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Covid brings unexpected positives for Kazakhstan

Kazakh 2021
By GlobalMarkets
29 Jun 2021

The oil-rich nation took a blow from the global pandemic, but Kazakhstan is getting back on track

Kazakhstan’s remarkable run of growth and development was derailed in 2020 as the Covid-19 pandemic slammed the brakes on the global economy.

Kazakhstan’s economy shrank by 2.6% in 2020, according to the World Bank, its first annual decline for almost 20 years and a sharp reversal from the 4%-4.5% growth seen in the previous three years. Meanwhile, the national currency, the tenge (Kzt), slumped to its lowest ever level against the US dollar.

While the Covid-19 crisis has been the toughest test of its economic strategy, there is plenty of hope among business leaders that Kazakhstan can regain its former glory. The currency has recovered from its lows and the economy is expected to show headline growth again this year.

Bolat Mynbayev, head of strategy and operations for KPMG Central Asia, says: “If we look at 2021, there are forecasts from various sources, including the World Bank, that growth should be 2.5% or higher this year, so it seems like the economy is getting back on track.”

Before the pandemic, there were two main concerns for Kazakhstan’s long-term economic stability. First was the question of political succession after Nursultan Nazarbayev’s near three-decade presidency. While Nazarbayev remains a figurehead for the country and still wields considerable influence, elections in 2019 saw the presidency pass to Kassym-Jomart Tokayev. The transition proved smooth, and the stability and strategy of Kazakhstan has been almost unchanged.

The second question related to the country’s heavy dependence on hydrocarbons. As the source of Kazakhstan’s wealth and development, the significance of fossil fuels to the economy left the country exposed as global demand slumped, and with it the price of oil.

The word on everyone’s lips

“The word diversification is pronounced here every five seconds,” says Andrey Kurilin, country officer for Citibank in Kazakhstan. “Any economy that is diverse is a stronger economy, especially when you are focused on exports of fossil fuels. In Kazakhstan, clearly there is a reliance on oil, but it is also a significant source of wealth.”

As well as exposing Kazakhstan’s dependence on oil and gas, 2020 also threw a spotlight on other sectors. Government figures released in June 2021 showed that while headline GDP shrank in 2020 other sectors continued to grow. Construction grew by 11.2%; information and communications grew by 7%; agriculture by 5.6%; and manufacturing by 3.6%.

The figures led Kazakhstan Finance Minister Yrulan Zhamaubayev to declare that the real economy of Kazakhstan continued to grow in 2020.

It also continued to attract considerable foreign investment. The policy of being ‘everyone’s friend’, pursued by Nazarbayev and continued by Tokayev — a lifelong diplomat by profession and a former deputy secretary general of the United Nations — has kept the doors open to investment through the ups and downs of geopolitics. It also appears to have helped weather the pandemic storm.

Globally, foreign direct investment fell by 42% in 2020. Kazakhstan, however, was a rare exception: according to the UN Conference on Trade and Development (UNCTAD), foreign direct investment in Kazakhstan rose by 19% last year.

Development in greenfield projects declined, but continued investment into existing projects ensured Kazakhstan’s outperformance. Chief among these has been China’s Belt and Road Initiative (BRI), first announced in 2013 in the Kazakhstan capital Astana, since renamed Nur-Sultan. Kazakhstan’s location and scale — a vast expanse of territory at the heart of central Asia — has made it a key link in the BRI and the continued growth in construction and communications in Kazakhstan during 2020 partly reflects the ongoing development involved.

The initiative has not moved ahead entirely smoothly. The turn of this year saw bottlenecks at the Kazakhstan-Chinese border — notably at the flagship BRI crossing point of Khorgos. Officially due to temporary Covid-19 restrictions, fears were raised that trade restrictions from China were also playing a role.

Despite such problems, Kurilin at Citibank is still optimistic: “Things have picked up big time. Belt and Road is now a visible revenue source to the government.

“I would not say it’s easy to make this work well. It has to do with talking to many, many stakeholders and there will be geopolitical challenges. It’s not simple, but despite that it has been positive, and it’s been developing.”

KPMG’s Mynbayev cites transport and logistics as one the leading opportunities for diversification in Kazakhstan, thanks to the BRI. Road and rail development have seen thousands of miles of transport routes upgraded. In a country of 1m square miles, the rail system is a crucial network and national railway company Temir Zholy is the country’s largest employer with around 127,000 workers.

Elsewhere, food production is already a key element of the Kazakhstan economy, where grain production vastly exceeds its domestic requirements and 70% of crops are exported. “We see a lot of investment, especially from local investors, and there are a lot of government support programmes into the sector,” says Mynbayev.

