2007 INVESTMENT CLIMATE STATEMENT FOR THE KYRGYZ

UNCLAS SECTION 01 OF 08 BISHKEK 000021

SIPDIS

SIPDIS

DEPT FOR SCA/CEN (GEHRENBECK),EB/IFD/OIA (HATCHER)
DEPT PASS TO USTR

E.O. 12958: N/A
TAGS: EINV EFIN ETRD ELAB KTDB OPIC USTR KG
SUBJECT: 2007 INVESTMENT CLIMATE STATEMENT FOR THE KYRGYZ
REPUBLIC

REF: 06 STATE 178303


1. This cable provides Embassy Bishkek's submission of the
2007 Investment Climate Statement for the Kyrgyz Republic.


2. Begin text:

Openness to Foreign Investment
--------------

The Kyrgyz Republic has a liberal investment regime with a
broad base of commercial laws. Unfortunately, these laws are
not implemented consistently. Foreign investors must
register their firms with the Ministry of Justice. In
addition to registration, expatriate employees must obtain a
work permit from the State Committee on Migration and
Employment. Foreign investors usually form joint ventures
with local partners, a step which has proven to be the most
successful strategy to date.

The legal concept of contract sanctity is not consistently
observed. Kyrgyz law on foreign investment guarantees
protection for foreign investors from expropriation and
nationalization. Individual investors have become involved
in disputes over licensing, registration, and enforcement of
contracts. Corruption is also a serious problem, although
the Government of Kyrgyzstan (GOKG) has publicly denounced
corruption and implemented some steps to counter this
problem. In June 2002, Parliament passed the Law on
Commercial Arbitration, creating a mechanism for expeditious
resolution of commercial disputes. This mechanism, the
Commercial Arbitration Court of Kyrgyzstan, opened in October
2002 and began considering cases in April 2004.

Banking laws do not discriminate against foreign banks.
Eight foreign banks operate in the Kyrgyz Republic: Demir
Bank (Turkey),Bank of Asia (South Korea),National Bank of
Pakistan, EnergoBank (90% owned by the Kazakh ATF Bank),
Halyk Bank (Kazakhstan),the Kyrgyz Investment and Credit
Bank (owned mostly by international public and private
development institutions),FinanceCreditBank (Kazakhstan) and
KyrgyzCredit Bank (under Italian control).

There is no discrimination against foreign investors
enshrined in official government policy. However, procedures
for licensing and approvals are not transparent, which can
make the process seem discriminatory. Tax authorities may
apply greater scrutiny to foreign entities operating in the
Kyrgyz Republic.

Conversion and Transfer Policies
--------------

Foreign exchange is widely available, and the local currency,
the som, is freely convertible. The National Bank of the
Kyrgyz Republic (NBKR) conducts weekly inter-bank currency
auctions, in which competitive bids determine market-based
transaction prices. Banks clear payments within a single
working day.

Few foreign businesses complain of currency conversion
issues. Some Kyrgyz entities, particularly in the
agricultural sector, are strapped for cash and thus engage in
cashless barter transactions. The government has recognized
the need to phase out barter transactions. Payment disputes
adjudicated through the court system can be extremely
lengthy.

In 2000 and 2001, several Kyrgyz banks declared bankruptcy,
lost their licenses or were restructured. Depositors at
these banks lost significant sums. The government does not
guarantee or insure deposits with Kyrgyz banks. No bank
closures have occurred since 2001.

Expropriation and Compensation
--------------

To date, the Kyrgyz government has not expropriated any
properties. However, in 2006, local officials assisted in

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the seizure of equipment and other property of one foreign
investor. Foreign investors have the right to compensation
in the case of government seizure of assets. However, there
is little understanding of distinctions among historical book
value, replacement value and actual market value, which
brings into question whether the government could calculate a
fair basis for compensation in the event of expropriation.
The government has frozen bank accounts and other liquid
assets until disputes were resolved. In anecdotal cases,
government officials have hinted at nationalization in
disputes with foreign firms.

Foreign ownership of land continues to be prohibited. Prior
to an October 1998 referendum that introduced private land
ownership, Kyrgyz citizens were also prohibited from owning
land. While foreign ownership of land is still forbidden,
there is no prohibition on foreign rental of land for
residences or factory sites. A central land registry has
helped potential lenders and others deal with the financing
of real property (e.g., land, buildings, and other
improvements) in a more sophisticated manner.

