2008 INVESTMENT CLIMATE STATEMENT FOR KYRGYZSTAN

UNCLAS BISHKEK 000104

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TAGS: ECON EFIN ELAB ETRD KTDB PGOV OPIC USTR KG
SUBJECT: 2008 INVESTMENT CLIMATE STATEMENT FOR KYRGYZSTAN

Ref: 07 State 158802


1. This cable contains Post's Investment Climate Statement for

2008.

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


2. 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.


3. 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 the Kyrgyz
Republic has publicly denounced corruption and implemented some
steps to counter this problem. The Commercial Arbitration Court of
Kyrgyzstan began considering cases in April 2004.


4. Banking laws do not discriminate against foreign banks. At
least eight foreign banks operate in the Kyrgyz Republic: Demir Bank
(Turkey),Bank of Asia (South Korea),National Bank of Pakistan, ATF
Bank - Kyrgyzstan (91.8% controlled by the Bank of Austria
Creditanstalt BA-CA),Kazcommerce Bank (Kazakhstan),Halyk Bank
(Kazakhstan),the Kyrgyz Investment and Credit Bank (owned mostly by
international public and private development institutions) and
FinanceCreditBank (Kazakhstan).


5. 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
--------------


6. Foreign exchange is widely available, and the local currency,
the som, is freely convertible. As of January 2008, the exchange
rate was 35.5 soms to the U.S. dollar. The National Bank of the
Kyrgyz Republic (NBKR) conducts weekly inter-bank currency auctions,
in which competitive bids determine market-based transaction prices.
Banks usually clear payments within a single working day.


7. Complaints of currency conversion issues are rare. With
occasional exceptions in the agricultural sector, barter
transactions have largely been phased out. Payment disputes
adjudicated through the court system can be extremely lengthy.


8. 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. In late 2007 and early 2008, Kyrgyz
authorities took some actions against Kyrgyzpromstroybank, which
interrupted the bank's activities.

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


9. To date, the Kyrgyz government has not expropriated any
properties. However, in 2006, local officials assisted in the
seizure of equipment and other property of one foreign investor. In
2007, some Kyrgyz parliamentarians and government officials
advocated the nationalization of a foreign-run mine. 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.


10. Foreign ownership of land continues to be prohibited; however,
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
--------------


10. 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.


11. 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


12. The Kyrgyz Republic is compliant with World Trade Organization
(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.


13. 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.


14. The Kyrgyz government is in the process of revamping its tax
code. 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.
While this tax review has been underway for the last three years,
there is a chance that a new tax code might be adopted in 2008.


15. 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
--------------


16. Foreign and domestic private entities may own business
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.


17. 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
--------------


18. 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.


19. 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
--------------


20. 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. Some court decisions, which appear to contradict
established procedures, can be implemented expeditiously in certain
cases. The Kyrgyz system is heavily bureaucratic. Consequently,
investors must overcome a great deal of red tape in order to conduct
business.


21. There is an investment department at the Ministry of Economic
Development and Trade, which assists investors with bureaucratic
procedures. This department also consolidates information about
potential investment projects in the Kyrgyz Republic. However, 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
-------------- --------------


22. The National Bank of the Kyrgyz Republic is a nominally
independent body which, in 2007, has intervened repeatedly in the
market to prevent the rapid appreciation of the Kyrgyz national
currency, the som, against the U.S. dollar. The currency is freely
convertible, Kyrgyz bonds are available for foreign ownership, and
the stock market is developing. According to the Kyrgyz National
Statistical Committee, the Kyrgyz Republic's annual Consumer Price
Index surged 19.5% through November 2007.


23. In 2007 the value of transactions at the Kyrgyz Stock Exchange
amounted to 5.2 billion soms (~$139.3 million),up 40% to the
previous year. There were 4,092 transactions for 364,048,384 shares
in 2007, compared with 2,284 transactions for 139,430,925 shares in

2006. As of January 2008, Kyrgyz Stock Exchange listed 19 companies
(primarily brokerage companies),which represent around 300-400
Kyrgyz companies, that trade their shares at the stock exchange.
The stock market has not fully matured. Individuals have limited
access to buy stocks.


24. Total capitalization of the banking sector as of October 2007
was about $127,108,935. There are currently 22 commercial banks in
the Kyrgyz Republic, with a total of 211 branches throughout the
country.


25. Several foreign banks now operate in the Kyrgyz Republic.
Demir Bank, Bank of Asia, National Bank of Pakistan, Halyk Bank,
Kazcommerce Bank - Kyrgyzstan, FinanceCredit Bank and ATF Bank -
Kyrgyzstan are entirely foreign held. Other banks are partially
foreign held, including the Asia Universal Bank (95% 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.


