Like many countries, Tajikistan was caught off guard by the economic storm sweeping the world and has limited scope to respond to the crisis. The Central Asian country, located to the west of China and the north of Afghanistan, lacks natural resources, except for a largely untapped hydropower potential. With no access to international capital markets, Tajikistan relies almost exclusively on concessional financial assistance from international financial institutions and bilateral donors.

The IMF loan, extended under the Poverty Reduction and Growth Facility, supports the Tajik authorities’ economic program for 2009-12 and paves the way for about US$70 million to be disbursed to the country this year.

Strong 2008 performance

Before the crisis struck, Tajikistan was in a relatively strong position. Real GDP growth reached 8 percent in 2008, driven mainly by a 50 percent surge in remittances. Headline inflation receded from its mid-year peak to 11 percent year-on-year in December 2008, helped by the retrenchment in international commodity prices. With buoyant activity, revenue collection was strong, and the government achieved a fiscal surplus of more than 1 percent of GDP, excluding externally financed investment. Public debt declined to 29 percent of GDP. At the same time, the National Bank of Tajikistan was able to increase the reserve coverage ratio (though it still reached only 1.3 months of imports). All in all, macroeconomic conditions had stabilized, and the authorities managed to build a small buffer for more difficult days to come.

Now, those days have arrived. The country of just over 7 million people is being severely hit by the global crisis, mainly through lower remittances, which are projected to decline by 30 percent. In recent years, remittances accounted for 40 to 50 percent of GDP in Tajikistan and constituted a de facto social safety net, providing a basic income to many poor and vulnerable households. Most Tajik migrant workers are employed in Russia, and their employment prospects are being affected by the projected contraction of activity in that country and the depreciation of the Russian ruble against the U.S. dollar in the second half of 2008.

In addition, Tajikistan’s main exports, cotton and aluminum, are suffering from the decline in global demand. In this adverse external environment, real GDP growth is likely to decline to 2 percent at best in 2009, and per capita income could fall by 6 percent in U.S. dollar terms. The only positive growth impulses are likely to come from government spending and the non-cotton agriculture sector.

The path to adjustment

The authorities’ program has two key objectives: maintaining macroeconomic stability—which mainly means reducing Tajikistan’s large external current account deficit—and restoring sustained high growth. While external adjustment is crucial, fiscal policy will also have to pay close attention to protecting poor and vulnerable households from the adverse effects of the crisis, including the decline in remittances. This is particularly important given that in 2007, 53 percent of the population lived in poverty (defined as an income of less than US$41 per month) and 17 percent in extreme poverty (less than US$26 a month), according to the World Bank.

The authorities view the exchange rate as a key instrument to bring about external adjustment. As with many other countries in the region, they have adopted a flexible exchange rate regime in response to the crisis. Since the beginning of 2009, the somoni has depreciated by 10 percent against the U.S. dollar, somewhat less than other currencies in the region. Still, the authorities expect this depreciation, combined with the decline in disposable income, to contain the external current account deficit.

Increased social spending

In the fiscal area, the authorities also face difficult decisions. With sluggish activity, revenues are likely to fall short of budget projections and decline as a share of GDP compared to last year. At the same time, the authorities have committed under the IMF program to raise social spending on transfers to households, health, and education from 7.3 percent of GDP in 2008 to 8.7 percent of GDP in 2009. To achieve its fiscal deficit target, the government has, therefore, identified some low-priority investment projects that will be delayed, and found additional savings within current expenditures. In addition, the Asian Development Bank, the European Union, and the World Bank have together pledged around US$80 million in budget support to help the government meet the most basic expenditure needs.

Tajikistan’s banking sector could also come under pressure from the crisis. With the decline in economic activity, banks have already seen a rise in nonperforming loans and expect this trend to continue in 2009. Capitalization is still high, and the central bank has stepped up supervision to ensure that prudential regulations are being implemented. The system is also suffering from chronic liquidity shortages, and the central bank is taking steps to strengthen its liquidity management framework.

Strengthening governance

Weak governance at the central bank was one of the factors that gave rise to the misreporting to the IMF that was revealed in 2007, and the authorities are committed to tackling it. To this end, they hired a reputable international auditing firm to conduct a special audit of the National Bank of Tajikistan, and recently published the report’s executive summary. The report includes specific recommendations to address the deep-rooted governance problems, and the Fund will closely monitor implementation of these recommendations under the PRGF program.

The authorities have already taken important first steps, such as submitting legal amendments to parliament that strengthen governance at the National Bank of Tajikistan and seek to prevent future conflicts of interest, conducting an external audit of the National Bank of Tajikistan’s net international reserves position as of end-2008, and appointing an external auditor for the National Bank of Tajikistan’s financial statements for this fiscal year.

Spurring growth

To strengthen Tajikistan’s growth potential, the authorities are initiating reforms in the agricultural and energy sector. The agricultural sector is held back by a debt overhang in the cotton sector resulting mainly from uncompetitive market structures. To settle the cotton debt problem, as well as strengthen the market intrastructure and end government interference in farmers’ crop choices, the government is developing an agricultural reform strategy.

In the energy sector, the authorities aim to put an end to the frequent interruptions in the electricity supply, which have stifled industrial production and are also impacting the service sector. Reforms will focus on strengthening the existing infrastructure, putting the state-owned power utility on a sound financial footing, and expanding the generation capacity. However, the government’s ability to finance new hydropower projects is constrained by a still vulnerable public debt outlook.

The success of the authorities’ program depends critically on the external environment. The authorities are monitoring developments closely and stand ready to tighten macroeconomic policies as needed. But if the global environment deteriorates further, Tajikistan may require additional donor support.