Document o f The World Bank FOR OFFICIAL USE ONLY Report No. 46671 -YF INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT PROGRAM DOCUMENT FOR A PROPOSED LOAN IN THE AMOUNT OF EURO 34.9 MILLION (US$50 MILLION EQUIVALENT) TO REPUBLIC OF SERBIA FOR PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN February 4,2009 Finance and Private Sector Development (ECSPF) South East Europe Country Unit (ECCU4) Europe and Central Asia (ECA) This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized
Transcript
Document o f The World Bank
FOR OFFICIAL USE ONLY
Report No. 46671 -YF
INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT
PROGRAM DOCUMENT
FOR A PROPOSED LOAN IN THE AMOUNT OF EURO 34.9 MILLION
(US$50 MILLION EQUIVALENT)
TO
REPUBLIC OF SERBIA
FOR
PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN
February 4,2009
Finance and Private Sector Development (ECSPF) South East Europe Country Unit (ECCU4) Europe and Central Asia (ECA)
This document has a restricted distribution and may be used by recipients only in the performance o f their official duties. I t s contents may not otherwise be disclosed without World Bank authorization.
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REPUBLIC OF SERBIA - GOVERNMENT FISCAL YEAR January 1 - December 31
ALMP B S A BSC BSE BSL C A D C A M E L CAS C E A C F A A CTR D D O R DF DFID DIA D P L EAR EBRD E C A EMS EO1 EPS EPP ESW EU FA FAU FDI FSN FY GDP GNP
CURRENCY EQUIVALENTS (Exchange Rate Effective as o f January 13,2009)
Currency Unit Serbian Dinar RSD 1.00 US$0.02 US$l.OO RSD 69.4
Metric System
ABBREVIATION AND ACRONYMS (As applicable, plus others)
Active Labor Market Programs Bankruptcy Supervisory Agency Bank Supervision Committee Belgrade Stock Exchange Budget System Law Current Account Deficit Capital, Assets, Management, Earnings, and Liquidity Country Assistance Strategy Country Environmental Analysis Country Financial Accountability Assessment Commission for the Protection o f Tenderers' Rights DDOR N o v i Sad (Serbia's 2nd largest insurance company) Development Fund UK Department for International Development Deposit Insurance Agency Development Policy Loan European Agency for Reconstruction European Bank for Reconstruction and Development Europe and Central Asia Electricity Transmission Company Expression o f Interest Elektroprivreda Srbije (Serbia's national electric power utility) Employment Promotion Project Economic Sector Work European Union Financial Advisor Fiduciary Assessment Update Foreign Direct Investments Financial Sector Note World Bank Fiscal Year Gross Domestic Product Gross National Product
FOR OFFICIAL USE ONLY
GoS HIPC IBRD ICA IDA IFC IMF IPFMA IPO JSA JSC LDP LLC M O I MDGs MME MoESP MOLSP MOERD MOF M O H MOP
MSEP MTEF MTPL MTS NBFI NBS NES N I S NMICS NPL PA PEIR PFDPL PFM PHRD PIER PLC PPFDPC- 1
PPL PPO PRSP PSN ROSC
Government o f Serbia Heavily Indebted Poor Countries International Bank for Reconstruction and Development Investment Climate Assessment International Development Association International Finance Corporation International Monetary Fund Integrated Public Finance Management Assessment Initial Public Offering Joint Staff Assessment Joint Stock Company Letter o f Development Policy Limited Liability Corporation Ministry o f Infrastructure Millennium Development Goals Ministry o f Mining and Energy Ministry o f Environment and Spatial Planning Ministry o f Labor and Social Policy Ministry o f Economy and Regional Development Ministry o f Finance Ministry o f Health Materijalno Obezbedjenje Porodice (Material Support to Families) Ministry o f Science Medium-Term Expenditure Framework Motor Third Party Liability Modernized Treasury System Non-Bank Financial Institutions National Bank o f Serbia National Employment Service Naftna Industrija Srbije (State Oi l Company) National Mortgage Insurance Corporation o f Serbia Non-performing Loans Privatization Agency Public Expenditure Institutional Review Programmatic Private and Financial Development Policy Loan Public Financial Management Japan Policy and Human Resources Development Trust Fund Public Expenditure and Institutional Review Paris London Club First Programmatic Private and Financial Development Policy Credit Public Procurement Law Public Procurement Office Poverty Reduction Strategy Paper Private Sector Note Report on the Observance o f Standards and Codes
This document has a restricted distribution and may be used by recipients only in the performance o f their off icial duties. I t s contents may not be otherwise disclosed without Wor ld Bank authorization.
RSD SAA SA1 SAC SAP SBA SBRA SDP SDR SEM SIDA SME SP SPA SOB SOE TF TPL UNDP USAID USD or US$ ZTP
Serbian Dinar Stabilization and Association Agreement State Audit Institution Structural Adjustment Credit Stabilization and Association Process Stand-By Arrangement Serbian Business Registers Agency Supervisory Development Plan Special Drawing Rights Serbia Economic Memorandum Swedish International Development Cooperation Agency Small and Medium Enterprises Social Program Sale and Purchase Agreement State-Owned Banks Socially-Owned Enterprise Transition Fund Third Party Liabilities United Nations Development Program United States Agency for International Development United States Dollar Zeleznicko Transportno Preduzece - Belgrade Rail Company
Vice President: Shigeo Katsu Country Director: Jane Annitage
Sector Director: Fernando Montes-Negret Sector Manager: Lalit Raina
Task Team Leader: Irina Astrakhan
REPUBLIC OF SERBIA
PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN TABLE OF CONTENTS
LOAN AND PROGRAM SUMMARY ............................................................................. i
I . INTRODUCTION ................................................................................................... 1 Recent Economic Developments In Serbia ............................................................... 2
THE GOVERNMENT’S PROGRAM .................................................................. 8 BANK SUPPORT TO THE GOVERNMENT’S STRATEGY .......................... 11 Link To Cas ............................................................................................................... 11
Collaboration With The Imf And Other Donors ....................................................... 11
RELATIONSHIP TO OTHER BANK OPERATIONS ............................................ 12
I V . THE PROPOSED PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN .................................................................................. 16
Policy Areas .............................................................................................................. 17
OPERATION IMPLEMENTATION ................................................................... 41 Poverty And Social Impacts ...................................................................................... 41
Implementation, Monitoring And Evaluation ........................................................... 44
The Programmatic Private and Financial Development Policy Loan (PFDPL) was prepared by an IBRD team consisting o f Irina Astrakhan (Task Team Leader). Alexander Pankov. Itzhak Goldberg. Aurora Ferrari. John Pollner. Andrej Popovic (ECSPF); Aleksandar Crnomarkovic (ECSPS). Eugene Gurenko (FPDSN); Bjorn Hamso. (ECSIE); Arvo Kuddo (ECSHD); Tijen Arin (ECSSD); Ardo Hansson. Ronald Hood. Lazar Sestovic (ECSPE); Siew Chai Ting (ECSPS); Dominique Bichara (LEGEM); and Nicholay Chistyakov (LOAFC) .
LOAN AND PROGRAM SUMMARY
REPUBLIC OF SERBIA
PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN
Borrower
Implementing Agency
Financing Data
Operation Type
Republic o f Serbia
The Ministry o f Finance (MOF) o f the Republic o f Serbia will be responsible for overall implementation o f the proposed operation. Other key ministries and agencies responsible for the implementation o f the operation wi l l include: the Ministry o f Economy and Regional Development (MOERD), Ministry o f Mining and Energy (MME), Ministry o f Infrastructure (MOI), Privatization Agency (PA), Deposit Insurance Agency (DIA), National Bank o f Serbia (NBS), Elektroprivreda Srbije (EPS), and Naftna Industrija Srbije (NIS).
IBRD loan Terms: TBD Amount: Euro 34.9 million (US$50 mill ion equivalent)
The proposed Programmatic Private and Financial Development Policy Loan (PFDPL) i s the f i rs t in a series o f three programmatic Development Policy Loans (DPLs) designed to support a multi-year program o f assistance to the Republic o f Serbia to address key institution building and reform challenges in both private and financial sectors.
The full IBRD loan i s expected to be withdrawn in a single tranche o f an amount o f Euro 34.9 million (US$50 mill ion equivalent)
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Main Policy Areas
Key Outcome Indicators
The objective o f the PFDPL will be achieved through supporting reforms carried out by the GoS which are summarized in three pillars:
Pillar I : Enhancing business environment:
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Further simplification o f business entry through implementation o f a single agency approach to business registration; Improving the legal framework for strengthening corporate governance and facilitating business entry and operations; Streamlining regulations o f business operations and reducing business compliance costs; and Improving legal and institutional framework for competition;
Improving financial discipline in the socially-owned enterprise (SOE) sector; Privatization, restructuring and bankruptcy o f socially-owned enterprises; Continuing reforms in the energy sector; and Establishment and development o f a State Audit Institution.
Pillar 111: Building a more efficient and stable financial sector: Privatization and divestment o f state-owned banks (SOB) and financial assets (NPLs, insurance companies, equities, etc.); Strengthening insurance sector regulation and resolution regime; Enhancing prudential supervision o f the banking sector; and Strengthening capital markets regulatory and supervisory regime.
Pillar 11: Strengthening financial discipline:
Reduced regulatory compliance costs o f business measured by BEEPS (9.6% o f management time in 2005), ICs and other enterprise surveys.
Unique business identification number i s introduced and assigned to al l businesses by end 201 0.
Increase o f private sector share in GDP from 55% (end 2005) to above 60% by the end o f the program in 2010, increase in private sector share in employment from 58% (end 2005) to 65% by the end o f the program in 201 0.
The Government o f Serbia’s ownership stake in the banking sector and i t s holdings in financial assets reduced from 24% in 2005 to 15% in 2008, and expected to go below 10% in 201 0; state share in insurance sector decreased from 67% in insurance premium written in 2006 to 37% in 2008, and below 30% by 2010.
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Project Development Objective and Contribution to CPS
Risks and Risk Mitigation
Operation ID
The objective o f the proposed PFDPLs is to support the Government o f Serbia reform actions in three policy areas: (i) enhancing business environment to encourage new business and to attract foreign direct investments (FDI); (ii) strengthening financial discipline by enhancing hard budget constraints in the enterprise sector through continued reform o f SOEs and restructuring o f public utilities; and (iii) building a more efficient and stable financial sector through continuing the divestment o f state ownership in the banking and insurance sectors, strengthening prudential supervision o f banking and encouraging development o f the capital markets.
The proposed PFDPL will contribute to realization o f economic growth related goals, as outlined in the f i rst priority area o f the Country Partnership Strategy (CPS): “Dynamic Private Sector Led Growth to Ensure Incomes Converge with Europe. ” The envisaged reform program would be consistent with the GoS’ aspiration for eventual membership in the European Union (EU).
The most important domestic and external political r isks have been largely mitigated with the election o f the new reform oriented government. Political risks stemming from the resolution on KOSOVO’S final status have been immensely reduced with new government’s pro-reform and EU agenda. Certain risks st i l l exist and are related to macroeconomic policy and institutional capacity. Key challenges in this regard pertain to budget and current account deficits. They are further exacerbated by potential impact o f the international financial crisis. However, the recently agreed precautionary Stand-By Arrangement (SBA) with the IMF ensures much needed fiscal discipline. NBS has sufficient reserves to meet urgent liquidity pressures and Serbian authorities have also demonstrated readiness to respond promptly and adequately to the challenges posed by the crisis.
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INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT PROGRAM DOCUMENT FOR A
PROPOSED PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN TO REPUBLIC OF SERBIA
I. INTRODUCTION
1. This program document presents the first in the series o f up to three Programmatic Private and Financial Development Policy Loans (PFDPLs) to the Republic o f Serbia to support the government’s structural reform program. The proposed operation i s in the amount o f Euro 34.9 mi l l ion (US$50 mi l l ion equivalent).
2. The objective o f the proposed PFDPLs is to support three policy areas: (i) further improve the business environment to encourage new business and to attract foreign direct investments (FDI); (ii) strengthen financial discipline by enhancing hard budget constraints in the enterprise sector through privatization or bankruptcy, o f large SOEs, and the restructuring o f public uti l i t ies; and (iii) build a more efficient and stable financial sector through continuing the divestment o f state ownership in the banking and insurance sectors, enhancing prudential supervision o f banking and encouraging development o f the capital markets.
3. The proposed PFDPL stream i s fully in l ine with the goals o f the World Bank Group’s assistance to the Government o f Serbia (Government or GoS), as outlined in the recently adopted FY08-11 Country Partnership Strategy (CPS), one o f the key areas o f which includes encouraging dynamic private sector led growth to ensure incomes convergence with European levels.
4. The PFDPL i s designed to support the government in advancing i t s financial and private sector related reforms. This PFDPL series builds o n the reforms initiated under the earlier Bank-supported operations, such as the three prior private and financial sector adjustment credits (PFSAC-I, PFSAC-I1 and PPFDPC-I) and the structural adjustment credits (SAC and SAC-11). It i s envisioned to be complemented by another D P L operation aimed at supporting Serbia’s Public Expenditure Management. The pol icy actions set in the PFDPL program will largely conclude the era o f fast-track transition reforms in private and financial sectors o f the Serbian economy. The private and financial sector reforms outside the PFDPL context will require a shift from immediate, near-term needs to medium- and longer-term results.
11. COUNTRY CONTEXT
RECENT ECONOMIC DEVELOPMENTS IN SERBIA
5. The economy has grown strongly in recent years, following significant economic changes since 2000. In spite o f a drought, real GDP growth in 2007 reached 7.5 percent, the second highest since the start o f the transition. Non-agricultural growth averaged 7.6 percent over the past three years, driven by the services sector which has been growing at double digit rates (in particular trade, financial services and transport and telecommunication). Output has risen by nearly 50 percent since 2000, as the corporate sector started to post profits and the banking sector was restructured. The positive supply response also appears to reflect increases in productivity and output o f recently privatized and de novo f i rms, as evidenced by the particularly rapid rates o f output growth in precisely those sectors which have recently undergone extensive privatization (e.g., steel, cement, rubber, tobacco, dairy, sugar, and banking) or attracted foreign investors.
Table 1: Kev economic indicators 2005 2006 2007 2008 est.
National Accounts
GDP (US$ millions) Real GDP growth (YO) Gross domestic investment (% o f GDP) Gross domestic savings (% o f GDP)
Public Sector Balance (as % o f GDP)
Expenditures
Revenue 31 Balance 3/ Public debt as %GDP
External Accounts, (millions o f US$)
Exports o f goods Imports o f goods
Current account balance, after grants (millions o f US$) Current account balance, as % o f GDP
Indebtedness (external debt)
TDO/GDP TDOKGS
Prices and Monetarv Indicators
o/w public investment
Retail price inflation (e.0.p.)
25,361 6.0
23.6 2.8
42.0 2.7
42.8 0.8
56.0
4,970.2 10,259.8
-2,194.0 -8.7
64.0 245.6
17.7
29,7 16 5.6
23.6 2.4
45.2 4.0
43.6 -1.6 42.5
6,44 1.9 12,712.6
-2,986.2 -10.0
63 .O 213.8
6.6
39,854 7.1
24.4 0.6
44.9 4.7
43.0 -1.9 34.2
8,755.6 17,886.0
-6,333.5 -15.9
61.1 204.2
10.1
49,348 6.0
23.9 -0.5
44.9 3.8
42.8 -2.1 33.6
10,972.9 22,293.6
-8,886.4 -18.0
66.2 219.1
6.8 M2, as % o f GDP 11.4 14.2 16.8 14.4
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6. Rapid growth during 2005-07 has been led by aggregate demand. Overall investment levels have remained roughly constant in recent years, and slightly increased to 24.4 percent o f GDP in 2007, although public investment levels have been rising from 2.7 percent o f GDP in 2005 to 4.7 percent in 2007. Real private sector consumption has been growing rapidly and increased by nearly 10 percent in 2007 alone. It took place on the back of:
a) a credit boom: Serbia continued to experience rapid credit growth which for 2007 i s estimated to be 16.1 percent (average for the year); and the key driver o f that growth was credit to households which grew by more than 5 1 percent in 2007 (average for the year);
b) expansionary fiscal policies and significant increases in public spending: consolidated general government spending reached 44.9 percent o f GDP in 2007, up from 42 percent in 2005, driven by increases in both capital and current spending;
c) increases in real wage levels: the total year-on-year real gross wage increase was 17.9 percent in 2007, on top o f 12.1 percent in 2006;
d) rapid increases in exports: exports increased on average 29.6 percent annually (in dollar terms) over the 2005-07 period, albeit from a low base.
7. Growth in 2008 i s estimated to reach 6 percent, driven by continued strong services sector performance, a much better agriculture season, and a 1.3 percent real growth in manufacturing, as well as an acceleration o f export growth o f 24 percent in dollar terms (in particular o f material products). Preliminary figures for 2008 also indicate more modest and sustainable real wage increases, a relatively small fiscal deficit o f about 2 percent o f GDP, and continued decline o f public debt as share o f GDP.
8. Inflationary pressures have reemerged in the f i rst half o f the year, but went down afterwards. Since September 2006 the National Bank o f Serbia (NBS) has been gradually moving towards inflation targeting, with explicit objectives for core inflation. The National Bank o f Serbia has increased the rep0 rate by 775 basis points during 2008. Nevertheless, credit has been increasing rapidly and inflation (measured by retail prices index) reached 12.3 percent (y-0-y) in October 2008, but has fallen to 6.8 percent by the end o f 2008. There were important supply side effects in the first part o f the year, including higher global prices o f food and agricultural products (contributing to nearly 50 percent o f total inflation over the past year), and oi l products and electricity (contributing about 30 percent o f total inflation). These pressures declined with the global decline in commodity prices. However, core inflation i s currently running at about 10 percent, well above the NBS target rate for 2008 o f 3-6 percent. Since the NBS has started i t s move towards inflation targeting, there has been increased exchange rate variability, and a significant overall appreciation o f the dinar, which reached a 4-year high against the euro in August 2008. However, since then dinar started to depreciate significantly and especially since early October. The first direct impact o f the international financial crisis manifested i tse l f in pressure on dinar which lost 10.9 percent against the euro in October alone. Throughout 2008 dinar depreciated by 1 1.8 percent.
9. A major concern for policy makers i s the widening o f the already high current account deficit (CAD). In 2007 the CAD reached 15.9 percent o f GDP, a record high level
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since the beginning o f transition. For 2008 a further deterioration o f the CAD to 18 percent o f GDP i s projected. In the first three quarters o f 2008 the CAD was USD 7 billion or 14.2 percent o f projected annual GDP.'
10. N e t FDI covered about 87.2 percent o f the current account deficit during 2005-07. Foreign direct investments (net) are estimated to be 6.3 percent o f GDP in 2007, while portfolio investments reached 2.3 percent o f GDP. N e t foreign loans increased from 9.6 to 13 percent o f GDP. As a result o f the large surplus in the capital account, gross international reserves increased from USD 11.9 billion (EUR 9 billion) at the end o f 2006 to USD 14.2 billion (EUR 9.6 billion) as o f December 2007 when they represented a record high coverage o f prospective imports (7.5 months). In 2008 the reserves in dollar terms reached a peak in March (USD 15 billion) while in Euro terms they peaked in September (EUR 9.7 billion). In October the National Bank o f Serbia began to intervene in the foreign exchange market, selling EUR 266 million, and reserves declined to EUR 9.3 billion by the end o f October. Significant intervention at the inter-bank foreign exchange market continued in the later months and consequently reserves declined to USDl 1.5 billion (EUR 8.1 billion). In the f i rs t three quarters o f 2008 net inflows o f FDI were USD 2.4 billion (4.9 percent o f the annual GDP).
11. Private external debt continues to increase rapidly while the public debt stock i s declining. External debt outstanding as a percentage o f GDP i s estimated to have decreased slightly from 63 percent in 2006 to 6 1.1 percent in 2007 despite the increase in private sector borrowing due to solid growth o f the economy and exchange rate valuation effects. In dollar terms, foreign debt increased from U S 19.6 billion at end-2006 to US 26.2 billion at end- 2007. The share o f the private sector in external debt has increased significantly over the last several years and at the end o f 2007 i s estimated to be around two-thirds o f the total. Public debt (including both domestic and foreign) as a share o f GDP declined from 42.5 at the end of 2006 to an estimated 34.2 percent at the end o f 2007. Most o f the public debt i s denominated in foreign exchange (95.4 percent). At the end o f November 2008, the total stock o f external debt (public and private) reached USD 27.9 billion. Short term debt accounts for 9.8 percent o f total external debt.
12. Given signals o f growing macroeconomic imbalances with external and financial vulnerabilities, insufficient fiscal restraint would be a serious risk to macroeconomic stability in Serbia, especially in the light o f the ongoing international financial crisis. The fiscal deficit o f the consolidated government sector for 2007 was around 1.9 percent o f GDP, following a deficit o f 1.6 percent in 2006. Although revenues have continued to grow (from 35.8 percent o f GDP in 2001 to 43 percent o f GDP in 2007), both capital and recurrent spending have grown even faster. As in previous years, a key generator o f the deficit remains the social insurance funds (health, pension and unemployment insurance funds) which on average over the last couple o f years ran deficits o f over 5 percent o f GDP. The deficits o f social insurance funds are covered by transfers from the central government budget.
There are some measurement issues with the CAD. Using the revised methodology o f the National Bank o f Serbia, where a port ion o f remittances has been transferred from the financial t o the current account, the C A D (after grants) increased f i o m 9.7 percent o f GDP in 2006 t o an estimated 12.4 percent in 2007 and i s forecast to deteriorate further last year. There are also issues with the treatment o f reinvested dividends o f foreign owned corporations which if taken into account would at least partially offset the effect o f the alternative treatment o f remittances on the size o f t h e CAD.
