Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized v2 1 82320 Kazakhstan Country Economic Memorandum Beyond Oil Kazakhstan’s Path to Greater Prosperity through Diversifying Volume II: Main Report June 2013 Poverty Reduction and Economic Management Unit Europe and Central Asia Region iv Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ACRONYMS AND ABBREVIATIONS ANMR Agency of the Republic of Kazakhstan on NPLs Non-performing Loans Regulation of Natural Monopolies NTBs Non-tariff Barriers ANS Adjusted Net Savings NTMs Non-tariff Measures ASRK Agency for Statistics of the Republic of OECD Organization for Economic Co-operation Kazakhstan and Development BEEPS Business Environment and Enterprise OLS Ordinary Least Squares Performance OTRI Overall Trade Restrictiveness Index CIS Commonwealth of Independent States PIRLS Progress in Reading Literacy Study DB Doing Business PISA Program for International Student EAP Europe and in East Asia and the Pacific Assessment EBRD European Bank for Reconstruction and PPL Public Procurement Law Development PPP Purchasing Power Parity ECA Europe and Central Asia RCA Revealed Comparative Advantage ECU Eurasian Customs Union SITC Standard International Trade Classification EU European Union SMEs Small and Medium Enterprises EXPY Export Sophistication SOEs State Owned Enterprises FDI Foreign Direct Investment SPS Sanitary and Phyto-sanitary FSU Former Soviet Union SPV Special Purpose Vehicles FTAs Free Trade Agreements TBTs Technical Barriers to Trade GAC Government & Anticorruption TIMSS Trends in International Mathematics and GCR Global Corruption Report Science Study GDP Gross Domestic Product TTRI The Trade Tariff Restrictiveness Index GoRK Government of the Republic of Kazakhstan TTRI Tariff Restrictiveness Index ICT Information and Communication UNCITRAL United Nations Commission on Technologies International Trade Law IEMP Index of Export Market Penetration UNCTAD United Nations Conference On Trade and IPO Initial Public Offering Development ISA International Standards on Auditing UNESCO United Nations Educational, Scientific and LAC Latin American and Caribbean Cultural Organization LITS Life in Transition Survey USA United States of America MENA Middle East and North Africa USD United States Dollars MFN Most Favoured Nation VET Vocational Education and Training MFOs Microfinance Organizations WB World Bank MICs Middle-income Countries WDI World Development Indicators MINT Ministry of Industry and New Technologies WEF World Economic Forum MNCs World Bank, Multi-National Corporations WGI World Governance Indicators MOES Ministry of Education and Science WTO World Trade Organization NALCD National Agency for Local Content Development v KAZAKHSTAN - GOVERNMENT FISCAL YEAR January 1 – December 31 CURRENCY EQUIVALENTS (Exchange Rate Effective as of May 1, 2013) Currency Unit Tenge US$1.00 = 151 Tenge WEIGHTS AND MEASURES Metric System Vice President: Philippe H. Le Houerou Country Director: Saroj Kumar Jha Sector Director: Yvonne Tsikata Sector Manager: Ivailo Izvorski Country Manager: Sebnem Akkaya Task Team Leader: Francisco Galrao Carneiro vi Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying CONTENTS Acknowledgements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .xi Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xii Chapter 1: Why Diversification is Important for Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 How Rich and Abundant is Kazakhstan in Natural Resources? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 How Well has this Wealth Been Used?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 How can Kazakhstan Become a More Developed Economy? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 Chapter 2: Oil Wealth, Volatility and Macroeconomic Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17 Have Kazakhstan’s Exports Become More Concentrated? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 How Does Dependence on Natural Resource Exports Affect Macroeconomic Volatility?. . . . . . . . . . . . . . . . . 23 What are the Potential Welfare Gains from Various Fiscal Rules? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 What are the Lessons for the Future?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31 Chapter 3: Gaps and Opportunities for Human Capital Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Where Are the Jobs in Kazakhstan? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Do Kazakh Workers Have the Skills Demanded by the Market? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 What Will Need to Change to Reduce the Mismatch in the Labor Market? . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 Chapter 4: The Institutions that Matter for Diversification . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44 Does Kazakhstan Have a Strong Governance and Regulatory Environment? . . . . . . . . . . . . . . . . . . . . . . . . . . 45 Are Market Institutions Well Developed in Kazakhstan?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50 What Will Need to Change to Strengthen Kazakhstan’s Institutions? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 Chapter 5: Options to Increase Competitiveness in the Short Term . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Where Are Kazakhstan’s Comparative Advantages? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Has Kazakhstan Faced Excessive Trade Barriers? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69 How Could Better Logistics Help? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74 When Can Industrial Policy Be Useful? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75 What Can Be Done in the Short Term to Help Diversification?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 77 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96 vii LIST OF TABLES Table 1.1: Where is the Wealth of Kazakhstan?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Table 1.2: Natural Capital Per Capita in Eurasia and Other Regions, 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Table 1.3: Capital Stock Per Capita in Eurasia and Other Regions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Table 1.4: Changing Wealth Per Capita . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Table 1.5: Kazakhstan’s Undiversified Export Product Structure, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 Table 2.1: Structure of Kazakhstan’s Exports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20 Table 2.2: Average Prody by Lall (2000) Classification. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21 Table 2.3: Determinants of Export Concentration and GDP Growth Volatility, 1980-2005 . . . . . . . . . . . . . . . . . . . 23 Table 2.4: The Impact of an Increase in Export Concentration on Macroeconomic Volatility . . . . . . . . . . . . . . . . 24 Table 2.5: Main Destinations for Kazakhstan’s Top Ten Export Products, 2008-10 . . . . . . . . . . . . . . . . . . . . . . . . 27 Table 2.6: Estimated Welfare Gains From Different Types of Fiscal Rules. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28 Table 4.1: Selected Indices of Institutional Quality, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 46 Table 4.2: World Justice Project: Open Government . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48 Table 4.3: Percentage of Respondents Satisfied with Public Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49 Table 4.4: DB Enforcing Contracts, 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51 Table 4.5: Time and Costs of Various Stages of Enforcing Contracts, 2013. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51 Table 4.6: DB Resolving Insolvency, 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52 Table 4.7: DB Starting A Business, 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Table 4.8: Doing Business Dealing with Construction Permits, 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Table 5.1: Trade Tariff Restrictiveness Index and Overall Trade Restrictiveness Index . . . . . . . . . . . . . . . . . . . . . . 70 Table 5.2: Export Weighted Average Tariffs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71 LIST OF FIGURES Figure 1.1: Endowments and Policy Objectives that Matter for Development and Diversification . . . . . . . . . . . . . . 1 Figure 1.2: Eurasia is the Most Abundant Region in Natural Resources . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Figure 1.3: Eurasia Converts the Smaller Share of Resource Rents Into Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Figure 1.4: Index of Growth: Total Wealth, Population, Per Capita Wealth (1995, 2000, 2005, 2008) . . . . . . . . . . . 4 Figure 1.5: Gross National Saving and Adjusted Net Saving as Percent of GNI in Kazakhstan, 2010 . . . . . . . . . . . 5 Figure 1.6: Adjusted Net Saving . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Figure 1.7: Subsoil Asset Resource Rents by Region, as Percent of GDP . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Figure 1.8: As Oil Wealth Grows Kazakhstan Experiences a Steady Decline in Poverty Rates . . . . . . . . . . . . . . . . . . 6 Figure 1.9: Oil is Well that Ends Well . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Figure 1.10: Riding the Commodity Boom . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Figure 1.11: Favorable Terms of Trade Benefitted Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Figure 1.12: A Spectacular Increase in the Size of the Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 Figure 1.13: Kazakhstan Became an Upper-Middle Income Country in Less than 10 Years. . . . . . . . . . . . . . . . . . . . 8 Figure 1.14: Kazakhstan May Attain a High-Income Status by 2016 Assuming Stable Oil Prices . . . . . . . . . . . . . . . 8 Figure 1.15: Even If Oil Prices Drop Sharply and Stay Low, Kazakhstan’s GNI is Expected to Grow . . . . . . . . . . . . . 8 Figure 1.16: Trend in Output Per Worker for Kazakhstan and Comparators, 2000-10 . . . . . . . . . . . . . . . . . . . . . . . . 9 Figure 1.17: Regional Output Per Worker in 2011 and Rate of Growth During 2000-11 . . . . . . . . . . . . . . . . . . . . . . . 9 Figure 1.18: Employment Ratios for Kazakhstan and Comparators, 2000-10 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 viii Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 1.19: Headcount Poverty Rates for Kazakhstan and Comparators (2001 and 2009) . . . . . . . . . . . . . . . . . . 10 Figure 1.20: Shared Prosperity Indicator for Selected Countries in the Europe and Central Asia Region. . . . . . . . 10 Figure 1.21: Growth Incidence Curve, 2002-09 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Figure 1.22: Changes in Poverty and GDP Per Capita . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Figure 1.23: Decomposition of Income Poverty Gains by the Components of Welfare Aggregate . . . . . . . . . . . . . 11 Figure 1.24: Employment, Real Wage Growth Rates and Gini, 2001-11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Figure 1.25: Share of the Population with Income Below the Subsistence Minimum and Gross Regional Output Per Capita in 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 Figure 1.26: Employment Types Across Consumption Per Capita Quintiles in the 4th Quarter of 2009 . . . . . . . . 12 Figure 1.27: Employment Growth Rates Between 2000 and 2011 and the Wage Ratio to the Country Mean. . . . . 13 Figure 1.28: Life Expectancy by Gender 2000 and 2010, Ages . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Figure 1.29: Mortality Rate, Under-5 Per 1,000 Live Births in 2000 and 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Figure 1.30: Addiction to Oil . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 Figure 1.31: Rising Share of Oil, Gas and Mining in the Economy Evolution of Economic Structure . . . . . . . . . . . 16 Figure 2.1: Kazakhstan Exports Have Grown Faster than World Exports . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Figure 2.2: Kazakhstan Export Composition Excluding Oil, 1996-2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Figure 2.3: Kazakhstan Export Composition, 1996-2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19 Figure 2.4: EXPY Evolution in Former Soviet Republics and Among Selected Resource-Rich Countries . . . . . . . . 21 Figure 2.5: Export Concentration in Kazakhstan and Selected Resource-Rich Economies . . . . . . . . . . . . . . . . . . . 21 Figure 2.6: (Root) Herfindahl Index Against Prediction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 Figure 2.7: Share of Top Five Products Against Prediction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 Figure 2.8: Export-Revenue Concentration and Terms of Trade Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23 Figure 2.9: Number of Export Destinations Kazakhstan and Comparators . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 Figure 2.10: Share of Top Five Export Destinations Kazakhstan and Comparators . . . . . . . . . . . . . . . . . . . . . . . . . 24 Figure 2.11: Steady Progress in Kazakhstan’s Export Market Penetration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Figure 2.12: Russia’s Export Market Penetration Suffered a Setback with the Global Crisis . . . . . . . . . . . . . . . . . . 25 Figure 2.13: Decomposition of Kazakhstan’s Exports by Type of Product and Market Destination . . . . . . . . . . . . 25 Figure 2.14: Kazakhstan’s Export Orientation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Figure 3.1: Employment by Economic Activities, 2011. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Figure 3.2: Employment Growth Rates Between 2000 and 2011 and the Wage Ratio to the Country Mean . . . . . 33 Figure 3.3: Occupational Profile of Employment in 2000 and 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 Figure 3.4: Percent of Employment Per Sector – Male/Female and Urban . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 Figure 3.5: Kazakhstan’s Demographic Window of Opportunity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 Figure 3.6: International Comparison of Labor Productivity in Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35 Figure 3.7: Competitiveness and Different Stages of Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35 Figure 3.8: Gross School Pre-Primary Enrollment in 2000 and 2009. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 Figure 3.9: Tertiary Enrollment in 2000 and 2009. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 Figure 3.10: Share of Enrollment Among 16-17 Year Children by Consumption Per Capita Quintiles in 2009. . . . 36 Figure 3.11: Share of Enrollment Among 16-17 Year Children by Residence . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37 Figure 3.12: Students in Kazakhstan Underperformed in PISA Tests Compared to Their Peers . . . . . . . . . . . . . . . 38 Figure 3.13: The Average Reading Score is Relatively Poor in Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 Figure 3.14: Structure of the Labor Force in Kazakhstan by Level of Education and Place of Residence, 2001 and 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 ix Figure 3.15: Index of Labor Shortages and Surpluses by Education Attainment in 2002 and 2010 . . . . . . . . . . . . 39 Figure 3.16: Percent of Firms Reporting a Given “Basic” Skill to Be Important/Very Important for Specialist/Skilled Workers in Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40 Figure 3.17: Structure of Total Employment in Kazakhstan by Sector and Level of Education, 2007-11 . . . . . . . . . 41 Figure 3.18: Net Job Creation and Number of Graduates in Kazakhstan by Sector, 2010 . . . . . . . . . . . . . . . . . . . . 42 Figure 3.19: Share of Public Spending on Education in 2000 and 2009 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42 Figure 4.1: Kazakhstan’s Governance Indicators Have Shown Improvements Since 1996. . . . . . . . . . . . . . . . . . . 46 Figure 4.2: Regulatory Enforcement Gap Versus OECD Average, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 Figure 4.3: Prevalence of Corruption in Different Branches of Government . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 Figure 4.4: Satisfaction with Quality of Various Public Services and Unofficial Payment . . . . . . . . . . . . . . . . . . . . 49 Figure 4.5: Selected Indicators of Institutional Quality for Kazakhstan and Comparators, 2012 . . . . . . . . . . . . . . 50 Figure 4.6: Kazakhstan is on the Top Third on Ease of Doing Business, But it Could Do Better . . . . . . . . . . . . . . 53 Figure 4.7: Quality of Competition Policy – Kazakhstan and Comparators, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . 54 Figure 4.8: Credit to the Private Sector. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 Figure 4.9: Proportion of Firms Identifying Access to Finance as a Major Constraint for Growth . . . . . . . . . . . . . 57 Figure 4.10: Total Credit Growth and Loans to SMEs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 Figure 4.11: Problem Loans are Well Provisioned But Constrain Banks’ Lending Expansion . . . . . . . . . . . . . . . . . 58 Figure 5.1: Product Space Representation of Total Global Trade. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62 Figure 5.2: Kazakhstan’s Competitive Exports, 1996-2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63 Figure 5.3: Classics, Emerging Champions, Disappearances, and Marginals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66 Figure 5.4: “Marginals” at One Standard Deviation Above Average Density . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66 Figure 5.5: The Endowments that Matter for Eurasia: Human Capital, Financial Development and Rule Of Law 68 Figure 5.6: The Endowments that Do Not Matter for Diversification: Kazakhstan, Natural Resources & Land 68 Figure 5.7: The Endowments that Matter the Most for Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69 LIST OF BOXES Box 1.1: The Main Features of the Paradox of Plenty . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 Box 3.1: What is the PISA and What Does it Measure?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 Box 3.2: Selected Strategic Goals Outlined by the Government in the Sphere of Education and Labor Force Development to be Achieved by 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43 Box 5.1: Defining Classics, Emerging Champions, Disappearances and Marginals . . . . . . . . . . . . . . . . . . . . . . . . 64 Box 5.2: The OECD Sector Competitiveness Engagement in Kazakhstan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 Box 5.3: Two Weights and Two Measures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 Box 5.4: Examples of Self-Discovery. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 76 LIST OF ANNEXES Annex 1: Product Space Concepts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79 Annex 2: Chile Product Space 1984-2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 Annex 3: Australia Product Space 1984-2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 82 Annex 4: Russia Product Space 1999-10 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83 Annex 5: Clusters in the Product Space . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 84 Annex 6: RCA Evolution for Selected Products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91 x Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ACKNOWLEDGEMENTS This report was written by a team led by Francisco Carneiro, Lead Economist, Europe and Central Asia Region at the World Bank. Daniel Lederman, Lead Economist and Deputy Chief Economist, Latin America and the Caribbean Region, provided insightful advice on the concept and structure of the report and contributed substantive inputs at various stages. The team is grateful to the Government of Kazakhstan for its support to this work since its early stages. The high- level brainstorming on economic diversification held in Astana on April 16, 2013 with senior Kazakh authorities provided useful insights. The team also benefited immensely from early interactions and guidance received from Yerbol Orynbayev, Deputy Prime Minister; Kairat Kalimbetov, Deputy Prime Minister; Madina Abylkassymova, Vice-Minister of Economic Development and Trade; government officials from the Ministry of Finance, Ministry of Labor and Social Protection, the National Bank of Kazakhstan; and representatives from the Economic Research Institute. The team also met with the private sector and civil society organizations in Astana and Almaty at differ- ent stages and thanks them for their time and thoughtful views on the scope of this work. The report uses the analytical framework of the World Bank’s Flagship report on growth and diversification in Eur- asia. The team benefited immensely from insightful discussions with Indermit Gill, Chief Economist, Europe and Central Asia Region at the World Bank and his team, in particular Kazi Matin, Ivailo Izvorski, and Willem van Eeghen who were kind enough to brainstorm with the core team on different stages of preparation. The team is grateful to the Macroeconomics and Growth Research Group (DECMG), the International Trade Research Depart- ment (PRMTR), and the Economic Policy and Debt Department (PRMED) for their support during the preparation of this report. The core team included Dorsati Madani, Ilyas Sarsenov, Evgenij Najdov, Sarosh Sattar, Igor Kheyfetz, Esther Naikal, Samuel Maimbo, Aziz Atamanov, William Battaile, Ervin Dervisevic, Havard Halland, Rinaldo Pietrantonio, Jose Molinas and Emanuel Salinas. Professor Eduardo Engel (Yale University and National Bureau for Economic Research - NBER) and Constantino Hevia (DECMG) prepared background papers on optimal fiscal rules and resource administration. Alain D’Hoore and Enrique Blanco Armas were the peer reviewers and provided useful guidance to the team. Naotaka Sugawara prepared several of the figures used in the text. Sarah Nankya Babirye provided superb editorial assistance. Gulmira Akshatyrova and Xeniya Novozhilova, from the Astana country office, and Oxana Shmidt from the Almaty country office supported the team during the several missions associ- ated with this task. The work was carried out under the overall supervision of Ivailo Izvorski, Sector Manager, Poverty Reduction and Economic Management Sector Unit: Macro Economics 1 (ECSP1) and Yvonne Tsikata, Sector Director, Poverty Reduction and Economic Management Sector Unit (ECSPE). Saroj Kumar Jha, Country Director for Central Asia, and Sebnem Akkaya, Country Manager for Kazakhstan provided guidance and supported the team. xi EXECUTIVE SUMMARY Kazakhstan aspires to become one of the world’s 30 endowments. Endowments are classified as: (a) most developed economies by 2050. The government’s endowments that the country already has, such as recently announced 2050 Strategy outlines how the natural capital; and (b) endowments that can be cre- country plans to refine its long-term socio-economic ated and further developed, such as: physical capital; strategy to achieve this goal. The focus is on laying the human capital; and institutional capital. The outcome basis for the accelerated diversification of the economy of the structural transformation of the economy through industrialization and infrastructure develop- should be diversification in the form of a larger and ment, including enhancing human capital to drive more diverse basket of products, and more diversified innovation and economic efficiency. Horizontal poli- services produced for domestic consumption and for cies to improve the overall business environment are a export to a more diverse pool of trade partners. In line core part of that strategy. The government is also with this approach, the objective of policy should be focused on several vertical policies, as articulated in to reduce volatility in the economy, promote produc- the Industrial Acceleration Plan 2010-14. Like many tivity growth and harness employment creation. other successful resource-rich countries, Kazakhstan has a real chance of fulfilling its ambitious objective, Further structural transformation and economic devel- but there are many perils ahead. This report addresses opment in Kazakhstan will require greater focus on the some of the main questions that are likely to confront endowments in which the country is less abundant. In the authorities in the pursuit of the country’s aspiration this context, the report looks at the challenges that (see Spotlight at the end of this Executive Summary). have affected the quality and provision of human capi- tal as well as the existing gaps and opportunities for The wealthiest countries in the world have enjoyed improvements in the quality of institutions in rising living standards and many of them have Kazakhstan. And while diversifying these endowments, increased their levels of wealth and prosperity on the especially within existing institutions, is a long-term back of natural resource abundance. The United States, proposition, this report argues that there are “quick Canada, and Norway are examples of countries that are wins” for Kazakhstan. For example, fixing the educa- well endowed with natural resources and that have tion system, improving the business environment fur- used this abundance well to create other forms of capi- ther, giving people more economic freedom, enabling tal. However, this successful pattern is not the norm innovative finance through the development of non- and there are many other examples of countries that bank financial institutions, and creating better accep- started with sizable endowments of natural resources tance of the idea that “business failure” is not an eco- and have not become more developed or diversified nomic disaster but rather a market signal about while many others have fallen prey of the middle- allocative efficiency. income trap. What are the main determinants of these opposing trajectories? More often than not, the suc- If Kazakhstan makes good use of the right policy levers, cessful countries were those that used their endow- it could become a model of economic development and ments more efficiently and focused their policies on diversification in Eurasia. The Eurasian region1 is blessed reducing volatility, enhancing productivity, and creat- with natural resources, but it could do better at convert ing the conditions for employment growth. ing resource rents into resource revenues. Sub-soil assets per capita in Eurasia are at least three times as This report adopts the analytical framework used in the Eurasia Flagship Report. The framework looks into options that could be explored to help authorities 1 Eurasia covers the countries that used to be part of the Soviet think about diversification across three dimensions: Union excluding the Baltics (Estonia, Latvia and Lithuania): Azerbaijan, Kazakhstan, Russia, Turkmenistan and Uzbekistan diversification of products and services; diversifica- (the resource-rich countries in the group) plus Armenia, Belarus, tion of economic partners; and diversification of Georgia, Kyrgyz Republic, Moldova, Tajikistan and Ukraine (the countries in the group that do not export hydrocarbons). xii Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying high as those found in the Latin America Region, and WHY DIVERSIFICATION IS IMPORTANT at least two times larger than in the Middle East and FOR DEVELOPMENT North Africa Region. However, in spite of all that abun- dance, the wealthiest countries in Eurasia (including Kazakhstan is rich in natural resources but it has not Kazakhstan) have a weaker track record of converting yet accumulated as much wealth as the richest coun- their natural capital into other forms of capital when tries in the world. Kazakhstan’s total wealth in 2008 compared with those two regions. was estimated at US$1,177 billion. This is by all means a sizable amount, but Kazakhstan still has a long way This report is structured in five chapters that outline to catch up with the richest countries in the world. the weaknesses and strengths of the Kazakh economy Its total wealth per capita at US$75,112 is lower and the pressure points that will need to be addressed than the average for upper middle-income countries to put the country on a path of increased prosperity. (US$105,000 per capita) as well as Europe and Central Each of the chapters discusses issues that will be rele- Asia (US$110,000 per capita). In addition, Kazakhstan vant for Kazakhstan’s plans to become a more devel- has not been successful in converting its natural capi- oped and more diversified economy: tal into other forms of capital, which is a warning sign that growth may falter in the future if oil runs out. With „ Chapter 1, Why Diversification is Important for Develop- the vast majority of Kazakhstan’s wealth embedded in ment, discusses how rich and abundant Kazakhstan is its non-renewable natural resources, the country faces in natural resources, how well this wealth has been the challenge of effectively managing them and recov- used, and how important it is to focus on the policies ering their resource rents for investments in other that matter for development and diversification. forms of capital, such as education or infrastructure. „ Chapter 2, Oil Wealth, Volatility and Macroeconomic Having benefitted from a favorable external environ- Management, focuses on the options that Kazakhstan ment, high oil prices, and fast productivity growth, could explore to manage volatility arising from export Kazakhstan has experienced steady economic growth concentration. In doing so, the chapter assesses and outstanding poverty reduction over the last ten whether resource dependence leads to macroeco- years. With improving terms of trade and rising inter- nomic volatility, whether Kazakhstan has been able national prices of oil, the size of the Kazakh economy to avoid volatility, and what macro-policy solutions outgrew that of its peers in the region and contributed are available to Kazakhstan. to bringing the country into the group of upper middle- „ Chapter 3, Gaps and Opportunities for Human Capital income countries in a period of ten years. At the same Development, looks at the structure of employment time, the share of the population living in poverty (as in Kazakhstan and assesses whether Kazakh workers measured by the Purchasing Power Parity (PPP-cor- have the skills demanded by the market. Addition- rected, US$2.5 per capita per day) fell from 41 percent ally, it will look at what needs to change to reduce the 2001 to 4 percent in 2009. Under the assumption that mismatch in the labor market. the external demand for oil and other commodities pro- duced by Kazakhstan will remain strong and oil prices „ Chapter 4, The Institutions that Matter for Diversifica- are not disrupted by other unexpected economic or tion, analyzes the quality of the regulatory and gover- political factors, its current income per capita level may nance environment, how well market institutions double by 2020. This would place Kazakhstan among have developed, and what changes will be necessary the select group of countries with high-income status. to strengthen the quality of institutions. If Kazakhstan has been successful in promoting pro- „ Chapter 5, Options to Increase Competitiveness in the poor growth why should it be concerned with diversi- Short Term, uses the product space analysis to assess fication? In many resource-rich countries, an obvious where Kazakhstan’s comparative advantages are. It concern is what the sources of growth will be when oil then discusses whether the country has faced exces- runs out. A resource-rich economy that has diversi- sive trade barriers, whether there is a role for indus- fied its economic structure, its products and partners, trial policy, and what could be done in the short term and has become less reliant on its most abundant to help diversification. endowment is also less sensitive to macroeconomic shocks transmitted via large fluctuations in commod- ity prices. In addition, with resource-extraction being highly capital-intensive, diversification creates addi- tional sources of employment for the labor force. Indeed, recent research finds a positive association Executive Summary xiii between rising economic diversification and rising suggests that this sequence of effects is statistically per capita income for countries that have per capita meaningful both across countries and for Kazakhstan. income of up to US$20,000. Beyond that level, econ- In this context, the use of fiscal rules for managing omies tend to re-concentrate though high-income the volatility of oil export revenues becomes an impor- countries do not reach concentration levels usually tant tool for policy making. found in low-income countries. If oil export revenues were stable, fiscal rules would be The path to increased wealth, prosperity and diversifi- unnecessary. Indeed, when economies discover or cation in Kazakhstan will be paved with policy options begin to exploit oil reserves, in such a scenario it would that strengthen fiscal discipline, harness the skills of be optimal for society as a whole to increase domestic its labor force, and reshape the institutions that regu- consumption and reduce the share of investment in late the activities of public and private agents. Looking GDP. The main reason is that such discoveries would forward, Kazakhstan’s development objective of join- entail that an economy has become richer and thus the ing the rank of the top 30 most developed countries by incentive to save would be reduced. That is, in techni- 2050 will require a continued steady hand at macroeco- cal terms, inter-temporal consumption (a proxy for nomic management to avoid volatility associated with national welfare) would be maximized by consuming oil dependence, substantial improvements in the area more today. The problem for policymakers is that such of governance and transparency, a more business- a world does not exist, and saving too little today to friendly regulatory environment, concerted efforts to fund current consumption can be both risky from a improve the quality of education outcomes, and debt management viewpoint and from the viewpoint of increasing attention to social policies in order to national welfare when volatility of consumption directly improve the living standards of the Kazakh citizens. reduces household welfare and macroeconomic vola- tility hampers private investment. OIL WEALTH, VOLATILITY AND One important conclusion of this report is that the best MACROECONOMIC MANAGEMENT fiscal rules are those that explicitly include an element of counter-cyclicality. An optimized fiscal rule could Kazakhstan’s exports have increased sharply since bring savings of close to 25 percent of gross domestic independence, but the country has exported more of product (GDP) over the next 25-year period to Kazakhstan. the same to old partners. The value of Kazakhstan’s However, such a rule would be difficult to implement in total exports has increased from US$6 billion in 1996 practice due to the need to rely on numerous economic to US$49 billion in 2010 (in constant 2005 prices), parameters while making decisions about what to do more than an eightfold increase. Non-oil exports have with current oil revenues. The results of a number of increased in value and new products have been added econometric simulations suggest that a simple rule to the export basket, but oil exports have grown faster. based on the standard permanent-income approach As a result Kazakhstan has experienced increasing with an exit clause for periods of severe private-sector export concentration even compared to other resource downturns could yield similar benefits as the optimal dependent countries. In addition, the larger contribu- (and extremely complex) rule. An additional advantage tion to export growth is accounted for by exports of old of this approach is that it could provide discretion to products to old markets; that is, there has not been the fiscal authority to tap the oil fund in situations of much diversification of products and partners. severe recessions (which this report defines as a drop Dependence on oil is associated with export concen- in private income by 30 percent) that are transitory. tration and terms of trade volatility, which can bring The fiscal rule for the national oil fund as currently con- about domestic macroeconomic volatility. Net exports stituted has been able to deal with transitory shocks. of natural resources are usually associated with macro- As discussed in the World Bank report entitled Oil economic volatility, but this does not happen in a Rules: Kazakhstan’s policy options in a downturn, even in linear way. The transmission channel is multifaceted a hypothetical case of a “meltdown” of the EU the size and involves volatility in a country’s terms of trade. of the likely short-run shock could be smoothed under That is, net exports of natural resources (oil, in par- the current rule. In the longer run, the most important ticular) are associated with export concentration, factor for the government is to ensure the efficiency of which can then lead to volatility in terms of trade. investment expenditures since even modest success in Volatility in terms of trade can then cause domestic this has the potential to create large increases in welfare. macroeconomic instability. The available evidence xiv Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying The main recommendations2 to deal with transitory Such a rule would retain the base amount at a level shocks within the framework of the current fiscal rule consistent with current GDP, oil revenue and fund total can be summed up as follows: holdings (e.g. US$9.2 billion p.a.) but would allow an increased amount (e.g. 15 percent) in the event that „ First, consider revisiting the US$8 billion base amount that GDP growth falls below a specified level. The two year has been in effect since the inception of the rule, but has limit is in effect an “escape from the escape clause.” not been reevaluated since that time. If we apply the Other mechanisms could be envisioned but the idea is growth rate of non-oil GDP to this amount we would to avoid triggering an escape clause in a repeated adjust the base amount to approximately US$11 billion.3 sequential fashion. This should preserve the non-distortionary characteris- tics of the original US$8 billion fixed amount while allowing for the greater absorptive capacity of the now- GAPS AND OPPORTUNITIES FOR HUMAN larger domestic economy. For the future, it should be CAPITAL DEVELOPMENT noted that periodic adjustment of the base might be Each year, more than 300,000 workers enter the labor desirable but it would be counter-productive to do it on force in Kazakhstan, but the young often lack adequate a frequent basis since this would cause transfer skills. The 2009 round of the Program for International amounts to fluctuate up and down with transitory Student Assessment (PISA) showed that Kazakhstan’s cycles. This is the opposite result from that which students (15 years old in grade seven or higher) per- inspired this study in the first place. In principle, the formed worse than their peers in different countries. goal would be to use trend growth in non-oil GDP, Kazakh students did particularly poorly on the tests that something that could only be calculated over longer measure the knowledge and skills that they have learned periods of time—at least four to five years if not longer. and practiced at school when confronted with situations „ Second, confirm the current fixed rule for the NFRK and challenges for which that knowledge might be rele- but add two limiting factors for implementing any vant. Students in the country’s Kazakh-speaking schools 15 percent deviation: scored significantly below those attending Russian- speaking schools on the PISA reading assessment. The z Specify the size of the shock that would trigger observed performance gap between the two groups such a deviation; and averaged 53 points on the PISA exam scale, which is equivalent to more than one year of schooling. As z Impose a time limitation for how long such addi- human capital is one of the endowments that matters tional transfers could be used (e.g., two years). the most in Kazakhstan, these two shortcomings are serious challenges to the diversification of the economy. „ Finally, implement “automatic stabilizers” to the extent possible. That is, use the structure of the tax code (by Limited evidence from Kazakhstan—and more compel- doing such things as making taxes conditional on ling evidence from other countries—suggest that income or profits) and the structure of expenditure higher-order analytical skills and “soft” skills are programs (by doing such things as making poverty increasingly in demand from employers in an economy or other assistance programs conditional on income that is aiming to move toward higher value-added pro- or employment status) to make countercyclical rev- duction. The government’s present emphasis on enue and expenditure changes as automatic as pos- improving student performance on international sible. Such arrangements function quite well in assessments that measure basic literacy and numeracy higher income economies and can naturally be skills does not fully address the need to prioritize and expected to develop in Kazakhstan as its average per track progress along various dimensions of non-cogni- capita income rises through time. tive and behavioral skills (some of which are already identified as important in the government’s education strategy, including creativity and critical thinking). As a 2 These are the same recommendations advanced in World Bank first step, the authorities will need to assess and iden- (2013), Oil Rules: Kazakhstan’s Policy Options in a Downturn, Washington, DC. tify the priority skills that are necessary for the coun- 3 This figure is achieved by deflating Kazakh government figures for try’s economic development. In this perspective, it is non-oil GDP by the government estimates of CPI over the 2008-12 important to highlight the fact that high quality educa- period and applying the real growth rate from these figures over tion is a lifelong proposition. Children who have access this period to the US$8 billion base transfer amount. The result is to quality early educational programs have higher cog- a new total of US$11.1 billion. Non-oil GDP is chosen because this is the relevant comparison in terms of the discussion above about nitive development and achieve greater learning in avoiding the distortionary effects of mineral revenue on the school, in addition to higher school completion rates. domestic economy. Executive Summary xv Modernization of the economy and economic diversi- „ Improve teacher effectiveness and focus on teacher fication will require a highly skilled labor force and policies, including teacher training (pre- and in- productivity and job creation in the non-oil sector. service), teacher pay and incentives to attract the According to the World Economic Forum’s classifica- most qualified; tion of different stages of development, Kazakhstan’s GDP per capita at US$11,000 places the country in „ Provide in-service support to schools and teachers the group of economies that are transitioning from an and equip them with innovative and effective tools efficiency-driven stage of development to an innova- for curriculum development; tion-driven stage of development (see Figure 3.7). „ Continue phasing-in Per Capita Financing (PCF) as it The relevant question, however, is whether Kazakhstan has the potential to reform education systems has in fact the typical characteristics that are usually through enhanced efficiency, equity, transparency, found in an efficiency-driven economy, namely good and accountability; higher education and training, goods market effi- ciency, and labor market efficiency, to name a few. The „ Deepen school autonomy and accountability so that evidence so far indicates that there has been employ- schools can redefine their incentive structure to ment growth in occupations that require a higher create better conditions for learning and teaching; degree of