128

Country Assessments / Georgia

Georgia
Highlights of the past year
The economy has stabilised and grown. As domestic credit and external demand recovered, output increased in most sectors above the pre-crisis level, with the notable exceptions of agriculture and construction. The government has pursued its scal consolidation eorts, introduced scal rules and rolled over a large eurobond on favourable terms. The central bank is moving towards ination targeting and has strengthened the nancial stability framework. The central bank has allowed the lari to oat more freely. It has also strengthened prudential regulations and the consumer protection framework, and improved the analytical capacity to support ination targeting. The government has shifted to a more proactive growth strategy, targeting the energy, tourism and agricultural sectors. The capacity to support EU food safety standards is being established and should boost agricultural exports.

Macroeconomic performance
The economy has recovered from the dual shock of the armed conict with Russia in 2008 and the global economic crisis. Output is estimated to have grown by 6.4 per cent in 2010 and another 5 per cent in the rst half of 2011 as private sector credit and exports rebounded. The recovery was led by manufacturing, with most other sectors also contributing. Although agriculture has recovered from last years drought, it remains depressed. FDI inows, an important engine of growth before the crisis, remain well below their pre-crisis levels. A large package of support from international nancial institutions (IFIs) is being drawn down, while the level of foreign reserves remains reasonable at around four months of imports. The share of non-performing loans (NPLs) in the nancial sector has been steadily declining, although it remains high, at 9.9 per cent of total loans as of July 2011. Public sector consolidation has continued although ination increased. The authorities have been able to substantially lower the scal decit in 2010 by reducing expenditures, and they have adopted some scal rules that should help support scal sustainability over the medium term. In April 2011 the Ministry of Finance placed a US$ 500 million eurobond at very favourable terms that reduced medium-term rollover risk. Ination pressures re-emerged in the middle of 2010 in response to further devaluation and global food price increases, although core ination has remained low. The government partially compensated vulnerable households for food and energy price increases. Ination declined considerably, from 14.3 per cent year-on-year in May to 7.2 per cent in August 2011 mainly due to falling food prices and subdued demand-side pressures, and the central bank was able to loosen monetary policy by decreasing the renancing rate to 7.5 per cent The medium-term challenge for the government is to create conditions for sustainable economic growth while completing the post-crisis external and scal adjustment. Despite recent progress toward bringing the external current account to a sustainable level, the decit remains very high. The adjustment is all the more necessary as donor support and scal stimulus are expected to be wound down and debt rollover requirements remain large over the medium term. To maintain growth over the longer term, the authorities would need to supplement their proactive growth strategy for agriculture, tourism and energy with building of the necessary regulatory capacity, deepening institutional reforms to further strengthen investor condence, and opening additional export markets (in the EU and more broadly).

Key priorities for 2012

Reviving private investment is a key priority. The authorities eorts to encourage foreign direct investment (FDI) should be broadened to stimulate domestic savings and investment. Financial sector policies should focus on completing the transition to ination targeting and further strengthening of prudential supervision. Municipal and other infrastructure should be strengthened. Major challenges include rehabilitation of physical infrastructure and restructuring of municipal enterprises to improve eciency. In the natural resources sector, the role of the dominant stateowned player, the Georgian Gas and Oil Corporation (GOGC), should be reduced through break-up or sale of parts of the company to increase competition. The authorities should improve the trade and investment climate. Pursuing negotiations on access to the European markets should support the revival of the agricultural sector as well as FDI-supported manufacturing of tradeable goods.

Main macroeconomic indicators (% unless indicated)

2008 GDP growth Ination (end-year) Government balance/GDP 1/ Current account balance/GDP Net FDI (in million US$) External debt/GDP Gross reserves/GDP Credit to private sector/GDP 2.3 5.5 -6.3 -22.6 1494 44.0 11.5 33.2 2009 -3.8 3.0 -9.2 -11.2 659 58.0 19.6 31.1 2010 estimated 6.4 11.2 -6.6 -9.8 493 61.6 20.5 32.4 2011 projected 5.0 4.6 -3.9 -10.8 750 na na na

2011 sector transition indicators

Sector transition score
4.0 3.5 3.0 2.5 2.0
Telecommunications Sustainable energy

1.5
General industry Agribusiness

Natural resources

Banking

Roads

IAOFS

Water

0.5 0.0

Corporate

Energy

Infrastructure

Financial institutions

Note: 1/ Consolidated government balance.

