Country Economic Update Kazakhstan Spring 2018 The Quest for a New Growth Model: The Urgency of Economic Transformation Macroeconomics, Trade & Investment Global Practice KAZAKHSTAN The Quest for a New Growth Model: The Urgency of Economic Transformation Country Economic Update Spring 2018 Government fiscal year: January 1 – December 31 Currency unit: Kazakhstani tenge (KZT) Currency equivalents: Exchange rate effective as of May 1, 2018 US$1 = 327.25 KZT Weights and measures: Metric system Abbreviations and acronyms EMDEs Emerging market and developing economies FDI Foreign direct investment FX Foreign currency ICP International Comparisons Program MID Ministry for Investments and Development of Kazakhstan NBK National Bank of Kazakhstan NPLs Nonperforming loans PPP Purchasing power parity PPPs Public-private partnerships SOEs State-owned enterprises Cover photo credit: Shutterstock.com: Horses at mountain meadows, Assy plateau, near Almaty, Kazakhstan. ii| Table of Contents Foreword ................................................................................................................................................................................... iv Overview ..................................................................................................................................................................................... 1 A. Recent Socio-Economic Developments ..................................................................................................................... 2 B. Macroeconomic Policies and Structural Reforms ................................................................................................. 8 C. Economic Outlook and Risks........................................................................................................................................ 11 D. Focus Section: The Strategy for Investment Attraction and Retention ..................................................... 14 Annex Table 1. Selected Macroeconomic and Social Indicators, 2014–20 .................................................... 19 Diagrams Diagram 1. Strategy 2025’s core systemic reforms support the seven evolutionary paths of the Kazakhstan 2050 Strategy ................................................................................................................................................... 2 Diagram 2. Three main pillars of Kazakhstan's investment strategy .............................................................. 16 Diagram 3. Investment lifecycle framework .............................................................................................................. 17 Figures Figure 1. Net exports—driven by oil—was the main contributor to higher growth in 2017 ................. 4 Figure 2. Consumer price inflation moderated owing to lower food price inflation ................................... 4 Figure 3. Monetary easing continued as inflationary pressures subsided .................................................... 10 Figure 4. The NBK continued withdrawing liquidity through open-market operations ......................... 10 Figure 5. FDI inflows globally and regionally are still recovering from the global crisis ........................ 15 Figure 6. Investors are mainly motivated by natural resource-seeking FDI in Kazakhstan .................. 15 Tables Table 1. Real GDP Growth by Demand, 2013–17 ....................................................................................................... 3 Table 2. Balance of Payments and Official Reserves, 2015–18............................................................................. 5 Table 3. Key Exposure Indicators of Top-15 Commercial Banks......................................................................... 6 Table 4. General Government Fiscal Accounts, 2015–20........................................................................................ 8 Table 5. Baseline Scenario: Selected Macro-Fiscal Indicators, 2015–20 ........................................................ 13 Boxes Box 1. A Recent Adjustment to International Poverty Lines ................................................................................. 7 Box 2. The Importance of Differentiating Among Different Types of FDI for Diversification ............... 15 |iii Foreword This edition of the Country Economic Update (CEU) for Kazakhstan is part of a semi-annual series designed to monitor socio-economic developments in the country. It presents a concise analysis of economic and social developments, as well as a progress report on structural reform implementation, during the last six to twelve months. This edition includes a special focus section highlighting findings of recent World Bank Group studies, focusing on (i) Increasing the Impact of FDI for Economic Growth and Upgrading - National Investment Attraction and Retention Strategy of the Republic of Kazakhstan (June 2017); and (ii) Attracting Investment to the Economy through the Development of Policy and Institutional Mechanisms for PPP and Identification of Viable PPP Projects (June 2016). The main authors of this CEU are Ilyas Sarsenov (Senior Country Economist for Kazakhstan) and Azamat Aldiyarov (Research Analyst). The CEU benefited from valuable inputs provided by Rakhymzhan Assangaziyev (Senior Country Officer), Eva M. Gutierrez (Lead Financial Sector Specialist), William Hutchins Seitz (Poverty Economist), Alma Nurshaikhova (Public Sector Management Specialist), Yohei Okawa (Development Policy Economist), and Gaziz Seilkhanov (Research Analyst). Yeraly Beksultan (Senior Private Sector Specialist) and Aisulu Mailybayeva (Executive Assistant) prepared the special focus section. The authors are grateful for the guidance and comments provided by Ato Brown (Country Manager for Kazakhstan) and Julio Revilla (Lead Economist for Central Asia). Gulmira Akshatyrova (Program Assistant in Astana) and Sarah Nankya Babirye (Program Assistant in Washington, DC) provided administrative support. Bronwen Brown (Consultant) edited the final CEU text. Azat Baidauletov (IT Analyst) provided IT support and helped with the formatting of the CEU. Shynar Jetpissova (Communications Officer) and Kubat Sydykov (Online Communications Associate) supported the CEU team with report dissemination. María De los Angeles González-Miranda Practice Manager Global Practice on Macroeconomics, Trade & Investment iv| Overview A recovery in the Real GDP growth accelerated from an annual average of slightly above oil sector boosted 1 percent in 2015–16 to about 4 percent in 2017; this momentum carried recent economic through to the first quarter of 2018 when GDP expanded by an estimated performance. 4.1 percent. The improvement in economic performance was mainly the result of an improved performance by the oil sector, as oil output was boosted from oil fields not included in OPEC-led cuts. Together with more favorable terms of trade, this generated positive spillover effects to the nonoil manufacturing and services sectors. On the demand side, an improvement in net exports was a key contributor to the higher rate of GDP growth. This resulted in an improvement in the current account balance and more fiscal revenue flowing to the Oil Fund. Consequently, the tenge continued strengthening in real terms. Meanwhile, domestic demand remained subdued, leading to a moderation in inflation. The oil boost has Our real GDP growth forecast for 2018 has been revised upward, from 2.6 strengthened percent (in our previous Fall 2017 CEU issue) to 3.7 percent, owing to better- macroeconomic than-expected oil prices and output. Over the medium term, the real GDP outlook, but growth rate is expected to hover around 3 percent, as the contribution of the downside risks to oil sector to economic growth declines relative to 2017–18 (when a structural the current growth shift in oil output occurred). With oil prices projected to reach US$65/bbl on model remain. average in 2018–20, the current account balance is also projected to improve, from deficits in 2015–17 to surpluses in 2018–20. The fiscal position will improve gradually in the wake of fiscal consolidation efforts. Downside risks to