Financial Needs
for Macroeconomic Reforms and the Reconstruction of Post-Milosevic Serbia
Executive Summary
June, 2000
G17 PLUS
Trg Republike 5/VIII, 11000 Belgrade, Yugoslavia
tel/fax: (+381 11) 3344459, 3344930
e-mail: office@g17plus.org.yu http://www.g17plus.org.yu
Immediate financial assistance
Macroeconomic reforms and the reconstruction of Serbia favoring its return into the international community is a difficult task which a newly elected democratic government will be unable to accomplish unless it obtains strong domestic and international support already in the first month of its mandate. In order to secure an increased living standard of the population on a permanent basis and justify great expectations of the citizens after a change of the authoritarian regime, the new government will have to start immediately with the conduct of radical economic reforms. It presumes primarily monetary reform, the initiation of fiscal system reform and the realization of the program of swift privatization, with a significant increase of the level of education, health-care and social security of the population.
Importance of the Stability Pact for SouthEast Europe
Taking into account horrendous economic and social consequences of the former Yugoslavia's disintegration, civil war and ill-conducted economic policy of the current regime, as well as international sanctions, the country's isolation and NATO bombing campaign, it is quite obvious that the new government alone would be unable to finance the conduct of economic reforms and the reconstruction from domestic resources, even if it succeeds to engage all of available resources. On the other hand, even under most favorable conditions, the renewal of Serbian membership in international financial institutions (the IMF, the World Bank), and solution to the issue of succession with former Yugoslav republics would take several months, which is enough for the new government to lose its credibility and face serious social dissatisfaction of its citizens. This would impede its activities and could result in public call for the abandonment of reforms. The new government, therefore, has to have a relevant foreign assistance at its disposal in the very beginning of its mandate. Such assistance could be secured only by donations within the Stability Pact for SouthEast Europe. Part of the assistance would be intended to a fund for macroeconomic stabilization, while the rest would be invested into the reconstruction and modernization of infrastructure.
I
Financial Assistance for Macroeconomic Stabilization
Purpose
Coverage from real sources of the public sector deficits in Serbia during the first year of the new democratic government would ensure:
Meanwhile, this would imply definite international community support to the new democratic government and its orientation towards political and economic reforms in the country.
Funds
The public deficit in 2001 is estimated to USD 942 million, accounting for 6,9% of the NMP (Net Material Product - see Table 2, columns 4 and 8). This deficit could be partially financed from domestic resources. On the basis of a quick sale of part of domestic enterprises (state and socially-owned), undergoing privatization, it would be possible to collect around USD 350 million. The remaining USD 600 million should be financed from external sources. As the country's credit worthiness will be low, it is unlikely that more than USD 100 million can be obtained on the European capital market. Around half a billion dollars should be collected through the Fund for macroeconomic stabilization, which would be formed within the Stability Pact for SouthEast Europe.
Table 1. Financial Assistance for Macroeconomic Stabilization
|
Financial sources |
Amounts in million dollars |
|
Privatization proceeds |
350 |
|
Short-term credits |
100 |
|
Stability Pact’s Fund for macroeconomic stabilization |
500 |
Stabilization of domestic currency
Finances for the Fund for macroeconomic stabilization would be employed to bridge budgetary gaps, but also for domestic currency stabilization. The Fund's revenues would be used for the increase of foreign currency reserves with the National Bank of Yugoslavia, on the basis of which it would be possible to issue a new domestic convertible currency, by adoption of some of the floating rate modalities. For a sustainable backing of the exchange rate, a relatively modest level of foreign currency reserves would be required in the beginning, despite the fact that real money supply (M1) in the middle of 2000 accounted only for around USD 330 million. It should be taken into account that an important part of financial transactions in Serbia is being conducted in the zone of shadow economy (at least 50%) and that its share would be gradually integrated into the formal sector, through the conduct of fiscal reforms. This will additionally increase official reserves.
Suspension of off-budget revenues and expenditures
The introduction of off-budget revenues coincides with the reduction of the registered fiscal deficit. Hence, there is a reasonable doubt that the existence of off-budget revenues and expenditures raises the real public deficit, the scope of which has, officially, been decreasing over the last three years at a rate of 12,8% to 9,1% NMP. In 2001, fiscal transparency will be introduced. All off-budget payments will be suspended, while off-budget revenues will be included in the budget. This will result in reduction of the registered fiscal deficit.
Speed recovery of economy
After the conflict with NATO, we anticipate speedy recovery of the economy, which will significantly mitigate the problem of public deficit. The expected growth rates of the NMP in this and next year are 14% and 10% respectively. However, in 2001, the NMP will fail to reach the level it had in 1998. Therefore, the low level of the NMP still presents the greatest obstacle for balancing the public revenues and expenditures.
