The Belarus Economy: The Challenges of Stalled Reforms

24 November 2016

A new wiiw study analyses the unique transition experience of Belarus and calls for a new policy set up

Twenty-five years after the dissolution of the Soviet Union, Belarus stands out as a special transition case, combining relative prosperity, socially oriented policies and sprouts of entrepreneurship, with strong remnants of the communist past.

A major new study undertaken by the Vienna Institute for International Economic Studies (wiiw) jointly with colleagues from the Belarusian Economic Research and Outreach Centre in Minsk finds that the transition model of the past quarter century has reached its limits, and argues that policy changes are necessary if the system is to survive. 

Main challenges

Economic policy cannot continue as it has, and the government is facing three main challenges. First, inflation expectations are high, which is driving up real interest rates and limiting fixed investment growth. Second, debt levels among  state-owned  enterprises  and foreign  currency  borrowers  are  elevated, and  asset  quality  is  poor,  threatening  macroeconomic  stability.  Third,  the government  has  high  FX-denominated  rollover  needs,  and  reserve  levels  are minimal, requiring large-scale external borrowing every year to fill the financing gap. 

Less state, less centralism, less overspending

In  wiiw’s  view,  although  Belarus’  economic  model  per  se  has  not  been discredited, it needs to change in three ways to survive. First, the state’s role  in  the  economy  must  be  reduced.  Second,  the  hierarchical  process  of policy  formation  needs  to  be  altered.  Third,  hard  budget  constraints  must  be imposed on state-owned enterprises and banks. 

Belarus’ unique transition path …

Belarus has followed an idiosyncratic economic path since the break-up of the Soviet Union. It has undertaken few market reforms, there has been little privatisation of  state-owned  enterprises,  and  GDP  and  employment  remain  concentrated  in  state hands. Russian subsidies have provided financial aid in return for political loyalty. 

This  approach  has  produced  some  positive  results.  Belarus  has  been  able  to prevent  asset  stripping  of  state-owned  enterprises,  limit  rent-seeking  behaviour,  and preserve engineering and production capabilities. The economy grew by 6.1% on per year  average  in  1996-2014,  well  above  the  averages  for  the  Commonwealth  of Independent States (CIS) and the EU Member States in Central, East and Southeast Europe  (CESEE).  In  per  capita  income  terms  (at  purchasing  power  parity),  Belarus went  from  less  than  50%  of  the  CESEE  EU  Member  State  average  in  1995  to  over 70% by 2014.

… is over

However,  this  approach  has  also  resulted  in  distortions.  Directed  lending  from state-owned banks has reduced incentives for state-owned enterprises to restructure, caused  a  deterioration  in  the  quality  of  banks’  loan  books,  and  contributed  to  a misallocation of resources. 

Reduced Russian financial support since 2007 has prompted increasingly risky fiscal  and  monetary  policies.  Belarus’  government  has  continued  to  provide  fiscal and  monetary  stimulus  to  the  economy,  leading  to  large  increases  in  external  debt. This approach resulted in macroeconomic instability and currency crises. 

After  the  collapse  in  the  oil  price  in  2014  and  major  slowdown  in  the  Russian economy,  it  had  become  clear  that  the  policy  set  up  in  Belarus  could  not  be maintained.  The  currency  peg  was  abandoned,  an  inflation  targeting  regime  was announced, and fiscal policy was tightened. Macroeconomic stability was restored, but real  GDP  contracted  by  3.9%  in  2015,  the  first  negative  outturn  since  1995.  wiiw expects  contractions  of  2.8%  and  0.9%  in  2016  and  2017,  respectively,  and  only  a meagre return to growth of 1.6% in 2018.