Kazakhstan: Political and Economic Reforms 2017 and Political Risks for 2017-2018

In December 2016, President Nursultan Nazarbayev announced large-scale political and economic modernization in Kazakhstan. The reason for modernization is the deterioration of economic and social indicators of the country’s development.

Kesarev Consulting

JULY 2017

In December 2016, President Nursultan Nazarbayev announced large-scale political and economic modernization in Kazakhstan. The reason for modernization is the deterioration of economic and social indicators of the country’s development.

This memo prepared by Kesarev Consulting discusses the consequences and results of modernization achieved since its launch, as well as further prospects of modernization in terms of political risks and implications for business.

Summary

Political modernization

Transition from the presidential to the parliamentary form of governance 1. This happened as a result of a constitutional reform. The main reason for the shift to the parliamentary system was the creation of the checks and balances system with the President focused on strategic functions.

Within the new system, the Government receives executive powers in economic sphere, powers to approve state programs, as well as becomes in charge of issues related to management reshuffles in the Government and establishment of new governing bodies.

The composition of the Government will be approved by the national Parliament.

The President remains responsible for issues concerning national security and defense, as well as for defining foreign policy.

The issue of power transition. The constitutional reform led to changes in the system of governance 2 aimed at setting the framework for power transition and ensuring continuity of the state policy in political and economic spheres (guarantees to investors and financial-industrial groups), as well as security of the incumbent President and his family members.

The election legislation was substantially amended in relation to requirements to presidential candidates. The key amendment presumes that a presidential candidate should have public service experience of at least 5 years and be resident of Kazakhstan for 5 years preceding the elections. These requirements automatically exclude Timur Kulibayev (President’s son-in-law, Head of the National Chamber of Entrepreneurs “Atameken”) and Imangali Tasmagambetov (the incumbent Ambassador of Kazakhstan to Russia) out of the infromal list of successors, and eliminate obstacles hindering the promotion of Dariga Nazarbayeva, the eldest daughter of Nursultan Nazarbayev.

Footnotes: 

1 De-facto the new system provides for the presidential-parliamentary form of governance with the Head of the State retaining predominant powers. The sphere of the Parliament’s and the Government’s competence is extended.
2 In particular, the Government is expected to receive the functions of supervision over the activity of the Agency for Civil Service Affairs and Anti-Corruption, the General Prosecutor’s Office, the Central Election Commission, the Accounts Committee for Control over Execution of the Republican Budget, and the National Bank.

Economic modernization

Economic reforms. The package of economic reforms initiated in 2017 is aimed at developing non-primary industries of economy and creating new industries with the use of digital technologies. Tax regulation for business is to be revised within the reforms to facilitate cooperation between business and the state.

Improving business environment. Along with the announcements concerning the simplification of conditions for business, Kazakhstan implements measures aimed to increase the tax burden on entrepreneurs: reduction of the minimal VAT registration threshold, repeal of special tax regimes, and introduction of retail sales tax and tax on sales, including services, etc. Beside tax payments, business obligations in relation to extra budgetary payments are also expanded: mandatory social health insurance, business contributions to self-regulatory organizations, and expanded manufacturer’s liability for the disposal and reprocessing of products. The respective amendments will come into effect starting from January 1, 2018.

Digitalization of economy. The authorities initiated the development of legislation concerning cyber security, personal data protection, regulation of the Internet and e-commerce. The adoption of the respective legislative acts is expected in the near future. The Government is interested in developing regulations with business support, thus, it initiates the establishment of multiple governmental working groups jointly with entrepreneurs.

Banking sector recovery. Since February 2017, a program aimed at ensuring stability of the banking system and preparing it for the activation of long-term lending to the economy is implemented. The main stages of the banking sector “recovery” are as follows: reducing the number of banking institutions to 10-15 in favor of large banks, strengthening bank supervision and implementing the practice of counter-cycle regulation.

International Financial Center. In 2017, the status of the Astana International Financial Center (AIFC) 3 that enjoys a special legal regime based on the law of England and Wales, as well as the standards of the world’s leading financial centers, was enshrined in the Constitution. AIFC bodies and members, as well as employees are exempted from some tax payments for 50 years, have a visa-free regime and access to independent financial court.

However, the AIFC management for now fails to obtain the approval of Kazakhstan’s state bodies for necessary amendments to the national laws, including in the banking sector. The commencement of AIFC member registration is scheduled for January 1, 2018.

Expected amendments to the legislation. The integration processes related to the EAEU and accession to the WTO will change the regulations in the field of trade, import and export transactions, legal regime for legal entities, including foreign ones. The main package of amendments to the national legislation is planned to be submitted to the Parliament in September 2017.

Footnote:

3 Previously, the Center existed only on the basis of the Presidential Act.

Political modernization

The key stage of political modernization was the fourth constitutional reform (previous amendments took place in 1998, 2007, and 2011). The reform provides for the change in the system of governance and switch from the presidential to de jure parliamentary system based on the checks and balances system with the President focused on strategic functions.

