armenia and georgia economic relations

80 Pages·2008·2.6 MB·English

UNREALISED OPPORTUNITIES 1
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2 ARMENIA AND GEORGIA ECONOMIC RELATIONS
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This Study has been elaborated by UNDP Armenia to support the
Cross-Border Cooperation Project between Shirak and Samtskhe-Javakheti
Regions implemented jointly with the financial support of UNDP and the
Norwegian Government.
The Study has been implemented under the supervision and coordination of
Mr. Armen Yeghiazaryan and Mr. Tigran Jrbashyan, and with active
participation of Mr. Ashot Iskandaryan, Mr. Sargis Grigoryan, Mr. Artashes
Shaboyan, Mr. Grigor Sargsyan, Mr. Pavel Hovhannisyan, and Mr. Tigran
Grigoryan. We would like to thank our Georgian colleague Mr. Merab Kakulia
for his contribution in the development of the Study.
The Study covers the period up to July 2007.
4 ARMENIA AND GEORGIA ECONOMIC RELATIONS
TTAABBLLEE OOFF CCOONNTTEENNTT
List of Abbreviations...............................................................................................................5
Introduction.............................................................................................................................6
Executive Summary................................................................................................................7
Background...........................................................................................................................11
Part 1 Analysis of Existing Legal Base.................................................................................16
1. Trade Regulations.............................................................................................................16
Free Trade Agreement between Georgia and Armenia / CIS’s Free Trade Zone................16
World Trade Organisation.....................................................................................................21
Generelized System of Preferencies....................................................................................21
2. Investment Promotion and Protection..............................................................................22
Investment laws and institutional framework........................................................................22
Investment treaties...............................................................................................................25
Part 2 Trade and Investment Flows between Armenia and Georgia....................................28
Trade in services...................................................................................................................33
Foreign direct investments....................................................................................................37
Part 3 Quantitative Analysis and Econometric Estimations..................................................40
Model setup..........................................................................................................................40
Data mining...........................................................................................................................43
Estimation and Results.........................................................................................................45
Part 4 Analysis of the current status of economic relations between Armenian and
Georgian bordering regions..................................................................................................49
Socio-Demographic trends...................................................................................................49
Population and area of bordering regions............................................................................49
Poverty..................................................................................................................................51
Labour market.......................................................................................................................52
Economic development status of the regions.......................................................................56
Industry.................................................................................................................................56
Agriculture.............................................................................................................................58
Construction..........................................................................................................................60
Transport and communication..............................................................................................61
Trade turnover......................................................................................................................62
Business Demography..........................................................................................................62
Part 5 Assessment of possible impact from the conclusion of Free Trade Agreements
with the EU...........................................................................................................................65
Current regime and existing trade patterns..........................................................................65
Application of the Algerian Free Trade Agreement model....................................................66
Accession of Bulgaria and Romania....................................................................................69
FTA impact on EU-Armenia trade flows...............................................................................69
Growth of Georgian exports of transport services................................................................71
