The Georgian Economy Under Saakashvili
By Irakli Rukhadze and Mark Hauf
Tuesday, April 21
Georgian president, Mikhail Saakashvili, has presented the Georgian people and his world audience with a view that his presidency brought democracy and economic rehabilitation to the country. Unfortunately for Georgia, this has been more a well-crafted PR myth that an actual reality. Much has now been written of the country’s politically compromised judicial system, government suppression of media freedom, one-party domination of all civil institutions and general abuse of human and property rights by an arrogant and autocratic Saakashvili regime. But, presumptions of economic progress during Saakashvili’s reign have been little examined. In fact, his regime’s excesses and abuses of power are often excused with the argument that Georgia has economically flourished under Saakashvili.
Is this claim of economic development valid? For all the reasons explored in this article, we propose it definitely is not. The view of growing economic prosperity advanced by Saakashvili and his apologists appears to be as much PR myth as the regime’s hackneyed claims of devotion to democracy and “Western” principles.
Before the Rose Revolution
Today, we are presented with the argument that the Georgian economy was in terrible condition prior to Saakashvili’s era. But, is this actually true? Prior to the Rose Revolution, Georgia already had adopted a western-oriented stance and enjoyed strong relations with the United States and Europe. Certain important international projects such as the Baku-Supsa and BTC pipelines were completed or under way. While relations with Russia, Georgia’s large neighbor and important trade partner, were strained politically, economic ties were not severed and Georgian products, especially agricultural products, were exported to Russia freely.
Important economic agencies such as the National Bank were independent of the executive branch. The country had managed to generally stabilize its currency and manage inflation rates (inflation in 2002 was 5.6% and in 2003 – 4.8%(1)). Important foundation sectors of the economy such as banking and telecommunications had been successfully built up from very embryonic stages and many Georgian businesses had established relationships with western counterparts for the first time. Many of the western multi-nationals operating in Georgia today entered the country prior to the Rose Revolution and all three international Hotels operating in Tbilisi today were developed prior to 2003(2).
Despite these definite economic developments occurring under his rule, Shevardnadze’s government did not advance any coherent long-term economic plan. Further, the country was riddled with corruption. Tax, customs and other regulatory procedures were complicated by design and administered in a way that allowed officials to readily extract illicit payments from private enterprises and individuals. Privatizations that did occur were nontransparent and often corrupt. These conditions, among others, ultimately resulted in the Rose Revolution.
It would be a mistake, however, to conclude that economic development began in Georgia with Saakashvili and the Rose Revolutionaries. In fact, in 2003, the year of the revolution, Georgia’s GDP grew more than 10%, despite disruptions to the economy caused by the political upheaval. In 2004, the first year of Saakashvili’s reign, this growth rate dropped to 5.9% (3).
After the Rose Revolution
When Saakashvili came to power he did not focus much on economic improvements. His “Five Pillars” development strategy barely touched on economic vision(4). Protecting cultural heritage was more prominently featured than development of the economy. His primary focus appeared to be on consolidating power, controlling the “power” ministries which enforced the government’s authority, prosecuting corruption and dabbling in foreign policy. Economic matters were delegated without much enthusiasm or vision first to Prime Minister Zhvania and subsequently to State Minister Bendukidze.
While Saakashvili was busy consolidating power in the country, changing the constitution, eliminating local governance and establishing control over the judiciary branch, Bendukidze developed his own approach to economic development which could be summarized as follows:
-Government should have no role in economic development – “the market” alone should govern what sectors of economy should be developed and how
- All (or nearly all) State assets should be privatized
- The number of different taxes should be reduced and tax rates dropped; and tax collection should be administered vigorously
- Regulations and procedures governing corporate law and banking should be liberalized and should favor investors and employers
These are principles of a theoretically pure market-based economy centered on stimulation of investment. While such a theory appears progressive in principle, it hardly addressed Georgia’s embryonic industrial and commercial capabilities and the limited economic circumstances of large sectors of the population. The Bendukidze program essentially relieved the government of responsibility to address proactively the economic well-being of its citizens; leaving that most important task to “the market”.
Bendukidze and his team of technocrats started implementing their approach often in isolation from other initiatives undertaken by the government. Meanwhile, Saakashvili, under the rubric of stamping out corruption, pursued an aggressive campaign of arrests and shake-down of companies and individual businesspeople, establishing wide-spread fear in the business community. There have been some positive effects of the Bendukidze program; but, the combined long-run effect of the Saakashvili government’s activities on the Georgian economy has actually been quite negative.
Limited Positive Consequences
Bendukidze’s reforms coupled with fear of government retribution had positive effect on the State budget. Taxes, customs, duties and other fees that went unpaid in previous years flowed into budget accounts. Sales of State assets yielded further budget inflows. The government’s success in establishing control over Adjara served to limit contraband trafficking there, also contributing to budget growth. Government expenses were reduced as many State employees were let go. And, shake-down payments and other so-called “voluntary contributions” extracted by Saakashvili’s enforcers brought in additional funds, some of which found their way into the budget accounts.
Saakashvili’s image as a young, pro-Western democrat, strongly supported by the Bush administration in the US, helped the country attract foreign aid and loans, such as from the US’s Millennium Challenge program and various other foreign government funding sources. Further liberalization of banking law helped attract additional capital to the economy. Registration of companies and commercial contracts became easier, as the Public Registry was streamlined and registration processes simplified. New and more liberal labor laws allowed employers to dump workers with minimal payout. These measures all aimed to attract business and investment to Georgia with promises of low labor costs and a liberal business environment. Foreign investors were also lured by the aggressive privatization of State assets. Word began to spread of Georgia potentially being an attractive place to do business.
Some of the new budgetary funds were used by the government to invest in infrastructure. Roads were built, and an energy crisis was averted. Monetary policy kept the Lari stable. All this further contributed to a business-friendly image of the country.
As the real economy grew, the underground shadow economy was being legalized. Although this was certainly a positive result, it also created an artificial appearance of explosive growth in the overall economy. The government reported that during 2004-2006 the economy grew by annualized 10%(5), although it is not clear how much of this was real economic growth and how much just the result of reporting on previously underground economic activity. Over the same period of time, the State budget grew by 45%(6).
