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Serbia and Montenegro: Third Review Under the Extended Arrangement and Requests for Waiver of a Performance Criterion and Rephasing of Purchases

Author(s):
International Monetary Fund
Published Date:
July 2004
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I. Introduction

1. On July 30, 2003, the Executive Board completed the second review (and the fourth and fifth financing reviews) under the EA approved in May 2002 (Appendix I).1 SM has made six purchases under the arrangement. The seventh and eight purchases (linked to the end-September and end-December 2003 tests) depend on observance of the end-December 2003 performance criteria (PCs) and completion of the third review (and the sixth and seventh financing reviews). Although understandings on most aspects of policies for the third review were reached during an October 2003 mission, the Board could not consider the review in January 2004 as envisaged owing to early Serbian elections that prevented adoption of the 2004 budget and other prior actions. The discussions resumed in March after a new government took office (see below) and concluded in April.

2. In the attached letter of May 21, 2004, and the accompanying Memorandum on Economic and Financial Policies, the authorities outline policies through end-2004 (Appendix VI). On this basis, they request (a) waiver for the nonobservance of the end-December 2003 PC on net bank credit to government; (b) completion of the third program review (and the financing reviews); (c) re-apportionment of the ninth purchase equally among the EA’s remaining four purchases; and (d) conditioning of the purchase linked to the end-June 2004 tests on completion of the fourth review.

3. The World Bank is involved closely in SM’s reform efforts (Appendix II). Contingent upon policy performance, the Bank has envisaged concessional lending of up to $540 million for FY 2002–04, of which $425 million has already been approved, in support of fiscal consolidation, private and financial sector development, and reforms in the social, energy and environment sectors. In the context of the next Country Assistance Strategy (FY2005–07), the Bank plans to phase in nonconcessional lending. The Fund and the Bank Boards endorsed SM’s Poverty Reduction Strategy Paper (PRSP) in March 2004.

4. A minority Serbian government was formed in March following elections in December. It is comprised of reformist parties, led by former Yugoslav President Kostunica, and supported in parliament by the Socialists. The outgoing coalition’s key reformist party—founded by slain Premier Djindjić—is now in opposition, along with the nationalist Radical Party. Serbian presidential elections are scheduled for June 13, 2004. Meanwhile, Montenegro’s ruling coalition retains a majority with a remaining term of three years. Cooperation between Serbia and Montenegro has improved following adoption of a new constitution last year.2

II. Background

5. Both inflation and growth were lower than programmed in 2003, but recent data point to a pickup in growth (Table 1, Figures 14). Twelve-month RPI inflation was almost halved to 7.8 percent at end-2003—compared to a 9–11 percent target—notwithstanding the dinar’s accelerated depreciation, and remained at around 8 percent in April. Real GDP grew by 3 percent in 2003 reflecting mainly buoyant services. The shortfall in relation to the 3½–4½ percent target stemmed from a drought-induced 8 percent decline in agricultural output. The latest data point to strong growth in industry in 2004 Q1 after a relatively weak performance in 2003. Meanwhile, economy-wide wage growth in 2003 (13 percent in real terms) outpaced productivity gains (8 percent), although by much less than in 2002.

Table 1.Serbia and Montenegro: Selected Economic and Financial Indicators, 2001–04 1/
2001200220032004
Staff ReportPrel. ActualRev. Prog.
Real economy
GDP, in billions of DIN771.81,006.91,225.91,192.86/1,354
Average net real wage, 1997 =100115142160
Average net wage in Euro102149175
(Percent change)
Real GDP5.54.03½ - 4½3.06/4 - 5
Gross industrial production0.01.7−2.7
Retail prices (period average)91.121.212–1311.38-8½
Retail prices (end of period, 12-month)39.014.29-117.88 - 9
Unemployment rate (in percent)31.328.934.5
(Percent of GDP)
General government finances 2/
Revenue38.942.840.542.643.6
Expenditure40.347.345.146.847.0
Cash balance−1.4−4.5−4.5−4.2−3.4
Foreign grants0.71.10.70.20.3
Foreign loans (net)0.01.82.01.11.6
Of which: Foreign financed projects0.00.81.10.50.9
Privatization receipts0.02.21.84.30.7
Domestic financing (Net)0.7−0.50.0−1.40.9
Commitment balance 3/−1.4−4.5−4.5−4.2−3.4
(12-month percent change)
Money supply (end-of-period) 4/
M1114.479.811.213.311.2
M276.678.010.928.618.9
Balance of payments(In billions of U.S. dollars)
Merchandise exports2.02.43.22.93.5
Merchandise imports−4.8−6.3−7.9−8.0−8.8
Trade balance−2.8−3.9−4.8−5.0−5.3
Current account balance, after grants−0.5−1.4−1.7−2.1−2.2
(In percent of GDP)−4.6−8.8−8.2−10.2−9.6
Current account balance, before grants−1.1−2.0−2.3−2.6−2.6
(In percent of GDP)−9.7−12.8−10.9−12.6−11.0
Foreign debt (year-end) 5/11.99.612.814.312.8
Gross official reserves1.22.32.93.63.6
(In months of imports of goods and services)2.43.23.64.44.3
Sources: Federal Statistical Office; National Bank of Serbia; Federal and State Ministries of Finance; and IMF staff estimates.

With the exception of foreign debt, data exclude Kosovo.

Fiscal operations of all levels of government, except for Montenegro where it excludes local governments. 2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Excludes arrears of local governments and interest payments due but not paid on foreign debt still under restructuring.

Excludes Montenegro.

The data reflect the first phase of the Paris Club reduction in 2002. Debt relief on comparable terms from other bilateral creditors did not materialize in 2003 as assumed in the original program, but is assumed to take effect in 2004.

Revised estimate.

Sources: Federal Statistical Office; National Bank of Serbia; Federal and State Ministries of Finance; and IMF staff estimates.

With the exception of foreign debt, data exclude Kosovo.

Fiscal operations of all levels of government, except for Montenegro where it excludes local governments. 2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Excludes arrears of local governments and interest payments due but not paid on foreign debt still under restructuring.

Excludes Montenegro.

The data reflect the first phase of the Paris Club reduction in 2002. Debt relief on comparable terms from other bilateral creditors did not materialize in 2003 as assumed in the original program, but is assumed to take effect in 2004.

Revised estimate.

Figure 1.Serbia and Montenegro: Selected Economic Activity Indicators, 1992–2004 1/

Sources: Serbian and Federal Statistics Office.

1/ Data refer to the territory of Serbia and Montenegro excluding Kosovo after February 1999.

2/ Growth rates for 1990-94 refer to Gross Social Product (GSP), which excludes public and other services.

3/ The data exclude farmers and other self-employed. Including self-employed, the private sector accounted for about 45 percent of total employment in 2002.

4/ In 1997 the official statistics began to track employment in small enterprises excluded from other surveys.

5/ 2003 data up to May.

Figure 2.Serbia and Montenegro: Prices, Exchange Rates, and Wages January 1997–March 2004 1/

Sources: Serbian and Federal Statistics Office; and IMF staff calculations.

1/ Data after February 1999 exclude Kosovo.

2/ The official exchange rate includes a premium which was applied in most but not all official transactions between May-November 2000. The exchange rate was unified on December 5, 2000.

3/ The index is calculated on the basis of a euro/dollar (80/20 percent) basket using a weighted average of the official, commercial and parallel rates through December 5, 2000, and the unified official exchange rate thereafter. Increase denotes appreciation.

4/ Wage data include fringe benefits from June 2001. For the conversion to euro wages, a weighted average of the parallel, commercial and official exchange rates was used through December 2000.

Figure 3.Serbia and Montenegro: Exports and Imports, 1997–2004

Sources: Federal Office of Statistics; National Bank of Serbia; and IMF staff calculations.

Figure 4.Serbia: Real Dinar Broad Money, Foreign Reserves, and Reserve Money Growth, December 2000–04

Sources: National Bank of Serbia; Serbian Statistics Office; and IMF staff estimates and calculations.

1/ Weighted average of monthly interest rates of Commercial Paper, Bank Bills, and Certificates of Deposit.

2/ NFA is at Dec. 01 exchange rates and excludes BIS assets allocation and write-off related to bank closures.

3/ Reserve money is based on monthly averages and adjusted to be comparable with the widening of the reserve base in April 2002 and to changes in the reserve ratio.

6. The current account deficit has remained large (Table 2). Import volume growth decelerated to 7½ percent in 2003—from 23 percent in 2002—but was higher than projected. Restructuring-induced losses in the export base and weak foreign demand dampened export volume growth to 3 percent from 13 percent in 2002, leaving exports as a percent of GDP low by historical standards. Private remittances were buoyant at 11.2 percent of GDP. The current account deficit (before grants) thus remained at 12¾ percent of GDP in 2003, exceeding the program target by 1½ percentage points (of this, about 1 percentage point reflects an import surge in December attributable to changes in statistical procedures and a speculative advancement of imports owing to election-related uncertainties). According to preliminary data, which are subject to substantial uncertainty, import volume in January–February 2004 declined by 24 percent from the December peak but was 15 percent higher than a year earlier, while export volume was stagnant.3

Table 2.Serbia and Montenegro: Balance of Payments, 2000–05(In millions of U.S. dollars, unless otherwise indicated)
200020012002200320042005
Staff ReportPrel EstStaff ReportRevised Program. 1/Revised Program. 1/
Trade balance-1,788-2,834-3,908-4,750-5,040-4,852-5,322-5,310
Exports f.o.b.1,9232,0032,4123,1852,9173,7963,4833,935
(percent growth)14.74.220.432.120.919.219.413.0
(percent growth in euro)32.57.514.211.51.016.38.013.0
Recorded1,7231,9032,2753,1152,7223,7963,4833,935
Unrecorded20010013770195000
Imports f.o.b.-3,711-4,837-6,320-7,935-7,957-8,648-8,805-9,245
(percent growth)12.630.430.725.625.99.010.75.0
(percent growth in euro)30.034.523.95.05.26.10.15.0
Services (non-factor services, net)331417292464335574464568
Receipts6247408291,1651,0531,3391,2841,438
Expenditure-293-323-537-701-718-765-820-870
Net factor income-1-26-111-246-237-382-475-511
Of which: Net interest11-26-111-246-237-382-475-511
Earnings5348621036012283137
Payments 2/-42-74-173-350-297-504-558-648
Unrequited private and official transfers, net1,1191,9152,3432,2602,8212,4422,7562,897
Private remittances, net8481,3241,7192,2602,3282,4422,7562,897
Inflows1,1321,6982,0892,6502,7362,8323,1563,297
Outflows-284-374-370-390-408-390-400-400
Current account balance, before grants-610-1,119-2,007-2,272-2,614-2,218-2,577-2,356
(In percent of GDP)3/-7.1-9.7-12.8-10.9-12.6-10.2-11.0-10.0
Official grants 4/2715916240493000
Foreign direct investment, net 5/251655626231,3957477131,181
Inflows5627511,5327727441,212
Of which: Privatization proceeds from tender and auction289372777345287687
Greenfield Investment255363270350332450
Portfolio investment18037822.87525
Reinvestment6107425050
Outflows-128-136-25-31-31
Foreign loans, net18037453718777227423867
Medium and long term, net2132993799770618419322
Disbursements227332421253911298500500
Of which: Official creditors 4/2050139396000
Amortization-14-33-43-157-204-114-307-478
Short term, net-33751589066904545
Other capital inflows 6/49629892315240150160160
Commercial banks, net-274-1440-40-60920
Capital account balance2558941,8461,1242,3681,1121,2031,408
(Capital account in euro terms)276998195498820949499621126
Errors and omissions267239320409611300337290
Overall balance183605784-739857-806-1,037-658
Financing-183-5,981-855-5,006-922-193-4,883-577
Net foreign assets (increase, -)-246-395-816-333-922-193-44-577
Central Bank, net-395-816-333-922-193-44-577
Gross foreign reserves (increase, -)-227-523-1,111-611-1,270-327-50-648
Of which: IMF purchases152128295279348350241278
Gross foreign liabilities (increase +)-19128295279348134671
IMF repayment200000-216-235-207
Arrears (reduction, -) 7/63-5,587-39-4,67300-4,8390
Financing expected/to be secured09990925995897
Official grants 4/05750351338351
Official borrowing (excluding IMF) 4/04240574657546
Residual gap5,377714,74665734,925338
Arrears settlement with creditors 7/5,377394,673004,8390
Debt relief from creditors03273657386105
Memorandum items:
Trade deficit-1,788-2,834-3,908-4,750-5,040-4,852-5,322-5,310
(In percent of GDP)3/-21-24-24.9-22.9-24.3-20.8-22.8-22.5
Current account balance, after grants-339-528-1,383-1,697-2,121-1,867-2,239-2005
(In percent of GDP)3/-3.9-4.6-8.8-8.1-10.2-8.6-9.6-8.5
Gross international reserves, USD mn (end period)5161,1692,2802,8913,5503,2183,6004,248
in months of prospective imports of goods & services1.22.43.23.74.43.94.34.7
Debt service, cash561071834334367611,0141,228
(In percent of GDP)3/0.60.91.22.12.13.54.35.2
Principal 8/143343157204330542685
Interest4274141277232431473543
Sources: SM authorities; and IMF staff estimates.

Revised program figures take into account valuation impact of dollar exchange rate.

Up to 2001, figures indicate debt service actually paid. For 2002 and onwards, debt service recorded above-the-line is after the 51 percent debt reduction granted by bilateral and commercial creditors, but before the capitalization of moratorium interest (the effect of the latter is recorded as “debt relief from creditors”).

Program figures are adjusted to reflect the official revision of the GDP series.

Official grants and loans recorded above-the-line are amounts based on already secured commitments; amounts expected from new pledges are shown below-the-line.

For 2003, net of the payment on Telekom Srbija.

For 2001–2003, including sales of foreign exchange notes by the public (amount above the level implied by trend growth) reflecting currency substitution. For 2003 also includes the foreign currency inflows corresponding to the unfreezing of the accounts held abroad by SM banks.

Negotiations are on-going to clear all remaining external arrears (to the IFC, the London Club, other commercial creditors, and on short-term debt).

Increase of 2004 principal payments from that envisaged in the 2003 Staff Report was mainly owing to the larger than expected commercial borrowings by private companies in 2003, mostly from their parent companies.

Sources: SM authorities; and IMF staff estimates.

Revised program figures take into account valuation impact of dollar exchange rate.

Up to 2001, figures indicate debt service actually paid. For 2002 and onwards, debt service recorded above-the-line is after the 51 percent debt reduction granted by bilateral and commercial creditors, but before the capitalization of moratorium interest (the effect of the latter is recorded as “debt relief from creditors”).

Program figures are adjusted to reflect the official revision of the GDP series.

Official grants and loans recorded above-the-line are amounts based on already secured commitments; amounts expected from new pledges are shown below-the-line.

For 2003, net of the payment on Telekom Srbija.

For 2001–2003, including sales of foreign exchange notes by the public (amount above the level implied by trend growth) reflecting currency substitution. For 2003 also includes the foreign currency inflows corresponding to the unfreezing of the accounts held abroad by SM banks.

Negotiations are on-going to clear all remaining external arrears (to the IFC, the London Club, other commercial creditors, and on short-term debt).

Increase of 2004 principal payments from that envisaged in the 2003 Staff Report was mainly owing to the larger than expected commercial borrowings by private companies in 2003, mostly from their parent companies.

7. Foreign reserves surged during 2003, aided by large FDI inflows, but came under pressure in early 2004. FDI reached $1.4 billion (7 percent of GDP) in 2003, twice the amount programmed, reflecting sizeable privatization receipts, sales of shares in two employee-owned breweries, and greenfield investment. Together with the valuation effect from a weaker dollar, this helped raise official foreign reserves during 2003 by one-half to $3.6 billion (4.4 months of projected 2004 imports) by year-end, compared with a program target of $2.9 billion. Pressures on the foreign exchange market—stemming from heightened political uncertainty and large deficit spending in December—resulted in $187 million net NBS sales in the interbank market in January–March 2004. With improved market conditions, the NBS purchased $64 million in April.

8. All but one of the end-December 2003 PCs were observed, while indicative targets were largely met (Annex A to Appendix VI). PCs on credit, fiscal and external sector targets were met, except for the ceiling on net bank credit to the government, which was exceeded by 0.4 percent of GDP. Despite a year-end surge on the back of the fiscal overrun, the NDA of the NBS remained below program targets, with excess privatization proceeds deposited in the NBS in line with the program (Table 5). Indicative targets on banking system NDA and central government bank deposits were met, but those on state enterprise wage bills and on government expenditure arrears were breached by small margins.

Table 3.Serbia and Montenegro: External Financing Requirements and Sources, 1998–2005(In millions of U.S. dollars)
19981999200020012002200320042005
EstRevised ProgramRevised Program
1. Gross financing requirements-720-818-1,074-7,261-3,200-4,089-8,007-3,689
External current account deficit (excluding official transfers)-660-764-671-1,119-2,007-2,614-2,577-2,356
Debt amortization-60-54-47-33-43-204-307-478
Medium- and long-term debt-25-17-14-33-43-176-265-478
Short-term debt 1/-35-37-3300-28-420
Repayment of arrears000-5,587-390-4,8390
Gross reserve accumulation00-227-523-1,111-1,270-50-648
IMF repurchases and repayments00-129000-235-207
2. Financing7208181,0747,2613,2004,0896,6862,176
Official grants 2/0027159162449300
Foreign direct investment (net)113112251655621,3957131,181
Disbursement from private creditors783049202236580545545
Medium and long-term financing78304912778514500500
Short-term financing and other capital inflows00075158664545
Disbursement from official creditors 2/502922720534339600
Multilateral 3/20528534100
Other0585500
IMF disbursement0015012829534800
Accumulation of arrears (exceptional)861266200000
Debt Relief0005,37771654,8390
Other flows 4/3935212905941,069811589450
3. Financing Gap0000001,3221,513
Expected disbursements of grants from donors 2/000000338351
EU0000001670
Others (mostly official bilateral creditors)000000171351
Expected disbursement of loans from donors 2/000000897824
World Bank000000183160
IMF000000241278
EBRD000000148117
EIB000000178117
EU000000420
Others (mostly official bilateral creditors)000000106152
Debt relief00000086105
4. Residual Financing Gap0000000234
Sources: SM authorities; and IMF staff estimates.