Alternative option: GSP plus.................................................................................................71
Rules of origin and cumulation.............................................................................................71
Conclusions and Recommendations....................................................................................73
Annex 1.................................................................................................................................78
Annex 2.................................................................................................................................80
Annex 3.................................................................................................................................81
Annex 4.................................................................................................................................82
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LLIISSTT OOFF AABBBBRREEVVIIAATTIIOONNSS
ACP - African, Caribbean, and Pacific
AEPLAC – Armenian-European Policy and Legal Advice Centre
AMD – Armenian Dram
BITs - bilateral investment treaties
bln. – billion
BOP – Balance of Payments
CIS – Commonwealth of Independent States
CPI – Consumer Price Index
EBRD – European Bank for Reconstruction and Development
EC – The European Commission
ENP – European Neighbourhood Programme
EU – The European Union
FDI – Foreign Direct Investments
FTA – Free Trade Agreement
GATS - General Agreement on Trade in Services
GATT - General Agreement on Tariffs and Trade
GDP – Gross Domestic Product
GEL – Georgian Lari
GNFEA - Goods Nomenclature of Foreign Economic Activity
GNIA – Georgian National Investment Agency
GSP - Generalized System of Preferences
GUUAM - Georgia, Ukraine, Uzbekistan, Azerbaijan and Moldova free trade agreement
ICSID - International Centre for the Settlement of Investment Disputes
IFS - International Financial Statistics
Km. – Kilometre
MFN – Most Favoured Nations
MITs - Multilateral Investment Treaties
NGO – Non-Governmental Organisation
NSS RA – National Statistical Service of the Republic of Armenia
OECD – Organisation Economic Cooperation and Development
PRSP – Poverty Reduction Strategy Paper
RF – Russian Federation
SACU - Southern African Customs Union
Sq. Km. – Squire Kilometre
TACIS – Technical Assistance to Commonwealth Independent States
TC - transportation costs
TDCA – Trade Development and Cooperation Agreement
TRACECA - Transport Corridor Europe-Caucasus-Asia
UNCTAD - United Nations Conference on Trade and Development
UNCITRAL - The United Nations Commission on International Trade Law
USA – United States of America
US – United States
USSR – Union of Soviet Socialist Republics
USD – United States Dollar
VAT – Value Added Tax
WITS - World Integrated Trade Solution
WTO – World Trade Organisation
6 ARMENIA AND GEORGIA ECONOMIC RELATIONS
IINNTTRROODDUUCCTTIIOONN
Due to historical, geographical and national factors, the economies of Armenia and Georgia
have numerous similarities. The relations between these two countries became even deeper when
they formed part of the USSR. After the collapse of the Soviet Union, in the beginning of 1990s,
some of these economic relations were weakened due to the economic crises in Armenia and
Georgia. In the 1990s, the economic blockade of Armenia made Georgia the most important eco-
nomic partner of Armenia. Since Georgia became the only transit corridor for Armenian exporters,
the economic relations between Georgia and Armenia were intensified.
During the second half of 1990s, a number of agreements were concluded between Armenia
and Georgia in state and intergovernmental levels (e.g. free trade agreement, agreements in the
fields of taxation, customs, and other economic activities).
The economic growth in both countries will obviously create new opportunities for economic
cooperation. In this context, regional cooperation becomes more and more important for growing
economies.
The overall objective of this Study is to foster the economic cooperation between Georgia and
Armenia through improvement of the relations between these two countries in fields of trade, invest-
ment, and transportation. Moreover, the specific objective of the Study is to contribute to the
improvement of the socio-economic conditions of the population in Shirak (Armenia) and Samtskhe-
Javakheti (Georgia) regions by activating and fostering cross-border cooperation.
The Study also has the mandate of contributing to the initiation of a regional dialogue between
Armenian and Georgian authorities and the civil society aimed at the intensification of regional rela-
tions. It can be foreseen that the conclusions and recommendations set forth in this Study will con-
tribute to this process and will promote also discussions between international organizations active
in the region, intense dialogue between the Armenian and Georgian authorities and decision mak-
ers on possible strengthening of economic relations and on regional development issues, as well
as foster business relations between these two countries.
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EEXXEECCUUTTIIVVEE SSUUMMMMAARRYY
Development of trade relations with other countries and especially with neighbouring countries
is one of the key elements of economic development of a country, as well as for overall regional
development.
To support this process in Armenia and Georgia, this Study highlights the importance for devel-
opment of a strategic partnership between these two countries, reviews and analyses current trade
and investment relations, as well as provides possible scenarios for further development of such a
partnership.
This Study consists of five thematic parts and a part dedicated to conclusions and recommen-
dations.
