Georgia Gap Analysis Europe and Eurasia Bureau (E&E), USAID February 2015

Highlights

Reform Overview. Georgia is more advanced in economic and democratic reforms than all other Eurasian countries. Nevertheless, it still has far to go to attain the phase-out reform thresholds, particularly in democratic reforms. In contrast to most Europe and Eurasia (E&E) countries, Georgia’s combined economic and democratic reform trajectory is positive; i.e., is moving towards the phase-out reform thresholds, albeit gradually.

Macro and microeconomic reforms.  Georgia is much more advanced in first stage macroeconomic reforms (more advanced than the average progress of the Bulgaria, Croatia, and Romania in 2006 threshold) than in second stage reforms (where Georgia is only slightly more advanced than the E&E Eurasia average). Georgia leads the E&E region and is ranked 15thout of 189 countries worldwide in terms of its investment climate (or microeconomic reforms).

Democratic reforms.  Georgia leads the E&E Eurasia region in democratic reform progress in 2014, and it is the only country of the group of seven which has not experienced a net deterioration in democratic reforms since 1996.  Notable democratic reform progress in Georgia since 2008 has been attributable to gains in independent media, anti-corruption, the electoral process, and public governance, despite some erosion in rule of law in 2010.

Macroeconomic performance. Georgia’s economy has been expanding at an average annual rate of almost 6% since 2010. This is a rate that is moderately higher than the economic growth rate of all seven Eurasian energy importers and a rate which has notably outperformed Russia’s economy, supporting evidence that economic linkages between Georgia and Russia continue to weaken. Recent trends in Georgia’s economic integration in the world are on balance quite favorable. Georgia’s export sector relative to GDP has virtually doubled since 2000.  Foreign direct investment has remained quite high, more than 5% of GDP in recent years, and these inflows have contributed to financing much of the current account deficits, which have been substantial though declining in very recent years. Natural resource exports in Georgia have fallen from around 25% of all merchandise exports in 1996 to only 10% in 2013.  Georgia has also substantially reduced its dependence on the Russian market for its exports, from 30% of total exports going to Russia in 1995 to around 2% by 2011. Georgia’s financial sector is small by E&E standards and very small by Western Europe standards, and Georgia’s financial sector is slightly less stable than the E&E average.

Human Capital. The unemployment rate in Georgia has remained in the double-digits since at least 2000, and it is likely higher today (15% in 2013) than what it was in 2000 (10%). Remittance inflows into Georgia’s economy are very significant, and have provided a safety net for many households as well as very likely a disincentive to search for employment. Public education expenditure as a percent of GDP is low in Georgia, around 3% of GDP, and, the quality of Georgia’s education system may also be relatively low, at least by OECD standards.  Life expectancy in Georgia is seventy-four years, higher than the E&E Eurasia average of seventy-two years, though well below the OECD average of eighty years. Life expectancy in Georgia has been steadily increasing since 1995.

Country Data Analytics global dataset. Two salient observations emerge from Georgia’s development trends as shown in the six Country Data Analytics indices that have been developed by E&E’s Monitoring Country Progress team in concert with the State Department’s Office of U.S. Foreign Assistance Resources (F). One, Georgia been advancing virtually across the board since the global financial crisis; i.e., is witnessing broad-based development. Since 2009, Georgia has progressed most notably in economic policy and in democracy, human rights and governance, and to a lesser extent in health, followed by education, and peace and security.  Economic performance has regressed slightly in Georgia from 2009 to 2013. Two, progress across the dimensions is clustered into two groups: economic policy, health, and education are notably more advanced in Georgia than are democracy, peace and security, and economic performance. Relative to E&E standards, most of Georgia’s gaps are found in peace and security followed by economic performance.

