2023, the public wage bill would reach almost 14 percent of GDP in 2023; the pension increase would add 0.9 percent of GDP to social spending; and domestic interest payments would rise from 0.7 percent of GDP in 2022 to 2.4 percent by 2027, reflecting a significant increase in costly domestic borrowing needs given the limited foreign financing available. Raising about 4 percent of GDP per year in a shallow domestic bond market would lead to higher interest rates and crowding out of private sector credit, even if the banking system remains liquid and the Social Fund provides part of the needed financing.

12. The Debt Sustainability Analysis implies a medium risk of debt distress. Despite the projected deficits, total public debt would remain under 60 percent of GDP through 2026, largely thanks to growth in nominal GDP. Without fiscal consolidation, however, public debt would reach 61 percent of GDP in 2027 and keep rising thereafter. Staff advised the authorities to anchor fiscal policy to keep public debt below 60 percent of GDP in the medium term and reduce it further to rebuild fiscal buffers and strengthen resilience to future shocks. This would entail reducing primary fiscal deficits from the estimated 4.2 percent of GDP in 2022 to 1 percent of GDP by end-2027, which corresponds to the debt stabilizing primary balance needed to maintain public debt around the current level.

13. The Kyrgyz Republic will need to create fiscal space for priority spending on infrastructure, human capital, and social protection. Tax revenue can be raised by reducing tax exemptions, incentives, and preferential tax regimes, strengthening taxation of e-commerce, raising excises on tobacco and petroleum, which are low by international standards, and adjusting other specific excises to inflation. Tax administration can be strengthened further by continuing to improve e-filing, taxpayer registration, risk-based auditing and expanding the use of cash registers. Further, since Kumtor is now fully state-owned, it should be brought under the same tax regime as other gold mining companies5 and its dividends be channeled to the budget to reduce the deficit. The revenue loss from tax exemptions estimated at 3.5 percent of GDP in the 2021 Article IV consultation will require reassessment in view of the new tax code and the changing structure of the economy due to the Covid pandemic and the impact of the war in Ukraine. The Fund's technical assistance could help the authorities implement a holistic reform of tax policy and administration, including assessment of tax expenditures.

14. More fiscal space can be created by reducing expenditure and strengthening public finance management (PFM). The public wage bill should be contained. Limiting nominal wage growth to below inflation and freezing public employment at the current levels would yield fiscal savings of about 1.5 percent of GDP per year by 2027; allowing headcount reduction through attrition and public employment optimization, including by steadfast implementation of the Presidential decree to reduce central government headcount by up to 30 percent, would generate more savings6. A comprehensive reform of the public sector compensation and employment framework should also be pursued. Gradually raising electricity tariffs and lowering operating costs of the energy sector would reduce subsidies and generate fiscal savings, part of which should be used for targeted social assistance to the most vulnerable. These measures should be supplemented with PFM reforms to strengthen wage bill management; implement IFMIS modules for budget preparation and payroll; and limit extra-budgetary funds such as the Stabilization Fund.

15. Strengthening social protection would support inclusive growth. Before 2020, poverty rates had been steadily declining, and inequality was relatively low in the Kyrgyz Republic. With the onset of the pandemic, however, the decline in real incomes pushed nearly 1 million people into poverty in 2020-21. Social spending is high compared to low-income countries and the CCA, but because of weaknesses in coverage, adequacy and targeting, social safety nets (SSN) were unable to protect the vulnerable and prevent an increase in poverty. A reform of social protection should aim at strengthening its efficiency and developing an adaptive SSN system that can provide adequate and well-targeted social benefits to the vulnerable in a fiscally sustainable manner and scale up during economic downturns as needed.7

Text Figure 2.
Text Figure 2.

Social Assistance Programs: Performance Indicators

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: IMF Fiscal Affairs Department Social Protection and Labor Toolkit; World Bank.

Authorities' Views

16. The authorities diverged from staff on fiscal projections. They believe that the digitalization of tax and customs administration that delivered strong revenue performance in 2022 will continue to bring more revenue in the medium term, while the Presidential decree limiting headcount in government bodies would reduce the wage bill. They project fiscal consolidation to reduce public debt to under 43 percent of GDP by 2027. They also expressed confidence that domestic markets would be able to provide necessary financing at reasonable costs, should the need arise. The authorities also noted that their debt management strategy for 2021-24 puts a limit on public debt at 70 percent of GDP.