Deficits' change of structure
In the previous years, a quasi-fiscal deficit (losses of public enterprises) accounted for between one half and two-thirds of the total. In 2001, we anticipate price liberalization, privatization and the beginning of public enterprises’ restructuring. The quasi-fiscal deficit will be drastically reduced (even perhaps completely annulled), but, consequently, part of the budget assets intended for social protection and unemployment benefits, i.e. re-qualification and productive employment of labor surplus would have to be increased. This will result in a higher budgetary deficit.
Demilitarization
Military expenses will be reduced from the present 7% to 5% of the NMP. This was the limit determined by the law, even before the breakup of former Yugoslavia. Further estimates of military expenditures will depend on the country's defense strategy, which the new Parliament must adopt. Police expenditures will be drastically scaled down to 1,3% of the NMP, as a reduction of police forces and the removal of the reasons for its "special purposes" (due to which such expenditures have significantly grown in the last two years) are also envisaged.
Table 2. Estimates of the Fiscal Deficit
|
Public expenditures in Serbia1 |
||||||||
|
1997 |
1998 |
1999 |
2001 |
1997 |
1998 |
1999 |
2001 |
|
|
In million dollars |
Shares in Net Material Product |
|||||||
|
(1) |
(2) |
(3) |
(4) |
(5) |
(6) |
(7) |
(8) |
|
|
Defense |
853 |
771 |
754 |
679 |
6.2% |
5.4% |
7.0% |
5.0% |
|
Administration |
212 |
211 |
180 |
204 |
1.5% |
1.5% |
1.7% |
1.5% |
|
Police |
399 |
522 |
408 |
173 |
2.9% |
3.6% |
3.8% |
1.3% |
|
Judiciary |
127 |
100 |
78 |
272 |
0.9% |
0.7% |
0.7% |
2.0% |
|
Education |
812 |
604 |
478 |
883 |
5.9% |
4.2% |
4.4% |
6.5% |
|
Social Protection |
306 |
357 |
220 |
408 |
2.2% |
2.5% |
2.0% |
3.0% |
|
Investment |
142 |
135 |
102 |
136 |
1.0% |
0.9% |
0.9% |
1.0% |
|
Pension |
2,661 |
2,722 |
2,018 |
2,446 |
19.3% |
19.0% |
18.6% |
18.0% |
|
Health Care |
1,400 |
1,164 |
978 |
1,359 |
10.2% |
8.1% |
9.0% |
10.0% |
|
Labor Market |
97 |
95 |
80 |
340 |
0.7% |
0.7% |
0.7% |
2.5% |
|
Local Governments |
799 |
843 |
620 |
815 |
5.8% |
5.9% |
5.7% |
6.0% |
|
Debt Service |
158 |
1.2% |
||||||
|
Others |
567 |
424 |
328 |
272 |
4.1% |
3.0% |
3.0% |
2.0% |
|
Total Expenditures |
8,375 |
7,948 |
6,244 |
8,144 |
60.9% |
55.6% |
57.6% |
59.9% |
|
Total Revenues |
7,493 |
7,444 |
5,940 |
7,201 |
54.5% |
52.0% |
54.8% |
53.0% |
|
Deficit |
-882 |
-504 |
-304 |
-942 |
-6.4% |
-3.6% |
-2.8% |
-6.9% |
|
Net Material Product |
13,758 |
14,304 |
10,835 |
13,587 |
||||
1
The Republic of Serbia without Kosovo
Preparation for the pension system reform
Pension expenditures are the largest problem of public financing. Reduction of their share in the NMP by one percent of its three-year's average is predicted. This would provide for a modest pensions increase compared to those paid in 1999, but it would still remain bellow the level of 1997. Further reduction of expenditures for pensions is related to a serious pension system reform.
Investments in human resources
Education and health care expenditures would be returned to the level of 1997, meaning that the economic growth would require an increase in the share of education expenses by at least half percent of the NMP.
Support to legal state
The introduction of independent judiciary and anti-corruption struggle require the increase of expenditures to support the legal state. Due to the limited maneuvering space, the increase of these expenditures by only one per cent of the NMP is predicted.
New social expenditures
Due to demilitarization needs, employment and re-qualification of redundancies resulting from the restructuring of public enterprises and the liberalization of their prices, expenditures for social safety and the labor market will be increased by one and two percent of the NMP respectively.
External debt servicing
In 2001, the beginning of regular external debt servicing is predicted. If commitments for external debt servicing from the Memorandum signed with the London Club of Creditors in 1998 and legal commitments on citizens' frozen foreign currency savings were undertaken, budgetary obligation on these bases would account for 1,2% of the NMP.
Lower deficit and fiscal burden
By contrast from 1997, fiscal revenues would be reduced by 1,5%, while fiscal expenditures would go down by 1% of the NMP. Nevertheless, they will still remain high, accounting for 53% and 59,9% of the NMP respectively. Further decrease of their share in the NMP is possible only with faster economic growth.
Total fiscal and quasi-fiscal deficit would be reduced from 12,8% and 9,1% respectively in 1997 and 1999, to 6,9% in 2001. Their reduction will primarily be the result of elimination of the quasi-fiscal deficit, but the problem of the high budgetary deficit of the country would still remain.