26. 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 21% stake. Habib Bank Ltd (Pakistan),which is the
newest shareholder, has an 18% stake. The International Finance
Corporation, the European Bank for Reconstruction and Development,
and the German Corporation for Investments and Development each hold
17% stakes. The Kyrgyz government retains a 10% share.


27. 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.


28. Since October 1999, new banks must have a minimum charter
capital requirement of 300 million soms ($8.05 million). As of
January 1, 2008, the minimum owned capital requirement was raised to
no less than 100 million soms ($2.7 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.


29. 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.


30. Accounting systems in banks and enterprises are 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
--------------


31. 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 there
was substantial looting in Bishkek. Three people reportedly died
and there were numerous minor injuries during the unrest. Losses
due to looting in Bishkek are estimated at almost $100 million.
Kurmanbek Bakiyev was elected president in July 2005.


32. Outside of the March 2005 uprisings, there have been no recent
incidents of politically motivated damage to projects and
installations. Demonstrations in November 2006 and April 2007 were
largely peaceful. Kyrgyz citizens enjoy basic rights, including the
right to protest and demonstrate, the Kyrgyz government occasionally
restricted these rights.


33. 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.


34. 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.


35. 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.


36. 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 supplies, refugees
and other issues. However, it is unlikely that such tensions would
translate into disputes directly affecting foreign investors.

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


37. Corruption remained a serious problem at all levels of society.
According to the Transparency International Corruption Perception
Index, in 2007 the Kyrgyz Republic ranked 150 out of 180 countries
surveyed. According to polls conducted by the International
Arbitration Court at the beginning of the year, 70 percent of
businessmen did not trust the judicial system due to rampant
corruption.


38. The Kyrgyz Government recognizes the damage corruption can
cause. As part of its IMF Poverty Reduction and Growth Facilitation
program, the Kyrgyz government agreed to take action to stem
corruption. In 2003, the law on combating corruption was adopted.
On June 21, 2005, the Kyrgyz Government adopted the National
Anti-Corruption Strategy. On June 29, 2005, the Parliament of the
Kyrgyz Republic ratified the UN Convention Against Corruption. On
October 21, 2005, the Kyrgyz Government founded the National
Anti-Corruption Agency and the National Anti-Corruption Council,
which were tasked with implementation of the Anti-Corruption
Strategy.


39. The law provides criminal penalties for official corruption;
however, the government did not implement the law effectively.
Officials engaged in corrupt practices with near impunity, although
there were reports of arrests of government officials on corruption
charges. The Ministry of Internal Affairs (i.e., the police)
investigates corruption, together with the Prosecutor General and
subordinate prosecutors. The government has also created special
police anti-corruption units. However, they have yet to show their
effectiveness.


40. 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 decided 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.


41. 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.

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


42. 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.


43. 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
--------------


44. OPIC is active in the Kyrgyz Republic. The event of an
inconvertibility claim against OPIC is highly unlikely, given the
Kyrgyz Republic's liberal conversion regime.

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


45. 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. According to Kyrgyz government sources, the official
unemployment rate stood at 11.6 percent in November 2007. The
unemployment rate would actually be higher if neighboring countries
and Russia did not absorb many migrant workers.

Foreign Trade Zones/Free Ports

--------------


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


47. According to the Kyrgyz National Statistical Committee, Foreign
Direct Investment (FDI) totaled $335.6 million in 2006, $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 2007, FDI amounted to $324.5 million (1.7 times higher than at
the same point in 2006).


48. The problem of registering and tracking numerous new private
businesses has rendered government statistics on employment, the
tax-base and national economic performance questionable. The shadow
economy may account for up to one-half of overall economic activity.



49. Foreign direct investment is chiefly oriented towards
manufacturing, food processing, banking and mining. 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.


50. 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.


51. According to the National Statistical Committee, the following
countries were the largest sources of FDI in 2006: Kazakhstan
40.78%, Germany 15.92%, Great Britain 11.32%, Cyprus 6.83%, Russia
5.9%. For the first 9 months of 2007 the largest sources of FDI
were Kazakhstan 46.66%, Great Britain 13.29%, Germany 8.93%, China
6.37% and Turkey 3.48%.


52. Bishkek and the surrounding Chui region absorbed more than 85%
of FDI in 2007. An additional 10% went to the Talas region, with
the remaining amounts scattered among the other five regions of the
country, primarily the Jalalabad and Issyk-Kul regions.

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


53. In connection with the war on terrorism, a Coalition airbase
operates out of the Manas International Airport near Bishkek.


54. 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.

YOVANOVITCH