Introduction. This analysis draws on E&E’s Monitoring Country Progress (MCP) empirical system.  Primary data sources include the EBRD, Transition Report (November 2014), Freedom House, Nations in Transit (June 2014), World Bank, Doing Business (October 2014), World Bank, World Development Indicators (2015, online), the International Monetary Fund (IMF), World Economic Outlook (October 2014), the IMF, Georgia, IMF Country Report (January 2015), and Country Data Analytics (CDA), 2015 CDA Dataset.[1]

Reform Overview (Figures 1-3). Georgia is more advanced in economic and democratic reforms than all other Eurasian countries (Figure 1).[2]Nevertheless, it still has far to go to attain the phase-out reform thresholds (of average reform progress in Bulgaria, Croatia, and Romania in 2006), particularly in democratic reforms. Georgia also lags behind reform progress of most of the Balkan countries, and again particularly in democratic reforms. Figure 2 shows the components of the macroeconomic reform and democratic reform indices of Figure 1.  In each reform dimension, Georgia’s progress (in red) is compared to the progress of the eleven E&E graduate countries (in blue).  Georgia’s first stage macroeconomic reforms (trade liberalization, price liberalization, small and large-scale privatization) are largely complete and comparable to E&E graduate country standards in all except small-scale privatization. In second stage macroeconomic reforms and in democratic reforms, Georgia’s gaps vis-à-vis the E&E graduates are substantial, most notably in non-bank financial reforms, competition policy, and enterprise restructuring or governance in economic reforms, and in local and national public governance and rule of law in democratic reforms.

Georgia’s reform trajectory (combining both economic and democratic reform trends as is shown in Figure 3) is positive; i.e., approaching the combined phase-out threshold, albeit gradually. The trajectory is calculated by extrapolating the economic and democratic reform annual average trend of the most recent five years of available data (i.e., from 2009-2013). Most E&E countries do not have a positive reform trajectory.

Economic reforms, macro and micro (Figures 4-9). As with much of E&E, progress in macroeconomic reforms in the E&E Eurasia region has largely been stagnant, or modest at best, since 2008-2009 (i.e., since the global financial crisis) (Figure 4). Figure 4 shows Georgia out front of the E&E Eurasian countries in macroeconomic reforms, though moving forward very slowly. Figures 5 and 6 disaggregate these reforms into first and second stage macroeconomic reforms. These charts highlight that Georgia had made relatively good progress in macroeconomic reforms following the “Rose Revolution” in November 2003 through 2009.  Figures 5 and 6 also underscore that Georgia is much more advanced in first stage macroeconomic reforms (more advanced than the phase-out standard of average progress in Bulgaria, Croatia, and Romania in 2006) than in second stage reforms (where Georgia is only slightly more advanced than the E&E Eurasia average).

Reform gains are not always adequately captured in the data as is evident in the EBRD’s qualitative analysis of Georgia’s structural reform developments in 2014 (EBRD, Transition Report, November 2014). As noted in the EBRD narrative, Georgia signed an Association Agreement, including a Deep and Comprehensive Free Trade Area or DCFTA, with the EU in June 2014. Stemming from this agreement, priority is being given to reforms in public administration, agriculture, rural development, and the judicial system. According to the EBRD, Moody’s changed the outlook on Georgia’s Ba3 sovereign rating to positive from stable in August 2014, driven by the expectations that the DCFTA will attract further foreign direct investment and bolster the country’s export performance. The government of Georgia also approved the Georgia 2020 Socio-economic Development Strategy in June 2014, which is to have a focus on maintaining a stable macroeconomic environment and strengthening human capital (health, education, and social safety nets). In addition: (1) new amendments to the law on free trade and competition were adopted in March 2014; (2) reforms in the agricultural sector have been passed (July 2014); (3) further efforts have been made to promote local currency lending and to reduce dollarization; and (4) the electricity regulatory authority approved the new Transmission Grid Code in April 2014. (EBRD, Transition Report—Georgia, November 2014).

