Nature of the problem
330.†††††††† Economic transformation of the Kyrgyz Republic has been to a significant extent achieved through borrowed resources and the provision of technical and financial support from external multilateral and bilateral donors.† These borrowed funds were used to finance the Governmentís growing Public Investment Program (PIP), sectoral reforms and budget support. On the budget side, during the early years of transition, the Government embarked on a short-lived fiscal adjustment program but, faced with exogenous shocks that started from the first days of independence, fiscal policies became too loose.
331.†††††††† The response to the shocks was a rapid build up of external debt.† As a result, public external debt rose from 36†percent of GDP in 1995 to over 132†percent in 2000.† At the end of 2001 the ratio of debt outstanding to GDP accounted for 125 percent, while debt to export earnings over the past three years has been 211.5 percent.† By the end of 2001, debt service to budget revenues reached 27.9 percent, putting into question the capacity of Kyrgyz Republic to meet its external debt-service obligations in full, without recourse to debt rescheduling, accumulation of further arrears, and/or without unduly compromising economic growth.† In other words, the high level of state budget revenue devoted to servicing total debt, represents a serious risk to the achievement of fiscal sustainability and severely limits the Governmentís willingness to provide social services and achieve the goals set by NPRS.†
332.†††††††† Furthermore, attainment of debt sustainability for Kyrgyz Republic suffers from the downside risks of other factors.† These include the countryís high level of dependence on official grants and concessional loans, the countryís high dependence on exports of gold, high vulnerability to external shocks and the possibility of sluggish response by foreign and domestic investors to policy changes.
Past action to deal with the problem
333.†††††††† In past few years, the Governmentís debt strategy has often been directed towards removing arrears with bilateral creditors, easing short-† to medium-term cash flow difficulties and improving concessionality of the existing portfolio of external debt.† Achievement of success in improving concessionality has been mixed, as some successive rescheduling agreements, often with the same creditor, have not in fact improved concessionality of amounts outstanding and have only resolved arrears and cash-flow situations.
334.†††††††† On March 7,† 2002, Paris Club creditors agreed to provide a more comprehensive rescheduling of debt flows for the period 2002-2004.† This agreement consolidates roughly US$99 million due on loans and prior rescheduled debts contracted by the Kyrgyz Republic before August 31, 2001. This amount consists of principal and interest falling due from December 6, 2001 up to December 5, 2004 (of which US$23 millions are ODA loans).† The rescheduling is conducted according to the following terms :
∑†††††††† ODA credits are to be repaid over 20 years, with 10 years of grace, at interest rates at least as favourable as the concessional rates applying to those loans ;
∑†††††††† commercial credits are to be repaid over 20 years, with 5 years of grace with progressive repayment, at the appropriate market rate (the repayment profile of the restructured amount is attached); and
∑†††††††† moratorium interest on the consolidation is capitalised up to 50 percent for the first year, 60 percent for the second year and 70 percent for the third year.†
335.†††††††† This agreement is expected to reduce debt service due to Paris Club creditors during 2002, 2003 and 2004 from US$101 million to US$5.6 million, which consists mainly of payments of interest on the rescheduled amounts.† On a voluntary and bilateral basis, each creditor may also undertake debt for nature, debt for aid, debt for equity swaps or other local currency debt swaps.† By this agreement with Paris Club, the Government is committed to seek debt treatment on comparable terms from all other non Paris Club member bilateral creditors. After a comparable effort from other creditors, this rescheduling will satisfy the Kyrgyz Republic's financing requirements for 2002, 2003 and 2004
336.†††††††† Although the agreement achieved with Paris Club in March 2002 has allowed the Republic to resolve the short-term liquidity problem, it is clear that, unless the Republic continues determined efforts in effective debt management, the nation will face a serious solvency and debt sustainability problem in the medium and longĖterm horizon.†
Current strategy to address the problem
337.†††††††† In July 2001, the Government adopted a comprehensive external debt strategy aimed at reducing the debt burden and re-establishing debt sustainability in the medium term.† Elements of the strategy which have been later amended include:
∑†††††††† A significant fiscal adjustment leading to a primary fiscal surplus (excluding the PIP) of 3.7†percent of GDP by 2005.
