world bank document · export structure, 1992–2012 7 figure 9. import structure, 1992–2012 7...

Uzbekistan Economic Report No.3April 2013

Uzbekistan:Economic Development and Reforms: Achievements and Challenges

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Uzbekistan:Economic Development and Reforms: Achievements and Challenges


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uzbEkisTAN ECoNomiC DEvElopmENT AND REfoRms: AChiEvEmENTs AND ChAllENgEs

Contents

overview vii

A. Recent Political Developments 1

B. Economic Growth and Domestic Demand 4inflation 6External Accounts 6Debt sustainability 8Employment 9poverty 10

C. Economic and Structural Policies 12fiscal policy 12monetary and Exchange Rate policies 13structural policies and Reforms 15

Outlook 27

Appendix 28

vi |

uzbEkisTAN ECoNomiC REpoRT No.3 – ApRil 2013

List of Tables

Table 1. uzbekistan: Efficiency of Capital investment by sectors, 1996–2012 (measured by incremental capital/output ratio, iCoR: actual investment made in $ to receive $1 of additional value-added) 5

Table 2. uzbekistan: selected Debt indicators, 2008–2012, unless otherwise noted 8Table 3. selected fiscal indicators, 2008–2012 12Table 4. uzbekistan: selected monetary indicators 14Table 5. uzbekistan “Ease of Doing business” 23

List of Boxes

box. Automobile industry Development in uzbekistan 19

List of Figures

figure 1. uzbekistan governance indicators in comparison with Regional Averages 2figure 2. gDp growth in uzbekistan, its key trade partners and upper middle income countries, 2000–2012 4figure 3. gDp structure by sectors of Economy, 2001–2012 5figure 4. sectoral Contributions to gDp growth, 2001–2012 5figure 5. Cpi, December 2009–December 2012 6figure 6. gDp deflator, ppi, and Cpi (official and imf alternative estimates), 2001–2012 6figure 7. Exports, imports, Remittances, fDi 7figure 8. Export structure, 1992–2012 7figure 9. import structure, 1992–2012 7figure 10. Debt and Deb service, 2001–2012 8figure 11. Dynamics of Real Wage and productivity, 2004–12 9figure 12. gDp per capita and poverty 10figure 13. Consolidated budget, 2001–2012 12figure 14. Exchange rate 14figure 15. uzbekistan Commodity prices forecast 16figure 16. uzbekistan, other Central Asian and key Trade partners in Doing business indicators 23

Acknowledgements

This third Uzbekistan Economic Report was prepared by Eskender Trushin (senior Economist). Comments and inputs from francisco Carneiro (lead Economist) are gratefully acknowledged. The work was conducted under the general supervision of ivailo izvorski (sector manager).

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overview

As a low middle-income country with a GDP per capita at US$1,715 and a population of 30 million (nearly half of all Central Asian population), Uzbekistan has seen stable economic progress since the mid-2000s. macroeconomic fundamentals remained strong and prudent macro-management, favorable terms of trade and limited global integration of the country’s financial system have made the country’s economy resilient to the global financial crisis. gDp growth has averaged 8 percent per year since 2004. per capita income has more than doubled in real terms since then, and poverty declined from 27 percent of the population in 2000 to about 16 percent in 2011. The external current account and budget have been in surplus and public debt is low. over the past decade growth has been mostly driven by commodity exports (gold, gas and cotton), but the government’s industrialization policies are changing the structure of economy as the shares of industry and services in gDp increased at the expense of agriculture (mainly cotton) over the last 20 years.

High economic growth is expected to continue in the near term. The economy is projected to grow by around 7 percent in 2013–14, driven by the government’s investment program, favorable terms of trade and domestic demand. however, a steep correction in commodity prices could have a sizable impact. Current account and budget surpluses are projected to decline to 1–2 percent of gDp. Debt will continue to remain low. government increases in wages and social allowances combined with further currency depreciation and reserve accumulation, if not sterilized, will put further pressure on inflation.

Despite improvements of macroeconomic policies and robust growth, the economy remains excessively controlled by the state and the long-term economic prospects depend critically on adoption of significant structural reforms and productivity increases. improvement of government effectiveness and private investment were the main driving factors of economic growth in uzbekistan since late 1990s up to now, and these factors need to be tapped to sustain growth over the longer term. Despite some progress in recent years (e.g. increasing utility tariffs to cost recovery levels, treasury modernization, tax cuts and simplifying some business procedures), the government has delayed adoption of critical structural reforms that hamper incentives and improvements in productivity, making long term growth unsustainable. As a result, institutions and financial sector underdeveloped, foreign exchange and trade restricted, statistical data transparency and public accountability are weak, and there are few if any incentives for private sector led growth, which, in addition to geographic and economic isolation from the global economy, may prove challenging for the government’s ambitions to reach the upper middle income level over the next two decades.

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A. RECENT poliTiCAl DEvElopmENTs | 1


A. Recent Political Developments

Prospects for political change are unclear and unpredictable with parliamentary and presidential elections set for late 2014 and early 2015, respectively. president i. karimov, 75, in office since 1991, remains very active on foreign diplomacy and maintains strong control over all aspects of domestic matters in the country. The centralization of power with the president makes the outlook uncertain as risks of unclear succession plans are compounded by regional security issues and the possibility of social unrest, in spite of the absence of organized opposition. Relations with the us and Eu have improved in recent years driven by anti-terrorist initiatives, regional security agenda and intentions of some Eu countries to look for alternative energy sources to reduce their reliance on Russia. however, ties with Russia and China will remain important. Tensions over water resources remain; especially over the Tajik authorities’ plan to build the Roghun hydropower plant.

The Parliament amended in December 2012 the laws on elections to Parliament and to regional, district and city councils of local legislative bodies in connection with the coming elections. it also introduced amendments and additions to some legislative acts designed to improve the business environment and reform the judicial system. The law introduced changes and additions to the Criminal Code, Criminal procedure Code, Civil Code, Tax and Customs Codes, Code on administrative responsibility, laws on Central bank, on agricultural cooperatives (shirkats), on state control of economic entities, on competition, investment activity, telecommunications, execution of judicial acts, on limited liability and additional liability companies, on copyright and related rights, on microfinance, and microcredit organizations.

The Parliament discussed in February 2013 the draft law on local governance organizations (mahalla), and transparency in elections and performance of their leaders. The law describes the role of mahalla in the development of private entrepreneurship, delegation of public oversight over protection of private property rights on relevant territories to mahallas, capacity building of training/orientation centers on business opportunities and consulting for local population. The parliament also approved draft legislation in first reading with amendments to several laws and regulations on some aspects of improving business environment for smEs, including certification and standardization, consumer protection, accounting, tax and customs codes, penalties, simplification of economic court procedures and documents, and regulation of disputes between shareholders and enterprises.

A new government body was established in November 2012—the State Committee on privatization, de-monopolization and development of competition—based on the merger of State Property Fund and State Antimonopoly Committee. The new committee is tasked with measures to advance privatization of the state-owned assets and shares in enterprises, ensure openness and transparency, monitor implementation of commitments made by investors at the time of privatization, enhancing private property as the basis of market economy, increasing the efficiency of the antitrust regulation and formation of real competitive environment, detect and deter anti-competitive actions, accelerated development of stock exchange markets, especially of the secondary one, as well as radical improvement of corporate management, regulate the activity of natural monopolies, and protect the rights of consumers. in November 2012, the implementation results of the state program of privatization of state property for 2012–2013 was reviewed; out of 194 state assets 96 are put up for public auction and 26 have been sold; and out of 1,186 social infrastructure assets 441 were transferred to local authorities balance sheets, and bidding conditions for 65 objects were approved.

2 | A. RECENT poliTiCAl DEvElopmENTs


The Parliament adopted in December 2012 the program of job creation and employment in 2013 that envisaged the creation of 972,700 jobs by commissioning new large industrial facilities, expansion of existing enterprises, development of small family businesses, service sector, and in-house labor. Another priority of the program is the employment of vulnerable categories of citizens (with disabilities and those experiencing difficulties in the labor market), quotas for at least 100,000 jobs are planned. more than 500,000 graduates from professional colleges are expected to be employed. To this end, more than 90,000 companies and organizations of various sectors of the economy will be attached to professional colleges in a “college-to-business” scheme, and with an aim to reduce the search time of the young graduates around 900 job fairs will be organized in all major cities and regions. Commercial banks are projected to allocate 5.1 trillion sums (2 billion usD) of credit to small business and private entrepreneurship to finance projects aimed at creating jobs in remote rural areas. The parliament also adopted in December 2012 the draft law on introduction of one stop shop principle at issuing permission documents in activities of all sectors of economy, and the draft law on private banking and financial institutions aimed at forming legislative base for creation of private banks and financial institutions, based on private property, expanding competition and improving services to clients, and law on investigative activity.

The Government introduced several regulations in January 2013 on foreign exchange and import transactions designed to bring benefits for Uzbek citizens and formal businesses and reduce the informal economy, but their actual net impact on small private businesses is unclear. for example, from february 1, 2013 according to a new regulation, residents of uzbekistan are no longer permitted to buy cash foreign currency and can purchase it only in non-cash form by transferring non-cash national currency on a local plastic card to international debit cards issued by authorized uzbek commercial banks. Cash foreign currency from these international cards can only be withdrawn outside of uzbekistan with a daily limit. however, these measures might increase the import cost for private businesses that lack preferential access to foreign exchange by the official exchange rate. given surplus fiscal and external current account balances and high international reserves, these measures would not dramatically change the overall positive macroeconomic picture. Another new regulation established special department in the state tax committee for preventing using foreign currency in retail/wholesale trade and services transactions within the country and increased punishments for selling goods and services for foreign currency. Another new regulation intends to reduce imported consumer goods and increase their domestic production, prevent illegal and counterfeit imports, encourage trade fairs and procurement of uzbek goods based on direct contracts from trade fairs without additional tenders, and introduction in all uzbek enterprises producing consumer goods the international quality standards iso-9001.

Transparency and governance remain major challenges. Comparing uzbekistan with other countries in the ECA region on governance indicators show major challenges in this area to go forward (figure 1). While the overall rank of uzbekistan on governance is low, political stability and government effectiveness rank relatively higher than control of corruption, regulatory quality, rule of law, etc. The limited availability of key economic, financial and social data continues to hamper economic analytical work. uzbekistan has not yet disclosed data in the imf’s international finance statistics. Recent troubles with large foreign businesses, e.g. Russian

Figure 1. uzbekistan governance indicators in comparison with Regional Averages2011, percentile rank: 0-100

Voice andAccountability

Control ofCorruption

GovernmentEffectiveness

Political Stability/Absence of Violence

Rule of Law

Regulatory Quality

20 40 60 800

Europe and Central Asia Region uzbekistan

Source: kaufmann D., A. kraay, and m. mastruzzi (2010), The Worldwide governance indicators: methodology and Analytical issues (http://info.worldbank.org/governance/wgi/sc_country.asp)

A. RECENT poliTiCAl DEvElopmENTs | 3


mobile mTs, Carlsberg and intercontinental hotel, continue to indicate significant governance issues and dampen investors’ confidence in the country’s business climate.

