South East Europe Regular Economic Report, No. 3

Abstract

After two years of fragile recovery from
 the global recession, as a group the six South East European
 countries (SEE6) Albania, Bosnia and Herzegovina (BIH),
 Kosovo, FYR Macedonia, Montenegro, and Serbia are
 experiencing a double-dip recession in 2012. Deteriorating
 external conditions, the impact of the severe winter on
 economic activity, and a continuing rise in unemployment
 early in the year took a toll on consumption, investments,
 and exports. In this fragile environment, Serbia, Albania,
 and Montenegro in particular will need to persevere in
 reducing fiscal deficits and bringing down debt, even as
 they must continue to improve the investment climate and
 reform labor markets and the public sector. In all SEE6
 countries, public sector arrears pose special challenges to
 fiscal management and the private sector, and there are
 unfinished, structural reforms agendas. After two years of
 deep crisis, a sluggish recovery, rising unemployment and
 poverty, and a continuing recession even with the best
 efforts on fiscal consolidation and structural reforms,
 which must continue there is a danger that SEE6 countries
 are caught in a vicious circle that reinforces the cycle of
 long-term austerity, low if not negative growth, high debt,
 and even higher risks of social upheaval. To prevent this
 outcome, this report argues, SEE6 governments need to
 redouble their efforts to accelerate fiscal and structural
 reforms. These countries have largely exhausted their fiscal
 space and reduced public investment (except Kosovo, an
 outlier) to a fraction of what is needed to maintain public
 capital stock in critical infrastructure. Private investment
 is suppressed by the lack of productive, complementary
 public investments, slow credit recovery, and depressed
 domestic demand. External demand is minimal, and exports are
 not only too few, they are prevented from becoming an
 immediate, new engine of growth by infrastructure, finance,
 and other deficiencies. If such accelerated reforms
 materialize, external support well-coordinated and targeting
 the region as a whole, not just individual countries from
 the European Union (EU) and global international financial
 institutions (IFIs) could help ease the transition to a more
 sustained growth in medium term. In November 2012, the
 European Investment Bank, the European Bank for
 Reconstruction and Development, and the World Bank announced
 30 billion in financing for Central and South East European
 countries over the next two years. In SEE6 countries, this
 timely initiative would likely be delivered via the Western
 Balkans Investment Framework (WBIF) and other IFI resources.
 Investment Promotion Agency (IPA) resources will also be
 important, especially in supporting institutional reform and
 rural development. By focusing on major infrastructure of
 regional significance (rail, highways, energy, and gas) and
 on jobs and small and medium enterprises, the efficiency of
 investments, growth, and employment could be substantially
 heightened. However, additional financing for growth and
 jobs could prove effective only if accompanied by
 intensified fiscal and structural reforms, especially in the
 areas of investment climate, labor markets, and governance.