Reasons for the revision of the Constitution

The main reasons for the constitutional reform are as follows:

• the need to set the framework for power transition and ensure continuity of the state policy in political and economic spheres (guarantees to investors and financial-industrial groups), as well as security of the incumbent President and his family members

• the need to respond to public demand for political reforms that has been restrained for a long time causing a serious deterioration of social sentiments.

Key amendments

The law signed by the President and introducing amendments to the Constitution contains 26 amendments to 19 articles. The key amendments are as follows:

• The amendments imply the legalization of the status of the Astana International Financial Center, presume that AIFC renders justice independently from Kazakhstan’s justice, based on the English law and with involvement of international judges.

• The amended Constitution ensures the immunity of the first President and guarantees for his security.

• Amendments to the Constitution eliminate the priority of international treaties over Kazakhstan’s laws. According to the new wording of the Constitution, the order and conditions of applying international treaties, which Kazakhstan is a party to, shall be determined based on the national legislation.

• The amended Constitution introduces the provision presuming citizenship deprivation for committing terrorist crimes, as well as inflicting any other severe damage on the crucial interests of the country.

• The powers in the field of economic processes regulation were delegated to the Government.

• According to the new wording of the Constitution, state bodies which were previously subordinated to the President are now part of the Government. These state bodies include the Agency for Civil Service Affairs and Anti-Corruption, the General Prosecutor’s Office, the Central Election Commission, the Accounts Committee for Control over Execution of the Republican Budget, and the National Bank.

Switch to the Latin alphabet

Another important change introduced within political modernization was the decision to switch the Kazakh language to the Latin alphabet. This initiative incurs considerable financial costs for business. At the first stage, it is planned to establish a governmental working group including linguists who will develop the alphabet and create a system of grammar and other rule.

During preliminary discussions, it was decided that economic consequences of the shift to the Latin alphabet will be considered later. According to the Government statements, the switch to the Latin alphabet is to start in 15 years. It is noteworthy that the authorities articulated a clear position that the Government will not compensate businesses for any costs incurred due to switching to the Latin alphabet.

Implications for business

Positive implications of political modernization for business include the decentralization of the system of governance and increase in the number of decision-making centers, including the delegation of some state functions to local executive authorities and the private sector:

• It is planned to delegate the licensing and certification to local authorities
• Control and supervision over entrepreneurs’ activity will be delegated to self-regulatory organizations
• The power to conduct inspections of enterprises will be delegated from the law enforcement system to industry bodies.

Economic modernization

The key reason for economic modernization was the acknowledgement of existing crisis trends4 by the authorities. As a response to this, the Presidential Address published on January 31, 2017 set the tasks to reform the economy and ensure global competitiveness of the country within the “Kazakhstan’s Modernization 3.0” program.

Economic modernization is aimed at ensuring Kazakhstan’s active involvement into the fourth industrial revolution, intensive development of entrepreneurship and non-primary sectors of economy.

Structure and substance of the economic reform

The “Kazakstan’s Modernization 3.0” program is divided into five chapters:

• accelerated technological modernization
• improvement and expansion of business environment
• macroeconomic stability
• improvement of human capital quality
• institutional transformation, security and anti-corruption measures

The program also provides for the elaboration of six state programs:

• Strategic Plan for Development until 2025
• Kazakhstan’s National Technology Initiative
• Digital Kazakhstan
• Unified export strategy
• Investment strategy
• State program on Combating Religious Extremism and Terrorism for 2017-2020.

The following three public systems are to be launched:

• Technological re-equipment of basic industries until 2025
• “Cyber Shield of Kazakhstan” system: development of legislation concerning Internet security
• Single online platform for all vacancies in the country.

The deadline for the implementation of plans within the “Kazakhstan’s Modernization 3.0” program in most areas is September 2017. The deadline appears to be too ambitious and will most probably be adjusted and extended.

Footnote: 

4 Please see detailed information on the current economic indicators of Kazakhstan in Appendix 1.

New Tax Code

A new Tax Code of Kazakhstan is to be adopted in autumn 2017. The draft was issued for public consultations.

The key amendments of significance for business include:

• strengthening of the state bodies’ liability for unsatisfactory performance of their functions
• prohibition on introducing any amendments through by-laws and regulations
• introduction of electronic tax invoices
• alignment of the tax regimes with overall declaration (simplified record keeping of income and expenses).

Tax burden increase

The new tax regulation provides for the increase in the burden of non-tax payments on entrepreneurs:

• The new tax regulation implies the introduction of 5% pension contribution for employers starting from January 1, 2018
• It also presumes mandatory social health insurance contributions in the amount of 2% of employee’s income since July 1, 2018. The contribution is to be gradually increased to 5% in 2020.

Along with the abovementioned measures, the authorities implement the plans to increase the tax burden:

• decreasing the minimal VAT registration threshold
• repealing special tax regimes
• introducing the retail sales tax and tax on sales, including services, etc.

