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2013 Investment Climate Statement - Kyrgyz Republic


2013 Investment Climate Statement
Bureau of Economic and Business Affairs
February 2013
Report
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Overview of Foreign Investment Climate

The Kyrgyz Republic enjoyed a year of relative stability in 2012 following the inauguration of President Almazbek Atambayev in December 2011, the first peaceful, democratic turnover of presidential power in the nation’s history as well as in Central Asia.

The Kyrgyz Republic has a liberal investment regime on paper with a broad base of commercial laws in place. These laws, however, are not always implemented consistently and the legal concept of contract sanctity is problematic.

Kyrgyz laws on foreign investment guarantee protection for foreign investors from expropriation and nationalization. Individual investors have become involved in disputes over licensing, registration, and enforcement of contracts. Corruption remains a serious problem despite the government’s efforts to combat it. The Commercial Arbitration Court of the Kyrgyz Republic was established in April 2004 but remains underutilized. As of 2012, the court had adjudicated only 40 cases, none of which involved foreign investors.

It is official government policy that there is no discrimination against foreign investors. However, procedures for licensing and approvals are not always transparent, which can make the process seem discriminatory. Tax authorities often apply greater scrutiny to foreign entities than domestic entities operating in the Kyrgyz Republic. However, Kyrgyz officials are also working to streamline customs procedures to spur foreign trade and investment.

Foreign investors must register their firms with the Ministry of Justice. In addition to company registration, expatriate employees must obtain a work permit from the Ministry of Youth, Labor and Employment. The work permit process may involve lengthy delays and is not synchronized with an employee’s visa. Visa requirements and fees may change on short notice. In order to navigate the business environment, many foreign investors form joint ventures with local partners.

With U.S. Government advice, Kyrgyz authorities have taken steps to reduce regulatory barriers in order to benefit the business sector. However, effective implementation of these new business regulations remains a challenge.

Banking laws do not discriminate against foreign banks. Occasionally, foreign institutions seeking new banking licenses from the National Bank of the Kyrgyz Republic (NBKR) have encountered difficulties in trying to establish operations in the country. There are nine foreign banks operating in the Kyrgyz Republic. No U.S. banks operate in the country.

Measure

Year

Ranking

Index

Transparency International Corruption Index

2012

154/174

24

Heritage Economic Freedom

2012

89/177

60.2

World Bank Doing Business

2013

70/185

70

       

MCC Scorecard Categories

 

Percentage Score

Raw Score

MCC Gov’t Effectiveness

2012

73%

0.26

MCC Rule of Law

2012

31%

-0.34

MCC Control of Corruption

2012

27%

-0.25

MCC Fiscal Policy

2012

43%

-4.0

MCC Trade Policy

2012

83%

75.4

MCC Regulatory Quality

2012

91%

0.55

MCC Business Start Up

2012

98%

0.989

MCC Land Rights Access

2012

88%

0.71

MCC Natural Resource Protection

2012

27%

20.2

MCC Access to Credit

2012

94%

50

MCC Inflation

2012

15%

16.6

Openness to, and Restriction upon, Foreign Investment

The Kyrgyz Republic is open to foreign direct investment and the government publically recognizes that foreign direct investment is an important component to growing the economy. Laws exist that make the investment climate more favorable, than previously, for foreign companies. Application of these laws, however, is inconsistent, which can cause problems for and deter foreign investors. In addition, government activities, including constant renegotiation of operating contracts that were legally concluded, commissioning invasive and time consuming audits, levying large retro-active fines, and disputes over licenses are impediments to foreign investment. The justice system in the Kyrgyz Republic is inefficient and cases may take years to settle, if ever.

In its January 2013 Sustainable Development Strategy Roadmap, the government acknowledged that “attracting investment requires having transparent and well-functioning legislation that provides actual protection of rights of ownership, reduces interference from the state and eliminates corruption, having a stable finance system, ability to provide benefits to the investors and similar treatment for both foreign and domestic investors.” The government is working to lay the foundations for these key components.

Conversion and Transfer Policies

Foreign exchange is widely available and competitive. The local currency, the som, is freely convertible and stable, trading in a narrow range for all of 2012. As of January 10, 2013, the exchange rate was 47.42 soms to the U.S. dollar. The National Bank of the Kyrgyz Republic conducts weekly inter-bank currency auctions, in which competitive bids determine market-based transaction prices. Banks usually clear payments within a single business day.

