Competitiveness of the Serbian Economy 2003

Competitiveness of the SerbianEconomy

2003

Narodna bankaSrbije

© 2003: Jefferson Institute, Stevana Sremca 4, 11 000 Belgrade, Serbia

tel.: +381 11 303 3456, fax: +381 11 334 5350, www.jeffersoninst.org

Competitiveness of the Serbian Economy

© Jefferson Institute 2003

Published by:

Jefferson Institute

Stevana Sremca 4

11 000 Belgrade

Serbia

Design & typeset by:

Branko Otkoviç

Translation to English by:

Tijana Prgomelja

ISBN: 86-905029-0-4

Editorial BoardGeorge RussellMichael GoldAida Hoziç

Aleksey MakuskinKre‰imir Zigiç

Project DirectorAaron Presnall

Macroeconomic TeamStojan Stamenkoviç

Davor SavinMiladin KovaãeviçVladimir Vuãkoviç

Gordana Vukotiç-CotiãMarijana Maksimoviç

Ivan Nikoliç

Microeconomic TeamGoran Petkoviç

Jelena KozomaraPredrag Bjeliç

Kosovka OgnjenoviçAleksandra Brankoviç

Iva JovanoviçDejan Gajiç



IV


Table of Contents V


Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1

Introduction - Serbian economy in crisis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .15

1. Competitiveness and Development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .25 1.1. Competitiveness and strategic preferences – two concepts of competitiveness . . . . . . . . . . . . . . . . . . . . . .251.2. Factors of competitiveness – price and non-price . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .27

1.2.1. International competitiveness rankings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .271.2.2. Investments and competitiveness of the economy of Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .29

1.3. The policy of enhancing competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .321.3.1. Choice of currency regime . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .321.3.2. Role of currency regime . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .361.3.3. Real currency exchange rate and competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .39

2. Macroeconomic Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .432.1. Balance of payments and dynamics of foreign trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .43

2.1.1. Serbia’s balance of payments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .432.1.1.1. Methodology of the International Monetary Fund (IMF) . . . . . . . . . . . . . . . . . . . . . . . . . . . . .432.1.1.2. Methodological guidelines, sources and reliability of the data . . . . . . . . . . . . . . . . . . . . . . . . .462.1.1.3. Serbia’s balance of payments for the year 2002 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .48

2.1.2. Analysis of foreign trade dynamics . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .512.1.2.1. Interdependence between foreign trade and economic activity . . . . . . . . . . . . . . . . . . . . . . . .512.1.2.2. Interdependence between foreign trade and foreign exchange rate . . . . . . . . . . . . . . . . . . . . .522.1.2.3. Interdependence between foreign trade and labor unit costs . . . . . . . . . . . . . . . . . . . . . . . . . .532.1.2.4. Interdependence between foreign trade and fiscal burden . . . . . . . . . . . . . . . . . . . . . . . . . . .54

2.1.3. Analysis of non-price factors of competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .552.1.3.1. Non-price competitiveness factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .552.1.3.2. Market dimension of certification logos . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .662.1.3.3. World Trade Organization: Agreement on Preshipment Inspection and Agreement on Technical

Barriers to Trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .702.1.3.4. Quality – a strategic element of competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .72

2.2. Sector-based indicators of competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .762.2.1. Dynamics and structure of Serbia & Montenegro’s foreign trade 1989-2002 . . . . . . . . . . . . . . . . . . . .792.2.2. Dynamics and structure of Serbia & Montenegro’s foreign trade by sector . . . . . . . . . . . . . . . . . . . .802.2.3. Dynamics and structure of Serbia & Montenegro’s foreign trade by product group . . . . . . . . . . . . . .822.2.4 Export and import concentration levels . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .842.2.5. Dynamics and structure of Serbia & Montenegro’s foreign trade by product . . . . . . . . . . . . . . . . . . .852.2.6. Import-Export coverage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .862.2.7. Revealed comparative advantages in Serbia & Montenegro trade . . . . . . . . . . . . . . . . . . . . . . . . . . .90

2.3. Regional orientation of foreign trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .942.3.1. Specifics of foreign trade by regions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .942.3.2. Revealed comparative advantages by regions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .962.3.3. Analysis of influence of bilateral and multilateral free trade agreements . . . . . . . . . . . . . . . . . . . . .102

2.4. Qualitative characteristics of foreign trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1062.4.1. Measuring competitiveness by quality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1062.4.2. Analysis of factor-based and technological intensity of foreign trade . . . . . . . . . . . . . . . . . . . . . . . .114

3. Microeconomic Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1213.1. Methodological framework of the microeconomic team research . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .121

3.1.1. The research objective . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1213.1.2. The research methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1213.1.3. The research procedure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .122

3.1.3.1. Preresearch . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1223.1.3.2. Field survey of enterprises based on the final questionnaire . . . . . . . . . . . . . . . . . . . . . . . . .1233.1.3.3. Analysis of results and competitiveness factors and providing inputs

for macroeconomic analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1283.1.3.4. Production of final microeconomic report as an integral part of the final report . . . . . . . . . . .1323.1.3.5. Appendix 1: Indicators existing in the official statistics, necessary for calculating indices . . . . .133

Table of Contents(Highlighted items are available in English)

Unknown

Unknown

3.1.3.6. Appendix 2: Enterprises surveyed in the preresearch phase . . . . . . . . . . . . . . . . . . . . . . . . . .1343.1.3.7. Appendix 3: Enterprises surveyed during the field survey phase . . . . . . . . . . . . . . . . . . . . . .135

3.1.4. The first report on the qualitative observations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1393.2. Cabinet research and qualitative analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .150

3.2.1. Motives for internationalization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1503.2.1.1. Financial factors of export and financial factors of entering foreign markets . . . . . . . . . . . . . .1513.2.1.2. Marketing factors of export and marketing factors of entering foreign markets . . . . . . . . . . . .1573.2.1.3. Push and pull motives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .159

3.2.2. Relationship between domestic and foreign products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1643.2.2.1. Status of domestic and foreign trade marks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1643.2.2.2. Consumer attitudes toward foreign products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1653.2.2.3. Foreign consumers’ attitudes toward domestic products . . . . . . . . . . . . . . . . . . . . . . . . . . . .1683.2.2.4. Relationship between prices of domestic and foreign products . . . . . . . . . . . . . . . . . . . . . . .1703.2.2.5. Relationship between non-price competitiveness factors of domestic and foreign products . . . .172

3.2.3. Strategy for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1743.2.3.1. Method and preparation period for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . .1783.2.3.2. Barriers to accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1793.2.3.3. Financial requirements for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1813.2.3.4. Effects of accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .182

3.2.3.4.1. Product prices on domestic and foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1833.2.3.4.2. Marginal costs coverage and its influence on profit . . . . . . . . . . . . . . . . . . . . . . . . . . .1873.2.3.4.3. Influence on production factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1883.2.3.4.4. Strategic partnership . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .189

3.2.4. Foreign producers’ strategy for accessing domestic market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1913.3. Field survey . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .193

3.3.1. Motives for business internationalization – results of the survey . . . . . . . . . . . . . . . . . . . . . . . . . . .1933.3.1.1. Financial factors of export and accessing foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . . .1933.3.1.2. Marketing factors of export and accessing foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . .1953.3.1.3. Push motives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .1973.3.1.4. Pull motives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .200

3.3.2. Relationship between domestic and foreign products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2013.3.2.1. Status of foreign and domestic trade marks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2013.3.2.2. Consumer attitudes toward foreign products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2023.3.2.3. Foreign consumer attitudes toward domestic products . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2033.3.2.4. Relationship between prices of domestic and foreign products . . . . . . . . . . . . . . . . . . . . . . .208 3.3.2.5. Relationship between non-price factors of competitiveness of domestic and foreign products . .212

3.3.3. Strategy for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2153.3.3.1. Method and preparation period for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . .2153.3.3.2 Barriers to accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2163.3.3.3. Financial requirements for accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2173.3.3.4. Effect of accessing foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .217

3.3.3.4.1. Product prices on domestic and foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2193.3.3.4.2. Marginal costs coverage and its influence on profit . . . . . . . . . . . . . . . . . . . . . . . . . . .2233.3.3.4.3. Influence on production factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .229

3.3.4. Foreign producers’ strategy for accessing domestic market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2313.4. Competitiveness Indices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .239

3.4.1. Growth Competitiveness Index (GCI) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2393.4.1.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2393.4.1.2. Methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .240

3.4.1.2.1. Innovation sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2413.4.1.2.2. Technology transfer sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2423.4.1.2.3. Information-communication technology (ICT) sub-index . . . . . . . . . . . . . . . . . . . . . . . .2423.4.1.2.4. Contract and law sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2433.4.1.2.5. Corruption sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2433.4.1.2.6. Macroeconomic stability sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .243

3.4.1.3. Credit rating and public expenditures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2433.4.1.4. Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2463.4.1.5. General observations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .246


Table of ContentsVI


Table of Contents

3.4.2. Technology Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2463.4.2.1. Innovation sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2483.4.2.2. Technology transfer sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2483.4.2.3. ICT sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .248

3.4.3. Public institutions index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2483.4.4. Macroeconomic environment index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .250

3.4.4.1. Public expenditures sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2503.4.4.2. Country’s credit rating sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2503.4.4.3. Macroeconomic stability sub-index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2523.4.4.4. Recommendations for managing economy’s competitive structure for growth . . . . . . . . . . . . .252

3.4.5. Microeconomic Competitiveness Index (MCI) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2563.4.5.1. Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2563.4.5.2. Defining influential factors of competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2573.4.5.3. Phases of competitiveness development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2593.4.5.4. Elements of microeconomic competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2603.4.5.5. Measuring microeconomic competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2653.4.5.6. Statistical analysis calculating the Microeconomic Competitiveness Index . . . . . . . . . . . . . . . .2723.4.5.7. Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .274

4. Policy for Enhancing the Competitive Position of Enterprises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2774.1. Strategies of institutional and legal support to competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2774.2. Infrastructure development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .283

4.2.1. Legal infrastructure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2834.2.2. Physical infrastructure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2834.2.3. Intellectual infrastructure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .284

4.3. Microeconomic environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2854.3.1. Ease of access to foreign markets and establishing new companies . . . . . . . . . . . . . . . . . . . . . . . .2854.3.2. Innovations and standardization stimulation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2894.3.3. Stimulating organized access to market (agglomeration and clustering) . . . . . . . . . . . . . . . . . . . . . .294

4.3.3.1. Concept of a cluster . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2944.3.3.2. Expected benefits from clusters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2974.3.3.3. Types of clusters and cluster development strategies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2994.3.3.4. State role in initiating clusters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3014.3.3.5. Clusters in different countries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3024.3.3.6. Clusters and innovation management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3044.3.3.7. Clusters in the economy of Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .306

5. Modeling Effects of Policy Options for Enhancing Competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .317 5.1. Introduction: Sustainability of the balance of payments status and development . . . . . . . . . . . . . . . . . . . .3175.2. Approach to planning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3185.3. Basic scenario I for Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3205.4. Basic scenario II for Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3275.5. Other prerequisites for foreign debt sustainability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3295.6. An optimistic scenario for Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3335.7. General conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .334

6. Conclusion - Strategy for a Competitive Serbian Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3396.1. General conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3396.2. Harmonization of economic policy on macro and micro levels . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .341

6.2.1. Monetary policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3436.2.2. Fiscal policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .344