Significant Negative Consequences
Much of the growth in the economy that Saakashvili government reported was achieved through quick one-time measures, such as State asset sales, government lay-offs and tightening of collection policies. Although productive in the short-run, such measures are not repeatable and offer little prospect for further economic growth. Saakashvili also resorted to extorting so-called “contributions” to the State budget from businesses and citizens with threats of prosecution for corruption, tax evasion or other charge used to persuade the recalcitrant. While such methods deliver short-run returns to the government coffer, by fundamentally alienating business people, they actually undermine Georgia’s long term economic well being.
The Saakashvili government offered no actual economic development plan. Most senior members of government stressed on numerous occasions that they had no priority sectors of the economy targeted for development or any other economic goals that normally attract the significant attention of government leaders around the world. The role of government in economic matters under Saakashvili was deemed so unimportant that he often appointed Ministers of Economy who had neither formal education nor any prerequisite experience for job.
Little has been done under Saakashvili to resuscitate real sectors of the economy or to create business and jobs. Heavy industry, steel production, processing factories remain dead or were privatized solely as real estate or for their scrap value. Large cities such as Rustavi and Kutaisi that used to represent the industrial base of Georgia have been decimated. As just one example, the massive Rustavi metallurgical plant is the only steel plant in all of Eastern Europe that remained dormant during the recent boom years.
The much-touted privatization program was aimed at quickly getting cash to the government and did nothing to prompt buyers to invest in new business development or job creation. Instead, factories were sold as real estate and the purchasers used new, liberal labor laws to fire the workers immediately after privatization. At the same time, the government started “restructuring” its own agencies, firing tens of thousands of people. The short-term cash inflows to the government’s Budget accounts that were created by these programs came at the cost of extensive job losses and deeper stagnation of the country’s industrial and commercial base. The Georgian people paid dearly for the new roads, cars for the police and military build-up that Saakashvili so proudly points out when talking about his achievements.
The Saakashvili government failed to provide any safety net for those of its citizens that were losing jobs at much faster rates than new ones were being created. This was especially hard on the middle-aged and older population, which Saakashvili’s youthful ministers considered as being incapable of bringing Georgia into the “new era”. No training programs were created to help unemployed enter new professions (beyond election-campaign promises). Support of the neediest portions of population, such as the unemployed, single parents, the disabled, pensioners and orphans was either non-existent or severely insufficient. These people are not a priority for Saakashvili’s government. The net effect has been that a large and potentially productive portion of the society sits idle, and an even larger portion faces increasingly dire economic circumstances.
Foreign Direct Investment (“FDI”) did grow at rapid rates (FDI grew by annualized 45% during 2004-2006(7)). However, investors mainly invested in real estate (often for speculative reasons) or acquired already established companies. Thus, FDI did not create any meaningful number of jobs or result in the founding of new growth businesses. This too is a consequence of the Saakashvili government’s lack of any economic development plan which might use incentives, regulation and legislation to guide investment into growth areas, business development and job creation. However, Saakashvili’s loosely managed programs did create an opportunity for a small number of people to earn excessive returns.
Where any wealth was being created, it became a target of opportunity for the Saakashvili government. The General Prosecutor’s Office, Financial Police, Tax Department, Constitutional Safety Department and other government agencies with prosecutorial power actively participated in extracting money and expropriating shares from Entrepreneurs. Since these activities were carried out illegally by the government, the cash, assets and shares they yielded had to be recorded as “voluntary” contributions, as no other legal basis could be found. These activities have fostered the new institution of “elite” corruption in Georgia.
The absence of an impartial court system in Georgia made it difficult for the business community to seek justice for the government excesses. Business arbitration, introduced by the government as an alternative venue for dispute resolution, was quickly shot down as the Saakashvili government feared loss of control over the judicial process. The government could continue to terrorize businesses with impunity. Exploiting this power, officials limited access to the Public registry, imposed illegal tax penalties and undertook other measures which undermined much of the positive reforms the government had earlier attempted.
The Saakashvili regime initially targeted larger businesses, with attacks delivered personally by the very top members of the government. As time passed, however, the assault broadened to include small and medium enterprises as well. Restaurant and shop owners, small business people were shaken down alongside large businesses. As more layers of government became involved in these shake-downs, it became impossible to control what went to government coffers and what stayed with individuals as personal gain. Corruption prospered. Spouses, siblings, parents and friends of government members suddenly became successful “entrepreneurs” owning assets and capital that is difficult to explain.
Unfortunately, the Georgian business community met the terror inflicted upon it with quiet obedience; although it possessed few other options in the absence of an independent court system. The government, seeing almost no resistance, became emboldened and more creative. When Russia introduced an embargo on import of Georgian products in 2006, the government did not bother to create a comprehensive plan to help Georgian businesses survive the resulting hardship. Instead Saakashvili used the well-practiced shortcut of terrorizing businesses to solve the massive problems the embargo created. Agriculture accounted for half of Georgian exports to Russia and wine alone for a third of the total exports(8). It is telling that Irakli Okruashvili, then the much feared Minister of Defense, was appointed as Saakashvili’s “emissary” to help Georgia’s winemakers. Okruashvili’s credentials did not include wine merchant skills. Neither was he known by his marketing capabilities. However, brutalizing businesses was definitely something he had excelled at as Saakashvili’s Prosecutor General a short while before.
Fearing popular farmer unrest in rural areas, the Saakashvili government pressured businesses to buy agricultural products. Banks, industrial groups, real estate companies bought grapes to help alleviate strain at harvest. Government agents “encouraged” such economically meaningless purchases by promises of future government friendships or threats of government attacks. It is especially cynical and disturbing that winemakers, which were hit hard already by embargo, were actually ordered to buy grapes they did not need. The disobedient ones were punished when their factories were raided by security forces and wine stocks poured out publically.