Georgia leads the E&E region and is ranked 15th out of 189 countries worldwide in terms of its investment climate (or microeconomic reforms) as measured by the World Bank’s Doing Business dataset (Figure 7). Georgia has been in the top ten percentile rank across the globe since at least 2009 (Figure 8). Substantial microeconomic reforms gains in Georgia occurred in the immediate years following the 2003 Rose Revolution.[3] The World Bank’s Doing Business measures ten aspects of the business environment. Georgia ranks much better than the global average in nine of the ten aspects; i.e., in all but resolving insolvency (where it ranks 122).  Georgia ranks first in registering property, third in dealing with construction permits, fifth in starting a business, seventh in getting credit, twenty-third in enforcing contracts, thirty-third in trading across borders, thirty-seventh in getting electricity, thirty-eighth in paying taxes, and forty-third inprotecting minority investors. As suggested in Figure 9, energy sector reforms remain a major challenge in the E&E region; getting electricity(obviously but one dimension of energy security and efficiency) is one of the lagging business environment aspects in E&E.[4]  However, getting electricity is less problematic in Georgia than in all E&E countries with the exception of Slovenia, and, similarly, Georgia lags less on getting electricityrelative to its overall business environment (reflected in Figure 8) as compared to the E&E norm.

Democratic reforms (Figures 10 and 11). Georgia compares favorably to E&E Eurasia norms in terms of both level and trends over time in democratic reforms (Figure 10). Georgia leads the E&E Eurasia region in democratic reform progress in 2014,[5] and it is the only country of the group of seven which has not experienced a net deterioration in democratic reforms since 1996 (which is the first year in which this Nations in Transitdataset from Freedom House became available). In contrast to most E&E Eurasia countries, democratic reforms in Georgia have been advancing in recent years, since 2008. Figure 11 highlights the trends in the democratic reform components in Georgia since 1996, and shows that progress since 2008 has been attributable to gains in independent media, anti-corruption, the electoral process, and governance (which combines local and national governance since Freedom House did not disaggregate the two in earlier years), despite some erosion in rule of law in 2010. Figure 11 also displays significant variability in the trends in all of the democratic reform components in Georgia since 1996; i.e., all components have witnessed advances and regressions, most notably in the case of the electoral process.

Macroeconomic performance (Figures 12-22). Georgia’s economy has been expanding at an average annual rate of almost 6% since 2010 (Figure 12). This is a rate that is moderately higher than the economic growth rate of all seven Eurasian energy importers (of which Georgia is a part; also, included is Armenia, Belarus, Moldova, Kyrgyzstan, Tajikistan, and Ukraine). However, as is a general trend throughout E&E, Georgia’s post-global financial crisis economic growth rate has been lower than economic growth in the years leading up to the crisis; from 2004 to 2007, Georgia’s economy expanded  annually by over 9% on average.

The growth of Georgia’s economy has consistently exceeded the growth of Russia’s economy since 2010 (Figure 13). In 2014, Georgia’s economy expanded by 5%, while Russia’s economy experienced no growth, supporting evidence from additional data on trade and remittances (highlighted below) that economic linkages between the two countries continue to weaken.

Figure 14 provides the long view of economic growth and contraction in Georgia and elsewhere in E&E Eurasia since the fall of the Berlin Wall. First the caveat: the transition depression is likely overstated in these trends (given the overvaluation of goods and services under communism) and the subsequent recovery and growth from the economic depressions in the 1990s is likely understated (to the extent that informal economic activity is not being captured).  Nevertheless, and in that context, the pattern of economic output in Georgia as depicted in Figure 14 is striking, characterized by the largest collapse in economic output in the 1990s among the E&E Eurasia countries and an economy which, by these data, remains smaller today than what it was in 1989. Such a dismal economic performance over the years (notwithstanding relatively high economic growth in more recent years) has contributed to Georgia remaining one of the poorest countries in E&E, with a per capita gross national income that surpasses only four of the twenty-eight other transition economies, namely, Tajikistan, Kyrgyz Republic, Moldova, and Uzbekistan (Figure 15).

Recent trends in Georgia’s economic integration in the world are on balance quite favorable (Figures 16-20). Georgia’s export sector relative to GDP has virtually doubled since 2000, from 23% of GDP in 2000 to 45% of GDP in 2013, much of the increase has occurred since the global financial crisis (Figure 16). Current account deficits as a percent of GDP have been chronic and large since 2000, often in the double-digits. However, more recent years have seen a more favorable trend in these deficits, from 6% of GDP in 2013 to closer to 8% in 2014.  Moreover, foreign direct investment has remained quite high, more than 5% of GDP in recent years, and these inflows have contributed to financing much of the deficits.  More problematic is the significant increase in external debt during the global financial crisis (Figure 17).  External debt as a percent of GDP increased from around 30% in 2007 to 80% in 2009, a level that has been roughly maintained since 2009.

