Overview

COUNTRY CONTEXT

FYR Macedonia

2015

Population, million

2.1

GDP, current US$ billion

10.1

GDP per capita, current US$

4845

Poverty rate ($5/day 2005PPP terms)

34.3 (2013)

Life Expectancy at Birth, years

75.0

 

 

FYR Macedonia is an upper-middle-income country that has made great strides in reforming its economy over the past decade. Following strong economic growth during the period 2002–08 averaging 4.3%, average GDP growth has declined to 2.1% per year since 2009. The main drivers of growth since 2009 have been construction (supported by sizable public investments), industry (particularly manufacturing), and wholesale and retail trade.

Although the country has made significant progress in terms of its economic development, efforts are still needed across a range of areas to generate economic growth that will create jobs and improve living standards for all. However, real GDP growth would need to accelerate to around 4.5% for FYR Macedonia’s living standards to converge with those of the new European Union (EU) member states within the next 20 years.

Accession to the EU remains the anchor of the Government’s reform agenda. FYR Macedonia became an EU candidate country in 2005, and since 2009 the European Commission (EC) has recommended opening accession negotiations. However, the decision continues to be postponed, in part due to the dispute with Greece over the country’s name. The EC has an active program of assistance to FYR Macedonia, including Instrument of Pre-Accession (IPA) funding, the largest source of concessional funds in the country.

Economic growth did not translate into significant poverty reduction in FYR Macedonia before 2008, but poverty seems to have declined somewhat in recent years. As a small, open economy, FYR Macedonia needs to rely on further growth in exports and increased competitiveness to answer its long-term growth challenges. The political situation remains the primary downside risk to the economy in the near term. Prolonged political uncertainties could affect investment decisions and slow economic activity. In addition, the country is facing growing fiscal risks in the rapidly rising public debt. These dynamics could threaten stability and undermine growth prospects in the medium term if not addressed.

Number of Active Projects

7
Lending $331.18 million

IBRD

6 projects ($313.96 million)
EU IPA  2 projects ($37.18 million)

The 2015–18 Country Partnership Strategy that was approved in October 2014 is defined around two pillars:

  • Growth and Competitiveness – improvements in the business climate and trade regime are essential to attracting private investment and improving export performance in order to achieve sustained private sector–led growth and job creation.
  • Skills and Inclusion – interventions that increase skills and improve inclusion are crucial to ensure that all segments of society benefit from economic growth through greater employability and more efficient public and municipal services.

Since the country aspires to EU membership, the World Bank Group Strategy will support progress on the accession agenda as a cross-cutting theme. World Bank resources are used to complement and improve the absorption of the EU’s IPA funds. Overall, the World Bank Group is supporting the Government with a full range of financial, knowledge, and convening services and providing assistance in several sectors, such as transport, energy efficiency, public financial management, and social protection.

KEY ENGAGEMENT

Given the new institutional realities brought by the unfolding decentralization process in FYR Macedonia, better performing municipalities are crucial to delivering this ambitious agenda, especially given the trend of increased fiscal capacity at the local government level. In order to assist the Government, in 2009, the World Bank approved the first Municipal Services Improvement Project (MSIP) of €18.9 million. MSIP focuses on improving the transparency, financial sustainability, and delivery of targeted services under the responsibility of competitively selected municipalities and their communal service enterprises.

Fifty-seven of the country’s 80 municipalities decided to participate and are implementing or have already completed priority infrastructure projects. Some of the MSIP’s accomplishments to date include: more than 7,300 households with piped water connections; 466,935 people with improved access to regular solid waste collection; 60% of participating municipalities with increased revenue or cost savings; and overall increased transparency, since all participating municipalities/utilities are now publishing their budget information on their websites.

The first MSIP loan was followed by two additional financings (AFs). The first AF of €37.2 million was provided by the World Bank in 2012. The second AF of €15.5 million was approved by the EU with financing from the IPA specifically to support a Rural Investment Window within the MSIP and improve infrastructure services in rural settlements.

In January 2016, the World Bank approved the Second Municipal Services Improvement Project (MSIP2) of €25 million, which aims to improve the transparency, financial sustainability, and inclusive delivery of municipal services across the country. All municipalities are eligible and encouraged to participate. MSIP2 will provide financing to municipalities for investments in high-priority local infrastructure, including poverty and social inclusion investment grants to municipalities as an incentive to invest in infrastructure improvements in poorer and marginalized communities within their jurisdictions. 

MSIP2’s Project Management, Monitoring and Evaluation, and Capacity Building Component will support project implementation and monitoring and help ministries and agencies at the national and municipal levels to strengthen institutional and financial systems for sustainable service delivery.