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13. Given Serbia’s already high public revenue-to-GDP ratio, limiting growth o f overall public spending will be one o f the major challenges o f the Government, especially given the plans to increase spending for much-needed infrastructure investments. Expenditure reprioritization and a reduction o f current expenditures will be critical. Delivery on election campaign promises would increase the expansiveness o f fiscal policy and undermine macroeconomic stability. The fiscal deficit in 2008 w i l l crucially depend on budget execution in the last quarter (including o f the investment projects) since in the first three quarters the fiscal deficit was 1 percent o f annual GDP. The deficit originally projected for the whole year was 1.9 percent o f GDP, but due to some one-off but very costly measures the deficit for the year might rise to 2.1 percent o f GDP.
14. Potential impact offinancial crisis and mitigation measures put in place. As a result o f the global financial turmoil, the risk o f instability in the domestic financial sector has also increased. However, past tight prudential policies are now paying of f in providing a strong I
f i rs t l ine o f defense against financial crisis spillover. Increased financial sector stability risk stems mainly from recent rapid credit growth in the banking sector, primarily in Euro or Euro indexed loans and guarantees extended for cross-border borrowing o f companies. However, this risk i s tempered by the large current liquidity (liquidity rate o f 31% as o f October 2008) and capital buffers (CAR o f 26% as o f the same date) o f the banking system.
15. With regards to enhancing market confidence, GoS and NBS responded promptly to a withdrawal o f some 15 percent o f foreign currency deposits during the month o f October 2008. They put in place a series o f confidence building measures, including stepping up ongoing monitoring o f liquidity in the banking system and early warning indicators (see Box 1). Withdrawals since the end o f October have slowed very sharply and are now negligible. Moreover, much o f the net reduction in deposits in October was balanced by injections o f liquidity from home country banks, hence the liquidity remains high.
Box 1. NBS and GoS Stabilization Measures in Response to Financial Crisis
GoS and NBS have taken a number of measures to sustain market confidence and increase liquidity in the system and step up monitoring:
Market confidence
Monitoring
Liquidity
Appointment of crisis management group Increase of deposit insurance coverage to Eur 50,000 per deposit (from Eur 3,000)
Enhanced supervision with development o f liquidity and early warning indicators monitored on a daily basis Targeted diagnostic examinations of the level of banks’ liquidity and policies for liquidity management Systemically important banks have to submit 2009 business plans and information on early repayment o f cross- border loans
Mandatory reserves abolished for new cross-border borrowing for financial leasing companies; and cross-border lines of credit, including subordinated credit lines Updated guidelines on liquidity risk management, in line with Basel principles Reduced tax on foreign currency savings Increased share o f foreign currency mandatory reserves (from 20 to 40%) kept in domestic currency to increase banks’ foreign currency liquidity and withdraw excess dinars from circulation Reduced banks’ net open foreign currency position from 20 to 10%
In addition, to mitigate the effects of the crisis on the economy and to minimize potential corporate default, NBS has agreed with the banking sector on the following temporary measures for 2009: i) extension o f the repayment period of the existing loans up to 1 year for credit worthy clients; ii) no penalty fees for early loan repayment.
Corporate Debt Workout
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16. Recognizing the risks inherent in the current international financial situation and the large CAD, Serbia requested a Precautionary Stand-By Agreement (SBA) with the IMF. O n November 13, the Fund mission and the Serbian government reached agreement on an economic program supported by a potential loan o f U S D 516 mi l l ion (75 percent o f the quota). The agreement limits the overall 2009 budget deficit to 1.75 percent o f GDP and incorporates a freeze on increase in pensions in 2009, a freeze on public sector wages (in real terms) and a significant cut in subsidies. In addition to fiscal tightening the Fund agreed with the government to accelerate structural reforms in order to create an environment for faster private sector development (including privatization o f remaining state banks and large state enterprises and legal reforms that will improve business environment). Additional provisions o f the SBA define the roles and responsibilities o f the Deposit Insurance Agency and other authorities based on a Fund Financial Crisis Preparedness Review which judged the legal basis for crisis preparedness to be sound but noted that smooth implementation o f i t s provisions, should the need arise, may prove challenging. Since Serbia has a comfortable international reserve position and continued access to external financing, the SBA has been formulated under regular, not exceptional, procedures and access limits. The Serbian government indicated that it does not intend to draw on resources made available under the SBA, unless the need arises. The IMF’s Board adopted this arrangement on January 16,2009.
MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY 17. The Serbian economy will be affected by the international financial crisis, l i ke other countries from the region, but growth i s projected to stay at around 4 percent per year over the medium term. This represents a downward revision o f some 2-3 percentage points f rom earlier estimates but s t i l l represent relatively solid growth relative that projected for other European economies. Serbia’s success during the first years o f transition (2001-2004) was primarily due to the implementation o f key structural reforms typical for transition economies (such as liberalization o f foreign trade, privatization o f socially owned enterprises etc.) which set the stage for fast growth in the future. However, these growth projections are associated with some uncertainty, and could be revised upwards or downwards depending on the depth and length o f the financial crisis. The Serbian economy to large extent depends on availability o f credit and investment from abroad, and receives annually about 9 percent o f GDP in the form o f remittances. Under the presented scenario, investments are projected first to decline slightly (in 2009) but then to recover to levels similar to those o f the last two years (reaching 24.5 percent o f GDP by 201 1). These levels are s t i l l below those characteristic o f the fastest growing economies o f the region. Inflation is projected to decline again to single digit levels by the end o f this year and to continue declining to levels o f 6-8 percent thereafter.
18. As part o f the agreement with the IMF, the Serbian government committed to cutting public expenditures more significantly relative to GDP. The deficits o f 1.8-2 percent o f GDP that characterized last couple o f years will decline to about 1 percent o f GDP. Consolidated general government expenditures are projected to decline significantly next year: from 44.9 percent o f GDP this year to 43.7 percent. A similar trend i s projected through 201 1 , when public expenditures are projected to reach 42 percent o f GDP. Public revenues are projected to decline as well, but at a somewhat slower pace, thus these will come down from 42.8 percent o f GDP (as i t i s estimated for 2008) to about 41 percent o f GDP by 201 1. These projections incorporate the changes in fiscal policy envisaged by the new arrangement with the IMF which limit the consolidated general government deficit to 1 percent o f GDP.
19. The medium term macroeconomic projections for Serbia shown above have been revised twice since preparation o f the CPS, most recently in December 2008. They reflect ongoing developments in the financial crisis as well as new fiscal polices adopted in l ine with the Fund program. The debt position i s now projected to deteriorate (as indicated by increased the share o f external debt to GDP) but will then improve in the later years o f the projection period. External debt as share o f GDP i s projected to decline significantly in 2008 and then to increase gradually through 20 10. It will only to start to decline again in 20 1 1. In 2007 total debt outstanding was 61.1 percent o f GDP, and in 201 1 it i s projected to reach 75.1 percent of GDP. It i s important to stress that the composition o f external debt will shift towards the private sector which will account for about 80 percent o f total external debt by 201 1. This partly reflects the expected continued borrowing o f foreign owned commercial banks operating in Serbia from their headquarters abroad. Public debt (both domestic and external) i s projected to continue to decline from 30.2 percent o f GDP in 2007 to 24.9 percent in 201 1, as fiscal deficits are going down and are expected to be easily funded by non-debt creating inflows (i.e., privatization revenues).
20. Some r isks to Serbia’s external debt sustainability remain, particularly given continuing external imbalances. The current account deficit (after grants) remains very high2 and i s projected to increase from 15.9 percent o f GDP in 2007 to 18 percent o f GDP this year. Thereafter it wi l l begin to decline, reaching 12 percent o f GDP in 201 1 primarily as a consequence o f a decline in the trade deficit from 23 percent o f GDP in 2007 to 16.6 percent by 201 1 , largely because o f declining imports rather than increased exports. Private transfers, Le., remittances, at the level o f 8-9 percent o f GDP wi l l remain a key factor keeping the CAD at a more sustainable level until export growth picks up. Following a massive buildup in the period to 2007, external reserves are projected to decline slightly in 2009 (by about 8 percent in euro terms) and then wi l l rise after 2010.
* National Bank of Serbia have recently revised the Balance of Payment methodology and as a result revised the figures for the Current Account Deficit in 2007 from 15.5 to 12.4 percent o f GDP.
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21. Over the projected period 2009-201 1 , Serbia will have financing requirements o f about 32.4 percent o f GDP to cover i t s C A D o f about 14-15 percent o f GDP, and to regularly service i t s debts (amortization accounts for most o f the remaining amount). Reserves are projected to change only marginally in nominal terms. A significant portion o f these financing requirements will be covered from non-debt creating inf lows such as foreign direct investment and other capital inf lows (including portfolio investments). These two categories are projected to be about 8-9 percent o f GDP, or approximately one third o f financing requirements. However, a major part will be provided through borrowing from abroad - either by private or government sector. Private sector borrowing will rise with i t s share in total external debt outstanding reaching 80 percent by the end o f projection period.
22. Despite the GoS’ mitigation measures aimed at easing the impact o f the financial crisis, Serbia will not remain immune to the effects o f the global turmoil, which are expected to significantly slowdown economic activity in 2009. Ensuring macroeconomic stability will require government’s continued commitment to structural reforms and adequate response to any adverse development^.^
11. THE GOVERNMENT’S PROGRAM
23. The PFDPL operation i s designed to support concrete Government led reforms structured in three pillars. Pillar 1 o f the proposed PFDPL operation aims to strengthen the business environment; Pillar 2 is designed to further strengthen the fiscal discipline through reducing the f low o f direct and indirect subsidies to the enterprise sector and, at the same time, accelerating the resolution o f remaining SOEs; and Pillar 3 will encourage further financial sector reforms through divestments and institutional strengthening.
24. As to Pillar 1, the improvement o f business environment i s a key factor for ensuring sustainable private sector growth and job creation. While implementation o f the government programs focused o n privatization o f state- and socially-owned enterprises and strengthening fiscal discipline led to increase o f productivity and freed up scarce government resources, the future economic growth and job creation will depend on the emergence and successful development o f a dynamic private sector. To that end, in the last few years the GoS has embarked on a series o f successful reforms aimed at improving the business environment. Moreover, the government has closely coordinated i t s plans and actions with the representatives o f the private sector, such as the Foreign Investors Council, and it has conducted intensive stakeholder consultations in order to address the ongoing business concerns and stimulate further investments.
25. Some recent notable successes include implementation o f a comprehensive reform o f business entry that led to the transfer o f business registration from judicial to purely administrative process managed by the Serbian Business Registers Agency (SBRA); adoption o f such key elements o f commercial legislation as the Company Law and a new Bankruptcy Law; enhancement o f access to finance by adopting Secured Transactions Law, Leasing L a w and Mortgage law and establishing Pledge and Leasing registries; coordination o f Government reform efforts through the Regulatory Reform Council and introduction o f a Regulatory
Macroeconomic outlook i s subject to revision given the uncertainties associated with the global economic crisis and an updated version wil l be presented during the Board discussion.
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Impact Assessment (RIA) in Serbian legislative process. These reform efforts have been acknowledged in the World Bank 2006 Doing Business Report that identified Serbia as one o f the top 10 reformers in the world. However, political developments between 2006 - mid 2008, including the dissolution o f the State Union o f Serbia and Montenegro in June 2006, national referendum on a new Serbian Constitution, KOSOVO’S unilateral declaration o f independence in early 2008, and two Parliamentary elections a year from each other (2007 and 2008), followed by the difficult prolonged negotiations between the political parties on formation o f the new Government, delayed the implementation o f the planned business environment reforms. Though there was no significant absolute worsening in the business environment observed, businesses in Serbia continue to encounter a number o f administrative barriers and substantial regulatory compliance costs.
26. The Government i s committed to reinvigorate the reform efforts and pursue unfinished reform agenda in improving the business climate. The World Bank stands ready to assist it. Priority areas that have been agreed upon include: (i) further streamlining o f business registration procedures with an aim o f creating a one-stop shop for business registration and eventually introducing a single identification number; (ii) improving legal framework for strengthening corporate governance and facilitating business entry and operations by introducing amendments to the Company Law; (iii) simplifying regulations o f business activities and reducing business compliance costs through the implementation o f a comprehensive regulatory review, the so-called guillotine), and (iv) improving legal and institutional framework for competition.
27. With regards to Pillar 2, the GoS i s committed to strengthening the fiscal discipline which i s necessary to attain permanent fiscal adjustment, but also required to facilitate the restructuring o f the real sector. Whilst GoS has made good progress in tightening fiscal policy in 2004 and 2005 - there was a significant reduction in the deficit o f the consolidated general government in 2004 (3 percentage points o f GDP) and surplus in 2005 - the size o f the government remained among the largest in the region. Also, most o f the deficit reduction to date reflected buoyant revenues owing to strong economic growth, inflation and better tax collection rather than efforts to contain spending. Further, 2006 and 2007 witnessed deterioration in fiscal policy, and as a result a fiscal deficit o f 1.6% and 1.9% o f GDP in 2006 and 2007 respectively. Building on the achievements o f PPFDPC-I, under this operation the GoS will pursue a two-pronged strategy o f (i) containing the direct and indirect subsidies to the enterprise sector and (ii) accelerating resolution o f the remaining SOEs.
28. In pursing permanent energy sector reforms, Serbia has committed to integrate its energy sector into the regional and pan-European oil, power and natural gas markets and i s seeking to enhance energy security through obtaining foreign investments in transit pipelines for natural gas across Serbia. The Government recognizes the need for continued rehabilitation and modernization o f its energy infrastructure, and sees further restructuring and private sector participation as tools to achieve cost-efficient improvements in the sector. In parallel, GoS i s focusing on energy efficiency in the supply chain as well as in energy consumption, and movement towards cost-reflective tar i f fs i s one o f the elements in the strategy. Furthermore, the Government wants to support renewable energy sources and environmentally acceptable technologies for energy utilization.
29. As to Pillar 3 on financial sector reforms, substantial progress has been made in terms o f privatization and sale o f assets and strengthening o f the legal regulatory framework for both
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the banking and insurance sector. As a result o f these reforms, the financial sector i s now mainly private, foreign players dominate both markets and both markets have expanded significantly. Recently, the Government has also started a review o f the key capital market legislation to promote i t s development. Notwithstanding the considerable progress to date, it is important that GoS completes the privatization process o f the bank and insurance sectors, continues to transition to risk based supervision, approves the motor third party liability law and continues to promote the development o f capital market.
30. Thanks to a substantial privatization effort, including the recent privatization o f three banks (Vojvodjanska, Panonska and Komercialna) only 17.2% o f banking sector assets i s s t i l l state owned. This stood at 43.7% in 2002 when the privatization process started and following the closure o f four largest banks overnight in 2001. Currently, the majority o f the sector (over 70% o f total assets) i s foreign owned, mainly by European groups. In 2007, lending to SOEs was at only 2.1 % o f total lending and was primarily extended by private banks to profitable SOEs. As a result o f the reform, the sector has not only become more stable, but has also expanded substantially, with banking sector as a percentage o f GDP reaching 67% in 2007, and insurance premium increasing by 120% over the 2002-2007 period.
3 1. A major effort to strengthen banking sector supervision has been undertaken with the approval o f a new Law on Banks in 2005 and the new law introduced consolidated risk based supervision, thus addressing a key issue raised in the 2005 FSAP. The new L a w on Banks has also been supported through the adoption o f a number o f regulations. To date these include an updated supervision operating policy, an amended procedural guide on remedial actions, new bank licensing procedures, a new IFRS-compliant banking chart o f account, and new capital adequacy requirements for market and foreign exchange exposures. N e w regulations on risk management, liquidity, loan classification, consolidated financial group reporting and related capital adequacy and reporting requirements have been drafted. NBS has also put considerable effort in the implementation o f the new framework by standardizing supervisory procedures and training inspectors on risk-based supervision.
32. Insurance supervision has also been improved thanks to a complete revamping o f the legal framework, including the introduction o f a licensing requirement for insurance agents, and the enhancement o f the quality o f supervision and o f enforcement. As a result, there has been substantial consolidation in the sector; over the 2001-2008 period, the number o f companies has shrunk from 40 to 21. State ownership in the sector has been substantially reduced. Finally, the work on motor third party liability (MTPL) i s underway.
33. The Government has started a comprehensive review o f the key relevant legislation for capital markets development, the Law on Securities, the Law on Takeovers and the Company Law. Amendments to the Securities Law will take care o f immediate problems until the full review i s completed which will ultimately ensure that conflicts between the three laws are eliminated and they are in line with international standards. Further, the Government i s committed to the establishment o f a long term government bond market and i t has set up a working group to study the legal and institutional framework for a bond market including corporate, municipal, and government bonds. In order to proceed with the restructuring program o f the state owned utilities, the GoS i s preparing legislation to corporatize public ut i l i t ies (Le. to transform them into companies with a structure that i s in compliance with Serbian company and securities laws). Additionally, there is a need to repeal o f a 1996 Law on Assets o f the Republic o f Serbia, which created an anomaly whereby state owned
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companies do not own the assets that they use. The Government also intends to privatize or ensure private sector participation in certain public enterprises through IPOs or sales in the market. This recognizes the increasing strength o f the Belgrade Stock Exchange as a mechanism not only for secondary market trading, where citizens and workers entitled under the Law on Gratis Shares can buy and sell, but also as a place where primary fund raising can be carried out as well. Finally, the Government will improve the institutional arrangements for capital markets by providing the Securities and Exchange Commission with more responsibilities and ensuring i t s impartiality and independence.
111. BANK SUPPORT TO THE GOVERNMENT’S STRATEGY
LINK TO CAS
34. The FY08-FY11 CPS for Serbia, approved by the Board in December 2007, envisages this PFDPL as a base case operation for FY08-FY09. In broader terms, the CPS outlines a possibility for a set o f consecutive development pol icy operations over a three-year period, depending o n the needs and financing requests o f the GoS. This PFDPL would be the f i rs t o f such operations, as envisaged in the CPS.
35. The objectives o f the PFDPL are consistent with key objectives and expected outcomes under the first priority area o f the Serbia CPS: “Dynamic Private Sector Led Growth to Ensure Incomes Converge with Europe.” The proposed PFDPL would address a set o f objectives outlined under this priority area, such as (i) further improving the business environment, particularly cumbersome licensing and permit arrangements; (ii) strengthening the financial sector intermediation; (iii) completing divestiture o f socially-owned enterprises; (iv) strengthening enforcement o f bankruptcy and other mechanisms to ensure the assets o f insolvent socially-owned enterprises unable to be sold can be freed up for productive use; (v) continuing the process o f privatizing and restructuring o f large state-owned enterprises; and (vi) strengthening the competitiveness o f the enterprise sector. A number o f potential PFDPL triggers and program outcomes are featured in the Policy Matrix.
COLLABORATION WITH THE IMF AND OTHER DONORS
36. The success o f reforms in Serbia over the f irst seven years o f transition was substantially stimulated by the effective collaboration and coordination between the Bank and other key donors. The Bank maintains close working relations with the IMF and other donors assisting the GoS for the purposes o f harmonizing policy recommendations, seeking synergies among the respective operations, and avoiding overlaps. The IMF has been primarily focused on the short-term impacts o f the reforms on macroeconomic stability while the Bank has focused on the medium-term impacts o f structural reforms. The Bank also maintains very good relations and keeps ongoing policy dialogue with various bodies o f the EU, either in i t s headquarters in Brussels or in Belgrade.
37. The IMF and Serbia have successfully completed one Stand-by and a three-year Extended Arrangement since 200 1. The final review under the Extended Arrangement was completed o n February 07, 2006 after two extensions. Fol lowing the successful completion o f the Extended Arrangement, the IMF has maintained regular Article I V consultations with Serbian authorities, the last one completed in February 2008. In 2006 the Serbian authorities
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decided to use part o f their privatization revenues to prepay major creditors, including the IMF. During the 2006 Serbia prepaid about U S D 600 mi l l ion to the Fund while the remaining balance due to the Fund was amortized in the f i rs t quarter o f 2007, thus completely clearing the outstanding debt. Given the abrupt change in global financial environment and in order to safeguard macroeconomic and financial stability, Serbian authorities have requested a precautionary Stand-By Arrangement with the IMF. During the course o f the Fund’s mission in Serbia in November 2008 the main parameters o f the economic program were agreed upon, and the IMF Board approved the SBA on January 16,2009.
38 . Overall, the Bank has maintained a robust dialogue with the donor community in Serbia in order to avoid duplication o f efforts and leverage support for the GoS’ reforms. The Bank is an active participant in macro-level donor coordination mechanisms led by the GoS, and the Bank also coordinates efforts on specific thematic fields directly with other donors. This includes the European Agency for Reconstruction (EAR) and USAID on enterprise sector reform and improving bankruptcy regulatory regime and i t s enforcement, the U.S. Treasury, SIDA and the DFID on support to the Deposit Insurance Agency’s mandate and U S A I D on its long-standing support to the N B S Supervisory reform initiative. The collaboration between the Bank and SIDA also includes supporting the Serbian Business Registry, development o f regulatory reform strategy, and regulatory impact assessment.
39. The Bank has been closely coordinating with other donors engaged in supporting financial sector development in Serbia, especially related to banking sector restructuring. In particular, the Bank has consulted with EBRD which has equity stakes in two banks with significant state ownership, ensuring close donor coordination in supporting the government’s efforts to further strengthen the banking sector. Most recently, the Bank has been closely coordinating with Swiss Secretariat for Economic Affairs which is finalizing i ts assistance program to the Government o f Serbia related to restructuring and privatization o f state owned banks. The Bank’s coordination and cooperation with the European Union, Serbia’s most important current and future development partner, i s increasing and deepening since practically al l World Bank assistance is aimed at helping Serbia in the process o f convergence with the European Union. Finally, the GoS has received a PHRD grant from the Government o f Japan for the preparation o f this operation.
