Republic of Kosovo: Second Reviews Under the Stand-By Arrangement and the Arrangement Under the Resilience and Sustainability Facility and Request for Modification of Reform Measure-Press Release; Staff Report; and Statement by the Executive Director for Republic of Kosovo
Author:
International Monetary Fund. European Dept.
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Publication Date:
04 Jun 2024
eISBN:
9798400277702
Language:
English
Keywords:
government deposit; program ownership; financial support; SBA financing; core inflation; Budget planning and preparation
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1. Kosovo’s economy continues to expand, but growth momentum has slowed. Negative spillovers from subdued growth in key trading partners and countries where the Kosovar diaspora is concentrated (e.g., Germany, Switzerland), are weighing on activity. Monetary policy tightening in the euro area has been gradually transmitting into higher interest rates in Kosovo’s fully-euroized economy. Lower energy and food prices have improved terms of trade and helped reduce inflation. The recent EU visa liberalization could affect the labor force and deepen skill shortages, resulting in lower medium-term growth.1 Based on the experience of other Western Balkan countries, the initial impact of visa liberalization may be moderate. However, Kosovo is already facing sizeable emigration outflows, which are a drag on potential growth. Parliamentary elections are scheduled to take place in early 2025.

Context

1. Kosovo’s economy continues to expand, but growth momentum has slowed. Negative spillovers from subdued growth in key trading partners and countries where the Kosovar diaspora is concentrated (e.g., Germany, Switzerland), are weighing on activity. Monetary policy tightening in the euro area has been gradually transmitting into higher interest rates in Kosovo’s fully-euroized economy. Lower energy and food prices have improved terms of trade and helped reduce inflation. The recent EU visa liberalization could affect the labor force and deepen skill shortages, resulting in lower medium-term growth.1 Based on the experience of other Western Balkan countries, the initial impact of visa liberalization may be moderate. However, Kosovo is already facing sizeable emigration outflows, which are a drag on potential growth. Parliamentary elections are scheduled to take place in early 2025.

A001fig1

Kosovo Emigration to the European Union

(EU new work permits issued, cummulative)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Eurostat and IMF staff calculations.

2. Developments in Kosovo’s northern municipalities continue. A positive development was mutual permission for entry of vehicles with Kosovo and Serbia license plates in the other respective jurisdiction, overcoming a long-standing matter. Adoption of a new regulation by the Central Bank of Kosovo (CBK) on cash operations may affect transfers from Serbia to Kosovo Serbs (A26). Next steps are being assessed, including in the context of EU-facilitated negotiations. An initiative on the status of mayors in the four northern municipalities did not advance, due to low voter turnout. The EU has not reversed 2023 measures to promote de-escalation.2

Recent Developments, Outlook, and Risks

A. Recent Developments

3. Growth slowed in 2023. Real GDP growth decelerated to 3.3 percent in 2023 from 4.3 percent in 2022, on the back of subdued external demand. Growth was mainly driven by private consumption, which was supported by strong growth of credit to the private sector and positive labor market conditions—including solid employment growth and higher real wages. Public investment (with record-high execution rates) also contributed positively. Although exports of services remained strong, supported by diaspora-related tourism, the contribution of net exports turned negative. Employment has continued to grow (3¾ percent in November y/y).

4. Inflation has declined markedly. After peaking at 14/ percent in mid-2022, headline inflation fell to 2 percent y/y in the first quarter of 2024, driven by falling energy and food prices. Core inflation, which peaked at almost 6 percent y/y in early 2023, declined to 2.8 percent in December. Average nominal wages increased by 11 percent y/y during the Q1-Q3:2023, driven by the public sector (15/ percent) due to implementation of the new law on public sector wages.

5. The external current account deficit (CAD) narrowed from 10¼ percent of GDP in 2022 to 7¾ percent of GDP in 2023. This was mostly driven by lower energy and food import prices and strong service exports, notably travel receipts. Remittances remained strong at about 14 percent of GDP. The CAD has continued to be financed mainly by foreign direct investment (FDI)— concentrated in real estate (65 percent). Foreign reserves reached about €1/ billion (92 percent of the ARA metric) by end-2023. The external position at end-2023 is assessed to be weaker than implied by fundamentals and desirable policy settings (Annex I).

6. The banking system remains sound. Banks are well capitalized—with ample provision coverage—highly liquid, and profitable. NPLs have remained low. Real credit growth has been robust, particularly household lending. Lending and deposit rates have inched up in line with ECB policy tightening, although the passthrough has been weak.

B. Outlook and Risks

7. Growth is projected to accelerate to 3.8 percent in 2024. Activity is expected to be driven by domestic absorption, mainly private consumption—fueled by higher real disposable income, supported by strong diaspora-related inflows and higher real wages. Public investment is projected to scale up, reflecting higher execution rates. Net exports will continue to be a drag on growth amid weak demand in advanced European economies and higher imports. A small negative output gap is expected to remain in 2024-25. Average annual inflation is expected to decline below 3 percent in 2024, converging to 2 percent by 2025, reflecting subdued import prices.

8. The CAD is projected to narrow gradually, financed primarily by non-debt creating flows. The CAD will remain broadly stable in 2024, with an improved trade balance of goods, a weaker balance of services, and still strong remittances. The CAD will continue to be financed mostly by FDI. Gross international reserves (GIR) are projected to reach almost €1.6 billion (92 percent of the ARA metric) by end 2024. Over the medium term, the CAD will continue to narrow gradually, with GIR projected to increase to near 100 percent of the ARA metric.

9. Public debt is assessed as sustainable, with a low risk of sovereign debt distress (Annex II). General government debt declined further to 17/ percent of GDP in 2023, including state guarantees of ¼ percent of GDP. Public debt is projected to rise over the medium term, reaching 26¼ percent of GDP by 2033, reflecting a scaling up of public investment needed to address large infrastructure gaps. These levels of public debt are comfortably below the authorities' fiscal rule ceiling of 40 percent of GDP.3 Given a strong fiscal institutional framework and a track record of prudent macroeconomic policies, gross financing needs are expected to remain manageable over the projection period.

10. Uncertainty is high with risks to the outlook tilted to the downside (Annex III).

  • External Risks. New commodity price spikes from geopolitical shocks—including from the Israel-Gaza conflict and the war in Ukraine—supply disruptions, or more persistent underlying inflation could prolong tight monetary conditions in the euro area. Higher commodity prices would adversely impact Kosovo through weaker terms of trade, higher inflation, lower private demand, and increased financing needs. More subdued activity in advanced European economies would reduce remittances, tourism, and FDI. Continued tightening of financial conditions could put pressure on banks' asset quality and affect private sector credit. Although the EU measures are not expected to impact growth significantly in the short term, if sustained over time they would affect medium-term financing and growth.

  • Domestic Risks. Risks from escalation of tensions in northern Kosovo could affect growth by lowering FDI, tourism, and donor support. An increase in domestic political polarization could delay parliament approval of external loans.4 Over the medium-term, an acceleration of emigration could lead to a shrinking labor force and worsening skill mismatches. On the upside, substantial progress in the dialogue with Serbia and the EU accession process could boost confidence, investment, and growth. "Near shoring” operations by European firms could also boost FDI.

11. In addition to a strong track record of prudent policies, Kosovo has sizeable buffers to mitigate shocks. These include low public debt, a liquid and well-capitalized banking system, the precautionary SBA, the existence of Emergency Liquidity Assistance (ELA), and the temporary Repo Line (€100 million) of the Central Bank of Kosovo (CBK) with the European Central Bank (ECB), recently extended through January 2025.

Program Performance and Policy Discussions

A. Stand-By Arrangement

The SBA has continued anchoring the authorities' rules-based fiscal framework and bolstering reforms to strengthen fiscal and financial governance. Reforms efforts focus on enhancing the quality of public financial management, boosting the effectiveness of public spending, and preserving gains from improved tax compliance. The SBA is expected to remain precautionary in the absence of exogenous shocks or weaker-than-expected budget financing.

12. Program implementation has been strong. All quantitative performance criteria (QPCs) and indicative targets (ITs) for end-December were met. QPCs for the overall fiscal balance and the stock of general government deposits at the CBK were fulfilled with comfortable margins. ITs on contingent budget allocations and the stock of government securities held by the CBK were also met. All ITs for March 2024 were also met. Structural benchmarks (SBs) for end-November 2023 were achieved. These include publication of a standalone fiscal risks assessment as part of the budget bundle, finalization of a draft new Law on Banks in line with FSSR recommendations, and issuance of a new CBK circular clarifying the role and responsibilities of its Supervisory and Executive Boards. The draft Law on Banks was submitted to parliament in May (SB, January 2024), following an extensive process of consultations with stakeholders, including the IMF.

Status of SBA Targets

(Millions of euros, unless otherwise indicated)

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1/ Defined as cumulative flows over the fiscal year 2/ Applies on a continuous basis 3/ Total budgetary contingent allocations as defined in the Technical Memorandum of Understanding

Fiscal Policies and Reforms

13. The fiscal outturn has overperformed program targets. The overall fiscal deficit amounted to 0.2 percent of GDP in 2023, well below the adjusted program limit of 2 percent of GDP. This was driven by strong tax collection (1 percentage point of GDP higher than in 2022), reflecting efforts to enhance compliance and solid activity. After increasing by 8 percent in 2023, tax revenue growth in real terms accelerated strongly in 2024Q1, reaching 15/ percent y/y.5 Strong tax revenue performance has been primarily driven by VAT and PIT. Moreover, Kosovo received grants from the EU energy support package amounting to €67.5 million (0.7 percent of GDP) in 2023. Meanwhile, public expenditures increased by 1 percentage points of GDP, mostly due to higher investment on the back of strong execution (70 percent of the budget allocation, compared to an average of 60 percent in previous years). However, public investment was still lower than programmed.6 Current spending remained broadly flat, with a reduction in subsidies and current transfers offsetting the increase in the wage bill due to implementation of the new public sector wage law (/ percent of GDP). In December, the government granted an across-the-board payment to children and pensioners (¾ percent of GDP) to compensate for higher living costs.7

A001fig2

Fiscal Balance Decomposition

(Percent of GDP)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

14. Public debt declined in 2023, amid a challenging financing environment. Two external budget support loans planned for 2023 did not materialize: a USD100 million from a World Bank DPO and USD40 million from the OPEC Fund for International Development (OFID). The World Bank operation was rescheduled for 2024; it was approved by the Bank's Board of Directors in March and is expected to be disbursed later this year. The OFID loan was initially extended through March and after several failed attempts for approval by parliament, it is still pending. Meanwhile, net domestic financing was negative (-€142 million), as planned domestic placement of government securities was affected by the lack of an operating Board of Directors at Kosovo's Pensions Savings Trust (KPST), since KPST cannot participate in the market without Board authorization.8 Against this background of negative net domestic financing and delayed foreign budget support loans, the government drew down its free-disposal deposits at the CBK to implement its fiscal plan (1.1 percent of GDP). In this context, public debt declined to 17/ percent of GDP from 20 percent in 2022.

15. The fiscal stance is expected to be moderately expansionary in 2024. The overall deficit is projected to widen to about 1/ percent of GDP in 2024, within the fiscal rule limits. 9 The small fiscal impulse is appropriate given the weaker growth momentum, moderate slack, and the marked decline in inflation. The higher deficit is mostly driven by lower grants and moderately higher expenditure. The latter mostly reflects the impact of the public sector wage law: (i) higher wage coefficients;10 (ii) base effects, as implementation of the law started in February 2023; and (iii) a recent Constitutional Court ruling repealing the transitional allowance cut envisaged for 2024 (A16). Public investment is also expected to increase on the back of continued strong execution. Interest payments are expected to increase moderately, as financing costs for the Treasury have risen in line with tightened financial conditions in the euro area. On the other hand, lower spending is expected from the delinking of war veterans' benefits from minimum wage increases and from the natural reduction in closed pension categories (war veterans and ex-contributory pensions).

Operations of the General Government 2022-24

(Percent of GDP)

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Sources: Kosovo Treasury and IMF staff estimates.
A001fig3

Treasury Borrowing Costs

(3-year notes average coupon, in percent)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

16. Recent Constitutional Court (CC) rulings have created additional fiscal costs and contingent liabilities. In January, the CC repealed several articles of the public sector wage law adopted last year. Among other provisions, the CC ruling repealed the reduction of the transitional allowance introduced to compensate employees facing a wage cut under the new public wage system. The allowance, which amounted to 100 percent of the gap between the old and new (lower) wages in 2023, had been reduced to 50 percent of this gap in 2024. The CC ruling against the reduction of the allowance has a fiscal cost of about 0.2 percent of GDP this year. Moreover, the CC repealed a past decision by ERO—Kosovo's energy regulator—in place during 2012-17, effectively increasing electricity bills for consumers across Kosovo to cover the cost of unpaid electricity in the four northern municipalities. The CC ruling stipulates the reimbursement of such overpayments to affected consumers.11 To implement this ruling, ERO adopted a decision envisaging a reduction of about €1 of monthly electricity payments during June 2024-October 2030 for all consumers that had overpaid in the period 2012-17.

