The Financial Times: Can Europe’s last dictatorship avoid an economic meltdown?

Reuters V. Fedosenko

Today, it is clear that without deep economic reforms, Europe’s last autocratic regime cannot continue on that path, Dalibor Rohac, Martin Miszerak write in their paper.

Belarus has seen very little political change since gaining its independence in 1990, in spite of a warming in relations with the European Union (EU), which has recently ended visa bans and unfrozen the assets of 170 senior Belarusian officials. With the 12-year-old Mikalai Lukashenka being visibly groomed for a leadership role by his father, President Aliaksandr Lukashenka, Belarus remains Europe’s most bizarre political regime, steeped in Soviet nostalgia. Can it survive in today’s economic climate?

The enigmatic Belarusian economy, with its massive share of state ownership, finds itself in the midst of a deep crisis. Unlike Russia, which enjoys a stream of revenue from natural resources, there are few options left for Belarus but to move away from its state-dominated economy.

Belarus is closely integrated with Russia. In 2015, its GDP contracted by 3.5 per cent, while Russia’s contracted by 4.2 per cent. No recovery is in sight in either country. Katerina Bornukova, a research associate at BEROC, a Belarusian think tank, says Belarusia’s economy may contract by as much as 3 per cent this year.

The government has responded to the recession with restrictive monetary and fiscal policies, measures that were unavoidable given Belarus’s lack of foreign exchange reserves. “The country has tiny foreign currency reserves which in a perverse way is beneficial,” says Aliaksandr Chubrik, director of IPM Research Center, another think tank.

At the end of 2015, foreign currency reserves stood at approximately $4.2bn, enough to cover just six weeks’ worth of imports. This has forced the government into running a balanced budget and reducing its “directed lending,” which involves transfers from the central budget to state-owned banks for the purpose of further lending to state-owned enterprises (SOEs). Most of those are not profitable and in dire need of restructuring. The proportion of directed loans declined from over a quarter of all bank loans at the beginning of 2015 to just 16.2 per cent at the end of the year.

Whether they like it or not, the fall in directed lending is now forcing SOEs into restructuring. Lukashenka ordered them to cut costs by 25 per cent and to seek new export markets other than Russia. Belarusian trade with Russia, after all, is denominated in roubles and does not generate enough hard currency for the public budget.

Belarusian SOEs account for some 60 per cent of the country’s employment. “The risk is that a general collapse of SOEs might precipitate money printing by the central bank,” worries Chubrik.

Behind the crumbling façade of communist nostalgia, there is also a different face to the Belarusian economy. Take the Minsk-based Hi-Tech Park, for example. Established in 2005, the Park is essentially a tax-free zone and serves as a domicile for some 140 IT companies, many of which are completely foreign-owned. The core business of the Hi-Tech Park is software development for multinational clients throughout the world. The biggest company present is EPAM Systems, also listed on the New York Stock Exchange.

The Hi-Tech Park has also spawned such phenomena as the smartphone application Viber, started in 2010 by Israeli and Belarusian entrepreneurs, as well as the online game developer Wargaming.net, founded in 1998 by Belarusian entrepreneur Victor Kislov, who was recently added by Bloomberg to its list of the world’s billionaires.

While foreign direct investment has not played a major role in the Belarusian economy (in 2015, net FDI inflows were negative), two out of the three Belarusian wireless operators are now majority-owned by a Turkish and an Austrian investor, respectively. The government is also trying to attract a foreign strategic investor for its third operator.

Among privately owned Belarusian banks, foreign ownership dominates, too. And it is not just, as one would expect, the big Russian players – the Austrian Raiffeisen Bank and the Polish IDEA Bank have a strong presence. There is a bank privatisation programme underway, under the auspices of the European Bank for Reconstruction and Development. The share of private bank ownership would receive a major boost if Belinvestbank – the main object of the EBRD-assisted initiative – is indeed turned over to private hands.

But make no mistake: “A great deal remains to be done in Belarus in the area of structural reforms, particularly privatisation,” emphasises Daniel Krutzinna, a German national and member of the supervisory board of the Belarus Development Bank.

“The biggest headwind for the country,” Krutzinna says, “is the SOE sector, where reforms have only just started.” Even if complete privatisation remains elusive, the government can improve the governance of SOEs by enhancing management autonomy and incentives to restructure and find new markets. In many cases, it is also possible to recruit management talent from other post-communist countries, which have seen successful restructuring of their SOE sectors.

Finally, the government is examining other privatisation methods than just sales to strategic foreign investors. The Polish model of “employee leasing” (basically an instalment sale to an employee-management owned subsidiary), or the Czech “voucher privatisation” system could be among the options.

Back in the 1990s, Lukashenka forcefully rejected market reforms embraced by other post-communist economies and instead placed his country on a path that combined autocratic government with a dominant state ownership of the economy. Today, it is clear that without deep reforms, Europe’s hermit kingdom cannot continue on that path. It remains an open question whether the Lukashenka dynasty can pull off the necessary economic reforms without opening the country up politically as well – and losing its hold on power.