Bosnia and Herzegovina
Selected Issues

This Selected Issues paper provides background information for the 1998 Article IV Consultation with Bosnia and Herzegovina. The paper contains an overview of economic and political developments. It describes the establishment of the Central Bank of Bosnia and Herzegovina, developments in the financial sector, and external sector developments and policies. The paper highlights that in formulating their economic program for 1998–99, the authorities in all regions indicated their commitment to an economic strategy based on the maintenance of cautious macroeconomic policies, the rebuilding of public administration, market-oriented structural reforms, and a well-coordinated reconstruction program.

Abstract

This Selected Issues paper provides background information for the 1998 Article IV Consultation with Bosnia and Herzegovina. The paper contains an overview of economic and political developments. It describes the establishment of the Central Bank of Bosnia and Herzegovina, developments in the financial sector, and external sector developments and policies. The paper highlights that in formulating their economic program for 1998–99, the authorities in all regions indicated their commitment to an economic strategy based on the maintenance of cautious macroeconomic policies, the rebuilding of public administration, market-oriented structural reforms, and a well-coordinated reconstruction program.

I. Introduction and Overview

1. This document provides background information for the 1998 Article IV consultation with Bosnia and Herzegovina. The first chapter contains an overview of economic and political developments since the last consultation discussion, in August 1996, and outlines the authorities’ economic strategy. Subsequent chapters describe the establishment of the Central Bank of Bosnia and Herzegovina, developments in the financial sector, and external sector developments and policies.

A. The Political Context

2. Bosnia and Herzegovina declared independence from the former Socialist Federal Republic of Yugoslavia (SFRY) in March 1992. War in Bosnia and Herzegovina began the following month, as the country’s secession was challenged by the Yugoslav National Army and other internal and external forces. Conflict also took place between the Croat defense forces (HVO) and the Army of the Republic of BH from 1993 to early 1994. Hostilities between the Army of the Republic and the HVO were ended by the Washington Agreement of March 1994, which also created the Federation of Bosnia and Herzegovina (a political union of the Bosniac- and Croat-majority regions). The broader conflict was ended by the Dayton Treaty of December 1995.

3. Reflecting deep-seated mistrust among regions, the new Constitution enacted as part of the Dayton Treaty provided for a decentralized governmental structure. The Constitution confirmed that the Republic of Bosnia and Herzegovina continued in existence within its internationally-recognized borders, but would henceforth be known as “Bosnia and Herzegovina.” It stipulated that the country consists of two constituent Entities—the Federation with 51 percent of the territory (and, at least initially, about two-thirds of the population) and the Republika Srpska (RS) with the remainder. The central (“State”) government has limited powers and a balanced ethnic composition, with consensus required for most decisions. Under Article III of the Constitution, the State’s economic responsibilities are limited to monetary policy under a currency board arrangement, foreign trade and customs tariff policy, and external borrowing and debt service. In addition, the State is responsible for citizenship; foreign policy; immigration, refugee, and asylum policy; international and inter-Entity criminal law enforcement; common and international communications facilities; regulations of inter-Entity transportation; and air traffic control. Functions not explicitly assigned to the State are reserved for the Entities or their sub-units, except where they are necessary to carry out specific obligations under the Dayton Treaty or to preserve the sovereignty, political independence, and international personality of Bosnia and Herzegovina. The Entities, by mutual consent, may agree to expand the powers of the State.

4. The Federation also has a relatively decentralized system of government, in which substantial powers are devolved to the 10 cantons. The Federation is responsible for defense; economic policy, including planning and reconstruction within the Federation; refugees and displaced persons; and tax and customs administration. The Federation and cantons exercise joint responsibility in a number of areas, including health, environmental policy, communications and transportation infrastructure, social welfare policy, and interior affairs. The cantons are exclusively responsible for matters not allocated explicitly to the Federation, including education, culture, housing, public services, local land use, and social transfer expenditures. A canton may delegate responsibilities to municipalities within its territory, and municipalities are granted self-rule on other local matters. In the RS, where there is no system of cantons, responsibilities are divided between the Entity and municipal governments, with the latter responsible mainly for local matters. As a result, the RS government has jurisdiction over most matters that would be handled by cantons in the Federation, such as education.

5. The Dayton Treaty provided a timetable and procedures for the early stages of the peace process. In the first weeks, an international peacekeeping force (initially the Implementation Force (IFOR), now the Stabilization Force (SFOR)), was deployed and the various local armies withdrew behind the inter-Entity boundary line. Since then military aspects of the treaty have proceeded in a generally satisfactory manner and there has been no recurrence of large-scale armed conflict. In the area of civilian implementation, however, there was relatively little cooperation between the Entities or toward the creation of State institutions in the period leading up to the first postwar elections. International organizations worked together very closely to maximize their joint effectiveness in dealing with this problem, under the leadership of the Office of the High Representative (OHR).1 The most important achievements in this period were the establishment of new institutions in the Federation; partially integrating the separate wartime administrations of the Bosniac- and Croat-majority areas; initial technical assistance to strengthen implementation capacity in the RS; and the convening of a number of inter-Entity working groups on future common institutions and policies.

6. Country-wide presidential and parliamentary elections were held in September 1996, holding out an opportunity to put civilian implementation on a stronger footing. In practice, the process continued to be very slow. The first of the new State institutions to begin functioning was the three-member Presidency of Bosnia and Herzegovina, which began to meet more-or-less regularly in October 1996. In late October the Presidency concurred in the appointment by IMF Management of an expatriate Governor of the new (and at that time nonexistent) Central Bank of Bosnia and Herzegovina, and named the other three members of the Central Bank’s governing board (see Chapter II). Finally, in January 1997 the State Parliamentary Assembly met for the first time to appoint a Council of Ministers. One of the first concrete actions of these two bodies was the adoption in June 1997 of the so-called “Quick-Start Package” (QSP) of key economic laws on the central bank, the 1997 budget, external debt, trade and customs tariff policies.

7. The implementation of most of the QSP laws did not begin until 1998, due in large part to a political crisis that emerged in the RS in late June, 1997. Following the resolution of this crisis and the appointment of a new RS government, there has been a marked improvement in inter-Entity cooperation and the functioning of the State institutions (though the latter still remain at an early stage of development). Also contributing to this sea-change was the decision of the December 1997 Peace Implementation Conference (PIC) that the mandate of the High Representative should be interpreted as giving him the authority to impose interim solutions for unresolved issues in State bodies. In subsequent months, the High Representative took decisions, inter alia, on the new State flag, the law on citizenship, currency designs, and a foreign investment law.