6.3. Special policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3446.3.1. Privatization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3446.3.2. Foreign direct investment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3466.3.3. Development of small and medium enterprises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .347

VII

Unknown


Table of ContentsVIII


Charts Overview IX

Charts Overview

Chart 0-1 Efficiency of investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16Chart 0-2 Investments according to depreciation in FRY (%), 1990-1998 . . . . . . . . . . . . . . . . . . . . . .20Chart 1-1 Rating of countries based on competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .29Chart 1-2 GDP – years necessary for reaching the average of the EU member countries . . . . . . . . . . .40Chart 2-1 Evaluation of the Republic of Serbia balance of payments for the year 2002 . . . . . . . . . . . .50Chart 2-2 Principles of quality management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .67Chart 2-3 Value of export from the territory of Serbia and FRY (millions of USD) and relative

importance for Serbia (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .78Chart 2-4 Serbia and Montenegro’s export by sectors (millions of USD and the % of export) . . . . . . .80Chart 2-5 Serbia and Montenegro’s import by sectors (millions of USD and the % of import) . . . . . . .81Chart 2-6 Ten SMTK product groups with the largest share of export (%) . . . . . . . . . . . . . . . . . . . . .83Chart 2-7 Ten SMTK product groups with the largest share of import (%) . . . . . . . . . . . . . . . . . . . . .83Chart 2-8 Export and import specialization indexes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .85Chart 2-9 Twenty SMTK products with the largest share of export (%) . . . . . . . . . . . . . . . . . . . . . . .87Chart 2-10 Twenty SMTK products with the largest share of import (%) . . . . . . . . . . . . . . . . . . . . . . .88Chart 2-11 Sector-based distribution of 20 leading export products . . . . . . . . . . . . . . . . . . . . . . . . . .89Chart 2-12 Sector-based distribution of 20 leading import products . . . . . . . . . . . . . . . . . . . . . . . . . .89Chart 2-13 Sector-based arrangement of 25 product groups with the highest RCA . . . . . . . . . . . . . . . .92Chart 2-14 25 product groups with the highest RCA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .93Chart 2-15 Characteristics of the trade of Serbia and Montenegro, EU and the Western Balkans

(millions of USD and %) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .97Chart 2-16 RCA in the total trade and the number of sectors with positive RCA . . . . . . . . . . . . . . . . .99Chart 2-17 10 most important export markets of Serbia & Montenegro . . . . . . . . . . . . . . . . . . . . . . .100Chart 2-18 10 most important import markets of Serbia & Montenegro . . . . . . . . . . . . . . . . . . . . . . .101Chart 2-19 Product groups segmentation (based on the three-digit SMTK) . . . . . . . . . . . . . . . . . . . .108Chart 2-20 Number of product groups by segment from SMTK sectors (0-9) . . . . . . . . . . . . . . . . . . .110Chart 2-21 Product groups in the first segment – successful competition based on quality . . . . . . . . .113Chart 2-22 Export specialization based on factor availability and technological intensity

(% of export of the processing industry) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .115Chart 2-23 Import-export coverage based on factor availability and technological intensity (%) . . . . . .116Chart 2-24 Industry classification based on factor availability and technological intensity

(Legler/Schulmeister methodology) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .118Chart 3-1 Structure of enterprises based on preponderant activity, 2001 . . . . . . . . . . . . . . . . . . . . .124Chart 3-2 The list of targeted industry activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .125Chart 3-3 Hard data overview, necessary for designing the GCI . . . . . . . . . . . . . . . . . . . . . . . . . . .133Chart 3-4 Losers and winners on a growing/declining market . . . . . . . . . . . . . . . . . . . . . . . . . . . .134 Chart 3-5 Matrix – global position of an industry and position in the economy of Serbia . . . . . . . . .152Chart 3-6 Winners on a growing market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .153Chart 3-7 Losers on a growing market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .153Chart 3-8 Winners on a declining market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .153Chart 3-9 Losers on a declining market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .154Chart 3-10 Push and pull motives . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .160Chart 3-11 Ethnocentrism and domestic purchases by regions and in the entire sample . . . . . . . . . . .168Chart 3-12 Behavior of consumers in cross-border trading . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .170Chart 3-13 Matrix of access to foreign markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .174Chart 3-14 Advantages and disadvantages of individual access to foreign markets . . . . . . . . . . . . . . .175Chart 3-15 Advantages and disadvantages of establishing a new company . . . . . . . . . . . . . . . . . . . .176Chart 3-16 Advantages and disadvantages of purchasing and acquisition of companies . . . . . . . . . . .176Chart 3-17 Advantages and disadvantages of joint ventures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .177Chart 3-18 Matrix – strategy of a small and medium enterprise . . . . . . . . . . . . . . . . . . . . . . . . . . . .178Chart 3-19 Classification of the WTO Agreements based on the key instruments of the realization . . .184Chart 3-20 Financial motives for exporting to a foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . . .193


Charts OverviewX

Chart 3-21 Financial motives of import . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .195Chart 3-22 Marketing motives for exporting to a foreign market . . . . . . . . . . . . . . . . . . . . . . . . . . . .196Chart 3-23 Marketing motives for importing merchandize from foreign markets . . . . . . . . . . . . . . . .197Chart 3-24 Limitations of the domestic market as the motive for export . . . . . . . . . . . . . . . . . . . . . .198Chart 3-25 Limitations of the domestic market as the motive for import . . . . . . . . . . . . . . . . . . . . . .199Chart 3-26 Attractiveness of foreign markets as the motive for export . . . . . . . . . . . . . . . . . . . . . . . .200Chart 3-27 Attractiveness of foreign markets as the motive for import . . . . . . . . . . . . . . . . . . . . . . . .200Chart 3-28 Evaluation of the image of one’s own product in relation to competitors on the

domestic market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .201Chart 3-29 Evaluation of the image of domestic products (brands) . . . . . . . . . . . . . . . . . . . . . . . . . .204Chart 3-30 Evaluation of the world demand for products of Serbian enterprises . . . . . . . . . . . . . . . .209Chart 3-31 Tax burden on enterprises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .211Chart 3-32 Percentage of management working hours spent with state bodies . . . . . . . . . . . . . . . . . .211Chart 3-33 Rankings of the GCI in 2001 and the comparison with 2000 . . . . . . . . . . . . . . . . . . . . . .244 Chart 3-34 Technology index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .247Chart 3-35 Public institutions index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .249Chart 3-36 Macroeconomic environment index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .251Chart 3-37 Factors which limit classical import of technology to Serbia . . . . . . . . . . . . . . . . . . . . . . .253Chart 3-38 Factors that limit import of technology in Serbia through complex forms of trade . . . . . . .253Chart 3-39 Results of evaluations of linear regressions, dependant variable

GDP PPP / per capita, 2000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .262Chart 3-40 Ranking of countries based on the MCI . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .266Chart 4-1 Framework of institutional and legal infrastructure in the function of export expansion

of a national economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .279Chart 4-2 Costs and time needed for registering a company . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .287Chart 4-3 Way of registering a company – costs and time . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .288Chart 4-4 Policy measures for stimulating innovation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .291Chart 4-5 Clusters – benefits and problems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .298Chart 4-6 Expenditures of ten companies for research and development in 1996 (billions of USD) . .310Chart 4-7 Indicators of Serbia’s foreign trade in the period 1990-2002 (millions of USD) . . . . . . . . . .312Chart 5-1 Projection of retail price indices in Serbia and Montenegro 2003-2010 (I) . . . . . . . . . . . . .321Chart 5-2 Projection of fluctuation of the foreign exchange rate 2003 – 2010 (I) . . . . . . . . . . . . . . . .321Chart 5-3 Projection of GDP and its structure, 2002 – 2010 (I) . . . . . . . . . . . . . . . . . . . . . . . . . . . .322Chart 5-4 Projection of Serbia and Montenegro’s balance of payments 2002 – 2010 . . . . . . . . . . . . .324Chart 5-5 Investments according to GDP, in selected countries 1993 – 2001 (%) (I) . . . . . . . . . . . . .325Chart 5-6 Current balance in selected countries, according to GDP 1994 – 2002 (%) . . . . . . . . . . . . .325Chart 5-7 Foreign direct investments in selected countries according to the

current balance 1994 – 2002 (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .326Chart 5-8 Foreign direct investments according to GDP (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .326Chart 5-9 Relations between foreign investments, current balance deficit and the GDP

in Serbia and Montenegro (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .326Chart 5-10 Projection of retail price indices in Serbia and Montenegro 2003 – 2010 (II) . . . . . . . . . . .327Chart 5-11 Projection of foreign exchange rate movement 2003 – 2010, (II) . . . . . . . . . . . . . . . . . . .327Chart 5-12 GDP projection and projection of its structure 2002 – 2010 (II) . . . . . . . . . . . . . . . . . . . .328Chart 5-13 Projection of Serbia’s balance of payments 2002 – 2010 (I) . . . . . . . . . . . . . . . . . . . . . . .330Chart 5-14 Projection of the retail price indices in Serbia and Montenegro 2003 – 2010 (III) . . . . . . . .333Chart 5-15 Projection of foreign exchange rate movement 2003 – 2010 (III) . . . . . . . . . . . . . . . . . . .333Chart 5-16 Projection of GDP and its structure 2002 – 2010 (III) . . . . . . . . . . . . . . . . . . . . . . . . . . .334Chart 5-17 Projection of Serbia’s balance of payments 2002 – 2010 (II) . . . . . . . . . . . . . . . . . . . . . . .335Chart 5-18 Projection of retail price indices in Serbia and Montenegro 2003 – 2010 (IV) . . . . . . . . . . .337


Graphs Overview XI

Graphs Overview

Graph 0-1 Industrial production index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .18Graph 1-1 Effects of new investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .41Graph 2-1 Long-term correlation between export and industrial production . . . . . . . . . . . . . . . . . . . .51Graph 2-2 Short-term correlation between export and industrial production

