Front Matter Page

© 1996 International Monetary Fund

November 1996

IMF Staff Country Report No. 96/117

Republic of Moldova—Recent Economic Developments

This report on recent economic developments in the Republic of Moldova was prepared by a staff team of the International Monetary Fund as background documentation for the periodic consultation with this member country. As such, the views expressed in this document are those of the staff team and do not necessarily reflect the views of the Government of the Republic of Moldova or the Executive Board of the IMF.

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Front Matter Page

INTERNATIONAL MONETARY FUND

REPUBLIC OF MOLDOVA

Recent Economic Developments

Prepared by Messrs. Owen (Head), Wein and Kammer (all EUR II) Ramos (FAD) and Desruelle (PDR)

Approved by the European II Department

September 5, 1996

Contents

• Introduction and Background

• I. Recent Macroeconomic Developments

  • A. Real Sector Developments

    • Output and Demand

    • Labor Market Developments

    • Prices

  • B. Fiscal Developments

  • C. Financial Sector Developments

  • D. External Developments

    • Foreign Trade and the Balance of Payments

    • Trade Regime

    • External Debt

    • Exchange Market and Exchange Arrangements

• II. Banking System Stability

• III. Tax Reform

  • Reform Strategy

  • Proposed Changes

• IV. Social Safety Net Issues

  • Overview of the Current System

  • Problems of the Current System

  • Plans for Reform

• V. External Trade and Competitiveness

  • A. The Evolution of External Trade: 1992 to 1995

  • B. External Competitiveness

• VI. Enterprise Restructuring

  • A. Privatization

  • B. Corporate Governance

  • C. Enterprise Arrears

• VII. Energy Supply and Tariff Structure

  • Structure of the Energy Sector

  • Tariff Structure

  • Other Tariff Distortions

  • Collection Rates

  • Moldovagas and Moldenergo: Payables and Receivables

• Text Boxes

• 1. Structure of Government

• 2. Reserve Requirement Regulations

• 3. Unemployment Benefits

• 4. Mass Privatization and Investment Funds

• 5. Restructuring of Enterprises

• Charts

• 1. Output Indicators

• 2. Structure of Industrial Production

• 3. Prices

• 4. Fiscal Indicators

• 5. Money and Inflation

• 6. Monetary Aggregates

• 7. Interest Rates

• 8. External Indicators

• 9. Structure of New Bank Loans and Deposits

• 10. Composition of Trade

• 11. Competitiveness Indicators I

• 12. Competitiveness Indicators II

• 13. Privatization

• 14. Wage Arrears

• 15. Energy Supply Structure

• 16. Energy Collection Rates

• 17. Moldovagas and Moldenergo: Receivables and Payables

• Text Tables

• 1. Labor Mobility

• 2. Monetary Developments, 1995-96

• 3. Structure of Social Fund Expenditure

• 4. Social Fund Budget

• 5. Current Pension System

• 6. Volume of Trade, 1992-95

• 7. Direction of Trade, 1992-95

• 8. Composition of Trade, 1992-95

• 9. Trade in Textiles and Textile Products with BRO Countries

• 10. Interenterprise Arrears, 1996 Q1

• 11. Enterprise Interstate Credit, 1996 Q1

• 12. Electricity and Heating Tariffs

• Statistical Appendix Tables

• 1. Gross Domestic Product by Expenditure

• 2. Gross Output, Input, and Net Material Output by Sector

• 3. Agricultural Production in Constant Prices

• 4. Agricultural Production

• 5. Animal Husbandry

• 6. Industrial Production by Industry in Constant Prices

• 7. Output of Selected Products

• 8. Employment by Sector

• 9. Prices

• 10. Monetary Authorities’ Accounts

• 11. Monetary Survey

• 12. General Government Budget, 1994-96

• 13. Balance of Payments, 1994-95

• 14. Basic Data

Introduction and Background

1. Moldova is a small landlocked country in the northeastern Balkans, bordering Romania in the west and Ukraine in the north, east, and south. A moderate continental climate with relatively mild winters and rich, fertile soils have favored agricultural production and processing, which currently account for about 60 percent of GDP. After the collapse of the Soviet Union and Moldova’s independence in 1991, output dropped sharply and inflation soared Financial and macroeconomic stabilization have now been achieved, and the focus of policy makers has turned to structural reform in order to lay the foundations for high and sustainable economic growth.

2. Moldova was severely affected by a deterioration in its terms of trade, the loss of traditional markets, and disruptions in payments and trade relations after the break up of the Soviet Union. The adverse effects on output were compounded by two severe droughts in 1992 and 1994 and an internal conflict in 1992 over the independence of the Transnistria region (the area of Moldova to the east of the Dniestr river). As a result, GDP declined by more than 50 percent between 1991 and 1994. At the same time, annual inflation soared, peaking at almost 2,200 percent in 1992, following the liberalization of prices and the monetization of a fiscal deficit of 26 percent of GDP.

3. The authorities embarked on a comprehensive program of financial stabilization beginning in 1993. By 1995, the fiscal deficit had been cut to 5½ percent of GDP and the National Bank had implemented a tight monetary policy. Annual inflation fell to 24 percent, and the velocity of broad money was on a downward trend, reflecting increasing confidence in financial stabilization and the currency. Output stabilized and exports and imports rose rapidly, with the current account deficit narrowing to 6½ percent of GDP from 13½ percent in 1993. Data for the first half of 1996 show inflation remaining low and output recovering.

4. Important progress has also been made in structural reform, notably in the liberalization of prices and trade and the privatization of state assets. However, only limited success has been achieved so far in enforcing hard-budget constraints and in restructuring the industrial and agricultural sectors. Hard-budget constraints have also not been enforced in the public sector, which has large debts vis-à-vis energy enterprises and pensioners. This has contributed to a buildup of domestic and external arrears.

5. To maintain financial stability and to lay the basis for sustained growth, a broadening and deepening of structural reforms is necessary. The authorities have now commenced a three-year program--supported under the extended Fund facility (EFF)--which should quicken the pace of Moldova’s transformation into a modern market economy and solidify the gains already achieved in macroeconomic stabilization.