The fact that these tactics were repeated once again in 2007 shows clearly that Saakashvili’s government had no plan to address this severe economic matter other than through influence peddling and extortive threats. Actions aimed at reallocating the economic benefits obtained in one sector of the economy to another sector that is experiencing problems, using taxation, incentives, joint development programs and other legal and transparent means, is often an effective tactic of responsible government. Forced promotion of foolish and non-sustainable consumption are evidence of failed government; as well as being ultimately destructive to the economy as a whole.
In reality, the Russian embargo had and continues to have severe consequences for Georgian export industry. Last year (pre-war, pre-crisis) Georgia was running a trade imbalance of 3 billion US Dollars or 35% of the country’s GDP(9). Agricultural produce accounted for 50% of total export to Russia(10), and inhabitants of rural Georgia have been most affected by the embargo. Instead of helping them to cope with loss of their main export market, Georgian peasants were told by their government that it was blessing in disguise and that now they could start selling their produce on world markets. Unfortunately, other than this lofty rhetoric, no real support was provided to the farmers. It was simply easier to pressure businesses with no agricultural interests to buy grapes artificially and to call any that complained “Russian spies”.
The Russian embargo was not the only cause for an increased trade deficit. A strong Lari (during 2004-2006, Lari grew by 20% per annum against the Currency Basket used by National Bank of Georgia(11)) coupled with high real inflation in Georgia (as high as 11% in 2007(12)) made Georgian products uncompetitive on export markets. These are also measures of weakness in Saakashvili’s overall economic program. Monetary policy is a primary government tool for steering trade and domestic consumption in directions that are favorable to national economic development. It should be managed by a responsible National Bank, which under Saakashvili was decapitated with the appointment of an inexperienced manager as its acting president until recently. Mismanagement of monetary policy occurred to the detriment of sectors of the economy that rely on exports, and to the general disadvantage of all citizens hit by the effects of high inflation.
Lacking any real plan for management of the Georgian economy, the Saakashvili government has relied on PR stunts to create the appearance of economic development. One example is Saakashvili’s much touted decision to build a world class sea resort in Batumi. The practical fact that Batumi is a major oil port and that sea resorts and oil ports do not mix were overlooked in favor of good PR. The Georgian people were promised in 2005 that “in three years Batumi would be exactly like Monaco with expensive yachts sailing in and out from all over the world”. Tens of millions of dollars were invested and people were bused in and out to create an impression of a busy resort town.
Sighnaghi became a second such “Potemkin’s Village” for the President. In the style of the Saakashvili government, private businesses were coerced to invest. Prosecutor General Adeishvili became the official coordinator of the project to ensure all understood that punishment would not be far away for any company who disobeyed. The Batumi and Sighnaghi projects certainly did generate some short-run economic activity; but, each lacks a fundamental mechanism to sustain long-term growth and development. Squandering limited investment funds on questionable programs for the sake of promoting the president’s political image, rather than guiding these funds towards productive long-term targets, actually weakens the country’s economy.
To summarize, the Saakashvili government has relied on certain “easy wins” to create an impression of economic progress. The fact is that few of these programs have any capacity for sustained growth or further development. They have done little to create new productive capabilities in Georgia or to educate and prepare its citizens for productive future roles. Entrepreneurs have been terrorized rather than supported and a pattern of lawless exploitation replaced responsible government preparation of a civil society.
Time and funds have been wasted on efforts to promote the popularity of the government, rather than intelligently invested in building responsible and capable government institutions to manage a modern economy. Under Saakashvili’s rule, there has been an apparent improvement in the economic circumstances of some, but the basic economic capacities of the country have not improved; and, in fact, may be weaker today than at the time of the Rose Revolution. After the last State asset has been sold for scrap; after the last “spare” government employee has been laid off; after the last tax collection loophole has been closed; where will Saakashvili turn for funds to fuel economic growth? His government has built little of lasting economic significance beyond a strong public relations capability and an intimidating enforcement apparatus. This fact is the true measure of Saakashvili’s economic failure.
Five and half years after the Rose Revolution, the main export of Georgian economy is its people. Many thousands of its able citizens leave the country every year for better futures elsewhere. Among the ones that decided to stay, over 30% live in poverty and most are dissatisfied with their lives. The recent EBRD / World Bank survey shows that less than 25% of Georgians are satisfied with their lives, ranking Georgia lowest among the CIS countries(13). Most Georgian citizens may not understand the complex workings of a national economy; but they do feel that their government has somehow failed to pave the way to a better economic future. It is this popular perception, along with concern for the erosion of civil liberties that occurred under Saakashvili’s rule, which brought people out into the streets on April 9.
Circumstances Today
Despite government propaganda to contrary, the Georgian economy certainly suffers the devastating effects of the August 2008 war with Russia. We won’t debate here who started the war and whether it and its economic consequences for Georgia could have been avoided. Saakashvili has conveniently used the current worldwide economic crisis to write off much of the August war’s adverse impact on the economy. However, the effect of the war is evident and weakening of the Georgian economy preceded the worldwide economic crisis. As just one example, the Bank of Georgia share price on the London exchange fell sharply immediately after the August war but prior to the onset of the current worldwide financial crisis.
The Georgian government is experiencing a severe budgetary crisis while facing post-war rehabilitation costs and increased foreign aversion to risk of investment in the country. Saakashvili’s failure to play any meaningful role in the politics and economic affairs of the Caucasus region has left Georgia without strong ties to its neighbors. This certainly threatens the country’s trade potential. And, with new geopolitical developments around Georgia such as the improved Armenian –Turkish relationship and the increased role that Russia is playing in energy projects such as NABUCCO, one of Georgia’s main economic assets, its transit capacity, is coming under risk.
Against the background of this deteriorated situation, Saakashvili faces yet another popular challenge to his presidency. First in late 2007 and now in early 2009, people have taken to the streets to register their dissatisfaction. The failure of his government’s economic program is one of the main reasons for both protests. In response, Saakashvili claims that he finally has an economic development plan.
If you are part of the vast, poverty stricken population, Saakashvili promises to increase your pensions, pay higher salaries, force private companies to hire you and pay your utility bills. Thus, if you are a “have not”, he is now a reformed man ready to stand for you and spend a substantial amount from the government coffers to back this up.