with the error correction mechanism . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .52Graph 2-3 Real export in dinars and real exchange rate of dinar vs. USD . . . . . . . . . . . . . . . . . . . . .52Graph 2-4 Real export in dinars and real exchange rate of dinar vs. EUR . . . . . . . . . . . . . . . . . . . . . .53Graph 2-5 Real export in dinars and real exchange rate of dinar vs. basket of currencies . . . . . . . . . .54Graph 2-6 Export and labor unit costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .54Graph 2-7 Export and fiscal burden . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55Graph 2-8 CE sign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .61Graph 2-9 TQM – extensive comprehension of quality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .64Graph 2-10 “TUV” sign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .66Graph 2-11 Value of export of FRY, Serbia and the difference (millions of USD) . . . . . . . . . . . . . . . . .78Graph 2-12 Visible trade of Serbia & Montenegro with the world (billions of USD) . . . . . . . . . . . . . . .79Graph 2-13 Share of sectors 0-9 in total exports of Serbia and Montenegro (%) . . . . . . . . . . . . . . . . . .81Graph 2-14 Share of sectors 0-9 in total imports of Serbia and Montenegro (%) . . . . . . . . . . . . . . . . . .82Graph 2-15 Collective share of ten groups of products in total export and import (%) . . . . . . . . . . . . .84Graph 2-16 Export and import specialization indices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .85Graph 2-17 Foreign trade dynamics (billions of USD) and import-export coverage (%) . . . . . . . . . . . . .89Graph 2-18 Import-export coverage by SMTK sectors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .90Graph 2-19 RCA for the top 25 groups and total RCA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .91Graph 2-20 Export and the total for the 25 groups having highest RCA . . . . . . . . . . . . . . . . . . . . . . . .91Graph 2-21 Share of regions in foreign trade of Serbia & Montenegro (%) . . . . . . . . . . . . . . . . . . . . . .94Graph 2-22 Regional degrees of import-export coverage (%) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .95Graph 2-23 Sector-based structure of Serbia & Montenegro’s export to the EU (%) . . . . . . . . . . . . . . . .97Graph 2-24 Sector-based structure of Serbia & Montenegro’s export to the Western Balkans (%) . . . . . .98Graph 2-25 Structure of export to the EU and Western Balkans in 2002 (%) . . . . . . . . . . . . . . . . . . . . .99Graph 2-26 RCA in the trade with the EU . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .100Graph 2-27 RCA in trade with the Western Balkans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .101Graph 2-28 Sector-based RCA in trade with the EU for 2000, 2001 and 2002 . . . . . . . . . . . . . . . . . . .103Graph 2-29 Sector-based RCA in trade with the Western Balkans for 2000, 2001 and 2002 . . . . . . . . . .104Graph 2-30 Export and import unit values . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .107Graph 2-31 Number of groups by segments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .109Graph 2-32 Foreign trade balance by segments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .109Graph 2-33 Number of groups in the first segment by (0-9) SMTK sectors . . . . . . . . . . . . . . . . . . . . .111Graph 2-34 Number of groups in the second segment by (0-9) SMTK sectors . . . . . . . . . . . . . . . . . . .111Graph 2-35 Number of groups in the third segment by (0-9) SMTK sectors . . . . . . . . . . . . . . . . . . . .112Graph 2-36 Number of groups in the fourth segment by (0-9) SMTK sectors . . . . . . . . . . . . . . . . . . .112Graph 2-37 Import-export coverage – product groups . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .117Graph 3-1 Consumer evaluation of price and non-price factors of competitiveness of Serbian and

Slovenian products . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .171Graph 3-2 Similarity analysis of “made in” trademarks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .173Graph 3-3 Relation between manufacturers and retail – old and new paradigm . . . . . . . . . . . . . . . .189Graph 3-4 Character of competition enterprises face on the domestic market . . . . . . . . . . . . . . . . . .202Graph 3-5 Evaluation of marketing developments in Serbian enterprises . . . . . . . . . . . . . . . . . . . . .203Graph 3-6 Evaluation of marketing elements of Serbian enterprises abroad . . . . . . . . . . . . . . . . . . . .205Graph 3-7 Quality of management in enterprises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .206Graph 3-8 Technological factor of non-price competitiveness . . . . . . . . . . . . . . . . . . . . . . . . . . . . .213Graph 3-9 Foreign exchange rate . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .216


Graphs OverviewXII

Graph 3-10 Barriers to trade . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .218Graph 3-11 Price-based market and quality-based market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .219Graph 3-12 How often companies from your industry have to pay a bribe . . . . . . . . . . . . . . . . . . . . .221Graph 3-13 Activities of the state bodies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .222Graph 3-14 Prevailing level of competition and access to the Serbian market . . . . . . . . . . . . . . . . . . .225Graph 3-15 Prevailing level of competition and access to the Serbian market II . . . . . . . . . . . . . . . . .226Graph 3-16 Ecology in Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .230Graph 3-17 Market in Serbia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .232Graph 3-18 Banks and other financial institutions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .233Graph 3-19 Financial system development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .234Graph 3-20 Quality of infrastructure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .235Graph 3-21 Information-communication technologies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .237Graph 3-22 Microeconomic business environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .258Graph 3-23 Phases of economic development . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .260Graph 3-24 Evaluated dependence between GDP PPP per capita for 2000

and the Microeconomic competitiveness index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .270Graph 3-25 Evaluation of dependence between company business strategy

and quality of national business environment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .271Graph 4-1 National system for stimulating innovations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .292Graph 4-2 Porter’s diamond . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .297Graph 4-3 Cluster influence on competitive advantage . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .305


Executive Summary 1

Our research on the competitive-ness of the Serbian economy indicatesthat Serbia is on the 69th place of 76countries analyzed. Several recent stud-ies suggest that Serbia’s export is farless than its potential. This gap betweenreal and potential trade, especially tothe developed markets of the EuropeanUnion and the United States, is atremendous opportunity. The tenacityof that gap is among Serbia’s greatestrisks. Moreover, the moment of oppor-tunity for Serbia to exploit its low costlabor position will quickly fade, erasingexisting comparative advantages in agri-culture, textiles and depletable naturalresources. Serbia must strive now formore competitive firms products andsectors and to give the space for thepropagation of product specialization ifthe country is to generate the exportsover time necessary to sustain growthand development.1 A key to the successin this effort to secure market potentialfor export is through the stimulation oftrade with neighboring countries – todampen the temptation for nations ofsoutheast Europe to compete with eachother for trade rather than to developproduct differentiation and niche spe-cialization.

This aim of this project is to ana-lyze the competitive position of theSerbian economy and to propose vari-ous paths for the positive developmentof that position. This study also exam-ines the main channels through whichcompetition affects aggregate economic

performance in Serbia, e.g. the balanceof payments and the regular servicingof foreign debt.

The competitive position of acountry cannot be understood onlyfrom the macroeconomic perspective.Firms and sectors are competitive, notcountries. As such, this study places astrong emphasis on microeconomicanalysis as well as more traditionalmacroeconomic analysis. Alternativescenarios of economic politics – thedynamics and pace of institutionalreforms and the restructuring of privati-zation of companies - are modeled andprojected forward for five years todemonstrate the cost and benefit of var-ious policy options for Serbia’s compet-itive position.

In short, the project is divided intofour main sections: Macroeconomicanalysis, Microeconomic case studies,Econometric Projections of reform sce-narios, and Policy Recommendations.The final product serves as a contribu-tion to both the macroeconomic policydiscourse in Serbia and to the prospec-tive investor who considers opportuni-ties in Serbia.

1. Competitiveness and Development

1.1. Two concepts of competitive-ness. We make a distinction betweentwo basic concepts of competitiveness:Micro competitiveness which refers tocompetitiveness of enterprises as their

Competitiveness of theSerbian EconomyExecutive Summary

1 Growth does not always facilitate development. Serbia's policy on competitiveness must address both. See KamalMalhotra, et al. "Making Global Trade Work for People," UNDP, 2003.


Executive Summary2

relative advantage over other enterpris-es and Macro competitiveness whichpurports competitiveness of economyas a whole. Our research is structuredin two basic segments as well.

1.2. Policy of strengthening competi-tiveness and exchange rate. Selectionof a currency regime for transition coun-tries (in this context Serbia should notbe an exception) depends on severaleconomic factors that change over time.Late transition requires a different cur-rency arrangement than what exists atthe beginning of the transition process.

European transition countries passthrough three common phases relatedto currency regime: 1) at the beginning,they adopt a fixed regime or narrowfluctuation regime, 2) after key structur-al changes and establishment of a mar-ket system based on higher GDPgrowth, they adopt a regime of man-aged rate fluctuation with different lev-els of control, 3) after fulfilling econom-ic, social, legal and political conditions(which should enable them to enter theEuropean Union) they adopt the fixedrate (i.e. EMR II regime, which repre-sents some kind of «waiting room» forentering the European Monetary Unionand switching from national currenciesto EUR).

1.3. Development and Investments inSerbia. After negative GDP growthrates (-6% on anual basis) along withnegative efficiency during the 80's, inthe 1990's less than 50% of depreciatedfixed assets were reinvested. The dataon investment in industrial equipmentin the 90's offers an even less favorableimage: below 15% of depreciated value,and during the last years of the pastdecade this statistic fell even below10%. Depreciation was uncriticallyincluded in current consumption, whichsabotaged the basis of further econom-ic growth, while the standard of livingwas sustained at an artificially highlevel. Some projections suggest that

investments might reach 20% of GDP inSerbia by 2005. For the purposes ofcomparison, the European Bank forReconstruction and Development(EBRD) evaluated that relative to allCentral and Eastern European countries,in 2001 the share of investments in GDPwas largest in Czech Republic at 35%and lowest in Croatia at 23%.

The structure of Serbia's economyis almost identical to that of 25 yearsago. Production was dropping andfixed capital was overflowing into con-sumption. In terms of the level of devel-opment, measured with GDP per capi-ta, in 2001 our position was close to25% of the position we had comparedto Slovenia in 1989. Concretely, in 1989,GDP per capita in Serbia andMontenegro (excluding Kosovo) totaledhalf of Slovenia’s GDP per capita. In2001 GDP of the Federal Republic ofYugoslavia totaled between 12% and13% of Slovenian GDP. A huge gap alsoexists in comparison to CentralEuropean countries, which are now inthe EU. Our GDP per capita is close toone quarter of the GDP of the weakestcountry from this group. The informaleconomy, the effect of which can notbe precisely determined, contributed acertain extent to the moderation of neg-ative consequences on living standard,but can not serve as the foundation fordevelopment.

Taking into consideration differentversions of the average equipment life-time, it can be concluded that industrialequipment has depreciated to 12%–15%of its real value in 1989. This technolo-gy base is now inefficient and out-of-date with modern market requirements.The lack of investments in modernequipment and technology therebydirectly influenced the fall of Serbia’seconomic competitiveness. Togetherwith the political and economic closingof the country, this represented the keyfactor of unfavorable development inthe export field i.e. in the balance ofpayments.


Executive Summary 3

2. Analysis of Dynamics of Foreign Trade

2.1. Sector Indicators ofCompetitiveness and RevealedComparative Advantage (RCA).Sector analysis of the results reveals theunfavorable export structure of Serbiaand Montenegro – the share of foodand live animals (sector 0) is dominantin export, as well as the share of prod-ucts sorted by material (sector 6) – fore-most various semi-products. The analy-sis also shows deterioration of the struc-ture of export during the 90s: with theshare of the zero sector increasing,while the importance of machines andtransportation (sector 7) and chemicalproducts (sector 5) are declining, i.e.products with the highest level ofindustrial processing. During the entireperiod, in the export structure is domi-nated by labor and resource intensiveproducts. Recent efforts at foreign tradeliberalization were followed by greaterdiverification of export, which demon-strates Serbia's extremely low special-ization.

Empirically established compara-tive advantage is called RevealedComparative Advantage (RCA). At thelevel of total trade the RCA indicatorrepresents the relation between foreigntrade balance and the total volume oftrade. In the period from 1989 to 2002RCA reveals a major decrease of com-petitiveness of Serbia and Montenegro'sexport. While in 1989 the foreign tradedeficit totaled only 7,3% of trade and in1990 - 12,4%, in 2002 it reached 47,1%.The number of product groups with apositive RCA preactically halved after1989. Comparative advantage wasmaintained predominantly in primaryproducts.

The European Union is still themost important trading partner forSerbia and Montenegro. However, asthe result of the non-competitive exportposition of Serbia's products, the goodsdeficit with the EU accounts for over40% of total foreign trade deficit.

In general, exchange rate depreci-ation stimulates export. However, thestructure of supply of our goods andservices is very modest and therefore itis not very likely that lowering theirprice could stimulate import demandfor those products. In the case of low-ered prices of domestic products importdemand elasticity is extremely smalland depreciation of exchange ratewoud not "pay off". The poor quality ofSerbia's products, lack of certified prod-ucts, small number of products adjustedto new international standards, smallseries, loss of former distribution net-work, impossibility of sale crediting,etc. prevent a larger part of the econo-my, especially industry, from increasingexport in the short term, regardless ofthe exchange rate. In fact, the stimula-tion of export through a depreciateddinar exchange rate under present con-ditions is all but impossible.