Original maturity of less than 1 year.

Official grants and loans recorded above-the-line are amounts based on already secured commitments; amounts expected from new pledges are shown below-the-line.

Not including amortization of the debt to IMF.

Includes other capital inflows, errors and omissions, and change in net foreign assets of commercial banks.

Sources: SM authorities; and IMF staff estimates.

Original maturity of less than 1 year.

Official grants and loans recorded above-the-line are amounts based on already secured commitments; amounts expected from new pledges are shown below-the-line.

Not including amortization of the debt to IMF.

Includes other capital inflows, errors and omissions, and change in net foreign assets of commercial banks.

Table 4.Net Foreign Assets of National Bank of Serbia–Actual and Program Floors, December 2002–December 04(In millions of U.S. dollars at program exchange rates, end of period)
200220032004
DecemberJan.Mar.JuneSep.Sep.Dec.Dec.Dec. est. end-03 Ex. Rate 4/Jan.Feb.Mar.Apr.JuneSep.Dec.
End-02 Ex. RatesStaff ReportPrelPrelPrelPrelProgram
EOPAvg.
Net foreign assets of the NBS 1/1,4111,6131,5351,5441,4211,4542,1131,5391,6852,1762,5372,4642,4272,4042,4882,4852,5192,581
Net foreign assets of the NBS for program purposes 2/9381,0561,0051,0068488791,5199701,0981,5021,7471,6361,5951,5491,5891,6091,6301,678
Gross foreign assets2,0342,2802,2022,2112,0882,2573,0522,4772,6233,1153,5503,4773,4413,3773,4523,4093,5233,610
Reserve-related liabilities (-)6226676676676678039399399399391,0131,0131,0139739649241,0041,029
Gross reserve liabilities for program purposes (-)1,0951,2241,1971,2051,2401,3781,5331,5071,5251,6131,8031,8411,8461,8281,8621,8001,8941,932
IMF522567567567567703839839839839913913913873864824904929
Other100100100100100100100100100100100100100100100100100100
Loan from China deposited by a closed bank100100100100100100100100100100100100100100100100100100
Adjustments for program purposes473557530538573575594569586674790827832855898876890903
Foreign currency liabilities to domestic banks473557530538573575594569586674790827832855898876890903
Forex deposits from commercial banks5665444665666622666
Unpaid interest221111122122222222
Short-term loan from commercial banks000000000000000000
Required reserve and payments related deposits453526500520564562582538555660774811816839866860874887
Transaction and transitory deposits132323124872323888888888
Old obligations commercial banks000000000000000000
Foreign currency liabilities to nonbank000000000000000000
non-government residents000000000000000000
Net foreign assets of commercial banks of Serbia 3/709709719602648748626649750750667632709576658658658
Gross reserves783783801687754877700723886886804768846713794794794
Reserve liabilities747482851061297474136136136136136136136136136
Sources: National Bank of Serbia; and IMF staff estimates and calculations.

Excludes frozen assets and liabilities of Serbia; undivided assets of SFRY; and in 2003 other unfrozen assets received in May 2003.

Program figures are floors.

At current exchange rates.

Includes unfrozen assets from U.S. allocated for NBS in that year; excludes liabilities to and of closed banks and undivided liabilities belong to SFRY.

Sources: National Bank of Serbia; and IMF staff estimates and calculations.

Excludes frozen assets and liabilities of Serbia; undivided assets of SFRY; and in 2003 other unfrozen assets received in May 2003.

Program figures are floors.

At current exchange rates.

Includes unfrozen assets from U.S. allocated for NBS in that year; excludes liabilities to and of closed banks and undivided liabilities belong to SFRY.

Table 5.Balance Sheet of the National Bank of Serbia, December 2002–December 04 1/(In millions of dinars; monthly average)
200220032004
DecemberMarchDecMarAprJuneSep.Dec.
End -02 Ex. RatesStaff Report 10/End-03 Ex ratesPrel.Prel.Program
EOPAvg. Adj. 9/EOPAvg.EOPAvg.EOPAvgEOPAvg.EOPAvg.
Net foreign assets2/62,30459,28450,00652,51463,52088,62391,66895,43096,43584,60885,85186,84485,62387,45088,84891,222
Net foreign assets in euro million1,0449648138541,0331,4411,4901,3971,4121,2391,2571,2711,2531,2801,3011,335
Gross foreign assets 3/134,491129,879123,137124,829153,302183,749186,103193,962194,071184,510186,220188,591186,448186,082191,470196,433
Gross reserve liabilities (-) 4/-72,187-70,594-73,131-72,315-89,782-95,127-94,435-98,532-97,637-99,902-100,369-101,748-100,825-98,632-102,622-105,211
Net domestic assets5/7,0201,97112,9459,540-33-18,605-28,527-25,412-33,293-27,479-28,589-27,190-26,821-26,495-23,953-23,494
Domestic credit14,45523,494-8,621-10,332
Net claims on government9,46018,014-10,548-12,125-13,815-13,991-7,768-5,359
Claims20,72023,25320,29020,290
Dinar credits20,72023,25320,29020,290
Foreign currency credits0000
Liabilities (-)-11,260-5,239-30,838-32,415
Dinar liabilities-5,101-1,134-14,353-14,353
Foreign currency liabilities-6,159-4,105-16,485-18,062
Net claims on banks6,0546,3543,6603,526
Claims7,7317,7405,9855,851
Other dinar credits5,5625,5853,8383,838
Foreign currency credits2,1692,1552,1472,013
Foreign currency credits in euro million36363629
Liabilities (-)-1,677-1,386-2,325-2,325
Of which: Stock of NBS bills-1,549-1,288-1,585-2,223-2,989-2,223-2,380-1,393-2,462-2,241
Net claims on the rest of the economy-1,059-874-1,733-1,733
Claims1,0141,1134646
Dinar credits1,0141,1134646
Foreign currency credits0000
Liabilities (-)-2,073-1,987-1,779-1,779
Dinar deposits-2,073-1,987-1,779-1,779
Other assets, net-7,435-10,549-9,984-15,080
Reserve money (in dinar)69,32461,25562,95162,05463,48870,01863,14170,01863,14157,12857,26159,65358,80260,95564,89567,728
Currency in circulation43,71937,82736,91737,91341,38143,71239,47443,71239,47437,68036,69340,96238,32139,86841,84243,421
Reserve deposits25,60523,42726,03424,14222,10626,30623,66826,30623,66819,44820,56818,69220,48221,08723,05324,307
Required reserves15,84318,04320,89819,74616,71515,66215,68715,66215,68714,67714,94414,42414,50414,74616,15717,569
Shortfall (+) or excess (-) in required reserves 6/4,377-3841,3982,3530-550-525-550-5252,2801,793-1,270-199000
Excess reserves 7/9,7625,3855,1364,3955,39210,6447,92710,6447,9274,7725,6244,2675,9786,3416,8966,738
Memorandum items: (12-months growth rates, unless otherwise indicated)
Reserve money, nominal 8/34.337.711.37.310.1-2.2-0.90.61.05.14.57.3
Reserve money, real 8/18.421.41.2-0.42.2-9.1-7.9-6.8-6.2-2.4-3.2-1.1
Currency in circulation, nominal22.427.99.40.04.42.1-3.25.52.16.77.110.0
Currency in circulation, real7.912.70.4-7.2-3.2-5.2-10.1-2.0-5.2-0.9-0.81.4
Required reserves, nominal 8/105.3104.518.49.811.1-10.3-3.3-3.7-6.5-1.77.712.0
Required reserves, real 8/81.0107.34.51.93.1-16.6-10.2-10.6-13.2-8.7-0.33.2
Velocity (based on annualized monthly GDP)18.518.819.216.618.322.822.822.122.419.619.319.1
Excess reserves, nominal-34.7-37.3-27.09.02.4-7.128.0-22.515.312.3-14.2-15.0
Excess reserves as a share of reserve deposits (percent)38.119.718.224.440.533.524.527.322.829.230.129.927.7
Stock of NBS bills as share of reserve money (percent)2.02.63.24.74.22.44.13.8
Sources: National Bank of Serbia; and IMF staff estimates and calculations.

At program exchange rates

Program figures are floors.

Exclude frozen assets and liabilities of Serbia; undivided assets of SFRY; and in 2003 other unfrozen assets received in May 2003.

Exclude long-term liabilities and undivided liabilities of the SFRY. Including foreign-currency denominated liabilities to resident banks and non-government residents.

Program figures are ceilings. It will be monitored as a monthly average as defined in the Technical Memorandum of Understanding from September 2001 onwards.

Reserves that banks are required to hold in NBS account 201 to satisfy the dinar reserve requirement.

Comprise balances in Giro accounts, business accounts, cash in commercial bank vaults, deposits at overnight accounts in NBS.

The growth rates of reserve money (in dinar) are adjusted for changes in dinar reserve requirements.

Reflects revision to NFA at end-2002, and assumes a reserve requirement of 23 percent at end-2002.

Adjusted for the lowering of the required reserves ratio to 18 percent effective on July 11, 2003.

Sources: National Bank of Serbia; and IMF staff estimates and calculations.

At program exchange rates

Program figures are floors.

Exclude frozen assets and liabilities of Serbia; undivided assets of SFRY; and in 2003 other unfrozen assets received in May 2003.

Exclude long-term liabilities and undivided liabilities of the SFRY. Including foreign-currency denominated liabilities to resident banks and non-government residents.

Program figures are ceilings. It will be monitored as a monthly average as defined in the Technical Memorandum of Understanding from September 2001 onwards.

Reserves that banks are required to hold in NBS account 201 to satisfy the dinar reserve requirement.

Comprise balances in Giro accounts, business accounts, cash in commercial bank vaults, deposits at overnight accounts in NBS.

The growth rates of reserve money (in dinar) are adjusted for changes in dinar reserve requirements.

Reflects revision to NFA at end-2002, and assumes a reserve requirement of 23 percent at end-2002.

Adjusted for the lowering of the required reserves ratio to 18 percent effective on July 11, 2003.

9. Fiscal policy, broadly on track for most of 2003 but turning expansionary in the run-up to the elections, was tightened in early 2004 (Tables 7ad). SM’s fiscal deficit was 4.2 percent of GDP in 2003, 0.3 percentage points lower than targeted. However, this undershooting reflected delays in (off-budget) foreign loan-financed projects (FLFPs).4 Excluding such projects, the deficit was 3.7 percent of GDP, 0.3 points higher than targeted. This was due to election-related spending and advanced spending ahead of tight temporary financing arrangements in 2004 Q1 (mandated by the lack of a 2004 budget). These arrangements restrained expenditure and contained the deficit to about 0.1 percent of annual GDP in 2004 Q1. Revenues were in line with the program in 2003, and remained on track in 2004 Q1.

Table 6.Monetary Survey of Serbia, December 2002–December 2004

(In millions of dinars; end of period) 1/

200220032004
DecMar.JuneSep.Dec.Mar.JuneSep.Dec.
End-02

Ex. Rates 5/ Adj.
End-03 ex

Rates
Est.Program
Net Foreign Assets2/137,440136,996118,779121,249165,741166,773179,556170,084171,733173,602176,962
(NFA in euro m.)2,3022,2271,9311,9712,6942,7112,6282,4902,5142,5412,590
Assets183,927180,694162,994174,420228,165229,049242,371230,706229,656235,904240,610
NBS137,614134,491123,137133,123180,021183,749193,962184,510186,264192,512197,217
Commercial banks46,31346,20339,85741,29848,14345,30048,40946,19643,39243,39243,392
Liabilities (-)-46,486-43,697-44,215-53,172-62,424-62,276-62,815-60,622-57,923-62,302-63,648
NBS-42,111-39,333-39,333-47,352-55,371-55,371-55,369-53,176-50,477-54,856-56,202
Commercial banks-4,375-4,365-4,882-5,820-7,053-6,905-7,446-7,446-7,446-7,446-7,446
Net Domestic Assets3/48,09449,97062,53868,43748,23564,88760,87061,44672,95783,04990,858
Domestic credit143,425144,168159,508166,910148,874172,456183,467
Net credit to government 3/-1,466-12,595-9,120-9,140-38,028-26,025-24,384-24,850-21,898-15,676-13,267
Credit25,24724,37728,84728,49928,86125,17525,204
Dinar credit23,49723,49728,03028,19728,27224,75224,752
NBS20,72020,72023,25323,22423,06120,29020,290
Commercial banks2,7772,7774,7774,9735,2114,4624,462
Foreign currency credits1,750880817302589423452
NBS0000000
Commercial banks1,750880817302589423452
Liabilities-26,713-36,972-37,967-37,639-66,890-51,200-49,588
Dinar liabilities-19,530-21,079-23,453-23,102-26,481-25,699-25,699
NBS-5,122-5,101-1,134-4,709-8,583-14,353-14,353
Commercial banks-14,408-15,978-22,319-18,393-17,898-11,346-11,346
Foreign currency deposits-7,183-15,893-14,514-14,537-40,409-25,501-23,889
NBS-6,027-6,159-4,105-4,728-31,733-16,485-18,062
Commercial banks-1,156-9,734-10,409-9,809-8,676-9,016-5,827
Short-term government credits to banks-83-191-167-236-236-251-251
Purchased bonds for repaying frozen deposits6091,3842,0512,2622,8184,1074,483
Credit to the non-government sector144,364155,570166,744174,025184,320194,624203,619216,285218,147224,557232,551
Households16,02116,02117,74622,03724,73829,10129,101
Non-profit and other sectors3,8914,5534,2664,3403,8573,7493,780
Enterprises in dinar70,89271,50779,75481,99589,46993,21097,510
Enterprises in foreign currency53,56063,48964,97865,65366,25668,56473,228
Enterprises in foreign currency (euro million)8971,0631,0881,1001,1101,0041,226
Other items, net.-95,331-94,199-96,971-98,473-100,638-107,568-118,364-129,989-123,292-125,833-128,425
Broad Money (M2)185,535186,966181,317189,686213,976231,660240,426231,530244,690256,651267,820
Dinar-denominated M2105,589105,58995,59797,624109,682119,763119,763103,776113,542123,864133,395
M188,83988,83982,76383,10291,861100,690100,69088,38195,586104,188111,999
Currency outside banks43,71943,71936,91737,54639,22443,71243,71237,68041,94245,40848,083
Demand deposits45,12045,12045,84645,55652,63756,97856,97850,70153,64458,78063,916
Time and savings deposits16,75016,75012,83414,52217,82119,07319,07315,39517,95719,67621,395
Foreign currency deposits (non-frozen)79,94681,37785,72092,062104,294111,897120,663127,753131,147132,786134,426
Foreign currency deposits (not-frozen), (euro million)1,3391,3231,3931,4971,6951,8191,7661,8701,9201,9441,968
Memorandum items 4/:
Broad money at current exchange rates (in million dinars)186,966186,966184,898192,059219,872240,426240,426234,311251,768268,677285,899
12-month growth rates (in percent)
Broad Money (M2)78.040.931.728.728.626.731.122.218.9
Dinar-denominated M284.943.225.212.813.48.616.312.911.4
M179.842.822.28.713.36.815.013.411.2
Currency outside banks72.622.414.7-3.00.02.111.715.810.0
Foreign currency deposits69.838.539.149.648.346.246.431.426.4
Velocity (M1)12.514.114.313.212.314.813.913.112.4
Multiplier (Dinar M2/Reserve money)1.81.51.71.81.71.81.91.92.0
Currency/Dinar deposits (in percent)65.370.762.962.555.757.557.058.657.956.4
Required reserve ratio (effective, in percent)23.725.641.332.124.123.922.223.923.923.9
Excess reserves/Dinar deposits (in percent)14.615.88.88.311.814.09.08.98.87.9
Foreign exchange deposits/Broad money43.543.548.349.250.150.255.754.953.953.3
Dinar-denominated M2/annualized monthly GDP10.08.28.29.19.78.08.59.19.6
Sources: National Bank of Serbia; and IMF staff estimates and calculations.

Unless otherwise specified, foreign exchange denominated items are converted at program exchange rates (for each year, the exchange rates prevailing at the end of the proceeding year).

Excluding undivided assets and liabilities of the SFRY and, from 2002 onwards, liabilities to banks in liquidation.

Program figures are ceilings.

Foreign exchange denominated items are vauled at current exchange rates.

Includes foreign exchange liabilities to Paris Club creditors that banks were instructed in mid-November 2002 to book as liabilities to the government in the context of the debt-for-equity swap.

Sources: National Bank of Serbia; and IMF staff estimates and calculations.

Unless otherwise specified, foreign exchange denominated items are converted at program exchange rates (for each year, the exchange rates prevailing at the end of the proceeding year).

Excluding undivided assets and liabilities of the SFRY and, from 2002 onwards, liabilities to banks in liquidation.

Program figures are ceilings.

Foreign exchange denominated items are vauled at current exchange rates.

Includes foreign exchange liabilities to Paris Club creditors that banks were instructed in mid-November 2002 to book as liabilities to the government in the context of the debt-for-equity swap.

