Report No. 32346-BY Belarus Window of Opportunity to Enhance Competitiveness and Sustain Economic Growth A Country Economic Memorandum for the Republic of Belarus (In TwoVolumes)Volume II: Executive Summary November 8, 2005 Poverty Reduction and Economic Management Unit Europe and Central Asia Region Document of the World Bank EXECUTIVESUMMARY 1. This Country EconomicMemorandum(CEM) for the Republic ofBelarustakes stockofthe growth trends inthe country's economy since 1996, reviewsthe evidence of the accumulatedchallenges andrisks within the existing growth patterns, and provides recommendations aimed at strengthening growth sustainability.Insum, while economic growth inthe last nine years has been impressive, the report argues that maintaining the current growth strategy would leadto a gradual erosion of economic competitiveness. The government should make significant policy adjustments by reorienting its policies toward ensuring a betterbusinessenvironmentandasmaller sizeofgovernment. 2. The current international and domestic environment is favorable for supporting a policy shift toward the acceleration of structural reforms. At the moment, the government i s well equipped to mitigate the potential costs of these reforms because the policy settings are largely determinedby the growing economy, the positive trends in both the enterprise and the household sectors, favorable developments in the global economy, low debt, and the strong administrative capacity of the state. This situation could change: various pressures might become stronger, and then the same reforms would become politically more costly and fiscally more risky. In short, the current window of . opportunity should be used to ensure that the authorities' growth and poverty objectives are sustainable inthe medium to longterms. SUMMARY OF GROWTHAND REFORMPROGRESS 3. The Belarusian economy has experienced steady and sizable growth since 1906. In 1996-2004 overall GDP growth averaged 6.6 percent per annum or 77.4 percent cumulatively. It has been driven primarily by improvements inlabor productivity and increases in both energy efficiency and.capacity utilization. Fiscal and external adjustments were significant and helped to enhance the macroeconomic conditions for growth. 4. Economic growth has been fairly broad-based. In contrast to some other CIS countries, the patterns ofgrowth inBelarushavebeenmuchmorebeneficial for labor. Stronggrowthinthe labor-intensive sectors (suchas services, food processingandmachinery), backedby governmentwage andincomepolicies, helpedto ensurethat the benefitsfromrecentgrowthwere broadly sharedbythepopulation.Growth inlabor earnings amounted to about 53 percent of total GDP growth over 1996-2003. Poverty rates declined definition) was more than halved -- from 38.6 percent of the population in 1996 to 17.8 percent in2004, substantially, while inequality remained rather stable and moderate. The poverty headcount ratio (national whichmeantthat about2 millionpeoplemovedout ofpoverty(Figure El). Figure El: Steady Growth HasDriven PovertyReduction, 1996-2004 (GDPgrowthindexandpovertyheadcountrates) +GDP growth Index, 1995-100 1996 1997 1998 1999 2000 2001 2002 2003 2004 Note: The povertyheadcountratio is defined as the percentageofthe populationbelowthe nationalpoverty line. Source: MSA. 2 5. Since 2000, the government'spolicieshavegradually beenadjustedanddistortions have been reduced. Despite various remaining problems, the latest growth episode has been based on improved incentives for investment and restructuring at the enterprise level. The main directions of improvement undertaken during this period were as follows: 0 Improved macro policies, such as a unified exchange rate, stricter monetary policy, considerable fiscal and quasi-fiscal adjustment, and lower inflation 0 An energy and utility policy aimed at full-cost recovery in tariffs, strict payment discipline, and advancementsinenergy efficiency 0 The phasing out of barter, which inter alia helpedto accelerate export diversification out of the Russianmarket. 6. At the same time, since the late 1990s, Belarus has succeeded in sustaining and even improving the performance of its energy sector. This was an important factor in advancing macroeconomic stabilization. The investmentsin the sector were sufficient to maintain sector assets in a satisfactory condition and carry out modernization projects, which contributed to improved energy efficiency. The incidence of bothquasi-fiscal subsidies and deficit declined, and this improved the financial viability of energy companies. Moreover, the centralized sector structure and the preservation of the command and control governance mechanisms helped the sector to survive the economic crises that affected many FSU countries and their respective energy sectors in the second halfo f the 1990s. 7. This growth has taken place despite uneven macroeconomic progress and the slow and inconsistent progress in structural reforms. Belarus has managed to maintain moderate budget deficits and debt levels. However, inflation has remained significantly higher than in other transition economies. The current account position i s still precarious, given the low level o f reserves, the inability to attract a sizable amount o f FDI, and the limitedaccess to international financing. Overall, there are serious macroeconomic risks associated with continuing the current growth strategy, especially inrelation to its balance of payments situation and export concentration (Box El). Belarus lags behindmost o f the transition economies in various aspects of post-socialist transformation. The government reacted to the economic declines o f the early transition by introducing policies aimed at strengthening its role in the economy. According to the EBRD, Belarus showed the least amount o f progress among all transition economies in such reform areas as enterprise restructuring, large-scale privatization, and infrastructure reform. For example, in a number o f fundamental dimensions o f reform in the energy sector Belarus lags behind almost all of the other FSU countries, which have recently moved more decisively toward private sector involvement inthe energy sector, and have also enhancedtheir institutional framework to make it more transparent and accountable. 8. These developments leave the Belarus experience somewhat at odds with the standard transitionparadigm, and the relative stability ofthe Belarusianeconomy hasbeen called a "puzzle." In contrast to the situation in other better performing transition economies, nine years of growth in Belarus have not been backed by sound and consistent macroeconomic policies, advanced structural and institutional reforms, and a thriving private sector. In fact, the Belarusian economy now has a number of features that make it very different frommost transition economies. These include: (i) the dominance of traditional firms (state-owned or quasi-private) inproduction and exports; (ii) highthe degree of government intervention in enterprise operations (covering both SOEs and privatized firms), includingthe preservation of some elements o f central government planning o f output, wages, and employment; (iii) the high level of the tax burden and the major budget redistribution of funds 3 aimed at supporting traditional firms and employment; and (iv) the high dependence on trade with Russia and the slow pace o fthe geographic diversificationo f exports. ~~~ ~ Box El: MainMacroeconomicRisks of the Current GrowthStrategy Low internationalreserves (0.6 months o f imports) inthe context o f no access to international capital markets poses the risk o f a disorderly balance o f payments adjustment (through either the depreciation or rationing o f imports, or both) andpotentially significant output costs. High dependenceof non-oil product exports on a single and unstable export market such as Russia that accounts for about half of total exports. To date, Belarusian enterprises have demonstrated only a limited capacity for export diverpification. Highconcentrationof the economy further aggravates the above-mentioned risks. Both budget revenues and foreign exchange proceeds depend too much on the