If you are lucky enough to be a “have” after the first five years of Saakashvili rule, he will lower taxes for you, guarantee your rights, protect your property, still build roads and fountains and, overall, return stability to your life. The price of all this will also be paid from the government’s coffers(14).
With only a modicum of cynicism, this “plan” might best be dubbed “I will promise anything you want to remain in power”. Funding Saakashvili’s promises, not to mention doing this while keeping inflation in line, addressing trade imbalances, managing the Lari, pursuing developments needed to continue attracting FDI and subsidizing growth in target sectors that have finally attracted the leadership’s attention, would be a formidable task for a practiced group of economic operatives working within a reasonably developed economy. For Saakashvili and his largely PR-centered team, it is a practical impossibility.
Saakashvili’s “plan”, like most of the economic measures proposed during his term as president, is a confused, contradictory, unsupported collection of rhetoric intended to detract attention from legitimate criticism of his regime’s excesses and boost his own popularity. There is no substance offered as to implementation or actual economic consequences. Like most of what he has had to say about the economy, it is all hardly believable (yet surprisingly unchallenged). Pursuing the “plan”, especially using methods employed thus far in his reign, will likely damage the economy further; affecting most adversely those whom it promises to benefit.
One cornerstone of Saakashvili’s proposed program is creating jobs. This is to be achieved by “convincing” private companies that they need more workers, thus creating the new jobs (or recovering those lost to earlier government adventures). It can only be imagined who would do the “convincing”. If past practice is any guide, this would most likely be the Financial Police, Constitutional Safety Department and Prosecutor General’s office. Private business knows better than this government what it needs. This is a fundamental economic axiom that is especially true for the Saakashvili government. Government coercion may force the business community to artificially create jobs, but it will not generate the actual economic activity that secures meaningful employment for the long run.
It’s noteworthy that this new Saakashvili “plan” is an apparent U-turn from the earlier Bendukidze approach. The government that consistently promoted “survival of the fittest”, right wing economic policies, now appears to be turning socialist. If one can believe Saakashvili, he planned to spend at least 500 million to 1 billion Lari (which he did not have) on social welfare in 2008 (although this promise, rather fortuitously for Saakashvili, also became a victim of the August war). Basically, the government is admitting that the economic experiment Bendukidze pushed during the first term of Saakashvili’s presidency has failed (or simply run out of gas), so now the Leader promises the Georgian people an entirely different and new experiment.
Conclusions
President Saakashvili would have us believe that his government is responsible for an economic vitalization of Georgia, regardless of any democratic shortcomings it might be charged with. However, the Georgian economy is now in every bit as weak a state as when Saakashvili came to power – in fact, perhaps weaker, since the erratic behavior of his regime has poisoned much of the promise of economic development that existed at the time of the Rose Revolution.
Economic health of a country is an absolute pre-requisite for achievement of all other goals. Without a strong economy, Georgia will not secure an independent and respected position on the world stage, or have the means to defend itself, educate its people, care for its needy, provide adequate healthcare and other social services, and build a civil society for all of its citizens. It is not a coincidence that Shota Rustaveli wrote the cultural icon “Knight in Panther’s Skin” in the 12th century, at the height of Georgian economic prosperity. History teaches us that poor countries rarely develop science, technology, literature, art or even excel at sports.
A strong Georgian economy is a foundation for the well-being of country’s citizens, effective relations with its world neighbors, and a healthy civil society it can pass on to its children. Guiding and, where necessary, managing the development of the country’s economy is, therefore, one of the single most important responsibilities of government. This is a complex task to be carried out with knowledge and determination, with compassion for all the people, and with sober and practical understanding of actual economic realities. It is a task requiring an open, honest and engaging partnership between government and private sector investors, entrepreneurs and professionals.
The government must be active in creating the rules of the game for various participants of free markets and in making sure that these rules apply to all players in a fair and transparent way. Responsible government should use the lawful tools at its disposal to guide businesses into developing sectors of the economy that show promise for long-term benefit to the country and its people. We should not forget that many of Georgian citizens still do not or cannot participate in economic life of the country; thus, government has a responsibility to prepare society for productive roles in economic development. It would be a lie to say that Georgia could defeat unemployment and poverty immediately or instantly build a world-respected economy. No government can promise that and be truthful. However, the government can make sure that while Georgia is developing its economy, creating jobs, and building the productive capabilities of the country, a strong safety net is put in place for those that are in need of social welfare.
Years of civil strife, government corruption, revolutions, political infighting, and efforts by a few to hold power over the many have left the Georgian economy in a neglected and disappointing condition. Practical plans, organization, processes and skills needed for effective economic development have been generally ignored under Saakashvili in favor of political stunts and bully-boy tactics. Time and resources that could have been applied to building sustainable future prosperity for the country have been wasted.
Georgian citizens have been mislead, cheated and abused by their government leaders. It’s hard now to trust that government can be the agent of positive social and economic development. That destruction of trust is perhaps Saakashvili’s most shameful failing. But, successful countries around the world show us that government can be and, indeed, must be the agent and guardian of economic and social prosperity. It is thus essential that any who would lead Georgia from this present juncture place primary emphasis on real and sustainable economic development. It is equally essential that Georgia’s citizens demand from their leaders credible economic programs based on practical means of implementation – PR alone, no matter how well crafted, doesn’t get the job done.
(Footnotes)
1 Source: Consumer Price Index date from National Bank of Georgia
2 It is telling that none of many attempts to develop International hotel in Tbilisi were successful since 2003
3 Source: Department of Statistics and World Bank
4 To win Millennium Challenge grant McKinsey & Co. was retained in a secret assignment (Millennium Challenge rules did not allow participation of outside consultants). When Daniel Kunin presented McKinsey team with famous “Five Pillars” vision of Saakashvili, McKinsey promptly pointed out that none of these pillars would stand without viable economy which was missing altogether from Saakashvili’s vision / plans for Georgia
5 Source: Department of Statistics
6 Source: Ministry of Finance of Georgia
7 Source: Department of Statistics
8 Source: Department of Statistics
9 Source: Department of Statistics
10 Source: Department of Statistics
11 National Bank of Georgia
12 National Bank of Georgia
13 Life in Transition, EBRD in collaboration with World Bank
14 This analysis is based on economic program from Saakashvili’s presidential campaign and promises made by the National Movement Party during the Parliamentary Elections in 2008
(This article, a commercial request,is published in exactly the form it was delivered to The Messenger)
Is this claim of economic development valid? For all the reasons explored in this article, we propose it definitely is not. The view of growing economic prosperity advanced by Saakashvili and his apologists appears to be as much PR myth as the regime’s hackneyed claims of devotion to democracy and “Western” principles.