4 | b. ECoNomiC gRoWTh AND DomEsTiC DEmAND


B. Economic Growth and Domestic Demand

Uzbekistan has made significant economic progress since the mid-2000s. Real gDp growth averaged 8 percent per year since 2004. per capita income has more than doubled in real terms since then, and poverty declined from 27 percent of the population in 2000 to about 16 percent in 2011, according to government statistics. over the past decade growth has been mostly driven by commodity exports, e.g. gold, gas and cotton. The shares of industry and services in gDp increase at the expense of agriculture (mainly cotton and wheat) over the last 20 years.

Despite a subdued performance in the broader ECA region, Uzbekistan continues to grow strongly. Real gDp growth averaged 8.4 percent per year in 2008–2012, up from 6.7 percent in 2001–2005 (figure 2) due to prudent macro-management, favorable terms of trade and limited global integration of the country’s financial system that made the country’s economy resilient to the global financial crisis. gDp expanded by 8.5 percent on average in 2008–10, by 8.3 percent in 2011, and by 8.2 percent in 2012. The good performance in 2012 stemmed mostly from robust growth in services (by 10.3 percent), construction (by 11.5 percent), and agriculture (by 7 percent). industry, by contrast, grew more slowly, reflecting lower export demand due to the global and Eurozone turmoil.

Output performance in 2012 reflected buoyant domestic demand driven by supportive government policies and strong inflows of remittances. Data from the expenditure side on total and private consumption are unavailable, but higher wages and salaries (increased by 24 percent a year on average in real terms since 2006) and steady remittance inflows at an average 5 percent of gDp in 2008–12 have supported private consumption. Total investment grew by 7.9 percent in 2011 and by 11.6 percent in 2012, sustaining the share of investment in gDp at 23 percent (and public investment at 3.2 percent of gDp). foreign direct investment (fDi) declined from 3.2 percent of gDp in 2011 to 2.1 percent of gDp in 2012, while local private investment benefited from lower corporate income taxes and moderate improvements in the business environment in 2012, including reduced taxes on small and medium enterprises (smEs); fewer business inspections; improved access to bank financing; and simplified registration, permits, and customs certification. industry, infrastructure and services were the main recipients of investment, including electricity generation, chemical fertilizer and petro-chemical (polyethylene, polypropylene, gas-to-liquid, gasoline, oils) industry, machinery building (cars, trucks, electronics), automobile and rail road construction, telecommunication (optical cable) network, high-digital Tv broadcast, construction materials, textile, food processing, as well as education and health sectors.

The Government’s industrialization policies are changing the structure of Uzbekistan’s economy. While services continue to dominate the economy, the share of industry increased by around 10 percentage points of gDp over the last decade and at 24 percent of output now exceeds that of agriculture (17.5 percent) (figure

Figure 2. gDp growth in uzbekistan, its key trade partners and upper middle income countries, 2000–2012 in percent

-10

15

5

-5

10

0

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 20122000

3.8 4.2 4.0 4.2

7.7 7.0 7.3

9.5

9.08.1 8.5 8.3 8.2

upper middle income uzbekistan China

Russian federation kazakhstan

Source: uzbek authorities, World bank database.

b. ECoNomiC gRoWTh AND DomEsTiC DEmAND | 5


3). however, there are concerns regarding the sustainability of some industries and their ability to compete successfully in a more open economic environment. The country can no longer be considered a predominantly rural economy as the share of industry in gDp exceeds that of agriculture since 2007, rural and urban populations have become roughly equal in 2010, and contributions of industry and agriculture to gDp growth have been roughly equal in recent years (figure 4).

The heavy footprint of the state in the economy has been accompanied by inefficiencies. Although the overall efficiency of investment in uzbekistan has increased over the last 16 years (Table 1) due to efforts to foster an export-led growth model, heavy investments made by state-owned banks under state-guided lending programs to state-owned enterprises (soEs) in industry, transport and utilities have led to some inefficiency. When the global crisis hit and massive domestic lending to capital investment ensued with 2009–12 anti-crisis program, the sectors dominated by soEs (e.g. industry, transport, and utilities) demonstrated the highest level of inefficiency (as demonstrated by a higher iCoR—see Table 1). The relative efficiency of investment was higher in agriculture, trade and catering, and construction which are exactly the sectors with higher private participation and the lowest priority in the authorities’ investment policies.

Figure 3. gDp structure by sectors of Economy, 2001–2012

Figure 4. sectoral Contributions to gDp growth, 2001–2012

in percent in percent

0

100

70

30

20

10

50

80

60

40

90

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 20122000

28 30 31 29 27 25 24 22 19 18 18 18 17

15 12 12 13 14 11 9 10 9 9 8 8 8

37 37 39 38 3838 39 39 43 44 43 45 41

7 6 5 5 5 5 5 66 7 6 6 6

14 14 14 15 17 21 22 2421 24 24 24 24

0

10

7

3

2

1

5

8

6

4

9

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

4.5 4.24.4

7.77.0

7.3

9.59.0

8.1 8.5 8.3 8.2

Agriculture industry Construction services industry Agriculture Construction

Net taxes other services gDp total, %

Source: uzbek authorities. Sources: uzbek authorities, bank staff calculations.

Table 1. uzbekistan: Efficiency of Capital investment by sectors, 1996–2012 (measured by incremental capital/output ratio, iCoR: actual investment made in $ to receive $1 of additional value-added)

2007 2008 2009 2010 2011 2012

ICOR, average 1996–2003 2004–2012

gDp 1.9 2.2 3.2 3.1 3.2 2.9 7.2 2.7industry 4.4 4.4 9.8 7.8 8.8 7.3 36.1 6.8Agriculture 0.5 0.7 0.6 0.6 0.7 0.9 0.9 0.6Construction 0.3 0.5 0.3 1.2 0.9 0.9 0.9 0.9Transport & communications 2.4 2.4 11.6 6.9 5.9 4.3 4.0 5.0Trade & catering 0.2 0.3 0.7 0.4 0.8 1.4 0.2 0.6other services, incl. social sectors 4.6 3.5 4.9 4.5 3.1 2.1 14.2 5.2

Source: uzbek authorities, bank staff calculations.Notes: iCoRt = 100*(Nominal investment/ Nominal value-Added)t-1 /Real growth of the value-Added t]. An iCoR of 3 or less is generally considered good, while an iCoR of 4-5 or higher suggests inefficient investment.



Inflation

Inflation remained persistently high despite price controls and monetary policy tightening. in order to keep inflation under control despite the fall of global food prices in mid-2012, the Central bank of uzbekistan (Cbu) increased the sterilization of excess liquidity, which led to a slowdown in growth of broad money (m2) from 52 percent in 2012 to 32 percent in 2011 and 30 percent in 2012 (see section on monetary and exchange rate policies). however, despite a sizeable accumulation of government deposits with the Cbu, the increased sterilization was not sufficient to offset the effects of expanded net foreign assets and credit growth. it is unclear if the Cbu is committed to price stability or targets a depreciation of the official exchange rate and build up official reserves. Existing current account restrictions and foreign currency from exports surrender requirements generate sizable liquidity injections that fuel inflation by expectations of future depreciation of national currency. in addition, increases in administrative prices on food and utilities and high administrative increases of wages and social payments also contribute to inflation, As a result, official average Cpi inflation declined only slightly from 7.6 percent in 2011 to 7 percent in 2012. slower growth in domestic demand and the money supply will help to keep inflationary pressures and the official Cpi inflation is projected to remain around 7 percent in 2013.

External Accounts

A decline in exports and stronger imports because of robust domestic demand lowered the current account surplus in 2012. higher exports of natural gas and strong remittances inflows were insufficient to off-set a decline in exports of other products and higher imports overall. Consequently, the current account surplus declined to 1 percent of gDp in 2012 from 5.8 percent of gDp in 2011 and from 8 percent of gDp on average during the 2003–2008 pre-crisis years. Remittances grew by 6.2 percent in 2012 and represented some 4.5 percent of gDp, down from the pre-crisis level of 7 percent of gDp (figure 7). With export prospects dampened by slow recovery of key trading partners, the external current account surplus is projected to remain at 1 percent during 2013–14 as well. on the capital account, the net inflow of foreign direct and portfolio investment has declined from 3.2 percent of gDp in 2011 to 2.1 percent of gDp in 2012. Cumulative fDi inflows since independence remain low in per capita terms, reflecting the authorities’ reluctance to liberalize the economy.

Figure 5. Cpi, December 2009–December 2012 Figure 6. gDp deflator, ppi, and Cpi (official and imf alternative estimates), 2001–2012

year-on-year, percent change in percent

0

35

5

25

15

30

20

10

Jan-10 May-10 Sep-10 Jan-11 Jan-12May-11 May-12Sep-11 Sep-12

140

20

0

80

40

120

100

60

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

utilities services Non-foods foodstuffs Total gDp deflator Cpi (eop), official Cpi (eop), imf ppi, official

Source: uzbek authorities, bank staff calculations. Sources: uzbek authorities, imf staff calculations.



Capital transfers out of uzbekistan are estimated at less than 0.5 percent of gDp and net loans at 0.6 percent of gDp in 2011–12.

Total exports slightly declined in 2012 due to lower demand in the major partner economies. Exports of goods and services in 2012 contracted by 2.9 percent compared to 20 percent export growth in 2011. Natural gas exports grew by 80 percent and services export grew by 30 percent, but cotton, ferrous metals, cars, chemicals, and food exports declined in 2012. Although gas and gold prices increased respectively by 11 percent and 8.5 percent

and in 2012, cotton and copper prices declined by 40 percent and 8 percent respectively. however, despite increase of gold price, the gold export volume was cut by half from 28 percent of total exports in 2011 to 14 percent in 2012.

The export and import structure changed dramatically over the last 20 years as the economy has diversified. The share of non-commodity exports (e.g. cars, trucks, fertilizers, plastics, foodstuffs) has expanded from 10 percent in total exports in 1992 to 23 percent in 2012 as some export-oriented diversification is taking place in the economy (figure 8). Trading partners have also been diversified geographically, i.e. away from Russia (from 55 percent of trade in 1992 to 29 percent in 2012) to other Cis countries (18 percent in 2012, of which kazakhstan’s share is 11 percent), China (12 percent), korea (8 percent), Eu (7 percent), Turkey, (5 percent), Afghanistan (4 percent), among other destinations. The top five trading partners of uzbekistan include Russia, China, kazakhstan, korea, and Turkey.

Imports continued to grow strongly in 2012, but the import structure remains dominated by capital and intermediary goods. Total imports grew by 12 percent in 2012, much slower than 26 percent in 2011. Capital goods represented 46 percent of the total imports in 2012, and food and energy represented 10 and 7 percent, respectively. The imports structure has been diversified as import in 1992 was dominated by food and energy that was transformed by 2012 to mainly capital goods and raw materials (machinery, equipment, and chemicals) related to public investment projects. Textile imports also declined significantly as domestic textile production

Figure 8. Export structure, 1992–2012 Figure 9. import structure, 1992–2012in percent in percent

0

100

20

80

60

40

1992 2012

2

13

42

66

65

9

9

8

7

7

38

14

8

2

0

100

20

80

60

40

1992 2012

67

19

43

40

40

515

8

46

9

76

9

Cotton fibre Chemicals metals (e.g. copper) Chemicals metals machinery & equipment

machinery & equipment food food Energy (e.g. oil) other (e.g. textile)

Energy (e.g. gas) other (e.g. gold) services services

Source: uzbek authorities, bank staff calculations. Source: uzbek authorities, bank staff calculations.