B. Monetary, Exchange Rate, and Financial Policies

17. In late November the NBKR lowered its policy rate by 100 basis points to 13 percent to encourage higher bank lending. In October credit grew by 10 percent y-o-y, but reserve money and broad money growth reached 33.6 and 29 percent respectively, fueled by the NBKR's purchases of non-monetary gold. Staff noted that high food and fuel prices, immigration from Russia and strong GDP and real wage growth may keep inflation pressures elevated and recommended a restrictive monetary stance and tightening of liquidity until disinflation is firmly established. The recent increase in the interest rate cap on NBKR note auctions is welcome, but the effectiveness of monetary policy can be strengthened by fully lifting the cap, improving liquidity management, better coordinating monetary and fiscal policies, and containing Government's subsidized lending programs. All banks, including private ones, should have equal access to any such program to provide a level playing field.

18. The external sector was weaker in 2021 than implied by fundamentals and desirable policies (Annex III). The real effective exchange rate appreciated by 12 percent in the first 10 months of 2022. Given the heightened risks to the outlook, greater exchange rate flexibility gains particular importance to absorb future shocks, while FX interventions should only be used to smooth volatility. To strengthen medium-term competitiveness, however, structural reforms would also be needed for a lasting solution. Temporary relaxation of some prudential regulations introduced during the pandemic as emergency measures are now being phased out, which is welcome, but the limits on the export of foreign exchange cash by financial institutions remain in place. The NBKR's extensive purchases of gold result in an injection of domestic liquidity that is unwarranted by the primary disinflation objective and entail significant sterilization costs. They also undermine exports and result in concentration of reserve assets in gold. Staff recommended discontinuation of gold purchases by the NBKR and resumption of gold exports without NBKR's involvement, which is critical for balance of payments sustainability. Conversion of the non-monetary gold on the NBKR's balance sheet to foreign exchange would considerably increase and diversify international reserves.

19. Parliament rejected most draft amendments to the NBKR law that aimed to address the 2020 Safeguards Assessment recommendations. The new law now envisages a proper recapitalization and profit distribution mechanisms, which is an important accomplishment, but does not introduce a majority of non-executive members of the NBKR Board and the Audit Committee, or provisions to wind down non-core central bank operations. These provisions are essential to strengthen governance and independence of the central bank and renewed efforts are needed to introduce them in the law expediently. While the majority of other recommendations of the Safeguards Assessment were implemented, the NBKR should continue its efforts to divest Keremet Bank and develop a strategy to unwind its ownership of the Guarantee Fund. Enforcing strict limits on lending to non-supervised entities are also critical.

20. In May 2022, the authorities signed an Agreement to transfer ownership of the 2021 SDR allocation from the NBKR to the MoF. The transfer takes place gradually and about two thirds of the allocation was drawn by the MoF in 2022 to service external public debt. The transaction was implemented based on the directive of the Cabinet of Ministers, a decision of the Budget, Economic and Fiscal Policy committee of the Parliament, and the legal opinions from the Ministry of Justice and General Prosecutor which state that the transaction does not contradict domestic laws. Staff advised the authorities to provide the analysis of enabling legislation to justify the transaction and will continue to follow up. In this connection, staff also informed the authorities about the forthcoming review by the Fund of the use of the 2021 SDR allocations by the membership.

21. The banking sector remains sound, but the heightened uncertainty calls for supervisory vigilance. Banks are liquid and well capitalized with capital adequacy at 25.1 percent on average and the liquidity ratio of 79.6 percent as of September 2022, but asset quality has weakened. NPLs increased from 10.5 percent in 2020 to 12.8 percent of banking system loans in September 2022 and may weaken further if the economy slows. Based on the NBKR's own stress-tests, banks appear resilient to various severe shocks, including interest rate shocks as most government bonds are held to maturity. Although capital buffers are strong, the NBKR should develop a comprehensive NPL resolution strategy and be ready to provide liquidity support to solvent banks as needed. The isolation of major Russian banks from the western financial system raised costs of correspondent banking but does not seem to pose a major challenge for cross-border payments. The authorities requested Fund TA on payments systems.

Figure 4.
Figure 4.

Kyrgyz Republic: Financial Soundness Indicators

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Sources: Country authorities and IMF staff calculations.

