Mission Concluding Statement 

Republic of Belarus: Staff Concluding Statement of the 2021 Article IV Mission

December 20, 2021

An IMF staff team led by Mr. Cheikh Gueye held 2021 Article IV discussions with the authorities of the Republic of Belarus between November 29 and December 17, 2021.

Following a relatively mild contraction in 2020, Belarus’ economy recovered to the pre-pandemic level in 2021. But households and firms continue to face difficult times amid the pandemic as well as internal discord. Economic prospects remain challenging and policies need to focus on preserving macroeconomic stability in the face of shocks and tightening funding constraints. A timely servicing of external obligations will likely require bringing the fiscal accounts into surplus. The National Bank of the Republic of Belarus (NBRB) will need to carefully manage its policies so as to bring inflation towards target without unduly restraining growth. Reducing the level of financial dollarization will be difficult under the prevailing circumstances, requiring better economic fundamentals. Regulators will need to follow developments in the financial sector closely. The sector reports relatively stable balance sheet indicators but financial sanctions-related roll-over risks and credit risks are rising. The reform of state-owned enterprises is critical as the sector continues to be a source of fiscal and external stability risks.

Context, Outlook and Risks

The economy recovered in 2021, but more recently growth has been weakening, while inflation is above target. After the relatively mild 2020 recession triggered by the COVID-pandemic, economic spillovers from Russia, and internal unrest, growth is expected to reach around 2 percent this year. Inflation has increased sharply and is now hovering around 10 percent, driven by the 2020 currency depreciation and increased global commodity prices. Nonetheless, the exchange rate has been stable in 2021, and the current account is expected to improve in 2021 to a surplus of 0.9 percent of GDP, helped by strong exports of goods and services.

Under current policies, over the medium-term, the economy is projected to settle around a low potential growth rate, but the downside risks to this outlook are high. With no major domestic disruptions and no further tightening of external economic conditions, this year’s post-recession rebound would be followed by modest real GDP growth of around 0.5 percent in 2022, as activity continues to be held back by the lingering effects of the COVID-pandemic, limited space for policy stimulus, and the effect of external sanctions. Without structural reforms over the medium term, growth is forecast to gradually converge to its potential growth rate, which is estimated at about 1 percent, reflecting low investment and low productivity in the public sector. Risks to this outlook are large and revolve around geopolitical tensions, the possibility of further waves of COVID outbreaks, the impact of international sanctions, and contingent liabilities in the public sector. These major risks make a strong case for careful contingency planning.

Macroeconomic Policies

Fiscal policy

The fiscal deficit widened during 2020-21 but the increase in public debt has been limited . While direct fiscal COVID-support has been modest compared to other countries—mostly in the form of supplementary wages—support to state-owned enterprises continues to weigh on public finances. In addition, a change in Russia’s oil taxation regime (the ‘tax maneuver’) generates losses of Belarusian export duties, while the 2020 recession led to a loss of corporate income tax. The overall general government balance is now projected at -3.1 percent of GDP for 2021. With a stable nominal exchange rate, public debt remains below 50 percent of GDP.

Faced with limited financing options due to international sanctions, there are limited alternatives to the authorities’ plans to significantly reduce the fiscal deficit . A number of revenue measures together with a reduction in public investment—in particular the finalization of the construction of the nuclear power plant—will contribute to reduce the 2022 general government deficit to 2.1 percent of GDP. Underlying budget assumptions are conservative, providing headroom for possible expenditure overruns to provide additional support to the economy, including support for unproductive state-owned enterprises and their reforms. Financing sources for 2022 are largely identified, and government deposits of about BYN 24 billion can be used in case of actual financing falls short of plans.