Figure 7. Exports, imports, Remittances, fDiin percent of gDp months of imports

-5

45

40

5

25

15

35

30

20

10

0

16

12

8

4

2002 2004 2006 2008 2010 201220001998

0

Exports imports CAb

Remittances fDi Reserves, rhs

Sources: uzbek authorities, imf database.



gradually expanded during that period. food and energy represented 43 and 19 percent in 1992, respectively and 9 and 7 percent in 2012 (figure 9).

Trade in services is underdeveloped in Uzbekistan. Export of services has increased from 2 percent of total exports in 1992 to 8 percent in 2012, while import of services increased from 6 percent in 1992 to 9 percent of total imports in 2012. Transport, telecommunications, tourism, and uzbek nationals working abroad have been main export services sub-sectors, while trade in financial, professional services, e-trade, education and health, and are still underdeveloped. The private sector participation and liberalization of trade and investment in services should be a key element of policy reform as services are potentially a significant source of economic growth and job-creation in uzbekistan.

Debt Sustainability

Public and publicly-guaranteed debt is low by all measures suggesting that debt sustainability is not an issue. positive current account balances over the last decade translated into rapidly falling indebtedness of the country. it allowed the authorities to pursue a policy of no net-borrowing and, as a result, the external debt stock declined from 64 percent of gDp in 2001 to 12.8 percent of gDp in 2012 (figure 10, Table 2). furthermore, uzbekistan continues to be classified as a net creditor to the world, with foreign assets reaching 15 months of imports at the end of 2012. uzbek state-owned companies and banks have access to borrowing in the international markets without explicit government guarantees. External debt (mostly public) has been serviced comfortably, with a debt service ratio of 4.6 percent of exports and 3.7 percent of gross international reserves in 2012. uzbekistan’s access to international capital markets will remain restricted, reducing potential growth in the debt stock, and loans from international financial institutions and from foreign governments, such as germany and China, will also be on concessional/favorable terms. Current account surpluses and high international reserves will help to ensure that the government’s external borrowing remains low over the medium-term. To finance its public investment program for 2011–15, the government will borrow externally; however, its total external debt/gDp ratio is projected to remain broadly unchanged until 2015.

Figure 10. Debt and Deb service, 2001–2012 Table 2. uzbekistan: selected Debt indicators, 2008–2012, unless otherwise noted

in percent in percent in percent of gDp

0

100

70

30

20

10

50

80

60

40

90

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

0

25

20

15

10

5

6461

49

40

18.0

30

12.8

24

11.9

17

8.0

13

6.2

15

5.8

15

4.1

13

3.9

13

4.6

21.5

24.124.7 2008 2009 2010 2011 2012Total external debt 13.1 15.0 14.8 13.3 12.8public debt 12.7 11.0 10.0 9.1 8.3

o/w: External 11.5 10.3 9.4 8.5 8.3Domestic 1.2 0.7 0.6 0.6 0

External debt service, % of exports

6.2 5.8 4.1 3.9 4.6

Debt-to-gDp ratio Debt service-to-export ratio, rhs

Source: uzbek authorities.Note: External debt includes public, publicly-guaranteed and non-guaranteed debt.

Sources: uzbek authorities, imf staff estimates.



Employment

Creating jobs for the young and growing population is high on the Government’s agenda. in 2009–12, about one million new jobs were created each year in uzbekistan, including in–home based jobs and smEs. in 2009–2012, under the framework of the government’s anti-crisis program, all regional governments adopted special programs on job creation. The main resources of job creation were civil and public works, municipal and infrastructure improvements, construction and services, creation of small enterprises, home-based businesses through labor contracting with enterprises, and additional program on employment in rural areas through private cattle breeding.

However, the demography of Uzbekistan requires faster job creation as the average labor force growth rate of 2.9 percent per year exceeds the annual job creation rate of 2.5 percent. official unemployment rate (that accounts only for those who officially self-registered as unemployed) in recent years stood at the level of 0.2 percent of the working age population and unemployment rate (as measured by ilo methodology) was maintained reportedly at 5–6 percent in 2009–12.

Labor market policies are focusing on increasing labor market flexibility. These policies include maintaining low minimum wages (around $40 per month as of february 2013), fewer termination restrictions, limited severance, developing public and community works, support for self- and in-house employment, early retirement, training and retraining, and direct job creation. There are no specific groups of population that are discriminated/marginalized from the labor market based on ethnicity, gender, language, etc. labor force participation rates of women and men in the age range of 15–64 years is 62 percent and 74 percent of the population, respectively, which is above the regional average. Women comprise 46 percent of the labor force. however, there is informal labor market for employers and employees that seek higher incomes in the informal private sector, including by evading income or payroll taxes.

The Uzbekistan’s government drive of fast real wage increase may affect competitiveness and must be complemented with the policy aimed at increasing labor productivity. As a result of regular government wage increase in 2004–2012, real wages grew much faster than labor productivity in recent years, which may have a negative side effect on cost competitiveness of uzbekistan produce (see figure 11). This especially undermines the competitiveness of labor-intensive sectors, e.g. agriculture, food-processing, textile industry, etc. that represent the current basis of the country’s comparative advantage in international trade. Challenges persist in improving incentives in the labor-intensive sectors, ensuring rural-urban labor mobility and access to key infrastructure in rural areas. one of problems is that the administrative geographical containment of labor in rural areas using soviet-style residence registration (propiska) system prevents labor market to clear.

Figure 11. Dynamics of Real Wage and productivity, 2004–12 in percent

0

60

50

30

20

10

40

2004 2005 2006 2007 2008 2009 2010 2011 2012

4.9

24.0 27.3

4.2

38.1

41.0

4.5

23.4

31.9

5.3

34.1

40.9

5.7

45.4

52.8

4.9

20.8

27.9

4.0

19.1

21.2

4.5

11.316.7

4.2

10.9 1

6.2

growth of productivity (measured by real gDp per worker, in constant prices)

growth of real wage (by imf-estimated Cpi inflation)

growth of real wage (by official Cpi inflation)

Source: uzbek authorities’ data, bank staff calculations.



Lack of jobs and relatively low salaries at home push many Uzbeks to seek jobs abroad, as impediments to private sector activity continue to constrain job creation and employment opportunities. massive labor migration to Russia, kazakhstan and other countries has partially mitigated the problem in the short run. The estimated number of labor migrants ranges from 2 to 6 million, i.e. up to 25 percent of the total working age population in uzbekistan. uzbekistan has been criticized by international media for allegedly using a forced, though paid, child and adult labor for several weeks of cotton picking season. The government has passed adequate child labor laws, signed relevant ilo Conventions and developed a National Action plan to end this criticism. As a result, the practice of child labor seems to have been eliminated in 2012; however, reportedly the government occasionally used some form of coerced, though paid, adult labor, for example for university students in provinces and employees from health and other public sectors in cities.

Relatively weak response of employment to growth implies that Uzbekistan will need significant structural reforms to encourage private sector development that would absorb a growing labor force. privatization of large and medium-sized state-owned enterprises in manufacturing, agriculture-processing (including cotton) and wholesale export-import trading would help increase labor and product market flexibility and absorb new labor force entrants.

Poverty

Poverty1 declined from 27.5 percent of the population in 2001 to 16 percent in 2011 due to rapid economic growth, sustained increases in salaries and remittances, and government’s targeted support programs. labor migrants sent remittances equivalent to roughly 5 percent of gDp in 2012 to families in uzbekistan that helped keeping poverty at low levels. Despite the accelerated decline in poverty since 2005 (figure 12), the elasticity of poverty reduction to gDp growth remains relatively low—a 1% increase in per capita gDp in uzbekistan is associated with only 0.16% decrease in the poverty rate, which is much lower than average estimate for developing countries (around 3% decrease of poverty rate per 1% increase in per capita gDp). Explanations include: low productivity in agriculture that still employs one-fifth of the population and most of the poor, but is subject to numerous implicit taxes and restrictions on economic activity; a high level of informality in the labor market; few working adults per family; and regional divergences (i.e., richer regions growing faster). The government endorsed mDgs for 2011–15 with the main goal to “halve poverty and halve the number of underweight children under 5 by 2015” which translates into a reduction of the national poverty rate to 14 percent of population by 2015.

1 As measured by the uzbekistan national poverty line of minimum food consumption equivalent to 2,100 kilo-calories per person per day. The state statistics Committee of uzbekistan conducts regularly the household budget surveys (hbss) that are not published/not available to general public.

Figure 12. gDp per capita and povertycurrent us dollars in percent of population

0

2,000

1,400

600

400

200

1,000

1,600

1,200

800

1,800

0

30

20

15

10

5

25

2002 2004 2006 2008 2010 201220001998

623700

558457

383 396465

547643

832

1,023

1,182

1,384

1,547

1,71527.7 27.5

26.5 27.2 26.1 25.8 24.923.6

21.8

19.5

17.715.9

15.0

gDp per capita poverty rate, rhs

Sources: uzbek authorities, World bank database.



Efforts to reduce poverty and inequality have borne fruit as income is distributed more equitably over time as indicated by the Gini coefficient, which has reportedly declined from 0.465 in 2006 to 0.341 in 2010. school enrollment and access to electricity and natural gas networks are universal across the country, and access to safe water is universal in cities and 85 percent of population in rural areas. however, with fivefold difference between domestic and export prices for gas, recent disruptions of gas and electricity (generated mainly on gas power stations) and rationing of gas in rural areas due to gas re-orientation for exports (to Russia and China) as well as deteriorating networks demonstrate that critical reforms are needed in these sectors to ensure the equality of opportunity in access to infrastructure across the country.

The Government “Program of targeted support of socially vulnerable groups” was implemented during 2002–2011 and contributed to poverty reduction. it stipulates definitions of 16 targeted groups of poor, vulnerable groups, and those lacking services. These programs of allowances and benefits to the poor are means-tested and channeled through local communities (mahallas). There are also textbook and winter clothing subsidies for schoolchildren from poor families. moreover, every year the government adopts additional social programs targeted at particular vulnerable groups along these thematic priorities, e.g. “the Year of Elders,” “the Year of Youth,” “the Year of health generation,” etc. Additional pro-poor actions were taken in response to the recent global financial crisis, e.g. additional wages, pension and benefit increases, improved access to micro-lending, provision of housing for orphan children, and social assistance to single citizens in need. All regional authorities adopted additional measures on job creation in public works, municipal infrastructure improvements, construction, services, and cattle breeding in rural areas.

Even though Uzbekistan compares favorably to other countries in the region in terms of the coverage of social protection programs, their targeting needs improvement. There is considerable discretion and arbitrariness at the local level (mahallas) and existing monitoring and evaluation (m&E) systems are not always applied effectively to guide policies. The government is aware of challenges and improving equitable expenditure distribution to the population and through reducing urban bias in access to core public services in rural health care and basic education, introducing per-capita financing in rural primary health care and in schools and vocational colleges.