Dispute Settlement
--------------

The Law on Commercial Arbitration allows for international
and domestic arbitration of disputes. If feasible, the
arbiter should be a neutral entity that is identified in the
contract, along with the specific terms of arbitration.
Establishing the terms for arbitration beforehand will
prevent further complications in the event of a dispute.
The Kyrgyz Republic is a member of the International Center
for the Settlement of Investment Disputes (ICSID). It signed
the ICSID agreement on June 9, 1995, and ratified it on July
5, 1997. The Kyrgyz Republic became a member of the 1958 New
York Convention on the Recognition and Enforcement of Foreign
Arbitral Awards on March 18, 1997.
Performance Requirements and Incentives
--------------

Former tax holidays and other incentives for foreign
investors have been eliminated in accordance with standards
preferred by international financial institutions and as a
requirement of the Kyrgyz Republic's entry into the World
Trade Organization (WTO). The Kyrgyz Republic is compliant
with WTO Trade Related Investment Measures obligations. The
Kyrgyz government has also reduced the tax burden on
repatriation of profits by foreign investors to conform to
the tax rate for domestic investors. There are no specific
conditions for permission to invest. However, any project is
likely to be scrutinized for its effect on employment and tax
revenues.

Visa requirements and fees may change on short notice. In
2006, the Kyrgyz government adopted a measure limiting the
period expatriates can work in Kyrgyzstan. Government
ministries, lacking adequate budgets, often finance their
operations through user fees. Such fees may appear arbitrary.

The Kyrgyz Government is in the process of overhauling its
tax code. A consortium of government officials, business
leaders and outside experts are reviewing the current tax
code to address the legislation's shortcomings, improve the
tax administration process, rationalize the rate structure
and make the tax system more investment friendly. The new
tax code might be adopted in 2007.

Taxes are complex, although the new tax code is supposed to
improve the situation. Some of the existing taxes involve
complex and time-consuming accounting. Payroll taxes such as
social fund payments, used for the National Pension System,
are also complex. Many recent tax inspections have focused
on social fund payments. Transparency is a problem, as even
basic laws, tax rates, and regulations are seldom published.

Right to Private Ownership and Establishment
--------------

Foreign and domestic private entities may own business

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enterprises and engage in a broad range of commercial
activities. Foreign entities are expressly forbidden from
owning land, including farmland, although regulations allow
for up to 99-year leases of property, which is adequate for
most business purposes. A law regulating foreign ownership
of houses, apartments, and other structures has been
repealed, leaving the rights of foreigners to own such
properties unclear.

Foreign investors are theoretically given equal treatment
under Kyrgyz law. In reality, well-connected Kyrgyz private
or state-owned companies are able to utilize their contacts
to achieve their business aims. Foreign investors are
disadvantaged less by outright discrimination than by a
simple lack of knowledge on how to "work the system."

Protection of Property Rights
--------------

Property right protections are slowly emerging. However, the
judicial system remains under-developed and lacks
independence. Court actions can force the sale of property
to enforce payments and other contractual obligations. Laws
on collateral and bankruptcy make the enforcement of
commercial obligations increasingly viable and more widely
respected. A central lien registry, now functioning, also
reduces disputes over collateral.

The Kyrgyz Republic is obligated to protect intellectual
property rights as a member of the WTO. However, an
estimated 80% of DVDs, CDs and other audio-visual products
sold in the Kyrgyz Republic are counterfeit. The Kyrgyz
Republic acceded to both the WIPO Copyright Treaty and the
WIPO Performances and Phonograms Treaty in 2002.

Transparency of the Regulatory System
--------------

The legal and regulatory system of the Kyrgyz Republic
continues to develop. The process of implementing
regulations and court orders relating to commercial
transactions remains inconsistent. The Kyrgyz system is
heavily bureaucratic. Consequently, investors must overcome
a great deal of red tape in order to conduct business.

The GOKG established a "one stop shop," recently shifted to
the Ministry of Finance, to guide investors through the
government bureaucracy. The ability of this office to steer
firms through the system has not been fully demonstrated.
Contradictory government decrees often create bureaucratic
paralysis or opportunities for undocumented incentives.

Efficient Capital Markets and Portfolio Investment
-------------- --------------

The National Bank of the Kyrgyz Republic increasingly favors
modern financial practices. The currency is freely
convertible, Kyrgyz bonds are available for foreign
ownership, and the stock market is developing.

In December 2006, the stock market listed 14 companies, all
adhering to international accounting standards. There were
also approximately 500 unlisted companies trading at the
exchange weekly. (The unlisted firms either have not
maintained a transparent accounting system for the previous
three years, or refuse to disclose their financial records.)
The 2005 total trade volume was 1,745 transactions for
51,008,715 shares valued at 1,245,809,389 soms (approximately
$30,385,594).