the outlook include a potential weakening of the external environment (driven by mounting geopolitical tensions), a worsening of problems in the banking sector, and a government’s inability to implement needed structural reforms. There is also an upside risk stemming from higher oil prices, especially in the short term, due to a recently announced renewal of US sanctions on Iran. The authorities The successful implementation of structural reforms will be required to should show a deliver more sustainable and inclusive economic growth going forward. greater Ongoing structural and institutional reforms1 should aim to transform the commitment to current oil-driven and state-run growth model—by reducing the role of the transitioning to a state in the economy—to one that facilitates the development of a vibrant, new growth model. modern and innovative tradable nonoil sector. In this context, efforts to restructure and privatize state-owned enterprises (SOEs) would be expected to focus on improving the efficiency of public administration, reducing fiscal risks, and open competitive spaces for the private sector to act. Prudent fiscal and monetary policies would support economic and price stability and encourage investment in the nonoil economy. Attracting and retaining more export-oriented and efficiency-seeking investment would be critical for economic transformation. 1 Such reforms include those under the 100 Concrete Steps program and the Strategic Development Plan 2025 (adopted in early 2018), aiming to upgrade the current growth model and elevate the GDP growth rate to 5.5 percent on average. |1 A. Recent Socio-Economic Developments Recent strategic initiatives The government The authorities adopted the Strategic Development Plan 2025 (Strategy has identified 2025) in early 2018.2 The strategy provides a framework for the priority reforms implementation of the previously-announced Modernization 3.0 initiative for a new growth aimed at fostering better economic and social development outcomes. model. Strategy 2025 is designed to transition the economy towards a new growth model by focusing on improving workforce skills and capabilities, upgrading technology and digitalization, supporting fair competition, ensuring the rule of law for all, strengthening regional development and urbanization, shifting public attitudes and perceptions, and improving public sector effectiveness. These seven systemic reforms (targeted through 2025) set the foundation for the implementation of the seven evolutionary paths contained in the Kazakhstan 2050 Strategy (Diagram 1). Once implemented, these reforms will put the country on a path of economic transformation towards more sustainable and inclusive national development. Diagram 1. Strategy 2025’s core systemic reforms support the seven evolutionary paths of the Kazakhstan 2050 Strategy Source: Kazakhstan Strategic Development Plan 2025. New social and Following the adoption of Strategy 2025, President Nursultan Nazarbayev environmental announced a new complementary program, Five Social Initiatives, targeting initiatives have the improvement of social and environmental conditions. The initiatives are: been announced. (i) a new “7-20-25” mortgage program for families in need of housing;3 (ii) a reduction of the tax burden on low-income earners by (potentially) introducing a progressive personal income tax scheme; (iii) improvements to 2 Presidential Decree #636 On Approval of Strategic Plan for Development of the Republic of Kazakhstan Until 2025, February 15, 2018. 3 The key parameters of this program include a nominal interest rate capped at 7 percent, a down payment of up to 20 percent of the total loan amount, and loan maturities of up to 25 years. 2| the accessibility and quality of higher education; (iv) an expansion of microcredit financing to the self-employed and access to finance for small business development; and (v) the extension of a gas pipeline to the north of the country, including Astana, the capital, to expand gasification in the regions. Through the Five Social Initiatives program, the authorities are demonstrating their commitment to an inclusive and more environmentally- friendly growth model. The authorities should be careful with fiscal risks and other potential adverse effects on the weak banking sector that can be generated by this initiative.4 Growth and inflation Economic growth Kazakhstan’s economy has experienced a significant boost from the oil sector accelerated on the in the last 18 months, driven mainly by the coming on stream of an off-shore back of higher oil oil field, Kashagan, in the fourth quarter of 2016. Because the Kashagan field production and was exempt from an OPEC-led production cut agreement, oil production rose exports. strongly. Combined with more favorable terms of trade, the oil sector generated positive spillover effects on the nonoil manufacturing and services sectors, especially trade. As a result, annual real GDP growth recovered from around 1 percent in 2015–16 to an estimated 4 percent in 2017 (Table 1). This growth continued into the first quarter of 2018 as Kazakhstan, unlike other OPEC countries, continued benefiting from oil price and output increases (from Kashagan, in particular). On the demand side, a significant improvement in the contribution of net exports (mainly driven by an increase in oil exports to the European Union and exports of metals to China) drove GDP growth while domestic demand remained subdued, despite government’s programs to stimulate private-sector growth (Figure 1). Table 1. Real GDP Growth by Demand, 2013–17 (In percent) 2013 2014 2015 2016 2017e Real GDP growth 6.0 4.2 1.2 1.1 4.0 Domestic demand 8.2 4.5 3.0 1.7 1.9 Private consumption 10.7 1.4 1.8 1.2 1.5 Government consumption 1.7 9.8 2.4 2.3 2.1 Gross capital formation 6.7 8.6 5.5 2.5 2.4 Net exports Exports of goods and services 2.7 -2.5 -4.1 -4.5 2.2 Imports of goods and services 7.8 -4.0 -0.1 -2.0 -4.5 Source: World Bank staff calculations based on official data published by the authorities. Note: e=estimate. 4 Although a direct fiscal cost of the Five Social Initiatives program is estimated at just KZT 25.1 billion (US$76 million) in the 2018 supplemental budget, contingent liabilities from the gas pipeline construction alone may exceed several billions of U.S. dollars in the coming years. The state-owned oil & gas company KazMunayGas will be in charge of the gasification project to be financed mainly by international financial organizations. Even if this financing is not backed up by an explicit state guarantee, it will be representing a significant implicit fiscal cost for the government. The government estimated the first phase of the project to cost KZT 267.3 billion (more than US$ 800 million) and the other three phases will add more than KZT 100 billion (extra US$300 million). In addition to the inter-city gas pipeline network to be constructed by KazMunayGas, municipalities will have to raise funds to build an intra-city gas pipeline infrastructure, to link households to the main network. There are still no cost estimates available for the intra-city gasification. |3 Headline inflation The annual inflation rate declined from 7.4 percent in 2017 to 6.6 percent in moderated as the first quarter of 2018 and 6.5 percent in April 2018 as external pressures external pressures faded—in the form of a pass-through from tenge depreciation—while faded. domestic demand remained weak (Figure 2). Lower inflation allowed the authorities to implement some monetary easing in early 2018 (as described below). The slowdown in consumer price inflation mainly owed to lower food price inflation, which slowed from an average of 8.6 percent in 2017 to 5.6 percent in the first quarter of 2018, as a result of a higher supply of staples like sugar and flour. However, non-food price inflation remained elevated (8 percent year on year), and prices for paid services rose even more, driven by higher fuel prices that led to utility and transport tariff adjustments in early 2018. Figure 1. Net exports—driven by oil—was the Figure 2. Consumer price inflation moderated main contributor to higher growth in 2017 owing to lower food