labor force qualification. and create accountability mechanisms through com- munity participation for school autonomy and There are worrisome symptoms of a skills mismatch in accountability; the complaints voiced by Kazakhstan’s employers. A two-pronged approach could be used to better align „ Improve monitoring and evaluation systems to iden- education needs with market needs. This would tify gaps and respond on time to student and school involve: (a) improving access to labor market informa- needs. tion to facilitate the matching of skills and needs; and (b) encouraging closer collaboration between educa- A two-pronged approach could be used to better align tional/research institutions and private sector firms in secondary education needs with market needs. This order to foster sector-specific research and human would involve the following: capacity building. In addition to improving the quality of graduates’ skills, the quantity of graduates should „ Improve access to labor market information to facili- be aligned with realistic needs of the economy. Kazakh- tate the matching of skills and needs; and stan’s vocational and higher education institutions „ Encourage closer collaboration between educa- currently train more skilled specialists in some sectors tional/research institutions and private sector firms (such as agriculture) than the labor market demands. to foster sector-specific research and human capac- The Technical and Vocational Education (TVE) can be ity building. improved on two main fronts: (i) enhance the rele- vance of TVE curriculum content and upgrade the qual- ification system to better match labor market demand THE INSTITUTIONS THAT MATTER FOR in Kazakhstan; and (ii) consider deferring early track- DIVERSIFICATION ing from secondary to post-secondary. This report postulates that the institutions that matter Managing the flow of students into higher education is for diversification are those used by the government to also important. The stated goal of bringing the share of manage volatility, those that are put in place to regulate workers with higher education degrees to 50 percent by the business environment, and those that are respon- 2020—from 30 percent in 2010—should be consid- sible for and that affect the provision of public services. ered carefully in line with projected economic demand. In the context of a resource-rich country, a volatile mac- If not done carefully, the expansion of higher education roeconomic environment introduces uncertainty in the could have a negative impact on the quality of gradu- economy that can be responsible for several problems. ates and can potentially exacerbate the mismatches In the presence of volatility, the government faces currently emerging in Kazakhstan’s labor market. uncertainty about how much revenue stemming from the resource sector will be available to finance invest- Focusing more on the following priorities can advance ments and the provision of public services. In particu- the quality and relevance of the education system: lar, private agents and investors in particular, also become increasingly wary of taking risks and may „ Improve planning to more efficiently address per- decide not to start new businesses or undertake sig- ceived gaps in the education environment; xvi Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying nificant new investments. The quality of public service sional and merit-based civil service. The legal frame- delivery is important in this context because it affects work has been overhauled over the last decade and the functioning of markets, the speed of economic implementation arrangements strengthened. Despite transactions, and even the competitiveness of a nation. this, there appears to be a disconnect between the A court system that does not work well may affect the legal framework and the actual implementation enforceability of contracts, the application of the rule of arrangements. Some of the areas that need further the law, and the respect to property rights. An educa- attention include the introduction of clear criteria for tion system that does not prepare students well for a merit-based competition, career progression and competitive market will limit that market’s capacity to remuneration for administrative positions as well as innovate. Under these conditions, the prospects for loopholes allowing non-competitive selection. Civil the development of the non-resource sector of the servants are not protected from political influence and economy become more limited while economic policy whistleblowing is discouraged. As the public sector is a making becomes increasingly complex. major employer in Kazakhstan it should set the exam- ple and put in place rules and regulation that reward While there have been improvements in the quality and merit. A workforce that is not well motivated because it coverage of regulatory institutions, there are gaps to be does not feel its efforts are recognized and rewarded overcome in implementing regulations effectively and will not be very productive. This is particularly worri- without discrimination. The available evidence shows some in a country where the role of the state of the that there is a regulatory enforcement gap vis-à-vis the economy remains important. Organization for Economic Cooperation and Develop- ment (OECD) countries. For Kazakhstan, the gap is the While trust in political institutions is high, satisfaction lowest on effective enforcement of regulation, but it is with institutions with which citizens are more likely to strikingly high for due process in administrative pro- interact on a daily basis—such as public health ser- ceedings. This suggests that respect for the rule of the vices and the courts—is mixed. Kazakhstan ranks in law is not guaranteed. Fifty percent of respondents in a the bottom third of ECA countries in the satisfaction of recent survey (Ernst & Young, 2012) felt that the level its citizens with public service delivery. In fact, satisfac- of legal and regulatory transparency and predictability tion with public service delivery ranges from a low of is insufficient, with the main areas of concern being 27 percent in the courts, to 40 percent in traffic police, inconsistency in the interpretation of laws and selec- to a high of 69 percent in primary and secondary edu- tive application thereof, over-regulation and onerous cation. The reported prevalence of unofficial payments local content requirements, perceived corruption and made to receive these public services correlates nega- an insufficiently independent court system. tively with the satisfaction about the public service received. While this negative correlation is insufficient Corruption remains an important concern and is a to establish causality, it appears sensible to admit that bigger problem in Kazakhstan than in comparator coun- reduction in corruption could improve the quality of tries. According to the World Justice Project, corruption services and strengthen trust in institutions. is much more prevalent in Kazakhstan than in OECD countries with the legislative and judicial branches being Kazakhstan’s institutions have improved since inde- the most affected. A significantly higher percentage of pendence, but their performance remains mixed. The companies indicate that informal gifts are requested or country has developed an extensive regulatory frame- expected at various stages of the business cycle in work, which it now needs to implement fully, and is Kazakhstan than in the OECD countries. The prevalence making slow progress in the quality of regulatory insti- of corruption is confirmed by the poor ranking of tutions. The country has progressed markedly in the Kazakhstan on the Transparency International Corrup- indicators captured by Doing Business indicators and tion Perception Index (ranked 133 out of 176 countries). the quality of the business environment has improved This is also supported by the Worldwide Governance substantially. In fact the country is well ranked in most Indicators Control of Corruption, where the country is indices that measure strength of market institutions in ranked only in the 15th percentile, and the 2012-13 World Central Asia. However, major constraints such as Economic Forum Global Competitiveness Report (WEF- market contestability, the major role of the government GCR), where corruption appears as the second most in the economy, and an under-developed financial problematic factor for doing business. sector affect the growth of the private sector. Its politi- cal institutions are seen as stable and reliable, but cor- Despite some progress, Kazakhstan is yet to make sig- ruption and excessive government intervention in the nificant advances towards institutionalizing a profes- economy remain an important concern. Executive Summary xvii To achieve the level of institutional strength observed for registration and licensing), and reduce clogged in more developed economies, additional progress will court dockets by moving certain disputes to admin- be needed to improve the effectiveness of existing leg- istrative resolution mechanisms. (ii) The Ministry of islation. When compared to more advanced econo- Justice needs to improve the quality and responsive- mies, Kazakhstan’s institutions still lag significantly ness of its services. This can be done through behind. In several areas, the available evidence and the improved operational effectiveness in areas such as perception of key stakeholders is that Kazakhstan’s enforcement of judicial decision and improvement legal and regulatory frameworks have evolved substan- in information systems and M&E. (iii) Strengthened tially. However, there are considerable gaps between judicial professionalism and quality is key to the suc- what the laws say and what the practice is, that is, there cess of the reform program. To achieve this, the is a substantial margin to improve the effectiveness of Supreme Court and the judiciary will need to under- existing laws and regulations. One such example take a number of reforms, including simplification relates to the anti-corruption legislation that is quite and streamlining of court procedures to eliminate extensive but not very effective. delays in case processing and improvement access to justice. (iv) Judicial training needs to be profes- Six Ways to Improve the Efficiency sionalized. It should include an institutional and func- of Institutions tional assessment of the Institute of Justice and the subsequent preparation of a costed and sequenced 1. Adopt a more proactive approach to business environ- Medium Term Training and Infrastructure Needs ment reforms: Kazakhstan has experienced a great Assessment action plan. The modernization of the improvement in indicators such as Doing Business training curriculum for judges and judicial staff with over the past five years, with its overall position attention to specialized training such as new criminal improving from 89 to 49 in the global ranking of ease and economic legislation is also necessary. of doing business. These impressive results highlight the commitment of authorities to business environ- 3. Make room for the private sector and encourage ment reform, and the decisiveness of these efforts. To competition. There are several sectors and products a large extent, the definition of the reform priorities in which Kazakhstan has an inherent comparative has been guided by those areas in which Kazakhstan advantage, yet, the private sector has not moved in ranked lower than its peers in global indicators. This that direction. Two plausible reasons for this are: (1) first generation of business environment reforms pro- not enough incentive for competition; and (2) the vides a solid foundation for a conducive business heavy footprint of the state in the economy. For environment, but it is not enough. Priority areas that example, while the country is ranked in the top third should deserve the attention of the authorities include: in the Doing Business indicators, competition policy (a) guide future reforms by a close and consistent and market orientation are seen as weak and incipi- Public-Private Dialogue (PPD) that creates well-struc- ent. There are several restrictions to market entry in tured communication channels for enterprises of all a number of sectors keeping significant parts of the sizes and industries—this process should not be economy inaccessible to the private sector. On the bound to areas covered in global indicators such as other hand, the importance of the public sector in Doing Business; (b) reform laws and regulations to the economy remains high and many activities that address the specific obstacles faced by enterprises in are undertaken by private sector companies in other different sectors; and (c) place major emphasis on countries, such as transport and storage of oil and adequate implementation and evaluation of reforms. gas, water and sewer systems, and the management Even though there is no formal assessment, the gap of airports, are considered strategic in Kazakhstan between laws and practice is significant and varies and remain under the responsibility of the state. widely across the country. 4. Make the public sector more efficient, or make it 2. Respect the rule of the law and improve the quality of smaller. The most effective response to a market fail- service delivery. Four main areas should be consid- ure is not necessarily government provision. Interna- ered when designing reforms to improve the quality tional experience shows that it is better to let the pri- and effectiveness of service delivery. (i) It is neces- vate sector in while the government sets the standards sary to improve and implement key elements of the and regulates. In this context, it may be advisable for legal framework. This can help the development and Kazakhstan to reassess the strategic areas and implementation of key laws to reduce the role of the monopolies that exist with a view of reducing the state in private sector functioning, promote self-reg- footprint of the state in the economy. At the same ulation in the private sector (through codes and laws time, there is a need to improve efficiency, in particu- xviii Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying lar in public procurement where existing legislation also gaps in terms of insulating public administra- seems appropriate but does not cover a significant tion staff from political pressures and influence. part of the public sector (e.g., government holdings Such separation exists in other countries and is and state owned enterprises, SOEs). encouraged in order to separate the professional civil servants from the political staff. 5. Get the financial sector in order. The financial sector in Kazakhstan is still suffering the hangover of the 2008-09 crisis. The country’s level of non-perform- OPTIONS TO INCREASE COMPETITIVENESS ing loans (NPLs) is one of the highest in the world. IN THE SHORT TERM The lack of a concrete resolution can impact the per- Results from product space analysis can be used to formance of the economy and the prospects for frame a dialogue between the government and the pri- diversification. There should also be more proactive vate sector. Sectors identified as having emerging steps to strengthen the country’s payment system comparative advantage outside of oil include mining, through improvements in the legal and regulatory iron and steel, and animal leather. However, the fact framework, better awareness by consumers and that the private sector has not successfully taken up businesses about payment services, reductions in these products suggests that there might be important the cost and tax disincentives for the use of elec- bottlenecks and barriers that need to be removed first. tronic services, improvements in the capacity of ser- This perception is also corroborated by the high exper- vice providers to market their payment services, and imentation and low survival rates of new exports. The strengthening of payment system infrastructure. analysis also shows that the concentration of Kazakhstan’s Reforms to modernize and reform the retail payment existing products is in the periphery of the product system will benefit small and micro enterprises as space, with few products in the “core”. This implies well as households that lack access to banking and that it would be relatively difficult and risky to shift into other financial services. They will enhance competi- these more sophisticated, high-tech and better- tion in the payment services industry and allow the connected products given the high degree of competi- entry of innovative approaches to meet the transac- tiveness in world markets without the necessary invest- tion service needs of the economy as a whole. If suc- ment in the endowments that would make the Kazakh cessful, reforms in that area will also strengthen the exports more competitive. financial management in the public sector by facili- tating electronic delivery and collection of govern- Tapping into the competitiveness potential of new ment payments. Kazakhstan should also consider products with a higher technological content will the use of instruments such as factoring, leasing and require substantive upgrading of the country’s physi- microfinance to help SMEs finance their assets and cal, human and institutional capital. Kazakhstan’s obtain faster access to working capital. Getting these exports have a much larger gap in terms of their human three instruments right would go a long way in capital content when matched with the imports from increasing the depth and coverage of the financial different comparator countries. The emerging mes- sector. sage from this analysis is therefore that diversification across both products and markets in the long-term will 6. Commit to efficiency, reward excellence. Kazakhstan be dependent on how well Kazakhstan can harness its needs to make faster progress towards institution- endowments. In addition, dynamic markets and rich- alizing a professional and merit-based civil service. country markets (in the European Union, East Asia, The importance of a highly qualified and motivated and the Pacific) import goods that are exported inten- cadre of civil servants cannot be overemphasized. sively by countries with relatively strong general institu- Many of the institutions that support markets are tional settings, high financial development, and high provided by the public sector. The ability of the capital over labor ratios. Without addressing these state to provide these institutions is therefore an gaps, current efforts to diversify the economy will yield important determinant of how well individuals limited results. behave in markets and how well markets function. In Kazakhstan, there is a lack of clear criteria for Optimization of the transit regime will be critical to merit-based competition, career progression and reduce logistics costs. Kazakhstan’s exports are pro- remuneration for administrative positions, and jected to increase by 50 percent by 2020, which will there are loopholes allowing non-competitive selec- require additional freight capacity service on the main tion. This encourages inefficiency and corruption export routes to Russia, China and South Korea, hurting the credibility of the public sector. There are Europe, and Central Asia. Trade among neighboring Executive Summary xix countries is also expected to increase by about the new markets, it will need to adopt a more multilateral same amount, creating the possibility of substantial trade policy stance. transit traffic through Kazakhstan. The government recognizes that investment alone would not achieve Industrial policy can be a useful instrument to help the objectives implicit in the 2050 Strategy and it is diversification in the short-term, but it needs to be ready to introduce policy measures and non-infrastruc- used wisely. If sector-specific policies are to be used ture investment. For example, in terms of services, the they need to promote productivity and not serve as a strategy calls for the simplification of custom activities shield for stagnant sectors. Badly designed and imple- and border management procedures in view of the cre- mented vertical policies can work against the diversifi- ation of the Customs Union, Single Economic Space cation that they are intended to encourage. As a matter and accession to the World Trade Organization. The of principle, companies need in the medium and long various agencies involved are also asked to reach inter- term to be able to pass the test of international com- national standards (e.g., safety, speed, modernization petitiveness. In this context, specific studies that look of the aircraft fleet, among others). at the barriers to the development of sectors with potential for growth, can provide valuable insights into Following the ongoing effort focused on physical what could be the focus of useful horizontal policies. upgrade of the transport corridors the Government One example is the recent OECD report, which identi- should improve the operation and maintenance of the fied obstacles and opportunities to promoting: (i) infrastructure. The government should also foster the access to finance in the agribusiness sector; (ii) FDI emergence of a client-oriented culture, ensuring that promotion in the agribusiness value chain; and (iii) the expectations of the transport industry are met in ICT sector development through PPP. term of quality of service, deregulation of tariffs, and access to infrastructure, for example. While supporting The use of smart industrial policies could correct dis- the modernization of international transport corridor tortions in the economy and generate positive exter- and associated services, the government should not nalities. A smart industrial policy would attempt to cor- forget to distribute the dividends of increased trade rect an economy-wide market failure that prevents the traffic: the current gap in quality of inter-city public private sector from producing a good for which the transport and rural accessibility should also be country has an inherent comparative advantage. In addressed. doing so, it would be wise to promote self-discovery and experimentation based on existing capabilities. Increased multilateralism could also help Kazakhstan This is important because the process of finding out reach new markets. The lack of competitiveness of which of the many potential products can be profitably local products, the ineffective use of the country’s most produced could generate information about produc- critical endowments (human capital and institutions), tion technology and markets available for that specific and an underdeveloped business environment are all product and thereby benefit many other potential pro- internal reasons that might explain why Kazakhstan ducers. Finally, the best outcome a smart industrial has not diversified enough its products and services, policy could have is to raise the country’s returns to and its trading partners. The lack of a broader multilat- schooling and making private agents invest more in eral trade policy is the external part of this story. The education. Placing greater emphasis on how the new evidence discussed in this report shows that Kazakhstan product is produced rather than on which type of prod- has placed a higher emphasis on intra-regional trade uct on which to focus could facilitate this effort. arrangements, for political or historical reasons, and that this has limited, to a certain extent, its exposure to the rest of the world. As the country aspires to reach xx Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Spotlight E.1: The Main Questions and Answers Addressed in this Report QUESTION ANSWER Chapter 1: Why Diversification is Important for Development How rich and abundant is Kazakhstan is rich in natural resources but it has not yet accumulated as much wealth as the richest countries in the Kazakhstan is on natural resources? world. How well has this wealth been On the back of natural resource abundance, poverty has been halved in a decade and the country has moved fast from low used? income levels at independence to become an upper-middle income country today. In the absence of major shocks, Kazakhstan can achieve high-income status by the end of this decade. How can Kazakhstan become a The path to increased wealth, prosperity and diversification in Kazakhstan will be paved with policy options that more developed economy? strengthen fiscal discipline, harness the skills of its labor force, and reshape the institutions that regulate the activities of public and private agents. Chapter 2: Oil, Diversification and Volatility Have Kazakhstan’s exports Kazakhstan has over time increased the number of products that it exports, but oil exports have grown faster and many become more concentrated? new export products do not survive long enough. There has been, therefore, growing export concentration and depen- dence on oil. How does dependence on natural Dependence on natural resource exports can create volatility in terms of trade which in turn can transmit volatility to the resource exports affect macroeco- rest of the economy. Kazakhstan is susceptible to these transmission channels but has avoided them with prudent fiscal nomic volatility? policy management. What are the potential welfare An optimal fiscal rule could bring savings of close to 25 percent of GDP over the next 25-year period but would be difficult gains from various fiscal rules? to implement in. A simpler rule with an exit clause for periods of severe private-sector downturns could yield similar benefits. What are the lessons for the Besides prudent macroeconomic management, Kazakhstan could diversify its export basket by solving private-sector market future? failures that have thus far hampered its ability to produce and export new products to new markets. Chapter 3: Human Capital for Diversification Where are the jobs in Mining and oil are the drivers of growth, but employ very few people. Manufacturing also generates little employment. Kazakhstan? Most jobs are in the services sector while the public sector plays an important role as employer. Do Kazakh workers have the skills Each year, more than 300,000 workers enter the labor force in Kazakhstan, but young workers often lack adequate levels demanded by the market? of basic skills despite having formal credentials from the country’s education system. What will need to change to reduce Addressing mismatches between the supply and demand for labor is a priority. This will require a better understanding of the mismatch in the labor market? the skills that are necessary for the country’s economic development and efforts to align the quantity of graduates to the needs of the economy. Chapter 4: The Institutions that Matter for Diversification Does Kazakhstan have a strong Kazakhstan’s institutions have improved since independence but their performance remains mixed. There are many good governance and regulatory environ- laws, but they are not always implemented. Corruption is a recurrent problem. ment? Are market institutions well The country is well ranked in most indices that measure the strength of market institutions. However, major constraints developed in Kazakhstan? such as market contestability, the major role of the government in the economy, and an under-developed financial sector affect the growth of the private sector. What will need to change to Greater efforts will be required to: (i) respect the rule of law to improve the quality of service delivery; (ii) make room for strengthen Kazakhstan’s the private sector and encourage competition; (iii) make the public sector more efficient or make it smaller; (iv) get the institutions? financial sector in order; and (v) commit to efficiency and reward excellence in the public sector. Chapter 5: Options to Increase Competitiveness in the Short Term Where are Kazakhstan’s compara- Kazakhstan has comparative advantages on products with low technological content, such as mining, iron and steel, and tive advantages? animal leather. Has Kazakhstan faced excessive Important trade partners for Kazakhstan like China, Korea, Japan and the EU impose higher levels of tariff protection for trade barriers? food products. Kazakhstan faces more difficulties in reaching new markets due to the lack of competitiveness of its non-oil exports. How could better logistics help? With exports projected to increase by 50 percent by 2020, additional freight capacity service on the main export routes to Russia, China and South Korea, Europe and Central Asia will require much improved transport corridors. When can industrial policy be Sector-specific policies need to promote productivity, and not serve as a shield for stagnant sectors. However, such useful? policies can be highly detrimental if they generate entrenched interests among the beneficiary firms that end up making such arrangements permanent. What can be done to help In the long run, improvements in education, productivity and institutions will be necessary for diversification. As an diversification? intermediate step, however, increased multilateralism beyond the Central Asia region will help, but it would be equally important to undertake reforms to reduce non-tariff barriers and reduce the costs of trading across borders. Sources: Chapters 1–5 Executive Summary xxi xxii Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying CHAPTER 1 WHY DIVERSIFICATION IS IMPORTANT FOR DEVELOPMENT INTRODUCTION natural resources, the endowments that matter the most for Kazakhstan are its human, physical, and insti- Kazakhstan has transitioned from lower middle- tutional capitals (see Figure 1.1). income to upper-middle income status in less than two decades. In 1992, right after declaring its independence If Kazakhstan uses well the right policy levers, it could from the former Soviet Union, Kazakhstan’s GDP per become a model of economic development and diversi- capita stood at US$1,515 (in current USD). Today, as fication for the whole Eurasian region. The Eurasian the country celebrates 21 years as an independent region is blessed with natural resources but it could do nation, GDP per capita is seven times larger, estimated much better to convert resource rents into resource at US$12,000. With this impressive performance, Kazakh- revenues. Sub-soil assets per capita in Eurasia are at stan has moved rapidly into the group of upper-middle least three times as high as those found in the Latin income countries. With conservative future economic America Region and at least two times larger than in growth rates estimated to remain on average at 5 percent the Middle-East and North Africa Region (Figure 1.2), per year over the next few years, Kazakhstan will soon but in spite of all this abundance, the wealthiest coun- join the group of high-income countries, but will this tries in Eurasia, including Kazakhstan, have a lower be enough to make Kazakhstan achieve the level of track record in converting resource rents to resource economic development that the wealthiest economies revenues, when compared with those two regions on the planet enjoy today? (Figure 1.3). For a country that wants to become more developed, the policies that matter are those that can As diversification is an outcome of economic develop- help the economy to become more stable, more pro- ment, this report postulates that it should not be the ductive, and that support and not hinder employment explicit objective of policy. Instead of focusing deliber- creation. Kazakhstan is a country in Central Asia that ately on promoting diversification, government policy has had the right approach in these three areas—macro- should have as its main objectives reducing volatility in economic management has been responsible and has the economy, enhancing productivity and creating the avoided volatility, productivity has grown rapidly in the conditions for employment creation. The extent to which economy, and the share of wage employment has risen these policies turn out to be successful will depend on over time. If it focuses more on making the most effi- how well the country creates the favorable conditions for cient use of its endowments it could become a model the diversification of the endowments that matter the of wealth, prosperity and diversification for the whole most. As a country that is already well endowed with region. Figure 1.1: Endowments and policy objectives that matter for development and diversification Physical Capital Employment Human Capital Productivity Volatility Reducing Institutional Capital The endowments that matter The objectives of policy Why Diversification is Important for Development 1 Figure 1.2: Eurasia is the most abundant region in HOW RICH AND ABUNDANT IS natural resources KAZAKHSTAN IN NATURAL RESOURCES? (Sub-soil assets, per capita, by region, in thousands of 2005 US dollars) A country might be growing fast but may not become 20 more developed if it does not use its endowments well. At the heart of the issue of determining whether growth in a country is sustainable, is the issue of accumulation 15 of wealth. It is wealth—broadly defined to include the endowments that a country can dispose of to promote 10 growth, such as manufactured capital, natural capital, human and social capital—that underlies the genera- tion of national income. gross domestic product (GDP) 5 has conventionally been used to assess economic per- formance, measuring economic growth from one year 0 to the next. But GDP does not take into account depre- ia ciation and depletion of wealth,4 and therefore does sia ric t ica er ran cif ia As Af as Pa As a ica ic er ra th e-E not provide an indication of whether growth is sustain- Am aha h ut Am Eu & st or dl Ea So S N id able: an economy could appear to be growing in the b tin & M Su La near term by running down its assets. Assessments of economic performance should therefore be based on Source: World Bank staff calculations based on World Bank (2011). both measures of annual growth (such as GDP) and Note: Due to data availability, Turkmenistan is excluded from Eurasia. Sub-soil assets include oil, gas, and minerals. measures of the comprehensive wealth of a country, which indicate whether that growth is sustainable in the long term. Figure 1.3: Eurasia converts the smaller share of resource rents into revenues (Resource revenues, as a percentage of resource rents, 2006–10) A Long Way to the Top 80 Kazakhstan is rich in natural resources but it has not 70 yet accumulated as much wealth as the richest coun- 60 tries in the world. In the 1990s, the World Bank began 50 constructing a global database for comprehensive wealth accounts to help countries assess whether they 40 are growing sustainably. Comprehensive wealth, the 30 sum of produced capital, natural capital,5 intangible 20 capital (human and social capital), and net foreign 10 financial assets, was estimated for all countries for four years: 1995, 2000, and 2005, and most recently for 0 2008. The comprehensive wealth estimate for Kazakhstan n ric t n tio n ica Af as ta ija ra sia a n for the year 2008 is presented in Table 1. Kazakhstan’s th e E er hs ba de s Am Fe Ru ak or dl er z total wealth in 2008 was estimated at US$1,177 billion. N id Az Ka tin M La This is by all means a sizable amount, but Kazakhstan & still has a long way to catch up with the richest coun- Source: World Bank staff calculations. tries in the world. Its total wealth per capita at US$75,112 is lower than the average for upper-middle-income This report discusses how Kazakhstan can become a countries (US$105,000 per capita) and Europe and Cen- wealthier, more prosperous and diversified economy. tral Asia (US$110,000 per capita). This first chapter is structured in three sections that describe the distinguishing features of Kazakhstan in terms of its natural resource wealth and abundance, how well the country has used its wealth, and what it 4 Net Domestic Product and Net National Income account for needs to do to become a less dependent and more devel- depreciation of manufactured capital, but not depletion or oped economy. It concludes with a brief outline of the degradation of natural capital. questions that the subsequent four chapters of the 5 Due to data constraints, measures of natural capital at present are report will address. limited to subsoil assets, agricultural lands (crop lands and grazing lands), forests, and protected areas. 2 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table 1.1: Where is the wealth of Kazakhstan? Table 1.2: Natural capital per capita in Eurasia and other regions, 2005 Per Percent (In thousands of constant 2005 US$) 2008 US$ Total (bn) Capita of Total Total Wealth 1,177 75,112 Natural Land Coal Oil Capital Forest Minerals Natural Produced Capital 457 29,157 39 Gas Natural Capital* 872 55,602 74 Russian Intangible Capital -96 -6,094 -8 31.3 7.1 1.0 23.2 Federation Net Foreign Assets -56 -3,552 -5 Kazakhstan 23.9 3.6 3.1 17.2 Azerbaijan 11.7 2.5 0.0 9.2 (*Natural Capital) Uzbekistan 7.7 2.3 0.0 5.4 .1% 5% 8% Ukraine 6.9 4.9 0.6 1.4 Belarus 6.0 5.2 0.0 0.8 Moldova 4.1 4.1 0.0 0.0 Georgia 3.3 3.2 0.0 0.1 Armenia 3.1 3.0 0.1 0.0 Kyrgyz 87% 3.0 2.9 0.0 0.1 Republic Tajikistan 1.8 1.7 0.0 0.0 Crop, Pasture Land, Forest Energy Turkmenistan 1.0 1.0 0.0 0.0 Protected Areas Minerals Eurasia 20.2 5.4 0.8 14.0 Source: Authors’ calculations based on World Bank data. Comparators Kuwait 213.1 1.1 0.0 121.0 Natural endowments are sizable and there has been impressive progress in increasing physical capital per Norway 110.2 10.5 0.0 99.7 capita, but the gap with the wealthiest countries is still Saudi Arabia 97.0 10.4 0.0 88.6 large. Table 1.2 shows how countries of the Eurasia Australia 40.0 19.7 10.7 9.7 region fare in natural capital per capita and how they Canada 36.9 24.3 1.1 11.5 compare to other countries. Kazakhstan is the third wealthiest country in terms of natural capital and oil Chile 18.9 9.3 9.3 0.3 and natural gas in Eurasia, but it is far from the per Brazil 15.0 12.7 0.9 1.5 capita levels observed in other resource-rich countries United States 13.8 10.3 0.5 3.0 like Kuwait, Norway or Saudi Arabia. In terms of physical Malaysia 12.7 2.6 0.0 10.1 capital, the story is similar. As per Table 1.3, Kazakhstan Germany 5.7 5.2 0.1 0.4 has made considerable progress in increasing its level of physical capital per capita over the last ten years Korea, Rep. 2.6 2.6 0.0 0.0 from US$6,800 in 2000 to US$13,100 in 2010. The Singapore 0.0 0.0 0.0 0.0 country is now the fourth wealthiest in Eurasia in per capita physical capital terms, but it is still far from the Source: World Bank (2011), The Changing Wealth of Nations, Washington, DC. levels observed in developed countries. For example, Norway, Australia and the US had a stock of physical Note: Capital stock is computed by the perpetual inventory method (with depreciation rate of 5 %) with data over the period of 1995–2010. capital per capita that was well in excess of US$100,000 in 2010. Why Diversification is Important for Development 3 Table 1.3: Capital stock per capita in Eurasia and Over the 13 years between 1995 and 2008, Kazakhstan’s other regions total wealth increased by about 8 percent and per (In thousands of constant 2005 US$) capita wealth by 9 percent (see Figure 1.4), outpacing stagnant population trends. After a drop in 2000, 2000 2005 2010 wealth increased rapidly from 2000 to 2008. However, Russian Federation 13.5 14.3 17.2 the growth of the different components of wealth was quite uneven, with some assets declining and others Turkmenistan 12.2 11.4 16.8 increasing significantly (Table 1.4). A big cause of con- Belarus 7.6 8.7 14.0 cern is not only the decline in produced capital over Kazakhstan 6.8 8.4 13.1 this period but also the declining value of intangible Ukraine 5.6 6.0 6.9 capital which highlights the need for Kazakhstan to Armenia 2.5 3.4 5.7 invest in physical, social and human capital. Azerbaijan 2.6 4.3 5.6 Adjusted net savings, which is another way of measur- Georgia 3.5 4.3 4.9 ing a country’s wealth, is significantly lower in Kazakhstan Moldova 2.5 2.7 3.4 than in comparator countries. Wealth changes through the process of savings and investment, so it is instruc- Uzbekistan 1.8 1.8 2.2 tive to examine national savings over this period. Kyrgyz Republic 1.2 1.2 1.5 National accounts provide an incomplete picture of sav- Tajikistan 0.9 0.9 1.0 ings because they measure gross savings and deprecia- Eurasia 9.3 9.8 12.1 tion of produced capital, but do not record changes in the stocks of human and natural capital. To provide a Comparators more complete measure of savings, the World Bank has Norway 169.6 176.4 191.3 Australia 117.5 123.6 135.8 Figure 1.4: Eurasia is the most abundant region in United States 114.3 119.9 122.7 natural resources (1995, 2000, 2005, 2008) Germany 116.8 116.7 120.1 Growth Index (1995 = 1) Canada 90.8 96.5 105.1 1.2 Singapore 112.9 110.1 105.0 1.0 Korea, Rep. 87.2 87.6 90.8 Kuwait 44.6 44.4 58.9 0.8 Saudi Arabia 27.6 25.9 30.4 0.6 1995 2000 2005 2008 Malaysia 32.5 27.1 24.5 Population Per Capita Total Wealth Chile 19.6 20.2 23.5 Wealth Brazil 15.0 14.1 14.8 Source: Authors’ calculations based on World Bank data. Source: World Bank (2011), The Changing Wealth of Nations, Washington, DC. Table 1.4: Changing wealth per capita Note: Capital stock is computed by the perpetual inventory method (with depreciation rate of 5 %) with data over the period of 1995–2010. (2008 US dollars) Progress will Require Transformation 2008 Average 2000 Annual % Natural capital is by far the most important component (est.) Change of wealth in Kazakhstan (74 percent), almost double Total Wealth 54,281 75,112 3.0 the value of produced capital (39 percent). Intangible capital, which is calculated as a residual of total wealth Produced Capital 33,110 29,157 -0.9 minus its other components has not been increasing. Natural Capital 23,055 55,602 10.9 This wealth composition is not on par with what is usu- Intangible Capital 908 -6,094 -59.3 ally found for countries with the same level of income Net Foreign Assets -2,792 -3,552 -2.1 as Kazakhstan’s or the other countries in the region where natural capital represents about 26 percent of Note: Data not available for Kazakhstan’s produced capital and total wealth and intangible capital about 55 percent. intangible capital in 1995. Source: Authors’ calculations based on World Bank data. 4 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 1.5: Gross national saving and adjusted net saving as percent of GNI in Kazakhstan, 2010 35 30 25 20 15 10 5 0 -5 -10 -15 -20 -25 gross consumption net adjusted national – of fixed education – energy = national + expenditure mineral net forest CO2 saving capital saving depletion – depletion – depletion – damage = net saving Source: World Bank, World Development Indicators. developed an indicator called Adjusted Net Savings Figure 1.6: Adjusted net saving (ANS). Figure 1.5 shows how ANS is calculated, starting with Gross Savings, which was about 31 percent of Kazakhstan, Upper Middle Income Countries, Europe and Central Asia (1995–2010) Gross National Income (GNI) for Kazakhstan in 2010, 20 and subtracting depreciation of produced capital 15 (-13 percent), which results in Net National Savings at 18 percent of GNI. Adding investments in human capital 10 (measured as expenditures on education, 4 percent), 5 % of GNI and subtracting depletion of energy (-22 percent), min- 0 1995 2000 2005 2010 erals (-2 percent), net forest depletion (-0 percent), -5 and damages due to CO2 emissions (-1 percent) results -10 in adjusted net savings of negative 2 percent of GNI. At -15 that level, Kazakhstan’s ANS is significantly lower than other European and Central Asian countries. While -20 Kazakhstan has a higher rate of gross saving compared -25 Upper Middle Income to other ECA countries, its energy depletion is so large that adjusted saving becomes negative. Moreover, Kazakhstan and comparator resource-rich countries (1995–2010) Kazakhstan’s ANS has been consistently negative for 30 the past 15 years, from 1995 to 2010 (as shown in 25 Figure 1.6) and has remained below the average of 20 both upper-middle-income countries and European 15 and Central Asian countries as well as other resource- 10 rich countries such as Australia, Norway, and Chile. % of GNI 5 Most importantly, a negative ANS implies that the 0 1995 2000 2005 2010 country is running down its capital stocks and is not -5 using its endowments in a sustainable way. -10 -15 Kazakhstan’s natural wealth has generated sizable -20 rents that need to be managed well to contribute to the -25 development and diversification of the economy. For Malaysia Chile Indonesia Kazakhstan resource-rich countries such as Kazakhstan, it is also Norway useful to consider the economic rents generated by these natural resources, which are the revenues above Source: World Bank, World Development Indicators. the cost of extraction. By estimating resource rents, a country can better understand its potential in recover- ing the rents for investments in new capital. As shown minerals) as a share of GDP were consistently higher in Figure 1.7, during the period from 1990 to 2010, than the averages in other regions around the world. Kazakhstan’s rents from subsoil assets (energy and Kazakhstan also experienced a large increase in its Why Diversification is Important for Development 5 Figure 1.7: Subsoil asset resource rents by region, as Figure 1.8: As oil wealth grows Kazakhstan percent of GDP experiences a steady decline in poverty rates 50% Poverty headcount ratio 40% 20 30% 15 Percent of Poor 20% 10 10% 5 0% 90 95 00 05 10 19 20 20 19 20 0 Kazakhstan Sub-Sahara Africa 2007 2008 2009 2010 2011 2012 Middle East & North Africa Latin America & Urban poverty Rural poverty Total poverty Europe & Central Asia Caribbean Source: Statistical Agency of Kazakhstan. Source: ASRK subsoil asset rents in the 2000’s, averaging around Figure 1.9: Oil is well that ends well 40 percent of GDP. These trends indicate the opportu- Oil production pattern nity for the country to capture these rents and trans- 3.5 form them into other forms of capital. 