RELATIONSHIP TO OTHER BANK OPERATIONS
40. The proposed PFDPL program follows closely the Programmatic Private and Financial Development Policy Credit (PPFDPC- 1) and a successful series o f two consecutive Private and Financial Sector Adjustment Credits. The PFSAC-I, with a total commitment o f USD 85 million, closed in June 2003 with a highly satisfactory outcome. This credit focused on initial reform measures in five areas: (i) banking sector reform; (ii) reform o f socially- owned enterprises; (iii) bank asset and enterprise workouts; (iv) financial sector regulatory and supervisory framework; and (v) business environment reform.
41. The PFSAC-11, with a total commitment o f U S D 80 million, put in place the medium- term reforms agreed upon in PFSAC-I. I t s overall objective was to support the GoS’ program o f regulatory, institutional, and structural reforms seeking to significantly accelerate private sector growth through: (i) improving the business enabling environment by means o f comprehensive reform o f enterprise entry, operation and exit; (ii) strengthening the financial system by improving the environment under which banks and other financial intermediaries
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operate; (iii) privatizing and/or liquidating outdating majority state-owned banks; and (iv) privatizing and restructuring socially-owned enterprises that crowd out private sector growth and incur significant fiscal and quasi-fiscal costs.
42. Under the PPFDPC-1 closed in March 2006, with a total commitment o f USD 55 million, the GoS has successfully completed core pol icy actions in: (i) strengthening the fiscal discipline in enterprise, energy and transport sectors, and attracting foreign investment; and (ii) building a more efficient and stable financial sector and improving access to finance. To strengthen the fiscal discipline, the GoS reduced subsidies and continued with divestiture o f SOEs through privatization and bankruptcy; and pursued reforms in the energy and railway sector.,The GoS activities aimed at building more efficient and stable financial sector focused on continued privatization and divestment o f state-owned banks and financial assets; strengthening insurance sector regulation and resolution regime; and improving access to finance through the adoption o f a mortgage law.
43. Implementation o f the reform agenda under the PFSAC and PPFDPC-1. programs benefited considerably f rom and was facilitated through two grants, the Private Sector Development Technical Assistance (PSD TA) and Financial Sector Development Technical Assistance (FSD TA), followed by the recently completed Privatization and Restructuring of Banks and Enterprises Technical Assistance Credit. These operations provided technical assistance and institutional capacity building for (i) privatization and bankruptcy o f SOEs; (ii) implementation o f a comprehensive banking and insurance sector restructuring strategy targeted at creating a more viable financial sector; and (iii) improvement o f the business environment for business entry and sustainable operations.
44. In addition to the private and financial sector reform dimensions outlined in the above mentioned operations, the Structural Adjustment Credit (SAC) program has also laid a foundation for the implementation o f the envisaged PFDPL program. In particular, the SAC-I1 focused on: (i) improving the business climate; (ii) institutional development and improving performance within the energy sector; (iii) strengthening social protection; and (iv) improving public administration. The planned DPL operation to support the Public Expenditure Management will provide assistance to the GoS in wider public financial management issues.
45. The approved Bor Regional Development Project, which included supporting the government in the assets resolution o f copper mining and smelting complex RTB Bor, pursues objectives that are cross-reinforcing with those o f PFDPL, as RTB Bor was the single largest recipient o f GoS subsidies to the SOE sector.
LESSONS LEARNED
46. The PFDPL program builds upon the experience accumulated during the preparation and implementation o f the previous private and financial sector operations. This experience has demonstrated that an integrated approach i s needed to reform the financial and enterprise sectors in parallel. Under the earlier programs, financial sector reform aimed to boost financial intermediation, encourage domestic savings and generate much needed liquidity to support real sector expansion. Concurrently, the continued privatization o f SOEs and the adoption o f early measures to strengthen the business climate drew in increased foreign investments.
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47. A key lesson from other transition experiences and from the first seven years o f transition in Serbia was the need for sequencing: the init ial steps should be the immediate goals o f price liberalization and fiscal stability, followed by structural reforms in industrial enterprises and banks and, only then, in the third stage, pursue reforms in util i t ies, non- banking institutions and capital markets. Moreover, due to the political economy o f post- conflict Serbia, it was important to start enterprise privatization with sellable companies - or “early wins” - and only later move onto restructuring o f the politically sensitive large loss- makers. The focus o f the three stage sequencing must include lessons o n the timing and design o f social policies aimed at directly addressing poverty reduction and mitigating some o f the adverse social impacts potentially caused by the three transition stages. In parallel, from the start o f the reforms, long-term efforts should be undertaken which are aimed at creating a robust, transparent regulatory and institutional framework for utilities, financial markets and the business environment. In the case o f utilities, privatization should be preceded by unbundling and commercialization on the basis o f an appropriate market structure. Moreover, the negative experience o f some transition countries forewarns that the proper preparation i s required to attract interest f rom international reputable strategic investors.
48. In recent years, Serbia has proven to posses sufficient technical capacities be very effective in implementing economic reforms. However, given an unstable political situation the pace o f reform has been noted to be stop-go. Therefore, in designing this programmatic approach the Bank has adopted a modular strategy, striving to ensure that the achievements in the f i rst D P L are incremental and largely irreversible, serving as a strong foundation for further structural reforms later on in the program.
49. Reform implementation i s heavily dependent upon an effective. champion who takes the early ‘ownership’ o f the reforms sought. Equally, i t is important that the domestic reform champions are wel l advised as to the positions assumed and actions taken. For example, the willingness o f key counterparts at N B S and M O F to take key decisions, inter alia, to significantly reign in regulatory forbearance, take additional robust measures to further strengthen the bank and insurance regulatory regimes, withdraw licenses o f banks and insurers and offer a number o f state-owned banks and assets for sale has enabled the financial sector reform agenda to be substantially advanced. Similarly, the effective management o f the enterprise privatization process by M O E and P A facilitated progress in the reforms o f the socially-owned sector.
50. The ability to provide extensive technical assistance on a timely basis has been crucial to enabling the PFSAC-I and I1 operations to achieve their objectives. As well, the early provision o f substantial grant funding and the effective coordination by the Bank o f support from bi-lateral donors (notably EU, DFID, PHRD and USAID) proved critical for developing institutional capacity at the DIA, PA and N B S to implement early high impact measures.
51. Finally, it i s important to note that Serbia differs from most other transition economies in two ways. First, i t s system o f socialism, based on worker management and the concept o f “social capital,” did not entail classic central planning; and secondly, due to the break-up o f the former Yugoslavia and the resulting conflict and sanctions, Serbia was relatively late in embarking o n the journey to a full-fledged market economy. These factors meant that the fundamental transitional task o f reforming banks and enterprises had to be adjusted to these different ini t ial conditions and to take lessons o f experience into consideration: auctions replaced voucher privatization, so typical for many other transition
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economies, the four largest state-owned banks were closed and lastly, the approach to restructuring o f uti l i t ies and o f the largest loss-makers has been more gradual than that o f the early reformers.
ANALYTICAL UNDERPINNINGS
52. The PFDPL program heavily relies on findings o f the extensive economic sector work undertaken by the Bank. The policy recommendations integrated into the relevant components of the program are stemming from a number o f key documents presented to the GoS in 2004- 2007. They include the Serbia Economic Memorandum; the Financial Sector Note (FSN); the Investment Climate Assessment (ICA); the Private Sector Note (PSN); the Fiduciary Assessment Update, the Public Expenditure Review, the Accounting and Auditing Report on Observance o f Standards and Codes (ROSC), the Financial Sector Assessment Program (FSAP) report and most recently, the Integrated Public Finance Management Assessment (IPFMA), the Labor Market Study and the Public Expenditure Review update. The new CPS for FYOS-FY 1 1 was adopted in December 2007 following extensive discussions with the incoming government based on a set o f policy notes.
53. According to an empirical analysis in the I C A and the PSN, private f i r m s are more productive than the socially-owned ones, proving that ownership does matter. Further, according to an EU sponsored study from 2005, companies privatized under the 2001 Law have generally improved their financial performance and have invested in modernizing their production process in comparison to companies privatized to employees under the pre-reform 1997 Law, although originally the latter were, on average, o f better quality companies than the f i r m s privatized after 2001. Moreover, the ICA demonstrates that new private f i r m s in Serbia are unambiguously more productive, more profitable, and growing more rapidly than the socially-owned ones. The problem i s simply that there are not enough o f them. Although the new private f i r m s are better performers, their scope for growth and the possibility o f entry by new entrepreneurs are severely limited by the improving, but s t i l l deficient business environment.
54. The PRSP rightly emphasized that improvements in the business environment are key preconditions for sustainable private sector-led growth. The strategy for Serbia acknowledges the need for streamlining the registration process, reducing administrative barriers to business operation, improving corporate governance, and establishing a modem bankruptcy regime. Similarly, comprehensive reform o f the financial sector represents an important cornerstone o f governments’ growth strategy. The Serbian PRSP and FSAP alike each identifies a set o f the short- to medium-term actions needed to strengthen financial sector supervision, privatize remaining state-owned banks, and improve access to finance. With proper implementation, these reform steps should help significantly in allowing the Serbian financial system to better fulfill i t s role in channeling resources into productive investments.
55. In addition, the results o f Business Environment and Enterprise Performance Surveys (BEEPS), as well as the Doing Business indicators were analyzed to help identify main areas o f concern for private sector development. These datasets not only provide valuable insight in the regulatory environment and administrative practices in Serbia, but also allow for benchmarking against other countries in the region and the world, a further measure to identify where Serbia might be underperforming in comparison with other countries.
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56. Several regulatory reform areas that are targeted within the scope o f this operation have been identified in the I C A and other studies as priorities for private sector development and increased investment: (i) reduction o f the regulatory compliance burden, including continuous streamlining o f business registration and operations, (ii) simplification o f the burdensome procedures for obtaining construction permits, which in turn are linked to the problems o f urban planning and land management; and (iii) improvements in competition legislation and implementation capacity o f the government.
57. The FSN demonstrates that Serbia’s financial sector remains insufficiently developed by regional benchmarks, and the existing level o f financial intermediation cannot fully address the needs o f economic growth. Narrowing the efficiency gaps between the weaker Serbian banks, and the leading CEE and EU banks began only in 2005 as a result o f local acquisitions by foreign banks. In this context, further development o f non-bank financial institutions (NBFI), such as insurance companies and capital markets, i s particularly important as they may offer the potential o f a broad array o f intermediary services and instruments currently unavailable from most banks.
58. The recent IPFMA report significantly improved our understandings o f the sequence and needed measures to strengthen the fiduciary environment. The IPFMA suggests that despite the recent public disclosure o f basic fiscal and budget execution data, the lack o f transparency and operating checks and balances in public finance s t i l l appear to be an overarching problem in Serbia and the fiduciary risk associated with the PFM system i s high. Although significant steps have been taken towards strengthening PFM, such as modernization o f the interim treasury system, the establishment o f an internal audit and the adoption o f the law on the state audit institution in November 2005, a lot remains to be done. This includes strengthening transparency and accountability in PFM, strengthening SAI, and continuing strong Government leadership o f the ongoing reforms required to bring Serbia on par with other EU-aspiring countries in the region.
IV. THE PROPOSED PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY LOAN
OPERATION DESCRIPTION
59. The PFDPL i s the f i rs t o f three development policy lending operations in the private and financial sector stream o f DPLs envisaged under the FY08-11 CPS. The operation i s designed to enhance business environment, continue strengthening fiscal discipline in the enterprise and energy sectors and build a more efficient and stable financial sector by putting in place a well targeted set o f key, irreversible structural reform measures through the above three pillars.
60. The business environment (or first) pillar aims to: (i) further simplify regulatory requirements and compliance costs for the business entry and operations, including business registration and procedures for obtaining construction permits, (ii) enhance the legal framework for strengthening corporate governance, and (iii) strengthen institutional capacity and regulations for ensuring competition. The fiscal discipline (or second) pillar will support: (i) further reduction o f subsidies and staffing levels at SOEs and public uti l i t ies, thereby facilitating their restructuring and ultimate resolution through privatization or, in some case,
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bankruptcy, as well as putting government finances on a more sustainable basis, (ii) continuation o f reforms in the energy sector. The financial sector (or third) pillar i s to support: (i) the substantial divestment o f the government’s remaining holdings in the banking and insurance industries; (ii) strengthening o f the banking and insurance sector regulation and supervision regime; and (iii) progress in the development o f the capital markets.
61. A summary o f agreed PFDPL actions are included in the Policy Matr ix and the agreed prior actions are featured in Box 2 below. The overall program outcomes envisaged through the FY07 CAS period are featured in the last column o f the Policy Matrix.
Box 2. Core Prior Actions for PFDPL
The following constitute the prior actions for presentation o f the Loan to the Bank’s Board o f Directors:
1. The GoS has adopted the principles for consolidating business registration procedures related to issuance o f tax, pension, and social security identification numbers in the SBRA.
2. The GoS has adopted a strategy for the implementation o f a comprehensive review o f regulations governing business activities (“regulatory guillotine ”),
3. The GoS has offered for sale, or initiated the search for a strategic partner to take over the core assets o f two o f its largest recipients o f state subsidies.
4. The GoS has enacted the amendments to i t s Privatization L a w (dated December 26, 2007) setting December 3 1 , 2008 as the deadline for launching the privatization process o f SOEs.
5. Starting September 1, 2007, the PA has: (a) offered for sale, through tenders, at least 40 socially owned enterprises and sold at least 15 o f them; (b) offered for sale, through auctions at least 350 SOEs, and sold at least 40% o f them; (c) offered for sale at least 7 SOEs from the l i s t o f companies under restructuring or companies o f which a significant part thereof i s under restructuring, using as applicable, tender, auction and asset sale procedures, and sold at least 4 SOEs from the said l is t .
6. The Budget o f the Republic o f Serbia has been enacted including a budget allocation for i t s SA1 as a separate l ine item.
7. The GoS has transferred adequate funds for the init ial capitalization o f i t s Deposit Insurance Scheme (DIS).
8. D D O R Drivatization has been comdeted,
POLICY AREAS
PILLAR I - Enhancing Business Environment
62. The improvement o f the business environment i s anchored in several o f the Government programs and is central to ensuring sustainable economic growth and poverty alleviation. The Poverty Reduction Strategy Paper for Serbia identifies job creation as one o f
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the main avenues for poverty reduction. A better investment climate will encourage investment flows, thus contributing to export expansion and j o b creation. The privatization program and measures to strengthen fiscal discipline implemented in the last few years and supported by a number o f World Bank operations have increased productivity and freed up scarce government resources. However, future economic growth will depend on the emergence o f a more dynamic private sector and i t s sustainable development.
63. New sources o f growth will have to come from increased private sector investments, domestic and foreign, in both new and existing enterprises, and a more conducive business environment i s vital. Serbia has already made substantial progress in this respect, but the pace o f the reform slowed down in the period o f political instability and change o f government. However, the new government fully embraced the remaining priorities o f business environment reform agenda, as reflected in the new draft National Program for Integration with EU, and a number o f reform initiatives got new impetus.
64. The proposed PFDPL operation will build on the earlier achievements and progress in the implementation o f the business environment reform agenda, focusing in particular on (i) further simplification o f business entry through implementation o f a single agency approach to business registration; (ii) developing legal framework for strengthening corporate governance and improving conditions for business operations; (iii) conducting comprehensive regulatory review to streamline regulations o f business operations and reduce business compliance costs; and (iv) improving legal and institutional framework for competition.
Policy Area 1.1: Further simplification of the business entry through the implementation of single agency approach for business registration
65. The recent progress with the implementation o f the comprehensive business registration reforms and institutional strengthening o f the Serbian Business Registers Agency (SBRA) was remarkable. In 2004, the authority for registering companies was transferred to the SBRA from trade courts and local administrative bodies. Previously, registering a company took 51 days, a minimum o f $5,000 o f founding capital, and the registration cost o f US$202. After the reform, total administrative procedures for registering a company take 23 days (of which just 3 days for registration in the SBRA); the minimum capital requirement has been reduced to Euro 500 and registration costs to US$60.
66. Equally, the .institutional capacity o f the SBRA and its efficiency increased dramatically. In addition to the business registration, the Agency also maintains registries o f leasing deals, pledges, bankruptcies and liquidations. A s a result, in the course o f 2007, 12,100 new companies were registered (compared to 6,329 in 2004). About 40 firms are registered every day with the number o f newly opened businesses rising at an annual pace o f 10%. At the same time the agency registers 150 new entrepreneurs every day, with 48,700 new registrations in 2007. A complete electronic database on business entities and entrepreneurs i s now fully functional. This created the basis for the electronic exchange o f relevant data between all state institutions.
67. Despite these strong early results no major improvements were achieved during 2006 and 2007. The reform started to gain momentum again at the end o f 2007 and i s fully supported by the new government. While Serbia has surpassed regional averages in certain business registration indicators, i t s performance i s s t i l l below best international standards.
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Currently, after registering in the SBRA, businesses s t i l l have to visit the Public Revenue Office to obtain a tax number as wel l as both the pension and health insurance bureaus to register for social security. The GoS decided that the reform measures in this area should focus on transforming the SBRA into a one-stop-shop (OSS) for al l procedures related to starting a business, including issuance o f the tax number.
68. It i s envisioned to implement the OSS concept for business registration in two phases. During Phase I the focus will be on securing authorization that the SBRA performs al l activities necessary to support starting a business. To this end, the Ministry o f Economy has prepared a proposal on a streamlined model, which would eliminate redundant forms, regulations, steps and processes and would merge the various informational requirements necessary to start a business. The Government has adopted the proposed model and once the necessary amendments to the relevant legislation are introduced, the SBRA will assign the tax identification number. This reform measure will lead to a substantial reduction o f a number o f days required to start a business from 23 to 12 and reduce the number o f steps from 11 to 8. In the medium term (Phase 2), the reform efforts will be focused on the introduction o f a unique business identification number that will be used for al l purposes. The SBRA advanced the reform implementation by (i) establishing cooperation with al l relevant institutions; (ii) commissioning feasibility study and technical needs assessment for establishing interconnection o f al l relevant public databases; and (iii) commencing unification o f registration procedures for entrepreneurs on a pi lot basis.
69. the fol lowing measures will be taken under the timeframe o f the PFDPL:
Actions to be taken under the PFDPL: the Bank agreed with MoERD and MoF that
The GoS has adopted the principles for consolidating business registration procedures related to issuance o f tax, pension, and social security identification numbers in the SBRA.;
70. Proposed actions for future PFDPL operations (triggers are bolded):
0 Amendments to the relevant laws and regulations are drafted and approved by the GoS, and in case o f laws submitted to the Parliament for adoption;
0 Introduction o f single identification number i s completed.
Policy Area 1.2: Improving the legal framework for strengthening corporate governance and facilitating business entry and operations
71. The GoS i s committed to advance the reform measures aimed at making the existing legal framework more conducive for improvement o f corporate governance and facilitation o f business entry and operations. The agreed reform program includes amendments to several key areas o f the Company Law o f 2004, (the Law on Business Entities), which was adopted to make the legislation more clear and consistent with international business practices and to introduce modern concepts and provisions o n corporate governance and protection o f investors. In the course o f i t s practical implementation certain problems with i t s application and the areas that required additional regulation were identified. This relates in particular to the following areas: (i) corporate governance provisions, (ii) detailed regulation o f new forms
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o f operation (such as branch offices o f foreign legal entities); (iii) clear and consistent regulation o f status changes (mergers, divisions).
72. Several key areas will require substantial improvements. First o f all, the Entrepreneurs Law s t i l l remains in force. It has not been harmonized with the Law on Business Entities and imposes burdensome registration requirements and other excessive regulations o f entrepreneurial activities. Unification o f a l l provisions regulating the establishment and the operation o f entrepreneurs and companies, including explicit elimination o f al l unnecessary requirements and thereby annulling and replacing the Law on Entrepreneurs entirely are required. Secondly, the Law on Business Entities allows for the establishment o f branch oflces offoreign legal entities, but several important issues related to their foundation, operation and ceasing the activities are not regulated. Thirdly, the legal form o f business association has been omitted in the existing Law, and therefore new business associations cannot be established, while the legal status o f already registered ones i s unclear. Fourthly, regulation o f complex forms o f business organization and operation (concern, holding, group o f companies) is not adequate. In addition, status changes (mergers, divisions) regulations lack consistency and clarity.
73. The Ministry o f Economy and Regional Development established expert working group that drafted amendments to the Company Law covering inter alia the fol lowing areas: (i) enhanced corporate governance provisions, (ii) detailed regulation o f new forms o f operation; (iii) clear and consistent regulation o f status changes; (iv) explicit elimination o f al l unnecessary requirements for the establishment and operation o f entrepreneurs and companies, sunset provisions for the Entrepreneurs Law. Once finalized, the amendments will be subject to broad public consultations. At the same time, the Ministry o f Finance has prepared amendments to the Law o n Securities to address some immediate concerns raised by the industry representatives; it i s also planning to undertake a comprehensive review o f Securities and Takeover Laws in the next few months. Therefore, it i s important to ensure full coordination in drafting amendments to these laws.
74. following measures will be taken under the timeframe o f the PFDPL:
Actions to be taken under the PFDPL: the Bank agreed with the M O E R D that the
0 Amendments . to the Company Law, including those substituting for the Law on Entrepreneurs are drafted in close coordination with review o f Securities legislation.
75. Proposed actions for future PFDPL operations (triggers are bolded):
0 Amendments to the Company Law, including those substituting f o r the Law on Entrepreneurs, are approved by the GoS and submitted to Parliament for adoption;
Amendments to the Company L a w are enacted.
Policy Area 1.3: Streamlining Regulations of Business Operations and Reducing Business Compliance Costs
76. By introducing a Regulatory Impact Analysis (RIA) requirement into the legislative process, the GoS took measures to ensure that the introduction o f future regulatory regimes i s
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based on a clear, rationale, and proper analysis o f costs and benefits, and includes appropriate consultation with affected stakeholders. The proper implementation o f RIA will ensure the quality o f new regulations - the legislative flow, which has a particular importance in the context o f legislation harmonization with the EU requirements. To support capacity building in this area the Council for Regulatory Reform with the support o f the Bank and Swedish International Development Agency i s implementing RIA project.
