With three rounds of elections in the near past and a clear European path underscored by the signing and ratification of the EU Association Agreement, the Georgian story is again turning positive. The Free Trade Agreement with the EU, which comes into force September 1, 2014, sets a clear roadmap for the country to further streamline and harmonize economic policy towards European standards. These steps and the recent spate of upbeat economic data are laying the groundwork for further economic growth.
Investment growth surged to 28% in 1Q14 and we expect it will continue growing robustly. Public and private investments began to grow again and increased 19% and 29% y/y in 1Q14, respectively. Imports of investment goods increased 9ppts q/q to 17% y/y in the 2Q, public investment spending surged to 43% y/y and total domestic credit growth averaged 21% y/y in the 2Q, which are all signs of improved investment activity. We expect the trend to continue for the remainder of the year.
We expect output growth will come in at 5.0% in 2014. The economic recovery took hold in 4Q13 and, continued into 1H14 as GDP expanded 7.1% and 5.1% y/y in 1Q and 2Q, respectively. Based on improved consumer and business confidence and planned fiscal and monetary stimulus, we expect output growth at 5.0% this year.
Regional tensions pose a limited risk on the growth outlook. The slowdown in Russia, which will likely be intensified by western sanctions and crisis in Ukraine, pose a minimal risk to Georgian growth because Russia and Ukraine account for a relatively small share of goods exports (13% in 2013) and FDI (just 4.2% of net cumulative FDI over 2004-1Q14). Remittances constitute Georgia’s largest exposure to Russia, but they have proven resilient during past turbulence including the recent economic crisis and the 2008 war.
FDI will be reliable source of current account deficit funding in 2014 and beyond. Alongside the economic recovery, a recent increase in imports suggests the C/A deficit will widen to an estimated 8.0% in 2014. Nevertheless, FDI related to the EU DCFTA will be reliable source of C/A funding in the coming years.
Exports are continuing to grow, and imports have also started to rise on the back of recovering consumer and business confidence. The EU DCFTA will further spur exports and enhance the diversification and competitiveness of Georgian products.
Inflation remains subdued at 2.0% in 1H14. With inflation well below the NBG’s 6.0% target for 2014, monetary policy is likely to remain loose to stimulate the economy, in our view.
Loose monetary policy and a planned fiscal expansion are adding fresh stimulus to the economy. The accommodative monetary policy has prompted loan growth of 21% in recent months, and loan dollarization is on a downward trend. Fiscal policy will be expansionary this year, with the debt-to-GDP ratio at a comfortable 36%.
The economy has ably absorbed the currency depreciation and the new equilibrium exchange rate looks to be supporting competitiveness. The real effective exchange rate (REER) is boosting the competitiveness of exports and the tourism sector.
Looking at Georgia’s growth in 2014 and beyond, we believe external challenges can be mitigated by coherent economic policies. Today’s Georgia – corruption-free, open, and flexible, with a clear political vector and signs that democratic institutions are working – is well-placed to serve regional markets. Recent positive developments, a clear roadmap for fresh reforms and the government’s commitment to the enactment of the plan can help the economy reach new heights.
