As a small, landlocked and mountainous country, Kyrgyzstan faces significant constraints in its development. Rapidly rising energy and food prices could threaten economic and social stability, and although increased regional integration has boosted economic performance, it has also exacerbated the country's vulnerability to global financial turmoil.
Despite early promises, reforms stagnated under former President Askar Akayev, and his regime collapsed in March 2005 amid popular discontent with growing corruption and suspected election fraud. However, the 'Tulip Revolution' ushered in a period of political turmoil. Some measure of stability was only achieved after the December 2007 elections, which President Kurmanbek Bakiyev's party won with a large majority. Smoother institutional relations have facilitated policy implementation, although the country still faces a number of economic challenges, including mounting food and energy problems.
Inflation. After years of relative moderation, price pressures started to emerge in mid-2007, mainly due to higher international food and energy prices, but also from rapid monetary growth. Food prices rose by 31.5% in 2007, the highest rate of growth observed in any CIS country. The impact of higher food prices on inflation and poverty is more significant than that of energy prices, since foodstuffs account for around 47% of the Kyrgyz consumer price index.
Energy. The country depends on imported hydrocarbons and domestic hydroelectricity for its energy needs. Uzbekistan increased gas prices at the beginning of the year, driving inflation upwards. Meanwhile, electricity tariffs below cost recovery have generated waste and deterred investment. Faced with a rapidly deteriorating situation, the government has initiated a programme of tariff increases. However, this will further stoke inflationary pressures.
Policies. The Kyrgyz authorities have been forced to reduce non-priority expenditures to dampen inflationary pressures and accommodate increased social spending in order to shelter poor households from higher food and energy prices.
In addition, a deterioration of the balance of payments outlook led to the depreciation of the Kyrgyz som in early 2008. Given the high import content of the consumer basket, exchange rate variations have a significant impact on inflation. The National Bank of Kyrgyzstan has intervened to arrest the decline of the som, and the exchange rate against the dollar has now bounced back to the levels observed at the beginning of the year.
Trading hub. Kyrgyzstan has emerged as an important trading hub in the region. Kyrgyz bazaars provide a platform for re-exporting Chinese manufactured goods to other Central Asian countries. The favorable regime for bazaar imports, which can enter the country on a virtually duty-free basis, and the benefits enjoyed by bazaar traders, with flat payments that cover their tax obligations, have facilitated these operations.
However, while strong growth in neighboring Kazakhstan and China has created opportunities for expansion, Kyrgyzstan remains a small economy vulnerable to external shocks, particularly high energy and food prices. Persistently high inflation, coupled with the consequences of the global financial crisis in neighboring countries, threaten to undermine recent improvements in poverty levels.