The export position can expandonly through improvements in the realsphere of the economy – through pro-ductivity growth and through improve-ment of product quality; through theuse of modern technology and modernmanagement techniques and throughefficient production processes.

2.2. Export dependence and non-price competitiveness factors. Basedon the results of econometric analysis,the effect of export dynamics on cyclesof industrial production (as indicators ofeconomic activity) and export’s effecton the fiscal burden proxied by realpublic revenues per industrial produc-tion unit are in the long-term equallyimportant. The relation between short-term export oscillations, on productionoscillations, and export dependence onunit labor costs is of lesser significance.There is no significant relation betweenexport and exchange rate, whether stat-ed in dollars, EUR or based on the bas-ket of currencies.

Nowdays prices have much lessimportance in explaining competitive-


Executive Summary4

ness than they had in the past.However, prices are still an importantcompetitiveness factor in countries thathave low income per capita (marketssensitive to changes of prices) and alsoin cases of high-standardized products(such as stock products). In cases ofproducts with a higher level of finalprocessing, the price competitivenessfactor looses its importance, while non-price factors become more important,especially quality, easy-to-use features,product life-time, safety, reliability,terms of delivery, warranty period, serv-icing and supply of parts. All the abovementioned characteristics are callednon-price competitiveness factors.Precisely in processed goods Serbia, hasrecorded major drops of competitive-ness, especially due to the influence ofnon-price competitiveness factors.

3. Microeconomic Aspects ofCompetitiveness

Microeconomic research of thecompetitiveness of the Serbian econo-my fell into two phases:

I Elite Interviews to collet qualita-tive attitudes of Serbian businessmen,based on the basic concepts of interna-tional competitiveness from the moderneconomic literature;

II Field Survey phase and con-struction of the MicroeconomicCompetitiveness Index.

3.1. Elite Interviews resulted in thefollowing conclusions concerning themost important competitiveness factors:

Exchange rate. Labor intensiveenterprises with large number of work-ers (for instance the textile industry)consider that the exchange rate isdepreciated, since foreign currenciesobtained from export are used for pay-ment of employees' salaries. Less laborintensive companies, which have alarge share of export in total sale, pre-fer a stable over a fluctuating exchange

rate, since they prefer predictability inthe realization of business plans.

Banking sector. Majority of busi-nessmen emphasize that the bankingsector in Serbia does not correspond tothe modern needs of businessmen.Specific objections refer to: lack of cred-its and very large gap between activeand passive interest rates. A more sig-nificant role of the state is expected tosupport export expansion, through statesubsidies in crediting export and pro-duction.

Marketing Majority of enterprisesemphasize that they do not have devel-oped marketing and that they are notvery oriented toward satisfying con-sumers' needs. Serbian businessmenemphasize they export mostly underforeign trademarks.

Consumer ethnocentrism.Consumers in Serbia express a signifi-cant tendency toward foreign trade-marks, even toward those coming fromthe countries Serbia was in war with. Inthe region of the Balkans, Serbs showthe highest tendency for shoppingabroad. Although they do not oftentravel abroad, Serbs purchase productsof higher value. Consumers from sur-rounding regions do not prefer shop-ping in Serbia.

Foreign trade barriers.Businessmen emphasize they areencountering: wrong structure of tariffs(high tariffs on raw materials, low tariffson final products), import dependence,slow procedure for reimbursement ofcustoms duties paid on raw materials, etc.

Bilateral agreements on tradepreferentials (Free Trade Agreements)are signed with only five surroundingcountries. Having in mind that Serbia isnot a member of the World TradeOrganization (WTO), conclusion ofsuch bilateral agreements with the sur-rounding countries (Romania, Bulgariaand other countries) would improveSerbia's foreign trade.

Public procurements.Businessmen feel that the Law on


Executive Summary 5

Public Procurements should be modi-fied to favor domestic enterprises.

Dumped export - import. Since1990 imported textile, clothing andfootwear, household appliances andnumerous consumer goods are dumpedto squeeze out local brands. This prac-tice is not sanctioned.

3.2. General conclusions of interviewsconducted with businessmen are: enter-prises expect state activity in terms ofimproving foreign trade competitiveadvantage, while enterprises themselvesdo not take enough action. Most of thedemands come down to assistance increditing of export and production.

3.3. Field Survey – The survey wasconducted on a representative sampleof production and trading enterprises.Collected data was analyzed individual-ly and through indexes of aggregation.The most important individual resultsfollow:

Motives for export. The mainfinancial motives for export are improv-ing business results and lowering costs.General marketing development on themarket of Serbia was evaluated as poor,so marketing motives for export almostdo not exist at all. The quality of man-agement was evaluated much better.

Prices of export products verymuch depend on demand. Only onethird of the interviewed businessmen(mainly exporters of primary and agri-cultural products) evaluated very posi-tively the demand for their products,while exporters of car parts, electro-technical products and mechanics, con-fection and metallurgy products haveproblems with demand for their prod-ucts. Source of the price competitive-ness lies in low costs of resources (laborand natural resources, 'draining' of theexisting technology). Export is basedmainly on low prices of nonbrand-name products.

Almost one half of the interviewed(45.7%) stated they pay taxes equal to

20% of annual corporate income, while17,2% stated they pay 31%, even 40%tax.

Technological sophistication inSerbia is evaluated as extremely low.Businessmen agree that constant inno-vations are the source of competitiveadvantage, but they emphasize they donot have financial means for innova-tions. Enterprises themselves do notconduct much research (with theexception of pharmaceutical firms).There are no subsidies for research-development activities. Foreign DirectInvestment (FDI) is perceived as thesolution.

Administrative regulations areoften changed, which increases thecosts of their application. Corruption ispresent at big tenders and in publicprocurements. Therefore, the corre-spondingly very low trust in politiciansis not surprising.

Foreign Trade Liberalization.In a very short period (from 2001)Serbia performed a very rapid liberal-ization of foreign trade. The country'santimonopoly policy was evaluated asunsuccessful and inactive. The law pro-tects property rights, but practical appli-cation of legal protections is unsatisfac-tory. Protection of intellectual propertyis evaluated as extremely weak andinefficient. Regulations on environmen-tal protection Serbia are weak, and theirapplication is inadequate (chaotic).

Infrastructure. Interviewed busi-nessmen evaluated Serbia's infrastruc-ture (roads, railway, airports, ports) asvery poor and they consider that thestate priority should be improvement ofinformation-communication technolo-gy. Businessmen also stated that theexisting Government programs for pro-motion of information technology arenot very successful.

3.4. Competitiveness Indexes – Theresearch on microeconomic competi-tiveness of Serbian economy generatedresults utilizing two aggregate indexes:


Executive Summary6

1. Growth Competitiveness Index(GCI);

2. Microeconomic CompetitivenessIndex (MICI).

3.4.1. Growth CompetitivenessIndex (GCI). This index measurescapacity of a national economy forachieving stable economic growth dur-ing a medium-term period. Variousgrowth factors have different roles atdifferent levels of economic develop-ment. Technology has a key role in allphases of economic development.Public institutions are especially impor-tant in the initial development phases.Macroeconomic environment has con-stant importance, but is foremost duringthe initial phases.

We have added Serbia andMontenegro to the Group of 75 coun-tries, which the World Economic Forum(WEF) included in its research from2001. In the final score Serbia andMontenegro holds 69th position, out oftotal of 76 analyzed countries. Wewould like to note that the WEF listincludes only half of the world coun-tries and therefore being at the bottomof this list does not mean being at thesame time on the bottom of the list con-sidered by potential investors.

Technology Subindex. With anindex value of 3.16, Serbia is far behindall transition countries (Ukraine is theclosest, with an index value of 3.68).Among the countries in the region,Bulgaria has the worst result, with a sig-nificantly higher index value of 4.32.The weakest subindex in this index(compared to other countries) relates toinformation-telecommunication tech-nologies (ICT) – 2.15, i.e. 75th place,while the innovation subindex is justslightly better (1.79 i.e. 65th place).

Public Institutions Subindex. Incase of public institutions index Serbiaand Montenegro hold 51st place.Romania and Bulgaria follow rightbehind, but also the Czech Republic.Public institutions have significant influ-

ence on economic growth at lower lev-els of development.

Macroeconomic EnvironmentSubindex. Based on macroeconomicevaluations of competitiveness, Serbiaand Montenegro is ranked on the 73rdplace, among 76 analyzed countries(2.96). Out of the three subindexes, ourcountry has: a) an exceptionally goodposition in the subindex of share ofpublic expenditures in GDP during2000, ranking SCG on the 14th place; b)a disastrous credit rating – the fact thatwe hold 74th position and that thesubindex value is lowest possible (1.01)speaks in favor of this, and c) fragilemacroeconomic stability (74th place,index value of 2.78).

Regression analysis indicates thateconomies based on technologicalproducts recorded faster growth thancommodities-based economies, which isthe case with Serbia for which keyexport products are: frozen fruit, grain,ore, semi-products, etc. Achieving tech-nologically advanced productionbecomes an imperative of economicdevelopment policy.

3.4.2. Microeconomic Competitive-ness Index (MICI). The Microeco-nomic Competitiveness Index (MICI)provides conceptual framework for com-parative analysis of basic current com-petitiveness of national economies. MICIexamines microeconomic basis of anational prosperity, measured by levelof gross domestic product per capita(GDP pc PPP). It is obtained from theindicators included in the Questionnaireon attitudes of managers/businessmenand from two indicators from the offi-cial statistics: GDP pc PPP and the num-ber of patents per capita.

Statistically, the most importantvariables of microeconomic competi-tiveness for countries with low GDP percapita (such as Serbia) are:

a) Variables of business develop-ment and enterprise strategies: market-ing development, quality of production


Executive Summary 7

process, development of trademarksand nature of competitive advantage(competitiveness based on cheapresources or innovation-based competi-tiveness).

b) The national business environ-ment was analyzed through elements ofa "diamond of competitiveness". Amongvariables of availability of productionfactors, infrastructure has the greatestsignificance (ports, airports, telecom-munications, public schools). Amongthe terms of demand, the most impor-tant statistical variables are: presense ofregulatory standards and stringency ofecological standards. Within the factor“linked and supporting industries” mostimportant is quality of domestic suppli-ers and availability of domestic compo-nents and parts. Among variables of thecontext for shaping strategy importantare: hidden trade barriers and efficiencyof antimonopoly policy.

Based on our analysis, the domes-tic economy is ranked in the followingmanner (in relation to 76 observedcountries):

Ranking according to GDP level (PPP principle) 72

Ranking according to MicroeconomicCompetitiveness Index 71

Ranking according to business subindexand enterprise strategy 75

Ranking according to quality of nationalbusiness environment subindex 69

Based on the business subindexand enterprise strategy, in 2000 ourcountry held the next to the last place -75th place, ahead of Bolivia. The weakposition, based on the MICI index, isthe result of poor business subindexand enterprise strategy. The businessenvironment (although incomplete andundeveloped) offers more than compa-nies are ready or capable to use. Alltransition countries we are trying to

compare ourselves with (Hungary,Poland, Czech Republic, Slovenia,Slovak Republic) are far ahead of us –according to the total index and alsoaccording to both subindexes. A fewplaces ahead of us are Romaina andBulgaria, according to all the indexes.Serbia belongs to a group of countrieshaving appreciated GDP per capita.That means that our current level ofGDP pc exceeds our real microeco-nomic competitiveness given by MICIindex and that is unsustainable in thelong term.