77. However, i t i s impossible to create a secure and transparent legal environment without dealing with existing stock o f legislation. In order to tackle this issue, the MoERD proposed to conduct a comprehensive regulatory review o f existing regulations known as a “regulatory guillotine”, a technique that can speed up the process o f reviewing, eliminating, and streamlining unnecessary outdated regulations. To initiate the reform a set o f Principles which will determine a timeline and institutional framework for the implementation o f a comprehensive regulatory review has been developed and approved by the GoS. This document has defined the approach to the “guillotine” implementation, i t s scope, required resources, and wi l l help to build consensus regarding the reform within the government and gain support o f other key stakeholders.
78. Procedures related to obtaining planning and construction permits and the associated costs remain the most burdensome constraint for business development, in this area Serbia ranks worse than most other countries o f the world. The GoS demonstrates commitment to streamline the procedures related to obtaining planning and construction permits and to reduce related compliance costs. Building on the work supported by Austrian, German and Swiss donor agencies and local experts, the Ministry o f Infrastructure and other local counterparts continue working on a set o f draft Laws on Urban Planning and Construction. This area o f business regulations wi l l definitely benefit from comprehensive regulatory review as a part o f the proposed “guillotine process.”
79. Based on the consensus built around the Principles for the implementation o f the regulatory “guillotine,” it i s expected that a comprehensive regulatory review o f existing regulations will be carried out in 2008-2009 and the required amendments to laws and regulations wi l l be introduced, including the regulatory framework for obtaining planning and construction permits. These reform measures would lead to dramatic simplification o f the regulation o f business activities and decrease in the regulatory compliance costs.
80. MOF that the following reform measures will be taken under the timeframe o f the PFDPL:
Actions to be taken under the PFDPL: the Bank has agreed with the MoERD and
0 The GoS has adopted a strategy for the implementation of a comprehensive review o f regulations governing business activities (“regulatory guillotine”)..
8 1. Proposed actions for future PFDPL operations (triggers are bolded):
0 Comprehensive review o f regulations o f business activities (“regulatory guillotine”) i s underway;
Comprehensive review o f regulations o f business activities (“regulatory guillotine”) completed, the results reflected in legislativehegulatory amendments.
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Policy Area 1.4: Improving legal and Institutional Framework for Competition
82. The GoS has taken some important steps to protect consumers and strengthen the competitive environment by adopting a new Competition Law in 2005. However, the implementation o f this Law has proven problematic. Three years after implementation all local counterparts agree that this L a w has several important deficiencies which need to be tackled, including: (i) the time required for a merger, which contradicts the privatization law takeover procedures; (ii) unclear delineation o f responsibilities amongst the Competition Commission, the Privatization Agency and the NBS; (iii) the very l o w thresholds for concentration o f capital notifications - requiring almost every mergerhale/ tender to have to undergo scrutiny by the Commission; (iv) strengthening institutional arrangements; and (v) the basis for notification fees and applicable fines should be clearly defined so as not to lead to prohibitively high compliance costs.
83. The Ministry o f Trade and Services has led the work on preparing the amendments to Competition Law which addressed the described priorities, and the proposed amendments were approved by the previous government. However, due to the new parliamentary elections the procedure required another GoS approval o f the proposed amendments. Instead, the GoS has, with the assistance o f European Agency for ReconstructiordEuropean Commission, opted for a more ambitious approach o f drafting a brand new law which would include al l o f the previously drafted amendments and eliminate additional deficiencies in order to ensure effective implementation o f the legislative provisions. The new Law i s expected to address al l major business concerns and to be fully in line with EU standards. In addition to the new Law, two other secondary regulations are being drafted - on block exemption on horizontal and vertical agreements - which should be adopted fol lowing the passage o f the new Law. Finally, further capacity building o f the Commission for Protection o f Competition remains a part o f a medium term reform objective as well. The Bank team expressed i t s readiness to comment on the draft Law and secondary regulations prior to their approval by the Government, and subsequent adoption in the Parliament.
84. Actions to be taken under the PFDPL:
N e w Competition Law i s drafted and submitted for approval to GoS.
85. Proposed actions for future PFDPL operations (triggers are bolded):
0 New Competition Law i s submitted to Parliament for adoption;
0 Regulations and by-laws required for Competition Law implementation are drafted and approved by the GoS.
PILLAR I1 - Strengthening financial discipline
86. Under PPFDPC-1, the GoS took important steps towards strengthening o f financial discipline in enterprise sector. The proposed operation will build upon and expand the PPFDPC-1 agenda in this crucial area, focusing on: (i) the further reduction o f direct and indirect subsidies; (ii) accelerating restructuring, privatization and, where applicable, bankruptcy and/or forced liquidation o f socially-owned enterprises; and (iii) continuation o f the unbundling and restructuring o f public utilities.
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Policy Area 2.1: Reduction in direct and indirect subsidies
87. Diagnostic. The GoS continues to provide substantial financial support to the enterprise sector. Despite their operating losses, many socially-owned enterprises on the restructuring l i s t continue to survive largely because they benefit f rom both direct and indirect subsidies, extended by the state and state-controlled entities.
The direct subsidy i s drawn from the annual allocation in the state budget, which i s administered by the Ministry o f Economy. Generally, i t is used by SOEs for supporting current operations and clearing arrears rather than investment. The indirect subsidy can take many forms: non-payment or partial payment o f taxes; arrears to state-owned utilities such as EPS and NIS; arrears to public funds on pension, social security, and unemployment contributions; and “soft” loans extended by the state-controlled banks. While i t i s difficult to measure indirect subsidies with any precision, a crude analysis o f the financial statements for sixty SOEs undergoing restructuring process suggests that in 2004 they amounted to nearly Euro 200 million, thus dwarfing the direct (MOE) subsidy extended to these SOEs over the same period (Euro 53.9 mln).
88. It i s important to note that both the direct and indirect subsidies are concentrated in just a handful o f SOEs on the Government’s restructuring list4. In 2004, the top twenty subsidy recipients accounted for more than 80 percent o f the combined direct and indirect subsidies extended to the SOEs in restructuring. Two o f the largest remaining SOEs, car maker Zastava Group and mining complex RTB Bor, absorbed more than a quarter o f the total subsidy envelope over the past several years, with roughly hal f o f this figure coming in the form o f direct support from the MOE.
89. Government Actions. The GoS i s aware o f the subsidies’ pernicious effect, and i s committed to strengthening the financial discipline in the SOE sector. Under the framework o f PPFDPC- 1 , the 2006 state budget allocation for MOE direct subsidy to SOEs was reduced to RSD 3.85 bi l l ion in the 2006 budget and further reduced to RSD 3.1 bi l l ion in the 2008 budget, down from RSD 5.0 bi l l ion in 2005. In addition to working on privatization o f socially-owned enterprises, the GoS has also formally initiated privatization o f two state o w e d companies, namely underground coal mining enterprise PEU Resavica, and national airline company JAT Airways. While PEU Resavica i s s t i l l in the preparation stage, the tender for JAT Airways has been announced but no bids were received. The government has also announced that it will initiate minority/majority privatization o f other state-owned companies, thus contributing to their efficiency. It is important to note that this initiation o f privatization o f state-owned companies i s a positive reform signal, since a lot o f state-owned companies are not performing well and are heavily dependent on GoS assistance. However, this process may be delayed due to the current financial crisis.
90. In parallel, the GoS contributes to the improvement o f financial discipline in the enterprise sector through implementing an ambitious program o f public sector reforms. The adoption o f a value added tax (VAT) in 2005, accompanied by measures to strengthen the public revenue service, have resulted in better tax collection. The resolute privatization o f state-owned holdings in the banking sector has al l but eliminated the practice o f concessionary loans used to prop up failing SOEs, which had a long history in Serbia. Finally, as part o f i t s
For more details related to the companies in restructuring please refer to paragraph 99 23
restructuring process, EPS has increased i t s overall collection rates from 86.7 percent at end- 2003 to more than 90 percent as o f end-2007. At the same time, EPS’ collection rates for the group o f SOEs in restructuring reached only 60 percent in 2005, equivalent to almost RSD 2 million in accumulated arrears.
91. Bank’s Assessment4lecommendation. The existence o f subsidies not only contributes substantially to the fiscal deficit, i t also represents a significant obstacle to restructuring and resolution through the sale or bankruptcy o f the loss-making SOEs. The direct and indirect support provided by the state allows the management and employees o f poorly performing enterprises to postpone the painful restructuring, thereby releasing non-core assets to higher productivity users. At the same time, the entry and market access o f private f i r m s are crowded-out by un-restructured SOEs that continue to function in a soft budget environment.
92. In addition to MOE’s visible direct subsidies, some SOEs are able to bypass the hard budget constraints through an increase in liabilities (taxes, wages, pension contributions, utilities bills, etc.). These types o f indirect subsidies represent a much greater (and more difficult to measure) source o f fiscal burden, which i s ultimately more damaging in the long run. Accumulation o f arrears from SOEs undermines the solvency o f public institutions, such as the pension fund and the national health-service. In the case o f public ut i l i t ies such as EPS, the unpaid liabilities result in higher cost o f services and deprive the companies o f financial resources for much-needed modernization.
93. I t i s thus crucial for the resolution o f the remaining SOEs that the GoS systemically addresses the financial discipline problem by closing o f f the actual and potential sources o f direct and indirect subsidies at the same time. In this respect, the team anticipates that the continuation o f public sector reform, particularly state-owned utility companies, will help reduce the supply o f subsidies. However, both regional and global experiences provide ample evidence that the soft budget problem will persist for as long as there exists the demand for state support in the form o f loss-making, inefficient SOEs. Given the high concentration o f subsidies among a group o f a few large enterprises on the restructuring l ist, i t i s thus imperative that the GoS accelerates the resolution o f these worst offenders o f financial discipline through privatization or bankruptcy.
94. In this regard it i s important to underscore that over the past three years the GoS has shown consistent commitment to resolution o f top subsidy recipients. Since October 2005, the GoS has offered for sale through the P A o f 17 SOEs from the l i s t o f top 20 recipients o f combined direct and indirect subsidies, and sold nine o f them. In addition, one large SOE from this l i s t has been placed into bankruptcy after al l attempts at sale failed. Most significantly, the GoS has made substantial progress in identifying strategic private investors for the core assets o f Zastava Group and RTB Bor, the two largest subsidy recipients in the SOE sector. In fact, the GoS has signed a strategic partnership agreement on Zastava with the Italian car maker Fiat, and launched a tender for a strategic partnership for RTB Bor.
95. Actions to be taken under the PFDPL: Based on the above analysis and the discussions with the MOF, MOERD, and P A counterparts, the Bank has agreed with GoS on the following measures:
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0 Reduction in the direct MOERD subsidy to SOE sector in the 2008 budget to RSD 3.1 bi l l ion (0.1 1 YO o f GDP) from RSD 4.1 bi l l ion (0.19 % o f GDP) in 2006;
0 The GoS has offered for sale, or initiated the search for a strategic partner to take over the core assets of two of i t s largest recipients of state subsidies.
96. Proposed actions for future PFDPL operations (triggers are bolded):
Reduction in the direct MOERD subsidy to the SOE sector in the 2009 budgets to RSD [ ] bi l l ion (0.xx YO o f GDP) f rom RSD 3.1 bi l l ion (0.11 % o f GDP) in 2008 budget;
0 The GoS will offer for sale the third largest recipient o f state subsidies;
Registry o f recipients o f state aid i s established within the SBRA and fully operational.
Policy Area 2.2: Privatization, Restructuring, and Bankruptcy of Socially-Owned Enterprises
97. Diagnostic. At the core o f Serbia’s enterprise sector reform strategy over the past seven years has been the ambitious program o f privatizing socially-owned enterprises (SOEs). The principles o f the approach are laid out in the Privatization L a w o f June 2001 , which incorporated international best practice and lessons learned from other transition economies. The principle lesson drawn from experience o f other transition countries was that privatizations that put core, dominant investors in charge o f the f i r m s worked better, from a variety o f viewpoints, then those that passed ownership to diffused, inexperienced groups o f workers or citizens. The law thus stipulated three methods o f privatization: (i) tenders o f large enterprises, offering to a strategic investor at least 70 percent o f the shares; (ii) auctions o f medium-sized enterprises; and (iii) restructuring and subsequent tenders and/or auctions o f large loss-making enterprises and/or parts thereof.
98. The selected privatization model was aimed to overcome the problems which arose from the voucher-privatization model implemented in many other transition countries in Eastern Europe; it was more conducive to improving corporate governance and real sector efficiency, attracting foreign capital and technology, and ultimately fueling Serbia’s economic growth. Finally, a significant amount o f time was devoted to development o f the necessary regulatory framework, institutional capacity building, and preparation o f companies for privatization prior to actually offering them in the market.
99. Despite the impressive progress to date, the process o f ownership transformation i s not yet complete. As noted above, the financially (and politically) damaging role o f the SOE sector in the Serbian economy i s highlighted by the continued prevalence o f direct and indirect subsidies and soft budget constraints. The core o f the problem was in some 80 loss-making, heavily indebted industrial conglomerates, which have been selected by the authorities, to undergo organizational and/or financial restructuring under privatization through restructuring method specified in the Privatization Law, as they could not be sold in their current condition. Over the past three years significant progress was achieved with successful resolution o f 30 o f these enterprises.
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100. Government Actions. Between 2001 and 2005, the Privatization Agency (PA), supported by the Bank at both policy and technical level, achieved significant progress in implementing the Government’s privatization program. By the end o f 2005, more than 1,200 SMEs had been sold in auctions and circa 60 large enterprises were sold through tenders, most o f them to international strategic investors. Notwithstanding the difficult political environment, the overall scope, pace and transaction quality o f these privatizations compared favorably to similar stages o f reform in other transition economies. Further, the progressive trend has continued after the 2005, as reflected in the following table exhibiting results from the period immediately following the previous operation (PPFDPC-1) as well as the results achieved under the current project (PFDPL):
Oct.1/05 - Aug. 31/ 07
Auctions 3 77 Tenders (incl. restructuring) 43
Restructuring 16 Total 420
Sep.l/07 - Aug.31/ Total for os Oct.1/05 - A~g.31/07
284 66 1 17 60
301 72 1 4 20
101. Overall, as o f end-November 2008, Serbia has privatized over 2,400 companies, ensuring improved corporate governance and significantly eliminating the demand for o f subsidies, and realized nearly EUR 2.9 billion in privatization revenues since 2002. Further, new owners have pledged nearly EUR 1.4 billion in investment plans, and over EUR 276 mill ion in social programs, thus contributing both to future economic growth and social cohesion. It i s important to note that the rate o f privatization has not slowed down significantly, despite the fact that the current PA portfolio i s o f much ’lower quality than in early years o f privatization. As an illustration, the PA has been selling enterprises via tenders and auctions at an average rate o f 18, 55, 21, 28, 26, and 34 enterprises per month in 2002, 2003, 2004, 2005, 2006 and 2007 respectively. During the first two quarters o f 2008, the average monthly sales rate has stood at 24 enterprises a month.
102. As stipulated in the recently amended Privatization Law, the GoS i s committed to offering for sale all SOEs currently in the PA tender and auction portfolio, and all saleable assets from the restructuring portfolio, by end-2008. In parallel, the SOEs that have failed the market test through tender or auction three times will be subject to bankruptcy under the improved insolvency regime. All unsold SOEs remaining in the PA portfolio after the end o f 2008 will be subject to compulsory liquidation.
103, Auctions. The GoS i s committed to complete the very successful auction privatization program started in 2002. Some 750 SOEs remained on the’books o f the PA’s Auction Center as o f September 2008, including almost 300 enterprises that have been classified as candidates for bankruptcy and/or liquidation. The current management o f the PA has strengthened the processing capacity o f the Auction Center which resulted in more companies being offered per sale every month, and a higher success rate.
104. Tenders. Bringing reputable strategic investors through the tender process for the relatively attractive SOEs remains a priority for the GoS. At the moment there are 89 SOEs are l e f t in the PA’s tender pipeline, including the non-core assets spun o f f from state uti l i t ies.
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With the help o f TA funding, provided by the Bank and EAR, the P A has engaged experienced financial advisors to prepare and execute tenders for these enterprises.
105. Privatization through Restructuring. Completing the restructuring o f large loss- making SOEs, and their subsequent divestiture through, as applicable, tender, auction, or asset sale procedures, constitutes one o f the Government’s key challenges. Assisted by the financial advisors hired through the Bank and the EAR TA funding, the P A has been putting to market test most o f the SOEs on the restructuring list. The restructuring process has been given a major impetus by the passage (in Spring 2005) o f the debt restructuring amendments to the Privatization Law, supported under PPFDPC-1. The amended law made possible the use o f debt write-off by the state and state-controlled creditors against the future sale proceeds, to enable the privatization o f heavily indebted large SOEs. To avoid generating moral hazard, the debt restructuring will become effective only at the moment o f sale. As a result, core assets o f at least 30 SOEs from the restructuring l i s t were sold over the past three years.
106. At the same time, in order to facilitate privatization and to mitigate the social cost o f the lay-offs resulting from the decreasing subsidies, the authorities continue to use the Transition Fund (TF) resources to address the problem o f surplus labor at large SOEs. The TF5 represents a budgetary i tem which received a RSD 7.3 bi l l ion budget allocation in 2008, as opposed to RSD 6.5 bi l l ion and RSD 9.95 bi l l ion in the 2006 and 2007 budgets, respectively (a more detailed description o f the social assistance options supported by the TF can be found in section VI, Poverty and Social Impacts). Experience has shown that the necessary labor shedding needs to occur before privatization because the levels o f surplus labor in large SOEs risk deterring investors altogether, or reducing the cash price offer to a politically unacceptable level. It i s important to note the difference between the Government’s subsidy program and the severance payment financed by the TF: the former represents a recurrent burden on the budget, the latter i s a one-time payment which allows companies to decrease their labor force and wage bill, thus leading to a reduced subsidy need and ultimate resolution o f the enterprise. Finally, it i s important to note that Transition Fund, as it name suggests, was set up as a temporary vehicle to assist the redundant workers during the privatization process to finance their salaries, contributions/taxes, retraining and/or severance payments, thus facilitating the enterprise sector reforms. After the privatization process i s over, which will last for the next few years, this Fund will be no longer needed.
107. Bankruptcy of SOEs. Having an effective bankruptcy instrument is a prerequisite for successful enterprise restructuring, and for the establishment o f hard budget constraints with regards to the SOE sector. The implementation o f the new bankruptcy l aw started on February 1, 2005 and the progress to date is encouraging. As o f end 2007, 392 bankruptcy administrators have been trained to apply the new law and have received licenses. The Bankruptcy Unit (BU) has been established within the P A to act as the bankruptcy administrator o f insolvent socially- and state-owned enterprises. By end-September 2007, the BU had more than 360 SOEs in i t s portfolio, two-thirds o f which represented cases opened under the new law.
108. The Government faces two major problems in i t s efforts to implement the Bankruptcy Law. First, although the PABU can prepare a plan for restructuring and privatization through bankruptcy, i t does not have the authority to initiate the formal bankruptcy process. As in any
In reality, the “Transition Fund” i s not a fund as i t does not have either capital or personnel. 27
market oriented bankruptcy regime, the creditors are authorized to petition the courts and to initiate bankruptcy proceedings against insolvent SOEs. However, few state creditors have exercised this right over the first two years o f the new law’s life. Another major problem i s the insufficient (although improving) capacity o f the commercial courts to decide on the resolution o f bankruptcy procedure. To resolve f i rs t obstacle, the Government plans to appoint dedicated bankruptcy un i t s within state creditor bodies that would be capable o f initiating and monitoring the bankruptcy process for multiple SOEs. In sum, the MoF i s committed to take clear actions to speed up the initiation o f bankruptcy procedures against unsaleable enterprises remaining in the PA’s portfolio. In addition, the recent amendments to the Privatization Law provide for the option o f a “forced liquidation” by the P A o f companies that do not start the privatization process by the end o f 2008 in cases where: (i) announcement o f public tendedauction has not been published; (ii) the company (capital/assets) was not sold even after the third attempt (tendedauction); and (iii) if the entity subject to privatization failed to submit i t s financial report to the business registration agency for two years in a row. This new provision o f the law may require adopting by-laws regulating forced liquidation procedure.
109. Distribution of Shares to the Public. According to the 2001 Privatization Law, 70% o f a company offered on tender was to be sold to a strategic investor to ensure sound corporate governance, 15% was given to the workers (which in the Yugoslav model were de facto owners), and 15% was designated for citizens who did not receive gratis shares as employees o f companies. Under the recently enacted L a w on Citizens’ Rights to Gratis Shares and Cash Benefits in the Privatization Process (hereinafter Law on Gratis Shares), those shares allocated for the public (15%) in the industrial companies sold in tenders to date and held by the Privatization Register are being sold in the market, and the proceeds will be distributed in cash to the citizens entitled under that law. The Law on Gratis Shares (Article 12) provides that the sale o f those shares will be conducted in an open and transparent manner by competitive bidding to obtain the best prices for the citizens.
110. The L a w on Gratis Shares further provides that 15% o f the capital allocated for citizens in the six large public ut i l i t ies (NIS, Telekom Serbia, EPS, JAT, Airport, Galenika) will be distributed to the eligible citizens. However, in view o f the high value o f the large public utilities, the Government succeeded in convincing the trade unions to agree to the provision in the L a w on Gratis Shares which reduced the gratis allocation to present and former employees o f those enterprises: they agreed to receive free shares in the value o f EUR 200 per year o f service (for a maximum o f 35 years o f service) which i s expected not to exceed 2.5% o f shares in public enterprises, in contrast to 15% in the other enterprises.