Beside tax payments, business obligations to pay extra-budgetary contributions are also expanded. These payments are to be processed by entrepreneurs in addition to the existing extra-budgetary contributions (contributions to the State Social Insurance Fund, mandatory pension contributions, allocation of 1% of total annual revenue of subsoil users to the autonomous cluster fund, etc.):

• mandatory social health insurance
• expanded manufacturer’s liability for disposal and reprocessing of products
• business contributions to self-regulatory organizations.

Humanization of criminal and administrative laws

The following actions are planned in this area:

• improvement of legislation for business environment
• business deregulation, i.e. the reduction of control and supervisory functions, transfer of state functions to the competitive environment and self-regulatory organizations
• release of liability for minor violations|• provision of the possibility to pay fines with a 50% discount for misdemeanors under more than 300 articles of the Code of Administrative Offences; reduction of fines by 30% in average for offences under 31 articles of the Code of Administrative Offences; mitigation of punishments for offences under 12 articles, replacement of penalties with a warning for misdemeanors under 41 articles
• the exclusion of the Article concerning pseudo-entrepreneurship from the legislation.

Optimization of authorization and notification system

The Government optimized the business authorization system in the following way:

• The number of licenses and permits was reduced: 779 licenses and permits out of 1115 were eliminated (i.e. the number of licenses and permits was reduced by 72%)
• The number of control and supervisory functions of state bodies is decreasing: it is planned to eliminate 30% of their existing functions
• The authorities change the approach to conducting inspections: state control refocuses from punitive control to preventive (without liability)
• it is planned to delegate 68 state functions to the competitive environment, i.e. to self-regulatory organizations, in particular:

• in the sphere of healthcare – 9 functions (developing clinical protocols and standards for providing healthcare services; approving qualification requirements to medical and pharmaceutical activity; organizing and conducting state attestation of scientific and educational institutions in the field of healthcare, etc.)

• municipal waste management – 6 functions
• tourism – 9 functions
• gambling industry – 2 functions
• geology and subsoil use (examination activities) – 1 function
• activity of energy auditors – 8 functions
• activity of independent comprehensive expert examination – 10 functions
• activity of technical inspection operators – 1 function
• rehabilitation and bankruptcy: activity of the administrator – 5 functions
• veterinary – 2 functions
• animal husbandry – 2 functions

Improvement of customs legislation

It is planned to substantially improve the customs legislation with respect to Kazakhstan’s membership in integration associations (the EAEU and WTO). The amendments presume the following:

• reduction of the time of goods release to 4 hours
• reduction of the number of documents required to file an electronic declaration to 1 declaration
• provision of a deferment for customs duties and tax payment in relation to all categories of goods up to 1 month
• elimination of customs duties payments in case of transit
• reduction of the customs examination time in case of transit by 2 times
• non-calculation of additional customs duties and tax payments upon revision of the goods code by the customs bodies
• decreased customs responsibility of the declarant to the customs bodies
• elimination of liability for the failure to provide the customs bodies with preliminary information.

Forecasted political risks for 2017-2018:

• The key political risks for the upcoming period are associated with the possible power transition and thereto related intra-elite conflicts. The conflict may affect not only the elite, but other groups of population (trade unions, vulnerable social groups, etc.) may also be involved in the struggle for power.

• Another risk is associated with the active lawmaking process. Draft laws do not undergo proper examination and public consultations. This will create considerable administrative and other barriers for business during the implementation of the laws.

• Another source of political risks is the deepening economic crisis and economic slowdown which may be aggravated by substantial problems in the country’s financial sector that are expected to reach their peak at the end of 2017.

• The main political risk for Kazakhstan will be a possible exacerbation of relations between its key partners: the European Union, China and the United States, as well as relationships in the Central Asian region.

Appendix 1

Current economic indicators of Kazakhstan

• GDP: 3.4% growth in Q1 of 2017. However, it should be noted that growth rates have been decelerating over 6 years, and the current 3.4% may reflect a “rebound” after the fall.

• GDP structure: household consumption– 53%, export – 29%, gross accumulation –23%.

• Key GDP growth drivers: trade (7,8%), transportation and warehousing (3.1%), immovable property transactions (2.5%), manufacturing sector (1.9%), construction (1.7%), other services (1.7%), agriculture (1.3%), financial and insurance activity (1.2%), professional services (1.1%), net taxes on goods and imports (1.0%), water supply and mining industry (4.2%).

• Budget revenue structure: oil revenues – 57%, non-oil revenues — 43%.

• Hydrocarbon production, metallurgy, transport and communications, and electric power industry remain the strategic sectors that ensure economic security of the country and that the Government relies on until 2020.

• The share of shadow economy is 27%5.

Footnote:

5 Source: B. Sagintayev, Prime Minister of the Republic of Kazakhstan, speech before the Government on November 9, 2016.

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Kesarev Consulting

Kesarev Consulting

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