External Shocks Hurt Growth in Caucasus, Central Asia

Oil price drop, Russia’s recession continue to weigh on growth

Inflation and financial sector vulnerabilities have increased

Shocks underscore the urgency of reducing reliance on commodities, remittances

The IMF’s Regional Economic Outlook Update for the Middle East and Central Asia, released on April 25, predicts growth in the CCA region to decline to 1.2 percent in 2016 (see table). This is a sharp drop from the 3 percent growth rate the region experienced last year, and much weaker than the 8.3 percent average in 2000-14.

These large and persistent external shocks have exposed vulnerabilities in the CCA economies. Although currency weakening and fiscal easing have helped mitigate the impact of these shocks, inflation and financial sector vulnerabilities have risen.

Shocks diminishing growth prospects

The challenging external environment of low oil prices, which are projected to average around $35 a barrel in 2016, and Russia’s deteriorating outlook, have significantly affected the CCA’s growth prospects through a number of channels, including reduced trade, remittances, and overall investment to the region.

China’s slowdown is also expected to weaken external demand—both directly, as the region has seen its share of exports to China increase sharply in the past decade, and indirectly, through other commodity prices and investor confidence.

Therefore, the CCA’s oil-exporting countries—Azerbaijan, Kazakhstan, Turkmenistan, and Uzbekistan—will see growth decline to 1.1 percent this year, down from 3.2 percent in 2015. For the oil importers—Armenia, Georgia, the Kyrgyz Republic, and Tajikistan—growth will slow to 2.6 percent this year, down from 3 percent in 2015.

External balances face lower oil prices, exports, and remittances

For the CCA oil exporters, the weakening in oil prices has had a significant impact on export revenues. As a result, the combined current account deficit is projected to widen to 4 percent this year, from 2.7 percent last year, says the IMF.

Lower oil prices are also hurting the CCA’s oil importers through their close linkages with Russia, a key trading partner and significant source of remittances, especially for Armenia, the Kyrgyz Republic, and Tajikistan. For these countries, the sharp drop in remittances is erasing the positive economic gains from lower oil prices (see Chart 1). As a result, the current account deficit for CCA’s oil importers is set to remain high at 9.6 percent of GDP this year.

Lower...