Republic of Uzbekistan and the IMF
Country's Policy Intentions Documents
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Republic of Uzbekistan—Letter
Mr. Horst Köhler
Dear Mr. Köhler:
1. In early 2002, the Government and Central Bank of Uzbekistan (CBU) embarked on a major economic reform program that aims at accelerating the transition to a market economy and establishing macroeconomic stability. We intend to achieve this objective by reducing the direct role of the state in the economy through the progressive lifting of restrictions on private economic activity, and by conducting appropriately tight fiscal and monetary policies. Our program was developed in close consultation with IMF staff and described in the Memorandum of Economic and Financial Policies for the Period January 1-June 30, 2002, Under the Staff Monitored Program (MEFP), that we attached to our letter to you dated January 31, 2002. The implementation of our program is being monitored by the IMF staff according to the procedures guiding Staff Monitored Programs (SMPs).
2. Significant progress has been made in implementing the Staff Monitored Program. All quantitative targets under the SMP for end-March were met and we expect to have met the targets for end-June (Table 1). All measures set as structural benchmarks were taken, although the spread between the OTC and curb market exchange rates remained larger than programmed and some actions were taken later than originally envisaged (Table 2). In particular, we have largely liberalized the cash market for foreign exchange, including by lifting documentation requirements beyond program, which became the main prerequisite for unifying the cash and curb markets for foreign exchange; reduced the number of export bans; streamlined the structure of import tariffs in accordance with WTO standards; introduced the planned reform of the state procurement system for grain; considerably reduced government interference in the operations of commercial banks; abolished the quarterly limit on cash withdrawals from bank accounts for individual entrepreneurs; strengthened the role of the CBU and completed, for the first time, an international audit of its 2001 balance sheet; substantially reduced the number of monopoly enterprises and price controls; and submitted the draft new Law on Statistics to the Oli Majlis. Although the liberalization of the noncash foreign exchange market was not yet fully achieved, corrective measures have been put in place.
3. We are determined to achieve all objectives set under the SMP and are actively implementing all needed measures to this end. In order to enable IMF staff to assess the implementation and irreversibility of the reforms, we understand the need to extend the monitoring period under the program until August 31, 2002. Building on the progress already made, our efforts in the period ahead will be focused on (i) achieving free access to the foreign exchange market for current international transactions; (ii) ensuring that the envisaged reforms in the agricultural sector are fully implemented; and (iii) strengthening financial intermediation. Meanwhile, we will together with IMF staff elaborate the main elements of an economic program for 2002-03 that could be supported by financial resources from the IMF. Detailed discussions on such a program could take place once it has been determined that the objectives under the SMP have been achieved. We hope that these discussions will lead to a financial program that can come into effect from the fourth quarter of 2002. In the meantime, IMF staff will be prepared to inform other financial institutions and bilateral creditors of progress made by the government in the implementation of the SMP in order to give them a better basis on which to make decisions concerning potential provision of financial assistance to Uzbekistan.
I. Main Policy Issues
4. The liberalization of the foreign exchange system remains the centerpiece of our economic reform program and we are firmly committed to lifting all restrictions on access to the foreign exchange markets for current transactions in the nearest future. In the first half of 2002, we have substantially liberalized access for individuals to the cash foreign exchange market and improved access to the over-the-counter (OTC) market, including by eliminating a number of restrictions in the foreign exchange regulations and by reducing the number of items on the list of consumer goods for which provision of foreign exchange is not recommended. The transaction limits in the cash foreign exchange market were raised in a number of steps to $2,500 per calendar quarter, subject to a maximum of US$1,500 in cash and the remainder in travelers checks, as of June 3. In April, the cash market exchange rate was substantially devalued to broadly the same level as prevailing in the curb market and, as of May, the documentation requirements for access to the cash foreign exchange market were reduced to a minimum. These measures resulted in the effective unification of the official cash and curb markets for foreign exchange. In this context, and reflecting the anticipation by market participants of the pending unification of the cash and OTC exchange rates, the tight stance of monetary policy and measures to limit the supply of cash, prompted the appreciation of the exchange rate in the cash market (from sum 1,380 per US dollar in early June to sum 950 per US dollar at June 28). At the same time, the exchange rate in the OTC market was gradually devalued. While the spread between the curb market and the OTC market exchange rates had remained above 100 percent at end-March, it declined to 84 percent by end-May and further to just below 60 percent at end-June. The main reason for the slower-than-programmed decline of this spread was the continued existence of a number of impediments to the smooth functioning of the foreign exchange market.
