WORLD BANK ECA ECONOMIC UPDATE MAY 2017 Trade in Transition Office of the Chief Economist © 2017 International Bank for Reconstruction and Development / The World Bank 1818 H Street NW, Washington, DC 20433 Telephone: 202-473-1000; Internet: www.worldbank.org Some rights reserved 1 2 3 4 20 19 18 17 This work is a product of the staff of The World Bank with external contributions. The findings, interpretations, and conclusions expressed in this work do not necessarily reflect the views of The World Bank, its Board of Executive Directors, or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. 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ISBN (electronic): 978-1-4648-1113-5 DOI: 10.1596/978-1-4648-1113-5 Cover design: World Bank Contents Acknowledgments. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . v Abbreviations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vii Country Groups. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ix Executive Summary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi PART I: Economic Outlook. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 1 Time to Adjust to the New Normal. . . . . . . . . . . . . . . . . . . . . . . 3 1.1 Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 1.2  Despite political tensions, solid growth is likely . . . . . . . . . . . . . . . . . . . . . . . . 4 1.3  The region has entered a more neutral cyclical phase . . . . . . . . . . . . . . . . . . . . 7 1.4  The new normal requires new policies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 2 Shifting Trade Patterns . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 2.1 Overview. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15 2.2  Integration in global markets enabled the transition to market economies. . . 17 2.3  Is there too little or too much trade?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35 Part II: Selected Country Pages Albania. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37 Armenia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 Azerbaijan. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 Belarus . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43 Bosnia and Herzegovina. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45 Bulgaria. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 Croatia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49 Georgia. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51 Kazakhstan. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53 Kosovo. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55 Kyrgyz Republic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57 Macedonia FYR. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 Moldova. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61 Montenegro. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63 Poland. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65 Romania. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67 Russian Federation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69 Serbia. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71 iii iv  ●   World Bank ECA Economic Update May 2017 Tajikistan. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 73 Turkey. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75 Turkmenistan. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 77 Ukraine. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79 Uzbekistan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 Boxes 1.1 Automotive value chains: The case of Romania’s Dacia . . . . . . . . . . . . . . . . . . . 20 Figures 1.1 Growth in Europe and Central Asia is stabilizing . . . . . . . . . . . . . . . . . . . . . . . . 7 1.2 Inflation in the region is normalizing. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 1.3 Unemployment rates in the European Union have fallen. . . . . . . . . . . . . . . . . . 9 1.4 Labor force participation in most of the region has risen. . . . . . . . . . . . . . . . . . 10 1.5 Contrary to expectations, labor participation rates in two aging societies— Bulgaria and Germany—have increased. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 1.6 Romania’s boom was characterized by current account deficits, which financed the growth of nontradables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 1.7 Spain’s investment rate has fallen to reduce overinvestment. . . . . . . . . . . . . . . 13 2.1 Global trade intensified rapidly between 1990 and 2008. . . . . . . . . . . . . . . . . . 16 2.2 Developing countries have grown more rapidly than high-income countries since 2002, narrowing the income gap between them. . . . . . . . . . . . . . . . . . . . 16 2.3 Tariff reductions continued into the 2000s . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 2.4 Exports from Europe and Central Asia reflect subregions’ comparative advantages . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19 2.5 Central Europe integrated into automotive value chains. . . . . . . . . . . . . . . . . . 20 B2.1.1 The automotive sector was the third-largest recipient of foreign direct investment in Romania between 2003 and 2011 . . . . . . . . . . . . . . . . . . . . . . . . 21 B2.1.2 Romania has moved from exporting parts to exporting vehicles. . . . . . . . . . . . 21 2.6 Transition economies have gradually shifted toward high-skilled-intensive exports. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 2.7 High-skilled manufacturing in Europe and Central Asia has matured. . . . . . . . . 23 2.8 Growth in international trade coincided with faster income growth. . . . . . . . . . 24 2.9 Global trade has slowed relative to GDP . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 2.10 Export growth in Europe and Central Asia remains brisk. . . . . . . . . . . . . . . . . . 27 2.11 The rise of China as an industrial producer hurt Europe and Central Asia less than other regions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28 2.12 In Romania—as elsewhere—workers with secondary education and workers performing routine jobs are more exposed to trade than other workers. . . . . . 29 2.13 Europe and Central Asia could trade more with other regions. . . . . . . . . . . . . . 31 2.14 The share of services in EU exports is rising. . . . . . . . . . . . . . . . . . . . . . . . . . . . 31 Tables E.1 Regional classification. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi 1.1 Growth in Europe and Central Asia is stabilizing . . . . . . . . . . . . . . . . . . . . . . . . 5 Acknowledgments The Europe and Central Asia (ECA) Economic Update is a joint product of ECA’s Office of the Chief Economist, the Macro and Fiscal Management Global Practice, and the Poverty Global Practice, with inputs from the Developments Prospects Group. Part I was prepared by a team in the Chief Economist’s Office led by Hans Timmer and including Mathilde Lebrand, Georgi Panterov, William Shaw, Ekaterina Ushakova, Emmanuel Vazquez, and Hernan Winkler. Chapter 1 benefitted from forecasts (presented in Part II) prepared by economists in the Macro and Fiscal Management Global Practice. Maurizio Bussolo, David Gould, Carl Hanlon, Cyril Muller, Fadia M. Saadah, and Mariam J. Sherman provided valuable comments on Part I. Part II was prepared by teams from the Macro and Fiscal Management Global Practice (led by Andrew Burns, Maria De los Angeles Cuqui Gonzalez Miranda, Lalita M. Moorty, and Gallina Andronova Vincelette) and the Poverty Global Practice (led by Luis-Felipe Lopez-Calva). These teams included the following staff: Sarah Nankya Babirye, Marina Bakanova, Cesar Cancho, Marie-Anne Chambonnier, Alexandru Cojocaru, Marcel Chistruga, Pablo Facundo Cuevas, Barbara Cunha, Maria Eugenia Davalos, Nancy Sabina Davies-Cole, Agim Demukaj, Mariam Dolidze, Donato De Rosa, Bakyt Dubashov, Olga Emelyanova, Mismake D. Galatis, Anastasia Golovach, Gohar Gyulumyan, Kiryl Haiduk, Marco Antonio Hernandez Ore, Sandra Hlivnjak, Stella Ilieva, Maria Gabriela Inchauste Comboni, Saida Ismailakhunova, Charl Jooste, Jonathan George Karver, Faruk Khan, Edith Kikoni, Yeon Soo Kim, Naoko Kojo, Christos Kostopoulos, Aurelien Kruse, Leszek Pawel Kasek, Caterina Ruggeri Laderchi, Sanja Madzarevic-Sujster, Mikhail Matytsin, Kristina Cathrine Mercado, Moritz Meyer, Jose Montes, Metin Nebiler, Minh Cong Nguyen, Trang Van Nguyen, Olasupo Olusi, Catalin Pauna, Ruslan Piontkivsky, Mona Prasad, Dinar Dhamma Prihardini, Alisher Rajabov, Nadir Ramazanov, Paul Andres Corral Rodas, Apurva Sanghi, Ilyas Sarsenov, Sarosh Sattar, William Hutchins Seitz, Lazar Sestovic, Hilda Shijaku, Bojan Shimbov, Maryna Sidarenka, Nistha Sinha, Emily Sinnott, Emilia Skrok, Karlis Smits, David Andrew Stephan, Congyan Tan, Thi Thanh Thanh Bui, Eskender Trushin, Ekaterina Vostroknutova, Rogier Van den Brink, Pinar Yasar, Ayberk Yilmaz, and Bakhrom Ziyaev. Ekaterina Ushakova oversaw the layout and production of the report. Barbara Karni edited and Michael Alwan typeset it. Artem Kolesnikov, John Mackedon, and Inga Paichadze provided communications and outreach support, including the dedicated webpage (http://www.worldbank.org/en/region/eca/publication /europe-and-central-asia-economic-update). v Abbreviations BHAS BiH Agency for Statistics BiH Bosnia and Herzegovina BoA Bank of Albania CAD Current account deficit CBU Central Bank of Uzbekistan CPI Consumer price index CROSTAT Croatian Bureau of Statistics ECA Europe and Central Asia ECAPOV ECAPOV (ECA Poverty) database of standardized household surveys EDP Excessive Deficit Procedure EEU Euroasian Economic Union ESA European System of Accounts EU-SILC European Union Statistics on Income and Living Conditions FDI Foreign direct investment FX Foreign exchange FYR Fiscal year GDP Gross domestic product HRK Croatian Kuna ICOR Incremental capital-output ratio ICT Information and communication technology ILO International Labour Organization IFI International financial institution IMF International Monetary Fund IT Information technology LTE Long-Term Evolution NAFTA North Atlantic Free Trade Agreement NBP National Bank of Poland NBR National Bank of Romania NBS National Bank of Serbia NPL Non- performing loans NSI National Statistical Institute PPG Public and publically guaranteed PPP Purchasing power parity SME Small and medium enterprise SOE State-owned enterprises vii viii  ●   World Bank ECA Economic Update May 2017 SOFAZ Azerbaijan State Oil Fund SSC Social security contribution TFP Total factor productivity TSA Targeted Social Assistance UFRD Uzbekistan Fund for Reconstruction and Development US United States WB World Bank WDI World Development Institute WTO World Trade Organization Country Groups TABLE E.1 Regional classification Western Southern Central Northern Western Europe Europe Europe Europe Balkans Austria (AUT) Greece (GRC) Bulgaria (BGR) Denmark (DNK) Albania (ALB) European Belgium (BEL) Italy (ITA) Croatia (HRV) Finland (FIN) Bosnia and Union France (FRA) Portugal (PRT) Czech Republic (CZE) Sweden (SWE) Herzegovina (BIH) and Kosovo (KSV) Germany (DEU) Spain (ESP) Hungary (HUN) Estonia (EST) Western FYR Macedonia (MKD) Balkans Ireland (IRL) Cyprus (CYP) Poland (POL) Latvia (LVA) Montenegro (MNE) Europe Luxemburg (LUX) Malta (MLT) Romania (ROU) Lithuania (LTU) Serbia (SRB) and The Netherlands (LUX) Slovak Republic (SVK) Central United Kingdom (GBR) Slovenia (SVN) Asia South Central Russian Other Eastern Caucasus Asia Federation (RUS) Turkey (TUR) Europe Eastern Europe Armenia (ARM) Kazakhstan (KAZ) Belarus (BLR) and Azerbaijan (AZE) Kyrgyz Republic (KGZ) Moldova (MDA) Central Georgia (GEO) Tajikistan (TJK) Ukraine (UKR) Asia Turkmenistan (TKM) Uzbekistan (UZB) ix Executive Summary After strong economic headwinds in recent years, economies in Europe and Central Asia (ECA) are returning to a more stable growth path. In the European Union a sustained, al- beit modest, recovery has started to reduce unemployment, pushing inflation into positive territory. In Eastern Europe the stabilization of oil prices at about $50 a barrel has provided some breathing room for governments, which have begun adjusting their policies to the lower prices. Even if the cyclical economic headwinds abate, major challenges remain. Brexit has thrown the European Union into unchartered territory. In the eastern part of the region, the decline in oil prices has left the financial system in many countries in dire straits. In most countries in the region, the adjustment to the “new normal,” in which the conditions of the boom period cannot be replicated, is still incomplete. Pivotal upcoming elections and sus- tained geopolitical tensions further complicate the outlook for the region. Major changes in international specialization patterns also have implications for the region Global competition and technological changes are shifting employment opportuni- ties across occupations and sectors and changing the nature of labor contracts. In this envi- ronment, the call for trade protection has become louder. Trade has contributed to development in ECA. It was critical to transition economies’ success in raising living standards during, and especially after, the 1990s. Integration into global markets for energy, agriculture, and manufactured products enabled a more effi- cient use of resources. Integration into the value chains of “factory Europe” led to techno- logical catching up and the upgrading of industrial structures. The slowdown of China’s exports, which has driven the recent slowdown in global trade, has opened up new op- portunities for ECA. As trade remains a key part of their future success, many countries in ECA will have to navigate three important new transitions. The first is the continued shift of resources from production that is not internationally traded to production that competes in international markets. During the boom period, large oil revenues, large capital inflows, and substantial inflows of labor remittances allowed countries to import substantially more (nonenergy) products than they exported. In the new normal, doing so is no longer possible; countries need to engage in a sustained shift from imports to exports. The second transition is a reorientation toward Asia. ECA currently relies strongly on intraregional trade and is underperforming in Asian markets. Robust future growth re- quires a rebalancing of these trade links. The third transition is the shift from goods to services, where most future growth op- portunities lie. The share of services in global consumption is rising, and services are in- creasingly becoming tradable across borders. These trends are reflected in the rising share of services in exports from Western Europe, but other parts of ECA are falling behind. All three transitions will have consequences for specialization patterns, investment pat- terns, and labor markets. As countries navigate these transitions, they will have to rethink not merely trade relations but the way factor markets are organized. xi PART I Economic Outlook 1 Time to Adjust to the New Normal 1.1 Overview Countries in ECA have gone through turbulent times since the global financial crisis of 2008. In the western part of the region, the European Union and neigh- boring countries were mired in the fallout from the financial crisis, with weak- ened banking sectors, lack of growth, high unemployment, and greatly narrowed fiscal space. The Brexit vote—and voters’ dissatisfaction more generally—have threatened European cohesion, and the refugee crisis has tested Europe’s capac- ity to implement a unified policy responsive. In the Russian Federation and Central Asia, the fall in oil prices resulted in greater income losses than experienced after the global financial crisis, creating challenges well beyond income losses and fiscal pressures. Monetary policy re- gimes became sustainable, prices of real estate and other assets tumbled, several banks became insolvent, and demand for workers in construction and domestic services softened. Calmer waters are probably on the horizon. In the western part of the region, a continued recovery has begun to reduce unemployment, and inflation has moved decisively into positive territory. In the eastern part of the region, govern- ments have begun adjusting policies to the lower level of oil prices, which have stabilized at about $50 a barrel. Exchange rate depreciations have reduced fiscal pressures and made tradable sectors more competitive. Governments have started resolving insolvencies in the banking sectors, although major challenges remain. Fiscal policies are being modified to align with new economic realities. 3 4  ●   World Bank ECA Economic Update May 2017 As the economic cycle moves into a more neutral phase, there is more space to address profound structural changes. New specialization patterns are emerging after the adjustment of commodity prices and the rebalancing in China. New technologies are changing production methods and upending traditional labor market relations. Most economies in ECA will have to facilitate the shift from nontradable production to internationally competitive production of tradable goods and services. As after any extraordinary boom and subsequent crisis, a new growth model is needed. During the boom, secular trends that challenged the existing growth models could be ignored, because incomes were rising. During the crisis and its direct aftermath, policy makers and economic decision makers were occupied with countercyclical responses. Now that the economic headwinds are easing, structural challenges are clearer and need to be addressed. 1.2 Despite political tensions, solid growth is likely Political rifts, social tensions, and geopolitical conflicts have dominated recent news about ECA. But the economic news has been positive (table 1.1). In the Euro- pean Union, recovery is being sustained, with 2017 and 2018 likely the fourth and fifth consecutive years in which growth will average almost 2 percent. As a result, unemployment rates are falling and inflation returning to more normal levels. In Eastern Europe and Central Asia, activity is rebounding after the fall in oil prices at the end of 2014. Stabilization of oil prices at around $50 per barrel—well above the in January 2016 low of $30 per barrel—has supported the rebound. The sustained recovery is most evident in Central Europe, where GDP growth continues to exceed 3 percent a year and the structure of the economy has im- proved. Exports of goods and services are growing more than twice as fast as GDP. The current account deficit, which peaked at close to 8 percent of GDP in 2007, turned into a slight surplus in 2015. Government debt, which rose sharply after the global financial crisis, is stabilizing at about 50 percent of GDP. In 2009 Northern Europe experienced the steepest contraction of all ECA sub- regions. The contraction was especially steep in the Baltic States, which suffered a sudden reversal in capital inflows. The change forced an abrupt and sharp de- cline in these countries’ current accounts, which had deficits of more than 15 percent of GDP in 2007. By 2009 Latvia, Estonia, and Lithuania had surpluses. The contraction was followed by a lackluster recovery, but this subregion is now back on a stable growth path of more than 2 percent a year. Throughout this re- covery, fiscal deficits have remained limited, with factors other than government spending driving the resumption of growth. As in Central Europe, exports are growing twice as rapidly as GDP, at more than 4 percent a year. In the Western Balkans, GDP growth is projected to accelerate to 3.5 percent a year in 2018. Although the rate is significantly below the average annual growth of 5.5 percent during the 2000–08 boom period, it represents the strongest growth since the global financial crisis. Export growth has been an important driver of the recovery in the Western Balkans, where the volume of goods and services Chapter 1: Time to Adjust to the New Normal ●  5 exports increased by 8 percent a year in 2013–16. Although current deficits re- main substantial, averaging 6.5 percent of GDP in 2016, they are much smaller than the more than 19 percent registered in 2008. Exceptionally high unemploy- ment rates remain one of the biggest economic problems facing the Western Bal- kans. Although lower than the 32 percent rate in 2009 and the even higher rates during the boom before the global financial crisis, unemployment still remains very high, averaging 24 percent of the labor force in 2016. Turkey has entered a new phase, after a long period of remarkably strong growth. The rebound following the 2001 crisis exceeded expectations, with growth averaging more than 7 percent a year in 2002–07. Turkey was one of the few countries in the world in which growth was equally strong before and after the crisis, with annual growth averaging 7.4 percent in 2010–15. Growth slowed to 2.9 percent in 2016, as exports declined, the currency weakened, inflation rose, and investment slowed and business confidence declined in the wake of the failed coup. Even with the slight acceleration forecast for 2017 and 2018, growth is projected to remain well below the pace of the last 15 years. Structural weak- nesses will prevent a return to the high growth rates of the past. In the South Caucasus, near-term growth prospects are much weaker than in the western part of the ECA region. After a 2.2 percent contraction in 2016, no growth is expected this year, and growth of just 1.6 percent is projected for 2018. During the boom years of 2000–08, the average annual growth rate was 13.5 per- cent. Even in the period right after the global financial crisis (2009–13), annual TABLE 1.1  Growth in Europe and Central Asia is stabilizing Change in forecast Annual GDP growth (percent) since October 2016 2016 2017 2018 2016 2017 Region/subregion 2014 2015 (estimate) (forecast) (forecast) 2015 (estimate) (forecast) Europe and Central Asia 1.7 1.9 1.8 1.9 1.8 0.5 0.2 0.3 European Union and Western Balkans 1.6 2.2 1.9 1.8 1.6 0.3 0.1 0.4 Western European Union 1.8 2.2 1.8 1.7 1.4 0.5 0.1 0.5 Northern European Union 1.7 2.4 2.3 2.1 2.1 0.1 0.0 0.0 Central European Union 2.9 3.8 3.1 3.2 3.1 0.2 −0.2 0.1 Southern European Union 0.6 1.6 1.8 1.5 1.4 0.0 0.3 0.2 Western Balkans 0.2 2.2 2.8 3.2 3.5 0.0 0.1 0.0 Eastern Europe and Central Asia 2.1 0.1 1.0 2.2 2.5 1.3 0.3 0.0 South Caucasus 2.7 1.7 –2.2 0.0 1.6 0.0 −1.1 −2.2 Central Asia 5.1 2.9 2.8 3.8 4.0 0.0 0.8 0.5 Russian Federation 0.7 –2.8 –0.2 1.3 1.4 0.9 0.4 −0.2 Turkey 5.2 6.1 2.9 3.5 3.9 2.1 −0.3 0.0 Other Eastern Europe –3.8 –7.7 0.8 1.3 2.7 0.0 0.9 0.1 Source: World Bank data. 6  ●   World Bank ECA Economic Update May 2017 growth averaged 3.7 percent. The main cause of the current lack of growth is the fall in oil prices at the end of 2014, which has directly affected Azerbaijan and indirectly affected Armenia and Georgia (through diminished remittances and reduced export opportunities). Regaining competitiveness in international mar- kets is perhaps more essential for further recovery in the South Caucasus than in other subregion of ECA. Average annual growth in Central Asia grew was more than 9 percent during 2000–07. It fell to 3.5 percent during the global financial crisis but recovered to 6.5 percent in 2010–14. After the fall in oil prices in 2014, average annual growth dropped below 3 percent in 2015 and 2016, with the sharpest slowdown in Ka- zakhstan, where output actually contracted. Kazakhstan also suffered a double- digit income decline as a result of the terms of trade losses after the fall in oil prices. Despite the many vulnerabilities the oil price shock created in Central Asia, a modest cyclical growth rebound is expected in the next few years. Of all oil exporters in the region, Russia managed the most agile response to the price decline. It was the first country to float its currency to allow the un- avoidable depreciation, and it implemented fiscal adjustments without much delay. These inevitable macroeconomic adjustments led to a 20 percent real de- preciation, a one-time jump in import prices and consumer prices, a cumulative 35 percent decline in import volumes, a 15 percent decline in consumption, and a 3 percent decline in GDP. The current account surplus persisted, and the fiscal deficit remained limited. The sharp declines in imports and consumption are consistent with the large terms-of-trade loss and the required change in the struc- ture of the economy. Growth in Russia is projected to turn resume in 2017 and 2018, with consumption growth surpassing GDP growth. For the ECA region as a whole, this short-term outlook is more positive than the one presented half a year ago, as illustrated in table 1.1. For most subregions, growth is expected to be more robust in 2017 (the South Caucasus, where the impact of the fall in oil prices on Azerbaijan is more damaging than earlier pro- jected, is a notable exception). Despite the improved outlook, several challenges—many of these which can be grouped under the label “adjustment to the new normal”—require urgent at- tention. For many countries in the western part of the region, the drivers of sus- tainable growth are now different from the drivers during the boom period that ended 10 years ago. For countries in the eastern part of the region, the new nor- mal is characterized by sustained lower oil prices, lower imports, higher exports of nonoil products, fewer workers producing goods and services that are not inter- nationally tradable, and new employment in internationally competitive sectors. Other major challenges are linked to long-term trends in technological change and shifts in the international division of labor, which have potentially far-reach- ing consequences for the way product and labor markets are organized. These changes could be largely ignored during the boom period, when growth was robust even without adjustments, or during the direct aftermath of the crisis, when all hands were on deck to mitigate the deep recession. These underlying trends can no longer be ignored. If the problems originating from these structural shifts are not addressed, political instability, economic anxiety, and social ten- sions will likely remain. Chapter 1: Time to Adjust to the New Normal ●  7 1.3 The region has entered a more neutral cyclical phase After years of economic setbacks, most economies in ECA have now moved into a more neutral cyclical phase. Monthly data on region-wide aggregate industrial production show that the region has been on a steady growth path since 2014 (figure 1.1). Growth remained strong in 2016 despite the weakening of activity in the rest of the world, excluding China. Inflation figures provide another indication that the region is entering a more neutral cyclical phase. In 2016 the median increase in consumer prices in the European Union was 1 percent, up from just 0.2 percent in 2015. Virtually all countries experienced rising inflation (figure 1.2). In many European countries, the GDP deflator was already rising at almost 2 percent a year in 2015, signaling FIGURE 1.1 Growth in Europe and Central Asia 3.0 is stabilizing 2.5 2.0 Annual growth in industrial 1.5 production (percent) 1.0 0.5 0 0.5 1.0 1.5 2.0 December 2012 December 2013 December 2014 December 2015 December 2016 Year ECA Rest of world without China Source: World Bank. Note: Figures show changes in growth with respect to same month the previous year. FIGURE 1.2 Inflation in the region is normalizing a. Eastern Europe and Central Asia b. European Union and Western Balkans 20 5 Inflation between December 2015 Inflation between December 2015 and December 2016 (percent) 15 AZE 4 and December 2016 (percent) NOR BLR 3 10 TUR KAZ ALB EST CZE LVA 2 BEL ISL RUS LTU DEU HUN 5 GBR AUT SRB FIN 1 MNE GEO MDA POL FRA PRT MLT SVN 0 ARM CHE SVK 7 2 3 8 13 18 BGR 0 IRL BIH 3 2 1 ROU 1 2 3 4 5 1 10 2 Inflation between December 2014 Inflation between December 2014 and December 2015 (percent) and December 2015 (percent) Source: World Bank. 8  ●   World Bank ECA Economic Update May 2017 a roughly normal utilization rate of production capacity. The consumer price de- flator had remained low because of terms-of-trade gains, in particular the down- ward effect on consumer prices of cheaper energy imports. Now that oil prices have stabilized, consumer price inflation is converging to the rise in the cost of domestic production, as reflected in the GDP deflator. This return to positive inflation rates across the board implies that the authori- ties will soon begin discussing a tapering of monetary stimulus. The central bank in Sweden has been creative in finding ways to push interest rates into negative territory to avoid deflation. But the GDP deflator in Sweden rose to 2 percent in 2015, and in 2016 consumption prices also started rising, convincing the mone- tary authorities that the economy has reached a more neutral cyclical phase. Inflation in the eastern part of the ECA region was the mirror image of infla- tion in the western part. All countries except Azerbaijan experienced a drop in inflation in 2016. The drop was steep in energy-exporting countries—7.5 percent- age points in Russia and more than 5 percentage points in Kazakhstan—indicat- ing that the jump in prices in 2015 was a one-time relative price adjustment rather than the start of an inflationary spiral. Depreciations led to sharp increases in import prices but not prices of domestically produced goods. This unavoidable adjustment after the fall in oil prices provides the incentive for adjustments in production and consumption patterns. These one-time adjustments in relative prices illustrate the dilemma facing monetary authorities in oil-exporting countries. The fall in oil prices forced them to abandon a system of stable exchange rates to allow the unavoidable real de- preciation. The change in exchange rate regime required a new monetary anchor and a rebuilding of trust in the currency. However, changes had to be made in an environment in which low trust in the local currency had already triggered a partial dollarization of financial sectors. It is therefore understandable that cen- tral banks in oil-exporting countries aimed to shift to inflation targeting and an attempt to stop double-digit inflation in its tracks. If, however, the target is con- sumer price inflation, the data can easily be misinterpreted. The sharp rise in consumer prices largely reflected relative price changes between domestically and foreign produced goods and services rather than inflationary tensions in the domestic economy. In short, in both the eastern and western part of the ECA re- gion, cyclical tensions may have been weaker than consumer price inflation or deflation suggest. Reduced underutilization of capacity has also become visible in unemploy- ment data. In most EU countries, unemployment rates are now back at or even below 2005 levels, when the global economic boom was in full swing (figure 1.3). Unemployment rates in Central Europe and Germany have dropped to remark- ably low levels. In Germany only 4.1 percent of the labor force is considered un- employed, down from 9.1 percent in 2005. In Poland unemployment declined by even more, falling from 18.2 percent to 