4. Sustainability of the Balance ofPayment

According to the current plan, pay-ment of interest and principal of theinherited foreign debt, a critical burdenon export and GDP, is to occur in theperiod 2007-2009.

By analyzing different scenarios, itis quite certain that, during the entirenext decade and even after that period,Serbia will encounter the problem offoreign investment inflow and support-ing the deficit of current transactions inthe balance of payment. Projection ofthe balance, based on all needs (beforeall the balance between consumptionand investments in development) willdepend on the type of developmentstrategy and economic policy; resourcesfrom domestic GDP, domestic savingsand foreign savings invested, foreigndebt servicing (this also includes budg-et sustainability), as well as the level ofconsumption and the relative socialacceptance of limiting consumptionunder the existing circumstances. Thegeneral political climate and politicalstability in Serbia should provide anenvironment in which this will be real-istic.

Based on the experiences of suc-cessful transition countries, the share ofinvestments in the GDP could reach25% till the end of the decade. In 2005,


Executive Summary8

that share should reach at least 20%,while the share of foreign savings infinancing should total approximately1/3 of total investments.

Foreign debt servicing is sustain-able only provided foreign savinginflows through investments fromabroad (in the period 2003 - 2010 theyshould cover at least 25% of total invest-ments), while the commercial debtbefore 2009 should not exceed (onaverage) 10% of the value of invest-ments.

Long-term stability should not bejeopardized since it may lead to effortsto stabilize the balance of paymentsthrough real depreciation of the dinar.Even if it temporarily reduces thedeficit, later it increases obligations inthe balance of payments and in thebudget, especially during a critical peri-od of major a burden of export andGDP.

There are critical lower limits ofaverage economic growth (3%) andexport growth (12%). They are mutual-ly dependant. Faling below either limit,irrespective of the other, leads to (dur-ing the second five-year period of thisdecade) exceeding critical limits interms of the debt servicing rate and bur-dening GDP with debt servicing - i.e. itleads to new external insolvency, tonew reprograms and to new recession.

5. General conclusions

Basically, the issue of increasingcompetitiveness comes down to choos-ing between two development strate-gies. The first strategy: to make prof-itable a critical number of enterprisesthat are 'below the margin' throughdepreciation of the domestic currency,parallel with strengthening tariffs andnon-tariff protection (protectionism).This strategy can be used to preserveand reproduce the inherited economicstructure. In the Serbian economy thisstructure is out-of-date and predomi-

nantly compatible with the market thatexisted two or three decades ago. Thesecond strategy starts off from a marketvalue exchange rate and from the liber-alization of foreign trade. It stimulatesenterprises that are below the margin ofprofitability to increase productivity andefficiency, to change production pro-grams and to achieve competitivenessthrough technological development anddevelopment of quality. Enterprises thatcan not achieve this are closed down. Atthe same time new enterprises emergethat are capable of profit under thegiven conditions. This way, investmentsare directed at establishing a new, mod-ern structure of economy; competitiveboth on domestic and on foreign mar-kets. But this requires an open economyand sound market environment, whichwill be suitable for foreign investmentsand domestic savings that are aimed atestablishing small and medium enter-prises to absorb manpower from enter-prises closed down. This also requiresgood social programs, instead of thesocial function of subsidizing enterpris-es 'below the margin'.

Serbia has to build a modern mate-rial and information infrastructure andto modernize its enterprises in order toincrease the value-added per employee.Without foreign capital, our enterprisescan renovate their programs over anaverage period of 20 to 25 years.Enterprises in which foreign savings andmanagement participate can do this in 3to 5 years. Relative to the Europeanindustrial countries, the technologicallag of our economy totals 5–6 techno-logical years, which is equivalent to 30-35 years in time.

Investments in the modernization ofequipment and production processes isthe key presumption for improving com-petitiveness and for achieving higherexport growth. And - the increase ofexport revenues is the first preconditionfor foreign debt servicing and for provid-ing resources for financing import ofequipment and technology. It is also the


Executive Summary 9

precondition for economic developmentin the years to come. In order to achieveeconomic growth, to realize constantGDP growth and to increase the standardof employees, Serbia has to reach globalcompetitiveness – foremost on marketsof the EU countries with which it realizesthe greatest part of its foreign trade andcapital flow and to which it has majorforeign debt. Economic policy has todevelop both competitive and compara-tive advantages of Serbian economy.

The creation of a favorable climatefor foreign investments transcends ‘stan-dard’ macroeconomic surmises. FDIrequires application of developmentpolicy free from influence of bureaucra-cy and free from slow administrativeprocedure (registration procedure,employment procedure, export proce-dure, profit repatriation, providing legalprotection, etc.). Further, the existenceof transparent and appropriate legal reg-ulations and efficient banking (i.e. afinance sector) is assumed. The stateshould stimulate and support allchanges that lead to strengthening theproduction base and real competitive-ness of export. Only additional invest-ments in modern technology andhuman capital (knowledge, specializa-tion, etc.) could increase the growth rateand thereby ensure two objectives: a) anincrease of the living standard (incomeper capita) and b) enabling regular ful-fillment of obligations toward foreigncreditors (debt servicing).

Serbia must prepare a complexdevelopment policy (in which one ofthe parametars will be attracting foreignsavings – foremost foreign direct invest-ments which bring, apart from capital,modern technology and managementprocesses), to provide export marketand to activate processes that improvethe business of domestic enterprises.For this purpose, intervention is neededin many fields. Tax burden for the use(exploitation) of natural resources andunrestorable energy sources should beincreased. State financial support should

be preserved only in cases of producersthat realize higher added value. Thiswould stop economically unjustifiedincreases of capital intensive produc-tion, for which results are modest, fromthe aspect of value-added growth.

Priority support should be given tonon-material investments based onknowledge, modern know-how, inno-vations and new production techniques.Serbia should commence productioncooperation and development coopera-tion with the surrounding countries,aimed at creating synergistic effects insome industries and activities. Foreigninvestors express great interest in suchcooperation. The examples of the CzechRepublic, Slovak Republic, and transi-tion Baltic countries offer important les-sons here. For this purpose, one shoulddefine potential production nucleiwhich could include enterprises in pri-vate and public ownership. It would benecessary to offer a concrete assistancein penetrating regional markets. It isnecessary to stimulate - in cooperationwith foreign partners - regional devel-opment of concentrated economiczones attractive for foreign investors(clusters).

Since gross labor costs can be com-pensated only with greater productivity,economic policy must favor all thoseprocesses and activities that contributeto increase the volume of productionper employee. The problem of loss ofcompetitiveness occurs in cases wherean increase in costs is not amortizedwith an increased productivity. Non-price competitiveness factors, such asquality, design, terms of delivery, servic-ing, and international quality (certifica-tion) logos can be crucial for increasingexport, but they alone can not amortizehigh relative costs.

As in the case of other transitioncountries, the selection of currencyregime is of great importance for Serbia'seconomic growth and economic stabili-ty. There is no ‘best’ version of currencyregime that is set in advance and which


Executive Summary10

would maintain constant advantage orwhich would represent the best solutionfor each individual country. At that, it isnot necessary to make a differencebetween fully fixed and fully fluctuatingcurrency regime, but it is necessary tomake a difference between different lev-els of flexibility. The successful devel-opment of a transition economy (espe-cially based on the experience of theCentral European countries) is reflectedin the real appreciation of the domesticcurrency. Increased productivity in thetrading sector reduces unit costs of pro-duction, equivalent to the real apprecia-tion of the exchange rate.

Further, various measures for thesterilization of money can for some timereduce the increase of the exchange rateand ease inflationary pressure, but noneof these measures can fully prevent realappreciation of a national currencyexchange rate in conditions of constantand major foreign capital inflow. It is ofspecial importance that the Central bankstrictly supervises the behavior andfinancial balance of commercial banks,and – if necessary - establishes a specialfund for the insurance of deposits. Also,realization of regulatory norms andaccounting standards, in commpliancewith the Basel Standards, should beconsidered a element of protection ofthe country's financial policy.

The more the Serbian economyintegrates to markets of the EU countriesand to markets of developed transitioncountries, the more it will encountergreater oscillations in capital flowtoward its own financial space andbeyond it. This raises a question on howto control such flows. The experiencesof other countries indicate that thereduction of short-term capitalinflows/outflows is a reliable way forsoothing capital flows in domestic finan-cial space and for preventing its uncon-trolled flow at the will of speculativeinterests.

6. Agenda for increasing competitive-ness of Serbian economy

Under the circumstances of mutu-ally connected and dependant systems,no individually performed economicpolicy can lead to an increase ofSerbia's competitiveness. There is a setof measures, which would be synchro-nized, functionally harmonized andaimed at the same objective.

6.1. Monetary policy i. Follow a neutral currency policy i.e.

to maintain monetary balance as thekey to stability of prices and a bal-anced exchange rate of the nationalcurrency.

ii. Transfer to a controlled fluctuationregime instead of the 'quasi fixed'regime as teh export base increases.

iii. Conduct monetary policy with thegreatest possible reliance on openmarket operations and with theleast possible manipulation withobligatory reserves and credit limitspolicy.

iv. Add elements of sterilization of pri-mary cash created from foreign cap-ital inflow.

v. Develop to the maximum the con-trol functions of the Central bank.

vi. Develop a securities market.vii. Perform additional capitalization of

banks and, afterwards, to offerthem for sale to a strategic partner(in principle - up to 49% of owner-ship rights).

viii. Protect the financial system fromany kind of influence from statebodies or interest groups.

ix. Set limits to business banks forredemption of state bonds for cov-ering the budget deficit.

x. Modernize and to educate staff inbanking and non-banking financialinstitutions, e.g. insurance agencies,pension funds.


Executive Summary 11

6.2. Fiscal policyi. Commence transfer of a part of the

burden of social protection from thestate to the private sector (whichwill indirectly influence develop-ment of the financial market).

ii. Develop the Second and pillar ofpension insurance.

iii. Introduce the VAT, which willbroaden the tax base.

iv. Introduce two VAT rates: a lowerrate for medicines, children's acces-sories, public transportation, basicfood products (e.g. 8% and a stan-dard 20%).

v. Provide instruments for allround taxcollection, along with improvementof the working organization of taxinstitutions.

vi. Redefine fiscal policy from a short-term (1 year) to a medium-termfinancial strategy (3-4 years).

vii. Direct reform of the tax system totwo main directions: broadeningthe tax base and lowering marginaltax rates in all activities, sectors andindustries that directly contribute toeconomic development.

viii. Determine the development budgeti.e. to gradually redirect one part ofpublic expenditures from consump-tion to investments.

ix. Build the human capacity of the taxadministration and its supervisionbodies.

6.3. Privatization i. Improve the existing privatization

model in terms of:a. Evaluation of offers that include a

development effect - both on abought company and on theentire economy.

b. Allowing participation of portfo-lio investors, which have to revi-talize a bought company prior tonext sale.

ii. Restructure unsuccessful companiesprior to privatization only in excep-tional cases, when this does notrequire large resources and when

there is a small risk of failure.iii. Enact the Bankruptcy Law –neces-

sary for ‘cleaning’ the economy. Inapplication of this law it is neces-sary to conduct training of bank-ruptcy administrators and to estab-lish social programs and programsfor the recovery of SMEs.

iv. Resources acquired from sale of com-panies should be directed at creditingexport-development projects.

