The FINANCIAL — In our last week’s article we examined Georgia’s economic growth in the 12 months before the 2012 parliamentary elections.
FINANCIAL — In our last week’s article we examined Georgia’s economic growth in the 12 months before the 2012 parliamentary elections.
In particular, we reviewed the popular argument that much of this economic growth was driven by the “political business cycle” effect of public (over)spending prior to the elections.
Our analysis showed that the construction sector (the prime suspect for politically motivated spending) did in fact exhibit an atypical growth pattern just before the elections, and that growth rates in construction collapsed right after October 2012. However, we also pointed out that the construction boom alone could not explain the 7.9 percent GDP growth inthe four quarters before the2012 elections (2011 q4 – 2012 q3),because construction constitutes less than 5% of the country’s GDP.
In fact, the boom in construction accounted for a little more than a fifth(21%) of the pre-election growth gains. Other, much larger sectors, like manufacturing, transport and wholesale/retail trade jointly accounted for more than half(53%). Since these sectors’ growth dynamics prior to the parliamentary elections did not exhibit an unusual pattern(see charts 4 and 5)it would be hard to argue that the pre-election growth was entirely due to the political business cycle effect.
From pre-election over-spending to post-election under-spending?
Given that the post-election slowdown (5.6 percentage pointsin the first three post-election quarters) cannot be entirely attributed to politically-motivated overspending by the UNM government, a logical question to ask is whether some of it was caused by an overly conservative fiscal stance – “under-spending” – by the Georgian Dream government in the early phase of its rule.
UNM’s construction extravaganza (e.g. the glass bridge on river Mtkvari, the new parliament building in Kutaisi and the presidential palace) met with public criticism well before the elections. Yet, perhaps unfortunately for the Georgian economy, the Georgian Dream coalition made the criticism of ‘chronic overspending’ a centerpiece of its electoral campaign, thereby committing itself to excessive austerity.
Independent experts have sincenoted that the new administration may havegone a little too far in its zeal to cut public expenses.For example, IMF’s August 2013 report (“Georgia – 2013 Article IV Consultation”), addressed exactly this issue and advised that “in the short term, the government needs to overcome recent budget under-spending and allow a higher budget deficit later this year, to the extent that revenues are lower due to the slowdown.”
Anatomy of Georgia’s economic slowdown
As we showed last week, the slump in construction was directly responsible for 2.4 of the 5.6 percentage point decline in GDP growth rate in the post-election period (q4 2012 – q2 2013). Which sectors accounted for the remaining 3.2 percentage points? Nearly one third (1.8 percentage points) was due to weaker performance in the manufacturing sector (which may have been affected by the slowdown in construction).
Though less pronounced,the slowdown in manufacturing is a serious issue given that it was, and still is, the main driver of Georgia’s economic growth. Besides, as we can see from Chart 4, the slump in manufacturing is much harder to explainby pre-election politics. This is also the case with the transport sector, the third largest (0.9 percentage points) contributor to growth slowdown.No unusual pre-election pattern can be detected in these two sectors.
Political transitions, expectations and uncertainty
The 2012 parliamentary elections and the peaceful transfer of power were largely a new experience for Georgia. The Georgian Dream’s victory caused a sense of euphoria, fuelling expectations of a rapid improvement in living standards. However, the Georgian society had soon to discover that economic progress would only come through hard work.
The reality of “cohabitation” and divided power may have contributed to a sense of political fragility and an extended pause in private investment. Georgia’s private sector was evidently unprepared for the complications arising from Georgia’s confusedtransition from one system of governance (presidential) to another (parliamentary republic).With so much political uncertainty, everyone (investors, producers and consumers) seemed to be holding back and waiting for the presidential elections in October 2013.
Perhaps not expecting to win, the Georgian Dream government may have taken longer to get its act together and provide assurances of a stable policy environment that would appease investors’ worries in due time. Moreover, certain policy decisions (e.g. the moratorium on foreign land ownership) did little to encourage foreign direct investment on which Georgia has been relying so heavily in the past.
In addition, consumers’ hopes for a better future failed to boost aggregate demand. This could perhaps be a strange case of ‘exuberant complacency’, when optimism translates into inaction rather than action on the part of the private agents, who may be waiting for the government to create a more favorable economic environment (e.g. reduce prices) in a short period of time. More likely, however, the surge of consumer optimism resonated little in the Georgian credit-constrained economic environment of early 2013.
ISET’s Consumer Confidence Index(Chart 6) provides an excellent account of the uncertain political and economic environment up until October 2013: the euphoric jump in expectations after the Georgian Dream’s political triumph,quick disillusionment and the roller-coasterof expectations against the backdrop of very slow improvement in people’s assessment of the present situation.
On October 27, the Georgian Dream candidate won the 2013 presidential elections, effectively endingthe 12-month period of political “cohabitation” and triggering another euphoric moment in consumer sentiment. With the responsibility for the Georgian economy now being fully shifted tothe new government,the Georgian Dream coalition will get afair chance to resetGeorgia’s economic growth. This, and the positive news arriving from the agricultural sector in recent months suggest that Georgia’s dreams may be become true sooner rather than later.
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