Authorities' Views

22. The NBKR believes that inflation has peaked and projects a decline through 2023. Moreover, while recognizing possible demand pressures, it assessed the increased liquidity as unlikely to support financial intermediation, and lowered policy rates after the mission's conclusion to encourage bank lending. It agreed, however, to wind down its gold purchases. The conversion of non-monetary gold to reserve assets will take into account global gold price dynamics to avoid valuation losses and will be guided by NBKR's reserve management strategy. With respect to the transfer of the SDR allocation, however, the authorities believe that the legal opinions from the Ministry of Justice and General Prosecutor provide sufficient legal justification, consistent with domestic legislation and the legal system of the Kyrgyz Republic.

C. Structural Reforms

23. Strengthened governance can have a transformative impact on investment and growth.8 It is estimated that governance reforms in the Kyrgyz Republic could increase its growth by 1.2 percentage points each year, and output gains could be even larger if accompanied by other reforms9. The Kyrgyz Republic could considerably improve its standing in governance indicators by strengthening control of corruption, the rule of law, the regulatory quality, competition, and transparency and accountability of the public sector.

uA001fig02

Wordwide Governance Indicators, 2020

(Score, higher = better)

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: World Governance lndiactors

24. Laws and regulations should be strengthened to minimize opportunities for corruption. Digitization of tax administration and allowing public access to income and asset declarations by government officials were important steps in this regard. However, asset declaration access should be broadened, verification of declared information strengthened and the triggers for investigation and prosecution for illicit enrichment established. The draft amendment to the public procurement law to exclude competitive bidding, if passed, would undermine the integrity of the procurement system, and considerably increase risks of corruption. It could lead to misuse of public resources, further weaken the investment climate, and may put at risk the access to concessional external financing. Audits of public procurement contracts, including for all emergency spending during the pandemic, have been published10, but full contracts and the identities of beneficial owners remain to be published as committed under the RFI/RCF. The emergence of state-owned monopolies, such as Kara-Balta Distillery with exclusive rights to produce, import and sell ethyl alcohol, undermines competition, and can lead to misallocation of resources.

25. Strengthening corporate governance for State-Owned Enterprises (SOE) could generate significant growth dividends for the Kyrgyz Republic. SOEs are a significant source of economic and fiscal risk, which requires vigilant oversight and sound management to ensure that public resources generate the highest possible social and economic returns for taxpayers without crowding out the private sector. The largest SOEs are in energy, telecommunications, mining, and financial services – sectors that are critical for economic development and growth. The legal and corporate governance frameworks, however, are fragmented and lack a clear ownership policy. Exclusion of SOEs from the 2021 public procurement law to expedite SOE procurement further weakened governance. Financial reporting is mandated under the accounting law, with solid requirements to comply with IFRS, but its implementation has been uneven. The key reform areas to improve SOE governance include:

  • a. Streamlining and harmonizing legislation to define legal forms of government ownership; its role and the powers as a shareholder; and reporting and disclosure requirements. In addition, all SOEs should be subject to the public procurement law.

  • b. Articulating a clear ownership policy to define the government's policy objectives as a shareholder, the mandate of each SOE, and how the government will exercise its ownership rights. This policy should determine which SOEs serve important public interests and should therefore remain in state ownership, and which should be divested to reduce state footprint.

  • c. Establishing a strong corporate governance framework to ensure professional management and oversight of SOEs. In view of capacity limitations, the application of the corporate governance framework could start with the largest SOEs.

  • d. Strengthening institutional oversight to ensure transparency and accountability. SOEs should publish audited financial accounts, and the government should publish annual reviews of the SOE sector performance, reporting to the public how it exercised its ownership rights in achieving its policy objectives and serving public interests.

  • e. The MoF should exercise financial oversight over all SOEs.

26. The authorities have strengthened AML/CFT legislation. The 2018 reforms improved risk-based AML/CFT supervision and transparency of beneficial ownership. The Kyrgyz Republic complies or mostly complies with 39 of the 40 recommendations from the Financial Action Task Force (FATF), which is higher than the average compliance rate in the CCA. However, the Eurasian Group effectiveness assessment found that understanding of ML/FT risks is low, and the confiscation of the proceeds of crime is rarely effective. This underscores the importance of strengthening analytical and implementation capacity of risk-based AML/CFT supervision and monitoring of cross-border activities to detect and recover proceeds of crimes, including corruption.