There has also been significant foreign interest, most notably from the US group Tyson Foods, which in 2019 launched a major investment in beef and poultry processing. Its target market is not just Kazakhstan, but the wider central and east Asian market to which the country provides access.

A financial hub in Central Asia

Kazakhstan has high hopes of becoming not just a transport hub but also a financial centre. The Astana International Financial Centre (AIFC) is the key initiative in this plan. Launched in 2015, the AIFC has a special carve-out from Kazakhstan law and operates its own arbitration system under English common law and overseen by judges drawn from the British judiciary. It is also home to the Astana International Exchange (AIX) launched in 2017 — shareholders include Goldman Sachs and the Shanghai Stock Exchange, and it uses a trading platform from Nasdaq.

“The AIX has built a trading ecosystem with around 30 members, including brokers from Kazakhstan, China, Russia, and Europe,” says Renat Bekturov, chief executive officer of the AIX. “And very soon, the AIX Index will be launched with the objective of improving the investing process by assessing the performance of Kazakhstan’s most liquid capital market segment and allowing potential investment plans to be compared to the index.

“The AIX expects a revision of Kazakhstan’s ranking in the MSCI and FTSE indexes for emerging markets, increasing demand and investments [by] passive investment funds.”

With a mission to develop capital markets inside Kazakhstan, AIX has segments dedicated to the mineral extraction sectors and infrastructure linked to the BRI, while also actively supporting fintech and green investment.

“Green finance development concerns are extremely significant both globally and locally in our country, considering the critical role that they may play in the transition to a more environmentally friendly economy,” says Aidar Kazybayev, chief executive officer of the AIFC’s Green Finance Centre.

He adds that Kazakhstan’s commitment to reducing carbon emissions and its ambition of becoming carbon neutral by 2060 will provide a spur to investment. “To attain these objectives, action will have to be taken, including the building of new renewable energy-driven power plants.”

The AIFC can already point to some success in its efforts. Since its inception, the organisation has attracted total portfolio investments of $1.2bn, of which $321m has been in equity and $887m in fixed income. Meanwhile, direct investment attracted through the AIFC has reached $3.2bn.

Kairat Kelimbetov, governor of the AIFC, says it aims to become a “gateway” to central Asia “to help international investors and businesses to develop and continue to grow”.

The financial community in Kazakhstan is universally supportive of the AIFC and its ambitions. It is, however, still early days. “The AIFC is not yet as developed as it could be, but it is something investors should be keeping in mind,” says Guram Andronikashvili, chairman of the management board of Kazakhstan’s ForteBank.

KPMG’s Mynbayev agrees that the AIFC needs more time to prove itself: “If you look at the strategy and the underlying principles of this centre then perhaps you can see that it is the right move. At least, that is what we hear from investors who are not yet invested here in Kazakhstan. Having this English common law makes it quite interesting.”

AIFC might have developed faster over the last year had it not been for pandemic-induced delays to key listings planned for 2020 — most notably the airline company Air Astana and oil and gas group KazMunayGaz.

Kazakhstan’s oil and gas sector has significant involvement from overseas oil groups, which Citibank’s Kurilin believes has been important to its success. “Unlike some other oil-rich countries Kazakhstan has a high proportion of foreign majors in exploration and exports,” he says. “The companies that are controlled by those majors contribute a very significant share of government revenues. This makes Kazakhstan totally unique among emerging markets.”

A central pillar of the oil and gas sector, KazMunayGas, is still 90% owned by the Kazakhstani sovereign wealth fund Samruk-Kazyna, and 10% owned by the central bank. KazMunayGas accounts for 25% of the country’s oil and gas condensate and 15% of natural gas and associated gas. It transports 56% of oil and 77% of gas in Kazakhstan. When an IPO was first mooted, the group’s value was estimated at about $6.5bn.

KazMunayGas’s listing on the London Stock Exchange and AIX was scheduled for late 2020, but the uncertainty caused by the pandemic and the slump in oil prices led to a postponement. Similarly, state-owned Air Astana was slated for an IPO in 2020, but this was delayed. Both are now expected to list in 2022.

Despite these setbacks, the commercial sector has seen significant moves, not least the flotation of finance and technology group Kaspi in November 2020. The listing was the largest technology IPO in London last year, and since the IPO the stock has more than doubled in price valuing Kaspi at $18bn. Global depository receipts in Kaspi are also traded on AIX.

Kaspi began as a straightforward bank but, under chief executive Mikhail Lomtadze, is now better described as a financial technology group and a symbol of Kazakhstan’s digital economy. Kurilin at Citibank says: “Every person has a mobile phone so what that bank managed to do was say ‘once you have a mobile phone you have bank’. They dramatically accelerated the disruption of banking services.”

