GROWING DEFICIT CHALLENGES 2009 KYRGYZ STATE BUDGET

UNCLAS SECTION 01 OF 02 BISHKEK 000144 SENSITIVE SIPDIS DEPARTMENT FOR SCA/CEN E.O. 12958: N/A TAGS: ECON EFIN PGOV KG SUBJECT: GROWING DEFICIT CHALLENGES 2009 KYRGYZ STATE BUDGET BISHKEK 00000144 001.4 OF 002 ¶1. (SBU) Summary: Kyrgyz President Kurmanbek Bakiyev signed the 2009 Kyrgyz budget into law on January 21, 2009. The 2009 budget law projects a 5.9% increase in revenues and 4% rise in expenditures over 2008 budget levels, with revenues reaching $1.115 billion and expenditures reaching $1.202 billion, resulting in a projected budget deficit of $87.2 million. However, global financial turmoil, a new tax code, an optimistic economic growth forecast, and domestic energy shortages have already cast doubt on the budget forecasts. As a result, the Ministry of Finance is now planning to submit a supplementary budget forecasting lower revenues, higher expenditures, and a budget deficit reaching to $212.2 million. End summary. General Budget Overview -------------- ¶2. (SBU) President Bakiyev signed the 2009 state budget, which had earlier received Kyrgyz parliamentary approval, into law on January ¶21. Budget expenditures are expected to increase by 4% compared to 2008 figures, reaching $1.202 billion. While the public decree Bakiyev signed only identified gross figures, the parliamentary version contained specific outlays. The 2009 budget increases funds for health (up 5.7%),social protection (up 8%) and capital investment (up 11.5%). Several other sectors register declines -- education down 2.9%, defense lower by 13.9%, and public order and security down 17.6%. (Comment: There has been no explanation as to why defense and security allocations would decrease. End comment.) In addition, the Government will channel $62.7 million into foreign debt service and $87 million into internal debt service. Basic operating expenses of the government for 2009 are estimated approximately at $343 million, which is less than 2008 figure. (Note: We have used an exchange rate of 40 soms per dollar for these calculations. End note.) ¶3. (U) Budget revenues are projected at about $1.115 billion. Revenues are projected to increase 5.9% over 2008 budget targets despite likely decreases in tax revenues arising from tax code revisions. ¶4. (SBU) The projected $87.2 million budget deficit may balloon to $212.2 million if a supplementary budget that is currently being drafted reflects decreasing revenues and increasing expenditures. The government planned to cover the initial deficit projection by selling state treasury bills and non-financial assets, privatizing some state property, and attracting foreign grants and loans. The promised injection of Russian financial assistance may cover this year's gap. Impact of the New Tax Code -------------- ¶5. (U) A new tax code which became effective at the beginning of 2009 decreased the rate for value added tax (VAT),a major source of government revenue, from 20% to 12% and abolished some other taxes. The new tax code established sales tax and property taxes, which when implemented, should cover some revenue losses arising from the lower VAT rate. President Bakiyev has suggested a review of the VAT rate later this year. Some businesspeople have also expressed concern with increased indirect taxes on entertainment venues, casinos, and currency exchange offices. Innovations -------------- ¶6. (U) The 2009 budget law establishes budget projections, which are binding on Kyrgyz ministries, through 2011. This new approach envisions 2010 revenues and expenditures at $1.248 billion and $1.312 billion. The 2011 revenues and expenditures are projected at $1.372 billion and $1.410 billion. The new projections spur longer-term planning and should help the Kyrgyz finance minister control government spending. BISHKEK 00000144 002.2 OF 002 Comment -------------- ¶7. (SBU) Global financial difficulties, continuing Kyrgyz power shortages, and the implementation of the new tax code are having an impact on government budget plans. Although some Kyrgyz politicians argue that the Kyrgyz Republic is isolated from global markets and will be able to weather global trends without difficulty, problems in Kazakhstan and Russia have repercussions on the Kyrgyz workers in those countries and on the remittances they send back to relatives in the Kyrgyz Republic. The recent devaluation in the Kazakh national currency triggered high local demand for the U.S. dollar and intervention by the Kyrgyz Central Bank. The government also forecasts an overly optimistic 6% growth in gross domestic product in 2009. ¶8. (SBU) Of more immediate concern for budget planners is a recent estimate that tax code changes will result in an additional $85 million revenue shortfall. The Kyrgyz Ministry of Economic Development has also projected that reduced economic activity as a result of recent electricity cuts will trim Kyrgyz budget revenues by $17.4 million. These and other shortfalls as well as increased expenditures have caused the Ministry of Finance to draft updated 2009 budget figures. The worsening economic conditions will challenge the government's ability to maintain services and pay salaries in 2009, especially if anticipated external financial assistance from Russia and other donors is not provided. ¶9. (SBU) The impact of the Russian loan, grant and debt forgiveness package will be discussed septel.