8. Another focus of the PIC has been on problems of governance in all regions of the country. During the war political and economic institutions of Bosnia and Herzegovina were severely disrupted and, even now, many public functions are carried out in an ad hoc manner inconsistent with existing laws. This is largely a consequence of the political and economic fragmentation of the country, which is being reversed only slowly. A preoccupation of fiscal authorities in both Entities has been to recover control of the tax base from organized criminal groups that became particularly active during the war. In cooperation with the OHR and international peacekeeping forces, the EU’s customs and fiscal advisory office (EC-CAFAO) is spearheading efforts to help address these problems. The OHR is also establishing an Anti-Fraud Unit to help the authorities prosecute cases of official corruption. The Entity authorities have made numerous changes in their tax and customs administrations in recent months, in response to internal investigations and EC-CAFAO reports. Donors have expressed concern about the diversion of some assistance to purposes for which it was not intended, but neither international nor domestic investigators have found evidence of systematic corruption in the management of donor funds.

B. The Economic Situation and Strategy

9. In formulating their economic program for 1998-99, the authorities in all regions of the country have indicated their commitment to an economic strategy based on the maintenance of cautious macroeconomic policies, the rebuilding of public administration, market-oriented structural reforms, and a well-coordinated reconstruction program. The strategy has three macroeconomic pillars: (i) the use of a fixed exchange rate as a nominal anchor, through the currency board arrangement; (ii) fiscal discipline, aimed initially at the avoidance of domestic borrowing by all levels of government; and (iii) large-scale external assistance on concessional terms. The highest priority structural measures for 1998-99 include banking reform; enterprise privatization and restructuring; pension and health system reform; implementation of a simplified customs tariff system; exchange and trade liberalization; and initial steps in the strengthening of economic statistics. To address governance issues, early in the postwar period the authorities have drawn upon the assistance of the IMF, World Bank, and US government to improve budgeting and treasury management techniques; EC-CAFAO to improve and monitor the workings of the customs administrations; and these and other donors to begin reorienting the legal framework and improving statistical systems. Under the program, the authorities are to intensify these efforts and also take more direct measures to address some of the specific governance problems described above. In addition to changes in personnel, the latter include the elimination of discretionary tax and customs tariff exemptions, more even-handed and transparent approaches to payment of social benefits, technical improvements of customs and excise tax administration, and placing the customs administration and financial police of the RS under the authority of the Ministry of Finance.

10. Most of Bosnia and Herzegovina was devastated by the war and economic recovery is still in its early stages. National accounts statistics are unreliable and in the process of revisions, so that any statements about developments in national income and product are highly tentative; substantial revisions are likely in the coming year as technical assistance efforts take hold.2 Real GDP is estimated to have grown by about 30 percent in 1995, 50 percent in 1996, and another 30 percent in 1997 (see Basic Indicators, and Table 1). The leading sectors have been capital expenditures (mainly reflecting the donor-financed reconstruction program—see Chapter IV) and net exports. Despite these rapid growth rates, GDP in 1997 was estimated to be only half of its level in 1990. The pickup in economic activity has been much stronger in the Federation than in the RS, due to the relative access to external assistance and, until recently, constraints on merchandise trade with the RS through the Federation and the Republic of Croatia (Table 2). Employment has risen rapidly in the Federation (Table 3) and the unemployment rate has dropped from 70-80 percent of the labor force to perhaps 30-40 percent since the end of the war. Anecdotal evidence suggests that there has been less progress in the RS; country-wide unemployment is still estimated at around 40 percent of the labor force. The unemployment problem is being exacerbated throughout the country by demobilization and the return of refugees. Wages (Tables 4-5) and social benefits in the Federation have risen much more rapidly than those in the RS since 1995.

Table 1.

Bosnia and Herzegovina: Gross Domestic Product by Entity and Broad Sectoral Activity, 1994-97

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Source: Data provided by the authorities of the Federation and the Republika Sprska; and staff estimates.

GDP estimates for the Republika Srpska include staff adjustments to the official estimates, reflecting the widespread use of parallel market exchange rates in domestic transactions as well as sizeable unrecorded trade activities.

Table 2.

Bosnia and Herzegovina: Industrial Production, 1994-Feb 98 1/

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Sources: Data provided by State Statistical Office and Statistical Office of Republika Srpska.
Table 3.

Bosnia and Herzegovina: Employment in the Federation, 1994-Jan. 98

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Source: Federation Statistics Institute.

Data prior to September 1996 apply to the Bosniac-majority area only.

The category of “waiting” applies to personnel not actually working, but for whom contributions (pension, health) are paid; data distinguishing between those actually working, and those “waiting” are available beginning September 1996.

Includes government administration, education, health care, and other social services.

Table 4.

Bosnia and Herzegovina: Average Monthly Wages in the Federation, 1994-97

(In deustche marks) 1/

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Source: Data provided by State Statistical Institute.

Includes government administration, education, health care, and other social services.

Table 5.

Bosnia and Herzegovina: Average Monthly Wages in the Republika Srpka 1994-97

(In deutsche marks) 1/

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Source: Data provided by Statistical Office of the Republika Srpska.

Based on the average monthly parallel market exchange rate between the YUD and DM.

Includes government administration, education, health care, and other social services.

11. As described in Chapter II, the new Central Bank of Bosnia and Herzegovina (CBBH) began partial operations in August 1997, initially only in the Bosniac-majority area of the Federation. Five currencies are presently in use within the country: the BH dinar, which continues to circulate pending the introduction of banknotes in the new domestic currency, the convertible marka (KM) in June; the KM, which presently exists only as a unit of account for bank deposits and payments system transfers; the Croatian kuna (in the Croat-majority area of the Federation); the FR Yugoslavia dinar (in the RS); and the deutsche mark (DM) (throughout the country). Mirroring these arrangements, monetary developments in recent years have largely reflected developments in the balance of payments (see Chapter III). In 1996, the broad money supply expanded by over 96 percent, in connection with a surge in foreign financing, but slowed to 25 percent in 1997, as aid inflows moderated.

12. Following a wartime bout of hyperinflation, during 1994 the monetary authorities in all regions instituted policies of avoiding the use of central bank credit to finance the fiscal deficit. This policy was more immediately successful in the Federation, where the retail price index declined sharply during 1995-96, due not only to the tightening of monetary and fiscal policy, but also to the successful pegging of the domestic currency to the DM and improved access to imported consumer goods (Table 6). In the RS, inflation measured in Yugoslav dinars (YUD) continued to be affected during 1995-96 by the depreciation of the YUD exchange rate, owing mainly to economic policies in the FR Yugoslavia. However, inflation began to improve after the removal of economic sanctions on the RS and the FR Yugoslavia in early 1996.3 With currencies in both Entities largely stable in terms of the DM during 1997 (Figure 1), increases in retail prices were moderate and largely reflected adjustment in official utility charges and rent (moderated in the RS by diversification of import sources following an agreement on transit trade through the Federation).4

Table 6.