operations of a limitednumber o f exporters, which in turn depend excessively on the business conditionsinthe one external market. The 100largest taxpayers contributed about 30 percent o f total tax proceeds. Large size of the government.The tax burden(about 45 percent o f GDP'in2003) is substantially higher than in neighboring countries. This puts Belarusian producers at a competitive disadvantage. At the same, an important part o f the Belarusiangrowth success derives fiom the government's capacity to support expansion in domestic demand through budget instruments. Vulnerabilities in the banking sector largely relate to the high incidence of directed lending (about a quarter o f all commercial credit). Any erosion inthe competitiveness o f the real sector would lead to a rapid worsening inthe shareofnon-performing loans, whichwouldrequiregovernment interventionstopropupthebanks. . Developments in the pension system represent a major fiscal risk. The combination of demographic trends and government social policies'generates significant fiscal pressures on the country's pension system, which i s not capable o f supporting this level o f benefits inthe future. The costs of adjustment to future higher prices of Russian energy will be considerable. When measured against actual 2003 energy imports, they exceeded 6 percent o f GDP a year. GROWTHDRIVERS 9. The growth analysis reveals two specific time intervals during which the Belarusian economy has relied on quite different growth models. The first growth phase (1996-2000) is explained largely by the simultaneous effect of two groups of factors: (i) political re-integration active with Russia, which resulted inimprovedmarket access; and (ii) government policies that, through the real depreciation o f the rube1 and an expansion in'the interest rate and other implicit subsidies, provided sizable net benefits for many leading exporters. The second growth phase (2000-04) has been driven by (i) a drastically improved external environment; (ii)strengthened domestic demand; a and (iii) the improved financial performance o f domestic enterprises. TheJirst growth phase: 1996-2000 10. The policy of re-integration with Russia was critical for the growth in the first phase. Thanks to special relations with Russia, at the height o f the output crisis inthe CIS, Belarus was far better able to preserve its production capacity in manufacturing than any other CIS country (Russia included). The Union Treaty has already yielded important arrangements fostering mutual trade by, most important, setting up a functioning Customs Union that led practically to the abolishing o f the mutual customs border. At the same time, the excessive export concentration on Russia reflects the 4 duality of Belarus' export capabilities - a considerable part of what i s exported to Russia cannot be sold inother markets. 11. While the governmentpolicyinthe late 1990swas destabilizing,it createda considerable (albeit artificial and temporary) price advantage for Belarusian'producers relative to those in Russia (Figure E2). This price advantage appears to be fundamental to explaining Belarusian growth at that time. For the period 1996-99, the averageprice ratio for Belarusian and Russianmarkets was at about 60 percent of its level in both 1995 and 2000. However, this price advantage has been mostly driven by wage, not productivity, differences. 12. The priceadvantage helped secure a considerableshare of the large Russianmarket and thus established a first-mover competitive advantage for Belarusian exporters. When Russia started to grow after the 1998 crisis, the Belarusianindustry was well positioned to benefit from this growth. In the environment o f the growing Russian market, it was easier (relative to exporters from other countries) for established Belarusian exporters to expand export volumes, primarily by improving capacity utilization. Inother words, the scale of cost and market advantages accumulated before 2000 was sufficiently large to support further export growth to Russia in2000-04. FigureE2: Significant Price Advantage of Belarusover Russia,1995-2004 (Annualaveragerelativeprices and wages, Russia= 100%) =Belarus/Russ wage ratio --tBelarudRuss CPIratio 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Source: Gotovskyand Zheltkov (2004). 13. The effect of the above factors was significant largely because o f the low capacity utilization in 1995.Inthe years ofearly growth, the averagecapacity utilization inindustrygrewrapidly, from 37 percent in 1995to 53 percent in 1999. Thesecondgrowthphase: 2001-04 14. During the more recent growth episode, the role of the initial growth drivers (privileged access to the Russian market, temporary cost advantages, and subsidies to exporters) has gradually been declining. However, new factors have emerged that have helped sustain grodh, including the following: 5 0 A drasticallyimprovedexternal environment. This reflects primarily the rise in oil prices, which benefited Belarus directly (expansion in oil processing exports) and especially indirectly - accelerating Russian growth and Russian demand. This improvement also includes a number o f secondary factors such as improved external prices for metals and fertilizers (both relatively important export items for Belarus) and the raising of the volume of Russian remittances. While recent economic growth in Belarus has been strong, it is worth noting that it i s not extraordinary by regional standards. Infact, during the period 2001-04 the CIS as a group showed a stronger performance than Belarus, and the difference in growth rates between Belarus and Central European countries decreased (Figure E3). 0 A strengtheningof the domestic demand. The government budget and wage policies, based on excessive government involvement in the economy, became an important source o f steadily rising domestic demand. Moreover, the existing trade regime helped to limit growth inconsumer importsand to ensure that domestic producers, especially inthe consumer sector, became the mainbeneficiaries o f the growth indomestic demand. The improvedperformanceof domestic enterprises in selectedsectors, which was driven by competitive pressures in external markets and was facilitated by a certain amount of domestic macroeconomic stabilization and some strengthening o f budget constraints. With all caveats, the Belarus industrial sector was able to generate significant growth in both productivity and exports. Figure E3: GDP Growth and Inflation inVarious Transition Economies, 1996-2004 Period Averages (%) Average annual GDP growth Average annual inflation ...-.... ... -_ .... ........ -.....- .. III UCEEBS 'I ........................................... mLlthuonia 0Poland ECIS FJRuasln 2001.2004 BUkraine ................................ ................. HBelarus . . . . . . . . .......... Source: World Bank ECA Regional Database. 15. The Belarusian puzzle, it seems, has a conventionaleconomic explanation Belarus had, -- and still has, significant comparative advantages inits main export market, which i s Russia. However, this poses a question that is central to this report: how stable are these advantages and how highi s the riskthat they may be erodedquickly? 16, While recent economic growthhas been strong, there are a number of indications that the existing growth model has reached its limitations and cannot ensure growth sustainability . without reform. These indications relate to chronic weaknesses in financial and investment 6 performance, the depressedlevel of new business entry, and especially the slow changes in Belarus' export patterns. The low dynamism o f the country's exports representsthe essence o f the competitive challenges that Belarus i s facing. ANALYSISOFENTERPRISEPERFORMANCE 17. This report analyzes the Belarusian growth performance along three dimensions: (i) productivity trends, (ii)export dynamism, and (iii) enterprise restructuring in both industry and 'agriculture. Because of its industrial structure, trends in manufacturing competitiveness are critical determinants of the overall economic performance in Belams. In a small open economy growth cannot be sustainable without strong and diversified export capabilities within an enterprise sector that i s fully restructured to responseproperly to market signals. ' Trends in industrialproductivity and competitiveness 18. There havebeenfour broadtrends inindustrial productivity during 1996-2003, 19. First, Belarusianindustry demonstrated a significant, steady, and broad improvement in productivity. Labor productivity practically doubled during the period. All output growth in the sector derived from productivity improvements. The sub-sectors that faced the strongest external competition (machinery, construction materials, and apparel) became the leaders in productivity improvements in 1999-2003, They over-performed compared to the sectors that were more resource dependent (such as fuel, chemicals, and metals). Inresponse to competitive pressures, the average restructuring effort withinthe Belarusian industryincreased. 