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 KAZAKHSTAN International Business Magazine №1, 2009
 Financial Storm in the Raw-Material-Intensive Economy
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Financial Storm in the Raw-Material-Intensive Economy

Yesterday, Kazakhstan was among the rapidly developing republics of former USSR. However, the world recession has given an estimate for the genuine price of the nation’s “success”, where the major vector of economic development was the export of mineral resources. In the beginning of 2008, the hydrocarbons export revenues constituted one third of the republican budget and was the major source of currency earnings. The volume of petrodollars, flowing into Kazakhstan in the last years, allowed the authorities to say that we live in a flourishing state. It seemed that the oil fortune would last forever. Thus, the main directions of the monetary policy of the National Bank for 2008-2009, approved on December 24, 2007, indicated that the possibility of decline in world oil prices "is not considered… since its implementation, as well as the achievement of high economic growth in the Republic of Kazakhstan in the next two years is unlikely".

The major concern of the government was not about active efforts on structural modernization of the economy, but the sterilization of the excess money supply in the National Fund. Considering the relatively moderate size of the Kazakhstani economy, the model, where the economic processes are financed by external sources, has been accepted. For example, the growth of copper, zinc, aluminium, steel and ferrochrome production, despite high world prices for these metals, was mainly reached not due to their sales revenue, but thanks to attraction of foreign loans. The outcome is obvious: the state had and has neither developed industry nor new technologies. There are individual projects that do not change the general picture.

The vivid example is the oil industry. Let us remind that in 1999 the republic faced a sharp deficit of fuel – Kazakhstani oil refineries almost stopped operations since there was no raw material – in the mid of grain harvesting season. However, at that time the Chairman of the anti-monopoly committee, Nikolay Radostovets, gave the following argument in defence of the oil producing companies: "The oil industry has an unique opportunity: since the beginning of the year, the raw material price has increased from nine to twenty one US dollars. They want to use this favourable international market structure. We need to understand them”. The country showed understanding, does it now and will keep doing it in relation to oil companies, striving to export as much raw material as possible. Thus, in the mid of the 90s the maximum oil production volume in Kazakhstan reached about 28 million tonnes while last year 70.6 million tonnes of oil and gas condensate were produced, 60 million tonnes of which were exported.

At the same time, the government does not rush to “understand” and “get in the shoes” of the domestic consumers. The lack of fuel, especially high-quality marks, became consistent. The volume of oil processing in 2008 reached only 12.3 million tonnes, 6.7 million tonnes of which was represented by imported oil! It is also important to note that the production of domestic oil refineries satisfies domestic needs only in low-octane gasoline and black oil. Therefore, the activity of oil industry is represented by the formula: "we produce and deliver". The situation in the rest of the industries of the economy is nearly identical.

The country of unlearned lessons

It seems that the government learned nothing from the economic collapse of USSR and two-year drop of oil prices in 1998-99. Instead of a single industrial and structural investment policy, there is a line of separate, weakly interlinked programs. The fact is that nearly all of the state programs, targeted at making the economy more effective, building the infrastructure and lifting the living standards of population, failed. The republic owns everything for successful development: natural resources, advantageous geo-economic location, educated population…

The government-supported “Break-through” projects do not have much in common with diversification of the economy. The only selection criteria are the volume of investment and volume of goods export. As a result, instead of “diversification of the economy” we see “diversification of exports”. As a consequence, we have very few new modern highly-technological plants in Kazakhstan. Moreover, many of those already existing (in chemical and machine-building industries) factories are significantly “outdated”. Often times the fixed assets of the remaining plants have depreciated by more than 60%.

The model of neighbouring China is a dramatic contrast in our background. Today, the state, which balanced on the verge of revolts of starving people and socio-political destabilization at the end of 70s in the past century, produces the main range of world products: starting from food and ending with electronics. The portion of industrial production represents 85% in the export structure of China while the initial processing goods accounts for only 13%.