From January 1 to September 30, 2006, the total trade volume
was 1,709 transactions for 111,414,663 shares valued at
1,796,038,000 soms (approximately $ 47,264,157). Although
most shares are still traded over the counter, a new
computerized central depository for shareholder information
has simplified trades and record keeping.

Total capitalization of the banking sector as of January 2006
was about $ 64,331,637. There are currently 21 commercial

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banks in the Kyrgyz Republic, with a total of 171 branches
throughout the country.

Several foreign banks now operate in the Kyrgyz Republic.
Demir Bank, Bank of Asia, National Bank of Pakistan, Halyk
Bank, Kazcommerce Bank and FinanceCredit Bank are entirely
foreign held. Other banks are partially foreign held,
including the Asia Universal Bank (70% foreign held) and KICB
(Kyrgyz Investment and Credit Bank). Although no U.S. bank
has set up operations in the Kyrgyz Republic to date, many
Kyrgyz banks maintain correspondent relations with U.S. and
other foreign banks to facilitate short-term commercial
lending, such as letters of credit.

The Kyrgyz Investment and Credit Bank (KICB) began operating
in mid-2001. Established to provide commercial lending and
other services, the KICB introduced western banking practices
and encouraged the entry of other banks into the Kyrgyz
market. KICB's principle shareholder is the Aga Khan Fund
for Economic Development, which has a 30% stake. The
International Finance Corporation, the European Bank for
Reconstruction and Development, and the German Bank for
Reconstruction and Development each hold 20% stakes. The
GOKG retains a 10% share.

The Kyrgyz Republic is largely a cash society, and outside
investors have rarely sought financing from domestic banks.
Bank lending is heavily biased towards short-term loans and
traditionally has not favored using physical assets as
collateral. Some banks ignore retail banking, and instead
focus on government bonds.

Since October 1999, new banks must have a minimum charter
capital requirement of 300 million soms ($7.7 million).

As of January 1, 2006, the minimum owned capital requirement
(charter capital plus or minus profit or losses) was set at
no less than 60 million soms ($1.5 million). Banking laws
also require that banks maintain a 10% reserve with the
National Bank. No deposit insurance or government guarantee
of deposits currently exists, although plans for such a
system have been outlined.

Between 1999 and mid-2001, seven banks became insolvent and
suspended operations. No bank closures have occurred since

2001. The Supreme Court, in 2005, ruled against the National
Bank,s attempt to declare the commercial bank, "AkBank,"
bankrupt.

Accounting systems in banks and enterprises are rapidly being
converted to international standards. The Kyrgyz government
has supported this exercise. International assistance
programs have contributed to rapid progress in reaching these
standards via accounting training and certification. The
National Bank of the Kyrgyz Republic is trying to impose
strict regulation on the banking system, and is also working
to improve commercial accountability. The closure of weaker
banks has made the banking sector stronger and more viable as
a whole.

Political Violence
--------------

In March 2005, a popular uprising led to the overthrow of
President Askar Akayev. The change of power was precipitated
by smaller uprisings in southern Kyrgyz towns, such as Osh
and Jalalabad, in which citizens rallied against perceived
flaws in earlier parliamentary elections. The uprising was
swift and largely bereft of serious violence, but witnessed
substantial looting and numerous minor injuries. Three
people reportedly died during the unrest. Losses due to
looting in Bishkek are estimated at almost $100 million.
Kurmanbek Bakiyev was elected president in July 2005.

Outside of the March 2005 uprisings, there have been no
recent incidents of politically motivated damage to projects
and installations. Demonstrations in November 2006, which
resulted in a new constitution, were largely peaceful.
Kyrgyz citizens enjoy basic rights, including the right to

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protest and demonstrate. Although Kyrgyz citizens have
exercised these rights more freely than citizens in nearby
countries, the GOKG occasionally restricted these rights in
the past.
Supporters of extremist groups such as the Islamic Movement
of Uzbekistan (IMU),Al-Qaeda, and the Eastern Turkistan
Islamic Movement remain active in Central Asia. These groups
have expressed anti-U.S. sentiments and may attempt to target
U.S.-affiliated interests in the region, including in the
Kyrgyz Republic. Because of increased security at official
U.S. facilities, terrorists seek softer civilian targets such
as residential areas, clubs, restaurants, places of worship,
hotels, schools, outdoor recreation events, resorts, beaches,
maritime facilities and planes. In December 2002, a bombing
occurred at the Dordoi Bazaar, a market mostly frequented by
locals. In May 2003, a bank in Osh was bombed. The Kyrgyz
Government blamed the IMU for both bombings.