12 | C. ECoNomiC AND sTRuCTuRAl poliCiEs


C. Economic and Structural Policies

The Government’s understanding of its policy challenges is growing as evidenced by the prudent fiscal, monetary and financial sector policies, continued efforts to reduce the tax burden, support to the development of SMEs and stated intention to elaborate a long-term national development strategy (Vision 2030). however, the government still drives economic development through policy decisions with little consultation and collaboration with the private sector. This type of behavior runs against the widely accepted notion that the private sector and the markets, not the government, are the major drivers of economic development in a market economy while the state should limit itself to the provision of public goods and good institutions.

Fiscal Policy

Fiscal policy in 2011 was prudent, but turned somewhat expansionary in 2012 which may put pressure on inflation. fueled by strong commodity revenue, the consolidated surplus, including the uzbek fund for Reconstruction and Development (fRD), increased to 9.0 percent of gDp in 2011 from 5 percent in 2010 despite the fact that gDp growth remained broadly unchanged (figure 13). however, the fiscal surplus in 2012 declined to 3 percent of gDp (Table 3) as total expenditure slightly increased (mostly due to higher investment spending financed by the fRD) while revenue collection relative to gDp was lower in 2012 because of lower commodity revenues in the fRD, certain tax cuts aimed at supporting smEs and lower-income population, and vAT tax exemptions aimed at supporting specific sectors and investment projects. The us$47 billion investment program for 2011–15, adopted to alleviate the impact of the global crisis and strengthen infrastructure, has continued at a higher pace in 2012, supported by the allocation of resources from the fRD. Relatively high and well-targeted spending in the road sector (at 1.6 percent of gDp) has resulted in a relatively well-maintained road network.

The authorities have pursued a strategy to widen the tax base and reduce the tax burden, with total tax revenues falling to 20 percent of GDP. further tax reductions continued in 2012, reducing the overall

Figure 13. Consolidated budget, 2001–2012 Table 3. selected fiscal indicators, 2008–2012in percent of gDp in percent of gDp in percent of gDp

0

12

10

6

4

2

8

0

50

30

20

10

40

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

2008 2009 2010 2011 2012Revenues, incl.fRD 43.3 37.4 38.7 42.4 38.0Expenditures 33.1 34.6 33.8 33.4 35.0fiscal balance 10.2 2.8 4.9 9.0 3.0

Consolidated fiscal balance Revenue, rhs Expenditure, rhs

Source: uzbek authorities, imf staff estimates. Source: uzbek authorities, imf staff estimates.

C. ECoNomiC AND sTRuCTuRAl poliCiEs | 13


tax revenue to 20 percent of gDp in an attempt to increase compliance. The authorities have been gradually reducing marginal tax rates for a number of taxes such as personal income (top rate down from 40 percent in 2000 to 22 percent in 2012–13 and lowest rate down to 8 percent in 2013), profit tax (down from 31 percent in 2000 to 9 percent in 2012–13), and payroll tax (down from 40 percent in 2000 to 25 percent in 2011–13). Commercial banks are still subject to a 15 percent rate, but small businesses were taxed at 6 percent and small business in the industry sector at 5 percent in 2012–13.

The 2013 budget targets a further reduction in the fiscal surplus due to lower growth and commodity prices for major exports, and higher spending. The consolidated budget targets a surplus of 2 percent of gDp, down from 3 percent in 2012. The tax collection is envisaged to be maintained at 2012 levels as higher rates on indirect and resource taxes are offset by lower revenue from commodity export. The authorities plan to further increase wages and social expenditures and preserve public investment at around 3.3 percent of gDp.

With the fiscal accounts remaining in surplus, public debt was further reduced and domestic public debt repaid in full in 2012. Total public debt was reduced to 8.3 percent of gDp with all domestic liabilities cleared in 2012. given both budget and current account surpluses and growing international reserves, the government has no intention of borrowing domestically in the medium term. To finance its public investment program for 2011–15, the government will borrow externally; however, its total external debt-to-gDp ratio is projected to remain broadly unchanged until 2015.

Contingent liabilities such as “non-budgetary” public and publicly guaranteed borrowing by state-owned or controlled enterprises are not high and do not make the state budget vulnerable. The risk posed by domestic public guarantees on bank lending to enterprises is small, since the real value of such contingent liabilities has been eroded by inflation, and amounted to about 2 percent of gDp by 2011. however, with 85 percent of external public and publicly guaranteed debt service taking place outside the budget, there is a looming liability on the government.

Still large fiscal space allows the authorities to continue financing fiscal stimulus programs without borrowing and further reducing the level of public and publicly-guaranteed debt. fiscal policy in 2013 is likely to remain unchanged as it envisaged a further reduction of the tax burden with continued focus on social spending and investment. fiscal policy in 2013 is going to be expansionary as in 2012, putting additional pressure on inflation.

Monetary and Exchange Rate Policies

An “unorthodox” policy mix by the monetary authorities has tried to support domestic demand but also fend off inflationary pressures. Even with high inflation, the Central bank of uzbekistan (Cbu) cut its key policy rate from 14 percent to 12 percent between 2011 and 2013 reflecting concerns about liquidity. Despite a weak transmission mechanism, Cbu’s close-to-zero real interest rate and directed lending under government programs helped to maintain high credit growth at 32 percent in 2011 and 25.3 percent in 2012 (Table 4). At the same time, in order to keep inflation under control, the Cbu stepped-up its sterilization efforts and introduced stricter direct controls over payments, which slowed down the growth of broad money (m2) from 52 percent in 2010 to 30 percent in 2012. Credit growth also decelerated. still, these measures and the sizeable accumulation



of government deposits (including fRD) with the Cbu, were not sufficient to offset the effects of expanded net foreign assets and credit growth and Cpi inflation moderated only slightly in 2012 to 7 percent by official statistics and 11 percent according to an alternative estimate by the international monetary fund (imf).

The authorities continued with their policy of steady nominal exchange rate depreciation of the sum. Rather than relying on market instrument, this policy is implemented by requiring exporter to surrender export revenues and through import restrictions. Consequently, the official exchange rate depreciated by an average of 9 percent year-on-year during 2009–12.

There is no considerable exchange rate misalignment (according to the IMF), however foreign exchange restrictions and unsatisfied demand of the informal economy contribute to a significant margin between the official and parallel market rates. The exchange rate premium on the parallel market did not exceed 5 percent during 2004–08. however, this premium increased to 50 percent in 2010–11. in 2012, however, the premium declined to 40 percent (figure 14) reflecting effects from advance payments by households a decrease in household demand for dollars on the parallel market due to the cancellation of an anti-crisis measure that allowed the purchase of uzbek cars using us dollars in the domestic market to compensate for a reduction of uzbek cars exports. Another factor was a reduction of cash sum supply on the parallel market due to an increase of daily cash surrender quotas to banks. The existing level of international reserves seems more than enough to satisfy the incremental demand for foreign exchange that would arise if current restrictions were removed. A more serious concern is the additional burden the parallel market premium imposes on private businesses that do not have access to the official foreign exchange market by increasing the cost of their imports and fueling imported inflation.

The persistence of a significant parallel market premium can be explained by three main reasons. first, the existing rationing in the official foreign exchange market causes the unsatisfied demand at the official rate to spill into the parallel market. second, because the share of the informal economy in uzbekistan is large, there is an excess demand for cash foreign exchange in the parallel market, e.g. for purposes of tax evasion, smuggling, capital flight, etc. that cannot be eliminated by the increased provision of foreign exchange in the official market. Third, the stricter enforcement in early 2009 of previously suspended (in April 2007) five articles related to mandatory financial reporting under the law on anti-money-laundering and counter-terrorist financing (Aml/CTf) that has led to tightened control of financial operations and to a much higher risk of being caught when operating in the illegal foreign exchange market.

Figure 14. Exchange rate Table 4. uzbekistan: selected monetary indicatorssum/$1, daily (1998–2012) 2008–2012

150

2,900

2,150

1,150

900

650

1,650

2,400

1,900

1,400

2,650

400

2002 2004 2006 2008 2010 20121998

2008 2009 2010 2011 2012CPI official, eop, % 8.0 7.4 7.3 7.6 7.0CPI, IMF estimate, eop, % 14.4 10.6 12.1 13.3 11.0

Credit to private sector, % change 33.6 40.4 42.4 32.0 25.3Broad money, % change 38.7 40.8 52.4 32.3 30.2Gross official reserves

US$ billion 9.5 12.2 14.6 18.0 20.3months of imports 9.8 13.1 12.3 14.0 15.0

Nominal average exchange rate (LC/US$)

1,319 1,498 1,586 1,715 1,890

Curb market ER (buy) official nominal ER

Source: uzbek authorities, bank staff. Source: uzbek authorities, imf and bank staff.



In February 2013, a new regulation banned Uzbek banks from selling cash foreign currency to Uzbek residents who can purchase it only in non-cash form by transferring non-cash national currency on a local plastic card to international debit cards issued by authorized Uzbek commercial banks. Cash foreign currency from these international cards can only be withdrawn outside of uzbekistan with a daily limit. however, these measures might increase the import cost for private businesses that lack preferential access to foreign exchange by the official exchange rate. given surplus fiscal and external current account balances and high international reserves, these measures would not dramatically change the overall positive macroeconomic picture. New procedure of purchasing foreign currency is designed to reduce cash of sum and foreign currency in circulation by using more plastic cards. however, it is unclear if reduction of cash in uzbek economy is justified by economic considerations. The share of cash uzbek sum in broad money (m2) has been reduced from 44 percent in 2007 to 24 percent in 2012. for comparison, the same indicator for Russia was 27 percent in 2008–2012. in per capita terms, cash national currency in uzbekistan is about 16 times less than in Russia in 2012, which means lack of cash in uzbek economy to service current transactions.

In general, the monetary and exchange rate policies followed have been costly to the economy. The exchange rate distortions for a protracted period (in 1997–2003 and in 2009–2012) have been damaging to exports and economic growth and have driven much economic activity underground and contributed to capital flight. it has also resulted in foreign investment inflows much below its opportunities. The export tax through surrender requirements at the overvalued official exchange rate constrained private sector exports. balancing demand and supply in the foreign exchange market with an overvalued exchange rate requires import compression.

Structural Policies and Reforms

Despite broadly sound macroeconomic outcomes, widespread state controls lead to resource allocation distortions and inefficiency. These include restrictive and tightening trade policies, cash and foreign exchange restrictions and excessive involvement of the state in economic activity.