6.4. Foreign Direct Investmenti. Ensure non-disriminatory treatment

of foreign investors.ii. Simplify the entire legal-administra-

tive procedure related to foreigninvestments; from the preparationfor production to profit repatriation.

iii. Offer to foreign investors qualifiedlegal assistance and other kind ofassistance.

iv. Prepare a transparent system oflegal protection of foreign investors.

v. Form special export zones (with taxand other benefits) aimed at attract-ing FDI for stimulating develop-ment of some of the country'sregions.

6.5. Development of Small andMedium Enterprises

Small and medium-size enterprises(SMEs) will take over the key role in thetransformation of Serbia's economicstructure. Their role is especially dis-tinctive in the sector of services andcapital unintensive activities. Achievingappropriate proportion between SMEsand large enterprises is of vital interestfor the long-term growth of the Serbianeconomy's competitiveness. Therefore,it is necessary to realize several syn-chronized programs for stimulatingSMEs.i. Stimulate the development of SMEs

through an Agency for Small andMedium Enterprises. Small andmedium enterprises should be pro-vided with:a. Assistance in crediting – verifica-


Executive Summary12

tion of business plans and assis-tance in conducting businesspolicy (financial management);

b. Assistance in marketing – smallenterprises should use theseservices from outsourcing andterms for exporters should bemore favorable;

c. Assistance in human resourcesmanagement – especially ineducation:• management courses and sales

courses, marketing and busi-ness organization courses,

• courses on the use of moderntechnology, information tech-nology, logistics,

• new ways of financial busi-ness (new financial instru-ments, new modes for obtain-ing financial resources, riskmanagement, etc.);

d. Technical assistance in achiev-ing export – assistance in real-ization of complex administra-tive procedures.

ii. Stimulating cluster development -regional and economic develop-ment, by creating conditions forcooperation of small and largeenterprises in a planned environ-ment.

iii. Stimulating cooperation betweendomestic SMEs and transnationalcompanies (TNC) that are investingin Serbia through FDI.

iv. Financial support.• Guarantees for obtaining neces-

sary bank credits;• Co-financing specific products

and services rather than financingenterprises (high value-addedproducts, products for marketsectors, products for certainattractive markets, tourist servic-es, etc.).

v. Program for quality. • Budget co-financing of organiza-

tional, production, technologicaland other changes necessary forimproving quality;

• Facilitating increased informationflow from the international mar-ket, aimed at achievingInternational Quality Standards;

• Facilitating increased informationflow on new production proce-dures, and technological solu-tions.

6.6. Foreign Trade Strategy i. Improve technological foundation

of export-oriented enterprisesthrough state subsidies for the intro-duction of modern technology inSMEs and by stimulating the inflowof foreign technology through com-plex foreign trade businesses (leas-ing, franchising, FDI).

ii. Stimulate innovations and improve-ment of quality and standardizationsystems.

iii. Establish an Export Agency forexport insurance, export creditingand marketing.

iv. Stimulate export-oriented FDI,through production in free exportzones.

v. Regional specialization of export –conclusion of bilateral agreementswith target countries; developmentof business and political partner-ships.

vi. Improvement of infrastructure ofthe foreign trade network and for-eign trade operations through edu-cation programs.

vii. Pass the Law on Monopolies.


Introduction 13

1) The sources of chronic crisis

Chronic economic crisis in Serbia,inherited from the former communistregime, emerged from the nature of theeconomic system and from the devel-opment and economic policy congruentwith such a system: based on socialownership defended by a closed, self-sufficient economy. Those factors led todeep structural inefficiencies. Mostessentially, investment fell to negativevalues during the 80's, when their shareof GDP halved.

After soverign indebtednessreached a pinnacle at the end of 1981(21,1 billion dollars or 15,7 billion dol-lars more than at the end of 1974) ablockade on financial transactions wasimposed in 1982 and, beginning in1983, a series of arrangements with theInternational Monetary Fund (IMF) wasnegotiated. In the period of 1980 to1984, annual growth of monetary masswas 28% and during that five-year peri-od annual inflation reached 44%.

The result: during the 80s (1979-1989) annual GDP growth averaed 0,6%(0% per capita). In 1989 fixed invest-ments dropped to 15-16% of GDP andtheir efficiency became negative – i.e.the invested dinar was not recoveredthrough GDP growth.

2) Economic activity and economic poli-cy in the period 1990-1998

The chronic crisis became criticalwith disintegration of Yugoslavia.Initially, the flow of goods between therepublics was hindered (for instance,1989 boycott of Slovenian goods in

Serbia, the response of Slovenia, etc.).In 1990, republic central banks con-ducted an effort at redistribution in theirfavor through unauthorized emission ofmoney. The defensive mechanism toconteract this was the suspension ofpayment operations between therepublics, which was followed by fur-ther reduction in the flow of goods. Inthe second half of 1991 the country wasin the civil war, which resulted in sig-nificant destruction of infrastructure andthe complete suspension of formal eco-nomic cooperation between individualrepublics.

At the end of 1991 the EuropeanEconomic Community (EEC) imposedsanctiones that were only an introduc-tion into the UN sanctions (imposed inMay 1992). Those sanctions included atrade and financial embargo. Eachphase of the UN sanctions yieldedstronger negative effects on the coun-try's economy. Supply chains and for-eign trade were interrupted. The

Introduction: Economic Crisis in Serbia

Chart 0-1: Efficiency of investments*

Growth in dinars (prices - 1972)1952-60. 1961-70. 1971-80. 1981-90.

SFRY 38.8 26.8 21.1 -3.5

Bosnia and Herzegovina 28.0 23.8 16.4 -1.2Montenegro 10.2 16.6 14.9 -5.1Croatia 44.8 28.7 21.4 -5.9Macedonia 26.4 21.6 18.7 -3.2Slovenia 45.3 35.4 24.2 -3.8Serbia 43.5 26.0 22.5 -2.7

- Central Serbia 37.0 25.7 25.7 -1.2- Kosovo 36.4 17.0 11.3 -6.8- Vojvodina 68.7 30.3 19.9 -5.1

* GDP growth on 100 dinars of gross economic investments in fixedassets

Source: Development of former SFRY republics; Federal Office for Statistics, 1996

Institute for Economic Sciences estimat-ed the reduction in industrial produc-tion of about 40%, which occured inonly few months, was a direct result ofthe Security Council sanctions.Insufficient flexibility of socially-ownedenterprises and the management modelin such enterprises also contributed tothe dramatic fall in production – social-ly-owned enterprise mangementexpected the state to solve their prob-lems.

Economic policy was entirelyincompatible with the new situation. Atfirst, it hesitated to accept the newobjective situation in the economy.When economic policy finally recog-nized the new situation, it did notundertake the necessary radical meas-ures. This applies foremost to the radi-cal reduction of public consumptionand its deficit. Instead, the state (and itseconomic policy) supported the socialmodel of emission-based financing andstate operations based on inflation tax.This was followed by frequent radicaldestabilizing shifts between the stateadjusting the official rate to match theblack market exchange rate to rigidfinancing of the official exchange rate;control and liberalization of prices; etc.

Once financing based on primary emis-sion was broadened to include theentire public sector and a number oflarge socially-owned enterprises, hyper-inflation reached a point when theinflation tax collected by the state wasrapidly vanishing. Forcing enterprises(August 1993) to sell their goods atmaximized prices resulted in destruc-tion of the economy's floating capital.Production almost stopped. The marketwas suspended and its remains weresuppressed in the zone of grey econo-my. In 1993 Yugoslav GDP dropped to9,5 billion dollars (author'sestimate)with a strong downward trend.We estimate that Yugoslavia entered1994 with a GDP of approximately 700dollars per capita.

The January 1994 Avramovic pro-gram for reconstruction of the monetarysystem cut uncontrolled monetary emis-sion. Instead of the old currency, whichwas nullified with hyperinflation whenmonetary mass (M1) was reduced to asymbolic 50 million DEM. a new dinarwas created and tied to DEM. Over sev-eral months, remonetization (the injec-tion of new money into an emptyspace) enabled a fast increase insalaries, growth of the monetary mass


Introduction14

0

90

180

270

360

450

Cyclical Trend

Deseasonalized

Original Series

Average 1996=100

0201009998979695949392919089

W a r

EC sanctions

UN sanctions

Cessation of inter-republic exchange

Irruption in monetary system

Restrictive monetary policy

Program of monetary

reconstructionKosovo

Elections - September

2000

Graph 0-1: Industrial Production Index


Introduction 15

and the crediting of enterprises thatwere selling out their reserves.Production epanded for nine months,untill October 1994, when it was inter-rupted by teh suspension of monetaryemission due to movement in pricesand the creation of a black marketexchange rate. By that time, the blackmarket DEM exchange rate was 35%higher than the official exchange rate.

The second wave of productiongrowth in the 1980's came after the sus-pension of sanctions and prior to thefinal lifting of sanctions (this was fol-lowed with devaluation in November1995). This second wave lasted for fivemonths, mostly during the second halfof 1996. It faded with the suspension ofmonetary expansion which followedthis growth. Shortly after, a third waveof growth emerged - from the secondquarter of 1997 through the first half of1998. This growth was connected withthe inflow of up to US$ 1 billion fromthe sale of one part of Telekom Srbijaand the injection of that capital intoconsumption. Foreign currency solven-cy was also assured for an increasedimport of raw materials. Furthermore,EU countries granted preferentials forimport of certain products fromYugoslavia, which sparked a recoveryof export. All these factors drove indus-trial production and GDP growth.Industrial production increased at 7,5%,and then 9,5% in 1997 and 1998.However, the economy fell back intorecession in the second half of 1998.The only significant exception in thistrend was the growth of industrial pro-duction from mid-1999 till mid-2000,based on inflatory financing. Thisgrowth was only a partial compensationto the drop that occured during theNATO intervention.

Social function were left to enter-prises in this period. During the sanc-tions, dismissal from work was prohib-ited by law. In 1996, the number ofworkers in industry was down 22% rel-

ative to 1989. In production of trans-portation means, production wasreduced to 7% of 1989levels, but 83% ofthe number of employees from 1989were still on the job.. Costs were less-ened with the moratorium on payingforeign debts. Activation of due andpayable debts would have stoped theeconomy.

This history is important. Duringthe 90’s, investments were lower thanthe write off of the fixed assets and thestructure of the Serbian economy wasthe same as at the end of the 70’s. Thecapacity of the Serbian economy can beillustared with its relative status com-pared to Slovenia. Concretely, in 1989GDP per capita in Serbia andMontenegro (excluding Kosovo) totaledhalf of GDP in Slovenia. In 2001 GDP ofFRY totaled between 12 and 13% ofSlovenian GDP. A huge gap alsoemerged between our country and theCentral European countries (countriesnow entering the EU). Serbia’s GDP percapita is close to one quarter of theGDP of the “weakest” of those coun-tries.

During the last decade of the 20th

century the economy was under invest-ed and less than half of amortizationwas flowing back into it. The situationin industry is especially difficult. Takinginto consideration different models onthe average lifetime of equipment, itcan be concluded that industrial equip-ment has depreciated to 12%–15% of itsreal value from 1989. Its operationalcapability is approximately the same.Some argue that especially industry haslow level of capacity utilization of thecapacities but the argument that activa-tion of the existing capacities, throughthe inflow of sufficient floating capital,can provide higher growth rates – is apure illusion. Our economy needs largeinvestments and new equipment.Therefore the problem of investments islinked with the problem of economicgrowth.

