11

Growth Framework: Growth Framework: macroeconomic macroeconomic environment and environment and

investment climateinvestment climate

CEM for Republic of BelarusCEM for Republic of Belarus

22

Main MessageMain Message• Recent performance was strong and based Recent performance was strong and based

on a certain set of competitive advantageson a certain set of competitive advantages

• The effect of these advantages has been The effect of these advantages has been eroded eroded

• Earlier growth drivers weakened, while no Earlier growth drivers weakened, while no replacement has emergedreplacement has emerged

• We expect a slowdown in growth if there is We expect a slowdown in growth if there is no policy reformno policy reform

• Moreover, the economy is highly Moreover, the economy is highly vulnerable to external shocksvulnerable to external shocks

33

GDP Growth and Poverty GDP Growth and Poverty Outcomes are impressiveOutcomes are impressive

Steady Growth Has Driven Poverty Reduction (GDP growth index and poverty headcount rates)

38.6 32.1 33

46.7 41.9

28.9 30.5 27.1

159.2 149.3

142.2 135.8

128.4 124.1 114.5

102.8

177.3

17.8

0

10.

20

30

40

50

60.

1996 1997 1998 1999 2000 2001 2002 2003 2004

GDP growth Index, 1995=100

Poverty headcount ratio, %

220

180

140

100

60

20

GDP growth

Poverty headcount ratio

44

Broad based growthBroad based growth

• Growth benefits are broadly shared among Growth benefits are broadly shared among different population groupsdifferent population groups

• Income/wage policy: a high share of GDP Income/wage policy: a high share of GDP growth was channeled to finance wage growth was channeled to finance wage increasesincreases

• High growth in labor intensive sectorsHigh growth in labor intensive sectors• Low cross-sectoral differentiation in wagesLow cross-sectoral differentiation in wages• 40% reduction in employment in 40% reduction in employment in

agricultureagriculture

55

Average Annual GDP Average Annual GDP Growth, %Growth, %

-4

-2

0

2

4

6

8

10

1996-2000 2001-2004

CEEBS

Lithuania

Poland

CIS

Russia

Ukraine

Belarus

66

Two growth phasesTwo growth phasesPhase I: 1996-2000Phase I: 1996-2000• The expansionist monetary policy that helped to keep the real value of the The expansionist monetary policy that helped to keep the real value of the

Belarusian rubel lowBelarusian rubel low

• The policy of multiple exchange rates that was used as an instrument of The policy of multiple exchange rates that was used as an instrument of hidden targeted support for some exporters and as a tool of taxation for hidden targeted support for some exporters and as a tool of taxation for othersothers

• The strict policy of wage and price controls that helped to keep production The strict policy of wage and price controls that helped to keep production costs low and support cost advantages of traditional exportscosts low and support cost advantages of traditional exports

• The encouragement of barter transactions with Russia, which in The encouragement of barter transactions with Russia, which in combination with multiple exchange rates generated a considerable combination with multiple exchange rates generated a considerable resource transfer to Belarusian exportersresource transfer to Belarusian exporters

• The active political re-integration with Russia, which resulted in improved The active political re-integration with Russia, which resulted in improved market access, ensured preservation of preferable gas import prices, as well market access, ensured preservation of preferable gas import prices, as well as tolerance of energy arrears; it also helped to improve capacity utilization as tolerance of energy arrears; it also helped to improve capacity utilization in oil refineries and secure a debt write-off in 1996in oil refineries and secure a debt write-off in 1996

77

Cost advantage against Russia

0

10

20

30

40

50

60

70

80

90

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

Belarus/Russiawage ratio

Belarus/RussiaCPI ratio

88

Two growth phasesTwo growth phasesPhase II: 2001 - onwardsPhase II: 2001 - onwards• Improved macro policies: unified exchange rate, stricter monetary Improved macro policies: unified exchange rate, stricter monetary

policy, considerable fiscal and quasi-fiscal adjustment, and lower policy, considerable fiscal and quasi-fiscal adjustment, and lower inflationinflation

• Energy and utility policy that aimed at attaining full cost recovery in Energy and utility policy that aimed at attaining full cost recovery in tariffs and strict payment disciplinetariffs and strict payment discipline

• New wage and income policies that stimulated domestic demandNew wage and income policies that stimulated domestic demand

• Phasing out barter, which Phasing out barter, which inter aliainter alia helped somewhat accelerate export helped somewhat accelerate export diversification out of the Russian marketdiversification out of the Russian market

• Maintaining its political and administrative effort aimed at the Maintaining its political and administrative effort aimed at the preservation of the Belarusian traditional niche at the Russian marketpreservation of the Belarusian traditional niche at the Russian market

• Improved external environment (oil prices, Russian growth, etc.)Improved external environment (oil prices, Russian growth, etc.)