27. Addressing climate-related challenges would open new opportunities for more sustainable and greener growth.11 The Kyrgyz Republic, like other countries in the region, is particularly exposed to the risks from global warming, and needs to develop its own climate adaptation policy to strengthen resilience. This requires creating fiscal space for additional public spending on green infrastructure, healthcare, training and education, and social safety nets. Despite its low carbon footprint, the country should also contribute to global mitigation efforts by reducing air, soil, and water pollution, expanding renewables, and raising electricity tariffs to cost recovery, which would attract private investment in clean power generation.

Authorities' Views

28. The authorities shared the staff's assessment of reform priorities. They agreed with staff on the need to strengthen governance, fight corruption and improve implementation capacity for AML/CFT. They also appreciated staff recommendations on SOE governance reforms and intend to optimize the number of non-strategic commercial SOEs, starting with telecom. They have made strong commitments to address climate-related challenges, and as part of their plan have prioritized green energy, agriculture and industry, environmentally friendly transportation, sustainable tourism, waste management, and green cities. They highlighted financial constraints as an impediment to climate policies.

Staff Appraisal

29. The Kyrgyz Republic has shown resilience in the face of multiple shocks, but risks are elevated. Unexpected migration of capital and productive labor from Russia have supported activity. However, inflation surged, external and fiscal balances deteriorated, international reserves declined, and poverty increased. Total public debt fell, largely because of high nominal GDP and real appreciation of the exchange rate.

30. The outlook is subject to heightened uncertainty at a time when macroeconomic buffers have been eroded. The decline in the net inflow of remittances suggests that adverse spillovers from the war in Ukraine are starting to materialize. In addition, high commodity prices, the global slowdown and the tightening of global financial conditions are likely to weigh on output growth. However, policy flexibility is constrained by reduced buffers, while forthcoming concessional external financing is limited. The main challenge for policymakers is to strengthen macroeconomic stability, rebuild policy space for future shocks, mobilize financing for development needs, and raise growth potential by advancing reforms.

31. Fiscal policy should aim to reduce deficits while creating space for priority spending on infrastructure, health and education, and social protection. The expansionary stance in 2022 would need to be reversed in the coming years to restore fiscal buffers, contain build-up of public debt, and alleviate financing constraints. Staff recommends maintaining public debt below 60 percent of GDP in the medium term and reducing it more thereafter. Growth-friendly consolidation can be achieved by reducing tax expenditure, optimizing tax policy, strengthening tax and customs administration, reducing the public sector wage bill, and raising electricity tariffs to reduce energy subsidies. Channeling dividends of the state-owned Kumtor Gold Company to the budget would significantly ease financing constraints. Strengthening social safety nets would support the poverty reduction objective.

32. Monetary policy should aim at reducing inflation to mid-single digits. This will require a restrictive monetary policy stance and tightening of liquidity. Discontinuing NBKR's purchases of gold would prevent further injection of liquidity while resumption of gold exports is critical for sustainability of the balance of payments. The exchange rate was overvalued by about 5-10 percent in 2021, but the NBKR remains committed to exchange rate flexibility, which provides important cushion against external shocks. Renewed efforts are needed to introduce amendments to the NBKR law to strengthen governance and operational independence of the central bank.

33. While there has been some progress on governance, important gaps remain, which if properly addressed, could have a transformative impact on investment and growth. Opportunities for corruption can be reduced by strengthening income and asset declarations by public officials and investigating illicit enrichment. Competitive bidding should remain integral part of the public procurement law and should extend to SOEs. Its exclusion would increase risks of corruption and may put at risk access to concessional external financing. A comprehensive SOE ownership and oversight policy would improve SOE governance, while strengthening the AML/CFT framework and improving monitoring of cross-border activities can be a potent tool in deterring corruption.

34. The Kyrgyz Republic needs its own climate adaptation policy to strengthen resilience. This requires creating fiscal space for additional public spending on green infrastructure, healthcare, education, and social safety nets. Strengthening domestic institutions and governance would be essential to support climate policies. Despite its low carbon footprint, the country should also contribute to global mitigation efforts by reducing pollution, investing in renewables, and raising electricity tariffs.

35. Staff recommends that the next Article IV consultation is held on a standard 12-month cycle.

Table 1.

Kyrgyz Republic: Selected Social and Economic Indicators, 2019–27

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

General government comprises the State government, the Social Fund, and the Mandatory Health Insurance Fund (MHIF). The State government comprises central and local governments.

