Risks of recession in the Kazakh economy in 2020 and the prospects of exiting it

¹ Real growth rate according to the World Bank’s methodology.
² Economically active population.
³ Consumer price index.

Macroeconomic shocks and their depth

This forecast was created in accordance with ACRA’s General Principles of Socioeconomic Indicators Forecasting.

The Kazakh economy has experienced a double shock this year, external and internal. The first was caused by the worsening situation in the oil and gas sector (a sharp fall in oil prices and reduced production), which is vital for the country, while the second was caused by the quarantine measures imposed due to the coronavirus pandemic. ACRA’s base case scenario includes the following key assumptions: oil prices in the forecast period (until 2024) will range from USD 40–55/bbl, the oil production limits introduced by the OPEC+ agreement will be short-lived (and only apply to 2020), and the negative impact of the quarantine measures on the real sector of the economy will be especially noticeable this year and then decline in 2021. In addition, ACRA predicts the USD/KZT exchange rate to stabilize at 400–420, an active countercyclical fiscal policy in 2020 (followed by the budget deficit declining until 2023), and reduced use of funds of the National Fund of the Republic of Kazakhstan (NFRK) to cover the budget deficit from 2021.

External shock: decline in oil prices and production volumes in 2020, a forecast until 2024

The sharp decline in oil prices (to USD 14.85/bbl as of the end of March) and fall in production (from 90 mln tons in 2019 to an expected 85.2 mln tons in 2020) stem from two key factors.

1. Reduced economic activity amid the coronavirus pandemic and introduction of quarantine measures played a decisive role in reducing demand for oil in the global market. The decline in activity in the global economy in 2020 is expected to be the most significant since the Great Depression (-4.9% compared to growth of 2.9% in 2019). Negative trends are being observed in all countries that import Kazakh oil, while the country’s main foreign economic partners will record either a sharp decrease in GDP growth, such as China (+1% compared to +6.1% in 2019), or negative GDP growth, such as Russia and the EU (-6.6 and -10.2%, respectively, vs. 1.3% growth in both cases a year earlier).⁴ Despite the gradual softening of quarantine limitations, the largest importer countries have not yet reached full utilization of their production capacities, and this has an adverse effect on economic forecasts for Kazakhstan in 2020.

2. The negative impact from the termination of the OPEC+ deal. Although the new agreement on production cuts reached by the OPEC+ group in mid-April led to a slight growth in oil prices, they are still far from the pre-crisis levels. Under this agreement, Kazakhstan has committed itself to cutting daily production by 390,000 barrels from May to July, compared to this indicator for October 2018. ACRA believes Kazakhstan is unlikely to commit to further production cuts in the near future, and in time will return to a level of oil production that is in line with its long-term plans. However, ACRA assumes that in the second half of the year, losses from reduced volumes may be partially compensated by an acceleration in oil production, which will bring the annual indicator up to 85.2 mln tons (used as an assumption in ACRA’s base case scenario). ACRA expects production to subsequently recover to 100.8 mln tons by 2024.

The duration of the new OPEC+ agreement in 2020 will depend on how its participants assess the imbalances between supply and demand in the oil market and their perceptions of a comfortable oil price (this is determined by the break-even level of a country’s oil sector and the price at which its budget is balanced, and also depends on the country’s ability to maintain its position in the oil market). In its base case scenario, ACRA assumes that limits on the production of oil will improve coordination between the members of OPEC+ in the short term. After this, the differences in interests of these countries will stoke uncertainty about the real duration of the agreement, although it has formally been determined.

Over the past 20 years, the Kazakh economy has grown mainly thanks to uninterrupted expansion of oil production. The current production cut amid low oil prices is one of the main factors in the decline in economic activity in the country. ACRA expects global demand for oil to recover slowly in 2020. This is due to a decrease in the supply of goods and services compared to the pre-crisis level due to quarantine measures, and also difficulties from the point of view of recovering demand caused by the lower solvency of consumers and changes in their preferences amid the pandemic.