99

Cost Recovery in HousingCost Recovery in Housing

0

10

20

30

40

50

60

2000 2001 2002 2003 2004

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

Collections, actual, % costs

Cost recovery in tariffs, %

Collection level (rhs)

1010

Significant Fiscal Significant Fiscal AdjustmentAdjustment

0

2

4

6

8

10

12

2000 2001 2002 2003 2004

Budget Deficit (accrual), %GDP

Hidden deficit, % GDP

1111

Reduced Inflation TaxReduced Inflation Tax

0.0 2.0 4.0 6.0 8.0

10.0 12.0 14.0 16.0 18.0 20.0

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

Seigniorage Inflation Tax

1212

External Debt to GDP External Debt to GDP Ratio, %Ratio, %

0

10

20

30

40

50

60

70

1996-2000 2001-2004

CEEBS

Lithuania

Poland

CIS

Russia

Ukraine

Belarus

1313

Inflation remains highInflation remains high

0

10

20

30

40

50

60

70

80

1996-2000 2001-2004

CEEBS

Lithuania

Poland

CIS

Russia

Ukraine

Belarus

1414

Incidence of State Support, % of Incidence of State Support, % of GDPGDP

0

2

4

6

8

10

12

1999* 2000 2001 2002 2003 2004

Total flows

Resource transfer

1515

Weaknesses of the Macro Weaknesses of the Macro Framework Framework • High level of re-distribution: a heavy tax burden High level of re-distribution: a heavy tax burden

and excessive government interventions;and excessive government interventions;• Government spending is concentrated on social Government spending is concentrated on social

spending and housing , while less funding is spending and housing , while less funding is available for public investments in infrastructure;available for public investments in infrastructure;

• Subsidization remains high, especially in Subsidization remains high, especially in agriculture;agriculture;

• High share of intermediary product: under-High share of intermediary product: under-developed service sector, as well as a relatively developed service sector, as well as a relatively low level of value added in industry;low level of value added in industry;

• Profit/wage ratio is low: hampers both savings Profit/wage ratio is low: hampers both savings and investments in the real sector; and investments in the real sector;

• The financial sector remains under-developed The financial sector remains under-developed even relative to the modest saving level.even relative to the modest saving level.

1616

Major Macroeconomic RisksMajor Macroeconomic Risks

• Low international reservesLow international reserves• High dependence on a single and unstable High dependence on a single and unstable

export market (Russia) export market (Russia) • High concentration of the economy High concentration of the economy • Large size of the governmentLarge size of the government• Vulnerabilities in the banking sector Vulnerabilities in the banking sector • The pension system is unsustainable The pension system is unsustainable • Costs of adjustment to future higher prices Costs of adjustment to future higher prices

of Russian energyof Russian energy

1717

Index of Economic FreedomIndex of Economic Freedom  

2005 2005 RankingRanking

2005 score2005 score 1998 score1998 score 1995 score1995 score

Belarus Belarus 143143 3.993.99 4.154.15 3.73.7

Estonia Estonia 44 1.651.65 2.432.43 2.42.4

Poland Poland 4141 2.542.54 2.912.91 3.463.46

Ukraine Ukraine 8888 3.213.21 3.833.83 4.054.05

Russia Russia 124124 3.563.56 3.543.54 3.553.55

1818

Incidence of Price ControlIncidence of Price Control2001

2002 2003

Individual entrepreneur 45 29 34

Non - state- unitary enterprise 49 60 6 2

State unitary enterprise 79 86 77

Limited liability company 56 66 63

Additional liability company 59 59 66

Closed joint stock company 75 80 68

Open joint stock company 85 76 76

1919

Restrictive Employment Restrictive Employment PoliciesPolicies

Staffing level

Number of employees

Excessive Sufficient Insufficient Do not know

1 - 10 4 65 30 2

11 - 50 9 67 22 3

51 -100 11 70 17 2

101 - 500 21 64 11 3

> 500 27 55 14 5

2020

Business Registration is too Business Registration is too Slow (days)Slow (days)

0

10

20

30

40

50

60

70

80

90

Belarus Poland Russia Ukraine

Da

ys N

ee

de

d f

or

Re

gis

tra

tio

n

0

10

20

30

40

50

60

70

80

90

Belarus Poland Russia Ukraine

Da

ys N

ee

de

d f

or

Re

gis

tra

tio

n

2121

Trade Restricting Logic of Trade Restricting Logic of Economic PolicymakingEconomic Policymaking