Table 7a.Serbia General Government Fiscal Operations in 2003–04 1/
Consolidated General government Excluding MontenegroConsolidated General government Including Montenergro
20032004200320042003200420032004
Staff ReportPrel.Rev. Prog.Staff ReportPrel.Rev. Prog.Staff ReportPrel.Rev. Prog.Staff ReportPrel.Rev. Prog.
(Billion dinars)(Percent of GDP) 2/(Billion dinars)(Percent of GDP) 2/
Total revenue465.8475.0547.938.039.840.5499.4507.9590.040.742.643.6
Current revenue465.8470.2547.638.039.440.5499.4503.1589.240.742.243.5
Tax revenue426.7430.1494.534.836.136.5458.1461.0534.337.438.739.5
Personal income tax64.770.174.15.35.95.569.474.379.55.76.25.9
Social security contributions118.4115.8135.59.79.710.0128.9126.1147.310.510.610.9
Corporate income tax4.65.97.50.40.50.65.66.88.70.50.60.6
Retail sales tax130.3126.3142.810.610.610.6137.0135.3153.611.211.311.3
Excises57.958.376.14.74.95.662.462.181.35.15.26.0
Taxes on international trade and operations28.828.933.02.32.42.432.531.436.42.72.62.7
Other taxes22.024.825.41.82.11.922.425.027.71.82.12.0
Extrabudgetary taxes0.00.00.00.00.00.00.00.00.00.00.00.0
Nontax revenue39.040.053.13.23.43.941.342.154.93.43.54.1
Capital revenue0.04.80.30.00.40.00.14.90.80.00.40.1
Total expenditure and net lending518.6522.9592.742.343.843.8554.9558.4636.745.346.847.0
Current expenditure478.8490.5545.839.141.140.3512.3522.8585.941.843.843.3
Expenditure on goods and services201.1201.7223.416.416.916.5216.2216.3241.217.618.117.8
Wages and salaries119.0113.2131.29.79.59.7130.3123.3143.610.610.310.6
Other purchases of goods and services82.188.692.16.77.46.886.093.097.67.07.87.2
Interest payment13.311.313.81.10.91.014.512.215.41.21.01.1
Subsidies and other current transfers262.3271.2302.021.422.722.3279.3288.0322.622.824.123.8
Subsidies36.540.947.93.03.43.537.541.848.63.13.53.6
Transfers to households225.6230.3254.018.419.318.8241.6246.1274.019.720.620.2
Capital expenditure35.225.037.02.92.12.737.026.439.83.02.22.9
of which: financed by project loans12.74.911.41.00.40.813.15.412.61.10.50.9
General reserves3.70.04.40.30.00.34.30.65.11.74.30.7
Lending minus repayment0.97.45.50.10.60.41.38.76.00.10.70.4
Net transfer to other levels of government0.00.00.00.00.00.00.00.00.00.00.00.0
Net transfer from Montenegro2.52.13.00.20.20.20.00.00.00.00.00.0
Gap/Statistical discrepancy0.00.00.00.00.00.00.0-0.10.10.00.00.0
Overall balance-50.3-45.9-41.9-4.1-3.8-3.1-55.5-50.5-46.7-4.5-4.2-3.4
Excluding project loans-37.6-41.0-30.5-3.1-3.4-2.3-42.4-45.1-34.1-3.5-3.7-2.5
Foreign grants9.71.93.00.80.20.211.12.73.60.90.20.3
Overall balance including grants-40.6-44.0-38.8-3.3-3.7-2.9-44.4-47.8-43.1-3.6-4.0-3.2
Financing40.644.038.83.33.72.944.447.743.23.64.03.2
Domestic financing-2.7-17.511.1-0.2-1.50.8-2.1-16.712.0-0.2-1.40.9
Foreign Financing22.012.219.41.81.01.423.813.521.81.91.11.6
Privatization receipts18.949.38.31.54.10.620.450.99.41.74.30.7
Sources: Ministry of Finance of FRY, Republic of Serbia and Republic of Montenegro; and IMF staff estimates.

Consolidated general government includes the federal, the republican, and local governments (except for Montenegro), the social security funds and the extrabudgetary programs.

Expressed in terms of GDP of the FRY excluding Kosovo.

2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Sources: Ministry of Finance of FRY, Republic of Serbia and Republic of Montenegro; and IMF staff estimates.

Consolidated general government includes the federal, the republican, and local governments (except for Montenegro), the social security funds and the extrabudgetary programs.

Expressed in terms of GDP of the FRY excluding Kosovo.

2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Table 7b.Serbia: Republican Government Fiscal Operations

(In percent of GDP) 1/

2001200220032004
Staff ReportPrel.Rev. Prog.
A Total revenue and grants (1+2+3)16.225.624.524.525.7
1 Total revenue (1.1+1.2)15.824.723.524.125.3
1.1 Current revenue (1.1.1+1.1.2)15.824.723.524.125.2
1.1.1 Tax revenue (1.1.1.1+…+1.1.1.6)14.822.821.121.522.0
1.1.1.1 Personal income tax4.14.44.24.44.0
1.1.1.2 Corporate income tax0.40.40.30.40.5
1.1.1.3 Turnover (retail sales) tax4.99.49.29.19.2
1.1.1.4 Taxes on international trade0.02.42.32.42.4
1.1.1.5 Excises3.24.54.74.95.6
1.1.1.6 Property taxes1.31.00.30.30.3
1.1.1.7 Other taxes0.90.60.00.00.0
1.1.2 Nontax revenue1.01.92.42.63.2
1.2 Capital revenue0.00.00.00.00.0
2 Transfer from Montenegro0.00.00.20.20.2
3 Grants0.41.00.80.20.2
B. Total expenditure and net lending (1+…+6)17.029.127.828.028.6
1. Total expenditure (2+3+4)16.229.027.827.428.2
2 Current expenditure (2.1+2.2+2.3)15.727.125.425.625.5
2.1. Expenditure on goods and services (2.1.1+…+2.1.4)6.75.97.47.46.9
2.1.1 Wages and salaries3.53.54.44.64.3
2.1.2 Employer contribution0.70.80.90.80.9
2.1.2.1 Contribution0.00.60.80.80.8
2.1.2.2 Tax0.00.20.10.00.1
2.1.3 Severance payments0.00.00.00.00.0
2.1.4 Other purchases of goods and services2.41.51.91.71.4
2.2. Interest payment0.10.71.00.91.0
2.3. Subsidies and other current transfers8.920.617.017.317.7
2.3.1 Subsidies2.83.42.62.62.6
2.3.2 Transfers to households2.83.24.24.33.6
Of which: Repayment for frozen foreign currency deposit0.50.60.91.21.2
2.3.3 Current transfers to other levels of government3.414.010.210.411.4
Federal budget0.06.93.12.73.9
Republican budget0.00.00.00.00.0
Local Budgets0.11.31.11.21.1
Pension Funds2.84.94.65.45.2
Health Fund0.30.40.50.30.2
Labor Market Fund0.10.30.50.40.5
Other transfers0.00.00.00.00.0
3. Capital expenditure0.51.92.11.62.1
Of which: Budget for recovery and reconstruction0.00.71.00.40.8
4. General reserves0.00.00.00.00.3
5. New Serbia expenditure0.00.00.20.20.2
6. Lending minus repayment0.80.10.10.60.4
Overall budget balance excluding grants-1.2-4.4-4.1-3.7-3.1
Overall budget balance including grants (A-B)-0.8-3.5-3.3-3.5-2.9
Overall budget balance excluding grants and project loans-1.2-3.7-3.1-3.3-2.3
Statistical Discrepancy/financing gap (+ = overfinancing)0.10.0 #0.00.00.0
Financing (1+2+3)0.93.5 #3.33.62.9
1 Domestic financing (net) (1.1+1.2)0.90.00.0-1.60.8
1.1 Banking system (1.1.1+1.1.2)1.10.00.0-1.60.8
1.1.1 Central Bank of Serbia1.10.00.0-1.60.8
1.1.2 Commercial banks0.00.00.00.00.0
1.2 Nonbank-0.20.00.00.00.0
2 Foreign financing (net) (2.1–2.2)0.01.71.81.01.4
2.1 Program0.01.00.90.60.7
2.2 Project0.00.71.00.40.8
3 Privatization receipts 2/0.01.81.54.10.6
Sources: Ministry of Finance of Serbia; and IMF staff estimates.

Expressed in terms of GDP of Serbia and Montenegro excluding Kosovo. Data for 2000 and 2001 exclude union budget.

Total privatization revenue accruing to the republican government.

Sources: Ministry of Finance of Serbia; and IMF staff estimates.

Expressed in terms of GDP of Serbia and Montenegro excluding Kosovo. Data for 2000 and 2001 exclude union budget.

Total privatization revenue accruing to the republican government.

Table 7c.Montenegro: Consolidated Fiscal Operations 2001–04(As a percent of GDP)
2001200220032004
ActualActualStaff ReportActualBudgetRev. Prog. 3/ev. Proj. 4/
Total revenue38.036.536.036.539.339.038.6
Current revenue38.036.535.936.438.738.538.1
Tax revenue32.934.233.534.137.036.936.4
Personal income tax5.44.65.14.75.05.04.8
Social security contributions10.811.911.211.111.210.910.5
Corporate income tax0.61.01.01.01.11.11.1
Retail sales tax/VAT from April 2003 1/7.18.77.110.19.99.99.9
Excises4.44.54.84.24.74.84.8
Taxes on international trade4.33.14.02.93.33.23.2
Other taxes 2/0.40.40.30.21.92.12.1
Extrabudgetary taxes0.00.00.00.00.00.00.0
Nontax revenue5.12.42.42.31.61.61.6
Capital revenue0.00.00.10.10.60.50.5
Total expenditure and net lending42.340.638.939.440.940.840.3
Current expenditure38.637.335.835.737.037.136.7
Net wages, salaries and allowances9.910.410.49.49.89.89.7
Payroll Tax1.61.21.71.61.61.61.5
Employer contributions0.00.00.00.00.00.00.0
Purchases of goods and services5.93.93.64.44.94.94.6
Interest payment0.11.01.31.01.21.51.5
Subsidies and other current transfers20.720.118.218.719.219.119.1
Subsidies to enterprises1.22.01.11.10.70.60.6
Transfers to households19.518.117.117.718.518.518.5
of which: repayment of FFCDs0.00.30.00.00.50.50.0
Other non-interest current expenditure0.50.70.50.50.20.20.2
Capital expenditure2.01.62.11.62.82.72.6
of which: foreign financed project spending0.00.60.40.61.11.11.1
General reserves0.61.00.70.60.60.60.6
Net Lending1.10.70.41.50.60.40.5
Transfer to the Union Budget0.00.02.72.32.82.82.8
Discrepancy0.40.30.0-0.10.00.00.0
Overall balance before grants-4.7-4.3-5.6-5.2-4.4-4.6-4.6
Overall balance before grants and foreign-financed project loans-4.7-3.7-5.2-4.6-3.3-3.4-3.4
Foreign grants3.12.21.40.90.40.50.5
Financing1.62.14.24.24.04.04.0
Domestic financing1.6-3.50.61.81.00.80.8
Bank financing0.8-3.50.61.11.00.80.8
Nonbank financing0.80.00.00.70.00.00.0
Net Foreign Financing0.00.61.91.41.92.22.2
Program0.00.01.50.80.81.11.1
Project0.00.60.40.61.11.11.1
Privatization receipts0.05.11.71.11.01.01.0
Memorandum item
Montenegro GDP (Euro million)1,0491,2501,4001,3751,4751,4751,475
Source: Montenegrin Ministry of Finance and staff projections.

From FY2002 onwards, retail sales tax includes revenues that were redirected to the Army and the Railway.

2004 includes previously off-budget revenue and spending, most of which represents an excise surtax on petrol products to finance transportation sector project spending.

The revised projections for 2003 and 2004 reflect a carried-over SAC disbursement from Dec 2003 and delayed interest payments to the World Bank paid in January 2004. The increase in program loans relative to the 2004 budget is assumed to decrease net domestic credit to the government by a comparable amount. A fiscal gap of 10.2 million arising mostly from revised revenue projections is closed by 4.5 and 5.7 million in revenue and expenditure measures, respectively.

PIT and social contribution rates reduced in two 5-percent steps on July 1, 2004, and December 1, 2004.

Source: Montenegrin Ministry of Finance and staff projections.

From FY2002 onwards, retail sales tax includes revenues that were redirected to the Army and the Railway.

2004 includes previously off-budget revenue and spending, most of which represents an excise surtax on petrol products to finance transportation sector project spending.

The revised projections for 2003 and 2004 reflect a carried-over SAC disbursement from Dec 2003 and delayed interest payments to the World Bank paid in January 2004. The increase in program loans relative to the 2004 budget is assumed to decrease net domestic credit to the government by a comparable amount. A fiscal gap of 10.2 million arising mostly from revised revenue projections is closed by 4.5 and 5.7 million in revenue and expenditure measures, respectively.

PIT and social contribution rates reduced in two 5-percent steps on July 1, 2004, and December 1, 2004.

Table 7d.Montenegro: Republican Government Fiscal Operations, 2001–04(As a percent of GDP)
2001200220032004
BudgetActualBudgetActual 1/BudgetStaff ReportActualBudgetRev. Prog. 4/Rev. Proj. 5/
A Total revenue and grants (1+2)20.923.323.926.727.425.825.727.727.527.7
1 Total revenue (1.1+1.2)18.021.921.624.625.824.424.827.327.027.2
1.1 Current revenue (1.1.1+1.1.2)18.021.921.624.625.824.424.827.026.827.0
1.1.1 Tax revenue (1.1.1.1+1.1.1.2+1.1.1.3+1.1.1.4)16.317.916.722.923.722.322.925.925.725.9
1.1.1.1 Personal income5.35.45.45.35.45.14.75.05.04.8
1.1.1.2 Turnover (retail sales) tax/VAT after April 2003 1/5.35.65.08.67.07.110.09.99.99.9
1.1.1.3 Excises3.23.42.74.56.24.84.24.74.74.8
1.1.1.4 Taxes on international trade and transactions0.00.02.63.13.74.02.93.33.23.2
1.1.1.5 Other taxes 2/1.72.60.30.40.20.30.21.91.92.1
1.1.1.6 Corporate income taxes0.00.00.61.01.11.01.01.11.11.1
1.1.2 Nontax revenue1.74.04.91.72.12.11.81.11.11.1
1.2 Capital revenue0.00.00.00.00.00.00.00.30.20.2
2 Grants2.91.42.32.21.71.40.90.40.50.5
B Total expenditure and net lending (1+2)21.624.325.823.024.623.123.224.825.124.2
1 Total expenditure (1.1+1.2)21.623.724.822.224.022.621.524.224.523.8
1.1 Current expenditure (1.1.1+1.1.2)19.921.823.520.722.020.819.921.421.721.2
1.1.1 Interest0.00.11.91.11.81.31.01.21.51.5
1.1.2 Non-interest (1.1.2.1+1.1.2.2+1.1.2.3+1.1.2.4)19.821.821.619.620.219.518.920.220.219.7
1.1.2.1 wages and salaries11.210.310.89.110.910.89.810.010.09.9
Net Wages5.24.85.05.55.05.05.14.84.84.8
Allowances1.11.01.11.01.11.10.80.90.90.9
PIT1.21.21.21.31.21.21.21.21.21.2
Contributions3.43.23.31.23.33.32.43.13.13.0
1.1.2.2. Goods and Services3.75.34.33.33.12.93.54.34.34.1
1.1.2.3 Transfers and social benefits to individuals, NGOs 3/3.03.93.13.94.13.83.54.44.44.4
of which: repayment of FFCDs0.00.00.30.00.00.00.50.50.5
1.1.2.4 Subsidies to enterprises1.11.22.12.01.21.11.10.70.70.6
1.1.2.5 Other non-interest expenditure and reserves0.81.11.31.30.90.81.10.80.80.8
1.2 Capital expenditure1.71.81.31.52.01.81.62.82.82.5
of which: foreign financed project spending0.00.00.60.40.61.11.11.1
2 Net lending0.00.61.00.80.60.51.70.60.60.5
C Net transfer to other levels of government0.00.40.55.06.66.25.66.97.27.5
1 Transfers to the PIO0.00.10.04.23.12.92.83.53.73.9
2 Transfers to the Health Fund0.00.10.20.40.20.20.20.20.40.5
3 Transfers to the Employment Fund0.00.20.30.30.40.30.20.30.30.3
4 Transfers to the Union Budget0.00.00.00.02.92.72.32.82.82.8
D Discrepancy0.30.20.01.10.00.00.20.0-0.70.0
Overall budget balance before grants (cash)-3.9-3.0-4.7-4.5-5.4-5.0-4.2-4.4-4.6-4.6
Overall balance before grants and foreign-financed project loans-3.9-3.0-3.9-4.5-3.6-3.2-3.4-3.4
Financing (1+2+3)1.01.62.42.33.83.53.34.04.04.0
1 Domestic financing (net) (1.1+1.2)0.01.6-1.4-2.60.20.01.01.61.41.4
1.1 Banking system (1.1.1+1.1.2)0.00.8-1.4-2.60.20.00.31.61.41.4
1.1.1 Central Bank of Montenegro0.01.0-1.40.30.0-1.0-0.90.00.00.0
1.1.2 Commercial banks0.0-0.20.0-2.80.21.01.21.61.41.4
1.2 Nonbank0.00.80.00.00.00.00.70.00.00.0
2 Foreign financing (net) (2.1–2.2)0.00.01.80.61.91.91.41.92.22.2
2.1 Disbursements0.00.01.80.61.91.91.41.92.22.2
2.2 Amortization0.00.00.00.00.00.00.00.00.00.0
3 Privatization receipts1.00.01.94.31.71.70.90.40.40.4
Memorandum items:
Gross wage bill on a commitment basis11.210.310.811.510.910.89.810.010.09.9
Nominal GDP (Euro million)1,0491,0491,2501,2501,4001,4001,3751,4751,4751,475
Source: Montenegrin Ministry of Finance.

After 2002 includes sales taxes that were earlier redirected to Pension Fund, Railway and Army; and assumes full payment of payroll tax by the government to itself on behalf of its employees.