Bosnia and Herzegovina: Retail Price Developments, 1995-Feb 98

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Sources: Federation and Republika Srpska Statistical Offices; and staff estimates.

Index based on prices denominated in FR Yugoslavia dinars.

YUD-based index, converted into DM using parallel market exchange rate.

Parallel market exchange rate.

Figure 1.
Figure 1.

Bosnia and Herzegovina: Bilateral Nominal Exchange Rates, January 1994 - April 1998

Citation: IMF Staff Country Reports 1998, 069; 10.5089/9781451804768.002.A001

Sources: Data provided by the authorities of Bosnia and Herzegovina, the Federal Republic of Yugoslavia, and Croatia.1/ Prior to the introduction of the convertible marka (KM) in August 1997, the domestic currency was the Bosnian dinar with a fixed official exchange rate of 100 BHD per deutsche mark (DM) as from August 1994.2/ FR Yugoslav dinar per DM.3/ Croatian kuna per DM.

13. With its export capacity largely inoperative and facing a need for substantial imported consumer and capital goods, Bosnia and Herzegovina has experienced large current account deficits in recent years, financed mostly through official transfers and private remittances (see Chapter IV). Donors have been supportive of the authorities’ US$5.1 billion priority Reconstruction Program, but disbursements slowed somewhat during 1997, owing mainly to donors’ concerns about slow implementation of civilian aspects of the Dayton treaty.

C. Fiscal Policy and Institutions

14. In support of the monetary arrangements, fiscal policy at all levels of government has been based on avoiding domestic borrowing (Tables 7-10). Within this constraint, both Entities attempted during 1996-97 to restore civilian expenditure to the extent possible. In the case of the Federation, this policy was facilitated by a rapid increase in tax revenue, especially from sales, customs and excise taxes. In the RS, revenue shortfalls and lack of access to external assistance led to a decline in on-budget spending. In both Entities the balancing of the budget on a cash basis also required the accumulation of domestic and external arrears. In the context of the 1998 budgets, a wide range of domestic arrears and other claims on governments will be resolved, mainly in conjunction with the privatization process, and legislation on budget execution and the operations of the social funds is being revised to avoid further domestic arrears. In the coming years, the focus will be on improving systems of budget planning and control, defining equitable and sustainable social expenditure policies, and growth-oriented tax reform. Tax reform will be guided by the principles of: (i) applying low tax rates to broad bases, thereby minimizing distortions; (ii) harmonizing policies and administrative procedures between the two Entities; (iii) enhancing the buoyancy of the tax system; and (iv) eliminating unnecessary complexities that hinder tax administration.

Table 7.

Bosnia and Herzegovina: Consolidated Fiscal Position, 1996-97

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Excludes local government and district operations.

Cash basis.

Includes district, canton, and municipal expenditures, for which insufficient data is available to permit allocation among the categories.

Table 8.

Bosnia and Herzegovina: State Budget, 1997-98

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Source: Council of Ministers of Bosnia and Herzegovina; and staff estimates for 1997.
Table 9.

Bosnia and Herzegovina: Federation Budget, 1996-98

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Sources: Federation Ministry of Finance.

Domestic financing for 1998 represents budgeted privatization revenue.

Table 10.

Bosnia and Herzegovina: Republika Srpska Budget, 1996-98

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Source: Data provided by authorities, and staff estimates.

Converted at average parallel market rate of DM 1 = YD 3.5

15. The new fiscal institutions required under the peace treaty at the level of the State and within the Federation are not yet fully in place, although there has been progress. The Parliamentary Assembly of Bosnia and Herzegovina has adopted laws on the 1997 and 1998 State budgets, external trade, customs tariffs, and debt. In the Federation a unified customs administration and tax administration have been established. The customs administrations of the Entities have begun cooperating, with assistance from EC-CAFAO, and are preparing to implement the new State customs policy.

16. The first State budget under the postwar structure of government was adopted in 1997, but served mainly as a mechanism for channeling resources from the Federation to holdover bodies from the previous Republic of BH. In 1998 the new State institutions will become operational. The 1998 State budget provides for overall expenditures of KM 183 million, consisting of administrative costs (KM 57 million) and external debt service (KM 126 million). State government expenditures will be financed mostly by transfers from the budgets of the two Entities. For administrative costs, the respective transfers from the Entities to the State are to be paid 2/3 by the Federation and 1/3 by the Republika Srpska. The respective contributions to external debt service have been determined by a working group, by allocating debt service according to the location of the final beneficiary of the loan, insofar as such an allocation was possible. Debt that could not be allocated in this fashion was split between the two Entity budgets in the same proportions as total allocated debt.

17. In the context of the Federation budgets for 1998, the Federation fiscal system is being developed further and the remaining vestiges of the two separate wartime fiscal systems are to be eliminated. During 1996-97 unified Federation tax and customs administrations became operational, cantonal governments and administrative structures were defined, and an assignment of revenues was agreed upon among the Federation, cantonal, and municipal governments. The unification and modernization of the tax systems also has begun, with unified tax rates adopted for wage, sales, excise, and—most recently—profits taxes. The base for the wage tax has been broadened, the number of sales tax rates reduced from 5 to 4, and collection of sales taxes on excisable goods shifted to the wholesale level. To reduce disincentives for employment, a 10 percent surcharge on wages in one part of the Federation has been eliminated and contribution rates for pension, health, and unemployment insurance are being reduced and unified. The Federation government recently discontinued ad hoc exemptions that have been granted to a number of state-owned firms for the payment of social contributions and import duties, and most other exemptions to import duties are to be eliminated as part of the implementation of the new State customs tariff regime.