price inflation (In percent) (In percent) Source: World Bank staff calculations based on official Source: World Bank staff calculations based on official data published by the authorities. data published by the authorities. External sector The external Buoyed by more favorable terms of trade, the current account deficit balance improved narrowed substantially, halving from US$8.9 billion (6.5 percent of GDP) in due to more 2016 to US$5.4 billion (3.4 percent of GDP) in 2017 (Table 2). Preliminary favorable terms of data for the first quarter of 2018 suggest that the current account improved trade. further, nearing to almost a zero balance. The improvement in the current account balance drove a strengthening of the tenge by about 10 percent in real terms against the U.S. dollar in 2017. On the financing side, lower inflows of foreign direct investment (FDI) and foreign borrowing by SOEs (as part of portfolio investment) were mostly offset by short-term capital outflows. On the latter, the National Bank of Kazakhstan (NBK) reported an increase in assets held by residents abroad. As a result, gross international reserves of the NBK and the government (in the Oil Fund) declined by US$4.5 billion (2.8 percent of GDP) in 2017. While the NBK continued converting part of its foreign exchange (FX) reserves into gold, the government continued tapping the Oil Fund to finance the fiscal deficit (as described below). 4| Table 2. Balance of Payments and Official Reserves, 2015–18 (In US$ billions) 2017 2018 2015 2016 2017 Q1 Q1 Current account balance -5.1 -8.9 -5.4 -1.4 -0.1 Merchandise trade 12.7 9.2 17.4 4.3 6.1 Exports f.o.b. 46.5 37.3 49.3 11.0 13.8 Of which: Oil and gas 31.1 22.3 30.5 6.1 .. Imports f.o.b. 33.8 28.1 31.8 6.7 7.8 Services -5.1 -4.8 -4.4 -0.9 -1.1 Primary income -11.1 -12.9 -17.9 -4.7 -5.0 Of which: Income of direct investors -8.6 -10.9 -15.6 -4.1 -4.4 Secondary income -1.6 -0.4 -0.5 -0.1 -0.0 Capital and financial account balance /1/2 -5.4 6.4 0.8 2.4 0.1 Direct investment 3.1 13.3 3.8 1.9 2.6 Portfolio investment /1 -3.9 -2.9 2.5 0.3 -0.9 Medium- and long-term investment 4.1 4.2 0.4 0.1 -0.1 Short-term investment -3.8 -8.1 -3.7 0.9 -1.3 Errors and omissions -5.0 -0.1 -2.3 -0.8 -0.2 Overall external balance -10.6 -2.4 -4.5 1.0 0.0 Change in FX assets in the Oil Fund -9.8 -2.2 -2.9 1.5 0.9 Change in FX reserves at the NBK -0.8 -0.3 -1.6 -0.6 -0.9 Memorandum items: Stock of total official reserves 91.3 90.9 89.1 92.5 89.9 Stock of FX assets in the Oil Fund 63.4 61.2 58.3 62.8 59.3 Stock of FX reserves at the NBK 20.3 20.1 18.2 19.1 17.5 Gold reserves 7.6 9.6 12.5 10.7 13.2 Terms of trade (2014=100) /3 78.9 77.9 82.9 82.9 91.1 Nominal GDP 184.4 137.3 159.4 32.3 35.9 Source: World Bank staff calculations based on data published by the authorities. Note: Some sums may not add up exactly due to rounding; 1/ Excluding net investment of the Oil Fund; 2/ Including errors and omissions; 3/ Annual estimates. Financial sector Unresolved poor Official data grossly underestimate the stock of nonperforming loans (NPLs), asset quality which the IMF estimates at 40 percent of all loans system-wide.5 In 2017, the remains a critical government allocated KZT 2.1 trillion (4 percent of GDP) to address NPLs at issue in the the largest systemically-important banks, and the NBK additionally allocated banking sector. KZT 500 billion (1 percent of GDP) to bail out five medium-sized banks owned by politically-influential individuals.6 Financial sector concentration increased substantially following the takeover of Kazkommertsbank by Halyk Bank as part of the NPL resolution process; the merged financial institution now controls one-third of banking system assets (Table 3). The authorities should act more decisively to accelerate the resolution of NPLs, curtail related-party lending, and strength central bank supervision to avoid further problems. 5IMF 2017 Article IV Consultation, Staff Report, May 2017. 6 Bank RBK was the main recipient of NBK support as problem loans surpassed a critical threshold. The other four banks that received support were Tsesnabank, Bank CenterCredit, ATFBank, and Eurasian Bank. |5 Table 3. Key Exposure Indicators of Top-15 Commercial Banks (In percent of total) Top 15 commercial Share of Share of Share of problem Share of NPLs banks by assets /1 system assets system lending loans /2 past 90 days Halyk Bank of Kazakhstan 9.6 8.3 34.9 32.0 and Kazkommertsbank /3 39.4 35.4 Tsesnabank 9.0 13.2 6.2 4.3 Sberbank of Russia 7.4 8.6 10.9 6.6 ForteBank 6.6 4.4 15.8 7.4 Kaspi Bank 6.4 7.6 14.2 7.9 Bank CenterCredit 6.0 7.7 19.1 7.1 ATFBank 5.5 6.2 25.3 11.5 Eurasian Bank 4.2 4.7 24.3 8.9 Citibank Kazakhstan 2.7 0.7 n.a. n.a. Bank RBK 2.3 1.7 46.3 17.4 Nurbank 1.8 1.7 15.9 6.0 Altyn Bank 1.8 1.0 1.4 0.4 Alfa-bank 1.8 1.5 13.4 6.8 Bank of Astana 1.5 1.4 31.4 6.6 Qazaq Banki /4 1.5 1.4 22.3 4.4 Source: World Bank staff calculations based on official data published by the authorities. Note: Data as of April 1, 2018. 1/ Excluding state-run (noncommercial) Housing Construction Savings Bank of Kazakhstan; 2/ Loans with overdue payments (principal and/or interest); 3/ Kazkommertsbank is subject to a merger with Halyk Bank following its acquisition in July 2017; 4/ On April 28, 2018, the NBK temporarily withdrew a banking license from Qazaq Banki (until July 27, 2018). Bank insolvency Since the banking crisis of 2007, banks continue to follow cautious lending and associated practices, reflecting the high level of NPLs accumulated during the downward risk-aversion phase of the business cycle. NBK liquidity provisions and multiple, large continued to act as government credit programs have been ineffective in stimulating credit a drag on credit growth. Using bailouts and regulatory forbearance to resolve the banking growth. crises has allowed weak banks to continue operating, resulting in a widespread moral hazard and additional contingent fiscal liabilities. In early April 2018, the NBK announced plans to allocate an additional KZT 200 billion (US$600 million) from the Unified Pension Fund to boost bank lending.7 Following a slight recovery during August-November of 2017, credit growth came to a standstill at end-2017 and remained stagnant through to the first quarter of 2018. The de-dollarization trend continued in 2017 and the first quarter of 2018, with foreign currency loans declining from 32 percent of total loans at the beginning of 2017 to 25 percent by end-March 2018, driven by real appreciation of the tenge. Social indicators Real wages Despite the higher economic growth rate and improved consumer confidence, continued to fall. household income remained under pressure in 2017 as the labor market struggled to recover and domestic demand remained relatively weak. Real wages and salaries declined by 2.1 percent year on year in 2017. Although real wages rose in two regions—by 1.2 percent in Aktobe oblast and 0.6 percent in Kostanay oblast—these gains were more than offset by falling real 7 Presumably, most of these funds will be channeled to support smaller-scale ailing banks. The authorities have identified the following three small-scale banks that are in trouble: Bank of Astana, Qazaq Banki, and Eximbank Kazakhstan. 