Belarus long-time leader Alexander Lukashenko, once dubbed “Europe’s last dictator,” has for years been one of the Kremlin’s closest allies, eagerly joining the new Moscow-led Eurasian Economic Union (EEU) and acting as a willing intermediary in the Minsk talks over the Ukraine conflict.
While never explicitly criticizing Russia for the annexation of Crimea, Belarus’ president has always maintained support for Ukraine’s sovereign integrity, remaining wary of its eastern neighbour’s intentions in the region.
But, as his country’s economy, still heavily reliant on Russia, dives deeper into the recession – a downturn that has been more damaging and prolonged than that experienced by Russia in 2015 – Lukashenko finds himself in a delicate position. Some are beginning to doubt whether Belarus will be able to “sit on the fence” much longer.
Lukashenko, who has been in charge of the country since 1994, has in recent years made tentative steps towards the West, including allowing opposition parties to return to parliament for the first time since 2004 and unilaterally opening the border for Western citizens. As in past years, Belarus’s flirtation with the West is in part driven by its desire to secure further financial aid during a tough period in the economy, and in part a bargaining chip to broker a better deal with Russia over gas imports.
The country’s economy has traditionally been reliant on highly subsidised Russian gas and oil imports, which was then refined and reexported to other European countries. The combination of low oil prices, drop in demand for fertilizer (potassium chloride, another major source of revenue), and Russia’s unwillingness to provide more discounts and debt write-offs over the past few years have conspired to drive Belarus’s already fragile economy to the brink.
“Lukashenko's main qualm is the Eurasian Union. Belarus never tried to hide the fact that its participation is conditioned on continued oil and gas discounts. If Minsk doesn't get a better deal, the motive behind its membership becomes moot,” said Dzmitry Kruk, a researcher at the Belarusian Economic Research and Outreach Centre.
According to figures quote by the Economist, Belarus’s GDP fell 3% this year, after plummeting 3.9% in 2015. The Belarusian rouble fell to nearly 20,000 against the USD by mid-January, 9.1% weaker from a year ago, before recovering some ground in the following weeks. Moody’s analysis indicates that Belarus is likely to remain the only CIS country to report negative growth this year.
While the government managed to maintain a budget surplus over the last year – a modest 1% of the GDP – most of it will go towards refinancing the country’s debts.
The FX reserves have made up some ground on the losses incurred over the previous two years, rising from US$800mn to US$4.9bn. But, according to Fitch, its external liabilities to overall international reserves, at 146%, is among the highest for emerging market sovereigns.
“Currently, Belarus is in a good shape. Recent stress-tests of the banking system have shown that the banks are sufficiently capitalised. And the debt to GDP ratio is sustainable. However, the trends point to emerging risks to the fiscal situation,” said Sergei Guriev, chief economist at the EBRD.
Kruk is also sceptical of debt default prospects, pointing out that even in the worst-case scenario there are sufficient reserves to cover outstanding external liabilities.
“At the same time, even the short-to-medium term outlook remains bleak, especially with sovereign debt maturities coming up next year,” Kruk agreed. “So far every year we have been able to refinance existing debt, but mostly at the expense of increasing overall sovereign debt. And as GDP continues to shrink, the pressure on the economy grows year by year.”
Inflation, which is at 10.6% and expected to hover around the 11% mark through 2017, continues to bite at Belorussian consumer spending power. With foreign direct investment averaging just US$313.32mn annually since 2000 – and reaching a record low of US$161.60mn in the second quarter of 2016 – the need for fresh capital has become as urgent as ever.
Tensions with Russia
Following the annexation of Crimea, and the introduction of Western sanctions, Russia moved to ban a range of European imports. Belarus soon became one of Moscow’s biggest trade partners in the food market, providing a steady flow of everything from exotic fruits to luxury cheese and meat products, which it was reexporting from Southern and Central Europe to circumvent Russia’s counter-sanctions. The situation was mutually beneficial: it boosted Belarus’s trade revenues, while allowing Russia to maintain the ban without too much damage for consumers.