3.0 While Kazakhstan has sizeable natural assets, progress Million Barrels per Day and development will require transformation of these 2.5 resources into other forms of capital. Kazakhstan’s 2.0 total wealth has increased considerably over the past 15 years which is very good news. The bad news is that 1.5 the negligible value of intangible capital and the persis- 1.0 tently negative trend of ANS are warning signs that future growth may not be sustainable if these trends 0.5 are not reversed. With the vast majority of Kazakhstan’s 0.0 wealth embedded in its non-renewable natural resources, 15 35 25 10 05 30 20 40 00 20 20 20 20 20 20 20 20 20 the country faces the challenge of effectively managing these commodities and recovering their resource rents Off-shore On-shore for investments in other forms of capital, such as edu- Source: Statistical Agency of Kazakhstan. cation or infrastructure. By doing so, Kazakhstan can transform its natural wealth into investments that will Kazakhstan is the ninth largest country in the world contribute to the development of an even wealthier with a land area equal to that of Western Europe, but and more diversified economy. has one of the lowest population densities globally. It is also the largest landlocked country. Strategically, it HOW WELL HAS THIS WEALTH BEEN USED? links the huge and fast growing markets of China and South Asia with Russia and Western Europe by road, This section of the chapter describes the recent perfor- rail and ports on an internal sea, the Caspian. Proven mance of Kazakhstan in terms of output growth and oil reserves are the ninth largest in the world; hydrocar- development outcomes. One of its main messages is bon output is the equivalent of nearly a quarter of GDP that the country carries increasing global weight due to and accounts for over two-thirds of exports. In con- the abundance of its natural wealth. Over the past stant 2011 dollars, GDP per capita rose from US$5,255 20 years, the country has become one of the major in 2000 to US$12,000 in 2012 and poverty incidence global players in the oil industry, but this abundance fell from 46 percent to below 4 percent over the same has led to dependence. This dependence poses risks to period (Figure 1.8). To some extent, these facts suggest macroeconomic management and creates challenges that natural wealth can be associated with significant for the diversification of the economy. reductions in poverty. 6 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying The country has also consolidated its position as a Figure 1.10: Riding the commodity boom major global player in the oil industry. With nearly Crude oil price, average spot, real 2005 US dollars per barrel, 40 billion barrels of oil in reserves and an estimated 1990–2012 2 percent of global production, Kazakhstan is among 100 the 20 largest oil producers.6 Exports of primary com- 80 modities make up approximately 45 percent of GDP, of which oil and refined oil products make up about 60 70 percent. With significant new discoveries in recent 40 years, most notably the development of the Kashagan oil field, oil production is expected to increase at least 20 for the next 15 years or so and will remain important over the medium and long term (see Figure 1.9). 0 12 92 98 94 96 10 90 02 08 04 06 00 20 20 19 19 19 20 19 20 19 20 20 20 Outstanding Performance Since Independence Source: World Bank Commodity Price Data (updated on March 5, 2013) Fueled by favorable external conditions, the size of the Kazakh economy has consistently grown since inde- Figure 1.11: Favorable terms of trade benefitted pendence. Kazakhstan benefitted from a favorable Kazakhstan external economic environment in the most part of the Terms of trade, goods and services, index, 2005 = 100, 1995–2011 past decade which enabled it to expand its exports of natural resources, mostly oil, and grow at a very fast 150 pace. With improving terms of trade and rising interna- tional prices of oil, the size of the Kazakh economy out- 120 grew that of its peers in the region and contributed to bringing the country to the group of upper middle- 90 income countries in a period of ten years (see Figures 1.10–1.13). Under the assumption that the external 60 demand for oil and other commodities produced by Kazakhstan will remain strong and oil prices are not 30 disrupted by other unexpected economic or political 95 97 99 01 03 05 07 09 11 20 19 20 20 20 19 20 19 20 factors, its current income per capita level may double India Kazakhstan by 2020 placing Kazakhstan among the select group of Brazil Russian Federation countries with high-income status (Figures 1.14 and 1.15). China Achieving high-income status will be easier than sus- Source: IMF World Economic Outlook (October 2012) taining it without a diversified economy that provides employment to the country’s growing population of Productivity Grew Faster in Oil-Rich Regions about 17 million. As argued in the World Bank’s Country Partnership Strategy for FY12-17, additional structural Kazakhstan experienced rapid growth in labor produc- reforms will be required in this transition to a new tivity over the last decade outpacing the performance stage of development. For example, the role of the of the BRICs. Figure 1.16 shows the evolution of output state will have to be redefined to permit a vigorous pri- per capita for Kazakhstan and comparator countries vate sector to develop, governance will need to be over the period 2000–10. The performance of Kazakhstan strengthened to allow greater accountability to civil is illustrated by the yellow and the blue lines showing society, and public investments will need to be made in that both total and non-oil output per worker grew by high pay-off areas: human capital and infrastructure. 6 and 7 percent per annum, respectively, compared to less than 1 percent per annum, for example, for OECD countries (purple line). Kazakhstan’s labor productivity growth also outpaced that of the BRICs (Brazil, Russia, India, and China) and was higher than that observed in countries with a similar level of income in 2000 (blue line) and in 2010 (orange line). 6 See IMF (2011), “Oil Wealth and Development: What Does This Mean for Kazakhstan?” Chapter III in Republic of Kazakhstan: Selected Issues, IMF Country Report No. 11/151, Washington, D.C. Why Diversification is Important for Development 7 Figure 1.12: A spectacular increase in the size of Figure 1.14: Kazakhstan may attain a high-income the economy status by 2016 assuming stable oil prices Gross domestic product at current us prices over the last 20 years Kazakhstan’s Atlas GNI Per Capita Development Prospects (baseline) GDP in US$, Current Prices 200 20K US Dollars per Capita 150 15K 100 10K 50 5K 0 92 94 96 98 00 02 04 06 08 2010 11 0 2005 20 19 19 20 19 20 19 20 20 20 2007 2009 2011 2013 2015 2017 Azerbaijan Turkmenistan Upper-middle Income Ceiling Kazakhstan Uzbekistan Kazakhstan’s Income per Capita Source: World Bank staff calculations. Upper-middle Income Floor-level Source: World Bank staff estimates and projections. Figure 1.13: Kazakhstan became an upper-middle income country in less than 10 years Figure 1.15: Even if oil prices drop sharply and stay 60K low, Kazakhstan’s GNI is expected to grow GDP per Capita (PPP), 50K Kazakhstan’s Atlas GNI Per Capita Development Prospects (low-case) Constant 2005 US$ 40K 30K 20K US Dollars per Capita 20K 15K 10K 10K 0 5K an m le D ia sia nd ry e or co d EC ss ga e ht la ay in mid ap Ru un Po O ks al 0 ng za M H r 2005 2010 2015 2020 Si pe Ka Up 2000 2011 Upper-middle income ceiling Kazakhstan’s income per capita Source: World Bank staff calculations. Upper-middle income floor-level Source: World Bank staff estimates and projections. Productivity growth was faster in oil extracting regions which benefited from large fixed investments. As per adult population is active in the labor market. Accord- Figure 1.17, labor productivity was higher in the oil ing to data from ASRK, the employment ratio to work- extracting regions (red circle) than in the other regions. ing age population (ages 15 and older) increased from The highest productivity growth was observed in the 57.6 percent in 2000 to 67.8 percent in 2011 while the oil-extracting region of Atyrau where regional output level of unemployment was halved from 12.8 percent to per worker was 4 times higher than the average for the 5.4 percent over the same period. International com- country and 11 times higher than in Zhambyl. Produc- parisons of employment ratios show that Kazakhstan tivity growth in oil extracting regions was fueled by outperforms OECD countries both in what regards large capital investments associated with oil-extraction general employment ratios and gaps in employment activities, but this good performance was not accom- opportunities between men and women (Figure 1.18). panied by significant employment creation. Oil extract- ing regions accounted only for 18 percent of total employment while attracting 45 percent of total fixed Poverty Declined Fast — But Mostly in capital investment in 2011. Urban Areas High labor force participation and employment rates of The favorable external economic environment, high oil men and women contributed positively to total output prices, and fast productivity growth contributed to an growth in the country. A high proportion of Kazakhstan’s outstanding reduction in poverty in less than ten years. 8 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying The share of the population living in poverty (as mea- countries in the region shows significant progress. The sured by the PPP-corrected US$2.5 per capita per day) shared prosperity indicator is measured by the growth fell from 41 percent in 2001 to 4 percent in 2009. This rate of consumption per capita of the bottom 40 percent low level of poverty is indicative that there has been of the population. In Kazakhstan, the average consump- progress in sharing some of the benefits of economic tion growth for all households was about 7 percent, development with vulnerable groups. while the growth rate of consumption per capita of the bottom 40 percent was about 11 percent during 2001– A comparison of Kazakhstan’s performance in the World 2009. Only Moldova outperformed Kazakhstan in that Bank’s indicator of shared prosperity against other regard, but it experienced much higher overall growth of consumption per capita (see Figure 1.20). Figure 1.16: Trend in output per worker for Kazakhstan and comparators, 2000–10 However, when using a higher poverty line (at the PPP- corrected US$5 per capita per day) that is more appro- 200 priate for countries with a higher level of income per Indexed output per worker, capita, some 42 percent of Kazakhstan’s population are still living in poverty. The number of vulnerable 2000 =1 000 150 people in the country is dependent upon the definition of the poverty line. For example, if the poverty line is 100 increased to PPP-corrected US$6 a day, the poverty ratio would increase from 42 percent to 58 percent. There has been progress however, in reducing the 50 number of people in this poverty group too since they 2000 2002 2004 2006 2008 2010 declined from 79 percent in 2001 to 42 percent in Kazakhstan BRIC 2009. While, this is indeed a substantial improvement, Kaz nonoil Group 1 other countries in the CIS have made faster progress than OECD Group 2 Kazakhstan. For example, only about 10 percent of the Source: World Bank calculations based on WDI. population in Russia, Belarus and Ukraine lives below Note: Group 1 and Group 2 refers to countries whose GDP per US$5 per day while the average of the ECA Region is capita in US dollars was within 20 percent of Kazakhstan’s in 2000 20 percent (see Figure 1.19). and 2010 respectively; that is, Kazakhstan’s comparators at two different points in time. “BRIC” refers to the unweighted average of While growth has been pro-poor, poverty responded Brazil, Russian Federation, India, and China. more to non-oil growth. The growth in consumption per capita was higher for the lower quintiles compared to upper quintiles indicating that economic growth Figure 1.17 : Regional output per worker in 2011 and benefited the less affluent more (see Figure 1.21). There rate of growth during 2000-11 15 250 Figure 1.18: Employment ratios for Kazakhstan and comparators, 2000–10 12 200 mln. tenge per worker 80 70 9 150 60 % of population, 15+ 6 100 50 40 3 50 30 0 0 20 t K gis u ak au zy n Ak da e ra byl h os y kh i th Pa tan st ak ar kh n Ak tan Al Alm a As ty C y na y ty za na ut K nd a t ta it Zh tob ol es n ra Ky sta za ta m a Ci Ea Kaz vlod az ht r Ka am m Ka ta s Ka hs s W Ma Aty lo ga 10 h 0 or F M Total F M Total F M Total F M Total F M Total F M Total F M Total So N Regional output per worker in 2011, mln. tenge (lhs) Kazakhstan OECD Hungary Poland Singapore Malaysia Russia Rate of growth of regional output per worker in 2001 price, % (rhs) Source: ASRK, WB staff calculations. 2000 2010 Note: Regional output per worker was deflated to be in 2001 prices Source: WDI, WB staff calculations. for all regions. Why Diversification is Important for Development 9 is a strong correlation between economic growth and the Gini coefficient observed in Mangishtau, and the high- decline in poverty on an annual basis during 2001–09 est in North Kazakhstan. as seen in Figure 1.22. The sensitivity of poverty reduc- tion is strongest to changes in non-oil growth rather Despite all the progress, there remain substantive than total growth as seen by their respective average regional disparities in the concentration of poverty coefficients of elasticity of 4 percent and across the county. The share of people with income -0.1 percent.7 This reflects the fact that non-oil growth below the subsistence minimum varied widely across is shared by a higher portion of the low income groups regions, from 1.7 percent in Astana to over 10 percent in the short-term most likely through labor market in South Kazakhstan and Mangishtau. High poverty channels. However, poverty reduction had an uneven rates are observed in both non-oil and oil-rich regions path in rural and urban areas as rural poverty was (red circle in Figure 1.25) which have the largest gross almost 4 times higher than urban poverty in 2011. regional product per capita. For instance, though both According to the UNDP and the Government of the Mangishtau and South Kazakhstan had high concen- Republic of Kazakhstan (2010), persistent higher pov- trations of poverty in 2011, the output per worker in erty in rural areas can be explained by larger families oil-rich Mangishtau was 7 times higher than in South with more children, poor infrastructure and access to Kazakhstan. This is likely a reflection that the oil sector markets, and lack of human and financial resources of works as an enclave as it is capital intensive, does not local governments. generate many jobs and does not create significant Expanding employment and higher real wages seem to Figure 1.19: Headcount poverty rates for Kazakhstan be the main driving forces behind the sharp poverty and comparators (2001 and 2009) reduction. The main contributors to economic growth 80 were labor intensive construction and services sectors. Percent of the Population 70 These sectors were also the main contributors to 60 employment growth during the last decade. The type of 50 employment also changed from self-employment 40 (42 percent in 2001 to 33 percent in 2011) to formal 30 wage employment. This shift in the employment com- 20 position was accompanied by better wages, which 10 grew in real terms by a factor of 2.5 between 2001 and 0 2001 2009 2001 2009 2001 2009 2001 2009 2001 2009 2011. All of these elements have contributed to the Kazakhstan ECA Russia Belarus Ukraine remarkable poverty reduction in Kazakhstan during last ten years. This is confirmed by the evidence presented Poverty Headcount Ration at $ 2.5 a day (PPP) Poverty Headcount Ration at $ 5 a day (PPP) in Figure 1.23, which shows that the largest contributor to lower poverty was income from wages (responsible Source: World Development Indicators. for 29 percentage points of this reduction). As incomes grew and poverty declined, inequality in Figure 1.20: Shared Prosperity Indicator for selected Kazakhstan also fell significantly during 2001–9. countries in the Europe and Central Asia Region Inequality, as measured by the Gini coefficient, fell 15 from 0.37 to 0.29 during 2001–2011– a level that is compared to the most egalitarian societies in the world 12 rates of growth, % (Figure 1.24). The dynamics behind the decrease in 9 inequality is best explained by the higher growth in consumption of the poor relative to the top quintile (as 6 discussed above and seen in Figure 1.20). Neverthe- less, as with poverty rates, there is strong variation 3 across oblasts in terms of inequality—with the lowest 0 MDA KAZ AZB UKR BLR TAJ KRG ROM LAT ARM LIT TUR HRV POL MKD ALB GEO SER -3 7 This elasticity is calculated as the negative ratio between changes in poverty the rate of growth in GDP per capita with and without Consumption Growth of Bottom 40% oil rents. The reported coefficients of elasticity are averages for Consumption Nrowth of Total Population 2002-2011. The negative elasticity of poverty to total GDP per capita is driven by strong poverty reduction in 2008 under nega- Source: World Bank staff estimates based on the POVCALNET tive growth of GDP per capita. expenditure data as of April 2013. 10 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 1.21: Growth incidence curve, 2002–09 Figure 1.23: Decomposition of income poverty gains (In percent) of consumption per capital, % by the components of welfare aggregate 200 Decomposition: poverty based on PPP-corrected US$2.5 poverty line, Annual real growth rate 160 Period 2001–2008 5 120 0 change in percentage points 80 -5 40 -10 0 20 40 60 80 100 -15 Expenditure percentiles -20 Source: World Bank staff calculations based on ECAPOV data. -25 Note: Consumption is in PPP-corrected US dollars in 2005 prices. -30 share share of of other social agricultural adults employed wage income sssistance pensions income Figure 1.22: Changes in poverty and GDP per capita 15 0 Source: WB staff calculations based on ECAPOV data and ‘adecomp’ Stata module by Azevedo, Joao Pedro, Minh Cong Nguyen, and change in poverty, percentage points Viviane Sanfelice, 2012. “ADECOMP: Stata module to estimate 12 -3 Shapley Decomposition by Components of a Welfare Measure, change in GDP per capita, % “Statistical Software Components S457562, Boston College Depart- 9 ment of Economics. -6 6 Notes: results are robust if consumption based poverty is used. -9 3 Figure 1.24: Employment, real wage growth rates and -12 Gini, 2001–11 0 2002 2004 2006 2008 2010 25 0.35 -3 -15 0.30 20 Growth rate of GDP per capita, % (excluding oil) 0.25 growth rates, % Population below subsistence 15 0.20 Gini Source: World Bank staff calculations based on ASRK and WDI data. 10 0.15 0.10 Note: GDP per capita PPP is in constant 2005 US dollars. GDP per 5 capita without oil is calculated by subtracting oil rents share from 0.05 GDP per capita. 0 0.00 -5 economic spillover effects in the regions where oil is Gini extracted. Employment growth rates, % Real wage growth rates, % Changes in the labor market have led to an increase of Source: ASRK. wage employment in detriment of self-employment. Overall, employment shifted from self-employment pations were more frequently found in the poorest (42 percent in 2001 to 33 percent in 2011) to wage quintiles in 2009. For example, 19 percent of those employment (58 percent in 2001 to 67 percent in 2011). found in the poorest bottom quintile engaged into self- These changes are consistent with the modernization employment in comparison to 15 percent in the wealth- of the Kazakh economy and reflect its strong growth iest quintile in rural areas. In urban areas, 13 percent of over the last decade. Reducing the share of self- the poorest were self-employed against only 7 percent employment in Kazakhstan has been a welcome among the wealthiest. The expansion of highly paid development because being hired in farms and work- occupations as managers, specialists, and skilled indus- ing for individuals are associated with higher poverty trial workers and the contraction of low paid occupa- (Figure 1.26). This is not a surprising result since typi- tions, such as skilled agricultural and manual workers cally these occupations do not require high skills and between 2000 and 2011 is also likely to have contributed as a consequence are not likely to yield high remunera- positively to poverty reduction (Figure 1.27). tions. Regardless of the place of residence, these occu- Why Diversification is Important for Development 11 Figure 1.25: Share of the population with income Figure 1.26: Employment types across consumption below the subsistence minimum and gross regional per capita quintiles in the 4th quarter of 2009 output per capita in 2011 (In percent) population below substistence minimum, % 12 8K Urban areas regional output per capita, thousand tenge 100 7K 10 6K 80 8 5K 60 6 4K 3K 40 4 2K 20 2 1K 0 0 0 Bottom II III IV Top t K gis u ak au A an zy e Ak rda Al la Zh aty ra byl h os y kh i th Pa stan st ak ar za tan n na y ty za na ut K and ta Cit Ky ktob es n yra m ta o Ci Ea Kaz vlod az ht t Ka am m m Ka ta hs Ka hs Al khs lo W Ma At As aty g Public Enterprise Hired in farms Private Enterprise Employer or Hired by Individuals Self-employment So N % of population below subsistence level Rural areas Regional gross output per capita, thousand tenge 100 Source: ASRK. 80 Living Standards Have Improved, But Only 60 Moderately 40 Despite rapid economic growth, living standards improved only moderately in Kazakhstan. Life expec- 20 tancy increased from 66 years in 2000 to 68 in 2010 but remains one of the lowest among comparator 0 Bottom II III IV Top countries. Kazakhstan’s life expectancy is comparable Public Enterprise Hired in farms to Russia’s but is 11 years less than the average life expec- Private Enterprise Employer tancy in the OECD countries, for example (Figure 1.28). Hired by Individuals Self-employment According to the ASRK, the regional variation in life Source: ASRK, authors’ calculation. expectancy is substantial. The most prosperous areas such as Almaty and Astana had life expectancies of 73 economic groups (Figure 1.29). According to the most and 72 years, respectively, while both Akmola and recent results of the Multiple Indicators Cluster Survey North Kazakhstan achieved 67 years. Also, Kazakhstan (MICS) in 2010, child mortality rates averaged 27 per has a very large gender gap in life expectancy. Accord- 1000 kids among the wealthiest quintiles of the popu- ing to the WDI, males were expected to live 64 years lation, and 400 among the poorest quintile. Infant while female life expectancy was 73 years in 2010. The mortality increased from 16 per 1000 live births among gap is about 10 years which is much larger than what mother with higher education to 30 per 1000 live births was observed in OECD countries in 2010 (five years). among mothers with secondary education.8 According to the UNICEF and ASRK (2007), a higher prevalence There has been progress in reducing under-five child of malnutrition was observed in rural areas, among and maternal mortality rates, but these still remain children of mothers with lover levels of education, high. According to the WDI and WHO, both under-five among ethnic Kazakh and among the poor households. and maternal mortality rates are high in Kazakhstan even though there has been a substantial reduction in their levels over the last ten years. For example, mater- nal death rates declined from 62 to 23 per 100,000 live births from 2000 to 2010, but this was still more than three times higher than the average in EU countries. The same pattern is observed with under-5 mortality, 8 http://www.inform.kz/eng/article/2495031. Full results are not which also shows significant variation across social- available yet. 12 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 1.27: Employment growth rates between 2000 Figure 1.29: Mortality rate, under-5 per 1,000 live and 2011 and the wage ratio to the Country mean births in 2000 and 2011 6 6 50 ratio to country mean wage 4 4 per 100,000 live births 40 growth rate, % 2 2 30 0 0 -2 -2 20 -4 -4 10 -6 -6 -8 -8 0 Kazakhstan OECD Hungary Poland Singapore Malaysia Russia ua H rs tio st ill ca ium ke a l rs nd s e ua ers l rs an r k r a s a erk ad or tri ica he e to ke ua M n In n O rs M Wo ltu ag 2000 2011 Tr ed tio W us ra Sk ifi d Cl or lif ig u e an pe lW d ric M Ag l Source: ASRK, WB staff calculations. ice ed Q Q rv ill Se Sk Monthly wage ratio to country average budget, an increasing concentration of exports around Growth of employment rates between 2001–2011, (LHS) oil products, and a rising share of the oil sector in the structure of the economy. Although overall oil depen- Source: ASRK, authors’ calculation. dence remains a strong feature of the Kazakh economy, fiscal policy has remained prudent. The share of oil rev- Figure 1.28: Life expectancy by gender 2000 and 2010, enues in the total budget has remained roughly steady ages through 2020 based on current and future oil produc- tion suggest that it is likely to remain in that same 100 range (see Panel (b) in Figure 1.30). 80 Resource-rich economies, and more so those who rely excessively on oil, face several challenges. Many of 60 these challenges have been articulated in the so-called Paradox of Plenty, otherwise known as the “curse” of 40 natural resources. In many oil-dependent economies, 20 one of the main features of this paradox is the volatility of oil revenues (see Box 1.1). If not properly addressed, 0 F M F M F M F M F M F M F M volatility makes economic management difficult in Kazakhstan OECD Hungary Poland Singapore Malaysia Russia itself, especially as cyclical swings are typically not pre- dictable. Difficulties are compounded by the positive 2000 2010 correlation commonly observed between fiscal reve- Source: ASRK, WB staff calculations. nues and expenditures. Volatility in revenues, associ- ated with volatility in aggregate expenditures, public Abundance and Dependence and private, creates real exchange rate volatility. This volatility can make profits in the tradable sector very Kazakhstan has grown more and more dependent on unstable and risky, creating further disincentives oil. As discussed earlier in this chapter, Kazakhstan’s towards investment in these sectors. Exchange rate exports have grown very fast and have helped the econ- volatility could also encourage short-term capital flows; omy to grow equally fast. With the commodity boom in and actions to limit this volatility could result in a pro- the second half of the last decade, the combination of cyclical monetary policy stance. higher oil production and rising international oil prices allowed Kazakhstan to increase its oil exports and col- The Kazakh authorities have been particularly attentive lect more oil revenues. As the economy grew, poverty to these challenges and created credible rules for their declined, income per capita doubled and living stan- oil fund to successfully avoid the problem of volatility. dards saw a slight improvement. This success has Its oil fund has a clear and simple fiscal rule that has been manifested by an increasing dependence on oil, been respected, which is a very important contributor however, dependence is manifest in the form of a sig- to fiscal discipline. Kazakhstan has also had good fiscal nificant share of oil revenues in the government’s management and control over the past decade with Why Diversification is Important for Development 13 public spending stable at about 22 percent of GDP and export of oil and oil-related products. Kazakhstan’s top the non-oil deficit averaging about 3 percent of GDP. five export products represent 77 percent of the total This performance is particularly notable in light of the export basket, compared to 68 percent in Russia and fact that Kazakhstan experienced markedly increased 21 percent in Ukraine. The Hirschman-Herfindahl oil revenues during the period but largely avoided the index9 also shows low diversification, as does a simple fiscal pitfalls that have plagued so many oil exporting sum of the total number of products exported (see countries. However, after the tax reform of 2008 and Table 1.5). In addition, location and market size are a the crisis in 2008-9 the non-oil deficit widened to more disadvantage to Kazakhstan and the share of oil and than 10 percent of GDP and was financed by oil reve- gas in the structure of output remains sizable (see nue saved in the National Fund. In essence, the fund Figure 1.31). was being used in a countercyclical manner, though on an ad-hoc basis in the absence of any rules geared to Table 1.5: Kazakhstan’s Undiversified Export Product such eventualities. Structure –2010 In spite of the success with rising income per capita Kazakhstan Russia Ukraine levels, declining poverty, and improved fiscal disci- Share of top 5 products 77 68 21 pline, Kazakhstan still faces the challenge of diversify- in export basket ing its economy. In many competitiveness and diversi- (percent) fication indices, Kazakhstan appears as an economy Hirschman-Herfindhal 0.49 0.32 0.11 whose export basket is highly concentrated on the Index (0 = diversified; 1 = concentrated) Figure 1.30: Addiction to oil Total number of 1776 4524 3805 Share (in percent) of the oil revenue in the government budget — Products Exported Kazakhstan – 2006–11 Source: Mirror imports reported to UN Comtrade. 60 Further progress in the direction that Kazakhstan aspires to move to will require a different economic Percent of total revenue 50 40 development model. The stylized facts reviewed so far tell a success story of a country that has started from a 30 very low base and, blessed by its resource abundance, 20 joined the group of upper-middle income countries 10 within a decade. The prosperity obtained on the back of its oil abundance was accompanied by sizable reduc- 0 2006 2007 2008 2009 2010 2011 2012 tions in poverty and improvements in the living stan- dards of the Kazakh citizens. This is not doubt a suc- Oil revenue saved Oil revenue spent cess story, but one that is continuously evolving. The next chapter in that story is about how Kazakhstan can Kazakhstan Government Revenue and Spending transition to a higher level of income and prosperity Oil and non-oil revenues and expenditures as a share of GDP — current values and projections to 2020 and become a more developed economy. 30 25 HOW CAN KAZAKHSTAN BECOME A MORE DEVELOPED ECONOMY? Percent of GDP 20 15 If Kazakhstan has been successful in promoting pro- 10 poor growth why should it bother to diversify its econ- omy? In many resource-rich countries, an obvious con- 5 0 9 The Herfindahl-Hirschman index is a commonly accepted mea- 15 10 05 20 00 20 20 20 20 20 sure of market concentration. It is calculated by squaring the mar- ket share of each firm competing in a market, and then summing Non-oil revenue Oil Revenue saved the resulting numbers. The HHI number can range from close Oil revenue spent Government spending to zero to 10,000. The closer a market is to being a monopoly, the Source: Ministry of Finance of Kazakhstan; and WB staff estimates. higher the market’s concentration (and the lower its competition). 14 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Box 1.1: The Main Features of the Paradox of Plenty Four principal contributors to the Paradox of Plenty have been identified. Two of these are technical – the so-called “Dutch Disease”, and oil revenue volatility. Two are more political in nature – weak governance and the lack of and/or failure to develop the institutional capacity required to the challenges of resource wealth. Dutch Disease. Coined by The Economist, this “disease” is named for the problems experienced by the Netherlands following the discovery and initial exploitation of vast reserves of natural gas in 1959. Large- scale revenue inflows from oil exports put upward pressure on the exchange rate. They also lead to a significant expansion in domestic demand relative to the country’s ability to supply that demand. The demand expansion comes from the budget and public sector and, where oil revenues get into the domes- tic banking sector, from credit expansion. The demand expansion in turn increases the price of non-traded goods, causing a further appreciation of the real exchange rate. The combination of these two impacts results in an often dramatic decline in the competitiveness of non-oil exports, a shift in domestic resources away from those sectors to the non-traded goods sectors, and erosion of diversity and balance in the domestic economy. Evidence of the Dutch disease has been identified in almost all countries where petro- leum exports play a major economic role. However, it is unclear whether the retrenchment of the non-oil tradable sector is a growth disease; it could if the growth of the sector produces positive externalities that are greater than the externalities provided by the oil sector via the prudent use of oil revenues. Oil Revenue Volatility. The oil industry is notorious for its cyclical behavior. This may be due to the uncer- tain pace of oil discovery and development. At a global level, however, the cyclical character of the industry is more often attributable to the volatility of oil prices, which respond to lumpy increases in discoveries, exploration and production, as well as cyclical fluctuations in global demand for energy. Volatility makes economic management difficult in itself, especially if price swings are unpredictable. Difficulties are com- pounded by the positive correlation commonly observed between revenues received and expenditures. Volatility in revenues, associated with volatility in aggregate expenditure, public and private, creates real exchange rate volatility. This volatility makes profits in the tradable sector unstable and private investment risky, creating further disincentives towards investment in non-oil sectors. Governance. Good governance is widely recognized as critical for addressing the Paradox of Plenty. Good governance is variously defined, but it is clearly multi-dimensional and should include, among other things: clear and stable laws and regulations; rule of law; a high level of competence in government; fiscal, budgetary and monetary discipline; public-private sector balance in the economy; an open dialogue between government and civil society; and a high degree of transparency. Unfortunately, oil-rich develop- ing countries do not score well against these governance indicators. Weak governance in many countries probably pre-dated oil development and made it difficult to manage oil wealth from the outset. However, a range of arguments and evidence suggests that the arrival of significant oil wealth can itself undermine governance creating a vicious circle. Institutional Capacity. Related to the governance issue, oil revenues often exceed an oil-rich country’s capac- ity to manage them effectively, or to ensure their efficient investment. The result is often macroeconomic mismanagement and waste on a major scale. In addition to straining, or even overwhelming, existing insti- tutional capacity, oil wealth may actually erode incentives to invest in creating an effective civil service. Gov- ernment decision makers may feel little need for a skilled administrative team to handle oil revenues when so much money appears to flow so easily from a very concentrated source. More insidiously, those benefit- ing most from oil may perceive an effective, efficient and watchful civil service as a threat to the benefits they enjoy. As suggested above, adequate institutional capacity is really a component of good governance. It is commonly singled out for discussion, however, because of its special importance. For skeptical views on the Paradox of Plenty, see Lederman and Maloney (2007, 2008, 2012); Alexeev and Conrad (2009); and Brunnschweiler (2008). Source: Authors. Why Diversification is Important for Development 15 Figure 1.31: Rising share of oil, gas and mining in the Libya, Iraq, Kuwait and Qatar have even had negative economy evolution of economic structure growth over the last few decades.11 (Percent value added) Although each of the successful resource-rich coun- 80 70 tries has followed its own path to economic diversifica- Percent of value added 60 tion and dynamic long-term growth, some common 50 lessons are discernible. The importance of factors such 40 as macroeconomic stability, a favorable business envi- 30 ronment, and the right set of trade policies has long 20 been recognized. There is however increasing recogni- 10 tion that good macroeconomic policies and a fertile 0 business environment, while fundamental, are in many cases not sufficient. Economic diversification fre- 15 10 05 20 00 20 20 20 20 20 quently implies catching up with established competi- Oil & gas and mining Agriculture tors that have decades of institutional experience, Construction and real estate Manufacturing and utilities developed and nurtured adequate stocks of physical Source: Statistical Agency of Kazakhstan; World Bank staff estimates. and human capital, are well informed about global market opportunities, and have highly developed inter- cern is about what will be the sources of growth when national supply chains and marketing networks. oil runs out. A diversified economy is also less sensi- tive to macroeconomic shocks transmitted via large The path to increased wealth, prosperity and diversifi- fluctuations in commodity prices. In addition, with cation in Kazakhstan will be paved with policy options resource-extraction being highly capital-intensive, that help avoid macroeconomic volatility, harness the diversification creates additional sources of employ- skills of its labor force, and reshape the institutions ment for the labor force. New sources of employment that regulate the activities of public and private agents. will become available as a result of increasing labor As Kazakhstan undergoes transition to a higher level of reallocation of factors in the economy from less pro- economic development it will want to avoid macroeco- ductive to more productive activities. Indeed, recent nomic volatility associated with oil dependence, create research finds a positive association between rising market incentives for the development of a vibrant diversification and rising per capita income for countries non-oil sector, make substantial improvements in the which have per capita income of up to US$20,000.10 area of governance and transparency to attract and Beyond that level, economies tend to re-concentrate retain productive investment, invest in human capital though high-income countries do not reach concentra- development and infrastructure to enhance productiv- tion levels usually found in low income countries. ity growth and competitiveness, and pay increasing attention to social policies in order to improve the Recent history provides examples of resource-rich living standards of the Kazakh citizens. These are the countries that have used their resource wealth to share issues that will be discussed in more depth in the sub- prosperity. Those were the countries that managed to sequent chapters. remain resource-rich and yet developed their institu- tions with clear benefits that reached across the resource sector of their economies. On the other hand, there are also plenty of examples of countries that have become increasingly dependent on the export of extrac- tives. Those are the resource-rich and institutional- poor countries that kept the resource wealth as a source of rents and failed to build linkages between the resource and non-resource sectors. In this latter group, many resource exporters such as Iran, Venezuela, 10 See Imbs, J. and R. Wacziarg (2003), “Stages of Diversification”, 11 See F. van der Ploeg (2011), “Natural Resources: Curses or Bless- The American Economic Review, 93(1):63-86. ing?” Journal of Economic Literature, 49(2): 366-420. 