Before the Rose Revolution
Today, we are presented with the argument that the Georgian economy was in terrible condition prior to Saakashvili’s era. But, is this actually true? Prior to the Rose Revolution, Georgia already had adopted a western-oriented stance and enjoyed strong relations with the United States and Europe. Certain important international projects such as the Baku-Supsa and BTC pipelines were completed or under way. While relations with Russia, Georgia’s large neighbor and important trade partner, were strained politically, economic ties were not severed and Georgian products, especially agricultural products, were exported to Russia freely.
Important economic agencies such as the National Bank were independent of the executive branch. The country had managed to generally stabilize its currency and manage inflation rates (inflation in 2002 was 5.6% and in 2003 – 4.8%(1)). Important foundation sectors of the economy such as banking and telecommunications had been successfully built up from very embryonic stages and many Georgian businesses had established relationships with western counterparts for the first time. Many of the western multi-nationals operating in Georgia today entered the country prior to the Rose Revolution and all three international Hotels operating in Tbilisi today were developed prior to 2003(2).
Despite these definite economic developments occurring under his rule, Shevardnadze’s government did not advance any coherent long-term economic plan. Further, the country was riddled with corruption. Tax, customs and other regulatory procedures were complicated by design and administered in a way that allowed officials to readily extract illicit payments from private enterprises and individuals. Privatizations that did occur were nontransparent and often corrupt. These conditions, among others, ultimately resulted in the Rose Revolution.
It would be a mistake, however, to conclude that economic development began in Georgia with Saakashvili and the Rose Revolutionaries. In fact, in 2003, the year of the revolution, Georgia’s GDP grew more than 10%, despite disruptions to the economy caused by the political upheaval. In 2004, the first year of Saakashvili’s reign, this growth rate dropped to 5.9% (3).
After the Rose Revolution
When Saakashvili came to power he did not focus much on economic improvements. His “Five Pillars” development strategy barely touched on economic vision(4). Protecting cultural heritage was more prominently featured than development of the economy. His primary focus appeared to be on consolidating power, controlling the “power” ministries which enforced the government’s authority, prosecuting corruption and dabbling in foreign policy. Economic matters were delegated without much enthusiasm or vision first to Prime Minister Zhvania and subsequently to State Minister Bendukidze.
While Saakashvili was busy consolidating power in the country, changing the constitution, eliminating local governance and establishing control over the judiciary branch, Bendukidze developed his own approach to economic development which could be summarized as follows:
-Government should have no role in economic development – “the market” alone should govern what sectors of economy should be developed and how
- All (or nearly all) State assets should be privatized
- The number of different taxes should be reduced and tax rates dropped; and tax collection should be administered vigorously
- Regulations and procedures governing corporate law and banking should be liberalized and should favor investors and employers
These are principles of a theoretically pure market-based economy centered on stimulation of investment. While such a theory appears progressive in principle, it hardly addressed Georgia’s embryonic industrial and commercial capabilities and the limited economic circumstances of large sectors of the population. The Bendukidze program essentially relieved the government of responsibility to address proactively the economic well-being of its citizens; leaving that most important task to “the market”.
Bendukidze and his team of technocrats started implementing their approach often in isolation from other initiatives undertaken by the government. Meanwhile, Saakashvili, under the rubric of stamping out corruption, pursued an aggressive campaign of arrests and shake-down of companies and individual businesspeople, establishing wide-spread fear in the business community. There have been some positive effects of the Bendukidze program; but, the combined long-run effect of the Saakashvili government’s activities on the Georgian economy has actually been quite negative.
Limited Positive Consequences
Bendukidze’s reforms coupled with fear of government retribution had positive effect on the State budget. Taxes, customs, duties and other fees that went unpaid in previous years flowed into budget accounts. Sales of State assets yielded further budget inflows. The government’s success in establishing control over Adjara served to limit contraband trafficking there, also contributing to budget growth. Government expenses were reduced as many State employees were let go. And, shake-down payments and other so-called “voluntary contributions” extracted by Saakashvili’s enforcers brought in additional funds, some of which found their way into the budget accounts.
Saakashvili’s image as a young, pro-Western democrat, strongly supported by the Bush administration in the US, helped the country attract foreign aid and loans, such as from the US’s Millennium Challenge program and various other foreign government funding sources. Further liberalization of banking law helped attract additional capital to the economy. Registration of companies and commercial contracts became easier, as the Public Registry was streamlined and registration processes simplified. New and more liberal labor laws allowed employers to dump workers with minimal payout. These measures all aimed to attract business and investment to Georgia with promises of low labor costs and a liberal business environment. Foreign investors were also lured by the aggressive privatization of State assets. Word began to spread of Georgia potentially being an attractive place to do business.
Some of the new budgetary funds were used by the government to invest in infrastructure. Roads were built, and an energy crisis was averted. Monetary policy kept the Lari stable. All this further contributed to a business-friendly image of the country.
As the real economy grew, the underground shadow economy was being legalized. Although this was certainly a positive result, it also created an artificial appearance of explosive growth in the overall economy. The government reported that during 2004-2006 the economy grew by annualized 10%(5), although it is not clear how much of this was real economic growth and how much just the result of reporting on previously underground economic activity. Over the same period of time, the State budget grew by 45%(6).