8.9 percent. Unemployment rates in Bul- garia, Croatia, the Czech Republic, Hungary, Romania, and the Slovak Republic are substantially below their 2005 levels, on average by 2 percentage points. The situation is different in Southern Europe, where the financial crisis hit hard and more profound structural reforms were needed to find new sources of stable growth. Unemployment rates in 2016 were 13.5 percent higher than in 2005 Chapter 1: Time to Adjust to the New Normal ●  9 FIGURE 1.3 Unemployment rates in the European Union have fallen a. Western Europe b. Northern Europe 16 18 Unemployment rate (percent) Unemployment rate (percent) 14 16 12 14 10 12 10 8 8 6 6 4 4 2 2 0 0 Germany United The Ireland Belgium Austria France Denmark Estonia Sweden Lithuania Latvia Finland Kingdom Netherlands c. Southern Europe d. Central Europe 30 25 Unemployment rate (percent) Unemployment rate (percent) 25 20 20 15 15 10 10 5 5 0 0 Portugal Italy Cyprus Spain Greece Malta Romania Hungary Czech Bulgaria Poland Slovak Slovenia Croatia Republic Republic Range of unemployment 2005 levels between 2005 and 2016 2016 Source: World Bank. in Greece, 10.5 percent higher in Spain, 4.0 percent higher in Italy, and 3.5 percent higher in Portugal. But even in these countries unemployment rates are now on average 4 percentage points lower than their recent peaks, signaling that slow recovery is taking hold in Southern Europe. The rise in participation rates in the European Union is even more remarkable than the decline in unemployment rates. In Northern, Western, and Central Eu- rope, participation rates are now higher than they were in 2005 (figure 1.4). Only in Southern Europe is the share of the population participating in the labor mar- ket smaller than in 2005. The broad-based rise of participation rates in Europe is surprising given pop- ulation aging and the fact that participation rates are lower among older people than young people. If participation rates per age cohort remain constant over time, the participation rate should decline as a country’s population ages. But the data show sharp increases in the overall participation rates of two of region’s most rapidly aging countries, Bulgaria and Germany, over the past 15 years (figure 1.5). The divergence between the actual and extrapolated participation rates sug- gests that behavior within cohorts is changing. More people in older age cohorts are now willing to remain active in the labor market—because they expect to live longer and feel healthier, because there are more opportunities for them in labor 10  ●   World Bank ECA Economic Update May 2017 FIGURE 1.4 Labor force participation in most of 80 Labor force participation rate (percent) the region has risen 70 60 50 40 30 20 10 0 Nothern Europe Western Europe Southern Europe Central Europe 2005 2015 Source: World Bank. FIGURE 1.5 Contrary to expectations, labor participation rates in two aging societies— Bulgaria and Germany—have increased a. Bulgaria b. Germany 55 62 Labor force participation Labor force participation 54 60 53 rate (percent) rate (percent) 52 58 51 56 50 54 49 52 48 47 50 2002 2004 2006 2008 2010 2012 2014 2016 2002 2004 2006 2008 2010 2012 2014 2016 Year Year Extrapolated Actual Extrapolated Actual Source: World Bank. Note: Spreads in Ireland, Italy, Portugal, and Spain are measured on the left-hand axis; Greek spreads are measured on the right-hand axis. markets with fewer younger competitors, or because less generous pension or other policies make it more difficult to retire. These developments also make clear that technical extrapolations of behavior can be misleading and are not good at forecasting the need for fiscal adaptation to aging. Behavioral adjust- ments make demographic trends much less threatening than is often assumed. Policies should thus focus on facilitating behavioral adjustments rather than on achieving fiscal sustainability based on technical extrapolations. Growing employment, lower unemployment rates, and higher participation rates are signs of cyclical improvements; they are not indications that structural problems can be ignored. Most of the additional employment since the global financial crisis came was part-time or temporary employment. The “gig economy” and platform economics, which provide a digital environment for individuals to trade with one another, are rapidly gaining market share, reducing job security and making social protection systems increasingly obsolete. Chapter 1: Time to Adjust to the New Normal ●  11 1.4 The new normal requires new policies Deep global economic crises change the world economy and economic policies for many decades. The role of the government was never the same after the Great Depression: Governments now spend one third or more of national income—a multiple of the single-digit percentages of the period before the Depression. The larger role of the government reduced the volatility of market economies through built-in automatic stabilizers. Large government sectors became the new normal for many decades—arguably until today. Economic policies drastically changed after the oil crises of the 1970s. Al- though the share of government in total spending remained substantial, the role of market mechanisms became much more prominent. Europe liberalized capital flows and privatized utility and other companies. Developing countries inte- grated into global markets for goods and services, and the centrally planned economies of Europe ultimately transitioned to market economies. This wave of liberalization and globalization followed a period of inward- looking development after World War II. Western Europe was rebuilt with little international reserves available to engage in intensive cross-border economic re- lationships. Central Europe was absorbed into the system of centrally planned economies. Governments in several Asian countries strengthened their control over production and distribution. In Latin America import-substitution was the leading paradigm for quickly developing national industries. These inward-looking policies were running into their own limitations at the time of the oil crises. The new wave of globalization that started in earnest during the 1990s addressed those problems and resulted in a sharp acceleration of growth in developing countries. One can argue that relying more on the market has been the new normal since the late 1980s or early 1990s. It is likely that the global financial crisis of 2008 will also change the direction of policies to address emerging problems and the limitations of existing growth models. It is too early to define these new policies in detail, but they will probably address inequality of opportunity, which has been rising since the beginning of this century. The drivers of rising inequality of opportunity include new tech- nologies that change the way production, work, and merchandizing are orga- nized; the globalization of production, labor, and capital; and the accumulation of wealth, which when transferred to new generations gives some young people advantages over others. Technological progress and integration of economies across is welcome, be- cause they yield huge overall benefits and create new opportunities. However, new measures are needed to ensure that everyone has a fair chance to seize the new opportunities and share in these benefits. The current volatile political landscape, including increasing populism in the western part of the ECA region and rising social tensions in the eastern part, could well be harbingers of dramatic policy changes. A positive outcome of such changes would be a more level playing field and reduction of the concentration of economic power. Rising inequality of opportunity is an example of underlying trends that are often ignored during a boom period, because all incomes are rising. Such trends 12  ●   World Bank ECA Economic Update May 2017 are often also largely ignored during the ensuing recessions, when policy makers focus on firefighting. Now that the cyclical situation is normalizing, there is a strong case for addressing the structural problems that have emerged. Leveling the playing field might well move to center stage. Rethinking economic and so- cial rules so that more people can participate in the economies of the ECA region could become a key element of the new normal. Other elements of the new normal are changes in the structure of economies. During the boom period, many countries enjoyed large capital inflows, substan- tial inflows of remittance, rising oil revenues, or a combination of the three. As a result, imports grew faster than (nonoil) exports, and these economies started growing rapidly through investments in the nontradable sectors, especially real estate. In the new normal, capital inflows are more moderate, oil prices have stabilized at lower levels, and the purchasing power of remittances has declined. As a result, large current account deficits, which had become prevalent in Central Europe, the Baltics, and the Western Balkans, were no longer sustainable. Romania is one of many countries that experienced a sudden tightening of its current account balance after the global financial crisis (figure 1.6). After the fall in oil prices, in 2014, the large (nonoil) current account deficits in the eastern part of the region were no longer sustainable. As current account deficits tighten or even reverse, growth can no longer come from increased production of nontradables. It must come from production of goods and services that are tradable in internationally competitive markets. This structural change in the new normal has far-reaching consequences. It means that financial sectors, education systems, and competition policies that supported old firms in existing sectors will have to adjust so that they can ensure that new firms are able to compete internationally. In the new normal, countries can also no longer rely on high investment rates. During the boom period, investment rates rose to grow the capital stock fast enough to keep up with rapidly expanding GDP. Once GDP growth fell, as the boom reached its limits, capital accumulation was too rapid. The result was rising capital-output ratios, lower returns to capital, and the underutilization of capital. FIGURE 1.6 Romania’s 0 Current account balance (percent of GDP) boom was characterized by current account deficits, 2 which financed the growth 4 of nontradables 6 8 10 12 14 16 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Year Source: World Bank. Chapter 1: Time to Adjust to the New Normal ●  13 Where a boom is exceptionally strong and the growth slowdown sharp, it takes many years of low investment to adjust the capital stock to GDP. Spain is a clear example of this phenomenon (figure 1.7). Despite the lower investment rate after the crisis, the capital-output ratio continued to increase. Only in recent years did the ratio decline; it still remains well above levels during the boom period. Even once the capital-output ratio falls back to its original level, the equilibrium investment rate will still be lower than during the boom, because high, unsustainable GDP growth rates are unlikely to return. The equilibrium growth of the capital stock—and the equilibrium investment rate—will be lower than during the boom. The high level of the current capital stock in several countries is the most plausible explanation of why low interest rates—and loose monetary policy more generally—have not significantly boosted investment rates. Investment rates will not recover fully if GDP growth does not return to the precrisis level. Rather than trying to boost overall investment, policy makers should focus on adjusting pro- duction patterns to the conditions of the new normal. Technological changes in the rest of the world, demographic changes, growth differentials, the maturation of global value chains, and changes in commodity prices have led to changes in specialization patterns and patterns of trade. These changes could be ignored during the boom period, when old specialization pat- terns generated sufficient income growth, and during the recession, when com- panies focused on short-term survival and governments focused on countercycli- cal measures (which actually reinforced existing production patterns, by supporting existing spending patterns). As many economies in ECA enter a more neutral phase, adjustment to changed global specialization patterns can no lon- ger be postponed. Adjustment to the new normal requires structural reforms rather than coun- tercyclical responses. These adjustments will not emerge automatically. Mone- tary policy that worked well in the case of large capital inflows, large oil reve- nues, or substantial remittances will have to adjust when these inflows remain FIGURE 1.7 Spain’s investment rate has fallen 4.0 0.35 to reduce overinvestment 3.5 0.30 3.0 0.25 Capital-output ratio Investment rate 2.5 0.20 2.0 0.15 1.5 0.10 1.0 0.5 0.05 0 0.00 2000 2002 2004 2006 2008 2010 2012 2014 2016 Year Capital-output ratio Investment rate Source: World Bank. 14  ●   World Bank ECA Economic Update May 2017 permanently at lower levels. Financial institutions that served mature companies in existing sectors well will have to adjust to serve start-ups in new sectors. Social protection systems that were designed when long-term, steady employment was the norm will need rethinking as the gig economy and platform economics gain momentum. Even infrastructure and trade policies that supported old trade rela- tions need modification, as the international division of labor is changing. Ad- justment to the new normal thus comprises a broad agenda—one that should no longer be delayed. 2 Shifting Trade Patterns 2.1 Overview During the first half of the 1990s the value of global trade in goods and services averaged a little less than 19 percent of global GDP. By 2008, at the end of the global economic boom, that percentage had risen to almost 31 percent (figure 2.1). In slightly more than a decade the global economy had radically trans- formed itself. Centrally planned economies had transitioned into market econo- mies, with several of them integrating into the European common market; 29 transition economies and developing countries had joined the World Trade Or- ganization (WTO); high import tariffs and import substitution had largely be- come phenomena of the past; China had developed into the world’s manufactur- ing powerhouse, quadrupling its share in global industrial production; and global value chains had revolutionized the way companies cooperate across bor- ders (Taglioni and Winkler 2016). The rapid integration of developing and transition economies in global mar- kets came with a sharp acceleration of their per capita GDP growth, closing part of the income gap with high-income countries (figure 2.2). The wave of globaliza- tion culminated in the global boom between 2003 and 2007. Globalization had become an unrelenting force, driving innovation and spreading technologies across borders. Integration into global markets for goods and services played an instrumental role in the transition of many countries in ECA to market economies. The open- ing up to international trade resulted in a convergence of domestic relative prices 15 16  ●   World Bank ECA Economic Update May 2017 FIGURE 2.1 Global trade 35 intensified rapidly between 1990 and 2008 30 Global trade in goods and service as percent of global GDP 25 20 15 10 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 Year Source: World Bank. FIGURE 2.2 Developing 7 countries have grown more rapidly than high-income 6 countries since 2002, previous three years (percent) 5 Average annual growth in narrowing the income gap between them 4 3 2 1 0 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 1 Year Low- and middle-income countries High-income countries Source: World Bank. to levels consistent with global demand and supply, which triggered a more ef- ficient use of resources. Integration into European value chains induced crucial technological catch-up. Specialization patterns in transition economies started to reflect their comparative advantages, and comparative advantages started shift- ing, as a result of technology transfers. As a result, industries in Central Europe moved up the value chain, as their production became more skill intensive. The surge in global trade and production also created imbalances. Domestic credit booms and rapidly expanding cross-border capital flows, both fueled by financial innovation, led to spiraling asset prices and unsustainable private sec- tor debts in numerous countries, ultimately leading to the global financial crisis. Several countries in the region ended up with outsized current account deficits, overinvestment in real estate, a production structure tilted toward nontradables, and excessive dependence on foreign currency loans. Chapter 2: Shifting Trade Patterns ●  17 Global trade volumes slowed down dramatically after the financial crisis and are no longer growing twice as fast as global production. In fact, it is no longer clear that globalization remains the dominant and persistent force driving growth. Increasingly, negative side-effects of trade are emphasized—especially on the job security of the middle class. Although there is little evidence of a rise in protectionism, support for shielding domestic markets from international competition is growing. Trade still has many more upsides than downsides in ECA. Unlike the trade slowdown at the global level, ECA’s trade volumes are still growing twice as fast as GDP. And trade remains a crucial element of strategies to find new sources of growth. As emphasized in chapter 1 of this report, reduced capital inflows, smaller oil revenues, and diminished remittances are forcing countries to increase produc- tion in internationally competitive sectors. Once again, former transition econo- mies are restructuring their production patterns through international trade. This shift toward increased competitiveness in international markets is not the only transition countries in ECA are navigating. A second transition is the shift from intraregional to global trade, in order to benefit more from dynamics in Asia and the advantages global brands offer. A third ongoing transition is the shift from international trade in goods to international trade in services. Services are increasing as a share of global consumption, and services are progressively be- coming more internationally tradable. Supporting opportunities for digital de- velopment is essential to benefit from this third transition. 2.2 Integration in global markets enabled the transition to market economies Until the fall of the Berlin Wall, in November 1989, trade between Central Euro- pean countries and the Soviet Union and among the republics of the Soviet Union was largely centrally managed. It did not necessarily reflect comparative advan- tages or encourage an optimal use of resources. Trade with market economies was limited, and relative prices within the centrally planned economies often deviated significantly from global prices. When the transition economies opened up to world markets, these old trade relations and the associated specialization patterns broke down (Broadman 2005). The immediate impact was a collapse of overall trade and production. From the mid-1990s, however, new trade relations and production patterns emerged. Meanwhile, in 1993 the European Union completed the establishment of a common market, with free movement of goods, services, people, and money. These two developments—the opening up of the transition economies and the integration of the European Union—transformed international trade in the ECA region, with trade volumes of the transition economies tripling in a decade, while trade volumes of the European Union doubled. The deepening of trade contin- ued during the 2000s, as many transition economies joined the WTO and several joined the European Union. Tariffs were reduced to the lowest levels in the world (figure 2.3). 18  ●   World Bank ECA Economic Update May 2017 FIGURE 2.3 Tari reductions a. Tari s in Europe and Central Asia, by subregion continued into the 2000s 14 12 10 Averager tari s (percent) 8 6 4 2 0 Western Russia South ECA Central Eastern Central Turkey Balkans Caucasus Europe Europe Asia 2001 Latest b. Tari s in selected countries, 2015 4.0 3.5 Averager tari s (percent) 3.0 2.5 2.0 1.5 1.0 0.5 0.0 East Asia Middle East World Europe and EU25 and The Pacific and North Africa Central Asia (excluding EU25) Source: World Bank. The first consequence of the reintegration of transition economies into global markets was that relative prices became consistent with global demand and sup- ply. The change ensured a more efficient use of resources, in which specialization patterns and trade patterns clearly reflected comparative advantages. Central Europe specialized in high-skilled manufacturing, while Central Asia specialized in natural resources (figure 2.4). Central Asia’s manufactured exports are more low-skill intensive, consistent with education differentials between Central Eu- rope and Central Asia. With these two distinct specialization patterns, ECA countries were drawn toward two nodes of economic activity. Countries in the Baltics, Central Europe, and the Western Balkans intensified their participation in Western Europe, as they received FDI and became part of cross-border value chains or their workers migrated west. Countries in Central Asia, and to some extent the South Cauca- sus, benefited from rising Russian oil revenues, which provided export opportu- nities as well as employment opportunities in Russia. Perhaps even more important than the new trade patterns were the domestic efficiency gains that came with the transition. The oil-producing countries are an example of this more efficient use of resources. Domestic energy prices in- creased as they converged toward the higher prices in global markets, causing domestic energy to be used more efficiently. In Russia, for example, per capita Chapter 2: Shifting Trade Patterns ●  19 FIGURE 2.4 Exports from Europe and Central Asia a. Composition of exports including natural resources reflect subregions’ Central Europe Central Asia comparative advantages 1% 3% 1% 3% 6% 12% 17% 13% 73% 71% Agriculture Food products High-skill manufacturing Low-skill manufacturing Natural resources b. Composition of exports excluding natural resources Central Europe Central Asia 3% 4% 6% 11% 17% 45% 74% 40% Agriculture Food products High-skill manufacturing Low-skill manufacturing Source: World Bank. Note: Figures are for most recent years available. energy consumption was 30 percent lower at the end of the 1990s than at the beginning of that decade. The reduction in domestic demand enabled more oil to be exported, a change that had a profound impact on global energy markets. Despite robust global economic growth, reduced energy demand in the oil-ex- porting transition economies created a glut in global oil markets. Oil prices de- clined until they hit the nadir of just $10 a barrel at the end of the 1990s. Once the glut was absorbed, oil prices started rising, benefitting the oil-ex- porting countries in the region. With a long delay, global oil supply adjusted to high oil prices, which finally pushed oil prices down again, forcing production patterns in Russia, Kazakhstan, Azerbaijan, and surrounding countries to adjust. This experience illustrates the strong interaction between international mar- kets and domestic production patterns. Indeed, open trade relations are not merely opportunities to earn export revenues or consume imported goods and services. They are also a conduit for aligning domestic production and consump- tion patterns with global markets forces. The key role played by trade in the transition to market economies was not an accident. Open trade relations directly affected the functioning of domestic product and factor markets. 20  ●   World Bank ECA Economic Update May 2017 FIGURE 2.5 Central Europe integrated into automotive 90 value chains 80 chains (billions of dollars) 70 Value of global value 60 50 40 30 20 10 0 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 Year Final Apparel and Footwear Final Electronics Final Textiles Final Vehicles (Passenger and Commercial) Intermediate Apparel and Footwear Intermediate Electronics Intermediate Vehicles Source: World Bank. Integration into global markets had a particularly important impact in Central Europe, where it enabled domestic manufacturing to become part of “Factory Europe,” especially the region-wide value chains clustered around the German automotive industry. The surge in exports of intermediate and final vehicles was a broad-based phenomenon in Central Europe (figure 2.5). As Central European companies became part of the cross-border value chains, Factory Europe become a powerful economic force in the global economy, benefitting not only new acces- sion countries, but also older members of the European Union. The impact on domestic markets did not come simply from opportunities to export existing production. Associated FDI inflows provided access to more ad- vanced technologies, which in a relatively short period enabled domestic indus- tries to move up the value chain (box 2.1). BOX 2.1 Automotive value chains: The case of Romania’s Dacia Automotive exports in Romania surged in anticipa- can, car manufacturers relocated entire stages of tion of and following its accession to the European their production process to Romania. Union. The surge was directly related to FDI flows, The automotive sector was the third-largest as accession significantly improved the country’s recipient of FDI flows into Romania between 2003 attractiveness to foreign capital. An important and 2011, with combined flows of almost $11 billion. share of these FDI flows went to the automotive Only construction and real estate and noncarbon sector. European, and to some extent even Ameri- energy materials received more FDI (figure B2.1.1). (Continued next page) Chapter 2: Shifting Trade Patterns ●  21 BOX 2.1 (continued) FIGURE B2.1.1 The automotive sector was the third-largest recipient of foreign direct investment in Romania between 2003 and 2011 Top five FDI Sectors Main sources of FDI to in Romania Romania's automotive sector 10% 19% 11% 41% 13% 12% 55% 26% 13% Construction and Real Estate Non-Carbon Energy Materials Automotive France Other Coal, Oil and Natural Gas Germany United States Food, Tobacco, and Related Stores Source: fDi Markets (n.d.) French manufacturing firms were the largest managerial and corporate governance expertise. source of FDI in Romania’s automotive sector. In Following the initial growth of Romanian exports 1999 Renault acquired Romania’s domestic car of intermediate vehicles and parts, exports of final manufacturer Dacia, leveraging existing techno - vehicles began to rise rapidly, helping Romania logical links between the two companies that went capture a larger share of the value added (figure back decades. B2.1.2). Initially, the bulk of automotive FDI was concen- Dacia became Europe’s fastest-growing brand trated in the production of parts and components, at a time when major European brands experi- such as Daimler’s gearbox production and Ford’s enced declines in revenues. Its export growth engine factory in Craiova. However, FDI inflows was so impressive that in the first half of 2014, generated multiple knowledge spillovers, which the 4.7 percent rise in total sales of Renault were supported the transition to more upstream stages due entirely to Dacia models. Dacia accounted for of manufacturing. These spillovers included the about 24 percent of Renault’s Western European retraining of the workforce as well as transfers of sales in 2013, according to the Financial Times. FIGURE B2.1.2 Romania has 10 moved from exporting 9 Exports (billions of dollars) 8 parts to exporting vehicles 7 6 5 4 3 2 1 0 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 Year Intermediate Vehicles Final Vehicles Source: UNCTAD (n.d.) 22  ●   World Bank ECA Economic Update May 2017 Many transition economies—including not only Central European economies like Poland but also oil exporters like Russia—have shifted from low-skill- to high-skill-intensive manufactured products (figure 2.6). Trade openness has led to specialization patterns that are consistent with comparative advantages. These patterns are not static: as companies engage in global competition and participate in global value chains, workers gain access to new technologies, bringing high- skill intensive production within reach. In the mid-1990s almost all transition economies underperformed in high-skill-intensive manufacturing exports; two decades later, they have an export pattern that is consistent with their fundamen- tals according to global empirical models (figure 2.7). Since the early 1990s, trade in Europe has surged and brought domestic prices in line with prices in global markets. It has encouraged a more efficient use of resources, facilitated the upgrading of production structures, and provided ac- cess to a broader consumption package. The opening up to trade has transformed economies. It is difficult to calculate the exact contribution of trade openness to income growth. Part of the difficulty is that production and trade influence each other in complicated and simultaneous ways, making it difficult to determine the direc- tion of causality. In addition, third factors may affect both income and trade. FDI flows, investments in transportation infrastructure, improved competition poli- FIGURE 2.6 Transition a. Poland economies have 80 gradually shifted toward 70 Percent of total exports high-skilled-intensive exports 60 50 40 30 20 10 0 Agriculture Natural Food Low-skilled High-skilled resources products manufacturing manufacturing Sector 60 b. Russian Federation Percent of total exports 50 40 30 20 10 0 Agriculture Natural Food High-skilled Low-skilled resources products manufacturing manufacturing Sector Transition Boom Postcrisis Source: World Bank. Chapter 2: Shifting Trade Patterns ●  23 FIGURE 2.7 High-skilled manufacturing in Europe 28 a. 2016 and Central Asia has matured High-skilled manufacturing as percent DEU 26 of total manufacturing (actual) FRA NLD ESP IRL AUT 24 DNK CZE NOR POL PRT RUS TUR SVN SVK 22 BGR GRC HRVUKR LTU 20 BLR CYP KAZ MKD 18 ALB GEO MDA 16 KGZ ARM 14 14 16 18 20 22 24 26 28 High-skilled manufacturing as percent of total manufacturing (predicted) b. 2014 28 DEU High-skilled manufacturing as percent FRA BEL 26 of total manufacturing (actual) ESP CZE RUS SVK HUN DNK 24 NOR GRCSVN BLR BGR UKR LUX KAZ 22 BIH MKD CYP AZE 20 GEO ALB MDA ARM 18 KGZ 16 14 14 16 18 20 22 24 26 28 High-skilled manufacturing as percent of total manufacturing (predicted) Source: World Bank. cies, the introduction of new technologies, prudent macroeconomic policies, the elimination of dual exchange rates, and the deepening of financial sectors can all raise both trade and income. Whatever the direction of causation, rapid growth in income tends to coincide with rapid growth of trade. One way to illustrate this phenomenon is by correlating the growth of trade volumes with the unexplained residuals from standard equations explaining in- come growth (figure 2.8). This correlation suggests that transition economies in Central Europe may have benefitted more from a trade-productivity spiral than did countries in Eastern Europe and Central Asia. The transition to market economies and the deepening of the common market in the European Union since the early 1990s occurred against the backdrop of a worldwide wave of globalization. The global trends of tariff reductions, FDI flows, technology transfers, and behind-the-border measures were more pro- nounced in ECA. In the early 1990s, the brisk changes in several transition econo- mies created hardship in the form of deep recessions; changed rendered large parts of production capacity and employment obsolete. The subsequent conse- quences of the transition more than compensated for these losses, however. 