16 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying CHAPTER 2 OIL WEALTH, VOLATILITY AND MACROECONOMIC MANAGEMENT INTRODUCTION uses data on the time series behavior of GDP, public oil revenues, and targeting of social expenditures Dependence on natural resource exports, especially (transfers and pensions, not including educational or mining and oil-related products can bring export con- health expenditures). It compares the potential national centration. It is relatively well known that commodity welfare gains relative to a balanced-budget rule for a export booms are often associated with the so-called complex optimal fiscal rule, as well as for simpler and Dutch disease whereby real exchange rate appreciation more practical fiscal rules (such as Friedman’s perma- brings about a contraction in the size of tradable indus- nent income rule), and associated permutations (e.g., tries outside of the commodity sector. As mentioned in allowing for changes in the rule during severe down- the first chapter, one potential consequence of export turns). The welfare gains are estimated via simulations concentration is terms of trade volatility. Furthermore, of a structural model with heterogeneous agents, rep- if oil exports are associated with export concentration resenting households with different initial levels of and concomitant terms of trade volatility, it is also income and thus with different marginal utilities of likely that this external volatility can be transformed income. Thus, the analysis goes well beyond the stan- into domestic macroeconomic volatility. This chapter dard approaches that focus purely on the gains from will review empirical evidence showing the empirical reducing aggregate fluctuations.13 magnitude of this effect by statistically examining the correlation between net exports (per worker) of mining This chapter also estimates the extent of pass-through and petroleum products and export concentration. from external terms of trade volatility into the volatility of GDP per capita. The evidence discussed herein In the presence of volatility, fiscal rules become an implies that terms of trade volatility feed domestic vol- important tool for policy makers and their use could atility, but net exports of natural resources do not have potentially lead to large welfare gains. Building on an independent effect on domestic volatility beyond innovative work carried out for the case of Brazil by their effect through export concentration and terms of Engel and Neilson (2011), this chapter also explores trade volatility. The available estimates suggest that the role of fiscal policy over the business cycle from a this sequence of effects is statistically meaningful both normative perspective, for a government with a highly across countries and for Kazakhstan specifically. volatile and exogenous revenue source. In particular, the analysis focuses on what could be the potential More specifically, this chapter addresses three ques- welfare gains from implementing various fiscal rules to tions. First, whether export concentration has increased smooth the volatility of private consumption, given a in Kazakhstan; second, how does dependence on natu- particular pro-poor targeting efficacy of social trans- ral-resource exports can affect domestic volatility; and fers.12 More specifically, there are key issues that deter- third, where do the gains from fiscal rules that could mine the gains from using a portion of oil revenues for avoid macroeconomic volatility come from. The rest of savings to be used for providing relief to poor house- the chapter is divided into four sections, each one holds during downturns. These are determined by the focused on the aforementioned questions. The first targeting of social transfers (national welfare gains rise section presents stylized facts about the increasing with the precision of the targeting on poor house- export concentration in Kazakhstan. The second sec- holds), and the correlation between the non-oil busi- tion presents empirical estimates of the link between ness cycle and the oil-revenue cycle (the gains decline net exports of mining and oil-related products and with the correlation between the two). The analysis 13 In fact, in Engel and Neilson (2011), the model economy is not 12 See Engel, Eduardo and Christopher Neilson (2011), “Fiscal Rules driven by Keynesian gaps between aggregate demand and poten- as Social Insurance: Managing the Pre-Sal Oil Windfalls in Brazil”, tial output. It is driven purely by fluctuations in household con- The World Bank, unpublished manuscript. sumption. Oil Wealth, Volatility and Macroeconomic Management 17 macroeconomic volatility. The final section turns our and “other” high technology goods (HT2) such as attention to the analysis of the welfare gains associated radioactive chemicals increased from 2 percent to 10 with various types of fiscal rules. percent. Figure 2.3 shows how oil-related exports have grown much faster over the same period to become the largest share of Kazakhstan’s total exports. HAVE KAZAKHSTAN’S EXPORTS BECOME MORE CONCENTRATED? Figure 2.2: Kazakhstan export composition excluding oil, 1996–2010 Kazakhstan’s exports have increased sharply over the last decade. The value of Kazakhstan’s total exports has Non-Oil Exports 1996–98, $12.6 Billion increased from US$6 billion in 1996 to US$49 billion in (const. 2005 US dollars) 2010 (in constant 2005 prices), more than an eightfold Fertilizers increase. Over the last decade, the value of Kazakhstan’s exports per capita grew by almost 20 percent annually to Ferro−alloys Iron & steel reach a level close to US$5,000 per capita just before the Unmilled Unwrought powders Unwrought durum wheat zinc & MT2 global economic crisis in 2008. They dropped during the copper & alloys crisis but have recovered since then and by 2010 at copper alloys Construction US$4,000 per capita they were 50 percent higher than PP Other Roller pumps for bearings & mining machinery the global average (Figure 2.1). Unwrought Raw liquids & Raw lead & calf Bovine liquid elevators MT3 meat cotton alloys skins Non-oil exports have increased in value and new prod- Worked copper & Sheep or lambs greasy Wheeled tractors copper ucts have been added to the export basket. There has Unmilled alloys wool Wheat or Crude Anthracite barley minerals Stones meslin been a noteworthy increase in the value of total non-oil n.e.s. meal or Unwrought Unwrought aluminum & flour ST exports. Figure 2.2 shows the evolution of the compo- aluminum alloys Fish RB1 silver Asbestos n.e.s. sition of exports excluding oil, which have increased Waste of Metallic Iron & Fuel Pasta Batteries norganic bases unwrought oxides of zinc, steel Manganese oil, Zinc from US$13 billion in 1996-98 to US$54 billion in 2008- & metallic cermets & iron, lead, chromium etc. waste n.e.s. HT2 HT1 base metals Compounds Color t.v. 10 (constant 2005 USD prices). Primary products have oxides, Chemical acids metallic elements RB2 of precious peroxysalts Other Inorganic metals Inorganic hydroxides salts & vehicles Other non− chemical LT1 parts also decreased from 56 percent to 37 percent, and non- Gas products & peroxides ferrous base metals oils LT2 MT1 agricultural resource-based manufactured goods (RB2) have remained stable as a share of non-oil exports, Non-Oil Exports 2008–20120, $53.8 Billion going from 16 percent to 18 percent in 1996-98 and (const. 2005 US dollars) 2008-10, respectively. In the same period, “other” low technology goods (LT2) increased from 1 percent to 6 Iron/steel percent of non-oil exports, medium technology pro- Petroleum coils Unwrought gases Ferro−alloys cessing (MT2) increased from 9 percent to 15 percent, copper Iron/ MT2 steel & copper alloys Other wheat & billets Figure 2.1: Kazakhstan exports have grown faster than meslin, unmilled PP world exports Unwrought Worked Iron/steel (export per capita in US dollars, Kazakhstan and world exports, Liquified aluminium & Other copper Radioactive <3mm thick & sulphurs copper Other coal hydro- aluminium chemical sheets 1995-2010) carbons alloys alloys LT2 UnwroughtUnmilled elements Steel tinned sheets barley Other 5000 Unwrought lead & worked zinc & Unwrought alloys Frozen fish HT2 iron/steel silver Raw fillets alloys cotton Asbestos sheets Agglomerated Aluminium 4000 Aircrafts of more Petroleum Iron & bitumen than 15 tons iron ore n.e.s. Not steel ore Roller agglomerated waste Wheat or bearings meslin meal 3000 iron ore RB2Waste of or flour ST MT3 unwrought Manganese Other cermets & Copper non- ferrous base metals RB1 2000 base Chemical elements Zinc LT1 HT1 metals MT1 1000 Primary Products Low-Tech 2: Other Resource-Based Medium-Tech 1: Automotive Manufactures 1: Agro-Based Medium-Tech 2: Processing 0 1995 2000 2005 2010 Resource-Based Medium-Tech 3: Engineering Manufactures 2: Other Hi-Tech 1: Electronics and Electrical World exports per capita (US dollars) Low-Tech 1: Textile, Hi-Tech 2: Other KAZ exports per capita (US dollars) Garments and Footware Special Transactions Source: World Development Indicators Source: Authors’ calculations using UN-Comtrade data. 18 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying In spite of the growth of non-oil exports, oil remains Figure 2.3: Kazakhstan export composition, the main export commodity and its share in the export 1996–2010 basket has risen steadily. The share of oil in total Exports 1996–1998, $17.8 Billion exports has increased from 17 percent in 1995 to more (constant 2005 international $) than 60 percent in the period 2005-10. The rise in the oil share has been partly due to an increase in the volume of oil exports – from 14.5 million metric tons in Unmilled Ferro−alloys 1996, to 67 million metric tons in 2010. The major part durum wheat MT2 of the increase in the oil share was due to the rise in oil Fertilizers Crude petroleum prices in the past 5-6 years. Iron & steel Raw cotton powders Unwrought Other Wheeled The income-earning potential of oil has increased by zinc & pumps for liquids & tractors liquid Roller 30 percent over the last 15 years and has benefitted alloys PP elevators bearings Kazakhstan. Table 2.1 shows the top 10 exports by value MT3 n.e.s. Unwrought calf Unmilled Unwrought skins barley lead & silver alloys share over time, including their income-earning poten- Wheat or tial.14 The major rise in the value of the income-earning meslin Asbestos minerals Crude Raw meal or potential (PRODY) for oil is noteworthy. This increase in Unwrought copper flour Anthracite the value of PRODY, followed by an increase in the & copper alloys Bovine RB1 ST Fish meat n.e.s. volume of exports has driven export and income growth Worked copper & Batteries in Kazakhstan over the past decade. However, while the Inorganic bases Waste of Metallic copper alloys HT2 HT1 Chemical oxides of zinc, PRODY for oil is above the average value of US$13,083 & metallic oxides, unwrought iron, lead, elements chromium etc. Fuel LT1 hydroxides base cermets & RB2 Inorganic Iron & Gas n.e.s. oil, over all products for 2008-10, all other products among & peroxides metals acids metallic steel peroxysalts waste oils Zinc salts & LT2 MT1 the top 10 exports are well below average.15 Moreover, almost all top exports in 2008-2010 are resource-based, Exports 2008–2010, $151 Billion and resource-based products generally have below-aver- (constant 2005 international $) age PRODYs, as can be seen from Table 2.2. Other wheat & Ferro− meslin, The income earning potential of Kazakhstan’s exports unmilled alloys has also increased steadily over the last 15 years. Figure 2.4 Other shows the trend in the income potential of national MT2 coal Iron & steel Iron/steel coils export baskets for Kazakhstan and comparator coun- billets Liquified Unwrought zinc & carbons alloys tries. Oil is by far the largest share of exports in Kazakhstan, and the rise in the income potential of oil is reflected in Crude petroleum Radioactive hydro- chemical the increased value of Kazakhstan’s export basket mea- elements PP HT2 sured by the EXPY measure. We can also see that the Unwrought silver Aircrafts of more value of Kazakhstan’s EXPY has increased significantly, than 15 tons Iron/steel <3mm tick but so have EXPY values for other resource-rich econo- sheets Other sulphurs LT2 mies. This rise in EXPY is due to both a rise in PRODY Other worked iron/steel sheets of commodities and a rise of exports of selected countries. Raw cotton RB1 MT3 Unwrought copper & copper alloys Petroleum gases ST Iron & Petroleum Not agglomerated iron ore Copper Agglomerated iron ore RB2 steel waste Aluminium ore bitumen n.e.s. Zinc LT1 HT1 MT1 14 PRODY and EXPY capture the income-earning potential and so- phistication of any particular product as well as the country’s ex- Primary Products Low-Tech 2: Other port basket as a whole. The income-earning potential of a product, Resource-Based Medium-Tech 1: Automotive PRODY, is calculated as a weighted average of the income per Manufactures 1: Agro-Based Medium-Tech 2: Processing capita of the countries that export that product. The weights are Resource-Based Medium-Tech 3: Engineering the ratios of the share of the commodity in the country’s overall Manufactures 2: Other Hi-Tech 1: Electronics and Electrical export basket and aggregated value-shares across all countries Low-Tech 1: Textile, Hi-Tech 2: Other exporting the good. This is also known as the variation of the in- Garments and Footware Special Transactions dex of Revealed Comparative Advantage (RCA). The sophistica- tion of a country’s exports, EXPY, represents the income level as- Source: Authors’ calculations using UN-Comtrade data. sociated with a country’s export basket, and it is calculated as a weighted average (where the weight is the share of the product in the country’s export basket) of PRODYs of the products exported by the country. 15 Summary statistics for all products are given in Annex III. Oil Wealth, Volatility and Macroeconomic Management 19 Table 2.1: Structure of Kazakhstan’s Exports TECH Product Share 1996 Share 1997 Share 1998 PRODY 9698 PP Crude petroleum 0.25 0.31 0.33 10,774 PP Unwrought copper & copper alloys 0.11 0.12 0.12 4,982 PP Anthracite 0.08 0.07 0.07 3,584 PP Unmilled durum wheat 0.06 0.08 0.06 5,370 MT2 Ferro-alloys 0.04 0.04 0.05 3,411 PP Unwrought zinc & alloys 0.03 0.04 0.04 7,598 RB2 Inorganic bases & metallic oxides, 0.03 0.03 0.03 8,575 hydroxides & peroxides ST Gold, non-monetary 0 0.02 0.03 4,506 RB2 Waste of unwrought cermets & base metals 0.01 0.02 0.02 2,452 PP Unwrought silver 0 0.01 0.02 9,560 TECH Product Share 2002 Share 2003 Share 2004 PRODY 0204 PP Crude petroleum 0.53 0.55 0.58 13,397 PP Unwrought copper & copper alloys 0.06 0.05 0.05 5,758 MT2 Ferro-alloys 0.04 0.03 0.04 3,700 PP Petroleum gases 0.02 0.02 0.03 7,898 PP Other wheat & meslin, unmilled 0.03 0.04 0.02 8,977 RB2 Agglomerated iron ore 0.01 0.01 0.02 9,032 LT2 Other worked iron/steel sheets 0.02 0.02 0.02 16,725 LT2 Iron/steel <3mm tick sheets 0.03 0.02 0.01 12,938 RB2 Aluminum ore 0.02 0.01 0.01 5,023 PP Other coal 0.02 0.02 0.01 12,063 TECH Product Share 2008 Share 2009 Share 2010 PRODY 0810 PP Crude petroleum 0.63 0.62 0.68 13,921 HT2 Radioactive chemical elements 0.02 0.04 0.04 3,158 PP Unwrought copper & copper alloys 0.04 0.03 0.04 5,650 MT2 Ferro-alloys 0.04 0.03 0.03 4,891 PP Petroleum gases 0.02 0.03 0.03 10,214 RB2 Not agglomerated iron ore 0.01 0.01 0.02 9,594 ST Gold, non-monetary 0.01 0.02 0.02 5,464 PP Unwrought zinc & alloys 0.01 0.01 0.01 9,196 RB2 Copper 0.01 0.01 0.01 5,381 RB1 Wheat or meslin meal or flour 0.01 0.01 0.01 8,698 Source: Authors’ calculations using UN-Comtrade data and World Bank Development Indicators. 20 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table 2.2: Average PRODY by Lall (2000) Classification As oil exports have increased faster than non-oil exports, Kazakhstan has experienced growing export TECH Average Average Average concentration even compared to other resource depen- PRODY PRODY PRODY dent countries. Figure 2.5 shows the evolution of the 2008 2009 2010 Herfindahl Index (HI) of export concentration for PP 9,247 9,072 9,569 Kazakhstan, some former Soviet republics and some RB1 12,519 11,671 12,389 resource-rich economies. Kazakhstan’s natural com- parative advantage in oil has led to an increase in RB2 13,508 13,016 14,289 export concentration from 0.09 in 1996, to 0.46 in LT1 9,292 9,497 9,552 2010. In the same period, Russian export concentra- LT2 14,500 13,826 14,722 tion increased from 0.07 to 0.23, while Chile and Aus- MT1 15,717 14,769 18,516 tralia managed to keep export concentration in 2010 at MT2 15,510 14,639 14,536 lower levels of 0.17 and 0.1, respectively. Thus, even MT3 16,312 14,442 16,088 relative to other resource-rich economies, export con- centration in Kazakhstan is high, although not as high HT1 16,567 15,113 15,311 as Azerbaijan or Algeria (Figure 2.5). HT2 17,007 17,436 17,948 ST 11,113 11,481 13,194 A comparison of diversification performances among countries with similar natural resource endowments, Source: Author’s calculations using UN-Comtrade data. similar levels of economic development, and similar Figure 2.4: EXPY evolution in former Soviet republics Figure 2.5: Export concentration in Kazakhstan and and among selected resource-rich countries selected resource-rich economies (Herfindahl Index – 1995 to 2010) 20K 1.0 15K .8 Herfindahl Index .6 EXPY 10K .4 5K .2 0 0 1980 1990 2000 2010 1996 2000 2005 2010 Kazakhstan Chile Kazakhstan Russia Norway Algeria Ukraine Azerbaijan Malaysia Austrailia Uzbekistan Turkmenistan 16K .8 14K 12K .6 Herfindahl Index 10K EXPY .4 8K 6K .2 4K 0 0 1996 2000 2005 2010 1980 1990 2000 2010 Kazakhstan Russia Kazakhstan Chile Ukraine Azerbaijan Norway Algeria Uzbekistan Turkmenistan Malaysia Austrailia Source: PRMED calculations using UN-Comtrade data. Source: PRMED calculations using UN-Comtrade data. Oil Wealth, Volatility and Macroeconomic Management 21 sizes confirms that Kazakhstan’s exports have become to be a key correlate of terms of trade volatility. Figure more concentrated. Analysis conducted by Varela 2.8 illustrates the relationship between merchandise (2013) using data for 171 countries over the period export-revenue concentration and terms of trade vola- 2000-11 shows that while resource abundance is asso- tility. The positive correlation between these variables ciated with more concentrated export structures, the appears to be strong, although it does not hold in the level of development and the size of the labor force are previous comparison between LAC net exporters of associated with more diversification.16 Figures 2.6 and energy and mining versus the overall sample of coun- 2.7 show the actual concentration indices (root of tries from the region. Herfindahl Index17, share of the top 5 products in total exports, and log of count of exported products) against Figure 2.6: (Root) Herfindahl Index against prediction the predicted concentration indices that emerge from 1 Actual Concentration Index the econometric models estimated by Varela (2013). 18 AZE The 45-degree lines in each figure plot the locus along TKM which the actual level of diversification of a given coun- TJK KAZ try matches the predicted one based on the model. For .5 RUS BLR UZB example, both for the Herfindahl and the share of the ARM top 5 products, Kazakhstan along with Russia and GEO KGZ MDA other resource-rich countries are well above the UKR 0 45-degree line, suggesting that their export structures are substantially more concentrated than predicted by -.2 0 .2 .4 .6 .8 1.0 the models. Predicted Concentration Index All Countries Countries in ECA Region Further data analysis reveals that the main determi- Fitted Values nants of export concentration across countries are eco- Source: Varela (2013a). nomic size, the initial level of development (measured by GDP per capita) and net exports of mining and oil- related products, with export concentration appearing Figure 2.7: Share of top five products against prediction 1 Share in Top 5 Products 16 The relationships are statistically significant at 5 percent, and the AZE TKM TJK models explain 31.7, 42.7 and 81 percent of the variance of the root of the Herfindahl Index, the Share of the top 5 products, and the KAZ RUS UZB log count of exported products respectively. BLR ARM .5 GEO 17 The Herfindahl Index measures the concentration of export shares held by a particular product (destination) in a given export profile, KGZ MDA and varies from zero (no concentration) to one (full concentra- tion). The count of export products is the count of different HS-6 UKR categories that contain exports of at least 100,000 USD, and the 0 share of the top 5 export products measures the sum of export revenue obtained from the largest 5 export products as a portion 0 .2 .4 .6 .8 1.0 of total export value in a given year. Predicted Share in Top 5 Products 18 Varela (2013) estimates a model linking diversification indicators All Countries Countries in ECA Region (the Herfindahl Index, the count of export products, and the share Fitted Values of the top 5 products in total export revenue) with an indicator of resource abundance (net exports of natural resources per capita, Source: Varela (2013a). as defined above), the level of economic development as mea- sured by the log of GDP per capita, and the size of the labor force, as in equation (1): Di = B0+B1NXRi+B2logGDPpci+B3logLabForcei+Ei (1) where Di is the diversification indicator (for the Herfindahl the author considers the average of the square root of the Herfindahl Index of export concentration for country ‘i’ over the period 2000- 11, for the count of products, he uses the logarithm of the average count of products exported by country ‘i’ over the period 2000-11, and for the share of the top 5 products, he takes its average over the period 2000-11), NXR is the average of net exports of minerals and natural resources of country ‘i’ over the period 2000-11, log- GDPpc is the average of the logarithm of per capita GDP in con- stant dollars of 2000, over the period 2000-11, logLabForce is the average of the logarithm of the size of the labor force of country ‘i’ over the period 2000-11. 22 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 2.8: Export-revenue concentration and terms of Table 2.3: Determinants of Export Concentration trade volatility and GDP Growth Volatility, 1980-2005 .4 (3SLS estimates) Terms of Trade Volatility IRN Trade Volatility Capita Growth Concentration .3 RWA (2) Terms-of- (3) GDP-per- NIC AZE (1) Export SDN ZMB Volatility .2 BIH CMR GNB COM GEO CIV UGA TJK KAZ YUG BGD RUS TZA MWI GHAETH MRT UKR VNM MOZ IND BEN .1 CAF MLI BWA HNDPRY GIN MDA MUS Export concentration 0.351** TUN ISR SWZ 0 DJI TKM YEM (0.000) 0 .2 .4 .6 .8 1.0 Net exports of energy and 0.040** 0.004 -0.003 Export-Revenue Concentration (Roof of Herfindahl) mining per worker (0.000) (0.170) (0.154) Source: Lederman and Maloney (2012, Figure 7.2). Net exports of agriculture per -0.036* -0.000 -0.002 worker (0.022) (0.941) (0.456) HOW DOES DEPENDENCE ON NATURAL Labor force (log, initial) -0.058** 0.015** -0.005** RESOURCE EXPORTS AFFECT (0.000) (0.000) (0.000) MACROECONOMIC VOLATILITY? GDP per capita (log, initial) -0.065** (0.000) Econometric evidence suggests that poor, small and Geographic trade over GDP -0.002* mineral-abundant countries tend to have high levels of (0.030) export concentration. Table 2.3 presents econometric Terms-of-trade volatility 0.310** estimates provided by Lederman and Maloney (2012, (0.000) Chapter 7) from a cross-section of countries with data Observations 101 101 101 from 1980-2005, which simultaneously explore the Pseudo R-squared 0.541 0.505 0.295 determinants of merchandise export-revenue concen- F-stat (p-value) 0.000 0.000 0.000 tration, terms of trade volatility, and GDP-per-capita Adj. R-squared/First Stage 0.519 0.309 0.257 growth volatility. The model of export concentration suggests that it is positively correlated with net exports Source: Lederman and Maloney (2012, Table 7.2). of energy and mining commodities, but negatively cor- Notes: ** and * represent statistical significant at the 1 and 5 percent related with net exports of agricultural products. In levels respectively. Cross-equation error correlations are assumed to addition, concentration appears to fall with the size of be unstructured. All explanatory variables, except the dependent vari- ables (export concentration, terms of trade volatility, and GDP-per- a country’s labor force and its level of development (as capita growth volatility) are assumed to be exogenous. “Geographic in Acemoglu and Zilibotti 1997). trade over GDP” is from Frankel and Romer (1999) and it is the share of trade over GDP of each country that is due to geographic location of Regarding the determinants of terms of trade volatility, the country. Export concentration is measured by the root of the Her- it is noteworthy that net exports of mining have no findahl index computed with data on exports at the 4 digit level of the effect after controlling for export concentration. As a SITC Rev 2 classification. Volatility is measured by the standard devia- tion of the annual growth rate of each variable during 1980-2005. The result, mining exports appear to have only an indirect “first-stage” estimates are not reported. P-values appear inside paren- effect on terms of trade volatility via their effect on con- theses and correspond to standard errors adjusted for degrees of free- centration. Similarly, net exports of natural resources dom due to finite-sample assumptions. “Initial” means that the obser- seem to have no direct effect on GDP-per-capita volatility. vation is from 1980; the results correspond to cross-sectional estimates for 1980-2005. Intercepts are not reported. The existing estimates of the effects of export concentra- tion on volatility suggest that they are economically index of export-revenue concentration. It is worth noting important for Kazakhstan. Table 2.4 provides computa- that during this period of time, oil exporters experienced, tions of what the results reported by Lederman and on average, an increase of 30 in the export concentration Maloney (2012) imply for Kazakhstan and other index, and thus a simulation with the 10 percent increase Eurasian economies. The first column lists the average is not outlandish. By multiplying the 10 percent increase concentration index for each country during 1996-11, with the relevant coefficients, it is calculated that Kazakhstan and the second includes the 10 percent of that level. The could have experienced an increase of 1.6 percentage exercise is essentially about using the regression coeffi- points in the volatility of its terms of trade due purely to cients presented in Table 2.2 above to compute the the increase in export concentration. Although only sug- effect of a 10 percent increase in the root of the Hefindahl gestive, this exercise does imply that export concentra- Oil Wealth, Volatility and Macroeconomic Management 23 tion can be an important determinant of external volatil- resulted in an increase in the number of export destina- ity. In addition, for the case of Kazakhstan, this increase tions (Figures 2.9 and 2.10). After the crisis, however, in terms of trade volatility could have been associated when global demand for oil and commodities slowed with an increase in the volatility of GDP growth of around down significantly resource-rich countries such as 0.5 percentage points. Russia and Uzbekistan, along with Kazakhstan have seen a decrease in the number of markets served by its Table 2.4: The Impact of an Increase in Export exports (Figure 2.11). Contrary to what happened in Concentration on Macroeconomic Volatility most other resource-rich countries of the region, (In percent except where otherwise indicated) Kazakhstan did not see an increase in the share of its top five export destinations over the same period Predicted impact on terms (Figure 2.12). Avg. export concentration Predicted impact on GDP During the commodity price boom period, Kazakhstan (root HHI) 1996-2011 growth volatility** improved its export market penetration. Varella (2013b) Increase (from the of trade volatility* has calculated the Index of Export Market Penetration (IEMP) for Kazakhstan and other resource-rich countries in the ECA region. The IEMP is an indicator of diversi- average) Country Figure 2.9: Number of export destinations Kazakhstan Armenia 0.330 0.033 1.16 0.36 and comparators Azerbaijan 0.695 0.069 2.44 0.76 Number of Destinations Belarus 0.306 0.031 1.08 0.33 Georgia 0.259 0.026 0.91 0.28 150 Kazakhstan 0.464 0.046 1.63 0.51 120 Kyrgyz Republic 0.241 0.024 0.85 0.26 Moldova 0.183 0.018 0.64 0.20 90 Russian 0.358 0.036 1.26 0.39 60 Federation Tajikistan 0.535 0.054 1.88 0.58 30 Turkmenistan 0.692 0.069 2.43 0.75 0 Uzbekistan 0.401 0.040 1.41 0.44 AZE KAZ RUS TJK TKM UZB ARM BLR GEO KGZ MDA UKR Source: Computations by Mariana Iooty De Paiva Dias. 2000–2003 2006–2007 2010–2011 Notes: * Estimated coefficient from Table 1 (ToT volatility/export con- Source: Varela (2013b). centration) = 0.351; ** Estimated coefficient from Table 2.1 (GDP growth volatility/ToT volatility) = 0.310. Coefficients are statistically significant at 5 percent level. Figure 2.10: Share of top five export destinations Kazakhstan and comparators Since dependence on exports of oil products and other mining resources can bring about substantial external Share of Top 5 Destinations volatility via the terms of trade, a major challenge for most resource-dependent economies remains the 1.0 management of terms of trade windfalls. Fiscal rules associated with the management of these windfalls are 0.8 thus an important ingredient for growth with macro- 0.6 economic stability. This is the topic of the next section. 0.4 There Has Been Limited Diversification of 0.2 Trade Partners 0.0 Kazakhstan has diversified its trade partners in the first AZE KAZ RUS TJK TKM UZB ARM BLR GEO KGZ MDA UKR half of the last decade, but it did so on the account of 2000–2003 2006–2007 2010–2011 exports of oil and gas. The export boom experienced by Source: Varela (2013b). Kazakhstan just before the global economic crisis 24 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying fication that combines information about the product and Figure 2.11: Steady progress in Kazakhstan’s export market dimension. It measures the number of market- market penetration product combinations served by exporters in country ‘i’ as Index of Export Market Penetration a proportion of the number of potential market-product flows.19 For a given range of products that a country exports, this index will be higher for countries serving a large proportion of the number of markets around the world that import the product. Similarly, for a given range of destinations a country serves, the index will be higher for countries that export a larger variety of products. Fig- ures 2.11 and 2.12 show the IEMP for Kazakhstan and Russia over the last 10 years and suggest that both have diversified the number of their trade partners over this 0.000 0.005 0.010 0.015 0.020 0.025 period. While Russia has an average IEMP of 0.10, which IEMP KAZ means that the country has served about 10 percent of the potential market-product flows available in world mar- 2000–01 2004–05 2008–09 2002–03 2006–07 2010–11 kets, Kazakhstan exhibits IEMP scores well below 5 per- cent. While it would be desirable to have a higher IEMP, a Source: Varella (2013b). low score suggests that Kazakhstan has a greater poten- tial for diversification than larger economies. It is also Figure 2.12: Steady progress in Kazakhstan’s export worth noticing that the global economic downturn in market penetration 2008/09 seems to have contributed to reversing trends Index of Export Market Penetration of export market penetration. Kazakhstan has exported more of the same to old markets. Figure 2.13 shows the decomposition of Kazakhstan’s export growth over the period 2000-10 into net growth of old products in old markets, extinction of products, introduction of new products in new markets, intro- duction of new products in old markets, and export growth via old products sold in new markets. The larger contribution to export growth is accounted for by 0.00 0.02 0.04 0.06 0.08 0.10 0.12 growth of exports of old products in old markets, and to a lesser extent, old products in new markets. This is IEMP RUS consistent with earlier findings that there has not been 2000–01 2004–05 2008–09 enough export diversification. The bars showing a 2002–03 2006–07 2010–11 declining trend in the growth of exports of old products Source: Varella (2013b). in new markets also confirm that Kazakhstan has diver- sified somewhat its trade partners, but that this has had a declining impact on export growth, especially in Figure 2.13: Decomposition of Kazakhstan’s exports the second half of the last decade. Another interesting by type of product and market destination (Contribution of different factors to export growth) fact is that there has been a growing rate of extinction of products which probably demonstrates higher 1.5 1.2 “experimentation.”20 0.9 0.6 0.3 19 Formally, for exporter ‘j’, for whom Iij is the set of products (i) in 0.0 which positive exports are observed, Yij=1 if Xijk>0; and Zik=1 for -0.3 Mik>0, else Zik=0, where Xijk is the value of exports of product i -0.6 Old products in old markets Fall of old products in old markets New products in new markets New products in old markets Old products in new markets from exporter j to importer k, and Mik is the value of imports of Extinction of products product i by importer k. The 20 A higher experimentation rate for Kazakhstan’s exports has also been found in a recent report concluded by the World Bank enti- tled “Taking Advantage of Trade and Openness for Development” 2000–2010 2006–2005 2006–2010 – see World Bank (2012), p. 10. Source: Varella (2013b). Oil Wealth, Volatility and Macroeconomic Management 25 Kazakhstan’s non-oil exports to most of its major trade tration as the top three destinations accounted for partners have grown over time. When exploring Kazakhstan’s more than 80 percent of all product exports. In the export performance along the intensive margin, it is also case of petroleum oils and coal, the top export destina- possible to compute the annual average growth of non-oil tion accounted for more than 65 percent of exports. and gas exports to the top 10 destinations in 2005 over Russia, Norway and Libya were among Kazakhstan’s the period 2005-10, and compare these with the annual main competitors for petroleum oils exports to the average growth of exports of the world to the same desti- European Union, while South Africa and Norway were nations. The two rates are plotted together in Figure 2.14. main competitors for ferro-alloys in 2010. The size of the bubbles reflects the share of the export value to that destination on total exports in 2005, to give a sense of the importance of each destination for Kazakhstan.21 There Has Been Growing Experimentation, As it can be seen from Figure 2.15, Kazakhstan’s non-oil but Survival Rates Remain Low exports to most of its major trade partners have grown In spite of growing experimentation, survival rates over the period 2005-10 with the exception of those going were low across the board. The evidence presented in to Russia and to Iran. In particular, exports to its largest World Bank (2012, p. 10) suggests that the survival rate trade partner, China, have grown at an annual rate close by the end of the decade was 79 percent for existing to 20 percent, higher than that of world’s exports to China products, but only 27 percent for new products. The over the same period, meaning that the country gained experimentation rate, or the share of potential addi- market share in the Chinese market. Similarly, Kazakh- tional products in a broad product category, that stan exporters also gained market share in the USA, Japa- appeared in the export basket at one time or another nese, Turkish and Italian markets. was high, particularly in metals, textiles, and manufac- tured goods. Survival rates were low across the board, Figure 2.14: Kazakhstan’s export orientation while the highest survival rates were observed for some KAZ: Growth Orientation of Markets Top 10 Markets foods, chemicals, minerals, and some electrical/manu- .4 factured products. Survival rates were low in textiles, KAZ: CAGR of Exports 05–10(%) CHN USA TUR some apparel, wood based products, animal-based .3 IPN products, and a number of manufactured ITA products, but also surprisingly in metals. These low .2 DEU KOR survival rates, or mortality, appear to offset the contri- UKR bution of experimentation to the net growth of exports .1 in Kazakhstan and hint at the existence of difficulties in RUS either the business environment in Kazakhstan, the 0 competitiveness level of Kazakh exports, protectionist IRN 0 .2 .4 .6 .8 1.0 practices against Kazakhstan or a combination of all of WLD: CAGR of Exports o5–10(%) these factors. A more detailed analysis of these factors Source: Varela (2013b). is presented in Chapters 4 and 5. There is a high degree of market concentration, espe- WHAT ARE THE POTENTIAL WELFARE cially for Kazakhstan’s main export products. China GAINS FROM VARIOUS FISCAL RULES? was either the most important or second most impor- tant destination for six of the top ten export products of If oil export revenues were stable, fiscal rules would be Kazakhstan in 2008-10. Table 2.5 shows the main mar- unnecessary. Indeed, in a scenario where economies kets for the top ten exports of Kazakhstan in 2008-10. discover or begin to exploit oil reserves, it would be Most of these products showed a high level of concen- optimal for society as a whole to increase domestic consumption and reduce the share of investment in GDP. The main reason is that such discoveries would 21 The diagonal red line indicates the points in which the growth of entail that the economy has become richer and thus Kazakhstan’s exports to a particular destination matches the the incentive to save would be reduced. That is, in tech- growth of the world exports to that destination. Points above the nical terms, inter-temporal consumption (a proxy for red line mean that Kazakhstan’s exports have grown faster than national welfare) would be maximized by consuming the world’s exports to that specific destination, implying that in that market, Kazakhstan has gained market share over the period, more today. with the reverse observed for points below the red line. 26 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table 2.5: Main Destinations for Kazakhstan’s Top Ten Export Products, 2008-10 (In percent, unless otherwise indicated) Rank in Top 3 Destinations Exports in Top 3 HS4 Product 08/10 (product exports for 08/10 in brackets) Markets EU27 China Canada 2709 Petroleum oils 1 87.7 [66.8] [16.3] [4.6] China Japan EU27 7202 Ferro-alloys 2 69.3 [28.2] [23.1] [18.0] China Turkey EU27 7403 Refined copper 3 94.4 [50.2] [30.4] [13.7] Ukraine EU27 Turkey 2711 Petroleum gases 4 95.0 [54.7] [25.7] [14.6] USA EU27 Ukraine 2710 Petroleum oils 5 78.6 [31.2] [28.4] [19.1] Iron ores and Russia China Kyrgyz Republic 2601 6 <100 concentrates [55.5] [44.4] [0.1] Radioactive China EU27 Russia 2844 7 77.7 chemical elements [49.0] [15.3] [13.4] Turkey Azerbaijan EU27 1001 Wheat and meslin 8 56.5 [23.7] [17.1] [15.7] Russia Ukraine EU27 2701 Coal 9 96.1 [67.2] [22.7] [6.3] EU27 China Turkey 7901 Unwrought zinc 10 69.6 [27.5] [22.6] [19.4] Source: UN-COMTRADE mirror data. A study by Hevia (2012) quantified this incentive to makers is that such a world does not exist, and saving consume today in anticipation of future oil revenue too little today to fund current consumption can be windfalls for the case of Kazakhstan. In such a sce- risky, both from a debt management viewpoint and nario, given expected future oil prices and a given oil from the viewpoint of national welfare, when volatility extraction rate, both private and public consumption of consumption directly reduces household welfare and would rise until the expected oil revenues to decline, as macroeconomic volatility hampers private investment. oil reserves are extracted until they are fully depleted. The counterparts of this temporary (but relatively long- With uncertain oil revenues, in principle a budgetary lasting period of time) increase in private and public process with foresight and expenditure and tax policies consumption are declines in investment rates, both with built-in automatic stabilizers could ensure macro- private and public, and declines in the growth rate of economic stability and maximize national welfare. The the non-oil sector. As public savings fall, Hevia’s model automatic stabilizers could be enough to smooth out predicts that public debt would rise to help fund swings in aggregate demand, but they would not be (together with oil revenues) current consumption. Pri- enough to help household stabilize their consumption vate debt, including foreign debt would also rise. As oil over the business cycle. In addition, automatic stabiliz- reserves dwindle, investment rates would increase and ers alone would not maximize national welfare without consumption rates fall. a budgetary process that yields progressive counter- cyclical outlays. That is, to maximize national welfare it It is important to note that these macroeconomic out- would be important to target counter-cyclical transfers comes would be socially desirable only in a world with- on poor households whose welfare is more severely out uncertainty about oil prices or about the value of oil affected by volatility. This is because, in technical reserves and extraction rates. The problem for policy- terms, poor households derive a higher marginal utility Oil Wealth, Volatility and Macroeconomic Management 27 from income than rich households. Consequently, an Table 2.6: Estimated welfare gains from different types ideal fiscal process would yield an optimal fiscal behav- of fiscal rules ior or rule that saves oil revenues when non-oil house- (In percent) hold income is high and would increase transfers (or social protection) to the poor when their non-oil Rule Welfare gain Counter-cyclicality income is depressed. Optimal 16.4 13.8 To the extent that an ideal budget framework cannot be Friedman I 5.2 0.0 established, fiscal rules associated with the decision of Friedman II 7.9 0.0 how much to save, spend and how to spend the oil Friedman III 12.6 11.0 revenues can help maximize welfare. Until recently, the consensus view on fiscal rules was that the saving and Source: Engel and Montecinos (2013) spending decisions related to oil revenues should Note: The rules considered for the simulations were variations of the follow the so-called permanent income rule (IMF permanent income approach. Namely the Friedman permanent 2012). However, such a rule would entail savings when income rule (Friedman I) and two variations of the latter allowing oil prices are abnormally high and spending when they respectively for optimal marginal propensities to spend out of per- manent government income and the interest on government assets are abnormally low. Hence the debate over the imple- (Friedman II), and for an “exit clause” through which those parame- mentation of such rules revolved around the behavior ters switch when private income is below a certain threshold (Fried- of oil prices. man III). By definition, Friedman (I) and Friedman (II) are not coun- tercyclical rules because savings and expenditures are determined One important disadvantage of the permanent income entirely with respect to fluctuations in public oil revenues (for exam- ple, due to price fluctuations). rule is that it does not necessarily result in savings and spending that are countercyclical with respect to the The optimal fiscal rule would be complex, as the savings private-sector business cycle, especially the business and spending decisions would depend on a large cycle of non-oil activities. Consequently, by definition number of economic and social factors. For example, it such rules do not have a counter-cyclical component would depend on household “discount factors” (Engel by design; only the price of oil is used as a reference. and Montecinos use 6 percent) which reflect house- Hence, there are other motivations to save oil revenues holds preference for consuming today instead of in the in good times that go beyond the fluctuations in the future; risk aversion; the level of income of the poorest price of oil. households relative the level required for subsistence; the volatility of oil revenues and private income (Engel Evidence from a simulation model calibrated with data and Montecinos use 0.41 and 0.13 respectively); the for Kazakhstan suggests that the main gains for fiscal persistence of oil revenues (Engel and Montecinos use rules associated with oil revenues would come from 0.57, based on statistical analysis of Kazakhstani data; establishing a countercyclical component. Engel and the probability of facing a deep depression in con- Montecinos (2013) report the welfare gains for sumption (based on international evidence, the Kazakhstan from following four different types of authors use a 5 percent probability of facing a 30 percent fiscal rules associated with oil revenues. Engel and decline in private incomes); as well as the targeting Montecinos (2013, p. 11) wrote that “to be useful, efficiency of social transfers, which measures the share [fiscal] rules need to be easily replicable in terms of of public social expenditures across the distribution of their calculation…” Their optimal rule is indeed com- household incomes. Clearly, such a rule would be plicated, as it would depend on a variety of factors unlikely to be implemented in practice, partly because including the volatility of oil revenues, the volatility of of its complexity.22 Still, the welfare gains of implement- private incomes, the over-time persistence of oil reve- ing such a complex rule could be substantial. The nues, the public sector’s targeting efficiency, and sev- results in Table 2.6 suggest that the gains with respect eral household characteristics such as risk aversion, to a balanced-budget rule that would basically entail discount factors (measuring the extent to which house- consuming whatever oil windfalls are realized each holds value consumption today relative to consump- year would be equal to just over 16 percent of national tion in the future), and their minimum subsistence consumption. level of consumption. Hence the authors compared the welfare gains under the optimal fiscal rule with those under more tractable alternatives. Their results are reported in Table 2.6. 