According to ACRA’s base case scenario, the average price of Urals oil will be USD 40/bbl in 2020, given the slow recovery of demand for oil throughout the year and the actions of the OPEC+ members. In the forecast period (up to 2024), ACRA views the key factors determining the price of oil as the speed of economic recovery in major commodity importing countries and the effectiveness of oil exporting countries’ joint efforts to restrict export volumes.

ACRA estimates that the global economy and largest national economies will begin recovering in 2021 and this will facilitate growth in demand for Kazakhstan’s commodity goods. The IMF has predicted that the global economy will grow by 5.4% in real terms in 2021, while developed economies should see 4.8% growth, and the key economies that consume the most commodities will grow at different rates, from +3% (Japan) to +9.2% (China). In 2021, the IMF expects the growth of the largest commodity importers to support the growth of commodity prices. At the same time, oil prices will also react to OPEC+ participants’ ideas about the balance of supply and demand in the market and possible steps to prolong, water down or cancel the production cut agreement. After 2021, balanced growth in supply will likely lead to higher oil prices.

Taking the above factors into account, ACRA’s base case scenario assumes that the price of Urals oil will be around $50/bbl in 2021 and grow to $55/bbl in the period from 2022 to 2024.

Internal shock: the introduction of quarantine measures due to the coronavirus pandemic

The first case of coronavirus infection in Kazakhstan was recorded on March 13. Already on March 16, the start of quarantine measures aimed at considerably limiting economic activity in the majority of sectors was announced. In May, the country began a gradual exit from the quarantine regime, although on the condition that it may be re-introduced in individual regions in the event of new outbreaks.

In ACRA’s base case scenario, the pandemic will heavily influence economic activity this year and have a lesser impact in 2021. Future quarantine measures may either be introduced nationwide (to a limited extent), or in certain sectors (for example, limits on international flights, holding mass events, and travel companies), or in specific regions or cities. ACRA assumes that sufficiently wide vaccination of the population that would allow for a potential removal of all restrictions will take place no earlier than 2021. Consequently, the economy will only be able to enter the trajectory of full-fledged recovery in 2021 in the best case.

The sectors that have suffered the most from the quarantine measures include transport and warehousing, and also wholesale and retail trade (the short-term economic indicator shows a year-on-year decline from January to May 2020 of 14% and 12.3% in real terms); the only exception to this is the social component.[1] ACRA’s base case scenario assumes that Kazakhstan may go into recession this year, with economic activity declining by 1.9% in real terms. This is expected to be followed by annual growth of 3.7–6% in 2021–2024, supported by growth in the construction sector (3–4% per year), agriculture (4–7%), and manufacturing (4–5.2%). The decline in economic activity in 2020 has mainly been caused by a downturn in mining activities (4% in comparable prices), which is partially offset by higher indicators in the sectors for generation of electricity, gas, and steam, and water distribution, and also agriculture and construction.

ACRA expects that in connection with the quarantine measures, the deviation from the long-term growth trend of the economy may amount to up to 6 percentage points in 2020 in real terms. However, in 2021 the impact of this negative effect will be exhausted, and due to this growth will continue. According to ACRA’s forecasts, economic capacities will remain underutilized until the end of 2020 due to partial administrative restrictions, as well as due to an increase in costs from the possible realization of risks of personnel being infected when performing their jobs. In addition, a decline in investments caused by the difficulty of predicting the economic situation in the country in general and its individual regions is also having a negative impact.

The industries of Kazakhstan’s economy that are not part of the extractive sector will begin to recover in 2021 and gradually approach the long-term growth trends. ACRA expects agriculture and manufacturing to demonstrate the fastest growth from 2021 to 2024 (6% and 4.8% annually). A less dynamic recovery is expected in the trade and services sector, which is primarily made up of small and medium-sized businesses. The SME segment has been affected by deeper shocks, has a less significant financial buffer, and the effectiveness of the programs to support the segment raises questions (while big business is a beneficiary of direct support from the state).