Significant Negative Consequences
Much of the growth in the economy that Saakashvili government reported was achieved through quick one-time measures, such as State asset sales, government lay-offs and tightening of collection policies. Although productive in the short-run, such measures are not repeatable and offer little prospect for further economic growth. Saakashvili also resorted to extorting so-called “contributions” to the State budget from businesses and citizens with threats of prosecution for corruption, tax evasion or other charge used to persuade the recalcitrant. While such methods deliver short-run returns to the government coffer, by fundamentally alienating business people, they actually undermine Georgia’s long term economic well being.
The Saakashvili government offered no actual economic development plan. Most senior members of government stressed on numerous occasions that they had no priority sectors of the economy targeted for development or any other economic goals that normally attract the significant attention of government leaders around the world. The role of government in economic matters under Saakashvili was deemed so unimportant that he often appointed Ministers of Economy who had neither formal education nor any prerequisite experience for job.
Little has been done under Saakashvili to resuscitate real sectors of the economy or to create business and jobs. Heavy industry, steel production, processing factories remain dead or were privatized solely as real estate or for their scrap value. Large cities such as Rustavi and Kutaisi that used to represent the industrial base of Georgia have been decimated. As just one example, the massive Rustavi metallurgical plant is the only steel plant in all of Eastern Europe that remained dormant during the recent boom years.
The much-touted privatization program was aimed at quickly getting cash to the government and did nothing to prompt buyers to invest in new business development or job creation. Instead, factories were sold as real estate and the purchasers used new, liberal labor laws to fire the workers immediately after privatization. At the same time, the government started “restructuring” its own agencies, firing tens of thousands of people. The short-term cash inflows to the government’s Budget accounts that were created by these programs came at the cost of extensive job losses and deeper stagnation of the country’s industrial and commercial base. The Georgian people paid dearly for the new roads, cars for the police and military build-up that Saakashvili so proudly points out when talking about his achievements.
The Saakashvili government failed to provide any safety net for those of its citizens that were losing jobs at much faster rates than new ones were being created. This was especially hard on the middle-aged and older population, which Saakashvili’s youthful ministers considered as being incapable of bringing Georgia into the “new era”. No training programs were created to help unemployed enter new professions (beyond election-campaign promises). Support of the neediest portions of population, such as the unemployed, single parents, the disabled, pensioners and orphans was either non-existent or severely insufficient. These people are not a priority for Saakashvili’s government. The net effect has been that a large and potentially productive portion of the society sits idle, and an even larger portion faces increasingly dire economic circumstances.
Foreign Direct Investment (“FDI”) did grow at rapid rates (FDI grew by annualized 45% during 2004-2006(7)). However, investors mainly invested in real estate (often for speculative reasons) or acquired already established companies. Thus, FDI did not create any meaningful number of jobs or result in the founding of new growth businesses. This too is a consequence of the Saakashvili government’s lack of any economic development plan which might use incentives, regulation and legislation to guide investment into growth areas, business development and job creation. However, Saakashvili’s loosely managed programs did create an opportunity for a small number of people to earn excessive returns.
Where any wealth was being created, it became a target of opportunity for the Saakashvili government. The General Prosecutor’s Office, Financial Police, Tax Department, Constitutional Safety Department and other government agencies with prosecutorial power actively participated in extracting money and expropriating shares from Entrepreneurs. Since these activities were carried out illegally by the government, the cash, assets and shares they yielded had to be recorded as “voluntary” contributions, as no other legal basis could be found. These activities have fostered the new institution of “elite” corruption in Georgia.
The absence of an impartial court system in Georgia made it difficult for the business community to seek justice for the government excesses. Business arbitration, introduced by the government as an alternative venue for dispute resolution, was quickly shot down as the Saakashvili government feared loss of control over the judicial process. The government could continue to terrorize businesses with impunity. Exploiting this power, officials limited access to the Public registry, imposed illegal tax penalties and undertook other measures which undermined much of the positive reforms the government had earlier attempted.
The Saakashvili regime initially targeted larger businesses, with attacks delivered personally by the very top members of the government. As time passed, however, the assault broadened to include small and medium enterprises as well. Restaurant and shop owners, small business people were shaken down alongside large businesses. As more layers of government became involved in these shake-downs, it became impossible to control what went to government coffers and what stayed with individuals as personal gain. Corruption prospered. Spouses, siblings, parents and friends of government members suddenly became successful “entrepreneurs” owning assets and capital that is difficult to explain.
Unfortunately, the Georgian business community met the terror inflicted upon it with quiet obedience; although it possessed few other options in the absence of an independent court system. The government, seeing almost no resistance, became emboldened and more creative. When Russia introduced an embargo on import of Georgian products in 2006, the government did not bother to create a comprehensive plan to help Georgian businesses survive the resulting hardship. Instead Saakashvili used the well-practiced shortcut of terrorizing businesses to solve the massive problems the embargo created. Agriculture accounted for half of Georgian exports to Russia and wine alone for a third of the total exports(8). It is telling that Irakli Okruashvili, then the much feared Minister of Defense, was appointed as Saakashvili’s “emissary” to help Georgia’s winemakers. Okruashvili’s credentials did not include wine merchant skills. Neither was he known by his marketing capabilities. However, brutalizing businesses was definitely something he had excelled at as Saakashvili’s Prosecutor General a short while before.
Fearing popular farmer unrest in rural areas, the Saakashvili government pressured businesses to buy agricultural products. Banks, industrial groups, real estate companies bought grapes to help alleviate strain at harvest. Government agents “encouraged” such economically meaningless purchases by promises of future government friendships or threats of government attacks. It is especially cynical and disturbing that winemakers, which were hit hard already by embargo, were actually ordered to buy grapes they did not need. The disobedient ones were punished when their factories were raided by security forces and wine stocks poured out publically.
The fact that these tactics were repeated once again in 2007 shows clearly that Saakashvili’s government had no plan to address this severe economic matter other than through influence peddling and extortive threats. Actions aimed at reallocating the economic benefits obtained in one sector of the economy to another sector that is experiencing problems, using taxation, incentives, joint development programs and other legal and transparent means, is often an effective tactic of responsible government. Forced promotion of foolish and non-sustainable consumption are evidence of failed government; as well as being ultimately destructive to the economy as a whole.