6| wages in the rest of the country, including Astana (by 1.1 percent) and Almaty (by 1.5 percent). The first quarter of 2018 showed some improvements (an overall increase of 2 percent year on year), but these gains are not enough to compensate losses incurred during 2015–17. The official unemployment rate remained unchanged at 4.9 percent in 2017. The poverty rate Despite falling slightly from its 2016 peak, the poverty rate remains high. remained Using the $5.5/day international poverty line (Box 1) the poverty rate rose relatively high. from 5.6 percent in 2013 to 7.9 percent in 2016; it is estimated to have declined to 6.9 percent in 2017. The incidence of poverty increased in all regions of Kazakhstan between 2014 and 2015, the last year for which household survey data are available. Poverty rates in the most vulnerable southern regions more than doubled during this period, jumping from 5.2 percent to 13.9 percent in Kyzylorda oblast and from 5 percent to 12.5 percent in Jambyl oblast. Box 1. A Recent Adjustment to International Poverty Lines As part of its mandate, the World Bank regularly produces internationally comparable estimates of poverty. In the fall of 2017, the World Bank updated all such estimates to a new set of poverty lines and, at the same time, began applying new purchasing power parity (PPP) conversion factors for each country. The most common official poverty approaches in the region consider local patterns of income or consumption and are often more appropriate for country-specific analysis. However, despite their many advantages, national official poverty measures are not comparable with the approaches used in other economies, in part because they are uniquely tailored to a specific country context. Comparisons across countries require a harmonized approach, such as that conducted by the World Bank. The World Bank also uses a stand-alone approach to measure internationally comparable poverty rates to account for differences in the cost of living between economies. The World Bank leads the International Comparisons Program (ICP), a global effort to measure differences in the goods and services a unit of one economy's currency can purchase in another economy. The ICP exercise was most recently completed in 2011, which led to important updates to previous PPP measures. Changes to PPP require updates to the international poverty line. As in previous rounds, for the most recent revision in 2011 the new line was estimated using the national poverty lines of the poorest economies. The result was a line set at $1.90/day. This new global line is not the same as taking the previous line and adjusting for inflation. However, in most economies (including Kazakhstan) it is quite close. In addition to the international poverty line, the World Bank has introduced income-class poverty lines, which facilitate comparisons between economies at similar stages of development. The lines are defined at $3.2/day for lower-middle-income economies and $5.5/day for upper-middle-income economies (including Kazakhstan). In the past, regional poverty lines were used to compare poverty rates and trends within regions. The World Bank will no longer use these; it is important to note that the new income-class poverty lines are not comparable to the old regional poverty lines. Patterns of poverty reduction using the previous poverty line of $1.25/day 2005 PPP and the new international poverty line of $1.90/day 2011 PPP result in similar trends: rapidly declining poverty between 2001 and 2005 and to poverty rates indistinguishable from zero after that. Despite a similar trend, the poverty rates for the extreme poverty line differ between the old and the new methods. However, for all relevant lines, updating to the new approach yields the same overall poverty trends in Kazakhstan. Source: World Bank. |7 B. Macroeconomic Policies and Structural Reforms Assessment of fiscal and debt policies The government To reduce budget reliance on oil revenue and improve fiscal sustainability the started government has phased out the fiscal stimulus of 2014–17, lowering public implementing its spending to about 20 percent of GDP from 2018 onwards (Table 4). fiscal consolidation Consequently, and in accordance with a new Oil Fund Rule, annual oil revenue strategy. consumption in the form of annual guaranteed transfers is to be cut from KZT 2.6 trillion (the equivalent of US$8 billion or 4.5 percent of GDP) in 2018 to KZT 2 trillion (US$6 billion or 3 percent of GDP) by 2020.8 These measures will drive an improvement in the overall fiscal balance and narrow the nonoil deficit to a more sustainable level (to be cut to 7 percent of GDP by 2020). Table 4. General Government Fiscal Accounts, 2015–20 (In percent of GDP) 2015 2016 2017 2018 2019 2020 Projections Total revenue and grants 18.6 19.7 21.2 21.6 22.2 21.8 Oil revenue 4.0 4.5 6.2 6.8 7.2 6.8 Oil Fund gross revenue /1 2.3 3.0 4.5 5.2 5.2 4.9 Customs duty on oil exports 1.7 1.5 1.7 1.5 2.0 1.9 Nonoil revenue 14.6 15.2 15.0 14.9 15.0 15.0 State Budget revenue /2 10.8 12.2 11.9 11.9 12.0 12.0 Other extra-budgetary funds’ revenue /3 3.7 3.0 3.1 3.0 3.0 3.0 Expenditure and net lending 24.7 24.1 25.9 20.4 19.8 19.7 State Budget spending, excluding Oil Fund flows 14.9 15.3 16.6 14.9 15.5 16.1 Oil Fund consumption 8.6 6.8 8.5 4.5 3.7 3.0 Other extra-budgetary funds’ spending /3 1.1 1.9 0.8 1.0 0.6 0.6 Overall fiscal balance -6.1 -4.4 -4.7 1.3 2.3 2.1 State Budget deficit /2 -2.4 -1.7 -2.9 -1.5 -1.6 -2.2 Oil Fund fiscal savings, net -6.3 -3.8 -4.0 0.7 1.5 1.9 Other extra-budgetary funds’ balance /3 2.6 1.1 2.3 2.0 2.4 2.4 Nonoil deficit of the Consolidated Budget /4 -12.7 -10.0 -13.1 -7.5 -7.3 -7.0 One-off expenditure /5 1.8 - 4.0 - - - Nonoil deficit, excluding one-off expenditure -10.9 -10.0 -9.1 -7.5 -7.3 -7.0 Memorandum items: Stock of net financial assets 12.5 25.0 16.0 13.8 13.0 12.1 Stock of FX assets in the Oil Fund 34.4 44.6 36.6 33.5 32.7 32.5 Stock of total government debt /6 21.9 19.6 20.5 19.6 19.7 20.4 Source: World Bank staff calculations based on data published by the authorities. Note: Some sums may not add up due to rounding; 1/ Including FX gains/losses; 2/ Excluding sale of state property and land; 3/ Excluding the Oil Fund; 4/ The Consolidated Budget comprises the State Budget and the Oil Fund consumption; 5/ One-off expenditure covers a US$2.7 billion transfer to the national oil company KazMunayGas in 2015 and a US$6.5 billion transfer to the Problem Loans Fund in 2017; 6/ Including state guarantees. 8Presidential Decree #385 On the Concept of Formation and Use of the National Fund of the Republic of Kazakhstan, December 8, 2016. 8| More efforts are It addition to the fiscal adjustment, the strengthening of global oil prices will required on the stabilize the stock of government’s net financial assets (i.e. fiscal savings in nonoil revenue the Oil Fund net of total government debt; see memorandum items in Table side. 4). To strengthen the credibility of the fiscal consolidation strategy the government will need to counterbalance the spending adjustment with additional measures to raise nonoil revenue, by eliminating inefficient tax expenditures and benefits and further improving tax administration.9 So far, the government budget for 2018–20 contains no concrete measures for raising nonoil revenue (as a share of GDP). Government debt is The recently adopted supplemental budget for 2018 led to a widening of the modest, but the projected State Budget deficit to 1.5 percent of GDP (from initially-planned government should 1 percent of GDP).10 Nevertheless, government debt, including explicit state address rising guarantees, is expected to remain stable at about 20 percent of GDP. Although contingent outstanding government debt is modest by global standards, fiscal risks from liabilities. SOEs are significant and may raise further, stemming from the planned gasification project (as discussed above; see footnote 4), as well as government’s plans to build a forth refinery in the country (presumably, also to be executed by SOEs). The public-sector debt to GDP ratio is about 47 percent, almost half of which is SOE debt. While refinancing risks are modest, substantial currency depreciation in recent years has highlighted Kazakhstan’s exposure to FX debt and the consequent need to improve debt management capacity. To address the SOE debt issue, the government has developed and adopted new rules for limiting FX debt accumulation by key SOE holding companies.11 Assessment of monetary policy Monetary easing Following its downward adjustment to the policy rate in August 2017 (to has resumed, but 10.25 percent), the NBK maintained a neutral stance for the rest of the year, the NBK will owing to a weakening tenge, temporarily rising inflation and inflationary remain cautious. expectations, and shocks in the fuel market. However, as inflationary pressures subsided, the NBK opted for a more aggressive approach in early 2018, lowering the policy rate by 50 basis points in January, 25 basis points in March, and 25 basis points in April, to stand at 9.25 percent (Figure 3). The NBK is likely to continue monetary easing in response to slowing inflation, albeit cautiously, as the volatility of price levels and inflation expectations would pose major risks to actual inflation. The authorities' new inflation targets are 5-7 percent in 2018, 4-6 percent in 2019, and 3-4 percent in 2020 onwards (down from the previous target range of 6-8 percent). The tenge remains Following a marked depreciation in the third quarter of 2017 (amid rising sensitive to devaluation expectations), the tenge appreciated during much of the fourth external factors. quarter reflecting favorable dynamics in the oil market. According to official statistics, the NBK sold US$500 million between August and October, while 9 World Bank. 2017. Kazakhstan Public Finance Review: Enhancing the Fiscal Framework to Support Economic Transformation. Washington, DC: World Bank, November 2017. 