The Cost of Russian Sanctions for Georgia

The Cost of Russian Sanctions for Georgia

The FINANCIAL -- The crisis in Ukraine will almost instantaneously affect trade and capital flows between Georgia, Ukraine, and Russia, experts predict. The effects will likely be negative and hit Georgia in a situation of economic recovery.

Russia and Ukraine are among the top 5 destinations for Georgian produce, together absorbing about 14% of total Georgian exports in 2013. Georgian exporters, together with citizens who depend on remittances from these countries, will be the first who will feel the impact of the crisis in Russia and Ukraine. There is also expected to be an unpleasant consequence for the ever-increasing share of tourists coming to Georgia.

“There will be an impact, because Ukraine accounts for around 7% of Georgia’s exports, and the Ukrainian economy will suffer a recession this year. If, as we expect, the Russian economy slows further and the Rouble remains weak then this will affect Georgia through remittances,” Charles Seville, Sovereign and International Public Finance at Fitch Ratings Ltd, told The FINANCIAL.

“Since Georgian exports are still rebuilding their share of the Russian market from a low base, we wouldn’t necessarily expect a fall in trade,” Seville predicted.

International rating agency Fitch has been downgrading the ratings of nine Russian state-owned companies, including Gazprom, to negative from stable during the last week.

The agency has also revised its outlook to negative from stable on 16 Russian banks, including Sberbank, Rosselkhozbank, Alfa Bank, Gazprombank and Vensheconombank.

“The rating actions follow Fitch’s revision of the Russian Federation’s Outlook to Negative from Stable and the affirmation of its Long-term foreign and local currency Issuer Default Ratings (IDRs) at ‘BBB’ on 21 March, 2014,” the agency said.

Fitch revised its rating of Russia to negative from stable citing a potential impact of Western sanctions on the economy and business environment in Russia.

According to National Bank of Georgia, in 2013 a total of USD 801 million was flowing in from Russia. Ukraine contributed USD 45 million to the money inflows, still significant for an economy as small as Georgia’s.

“An economic downturn in Russia and Ukraine would hit many Georgian citizens, often pensioners and elderly people, who depend on the remittances of their children and other family members sent from these countries. This may aggravate a trend that already exists: in January 2014, money inflows from Russia decreased by 4% and from Ukraine by 5% (compared to January 2013),” Florian Biermann, Professor, and Giorgi Tsutskiridze, Research Fellow at ISET, predicted in their research at The Forum for Research on Eastern Europe and Emerging Economies, (FREE).

“Russia and Ukraine are among the top 5 destinations for Georgian produce, together absorbing about 14% of total Georgian exports in 2013. 68% of all wine exported from Georgia was sold in Russia and Ukraine (44 and 24 percentage points, respectively) in 2013. In both countries, Georgian wines are sold at the higher end of the price range and are typically consumed by people with middle and high incomes. It is likely that these exports, in particular those to Ukraine, will be affected considerably by the crisis. This may happen through decreased demand for luxury foods and through a possible depreciation of the Ukrainian Hryvna and the Rouble vis-à-vis the Georgian Lari,” said Biermann and Tsutskiridze, ISET.

“Another sector that may be affected by the situation in Ukraine is the car re-export business. Georgia imports huge numbers of used cars from the U.S., Europe, and Japan, and passes them on to countries in the region. While this business hardly yields potential for real economic progress, it accounts for roughly 25% of Georgian exports! Of this 25%, about 7 percentage points go to Russia and Ukraine. Moreover, many cars are imported to Georgia on the land route from Europe through Ukraine and Russia (often driven by private, small-scale importers). If it will become more difficult to cross the border between Russia and Ukraine, this business, providing income to many low-skilled Georgians, may be at risk,” they added.

“It should also be noted that Ukrainians and Russians make up an ever-increasing share of the tourists coming to Georgia (though the biggest group of tourists are Israelis). Also through this channel, an economic downturn in Ukraine and Russia will have unpleasant consequences for Georgia,” experts predicted.