ACRA’s pessimistic scenario assumes the possible return to serious administrative restrictions until either the majority of the country’s population are immune by having either caught the disease or been vaccinated against it. In this case, restrictions will be in place for a long period in 2020–2021 and affect almost all sectors of the economy. From 2022 to 2023, certain segments[2] will near their long-term development trends faster than others, however, in some sectors there is the risk of structural problems arising that will prevent a full recovery from the shocks of 2020 (especially with respect to manufacturing).

⁵ Socially significant consumer goods.
⁶ Construction, generation of electricity gas and steam, and water distribution.

Anti-crisis measures of the government and the NBK and their impact on the economy

The government of Kazakhstan and the National Bank of Kazakhstan (NBK) have deployed a set of measures to support the country’s economy and population (Appendix 2). In total, the country’s anti-crisis package amounts to approximately KZT 5.9 tln (8.2% of GDP forecast for 2020) and includes measures such as tax breaks for SMEs and the hardest hit sectors, and also direct payments to the population. The additional part of budget expenditures amounts to KZT 2.1 tln (or 2.9% of GDP), while all budget expenditures on the anti-crisis package exceed this indicator by one-and-a-half times. The package will be funded by transfers from the NFRK, borrowings and, in part, by the reallocation of budget expenditure items.

The size of Kazakhstan’s 2020 fiscal package is unprecedented and exceeds the potential decline in economic growth (around 6%). This means it is possible to expect a softening of crisis trends in the economy this year and the stimulation of a faster recovery in 2021.

Given the shortfall in budget revenues related to the external shock and quarantine restrictions, and also the increase in transfers from the NFRK and higher budget deficit, fiscal losses in 2020 may amount to around 10.9% of GDP.

The state is allocating a total of 8% of GDP, including funds from the republic’s budget (KZT 3.4 tln[1]) and off-budget funds (KZT 2.5 tln).

Pressure on the tenge in the FX market was lowered thanks to measures by the government and the NBK to support the national currency and reduce its volatility. In the first case, we are talking about the mandatory sale of foreign exchange earnings by enterprises of the quasi-public sector and the introduction of a number of restrictions on currency exchange operations, in the second — about measures to change the base rate and limit speculation in the market (Appendix 2).

⁷ Budget expenditures will grow by KZT 2.1 tln and KZT 1.3 tln will be reallocated at the expense of other expenditure items.

Comments on the key indicators of the forecast

Monetary sector

Base rate

Following the 13–16% plunge of the tenge in early 2020 compared to 2019, the monetary authorities raised the base rate to 12%. The authorities justified their decision by the desire to contain the rush for foreign currency. In addition, in March-April 2020, the NBK carried out foreign exchange interventions totalling USD 1.49 bln in net terms. It should be noted that despite the interventions, the NBK’s gold and foreign exchange reserves grew by USD 0.62 bln in early May and reached USD 30.5 bln. This was due to an increase in the price of gold and the sale of USD 0.25 bln worth of refined gold to the NFRK portfolio.

In early April, the NBK lowered its base rate to 9.5% and expanded the corridor to 2 percentage points amid expected weak economic activity. Apparently, the stage of cardinal monetary steps has ended, since the totality of the decisions made by the authorities corresponded to the depth of market shock. Considering this, ACRA does not expect significant changes in monetary policy in the absence of new shocks that are not included in the forecast scenarios.

ACRA’s base case scenario assumes the base rate ranging within 7-10% over the forecast period, with further stabilization at about 8% in 2024, an inflation rate of 5–7%, and taking into account the expected further deceleration of price growth.

Inflation is subject to multidirectional drivers

According to ACRA’s forecasts for 2020–2024, inflation will depend on two main factors: shrinking consumer demand (a hot topic this year) and the devaluation potential of the tenge associated with the oil market situation and the dynamics of the Russian ruble exchange rate (a more important factor in the long term).

A decline in domestic demand causes deflationary trends in Kazakhstan. This factor is relevant at the moment, however, in the coming months it will most likely lose its relevance as domestic demand “thaws” against the backdrop of the lifting of quarantine measures in the country.

