Author: Kevin Körner (+49) 69 910-31718
October 12, 2012
Last Sunday's local elections which - as expected - mainly reflected the issue of different ethnicities will hardly help solve the government crisis in Bosnia and Herzegovina. The crisis began with the parliamentary elections in autumn 2010 and is hurting the conflict-ridden, multi-ethnic state in the Western Balkans both politically and economically.
Even though - after a sixteen-month blockade - a central government was finally installed at the beginning of this year, the country suffered another political setback already in May when its ruling coalition broke up over budget issues. However, the budget was adopted in the end. But in light of the most recent squabbles, it seems rather doubtful whether the ruling parties will be able to agree on the constitutional reforms called for by the EU in time to meet the deadline. The country's hopes of gaining EU candidate status this year, as one of the last countries of the region, therefore seem to be waning - not to speak of EU accession before 2020 (see also Burgess and Koerner, 2012: Western Balkans: Bumps on the road to EU accession).
Effects of the Bosnian war can still be felt
The inner disunity of the parties in government clearly reflects the degree to which the country continues to suffer from the direct and indirect effects of the Bosnian war which broke out in 1992 after the dissolution of the former Yugoslavia and could only be ended with the help of international mediation in 1995. The highly complex political and administrative structures created by the Dayton Peace Agreement have increasingly proven to stand in the way of important reforms and thus also of economic development. It seems very difficult to reconcile the interests of the two entities that form the Bosnian state: the mostly Bosnian-Croatian Federation of Bosnia and Herzegovina and the Serb-dominated, partially autonomous Republika Srpska.
Economic indicators pointing south
A slight recovery of the Bosnian economy from the 2009 recession came to an abrupt halt as a result of the European sovereign debt crisis. Approximately 60% of Bosnia's exports go to the euro area. Moreover, according to Standard & Poor's (S&P), 95% of the banking sector is in foreign hands. The lion's share is accounted for by Austrian and Italian parent banks. Regulatory pressures and a difficult business environment for parent banks in the euro area are having a dampening effect on lending. Other indicators also clearly point to an economic slowdown. Industrial output, for instance, shrank by approx. 6% yoy between January and August, and exports were down nearly 3% yoy in the first half of the year. Overall, we expect 2012 to see zero growth but would not rule out a slight recession, either. For the coming year we expect a moderate recovery but the euro crisis will remain the main factor of uncertainty.
Low inflation thanks to currency board
Bosnia's currency, the convertible mark, is pegged to the euro in the framework of a currency board. Thanks to its monetary policy being imported from the euro area, Bosnia and Herzegovina has boasted one of the lowest inflation rates in all of southern Europe (below 3% on average) over the last ten years and confidence in the currency has grown. Despite some fluctuations since the beginning of the financial crisis the country's foreign exchange reserves of approximately USD 4 bn seem sufficient to ensure stability of the currency board over the medium term.
New IMF programme supporting budget
There is positive news also from government finances. A revised budget for 2012 passed in September finally paved the way for a new IMF programme. The two-year financial assistance amounts to a total of EUR 405 m and will serve to support Bosnia's reform efforts and to finance the budget deficit (estimated at 3.5% of GDP in 2012). Previously the IMF had frozen funds pledged to Bosnia and Herzegovina owing to the non-existence of a Bosnian central government and poor implementation of reforms.
External imbalances have been reduced but not eliminated entirely
As in the region as a whole, the growth model of the pre-crisis years was shaped strongly by foreign capital inflows and domestic lending also in Bosnia and Herzegovina. Hence, the Balkan country registered average real GDP growth of around 5% per annum. However, substantial external imbalances emerged as well, which were partially and forcibly corrected by the financial crisis. The current account deficit, for instance, still amounted to 14% of GDP in 2008. This masked a massive trade balance deficit of nearly 40% of GDP, which could not be offset entirely even by considerable transfer payments, particularly remittances from Bosnians working abroad. Since then, credit growth and capital inflows have slowed substantially. Related to that, the import surplus has also shrunk markedly. For 2012 we expect a current account deficit of 6.9% of GDP.
Urgent need for structural reforms
On a medium-term horizon, Bosnia and Herzegovina will have to introduce structural and political reforms in order to reduce the economy's vulnerability to external shocks, boost its growth potential and meet the requirements in connection with its EU membership ambitions. This is also one of the findings of the latest IMF country report on Bosnia and Herzegovina. Its economy is beset with structural problems. At roughly 27% according to the IMF, the unemployment rate is the second highest in the region (after Macedonia). At the same time, per-capita GDP is very low by regional standards, at an annual USD 8,100 (purchasing power parity). Moreover, the general economic environment is anything but business-friendly in many respects. In the World Bank's "Ease of Doing Business" survey, for instance, Bosnia and Herzegovina holds 125th place of a total of 183 countries and thus ranks in the lower third globally. Among the Western Balkan countries, it even brings up the rear. Not least there is an urgent need for action in the fight against corruption and organised crime.
Translation of an article published in the "Boersen-Zeitung", a German business daily, in October 2012.
Author: Kevin Körner (+49) 69 910-31718
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