Evgeny Vinokurov, Director of the Center for Integration Studies of the Eurasian Development Bank: Customs Union is a useful and important tool. Up to Kyrgyzstan whether or not to take advantage of it

Evgeny Vinokurov, Director of the Center for Integration Studies of the Eurasian Development Bank, in an interview given to the newspaper «Evening Bishkek» answered all questions on the accession of Kyrgyzstan to the Customs Union.

«Economic Integration is a useful and important development tool, which the government can use in addressing structural problems of the national economy. Integration opens new vistas for economic development, but it is not manna from heaven that suddenly befalls you. It is nothing but an opportunity, a country, investors, businesses may or may not choose to take advantage of». Those were the words used in an interview to the «Evening Bishkek» Online Editorial Office by Evgeny Vinokurov, Director of the Center for Integration Studies of the Eurasian Development Bank, to describe the current status of the proposed accession of Kyrgyzstan to the Customs Union of Kazakhstan, Russia and Belarus.

Our vis-a-vis, who is now estimating economic impacts of the accession process, also spoke about the potential economic changes in Kyrgyzstan, the integration processes in the former Soviet space, about relations between the Customs Union, WTO and China, as well as transformation of the Customs Union into a Eurasian economic union and a possible crisis similar to the current one in the European Union.

— Let’s start with your comments on integration processes in the former Soviet Union. What are the advantages of communities such as EurAsEc, Customs Union and Eurasian Economic Union?

— Primarily, I would like to define my terms of reference. I am Director of the Center for Integration Studies and I am not in charge of an integration promotion campaign. My Center is responsible for data processing, i.e. working with numbers, potential economic and social impact assessments, scenarios, approaches. The concept of economic integration is over-politicized and replete with emotional content, but lacks in technical analysis supported by numbers. Filling this gap with economic assessment components is precisely the task of our Center established last year by the Eurasian Development Bank.

It should be clarified from the very outset that economic integration is not a panacea for all woes, or that the moment Kyrgyzstan joins the Customs Union, everything will be great. That’s not enough.

Economic integration is a tool: an important, useful and interesting tool for economic development and stability. As I see it, economic integration, above all, boils down to establishing by the member-countries long-term rules of the game in the economy, achievement of economies of scale and thereby laying the foundation to ensure sustainable development.

It is especially relevant for Kyrgyzstan now, i.e. laying the foundation for a long-term growth, and implies extending the planning horizon beyond 2—3 months,which is now common practice for most companies, up to several years.

— What is the current progress of Kyrgyzstan toward accession to the Customs Union?

— Last year we made a study of Kyrgyzstan’s accession to the Customs Union. In the past year, a working group was set up, composed of Kyrgyzstan and the member-countries of the Customs Union. The republic is expected to sign almost 150 various documents. Such an amount of work, even technically, will require up to 2 years. Just can’t take less than that. And about 50 more documents of the Eurasian Economic Space are in the pipeline. It’s good that Kyrgyzstan has joined in the process early enough.

— You mentioned that the Commission was working on technical details of the accession process. Our Ministry of Economic Development and Trade says no work is being carried out. Can you clarify, whether or not any work is underway?

— The Commission was officially established on February 1, 2012. It is currently hiring staff and working on acquiring a building. It looks very likely, that much of 2012 will be devoted to dealing with technical staff-related issues in order to enable people to get down to work in full scope. The Working Group was set up last October and specific professionals from Bishkek, Moscow and Minsk have been identified to fill in the job positions.

— What changes do you expect in Kyrgyzstan once it joins the Customs Union?

— It should be understood clearly from the very beginning, that the proposed integration within the Customs Union and Common Economic Space is much more than just consolidation and diversification of customs tariffs. It also ensures protection of investments, and addresses the extremely important issue of labor migration, which contributes to the formation of the Kyrgyz GDP by channeling money orders, and accounts for approximately 1/3 of it.

Among the CES documents there are agreements dealing specifically with labor migration. One of them grants member-countries the authority to exercise theso-called «supra-national regime» which entitles them to allow migrants to work without any quotas or licenses under an employment contract. They are also eligible for certain elements of social protection, and their children may go to schools and kindergartens.

In our opinion, the benefits accruing from this agreement for Kyrgyzstan, once it joins the Customs Union, will be significant. It will allow illegal migrant workers in Russia and Kazakhstan to step out of shadows, and will contribute to reducing the «corruption tax» burden. People will feel better. The volume of money orders will grow.

