Annex 3.1 Investment climate in Kazakhstan As an emerging market Kazakhstan is facing many challenges, therefore the Government of Kazakhstan is currently taking steps towards further improvement of the investment climate on the domestic market. In its investment policy Kazakhstan adheres to the principles of stability and predictability; transparent legal norms; protection of investors’ legal rights; equal conditions for foreign and local investors; sanctity of contracts; encouraging direct investments to the priority sectors of the economy. In this regards the Government of Kazakhstan takes measures only after prior consultations and exchange of views with the board of foreign investors, particularly, within the framework of the Foreign Investors’ Council (FIC) under the President of Kazakhstan set up in June 1998. During the recent 10th Plenary Session of the Foreign Investors’ Council (FIC) held on December 6, 2003 in Astana, foreign investors were re-assured that the position of the Government of Kazakhstan on the issues of contracts’ sanctity has not changed, nor is it going to in future. President of Kazakhstan Mr. N.Nazarbayev chaired the session. Mr. Jean Lemierre, President of the European Bank of Reconstruction and Development (EBRD) was the co- chairman of the plenary session. Their top management at the latter meeting represented well-known companies such as Ernst and Young, Baker and McKenzie, ABN AMRO Bank, TotalFinaElf, Chevron Texaco, BG, Koch Holding, Mitsubishi Corporation, Samsung, Deutsche Bank, LNM Group, the Euro-Asian Industrial Association. The key factors for investing in Kazakhstan are favorable investment climate; political stability; sustainable economic development; developed financial market; not expensive, but skilled and qualified work force; good geographical location. The issue of creating favorable conditions for the attraction of Foreign Direct Investments (FDI) has been vital for the newly independent country. Adoption of the Law of the Republic of Kazakhstan “Of Foreign Investments” in 1994 and “Of Protection of Foreign Investments” were conditioned by the need to attract foreign capital into the country’s economy. At that time, the first contracts mainly were concluded in the field of mineral resources development, which offered privileges and guarantees to foreign investors. The new Law of the Republic of Kazakhstan “On Investments” was adopted January 8, 2003. This Law regulates the relations which are associated with investments in the Republic of Kazakhstan and defines the legal and economic basis of the stimulation of investments, guarantees the protection of the rights of investors when carrying out investments in the Republic of Kazakhstan, defines the measures of state support of investments, and the procedure for resolution of disputes with participation of investors. In accordance with the Law, the following investment preferences shall be granted: 1) investment tax preferences (for 5 years or less); 2) exemption from customs duties (for 1 year with possible prolongation up to 5 years); 3) state in-kind grants. At present in the sphere of its economic policy the Government of the Republic of Kazakhstan is moving away from the practice of attracting foreign loans giving priority to direct investments. Import of capital in the form of direct investments apart from the transfer of technology and management enables to avoid any excessive burden on the state’s foreign debt, at the same time it will lead to the increase in the numbers of domestic investors. In order to support large infrastructure projects the Development Bank of Kazakhstan has been created, pension funds and commercial banks have accumulated enough funds to invest into the country’s economy. The latter does not suggest that Kazakhstan rejects foreign credit facilities. Under these circumstances, the quality of attracted financial sources acquires a big importance: it may be “soft” loans – long-term credit facilities on low interest rates, which are free of liabilities (purchase of equipment, raw materials, computer software, etc. from the country providing the credit). The gross volume of foreign investments (FIs) attracted into the economy of the Republic of Kazakhstan from 1993 to 2002 has made up USD 23 billion. In that period the foreign direct investments (FDIs) reached USD 15.35 billion, trade credits, loans and other liabilities amounted USD 7.312 billion, while the share of foreign portfolio investments made up USD 338 million. Taking into account such indicators as economic changes and the volume of investments per capita Kazakhstan is among the leading 3 countries in Central and Eastern Europe and the CIS. Changes on the capital market in 2002 promoted greater inflow of FDIs. The positive balance of FDIs for the year 2002 accounted for US$ 2 760 millions, thus increasing more than twice in comparison with the year 2000 and reaching the highest indicator of FDI net influx since 1993. The share of enterprises involved in producing crude oil and natural gas account for half of the total volume of investments, and among the regions, the main bulk of investments goes to the Atyrau and West Kazakhstan regions. In order to level out the disproportions in the country’s economy the state investment policy is directed at promoting investments into the following, less attractive fields, which are declared as priority: - agriculture; - manufacturing sector; - industrial infrastructure; - social, cultural and tourism infrastructure; - infrastructure of Astana – new capital. The investors carrying out projects in the priority sectors of the economy enjoys a number of privileges stipulated by the state support for investments, particularly, privileges in taxation and customs tariffs. In general, the measures, which are being taken within the framework of the investment policy, allow Kazakhstan to be one of the leaders on the CIS space on such indicators as the political stability, currency stability and investment climate, volume of FDIs per capita, integration to the world economy, development of securities market legislation and price stability. 