5. We are determined to abolish all remaining obstacles for current transactions in the OTC market. In order to avoid limiting access to the foreign exchange market as a result of delays and restrictions in the required pre-registration of import contracts, we have eliminated as of June 30, 2002, a number of restrictive provisions in Regulation No. 988 "On the Procedure for the Registration of Export-Import Contracts." These provisions tied the registration of new import contracts to the execution of previously registered contracts and prevented registration of import contracts unless these contracts conformed to approved import projections. Also, we have streamlined the procedure for the pre-registration of import contracts. Starting from June 30, 2002, registration of import contracts with a value of up to $50,000 will be completed within a period of five business days and of import contracts with a higher value within a period of ten business days. Furthermore, we have eliminated as of June 30, 2002, the list of consumer goods for whose import the provision of foreign exchange is not recommended. In case the liberalization of the foreign exchange market would lead to an enduring and unsustainable upsurge in imports, we will tighten monetary and fiscal policy and allow the exchange rate to adjust. If these measures fail to adequately stem the outflow of international reserves, we intend to temporarily impose, in prior consultation with IMF staff, a general surcharge on imports and will regulate foreign trade in line with WTO standards.
6. As a result of the above measures, we expect that the spread between the curb market and the OTC market exchange rates will progressively decline. We intend to achieve this further reduction in the spread through the liberalization of access to the foreign exchange markets and not through any systematic official intervention in the cash market or ad hoc restrictions in the supply of cash. We stand ready to take, in consultation with IMF staff, any additional measures needed to achieve effective current account convertibility. In assessing the progress in this area, the CBU and IMF staff will take into account developments in the spread and reports from market participants.
7. We are determined to continue the liberalization of the foreign exchange market for current international transactions within the framework of a program supported by the Fund. The legal and regulatory framework will continue to be streamlined. In particular, we plan to eliminate under such a program the foreign exchange regulations that (i) preclude access to the OTC market if economic entities have foreign exchange in their accounts that is free of liabilities and (ii) require importers wishing to purchase foreign exchange to make an advance sum deposit equal to 100 percent of their purchase. We will take all other steps necessary to accept the obligations of Article VIII, sections 2, 3, and 4 of the Fund's Articles of Agreement soon thereafter.
8. We have taken important steps to introduce the planned reform of the state procurement system for grain. On May 22, 2002, Resolution No. 27 issued by the Cabinet of Ministers concerning state procurement of grain was amended in order to ensure that (i) the state procurement price is set at the level of the regional commodity exchange price, taking into account developments in the OTC exchange rate and after allowing for transportation costs; and (ii) farmers can freely dispose of 50 percent of their actual volume of production at their discretion. All concerned ministries, agencies, and officials have been fully informed of these reforms and we will take all necessary actions to ensure that no grain be sold for state procurement without documented consent of the producer.
9. We intend to fully implement the envisaged reform of the state procurement system for cotton. Resolution No. 477 issued by the Cabinet of Ministers will be amended in August 2002, in order to (i) set state procurement prices for the 2002 cotton crop at the world market price level, adjusted for normal processing, transportation, and marketing costs, and taking into account changes in the OTC exchange rate; and (ii) allow 50 percent of the actual volume of production to be freely disposed of by farmers at their discretion. To facilitate the development of a private internal market for cotton, private purchasers will have the right, starting with the 2002 crop, to export through auctions. To ensure that the reforms in the cotton and grain sectors are widely and properly understood, we have already published an explanation of the new situation in the grain sector in a national newspaper and will publish clear summaries of the reforms in both sectors in agricultural publications in the coming weeks.