With regard to potential trade implications, the situation is more complicated. The Common Customs Tariff (CCT) of the Customs Union countries now averages 10.5%. After Russia’s accession to WTO it will be reduced to the average of 7.8%. The average customs tariff in Kyrgyzstan is equal to 5.1%. Under the agreement upon accession to WTO Kyrgyzstan will be entitled to raise it to the level of 7.7%. This enabling provision is embodied in the WTO accession agreements.

— How would you comment on the customs tariffs?

— This summer Russia will join WTO, and Kazakhstan is coming in next. Russia has negotiated the customs tariff with WTO and agreed on the average of 7.8%. Please note that a possible increase of the average tariff for Kyrgyzstan and the reduced common customs tariff of the Customs Union are practically equal. This greatly facilitates addressing questions on Kyrgyzstan, Customs Union and WTO.

It is very likely that we may be required to follow through the so-calledadjustment procedures for compliance with WTO standards, and our country will have to sit down and re-negotiate its tariff positions. But it looks like this issue can be solved much easier than it seems at first glance, because now the Customs Union’s single customs tariff is being reduced.

Next the following question arises: «Why should Kyrgyzstan want to join the Customs Union?» The answer is: primarily to lay the groundwork for its long-term growth. What catches your eye looking at the latest statistics on Kyrgyzstan, is its growth indicators in 2011, which were almost entirely accounted for by domestic consumption and public expenditures. And the private sector is not investing today, and is not a driver of growth of the Kyrgyz economy.

Why not? Because private businesses do not have a sense of security, they do not make long-term investments, and run their operations in a «buy-and-sell» mode. They procure money, purchase something, sell it in 2 months, clear their deals, repay debts and carry on.

Last year, lending transactions in the banking sector of Kyrgyzstan grew by 20% in national currency and by 17% in foreign currency. All sectors showed an increase in lending, except one: construction. It registered a slump, which should be indicative of only one thing, i.e. private businesses do not work for the long-term. They are not sure about their future. Joining the Customs Union might well provide an «anchor», i.e. the long-term rules of the game, and ensure protection for investments of all investors.

— Does WTO need cash compensations?

— It is estimated by our experts that we can talk about compensations ranging within $40 to $180 million due from Kyrgyzstan. But there are a number of nuances to consider. Look, it’s not Kyrgyzstan, a small trading partner with a population of 5 mln and a $5 billion-worth GDP that will sit down at a negotiating table, but rather the Customs Union with an aggregate GDP worth 2 trillion with a vast trading market. The weight is bigger, and the negotiating power is also stronger.

Such a trading partner has a better negotiating position for WTO, and the pressure he exerts can be stronger. He can say «I will have it this way only». You can negotiate from a position of strength. Next, the following technical arrangement may be possible: the Customs Union with its single customs tariff makes certain concessions to WTO. The Customs Union will say: «Kyrgyzstan is our member-country, which for certain positions increases its customs tariffs, but we, as a union, are forthcoming to you on other positions». And the negotiations will no longer center on the customs tariff of Kyrgyzstan, but on individual positions and sub-positions of the customs tariff of a large union.

— Is money on the agenda?

— This is a theoretical aspect of the issue. WTO is a trade club; it is not a law-making organization. Countries get together and start negotiating customs tariffs. Since Kyrgyzstan is increasing its tariffs, WTO will claim cash compensations. However, the Customs Union will say: «Why don’t we take into consideration that the tariffs of the Customs Union will be slightly reduced. What product groups are you interested in? Chicken meat? OK, let’s discuss and we may reduce it a little.» And so on.

The negotiations will no longer focus on Kyrgyzstan, but on the entire Customs Union. Technical and commercial negotiations will be going on for several months, and then the parties will reach agreement on all aspects to mutual satisfaction. Of course, in actual circumstances no one would accept a solution whereby Kyrgyzstan will have to pay compensation.

— What inflation impact is expected from Kyrgyzstan’s accession to the Customs Union?

— Inflation issues are normally invoked as part of arguments against joining the Customs Union by Kyrgyzstan. I’ve heard numbers ranging from 10% to 100%. I strongly disagree with these projections. According to our estimates, the increase will not exceed 3%. But it is a price we will have to pay for joining the Customs Union. Of course, it’s not negligible, but it is not 10, 20, or 50%, as they say.

— Half of our economy is dependent on re-exports of goods coming from China. How will the expected reduction or even cessation of commercial flows from China affect the economy?

— This one is, probably, the key issue, but it should not be linked with the proposed accession of Kyrgyzstan to the Customs Union. Overtime, the re-exportregime is bound to transform one way or another, and that is the problem. It will simply be impossible to keep it up for a long time.