24  ●   World Bank ECA Economic Update May 2017 FIGURE 2.8 Growth in international trade 15 Annual trade growth 1990–2016 (percent) coincided with faster income growth 10 HUN CZE ROU SRB POL ALB SVK TUR MDA SVN 5 HRV TJK BGR RUS KGZ 0 KAZ UKR ARM 5 5 4 3 2 1 0 1 2 Annual income growth residual 1990–2016 (percent) Source: World Bank. In the wake of the global financial crisis of almost a decade ago, sectoral adjust- ments have taken center stage once again in the western part of ECA. In the eastern part of the region, adjustments are occurring in the wake of the fall in oil prices in 2014. The financial crisis and the fall in oil prices have led to the dissolving of finan- cial institutions and the downsizing of construction sectors. Significant changes in relative prices require the creation of new jobs in new sectors. New technologies are changing the way people work, products are produced, and merchandise is sold. Governments and companies have to navigate these adjustments. Doing this are particularly challenging because global comparative advantages have changed and global trade slowed sharply in recent years. In this period of adjust- ment and uncertainty, it is worth exploring whether trade is still part of the solu- tion or has become part of the problem. 2.3 Is there too little or too much trade? For two decades, from the mid-1980s until the mid-2000s, globalization of pro- duction through rapid expansion of international trade was incontestably the dominant economic trend across developing and high-income economies. The reintegration of China in global markets, the deepening of the common market in the European Union, the signing of the North Atlantic Free Trade Agreement (NAFTA), the fall of the Berlin Wall, the liberalization of capital account, the boom- ing of FDI, and the expansion of the use of global value chains made international trade grow much faster than global production and income. Innovation and trans- fers of technologies became global phenomena, and competitive pressures in global markets forced discipline in macroeconomic policies and microeconomic regulations in domestic economies. Trade volumes grew twice as rapidly as pro- duction volumes. Globalization coincided with fast global growth and the catching up of emerging economies to the higher productivity levels in the high-income countries. Opening up to trade had become a leading developing strategy. Chapter 2: Shifting Trade Patterns ●  25 The slowdown in trade growth. Since the global financial crisis, global trade growth has slowed considerably. In recent years, global trade volumes have not grown faster than global production volumes, raising the question of whether trade remains a viable development strategy. Simultaneously, concerns are grow- ing that there has been too much trade, that in many countries trade has replaced middle-class jobs and has weakened job security. Has globalization come to a standstill? If so, what are the implications for the ECA region? The volume of global merchandise trade grew 1.3 percent in 2016, a full per- centage point less than the 2.3 percent growth in the volume of global GDP (fig- ure 2.9, panel a). This slow growth of global trade seems to have become the new norm. Between 2010 and 2016, global merchandise trade grew at an average rate of 1.9 percent a year while global GDP expanded by 2.6 percent annually. This pattern is the inverse of what had been the norm for a long time. At least since the mid-1980s, on average global trade outpaced global GDP growth, culminating in the 2003–07 boom, when trade volumes grew by about 8 percent a year, twice as fast as GDP. Cyclical swings in trade have also been much more pronounced than cyclical fluctuations in GDP. In 2009, for example, global trade contracted 15 percent be- fore largely recovering in 2010. The main reason for the strong cyclical behavior of trade is that cyclical components of GDP, especially investment and durable FIGURE 2.9 Global trade has slowed relative to GDP a. Global GDP and merchandise trade, 2001–16 b. Global GDP and industrial production, 2001–16 20 20 15 15 10 10 5 5 Percent Percent 0 0 2001 2003 2005 2007 2009 2011 2013 2015 2001 2003 2005 2007 2009 2011 2013 2015 5 –5 –10 –10 –15 Year –15 Year Global GDP Global trade in goods Global GDP Industrial production c. Global trade in goods and services and d. Global trade in goods and services and global trade in goods, 2001–16 industrial production, 2001–16 20 20 15 15 10 10 5 5 Percent Percent 0 0 2001 2003 2005 2007 2009 2011 2013 2015 2001 2003 2005 2007 2009 2011 2013 2015 –5 –5 –10 –10 –15 Year –15 Year Global trade in Global trade in goods Global trade in Industrial production goods and services goods and services Source: Netherlands Bureau for Economic Policy Analysis 2017. 26  ●   World Bank ECA Economic Update May 2017 consumption, have relatively large import content. The least cyclical components of GDP tend to be less tradable in international markets. Industrial production (panel b of figure 2.9) normally follows GDP closely, but like trade, it is also closely linked to the more cyclical components. One therefore expects a closer link between merchandise trade and industrial production than between trade and GDP. One reason for the changing relationship between GDP and merchandise trade is that services are becoming a larger share of GDP. The increase reflects both the rise in income and the increasing tradability of services like health and education. One could therefore expect trade in in goods and services to expand more rapidly than trade in good, as it has in recent years (figure 2.9, panel c). Panel d of figure 2.9 compares growth in global industrial production and growth in global goods and services trade. The two variables are much more closely correlated than GDP and trade in goods (panel a of figure 2.9). Even with this closer correlation, however, a structural break is evident. The conclusion is that global trade—not only merchandise trade relative to GDP but also trade and services relative to industrial production, which better captures the cyclical char- acter of tradable production—is slowing down. Explanations of the structural slowdown in trade focus on three drivers that boosted the earlier globalization of production (Boz, Bussière, and Marsilli 2014; Freund 2016; Word Bank 2015a). First, the sharp decline in tariffs during the 1990s and early 2000s—as transition economies opened up, developing countries joined the WTO, and high-income countries engaged in deeper integration—is thought to have temporarily boosted trade growth. Once the larger trade shares, consistent with lower tariffs, were reached, trade remained at elevated levels but did not continue to grow at the same pace. There is debate about whether protec- tionism has increased in recent years. Evenett and Fritz (2015) find some evidence of rising protectionism, which Hoekman (2015) and Kee et al (2013) downplay. Whatever the trend in protectionism has been, trade liberalization is no longer the dominant trend, if only because tariffs have already reached very low levels. Second, the global value chains that were created in the 1990s, have matured (Ferrantino, Michael and Taglioni 2014). Their growth came with a sharp increase in cross-border trade. Trade flows remain at higher levels but are no longer in- creasing at the same pace. Last, and empirically not least, is the rise of China (Hong, Lee, Liao, and Sen- eviratne 2015). China’s share in world merchandise exports (at current prices) was 2 percent in 1990, 4 percent in 2000, 12 percent in 2010, and 15 percent in 2015. Its rapid gain in market share during the 1990s and 2000s was a major factor in the acceleration of global trade. Booming Chinese exports did not merely replace exports from other countries, they also created new cross-border trade. As the country opened up and its companies became more productive, China became the manufacturing powerhouse of the world. Its share of global industrial pro- duction rose from only a few percent during the 1990s to 25 percent in 2016. This concentration of industrial production replaced production in other countries that had been local, resulting in large increases in global trade. It is now much more difficult for China to increase its market share. On the supply side, labor is becoming scarcer and thus more expensive. On the demand Chapter 2: Shifting Trade Patterns ●  27 side, saturation set in, and it is arithmetically impossible to continue to increase market shares at the same pace. The maturation of China’s market shares in global consumption is an important driver of the slowdown in global trade. Should trade still be a central element of an economic growth strategy? At least from the perspective of ECA, the answer is an unqualified yes. European trade is still growing relatively rapidly. In contrast to the rest of the world, where trade dropped sharply relative to GDP growth in recent years, export growth in ECA is much brisker than growth of GDP for several reasons (figure 2.10). First, exports of services from Northern and Western Europe increased. Second, Fac- tory Europe can still compete with Factory Asia. The massive increase in China’s share in global industrial production came mostly at the cost of regions other than ECA, whose market share declined only slightly (figure 2.11). Exports from the European Union continue to grow faster than GDP. They lag GDP in Eastern Europe and Central Asia, but they have done so since 2000, largely because of Dutch disease, cause by high and rising oil prices. This wors- ened export competitiveness. Between 2000 and 2014, export volumes in the east- ern part of the ECA region grew at the same rate as GDP, while import volumes grew more than twice as fast as GDP. This pattern reflected the rapidly rising FIGURE 2.10 Export growth in Europe and Central Asia a. Rest of the world 12 remains brisk growth of volume of trade (percent) 10 Three-year compound rate of 8 6 4 2 0 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 –2 –4 b. European Union 10 growth of volume of trade (percent) 8 Three-year compound rate of 6 4 2 0 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 –2 –4 GDP Exports Source: World Bank. 28  ●   World Bank ECA Economic Update May 2017 FIGURE 2.11 The rise of China as an industrial producer hurt Europe and Central Asia less than other regions a. 2000 b. 2016 European Union European Union and Western and Western Balkans Balkans 20% 28% Eastern Europe and Central Asia 5% 50% Rest of world 64% Eastern Europe 3% and Central Asia 6% Rest of world 25% China China Source: World Bank. purchasing power from the huge terms-of-trade gains in that period and a loss in international competitiveness. After the fall in oil prices at the end of 2014, im- ports started declining and exports started rising faster than GDP, although GDP growth has been very low the past two years. More adjustments are needed to reverse the limited export growth and rapid import growth since 2000. The chal- lenge is not the global slowdown (indeed, China’s reduced export growth, an important driver of the slowdown in global trade, could well provide new export opportunities for Central Asia (World Bank 2015b). Rather it is the need to regain international competitiveness. The real depreciations in the wake of the fall in oil prices are important steps toward doing so. The costs of globalization. Is there too much trade from ECA’s perspective? How relevant for ECA is the global debate on the negative side effects of trade on job security, uncertainty, and inequality (Becchettam and Jansen 2011)? Trade affects different sectors of the economy and different parts of the labor market in different ways. Middle-class workers tend to be more exposed to trade in manufacturing products than other workers. In Romania, for example, work- ers with secondary education, who are likely to belong to the middle class, are more likely than other workers to be employed in sectors that export manufactur- ing products or sectors that compete with manufacturing imports. Workers with tertiary education and workers with only primary education tend to be employed in sectors that do not compete in international markets (figure 2.12, panel a). Shifts in trade patterns and price changes in international markets affect some workers more directly affected than others. But trade does not necessarily hurt workers in the middle class, for several reasons. First, middle-class workers may suffer more from import competition, they also benefit more than other workers from export opportunities. Trade exposure by itself seems less important than whether a country runs a current account deficit or surplus. During the boom before 2008, for example, export exposure in Romania declined because its cur- rent account deficit was ballooning (Baumgarten, Geishecker, and Gorg, 2010), Ebenstein and others 2014). The pressure on the jobs of workers with secondary Chapter 2: Shifting Trade Patterns ●  29 FIGURE 2.12 In Romania—as elsewhere—workers with secondary education and workers performing routine jobs are more exposed to trade than other workers a. Import/export exposure by education group Import exposurea Export exposureb 0.25 0.30 0.25 0.20 Export exposure Import exposure 0.20 0.15 0.15 0.10 0.10 0.05 0.05 0.00 0.00 1997 1999 2001 2003 2005 2007 2009 2011 2013 1997 1999 2001 2003 2005 2007 2009 2011 2013 Year Year Secondary education Tertiary education Primary education b. Import/export exposure by occupation group Import exposurec Export exposured 0.50 0.50 0.40 0.40 Import exposure Export exposure 0.30 0.30 0.20 0.20 0.10 0.10 0.00 0.00 1997 1999 2001 2003 2005 2007 2009 2011 2013 1997 1999 2001 2003 2005 2007 2009 2011 2013 Year Year Routine Nonroutine manual Nonroutine cognitive Source: Own calculations based on data from COMTRADE (imports and exports of goods by industry), UNIDO (output by industry in 2002) and SES (employment by industry and occupation in 2002). Note: a,c. Import exposure of each occupation was computed as the weighted sum of the import penetration in all the manufacturing industries (ISIC rev.3 15-36), where import penetration in each industry was computed as the ratio of actual imports to domestic absorption in 2002 (Y-X+M), and the weights are the employment participation of each industry in the total employment of the corresponding occupation in 2002. b,d. Export exposure of each occupation was computed as the weighted sum of the export penetration in all the manufacturing industries (ISIC rev.3 15-36), where export penetration in each industry was computed as the ratio of actual exports to output in 2002, and the weights are the employment participation of each industry in the total employment of the corresponding occupation in 2002. education had little to do with trade policies and everything to do with capital inflows and the macroeconomic policies that created the deficit. Second, it is very difficult to determine whether international competition or technological progress and automation are responsible for changes in labor mar- ket conditions (Autor, Dorn, and Hanson 2015). Workers that are more exposed to trade often perform routine jobs, which are more prone to disappear because of automation (figure 2.12, panel b). Third, the indirect effects of trade on labor markets may be as important as the direct effects. An obvious example is the impact of oil prices on labor markets in oil-exporting economies. When oil prices rose, all domestic prices increased 30  ●   World Bank ECA Economic Update May 2017 (through the Dutch disease effect), and it became profitable to invest in domestic nontradable sectors (World Bank 2016b). Jobs were created in construction and domestic services like retail. When oil prices fell, many of these jobs, which are not directly exposed to trade, were eliminated. These indirect effects spread well beyond the borders of oil-exporting countries, because high oil prices created jobs in oil-exporting countries for migrant workers. In a similar way, cheaper imports can create better jobs in domestic retail sectors. Labor markets are too integrated to derive firm conclusions from the direct effects of trade exposure. The continued importance of trade. The most important reason why ECA should still embrace new trade opportunities is that many countries in the region have to shift from non-tradable production following sharp adjustments in the current accounts. Because of changes in the external environment (lower oil prices, re- duced capital inflows, and lower purchasing power of remittances), many coun- tries need a new growth strategy. The creation of new jobs in sectors that compete internationally must be a central part of that strategy. At least for ECA, there is no reason to declare that there is too little or too much trade. The status quo is not stable, however. In addition to moving away from nontradables, ECA countries have to navigate at least two other transitions in trade. One is the shift from intraregional trade to global trade. Integration into Factory Europe, especially the value chains around German industry, has been very successful for Central European countries. These value chains serve primar- ily the regional market. It is one of the reasons why intraregional trade in ECA is more than predicted by a global gravity model (figure 2.13). This figure shows first for the eastern part of the region and then for the western part of the region the export performance in different destinations, in deviation from the expected export performance in those destinations. For example, for both parts of the re- gion exports of high-skilled manufacturing to other ECA countries is stronger than expected. But those high-value added exports to East Asia and most other regions are weaker than expected. In order to fully catch up with high-income countries, however, countries in the region need to develop more global brands that can be sold worldwide. Major opportunities remained unexploited to intensify trade links with Asia, which is increasingly becoming the center of global commerce. Initiatives to revive the old silk road are an important part of this transition to global trade. Another ongoing transition is the shift from international trade in goods to international trade in services (Papageorgiou, Wang, Loungani, and Mishra 2017). The share of services in total exports has risen steadily in Western Europe since 2011 (figure 2.14). This trend has not yet reached other parts of the ECA region. Supporting opportunities for digital development is essential to benefit from this third transition. During the transition of the 1990s, trade played an essential role in transform- ing the domestic economies of the formerly centrally planned economies. Even against the backdrop of a worldwide wave of globalization, the opening up to international trade was more critical in ECA than for most other regions. During the coming years, trade will once again play a decisive role in adjusting domestic production structures in ECA. And once again, it is likely that trade will be par- ticularly important. Chapter 2: Shifting Trade Patterns ●  31 FIGURE 2.13 Europe and Central Asia could trade more with other regions 1.5 a. Eastern Europe and Central Asia 1 actual and predicted trade Log di erence between 0.5 0 East Asia Eastern EU and Latin America Middle East and Other Sub-Saharan –0.5 and Pacific Europe and Western and the North Africa Africa Central Asia Balkans Caribbean –1 –1.5 –2 –2.5 1.5 b. EU and Western Balkans 1 actual and predicted trade Log di erence between 0.5 0 East Asia Eastern EU and Latin America Middle East and Other Sub-Saharan –0.5 and Pacific Europe and Western and the North Africa Africa Central Asia Balkans Caribbean –1 –1.5 –2 –2.5 Agriculture Natural Resources Low–Skilled Manufacturing High–Skilled Manufacturing Source: World Bank. FIGURE 2.14 The share of services in EU exports is rising 30 Percent of value of services in exports 29 28 27 26 25 24 23 2010 2011 2012 2013 2014 2015 2016 Year Source: World Bank. 32  ●   World Bank ECA Economic Update May 2017 References Autor, David H., David Dorn, and Gordon H. Hanson. 2013. “Untangling Trade and Tech- nology: Evidence from Local Labor Markets.” NBER Working Paper 18939. National Bureau of Economic Research, Cambridge, MA. Baumgarten, Daniel, Ingo Geishecker, and Holger Gorg. 2010. “Offshoring, Tasks, and the Skill-Wage Pattern.” Discussion Paper 4828. Institute for the Study of Labor (IZA), Bonn. Becchettam, Marc, and Marion Jansen. 2011. Making Globalization Socially Sustainable. International Labour Organization (ILO) and World Trade Organization (WTO). https://www .wto.org/english/res_e/booksp_e/glob_soc_sus_e.pdf. Boz, Emine, Matthieu Bussière, and Clément Marsilli. 2014. Recent Slowdown in Global Trade: Cyclical or Structural? Centre for Economic Policy Research, London. http:// voxeu.org/article/recent-slowdown-global-trade. Broadman, Harry G. 2005. From Disintegration to Reintegration: Eastern Europe and the Former Soviet Union in International Trade. Washington, DC: World Bank. https:// openknowledge.worldbank.org/handle/10986/7511. Ebenstein, Avraham, Ann Harrison, Margaret McMillan, and Shannon Phillips. 2014. “Estimating the Impact of Trade and Offshoring on American Workers Using the Current Population Surveys.” Review of Economics and Statistics 96 (4): 581–95. http://www .mitpressjournals.org/doi/pdf/10.1162/REST_a_00400. Evenett, Simon J., and Johannes Fritz. 2015. The Tide Turns? Trade, Protectionism, and Slowing Global Growth. 18th Global Trade Alert Report. London: Centre for Economic Policy Research. http://voxeu.org/sites/default/files/file/GTA18_final.pdf. fDi Markets. n.d. https://www.fdimTaglionarkets.com/explore/ Ferrantino, Michael J., and Daria Taglioni. 2014. “Global Value Chains in the Current Trade Slowdown.” Economic Premise 137, World Bank, Washington, DC. http://documents .worldbank.org/curated/en/971291468149948311/Global-value-chains-in-the-current- trade-slowdown. Freud, Caroline. 2016. “The Global Trade Slowdown and Secular Stagnation.” Peterson Institute for International Economics, Washington, DC. https://piie.com/blogs/trade- investment-policy-watch/global-trade-slowdown-and-secular-stagnation. Hoekman, Bernard, ed. 2015. The Global Trade Slowdown: A New Normal? London: Centre for Economic Policy Research. http://voxeu.org/sites/default/files/file /Global%20Trade%20Slowdown_nocover.pdf. Hong, Gee Hee, Jaewoo Lee, Wei Liao, and Dulani Seneviratne. 2015. “China and Asia in Global Trade Slowdown.” Working Paper 16105. International Monetary Fund, Wash- ington, DC. https://www.imf.org/external/pubs/ft/wp/2016/wp16105.pdf. Kee, Hiau Looi, Cristina Neagu, and Alessandro Nicita. 2013. “Is Protectionism on the Rise? Assessing National Trade Policies during the Crisis of 2008.” Review of Economics and Statistics 95 (1). http://documents.worldbank.org/curated/en/545411468164050699 /Is-protectionism-on-the-rise-assessing-national-trade-policies-during-the-crisis-of-2008. Netherlands Bureau for Economic Policy Analysis. 2017. World Trade Monitor. February. The Hague. Papageorgiou, Chris, Ke Wang, Prakash Loungani, and Saurabh Mishra, 2017. “World Trade in Services: Evidence from a New Dataset.” Working Paper 17/77. International Monetary Fund, Washington, DC. Taglioni, Daria, and Deborah Winkler. 2016. Making Global Value Chains Work for Development. Trade and Development. Washington, DC: World Bank. https://openknowledge .worldbank.org/handle/10986/24426. Chapter 2: Shifting Trade Patterns ●  33 UNCTAD (United Nations Conference and Trade and Development). n.d. http://unctad .org/en/Pages/statistics.aspx World Bank. 2015a. “The Global Economy in Transition.” Global Economic Prospects, June. Washington, DC. ———. 2015b. “Low Commodity Prices and Weak Currencies” ECA Economic Update Fall 2015 (October), World Bank, Washington, DC. PART II Selected Country Pages Selected Country Pages ●  37 cent prompting an accommodative policy ALBANIA Recent developments by the central bank. Investment-related imports widened the current account deficit (CAD) to an esti- Albania’s economy expanded by 3.2 per- mated 12.1 percent in 2016, up from 10.8 cent in 2016, supported by robust domes- percent in 2015. The expansion was due to Table 1 2016 tic demand. Private investment in two a rising trade deficit from 17.3 percent in Population, million 2.9 large energy projects financed by foreign 2015 to 18.2 percent in 2016, as investment GDP, c urrent US$ billion 11.4 capital—the Trans-Adriatic Pipeline and related imports picked up and exports of GDP per c apita, c urrent US$ 3923 a hydropower plant—and a recovery in commodities slowed down. Since the Poverty rate ($2.5/day 2005PPP terms) a 6.7 private consumption drove this growth. third quarter of 2016 there has however Poverty rate ($5/day 2005PPP terms) a 47.5 The increase in private consumption was been an improvement thanks to the favor- driven by improvements in employment able tourism season. Remittances have Gini Coeffic ient a 29.0 b and the easing of credit conditions. Net also been broadly stable despite weak Sc hool enrollment, primary (% gross) 107.8 exports contributed positively to growth, growth in the main source countries b Life Expec tanc y at birth, years 77.6 on the back of tourism services exports (Greece and Italy). The CAD was financed Source:World Bank WDI and M acro Poverty Outlook expanding by 25.4 percent, while goods at 60 percent by FDIs, and 10 percent by Notes: trade contributed negatively. With indus- inflows in the form of budget support. At (a) M ost recent value (2012) (b) M ost recent WDI value (2014) try affected by the unfavorable commodi- end-2016, the stock of foreign exchange ty prices, the services sector was the reserves is 2.9 billion euros, sufficient to main driver of growth, followed by the cover about 5.7 months of imports of labor-intensive construction and agricul- goods and services. Growth strengthened to 3.2 percent in ture sectors. Stronger growth stimulated job creation in Prudent fiscal and monetary policies sus- 2016. In the third quarter of 2016 employ- 2016 and is projected to average 3.6 per- tained macroeconomic stability. The fiscal ment grew by 8.5 percent (y-o-y), driven cent during 2017-19. Private investments deficit for 2016 is estimated at 2.2 percent by job creation in industry (13.6 percent) in FDI-financed energy projects and con- of GDP (compared to 4.6 percent in 2015), and services (8.2 percent). Labor force sumption recovery drove recent economic in line with the country’s fiscal consolida- participation increased to 67.3 percent, 2.6 tion efforts supported by the fiscal rule. percentage points higher than in the same expansion. Growth improved labor market Revenues increased by 6.8 percent in 2016 quarter in 2015. The official unemploy- outcomes, gradually leading to more in- (y-o-y) while public expenditures ment rate declined by 2.5 percentage clusive access to jobs and poverty reduc- (excluding arrears repayments) increased points to 14.7 percent, with more than half tion. The fiscal position improved in 2016 by only 2.4 percentage points in 2016 (y-o- of the unemployed still being long-term due to increased revenue collection and y). The budget primary surplus of 0.2 per- unemployed. As a result, the employment cent of GDP in 2016 is expected to start rate among those 15-64 years climbed to restrained spending. Progress on the re- bringing down the debt to GDP ratio for 57.1 percent in the third quarter of 2016, form agenda, stronger growth, and job the first time to 72.7 percent of GDP. Aver- the highest rate since early 2012. Nominal creation are expected to sustain the gains age annual inflation fell from 1.9 percent wages continued their decline since the in poverty reduction. in 2015 to 1.3 percent in 2016, below the end of 2013, but will be helped in 2017 by Bank of Albania’s (BoA) target of 3±1 per- the end of the public wages freeze. FIGURE 1 Albania / GDP growth, contributions to growth FIGURE 2 Albania / Actual and projected poverty rates and private consumption per capita Percent, percentage points Poverty (%) GDP per capita (constant LCU) 10.0 70 250000 60 5.0 200000 50 0.0 40 150000 30 100000 -5.0 20 50000 -10.0 10 2012 2013 2014 2015 2016 2017 2018 2019 Private Consumption Government Consumption 0 0 Gross Fixed Investment Change in inventories 2002 2004 2006 2008 2010 2012 2014 2016 2018 Exports, GNFS Imports, GNFS GDP growth $2.5/day PPP $5/day PPP GDP pc Sources: Instat, Ministry of finance, World Bank staff projections. Sources: World Bank (see notes to Table 2). MPO May 17 38  ●   World Bank ECA Economic Update May 2017 Poverty is estimated to have declined as two large energy projects will continue to into lower tax revenues, less public invest- economic growth and labor markets have support growth, aided by private con- ment and thus slower output growth. The picked up. The poverty rate (measured as sumption while labor market improves, faster pace of normalization of global in- US$ 5/day, 2005 PPP) is estimated to have and net exports supported by demand terest rates also poses a risk. In this con- decreased in 2016 to 43.9 percent, com- from the EU. The CAD will remain elevat- text, harnessing growth will require mac- pared to 44.5 percent in 2015, with job ed as imports continue to grow, following roeconomic stability and implementation creation in sectors, such as construction, the pace of investment, and be financed by of structural reforms to improve the busi- that benefit poor and low-skilled individ- FDI. Continued fiscal consolidation and ness climate including continuing judici- uals. For some households, the decline in other reform efforts are expected to gradu- ary reforms, energy reform, enhancing nominal wages likely muted some of the ally reduce the fiscal deficit to 0.7 percent public investment management, address- progress taking place on employment, of GDP by 2019. As a result, the debt-to- ing the high ratio of NPLs, and improving while the halt of a previous downward GDP ratio is projected to fall below 60 skills of the labor force. Importantly, the trend in remittances provides positive percent of GDP by 2021. reform