IMF, U.S. Confirm Financial Assistance to War-Torn Georgia

IMF Standing By

After visiting the country over 23 August–3 September, a mission of the International Monetary Fund (IMF) and Georgian authorities have in principle agreed on extending a financial assistance package of US$750 million for the economy, damaged in the August military conflict with Russia. The decision follows Georgia's request for financial support from the international lender, and will take the form of an 18-month stand-by arrangement. The package still needs to be approved by the IMF's Executive Board, likely to consider the package in mid-September.

The stand-by arrangement aims to mitigate adverse effects of the conflict on Georgian economic performance and financial balances, and to support the authorities in maintaining responsible macroeconomic policies. The IMF trusts that the financial assistance package will thus help in sustaining market confidence, further ensuring continued macroeconomic stability, private sector investment and economic growth.

U.S. Supports Ally

The United States also yesterday announced that it will extend at least US$1 billion in aid to Georgia, in order to help it rebuild its economy after the war. According to Reuters, the U.S. Secretary of State Condoleezza Rice expects the small Caucasian economy to "survive, rebuild and thrive" with the help of U.S. financial assistance. The multi-year aid commitment is to commence now under the current U.S. administration with a tranche of US$570 million extended to Georgia by the end of the year, while Rice trusted it will continue with the rest of the payments allocated under the next U.S. administration, no matter who takes office after the November presidential elections. Indeed, both presidential candidates, Democrat Barack Obama and Republican John McCain, have expressed their support for Georgia in the conflict.

In addition, the U.S. President George Bush yesterday urged federal agencies of the country to expand their economic aid for Georgia in order to support recovery of the economy of the NATO-aspirant. He also planned an enhanced bilateral investment treaty with Georgia as well as widening of preferential access for Georgian exports into the United States.

The confirmation of the aid package came as U.S. Vice-President Dick Cheney embarked on a tour of the former Soviet Union republics of Azerbaijan, Georgia and Ukraine, in a bid to show support for its allies after the Georgian-Russian conflict. However, U.S. officials stressed that the assistance agreement did not include any military aid.

Outlook and Implications

Financial Boost

Since the Rose Revolution of 2003, Georgia has enjoyed vast international goodwill, notably from the West. The small transition economy has striven to restructure its economy toward a functioning market system in a convincing reform drive, showing strong progress in privatisation, structural change, stabilisation and liberalisation. As long as it is willing to continue on its well-started reform path, attracting external support in the form of concessionary credits from the IMF and other international financial institutions should not be problematic.

As noted by the IMF, the very strong track record of economic reforms and responsible macroeconomic policies of recent years support hopes that Georgia will be able to firmly recover from the shock caused by the war. Indeed, the country has displayed remarkable resilience in the face of adverse external effects before, most notably in response to the export ban implemented by Russia on Georgian wine and mineral water in 2006, and the considerable price increase in imported Russian gas from the beginning of last year.

By helping to cover the external financing gap that is expected to temporarily deepen in the wake of the economic damage of the conflict, the now announced financial assistance arrangements will give an immediate boost to Georgia's liquidity ratios. Thus, the financial aid helps in supporting Georgia's sovereign creditworthiness in the near term, reducing the probability of a financial crisis. The liquidity injection will also give Georgian monetary authorities additional backing in their quest to keep the currency markets stable. The National Bank of Georgia (NBG) needed to support the exchange rate of the lari last month. Encouragingly, they were successful.

Inevitable Growth Slowdown

However, the real side of the economy is bound to feel a negative impact from the war, as already clearly demonstrated by the extensive damage to infrastructure. According to the Georgian Economic Development Minister Eka Sharashidze quoted by Reuters, the Russian offensive mainly focused on military targets, but also caused considerable damage to civilian infrastructure. Due to the negative impact of the conflict, the Georgian government has lowered its growth expectation for 2008 to 5-6%, after previously expecting double-digit growth.

Georgian growth last year topped 12%, and before the military conflict, our projection saw it slowing down to around 8% in 2008. We saw strong growth continually supported by domestic demand, with investment and consumption boosted by FDI and remittance inflows and rising fiscal spending, while the export sector has also been able to find new markets since Russia implemented the export ban. Indeed, notably trade with Azerbaijan and Turkey has recently increased. With the damage from the war, there are naturally considerable downward risks to this forecast, and we are likely to downgrade our expectation for 2008 growth to around 6% in the next forecast round.

Hefty Challenges

Even this projection may prove too optimistic, but at this stage, the total picture of the economic losses still remains blurred. Even when performing strongly, the Georgian economy in recent years has remained very dependent on external support. Important pipeline projects have boosted FDI inflows, which have been instrumental in providing non-debt-creating means for covering the wide current-account deficit. Also public finances rely on external funds, even if considerable progress also in domestic fiscal revenue collection has been made. Georgia's liquidity position would come under increasing stress should investor confidence notably deteriorate as a result of the conflict.