FEAS Yearbook FEAS Yearbook 2012 | Page 107

FEDERATION OF EURO-ASIAN STOCK EXCHANGES ANNUAL REPORT JUNE 2012 BOSNIA AND HERZEGOVINA ECONOMY Difficulties with forming governments at State and Federation levels after the general elections in October 2010 and the failure of the Fiscal Council to adopt the Global Framework for Fiscal Policies for 2011-13 had a bearing on economic and fiscal policy. In a situation of increased uncertainty over the short- and medium-term path of fiscal policy, the authorities submitted their fifth Economic and Fiscal Programme for 2011-13 in January 2011. The programme is thus fragmented and does not reflect a coherent formulation of economic and fiscal policies. It is not fully integrated into budgetary procedures and its objectives are not adequately quantified or backed by concrete policy measures. The performance under the International Monetary Fund (IMF) Stand-By Arrangement remained broadly satisfactory until October 2010 when the IMF Board approved the second and third reviews. However, due to the difficulty of forming a government at State-level, further programme discussions were delayed. The first World Bank Development Loan was disbursed in October 2010. Overall, the consensus on economic and fiscal policy essentials has weakened. Macroeconomic Stability After the recession in 2009 with a drop in real GDP of 2.9%, the country moderately recovered in 2010. It recorded a positive real growth rate of 0.7%, driven by external demand. Domestic demand picked up, supported by a relatively stable inflow of remittances. Industrial production increased slightly in 2010 led by export-oriented industries, but unemployment remained very high. Per capita income, measured in purchasing power standards (PPS), fell to 30% of the EU-27 average in 2010 from 31% in 2009. As a result of fiscal adjustment measures implemented under the IMF programme and increased revenues, the budgetary situation eased. Due to improvements in the trade and current account deficits and the comfortable level of foreign reserves, the external financing needs decreased in 2010. The indicators available for 2011 suggest that the economic recovery is gaining strength as industrial production increased by 8.1% year-on-year in the first seven months of the year. Overall, the economy is slowly gaining steam after the 2009 recession, but the recovery is fragile. The current account deficit fell further from 6.2% of GDP in 2009 to 5.6% in 2010. The trade deficit fell by 4.8%, shrinking from 27.8% of GDP in 2009 to 25.9% in 2010, which contributed to the improvement of the current account. Exports rose by 27.7% nominally, and imports by 10.2%. Surpluses in the services and income accounts decreased by 8.6% and 23.2%, respectively, while that of the current transfer account increased by 3.1%, supported by the relatively stable flow of remittances. The current account deficit was financed mainly by new loans from abroad. However, the trend of an improving trade balance was reversed in the second half of 2010 when the nominal increase of imports exceeded that of exports. This deterioration continued in the first half of 2011 when the trade gap increased by 18.3% yearon-year. Imports and exports increased both by 18.3%, mining and manufacturing being the main sectors recording export growth. Bosnia and Herzegovina’s external public debt increased by 20.2% in 2010, from 21.8% of GDP in 2009 to 25.7% in 2010, mainly due to the disbursements made in the context of the IMF and World Bank programmes. In the first half of 2011, the external public debt decreased slightly by 1.5%. Public international creditors account for 89% of the country’s external public debt. The largest creditor remains the World Bank group. Official foreign exchange reserves decreased by 5.7% in the first half of 2011 from end-2010, though still covering around five months of imports. Overall, external imbalances have slowly started to rise after the sharp contraction experienced in 2009 and the first half of 2010, although the current account deficit is still much lower than before the crisis. The average unemployment rate in 2010 stood at a very high 27.2%. Registered unemployment reached 43.1% in June 2011, while according to the Labour Force Survey (LFS) following the International Labour Organisation (ILO) methodology conducted annually in April/May, unemployment increased to 27.6% in 2011 from 27.2% in 2010. It was particularly high among the young population (57.9% for people aged between 15 and 24, according to the LFS). In the first half of 2011 the highest year-on-year growth in employment was registered in education, real estate and health, while employment fell in agriculture, mining and manufacturing industries, as well as in trade and construction. Despite the already large size of the public sector in Bosnia and Herzegovina, the number of employees in the public administration increased further, by 2.1% year-on-year in the first six months of 2011. Average monthly nominal gross wages increased by 1.8% in 2010 and remained relatively stable in the first seven months of 2011. Structural rigidities such as the high rates of social contributions, poorly targeted social transfers and low labour mobility, are