Speech

Press Briefing on Developments in Baltic and CIS Countries, Opening Remarks by John Odling-Smee, Director, European II Department, IMF

September 28, 2002

Ladies and Gentlemen, greetings.

1. I would like to begin this press conference with a few words on three topics. First, economic developments in the transition economies of the Baltics and CIS states. Second, the progress that has been made under the CIS-7 Initiative that covers the low income CIS countries. Finally, our assessment of recent developments in Russia.

Recent economic developments in the region

2. Macroeconomic performance has generally been good in recent years and is expected to remain so:

• All countries have experienced positive growth in the last two years, and are expected to do so this year and next.



• Growth in 2002 has slowed compared with 2001, but the slowdown has been milder than in other regions of the world. The pressures in Latin America and other emerging market economies have had only a very modest impact due to the absence of significant trade channels and limited links of the region to international capital markets.



• Growth in 2003 is expected to continue at similar rates to 2002.



• Inflation has continued to decline. This year, we expect that all but Russia, Belarus, Tajikistan, Turkmenistan, and Uzbekistan will have inflation of less than 6 percent. It is notable that three of these five are the least reform-minded countries in the region (Belarus, Turkmenistan, and Uzbekistan).



• Further progress in reducing inflation is expected next year.

3. After a decade of transition, the countries of the former Soviet Union are at markedly different stages in their reform efforts. The Baltic countries were relatively swift in embracing structural change and are now facing the challenges of approaching EU accession, while some Central Asian states remain largely at the beginning of their transition. The key to unlocking the long-run growth potential of the CIS countries that lag behind depends to a large degree on pushing forward with structural reforms such as reducing the role of the state, establishing hard budget constraints, correcting price distortions, fostering competition and a conducive business environment, developing financial markets, and building institutions to promote good governance.

4. In sum, macroeconomic outcomes in the region have been very strong as the initial structural reforms have started to bear fruit. However, for the recent growth performance to be sustained, it is essential that progress continue to be made in deepening structural reforms including building the institutions to support a market economy. Only then will the economies move to sustainable growth paths capable of delivering the desired improvements in living standards.

CIS-7

5. Nowhere is this more the case than in the seven low income CIS countries—Armenia, Azerbaijan, Georgia, Kyrgyz Republic, Moldova, Tajikistan, and Uzbekistan. These countries faced particularly difficult transitions complicated by factors such as: land-locked locations, far from developed market economies; modest natural resource endowments resulting in most being large net energy importers so that the initial adjustment in energy prices to world prices caused massive disruption to the existing economic structure and the rapid build up of external debt; and the loss of large transfers from the USSR budget. While the incidence of these factors has varied across countries—as did the pace and breadth of the initial reform efforts—these countries found themselves as a group, after the first ten years of transition, faced with high levels of poverty, relatively weak institutional infrastructures, and, in most cases, large external debt burdens.

6. In order to focus attention on the situation of these countries, the CIS-7 Initiative was formally adopted by the IMFC during the 2002 Spring meetings of the Fund and Bank. The Initiative, which is jointly sponsored by the Fund, World Bank, Asian Development Bank and the EBRD, aims to assist these countries to achieve faster poverty reduction and economic growth, while securing fiscal and debt sustainability. These objectives will clearly take time to materialize, but there have been tangible results already:

• Fiscal and external positions have been strengthened and structural reforms accelerated under programs supported by the four institutions. Five of these countries (Armenia, Azerbaijan, Georgia, Kyrgyz Republic and Moldova) are currently implementing reform programs supported by the PRGF—the most concessional lending facility available to the Fund. Another, Tajikistan, is at an advanced stage of discussions on a new program that could be supported by the PRGF and we would hope that the authorities will soon be able to put in place the necessary measures to enable the new program to go ahead.



• The authorities' efforts to strengthen their economies have been supported by debt relief from creditors—Georgia and the Kyrgyz Republic received Paris Club restructurings in support of their PRGF programs, Armenia has completed a major debt-equity swap with Russia, and Moldova arranged a restructuring with commercial creditors of a Eurobond that fell due.



• Steps are being taken to foster capacity-building and improve regional cooperation through enhanced delivery of technical assistance and regional seminars to encourage cooperation at a technical level on issues such as tax policy and administration, financial sector development, energy and natural resource management.

7. I should also mention that preparations are underway for a conference in early 2003, at which a broad spectrum of policymakers and civil society will discuss the first decade of transition and its lessons for the future.

8. Initial results of the Initiative are encouraging, and we will continue to work closely with the CIS-7 countries and our sister IFIs to give it more impetus. The success of the Initiative will ultimately be determined by the countries themselves. The IFIs, and other bilateral donors, have shown a willingness to step in and provide support for those countries implementing strong programs—it is up to the countries to take advantage of the opportunities that are available.

Russia

9. Macroeconomic performance remains very good. The output recovery, now in its fourth year, has slowed somewhat, but we expect growth of about 4 ½ percent in 2002 and a similar amount next year. Inflation is continuing on a slow downward trend, and foreign reserves have increased rapidly.

10. The good performance undoubtedly owes much to the high oil prices, but has also been due to generally sound macroeconomic management. Most importantly, by saving a large part of the revenue windfall arising from high oil prices the government has done much to reduce the pressures for real appreciation of the ruble stemming from the large balance of payments surplus.

11. However, the fiscal stance was relaxed somewhat in 2002 compared to 2001 and the government's draft 2003 budget entails some further relaxation. Any relaxation of fiscal policy as long as the balance of payments remains so strong makes it more difficult to slow the pace of real ruble appreciation. That said, the relaxation to date is not very large and does not give rise to sustainability concerns. However, the room for maneuver should not be reduced further, and it is important that there be no additional relaxation as the 2003 budget goes through the process of Duma approval in the coming weeks.

12. Turning to structural reforms, from shortly after his election, President Putin and his government have stressed the need to improve the investment climate in order to stimulate growth. Significant progress has been made in many areas in the last two years, including tax, judicial and pension reforms, as well as changes to the Land and Labor Codes, to mention only a few of the most important reforms. The agenda does though remain large and there is a need to push ahead resolutely with banking, natural monopolies and civil service and public administration reforms. Such reforms are necessary to raise the extremely low level of financial intermediation, to reduce the large subsidies to highly inefficient energy-intensive enterprises, and to reduce what is still pervasive government interference in the economy, not least at regional and local levels.

13. These reforms would also facilitate the development of the SME sector—a key engine of growth in most of the successful transition economies—which has not yet emerged in Russia. Growth in Russia has remained very dependent on a few cash-rich conglomerates based in the primary commodity sectors, notably oil. As a result, Russia's economic prospects remain sensitive to a downturn in oil prices. Without an improvement in the investment climate, Russia is unlikely to be able to maintain satisfactory rates of economic growth if oil prices recede from current levels.

14. WTO membership offers an important opportunity to accelerate reforms. It will require bringing a wide range of laws up to the standards of a modern market economy. And, by opening the economy to competition, it will bring pressure to bear on Russian enterprises to restructure. Many enterprises that have maintained inefficient production processes and high prices, protected from competition, are opposing WTO membership or demanding excessive transitory arrangements. The extent to which such pressures are resisted will be another indicator of the ability to push reforms in face of opposition from vested interests.

15. The continuation of sound macroeconomic policies and steady progress in structural reforms in Russia are not only important for Russia itself, but also for the region at large.