17. Continued efforts to strengthen tax administration are needed to further enhance revenue mobilization. The Tax Administration of Kosovo (TAK) is implementing its action plan adopted last year, which aims to strengthen compliance. TAK is targeting high-income and nonfiler individuals providing services without proper records, through intense scrutiny and verification of income and assets using different sources of information. A risk-based approach for tax auditing is being implemented. TAK's digitalization efforts aim at strengthening tax compliance and accountability.12 However, introducing a modern IT system remains critical to ensure progress in reform implementation. The Fund is supporting TAK's efforts to design a modern data warehouse, with a view to accelerate a more data driven compliance approach. A new law on tax procedures came into force in January, simplifying rules for taxpayers' registration, introducing requirements for digital payment transactions, and improving the accuracy of the taxpayer registry. The law also shortens the period to amend filings and claim tax refunds, increases penalties for noncompliance, and reduces the threshold for non-bank transactions from €500 to €300. Finally, further efforts are needed to enforce tax debt collection aiming at reducing the stock of tax debt.13

A001fig4

Real Tax Revenues

(Y-o-y, 12-months moving average)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

18. The authorities continue to make efforts to strengthen tax policy frameworks. A new tax policy division has been created within the Ministry of Finance, Labor, and Transfers (MFLT), but staffing challenges remain substantial. The MFLT is preparing—with World Bank support—a review of tax expenditures and amendments to the Laws on Personal Income, Corporate Income, and Value Added Taxes, aimed at strengthening the equity of the tax system and improving revenue mobilization. The Fund is planning to provide technical assistance on tax policy analysis with a view to increase fairness and efficiency, including by strengthening PIT progressivity, reviewing business taxation, and aligning the CIT rate with the new EU harmonized global minimum rate. Expanding the tax base at the municipal level, particularly for property taxes, would also help mobilize revenues.

19. Continue strengthening public investment management (PIM) remains critical. A recent Public Investment Management Assessment (PIMA) update noted some progress, including enhanced budgeting practices for projects. Spending units are now required to include expropriation costs in project envelopes and are authorized to register multiannual commitments in the budget system. However, challenges remain, notably at the planning stage of the project cycle and during implementation. Reform priorities include strengthening the appraisal and review processes and creating a single prioritized pipeline of appraised projects covering all sectors and funding sources. A central PIM support function at the MoFLT could contribute to high-quality appraisals, strengthening the review estimates of capital expenditure in the budget, and monitoring of major projects. Efforts to strengthen public procurement frameworks are also ongoing. A new law, fully aligned with the EU Acquis, is planned to be submitted to parliament in the fourth quarter of this year.

20. The SBA has continued underpinning fiscal reforms and measures in other areas.

  • Unallocated Budgetary Reserves. The SBA has supported the reduction of discretionary budget reserves, with a view to strengthen transparency and accountability. Such reserves have been reduced from 3¾ percent of GDP in 2023 to 1 percent in GDP in the 2024 approved budget. Moreover, the government has started publishing the rationale, use, and impact of these reserves in the Treasury quarterly reports.

Uses of the Budgetary Reserves 2023

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Sources: Kosovo Annual Financial Report and IMF staff estimates.

  • Reserve Adequacy. Government deposits at the CBK play a key role in safeguarding an adequate level of reserves in Kosovo's unilaterally euroized economy. At end-2023, free-disposal deposits amounted to 2/ percent of GDP, down from 4 percent of GDP at end-2022.14 The authorities have expressed their commitment to gradually restore liquidity buffers.

Balance of Government Accounts at the CBK

(In million of euros)

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Sources: Treasury Annual Audited Reports and IMF staff estimates.

  • Fiscal Risks. The SBA is supporting the improvement of fiscal risk management. The authorities started to produce annual, standalone fiscal risks analyses as part of the budget documents (SB, end-November 2023). The analysis leverages on FAD's Fiscal Risks Assessment Tool (FRAT) to identify the main fiscal risks. It focuses on risks stemming from publicly owned enterprises (POEs), guarantees to sub-national governments, on-lending operations with service-provider public companies, public-private partnerships (PPPs), contingent costs from litigations, and more generally, from exogenous macroeconomic shocks affecting the budget's parameters. Going forward, the fiscal risk statement should be annexed to the Medium-term Expenditure Framework and updated in the budget documentation. Anchoring the fiscal risk statement in the Law on PFM (currently under preparation) would support its sustainability. A specialized Fiscal Risk Unit (FRU) has been created within the MFLT, which is already staffed. The new unit is primarily working on the identification and monitoring of fiscal risks, but it is expected that it will also propose strategies to cope with eventual materialization of these risks.15 The Fund is supporting the FRU with technical assistance.

  • POEs. Improving governance and management of publicly-owned enterprises (POEs) would strengthen transparency, improve the quality of public services, and limit fiscal risks. To enhance transparency, the government is publishing quarterly financial data on POE performance (including POE debt data) and will produce and publish annual financial reports (SB, June 2024). A new law creating a Sovereign Wealth Fund (SWF) was approved by parliament, aiming to enhance POE management and attract private investment.16 The SWF is designed as a holding controlling the assets of several profitable public enterprises.

21. The authorities’ program is fully financed. There are firm financing commitments in place for the next 12 months, with good financing prospects thereafter. The financing plan includes the already approved World Bank DPO (A14).17 Domestic debt issuance is expected to provide positive net financing, while government deposits at the CBK are programmed to increase to rebuild liquidity buffers. EU restrictive measures still in place do not affect the program’s financing as the baseline does not include EU budget support. An initial disbursement under the EU’s Growth Plan for the Western Balkans may be implemented by end-2024, but this is not included in the baseline.18 On April 19, Fitch Ratings assigned Kosovo a Long-Term Foreign-Currency Issuer Default Rating (IDR) of "BB- ", three notches below investment grade, with a stable outlook. This is Kosovo’s first ever sovereign credit risk assessment, which could help attract new potential foreign investors.19 However, tapping international bond markets is not envisaged in the baseline. Absent adverse exogenous shocks or lower-than-programmed external financing, the SBA is expected to remain precautionary.

Financing Requirements 2022-24

(In millions of euros)

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Sources: Kosovo Treasury and IMF staff projections.

Western Balkans: Sovereign Credit Ratings

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22. An adverse scenario illustrates the role of the SBA in smoothing the adjustment in case of a negative temporary shock materializes (Box 1). The downside scenario considers a 20 percent commodity price increase compared to the baseline. Staff’s simulations show that the negative terms-of-trade shock would lead to higher inflation, lower GDP growth, a widening output gap, lower fiscal revenues, and higher fiscal deficit and financing needs. Under these circumstances, SBA financing could facilitate an orderly adjustment and protect much-needed reserve buffers.20

Financial Sector Policies and Reforms

23. Financial soundness indicators remain strong. The Tier 1 capital ratio increased to 14.7 percent in February 2024 (up from 13.5 percent in end-2022), well above the regulatory minimum of 9 percent. Credit to the private sector in real terms has continued to grow at robust rates (10.6 percent y/y in February), with lending to households growing faster than lending to corporates (15.4 and 7.6 percent, respectively). Bank deposits have also been expanding (5 percent y/y in February). The liquidity ratio has declined slightly but remains high (23.7 percent in February). Profitability has remained high, with average return on assets at over 2/ percent in 2023. Bank lending rates have been on an upward trend since mid-2022 reflecting the ECB policy tightening although the passthrough has been moderate, with lending and deposit rates increasing by less than 1 percentage points each. NPLs have remained low at around 2 percent. However, tighter financial conditions may weigh on banks' asset quality and affect credit to households and corporates.

A001fig5

Contribution to Real Credit Growth

(Percent, y-o-y)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

24. Financial sector reforms supported by the SBA are progressing as planned.

  • Financial Sector Governance. The CBK finalized a draft Law on Banks aiming to improve bank licensing criteria, standardize operations, organization, and management, and strengthen recovery, resolution, and liquidation (SB, end-November 2023). The draft Law underwent public consultation in February and was submitted to Parliament in May (SB, end-January 2024). A new draft law on Law on Microfinance Institutions is being prepared, with support from the International Finance Corporation (IFC), with a view to sending it to parliament by end-2024. The CBK is working, with WB support, on a new draft Law on Payment Services in line with EU directives, which will be submitted to the government by June 2024. Finally, the authorities are working, with USAID support, to develop capital markets, including by designing the legal and regulatory framework for introducing capital markets in Kosovo.

  • CBKGovernance. The CBK is working on implementation of the recent Fund Safeguards Assessment recommendations, such as improving internal auditing (including by developing IT audit skills) and strengthening the CBK Charter. In January, two deputy governors were appointed, completing the Executive Board, in line with the new organizational structure approved in November 2023. The roles and responsibilities of the Supervisory Board, including procedures to structure information requests, confidentiality, and secrecy arrangements, were reviewed and new "Rules of Procedure” were issued (SB, end-November 2023).21 The CBK is working to enhance risk management, with the appointment of a new director of the risk management department and a new high level, inter-departmental Risk Committee, established in April. More efforts are needed to address cybersecurity challenges. IMF TA has continued supporting the CBK's reform efforts in these areas.

  • Monitoring Financial Stability Risks. The CBK is working to further strengthen its stress testing frameworks, with IMF support. The Statistical Agency (KAS), in collaboration with the CBK, has been developing a property-price index, supported by the IMF Statistics Department. A roadmap for this initiative has already been published (SB, end-September 2023). The Law on Cadaster of Immovable Property, approved by parliament in December 2023, will support the development of mortgage credit by lowering the risk of this lending type and will provide a useful source of data for the property-price index.

25. The authorities are working to address AML/CFT gaps. They are implementing changes to the AML/CFT legal framework and have prepared a concept document on the new law on AML/CFT, which aims at full compliance with the EU directives.22 To this end, the Law on Implementation of Targeted International Financial Sanctions was adopted in 2023 and the draft Law on Beneficial Ownership Registry—which passed the first reading in Parliament in February—is expected to be approved by mid-2024. In addition, the authorities have updated the National Risk Assessment.23

26. The CBK has adopted a new regulation on cash operations. The regulation aims to enhance the payments system, tighten control of currency in circulation, protect the integrity of the financial system, fight against counterfeit money, and combat money laundering and financing of terrorism. It enforces the constitutional mandate of using only the euro as legal tender and bans the operation of financial institutions not licensed by the CBK. It also prohibits the circulation of €500 banknotes to discourage large cash transactions. By limiting the use of the Serbian dinar, the regulation may impact Kosovo Serbs, who receive wages, pensions, and other transfers from Serbia in dinars. Negotiations with Serbia—facilitated by the EU—are ongoing, to find a solution to ensure that Kosovo Serbs continue to receive financial support from Serbia in a way that is consistent with the new CBK regulation.

B. Resilience and Sustainability Facility

RSF ownership has been strong. Reform efforts have focused on strengthening the regulatory framework, mobilizing private capital, expanding green electricity generation, improving the efficiency of energy markets, and reducing air pollution and emissions. The RSF has proved instrumental in supporting the authorities' ambitious green agenda, envisaged in the 2022-31 Energy Strategy.

27. Implementation of reforms supported by the RSF has been strong. RM1 (end October) was implemented timely. A 2024 budget consistent with RSF objectives (allocation for expansion of renewable energy and implementation of a new definition of vulnerable consumers) was submitted to Parliament in October (¶29),24 while Kosovo Energy Corporation (KEK)'s budget plan includes a contingent allocation of €12.5 million to complement EU financing for the installation of the filters in Kosova B power plant (¶32). RM4 (end-March) and RM8 (end-March) were completed in April (¶33 and ¶34, respectively), while RM2 has been rescheduled from end-June to mid-October (¶29), to reflect the updated timeline agreed between the government and IFC (the new transaction advisor). RSF reforms have been instrumental to making progress towards the ambitious targets outlined in Kosovo's Energy Strategy for 2022-31.25

28. A law promoting the use of renewable energy sources was approved by Parliament. The law, fully transposing EU directives, was approved April 8. The law seeks to modernize the energy sector, reducing carbon intensity and increasing energy efficiency. It establishes a general framework to attract private capital into renewable energy using competitive auctions, regulates the use of PPPs to expand green energy capacity, and establishes market prices as the reference for regulatory purposes, among other provisions. The law also sets the grounds for feed-in premiums and feed-in tariffs, among other schemes, and provides benefits to wind, solar, biomass, biogas, and geothermal energy generation.

29. Tangible progress is being made to expand green energy generation capacity. Kosovo's energy strategy aims to increase the share of renewable energy to at least 35 percent by 2031 (from about 9 percent in 2023). The RSF is contributing to progress towards this goal, as well as to achieving higher energy security and the phasing out of coal-based power generation.

  • The Ministry of Economy has successfully concluded the first competitive auction to construct and operate a 100 MW solar photovoltaic (PV) plant in Rahovec, with USAID support.26 Six companies (from Egypt, France, Germany, Turkiye, and Switzerland) submitted bids, with five shortlisted for an e-auction held March 29. The winner was a consortium led by a Swiss construction company, which offered the lowest price (€48.88 per MWh, well below the ceiling price of €75 per MWh). The winner plans to invest about €70 million and will be awarded a 30year concession contract and a 15-year power-purchase agreement—the first of its kind established under a competitive mechanism in Kosovo. The additional solar energy generation capacity is expected to be in place by 2026.

  • Building on lessons learned from this first solar auction, the government is planning to launch a first competitive auction for 150 MW of wind generation (RM2, rescheduled to mid-October from end-June 2024). The Ministry of Economy, with continued assistance from USAID, has signed an agreement with IFC to support the process as transaction advisor. This will help implement the auction and increase the credibility of the project, making it more attractive for potential foreign investors. To implement this project, the authorities have committed resources for about €70 million to attract private capital into wind-based generation through a PPP. The 2024 budget includes a below-the-line allocation in a sub-account of the Treasury Single Account to this end and defines that these resources will be transferred to the entity holding the state's stake in the project (RM1, end-October 2023). All relevant technical documents are expected to be presented to the PPP Committee by August, defining the entity that will hold the state's share on the PPP. Upon PPP Committee approval, the government will launch an open, transparent, and competitive tender to select the PPP private partner by mid-October. The RM2 due date has been rescheduled and aligned with the timeline agreed between the government and IFC.

