Global Economics

Georgia: Fallen Star for Investors


War with Russia has hurt Georgia's reputation as a stable investment climate, the best among former Soviet states in the Caucasus

In the 17 years since the implosion of the Soviet Union, Georgia has—perhaps more than any other Caucasian nation torn from the fringe of the Iron Curtain—transcended the remaining mess.

Throughout the 1990s Georgia and its closest neighbors were countries of bandits masquerading as leaders and graft distorting civil society in the absence of rule of law. Progress has been made throughout the region but Georgia is arguably the benchmark, a model transition democracy and economy ascending on the ambitious reforms of its bold, if at times reckless, president, Mikheil Saakashvili, who took office after the 2003 Rose Revolution. And all in the face of a petulant Russia.

Just this year the Heritage Foundation, the conservative Washington, D.C.-based think tank, praised Georgia as the world's freest labor market, not a trifling distinction in a Europe where strict labor regulations often discourage legal employment. And the World Bank heralded the country as economic reformer second to none in 2007.

Now, though, it's no exaggeration to say that Georgia's war with Russia over the breakaway region of South Ossetia has jeopardized that progress.

"The Saakashvili economic policy response to the Russian 2006 blockage [of Georgian wine and mineral water] was indeed very courageous and successful," Michael Emerson of the Brussels-based Center for European Policy Studies said in an e-mail. "His big blunder over South Ossetia risks indeed now prejudicing that major achievement."

The hostilities have already damaged the physical foundations of Georgia's economy, but looming larger is the threat to the country's now shaky reputation as a stable investment climate, which could undercut its recovery.

The extent of the physical damage is unclear, but certainly formidable. More than 150,000 people have been displaced, Georgia's large commercial port in Poti, on the Black Sea, was bombed early in the conflict, and reports have surfaced of Russian forces targeting a key railway line crossing the country and locations near the BP-run Baku-Tbilisi-Ceyhan oil pipeline running between Azerbaijan and Turkey, one of the world's longest.

CLOUDY OUTLOOK

The immediate costs of feeding and housing tens of thousands of refugees and repairing infrastructure will be hefty, surely, but potentially marginal compared with the fallout to Georgia's standing abroad.

Attracted by pro-business reforms that include a friendly tax regime, foreign investors spend around $1 billion annually in Georgia, helping to keep economic growth at around 8 percent. But who could blame investors for getting the jitters after witnessing the results of Moscow's drive to subordinate its former satellites? Furthermore, the United States and Europe have long seen Georgia as a secure energy corridor to the Caspian bypassing Russia, but the vulnerability of Baku-Tbilisi-Ceyhan and other pipelines exposed in this conflict makes plans for additional, Western-backed oil projects in the country look far too risky.

Taken together, the costs of rebuilding as investment falls could bring a devastating budget crisis, Ana Jelenkovic of the New York-based Eurasia Group global advisory firm recently told Forbes.

This, of course, is the worst-case scenario. Some major investments are sitting tight. A BP spokesman said on 21 August that the company would not reconsider the safety of its investment “in the heat of the moment.” London-based JKX Oil and Gas said the company would not comment given the delicacy of the situation in Georgia. And there isn't a chance the United States—friend to the country since the presidency of Eduard A. Shevardnadze, the man former U.S. Secretary of State James A. Baker III has called "a hero"—would abide Georgia's collapse. Deputy Treasury Secretary Robert Kimmitt went on television 19 August to pledge humanitarian and reconstruction aid, saying Georgians are "going to come through with a commitment to economic reform." Even Germany, which initially kept its mouth shut on the conflict for fear of alienating Russia, has said NATO could chip in.

It's too early to name a price tag, but some Georgian leaders are already talking in the billions of dollars. Raising the money probably won't be a problem, but that will mean little if the Caucasus and some parts of Eastern Europe remain in the eyes of investors merely a war zone in remission.

Already confidence is eroding. Both Standard & Poor's and Fitch said on 19 August that the economic damage Georgia has suffered could affect its credit ratings.

To calm nerves, Moscow and Tbilisi, with guidance and support from Washington, will have to demonstrate a commitment to stabilizing the region, not an ongoing pattern of constructing pretexts to justify violent confrontation. In a recent pro-Russia editorial in The New York Times, former Soviet President Mikhail Gorbachev suggested drafting an agreement outlawing the use of force in the Caucasus.

"The West would be wise to help achieve such an agreement now," Gorbachev wrote. "If, instead, it chooses to blame Russia and re-arm Georgia, as American officials are suggesting, a new crisis will be inevitable. In that case, expect the worst."

Provided by Transitions Online—Intelligent Eastern Europe

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