3.2. Investment ratings of Kazakhstan International rating agency “Standard & Poor’s» has revised the forecast of Kazakhstan sovereign rating from “stable” on “positive” in 2003. Rating of Kazakhstan has been confirmed in foreign currency at the level of “BB”, and in native currency at the level of “BB+”. This decision is made due to the consequent increase of pure foreign actives of State sector. Credit rating expresses the opinion of rating agencies about general solvency of a loaner and about his ability to produce opportunely payment of the obligations. This rating is given over the credits in foreign and native currencies. The forecast of the rating shows the possible direction of its way in the nearest 2-3 years. “Stable” – changes are improbable, “positive” – could rise. The basic factor for sovereign rating of a country is the economic and social conditions of the country, and its political system. The Republic of Kazakhstan has the highest long-term credit ratings among all of the CIS countries. In 2001 and up to present time Kazakhstan Republic long-term credit rating equaled to “BB” in foreign currency and to “BB+” in native currency. Rating agency «Fitch Rating Ltd» gave this rating. The rating is of wide respect among investors and is a suitable instrument for the estimation of solvency of a loaner. On September 19, 2002, Kazakhstan became the first country in the Commonwealth of Independent States to reach an investment grade status. Moody's, a credit rating agency, upgraded the republic, which possesses huge oil and gas reserves, by two notches to Baa3 - the same rating as Saudi Arabia and Bahrain. The agency said the upgrade reflected a surge in foreign direct investment and export growth, driven mainly by oil and non-ferrous metals. The upgrade comes at a time of falling flows into emerging markets and reduced appetite for emerging markets risk. Jerome Booth, head of research at Ashmore, an emerging markets fund, said the upgrade would allow Kazakhstan to tap into a wider pool of investors who may be reluctant to put money into sub-investment grade credit. According to experts, Russia is still rated Ba3, three notches below investment grade. Kazakhstan’s continuing economic growth allows it to carry out further modernization of its economy and social as well as political spheres in accordance with the requirements of XXI century’s competitive society. According to the National Bank of Kazakhstan, in the beginning of November 2003, foreign exchange reserves of the country, including the National Bank’s active receives, have reached 8.565 billion US dollars. Private deposits in the second-tier banks exceeded 4 billion dollars; the aggregate capital of saving pension scheme was about 2 billion dollars. All these are a strong foundation for the reforms and provide a powerful financial base for the confident move forward towards building a prospering Kazakhstan. Now, the state has entered a new quality stage of development, at which the main task is the structural diversification of economy – departure from raw production trend towards increase in the share of processing industry, development of high-technology and science- driven industry, infrastructure and agricultural sector. In accordance with the adopted Strategy of Industrial and Innovation development of Kazakhstan in 2003-2015, the goal is set to raise the GDP three times as much as that of 2000. The program’s goal is to create a favorable climate for entrepreneurs, a competitive environment and a system of public institutions that would stimulate the private sector to make high value-added industries. It is planned to develop IT technology as well. Annual state expenditure for investment is, on average, 250 million dollars. A significant part of these funds will be directed to create and modernize industrial and scientific infrastructure. The implementation of Kazakhstan’s industrial and innovation policy will allow Kazakhstan to overcome the dependence on raw material production sector and to change economic their course to the export of high-technology goods and services. There are a number of new development institutions: the Investment and Innovation Funds and the State Export and Investment Insurance Corporation. A Marketing Research Centre and Engineering Centre have been set up, the Science Fund has been renewed and the Development Bank has been enhanced in Kazakhstan. Besides the industrial leap, Kazakhstan intends to carry out a large-scale modernization of the agricultural sector. From 2003, a three-year agricultural area revival and development program is being carried out, which has received 1 billion dollars from the State budget. In addition to the agricultural program, on 10 July 2003, President Mr. N.Nazarbayev has approved the State Rural Area Development Program for 2004-2010 years, which is expected to bring about the acceleration of rural social development. An aid will be provided for the population of the depressive, environmentally and economically unpromising rural areas in moving to other parts of the country and to being employed. In May and June 2003 a number of important laws in the field of agriculture were passed, particularly Land and Forest Codes. As a whole, increased state support for the agricultural sector and the introduction of private ownership for land will promote increase in the agricultural sector and the settlement of social issue in the rural areas. In order to stimulate private investments into the national economy, the President has instructed the Government to submit a proposal on certain tax cuts to the Parliament. In particular, value-added tax has cut from 16% to 15% from 1 January 2004. Social and individual income taxes will also be reduced. Successes in the economic development with its full obviousness will reflect on the welfare of the Kazakh fellow citizens. The State is continuing to raise financing of the social sphere. In line with the President’s message made in July 2003, the size of pensions has been significantly increased, for the pension scheme, 0.13 billion dollars will be allocated only in the second half of 2003. Salaries of public sector employees are being enhanced. From 2004, the income of civil servants has increased by 50% on average.