  • Procurement for the installation of 100 MW of additional solar electricity generation capacity on KEK property—with total financing of about €105 million—is planned to start in June. Financing includes a loan from KfW (€29 million), a European Investment Bank (EIB) loan (€33 million), and a grant (€32 million) channeled through the EU's Western Balkans Investment Framework (WBIF).27 Upon completion, the new plant is expected to produce around 169 GWh of electricity and displace 174,000 tons of CO2 per year.

30. The Albanian Power Exchange (ALPEX) is now fully operating under the market coupling mode.28 On January 31, ALPEX launched day-ahead auctions in market-coupling mode for the two bidding zones (Albania and Kosovo).29 Work on the introduction of an intraday wholesale electricity market is underway. As the market gains depth and liquidity, market-determined reference prices would gradually replace those set by ERO in the competitive auctions to attract private capital to renewable energy generation. This process would benefit from increased regional integration. To this end, the ERO has signed a memorandum of understanding with Greece's and North Macedonia's power operators aiming to establish a regional day-ahead electricity market coupling. These initiatives and achievements will strengthen regional integration and promote competition in electricity markets, essential to attract private investment.30

31. Further efforts are required to substantially increase energy efficiency. Households account for 40 percent of overall energy consumption in Kosovo, compared to 14 percent, on average, in EU countries. Lack of insulation in residential buildings, and inefficient and often obsolete heating systems are the primary sources of high energy intensity. To tackle this problem, the Kosovo Energy Efficiency Fund (KEEF), supported by EU IPA funds and in partnership with municipalities, is implementing energy savings programs in social multi-apartment buildings. These include subsidies to support the improvement of exterior and roof thermal insulation, installation of efficient heating systems, and installation of LED lighting. Previously, similar programs were implemented in private residences. A new law of energy efficiency, aiming to strengthen the role of the KEEF, is expected to be submitted to parliament later this year.

A001fig7

Energy Consumption by Sector

(In percent)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

32. Actions to improve air quality continue, although significant challenges remain. Air quality in Kosovo is among the lowest in Europe, with ambient air concentrations of particulate matter with a diameter of 2.5 micrometers or less (PM2.5) about four times higher than recommended WHO guidelines. This is mostly due to the high dependance (over 90 percent) on two old and inefficient coal-fired thermal power plants (Kosova A and B) for energy generation.31 To reduce emissions, KEK has planned the replacement of the dust filters in Kosova B, which would substantially reduce air pollution.32 EU funding for the project, amounting to €76.4 million, has been secured, while KEK's 2024 budget includes a contingent allocation of €12.5 million (RM1, end-October 2023). However, the project—originally planned for 2024—has been delayed to 2025 due to problems with the consortium that will implement it.33 A investment project (of about €50-60 million) for the modernization and rehabilitation of two KEK plants—including modernization of turbines, cooling towers, and heaters—is planned for 2025, aiming to reduce emissions and increase production capacity. KEK is also planning a project to reduce sulphur oxides (SOx), expected to start in 2026 and financed by IPA funds (with a total investment of €96 million).

33. A technical working group has prepared, with IMF support, a report assessing the impact of a gradual recognition of the negative externalities of brown energy. The working group is led by staff from the Ministry of Environment, Spatial Planning, and Infrastructure, and includes representatives from the Ministries of Finance, Labor, and Transfers; Economy; and Industry, Entrepreneurship, and Trade; as well as from KOSTT and KEK. The working group used the IMF's CPAT to assess the possible impact of a gradual recognition of the negative externalities of brown energy use and examine the impact of the upcoming implementation of the EU carbon border adjustment mechanism (CBAM). The IMF has provided extensive TA on use of CPAT. A report— describing alternative scenarios and policy options—was presented to Cabinet in April (RM4, endMarch 2024).

34. The CBK is contributing to the green agenda, with efforts on greening the financial system. In April, the CBK issued instruction to banks to standardize practices to monitor and report data (with an implementation timeline) related to climate risks, on firms that may be exposed to CBAM-transition costs (RM8, end-March 2024). This will help identify energy transition costs in Kosovo's banking sector. Moreover, to better manage environmental and climate-related risks arising from the banking sector, the CBK—in collaboration with the WB—is working to strengthen the regulatory and supervision framework. In December, the CBK became a member of the Sustainable Banking and Finance Network (SBFN) to advance its sustainable finance practices and has also requested membership in the Network of Central Banks and Supervisors for Greening the Financial System (NGFS).

A001fig8

RSF—Phasing of Reform Measures

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

35. Proper implementation of C-PIMA recommendations will be important to supporting the green transition. Key recommendations include: (i) embedding a climate perspective in the appraisal and selection of capital projects; (ii) strengthening the linkages between the Climate Change Strategy and sectoral and spatial plans; and (iii) managing climate risks.34 While the authorities plan to start integrating climate planning into PIM frameworks by implementing C-PIMA recommendations, implementation is still at an early stage, and they are evaluating how to best prioritize the recommended measures. The World Bank's Country Climate and Development Report (CCDR), expected to provide a holistic assessment of climate change mitigation and adaptation challenges and priorities, should be finalized in 2024.

Program Issues

36. The SBA remains on track. End-December QPCs on the overall fiscal balance and general government deposits at the CBK were met by large margins, with ITs on contingent budget allocations and the stock of government securities held by the CBK also fulfilled. All ITs for March 2024 were also met. SBs for end-November 2023 (publication of a standalone fiscal risks assessment as part of the budget bundle; finalization of a draft new Law on Banks in line with FSSR recommendations; and issuance of a new CBK circular clarifying the role and responsibilities of the Supervisory and Executive Boards) were implemented. The draft Law on Banks was submitted to parliament in May (SB, January 2024). The TMU has updated the IT on discretionary budget allocations to reflect the 2024 approved budget figures. Other macroeconomic assumptions required to monitor the program have also been updated.

37. RSF program implementation remains strong. The RM for the second review (RM1, end-October) was timely met: the 2024 budget law ringfenced RSF resources to cover the State's stake in the wind-energy generation PPP and included a new definition of vulnerable consumers, while KEK's budget included a €12.5 million allocation for the installation of the filters. Preparation of a report assessing the implications of EU CBAM implementation for Kosovo using CPAT (RM4, end-March), and CBK issuance of new instructions defining practices for banks to monitor and report data on firms exposed to transition costs (RM8, end-March), were both implemented in April. RM2, associated with the launching of a competitive auction for 150 MW of wind-based electricity generation, has been rescheduled from end-June to mid-October 2024, in line with the revised timeframe agreed between the government and IFC—the new transaction advisor.

38. The authorities have indicated that they plan to continue treating the SBA as precautionary. Subject to the approval by the IMF Executive Board, the completion of the second reviews will make available an additional SDR 13.354 million (about €16.5 million) under the SBA and SDR 7.744 million (about €9.5 million) under the RSF.

39. Kosovo’s capacity to repay the Fund remains adequate. As of February 2024, Kosovo has 68.75 percent of quota outstanding, after drawing on the Rapid Financing Instrument in April 2020 and the ongoing RSF. If the full amount of the SBA is purchased, Kosovo's stock of outstanding debt to the IMF would peak in 2024 at 1.1 percent of GDP while debt service would peak in 2027 at ¼ percent of GDP (Table 8). Risks revolve around adverse external shocks and are mitigated by Kosovo's strong track record of implementing prudent policies and repaying the Fund and by low risk of sovereign debt distress.

Statistics

40. The authorities are making efforts to improve the quality of national statistics, but challenges remain.

  • National Accounts. The IMF Statistics Department (STA) and other agencies have been supporting KAS to strengthen national accounts compilation systems. Pending tasks include the implementation of proper reconciliation between quarterly and annual figures of GDP and components. Further efforts are needed to develop adequate price indices required to compute volume estimates of value added in several NACE sectors.35

  • Government Finance. The Treasury has also made progress—with assistance from STA—on reporting under the GFSM 2014 but work on fully integrating stocks and flows is still ongoing. Further efforts are needed to produce fiscal accounts on an accrual basis. In the meantime, more frequent reporting of accounts payable is important to properly gauge the fiscal position under the current cash accounting reporting standards.36

Staff Appraisal

41. Activity is growing and inflation has receded, but lingering risks remain. Growth is expected to accelerate in 2024, supported by strong private consumption—fueled by higher real disposable income—and public investment. Robust diaspora-related inflows, a scale up in public investment execution, and the implementation of the authorities' green agenda are expected to sustain growth over the medium term. Average annual inflation is expected to remain below 3 percent in 2024, on the back of lower import prices. However, uncertainty remains high with risks tilted to the downside. These include commodity price spikes due to geopolitical tensions, weaker activity in advanced European economies, an escalation of tensions in northern Kosovo, and increased domestic political polarization. Higher interest rates in the Eurozone are gradually being transmitted into higher bank lending rates and financing costs for the Treasury. The impact of the EU visa liberalization appears to be limited in the short term but continued emigration flows— especially of young, educated segments of the population—would exacerbate labor and skill shortages, hurting medium-term growth.

42. The SBA has continued to anchor prudent macroeconomic policies. Fiscal policy is projected to provide a moderate stimulus in 2024, which is appropriate given the growth slowdown, moderate slack, the marked decline in inflation, and low levels of public debt. The SBA has supported the reduction of budgetary discretionary reserves, which helps strengthen transparency and accountability, and an increase in public investment. Rebuilding government liquidity buffers will be important to safeguard an adequate level of reserves in Kosovo's fully-euroized economy. Foreign reserves are projected to range between 95 and 100 percent of the IMF ARA metric over the medium term.

43. The SBA is supporting structural reforms to strengthen fiscal and financial sector governance. Progress has been made in strengthening tax administration and managing fiscal risks. Further enhancing public investment management frameworks remains critical. The new Law on Banks should provide a modern regulatory framework for the financial system. The CBK is advancing an ambitious institutional and governance reform agenda. Measures to support digitalization, promote financial inclusion, strengthen AML/CFT frameworks, and introduce greener considerations in the supervisory toolkit will help strengthen CBK capacities and operations.

44. The RSF is delivering strong results, supporting implementation of the authorities’ ambitious green agenda. The RSF has supported reforms to strengthen the regulatory framework and increased policy space to attract private investment into green energy. Good progress is being made to expand green energy generation capacity. Steps are being taken to strengthen regional integration and promote competition in electricity markets, essential to attract private investment. Reducing emissions and air pollution, enhancing energy security, improving targeting of energy subsidies, and increasing preparedness for implementation of carbon pricing are also important goals.

45. The authorities’ program ownership remains strong. All QPCs and ITs for the second review have been met. SBA and RSF structural conditionality have been implemented as planned and policies required for the next reviews are progressing. Given expected financing flows for 20242025, the authorities intend to continue treating the SBA as precautionary but may decide to purchase if an adverse shock materializes.

46. Staff supports the authorities’ request for completion of the second reviews under the SBA and RSF arrangements and the proposed modification of an RSF reform measure. Based on strong macroeconomic performance, good progress on the implementation of structural reforms agreed under the SBA and RSF, and continued strong program ownership, staff supports the completion of the second reviews. Staff also supports the modification of the timeline for implementing RM2.

Figure 1.
Figure 1.

Kosovo: Real Sector Developments

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Haver Analytics, Ministry of Finance, Labor, and Transfers, Kosovo Agency of Statistics, Central Bank of Kosovo, Ministry of Internal Affairs (Police Border Control), World Economic Outlook, and IMF staff estimates.
Figure 2.
Figure 2.

Kosovo: Fiscal Developments

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Ministry of Finance, Labor, and Transfers, Central Bank of Kosovo, and IMF staff calculations.
Figure 3.
Figure 3.

Kosovo: External Sector Developments

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Haver Analytics, Kosovo Agency of Statistics, Ministry of Finance, Labor, and Transfers, World Economic Outlook. and IMF staff estimates.1/ Government deposits are net of holdings of government securities. Other deposits include transferable deposits, deposit insurance fund deposits, insurance companies deposits etc.
Figure 4.
Figure 4.

Kosovo: Financial Sector Developments

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Central Bank of Kosovo and IMF staff estimates.

An Illustrative Adverse Scenario

Kosovo, a net importer of energy and food, is exposed to international commodity price shocks. The external environment remains highly uncertain, dominated by risks stemming from geopolitical tensions, including from conflicts in Ukraine, Gaza, and the Red Sea. Geopolitical shocks could trigger a new spike in energy prices, which could in turn cause higher food prices. For Kosovo, this scenario would imply a negative terms of trade shock.

To assess the possible impact of these shocks, staff has prepared an illustrative adverse scenario. It considers an increase in international energy and food prices of 20 percent vis-a-vis the baseline. The scenario assumes that commodity prices begin to gradually recover, while staying higher than in the baseline until 2028.

Kosovo's economy would be negatively affected in such an adverse scenario. The terms-of-trade shock would lead to higher inflation, lower GDP growth, a widening output gap, lower fiscal revenues, and higher fiscal and external financing needs. The largest negative impact would occur in 2024, when GDP growth would be about 1½ pp below the baseline. This would affect fiscal revenues, which would be lower than in the baseline by about ½ pp of GDP in 2024-25. This would create additional financing needs of about €50 million per year in 2024-25. Absent new sources of financing, either a fiscal adjustment of similar magnitude (in the past through lower investment) or a reduction of government liquidity buffers would be needed. The latter would also imply lower international reserves, which are critically needed to maintain financial stability in Kosovo’s fully-euroized economy.