10. Progress was made in implementing the envisaged reforms in the banking sector in order to enhance its role in the economy. All credits extended by the CBU to commercial banks are based on competitive credit auctions. Unjustified official interference in the operations of commercial banks has largely ceased. In that connection, Article 7, paragraph 3, of Presidential Decree UP-3047 dated March 30, 2002, has been repealed, permitting again commercial banks to hedge their foreign-currency denominated liabilities abroad. Steps have been taken to alleviate the restrictions on cash withdrawals from bank accounts and this process will continue as set out in paragraph 8 of the MEFP. To ensure that demand for cash sum is not unduly hampered by an inadequate currency supply to commercial banks, the CBU will henceforth guarantee commercial banks access to cash sum by debiting their correspondent accounts.
11. We are pursuing an active policy of promoting credits to small and medium-sized enterprises (SMEs), including by attracting financial resources from IFIs for onlending by commercial banks. To ensure that the framework for granting these credits remains sound, the CBU will continuously review the SME loan portfolios of the commercial banks active in this area, especially as regards loan performance. Modifications to this program will be suggested, if necessary, to ensure that the extension of credit to SMEs takes place in a fashion that is consistent with the maintenance of sound loan portfolios of commercial banks.
12. We have taken important measures to strengthen the role of the CBU and improve the transparency of its operations. An international audit of its 2001 balance sheet was completed in May 2002. This audit will provide the basis for a more comprehensive audit of the 2002 balance sheet planned for early next year. In addition, to improve the transparency of the management of international reserves, the CBU has made arrangements for the transfer of all gold and foreign exchange reserves managed by the National Bank of Foreign Economic Activity (NBFEA) to its own accounts. This transfer is proceeding as scheduled and will be completed by mid-2003. To improve the ability of the CBU to conduct market-based monetary and exchange rate policies and to enhance the transparency of these operations, we intend to abolish the Consolidated Stabilization Fund by end-2002.
13. The Uzbek authorities attach great importance to enhanced regional cooperation and integration of Uzbekistan in the global economy. In this context, we intend to actively participate in the CIS-7 Initiative and to intensify our efforts to achieve concrete progress in facilitating cross-border trade and transport, as well as to develop a concerted approach to the regional management of water and energy resources based on international law. Effective July 1, 2002, we have streamlined our import tariff structure. Beyond the period of the SMP, we will step up our efforts to liberalize the external trade system and expect this to accelerate discussions on Uzbekistan's accession to the WTO.
II. The Macroeconomic Framework for the Remainder of 2002
14. Available information for the first four months of 2002 indicates that the economy is evolving broadly as projected under the SMP. Real GDP growth in the first quarter of 2002 (year-on-year basis) is estimated at about 3 percent and annual consumer price inflation in April decreased to less than 30 percent, somewhat higher than foreseen. Preliminary estimates indicate that the external current account remained in surplus during the first quarter; net international reserves increased by about $30 million over the first five months of the year.
15. For the year 2002 as a whole, we expect continued positive economic growth, while the rate of inflation would reach a somewhat higher level than projected earlier. For the purpose of the macroeconomic framework underlying the program, we have accepted the revised IMF staff projection of a real GDP growth rate of 2⅔ percent in 2002 as compared to 2.2 percent foreseen under the SMP. This increase represents mainly the impact of a slightly better grain harvest and of the depreciation of the OTC exchange rate on the output of export-oriented industrial enterprises. At the same time, the government considers that economic growth could well be higher than this projection and that a more ambitious growth rate of real GDP of at least 4½ percent in 2002 is feasible. The annual rate of consumer price inflation is now projected at 22 percent, somewhat higher than projected under the SMP. This increase is due to the fact that the appreciation of the curb market exchange rate occurred somewhat later in the year than originally programmed and to the impact of increases in utility prices. We expect that the external current account deficit in 2002 will widen somewhat to about 1 percent of GDP, in line with earlier projections, and that the decline in net international reserves during the year will be limited to some $10 million.