Privatization proceeds
In 2001, it would not be realistic to expect a quick inflow of foreign capital on the basis of privatization of domestic enterprises. Maximal proceeds of USD 350 million could be expected. Candidates for quick privatization are cement and tobacco factories, Yugoslav Airlines, oil refinery in Novi Sad, a part of chemical industry, distribution parts of the power utilities and the oil industry.
Optimistic scenario
In the case of a lower NMP growth or adjustment of electricity prices over a longer period of time (for example, within three years), the estimated public deficit in 2001 could be much higher. On the other hand, it is possible that revenues for covering the fiscal deficit are not realized as planned. For example, it is possible that the sale of enterprises does not go as fast as expected or that the financial market does not accept state securities in the planned scope. In that case, larger financial support for the stabilization of Serbian economy in the first year of the new democratic government should be considered.
II
Reconstruction and Upgrading of Infrastructure
Purpose
For over two decades macroeconomic development of Serbia has not been favoring investments in infrastructure. In the 1980's, the NMP stagnation caused postponing, and in some cases, abandoning of the needed infrastructure projects. In the 1990's, deep-rooted economic crisis in Serbia placed infrastructure in a very hard position. There were no new infrastructure projects and the existing infrastructure systems were not properly maintained. The overall situation was aggravated with physical destruction of the parts of infrastructure in the spring of 1999, because of NATO campaign.
Infrastructure in Serbia today is far below the quality of West European infrastructure, and well below the quality needed for stable and sustainable development.
Investments in Serbia's infrastructure are a necessary component of its future development. The projects herewith presented are part of the complex studies of urban rehabilitation of Serbian towns, which will prepare a basis for necessary conversion of industry to the higher stage of urban development (the stage of regional towns).
Types of infrastructure projects
There are three types of infrastructure projects:
Funds
Finances required for the realization of infrastructure projects of national, regional and local importance amount at around USD 6,8 billion. This sum is the result of a preliminary assessment of the needs for investments into Serbia's infrastructure. Depending on investment areas, the needs refer to the period between 3 years (power industry) and 10 years (traffic). Financing of large infrastructure projects from domestic resources will not be possible, given the poor economic situation in the country. Thus, in the very beginning of economic reforms, the majority of funds needed for infrastructure financing should be secured through donations or loans by European banks, primarily the European Investment Bank. In a later stage, infrastructure projects would be financed from foreign direct investments and concessions as well.
Table 3. Investment Requirements and Financial Sources
|
Projects |
Amounts |
Quick start |
Second stage |
Donation (D), Loan (L), FDI, Concession (C) |
|
Main roads |
3,113 |
200 |
2,913 |
D, L, C |
|
Railroads |
600 |
30 |
570 |
D, L |
|
Power Industry |
2,133 |
231 |
1,902 |
D, L, FDI |
|
Gas pipelines |
350 |
50 |
300 |
L, FDI |
|
Oil pipelines |
35 |
35 |
L, FDI |
|
|
Regional projects |
524 |
67 |
457 |
D, L |
|
Local projects |
57 |
57 |
D,C |
|
|
Total |
6,812 |
635 |
6,177 |
Stages
The large scope of investments in infrastructure and a relatively long period of their realization require the need of the investments division into relevant time stages. In the first year of the new government's mandate, quick start projects' realization would begin: reconstruction of main roads on the Corridor X, rehabilitation of destroyed power capacities and reconstruction of new facilities in transmission network and open cast mines, clearance of the Danube, revitalization of the Dunav-Tisa-Dunav irrigation channels and realization of urbane infrastructure projects at the local level.
Mutual Interests
SouthEast Europe is away from the main European markets and presents a European periphery in economic terms. Investments in Serbia's infrastructure, particularly in significant transport corridors, would enable mutual connections with the countries in the region and connections with markets of developed European countries and MiddleEast countries. Energy infrastructure would gain characteristics of a regional market (power industry) or would become important for oil and gas transit. Infrastructure development would provide for stabilization of the entire region, thus making it a significant market for European manufacturers.
Completion of the traffic network, particularly Corridor X, would provide significant increase of foreign currency revenues. Given that Serbia will have serious difficulties to finance its external debt in the years to come, this inflow of hard currencies will have substantial positive effects to the balance of payments and the whole development of the country.
Effects
Due to the nature of infrastructure, donations, loans, concessions and FDIs in this area will have long-term effects in Serbia. These effects have at least two features. The new infrastructure facilities, which will be built from international sources, will be in function for a number of years, thus remaining as a corner stone for future development. Also, services from these facilities will be available in the long-term and a large number of people will benefit from it. The donations, loans, concessions and FDIs would serve not only the present generation and immediate purposes, but also future generations and needs of Serbia and regional countries.
Mladjan Dinkic, Executive Director
Srboljub Antic, Project Director