Policy Challenges for Armenia in the context of Recent Global and Regional Shocks

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1 Policy Challenges for Armenia in the context of Recent Global and Regional Shocks Teresa Daban Sanchez IMF Resident Representative to Armenia November, 215

2 Outline Global Environment Outlook of the CCA Region and Armenia Policy Priorities 2

3 Global Shock : Lower oil prices Brent Crude Oil Price 1 (U.S. dollars per barrel) WEO Baseline Average Oil Price 2 215: $ : $ % confidence interval 86% confidence interval 68% confidence interval Brent spot price Brent futures Sources: Bloomberg; and IMF staff calculations. 1 As of August 2, Average of WTI, Brent, and the Dubai Fateh prices. 3

4 and other key commodities Global Commodity Prices (Index Values, 25=1) Food Metals Crude oil 1/ Natural gas (Asia) 5 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Source: IMF Primary Commodity Prices database. 1/ Simple average of Brent, Dubai Fateh, and West Texas Intermediate prices. 4

5 Regional Shock: Slowdown in Russia Real growth in Russia (Percent) Average growth Current projections Source: July WEO update 5

6 Russian Ruble, U.S. Dollar, and Oil Prices (Indices, Jan. 1, 214 = 1) 12 Regional Shock: Exchange rate movements Oil Price 1/ Russia, USD/NC Index US NEER Index Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15 Sources: National authorities; Bloomberg; and IMF staff calculations. 1/ Simple average of Brent, Dubai Fateh, and West Texas Intermediate prices. 6

7 Conditions in China are changing China: Quarterly Real GDP Growth (Seasonally Adjusted YoY Percent Change) 8.2 Shanghai Stock Exchange Index (Index Values) Q1 212Q3 213Q1 213Q3 214Q1 214Q3 215Q1 15 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 7

8 while linkages between CCA region and China are growing Exports to China (Percent of Exports) Imports from China (Percent of Imports) Linkages with China Net FDI stock from China (Percent of GDP) FDI inflows from China (Percent of FDI Inflows) Debt from China (Percent of PPG Debt) ARM GEO KGZ TJK AZE na KAZ TKM 7 11 na na 3 UZB Between -.5% 11 Between 1% and 4% 1 Between.5% and 5% 5 Above 4% 6 Between 5% and 1% 8

9 Global growth: moderate and uneven World U.S. Euro Area Emerging markets China Russia Armenia

10 How these shocks are affecting Armenia and the Caucasus and Central Asian Region? Oil & gas exporters Oil & gas importers 1

11 Amid a tough external environment, economic growth slowed in 215 in the CCA region CCA Growth Rates (In Percent Change) Oil Importers Russia Oil Exporters Oil Price (USD, RHS) CCA Growth Rates by Country (In Percent Change) TKM UZB TJK ARM KAZ 215 AZE GEO KGZ Oil Importers Oil Exporters Sources: National authorities; Bloomberg; and IMF staff estimates. 11

12 proj. 216 proj. and in Armenia too, despite the good performance of agriculture and mining Real GDP growth (In percent changes) Russia European Union Armenia Sectoral Contributions to Growth (In Percent, Production Approach) Q4 Q1 Q2 Q3 Q4 Q1 Q * Agriculture Industry Construction Trade and Services Other GDP Sources: National authorities; and IMF staff calculations. 12

13 Gradual recovery over the medium term; Growth prospects well below past averages Average). CCA Growth Rates (In Percent Change) Armenia Non-Oil Growth Oil Importers Oil Exporters Sources: National authorities; IMF staff estimates. 13

14 Risks tilted to the downside Further weakening of prices for oil and other commodities Weaker growth in trading partners (Russia, China, Europe) Risks related to the normalization of U.S. monetary policy 14

15 Exports have dropped across the region and are expected to recover only gradually CCA Oil Importers: Exports (Index Values, 25=1) 6 CCA Oil Exporters: Exports (Index Values, 25=1) 6 Long-Term Trend Sources: National authorities; and IMF staff estimates.

16 in Armenia too, with an interesting change in composition Armenia : Exports (Index Values, 25=1) Armenia : Export of goods by destination 6 1% 9% 4 Long-Term Trend 8% 7% 6% Other Middle East* 5% 4% China 2 3% 2% Russia % % EU *-Includes Iran, Iraq and UAE

17 The shocks have also had a negative impact on remittances CCA: Remittances from Russia (Seasonally Adjusted Levels, Jan 21 = 1) Armenia: Remittances from Russia (Seasonally Adjusted Levels, Jan 21 = 1) Rubles 5 National Currency US Dollars Jan-1 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 1 Rubles 5 National Currency US Dollars Jan-1 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15

18 as a result external positions are weakening CCA: Current Account Decomposition (Percent of GDP) Armenia: Current Account Decomposition (Percent of GDP) Oil importers Oil exporters Oil Importers Trade balance Net remittances 1/ Trade Balance Net Remittances 1/ Other Current account Other Current Account Sources: National authorities; and IMF staff estimates. 1/ Excludes employee compensation.

