Caspian Business Journal

Georgia’s Economic Liberty Act: Will it Promote Long-Term Growth?

Emerging market investors with an interest in Georgia had a timely gift this Christmas as parliament passed a major component of the much debated Economic Liberty Act, a slate of bold constitutional reforms that would place strong limitations on the state’s involvement in the economy [1]. Along with a host of other measures, the act would ban any increase in the number of licenses or regulatory boards, cap the debt to GDP ratio at 60%, limit the expenditure to GDP ratio at 30%, enforce a budget deficit ceiling of 3% of GDP (in line with European Union guidelines) and disallow tax increases except through referenda. It was this last item that saw passage on Christmas day in a standalone bill.

The proposed reforms go beyond just fiscal sobriety, however. In addition to the proposals  already noted, the act would leave the government unable to take ownership of banks or set prices of any kind. It guarantees the freedom of capital movement, and explicitly tethers social welfare to voucher or cash payment programs.
The act is meant to regenerate confidence in the Caucasian republic. By enshrining economically liberal policies in the country’s constitution, Georgia hopes to capture more foreign direct investment and return to pre-war levels of double digit growth, while keeping government adequately restrained.

The reform package could not come at a better time. Indicators suggest that Georgia’s economy may be on the rebound, thanks in part to a surprisingly resilient tourism sector [2], and rejuvenated levels of FDI are key to a return to growth. And as far as reforms go, the Economic Liberty Act is particularly well tailored to the needs and considerations of possible investors. After the proposal was introduced earlier this past fall, the act received key endorsements from representatives at the World Bank [3] and the International Monetary Fund [4].

Of course, not everyone has come out in support of the proposal and certain segments of the opposition have voiced their skepticism. Back in October 2009, Radio Free Europe/ Radio Liberty highlighted Deputy Parliament Speaker Levan Vephkhadze’s unease about the act’s apparent disconnect from the economic crisis.

This concern has also been raised by the Georgia Media Centre, an opposition website. In a brief commentary following the proposal’s rollout, the Georgia Media Centre pointed out that many of the steps that the country has taken in response to the economic crisis violate the letter of the act. In order to stay under the 3% budget deficit ceiling, the act would currently require “around another 500 million GEL to be cut from the budget in 2012″ [5]. The text of the draft law does, however, allow for a relaxation of some of the spending limitations during periods of recession or extenuating circumstances.

Stephen Mullin, senior vice president at Econsult Corporation and an expert in public finance, feels that the constraining nature of the Economic Liberty Act is a positive feature, not a bug. “It’s a very good thing,” said Mullin in a telephone interview. “Governments tend to mistakenly believe that they can solve all problems by throwing money at it.”

Mullin, who has also served as budget director for the American cities St. Louis and Philadelphia, sees a relationship between budget discipline and economic growth. “If there were stronger constraints on the expenditure side,” he explained, “both cities would have been absolutely better off.”

With predictions of a return to growth in 2010 and FDI back up, buoyed by the effects of the Economic Liberty Act, Georgia just may be able to find its way back on course to high economic growth. But will the Act ensure sustainable growth?

The rapid real estate development in Tbilisi and on the Black Sea coasts, fueled by massive investments from Gulf sovereign wealth funds, has inevitably led commentators to draw comparisons between Georgia and Dubai. But Dubai’s luster has been heavily tarnished by recent debt troubles, and Georgia will be keen to avoid an analogous fall from grace.

In many ways, the Economic Liberty Act emulates the same philosophy of buttressing investor confidence that Dubai engineered in its own bid to become the “next Singapore”. However, like Dubai, Georgia’s policies may be effective in attracting investment and stimulating development, but those policies represent only a portion of the equation for sustainable, dynamic growth for the long term. In Singapore’s case, transparency and the rule of law is observed fastidiously, something that was far less prioritized in Dubai and is seen by some to be of questionable concern for Georgia. Despite Georgia’s impressive gains since 2003, the country has languished in a mid-table spot in Transparency International’s annual reports, ranking 66th in 2009 while Singapore sat proudly in third place.

Even starker is the World Economic Forum’s Global Competitiveness Report, which evaluates qualitative economic criteria. In this, Singapore was also 3rd, but Georgia was ranked 90th. A telling difference was in education, which was one of the elements evaluated in the report. While Singapore’s education system is world class, Georgia’s continues to underperform despite repeated investments and reform programs.

The Economic Liberty Act does little to address these other issues and instead reforms more mechanical, topical items. While the case can be made that this is a key step in Georgia’s progress, there are still large gaps that remain, particularly with regard to the development of human capital. But if we look at what it is meant to do – to make Georgia a preserve of economic liberalism – the act rates well and will almost certainly be a boon to economic growth and development.

While economic liberty is not necessarily an economic development plan in itself, a string of strong endorsements should allow investors to look at the passage of the act as a positive step in Georgia’s economic development. And although the act may be criticized for failing to address a number of other glaring obstacles to Georgia’s long-term growth, this might be a commendable first step and a framework upon which more improvements may later be wrought.

Footnotes:

[1] http://www.caspibiz.com/2009/10/saakashvilis-economic-liberty-act-meets-mixed-response-in-tbilisi/

[2] http://www.caspibiz.com/register/?wlfrom=/2009/12/georgia%25E2%2580%2599s-hospitality-and-tourism-industry-is-it-delivering-on-its-potential/

[3] http://www.mof.ge/en/News/1747

[4] http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aXcUhNAqCN28

[5] http://georgiamediacentre.com/content/economic_liberty_act_delayed_still_points_huge_cuts