Kurilin’s statement that ‘everyone has a mobile phone’ is a deliberate exaggeration, but one made for good reason. In 2018, 65% of Kazakhstanis owned a mobile phone, a higher proportion than China, Japan, or Italy and higher than any other member of the Commonwealth of Independent States (CIS). This high penetration of mobile technology is one of the most obvious indicators of Kazakhstan’s developing consumer economy.

For banks such as Alfa-Bank Kazakhstan, moving swiftly to capture this opportunity has been a priority. “Before the pandemic emerged, we were already undertaking a digitalization strategy, which has accelerated in the past year,” says Andrey Timchenko, CEO of Alfa-Bank Kazakhstan. “Indeed, in addition to investing in developing the speed and functionality of our mobile app, we have also moved 85% of all services for individuals and 99% of services for all legal entities online.”

Consumers bounce back

Before the pandemic, consumer spending in Kazakhstan had already been rising rapidly. Lockdown in 2020 caused a collapse, but this year that pent-up demand has been unleashed. Official figures from The Agency of Statistics of the Republic of Kazakhstan showed consumer spending in the first quarter of 2021 not only bounced back, but hit a new high of Kzt36.6trn ($85.6bn).

The long-term trend, suggests Citibank’s Kurilin, is only partly due to the rising wealth of many, if not all Kazakhstanis —cultural change is also playing a role.

“There used to be an issue around the culture of spending,” he says. “People took the money they earned, put it into dollars and then put it in the bank. The banking system had 80% of its deposits in dollars. Why? Because people did not know what to do with their money. But suddenly it’s about spending, spending, spending. I look at this very optimistically and many of our clients who have come here in the last three or four years are in retail and food.”

State spending has gone some way to mitigating the financial damage of the crisis, including direct payments to vulnerable citizens and loans to businesses. The central bank’s loan scheme to small and medium-sized enterprises made Kzt800bn ($1.9bn) available at an interest rate of 8% — below the official central bank rate of 9%.

This in turn is not without risks. While the World Bank noted the value of continuing fiscal support to the economy until the pandemic is fully vanquished, it cautioned that easily accessible credit raised the risk of future non-performing loans.

Consumer debt has been controversial, with the Nur-Sultan government facing public demonstrations on the issue earlier this year. However, as with many issues in the wake of Covid-19, the question is whether this distress is a short-term result of the pandemic, or a longer-term problem.

“I think it is difficult to judge,” says ForteBank’s Andronikashvili. “If you look at the statistics of consumer indebtedness per head of population, Kazakhstan is lower than Russia and it is definitely lower than central and eastern Europe. But a large portion of purchases here are through some sort of credit. From that perspective there is a concern, and it is wise for the central bank to be monitoring that situation.”

The government has introduced debt-forgiveness schemes for the country’s most vulnerable consumers, which it has been able to do thanks to its own fiscal security. The country’s debt to GDP ratio stands at just 22%, according to Fitch Ratings, and global debt markets appear supportive. Fitch rates Kazakhstan at BBB, and yields on Kazakhstan debt trade at some of the lowest levels in the CIS.

As a result, The World Bank has no concerns about state finances, declaring in its outlook report: “The country has ample fiscal reserves and would face no difficulties in investing in infrastructure, education, and healthcare, as well as the green agenda put forward by the authorities.”

‘Kazakhstan. Very Nice!’

The Borat films of Sacha Baron Cohen initially, and unsurprisingly, caused great offence in Kazakhstan, but they also gave the country a far higher international public profile. Late last year Kazakh Tourism adopted the character’s catchphrase: “Very nice!”

Making the most of its movie fame may turn out to be a smart move. The vast expanse of Kazakhstan — it is the world’s largest landlocked nation — offers significant potential for the tourism sector. In the 10 years between 2009 and 2019, annual tourist numbers tripled from 3m to 9m. In 2019 the tourist industry was worth $2.9bn, or 1.6% of GDP.

Tourist numbers plummeted in 2020. With international travel restrictions still in place in many countries, the sector is unlikely to see a full recovery in 2021. Looking further ahead, however, many are optimistic.

“Tourism has definite potential,” says Andronikashvili at ForteBank. “The problem is that there has not been so much time and money spent on the infrastructure that generally tourism needs. But there are programmes building on that, and to be honest, the Covid situation even helped a little, because there was a development of internal tourism and that helped with the demand for infrastructure.”

Once the pandemic has receded across the world, global trade, global travel and demand for oil and gas should return. The strategy of state divestment should also move forward decisively and provide a boost to the country’s own nascent capital markets. In 2022, Kazakhstan should get fully back on track.

It could turn out that the crisis has brought unexpected positives — injecting ambition and investment into the long-standing drive for diversification.

By GlobalMarkets
29 Jun 2021