Uzbekistan needs to emphasize the role of governance and private investment for a deep structural change to sustain the economic growth in the medium and long-term. since 1996 the import-substitution policy in uzbekistan has been heavily driven by state investment and state support often channeled through directed credit to state-owned or state-controlled enterprises (soEs), high import duties and excises and through non-tariff barriers such as foreign exchange control with overvalued official exchange rate for import of capital goods for soEs. however, other growth factors such as growth of private investment, depreciation of real exchange rate, and government effectiveness have also been important after some liberalization of trade policy in 2003. The results of a growth regression analysis (see Appendix 1) suggest that improvement in the governance (as measured by the government effectiveness indicator2) and private investment were the major driving factors of economic growth in uzbekistan since late 1990s up to now and these factors of economic growth need to be directly tapped through the development and implementation of appropriate policies in

2 government Effectiveness – captures perceptions of the quality of public services, the quality of the civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation, and the credibility of the government’s commitment to such policies. (see The Worldwide Governance Indicators (WGI) dataset produced by World bank at http://info.worldbank.org/governance/wgi/resources.htm#intro)



the government’s long-term development strategy. for example, a 10 percent increase in private investment would lead to extra 1.1 percentage points of real gDp growth, whereas 10 percent increase of government investment would lead to 0.3 percentage points of gDp growth. improvement in government effectiveness has the highest impact on economic growth in uzbekistan as an increase of government effectiveness indicator by one unit score would lead to 2 percentage points of real gDp growth.

Further diversification of the economy is needed as Uzbekistan cannot maintain its long-term growth by relying on natural resources and commodity exports, because it is not a resource rich country in per capita terms. for example, gas deposits of uzbekistan per capita are 22 times less than Turkmenistan and 2 times less than kazakhstan, gold reserves per capita 3 times less than in kyrgyz Republic, which is a low income economy. This explains the government’s drive for industrialization emphasizing the development of manufacturing based on the processing of local natural resources. This calls for diversification of exports towards higher value-added goods and services, which would require better integration into the supply chains of global corporations in such areas as manufacturing, transportation/logistics, and tourism. however, manufacturing in the high-performing countries is driven mainly by private corporations integrated in the global value-chains. This implies that to develop manufacturing supplemented by adequate market infrastructure uzbekistan needs both foreign and local private investment, technology transfer and relevant regulatory quality. This is needed to enable domestic private companies to eventually grow and diversify into foreign markets as domestic market is too small to support scale-efficient manufacturing.

Weaker external demand and likely lower commodity prices for exports in the short- or long-term would affect negatively economic growth and call for diversification of exports in Uzbekistan towards higher value-added goods and services. if one assumes 2 percent inflation of dollar assets and the World bank’s forecast of world prices on major uzbekistan’s raw materials and energy , exports of uzbekistan in 2025 will be 47 percent less in real purchasing power than in 2012. World price forecast indicates that uzbekistan may not expect significant exogenous growth in exports and supporting private sector-friendly business environment will become crucially important (figure 15). The current global slowdown affecting the uzbek economy mainly through lower exports and remittance inflows and gDp growth in 2013-14 is expected to slow to 7.0 percent on average (imf projects 6.5 percent growth for 2013–14) owing to a weaker external outlook and slower growth in Europe, Russia, China and india. Weaker external demand and likely lower commodity prices for exports and sluggish growth in Russia would result in remittances falling below baseline projections, affecting negatively economic growth and fiscal revenue in 2013–15.

The favorable global commodity price rise since 2002 and some trade liberalization in Uzbekistan in 2003 pushed the economy towards export-orientation that significantly increased the manufacturing and food exports and accelerated economic growth in 2004–12. however, securing access to foreign markets for the growing manufacturing and food exports would require accession to the WTo, especially since major importer of manufacturing goods from uzbekistan—Russia—joined this organization. The government supports enterprises with subsidies in the form of directed credit, high trade protection and other

Figure 15. uzbekistan Commodity prices forecastin real 2005 us$

0

1,500

750

250

1,000

500

1,250

2012 2013 2014 2015 2016 2017 2018 2020 20252011

gold, $/toz Cotton, c/kg Copper, $/ten mt

fertilizers (urea), $/mt Natural gas, Eu, $/1,000 cubic meters

Source: World bank, Development prospects group.



measures, which may not be feasible under the WTo rules. Easiness of doing business in terms of institutional and infrastructure support for exporters and domestic businesses in general will become crucial to sustain growth.

Although significant reforms are necessary in the medium-term for the aspirations of Uzbekistan to become an upper middle-income country by 2030, the country faces serious structural reform bottlenecks. The government set up in 2011 a long-term goal “to reach the standard of living of industrialized countries” which implies maintaining an annual 6 percent average growth rate to become high middle-income economy by 2030. however, widespread government controls, particularly on prices, and trade restrictions resulted in resource allocation distortions, increased transaction costs and inefficiency. While measures have been taken recently to promote smEs, increase utility tariffs to cost recovery levels, treasury modernization, and simplifying some business registration procedures, - the business and governance environment indicators rank among the lowest in the world and competitiveness has been deteriorating.

The improvement of government effectiveness and private investment were the main driving factors of economic growth in Uzbekistan since late 1990s up to now as demonstrated by the generalized method of moments (GMM) growth regression (see regression results in Appendix 1). Thus, the government should focus its medium- and long-term policies on these factors that greatly influence the future economic growth prospects. Trade liberalization moved by currency exchange liberalization at the end of 2003 has had a strong positive impact on growth and the government should maintain in full the current account convertibility of the uzbek sum.

Sustainable growth will require significant structural change as future growth will have to rely increasingly on productivity increases. however, the uzbek authorities’ continued delay of structural reforms that hamper private business incentives and improvements in productivity, making long term growth unsustainable. The reform agenda includes improvements in the business environment and privatizing large soEs that will promote the development of the private sector: uzbekistan’s ranking in the Db 2013 was 154th. Removing foreign exchange and trade restrictions and liberalizing prices are also critical to promote private investment, especially fDi. At the same time, improving public sector governance through reforming civil service, improving medium-term budgeting and public procurement will reduce corruption and ensure efficient use of public resources: the Transparency international’s 2012 Corruption perception index placed uzbekistan 170th out of 174 countries. given its unique double-landlocked status, improvement in the transport infrastructure and trade logistics will be critical to reducing cost and improving productivity: the country was 117th out of 155 countries in the bank’s 2012 logistics performance index.

Real sector policies

Despite some achievements of the government industrial policies, important goals have not been met and there are significant opportunity costs and risks to the development strategy that question its long run sustainability. upon independence in 1991, uzbekistan inherited one of the lowest standards of living in the soviet union; economy was reliant on raw materials such as cotton, gold, and natural gas while heavily dependent on imports of oil, wheat, meat, and most manufactured goods. Against this background, the government since mid-1990s adopted a strategy to transform the economy from heavy dependence on agriculture and natural resources to a modern industrial economy in the long run. initially this strategy was an import substitution and recently a more export-oriented one, and focused on nurturing selected infant



industries organized in state-controlled industrial associations and state-owned joint-stick companies (soEs) through open-ended protection in which uzbekistan might not have a comparative advantage. The strategy relies heavily on dominant role of the government, foreign exchange and trade controls, directed credit and large public investments, and achieved some objectives, notably energy and food self-sufficiency early on by end 1990s, some diversification of production and exports towards manufacturing, and high growth over 7 percent since 2004 until present.

While maintaining stability, widespread state controls in all key sectors—agriculture, industry, energy, and banks—and restrictions in trade and finance have discouraged private business incentives and investment, especially FDI, hampered technology transfer, productivity increase, and employment generation. Net fDi inflow has been low at 3 percent of gDp on average over the last 20 years and net fDi inflow per capita is still the lowest in the Cis. The foreign exchange and banking controls, which hindered access to foreign exchange for purchases of imports and profit repatriation purposes (even though the existing fDi law provides for unhindered repatriation of profits), together with the overall difficult business environment, has led a number of foreign investors to cut back their activities in uzbekistan. Against this, costly government guaranteed external borrowing was undertaken for investment projects with questionable returns because they are undertaken under distorted relative prices.

Industry

The government has been pursuing active diversification policies. incentives to both capital-intensive (fuel-and-energy complex, chemical industry, machinery building) and labor-intensive industries (textiles, footwear and foodstuffs production) have stimulated the local raw materials processing through the “localization” program. A number of new industries were promoted since 1996 in consumer goods (cars, trucks, Tvs, satellite receivers, refrigerators, microwaves, energy-saving lamps, etc.) and in intermediate inputs (e.g. polyethylene, polypropylene, mineral fertilizers, pipes and other metal products, cables and wires, construction materials, etc.)3. Technological modernization of some old capital goods (e.g. agricultural machinery, chemical and petro-chemical plants) was undertaken, and the production of oil and gas accelerated. international experience suggests that a targeted diversification may not be sustainable once government support is discontinued.

The industrialization strategy has been implemented through central allocation of investment to manufacturing and infrastructure using implicit net taxation of agriculture and extractive industries, state management of output and factor prices, and centralized coordination of production, trade, and investments in key sectors. Although direct explicit subsidies were reduced from 20 percent of gDp in 1993 to about 2 percent of gDp (or 6 percent of budget expenditure) in 2001–12, implicit subsidies to priority industries have continued until resent. priority industrial soEs (e.g. in machinery building, chemicals and petrochemicals, textile, transport and communications) have implicit net subsidies via overvalued official exchange rate for imports and debt-servicing, low real interest rates on credits and low domestic prices for energy, raw materials, etc. The foreign currency has been rationed and the exchange rate misaligned during the slower growth or decline of uzbek exports in times of global crises in 1997–98 and 2008–12, so the parallel market premium over the official rate increased to 480 percent in 1998–2000 and 45 percent in 2009–12 on average.

3 Among the largest new enterprises created have been the uzDaewoo in 1996 car assembly plant costing $0.6 bn., including around $0.3 bn. in external debt (this plant was later transferred to joint venture with general motors in 2007), and shurtan gas Chemical Complex costing around $1 bn., including $0.8 bn. in external debt.



While entry of small private enterprises is encouraged, there is little scope for them to operate when access to assets and resources is monopolized by the favored SOEs. Even where land has been given to private farmers on long-term leases, the state still largely directs their production, trade, and directs resource flows to and from these farms. The pervasive role of the state and marginalization of the private sector, while maintaining stability, has significant costs for efficient resource allocation and growth. This centralized control over the economy is also reflected in information flows, which are largely unidirectional—from economic agents up to central government—with restrictions on the dissemination of economic information. This undermines the fundamental role of decentralized information flows in the functioning of a market economy.