20. Labor productivity improvements were supported by labor markets. Despite the remaining administrative interference in enterprises' employment and wage decisions, there has been considerable room inthe economy for labor mobility inresponseto market signals. Labor movement has generally moved from less productive to more productive sub-sectors, while the wage differential has been broadly consistent with the differences in sector productivity. There was also. a major employment shift from agriculture to services, construction, and transport. Such employment restructuring had positive longer-term growth and poverty implications, since agriculture in the CIS tends to be a low-productivity, low-wage sector with large hidden unemployment. Since 1990, total employment inagriculture and forestry has declinedby40 percent. 21, Second, the competitive advantage of Belarus is being eroded by high wage growth. Average unit labor costs (ULC) grew strongly in 1999-2001, driven by both a policy o f accelerated real wage growth and real currency appreciation, and remained broadly unchanged in 2001-03. Competitiveness would have eroded even further had it not been for the recent high productivity growth, which since 2001 has largely offset wage increases. When compared to 1997, relative labor costs in Belarusian industry in 2003 were at least 20 percent higher than in Russia (Figure E4). The deterioration of competitiveness relative to Russian producers was most noticeable in the food processing and construction materials sub-sectors. In fact, the actual deterioration o f Belarus' competitive position has been even more significant if the recent substantial reduction in average payrolltaxation rates inRussia i s taken into account. 7 FigureE4: GrowthinUnitLaborCostsIndicatesErosioninCompetitiveness,1995-2003 Developmentsin unit labor costs La industry 1997=1 .- I O 0 8 0 6 0 4 0 2 0 0 1995 1996 1997 1998 1999 2OOO 2001 2002 2003 Source: World Bank staff estimates. 22. The evidence suggests that government wage policy has seriously undermined Belamsian competitiveness. For the period 1996-2001, real rubel wage growth consistently exceeded productivity improvements (Figure E5). These findings suggest that the continuation o f the current policy o f rapid wage growth will be more risky in the future relative to the earlier period, because a significant portion o f the earlier cost advantage has eroded by now. FigureE5: Wage GrowthExceedsProductivitvImDrovementsinIndustrv. 1995-2004 ~~ ~ 300 250 -Labor productinty,1995 = 200 - 150 -8- Average monthlyreal wage (Rbl), 1995 = 100 100 Average monthlyreal wage (ForEx), 1995 = lo0 50 I l o :1995 1996 1997 1998 1999 2000 2001 2002 2003 """" " 2004 Source: World Bank staff estimates based onMSA data. 23. Third, the analysis suggests a considerable mismatch in the growth of the main performance indicators at the micro level. According to the 2004 industrial enterprise survey, growth in investments has recently been more widespread than growth inprofits, confirming the gap between financial performance and investment performance (Figure E6). At the same time, the incidence o f productivity growth by far outpaced the incidence of growth in investments but in turn has been less common than growth in wages. It i s clear that the economy cannot sustain such a growth mismatch for an extended period because, inthe long term, wage growth should be backedby adequate productivity improvements, which must be based on sufficient growth in investments and profits (to finance these investments). 8 FigureE6: UnbalancedGrowth Managers' Answers about RecentChanges inthe Performanceof -- Their Enterprises(balancebetweenthose who reportedan increaseand a decline) 70 60 50 40 30 20 10 0 Real average Labor Fixedcapital Gross profit wage productivity investments Source; IPM (2004). `24. Low profitability represents an important source of vulnerability for Belarusian industry and is driven primarily by excessive wage growth. Low profitability i s a basic indicator o f low rate o f return on investments, which, other factors being equal, drives down the investment attractiveness of the country. Financial performance (with average margins below 10 percent) i s weakest in the sub-sectors that face stronger competitive pressures in both the domestic and CIS markets. About a quarter of industrial enterprises are loss-making. The share o f total labor costs (wages and payroll taxes) in total production costs increased by more than 50 percent in 1997-2002. FigureE7 shows a clear negative correlationbetween changes inprofitability and labor cost share. Figure E7: Growthin Labor CostsDrives downProfitabilityinIndustry, 1997-2003 +profit margin, % t - I I +labor costs in total I 1997 1998 1999 2000 2001 2002 2003 Source: World Bank staff estimatesbasedon MSA data. 25. Fourth, productivity growth is undermined by the low levels and low quality of investments. This is primarily due to the weak investment climate. Inparticular, there seems to be a major incentive bottleneck as regards strengthening real sector investments inthe environment of the prevailing state ownership in large enterprises (which are known worldwide for their propensity to under-invest) and the highcosts of entry for the new private sector. The existing incentive framework for enterprise management i s excessively focused on attaining short-term growth targets and ,9 addressing the government's social priorities. This leaves too little financial room for investments and ' longer-term restructuring efforts. 26. The weak investmentclimate ledto a depressedlevel of FDI,which representsa serious disadvantage for Belarus. The country's cumulative FDI per capita for the period 1989-2003 accounted for US$ 200, which is on average about 10 times less than in the Central European countries. This not only reduces the overall level o f investments in Belarus, but, more important, deprives the economy o f major dynamic benefits. FDI usually helps to push up productivity in the host country by providing access to modern technology, management, and training. This access i s particularly important for transition economies, where additional efforts are needed to bring the quality o f production up to international standards. 27. Moreover, in the era o f globalization, FDIvolumes have become a primary determinant o f a country's capacity for export growth (Figure E8). From this perspective Belarus i s a significant outlier from the global trend -- its current level o f export development i s disproportionately high relative to the depressed FDIlevel. This disproportionsuggests that without expansion inFDIinflows Belarus may find it difficult to expand its export on a sustainable,basis. FigureE8: Export-FDI Interlink A Global View, 1995-2002 EkporVGDPrabo av , 1995-2002 0 8 - 0 7 -. Ireland. . 0 6 - omanBelarus Slovak Republic . 0 5 - . 6 Thailand 6 c 4 -Kuwait Sweden . 01-, *. . 