Many Eurasian countries are highly dependent, and increasingly so, on natural resource exports (such as oil and gas and/or metals and minerals), and hence are vulnerable to wide price fluctuations and, more fundamentally, narrow-based economic growth.[6] Georgia is not one of those countries. Natural resource exports in Georgia have fallen from around 25% of all merchandise exports in 1996 to only 10% in 2013 (Figure 18).  Georgia has also substantially reduced its dependence on the Russian market for its exports, from 30% of total exports going to Russia in 1995 to around 2% in 2011 (Figure 19).  Georgia’s exports are very diversified in terms of trade partners (Figure 20). Of the seven E&E Eurasian countries, Georgia has the lowest proportion of exports going to both Russia and the EU-27 (close to 20%).[7]  Georgia’s exports to other E&E Eurasian countries have increased significantly since 2004, by 2011 close to 40% of total exports.  Georgia’s exports to the rest of the world are similarly high, also around 40%.

Georgia’s financial sector is small by E&E standards and very small by Western Europe standards (Figure 21). Four measures of financial sector size are combined to provide the results of Figure 21: bank deposits; domestic credit to the private sector; stock market capitalization; and insurance premiums, all as a percent of GDP.  Figure 22 provides the trends over time in Georgia and elsewhere in E&E for one of those components, namely domestic credit as percent of GDP. Domestic credit in Georgia has grown substantially since the mid-2000s, though, at 40% of GDP, remains small by most standards; in the E&E graduates, domestic credit is 60% of GDP on average.  In most OECD countries, domestic credit to the private sector is well over 100% of GDP; in the U.S., it is 192%.

Georgia’s financial sector is slightly below E&E average in terms of its stability (Figure 21).  Financial sector stability in Figure 21 is measured drawing on nine indicators which include banks’ capital adequacy ratio, banks’ non-performing loans and provisions to those loans, banks’ return on assets, foreign exchange loans as % of total loans and foreign currency-denominated liabilities to total liabilities. According to a recent IMF assessment of Georgia’s financial sector,[8] Georgia’s banking sector is relatively resilient, though capital and liquidity buffers need to be strengthened, and there are some weaknesses among small banks. Nonperforming loans, at 3.6% of total loans, are low, and the asset-to-equity ratio, at around six, is strong.  However, banking system vulnerabilities exist because: (1) with almost 60% of loans in foreign currency, banks are exposed to significant currency-induced credit risk; (2) more than one third of their balance sheet is funded externally, making them susceptible to volatility in international markets; and (3) about half of all loans are collateralized by real estate.

Human capital (Figures 23-27). The unemployment rate in Georgia has remained in the double-digits since at least 2000 (Figure 23), and it is likely higher today than what it was in 2000 (15% in 2013, latest data available vs. 10% in 2000). Of the E&E Eurasia countries, only Armenia has a higher unemployment rate than does Georgia. Georgia, as well as Armenia, has very significant remittance inflows (Figure 24), which have provided a safety net for many households as well as very likely a disincentive to search for employment or at least a means to be more selective in one’s employment choices and timing. Figure 24 shows a fairly strong positive correlation between remittance flows and unemployment rates in the E&E countries where unemployment rates and remittances are the highest; i.e., in the Balkans and Georgia and Armenia. World Bank data show a steady increase in remittance flows in Georgia since 2004 (Figure 25). According to IMF estimates, slightly more than 50% of the remittances come from Russia and slightly more than 20% come from Greece and Italy combined (IMF, January 2015, p. 19).

Public education expenditure as a percent of GDP is low in Georgia, around 3% of GDP, and, the quality of Georgia’s education system may also be relatively low, at least by OECD standards. Figure 26 shows the results of the standardized tests conducted by the OECD (the Program for International Assessment or PISA) conducted in 2012. The PISA survey includes the testing of math, reading, science, and problem solving among high school students. With the OECD average standardized at 100, Georgia’s students scored a 90, comparable to scores found in Bosnia-Herzegovina and Serbia.