“The economic consequences of Ukrainian occupation are the most topical issue in the world. The clash between Russia and the West has grown into ‘economic warfare’. Therefore two questions arise: 1. Political - how effective will the economic sanctions be on Russian aggression? And 2. Economic - how much will the sanctions cost Russia and the region, as well as the rest of the world?” said Besik Namchavadze, Economist at Policy and Management Consulting Group (PMCG).

“The short-term impact of the crisis is another aspect. So far it has not yet had a negative impact on our economy. The economic crisis in Ukraine did not start with the Euro Maidan events. The country has been facing crisis from the very outset of 2013 and the government has been going to default. The Georgian economy is not significantly dependent on the Ukrainian. Ukraine makes up 6.6% of Georgian export and 7.6% of import. Ukraine’s FDI amounted to just 2.8% of total volume of 2013. Remittances from Ukraine make up just 3%. Therefore if a deep crisis will develop in Ukraine it will not have an external shock on the Georgian economy. However, despite the annexation of Crimea, with the financial aid received from the West, association with Europe and with the right reforms, Ukraine has the potential to recover from crisis and switch to the path of rapid economic development,” said Namchavadze.

In his words, the possible crisis of Russia will have more of an impact on the Georgian economy. “A significant reduction of energy resources is one of the expected results of the potential crisis. It will be beneficial for Georgia, as an energy resources importer country.”

According to Namchavadze, sanctions will not only harm Russia. “The sanctions imply the complication or interruption of rational economic relations with Russia. Meanwhile these relations are also useful for the West. The West will also have to pay some “welfare cost” for sanctions, so they tighten the sanctions carefully and gradually. The ratio of economic strength of Russia and the West is important in this confrontation. Russia’s economy (GDP) amounts to USD 2 trillion. The USA and EU’s economy is USD 33 trillion. The figures clear the resources of each side. Russia’s stock market indices are dropping by 15-20% due to the annexation of the Crimea, the indices of the western stock market reduced by 2-3% during the same period. However, it is clear that Russia is more eager to pay a higher price than the West. Russia will not give up anything until it must do to avoid a crisis,” he said.

“It is too early to see changes in the economic situation in the region. The most important aspect was whether Ukraine would sign the AA and support its integration with the West or join the Eurasian Union. Although it cost Ukraine the loss of its territory, the economic power in the region tilts in the direction of the West. Ukraine is currently a low-income, developing country. With proper reforms and political stability Ukraine has the potential to become a big industrialized country. Therefore Ukraine and the West are the ‘winners’ of this confrontation in the long-run. Crimea, which Russia received at a ‘price’, cannot satisfy the demands that it would get in the event of Ukraine’s entrance in the Eurasian Union. Hence, there is a danger that Russia will not be satisfied with the Crimea. It will have a result on the West’s activity towards other countries in the region, especially Georgia and Moldova. Georgia has now got the chance to pass quickly through the stages of EU integration. It is paradoxical, however, that the largest “winners” from these processes are Georgia and Moldova. The West is signing its AA and DCFTA expeditiously, there are also talks regarding abolition of a visa regime. Moldova might join a visa free regime with the EU by the end of the current year,” Namchavadze said.

“Georgia can do little to bolster the short-term effects that are transmitted through the trade and capital flow channels. Political decision-makers should be aware of problems that might arise for particularly vulnerable groups in the population, like pensioners who will lose income in the event that remittances from Russia and Ukraine run dry, and help out with social support if necessary,” ISET.

“Regarding the long-term impact, Georgia should use this opportunity to gain ground in the competition with the northern transit routes. The Caucasus Transit Corridor can become much faster and cheaper if (a) a deepwater port and modern port facilities with warehouses will be built in Poti, (b) the road and train infrastructure will be improved, and (c) it will be easier to bring cargo over the Caspian Sea. Regarding the latter point, it would be important to assist Azerbaijan in improving the port management at Baku (in particular reducing corruption), and in reforming the monopolistic Azerbaijani State Caspian Sea Shipping Company,” said Biermann and Tsutskiridze.

“Azerbaijan is investing USD 775 mln in the Georgian part of the Baku-Tbilisi-Kars railway, proving their serious interest to upgrade CTC. Given this impressive commitment of Azerbaijan, Georgia should not stand back,” they said.