3) Foreign Direct Investment andDevelopment

European countries passedthrough two technological cycles duringSerbia's process of disinvestment. Thisproduced several negative effects. Themost distinctive are slower growth, adrop of aggregate production, andfalling export competitiveness. SlowerGDP growth disabled domestic savingsnecessary for local initiation of newinvestments and narrowing the spacefor production growth. Consequently,savings fall still further, local investmentdrops even lower, which leads to stilllowewr GDP growth rates. This visciouscycle can only be broken by foreigninvestment capital.

During the last two years, FDIinflow in Serbia was as follows: 195 mil-lion dollars in 2001 and 475 million dol-lars in 2002. For comparitive purposes –in 2001, Croatia registered a FDI inflowof 1,4 billion dollars, Romania 1,1 bil-lion dollars, Bulgaria 0,7 billion dollars,Macedonia 0,5 billion dollars, Hungary2,4 billion dollars, Czech Republic 4,9billion dollars. A large share of foreigninvestment in Serbia is directed to thetertiary sector, e.g. real estate. GreaterFDI inflow in production i.e. in the pro-cessing sector would influence fasterinflow of modern technology andknow-how, which would have a directimpact on the improvement of compet-itiveness of the Serbian economy andthe faster growth of export of goods,and ultimately on GDP growth. Thepractice of all transition countries showsthat enterprises with FDI have better

access to foreign markets than domesti-cally owned enterprises. In the 1999structure of total export, the share com-panies with foreign ownership is: 60,5%in the Czech Republic, 89% in Hungary,60% in Poland, 30% in Slovenia.

FDI greatly contributes to enter-prise productivity growth. In Hungary,firms with FDI are three tims as pro-ductive as comparable domesticallyheld firms. In Poland the ratio is- 2,3times higher and in the Czech Republictwo times higher. FDI brings high capi-tal intensive technology. When matchedwith a high skill low cost labor force,this yields a comparative advantage ininternational markets and subsequently,high GDP growth rates.

Since gross labor costs can only bebe compensated with greater productiv-ity, economic policy has to favor allprocesses and activities that contributeto increasing production per employee.The problem of loss of competitivenessoccurs in cases when the rising cost ofproduction is not exc eeded by a fasterrate of increased productivity. At pres-ent, Serbia has a comparative advantagein terms of labor costs, but this advan-tage is the reflection of low wages andmodest social services financed fromgross incomes. Without higher wages, itis not possible to motivate workers towork harder and better, to give theircontribution to innovations and devel-opment in general. This requires supe-rior products and constant productivitygrowth. The domestic economy is notable to achieve this growth withoutmassive FDI inflow.


Introduction16

1990. 1991. 1992. 1993. 1994. 1995. 1996. 1997. 1998. Average

Total 48,3 50,9 51,7 48,6 46,7 41,6 35,3 33,6 32,3 43,2

Industry 36,4 35,1 31,9 31,0 30,1 28,6 25,2 22,2 21,2 29,1Equipment 20,7 19,4 17,7 13,6 10,2 13,7 11,5 9,7 9,2 14,0

Chart 0-2: Investments according to depreciation in FRY (%): 1990–1998

Source: Statistical Yearbook of Yugoslavia (several issues), Federal Office for Statistics, Belgrade


6. Conclusion 339

6.1. General conclusions

The issue of increasing competi-tiveness comes down to choosingbetween two development strategies.The first strategy purports depreciationof the national currency aimed at creat-ing profitable "critical mass" of enter-prises that are "below the margin", par-allel to strengthening tariff and non-tar-iff protection (protectionism). This strat-egy would seek to preserve and repro-duce the existing structure of economy.In the case of Serbia – this structure isout-of-date. The second strategy startsoff from a market value exchange rateand foreign trade liberalization. It stimu-lates enterprises which are below themargin of profitability to increase theirproductivity and efficiency; to modifytheir production programs and toachieve competitiveness based on tech-nological improvements and quality.Enterprises which can not achieve prof-it are closed down. At the same time,new enterprises emerge which are capa-ble of profit under the given conditions.In this way, investments are directedtoward establishing a new, modernstructure of economy, competitive bothon domestic and on foreign markets.But, this requires an open economy andsound market environment, which issuitable for foreign investments and forinitiating domestic savings aimed atestablishing many small and mediumenterprises that will absorb the man-power from enterprises closed down.This strategy also requires social pro-grams centered on individuals, insteadof the social function of subsidizingunprofitable enterprises.

Serbia must build a modern materi-al and information infrastructure, mod-ernize its enterprises, and ultimatelyincrease the value-added per employee.Compared to the European industrialcountries, technological lag of our econ-omy totals 5–6 technological years,which is equivalent to 30-35 years in thetime dimension. Without foreign capitalinflow, our enterprises can modernizetheir production capacities over an aver-age period of 20 to 25 years. Enterprisesin which FDI contribues capital andmanagement know how can achievethis modernization in 3 to 5 years.

Investments in modernization ofequipment and production processesare the key to improving competitive-ness and for achieving higher exportgrowth. And - the increase of exportrevenues is the first precondition for for-eign debt servicing and for providingresources for financing import of equip-ment and technology. Export is the pre-condition for economic development inthe years to come. In order to achieveeconomic growth, to realize constantGDP growth and to increase theemployees' standard of living, Serbiahas to achieve global competitiveness –foremost on markets of the EU withwhich Serbia realizes the greatest part ofits foreign trade and capital flow and towhich it has major foreign debt.Economic policy must target and sup-port both competitive and comparativeadvantages of the Serbian economy.

Serbia must prepare a complexdevelopment policy. One of the param-eters of this policy should be attractingforeign savings – foremost foreign direct

6. Conclusion –Strategy for a Competitive SerbianEconomy


6. Conclusion340

investments, which bring in capital,modern technology and managementprocesses, opens export markets andactivates processes for improving thebusinesses of domestic enterprises. Inorder to achieve this aim, intervene isrequired in many fields.

The state should prioritize supportto non-material investments based onknowledge, modern know-how, inno-vations and new production techniques.Serbia should facilitate cooperation withthe surrounding countries, aimed at cre-ating synergistic effects in some indus-tries and activities. For this purpose, thestate should define potential productionnuclei that could include private andpublic enterprises and offer concreteassistance in penetrating regional mar-kets. Also, it is necessary to stimulate -in cooperation with foreign partners –the regional development of concentrat-ed economic zones attractive for foreigninvestors (clusters).

Since only rising productivity cancompensate gross labor costs, economicpolicy must favor all processes andactivities that contribute to increasing ofvolume of production per employee.The problem of loss of competitivenessoccurs in cases when rising costs are notamortized with rising productivity. Non-price competitiveness factors, such asquality, design, terms of delivery, servic-ing, attests and international quality(certification) logos can be crucial forincreasing export, but they alone cannot amortize high relative costs.

As in the case of other transitioncountries, the choice of currency regimehas a great importance for Serbia's eco-nomic growth and economic stability.There is no best choice of currencyregime. That said, it is not productive todebate the ideal positions of a fullyfixed vs a fully fluctuating currencyregime. Rather, the policy questionrevolves around the relative merits ofdifferent levels of flexibility. Successful

development of a transition economy(especially based on the experience ofthe Central European countries) is evi-dent in a real appreciation of thedomestic currency. Increased productiv-ity in the trading sector reduces unitcosts of production, equivalent in thesame percentage to real exchange rateappreciation.

Various measures for the steriliza-tion of money can for some time reducethe increase of the exchange rate andease inflationary pressure, but none ofthe measures can fully prevent realappreciation of a national currencyexchange rate when there is a constantand major foreign capital inflow. It is ofspecial importance that the Central Bankstrictly supervises the behavior andfinancial balance of commercial banks,and – if necessary - establishes a specialfund for deposits insurance. Also, real-ization of regulatory norms andaccounting standards, in commpliancewith the Basel Standards, should beconsidered an essential element of thecountry's financial policy.

The ultimate objective of economicpolicy is to increase the GDP growthrate and to maintain it at the level nec-essary for reducing the gap between percapita income in Serbia and in the EUcountries, as well as the gap existingbetween Serbia and the transition coun-tries. It is necessary to provide as manyconditions as possible to achieve thisobjective. Except under special circum-stances and in the short term, theprocess of increasing Serbia's GDP percapita toward the income in the EU isonly possible through constant produc-tivity growth.

The stability of prices is the basicpostulate of long-term development -always and in every arrangement ofeconomic policy. Only long-term stabil-ity of prices can create a framework forrising domestic and foreign investment.


6. Conclusion 341

6.2. Harmonization of economic policyon macro and micro level

Opinion surveys conducted intransition Central European countriesindicate that enterprises specify threestrategic objectives as the most impor-tant for increasing competitiveness:improvement in the quality of employ-ees, reducing business costs andimproving the quality of products. Allthese objectives can be understood asthe postulates for achieving competitiveadvanatage on the decentralized inter-national market.

In order to build the basis forstrengthening competitiveness of theSerbian economy and to secure its pos-itive effects on economic growth andemployment, it is necessary to act in thefollowing manner:

1) State intervention in industryshould focus on development of activi-ties in which Serbia can surely realizedynamic development, such as: accom-panying industry in engineering, electri-cal engineering, electronics, car indus-try, telecommunications. At the sametime, this requires Foreign DirectInvestment and appropriate manpowertraining.

2) The state must redefine the taxburden for certain activities in differentsegments of economy: one part of mar-ginal tax burden should be transferredfrom manpower to the use of naturalresources. Direct state financial supportshould not depend on the type of enter-prise, or number of employees, or cap-ital intensity, but rather on the value-added the enterprise can potentiallyrealize.

3) Cooperation with surroundingcountries should be encouraged toestablish functional relations betweenenterprises. This is especially importantfor the development of production,which requires ecological protectionthat can be performed by regionallyconnected production units rather by alocally-based enterprise.

4) Priority should be given to clusterdevelopment of competitive activities,aimed at strengthening regional advan-tages, along with strengthening standardexport competitiveness (The Europe ofRegions concept requires this).

6.2.1. Monetary policy

i. Follow the policy of neutral curren-cy i.e. to maintain monetary bal-ance as the foundation of price sta-bility and a balanced exchange rateof national currency.

ii. Aime at progressive transfer to thecontrolled fluctuation regimeinstead of the quasi-fixed regime.

iii. Conduct monetary policy with thegreatest possible reliance on openmarket operations and with theleast possible manipulation ofobligatory reserves and credit limitspolicy.

iv. Add elements of sterilization of pri-mary cash created from the foreigncapital inflow.

v. Maximize the control functions ofthe Central Bank.

vi. Develop a securities market.vii. Recapitalize banks and then offer

them for sale (in principle - up to49% of ownership rights).

viii. Protect the financial system fromany kind of influence from statebodies or interest groups.

ix. Set limits on commercial banks forredemption of state bonds for cov-ering a budget deficit.

x. Educate the staff of bank and non-bank finnacial institutions in theoperations of a modern financialmarket.

6.2.2. Fiscal policy

i. Develop the Second and the Thirdpillars of pension insurance (toinfluence development of the finan-cial market).

ii. Introduce a VAT, which will broad-en the tax base.


6. Conclusion342

iii. Introduce two VAT rates: a lower formedicines, children's accessories,public transportation, basic foodproducts (e.g. at 8% and a standard20%).

iv. Provide better instruments for taxcollection, along with improvedworking organization of the taxinstitutions.

v. Redefine fiscal policy from a short-term (1 year) to a medium-termfinancial strategy (3-4 years).

vi. Reform the tax system in two maindirections: broadening the tax baseand lowering marginal tax rates inall activities, sectors and industriesthat directly contribute to economicdevelopment.

vii. Build a development budget i.e. togradually redirect one part of publicexpenditures from consumption toinvestments.

viii. Educate the tax administration staffand its supervision bodies.