agenda –in, for example, energy prospects for remittance-receiving house- As the economy continues to accelerate and skills– should be informed by equity holds. Moreover, labor market patterns and labor markets improve, further gains considerations to sustain and enhance the suggest a more inclusive growth pattern. in poverty reduction are expected. Pov- poverty and inclusion gains thus far. The improvements in employment are, for erty, measured at the moderate poverty example, primarily driven by a reduction line (US$ 5/day, 2005 PPP), is expected to in youth unemployment (especially decline to 43.23 percent in 2017, to 41.6 among women), as well as higher female percent in 2018 and even further to 40.0 labor force participation rates. percent in 2019. Outlook Risks and challenges Albania’s economic outlook is expected to Economic prospects are vulnerable to improve over the medium-term. Growth downside risks. Uncertain global market is projected at 3.5 percent during 2017-18 conditions, in particular slower growth in and expected to increase further to 3.8 the Euro area, could reduce Albania’s ex- percent in 2019. Private investments in ports and FDI inflows, further translating TABLE 2 Albania / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.8 2.6 3.2 3.5 3.5 3.8 Private Consumption 3.0 -0.8 1.3 1.5 2.5 2.6 Government Consumption 6.4 -9.4 0.8 1.8 2.4 2.5 Gross Fixed Capital Investment -4.0 9.3 9.0 7.5 5.8 4.3 Exports, Goods and Services 1.8 -0.1 3.3 6.5 6.2 6.4 Imports, Goods and Services 4.6 -1.3 3.3 5.2 5.3 4.2 Real GDP growth, at constant factor prices 2.1 2.8 3.2 3.5 3.5 3.8 Agriculture 2.0 0.5 2.2 3.2 3.0 3.0 Industry -3.6 5.4 5.9 3.9 4.6 4.6 Services 5.5 2.9 2.2 3.4 3.1 3.8 Inflation (Consumer Price Index) 1.6 1.9 0.9 1.5 2.9 2.9 Current Account Balance (% of GDP) -12.9 -10.8 -12.1 -13.7 -13.0 -11.8 Financial and Capital Account (% of GDP) 10.2 8.2 9.5 11.1 10.4 9.2 Net Foreign Direct Investment (% of GDP) 8.1 7.7 7.1 8.0 6.9 5.3 Fiscal Balance (% of GDP) -6.0 -4.6 -2.2 -1.1 -1.0 -0.8 Debt (% of GDP) 72.1 73.7 72.7 70.0 67.0 63.4 Primary Balance (% of GDP) -3.1 -1.9 0.2 1.2 1.1 1.3 Poverty rate ($2.5/day PPP terms) a,b,c 5.6 5.8 5.6 5.2 4.8 4.6 Poverty rate ($5/day PPP terms) a,b,c 43.9 44.5 43.9 43.2 41.6 40.0 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 2-LSM S. (b) P ro jectio n using neutral distributio n (2012) with pass-thro ugh = 1 based o n private co nsumptio n per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 201 7 to 2019. MPO May 17 Selected Country Pages ●  39 fiscal consolidation beginning in 2017. The ARMENIA Recent developments fiscal balance was in small surplus in Jan- uary 2017, supported by improved tax collection and the government’s adher- Growth slowed considerably – to 0.2 per- ence to its approved spending limits. The cent in 2016 from 3 percent in 2015 – due new government’s tax policy and admin- Table 1 2016 to the protracted slump in global metal istration reforms have strengthened reve- Population, million 3.0 prices (Armenia’s main commodity ex- nue performance. In particular, changes to GDP, current US$ billion 10.5 ports), falling remittances, and an unex- the excise-tax regime in January 2017 have GDP per capita, current US$ 3486 pected Cabinet reshuffle, all of which more than doubled excise revenues (y/y), Poverty rate ($2.5/day 2005PPP terms)a 22.6 affected market sentiment. A 20 percent while the Tax Code (approved in 2016) a expansion in the non-resource tradeable will fully take effect in 2018. Poverty rate ($5/day 2005PPP terms) 71.7 a sectors, driven by the restored trade ties In view of the weak economic activity, the Gini Coefficient 32.4 with Russia and penetration into China central bank eased monetary policy by Life Expectancy at birth, yearsb 74.6 and Middle East, failed to offset a double- cutting the policy rate gradually from over Source:World Bank WDI and M acro Poverty Outlook digit contraction in construction and a 10 percent in January 2016 to 6 percent in Notes: substantial decline in agricultural output. February 2017. However, the high levels (a) M ost recent value (2015) (b) M ost recent WDI value (2014) In contrast, the continued decline in re- of dollarization (63 percent of total loans, mittances, dwindling foreign direct invest- and 66 percent of deposits) limit the effec- ment inflows, and lower public invest- tiveness of monetary stimulus. Weak do- ment weakened domestic demand sub- mestic demand, a reduction in utility tar- stantially. However, by January 2017, the iffs, a continued decline in import prices, economy was already showing some signs and the appreciation of the Dram in real A combination of low commodity prices, of renewed dynamism, as the economic effective terms, caused a cumulative defla- declining remittances, weak domestic de- activity index grew by 6.5 percent (y/y). tion of 1.4 percent between December mand and increased political uncertainty The incipient recovery of global commodi- 2015 and December 2016. ty prices buoyed the extractive industries The financial sector remained stable undermined Armenia’s growth and fiscal and rising private consumption drove throughout 2016. The authorities enhanced position, and reversed the trend in pov- renewed growth in the services and retail the bank capitalization standards (in line erty reduction in 2016. While the econo- trade sectors. with Basel III). The new standard has been my is expected to recover modestly over The fiscal deficit widened to 5.4 percent of met by 17 banks, representing 93 percent GDP in 2016 from 4.8 percent a year earli- of total banking sector assets. Meanwhile, the medium term, the parliamentary and er, driven by expenditure overruns and total credit to the private sector grew by 15 presidential elections slated for 2017-18 the weak revenue collection resulting percent by December 2016 (y/y), while may delay progress on the structural re- from the sluggish demand, deflation and lending in domestic currency rose by 24 form agenda and undermine prospects for lower-than-expected customs revenue. percent. However, the ratio of nonper- further poverty reduction. The higher deficit led to a further build-up forming loans rose to 10 percent as of end- of public debt to 55.3 percent of GDP at year, suggesting the presence of risks. end-2016, and triggered the fiscal rule, The current account deficit remained nar- requiring the government to implement a row at an estimated 2.4 percent of GDP in FIGURE 1 Armenia / GDP growth, contributions to growth FIGURE 2 Armenia / Actual and projected poverty rates and private consumption per capita Percent, percentage points Poverty (%) Private consumption per capita (constant LCU) 25.0 100 700000 20.0 90 600000 15.0 80 10.0 70 500000 5.0 60 400000 0.0 50 40 300000 -5.0 -10.0 30 200000 Gov. cons. Exports -15.0 20 GFCF Inventories 100000 -20.0 Private cons. Imports 10 Statistical disc. GDP 0 0 -25.0 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 $2.5/day PPP $5/day PPP Consumption pc (RHS) Sources: World Bank. Sources: World Bank (see notes to Table 2). MPO May 17 40  ●   World Bank ECA Economic Update May 2017 2016, supported by a 20 percent increase modest recovery in domestic consump- risks. Growth prospects depend on the in exports, coupled with anemic import tion. Medium term growth is projected to government’s ability to scale up high- demand. The Russian recession continued average 3-3.5 percent a year, given struc- quality investment, and speed up structur- to negatively impact remittances, which tural weaknesses in the domestic policy al reform. Challenges to this include the fell by 35 percent in 2015 and a further 10 framework, and remaining uncertainties upcoming parliamentary and presidential percent in 2016. in external environment. elections in April 2017 and May 2018, re- Declining wage and remittance income The government’s planned expenditure spectively. Cabinet changes in the wake of increased the poverty rate from 22.6 per- restraint and full implementation of the each election could adversely affect inves- cent in 2015 to an estimated 23.9 percent Tax Code are expected to keep the fiscal tor confidence and slow the pace of re- in 2016 at PPP-adjusted 2.5 dollar/day deficit below 3 percent of GDP over the form. Domestic political pressures could poverty line. The increase of the interna- medium term. Policy changes envisaged compound with the negative impact exter- tional poverty rate masks different devel- in the Tax Code would boost revenues by nal shocks—including a slower-than ex- opments across locations in the country; in 2 percentage points of GDP by 2021. pected recovery in Russia. Upside risks urban areas outside Yerevan, the large Future poverty reduction will hinge on include plans for a new Framework Agree- number of returning temporary and per- the recovery of the domestic economy, ment with the EU and an anticipated in- manent migrants is placing additional labor-market dynamics, and remittance crease in trade with Iran following the pressure on labor markets, and it is ex- inflows. Low growth rates, unfavorable easing of international sanctions and revis- pected that the increase of poverty will be external conditions, and limited fiscal iting bilateral arrangements for trade facili- higher than in rural areas. In the latter, space could slow the pace of poverty re- tation. The recent mandatory increase in subsistence farming acts as a coping duction; as a result, the poverty rate is capital-adequacy ratios is strengthening mechanism for weak domestic and inter- projected to fall from 23.8 percent in 2017 the financial sector, but the rise of nonper- national labor markets. to 22.2 percent in 2019. forming loans poses new challenges. Outlook Risks and challenges Growth is projected to accelerate to 2.7 Armenia’s medium-term outlook remains percent in 2017, reflecting the sustained sensitive to internal and external factors, expansion of the tradable sectors and a which entail both upside and downside TABLE 2 Armenia / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 3.6 3.0 0.2 2.7 3.1 3.4 Private Consumption 1.0 -7.9 -3.9 0.5 2.3 2.7 Government Consumption -1.2 4.5 2.5 -3.9 4.6 6.2 Gross Fixed Capital Investment -2.2 3.0 -4.6 0.6 1.6 1.9 Exports, Goods and Services 6.4 4.9 17.0 12.4 6.5 5.8 Imports, Goods and Services -1.0 -15.1 2.2 5.5 4.8 4.5 Real GDP growth, at constant factor prices 3.9 4.0 0.8 2.3 2.8 3.1 Agriculture 6.1 13.2 -5.8 3.5 2.7 2.2 Industry -2.3 3.7 -0.9 4.5 3.8 3.5 Services 8.3 -3.6 8.9 -0.8 1.9 3.4 Inflation (Consumer Price Index) 3.0 3.7 -1.4 1.5 3.2 3.0 Current Account Balance (% of GDP) -7.6 -2.6 -2.4 -2.7 -3.2 -3.6 Financial and Capital Account (% of GDP) 7.9 4.2 4.6 3.3 3.8 4.1 Net Foreign Direct Investment (% of GDP) 3.3 1.5 2.3 4.5 6.5 7.4 Fiscal Balance (% of GDP) -1.9 -4.8 -5.4 -2.7 -2.5 -2.6 Debt (% of GDP) 43.7 48.8 55.3 56.7 58.0 58.2 Primary Balance (% of GDP) -0.4 -3.0 -3.5 -0.6 -0.4 -0.5 Poverty rate ($2.5/day PPP terms) a,b,c 26.3 22.6 23.9 23.8 23.0 22.2 Poverty rate ($5/day PPP terms) a,b,c 75.9 71.7 73.4 73.3 72.4 71.3 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 1-ILCS, 201 4-ILCS, and 2015-ILCS. (b) P ro jectio n using po int-to -po int elasticity (2011-2014) with pass-thro ugh = 0.7 based o n private co nsumptio n per capita in co nstant LCU. (c) A ctual data: 201 4, 201 5. No wcast: 201 6. Fo recast are fro m 201 7 to 2019. MPO May 17 Selected Country Pages ●  41 operations to absorb manat liquidity. How- AZERBAIJAN Recent developments ever, inflationary pressures remain strong, reflecting a large increase in the prices of electricity and natural gas in January. The Azerbaijani economy continued to The consolidated fiscal balance (including suffer from the oil price shock, contracting balances of the SOFAZ, the social protec- Table 1 2016 by 3.8 percent in 2016. The recession was tion fund and the Nakhchivan autono- Population, million 9.8 driven by a fall by 5.4 percent in non-oil mous region) recorded a surplus at 0.3 GDP, current US$ billion 37.3 sector output. This decline reflected the percent of GDP in 2016, compared with a GDP per capita, current US$ 3823 credit crunch linked to the ongoing bank- deficit of 6.2 percent in 2015, as lower oil School enrollment, primary (% gross) a 100.5 ing sector distress, the tight monetary revenues and increases in wages, pension policy, and a sizeable cut in public invest- and targeted social assistance was offset Life Expectancy at birth, yearsa 70.7 ment. Oil GDP showed no growth in 2016. by cuts in public investment and signifi- Source:World Bank WDI and M acro Poverty Outlook Driven by a 40 percent fall in oil exports, cantly lower-than-planned spending by Notes: (a) M ost recent WDI value (2014) Azerbaijan’s external accounts deteriorat- the Oil Fund. This fiscal outturn was sup- ed from a near balanced position in 2015 to ported by increased customs revenue (as a a deficit of 4.8 percent of GDP by Septem- result of Customs reform) and the manat ber 2016. The resulting acute shortages of depreciation, which raised prices of im- foreign exchange led to a depreciation of ports in the manat. the manat (13.5 percent against the US Public confidence in the financial system dollar during 2016) and, in turn, reduced remains weak. Total bank deposits fell by 2016 marked a year of deep economic re- imports by 12 percent (y/y) in the first 23 percent in 2016, while credit to the pri- cession for Azerbaijan—the first in two three quarters of 2016. International re- vate sector contracted by 24 percent. An serves stood at US$ 3.9 billion at end -2016, overall banking sector resolution frame- decades. Investment and consumption fell compared to US$ 5 billion a year earlier. work remains absent. However, the au- sharply due to a cut in public investment, The central bank has restrained from inter- thorities introduced ad hoc measures to a credit crunch caused by banking sector vening in the foreign exchange market reduce uncertainty. These included the distress, and a drop in real income. Going since mid-2016, while the State Oil Fund enactment of guarantees for all household forward, with high policy uncertainty and (SOFAZ) sold foreign exchange for local deposits, the enforcement of responsible currency to cover its budget transfers. lending standards, restrictions on FX lend- financial sector vulnerability lingering, Annual inflation rose to 15.6 percent in ing, more capital injections to the major and the government planning on further 2016, driven mainly by the pass-through state bank (IBA), and the issuance of a fiscal consolidation, recovery may prove from the manat depreciation and a rise in promissory note to support the Deposit elusive. Under some downside scenarios, domestic food prices reflecting an in- Insurance Fund’s payout to depositors of creased demand for Azerbaijani food from failed banks. There were signs of stabiliza- the good progress achieved in poverty Russia. To curb the price pressures, the tion towards the end 2016. reduction faces the risk of reversal. central bank tightened monetary policy The government also accelerated structur- significantly, raising the policy rate by 12 al reforms, including the simplification of percentage points from February to Sep- customs clearance and licensing to sup- tember 2016, and expanded deposit auction port private sector growth. In December FIGURE 1 Azerbaijan / GDP growth, contributions to growth FIGURE 2 Azerbaijan / Official poverty rate, 2001-15 Percent, percentage points Percent 15.0 50 Net exports Gross fixed capital formation 40 10.0 Final consumption GDP growth 5.0 30 20 0.0 10 -5.0 0 -10.0 2012 2013 2014 2015 2016e 2017p 2018p 2019p Sources: State Statistical Committee and World Bank staff estimation. Sources: State Statistical Committee. Notes: The official national poverty rates for 2013-2015 have not been reviewed by the World Bank. MPO May 17 42  ●   World Bank ECA Economic Update May 2017 2016, the government launched a oil prices, as oil production is not expected constrained private sector growth could “Strategic Roadmap for the National to increase and the non-oil sector contin- have a negative impact on the poor. Economy and Main Economic Sectors” ues to be affected by the government’s which outlined the medium- and long- spending cuts and the banking sector dis- term goals for the development of the economy and eleven key sectors. tress. However, output is projected to expand from 2018 onwards, supported by Risks and challenges Social conditions became a major source the acceleration of oil GDP as Shah Deniz of concern. In 2015, the official poverty gas field begins production. Non-oil sector Risks to growth and poverty reduction rate was 4.9 percent. Although higher growth will remain weak, as the govern- remain high. The immediate challenge for social spending could be beneficial, reduc- ment is set to keep tight stance on both the government is to minimize the impact tion in public investment is expected to fiscal and monetary policies to safeguard of the planned fiscal consolidation on have adversely affected households, espe- macroeconomic stability, and the banking growth and safeguard spending to protect cially those relying on construction sector sector slowly regains strength to support the poor. Another challenge going for- jobs. High inflation will affect the poor, the private sector. Inflation will abate due ward is to restore the confidence of the due to increases in price of items with to limited liquidity on the market and will public and the investors, which relies on high import content, especially food. Sim- hover about 5 percent a year. Meanwhile bold reforms that accelerate banking sec- ulations suggest that the inflation spike of there will be a notable improvement in the tor resolution and improve business envi- June 2015-February 2016 may have consolidated fiscal position over 2017- ronment, as well as the government’s pushed an estimated 300,000 Azerbaijanis 2019, as a result of envisioned spending transparency and effectiveness in com- to live on less than AZN 72.5 per month— consolidation. While the government will municating these policies. a consumption level about half the official follow up the roadmap document with poverty line of AZN 135.6 in 2015. action plans, the implementation of the investment program could be delayed, since fiscal consolidation will remain a Outlook policy priority for the government through the medium-term. Current conditions do not appear condu- Azerbaijan’s economy is likely to experi- cive to significant poverty reduction. ence another year of negative growth in While recent efforts to step up social 2017 despite the anticipated recovery of spending should help alleviate poverty, TABLE 2 Azerbaijan / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 2.0 1.1 -3.8 -1.4 0.6 1.3 Private Consumption 8.5 6.0 -2.8 -0.1 2.2 2.4 Government Consumption 4.0 -7.1 -8.1 -2.9 -1.0 1.4 Gross Fixed Capital Investment 1.4 -9.9 -23.4 -10.0 5.5 6.8 Exports, Goods and Services -1.1 -1.0 -2.0 -1.1 -0.5 -0.5 Imports, Goods and Services 4.1 -5.0 -10.0 -3.0 2.2 2.2 Real GDP growth, at constant factor prices 1.8 0.9 -3.7 -1.7 0.4 1.2 Agriculture -2.6 6.6 2.6 3.4 4.2 4.5 Industry -1.7 -2.4 -5.5 -2.9 -0.8 0.3 Services 11.9 6.9 -1.7 -0.8 1.8 2.0 Inflation (Consumer Price Index) 1.5 7.7 15.6 7.8 4.2 3.8 Current Account Balance (% of GDP) 13.6 -0.4 -1.8 0.8 3.9 4.3 Financial and Capital Account (% of GDP) -9.8 4.2 5.6 4.0 0.7 0.3 Net Foreign Direct Investment (% of GDP) 3.2 3.2 3.3 4.2 4.0 4.0 Fiscal Balance (% of GDP) -0.4 -6.2 0.3 6.0 8.3 7.7 Primary Balance (% of GDP) -0.2 -5.5 1.0 7.2 9.7 8.7 Sources: W orld Bank, Macroeconomics and Fiscal Management Global Practice, and Poverty Global Practice. Notes: e = estimate, f = forecast. MPO May 17 Selected Country Pages ●  43 This note was updated May 3rd 2017 to account for new data and developments Declining general government revenues BELARUS Recent developments (by 5.6 percent in real terms y/y) has prompted the government to tighten spending (by 5.7 percent y/y) and to right In 2016, the economy continued to con- -size the wage bill in the public sector, tract, albeit at a slower pace, as tight fiscal further weakening aggregate demand. Table 1 2016 and monetary policies have helped to sup- Public and publicly guaranteed debt has Population, million 9.5 port macroeconomic stabilization. In 2016, reached almost 48 percent of GDP, an GDP, current US$ billion 45.3 real GDP decreased by 2.6 percent vis-à- increase of 17 percentage points in just GDP per capita, c urrent US$ 4769 vis 3.9 percent in 2015. Goods and services four years. Poverty rate ($2.5/day 2005PPP terms) a 0.0 exports continued to decline—by Household wealth continues to deterio- Poverty rate ($5/day 2005PPP terms) a 0.6 9.3 percent y/y in nominal US$ terms in rate amid weak labor market. A 30 percent a contrast to 24.3 percent in 2015—due to increase in utility prices has eroded the Gini Coe cient 26.6 b persistent weak external demand and a purchasing power of the B20 and B40 Sc hool enrollment, primary (% gross) 97.8 21 percent cut in crude oil supplies from households. In 2016, net job creation was b Life Expectancy at birth, years 72.5 Russia resulting from unresolved gas dis- negative and the number of employed Source:World Bank WDI and M acro Poverty Outlook pute. Domestic demand remained sup- persons shrank by 2.2 percent. Real wages Notes: pressed and final consumption fell dra- fell by 4 percent vis-à-vis 2015 and by (a) M ost recent value (2015) (b) M ost recent WDI value (2014) matically, while further cuts in directed more than 6 percent in some regions lending and public capital expenditures (Gomel and Grodno). Real disposable continued to dampen gross fixed invest- incomes were down by about 7 percent y/ ments. Over the three quarters of 2016, y everywhere, except Minsk and its oblast, The economy continued to decline due to households lowered their consumption by where the fall was about 4 percent y/y. So 6.1 percent, while gross capital formation far, the rise in official poverty has been weakness in exports and final consump- fell sharply by almost 20 percent y/y. At small—by 0.6 percentage points between tion. The contraction has put pressures on the same time, agriculture and several Q1 and Q4 of 2016—contained by a external and fiscal accounts as large pub- manufacturing sectors have registered 10 percent annual increase in spending on lic debt repayments come due in 2017. growth in recent quarters, mostly owing targeted social assistance. to the base effect, and a very tepid recov- Economic recovery is expected to remain ery in Russia. modest and gradual as negative feedback loops would continue to subdue domestic Ongoing recession has put additional pressures on external and fiscal accounts. Outlook demand, while weak labor market could The current account deficit amounted to further deteriorate household incomes. 3.6 percent of GDP in 2016 driven by Economic recovery is expected to remain growing trade and primary income defi- weak and gradual as negative feedback Necessary adjustment measures and ac- cits (with interest and dividend payments loops will continue to subdue domestic celerated reforms are necessary to improve at 4.5 percent of GDP). The financing of demand. Economic stabilization measures market expectations and mobilize invest- the deficit—by additional short-term bor- of 2015–2016, including greater exchange ment for sustainable recovery. rowing of commercial banks and general rate flexibility, directed lending restrictions, government—remains unsustainable. as well as monetary and fiscal tightening, FIGURE 1 Belarus / GDP growth, contributions to growth FIGURE 2 Belarus / Actual and projected poverty rates and GDP per capita (constant LCU) Percent, percentage points Poverty (%) GDP per capita (constant LCU) 20 70 2500000 15 60 10 2000000 5 50 0 1500000 40 -5 -10 30 1000000 -15 20 500000 10 Total consump�on of goods and services Gross capital forma�on 0 0 Net exports 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 Sta�s�cal discrepancy GDP growth $2.5/day PPP $5/day PPP GDP pc Sources: World Bank Staff calculations based on Belstat data. Sources: World Bank (see notes to Table 2). MPO May 17 44  ●   World Bank ECA Economic Update May 2017 set important preconditions for growth. restructuring remains essential in creating gional recovery becomes stronger. Howev- However, some necessary adjustment a new foundation for a sustainable er, this would require Belarusian enterpris- measures—including further planned cuts growth trajectory. es to develop new competences in market in directed lending—will continue to have entry and new product development. A a negative drag on growth. Policy efforts to strong commitment to reforms will be an stimulate the short-term demand will be limited by financial and fiscal pressure, Risks and challenges important element to boost the market confidence and to mobilize private invest- including a possible need to recapitalize ment at home and from abroad in order to state-owned banks and costs associated Large external debt repayments maturing put Belarus on a sustainable growth trajec- with SOE restructuring. in 2017 and 2018 create a risk of disorderly tory. The poverty rate—measured at US$5/day adjustment in external imbalances. In 2017, at PPP—is projected to increase slightly the Government will need to allocate during 2016–2017 due to a combination of US$3.4 billion—or 7.5 percent of projected weak labor market conditions and higher GDP—on public debt repayment and pay- unemployment associated with transfor- ment of interest. Meeting these obligations mations in SOE sector and related struc- would require issuance of bonds denomi- tural adjustments in the labor market. nated in foreign currency, both domestic Increases in utility tariffs to a full cost re- and external. Current account balances are covery by the end of 2018 would require likely to worsen if commodity prices to more robust mitigation measures by im- remain low, further adversely affecting the proving the targeting of existing house- terms of trade. Ultimately, this adjustment hold utility subsidy program. in external imbalances could have a nega- The recovery is likely to be long and tive impact on real incomes and poverty. gradual, but needs to be anchored on key On the positive side, a faster pace of struc- structural reform measures. One of them tural transformation – supported by a pru- is establishment of a robust and sustaina- dent policy mix – would strengthen finan- ble unemployment benefit system and cial sector, improve enterprise perfor- enhanced support for job mobility that mance, and increase household in-comes. could provide a cushion against demand- Export diversification could help the econ- dampening inequality and poverty. SOE omy, especially when the global and re- TABLE 2 Belarus / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.7 -3.9 -2.6 -0.4 0.7 1.2 Private Consumption 4.3 -2.4 -5.8 -0.1 0.2 1.1 Government Consumption -2.0 -0.4 -4.7 1.2 -3.1 -1.3 Gross Fixed Capital Investment -5.3 -15.9 -18.4 -12.2 3.9 5.8 Exports, Goods and Services 5.3 -2.0 -0.8 -0.1 2.8 3.8 Imports, Goods and Services 2.4 -8.5 -3.1 -1.1 2.4 3.2 Real GDP growth, at constant factor prices 2.2 -4.2 -2.6 -0.4 0.9 1.4 Agriculture 2.8 -2.8 3.4 3.8 3.8 4.3 Industry 1.5 -6.8 -0.4 2.1 2.5 3.4 Services 3.0 -1.5 -6.7 -4.6 -2.0 -2.2 Inflation (Consumer Price Index) 18.1 13.5 11.8 10.0 9.5 8.5 Current Account Balance (% of GDP) -6.9 -3.7 -3.6 -3.8 -3.8 -3.7 Financial and Capital Account (% of GDP) 7.5 4.3 4.2 4.4 4.4 4.3 Net Foreign Direct Investment (% of GDP) 2.4 2.4 2.1 2.1 2.5 2.8 Fiscal Balance (% of GDP) 1.1 1.2 1.6 0.7 0.9 1.3 Debt (% of GDP) 38.8 47.7 47.7 50.9 54.2 55.9 Primary Balance (% of GDP) 2.3 2.8 4.4 3.5 3.8 3.9 Poverty rate ($5/day PPP terms) a,b,c 0.3 0.6 0.6 0.6 0.6 0.6 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 2-HHS and 201 5-HHS. ( b) P ro je c tio n us ing po int-to -po int e la s tic ity ( 2 0 12 -2 0 15 ) with pa s s -thro ugh = 1 ba s e d o n priv a te c o ns um ptio n pe r c a pita in c o ns ta nt L C U. (c) A ctual data: 201 4, 2015. No wcast: 2016. Fo recast are fro m 201 7 to 201 9. MPO May 17 Selected Country Pages ●  45 lack of recent data for poverty monitoring BOSNIA AND Recent developments limits the ability of producing an accurate diagnosis of living conditions in the coun- HERZEGOVINA Growth is estimated to have reached 2.8 try or to report progress in this arena . Consumer price deflation provided a percent in 2016, down from 3 percent in small boost to real incomes. The consumer 2015. Although consistent with this publi- price index (CPI) dropped by 0.3 percent y cation’s earlier projection, growth is 0.4 -o-y in November, the 23th consecutive Table 1 2016 percentage points (pp) lower than envis- month of decline. The biggest driver of the Population, million 3.5 aged by the official estimates. Consump- fall were imported goods, reflecting low GDP, current US$ billion 16.7 tion remains the dominant driver of prices, such as food (down 0.6 percent y-o- growth (1.8 pp contribution), with net y), clothing and footwear (down 8.4 per- GDP per capita, current US$ 4771 exports and investments also supportive cent), and out-patient services (down 4.7 Gini Coefficient a 33.8 (0.7 pp and 0.3 pp contributions, respec- percent). In contrast, notable price rises b School enrollment, primary (% gross) 101.2 tively). On production side, agriculture were seen for alcohol and tobacco, with Life Expectancy at birth, yearsb 76.3 and manufacturing contributed about 70 smaller price rises for education, housing Source:World Bank WDI and M acro Poverty Outlook percent, together offsetting a contraction and utilities. Given the limited growth in Notes: in services. nominal salaries, declining consumer pric- (a) M ost recent value (2011) (b) M ost recent WDI value (2014) Unemployment remains high, with mod- es provided a small boost to real incomes: est improvements in the labor market. The the net monthly salary in November 2016 unemployment rate fell from 27.7 percent averaged €433, up by 2.5 percent y-o-y in in 2015 to 25.4 percent in 2016, masking a nominal terms. reduction in employment in absolute While strong fiscal consolidation was seen terms, in spite of the positive economic in 2015, fiscal accounts are likely to have Economic growth in Bosnia and Herze- growth. Still, the employment rate was deteriorated in 2016. The fiscal balance of govina (BiH) is estimated to have not affected and even increased slightly, BiH was in a positive surplus of 0.7 per- reached 2.8 percent in 2016. Growth on account of a reduction of the working cent of GDP in 2015. With the 2016 reve- was driven primarily by consumption, age population. The industrial sector cre- nues-to-GDP ratio projected to have re- ated new employment in 2016, while agri- mained stable, an increase in social spend- with investments also supportive. Labor culture and services shed employment in ing and a recovery in capital spending, are income contribution for poverty reduc- absolute terms. Public administration em- estimated to have moved the fiscal