6. + Panama o o Brazl Lebanon 0 00 0 02 004 006 008 0 10 0 12 0 14 FDVGDP rabo av 1995-2002 Source: World Bank staff estimates based on WDI. 28. Investment financing remains extremely limited. While enterprise self-funding is limited because o f low profit margins, commercial credit i s generally less accessible and more expensive,than in the neighboring countries. Moreover, government interference in credit allocation places those f i r m s that are unable to participate in the directed credit programs in an especially difficult situation. In addition, the analysis of cross-sectoral variations in performance suggests that government interventions create significant barriers for the efficient allocation of investment funds. Inparticular, there may exist a negative correlation between investment growth and profitability, indicating that less profitable sectors have been able to finance more investments. 29. The tax burden is substantially higher in Belarus than in the neighboring countries, which puts Belarusian producers at a competitive disadvantage. For example, in 2003 the total explicit tax burden in Belarus amounted to 44.7 percent o f GDP as against 34.7 percent in Russia, 10 Moreover, the tax structure i s highly distorted --about 30 percent of all taxes paid by industry are turnover based. The manufacturing sector has been disproportionately affected by the current tax policy. 30. Business perceptions as seen from the enterprise surveys, reflect a growing concern about declining competitiveness. Overall, most survey respondents believe that their products are competitive domestically and to some extent in Russia. However, with respect to other markets, the balance of responses are either close to zero (which points to the absence of competitive advantage) or negative. Among the main determinants of their competitiveness, the respondents emphasized the role of cost factors, primarily those associated with low wages and low profit margins in Belarusian industry.However, the existing cost/price advantage appears to erode rather quickly, as can be seen by comparing responses from the similar 2004 and 2002 surveys. The leading factors inthe potential cost disadvantage of Belarusian enterprises in Russia relate to the growing wage burden, higher taxation, and more expensive borrowing. Tradeperformance: low dynamism of exportpatterns 31. Strong export performance has been a distinctive feature of the recent growth episode. As a small open economy, Belarus depends heavily on its export capabilities for its growth prospects. Backed by an improved demand in Russia and higher oil prices, the country's exports more than doubled in2000-04. The contribution o f the price factor to overall export growth has been significant recently: in 2001-04 about a third of total export growth was due to price movements. However, imports grew at a high rate as well, so that the trade deficit as a percent o f GDP was relatively stable during 2000-03. The rise in imports in 2004 led to a sharp deterioration in the trade deficit to 9 percent of GDP. 32. However, Belarus' exports remain highly concentrated in terms of export markets, exported products, and the role of leading exporters. Russia's share, while somewhat decreased, still accounts for about half of the total exports and about 90 percent o f the CIS exports. The 20 largest exporters are a source of more than 55 percent of all exports and more than 80 percent of non- CIS exports. Ten main export commodities accounted for over 50 percent of the total exports in2004. These are the products that were traditionally producedand exported by Belarusbefore independence. This excessive export concentration leavesthe country's trade vulnerable to external shocks. 33. Trade restructuringand diversification is taking place at a much slower pace than in the neighboringcountries. While the shareoftheEU-15 inBelarusianexports hasbeengrowing (24 percent o f total exports in 2004 as compared to 7 percent in 1998), it is still extremely low if one accounts for the country's location. Moreover, this recent expansion in exports to the EUhas a very narrow base. It has been due primarily to a sharp increase inexports o f processed oil products. Only a quarter of Belarusian industrial firms export outside o f the CIS. This i s comparable to the level observed inRussia in 1994before any substantial restructuringhad started. 34. The export structure shows very limiteddynamism. Inaddition to the highconcentration, the report's analysis revealed several serious weaknesses in the recent export patterns, which, if not addressed, pose a serious risk for future growth. The number of product groups in which Belarus exhibits strong export specialization i s low and declinedbetween 1998 and 2003. The factor intensity structure of exports shows an increasing importance o f exports that are resource-intensive and unskilledlabor-intensive. Reliance on such commodity groups generally limits the possibility ofjob generation and productivity improvements inthe economy. Underdevelopedintra-industry trade with the EUreflects the failure to attract European FDI.This further limits opportunities for trade-related productivity gains. 11 35. The survey data do not provide evidence that Belarusian exporters have been losing their traditional markets in Russia (except for light industry - textiles, garments, and footwear). However, the data are troubling regarding the current level o f competitiveness inRussia, especially in the food processing and machinery sub-sectors. This may be intekreted as a problem o f further export expansion: export growth to Russia has been strong recently, but sustaining this rate o f expansion could be difficult for exporters within the prevailing set o f business conditions. Agriculture: stronggrowth that remains heavily subsidized 36. The performance of the agro-food sector, especially since 2000, is in many respects an excellentillustrationof the "Belarus puzzle." Despite a somewhat uneven record, growth inagncultural output averaged about 6 percent in 2000-04. Improvements in the underlymg performance have been considerable at many levels but especially in productivity and export. This has apparently been achieved without dismantlingthe key featureso fthe former Soviet systemoffarmorgamzation andcontrol. 37. The recent growth in the sector can be explained by a combination of exchange rate adjustments, a doubling of state support, and improvements in the "internal terms of trade." The household sector has been particularly dynamic and has contributed to the sector's performance substantially ahead o f its land resources. The analysis o f productivity indicators vis-a-vis Russia has revealed that Belarusian producers have a competitive productivity advantage in all commodities except milk.The extent o f this competitive advantage has, however, shrunk somewhat inrecent years. 38. State support to agriculture has grown substantially in recent years, and its scope is clearly unsustainable. In 2000-04 it accounted for 10-12 percent o f all consolidated budget expenditure and 3-4 percent o f GDP. In2004, state support per hectare was twice as high as in 2000: Compared to other CIS countries, Belarus has the highest level o f budgetary support. However, it is muchlower than the level o f support in some transition economies inCentral Europe. 39. State support remains insufficiently transparent, heavily affects the operations of the banking system, and favors the most inefficient agricultural enterprises. It compromises the stated government efforts to facilitate productivity growth in the sector. At the same time, prices remain highly distorted, with some prices effectively taxed and others heavily subsidized relative to international levels. The net effect o f the government's policy i s a sector that i s too costly for taxpayers and displays serious inefficiencies. 40. The food.processing se.ctorreveals chronic underlyinginefficiency, despite some recent improvements. One major concern i s its low capacity utilization, which i s a critical determinant o f processing efficiency. The sector requires a considerable consolidation of its excess capacity. In addition, its capital stock has been substantially eroded as revealed by the exceptionally highlevels o f depreciation. To date, the sector has been receiving essential support through the depressed prices in primary agriculture, which have helpedto delay the necessary restructuringinprocessing. 