Includes loans by the State government to state-owned enterprises in the energy sector.

Calculated at end-period exchange rates.

Twelve-month GDP over end-period broad money.

Gross international reserves exclude reserve assets in non-convertible currencies.

Table 2.

Kyrgyz Republic: National Accounts, 2019–27

(in percent)

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

Until 2020, Kumtor only in line with official data. 2021 and beyond, Kumtor and others.

Table 3.

Kyrgyz Republic: Balance of Payments, 2019–27

(in millions of U.S. dollars)

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

Errors and omission for 2022 reflect the actual figure for the first half of the year

Russian debt write-off.

Public and publicly-guaranteed debt.

Net of rescheduling.

Valued at end-period exchange rate. Gross international reserves exclude reserve assets in non-convertible currencies.

Table 4.

Kyrgyz Republic: NBKR Accounts, 2019–23

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

Gross international reserves exclude reserve assets in non-convertible currencies.

Includes holdings of non-monetary gold.

Contribution is defined as change of asset stock relative to previous end-year reserve money stock (in percent).

Table 5.

Kyrgyz Republic: Monetary Survey, 2019–23

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

Includes lending by the Russia-Kyrgyz Development Fund via banks.

Contribution is defined as change of asset stock relative to previous end-year broad money stock (in percent).

Twelve-month GDP over end-period broad money.

Table 6.

Kyrgyz Republic: State Government Finances, 2019–27 1/

(in millions of soms)

article image
Sources: Kyrgyz authorities, and Fund staff estimates and projections.

The State government comprises central and local governments.

Includes grants to the Social Fund and the Mandatory Health Insurance Fund (MHIF).

Table 7.

Kyrgyz Republic: State Government Finances, 2019–27 1/

(in percent of GDP)

article image
Sources: Kyrgyz authorities, and Fund staff estimates and projections.

The State government comprises central and local governments.

Includes grants to the Social Fund and the Mandatory Health Insurance Fund (MHIF).

Table 8.

Kyrgyz Republic: General Government Finances, 2019–27, GFSM 2014 Presentation 1/

(in millions of soms)

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

General government comprises the State government, the Social Fund, and the Mandatory Health Insurance Fund (MHIF).

Table 9.

Kyrgyz Republic: General Government Finances, 2019–27, GFSM 2014 Presentation 1/

(in percent of GDP)

article image
Sources: Kyrgyz authorities and IMF staff estimates and projections.

General government comprises the State government, the Social Fund, and the Mandatory Health Insurance Fund

Table 10.

Kyrgyz Republic: Selected Financial Soundness Indicators, 2019–22

article image
Source: National Bank of the Kyrgyz Republic. 1/ Without deposits of banks, nonbank financial-credit institutions, and deposits of the Government of the Kyrgyz Republic.

Annex I. Risk Assessment Matrix

article image
article image
article image

The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The likelihood is the staff's subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 and 30 percent, and “high” a probability between 30 and 50 percent). The RAM reflects staff views on the source of risks and the overall level of concern at the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly. “Short-term” and “medium-term” are meant to indicate that the risk could materialize within one year and three years, respectively.

Annex II. Implementation of 2020 Article IV Consultation's Key Recommendations

article image
article image
article image

Annex III. External Sector Assessment

The external position of Kyrgyz Republic in 2021 was weaker than the level implied by medium-term fundamentals and desirable policies. The EBA lite CA and IREER models yield opposite assessments, but staff puts more weight on the CA model. It believes, however, that the estimated overvaluation of 10.2 percent is overstated due to large unrecorded exports and remittances, reflected in the errors and omissions. Gross official foreign exchange reserves are currently slightly above adequate levels indicated by the IMF reserve adequacy metric but are projected to decline steadily over the medium term. Fiscal consolidation, resumption of gold exports, accumulation of reserves and reforms to strengthen competitiveness would help align the external sector with fundamentals in the medium term.

1. The Kyrgyz Republic's Net International Investment Position (NIIP) weakened slightly from -85 percent of GDP and reached -86 percent of GDP in 2021. Gross international assets declined from 72 percent of GDP in 2020 to 67 percent of GDP (international reserves, foreign direct investment assets, and other assets of 33, 10, and 24 percent of GDP, respectively) in 2021. Gross international liabilities also declined from 157 percent of GDP to 153 percent (external public and publicly guaranteed debt, private external debt, and foreign direct investment liabilities of around 50, 17, and 66 percent of GDP, respectively). Concessional external public debt coupled with limited short term volatile capital inflows largely mitigate the external risks.