Despite the significant net implicit taxation of agriculture (e.g. cotton) and extractive industries (e.g. gold, copper), the investible surplus was not sufficient for the industrialization program and the government resorted to considerable external borrowing. Ambitious investment programs, financed to a large extent by foreign borrowing, was undertaken for 1996–2015 in energy (power, oil and gas), infrastructure (telecommunications, transport), non-ferrous metallurgy, machine-building, chemical and petrochemical, and, to a lesser extent, light

Box. Automobile Industry Development in Uzbekistan

The car assembly plant “uzDaewooAuto” was established and started its operation in1996 as joint venture on parity arrangement by the government of uzbekistan and korean Daewoo motor at the cost of $0.6 bn., including around $0.3 bn. in external debt, that with total annual capacity production of 250 thousand of cars. in 2005 uzbekistan government bought 50 percent of shares of korean partner, and in late 2007 the uzbek government signed a deal with general motors to produce Chevrolet cars on this plant. The gm holds 25 percent of shares in this joint venture. in 1994 the «uzAvtosanoat» association of firms producing components for car industry was established. The association includes two car plants: «gm uzbekistan» producing cars, and «samarkand truck plant» producing trucks and other commercial automobile vehicles (e.g. firefighters, ambulances, etc), and dozens of smaller enterprises. in 2011, a new «gm powertrain uzbekistan» plant has started the production of car engines in Tashkent city with 1,200 staff with the capacity of 360 thousands of engines per year, with export contracts signed for brazil and indonesia. general motors owns 52 percent of shares of “gm powertrain uzbekistan”of total $521.8 million. "general motors powertrain uzbekistan” is producing engines bDoNC of work capacity 1.2 litres and 1.5 litres.After 15 years of development the automobile industry contribute about 1/3 ot total value added of the machinery building sub-sector of uzbekistan. The product range include «Damas», «Nexia», «matiz», «lacetti», «Captiva», «spark», «Tacuma», «Cobalt», and «Chevrolet lacetti». main models are exported to Russia, Afghanistan, kazakhstan, Azerbaijan, moldova, ukraine, belarus, georgia, Armenia, and Turkmenistan. The expansion of local production of parts and components for cars for cars and tracks is a development priority for the government. About 15percentof all cars and trucks in uzbekistan were transferred to methane gas.

in 2012, about 1,000 of “mAN“ trucks and 2,000 buses will be produced in samarkand joint venture "Jv mAN Auto-uzbekistan” established in 2009, with charter capital of 3 mil. Euro with 51 percent of shares owned by uzbekistan and 49 percent by mAN (germany). Total value of production in 2012 is expected to exceed $3 bn. in 2010, uzbekistan joined top ten best markets of general motors Corp. in 2011, uzbekistan car export to Russian grew by 25 percent up to 92.8 thousand of cars and took 10th place among the global automobiles companies on sales to Russia. in 2012, uzbekistan automobile industry value-added grew by 8 percent, cars production grew by 6 percent and trucks by 74 percent.



and food industries. since independence, about half of the external loan commitments for investment projects were for industry (including energy), another third for infrastructure and ten percent for agricultural equipment. state-guaranteed foreign financing was a form of support to priority industries.

Large public investments and implicit subsidies to industrial sector have resulted in an increase in the industry’s share in GDP to pre-transition levels. initially, despite large investments and implicit subsidies, industrial growth was low and not broad-based until 2002 as industry grew by only 1.5 percent on average in 1996–2001. by 2001, the share of industry declined to 14 percent of gDp from 25 percent in 1991. At that time, industrial growth was led by gas, gold, copper, and to some extent food processing, which together accounted for over half of industrial growth in that period, the industrial growth has accelerated to 3 percent in 2001–03 and 5.8 percent on average in 2004–08. in 2009–12, however, industrial growth decelerated to 4 percent on average owing to a decline in global demand for manufacturing exports during the global crisis. however, large public investment program for 2009–15 directed at modernization and technical reconstruction of industry sector 53 percent of total investments (without depreciation). in 2009–12, 2506 new industrial projects were launched, of which 715 projects were completed by 2012 in various sectors of industry. A free industrial economic zone near the international Airport of Navoi city (in Navoi province), and a logistics hub in Angren city (in Tashkent province) were developed in 2009–12. The new manufacturing industries and increased production of hydrocarbons in fact offset the severe decline in output of the old manufacturing industries inherited from the former soviet union (aircrafts, agricultural machinery, electrotechnical industry, etc). As a result, the overall share of industry in gDp has reached 24 percent in 2011–12, i.e. was nearly restored to the pre-transition level in 1990.

The industrial sector is little exposed to competition as it functions under centralized production targets and distribution systems, little competition with imports, extensive price regulations, and soft budget constraints. industry is to a large extent still subject to elements of central planning through the system of “material balances” for industrial associations and enterprises through which around 60 key commodities and foreign currency are distributed by the state. The government provides directives for industry through industry and trade associations and holding companies that coordinate and facilitate enterprise activities. While enterprise membership in an association is voluntary, access to scarce resources (including official allocations of foreign exchange and investment funds) is dependent on the association and not being a member of an association can result in a producer facing difficulties in receiving inputs supply or the input prices can be higher than available within the association. Associations are also sources of monopoly power through centralized marketing of the outputs of member enterprises. besides price controls on key food (e.g. sugar, flour, bread, butter, vegetable oil), utilities, and “strategic” goods (e.g. metals, cotton, cement), prices for cereals and livestock products are kept low due to export bans. price regulations still cover about 200 goods (including durable and other consumer goods (about 50 items), services (90 items) and various industrial inputs) produced by over 200 enterprises which are defined as monopolies, a definition based on existing market share rather than barriers to entry. About one-third of the large industrial enterprises were classified as monopolists due to the lack of import competition.

Uzbekistan pays a high price for its energy policy and is taking measures to improve energy efficiency. With a fivefold difference between domestic and export price for gas, uzbekistan ranks among the most inefficient energy consumers and energy and fuel subsidies are estimated by the international Energy Agency at 30 percent of gDp in 2010. uzbekistan borrowed heavily to finance the development and modernization of the oil and gas sector that received a lion’s share of foreign loans under government guarantees. however, currently oil, gas, coal, and electricity are sold on domestic market at a fraction of world market prices despite a



trend of domestic price increases in recent years. gas distribution losses are currently estimated at 20 percent, as compared to 2–5 percent by industry standard. Technical and commercial losses in electricity generation are reported officially at 18 percent, almost twice the 10 percent level routinely achieved elsewhere. in addition to the very low prices and problems with non-payment of bills, inadequate metering of energy consumption (only 8 percent of households with access to gas have meters) further reduces the incentives to use energy efficiently. Energy endowment is used to provide inefficient subsidies to the entire economy—industry, agriculture, transportation, and households, benefiting rich and poor alike. making energy policy more efficient and sustainable while protecting the poor is a major policy challenge As elimination of energy subsidies may cause bankruptcy of many strategically important enterprises, private investment should be accelerated to restructuring through the improving of business environment. .

Agriculture

The current agricultural policies regulating input and output pricing, state procurement, export and marketing, and land tenure prevent a more efficient combination of land, labor, and capital that would raise agricultural efficiency and rural income. Despite the transfer of almost all cultivated area under cotton and wheat to private land leasehold farms in 2003–08, all farms remained subject to mandatory cropping plans and state procurement below international prices. failure to comply with the plans may result in the expropriation of the leased land from a farm back to the state. As a result, agricultural crop growth was driven by increases in wheat acreage and production, while seed cotton yields have been stagnant at 2.4 tons per hectare over the last 40 years and cotton export volumes declined in 1990s and 2000s without a significant increase in cotton textile exports. horticulture, food-processing, and off-farm activities have not become a source of jobs and employment for rural population that forced searching for jobs and incomes in urban areas in uzbekistan or abroad. Whilst these set of policies have achieved relative output stability and agricultural production is back to its pre-independence level, incentives to improve efficiency remain low.

To ensure stable cotton export revenues, achieve self-sufficiency in wheat, and keep food prices and wages in industry low, the government has maintained state controls over cotton, wheat and key food imports. in cotton and wheat—which account for 80 percent of cultivated land—the state retained control of production/planting, input supply, procurement, pricing, and trade monopoly. in addition, it banned exports of cereals and livestock/meat and importing most key foods (sugar, vegetable oil) in a centralized manner through state trading companies. The centrally directed credit through the fund for state Agricultural purchases under the mof largely ensures supply of inputs and wage payments. however, it limits commercialization of production to essentially barter exchange of inputs for crops and precludes private entry in provision of inputs, e.g. fertilizer, agrochemicals, machinery services, credit which are effectively available only from the state and only for the planned production of cotton and wheat. irrigation water is heavily subsidized and since water use is not metered, up to 40 percent of water is wasted and efficiency of water use is low.

To achieve self-sufficiency in wheat, since mid-1990s both collective (shirkats) and private farms were required to allocate some land from cotton to wheat. The increased wheat production dramatically reduced wheat imports and saved over us$450 million for state budget. however, value of cotton yield per hectare at world market prices is higher than the value of wheat yield. As result, net annual economic loss due to the wheat-cotton substitution is estimated at over us$ 2 billion in 1994–2002. Additionally, the conversion of land from feed crops to wheat (fodder area is now one-third its level in 1990) also reduced fodder production which reduced livestock productivity and organic fertilizer supply to maintain land fertility.



The main distortions in agriculture that hamper productivity growth are implicit net taxation and mandatory cropping patterns in cotton and wheat sub-sectors. Total value of the implicit tax on cotton production through depressed output prices significantly below world market prices tended to significantly exceed the total value of input subsidies, thus imposing a net implicit tax on cotton production estimated by at around 30 percent of farmers’ gross cotton revenues in 2003 and 2004, which is much higher than corporate and personal income taxes.4 Cotton production could be increased at no cost to the budget if input subsidies and output taxes were reduced by equivalent amounts. With state procurement prices for cotton and wheat increasing since 2005, net implicit taxation has been slightly reduced. however, the distorted input and output prices that lead to waste and large allocational inefficiencies clearly remain a problem constraining productivity growth. besides distorted relative prices, mandatory cropping plans also lead to inefficient land use and choice of crop. farmers cannot respond to changes in international prices as they must comply with state cropping and production plans.

Although other agricultural sub-sectors (livestock, fruits and vegetables) have been liberalized, however, export restrictions and high cost of inputs, information and credit also impede the increases of output and productivity. smallholder (household/dehkan) farms, which are not subject to state directives are thus more productive and produce most of meat, fruits and vegetables in uzbekistan; but they are constrained by insufficient access to land and inputs, so important avenues of increasing productivity, crop diversity, and rural incomes are blocked off. Availability of seeds, chemical fertilizers, crop protection chemicals, and irrigation are not the main constraints in uzbekistan horticulture. however, horticulture production for both export and domestic markets face barriers ranging from high input costs (e.g. chemical fertilizer, drip irrigation), little organic fertilizers, high wastage due to poor infrastructures in terms of storage facilities, great price risk, low producer prices, lack of premium pricing for farmers, poor access and high interest rates on credit for inputs and equipment, information and communication networks are problems and output grading, quality control, standardization and packaging are generally deficient, especially for dehkans. informal networks dominate the provision of inputs, information and credit to dehkans in fruits and vegetables value-chain. Access to marketing information is a vital component of the competitiveness, but formal market information gathering and dissemination in uzbek horticulture markets are typically absent or nascent and rarely reaches uzbek farmers. such information could be packaged in the effective combination of internet and cell-phone sms, e-bulletins, radio, Tv, newspaper, and other dissemination channels. in downstream agro-processing industry, many enterprises are subject to state ownership or control, marketing restrictions, and export bans (vegetable oil, flour and cereals, silk, meat and meat products) and continue to struggle with serious liquidity problems, resulting in poor prices to farms and substantial delays in payment.