22 Interested readers are encouraged to review the paper by Engel and Montecinos (2013) as well as the World Bank’s report entitled Oil Rules: Kazakhstan’s policy options in a downturn. 28 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying The gains from the simpler rules based purely on the savings, but it is unclear whether the current levels of permanent income approach would yield much lower savings, taking into account both reserves as well as gains than the complex rule, which takes into account the assets of the fund, are optimal from the point of the probability of facing deep recessions in the private view of society as a whole. This is an issue worthy of sector. In Table 2.6, the simplest such rule is called the further analysis. Friedman rule, in honor of the Nobel-prize winning economist who invented the concept. The gains with Using fiscal rules to enhance the national welfare could respect to the no-rule (or balanced-budget rule) sce- be an option to be considered. When it comes to fiscal nario is still positive at just over 5 percent of the present rules aiming to use revenue windfalls to enhance value of long-term consumption. However, as men- national welfare, Friedman’s permanent-income tioned, such as rule does not have an explicit counter- hypothesis plays a central role. Roughly speaking, it cyclical element, because it revolves only around the states that national welfare is maximized over time if behavior of oil revenues (prices) and not around the public expenditures are stabilized around the level that private-sector business cycle. The third rule listed in can be sustained by the public sector’s permanent Table 2.6 corresponds to a slightly more complicated income. That is, welfare is maximized when real con- version of the Friedman rule. It is complicated by an sumption is stable and unaffected by transitory shocks. effort to use either current oil revenues emanating It is common in the literature to compare the welfare from current oil sales or using the revenues from the gains from some sort of fiscal rule (one that aims to accumulated oil fund. In theory, the best way to use stabilize private consumption at the level justified by such revenues is in such a way that the marginal pro- the government’s permanent income) to a balanced pensities revenue losses are minimized. For example, budget rule, which implies pro-cyclical fiscal policies. if the rate of return in the short term from the oil fund The use of fiscal rules in this fashion could have is relatively high, then one would want to spend more desirable effects in a downturn. Fiscal rules based on out of current revenues than removing savings from a Friedman’s permanent income hypothesis, however, high yielding fund. The gains from this approach do not contemplate the possibility that households appear to be small however and most Sovereign Wealth within countries differ in terms of their level of income, Funds might do this instinctively. and thus they also differ in terms of their marginal util- A simple rule with an exit clause could be close to the ities of income. In other words, households’ welfare is optimal. This is the scenario depicted in the last row of affected differently if the household is rich or poor. A Table 2.6. This rule would have a simple built-in counter- transitory drop in household income might force a cyclical component embodied in the exit clause. This poor household to reduce food consumption, for clause would provide discretion to the fiscal authority example, whereas a rich household’s consumption to tap the oil fund in situations of severe private sector habits might be materially unaffected by a similar pro- recessions that are transitory. For instance, in Engel portional (transitory) drop in income. The background and Montecinos (2013), this scenario would only occur paper prepared for this report by Engel and Montecinos if private income were to drop by 30 percent. The (2013) takes these differences in marginal utilities of spending would end as soon as private incomes stabilize. income into account. Hence, in their model, the Furthermore, this could be done with Kazakhstan’s national welfare implications of temporary income notably progressive social targeting, whereby the shocks across households are determined by the public lowest 20 percent of households in terms of per-capita sector’s ability to transfer temporary aid to poor house- income tend to receive approximately over 30 percent holds during downturns. of social expenditures. The basic intuition guiding government expenditures The optimal rule would entail accumulating savings of is straightforward. What the complex model developed close to 25 percent of GDP over the next 25-year period. by Engel and Montecinos suggest is that it would be Thus far we have discussed the welfare gains from var- beneficial for the economy to help the private sector ious rules, but we had neglected the fact that any such smooth consumption by combining a precautionary rule would entail a process of accumulation of savings motive with a smoothing of transitory income shocks in an oil-related fund. In Engel and Montencinos (2012) (à-la-Friedman) motive. In this scenario, the govern- such a fund, operating under the optimal and very ment does not only consider its own revenue and complex rule, would have accumulated substantial assets when deciding how much to spend, but also resources over the next 25 years. These savings would looks at how the private sector is doing, spending in principle accumulate over the existing stock of oil more when the private sector’s income is low. This can only work well when automatic stabilizers are well Oil Wealth, Volatility and Macroeconomic Management 29 developed and can play their part. Furthermore, as dis- „ First, consider revisiting the US$8 billion base amount cussed in Engel et al. (2011), because there is income that has been in effect since 2010. If we apply the heterogeneity across households, and the government growth rate of non-oil GDP to this amount we would has only a limited ability to transfer income to the poor, adjust the base amount to approximately US$11 billion.24 the government faces a non-trivial tradeoff when This should preserve the non-distortionary charac- implementing its spending rule: imperfect targeting teristics of the original US$8 billion fixed amount increases the level of expenditure needed to achieve a while allowing for the greater absorptive capacity of given level of consumption for the poorest households, the now-larger domestic economy. For the future, it which in turn makes the optimal policy more counter- should be noted that periodic adjustment of the base cyclical than if targeting were perfect. It follows that might be desirable but it would be counterproduc- better targeting leads to less countercyclical govern- tive to do it on a frequent basis since this would ment spending, implying that countries that have less cause transfer amounts to fluctuate up and down capacity to target transfers should run a more counter- with transitory cycles — exactly the opposite result cyclical effort. from that which inspired this study in the first place. In principle, the goal would be to use trend growth in The evidence shows that the profile of public spending non-oil GDP, something that could only be calcu- can be quite relevant. We find that the optimal rule lated over longer periods of time — at least 4–5 years leads to the same welfare gain as a 16 percent increase if not longer. in the government’s revenues under a balanced budget rule. A Friedman-type rule attains one third of the gains „ Second, confirm the current fixed rule for the NFRK but obtained under the optimal rule (5.2 percent). A linear add two limiting factors for implementing any 15 per- rule in assets and permanent income with optimally cent deviation: chosen marginal propensities achieves a little under half of optimal gains (7.9 percent). Adding an escape z Specify the size of the shock that would trigger clause to the latter rule obtains a little over 75 percent such a deviation; and of the gains under the optimal rule (12.6 percent). The z Impose a time limitation for how long such addi- degrees of countercyclicality of the optimal rule and tional transfers could be used (e.g., two years). the linear rule with an escape clause are similar and much larger than those of the simpler linear rule with- „ Finally, implement “automatic stabilizers” to the extent out an escape clause. possible. That is, use the structure of the tax code (by doing such things as making taxes conditional on The NFRK as currently constituted has been able to income or profits) and the structure of expenditure deal with transitory shocks. As the simulations pre- programs (by doing such things as making poverty sented in the World Bank report entitled Oil Rules: or other assistance programs conditional on income Kazakhstan’s Policy Options in a Downturn, show that or employment status) to make countercyclical rev- even in a scenario that models a “meltdown” of the EU enue and expenditure changes as automatic as pos- does not produce a short run shock larger than what sible. Such arrangements function quite well in can be smoothed at the present time. Longer run simu- higher income economies and can naturally be lations show that the most important factor for the gov- expected to develop in Kazakhstan as its average per ernment is to ensure the efficiency of investment capita income rises through time. expenditures, since even modest success in this has the potential to create very large increases in welfare. Such a rule would retain the base amount at a level However, the danger that a prolonged shock might be consistent with current GDP, oil revenue and fund total mistakenly perceived as transitory is a problem that is holdings (e.g. US$9.2 billion p.a.) but would allow an inherent in any attempt to use the NFRK to smooth increased amount (e.g. 15 percent) in the event that economic fluctuations. GDP growth falls below a specified level. The two year The main recommendations23 to deal with transitory shocks within the framework of the current fiscal rule 24 This figure is achieved by deflating Kazakh government figures for can be summed up as follows: non-oil GDP by the government estimates of CPI over the 2008-12 period and applying the real growth rate from these figures over this period to the US$8 billion base transfer amount. The result is a new total of US$11.1 billion. Non-oil GDP is chosen because this 23 These are the same recommendations advanced in World Bank is the relevant comparison in terms of the discussion above about (2013), Oil Rules: Kazakhstan’s policy options in a downturn, avoiding the distortionary effects of mineral revenue on the Washington, DC. domestic economy. 30 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying limit is in effect an “escape from the escape clause.” is aligned with country’s dependence on net export of Other mechanisms could be envisioned but the idea is oil-related products, as well as its size and initial level to avoid triggering an escape clause in a repeated of development (as of the late 1990s). In turn, the sequential fashion. chapter assessed the empirical correlation between net exports of oil and export concentration, finding a strong link in international data. In addition, export concentration across countries appears to explain the WHAT ARE THE LESSONS FOR THE cross country differences in terms of trade volatility, FUTURE? which feed domestic macroeconomic volatility Kazakhstan has diversified its trade partners but has reflected in GDP growth volatility. Furthermore, exports not been very successful at diversifying its export of oil do not seem to have an independent impact on basket. The evidence presented in this chapter shows volatility, beyond their effect on export concentration. an increasing importance of oil and petroleum prod- Hence, volatility appears to be a strong channel ucts in Kazakhstan’s exports. The increasing reliance through which natural resource endowments affect on oil took place during the recent commodity price growth and national welfare. boom as Kazakhstan benefitted from higher oil pro- The second question we addressed was: what are the duction and higher international oil prices. At the same potential gains from different types of fiscal rules asso- time, Kazakhstan increased its market share in some ciated with the use of oil windfalls, and we concluded major trade partners, like China, but also in the USA that the best rules are those that explicitly include an and a few countries in Europe, albeit at a modest pace. element of counter-cyclicality. Although the most com- In addition, although there has been some limited plex and optimal rule would be difficult to implement diversification of trade partners, this has been obtained in practice due to the need to rely on numerous eco- on the account of exports of old products, mostly oil- nomic parameters while making decisions about what related. to do with current oil revenues, a simple rule based on The first question this chapter addressed was how the standard permanent-income approach with an exit does the dependence on oil exports affect a country’s clause for periods of severe private-sector downturns macroeconomic volatility, and we concluded that the could yield similar benefits as the optimal (and empirical evidence suggests that it affects volatility extremely complex) rule. A parallel World Bank study through its impact on export concentration. The review on fiscal policy options for Kazakhstan provides a more of recent trends in the trade structure of Kazakhstan detailed analysis of the use of oil revenues and the per- unsurprisingly indicated that its export concentration formance of the sovereign wealth fund of the country. Oil Wealth, Volatility and Macroeconomic Management 31 CHAPTER 3 GAPS AND OPPORTUNITIES FOR HUMAN CAPITAL DEVELOPMENT INTRODUCTION developed and diversified economy. In doing so, the chapter addresses the following three questions. First, Each year, more than 300,000 workers enter the labor it looks into where and what kind of jobs have been force in Kazakhstan, but young workers often lack ade- created in Kazakhstan — the evidence shows that quate levels of skills. The 2009 round of the Program employment growth has been highest in the services for International Student Assessment (PISA) showed sector and for occupations that require medium to that Kazakhstan’s students (15 years old in grade seven high skills. Second, the chapter examines whether or higher) performed worse than their peers in differ- Kazakh workers have the skills that are demanded by ent countries. Kazakh students did particularly badly the market — the evidence on that front is that there is on a test that measures the knowledge and skills that a significant mismatch in terms of the skills required by they have learned and practiced at school, when con- the market and the skills supplied by the labor force. fronted with situations and challenges for which that Third, the chapter focuses on what will need to change knowledge might be relevant. The observed perfor- to improve the skills of the Kazakh workers and reduce mance gap represents an important challenge for the gap between the skills that demanded by the market Kazakhstan, as it demonstrates that there is a signifi- and those available in the country’s labor force. cant skills gap and a lower than expected quality of education in the country. As human capital is one of the endowments that matters the most in Kazakhstan, WHERE ARE THE JOBS IN KAZAKHSTAN? these two shortcomings are serious challenges to the Over the last decade, more than two million jobs have diversification of the economy. been created in Kazakhstan. Employment has expanded High labor force participation and employment rates of from 6.2 million people in 2000 to 8.3 million people in men and women have contributed positively to total 2011, mostly driven by growth in the services sector output, and the country is expected to benefit from a and in construction. Economic growth in oil and population dividend. Employment as a share of the mining was almost jobless, while the number of work- working age population (ages 15 and older) increased ers was either stable in the manufacturing sector or from 57.6 percent in 2000 to 67.8 percent in 2011, out- steadily declining in agriculture. As of 2011, agriculture performing OECD countries (at about 55 percent), employed 26.5 percent of the active population, while Malaysia (at about 58 percent) and Russia (at about industry and construction employed 11.6 percent and 58 percent). The potential for further employment 7.4 percent respectively. Overall, services (excluding expansion by increasing labor force participation is central government administration) employ over 50 limited but the country is expected to benefit from a percent of the active population in its myriad sub-sec- population dividend. Kazakhstan’s demography is tor (Figure 3.1). more favorable to economic growth in the near and medium term, with a dependency ratio at its lowest Figure 3.1: Employment by economic activities, 2011 level in 2013 (calculated as the number of non-working 2 Agriculture, hunting forestry age population divided by the working-age population 15 26.5 Industry between the ages 20 and 64). Taking advantage of this Construction 4.7 window of opportunity, by investing in the quality of Trade repair of vehicles and 8.1 consumer goods education and preparing the young Kazakh citizens Other Services that will enter the labor market in the future, is a strate- 9.9 11.6 Transportation and communication gic decision that needs to be taken now. 14.9 7.4 Government administration Education, healthcare, special services Other activities This chapter focuses on the importance of human cap- ital in Kazakhstan’s aspirations to become a more Source: ASRK. 32 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 3.2: Employment growth rates between 2000 Figure 3.3: Occupational profile of employment in and 2011 and the wage ratio to the country mean 2000 and 2011 (thousand workers) ratio to country mean wage 25 12 growth rate, percent 10 2,000 20 8 15 1,600 6 thousand workers 10 4 1,200 5 2 0 800 0 -2 400 -4 -6 0 s n n ks lW e lW s rs rs rs s er r er ad tio tio ke ke to ke er -8 ag th Tr ra ica ica Cl or or or O an pe nd lw lif lif Wage ratio to country mean (lhs) M O ua ua Ag es a ua ra ria Q Q ltu an Employment growth rates between 2001–2011, % (rhs) st ed rvic st m du u M ric he iu Se In ed ig ed Source: ASRK, WB staff calculations H M ill Sk ill Sk Employment growth has been higher for occupations 2001 2011 that required medium to high skills. In Figure 3.2, the Source: ASRK, WB staff calculations blue line measures the employment growth rate for the different types of occupations over the period 2000-11 employed by “public entities.” The public sector is a while the red bars measure the wage ratio of each major employer for wageworkers outside agriculture occupation in comparison to the country average wage accounting for 31 percent of non-agricultural employ- in 2011. Manual and skilled agricultural workers have ment, and 34 percent of dependent (wage) employ- been in less demand – and therefore less remunerated ment. Furthermore, the public sector represents – while employment growth for clerks and workers with 41 percent of employment in medium and large firms medium qualification, and for those employed in the (i.e. firms employing 50 or more workers), which in services and trade sector was about 2-3 percentage turn represents 47 percent of total employment. points. This is in sharp contrast to demand for employ- ees with the highest qualifications whose employment High labor force participation and employment rates of rate has grown by 4 percentage points over the last 10 men and women have contributed positively to total years and whose remuneration has been above the output. A high proportion of Kazakhstan’s adult popu- mean country wage. The data also shows that manag- lation is active in the labor market. The employment ers have been compensated well above the average ratio with respect to the working age population (ages country wage (Figure 3.3). 15 and older) increased by more than 10 percentage points from 57.6 percent in 2000 to 67.8 percent in Manufacturing generates little employment, while the 2011. International comparison of employment ratios services sector absorbs a large share of the labor force. shows that Kazakhstan outperforms OECD countries Urban employment is relatively diverse, with jobs con- (at about 55 percent), as well as Malaysia (at about centrated in utilities, commerce, finance, and other 58 percent), and Russia (at about 58 percent). More- services, and in public administration and construc- over, the gender employment gap was the lowest in tion. The manufacturing sector generates little employ- Kazakhstan (11.4 percent) in 2010 among all compara- ment. In rural areas, more than half of total employ- tors. This was significantly lower than the average for ment is in agriculture (right panel of Figure 3.4). Finally, OECD countries (16.8 percent). the gender profile of employment shows women employed more heavily in services overall, except for The potential for further employment expansion by financial services, and working in close proportion to increasing labor force participation is limited but the men in agriculture, which is typical in the sector. country is expected to benefit from a population divi- dend. Further closing the gender gap would keep the The public sector plays an important role as employer. labor force participation rates high. Also, Kazakhstan’s According to the Agency for Statistics of the Republic demography is more favorable to economic growth in of Kazakhstan (ASRK), from the 8.3 million people the near and medium term, compared to prospects employed in 2011, 1.858 million (or 22.4 percent) were facing its neighbors to the north and west. However, Gaps and Opportunities for Human Capital Development 33 Figure 3.4: Percent of employment per sector—male/ Figure 3.5: Kazakhstan’s demographic window of female and urban opportunity (Top panel) and rural (Bottom panel), 2009 15 30 Lowest dependency ratio: Dependents per 100 12 working age adults 25 65.5 (2013) 20 Population (millions) 9 15 6 10 5 3 0 0 g g g ty Co ion ce ge e n s 2010 2020 2030 2040 2050 ice nc in in in tio ili er ra sh in cit ctur ct Ut ra rv ra m o tru M su Fi St Se ist m nd ec nufa In ns d n, in 65+ er 0–19 ya an tio m Co l, th a ia Ad e M O ta nc Dependency ratio (20–64) r 20–64 tu tri or ic na l sp icu bl Fi El Pu an r Source: Author’s calculations based on data from UN (2011). Ag Tr Male Female output per worker (oil and non-oil) in 2010 was about US$18,000, which is still substantially lower than in 60 comparator countries. The red bar in Figure 3.6 shows 50 non-oil output per worker at about US$14,000 in 2010, 40 which is also below average when contrasted to com- parator countries. Kazakhstan’s non-oil output per 30 worker is about 15 percent below the average non-oil output per worker for the ECA region, and 25 percent 20 below the average productivity for the Latin American 10 and Caribbean region. 0 Modernization of the economy and economic diversifi- g g g ty n ce e e n s ice ag nc in in rin io tio ili er cation will require a highly skilled labor force and sh in ct Ut or ra rv ra tu m ru M su Fi St Se ist ac m nd st In d uf Co n, productivity and job creation in the non-oil sector. in er n ya an tio an m Co l, th ia cit Ad re M O rta nc According to the World Economic Forum’s classifica- tu tri po ic na ul ec bl ns ric Fi El Pu tion of different stages of development, Kazakhstan’s a Ag Tr GDP per capita at US$11,000 places the country in the Male Female group of economies that are transitioning from an Source: World Bank staff calculations based on data from the efficiency-driven stage of development to an innova- Agency of Statistics of the Republic of Kazakhstan and the 2009 tion-driven stage of development (see Figure 3.7). The Labor Force Survey. relevant question, however, is whether Kazakhstan has in fact the typical characteristics that are usually found this demographic advantage will narrow in the coming in an efficiency-driven economy, namely good higher decades due to the natural aging of the population and education and training, goods market efficiency, and longer life spans. In fact, Kazakhstan’s dependency labor market efficiency, to quote a few. The evidence so ratio (calculated as the number of non-working age far indicates that there has been employment growth population divided by the working-age population in occupations that require a higher degree of labor between the ages 20 and 64) will be at its lowest level force qualification. The next section assesses the skills in 2013 (Figure 3.5). mix available in the labor market and whether there are any market imperfections that could hamper the Although productivity has grown fast over the last country’s modernization plans and limit its ability to decade, Kazakhstan’s productivity levels are still rela- move to the group of high-income and innovation- tively lower than in comparator countries. Kazakhstan driven economies. has experienced fast productivity growth over the last 10 years both in the oil and non-oil sectors of the econ- omy. The green bar in Figure 3.6 shows that total 34 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 3.6: International comparison of labor productivity in Kazakhstan 35K US$ current, 2010 30K 25K 20K 15K 10K 5K 0 l m Bu bia in ria e A l Ro frica EA ia Pa All st a kh ts a no a A LA ia Le All W n M ld ico el y ge B a za on an L l de a Li ion Po ia Ur land y oi l zi zu ke ua M om Co am za Bo Ric n in Fe atvi ut A no Ar , R EC an s n or a n- st wa st dl ga Ka Gab ay ex m nt ua So NA P C t ne Tur Br ug ba ra a m kh n c a l al lo th h E M Co an e id n Ve ia ss r pe Ru Ka Up GDP per capita (current US$) Output per worker Source: WDI, WB staff calculations. Note: The green bar in Figure 6 refers to total output per worker (oil and non-oil); the red bar refers to non-oil output per worker. “MENA All” refers to all countries in the Middle East and North Africa; “EAP All” refers to all countries in the East Asia and Pacific region. “LAC All” refers to all countries in Latin America and the Caribbean. Figure 3.7: Competitiveness and different stages of development STAGES OF DEVELOPMENT Stage 1: Transition from Stage 2: Transition from Stage 3: Factor-driven stage 1 to stage Efficiency- stage 2 to stage Innovation- 2 driven 3 driven GDP per capita (US$) <2,000 2,000–2,999 3,000–8,999 9,000–17,000 >17,000 thresholds* Weight for basic requirements 60 40–60 40 20–40 20 subindex (in %) Weight for efficiency enhancers 35 35–50 50 50 50 subindex (in %) Weight for innovation and sophistication factors subindex 5 5–10 10 10–30 30 (in %) Basic requirements Key for „ Institutions „ Infrastructure factor-driven „ Macroeconomic environment economies „ Health and primary education Efficiency enhancers „ Higher education and training Key for „ Goods market efficiency „ Labor market efficiency efficiency-driven „ Financial market development economies „ Technological readiness „ Market size Innovation and sophistication factors Key for „ Business sophistication innovation-driven „ Innovation economies Source: World Economic Forum, The Global Competitiveness Report 2011-2012. Gaps and Opportunities for Human Capital Development 35 DO KAZAKH WORKERS HAVE THE SKILLS Figure 3.8: Gross school pre-primary enrollment in DEMANDED BY THE MARKET? 2000 and 2009 (In percent) Kazakhstan has made progress in improving pre- 100 primary enrollment over the last decade. According to the World Bank’s World Development Indicators, pre- 80 primary enrollment in Kazakhstan more than doubled 60 Percent over the last 10 years increasing from 20 percent in 2000 to 47 percent in 2011. This achievement has two 40 main benefits. First, early childhood education gives 20 children a head start on skill development, school read- iness, and future education success. Second, better 0 an D nd ia ia ry access to childcare services may contribute positively EC s ss ga st la ay Ru un kh Po O al to women’s employment (World Bank, 2011, p. 297). M za H Ka Notwithstanding this impressive progress, it is still lags behind other comparator countries (Figure 3.8). 2000 2009 The gap was also large between Kazakhstan and the Source: WDI. neighboring Russian Federation where pre-primary enrollment was almost 90 percent in 2009. Further- more, regional variation in access to early childhood Figure 3.9: Tertiary enrollment in 2000 and 2009 education is large in Kazakhstan’s oblasts. For example, (In percent) in 2010 pre-primary enrollment varied between 90 percent 80 in Kostanai and 18 percent in South Kazakhstan. 70 60 Tertiary enrollment has remained low. Gross enrollment 50 Percent in primary and secondary education in Kazakhstan was 40 100 percent in 2011, slightly higher than the average for 30 OECD countries and much higher than enrollment 20 rates in Malaysia and Russia, for example. Enrollment 10 in tertiary education expanded from 28 percent in 2000 0 to 41 percent in 2011, but this is still low in comparison an D nd sia ia ry EC ss ga st la ay Ru un kh Po O al to other countries with similar levels of economic M za H Ka development. International comparisons based on data from the WDI for 2000 and 2009, for example, 2000 2009 suggest that tertiary enrollment in Kazakhstan was Source: WDI. similar to that observed in Malaysia, but much lower than in OECD countries and in Russia. Though acquisi- tion of more education at the tertiary level is indeed Figure 3.10: Share of enrollment among 16–17 year beneficial from the perspective of having a larger pool children by consumption per capita quintiles in 2009 of higher skilled workers, there are certain factors to be (In percent) aware of. For example, a rapid increase in tertiary school 100 students requires close oversight in order to prevent the deterioration in the quality of education—whether 80 in terms of larger class size or hiring new teachers without the necessary qualifications or experience. 60 There are important disparities in enrollment in educa- 40 tion institutions across residence and welfare status 20 affecting children graduating from basic secondary school. School enrollment fluctuates around 100 percent 0 for children aged 7-15. However, for children 16 years Bottom II III IV Top and older, enrollment among the poor drops (Figure 3.10). No Study Secondary Vocational By the age of 18, enrollment among children from 8–11 Grades University poorer households stands at 58 percent while enroll- Basic Vocational ment among children from richer households stands Source: ASRK, WB staff calculations. 36 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying at 89 percent. Rural enrollment also lags behind urban professional lyceums.25 Thousands more entered the enrollment when children graduate from basic general labor force with general secondary education or less. secondary school. Further analysis of enrolment across Among young workers aged 16-24 who are not enrolled consumption per capita quintiles shows no significant in school, approximately 41 percent enter the labor difference in the share of children enrolled in second- market with general secondary education or less, ary school. However, poor children aged 16-17 are more 36 percent complete vocational secondary education likely to quit studying completely, while children from and 23 percent possess higher education degrees.26 richer households enroll in secondary vocational schools (Figure 3.11). For example, 12 percent among In international terms, Kazakhstan fares poorly when it the poorest are not studying in comparison to only comes to providing adequately trained workers to the 3 percent among the richest households. Moreover, labor market. The new entrants to the labor market 29 percent of children from the richest households often lack adequate levels of basic skills when entering enroll in secondary vocational schools in comparison the labor force despite having formal credentials from to only 14 percent among the poorest. the country’s education system. In 2009, Kazakhstan participated for the first time in the Program for Inter- Figure 3.11: Share of enrollment among 16–17 year national Student Assessment (PISA), which assesses children by residence functionality of students in mathematics, reading and (In percent) science. The PISA results suggested that Kazakhstan students underperformed on these assessments com- 80 pared to their peers in other income comparator coun- 70 tries (Figure 3.12). In particular, students underper- 60 formed compared to other countries at similar levels of 50 development, scoring an average of 40 exam points lower on the PISA reading scale—equivalent to about 40 one year of schooling—than the level predicted by the 30 country’s GDP per capita (Figure 3.13). Box 3.1 explains 20 what the PISA scores measure and how to interpret them. 10 0 There are, however, two bright spots on Kazakhstan’s s ity y io ic na y record of cognitive skill provision, as measured through ud de tio ar at Bas rs l l ca nd na ra St ive G Vo co international student assessments. The first is the o Un N 11 Se c 8– Vo aspect of gender differences. In the PISA 2009 round Urban Rural of assessments, Kazakhstan’s 15-year-old girls scored significantly better than boys on the reading portion of Source: ASRK, WB staff calculations. the assessment and slightly better than—though not There are also important differences between rural and statistically differently from—boys on the mathematics urban areas. Children aged 16-17 in rural areas are and science assessments. In math in particular, more likely to finish all 11 grades (general secondary), Kazakhstan’s gender-balanced performance stood in but are less likely to continue their education, after stark contrast to most of the comparator countries and graduating from general secondary. Urban children are the OECD, where girls typically underperformed in more likely to choose basic and secondary vocational relation to boys. education which can generate higher returns in the The second bright spot is the possible improvement of future. This may indicate limited access opportunities Kazakhstan’s performance over time in these interna- for rural children to enter secondary vocational system. tional benchmarking exercises. The recently released 2011 results of the Trends in International Mathematics The Quality of Education Needs Attention Each year over 300,000 new workers enter the Kazakh labor force. In 2011, 160,000 students graduated from public and private universities. Another 184,000 com- pleted vocational secondary education in colleges and 25 ASRK. 26 HBS 2009. Gaps and Opportunities for Human Capital Development 37 Figure 3.12: Students in Kazakhstan underperformed Figure 3.13: The average reading score is relatively in PISA tests compared to their peers poor in Kazakhstan (PISA Results in Selected Countries) (PISA Reading Results Worldwide, 2009 mean performance) 70 550 2009 mean performance Percent of students performing 60 POL EST 500 HUN LVA HRV CZE SVN 50 LTU SVK at Level 1 or below TUR 450 SRB RUS 40 BGR ROM MNE 30 400 KAZ ALB 20 AZE 350 10 KGZ 300 0 0 20k 40k 60k 80k 100k an ia ia D ry nd er EC s ss ga po ht la ay Ru un Po O ks ga al 2008 GDP per capita, PPP (current international $) za M H n Si Ka Source: Sondergaard and Murthi (2012). Mathematics Reading Science Note: The best-fit line represents a regression of countries’ predicted PISA scores based solely on GDP per capita. The horizonatl line rep- Source: Program for International Student Assessment (2009), and resents the OECD mean reading score on the assessment. Walker (2011). Note: Malaysia’s students were assessed in 2010 as part of the PISA 2009 Plus round of assessments. Box 3.1: What is the PISA and What Does it Measure? The Program for International Student Assessment (PISA) was designed and developed by the Organisation for Economic Co-operation and Development (OECD) in the late 1990s as an ongoing, periodic international comparative study of certain student characteristics and proficiencies. PISA surveys take place every three years. The first survey took place during 2000. The survey is designed to generate indicators of aspects of educational performance, so that the participating countries have access to high-quality and reliable mea- sures of outcomes of aspects of their educational systems. PISA is an age-based survey, assessing 15-year-old students in school in grade 7 or higher. These students are approaching the end of compulsory schooling in most participating countries, which makes this a suit- able age-group at which to target an assessment of the extent to which students are prepared for the daily challenges of modern societies. To do this, PISA takes a ‘literacy’ perspective that focuses on the extent to which students can use the knowledge and skills they have learned and practiced at school when confronted with situations and challenges for which that knowledge may be relevant. That is, it assesses the extent to which students can use their reading skills to understand and interpret various kinds of written material that they are likely to meet as they negotiate their daily lives; the extent to which students can use their mathe- matical knowledge and skills to solve various kinds of mathematics-related challenges and problems they are likely to meet; and the extent to which students can use their scientific knowledge and skills to under- stand, interpret and resolve various kinds of scientific situations and challenges. PISA also allows for the assessment of additional cross-curricular competencies from time to time as par- ticipating countries see fit. For example, in the 2003 survey cycle, an assessment of general problem-solving competencies was included. Further, the PISA survey collects information from students on various aspects of their home, family and school background; and information from schools about various aspects of orga- nization and educational provision in schools. This information is collected to facilitate a detailed study of factors within and between countries that are associated with varying levels of reading, mathematical and scientific literacy among the 15-year-old students of each country. The resulting analyses are of interest to policy makers in participating countries seeking to better understand the relationships between performance and a variety of background factors, the connections to various national education policy settings, and the responsiveness of outcomes to changes in policy settings. Source: Adapted from Turner, Ross (2006), PISA – The Program for International Student Assessment – An Overview, Article for the Australian Consortium for Social and Political Research Incorporated 38 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying and Science Study (TIMSS)27 indicate that Kazakhstan’s Figure 3.14: Structure of the labor force in Kazakhstan students performed closer to—though still lagged by level of education and place of residence, 2001 slightly behind—their peers in comparator countries and 2011 than they did in PISA 2009. The results were particu- (In percent) larly encouraging for Kazakhstan’s fourth-graders, who Urban areas scored significantly higher than their counterparts in 100 Poland on the TIMSS 2011 mathematics assessment. 16.5 32.0 However, it is not possible to draw conclusions about 80 trends in performance across different types of assess- 41.8 ments. Policymakers should therefore keep a close eye 60 on the forthcoming results of the PISA 2012 round, 42.0 40 which will for the first time allow Kazakhstan to exam- ine its performance over time in a comparable manner. 