1 1 1. Privatization of state-owned enterprises. The corporatization and eventual privatization o f public utilities i s a major challenge facing the Government in next several years. The Government i s now selling 5 1% o f shares in N I S to a strategic investor, while i t s attempt to sel l majority stake in JAT has recently failed as no bids were received. Further, the government i s planning to sell majority stake in Galenika as well, and to offer shares o f Telekom Serbia, EPS, Airport, and perhaps other companies, through an initial public offering. These planned actions require these public enterprises f i rst to be converted into companies through an incorporation process. Finally, the ongoing global financial crisis may delay the implementation o f these plans. With Bank’s assistance the government is, currently starting a project to incorporate the state-owned companies and to amend the Law on Assets
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o f the Republic o f Serbia adopted during the 1990s which created a legal anomaly stripping the state-owned enterprises o f their assets.
1 12. Bank AssessmenZlRecommendation. Notwithstanding impressive overall progress to date, the following issues remain to be addressed by the GoS: (i) completing the tender and auction privatization program for SOEs currently in the PA’s portfolio, with the objective to offer for sale all saleable enterprises by end-2008; and (ii) using the improved bankruptcy regime and the powers o f state-controlled creditors to resolve SOEs that fail the market test.
113. Actions to be taken under the PFDPL: To this end, the Bank has agreed on the following privatization and bankruptcy targets with the GoS and the PA, to be achieved in the timeframe o f PFDPL:
The GoS has enacted the amendments to its Privatization Law (dated December 26, 2007) setting December 31, 2008 as the deadline for launching the privatization process o f SOEs;;
0 The Law on Citizens’ Rights to Gratis Shares and Cash Benefits in the Privatization Process i s submitted to the Parliament;
Starting September 1,2007, the PA has: (a) offered for sale, through tenders, at least 40 socially owned enterprises and sold at least 15 of them; (b) offered for sale, through auctions at least 350 SOEs, and sold at least 40% of them; (c) offered for sale at least 7 SOEs from the list of companies under restructuring o r companies of which a significant part thereof i s under restructuring, using as applicable, tender, auction and asset sale procedures, and sold at least 4 SOEs from the said list;;
Starting on September 1, 2007 Republic o f Serbia-owned or controlled creditors will request the courts to initiate bankruptcy proceedings for: (i) at least 20 SOEs that have unsuccessfully been offered for sale through auction; and (ii) at least 2 SOEs that have unsuccessfully been offered for sale twice through tender;
MOERD approves a transparent and competitive procedure, acceptable to the Bank, for the sale o f shares from the Privatization Register proposed by Share Fund.
1 14. Proposed actions for future PFDPL operations (triggers are bolded):
The Law on Assets of the Republic of Serbia i s repealed and a new Law on Public Property returning ownership of assets from the Republic of Serbia to public enterprises/municipalities i s approved by GoS, and submitted to the Parliament;
Strategy for privatization o f municipal enterprises i s approved by GoS;
To facilitate the participation o f government creditors in initiating companies’ bankruptcy, specialist Bankruptcy units will be created within the Tax Office, Public Prosecutor’s Office and other State creditors, with the right and power to represent the State’s claims including filing, voting, negotiating, and agreeing their claims with the Bankruptcy Administrator;
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0 New Bankruptcy Law i s drafted and submitted to GoS for approval;
The sale of shares of socially owned enterprises in the PR shall be conducted in accordance with the procedures established by the MoERD;
O f the 340 “real” cases in the P A B U portfolio as o f June 30,2007 (with the exception o f reorganization) al l the assets in more than 85% o f cases will have been sold;
All companies with 51% or more social capital whose auctiodtender has not been announced by December 3 1 , 2008 will be subject to forced liquidation by December 3 1 , 2009;
Regulation in place to support the Bankruptcy Supervision Agency to implement a system o f oversight and discipline, including de-licensing and lesser sanctions, o f bankruptcy administrators.
Policy Area 2.3: Energy Sector Reform
1 15. Serbia has a comprehensive energy industry controlled by state-owned companies: EPS is in charge o f virtually al l the power generation and distribution; EMS is the power transmission company; N I S controls domestic production o f o i l and gas, two refineries, and petroleum products distribution systems including gasoline stations (largest operator); Transnafia undertakes o i l transportation; and Serbiagas i s one o f two transmission companies for natural gas. Serbian o i l and gas reserves and production are small; coal reserves and production are substantial. Domestic power production largely meets domestic demand for the time being, and gas i s imported from Russia. An import ban for petroleum products, expiring at the end o f 20 10, gives market protection to the two refineries.
116. Over the past few years, the Serbian energy sector has undertaken a considerable amount o f investments; partially donor funded, and has, in the case o f electricity, made progress in improving the supply system to a level that allowed reconnection to the European interconnected power network (UCTE) in 2004. In 2005, Serbia joined the EU-supported Energy Community o f Southeast Europe. The power and gas sectors have recently been structured in compliance with EU’s internal market regulations, i.e. transmission functions have been separated from production, distribution, and sales activities. A regulatory agency for energy was established in 2005.
117. The Serbian government gives considerable weight to energy security. Therefore, in January 2008 an intergovernmental energy agreement was entered into with Russia. The agreement, which establishes a framework for subsequent negotiation o f detailed agreements, provides for the building o f a large transit pipeline for Russian natural gas across Serbia. The agreement further involves the sale o f a majority o f shares in N I S to Gazprom, a majority state-owned Russian oi l and gas company. Furthermore, Russian financial support in developing gas storage in Serbia i s part o f the framework agreement.
118. One o f the major and costly challenges facing the Serbian energy sector i s the replacement o f retiring power generation units and the addition o f new generation capacity to meet increasing national and, potentially, regional demand for power. In agreement with the
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Bank under this PFDPL operation, the government will decide through i t s approval o f EPS’ Business Plan 2008-2012, on a strategy and time-bound action plan in which the private sector would take majority control o f and manage major power generation assets to be built during the coming 5-7 years. The Bank considers this an important step in the direction o f creating a more competitive market environment in the power sector o f Serbia and the region.
119. NIS refineries in Pancevo and Novi Sad are uncompetitive until major investments can be undertaken. The government keeps the refineries in operation through market protection in the form o f a temporary import ban on petroleum products. The government has agreed under this PFDPL that the lifting o f the import ban and the introduction o f full, open competition in petroleum products shall take place no later than December 3 1, 2010.
120. End-user tariffs for electricity and gas have been raised significantly over the last several years but are not yet covering costs, and payment collections o f only about 80 percent from household electricity consumers add to the financial strain in the sector. The government recognizes the substantial financial requirements to maintain gas and power systems, to undertake environmental investments, and to expand supply capacities. I t has therefore agreed, in the context o f this PFDPL, to implement gradual tariff adjustments to reach cost-recovering tariffs for electricity and natural gas no later than in 20 1 06.
121. The government and the management o f EPS recognizes that the power utility wi l l have to enhance i t s operational efficiency and undertake some further restructuring in order to utilize i t s resources in the best possible way and to prepare for the competitive pressures in generation and marketing that are emerging in the Energy Community o f South East Europe. A major efficiencyhestructuring study has been undertaken for EPS by international consultants. Guided by such expertise, the government plans to adopt a strategy and time- bound action plan to restructure and improve operational efficiency o f EPS, also with the facilitation o f private sector participation in the power sector in mind. Finally, EPS management board has endorsed 2008-2012 business plan in July 2008 and sent it to the Ministry o f Mining and Energy for GoS approval.
122. Pollution from the consumption o f low quality petroleum products i s considered a serious problem in Serbia. In 2008, the government plans to develop a timed action plan for introducing EU-based petroleum product quality standards and to agree with the Bank on such a plan under the 2009 follow-up operation o f the PFDPL.
123, Actions to be taken under the PFDPL:
0 The Government has developed a strategy and time-bound action plan for private sector to invest in, take majority control of, and manage assets in power generation;
0 The Government has committed to fully remove obstacles to competition in refined petroleum products no later than by December 3 1 , 20 10;
0 The Government has committed to undertake gradual annual tariff adjustments in order to reach cost-recovering tar i f fs for power and gas no later than in 20 10.
Although Serbia has established a regulatory agency for energy, the Serbian Energy Law provides the Government with the authority to approve adjustments to electricity and gas tariffs.
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124. Proposed actions for future PFDPL operations (triggers are bolded):
0 Request for a proposal has been issued for at least one new thermal power plant;
0 Tariffs for electricity and gas have been increased;
0 The Government has adopted a strategy and time-bound action plan, guided by international expertise, to restructure and improve operational efficiency o f EPS to facilitate private sector participation in the power sector;
The Government has developed a timed action plan for introducing EU-based petroleum product quality standards;
0 Financial closure achieved for at least one new thermal power plant;
Satisfactory progress in strategy implementation (to be agreed upon).
Independent Audit Institution
Policy Area 2.4: State Audit Institution
125. Budget System L a w prescribes that final accounts will be subject to external audit. However, final accounts for the years 2002-2007 have not been audited. In order to register improvements in this area, the Law on state Audit Institution was adopted in November 2005 with a view to establishing an independent and competent body responsible for the audit o f public sector accounts. With some delay, a five member Council, as the highest body o f State Audit Institution (SAI), was appointed in late September 2007 under provisions o f the Law on SAI. According to the Law, the Council i s obliged to submit to the Parliament operations manual, work program and annual plan within three months f rom the establishment o f the Council, hence the due date being late December 2007. Draft documents were submitted to the Parliament by the due date. The documents were reviewed by the Bank and are found to be acceptable to our standards. A reasonable SA1 budget was included as a separate l ine i tem in the 2008 budget o f the Republic o f Serbia and adopted by the Parliament. Further, the same policy has continued as reflected in the 2009 draft budget o f the Republic o f Serbia.
126. In the medium-term, reasonable progress should be made towards making the SA1 fully functional. This would include securing adequate premises and equipment, employing the sufficient qualified staff, adopting the Audit Manual specifying work methodology, training the core staff, and commencing audits in accordance with the program o f work submitted to the Parliament. In addition, audit o f 2007 government accounts, performed by the SA1 or i t s agent, should be submitted to the Parliament. Finally, full implementation o f the Law on State Audit Institution should be achieved, providing sufficient resources and capacity building for the SA1 to perform al l o f its responsibilities and procedures in relation to auditees covered by the Law. Corresponding to that, the audit o f 2008 accounts should be submitted to the Parliament.
127. Actions to be taken under the PFDPL:
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0 The Budget of the Republic of Serbia has been enacted including a budget allocation for its SA1 as a separate line item.
128. Proposed actions for future PFDPL operations (triggers are bolded):
The Government has submitted audits o f 2007 accounts to the Parliament;
The Government has submitted audits o f 2008 accounts to the Parliament.
PILLAR I11 - Building a more efficient and stable financial sector
129. Thanks to an aggressive reform program, supported by three World Bank lending operations, the banking and insurance sectors have grown sharply and undergone a fundamental shift in ownership. State ownership in banks and insurance companies has been significantly reduced to approximately 17.2% and 34% o f total banking and insurance assets respectively. To complete the privatization o f the sectors, the Management Board o f the Deposit Insurance Agency (DIA - which i s also in charge o f privatization o f the financial sector) will approve a strategy for each bank and insurance company with state and socially owned capital. NBS has also taken steps to enhance market confidence by capitalizing the deposit insurance fund, strengthen the legal framework, and enhance supervision. Finally, in an effort to strengthen the capital markets regulatory and supervisory regime, the GoS has drafted amendments to the Securities Law.
Policy Area 3.1: Resolution of state-owned banks (SOB) and the divestment offinancial assets (non-performing loans and equities) and deposit insurance capitalization
130. Privatization and the divestment o f state-owned banks and financial assets have progressed substantially since PPFDPC-1 and, as a result, state’s ownership o f the banking sector has been reduced to 15 % o f total banking system assets as o f end 2007. Going forward, the major challenge will be to sustain the privatization process, especially in a context where the banks le f t for sale are not as attractive as those that have been privatized in the first rounds and the crisis has driven investors from the financial sector.
13 1. A number o f actions have been undertaken by GoS in the past couple o f years. First, in 2006, the DIA successfully completed the privatization o f three banks. It sold 99.4% o f the share capital o f Vojvodjanska Bank to the National Bank o f Greece, 87.39% o f the share capital o f Panonska Bank to San Paolo IMI from Italy, and 89.29% o f Niska Bank to OTP Bank from Hungary. In the same year DIA sold 25% o f Cacanska Bank and Komercijalna bank to EBRD. In accordance with the shareholders agreement, both shareholders will be selling their shares by 2009 and 2010 respectively. The shareholders also committed to implementing an institutional development plan in both banks until then. As a result RoS s t i l l has ownership in nine banks (see table 4 below), which account for 17.2% o f assets, 20% o f deposits and 15.9% o f equity in the banking sector. Secondly, in 2007, DIA launched the sale o f 6 packages o f non-performing loans (NPLs) o f bankrupt banks in the total amount o f RSD 433,424,670.38 and USD 35,342,978.93. Only one NPL package in the total amount o f USD 11,121,516.4 was sold for USD 1,107,000 in January 2008 while there were no offers for other NPL packages. Despite this, DIA will continue working on resolution o f the remaining NPLs in i t s portfolio. Thirdly, in 2008, the DIA developed a privatization strategy for all the banks and insurance companies that s t i l l have state or socially owned capital. The strategy
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proposed a three pronged approach for the sale o f banks and insurance companies in which RoS has the majority shares, for banks in which RoS has the minority shares, and for banks in which RoS i s a majority shareholder together with EBRD. Given the recent financial crisis and abrupt deterioration o f global financial sentiment towards the region, the Strategy i s being updated to reflect recent market developments and available privatization and restructuring options.
JUBMES banka a.d. Beograd PB Agrobanka a.d. Beograd
Majority ownership o f
21.11 8.33 29.44 20.07 0.55 20.62
Minority ownership o f
RoS
Komercijalna banka a.d. Beograd Cacanska banka a.d. Cacak
Majority ownership o f
RoS and EBRD
40.3 1 6.89 47.2 38.84 4.46 43.3
132. Finally, to increase market confidence, the government transferred RSD 700 million to the DIA and thus increased the capital o f Deposit Insurance Fund to 1.18 percent o f insurable deposits, against a set target o f 5 percent.
133.
0
0
0
134.
0
0
0
Actions to be taken under the PFDPL:
Strategy for banks and insurance companies with ROS ownership i s developed;
Pre-qualification for bidders for second tender o f non-performing loans o f bankrupt banks completed and final offers solicited;
The GoS has transferred adequate funds for the initial capitalization o f its Deposit Insurance Scheme (DIS).
Proposed actions for future PFDPL operations (triggers are bolded):
Strategy for banks and insurance companies with ROS ownership i s finalized and approved by GoS;
Institutional Development plan for Postanska Stedionica Banka developed and approved;
Additional package o f non-performing loans o f bankrupt banks resolved;
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0 Third bank in which GoS has majority ownership offered for sale;
0 GoS shares in Cacanska Banka offered for sale;
0 Institutional Development plan for Postanska Stedionica Banka i s being implemented according to the agreed schedule;
0 Resolution o f a l l 223 non-performing loans o f bankrupt banks completed.
Policy Area 3.2: Strengthening the insurance sector regulation and resolution regime
135. The government and NBS have been effective to date in moving the insurance sector reform agenda forward. Significant and substantive transformation marked the Serbian insurance sector in 2007. During this time, the market has experienced consolidation, increased share o f foreign ownership, and significant growth. While the volume o f the gross insurance premium written (GPW) in 2007 has increased from 38.3 to the estimated 45 bi l l ion dinars, the number o f insurance companies active in the market declined from 40 to 21 (18 insurance licenses were revoked by the NBS , 5 companies undertook voluntary liquidation, there was 1 merger, 1 company transformed to a pension fund and 6 new greenfield licenses were issued). Currently, 13 out o f 21 insurers are foreign owned. With the completion o f the recent sale o f D D O R to Fondiaria (Italy), Dunav will remain the only government-owned company in the market, accounting for slightly over 30 percent o f the insurance premium written. At the same time, the quality o f the insurers’ balance-sheets has seen considerable improvement. Further, the quality o f insurance supervision has improved as evidenced by the introduction o f licensing requirements for insurance agents (1 28 institutional licenses were revoked and 154 new issued), the launch o f a comprehensive regulatory framework (20 by- laws were issued), improved market transparency and commencement o f pro-active on-site and off-site market supervision.
136. The matters s t i l l outstanding tend to involve multiple constituencies and will require a degree o f negotiation to finalize. Government’s key achievements have been the privatization o f DDOR, closure and liquidation o f more than a dozen insolvent insurance companies, significant achievements o f the turn around work in Dunav, including the completion o f an independent actuarial review o f i t s liabilities, introduction o f centralized IT systems for cash and claim management and reorganization o f i t s business operations along functional lines, improved quality o f insurance regulations and insurance supervision.
137. All regulations required under the new Insurance Law have now been produced and amendments passed to enable the privatization o f the socially owned insurers. In addition, a law dealing with bank and insurer bankruptcy and liquidation has come into force (No. 61/ 2005). The major outstanding piece o f insurance related legislation is the Motor Third Party Liability Law (MTPL). Key areas to be addressed before the M T P L Law can be finalized are the mode o f funding o f the M T P L Guarantee Fund. The M O F has provided a draft law to The World Bank which appears to be largely in l ine with current practice in the region.
138. The other major challenge i s the extent o f work required to maintain the competitiveness o f Dunav prior to i t s privatization or at minimum, a sale o f sizeable stake to a strategic investor. Actions taken to date by management have been successful so far in maintaining the company’s market share and improving i t s profitability and solvency. To a
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large extent, these noticeable improvements in the financial performance o f the company have been the result o f a newly installed IT system that enable it to centralize cash and claims management and restructure i t s operations along functional lines. Yet, due to the growing competition from several private players with global brand names, the ability o f the company to successfully compete i s impaired by the lack o f operational experience and appropriate IT systems that are needed to run a highly cost efficient distribution network enjoyed by several other players in the market.
139. Aside from the adoption o f a new MTPL Law and privatization (or a partial sale to a strategic investor) o f the last remaining socially owned insurer, key outstanding matter relates to the liberalization o f the reinsurance segment o f the market, which can be facilitated by selling an equity stake in Dunav Re to a strategic investor.
140.
0
0
0
0
0
141.
0
0
0
0
Actions to be taken under the PFDPL:
Run-off MTPL liabilities o f bankrupt insurers have been computed and an action plan to fund the liabilities i s developed;
MTPL Law has been drafted and subjected to public debate;
DDOR privatization has been completed;
Dunav’s liabilities have been fully quantified through an independent actuarial review;
Dunav’s strategic restructuring plan i s being implemented in accordance with the agreed performance indicators.
Proposed actions for future PFDPL operations (triggers are bolded):
Run-off MTPL liabilities o f bankrupt insurers have been funded;
MTPL Law has been approved by GoS and submitted to the Parliament;
Privatization o f Dunav Re through a sale o f an equity stake to a reputable foreign reinsurer has been initiated;
Preparation for sale o f an equity stake in Dunav to a strategic investor has been initiated.
Policy Area 3.3: Enhancing prudential supervision of the banking sector
142. To enhance prudential supervision a number o f steps have been taken by the government and NBS. First a new Law on Banks became effective on October 1, 2006. The Law includes the introduction o f a risk based supervisory approach and consolidated supervision; thus capturing many o f the regulatory issues cited by the 2005 FSAP. The Law has been further supported by the adoptiodamendment o f regulations. These included, inter alia, requirements on bank disclosure and pricing, ‘know your client’ directives, updating o f capital adequacyhegulatory solvency requirements, new guidelines on external auditing requirements, and updated guidance on conducting bank supervision. Recent additions
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included procedures related to an updated supervision operating policy and the updating o f corrective/remedial action procedures. New bank licensing procedures were also recently issued, as well as an IFRS-compliant chart o f banking accounts for regulatory reporting and regulations on capital requirements for foreign exchange and other market risks.
143. NBS has also focused on improving and formalizing the process o f supervision. First the concept and implementation o f the bank supervisory cycle has been refined and the internal working procedures o f bank supervision have been upgraded. Second, supervisory strategies and associated regulations are more frequently updated, and, together with recently adopted risk matrices, form an increasingly enhanced picture o f each banks’ risk profile. Third, the role and reliance on the internal Senior Supervisory Oversight Committee i s increasing in stature and visibility, which in turn, assists in objective and informed supervisory decisions. Finally, the staffing levels have been augmented and staff has received more extensive training.
144. Additionally, new regulations on loan/asset classifications, bank liquidity requirements, and consolidated financial group reporting including the requisite capital adequacy requirements have been approved.
Actions to be taken under the PFDPL:
The Key SDP and Regulatory objectives have been met. In particular NBS has: (i) disseminated an updated Supervision Operating Policy; (ii) revised the Manual on corrective/remedial actions; (iii) issued a new bank licensing manual; and a new IFRS compliant chart o f accounts; (iv) issued capital adequacy requirements to cover market and forex risks; loadasset classification; and liquidity requirements; and (iv) introduced consolidated financial group reporting (and supporting CAR regulations).
Proposed actions for future PFDPL operations (triggers are bolded):
The NBS has finalized a Basel I1 implementation roadmap;
NBS has established a framework for-and f i rst trial version o f i t s Financial Stability Reporting;
Bank stress tests are implemented by NBS as an early warning tool;
Consolidated financial group reporting i s mainstreamed and supervision i s coordinated across banks and non-banks;
The NBS develops a strategy for homehost supervision including coordination on solvency and risk measures;
NBS implements financial reporting for Basel I1 covering the requisite FINREP and COREP standards;
Regulatory standards for NBS implementation o f Basel 11’s pillars 2 and 3, specified.
