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Economic Lesson of the week:Georgia's national competitivness

Written by Eric Livny, ISET Policy Institute Director

01/07/2013 09:54 (290 Day 14:48 minutes ago)

The FINANCIAL -- In the globalized world of today, increasing national competitiveness has become an important policy target for any country.



While engaging in mutually beneficial trade, technological and cultural exchanges, countries find themselves in a race for scarce mobile resources such as financial capital and talent. Winning in this race are those locations that offer the best conditions for economic activity – skilled and disciplined labor force, high quality services and urban amenities, transparent and efficient public administration, etc. These locations – not only countries, but also regions and cities – serve as magnets for investment and people, and are able to grow and reach prosperity, the ultimate goal of economic policy.

What is it that makes some countries more competitive than others? Understandably, a lot depends on inherited conditions: cultural norms such as punctuality (not Georgia’s main strength), decency and hospitality, the quality of local labor and firms, geographic location, natural resource endowment, etc. As is becoming increasingly obvious, a key role in attracting resources is played by the quality of national institutions: strength of democracy, health and education systems, rule of law, independent judiciary and protection of property rights. These institutions can be reformed, as Georgia has proven, and hence their prominence in the competitiveness debate. Finally, specific government policies are very important in ensuring security and macroeconomic stability, providing public services and infrastructure, facilitating regional collaboration, trade, travel and communication with the rest of the world.

GEORGIA IN THE GLOBAL COMPETITIVENESS INDEX -- There are plenty of indices that purport to measure various aspects of competitiveness: ease of doing business, economic freedom, human development, democracy, political stability, travel and tourism competitiveness, to mention just a few. Our focus in the report that ISET-PI has created is on Georgia’s performance in the Global Competitiveness Index (GCI) produced by the World Economic Forum (WEF). This is one of the better known and comprehensive international rankings, covering more than 140 countries. The GCI is based on more than a hundred indicators (“drivers of economic performance”) divided, for analytical purposes, into twelve “pillars of competitiveness”.

Georgia has been included in the GCI since 2005, shortly after the Rose Revolution. Reflecting the rapid growth of its economy and considerable improvements in governance, quality of institutions and infrastructure, it has since advanced in the GCI, both over time and, to a lesser extent, relative to peer countries. Last year was a breakthrough year as far as relative progress is concerned: Georgia moved from 88th to 77th position in the global ranking, above the average for CIS countries, and very close to the much larger Ukraine (73rd). Overall, considering the 2005-2012 period, Georgia has become one of the biggest improvers in GCI.

GOING FORWARD -- Without any doubt, Georgia’s progress on any conceivable measure of economic performance and competitiveness during the last 10 years is quite encouraging. The first wave of broad brush liberal reforms has, in many instances, cleaned the slate and created the foundations on which Bidzina Ivanishvili ’s administration could build the new economic and political order. While many of the early reforms produced excellent results, there remain serious gaps affecting Georgia’s real and perceived competitiveness. For instance, Georgia now has one of the most liberal business environments, but it is not yet a place where doing business (as opposed to registering a business) is actually easy. Among key problems are access to finance, qualified labor, small market size and independence of the judiciary.

The peaceful democratic transition Georgia experienced late in 2012 is likely to diffuse political risks and spark investor optimism, giving Georgia a good chance to bring growth rates back to their pre-2008 level. The change in leadership also provides Georgia with an opportunity to think through and, if necessary, reset Georgia’s future strategy and policies. Our report dwells on three aspects of such a strategy: dealing with the social and political “externality” imposed on the economy by the persisting under-employment and growing income inequality; assuring foreign investors that market-friendly reforms will be deepened, not reversed; and reducing trade and transaction costs to enable Georgia to perform the regional hub function.

First, though quite impressive when looking at GDP statistics, Georgia’s growth did not create enough jobs, leaving more than 50% of the working age population in low-productivity subsistence farming, un- or under-employment. Many former industrial workers saw their human capital depreciate over the previous decade and left the labor force. The incidence of unemployment is particularly high among youth, many of whom have spent five or more years acquiring a university degree but lack the professional skills demanded by the market. The result has been political uncertainty and risk, which, in turn, translated into unfavorable country credit ratings and high lending interest rates, further slowing down investment and job creation in the non-agricultural sector. We contend that the social planner should seek to resolve the vicious circle created by the social and political externality.

Second, given the lack of domestic savings, Georgia’s ability to increase its capital stock remains dependent on foreign investment. Yet, FDI has decelerated considerably after 2008, in the wake of the internal political standoff, the August 2008 war with Russia, and the global financial crisis. Georgia was able to compensate for the lack of foreign investment by borrowing abroad at deeply concessionary rates, as well through technical assistance, foreign aid and remittances. The resulting capital account surplus has helped finance investment in public infrastructure and current consumption (imports of goods and services). However, while alleviating current account deficits in the short run, these capital inflows are no substitute for foreign direct investment in manufacturing, energy, tourism or agribusiness sectors that could improve the country’s technological base and boost its export potential. Attracting foreign investors should thus be another top priority for the new Georgian administration. Doing so will require strong steps to improve the administration of justice and property rights protection, on the one hand, and assure potential investors that there will be no reform reversals in such key areas as land ownership, labor code and competition law, on the other.

Finally, the racing imagery invoked by the competitiveness framework should not lead Georgian policymakers into believing that achieving competitiveness is about a zero-sum game among nations. As a small country on a crossroads between Asia and Europe, the only way in which Georgia can promote its international competitiveness is by opening up to the rest of the world and cooperating with its neighbors, Russia included. For example, Georgia is already benefiting from investment originating in the oil rich and more “competitive” Azerbaijan. It also enjoys the opportunity to trade with Azerbaijan and serve its trade and transportation flows. Moreover, the lion’s share of resources attracted by Azerbaijan is obtained in third countries, not at Georgia’s expense. The general point is that one of the easiest and least costly ways for Georgia to increase its competitiveness and market size is to further reduce trade and transaction costs with its neighbors.  In this way, and by prioritizing investment in essential pieces of trade and logistics infrastructure, Georgia could leverage its convenient location and “Doing Business” ranking to assume the much-coveted role of a regional hub.

The National Competitiveness Report for Georgia is made possible by the generous support of the American people through the United States Agency for International Development (USAID).The contents are the responsibility of the author and do not necessarily reflect the view of USAID, the United States Government, or EWMI.



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