High fiscal risks call for further consolidation measures and risk management. Current sanctions limit space for roll-over and new issuances of public debt on the Eurobond market. Although the authorities can continue to borrow on other markets, institutions and countries, a further reduction of the fiscal deficit in 2023 would alleviate pressure to issue new debt. A key concern is that 93 percent of public debt is denominated in foreign currency and thus vulnerable to exchange rate movements. Another concern is that implicit contingent liabilities from state-owned enterprises and public banks could lead to a substantial drain on public finances. Also, debt issued by the Asset Management Agency would be classified as public debt in international statistics. Addressing these concerns requires fundamental economic reforms.

Monetary policy

Monetary policy will need to accomplish a difficult balancing act so as to preserve NBRB credibility . Following the increase in global commodity prices and the depreciation of ruble in 2020, inflation has accelerated to slightly more than 10 percent in 2021 against the medium-term target of 5 percent. While the NBRB has responded by reducing the pace of base money growth and increasing the policy rate —aiming to bring inflation to 6 percent by the end of 2022—the policy rate remains negative in real terms (but credit and deposit rates are positive in real terms). Also, directed and subsidized lending to public enterprises continues. Taking into account the weak baseline outlook and the substantial risks facing the economy, monetary policy needs to find a careful balance between—on the one hand—gradual inflation reduction, strengthening public confidence and moderating inflation expectations, and—on the other hand—supporting growth. This challenge is made all the harder by the high degree of dollarization in the economy.

Nominal exchange rate flexibility should be maintained to buffer the external shocks that are hitting the economy, but disorderly adjustments need to be avoided . Allowing the exchange rate to adjust in 2020 helped avoid a widening of external imbalances and preserved much-needed international currency reserves. The authorities would be well advised to continue with this policy, limiting exchange rate intervention to instances where an otherwise disorderly depreciation would undercut confidence in the currency. Looking further ahead, dollarized balance sheets and external debt call for building up foreign currency reserves as external conditions improve. Following the Fund’s SDR allocation—which the authorities plan to keep in reserves—foreign currency reserves presently remain stable at a relatively low level of US$8.5 billion (2.3 months of imports). This will need to be supported with policies that maintain low and stable inflation and address structural impediments to external competitiveness (Structural Reform section).

The objective of targeting medium-term inflation is fundamentally sound, and the work on strengthening supporting conditions should continue . In order to ensure that such a shift in the monetary policy regime delivers low and stable inflation, the ongoing work should be intensified, to: (i) strengthen forecasting and policy making, (ii) entrench confidence in central bank independence, (iii) improve communication, inter alia by announcing and holding regular meeting of the NBRB Board, and (iv) establish the policy rate as the primary instrument and its transmission to market rates. The launch of the new policy regime should be made conditional on macroeconomic stability—which will help to reduce dollarization—and progress in establishing appropriate conditions, particularly aligning real wage growth with productivity developments and more firmly anchoring inflation expectations.

Financial sector policy

Banking statistics suggest that the sector has weathered the impact of the pandemic and sanctions relatively well, but credit and liquidity risks persist. During 2020 and 2021, the Non-Performing Loans (NPLs) ratio increased only slightly to 5½ percent helped by regulatory easing—multiple loan restructurings for economically viable companies no longer lead to automatic NPLs classification—and relatively lenient treatment of restructured loans. By not requiring adequate provisioning for some restructured loans, banks have maintained profitability. Combined with other regulatory support measures and—in some cases—recapitalization, banks comply with capital requirements. However, there is uncertainty about the total amount of restructured loans, and therefore the need for additional provisioning, should there be further deterioration. Credit risk is also high due to banks’ exposure to low performing state-owned enterprises. Following deposit withdrawals at the start of the pandemic, the NBRB eased liquidity regulations, but insufficient buffers keep banks vulnerable to renewed deposit outflows and may make it difficult to meet an increase in credit demand.