41. The only feasibleway to sustain recent growthinagriculture is to establish conditions that are supportive to growth in competitiveness and greater penetration o f export markets. From a fiscal perspective, future growth cannot rely on further expansion o f state subsidies. Moreover, future growth must become more export-oriented and at the same time less dependent on the Russian market. In the medium term, Belarusian agricultural producers will face more international competition, which will raise the requirements o f their competitiveness level. 12 42. The suggested sequencing of reform inthe sector,reflecting govemment's choice for a gradual pace of transformation, gives pnority to the following steps: (i) pnce liberalization and the removal of input subsidies; (ii)more effective targeting of support toward efficient entities and enforcing a hard budget constraint, (iii) more decisive farmrestructuring,and(iv) amoreaggressiveFDIpolicy targetedto upgrading theprocessingsector. Lagging enterpriserestructuring 43. Belarusian firms have made only limited progress in many of the key elements of enterprise restructuring, such as asset restructuring, integration into the world economy through trade and investment, and the reorganization of companies to make them vibrant components of the market economy. This follows from a detailed analysis of the new enterprise survey, usingthe same models that have been employed with success in other transition economies, including Poland and Russia. 44. The determinants of growth and other improvements in enterprise performance in Belarus are clearly different fromthose inother transition economies. Inparticular, the following basic hypotheses on the impact o f firm ownership on performance are rejected by the data: (i) privatized firms do not performbetterthat SOEs; and (ii) firms for the most part are not found to new perform differently from other firms, both SOEs and privatized firms. These results are the strongest indication than the institutional environment inBelarus has not yet taken a form that can advance the emergence of a dynamic market economy. The environment in which both de novo and privatized firms operate prevents them from realizing the potential benefits of private ownership. This relates to the uneven playing field, the restrictions on the operations of the product markets, credit rationing, weakness in the corporate governance regime, etc. Even in privatized firms, owners as a rule have difficulties replacing firm management. Overall, the private sector remains quite depressed: privatized firms are still affected by considerable government controls, while new private firms are mostly weak. 45. The recent productivity growth in Belarusian industry appears to have a very limited foundation in improvementsin economic fundamentals, such as ownership change, entry of new firms, penetration of new markets, acquisitionof new skills (such as new management), etc. Instead of introducing genuine restructuring inresponse to market signals (as was the case in other economies in transition), the industrial sector has largely been adapting to a combination of growing competitive pressures, an improved macroeconomic environment, and continued administrative controls. This adaptation has resulted in productivity improvements that stemprimarily from better utilization of the inherited industrial capacity. However, the longer-term sustainability of such improvements i s of concern. 46. Increaseddomesticcompetitionwiththe new private sector andwithimports is likely to be the leading dnver of industrial restructuring' within the Belarus economic model. BEEPS surveys have revealed a serious s h f t toward the acknowledgment of the importance of competition from imports in Belarus between 1999 and 2002. Interestingly, the magnitude of the changes in the perceptions of competitive pressures among Belarusian entrepreneurswas much stronger than in neighboring countries (Figure E9). 13 FigureE9: GrowingSense of CompetitivePressures(Percent of firms calling competitionfrom import not importantor only slightly importantin 1999 and 2002) ...................................... ..................... 0 Ukraine BRussia m Belarus 1999 2002 Source: BEEPSdatabase. 47. With all o f these caveats, restructuring in industry, including SOEs, has indeed taken place and has resulted in some unbundling.The problem is that the overall restructuring was slow and limited, and some important (basic) restructuring measures are yet to be implemented. As this report argues, it may be increasingly difficult to accelerate restructuring inthe future without making serious changes in the institutional and regulatory environment. If this i s to be undertaken, the right set of incentives should be inplace. This would be impossible without de-politicization - a missingelement inthe transformation ofthe industrial sector inBelarusto date. 48. The analysis suggeststhat radicalreform is urgently neededto free the growth potential associatedwith an entrepreneurialapproach, entrepreneurial dynamism, and flexibility for new entry. The transition experience identifies new firms as the engine o f restructuring and growth, but Belarus deprives itself o f this major economic benefit. In particular, various studies suggest that foreign firms could play a very important role inenterprise restructuringintransition. ANALYSISOF ECONOMICPOLICIES 49. Inadditionto ananalysisofthemacroeconomicenvironment, thereportlooksintoother policies that are critical to sustaining competitiveness, such as the quality o f the investment climate and the trade regime. . The investment climate remains largely unsupportive toproductivity growth 50. The continuing excessive government intervention in the activities of the enterprise sector crdwds out the positiveimpact of the latest reforms. Over the last few years the government has made some progress in simplifyingbusiness registrationand licensing, as well as inregulating o f export activities. The government is planning to continue streamlining and simplifying the processes for starting a business and i s considering introducing a "one window" registrationprocess to facilitate new market entry. However, these improvements have gone in tandem with the deterioration o f the situation in other areas o f the business environment. Belarusian business people have strong negative perceptions o f the trends in the country's investment climate. The survey results do not yet show any significant positive outcomes o f what the government considers a substantial shift in its policy directions. Cross-country comparisons suggest that Belarus is a high cost place to do business, especially if one takes into account the implicit costs o f delays related to the lengthy administrative procedures (Figure E10). The low rate o f new business creation i s a strong indication o f the costly 14 business environment. As reflected in various international indices, Belarus' investment climate i s perceived as one o f the most hostile inEurope. 51. The existing businessenvironment represents a major risk for the sustainability of the country's ecanomicgrowth. It undermines Belarus' growth prospectsthrough a number o fchannels, First, the highcosts o f compliance with administrative regulations mean that a significant amount of resources is diverted from more productive use. Second, the high costs o f entry deprive the economy o f major benefits associated with flexibility and innovation, which only new firms could generate, Third, the highincidence of government interference damages Belarus' investment image, poses the risk o f international economic isolation, limits the country's opportunities for attracting FDI, and generally reduces the potential benefits o f global integrationwhich its neighbors enjoy. FigureE10:Business RegistrationI s Too Slow (days) .1 m D. I UI 20 Belarus Poland Russia Ukraine Source: Database "Doing Businessin2005." 