Planning without cutting - Op-ed by Kseniya Lvovsky, World Bank Country Manager to daily 'Shqip'

July 23, 2011

Op-ed by Kseniya Lvovsky, World Bank Country Manager Daily "Shqip"

Two years after the global financial downturn, developing countries of Europe, including Albania, continue to be affected by economic woes not of their making.  According to the World Bank’s latest review of Global Economic Prospects, most developing countries around the world have put the impacts of the financial crisis behind. They returned to pre-crisis or comparable growth rates and a longer-term agenda of structural reforms.  For developing countries at the heart of Europe, significant links with rich European economies - a major driver for past and long-term growth -  have temporarily become a source of additional risk.  For Albania, weak recovery in Europe - much slower than expected two years ago - is further exacerbated by severe economic problems in its main trading partners and close neighbors.  This has likely contributed to tepid performance of Albania’s economy in the first half of the year. Revenues fell below the projected levels, and the mid-year budget revision, once again, became inevitable. Cutting expenditure by 4.5 % (over 18 billion Lek) was the right thing to do, under the circumstances, as it was in July last year, when the cut was even more drastic. Implementing the cuts in such a way as to protect counter-cyclical spending and investment for future growth was also reasonable.

Yet, practice of mid-term cuts based on performance in the first six months of the year has its cost.  It may disrupt progress in social sectors such as education, health, and environment, and deter much needed improvements in critical public infrastructure. Indeed, education and public works absorbed some of the largest cuts this time. It distorts spending choices of line ministries by tempting them to frontload expenditure early in the year and favor new investments over maintenance. This effectively leads to suboptimal use of scarce public resources, and makes next time adjustments more difficult.  It runs counter to a modern business culture that Albania strives to build - that of respect for the rule of law and commitments, that of regulatory certainty and predictable policy. Avoiding the situation when a year from now a painful mid-term adjustment is again the right thing to do is becoming priority.

The country cannot influence recovery in other European nations, nor external risks for its own economic outlook.  But there are a few measures that government can do. It can recognize that a harder external environment is not a one-off accident but a new reality in the post-crisis world. It can modify approaches to projecting growth, foreign investment and budget revenues. Until the mid 2010, the official medium term projections for an average real growth rate were similar or even higher than the actual average of the past 5 years (2003-2008), despite the clear signs of slowdown. Initial projections for 2011, albeit adjusted downwards, were still leaning on the optimistic side. A different post-crisis reality calls for a revision in the assessment of risks and opportunities.

A more conservative approach to macro-economic projections that recognizes the increased risks will yield at least three major benefits. First, it will prevent abrupt mid-term adjustments while improving certainty in the economic environment. Second, it will increase public confidence in state’s budget planning and forecasting, which are among the core functions of the ministry of finance. Third, it will create an opportunity for faster debt reduction, should actual revenues appear higher. This is important. Albania’s ability to sail through the difficult post-crisis years better than most other European countries, admirably maintaining positive growth rates, was partly thanks to fiscal cushion created before the crisis. With the debt level stubbornly near 60%, this cushion is no longer there. Yet, the risks of another economic shock are not negligible. In this situation, foreign investors have become more risk averse and more valuing economic stability when assessing alternative investment destinations in the region. There are ample reasons for a set of measures that would strengthen the budget planning process, increase predictability and enhance debt reduction. The authorities have recently indicated their readiness to work towards these improvements. The World Bank stands ready to support the needed actions with expertise and technical assistance.