2004 includes previously off-budget revenue and spending, most of which represents an excise surtax on petrol products to finance transportation sector project spending.

From 2003, the reported wage bill excludes wages of employees of the University of Montenegro; these are now included in “Transfers”.

The revised projections for 2003 and 2004 reflect a carried-over SAC disbursement from Dec 2003 and delayed interest payments to the World Bank paid in January 2004. The increase in program loans relative to the 2004 budget is assumed to decrease net domestic credit to the government by a comparable amount. A fiscal gap of 10.2 million arising mostly from revised revenue projections is closed by 4.5 and 5.7 million in revenue and expenditure measures, respectively.

PIT and social contribution rates reduced in two 5-percent steps on July 1, 2004, and December 1, 2004.

Source: Montenegrin Ministry of Finance.

After 2002 includes sales taxes that were earlier redirected to Pension Fund, Railway and Army; and assumes full payment of payroll tax by the government to itself on behalf of its employees.

2004 includes previously off-budget revenue and spending, most of which represents an excise surtax on petrol products to finance transportation sector project spending.

From 2003, the reported wage bill excludes wages of employees of the University of Montenegro; these are now included in “Transfers”.

The revised projections for 2003 and 2004 reflect a carried-over SAC disbursement from Dec 2003 and delayed interest payments to the World Bank paid in January 2004. The increase in program loans relative to the 2004 budget is assumed to decrease net domestic credit to the government by a comparable amount. A fiscal gap of 10.2 million arising mostly from revised revenue projections is closed by 4.5 and 5.7 million in revenue and expenditure measures, respectively.

PIT and social contribution rates reduced in two 5-percent steps on July 1, 2004, and December 1, 2004.

10. Financial intermediation increased further in 2003, albeit at a slower pace. M2 (including foreign currency deposits, FCDs) and dinar M2 grew by 29 percent and 13 percent respectively, apparently reflecting growing confidence in banks but also the public’s preference for foreign currency deposits as a store of value (Table 6).5 Higher effective lending rates on euro-linked loans—on account of the dinar depreciation—contributed to decelerating credit to the non-government sector.6 The dinar depreciated by 11 percent against the euro during 2003 (2 percent in real terms against a €/$ basket), compared with only 5 percent during the preceding two years (50 percent real appreciation, albeit from a highly undervalued level). During January–April, 2004 the dinar depreciated by another 3 percent against the euro (2 percent in real effective terms).

11. Progress in privatization exceeded expectations, but other structural reforms slowed in late 2003 owing to political developments. Cash privatization receipts—boosted by the sale of two tobacco companies—reached 4 percent of GDP in 2003, more than twice the budget assumption. Other successes included the introduction of a new Serbian payments system, pension reform in both republics, and harmonizing trade regimes within the union. While structural benchmarks (SBs) in the period through end-December 2003 were mostly met, albeit some with delay, two SBs for Serbia—on the Treasury’s centralized payroll system7 and on offering majority stakes in 3 banks—were not met, and a third—a resolution plan for the largest Serbian bank—is expected to be met after having been elevated to prior action for the review (Annex C to Appendix VI). With no parliamentary session for several months, the adoption of key legislation on bankruptcy and energy was also delayed.

III. Policy Discussions

12. A difficult political setting, improving but still fragile economic conditions, and an unfinished reform agenda formed the backdrop of the discussions:

  • The new Serbian authorities, while underscoring their commitment to reform, stressed the political constraints faced by the minority government and the population’s disillusionment with the slow and uneven improvement in living standards. The Montenegrin authorities felt compelled to reduce the tax burden on enterprises to revitalize their economy.
  • Disinflation and the foreign reserve buildup have been impressive but output and export growth has been modest and, with the current account deficit still large, the external position remains fragile. Although transitory factors—restructuring-related output losses and weak export market growth—have contributed to these developments, the magnitude of the imbalances clearly calls for demand restraint and strengthened external competitiveness.
  • The structural policy challenges—especially the restructuring of insolvent enterprises, bank rehabilitation and privatization, and the streamlining of government spending—are daunting but need to be addressed early to enhance the economy’s supply response.

13. Against this background, understandings were reached on 2004 policies. The Serbian authorities agreed that prudent macroeconomic policies and intensified reform efforts were key to achieving sustainable growth and that it was important to resist political pressures for policy relaxation. The Montenegrin authorities agreed to implement tax cuts in conjunction with compensating fiscal measures to safeguard the fiscal position.

A. Macroeconomic Objectives and Policies

14. The authorities’ economic objectives for 2004—consistent with the updated medium-term framework—envisage containment of inflation, accelerated growth, and a strengthening of the external position (Text Table 1).

Text Table 1.Serbia and Montenegro: Key Macroeconomic Objectives and Policies, 2002–05
2002200320042005
ActualStaff ReportPrel Act.Staff ReportRev. Prog.Rev. Prog.
(Percentage change)
Real GDP Growth4.03½–4½3.04.04 - 54 - 5
Inflation (end period)14.29–117.87.08 - 95.0
Of which: Montenegro9.49.08.05.04.03.5
Domestic investment16.118.815.717.816.817.5
Domestic savings-7.0-1.8-7.0-2.0-4.0-2.6
National savings7.210.75.59.17.39.0
Current account deficit (before grants)(In billions of US$)
US$ billion2.02.32.62.22.62.4
In percent of GDP12.810.812.610.211.010.0
Excl. net interest payments (percent of GDP)11.79.211.27.98.77.3
Gross official reserves2.32.93.63.23.64.2
In months of projected imports3.13.74.43.84.34.7
Total external debt (in percent of GDP)75.561.369.052.755.154.1
Net external debt (in percent of GDP)56.043.747.634.036.232.7
(In percent of GDP)
Fiscal deficit4.54.54.24.33.42.4
Government credit from the banking system-0.50.0-1.40.50.9-0.6
Public debt84.570.079.060.865.059.5
NFA growth52.46.952.9-8.3
NDA growth-4.24.3-42.815.5
Reserve money growth48.111.310.17.3
Sources: SM authorities; and IMF staff estimates.
Sources: SM authorities; and IMF staff estimates.
  • Growth of 4–5 percent would reflect a further recovery in industry and sustained growth in services—based on the investment and restructuring of recent years offsetting restructuring-induced output losses—and an expected rebound in agricultural output. Developments in early 2004 are consistent with the upper end of the target range.
  • The inflation target of 8–9 percent appears ambitious—in part owing to the large excise increases—but achievable in light of recent developments.
  • The projected decline in the current account deficit (before grants) to 11 percent of GDP in 2003 would reflect import deceleration and continued export recovery, in response to tighter fiscal and credit conditions, competitiveness gains, and improved external conditions. About 40 percent of the deficit is expected to be financed by foreign grants and FDI, and the remainder by official and commercial loans, and private capital inflows.
  • Official foreign reserves are targeted to remain at the equivalent of 4½ months of projected imports by end-2004.

15. The 2004 program features fiscal tightening, strict NDA limits, and a further improvement in external competitiveness. Consistent with the targeted decline in the current account deficit and with available noninflationary financing, the fiscal deficit is envisaged to decline by 0.8 percentage points, notwithstanding higher spending on foreign loan-financed projects; excluding such projects, the deficit would decline by 1.2 percentage points. Exchange rate policy will be consistent with external competitiveness requirements. Wage bills in public enterprises will be contained in line with projected inflation. To safeguard medium-term objectives, the authorities intend to revive reforms in the enterprise and banking sectors, including through a revamped bankruptcy process. In Montenegro, public employment will be streamlined to strengthen the fiscal balance.

16. The external and public sector debt sustainability outlook remains vulnerable (see also Appendixes IV and V). Net foreign debt (gross debt minus banking system foreign reserves) in relation to GDP declined by 8 percentage points to 48 percent of GDP, but this reflected mainly the effects of the real appreciation of the dinar (on an annual average basis). In 2004, the envisaged debt write-offs are projected to reduce the net external debt ratio to 36 percent of GDP, but the underlying ratio would rise by about 2 percentage points of GDP,8 in part because the external current account deficit that is not covered by FDI, grants, and other non-debt creating inflows would remain sizable (at 4.4 percent of GDP).9 The underlying debt dynamics could be even less favorable to the extent that some non-debt creating capital inflows (errors and omissions and other capital inflows, amounting to 2 percent of GDP in 2004) represent a running down of foreign assets held by residents outside the domestic banking system, rather than unrecorded but sustainable BOP inflows. These trends underscore the urgent need to make further progress with enterprise restructuring, so as to boost output and export potential, while supporting the external adjustment through appropriate macroeconomic policies. Assuming the program policies, net external debt is projected to decline gradually over time (Tables 1 and 2, Appendix IV).10 But, in a “tailored” scenario—with a higher-than-programmed fiscal deficit in 2004 (broadly as implied by the 2004 budget, see ¶18), unchanged exchange rate policy from 2003, and only gradual tightening of policies thereafter—the current account deficits would be significantly higher than in the baseline. Even if these deficits can be financed—which could be difficult, thus raising concerns of financial instability—the rise of the debt/GDP ratio would significantly increase the country’s external vulnerability.

B. Fiscal Policy

17. The 2004 program seeks a reduction in the SM fiscal deficit by 0.8 percentage points to 3.4 percent of GDP (Text Table 2).11 This adjustment will be achieved through higher revenue; expenditure is projected to remain roughly unchanged in relation to GDP, with current spending declining by ¾ percentage points to make room for higher investment.12 Half of the deficit will be financed by foreign assistance and half by net domestic bank borrowing (largely a drawdown of past privatization proceeds) and new privatization receipts (¶12).13 Excess privatization receipts will be used primarily to reduce net government indebtedness.14

Text Table 2.Serbia and Montenegro: Consolidated General Government Fiscal Operations in 2000–05 1/

(In percent of GDP) 2/

200220032004 3/2005
Staff ReportPrel.Rev. Prog.
Total revenue42.840.742.643.642.4
Tax revenue39.637.438.739.539.1
Nontax revenue3.23.43.54.13.2
Capital revenue0.00.00.40.10.1
Total expenditure and net lending47.345.346.847.044.8
Purchases of goods and services18.317.618.117.817.1
Of which: Wages and salaries10.310.610.310.610.1
Interest payment1.01.21.01.11.7
Subsidies4.43.13.53.62.6
Transfers to households19.619.720.620.219.0
Capital expenditure3.43.02.22.94.0
Other0.50.71.31.30.4
Unclassified expenditure (incl. statistical discrepancy)0.10.00.00.00.0
Overall cash balance-4.5-4.5-4.2-3.4-2.4
Financing4.54.54.23.42.4
Domestic financing-0.5-0.1-1.40.9-0.6
Foreign grants1.10.90.20.30.5
Net foreign financing1.82.01.11.61.5
Budgetary loans1.00.90.70.70.3
Project loans0.81.10.50.91.3
Privatization receipts2.21.74.30.71.0
Memorandum items:
Overall cash balance before grants and project loans-3.7-3.4-3.8-2.5-1.1
Overall cash balance before grants of:
Serbian general government-4.2-4.1-3.8-3.1
Montenegrin general government-0.3-0.4-0.4-0.4
Overall cash balance of general government in Montenegro (in percent of Montenegro GDP)-4.0-5.6-5.2-4.6
Sources: Federal and Republican Ministries of Finance, and IMF staff estimates.

Consolidated general government includes the Union (previously federal), the republican and local governments, the social security funds and the extrabudgetary programs, except for local governments in Montenegro for which data are not available.

Expressed in terms of GDP of Serbia and Montenegro excluding Kosovo.

2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Includes severance package for laid-off workers due to enterprise reform and bank restructuring.

Sources: Federal and Republican Ministries of Finance, and IMF staff estimates.

Consolidated general government includes the Union (previously federal), the republican and local governments, the social security funds and the extrabudgetary programs, except for local governments in Montenegro for which data are not available.

Expressed in terms of GDP of Serbia and Montenegro excluding Kosovo.

2004 data include previously off-budget fiscal operations in Montenegro amounting to 0.2 percent of GDP.

Includes severance package for laid-off workers due to enterprise reform and bank restructuring.

Serbia

18. The budget discussions focused on the magnitude of the fiscal adjustment and how to achieve it. The new government prepared and passed through parliament hastily—to comply with a March 31 legislative deadline—a 2004 budget that was not in line with staff recommendations. The budget lowered taxes, increased spending, and did not adequately allow for transfers to the social insurance funds, implying a fiscal relaxation by over 1 percentage point of GDP in 2004 (¶13). After arriving at a common economic assessment with the staff in April, the authorities adopted a deficit target of 3.1 percent of GDP in 2004, compared with 3.8 percent of GDP in 2003. But, against staff advice, they opted to close the fiscal gap mainly through revenue measures, implying a high expenditure/GDP ratio, broadly unchanged from 2003.15 The authorities pointed to the needs of the neglected agricultural and transportation sectors, the constraints to expenditure cuts in the current political setting, and the efficiency gains from a direct-to-indirect taxation shift, while also recognizing the importance of streamlining government spending over time.16 Staff argued that the high expenditure ratio was a serious concern, and that placing the fiscal accounts on a sustainable path would require, in particular, sizable cuts in personnel costs and subsidies. As regards 2005, in line with the objectives of the EA, the mission recommended containing the growth in government wages below inflation, streamlining government employment, and cuts in subsidies with a view to allowing higher capital spending, a lower tax burden, and a lower deficit (Text Table 2).

19. Revenue administration and public expenditure management will be further strengthened. In preparation for the VAT introduction in January 2005, supporting legislation is expected to be adopted by end-June (SB-monitored). In addition, enforcement and field audit programs to curb evasion have been revitalized (¶18). Concerning treasury reform, remaining budgetary institutions will be brought into the Treasury Single Account by end-2004. In addition, the Finance Ministry has requested Fund TA to strengthen public expenditure management.

Montenegro

20. In Montenegro, agreement was reached on a tax reform plan and measures to ensure achievement of the 2004 deficit. The tax reform entails lower social contribution and PIT rates of 10 percent by end-2004 (implemented in July and December in two 5 percent steps). Together with projected shortfalls in revenue and external financing, a 2004 fiscal gap of about 1 percent of Montenegrin GDP emerged. A Supplemental Budget (a prior action) is to close this gap with revenue and expenditure measures of 0.3 and 0.7 percent of GDP, respectively (¶20–21).

C. Monetary and Exchange Rate Policies

21. Discussions focused on Serbia’s 2004 monetary program and bank liquidity monitoring and management. Reserve money is targeted to rise by 7.3 percent in 2004, below the increase in nominal GDP as banks economize on their costly excess reserve holdings at the NBS. With NFA rising only marginally, the increase in reserve money would be driven mostly by NDA (Text Table 3). With velocity assumed to increase slightly, dinar-denominated M2 and domestic credit to the economy are projected to rise by 11½ percent.

Text Table 3.Monetary Indicators, 2002–04
200220032004
Mar.JuneSep.Dec.Mar.JuneSep.Dec.
Staff ReportStaff ReportPrel.Program
(Cumulative contribution to reserve money growth based on monthly average data, in percent)
NFA 1/52.4-11.1-9.7-5.327.06.952.9-15.2-14.2-12.0-8.2
NDA 1/-4.212.411.212.1-18.84.3-42.85.910.814.815.5
Reserve money 1/48.11.31.56.78.211.310.1-9.2-3.52.87.3
(Cumulative change during the year based on monthly average, in percent)
Currency in circulation 1/49.40.2-1.23.23.39.44.4-7.01.06.010.0
(Cumulative change in millions of U.S. dollars from year-beginning; end-Dec.-previous year exchange rates)
NFA 3/354.9-208.5-177.2-86.3463.042.0446.2-198.1-137.7-117.0-69.0
Gross official reserves 3/864.7-192.5-23.2197.3771.9343.2835.1-173.0-140.9-26.559.6
(Cumulative percentage change from year-beginning)
Memorandum items:
Retail prices14.21.83.96.85.79.07.81.73.85.98.5
Velocity (GDP/Reserve money) 2/18.218.819.119.318.319.218.322.819.619.319.1
Cumulative change 4/-24.83.45.36.30.65.80.816.50.3-1.2-2.4
Sources: National Bank of Serbia; and IMF staff estimates and calculations.

In 2002, actual changes are based on monthly averages with end-year data as the base. Figures reflect an assumed required reserve ratio of 23 percent in 2003 and catual ratio of 18 percent in 2004.

Based on estimated annualized monthly GDP and monthly average reserve money.

Figures for 2003 exclude unfrozen foreign currency assets ($90.29 million) received in April 25, 2003.

In 2004, the change in velocity is based on a velocity of 20.4 (corresponding to a required reserve ratio of 18 percent) at end-2003.

Sources: National Bank of Serbia; and IMF staff estimates and calculations.

In 2002, actual changes are based on monthly averages with end-year data as the base. Figures reflect an assumed required reserve ratio of 23 percent in 2003 and catual ratio of 18 percent in 2004.

Based on estimated annualized monthly GDP and monthly average reserve money.

Figures for 2003 exclude unfrozen foreign currency assets ($90.29 million) received in April 25, 2003.

In 2004, the change in velocity is based on a velocity of 20.4 (corresponding to a required reserve ratio of 18 percent) at end-2003.

22. Exchange rate policy will continue to balance the inflation and the external objectives. The NBS and the mission agreed that, while recent developments in the foreign exchange market suggested that confidence remains fragile, the notable progress in disinflation has allowed some shift in emphasis away from the anchoring role of the exchange rate. The NBS therefore undertook to adjust the exchange rate taking into account conditions in the interbank market, and developments in trade, prices, and domestic costs with a view to improving competitiveness consistent with the inflation objective.

