Statement by Pier Carlo Padoan, Executive Director for Albania and Hari Vittas, Alternate Executive Director

This paper focuses on Albania’s Fourth Review Under the Three-Year Arrangement Under the Poverty Reduction and Growth Facility (PRGF), Request for a Waiver of Nonobservance of Performance Criterion, and Financing Assurances Review. Performance since the third review has been satisfactory overall, although 2003 fiscal revenue fell short of the ambitious budget targets. All quantitative performance criteria for end-March 2004 were met. The end-December 2003 indicative target for net credit to government was also met substantially despite revenue and external assistance.

Abstract

This paper focuses on Albania’s Fourth Review Under the Three-Year Arrangement Under the Poverty Reduction and Growth Facility (PRGF), Request for a Waiver of Nonobservance of Performance Criterion, and Financing Assurances Review. Performance since the third review has been satisfactory overall, although 2003 fiscal revenue fell short of the ambitious budget targets. All quantitative performance criteria for end-March 2004 were met. The end-December 2003 indicative target for net credit to government was also met substantially despite revenue and external assistance.

On behalf of the Albanian authorities, we would like to start by expressing our appreciation to the staff for the very productive consultations in Tirana and for preparing a comprehensive report, which provides a candid assessment of the program. We are also thankful to Fund management and the Executive Board for their continued support of Albania’s economic reform and transition efforts.

In spite of the approaching mid-2005 general elections, the macroeconomic situation remains healthy and the country is demonstrating its continued strong commitment to the implementation of key structural reforms. All quantitative performance criteria for end-March have been met. The authorities are firmly confident that political considerations will not affect economic policy design nor the respect of obligations under the program, as there is wide consensus among different political parties on the positive role played by the agreement with the Fund.

Macroeconomic performance

From a macroeconomic standpoint, the country has made remarkable progress. Although starting from an uncertain situation, the authorities have set the stage for average output growth exceeding 7 percent in the period 1999–2003. In 2003, GDP growth recovered from the previous year’s slowdown, reaching 6 percent, and it is forecast to maintain this trend over the coming years. Output growth has been mostly sustained by strong domestic demand but also by rapidly increasing exports. Merchandise export growth accelerated from 6 percent in 2002 to 19 percent in 2003.

The external position has been strengthened during 2003, reflecting positive developments in the trade balance and increased private remittances: the current account deficit is estimated to have fallen to 7.5 percent of GDP, overperforming the program target by one percentage point. The current account balance in 2004 is expected to remain unchanged with respect to 2003, thus surpassing the targeted goal by 0.6 percentage points of GDP.

Inflation has remained in the BoA target range of 2–4 percent, thanks to a firm monetary policy. As a symptom of increasing confidence, broad money composition is progressively shifting from cash holdings towards bank deposits (with an increase in the proportion of lek-denominated deposits). In 2004, subdued inflation pressures, improvement of the external position, and rising international reserves have allowed the central bank to gradually ease the monetary stance through three successive policy rate cuts.

Fiscal policy and debt position

Albania has made substantial progress towards achieving a sustainable public finance position over the recent years, reducing the overall fiscal deficit from more than 10 percent of GDP in 1998 to 4.5 percent in 2003. The ambitious target for 2003 fiscal revenue was not met but authorities promptly intervened to offset the revenue shortfall (1.2 percentage points of GDP) by cutting expenditures, allowing the fiscal balance to surpass the target value by 0.8 percent of GDP. The fiscal deficit is expected to decline further in the coming years, with a view to reaching 4 percent of GDP by 2007, and this will gradually increase national savings and facilitate the expansion of credit to the private sector. Authorities are confident that the ongoing reform in tax administration will produce substantial revenue gains. Nonetheless, they agree to allocate these gains to spending only after they materialize.

The debt to GDP ratio has been put on a declining path, decreasing from 76 percent in 1998 to 57 percent in 2003, and the authorities aim at further reducing the debt burden to 53 percent of GDP by 2007. Moreover, the authorities decided to devote at least half of all future large privatization proceeds to additional debt reduction. About 2/3 of the overall public debt is denominated in local currency. The staff sustainability analysis points to a stable public debt in most adverse scenarios, contingent on unvarying output growth and continued fiscal consolidation.

