Countries in the Western Balkans are growing at a faster pace than in 2015, with regional growth projected to be 2.8 percent in 2016 and 3.2 percent in 2017 Accelerating growth in Albania and Serbia compensated for weaker expansion in Montenegro and the Former Yugoslav Republic (FYR) of Macedonia; while although growth has slowed in 2016, Kosovo remained the fastest growing economy.
Economic growth among the Western Balkan countries reflects two distinct growth patterns. On the one hand, the economies of Serbia and Albania, which account for over half of the region’s GDP, experienced steady acceleration as sustained fiscal consolidation efforts and structural reforms facilitated a rebound in private consumption and investment, and helped to boost Serbian exports. On the other hand, growth slowed in Kosovo, FYR Macedonia, and Montenegro, as private investment softened due to political uncertainty in FYR Macedonia, and external imbalances widened in Montenegro. Meanwhile, with relatively slower progress on structural reforms, Bosnia and Herzegovina (BiH), the region’s second-largest economy, is growing steadily, with low import prices supporting consumption growth.
More jobs and low prices are helping to reduce poverty, although unemployment is still high. It is estimated that between 2013 and 2016, the average poverty rates for Albania, FYR Macedonia, Montenegro, and Serbia declined by close to 2 percentage points. This lifted approximately 240,000 people out of poverty.
It is estimated that in 2016 poverty declined in all WB6 countries except for Bosnia and Herzegovina where it is thought to have stagnated. Growth helped to create more jobs and reduce unemployment in all countries except Montenegro, where unemployment worsened once the country introduced the lifetime mother’s benefit, which incentivized women to leave employment. Job growth was high in Serbia and Albania, at 7.2 and 5.8 percent during 2016, respectively. Albania has been working to reduce informality, and employment was boosted in Serbia by a manufacturing revival and a good agriculture season. Employment in Kosovo also grew.
Fiscal Deficits Falling
In 2016 fiscal deficits fell in all Western Balkan countries except in Bosnia and Herzegovina where it is low. However, the way in which fiscal deficits fell varied by country, with some shifting away from growth-enhancing capital spending. In Albania and Serbia both revenue gains and a reduction of current spending supported the narrowing of the fiscal deficit. Revenues also rose in Kosovo and Montenegro, but recent amendments to regulations have steeply increased the cost of their untargeted entitlement programs.
Moreover, capital investment budgets were under-executed and the share of current spending increased. FYR Macedonia’s revenues dropped as a share of GDP and its overall spending fell as the economy felt the effects of a severe political crisis. Hence, although fiscal deficits narrowed in 2016 in FYR Macedonia (to 2.6 percent) and Montenegro (to 3.9 percent), and remained low in Kosovo (1.3 percent), the composition of their spending shifted to less productive and equitable areas.
Consolidation and Reform
Further fiscal consolidation and structural reforms are necessary to stabilize debt dynamics in all Western Balkan countries. Though recently several countries have managed to stabilize and even reduce their debt burdens, spending on wages, pensions, and social benefits continue to burden budgets in the Western Balkans. In particular, recent regulatory changes in Montenegro have elevated annual spending on such budget items by 3.8 percent of GDP. In Kosovo, it is estimated that a new veterans’ benefits program will cost about 0.7 percent of GDP annually.
In FYR Macedonia, pensions, which have been rising for the last five years, reached 9 percent of GDP in 2016. Restructuring public utilities is also essential to limit fiscal liabilities and improve competitiveness. More attention is needed to creating an efficient and effective public administration, reinforcing governance and the rule of law, and improving the quality and equity of such public services as education and health.
Though the regional growth outlook is positive, it remains vulnerable to risks, and success hinges on sustained reform effort. Regional growth is forecast to accelerate from 2.8 percent in 2016 to 3.2 percent in 2017 as domestic demand continues to recover. While it is expected that fiscal management in Serbia, Albania, and Bosnia and Herzegovina continue to be prudent, it is projected that expansionary fiscal policies in Kosovo, FYR Macedonia, and Montenegro will drive an increase in the regional deficit. External deficits would also grow in the latter three countries, thus exacerbating already high external vulnerabilities in Montenegro and Kosovo.
Growing uncertainty suggests that external risks will continue to complicate growth prospects, among them faster normalization of U.S. monetary policy and possible appreciation of the U.S. dollar exchange rate, higher protectionism, a possible slowdown in EU economies, and variability in commodity price dynamics.
Meanwhile, political tensions, upcoming elections, and resistance from vested interests in several Western Balkan countries could slow progress on fiscal consolidation and structural reforms, which would undermine investor confidence.