Under such circumstances, access to SBA financing would mitigate a costly adjustment and/or loss of reserves. Staff would recommend letting automatic stabilizers operate and a higher fiscal deficit. SBA purchases would allow GIR to remain at levels around 95 percent of the ARA metric, while protecting public investment and social spending.

Box 1. Figure 1.
Box 1. Figure 1.

Illustrative Adverse Scenario. Main Macroeconomic Variables

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: IMF staff calculations and Kosovo authorities.
Table 1.

Kosovo: Selected Economic Indicators, 2019-29

(Percent, unless otherwise indicated)

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Sources: Kosovo authorities and IMF staff estimates and projections. 1/ Consumption and Investment include contribution from change in statistical error 2/ The “fiscal rule” caps the overall fiscal deficit at 2 percent of GDP, excluding investment financed with privatization receipts and donor financing contracted after 2015, as well as PAK-related current expenditure; the IMF calculates expenditures from carried-forward own-source revenue (OSR) as the difference in the municipal OSR stock. 3/ It does not include contigent debt of former Yugoslavia. 4/ Total foreign assistance excluding capital transfers.
Table 2.

Kosovo: Consolidated Government Budget, 2019-29 (Euro million)1

(Including donor designated grants and PAK operations)

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Sources: Kosovo authorities and IMF staff estimates and projections. 1/ It does not yet reflect the GFSM 2014 methodology. 2/ The “fiscal rule" caps the overall fiscal deficit at 2 percent of GDP, excluding investment financed with privatization receipts and donor financing contracted after 2015, as well as PAK-related current expenditure; the IMF calculates expenditures from carried-forward own-source revenue (OSR) as the difference in the municipal OSR stock. 3/ Excludes DDGs, revenues held in trust, and additional net PAK expenditure. 4/ The stock of public debt no longer includes the former Yugoslavia debt, which has been reclassified as a contingent liability. Beginning in 2020, it includes Euro 120 million of debt with KPST.
Table 3.

Kosovo: Consolidated Government Budget, 2019-29 (Percent of GDP)1

(Including donor designated grants and PAK operations)

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Sources: Kosovo authorities and IMF staff estimates and projections. 1/ It does not yet reflect the GFSM 2014 methodology. 2/ The "fiscal rule" caps the overall fiscal deficit at 2 percent of GDP, excluding investment financed with privatization receipts and donor financing contracted after 2015, as well as PAK-related current expenditure; the IMF calculates expenditures from carried-forward own-source revenue (OSR) as the difference in the municipal OSR stock. 3/ Excludes DDGs, revenues held in trust, and additional net PAK expenditure. 4/ The stock of public debt no longer includes the former Yugoslavia debt, which has been reclassified as a contingent liability. Beginning in 2020, it includes Euro 120 million of debt with KPST.
Table 4.

Kosovo: Central Government Cashflow Table 2019-29

(Millions of euros, unless otherwise indicated)

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Sources: Kosovo authorities and IMF staff estimates and projections.
Table 5a.

Kosovo: Program Monitoring—External Financing Requirements and Sources 2019-29

(Millions of euros, unless otherwise indicated)

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Sources: Kosovo authorities and IMF staff estimates and projections.
Table 5b.

Kosovo: Balance of Payments 2019-29

(Millions of euros, unless otherwise indicated)

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Sources: Kosovo authorities and IMF staff estimates and projections. 1/ Errors and omissions are thought to be mostly comprised of unidentified private remittances and unidentified FDI. 2/ The former Yugoslavia debt has been reclassified as a contingent liability and is no longer included in the stock of public debt. 3/ CBK's NFA and GIR data exclude CBK’s holdings of domestic government securities.
Table 6.

Kosovo: Central Bank and Commercial Bank Survey, 2019-29

(Millions of euros, unless otherwise indicated)

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Sources: Kosovo authorities and IMF staff estimates and projections. 1/ Includes shares and other equity. 2/ Includes shares, other equity, and deposits from central government, local governments and POEs.
Table 7.

Kosovo: Selected Financial Soundness Indicators, 2019-23

(Percent, unless otherwise indicated)

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Source: Central Bank of the Republic of Kosovo. 1/ Includes all other depository corporations.
Table 8.

Kosovo: Indicators of Fund Credit, 2022-48

(In millions of SDR, unless otherwise indicated)

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Source: IMF staff estimates and projections. 1/ Based on the projection as of April 25, 2024. Charges and interest calculations are preliminary. It includes prospective purchases under the precautionary SBA. Kosovo belongs to the RST interest group C. Based on the RST rate of interest of 5.028 percent as of April 25, 2024.
Table 9.

Kosovo: SBA Quantitative Performance Criteria, 2023-25

(Millions of euros, unless otherwise indicated)

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1/ Defined as cumulative flows over the fiscal year 2/ Applies on a continuous basis 3/ Defined as total budgetary contingent allocations; applies on a continuous basis. For details see the Technical Memorandum of Understanding.
Table 10.

Kosovo: Prior Actions and Structural Benchmarks Under the SBA

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Table 11.

Kosovo: Reform Measures Under the RSF

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Table 12.

Kosovo: Schedule of Reviews and Purchases/Disbursements Under the SBA and RSF

(Amount of purchase/disbursement)

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Source: IMF staff estimates. 1/ The authorities indicated that they do not intend to make these purchases unless unexpected financing gaps arise.

Annex I. External Sector Assessment

The current account deficit narrowed in 2023, driven mostly by lower food and energy import prices and strong services exports. The deficit was mainly financed by continued FDI in real estate and unrecorded travel credits and remittances (reflected in errors and omissions). The external position is assessed to be weaker than the level implied by fundamentals and desirable policies in 2023. At 92 percent of the IMF's reserve adequacy (RA) metric, the level of gross international reserves in 2023 is considered broadly adequate.

External Balance

1. Kosovo’s current account deficit narrowed to 7.7 percent of GDP in 2023 from 10.3 percent in 2022. Concretely:

  • The goods trade deficit narrowed by 0.6 pp of GDP due to lower energy and food prices. Goods imports declined by 2 pp of GDP, driven by the decline in imports of food, electricity, and mineral products. Other imports increased by 1.1 pp of GDP in 2023. Exports of goods decreased by 1/ pp of GDP due to a decline in exports of minerals, base metals, and furniture. Following a 20-month closure due to high electricity prices, nickel production resumed in June 2023, but the producer abstained from immediate exports, opting to build up stocks due to unfavorable export prices. Moreover, mattress exports declined by around 50 percent in 2023, primarily due to reduced demand.

A001fig14

Contributions to the Current Account Balance

(Percent of GDP)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: Haver Analytics and IMF staff calculations.

  • The net balance of services improved by 1/ pp of GDP. This was driven by higher travel credits (which account for three-fourths of total exports of services) and exports of telecommunication and IT services.

  • The primary income balance improved by 0.4 pp of GDP and the secondary income balance improved by 0.1 pp of GDP compared to 2022. The improvement in primary balance was driven by higher net compensation of employees (0.3 pp of GDP), and a slight improvement in net investment income (0.1 pp of GDP).

2. The current account deficit in 2023 was mainly financed by FDI and unrecorded travel credits and remittances as reflected in errors and omissions. More specifically:

  • Net FDI inflows are estimated at 6.5 percent of GDP in 2023, slightly down from 6.8 percent of GDP in 2022, due to a slowdown in diaspora real estate investments.

  • Net portfolio investment showed net outflows estimated at 4.6 percent of GDP in 2023, compared to 1.5 percent of GDP in 2022, mainly attributed to the increase in KPST's and other depository corporations' external investments, given the limited domestic government bond issuance in 2023.

  • Net other investment showed net inflows of 2.1 percent of GDP in 2023, reflecting net loan and trade credit inflows.

  • Errors and omissions amounted to 2.6 percent of GDP in 2023, reflecting unrecorded inflows of FDI, travel credits and remittances.

3. The Net International Investment Position (NIIP) improved slightly, (0.9 pp of GDP) in 2023, in line with the narrowed current account deficit and an increase in external assets.

4. In the medium term, the current account deficit is projected to narrow gradually, with declining imports and increasing exports in percent of GDP. The goods trade deficit is expected to continue offsetting services trade surpluses. The NIIP is projected to decline in the medium term, mainly due to expected increase in net foreign direct investment.

Assessment of the External Position

5. Kosovo’s external position in 2023 is assessed to be weaker than the norm implied by medium-term fundamentals and desirable policy settings. The current account model suggests that in 2023 the cyclically adjusted current account balance of -7.7 percent of GDP is more negative than the model-derived cyclically adjusted norm of -4.7 percent of GDP, yielding a current account gap of -3 percentage points of GDP, which is equivalent to a REER overvaluation of about 10 percent of GDP.1 Like previous assessments, a significant portion of the current account gap is attributed to model residuals. These may mirror unaccounted factors, such as substantial errors and omissions in the balance of payments, totaling approximately 2.6 percent of GDP in 2023, which mostly reflect unrecorded exports of services and remittances, signaling an overestimation of the size of the current account gap.

Annex I. Table 1.

Kosovo: EBA-Lite Model Results (2023)

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Reserve Adequacy Assessment

6. Gross international reserves (GIR)—mainly funded by commercial bank reserves and government deposits—increased to €1.45 billion in 2023 from €1.37 billion in 2022. Government deposits declined by €75 million to €345 million by end-2023, with commercial banks' reserves stable around €590 million. KPST deposits increased to €152 million by end-2023 from €29 million in 2022 and PAK deposits remained unchanged, at €166 million.

7. Kosovo’s GIR adequacy assessment, presented in Table 2, uses standard and alternative GIR definitions as follows:

  • Standard definition: GIR include the sum of nonresidents' currency and deposits, securities, monetary gold and SDR, reserve position in the Fund, and other items.

  • CBK's definition: Standard GIR net of PAK and KPST deposits.

  • Staff's alternative definition: Standard GIR net of banks' excess reserves.

8. GIR, using standard rules of thumb, are estimated to have remained broadly stable in 2023. Standard GIR remained stable at 2.4 months of (next year's) imports in 2023. Over the medium term, Kosovo's GIR are expected to converge to around 2.8 months of next year's imports and to increase in percent of short-term external debt.

Annex I. Table 2.

Kosovo: Traditional Reserve Adequacy Ratios

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Source: IMF staff calculations.

9. GIR amounted to 92 percent of the IMF standard RA metric at end-2023 and are projected to increase to 98 percent in the medium term.2 IMF (2011) suggests the following reserve adequacy (RA) metric for an economy with fixed exchange rate:

RA = 10% X + 30% STD + 10% BM + 20% OPL

Where X is export revenues, STD is short-term external debt, BM is broad money and OPL is other external liabilities. Table 3 shows the path of standard GIR, GIR using a more conservative measure excluding KPST and PAK deposits, and an alternative measure excluding the excess reserves. In addition, a modified RA metric is used to reflect Kosovo's reliance on remittance inflows (R) and to account for the risk of domestic deposit (D) outflows in a euroized economy. GIR are expected to increase to 98 percent of standard RA metric by 2028-29. GIRs would also increase over the medium term in terms of the modified RA metric as well as based on the more conservative measure excluding KPST and PAK deposits.

10. While reserve adequacy metrics using the alternative GIR measure excluding excess reserves are projected to slightly deteriorate in the medium term, Kosovo has shown capacity to absorb a moderate fiscal financing or bank liquidity shock. As a euroized economy lacking a lender of last resort, reserve adequacy should also be assessed by capacity to mitigate shocks to fiscal financing and for bank emergency liquidity assistance (ELA).

  • Fiscal Buffers. Government deposits at the CBK (excluding PAK deposits) stood at €345 million at end-2023, down from €420 million at end-2022, sufficient for 1.3 months of projected expenditure plus debt amortization in 2023. This is higher than the suggested benchmark of one-month government spending proposed in IMF (2013).3 In addition, PAK deposits placed at the CBK (€165 million as of end-2023) are also government assets.

  • Bank Liquidity Buffers. Kosovo's banks generally have high liquidity ratios, and it is expected that the largest banks would receive liquidity support from their parent groups in emergency times. However, banks' ability to respond to a system-wide liquidity shock could be limited by: (i) some liquid assets are in the form of Kosovo government bonds, which may not be immediately tradable in case of substantial stress; and (ii) the coverage of deposit insurance is not high enough to substantially reduce the risks of bank runs. The CBK's GIRs excluding commercial banks' deposits are about 18 percent of banks' short-term liabilities as of end-2023, which should be sufficient to absorb a moderate to severe liquidity shock. In addition, the €100 million repo line of the CBK with the ECB was extended through end-January 2025.4 Moreover, efforts have been made to enhance banks' crisis preparedness and monitoring of banks' liquidity risks. The CBK is reviewing the size of ELA and considering options to strengthen the available financing pool for deposit insurance purposes.

Annex I. Table 3.

Kosovo: Reserve Adequacy Metrics for Euroized Economies

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Source: IMF staff calculations. Notes: Standard GIR = CBK Foreign Assets excluding IMF Quota + Reserve Position in the IMF Conservative GIR = Standard GIR - CBK Liabilities with PAK & Pension Funds RA metric = 10%*M2 + 30*ST External Debt + 10%*Exports ■ 20%*Other External Liabilities RA modified metric = 15%*M2 + 30*ST External Debt + 10%*Exports +20%*Other External Liabilities+ 10%*Remittances

11. Under an adverse scenario (and assuming no use of IMF financing), standard GIRs as a share of the RA metric will be below 95 percent during 2024-29. The lower projected GIRs in the adverse scenario reflect the larger fiscal and current account deficits in 2024-25 that would be financed by reserve assets.