Structural reforms

The authorities’ main policy priority is to advance steadily with the structural reform agenda. Most structural reforms have recently regained momentum and it is acknowledged that it is appropriate to take advantage of the favorable macroeconomic situation to further speed up the reform drive and complete important restructurings that are still hindering the country’s performance.

The authorities are demonstrating their intention to push ahead with the privatization process. The recent sale of the Savings Bank to a private international investor was a major achievement and provided new impetus to the dynamic development of the banking sector. The proceeds from the sale have been allocated to the reduction of the debt and to capital spending. The government has recently approved modifications to the legal package for the sell-off of the state-controlled companies of fixed telephony and oil services, Albtelecom and AMRO. These modifications seek to enhance the transparency of the privatization process as well as to enable foreign strategic investors to buy the entire 76 percent stake of Albtelecom and at least 51 percent of AMRO shares. The improved legal framework provides for an open international tender and sets clear criteria for the evaluation process.

Progress continues to be made in the implementation of the energy sector reform. During the first six months of 2004, KESH has significantly expanded its electricity distribution network and expects to complete the installation of the remainder of the network by the end of the year, with financial assistance from Italy. Importantly, for more than 21 months, KESH has been able to meet all the economic and financial objectives agreed with the donor community.

Good progress also continues to be made in the implementation of financial sector reforms. In addition to the successful privatization of the Savings Bank, and the speedy implementation of the Supervisory Development Plan for improving banking supervision, a Deposit Insurance Agency has been set up and satisfactory progress is being achieved in implementing the Institutional Development Program, which aims to improve bankruptcy procedures and arrangements for secured financing.

Increased financial intermediation and the emergence of an efficient payments system are key for the development of a favorable economic environment, where savings are efficiently channeled to the corporate sector. Channeling transactions through the banking system is also instrumental for the reduction of the size of the informal economy and to improve law and tax enforcement. The authorities, the central bank and the banking and private business communities in Albania have recently agreed to work together with the World Bank Group in the framework of the so-called “Convergence” program to address these issues through a comprehensive set of initiatives. Moreover, it was recently decided to initiate arrangements for the payment of government wages through the banking system in order to facilitate financial intermediation and reduce the importance of cash transactions.

The authorities are aware that the improvement of the business climate is central to boost private-sector activity. They are therefore placing great importance on the reduction of administrative barriers to investment and business creation.

Since late-2003, a gradual modernization of the tax and customs administration as well as the expenditure management system has been initiated. The authorities are pushing ahead with a comprehensive reform agenda for the improvement of the fiscal policy framework, which includes tax revenue mobilization efforts, expenditure management enhancements and anti-corruption measures. The ongoing program to increase the use of information technology in this field aims at facilitating tax enforcement and reducing the scope for discretion. Cooperation with Italian statistics experts is already in place to improve national accounts methodology.

Significant other steps have also been taken to improve both the legal framework and its enforcement in the fight against organized crime and corruption. One of the main steps taken is the new anti–Mafia legal package, consisting of improvements in the current Criminal Code and amendments to the Code of Penal Procedures. A special draft law on measures against organized crime, trafficking, terrorism and corruption has also been prepared with foreign assistance. These measures are aimed at enhancing the efficiency of judicial bodies and other law enforcement agencies. Among the fundamental innovations of the new legislation is the provision for the imposition of sanctions in the form of the blocking and seizure of assets deriving from illegal activities. [Notable, too, is the progress made in eradicating human trafficking, no single instance having been identified or reported since 2003 by either the country’s police or by neighboring countries.]

The recent decision to introduce public-employee wage indexation has been made with the major aim of maintaining incentives to work in the public sector, in order to avoid quality employees fleeing to the private sector. The measure has been introduced against the backdrop of a low and declining inflation rate and a robust expansion in economic activity. It is therefore unlikely to have a significant adverse impact on the economy or the budget. The authorities are nevertheless aware of the possible longer-term negative effects of automatic wage indexation and for this reason they consider it a temporary measure.

Albania: Fourth Review Under the Three-Year Arrangement Under the Poverty Reduction and Growth Facility, Request for a Waiver of Nonobservance of Performance Criterion, and Financing Assurances Review
Author: International Monetary Fund