Administrative Reform Is Needed
6th National Business Economic Forum Expert 200 Kazakhstan was held in November, according to the tradition. It was dedicated to the results of the rating Expert 200, as well as the issues of cooperation between the authorities and business community. The officials mostly talked about the ambitious plans for the future; on the contrary, the Kazakhstani businessmen and foreign investors raised the concerns about the governance quality and the judicial system performance.
Extractive Industries Lose Ground
Let start with the rating results. According to the rating agency Expert RA Kazakhstan, as of the end of 2013, the revenues of largest two hundred companies in our country reached 23.8 trillion KZT ($156 billion), increasing for 9% versus 6% year before. However the reviewers have stressed out that despite the positive dynamics, none of the trends, having a negative impact on the economic development and financial status of the companies, was not overcome.
First of all this refers to high dependence of our economy on run of the world raw material market. Within this framework, growing domestic demand continues to be satisfied mainly by imported products, while the industry still focuses on production of low value-added products.
However, the study indicates a gradual decrease of the natural resources role over the last two years as a "weak" positive trend. For example, a share of metallurgy industry in the 200 largest companies' revenues fell from 13.6% in 2011 down to 10.8% in 2013. However, the main role is still played by the falling commodity prices.
The leading positions, lost by the mineral companies has been taken by trading companies and banks, which share over two years has increased from 7.4% to 8.9% and from 4.1% to 5.1% respectively. As highlighted by the experts, both of them have achieved success thanks to the growing consumers’ demand. But let us put first things first.
The oil and gas industry (including the companies within the holding structures) accounts for almost 50% of the revenue in the current ranking. However, the dynamics of oil and gas industry turned out to be rather modest than across the rating, equalling to mere 2%. It is noteworthy that this figure was even smaller than the physical incremental oil production in Kazakhstan, which last year amounted to 3.3% bringing the total to 81.8 million tons. The authors of the review explained this discrepancy by the fact that the Brent crude oil average price was down by 3% last year.
The metallurgy industry’s developments were even worse. Excess capacity in the metallurgy industry of China created after the crisis of 2008, had a downward pressure on prices resulting in their drop. As a result, the overall revenues of four enterprises of the domestic steel industry decreased by 2%. The volume of sales of 12 non-ferrous metallurgy companies fell even more, by 6%. In general, only a quarter of metallurgy companies in the rating were able to demonstrate positive dynamics.
Market volatility affected the performance of agricultural industry enterprises as well. They lost 11% of revenue only over the last year. Not only external, but also internal factors had negative effect: despite the good cereal harvest of 18.2 million tonnes, grain quality turned out to be low due to adverse weather conditions. Against this background, the grain export decreased on 31%, down to 5.4 million tonnes. The result is that such major grain traders, as APK-Invest Corporation and Holding KazExportAstyk demonstrated decline in sales by 15–16%.
The power sector enterprises from the rating have also significantly reduced dynamics. There revenue growth was 7% versus 19% in 2012. According to analysts, given the fall in domestic consumption, the situation could be even worse if the surplus electricity could not be exported.
Who is Trying to Catch Up?
It is noteworthy that given these facts, 11 banks have shown good dynamics, based on the review. At year-end of 2013, their revenues have grown by an average by 21% versus 8% in 2012. The growth was driven by the consumer lending, which increased by 55%, while corporate entities have raised their borrowing only by 6%.
It appears that increased credit activity have been boosted by the ‘extremely soft’ loan terms, since in most cases borrower was not required to provide security for a loan. However, the explosive growth of consumer lending raised fears of a “credit bubble”. Therefore, new restrictions imposed by the regulator in this area may become a limiting factor for growth in 2015.
According to the rating, a very positive situation appeared last year in the automotive market, where increase was seen not only in the dealerships, but in manufacturers as well. According to the Kazakhstan's Automobile Business Association, official car sales in 2013 increased by 69%. One of the largest car dealers – the BIPEK AUTO Kazakhstan Group of companies demonstrated increase in revenue by 107%. It has sold 86,800 cars that is 76% more than the year before. At the same time, the largest car assembly plant in the country Asia Auto has increased sales by 93%. AgromashHolding is not far behind the leaders: in 2013, its revenue rose more than by 60%.
Overall performance of the automotive industry, i.e. a 47% increase of, is very impressive. However, its share in the total sales volume of 200 ranked companies looks very modest and is only 1.1%.