Complaints of currency conversion issues are rare. With occasional exceptions in the agricultural and energy sectors, barter transactions have largely been phased out. Payment disputes adjudicated through the court system can be extremely lengthy and inconsistent.

Expropriation and Compensation

In 2012, the government of the Kyrgyz Republic did not expropriate or nationalize any foreign businesses. Some Kyrgyz parliamentarians and government officials advocated for the nationalization or renegotiation of the agreement underpinning foreign investment in the Kumtor gold mine and also discussed reallocation of mining and radio spectrum licenses. The President and Prime Minister did not support these views. Foreign investors have the right to compensation in the case of government seizure of assets. However, there is little understanding of the distinction between historical book value, replacement value and actual market value, which brings into question whether the government would provide fair compensation in the event of expropriation.

Dispute Settlement

The Law on Commercial Arbitration allows for international and domestic arbitration of disputes. If feasible, the arbiter and the terms of arbitration should be identified in the initial contract. Establishing the terms for arbitration beforehand may prevent further complications in the event of a dispute. There has been little recourse to arbitration in the Kyrgyz Republic, as yet, so it is uncertain how such cases might result and how the results of arbitration might be respected or enforced in practice.

The Kyrgyz Republic is a member of the International Center for the Settlement of Investment Disputes (ICSID). It signed the ICSID agreement on June 9, 1995, and ratified it on July 5, 1997. The Kyrgyz Republic became a member of the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards on March 18, 1997.

Performance Requirements/Incentives

A World Trade Organization (WTO) member, the Kyrgyz Republic is compliant with WTO Trade Related Investment Measures obligations. The Kyrgyz government also reduced the tax burden on repatriation of profits by foreign investors to conform to the tax rate for domestic investors. As a remote country that is loosely integrated with the world economy, the Kyrgyz Republic has little practical experience working under the guidelines of WTO and the country’s treaty obligations remain poorly understood by many within the government.

The Kyrgyz government adopted a new tax code, which took force in January 2009, which aims to be more business and investment friendly. Under the new tax code, a number of taxes were abolished and some new taxes were introduced, including a reduction of the VAT rate from 20% to 12%. Hotel, advertising and resort taxes were abolished. A unified sales tax replaced several previous taxes, and property taxes were also introduced. The new tax code, at least on paper, also establishes a presumption of innocence for the taxpayer, improves collection provisions, and supports automation and e-filing.

Payroll taxes, such as social fund payments used for the National Pension System, are complex. Many recent tax inspections of companies, including foreign companies, focused on social fund payments. Potential foreign investors are encouraged to hire a local tax adviser before they start their operations in the Kyrgyz Republic. Due to the complexity of the tax code reforms, many tax inspection and collection employees are ignorant of the subtleties and have been accused of using their positions for personal enrichment.

Right to Private Ownership and Establishment

Foreign and domestic private entities may own business enterprises and engage in a broad range of commercial activities. Foreign entities are expressly forbidden from owning land, including farmland, although regulations allow for up to 99-year leases of property.

Foreign investors are theoretically given equal treatment under Kyrgyz law. In reality, the business operating environment is complex in the Kyrgyz Republic and many foreign investors are disadvantaged less by outright discrimination than by a simple lack of knowledge of how to "work the system."

There is no prohibition on foreign rental of land for residences or factory sites. A central land registry has helped potential lenders and others deal with the financing of real property (e.g., land, buildings, and other improvements). Yet, the banking system of the Kyrgyz Republic remains relatively undeveloped and uncompetitive by international norms. The introduction of property taxes may make land ownership more transparent.

Protection of Property Rights

Property right protections are slowly emerging. The judicial system, however, remains under-developed and lacks independence. Due to the structure of the system, the appeals process can be lengthy and subject to prolonged appeals. Court actions can force the sale of property to enforce payments and other contractual obligations.

The Kyrgyz Republic is obligated to protect intellectual property rights as a member of the WTO. The Kyrgyz Republic acceded to both the WIPO Copyright Treaty and the WIPO Performances and Phonograms Treaty in 2002. Counterfeit goods made primarily in China, however, are widely available.