52. The high costs of overregulation, regulatory uncertainty, and informality affect companiesin their daily operationsin a multitudeof ways. The greatest concerns o f the business community relate to the following: e Inspections are seen as the most severe administrative banier and have been worsening over time. Unplanned. tax inspections, non-tax fiscal inspections, and sanitary inspections are specifically highlighted as a major problem. e The administration o f business permits i s lengthy and costly. This specifically hurts the investment process (land and construction permits, permits for the occupation o f business premises). e Tax administration aggravates the problems associated with the high tax burden because o f the multitude o f taxes, excessive tax inspections, the instability and complexity o f tax legislation and the severe penalties for unintentional mistakes. 0 Price controls remain excessive. The survey revealed that in 2002 a staggering 66 percent o f f i r m s had been affected by price andprofit margin controls to some degree. 15 0 Firingrestrictions remainmostly informal, butenterprises are sensitive to their effect. Among large state-owned and privatized companies more than a quarter claims to have excessive staffing levels. 53. Belarusshould use the currentfavorable macroeconomicsituation to launchreforms in the investment climate. An important lesson from other experiences with transition is that fundamental improvements inthe business environment cannot be attained quickly and solely through the introduction o f a package o f "good" regulations. Business environment reforms are o f long-term nature. A considerable amount o f political will to change the prevailing government attitudes to business and enhance public-private dialogue i s needed, as well as a deeper reform o f public administration, the civil service, and the judiciary. Many o f these changes are easier to undertake in the environment o f a stable and growing economy. Thus, Belarus should not miss its window o f opportunity to advance these reforms without further delay. 54. Belarus has an administrative advantage that could support its future reforms in the businessenvironment.An important asset o fthe Belarusian state is a relatively good capacity for the quick resolution o f business disputes and a low level of corruption within state institutions. It also has a track record for resolving specific administrative problems that have proved difficult to address in other CIS countries. For example, the VAT refund was not seen as a problem by Belarusian exporters . (in contrast to the view in the countries in the region). While traders complain about some . deterioration in customs administration, customs clearance inBelarus i s less time-consuming than in ' the neighboring countries. 55, At the same time, the analysis suggests that there.maybe a serious internal conflict between the government's plans to reform the business environment and its reliance on the existing economic model for development. The current economic model requires massive administrative interventions at the micro level, which unavoidably raises the costs o f doing business in the country and imposes senous limitations on the extent to which the busmess environment could be improved without dismantling some central components o f the existing control system. Expensive subsidization undermines economic competition 56. The complicated and pervasive system of state support to the real sector is a fundamental feature of the Belarus economic model. The government has been pursuing an activist industrial policy under which most large enterprises have been ina position to negotiate with .the government a case-by-case package o f incentives and benefits to support their rehabilitation and development programs. This has resulted ina system o f state support that i s too costly, too segmented and non-transparent, with too many programs and beneficiaries. In spite o f various government attempts in recent years to streamline, quantify and access its effectiveness, little change has been achieved to date. The coexistence o f a high nominal tax burden, massive tax benefits and subsidies for those enterprises that are either less efficient or well-connected undermines competition and the stimulus for productivity improvements. 57. The aggregated measuresof enterprise subsidization show no significant decline in the incidenceof state subsidies in Belarus. In 2001-04 the estimated annual net subsidy amounted on average to 6 percent o f GDP. This i s somewhat lower than it was before 2001, but i s still excessively high, It is comparable with the total national public spending on education (6.3 percent of GDP in 2004). Agriculture remains the most heavily subsidized sector. 58. The current system of support has an adverse impact on credit markets. The total amount o f credit allocated through direct government interventions (directed credit programs from the 16 banks, budget loans, and credits issued with government guarantees) in 2001-04 amounts on average to about a quarter o f all annual commercial bank credit in the economy. This crowds out proper commercial credit and makes borrowingmuchmore expensive for those who cannot participate inthe government programs, includingsmall private firms. Trade regime: the high incidence of non-tariff restrictions discourages trade 59. Belarus' trade regime is characterized by modest import tariff rates but rather extensivenon-tariffbarriers. The average import tariff rateswere stable and quite modest in 1998- 2003, remaining between 10 and 14 percent. Agricultural import tariffs, with the exception of few commodities, do not seem excessively high. The fiscal importance of import taxation i s quite modest, which provides ajustification for the simplification of the import tariff schedule, which i s currently overly segmented. 60. A large number of ad hoc administrative restrictions on trade exist in Belarus on both the national and local levels. These restrictions are primarily aimed at limiting the import of consumer goods, and they seem to succeed in keepingthe share o f consumer imports relatively low. This anti-import bias`inthe regulatory regime is reflected inter alia in additional permit requirements for specific types of consumer imports and higher rates o f sales tax for imported goods relative to their domestically produced competitors. The government should undertake to review and to cleanse the large regulative array in order to liberalize trade. The existing customs procedures for control of customs value of imports, which de facto act as minimal prices on imports, contradict to the WTO Customs Valuation Agreement. This issue needs to be addressedon a priority basis. 61. Recently, Belarus has made considerable progress in its WTO membership bid by introducing a large mass o f new WTO-compliant legislation. Progress was also made on several sectoral fronts such as agriculture, standards, and intellectual property rights. Nevertheless, much remains to be done. Given that no single bilateral market access agreement has been signed as yet, Belarus should be considered as a country at the early stage of accession, which couldbe compared to the situation of Russia and Ukraine three to five years ago. The experience of neighboring countries should caution the government against excessive optimism regarding the potential speed and ease of accession. 62. Belarus' legislation on foreign investment and free economic zones is reasonably good. However, it has not resulted in sizable foreign investment because of a detri,mental economy-wide businessenvironment. Thebenefits of economic and trade relations with Russia are large but are diminishing 63. The integrationprocesswith Russia has beenimportantfor Belarusintwo fundamental ways. First, Russia provided direct demand support for traditional Belarusian exports, including labor-intensive items in the machinery and equipment sector. Second, the integration process was a primary driver for recent policy adjustments, including several major reform steps such as the unification of the exchange rate and the phasing out o f direct NBB financing o f the budget deficit. 