19 Currencies are adjusting to new realities Oil Exporters (U.S. dollars per National Currency, Jan. 1, 21=1) 11 Oil Importers (U.S. dollars per National Currency, Jan. 1, 21=1) AZE KAZ TKM UZB 7 6 ARM GEO KGZ TJK 5 Jan-1 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Sources: National authorities; and IMF staff calculations. 5 Jan-1 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 19

20 and inflation is edging up, except in Armenia Inflation (In Percent Change) Inflation Forecast 215 Inflation Forecast 216 Inflation Forecast ARM GEO KGZ TJK AZE KAZ UZB TKM Oil Importers Oil Exporters Sources: National authorities; and IMF staff calculations. 2

21 Dollarization has risen Deposit Dollarization (In Percent of Total Deposits) Loan Dollarization (In Percent of Total Loans) 8 7 Jun-14 Latest 8 7 Jun-14 Latest ARM GEO KGZ TJK AZE KAZ ARM GEO KGZ TJK AZE KAZ Source: National authorities; IFS; and IMF staff calculations. 21

22 while financial sector vulnerabilities are building up Non-Performing Loans (In Percent of Total Loans) 35 Return on Assets (In Percent) 3 Capital Adequacy Ratio (In Percent of Risk-Weighted Assets) Jun-14 Latest ARM GEO KGZ TJK AZE KAZ -2 ARM GEO KGZ TJK AZE KAZ ARM GEO KGZ TJK AZE KAZ Source: National authorities; IMF staff calculations. 22

23 Fiscal positions have weakened: lower revenues and countercyclical measures Selected Fiscal Indicators (In Percent of GDP) Oil Exporters Oil Importers Public Debt Fiscal Balance (RHS) Sources: National authorities; and IMF staff calculations. 23

24 In Armenia, slower growth is reducing tax collections, and pushing up the public deficit and public. Armenia: Budget Deficit (In percent of GDP) 2. Armenia: Debt Dynamic (In percent of GDP) proj. 218 proj. 22 proj. Public External Debt Public debt 24

25 Policy priority 1: Fiscal policy needs to ensure medium-term sustainability Near-term Growth Debt Sustainability, Saving for the Future Fiscal Policy Where conditions allow, temporary fiscal easing over the near term will provide support to growth. As cyclical conditions improve, countries need to tighten their fiscal stance to ensure medium-term fiscal sustainability. Improving the quality of public expenditure, and preserving capital and social expenditure, will help to safeguard growth and make it more inclusive. 25

26 Oil exporters: Fiscal policy needs to adjust Fiscal Breakeven Oil Prices (In U.S. Dollars per Barrel) WEO Oil Price 215 Medium-Term Gap Between Projected Fiscal Balance and Optimal Policies Consistent with PIH 1/ (In Percentage Points of Non-Oil GDP) AZE KAZ TKM -6-8 AZE KAZ TKM Sources: IMF staff calculations 1/ Difference between actual Non-Oil Primary Balance (NOPB) and NOPB recommended by the Permanent Income Hypothesis. The high growth scenario assumes an annual increase in non-oil growth by one percentage point. 26

27 Policy priority 2: Monetary prudence and greater exchange rate flexibility Inflation Competitiveness, External Buffers and Balance Monetary Policy Exchange Rate Policy Financial Intermediation and Near-term Growth Financial Stability Monetary policy should be primarily calibrated to inflationary pressures, with due consideration to its impact on financial intermediation and output. Greater exchange rate flexibility will help absorb shocks, maintain competitiveness and prevent a rundown of external buffers. Stronger macro-prudential regulations, supervision and crisis management framework necessary to ensure financial sector remains healthy. 27

28 Policy priority 3: Structural reforms to boost long-term growth Structural Reform Indicators (In Global Percent Rank) 1% Emerging Market Averages 8% 6% 4% 2% % Education Quality Financial Services Control of Corruption Export Diversity Export Integration Doing Business Sources: Education Quality: Global Competitiveness Report; Financial Services: Global Competitiveness Report and Doing Business; Control of Corruption: Worldwide Governance Indicators; Export Diversity: IMF/DFID Export Diversity Index; Export Integration: World Economic Outlook; and Doing Business: Doing Business Report. 28

29 Key takeaways A foray of external shocks is weighing on growth, budgets and currencies. These shocks are likely to be long lasting, requiring policy adjustment. While temporary fiscal easing can support growth, fiscal consolidation will be needed over the medium term to rebuild buffers and ensure debt sustainability. Exchange rate flexibility will preserve external buffers, but it needs to be accompanied by strengthened financial supervision to safeguard financial stability. Structural reforms are needed to boost weakening medium-term growth prospects. 29

30

31 Ties With Russia Go Beyond Exports; Include Remittances, FDI And Confidence ARM GEO KGZ TJK Linkages with Russia Ex ports Imports Remittances FDI AZE KAZ TKM UZB <3% of GDP 3-1% of GDP >1% of GDP 31

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