Abstract
This report highlights Bosnia and Herzegovina's Request for Stand-By Arrangement (SBA). The authorities have requested a 15-month SBA in the amount of SDR 67.6 million (40 percentof quota) for June 2002–September 2003. Private investment and FDI remain mired in concerns over political risks, the hostile business environment, and infrastructure bottlenecks. Fixed investment outside government,construction, and reconstruction is low—perhaps 10 percent of GDP, and construction is slowing as aid inflowsare curtailed. Significant fiscal consolidation appears to have been achieved in 2001 and fiscal structures have been strengthened.
August 2, 2002
This statement describes implementation of the prior actions and key economic and policy developments since the staff report was issued. The new information does not change the thrust of the staff appraisal.
Prior Actions and Structural Benchmarks
All prior actions have been completed.
Entities are current in their transfers to the State, with recent delays now eliminated.
On June 27, 2002, the Federation privatization law was amended to require that all receipts must be placed in escrow and cannot be withdrawn prior to a comprehensive debt settlement approved by parliament.
Plans to extend treasury systems to better track commitments and to cover sub-central units of government have been adopted. Full operations are targeted for mid-2002 in the State, and for end-2003 and mid-2004 in the Federation and the RS respectively.
A new Federation Tax Administration law was adopted on June 4, 2002 reflecting the recommendations of US treasury and EU technical assistance.
On May 18, 2002, the State parliament passed a law distributing the first tranche of succession assets received from former Yugoslavia largely to the entities. The funds were distributed in early June.
Excluding RS pensions and amendments to the budget law (see below), the structural benchmarks dated for end-July 2002 have been met. Legislation to activate the excise attribution mechanism has been passed in both Entities and Brcko. Both Entities are ready to implement the ASYCUDA++ information systems in customs.
Preliminary data suggest that the indicative ceiling on Cantonal borrowing was exceeded in end-March 2002. The borrowing preceded the conclusion of the mission program negotiations and since then borrowing has been declining. Furthermore, with an amendment to the Federation budget law June 27, 2002 ruling out Cantonal borrowing from Banks, measures are in place to lower borrowing to within the program ceilings by September, when the ceilings will be performance criteria. Local borrowing in the RS is currently negligible and is subject to some central control. Amendments to tighten this control further in the RS in line with the program has, however, been delayed by disputes over unrelated issues in the bill in which the amendments are embedded. The bill is scheduled to be discussed by Parliament when it reconvenes in September.
Economic Developments
Available (limited) data suggest that macroeconomic developments are consistent with the staff’s projections of real BiH GDP growth of 2-2½ percent in 2002 as in 2001 and modest inflation. In the year to May 2002, manufacturing output in the Federation was up 4½ percent on a year earlier and down by 13 percent in the RS over the same period, but both Entities show signs of a pickup since end-2001 troughs. Since those output troughs, manufacturing and mining employment—measured by persons being paid—was flat in the Federation while rising strongly in the RS. In May, the 12-month growth rate of the CPI was 3.5 and 0 percent in the RS and the Federation respectively, turning slightly negative in the Federation in June.
On the fiscal side, the first quarter outturn for government deficits is consistent with program projections. In the RS, strengthened tax enforcement, especially on oil products, is evident in strong revenue growth, which, if sustained, would exceed the annual program target by almost ½ percent of BIH GDP. Spending (notably on pensions) has raised pro-rata. In contrast, in the Federation, delays in implementing tax stamps on cigarettes and delays in dividend transfers from state owned enterprises depressed Q1 revenues. Spending was, however, adjusted pro rata and both revenue difficulties are being addressed; monthly revenue in April and May are in line with program targets.
International reserves of the central bank, which were boosted at end-2001 in the context of the introduction of euro notes and coin, have remained close to those levels since then.
Other Developments
Ministerial Appointments
At the initiative of the High Representative, in the week of June 17, the Deputy Prime Minister and Minister of Finance of the Federation were relieved of his duties and the Minister of Finance of the RS resigned. The former case is related to an improper payment made to a firm by the Ministry of Finance, the latter case relates to evidence of corruption in the customs administration. Mr. Franjic has been appointed as the Minister of Finance in the Federation, to be confirmed by end-July. In the RS, Mr. Vilendecic has taken over the Ministry of Finance portfolio. The latter has confirmed his commitment to policies in the letter of intent, and the same commitment is expected from the former when his appointment is confirmed.
Demobilization
In the Federation, the demobilization of 10,500 soldiers has been largely completed according to the modalities set out in the MEFP. Given the absence of donor funding for demobilization, severance was mostly financed from succession monies. Partly spurred by the Federation’s initiative, the RS has proposed a related scheme to demobilize 2,500 personnel, also to be financed by temporary use of succession monies.
RS Pensions, Tax Write Off, and Electricity Coupons Since end-2001, the RS pension fund has steadily accrued arrears summing to one month of pensions in May 2002. They arose because monthly pensions were not adjusted in line with collections, and instead, collection periods were extended. This commitment, which is a continuous structural benchmark in the program, was not observed in June or July, but the extent of the overshoot was lowered to 9 days in July 2002. The RS authorities have reconfirmed their intention to stop accruing pension arrears on pensions partly by supplementing pension fund resources from strong tax revenue growth, subject to a cap agreed with staff (see attachment), and if need be, cutting average pension entitlements. Given anticipated inflows, the July pension payable in early August can be met in full while adhering to the agreed cutoff date for the collection period. Staff has established a daily monitoring system to forewarn of any difficulties
The RS also adopted a law at end-May 2002 which lowers penalty interest on overdue tax obligations accrued between (1998 and mid-2001) and another which writes off overdue cadastral liabilities in an effort to strengthen tax compliance. Relief under both laws is contingent on taxpayers being current on obligations for 2002 and on registration with the tax authorities. The penalty rate will be 18 percent. Though this is below the standard penalty rate of 36 percent currently specified in the new Tax Administration law for overdue tax liabilities, it is high in real terms.
The RS electricity utility issued coupons worth 0.3 percent of RS GDP to pensioners in lieu of pensions arrears. The central budget will reimburse the utility in monthly installments through end-2002 financed by expenditure cuts and the first payment has been made.
VAT
A FAD TA mission in late April recommended that the current sales tax be replaced by a VAT designed to take account of the Entity structure of the country. Thus, it would include a harmonized tax base in the Entities, with rates prescribed by each Entity within a limited range, and tax administration at the Entity level. Implementation could commence on July 1, 2004 if preparations start immediately and proceed swiftly.