The Tenge Dilemma in Kazakhstan

Amid worldwide currency wars and competitive devaluations, Kazakhstan’s tenge has remained stable in a fixed band of 181 to 184 to the dollar, a level established last February when the Kazakh government imposed a 19 percent devaluation. This devaluation was sudden and painful for citizens and businesses alike, coming only five years after a 23 percent devaluation in 2009, and effectively slashing purchasing power by 50 percent since 2009.

Oil-exporting countries like Kazakhstan frequently peg their currencies to the U.S. dollar, as their export contracts and invoicing are dollar-denominated. For example, the Saudi riyal to U.S. dollar exchange rate has remained almost unchanged since 1988. Kazakhstan pegs its currency to a basket of foreign currencies, with the dollar accounting for 70 percent. Declining oil prices have placed substantial short-term pressure on the tenge, which Kazakhstan has been able to absorb thanks to liquid currency reserves of around $28.9 billion, along with a National (Oil) Fund holding as much as $74 billion.

Apart from falling oil prices, the tenge faces additional downward pressure from the rapid devaluation of the Russian ruble. Russia, Kazakhstan’s partner in the newly established Eurasian Economic Union, has been a major market for Kazakh non-oil goods, as well as the supplier of some 70 percent of consumer goods in Kazakhstan. Russia is one of Kazakhstan’s most important trade partners, and to ensure competitiveness, the Kazakh authorities for a long time tried to maintain a cross rate of about 5 tenge per ruble. Now, with the ruble down against the dollar by around 50 percent since the start of 2014, Moscow has, intentionally or unintentionally, imposed a beggar-thy-neighbor policy on Kazakhstan, with the price of Kazakh exports to Russia doubling and Kazakh competitiveness dropping dramatically. The resulting price differential across the Russo-Kazakh border has pushed more and more Kazakhs to shop in Russia practically for everything. In the three last months of 2014, 36,000 cars were brought to Kazakhstan from Russia, a figure roughly equal to a quarter of all the cars sold in Kazakhstan in a given year by official dealers. Some in the Kazakh business community see this rapid influx of Russian goods as “a risk to economic security.”

Another sharp devaluation, of around 90 percent to the current tenge-dollar rate, would be required to keep up the traditional rate of 5 tenge per ruble, which would have a dramatic effect on local purchasing power and hurt anyone receiving income in tenge but paying interest on dollar loans. In contrast, a more gradual devaluation would not make a big difference to either consumers or producers, as most Kazakhs have already factored in an upcoming devaluation by converting the maximum possible amount of their savings to foreign currency. In December 2014, only a third of household bank accounts were denominated in tenge, which is clearly insufficient for the banks to continue issuing tenge loans (around 70 percent of all bank loans are currently denominated in tenge). While the population generally expects a devaluation and appears to have little trust in the government’s promises to maintain a stable exchange rate, uncertainty about the eventual tenge-dollar rate has a negative effect on planning and investment, with currency risk emerging as the biggest uncertainty facing Kazakh business.

The establishment of the Eurasian Economic Union at the start of 2015 further complicates the picture. The business community in Kazakhstan has pointed out that Article 29 of the Eurasian Economic Union Treaty allows temporary import restrictions if the union creates a risk to economic security. Indeed, a high-level government delegation from Kazakhstan is scheduled to visit Russia this week to discuss proposed import limitations on a number of products from Russia: cars, poultry, eggs, accumulators, and reinforcing steel.

Faced with mounting pressure on the tenge, there are extreme solutions that the Kazakh authorities may consider; for example, creating a currency union with Russia to complement the regional trading arrangement under the Eurasian Economic Union. But, according to Professor Jeffrey Frankel of Harvard University, the irony is that the ruble’s instability dating back to the 1990s has contributed to a high level of dollarization in the Kazakh economy, as the dollar offered the only stable unit of account, medium of exchange, and store of value that was so badly needed in the chaotic aftermath of the breakup of the Soviet Union. Given current geopolitical complications and the sanctions regime against Russia, the ruble cannot be regarded as a safe anchor for Kazakhstan’s currency. Another extreme measure would be some form of capital controls, such as limits on foreigners’ repatriation of foreign currency earnings out of Kazakhstan, restricting withdrawal from dollar holdings, etc. In this scenario, the state would have greater control over the market, but at the cost of ruining investors’ confidence (neighboring Uzbekistan offers an example of the potential consequences).

Kazakhstan had in fact dealt with a similar set of issues in 1999, in the aftermath of the crisis in Asia and in Russia, when the Kazakh Central Bank had to devalue the tenge by 65 percent against the dollar and introduce temporary currency controls, as well as restrictions on Russian imports. The Kazakh response to that crisis was successful; although the economy contracted by 1.9 percent in 1998, growth picked up to 2.7 percent in 1999. Since then, Kazakhstan has pursued tighter integration with Russia (which, however, does not extend to coordination of currency policies), and it no longer enjoys the same flexibility in its economic and trade policy. If the Russian government refuses to ameliorate Kazakh losses as a result of the ruble depreciation and opposes the proposed temporary trade limitations, Kazakhstan’s only choice will be between a sharp and a gradual depreciation of the tenge.

If Astana chooses to devalue gradually to avoid overshooting, it could keep the cost of imports down for a while and keep inflation under control. But it does not have much time, given uncertainty about demand in the critical Russian market. Moreover, Kazakhstan does not know how long the current cycle of low oil prices will last (Kazakhstan’s quick economic recovery after the Asian financial crisis was heavily aided by the start of the commodity boom of the early 2000s). It also risks depleting its currency reserves by repeatedly intervening to prop up the tenge, as the central bank uses currency swaps with the banks to absorb the pressures, and the volume of swap trade in foreign exchange rose to $30 billion in December 2014 (almost fivefold in a year).

If Kazakhstan chooses to let the tenge weaken sharply, it should realize that a weak currency alone will not boost competitiveness. Rather, the government should take more focused measures to raise local business capacity (apart from the standard practice of providing subsidized loans), but also provide technical assistance, retraining, and improved business education, starting with such simple things as marketing and sales. This approach will not bring immediate change either, but consumers who will suffer from a weak tenge are more likely to reconcile themselves to the fallout if they know that support to local producers will result in more jobs, more local production, and more exports. If they spend less on imports, moreover, they do not have to hold large quantities of dollars, and the dollarization that currently worries the Kazakh authorities will be reduced.

For currency policy—and any policy, for that matter—the most important factor is confidence: people have to believe government’s efforts will work. The current crisis will probably prompt Kazakhstan to redefine its priorities and carry out more substantial reforms. At a time of low oil prices, the tenge is almost inevitably poised to lose value, but the costs could be offset by reforms that would turn Kazakhstan into a more industrialized and less oil dependent economy.

Aitolkyn Kourmanova is a visiting fellow with the Russia and Eurasia Program at the Center for Strategic and International Studies (CSIS) in Washington, D.C.

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Aitolkyn Kourmanova