Press Release No. 98/27

The International Monetary Fund (IMF) has approved a new three-year loan for the Kyrgyz Republic under the Enhanced Structural Adjustment Facility (ESAF)¹, equivalent to SDR 64.5 million (about US$86 million), to support the government’s economic program for 1998-2000. The first annual loan, equivalent to SDR 21.5 million (about US$29 million), is available in two equal semiannual installments, the first of which is available immediately.

Background

The Kyrgyz Republic has made consistent progress in macroeconomic stabilization and initiated the establishment of an enabling market environment under its first three-year ESAF which ended on March 31, 1998. For two consecutive years, the economy registered strong growth, while inflation declined to below 15 percent, brought about by decisive fiscal and monetary tightening, in spite of occasional slippages. Key structural reforms in the financial sector and in budgetary procedures were implemented, and the coupon privatization program was completed. Progress on the structural front was uneven, since the privatization of large enterprises was halted and pension reform and the restructuring of the agricultural sector remained largely untackled.

Economic recovery is still fragile and not yet broad-based, and the Kyrgyz economy has now arrived at a critical juncture for eliminating the remaining impediments to sustainable economic growth. The role of the private sector as the main engine of growth and source of employment for the Kyrgyz Republic’s growing population is still underdeveloped. The economy continues to rely heavily on external concessional financing, and does not yet generate adequate domestic investible resources to improve the current low domestic savings and investment rates. Structural rigidities remain to be addressed to induce an adequate supply response of the private sector.

Medium-Term Strategy and the 1998/99 Program

The new three-year program supported by the ESAF aims at a steady output growth, a permanent reduction in inflation to single-digit levels, and a strengthening of the external position. Fiscal tightening and retrenchment will be the centerpiece of the program. Over the program period, government dissavings will be sharply reduced by cutting the overall fiscal deficit by almost one-half, considerably strengthening tax revenue, and restraining expenditures.This will be complemented by a tight monetary policy, as well as structural measures aimed at creating an environment conducive to private sector development.

The economic program for 1998 and 1999, supported by the first annual arrangement under the ESAF, aims at real GDP growth of about 6 percent and 4.6 percent, respectively; end-of-period inflation of 12 percent and 8 percent, respectively; and an external current account deficit of about 7.5 percent of GDP and 6.9 percent, respectively. The principle policies are (1) to reduce the accrual-based overall fiscal deficit to 8.1 percent of GDP in 1998 and to 7.1 percent of GDP in 1999; (2) to slow the growth of reserve money from 21.1 percent in 1997 to about 15.5 percent in 1998 and 9 percent in 1999; and (3) to initiate well-targeted structural reforms that could promote private sector investment and enhance the creation of savings.

To support the program goals, fiscal policy will focus on ensuring that the budget conforms with the overall macroeconomic objectives and the availability of domestic and concessional external financing. There will be a number of expenditure cuts, for which the Ministry of Finance will be responsible by issuing monthly limits to the spending units. While expenditures will decline only marginally in 1998 compared with 1997, their composition will improve considerably, including an increase in capital expenditures by 2 percentage points of GDP and a larger share of social spending. There will be a cumulative floor on tax collections, which are projected to increase to 13.5 percent of GDP in 1998 from 13.1 percent of GDP in 1997, mostly reflecting improved performance with value-added, income, and excise taxes, and, to a lesser extent, a repeal of tax exemptions.

Structural Reforms

The program contains a wide array of second generation structural reforms covering a comprehensive overhaul of the public pension system, civil service reform, privatization and enterprise reform, the further strengthening of the legal and regulatory framework, the adoption of sectoral strategies for agriculture and energy and of a water management plan, a completion of the modernization of the financial sector, and improvements in statistics. Pension reform will lead to a phasing out of budgetary subsidies by the end of the program period, while civil service reform will modernize the public sector and emphasize individual accountability.

Privatization will include the divestiture of large monopolies, such as the telephone, gas, and energy companies, and the national airline, most of which are planned to be sold in 1999. The bulk of the enterprises are expected to be sold through auctions, tenders, and the stock exchange, but other methods, such as leases with options to buy, are also envisaged.

The strengthening of corporate governance will help transform both public and privatized enterprises into viable businesses. Corporate governance will benefit from the imposition of hard budgetary constraints on enterprises by phasing out budgetary loans, reducing interenterprise and tax arrears, and strictly applying bankruptcy procedures. Such measures will be complemented by efforts to modernize the labor market.

Addressing Social Needs

It is the firm intention of the authorities that all segments of the population benefit from the economic recovery and the move to a market economy. Continued improvements in the targeting and efficiency of essential social services will ensure that the most vulnerable groups of the population receive at least 60 percent of the benefits. Health and education are key elements in establishing a strong and secure social safety net, and expenditures will be kept at least constant in real terms during the program period. In relation to total budgetary spending, health expenditure will rise to 11.7 percent by 2001 from 11.2 percent in 1998, and education expenditure will rise to 19.2 percent by 2001 from 18.5 percent in 1998.

The Challenge Ahead

Vigilance will be needed to build on the Kyrgyz authorities’ considerable achievements to date and to attain further fiscal consolidation, which is the centerpiece for the future adjustment strategy. Further challenges are presented by the need to improve external debt management, implement the overdue reform of the pension system, address the deficiencies in the legal and regulatory framework, and arrest the deterioration of key social indicators.

The Kyrgyz Republic joined the IMF on May 8, 1992, and its quota² is SDR 64.5 million (about US$86 million). Its outstanding use of IMF financing currently totals SDR 117 million (about US$157 million).

Kyrgyz Republic: Selected Economic Indicators 1995 1996 1997* 1998** 1999** (Percent change) Real GDP -5.4 7.1 6.5 6.0 4.6 Consumer prices (December-December) 31.9 35.0 14.7 12.0 8.0 (Percent of GDP) Overall fiscal balance (accrual basis, -deficit) -17.0 -9.0 -9.4 -8.1 -7.1 Current account balance -16.3 -23.5 -8.2 -7.5 -6.9 (Months of imports) Gross international reserves 2.5 1.6 3.0 3.3 3.5 Sources: Kyrgyz authorities; and IMF staff projections. *Estimates. **Projections. 1 The ESAF is a concessional IMF facility for assisting eligible members that are undertaking economic reform programs to strengthen their balance of payments and to improve their growth prospects. ESAF loans carry an interest rate of 0.5 percent a year and are repayable over 10 years, with a 5 ½-year grace period. 2 A member’s quota in the IMF determines, in particular, the amount of its subscription, its voting weight, its access to IMF financing, and its share in the allocation of SDRs.