16. The tight stance of fiscal policy is an important element of our economic program. The consolidated government budget deficit and net credit to the government from the CBU were kept well below the program ceilings set for end-March and we expect to have met the quantitative targets set for end-June. We are firmly committed to continuing our tight fiscal policy stance during the remainder of 2002. As agreed under the SMP, the wage increase that went into effect on April 1 was 15 percent. As of August 1, another wage increase of 15 percent will be granted, which we consider to be consistent with our inflation target. The expenditures related to temporary assistance to enterprises in accordance with Resolution No. 423 issued by the Cabinet of Ministers amounted to sum 22.5 billion during the first four months of 2002 and will be limited to sum 40½ billion for the year as a whole. We are also stepping up our efforts to improve public expenditure management. Overall, we have reduced the target for the consolidated budget deficit in 2002 to 3.4 percent of GDP as compared with the original target under the SMP of 3.6 percent. The projected increase in total revenue would more than offset slightly higher expenditures. The unfinanced part of the budget deficit is expected to be covered with external assistance. We are committed to take all necessary remedial measures to ensure that this fiscal target is met.
17. The tight monetary policy stance of the CBU during the first half of 2002 played a key role in the recent decline of inflation and in preventing excessive exchange rate volatility as the foreign exchange regime was being liberalized. The growth of reserve money was contained within the SMP targets, which contributed to the slowdown in broad money growth from 54 percent during 2001 to 45 percent over the twelve-months period up to end-May 2002. Broad money grew somewhat faster than foreseen, largely because the money multiplier did not decline as rapidly as expected. We have kept interest rate policy under review and have judged that the current monthly refinance rate, at a level of 2.5 percent, was broadly appropriate.
18. For the remainder of 2002, monetary policy will aim at achieving the inflation and international reserves targets under the program. Credit policy will continue to be guided by the program targets for the net domestic assets of the CBU. The targets for reserve money and broad money are consistent with the inflation target. With the removal of the cash restrictions relating to commercial bank operations, the focus in the conduct of monetary policy will shift to CBU control over reserve money. This will require a more active use of indirect monetary policy instruments, including the issuance of certificates of deposit of the CBU. The CBU will continue to keep the refinance rate under review, but does not anticipate the need for any change through year-end. Any changes that may be necessary would be implemented only after consultation with IMF staff. On this basis we expect the increase in velocity during 2002 to be limited to 4 percent.
19. Upon achieving the effective unification of the OTC and cash exchange rates, the exchange rate will be managed flexibly. Foreign exchange market intervention by the CBU will be solely guided by the need to safeguard the external reserves objectives under the program and in order to smooth seasonal fluctuations.
20. We are actively engaged in improving the compilation of reliable and timely macroeconomic statistics. Significant progress was made in reducing the divergencies between key official data and alternative indicators of macroeconomic activity for the first five months of 2002 and we are determined to intensify our efforts in this area. To this end, we intend to implement the recommendations of technical assistance provided by the Fund and other international agencies. In particular, we have completed the computation of discrete quarterly GDP estimates by economic activity in constant prices. Furthermore, we expect that the new Law on Statistics which, among other things, provides for the establishment of an independent statistical agency will be adopted by end-2002.
III. Next Steps
21. The attached Tables 1 and 3 and the Technical Memorandum of Understanding (Annex I) detail the quantitative targets under the extended SMP for end-August and the indicative targets for end-September and end-December, 2002, as well as the structural benchmarks through end-August. The monitoring of the implementation of the program will be undertaken in the context of one program review. The review will take place in September, 2002, on which occasion the IMF mission will examine the foreign exchange regulations in order to determine the changes that would be necessary for Uzbekistan to accept the obligations of Article VIII of the Articles of Agreement of the IMF.
22. In line with our commitment to enhance the transparency of our economic policies, we authorize the IMF to publish this letter. We will, at the same time, publish this document in the mass media in the Republic of Uzbekistan.