6.3. Special policies

6.3.1. Privatization

Privatization is often singled out asthe most important step in the processof transition to market economy. Theshare of private-owned enterprises inthe economy structure, measured bythe profit share in the economy duringa one-year period and measured by theshare in total capital of economy,should rise in order to increase theeconomy's efficieny and effectiveness.

We argue that the privatizationprocess in Serbia has neglected thesmall domestic share holders. InSlovenia domestic capital is stimulatedto participate in privatization in order tohave the least possible number of enter-prises owned by foreigners. Thereexists a certain number of the citizens inSerbia who would be willing to investsmall amounts of money in prosperousdomestic enterprises through invest-

ment funds. The problem is the lack ofinfrastructure and lack of regulationsthat regulate the establishment andfunctioning of investment funds. Thestate must be more engaged in estab-lishing plans and issuing guarantees tocitizens who are willing to invest small-er amounts of capital.

From privatized entreprises oneexpects more efficient business, whichshould have an impact on increase ofefficiency of the entire Serbian econo-my and consequently – on its competi-tiveness on the world market. The col-lapse of private enterprises representsthe loss to their (private) owners. Inorder to secure our economy's compet-itiveness, it is necessary to secure pas-sage of an adequate law that regulatesbankruptcy of enterprises. That way,the "bad tissue" will be removed fromthe economy and liberate assets to bereallocated to development and growth.

However, it is not good for a coun-try if a large number of enterprises col-lapse frequently. That yields manpowerfluctuation, variations in the number ofemployees, as well as variations inincomes realized from taxes and trans-actions and from profit of corporations.There are some enterprises that can sur-vive in the long term, with small finan-cial and organizational assistance.Therefore, measures are needed for therecovery of enterprises that face trou-bles, but whose existence is not jeop-ardized. A great responsibility lies onthose who should evaluate the enter-prises. Saving enterprises that are notworth saving since they can not berecovered in the long term can havevery negative effects on efficiency ofdomestic economy and on its competi-tiveness on the world market.

Foreign capital inflow in Serbiaduring the privatization process is apositive thing. But we have to protectourselves from cases when Serbianenterprises are beeing bought (priva-tized) and then closed down, whichresults in monopolization of the market


6. Conclusion 343

of Serbia on the part of foreign enter-prises entering our market during theprivatization process. The contractsaccording to which foreign investors areobligated to invest and to perform someother activities are not sufficient instru-ments for preventing monopolization ofthe market. This can be done throughpassing adequate Antimonopoly lawsi.e. free competition laws. On the otherhand, one should follow the experienceand regulations of the EU and men-tioned laws should not be an obstacleto enterprises aimed at increasing theircompetitiveness on the world market.

Since Serbia has a big problemwith the trade deficit and balance ofpayments deficit and with capital out-flow based on the payments of foreigncredits, it is recommended that capitalinflow from abroad arrive in the form offoreign direct investments that do notcause imbalance of capital balance, forexample when capital arrives in theform of loans.

Urgent measures, in terms of theprivatization, are:i. Improve the existing privatization

model:a. Evaluate positively offers that

include development effect –both on a privatized enterpriseand on the entire economy.

b. Allow participation of portfolioinvestors, which have to revital-ize a privatized enterprise priorto next sale.

ii. Restructure unsuccessful enterprisesprior to privatization only in excep-tional cases, when this does notrequire large resources and whenthere is a small risk of failure.

iii. Enact the Bankruptcy Law. Trainbankruptcy administrators andestablish social programs and pro-grams for recovery of SMEs.

iv. Resources acquired from sale/priva-tization of enterprises should bedirected at crediting export-devel-opment projects.

6.3.2. Foreign Direct Investment

Today, when there is a lack ofdomestic capital, when the economysuffers from a chronic balance of pay-ments deficit – FDI is considered themost suitable means of capital inflow.These investments are considered agood instrument for increasing theemployment rate, especially in caseswhen foreigners establish new enter-prises (greenfield operation). FDI issuitable for the transfer of knowledge,modern technology, quality and thedevelopment of export-oriented pro-duction, since very often the domesticmarket is too small to support a prof-itable volume of production. A majorityof countries are trying to attract foreigndirect investments by giving variousallowances to foreign investors doingbusiness on their territories. Due tostrong world competition, theseallowances become more and more sig-nificant and sometimes, when starting abusiness, foreign investors are givenmore favorable conditions for doingbusiness than domestic businessmen .

However, while developed coun-tries have almost no limitations con-cerning foreign capital, developingcountries tend to keep some limitationsin order to preserve economic sover-eignty. Developed countries acknowl-edge one to another the status of themost favored nation (in the field ofinvestments as well), which purportsthat there exists no discrimination offoreign investors compared to domesticinvestors. But developing countriesrefuse to accept this principle in theinternational financial relations byrefusing to sign the MultilateralAgreement on Investments – MAI,passed under the auspices of theOECD.

There are some standard terms thatcountries have to fulfill when attractingforeign private capital. These standardsare mainly related to the freedom inbusiness of foreign investors (except in


6. Conclusion344

some fields concerning national safety),freedom of initial investment repatria-tion and profit remittances, freedom ofemployment and discharge and the like.All these measures are important forefficient business of enterprises.

For attracting FDIs, many countriesestablish specialized agencies aimed atpromotion of a country as an ideal des-tination for investments. Those agenciesprovide all necessary information to for-eign investors who want to get infor-mation about the business environmentof a certain country. Serbia already hasone such agency and its work shouldbe made more efficient.

A country’s participation in regionaleconomic integration can be an impor-tant factor for attracting investments.Serbia should conclude Free TradeAgreements with the Western Balkancountries that will be out of the EU after2004 and create possibilities for regionaleconomic integration with these coun-tries. In this way, Serbia would improveits position in terms of foreign directinvestments inflow. Large foreign com-panies usually establish branches in cen-tral countries of a regional economicintegration, aimed at supplying the mar-ket of the entire integration.

Another factor which can beimportant for attracting FDI is the exis-tance of special export zones in whichenterprises with foreign capital havespecial customs and tax allowances.Sherbia has a large number of thesezones and the Government should sup-port their work and create conditionsfor their future growth and develop-ment.Specifically:i. Ensure non-disriminatory treatment

of foreign investors.ii. Simplify the entire legal-administra-

tive procedure related to foreigninvestments - from the preparationfor production to profit repatriation.

iii. Offer to foreign investors qualifiedlegal assistance and other kind ofassistance.

iv. Prepare a transparent system oflegal protection of foreign investors.

v. Form special export zones (with taxand other benefits/allowances)aimed at attracting FDI to stimulatedevelopment of some of the coun-try's regions.

6.3.3. Development of Small andMedium Enterprises

At the beginning of the 21st centu-ry small and medium enterprises aretaking over the dominant position inthe structure of Serbia's economy. Thisprocess is characteristic of the produc-tion sector, the service sector and alsofor the country's foreign trade network.

The emerging structure is the resultof the collapse of large production sys-tems (from the period of socialism), theprivatization process and stimulation ofentrepreneurial activity in a significantpart of the working population.Entrepreneurial businesses engagefewer workers, they are flexible andthey do not require a large cash reserve.

Foreign capital will come from twomain channels: through venture capital– during the initial phases of opening ofthe economy and through investmentsof Transnational Companies (TNC),which are financially powerful sincethey cover the markets of a large num-ber of countries and since they act glob-ally.

This raises the question: how toreconcile on the Serbian market thedominant transnational capital and theprevailing structure of small and medi-um local entreprises? Foreign capitalinflow and the entry of transnationalcompanies can be stimulative, but alsodestructive for the development of acountry's small and medium enterpris-es. The destruction of the market struc-ture of small and medium enterprisescan be the result of monopoly behaviorof TNCs. In order to prevent this sce-nario, it is necessary to support thedevelopment of small and medium


6. Conclusion 345

enterprises with economic policy meas-ures (foremost targeted at enterprisesfrom competitive sectors) through theestablishment of an Agency for Smalland Medium Enterprises Support. Thisagency should:i. Help improve businesses of SMEs

through a system of consulting;ii. Improve cooperation between

SMEs;iii. Facilitate cooperation between

SMEs and the financial sector;iv. Support development of export

competitive SMEs;v. Support development of small and

medium enterprises that fufill con-ditions to become part of the sup-ply chain of incoming transnationalcompanies;

vi. Support modern technology inflowto small and medium enterprises;

vii. Support improved structure ofemployees employed with smalland medium enterprises.

Small and medium enterprises canbe irreplaceable sub-suppliers of largecompanies that locate their productionin a host-country. It is necessary to pro-vide support to the sector structure ofsmall and medium enterprises thatwould be compatible with largetransnational companies. Since transna-tional companies are oriented towardglobal business, small and mediumenterprises - as their suppliers – realizethrough this cooperation:i. Possibility for direct export produc-

tion (through incorporation in finalproduct);

ii. Improvement of production com-petitiveness, since SMEs can besuppliers of large companies onlyprovided they fulfill criteria of thedetermined standards and quality.This increases competitiveness ofsmall and medium enterprises anddomestic economy in general;

iii. Increased engagement of domesticcapacities and additional manpow-er.

Small and medium enterprises donot have the critical mass of high-tech-nology components necessary forincreasing competitiveness. Thereforewe recommend that small and mediumenterprises be encouraged to locate intechnology parks in determined zones,in order to enable greater use of themost important modern resource –research and development that lead totechnological development.

In these clusters – if possible in freeexport zones – small and medium enter-prises would be gather around a certainnumber of transnational companies (anda smaller number of domestic ones)which are protagonists of developmentand organized research-developmentactivity. Research-development laborato-ries and the concentration of scientists intechnology parks reduce waste ofnational research potentials and enablesmall and medium enterprises to keepthe pace with the modern technology(despite their relatively limitedresources).

In those zones small and mediumenterprises would be given special ben-efits and allowances in terms of customsand tax duties. This is especially impor-tant since the World Trade Organizationis not restrictive toward subsidies aimedat development of undeveloped regionsand introduction of modern technologyin companies.

Such development strategy of smalland medium enterprises within technol-ogy parks and special industrial or freeexport-production zones is also presentin the European Union, while Serbia'sneighbour, Hungary, has establishedover 144 zones, in which production isrealized under more favorable terms. InSerbia about 13 free export - productionzones exist that have satisfactory infra-structure and that could be used fordevelopment of small and mediumenterprises.

One such zone, a technology park,was established by a major manufactur-er of pharmaceutical products –


6. Conclusion346

Hemofarm from Vr‰ac, in the Vr‰acindustrial zone. The idea is to locate nearHemofarm, as the developement leader,small and medium enterprises whichwould be supported by Hemofarm,while small and medium enterpriseswould be included in Hemofarm supplychain through a complementary produc-tion program.

Small and medium-size enterprises– SMEs - will take over the key role in

the transformation of Serbia's economicstructure. Their role is especially distinc-tive in the sector of services and capitalunintensive activities. Achieving appro-priate proportion between SMEs andlarge enterprises is of vital interest forthe long-term growth of the Serbianeconomy's competitiveness. Therefore, itis necessary to realize several synchro-nized programs for stimulating SMEs.

Date post:	06-Mar-2016
Category:	Documents
Upload:	jefferson-institute
View:	223 times
Download:	3 times

Competitiveness of the Serbian Economy 2003

Documents