Life expectancy in Georgia is seventy four years, better than E&E Eurasia average (of 72 years), well below OECD average (of 80 years) (Figure 27). After a period of no change in the early 1990s, life expectancy in Georgia has been steadily increasing since 1995.

Country Data Analytics (Figures 28-33).  The E&E Bureau’s Monitoring Country Progress team has partnered with the Office of U.S. Foreign Assistance Resources (F) to create Country Data Analytics and a global dataset. Six indices have been developed in an effort to measure country progress along five thematic areas: (1) economic development (economic policy and macroeconomic performance); (2) democracy, human rights, and governance; (3) health; (4) education; and (5) peace and security. CDA is currently unveiling a seventh set of measures related to humanitarian disasters; not shown here.

Figure 28 shows the trends of these six indices in the case of Georgia, andFigures 29 and 30 show the composition of the dimensions and progress of each in the case of Georgia (in red) vs. E&E (in blue). Two salient observations emerge from the trends in Figure 28. One, Georgia been advancing virtually across the board since the global financial crisis; witnessing broad-based development. Since 2009, Georgia has progressed most notably in economic policy and in democracy, human rights and governance, and to a lesser extent in health, followed by education and peace and security; economic performance has regressed slightly in Georgia from 2009 to 2013. Two, progress across the dimensions is clustered into two groups: economic policy, health, and education are notably more advanced in Georgia than are democracy, peace and security, and economic performance. Relative to E&E standards, Figures 29 and 30show that most of Georgia’s gaps are found in peace and security (six gaps) followed by economic performance (three gaps).  Figures 31-33provide further elaboration of the CDA’s peace and security measures and Georgia’s performance by those measures. Out of 174 countries, Georgia ranks 117 in peace and security, well below the global average (Figure 31). In 2013, Georgia and Turkey had the least peaceful and security environments of all the E&E countries (Figure 32).  2014 scores will very likely include Ukraine at or near the bottom.  Figure 33 is a view of the six primary components that go into the peace and security index, and the nineteen indicators (two are used twice) that make up the six primary components.

 

[1] Country Data Analytics (CDA) is a partnership between USAID/E&E’s Monitoring Country Progress team and the Office of U.S. Foreign Assistance Resources (F).

[2] The Eurasian countries consist of the seven “E&E Eurasian” countries (i.e., Russia plus the Eurasian countries which are part of the E&E Bureau, namely Armenia, Azerbaijan, Belarus, Georgia, Moldova, and Ukraine) as well the five Central Asian Republics. The Balkan countries consist of Albania, Bosnia-Herzegovina, Kosovo, Macedonia, Montenegro, and Serbia. The “E&E Graduates” (i.e., those which have graduated and/or been phased out from USG development assistance) include Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia, and Slovenia.

[3] For an examination of the role of the “Rose Revolution” on Georgia’s economic and political transition landscape, and a comparison with Ukraine’s “Orange Revolution” and Moldova’s “Twitter Revolution”, see Program Office, E&E Bureau, Critical Junctures and Political Change in Georgia, Ukraine, and Moldova (April 30, 2014), available upon request.

[4] Getting electricity measures the efficiency of the process for obtaining an electricity connection for a standard warehouse, as reflected in the procedures, time, and cost required. This measure is intended to be a proxy for overall efficiency of the electricity sector.

[5] Democratic reforms in 2014 are calculated by drawing on the most recent (2014) data found in Freedom House’s Freedom in the World. These data are used as placeholders until the more nuanced Freedom House data from its Nations in Transit become available in June.

[6] Program Office, E&E Bureau, Monitoring Country Progress in Eastern Europe & Eurasia (January 11, 2015).

[7] For elaboration, see Program Office, E&E Bureau, Selected Issues of Country Trends in Eastern Europe & Eurasia (April 2013), available upon request.

[8] IMF, Georgia, IMF Country Report (January 2015), p. 10.