The weak lari hold back private consumption

The economy contracted sharply in 2020 due to the pandemic-driven collapse in tourism. Nevertheless, despite rising case numbers, the government has been reluctant to close businesses to keep the economy afloat. The recovery that began in 2021 was fuelled by the services sector (70% of GDP), including retail sales, accommodation, restaurants, arts, and entertainment. This trend will continue in 2022, despite the dissipation of the positive base effect. Private consumption (75% of GDP) will remain the main driver, supported by expatriate remittances (estimated at 11% of GDP in 2021). Tourism activity will remain constrained and is unlikely to return to its 2019 level. On 15 March, the government began its vaccination program, but progress could be faster: as of 11 January 2022, 25.5% of the population was fully vaccinated.

Exports (copper ore, wine, mineral water) will be held back somewhat by slower growth in China and Russia, two of Georgia’s largest trading partners. Moreover, with the recovery of imports driven by rising domestic demand, foreign trade (-13% of GDP) will continue to contribute negatively to growth. On the back of a rapid recovery in the domestic market, high oil and food prices and a weak lari pushed average inflation to high levels, exceeding the 3% target. In response, the National Bank of Georgia (NBG) hiked its policy rate by 100 basis points to 10.5% at the end of 2021. In 2022, the absence of base effects and tighter monetary policy will bring inflation closer to the target. Given Georgia’s small and open economy, the current account situation determines the lari exchange rate. Accordingly, an improvement in the existing account in 2022 will stabilize the exchange rate. However, the weak exchange rate makes imports expensive, eroding household purchasing power. Moreover, since the Georgian economy is heavily dollarized, lari depreciation to 2020 severely impacted households that had borrowed in foreign currency.

Progressive consolidation of the public accounts

The revised budget for 2022 contains higher projections for both revenues and expenditures. The increase in revenue (26% of GDP) will come from enhanced taxation. Tax on profits is projected to increase by 65% over 2021. Property and income tax revenues are expected to increase by 9.5% and 26%, respectively. On the expenditure side (30.2% of GDP), most of the increase will go to civil servants’ salaries and capital investment spending on infrastructure, education, health, and pensions. However, total spending is expected to decline slightly, as lower pandemic-related costs and borrowing will offset it. Public debt (52% of GDP, 80% external), heavily denominated in foreign currency (42%), is vulnerable to changes in the health situation and political tensions, which could sap investor confidence and weaken the lari. However, the government is committed to fiscal consolidation, which makes the debt sustainable. The current account deficit is driven by the trade deficit and the primary deficit (fuelled by income repatriation by foreign investors), which are partially offset by remittances and transfers from expatriates residing mainly in Russia and Italy. The current account deficit is expected to decline in 2022, thanks in part to a recovery in tourism. This will be partially offset by an increase in the average oil price, as Georgia is an energy-importing country. The deficit will continue to be financed mainly by medium and long-term borrowing and by FDI inflows (5% of GDP in 2021, with a rising trend in the energy and transport sectors), allowing foreign exchange reserves to remain stable (five months of imports). External debt (92% of GDP in 2022, excluding intra-group loans), including the public share (46% of the total), is held mainly by multilateral donors (75%), such as the World Bank, the ADB, the EIB, and the IMF, on concessional terms, ensuring sustainability.

A former president’s return heightens political tensions

The October 2020 parliamentary elections saw the party’s victory in power since 2012, the Georgian Dream-Democratic Georgia Party (GD-DG, 48% of the vote), followed by the former majority party, the United National Movement (UNM, 27%). The GD-DG won 60% of the seats, compared with 75% in 2016, allowing it to form a government independently. The opposition staged demonstrations after the results, refused to enter parliament, and denounced vote buying. In April 2021, an EU-brokered agreement was reached to end the opposition boycott and allow it to return to parliament. Ultimately challenged by the GD-DG and the UNM, the agreement stipulated that if the ruling party received less than 43% of the vote in the next local elections, parliamentary elections would be held in 2022. On 1 October 2021, the authorities arrested former president Mikheil Saakashvili (2004-2013) on his return from Ukraine. His arrest was expected, and his return was probably planned to coincide with the local elections to bolster support for the UNM, of which he is the honorary president. Although Mr. Saakashvili still has many supporters, the GD-DG came out on top during the local elections in October 2021, winning 19 out of 20 municipalities. However, early elections in 2022 (instead of in 2024 as scheduled) are likely if there is growing public dissatisfaction with the GD-DG.