The NBRB should reconsider its countercyclical support measures, align asset classification with international norms, and adjust application of individual macroprudential instruments. Staff recommend setting a definitive sunset clause for the support measures in order to promote transparency in asset quality and enforce market discipline. Instead of prolonging forbearance, the NBRB should reinstate the pre-pandemic regulatory norms, allow banks to use their prudential buffers and, if necessary, permit temporary non-compliance with minimum capital requirements and other prudential limits. In addition, the NBRB should bring loan classification and provisioning in line with international standards, as well as implement its plan to transition to mandatory use of international accounting standards. The NBRB has introduced most Basel III instruments in capital and liquidity regulation. The NBRB also applies key borrower-related prudential limits (debt-service-to-income ratio and loan-to-value ratio). However, the NBRB should reconsider its macroprudential policy of requiring a special reserve for high loan rates (“estimated standard risk value”), which—although currently being binding only on small banks—effectively acts as an interest rate cap, with unknown impact on the overall banking system.

Sanctions are making cross-border payments increasingly difficult . While few correspondent banking relationships have been severed, some banks are reporting a loss of foreign credit lines, higher compliance costs, and delays in the execution of cross-border payments, including remittances. Banks are therefore seeking alternative solutions and correspondent banks, including from Asia.

The AML/CFT regime was recently strengthened, but further enhancements are required to improve the transparency of legal persons. The authorities have completed a comprehensive AML/CFT assessment by the EAG [1] in 2019 with substantial effectiveness in five (out of eleven) key AML/CFT areas. The assessment identified low effectiveness only in ensuring the transparency of legal persons, and the authorities took measures to implement the assessment’s recommendations, including amending the AML/CFT law. Ensuring that the beneficial ownership information is available to competent authorities is critical for the effective investigation of corruption and other crimes, including transnational, and further efforts should include: (i) a comprehensive assessment of money laundering and terrorist financing vulnerability of legal persons, as planned in the next national AML/CFT risk assessment; (ii) issuing guidance on the beneficial ownership obligations, including as intended by the NBRB and Department of Financial Monitoring in the State Control Committee for microfinance and forex organizations; (iii) developing a mechanism for verification of beneficial ownership information and application of effective sanctions for breaches; and (iv) deeper assessment of cross-border money laundering and terrorist financing risks, as envisaged by the authorities’ inter-agency task force and implementing other measures as foreseen in the EAG follow-up report.

Structural Policies

The large state-owned enterprise sector continues to be a drag on the economy, and needs to be reformed . The authorities’ recent internal assessment of state-owned enterprises’ strategic role and viability is welcome, and should help inform their future decision making. While state-owned enterprises are deemed to provide stable employment, a sizable number of enterprises are unprofitable and rely on budget subsidies and subsidized lending. This generates fiscal costs and creates fiscal risks. More robust and comprehensive forward-looking financial monitoring jointly between the responsible line ministry and the Ministry of Finance is needed. Identifying unviable enterprises and developing a plan for how to restructure effectively or close those is a priority. In parallel, unemployment benefits, labor market programs and social safety nets for employees that are laid off should be strengthened to help them transition to other jobs.

For viable state-owned enterprises, efforts should be made to strengthen accountability and transparency, and increase productivity and profitability . A comprehensive framework for shareholder monitoring and accountability discharge, as well as the introduction of a corporate governance framework according to international best standards, should be pursued. Separation of the government’s ownership and regulatory roles will also be important to create a level playing field between private and public enterprises. While privatization of viable state-owned enterprises can be part of the strategy, a well-design privatization process should be followed, and fire sales of government assets should be avoided.

Data Provision

Staff assessment is based on available data, which in some areas have shortcomings. Changes in accounting regulations as a COVID relief measure reduce the reliability of source data and create breaks in time series. The authorities have discontinued providing decomposed trade data, making a full assessment of the external sector difficult. Finally, staff have not been able to discuss in full a medium-term macroeconomic framework for Belarus as the authorities shared detailed economic projections only until 2022.

The mission wishes to express its gratitude to the authorities for the cooperation and discussions.