Transparency of the Regulatory System

The legal and regulatory system of the Kyrgyz Republic continues to develop slowly. The process of implementing regulations and court orders relating to commercial transactions remains inconsistent. Some court decisions, which appear to contradict established procedures, can be implemented expeditiously in certain cases and are subject to outside influence. The Kyrgyz system is heavily bureaucratic and investors must overcome a great deal of red tape in order to conduct business.

There is an investment department at the Ministry of Economy and Antimonopoly Policy, which assists investors with bureaucratic procedures. This department also consolidates information about potential investment projects in the Kyrgyz Republic. However, the total efficacy of this office in assisting firms with setting up shop is limited since official bureaucratic procedures comprise only some of the hurdles to opening a business. An investment council, under the auspices of the president, exists to further regulatory improvements for the business climate. Contradictory government decrees often create bureaucratic paralysis or opportunities for undocumented incentives to be requested in order to complete normal bureaucratic functions. As with many aspects of life in the Kyrgyz Republic, the laws are sound but the implementation is weak.

Efficient Capital Markets and Portfolio Investment

The National Bank of the Kyrgyz Republic is a nominally independent body and regularly intervenes in the market to stabilize the Kyrgyz som against the U.S. dollar. The currency is freely convertible and Kyrgyz bonds are available for foreign ownership. According to the Kyrgyz National Statistical Committee, the Kyrgyz Republic's Consumer Price Index increased by 5.76% in 2012, 4.6% in 2011, and 15.4% in 2010. The economy of the Kyrgyz Republic is primarily cash-based, although non-cash consumer transactions, such as debit cards and transaction machines, grew for the past few years.

There are two stock exchanges in the Kyrgyz Republic (Kyrgyz Stock Exchange and Stock Exchange Kyrgyzstan), but all transactions are conducted through Kyrgyz Stock Exchange. In 2011, the total value of transactions amounted to 1.04 billion soms (approximately $22 million) compared to 1.5 billion soms ($32.7 million) in 2011.

Total capitalization of the banking sector as of October 2012 was around 9.1 billion soms or roughly $194 million and increased by 5% in local currency terms and by 3.2% in USD compared with 2011. There are currently 22 functioning commercial banks in the Kyrgyz Republic, with a total of 269 branches throughout the country.

There are nine foreign banks operating in the Kyrgyz Republic. Demir Bank, Bank of Asia, National Bank of Pakistan, Halyk Bank, Kazcommerce Bank - Kyrgyzstan, FinanceCredit Bank and UniCredit Bank are entirely foreign held. Other banks are partially foreign held, including Manas Bank and Kyrgyz Investment and Credit Bank (KICB). KICB has multinational organizations as shareholders including the European Bank for Reconstruction and Development, Economic Finance Corporation, the Aga Khan Fund for Economic Development and others. The National Bank of the Kyrgyz Republic took control of Asia Universal Bank (AUB) in April 2010 and reorganized it under the new name of Zalkar Bank, which it plans to privatize. Although no U.S. bank operates in the Kyrgyz Republic, many Kyrgyz banks maintain correspondent relations with U.S. and other foreign banks to facilitate short-term commercial lending, such as letters of credit.

Outside investors rarely sought financing from domestic banks. Bank lending is heavily biased towards short-term loans, although mid-term loans are being offered as well. The micro-finance sector in The Kyrgyz Republic is robust, representing nearly half the market size of the banking sector. As of October 2012, the micro-finance loan stock was valued around $357 million. Agriculture accounted for half of the loans, followed by trade and consumer loans. The average interest rate in the banking sector was 22.45%, as opposed to the micro-finance sector where the average interest rate is 35% (more than 50% higher) due to the vast majority of the micro-finance loans being handled in rural areas outside of Bishkek. As the sector is still developing, protests over unethically high interest rates and abuses grab headlines and the sector at times comes under attack by members of Parliament.

Since March 2008, new banks must have a minimum charter capital requirement of 600 million soms ($12.8 million). Banking laws also require that banks maintain a 10% reserve with the National Bank. A deposit insurance system exists for the benefit of individual investors.