In May 2006, suspected Islamic militants attacked a border
post on the Kyrgyz-Tajik border, and ensuing skirmishes took
place between the militants and Kyrgyz military forces
throughout the southern Batken region. U.S. citizens
planning to travel to the Kyrgyz Republic should refer to the
U.S. Department of State for updated security information.
This information is available on the Internet at
http://travel.state.gov.

In the summers of 1999 and 2000, armed IMU insurgents entered
the southern Kyrgyz Republic and took a number of Kyrgyz
citizens and foreigners captive. While subsequent military
operations in Afghanistan have eliminated many resources used
by these insurgents, the Department of State urges U.S.
citizens to avoid travel to the following areas of the Kyrgyz
Republic: the rural areas along the Kyrgyz-Uzbek and
Kyrgyz-Tajik borders, and the areas to the south and west of
the provincial capital Osh.

There are occasional tensions among ethnic Kyrgyz, Russian,
Uzbek and other ethnic nationalities in the Kyrgyz Republic
over such issues as language, land rights, and religion.
North-south divisions are also palpable in the Kyrgyz
Republic. Such tensions, however, seldom affect foreign
employers directly. The Kyrgyz Republic's relations with its
neighbors sometimes are complicated over disagreements
regarding water rights, energy payments, refugees, and other
issues. However, it is unlikely that such tensions would
translate into disputes directly affecting foreign investors.

Corruption
--------------

Corruption permeates life in the Kyrgyz Republic. U.S. firms
complying with the Foreign Corrupt Practices Act can be
disadvantaged vis-a-vis other foreign firms operating in the
Kyrgyz Republic. However, most U.S. firms that have resolved
to conduct business in the Kyrgyz Republic have eventually
been able to do so. To date, measures targeting bribery and
other such economic crimes have been selectively enforced,
typically against persons perceived as political enemies of
the government.

The Kyrgyz Government is taking measures to address rampant
corruption in the country. As part of its IMF Poverty
Reduction and Growth Facilitation program, the GOKG has
agreed to take action to stem corruption. On June 29, 2005,
the Parliament of the Kyrgyz Republic ratified the UN
Convention Against Corruption. In 2004, the Kyrgyz
Government founded the National Council for Good Governance,
which is tasked with tackling corruption. While the Council
has yet to take significant steps to address the problem, the
government is working closely with international financial
institutions, international donors and non-governmental
organizations to develop a plan to concrete plan to fight
corruption. Following the 2005 overthrow of the Akayev
regime, the new government opened 106 criminal cases against
the Akayev family's business interests. However, in October
2006, the Kyrgyz Deputy General Prosecutor acknowledged that
a number of the criminal cases were groundless and merited
dismissal As of January 2007, investigations into the

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remaining cases continued.

The Ministry of Internal Affairs (i.e., the police) and the
National Security Service (i.e., the successor to the KGB)
are responsible for investigating corruption, together with
the Prosecutor General and subordinate prosecutors. Kyrgyz
law enforcement officers received integrity awareness
training under a U.S. government-sponsored anti-corruption
program in August 2001. The government has also created
special police anti-corruption units. However, they have yet
to show their effectiveness.

The Kyrgyz Republic is not a signatory to the OECD Convention
on Combating Bribery. However, the OECD and the World Bank
have previously reported on the progress of anti-corruption
measures.

U.S. and third-country firms have identified corruption as a
major obstacle to foreign investment. While bribing a
government official is technically a criminal act, there have
been no recent prosecutions of this crime. Corruption is
found in every aspect of a company's interaction with the
government, including licensing, dispute settlement,
government procurement, regulatory activity, and taxation.
All levels of government appear to be afflicted by corruption
and allegations of corruption.

Bilateral Investment Agreements
--------------

The Kyrgyz Republic currently enjoys bilateral investment
treaties with the United States, Armenia, Azerbaijan,
Belarus, China, Finland, France, Georgia, Germany, India,
Indonesia, Iran, Kazakhstan, Malaysia, Moldova, Mongolia,
Pakistan, Sweden, Switzerland, Tajikistan, Turkey, United
Kingdom, Ukraine and Uzbekistan.

The Kyrgyz Republic has also signed double taxation treaties
with Armenia, Austria, Belarus, Canada, Finland, Germany,
India, Kazakhstan, Malaysia, Mongolia, Pakistan, Poland,
Russia, Switzerland, Tajikistan, Turkey, Ukraine, and
Uzbekistan. The U.S.-U.S.S.R. treaty on double taxation,
which was signed in 1973, remains in effect between the U.S.
and the Kyrgyz Republic.