balance tion was limited, in the absence of im- ployment was also in decline. Unemploy- to a deficit of 0.6 percent of GDP in 2016. provements in employment and with ment among the youth (those between 15 wages largely stagnant. As the reform and 24 years of age) has decreased but agenda advances, economic growth is remains high, at 54.3 percent (59 percent for women and 52 percent for men). Given Outlook projected to accelerate to 4 percent in the the strong connection of income of the medium term. bottom 40 percent of income distribution Supported primarily by domestic de- to labor income, poverty is expected to mand, economic growth is projected to have remained unaltered. However, the strengthen from 2.8 percent in 2016 to 4 FIGURE 1 Bosnia and Herzegovina / GDP growth, FIGURE 2 Bosnia and Herzegovina / Labor market contributions to growth indicators, 2014—2016 Percent, percentage points Percent 5.0 50 44.1 4.0 43.7 43.1 2014 2015 2016 3.0 40 2.0 31.9 31.7 32.2 27.7 1.0 30 27.5 25.4 22.8 0.0 23.5 21.6 -1.0 20 -2.0 -3.0 10 -4.0 2012 2013 2014 2015 2016f 2017f 2018f 2019f 0 Private_consumption Government_consumption Activity rate Employment rate Unemployment Unemployment Gross_fixed_investment Net exports rate rate over 1 year GDP duration Sources: BiH Agency for Statistics (BHAS), World Bank staff estimates. Sources: LFS 2014-2016 report, World Bank staff calculations. MPO May 17 46  ●   World Bank ECA Economic Update May 2017 percent by 2019. The strengthened growth improved external demand for exports). The presence of large undocumented pub- performance will be underpinned by (i) a In the medium run, with slow progress on lic arrears poses a key risk to the prudent pick-up in investment resulting from ex- ongoing structural reforms, CAD is ex- execution of fiscal policy. The size and pected improvements in the business en- pected to deteriorate from 5 percent of complexity of public debt have increased vironment, new energy, transport and GDP in 2016 to 6.7 percent of GDP by in recent years. The ratio of BiH debt-to- tourism projects; and (ii) higher consump- 2019. As the government proceeds with its GDP has risen from 30.2 percent in 2010 to tion due to steady flow of remittances, ambitious fiscal adjustment, the consoli- 41.9 percent in 2015, consisting largely of persistent deflation and low oil prices. dated overall fiscal balance is projected to concessional debt to IFIs. Sustained fiscal As poverty is strongly associated with move to a surplus of 1.6 percent of GDP in consolidation will be needed to bring unemployment and inactivity in BiH, for 2019. A balanced budget is projected in down public debt to below 40 percent of economic growth to translate into poverty 2019, on the assumption of progress on GDP—an appropriate level for an emerg- reduction, improvements in labor market the ongoing structural reform agenda. ing economy with a currency board and participation and employment will remain limited access to international markets. key. The implementation of new labor Political uncertainties that could hold back laws in both BiH Federation and Repub- lika Srpska, and the introduction of sup- Risks and challenges the reform agenda are seen as the highest risk for the medium term outlook. Still port schemes for first-time job seekers, continued progress on the reform agenda may support improved employment out- Although fiscal deficit remains small, the is evident as the country received in De- comes in 2017. However, as unemploy- fiscal situation still suffers from a combi- cember 2016 a detailed Questionnaire ment remains high, and since real wages nation of high tax burden and inefficient from the European Commission on which are expected to remain largely flat due to patterns of spending. Fiscal consolidation its readiness to be granted EU candidate the substantial remaining slack in the la- would not be effective if structural rigidi- status will be evaluated -- the first step in bor market, poverty is projected to remain ties on the expenditure side are not ad- the accession process. The three year Ex- stagnant or to decline only modestly over dressed, especially the large public wage tended Fund Facility IMF program agreed the next couple of years. bill and sizeable and poorly targeted so- in September 2016, and support from oth- The current account deficit is forecast to cial assistance. Moreover, a full account- er partners like the World Bank, will also improve in the short run due to favorable ing of arrears does not exist in BiH and its help the authorities to deliver on their external conditions (low oil prices and reporting and monitoring is very weak. ambitious reform agenda. TABLE 2 Bosnia and Herzegovina / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.1 3.0 2.8 3.2 3.7 4.0 Private Consumption 1.9 1.2 1.7 2.1 2.5 2.3 Government Consumption 0.9 -0.5 1.8 2.8 3.0 3.0 Gross Fixed Capital Investment 1.1 2.5 2.0 7.4 9.6 9.6 Exports, Goods and Services 4.2 3.0 4.1 2.5 3.0 3.5 Imports, Goods and Services 8.1 -1.7 1.2 2.2 3.2 2.8 Real GDP growth, at constant factor prices 1.1 3.0 2.9 3.2 3.6 4.0 Agriculture -12.7 8.5 5.0 2.8 3.0 3.0 Industry 1.8 3.0 3.0 2.7 3.0 3.0 Services 2.5 2.5 2.6 3.5 3.9 4.4 Inflation (Private Consumption Deflator) -0.5 -0.5 -0.8 0.9 1.4 1.4 Current Account Balance (% of GDP) -6.8 -5.4 -5.1 -6.0 -6.5 -6.7 Financial and Capital Account (% of GDP) 6.6 5.2 4.9 5.7 6.3 6.5 Net Foreign Direct Investment (% of GDP) 2.6 1.2 1.2 1.2 2.3 2.8 Fiscal Balance (% of GDP) -2.0 0.7 -0.6 -0.6 -0.7 0.0 Debt (% of GDP) 41.8 41.9 42.5 40.6 39.1 37.4 Primary Balance (% of GDP) -1.2 1.6 0.5 0.5 1.0 1.4 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. MPO May 17 Selected Country Pages ●  47 ing, with the income of the richest 20 BULGARIA Recent developments percent of the population being more than seven times that of the poorest 20 percent in 2015. While declining, unem- Similar to 2015, GDP grew by 3.4 percent ployment is still high, especially long - in 2016, a significant improvement com- term and youth, and with high regional Table 1 2016 pared to the 2009-14 period. Exports, sup- variation. Inactivity among certain Population, million 7.1 ported by strong demand from EU, ex- groups of the population remains high as GDP, current US$ billion 51.6 panded at a robust rate and were the key a result of an education system with de- GDP per capita, current US$ 7239 driver of growth. Private consumption teriorating quality and rising inequality, Poverty rate ($2.5/day 2005PPP terms)a 5.6 continued to improve on the basis of low and a large number of people excluded Poverty rate ($5/day 2005PPP terms)a 16.4 inflation and favorable labor market con- from economic opportunities, such as the Gini Coefficienta 36.0 ditions. Unemployment declined to a sev- elderly, people living in rural areas, and School enrollment, primary (% gross)b 99.4 en-year low (7.6 percent of the labor force the Roma. Excluding a large number of in 2016), new jobs were created in a num- people is especially damaging for growth Life Expectancy at birth, yearsb 74.9 ber of sectors employing both high and in the case of Bulgaria which is undergo- Sources: World Bank WDI and Macro Poverty Outlook. low-skilled labor, and wages in the pri- ing the steepest decline in population in Notes: vate sector grew by close to 10 percent in the world. (a) Most recent value (2012) real terms compared to 2015. Although Strong economic activity and slow imple- (b) Most recent WDI value (2014) the slow start of EU financed capital pro- mentation of public investment projects jects negatively affected fixed investment, strengthened Bulgaria ’s cash fiscal posi- surge in inventories kept overall invest- tion. Fiscal accounts recorded a cash sur- ment growth positive. Weaker investment plus of 1.6 percent of GDP in 2016, com- compared to 2015 meant slower output pared to a planned deficit of 2 percent. Bulgaria’s economic recovery continued and employment growth of industry and This was the first surplus since 2008 and in 2016 and supported improved fiscal declining output and loss of jobs in con- was supported by sustained improve- performance but the medium-term outlook struction. The recovery of agriculture out- ments in tax collection which more than remains challenging. Stronger growth put and productivity offset to some extent offset lower revenues from EU grants. and improvements in the labor market the lower contribution of industry and The slower than expected start of the construction to GDP growth. new cycle of EU-financed capital projects, have contributed to poverty reduction. On account of robust economic growth kept public spending well below the Further gains in growth, poverty reduc- and an equally strong labor market per- planned level and at close to 60 percent tion and shared prosperity would hinge formance, poverty continued to decline of its 2015 level. on strengthening institutions, boosting in 2016. Moderate poverty ($5/day) and The external current account surplus extreme poverty ($2.5/day) are estimated continued to grow supported by further the skills and employability of the labor to have declined from 14.7 percent and narrowing of the trade balance and de- force, and improving the effectiveness and 5.0 percent in 2015 to 13.7 percent and 4.8 clining FDI income payments. The trade efficiency of public spending. percent, respectively, by the end of 2016. deficit narrowed on an annual basis sup- However, income inequality is one of the ported by favorable terms of trade and highest in the EU and has been increas- fast growing exports. FIGURE 1 Bulgaria / GDP growth, contributions to growth FIGURE 2 Bulgaria / Poverty rates, percent (at $2.5 and $5 per day, PPP terms) Percent, percentage points Percent Extreme poverty ($2.5/day) 15 20 Moderate poverty ($5/day) Extreme poverty projection 10 Moderate poverty projection 15 5 0 10 -5 -10 5 -15 2008 2009 2010 2011 2012 2013 2014 2015 2016 Consumption Gross capital formation 0 Net Exports GDP 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Sources: NSI and World Bank staff estimates Sources: World Bank staff estimates. MPO May 17 48  ●   World Bank ECA Economic Update May 2017 ate poverty is projected to fall to 13.0 Outlook percent in 2017 and 12.2 percent in 2018, whereas extreme poverty is projected to Risks and challenges fall to 4.3 percent in 2017 and 4.1 percent GDP growth is projected to slow to 3.0 in 2018. The key challenge for Bulgaria is to accel- percent in 2017, as the positive contribu- The external current account is expected erate convergence with the rest of the EU tion of external trade diminishes with oil to continue to be in surplus, although and deal with the negative consequences prices surging and uncertainty in the EU declining by 2019. Export growth is pro- of its demographic change. Accelerating increasing. Household consumption is jected to be robust, in line with Bulgar- convergence would require improvements likely to be the key driver of growth as ia’s improved competitiveness on EU in productivity and in labor force partici- labor market and credit conditions im- markets. Import growth is likely to be pation. According to a recent World Bank prove further. Going forward, the eco- affected by higher oil prices and report, Bulgaria will need to raise its nomic recovery is projected to be modest, strengthening domestic demand for in- productivity growth to at least 4 percent with growth picking up to 3.2 percent in vestment goods. per year to reach the average EU income 2018 and 3.3 percent in 2019. Recovery of The fiscal position is likely to weaken levels within a generation. Yet, annual external demand is likely to be con- slightly in 2017 but improve in the me- average productivity growth over the last strained by lingering geopolitical ten- dium term. In 2017, fiscal accounts are 5 years was 2.2 percent while improve- sions in the region, and uncertainty relat- set to be in a deficit of 0.6 percent of ments in labor force participation were ed to the Brexit. Investor sentiment is GDP (based on ESA 2010 methodology) constrained by skill shortages and a large likely to be affected by the ability of the as implementation of EU funded capital portion of the population is at risk of pov- new government to reinstate political projects accelerates compared to 2016. erty or social exclusion. stability and implement growth enhanc- Strong revenue collection driven by fur- Enhancing productivity growth would ing reforms. ther improvements in compliance and require strengthening institutions, enhanc- Poverty reduction is expected to contin- an increased social contribution rate is ing the skills and employability of all Bul- ue at a modest pace in the near term. likely to support fiscal consolidation in garians, and making public spending on Continued improvements in employ- the medium term. Limited improve- health, pensions and long-term care more ment and wages, as well as scheduled ments in spending efficiency of select effective and efficient to ensure inclusive- increases in pensions and minimum sectors could undermine fiscal consoli- ness and sustainability of growth in the wages, should support real incomes and dation plans going forward and limit face of demographic changes. therefore further reductions in poverty the potential of public spending to en- of the elderly and working poor. Moder- hance growth. TABLE 2 Bulgaria / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.3 3.6 3.4 3.0 3.2 3.3 Private Consumption 2.5 3.9 2.1 3.0 3.2 3.4 Government Consumption -0.8 2.9 0.6 1.8 2.4 1.0 Gross Fixed Capital Investment 3.4 2.7 -4.0 1.0 3.5 3.7 Exports, Goods and Services 3.1 5.7 5.7 5.2 4.8 4.9 Imports, Goods and Services 5.2 5.4 2.8 3.1 4.4 4.8 Real GDP growth, at constant factor prices 1.5 3.1 2.7 3.0 3.2 3.3 Agriculture 4.8 -6.8 4.3 1.2 1.5 1.5 Industry 0.3 4.2 2.0 2.1 3.3 3.3 Services 1.7 3.3 3.0 3.5 3.3 3.5 Inflation (Consumer Price Index) -1.4 -0.1 -0.8 1.1 1.3 1.3 Current Account Balance (% of GDP) 0.1 0.4 3.9 2.7 1.5 0.3 Financial and Capital Account (% of GDP) 2.9 -3.8 -4.3 -0.6 0.5 1.7 Net Foreign Direct Investment (% of GDP) 2.7 3.7 1.6 1.9 2.2 3.1 Fiscal Balance (% of GDP) -5.5 -1.7 1.0 -0.6 -0.4 0.0 Debt (% of GDP) 27.0 26.0 27.4 26.6 25.7 24.5 Primary Balance (% of GDP) -4.7 -0.8 1.9 0.3 0.5 0.9 Poverty rate ($2.5/day PPP terms) a,b,c 5.5 5.0 4.8 4.3 4.1 3.6 Poverty rate ($5/day PPP terms) a,b,c 15.6 14.7 13.7 13.0 12.2 11.5 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 2-EU-SILC. (b) P ro jectio n using neutral distributio n (2012) with pass-thro ugh = 0.87 based o n GDP per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 201 7 to 2019. MPO May 17 Selected Country Pages ●  49 External imbalances narrowed as current CROATIA Recent developments account remained in surplus of 2.7 per- cent of GDP in 2016. Net exports of ser- vices due to a record -high tourist season Growth doubled in 2016 to 2.9 percent on and improved absorption of EU funds the back of the record-high tourist season, have contributed most to this result. Do- Table 1 2016 accelerated private consumption, and a mestic demand recovery underpinned Population, million 4.2 rebound of investment after six years of import growth that led to deterioration GDP, current US$ billion 50.2 decline. The recovery was broad based, of trade balance, which increased to 16.2 GDP per capita, current US$ 12018 with a surge in industrial production, con- percent of GDP. External debt declined to Poverty rate ($2.5/day 2005PPP terms)a 2.1 struction and tourism contributing the 91.4 percent of GDP in 2016, over 12 per- a 9.4 most to the accelerated growth. centage points lower level than a year Poverty rate ($5/day 2005PPP terms) a Labor market performance improved ago driven by continued deleveraging of Gini Coefficient 32.5 b with a sharp decline of unemployment to both financial sector and government, Life Expectancy at birth, years 77.1 14 percent in 2016 (down by 2.5 percent- which switched its refinancing to domes- Source:World Bank WDI and M acro Poverty Outlook age points from 2015) as job creation and tic market. Fiscal consolidation continued Notes: net migration outflows intensified. A in 2016 with general government deficit (a) M ost recent value (2012) (b) M ost recent WDI value (2014) high level of emigration (around 54,000 (ESA methodology) narrowing to below people left the country) and continued 2 percent of GDP from 3.3 percent in outflows from inactivity into early retire- 2015. Revenues increased substantially ment, led to declines in labor force partic- led by rising tax revenues (especially ipation. Thus, the employment rate re- corporate tax, VAT and excises), while Growth strengthened in 2016 led by ex- mained at low 44.5 percent, far below the spending was restraint due to temporary ports, domestic demand and investment EU average. financing in effect throughout the first Real net wages increased by 3 percent due quarter after the general elections and no recovery. Given the labor market recovery to the deflationary and labor market pres- government until the snap elections in and real wage and disposable income in- sures in sectors that face skill shortages. September 2016. Yet, given the automatic crease, the poverty rate has continued Compared to the pre-crisis level, real per rise, public wage bill and social spending trending downwards to 8.4 percent (at capita income in 2016 stood at about 4 grew. Given the robust primary surplus, $5/day PPP). Due to the improved fiscal percent lower level, while the absolute public debt decreased to 84.2 percent of poverty rate measured at $5/day PPP in- GDP from 86.6 percent at end -2015. Croa- outcomes, Croatia would likely exit the creased from 5.9 in 2009 to 8.4 percent in tia is likely to meet the requirements for Excessive Deficit Procedure in 2017. Yet, 2016. This increase of absolute poverty exiting the Excessive Deficit Procedure fiscal imbalances would require further between 2009 and 2016 was largely driven (EDP) from June 2017. Yet, the 2017 narrowing in the medium term, while by a downturn of labor markets – both a budget target a rise in headline as well as decrease of total employment and real the structural deficit, which may put the stronger personal consumption and EU wages – and limited public transfers to country back under the EDP unless cor- funds absorption would continue to sup- poor and especially elderly households rective measures are not undertaken. port solid growth in 2017-19. that show poverty rates far above the na- Government adopted the 2017 budget tional average. with a deficit of 2.1 percent of GDP relax- FIGURE 1 Croatia / GDP growth, contributions to growth FIGURE 2 Croatia / Actual and projected poverty rates and real GDP per capita, 2009-2019 Percent, percentage points Poverty rate (%) GDP per capita (constant LCU) 4 12 88000 86000 2 10 84000 0 82000 8 80000 -2 6 78000 76000 4 -4 74000 72000 2 -6 70000 2010 2011 2012 2013 2014 2015 2016e 2017f 2018f 2019f 0 68000 Final consumption Gross fixed capital formation 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Change in inventories Net exports Residual item GDP growth $2.5/day PPP $5/day PPP GDP per capita Sources: CROSTAT, World Bank. Sources: World Bank (see notes to Table 2). MPO May 17 50  ●   World Bank ECA Economic Update May 2017 ing both revenue as well as spending given a high import-reliance of the growth of slowing down the pace of structural amid optimistic growth projection of over model. reforms and achieving sustainability of 3 percent. Aside from personal tax cuts, Croatia might exit the Excessive Deficit public debt. Still high levels of private and tax reform includes profit tax reduction to Procedure in 2017 based on the past per- public sector indebtedness amid the Fed’s 18 percent (from 20 percent) while SMEs formance. Public finances would continue monetary tightening and the increased with income lower than 3 million HRK to improve with headline fiscal deficit volatility on the financial market are set now pay a 12-percent profit tax. In addi- amounting to 1.7 percent of GDP in 2017- against the country’s borrowing require- tion, lower VAT rate of 13 percent is ap- 19, although structural deficit would grow ments of 11 percent of GDP in 2017-19. plied to the delivery of electricity, waste to 3 percent of GDP. Positive labor market Sustained fiscal consolidation and com- collection, funeral services and farming developments and an increase of real pen- petitiveness reforms are needed to reduce raw materials. The estimated loss of reve- sions by 1.6 percent year-on-year mainly macroeconomic imbalances and protect nues is 0.6 percent of GDP. Budget also due to the deflationary pressures in 2016, nascent recovery. Yet, the growth recov- raised civil servants’ wages by over 6 per- are expected to support growth of dispos- ery has reduced the reform drive. Im- cent, veterans’ benefits as well as materni- able income for all segments of the wel- provements in labor markets will be key ty benefits in a quest to prevent further fare distribution. A tax reform package to achieve a sustainable reduction in abso- demographic decline. The spending rise which includes personal tax cuts with lute poverty. However, this will only ma- accounts for 1 percent of GDP. income brackets changed from 12, 25 and terialize if the domestic economy is able to 40 percent to 24 and 36 percent along with create additional jobs such that the unem- an increase of non-taxable income by 46 ployment rate can decline further, and Outlook percent would also support the income growth. It is expected that by 2019 the activity rates and employment rates in- crease substantially. The increase in fixed- absolute poverty rate measured at $5/day term employment – particularly high The economy is expected to grow by 2.9 PPP will decline further to 7.1 percent. among new hires – became possible percent in 2017, and around 2.6 percent in through a liberalization of the labor mar- 2018-19. Growth will be led by strength- ket in 2013 and 2014, and opens a path- ened personal consumption, tourism and investments, benefitting from the EU Risks and challenges way into the labor market, but looking forward it also creates risks in terms of a funds absorption. Personal consumption dual labor market which potentially un- is expected to intensify reflecting personal Risks are still skewed to the downside. dermines the role of labor markets to sup- tax reform, labor market recovery, and a Although fiscal outcomes are better than port private consumption growth and pick-up in lending activity. Current ac- expected, new fiscal expansion and do- welfare improvements. count surplus will decline to 1.6 percent mestic policy uncertainty adds to the risks TABLE 2 Croatia / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices -0.4 1.6 2.9 2.9 2.5 2.6 Private Consumption -0.7 1.2 3.3 3.5 2.7 2.6 Government Consumption -1.9 0.6 1.7 1.0 1.2 2.0 Gross Fixed Capital Investment -3.6 1.6 4.6 6.0 7.0 6.5 Exports, Goods and Services 7.3 9.2 6.7 5.6 4.2 4.4 Imports, Goods and Services 4.3 8.6 7.3 7.0 6.4 5.9 Real GDP growth, at constant factor prices -0.1 1.4 2.8 2.9 2.5 2.6 Agriculture 0.0 -0.4 0.1 2.0 2.1 2.2 Industry 0.5 1.9 4.3 2.8 2.7 2.7 Services -0.3 1.3 2.4 3.0 2.4 2.6 Inflation (Consumer Price Index) -0.2 -0.5 -1.0 1.0 1.5 2.0 Current Account Balance (% of GDP) 2.0 5.3 2.7 1.9 1.5 1.2 Financial and Capital Account (% of GDP) -0.8 -3.8 0.5 -2.7 -2.4 -2.1 Net Foreign Direct Investment (% of GDP) 1.6 0.6 4.3 3.1 3.1 3.1 Fiscal Balance (% of GDP) -5.4 -3.3 -1.9 -2.1 -1.8 -1.2 Debt (% of GDP) 86.6 86.7 84.2 83.8 82.1 80.4 Primary Balance (% of GDP) -1.9 0.3 1.5 1.3 1.6 2.1 Poverty rate ($2.5/day PPP terms) a,b,c 2.1 1.7 1.5 1.4 1.4 1.4 Poverty rate ($5/day PPP terms) a,b,c 9.7 9.0 8.4 7.7 7.4 7.1 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 2-EU-SILC. (b) P ro jectio n using neutral distributio n (2012) with pass-thro ugh = 0.87 based o n GDP per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 201 7 to 2019. MPO May 17 Selected Country Pages ●  51 This note was updated May 3rd 2017 to account for new data and developments sector, yielding a return on assets of 2.8 GEORGIA Recent developments percent and return on equity of 19.2 per- cent. Nonperforming loans (>90 days past due) represented only 3.7 percent of gross Amidst a worsened external environment, loans in December 2016, down from 2015 exports declined by 4 percent in 2016. Re- level of 4.4 percent. The decline in exports Table 1 2016 mittances recovered in the second half of and remittances, along with the slow ad- Population, million 3.7 the year (after a weak start) increasing by justment of imports, widened the current GDP, c urrent US$ billion 14.2 7 percent for 2016 as a whole. In contrast, account deficit from 12 percent of GDP in GDP per capita, c urrent US$ 3833 construction and other non -tradables 2015 to 13.3 percent in 2016. Foreign direct Poverty rate ($2.5/day 2005PPP terms) a 31.2 grew by 20 percent, raising GDP growth investment financed nearly 90 percent of a in 2016 to 2.7 percent. Net employment the deficit. External debt increased from Poverty rate ($5/day 2005PPP terms) 69.3 creation has, however, been low until re- 107 percent of GDP in 2015 to 108 percent Gini Coeffic ient a 38.5 cently, explaining the limited role it has in 2016 driven by the higher external defi- b Sc hool enrollment, primary (% gross) 116.9 played in poverty reduction. In rural are- cit and a 10 percent nominal depreciation Life Expectanc y at birth, years b 74.5 as, the sale of agricultural products con- of the Lari. Source:World Bank WDI and M acro Poverty Outlook tributed to poverty reduction, although it Poverty at 2005 PPP US$2.5 per day fell to Notes: still lags labor income and social assis- 31.2 percent in 2015, continuing a decline (a) M ost recent value (2015) (b) M ost recent WDI value (2014) tance. Despite the continuous downtrend that began in 2010 (when poverty peaked in poverty in recent years, large urban- at 46.7 percent). Estimates suggest poverty rural disparities persist. declined further in 2016, although at a In an effort to support growth, the gov- slower pace because of modest economic ernment boosted capital spending by 6 growth. During 2013-15, poverty reduc- percent in 2016. This was accompanied by tion was largely driven by a combination Georgia’s economy grew by 2.7 percent in a 13 percent increase in current spending, of strong growth in the construction and 2016, driven by construction and other widening the fiscal deficit to 4.1 percent non-tradable sectors, both of which em- non-tradables. In 2017 growth is project- of GDP. ploy a large number of unskilled workers, With economic growth below potential, and an increase in agricultural income. ed to recover moderately at 3.5 percent, real effective exchange rate appreciation led by external demand and public invest- (due to stronger nominal depreciation in ment. As a result, the fiscal deficit will remain elevated at 4.1 percent of GDP, partner countries than in Georgia) and high unemployment, inflation remained Outlook low at 1.8 percent (y/y) in December 2016; unchanged from 2016. Poverty is ex- as a result, the National Bank of Georgia Economic growth is projected to average 4 pected to decline modestly in 2017 as eco- maintained its policy rate at 6.5 percent. percent a year over the medium-term, but nomic growth recovers and translates into However, the policy rate was raised in downside risks to growth remain. The higher labor income. January 2017 (by 25 basis points) to reflect pick-up in growth in 2017 will largely be rising inflation expectations from higher driven by high investment and some re- excise taxes. Prudent banking supervision covery in the export markets. With the reinforced the stability of the banking Russian economy recovering in 2017 and FIGURE 1 Georgia / GDP growth decomposition FIGURE 2 Georgia / Poverty rate and GDP per capita Percentage points/percent Poverty (%) GDP per capita (constant LCU) 15 90 4000 Gov. consumption Net Exports 80 3500 Investments 10 70 3000 Prv. Consumption GDP growth 60 2500 5 50 2000 40 1500 0 30 20 1000 -5 10 500 0 0 2003 2005 2007 2009 2011 2013 2015 2017 2019 -10 2010 2011 2012 2013 2014 2015 2016e 2017p 2018p 2019p $2.5/day PPP $5/day PPP GDP pc Source: WB estimates based on Geostat statistics. Source: World Bank (see notes to Table 2). MPO May 17 52  ●   World Bank ECA Economic Update May 2017 an uptick in oil prices, growth in Geor- 2016 to 8 percent. Georgia’s public debt markets and longer-term stagnation in the gia’s trading partners is likely to increase, rose to 45 percent of GDP in 2016 and is EU could further impact external perfor- raising Georgia’s export. FDI inflows, likely to be maintained at this level over mance. On the fiscal front, lower corporate which largely originated from Azerbaijan the medium-term. tax revenues, high social spending com- and Turkey in 2016, remain resilient. In The poverty rate is projected to continue mitments and plans to significantly ramp the outer years, growth prospects factor in declining through 2018, reaching 26.8 per- up capital spending pose risks to the plans improved economic ties with the EU. The cent (measured at US$2.5/day). Economic for fiscal consolidation. In addition, con- downside risks arise primarily from a recovery in general (and of construction tingent liabilities arising from state owned protracted period of slowdown among activity, in particular, supported by antici- enterprises and the existing power pur- Georgia’s trading partners. pated investments) is expected to drive chase agreements with hydropower com- Fiscal sustainability is expected to be poverty reduction through increased job panies also pose potential risks to fiscal strengthened through the revenue enhanc- opportunities. However, employment sustainability. ing measures announced in the 2017 budg- generation in tradeable sectors will be criti- The pace of poverty reduction may contin- et to counter the impact of the adoption of cal for sustaining the declining poverty ue slowing down, and eventually stall if the Estonian tax model. The latter, which trend going forward. It is unlikely that the pace of private sector employment replaced the corporate income tax with a large social transfers would drive poverty growth in recent years were not to endure. dividend tax, came into effect in January reduction in the near future against the Rural poverty risks remain high if agricul- 2017, reducing tax revenues by 1.5 percent background of limited fiscal space. tural productivity does not increase and of GDP. To offset this loss, the government non-agricultural employment opportuni- increased excise for tobacco and fuel, and ties do not continue to expand. introduced an excise tax on cars. Under the 2017 budget, the government committed to Risks and challenges restraining current spending. The fiscal deficit is expected to narrow in 2017-20 as Key macroeconomic vulnerabilities faced a result of these measures. However, capi- by Georgia include risks to external and tal expenditures and net lending are budg- fiscal sustainability. Continued disturb- eted to increase from 6.5 percent of GDP in ance in some of Georgia’s main export TABLE 2 Georgia / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 4.6 2.9 2.7 3.5 4.0 4.5 Private Consumption 3.2 0.1 1.0 4.7 0.3 0.8 Government Consumption 11.2 22.1 11.0 -1.2 -2.1 1.9 Gross Fixed Capital Investment 24.4 11.7 6.9 6.8 9.6 7.1 Exports, Goods and Services 0.4 6.0 -0.8 4.0 3.2 4.7 Imports, Goods and Services 11.1 10.4 -0.3 5.5 0.4 1.2 Real GDP growth, at constant factor prices 4.4 3.2 2.6 2.2 4.2 4.2 Agriculture 1.6 1.5 3.0 4.0 2.0 1.0 Industry 4.6 4.1 6.0 6.0 5.0 4.0 Services 4.7 3.1 1.5 0.7 4.1 4.7 Inflation (Consumer Price Index) 3.1 4.0 2.1 5.7 2.4 3.0 Current Account Balance (% of GDP) -10.6 -11.9 -13.3 -12.6 -12.2 -11.4 Financial and Capital Account (% of GDP) 10.6 11.9 13.3 12.6 12.2 11.4 Net Foreign Direct Investment (% of GDP) 8.1 9.0 11.0 10.3 10.0 9.9 Primary Balance (% of GDP) -2.1 -2.8 -2.9 -2.7 -2.4 -2.1 Poverty rate ($2.5/day PPP terms) a,b,c 32.3 31.2 30.0 28.5 26.8 25.0 Poverty rate ($5/day PPP terms) a,b,c 69.4 69.3 68.2 66.6 64.8 62.7 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice.Due to pending tax refo rms and expenditure adjustments, fiscal indicato rs are no t repo rted in t No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 5-HIS. (b) P ro jectio n using neutral distributio n (2015) with pass-thro ugh = 0.87 based o n GDP per capita in co nstant LCU. (c) A ctual data: 201 4, 2015. No wcast: 201 6. