Interview of ArmInfo Director General Emmanuil Mkrtchyan with Development Director, Head Management Advisory at Ameria Group, Tigran Jrbashyan (PART TWO)

Let’s return to our talk on healthy banking system. In our previous interview, even despite the serious crisis elements in the country’s economy, you talked about a growth of the lending rate, which enabled certain increase in the GDP growth rates. Many experts still cast doubt on such statistics for some paradoxical phenomena: a growth amid falling demand, decrease in capital investment and lending rates. 

All these facts are true, indeed, but the statistics on the GDP growth of the last two-years should not be disputed under any circumstances. There are strict international methods of calculation and Armenia has the best ones. As economist I dealt with the CIS macroeconomic data and I am familiar with the standards. The statistical methodology applied in Armenia is among the best ones in the CIS and Eastern Europe. It is the opinion of many international experts, not just mine. You are not the first one to dispute these figures. There permanent criticism, since ordinary citizens do not feel the GDP growth, but it is connected only with the structure of economy and revenues, the structure of income distribution which increases the dap between the poor and wealthy. Furthermore, a GDP growth amid falling living standards is quite acceptable. The statistics tells this too. Simply, one can learn to read it more professionally. The point is that Armenia’s economy developed due to specific sectors only and now we are shifting to a new cycle of economic development caused by external factors and domestic problems.

Do you think that the economy structure has changed and become more diversified? However, the country still depends on money transfers and has currency returns mainly from the mining raw materials the prices of which do not depend on us either. Therefore, our dependence on external factors is still high, isn’t it? 

So far, there is such dependence, but there are achievements too. The top sector of the last 3-4 years is agriculture. The projects and technologies applied today in agriculture speak for a big success in the field. Moreover, it is not the “bubble” we once had in the construction sector. Our agricultural sector is export-oriented with real investments in the state-of-the-art technologies. We have witness reduction in the share of the construction sector in economy. The economy structure has really changed over the last seven years. One cannot neglect this.

I don’t mean that we have achieved a structure of economy that protects us against problems and does not create such.  We cannot neglect the positive structural changes in both the energy and agriculture sectors. We have one of the most energy-efficient industries today. Armenia is among top countries in the CIS by the energy consumption-to-GDP ratio. I think the energy sector is among the ones to have undergone a serious reform. Last year, Ameria Group department for consulting was responsible for the surveys of energy reforms. It was the World Bank’s regional order. The reforms were impressive enough. Recently at a conference in Georgia where the energy, transport and other infrastructure projects were analyzed, Armenia was among leaders by its investment and export potential. The sector of renewable energy is also promising enough.

We have been speaking about high-tech economy, but there is an impression that we are moving towards that goal at snail’s pace. It is hard to sustain competition moving at such a pace.

There are quite good examples. It would do no harm if we gave a boost to technologies in the field of processing of mineral raw materials. Here also we have a bright example of a technological leap, I am speaking about the technology “Albion” introduced at the Ararat gold recovery factory. There are only three such factories in the world. We are constantly speaking of the extensive economy, while a competitive economy depends on intensity and efficiency, not on scales. Preferences should be given to competitive sectors. Why agriculture? The point is that we have unique climatic conditions for that. As the country created predictable conditions, an agriculture industry cluster immediately emerged in the sector – greenhouses, industrial gardens, industrial vineyards, and fishery. Highly efficient technologies are used in these clusters. We addressed this issue in our surveys yet 2 years ago.  Today, nearly 80ha of new greenhouses are being constructed. Yet in 2001, at the WB’s conference on Armenia in New York, I presented a project of industrial agriculture zones in Armenia. Unfortunately, more than13 years have passed since then and we have just broken the logjam.  Now, we are witnessing a greenhouse boom, gardens occupying 150-200 ha are being made in line with the best international technologies. They have begun to use power-saving heat pumps and organizing waste management facilities. As our survey team at Ameria is usually involved in the pre-project surveys for investors, we can see the business interest in deep and target-oriented surveys of separate sectors and markets growing. It is a precondition to an informed entry into relevant markets and development of effective business models in areas new for our market.

It’s perfect to have at least one agriculture industry cluster. However, farms still remain vulnerable amid developing small and mid-sized farms. They still have no sufficient access to financial resource, no collaterals etc. The system of insurance against agricultural risks does not work either.