OPIC and Other Investment Insurance Programs
--------------

OPIC is currently active in the Kyrgyz Republic. The event
of an inconvertibility claim against OPIC is highly unlikely,
given the Kyrgyz Republic's liberal conversion regime. As of
December 2006, the local currency, the som, had a conversion
rate of 38.6 soms per U.S. dollar. The exchange rate is
market-based. According to the Bulletin of the National
Bank, the Kyrgyz Republic's Consumer Price Index (CPI)
reached 4.9% in 2005, and is estimated to have been 4% in

2006.

Labor
--------------

Labor is widely available, but the number of skilled
individuals is decreasing as Kyrgyz citizens find more
lucrative job opportunities abroad. International
organizations are generally able to employ competent staff,
often bilingual in English or other languages, but are
starting to encounter difficulties retaining staff members.
Literacy in the Kyrgyz Republic is approximately 97 percent.
The Employment Department under the Labor Ministry reports
that, as of October 2006, the official unemployment rate was
17.7 percent. The unemployment rate would actually be higher
if neighboring countries and Russia did not absorb many
migrant workers.


Foreign Trade Zones/Free Ports
--------------

There are four Free Economic Zones (FEZs) in the Kyrgyz

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Republic: Bishkek, Naryn, Karakol and Maimak. Each is
situated to make use of transportation infrastructure and/or
customs posts along the Kyrgyz borders. Goods entering and
traded within the zones are duty free within the Kyrgyz
Republic. Government incentives for investment in the zones
include exemption from several taxes, duties and payments;
exemptions from some import and export duties; simplified
customs procedures; and direct access to utility suppliers.
The production and sale of petroleum, liquor, and tobacco
products in FEZs is banned.

Foreign Direct Investment Statistics
--------------

According to the Kyrgyz National Statistical Committee,
Foreign Direct Investment (FDI) totaled $210.3 million in
2005, $176 million in 2004, $147 million in 2003, $116
million in 2002 and $90 million in 2001. For the first nine
months of 2006, FDI amounted to $189.5 million. Government
statistics are generally accurate regarding inflation and
price levels. However, the problem of registring and
tracking numerous new private businesses has rendered
statistics on employment, the tax-base and national economic
performance less accurate. The shadow economy may account
for up to one-half of overall economic activity.

Foreign direct investment is chiefly oriented towards
manufacturing, food processing, banking, mining, trade,
restaurant services, transportation and communications. Many
foreign firms conduct contract work for foreign assistance
organizations. U.S. direct investment is concentrated in the
hotel and telecommunications sectors, with increasing
interest in construction and mining.

Joint ventures and foreign companies in the Kyrgyz Republic
include the Reetsma Kyrgyzstan Company (cigarettes),the
Plaskap Bishkek Company (packaging/bottling),the Central
Asian Group (entertainment/garments),the Hyatt Regency
Bishkek, and the Kyrgyz Petroleum Company. A
U.S.-Turkish-Dutch joint venture operates a Coca-Cola
franchise that bottles its soft drinks locally, and the
Canadian gold-mining firm Centerra Gold has formed the
largest western joint venture in the Kyrgyz Republic, the
Kumtor Operating Company. Joint ventures play a leading role
in the mining, petrochemical, hotel, and food processing
sectors.

According to the National Statistical Committee, the
following countries were the largest sources of FDI in 2005:
Germany 17.33%, Great Britain 14.02%, Canada 12.43%, Turkey
7.66% and USA 5.57%. Data for 2006 are not yet available.
However, Kazakh entrepreneurs are investing heavily in
Kyrgyzstan, and have substantial stakes in the financial
services and tourism sectors.

Bishkek and the surrounding Chui region absorbed more than
70% of FDI in 2005. An additional 13% went to the Issyk Kul
region, with the remaining amounts scattered among the other
five regions of the country.

General
--------------

In connection with the war on terrorism, a Coalition airbase
operates out of the Manas International Airport near Bishkek.
In the most recent fiscal year ending September 2006, base
payments to companies employing Kyrgyz staff totaled nearly
$90 million.

The capital city of Bishkek has an international
English-language elementary school and other services for
expatriate families. The Hyatt Regency is the only five-star
hotel. The Golden Dragon is a four-star alternative. There
are several three-star hotels in Bishkek, including the
British-owned Silk Road Lodge. There are direct air
connections to Istanbul and London. Other cities, such as
Amsterdam, Vienna and Frankfurt, are served from Almaty,
Kazakhstan, a three-and-a-half hour drive from Bishkek.


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YOVANOVITCH