D. Bank Reform

23. Bank restructuring and privatization are gathering pace following several months of inactivity (¶26).17 The resolution plan for the largest Serbian bank, adoption of which by the BRA Board is a prior action for concluding the third review, will strictly limit the bank’s operations, preclude recapitalization prior to privatization, and strengthen governance in the interim. By end-June 2004, reporting and control mechanisms will be similarly strengthened in all banks with majority state ownership to preserve their value prior to privatization/resolution, and essentially all London Club obligations will be converted into state equity, removing an impediment to privatization. On this basis, and following the May launch of the first bank privatization tender, the government will publish its strategy to divest the state’s equity stakes in the remaining 15 banks.

24. The NBS will focus on enhancing supervision capacity and enforcing prudential regulations. Financial sector vulnerability indicators are being developed and full-scope onsite examination has commenced. Work is also underway to identify banks’ ownership structure so as to enforce regulations on lending to connected parties. IAS accounting is fully implemented by the financial sector and will be implemented in nonfinancial institutions in 2005. The authorities undertook to speed up implementation of the Supervisory Development Plan, developed with World Bank assistance.

25. In Montenegro, progress in bank privatization and supervision continues (¶29). The government intends to launch international tenders by end-2004 to sell one of the largest banks, and to prepare a strategy by end-2004 to divest all remaining state minority holdings in banks. Efforts to collect assets carved out from the banking sector will be intensified. The CBM has implemented most of the Basel Core Principles, and is working on implementing the remaining ones. A Financial Investigation Unit was recently created as envisaged by the Anti-Money Laundering Law.

E. Enterprise Reform

26. With increasingly less attractive enterprises in the pipeline, privatization receipts are expected to decline in 2004. Following rapid privatization of socially-owned enterprises through tenders, auctions, and share sales in 2003, the process slowed considerably in early 2004, reflecting political developments and a legal challenge to the modalities of share sales. Despite the new government’s renewed commitment to privatization, successful privatizations of socially-owned enterprises are expected to decline given the predominance of heavily indebted and overstaffed enterprises in the pipeline. A recent Serbian government decree that regulates haircuts on public utility claims should facilitate the privatization of indebted enterprises. Twelve large socially-owned enterprises will be offered for sale through tenders and over 360 small and medium-sized ones through auctions. The sale of residual state-owned shares has resumed after a 4-month hiatus with the resolution of legal issues. Although several large privatization transactions—in the state telecom and energy sectors—will be prepared during the year, given the lead time needed for transparent execution, these are expected to be completed only in 2005. In total, cash receipts from enterprise privatization are expected to amount to some €150 million in 2004 (¶32).

27. A functioning bankruptcy process is to be in place by late 2004. A new bankruptcy law, in line with World Bank recommendations, is to be adopted by end-June 2004 (PC-monitored). To ensure its effective implementation, a supervisory body for bankruptcy trustees and an agency to act as trustee for socially or state-owned enterprises will become operational by end-November 2004 (SB-monitored). While the bankruptcy process will remain under the authority of courts, judges would rule on key issues only, on the basis of cases prepared by trustees, to ensure rapid resolution (¶34).

28. The government will accelerate the restructuring of public utilities. Spin-offs and subsequent privatization of non-core activities will be facilitated by a new Company Law. The electricity company (EPS) has undergone some restructuring, mainly with the spin-off of all underground mining operations. A planned 10 percent increase in average electricity prices at end-June 2004 (PC-monitored) will enable EPS to maintain adequate maintenance and investment levels while servicing its debts fully. Collection rates will be raised through stronger enforcement of penalties, cutting off supply to users with large arrears, or, in some cases, initiating their bankruptcy. A new Energy Law will set the basis for a regulatory framework for that sector. Finally, the government’s revised railway transport strategy, involving line closures and opening competition with alternative service providers, will enable a further reduction in budgetary subsidies to the railways (0.7 percent of GDP in 2004 compared with 0.9 percent in 2003). To contain inflation pressures and encourage further labor shedding, the growth in state enterprise wage bills will continue to be limited to projected inflation in 2004 (¶31).

IV. Financing Assurances

29. The London Club negotiations are expected to resume soon. The outgoing government submitted a detailed debt restructuring proposal to creditors on Paris Club terms but political developments precluded an agreement (¶7).18 The new government has indicated its intention to restart discussions in June and, to this end, has appointed a new negotiating team and scheduled meetings with the creditors. Agreement was reached recently between SM and China to restructure short-term oil credits on terms comparable to those offered by the Paris Club. Discussions on the restructuring of SM’s short-term debt to Russia have made progress.

30. Overall, the external financing outlook remains satisfactory. Excluding the scheduled purchases from the IMF, total external grants and loans will reach $1 billion, including $240 million of budgetary assistance, based on existing commitments or indications from key donors (Tables 23). These inflows, together with FDI and other capital inflows, will help keep gross official reserves at an adequate level ($3.6 billion, equivalent to 4.3 month of imports) at end-2004.

V. Program Conditionality

31. The program will continue to be monitored through the established quarterly quantitative PCs and indicative targets, with the PC on nonconcessional foreign borrowing being revised to include two subceilings (i.e., on such borrowing from multilateral institutions and other creditors). PCs, indicative targets and structural benchmarks have been set for the whole year (Annexes B and D to Appendix VI)). Owing to delays in completing the third review, it is proposed that that the last five purchases originally envisaged under the EA be apportioned into four equal purchases over the remainder of the EA (Table 12). The fourth review is expected to focus on budgetary developments, exchange rate policy, and bank restructuring. The fifth review will cover policies for 2005.

Table 8.Serbia and Montenegro: Macroeconomic Framework, 2000–05
200020012002200320042005
Prel. Est.Rev. Prog.
GDP (DIN billion)3827721,0071,1931,3541,504
(Percent change)
End-period inflation (RPI)113.539.014.27.88.55.0
GDP5.05.54.03.04.44.5
(In percent of nominal GDP)
Gross domestic savings-2.7-7.2-7.0-7.0-4.0-2.6
Non-government-4.4-7.8-6.9-6.8-5.7-6.1
Government1.60.6-0.1-0.21.73.5
Net factor receipts and transfers from abroad13.016.314.212.511.211.6
Non-government12.315.614.613.912.713.2
Government0.70.7-0.3-1.4-1.4-1.6
Gross national savings10.39.17.25.57.39.0
Non-government7.97.87.67.27.07.0
Government2.41.3-0.4-1.70.21.9
Gross domestic investment 1/14.213.616.115.716.817.5
Non-government12.211.712.213.313.713.4
Government3.11.63.62.22.94.0
Savings-investment balance 1/-3.9-4.6-8.8-10.2-9.6-8.5
Non-government-4.3-3.9-4.6-6.1-6.7-6.3
Government-0.7-0.3-4.0-3.9-2.7-2.1
Foreign savings3.94.68.810.29.68.5
Foreign savings including official grants7.19.712.812.611.010.0
Net exports of goods and services-16.9-20.9-23.1-22.7-20.8-20.1
Sources: Data provided by the Federal Bureau of Statistics; Ministry of Finance; and IMF staff projections.

Components do not add up to the total as a result of inventory changes.

Sources: Data provided by the Federal Bureau of Statistics; Ministry of Finance; and IMF staff projections.

Components do not add up to the total as a result of inventory changes.

Table 9.Serbia and Montenegro: Indicators of Capacity to Repay the Fund, 2000–11
200020012002200320042005200620072008200920102011
Projections
Fund repurchases and charges 1/
In millions of SDRs7.910.312.2168.4158.042.564.8129.8187.1172.5102.7
In millions of U.S. dollars10.213.317.1249.3233.859.189.8179.2258.3238.2141.8
In percent of exports of goods and NFS0.40.40.45.24.41.01.42.53.32.81.5
In percent of debt service9.67.33.924.619.04.95.48.711.510.86.8
In percent of quota1.72.22.636.033.89.113.827.840.036.922.0
In percent of gross official reserves0.90.60.56.95.51.32.04.05.64.72.7
Fund credit outstanding
In millions of SDRs116.9216.9416.9616.9621.0668.8641.7591.7475.0297.9131.331.3
In millions of U.S. dollars154.2280.2539.9864.3919.0989.8892.9820.3655.7411.2181.243.1
In percent of quota25.046.489.1131.9132.8143.0137.2126.5101.663.728.16.7
In percent of GDP1.82.43.44.23.94.23.63.22.41.40.60.1
In percent of gross official reserves29.924.023.724.325.523.320.118.614.58.83.60.8
Memorandum items:
Exports of goods and NFS (millions of US$)2,5472,7433,2413,9704,7675,3736,0016,6147,2427,9328,6419,409
Debt service, after debt relief (millions of US$)561071834361,0141,2281,2171,6622,0602,2412,2152,071
Quota (millions of SDRs)468468468468468468468468468468468468
Quota (millions of US$)617604606655692692651648646646646646
Gross official reserves (millions of US$)5161,1692,2803,5503,6004,2484,4534,4184,5184,6485,0935,329
GDP (millions of US$)8,60311,57715,68120,72923,32323,55024,62525,89027,81129,87132,08234,500
U.S. dollar per SDR1.321.291.291.401.481.481.391.391.381.381.381.38
Sources: SM authorities; and IMF staff estimates.

Arrears to the Fund of SDR 101 million were cleared on December 20, 2000. Projections are based on repurchase expectations to ensure consistency with other tables.

Sources: SM authorities; and IMF staff estimates.

Arrears to the Fund of SDR 101 million were cleared on December 20, 2000. Projections are based on repurchase expectations to ensure consistency with other tables.

Table 10.Serbia and Montenegro: Stock of External Debt at December 31, 2003 1/(In millions of U.S. dollars)
CreditorTotal DebtOf which: Arrears 2/
PrincipalInterestLate InterestTotal Arrears
Total Debt14,3032,8841,4368145,134
Multilateral institutions4,968998476259
IMF9130000
IBRD2,6070000
IDA2820000
EUROFIMA1670000
IFC288998476259
EIB2120000
European Community3310000
EUROFOND - CEB350000
EBRD1310000
Offical Bilateral Creditors3,65023216187479
Paris Club3,0070101
Other official bilateral creditors64323216087478
Commerical Creditors4,6301,7461,0826523,479
London Club2,7381,1419583152,414
Other commercial creditors: convertible currencies 3/1,70844698337881
Other commercial creditors: nonconvertible currencies 3/184159260184
Short-term Debt 3/1,0568071090917
Trade credits on oil & gas imports 4/5204111090520
Other short-term debt53639600396
Sources: SM authorities, and IMF staff estimates.

Debt figures reflect the effect of the debt rescheduling agreement of November 2001, which envisaged phased NPV reductions in Paris Club debt of 66 percent in total (of which 51 percent came into force upon approval of the current Extended Arrangement in May 2002).

Regular and late interest calculated in accordance with terms of original agreements.

Debt is not owed by government and does not have government guarantees.

Overdue obligations (trade credits) owed to oil and gas enterprises in Russia and China.

Sources: SM authorities, and IMF staff estimates.

Debt figures reflect the effect of the debt rescheduling agreement of November 2001, which envisaged phased NPV reductions in Paris Club debt of 66 percent in total (of which 51 percent came into force upon approval of the current Extended Arrangement in May 2002).

Regular and late interest calculated in accordance with terms of original agreements.

Debt is not owed by government and does not have government guarantees.

Overdue obligations (trade credits) owed to oil and gas enterprises in Russia and China.

Table 11.Serbia and Montenegro: Indicators of External Vulnerability, 1997–2003 1/(In percent of GDP, unless otherwise indicated)
1997199819992000200120022003
Financial indicators
Public sector debt119.1123.284.576.6
Broad money (percent change, 12-month basis)23.969.467.661.476.678.028.6
Private sector credit (percent change, 12-month basis)128.468.67.649.625.1
Weighted interest rates (percent per month, December) 2/6.37.03.96.83.82.42.1
Retail prices (percent change per annum, end of period)49.9113.53914.27.8
External Indicators
Exports (recorded exports, percent change, 12-month basis in US$)19.524.0-44.714.710.419.519.6
Imports (percent change, 12-month basis in US$)17.01.0-32.014.430.430.725.9
Current account balance, before grants-7.7-4.8-7.5-7.1-9.7-12.8-12.6
Current account balance after grants and FDI-3.3-3.9-6.4-3.6-3.1-5.2-3.5
Errors and omissions-0.62.04.03.12.12.02.9
Gross official reserves (in US$ million)3262935161,1692,2803,550
(in months of imports GS of the following year)1.10.91.22.43.24.4
Central Bank short-term foreign liabilities (in US$ million) 3/0000100100
Gross reserves of the banking system (in US$ million)7746598821,8093,0634,436
(in months of imports GS of the following year)2.61.92.13.24.25.5
Short term foreign liabilities of the commercial banks (in US$ million)3495974136
Foreign currency liabilities of the commercial banks (in US$ million)8717751,4832,451
Official reserves/Broad money (M2) (percent)18305007479
Official reserves/reserve money (percent)591261640199262
Short term external debt by original maturity (in US$ million) 4/1,0481,0219871,1531,0261,0201,056
Short term external debt by remaining maturity (in US$ million) 4/1,0731,0381,0011,1861,0691,2241,597
Short term external debt to reserves by original maturity (in percent)313.1337.0223.487.744.729.7
Short term external debt to reserves by remaining maturity (in percent)318.3341.7229.891.453.745.0
Share of short term external debt to total debt by original maturity (in percent)10.79.79.210.18.68.67.4
Share of short term external debt to total debts by remaining maturity (in percent)11.09.89.310.48.910.311.2
Total external debt (in US$ millions)9,77010,53910,74411,40311,94811,83914,303
Of which: Public and publicly guaranteed debt 5/8,7229,5189,75710,25010,92210,91913,348
Total external debt (in percent of exports of G&S)267500448436365360
External interest payments, cash basis (in percent of exports of G&S)1.62.74.35.8
External amortization payments, cash basis (in percent of exports of G&S)0.01.21.35.1
Exchange rate, official (per euro, end of period)31212596161.568.2
Exchange rate, parallel (per euro, end of period)51621303161.568.2
REER (annual average, February-December 1994 = 100) 6/100.491.766.951.482.091.596.4
Sources: SM authorities; and IMF staff estimates.

All stocks are measured end-of-period. Excludes Kosovo, except for external debt.

Weighted average of interest rates on commercial paper, bank bills, and certificates of deposit.

Excluding IMF and liabilities to domestic residents. In 2002, the NBS assumed short-tem external debt of commercial banks of $100 million.

Includes overdue obligations on debt related to imports of oil and gas. Short-term external debt by remaining maturity also includes amortization due in the following year on medium- and long-term debt.

Assuming all long- and medium-term external debt of banks and enterprises is government guaranteed.

Increase denotes appreciation.

Sources: SM authorities; and IMF staff estimates.

All stocks are measured end-of-period. Excludes Kosovo, except for external debt.

Weighted average of interest rates on commercial paper, bank bills, and certificates of deposit.

Excluding IMF and liabilities to domestic residents. In 2002, the NBS assumed short-tem external debt of commercial banks of $100 million.

Includes overdue obligations on debt related to imports of oil and gas. Short-term external debt by remaining maturity also includes amortization due in the following year on medium- and long-term debt.

Assuming all long- and medium-term external debt of banks and enterprises is government guaranteed.

Increase denotes appreciation.

Table 12.Serbia and Montenegro: Proposed Schedule of Purchases Under the Extended Arrangement
Amount of Purchase
Available on or afterIn millions of SDRsIn percent of quota 1/Conditions/Status
1.May 14, 200250.010.7Purchased.
2.August 15, 200250.010.7Purchased.
3.November 15, 200250.010.7Purchased.
4.February 15, 200350.010.7Purchased.
5.May 15, 200350.010.7Purchased.
6August 15, 200350.010.7Purchased.
7.November 15, 200350.010.7Observance of end-September 2003 performance criteria and completion of the third semi-annual review (including financing assurances review).
8.February 15, 200450.010.7Observance of end-December 2003 performance criteria and completion of financing assurances review.
9.August 15, 200462.513.4Observance of end-June 2004 performance criteria and completion of the fourth semi-annual review (including financing assurances review).
10.November 15, 200462.513.4Observance of end-September 2004 performance criteria and completion of the fifth semi-annual review (including financing assurances review).
11.February 15, 200562.513.4Observance of end-December 2004 performance criteria and completion of financing assurances review.
12.April 30, 200562.513.4Observance of end-March 2005 performance criteria and completion of the sixth semi-annual review (including financing assurances review).
Total650.0139.0

The quota is SDR 467.7 million.

The quota is SDR 467.7 million.

VI. Staff Appraisal

32. Serbia and Montenegro’s recent economic performance has been mixed, combining excellent progress in some areas—notably in lowering inflation, attracting FDI, and strengthening foreign reserves—with an uncomfortably large current account deficit and modest growth in output and exports from low levels. These problems reflect, by and large, persistent structural weaknesses. It is thus regrettable that structural reform has been slowed by political developments since mid-2003. In this context, it is important to resist pressures for policy relaxation, which would undermine sustainable growth prospects and run the risk of financial instability. The staff therefore welcomes the authorities’ decision to adopt prudent macroeconomic policies and to reinvigorate structural reforms with the objective of reducing the current account deficit and achieving fiscal and external sustainability. Given the fragile external position, it is critical to monitor closely balance-of-payments developments and to adjust policies promptly if needed. Improving rapidly the quality and timeliness of foreign trade data is also essential in this regard.

33. The envisaged tightening of fiscal policy is broadly appropriate—albeit overly reliant on revenue measures. Achieving the fiscal deficit target—well within reach given the overperformance in early 2004—will help narrow the current account deficit and place the fiscal and external accounts on sustainable paths. However, while incorporating a desirable shift of spending from current to investment uses, the fiscal adjustment relies entirely on revenue measures, leaving the expenditure/GDP ratio roughly unchanged at a high level. Achieving fiscal sustainability will be difficult without reducing subsidies, containing the growth in social transfers, and streamlining public employment while improving the quality of public services. The 2004 fiscal program hinges on a number of commitments that should be adhered to on a timely basis, in light of risks related to the macroeconomic outlook and to the revenue effects of tax reforms. In this regard, staff welcomes the authorities’ intention to maintain spending below budgetary allocations, and to reduce the government’s net indebtedness using excess privatization proceeds pending assessment of macroeconomic prospects in the context of the next review. Regarding Montenegro, the staff welcomes the adoption of fiscal measures to ensure adherence to the deficit target and the authorities’ undertaking to proceed with a tax reduction package in conjunction with credible offsetting measures.