Note: Water Water and wastewater; IAOFS Insurance and other nancial services; PE Private equity

MSME nance

Electric power

1.0

Capital markets

Urban transport

Real estate

Railways

PE

Transition Report / Country Assessments

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Major structural reform developments

Georgias investment environment remains among the best in the region. According to EBRD-World Bank Life in Transition survey II, carried out in 2010, perceptions of corruption are as low as in western European countries. The World Banks Doing Business 2011 survey continues to rank Georgia among the best in its composite ease-of-doing-business measure. The authorities have started to address concerns about the politicisation of the tax administration that emerged during the past year. The government has strengthened the credibility of its commitment to scal sustainability and further simplied revenue administration. The Economic Liberty Act, adopted in July 2011 and scheduled to come into force in 2014, caps budget expenditure at 30 per cent of gross domestic product (GDP), limits the budget decit to 3 per cent of GDP and public debt to 60 per cent of GDP. Also, it alleviates the constraints to scal policy created by the referendum requirement on new taxes adopted in 2011. The new tax code, approved in September 2010, simplied the taxation regime for small and medium-sized enterprises (SMEs) and introduced a new category of micro businesses which will not be subject to income tax. The code foresees a widening of the tax base by increasing some excises, applying VAT to entities with an annual turnover of over 100,000 lari and introducing a moderate income tax on small businesses. The authorities have also strengthened the e-ling system that now integrates all taxes and other web-based revenue services, although rising pressures to generate revenues have increased the perception in the business community of arbitrariness in the application of rules by the revenue service. The National Bank of Georgia (NBG) has continued to strengthen its monetary policy and nancial stability frameworks. The reforms included activation of central bank standing facilities and active use of renancing instruments, reduced frequency of foreign exchange interventions and greater exchange rate exibility. Since April 2010 the NBG has been oering commercial banks guaranteed access to renancing loans against collateral at an interest rate linked to the NBGs key policy rate. The collateral base for renancing loans has also been extended to include international bank guarantees and long-term local currency loans. The central bank has continued to strengthen its capacity to forecast and model ination. To limit nancial sector vulnerability, the NBG tightened prudential regulations in December 2010 by strengthening capital requirements on foreign currency loans, initiating the transition to risk-based supervision and introducing policies for consumer nancial protection.

The authorities are working on further improvement of the countrys infrastructure and identifying mechanisms for addressing market failures. The ongoing construction of the Black Sea Energy Transmission System should integrate Georgia in the regional energy market, improve the regulatory framework and set standards for corporate governance and business conduct. The construction of a new hydropower plant will lead to greater cross-border energy ows via a transmission line from Georgia to Turkey. The purchase of the Poti Port by the subsidiary of the Danish Maersk company from RAKIA should further integrate Georgia into the global shipping networks over time. The authorities eorts to encourage recovery in the agricultural sector and their targeted support to the infrastructure should boost growth. Proposals for establishing a new state bank are being pursued. With international assistance, the government is preparing a feasibility study for setting up a development bank that would identify projects in promising sectors that require public action to overcome market failures. The bank could be benecial for stimulating growth, provided it has a strong governance framework and its activities are complementary to those of commercial banks.

Real GDP (1989 = 100)

Georgia
180 160 140 120 100 80 60 40 20 0
1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Fiscal balance and current account balance

Fiscal balance (% of GDP)
5 0 -5 -10 -15 -20 -25
2005 2006 2007 2008 2009 2010 2011

EBRD-30

Current account balance (% of GDP)