Turkmen Economy Needs Real, Not Superficial Reform

When President Gurbanguly Berdymuhammedov unveiled ambitious economic reform plans after taking office in February 2007, pledging to rescue his country from stagnation and integrate it into the world economy, analysts hailed it as a revolutionary step.



Nearly a year on, there is little sign of progress. The economy and the financial sector have seen no serious structural changes. Hard information about the true state of the economy remains unclear because statistics and budget data remain closed to the public.



President Berdymuhammedov admitted the extent of the problems in one area - monetary policy - at a government meeting on November 12.



The official exchange rate is 5,200 manats to the US dollar, but access to foreign currency at this artificial fixed rate is severely limited and many companies and small-time traders have to buy dollars on the black market at nearly five times that amount, meaning that imported goods are priced accordingly.



“The state suffers immense economic and political losses from the existence of two exchange rates, official and black market,” the president, who is also prime minister, told cabinet members. “For some, this disparity is lucrative, but the state loses out. We can see these losses in the textile and oil and gas industries, where we price products at the official rate of 5,200 manats [to the dollar] but use the black market rate to buy imported equipment.”



Berdymuhammedov said the two rates needed to be unified by 2009, when a redenomination of the manat is planned. He then tasked the central bank and the finance and economics ministries with achieving this.



The monetary authorities duly made a serious attempt to close the gap between official exchange rate and the black market rate of 24,000 to the dollar. By November 15, three days later, the dollar’s sale value on the black market had plummeted to 6,000 manats, close to the official rate.



It is unclear how this was achieved, as the black market is by definition not controlled by the state. The assumption has to be that the central bank dumped dollars on the market to soak up some of the demand. However, the move failed to shake intrinsic perceptions of the two currencies’ relative values, as the dollar could still only be bought at the higher rate even after its sale value fell.



This attempt to manipulate the black market, which is probably a more accurate reflection of the manat’s true value, and tie it to the unrealistic official rate did not last. Even by the evening of November 15, equilibrium had been regained and the black market rate for selling and buying was back at 24,000 to the dollar, where it has stood for the last two years.



The financial authorities may have cut short their intervention out of a realisation that it could have unsettling effect on the many who keep their cash in US currency. Or they may just have decided that the experiment was unsustainable.



One problem holding up real reform is the rigidly vertical power structure in Turkmenistan, which allows the president to dispose of almost all financial revenues. This means he unilaterally controls the huge foreign currency revenues coming from gas exports.



The president alone has the right to assign loans credits to different sectors of the economy. It is up to him to write off credits through commercial banks, determine interest rates, conduct foreign currency operations and set the exchange rate.



This is a result of the law on the Central Bank of Turkmenistan, adopted in 1993, which deprived the bank of the right to make independent decisions on monetary policy. Since then, the bank’s principal role has been to mechanically execute the president’s orders.



Turkmenistan receives large revenues from energy exports, and because the trade balance is in surplus due to depressed levels of imports, large resources are concentrated in the hands of the president.



Under the country’s tight currency regime, almost all foreign currency proceeds have to be submitted to central government. These are saved in correspondent accounts held in abroad and withdrawals are made only by the president, who authorises payments to sectors of the economy.



Predictions made by consultants from the International Monetary Fund in 1994 that the Central Bank law would undermine the entire financial system of the country including the exchange rates have been amply realised. As the Central Bank does not operate independently, it is unable to employ monetary instruments to influence the economy.



Since the manat is kept at an artificial exchange rate rather than being allowed to find its own value, it enjoys little public confidence and the American dollar effectively operates as a second currency.



To overcome this crisis, the government needs to take radical measures to strengthen the financial sector.



First, it must review the Central Bank law and grant the institution complete independence in directing monetary policy and building gold and foreign exchange reserves. It needs to introduce a floating exchange rate determined by the results of activity on inter-bank currency exchanges.



Many countries have a floating rate which is managed by the central bank, where supervised fluctuations in the exchange rate allow the authorities to make corrections to macroeconomic factors such as deficits or surpluses in the balance of payments.



Steps need to be taken to prevent the manat from being marginalised by the dollar and other foreign currencies as the normal, accepted means of payment.



For a start, this requires the government to stop conducting so much of its business in foreign currency. Second, banks must be allowed to engage in foreign exchange activity, so that the market sets the rate. And third, the government must abandon the practice of requiring all foreign currency receipts to be submitted centrally.



It must also stop forcing the Central Bank to extend loans to unprofitable state industries, whose losses then have to be written off. Such loans go to the agricultural sector and for the financing of pensions, benefits and salaries.



These credit lines result, in effect. in unsupported emissions of money, so that we currently see a growth in monetary circulation not matched by a growth in production. Government, specifically the finance ministry, must find other ways to fund this kind of expenditure.



Real reform would also require a revision of budgeting practice to eliminate the two-tier system which separates domestic tax revenues from external foreign currency receipts.



Under the previous president, Saparmurat Niazov, who died a year ago, much of this second tier – mainly gas, oil and cotton revenues - was wasted on luxury palaces, government buildings and gilded monuments.



A better way to soak up these resources would be to use them to build the planned Avaza tax haven on the Caspian shore, for which one billion dollars have already been allocated.



Finally, tax legislation needs to be improved. The government must also start ensuring that finished goods and raw materials, including energy resources, are exported at market rates.



The forthcoming redenomination of the manat, therefore, demands a whole range of measures to strengthen the economy, not simply the kind of exchange rate adjustment the authorities attempted in November.



However, it remains doubtful whether the Turkmen leadership is ready to relax controls on monetary regulation and open up the rest of the economy.



Berdymuhammedov has ordered officials to stop allowing companies to file non-transparent statistics. No detailed official statistics have been published in Turkmenistan, and the figures that are published - showing massive growth in production year by year - are of little value as they are constructed out of local economic reports that have been massaged and inflated to allow state enterprises to show their masters how well they are doing. Most enterprises engage in “double book-keeping”, concealing the real state of affairs and presenting a wholly false picture to ministers.



Such practices are likely to alienate potential foreign investors.



Despite his intentions, however, recent months have seen no real change. The brief foray into the black market ended in little except the arrest of a few illegal currency traders.



Annadurdy Khadjiev is an expert on the Turkmen economy, based in Bulgaria.