Georgia's Revolutions and Economic Development
By Eric Livny
The ISET Economist, a blog about economics in Georgia and the South Caucasus by the International School of Economics at TSU (ISET)
Having just celebrated its 25th anniversary as an independent state, Georgia remains in a state of revolutionary flux. Just like a box of chocolate, this beautiful country is full of contrasting flavors, never losing the ability to surprise and fascinate at every twist and turn of its history.
Most paradoxically, while Georgia’s unprecedented reforms have become an export commodity, many Georgian reformers and revolutionaries are wanted at home for abusing the power of their office. Georgia’s laws and institutions continue to be constantly remodeled: some new regulations are quickly and decisively introduced only to be patched or altogether reversed; having vanished in the recent past, many government agencies and regulations are resurrected under new names.
A major issue is strategic direction. Having signed the so-called Deep and Comprehensive Free Trade Area (DCFTA) agreement with the EU, Georgian policymakers are struggling to understand and deal with the “deep” and “comprehensive” impact this agreement will have on domestic producers and consumers. Moreover, while being firmly committed to the European path, Georgia is having a hard time adopting certain European values, sticking instead to centuries-old traditions, including nepotism and homophobia. Another concern is, of course, not to lose Russia and the vast Eurasian market in the course of “Euro-Atlantic integration”.
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Georgia’s modern day revolutions started on 9 April, 1989, when a peaceful pro-independence demonstration was forcefully broken by the Soviet army. What followed was utter chaos: civil conflict and ethnic strife, mafia wars, crime, corruption and an almost complete collapse of public infrastructure and services. Once the wealthiest and most privileged of USSR republics, a kind of Soviet Riviera, Georgia went into an economic and political freefall even before its declaration of independence on 9 April, 1991. In economic terms, Georgia dropped behind most other newly independent states (except, perhaps, war-torn and chronically poor Tajikistan). Moreover, given its initially favorable position, the depth of Georgia’s “transformational recession” involved a larger-than-elsewhere decline in wealth, income, health and quality of life for the vast majority of its population.
Georgian people reacted to the crisis with their feet: through mass emigration (mostly to Russia, but not only) and secession, threatening Georgia’s future as an independent state. As a result of ethnic clashes in Abkhazia and South Ossetia, Georgia has effectively lost control of about 20% of its territory. Until 2004, it had only limited control over Adjara. While no precise data are available for the early independence period due to the informal nature of Georgia’s criminalized economy, Georgia’s GDP is estimated to have shrunk to less than a 1/3 of its 1989 level. According to an IMF memorandum, “three years after independence, the country had suffered a severe decline in recorded output, totaling 35 percent in 1994 alone”.
The first signs of stability came with the end of the civil war in late 1993, after a series of agreements cemented Georgia’s relations with the West. By then, Georgia has acquired a new significance as a potential transit corridor – bypassing Russia and Iran – for the vast Caspian oil and gas resources. Consequently, Georgia received a warm embrace from the then new Clinton administration, paving the way for the signing of a Bilateral Investment Treaty in July 1995, and, ultimately, the construction of extensive oil and gas pipeline infrastructure across Georgia’s territories. Simultaneously, Georgia started ascending the list of US foreign aid recipients, with the World Bank and IMF providing additional support to ensure macroeconomic stability and facilitate structural reforms. Internal stability was greatly helped by the government’s success in accommodating or restraining organized crime after the second failed attempt at Eduard Shevardnadze’s life in August 1995, and his election as Georgian president in November of that year.
Georgia continued on a path of gradual economic recovery between 1995 and 2003. Real GDP per capita grew at rather impressive rates (from very low base) in 1996 and 1997: by 14.0% and 12.6% respectively (see World Bank Development Indicators). Georgia was hurt by Russia’s 1998 financial crisis, as reflected in lackluster economic growth performance in 1998-2000. However, economic growth picked up again in 2001-2003, with real GDP per capita increasing by a healthy 12.5% in 2003, the last year of Shevardnadze’s rule.
While these growth figures are evidence of Shevardnadze administration’s early successes in implementing economic consolidation and state-building measures, they only tell a part of the story. Though no longer at war with itself, Georgia has by and large remained a dysfunctional, failed state. In 2002, it ranked 85th in the Transparency International Corruption Perceptions Index for 102 countries. EBRD’s Business Environment and Enterprise Performance Survey, conducted in the same year, indicated that “although the business climate has been improving in some respects over time, bribery indicators are deteriorating and firms in Georgia perceive corruption as a bigger obstacle than elsewhere in the CIS.” Among factors inhibiting the business climate, the IMF lists “political fragmentation, a tradition of clan and family based loyalties, weaknesses in the legal and judicial systems, and a culture of non-payment that is considered as socially acceptable.”
Very importantly, whatever economic growth has been achieved in Shevardnadze’s times, it failed to trickle down. Adjusted for purchasing power parity, Georgia’s gross national income per capita in 2003 stood at $3,470. In comparison with other non-oil CIS, Georgia did better than Kyrgyzstan, Uzbekistan and Moldova ($1,840, 2,230, and 2,690, respectively), but worse than its immediate neighbor Armenia ($3,630), and much worse than Ukraine and Belarus ($5,160 and 7,380).
Moreover, the “median” Georgian, as opposed to the “average” Georgian, was much poorer in 2003 than suggested by the per capita income figures. Like any average indicator, the income per capita measure masks inequality in the distribution of income, and in 2003 Georgia was much less equal compared to all ex-Soviet peers (with the exception of Russia). In 2003, Georgia’s income inequality, as measured by the so-called GINI coefficient, stood at 39.5 points, well above its levels in all other CIS countries where GINI values ranged between 35.5 (Uzbekistan) and 28.7 (Ukraine).
With close to a half of Georgia’s population locked into subsistence agriculture, and another half operating largely in the shadow, the Shevardnadze government was barely able to cover its own operational costs, let alone offer an effective policy response to Georgia’s mounting poverty and inequality challenges. Assessing Georgia’s poverty situation in 2003, the IMF’s noted that “widespread poverty has been brought on by the dramatic drop in incomes … and the subsequent collapse in social services… Government has not provided an effective income redistribution mechanism and has failed to provide adequate social safety nets. This largely stems from low tax collections, which have led to accumulation of regressive wage, pension and social insurance arrears. Although public spending on health and education grew during the late 1990s, it remains 90% lower than in the pre-transition period (1% of GDP for health, and 2.2% for education in 2001). Also, demands for high informal payments further limit access to quality healthcare and education, while poor targeting of social spending and energy subsidy have compounded the problem.”
With hindsight, it appears that until 2003 Georgia had been trapped in a vicious circle of pretense that encompassed all aspects of citizen-state relations. Existing in name only, the “state” pretended to provide law & order, public infrastructure and utilities, insurance for health and old-age disability. Georgian “citizens” paid in kind – by pretending to contribute to health and social insurance, evading taxes and bribing off “public servants”.
The reality was that anyone living and trying to do business in Georgia had nobody to rely on other than themselves, informal social networks and the mafia. People did not pay taxes and did not expect to receive any government services in return. They learned to provide for all their needs, including security of own life and property, contract enforcement, health and education, heating and electricity.
Breaking out of this vicious circle required no less than another revolution in state affairs and in people’s minds (to be discussed on these pages next week).