2. The current account turned into a deficit of 8.6 percent of GDP in 2021 from a 4.8 percent surplus in 2020. The deterioration primarily came from substantial increase in imports driven by post-pandemic recovery, rebound in growth and higher global commodity prices. Strong growth in remittances and exports of goods and services – 14 and 35 percent respectively – were insufficient to offset 50 percent growth in import of goods and 22 percent growth in services. Imports as percent of GDP jumped from 52 percent in 2020 to 69.5 percent in 2021. The current account balance is expected to deteriorate further during 2022 to 28.7 percent of GDP, but gradually narrow to about 9 percent of GDP in the medium term, partly thanks to slightly better gold prices and the expected moderation of food and energy prices.

uA001fig03

Current Account Balance Factors

Percent of GDP

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: Country authorities and IMF staff estimates.

3. However, the headline CA deficit could be overstated. Large positive errors and omissions (7 percent of GDP in 2021 and 18.6 percent of GDP in H1 2022) are likely to be capturing unrecorded transit trade and remittances. Non-energy trade shows a significant increase in imports from outside the Eurasian Economic Union (EAEU)1, and a simultaneous increase in exports to Russia, the share of which in total exports rose from 14 percent in 2021 to 38 percent in H1 2022, lending support to the anecdotal evidence of significantly increased re-exports to Russia. However, the recorded re-exports are likely to be only a fraction of the actual volumes as intra-EAEU trade is not subject to tariffs and filing by exporters is voluntary. These possible discrepancies would render the external sector weaker than it actually is.

4. The Kyrgyz som remained broadly stable against the USD during 2021. Its intra-month movements remained well within the 2.5 percent band, but on the annual basis, it depreciated by 8.6 percent. The real effective exchange rate (REER) depreciated by 3.7 during 2021, largely reflecting the inflation gap between Kyrgyz Republic and its trading partners, and depreciation of Kyrgyz Som against trading partner's currency basket as indicated by the depreciated nominal effective exchange rate (NEER) and 8 percent growth in Relative Price Index (RPI). REER has appreciated by almost 12 percent during the first 10 months of 2022.

uA001fig04

Nominal and Real Effective Exchange Rate

(2010=100)

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: IMF Staff calculations

5. Gross reserves declined to 3.9 months of imports of goods and services from 5.3 months in 2020. Higher FDI and private sector external borrowing were outweighed by the weaker current account. Gross reserves are projected to further decline to about 3.6 months of imports of goods and services in 2022, 2.9 months in 2023, and further to 2.0 months by 2027, which is slightly below the IMF's reserve adequacy metrics for credit constrained economies.2

6. External Assessment3

uA001fig05

CA - Contributions to Fitted Values

Citation: IMF Staff Country Reports 2023, 091; 10.5089/9798400234859.002.A001

Source: IMF Staff calculations

  • The Current Account (CA) model identifies a negative current account gap of 4.7 percent of GDP and suggests an overvaluation of REER by 10.2 percent (Text Table). The large negative output gap further raises the actual CA deficit by additional 1.1 percent of GDP. The adjustors applied to the tourism (0.7 percent of GDP), and no temporary adjustment for remittances as the war in Ukraine is expected to have a lasting impact in the medium term, result in an overall adjustor decrease of 0.7 percent of GDP to the actual CA deficit. The policy gap is estimated at 3.4 percent of GDP, primarily because of the tighter fiscal stance compared to its desired level. It also reflects a smaller fiscal stimulus and stronger fiscal position in Kyrgyz Republic compared to the world in 2021.

  • The REER model points to an undervaluation of about 15 percent. The REER model determined that the REER-norm and the REER fitted values are higher than the actual REER, implying the need for REER appreciation to close the gap with its norm. Real interest rate gap between Kyrgyz Republic and rest of the world is the major contributor to REER norm.