continuing to hamper job creation and the propensity to work. Overall, labour market conditions remained poor and were not supported by the weak growth dynamics. Annual inflation reached 2.1% in 2010, up from -0.4% in 2009. The inflationary trend was mainly driven by the rise in food and transport prices towards the end of the year. Inflation continued to rise in the first seven months of 2011, reaching 3.9% in July, pushing the 12- month moving average inflation rate up to 3.1%. The monetary policy of the Central Bank continued to be conducted under a currency board arrangement, with the euro as the anchor currency, enjoying a high level of confidence and credibility. Monetary policy settings remained unchanged throughout 2010. As of February 2011 the minimum reserve requirement for short-term deposits was lowered from 14% to 10%. Nevertheless, the banking system’s reserves with the Central Bank remain significantly above the minimum required level. The M2 monetary aggregate increased by 6% year-on-year in July. Overall, monetary and financial stability have been preserved while inflation is picking up. The fiscal performance in 2010 benefitted from the recovering economic activity, whichb resulted in increasing revenues, and from the adjustment measures implemented under the bIMF programme. The consolidated budget deficit fell to 2.5% of GDP, which is well below the 2009 outcome of 4.5%. However, the share of general government in GDP remains high, with 2010 revenues at 44.4% of GDP. Adjustment measures on the expenditure side included cuts in wages and benefits in the public sector, which resulted in only a marginal 0.5% rise of the consolidated wage bill in nominal terms. Consolidated revenues increased by 5% in 2010. 44% of the revenues originated from indirect taxes which increased by 6.7%, driven by the recovering economic activity, the development of imports and import prices and the increase of excise duties on tobacco and oil derivatives which counteracted the continuous reduction of duties and tariffs as set out in the Interim Agreement on trade, in force since mid-2008. Expenses increased by 1.6% year-on-year in 2010. Current spending dominates the budget with wages accounting for 29.2% of overall expenditure and subsidies and transfers (mainly social benefits) for 39.2%. The balance of the collected social contributions against the paid out social benefits returned on the positive side due to the simultaneous rise of the contributions and drop of the benefits. The flat income tax rate in Republika Srpska was raised from 8% to 10% as of 2011 and the non-taxable income threshold was abolished. Following amendments to the Law on Social Contributions in Republika Srpska, the overall social contribution rate increased from 30.6% to 33% of the gross salary as of January 2011.Excise duties on tobacco were raised as of 2011. Budget planning for 2011 and beyond, as well as the sustainability and credibility of fiscal policy in Bosnia and Herzegovina, were seriously hampered by the non-adoption of the Global Framework for Fiscal Policies for the periods 2011-2013 and 2012-2014. The Parliament of Republika Srpska adopted the Entity’s 2011 budget in December 2010. It planned the same nominal expenditure as the budget for 2010. In the Federation, a temporary budget was in place in the first quarter. The Federation 2011 budget was adopted in March and showed a total amount of expenditure planned 9% lower than in 2010, with high uncertainties surrounding its financing. At the State-level, temporary budgets were in place during the first three quarters of 2011. The 2011 State-level budget was adopted by the Presidency in April, showing an increase in volume by 2% compared to 2010. However, it remains to be adopted by the Parliament. All budgets were established in the absence of a medium-term budgetary strategy. The Federation revised in July its 2011 budget to allow for some increase of specific social benefits, partly compensated by cuts in investment and the wage bill. Republika Srpska is planning to rebalance its 2011 budget in October. In May 2011, the distribution coefficients for the allocation of indirect revenues from the Single Account of the Indirect Taxation Authority were corrected for the first time since 2008. The share for the Federation was lowered slightly from 64.39% to 63.98% in the benefit of Republika Srpska’s share which went up slightly from 32.06% to 32.47%. The share for Brcko District remained at 3.55%. The shares are based on final consumption data. Overall, the reliability and predictability of fiscal policy in Bosnia and Herzegovina suffered from the failure to agree on Global Fiscal Frameworks which is a serious obstacle for medium-term budgetary planning and sustainability. General government debt, both domestic and foreign, stood at 38.8% of GDP in 2010, up from 34.5% in 2009. External debt accounts for 25.7% of GDP and domestic debt for 13.1%. Domestic public debt is managed and served by the Entities (49.5% Federation, 49% Republika Srpska, 1.5% Brcko District). Verification of claims related to old foreign currency savings has advanced. Both Republika Srpska and the Federation continued issuing bonds in 2010 and 2011 to service the PAGE 105