18. On the expenditure side, new procedures for budget preparation and the classification of expenditures, consistent with IMF Government Finance Statistics definitions, have been introduced by the Federation and most cantonal governments in the preparation of the 1998 budget. In light of the importance of cantonal fiscal operations in the fiscal system, most cantons have been voluntarily reporting budget results to the Federation Ministry of Finance on a regular basis. Under the 1998 budget execution law, all Cantons will be required to report quarterly on their fiscal operations, with substantial penalties for non-compliance. The transparency of the fiscal system has been increased by bringing a substantial part of military expenditures on-budget in 1997 and 1998.5

19. In the RS, the 1998 budget is focusing both on ways to strengthen the revenue base and on the prioritization of expenditures. Revenue increases are expected to stem mainly from a strengthening of economic activity and improvements in tax and customs administration, drawing on technical assistance from EC-CAFAO, the IMF, World Bank, and US government. Toward this end, the RS government changed the management of the customs administration and financial police and placed them under the control of the Minister of Finance. The RS is committed to increased collection efforts for monthly tax payments and greater enforcement and auditing of tax returns. As part of this effort, the payment of excise taxes and sales taxes on excisable goods has been shifted to the wholesale level. To further improve the administration of excise taxes, tax stamps have been introduced for alcohol, cigarettes, and other excisable goods. The sales tax base has been broadened through the elimination of most exemptions and the sales tax rate has been reduced from 24 to 18 percent for goods and 7 to 4 percent for services. During 1998 the Entity also has begun to benefit from external assistance to the budget, which is essential to the success of the reform effort.

II. The Establishment of the Central Bank of Bosnia and Herzegovina 6

20. The Central Bank of Bosnia and Herzegovina (CBBH) began partial operation on August 11, 1998. Its establishment followed two years of intense internal debate over how to organize the new institution and define its prerogatives in policy making. While a broad consensus has been reached on these matters, the institution-building process is still under way as the CBBH continues to consolidate its credibility and expand its area of activity. This chapter presents a compact overview of the institution—its legal framework, organization, and modalities of operation.

A. The Legal Framework

21. At the time of the signing of the Dayton Treaty in December 1995, monetary policy was under the control of three distinct monetary authorities with no overlapping jurisdictions. One domestic currency and three foreign currencies were in widespread use. The domestic currency, the BH dinar issued by the National Bank of Bosnia and Herzegovina (NBBH), circulated only in the Bosniac-majority area of the Federation. The Croatian kuna and FR Yugoslavia dinar were widely used in the Croat-majority area of the Federation and the Republika Srpska (RS), respectively. The deutsche mark (DM) was widely used throughout the country.

22. The new Constitution enacted as part of the peace accords sought to restore monetary integration by mandating that:7

  • There will be a Central Bank of Bosnia and Herzegovina, which shall be the sole authority for issuing currency and for monetary policy throughout Bosnia and Herzegovina.

  • 1. The Central Bank’s responsibilities will be determined by the Parliamentary Assembly. For the first six years after the entry into force of the Constitution, however, it may not extend credit by creating money, operating in this respect as a currency board; thereafter, the Parliamentary Assembly may give it that authority.

23. Thus, the Constitution not only defines a broad mandate for the CBBH but provides a framework for the conduct of monetary policy.

24. The choice of a currency board arrangement in the Dayton/Paris Treaty was motivated by the importance attached to the credibility of a nominal anchor in the uncertain postwar environment. Moreover, it reflected the need to avoid—in a fragile political system—frequent decision-making in matters of great economic sensitivity, as it would happen under an alternative arrangement with significant scope for monetary activism. The six-year period for the currency board rule is intended to permit that this decision be reexamined after a period of social and economic reintegration.

25. Lawmakers’ preference for rules over discretion has found an even broader expression in the Law on the Central Bank of Bosnia and Herzegovina, which makes operational the constitutional provisions and was adopted by the Parliamentary Assembly of BH on June 20, 1997. Under that law the CBBH shall act for the first six years of its operations as a currency board issuing a new domestic currency, the Convertible Marka (KM), in exchange for DM at the fixed exchange rate of one KM per DM. The official foreign exchange reserves must provide, at a minimum, full coverage for high-powered money and must be kept almost entirely as liquid DM assets. The law does not permit restrictions on the convertibility of the domestic currency.

26. The CBBH law goes beyond this constitutionally-mandated monetary framework by carefully circumscribing the areas of CBBH jurisdiction and its instruments of monetary control. Under the law, the responsibilities of the CBBH are: to put currency into circulation; manage official foreign exchange reserves; coordinate the activities of banking agencies in the country’s two constituent Entities; and promote the activities of the different payment systems in the country. The CBBH is also to be the clearing agent for interbank transactions in KM with settlement through the reserve accounts of commercial banks, and the official compiler of balance of payments statistics. Finally, the CBBH serves as a banker for the State, but is prohibited from doing so for either Entity unless both agree to such an arrangement. The only monetary instrument at the disposal of the CBBH is the imposition of (partly remunerated) reserve requirements against KM deposits at commercial banks. Bounds on the range of the legally permissible required reserve ratios (which must fall between 10 and 15 percent) constrain the scope for whatever liquidity-smoothing could be achieved under the rigid peg and liberal exchange arrangement. Within the limit of the law, the CBBH is formally independent from any level of government, including the State and Entity governments and all public agencies.

B. The Organizational Structure

27. The discharge of all operational activities of the CBBH is implemented by an Executive Board—consisting of the Governor and three Vice-Governors—and supervised by a Governing Board for which the Constitution regulates the composition and the governance structure. For the first six years of its existence, the Governing Board of the CBBH will consist of a Governor and three other members appointed by the Presidency of Bosnia and Herzegovina. The Governor, who cannot be a citizen of Bosnia and Herzegovina or any neighboring state, is appointed by the Management of the International Monetary Fund in consultation with the Presidency.8 The law requires that two of the remaining Board members must be from the Federation (one Bosniac and one Bosnian Croat), and the third must be a Bosnian Serb from the RS. Elaborate voting procedures, aimed at ensuring that a decision can always be reached in the deliberations of the Governing Board, are also codified in the law. Like the restrictions on the composition of the Board, these procedures are intended to apply for an initial six-year period after which they may be changed through legislative action.

28. The three Vice-Governors have responsibilities that follow functional lines within the organizational structure of the CBBH. Each heads one of the three departments (Administration, Banking and Research) that, together with the Office of the Governor and the Office of the Controller General, form the Headquarters of the institution. Headquarters operations are conducted in Sarajevo and Pale. In addition, the CBBH law mandates the establishment of a network of branch offices—“Main Units”—entrusted with the regional discharge of some of the CBBH functions. Box 1 summarizes the internal organization of the CBBH and these Main Units.

C. The Implementation of the New Monetary Regime

29. Against a background of unstable political relationships and deep-rooted distrust, the design of the legal framework and organizational architecture for the new central bank has been a complex process driven by the need to find compromises among very different visions of the new monetary arrangement. In the event, the law was adopted in June 1997 and the CBBH started partial operations on August 11, 1997, initially only in the Bosniac-majority area of the Federation. On that day, the CBBH assumed from the NBBH as its own liabilities the outstanding stock of BH dinar banknotes and the required reserve deposits of commercial banks, along with their counter-value in liquid DM assets. All existing bank accounts in BH dinars were redenominated into KM, in order to begin interbank clearing on the CBBH books.