  • Staff Assessment: Staff assesses the external position of Kyrgyz Republic in 2021 as weaker than the level implied by medium-term fundamentals and desirable policies. The CA and REER models yield opposite results. As discussed above, the large positive errors and omissions are likely to be capturing unrecorded current account transactions – transit trade and remittances mostly. If at least half of this was recorded in the current account, the overvaluation would reduce to under 5 percent. In the REER model, the main cause of the undervaluation is the interest rate differential with the rest of the world, implying that the model results are driven by capital and financial account, which are limited and considerably smaller than the CA. Considering the significant foreign exchange interventions – net sales of $699 million – by the NBKR during 2021, staff is of the view that the exchange rate was somewhat overvalued in the range of 5-10 percent. Fiscal consolidation, resumption of gold exports, accumulation of reserves and reforms to strengthen competitiveness would help align the external sector with fundamentals.

Table 1.

Kyrgyz Republic: EBA-lite Model Results, 2021

article image

Based on the EBA-lite 3.0 methodology

Additional cyclical adjustment to account for the temporary impact of the pandemic on tourism (0.7 percent of GDP) and no temporary adjustment for remittances (as the war in Ukraine is expected to have a lasting impact in the medium term).

Cyclically adjusted, including multilateral consistency adjustments.
1

In an out-of-court settlement in April 2022 the Kyrgyz Republic received full ownership of Kumtor Gold Company in exchange for its share in the investor company. The London Bullion Market Association (LMBA) restored Kyrgyz Republic's Good Delivery status in September 2022 which allows selling of Kyrgyz gold bullion in international markets.

2

Re-exports have been calculated as a difference between the projected non-energy imports and the imports for domestic consumption. The latter is based on the historical non-energy imports as a share of GDP adjusted for additional domestic demand from the Russian migrants.

3

This includes lending to energy sector SOEs, which the authorities classify as acquisition of financial assets.

4

This is part of the authorities' medium-term plan to provide interest rate subsidies to priority sectors, including 'Financing Agriculture -10' approved in January 2022 (http://cbd.minjust.gov.kg/act/view/ru-ru/218814?cl=ru-ru), 'Lending to Agro-industrial Complex' (http://cbd.minjust.gov.kg/act/view/ru-ru/219019) approved in March 2022, and affordable housing program 'My house 2021-2026' (http://cbd.minjust.gov.kg/act/view/ru-ru/158356), approved in July 2021.

5

Kumtor is still operating under a preferential tax regime that was agreed with the foreign investor.

6

The civil service accounts for about one-eighth of total public sector employment.

7

See Social Safety Nets and Poverty in the Kyrgyz Republic in Selected Issues Paper.

8

See Governance Challenges in the Kyrgyz Republic in Selected Issues Paper

9

Forthcoming MCD departmental paper 'Paving the Way to More Resilient, Inclusive and Greener Economies in the Caucasus and Central Asia'.

11

See Climate Change Adaptation and Mitigation in the Kyrgyz Republic in Selected Issues Paper.

1

The EAEU includes Armenia, Belarus, Kazakhstan, the Kyrgyz Republic, and Russia, and provides for free movement of goods within the EAEU.

2

The adequate level of reserves for credit constrained economies is estimated at 3 months of imports (see IMF, 2015, Assessing Reserve Adequacy—Specific Proposals).

3

Based on IMF EBA Lite Methodology.

Other IMF Content

Other Publishers

  • Collapse
  • Expand
Cover IMF Staff Country Reports
Kyrgyz Republic: 2022 Article IV Consultation-Press Release; and Staff Report
Author:
International Monetary Fund. Middle East and Central Asia Dept.
Volume/Issue:
Volume 2023: Issue 091
Publisher:
International Monetary Fund
ISBN:
9798400234859
ISSN:
1934-7685
Pages:
74
DOI:
https://doi.org/10.5089/9798400234859.002
Figure 1.

Kyrgyz Republic: Real Sector and Social Indicators
Figure 1.

Kyrgyz Republic: Real Sector and Social Indicators

CCA: Public Wage Bill, 2021

(Percent of GDP)
Text Figure 1.

KGS/USD Rate and NBKR FX Interventions
Figure 2.

Kyrgyz Republic: External and Monetary Sectors
Figure 2.

Kyrgyz Republic: External and Monetary Sectors
Figure 3.

Kyrgyz Republic: Fiscal Sector
Text Figure 2.

Social Assistance Programs: Performance Indicators
Figure 4.

Kyrgyz Republic: Financial Soundness Indicators

Wordwide Governance Indicators, 2020

(Score, higher = better)

Current Account Balance Factors

Percent of GDP

Nominal and Real Effective Exchange Rate

(2010=100)

CA - Contributions to Fitted Values