RECENT ECONOMIC DEVELOPMENTS

The political turmoil took its toll on growth in the first half of 2016. Economic growth fell from 3.7% y-o-y in 2015 to 2.1% in the first part of 2016. Uncertainties related to the political situation affected investment, which subtracted 0.3 p.p. from growth, reflecting lower private investment despite the large public investment in roads. Household consumption was once again the main driver of growth (2 p.p.), supported by increases in employment, public wages, pensions, and household lending. Government consumption and net exports recorded small but positive contributions (0.2 and 0.4 p.p.) Similar patterns are expected for the whole year, when GDP growth is expected to stay at 2%.

Employment growth moderated in the first half of 2016, but a sharp decline in labor force participation helped reduce unemployment. After growing for seven quarters, employment declined in the first quarter of 2016 and increased only mildly in the second quarter, led by construction, retail trade, and public administration. Labor force participation fell sharply to 56.6% in the first half of 2016, the lowest since the third quarter of 2012. As a result, unemployment declined slightly to 24.2% in the same period.  However, youth unemployment rose above 50%, despite government programs to promote youth employment.

The current account is expected to widen throughout 2016 but remains fully financed by net inflows of foreign direct investment (FDI). The current account deficit expanded to approximately 1.8% of GDP in the first half of 2016 compared to 1.4% in the same period of 2015. The deficit is expected to be fully financed by net FDI (approximately 2.4% of GDP). Foreign exchange reserves narrowed to 4.4 months of imports by end-May, as the National Bank intervened to contain depreciation pressures, but a large Eurobond issuance in July helped restore the stock.

Following the political developments in the first half of 2016, households and companies drew down their deposits from the banking system in April and May for the first time since 2003. However, deposit growth became positive again in June.

Public debt is likely to increase further in 2016. Combined with higher government guarantees, the fiscal deficit is expected to push public debt above 50% of GDP in 2016. Debt is expected to expand further in the medium term as the Government implements a sizable investment portfolio. In reaction to this dynamic, in August, Fitch downgraded FYR Macedonia’s debt from BB+ to BB with a negative outlook.

Poverty rates continued to decline in 2015, driven by the positive labor market outcomes before the slowdown in 2016. Using the US$2.5 a day line (2005 PPP), appears to have fallen from 12.7% in 2013 to 11.5% in 2015. In 2014–15, higher real wages and employment opportunities created in manufacturing and services helped to further reduce poverty. The worsening of the labor market outcomes in first quarter of 2016, however, may have slowed the pace of poverty reduction.

ECONOMIC OUTLOOK

Growth is expected to decline to 2% in 2016, affected by the political turmoil, but should start recovering afterward. Under the baseline scenario, assuming a resolution of the political crisis by the end of 2016, growth will gradually increase to 3.3% in 2017 and 3.7% in 2018 on the back of private consumption and rising investment, especially public investment related to the construction of two new highways during this period.

Poverty is expected to continue its downward trend in the next few years, following the pace of the economy. Higher wages and a recovery in employment will play a critical role in poverty reduction. However, to the extent that employment opportunities among the less-skilled keep contracting, poverty reduction may stall or even reverse.

Active Projects

PROJECT SPOTLIGHT

FYR Macedonia has a good track record of reforming its social protection system and related policies. The efficiency of overall social safety net administration and service delivery was advanced through improvements in the institutional infrastructure that linked the Ministry of Labor and Social Policy’s information system with the administrative registries of several government agencies. This exchange of information simplifies registration procedures and reduces administrative costs for benefit claimants and cash benefit processing.

At the same time, the country has taken advantage of a relatively well-targeted means-tested last-resort program—the Social Financial Assistance (SFA)—to introduce a Conditional Cash Transfer (CCT) program supported by the Bank. The CCT education program helps to reduce the intergenerational transmission of poverty by linking benefits to the fulfillment of standards for secondary school enrollment and attendance. The Government has also launched a new CCT program for activating youth in families benefiting from the SFA in order to help them make the transition into the labor market.

Under the project, 5,550 children from poor families now regularly attend secondary schools due to the CCT benefit. The overall safety net’s targeting accuracy increased from about 60% of the baseline to about 72% in 2015. The CCT secondary education program’s coverage increased from about 67% of eligible children in the first year of implementation to roughly 95% this year.

The impact evaluation of the CCT secondary education program also shows impressive results in enrollment, especially among older youth who are disproportionately likely to drop out of school. The CCT program could thus explain the increase of 10 p.p. in secondary school enrollment in Macedonia and also the lower dropout rates among older youth.


LENDING

FYR of Macedonia: Commitments by Fiscal Year (in millions of dollars)*

*Amounts include IBRD and IDA commitments