Now virtually duty-free merchandise is imported from China to Kyrgyzstan and across the Bishkek marketplace it is transshipped to Central Asia and Russia, also duty-free. Such a regime of customs transit is not acceptable for Kazakhstan and Russia.

In fact, we have a customs gap within the Customs Union. Can this regime remain operational for long years to come? I doubt it. Sooner or later we will need to change it. And we will face two scenarios: An effective customs control system will be put in place either on the Kyrgyz-Chinese border, or on the Kyrgyz-Kazakh border.

There is no easy solution to the problem. However, within the Customs Union it will be dealt with in a more civilized way through restructuring the Kyrgyz economy, as well as by offering grace periods and concessions initiated by the Customs Union. Let’s assume textiles and accessories are imported from China to Kyrgyzstan. And what if on the basis of large investments and an MFN status in member-countries of the Custom Union a competitive textiles production sector is organized, and the republic begins to export finished products?

For this purpose we can discuss a possibility of agreeing within the Customs Union on grace periods for a number of sensitive positions. Such precedents are already available. When the Customs Union was established in 2010 it was agreed to grant grace periods to all member-countries of the Customs Union for a number of goods for up to three years. This issue can be put on the agenda of negotiations with prospective business partners.

— It is believed in Kyrgyzstan that if the republic joins the Customs Union, Russian and Kazakh companies would be encouraged to open production facilities in Kyrgyzstan because of cheap labor and low cost of power supply. How would you comment on such a development scheme?

— The investment attractiveness of Kyrgyzstan should dramatically increase. Kyrgyzstan has two important drivers enhancing its international competitiveness, but they are currently underutilized. Primarily, cheap labor resources would enable potential development of labor-intensive production capacity, e.g. in the farming and textile sectors.

Secondly, the potentially huge reserves of unused energy. It is possible to develop hydraulic power plants and use them to build energy- and capital-intensive mining and mineral extraction facilities.

Yes, there is a need for Russian and Kazakh investors to move in. Not only from CIS countries. I emphasize, foreign investors are also welcome, for example, from China and EU. Companies that are not interested to work on a market for five million people may be more motivated to go for a prospective common market of the Customs Union.

Tremendous opportunities emerging in the agro-industrial sector are especially attractive. Kyrgyzstan is now a net importer of food, whereas it has all the comparative and competitive advantages to be a major exporter.

— Are there any guarantees that Kyrgyzstan will really accommodate production facilities?

— Before the republic joins the Customs Union, there is a need to agree upon a set of specific arrangements. For example, budget support measures may be negotiated to enable Russia and Kazakhstan to provide such support to Kyrgyzstan for the period of transition. Next, a set of target investment agreements may be entered into, and as part of the accession agreement specific memoranda and arrangements will be agreed upon to launch large-scale target investments into the Kyrgyz economy, i.e. hydraulic power generation, mining industry, etc.

Thereafter large companies will follow suit. They will examine funding opportunities. However, at this point no commitments should be expected from these companies. Business as usual. The eventual improvement of the business climate in Kyrgyzstan should have a positive impact on their investment decisions. The Kyrgyz economy has several major advantages. If investment attractiveness is added on top of them, as well as the availability of long-term rules of the game, investors will come in.

— Let’s assume that we have joined the Customs Union, but business is not coming «on-stream», and re-export of goods has stopped. What comes next?

— Integration is not a panacea for all woes, and no guarantees should be expected from anybody. Permanent long-term efforts will be required as part of government national policy-making.

— How important is the role of the Kyrgyz government in this context?

— It is central. Outsiders cannot solve the problems of domestic economy and politics.

— Can we say that everything in this area is determined by the government?

— You can say that economic integration is a useful and important development tool, which the government can use in addressing structural problems of the national economy. Integration opens new vistas for economic development, but it is not manna from heaven that suddenly befalls you. It is nothing but an opportunity, a country, investors, businesses may or may not choose to take advantage of.

— What is the distribution pattern for import duties among the Customs Union member-countries, and what is the share of Kyrgyzstan? What is the difference between this amount and the current indicators of income derived from customs revenues?

— Currently, all customs duties are channeled into the common «pot» of the three countries participating in the integration scheme, and they are distributed based on an agreed rule, which is reviewed from time to time.

According to the estimates of our experts, Kyrgyzstan may claim a share of 0.62 to 0.73% of collected Customs Union duties, which should be amount to about $140 million a year. At present, customs duties collected in Kyrgyzstan, are equal to about $100 million per year.