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  53 of GDP, more than offsetting the current KAZAKHSTAN Recent developments account deficit. This enabled the central bank to partially replenish its internation- al reserves, which it had drawn down to Kazakhstan’s economy continued to suffer finance foreign exchange interventions in from a protracted slowdown in global oil previous years. Table 1 2016 prices and weak domestic demand. Real During 2016, the government maintained Population, million 17.8 GDP growth declined from 1.2 percent in an accommodative fiscal policy to support GDP, c urrent US$ billion 133.7 2015 to an estimated 1 percent in 2016. economic growth, and the authorities GDP per capita, c urrent US$ 7511 On the supply side, a declining oil pro- postponed a planned fiscal consolidation. Poverty rate ($2.5/day 2005PPP terms) a 0.6 duction and slowing growth in the ser- The extended economic support program Poverty rate ($5/day 2005PPP terms) a 19.5 vices sector hindered overall economic focuses on increasing pensions, stipends, growth, but rising output in the agricul- and other social transfers, including disa- Gini Coeffic ient a 26.5 b ture and metallurgy sectors partially offset bility benefits and survivor allowances. Sc hool enrollment, primary (% gross) 110.7 this dynamic. Construction also expand- The package also maintains subsidies to b Life Expectanc y at birth, years 70.5 ed, due to large projects in the oil sector. state-owned enterprises (SOEs) and small Source:World Bank WDI and M acro Poverty Outlook On the demand side, private consumption and medium enterprises, while providing Notes: weakened considerably due to the pass- support for bank recapitalization. While (a) M ost recent value (2015) (b) M ost recent WDI value (2014) through effect of currency devaluation the overall fiscal deficit narrowed from 7.8 that fueled inflation to 14.6 percent percent of GDP in 2015 to 5.3 percent in (annual average) and undermined the 2016, the nonoil deficit remained elevated purchasing power of households. Infla- at 10.2 percent of GDP in 2016, 2 percent- In 2016, Kazakhstan’s real GDP growth tionary pressures subsided in Q4 2016, age points higher than its pre-crisis level. allowing the central bank to loosen its The economic slowdown negatively continued to slow and real wages declined contractionary monetary policy stance. affected the labor market and affected further, adversely affecting poverty rates. Banking sector activity remained de- household income adversely in 2016, with The authorities reacted by extending addi- pressed, and lending to the economy con- the decline in average real wages (0.9 per- tional spending measures and loosening tinued contracting in real terms. The au- cent) and employment (0.5 percent). thorities announced plans to support the Women and youth are the first to experi- monetary policy during the year. Medium sector by recapitalizing large banks and ence the effects of the slowdown. During -term growth is projected to pick up slow- addressing nonperforming loan (NPL) 2014-15, the female labor market partici- ly as oil prices recover and oil production issues. For this purpose, the government pation rate slid from 66.4 percent to 65.7 gradually expands. To improve Kazakh- will inject an additional US$6.5 billion into percent and youth unemployment rose stan’s growth prospects, and to enhance the Problem Loans Fund in 2017. from 6.8 percent to 8.3 percent. Conse- Lower oil prices and oil output also wid- quently, the poverty rate (PPP US$5 per the sustainability and inclusiveness of ened the current account deficit signifi- day) rose from 16.1 to 19.5 percent in 2014 growth, the authorities will need to deep- cantly—from 3 percent of GDP in 2015 to -15 and stabilized at an estimated 19.8 en structural reforms designed to facili- 6.1 percent in 2016. However, investments percent in 2016. tate economic transformation. in oil production pushed up net foreign The authorities attempted to mitigate the direct investment inflows to 10.7 percent impact of falling real incomes by adjusting FIGURE 1 Kazakhstan / Contribution to GDP growth FIGURE 2 Kazakhstan / Actual and projected poverty rates Percent, percentage points Percent 10 50 Consumption Actual ($5/day) Investment 8 Estimated/Projected ($5/day) Net exports 40 GDP growth 6 30 4 2 20 0 10 -2 -4 0 2012 2013 2014 2015 2016 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Sources: Statistical Office of Kazakhstan. Sources: World Bank staff estimates. MPO May 17 54  ●   World Bank ECA Economic Update May 2017 pensions and other social transfers and Kashagan offshore oil field is expected to As the inflationary pass-through effect of expanding employment support pro- more than offset declining output among the recent currency depreciation fades, grams. An increase in social transfers from older oilfields. real wages and consumer purchasing 3.8 percent of GDP in 2015 to 4.0 percent The outlook for the current account is power are expected to improve. This may in 2016 primarily benefitted households generally positive, while the fiscal posi- help accelerate poverty reduction, though receiving pensions, and their income lev- tion is expected to deteriorate, due in part at a much slower pace than before. els remained steady. To support employ- to the large banking sector support pack- ment and labor productivity, the govern- age approved in early 2017. Efforts to re- ment allocated additional funding to the Employment Road Map-2020, and adopt- solve NPL problems in the banking sector, however, are expected to support growth Risks and challenges ed a Productive Employment and Mass by facilitating the long-awaited recovery Entrepreneurship Program for 2017- of lending to the economy. Over the long- Downside risks to Kazakhstan’s economic 2021. However, these measures were una- er term, the ongoing implementation of outlook include the potential weakening ble to mitigate the full impact of the slow- the “100 Concrete Steps” institutional re- of the external environment, capacity con- down on household income, especially for form program may have positive spillo- straints, and the loss of reform momen- low income families. vers for private sector development and tum. The economy’s vulnerability to exter- economic diversification. nal shocks remains the major source of Gradually improving economic perfor- risk to medium-term growth and poverty Outlook mance will allow the government to re- sume the fiscal consolidation process reduction. The anticipated political transi- tion, including an ongoing constitutional while protecting the existing social spend- reform process, may slow the shift to a Economic activity is projected to pick up ing commitments and efforts to strengthen new development model aimed at pro- gradually over the medium term, but safety nets for households in extreme pov- moting more sustainable and inclusive growth will remain well below its 2014 erty. The government is also expected to growth. The successful implementation of level, when the oil price shock hit the make further progress on the restructur- the institutional and structural reforms economy. Output is projected to expand ing and privatization of SOEs in 2017 and included in the “100 Concrete Steps” pro- by 2.4-2.9 percent per year during 2017-19, 2018, which will be critical for lowering gram will be vital to strengthen public reducing the poverty rate to a level of fiscal risks. institutions and improve the quality of about 17 percent by 2019. A projected in- An improving economy will allow the human capital. If successfully implement- crease in oil prices from US$55 per barrel central bank to maintain its focus on infla- ed, these reforms will likely contribute to in 2017 to about US$60-62 in 2018-19 will tion targeting. Going forward, the flexible improved living standards, poverty re- drive growth, supported by increased oil exchange rate regime will help the econo- duction, and shared prosperity. production, as rising output at the my better absorb external shocks. TABLE 2 Kazakhstan / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 4.2 1.2 1.0 2.4 2.6 2.9 Private Consumption 1.4 1.8 -0.5 1.0 1.5 2.0 Government Consumption 9.8 2.4 2.4 1.7 -2.3 1.7 Gross Fixed Capital Investment 4.4 4.2 5.3 7.4 7.1 5.8 Exports, Goods and Services -2.5 -4.1 -3.0 3.5 1.8 2.1 Imports, Goods and Services -4.0 -0.1 -2.7 4.1 2.0 2.2 Real GDP growth, at constant factor prices 3.9 1.9 1.0 2.5 2.6 2.9 Agriculture 1.3 3.5 5.5 3.0 3.0 3.0 Industry 1.5 -0.4 0.6 3.3 2.3 2.6 Services 5.7 3.2 0.9 2.0 2.8 3.1 Inflation (Consumer Price Index) 6.7 6.6 14.6 6.2 4.7 4.9 Current Account Balance (% of GDP) 2.7 -3.0 -6.1 -2.4 -1.4 -1.2 Financial and Capital Account (% of GDP) 3.3 5.5 7.2 3.3 2.2 2.0 Net Foreign Direct Investment (% of GDP) 2.2 1.8 10.7 2.6 2.4 2.2 Fiscal Balance (% of GDP) 0.0 -7.8 -5.3 -8.0 -3.3 -3.4 Debt (% of GDP) 14.5 21.9 20.1 18.3 20.0 22.3 Primary Balance (% of GDP) 0.6 -7.1 -4.2 -7.1 -2.7 -2.7 Poverty rate ($2.5/day PPP terms) a,b,c 0.4 0.6 0.6 0.5 0.5 0.5 Poverty rate ($5/day PPP terms) a,b,c 16.1 19.5 19.8 19.0 18.1 17.0 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 5-HB S. (b) P ro jectio n using neutral distributio n (2015) with pass-thro ugh = 1 based o n GDP per capita in co nstant LCU. (c) A ctual data: 201 4-2015. No wcast: 201 6. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  55 14.6 percent of GDP in 2016 from 12.9 per- KOSOVO Recent developments cent of GDP in 2015. The current account deficit (CAD) widened from 10.4 percent of GDP in 2015 to 11.5 Kosovo’s economy is estimated to have percent of GDP in 2016, primarily due to a grown at 3.6 percent in 2016. Growth in deteriorating trade deficit (3.2 percent in- Table 1 2016 2016 was due to consumption crease y/y). Imports grew by 6.7 percent y/y Population, million 1.8 (contributing 4.5 percentage points, pp) on account of strong domestic demand. GDP, current US$ billion 6.6 and an investment-driven recovery in Meanwhile, lower prices for base metals GDP per capita, current US$ 3654 domestic demand (2.2 pp). Net exports led to a 4.6 percent y/y decline in exports School enrollment, primary (% gross)a n.a. subtracted 3.1 pp from growth, as growth (Ferronikeli, the main exporter, temporarily a 70.8 of exports of travel services could not halted production due to low prices). De- Life Expectancy at birth, years match that of imports for domestic con- clining FDI inflows weighed down the Source:World Bank WDI and M acro Poverty Outlook sumption and investment. A healthy ex- financial account balance in 2016. Net FDI Notes: (a) M ost recent WDI value (2014) pansion of activities in trade, transporta- fell by 34.4 percent y/y as at the end No- tion, financial sector and accommodation vember 2016 because of a 29.2 percent de- made the services sector a chief contribu- cline in FDI inflows (likely signaling the tor to growth, followed by agriculture, start of saturation in the diaspora’s demand and industry. for real estate and financial intermediation Improved revenue collection and a low services), and a 25.7 percent increase in execution of the capital budget helped equity investment and fund shares out- The economy grew by 3.6 percent in contain the fiscal deficit to about 1.3 per- flows. Consumer prices increased on aver- cent of GDP in 2016. A combination of age 0.3 percent in 2016 driven by higher 2016, driven primarily by private con- both collection efforts and policy change fuel and food prices by the end of 2016, but sumption and investment. Higher (increase in the VAT rate from 16 to 18 still low to help maintain purchasing pow- growth rates are projected for 2017 - percent at the end of 2015) contributed to er of household incomes. 18, boosted by public investment a 2.3 percent of GDP increase in tax reve- The labor market is showing some signs of pickup. Growth resulted in employ- nues in 2016. Revenues grew by 5.6 per- improvement and contributing to poverty cent y/y, and expenditures 6.5 percent y/y, reduction. Unemployment among women ment creation in 2016, supporting including 9.8 percent y/y growth in capital fell by 5 percentage points in 2015 to 36.3 poverty reduction at home; but sus- investments, 10.7 percent y/y in transfers percent (male unemployment fell from 33.3 tained poverty reduction remains and 4.1 percent y/y in wages. The fast in- to 31.8 percent). The share of employed in challenging as labor markets remain crease in transfers was due to the increase vulnerable employment also declined in in the number of beneficiaries qualifying 2015. Based on preliminary data, there have weak and pressures to seek employ- for the war veteran social assistance, add- been further declines in unemployment ment abroad remain high . ing to fiscal pressures, and reducing the rate including that of the youth in 2016, fiscal room for targeted support to the although these dynamics remain to be as- poor. The public and publicly guaranteed certained once data for the full year are debt is still low by regional comparison, available. Poverty declined in 2015 on ac- but continued its upward trend reaching count of the economic recovery, particular- FIGURE 1 Kosovo / GDP growth, contributions to growth FIGURE 2 Kosovo / Key unemployment indicators Percent, percentage points Percent 0.08 80 2012 2013 2014 2015 0.06 70 0.04 60 50 0.02 40 0 30 -0.02 20 -0.04 10 -0.06 0 2011 2012 2013 2014 2015 2016 Unemployment rate Youth unemployment Long term Consumption Investments rate (15-24) unemployment share Net exports Real GDP growth (12+ months) Sources: Statistics Agency of Kosovo and WB staff. Sources: Statistics Agency of Kosovo and WB staff. MPO May 17 56  ●   World Bank ECA Economic Update May 2017 ly in agriculture, higher remittances, wages in strategic sectors, which will boost public and pensions, and is projected to have con- tinued on a downward trend in 2016 driv- investment and economic growth. Doubts remain, however, as to the government’s Risks and challenges en by labor market improvements, and capacity to absorb these funds. benefiting from stable prices. Investment growth will cause a slight wid- The outlook is subject to downside risks. ening of the current account deficit (CAD) They include the sensitive political situa- in 2017-2018. FDI is expected to increase in tion in the north and demarcation with Outlook 2018-19, especially with new investments in power generation capacities. This Montenegro, and perceived high corrup- tion, that have disrupted economic agen- should boost growth and provide addi- da. Addressing high unemployment and Economic growth in Kosovo is projected tional employment opportunities. poverty requires significant structural to reach 3.9 percent in 2017, as higher The financial sector is expected to remain reforms to boost economic growth and public and private investments are ex- liquid and strong with both loans and make it more inclusive. pected to contribute 2.7 pp to overall deposits growing, while NPLs declining The overall positive economic forecasts growth, and higher disposable incomes due to good market conditions. depend on growing FDI inflows, which will contribute to higher consumption (a Poverty is projected to continue declining cannot materialize in the presence of key further 2.3 pp of overall GDP growth). slowly in 2017-2018, on account of some political/domestic risks. Reform priorities The contribution of net exports will re- improvements in the labor market, a re- include shifting the sources of growth main negative on account of fast import covery in agriculture, as well as higher towards tradable sectors, increasing do- growth and weak exports constrained by remittances and stable prices. Yet, poverty mestic productivity, engaging and provid- a small export base. reduction during the forecasting period ing employment opportunities to youth, The fiscal rule is expected to keep the fiscal will remain constrained by high inactivity addressing corruption, improving envi- deficit low, while the recently adopted in- and unemployment rates, particularly ronmental sustainability and addressing vestment amendment is opening up some among youth, and by firms’ limited capac- constraints in the energy sector. fiscal space for IFI-financed capital projects ity to create net new jobs. TABLE 2 Kosovo / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 f 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.2 4.1 3.6 3.9 4.2 4.4 Private Consumption 4.8 4.0 5.8 2.0 3.3 2.2 Government Consumption -2.5 -6.5 -4.1 3.7 1.8 1.6 Gross Fixed Capital Investment -3.3 12.5 8.6 10.6 8.0 7.0 Exports, Goods and Services 16.8 2.5 4.8 2.8 5.0 8.4 Imports, Goods and Services 8.6 3.6 8.1 4.4 4.2 2.9 Real GDP growth, at constant factor prices 5.1 2.9 5.7 4.4 4.9 5.2 Agriculture 0.8 -4.1 13.2 6.8 8.4 9.0 Industry 0.1 5.9 6.8 4.8 5.9 6.2 Services 9.3 2.9 3.4 3.6 3.4 3.6 Inflation (Consumer Price Index) 0.4 -0.5 0.3 0.7 1.2 1.7 Current Account Balance (% of GDP) -9.1 -10.4 -11.5 -12.5 -13.3 -12.9 Fiscal Balance (% of GDP) -2.6 -1.9 -1.3 -2.6 -2.9 -2.9 Debt (% of GDP) 10.6 12.9 14.6 17.6 20.4 22.0 Primary Balance (% of GDP) -2.4 -1.7 -0.9 -2.1 -2.4 -2.4 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No te: f = fo recast. MPO May 17 Selected Country Pages ●  57 this helped lower inflation, which barely KYRGYZ Recent developments reached 0.4 percent (annual average). Fiscal policy was significantly expansion- ary, led by public investment and current REPUBLIC Economic growth is estimated at 3.8 per- cent in 2016, declining only slightly from spending over-runs. The stronger som allowed the government to adopt an ex- 3.9 percent in the previous year. The out- pansionary stance, by relieving pressure put expansion was driven mainly by the on debt indicators and counterbalancing Table 1 2016 recovery of gold production (particularly the depreciation bias of public spending. Population, million 6.0 in the second half of the year), which in- The budget deficit grew to 6.6 percent of GDP, c urrent US$ billion 6.6 creased by 5 percent after a -8.3 percent GDP from 3 percent in 2015. While tax rev- decline in 2015. Non-gold growth slowed enues increased as a share of GDP (to 25.2 GDP per capita, c urrent US$ 1083 a to 3.7 percent from 4.9 percent in 2015, percent thanks to increased customs rates Poverty rate ($2.5/day 2005PPP terms) 32.9 driven by the deceleration in agriculture and improved tax administration), this was a Poverty rate ($5/day 2005PPP terms) 85.0 and construction. On the demand side, more than offset by lower non-tax pro- Gini Coeffic ient a 29.0 growth was led mostly by private con- ceeds, driving a reduction in total revenues Sc hool enrollment, primary (% gross) b 106.1 sumption, fueled by an 18 percent in- to 33.3 percent of GDP from 34.9 percent a Life Expectanc y at birth, years b 70.2 crease in remittances (in US dollar terms) year ago. At the same time, expenditures and higher government spending. ballooned to 39.8 percent of GDP (up from Source:World Bank WDI and M acro Poverty Outlook Notes: The current account deficit narrowed from 38 percent in 2015) driven by both higher (a) M ost recent value (2015) 11 percent of GDP in 2015 to 9.4 percent in recurrent and capital outlays. Thanks to the (b) M ost recent WDI value (2014) 2016, due to the recovery of remittances appreciation of the som vis-à-vis the dollar, and some improvement of the trade bal- the public debt-to-GDP ratio declined to ance to 31.8 percent of GDP from 33.6 per- 61.7 percent of GDP as of end December cent a year ago. Exports in US dollars fell 2016 from 67.2 percent a year ago. The Kyrgyz economy performed better by 1.5 percent in 2016 despite higher gold The poverty rate (measured at US$2.5 per than expected in 2016, but the headline exports, and imports in US dollars con- day, 2005 PPP terms) is estimated to have tracted by 4.7 percent. The current account stagnated in 2016 at 32.8 percent. Low figures mask underlying weaknesses in deficit was mainly financed by FDI in- prices (external and domestic) and higher the quality of growth. Growth was driven flows and government borrowing. remittance inflows supported households’ by recovering gold production and re- Over the course of 2016, the som appreciat- consumption, but this was not accompa- mittances, and high public spending. ed by almost 9 percent relative to the US nied by job creation or earned income Modestly positive poverty trends resulted dollar (owing to the improvement in re- growth. Subdued activity in construction gional developments and recovering re- and agriculture, where about 50 percent of from transfers and price developments, mittances). The Central Bank intervened in the bottom 40 are employed, constrained rather than improvements in earned in- the foreign exchange market in the first real labor income growth for the poor. Job comes. Going forward, the economy is quarter of 2016 to counter the appreciation creation did not keep pace with the expected to recover, but remains vulnera- trends, and thereafter alternated purchases growth in the labor force, with new job and sales to keep the exchange rate stable. creation occurring mostly in low produc- ble to the external environment. Together with low food and energy prices, tivity services. FIGURE 1 Kyrgyz Republic / GDP growth, contributions to FIGURE 2 Kyrgyz Republic / Actual and projected poverty growth and GDP growth rates Percent, percentage points Percent of population Percent 5 40 12 4 35 10 30 3 8 25 2 6 20 4 1 15 2 0 10 5 0 -1 2014 2015 2016 2017 2018 2019 0 -2 Agriculture Industry w/out Kumtor 2007 2009 2011 2013 2015 2017 2019 Kumtor Construction GDP growth, RHS $2.5/day PPP, LHS Services GDP (RHS) Sources: World Bank. Sources: World Bank (see notes to Table 2). MPO May 17 58  ●   World Bank ECA Economic Update May 2017 main drivers; total revenue is projected to and exchange rate stability, the country’s Outlook fall by 1.5 percentage points (due to ex- pected lower grant support). economy and the welfare of Kyrgyz citi- zens remain highly exposed to remittance Stable growth projections for agriculture inflows. Exchange rate developments The overall macroeconomic situation is and construction, and further increases in could also affect trade patterns, with local expected to remain broadly unchanged in remittances, are likely to support rural producers already facing competition 2017, assuming exchange rate stability and poverty reduction during 2017-18. Private from Kazakh and other producers from no sudden deterioration in the external sector real wages would rise slowly, re- the Euroasian Economic Union (EEU) giv- environment, especially the economic sulting in a slight reduction in urban pov- en the appreciation of the som relative to fortunes of Russia and Kazakhstan. erty, where wage employment is more their currencies. A major challenge is to Growth is projected to decelerate slightly prevalent. Social transfers will continue to accelerate the process of convergence of to 3.4 percent in 2017 reflecting a planned play an important role in driving poverty local production to EEU standards, as well decline in gold production, while non- reduction in both urban and rural areas. A as to boost the competitiveness of the gold growth is projected to remain flat. In scheduled increase in pensions should economy and its attractiveness to inves- 2018 growth is expected to recover to 4 have a positive distributional effect given tors. More than headline growth, it is the percent owing to remittance supported - that pensions represent close to 15 percent quality of the growth process and jobs consumption; in contrast, thethe contribu- of income among the poor. Finally, lower linkages that are key for sustainable pov- tion from investment would be neutral, food prices in 2017 should also positively erty reduction. and negative from net exports . impact the purchasing power of house- Lastly, while countercyclical fiscal policy In light of the high debt burden (projected holds at the bottom of the income distri- has helped the Kyrgyz economy to weath- to remain above 60 percent of GDP in com- bution. As a result, the national poverty er the impact of the regional crisis, fiscal ing years), the government has committed rate is projected to decline to 31.7 percent consolidation will necessarily entail pain- to a significant fiscal consolidation over in 2017 and 30.2 percent in 2018. ful adjustments and risks (particularly in 2017-18, according to which the govern- an electoral year). Ensuring that it is not ment deficit (excluding on-lending) would derailed and not carried out at the ex- be reduced by about 2.5 percentage points to 2.1 percent of GDP by 2018 (a reduction Risks and challenges pense of key social programs will be a major challenge. to 4.2 percent including on-lending). The adjustment would be expenditure-led, Although overall risks related to exoge- with capital spending (-2.5 pp of GDP) and nous regional developments appear to the wage bill (-1.5pp of GDP) being the have moderated, with greater oil prices TABLE 2 Kyrgyz Republic / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 4.0 3.9 3.8 3.4 4.0 4.8 Private Consumption 3.0 -6.0 2.2 2.5 3.2 3.5 Government Consumption 8.0 1.9 11.0 -6.2 -5.6 -1.2 Gross Fixed Capital Investment 13.0 4.3 3.2 7.2 8.5 8.6 Exports, Goods and Services -6.2 -4.0 -11.3 12.7 11.5 12.8 Imports, Goods and Services 1.6 -17.0 -7.4 5.5 6.9 8.0 Real GDP growth, at constant factor prices 4.0 3.9 3.6 3.2 3.7 4.6 Agriculture -0.5 6.2 3.0 2.2 2.7 3.1 Industry 5.7 2.9 5.9 3.7 5.7 8.1 Services 6.9 2.6 3.2 3.7 3.7 4.5 Inflation (Consumer Price Index) 7.5 6.5 0.4 3.6 4.0 4.0 Current Account Balance (% of GDP) -15.9 -11.1 -9.4 -11.7 -10.9 -9.1 Financial and Capital Account (% of GDP) 8.3 12.4 9.4 11.7 10.9 9.1 Net Foreign Direct Investment (% of GDP) 3.1 15.1 8.1 6.8 6.6 6.5 Fiscal Balance (% of GDP) -4.1 -3.0 -6.6 -4.7 -4.2 -3.1 Debt (% of GDP) 53.6 67.2 61.7 62.8 63.9 63.2 Primary Balance (% of GDP) -3.2 -2.0 -5.6 -3.9 -2.6 -2.1 Poverty rate ($2.5/day PPP terms) a,b,c 29.2 32.9 32.8 31.7 30.2 28.3 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 2009-KIHS and 201 5-KIHS. (b) P ro jectio n using average elasticity (2009-201 5) with pass-thro ugh = 0.7 based o n GDP per capita in co nstant LCU. (c) A ctual data: 201 4, 2015. No wcast: 201 6. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  59 for youth employment in particular, main- MACEDONIA, Recent developments ly in the form of exemptions from social contributions, youth unemployment in- creased from 47.4 percent in 2015 to 48.3 FYR Political uncertainty took a toll on growth in 2016, slowing it from 3.8 percent in 2015 percent. Youth is the only age group whose participation in the labor force has to 2.4 percent. Growth was largely driven been declining since 2012. Long-term un- by household consumption, contributing 3 employment remains high at 81 percent of Table 1 2016 percentage points (pp) and supported by all unemployed. Population, million 2.1 rising employment, wages, pensions, and The current account deficit (CAD) wid- household lending. Relatively flat govern- ened but remains manageable at 3.1 per- GDP, current US$ billion 10.9 ment consumption contributed just 0.2 pp cent of GDP in 2016, up from 2.1 percent GDP per capita, current US$ 5234 to growth. Concern about the political in 2015. The solid increase of goods and Poverty rate ($2.5/day 2005PPP terms) a 12.7 situation affected investment, which fell services exports was not enough to com- by 4.3 percent from 2015 and subtracted pensate for the significant rise in capital Poverty rate ($5/day 2005PPP terms)a 34.3 a 1.4 pp from growth in 2016, despite sig- outflows in the form of dividend payment Gini Coefficient 36.0 nificant investment in roads. Net-exports and profit repatriation. In addition, pri- Life Expectancy at birth, yearsb 75.2 added 0.7 pp to growth, as goods and vate transfers also helped to push up the Source:World Bank WDI and M acro Poverty Outlook services trade balances were in small sur- CAD. Nevertheless, the CAD was more Notes: plus, supported by solid FDI related ex- than fully financed by net FDIs, which (a) M ost recent value (2013) ports and IT and transport services reached 3.6 percent of GDP in 2016. As of (b) M ost recent WDI value (2014) growth. Affected by political uncertain- yearend 2016, foreign exchange reserves ties, industrial output declined by 2.2 per- were still solid at 4.9 months of imports. cent in 2016. Although credit continued to expand in Economic growth slowed to 2.4 percent in Deflation persisted in 2016, for a third 2016, it masked a significant slowdown in 2016 as political uncertainty caused a drop year in a row. Low international food and corporate lending because of the uncertain oil prices, combined with lower domestic political climate. Overall credit growth in private investment. Unemployment eased utility prices led to a price deflation of 0.2 was strong at 6.5 percent in 2016 (y-o-y), due to fiscal stimulus and declining labor percent in 2016. but corporate lending growth plunged force participation. Under-execution of capi- Unemployment continued to fall in 2016 from 7.1 percent in 2015 to 3.2 percent. tal spending led to a smaller fiscal deficit in because of fiscal interventions to create The banking sector is profitable and well- 2016, but current spending increased. Pub- jobs and as labor force participation con- capitalized, with a capital adequacy ratio tracted. Employment grew 2.1 percent y- of 15.7 percent as of Q3 2016, well above lic and publicly guaranteed debt reached 48 o-y in 2016, with a large share of net creat- the regulatory minimum of 8 percent. The percent of GDP. Growth is projected to ed positions linked to government stimu- loan-to-deposit ratio stood at 88 percent, average 3.3 percent during 2017-2019, lus programs. Yet, labor force participa- which suggests that banks have significant driven by private consumption and a recov- tion fell to 56.8 percent in 2016, the lowest room to increase lending, especially to the rate since 2012. As a result, the average corporate sector, once the political uncer- ery in private investment, as political uncer- unemployment rate was 23.7 percent at tainties are resolved. Non -performing- tainties dissipate and confidence is restored. end-2016. Despite a government stimulus loans declined from 10.6 percent at end- FIGURE 1 Macedonia FYR / GDP growth, contributions to FIGURE 2 Macedonia / Annual and projected poverty rates growth and GDP per capita Percent, percentage points Poverty (%) GDP per capita (constant LCU) 6 45 250000.0 40 4 35 200000.0 2 30 150000.0 25 0 20 100000.0 -2 15 10 50000.0 -4 5 0 0.0 -6 2009 2011 2013 2015 2017 2019 2009 2010 2011 2012 2013 2014 2015 2016 f2017 f2018 f2019 f Final consumption Gross capital formation $2.5/day PPP $5/day PPP Net exports Real growth GDP per capita (constant LCU) Sources: FYR Macedonia State Statistics Office and World Bank staff calculations. Sources: World Bank (see notes to Table 2). MPO May 17 60  ●   World Bank ECA Economic Update May 2017 2015 to 6.5 percent at end-2016, as a result Poverty is estimated to have declined in gradually to 2.3 percent in 2019. As a result, of write-off of fully-provisioned loans for 2016 on account of the better labor market PPG debt is expected to increase to 55 per- more than two years. outcomes and increased productivity and cent by 2019 (of which 13 pp are guaran- The fiscal deficit declined in 2016, largely real wages, but progress is expected to tees). The CAD is expected to average 2.6 due to under-execution of capital spend- slowdown in 2017. Using the US$5/day percent of GDP in 2017-2019, driven by ing. The deficit declined to 2.6 percent of and $2.5/day lines (2005 PPP), poverty consumption and investment demand. GDP, significantly lower than the 4 per- rates were projected to have fallen to 30.7 Poverty is expected to continue its down- cent announced in the second budget revi- and 11.3 in 2016, down from 34.3 and 12.7 ward trend in the next few years. Higher sion. The decline relates mainly to a low in 2013 and continuing a decreasing trend productivity and real wage growth and execution of capital spending in the con- present at least since 2009. In 2016, reduc- continuous improvement in labor market text of a prolonged election cycle. Total tions in unemployment and rising real indicators will play a critical role for pov- revenues were 27.9 percent of GDP, de- wages, but also employment growth in erty reduction. However, to the extent that clining from 2015 by 1 pp, due to lower unskilled labor intensive sectors (i.e. con- employment opportunities among the personal income tax and contributions struction) are expected to have contribut- less-skilled contract, or that fiscal consoli- related to the tax-exempt job-creation. The ed to poverty reduction, since rising labor dation efforts lead to a contraction of the revenue decline was more than matched income constituted the most important construction sector, poverty reduction by an expenditure decline of 1.8 pp. How- driver of income growth at the bottom of may stall. ever, the change in composition makes the distribution. budget less sustainable: significant under- performance in capital spending is now Risks combined with current spending that sur- passed 90 percent of the overall public Outlook expenditure. The political situation remains the primary Public and publically guaranteed (PPG) Growth is expected to accelerate to 2.8 per- downside risk to the economy , which may debt continued to rise in 2016, driven cent in 2017 and continue on up to 3.3 per- further erode consumer and private inves- were the 450 million Eurobond issuance cent in 2018, assuming that political uncer- tor confidence, but also postpone the nec- and the accelerated pace of construction tainties are resolved in early 2017, which essary structural reforms. In addition, of two highways, which added to the would improve the confidence of both con- growing fiscal risks with a rapidly rising guaranteed debt. PPG debt reached 47.7 sumers and private investors. The fiscal public debt, could threaten stability and percent of GDP in 2016, compared to 46.4 deficit is expected to remain at a sizable 3.2 undermine growth prospects in the medi- percent in 2015. percent of GDP in 2017 but then to decline um term. TABLE 2 Macedonia / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 3.6 3.8 2.4 2.8 3.3 3.8 Private Consumption 2.2 3.7 4.2 3.2 2.5 2.4 Government Consumption 3.0 2.1 1.1 1.6 2.2 2.4 Gross Fixed Capital Investment 5.7 2.1 -3.9 0.0 3.1 5.0 Exports, Goods and Services 16.5 6.7 11.5 7.7 6.8 6.4 Imports, Goods and Services 14.1 5.2 7.6 5.6 4.8 4.3 Real GDP growth, at constant factor prices 6.5 4.5 3.2 1.7 3.0 4.3 Agriculture 2.2 -0.7 2.8 1.5 1.2 1.0 Industry 11.8 7.8 7.6 8.0 5.5 5.0 Services 5.0 3.9 1.3 -1.3 1.9 4.4 Inflation (Consumer Price Index) -0.3 -0.3 -0.2 0.6 1.4 1.8 Current Account Balance (% of GDP) -0.6 -2.0 -3.1 -3.0 -2.7 -2.1 Financial and Capital Account (% of GDP) -0.6 1.6 2.8 2.6 2.3 1.8 Net Foreign Direct Investment (% of GDP) 2.3 2.3 3.6 2.5 2.7 2.9 Fiscal Balance (% of GDP) -4.2 -3.6 -2.6 -3.2 -2.7 -2.3 Debt (% of GDP) 38.1 38.1 37.7 39.3 40.0 40.6 Primary Balance (% of GDP) -3.2 -2.4 -1.4 -2.0 -1.3 -0.8 Poverty rate ($2.5/day PPP terms) a,b 12.2 11.6 11.3 10.9 10.5 10.0 Poverty rate ($5/day PPP terms) a,b 32.9 31.5 30.7 29.7 28.6 27.3 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n SILC harmo nizatio n, using 201 4-SILC gro uped data (survey year). (b) P ro jectio n using neutral distributio n (2013) with pass-thro ugh = 0.87 based o n GP D per capita co nstant LCU. MPO May 17 Selected Country Pages ●  61 policy stancekeeping the policy rate at 9 MOLDOVA Recent developments percent since October 2016 and increasing the required reserves ratio in April 2017 to absorb the excess liquidity. Moldova’s economy has recovered from Largely due to lower levels of imports and the 2015 recension and grew by 4.1 per- growth of exports the current account Table 1 2016 cent in 2016 supported by a strong recov- deficit narrowed by 2.3 percentage points Population, million 3.6 ery in agriculture and robust private con- to 4.1 percent of GDP in 2016. A double GDP, c urrent US$ billion 6.8 sumption. A strong increase in wages and digit increase in exports of cereals drove a GDP per capita, c urrent US$ 1902 a good harvest supported growth in pri- 4 percent growth in merchandize exports. Poverty rate ($2.5/day 2005PPP terms) a 2.9 vate consumption and a buildup of inven- A flexible exchange rate regime and dis- Poverty rate ($5/day 2005PPP terms) a 38.2 tory stocks—cumulatively these two cate- bursements of external assistance facilitat- gories contributed to 5.4 percentage points ed the accumulation of foreign reserves, Gini Coeffic ient a 27.0 b to overall growth. At the same time the covering more than 5 months of imports Sc hool enrollment, primary (% gross) 93.8 contribution of net exports (-1.3 percent- by end-2016. b Life Expectanc y at birth, years 71.2 age points) and fixed investments re- The agreement with IMF and external fi- Source:World Bank WDI and M acro Poverty Outlook mained negative (-1.1 percentage points) nancial assistance from WB, EU, and Ro- Notes: as access to financing remains con- mania in the second half of the year eased (a) M ost recent value (2015) (b) M ost recent WDI value (2014) strained. On the production side, agricul- the government’s financing constraint. ture (increasing by 18.2 percent) and trade Still, budget execution (deficit of 1.8 per- sectors were the main sources of growth cent of GDP) was significantly below the (both contributing 3.1 percentage points), plan (deficit of 3.2 percent) as some ex- In 2016 Moldova registered robust while value added of the financial sector penditures were not financed in full due to remained negative (-0.9 percentage points) late December disbursements of external growth, recovery was supported by favor- due to weak intermediation activity. budget support. Public expenditures fell able conditions in agriculture and robust Consumer inflation reached a nadir of 2.4 by almost 2 percent in real terms, largely private consumption. Higher wages, low- percent in December 2016 before return- through lower capital expenditures, as er inflation and higher employment re- ing to the target range. From September social expenditures and the wage bill were 2016—mostly due to the base effect—CPI maintained at budgeted levels. By end- sulted in a decline in poverty rate. Sup- temporarily breached the lower limit of 2016, the public debt and guarantees is ported by consumption and accommoda- the (5+/-1.5) target range, and decelerating estimated to have decreased by 2.2 per- tive fiscal policy, growth is projected to further to 2.4 percent by December 2016, centage points to 44.8 percent of GDP. maintain its momentum in the medium- before bouncing back to 5.1 percent in Latest data reveal that poverty— term. While Moldova is slowly rebuilding March 2017. Following the loss in confi- measured at PPP US$5/day—declined by dence after the banking crisis, credit activ- 2 percentage points in 2015 to 38.2 per- its macroeconomic buffers, major policy ity declined and non-performing loans cent, on account of higher employment challenges related to governance— increased by almost 6 percentage points to levels and wage growth. While data for particularly in the financial sector—and 16.3 percent during 2016, resulting in in- 2016 is not yet available, a number of posi- efficiency of public spending remain. creased excess liquidity. In response, the tive factors, including a good harvest and central bank stopped the accommodative growth in sectors like agriculture that are FIGURE 1 Moldova / Actual and projected GDP growth and FIGURE 2 Moldova / Actual and projected poverty rates and current accounts GDP per capita Percent Poverty (%) GDP per capita (constant LCU) 9.4 10 100 12000 8 7.1 6.8 90 6 4.8 10000 4.1 4.0 80 3.7 3.5 4 70 8000 2 60 0 50 6000 -2 -0.7 -0.5 40 -4 4000 30 -6 -6.0 20 -8 2000 10 -10 Real GDP, % change 0 0 -12 Current Account Balance, % of GDP 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 -14 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 $2.5/day PPP $5/day PPP GDP pc Sources: National authorities and World Bank estimates. Sources: World Bank (see notes to Table 2). MPO May 17 62  ●   World Bank ECA Economic Update May 2017 important to low income households, fall- sector and business environment will en- ing unemployment (down 0.4 percentage courage the growth of investments. While points to 3.8 percent in Q42016, y/y), par- the fiscal deficit is expected to widen to Risks and challenges ticularly in rural areas, real wage increases around 3 percent of GDP, the public debt (+3.7 percent growth in real terms, y/y), and guarantees are set to reflect the exter- declining prices, and the fact lower public nal assistance increase in 2017 and 2018, There are a number of downside risks to expenditures did not translate into lower and slowly decline by end-2019. As growth the baseline growth scenario. First, the social expenditures, indicate that the fall- strengthens and savings decline, the cur- lead-up to 2018 parliamentary elections ing poverty trend is likely to have been rent account deficit will increase gradually, could slow down the pace of implementa- preserved in 2016. although below the historical averages. tion of reforms. Second, weaker than ex- Inflationary pressures will keep inflation pected growth in key economies, includ- close to the targeted value of 5 percent. ing the EU and Russia, could have a nega- Outlook The main pressures stem from increased liquidity in the banking system, the ad- tive impact on growth in Moldova. Limited external demand, slow TFP justments of utility tariffs and the recovery growth and capital accumulation, com- Supported by consumption and fiscal in economic activity. In the election year bined with low labor force participation, stimulus, growth momentum will be of 2018, supply side inflationary pressures point to a need to rebalance drivers of maintained in 2017. A supportive agricul- will moderate and by of 2019, the inflation growth. Major policy challenges stem tural year will boost growth to 4 percent rate is projected to converge to the target from (i) general governance issues and in 2017. This is expected to help stimulate value of 5 percent. state capture, in particular important for exports and create new jobs. Following Poverty is projected to decline further the restructuring of the financial system the under-execution in 2016, and under- against the background of positive GDP and the energy sector, (ii) efficiency of pinned by strong public transfers in real and wage growth and wider fiscal space. fiscal spending, particularly in education terms and capital investments, in 2017 the However, the pace of poverty reduction is and health, and (iii) the need to strengthen fiscal deficit will widen by 0.7 percentage projected to slow down on account of in- labor markets to put future poverty reduc- points to -2.5 percent of GDP. creasing utility tariffs, inflationary pres- tion on a more stable footing than the ear- In the medium-term growth will slow to sures, and continued structural labor mar- lier heavy reliance on remittances and 3.7 percent in 2018 and 3.5 percent in 2019. ket weaknesses. Over the forecast period pension growth that were the main con- Accommodative fiscal policy—in particu- until 2019, the PPP US$5/day poverty tributors to B40 income growth in the re- lar public investments—and remittances headcount is projected to decline by some cent past. It will be important to advance are expected to further sustain economic additional 5 percentage points. key economic reforms to create a more growth in 2018. The revitalization of for- transparent and rules-based environment eign inflows, improvements in the financial for private sector employment creation. TABLE 2 Moldova / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 4.8 -0.5 4.1 4.0 3.7 3.5 Private Consumption 3.2 -2.3 3.6 3.8 3.6 3.4 Government Consumption 0.1 0.4 0.1 1.0 0.5 0.1 Gross Fixed Capital Investment 10.0 -1.2 -3.0 2.9 3.8 4.5 Exports, Goods and Services 1.0 2.3 8.8 9.4 3.8 4.0 Imports, Goods and Services 0.4 -4.3 5.9 6.8 3.9 4.2 Real GDP growth, at constant factor prices 5.4 -0.4 4.8 3.3 3.8 4.3 Agriculture 8.5 -13.4 18.2 2.5 3.8 4.1 Industry 7.5 3.5 2.1 3.7 4.1 5.5 Services 3.8 3.4 1.4 3.4 3.7 4.1 Inflation (Consumer Price Index) 5.1 9.7 6.9 5.3 4.8 5.0 Current Account Balance (% of GDP) -7.1 -6.4 -4.1 -4.5 -4.8 -5.3 Financial and Capital Account (% of GDP) 8.2 7.2 3.3 4.0 4.3 4.8 Net Foreign Direct Investment (% of GDP) 3.9 3.5 1.9 2.9 3.4 4.0 Fiscal Balance (% of GDP) -1.7 -2.2 -1.8 -2.5 -3.0 -2.7 Debt (% of GDP) 38.2 46.6 44.2 44.6 43.9 43.0 Primary Balance (% of GDP) -1.0 -1.4 -0.5 -1.0 -1.8 -1.6 Poverty rate ($2.5/day PPP terms) a,b,c 2.9 2.9 2.5 2.2 1.9 1.7 Poverty rate ($5/day PPP terms) a,b,c 40.7 38.2 36.8 35.3 33.9 32.7 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 0-HB S and 201 5-HB S. (b) P ro jectio n using po int-to -po int elasticity (2010-2015) with pass-thro ugh = 0.87 based o n private co nsumptio n per capita in co nstant LCU. (c) A ctual data: 201 4, 201 5. No wcast: 201 6. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  63 create a visible employment impact as they MONTENEGRO Recent developments largely rely on imported labor. As a result, four-quarter average unemployment rate increased slightly, reaching 17.7 percent in Growth slowed down in 2016 to 2.5 per- 2016 (up from 17.6 percent a year before), cent after a growth of 3.2 percent in 2015. while employment rate grew to 44.9 per- Table 1 2016 Investment, largely driven by tourism, en- cent. Despite large employment programs Population, million 0.6 ergy, and highway construction, remained for youth, their unemployment rate re- GDP, c urrent US$ billion 4.1 the main driver of growth, contributing 6.6 mained high at 36.1 percent, with the long- GDP per c apita, c urrent US$ 6703 percentage points to growth in 2016. term unemployment of 75 percent. Poverty rate ($2.5/day 2005PPP terms) a 1.0 Household consumption also remained At the same time, led by public sector Poverty rate ($5/day 2005PPP terms)a 13.2 robust, contributing an additional 2.2 per- wage growth, real wages grew by 3.4 per- b centage points, while government con- cent in 2016, well above productivity Gini Coeffic ient 26.2 sumption contributed additional 0.2 per- growth, indicating a rise in unit labor cost Life Expec tanc y at birth, yearsa 76.5 centage points, led by public sector wage by over 7 percent in 2016. Some poor Sources: World Bank WDI and M acro Poverty Outlook. rise. In contrast, net exports subtracted over households have seen increased income Notes: a) M ost recent value (2015) 6 percentage points from growth as rapid due to the mother benefit, even though as b) Gini data show most recent value (2013) rise in imports of equipment and materials designed it is not poverty-targeted, dis- c) M ost recent value (2014) for the highway and windmills projects courages work, and represents a fiscal combined with the continued weak service burden (close to 2 percent of GDP). With export performance. Industrial production these developments and economic recov- Growth slowed down in 2016 due to the in 2016 fell by 4.7 percent (yoy) as growth ery starting in 2012, poverty (measured at highway construction delay, struggling in the energy sector could not offset sharp US$5 in 2005 PPP) declined from its peak declines in manufacturing and mining. at 19.6 percent in 2012 to an estimated 12.8 industry and levelling off tourism. Alt- While tourist arrivals grew by about 6 per- percent in 2016. hough labor market deteriorated mainly cent, the tourist night-stays rose by only 1.8 Deflation persisted through most of the due to early exit of women from the labor percent, compared to a double-digit year, amid low international oil and food force to access mothers’ benefit, poverty growth in the previous year. prices. Average inflation in 2016 was neg- The labor market stagnated in 2016, de- ative at 0.2 percent. However, prices grew is estimated to have declined in 2016 as spite growth. Starting in 2016, amend- in the last quarter of 2016 by 0.5 percent social transfers surged. Yet, unemploy- ments to the Law on Social Care and Child given the spillovers of international oil ment rate increased, while labor force Protection provided a lifetime benefit to and food price increase, which may have participation remained low. Despite pos- mothers with three or more children, who disproportionate impacts on the poor’s itive economic outlook, growth model can qualify based on 15 years of registered purchasing power. unemployment or 15 or 25 years of em- General government deficit declined to dependent on large public investment ployment. Since then, the number of regis- below 4 percent of GDP in 2016 from 7.3 and consumption puts public finances on tered unemployed has increased by more percent of GDP in 2015, mostly on the unsustainable path and requires ambi- than 10,000, and around 4,000 women back of capital spending cuts. Revenue tious fiscal consolidation efforts. have left formal jobs to receive the benefit. boost came from improved collections but The large infrastructure projects did not did not compensate for the 10-percent rise FIGURE 1 Montenegro / GDP growth, contributions to FIGURE 2 Montenegro / Actual and projected poverty rates growth and GDP per capita Percent, percentage points Poverty (%) GDP per capita (constant LCU) 10 25 3000 8 6 2500 20 4 2000 2 15 0 1500 -2 10 -4 1000 -6 5 500 -8 2010 2011 2012 2013 2014 2015 2016e 2017f 2018f 20197f 0 0 Final consumption Gross fixed capital formation 2005 2007 2009 2011 2013 2015 2017 2019 Change in inventories Net exports GDP growth $2.5/day PPP $5/day PPP GDP pc Sources: MONSTAT, World Bank. Sources: World Bank (see notes to Table 2). MPO May 17 64  ●   World Bank ECA Economic Update May 2017 in public sector wages, introduction of the 2016, on the back of the rising construc- mothers’ lifetime benefit, a 3-percent rise in pensions and 20-percent rise in mini- tion-related imports and the large divi- dend payout. Net FDIs also declined to 9.8 Risks and challenges mum pension. Public debt stagnated at percent of GDP covering around half of around 66 percent of GDP. the CAD financing. Montenegro's economic outlook is posi- Together with the 2017 budget, the new tive with downside risks on the rise. government adopted a set of fiscal consol- Large fiscal deficits and growing public idation measures amounting to 3.2 per- cent of GDP. The measures included a rise Outlook debt call for fiscal consolidation to create the space for an orderly servicing of the in excise taxes and a reduction in VAT large (above 16 percent of GDP) refinanc- exemptions, a collection of tax arrears, a The economy is expected to grow by an ing needs in the 2019 -2021 period. Reduc- 25-percent reduction of the amount of the average of 2.8 percent annually in 2017-19 ing the deficit will not be easy, but is of mothers’ benefit, an 8-percent reduction of on large public investments and personal utmost urgency given the need to reas- wages of officials, and the freeze of senior- consumption. Yet, once the large public sure markets and allow for a successful ity bonus payment until 2019, as well as investment impetus to growth slows rollover of existing obligations under the selective cuts in capital expenditures. The down, the overall growth rate will decline credit rating of B+ with a negative out- mother benefit reduction, while necessary too, further exposing existing weaknesses look. Large external imbalances are still for the sustainability of public finances, is in fiscal and external balances. External widening adding to already high external expected to partially offset some of its imbalances are set to widen again close to vulnerability. Domestic policy uncertain- earlier impact on poverty. 21 percent of GDP, which together with ty and slow pace of structural reforms Lending activity recovered slightly, while further rise in fiscal deficit and debt combine with a complicated political en- non-performing loans (NPLs) declined to would add to already high vulnerability vironment. While recent fiscal consolida- 10.3 percent in 2016. Credits to households to external shocks. Inflation is projected at tion efforts are a step forward, additional grew substantially by close to 11 percent, 2 percent in the period 2017-19. measures on both the spending and reve- given the low base effect, while after Fiscal deficit is projected to expand to nue sides would be needed to achieve a reaching the yearly low in September, above 6 percent in 2017-18 and then come sustainable trajectory of public finances. corporate lending recovered as well, down to around 4 percent of GDP by 2019. Such measures would have distributional growing by 1.9 percent in December 2016. Poverty (measured at US$5 in 2005 PPP) is impacts that would need to be taken into Deposits grew by above 9 percent. Cur- estimated to decline slowly to 11.5 percent account in designing policy reforms. rent account deficit further widened to in 2017, subject to employment rebound, 18.9 percent on a four-quarter basis in including in construction and tourism. TABLE 2 Montenegro / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 f 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 1.8 3.4 2.5 3.3 3.0 2.0 Private Consumption 2.9 2.2 2.6 3.5 2.9 3.7 Government Consumption 1.4 1.9 8.1 0.0 -0.9 -1.1 Gross Fixed Capital Investment -2.5 11.9 29.6 12.0 9.4 -1.5 Exports, Goods and Services -0.7 -0.7 -1.1 0.7 -1.2 0.6 Imports, Goods and Services 1.6 0.0 0.0 0.0 0.0 0.0 Real GDP growth, at constant factor prices 1.9 5.7 5.1 2.8 2.9 2.4 Agriculture 1.8 4.4 14.1 6.8 2.9 2.5 Industry 4.5 3.9 2.5 3.3 3.0 2.0 Services 0.7 3.2 3.3 2.1 2.1 2.1 Inflation (Consumer Price Index) -0.7 1.5 -0.2 1.8 1.9 1.9 Inflation (GDP Deflator) 1.0 1.4 1.5 1.1 1.7 1.8 Current Account Balance (% of GDP) -15.2 -13.3 -18.9 -19.6 -20.2 -20.6 Financial and Capital Account (% of GDP) 3.7 4.4 13.0 15.8 16.7 17.1 Net Foreign Direct Investment (% of GDP) 10.2 17.1 9.8 10.0 9.7 9.6 Fiscal Balance (% of GDP) -3.1 -7.3 -3.6 -6.0 -5.6 -3.8 Debt (% of GDP) 59.9 66.7 65.9 71.4 75.8 78.7 Primary Balance (% of GDP) -0.9 -4.9 -1.4 -3.5 -3.3 -1.4 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No te: f = fo recast. MPO May 17 Selected Country Pages ●  65 tations have pushed yields of long term T- POLAND Recent developments bonds close to 4 percent, signaling an end to record low public debt servicing costs. Labor market conditions continued to Economic growth slowed to 2.8 percent in improve in 2016, as employment in- 2016 down from 3.9 percent a year earlier, creased and unemployment reached rec- Table 1 2016 dragged by lower investment. Total in- ord lows (5.5 percent in the fourth quarter Population, million 38.0 vestment declined by 5.5 percent in 2016, of 2016). Employment rates reached rec- GDP, c urrent US$ billion 469.8 the largest decline since 2002, despite rec- ord highs, but continue to be below the GDP per capita, c urrent US$ 12374 ord low interest rates and high production EU average due to low labor force partici- Poverty rate ($2.5/day 2005PPP terms) a 0.9 capacity utilization. Lower transfers from pation of young (age 20-30) and older Poverty rate ($5/day 2005PPP terms) a 5.1 the EU budget weighed on public invest- workers (ages 50-60). ment, while policy uncertainty affected Poverty and shared prosperity indicators Gini Coeffic ient a 33.1 b domestic and foreign private investment. are estimated to have continued to im- Sc hool enrollment, primary (% gross) 101.3 Private consumption was the main driver prove in 2016, driven by strong private b Life Expectanc y at birth, years 77.0 of growth as it expanded by 3.6 percent, consumption supported by a strong labor Source:World Bank WDI and M acro Poverty Outlook the strongest pace since 2008, boosted by market and the introduction of the Family Notes: robust real income growth due to a record 500+ program. Moderate poverty is ex- (a) M ost recent value (2012) (b) M ost recent WDI value (2014) low unemployment rate (below 6 percent), pected to have declined from 4.5 percent solid growth of real wages (4.2 percent in 2015 to 3.2 percent in 2016 using the compared to 3.5 percent in 2015) and the $5.00/day 2005 PPP poverty line. new Family 500+ benefit program, intro- The fiscal deficit is expected to have nar- duced in April 2016. rowed slightly from 2.6 percent of GDP in Growth in Poland slowed from 3.9 per- Growth picked up significantly in the 2015 to 2.5 percent of GDP in 2016 due to cent in 2015 to 2.8 percent in 2016. Pri- fourth quarter compared to the previous under-performance of public investment, quarters, while high-frequency indicators in particular at the local government level, vate and public consumption remained (IP, PMI) have been robust, indicating that which recorded a 0.4 percent of GDP sur- strong, bolstered by strong labor market the slowdown of the Polish economy plus associated with lower than expected performance. As a result, poverty is ex- could be temporary. absorption of EU funds. Additional reve- pected to continue declining. Weaker pub- Boosted by higher food and energy prices nues off-set increases in spending. Reve- lic investment contributed negatively to in international markets and a relatively nues from VAT and labor taxes were quite weak Zloty, both producer and consumer robust due to strong private consumption growth but it helped offset increased cur- prices have rebounded, with the CPI mov- and employment. Fiscal results were also rent spending, keeping the fiscal deficit ing from a small deflation of 0.2 percent backed by a new ‘bank tax’ and one-off stable. Growth is projected to pick up to year on year in October 2016 to 2.2 percent receipts, such as LTE digital dividend or 3.3 percent in 2017 on the back of strong- inflation in February 2017. Rising infla- higher-than-budgeted payment from the tion creates risk of erosion of real incomes, NBP profit. er investment, and remain broadly stable but a tight labor market ensured that wag- Poland’s external position remained al- over the medium term. es grew faster than inflation in recent most balanced with a current account defi- quarters. However, higher inflation expec- cit of 0.5 percent of GDP in 2016. This was FIGURE 1 Poland / GDP growth, contributions to growth FIGURE 2 Poland / Actual and projected poverty rates and real GDP per capita, 2000-2019 Percent, percentage points Poverty rate (%) GDP per capita (constant LCU) 6 20 35000 18 30000 4 16 14 25000 12 20000 2 10 8 15000 0 6 10000 4 5000 -2 2 2010 2011 2012 2013 2014 2015 2016 2017f 2018f 2019f 0 0 Final consumption Gross Fixed Investment 2004 2006 2008 2010 2012 2014 2016 2018 Statistical Discrepancy Change in inventories $2.5/day PPP $5/day PPP GDP pc Net exports GDP growth Sources: MFMod, World Bank. Sources: World Bank (see notes to Table 2). MPO May 17 66  ●   World Bank ECA Economic Update May 2017 mainly driven by a services trade surplus, distribution, this will be tempered by ris- particularly in ICT and business services. Strong merchandise exports and a fall in ing prices. The $5.00/day 2005 PPP pov- erty rate is projected to decline to 2.9 per- Risks and challenges energy commodity prices translated into a cent in 2017. surplus in the foreign trade balance. The general government deficit is set to Despite a relatively benign economic fore- widen again in 2017 to 2.6 percent of GDP, cast, risks remain skewed to the downside only slightly below the 3 percent EU due to uncertainty in the global economy, Outlook threshold that would trigger entering into the Excessive Deficit Procedure. Spending including in advanced economies. In our baseline scenario, assuming moder- is expected to increase as the full-year cost ate improvements in VAT compliance, the GDP growth is expected to pick up in 2017 of the Family 500+ program is reflected in headline fiscal deficit is set to reach 2.6 to 3.3 percent and broadly stabilize the budget and as the government’s deci- percent of GDP in 2017 and reach the 3 around 3.2 percent over the medium term, sion to roll back the planned increases of percent of GDP threshold in 2018 and driven by domestic demand. The decision the retirement age start to affect the budg- 2019. This scenario is subject to substantial on rollback of statutory retirement ages et beginning in October 2017. The change uncertainty associated with macroeco- from October 2017 is expected to weaken in retirement age will result in lower so- nomic trends (both growth and inflation), Poland’s growth potential. Investment is cial contributions from the cohort eligible efficiency of the new fiscal administration, expected to grow with a recovery in the for earlier retirement, as well as higher and effects of government’s endeavors to EU budget transfers this year while con- spending on a larger number of pension- increase effectiveness of public spending sumption growth is expected to remain ers, including retirees who receive mini- through the budget system reform. solid due to strong labor market perfor- mum pensions or are under preferential To guard against these risks, a swift im- mance and Family 500+ benefits to be paid pension regimes. Public revenues are ex- plementation of market-friendly structural for the whole year (they were effective pected to grow moderately, in line with measures from the Strategy for Responsi- only for ¾ of the year in 2016). improving economic performance and ble Development are required to promote Robust private consumption and a strong various legislative, organizational, and IT investment and innovation and counter- labor market should continue to boost real measures aimed at reducing the sizeable balance emerging labor shortages. The incomes and lead to further declines in VAT gap. They include the introduction of latter are likely to be exacerbated by deac- poverty incidence in the short term. Alt- integrated tax, tax control, and customs tivation incentives to work stemming hough a planned 8 percent increase in the services in the National Fiscal Administra- from more generous social benefits for minimum wage in 2017 will likely in- tion which became operational from younger workers and lower retirement crease the incomes of the bottom of the March 1, 2017. ages for older cohorts. TABLE 2 Poland / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 3.3 3.9 2.8 3.3 3.2 3.2 Private Consumption 2.4 3.2 3.6 3.9 3.6 3.2 Government Consumption 4.1 2.3 3.8 3.4 3.0 2.8 Gross Fixed Capital Investment 10.0 6.1 -5.5 5.9 6.7 7.0 Exports, Goods and Services 6.7 7.7 8.4 5.4 5.2 5.1 Imports, Goods and Services 10.0 6.6 8.7 7.1 7.0 6.4 Real GDP growth, at constant factor prices 3.3 3.8 2.7 3.3 3.1 3.2 Agriculture 0.7 -6.2 2.2 2.5 2.2 2.2 Industry 4.5 6.5 3.6 5.4 4.9 4.9 Services 2.9 3.2 2.4 2.6 2.4 2.6 Inflation (Consumer Price Index) 0.1 -1.0 -0.6 1.9 2.3 2.5 Current Account Balance (% of GDP) -2.0 -0.2 -0.5 -0.7 -1.7 -2.5 Financial and Capital Account (% of GDP) 3.3 1.2 5.9 2.5 2.7 3.2 Net Foreign Direct Investment (% of GDP) 2.0 0.9 1.1 1.2 1.2 1.2 Fiscal Balance (% of GDP) -3.3 -2.6 -2.5 -2.6 -3.0 -3.1 Debt (% of GDP) 50.5 51.0 52.9 51.5 51.3 50.7 Primary Balance (% of GDP) -1.4 -0.8 -0.9 -0.8 -1.2 -1.2 Poverty rate ($2.5/day PPP terms) a,b,c,d 0.8 0.7 0.5 0.5 0.4 0.4 Poverty rate ($5/day PPP terms) a,b,c,d 4.8 4.5 3.2 2.9 2.6 2.4 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 2004-EU-SILC and 201 2-EU-SILC. (b) P ro jectio n using po int-to -po int elasticity (2004-201 2) with pass-thro ugh = 1based o n private co nsumptio n per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 201 7 to 2019. (d) The 201 6 estimate includes simulatio ns o f the impact o f the intro ductio n o f the Family 500+ pro gram. MPO May 17 Selected Country Pages ●  67 trend due to the fiscal stimuli. Low pub- ROMANIA Recent developments lic investment spending (down 31.6 per- cent yoy at end-December), especially from EU funds, contributed to the lower - The economy grew by 4.8 percent in than-expected deficit. 