∑†††††††† A streamlining the PIP with an aim at reducing its scope from 6†percent of GDP in 2001 to 3†percent by 2005, 5.5 percent of GDP in 2002, 4.5 percent of GDP in 2003, 4 percent of GDP in 2004, to 3 percent of GDP in 2005.† These amounts could be higher to the extent that grants, instead of loans, can be attracted to finance the PIP.† Thus, a five year rolling PIP plan is to be updated annually, with the ultimate aim at reducing its scope to 3 percent of GDP. Clear guidelines will be established for prioritizing alternative public investment projects on the basis of their impact on growth, export potential, and poverty reduction.
∑†††††††† Achieving a comprehensive debt stock treatment from Paris Club on concessional terms at the end 2004. (This stock reduction has been put on the agenda by Paris Club creditors as a good will clause in the Paris Club Agreed Minute dated March 7, 2002
∑†††††††† There is to be an increasing reliance on foreign direct investment (FDI) to ensure the desired increase in the level of private sector investment.† Unlike portfolio investment that requires servicing, retention of earnings by enterprises receiving foreign direct investment would help alleviate the difficult situation with respect of debt sustainability.† The action needed to attract FDI is set out in the section entitled ďInvestment PolicyĒ, below.
∑†††††††† The privatization of the four large state-owned strategic enterprises (KyrgyzTelecom, National Airlines, KyrgyzGas, and the four distribution companies of KyrgyzEnergo) by 2005 and depositing 75†percent of these proceeds in a special Privatization Account in the NBKR to be used for debt reduction (starting in 2002, all other privatization receipts will also accrue to this special account).
∑†††††††† To the extent fiscal resources become available, the repayment of selected government debts ahead of schedule, provided that such early repayment are consistent with Paris Club Agreed Minute dated March 7, 2002.
∑†††††††† Limiting the contracting of new public or publicly guaranteed debt to loans with a grant element of at least 45†percent.
∑†††††††† Pursuing actively with interested foreign investors debt-for-equity swaps for state-owned enterprises, provided that such swaps are compatible with Paris Club Agreed Minute dated March 7, 2002.
∑†††††††† Take further measures to improve the external debt management capacity. In particular, the Republic will continue strengthening its public debt management capacities in the MOF and NBKR through technical assistance regional projects of the Swiss authorities and the IMF for four neighboring countries in Central Asia.
The challenge for the future
338.†††††††† The recent detailed debt sustainability analyses conducted jointly and/or separately by the World Bank and IMF, 
as well as an analysis made by the Government, all point to a similar conclusion.† The main message is that, only a comprehensive approach to debt stock treatment from all bilateral creditors on concessional terms (at the end 2004), topped up by efforts to improve the fiscal balance and to implement all the other elements of external debt strategy set out above, will enable the Republic to resolve its long-term solvency and sustainability problem by the end of the decade (when it is expected that the NPV of debt-to-export ratio will drop to 120 percent)
.† However, even assuming this is achieved, the debt-to-revenue ratio will stay above 150 percent by end 2010.† Thus, the Government will try to enforce all the elements of the current external debt strategy and, to the extent possible, intensify it.
For details of Kyrgyz Republicís debt sustainability analyses see:
(i) The World Bank, Kyrgyz Republic Fiscal Sustainability Study (June 2000), World Bank Report No. 20644;
(ii) IMF and The World Bank, Republic of Armenia, Georgia, Kyrgyz Republic, Republic of Moldova, and Republic of TajikistanóExternal Debt and Fiscal Sustainability, February 6, 2001,
(iii) IMF, Poverty Reduction and Growth Facility (PRGF), November 2001;
(iv) The World Bank, Country Assistance Strategy (CAS), December 2001;
(v)† IMF and The World Bank, Poverty Reduction, Growth and Debt Sustainability in Low-Income CIS Countries, February 4, 2002 60