64. Trade with Russia played a vital role in supporting Belarus' economy through a significantresourcetransfer. The main channels of this transfer were discounted prices for Russian energy, non-market trade arrangements (such as barter and inter-government agreements on mutual direct deliveries), and unilateral violations by Belarus of the provisions o f the Customs Union. The resource transfer from Russia has been significant throughout the post-Soviet period. Belarus and other CIS members continue to benefit from energy import prices that are much lower than their ' 17 world market equivalent, but this effect has been steadily declining. Moreover, Belarus, untilrecently, received better energy arrangements than the rest o f the CIS. When compared to the prices o f gas imports to Ukraine, in 2000-03 the average annual transfer received by Belarus through lower gas prices amounted to about 2 percent o f GDP. However, these transfers have largely dried up from 2004 onward. 65. Belarus used the rents associated with special relations with Russia strategically. A large portion of these rents was centralized by the government and used for various public programs, including infrastructure investments, enterprise support, and social assistance throughout the economy. 66, A potentialerosionof the Belarusiancomparative advantageinRussianmarkets, due to either unexpected political shifts or for economic reasons, represents a significant risk. In , particular, a major potential challenge may come from a future higher pace o f restructuring in the Russian (mostly private) corporate sector relative to the restructuring rate that Belarusian SOEs could afford. Inrecent years there have been signs o f increasing competitive pressures faced by Belarusian exports in the Russian market, as expressed in their declining market shares in total Russian consumption. On the import side, in the medium term Belarus will face the unavoidable costs o f ' adjustments that relate to future higher prices for Russian gas and oil. The latter costs, as measured against actual 2003 energy prices and import volumes, exceeded 6 percent o f GDP a year. PRIORITY DIRECTIONSFOR REFORMS 67. In the longer term, in aiming for sustained growth the arstlwitieswill need to make a determined push for a comprehensive reformprogramto accelerate the country's transition to a market economy. These efforts should address a number o f pending issues in all the core areas o f liberalization, macroeconomic stabilization (including price and exchange rate stability), privatization, and wide-ranging structural reforms. Despite their up-front costs, the structural reforms (including public administration, legal andjudicial, social assistance and insurance, and infrastructure reforms) represent a critical element in the sustainable growth strategy. This report recommends that the government use the current window o f opportunity associated with the favorable external and internal economk environments, to accelerate the reformprocess without muchdelay. 68. In the case of Belarus, the level of FDI attracted should be seen as an indicator that summarizes the economy's longer-tern potential to sustain growth and competitiveness. Belarus seriously underbtilizes the advantages o f its geographic location as a basis for attracting FDI and restructuring its trade patterns. Addressing this weakness should be a policy priority. FDI inflows would ease the financing constraint, facilitate technology transfer, and provide access to new product markets. Even if there are concerns about widespread foreign ownership, it should be borne in mind that liberalizing economies in the Far East, such as Vietnam, have generated considerable gains from channeling foreign investments throughjoint ventures. 69, However, this report is focused primarily on a narrower set of key reform priorities, which could be sufficiently advanced within the very gradualist approach toward market transformation explicitly chosen by the government. Many o f the recommendations that follow are fully consistent with the objectives outlined inthe various government development programs. These recommendations are intended to help the government address the immediate growth challenges, as identified by the report's analysis, which otherwise may pose a risk for the government policy targets inthe ateas ofwage and employment growth andpoverty reduction. 18 70. The focus of the report's recommendations is on two inter-relatedchallenges that the government must address in order to strengthen the competitiveness of the economy as a source of sustainable growth: 0 Imposingstricter market discipline on the existing enterpdse sector in order to accelerate its restructuringand productivity growth at the micro level 0 Encouraging the expansion of both new and fully restructured traditional firms that have proved to be quite competitive without state support. Imposestrictermarketdiscipline 71. The main strategy that the government should follow for discipliningtraditional enterprises could be summarized as follows: 0 Restructuringand drasticallydownsizingthe existingsystemof state support to the real sector, includingstrengthening discipline in the financial sector through the discontinuation o f regular recapitalizationof state-owned banks and winding down directed credit programs and moving the residual quasi-fiscal activities from the banking sector to the budget. This would help sustain the fiscal balance under lower statutory tax rates. Moreover, this would improve the incentives for enterprise restructuring and would equalize business conditions among different types ofbusiness entities. 0 Accelerating the exit of non-viable firms. A shift toward a more pro-business economic policy in Belarus should employ at least some highly visible cases of the bankruptcy and liquidation of non-viable large enterprises, Such liquidations would be important to support several other improvements. First, they would send a signal to the entire real sector and thus would have a significant incentive effect. Second, they would bring about some additional. fiscal savings. Third, they would releaseeconomic resources for new firms. 0 Taking additional steps in.the agricultyre and food processing sector to harden the budget constraint. These steps would include: (i) the elimination of implicit subsidies, especially those that are allocated through distorted input prices; (ii) better targeting of government support toward more efficient farms and the equalizing of access to state support between private and state farms; (iii)a more aggressive reduction in capacity in food processing; and (iv) a more cautious approach toward merging profitable and non-profitable farms. In the last case, at the very least,' the managers of consolidated farms should be allowed to implement appropriate rationalization strategies. There i s also a clear need to ensure that the transfers from state-controlled farms to the household sector are carried out with greater transparency.' 0 Ensuring further strengthening of the financial viability and efficiency of the energy sector companies. While some progress has been made inthis area inrecent years, more is needed to ensure that these companies are on a commercially sustainable footing and thus could meet a growing commercial demand for energy ina cost-efficient way. Specifically, the following policies should be seen as priorities in the sector: (i) completing the phasing-out o f implicit subsidies through proper tariff adjustments; (ii)restructuring the existing stock of debt obligations, bothexternal and internal; and (iii) diversifying electricity import. 