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Policy Area 3.4: Developing Capital Markets
147. Serbian capital market remains relatively underdeveloped and lags behind the banking and insurance sector in pursuing reforms that require a comprehensive national strategy to address a range o f development agendas, f rom revision o f legislation to improvement in supervision. However, to fulfill the market functions efficiently in terms o f reliability o f execution and settlement o f transactions, as wel l as the integrity o f ownership records at the Central Depositary - a completely new continuous trading system was introduced in January 2008 with a capacity to handle greater volumes. Out o f 1,778 companies traded (the trading facility i s not a listing) at the Belgrade Stock Exchange (BSE), only about 100 companies are traded actively. Only 4 meet full listing requirements; no major capital raising IPO has been made due to the expense, complexity, and the delay in obtaining a full listing. Despite this, the trading volumes are quite large, and in the Balkans in terms o f market capitalization, the BSE i s second only to Zagreb, a much longer established market where market capitalization i s dominated by major telecoms companies. If plans to proceed with the IPOs o f public enterprises identified in the Law on Gratis Shares are implemented, market capitalization will double and the range o f choice, liquidity, and volumes o f trading will increase considerably.
148. In terms o f government securities, the major Dinar denominated marketable instruments are short te rm bills issued by the M o F and N B S with a maturity o f less than six months. Treasury bonds with longer maturities are totally held by NBS. Though frozen foreign currency bonds (FFCBs) are traded, providing regular market turnover, more than a third o f value has already been redeemed and the remainder will be redeemed in the coming years, with the final issue being redeemed in 2016. The market o f government bonds denominated in dinars i s expected to shr ink due to the government’s continued prudent fiscal policy, although a major expansion o f bond markets i s being planned.
149. The almost nonexistent primary market for equities and corporate bonds deprives the Serbian f i r m s o f access to either equity or long-term dinar debt financing because most bank lending i s short-term foreign currency denominated or indexed. The size o f the domestic marketable government securities i s too small for a viable market, accounting for less than 4% o f GDP, although the total public debt over GDP reached 50 percent. The current Treasury and N B S bills form segmented markets with a different discount rate o f 15 percent and 25 percent respectively, due to a strict sterilization monetary policy, thus hindering the establishment o f a reference rate in the debt market. The absence o f long term government bonds in local currency is a major impediment for the private sector’s issuance o f debt securities.
150. As in many other transitional economies, the privatization reform to date has produced little impact on development o f the equity market beyond secondary trading o f minorities in companies sold by tender and the long tail o f shares owned by over 1 mi l l ion citizens as a result o f several previous privatization attempts. Establishment o f a robust institutional and legal environment will require adequate government policies. As to the secondary market, the number o f tradable shares i s being constantly reduced as a result o f “takeover” activities, since new supply o f (quality) shares does not occur through initial and secondary public offerings. Due to the non-existence o f government bond trading, there i s no reliable yield curve o f risk free securities. As a result, the nascent industry o f insurance and
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private pensions suffers from the dearth o f investable assets and reference tool to evaluate their investments. Moreover, in the absence o f an effective regulation and enforcement system, corporate abuses amongst public companies continue to undermine the investors’ confidence in the stock exchange. Acute problems in the Serbian capital market are the legal and regulatory framework for the protection o f shareholders rights. Currently, the Securities Commission (SC) has four enforcement officers and five legal staff out o f 45 staff in total, which falls far short o f covering 150 brokers and traders licenses in about 80 brokerage firms and the 12 asset management companies licensed under the new Investment Funds Act.
151. Strengthen the Legal Framework: The GoS i s making significant progress in enhancing the legal framework. The Takeover Act and Investment Funds Act were adopted by Parliament in 2006 and detailed implementation regulations have been issued. The revisions o f the Takeover Act should be designed to make the takeover process more efficient and more transparent allowing investors greater decision making power in deciding whether or not to accept a takeover bid. The GoS will take further reform measures in amending the Securities Act, which i s being subjected to both short te rm emergency amendments and longer term full review. The emergency revisions to the Securities Ac t (SA), prepared in close collaboration with market participants, have been approved by GoS and submitted to the Parliament. The main improvements to be put in place through the new SA will be made in the areas of: (i) improving prospectus for ful ler disclosure; (ii) shifting the issuance regulation to disclosure system; (ii) clarifying and extending legal authority o f the SC; (iii) re-defining connected person o f inside trading; (iv) allowing for the brokerage houses to open client accounts. A comprehensive revision will take place later in 2008. When the full new SA i s enacted with above-mentioned two critical securities related laws, the Serbian capital market would align more closely to IOSCO core principles and EU directives.
152. Improve the Government Bond Market: The GoS has made progress in debt management and domestic debt market development. In 2005, the Treasury Sector was merged with the Public Payment Agency to form a separate agency under the MOF. A new Public Debt Law was enacted in July 2005, allowing the M o F to: (i) issue domestic government securities in dinars to refinance FFS; (ii) issue securities longer than one year; and (iii) possibly restructure the pension deficit with marketable government securities. The IT based public debt management will be further strengthened with support o f the European Agency for Reconstruction. The GoS will have to resolve the market fragmentation o f Treasury bills and NBS bills through gradually migrating f rom issuing NBS bills to auctioning add-on T-bills. Measures to encourage the development o f both government and corporate bond markets are underway and a working group, set up by the Ministry o f Finance, will report with recommendations in March 2008. It aims to strengthen the regulatory capacity, build capacity for major public offerings, and harmonize tax regimes between public and private sector securities. It will provide inter alia recommendations for comprehensive improvements in the procedures for issuance o f longer term government bonds, corporate and infrastructure bonds.
153. Enhance the Regulatory Capacity: The SC has an ambitious plan for improving i t s institutional capacity through IT investment and staff training supported by the USAID TA program. When the budget i s approved by the Parliament, the SC would launch a new business plan aiming at (i) strengthening the institutional effectiveness, (ii) enhancing the accountability, and (iii) improving awareness and professional capacity o f market participants. The adequate financing i s critical for enhanced capacity building and better compensation -
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making it financially self-supporting i s a fine idea in principle, but in practice, may result in excessive fees, inadequate staffing and l o w salaries because the securities market i s not yet big enough to support it financially.
154. Promote Public offerings: The Government i s considering the launch o f a public offering to promote new issuance o f securities. The Share Fund (SF) hired both financial and legal advisors to evaluate the marketability o f i t s shareholdings and effects o f a potential capital increase o f several leading public enterprises with full cooperation o f the incumbent management. The SF has identified five preliminary candidate companies in i t s portfolio for potential sale. The shares o f state-owned banks and insurance companies, and public utility companies are being proposed in the L a w on Gratis Shares as candidates for public offering and listing on the BSE in a capital raising exercise. Public offerings o f government shares could serve as a benchmark for future equity financing o f the local f i r m s as well as create a demonstration effect for the local individual investors and bring in both local and foreign institutional investors attracted by better quality companies with greater liquidity.
155. Introduce a Neutral Tax System or Private Sector Securities: Within the broad context o f pending 2006 tax reforms, the GoS is prepared to revamp the taxation system concerning the capital market so as to remove distortionary effects on private sector securities, as currently government shares and debt instruments and N B S bills are exempt from al l taxation. First, three key tax laws will have been amended to introduce a neutral tax system; the property tax, corporate income tax, and personal income tax. Under the proposed tax reforms, private securities will be treated equally with the government securities in terms of interest and dividend incomes, capital gains, and transactions. Second, tax treatments o f the securities incomes and transactions o f non-residents will be streamlined. Third, new tax ru les will be set out for private pension funds as well as investment funds in accordance with the international standards.
156. fol lowing benchmark for the proposed PFDPL operation were agreed upon:
Actions to be taken under the PFDPL: Based on the discussions with MoF, the
0 Amendments to Securities Law approved by the GoS and submitted to the Parliament.
157. Proposed actions for future PFDPL operations (triggers are bolded):
0 A joint working group between MOF and MOERD to undertake a comprehensive review o f Securities and Takeover Laws i s established;
0 The Working Group submits to GoS proposals for the establishment o f the market for med iud long te rm state securities, corporate and municipal bonds, including delineation o f responsibility for issuance between the Ministry o f Finance and the NBS;
0 New draft laws submitted to Parliament;
0 Range o f government bonds issued in market to establish benchmark yield curve.
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V. OPERATION IMPLEMENTATION
POVERTY AND SOCIAL IMPACTS
158. As o f end-June 2008, Serbia posted over EUR 2.8 billion in privatization revenues since 2002. More than 2,300 companies were sold in tenders and actions and on the capital market, with buyers pledging over EUR 1.2 billion in investment plans, and over EUR 276 million in social programs.
159. Since the latest stage o f reform began in 2001, job losses have been large, as Serbia has embarked on a program o f restructuring and privatization. At the same time, job creation in the private sector has been slow, despite fairly strong economic growth in recent years. Like many other transition countries, Serbia has been facing a “job loss growth” in recent years. According to the data o f the semi-annual employment survey conducted by the Statistical Office, the total number o f employed has declined from 2.521 million employed in September 2006 to 2.502 million in September 2007. The decline was due to reduction in the number o f employees in enterprises, institutions and organizations from 1.447 million to 1.428 million while the number o f individual entrepreneurs, self-employed, and agricultural workers has been relatively stable. At the same time, the unemployment rate has, according to the labor force survey data, decreased from 21.8 percent in 2005 to 18.8 percent in 2007 (aged 15-64) but the rate i s s t i l l more than double the EU-27 average. The reforms supported by PFDPL are expected in the medium term to lead to job creation and a more efficient allocation o f labor. However, the same reforms are also likely to result in a transitory increase in unemployment as some 850 socially owned enterprises have yet to go private. However, i t i s important to note that while privatization i s initially always a net destroyer o f jobs, in the long run it contributes to job sustainability and growth. Moreover, the empirical studies conducted in Serbia have shown the increase in productivity o f privatized f i rms, while the employment in some socially owned enterprises prior to privatization was only formal, as a lot o f them did not pay regular salaries and/or contributions.
160. Therefore, it i s important that the social impacts o f the privatization and the restructuring o f SOEs be mitigated and, consequently, political support for ongoing and planned reforms can be maintained. It i s also important, at the same time, that social protection measures are designed in a fiscally sustainable manner and provide strong incentives against relying on welfare transfers and for finding gainful employment.
16 1. To mitigate the welfare and employment impact o f the ongoing and expected SOE reforms, the GoS introduced the Social Program’ in 2002. In July 2005, the Social Program was revised, changing the benefit formula for extended severance payments, and offering three (lump-sum) options for redundant workers: (i) remuneration amounting to 10 average gross wages in the Republic in the industry sector for employees with more than 10 years o f insurance record; (ii) remuneration amounting to Euro 100 per year o f service in Dinar equivalent; and (iii) severance pay according to the Labor Law.
’ Officially, the Program for Resolving Redundancy in the Process o f Rationalization Restructuring and Preparation for Privatization
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162. Since i t s inception, the Social Program has provided support to around 172,600 redundant workers (2002-2007) through this mechanism. However, only a portion o f al l the redundant workers are supported by the Social Program while others receive regular severance according to the Labor code. In 2002-2004, mostly big SOEs dominated among the recipients o f i t s funds. Starting 2005, the list o f enterprises approved for funds includes also a number o f state-owned uti l i t ies. During 2007, 2 14 enterprises and 22,700 redundant workers benefited from the Social Program.* The average redundancy payment in Serbia equals to about US$ 2,100 which i s far more generous compensation package than the registered unemployed with insurance record can claim. The benefits offered though the Social Program in Serbia are in l ine with many other countries in the region: the Czech Republic spends about US$2000, Hungary US$2500 and Poland US$37OO9 per redundant worker for severance payments and additional training benefits.
163. In 2004-2006, tracer surveys o f workers made redundant from 2002-2003 were conducted in Pancevo, Kraljevo, N i s and Lazarevac, and they provided important insights into the Government Social Program. The workers with longer tenure, and respectively older workers dominated among the displaced workers. For example, in Pancevo, over 25 percent o f displaced workers had job tenure o f over 30 years, and only 6 percent, less than 10 years. By their j o b profile, most displaced workers were blue collar workers with narrowly specialized skil ls. This made their redeployment a more challenging tasks. The largest share o f redundant workers included craftsmen, plant and machine operators and assemblers, elementary occupations workers, and office clerks. Most redundant workers had very l o w salaries prior to dismissal, and 81 percent o f them earned less than Euro 100 per months (in 2003, average net salaries in the country were around Euro170, and in 2002, around Euro150). This indicates that many o f them may not have been fully employed prior to dismissal or were on administrative leave.
164. As for the current labor market status, the largest number o f displaced workers who were surveyed in 2006 and who were beneficiaries o f the Social Program, remained unemployed (64 percent); 5 percent have remained out o f the labor market, whereas 31 percent found new employment; 18 percent out o f those who found new employment are now working in the private sector, five percent in the public sector, whereas another five percent developed their own business and three percent o f the redundant workers are involved in casual jobs.
165. As shown in paragraph 104 above, the GoS i s committed to using the SP as an instrument to reduce the level o f excess employment in large SOEs in preparation for their privatization. Therefore, it is important that the TF continues to receive adequate resources, while recurrent subsidies to SOE sector are reduced. In reflection o f these needs, the Government almost doubled allocations to the Program between 2004 and 2006 to over 6 bi l lon dinars, and increased these expenditures to 9.971 bi l l ion dinars (about EUR 125 million) in 2007. In addition, the Government intends to clear up the arrears in cash payments for severance from the Transition Fund accumulated over the past years.
* It i s estimated that around one fifth o f workers in enterprises included into the Government Social Program are made redundant and benefit from the program. It i s limited to a few coal mining sector enterprises only.
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166. In addition to the Social Program described above the GoS provides social assistance, including cash benefits and services, to poor households. The main social assistance benefits are: (i) M O P - Material Support to Families whose income i s lower than the guaranteed “social security level”, and (ii) child allowances - cash transfers to poor households with children, including the families o f redundant workers.
167. The workers, who are not included into the Government Social Program, are entitled to an unemployment benefit. The duration o f benefit payment varies from three months, if the insurer has been insured for the period o f 1 to 5 years, to 24 months if the insurer i s older than 55 years and has been insured for the period longer than 25 years. The benefit size i s 50-60 percent (depending on the duration) o f the average earnings in the month before employment contract was terminated. All redundant workers and employees are entitled to ALMPs, such as training and retraining programs, self-employment assistance, counseling and training for business start-ups, reassignment to other jobs, etc. In 2006, ALMPs covered about 398,700 unemployed persons, or about two fifth o f the average number o f registered unemployed. However, funds available for these additional activities especially by NES are limited.
168. The Bank i s providing two types o f assistance to the Government to mitigate the social impact o f redundancies resulting from corporate restructuring, privatization and bankruptcies: (i) general budget support through the programmatic loan series in order to reduce the short-term fiscal pressures generated by severance payments, and (ii) technical advice and funding offered through various ongoing and planned investment operations. In particular, the Employment Promotion Project (EPP; 2003-2006) supported the GoS in designing and the implementing enterprise-based labor redeployment programs, provided through Worker Transition Centers which act as a resource center providing information on workers’ redeployment options and options related to the Government’s Social Program, and assist in implementation o f enterprise social plans. As part o f the EPP project, 13 such pi lot Transition Centers were launched in enterprises undergoing privatization which provided counseling services and training to over 18,000 workers. The planned Bor Regional Development Project would support social mitigation measures aimed at redundant workers, and creation o f new sources o f diversified growth and employment in one o f Serbia’s poorest regions.
169. Building on our fruitful policy dialogue in this area (through SACS 1 and 2 and SOSAC), in 2006 the Bank conducted a labor market study and a study on social protection system in Serbia that informed the design o f public sector development policy loan and a potential social sector operations. Policy and procedural advice provided to the GoS will be based partially on these studies, as wel l as, on projections concerning the expected fiscal implications o f future layoffs.
170. Given that the Serbia country program includes operations explicitly dealing with mitigation o f social consequences o f reforms, PFDPL will not include conditionality directly influencing labor legislation and social policy. In the longer term, however, PFDPLs will assist the Government to reduce poverty through creating the necessary conditions for accelerated economic growth. First, strengthened fiscal discipline and divestiture o f state and socially-owned assets will improve resource allocation and the country’s growth prospects, and will also reduce the risk o f macroeconomic shocks, which disproportionately affect the poor. Second, reform measures directed at improving the business climate will create the basis for investments needed for medium-term growth and employment creation, and thus for more
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sustained poverty reduction. Third, policy efforts aimed at building a more efficient and stable financial sector will underpin economic growth and increase the resilience o f the Serbian economy to potential adverse shocks-both o f which are prerequisites for increasing employment and reducing poverty.
IMPLEMENTATION, MONITORING AND EVALUATION 171. The MOF will be responsible for the overall implementation o f the proposed operation and for reporting process and coordinating actions among other concerned ministries and agencies. The Bank will monitor actions and review progress o f the implementation o f the proposed operation, as well as the subsequent actions o f the GoS program by using the short term and the overall program outcomes outlined in the Policy Matrix.
172. At the same time, the overall status o f the GoS program will be monitored during supervision to determine whether the specific conditions o f the proposed operation have changed. In addition, supervision missions will not only allow the Bank to continue the policy dialogue with the institutions involved in the implementation o f the reform program, but will also ensure synergies with other donors to avoid conflicting advice to the Government in the policy and technical areas involved in the reforms.
FIDUCIARY ASPECTS
173. This fiduciary information section and the set o f agreed fiduciary measures included below for the operation draw on the findings and recommendations o f the 2007 Integrated Public Financial Management Assessment (IPFMA) and assessment o f more recent developments in the public financial management system for Serbia.
174. Public financial management (PFM) system: A Country Financial Accountability Assessment (CFAA), a Country Procurement Assessment Report (CPAR) and a Public Expenditure and Institutional Review (PEIR) were completed in 2002 and 2003. The initial diagnostic was updated in June 2005 with a PEIR Update and a Fiduciary Assessment Update (FAU) for public financial management and procurement. Integrated Public Financial Management Assessment (IPFMA) was published in February 2007.
175. The overall conclusion o f the IPFMA suggests that despite the recent public disclosure o f basic fiscal and budget execution data, the lack o f transparency and operating checks and balances in public finance s t i l l appear to be an overarching problem in Serbia. This i s reflected in the relative poor performance on several PFM performance indicators relating to internal and external audit, internal control and predictability o f funds availability. Significant steps have been taken towards strengthening PFM, such as modernization o f the central treasury 'system incorporating a single treasury account and new integrated financial management information system, the establishment o f a central unit in the Ministry o f Finance responsible for internal audit, and the establishment o f the State Audit Institution Council in September 2007. Further improvements in financial controls have been proposed and are awaiting finalization o f the new Budget System Law, currently under development. While these efforts are encouraging, this assessment suggests that much remains to be done to strengthen transparency and accountability in PFM in Serbia and strong Government leadership o f the ongoing reforms wi l l be required to bring Serbia at par with other EU- aspiring countries in the region.
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176. The I P F M A suggests that the fiduciary risks associated with the P F M system in Serbia are high. Whereas some o f the greatest fiduciary risks are associated with poor performance in the areas o f external financial reporting, external auditing and the extent o f unreported government operations, significant risks are also associated with the public procurement system, the stock o f expenditure arrears and internal control and internal audit systems. The IPFMA also suggests that attention need to be paid to specific anti-corruption measures.
177. Mitigating fiduciary risks will require strong and sustained commitment towards transparency and accountability in budget management. The government has taken steps to strengthen budget execution and reporting arrangements and i s developing improved arrangements for public internal financial control and audit as part o f i t s pre-accession program. Establishment o f the SA1 Council and provision o f separate budget allocation in 2008 was a positive step, but not sufficient to provide an effective external audit function to date.
178. The operation will support the further actions required to attain acceptable fiduciary arrangements. Thus, the fol lowing actions have occurred: (i) the Institution has presented acceptable Operations Manual (rules and regulations) and has submitted it to the Parliament; and (ii) acceptable first annual plan and work program have been submitted by the SA1 to the Parliament's Finance Committee; (iii) the Institution's 2008 budget as separate line item in the Budget o f the Republic o f Serbia has been adopted by the Parliament. Draft documents were submitted to the Parliament within agreed timeframe. The documents were reviewed and found acceptable to the Bank. Reasonable SA1 budget as a separate l ine i tem i s included in 2008 budget o f the Republic o f Serbia adopted by the Parliament.
179. Depending upon the progress achieved in implementing the agreed fiduciary reforms, additional public financial management fiduciary pre-conditions may be formulated to address, inter al ia: (a) the extent o f unreported Government funded operations and transparency o f government financial reporting; (b) public procurement arrangements; (c) internal control and audit; (d) implementation o f the Modernized Treasury System and (e) anti-corruption measures.
DISBURSEMENT AND AUDITING
180. Borrower and Loan Amount: The Borrower i s the Republic o f Serbia. This operation i s a single-tranche loan. The loan proceeds would be made available to the Borrower upon the effectiveness o f the Loan Agreement between the Bank and the Republic o f Serbia.
181. Disbursement: Upon approval o f the loan and notification by the Bank o f the effectiveness o f the Loan Agreement between the Bank and Serbia, the Borrower will submit a withdrawal application to the IBRD. At the request o f the MOF, the IBRD will deposit the proceeds o f the loan into the designated account at the National Bank o f Serbia (NBS) which forms part o f the country's official foreign exchange reserves. This account will be managed by and subject to control o f the MOF. The Borrower shall ensure that upon the deposit o f the Loan into said account, an equivalent amount i s credited in local currency to the Single Treasury Account (if they use one) also kept in NBS and that i s available to finance budgeted expenditures.
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182. If, after depositing funds in the dedicated foreign currency deposit account at the NBS, the proceeds o f the loan are used for ineligible purposes as defined in the Loan Agreement, the Bank will require the Borrower to either: (i) return that amount to the account for use for eligible purposes; or (ii) refund the amount directly to the Bank, in which case the Bank wil l cancel an equivalent undisbursed amount o f the loan.