34. Monetary and exchange rate policies in Serbia face new challenges. The large current account deficit and the uncertainty about money demand underscore the need for caution. Staff therefore welcomes the NBS’s intention to maintain tight credit conditions and support an improvement in external competitiveness with a view to achieving the inflation objective and safeguarding its foreign reserves. Bank supervision should be vigilant and proactive, with strict enforcement of prudential regulations to ensure that new lending remains sound.

35. Structural reform momentum should be regained. The authorities’ plan to privatize the 16 nationalized banks, while ensuring proper governance in the meantime, is key to building a healthy banking system. In this regard, key steps will be the restructuring and preparation for privatization of the largest domestic bank and the early sale of the government stakes in several large banks to reputable strategic investors. Further progress in privatization and enterprise restructuring requires addressing nonperforming enterprise liabilities—a critical bottleneck—without creating disincentives for debt servicing. To this end, state creditors should implement transparent agreements on haircuts for large socially-owned enterprises; these and any tax arrears write-offs should be conditional on privatization or bankruptcy. More generally, more needs to be done to improve the business environment for private sector development, with the support of the World Bank. In addition, rapid progress is needed on the much-delayed legislative agenda, to ensure successful implementation of the VAT in 2005, set the basis for a functioning bankruptcy process, restructure the energy monopolies, and establish a proper regulatory framework for that sector.

36. The staff recommends completion of the third review under the extended arrangement, including the financing reviews, and a waiver for the nonobservance of a performance criterion on net bank credit to the government. The SM authorities have broadly adhered to the implementation of the program supported by the EA. The effects of the nonobservance of a performance criterion were temporary, as fiscal developments were brought on track in early 2004. The authorities have now adopted economic objectives and policies for 2004 that are consistent with further progress toward sustainable growth and a viable external position. They have also been negotiating in good faith with their London Club and other creditors with a view to restructuring their debt on terms comparable to those granted by the Paris Club, while the external financing of the program is adequate.

Table 13.Serbia and Montenegro: Millenium Development Goals
19901995200120022015

Target
Goal 1: Eradicate extreme poverty and hunger
Target: Halve between 1990 and 2015 the proportion of people suffering from hunger
1. Prevalence of child malnutrition (percent under age 5)2.0
Goal 2: Achieve universal primary education
Target: Ensure by 2015 that children can complete a full course of primary education
1. Net primary enrollment ratio (percent)69.4
Goal 3: Promote gender equality and empower women
Target: Eliminate gender disparity in primary and secondary education by 2015
1. Ratio of girls to boys in primary education95.896.0
2. Proportion of seats held by women in national Parliament5.07.0
Goal 4: Reduce child mortality
Target: Reduce by two thirds between 1990 and 2015, the under-five mortality rate
1. Under five mortality rate (per 1,000 births)26.219.41914.8
2. Infant mortality rate (per 1,000 births)22.816.817.012.1
3. Immunization, measles (% of children under 12 months)83.086.090.0
Goal 5: Improve maternal health
Target: Reduce by three quarters between 1990 and 2015 the maternal mortality ratio
1. Births attended by skilled health care professionals92.698.9
2. Maternal mortality ratio (per 100,000 births)15.0
Goal 6: Combat HIV/AIDS, malaria and other diseases
Target: Halt by 2015, and begin to reverse the spread of major diseases
1. Incidence of turberculosis (per 100,000 people)44.8
Goal 7: Ensure future environmental sustainability
Target: Integrate principles of environmental sustainability into policies and programs
1. CO2 emissions (metric tons per capita)12.44.63.7
2. Access to improved water source (percent of population)98.0
3. Access to improved sanitation (percent of population)100.0
Goal 8: Develop a global partnership for development
Targets: Make available new information technologies, affordable essential drugs and implement strategies for productive work for youths.
1. Fixed line and mobile telephones (per 1,000 people)198.2415.9
2. Personal computers (per 1,000 people)14.223.4
APPENDIX I Serbia and Montenegro: Fund Relations

As of March 31, 2004

I. Membership Status: Succeeded to membership of SFRY on December 20, 2000; Article VIII

II. General Resources Account:

SDR Million%Quota
Quota467.70100.00
Fund Holdings of Currency1,057.52226.11

III. SDR Department:

SDR Million%Allocation
Net cumulative allocation56.66100.00
Holdings13.2023.29

IV. Outstanding Purchases and Loans:

SDR Million%Quota
Stand-by arrangement300.0064.14
Extended arrangements289.8161.96

V. Financial Arrangements:

TypeApproval

Date
Expiration

Date
Amount ApprovedAmount Drawn
EFF5/14/025/13/05SDR 650.0 millionSDR 300.0 million
Stand-by6/11/015/31/02SDR 200.0 millionSDR 200.0 million
Emergency Post-Conflict Assistance12/20/00SDR 116.9 millionSDR 116.9 million

VI. Projected Obligations to Fund:

Under the Repurchase Expectations Assumptions1 (In millions of SDR)

Forthcoming
20042005200620072008
Principal50.10139.7185.4243.7550.00
Charges/Interest10.1211.718.797.166.21
Total60.22151.4394.2150.9156.21

VII. Safeguards Assessments:

Under the Fund’s safeguards assessment policy, the National Bank of Yugoslavia (now NBS) was subject to a safeguards assessment with respect to the Extended Arrangement approved on May13, 2002, which is scheduled to expire on May 13, 2005. A safeguards assessment of the NBY was completed on November 29, 2001. The assessment concluded that substantial risks may exist in the financial reporting framework, internal audit mechanism, and system of internal controls as reported in IMF Country Report No. 02/105. The proposed remedies by the mission are being implemented.

VIII. Exchange Arrangement

Serbia and Montenegro (SM) accepted the obligations under Article VIII as of May 2002. The currency of Serbia is the Serbian dinar. On January 1, 2001, Serbia adopted a managed float system. During 1994–99, the dinar was officially pegged to the DM; for most of the period, multiple exchange rates were in effect. Montenegro has adopted the euro as its sole legal tender.

IX. Last Article IV Consultation

The last Article IV consultation was held on May 13, 2002.

X. Technical Assistance During the Past 12 Months

DepartmentTimingPurpose
STAMay 2004Money and financial statistics
MFDNov 2003Banking supervision, domestic payments system, and monetary operations
FADOct 2003Modernizing revenue administration and preparing for VAT implementation
STASep 2003Balance of payments statistics
MFDMay 2003Establishing the infrastructure for a market-based financial system

Technical assistance missions during the past 12 months from FAD, MFD and STA have contributed significantly to tax administration and treasury management; to the creation of a market-based financial system; and to improved statistical data provision, respectively. At this stage of Serbia and Montenegro’s reforms, they have primarily focused on institution-building. The FAD mission reviewed the plan for modernizing the tax administration and implementing the VAT, and recommended that (i) the tax policy role of different revenue agencies be more clearly delineated, (ii) taxpayer services and compliance programs be strengthened based on segmenting the taxbase, (iii) preparations for implementing the VAT include raising the turnover threshold, greater reliance on taxpayer self-assessment supported by risk-based field audits and more extensive use of IT resources. The MFD recommendations were key to (i) implementing successfully the pivotal payments system reform at the beginning of 2003, (ii) developing market-based instruments for monetary operations, (iii) improving public sector debt management, (iv) providing a clear focus to future work on enhancing banking supervision practices and (v) outlining positive directions for NBS reorganization. The STA mission provided an action plan to prioritize implementation of its recommendations, including measures to improve coverage, valuation, classification and enhancing the bank reporting system.

XI. Resident Representative

Mr. Joshua Charap took up his position as Resident Representative in March 2001.

APPENDIX II Serbia and Montenegro: IMF-World Bank Relations

Partnership in Serbia and Montenegro’s Development Strategy

1. On May 8, 2001 the World Bank’s Board approved the succession of the Federal Republic of Yugoslavia (FRY) to SFRY’s membership in the International Bank for Reconstruction and Development (IBRD). FRY membership in the International Development Association (IDA) was confirmed on June 11, 2001. Following constitutional changes, FRY completed its transition to Serbia and Montenegro (SM) on February 4, 2003. The government of SM and its two constituent republics of Serbia and Montenegro have highlighted progress in structural reform and stabilization, and outlined their medium-term development strategies in their respective Poverty Reduction Strategy Papers (PRSP). The Joint Staff Assessment (JSA) of the PRSP was endorsed by the IMF Board on March 2 and by the Bank’s Board of Directors on March 16, 2004.

2. In the context of a program supported by a three-year Extended Arrangement (EA) the IMF takes the lead on macroeconomic (fiscal, monetary, and exchange rate) policies aimed at facilitating sustainable growth. In addition to macroeconomic targets, the Fund has established structural performance criteria and benchmarks in areas such as tax administration, payments system reform, banking reform, financial markets, foreign trade policy, and energy tariffs. Working together with bilateral donors, the Fund has also provided technical assistance in the first three areas.

3. As outlined more fully below, the Bank has complemented the Fund’s work through its support to structural reforms. In areas of direct interest to the Fund, the Bank leads the policy dialogue in: (i) public expenditure management; (ii) macroeconomically important sectoral reforms (e.g. in the energy sector), (iii) pension, health and social assistance reform; (iv) the restructuring and privatization of enterprises; and (v) legal reforms with a bearing on the business environment, including labor markets. The Bank and Fund have jointly led the policy dialogue in the financial sector, including on the restructuring and privatization of banks, and in foreign trade. The Bank’s program of investment lending, representing about 20 percent of planned commitments and covering a range of sectors, is described more fully below.

World Bank Group Strategy

4. The World Bank Group’s operations assist the government in achieving its overall goals of: (i) restoring macroeconomic stability and external balance; (ii) stimulating near-term growth and creating the basis for a sustained supply response; (iii) improving social well-being of the most vulnerable and building human capacity; and (iv) improving governance and building effective institutions.

5. The first stage of World Bank assistance commenced even before SM’s membership. In view of its urgent needs, and concurrent with the arrears clearance process, the Bank established in May 2001 a Trust Fund for FRY (TFFRY) using US$30 million of IBRD surplus net income to provide grant financing for selected priority activities. Five grants totaling US$30 million have been approved under the TFFRY and are currently under implementation. These grants, which were important in laying the foundations for the IDA-financed program, included (i) a private sector technical assistance grant for Serbia, (ii) a financial sector technical assistance grant for Serbia, (iii) a social protection grant for Serbia; (iv) an electric power emergency reconstruction grant for Serbia, and (v) an environmental infrastructure grant for Montenegro.

6. The second stage of assistance began on May 8, 2001, when the Bank’s Board of Directors endorsed a first Transitional Support Strategy (TSS) for SM.1 The TSS contained a three-year IDA envelope of up to $540 million for SM on a temporary and exceptional basis, with actual lending to depend upon performance against agreed benchmarks. It was envisaged that up to 80 percent of the program could support policy-based lending. A first year program of lending, economic and sector work and technical assistance was outlined. The Transitional Support Strategy Updates were discussed by the Bank’s Board on August 8, 2002 and March 16, 2004. These reviews confirmed the overall approach (including the focus on policy-based lending). A three year Country Assistance Strategy (CAS), developed jointly with the IFC and based on the PRSP, would be finalized at end calendar year 2004.

7. Given the extensive de jure and de facto devolution of responsibility for economic policy to the member state level, the program of adjustment lending is focused at this level. So far, five operations have been approved. In Serbia, a multi-sectoral Structural Adjustment Credit (SAC) (approved in January 2002) was designed to enhance fiscal sustainability through reforms of public expenditure management, the energy sector, social protection, labor markets, and health care. A Social Sector Adjustment Credit (approved in April 2003), supports further reforms in pensions, health and labor, while enhancing the focus on social assistance and poverty monitoring. Parallel Private and Financial Sector Adjustment Credits (PFSAC I and II, approved May 2002 and June 2003) focus on the growth promotion agenda, assisting the government in: (i) strengthening the financial system through the liquidation of troubled banks and an improved policy and regulatory environment; (ii) privatizing and restructuring socially-owned enterprises; and (iii) improving the investment and business climate. Discussions with the Serbian authorities for a second multisectoral SAC during FY05 are under way, with the focus on improving the business environment, further rehabilitating the energy sector, enhancing social protection and fostering stronger public administration. In Montenegro, the multi-sectoral Structural Adjustment Credit approved in August 2002 was completed with a final disbursement in January 2004. It supported reforms critical to fiscal sustainability as well as economic growth in the areas of public expenditure management, pensions, energy, labor markets, and the business environment. Discussions with the Montenegrin authorities are at an advanced preparation stage for a second multisectoral SAC for FY05, focusing on key areas to enhance growth potential, including reforms to the financial, energy, pension, health and public administration sectors.

8. The Bank’s program of adjustment lending has been underpinned by analytical studies. In June 2001, the Bank, working together with the European Commission and the federal and republican governments, completed an Economic Recovery and Transition Program (ERTP), which was presented to the Donor Conference held the same month.2 In 2002, the Bank focused on three complementary studies—a Public Expenditure and Institutional Review (PEIR), a Country Financial Accountability Assessment (CFAA), and a Country Procurement Assessment Review (CPAR). Studies of the agricultural (Serbia) and environmental sectors (both republics) were also completed. The Bank is now focusing its analytical work on improving the monitoring and analysis of poverty. Poverty Household Surveys for both republics laid the foundations for a Poverty Assessment, completed in 2003. The Bank is finalizing an Economic Memorandum for Serbia focusing on the agenda for sustained growth and employment creation. An Economic Memorandum for Montenegro will be undertaken in FY05. Initial Diagnostic Notes on Public Administration are being finalized for both republics and notes on the financial sector and privatization program are in progress for Serbia, as is an Investment Climate Assessment for Serbia.

9. In both republics, a program of selective investment lending has been designed to assist the authorities to tackle critical impediments to effective public sector management and private sector development, improve social policy and underpin reforms initiated under the Bank-supported adjustment programs. A Trade and Transport Facility for Southeast Europe and an Export Finance project have been approved which cover both Serbia and Montenegro’s needs. In addition, IDA is supporting a Serbian Education project, a Serbian Enterprise and Bank Restructuring Technical Assistance operation, a Serbia Health Reform operation, a Serbia Employment Promotion Learning and Innovation Credit, a Serbia Energy Efficiency Project, a Montenegro Environmental Improvement project and a Montenegro Energy Efficiency Learning and Innovation Credit. For FY04, four investment projects are in the final stages of preparation (Serbia Transport Rehabilitation, Serbia Real Property Registration and Cadastre, and Montenegro Pensions Systems Improvement and Montenegro Health Sector Reform operations). As of end-May 2004,13 IDA credits totaling about $404 million had been approved for SM, with adjustment support comprising the majority.

10. Since SM became a member of IFC in May 2001, 5 projects have been committed, three in the financial markets and two in manufacturing, totaling for about US$42 million. In addition to a robust pipeline in both the financial and real sectors, IFC has developed a technical assistance program for institutional strengthening (insurance sector, leasing, banking). It has completed or is implementing 15 technical assistance assignments ranging from the energy sector to garments, light engineering, health and education. MIGA has initiated programs in two areas: (i) guarantees for projects in SM (as of 31 May 2003, MIGA has issued guarantees to 2 projects for a total gross exposure of US$17.3 million); and (ii) investment marketing services (MIGA is currently working with the Serbian Investment and Export Promotion Agency (SIEPA) to implement an investment promotion capacity building and outreach program, funded under a World Bank Technical Assistance Grant).

Joint Staff Assessment (JSA) of the Poverty Reduction Strategies

11. Bank and Fund staff collaborated to produce a joint assessment of the authorities’ poverty reduction strategies as proposed in the PRSP of each republic. Bank staff took the lead in evaluating the structural measures to underpin poverty reduction, while Fund staff assessed the macroeconomic framework underlying the strategies. The JSA enumerates the strengths of the envisioned poverty reduction strategies, including the focus on harmonization to common EU standards, continuing privatization, improvements in the business environment, and policies to foster employment generation. Staff also found that the reports could usefully have relied on less optimistic assumptions regarding domestic savings, foreign financing inflows and the financing of poverty reduction programs, addressed crime and governance more directly, and provided a sharper sense of prioritization among possible projects. However, staff agreed that the envisioned market-oriented reforms will foster both continuing macroeconomic stability and considerable reduction in poverty looking ahead. As a result, staff recommended that their respective boards support the authorities’ poverty-reduction strategies as credible development policies. Bank staff further recommended that the PRSPs represent an adequate basis for continued World Bank support.

Bank-Fund Collaboration in Specific Areas

12. As part of its overall assistance to SM, the Bank combines lending, analytical work and technical assistance to support policy reforms, with a focus on the following areas:

13. Public expenditure management. SM’s weak systems of public financial management had long contributed to macroeconomic instability, a lack of transparency, and the inefficient use of public resources. In response, the governments of Serbia and Montenegro have prioritized reforms and institution building in this area. The Bank is taking the lead with a multi-pronged assistance program, which the Fund is complementing with policy conditionality and technical assistance. The Bank’s program began with the completion in 2002 of the PEIR, CFAA, and CPAR (see above), which in turn helped to define significant public expenditure management components in the first SACs for Serbia and Montenegro. In Serbia, key reforms supported by the Bank included the adoption of the Law on the Budget System (Organic Budget Law), the first steps toward introducing a treasury system, and enhanced inspection, auditing and procurement procedures. In Montenegro, where legal and institutional reforms had reached a more advanced stage, key reforms include the establishment of a more comprehensive multi-year framework for budget preparation, continued implementation of the interim treasury system, and improvements in the internal audit. Care is being taken to ensure consistency of the PRSP with available budgetary resources.