Part I - Analysis of Existing Legal Base - highlights specific issues related to the legal bases of
Armenia-Georgia trade and investment relations. This part provides a comparative analysis of the
Armenian and Georgian legislation regulating bilateral and multilateral trade relations, trade
regimes, and investment issues. It highlights also the existing legislative gaps and describes legal
issues hindering the development of trade and investments flows between two countries.
The Free Trade Agreement concluded between Armenia and Georgia entered into force in
1995. It aims to promote the establishment of stronger trade and commercial ties between partici-
pating countries and to promote free trade in goods by eliminating tariffs, customs duties and quan-
titative restrictions. It is consistent with the WTO rules i.e. with the definition set forth in Article
XXIV:8 (b) of the General Agreement on Tariffs and Trade of 1994 (GATT). The Agreement elimi-
nates all customs duties on goods originating in the territory of the countries that meet the require-
ments for “originating goods”.
This part elaborates on a bilateral investment agreement, which was signed between Armenia
and Georgia on 4 June 1996 and entered into force on 18 January 1999. This agreement establish-
es the terms and conditions for private investments by nationals and companies of one country in
the other country. The Agreement envisages international minimum standards of treatment guaran-
teed to foreign investors such as fair and equitable treatment, full protection and security, MSN
(Most Favoured Nation) treatment, national treatment, etc.
This part examines also the investment acts of Georgia and Armenia, which are quite liberal
compared with the relevant legislations of some other CIS countries. They provide for guarantees
to foreign investors in regard to their rights in a transparent and single document.
Part II - Trade and Investment Flows between Armenia and Georgia - analyses trade flows
between Armenia and Georgia, including trade in goods and services, trade concentration, trade
structure and volumes, as well as other related issues, such as transportation costs, tourism, etc.
Moreover, this part provides also an analysis of investment flows between Armenia and Georgia,
main areas of FDI, its structure and volumes. As regards trade in goods, Armenia plays an active
role in terms of merchandise trade. The main Armenian exports to Georgia include cement and cof-
fee. The Armenian imports from Georgia mainly consist of sugar, fertilizers, citrus fruits, and
processed wood. The concentration index shows that the trade between these two countries is
being diversified year by year. As to the trade in services, it can be stated that given the favourable
geographical location of Georgia, it has significant revenues from its export of services. In particu-
lar, Georgia highly benefits from its export to Armenia of transport and tourism services, and has
rather high revenues from transit of gas. On the other hand, the high volume of service imports from
Georgia to Armenia is due to the fact that Armenia is a landlocked country.
The two countries are weakly interlinked with each other in terms of foreign direct investment,
although there is an upward trend in the flows from Armenia to Georgia. This means that Armenia
again plays the role of an active partner. The high growth of investment flows to Georgia during the
8 ARMENIA AND GEORGIA ECONOMIC RELATIONS
recent years can be explained by the construction of the Baku-Tibilisi-Ceyhan pipeline. The growth
of FDI inflows to the Georgian economy shows that the investment climate has improved during the
preceding years.
Part III - Quantitative Analysis and Economic Estimations - provides an econometric analysis of
existing trade flows between Armenian and Georgia, as well as envisages different scenarios with
different terms and conditions of trade relations. One of the main hypotheses is that although the
growth of imports of goods from Georgia lags behind the growth of exports from Armenia to
Georgia, the difference is covered by growth of imports of services from Georgia. Should the living
standards in Georgia be improved, the volume of imports from Armenia will decrease, since the
Armenian imports to Georgia will be substituted by similar products – with higher quality - imported
from the EU and other countries.
It is estimated that a one-percent increase in unit prices of exportable goods will have a rather
insignificant impact on the exports: it will decrease only by approximately 0.09%. In other words,
price elasticity of Armenian exports to Georgia is very inelastic due to the high level of concentra-
tion of Armenian exports to Georgia (Armenia mainly exports to Georgia five types of goods, of
which cement is the major one).