Unlike our eastern neighbour, Kazakhstan still remains the exporter of raw material (Chart1). Moreover, the results of 2008 demonstrate that the commodity composition of its export has worsened. Having large hopes for foreign investors, the government lost the gain of the previous number of years: the number of plants dropped by a significant percentage. The outcome is obvious. The share of mineral products in the total export volume grew from 69.7% to 73% in the last year only. At the same time commodity composition of import is dominated by imported cars and equipment (Chart 2).

No doubt, the top management of the country has been regularly instructing to modify current dependence on raw material export to the better, but the orders remained unperformed. As a result, we see a decline of the national economy, threat of unemployment, decline of consumer demand etc. Today, the government hopes that the crisis will become the engine of diversification. "In the conditions of a recession, Kazakhstan has a real chance to diversify its economy – the Prime-Minister Karim Masimov stated. – Prior to the recession, the investment in oil and construction sectors were the most effective. Now, we have an excellent opportunity to run the diversification of Kazakhstan’s economy. This is the right time…"

Nonetheless, many experts doubt the recession will become a serious incentive to develop the processing industries. Foreign investors, which had came to Kazakhstan a while ago, signed an agreement of intention to develop business in the areas of oil and metal production. Speaking of other industries, the transnational corporations never showed interest to invest even in the best years. Not having the source to big foreign loans, the economy has to rely on limited internal sources of financing. Moreover, a large market and a pool of highly-qualified technical experts are necessary in order to implement large non-raw material investment projects. Today, the country has neither.

The economic crisis can partially shift the GDP structure; however, it will not give a push to the diversification of the economy. The experts expect that share of oil and gas production, construction and processing industries in the total GDP will shrink while the portion of services will grow (from 53.7% in 2008 to 62.5% in the current year). Nevertheless, the added value in the service industry will increase not due to high growth rates, but due to a significant decline in the production of goods. Moreover, the inflation, annual average level of which is expected at about 11%, will also influence the growth of a nominal volume of services. Therefore, the recession does not only prevent diversification of the economy, but also it will postpone the process. Furthermore, there is a high probability that we should expect a dramatic growth of illegal earnings and expansion of a shadow economy.

Some figures

In 2005-2006 the annual average GDP growth rate was 10.3% that was significantly higher than the average indicator for CIS (7.2%). Things radically changed in 2008 when the growth rate of the major macroeconomic indicators of Kazakhstan came out significantly lower both in comparison with previous years and comparatively to the same year plans. Instead of 5-7% GDP growth, promised by the Ministry of Economy, the real rate reached only 3.2%; thus, Kazakhstan fell to the next-to-last rank among 12 CIS countries, only ahead of Ukraine.

Foreign trade became one of the few indicators that had demonstrated significant growth in the last year. Foreign trade turnover of our country exceeded $109 billion, rising by 35.5% comparing to 2007. At the same time, the export volume increased by 49.1% (to $71.2 billion) while import volume grew by 15.7% (to $37.9 billion). Eventually, the black ink of the trade balance reached 2.2 times that of the 2007 figure. On the other hand, it was mainly reasoned by a commonplace price advance. Specifically, the physical volume of oil and gas condensate exports fell by 0.1% (to 60.7 million tonnes) while in the value terms the sales grew by 54.7% and reached $43.5 billion or 61.1% of the total export of Kazakhstan!

These are average figures though. After two years of growth, the oil price, reaching its historic maximum of $147.27 in the New York exchange on July 11, saw the unprecedented by speed and scale downfall; as an outcome, the price per barrel dropped by more than $100. Since last summer world prices also fell dramatically at the London Metal Exchange: zinc, copper and aluminium went down in value by 40%, 49% and 31% respectively.

Despite the fact that commodity markets witnessed the worst situation for raw material exporters, up until the last minute the officials were asserting: there is no crisis in Kazakhstan. The admittance of the evident fact took place only at the end of November, 2008. The state budget for 2009-2011 has been adopted by the parliament of the republic, considering the oil price at $40 per barrel. At the same time, the state budget deficit is expected at $4.76 billion in 2009. This is not the limit though: today, the development of mechanisms for sequestration of the state budget, based on the basic oil price at $25 per barrel, is in progress today. According to the Ministry of Economy, in such case the budget may lose 150 billion tenge. In the same November of 2008 the government adopted an anti-recession concept and in the beginning of 2009 it approved its implementation program. Overall, the program is planning to allocate at least 2.2 trillion tenge (about 20% of national GDP), contributed by not only the state budget, but also other sources. 1.2 trillion tenge will be provided by the National Fund and these funds will be additionally put to the already planned three-year budget expenses.