14. Energy sector reform. The combination of low power prices and collection rates, a decade of underinvestment and lack of maintenance, and war-related physical damage, led to power shortages and left SM with loss-making and inefficient electric utilities. As the largest single source of quasi-fiscal pressures, the power sector became an area of particularly close collaboration between the Bank and the Fund. While the Bank has taken the lead in developing the policy agenda, the sector’s fiscal impact has also motivated limited but strong conditionality in successive Fund arrangements. The Bank program has combined support for policy reforms with investment loans/grants for critical needs in both Serbia and Montenegro, improved financial management and technical assistance. The SACs for both republics focused on improving the financial position of the republican power utilities through measures to enhance revenues (phased tariff increases and improved collections) or reduce operating costs (e.g. control of the wage bill). Progress in achieving tariff rate targets is being monitored closely both by the Bank and the Fund. In parallel, the electric power emergency reconstruction grant for Serbia under the TFFRY supported urgent repairs, improvements in the financial management of the electric power company, and legal and policy advisory services. The Bank hopes to provide continuing support to the sector in Serbia with the recently approved Energy Efficiency Credit and complementary Global Environmental Fund grant. The Montenegro Energy Sector Learning and Innovation Credit assesses consumer response to the introduction of remote electricity metering and introduce automated billing and demand side management, facilitate the eventual privatization of distribution services and lay the basis for institutional strengthening in the energy sector.

15. Pension, health and social assistance reform. The state pension systems of both Serbia and Montenegro account for about one-third of consolidated public spending, and pension spending as a share of GDP is high by regional standards. Chronic arrears on pension payments and large budgetary transfers to the pension funds in both republics were further evidence that reforms were required to improve pension system financial balance and overall medium-term fiscal sustainability. This created a synergy between Bank and Fund programs. The Bank has taken the lead, including initial pension reforms in its adjustment operations in both republics, and providing required technical assistance through the social protection grant under the TFFRY. The key elements of pension reforms were parametric adjustments to retirement ages and indexation rules which would bring immediate fiscal savings relative to the no reform scenario. The Fund has provided supporting fiscal analysis and included related structural benchmarks in its successive arrangements in SM. The SOSAC for Serbia supports the next reforms of the pay-as-you-go system, as well as preparatory steps for a more comprehensive revamping of the pension system. A Pension Systems Administrative Improvements Project is being prepared for Montenegro.

16. In Serbia, the SAC also included initial reforms of the health care system designed to begin restoring fiscal balance in that sector, as a basis for improving its functioning and ability to provide basic health care services for all citizens. To this end, the SAC supported the introduction of modest co-payments, adoption of a more limited essential drugs list, the addressing of structural inefficiencies in the delivery system, and the laying of foundations for a new policy and legal framework. The SOSAC deepens this reform agenda. The Bank’s involvement in the health care sector in Montenegro has to date focused on analytical work, most recently under the PEIR. A Montenegro health sector reform project is in its final stage of preparation.

17. In Serbia, the Bank’s work on reforming other components of the social safety net began with conditionality and technical assistance under the social protection grant under the TFFRY. The SAC supported pilot reforms to enhance the equity and coverage of the main program of social assistance (the so-called Material Assistance to Families), to improve the management of donor funds for such programs, and to begin development of a new Law on Employment regulating benefits for unemployed workers. These reforms are now being completed and deepened under the SOSAC. The SAC for Montenegro also supported the enactment of a Law on Labor and Law on Employment.

18. Restructuring and privatization of enterprises and banks. Beginning in late 2000 in Serbia, and earlier in Montenegro, SM has been engaged in far-reaching reforms of the enterprise and financial sector. In Serbia, the initial focus in the enterprise sector was on creating a transparent legal and institutional framework for privatization to attract strategic investors. The agenda in the banking sector focused on the need to address the deep insolvency of the banking sector in a permanent and fiscally responsible fashion. The Bank and the Fund have worked closely together to support the needed policy reforms, with the Bank taking the lead on the enterprise sector and sharing leadership in the banking sector. The Bank program has combined sectoral adjustment credits focused on these themes with parallel projects to provide technical assistance. The Bank has worked closely with the Fund to formulate the benchmarks in PFSAC I and II which complement and reinforce the elements of the EA related to financial sector strengthening. Fund conditionality under the EA has focused on facilitating a brisk pace for privatization, ensuring that all privatization proceeds flow transparently through the budget, and putting in place control mechanisms in banks prior to their privatization. Under the TFFRY, the Bank provided early support through private and financial sector technical assistance grants. This work will be continued under the recently approved Privatization and Restructuring of Banks and Enterprises Technical Assistance Project. For reasons of selectivity and given the strong role of other donors, the Bank did not undertake a major involvement in these areas in Montenegro until early 2004. The proposed second SAC for Montenegro would support selective reforms in the financial sector including: (i) the resolution of non-performing assets carved out of the banking sector; (ii) bank privatization; and (iii) strengthening supervisory enforcement of the anti-money laundering regime.

19. Legal reforms with a bearing on the business environment. The Bank has taken the lead on business environment and general private sector development. The SAC for Montenegro supports the adoption and initial implementation of the enterprise law, bankruptcy law, and law on secured transactions. The PFSAC for Serbia supported enactment of laws on foreign direct investment and an SME agency, amendments to federal and republican enterprise laws, and preparation of a law on secured transactions. The PFSAC II followed up by supporting the enactment of laws on concessions, leasing, and preparation of the draft bankruptcy law. In addition, the SACs in both republics emphasized reforms of the legal framework for the labor market, promoting employment creation through greater flexibility, and promoting the financial sustainability and effectiveness of unemployment benefit programs. This complements Fund conditionalities related to securities and accounting legislation, and rationalizing employment clauses in social programs associated with privatization and enterprise restructuring. In FY02, the Bank prepared an initial diagnostic study of Serbia’s legal and judicial framework; a small grant supports the improvements in court administration.

Prepared by World Bank staff. Questions may be addressed to Ilker Domac at 458-1138, Bruce Courtney 458-5242, or Nancy Cooke at 473-8727.

APPENDIX III Serbia and Montenegro: Statistical Issues

1. Serbia and Montenegro’s (SM) statistical database uses definitions that are not in line with international standards, as they were developed to accommodate national characteristics and because they were not updated during the recent decade when the country was isolated from international developments. The authorities have, therefore, requested that the Fund send a mission to prepare the data module of the Report on the Observance of Standards and Codes (ROSC), which would include a comprehensive data quality assessment, as a basis for further technical assistance.

2. A multisector statistics mission visited Belgrade and Podgorica during July 10–31, 2002. The mission found that there was a critical need for Serbia and Montenegro to improve the quality of existing macroeconomic statistics by developing comprehensive data sources and by implementing sound statistical techniques. To streamline data compilation, federal statistics could be derived from information compiled on the two member states, without undertaking separate data collections, as is currently the case. To strengthen SM’s statistical infrastructure, there is a need for relevant official agencies to work together in setting priorities, developing action plans, and coordinating statistical initiatives in a systematic manner. Except for monetary statistics for Serbia compiled by the National Bank of Serbia (NBS) as discussed in Section D below, SM does not report data to STA and does not have a page in International Financial Statistics.

A. Real Sector

3. Real sector statistics are compiled and published by the Federal Statistics Office (FSO), the Statistics Institute of Serbia (SIS), and the Statistics Institute of Montenegro (SIM). The FSO has been compiling national accounts statistics for the FRY, Serbia, and Montenegro since 1997. Current price estimates of GDP by activity and by expenditure approach are available for 1997–2001. In addition, a full sequence of accounts (generation of income account, allocation of primary income account, secondary distribution of income account, use of income account, and capital account) for the total economy and by institutional sectors is also available for 1997–2001. Generally, the methodology follows the System of National Accounts (1993 SNA), but there are problems with the scope of the accounts and the basis for recording that are not broadly consistent with the international standards. Also, the data sources are in need of improvement, given the closure, from January 8, 2003, of the Clearing and Payments Service of Yugoslavia (ZOP), which used to collect information from annual balance sheets and profit/loss statements from all legal entities. This was a key input to the national accounts. The statistics techniques used for the national accounts compilation need further improvement. A major problem is the lack of estimates for the informal activities. The coverage of labor force statistics is similarly impaired by incomplete sampling of informal sector activities. Statistical agencies are aware that improvements are needed, particularly in source data. These issues are being addressed in a master plan for the improvement of economic statistics, which is being developed with the assistance of EUROSTAT.

4. The FSO and SIS compile and disseminate, respectively for the union and Serbia, retail price indices (RPI), cost of living indices (COLI), producer price indices (PPI), and unit-value price indices for imports and exports. In Montenegro, the SIM compiles a RPI while the Institute for Strategic Studies and Prognoses, a nonprofit institution, also publishes its own series based on surveys of household consumption. While the frequency and methodology of observation appear adequate, weighting, data storage, and dissemination could be improved.

B. Balance of Payments

5. Balance of payments statistics are currently compiled by the NBS and the Central Bank of Montenegro (CBM). Principal data sources are customs data on merchandise trade as processed by the FSO and information of foreign exchange transactions provided by banks and exchange bureaus. These are complemented by data from the Ministry of International Economic Relations on external grants and loans. The NBS keeps appropriately detailed records of external debt held by commercial banks, the government and itself. While the data compilation procedures appear appropriate, some components of the balance of payments suffer from substantial under recording owing to the large proportion of foreign exchange transactions carried outside official channels. Since 2001, the NBS has expended commendable efforts to improve its estimation of actual flows based on existing data. There has been some improvements since a new reporting system was implemented in October 2002 for commercial banks, although better coverage and classification of transactions remain key issues. In addition, the NBS could improve coverage, valuation and classification by adjusting trade data for transactions that are not explicitly declared (such as repairs, shuttle trade and grants in kind), removing exchange-rate changes from certain financial transactions, including arrears below the line, and assuring consistency of reserve assets with the monetary statistics.

6. However, the union’s balance of payments statement is incomplete because not all information covers both constituent states and the statement shows large net errors and omissions. The NBS has begun compiling a balance of payments statement for Serbia by using existing information from the Union’s statement, adjusted for imports and exports of Montenegro and financial flows pertaining to transactions between the two constituent states covered under the financial account of the union’s statement. The CBM has begun compiling a similar statement for Montenegro. Close coordination between the NBS and the CBM will be needed to compile balance of payments data for the Union.

C. Government Finance

7. Fiscal statistics for Serbia are compiled by the Serbian Ministry of Finance and for Montenegro by the Montenegro Ministry of Finance. Principal data sources are the budget execution reports of the spending ministries and first-level budget units and—until end-2002—ZOP reports. Revenue data are more timely and reliable than expenditure data, which are compiled with longer delays, although the implementation of the Treasury in both member states has brought improvements.

8. Data on the general government are not compiled, but, several initiatives will permit eventual development of these statistics. These include: (1) new budget laws that provide ministries of finance with the legislative authority for budget execution, borrowing, issuing of guarantees, debt management, and budget accounting and reporting for all levels of government in the republics; (2) the establishment of a Treasury in Montenegro and in Serbia, which will facilitate the collection of sound source data for government finance statistics; and (3) the application of classifications set forth in the government Finance Statistics Manual 2001 (GFSM 2001) by the Serbian and Montenegrin Ministries of Finance for producing data on central government operations.

9. During 2001, the government in Serbia made an effort to bring the existing budget reporting system in line with GFS methodology, but full compliance will require, inter alia, full implementation of the new chart of accounts (generally consistent with the classifications of the GFSM 2001). Data on expenditure arrears are less reliable due to the lack of basic treasury functions in the existing system of expenditure management.

10. Fiscal data for the central government of Montenegro are based on the new GFS classification. Data for the social security funds are reported directly by the funds and are available only with delays and are not based on GFS classification. A new chart of accounts was introduced in Montenegro in 2001 and needs to be fully implemented at the local level. No data are available for local governments.

11. The multisector mission recommended that (1) data on member states be consolidated to produce information for the union in accordance with international guidelines; (2) mechanisms be developed quickly to ensure the availability of source data for the compilation of government finance statistics following the discontinuation of data provision by the Clearing and Payments Service of Yugoslavia (ZOP) from January 8, 2003; (3) new charts of accounts be adopted at all government levels; (4) the classification of government debt be improved; and (5) government finance statistics be compiled and disseminated to the public and reported to STA for publication in the International Financial Statistics (IFS) and the government Finance Statistics Yearbook.

D. Monetary Accounts

12. Monetary and financial statistics are compiled by the NBS and the CBM following broadly the methodology set forth in the Monetary and Financial Statistics Manual. The July 2002 multisector statistics mission found that the authorities had made good progress in implementing the recommendations of the 2001 and 2002 STA missions. Nevertheless problems persist related to inadequate disaggregation of the resident sector, especially the government sector, and the lack of clearly defined criteria for distinguishing residents and nonresidents in monetary statistics. Although there is a methodological break for data prior to January 2002, the chart of accounts used since January 2002 will facilitate the production of consistent time series in the future. The NBS and CBM plan to introduce changes to their charts of accounts to provide additional details for the government sector, thereby increasing the accuracy and reliability of the data. During March 2003, STA provided extensive comments to the NBS authorities on their draft new chart of accounts for the commercial banks. With reference to periodicity and timeliness of data for the financial sector, both the NBS and the CBM meet the GDDS recommendations.

13. For the first time in over a decade, in November 2002, the NBS began reporting to STA monetary statistics for the Republic of Serbia. The data included monthly data for January 2002–October 2002, annual data for 1998–2000 and quarterly data for 2001 on analytical accounts of the NBS, other depository corporations, and the banking system, as well as data on interest rates, compiled based on the recommendations made by STA missions on monetary and financial statistics in 2001 and 2002. In March 2003, the NBS sent to STA monetary statistics for December 2002.

Serbia and Montenegro: Core Statistical Indicators(As of May 15, 2004)
Exchange ratesInternational ReservesCentral Bank Balance SheetReserve MoneyBroad MoneyInterest RatesRetail Price IndexExports/ImportsCurrent Account BalanceGovernment BalanceGross Domestic ProductExternal Debt/Debt Service
Date of Latest ObservationMay 13, 2004May 13, 2004May 13, 2004May 13, 2004May 13, 2004May 13, 2004Apr 2004Jan-Feb 2004Dec 2003Jan-Mar, 20042001Dec 2003
Date ReceivedMay 13, 2004May 13, 2004May 13, 2004May 13, 2004May 13, 2004May 13, 2004Apr 30, 2004Apr 30, 2004Mar 2004Apr 30, 2004Sep. 2003March 16 2003
Frequency of DataDailyDailyMonthlyDailyMonthlyMonthlyMonthlyMonthlyMonthlyMonthlyAnnuallyAnnually
Frequency of ReportingDailyDailyMonthlyWeeklyMonthlyMonthlyMonthlyMonthlyMonthlyMonthlyAnnuallyAnnually
Source of UpdateNBSNBSNBSNBSNBSNBSSBSSBSNBSMinistries of Finance of Serbia and MontenegroSBSNBS
Mode of ReportingReport to the FundReport to the FundReport to the FundReport to the FundReport to the FundReport to the FundWebsiteWebsiteWebsiteReport to the FundWebsiteNBS
ConfidentialityPublicConfidentialConfidentialConfidentialPublicPublicPublicPublicPublicPublicPublicConfidential
Frequency of PublicationDailyMonthlyMonthlyMonthlyMonthlyMonthlyMonthlyMonthlyMonthlyAnnuallyAnnuallyAnnually
APPENDIX IV Serbia and Montenegro: External Debt Sustainability Analysis

This note updates the debt sustainability analysis in IMF Countr Report No 03/296.

A. Medium-Term Balance of Payments projections

The baseline scenario assumes that: (a) exports will grow at an annual average of 15 percent in the first three years and 10 percent in the following five years in dollar terms (about 11 percent and 10 percent in euro terms); (b) imports will grow at an average rate slightly higher than nominal GDP in the next eight years (around 5.5 percent in euro terms);1 (c) the FDI inflows in 2003 were unusually high on account of the success in the privatization program; the privatization process is expected to continue in the next two years, albeit on a smaller scale. Other types of FDI, including greenfield investment and equity investment and reinvestment on existing companies, will rise steadily, reflecting progress in privatization and improving business environment; (d) commercial borrowing will increase steadily as the business environment improves; (e) official borrowing will increase moderately, with declining program support being offset by increasing project support; (f) there will be no IMF support after the current arrangement; (g) payments to London Club creditors and non-Paris Club official creditors will start in late 2004 following agreements with these creditors on terms comparable to those granted by the Paris Club; (h) gross international reserves will remain at the equivalent of around 4.2 months of imports of goods and services.

Under the baseline scenario, the debt ratios improve over the next 10 years, although the improvement is more modest in the first half of the period. The debt-to-GDP ratio will average around 54 percent in the first 3 years and around 42 percent in the next five years. Debt service ratios, on the other hand, will increase until 2009 and decline gradually afterwards, partly reflecting the increased debt service after the end of the grace period offered by the Paris Club and other bilateral creditors. The rise of debt service ratios in the latter half of the projection period argues for a steady buildup of official reserves in early years to guard against possible risks, while keeping on schedule with the country’s external obligations. Both the external debt and debt service ratios, especially those to exports, increased somewhat compared to the results in IMF Country Report No. 03/296. The increase in the ratios to GDP is mostly related to the revision of nominal GDP figures and exchange rate valuation effects, while the increase in the ratios to exports mainly reflects the lower than expected total exports in 2003 and some downward adjustment of export growth in the near term. Moreover, the higher-than-previously expected commercial borrowing by newly privatized companies—mostly from their parent companies abroad—has also contributed to the higher debt service.