Annex II. Application of the Sovereign Risk and Debt Sustainability Framework

A. Assessment

1. Under the baseline scenario, public debt is sustainable and at low risk of sovereign stress. Public debt is projected to rise moderately (by about 9 percent of GDP) over the mediumterm, reaching 26¼ percent of GDP by 2033, significantly below the fiscal rule limit of 40 percent of GDP.1 Policies are firmly backed on fiscal rules, and Kosovo has a proven track record of sound macroeconomic policies.

B. Background

2. Kosovo’s public debt is well below its limit of 40 percent of GDP. Public debt fell from 20 percent of GDP in 2022 to 17½ percent of GDP in 2023. Lack of external budget support and restrictions in the domestic securities market resulted in the need to drawdown free-disposal Treasury deposits at the CBK to meet the authorities' spending program needs.2 Thus, free disposal deposits declined from 4 percent of GDP in 2022 to 2½ percent of GDP in 2023.3 Kosovo's public debt includes of consolidated general government debt and guarantees. External debt (about 40 percent of total debt) mainly comprises liabilities to the World Bank and European Union institutions. Domestic debt (57½ percent of total debt) comprises Treasury notes with maturities between 3-7 years held by the pension fund (46 percent), banks (24 percent), and other public institutions (22 percent). Treasury guarantees to the EBRD account for the rest (1.7 percent of total debt and about ¼ percent of GDP).4 On lending operations with public companies are reported as part of the debt stock (€40.8 million).

Structure of Public Debt 2023

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Sources: Kosovo Treasury and IMF staff estimates.

C. Risk Analysis

3. The medium-term risk assessment of the staff is low.

  • The gross financing need (GFN) Financeability module points to low risk of sovereign stress. GFNs average 4/ percent of GDP over 2024-29 under the baseline, with limited shortterm debt rollover needs. The GFN index is estimated at 2.7, below the low-risk threshold (7.6) and well below the high-risk threshold (17.9).

  • The debt fanchart module points to moderate risk of sovereign stress. Public debt is projected to increase from 17¼ percent of GDP in 2023 to 26¼ percent of GDP in 2033. The probability of debt non-stabilization is high—but from a very low starting point (less than half the public debt ceiling of 40 percent of GDP). Uncertainty, proxied by the fanchart width, is high, reflecting volatility due to exposure to external shocks, including dependance on remittances to offset large trade imbalances. These factors combined result in a debt fanchart index of 1.46, slightly above the low-moderate threshold (1.13). However, as the index is mainly driven by an increasing debt-to-GDP ratio from a very low starting point with debt closely linked to higher public investment (partly financed by IFIs and European institutions), staff assesses risk as moderate.

  • The overall Medium-Term Index (MTI) indicates low risk. The MTI is 0.19, below the low-risk threshold (0.257). Therefore, the mechanical signal points to low risk of sovereign stress.

D. Long-Term Assessment

4. Long-term risks are assessed as moderate. The main long-term risks stem from costs of health care (because of demographic trends and related high medical costs growth) and climate change mitigation. In both cases, the debt-to-GDP ratio would breach the 40 percent of GDP limit. The pension system is not expected to generate large spending pressures in the medium term because of Kosovo's particular pension scheme, characterized by a universal pillar zero non-contributory pension and a fully funded defined contribution (DC) scheme.5 The other two significant components of pension spending—ex-contributory pensions (those who contributed to the extinct Yugoslav pension fund) and war veteran pensions—are expected to decline gradually over the long term, continuing the trend observed in the past few years.

A001fig16

Pension Spending

(Percent of GDP)

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

SRDSF Key Macroeconomic and Financing Assumptions

Macroeconomic Assumptions

  • Real GDP is projected at 3¾ percent in 2024. Over the medium term, growth is expected to hover around 4 percent, mainly driven by domestic absorption.

  • Inflation is expected to decline further in 2024—to about 3 percent, on average. In the mediumterm, given full euroization, it should converge towards 2 percent.

  • The primary deficit is expected to remain at around 1 percent of GDP during the projection period, as fiscal costs of FTEs weaken revenues while investment is expected to remain high given large infrastructure gaps and development needs.

  • Gross international reserves are assumed to increase from 15 percent of GDP to about 16 percent of GDP in 2029, primarily driven by higher Treasury liquidity buffers (bank balances) consistent with the needs of a fully-euroized economy.

Financing Assumptions

  • External official financing. Two budget support operations with the World Bank are expected in 2024 and 2025 (US$100 million—about €93 million—each). After 2025, a small amount of budget support is assumed every year. The New Growth Plan for the Western Balkans could provide an additional source of budget support. Budget support loans from KfW and AFD have been under consideration but are not included in our baseline.

  • External private financing. No international market issuances are considered in the baseline.

  • Domestic market financing. Net issuance of T-bills and/or T-notes are projected to remain positive at about €150-200 million per year during the projection period. Financing costs are expected to moderate gradually starting in 2025.

E. External Debt Sustainability Analysis

5. The external debt-to-GDP ratio increased by 1.2 pp of GDP to 39.9 percent of GDP in 2023, continuing the upward trend observed in recent years (with a cumulative increase of 7 pp of GDP during 2019-22). Private sector external debt (not publicly guaranteed) increased by 1.5 pp in 2023, offsetting the decline of around ¼ pp of GDP in public and publicly guaranteed debt due to the rescheduling of two budget support operations initially anticipated for 2023 to 2024. In the medium term, the external debt-to-GDP ratio is projected to remain stable around 37 percent of GDP, as the impact of narrowing current account deficit will be offset by an increase in IFI loans.

Annex II. Table 1.

Kosovo: Risk of Sovereign Stress

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Source: IMF staff calculations. Note: The risk of sovereign stress is a broader concept than debt sustainability. Unsustainable debt can only be resolved through exceptional measures (such as debt restructuring). In contrast, a sovereign can face stress w ithout its debt necessarily being unsustainable, and there can be various measures—that do not involve a debt restructuring—to remedy such a situation, such as fiscal adjustment and new financing. 1/ The near-term assessment is not applicable in cases w here there is a disbursing IMF arrangement. In surveillance-only cases or in cases w ith precautionary IMF arrangements, the near-term assessment is performed but not published. 2/ A debt sustainability assessment is optional for surveillance-only cases and mandatory in cases w here there is a Fund arrangement. The mechanical signal of the debt sustainability assessment is deleted before publication. In surveillance-only cases or cases w ith IMF arrangements w ith normal access, the qualifier indicating probability of sustainable debt ("w ith high probability" or "but not w ith high probability") is deleted before publication.
Annex II. Figure 1.
Annex II. Figure 1.

Kosovo: Debt Coverage and Disclosures

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

1/ CG=Central government; GG=General government; NFPS=Nonfinancial public sector; PS=Public sector.2/ Stock of arrears could be used as a proxy in the absence of accrual data on other accounts payable.3/ Insurance, Pension, and Standardized Guarantee Schemes, typically including government employee pension liabilities.4/ Includes accrual recording, commitment basis, due for payment, etc.5/ Nominal value at any moment in time is the amount the debtor owes to the creditor. It reflects the value of the instrument at creation and subsequent economic flow s (such as transactions, exchange rate, and other valuation changes other than market price changes, and other volume changes).6/ The face value of a debt instrument is the undiscounted amount of principal to be paid at (or before) maturity.7/ Market value of debt instruments is the value as if they were acquired in market transactions on the balance sheet reporting date (reference date). Only traded debt securities have observed market values .
Annex II. Figure 2.
Annex II. Figure 2.

Kosovo: Public Debt Structure Indicators

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Annex II. Table 2.

Kosovo: Baseline Scenario

(Percent of GDP, unless indicated otherwise)

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Annex II. Figure 3.
Annex II. Figure 3.

Kosovo: Realism of Baseline Assumptions

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Annex II. Figure 4.
Annex II. Figure 4.

Kosovo: Medium-Term Risk Analysis

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Annex II. Figure 5.
Annex II. Figure 5.
Annex II. Figure 5.

Kosovo: Long-Term Risk Assessment

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Annex II. Table 3.

Kosovo: Decomposition of Public Debt and Debt Service by Creditor, 2023-251

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1/As reported by Country authorities according to their classification of creditors, including by official and commercial. Debt coverage is the same as the DSA. 2/All creditors are included. 3/Multilateral creditors” are simply institutions with more than one official shareholder and may not necessarily align with creditor classification under other IMF policies (e.g. Lending Into Arrears) 4/Debt is collateralized when the creditor has rights over an asset or revenue stream that would allow it, if the borrower defaults on its payment obligations, to rely on the asset or revenue stream to secure repayment of the debt. Collateralization entails a borrower granting liens over specific existing assets or future receivables to a lender as security against repayment of the loan. Collateral is “unrelated” when it has no relationship to a project financed by the loan. An example would be borrowing to finance the budget deficit, collateralized by oil revenue receipts. See the joint IMF-World Bank note for the G20 “Collateralized Transactions: Key Considerations for Public Lenders and Borrowers” for a discussion of issues raised by collateral. 5/Includes other-one off guarantees not included in publicly guaranteed debt (e.g. credit lines) and other explicit contingent liabilities not elsewhere classified (e.g. potential legal claims, payments resulting from PPP arrangements). For Kosovo, public guarantees onlending are already included in debt stock.
Annex II. Figure 6.
Annex II. Figure 6.

External Debt Sustainability: Bound Tests1,2

Citation: IMF Staff Country Reports 2024, 147; 10.5089/9798400277702.002.A001

Sources: International Monetary Fund, Country desk data, and staff estimates.1/ Shaded areas represent actual data. Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown.2/ For historical scenarios, the historical averages are calculated over the ten-year period, and the information is used to project debt dynamics five years ahead.3/ Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance.4/ One-time real depreciation of 30 percent occurs in 2025.
Annex II. Table 4.

Kosovo: External Debt Sustainability Framework, 2019-29

(In percent of GDP, unless otherwise indicated)

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1/ Derived as [r - g - r(1 +g) + ea(1 +r)]/(1 +g+r+gr) times previous period debt stock, with r = nominal effective interest rate on external debt; r = change in domestic GDP deflator in US dollar terms, g = real GDP growth rate, e = nominal appreciation (increase in dollar value of domestic currency), and a = share of domestic-currency denominated debt in total external debt. 2/ The contribution from price and exchange rate changes is defined as [-r(1+g) + ea(1+r)]/(1+g+r+gr) times previous period debt stock. r increases with an appreciating domestic currency (e > 0) and rising inflation (based on GDP deflator). 3/ For projection, line includes the impact of price and exchange rate changes. 4/ Defined as current account deficit, plus amortization on medium- and long-term debt, plus short-term debt at end of previous period. 5/ The key variables include real GDP growth; nominal interest rate; dollar deflator growth; and both non-interest current account and non-debt inflows in percent of GDP. 6/ Long-run, constant balance that stabilizes the debt ratio assuming that key variables (real GDP growth, nominal interest rate, dollar deflator growth, and non-debt inflows in percent of GDP) remain at their levels of the last projection year.

Annex III. Risk Assessment Matrix

A. Global Risks1

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B. Domestic Risks

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Appendix I. Letter of Intent

Prishtinë, May 13, 2024

Ms. Kristalina Georgieva

Managing Director

International Monetary Fund

700 19th Street, N.W.

Washington, D.C. 20431

Dear Ms. Georgieva:

Our economic program, supported by the Stand-By Arrangement (SBA) and the Resilience and Sustainability Facility (RSF) arrangement approved by the IMF Executive Board on May 25, 2023, aims at maintaining macroeconomic and financial stability and advancing an ambitious reform agenda to further strengthen fiscal and financial governance and boost inclusive growth, as well as supporting our ambitious green agenda. The attached Memorandum of Economic and Financial Policies (MEFP) describes progress made so far and sets out the economic policies that the Government and the Central Bank of the Republic of Kosovo intend to implement under the SBA and RSF.

We remain committed to implement policies aimed at maintaining macroeconomic and financial stability, including a prudent fiscal policy. Our structural reform agenda has focused on tackling informality, strengthening the quality of public spending, reducing infrastructure gaps, protecting vulnerable households, strengthening financial governance, and continue advancing in the EU accession process. We are improving structural fiscal policies, with a view to strengthen public financial management, enhance revenue mobilization, manage fiscal risks, and improve the volume and quality of public investment.

A critical part of our agenda envisages climate change mitigation and adaptation policies. Our focus has been on expanding green energy capacity, improving the efficiency of energy markets, fostering regional integration, reducing pollution and emissions, and supporting vulnerable groups. To this end, we have taken concrete measures to increase green electricity generation. On March 29, we successfully concluded the first competitive auction of 100MW of solar capacity. Preparatory work for an auction of additional 150MW of wind generation is currently ongoing. In December 2023, a new Law on Climate Change was adopted, aimed at establishing a framework for the promotion, planning, and monitoring of climate change policies. The law on Renewable Energy, which transposes EU directives, was adopted by Parliament in April 2024. On January 31, ALPEX launched day-ahead auctions in market-coupling mode for the two bidding zones (Kosovo and Albania). Finally, the CBK has issued instructions for banks to monitor and report data on exporting firms exposed to transition costs related to CBAM implementation.