30. However, as part of this system the CBBH was exposed to the possibility of extending temporary credit to the banking system, through a settlement lag of several days for certain transactions involving the NBBH. Under these circumstances, a deposit outflow from the NBBH—which had ceased to act as a central bank but still retains limited banking functions—into a commercial bank would temporarily increase the monetary base without a corresponding increase in the foreign currency cover at the CBBH. To avoid such unintentional violation of the currency board rule, the NBBH agreed to provide a compensating deposit in foreign exchange of DM 10 million, that was expected to exceed the estimated maximum float, and undertook to increase the deposit as necessary. In the event, the arrangement failed to work as envisaged for lack of adequate monitoring and poorly defined responsibilities for its implementation, and on numerous occasions extensions of credit in excess of the compensating deposit occurred. In part because of seasonal factors, the gravest of these breaches took place on December 31, 1997 and amounted to KM 16.6 million.

31. This development was potentially damaging to the credibility of the new institution and also exposed it to financial risk, owing to the insolvency of the NBBH.9 After another round of difficult negotiations, in late April 1998 the CBBH Governing Board and the NBBH agreed to implement a strategy that is intended to prevent further extension of credit from the CBBH, Under the new arrangement, most of the remaining foreign exchange assets of the NBBH have been transferred to its reserve account at the CBBH. The payments bureau has undertaken to clear transactions involving the NBBH only if there are previously sufficient funds in the reserve account to cover any net deposit outflows. Finally, an expatriate expert has been appointed as liquidator of the NBBH, and the liquidation is expected to be completed by August 1998.

32. The KM exists at present only as a unit of account, pending the introduction of new KM notes in June.10 Although the KM has the status of legal tender throughout Bosnia and Herzegovina, the CBBH law envisages that foreign currencies will also continue to be used during a transitional period of uncertain duration (see Box 2). Besides the currency board assurance of strict monetary discipline, three factors, however, augur well for a broader acceptance of the new currency in the near future.

Excerpt from the Law on the Central Bank of Bosnia and Herzegovina

Article 38; Monetary Unit

The monetary unit of Bosnia and Herzegovina shall be the “Convertible Marka”, divided into one hundred “Pfeninga” the symbols for which shall be “KM” and “F” respectively. The Convertible Marka shall be issued by the Central Bank and put into circulation through its head office and main units.

The Convertible Marka shall be legal tender for payments of all public and private obligations and debt throughout Bosnia and Herzegovina. In particular, all public institutions and private individuals or enterprises must accept the Convertible Marka in settlement and payment of any obligation to them.

Only the Convertible Marka shall be used for receipts and payments of the budget and common institutions of Bosnia and Herzegovina (including payments and contributions by the Federation of Bosnia and Herzegovina and the Republika Srpska to the budget of Bosnia and Herzegovina), and in the official accounts of the common institutions of Bosnia and Herzegovina.

The budgets and the official accounts of their public institutions of the Federation of Bosnia and Herzegovina and the Republika Srpska, as well as tariffs, fees, and other charges collected on account of public utilities or public transport services, shall be denominated in Convertible Marka, In addition, other currencies may be used for these purposes as units of account.

Public officials of the Federation of Bosnia and Herzegovina and the Republika Srpska will undertake all efforts to promote the use of the Convertible Marka in the payments of all revenues and expenditures of their budgets, public agencies, and public enterprises at all levels of government. During that process, other currencies in use prior to the entry into force of this Law will continue to be used. Following the introduction of the Convertible Marka by Central Bank, the Presidency of Bosnia and Herzegovina will review these efforts every three months on the basis of an analysis submitted by the International Monetary Fund of the efforts made by the authorities to promote the use of the Convertible Marka.

Payments in transactions among physical persons, private enterprises, and mixed enterprises shall be in whatever currency the parties to the transactions agree to, including the foreign currencies which are widely circulating in the Federation of Bosnia and Herzegovina and in the Republika Srpska on the day this Law comes into force.

33. First, the imminent introduction of KM notes offers a natural venue to satisfy the growing demand for currency in what is largely a cash-based economy. In addition, the new KM notes will have slightly different design elements in the two Entities—a feature that might increase their use in communities where nationalist sentiments run strong.11

34. Second, renewed confidence in the CBBH following the resolution of the currency board violations and the deteriorating value of the Yugoslav dinar have increased the incentives to abandon the de facto monetary unions with neighboring countries for those regions which have resisted so far the use of BH dinars and KM in their interbank payments. A steady resumption in inter-Entity trade also reinforces this tendency.

35. Third, the CBBH branch network is being progressively consolidated throughout the country and made operational. The Main Units maintain inter alia the reserve accounts of the commercial banks in their area of operation, liaising as appropriate with regional payment bureaus. Thus, their establishment is necessary for the activation of a country-wide payment system in KM. Two Main Units were first opened in Sarajevo (August 1997) and Pale (September 1997), and a third was established in April 1998 in Mostar. With the imminent opening of a branch office in Banja Luka to act as another distribution point for the new currency notes, the system of regional hubs will be largely completed. As of mid-May 1998, it is expected that most commercial banks in all regions of the country will have opened reserve accounts at the CBBH through this Main Unit network.

36. Managing the introduction of the new currency is a complex task that the CBBH is in the process of finalizing. Extensive technical assistance from the international community, including from the Fund, is expected to facilitate the operation. In addition, following accession to membership in the Bank of International Settlements in December 1997, the CBBH is benefitting from bilateral advice from other central banks.

III. Financial Sector and Monetary Developments in 1996-9812

A. Background

37. Upon independence in March 1992, Bosnia and Herzegovina inherited its financial sector from the former Socialist Federal Republic of Yugoslavia (SFRY). Initially, the country had a single central bank, the National Bank of Bosnia and Herzegovina (NBBH). In the period following the civil war outbreak in April 1992, the country’s financial system imploded in stages into three separate systems, with separate monetary authorities and payments bureaus emerging in each region.13 First, in May 1992, the National Bank of the Republika Srpska (NBRS), a central bank with authority over the Serb-majority area and closely linked to the National Bank of Yugoslavia, was established. Then, in early 1993, a financial system was put in place in the Croat-majority area, supervised by a regional Ministry of Finance with close relations with the Republic of Croatia. Consequently, the authority of the NBBH ceased to extend beyond the Bosniac-majority area. In parallel, three separate payments systems emerged. Until recently, monetary policy instruments in each region were similar to those previously in use in the SFRY.14 A new monetary policy framework was established in mid-August 1997, as a result of the opening of the Central Bank of Bosnia and Herzegovina (CBBH), which operates as a currency board.