20 41.7 25.9 0 There is a Skills Mismatch in the Labor Market 2001 2011 The labor force with higher education expanded both High Vocational School in rural and urban areas, but it grew faster in urban Rural areas areas. The number of workers with vocational educa- 100 tion expanded only in rural areas, and remained impor- tant in urban areas whereas the share of the labor force 80 49.4 with secondary school education contracted both in 65.3 rural and urban areas. As a result of these changes, 60 workers with higher and vocational education accounted for equal shares of the labor force in urban 40 32.1 areas: 42 percent each. The remaining 16 percent of 24.3 20 the urban labor force had secondary school education 18.5 or below in 2011. In rural areas, workers with secondary 10.4 0 2001 2011 school education account for the largest share of the labor force while those with vocational education rep- High Vocational School resent 32 percent of the total (Figure 3.14). Source: ASRK, as cited in Atamanov and Sattar (2012b). There is excess demand for workers with higher and vocational education, and excess supply of workers with general secondary school education and below. By Figure 3.15: Index of labor shortages and surpluses by comparing the structure of employment and unem- education attainment in 2002 and 2010 ployment by education level, one can identify the types .5 of occupation that were more avidly demanded in the .3 labor market. Figure 3.15 shows that workers with Shortage higher and vocational education were in greatest .1 demand in 2010, when compared to those with basic 0 Index secondary and general secondary education. Interest- -.1 ingly, workers with basic vocational skills are in higher shortage than workers with higher education. In fact, -.3 for men a basic vocational degree was highly valued in Surplus the labor market in 2010, while higher education -.5 degrees were in demand for both men and women -.7 Basic General Basic Secondary Higher secondary secondary vocational vocational 2002 2010 27 For the past 20 years, TIMSS (Trends in International Mathematics Source: ASRK, WB staff calculations. and Science Study) has measured trends in mathematics and science achievement at the fourth and eighth grades. Kazakhstan Note: The index is calculated as (e/u-1), where e and u are respec- first participated in the quadrennial assessment in 2007. However, tively employment and unemployment shares of a given occupa- tional group. Positive values of index indicate shortages of particular its first internationally comparable assessment of fourth and occupational group, while negative values indicate a surplus. eighth graders took place in 2011. Gaps and Opportunities for Human Capital Development 39 Over the period 2002-10 there was a substantial reduction Figure 3.16: Percent of firms reporting a given “basic” in the shortage of workers with secondary vocational skill to be important/very important for specialist/ and higher education. The shortage slightly increased skilled workers in Kazakhstan for the workers with basic vocational education. Ability to work independently Time management skills The pattern of labor shortage is not similar across Literacy genders. Female workers with higher education were in Russian language skills Communication skills greater demand than men in 2002, but by 2010 labor Analytical thinking shortages for workers with higher education equalized Problem solving skills Customer relations skills across genders (Figure 3.15). Interestingly, during the Writing skills same period, the labor shortage for men with basic Mathematics (calculation) vocational skills outpaced labor shortages for female Computer skills Telephone conversation workers, and was much higher in 2010. Kazakh language skills Management skills In international terms, Kazakhstan fares poorly when it English language skills comes to providing adequately trained workers to the 0% 20% 40% 60% 80% 100% labor market. Among 30 countries in Eastern Europe Source: Ivaschenko (2008). and Central Asia, only Russia and Belarus have larger shares of firms who consider worker skills a “major” or (the most demanded occupation) is the insufficient a “very severe” constraint to firm growth.28 Half of quality of local training, which was cited by 63 percent Kazakhstan’s firms fall into this category, compared to of employers. Lastly, while fewer than 50 percent of only 14 percent across the OECD. Moreover, while Kazakh employers provide opportunities for worker Kazakhstan’s employers view worker skills with concern, training or retraining, the likelihood of receiving train- they train their employees with less frequency than ing tends to increase along with the level of skill (spe- firms in other countries that face skills mismatches. cialists receive training in more than 40 percent of sur- Despite the fact that 51 percent of Kazakh employers veyed firms).30 consider skills a major constraint, only 41 percent pro- vide formal training. Meanwhile, firms in Russia Even though the share of firms providing formal (52 percent), Poland (61 percent), and Malaysia employment for permanent employees in Kazakhstan (50 percent) are more likely to report offering formal was comparable to the ECA average in 2008, the training. percentage of trained employees was still lower in Kazakhstan. According to World Bank (2010), 22 percent While most employers place a high value on skills and of production employees participated in training in training, they do not necessarily fund it.29 Firms place Kazakhstan in 2008, in comparison to 24 percent in high requirements in terms of formal educational qual- FSU and 36 percent in ECA. For non-production ifications for the workers they expect to hire—when employees, the share of trained workers was even hiring specialists and managers, more than two-thirds lower in 2008: 11 percent in Kazakhstan, 17 percent in of all employers prefer candidates to have higher edu- FSU, and 26 percent in ECA countries. cation degrees. For most other positions, vocational or specialized secondary education is preferred—a gen- The key question for Kazakhstan is whether the coun- eral secondary school diploma is not enough. When try’s education sector is producing the right kinds of asked to rate skills on the basis of importance for their workers for an evolving economy. From 2007–11, the specialists, a sample of 500 employers placed the abil- country’s labor force added almost 550,000 net jobs ity to work independently at the top of the list, followed that were filled by graduates of higher education insti- by time management skills. Communication, analytical tutions. Another 390,000 net jobs went to workers thinking, problem solving, and customer relations with vocational secondary degrees, while those with were also important to at least three-quarters of all general secondary education or less faced a net loss of employers (Figure 3.16). The main reason given for 265,000 jobs. Not surprisingly, the vast majority (81 why firms find it difficult to fill vacancies for specialists percent) of jobs gained by those with university degrees were in the service sectors. Among vocational educa- tion graduates, 69 percent of the net job gains were in 28 Sondergaard and Murthi (2012). 29 Ivaschenko (2008) is based on a skills and labor demand survey conducted in 2008 to shed more light on the specific worker skills 30 Please consult Annex 1 for a more complete list of key results from this being sought by Kazakh employers. survey. 40 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying services and a further 24 percent in industry and con- Figure 3.17: Structure of total employment in struction. The losses for those without specialized Kazakhstan by sector and level of education, 2007–11 degrees came mainly in agriculture (Figure 3.17). All levels of education Higher education graduates now make up 43 percent 10,000 of the workforce in services, the fastest growing sector, 8,000 compared to 38 percent four years earlier, and 31 per- Employment cent of the workforce as a whole (versus 26 percent in 6,000 2007). These gains—as well as the modest gains made 4,000 by vocational graduates—have come at the expense of those who receive no specialized vocational training at 2,000 the secondary or post-secondary level. 0 2007 2008 2009 2010 2011 In spite of continued employment growth, the education Agriculture Industry Construction Services system produces more graduates in some sectors than what can be absorbed by the labor market. Although there has been no net job creation in agriculture in Higher education recent years, Kazakhstan’s vocational education institu- 3,000 tions continue to produce thousands of agriculture spe- cialists. Industrial and construction-related specializa- Employment 2,000 tions also receive more VET graduates each year than the number of jobs created by the Kazakh economy. Only in some parts of the service industry does the job 1,000 creation keep up with the annual number of graduates (Figure 3.18).31 However, as discussed above, although 0 large quantities of graduates enter the respective sectors 2007 2008 2009 2010 2011 each year, they may still lack the appropriate quality and Agriculture Industry Construction Services mix of skills demanded by employers. Vocational secondary education 3,000 WHAT WILL NEED TO CHANGE TO REDUCE THE MISMATCH IN THE LABOR MARKET? 2,500 Employment 2,000 Education is among the top priorities in Kazakhstan, 1,500 but the share of public spending on education in GDP is still much lower than the average for OECD coun- 1,000 tries. Kazakhstan declares importance of education in 500 strategic documents and invests resources in its acces- 0 sibility and modernization. Significant efforts were 2007 2008 2009 2010 2011 made in improving the system of education over the Agriculture Industry Construction Services last 10 years, Kazakhstan was ranked fourth in 2008 on UNESCO’s “Education for All Development Index” General secondary education or less reflecting near universal levels of primary education, 4,000 adult literacy, and gender parity (UNESCO, 2011). Nonetheless, international comparisons based on the 3,000 Employment World Development Indicators (WDI), demonstrates that the share of public spending on education at close 2,000 to 3 percent of GDP in 2009 was still lower than in OECD countries, Malaysia, and the Russian Federation 1,000 (Figure 3.19). 0 2007 2008 2009 2010 2011 Agriculture Industry Construction Services Source: Author’s calculations based on data from ASRK. 31 Because many vocational graduates choose to continue their studies in higher education institutions, it is not possible to calculate the exact labor market absorption levels for Kazakh graduates with the data currently available. Gaps and Opportunities for Human Capital Development 41 Figure 3.18: Net job creation and number of graduates ing the quality of skills possessed by graduates at each in Kazakhstan by sector, 2010 level of the education system. In view of the education outcomes discussed in the preceding sections of this chapter, these are appropriate goals to be pursued. Net jobs created However, a number of gaps remain between the stated VET graduates objectives outlined above and the policy needs for achieving the country’s long-term development aspira- tions. First, a thorough understanding is needed of the HE graduates skills that are necessary for the country’s economic development, although this is arguably a challenge in a 0 50 100 150 200 250 transition economy. Limited evidence from Kazakhstan— Thousands and more compelling evidence from elsewhere—sug- gest that higher-order analytical skills and “soft” skills Agriculture Industry and Construction Services are increasingly in demand from employers in an econ- Source: Author’s calculations based on data from ASRK and MOES. omy that is moving toward higher value-added produc- tion. The government’s present emphasis on improv- ing student performance on international assessments, Figure 3.19: Share of public spending on education in which measure basic literacy and numeracy skills (such 2000 and 2009 as PISA, TIMSS, an PIRLS), does not fully address the (In percent of GDP) need to prioritize and track progress along various 6 dimensions of non-cognitive and behavioral skills. This 5 is despite the fact that some of the skills are already identified as important in the government’s education 4 strategy, including creativity and critical thinking. Both Percent of GDP 3 sets of capacities are important for a country’s eco- nomic growth and an individual’s job performance, yet 2 the two are typically measured and addressed in differ- 1 ent ways.35 0 The determination of which skills are important should be linked closely to a thorough understanding of cur- an D ry nd e sia ia or EC ss ga ht la ay ap Ru un rent and future labor market needs. As discussed Po O ks al ng za M H Si Ka above, there are growing mismatches between the skills of current graduates and the demands of the 2000 2009 labor market. Information needs to be gathered to Source: Author’s calculations based on data from ASRK and MOES. identify the skills that are important to employers, and the existing competencies of the adult work force. Government Strategic Objectives Through this exercise, it will be possible to gain a better understanding of the current skills gap. Building this The main policy objectives of the Government of the knowledge base through skill measurement studies Republic of Kazakhstan (GoRK) focus appropriately on that can inform education and training policies is a skills development. These include the “Strategic Plan complementary step to aligning government policy for Development of the Republic of Kazakhstan until with the country’s development needs. 2020,”32 the “State Program on Development of Educa- tion of the Republic of Kazakhstan for 2011-20,”33 and Moreover, in addition to improving the quality of gradu- the “Employment Program 2020”,34 among others. ates’ skills, the quantity of graduates should be aligned One key direction of the Strategic Plan, entitled “Invest- with realistic needs of the economy. As discussed above, ing in the Future,” sets out a number of goals to be Kazakhstan’s vocational and higher education institu- achieved by the country’s education system and labor tions currently train more skilled specialists in some force by 2020 (Box 3.2). These goals focus on enhanc- sectors (such as agriculture) than the labor market demands. The stated goal of bringing the share of work- ers with higher education degrees to 50 percent by 32 GoRK (2010a). 33 GoRK (2010b). 34 GoRK (2011). 35 World Bank (2012a). 42 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Box 3.2: Selected Strategic Goals Outlined by the Government in the Sphere of Education and Labor Force Development to be Achieved by 2020 „ General secondary schools will provide academic knowledge and develop the skills for promoting the formation of an educated, ethical, critical thinking, physically and spiritually developed citizen, seeking self-development and creativity. „ Pupils of Kazakhstan’s general secondary schools will achieve high results in international comparative assessments, such as PISA, TIMSS, PIRLS. „ High quality of the knowledge and skills of technical and vocational education graduates will be recog- nized by employers. „ The quality of higher education in Kazakhstan will correspond to the best global practices in the educa- tion sector. „ The graduates of domestic higher education institutions will be in demand by employers. „ The share of highly skilled workers in the working population will increase to 50 percent. Source: GoRK (2010a). 2020—from 30 percent in 2010—should be considered „ Deepen school autonomy and accountability. carefully in line with projected economic demand. Schools can redefine their incentive structure to create better conditions for learning and teaching, The authorities could consider a number of policy and create accountability mechanisms through com- options that could have a positive impact on the quality of munity participation for school autonomy and education in Kazakhstan. These include the following: accountability. „ Improve planning to address more efficiently per- „ Improve monitoring and evaluation systems to iden- ceived gaps in the education environment. tify gaps and respond on time to student and school needs. „ Improve teacher effectiveness and focus on teacher policies, including teacher training (pre- and in-ser- „ Put in place a well-articulated Early Childhood Devel- vice), teacher pay and incentives to attract the most opment (ECD) program for children from 0-3 years qualified. with emphasis on most vulnerable groups. „ Provide in-service support to schools and teachers, „ Build job-relevant skills by offering training and ter- equipping them with innovative and effective tools tiary education, as well as and promoting improve- for curriculum development. ments in technical and vocational education in order to advance the relevance of its curriculum and match „ Continue with phasing-in Per Capita Financing it to labor demand. (PCF), as it has the potential to reform education systems through enhanced efficiency, equity, trans- parency, and accountability. Gaps and Opportunities for Human Capital Development 43 CHAPTER 4 THE INSTITUTIONS THAT MATTER FOR DIVERSIFICATION INTRODUCTION This report postulates that the institutions that matter for diversification are those used by the government to A large empirical literature suggests that differences in manage volatility, those that are put in place to regulate the quality of institutions are responsible for divergent the business environment, and those that are responsible growth paths of successful and non-successful for and that affect the provision of public services. As dis- resource-rich countries. Institutions range from unwrit- cussed in Chapters 1 and 2, in the context of a resource- ten customs and traditions to complex legal codes that rich country, a volatile macroeconomic environment regulate the behavior and interaction of firms and indi- introduces uncertainty in the economy that can be viduals among themselves and with the government. responsible for several problems. In the presence of vola- A summary of the literature on growth and resource tility, the government faces uncertainty about how much dependence indicates that the quality of institutions is revenue stemming from the resource sector will be avail- an important factor that helps to explain why some, able to finance investments and the provision of public but not all resource-rich countries suffer with the so- services. Private agents and investors in particular, also called “resource curse.” In line with this thought, natu- become increasingly wary of taking risks and may decide ral resource dependence only affects growth perfor- to not start new businesses or undertake significant new mance negatively in countries with inferior institutions investments. The quality of public service delivery is (Gelb, 2012). important in this context, as it affects the functioning of markets, the speed of economic transactions, and even According to the 2002 World Development Report, the the competitiveness of a nation. A court system that does institutions that are important for diversification need not work well may affect the enforceability of contracts, to be efficient, flexible, and inclusive.36 Efficient institu- the application of the rule of the law, and the respect to tions ensure the necessary flow of information to the property rights. An education system that does not pre- market, as well as secure property rights and the pare students well for a competitive market will limit the enforceability of contracts. They address whether there capacity to innovate. Under these conditions, the pros- is too little or too much competition (monopolies pects for the development of the non-resource sector of versus lack of intellectual property rights and safe- the economy become more limited, while economic guards). The notion of flexible institutions is associ- policy making becomes increasingly complex. ated with the fact that there is no single institutional form that is a clear choice to replicate. The form and This chapter discusses why it is important for Kazakhstan function of institutions is defined by a set of conditions to keep the focus on the institutions that matter for within and outside a country during a specific period of diversification. As Chapter 2 discussed at length issues time. When these conditions change, institutions need related to volatility management, this chapter focuses to change too. For instance, a country may need a on the institutions that affect the functioning of the privatization agency for a few years, but not forever. markets, the behavior of economic agents, and the Inclusive institutions are those that have economic provision of public service delivery. First, it looks into institutions that encourage innovation and invest- the quality of the regulatory and governance environ- ment. They provide secure property rights and elimi- ment in Kazakhstan. Governance and regulatory insti- nate significant entry barriers. They create a level play- tutions are important because they lay the foundation ing field so that the majority, or ideally all, of the citizens for a rules-based economy. Second, it examines of a given nation can take part in economic activity whether market institutions are well developed in (Acemoglu and Robinson, 2012). Kazakhstan. In this section, the analysis focuses on the institutions that affect the behavior of agents and that influence the functioning of markets. Third, the focus is turned to what will need to change to strengthen the 36 See World Bank (2002). institutions that matter for diversification in Kazakhstan. 44 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying DOES KAZAKHSTAN HAVE A STRONG age technological development and adaptation; and GOVERNANCE AND REGULATORY innovation and skills upgrades. ENVIRONMENT? Malaysia and Indonesia diversified away from petro- Inclusive institutions play a fundamental role in sup- leum and into low-level manufacturing sectors. Again, port of sustainable growth and the development of a macroeconomic prudence was the bedrock of both nation. Inclusive political institutions mean a broad countries’ success story. Both countries used currency distribution of power and limits to that power, such depreciation, moved towards an open trade regime, as transparent and fair elections. Fundamentally, invested in infrastructure, and targeted support to inclusive and pluralistic institutions create incentives manufacturing through a variety of schemes and incen- for everyone to invest in the future. These institutions tives. The two countries ensured an important fraction increase the probability of sustained growth for a of the resource rents filtered through the rural commu- country by allowing free expression, innovation and nities by expanding infrastructure and support of agri- competition. On the other hand, if institutions are cultural modernization. As the economies moved up extractive (i.e. protecting the political and economic the production ladder in the 1980s from low -level to power of a small elite that takes income from a major- high-tech manufacturing, both governments empha- ity) growth will eventually falter and the nation will fail sized education, technical and technological learning as innovation and new entry into markets are discour- and exchange relations with universities in developed aged to protect the benefits of a few (Acemoglu and countries (Gelb, 2012). Robinson, 2012). This section reviews the factors that are associated Resource-rich economies with strong institutions have with regulatory institutions in Kazakhstan. From a reg- a larger range of potential options for diversification ulatory perspective, institutions need to be functional than those with weak institutions. Many of the indus- so that they can facilitate the interaction of economic trialized economies, including the United States, ini- agents in the marketplace. In what follows, the perfor- tially built their growth on the exploitation of natural mance of Kazakhstan is considered on three different resources. In more recent times, countries like Norway aspects: (i) the rule of law and the regulatory institu- and Chile have successfully pursued broad-based tions; (ii) corruption and transparency; and (iii) civil growth while developing or maintaining a high share of service and service delivery. oil or minerals in exports. Malaysia and Indonesia used macroeconomic prudency and upgrading of techno- Regulatory Institutions logical systems to sustainably diversify and grow. Kazakhstan is making progress in strengthening its Norway and Chile diversified their economies within the institutional regulatory framework. The 2011 Worldwide commodities sectors and benefited from functional sav- Governance Indicators on rule of law and regulatory ings/stabilization funds that helped stabilize the macro- quality reveal a slight improvement compared to the economic environment. The two states were centralized early 2000s (Figure 4.1). Institutions that are deemed sufficiently to exert safety and security for the past four necessary are being established and are given substan- decades, though Chile experienced serious political tial powers. The recently introduced institutional upheavals in 1973 and with the fall of President Augusto reforms through a new budget code and the e-govern- Pinochet. However, both countries were also recognized ment project with an e-procurement element are exam- as having a capable technocracy to run the government. ples of successful initiatives of institutional strength- In addition, each country strengthened institutions to ening. These efforts are leading to slowly improving support academic and educational developments, government effectiveness, but more can be done. Table research and development within specific sectors and 4.1 provides an overall view of Kazakhstan’s perfor- throughout the economy. In the case of Norway, this was mance based on selected measures of institutional partially done through tax incentives for research and quality. The table confirms that Kazakh institutions are development. Joint ventures and cooperative agree- performing well in terms of providing stability and ments were encouraged, leading to FDI and knowledge safety, but perform poorly on indices that measure var- transfer. This means that their business environment ious aspects of the rule of law. was attractive enough for FDI. In the case of Chile, the government adopted the following policies to improve While there have been improvements in terms of the access to finance for small and medium enterprises quality and coverage of regulatory institutions, there (SMEs); public private partnerships, and various other are gaps to be overcome in implementing regulations institutions; supportprograms and incentives to encour- The Institutions That Matter forDiversification 45 Table 4.1: Selected Indices of Institutional Quality, 2012 OECD average = 100 CHN KAZ RUS TUR OECD EU-27 EU-10 CA-5 Heritage Foundation — Property rights 26 52 32 65 100 92 74 27 Heritage Foundation — Corruption 51 42 31 64 100 92 71 30 WGI — Rule of law 54 49 45 68 100 97 84 35 WGI — Control of corruption 49 40 38 69 100 94 76 34 WGI — Political stability / No violence 56 73 51 49 100 102 99 62 WJP — Limited government powers 47 46 41 62 100 99 87 45 WJP — Absence of corruption 68 50 51 72 100 97 83 41 WJP — Crime 96 91 60 78 100 101 99 97 WJP — Regulatory enforcement 58 62 64 78 100 97 84 63 Source: Heritage Foundation Index of Economic Freedom, Worldwide Governance Indicators and World Justice Project Rule of Law Index. Figure 4.1: Kazakhstan’s governance indicators have shown improvements since 1996 Government effectiveness and regulatory quality have Rule of law has improved considerably in the second half of the improved steadily 2000s but remains at a relatively low level 50 35 30 40 Percentile Rank Percentile Rank 25 30 20 20 15 10 10 1996 1998 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 1996 1998 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Government Effectiveness Regulatory Quality Rule of Law Kazakhstan’s political stability index was good up to 2009, Control of corruption is ranked very low and has not but improvements are needed on voice and accountability improved recently 80 25 70 60 20 Percentile Rank Percentile Rank 50 15 40 30 10 20 10 5 1996 1998 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 1996 1998 2000 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Political Stability Voice and Accountability Control of Corruption Source: Worldwide Governance Indicators – 1996-2011. 46 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 4.2: Regulatory enforcement gap versus OECD average, 2012 Government does not expropriate without adequate compensation Due process in administrative proceedings Administrative proceedings conducte without unreasonable delay Government regulations applied withough improper influence Government regulations effectively enforced Regulatory Enforcement -0.8 -0.7 -0.6 -0.5 -0.4 -0.3 -0.2 -0.1 0.0 RUS KAZ CHN Source: World Justice Project: Corruption and transparency. effectively and without discrimination. Figure 4.2 OECD countries. The prevalence of corruption is con- below shows the regulatory enforcement gap vis-à-vis firmed by the low ranking of Kazakhstan on the 2012 the OECD countries. For Kazakhstan, the gap is the Transparency International Corruption Perception Index lowest on effective enforcement of regulation, but is (ranked 133 out of 176 countries) in addition to other strikingly high for due process in administrative pro- global indicators such as the 2012 Worldwide Gover- ceedings. This suggests that respect for the rule of the nance Indicators Control of Corruption, and the 2012-13 law is not guaranteed. Fifty percent of respondents in a World Economic Forum Global Competitiveness Indica- recent survey on Kazakhstan (Ernst & Young, 2012) felt tors (WEF-GCR) where corruption is listed as the second that the level of legal and regulatory transparency and most problematic factor for doing business in Kazakh- predictability is insufficient, with the main areas of con- stan. As shown in Figure 4.3, the performance of Kazakh- cern being: inconsistency in the interpretation of laws stan is inferior to that of comparator countries. and their selective application; over-regulation and onerous local content requirements; perceived corrup- The framework for transparent government operations tion; and an insufficiently independent court system. is evolving gradually. More transparency and consulta- According to the EBRD, Kazakhstan scores above 60 tion is an important way for strengthening institutional (out of 100) on extensiveness of the commercial legal performance. Providing more information to stake- framework (i.e. quality of the laws in place); however, holders (both citizens and other levels of government) the score is only 40 on effectiveness (the actual imple- reduces the opportunities for corruption, introduces mentation of the laws).37 more accountability, and improves the quality of regu- lation. Kazakhstan is ranked in the top third (out of Corruption and Transparency Figure 4.3: Prevalence of corruption in different branches of government Corruption remains an important concern and is a (Kazakhstan and Comparators – 2012) bigger problem in Kazakhstan than in OECD countries. Executive branch According to the 2012 World Justice Project, corruption is much more prevalent in Kazakhstan than OECD countries with the legislative and judicial branches being the most affected. The country ranks 50th com- pared to OECD’s average of 100. A significantly higher Legislative branch Judicial branch percentage of companies in Kazakhstan indicate that informal gifts are requested or expected at various stages of the business cycle in Kazakhstan than in the OECD CHN RUS Police and Military 37 EBRD – Commercial legal framework assessment – Kazakhstan, KAZ available at: http://www.ebrd.com/pages/sector/legal/what/ Country.shtml Source: World Justice Project. The Institutions That Matter forDiversification 47 Table 4.2: World Justice Project: Open Government Indicator CHN KAZ RUS TUR OECD EU-27 EU-10 CA-5 Open Government 0.42 0.36 0.41 0.46 0.70 0.67 0.57 0.39 Laws are publicized 0.69 0.57 0.46 0.56 0.69 0.66 0.59 0.48 The Laws are stable 0.50 0.20 0.50 0.64 0.75 0.70 0.57 0.37 Right to petition and public participation 0.23 0.37 0.33 0.28 0.68 0.67 0.55 0.38 Official information is available 0.27 0.29 0.35 0.37 0.69 0.66 0.57 0.31 Source: World Justice Project Report 2012. Where zero is the lowest and 1 is the highest score achievable. 144 countries) on the transparency of government pol- civil servants is being reduced, and clear guidelines icymaking indicator of the World Economic Forum’s have been set out for hiring the Corps A civil servants. Global Competitiveness Index. According to the 2012 This is to encourage transparent, merit-based selec- World Justice Project, Kazakhstan scores around the tion and to reduce potential political influence ped- average compared to neighboring countries on Open dling in the civil service. Finally, the annual perfor- Government, but significantly below practices observed mance appraisal is being introduced to the in high income economies of the OECD and the EU administrative civil servants. (Table 4.2).38 Service Delivery Civil Service and Service Delivery While trust in political institutions is high, satisfaction with institutions with which citizens are more likely to State Administration and Civil Service interact on a daily basis – such as public health ser- vices and the courts – is mixed. Kazakhstan citizens The government has recently taken important steps to rank the country in the bottom third of ECA countries establish a new model of civil service based on meri- with regards to public service delivery (Table 4.3). Sat- tocracy. In March 2013, new amendments to the legis- isfaction with public service delivery ranges from a low lation on the civil service came into effect. The amend- of 27 percent in the courts, to 40 percent in traffic ments provide for financing of the Corps A, and include police, to a high of 69 percent in primary and second- annual performance appraisal of administrative civil ary education.39 The reported prevalence of unofficial servants among other measures. The new model aims payments to receive these public services, correlates to achieve five objectives: (i) strengthen the principles negatively with the satisfaction about the public service of meritocracy in selection and promotion of human received (Figure 4.4). The percent of respondents resources (HR); (ii) create a managerial Corps (called reporting unofficial payments as always or usually nec- Corps A); (iii) introduce elements of anti-corruption essary was 7 percent in services related to unemploy- into the civil service framework including a code of ment benefits, 9 percent in primary and secondary conduct, standards of ethics, and other elements of education, 13 percent for the courts, and a high of reducing corruption in the system; (iv) improve mech- 21 percent to the traffic police.40 While these negative anisms of HR management; and (v) increase the status correlations are insufficient to establish causality, it is of HR services. Written tests for civil service appoint- reasonable to argue that reduction in unofficial pay- ments have been computerized to minimize manipula- ments could improve the quality of services and tion, interview processes and procedures have been strengthen trust in institutions. tightened up, and committees are used to assure that selection of candidates is objective. The authorities have been putting increasing emphasis on shifting the focus of the administration functions These efforts are contributing to reduce the role of towards service delivery and increased accountability. patronage in the civil service. Civil servants with finan- For example, the new budget methodology envisages a cial assets need to place these in trusts when taking office and a vetting of civil servants with respect to the observance of anti-corruption legislation for certain position is being proposed. The number of political 39 Life in Transition, 2011 (survey date 2010), Chapter 3 (governance and public service delivery), Table 3.1. 40Life in Transition, 2011 (survey date 2010), Chapter 3 (governance 38 www.worldjusticeproject.org/rule-of-law-index. and public service delivery), Table 3.2. 48 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table 4.3: Percentage of Respondents Satisfied With Public Services CA-4 EU-10 KAZ RUS TUR Health 57.0 65.1 54.0 58.0 79.0 Primary / secondary education 65.8 76.7 69.0 75.0 72.0 Traffic police 35.0 50.5 40.0 41.0 39.0 Official documents 50.5 72.6 50.0 68.0 75.0 Vocational education 58.5 76.0 62.0 79.0 72.0 Social security 46.5 58.6 50.0 74.0 38.0 Unemployment benefits 34.8 57.4 43.0 59.0 55.0 Civil courts 22.5 45.4 27.0 51.0 49.0 Source: EBRD Life in Transition Survey 2010. Figure 4.4: Satisfaction with quality of various public services and unofficial payment Traffic police Official documents 50 40 35 40 30 Corruption Corruption 30 25 KAZ 20 20 15 10 10 KAZ 5 0 WE WE 0 0 20 40 60 80 30 50 70 90 110 Satisfaction Satisfaction Civil courts Education 35 60 30 50 25 40 Corruption Corruption 20 30 15 KAZ 20 10 KAZ 5 10 WE 0 0 0 20 40 60 80 40 50 60 70 80 90 Satisfaction Satisfaction Source: World Bank staff own calculations. version of performance program based budgeting to These reforms build on an administratively de-concen- improve its service delivery to the population. Also, the trated structure of government, in which subnational authorities are launching a reform of the public audit levels of the administration already play an important system to improve the efficiency and transparency of role in the delivery of public services. These responsi- the budget. The reform is expected to transform Public bilities include primary and secondary education, pri- Financial Control to Public Audit System by updating mary and some secondary health care, regional and the law on audits, modernizing the methodology, local road construction and maintenance and a wide scope, functions, and responsibilities related to the range of housing and communal services, including audit system. The new system will include both inter- water supply, heating, gas, and electricity distribution. nal and external audits. Much of the recurrent expenditures of subnational The Institutions That Matter forDiversification 49 administrations are financed through a system of petition policy, which together define the framework of assigned taxes and budget subventions. These entities competition in the economy; and (c) the role of the gov- are financed through a well-established taxation and ernment in the economy, including procurement, taxa- redistribution process.41 The government is also work- tion, access to finance and state support programs. This ing to improve management of targeted development section reviews the performance of Kazakhstan with funds through decentralization. Work is underway on a respect to these characteristics and compares it to both framework of subnational financial management and good practice and the experience of other countries. In administrative systems to give more responsibility to reviewing Kazakhstan’s performance to implement rule the local government, and a draft law is in develop- of law for market functions, we define the rule of law as ment. Furthermore, some steps have already been including: (i) definition and protection of property rights; taken to increase the role of the private sector in the (ii) enforcement of these rights (creditors’ rights and financing and provision of housing and urban utilities, bankruptcy protection); and (iii) establishment of a level but the public sector will still play a role in the provi- playing field for all market participants (corporate gover- sion of affordable housing. nance and protection of foreign investors). This section highlighted a regulatory institutional infra- structure that is still in transition. There have been Institutions that Affect Market Performance clear efforts to strengthen institutions and reform the Markets develop and private businesses flourish when civil service with the aim of increasing the efficiency of the behavior of those who govern is not arbitrary. Clear public service delivery. However, there are several areas rules and a level playing field encourage competition where further progress is needed, especially in refer- which is a necessary condition for well-functioning ence to the effective implementation of the country’s markets which thrive with the appearance and disap- extensive regulatory framework. The next section will pearance of opportunities. Excessive transaction costs focus on the quality of the institutions that affect most due to burdensome procedures and regulation, incom- directly affect the functioning of markets. plete definition of and enforcement of contracts and property rights, and barriers to entry for new market ARE MARKET INSTITUTIONS WELL participants limit opportunities and discourage new DEVELOPED IN KAZAKHSTAN? investments. Kazakhstan has done well in a number of areas that are important for the functioning of markets, Markets in a modern prosperous economy rely on trust. but there is significant margin for improvement in Market transactions generally involve private agents and others (see Figure 4.5). This section will review the require trust between market participants. However, recent experience on a number of areas where prog- market participants must have assurances that their ress has been made and where more could be done. rights will be protected in cases when trust is breached. Consequently, markets need to be underpinned by trust Figure 4.5: Selected indicators of institutional quality in the government and institutions play a critical role in for Kazakhstan and comparators—2012 that respect. Institutions channel information about HF–Property Rights market conditions, goods and participants (credit and WJP–Regulatory HF–Corruption firm registries, accounting and disclosure policies, and Enforcement media). They also define and enforce property rights and contracts (judiciary and social networks). Finally, they WJP–Crime WGI–Rule of Law facilitate or restrict competition in markets (market entry, licensing, and regulation). Growth requires a set of key characteristics that institu- WJP–Absence of WGI–Control of tions could meet regardless of their form and establish- corruption corruption ment. These include: (a) the rule of the law as applied to WJP–Limited WGI–Political stability market institutions; (b) market contestability and com- Government powers No violence China Kazakhstan Russia Turkey 41 Oblasts (as well as the cities of Astana and Almaty) are assigned 100 per- cent of personal income and payroll taxes collected within their territories. Source: Worldwide Governance Indicators Rayons and cities of oblast subordination are assigned 100 percent of the property tax and certain excise taxes. Variations in revenues (per capita) among jurisdictions are equalized, to an extent, through a system of budget subventions and withdrawals. 50 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Property Rights (Kee-Hong Bae, 2009). Kazakhstan scores well on the 2013 Doing Business (DB) Enforcing Contracts indica- Key legislation in Kazakhstan prescribes well defined tor, and is ranked 28th out of 185 countries (Table 4.4). and sound property rights. The Constitution guaran- The procedure for enforcing contracts has more steps tees property rights and these principles are included but the system is efficient in terms of times and costs. in key laws and regulations. Kazakhstani and foreign The relative time efficiency of the court system is also individuals may establish and operate businesses in confirmed by other studies, including the WEF-GCR most sectors and acquire, register, use and sell most where Kazakhstan is ranked 67th on efficiency of legal assets. Land ownership by private entities is allowed; framework in settling disputes. A thorough assessment however, only 0.9 percent of agriculture land has been reveals room for further improvement in contract privatized, and some restrictions continue to exist on enforcement. Kazakhstan has a relatively efficient filing the ability of foreigners to own agriculture land. In and service, and trial and judgment systems; however, it addition, the legal framework in general protects intel- has an exceptionally long enforcement period. Similarly, lectual property rights; however, some aspects need to while costs associated with court use and attorneys are be strengthened and implementation arrangements similar to those observed in comparator countries, the effectively enforced as the country is ranked low (92nd enforcement costs appear to be high (Table 4.5). out of 144 countries) on the WEF-GCR intellectual property rights indicator. Considerable progress has been made in aligning arbi- tration practices in Kazakhstan with international prac- Enforcement of Contracts tice. Arbitration in Kazakhstan is governed by the Law on Arbitration Tribunals for domestic arbitration, and Efficient enforcement of contract is a critical character- the Law on International Commercial Arbitration. Most istic of well-functioning institutions. Poor contract commercial disputes can generally be resolved through enforcement is related to lower amounts of credit, shorter maturities, and higher interest rate spreads. Table 4.4: DB Enforcing Contracts, 2013 Indicator OECD EU-27 EU-10 KAZ RUS CHN Enforcing Contracts Rank 39 46 49 28 11 19 Procedures (number) 32 32 32 37 36 37 Time (days) 504 538 577 370 270 406 Cost (percent of claim) 21 21 23 22 13 11 Source: Doing Business 2013. Table 4.5: Time and Costs of Various Stages of Enforcing Contracts, 2013 Indicator KAZ TUR POL GER CHN EST RUS Time (days) 370 420 685 394 406 425 270 Filing and service 15 30 60 29 21 30 30 Trial and judgment 135 290 480 310 195 320 160 Enforcement of judgment 220 100 145 55 190 75 80 Cost (percent of claim) 22 24.9 19 14.4 11.1 22.3 13.4 Attorney cost (percent of claim) 8.5 12 12 6.6 7.6 9 10 Court cost (percent of claim) 3.5 3 5 5.4 2.3 12.3 3.4 Enforcement Cost (percent of claim) 10 9.9 2 2.4 1.2 1 0 Procedures (number) 37 36 33 30 37 35 35 Source: Doing Business 2013. The Institutions That Matter forDiversification 51 Table 4.6: DB Resolving Insolvency, 2013 Indicator OECD EU - 27 EU - 10 KAZ RUS CHN Resolving Insolvency Rank 30 36 56 55 53 82 Cost (% of estate) 9 10 12 15 9 22 Recovery rate (cents on the dollar) 68 63 46 43 43 36 Time (years) 1.8 2.0 2.8 1.5 2.0 1.7 Source: Doing Business 2013. arbitration.42 The Almaty Specialized Interdistrict Eco- Over the last two years, the government has imple- nomic Court has jurisdiction to enforce arbitration mented an ambitious and comprehensive plan for awards. On average, it takes around five weeks to reforming the insolvency legislation. In 2011, the insol- enforce an arbitration award rendered in Kazakhstan, vency manager’s license was abolished, qualification from filing an application to a writ of execution attach- requirements were improved, and the single register of ing assets (assuming there is no appeal), and five insolvency managers was created. In 2012, Kazakhstan weeks for a foreign award. Foreign arbitration awards adopted a new law establishing appropriate conditions are recognized on the basis of reciprocity and courts for businesses for resolving insolvency using court and have authority to review them (World Bank, 2011). In out-of-court instruments. The law introduced impor- spite of progress in arbitration practices, courts are tant improvements including clear separation of bank- still perceived as a constraint to doing businesses. The ruptcy and rehabilitation procedures, new streamlined enforcement of contracts depends on the existence of out-of-court rehabilitation procedure, improving effi- fair and efficient courts. Furthermore, research shows ciency of standard rehabilitation procedure, strength- that a functioning legal system is of critical importance ening creditors’ right (including secured ones), and in determining the size of the informal sector. (Era decreasing administrative barriers. Dabla-Norris, 2008). The LITS confirms these findings: trust in the courts is significantly below Western Europe A new Law on Rehabilitation and Bankruptcy is being averages and is not improving. reviewed by the Parliament. The law envisages further improvement of current insolvency system by: introduc- Bankruptcy ing mandatory financial status data collection through a temporary insolvency manager before court decision; Compared internationally, Kazakhstan ranks well on increasing personal liability of debtor’s managers for resolving bankruptcy. However, in general, resolving compliance with bankruptcy legislation; strengthening insolvency is not efficient globally, even less so in creditors’ rights in terms of increasing transparency, developing countries. Developing countries have repli- fairness, and influence of creditors meeting and com- cated models from developed economies without due mittee; transferring management rights to creditors in regard for their capacity. As a result, middle-income determining bankruptcy procedures and timelines; and countries nearly always fail to save a viable firm, despite eliminating existing legal norms on determining credi- being efficient in terms of time and cost of dealing with tors’ priority. Kazakhstan could consider simpler mecha- insolvency (Djankov, 2008). This is also the case in nisms such as foreclosures which are processes with Kazakhstan. The Kazakh system is time-efficient (1.5 limited court oversight and automatic transfer of assets years compared to the 1.8 years in OECD countries) to creditors. The authorities are looking ahead to develop and costs do not appear excessive. However, the recov- appropriate capacity for the implementation of the new ery rate is on the low side (though improving) suggest- insolvency legal framework. ing that substantial value is lost during the process (see Table 4.6). Corporate Governance Kazakhstan has recently put emphasis on improving its position on the Doing Business Protecting Investors 42 Exceptions include cases related to real estate in Kazakhstan, indicator (Figure 4.6). However, it is important to note disputes involving interests of the state or state enterprises, that the DB indicator measures the degree of protec- disputes arising from contracts with monopolistic entities or those dominating the market, intra-company and shareholder tion for minority shareholders in a joint-stock company disputes, and those related to transportation agreements or and as such does not give a full picture of the corporate bankruptcy. 