• Pressures to meet output targetsPressures to meet output targets

• Regional support for local enterprisesRegional support for local enterprises

• Restrictions for imports and inter-Restrictions for imports and inter-regional competitionregional competition

• Monopolization of regional marketsMonopolization of regional markets

• Threat of Import SubstitutionThreat of Import Substitution

2222

Perception of Corruption, Perception of Corruption, 20022002

Percentile Rank

(0-100)

RUSSIA

UKRAINE

27.6

21.9

18.9

15.3

Country

BELARUS

MOLDOVA

2323

Market Socialism Re-Market Socialism Re-discovered?discovered?• Similarities with market socialism in Similarities with market socialism in

Yugoslavia and Hungary in the 70s, not Yugoslavia and Hungary in the 70s, not real transition as we see it in the CEEreal transition as we see it in the CEE

• Excessive state ownership and Excessive state ownership and government controlgovernment control

• This model proved to have fundamental This model proved to have fundamental weaknesses: soft budget constraint, weaknesses: soft budget constraint, over-borrowing, inflation, weak export over-borrowing, inflation, weak export performance, and external debt performance, and external debt problemsproblems

2424

Economic Policies:Economic Policies:not conductive to growth in not conductive to growth in competitivenesscompetitiveness• High cost economy: taxes, interest rates, price High cost economy: taxes, interest rates, price

controls, costs of administrative interventionscontrols, costs of administrative interventions• Business environment is difficult for new entry: Business environment is difficult for new entry:

marginal growth from the new private sector, marginal growth from the new private sector, depressed FDI – diminished opportunities for depressed FDI – diminished opportunities for productivity growth and export expansionproductivity growth and export expansion

• Expensive subsidization: undermines competitionExpensive subsidization: undermines competition• Trade regime: high incidence of NTBs discourages Trade regime: high incidence of NTBs discourages

trade and will be a major barrier for global and trade and will be a major barrier for global and regional integrationregional integration

2525

Recommendations: Recommendations: • Strengthening market discipline for Strengthening market discipline for

traditional enterprises:traditional enterprises:- downsize and restructure existing system of state support- downsize and restructure existing system of state support- advance trade liberalization to expand international competition- advance trade liberalization to expand international competition- accelerate exit of non-viable firms- accelerate exit of non-viable firms- harden budget constrains (esp. in the agro-food sector)- harden budget constrains (esp. in the agro-food sector)- ensure financial sustainability and efficiency of the energy sector- ensure financial sustainability and efficiency of the energy sector

• Encourage growth by reducing operating Encourage growth by reducing operating costs:costs:- reduce tax burden and reform tax structure- reduce tax burden and reform tax structure- liberalize employment and wage policies- liberalize employment and wage policies- advance price liberalization- advance price liberalization- reduction regulatory costs of doing business- reduction regulatory costs of doing business- limit discretionary administrative interference- limit discretionary administrative interference- accelerate reform of standards system- accelerate reform of standards system- consolidate recent progress towards a stable macroeconomic - consolidate recent progress towards a stable macroeconomic environmentenvironment

2626

Urgent steps to improve Urgent steps to improve investment imageinvestment image• FDI level: integral measure of reform progress FDI level: integral measure of reform progress • Measure of progress towards export Measure of progress towards export

diversification, enterprise restructuringdiversification, enterprise restructuring• New Policy Initiatives:New Policy Initiatives: - Expansion of FEZs (Chinese experience)- Expansion of FEZs (Chinese experience)

- Several visable privatizations (e.g. banks)- Several visable privatizations (e.g. banks)- a targeted effort to attract FDI into ffod - a targeted effort to attract FDI into ffod processingprocessing- Setting up an investment promotion agency- Setting up an investment promotion agency- De-regulation: trade restrictions, golden share, - De-regulation: trade restrictions, golden share, registration proceduresregistration procedures

2727

In the longer-term…In the longer-term…

• The comprehensive reform to sustain growth The comprehensive reform to sustain growth will be needed sooner or later will be needed sooner or later

• Advance liberalization, privatization and de-Advance liberalization, privatization and de-politization of the economypolitization of the economy

• Political will be requiredPolitical will be required

• Currently, it is a great time to initiate such Currently, it is a great time to initiate such reformsreforms

2828

Window of opportunityWindow of opportunityFavorable conditions for acceleration of Favorable conditions for acceleration of

reforms:reforms:

• growing economygrowing economy

• positive trends in perceptions of both positive trends in perceptions of both enterprise and householdsenterprise and households

• favorable global developmentsfavorable global developments

• low debtlow debt

• strong administrative capacity of the statestrong administrative capacity of the state

Belarus is well equipped to mitigate Belarus is well equipped to mitigate potential costs of reforms potential costs of reforms