With the support of the government, accounting systems in banks and enterprises are being converted to international standards. In addition, international assistance programs contributed to rapid progress in reaching these standards via accounting training and certification.

Competition from State-Owned Enterprises (SOEs)

There are no nationally-owned companies in the Kyrgyz Republic that compete unfairly with private companies. Most state owned enterprises are uncompetitive, Soviet-legacy organizations.

Corporate Social Responsibility (CSR)

Corporate social responsibility is not a fully developed concept or practice in the Kyrgyz Republic. The companies that generally demonstrate CSR are large, foreign owned companies that participate in, or lead, industry-strengthening training sessions, work with local universities to develop internship programs and donate to national development projects. Most Kyrgyzstani owned companies have not yet developed the capacity to coordinate with civil society on this level.

Political Violence

The Kyrgyz Republic enjoyed a year of relative stability in 2012 following the inauguration of President Almazbek Atambayev in December 2011, the first peaceful, democratic turnover of presidential power in the nation’s history. The governing coalition changed peacefully in September with no impact on foreign business or investment interests. The government was politically stable, withstanding periodic protests organized by opposition politicians. Concerns about law enforcement abuses and human rights violations in the country remain. Inter-ethnic tensions persisted in the southern region of the country but did not have a destabilizing effect on the government. Supporters of extremist groups such as the Islamic Movement of Uzbekistan (IMU), Al-Qaeda, and the Eastern Turkistan Islamic Movement remain active in the Central Asia region. These groups have expressed anti-U.S. sentiments and could potentially target U.S.-affiliated concerns. With U.S. assistance, the Kyrgyz Government has improved border and public security and the Kyrgyz Republic has, thus far, remained a peaceful country.

The Department of State urges U.S. citizens to consider carefully travel to Batken, Osh, and Jalalabad Oblasts in the south where violence broke out several times in recent years, and along the Kyrgyz-Tajik border. U.S. citizens planning to travel to the Kyrgyz Republic should refer to the U.S. Department of State for updated security information. This information is available on the Internet at http://travel.state.gov.

Corruption

Corruption remains a serious problem at all levels and in all sectors of Kyrgyz society and the economy. According to the Transparency International Corruption Perception Index, in 2012 the Kyrgyz Republic ranked 154th out of 176 countries surveyed. Kyrgyz politicians and citizens alike are aware of the systemic corruption but the problem is deeply entrenched and difficult to fight. Moreover, many in the Kyrgyz Republic view paying of bribes as the most efficient way to receive government assistance and many, albeit indirectly, gain benefits from corrupt practices.

The Kyrgyz Republic is a signatory of the UN Anticorruption Convention but not party to the OECD Convention on Combating Bribery of Foreign Public Officials in International Business Transactions. The Kyrgyz Government recently announced a number of initiatives to fight corruption. Current President Almazbek Atambayev established a new anticorruption service within the State Committee on National Security. The service has taken action against a limited number of ministers and parliamentarians. The Kyrgyz Government encourages all companies to establish internal codes of conduct that, among other things, prohibit bribery of public officials, but not all companies have effective internal controls. The Kyrgyz Republic has laws that criminalize giving and accepting a bribe, with penalties ranging from a small administrative fine to a prison sentence, but the government’s active enforcement of these laws is uneven. While, at times, senior government officials take anti-corruption efforts seriously, a truly serious, sustained effort would probably result in more consistent enforcement of the existing laws.

Operating a business in Kyrgyz Republic will likely involve some or all of the following experiences. The Government of the Kyrgyz Republic issues special license plates to foreign business owners, which the police target for regular stops. Foreign businesses may also find themselves the subject of frequent tax audits and have a variety of inspectors consistently visiting their establishments. Each experience opens the door for bribery.

Corruption, including bribery, raises the costs and risks of doing business. Corruption has a corrosive impact on both market opportunities for U.S. companies and the broader business climate. It also deters international investment, stifles economic growth and development, distorts prices, and undermines the rule of law.

It is important for U.S. companies, regardless of their size, to assess the business climate in the relevant sector in which they will be operating or investing, and to have an effective compliance program or measures to prevent and detect corruption, including bribery. U.S. individuals and firms operating or investing in foreign markets should take the time to become familiar with the relevant anticorruption laws of both the Kyrgyz Republic and the United States in order to properly comply with them, and where appropriate, they should seek the advice of legal counsel.