Services

Services sector takes major share in GDP and its development and trade liberalization can bring new jobs and incomes, especially in the regions with tense labor market. The government developed a program on strengthening the role of the services sector in the economy for 2012–15 aimed at: ensuring the services growth by 2.1 times in 2015 against the results of 2010 and increasing its share in gDp from 45 percent in 2011 to 55 percent in 2015; creation of 1.3 mln. new jobs; development of new types of modern services, e.g. computer programming (including electronic education), repair and maintenance of technological equipment

4 Cotton Taxation in Uzbekistan: Opportunities for Reform. World bank, ECssD Working paper No 41, August 2005, p.iv



and agricultural machinery, education and healthcare, etc. Tourism and transportation services are developing by increasing the capacities of touristic centers, tour agents of transit-logistic centers and cargo and passenger transportation units. providing special privileges is envisaged for micro- and small firms that render services. Enterprises that render services included in the priority list (financial-banking, tax consultation, information-resource, information-library centers, appraising operations, consumer services, etc.) are exempt from the unified tax and are subject to privileged credits for construction of facilities and low rates on unoccupied premises for rent. Enterprises that render any services are exempt of the unified tax under the condition that profit generated from rendering the services accounts for no less than 80 percent of the total profit.

Business environment

The Uzbekistan’s business climate is challenging, especially for international trade. According to the 2013 Doing business report, uzbekistan improved its rank from 168 to 154 out of 185 countries on the overall ease of doing business (Table 5). The highest rank is on enforcing contracts (46th) and for resolving insolvency (73th). The lowest rank is on trading across borders (185th), getting electricity (167th), paying taxes (161th), and getting credit (154th) which generally reflects main challenges in reforms. uzbekistan has worst business climate among the Central Asian countries (figure 16). According to World bank enterprise survey, only around 3 percent of uzbek firms export as compared to 7 percent in Russia, 13 percent in india, 18 percent in brasil, or 25 percent in China as uzbek firms face difficulties entering export markets due to the lack of competitiveness and/or of public support in export facilitation.

In 2011–12 major initiatives aimed at enhancing the business regulatory environment demonstrate a high interest by the authorities; however, recent events with some key foreign investors in the country doubt this view. While these are important steps in the right direction, the government needs to deliver effectively on the announced plans. in November 2010, the president of uzbekistan declared a Concept “on further liberalization in uzbekistan” that envisages simplifications and reforms in all spheres of social and economic development, including ease of doing business. in January 2011, a special program to support smEs was adopted after declaring 2011 year in uzbekistan as the Year of Entrepreneurship and small business

Table 5. uzbekistan “Ease of Doing business” Figure 16. uzbekistan, other Central Asian and key Trade partners in Doing business indicators

rankings out of 185 economies

Topic Rankings DB 2013 Rank

DB 2012 Rank

Change in Rank

starting a business 90 90 No change

Construction permits 152 145 -7getting Electricity 167 172 5Registering property 138 138 No change

getting Credit 154 158 4protecting investors 139 136 -3paying Taxes 161 159 -2Trading Across borders 185 185 No change

Enforcing Contracts 46 45 -1Resolving insolvency 73 124 51OVERALL RANK 154 168 14

0

30

60

90

120

150

1 08 Start a business

Construction permits

Get electricity

Register property

Get credit

Protect investors

Overall rank

Resolve insolvency

Enforce contracts

Trade across borders

Pay taxes

uzbekistan kazakhstan kyrgyz Rep. Tajikistan

China Russian fed.

Source: Doing business Report 2013. Source: Doing business Report 2013.



Development. in July 2012, the president decree “on measures for further cardinal improvement of the business environment and strengthening the freedom of entrepreneurship in uzbekistan” was adopted that envisages the implementation of many improvements that may ease entrepreneurial activities in uzbekistan with deadlines for implementation in late 2012, beginning of 2013, and onwards. The implementation in practice of such improvements remains to be seen. There are still significant obstacles affecting the operation of firms, including cash and foreign exchange controls; unequal treatment of firms operations stemming from government participation in enterprises; major regulatory obstacles to trade and cumbersome licensing and permits framework.

Despite some changes in the agriculture institutional system, its unpredictability and uncertainty in property rights undermines the farmers’ investment and results in low yields and productivity. The restructuring of agricultural collective farms (shirkats) to family leaseholds to the long-term inheritable land leases for up to 50 years have been implemented in 2003–08. selection of individual farmers to award land leases is done through a bidding process. however, the leasehold rights are non-transferrable among farmers and can be obtained only from state. moreover, the state order and centralized pricing system for cotton and wheat has not changed after independence, and the leasehold contracts for land can be legally cancelled by the state if a leaseholder does not follow the cropping patterns mandated by the state or does not achieve production levels set by the state.

Although the private ownership of non-agricultural land by resident legal entities is formally permitted, there is no legal mechanism for privatizing land plots for non-agricultural use. According to the 2013 Doing business, the difficulty of property registration in uzbekistan remained unchanged at 138th place. land under the industrial firms and housing remained under state ownership, but the owners have the “right of permanent land use and possession” which is transferable along with the properties located on the land. however, a regulation stipulating practical steps still needs to be elaborated.

Trade sector

Uzbekistan’s trade policies are among the most restrictive in the region that remains an impediment to regional trade, and trade liberalization is critical to sustain high growth and productivity. After twenty years of transition, uzbekistan is in the process of gradually shifting its import-substitution bias toward an export promotion strategy. however, its trade regime remains protective and distorts resource allocation, reduces competition, contributes to the difficult business environment, creates opportunities for corruption, and encourages smuggling. After liberalization of exchange rate restrictions in late 2003 the trade barriers increased. in addition to ex-ante registration of import contracts, import price verification for all imports, limits for advance payments for imports, export pre-payment requirements, and introduced excise taxes of imported goods are undue impediments to trade. Trade liberalization is needed to enhance the business climate and medium-term growth prospects.

A range of tariff and nontariff barriers are used to discourage imports. Today uzbekistan’s weighted average import tariff rate of 16.6 percent is the highest in the region (with 13.9 percent for kazakhstan, 7.8 percent for Tajikistan, 4.3 percent for kyrgyzstan, and 5.3 percent for China). however, actual collection of all custom duties is around 3 percent of total imports of goods due to many exceptions on free-trade agreements with Cis countries and for imports for “localization” and “modernization” programs. in addition to high tariffs, the government utilizes high import-exclusive excises and non-tariff measures (convertibility delays/restrictions



and requirement of labeling in national language). Also, non-food imports from neighboring countries without a certificate of origin are subject to an additional 20 percent surcharge. Thus, effective import taxation of some imports by legal entities can be high, e.g. 20 percent vAT (which is rebated) plus import tariff, plus excise, plus surcharge. import protection levels are frequently revised (e.g. import excises have been increased on some goods in the past three years). Although no formal import quotas are applied, the mfN tariff schedule is designed to encourage imports of capital goods and inputs and discourage import of consumer goods and other goods competing with domestic production.

Uzbekistan trade regime implicitly discourages exports. The government maintains the export surrender requirements for enterprises on foreign currency from exports at 100 percent on raw materials (e.g. gold, gas, cotton, metals) and at 50 percent for other export revenues, which together with the overvalued exchange rate act as a de-facto tax on exports. in addition, a cumbersome requirement to foreign buyers of uzbek exports to make 100 percent pre-payment increases transaction cost and discourages uzbek exports. The uzbek businessmen are trying to satisfy this formal requirement by bringing unofficially the money for pre-payment to the foreign businessmen abroad, so that the buyer could make the required pre-payment using de-facto the uzbek exporter’s money.

Although some measures were introduced in 2011–12 to ease exports, other measures in January 2013 further restricted imports of consumer goods and confirmed that the core trade regime remains unchanged and trade liberalization is not on the authorities’ reform agenda in the near future. some moderate measures were introduced in 2011–12 to facilitate trade. for example, custom charge for clearing exports was halved from 0.2 percent to 0.1 percent; penalties for delays with transfer of exports revenue on direct export contracts were reduced; “one-window” custom servicing of exporters was introduced and export contracts for smEs now registered at border entry points; bureau on Export facilitation under the uzstandard Agency and uztadbirkorexport Agency for consulting smEs exporters were established with free consulting and online information services on international certification and standardization. however, the new measures in January 2013 intend to substitute imported consumer goods by increasing domestic production through encouraging trade fairs, procurement of uzbek goods, and using international quality standards iso-9001 by all uzbek producers of consumer goods. given uneasy business environment for domestic private business and the domestic supply response will be delayed and these measures would increase domestic market monopolization and inflation.

Financial sector

The banking sector exposure to global risks is limited to 6 percent of total liabilities in 2010–12, both banking and non-banking financial sectors remain underdeveloped and need serious reform notwithstanding recent progress. The banking sector has about 95 percent of total financial sector assets and the non-banking sector just about 5 percent. Research shows that financial depth ratio as measured by m2/gDp is closely associated with the long run gDp growth and needs to be at least 20 percent of gDp to allow sustained gDp growth. however, the financial depth in uzbekistan until 2009 was below that minimum level and still remains one of the lowest among Cis countries at 23 percent in 2010 and 25 percent in 2012. high government ownership in major banks, non-banking functions of tax withholding, directed lending (at 25 percent in 2011 down from 83 percent in 2000), poor risk management in banks, intervention, and financial oversight hamper competition and sector’s development. As a result, both bank and non-bank financial sectors remain underdeveloped; their markets are small and growing slowly. Although the government adopted a



master plan for financial sector development in 2011–15 (president Resolution #pp-1438 of November 2010) through strengthening the stability and expanding access to credit as the medium-term development priorities, it still does not address some of the key challenges.

Financial sector reforms are critical for sustained growth. main challenges include: discontinue the non-core functions of banks (e.g. cash controls, tax withholding, reporting of clients’ operations, maintaining of exchange rate stability by limiting access to foreign exchange and payments on import contracts) and eliminate remaining de-facto restrictions on cash withdrawals and transactions; directed lending creates concerns on the sustainability of recently observed credit growth and potential for possible future loan losses; high state shares and weak risk management in banks, particularly for directed loans; moderate access to finance by private sector and smEs; low credit to economy in gDp (half of other transition economies); low size and diversity of financial markets ; and underdeveloped non-bank financial institutions.

Public financial management

Progress has been achieved in 2010–12 in improving the integrity of budgetary and finance management and eliminating arrears in budget execution. in particular, since february 2012, all budget revenues and expenditures are controlled through single Treasury Account (Resolution #2320 of Central bank and mof of feb.1, 2012). public funds now cannot be often diverted to unintended uses by some public officials as prospect of being caught and sanctions have some deterrent effect. The budget is generally implemented as planned with minor deviations in broad categories from approved outlays. The deviations from budgeted amounts were below 10 percent in 2009, 2.1 percent in 2010, and 2 percent in 2011 and 2012. payment arrears do not exist in the budget system. it is cash positive at present, as would be expected given the overall fiscal performance. The arrears of payment as a result of fiscal management (i.e., as distinct from banking system problems) are not significant. The total stock of arrears was 0.003 percent of total state budget expenditures in 2008, 0.0015 percent in 2009, 0.0007 percent in 2010, and 0.0024 percent in 2011. in the course of introducing the Treasury system of budget execution, commitment registration has strengthened financial management and reduced temporary arrears. however, major challenges remain in public access to annual budget and audits documentation, managing public finances within a transparent medium-term framework, ensuring higher efficiency of public investment program, and managing mineral resource revenue (in the fRD) in line with best international practice, including transparency and good governance.

ouTlook | 27


Outlook

Uzbekistan’s outlook remains largely dependent on commodity prices. The chief external factors affecting economic performance of uzbekistan are favorable global commodity price trends for gold, gas, cotton, and copper. Although remittance inflows may suffer as the outlook weakens for Russia, government increases in wages and social payments will help to sustain private consumption. gDp growth in 2013 is expected to slow to 7 percent (imf projects 6.5 percent) owing to a weaker external outlook in Europe, Russia, China and india. uzbekistan limited links with global financial markets should help to protect it from a further escalation of the euro zone crisis that would affect the uzbek economy mainly through exports and remittance inflows. After a sharp rebound in 2010–11, cotton prices fell in 2012 and are expected to fall steeply in 2013–14. gas and gold prices in 2013–14 are projected to be at 2011–12 levels, and copper prices in 2013–14 would be slightly lower than in 2011–12, but still high by historical standards. Thus, growth in uzbekistan is not expected to slow down considerably, as surplus current account, high fiscal savings, external reserves, ongoing investment program and wage increase and remittance inflow in 2013–14 would mitigate the impacts of a continued global slowdown. however, the poor business environment will continue to deter most Western investors, and the authorities likely to continue impeding private-sector activity by retaining currency controls and high tariffs and excise taxes on imports.