38. Against this background, the unification of the financial system was granted a high priority under the Dayton Treaty. The process of financial system reform initiated since the end of the war is described below, along with the main developments of broad monetary aggregates mirroring the postwar recovery process.

B. Strengthening the Banking System

Background

39. A majority of publicly owned banks (hereafter, state banks) in Bosnia and Herzegovina are deeply unsound. Moreover, private banking has emerged only recently, mainly in the Federation, and remains limited in the size and scope of its operations. Most banks depend on fee income, rather than interest. Drastic reforms are urgently needed to address the insolvency crisis faced by the state banks, in order to support the country’s long-term recovery and further its financial and political stability. Owing mostly to political factors, preparation of such reforms is at a more advanced stage in the Federation than in the Republika Srpska (RS).

Structure and recent performance of the banking system

40. As of end-December 1997, 63 banks were operating in Bosnia and Herzegovina—including 50 in the Federation and 13 in the RS. Public enterprises were majority owners of 18 banks in the Federation as against 7 banks in the RS, and were minority owners of an additional 8 banks in the Federation, Total assets on a book-value basis amounted to DM 4.8 billion—DM 4.2 billion for the Federation and DM 0.6 billion in the RS.

State banks

41. The main causes underlying the weakness of the banking system in Bosnia Herzegovina are deeply rooted in the legacy of the former SFRY. Prior to independence, the foreign currency deposits held by banks in Bosnia and other former republics of the SFRY were seized by the National Bank of Yugoslavia, and are unlikely ever to be repaid. At the same time, the state banks ceased servicing their foreign obligations. These initial conditions were further aggravated throughout the country by the 1992-95 civil war, which resulted in widespread damage to productive assets, hyperinflation, and the curtailment of international lending flows through the banking system. In the RS, difficulties were compounded by the impact of international economic sanctions until their removal in early-1996. State banks in both Entities have continued operating as passive financing companies of their public enterprise owners. Under such arrangements, the largest shareholders frequently have been both the largest borrowers and depositors and have influenced bank governance. As a consequence, commercial standards for banking transactions have been mostly nonexistent. The absence of inter-Entity financial relations has also constrained the state banks‗ operations to narrow markets. The development of efficient and solvent state banking institutions in Bosnia and Herzegovina has also been severely impeded by the pervasive involvement of the payments bureaus in the financial system (See Section C below). As a result, the assets of state banks are largely nonperforming, and depositor confidence has virtually disappeared.

42. At end-1997, state banks controlled about 90 percent of the banks’ assets at nominal book value in the Federation and even more in the RS. The state bank sector included both banks that existed before the independence in 1992 and others that were created thereafter. The former are large or medium-sized banks and mostly spin-offs of banks that operated throughout the former SFRY as part of the Privredna and Jugobanka networks. In general, their market share is larger than new banks because they have traditionally emphasized the financing of large-scale projects, international transactions, and public enterprise deposit mobilization. In the Croat-majority area of the Federation, however, the two largest state banks (i.e., Hrvatska Bank and Livno Bank) do not fit this pattern. They have smaller balance sheets and smaller amounts of nonperforming loans than the other areas’ banks and have developed close links with banks in the Republic of Croatia. The other state banks created after independence are mostly small and have limited banking experience.

43. Insolvency risks appear to be concentrated in a few large state banks in the Bosniac area of the Federation and in the RS. The main assets and liabilities that burden their balance sheets include:(i) claims against the former National Bank of Yugoslavia for frozen currency deposits (about DM 4 billion);(ii) claims against enterprises on foreign borrowing from London and Paris Club creditors (about DM 3-4.5 billion); and (iii) local-currency-denominated assets, depreciated and nonperforming because of the effects of the war (about DM 1 billion). Actions were taken in 1997 to initiate the strengthening of the state banks’ balance sheets. A major step toward that end was the rescheduling in December 1997 of foreign borrowing from London Club creditors, on very favorable terms. Debt relief on debt to Paris Club and other external creditors is scheduled to take place after the adoption of a Fund-supported program. Further restructuring of the state banks’ balance sheets will be closely connected to the forthcoming enterprise privatization programs. In the Federation, voucher-based enterprise privatization will be used to offset banks’ liabilities on frozen foreign exchange deposits. In the Republika Srpska, the privatization strategy is still developed. In both Entities, the remaining nonperforming assets will be mostly written off. On the basis of preliminary assessments, it is widely assumed that about 90 percent of the assets of the state banks in both Entities are nonperforming. This would entail a sharp contraction of the state banks’ assets and would render their capital largely negative.

44. Ongoing efforts toward establishing a market-based banking sector have been sidetracked to some extent in the RS by the creation in 1997 of the Serb State Bank (SSB) and in the Federation by the licensing in early 1998 of the Federation Investment Bank (FIB). The SSB is a chartered bank within the RS payments bureau while the FIB was initially designed to finance development projects in the Federation out of foreign credit lines secured by the Federation government. Both government-sponsored banking arrangements have been opposed by donors, mostly because of their potential implications on resource allocation and bank governance. In response and with a view to avoiding a potential source of expansion of base money under the unified KM banking system, the RS authorities have recently agreed to separate banking activities of the SSB from the traditional functions held by the payments bureau. The Federation authorities have accommodated donors’ request for establishing the FIB under majority nongovernment ownership.

Privately owned banks

45. Private bank activity has been increasing steadily since the end of the war, mostly in the Federation, where 30 majority privately owned banks were operating as of end 1997 as against 3 in the Republika Srpska. In the Federation, private banks accounted for about two-thirds of the total number of banks, one third of total bank capital (at current book value), and about 5 percent of nominal bank assets. However, if the nonperforming assets of the Federation state banks were excluded, the private banks’ share would rise to about 40 percent of the Federation banks’ assets. Despite the increasing market presence of private banks in the Federation, their resource base has remained very narrow; most of them are small banks that were founded during the war to handle international transfers. In general, private banks have limited capital and almost no experience with lending or deposit mobilization. The EBRD has provided equity in one small private bank as part of a twinning agreement with a foreign bank.