In reality, the Russian embargo had and continues to have severe consequences for Georgian export industry. Last year (pre-war, pre-crisis) Georgia was running a trade imbalance of 3 billion US Dollars or 35% of the country’s GDP(9). Agricultural produce accounted for 50% of total export to Russia(10), and inhabitants of rural Georgia have been most affected by the embargo. Instead of helping them to cope with loss of their main export market, Georgian peasants were told by their government that it was blessing in disguise and that now they could start selling their produce on world markets. Unfortunately, other than this lofty rhetoric, no real support was provided to the farmers. It was simply easier to pressure businesses with no agricultural interests to buy grapes artificially and to call any that complained “Russian spies”.
The Russian embargo was not the only cause for an increased trade deficit. A strong Lari (during 2004-2006, Lari grew by 20% per annum against the Currency Basket used by National Bank of Georgia(11)) coupled with high real inflation in Georgia (as high as 11% in 2007(12)) made Georgian products uncompetitive on export markets. These are also measures of weakness in Saakashvili’s overall economic program. Monetary policy is a primary government tool for steering trade and domestic consumption in directions that are favorable to national economic development. It should be managed by a responsible National Bank, which under Saakashvili was decapitated with the appointment of an inexperienced manager as its acting president until recently. Mismanagement of monetary policy occurred to the detriment of sectors of the economy that rely on exports, and to the general disadvantage of all citizens hit by the effects of high inflation.
Lacking any real plan for management of the Georgian economy, the Saakashvili government has relied on PR stunts to create the appearance of economic development. One example is Saakashvili’s much touted decision to build a world class sea resort in Batumi. The practical fact that Batumi is a major oil port and that sea resorts and oil ports do not mix were overlooked in favor of good PR. The Georgian people were promised in 2005 that “in three years Batumi would be exactly like Monaco with expensive yachts sailing in and out from all over the world”. Tens of millions of dollars were invested and people were bused in and out to create an impression of a busy resort town.
Sighnaghi became a second such “Potemkin’s Village” for the President. In the style of the Saakashvili government, private businesses were coerced to invest. Prosecutor General Adeishvili became the official coordinator of the project to ensure all understood that punishment would not be far away for any company who disobeyed. The Batumi and Sighnaghi projects certainly did generate some short-run economic activity; but, each lacks a fundamental mechanism to sustain long-term growth and development. Squandering limited investment funds on questionable programs for the sake of promoting the president’s political image, rather than guiding these funds towards productive long-term targets, actually weakens the country’s economy.
To summarize, the Saakashvili government has relied on certain “easy wins” to create an impression of economic progress. The fact is that few of these programs have any capacity for sustained growth or further development. They have done little to create new productive capabilities in Georgia or to educate and prepare its citizens for productive future roles. Entrepreneurs have been terrorized rather than supported and a pattern of lawless exploitation replaced responsible government preparation of a civil society.
Time and funds have been wasted on efforts to promote the popularity of the government, rather than intelligently invested in building responsible and capable government institutions to manage a modern economy. Under Saakashvili’s rule, there has been an apparent improvement in the economic circumstances of some, but the basic economic capacities of the country have not improved; and, in fact, may be weaker today than at the time of the Rose Revolution. After the last State asset has been sold for scrap; after the last “spare” government employee has been laid off; after the last tax collection loophole has been closed; where will Saakashvili turn for funds to fuel economic growth? His government has built little of lasting economic significance beyond a strong public relations capability and an intimidating enforcement apparatus. This fact is the true measure of Saakashvili’s economic failure.
Five and half years after the Rose Revolution, the main export of Georgian economy is its people. Many thousands of its able citizens leave the country every year for better futures elsewhere. Among the ones that decided to stay, over 30% live in poverty and most are dissatisfied with their lives. The recent EBRD / World Bank survey shows that less than 25% of Georgians are satisfied with their lives, ranking Georgia lowest among the CIS countries(13). Most Georgian citizens may not understand the complex workings of a national economy; but they do feel that their government has somehow failed to pave the way to a better economic future. It is this popular perception, along with concern for the erosion of civil liberties that occurred under Saakashvili’s rule, which brought people out into the streets on April 9.
Circumstances Today
Despite government propaganda to contrary, the Georgian economy certainly suffers the devastating effects of the August 2008 war with Russia. We won’t debate here who started the war and whether it and its economic consequences for Georgia could have been avoided. Saakashvili has conveniently used the current worldwide economic crisis to write off much of the August war’s adverse impact on the economy. However, the effect of the war is evident and weakening of the Georgian economy preceded the worldwide economic crisis. As just one example, the Bank of Georgia share price on the London exchange fell sharply immediately after the August war but prior to the onset of the current worldwide financial crisis.
The Georgian government is experiencing a severe budgetary crisis while facing post-war rehabilitation costs and increased foreign aversion to risk of investment in the country. Saakashvili’s failure to play any meaningful role in the politics and economic affairs of the Caucasus region has left Georgia without strong ties to its neighbors. This certainly threatens the country’s trade potential. And, with new geopolitical developments around Georgia such as the improved Armenian –Turkish relationship and the increased role that Russia is playing in energy projects such as NABUCCO, one of Georgia’s main economic assets, its transit capacity, is coming under risk.
Against the background of this deteriorated situation, Saakashvili faces yet another popular challenge to his presidency. First in late 2007 and now in early 2009, people have taken to the streets to register their dissatisfaction. The failure of his government’s economic program is one of the main reasons for both protests. In response, Saakashvili claims that he finally has an economic development plan.
If you are part of the vast, poverty stricken population, Saakashvili promises to increase your pensions, pay higher salaries, force private companies to hire you and pay your utility bills. Thus, if you are a “have not”, he is now a reformed man ready to stand for you and spend a substantial amount from the government coffers to back this up.
If you are lucky enough to be a “have” after the first five years of Saakashvili rule, he will lower taxes for you, guarantee your rights, protect your property, still build roads and fountains and, overall, return stability to your life. The price of all this will also be paid from the government’s coffers(14).
