Issue 1, 2018. February-March


THE BEST MINDS IN THE BUSINESS: FAMOUS ECONOMISTS WEIGH IN ON GEORGIA is piloting a new column: questions with internationally renowned economists. We are reaching out to economists from all over the world who have written popular and well-regarded books on the issues that are important to the Georgian economy and to developing economies, and economists working at think tanks that are at the forefront of development policy. We pose questions about the issues they are working on that apply to the challenges Georgia is facing. If you have a question, or a recommendation on who we should talk to, please contact us at

For the first column in the series, we spoke with two economists: Daniel Lacalle, a Professor of Global Economy, a Chief Economist at Tressis and the author of the bestsellers "Escape from the Central Bank Trap," "The Energy World Is Flat" and "Life In The Financial Markets"; and Sarah Rose, a Policy Fellow at the Center for Global Development.

We asked Daniel Lacalle, who has a PhD in Economy and is a fund manager and a CIIA financial analyst, two questions: how can Georgia develop its capital market and what should Georgia do about its trade imbalance?

Lacalle on how to develop a capital market: Georgia can develop a capital market quite efficiently by attracting international banking through a competitive tax incentive scheme, and putting in place a number of legislative measures that ensure investment security, legal certainty and predictable regulation. It could do so by establishing "free investment zones" that operate under U.S. or UK legislation or establishing solid long-term cooperation agreements with Japan, Russia, the U.S., China and the UK as an attractive investment hub. Georgia could be a hub to unite investment from countries that may seem separate today, but see Georgia as an opportunity.

Lacalle on correcting trade imbalance: Devaluing is a poor and ineffective way to be competitive. Imports become more expensive, and rising inflation works against the attractiveness of Georgia as an investment opportunity. Devaluing does not work in an open economy that depends on imports as much as Georgia does. It negatively impacts gross capital formation and internal demand as the currency's purchasing power falls. What Georgia needs to boost exports is more added-value capital expenditure, stronger industries and less reliance on export of low added-value goods. Georgia shows an incredible opportunity to boost high added-value industries by attracting foreign investment. The trade deficit is not due to a strong currency, but due to the fact that Georgia exports low to mid added-value products and imports high-margin machinery and equipment. Georgia, as some European countries did, has the possibility of turning this around, opening its market so that added-value products are manufactured in the country. It has many advantages in a well-educated population, excellent location close to high-growth markets and a privileged availability of office space and plant locations. Georgia is a land of opportunity and can grow exponentially by making small adjustments to its economy.

We asked Sarah Rose, who has studied the process of transitioning middle-income countries from grant assistance to other development instruments, about the common challenges developing countries face as they are transitioning toward sustainable growth and how countries move away from development aid.

Sarah Rose on challenges transitioning economies face: Had you asked this question 30 years ago, I suspect you might have gotten a more definitive answer. In the 1990s, the Washington Consensus prescribed a "standard" economic reform package to promote growth and correct financial crises and market distress. Today, the simplicity of the Washington Consensus has given way to a more nuanced view that recognizes the viability of multiple development models, including-with due reference to robust growth in China and India-the "Beijing Consensus," which emphasizes state-led, export-powered growth, and the "Mumbai Consensus," that focuses on boosting domestic consumption and pursuing service-oriented industries. The point is, development success is going to emerge from policies relevant to particular local political and economic contexts.

That said, developing and emerging economies do often face challenges in some broadly similar categories like governance, policy and regulatory environment, infrastructure, and human capital development. Though these factors do not constrain growth in the same way across countries, some appear to be more common challenges. A number of donors, including the MCC and USAID, as well as many of the multilateral donors, work with countries to undertake growth diagnostics (based on the model developed by Hausmann, Rodrik, and Velasco) to identify a country's binding constraints to growth. The MCC summarized the findings of its growth diagnostics across 30 low and lower middle-income countries and found that governance (e.g., regulatory quality, rule of law) emerged as a constraint in over two-thirds of them.

Other common constraints were found in transport, energy, and education-the latter two of which emerged as binding constraints for Georgia in the country's 2011 growth diagnostic. Even with these commonalities, however, what gives rise to those constraints-be it the policy environment, institutions, social context, or other factors-will vary by country, as will, necessarily, the approaches to address those constraints.

Sarah Rose on countries moving away from foreign aid: Aid's role in developing economies-particularly middle-income economies like Georgia's-is diminishing. Private capital flows to Georgia have increased substantially over the past decade and are now on the order of 10 times greater than aid flows, which have declined in that same time period.

When looking at transitioning away from grant-based donor assistance, past experience suggests that four criteria are important for a successful transition: (1) a sustained source of non-donor resources to finance continued progress toward development objectives, (2) sustained technical and managerial capacity, (3) a conducive policy and regulatory environment, and (4) sustained motivation and commitment to pursue the identified objectives. As Georgians-in government, civil society and the private sector-work with donors to plan an eventual transition away from grant-based assistance, part of the process will be to assess the extent to which there may be gaps along these lines in areas that currently receive donor funding, and then determine the locally based actors and locally relevant approaches to address them.