European Development Bank: Economic Fallout Likely For Central Asia

Moscow will be looking to minimize a bumpy fiscal ride ahead for its Central Asian trade partners, while China can also lend a hand. 

Central Asian economies can expect ‘significant collateral damage’ resulting from the war on Ukraine and international sanctions on Russia, the Regional Economic Outlook of European Development Bank has said in a fiscal report.

The region will be negatively affected through five main channels, the report said.

First, remittances are a major source of income and foreign currency earnings for Central Asian economies (31% of GDP in Kyrgyzstan, 26.7% in Tajikistan and 11.4% in Uzbekistan). Russia is a major source of this, mainly through seasonal labour remitting capital back home, and accounts for more than 50% of the total received in the first nine months of 2021 by Tajikistan and Uzbekistan, and more than 80% of the total received by Kyrgyzstan. However, the 2022 harvest has not yet begun and results in this sector may improve should the Ukraine conflict be resolved. Labour will still be required whatever the circumstances.

Second, uncertainty is affecting investment and job creation. Domestic labour markets may be slow to create new jobs because of major uncertainty affecting investment (as already reported by EBRD clients). Both Kazakhstan and Kyrgyzstan are still recovering from recent political upheavals, and labour market pressures may have implications for their continued political stability.

Third, returning migrants may put strain on labour markets. If Russia enters a protracted Ukraine crisis, many Central Asian countries will see migrant workers (typically menial work such as restaurant waiters, street cleaners and taxi drivers) returning to the region, putting pressure on wages and increasing competition in the low qualification segment of each Central Asian labour market. Such pressures may be particularly acute in Uzbekistan and Tajikistan due to their migrant workers being concentrated in the Russian construction industry (Russian-speaking Kyrgyz migrants are mostly employed in the Russian services industry).

On the other hand, the inflow of Russian, Belarusian and Ukrainian migrants to Central Asia may provide the region’s knowledge-intensive sectors with a strong impetus given that many of these migrants are entrepreneurs, developers, and digital nomads.

Fourth, increased energy prices will negatively affect net energy importers – Kyrgyzstan and Tajikistan. Kazakhstan, Mongolia, Turkmenistan, and Uzbekistan, on the other hand, will reap significant benefits. Elevated prices for gold, ferrous and non-ferrous metals will be a major compensating factor for all Central Asian economies.

Finally, supply chain disruptions will affect all Central Asian countries, but will be particularly acute for countries with the highest share of transit trade through Russia, such as Kazakhstan and Mongolia. Lingering Covid-19 restrictions on the Chinese border will be an aggravating factor. Turkey will likely emerge as a major regional distribution hub serving Western, South Korean, and Japanese companies, resulting in additional transport and logistics costs.

Russia’s share in Central Asia’s imports is substantial, ranging from 42%for Kazakhstan to 21% for Turkmenistan. Central Asian economies will also face devaluation and higher global commodity prices to inflation. The first weeks of the Ukraine crisis resulted in most of Central Asia’s national currencies losing value (by about 20% in Kyrgyzstan, and Kazakhstan, by 15% in Tajikistan and by 7% in Uzbekistan) – despite increased policy rates and market interventions by their respective Central Banks. Some of these early losses have however been erased in more recent days, in sync with the Russian ruble also recovering in value.

A major drop in remittances is one immediate cause of this turbulence (Tajikistan officially reported a 75% drop in the value of remittances received in the first 10 days of March 2022, impacting their supply of foreign currency liquidity).

Another issue is the dependence on Russian banks for the supply of physical hard currency cash and correspondent bank accounts (for example, 75% of all correspondent accounts held by Tajikistan’s financial credit institutions are held with Russian banks). The pass-through from currency devaluation to inflation is likely to be significant given that imports account for a very large share of consumption across Central Asia (for instance, 60% in Tajikistan).

Most Central Asian economies could struggle with a spike in food and consumer good prices. Major producers of wheat, such as Kazakhstan and Uzbekistan will seek to constrain price increases by setting export quotas. Importers will have no choice but to subsidize basic food commodities, straining fiscal balances. Increased fertilizer costs are expected to impact agricultural productivity and the prices of domestically produced foods, although tellingly, Moscow yesterday announced it had increased production and dismissed export tariffs.

Kyrgyzstan, bordering China, has additional resources because of this as its economy is more China focused. In January 2022, the country introduced sweeping tax and custom administration reforms, which are expected to reduce illicit trade and informal economic activity. China’s trade statistics since have shown an excess of US$5-6 billion in Chinese exports to the country (equivalent to 70-80% cent of GDP) more than the officially reported Kyrgyz data.

Assuming the on-going reforms are at least partially successful in curbing smuggling activities, Kyrgyzstan will see significant gains in fiscal revenues and official GDP statistics over the next few years (although paradoxically, the impact on actual income may be negative due reduced trade volumes).

Another special case is Turkmenistan, which is in a position to reap the benefits of its ‘splendid isolation’, immense energy reserves, strict rationing of access to hard currency, and its transportation-friendly location on the Caspian Sea.

It should be noted that the EBD is a European Union institution and it lacks initial fist hand insights into Central Asia. As we noted above, concerns about fertilizer imports have already been mitigated by Russia. Balanced against the EDB report must be the reality that the Central Asia states are closer to Moscow than the EDB are and that further mitigating movements against damaging Central Asia’s economies cannot be ruled out. All except Turkmenistan are members of the Commonwealth of Independent States (CIS) whose Financial Ministers are in daily contact with Moscow, while Kazakhstan and Kyrgyzstan are members of the Eurasian Economic Union, which is part of a free trade bloc with Russia. China may also help smooth over some of the fiscal pain with financing related to the numerous Central Asian Belt and Road Initiative projects.

Related Reading

• Russia’s Pivot To Asia – Central Asia
• The China-Central Asia Conference: Analysis