— According to some, the Customs Union may no longer be relevant given that Russia and Kazakhstan are joining WTO. Can you comment, please?

— These processes are complementary. They should not be regarded as incompatible with each other. Regional integration does not rule out global integration and vice versa. At WTO countries, primarily, make commitments in respect of tariff protection and certain non-tariff measures.

If countries wish so, they can effectively protect their markets by imposing quotas, licensing or phyto-sanitary requirements, anti-dumping measures. This is what actually happens in real world. It is more complicated to undertake such actions within the Customs Union.

The philosophy of the Customs Union is based on a real single market, which we now witness evolving and building up its volumes of trade between the member-countries. It grew by 40% last year. The collisions that occur within the Customs Union are a clear indication that the single market is up and running. For example, a number of Russian companies have started to register their business operations in Kazakhstan. It is not a massive movement yet, but there are some very representative examples. People are beginning to feel uneasy. Fish looks for deeper waters, and business moves to where the investment climate is better.

Incidentally, Kyrgyzstan will offer substantial advantages. Taxation rates are lower. VAT, in particular, is lower than in Russia. Taxes are not coordinated by the Customs Union.

— According to an established view in Kyrgyzstan the Customs Union is a geopolitical alliance against China...

— China is a single most important partner of all EurAsEC and CIS countries. We are successfully cooperating under the auspices of SCO.

So any reference to an alliance against China is out of the question, but we must be aware that China is consistently and skillfully pursuing its long-term foreign economic policy objectives. Its economic expansion is carried out successfully, persistently and very professionally, which only inspires our admiration.

However, it is not always in line with our long-term interests. The economic cooperation with China should be calculated with due consideration of its long-term implications.

— Kyrgyzstan is more focused on liberalization of its economy and the Customs Union member-countries on the contrary on protecting their markets. Which path should Kyrgyzstan choose in your opinion?

— I guess, it should be the golden mean. The choice Kyrgyzstan made in 1998 to be one of the first of the CIS countries to join WTO was based on the premise whereby a small economy should be fully open to foreign markets and everything would then be fine. This concept has failed.

The economy opened up, production collapsed, and investors did not show up. Why not? Because they are not interested! The domestic market is small, the country is not wealthy. And working for foreign markets here is not easy.

Now we are coming to an interesting question, i.e. how to optimize a combination of global integration into WTO, liberalization of the economy and accession to a regional alliance. In the theory of international trade there is a term «anchor», which is equivalent to a support foothold. Small economies are in need of a solid regional anchor. It perfectly complements liberalization and global integration. Chinese investors would also benefit from coming to Kyrgyzstan with large investments with a view to working not with the small market of Kyrgyzstan, but with the market of the Customs Union which is worth two trillion.

— In 2015 we will be establishing the Eurasian Economic Union. Can you draw a comparison with the European Union and won’t we be faced with problems similar to those we observe in Europe today?

— There is a cliché, deeply wired into our integration DNA, which is that we should follow the EU experience in all aspects. For 20 years our integration thinking evolved along the EU lines. Meanwhile, our integration is different in its essence.

The EU is based on unification of independent states. Three dozens of European countries are transformed into a quasi-state. We proceed from a totally different perspective. 20 years ago were a single state with a common economy. And we are witnessing now how important is «protection» of the common economy of the Soviet Union for the currently operational infrastructure and links between production companies.

For example, Europeans have just started to address issues of large-scale migration and its regulation, whereas our labor migration has become the primary component of the post-Soviet integration.

Next comes the question whether or not there will be a repetition of the European crisis in Eurasia. In this regard, the European Union has provided a good lesson to us on what not to do, in particular, in the area of monetary integration.

Effective from January 1, the CES countries agreed upon three similar criteria: on public debt, budget deficit and inflation issues. Now we need to work out tools to make sure the above criteria are followed. This objective should be achieved within the next two to three years prior to establishing the Eurasian Economic Union, and only thereafter all pros and cons of a single currency should be carefully analyzed and calculated. We at the EDB Center for Integration Studies have done the necessary estimates as part of a large project of assessment of the Customs Union’s efficiency, and the results we came up with were ambivalent.

If we rush into establishing a single currency, we are running the risk of breaking down the fabric of the common economic space. In any case, this is not an issue to address in the nearest future.

— How can we expedite the accession of Kyrgyzstan to the Customs Union?

— There is a need for a firm political will on both sides, systematic «boring» technical work, mostly invisible to the media (not that it should be visible though). This work is not done by the ministries, but by relevant experts and heads of departments, which are responsible for coordinating all customs tariffs and dozens of specific agreements.