The Government and the Central Bank of Kosovo request the completion of the second reviews of the SBA and RSF arrangements based on the full implementation of both programs' targets and reforms. All end-December 2023 quantitative performance criteria (QPCs) and all indicative targets (ITs) were met. All structural benchmarks (SBs) under the SBA and all reform measures (RMs) under the RSF envisaged for the second review were completed.

We will continue to treat the SBA as precautionary, but we may consider purchases if downside risks materialize, including shortfalls of programmed external financing. We will maintain close policy dialogue with the IMF to achieve program objectives, including on any changes to our current policies and reform agenda that falls under the scope of the MEFP. Timely information needed to monitor the economic situation and implementation of policies relevant to the program will be provided, as agreed under the attached Technical Memorandum of Understanding (TMU), or at the IMF's request. In keeping with our commitment to transparency, we agree to the publication of this letter, the MEFP, the TMU, and the accompanying Executive Board documents.

Sincerely yours,

Attachments (2)

Attachment I. Memorandum of Economic and Financial Policies

1. The Government and Central Bank of Kosovo remain fully committed to the economic reform program supported by the Stand-By Arrangement (SBA) and reform measures under the Resilience and Sustainability Facility (RSF) arrangement. The SBA and RSF arrangements were approved by the IMF Executive Board on May 25, 2023. The first reviews of the programs were completed by the Board on November 15, 2023. This memorandum outlines in detail our progress towards meeting the objectives under the SBA and RSF arrangements and our plans to advance these objectives during the remainder of the programs. Tables 1, 2, and 3 summarize performance to date and the quantitative targets going forward, progress on structural benchmarks under the SBA, as well as progress on reforms supported by the RSF arrangement.

I. MACROECONOMIC DEVELOPMENTS AND OUTLOOK

2. Economic activity in 2023 remained solid. After strong growth performance in 2022, real GDP expanded by 3.3 percent in 2023, despite adverse spillovers from the ECB anti-inflationary policies that impacted economic activity in our main trade partners. After peaking at 14/ percent y o-y in July 2022, inflation has declined sharply on the back of lower commodity prices—mainly food and oil, reaching 2.2 percent in February 2024. Moreover, the current account deficit narrowed to 7/ percent of GDP in 2023—from 10¼ percent of GDP in 2022—driven by lower commodity prices and strong inflows from remittances and tourism.

3. Real GDP growth is projected to strengthen in 2024. Growth is expected to accelerate to about 4 percent in 2024 driven by strong private consumption and public investment, and a recovery in private investment (particularly in energy projects and construction). We expect the fiscal stance to be moderately expansionary and contribute to close the slightly negative output gap. The fiscal expansion will be mostly driven by investment in infrastructure. Inflation is projected to reach about 2.5 percent in 2024, converging to 2 percent over the next year. The current account deficit is expected to range between 7-8 percent of GDP in 2024, primarily financed by non-debt creating FDI inflows.

II. ECONOMIC POLICIES AND REFORMS UNDER THE SBA

4. We have made significant progress in the implementation of our ambitious reform agenda under the SBA. The end-December 2023 Quantitative Performance Criteria (QPCs) on the general government balance and stock of government deposits at the Central Bank of Kosovo (CBK) were met with some margins. Similarly, Indicative Targets (IT) on the size of the unallocated budget reserves and the holdings of government's debt by the CBK were also met. We continue to observe the continuous performance criterion (PC) on non-accumulation of external arrears. We have started the publication of a stand-alone fiscal risks report (end-November 2023 structural benchmark, SB). The CBK has issued new rules of procedure clarifying responsibilities of its Supervisory Board in relation with the Executive Board (end-November 2023 SB). We have also finalized the new draft Law on Banks in line with FSSR recommendations (end-November 2023 SB) and submitted it to parliament in May (end-January 2024 SB). We have already been publishing quarterly economic and financial data for publicly owned enterprises (POEs) and will start publishing POE's annual financial reports (end-June 2024 SB).1

Fiscal Policies and Reforms

5. The overperformance of 2023 fiscal targets reflect our commitment to prudent fiscal policies. The fiscal balance posted a deficit ¼ of percent of GDP, compared to 2¼ percent of GDP under the program. This strong outturn reflected stronger revenues and was achieved despite a large boost in public investment—up by over 30 percent compared to 2022. The expanded fiscal space allowed us to implement, in December, a €100 financial support to all children and pensioners to help them cope with the increase in the cost of living (at a total cost of €68 million or ¾ percent of GDP). Temporary delays in the disbursement of programmed budget support loans and lower-than-programmed net domestic financing, resulted in a decrease in fiscal buffers, which, after adjusters, remained within program parameters.2 In this context, public debt declined to 17½ percent of GDP in 2023, well below our 40 percent of GDP debt ceiling. As delayed disbursements occur throughout 2024 and net domestic financing increases, we expect fiscal buffers to recover and remain within program targets.

6. The 2024 budget is consistent with our rules-based fiscal framework and program objectives and is fully financed. Our fiscal policy for 2024 will continue to be anchored by the 2 percent of GDP deficit ceiling rule—excluding investment funded by privatization and donors. Budget implementation is expected to result in a moderate fiscal impulse, which is appropriate given the economy's cyclical position and declining inflation.3 Budget financing will include increased net domestic issuance of government debt and World Bank budget support (a US$100 million Development Policy Operation, DPO). This would allow our gross international reserves to remain at about 95 percent of recommended IMF reserve adequacy metric and government deposits to remain above the SBA program floor over the duration of the program. An initial payment under the EU's Growth Plan for the Western Balkans—introduced in November 2023—may be implemented by end-2024.

7. The SBA will continue to mitigate downside risks. While available financing and existing fiscal buffers ensure program financing and adequate international reserve levels under the baseline, an increase in commodity prices would lead to lower growth and fiscal revenues and higher financing needs. A financing gap may also arise if planned external budget support operations fail to materialize. In the meantime, we plan to continue treating the SBA as precautionary.

8. We are implementing a medium-term revenue strategy to enhance tax compliance. We adopted, in June 2023, an updated Customs and Excise Code to further align it with the European Union customs code and excise acquis (end-June 2023 SB). To further mobilize revenues, the Tax Administration of Kosovo (TAK) adopted a new action plan to reduce informality (end-July 2023 SB). To facilitate compliance, TAK has strengthened process automation to provide new electronic services to taxpayers. Additionally, a new law on tax procedures was approved by the National Assembly in January 2024. The law reduces the time to amend filings and claim tax refunds, increases penalties for noncompliance, and reduces the threshold for non-bank transactions from €500 to €300. With assistance of the World Bank, we are preparing a comprehensive review of tax expenditures, which in time will serve us to propose policies that would further increase fiscal space and tax fairness.

9. We are taking further action to improve public financial management and the efficiency and effectiveness of government spending.4

  • Transparency. We have reduced the size of the contingent budgetary allocations (as defined in the attached TMU) from 3¾ percent of GDP in 2023 to 1 percent in GDP in the 2024 budget (IT). To promote accountability about the use of these resources, the Treasury quarterly financial reports will continue publishing information on the use, intended impact, rationale, and beneficiaries of them (end-July 2023 SB).

  • Social Benefits. Electricity tariffs will continue to ensure that the electricity sector's financial flows remain balanced in 2024, without the need of blanket government subsidies. The government, in collaboration with the World Bank (WB), has revised the definition of vulnerable energy consumers to ensure that beneficiaries are chosen based on means-testing procedures. Moreover, any newly proposed social scheme will be targeted and sustainable. In this regard, the results of the Census (which started in April 2024) will provide valuable data for designing targeted and effective social schemes and benefits.

  • Public Investment. We are committed to make further progress with the budget planning, execution, and monitoring of investment projects. In this context, recommendations from PIMA and C-PIMA reports will serve as an important source of analytical work and will guide our work and efforts.5 We will continue making efforts to improve the PIP absorption—since 2023, budget organizations are required to include needed expropriation costs as part of project envelopes (end-June 2023 SB), with a view to ensure that no new projects can be included in the budget without properly accounting for expropriations costs. We will strive to accelerate the implementation of projects under the investment clause, and to ensure that evaluation and technical project documentation on new externally financed projects, is appropriately finalized before signing the corresponding financial agreements.

  • Procurement. We are preparing a new procurement framework, including a new Public Procurement Law fully aligned with the EU acquis.6 The new law aims to build on recent developments on e-procurement to build an efficient, transparent, and accountable procurement system. We also plan to invest heavily on capacity development—with IFIs assistance—to increase the number of specialized professionals to avoid bottlenecks and delays.

10. Strengthening POE operations will translate into better public service provision and mitigate fiscal risks. The collection analysis, and dissemination of POE financial data will continue to help us monitor performance, identify challenges, contain fiscal risks, and increase accountability. To this end, we have been publishing, on a quarterly basis, economic and financial data for all POEs and will start publishing POE annual financial reports (end-June 2024 SB). We also have been publishing information on government on-lending to POEs in our treasury quarterly financial report. We will continue to use this information to strengthen our fiscal risks assessment and recommend corrective actions as needed. To strengthen POE management and attract private capital, large POEs will be transferred to a new Sovereign Wealth Fund (SWF). Although the law creating the SWF was approved by parliament in December 2023, it is currently under review by the Constitutional Court. The approved law envisaged that the SWF will not create contingent liabilities for the state and will not impose investment obligations on the pension fund (KPST). KPST will continue focusing exclusively on investing the funds from workers' contributions with a view of maximizing profits which in turn will be reflected in higher pensions for their customers.

11. We remain committed to monitoring and containing fiscal risks, as well as to upgrading the framework for public sector statistics. Since November 2023, we are producing a stand-alone annual fiscal risks report (end-November 2023 SB) which leverages on the IMF Fiscal Risk Assessment Tool (FRAT). We plan to continue improving the report with IMF assistance. The report focuses on risks stemming from the operation of POEs, litigations against the state, and debt guarantees. To strengthen fiscal reporting, we will continue to work, with IMF support, on the implementation of a plan to disseminate fiscal accounts using the GFSM 2014 reporting standards.

Financial Sector Policies and Reforms

12. We will continue to preserve international liquidity buffers to support financial stability. The CBK will not increase its holdings of domestic government securities beyond the ceilings agreed in the program (IT). Moreover, the CBK is committed to continue managing its foreign reserves in line with best international practices to ensure liquidity, security and returns—in that order. The CBK has established a working group to review the Emergency Liquidity Assistance (ELA) framework, including its regulation and operations manual, and the review of the relevant regulation is ongoing. The European Central Bank (ECB) has granted an extension of the temporary Repo Line for the CBK, of €100 million, until end-January 2025. This provides additional precautionary buffers to address potential euro liquidity needs and maintain the stability of our financial system. In addition, the CBK is making efforts to strengthen the functioning of the intraday, overnights and REPO interbank liquidity markets, as part of central security depository (CSD) functionality improvements, including its interface with the clearing system. With this aim, we have signed a contract for an IT-system upgrade and the project is ongoing. Moreover, we will continue working on options to strengthen the financing pool available for deposit insurance purposes.

13. Strengthening the governance of the financial sector is an essential priority of the CBK. We finalized the new draft Law on Banks, establishing improved licensing criteria for banks and standards for their operations, organization, and management, while strengthening the bank resolution framework, all in line with international best practice (end-November 2023 SB) and submitted it to parliament in May (end-January 2024 SB). In addition, with support from the International Finance Corporation (IFC) we are revising the draft Law on Microfinance Institutions, with a view to submit it to parliament before end-2024. We have also been working on a new Law on Payment Services in line with EU directives, supported by the World Bank under the EU funded project for Modernization of the Payment Systems of the Western Balkans Countries, aiming to be sent to the government by end-June 2024. As of March 2024, about 350 thousand bank accounts with fees have been converted to basic accounts, introduced to improve financial inclusion.

14. The CBK is committed to implement recommendations of the recent IMF safeguards assessment. We adopted an annual work program, which includes fundamental and systemic discussions of all key oversight matters as required by the CBK charter. In parallel, the Audit Committee has strengthened its planning to exercise its responsibilities as established by the CBK charter. Moreover, the CBK Internal Audit Department adopted an action plan to strengthen IT audit skills and started including information on outstanding recommendations and an aging analysis of recommendations into its quarterly reports. In parallel, the CBK is working to strengthen the functioning of the risk management department, including by selecting a new Director, and a new high-level inter-departmental Risk Committee established in April. Finally, the CBK Board is planning to develop an action plan to strengthen cyber resilience, including by the recruitment of experts in cybersecurity and the development of a cybersecurity policy and framework.

15. The CBK will undertake a comprehensive review of its organizational structure, with the aim of enhancing and strengthening its organizational functions. This will be achieved by making a distinction between key functions related to its mandate as a central bank from the supporting functions, to improve efficiency and foster greater accountability within its various departments. Moreover, the CBK aims to adapt more swiftly to market dynamics, bolster its regulatory oversight capabilities, strengthen its macroprudential policy making, and optimize its operations. This review, planned for September 2024, will focus on improving the compensation scheme to retain adequate staffing with specific skills and position itself as a more resilient institution. By aligning compensation with skills and responsibilities, the CBK aims to ensure retention of specific skills crucial for the central bank's functions.