Strengthening the institutional and regulatory banking frameworks

46. The lack of modern institutional, legal, and regulatory frameworks for banking activities on a country-wide basis has been a major obstacle to establishing a market-oriented banking system in Bosnia and Herzegovina. Banking sector legislation and supervision are primarily the responsibility of the Entities. Under the central bank law, the monetary authorities are expected to act as a facilitator for implementing harmonized laws, regulations, and supervisory practices in both Entities, as well as unified reporting by banks and the banking agencies. The revamping of the legal framework for banking licensing and supervision in the Federation, through the creation of the Federation Banking Agency in June 1996, was instrumental in generating momentum for reform of the financial system. In parallel, throughout 1996-97, comprehensive legal frameworks for the Central Bank, commercial banks, and bank privatization were discussed in inter-Entity working groups under coordinated technical assistance from the IMF, US government, World Bank, and other donors.

47. More recently, further progress on bank reform was achieved in the Federation, with the Parliament’s adoption in March 1998 of laws on Opening Balance Sheet, Bank Privatization, and the amendments to the Banking Agency Law. These laws are crucial to initiating the bank privatization process. In the RS, a law establishing an independent banking agency was adopted in April 1998 and laws on privatization similar to those passed in the Federation are expected to be adopted shortly. Both Entities, however, have yet to adopt key legislation on commercial banking as well as laws dealing with property rights, collateral, mortgages, and bankruptcy. These remaining laws, with coordinated provisions for the two Entities, are expected to be passed by mid-year in the Federation and shortly afterward in the RS. New common regulatory standards for banking supervision and a chart of accounts based on international standards are also due for adoption by year-end. The main features of the banking-related laws recently adopted in the Federation are summarized below.

48. The Federation Law on Opening Balance Sheet enacted in March 1998 provides guidelines for identifying the assets and liabilities of state-owned banks, as of end-1996, that will be removed at the time of privatization. These comprise both “neutral” assets (i.e., apartments and other fixed assets subject to restitution) and “passive” assets and liabilities. The latter include: (i) pre-war liabilities which originated through foreign borrowing and guarantees, households’ frozen deposits in foreign currency, and prewar assets and liabilities in the former territories of the SFRY, including the RS; (ii) assets and liabilities owed by the State and state-owned enterprises; (iii) unpaid equity capital and (iv) war-related damages to fixed assets.

49. The Federation Law on Privatization of Banks, provides general criteria for selecting state banks to be privatized or liquidated and specifies the respective roles of the Federation Banking Agency (FBA) and the Ministry of Finance in this process. Under the law, only those state banks assessed as solvent on the basis of their audited and FBA-approved Opening Balance Sheet will be proposed for privatization. Ownership of solvent state banks is to be transferred to the Federation Ministry of Finance. Thereafter, privatization procedures are expected to be supervised and monitored jointly by the Ministry of Finance and the FBA. The law also sets a 28-month limit for privatizing majority state owned banks, beyond which liquidation will be required. In addition, state minority shares in banks must be disposed of within 24 months of enactment. State banks found to be insolvent following the opening balance sheet procedure will be liquidated.

50. Six amendments to the Federation Law on the Banking Agency were enacted at the same time as the privatization-related laws. Some of the amendments were needed in order to confirm the permanent status of the banking agency, because the agency initially had been granted only temporary status which expired with the enactment of the Law on the Central Bank in June 1997. The other amendments were aimed mainly at specifying the FBA’s responsibilities during the forthcoming bank privatization process.

51. In the RS, a law establishing an independent banking agency was adopted by the Parliament in April 1998 (essentially the same as the FBA). The RS banking agency is expected to begin operations shortly with donor funding.

52. The Law on Banks is a strategic component of banking legislation because it defines the authority of banking agencies to supervise, rehabilitate, and liquidate banks, and also establishes criteria for the liquidation, sale, or merger of banks’ assets and liabilities. Separate but virtually identical versions of this law are to be adopted this year by the two Entities.

Measures for restoring confidence in the banking system

53. The lack of confidence in the banking system is clearly evidenced by the low amount of nongovernment deposits in both Entities, about DM 700 million in the Federation and DM 100 million in the RS. Moreover, most of the deposits are held by public enterprises rather than households, and cannot be mobilized for financial intermediation. As a result, resources for lending are severely inadequate. Households’ saving patterns were largely affected by the following events: (i) pre-independence and wartime hyperinflation; (ii) the seizing of foreign currency deposits by the NBY and; (iii) dissaving resulting from the loss of incomes during the 1992-95 civil war and the subsequent depressed level of economic activity. The insolvency and inefficiency of most state banks have provided further deterrents to depositors. More recently, the failure of several new private banks is likely to have reinforced the general public’s deep distrust of the banking system. The authorities’ strategy in both Entities for establishing a viable banking system and restoring depositor confidence over the medium term is three fold and based on: (i) strengthening bank licensing, supervision, and regulation; (ii) privatization and liquidation of state banks; and (iii) establishment of deposit insurance schemes in both Entities.

Strengthening of banking supervision

54. Establishing an efficient and unified system for bank licensing and supervision in both Entities is a key precondition for developing a viable banking system in the medium term. Prior to the creation of banking agencies in the two Entities, such functions were performed by the banking departments within the National Bank of Bosnia and Herzegovina (NBBH) and the National Bank of the Republika Srpska (NBRS), respectively. Further enhancement of both agencies remains contingent upon passing the commercial bank law. In the meantime, new requirements on licensing and exit criteria, loan classification, capital requirements, and limits on excessive risk taking which are in line with international standards are under preparation in both agencies, and are expected to take effect as soon as the law on commercial banks is passed.

Strategy for bank privatization

55. The bank privatization strategy in the Federation, reflected in the three recently-adopted banking laws calls for government withdrawal from banking activities through privatization of the solvent state banks or liquidation of the insolvent ones. Owing to tight fiscal constraints, additional government resources or guarantees will not be used in conjunction with bank privatization. The Federation Ministry of Finance will take over the carved-out assets and liabilities after write-offs; outstanding and newly issued shares will be sold for cash but proceeds for the budget are expected to small.

Deposit insurance

56. There is currently no deposit insurance scheme in force in either the Federation or the RS. In addition, in the face of a number of recent bank failures the Entities have resisted ad hoc compensation of depositors. The establishment of a deposit insurance agency is under consideration in both Entities. The main rationale for introducing a common deposit insurance system in both Entities would be to restore depositor confidence. The envisaged scheme would be limited to private banks meeting certain minimum standards (for which it would be voluntary) and foreign banks (for which it could be mandatory). An initial capital contribution would be provided by donors, in order to hold the levy on insured deposits to a reasonable level.

