The fundamental cause of GEL exchange rate fall is the great deficit of state’s taxation balance current account

Nino ArvelaDZe

The current financial crisis of the world threatens economies of every country.

What is the main cause of GEL exchange rate fall towards the USD and what is the future of Georgia’s export? On these and other problems speaks Merab Kakulia- Dr of Economy, the leading economic expert of Georgian – European Consultation Center on Economic Policy and lawful issues.
_ What were the real causes of GEL exchange rate fall towards USD?
– The fundamental cause of GEL exchange rate fall is the great deficit of state’s taxation balance current account, which’s size towards GDP in 2007 reached 20% and in the first half of 2008 it exceeded 25%. Despite these, till last time the exchange rate of national currency has been distinguished by the exclusive stability. This paradoxical situation has the only explanation: the great number of foreign capital was entering into Georgia, (direct and portfolio investments plus bank credits) which size not only covered but also exceeded the current account deficit. After the Russian aggression, on the background of World Financial Crisis the situation changed greatly- the flow of private foreign capital weakened sharply and could not managed to conceal the current account deficit that has been reflected in the situation of exchange market.
_ Do the signs of GEL devaluation Existed or not?
_They existed of course. Till the end of September Commercial Banks factually stopped the selling of currency in the inter bank exchange rate and sharply increased the demand on it that meant the beginning of the new market tendencies. Instead of significant step by step devaluation the National Bank spent more than 300 million dollars from the currency reserve and dropped the GEL rate by 3.5 tetri. Because of this, inter bank market tension have not been reflected on the rates of stock exchanges and the great number of population had not felt exchange rate tension from the end of September until the beginning of November. During this time, deformation of supply-demand took place in the inter bank market that forced the National Bank to go on a sharp devaluation of the GEL; this of course caused the dissatisfaction of population and the economic subjects.
_ how much the realization of GEL exchange rate fall at weekends was justified?
_ It was completely unjustified, because at weekends banks and stock exchanges do not work and market is left merely on hope of exchange rate points, which easily obey speculative attack. Because of this the signs of panic have been displayed on Friday, especially on the currency exchange session of the 7th of November on which the GEL devaluated with 4 tetri, but at weekends this developed into a speculative agiotage that have been followed by GEL banknote rate fall with more than 16 tetries. The currency correlation- 1 USD for 1.65 GEL, reached on Monday was officially registered and was declared as a new point of balance. But how it is possible that the exchange rate formed without large operators- big banks, be balanced, was not explained by the National Bank.
_ Will the financial aid allocated by the International Institutions be enough to replenish the investment shortage? And one more, can it be the cause of inflation grow in Georgia, or not?
_ If we foresee that the distinct amount of private investments will enter country at any rate, the 4.5 billion USD aid scheduled on the three years should be enough to cover the current amount deficit. The problem is in other thing, on the background of the world financial crisis it is possible that the aid streams do not correspond to the current account deficit’s covering needs, which will create a great threat for GEL exchange rate. As for inflation, if government lets the massive social monetization of foreign aid inflation will kindle more. Main cause of current price rise is the fall of GEL exchange rate.
_ In your book « The problems of monetary system development in Georgia » published in 2001, we read that it is too hard for minor sized currency market to lead large volume currency flow without any problems and the only mean for neutralizing this surplus currency is its purchase from the side of the National Bank, which in such kind of case in exchange for in circulation issues additional Laries that could have inflation results and currency fluctuations. What kind of outcome we could have today according to the above mentioned logic?
_ I doubt that you consider monetary effect of International Financial Aid. First of all this aid will enter the country step by step and if it is used reasonably for the rehabilitation of infrastructure and leading fields of economy, inflation outcome is not to follow. Also, if we take into consideration that the great part of the aid will be used for the state’s current foreign payments, this is not going to cause a great surplus of currency supply and forcing growth of Lari’s mass. But if government decides to finance large scale social initiatives on the expense of this financial aid, inflation outcome is not to be delayed.
_ What kind of influence will have GEL exchange rate fall on the Georgia’s import and export prices?
_ As a rule, deep devaluation causes reduction of export prices and rise of import prices, to which finally follows the improvement of trade balance and reduction of current account deficit. But in the conditions of global recession, the export price reduction can not help us to preserve the existed markets and master the new ones. As for the import, in case of price rise on the imported goods of general consumption, when it is not placed by local goods, does not follow the essential reduction of this category‘s import. Reduction will be more noticeable on the import size of long-term and capital facilities. The last one or technological import price rise will hamper the modernization of economy. I doubt that in comparison with 2007, in medium term perspective trade balance is not to improve significantly.
_ What kind of influence has the GEL exchange rate fall on Georgian Banks?
_ The GEL exchange rate fall will have a serious influence on financial mediation. The negative effect will be shown in the intensification of the dollarization tendency of actives- passives that creates the threat of GEL banish from the bank sector. Positive effect, if such kind of thing might have it, will be the weakening of credit and monetary risks of Bank institutions. Banks will not find it difficult to adept to the high level of dollarization, but we can not say the same about private economies and economic subjects, the great numbers of which have incomes in national currency.
_ I want to know, if there exists the signs of once more fall of GEL exchange rate and when it is possible to take place?
_ When there is an extremely negative balance of current account in the country and the sources to cover it are weak, the threat of national currency devaluation always exists. As I have already mentioned, if a considerable time period occurs between the flows of international financial aid and the demands of current foreign payments the National Bank would not be able to preserve the rate on this point. The National Bank has responsibility in front of the International Monetary Fund and if the large scale spending of monetary reserves is needed to guarantee the currency stability, the rate of national currency would obey the downward amendments.
_ In 2001 you wrote that the problems of financial destabilization were not far away that they would raise the question of necessary elaboration of automatic mechanism in order to neutralize the inflow of surplus currency. Are we today really on the verge of financial destabilization?
_ I doubt that in near future we are to stand in front of large sized surplus currency’s neutralization problem, because the international financial aid would not create such kind of problem, but it would take time to reestablish the early scale of investments. So on this side financial destabilization does not threaten us. Destabilization will only take place if the promised financial aid does not come on time.