It is projected also that a one-percent change in the consumer prices (inflation) in Georgia will
bring to a 1.42% increase in exports of goods from Armenia. This is explained by the differences in
the monetary policies pursued in Armenia and Georgia.
Moreover, estimation results show that ceteris paribusone-percent increase in Georgian house-
hold expenditures in US$ terms will result in a decrease in imported goods from Armenia by 1.1%.
A negative effect of consumption on demand for imports is explained by the fact that the richer the
people, the more they are inclined to substitute their consumption with more expensive goods.
Besides, both Azerbaijan and Turkey have become serious competitors to the Armenian exports. In
addition, during the past 4-5 years, the Armenian economy has been growing at a fast pace, which
has led to the redirection of the demand for the same exportable goods towards domestic consump-
tion. For instance, the boom of construction in Armenia has created an extra demand for cement;
however cement producing factories have reached their full capacity utilisation and are, therefore,
not able to supply the entire domestic market. To this end, it has become necessary to cut down the
volume of cement export to Georgia.
Part IV - Analysis of the Current Status of Economic Relations between Armenian and Georgian
Bordering Regions - describes the socio-economic situation of Armenian and Georgian bordering
regions, including issues related with the population, consumption, labour force, main economic
activities (agriculture, industry, trade, etc.). Moreover, this part provides information on comparative
advantages of the development of economic relations between bordering regions of Armenia and
Georgia.
This part of the Study highlights that comparatively higher wages in Kvemo Kartli region can be
attributed to the existence of a number of industrial giants in the main city (Rustavi) like Azot chem-
ical combine and the metallurgical plant. In addition, there are also two mining companies engaged
in the extraction of copper and gold, as well as a thermal power plant (Mtkvari Energetika). Kvemo
Kartli accounts for more than ¼th of overall industrial output in Georgia.
The analysis shows that the poverty level in Armenia is higher in urban areas than in rural ones,
while in Georgia it is vice versa. Taking into account the structure of the population by urban and
rural settlements, it is obvious that bordering regions of Armenia and Georgia have higher poverty
level in comparison with their countries average indicators.
While the comparison of average wages by regions shows the advantage of Kvemo Kartli
region, the poverty level indicator is the worst in this region if compared with the other observed
regions. This speaks about significant disparities within Kvemo Kartli, especially if we compare the
income levels of urban and rural populations.
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The comparison of per capita industrial output shows the advantage of Kvemo Kartli region
where in 2005 the indicator of per capita industrial output was twice higher than in Lori and about
eight times higher than in Shirak and Tavush regions. This is due to the existence of industrial giants
in Rustavi only.
The observation of agricultural data in the bordering regions and the definition of some compar-
ative advantages of separate regions show that the cooperation between Georgian and Armenian
bordering regions can be as follows: cereals and animal husbandry products from the Georgian side
and potato and vegetables (as well as fruits from Tavush) from the Armenian side.
As a main finding of this part, it can be stated that developing services sector (tourism, trade,
transportation and other) from the Georgian side can be one of the main fields of cooperation with
the Armenian regions. The labour from mainly the urban areas of Shirak and Lori can be quite use-
ful in infrastructural construction activities. In addition to this, the Armenian regions, especially
Shirak, have a potential of developing their manufacturing activities given the large share of urban
population.
The comparison of the data on industrial output, construction and services volume as well as
the data on wages shows that Samtskhe-Javakheti is the less developed region among the five
observed regions. This could be the decisive reason for/ the factor underlying the growth of con-
struction in the last years and the large development projects which shall take place in this region
(for example the funds from the Millennium Challenge Corporation as well as EU Tacis projects
funds).
Part IV - Assessment of Possible Impact from the Conclusion of Free Trade Agreements with
the EU - provides basic information on the EU FTAs, and describes the possible impacts of con-
cluding an FTA with the EU on Armenia-Georgia trade relations, trade flows and structure.