C. Payments System Reform

57. During the 1992-95 civil war, the comprehensive network of payments bureaus was split into three separate payments systems. Like the banks, the payments bureaus in most parts of the country have continued their operations according to pre-independence organizational and procedural frameworks; in the RS there have been reforms in line with those introduced in the FR Yugoslavia (which, interalia, are intended to establish a real-time gross settlement system for large-value transactions). Payments bureaus are government-controlled clearing and settlement agencies. Their primary task is to ensure payments among resident legal entities (i.e. enterprises, banks, and various government levels), although they carry out such function for physical persons as well. The payments bureaus also perform major treasury functions for various levels of government (i.e., State, Entities, special funds, cantons, and municipalities), such as tax collection, auditing, and servicing of fiscal expenditures. All transactions among legal entities are carried out through a network of giro accounts, which also provide key information for central control of the financial sector. As government monopolies, payments bureaus have generally lacked adequate transparency and also have deprived banks of much-needed liquidity and resources for lending, thereby impeding the development of a modern interbank market.

58. The authorities have recognized the need to move in the medium term toward a more competitive payments system, along the lines of those in industrial countries. However, the authorities have justified a cautious pace of reform in this area by citing the need to preserve the information and control networks provided by payments bureaus; these are one of the few financial institutions that still operate relatively efficiently within each region of the country. During wartime, inter-area transactions were settled through correspondent banks abroad, or in cash. Reforms implemented during the period 1995-97 were aimed at strengthening the linkages between the three regional payments systems, but even within the Federation the systems have thus far remained short of a full unification. A first breakthrough was achieved in November 1995 when the payments systems in the two areas of the Federation were linked again, through weekly direct cash settlement in deutsche mark of net balances between the two areas. Further progress toward unification of the Federation payments bureaus took place in February 1996 with the adoption of a law establishing a Federation payments bureau. The Federation payments bureau received World Bank support and initiated operations in mid-1996 under dual and regionally-based management frameworks and with common procedures. To date, however, the payments systems in the Bosniac- and Croat-majority areas of the Federation have remained distinct, mostly because these areas continue to use different currencies. Agreement to establish a DM cash clearing mechanism between the Federation and the RS was reached in June 1996 and implemented in November 1996. Further linkages between the two Entities have been largely prevented by the direct linkages between the RS and FRY payments bureaus, which constrained legal entities to hold only YUD-denominated 15 giro accounts with the RS payments bureau. This obligation was lifted in April 1998, when all restrictions on the use of convertible foreign currencies (such as the DM) for domestic transactions in the RS were removed. In-depth reforms of the payments bureaus are expected to take place in the near future, as soon as a sound banking system is established.

D. Recent Developments in Monetary Aggregates

Monetary authorities

59. In effect, three separate monetary arrangements were in place in Bosnia and Herzegovina until the opening of the CBBH in mid-August 1997. As called for under Article 72 of the Central Bank Law, the NBBH in the Bosniac-majority area, the NBRS in the Republika Srpska, and the Ministry of Finance in the Croat-majority area ceased to function as monetary authorities at that time. Although the CBBH is now the sole monetary authority, for statistical purposes the monetary authorities also include some Federation payments bureau accounts, thereby capturing foreign assets under the control of the CBBH or commercial banks. Moreover, because under the new monetary arrangements the State Ministry of Foreign Trade has become the fiscal agent for the country’s relations with the Fund, with the CBBH as the depository, transactions with the Fund are recorded as off-balance sheet items by the CBBH. In this new analytical framework, the NBBH and NBRS have been reclassified as deposit money banks, with the NBBH awaiting liquidation shortly.

60. Through the period from mid-1994 to August 11, 1997, the Bosniac-majority area relied on a fixed exchange rate arrangement for the BH dinar, issued by the NBBH. Because this system featured the virtual avoidance of credit from the NBBH to either the government or nongovernment sectors, it bore considerable resemblance to a currency board arrangement. The latter was instrumental in establishing an experience for the CBBH authorities to draw upon in establishing the currency board. In contrast, monetary policy under the Ministry of Finance in the Croat-majority area of the Federation and the NBRS until recently was based on the use of foreign currencies—the Croatian Kuna, and the Yugoslav dinar (YUD), respectively. Widespread use of the deutsche mark for domestic transactions has also been a common feature of all three regions. In all three areas, monetary restraint has been applied through drastic constraints imposed by the monetary authorities on bank financing of fiscal imbalances and on banks’ access to refinancing.

61. As of July 1997, total assets of the monetary authorities as defined above amounted to DM 969 million, with foreign assets accounting for DM 820 million and claims on Entity governments for most of the remainder. Monetary authorities’ foreign assets grew by DM 523 million during the period from end-1995 to end-July 1997, reflecting primarily a surge in foreign assistance, particularly in the Federation. In contrast, credit to the Entity governments peaked in mid-1996 and gradually declined thereafter, when both Entities began adhering more strictly to the fiscal stance of zero domestic financing of fiscal imbalances. At the time of the opening of the CBBH, claims on Entity governments totaling DM 107 million remained on the books of the NBBH and the NBRS, of which DM 43 million and DM 64 million was owed by the Federation and RS governments, respectively (Tables 12 and 13). On the liability side, reserve money (i.e., mostly BH dinars in circulation and bank deposits in BH dinars with NBBH) more than doubled during 1996, and remained broadly stable in 1997 through the opening of the CBBH. Reserve money accounted for about one-third of total liabilities as of end-July 1997. Entity government deposits also experienced a significant growth, mirroring mostly the buildup in foreign assets, and accounted for about 40 percent of total liabilities as of end-July 1997. Nongovernment demand deposits in foreign currency remained broadly stable during the period 1996 to end-July 1997. Foreign liabilities, predominantly short-term16, remained moderate throughout the same period; about half of total foreign liabilities were incurred by the purchase made in December 1995 under the IMF’s policy on emergency post-conflict assistance. The remainder largely reflected liabilities incurred by the NBRS vis-a-vis the National Bank of the FR Yugoslavia.

Table 11.

Bosnia and Herzegovina: Summary Balance Sheet of the Central Bank of Bosnia and Herzegovina (CBBH), Aug. 1997-Mar. 1998

(In millions of convertible marka; end of period)

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Source: Data provided by the Central Bank of Bosnia and Herzegovina (CBBH).

Opening of the Central Bank of Bosnia and Herzegovina (CBBH)

Including deposit of NBBH made under the clearing agreement with the CBBH.

Including clearing balance between the CBBH and NBBH.

Defined as the difference between net foreign reserves of the CBBH and its monetary liabilities.

Defined as the ratio of net foreign reserves of the CBBH to its monetary liabilities.