52 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 4.6: Kazakhstan is on the top third on ease of doing business, but it could do better Ease of Doing Business – 2013 Starting a Business – 2013 120 120 100 100 80 80 60 60 40 40 20 20 0 0 Australia United Kazakhstan Norway Malaysia Russian Norway Australia Malaysia United Kazakhstan Russian Arab Federation Arab Federation Emirates Emirates Protecting Investors – 2013 Enforcing Contracts – 2013 150 120 120 100 80 90 60 60 40 30 20 0 0 Malaysia Kazakhstan Norway Australia Russian United Norway Russian Australia Kazakhstan Malaysia United Federation Arab Federation Arab Emirates Emirates Getting Credit – 2013 Getting Electricity – 2013 120 80 70 100 60 80 50 60 40 30 40 20 20 10 0 0 Malaysia Australia Norway Kazakhstan United Russian United Norway Malaysia Australia Kazakhstan Russian Arab Federation Arab Federation Emirates Emirates Dealing with Construction Permits – 2013 Trading Across Borders – 2013 200 200 150 150 100 100 50 50 0 0 Australia United Norway Malaysia Kasakhstan Russian United Malaysia Norway Australia Russian Kazakhstan Arab Federation Arab Federation Emirates Emirates Source: The World Bank Doing Business Indicators, 2013 The Institutions That Matter forDiversification 53 governance situation in the country. The Company Law Figure 4.7: Quality of competition policy – of Kazakhstan provides a broad measure of direct Kazakhstan and comparators–2010 voting rights by international standards. Furthermore, EBRD Index of Competition Policy recently introduced improvements include introduc- 4.0 tion of manager’s personal liability for related party transactions (an unintended consequence of this 3.0 Index Scale 1–4 appears to be that qualified managers are discouraged from applying); ability of shareholders to file an action 2.0 as well as compulsory market valuation for larger transactions. 1.0 There has been progress in accounting and auditing. The legal framework prescribes the use of International 0.0 ia ia nd ry y ia ia an Financial Reporting Standards (IFRS) in joint-stock ke n ak en ss ga st la to r Ru ov Tu un ov kh Po Es companies, banks and other financial institutions and Sl Sl za H Ka companies with “significant public interest.” Similarly, auditing practices are governed by the International Source: EBRD Transition Indicator of Competition Policy, 2010. Standards on Auditing (ISA), and the Law on Audit pre- scribes a relatively detailed list of entities subject to tions to its functions as a number of activities (licens- compulsory audits. The Chamber of Auditors of the ing, metering, quality standards etc.) remain within the Republic of Kazakhstan and the Chamber of Profes- jurisdiction of various ministries and government sional Accountants and Auditors serve as the national agencies. self-regulating bodies in audit and accounting. In order to strengthen disclosure policies, the government Market Entry introduced a Depository of Financial Report. However, Reforms over the last years have reduced costs and there is a shortage of qualified accountants and audi- streamlined procedures for new businesses registra- tors, and the institutions in charge need to invest tion, facilitating market entry. Kazakhstan ranks 25th further on capacity building to effectively regulate the on the 2013 Doing Business indicators on Starting a profession and control preparation of reports, in accor- Business (Figure 4.7) and business registration does dance with international standards. not appear as a serious constraint to doing business in any survey of the private sector. The number of days Market Contestability and Competition Policy required to register a limited liability company is only slightly higher than in peer countries, and the number Competition Forces and Competition Policy of procedures is around the average, while Kazakhstan outperforms peers on the costs of registration (Table 4.7). Competition policies need to be strengthened. Kazakh- stan scores a two (on a scale from 1 to 4.3) on the 2010 However, market entry restrictions continue to exist in EBRD Transition Indicator of Competition Policy. In a number of key sectors keeping significant parts of the comparison, ECA averages 2.6 and new EU-members economy inaccessible to the private sector. Restric- average 3.4 on the same scale (Figure 4.7). On the tions on ownership exist in the mining and transport WEF-GCR’s question on intensity of local competition, sectors based on national security considerations, as the country ranks 113th out of 144 countries; it ranks well as in other sectors covered by the Law on Natural 83rd on market dominance and 104th on client orienta- Monopolies. In addition to these restrictions, any tion of companies. This pattern is indicative of an transaction involving assets in industries deemed as economy which is still relatively closed in a number of “strategic” requires prior approval from the Kazakh sectors. Government.43 Furthermore, there are limitations on foreign ownership in mass-media and telecoms (World The authority and capacity to efficiently regulate mar- kets is evolving. The Agency of the Republic of Kazakh- stan on Regulation of Natural Monopolies (ANMR) is in charge of tariff setting and ensuring that market 43 The Civil Code specifies that such strategic objects include trunk power is not abused among all natural monopolies. oil pipelines, railway networks, international airports, and entities that directly or indirectly own such assets. An exhaustive list is The Agency is not financially and administratively inde- provided in the List of Strategic Objects (June 30, 2008), approved pendent from the government, and this creates limita- by the government of the Republic of Kazakhstan. This approval is required for both foreign and domestic investors. 54 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table 4.7: DB Starting a Business, 2013 Indicator OECD EU - 27 EU - 10 KAZ RUS CHN Starting a Business 60 73 77 25 101 151 Rank 5 6 5 6 8 13 Procedures (number) 11 14 15 19 18 33 Time (days) 5 5 4 1 2 2 Cost (% of income per capita) 12 13 17 0 1 86 Paid-in capital (% of income/capita) 3.5 3 5 5.4 2.3 12.3 Source: Doing Business 2013. Table 4.8: Doing Business Dealing with Construction Permits, 2013 Indicator OECD EU - 27 EU - 10 KAZ RUS CHN Dealing with Construction Permits Rank 56 66 85 155 178 181 Procedures (number) 14 14 20 32 42 28 Time (days) 143 181 189 189 344 270 Cost (percent of income per capita) 88 98 57 104 129 375 Source: Doing Business 2013. Bank, 2011), and air-transport and pensions funds ing efforts in streamlining related procedures and (OECD, 2012). Foreign bank and insurance companies introducing modern standards such as Eurocodes; can enter the market, though only as subsidiaries as however, this process is difficult due to lags in the branching is still not permitted. reform implementation caused by lack of coordination with different stakeholders involved in construction Licenses and Permits as Barriers to Market Entry business, technical readiness of the industry and inad- equate capacity and qualifications of manpower. Business licensing and permits are a significant con- straint to doing business in Kazakhstan. Out of 55 countries Furthermore, the product quality infrastructure creates surveyed by the OECD FDI regulatory restrictiveness a significant burden over business activity. Institutions index in 2012, Kazakhstan has the 15th most restrictive involved in quality assurance should be well governed, regime, reflecting burdensome procedures in dealing independent, and transparent. They should not have with licenses and permits, but also complex local con- conflicts of interest and should adequately represent tent rules (see section on Competition policy). This will all the stakeholders in the system. In this regard, gain even more importance in the future, if the econ- Kazakhstan’s institutions still face many challenges omy is to diversify, as Kazakhstan producers would with conflict of interest implications. For instance, the need to certify that their products meet international Kazakhstan national standards body both sets stan- standards. dards and assesses conformity, which is a conflict of interest. Technical committees do perform “public The country scores especially poorly on the Doing reviews,” but members of the committees are Business Dealing with Construction permits indicator appointed by the State. largely due to the excessive number of procedures. An international comparison is presented in Figure 4.6 The authorities have recently launched reforms to and Table 4.8. The government introduced new build- address the licensing and permit processes. After two ing regulations in 2009 and a risk-based approach for broad license guillotine exercises and a number of permit approvals to decrease the onerous nature of business inspection freezes, a new concept of develop- attaining construction permits; however, the process ing regulatory state regulatory policy was accepted in still remains difficult. The government is also continu- The Institutions That Matter forDiversification 55 2013.44 The new approaches will decrease license and In Kazakhstan, the public procurement law and its permits types significantly. In addition, the use of tech- application are not comprehensive. Kazakhstan scored nical regulations as an alternative to permits, the devel- 68 out of 100 on the EBRD’s 2011 LITS. Some of the opment of self-regulation, and the development of strong characteristics of the system are: (i) open tender action plans to bring business inspections in line with is the default option; (ii) sufficient time is allowed for best international practice are planned to be imple- bid preparation; and (iii) the existence of standardized mented by 2014. Also, the authorities are launching a templates for documents, contracts and terms and reform process to move from mandatory to voluntary conditions etc. However, a significant part of the public certification, which would facilitate trade and reduce sector is not covered by the Public Procurement Law business costs. (PPL). This includes the government holdings and SOEs which account for a sizeable part of the econo- my.45 These organizations determine procurement The Role of the Government in the Economy: rules on their own. Their exclusion from the scope of Procurement, Taxation and Access to Finance regulation of the law is a serious drawback and may Procurement lead to inefficiencies. The procurement law needs to be updated to incorporate all public entities. Fair and efficient public procurement ensures an ade- quate level playing field. The primary objective of public The legal framework provides for preferential treat- procurement is to secure the best value for money for ment of domestic suppliers. This is operationalized in purchases by the public sector. However, its implica- practice through a rebate on domestically produced tions go well beyond the value for money; a fair and goods and services. This acts to stifle price and quality efficient procurement process in the public sector gen- competition, and reduces the chances that the govern- erates equal opportunities for all economic agents and ment will truly get value for its money in its expendi- promotes productivity gains through competition. At tures. Local content requirements, both for purchases the same time, perceptions about the fairness of the and labor affect a considerable part of the economy, public procurement critically influence the confidence including state-owned companies. The local content in the government. Both of these are critical for countries rules require that at least 90 percent of technical staff like Kazakhstan. While procurement policies are gener- and 70 percent of company executives need to be ally country-specific, guidelines on good international Kazakhstani. In addition, the target for purchases of practice can be found in: i) Government Procurement Kazakh-produced goods is 50 percent of total pur- Agreement of the World Trade Organization (WTO); ii) chases and for services 90 percent.46 As part of efforts European Union (EU) directives; iii) United Nations to support domestic production, public companies are Commission on International Trade Law (UNCITRAL) also required to purchase the entire output of domes- and iv) World Bank procurement regulations. tic producers and extend them financial and other types of support. However, a recent World Bank study At a minimum, good international practice recom- (World Bank, 2011) found that local suppliers in the mends three characteristics to a modern procurement railways equipment sector have been unable to meet law. First, the country should have a comprehensive the quantity and quality standards. Indeed, in a study law that would force all public entities to take part in of value chains in the oil industry undertaken by the the procurement process. Second, preferential treat- World Bank, Multi-National Corporations (MNCs) ment of domestic producers is discouraged to ensure reported that local content rules pose a serious prob- competition and value for money for public expendi- lem for their operations. This is because insurance tures. Finally, an independent body should be created policies (essential to their operation) require the MNCs to develop a transparent public procurement system to acquire inputs from internationally certified suppli- and regulate the public procurement issues in the country. 45 Article 4 of the Law contains 58 various exemptions from the scope of its regulation, some of which are unjustified and do not comply with international standards and best practice. Furthermore, Article 1 of the Law in the definition of procuring organizations excludes national management holdings, national 44 The concept envisages introduction of clear risk based holdings, national management companies, national companies categorization of business activities aiming regulation of only and legal entities affiliated with them. those that bear potential risks. The regulated activities then will be 46 These targets could be modified in industries where there is further categorized based on the level of identified risks and clearly no ability of Kazakh companies to supply sufficient goods assigned proper authorization instruments based on good and services; however, the negotiations to secure these international practice. exemptions are difficult. 56 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ers, while most local potential suppliers lacked the Figure 4.8: Credit to the private sector ability to meet such international standards. In light of (Percent of GDP) the existing constraints on the supply of goods and 200 their quality the authorities should consider develop- ing a “local capabilities study”. 150 Taxation 100 According to the Doing Business Paying Taxes indica- tor, Kazakhstan has made strong progress in adopting 50 a business friendly approach to taxation. Kazakhstan is the leader in the broader region and ranks 17th in the World in the 2013 DB report (Figure 4.6), reflecting 0 In D Ch e EC a 3 r m Ge all M le in ny inc e e il ey e inc 1 e 1 Ka ddle –199 m m om sta m om in az both a relatively low overall tax burden and an improv- C Lo – 20 we kh Turk a A Hi OE co o kh nco Br idd rm idd c n ing tax administration. In line with good international n i r m sta le w gh practice, a large tax-payers office has been established i Lo za za Ka and there is electronic filing of tax records. Current pe Up efforts are aimed at reducing compliance costs by re- engineering and automating processes to reduce con- Source: World Bank WDI. tact between taxpayers and officials. In mid-2012, Kazakhstan joined the OECD Global Forum on Trans- parency and Exchange of Information for Tax Purposes Figure 4.9: Proportion of firms identifying access to which should contribute to improvements in tax finance as a major constraint for growth administration in the country going forward. However, 40 the respondents to a recent Ernst and Young survey 35 (Ernst & Young, 2012) have suggested that the com- 30 plex tax administration system diminishes the positive 25 effect of the competitive tax rates. 20 15 Access to Finance 10 Access to finance in Kazakhstan is not commensurate 5 with the needs of a thriving and diversified economy. 0 ed p n R Az epu A Uk dova Be ine sta erus n– nia M gyz Russ 9 Uznia, lic jik n h R E an ba c va Po ijan ep nd lg c Cr aria Ge ven a rm ia OE ny kh T CD za H –20 y kh u 05 M an– ary ten 02 ro n ke er bli Bu ubli Slo oati ac Re ia 0 Ta kista be FY C Credit to the private sector in Kazakhstan (measured eg o ub a ist on 20 k R la 20 st ng ra la sta ur kh Arm ol M as percent of GDP) is well below that in middle and ec r Slo Cz za za high-income economies. Despite robust growth prior Ky Ka Ka Ka to the financial crisis, credit to the private sector has Source: Business Environment Enterprise Performance Surveys. almost halved since 2009. As a result, insufficient financing is identified as a critical obstacle to private sector growth (see Figures 4.8-4.10). Figure 4.10: Total credit growth and loans to SMES The ability of the financial sector in Kazakhstan to meet 80 25 the demand from private enterprises is limited by the 70 deep challenges faced by the commercial banks. Even 60 20 though present liquidity provision is adequate in the 50 banking sector, in reality the banks’ ability and willing- 40 ness to provide credit has been curtailed after the 30 15 crisis. First, the post-crisis limited access to interna- 20 tional capital markets reduces banks’ ability to provide 10 credit in local market, especially in long maturities. 0 10 2007 2008 2009 2010 2011 2012 Second, the overhang of non-performing loans has put a strain on banks’ financial stability and increased their Total bank loans ($ bn) risk aversion. Non-performing loans (NPLs) remain Loans to SMEs (% of total bank loans) high at 37 percent of total loans as of the end of 2012 compared to 35 percent at the end of 2011 (Figure 4.11). Source: Staff calculation with data from National Statistics Agency and NBK. The Institutions That Matter forDiversification 57 Figure 4.11: Problem loans are well provisioned but tion (much lower than that observed in many middle constrain banks’ lending expansion income countries - MICs), and an aggregate loan port- Banks’ Non-Performing Loans and Provisions folio of 0.3 percent of credit to the private sector48. The 40 40 overall profitability of the sector is negative. MFOs in Kazakhstan cannot raise deposits (given the lack of 35 35 strong oversight this is probably appropriate) and rely 30 30 on bank loans for their financing and limited govern- Percent of loans Percent of loans 25 25 ment funding. As of 2011, Kazakhstan was the only 20 20 country in the ECA region with an unregulated and 15 15 unsupervised microfinance sector. Adequate legal, reg- ulatory, and supervisory frameworks are required to 10 10 facilitate the consolidation of the MFO sector. 5 5 0 0 Kazakhstan’s payment landscape is under-developed 2008 2009 2010 2011 2012 in absolute terms and relative to other middle-income economies. The per capita usage of non-cash retail Non-performing loans Provisions payments in Kazakhstan, at 10.3 per year, is a third of Source: National Bank of Kazakhstan. the average middle-income economy. This reflects a combination of factors. First, card penetration is low, While NPLs in the banking sector are well provisioned with only 0.6 cards per active adult. Second, usage of (93 percent of total) they keep 1/3 of banks’ loan portfo- those cards is even lower with only 50 percent of cards lio idle (i.e., not available for the economy). Further- actively used. Third, salary payment cards dominate more, the authorities have been providing support to the card market, accounting for 93 percent of cards the banking sector through interventions, restructur- held. The vast majority of recipients of salary card pay- ings, and extensive liquidity provision, but reforms need ment fully cash out their cards as soon as the funds are to bear fruit in the near future for the sector to recover.47 available. This contributes to both the low rate of active card usage and the domination of ATM withdrawals in Enhancing access to finance will require development card transactions by value. Fourth, payment functional- of complementary financial intermediaries and instru- ity, which is common in other middle-income countries ments that target underserved market segments. is not available in Kazakhstan. A prime example is in Microfinance can be an important source of financing the area of bank account debits. In 81 percent of upper- to new and small enterprises and individual entrepre- middle and 61 percent of lower-middle income coun- neurs; however, the sector is currently fragmented and tries, firms and households can directly debit their unsustainable in Kazakhstan. While there are more bank accounts to make payments via prior paper than 1,000 microfinance organizations (MFOs), they authorization, or phone and internet authorization. have a limited and decreasing level of penetration, with This service is not available in Kazakhstan. an estimated client base of 0.6 percent of the popula- Leasing and factoring can be effective tools in helping enterprises access credit. Leasing is an effective mech- anism to finance fixed asset replacement in the manu- 47 The authorities have been providing support to the banking sector through interventions, restructurings, and extensive facturing and service sectors. According to current liquidity provision, but reforms need to bear fruit in the near estimates by the IFC, approximately 60–80 percent of future for the sector to recover. To address the NPL issue, the all manufacturing equipment in Kazakhstan is in need regulator established a national and private asset management of replacement to be able to compete in the world companies and provided additional incentives for NPL write-offs. As far as the strategy for resolving NPLs and releasing their market. The legal framework (Law on Financial Leas- provisions is concerned, the National Bank of Kazakhstan is ing, Civil Code, Tax Code and Code of Litigation Proce- following its initial strategy of setting up: (i) a national asset dures) for leasing in Kazakhstan is generally conducive management company: the Problem Loans Fund was established for development of leasing. However, with 85 percent in April 2012 and started buying problem loans (with a discount) from banks on a pilot basis; and (ii) private bank-specific asset of financing coming from commercial banks, the sector management companies: four banks have already set up special was adversely affected by the 2009 financial crisis. purpose vehicles (SPVs) for this purpose and are expected to start Improved legal and regulatory framework governing transferring bad loans to their respective SPVs. As part of the leasing activities, including the necessary credit infra- required incentives for NPL write-off, the authorities came up with the following new initiatives: (a) extended tax exemptions for NPL structure such as credit registries, can help improve write-offs until the end of 2013; (b) imposed a ceiling for NPLs (over 90 days overdue) at 20 percent of a loan portfolio in 2013 and 15 percent in 2014. 48 Based on data from MIX Market and WB WDI. 58 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying credit access. Policy adjustment may be required to straints that are not necessarily captured in perception allow leasing companies to access funding as well as indices such as the Doing Business and others. expansion of public support to leasing operations Second, the feedback from this dialogue would provide beyond agriculture on market terms. valuable information to define reforms to address bot- tlenecks, which if removed could have wide-ranging At the institutional level, improved credit information, implications (in the spirit of horizontal policies dis- consumer protection and financial literacy mecha- cussed in the next chapter). Finally, putting in place nisms and institutions are prerequisites for sound risk monitoring and evaluation mechanisms to assess management and financial stability. These attributes whether reforms are yielding the expected results will increase awareness of alternative financing instru- allow that corrective measures are taken without delay. ments, enhance the fairness of services provided to borrowers and help the average person understand the risks and rewards of accessing and using financial Respect the Rule of Law to Improve the products. In the Kazakhstan context, this will require Quality of Service Delivery establishing new agencies for overseeing and enforc- To achieve the level of institutional strength observed ing consumer protection, ensuring a competitive finan- in more developed economies, additional progress will cial and payment services market, and establishment be needed to improve the effectiveness of existing leg- of industry associations and consumer associations. islation. In several areas, the available evidence and the perception of key stakeholders is that Kazakhstan’s WHAT WILL NEED TO CHANGE TO legal and regulatory frameworks have evolved substan- STRENGTHEN KAZAKHSTAN’S tially. However, there is room to improve the effective- INSTITUTIONS? ness of existing laws and regulations. One such exam- ple is concerned with the anti-corruption legislation, Kazakhstan’s institutions have improved since indepen- which is extensive but not effective. dence, but their performance remains mixed. There has been progress in developing an extensive regulatory As proposed in the World Bank’s Justice Sector Institutional framework, but not so much in terms of implementa- Strengthening Project, critical reforms could have a tion. The country has progressed markedly in the indica- significant impact on the quality of regulatory institu- tors captured by Doing Business indicators, and the tions in Kazakhstan. These include measures to quality of the business environment has improved sub- strengthen institutional capacity to improve and imple- stantially. In fact, Kazakhstan is well ranked in most indices ment key elements of the legal framework. The follow- that measure strength of market institutions in Central ing measures could contribute to this objective: techni- Asia. However, major constraints such as market con- cal support and training for key institutions with the testability, and an under-developed financial sector objective of developing and implementing laws to affect the growth of the private sector. Corruption and reduce the role of the state in the economy; promoting excessive government intervention in the economy self-regulation in the private sector (through codes and remain an important concern, but the framework for laws for registration and licensing); reducing clogged transparent government operations is evolving gradually. court dockets through the removal of certain disputes to administrative resolution mechanisms; improving the quality and responsiveness of judicial services; Adopt a More Proactive Approach to simplifying and streamlining court procedures to elim- Business Environment Reforms inate delays in case processing and improve access to Kazakhstan has made progress in implementing first justice; expand access to information on functioning of generation business environment reforms, and it is courts; and automate case management. time to move on to a more proactive appraoch. New priority areas that should deserve the attention of the Make Room for the Private Sector and authorities include (a) the need to consult more with Encourage Competition the private sector on obstacles and constraints faced by businesses; (b) use the feedback from these consul- Opening the economy up to further private sector tations to design more targeted reforms; and (c) moni- activity and fostering competition will help strengthen tor the efficacy of these reforms. The benefits of this institutions and support economic growth and diversi- approach to reforms would be multiple. First, estab- fication. One of the key messages of the World Bank’s lishing a well-structured Public-Private Dialogue (PPD) World Development Report on Building Institutions for would enable identification of sector-specific con- Markets is that competition at all levels – among juris- The Institutions That Matter forDiversification 59 dictions (e.g., oblasts), firms in product markets, and The financial sector has a limited ability to offer afford- individuals – does much for institutional change. In able electronic payment services to enterprises and their open societies, firms competing in product markets, customers. A detailed assessment of Kazakhstan’s retail forced to increase efficiency, have the incentive to lobby payment landscape conducted by the World-Bank and policymakers to implement institutional changes that Visa in 2011, identified the need for action on the legal lower their costs. For firms competing in international and regulatory front, consumer and business knowledge markets, competition can produce demand for better of payment services, cost and tax disincentives for use institutions, such as accounting standards. Jurisdic- of electronic services, capacity of service providers to tional competition also fosters institutional evolution. market their payment services, and payment system Competition between foreign firms operating in a infrastructure. Reforms to modernize the retail payment country creates the demand for appropriate corporate system will benefit small and micro enterprises, as well laws. In the United States, competition between states as households, which lack access to banking and other to attract business has led to institutional evolution of financial services. They will enhance competition in the different forms in different states. For example, per- payment services industry and allow the entry of innova- sonal bankruptcy and corporate laws vary across the tive approaches to meet the transaction service needs of states, and education systems vary across districts. the economy as a whole. The measure will also strengthen the financial management in the public sector by facilitating electronic delivery and collection of Make the Public Sector More Efficient, or government payments. Make it Smaller Kazakhstan should consider the use of instruments such The most effective response to a market failure is not as factoring, leasing to help SMEs finance their assets necessarily government provision. International experi- and obtain faster access to working capital. For leasing to ence shows that it is better to let the private sector in work, it would be necessary to improve the legal and regu- while the government sets the standards and regulates. latory framework by creating credit registries and extend- In this context, it may be advisable for Kazakhstan to ing their domain beyond agriculture. In the case of factor- reassess the strategic areas and monopolies that exist ing, it will be necessary to introduce commercial credit with a view to reduce the footprint of the state in the insurance (also known as “trade credit insurance”) to economy. At the same time, there is a need to improve protect lenders from the risk of the buyer’s default. Get- efficiency, in particular in public procurement. Good ting these instruments right would go a long way in international practice recommends three characteristics increasing the depth and coverage of the financial sector. to a modern procurement law. The country should have comprehensive law that would force all public entities to take part in the procurement process (including govern- Commit to Efficiency and Reward Excellence ment holdings and SOEs). Also, preferential treatment of domestic producers is discouraged to ensure compe- Kazakhstan needs to make faster progress towards tition and value for money for public expenditures. institutionalizing a professional and merit-based civil Finally, an independent body should be created to service. The government is working to put into place develop a transparent public procurement system and the requisites for an efficient and merit-based public regulate the public procurement issues in the country. service system. The importance of a highly qualified and motivated cadre of civil servants cannot be over- emphasized. Many of the institutions that support Get the Financial Sector in Order markets are provided by the public sector. The ability of the state to provide these institutions is therefore The NPL issues that have affected the financial sector an important determinant of how well individuals since the 2008 crisis need to be resolved. This will con- behave in markets and how well markets function. A tribute to the sustainability and growth of the microfi- successful provision of these institutions depends on nance sector if accompanied by consolidation and the quality and integrity of those who are responsible enhanced oversight. Adequate legal, regulatory and to uphold them – government employees. If these do supervisory frameworks are required to facilitate the con- not have the required skills to do their work or are not solidation of the MFO sector. A new microfinance law on motivated because they feel they are not being microfinance organizations which came into effect at the rewarded adequately for the job they do, the quality of end of 2012 creates licensing requirements and regula- institutions will suffer and with it the quality of public tion by the NBK. While oversight and consolidation of the service delivery. sector are necessary, it will be important to ensure that the new regulatory framework is not overly restrictive. 60 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying CHAPTER 5 OPTIONS TO INCREASE COMPETITIVENESS IN THE SHORT TERM INTRODUCTION WHERE ARE KAZAKHSTAN’S COMPARATIVE ADVANTAGES? The government’s recently announced 2050 Strategy outlines how the country would refine its long-term This section looks for potential areas of competitive- socio-economic strategy to join the group of the top 30 ness based on Kazakhstan’s existing capabilities, using most developed countries by 2050. This will require a the product space framework. The product space is a structural transformation of the Kazak economy to network representation of the “relatedness” of prod- substantially new production areas. The previous chap- ucts or similarity in the inputs required for production ters underscored that this structural transformation is including everything from particular skills, institutional dependent on sizeable investments in human and and infrastructural requirements, to technological sim- institutional capital. These investments have a long ilarity, among other factors.50 A map reflecting total term horizon, and it is imperative that the authorities trade worldwide is shown in Figure 5.1. The map shows start now to move in this direction. that the product space is very heterogeneous. Most complex products with the largest number of connec- This chapter aims to inform the Government’s more tions are located in the center or core of the network, near term options for diversification, as they also invest including machinery, metal products, chemicals and in longer term structural transformation of the econ- capital intensive goods. There are also many products omy. Current government efforts are focused on laying in the periphery that are only weakly connected to other the basis for an accelerated diversification of the econ- products. For example, petroleum products, fishing omy through industrialization and infrastructure devel- and animal agriculture are in the periphery, with more opment, including enhancing human capital to drive limited overlap of capabilities with other products. innovation and economic efficiency. Horizontal poli- These areas are more specialized and involve greater cies to improve the overall business environment are a effort to diversify into other areas of specialization. core part of current policy efforts. The government is also focusing on several vertical policies, as articulated The product space analysis can demonstrate a coun- in the Industrial Acceleration Plan 2010-14, including try’s production structure and can be used to frame a support for agro-industrial and light industry sectors. dialogue between government and the private sector This chapter provides insights into diversification in on bottlenecks to extensive margin growth. This can products and partners to inform these policies. The include a focus on sub-sectors or clusters of products chapter is structured as follows. In the second section, near currently competitive goods, and the identifica- it uses the product space approach to examine current capabilities and changes in competitiveness to identify potential new areas of production.49 The third section 50 In the product space, products are deemed to be close to each considers how to expand market opportunities by look- other if their production requires similar capabilities and similar ing at protectionism against its exports in international inputs. The product space is used to explore these similarities and markets. The fourth section discusses when industrial relatedness between different products. Two products will be close to each other, and require similar capabilities, if countries policies could be helpful. The final section sums up by which export product i tend to also export product j. To measure asking what could be done in the short term to help the inter-relatedness of different products, one can compute a diversification in Kazakhstan. probability that a country exports one product with a revealed comparative advantage index greater than one (RCA>1) given that it also exports some other product with an RCA>1. Thus, two products will be close to each other, and require similar capabili- ties, if countries which export product i tend to also export prod- 49 The analysis presented in this chapter based on the product space uct j with RCA>1. Hence, if a country exports a large number of approach was carried out by Bill Battaile and Ervin Dervisevic goods which are close (high proximity) to product i, there is a from the World Bank’s Economic Policy and Debt Department greater probability that the country will be able to be competitive (PRMED). See Battaile and Dervisevic (2013). in exports of i. Options to Increase Competitiveness in the Short Term 61 Figure 5.1: Product space representation of total global trade PRODUCT SPACE Source: Authors’ own calculations, based on Lall (2000) and Hausmann and Hidalgo (2007). Note: The global product space is represented by a network with 775 nodes and 1525 links, where nodes represent products classified by SITC 2 4-digit classification and size is proportional to the volume of trade in a given product. tion of constraints to broader growth in these “related” products to old markets meaning that there has been goods that use similar capabilities. It can also include limited diversification of products and partners. In an ex-post examination of clusters of products that what follows, the report uses the well-established prod- have lost competitiveness, not to argue for interven- uct space methodology to identify sectors and prod- tionist support but to provide insight into low survival ucts where Kazakhstan has an inherent comparative rates. The government may use the discussion to focus advantage.51 on possible actions that can benefit the maximum number of high potential products/sectors. These Kazakhstan in the Product Space more horizontal policies could be the preferred approach to public support for individual competitive Static product space maps for Kazakhstan show a exports, as public support that is too targeted can be sharp decrease in competitively exported products, distortionary. especially more sophisticated and capital-intensive ones. Figure 5.2 shows a traditional representation of The results from this analysis can inform horizontal Kazakhstan’s exports in the product space, for the sep- polices that can generate benefits across different sec- arate time periods 1996-8 and 2008-10. Products tors. As discussed previously, Kazakhstan’s exports exported competitively are marked in red and are iden- have increased considerably over the last decade, con- tified as those with revealed comparative advantage tributing to the country’s overall growth performance and economic development. Nevertheless, this strong export growth performance was mostly characterized 51 Some of the key concepts used in the product space approach are by the fact that Kazakhstan exported