Inflation is expected to remain at around 7 percent in 2013–15. global food prices are forecast to gradually decline, and more modest growth in net foreign assets and monetary indicators would offset higher government spending and limit inflationary pressure.

Although the short-term growth outlook remains favorable, downside risks are high due to a still weak global situation. The first risk is external and stems from a possible slowdown in economic activity in Russia (and a consequent reduction in remittance flows to uzbekistan) and likely lower prices for some of uzbekistan’s traditional commodity exports. The second risk is internal and comes from inappropriate integration of generally sound macroeconomic policies with weak structural policies in the country that negatively affect business incentives and hamper improvements in productivity and appropriate job creation making long term growth unsustainable.

28 | AppENDix


Appendix

Appendix 1. The growth Regression for uzbekistan

The improvement of government effectiveness and private investment were the main driving factors of economic growth in Uzbekistan since late 1990s up to now as demonstrated by the 2SLS growth regression (see Table A1). The results of a growth regression analysis suggest that improvement in the governance (as measured by the World bank government effectiveness indicator) and private investment were the major driving factors of economic growth in uzbekistan since late 1990s. These factors of economic growth need to be directly tapped through the development and implementation of appropriate policies in the government’s long-term development strategy. for example, a 10 percent increase in private investment would lead to extra 1.1 percentage points of real gDp growth, whereas 10 percent increase of government investment would lead to 0.3 percentage points of gDp growth. improvement in government effectiveness has the highest impact on economic growth in uzbekistan as an increase of government effectiveness indicator by one unit score would lead to additional 2 percentage points of real gDp growth. Thus, the government should focus its medium- and long-term policies on these factors that greatly influence the future economic growth prospects. Trade liberalization moved by currency exchange liberalization at the end of 2003 has had a strong positive impact on growth and the government should maintain in full the current account convertibility of the uzbek sum.

Table A1. uzbekistan 2-step least-squares Regression of gDp growthgrowth of private investment .080*

(.048).098***

(.035).034*(.019)

.106***(.026)

growth of government investment .045*(.025)

.038***(.014)

.004(.013)

.033***(.010)

government effectiveness1 1.288**(.560)

2.072***(.309)

Terms of trade -.024*(.014)

-.027***(.010)

Trade liberalization dummy since 2004 2.947***(.595)

3.186*(.318)

3.697***(.349)

3.697***(.234)

growth of labor force (.861) -.691(.552)

-.544*(.283)

constant 3.825***(.241)

2.118(1.396)

7.009***(1.878)

9.619***(.786)

Wald chi^2 396.7 637.1 585.9 957.9R-squared 0.95 0.97 0.96 0.987Notes: instruments are years and export price index, instrumented (endogenous) variables are growth of private and government investment, number of observations is 13. The heteroskedastisity robust standard errors are reported in brackets with significance levels: *** - 1%, ** - 5%, * - 10%. 1 government Effectiveness – captures perceptions of the quality of public services, the quality of the civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation, and the credibility of the government’s commitment to such policies. (see The Worldwide governance indicators (Wgi) dataset produced by World bank at http://info.worldbank.org/governance/wgi/resources.htm#intro)

AppENDix | 29


Appendix 2. uzbekistan: selected macroeconomic indicators, 2005–152005 2006 2007 2008 2009 2010 2011 2012p 2013e 2014f 2015f

Income and Economic GrowthgDp growth, % 7.0 7.3 9.5 9.0 8.1 8.5 8.3 8.2 7.4 7.0 6.5gDp per capita growth (annual %) 5.8 6.1 8.2 7.2 6.4 7.1 4.3 6.5 6.1 5.7 5.2gDp per capita (us$) 547 643 832 1,023 1,182 1,384 1,547 1,715 1,992 2,299 2,595gDp per capita, ppp (current int’l us$)

2,001 2,189 2,432 2,666 2,872 3,050 3,287 3,534 3,781 3,987 4,192

gross fixed investment (% of gDp)

18 18 21 24 26 25 24 23 25 25 24

gross fixed investment – public (% of gDp)

3 3 3 3 3 3 2.9 3.5 4 4 4

gross fixed investment – private (inc. soEs), (% gDp)

15 15 18 21 23 22 21.1 21.5 21 21 21

savings (% of gDp) 26 27 28 33 28 31 30 24 26 26 26Money and Pricesinflation, consumer prices, (official) end of period, %

7.8 6.8 6.9 8.0 7.4 7.3 7.6 7.5 7.5 7.5 7.5

inflation, consumer prices, (imf) end of period, %

12.3 11.4 11.9 14.4 10.6 12.1 13.3 11.0 11.0 11.0 11.0

inflation, consumer prices, (official) average, %

8.2 8.6 6.1 7.2 7.8 7.5 7.6 7.0 7.0 6.9 6.7

inflation, consumer prices, (imf) average, %

10.0 14.2 12.3 12.7 14.1 9.4 12.8 12.9 10.7 10.0 9.5

gDp Deflator, % change 21.4 21.5 24.0 22.9 20.2 16.1 16.2 16.6 14.2 13.8 13.6Nominal Exchange Rate (End of period)

1,180 1,240 1,290 1,340 1,511 1,640 1,795 1,940 2,100 2,310 2,541

FiscalRevenues (% of gDp) 32.3 36.1 36.3 43.8 37.4 38.7 42.4 38.0 37.3 37.2 36.5Expenditures (% of gDp) 31.1 30.9 31.0 33.1 34.6 33.8 33.4 35.0 35.3 35.5 35.4Consolidated fiscal balance (% of gDp)

1.2 5.2 5.3 10.7 2.8 4.9 9.0 3.0 2.0 1.5 1.1

External Debt, Total (current us$ million)

4,133 3,872 3,878 3,748 5,022 5,753 6,053 6,599 7,095 7,661 8,299

External Debt (% of gDp) 29.1 22.2 16.7 13.1 15.0 14.8 13.3 12.8 12.3 12.2 12.2External Debt service Ratio (% of Exports g&s)

13.8 11.1 8.0 6.2 5.8 4.1 3.9 4.6 5.4 5.9 6.5

External public Debt (% of gDp) 25.2 19.8 14.7 11.5 10.3 9.4 8.5 8.3 8.1 8.2 8.3Total public Debt (% of gDp) 28.2 20.8 15.8 15.7 11.0 10.0 9.1 8.3 8.1 8.2 8.3External AccountsExports, g&s 38.1 37.3 39.7 42.5 34.5 32.0 33.1 28.5 28.7 27.3 30.3imports, g&s 32.0 31.6 36.5 39.8 35.0 28.8 31.2 32.1 30.4 29.5 29.1Export growth (g&s, %) 12.0 18.0 40.7 37.4 -5.1 7.9 20.5 -2.9 1.5 3.9 4.5import growth (g&s, %) 4.4 13.8 44.3 39.8 2.7 -4.1 26.3 9.5 6.0 5.7 6.2merchandise Exports (current us$ millions)

4,594 5,377 7,692 10,811 10,352 10,978 13,204 12,229 12,412 12,896 13,476

merchandise imports (current us$ millions)

3,305 4,007 5,798 8,606 8,376 7,973 10,326 11,308 11,986 12,669 13,455

services, net (current us$ millions)

-417 -407 -1,193 -1,441 -2,138 -1,768 -2,523 -2,802 -2,730 -2,636 -2,532

Workers Remittances, net (bop, current us$ millions)

349 682 1,184 1,955 1,308 1,741 1,803 2,285 2,900 3,222 3,495

Current Account balance (% of gDp)

7.7 9.1 7.3 8.7 2.2 6.2 5.8 1.0 1.1 1.3 2.2

30 | AppENDix


gross int’l reserves, in months of imports g&s

6.5 6.9 7.9 9.8 13.1 12.3 14.0 14.9 15.4 16.5 16.6

foreign Direct investment (current us$ millions)

192 174 700 711 838 1,628 1,467 1,094 1,655 1,545 1,440

foreign Direct investment (% of gDp)

1.3 1.0 3.1 2.5 2.6 4.2 3.2 2.1 2.8 2.4 2.1

Population, Employment, and Povertypopulation, mid-year, million 26.2 26.5 26.9 27.3 27.8 28.6 29.3 29.8 30.3 30.7 31.1population growth (annual %) 1.2 1.2 1.3 1.8 1.7 1.4 4.0 1.7 1.3 1.3 1.3poverty headcount ratio at national poverty line (% of population)

25.8 24.9 23.6 21.8 19.5 17.7 15.9 15.0 14.5 14.1 13.9

inequality – income gini .. 0.465 .. .. .. 0.341 .. .. .. .. ..life Expectancy 67 67 67 68 68 68 68 68 69 69 69unemployment rate (official) 0.3 0.2 0.2 0.1 0.2 0.2 0.2 .. .. .. ..OthergDp (current lCu, billions) 15,923 20,759 28,190 36,839 48,097 61,831 77,751 96,590 118,250 143,763 172,623gDp (current us$, billions) 14.3 17.0 22.3 28.6 33.5 38.9 45.4 51.1 58.3 64.0 69.1Doing business rank 138 147 138 145 150 150 168 154 155 145 140hDi (human Development index) 0.617 0.621 0.630 0.636 0.639 0.644 0.649 0.654 0.659 0.663 0.668CpiA (overall rating) 3.0 3.0 3.1 3.3 3.3 3.4 3.4 3.4 3.4 3.4 3.4

Economic management 3.5 3.5 3.7 4.0 4.0 4.0 4.0 4.0 4.0 4.0 4.0structural policies 2.5 2.5 2.7 2.8 2.8 2.8 2.8 2.8 2.9 2.9 2.9social inclusion and Equity policies

3.6 3.6 3.7 3.7 3.7 3.8 3.8 3.8 3.9 3.9 3.9

public sector management and institutions

2.4 2.4 2.5 2.7 2.8 2.8 2.9 2.9 2.9 2.9 3.0

Source: uzbekistan authorities, bank and imf staff database and projections.

Uzbekistan: Economic Development and Reforms: Achievements and Challenges


world bank document · export structure, 1992–2012 7 figure 9. import structure, 1992–2012 7...

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