Recent Economic Developments
After growing by 3.5% in 2015, the Kyrgyz economy contracted by 2.3% in the first half of 2016, reflecting a sharp decline in gold output and the weak performance of the non-gold sector, in particular, industry and services. On the demand side, investment contributed positively, thanks to public outlays that partly compensated for lackluster consumption growth and a negative contribution from net exports.
Fiscal policy remained expansionary, and capital spending increased significantly in line with the planned investment scale-up. Given a parallel decline in revenues, reflecting the overall weakness of the economy as well as a drop in non-tax income, the budget ran a deficit of 8.6% of GDP as of July 2016. Nonetheless, the public debt-to-GDP ratio improved to 64.1% as of end-June (from 68.3% at the end of 2015), thanks to the appreciation of the som.
After depreciating by over 20% relative to the U.S. dollar in 2015, the som appreciated by 11.3% during the first half of 2016, reflecting similar trends in the values of the Russian ruble and Kazakh tenge. In turn, this affected the real value of remittances, which increased by 7% in dollar terms. Reflecting the stabilization of the exchange rate as well as low food and energy prices, year-over-year average inflation barely reached 1.3%.
On the external side, the decline in gold production affected the overall performance of exports, which contracted by 23.6% over the first half of the year. Meanwhile, imports also contracted, albeit to a lesser extent, given the very sharp drop already observed in 2015 and the high import content of public investments. The uptick in remittance inflows helped to contain the current account deficit at around 9% of GDP.
The poverty rate (measured at US$2.5/day) increased by 1.4 percentage points to 30.6% of the population in 2015 due to weak economic growth and lower remittance inflows. The slowdown in services and construction led to fewer employment opportunities and stagnant real wages for low-income unskilled workers. In rural areas, households had lower agricultural income due to the lower prices of vegetables, meat, and fruits. Pensions and cash benefits to poor families helped to mitigate the impact of the decline in real incomes, but the targeted cash transfer program remains underfunded, reaching less than one-third of the poorest quintile.
Given the low performance of the Kyrgyz economy in the first half of the year, with the significant drop in gold production and exports and the persistence of regional headwinds, GDP growth is expected to moderate to 2.2% over 2016. Gold production is projected to recover over the second half of the year (declining overall by 3.2%), agricultural output to grow by 1.5% (against 6.2% in 2015), and the non-gold industry to contract by over 2%, reflecting supply side constraints and increased competition from Kazakh producers. In line with weak demand and declining prices for food and fuel, inflation should not exceed 3.5%.
Fiscal balances are expected to deteriorate relative to 2015, with the overall deficit reaching 7.4% of GDP. The widening deficit is projected to come about as a result of both lower non-tax revenues and higher investment outlays. Meanwhile, recurrent spending should remain stable as a share of GDP at just over 30%.
Looking forward to 2017 and 2018, output growth is expected to recover to 3 and 3.7%, respectively, as the external environment continues to improve and Kyrgyz producers adapt to the new requirements under the Eurasian Economic Union. As public spending is gradually reduced, internal and external balances should also improve in tandem.
Given modest growth prospects, the poverty rate is projected to remain broadly unchanged at about 31% of the population over 2016–18. Low agricultural growth will impede poverty reduction in rural areas. However, if improvements in safety net targeting materialize, these, along with the recovery in remittances, could marginally support poverty reduction.