Construction companies also had positive results. The biggest of them have increased their turnover by 85%. BI Group has made a significant contribution to this figure, its revenue increased by 55%. As the company noted, growth driver was the road, infrastructural and industrial construction.
The dynamics of construction materials manufacturers and, above all, cement is more modest. According to the United Cement Group holding, growth in cement consumption in Kazakhstan in 2013 amounted to 14.4%. Manufacturers, which use modern, less expensive and more environmentally friendly dry mix process, managed to take advantage of favourable outlook. For example, Central Asia Cement Company that is actively developing this technology increased sales by 9%. While the industry leader, Bukhtarma Cement Company, which produces cement using the wet-mix process, showed a decline in revenue by 5%.
Best of the best
Of course, the fact that domestic mineral resource giants are still in the top ten rankings did not come as a surprise. Number one is traditionally NWF Samruk-Kazyna. In 2013, the Fund's sales grew by 7% reaching 5.04 trillion KZT, against 4.7 trillion KZT a year earlier. Despite negative price trends on the world oil market, KazMunaiGas plays a role of the main income-generating company, it accounts for more than half of the income in the mega-holding’s portfolio. During the year, KMG’s sales volume grew by 10% – up to 3.25 trillion KZT, against 2.96 trillion KZT in 2012.
Tengizchevroil firmly holds the second place in the rating. The revenue of this joint venture increased by 12% – up to 3.84 trillion KZT. Such indicators, according to experts, were made possible due to record production of 27.1 million tonnes. It is followed by Karachaganak Petroleum Operating B.V. Although the volume of KPO’s production realization in 2013 decreased by 9% from 1.19 trillion to 1.08 trillion KZT, this did not lead the company to go out of the top three.
Down the list are ENRC (+4%) and CNPC-Aktobemunaigaz (-4%), "Mangistaimunaigaz" (+1), Kazakhmys (-6), Kazzinc JSC ( -9%), JV Kazgermunai (8%), and ArcelorMittal Temirtau (-13%).
According to the authors of the study, results of the next rating are very likely to be much worse than the current ones, because as of January-August this year, the industry shows no signs of growth. Only trade, transport and communications are in positive territory. Their growth in eight months reaches 7–9%. With regard to consumer activity, it is expected to have a negative impact of February devaluation of tenge.
Difficult economic situation of our main economic partner Russia, where GDP growth is close to zero, creates additional challenges. Russian devaluation also doesn’t look too promising for Kazakhstan, it can completely neutralize the potential advantages of developing Eurasian integration. All this, in the view of the rating drafters, says that the situation in the mineral resource sector and the domestic industry will balance between stagnation and recession.
Towards new reforms
As to "the major" statements made at the Forum, first of all, speech of the Prime Minister Karim Masimov should be noted. Opening the event, he focused on the message of the President of the country, in particular on the point of need to continue the structural and administrative reforms.
Mr. Masimov stressed that any reform, including structural one, can fail, if the people, who implement it, are not adequately responsive to the current moment. "Even the best idea can be ruined, if the control system is built in an improper manner." In this regard the Prime Minister recalled that in the middle of this year, the head of the state took decision to reform the government and redistribute functions among the centre and the regions.
The Prime Minister explained the decision to allocate additional funds from the National Fund in the next three years. "In a period of upheaval, when the world economy starts to stagger, and many commodities prices are at the level of historical lows, we have to pursue countercyclical budgetary policy. In this regard, additional resources are allocated to boost the Kazakhstan economy, to give it new impetus.” According to Mr. Massimov, such support for the economy, as well as the continuation of structural reforms will enable Kazakhstan to "overcome the trap, create necessary climate for development of private investment in the country."
Yerbolat Dosayev, the Minister of National Economy, explained more about results and plans in the public administration. According to him, the administrative reform has two objectives. First, this is improving the efficiency and quality of public services. Above all, it is designed to reduce the state interference in business activities and create favourable conditions for operating it.
The Minister recalled that since the beginning of the reforms’ first phase 5 years have passed yet. As a result, the system of result-oriented strategic and budget planning is implemented. It is that allowed to establish a linkage between budgetary expenditures and strategic objectives of the Republic. "Today the country is at the threshold of the second stage of the reform. At this time, pilot projects start in three government bodies and one Akimat, in 2015–2016, they will be replicated in all regions. In fact, the structure of the strategic plan, which is now available in government bodies, would be subjected to transformation."