Calculations made within the framework of this Part show that of the conclusion of an EU-
Armenia FTA will lead to a 0.55% reduction of EU-27’s trade-weighted average tariff rate, while
Armenia’s trade-weighted average tariff rate will drop by 3.11%. Moreover, this will contribute to
1.55% and 4.24% increase of Armenian exports and imports to, and from the EU-27, respectively.
In case Armenia obtains the ‘GSP plus’ regime, the Armenian exports to the EU will increase by
1.6%, and the Georgian exports of transport services to Armenia will increase by 0.06%.
The last part of the Study provides conclusions and recommendation drown on the basis of the
analyses and findings of the above mentioned five parts. The Study includes short- and long term
recommendations, which, by their nature, are possible solutions for intensification of trade relation
between Armenia and Georgia, as well as the trade relations of Armenia and Georgia with other
countries. The core message of these recommendations is the creation of a single economic area
between Armenia and Georgia, which may potentially foster trade relations between the two coun-
tries, as well as with third countries, and boost the economic development of the whole region. The
main conclusions can be formulated as follows:
- Economic relations between Armenia and Georgia are concentrated in the fields of trade in
goods and services, investments and transit. The Study shows that within the framework of
these relations, the two countries have rather different roles in terms of the nature thereof:
Armenia is the more active economic partner considering that trade in goods is one of the main
areas of Armenia’s interaction with Georgia, while Georgia can be considered as a passive part-
ner since Georgia is mainly providing transit services to Armenia.
- However, diversification of economic relations between Armenia and Georgia is observed.
Although a decline of concentration in trade in goods is noted, both exports remain relatively
concentrated (Armenia - trade in goods; Georgia - trade in goods, services, including transit).
The diversification is more intensive in Armenia than in Georgia, which is shown by the analy-
ses of elasticity and monetary policy of both countries.
10 ARMENIA AND GEORGIA ECONOMIC RELATIONS
- Rather passive economic development in the bordering regions of Armenia and Georgia is
explained by the low development level of bordering regions. The intensification of economic
relations, therefore, is rather low since there is no developed region able to promote cross-bor-
der economic development and intensification of trade and investment relations in the border-
ing parts of the two countries.
- The provisions of the bilateral investment agreement (including the double taxation treaty) are
not utilized effectively and there is a need to ratify the other outstanding bilateral investment
treaties and negotiate new ones.
- It is projected that the conclusion of separate FTAs with the EU (i.e. EU-Armenia and EU-
Georgia FTAs) will intensify the economic relations between Armenia and the EU as well as
Georgia and the EU, but it will have a very low impact on the development of Armenia-Georgia
economic relations. Conclusion of an FTA between the EU and Armenia-Georgia will promote
joint production of Armenian and Georgian exports to the EU.
Summarizing the above mentioned conclusions, it can be stated that the creation of a single
economic area between the two countries will: 1) reduce the possibility of applying trade restrictions
on Armenia and Georgia by other more developed countries, 2) create wider possibilities for devel-
opment of trade relations with the EU-27, 3) reduce trade related transaction costs (certification,
accreditation, conformity assessment, etc.), 4)l promote internal investments in the area, 5) attract
foreign investments, and 6) significantly contribute to the overall development of Georgia and
Armenia.
The core recommendations of the Study are mainly related with the conclusion of a new free
trade agreement between Armenia and Georgia, which will provide for the necessary steps and
appropriate actions to be implemented in view of creating a common market without frontiers; in all
these stages of economic integration between the countries different aspects of economic policy
should be harmonised with the EU requirements and approaches.
Moreover, it is recommended for Armenia to sign a Free Trade Agreement with the EU, which
will stipulate provisions that allow using the trade preferences provided by the EU with unlimited use
by Armenia of inputs originating in Georgia (cumulation of origin principle). This provision should be
also included in Georgia-EU FTA. Following the completion of the Caucasian Common Market,
these two agreements should be replaced with a single FTA.