B. Stress testing applying the debt sustainability framework.

Standard Stress Tests

As explained in IMF Country Report No. 03/151, the standard framework of the debt sustainability analysis is modified in the case of Serbia and Montenegro owing to the uncertainties related to the historical data. In particular, the 1996–2001 data for 4 countries in the region, namely Albania, Bulgaria, Croatia, and Romania, were used to derive the standard deviation. The historical averages are based on the outturns of 2002 and 2003 following the standard approach.

If real GDP growth, nominal interest rate, dollar deflator, non-interest current account, and non-debt inflows are set as the estimates of the 2002 outturn, the external debt ratios would decline much faster than in the baseline case after the first year, owing to the more favorable GDP deflators and nominal interest rate in 2002 and 2003 than in the outer years.

Applying shocks to the parameters, the stress tests indicate that higher debt burden stemming from shocks to the external current account deficit and/or a significant economic downturn would increase the debt ratios substantially, before the ratios improve slightly following the end of the shocks. On the other hand, shocks to the interest rate from the historical average do not have a significant impact on the debt ratios, reflecting the fact that the interest rate in 2002 and 2003 was relatively low, partly associated with the delayed start of debt service to the Paris Club creditors, and stress tests for the interest rate do not cause major deviations form the baseline projections because of the starting point. Similarly, as the dollar deflator in 2002 and 2003 was relatively high partly owing to dollar depreciation, and is expected to decline substantially in the projection period, the scenario with shocks to the deflator from its historical average actually generates improved debt ratios relative to the baseline. The combination of smaller shocks of all the above variables would also yield higher debt ratios than the baseline. Finally, a large one-time nominal deprecation would substantially worsen the debt ratios.

Tailored Stress Tests

In the first test, it is assumed that imports continue to grow strongly in 2004 on the back of strong domestic demand fueled by fiscal policy as implied by the 2004 budget (i.e., a fiscal deficit higher than envisaged under the program by about 2 percentage points of GDP) and exchange rate policy unchanged from its 2003 stance, while export recovery is more modest than in the baseline owing to continued delays in structural reforms and a lack of improvement in the country’s external competitiveness. The policies are tightened in subsequent years at the rate envisaged in the baseline, though they remain looser than in the baseline. Even if the higher current account deficits in 2004 and subsequent years can be financed by external borrowing—which could be difficult and raise concerns of financial instability even in the short-term—a rise of the debt/GDP ratio to almost 65 percent would significantly increase the country’s external vulnerability. This scenario illustrates the importance for prudent policies to contain domestic demand and enhance export performance, given the fragile external position.

In the second test, it is assumed that FDI inflows will be half of that projected in 2004 and 2005 under the baseline, possibly owing to rising political uncertainties and delayed structural reforms, which would deter foreign investments. As a result, real growth and exports would be negatively affected in subsequent years. While the debt ratios change only marginally in the first two years—as the reduced foreign investments are likely accompanied by smaller demand for imports—the worsening of the debt ratios is more pronounced in outer years, given the lower GDP and larger borrowing needs due to smaller exports.

Table 1.Serbia and Montenegro: External Debt Sustainability Framework, 2001–08(In percent of GDP, unless otherwise indicated)
ActualProjections
20012002200320042005200620072008
I. Baseline Medium-Term Projections
External debt103.275.569.055.154.153.950.145.9
Change in external debt-29.3-27.7-6.5-13.9-0.9-0.2-3.8-4.2
Identified external debt-creating flows (4+8+11)-25.8-17.8-12.50.34.53.52.50.6
Current account deficit, excluding interest payments9.011.911.59.07.76.35.64.7
Deficit in balance of goods and services-20.9-23.1-22.7-20.8-20.1-19.4-18.8-17.9
Exports23.720.719.220.422.824.425.626.1
Imports-44.6-43.7-41.8-41.3-43.0-43.8-44.4-43.9
Net non-debt creating capital inflows (negative)-1.4-3.6-6.7-3.1-5.0-2.8-3.1-3.2
Net foreign direct investment, equity1.43.66.73.15.02.83.13.2
Net portfolio investment, equity0.00.00.00.00.00.00.00.0
Automatic debt dynamics 1/-33.4-26.1-17.3-5.61.80.10.0-0.9
Contribution from nominal interest rate0.60.91.12.02.32.42.62.6
Contribution from real GDP growth-5.4-3.0-1.7-2.7-2.4-2.4-2.6-2.3
Contribution from price and exchange rate changes 2/-28.6-24.0-16.7-5.01.90.00.0-1.1
Residual, incl. change in gross foreign assets (2-3)-3.5-9.96.0-14.3-5.4-3.8-6.3-4.8
External debt-to-exports ratio (in percent)435.6365.3360.3269.4237.3221.2196.0176.2
Gross external financing need (in billions of US dollars) 3/2337.83118.84043.04378.24606.04495.04741.75167.5
in percent of GDP20.219.919.518.819.618.318.318.6
Key Macroeconomic and External Assumptions
Nominal GDP (US dollars)11577.315681.020729.123322.523550.324624.825864.727784.3
Real GDP growth (in percent)5.54.03.04.44.54.65.05.0
Exchange rate appreciation (US dollar value of local currency, change in percent)-33.53.811.6-0.9-9.1-4.7-3.4-1.0
GDP deflator (change in domestic currency)91.725.515.08.76.44.83.53.3
GDP deflator in US dollars (change in percent)27.630.328.37.8-3.3-0.10.02.3
Nominal external interest rate (in percent)0.61.22.03.34.24.75.05.5
Growth of exports (US dollar terms, in percent)7.718.222.520.112.711.710.29.5
Growth of imports (US dollar terms, in percent)28.932.926.510.95.16.56.56.3
II. Stress Tests for External Debt Ratio
Standard Stress Test
1. Real GDP growth, nominal interest rate, dollar deflator, non-interest current account, and non-debt inflows are at historical average69.044.935.429.722.919.2
2. Nominal interest rate is at historical average plus two standard deviations in 2004 and 200569.055.053.653.349.645.4
3. Real GDP growth is at historical average minus two standard deviations in 2004 and 200569.063.070.470.266.461.9
4. Change in US dollar GDP deflator is at historical average minus two standard deviations in 2004 and 200569.055.549.048.744.940.8
5. Non-interest current balance account is at historical average minus two standard deviations in 2004 and 200569.064.073.773.569.765.1
6. Combination of 2–5 using one standard deviation shocks69.058.656.356.052.248.0
7. One time 30 percent nominal depreciation in 200469.081.581.481.277.472.7
Statistics of the key variables used for stress testingStandard 4/ DeviationAverage 2003-08
Current account deficit, excluding interest payments3.17.5
Net non-debt creating capital inflows1.84.0
Nominal external interest rate (in percent) 5/0.64.1
Real GDP growth (in percent)5.34.4
GDP deflator in US dollars (change in percent)11.15.8
Tailored Stress Test
Looser macroeconomic policies which would increase 2004 current account deficit significantly relative to the baseline, and policy adjustments in subsequent years would bring down the deficit gradually.69.058.360.964.164.063.1
Lower FDI in 2004 and 2005, followed by reduced exports and real growth in subsequent years69.055.455.058.056.954.8

Derived as [r - g - ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock, with r = nominal effective interest rate on external debt; ρ = change in domestic GDP deflator in US dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock. ρ increases with an appreciating domestic currency (ε > 0) and rising inflation (based on GDP deflator).

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The average of standard deviation of Albania, Bulgaria, Croatia, and Romania between 1996 and 2001

Modified the standard framework by adjusting downwards the end-2001 debt stock by the amount of bilateral debt to be reduced. This would give a more reasonable basis for projection forward.

Derived as [r - g - ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock, with r = nominal effective interest rate on external debt; ρ = change in domestic GDP deflator in US dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt.

The contribution from price and exchange rate changes is defined as [-ρ(1+g) + εα(1+r)]/(1+g+ρ+gρ) times previous period debt stock. ρ increases with an appreciating domestic currency (ε > 0) and rising inflation (based on GDP deflator).

Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period.

The average of standard deviation of Albania, Bulgaria, Croatia, and Romania between 1996 and 2001

Modified the standard framework by adjusting downwards the end-2001 debt stock by the amount of bilateral debt to be reduced. This would give a more reasonable basis for projection forward.

Table 2.Serbia and Montenegro: Medium-Term External Sustainability, 2000–11
200020012002200320042005200620072008200920102011Average 2004-06Average 2007-11
(In millions of U.S. dollars, unless indicated otherwise)
Export growth (US$ terms, in percent)14.74.220.420.919.413.013.011.010.310.39.59.315.110.1
Export growth (euro terms, in percent)32.57.514.21.08.013.013.011.010.310.39.59.311.310.1
Import growth (US$ terms, in percent)12.630.430.725.910.75.06.56.56.36.36.36.37.46.3
Import growth (euro terms, in percent)30.034.523.95.20.15.06.56.56.36.36.36.33.96.3
Current account balance, before grants-610-1,119-2,007-2,614-2,577-2,356-2,143-2,115-2,030-1,896-1,745-1,546
percent of GDP-7.1-9.7-12.8-12.6-11.0-10.0-8.7-8.2-7.3-6.3-5.4-4.5-9.9-6.3
Current account balance, after grants-339-528-1,383-2,121-2,239-2,005-1,850-1,881-1,796-1,662-1,511-1,312
percent of GDP-3.9-4.6-8.8-10.2-9.6-8.5-7.5-7.3-6.5-5.6-4.7-3.8-8.5-5.6
Gross official reserves5161,1692,2803,5503,6004,2484,4534,4184,5184,6485,0935,329
in months of imports of goods and services1.22.43.24.44.34.74.74.34.24.04.24.64.2
External debt 1/11,40311,94811,83914,30312,84312,75013,27212,96112,75912,38812,05611,860
As percent of exports of goods and services448436365360269237221196176156140126242.6158.8
As percent of GDP1331037569555454504641383454.441.9
As percent of government revenue3612651761621261281301241141039385128.1103.5
External debt service 2/561071834361,0141,2281,2171,6622,0602,2412,2152,071
As percent of exports of goods and services2.23.95.711.021.322.920.325.128.428.325.622.021.525.9
As percent of GDP0.60.91.22.14.35.24.96.47.47.56.96.04.86.8
As percent of government revenue1.82.42.74.910.012.311.915.918.318.617.014.811.416.9
Sources: SM authorities, and IMF staff estimates.

Incorporates the phased 66 percent debt reduction offered by the Paris Club, with comparable action provided by other official bilateral and commercial creditors.

Besides the phased 66 percent debt reduction offered by the Paris Club, assumes a 60 percent capitalization of moratorium interest for the 2002-2005 period (as per the Paris Club agreement). Debt service projections for other official bilateral and commercial creditors are based on the assumption of comparable treatment.

Sources: SM authorities, and IMF staff estimates.

Incorporates the phased 66 percent debt reduction offered by the Paris Club, with comparable action provided by other official bilateral and commercial creditors.

Besides the phased 66 percent debt reduction offered by the Paris Club, assumes a 60 percent capitalization of moratorium interest for the 2002-2005 period (as per the Paris Club agreement). Debt service projections for other official bilateral and commercial creditors are based on the assumption of comparable treatment.

APPENDIX V Serbia and Montenegro: Public Sector Debt Sustainability Analysis

1. This Appendix updates the public sector debt sustainability analysis in IMF Country Report No 03/296, 7/14/03. Under the baseline scenario, SM’s debt-to-GDP ratio would decline steadily from 79 percent of GDP in 2003 to 48.2 percent of GDP in 2008 (Table 16). The debt-to-revenue ratio would decline by 66.2 percentage points over the same period, from 184.4 percent in 2003. The baseline scenario is broadly unchanged from the one presented in IMF Country Report No 03/296, although the debt-to-GDP ratio is higher in 2004 by 4.2 percentage points of GDP owing mainly to weaker GDP growth and valuation effect; as of 2006, the ratios return to the same broad magnitude. As in the last DSA, it is assumed that London Club debt rescheduling will be reached in 2004. The baseline scenario assumes a gradual fiscal adjustment during 2004–2008. Current primary spending would gradually decline as a share of GDP, while allowing for a small increase in real terms over time. This decline reflects the consequence of structural reform in public enterprises and the social security system, as well as a general reduction in the size of the government. The primary deficit gradually falls from 3 percent of GDP in 2003 to zero in 2006, before turning into a surplus of 0.9 percent in 2008, as the projected decline in primary expenditures would outpace the projected fall in revenue-to-GDP ratio. Privatization receipts are projected to be declining, and relatively modest, in the coming years (especially when compared to 2003).

2. Using the standardized methodology set out in Assessing Sustainability (www.imf.org), but with modifications due to data constraints, stress tests were conducted. Because data prior to 2000 are either incomplete or unavailable, and because SM underwent a series of structural breaks, it was not possible to use historical averages or standard deviations. As a result, and as explained in Appendix IV, the 2002–03 outturns were used to replace historical averages, and the 1997–2000 data for 4 countries in the region, namely Albania, Bulgaria, Croatia and Romania, were used to derive the standard deviation.

3. In the first test, real GDP growth rate, real interest rate, and the primary balance remain at the 2003 level. This scenario results in a faster reduction in the debt-to-GDP ratio, which would decline by 37.1 percentage points of GDP by 2008. This is due mainly to nominal and real interest effects which were more conservative under the baseline scenario. This also indicates that the baseline scenario is rather conservative.

4. Most stress tests, namely (i) higher real interest rates in 2004–2005, (ii) lower GDP growth, (iii) lower primary balance; (iv) a combination of these three using a one standard deviation shock; and (v) a 10 percent increase in other debt-creating flows in 2004 would not result in an increase in the debt-to-GDP ratio from its 2003 level, but would make the debt-to GDP reduction slower than under the baseline scenario.

5. One test only, the real depreciation of 30 percent in 2004, would increase the debt-to-GDP ratio from its 2003 level in the depreciation year; the ratio would be declining thereafter through the projection period, but would still be higher than its starting level in 2008.

Table 1.Serbia and Montnegro: Public Sector Debt Sustainability Framework, 2002–08(In percent of GDP, unless otherwise indicated)
Prel.Projections
2002200320042005200620072008
I. Baseline Medium-Term Projections
1Public sector debt 1/85.479.065.059.555.952.048.2
o/w foreign-currency denominated78.571.357.553.351.147.544.9
2Change in public sector debt-37.8-6.4-13.9-5.6-3.6-3.9-3.8
3Identified debt-creating flows (4+7+12)-39.1-11.7-5.2-2.7-2.2-2.3-3.4
4Primary deficit2.43.02.00.20.0-0.6-0.9
5Revenue and grants43.942.843.942.941.840.940.8
6Primary (noninterest) expenditure46.345.845.943.141.840.339.9
7Automatic debt dynamics 2/-39.4-10.4-6.6-1.9-1.4-1.1-2.0
8Contribution from interest rate/growth differential 3/-27.8-12.3-8.2-4.9-3.6-2.8-2.4
9Of which contribution from real interest rate-24.1-10.1-5.2-2.3-1.1-0.20.0
10Of which contribution from real GDP growth-3.8-2.2-3.1-2.6-2.5-2.6-2.4
11Contribution from exchange rate depreciation 4/-11.51.91.73.02.21.70.5
12Other identified debt-creating flows-2.2-4.3-0.7-1.0-0.8-0.6-0.6
13Privatization receipts (negative)-2.2-4.3-0.7-1.0-0.8-0.6-0.6
14Recognition of implicit or contingent liabilities0.00.00.00.00.00.00.0
15Other (specify, e.g. bank recapitalization)0.00.00.00.00.00.00.0
16Residual, including asset changes (2–3)1.35.3-8.7-2.9-1.4-1.6-0.4
Public sector debt-to-revenue ratio 1/194.6184.4148.3138.8133.9127.2118.2
Gross financing need5/3.54.13.32.22.11.71.4
in billions of U.S. dollars0.50.90.80.50.50.40.4
Key Macroeconomic and Fiscal Assumptions
Real GDP growth (in percent)4.03.04.44.54.65.05.0
Average nominal interest rate on public debt (in percent) 6/1.01.41.62.82.93.23.4
Average real interest rate (nominal rate minus change in GDP deflator, in percent)-24.5-13.6-7.1-3.6-1.9-0.30.1
Nominal appreciation (increase in US dollar value of local currency, in percent)15.2-2.7-2.6-5.4-4.2-3.4-1.0
Inflation rate (GDP deflator, in percent)25.515.08.76.44.83.53.3
Growth of real primary spending (deflated by GDP deflator, in percent)22.01.94.6-2.01.51.44.0
II. Stress Tests for Public Debt Ratio
1. Real GDP growth, real interest rate, and primary balance are at 2003 preliminary in 2004–200879.063.556.651.446.342.1
2. Real interest rate is at historical average plus two standard deviations in 2004 and 200579.072.969.665.861.757.5
3. Real GDP growth is at historical average minus two standard deviations in 2004 and 200579.073.074.870.766.361.6
4. Primary balance is at historical average minus two standard deviations in 2004 and 200579.069.670.366.462.458.1
5. Combination of 2-4 using one standard deviation shocks79.074.477.067.858.649.4
6. One time 30 percent real depreciation in 2004 7/79.0103.596.992.487.882.6
7. 10 percent of GDP increase in other debt-creating flows in 200479.075.169.265.461.357.1
Variables used for stress testsStandard Deviation 8/2003 Prel.Average 2004-08
Primary deficit1.83.00.2
Real GDP growth (in percent)4.43.04.7
Nominal interest rate (in percent) 6/11.13.1 9/2.8
Real interest rate (in percent)7.9-11.9 9/-2.5
Inflation rate (GDP deflator, in percent)6.715.05.3
Revenue to GDP ratio2.642.842.0