As a result, all targets will be integrated into budget programs: “Each amount allocated in the budget will be approved. The money will be used to achieve a certain goal.
So, at the end of the year, every administrator, who works at the central or regional level, will be responsible for achieving certain ends. Indeed, it is on implementation of the principle of corporate governance – KPI that is now in the process of implementation in order to improve efficiency.” The second step, according to the Minister, will be establishment of a system for annual evaluation of government bodies activities. We remind that this work was started as early as in 2010.
With regard to improvement of public services quality, the Government's main task will be the maximum "approximation" to the consumers and satisfaction of their needs. "Today, under the adopted law “On Public Services” a registry has been formed, it includes over 700 points in different fields of human activity. And the number of services provided through Public Service Centers in electronic form was more than 50%,” said Mr. Dossayev.
Reduce, impossible to reserve
Ruslan Dalenov, Vice Minister of Finance, raised an issue of a new wave of privatisation and degree of the state intervention in the economy. According to him, at present the number of companies operating in the country is about 226,000. 6,000 of them are in state ownership in the form of state-run enterprises, joint-stock companies or limited partnerships.
"From the point of view of macrostatistics - it's not much, but at the level of an individual enterprise, particularly small or medium sized business, this is excessive. If we add here indirect participation of the government through holding companies, the number will reach about 9,000. These state enterprises are concentrated mainly in the same industries and markets, as private companies. However, they get public contracts and state tasks. Many of them in such a way overlap private business access to the budgetary funds.”
As an illustration of this state of affairs, he mentions the activities of 850 companies that should be passed to the competitive environment in the course of the second wave of privatization. "After 2013, they received orders from the state budget amounted to 25 billion KZT in the form of state tasks, without competition. In other words, the private business could not compete in such conditions, it was not even accorded the right."
To the end that SMEs could contribute to implementation of the concept of Kazakhstan being among the 30 most developed countries in the world, the government intends to implement the principles of "yellow pages", which are intended to limit government involvement in areas where business works. "Today a bill has already been drafted that reflects three fundamental postulates. First, it is necessary to limit the state in establishing new state-owned companies and affiliated branches. Second, it is necessary to privatize those state-owned companies, which have already been established and operate in a competitive environment contrary to logic. Third, it is necessary to significantly strengthen the competition authority and antitrust law as a whole."
However, Mr. Dalenov noted that there are areas where State presence cannot be excluded. “Firstly, this is an activity in strategically important industries, which provide the security of the state. And the second is participation in implementation of state programmes. In other cases, the government should gradually go away, including through different mechanisms of public-private partnership."
Who Works Well in Kazakhstan?
And although initiatives on reforming voiced by officials leave a positive impression, however, judging by the statements made by entrepreneurs, the business reality is very significantly different from the official estimates.
According to Eldar Abdrazakov, the Chairman of the Board of Directors of Centras Capital, the current problems are inherited from the Soviet period. “Today 40 companies provide about 80% of the primary GDP. State holdings are multi-tiered conglomerates established on the basis of Soviet industrial monopolies.
High turnover and a short-term approach of officials, unfortunately, reduces interaction with the private sector. The rock-bottom price principle resulted in dumping seen for a long time, and the state was not engaged in the problem. This has led to competency lowering in the economy, weak capitalization of private sector firms and low competitiveness of domestic business."
Among the major problems of the economy, the speaker mentioned instability of the regulatory framework, blurred border between the public and private businesses, high concentration, weak market institutions, low level of capitalization, lack of business experience and the lack of regional expansion capacity.
Speaking about the principles that would create a healthy atmosphere in business, Mr. Abdrazakov noted that the government should first of all be equidistant from both the public and quasi-public enterprises, and private companies.
Secondly, it is necessary that the state in its business activities "strictly expresses" its own interests for a more transparent and predictable pricing. "We would like to limit price competition on the labour market, because it's no secret that during the last three years, the inflation driver were salaries of state-owned companies. It is known that in Astana, which is not very much focused on business and where there are most of the government officials, the average salary today is 30% higher than in Almaty. Unfortunately, this is the most difficult thing in the economy, which is difficult to put back in its place."
