UCLA Conference in Honor of Professor Armen Alchian

May 6, 2006

Growth and Poverty Reduction in Armenia: Achievements and ChallengesEnrique Gelbard, International

Monetary Fund

Outline

1. Background

2. Recent developments

3. Main lessons

4. Challenges to sustain growth

Background

Motivation Early reforms

Removal of subsidies and price controls Privatization of land and enterprises Trade and foreign exchange liberalization

(removal of import and export barriers, setting up of simple and low tariff rates, no restrictions on payments for goods and services)

Basic tax and banking legislation

Recent Developments

Remaining imbalances in late 1990’s

Poverty Weak fiscal position (large deficit and arrears) Corruption in state-owned utilities Banking sector crisis (8 banks in distress

intervened by the central bank)

Recent Developments

The 2001-04 Economic Program

Boost growth through tax reforms

Simplified and reduced corporate and income taxes Removal of exemptions Enhance tax legislation Disseminate laws and regulation

Recent Developments

The 2001-04 Economic Program

Restore confidence on fiscal management

Clear domestic and external arrears Cut non-priority spending Increase public investment

Recent Developments

The 2001-04 Economic Program

Clean up the energy sector

Privatization Deregulation New management structure in state companies Cut service to non-paying customers

Recent Developments

The 2001-04 Economic Program

Restructure the banking system

Close or rehabilitate problem banks Bank bankruptcy law Stronger provisioning requirements Strengthen banking supervision

Recent Developments

The 2001-04 Economic Program

Improving the business climate

Simplified licensing Sharing credit information Shortening time for enforcing court judgments New criminal code

Recent Developments Topped CIS countries in all reform dimensions

EBRD Transition Indicators, 2005

0.0

1.0

2.0

3.0

4.0

5.0Privatization

Enterprise restructuring

Price and foreign exchangemarket liberalization

Competition policyBanking system and securities

markets

Infrastructure reform

Overall index

Armenia

CIS excludingArmenia

Degree of progress is measured on a 0 to 5 scale

Economic indicators But tax revenues remained low

0

10

20

30

40

Former Soviet Union Countries: General Government Tax Revenue, 1999–2003

(Annual Average In percent of GDP)

Economic indicators Closing the gap with the Baltics

Index of Real GDP in CIS Countries (1990=100)

30

40

50

60

70

80

90

100

110

120

90 92 94 96 98 00 02 04 06

Av. Estonia Latvia LithuaniaArmeniaRussiaCIS6 average 1/

1/ CIS-6: Azerbaijan, Georgia, Moldova, Kyrgyz Rep., Tajikistan, and Uzbekistan.

Economic indicators Key factors: fiscal and quasi-fiscal consolidation

Fiscal and Quasi-fiscal Deficits(In percent of GDP)

0

5

10

15

1998-99 2000-01 2002-03 2004-05

0

5

10

15

Quasi-fiscal 1/

General government

Economic indicators And prudent debt management

External Debt to Exports Ratio

0

40

80

120

160

1999 2000 2001 2002 2003 2004 2005

0

40

80

120

160

Economic indicators Leading to subdued inflation

-200

20406080

100120140

160180

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

-200

20406080

100120140

160180

Broad moneyInflation

Monetary Growth and Inflation(12-month percentage change)

Economic indicators And enabling strong economic growth

-20

-15

-10

-5

0

5

10

15

1991–94 1995–98 1999-01 2002–05-20

-15

-10

-5

0

5

10

15

ArmeniaCIS average

Annual Average Real GDP Growth in Armenia and Other CIS Countries1

Economic indicators Poverty and inequality fell by about one-third

1996 2001 2004

Overall poverty rate 56.7 47.0 34.6Rural poverty 49.0 46.0 31.7Extreme poverty 27.7 16.2 6.4Gini coefficient (income)1 0.6 0.54 0.40Gini coefficient (consumption)1 0.4 0.38 0.26

Source: Based on Household Surveys.1Ranges from 0 (perfect equality) to 1 (total inequality).

Poverty and Inequality in Armenia

(Percent of total population, unless otherwise noted)

Main lessons1. Policy package (well-sequenced reforms and right mix of

policies)

2. Commitment to reforms

3. Minimal government intervention (low tax rates, no distortionary subsidies, limited assistance without guarantees)

4. Higher public investment

5. Role of the Diaspora (intermediation of investment, transfers, trade links)

Challenges ahead

Income per capita still under US$1,000 Growth was ignited making Armenia one

of the fastest low-income countries since 2001

But sustaining long-term growth will be challenging

Challenges ahead

Fiscal framework Banking system Institutions and anti-corruption policies Regional cooperation

Challenges ahead

Fiscal framework

Revamping tax and customs administration

primarily through risk-based methods Efficient provision of public services and

improvements in basic infrastructure (especially in rural areas)

Save for decommissioning of the nuclear power plant and funding the pension system

Challenges ahead

Banking system

Transparent bank ownership Judiciary to enforce creditor rights and

collateral recovery

Challenges ahead

Closed borders

Effect large, suggests open borders could increase trade by about 40 percent

But this requires resolving disagreements with Turkey and Azerbaijan

Improving customs administration will also help in the near term

Concluding comments

Armenia has made impressive progress in recent years, but the reform agenda needs to be completed and economic institutions should function adequately

Key element: a renewed dose of political resolve regarding policy implementation and fighting corruption

UCLA Conference in Honor of Professor Armen Alchian

May 6, 2006

Growth and Poverty Reduction in Armenia: Achievements and Challenges