10 According to the 2018 supplemental budget, the additional borrowed funds will be allocated for the implementation of the Modernization 3.0 program (KZT 293 billion), the Five Social Initiatives (KZT 25.1 billion), and other budget obligations (KZT 98.9 billion). 11 Order of the Minister of National Economy #157 On Approval of Rules for Defining Limits for External Debt of the State- owned Enterprise Sector and List of SOEs Subject for Setting the Debt Limits, April 18, 2018. |9 the second half of the announced amount of US$1 billion has not been utilized. Since the interest rate transmission channel remains ineffective in influencing the exchange rate (owing mainly to low capital mobility and the fractured dollarized banking sector), the nominal exchange rate is heavily influenced by the trade balance, particularly the price of oil, the currency fluctuations of Kazakhstan’s major trade partners, and inflation. Furthermore, exchange rate dynamics asymmetrically influence inflation—consumer price inflation is sensitive to currency depreciation, but not to appreciation—which may force the NBK to actively intervene in response to external shocks. Countercyclical Although yields on NBK notes have been falling, the NBK has continued to policies are withdraw excess liquidity from the banking system using open market struggling to boost operations (Figure 4). Importantly, however, the NBK has been unable to spur the real economy. banks to provide more loans rather than accumulating liquidity. As a result, the volume of bank loans fell in the fourth quarter of 2017, wiping out the growth observed in the third quarter and resulting in flat year-on-year growth at end-2017 and in the first quarter of 2018. The NBK’s attempts to support financial sustainability through its injections—together with the increase in public spending—have raised liquidity and resulted in a further stagnation of bank lending. Figure 3. Monetary easing continued as Figure 4. The NBK continued withdrawing inflationary pressures subsided liquidity through open-market operations (In percent; KZT/USD) (In KZT billions) Source: World Bank staff calculations based on official Source: World Bank staff calculations based on official data published by the authorities. data published by the authorities. Ongoing structural reforms Civil service Kazakhstan continues to reform its government apparatus as part of the reforms are implementation of its 100 Concrete Steps institutional development program. progressing well The authorities introduced additional transparency measures in civil service but they are yet to recruitment and rotation and launched a career path model to promote show results. meritocracy and professionalism in the civil service. A performance-based remuneration system, which aims to make the civil service competitive with the private sector, is being piloted in four government agencies in 2018, with a full government rollout planned for 2019. Transforming the civil service requires not only a technically-competent cadre with good judgment and effective leadership but also an institutional structure that encourages civil servants to reach their full potential. Line ministries’ mid-level staff are overloaded by daily correspondence and urgent directives from the center 10| with very tight deadlines, leaving little space for developing analytical and policymaking capacity in the ministries. Low salaries also undermine the attractiveness of a civil service career. Fiscal The government deepened fiscal decentralization reforms in 2017 by decentralization increasing the independence of local self-governance bodies.12 New measures target legislation on local self-governance introduced mandatory participation of citizen citizens in the management of local budgets and communal property, an engagement. important step towards stronger citizen engagement. The authorities have also obliged the leadership of central and local executive bodies to deliver annual reports to the public (with mandatory online transmission) and opportunities for the public to ask questions. These measures will require a sustained, long-term effort to be operationalized within the state apparatus and build a truly active citizenry. A process of The Supreme Court announced a new Judicial Modernization Concept for judicial 2018–20 that aims to strengthen public trust in the judicial system, increase modernization is the quality of court decisions, and improve the system’s efficiency and underway. transparency. The judicial modernization process goes hand in hand with reforms in prosecution—a special Coordination Council is exploring a series of new measures to humanize the criminal justice system. The Ministry of Justice continued its push to transfer its key justice services (bailiffs, property valuation, and registration) to a self-regulated private sector with the aim of increasing quality and cost-efficiency. Kazakhstan is The authorities are working to improve the business environment in all building a feedback regions of the country. The recent Subnational Doing Business assessment mechanism to helped the government to obtain feedback from the business community and improve the fine-tune the design of business regulatory reforms. The inaugural business Subnational Doing Business report, which covered eight regional centers, environment showed that uniform national laws are applied differently in different nationwide. locations and that delays and procedures are also determined by the level of coordination between government agencies and other bodies (such as utility operators). The next report will include the rest of Kazakhstan’s regions to facilitate the closing of reform implementation gaps further. C. Economic Outlook and Risks Global economic prospects Global economic Following a stronger-than-expected performance in 2017, global growth is growth is expected projected to accelerate to 3.2 percent in 2018, supported mainly by robust to peak in 2018. growth in major advanced economies and commodity-importing emerging market and developing economies (EMDEs); economic growth will continue to recover in commodity-exporting EMDEs. Fiscal stimulus in the United States is expected to provide a near-term lift to economic activity, but gains could be muted as the economy is already operating at close to its full capacity. Average GDP growth in Kazakhstan’s main trading partners is 12 Settlements with a population of more than 2,000 people are now entitled to an autonomous budget and communal property, as well as to collecting and retaining 13 types of tax and non-tax revenues for local budgets. |11 estimated to have peaked at 3.2 percent in 2017 and is projected to slow to 2.6 percent in 2018 (as activity decelerates in China and the euro area). Growth in China is expected to remain robust but to continue to slow amid policy tightening and deleveraging pressures. China’s rate of real GDP growth will slow to 6.5 percent in 2018 (from a stronger-than-expected rate of 6.9 percent in 2017). Economic growth in the euro area is projected at 2.3 percent in 2018, with investment and export growth easing following substantial gains in 2017. The Russian Federation is forecast to experience stable growth, with real GDP expanding by about 1.8 percent annually in 2018–20. Risks to global While global merchandise trade growth