With only a modicum of cynicism, this “plan” might best be dubbed “I will promise anything you want to remain in power”. Funding Saakashvili’s promises, not to mention doing this while keeping inflation in line, addressing trade imbalances, managing the Lari, pursuing developments needed to continue attracting FDI and subsidizing growth in target sectors that have finally attracted the leadership’s attention, would be a formidable task for a practiced group of economic operatives working within a reasonably developed economy. For Saakashvili and his largely PR-centered team, it is a practical impossibility.
Saakashvili’s “plan”, like most of the economic measures proposed during his term as president, is a confused, contradictory, unsupported collection of rhetoric intended to detract attention from legitimate criticism of his regime’s excesses and boost his own popularity. There is no substance offered as to implementation or actual economic consequences. Like most of what he has had to say about the economy, it is all hardly believable (yet surprisingly unchallenged). Pursuing the “plan”, especially using methods employed thus far in his reign, will likely damage the economy further; affecting most adversely those whom it promises to benefit.
One cornerstone of Saakashvili’s proposed program is creating jobs. This is to be achieved by “convincing” private companies that they need more workers, thus creating the new jobs (or recovering those lost to earlier government adventures). It can only be imagined who would do the “convincing”. If past practice is any guide, this would most likely be the Financial Police, Constitutional Safety Department and Prosecutor General’s office. Private business knows better than this government what it needs. This is a fundamental economic axiom that is especially true for the Saakashvili government. Government coercion may force the business community to artificially create jobs, but it will not generate the actual economic activity that secures meaningful employment for the long run.
It’s noteworthy that this new Saakashvili “plan” is an apparent U-turn from the earlier Bendukidze approach. The government that consistently promoted “survival of the fittest”, right wing economic policies, now appears to be turning socialist. If one can believe Saakashvili, he planned to spend at least 500 million to 1 billion Lari (which he did not have) on social welfare in 2008 (although this promise, rather fortuitously for Saakashvili, also became a victim of the August war). Basically, the government is admitting that the economic experiment Bendukidze pushed during the first term of Saakashvili’s presidency has failed (or simply run out of gas), so now the Leader promises the Georgian people an entirely different and new experiment.
Conclusions
President Saakashvili would have us believe that his government is responsible for an economic vitalization of Georgia, regardless of any democratic shortcomings it might be charged with. However, the Georgian economy is now in every bit as weak a state as when Saakashvili came to power – in fact, perhaps weaker, since the erratic behavior of his regime has poisoned much of the promise of economic development that existed at the time of the Rose Revolution.
Economic health of a country is an absolute pre-requisite for achievement of all other goals. Without a strong economy, Georgia will not secure an independent and respected position on the world stage, or have the means to defend itself, educate its people, care for its needy, provide adequate healthcare and other social services, and build a civil society for all of its citizens. It is not a coincidence that Shota Rustaveli wrote the cultural icon “Knight in Panther’s Skin” in the 12th century, at the height of Georgian economic prosperity. History teaches us that poor countries rarely develop science, technology, literature, art or even excel at sports.
A strong Georgian economy is a foundation for the well-being of country’s citizens, effective relations with its world neighbors, and a healthy civil society it can pass on to its children. Guiding and, where necessary, managing the development of the country’s economy is, therefore, one of the single most important responsibilities of government. This is a complex task to be carried out with knowledge and determination, with compassion for all the people, and with sober and practical understanding of actual economic realities. It is a task requiring an open, honest and engaging partnership between government and private sector investors, entrepreneurs and professionals.
The government must be active in creating the rules of the game for various participants of free markets and in making sure that these rules apply to all players in a fair and transparent way. Responsible government should use the lawful tools at its disposal to guide businesses into developing sectors of the economy that show promise for long-term benefit to the country and its people. We should not forget that many of Georgian citizens still do not or cannot participate in economic life of the country; thus, government has a responsibility to prepare society for productive roles in economic development. It would be a lie to say that Georgia could defeat unemployment and poverty immediately or instantly build a world-respected economy. No government can promise that and be truthful. However, the government can make sure that while Georgia is developing its economy, creating jobs, and building the productive capabilities of the country, a strong safety net is put in place for those that are in need of social welfare.
Years of civil strife, government corruption, revolutions, political infighting, and efforts by a few to hold power over the many have left the Georgian economy in a neglected and disappointing condition. Practical plans, organization, processes and skills needed for effective economic development have been generally ignored under Saakashvili in favor of political stunts and bully-boy tactics. Time and resources that could have been applied to building sustainable future prosperity for the country have been wasted.
Georgian citizens have been mislead, cheated and abused by their government leaders. It’s hard now to trust that government can be the agent of positive social and economic development. That destruction of trust is perhaps Saakashvili’s most shameful failing. But, successful countries around the world show us that government can be and, indeed, must be the agent and guardian of economic and social prosperity. It is thus essential that any who would lead Georgia from this present juncture place primary emphasis on real and sustainable economic development. It is equally essential that Georgia’s citizens demand from their leaders credible economic programs based on practical means of implementation – PR alone, no matter how well crafted, doesn’t get the job done.
(Footnotes)
1 Source: Consumer Price Index date from National Bank of Georgia
2 It is telling that none of many attempts to develop International hotel in Tbilisi were successful since 2003
3 Source: Department of Statistics and World Bank
4 To win Millennium Challenge grant McKinsey & Co. was retained in a secret assignment (Millennium Challenge rules did not allow participation of outside consultants). When Daniel Kunin presented McKinsey team with famous “Five Pillars” vision of Saakashvili, McKinsey promptly pointed out that none of these pillars would stand without viable economy which was missing altogether from Saakashvili’s vision / plans for Georgia
5 Source: Department of Statistics
6 Source: Ministry of Finance of Georgia
7 Source: Department of Statistics
8 Source: Department of Statistics
9 Source: Department of Statistics
10 Source: Department of Statistics
11 National Bank of Georgia
12 National Bank of Georgia
13 Life in Transition, EBRD in collaboration with World Bank
14 This analysis is based on economic program from Saakashvili’s presidential campaign and promises made by the National Movement Party during the Parliamentary Elections in 2008
(This article, a commercial request,is published in exactly the form it was delivered to The Messenger)