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

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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
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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.


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Comment
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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.