183. Auditing: Due to nature o f the DPL, being a single tranche transaction intended to supplement general Republic o f Serbia budget funds, and considering the unqualified audit findings on NBS financial statements, no specific auditing arrangements are provided in the loan agreement. The Bank does, however, require a confirmation from the Government on movements into and out o f the designated account, including dates and details within 30 days following any and al l transactions. The corrective actions taken by the National Bank of Serbia to safeguard funds in the foreign exchange account are deemed adequate. lo
ENVIRONMENTAL ASPECTS
184. The major pillars o f the PFDPL have been assessed for l ikely significant effects on the environment, forests and natural resources under the requirements o f the World Bank's OP 8.60. The principal concerns in the sectors supported under PFDPL arise from the handling o f environmental liabilities (e.g. water, air and waste emissions) from past and current operations caused by socially- owned enterprises (SOEs), including especially in the energy sector, being privatized or allowed to go bankrupt. The screening also noted that one possible impact from electricity tariff increases could be an increase in uncontrolled wood cutting. Discussion o f these issues immediately follows a review o f the institutional and legal framework for environmental management below.
185. The environmental legal framework for environmental management in Serbia has undergone significant reform along the lines o f the EU acquis, however, enforcement and implementation s t i l l need substantial strengthening. Four key environmental laws were adopted in recent years: Law on Environmental Protection, Law on Environmental Impact Assessment, Law on Strategic Environmental Assessment, and L a w on Integrated Pollution Prevention and Control. Further, new law on waste management has also been drafted. Serbia has also signed the South Eastern European Energy Community Treaty which subjects it to key pieces o f the acquis, notably the Large Combustion Plants Directive. This directive places restrictions on local pollution emissions (sulfur dioxide, nitrogen oxides and particulate matter). Serbia has also recently ratified the Kyoto Protocol. The Government o f Serbia has
lo The IMF conducted a safeguards assessment o f the National Bank o f Yugoslavia (now NBS) in November 2001 and concluded that substantial risks may exist in the financial reporting framework, internal audit mechanism, and system o f internal controls. The mission proposed a series o f measures to address the identif ied weaknesses. The report on the Sixth review under the Extended Arrangement (IMF Country Report N o . 06/58) noted that the measures were being implemented by the NBS. In November 2008 the IMF announced the establishment o f a precautionary stand-by arrangements under regular procedures and access limit noting that the policies envisaged under the program are adequate to maintain macroeconomic and financial stability. The N B S received an unqualif ied opinion f rom i ts auditor in respect o f i t s latest available financial statements December 3 1,2007.
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also introduced the use o f pollution charges for S02, NOx and particulate matter which also apply to thermal power plants. Environmental oversight in Serbia i s shared among the Ministry o f Environment and Spatial Planning (MoESP), the Autonomous Provinces o f Vojvodina and municipalities. The mandate o f the nascent Serbian Environmental Protection Agency i s limited to data collection and reporting. Recent years have also witnessed delegation o f environmental oversight functions, such as some o f EIA and permitting, to local government agencies. However, variation o f capacity in local government agencies and lack o f secondary legislation related to the new laws lead to delays and variations in the interpretation and application o f laws. Such delays and inconsistencies are detrimental to the business climate and warrant inclusion in the regulatory review.
186. Environmental liabilities of SOEs/public enterprises. Thermal power plants (TPPs) remain key polluters which continue to be significant emitters o f S02, while recent investment at one o f the TPPs has reduced particulate matter emissions to admissible levels. Air pollution leads to substantial damages to public health, agricultural products and ecosystems. Uninsulated ash dumps also contribute to air and water pollution. As a monitorable condition o f the PFDPL an environmental audit (EA) will be carried out and action plans to control and remediate damages will be developed for those SOEs/public enterprises deemed to have significant environmental impact. The combination o f EAs and action plans will not only ensure remediation o f environmental damage, but also help attract serious international investors and possibly lead to higher bids as the new owner’s risk o f facing unexpected environmental liabilities i s reduced.
187. Ongoing air pollution from TPPs i s as much a matter o f financial capability o f the national electric power utility EPS as it i s o f enforcement. The increase o f electricity tar i f fs which i s supported under this loan will al low EPS to obtain larger revenues part o f which it can use to install abatement technology. The newly instituted pollution charges will provide an added incentive.
188. Since the privatization process began in the early 2000s, Serbia has made significant progress in integrating environmental concerns in the privatization process. Recognizing that strategic investors will be reluctant to invest or will heavily discount their offer prices if there are significant unassigned environmental liabilities in 2003, the Government amended the Law on Privatization to state that liability for environmental damage caused by a socially or state-owned enterprise up to the date o f privatization rests with the state. In the process o f privatizing the Copper Mining and Smelting Complex o f Bor, one o f Serbia’s foremost environmental hot spots, this legal clarification has played an important role in determining financial responsibilities for cleaning up “historical pollution” and mitigating “current pollution” associated with the enterprise’s ongoing operations. The Government will use World Bank support for cleaning up historical pollution at this site under the Bor Regional Development Project. The operation was made possible by cooperation between the MoESP and the Privatization Agency. The only outstanding issue relates to the adoption o f a bylaw defining the scope o f state’s environmental liabilities
189. Similar past environmental damage and liability issues arise with SOEs that are too unviable to be privatized and will be allowed to go bankrupt. According to the “Polluter Pays” principle which is firmly established in the Environment Law enacted in 2004, liability for
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such damage l i es with the state. It i s recommended that GoS prepare a clear action plan on how to deal with such liabilities.
190. Increases in electricity tariffs are inevitable for economic efficiency. However, this may increase the use o f fire wood and excessive/illegal cutting especially on private lands. The recent UNECE Environmental Performance Review for the Republic o f Serbia (2007) indicates that "Seven per cent o f households heat with wood. As wood i s often used directly by rural communities without entering the commercial market, the total amount o f firewood used i s unknown. But rising poverty has caused more use o f firewood, and illegal logging has increased." The non-commercial nature o f firewood use makes it dif f icult to quantify the relationship between electricity tar i f f increases and firewood consumption. As a result, the changes in fue l wood use would best be monitored in regular household surveys that gauge poverty levels in rural and semi-urban areas. The GoS i s urged to use this monitoring tool and feed this information into plans for targeted electricity tar i f f design and forest inspection efforts.
RISKS AND RISK MITIGATION
19 1. Political r isks related to the unresolved Kosovo status issue, previously fragmented political situation and finalizing the cooperation with the International Criminal Tribunal for the former Yugoslavia (ICTY) have been largely mitigated with the election o f the new Government o f Serbia. The advent o f the new democratic government and i t s commitment to EU integration indicated renewal o f stability and pursuit o f economic reforms. The fact that the Stabilization and Association Agreement, an important step towards accession, with the EU has been signed and ratified in the Serbian Parliament will provide a significant anchor for further reforms which would have been virtually impossible without it, as the process o f EU integration i s unique in the world, demanding from al l new prospective members to implement dynamic economic, political, and institutional reforms. Both sides o f the coalition government are firmly focused on implementing further economic and political reforms and vigorously pursuing EU agenda. The election o f democratic government was yet another confirmation o f Serbia's commitment to European integration, fol lowing the presidential elections in February 2008 in which incumbent president was entrusted with another 5-year mandate running o n pro-reform and EU agenda. While final status o f Kosovo remains an issue, economic reforms and associated EU agenda are no longer subordinated to the status o f Kosovo. Nevertheless, while the government i s committed to advancing the development agenda, there is st i l l some uncertainty how obstructive the opposition parties in the Parliament are going to be. Current developments indicated that the government i s well aware that moving ahead with European integration i s arguably the most important factor for Serbia's long term development prospects and stability, and that it will find a way to implement this agenda.
192. The impact o f the international financial crisis on Serbia and readiness o f the Serbian authorities to respond promptly and adequately are additional risk factors to be considered. The impact o f the international financial crisis so far was not as dramatic as in many other countries in the region. Nevertheless Serbia will experience lower inf lows o f FDI and cross- border borrowing, which in turn will lead certainly to slower growth o f economy. The revised growth rate for 2009 for Serbia i s 3.5 (instead o f the 7 percent projected for the unified survey). Serbia has significant external stability risk due to high financing requirements,
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increasing external debt, high euroization o f the banking sector and l o w level o f export. The government quickly responded and created a jo int committee with the National Bank of Serbia to monitor developments at the financial market and to prepare the policy response. The Committee had several meetings with representatives o f banks, insurance companies and investment funds. As a result the government decided to increase the amount that i s insured with the National Deposit’s Insurance Corporation, f rom EUR 3,000 to EUR 50,000 which effectively means that 99 percent o f deposits in Serbia will be insured. In addition, there will be some fiscal incentives to increase private sector savings. The NBS also decided to abolish the 40 percent reserve requirement on subordinated loans to foreign-owned local banks thereby increasing the liquidity o f the banking sector. It i s important that the government has ready responses to al l challenges in the real and financial sector and the cooperation with the Fund via the recently agreed Stand-by Arrangement i s a major step forward.
193. The precautionary SBA ensures much needed fiscal discipline. The SBA will last through March 2010 when global financial turbulence i s l ikely to be most intense. However, it will be important that the government not relax i ts efforts thereafter. The Serbian government needs over the medium term to remain committed to countercyclical fiscal policies not only due to constraints on finance in the shorter te rm but also in order to reassure investors and the Serbian public that it remains committed to implementation o f structural reforms and a private sector-lead economy over the longer term.
194. Finally, relatively weak institutional capacity including for fiduciary management raises concerns including on internal controls. Improving the public expenditure management system i s an important component o f the operation, but institutional change comes slowly. The Programmatic Private and Financial Sector Development Policy Loans will include benchmarks on the external audit o f the Government accounts and strengthening the Supreme Audit Institution. The government i s also proceeding with adoption o f S A A requirements, including public internal financial control. Renewal o f the Budget System Law i s in progress and other reform initiatives are under consideration in preparation for a separate D P L to support public expenditure reform initiatives.
195. Other potential r isks relate to specific actions o f the reform program include delays in the implementation process o f the overall program. The current capacity o f some public sector institutions to implement an ambitious reform agenda, while much improved over the past few years, remains relatively weak. The execution risks will be mitigated through utilization o f continued technical assistance facilities and active coordination o f bi-lateral donor funded technical assistance. Furthermore, support f rom ongoing and proposed Bank projects in social protection, public sector administration will further serve to mitigate risks. Another potential risk may include delays in the Parliamentary approval o f a package o f laws, due to filibustering o f some opposition parties, which serves as a precursor to successful implementation o f the reform program.
Mr. Robert €3. Zoellick President The World Bank 1818 H Stteet,N.W. Washington, D.C., 20433
Dear Mr. Zoellick,
1. We are Writing to request, on behalf of the Government o f the Republic o f Serbia (GoS), the first Programmatic Private and Financial Development Policy Loan (PFDPL) of US$50 million equivalent to support our economic reform program. T h i s Letter of Development Policy sets out the key actions that the GoS is committed to undertake over the near term to enhance economic growth in Serbia.
2. The macroeconomic framework of our r e f o m program centers on 8 high quality fiscal adjustment that wi l l enhance macroeconomic stability and boost confidence in the policy fiarnework, thereby stimulating private investment. Further, an acceleration o f policy efforts aimed at improving eficiency, including privatization and enterprise restructuring and strengthening o f bankruptcy mechanisms, dong with measures directed at improving competition and the investment ciimate wil l elevate the economic reform agenda vis-&vis the policy framework. Finally, we aim to strengthen the financial sector in Serbia with continued restructuring and divestment of stab-owned holdings, and overhauling o f capital msrkets Eramework.
3. In 2007, Serbia had robust real GDP growth o f 7.1 percent, retlecting an upturn in industry as privatization and enterprise resmcuring continued and cumulative FDI inflows since the beginning of transition in 2001 reached $10.4 billion. However, i n h t i o n picked up and reached I O . 1 percent in 2007 and is projected at some 9.5% at the end of ZOOS. This was primarily due to exogenous shocks, such as oil price increase. Nevertheless, the infiation is targeted ro gradually dedine to law single digits over the
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medium term, specifically to 4% in 2012. The GoS intends to ensure continued annual growth despite the current financial crisis, to gradually reduce a current account deficit from 15.9% in 2007 to 8% in 2012, increase the share o f investments from 24% o f GDP to 2628% in 2012, and to create at least 200,000 new jobs over the next four years, reducing unemployment from 18.1% to 11.9%. We plan to achieve these ambitious targets with a set o f diverse reforms, some of which wil l be supported with th is DPL operat ion.
4. The overarching objective o f the programmatic DPL i s to promote economic growth and development in the country. I t will s u p r t our reform program that fits under the first priority area of the recently adopted Country Partnership Strategy for the Republic o f Serbia: dynamic private sector led growth to ensure incomes convergence with Europe. The proposed PFDPL operation, the first of three programmatic operations, will focus on three specific areas: (i) enhancing business environment to stimulate more private sector-led investments, (ii) strengthening financial discipline in enterprise sector to improve our fiscal position, and (iii) building a more eficient and stable financial sector to maximize its potential growth dividend, We aim to achieve the following outcomes through impfementation o f the PFDPL supported reform program.
5. En order to improve business environment we are applying a two-pronged approach: improving the quality of new regulations through introduction of the Regulatory Impact Assessment (RIA) in the legislative process of Serbia (2004) and facilitation of a public consuitations process, and streamhing and simplifying regulation o f business activity through conducting comprehensive review o f the existing stock o f business regulations. To this end, in October 2008 the GoS has adopted a Strategy for implementation o f comprehensive regulatory review (also known as a regulatory guillotine). The proposed reform o f business registration based on the single agency approach is expected to decrease the number o f procedures and rime for business registration from I f procedures and 23 days in 2008 to 8-9 procedures and 7 days by the end of the reform program We expect that by the end o f the reform program, all businesses wil l be assigned a single registration number, regulatory compliance costs of business wil l decrease substantially, particularly as regards to obtaining construction licensing and permits. Additionally, regulatory frameworks for competition development wi l l be strengthened.
6. We me committed to further strengthening the financia{ discipline in enterprise sector in order to ensure lasting fiscal adjustment. We also recognize that enforcement o f hard budget constraints i s essential for completion o f the restructuring of the socially and state-owned enterprise sector, started in 2001. To this effect, we will build upon and expand the earlier efforts in this crucial area, focusing on: (i) khe furher reduction o f direct and indirect subsidies provided to enterprise sector; and (ii) accelerating restructuring, privatization and, where applicable, bankruptcy of socially-owned enterprises.
7. The GoS intends to introduce significant improvements in the energy sector as well. Recognizing the potential value o f private sector participation in energy generation, we wil l fwus on developing a strategy and time-bound action plan for private investors to
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invest in, take majority control of, and manage assets in power generation. We will also commit to f i l ly removing obstacles to competition in refined petroleum products by the end of 2010. Finally, within the same period we intend to undertake gradual annual tariff adjustments in order to each cost-recovering tariffs for power and gas.
8. Building on the successful financial sector privatization program, which . included the recent privatization o f thrw banks (Vojvodjanska, Niska, and Panonska) and o f the second largest insurance company (DDOR), and the launch of the tender for the sale o f 6 packages o f non-performing loans of bankrupt state owned banks, the GoS will finalize the Strategy for the remaining banks and insurance companies with ROS ownership. We wil l also continue to strengthen the insurance sector with the new MTPL Law and restructuring of Dunav insurance company. Further, NBS will work on approving key policy and procedures laid out in the second SDP, and will update/issue banking sector regulations. Finally, we have drafied and approved the urgent amendments to Securities Law which i s now in the Parliament awaiting adoption, thus contribuzing to ongoing development of capital markets. We also plan to prepare a brand new Securities Law in the near future. We expect that these measures will result in decreased state sector share in the banking sector from 17.29% af total assets as of mid- 2008 to 510% in 2010, while the reduction of state ownership will continue in insurance sector as we l l - From 62% in insurance premium written in 2006 to 34.2% in mid-2008, and continuing slide to below 30% in the following years. The proposed reform measures will also contribute to improved access to finance, broader range o f financial services available far the companies and individuals.
9. Our reform plans to reach these outcomes are briefly outlined as follows.
I. Enhsnefng Business Environment
10. We intend to undertake measures which should lead to removal o f multiple adrninistr&ive barriers for business development and continuous reduction of regulatory compliance costs. Additionally, these measures will also support strengthening o f corporate governance, competition development and better functioning markets.
Further Sirnplifreatjon of Business Entry through Implementation of a Single Agency Approach for Business Registration
1 I. Building on the Serbian achievements in implementation o f the business registration reform and institutional strengthening of the Business Registers Agency (SBRA), we would like to focus on transforming the SBRA into a real one-stop-shop (OSS), ensuring that the SBRA performs all procedures required for starting a business, including issuance o f the tax number. To this end we have adopted the Principles of consolidating in the SBRA of business registration procedures related to issuance o f tax, pension, and social security identification numbers, as a necessary prerequisite for the implementation o f the Single Agency Approach. Over the medium term, the Parliament i s expected to adopt relevant regulations to create legal framework for introduction of a single identification number f ~ r all Serbian businesses.
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Improving Legal Framework for Strengthening Corporate Covernernce and Facilitating Business Entry and Operations
12. While we have made substantial efforts to advance the reform activities aimed at making the existing legal fr?unmork more conducive for improvement o f corporate governance and facilitation of business entry and operations, further refomis are necessary. This will primarily include amendments to several key meas of the Company Law of 2004, where the gaps and shortcomings have been identified in the course o f i t s practical implementation, namely: (i) corporate governance provisions, (ii) detailed regulation of new forms o f operation (such as branch offices of foreign legat entities); (iii) clear and consistent regulation of status changes (mergers, divisions); (iv) unification of all provisions regulating wtabl ishent and operation of entrepreneurs and companies, including explicit elimination o f at1 unnecessary requirements and thereby annulling and replacing the Law on Entrepreneurs entirely. Finally, we plan to conduct a round of broad public consultations for the proposed amendments to the Company Law, including those substituting the Law on Entrepreneurship, and submit them for Parliamentary approval.
Sfreamlining Regulatiorrs of Business Operations and Reducing Business Compliance Costs
13. By introducing a Regulatory Impact Analysis (REA) requirement into the legislative process, we took measures to ensure that the introduction of future regulatory regimes is based on a clear rationale, a proper analysis o f costs and benefits, and includes appropriate consultation with af%ected stakeholders. However, in order to create a secure and tramparent legal environment we need to start dealing with stock of legislation. In order to tackle this issue we have proposal to conduct 8 comprehensive regulatory review of existing regulations known as a “regulatory guillotine*a, a technique t b t can speed up the process o f reviewing, eliminating, and streamlining unnecessary outdated regulations. To this end the GoS has approved a Strategy which determined a timeline and institutional framework for a comprehensive regulatory review, defined the approach to the “guillotine” implementation and i ts scope, . 14. Since Serbia still has rather complicated and costly procedures related to issuing planning and construction permits, the GoS remains committed to dealing with this problem. We feel that t h i s area of business regulations could benefit from comprehensive regulatory review as a part o f the proposed “guillotine process”. In this regard we intend to pursue this issue further and introduce a new set o f land reform laws in the near future.
15, The regulatory “guillotine” o f existing regulations will be conducted in 2009- 20IO along with the introduction o f necessary amendments to laws and regulations. We are certain that the intended reforms wi l l &matically simplify the regulation of business activities and decrease the regutatory compliance costs.
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Improving Legal end Institutionet Framework for Competition
16. The GoS has &ken a number of important steps to protect consumers and strengthen the competitive environment by adopting a new Competition Law in 2005. However, two years into implementation of the Law several important deficiencies have been identified which need to be resolved. Initially the COS approved amendments to the Law aimed at addressing the majority of existing business concerns (Le., the time required for a merger, tow threshoids for concentration of capital notifications, definition o f the basis for notification f e s and applicable fines that leads to prohibitively high compliance costs, etc.) and submitted the amendments for the Parliament approval. However, following the fomt ion of the new government, we have decided to draft a brand new Competition Law which wodd include all of the previously prepared amendments, eliminate additional deficiencies, and be fully in line with EU regulations. Further, two secondary regulations - on block exemption on horizontal and vertical agreements - are being drafted and wil l be approved following the passage of the new Law. We expect that the new Law and accompanying regulations and bylaws wil l become effective in the near term.. The introduced changes would both improve competition and reduce regulatory compliance costs to businesses. Thus, the proposed increase of the thresholds for concentration notification, which proved to be too low in practice, will significantly d u c e compIiance costs to businesses. Finally, strengthening both independence and capacity of the Commission for Protection of Competition wi l l remain a part of a medium tern reform agenda.
11, Strengthening FinancieI Discipline
17. Over the past seven years, we have made a significant progress in multi-track privatization program aimed at divestiture o f socially-owned assets. Over this pcriod, we have also undertaken steps aimed at reducing, gradually, the direct subsidies to socially- and stateawned enterprises in the Serbian economy. The proposed new operation will assist us with continuing reforms in this crucial area, focusing on: (i) further reduction of direct and indirect subsidies to enterprise sector; (ii) acceierated restructuring, privatization and, where applicable, bankruptcy andor forced fiquidation o f socially- owned enterprises; and (iii) continuation o f unbundling and restructuring of public utilities.
Reduction in Direct and Indirect Subsidies
18. We have fbrther reduced the budget allocations for direct (MOE) subsidies provided to SOEs in 2008 budget to CSD 3.1 billion from CSD 4,1 billion in 2006. Additionally, we aim to continue improving EPS collection rates for SOEs. In paralIe1, we are working to reduce the demand for subsidies by pursuing divestiture, through privatization or bankruptcy, of no less than 15 SOEs among the top twenty largest recipients of combined direct and indirect subsidies, including the core assets of Zastava Group and RTB Bor. No less than 10 o f these enterprises have been either privatized or put into bankruptcy procedure by end of August 2008. Finally, when It comes to Zastava we have established a strategic partnership with Italian car manufacturer Fiat, and we
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have also launched a tender far prospective strategic- partners for RTB Bor, We expect that the later deal will be finalized in early 2009.