0 Initiatingthe preparationof apilotprogramof large-scaleprivatizationsto cover several efficient SOEs (including state banks), which could be privatized competitively inan orderly and transparent way. 19 e Pursuing further trade liberalization and the exposure of local producers to internationalcompetition. These measures are critical to strengthen the effects o f market discipline on enterprise restructuring and productivity growth. The government should greatly reduce the existing non-tariff restrictions on imports and should phase out the restrictions on trade with Russia that are inconsistent with the CustomUnionagreements. e Advancing the government's internationalintegrationefforts in the direction of both the WTO and the CIS. The experience of other transition economies suggests that trade negotiations, especially those on WTO membership, could become an important driver for a number of domestic reforms. The government should be prepared to advance its trade negotiations by reducing the current level o f subsidization in agriculture and industry, including exporters. In addition, much more progress i s needed in liberalizing and de- monopolizing a number o f sectors such as financial services and telecommunications. Encouragenew businessgrowth 72. The competitivenessof the Belarusian economy is greatly constrained by unnecessary business costs associated with the current government policies. The economy is also affected by depressed new entry that undermines its flexibility as well as its capability to withstand potential shocks. There i s an urgent need for policy adjustments inthe following primary directions: e Reducingthe tax burden and reformingthe tax structure. The priority is to reduce the incidence o f the most distortive taxes, such as turnover and payroll taxes. The latter would create additional incentives to accelerate the pension reform that may include an increase in the retirement age. The existing implicit taxes on the industrial sector should be phasedout as well. This would require steps to advance the divestiture o f enterprises' social assets, to eliminare tariff cross-subsidization in utilities, and provision o f agricultural iiiputs at fixed low prices. e Liberalizing employment and wage policies. Enterprise managers need more decision making powers on labor and wage issues, while at the same time the government should discard its use o f administrative controls to attain wage increase targets. Combining this policy with a renewed impetus to support new market entry would limit its potential negative effects on overall employment. Advancing price liberalization by phasing out the residual price controls, including downsizing the list o f enterprises that are subject to price control as monopolists, as well as the list o fregulated export prices. This also includes further liberalization o f interest rates. In agriculture, producer price levelsneed to be brought much more into line with international prices. In an economy that has been increasingly internationally integrated, the government could rely on competition as a primary tool for avoiding excessive price growth. Reducingthe level of day-to-day regulatorycosts. By launching a more efficient dialogue with the business community, the government should be able to identify and reduce various unnecessary costs that stem from inefficiencies in the regulatory regime. The priority areas for action may include: (i) reforming the tax administrationto make the system simpler, more stable and more predictable; (ii) halting the recent trend toward deterioration in the customs administration, which includes addressing the issue of customs valuation practices; (iii) liberalizing the procedures for new entry (by reducing the time needed for business registration and simplifying the procedures); (iv) reducing informal market protectionism and trade barriers at the regional level; and (v) consolidating the tariff schedule. 20 0 Limiting discretionary administrative interference. The government needs to change the incentive system for the regulatory agencies to discourage their discretion in enforcing regulatory requirements. Among other things, this means a drastic reduction in "unplanned tax inspections" and similar interventions, which are most detrimental to the business climate. In agriculture, able managers of state-controlled farms should be given much greater decision-malung autonomy. Also, businessmen should be offered an independent channel to the central administrationto report irregularities inregulatory interventions. The government could accomplish this without a fundamental overhaul of the underlying system o f regulations. 0 Accelerating reform in the standards system. Although the necessary legislative framework is mainly in place, slow reform implementation has not permitted a switch from the excessive compulsory regulation inherentin the ex-Soviet GOST system to the modem two-tiered system o f internationally compatible mandatory technical regulations and voluntary standards. 0 Consolidating the recent progress toward a stable macroeconomic environment, including tightening monetary conditions to lower inflation and taking additional measures to scale down government interventions in the economy (including quasi-fiscal activities) and thus lower government financing requirements and interest rates. Sustainedmacroeconomic stability i s critical to strengthening enterprise incentives for restructuringand investment. 73. The government must also put considerable resources into improving the country's investment image if it i s serious about attracting sizeable foreign investments. As a startingpoint, the government should undertake several highly visible decisions to address the most common concerns of the private sector; For example, the golden share rule should either be abolished or as.a minimum, the existing legislation should be modified inline with international experience. Its future application should be legally restricted to a narrow set o f cases that directly relate to the strategic interests of the state. It would also be advisable to establish a specialized institution for investment promotion, which would employ best international practices in this area and could support a broad . communication campaign to develop the country's image as an attractive location for business .and investment. _ . 74. Attracting foreign investment is of special importance for the future rehabilitation and modernization of the energy sector. Over the next decade, the sector will be facing a growing demand for investments that probably cannot be met internally. Inorder to secure external financing, the energy sector structure and governance arrangements should be adjusted through structural and institutional transformations such as unbundlingthe existing monopolies, introducing disclosure and corporate governance principles, and developing public-private partnerships. Establishing an , ' independent regulatory agency and investing in its capacity building would make the 'sector more attractive to external investors, while it would also help to promote both improvements in energy efficiency and a better quality service delivery. 75. Belarus also has an opportunity to maximize the benefits associated with its role as an energy transit country. In order to ensure the sustainable expansion of its transit business, Belarus must convince Russia that it represents a reliable and preferable route for oil and gas exports to Europe, To achieve this, Belarus will need to address the existing reputational issues and to provide for additional investments by securingcommercial borrowing and/or considering options for entering into a joint venture or consortium arrangement with Russia and/or Russia's European natural gas customer(s). 21 76. The food processingindustry is a sector that should becomea major beneficiary of FDI. The development o f export-oriented food processing requires substantial investment to underpin efficiency and, most important, to ensure adequate product quality. At the same time, experience elsewhere has shown that modernization and efficiency improvements in primary agriculture can occur quickly once they are driven aggressively by a modernized and internationally competitive processing sector. CONCLUSION 77. The analysis in this report has documented a significant and broad-based growth while pointing to the erosion o f several important factors that have driven this growth recently. The Belarusian economy i s facing a considerable risk of decliriing competitiveness. To sustain growth, a significant policy adjustment i s necessary to enhance market discipline and encourage new business entry. 78. The following matrix summarizes the results o f the analysis in this report and its recommendations. It links the main domestic and external factors that have supported recent growth in Belarus with the emerging risks (which undermine the impact of these factors) and the policy recommendations to address these risks. ia C d b