ACRA’s base case assumptions with respect to the exchange rate of the Russian ruble and oil prices imply a certain devaluation pressure on the tenge in 2020–2021; it will become a pro-inflationary factor in the current and next years at least, after which it may weaken. Another pro-inflationary factor is the growing costs in a number of industries caused by the quarantine measures. Under the base case scenario, inflationary trends are expected to slow down in 2020–2023, as the impact of the 2020 consumer inflation shock will level off.

ACRA’s pessimistic scenario is based on the assumptions that the monetary authorities may not fully neutralize the inflationary potential of the economy, and that prolonged quarantine measures affecting the economy’s dynamics over a long period of time may push prices up in the long term. ACRA also admits the possibility of episodic volatility in the foreign exchange market, which could lead to a short-term increase in pressure on the tenge exchange rate. In ACRA’s opinion, such a scenario may be associated primarily with the transition to a floating exchange rate, which resulted in the expansion of the tenge exchange rate range (Fig. 2), as well as with the state of gold and foreign exchange reserves, the liquidity of which is of concern.

The liquidity of the country’s reserves is low: the share of gold in the reserves is 65.6%, while the share of hard currencies accounts for only 34.4% (in March this year, the regulator sold gold for USD 400 mln in order to increase liquid reserves). Due to low liquidity and relatively limited reserves, prolonged pressure on the tenge exchange rate due to expected low earnings in foreign currency may lead to a situation in which the monetary authorities are less inclined to use gold and foreign exchange reserves or have fewer opportunities to do so. This situation potentially carries the risk of increased inflation.

Figure 1. Foreign exchange reserves of the NBK and KZT exchange rate⁸

Figure 2. KZT exchange rate under two different currency regimes

Sources: NBK, ACRA

Kazakhstan’s budget and public debt

In 2020, due to low economic activity, forecasts for the country’s budget revenues were revised, and changes in budget expenditures were caused by measures taken to support the economy and the population against the backdrop of quarantine restrictions. As a result, projections for 2020 and 2021 include a decline in revenues amid a slight cumulative change in expenditures (Fig. 3).

Figure 3. Changes in budget revenues and expenditures forecast for 2020–2021, % of GDP

Source: Government of Kazakhstan, ACRA

ACRA’s base case scenario for the budget and public debt of Kazakhstan envisages an increase in the deficit to 3.7% of GDP and an increase in public debt to 26.6% of GDP in 2020. The main factor reducing budget revenues is arrears on value added tax and corporate income tax, which are generally the key tax sources of budget revenues. The arrears, in turn, are associated with falling prices and production volumes. The decline in revenues from social tax and personal income tax and other budget revenues is caused largely by quarantine and tax break measures. The total shortfall in tax revenues may amount to 2.2% of GDP projected for 2020.

This year’s increase in the transfer from the NFRK from KZT 2,070 bln to KZT 4,770 bln is intended to ensure a relative budget balance. The transfer covers about a third of the total expenditures and allows for avoiding a large-scale increase in government debt. At the end of 2020, according to ACRA’s expectations, the NFRK’s assets will amount to about 38% of GDP, but at the end of the forecast period, this value should stabilize at around 24% of GDP. The budget deficit will be covered by an increase in public debt of KZT 2.7 tln, following which public debt will, according to ACRA’s estimates, increase from 24% of GDP in 2019 to 26.6% of GDP in 2020. ACRA expects that by 2024, the state budget deficit will be in the range of 1.8–4.2% of GDP, and the country’s public debt will reach 28% of GDP by the end of 2024.

Figure 4. Kazakhstan’s budget deficit, % of GDP

Sources: Government of Kazakhstan, ACRA

Appendix 1. Key indicators of the pessimistic macroeconomic scenario

Sources: national agencies, ACRA

Appendix 2

The government’s measures to support the economy and population amid the coronavirus pandemic

Tax breaks and other payment easements⁹

Support to socially vulnerable groups

Support to the economy

Currency control and budget support measures

⁹ These tax measures should cover about 700,000 taxpayers in total.