Thereby, the resources, accumulated by the National Fund in the last number of years, are being spent very quickly today. There is also a foreign debt burden – $11 billion must be paid back in 2009 while $6 billion in payments are scheduled to 2010.

It will be appropriate to mention that that the National Fund was established, first of all, to support the population, people with fixed income to maintain their living standard in the time of recession. What do we see in reality? $7 of $10 billion, provided by the National Fund, are directed to support banks and construction companies that produced a mortgage crisis. It comes out that the officials are concerned with the assistance to the construction sector, but not light or machine-building industries, where new jobs could be created. What is the government motivated by, investing the state budget funds in this market? One does not need to be a great economist in order to understand that if the government fails to establish profit-making plants in the country and create new jobs, the real estate market will be narrow and, therefore, expensive and unprofitable.

Anti-recession measures of the government, specifically, the acquisition of controlling stakes in BTA and Alliance Bank by the government, recapitalization of Kazkommertsbank and Halyk Bank, did not produce apprehensible results for the banking industry recovery. Moreover, Standard & Poor’s and Fitch Ratings agencies inform about lowering the long term credit ratings of the large commercial banks in Kazakhstan. Fitch Ratings specify "vague perspective view on financial positions of the state itself" due to the low oil price and "increased needs in the employment of reserves". There is an impression that anti-recession situation is used to redistribute the capital in the interests of separate financial industrial groups.

Devaluation and manual control

The statistics for January of this year once more demonstrated the high dependence of the Kazakhstani economy on the foreign market structure. According to the Ministry of Industry and Trade, the processing industry has seen a dramatic decline in production by 12.4%. The recession is observed in nearly all industries both in natural value and price value. The biggest reason for the general decline is in the mining and smelting sector: the volume of iron ore production fell by 48.5% while the production of ferrous metal dropped by 31.5%.

The landslide of prices for exported goods led to a dramatic shrinkage of black ink in the trade balance. This is the reason why the government had to devaluate the national currency. And instead of the promised step-by-step devaluation of the tenge rate by 10% over an extended time period, we experienced a shocking 25% devaluation on February 4. Being positioned as a panacea for Kazakhstani producers, so far it has brought more problems than benefits. The price of major commodities went up and the government urgently attempted to bring them back down, employing its usual method – commands. If they are not executed, they can use the mechanism, offered by the Akim of Almaty, Akhmetzhan Esimov: "We will recommend people not to visit places with overpriced menus". At the same time, the government of Kazakhstan does not plan to raise the salaries of government-sponsored employees or index social payments in concern with the devaluation. As per the Minister of the Economy and Budget Planning, Bakhyt Sultanov, the salary of government-sponsored employees and social payments in 2009 have already been raised by 25% and, in essence, include necessary compensation.

Is not the government aware of the scale of import dependence of Kazakhstan? The fact is that the import structure is constituted by not only the production and technical goods, equipment and technologies, but also nearly entire row of complex household appliances, clothes, footwear and many food items. Hence, a general price increase is unavoidable. A number of experts believe that the devaluation serves the interests of the exporters only that can generate the profit, reduced due to the price decline in the world markets. Other industries that depend on import and will only lose.

The real sector situation does not produce optimism. The government sees the solution in the increase of the Kazakhstani share in the subsoil use contracts and adoption of a "manual" mode to manage the economy. One of private sector representatives noted that considering the high level of corruption "this mode will perform only one mission – well-fare of officials". Until the systematic shifts, mainly depending on non-market factors, are repaired, all the efforts of the government will remain inefficient. The blowing of the raw material bubble threatens to produce a system crisis and recession at best and the default of the banking sector at worse. 

Sergey Smirnov


Table of contents
Mining Tax Thaw  Editorial 
Macroeconomy. April 2009  Macroeconomy. April 2009 _KAZAKHSTAN International 
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