Third, the judicial system should not automatically take the state’s position in dispute settlements, but to adhere to the principle of justice. "The rule of market funding should work, with at least 30% of capitalization of quasi-governmental sector was formed in capital markets, in local markets. Due to this, there would be a clear understanding of difference between the funding of public and private companies."
No Trust, No Efficiency
Yergali Beghimbetov, the Chairman of the Board of the insurance company London-Almaty, was more categorical about the relations between the state and business. He noted that in the private sector, level of corporate culture defines the future of a company itself, because this is its competitive advantage. However, in the case of the public domain, this scheme works a little bit differently, "because here the corporate culture already has an impact not on a public authority itself, but on the whole country."
In his view, it is quite difficult today to evaluate success of a state reform. "Sometimes you read some government programmes and look at goals specified there. They are absolutely incalculable, and therefore you never really define if you achieved this goal or not. This is beneficial for someone, because they can avoid punishment."
He also questioned the statement of Mr. Dossayev that today interaction between business and the state is a two-way street. This will be possible only if officials will first implement the laws,which they adopt. "Unfortunately, the public authority as the highest phenomenon in the state hierarchy, holds a higher position than business. It sets the rules of the game. And if the government wants business and the people to trust it, it first must trust business and the people."
Referring to the study of the American philosopher Francis Fukuyama, Mr. Beghimbetov recalled that a level of economic efficiency determines a degree of trust. However, in Kazakhstan it remains extremely low. "All the programmes, which we develop, and the money we allocate for this, disappears like water in sand. And it seems to me that the first thing that the authorities need to do is improvement of its management quality, transparency of decision-making and confidence level. If this begins to increase, then economic efficiency also will begin to rise in the whole country."
The speaker also called principles of management in the public authorities and business as one of the key problems of efficiency in Kazakhstan, they, in his view, correspond to command-and-control approach. "The Government and 99% of companies are built on a rigid hierarchy basis. Under such a system purposes substitution is inevitable. Satisfaction of consumers is neglected in favour of satisfaction of hierarchy, together with intended misrepresentation of information to avoid responsibility. The hierarchy gives rise to fear, and fear leads to lies."
Another problem, which arises from the command-and-control management system, is an interpretation of articles of the law. When hierarchy is rigid, a misleading appears that in case of misinterpretation of the law, the authorities are not liable for damage and loss.
"And actually, a court never imposes a penalty on a government body. This is very destructive. In these conditions the public authority suffers the biggest loss. The loss of drop in the entrepreneurial spirit and interest, reduction of the tax base and therefore revenue. In addition, it is followed by decline in production and rising imports. And the most important thing is the brain drain and intellectual capacity loss. Entrepreneurs in this behaviour of authorities towards them cease to associate their future with their country. They start earning money in Kazakhstan, and spending abroad. This inevitably leads to deliberate tax evasion."
What prevents us from being closer to the West?
Opinions of foreign investors could be inferred by the statement made by Kenneth Mak, the President of the American Chamber of Commerce. Casually mentioning the achievements of Kazakhstan, as well as the positive assessments that the US State Department and the World Bank give to our economic development and of investment environment, Mr. Mak more focused on the existing problems.
As major challenges preventing economical and political integration with the West countries, he called the “poor rule of law environment”. The speaker listed the indicators, on which the UN defines how developed and systematic is observance of such a principle in a country. First, judges are independent and non-influenceable to the other branches of government. Second, civil servants and private persons are equal under the law. Third, officials apply laws equally to all citizens and companies, and consciously avoid arbitrary decisions and actions. Fourth, citizens and companies can reasonably determine whether actions are be lawful or not.
Taking into consideration these indicators, the members of the American Chamber of Commerce "do not see a strong ethics” in relation to the rule of law in Kazakhstan. "They believe that judges have a preference for public authorities, that accounting and other errors are wrongly translated into criminal cases. And therefore they cannot predict whether their actions are considered to be legal. "
Foreign companies account the rule of law as the main factor of improving the investment climate in Kazakhstan. According to Mr. Mak, the OECD is of the same mind: it is this issue, which is considered to be the core one in the course of negotiations with potential members (our country is also among them) on their joining the organization.
In this regard, the American Chamber of Commerce recommends that the government take measures to strengthen the rule of law, attaching it importance of the same or more priority than PR companies to attract investment in Kazakhstan. "The lack of independence in matters affecting interests of the state, was the hallmark of the Soviet system, and it is required to take concerted actions in order to get away from that heritage," – the expert said.