16. We will continue to improve our capacity to effectively monitor and analyze financial sector risks. The banking system remains robust, with strong capital positions, high liquidity buffers, strong asset quality, and high profitability. Bank liquidity and capital ratios remain well above regulatory minima, and NPLs ratios are below 2 percent. We will continue to monitor financial sector risks closely, focusing on pockets of vulnerabilities in the financial sector. We are working to upgrade the CBK's top-down stress testing framework to identify financial stability risks, with IMF assistance. We are also developing internal rules formalizing the allocation of roles and responsibilities of stress testing functions across CBK departments and the dissemination of stress testing results. Moreover, Kosovo Agency of Statistics (KAS), in collaboration with the CBK, is working to strengthen surveillance of the residential housing sector. To this end, KAS has produced a roadmap to create a housing price index and related surveillance data with the assistance of the IMF's Statistics Department and has started the compilation of the required data (end-September 2023 SB).7 In December, KAS produced an experimental index for Q1-Q2 2023 in line with EU standards. Further IMF assistance is expected this year, with a view to start publishing the new index in 2025.8 The Law on Cadastre of Immovable Property, approved by parliament in December 2023, will support the development of mortgage credit by lowering the risk of this lending type.

17. The CBK has issued new regulations on cash operations. These regulations operationalize the constitutional mandate of using the euro for payments, stating that only institutions licensed by the CBK can carry out banking and financial activities in Kosovo. The regulations, which also ban the circulation of €500 banknotes, aim to control the amount of money in circulation, protect the integrity of the financial system, fight against money counterfeit, and combat money laundering and terrorism financing. As a result of these regulations, about 180 thousand €500 banknotes have been withdrawn from circulation.

18. We will continue with our efforts to enhance AML/CFT functions. The CBK signed an MOU with the FIU in 2023 in the spirit of cooperation and mutual interest and aims to facilitate the exchange of information and the building of supervisory capacities for compliance with international standards. The Law on implementation of Targeted International Financial Sanctions was adopted last year and the draft Law on Beneficial Ownership Registry has passed the first reading in parliament in February 2024. In addition, the Ministry of Finance, Transfers, and Labor has prepared a concept document on the new law on AML/CFT, which aims at full compliance with EU standards, and updated the National Risk Assessment.9 Membership approval to the Council of Europe— currently under consideration by the Council—would in turn pave the way for Kosovo's membership of MONEYVAL. The recent adoption of CBK regulation of cash operations will support our efforts to tackle money laundering and financing of terrorism. The CBK is working to enhance its AML/CFT framework, by adopting a Risk-Based supervisory framework, a crucial milestone in its preparation for SEPA integration. This manual will serve as a comprehensive guide, outlining risk-based approaches to AML supervision, thereby strengthening CBK's capabilities in combating financial crime effectively.

III. REFORMS UNDER THE RESILIENCE AND SUSTAINABILITY FACILITY ARRANGEMENT

19. The RSF program supports the implementation of our energy and climate reform agenda. RSF financing has expanded our fiscal space to implement actions aimed at increasing the share of renewables in energy generation, decreasing emissions and pollution, fostering energy security, strengthening competition in electricity markets, and protecting vulnerable energy consumers.

20. We are committed to advance in the implementation of climate mitigation and adaptation policies. The Law on Climate Change was approved by parliament in December 2023. This law establishes a framework for the promotion, planning and monitoring of climate change policies. It strengthens the Climate Change Council and its Secretariat, as well as the Climate Science Advisory Board. It has also enabled the preparation of the "Climate Change Adaptation Strategy” and the "National Energy and Climate Plan” (NECP). We are currently working to incorporate comments on the NECP provided by the Energy Community Secretariat. The Climate Change Law also enables the involvement of the Climate Change Council Secretariat to advise the central government and municipalities on how to include climate change mitigation and adaptation components in public projects. These efforts reflect our commitment to accelerate the green transition and reduce emissions and pollution and are in line with our roadmap in the context of the Sofia Declaration and the Green Agenda for the Western Balkans. In parallel, we are evaluating options to ensure a smooth transition out of coal. Furthermore, the World Bank’s Country Climate and Development Report (CCDR) for Kosovo is expected to be completed in 2024. The CCDR will provide a holistic assessment of climate change mitigation and adaptation challenges and priorities.

21. The law on renewable energy sources was approved by parliament in April. The law— approved by our government in October (End-September 2023 Reform Measure, RM)—transposes EU directives and establishes a general framework to attract private capital into renewable energy using competitive auctions and allows the construction of new renewable electricity capacity through public-private partnerships (PPP), among other provisions. The Ministry of Economy has begun working on the secondary legislation and administrative instructions that will accompany the law.

22. We have taken steps to increase the share of green electricity generation. We are committed to increase the renewable energy share to 35 percent by 2031, in line with our Energy Strategy, which will require additional electricity generation capacity of around 1300 MW.

  • To attract private financing into renewable electricity production we launched, in May 2023, a first competitive auction for 100 MW of PV electricity generation to be installed in public lands with support from USAID (end-May 2023 RM). A final electronic auction among 5 qualified bidders was held on March 29, and the winner—announced in April—will be awarded a 15-year power purchase agreement (PPA). The additional generation capacity is expected to be in place in 2026.

  • The procurement process for the installation of 100 MW of solar electricity generation capacity in Kosovo Energy Corporation (KEK) premises—with total financing of about €105 million from KfW, the European Investment Bank (EIB), the Western Balkans Investment Facility (WBIF), and KEK—is planned to start in June.

  • Capitalizing on lessons from the first competitive auction, we will launch—with IFC, IMF, and USAID assistance—an open, competitive, and transparent tender to build about 150 MW of wind-based electricity generation (modified RM, proposed for October 15 from end-June 2024). To that end, we committed resources for about €70 million to attract private capital into windbased generation through a PPP. We have signed an agreement to have IFC as transaction advisor, which will help us implement the auction and increase the credibility of the project, making it more attractive for potential investors. Those resources are allocated in a sub-account under the Treasury Single Account created to that end (end-October 2023 RM). We will present all documents belonging to the auction and associated PPP to the PPP committee chaired by the Minister of Finance, Labor, and Transfers by end-August 2024.

23. The regional electricity market between Albania and Kosovo (ALPEX) has started operations. After the testing phase, the day-ahead electricity market in Kosovo was officially launched on January 31 and trading is ongoing. Furthermore, work on the introduction of an intraday wholesale electricity market is underway. As the market gains depth and liquidity, market-determined reference prices will gradually replace those established by ERO in the competitive auctions to attract private capital to renewable energy generation. This will require market integration with additional players, especially from countries in Southeast Europe, such as Greece and North Macedonia. In this regard, ALPEX has signed a memorandum of understanding with power operators of Greece and North Macedonia, aiming at establishing a common day-ahead electricity market coupling.

24. We have prepared, with IMF support, a report assessing the potential impact of a gradual recognition of the negative externalities of brown energy. The report was prepared by a working group with representatives from the Ministries of Finance, Labor, and Transfers; Economy; Environment, Spatial Planning, and Infrastructure; and Industry, Entrepreneurship, and Trade, as well as from KOSTT and KEK. The working group used the IMF's Climate Policy Assessment Tool (CPAT) to assess the possible impact on emissions, pollution, activity, and inequality of a gradual recognition of the negative externalities of brown energy use. The report, which examines the impact of the upcoming implementation of the EU carbon border adjustment mechanism (CBAM) considering alternative scenarios and policy options was submitted to the Cabinet in April (endMarch 2024 RM). We have posted the report in the Ministry of Environment, Spatial Planning, and Infrastructure's website.

25. Kosovo’s Energy Efficiency Fund (KEEF) has substantially advanced the implementation of programs to increase energy efficiency. KEEF has co-financed, funded by a €20 million EU grant received in 2023, interventions such as thermal insulation, replacing windows and doors, installation of LED lighting among others covering mainly in private residences and social housing provided in collective buildings owned by municipalities. Additionally, in some cases and in collaboration with the central administration, homeowners can apply for an upgrade of appliances. KEEF is discussing with the CBK and commercial banks—with the EU support (through the WBIF)— more efficient schemes for application of the retail sustainable scheme, given the large number of applicants. A new law of energy efficiency, sponsored by the Ministry of Economy, is currently undergoing consultations with stakeholders and is expected to be approved by the government in the coming months. The law seeks to enshrine the role of the KEEF as the key institution regarding energy efficiency.

26. Reducing air pollution is one of our main priorities. KEK has finalized technical preparatory work that would allow the installation of filters in each of the units of "Kosova B” power plan to bring pollution levels from these units to EU standards.10 Although KEK’s 2024 Budget Plan includes a contingent allocation of €12.5 million to complement secured EU financing for the installation of the filter in the Kosova B2 Unit (end-October 2023 RM), the project is delayed because of issues with the consortium that will implement it. A new consortium is planned to be formed in 2024, with a view to implement the project in 2025. The value of the contingent allocation is indicative and may change pending agreement with our EU partners. We will continue to liaise with EU partners to explore ways to secure the absorption of €70 million of the 2018 EU IPA grant for the installation of these filters at the shortest possible delays. KEK is also planning to invest €50-60 million in a rehabilitation and modernization project for two of its plants, which will reduce emissions and increase production capacity. This project is planned to be implemented in 2025. Finally, KEK is seeking IPA resources to finance a project to reduce Sulphur oxides (SOx). The project is expected to cost €96 million and start in 2026.

27. We have improved the targeting of electricity subsidies to support vulnerable energy consumers. The subsidies aim to cover part of the electricity bill for households with monthly incomes lower than €150/household and consider the household composition. More than 60,000 households have qualified and are now receiving this subsidy. The 2024 budget includes an allocation that secures the implementation of this program (end-October 2023 RM). While import electricity prices have eased since mid-2023, we intend to minimize the use of untargeted subsidies should electricity prices rebound, by ensuring that the permanent component of price signals is passed through to non-vulnerable consumers.

28. We plan to start integrating climate planning into public investment management frameworks to support the green transition. To this end, we will start working on implementing recommendations from the IMF Climate Public Investment Management Assessment (C-PIMA), conducted last year.

29. The CBK will start collecting data on the possible impact of the Carbon Border Adjustment Mechanism (CBAM) on Kosovo’s exports. In April, the CBK prepared an instruction to standardize bank practices to monitor and report data related to climate risks, including transition risks related to CBAM implementation (end-March 2024 RM). This will allow to better identify energy transition costs in Kosovo’s banking sector. The CBK is also working to upgrade the stress testing framework to consider the impact of energy price increases and take the necessary steps to develop green financing, in collaboration with our international partners.

30. The CBK is preparing a strategy for the management and supervision of climate-related financial risks in the financial sector. By October 2024, the CBK will prepare and adopt a comprehensive strategy for the supervision of climate-related risks in the financial sector, with the support of the World Bank (FinSAC). The overarching goal of this strategy would be to address the increasing challenges posed by climate change by ensuring that banks, non-bank financial institutions, and insurance companies properly manage climate-related risks. Moreover, the CBK became a member of the Sustainable Banking and Finance Network (SBFN) in December, to advance its sustainable finance practices and fortify the financial system’s resilience to climate-related and environmental risks.

IV. PROGRAM MONITORING

31. Monitoring. Program implementation will continue to be monitored through QPCs, ITs, two continuous PC, prior actions, SBs, and RMs. The program features reviews every six months. The QPCs for end-June 2024 and end-December 2024, and ITs for end-March and endSeptember 2024, along with continuous QPCs, and other ITs, are set out in Table 1. The SBA prior actions and SBs are set out in Table 2. RSF RMs are set out in Table 3. The attached updated TMU describes the definitions and methods to be used to assess program performance and information requirements to ensure adequate monitoring of the targets.

32. Standard IMF Consultation Clause. We are confident that our policies are adequate to achieve the program objectives and will take any additional measures that may become appropriate for this purpose. We will consult with the Fund on the adoption of these measures, and in advance of any revision contained in this Memorandum, in accordance with the Fund’s policies on such consultation.

Table 1.

Kosovo: SBA Quantitative Performance Criteria 2023-25

(Millions of euros, unless otherwise indicated)

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1/ Defined as cumulative flows over the fiscal year 2/ Applies on a continuous basis 3/ Defined as total budgetary contingent allocations; applies on a continuous basis. For details see the Technical Memorandum of Understanding.
Table 2.

Kosovo: Prior Actions and Structural Benchmarks Under the SBA

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Table 3.

Kosovo: Reform Measures Under the RSF

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Attachment II. Technical Memorandum of Understanding

This technical memorandum of understanding (TMU) supplements those dated on May 9, 2023, and October 30, 2023, by further defining and (or) clarifying structural benchmarks under the SBA and reform measures under the RSF. It also updates macroeconomic data as needed. All definitions remain as in the TMU dated May 9, 2023 (TMU-Program) or as modified in the TMU dated October 30, 2023, unless modified below.

I. SBA QUANTITATIVE PERFORMANCE CRITERIA

1. Program exchange rates. For the purposes of the program, the exchange rates of the Euro for the duration of the program are those shown in Table 1 of this TMU.

2. Balance of Accounts Payable. For reference, the balance of accounts payable was €24.4 million at end-2022; €28.9 million at end-June 2023; €24.6 million at end-September 2023; and €33.0 million at end-December 2023.

3. External Budget Support Grants. Programmed external budget support grants are specified in the Table "Stand-By Arrangement: Economic Assumptions” of this TMU.

4. Budget Support Loans. Programmed disbursements of external budgetary support loans are specified in the Table "Stand-By Arrangement: Economic Assumptions” of this TMU.

5. GG Deposits. For reference, GG deposits at the end-December 2023 amounted to €510.5 million (€345.2 million in the TSA and €165.3 million in PAK deposits).

Stand-By Arrangement: Economic Assumptions

(Cumulative floor in euro millions, unless otherwise indicated)

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Note: The World Bank loan (of US$100 million) originally programmed for 2023 as per Table 1 of the TMU dated October 30, 2023 has been reprogrammed for 2024.