picked up significantly in 2017, rising trade are rising, by 4.6 percent, it is expected to moderate in 2018 as the recovery in global and financial investment and manufacturing activity matures. On the policy front, the risk conditions have of escalating trade protectionism increased following tariff announcements begun to tighten. by China and the United States. The impact of these measures will depend on their ultimate scope; however, a rise in trade policy uncertainty could itself weigh on confidence, financial market sentiment, and eventually on global trade activity. After a prolonged period of low and stable long-term yields, rising inflation expectations and prospects of further hikes in U.S. policy interest rates have put upward pressure on yields in the United States and led to a slowdown in capital inflows to EMDEs. With the expected normalization of monetary policy in the United States and the euro area, external financial conditions are projected to tighten further in 2018. Disorderly financial market developments remain a risk and could be triggered by a reassessment of inflation risks and monetary policy expectations in advanced economies, a sudden correction in asset valuation, or financial stress in EMDEs. Oil prices are Commodity prices strengthened in the first quarter of 2018. According to the expected to rise, April 2018 issue of the World Bank’s Commodity Markets Outlook, both but downside risks demand and supply factors supported broad-based price increases. remain. Accelerating global growth lifted demand for commodities, while some commodities faced supply constraints. For oil, concerns about mounting geopolitical risks also drove prices higher. Crude oil prices are expected to average $65/bbl in 2018 (up from $53/bbl in 2017) and remain at $65/bbl in 2019–20—an upward revision from the October 2017 forecast. Looking ahead, policy actions currently under discussion—such as additional tariffs, production cuts, and sanctions—present risks to the short-term outlook. There is also an upside risk stemming from higher oil prices, especially in the short term, due to a recently announced renewal of US sanctions on Iran. Kazakhstan’s baseline scenario, risks and challenges The oil sector will Our real GDP growth estimate for 2018 has been revised upward to 3.7 continue to drive percent (from 2.6 percent in the Fall 2017 CEU), mainly owing to higher-than- economic growth. expected oil prices and output. If oil prices continue increasing due to the anti- Iran sanctions, the 2018 growth outcome may be higher than in the baseline scenario. As oil output growth stabilizes from 2019 onward, real GDP growth is expected to moderate to an average annual rate of 3 percent (Table 5). Growth in the non-tradable services sector will be supported by stronger domestic demand as real incomes start to recover. Moreover, planned investment in oil output expansion projects will drive an increase in 12| construction activity. Assuming that there are no external shocks and that the authorities continue their inflation-targeting regime, consumer price inflation will stabilize at around 6 percent in the medium term. More favorable With average oil prices projected to increase from US$52.8/bbl in 2017 to terms of trade will US$65/bbl in 2018–20, the current account balance is forecast to improve, lead to better switching from deficits in 2015–17 to surpluses in 2018–20. The fiscal economic and position will also improve gradually in the wake of fiscal consolidation efforts. poverty outcomes. As the overall fiscal balance improves, the government should not derail its efforts to reduce the nonoil deficit in support of economic transformation. The government is planning to cut the nonoil fiscal deficit from over 13 percent of GDP in 2017 to 7 percent by 2020. As the economy continues to grow, labor income—the primary driver of poverty reduction in Kazakhstan—is forecast to return to positive real growth. As a result, the poverty rate is projected to decline to 5 percent by 2020. Table 5. Baseline Scenario: Selected Macro-Fiscal Indicators, 2015–20 (In percent, unless otherwise indicated) 2015 2016 2017 2018 2019 2020 Projections Real GDP growth 1.2 1.1 4.0 3.7 3.3 2.8 Oil sector -4.5 2.3 7.4 3.7 2.7 0.0 Nonoil economy 3.7 0.9 3.8 3.8 3.6 3.5 Consumer price inflation, period average 6.6 14.6 7.4 6.2 5.5 5.8 Current account balance (percent of GDP) -2.8 -6.5 -3.4 1.4 1.2 0.8 Overall fiscal balance (percent of GDP) -6.1 -4.4 -4.7 1.3 2.3 2.1 Nonoil fiscal balance (percent of GDP) -12.7 -10.0 -13.1 -7.5 -7.3 -7.0 Net financial assets (percent of GDP) 12.5 25.0 16.0 13.8 13.0 12.1 Poverty rate ($5.5 per day at PPP terms) 7.8 7.9 6.9 6.2 5.6 5.0 Source: World Bank staff calculations and estimates. The medium-term Both external and domestic factors present risks to Kazakhstan’s medium- outlook has term economic outlook. The economy’s vulnerability to external shocks downside risks. remains the primary challenge to achieving stable and sustainable development. External demand from China and Russia, Kazakhstan’s main trading partners, as well as global oil demand and prices will remain the key external factors impacting Kazakhstan’s economic performance. Domestic factors include the pace of implementation of structural and institutional reforms, especially in anticipation of a political transition over the medium term. The potential worsening of problems in the banking sector is also a concern. Upside risks from While the recovery in global oil prices would have a welcoming effect for higher oil prices Kazakhstan in terms of enhancing the economy’s buffers and supporting may lead to certain growth, it may also reduce the perceived urgency for transitioning to the new challenges for the growth model, including the strong need of continuing the macro-fiscal new growth model. adjustment (by reducing the nonoil deficit over the medium term) and pressing ahead with structural reforms. More generally, a return to any procyclical macro-fiscal policies during the upswing (due to an insufficient fiscal consolidation) risks developing a Dutch-Disease type of episode that could reduce economy’s competitiveness and lower opportunities for diversification away from oil and other non-tradeable goods and services |13 with dynamics positively correlated to oil price movements. The authorities should not miss the current window of opportunity to adjust the macro-fiscal framework, clean up the banking sector, and deepen structural reforms. To transit to a new growth model and facilitate a sizeable expansion of the tradable nonoil sector’s role in the economy, the government must demonstrate significant improvements to the rule of law, the quality of human capital, and the investment climate. The latter is discussed in more detail in the next section, which focuses on Kazakhstan's strategy for attracting domestic and foreign investment. D. Focus Section: The Strategy for Investment Attraction and Retention13 Kazakhstan is an attractive investment destination for a host of foreign direct investment (FDI) projects seeking to access the country’s rich natural resource base. Kazakhstan’s real challenge, however, is to attract more export-oriented, efficiency-seeking FDI. This highly mobile type of investment seeks to compete in international markets and global value chains by benefiting from factors that make Kazakhstan a competitive investment location. Efficiency-seeking investments provide a composite bundle of capital stock, know-how, and technology that enables an economy to upgrade and diversify its production capabilities to achieve economic diversification. While this kind of investment has the greatest potential to facilitate economic diversification and play a transformative role in Kazakhstan’s economic development, it is also the most challenging to attract. This type of investment is highly mobile and requires a clearly articulated value proposition. It will not be ‘pulled’ into the country in the same way as resource-seeking FDI. Attracting and retaining efficiency-seeking FDI will require the strengthening of both Kazakhstan’s international competitiveness and its investment climate. Kazakhstan’s