However, recent escalation in tensions, driven by Moscow’s reluctance to maintain “friend’s rates” on commodities, and a dispute over border controls – with the FSB unilaterally imposing a “hard border” with Minsk in early February – led to Lukashenko’s trademark 15-minute rant during his recent 7-hour press-conference.
“You can’t do this. What, do they guard the border better than we do? A thousand times worse!” – he railed.
The Belarusian leader also went after the head of Rosselkhoznadzor, Russia's agricultural watchdog, who recently clamped down on Belarusian food produce for being “sub-par” – a popular tool for Russian authorities to exert pressure on disobedient neighbours.
Minsk’s relationship with Moscow has soured in the past, often an annual occurrence that usually coincides with another round of trade negotiations.
Sergey Dergachev, Senior Portfolio Manager and Lead Manager for Union Investment Privatfonds noted that traditionally it was all part of geopolitical power-play.
“In the past, when Lukashenko got some concessions, there was eventually a rapprochement between Russia and Belarus. I do not think Russia will let Belarus fail, and in the worst-case scenario, there would be financial assistance from the Russian side for Belorussian government.”
But if a trade agreement cannot be reached, the Belarusian economy is in for more shocks, experts believe. Some analysts point out that a lack of a deal could put other sectors at risk, including trade, credit, transit and social spending, with further risks to production output and domestic supplies, potentially leading to a reduction of benefits.
In recent years Belarus received around US$1.8bn from the EBRD for financing around 70 projects in various sectors of the economy. As discussions over a US$3bn 2.25% 10-year loan with the IMF continue, Lukashenko is fully aware that any agreement will come at a hefty price and a number of conditions attached.
“One of the successful pillars of Belarus’ economy from the point of view of its citizens is a strong degree of social protection, including strong equality in terms of living standards, accessibility to medicine, education and the like. Cutting many public subsidies, perhaps as one of the IMF’s conditions, could lead to severe social tensions, which Lukashenko would like to avoid at all costs,” Dergachev explained.
Investment Needs
Looking at the year ahead, according to Kruk, the main risks are a lack of growth factors and a continued recession.
“In the short-term, over the next ten to twelve months, we are likely to see more stagnation. Even if Russia sees moderate growth, it is not necessarily going to be reflected in Belarus because there are a number of systematic negative factors,” he concluded.
An influx of foreign capital could provide the vital boost to Belarus’s biggest industries, including food, chemical and metalworks. Lukashenko has for years pushed to raise domestic production levels, but poor infrastructure, lack of access to international capital markets and a deficit of foreign expertise meant that this goal continues to be elusive.
That is not to say that international investors lack appetite: Belarus has decent fundamentals and a solid base to develop farming, agriculture, natural resources and a range of other industries, as well as high levels of public finance and human development. As relations with the West continue to thaw, investors are likely to be drawn to the opportunities the country offers.
“For now, I expect two types of investors to consider Belarus,” Kruk noted. “The first are those who are looking for a cheap and well-trained work force – that market is likely to remain open for the foreseeable future. The second are those with a long-term, fifteen to twenty year outlook.”
The expert also speculated that Belarus is likely to tap international debt markets this year – especially if it should fail to secure the IMF loan.
The Minister of Finance has hinted about issuing as much as US$800mn in 2017. Belarusian debt currently offers between 5.5-6%. If the country manages to issue at these current prices, it would be a cause for celebration; anything below 7.5% would be considered a success, Kruk explained.
In the meantime, economists agree that Belarus urgently needs to improve the quality of governance of its state-owned enterprises and state banks, privatise them, and liberalise the access of foreign investors.
“If done competently these reforms can maintain social cohesion without resulting in increase in poverty, like the recent reform of communal utility tariffs. However, time is running out and the reforms should start rather sooner than later,” Guriev stated.
As the country’s economy crumbles under growing pressure, Lukashenko will find it increasingly hard to balance on the Eastern and Western allegiances. Appeasing the EU risks antagonizing Russia further and potentially opening another front on its border. But making a deal with the Kremlin could undermine Belarus’s sovereignty – and Lukashenko has always been opposed to more outside influence. Even for an experienced and shrewd politician like him, the choice is far from a simple one.