6. Central Bank of Kosovo (CBK) holdings of Kosovo government securities. For reference, the stock of government securities held by the CBK at end-2023 amounted to €180 million.

7. Contingent Budget

Allocations. Contingent allocations in the 2024 approved budget include those in the following budgetary lines: "Contingencies in the Ministry of Finance, Labor and Transfers” (€20.9 million), "Contingency for Energy” (€7.5 million), "Contingent Expenditures” (€10 million), "Economic Revival Program” (€69.7 million), and "Unforeseen Expenditures” (€9.8 million), for a total of €108 million. The program includes a ceiling for all contingent allocations (i.e., considered jointly) of €108 million in 2024. The 2025 budget will include contingent allocations that, jointly, will not surpass €108 million. This ceiling will apply on a continuous basis. This ceiling will apply on a continuous basis.

II. SBA PRIOR ACTIONS AND STRUCTURAL BENCHMARKS AND RSF REFORM MEASURES

8. The government will launch by October 15, 2024, an open, transparent, and competitive tender for the construction and operation of about 150 MW of wind-based electricity generation capacity in a non-specific location. The project uses budgetary resources of up to €70 million to attract private capital into green generation and capitalizing the lessons from the first competitive solar auction for 100 MW, launched in 2023. In March, the government signed an agreement to have IFC as transaction advisor, which will help implementing the auction and increase the credibility of the project, making it more attractive for potential investors. By end-August, the government, with support from IFC as well as USAID and in consultation with the IMF, will prepare all relevant technical documentation and present it to the PPP committee. The proposal, in line with Kosovo's PPP law, will define a PPP for the project with a private partner to be chosen through an open, transparent, and competitive tender. The technical documentation will define the entity that will hold the state's share on the PPP and will define how the resources allocated in the sub-account under the Treasury Single Account will be transferred to the project. After PPP Committee approval, the government will launch, by October 15, 2024, an open, transparent, and competitive tender to select the state's private partner in the PPP. The successful bidder will be that with the most advantageous offer for the state overall.
1

Since January 1, Kosovo citizens do not require visas to enter the Schengen area. Several stakeholders have expressed concerns that it could accelerate emigration, particularly for young and highly qualified individuals.

2

Measures include suspension of high-level meetings and postponement of new financial support.

3

Kosovo has a strong rules-based fiscal framework. Rules include (i) a limit on public debt of 40 percent of GDP and (ii) a 2 percent-of-GDP deficit ceiling, excluding capital expenditure financed by donors and privatization receipts.

4

A qualified majority of 2/3 of votes in parliament is required to contract external liabilities.

5

While efforts to strengthen compliance are expected to continue (U17), a slight decline of tax revenues in percent of GDP is projected over the medium term due to the implementation of FTAs with the EU and Turkiye, which will impact custom duties and VAT on imports (which account for 2/3 of total VAT revenues).

6

Historically, capacity constraints have kept public investment execution below planned levels.

7

This payment, approved on December 13, granted €100 to all pensioners and children under 16 years. Funds for these benefits came from the budgetary contingency reserve.

8

To prevent the recurrence of this problem, a new regulation has been adopted, making the Board's authorization no longer required for KPST investment decisions.

9

The 2024 approved budget envisages—assuming full execution of all budgetary items, notably investment—a deficit of 2¾ percent of GDP, or 2 percent of GDP excluding investment clause spending, in line with fiscal rule limits.

10

The new law defines coefficient ranges which, coupled with the monetary value of the coefficient, are used to set wages across the public sector. The value of the coefficient was increased from €105 in 2023 to €110 in 2024.

11

Total overpayment during this period is estimated at €40.8 million (0.4 percent of GDP).

12

TAK is considering compliance-enhancing measures to strengthen e-invoice and cash management.

13

The stock of tax debt amounts to €525 million (6 percent of GDP).

14

Liquidity buffers also include emergency liquidity assistance (ELA) funds and a temporary Repo Line (€100 million) of the CBK with the European Central Bank (ECB) extended through January 2025. Government deposits also include some unused resources from municipalities and RSF funds earmarked for the purposes of the arrangement.

15

Monitoring and management of fiscal risks should include those stemming from the new PPPs set up to expand renewable energy generation (T29).

16

Several articles of the SWF law are currently being reviewed by the Constitutional Court.

17

A second World Bank DPO, planned to be disbursed in 2025, is currently under negotiation.

18

The new Growth Plan was adopted by the European Commission in November 2023. It will be implemented through the Reform and Growth Facility for the Western Balkans, amounting to €6 billion (€2 billion in grants and €4 billion in concessional loans) for 2024-27, with disbursements conditioned on countries fulfilling specific reforms.

19

A sovereign credit rating may also reduce the cost of foreign capital for financial institutions in Kosovo (e.g., microfinance institutions), as international investors typically charge a higher risk premium in the absence of a rating.

20

The program includes a consultation clause to recalibrate policies should shocks prove stronger and more persistent than expected.

21

This review process benefited from two IMF MCM-led workshops—in July 2023 and January 2024.

22

Kosovo's membership in the Council of Europe (CoE)—currently under consideration—would pave the way for membership in MONEYVAL, which is a FATF-style regional body and the permanent AML/CFT monitoring body of the CoE. Kosovo applied for CoE membership in May 2022 and in April 2024 the Parliamentary Assembly of the CoE (PACE) recommended that Kosovo be invited to become a member. A final decision by the CoE Committee of Ministers is expected in May.

23

Kosovo has also continued to build a track record of investigations, prosecutions, and convictions in the fight against corruption. However, more efforts are required, in particular to tackle high-level corruption.

24

The design of electricity subsidies was revamped to better target budgetary support to vulnerable energy consumers. Specifically, the MFLT, with WB and Millennium Challenge Corporation (MCC) assistance, redefined the universe of vulnerable energy consumers. The program subsidizes part of the electricity bill for households with monthly incomes lower than €150 (i.e., the poverty line as defined by the WB), with the actual subsidy amount also considering household composition.

25

The gains of implementing RSF RMs (installation of filters in the thermal power plant, new capacity in green electricity generation, and improved energy efficiency in residential buildings) are potentially large. Using the IMF's CPAT model, staff analysis suggests that, in steady state, the direct gains of these reforms could be 1 percent of GDP per year, or over 10 percent of GDP through 2050 expressed in present value terms. See staff report for the First Review for details.

26

Launching this pilot auction was a RM under the RSF (RM5, May 2023).

27

The WBIF is a joint financial platform of the European Commission, financial organizations, EU Member States, and Norway aimed at enhancing cooperation in public and private sector investments in the Western Balkans thus facilitating European integration.

28

ALPEX is a joint venture owned by the T ransmission System Operators of Albania (OST) and KOSTT, established in 2020 and based both in Tirana and Pristina. Seventeen Albanian and four Kosovo companies are currently part of the platform. The market started operating in Albania in 2023.

29

The RSF supported previous actions conducive to the start of the day-ahead market for Kosovo (RM7, June 2023).

30

On April 3, ALPEX upgraded its Europex membership from associate to full. Europex is an association of European energy exchanges with 33 members. It represents the interests of exchange-based wholesale electricity, gas, and environmental markets, focusing on developments of the European regulatory framework for wholesale energy trading.

31

These power plants burn lignite extracted from nearby mines. Lignite—also denominated brown coal—has lower energy density and higher moisture content than other types of coal and therefore produces much more pollution in absence of pollution control technologies (World Bank, 2019).

32

The project is expected to align emissions from Kosova B to EU standards. Dust emissions would be reduced from 300-700 mg/Nm3 to 20 mg/Nm3 and NOx emissions from 700-850 mg/Nm3 to 200 mg/Nm3.

33

A company that is part of the consortium has filed for bankruptcy, and a new consortium is expected to be formed in 2024, with a view to start the project in 2025. The value of the contingent allocation is indicative and may change pending agreement with EU partners.

34

Previous staff analysis using the DIGNAD model suggests that potential gains of C-PIMA-like policies are sizeable.

35

NACE is the statistical classification of economic activities in the European Community.

36

A recent TA mission recommended compiling data on outstanding invoices and use these to estimate accrual numbers for certain expenditure categories.

1

The results from the "REER model" suggest a larger REER gap, but the short time series available for Kosovo (15 years) make the conclusions from this approach less robust. The EBA-lite methodology can be found at https://www.imf.org/en/Publications/Policy-Papers/Issues/2019/07/03/The-Revised-EBA-Lite-Methodology-47088.

2

IMF (2011) Assessing Reserve Adequacy, IMF Policy Paper.

3

See IMF (2013) Republic of Kosovo: Selected Issues Paper.

4

To address potential liquidity risks during the pandemic, the CBK negotiated a repo line to borrow euro liquidity from the ECB, against collateral consisting of euro-denominated marketable debt securities issued by euro area governments and supranational institutions of €100 million. In early 2024, the repo line was extended until January 31, 2025.

1

Kosovo has a strong rules-based fiscal framework. Fiscal rules include (i) a limit on public debt of 40 percent of GDP and (ii) a 2 percent-of-GDP deficit ceiling, excluding capital expenditure financed by donors and privatization receipts (investment clause).

2

Limited domestic demand for bonds was in part explained by delays in the appointment of members of the pension trust fund (KPST) Board, a key player in the domestic debt market. The latter has been resolved.

3

In a unilaterally euroized economy such as Kosovo, government deposits at the CBK are critical to maintain financial stability, providing buffers to mitigate potential adverse shocks.

4

Includes two guarantees with the EBRD—a credit line for the Deposit Insurance Fund (€24 million) and a guarantee for the Pristina Urban Transport Company (€4.6 million).

5

The fully funded scheme is managed by KPST, a trust fund holding assets of 28 percent of GDP by end-2023.

1

The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path. The relative likelihood is the staff’s subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 and 30 percent, and “high” a probability between 30 and 50 percent). The RAM reflects staff views on the source of risks and overall level of concern as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly. The conjunctural shocks and scenarios highlight risks that may materialize over a shorter horizon (between 12 to 18 months) given the current baseline. Structural risks are those that are likely to remain salient over a longer horizon.

2

Delayed disbursements from 2023 include US$100 million World Bank Development Policy Operation (DPO) and a US$40 million loan from the OPEC Fund for International Development. The latter was extended through March, when it expired.

3

In January 2024, the Constitutional Court requested a revision of several articles of the public sector wage law within 6 months. While abiding to the ruling, we will strive to meet the fiscal targets under our program.

4

A new Law on Public Financial Management, prepared with WB support and aiming to enhance the effectiveness of public expenditure and improve fiscal governance, is expected to be sent to parliament by end-2024.

6

The European Union (EU) acquis is the collection of common rights and obligations that constitute the body of EU law and is incorporated into the legal systems of EU Member States.

7

This roadmap has been published in KAS' website (https://askapi.rks-gov.net/Custom/92db7591 -c858-4a52-a34c-cab637814895.pdf).

8

KAS is also making efforts to improve the quality of national account statistics. In response to a request from KAS, an IMF technical assistance mission on national accounts statistics visited Pristina in December 2023, aiming at (i) assessing the consistency and reliability of the annual and quarterly estimates and (ii) advising on the revisions policy and dissemination practices. The IMF will provide follow-up technical assistance during the second half of 2024 to review the quarterly GDP methods and assist in improving the estimates of the components of GDP by expenditure.

9

The government is working on a new "National Strategy on Preventing and Fighting the Informal Economy, AntiMoney Laundering and the Financing of Terrorism and Financial Crimes" for 2024-28 that articulates our efforts in these areas.

10

This action will result in a decrease of pollution in and around Pristina, as 80 percent in emissions are the result of coal burning for electricity generation.

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Cover IMF Staff Country Reports
Republic of Kosovo: Second Reviews Under the Stand-By Arrangement and the Arrangement Under the Resilience and Sustainability Facility and Request for Modification of Reform Measure-Press Release; Staff Report; and Statement by the Executive Director for Republic of Kosovo
Author:
International Monetary Fund. European Dept.
Volume/Issue:
Volume 2024: Issue 147
Publisher:
International Monetary Fund
ISBN:
9798400277702
ISSN:
1934-7685
Pages:
97
DOI:
https://doi.org/10.5089/9798400277702.002

Kosovo Emigration to the European Union

(EU new work permits issued, cummulative)

Fiscal Balance Decomposition

(Percent of GDP)

Treasury Borrowing Costs

(3-year notes average coupon, in percent)

Real Tax Revenues

(Y-o-y, 12-months moving average)

Contribution to Real Credit Growth

(Percent, y-o-y)

Energy Consumption by Sector

(In percent)

RSF—Phasing of Reform Measures
Figure 1.

Kosovo: Real Sector Developments
Figure 2.

Kosovo: Fiscal Developments
Figure 3.

Kosovo: External Sector Developments
Figure 4.

Kosovo: Financial Sector Developments
Box 1. Figure 1.

Illustrative Adverse Scenario. Main Macroeconomic Variables

Contributions to the Current Account Balance

(Percent of GDP)

Pension Spending

(Percent of GDP)
Annex II. Figure 1.

Kosovo: Debt Coverage and Disclosures
Annex II. Figure 2.

Kosovo: Public Debt Structure Indicators
Annex II. Figure 3.

Kosovo: Realism of Baseline Assumptions
Annex II. Figure 4.

Kosovo: Medium-Term Risk Analysis
Annex II. Figure 5.

Kosovo: Long-Term Risk Assessment
Annex II. Figure 5.

Kosovo: Long-Term Risk Assessment
Annex II. Figure 6.

External Debt Sustainability: Bound Tests1,2