Kazakhstan has launched its new investment strategy14 at a time when the inflows of FDI are world economy was still recovering from the global financial crisis. Although below the average global FDI flows fell by 16 percent in 2017—as global economic growth for transition remained weak and world trade volumes posted sluggish gains15—economic economies. activity is projected to increase in 2018, particularly in emerging markets and developing economies.16 Despite the positive economic outlook, however, new geopolitical realities and rising tensions also have implications for global economic growth. Economic uncertainties aside, the changing global pattern of FDI presents challenges as well as opportunities to Kazakhstan. Similar to some of its immediate neighbors and competitors, Kazakhstan’s FDI performance shows signs of a recovery since 2016 (Figure 5). The share of In general, efficiency-seeking FDI is the most suitable type of FDI for efficiency-seeking diversification (Box 2). As Kazakhstan’s economy is strongly reliant on FDI in Kazakhstan resource-oriented FDI in the extractive industries (oil and gas, mining, remains low. metallurgy, and associated service industries), it is exposed to substantial risk due to its lack of economic diversification. The composition of FDI flows into Kazakhstan has not changed much over the last decade (Figure 6). The bulk of FDI (between one-half and three-quarters) goes to the extractive sectors, including related services such as geological prospecting and exploration. 13 A World Bank private sector development team led by Harald Jedlicka and Yeraly Beksultan and comprising Robert Hejzak, Jana Krajcovicova, Anuar Buranbayev, Adina Mamrayeva, and Aisulu Mailybayeva, helped the Ministry for Investments and Development with the framing of a new National Investment Strategy, which was adopted in August 2017. 14 Government Resolution #498 On Approval of the National Investment Strategy, August 22, 2017. 15 UNCTAD Global Investment Trends Monitor, January 2018. 16 World Bank Global Economic Prospects, January 2018. 14| Between 19 and 40 percent goes to market-seeking sectors such as the financial, insurance and retail sectors. Between 2 and 24 percent goes to efficiency-seeking sectors, in particular to metal manufacturing. Basic metal industries have traditionally accounted for the bulk of FDI in efficiency- seeking sectors in Kazakhstan. Figure 5. FDI inflows globally and regionally Figure 6. Investors are mainly motivated by are still recovering from the global crisis natural resource-seeking FDI in Kazakhstan (In US$ billions) (Relative share of total) Source: World Bank staff calculations based on Source: World Bank staff calculations based on official data published by the UNCTADstat (2018). data published by the authorities. Existing investors Reinvested earnings constitute an unusually low share of gross FDI inflows in typically do not Kazakhstan. In transition countries in general, reinvested earnings typically reinvest in the account for between one-quarter and one-third of inward FDI. Although country. several factors may be at work, low ratios of reinvested earnings imply high repatriation of profits and suggest lower retention of funds for productive expansion purposes. The lower contribution of reinvested earnings may signal challenges in retaining existing foreign investors, undermining their ability to continue or expand operations in the country. Box 2. The Importance of Differentiating Among Different Types of FDI for Diversification While FDI is essential for economic growth, not all FDI is the same. Different types of investments have different investor motivations and are characterized by distinct benefits, opportunities, and challenges. One way to differentiate FDI is by investors’ motivations using the following framework established by John Dunning, a British economist: x Natural resource-seeking investment: Motivated by investor interest in accessing and exploiting natural resources (such as mining, oil and gas, and so on). x Market-seeking investment: Motivated by investor interest in serving domestic or regional markets (such as non-tradable services, retail, and so on). x Efficiency-seeking investment: Motivated by an investor seeking to benefit from factors that enable it to compete in international markets (such as manufacturing, IT services, and so on). x Strategic asset-seeking investment: Motivated by investor interest in acquiring strategic assets (brands, human capital, distribution networks, and so on) that will enable a firm to compete in a given market. This kind of investment often takes place through mergers and acquisitions. This type of FDI is the most relevant for Kazakhstan regarding inward FDI. Source: World Bank. |15 The public-sector In an economy like Kazakhstan, which is heavily reliant on the extractive share in the sectors, it is not surprising that SOEs play such a significant role. However, it economy remains is surprising just how pervasive SOEs are in all sectors of Kazakhstan's high. economy, including in critical services (such as electricity) and in products and services that have traditionally supported a broad range of diverse suppliers at all enterprise levels. The assets of the more than 750 national and municipal corporatized SOEs in operation are valued at 30–40 percent of GDP and the share of the quasi-public sector in GVA is about 19 percent.17 The government is implementing a massive privatization program to reduce the public sector's share in the economy.18 A total of 892 SOEs—including 378 assets of national holdings and companies (of which 65 are large state- controlled companies in the oil and gas, transport, and nuclear sectors worth US$10 billion)—are to be sold between 2016 and 2020.19 This plan will see a reduction in assets of the SOE sector to 15 percent of GDP and the transfer of about 5 percent of companies owned by local governments to the private sector. The extent to which private ownership of major assets attracts efficiency-seeking FDI into the Kazakhstan economy will be one of the principal measures of success of the large-scale privatization. The government Kazakhstan's new investment strategy leverages three different and has prioritized interlinked approaches: (i) attracting new types of FDI, particularly reforms to increase efficiency-seeking FDI; (ii) increasing the benefits of existing FDI, mainly the attractiveness increasing reinvestment; and (iii) maximizing the economic impact of of the country for privatization by involving foreign investors. Specifically, the government will all types of focus on implementing actions under three main pillars: (i) investment investment. climate reform; (ii) investment promotion and positioning in international markets; and (iii) privatization and public-private partnerships (PPPs). Each pillar will be led by the respective lead agency, namely the Ministry for Investments and Development (MID), Kazakh Invest, and Samruk-Kazyna, respectively (Diagram 2). Diagram 2. Three main pillars of Kazakhstan's investment strategy Reform pillar Goal Lead agency Implement a series of fundamental Ministry for Investment climate investment climate reforms to Investments and reforms strengthen Kazakhstan’s investment Development competitiveness Improve the efficiency and effectiveness Investment promotion of the country’s investment promotion and positioning in Kazakh Invest efforts, as well as its positioning in international markets international markets Privatization and Effectively leverage its privatization and public-private public-private partnership programs for Samruk-Kazyna partnerships the attraction of strategic investment Source: Government of Kazakhstan. 17 World Bank. 2018. "Kazakhstan Systematic Country Diagnostic: A New Growth Model for Building a Secure Middle Class." World Bank, Washington, DC. 18 Government Resolution #1141 On Selected Issues on Privatization for 2016–2020, December 30, 2015. 