The U.S. Government seeks to level the global playing field for U.S. businesses by encouraging other countries to take steps to criminalize their own companies’ acts of corruption, including bribery of foreign public officials, by requiring them to uphold their obligations under relevant international conventions. A U.S. firm that believes a competitor is seeking to use bribery of a foreign public official to secure a contract should bring this to the attention of appropriate U.S. agencies.

Bilateral Investment Agreements

The Kyrgyz Republic currently enjoys bilateral investment treaties with the United States, Armenia, Azerbaijan, Belarus, China, Finland, France, Georgia, Germany, India, Indonesia, Iran, Kazakhstan, the Republic of Korea, Lithuania, Malaysia, Moldova, Mongolia, Pakistan, Sweden, Switzerland, Tajikistan, Turkey, United Kingdom, Ukraine and Uzbekistan.

The U.S.-U.S.S.R. treaty on double taxation, which was signed in 1973, remains in effect between the U.S. and the Kyrgyz Republic. The Kyrgyz Republic has also signed double taxation treaties with Armenia, Austria, Belarus, Canada, China, Finland, Germany, India, Iran, Kazakhstan, Lithuania, Malaysia, Moldova, Mongolia, Pakistan, Poland, Russia, Switzerland, Tajikistan, Turkey, Ukraine and Uzbekistan.

OPIC and Other Investment Insurance Programs

OPIC has provided insurance in the Kyrgyz Republic in the past and currently welcomes applications for financing or insurance in the country.

Labor

There is significant competition for skilled individuals in the Kyrgyz labor market as many qualified Kyrgyz citizens found lucrative job opportunities abroad and the nation’s education system failed to keep pace with advancing educational needs within many sectors. International organizations are generally able to employ competent staff, often bilingual in English or other languages. Literacy in the Kyrgyz Republic is approximately 97 percent. According to Kyrgyz Statistics Committee, the unemployment rate was approximately 10 percent in 2011.

Foreign Trade Zones/Free Ports

There are five Free Economic Zones (FEZs) in the Kyrgyz Republic: Bishkek (2), Naryn, Karakol and Maimak. Each is situated to make use of transportation infrastructure and/or customs posts along the Kyrgyz borders. Government incentives for investment in the zones include exemption from several taxes, duties and payments; simplified customs procedures; and direct access to utility suppliers. The production and sale of petroleum, liquor, and tobacco products in FEZs are banned.

Foreign Direct Investment Statistics

According to the Kyrgyz National Statistical Committee, Foreign Direct Investment (FDI) for the first nine months of 2012 totaled $412 million, slightly lower than in 2011, when it totaled $459 for the same period. The table below shows historical FDI data.

FDI

Year

$849.2 million

2011

$446.0 million

2010

$660.9 million

2009

$866.2 million

2008

$436.8 million

2007

$335.6 million

2006

$210.3 million

2005

Foreign direct investment is chiefly oriented towards manufacturing, food processing, banking and mining. Many foreign firms are the contractors of foreign assistance organizations. U.S. direct investment is concentrated in the hotel and telecommunications sectors, with increasing interest in construction and mining.

Joint ventures and foreign companies in the Kyrgyz Republic include the Reetsma Kyrgyzstan Company (cigarettes), the Plaskap Bishkek Company (packaging/bottling), the Central Asian Group (entertainment/garments), the Hyatt Regency Bishkek, Coca-Cola Icecek, and the Kyrgyz Petroleum Company. The Canadian gold-mining firm Centerra Gold, through its local subsidiary Kumtor Operating Company, has the largest foreign investment in the Kyrgyz Republic. Joint ventures play a leading role in the mining, petrochemical, hotel, and food processing sectors. The following countries are listed as the largest sources of FDI in first nine months of 2012: Canada (28%), China (23%), United Kingdom (12%), Germany (8%). The table illustrates the largest sources of FDI historically.

Country

Percentage 2011

Percentage 2010

Canada

52%

37%

China

18%

12%

United Kingdom

6%

16%

Germany

5%

-

Russia

-

10%

United Arab Emirates

3%

-



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