Well, it is impossible to create a competitive industry on the area of 1-2 ha. We often bring the example of the West, mainly Europe, where farms manufacture ecologically pure industrial products and have their consumers. Let’s not forget about the colossal state subsidies to the small farms to support traditional agricultural traditions. However, you must admit that the production of small farms is not sold at supermarkets. It is the very segment of eco-production that is not intended for mass consumers. It is very expensive and only 20% of the population in Europe can afford buying ecologically pure agricultural products.  Maybe, we also need to take seriously the problems with the state support to farms and, for instance, stop subsidizing grain production, since the overwhelming part of grain is purchased from abroad.  Maybe, it is connected with the country’s food security. But I think, every issue requires a weighted approach. Grain in Armenia cannot be competitive, in principle.  It is necessary to subsidize the production of some types of gourds and cheese, some special homemade sausages, honey, jams, everything that falls into the organic produce niche segment.

One can see that most of the ‘toxic’ loans have accumulated in the segment of the small and mid-sized enterprises (SME). A couple of years ago, the leadership of our country called on banks to fund SMEs more actively. In fact, this has resulted in a reduction of the yield of banks. What will help boost the SME finance?  This sector in the developed countries accounts for at least 50% of the national income.

The situation with SME is different. First, SME in Armenia mainly operate on “B2C” (business to consumer) model. We have no production chain for industrial companies. Therefore, the B2B (business to business) model lags behind seriously. The point is that our big producers are infrastructure companies whose key vendors are outside the country.  Ameria Company’s surveys yet in 2012 revealed that the major obstacle to development of SME is not financing or taxation administration, but the falling consumer demand. That’s the problem. Consequently, I think we must develop SME also on the B2B model to create a relatively stable SME segment that will become part of the production chain.

Is that the reason why we speak of economic growth at the same time experiencing all the difficulties of economic recession?

Today’s economic structure shows that only two, figuratively speaking, ‘marginal’ segments operate in the country. It is the segment that depends on the external solvent demand - the luxury segment – and the lowest segment.  Meanwhile, there is almost no middle segment intended for the middle class solvency. The middle segment as the main source of demand is very small, especially comparing to ones in other countries in the CIS and Georgia.  There is demand in the lowest and highest segments, amid nearly no demand in the middle sector. It is connected with the structure of economy, as I have said already, with the wrong distribution of incomes.

We have another acute problem – non-proportional development of the regions. This is the very topic we rarely speak about. For instance, the north of Armenia is quite different a country with quite different structures of economy, industry, and consumption. The south of Armenia is different too. Yerevan is oasis. We must take into account the regional peculiarities and develop regional systems of economic development with their priorities. Armenia can be divided into 4 economic zones with its specific economic policy - fiscal, monetary (regulation of the banking sector), and subsidy. Providing general subsidies of interest rates for all the agricultural communities would be wrong. There must be specific subsidies for every region, as the conditions of economic management, for instance in Ararat and Shirak regions are absolutely different. We cannot have the same taxation field for all regions. The SME in Yerevan and regions are different. Our surveys revealed that the most depressive region in the country is the town of Vanadzor, not Gyumri, as the existence of the military base there creates certain demand.

Speaking of demand, many international experts forecast economic decline in Russia – the source of 80% of private transfers to Armenia.  Is it a reason to predict further reduction of aggregate demand in the country, which cannot but affect the banking system?       

The situation is complex. The major problem here is the low oil price. As a result, the gas price can be revised and reduced as well. However, I think, the lowest tariffs are in the past. We estimate the reduction of transfers in 2015 at 30%. The Central Bank’s forecasts are the same. Real loss will total nearly 400 million dollars. On the one hand, demand will fall, one the other hand, Armenia is able to upgrade its export potential with accession to the EEU, re-export opportunities and growth of investments. It appears to me that we have already received possibilities to set off losses from the falling real transfers. Nevertheless, the forecasted zero growth of GDP is so far justified. And we will probably face even more slackening growth of lending. The problem is not only in the falling demand. The point is that banks are uncertain about the situation.  Many parameters will become clear at the beginning of summer. Bank portfolios may change vectors. I think all this is a kind of trial that will make the country and the banking system embark on “rehabilitation procedures.” The country should be generous to support demand, relieve the tax burden, and provide a stimulus to development of private initiatives and entrepreneurships.