Privatization, Restructuring and Bankruptcy of SOEs
19. We realize that continued existence of a large SOE sector imposes considerable risks of disrupting fiscal discipline. As you may know, the GoS has achieved significant progress in its privatization program, and despite many changes in the political environment, the privatization of SOEs through open tender and auction process has steadily continued over the past seven y m . The Privatization Agency (PA) has accelerated the privatization process with the objective to offer for sale all remaining saleable socially-owed enterprises in the PA portfolio by the end o f 2008. We have also developed a transparent and competitive procedure for the sale of shares from the Privatization Register in order to comply with the provision o f the Law on Citizens' Rights to Gratis Shares and Cash Benefits in the Privatization Process,
20. Over the medium term we intend to make the necessary arrangements for privatization o f municipal enterprises, and in t h i s regard the MoERD i s planning to haw the strategy ready for government approval by June 2009. When it comes to further strengthening bankruptcy mechanism one important measure will include setting up specialist bankruptcy units within Tax OEce, Public Prosecutor's Ofice and other State creditors, with the right and power to represent the State's claims. Additionally, we intend to strengthen the regulatory capacity of Bankruptcy Supervision Agency (BSA) by developing an appropriate regulation to support the BSA in implementing a system o f oversight and discipline, including de-licensing and lesser sanctions, of bankruptcy administrators. Finally, we intend to continue the process o f restructuring and corporatization o f state owned companies, leading to their eventual majority or partial privatization, including Initial Public Offerings (IPO) and joint ventures. In this regard, we have conducted a tender for JAT Airways, offering majority ownership to reputable foreign investor with considerable experience in this industry, but due to the current masker conditions no bids were received. We intend to finalize the sale of a majority stake in NIS (nat iod oil company) and restructure the airline company JAT following the failed tender, . Energy Sector
2 1 , Over the last few years, we have recorded significant progress in restructuring our power and gas sectors, primarily by separating power transmission from generation and distribution, and by separating Srbijagas (gas transmission and distribution company) from M S . Serbia has therefore met EU standards for unbundling o f formerly vertically integrated utilities. Furthermore, in 2005 we established a regulatory agency, thereby making significant progress in licensing and tarifl' system development in 2006,2007 and 2008. We have undertaken significant increases in utility tariffs over the last few years to get closer to cost-recovering levels.
22. The Government i s committed to obtaining full cost-recovery tariffs for electricity and gas no later than by 2010. While undertaking gradual tariff increases, we
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will give proper attention to adequate mitigation measures to deal with social impacts of higher utility tariffs.
23. Our view is that Serbia would benefit from private sector participation in power generation, and we will take steps to put this idea into practice. The Government will approve EPS’ Business Plan for 2008-2012 which includes the stmtegy and time-bound action plan for private sector participation with majority control in the development o f new major power generation units. Furthermore, we have made the decision to open the market for petroleum products to free, international competition from no later than December 3 1,29 I O .
24. Over the medium. term we intend to adopt a strategy to restructtm and improve operational efficiency of EPS, thereby also facilitating private sector participation in the power sector. Also, in the medium t e r n we will develop a time-bound plan for introducing EU-based petroleum product quality stanch& in Serbia.
Establishment and Development: of the State Audit Institutfon
25. In order to establish an independent and competent body responsible for auditing public sector accounts, the Law on State Audit Institution was adopted in November 2005. The Council, as the highest body of State Audit Institution {SAI), was appointed in late September 2007. Within three months from establishment, the Council has prepared the operations manual, work program, and annual plan and submitted them to the Parliament, thus meeting ai l legal requirements. Finally, the Institution was atlocated a budget suflticient for conducting its activities. The budget was shown as a separate line item in the Budget of the Republic of Serbia.
26. In the medium term, we will ensure that SA1 becomes fully functional. This will include securing adequate premises and equipment, employing the core staff, defming work methodology, training the core staff, and commencing actual audits. I t i s expected that SA1 will, possibly with the assistance of another country’s supreme audit institution or commercial audit firm, complete the audit of government accounts for 2007 and submit them to the Parliament. Finally, the adequate capacity building measures for responsible bodiedinstitutions wil l ensure regular audits o f al l government accounts without any except ions
1x4. Building a More Efficient and Stable Financial Sector
Response to the Potential SpiIIovers of Globel Financial Crisis
27. Though Serbian banking sector indicators remained sound in light of the globat financial crisis, the Government and the National Bank have introduced additional precautionary measures to ensure i ts stability and mitigate the spillover risks. Building on the past prudential and supervisory measures, robust international reserves (covering four months o f imports), high aggregate liquidity-asset ratio, and one o f the highest capital adequacy ratios in the region, the NationaJ Bank has introduced further stabilization incasures, enhancing i t s supervisory capacity and focusing on closely
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monitoring liquidity, NPL levels, deposits, and foreign exchange buffers on a daily basis. Specific liquidity indicators and early warning mechanisms were put in place to preempt any potential problems. Further, the NBS h s requested systemically important banks to submit their business plans for 2009, along with information on early repayment of cross- border loans. Additionally, the NBS remains in close contacts with home country supewisors to ensure coordinated monitoring, which i s an important mmure given that 75% o f Serbian banking sector is foreign owned. The plan for targeted diagnostic measures has also been prepared, as well as the guidelines on liquidity risk management, in line with the Basel principles. In addition to closely monitoring liquidity the NBS has also introduced measures for boosting i t by abolishing mandatory reserve requirements on n m cross-brder borrowing for financial leasing companies, and cross-border lines of credit, including subordinated ones.
28. The NBS has also agreed certain temporary measures with the banks to provide short-term relief to banking sector clients, such as extension of repayment period o f the existing loans for up tu one year for credit-worthy clients, applying no costs on early repayments, and Eurther stimulating RSDEUR denominated t o m s . These measures are complementary to GoS decision to increase the deposit insurance from EUR 3,000 to EUR 50,000 per deposit, and reduce taxes on foreign currency savings, thus fixther boosting consumer confidence. GoS and NBS have formed high level monitoring teams, working in concert and in close contacts with financial industry, strengthening crisis response capacity.
29. Given the abrupt shiA in global financial environment and in order to safeguard macroeconomic and frnancial stability, we requested precautionary Stand-By Arrangement (SBA) with the IMF, although we do not intend to draw on Fund's resources unless the need arises. Further economic measures will focus on fiscal restraints over the next two years, containing inflation, strengthening crisis preparedness, and facilitating reforms to boost economy's supply side.
Privatization and Divestment of State-Owned Banks and Financial Assets
30. The GoS i s committed to continue the reforms in the banking sector. As you may know. in 2006 the Deposit Insurance Agency (DIA) successfully completed the privatization of three banks. It sold 99.4% of the share capital of Vojvdjanska Bank to the National Bank of Greece, 87.39% of the share capital of Panonska Bank to San Paolo IMI from Italy, and 89.4% of Niska Bank to UTP Bank from Hungary. in the same year DIA sold 25% of Cacanska Bank and Komercijalna bank to EBRD. In accordance with the shareholders agreement, both shareholders are planning to sell their shares in 2009 and 2010 respectively. The shareholders also committed to implementing an institutional development plan in both banks until then, Additionally, in 20137, DIA launched the sale of 6 packages of non-performing foam (NPLs) of bankrupt stateawned kmks in the total amount and sold one NPL package in January 2008.
3 I. To date RoS has st i l l ownership jn nine banks (majority stake in 4, and minority in 5) which accounts for 17.2% of assets, 20% o f deposits and 15.9% o f equity of the banking sector. The MoF and DIA have developed a privatization strategy for the
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banking and insurance sector outtining a three-pronged approach €or banks and insurance companies in which RoS has majority shares, for banks in which RoS has minority shares, and for banks in which RoS i s a majority shareholder together with EBRD. However, due to the global fkmc ia l crisis we are revisiting the Strategy in order to adjust it to reflect the current market developments. Further, we have provided initial capitalization for Deposit Insurance Scheme strengthening DIA’s capacity in light of the crisis. We are also committed to continue supporting financially the DIA whose experience is cruciat in ensuring that the Strategy i s successfully implemented. In the medium em, the Government intends to divest al l of its holdings in the banks where i t has majority ownership, as well as to implement an institutional development plan in Postanska Stdianica. Further, we intend to complete the resolution of all remaining NPLs of bankrupt state owned banks.
Strengthening Insurance Sector Regulation and Resolution regime
32. In 2007, the Serbian insurance sector has been in the process of a major transformation. During this time, the market has experienced consolidation, increased share of foreign ownersbip, and significant growth. While the volume o f insurance activities increased substantially in 2007, the number o f insurance companies active in the market declined from 40 to 21 ( I 8 insurance licenses were revoked by the NBS, 9 companies undertook voluntary liquidation, there was 1 merger, 1 company transformed to a pension hnd and 6 new Greenfield iicenses were issued). Currently, 13 out 21 insurers are foreign owned. With the complehn of the recent sale of DDOR to Fondiaria (Italy), Dunav remains the only govemment-owned company in the market* As a result, the state ownership share in insurance sector decreased in two times and now accounts for slightly over than 30 percent of insurance premium written. At the Same time, the quality o f the insurers’ balance-sheets has seen considerable improvement. Further, the quality o f insurance supervision has improved as evidenced by the introduction o f licensing requirements for insurance agents (128 institutional licenses were revoked and 154 new issued), the launch o f a comprehensive regulatory framework (20 by-laws were issued), improved market transparency and commencement o f pro-active on-site and off- site market supervision.
33, Dunav insurance company has successfully completed the first stage of its restructuring plan by centralizing the cash and claims management functions and reorganizing i t s operations along business lines. Additionatly the company also fully quantified i ts long-tail liabilities by carrying out an independent actuarial review. We intend to continue with remctur ing o f DWY in order to ensure i ts campetitive position in the Serbian insurance market. Going forward we are considering partial and/or fufl privatization, as well as a strategic partnership with a reputable international insurer that could help the company to adopt the cutting edge insurance technologies and hence maintain i ts competitiveness in the long-run.
34. We have prepared the &aft MTPL law and we intend to include the funding strategy for the unfunded liabilities of the Jnsurance Guarantee Fund in the Action Plan of the Government Strategy for banks and insurance sector, which i s now being finalized.
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Enhancing PrudentSal Supervision sf the Banking Sector
35. The NBS has, in call&oration with the World Bank, developed a Supervisory Development Plan (SDP) in 2005, which has been adequately updated over the past three years. A number o f regulatory reforms, aimed at updating the framework for bank risk management and cometlswate supervisory focus, hme been implemented or me in the process o f being approved. Regulatory reforms or directives and guidance to the banking industry have included addressing issues such as requirements on bank disclosure o f interest rates and pricing, updating of capital adequacy requirements, new guidelines on external auditing, bank licensing and supervision. In this regard, the NBS has recently completed priority actions supporting SDP objectives including the dissemination o f a supervision opmting policy, revision and update o f the procedures for corrective actions, issuance of new bank iicensing procedures and new bank chart o f accounts in line with IFRS accounting standards.
36. Further, we plan to issue and publish a number o f regulatory updates, including new capital adquacy requirements covering market risks and foreign exchange risk exposures, loan and asset classifications, new minimum bank liquidity requirements, and requirement for consolidated reporting on a financial group basis. These new regulations will ensure accurate financial disclosures and reporting. In 2009 reform priorities will include Basel II implementation madmap, reporting practices on financial stability issues, implementing stress testing to detect individual bank potential weaknesses, and mainstreaming consolidated bank group supewision. Going further into 2010, NBS priorities will fwus on developing a horne/host supervision strategy indicating banking risks and home vs. host supervisory responsibilities and respective corrective measures, implementation o f financial reporting standatds rSqUid under Basel f l standards, and rolling out standards and procedures for implementation o f Basel 11’s pillars 2 and 3 related to supervisory review process and market discipline/disclosure.
Strengthening Capital Markets Regulatory and Supervisory Regime
37. The Government has undertaken initial steps aimed at reforming regulatory regime to support further strengthening of capital markets. The Ministry o f Finance has prepared short-term, emergency amendments to the Securities Law, which have been submitted to the Parliament following a round of public discussion with key stakeholders. Beyond this, the government i s committed to enswing that progress i s being made on comprehensive and coordinated revision of key laws relevant to capital markets during the course o f 2009, including the development o f brand new Securities Law, in order to establish a firm and durable foundation for their f h r e development.
38. Also, the Government made strategic decisions on majority privatization and/or tPOs o f key sate owned companies, as well as subsequent distribution G f free shares to citizens and employees. Before any decisions can be taken on the options available for the future o f these enterprises, their existing structure, in which the state owns the assets of the company wil l be thoroughly revised with the objective of converting them into open joint stock companies in conformity with Serbia’s existing legislation. The Ministry o f Finance has engaged a focal consultant in early 2008, whose task i s to define the steps
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necessary for full corporatisation of the state owned companies+ The Government also plans to engage financial advisers to prepare them for privatization and IPO. Finally, any funher steps wil l take into consideration the ongoing market developments resulting from the f i m c i a l crisis.
39. Both the National Bank of Serbia and the Ministry o f Finance are conscious o f the need to develop debt markets in Serbia. At present the only form o f government financing i s through short term (3 month) treasury bills. fn order to provide greater stability in government financing bills and bonds with a longer tenor are needed. The resultant development o f a benchmark yield curve will make possible the issuance o f municipal, corporate, and infr.astructure bonds. The Ministry o f Finance has set up a working group to recommend necessary steps towards this goal, whose report i s due shortly.
40. Further, we will proceed with implementation of a plan to devefop debt markets, and eventually aim at issuing local currency instruments with tenor 6 months to 2 years, as well as assisting municipalities in issuing debt securities.
41. The GoS i s undertaking major actions to address pending structural problems and improve the business climate. We remain resolute to deepen the reforms in the fitture, and to complement &em with measures aimed at strengthening fiscal discipline and building a more effkienl and stable financial sector together with policy actions directed at enhancing the competitiveness of the Serbian economy.
42. The Government undertakes to continue working on these policy issues, for which the support by the World Bank and the rest of the international cornunity will be of vital importance in attaining our objectives o f placing the country on a path of sustainable and equitable growth, as well as, integration into European structures. In conclusion, we would like to reiterate the commitment o f the GoS to all these reforms, and we trust that this request for World Bank support for their implementation wil l receive your favorable consideration.
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ANNEX 3: IMF PRESS RELEASE
IMF Approves €402.5 million Stand-By Arrangement for Serbia Press Release No. 09/12 January 16, 2009 The Executive Board of the International Monetary Fund (IMF) today approved a 15-month SDR 350.8 million Stand-By Arrangement (about €402.5 million or US9530.3) to support the authorities' program aimed a t maintaining macroeconomic and financial stability. The approval makes SDR 233.9 million (about €268.4 million or US$353.3) immediately available. However, the Serbian authorities intend to treat the arrangement as precautionary, and not to draw on Fund resources unless the need arises. The authorities' program aims a t safeguarding macroeconomic and financial stability, in view of the global financial turmoil. It focuses on measures aimed at maintaining market confidence, complementing the large buffers in the financial system. Policies include upfront fiscal restraint, with the 2009 deficit limited to 13/4 percent of GDP; containing inflation, while maintaining a managed float to facilitate external adjustment; strengthening crisis preparedness; and reforms to boost the economy's supply side. Following the Executive Board discussion, Mr. Murilo Portugal, Deputy Managing Director and Acting Chair, issued the following statement: "Serbia's recent stretch of robust growth and moderate underlying inflation-underpinned by large capital inflows-has been accompanied by the build-up of sizable external imbalances and vulnerabilities. With the global financial turmoil spilling over to Serbia, a rebalancing of the economy through a sharp slowing of credit and domestic demand seems necessary. "The authorities' program-supported by the SBA-is an appropriate response to the current challenges, and seeks to safeguard macroeconomic and financial stability through a comprehensive policy package. Determined implementation of this program should poise the Serbian economy to resume more balanced and sustained real income growth. "Strong fiscal measures are being taken to achieve the tighter 2009 deficit target. Because of the procyclical fiscal policy stance since 2006, limited budgetary financing options, and the need to ensure the credibility of the program, there is no scope now for countercyclical fiscal loosening. The slowdown in public wage and pension growth, as well as other savings measures, preserve fiscal space for much-needed infrastructure investment. "Monetary policy will continue to focus on inflation within a strengthened framework, supported by a managed float with foreign exchange interventions limited to ensuring orderly market conditions. Given the uncertain economic environment, the monetary stance will need to be adjusted flexibly. "Past prudential policies are now paying off in providing a strong first line of defense against spillovers from the financial turmoil. These policies have succeeded in building large liquidity and capital buffers in the banking system, although they may also have encouraged risky cross-border borrowing. The authorities need to strengthen the financial stability framework, mainly by improving the monitoring of risks and setting up comprehensive contingency plans. "Structural policies need to address the economy's weak supply side, with a view to delivering balanced and sustainable catch-up growth toward EU income levels. The program calls for privatizing, restructuring, or liquidating a wide range of state- and socially owned- enterprises, as well as lowering the cost of doing business, to help expand the undersized private sector. "The authorities have started to implement their program steadfastly. This gives confidence that the Serbian economy, with the support of the international community, will succeed in overcoming the present difficulties," Mr. Portugal said.
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Annex Recent Economic Developments The global financial turmoil began to spill over to Serbia in the fourth quarter of 2008, as for the region as a whole. The stock market plummeted; sovereign spreads soared; households withdrew some of their deposits; and, amid high volatility and frequent NBS interventions to maintain foreign exchange market liquidity, the dinar depreciated. Growth, which so far was strong, seemed to be losing momentum. At the same time, the reversal of the region-wide food and energy price shocks eased headline inflation pressures. These outcomes were accompanied by the build-up of an increasingly unbalanced external position. The current account deficit could reach 18 percent of GDP in 2008, although it has so far been easily financed by capital inflows, resulting in rising international reserves. Consequently, external stability risks have increased substantially in the current international environment. These reflect Serbia's unsustainably large external deficit; the private sector's high external indebtedness; high euroization; and indications of weak export competitiveness. Financial stability risks have also increased, but the banking sector's liquidity and capital buffers are comforting. Program Summary The authorities' program, supported by the SBA, responds to the abrupt deterioration in the short-term outlook: trading partner growth and prices of key Serbian exports, particularly metals, are projected to slow sharply in 2009; and formerly plentiful capital inflows can no longer be taken for granted, further constraining domestic and cross-border credit growth. The program's objective is to safeguard macroeconomic and financial stability through strengthened policies, designed to underpin an orderly rebalancing of the economy. The policy package focuses on four main features:
0 Tightening of the fiscal stance in 2009-10, with the 2009 general government deficit limited to 1% percent of GDP, followed by further fiscal consolidation in 2010. This involves strict incomes policies for containing public sector wage and pension growth and a streamlining of non-priority recurrent spending, which helps create fiscal space to expand infrastructure investment.
Strengthening the inflation targeting framework while maintaining a managed floating exchange rate regime.
Making good use of the accumulated financial sector buffers, while enhancing financial crisis preparedness.
Implementing structural policies to address the roots of the economy's low capacity to produce, save, and export. The main elements of the fiscal package include
The program's macroeconomic framework assumes a decline of foreign inflows and domestic credit, which should lead to a slowdown in domestic demand, output growth, and inflation, and a narrowing of external imbalances. Real GDP growth is projected to decelerate to 3% percent in 2009 but should rebound in 2010. With the inflation-reducing effects of commodity price declines and slowing activity being counteracted by pressures on the exchange rate, inflation is projected to slow only gradually to 8 percent by end-2009. Serbia joined the IMF on December 14, 1992; its quota is SDR 467.7 million (about €541 million or US$707 million) and it has no outstanding use of IMF credit. I ts latest arrangement with the IMF was an Extended Fund Facility, completed on February 28, 2006,
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Serbia: Selected Economic and Social Indicators, 2006-10 ''
Output, prices, and labor market Real GDP
Real GDP excluding agricultural sector Real domestic demand (absorption)
Consumer prices (end of period) 2/
Core retail prices (end of period) 2/
General government finances Revenue
Expenditure
Fiscal balance
Gross debt
Monetary sector Money (M l )
Broad money (M2)
Domestic credit to non-government
2006 2007 2008 2009 2010
Est. Proj. Proj.
(Change in percent, unless otherwise indicated)
5.6 7.1 6.0 3.5 4.5
6.3 8.9 5.9 3.9 5.0
6.5 11.8 6.3 2.6 2.2
6.6 10.1 9.5 8.0 6.5 5.9 5.4 10.5 ... E . .
(In percent of GDP)
43.6 43.0 42.8 42.0 41.2
45.2 44.9 45.2 43.8 42.2
-1.6 -1.9 -2.3 -1.8 -1.0
42.5 34.2 33.8 30.9 28.3
(End of period 12-month change, in percent)
37.1 25.3 -8.2 18.2 8.7
38.4 44.5 7.9 5.2 13.5
17.1 36.9 29.6 6.1 12.3
(In percent of GDP, unless otherwise indicated)
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Balance of payments Current account balance -10.0 -15.9 -17.9 -16.0 -15.4
Exports of goods 21.7 22.0 22.3 20.5 21.7
Imports of goods 42.8 44.9 46.1 42.3 41.6
Trade of goods balance -21.1 -22.9 -23.8 -21.8 -19.8
External debt (end of period) 63.0 61.1 66.6 71.6 75.8
of which: Private external debt 35.8 40.0 46.0 50.8 56.0
Gross official reserves (in billions of 9.0 9.6 9.0 8.1 8.7 euro) (In months of prospective imports of 6.7 6.3 6.2 5.1 5.3 GNFS)
average)
average change, in percent; + indicates appreciation) Socia I indicators Per capita GDP (2008): US$6,685. Poverty rate (poverty line is US$5 per day, 2007): 6.6 percent. Unemployment rate (2008): 14 percent .
Exchange rate (dinar/euro, period 84.2 80.0 81.5 ... . a .
Real effective exchange rate (annual 6.6 7.2 5.0 ... I . .
Sources: Serbian authorities; and IMF staff estimates and projections.
*’ Retail prices until 2008. Monitoring of core retail price indices to be discontinued in 2009.
Excluding Kosovo (with the exception of external debt).
This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other informationshown on this map do not imply, on the part of The World BankGroup, any judgment on the legal status of any territory, or anyendorsement or acceptance of such boundaries.