19 For more information, see the Kazakhstan privatization website: http://privatization.gosreestr.kz/en. 16| I. Investment climate reforms Strengthening Creating an investment climate that is conducive to the attraction and Kazakhstan’s retention of investment is at the core of the new strategy and will contribute investment climate to an economically vibrant, industrialized and knowledge-based Kazakhstan. to boost The government will focus on improving all major areas of an effective policy investment. framework for investment, including policies, laws and regulations, and institutions and mechanisms aimed to ensure their proper implementation. The government will establish an appropriate environment for all investment, particularly efficiency-seeking investment, that is export- oriented and the most efficient form of investment. Enhancing For the benefits of efficiency-seeking FDI to materialize, alignment of the institutional investment policy framework with the specific requirements of this type of framework and FDI is required along the various stages of the investment lifecycle. FDI is not coordination a one-time transaction between the host government and a foreign firm. It would be key to entails an ongoing relationship with many stakeholders at different stages of success. a foreign investor’s lifecycle in the country (Diagram 3). The FDI lifecycle begins with setting the economy's investment vision and priorities; continues with policies for investment attraction, entry and establishment; supports retention through adequate levels of protection; and ends with the development of sustained linkages with the local economy. Diagram 3. Investment lifecycle framework Source: World Bank. II. Investment promotion and positioning in international markets Enhancing By definition, efficiency-seeking investors—which are at the core of Kazakhstan’s investment attraction and retention efforts under this strategy—have a investment choice of locations. They can choose between many competing economies. promotion efforts. Unlike resource- and market-seeking investors which are “pulled” into Kazakhstan for its natural endowments or markets, efficiency-seeking FDI must be “persuaded” into considering the country as a location proposition. Kazakhstan must be strongly proactive in its approach to successfully attract |17 and retain such investors. The attraction of efficiency-seeking FDI will require a concentrated effort to articulate Kazakhstan’s competitive advantages for export-oriented investment. It will also require highly-targeted investment promotion efforts led by a world-class investment promotion agency, and it will also require renewed and strengthened efforts to unlock more reinvestments from Kazakhstan’s existing base of investors. Positioning in Efficiency-seeking FDI is, by definition, export-oriented and an appealing international value proposition because it requires easy access to target export markets. markets. Trade policy is, therefore, an essential pillar for an efficiency-seeking FDI strategy model. Aligning trade policy and export strategy with the requirements of efficiency-seeking investment will be required to increase and diversify exports to existing export markets (including China, Russia, and Western economies), but also to expand to new markets, such as the Middle East (mainly for foodstuff and agriculture). Determining specific export markets for particular products will also be important in articulating and improving Kazakhstan’s value proposition for FDI. The government have established a specialized technical unit on trade policy, the Center for Trade Policy Development, but more coordination is needed with the MID to assess and foster synergies between trade and investment policy agendas and to present reports and reform proposals to the high-level council. III. Privatization and public-private partnerships Leveraging FDI for Leveraging FDI for privatization and PPPs holds significant potential for privatization and Kazakhstan’s economic diversification agenda. FDI has the potential to PPPs. generate benefits beyond the objective of increasing the role of the private sector in the national economy. As the experiences of many economies show, the privatization of state assets to strategic foreign investors in both competitive industries and regulated markets can unleash additional greenfield FDI above and beyond the original entry of the strategic foreign investor. Similarly, PPPs, if successfully executed, can provide a much-needed financial boost to strategic projects, such as in transport, power, municipal services, and social infrastructure. Furthermore, boosting telecommunications interconnectivity will be a central precondition of efficiency-seeking FDI in Kazakhstan's services sectors. Leveraging PPPs PPPs can provide new opportunities for private participation in Kazakhstan's for investment economy, including opportunities for FDI in sectors where SOEs are still attraction. dominant. Kazakhstan stands to benefit from a financial boost from PPPs to develop projects in sectors that are key enablers for attracting more efficiency seeking investment. Priority sectors for PPPs (including those involving foreign investors) will be transport, power, municipal services, and social infrastructure, among others. The government has implemented several reforms to facilitate PPPs, including establishing a PPP Center in July 2008 and adopting a new PPP Law that provides a legal framework for cooperation between the state and business entities in the delivery of PPP projects.20 The ongoing implementation of a big ring-road PPP project in Almaty will serve as a litmus test to effectiveness of the current PPP framework. 20 Law #379-V On Public-Private Partnerships, October 31, 2015. 18| Annex Table 1. Selected Macroeconomic and Social Indicators, 2014–20 2014 2015 2016 2017 2018 2019 2020 Projections (In percent, unless otherwise indicated) National Income and Prices Nominal GDP (billion tenge) 39,676 40,884 46,971 51,967 58,087 62,429 67,108 Nominal GDP per capita (US$) 12,807 10,511 7,715 8,837 9,782 10,388 10,978 Real GDP growth 4.2 1.2 1.1 4.0 3.7 3.3 2.8 Private consumption growth 1.4 1.8 1.2 1.5 1.7 2.0 2.2 Gross investment (percent of GDP) 25.8 27.9 27.8 27.1 25.1 25.7 26.3 Consumer price inflation, year-end 7.4 13.6 8.5 7.1 5.3 5.6 6.0 Consumer price inflation, average 6.7 6.6 14.6 7.4 6.2 5.5 5.8 GDP deflator 5.8 1.9 13.6 6.3 7.8 4.0 4.6 Real exchange rate change (KZT/US$) -10.8 -13.9 -26.7 10.4 5.0 3.9 3.6 (In current US$ billions, unless otherwise indicated) External Accounts Merchandise exports, of which: 80.3 46.5 37.3 49.3 61.5 63.0 63.8 Oil and gas exports 53.6 26.8 19.4 26.4 35.8 36.3 36.1 Merchandise imports 44.1 33.8 28.1 31.8 33.3 34.7 36.2 Current account balance 6.1 -5.1 -8.9 -5.4 2.5 2.3 1.7 as percent of GDP 2.8 -2.8 -6.5 -3.4 1.4 1.2 0.8 Foreign direct investment, net 4.6 3.1 13.3 3.8 4.0 4.8 4.8 Total official international reserves 102.4 91.3 90.9 89.1 93.0 96.9 101.6 Total external debt 157.6 153.4 163.7 170.0 157.5 161.7 165.5 excluding intra-company loans 78.0 57.3 59.4 64.7 68.6 70.5 72.1 as percent of GDP 35.2 31.1 43.2 40.6 38.4 36.7 35.1 (In percent of GDP, unless otherwise indicated) General Government Fiscal Accounts Revenue 24.5 18.6 19.7 21.2 21.6 22.2 21.8 Expenditure and net lending 23.0 24.7 24.1 25.9 20.4 19.8 19.7 Overall balance 1.5 -6.1 -4.4 -4.7 1.3 2.3 2.1 Consolidated Budget nonoil deficit -11.0 -12.7 -10.0 -13.1 -7.5 -7.3 -7.0 Net financial assets, stock 18.6 12.5 25.0 16.0 13.8 13.0 12.1 (In percent, unless otherwise indicated) Monetary Accounts Base money growth 10.5 34.3 15.1 -1.7 9.0 7.7 7.0 Real growth of credit to the economy -3.3 -13.2 -11.2 -5.8 0.1 1.9 1.8 Policy rate, year-end .. 16.0 12.0 10.3 .. .. .. (In percent, unless otherwise indicated) Social Indicators Population, total (millions) 17.3 17.5 17.8 18.0 18.3 18.5 18.7 Population growth 1.5 1.5 1.4 1.4 1.3 1.2 1.1 Poverty rate, international US$5.5/day 6.2 7.8 7.9 6.9 6.2 5.6 5.0 Poverty rate, national 2.8 2.7 2.6 2.6 .. .. .. Inequality – Gini coefficient 27.8 27.8 27.8 28.7 .. .. .. Official unemployment rate 5.0 5.1 5.0 4.9 .. .. .. Life expectancy at birth (years) 71.6 72.0 72.3 72.9 .. .. .. Sources: World Bank staff calculations and estimates based on official data published and provided by the authorities. |19 Kazakhstan Country Economic Update | Spring 2018