Context:

Over the past decade, Georgia’s economy has grown at an average annual rate of 5%. This was in spite of numerous shocks, including the global financial crisis of 2007–08, the conflict with Russia in 2008, and the regional headwinds of 2014.

Economic growth is projected to increase to an average rate of 4.5% a year over the medium term, but downside risks to growth remain.

In 2017, the fiscal deficit is expected to remain at 4.1% of GDP due to larger investment spending, in line with the International Monetary Fund–supported program. Poverty declined from 35% in 2006 to 21% in 2015. The poverty rate is projected to decline through 2019, reaching 20.9%.

Inequality, which was higher in Georgia than in most other former Soviet states, also declined during the same period, indicating that prosperity was increasingly shared. However, although incomes have increased, the economy has not managed to expand the supply of jobs and reduce unemployment.

Georgia’s key macroeconomic vulnerabilities involve risks to external and fiscal sustainability. The pace of poverty reduction may continue to slow and eventually stall if the recent rate of private sector employment growth were to decline.

 

Population, million 3.7
GDP, current US$ billion 14.3
GDP per capita, current US$ 3,864
School Enrollment, primary (% gross (2015) 116.9
Life Expectancy at birth, years (2016) 74.7

RECENT ECONOMIC DEVELOPMENTS

Georgia is experiencing an economic recovery in 2017 on the back of stronger growth in the United States, Europe, and Russia. Exports rose by 30% in the first half of 2017. Similarly, remittances recovered significantly (by 20% year-on-year [y-o-y]), with a positive impact on the nontradable sectors. Pulled by the resulting boost in domestic demand and net exports, real GDP grew by 4.9% in the first six months of the year (y-o-y).

The recovery in exports and remittances, along with an accelerated adjustment of imports, helped to narrow the current account deficit from 13.5% of GDP in the first quarter of2016 to 11.8% in the same period this year. Foreign direct investment (FDI) financed nearly 93% of the deficit. The external debt stock rose by 6.6% (y-o-y) by end-March 2017, driven by the higher external financing needs. However, external debt still declined in terms of GDP, standing slightly above 100% of GDP.

Fiscal policy was expansionary in the first half of 2017. To support growth, the Government boosted capital spending by 32% and current spending by 7%. Nevertheless, the fiscal deficit narrowed as revenues overperformed, increasing by 18% y-o-y in the same period. The sharp increase in excise tax rates beginning in January 2017 contributed to the solid tax collections.

The National Bank of Georgia (NBG) raised the monetary policy rate twice in six months of 2017 (by 50 basis points) to tackle rising inflation expectations. Annual inflation increased to 5.7% by end-August, largely reflecting the effect of higher excise taxes. The NBG expects this effect to expire by early 2018, with inflation returning to its target by the end of that year.

Prudent banking supervision reinforced banking sector stability. The sector has remained profitable, yielding a return on assets of 3% and a return on equity of over 20% as of end-June 2017.

Economic Outlook

Economic growth is projected to increase to an average rate of 4.5% a year over the medium term, but downside risks to growth remain. The pickup in growth in 2017 will largely be driven by high public investment and the recovery in the export markets-propped up by the uptick in global oil prices and the improving growth prospects in Georgia’s key trading partners, including Russia.

FDI inflows, which largely originate from Azerbaijan and Turkey, remain resilient. In the outer years, growth prospects are a factor in the continuously strengthening economic ties with the European Union (EU).

At the domestic level, Georgia’s growth recovery is predicated on a sustained reform program. In particular, this would entail continuing recent policies that have created favorable conditions for private investment and an enhanced business climate, productivity growth, and greater export competitiveness, as well as ensuring that a prudent macroeconomic policy framework remains well-embedded.

Fiscal sustainability is expected to strengthen through revenue-enhancing measures announced in the 2017 budget to counter the impact of the adoption of an Estonian-type tax model. The latter, which replaced the corporate income tax with a dividend tax, came into effect in January 2017 and is expected to lower tax revenues by 1.5% of GDP. To offset this loss, the Government increased the excise tax for tobacco and fuel and introduced an excise tax on cars.

The Government also committed to restraining current spending. As a result of these measures, the fiscal deficit is expected to narrow in 2017-20, though in 2017, the fiscal deficit is expected to remain at 4.1% of GDP due to larger investment spending, in line with the IMFsupported program.