more of the same included in Annex I. 62 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure 5.2: Kazakhstan’s competitive exports, 1996-2010 KAZAKHSTAN 1996–1998 Source: Authors’ own calculations using UN-Comtrade data. (RCA) greater than one (i.e., with RCA>1). Compari- Figure 5.3 provides a closer look at changes in com- son of these two product space maps shows a petitiveness over time. The map also shows a clear decrease in the number of competitively manufac- indication of the current export structure, with a preva- tured products over time. This decrease occurs in lence of primary products and resource-based agricul- many parts of the network, but most significantly in tural or other products. There are a limited number of the core of the network, including machinery and medium or high-tech products, which reveals the lack other capital intensive goods. This is consistent with of sophistication of Kazakhstan’s export basket. Using increased export concentration over time. We can see each product’s value of revealed comparative advan- a similar pattern occurring in Russia (see product tage over time, Kazakhstan’s exports can be divided space maps in Annex IV).52 into four categories: “classics,” “emerging champi- ons”, “disappearances” and “marginals” (see Box 5.1 for a definition of these product categories). “Classics” 52 In contrast, the product space maps for Chile and Australia show that and “emerging champions” were competitively these countries have managed to maintain competitiveness despite their reliance on natural resources. Chile and Australia are medium sized exported in the most recent time period, while “disap- countries with relatively small populations that are rich in hydrocarbon pearances” and “marginals” were not. “Emerging products. Product space maps for these countries (see Annex IV) show that they were able to maintain a competitive edge in several sectors and to champions” have recently gained competitiveness expand into some new products, despite their heavy reliance on mineral while “disappearances” have recently lost it. From deposits – copper and copper alloys represent 50 percent of Chile’s export Figure 5.3 and Table 5.1, it is easy to see the high value, while iron and coal represented 40 percent of Australian exports in 2008-2010. number of “disappearances” across most product cat- Options to Increase Competitiveness in the Short Term 63 Figure 5.2: Kazakhstan’s competitive exports, 1996-2010 (continued) KAZAKHSTAN 2008–2010 Source: Authors’ own calculations using UN-Comtrade data. Box 5.1: Defining Classics, Emerging Champions, Disappearances and Marginals „ “Classics are products with demonstrated competitiveness over time where it would be less risky to invest. „ “Emerging champions” are products in which Kazakhstan has increased its comparative advantage in global markets. „ “Disappearances” are products that were competitive in the past, but have lost that competitiveness more recently. „ “Marginals” are products in which Kazakhstan had a low comparative advantage in the past and the current comparative advantage remains low. 64 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying egories, where competitiveness has been lost in the located products. Large volumes of trade would indicate most recent time period. However, apart from oil which large international markets, while high strategic value is the dominant classic export with sustained competi- indicates possibilities for better diversification in the tiveness, some groups of products have either main- medium- to long-term. Figure 5.4 shows these sectors, tained their competitiveness, or appear as “emerging weighted by world trade and strategic value. champions.” This includes mostly oil-based or metals- based products, but also some agricultural products Several sectors emerge as delivering promising gains such as wheat and animal skins. in terms of both strategic value and large markets. Interestingly, the crude petroleum and the natural gas The growing number of disappearances may be an sectors have the highest value in world trade, but they indication of unaddressed barriers to private sector also attract the lowest strategic value obtained from development. In the absence of a high revealed com- the “marginals” in that sector, and are not suggested parative advantage, it may be riskier to invest in this from this approach. Among the sectors with highest type of products as their declining competitiveness densities, there are several that appear to have both may reflect weakening capabilities and severe obsta- high value in terms of world market and strategic value. cles to their production at an efficient scale such as, for Those five sectors are: example, lack of adequate technology, unavailability of skilled labor, excessive regulatory barriers, increasing „ Manufacture of paper and paper products competition in global markets. „ Manufacture of industrial chemicals Options for Diversification into New Products „ Manufacture of wood and cork products, except fur- niture The product space analysis can help identify new prod- „ Manufacture of transport equipment ucts near currently competitive exports, but further domestic market information is needed to guide spe- „ Iron and steel basic industries cific policies. As mentioned, the product space analysis An alternative approach is to identify clusters of products should be matched with locally rich context to inform near currently competitive exports, and consider govern- possible areas for diversification support. In this way, ment-defined criteria to guide a discussion with relevant the following areas are only an entry point for a discus- private sector actors (e.g., product complexity, lower vola- sion with the private sector. This discussion should be tility, higher labor content). A particular product’s proxim- as broad as possible to avoid “picking winners” and ity to existing areas of comparative advantage is one of adding distortions to the economy. From the perspec- the clearest signals of future potential. By looking at the tive of extensive growth, the most relevant category of “marginals” with the highest densities, one can note that new products to consider is the “marginals,” that is the there many that are close to products and clusters of products yet to develop into competitive exports. While products with RCA>1. Hence, another useful approach is these products never developed an RCA that would to look at clusters of Kazakhstan’s “classics” and “emerg- show their strength and potential for growth, some of ing champions,” and “marginals” that are close. Annex V the “marginals” may have potential to grow if the provides further detail on the particular products in these underlying business environment and regulatory clusters and possible filters for government and the pri- framework are adequate and inviting to prospective vate sector to consider. Additional variables include prod- investors. This is especially the case of “marginals” uct complexity and trade volatility. Country-specific data that are already exported, albeit at a low level. on labor intensities was not available, but could be an extension of this work. There are seven groups of “clas- One strategy is to look at new products that are close to sics” and “emerging champions”: currently competitive exports and that offer income potential, strategic linkages to more sophisticated prod- „ Oil, ferro-alloys, and unprocessed aluminum. ucts and large market opportunities. This strategy con- „ Lead, zinc, manganese, etc. siders only those new products or “marginals” that are income-enhancing, and that are close to Kazakhstan’s „ Copper and other non-ferrous metals. current location in the product space. Grouping these „ Metal and non-metal mining (asbestos, coal, sul- products into sectors, they can be sorted in terms of phurs). their market potential, measured by the volume of world trade in these products. They can also be sorted in terms „ Iron and steel. of strategic value, indicating their potential for further „ Cereal grains (wheat, barley, meslin). movement in the product space to more centrally „ Animal skins and leathers, fruits, vegetable oils. Options to Increase Competitiveness in the Short Term 65 Figure 5.3: Classics, emerging champions, disappearances, and marginals KAZAKHSTAN PRODUCT SPACE 1996–2010 Source: Authors’ own calculations using UN-Comtrade data. Figure 5.4: “Marginals” at one standard deviation above average density Weighted by Strategic Value Weighted by World Trade Manufacture of paper and paper products Manufacture of paper and paper products Manufacture of industrial chemicals Manufacture of industrial chemicals Agriculture and livestock production Agriculture and livestock production Manufacture of wood and cork products, except furniture Manufacture of wood and cork products, except furniture Manufacture of transport equipment Manufacture of transport equipment Iron and steel basic industries Iron and steel basic industries Logging Logging Beverage industries Beverage industries Manufacture of other chemical products Manufacture of other chemical products Non-ferrous metal basic industries Non-ferrous metal basic industries Food manufacturing Food manufacturing Manufacture of textiles Manufacture of textiles Other Mining Other Mining Crude Petroleum and Natural Gas Production Crude Petroleum and Natural Gas Production Source: PRMED calculations using UN-COMTRADE data. Kazakhstan’s marginals, dropped those with PRODY1, and Ubiquity of the 1 x1 product as the number of countries that export the product with RCA>1: Country j will be competitive in exporting good i if RCAji>1, which means that the share of product i in Ni country j exports will be higher than the share of the kj,0 = Mji (Diversification) same good worldwide. i=1 Nj PRODY: ki,0 = Mji (Ubiquity) To capture the income-earning potential of any particu- i=1 lar product and sophistication of products, Hausmann where i denotes a product, j denotes a country, and et al. (2007) introduce concepts of PRODY and EXPY. Mji=1 if a country j exports product i with RCA>1. Using Income-earning potential of a product, PRODY, is cal- a method of iterations, authors compute relative posi- culated as a weighted average of the income per capita tions of each country and product, compared to other of the countries that export the given product. Weights countries and products. are ratios of the share of the commodity i in the coun- tries overall export baskets and aggregated value- The method of iterations calculates iteratively the aver- shares across all countries exporting the good: age value of the measure computed in the preceding xc iteration, starting with a measure of a country’s diversi- /xi fication and a product’s ubiquity. Every succeeding PRODYi = GDPPCi iteration takes into account the information from the i i ( xc/xi ) previous iteration. These are given by: The denominator in the RCA equation is not the same Ni as the denominator in the PRODY weights. In RCA, the 1 kj,n = Mjiki,n-1 kj,0 denominator is the share of product j in world trade, i=1 while in the PRODY computation, denominator is a sum of product i shares across countries. Nj 1 ki,n = Mjikj,n-1 EXPY: kj,0 j=1 Sophistication of country exports, EXPY, represents the income level associated with a country’s export basket, where n corresponds to a number of iterations. Last and it is calculated as a weighted average of PRODYs of two equations are computed until rankings of coun- the products exported by the country, where the weights tries and products stop changing between iterations. are the shares of the products in the country’s export In this paper, we used kj,16 to measure economic com- basket: plexity, and ki,17 to measure product complexity. 79 Proximities of Products Open Forest is calculated as the weighted average of the PRODY’s of all potential (currently non-exported) To measure the inter-relatedness of different products, exports of a country, where the weights are country Hausmann et al. (2007) compute a probability that a densities in these products. Therefore, value of “Open country exports one product with a Revealed Compara- Forest” depends on a country’s ease of diversification tive Advantage (RCA)>1 given that it exports some into unexported products – and a country that exports other product with an RCA>1. Thus, two products will products in the core of the product space will have be close to each other, and require similar capabilities, higher densities for unexported products, and thus if countries which export product i tend to also export higher value of the open forest: product j with RCA>1, and vice versa: open_forestj = densityji * (1 – xji) * PRODYi ϕ ij = min(P(RCAi > 1 | RCAj > 1), P(RCAj > 1 | RCAi > 1)) i which provides “proximity” as a numerical measure of relatedness of products i and j. where xi=0 for products i with RCAi<1, and xi=1 other- wise. Country Densities in Products Strategic Value of Unexported Products The probability of a country being able to export prod- uct i with RCA>1 is measured as a weighted sum of The strategic value of every good that is not currently proximities of product i and all other products in coun- exported with comparative advantage can be measured try’s export basket that are exported with RCA>1. using Open Forest. This is done by calculating what Hence, if a country exports large number of goods would happen to open forest if a country started export- which are close (high proximity) to product i, there is a ing that good with comparative advantage. If a product large probability that country will be able to be com- is closely connected to a wide range of other valuable petitive in exports of i. Probability w of exporting prod- products not currently exported, it would result in a uct i by a country j is measured by density of product i: large increase in Open Forest, and therefore have high strategic value because it would greatly expand coun- ∑iRCAiϕij wi = try’s options for successful diversification. ∑i ϕij We need to emphasize that density w of product i in Trade Volatility country j can interpreted as the “ease” of diversifica- tion into product i. Volatility of product i is given relative to the volatility of the world trade. It is computed as a ratio of standard deviation of the growth rate of the trade in product i Open Forest and standard deviation of the growth rate of total world trade. Therefore, trade volatility provides a measure of Measures of density can be used to obtain an overall how volatile is the trade in product i when compared to measure of the location of the country in the product the total world trade. space, and this indicator would measure the connect- edness of existing export basket to the rest of the prod- Trade volatility is computed for the period 1996-2010. uct space. Open forest provides a measure of the (expected) value of the goods that a country could potentially export (among the products that it currently does not export with comparative advantage). 80 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ANNEX 2: CHILE PRODUCT SPACE 1984–2010 CHL 1984–1986 CHL 2008–2010 81 ANNEX 3: AUSTRALIA PRODUCT SPACE 1984–2010 AUS 1984–1986 AUS 2008–2010 82 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ANNEX 4: RUSSIA PRODUCT SPACE 1999–2010 AUS 1996–1998 RUS 2008–2010 83 ANNEX 5: CLUSTERS IN THE PRODUCT SPACE The first cluster to consider is the cluster around oil. The products that are within the oil cluster are listed in Table A.1, while the Figure showing this cluster appears at the end of this Annex.59 We can see that liquified hydrocarbons have the highest PRODY and density, while worked aluminium and lubricating petroleum have high strategic value above the average for “marginals” of US$12,700. Table A.1: Oil, Ferro-Alloys and Aluminum Cluster EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT 3413 Liquified hydrocarbons PP 0.133 5,043 $21,932 753 2.16 $0 $437,271 0.00% 0.76% 5621 Nitrogenous fertilizers MT2 0.089 10,216 $13,675 628 2.55 $287 $22,115 0.01% 0.04% Worked aluminium & 6842 PP 0.054 16,142 $15,990 320 1.31 $3,219 $506 0.06% 0.00% aluminium alloys Lubricating petroleum 3345 RB2 0.037 17,749 $16,997 14 2.22 $54 $126 0.00% 0.00% oils n.e.s. Source: PRMED calculations using UN-Comtrade data. The second cluster is copper and other non-ferrous metals. In this group, the option may be to expand the existing exports, as this group is at the far periphery of the product space. “Marginals” of this cluster do not have high PRODY, but the strategic value of sunflower seeds, for example, is above the average, as seen in Table A.2. Table A.2: Oil, Ferro-Alloys and Aluminum Cluster EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT 542 Dried or shelled legumes PP 0.081 8,627 $2,273 739 0.94 $136 $3,652 0.00% 0.01% 2224 Sunflower seeds PP 0.066 13,380 $8,666 535 1.70 $135 $1,594 0.00% 0.00% Source: PRMED calculations using UN-Comtrade data. The next cluster is the group around non-ferrous metals, lead, zinc, manganese, and silver. In this case, it would be beneficial to expand existing exports, and to move into neighboring products which may also provide an oppor- tunity to move closer to the core of the product space. As seen in Table A.3, several products in this cluster have both above average PRODY and strategic value. 59 A graphical representation of the product space clusters covered in Tables A.1–1.7 can be found at the end of Annex 5. 84 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table A.3: Lead, Zinc, Manganese, etc. EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT 2874 Lead ore RB2 0.092 10,111 $5,697 654 2.31 $0 $10,173 0.00% 0.02% Paper & paperboard in 6415 RB1 0.050 16,728 $19,028 181 0.86 $0 $2,081 0.00% 0.00% rolls or sheets 5722 Initiating devices MT2 0.066 12,685 $13,481 554 1.16 $1 $1,520 0.00% 0.00% 6863 Worked zinc & alloys PP 0.037 13,977 $18,999 451 2.48 $28 $503 0.00% 0.00% Rolls/sheets of creped 6417 RB1 0.055 15,758 $11,802 395 0.71 $40 $376 0.00% 0.00% paper 5721 Prepared explosives MT2 0.079 11,906 $10,371 622 1.06 $145 $230 0.00% 0.00% Other natural abra- 2772 PP 0.059 12,983 $10,269 360 1.50 $19 $2 0.00% 0.00% sives 6411 Newsprint RB1 0.064 13,026 $21,862 167 0.91 $213 $0 0.00% 0.00% Chemical wood pulp, 2517 RB1 0.073 11,379 $16,167 446 1.79 $0 $0 0.00% 0.00% soda or sulphate Chemical wood pulp, 2518 RB1 0.064 14,094 $15,630 327 1.22 $0 $0 0.00% 0.00% sulphite Source: PRMED calculations using UN-Comtrade data. As Kazakhstan is rich in resources, another cluster is again resource-based, with products of metal and non-metals mining (Table A.4). In this case, moving into “marginals” within the cluster may be a possible option. A first step in looking at this important cluster could be to look for constraints in the existing production of products such as aircrafts, track-laying tractors and unwrought nickel and nickel alloys. Table A.4: Metals and Non-Metal Mining EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT Aircrafts of more than 7924 HT2 0.072 8,179 $15,111 256 1.65 $0 $241,193 0.00% 0.36% 15 tons 7223 Track-laying tractors MT3 0.057 11,220 $15,208 402 1.60 $0 $834 0.00% 0.00% Unwrought nickel & 6831 PP 0.111 6,143 $9,557 447 3.10 $2,215 $291 0.04% 0.00% nickel alloys 2872 Nickel RB2 0.116 4,278 $3,800 714 3.97 $551 $43 0.01% 0.00% 2876 Tin RB2 0.129 3,289 $1,526 771 4.32 $0 $1 0.00% 0.00% Source: PRMED calculations using UN-Comtrade data. One cluster closest to the core, and which has been developing in recent years, is iron and steel industries. Further development of capabilities in iron and steel industries, and related products may be an option for diversification. Table A.5 provides an overview of products close to the existing Kazakhstan’s exports in this sector. 85 The cluster of animal skins and leathers, fruits, and vegetable oils, also provides significant opportunity for expan- sion of existing exports, and diversification into new products, though in general these products are not especially complex nor associated with high income potential (i.e., below average PRODYs). Table A.6 has a detailed list of the “marginals” near existing products in this cluster that are currently exported competitively. Table A.5: Iron and Steel EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT Iron/steel 3–4.75mm 6745 LT2 0.067 16,464 $13,384 60 1.78 $360 $57,486 0.01% 0.10% tick sheets Iron/steel >=4.75mm 6744 LT2 0.058 15,919 $13,781 139 2.65 $0 $48,087 0.00% 0.08% tick sheets Coke & semi-coke of 3232 RB2 0.084 11,036 $9,832 479 4.76 $1,827 $30,849 0.04% 0.05% coal 6911 Iron/steel structures LT2 0.054 16,137 $14,609 298 1.30 $3,662 $9,752 0.07% 0.02% Organic surface-active 5542 MT2 0.043 18,104 $17,909 291 0.63 $537 $9,291 0.01% 0.02% agents n.e.s. Iron/steel rough 6794 LT2 0.049 17,081 $12,244 226 1.46 $0 $9,186 0.00% 0.02% castings 6732 Iron/steel rods LT2 0.061 13,998 $13,377 511 2.33 $6,276 $8,494 0.12% 0.02% 6733 Iron/steel shapes LT2 0.061 14,547 $41,474 413 2.26 $3,192 $6,347 0.06% 0.01% Paper packing 6421 LT2 0.049 15,415 $10,618 422 0.62 $1,653 $4,514 0.03% 0.01% containers 6731 Iron/steel wire rod LT2 0.53 16,690 $12,686 247 2.31 $528 $1,785 0.01% 0.00% 6712 Pig & cast iron MT2 0.127 5,383 $7,960 541 3.47 $1,905 $1,640 0.04% 0.00% Miscellaneous articles 6996 LT2 0.045 18,518 $15,564 202 0.97 $1,288 $1,529 0.03% 0.00% of base metal 7932 Ships & boats MT3 0.052 7,999 $6,366 427 1.03 $2,062 $1,503 0.05% 0.00% Metal foundry 7371 equipment & parts MT3 0.053 15,936 $19,353 178 1.62 $236 $908 0.00% 0.00% n.e.s. 6953 Other handtools LT2 0.034 17,455 $14,414 90 0.96 $501 $622 0.01% 0.00% 6724 Iron/steel bars MT2 0.068 12,784 $9,557 437 3.86 $223 $221 0.00% 0.00% Not insulated iron/ 6770 LT2 0.054 15,962 $17,535 335 1.78 $60 $96 0.00% 0.00% steel wire 6932 Barbed wire LT2 0.061 12,141 $9,747 665 1.40 $2 $59 0.00% 0.00% 6351 Wood boxes RB1 0.054 17,178 $19,950 293 0.94 $182 $52 0.00% 0.00% 5622 Phosphatic fertilizers MT2 0.065 10,042 $6,271 646 4.01 $661 $20 0.01% 0.00% Halogenated erivatives 5113 RB2 0.048 13,271 $22,344 229 1.45 $27 $4 0.00% 0.00% of hydrocarbons Ships & boats for 7933 MT3 0.078 9,175 $3,551 644 3.74 $1 $0 0.00% 0.00% breaking up Source: PRMED calculations using UN-Comtrade data. 86 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Table A.6: ANimal Skins And Leathers, Fruits, Vegetable Oils EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT 813 Oilcake PP 0.071 10,233 $8,406 627 1.68 $49 $34,599 0.00% 0.06% 4236 Sunflower seed oil RB1 0.074 12,558 $8,162 576 2.04 $1,091 $17,688 0.02% 0.03% 575 Grapes & raisins PP 0.074 11,349 $6,043 662 0.60 $274 $1,677 0.01% 0.00% 2224 Sunflower seeds PP 0.066 13,380 $8,666 535 1.70 $135 $1,594 0.00% 0.00% 2222 Soya bean PP 0.076 5,618 $8,325 689 2.16 $3 $1,143 0.00% 0.00% 440 Unmilled maize PP 0.075 10,815 $9,407 623 1.82 $2,108 $1,038 0.04% 0.00% 574 Fresh apples PP 0.063 14,027 $10,357 496 1.06 $1,346 $987 0.03% 0.00% Meals and flours from oil 2239 PP 0.066 11,333 $4,601 564 2.67 $0 $664 0.00% 0.00% seeds Natural gums, resins, lacs 2922 PP 0.071 7,296 $1,096 764 1.31 $7 $559 0.00% 0.00% & balsams 4232 Soya bean oil RB1 0.063 10,950 $11,552 613 2.23 $1 $471 0.00% 0.00% 1121 Wine RB1 0.062 10,870 $14,410 549 0.85 $1,189 $279 0.02% 0.00% Fresh or chilled potatoes, 541 PP 0.057 12,929 $13,994 536 1.68 $435 $127 0.01% 0.00% excluding sweet potatoes 616 Honey RB1 0.073 10,855 $7,016 673 1.83 $102 $76 0.00% 0.00% Leather of other hides or 6116 LT1 0.069 8,915 $1,975 741 1.36 $27 $49 0.00% 0.00% skins Fresh or dried oranges and 571 PP 0.070 10,206 $9,817 660 0.77 $52 $24 0.00% 0.00% m&arines 2221 Green groundnuts PP 0.074 8,797 $3,817 740 1.29 $15 $15 0.00% 0.00% Dried or evaporated 561 vegetables, excluding RB1 0.065 13,033 $8,742 579 0.76 $22 $15 0.00% 0.00% leguminous 751 Pepper PP 0.068 8,725 $5,120 733 1.42 $1 $3 0.00% 0.00% 2117 Raw sheep skin with wool PP 0.084 6,642 $3,867 765 1.99 $0 $3 0.00% 0.00% 572 Fresh or dried citrus n.e.s. PP 0.064 10,717 $10,959 626 1.15 $0 $1 0.00% 0.00% 742 Mate PP 0.075 3,186 $10,507 678 1.68 $0 $0 0.00% 0.00% 2223 Cotton seeds PP 0.082 7,097 $7,410 744 1.10 $0 $0 0.00% 0.00% 2225 Sesame seeds PP 0.080 5,058 $1,182 772 1.98 $0 $0 0.00% 0.00% 2654 Agave fibers RB1 0.077 2,620 $1,248 760 2.35 $0 $0 0.00% 0.00% 4234 Peanut oil RB1 0.056 6,935 $2,002 596 2.03 $0 $0 0.00% 0.00% 6113 Calf leather LT1 0.040 5,286 $5,939 710 11.27 $783 $0 0.02% 0.00% Source: PRMED calculations using UN-Comtrade data. And finally, the cluster of cereal grains presents another opportunity for diversification, primarily within the cluster. Products in this cluster may not be very close to the core, but some of them have relatively high income-enhancing potential and above average strategic value. (Table A.7). 87 Table A.7: Cereal Grains EXPORTS (‘000) EXPORTS (‘000) COMPLEXITY SITC2 CODE VOLATILITY STRATEGIC 2008–2010 2008–2010 2008–2010 1996–1998 DENSITY 1996–98 PRODY SHARE SHARE TRADE VALUE RANK TECH PRODUCT Roasted & unroasted malt, 482 RB1 0.070 13,565 $13,719 350 1.81 $1,657 $12,655 0.03% 0.02% including flour 422 Semi or wholly milled rice PP 0.065 8,285 $4,965 732 1.85 $0 $5,178 0.00% 0.01% Unmilled buckwheat, millet 459 PP 0.084 9,443 $4613 686 2.36 $1,327 $980 0.03% 0.00% & other cereals n.e.s. 6611 Lime RB2 0.062 14,017 $8,770 502 1.44 $118 $389 0.00% 0.00% 811 Green or dry hay PP 0.072 9,697 $17,824 602 1.31 $230 $14 0.00% 0.00% 576 Figs PP 0.057 8,282 $1,570 471 0.69 $0 $0 0.00% 0.00% 2685 Coarse animal hair PP 0.063 9,350 $3,192 676 2.05 $3 $0 0.00% 0.00% Source: PRMED calculations using UN-Comtrade data. Figure A.1: Oil, Ferro-Alloys, And Unprocessed Aluminum Crude petroleum Fuel oils, n.e.s. Liquified hydrocarbons Kerosene and other medium oils (not including gas oils) Nitrogenous fertilizers Gasoline (motor spirit) Lubricating petroleum and other light oils oils n.e.s. Inorganic bases and metallic oxides, hydroxides and peroxides Unwrought aluminium and aluminium alloys Gas oils Petroleum bitumen n.e.s. Acyclic alcohols and derivatives Worked aluminium and aluminium alloys Ferro-alloys Figure A.2: Lead, Zinc, Manganese, etc. Iron and steel powders Worked wood of coniferous Agglomerated iron ore Chemical wood pulp, soda or sulphate Manganese Initiating devices Safety glass Not agglomerated iron ore Other natural abrasives Rolls/sheets of kraft paper Aluminium ore Chemical wood pulp, sulphite Newsprint CORE Farming and forestry hand tools Unwrought silver Paper and paperboard in rolls or sheets Prepared explosives Printing and writing paper in rolls or sheets Unwrought lead and alloys Worked zinc and alloys Lead ore Unwrought zinc and alloys Zinc Metallic oxides of zinc, iron, lead chromium etc. Railway track and vehicle parts n.e.s. 88 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying Figure A.3: Copper and Other Non-Ferrous Metals Dried or shelled legumes Other non-ferrous base metals Copper Unwrought copper and copper alloys Waste of unwrought cements and base metals Sunflower seeds Chemical elements Figure A.4: Metal and Non-Metal Mining (Asbestos, Coal, Sulphurs) Tin Other pumps for liquids and liquid elevators Aircrafts of more than 15 tons Other sulphurs Nickel Other coal Track-laying tractors Unwrought nickel and nickel alloys Anthracite Asbestos Radioactive chemical elements Petroleum gases Roasted iron pyrites Unroasted iron pyrites Figure A.5: Cereal Grains (Wheat, Barley, Meslin) Green or dry hay Roasted and unroasted malt, including flour Unmilled buckwheat, millet and other cereals n.e.s. Unmilled barley Figs Cotton seed oil Lime Other wheat and meslin, unmilled Semi or wholly milled rice Unmilled durum wheat Unprepared rice in the husk or husked Coarse animal hair 89 Figure A.6: Iron and steel Natural calcium phosphates and aluminium Worked aluminium and aluminium alloys Iron/steel rough castings Non-metal inorganic acids and oxygen compounds Inorganic acids metallic salts and peroxysalts Phosphallic fertilizers Paper packing containers Iron/steel rail construction materials Fertilizers Inorganic acids metallic salts and peroxysalts Barbed wire Articles of paper pulp n.e.s. Pig and cast iron Iron/steel structures Inorganic chemical Organic surface-active agents n.e.s. products Non-domestic refrigerators and parts n.e.s. Asbestors fibre cements >300lt capacity metal tanks Mineral tar pitch Not insulated iron/steel wire Coke and semi-coke of coal Parts of rotating electric plants n.e.s. Iron/steel rods Iron/steel coils Iron/steel bullets Special floating structures Wood boxes Iron/steel 3–4.75mm tick sheets CORE Other worked iron/steel sheets Iron/steel wire rod Iron/steel >=4.75mm tick sheets Base metal indoors sanitary ware n.e.s. Engines and motors Warships Iron/steel <3mm tick sheets Miscellaneous articles of base metal Iron/steel shapes Ships and boats Steel tinned sheets Metal Equipment Ships and boats for breaking up and parts n.e.s. Halogenated derivatives of hydrocarbons Rolling mills Other handtools Unworked cast glass Centrifugal pumps parts n.e.s. Unworked drawn or blown glass Parts of bollers n.e.s. Metal cask for packing goods Figure A.7: Animal Skins and Leathers, Fruits, Vegetable Oils Raw goat skins Sesame seeds Natural gums, resins, lacs and balsams Raw sheep skin without wool Calf leather Sheep and lamb leather Peanut oil Bovine and equine leather Leather of other hides or skins Raw sheep skin with wool Fresh or chilled potatoes, excluding sweet potatoes Works of art Green groundnuts Fresh or dried citrus n.e.s. Cotton inters Fresh or dried oranges and mandarines Grapes and raisins Fresh apples Dried or evaporated vegetables, excluding leguminous Wine Oilcake Pepper Quartz metal family Sunflower seed oil Meals and flours from oil seeds Soya bean oil Cotton seeds Wheat or meslin meal or flour Vegetable oils n.e.s. Sunflower seeds Honey Soya beans Unmilled maize Agave fibers Mate 90 Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying ANNEX 6: RCA EVOLUTION FOR SELECTED PRODUCTS Table A.8: SITC2 RCA RCA RCA RCA RCA PRODUCT DESCRIPTION CATEGORY CODE 1996–98 1999–01 2002–04 2005–07 2008–10 7921 Helicopters 2.9 1.13 0.52 0.60 1.56 Classics 6841 Unwrought aluminium & aluminium alloys 1.03 1.01 0.47 0.14 1.45 Classics 5225 Inorganic bases & metallic oxides 28.16 9.42 0.11 0.12 1.26 Classics 812 Bran, sharps & other cereal residues 4.23 0.45 0.10 1.13 1.90 Classics 2742 Unroasted iron pyrites 0.00 0.00 0.00 0.00 10.39 Emerging 3415 Coal & water gases 0.00 0.00 0.00 0.00 1.16 Emerging 2234 Licensed 0.00 0.00 0.00 0.21 3.46 Emerging 2814 Roasted iron pyrites – Gypsum, plasters, lime- 0.00 6.73 10.16 0.06 1.22 Emerging stone & calcareous stone 2732 Stone 1.19 1.13 1.39 1.22 0.80 Disappearances 5233 Compounds of precious metals 9.33 4.81 2.29 2.18 0.98 Disappearances 5239 Inorganic chemical products 7.96 1.64 2.24 1.35 0.97 Disappearances 2786 Metal waste 6.58 1.05 0.46 1.28 0.89 Disappearances 5249 Other radioactive materials 9.18 5.58 1.10 1.14 0.73 Disappearances 7491 Roller bearings 2.28 0.66 1.07 1.15 0.50 Disappearances 6512 Wool yarn or animal hair 0.18 0.02 0.02 3.19 0.91 Marginals 1211 Unstripped tobacco 0.00 3.07 3.07 2.19 0.13 Marginals 7938 Special floating structures 0.12 0.14 0.66 1.80 0.03 Marginals 612 Refined sugar 0.00 0.16 2.80 1.43 0.09 Marginals 6999 Other base metal manufactures, n.e.s 0.00 1.62 1.16 1.42 0.48 Marginals 3413 Liquified hydrocarbons 0.00 0.23 1.28 1.25 0.74 Marginals 6745 Iron/steel 3 - 4.75mm thick sheets 0.07 0.90 1.57 1.06 0.92 Marginals 6744 Iron/steel>=4.75mm thick sheets 0.00 2.73 3.48 0.92 0.35 Marginals 2239 Meals and flours from oil seeds 0.00 2.20 3.25 0.87 0.12 Marginals 2634 Cotton 0.96 0.00 6.67 0.78 0.00 Marginals 2890 Ores and precious metals 0.01 0.20 2.07 0.69 0.40 Marginals 5622 Phosphoric fertilizers 0.97 0.36 2.45 0.54 0.00 Marginals 2682 Degreased sheep or lambs wool 0.00 0.64 1.75 0.48 0.59 Marginals 2111 Raw bovine & equine hides 0.00 1.77 2.09 0.43 0.11 Marginals 7931 Warships 0.00 4.50 2.15 0.34 0.01 Marginals 7223 Track-laying tractors 0.00 4.11 0.63 0.21 0.12 Marginals 5721 Prepared explosives 0.30 3.36 2.77 0.06 0.06 Marginals 6880 Depleted uranium & waste n.e.s 0.00 7.74 0.00 0.00 0.00 Marginals 6113 Calf leather 0.87 0.53 18.86 0.00 0.00 Marginals 2232 Palm nuts & kernels 0.05 11.54 0.00 0.00 0.00 Marginals 91 92 Table A.9: Classics, Emerging, and Disappearances in Product Space Framework 2008-10 WORLD SITC2 CODE TECH DENSITY STRATEGIC VALUE PRODY 2008–10 (US$) COMPLEXITY RANK VOLATILITY EXPORTS (‘000) 1996-98 (US$) EXPORTS (‘000) 2008-10 (US$) SHARE 1996-98 SHARE 2008-10 PRODUCT CATEGORY 3330 Crude petroleum PP 0.156 3,744 13,921 770 2.56 1,476,645 35,565,696 0.30 0.64 Classics 6716 Ferro-alloys MT2 0.111 9,434 4,891 641 3.08 205,697 1,989,385 0.04 0.03 Classics 6821 Unwrought copper & copper alloys PP 0.116 8,905 5,650 663 2.55 584,587 1,972,289 0.12 0.04 Classics 5241 Radioactive chemical elements HT2 0.124 7,992 3,158 611 1.30 69,592 1,671,725 0.01 0.03 Classics 9710 Gold, non-monetary ST 0.095 7,338 5,464 752 1.86 78,796 697,498 0.02 0.01 Classics 460 Wheat or meslin meal or flour RB1 0.083 10,018 8,698 680 1.93 62,581 653,223 0.01 0.01 Classics 6861 Unwrought zinc & alloys PP 0.100 11,137 9,196 510 3.42 180,107 531,257 0.04 0.01 Classics 6811 Unwrought silver PP 0.095 11,556 16,400 489 2.20 50,630 306,392 0.01 0.01 Classics 2820 Iron & steel waste RB2 0.073 10,001 7,824 594 2.61 19,735 305,703 0.00 0.01 Classics 2879 Other non-ferrous base metals RB2 0.110 8,435 2,453 737 4.04 18,477 284,481 0.00 0.00 Classics 6841 Unwrought aluminum & aluminum alloys PP 0.109 10,249 13,804 606 1.73 20,299 278,516 0.00 0.01 Classics 3354 Petroleum bitumen n.e.s. RB2 0.074 12,529 8,569 492 1.81 9,635 250,847 0.00 0.00 Classics Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying 2741 Other sulphurs PP 0.162 5,294 15,264 734 7.65 1,616 243,196 0.00 0.00 Classics 6851 Unwrought lead & alloys PP 0.088 11,257 9,878 647 2.39 45,647 165,568 0.01 0.00 Classics 6899 Waste of unwrought cermets & base metals RB2 0.122 9,284 3,034 638 3.06 81,549 127,124 0.02 0.00 Classics 5221 Chemical elements RB2 0.096 12,352 14,163 507 1.74 23,009 117,842 0.00 0.00 Classics 2877 Manganese RB2 0.171 3,827 8,362 763 5.91 14,758 108,495 0.00 0.00 Classics 2631 Raw cotton PP 0.108 5,938 1,838 768 2.64 75,359 100,151 0.01 0.00 Classics 2875 Zinc RB2 0.104 9,801 7,612 605 4.00 11,855 99,474 0.00 0.00 Classics 430 Unmilled barley PP 0.089 13,363 11,653 356 2.22 63,497 82,380 0.01 0.00 Classics 5225 Inorganic bases & metallic oxides, hydroxides & peroxides RB2 0.098 9,984 18,572 624 2.10 156,341 80,771 0.03 0.00 Classics 5224 Metallic oxides of zinc, iron, lead, chromium etc RB2 0.083 12,894 9,937 442 1.80 40,252 75,868 0.01 0.00 Classics 5232 Inorganic acids metallic salts & peroxysalts RB2 0.079 13,206 9,831 430 1.23 15,483 60,845 0.00 0.00 Classics 2784 Asbestos PP 0.196 4,131 5,495 609 1.08 17,546 49,837 0.00 0.00 Classics 411 Unmilled durum wheat PP 0.084 12,470 8,107 598 2.59 332,878 41,258 0.07 0.00 Classics 7921 Helicopters HT2 0.077 10,080 12,804 426 2.12 4,147 36,622 0.00 0.00 Classics 6891 Waste of unwrought tungsten & related metals RB2 0.071 11,912 7,720 250 2.11 11,407 32,083 0.00 0.00 Classics 812 Bran, sharps & other cereal residues PP 0.084 9,434 5,444 729 1.76 2,318 9,263 0.00 0.00 Classics 3353 Mineral tar pitch RB2 0.095 11,199 16,041 391 1.73 6,232 7,793 0.00 0.00 Classics 2114 Raw goat skins PP 0.247 2,908 $830 528 4.15 134 26 0.00 0.00 Classics 3414 Petroleum gases PP 0.149 5,814 10,214 677 1.90 0 1,382,173 0.00 0.03 Emerging Champions 2815 Not agglomerated iron ore RB2 0.178 5,071 9,594 761 2.75 0 718,237 0.00 0.01 Emerging Champions 412 Other wheat & meslin, unmilled PP 0.084 12,745 13,088 485 1.86 0 655,953 0.00 0.01 Emerging Champions 3222 Other coal PP 0.141 7,031 12,767 643 2.31 0 618,397 0.00 0.01 Emerging Champions 6727 Iron/steel coils MT2 0.093 13,571 14,897 341 2.26 0 457,150 0.00 0.01 Emerging Champions 2871 Copper RB2 0.126 6,941 5,381 756 2.72 2,108 453,796 0.00 0.01 Emerging Champions 6746 Iron/steel <3mm tick sheets LT2 0.077 15,721 16,454 252 1.90 0 438,583 0.00 0.01 Emerging Champions 6725 Iron/steel billets MT2 0.093 11,900 10,206 380 2.45 9,714 437,592 0.00 0.01 Emerging Champions 6749 Other worked iron/steel sheets LT2 0.073 13,837 16,116 398 1.72 0 437,037 0.00 0.01 Emerging Champions 2816 Agglomerated iron ore RB2 0.159 5,706 10,242 658 2.62 0 416,528 0.00 0.01 Emerging Champions 2873 Aluminium ore RB2 0.107 6,653 4,984 675 1.64 362 264,939 0.00 0.00 Emerging Champions 6114 Bovine & equine leather LT1 0.073 10,814 8,286 631 1.21 0 260,097 0.00 0.00 Emerging Champions 6747 Steel tinned sheets LT2 0.072 14,682 14,104 286 0.95 1,472 112,657 0.00 0.00 Emerging Champions 344 Frozen fish fillets PP 0.076 8,264 4,180 674 0.64 0 68,200 0.00 0.00 Emerging Champions 2785 Quartz metal family PP 0.094 10,564 5,137 635 1.43 193 27,249 0.00 0.00 Emerging Champions 3223 Lignite PP 0.129 5,704 6,710 619 5.40 0 14,378 0.00 0.00 Emerging Champions 6115 Sheep & lamb leather LT1 0.081 8,874 2,822 748 1.79 16 12,688 0.00 0.00 Emerging Champions 2234 Linseed PP 0.112 7,526 15,761 516 2.56 $0 8,717 0.00 0.00 Emerging Champions 4233 Cotton seed oil RB1 0.095 8,600 5,549 659 2.07 $0 5,605 0.00 0.00 Emerging Champions 2632 Cotton linters PP 0.097 7,130 4,051 750 2.85 $0 1,976 0.00 0.00 Emerging Champions 2742 Unroasted iron pyrites PP 0.087 8,953 19,782 544 3.47 $0 1,038 0.00 0.00 Emerging Champions 2814 Roasted iron pyrites RB2 0.120 6,234 16,828 475 7.92 $0 202 0.00 0.00 Emerging Champions 3415 Coal & water gases PP 0.107 4,896 4,940 716 14.26 $0 124 0.00 0.00 Emerging Champions 6822 Worked copper & copper alloys PP 0.065 14,969 15,205 348 2.38 26,117 177,588 0.01 0.00 Disappearances 2882 Other non-ferrous base metals RB2 0.061 10,946 11,210 572 2.62 33,309 61,875 0.01 0.00 Disappearances 7491 Roller bearings MT3 0.040 15,427 14,297 56 1.26 27,057 60,105 0.01 0.00 Disappearances 5233 Compounds of precious metals RB2 0.057 12,330 21,369 385 2.55 16,466 28,095 0.00 0.00 Disappearances 545 Other fresh or chilled vegetables PP 0.069 9,519 6,450 709 0.66 12,874 26,035 0.00 0.00 Disappearances 7781 Batteries HT1 0.048 13,840 16,092 258 0.98 14,473 24,439 0.00 0.00 Disappearances 2789 Crude minerals n.e.s. PP 0.071 12,326 8,014 587 1.10 20,628 15,486 0.00 0.00 Disappearances 5629 Fertilizers MT2 0.072 13,036 7,897 582 4.03 31,855 15,400 0.01 0.00 Disappearances 2713 Natural calcium phosphates & aluminum PP 0.093 4,200 778 730 4.70 6,283 14,152 0.00 0.00 Disappearances 93 94 2008-10 WORLD SITC2 CODE TECH DENSITY STRATEGIC VALUE PRODY 2008–10 (US$) COMPLEXITY RANK VOLATILITY EXPORTS (‘000) 1996-98 (US$) EXPORTS (‘000) 2008-10 (US$) SHARE 1996-98 SHARE 2008-10 PRODUCT CATEGORY 5231 Inorganic acids metallic salts & peroxysalts RB2 0.069 13,238 11,788 506 1.09 10,846 13,215 0.00 0.00 Disappearances 5239 Inorganic chemical products RB2 0.077 14,777 5,100 215 1.74 11,395 11,961 0.00 0.00 Disappearances 6633 Non ceramic mineral materials n.e.s. RB2 0.047 18,973 17,283 180 0.95 7,583 11,009 0.00 0.00 Disappearances 7234 Construction & mining machinery MT3 0.050 13,788 10,098 34 1.84 17,441 10,083 0.00 0.00 Disappearances 5222 Non-metals inorganic acids & oxygen compounds RB2 0.064 12,259 5,655 543 2.44 7,750 8,857 0.00 0.00 Disappearances 6975 Base metal indoors sanitary ware n.e.s. LT2 0.036 16,608 14,495 72 1.01 2,172 7,109 0.00 0.00 Disappearances 2782 Clay & refractory minerals, n.e.s. PP 0.065 14,471 8,312 498 1.51 12,602 6,655 0.00 0.00 Disappearances 2786 Metal waste PP 0.080 11,485 11,505 562 1.80 2,830 5,308 0.00 0.00 Disappearances 6618 Asbestos/fiber cements RB2 0.060 15,659 15,470 409 0.94 3,015 5,227 0.00 0.00 Disappearances 2732 Gypsum, plasters, limestone flux & calcareous stone PP 0.065 11,852 8,238 603 1.06 851 4,931 0.00 0.00 Disappearances 3352 Mineral tars RB2 0.053 15,946 10,859 278 2.51 4,267 4,131 0.00 0.00 Disappearances 8121 Parts of not electrical heating equipment n.e.s. MT3 0.045 18,007 20,332 78 1.08 9,215 4,081 0.00 0.00 Disappearances 483 Pasta RB1 0.054 9,905 10,472 642 1.14 2,349 3,768 0.00 0.00 Disappearances 5249 Other radioactive materials HT2 0.065 8,590 8,631 428 2.98 5,237 3,414 0.00 0.00 Disappearances Beyond Oil: Kazakhstan’s Path to Greater Prosperity Through Diversifying 5833 Polystyrene MT2 0.045 16,259 21,596 169 1.36 10,183 3,405 0.00 0.00 Disappearances 611 Raw sugar beet & cane RB1 0.075 6,771 4,295 755 1.74 9,270 3,327 0.00 0.00 Disappearances 6760 Iron/steel rail construction materials LT2 0.055 14,723 32,135 80 1.43 2,006 3,165 0.00 0.00 Disappearances 2733 Nonmetal-bearing sands PP 0.068 10,701 7,069 556 1.27 2,967 2,745 0.00 0.00 Disappearances 7449 Centrifugal pumps parts n.e.s. MT3 0.046 18,503 18,661 89 1.04 8,917 2,619 0.00 0.00 Disappearances 6921 >300lt capacity metal tanks LT2 0.056 16,071 13,277 328 1.50 1,590 2,366 0.00 0.00 Disappearances 2734 Stones PP 0.055 12,732 12,817 394 1.28 8,163 1,931 0.00 0.00 Disappearances 7224 Wheeled tractors MT3 0.045 15,852 13,634 148 1.44 28,529 1,889 0.01 0.00 Disappearances 2681 Sheep or lambs greasy wool PP 0.089 5,180 9,411 691 1.93 16,318 1,769 0.00 0.00 Disappearances 7911 Electric trains MT2 0.072 10,086 9,649 173 2.94 1,497 1,692 0.00 0.00 Disappearances 6931 Wires, cables & ropes LT2 0.051 14,907 17,942 331 1.27 5,446 1,336 0.00 0.00 Disappearances 371 Fish n.e.s. RB1 0.056 9,605 12,223 666 0.66 7,476 1,101 0.00 0.00 Disappearances 7211 Machinery for soil preparation MT3 0.052 17,662 12,501 271 1.41 2,931 1,094 0.00 0.00 Disappearances 6623 Refractory bricks RB2 0.048 16,939 17,292 198 1.18 4,505 918 0.00 0.00 Disappearances 452 Unmilled oats PP 0.081 9,214 25,397 443 1.76 1,389 815 0.00 0.00 Disappearances 3221 Anthracite PP 0.099 6,817 3,055 614 2.53 355,330 624 0.07 0.00 Disappearances 112 Sheep & goat meat PP 0.068 9,365 12,734 661 0.78 2,638 604 0.00 0.00 Disappearances 7912 Rail tenders MT2 0.061 12,804 17,735 199 2.74 3,233 545 0.00 0.00 Disappearances 2783 Sodium chloride PP 0.067 12,016 9,653 617 0.93 1,584 523 0.00 0.00 Disappearances 7428 Other pumps for liquids & liquid elevators MT3 0.048 14,609 11,138 302 1.00 76,882 510 0.02 0.00 Disappearances 2112 Raw calf skins PP 0.066 10,723 7,129 672 4.76 34,477 492 0.01 0.00 Disappearances 111 Bovine meat PP 0.062 13,132 12,161 512 0.77 30,714 452 0.01 0.00 Disappearances 7914 Not mechanically propelled railway for passengers MT2 0.065 12,915 17,645 207 3.11 607 378 0.00 0.00 Disappearances 2911 Bones, horns, corals & ivory PP 0.078 8,455 4,174 713 0.90 1,310 336 0.00 0.00 Disappearances 2116 Raw sheep skin without wool PP 0.070 9,941 6,215 681 3.03 16,393 290 0.00 0.00 Disappearances 6852 Worked lead & alloys PP 0.055 12,027 18,900 501 2.04 382 282 0.00 0.00 Disappearances 9510 Armoured fighting vehicles MT3 0.065 11,641 13,489 264 1.34 6,153 182 0.00 0.00 Disappearances 451 Unmilled rye PP 0.057 13,195 13,656 103 3.32 2,350 181 0.00 0.00 Disappearances 7131 Internal combustion engines for aircraft MT3 0.064 11,323 12,453 593 1.12 8,160 62 0.00 0.00 Disappearances 421 Unprepared rice in the husk or husked PP 0.059 9,761 4,776 685 2.88 7,257 39 0.00 0.00 Disappearances 6637 Refractory goods n.e.s. RB2 0.042 13,336 19,669 30 1.26 1,418 29 0.00 0.00 Disappearances 6713 Iron & steel powders MT2 0.097 8,558 19,784 560 3.27 26,611 3 0.01 0.00 Disappearances 6519 Yarn of textile fibres LT1 0.052 14,314 10,006 393 1.33 2,538 1 0.00 0.00 Disappearances 6591 Linoleum LT1 0.048 14,227 17,394 73 1.81 328 0 0.00 0.00 Disappearances 252 Fresh dried or preserved bird eggs not in shell PP 0.051 16,411 21,788 300 1.28 543 0 0.00 0.00 Disappearances 2481 Railway or tramway sleepers RB1 0.077 11,052 7,892 566 1.69 207 0 0.00 0.00 Disappearances 2860 Uranium & thorium RB2 0.142 1,615 6,283 588 3.68 226 0 0.00 0.00 Disappearances 95 REFERENCES Acemoglu, D. and F. Zilibotti, 1997. Was Prometheus Cahu, P. 2012. “Education quality and equity in Unbound by Chance? Risk, Diversification and Kazakhstan: Analysis of the PISA 2009 data.” Growth. Journal of Political Economy 105(4): 709- Washington DC: World Bank. Unpublished 751. manuscript (May 2012). Acemoglu, D. and J. Robinson 2012. 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