2016, driven by an expansionary fiscal The labor market strengthened further on Table 1 2016 policy and improvements in the labor the back of strong economic growth, as Population, million 19.6 market. Growth was led by private con- real wages increased by 12 percent yoy GDP, current US$ billion 187.0 sumption (up 6.8 percent yoy), which and unemployment fell to 5.5 percent, an GDP per capita, current US$ 9528 was boosted by a reduction in the stand- eight-year low as of end-December 2016. Poverty rate ($2.5/day 2005PPP terms) a 11.1 ard VAT rate from 24 to 20 percent in Nonetheless, the low employment rate of Poverty rate ($5/day 2005PPP terms)a 32.6 January 2016, and by increases in the 63.1 in Q3 reflects persistent structural minimum and public sector wages and rigidities in the labor market. High skilled Gini Coefficient a 34.9 b pensions. Investment underperformed, labor was affected by the population de- Life Expectancy at birth, years 75.1 reflecting the poor performance of public cline of around 6 percent since 2007 and Source:World Bank WDI and M acro Poverty Outlook investment mainly due to the drop in EU by the emigration of young people. Notes: (a) M ost recent value (2012) investment funding. Imports stimulated In line with sustained growth, low infla- (b) M ost recent WDI value (2014) by the robust domestic demand widened tion and a strong labor market, both ex- the current account deficit to 2.4 percent treme and moderate poverty are estimat- of GDP in 2016. On the production side, ed to have declined further in 2016; how- ICT (up 14.2 percent yoy) was the main ever, they remain among the highest in driver, while industry (up 1.7 percent the EU. Extreme poverty (using the Romania’s economy grew by 4.8 percent yoy) and construction (up 1.9 percent $2.50/day 2005 PPP poverty line) is esti- in 2016, a new post -crisis high and one yoy) posted timid growth. mated to have decreased from 11.1 per- Inflation fell to a record low in 2016 and cent in 2012 to 6.6 percent in 2016. Mean- of the fastest in the EU. The perfor- remains subdued, supporting an accom- while, moderate poverty (using the $5.00/ mance was fueled by an expansionary modative monetary policy. Annual head- day 2005 PPP poverty line) is estimated fiscal policy and labor market improve- line inflation barely moved into positive to have decreased from 32.6 percent in ments which, combined with an in- territory in February 2017 (0.2 percent), 2012 to 20.8 percent in 2016. High pov- as the base effect of the VAT cut dissipat- erty incidence is associated with high creased support to vulnerable groups, ed. The NBR maintained the policy rate inactivity levels, particularly in rural and contributed to poverty reduction. at 1.75 percent in February, amid nega- marginalized areas. Thus, income ine- Growth and poverty reduction are ex- tive corporate credit growth (down 3.5 quality has been increasing. By 2015 the pected to remain solid in 2017 and 2018, percent yoy as of January 2017) and in- income of the richest 20 percent of the but risks to the outlook have increased. creasing concerns over the further relaxa- population was more than eight times tion of the fiscal stance. higher than the income of the poorest 20 Fiscal policy has turned pro -cyclical and Fiscal policy turned pro-cyclical in 2016. percent, a ratio significantly higher than there is a risk for the budget deficit to The budget deficit was 2.4 percent of the EU average, reflecting large differ- exceed 3 percent of GDP in 2017. GDP at end-2016, lower than the initial ences across regions and a deep rural - target of 2.8 percent, but on an upward urban divide. FIGURE 1 Romania / GDP growth, contributions to growth FIGURE 2 Romania / Actual and projected poverty rates Percent, percentage points Poverty rate (%) GDP per capita (constant LCU) 8 50 25000 45 6 40 20000 4 35 30 15000 2 25 0 20 10000 15 -2 10 5000 -4 5 2013 2014 2015 2016 2017f 2018f 2019f 0 0 Net exports Private Consumption 2006 2008 2010 2012 2014 2016 2018 Gross fixed capital formation Public Consumption GDP $2.5/day PPP $5/day PPP GDP pc Sources: World Bank, Romanian National Statistical Institute. Sources: World Bank (see notes to Table 2). MPO May 17 68  ●   World Bank ECA Economic Update May 2017 debt to 42.8 percent of GDP at end-2019, measures to prevent the risk that the Outlook from 39.9 percent in 2015. Nevertheless, public debt remains one of the lowest in budget deficit exceeds 3 percent of GDP in 2017. Externally, increased uncertainty the EU. about the global economic conditions and Growth is expected to remain solid in Continued strong private consumption policy ambiguities in some developed 2017 and 2018. GDP will likely expand by growth aided by a lower VAT rate, countries have increased the probability of around 4.4 percent in 2017, as additional growth in employment and real wages, a repositioning in investor sentiment to- fiscal stimulus is being implemented. In and the new minimum inclusion income wards the emerging market economies. January 2017, the VAT rate was further should boost real incomes and lead to This would trigger pressures on the cur- cut to 19 percent, the minimum wage was further declines in poverty incidence. The rency and an increase in the external debt. hiked by 16 percent, and further tax re- $2.50/day 2005 PPP poverty rate is project- Accelerating the process of convergence ductions were introduced for pensions ed to further decline to below 5 percent in with the EU requires renewed attention to below a certain threshold. The continued 2019 and the $5.00/day 2005 PPP poverty the unfinished structural reforms agenda. pick-up in consumption is expected to rate is projected to decline to 14.7 percent Structural reforms should continue to contribute to the widening of the current in 2019. Adopted in 2016, the minimum focus on strengthening the public admin- account deficit to 3.1 percent in 2017, from inclusion income law, due to enter into istration and combatting corruption, en- 2.4 percent at end-December 2016. Cou- force in 2018, consolidates three means- hancing the quality of spending by intro- pled with a positive output gap and in- tested programs, doubling the current ducing results-informed budgeting, and creased import prices, aggregate demand budget and increasing the adequacy and advancing the SOE corporate governance will drive inflation upwards. The NBR coverage of benefits. agenda. Renewed efforts are needed to projects a gradual increase in inflation improve the quality of education, the ac- towards 1.7 percent at the end of 2017. cess to healthcare, and to ensure that pub- The adoption of the fiscal relaxation measures has put pressure on the consoli- Risks and challenges lic sector and minimum wage increases do not jeopardize external competitiveness dated budget deficit. The fiscal deficit is and encourage labor force participation. projected to go above 3 percent of GDP in Accumulating fiscal pressures and the pro Gradually, the focus of fiscal policy 2017, which would place Romania on a -cyclicality of fiscal policy reduce the should be rebalanced away from boosting trajectory towards re-entering the Exces- space to maneuver for policy-makers in a consumption towards supporting a sus- sive Deficit Procedure of the EU. The wid- case of adverse exogenous shocks. The tainable EU convergence path based on ening of the fiscal deficit will push public authorities should also consider corrective productivity improvements. TABLE 2 Romania / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 3.1 3.9 4.8 4.4 3.7 3.5 Private Consumption 4.4 5.6 6.8 7.1 5.5 5.3 Government Consumption 0.5 -0.7 4.7 6.9 4.2 4.0 Gross Fixed Capital Investment 3.2 8.3 0.0 5.2 4.5 4.4 Exports, Goods and Services 8.0 5.4 7.6 6.4 4.6 4.5 Imports, Goods and Services 8.7 9.2 9.3 7.8 6.9 6.7 Real GDP growth, at constant factor prices 3.2 3.6 4.9 4.4 3.7 3.5 Agriculture 4.3 -11.8 0.1 3.3 3.3 3.3 Industry 3.6 5.4 1.7 2.9 2.5 2.5 Services 3.0 4.8 6.7 5.1 4.2 3.9 Inflation (Consumer Price Index) 1.1 -0.6 -1.5 1.0 2.5 2.8 Current Account Balance (% of GDP) -0.5 -1.1 -2.4 -3.1 -3.5 -4.1 Financial and Capital Account (% of GDP) 0.6 1.2 2.5 3.2 3.6 4.2 Net Foreign Direct Investment (% of GDP) 1.6 1.9 2.4 2.5 2.8 2.8 Fiscal Balance (% of GDP) -1.9 -1.5 -2.4 -3.6 -3.8 -3.3 Debt (% of GDP) 40.5 39.9 39.8 40.7 41.9 42.8 Primary Balance (% of GDP) -0.3 -0.1 -0.9 -2.1 -1.9 -1.9 Poverty rate ($2.5/day PPP terms) a,b,c 9.0 7.8 6.6 5.7 5.0 4.4 Poverty rate ($5/day PPP terms) a,b,c 27.0 24.0 20.8 18.3 16.3 14.7 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 2007-EU-SILC and 201 2-EU-SILC. (b) P ro jectio n using annualized elasticity (2007-201 2) with pass-thro ugh = 0.7 based o n GDP per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  69 loans is low, especially in the corporate RUSSIAN Recent developments sector. However, the worsening trend in non-performing loans decelerated, and by December 1, 2016, the banking sector’s FEDERATION Russia’s output contraction eased from 2.8 percent in 2015 to 0.2 percent in 2016 capitalization levels had stabilized at an aggregate capital-adequacy ratio of 12.7 as the economy adjusted to low oil prices percent, above the regulatory minimum and restricted access to international fi- of 8 percent. Table 1 2016 nancial markets. The tradable sectors ben- The balance of payments remained stable GDP, current US$ billion 1283.7 efited from the relative price adjustment despite adverse terms-of-trade conditions GDP per capita, current US$ 8752 and drove growth in 2016. Meanwhile, and restricted access to international capi- a the non-tradable sectors continued to tal markets. The current-account surplus Poverty rate ($2.5/day 2005PPP terms) 0.4 a contract in 2016, albeit at a slower pace. A shrank from US$69 billion in 2015 to Poverty rate ($5/day 2005PPP terms) 6.7 protracted decline in real incomes has US$22.2 billion in 2016 as the trade sur- a Gini Coefficient 37.7 reduced private consumption, but this plus weakened. Lower commodity prices School enrollment, primary (% gross) b 100.2 trend has slowed as consumer confidence reduced goods exports in the first half of Life Expectancy at birth, yearsb 70.4 has improved. While improving senti- 2016. Meanwhile, imports remained ment also appears to have prompted a broadly stable and began to rise in the Sources: WDI, M PO, Rosstat, and Bank of Russia. Notes: robust inventory restocking in the second second half of 2016, supported by a (a) M ost recent value (2015) half of 2016, fixed capital investment re- stronger ruble, the incipient recovery in (b) M ost recent WDI value (2014) mained subdued, reflecting a still -low real wages, and inventory restocking. A growth outlook, policy uncertainty, re- decrease in net capital outflows mirrored stricted access to international financial the decline of the current-account surplus. markets, continued adjustments to the The fiscal stance deteriorated, but the defi- The Russian economy is coping with the earlier terms-of-trade shock, and relative- cit remained contained. The general gov- shocks of low oil prices and restricted ac- ly tight monetary policy. ernment’s primary budget deficit widened cess to international financial markets. Monetary policy remains prudent and from 2.6 percent of GDP in 2015 to 2.8 consistent with inflation targeting. The percent in 2016, driven by a slight increase The poverty rate is estimated to have risen authorities successfully reduced the in- in expenditures, although higher nonoil over the last year as real incomes declined. flation rate from 15.5 percent in 2015 to revenues compensated for falling oil reve- Russia is heading toward a moderate 7.1 percent in 2016. Recognizing that nues. General government primary spend- growth rate over the 2017 to 2019 period, several one -off factors supported the ing increased by 0.2 percent of GDP be- reduction in headline inflation, the Bank tween 2015 and 2016, but decreased slight- supported by rising oil prices and macroe- of Russia maintained a moderately tight ly in real terms. National defense, envi- conomic stability. Nevertheless, structur- monetary stance as inflation expectations ronmental protection, and public health al reforms will be necessary to boost remained elevated. were the only categories for which ex- productivity and raise the country’s long - The banking system has largely stabi- penditures increased in real terms. lized, but has not yet fully recovered, and Poverty increased in 2015 and 2016. Mod- term growth trajectory. credit growth remains stalled. Asset qual- erate poverty rose from 5.8 percent in 2014 ity continues to be weak, and demand for to 6.7 percent in 2015 as inflation eroded FIGURE 1 Russian Federation / GDP growth, contributions FIGURE 2 Russian Federation /Actual and projected to growth poverty rates Percent, percentage points Percent 15 25 $2.5/day PPP 10 $5/day PPP 20 5 0 15 -5 -10 10 -15 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 5 Stat error Import Export Change in inventories Gross Fixed Capital Formation Consumption 0 GDP growth 2006 2008 2010 2012 2014 2016 2018 Sources: Russian Statistical Authorities and World Bank staff calculations. Sources: World Bank (see notes to Table 2). MPO May 17 70  ●   World Bank ECA Economic Update May 2017 the real value of wages and social benefits, improved investor confidence are ex- and the middle class contracted for the first time since 2009.1 In 2016, inflation pected to support an increase in fixed cap- ital investment in 2017. Risks and challenges slowed and real wage growth resumed, The government is planning further fiscal- but income from other sources, including consolidation measures. A new fiscal rule, Important downside risks persist. Contin- pensions, contracted again. Consequently, slated to take effect in 2020, will mandate uing to implement the fiscal adjustment disposable income fell in real terms, that oil revenues be saved or spent based while managing lingering inflationary household consumption declined by 5 on a threshold price of US$40 per barrel. pressures will remain a key challenge over percent, and current estimates suggest The Ministry of Finance has already start- the medium term. The government can that the poverty rate rose further to 7.9 ed executing daily foreign-currency trans- mitigate downside risks by establishing percent. However, the prevalence of ex- actions based on this threshold. The ap- the new fiscal rule and adhering to the treme poverty remains marginal. proved medium-term fiscal framework, medium-term budget framework. which envisions an expenditure-focused The Russian economy’s medium-term pro- consolidation effort, is also supporting the spects are constrained by its low potential for Outlook transition to the new rule. The moderate poverty rate is expected to total factor productivity growth. Easing this constraint will require deepening and acceler- fall in 2017, but will remain elevated. ating structural reforms. Priority policy objec- Given the relatively weak external envi- During 2010-14, increases in pensions and tives include reducing the role of the state in ronment, we project that the Russian econ- public-sector wages drove income growth the economy, protecting property rights, omy will grow at a rate of 1.3 percent in among households in the bottom 40 per- improving the institutional and regulatory 2017 and 1.4 percent in 2018-19. The terms cent of the income distribution. However, framework, and promoting fair competition. of trade are expected to moderately im- in a context of fiscal consolidation, labor prove, with average oil prices rising to income is expected to become the main US$55 per barrel in 2017, US$60.0 per bar- contributor to shared prosperity. As the rel in 2018, and US$61.5 per barrel in 2019, economy rebounds, wage growth in the 1/ Moderate and extreme poverty are defined as per capita consumption equivalent to less than US$5 and driving a recovery in domestic demand. private sector and a modest real increase less than US$2.50 per day in 2005 ppp terms, respec- Supported by the anticipated resumption in pension payments in 2017 will support tively. “Middle Class” is defined as a per capita con- of real wage and income growth, con- income growth and reduce poverty. sumption level between US$5 and US$10. These sumption is projected to reassert its role as However, many households remain very trends are consistent with the poverty rate under an important contributor to growth in close to the poverty line and without for- national line that increased in 2015 to 13.3 percent from 11.2 percent in 2014. 2017-19. A gradual monetary easing and mal jobs. TABLE 2 Russian Federation / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices a 0.7 -2.8 -0.2 1.3 1.4 1.4 Private Consumption 2.0 -9.7 -5.0 1.8 2.5 2.5 Government Consumption -2.1 -3.1 -0.3 -1.1 -1.1 -1.1 Gross Fixed Capital Investment -1.0 -9.4 -1.4 2.0 2.5 3.5 Exports, Goods and Services 0.5 3.7 2.3 1.7 1.5 1.5 Imports, Goods and Services -7.6 -25.5 -5.0 5.0 4.0 4.0 Real GDP growth, at constant factor prices 0.9 -2.5 -0.3 1.3 1.3 1.4 Agriculture 2.0 2.9 3.3 1.2 1.7 1.7 Industry -0.2 -2.8 -0.1 1.6 1.6 1.7 Services 1.4 -2.7 -0.6 1.2 1.2 1.2 Inflation (Consumer Price Index) 7.8 15.5 7.1 4.5 4.0 4.0 Current Account Balance (% of GDP) 2.8 5.0 1.7 1.6 1.2 0.9 Financial and Capital Account (% of GDP) -3.1 -5.3 -1.7 -1.6 -1.2 -0.9 Net Foreign Direct Investment (% of GDP) -1.7 -1.1 0.2 -0.4 -0.3 -0.2 Fiscal Balance (% of GDP)b -1.1 -3.4 -3.7 -2.2 -0.9 -0.2 Debt (% of GDP) 15.6 15.9 15.7 17.0 17.0 17.0 Primary Balance (% of GDP) b -0.5 -2.6 -2.8 -1.3 0.0 0.9 Poverty rate ($2.5/day PPP terms) c,d,e 0.3 0.4 0.5 0.5 0.4 0.4 Poverty rate ($5/day PPP terms) c,d,e 5.8 6.7 7.9 7.5 6.9 6.4 Sources: Ro sstat, B ank o f Russia, M inistry o f Finance, Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. (a) Gro wth pro jectio ns are based o n natio nal acco unts data released in February 201 7. (b) Fiscal and P rimary B alance refer to general go vernment balances. (c) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 5-HB S. (d) P ro jectio n using neutral distributio n (2015) with pass-thro ugh = 1 based o n private co nsumptio n per capita in co nstant LCU. (e) A ctual data: 201 4, 2015. No wcast: 201 6. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  71 mated to have declined from 14.9 percent SERBIA Recent developments in 2014 to 13.6 percent in 2016. The recov- ery in agriculture output in 2016 is likely to have had positive impacts on rural The Serbian economy benefited from re- poverty. Yet it is estimated that poverty covery of consumption (up 1.1 percent) has not returned to its lowest level seen Table 1 2016 and exports (up 11.9 percent, y/y) in 2016. in 2008. Population, million 7.1 As a result, real GDP growth is estimated Fiscal consolidation continues successful- GDP, c urrent US$ billion 37.7 at 2.8 percent (y/y). Unlike in previous ly, and in 2016 the general government GDP per capita, c urrent US$ 5340 periods, both in 2015 and 2016, private budget deficit reached 1.4 percent of GDP Poverty rate ($2.5/day 2005PPP terms) a 1.4 investment provided particular support to compared to 6.6 percent of GDP in 2014. Poverty rate ($5/day 2005PPP terms) a 14.5 growth. Growth could have been even Public debt declined to around 74 percent stronger if not for a recent increase in im- of GDP by year-end. Different measures Gini Coeffic ient a 29.1 b ports (6.8 percent in real terms). included as part of the fiscal consolidation Sc hool enrollment, primary (% gross) 100.9 Looking across sectors of the economy, efforts are estimated to have small nega- b Life Expectanc y at birth, years 75.2 growth in 2016 was broad based. Agricul- tive impacts on poverty, and there were Sources: World Bank WDI and M acro Poverty Outlook. tural output increased by 8.3 percent y/y some mitigating measures in place. Few Notes: in real terms in 2016; value added in in- poor individuals working in the public (a) M ost recent value (2013) (b) M ost recent WDI value (2014) dustry increased by 3.6 percent and in sector were affected by recent freezes and services by 2.2 percent compared to 2015. cuts in wages, but in 2016 there was an Improved economic performance reflected increase in wages in some sectors. The on the labor market with employment poverty impact of the 2014 nominal reduc- The recovery of the Serbian economy rates finally exceeding those from before tions in pensions was eased by the pro- the international financial crisis. Both the gressivity of the reductions. The energy continued in 2016. Preliminary esti- activity rate and employment rate, at 52.3 bill discount program for vulnerable pop- mates suggest an annual growth of 2.8 percent and 45.5 percent respectively in ulations was expanded to mitigate the percent. Growth translated in the crea- the last quarter of 2016, have increased impact of increases in electricity tariff in tion of new jobs, though to a large ex- steadily over the last two years. Unem- 2015 and 2016. ployment rate fell to 13 percent in Q4, its Inflation averaged 1.2 percent in 2016, tent in the informal sector. Progress lowest level since 2008. In 2016, real wages well below the central bank target band, with fiscal adjustment continued on the increased by 2.6 percent (y/y) after declin- due to a still relatively weak domestic back of structural reforms, primarily ing for three consecutive years. However, demand. Low inflation in 2016, and in regarding SOEs. Poverty, which reached almost a third of the increase in employ- particular a decrease of food prices an estimated 14.5 percent (living under ment came from the informal sector. (thanks to the good agriculture season) Youth unemployment dropped as well, helped protect purchasing power. $5/day PPP) in 2013, is expected to de- but remains high, at 31.2 percent. The current account deficit (CAD) shrank cline to 13.6 percent in 2016. High de- Since employment and labor income are by 13 percent in euro terms in 2016 com- grees of vulnerability remain due to still critical for the welfare of the poor and pared to 2015. This came as a result from weak labor markets. vulnerable, poverty (measured using the an improved trade balance (down 12.9 regional line of $5/day 2005 PPP) is esti- percent) and occurred despite lower re- FIGURE 1 Serbia / GDP growth, contributions to growth FIGURE 2 Serbia / Actual and projected poverty rates and GDP per capita Percent, percentage points Poverty (%) GDP per capita (constant LCU) 4.0 30 600000 Consumption Investment 25 500000 3.0 Net exports GDP 20 400000 2.0 15 300000 1.0 10 200000 0.0 5 100000 -1.0 0 0 2003 2005 2007 2009 2011 2013 2015 2017 2019 -2.0 2014 2015 2016 2017 2018 2019 $2.5/day PPP $5/day PPP GDP pc Sources: WB staff calculations based on Statistical Office data. Sources: World Bank (see notes to Table 2). MPO May 17 72  ●   World Bank ECA Economic Update May 2017 mittances (a drop of 9.4 percent y/y). FDI around 1 percent of GDP over the medi- reached a 5.5 percent of GDP. The dinar has fallen slightly (1.5 percent) against um term. This should bring public debt as a share of GDP to below 70 percent of Risks and challenges the euro in 2016 despite significant and GDP by 2019. With domestic demand re- frequent interventions by the NBS. For- covering gradually, inflation is set to re- While recognizing the positive fiscal con- eign currency reserves declined by about turn to the target band in 2017. External solidation progress in 2015 and 2016, EUR 170 million in 2016. The banking balances are projected to improve as well, there remains the need for sustained im- sector remains stable and loans to private with the CAD below 4 percent of GDP plementation of structural reforms. A sector increased by 2.5 percent by year - over the medium term. broad spectrum of reforms is envisaged end (y/y). With economic growth and improvements (mainly in the field of social sectors and in the labor market, though with remain- SOEs) which is crucial in order to ensure ing structural challenges, poverty is ex- faster growth of the economy and the Outlook pected to continue its gradual decline. Poverty measured at the $5/day poverty creation of new jobs. The potential distributional impacts of line is estimated to decline to 12.8 percent these important structural reforms may Growth is projected to accelerate from 2.8 in 2017 and 11.9 percent in 2018. Future present continued challenges to faster percent in 2016 to about 4 percent over the rises in electricity tariffs as envisioned poverty reduction in the short run. Moreo- medium term. An increase in consump- under the financial consolidation plan of ver, despite recent improvements, labor tion (both private and government) is ex- the public utility are expected to further force participation and employment ratios pected to be the main driver of growth in increase energy stress, particularly on are still low while unemployment is high, outer years of the projections period, with poor households. While the energy bill especially for the young. Therefore, policy investment gaining in importance as well. discount program for vulnerable custom- design needs to consider appropriate so- The ongoing fiscal consolidation program ers has been expanded, implementation cial assistance and facilitate access to em- targets the fiscal deficit to decline to challenges remain. ployment to mitigate adverse impacts. TABLE 2 Serbia / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices -1.8 0.8 2.8 3.0 3.5 3.5 Private Consumption -1.3 0.5 0.8 1.4 2.2 2.9 Government Consumption -0.6 -1.5 2.3 -1.1 1.9 1.9 Gross Fixed Capital Investment -3.6 5.6 7.7 4.7 6.4 6.1 Exports, Goods and Services 5.7 10.2 11.9 7.4 7.4 7.5 Imports, Goods and Services 5.6 9.3 6.8 5.1 5.9 6.4 Real GDP growth, at constant factor prices -2.0 0.7 3.3 2.4 3.5 3.5 Agriculture 2.0 -7.7 8.1 -2.0 2.6 3.0 Industry -6.4 3.0 1.7 5.2 5.4 5.4 Services -0.5 1.1 2.4 1.8 2.7 2.7 Inflation (Consumer Price Index) 2.1 1.4 1.7 3.1 3.5 3.5 Current Account Balance (% of GDP) -6.0 -4.8 -4.0 -3.9 -3.9 -3.9 Financial and Capital Account (% of GDP) 5.1 3.9 3.2 3.1 3.0 3.1 Net Foreign Direct Investment (% of GDP) 3.7 3.7 3.8 3.8 3.9 3.9 Fiscal Balance (% of GDP) -6.6 -3.7 -1.4 -1.4 -1.2 -1.0 Debt (% of GDP) 72.4 75.6 74.6 73.0 70.2 66.8 Primary Balance (% of GDP) -3.6 -0.4 2.1 2.1 3.0 2.5 Poverty rate ($2.5/day PPP terms) a,b,c 1.5 1.4 1.4 1.3 1.2 1.0 Poverty rate ($5/day PPP terms) a,b,c 14.9 14.5 13.6 12.8 11.9 10.9 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 3-HB S. (b) P ro jectio n using neutral distributio n (2013) with pass-thro ugh = 0.7 based o n GDP per capita in co nstant LCU. (c) No wcast: 201 4 - 2016. Fo recast are fro m 201 7 to 2019. MPO May 17 Selected Country Pages ●  73 This note was updated May 3rd 2017 to account for new data and developments Official inflation remained broadly stable at 5.9 percent (annual average). The cur- TAJIKISTAN Recent developments rency depreciation in early 2016 and rise in utility tariffs in the last quarter of 2016 GDP growth rose from 6.0 percent in 2015 put pressure on prices, but low imported to 6.9 percent in 2016, per official esti- oil and food prices offset this effect. Table 1 2016 mates. Foreign-financed investment The fiscal position deteriorated due to less- Population, million 8.6 spurred growth in the industrial and con- than-expected revenues from external GDP, current US$ billion 6.9 struction sectors, which expanded by 16 trade, and higher foreign-financed public GDP per capita, current US$ 804 percent and 20.3 percent, respectively. The investment. To contain the deficit, the gov- Poverty rate (national poverty line)a 31.3 mining and food-processing subsectors ernment revised the budget downward by drove the increase in industrial output, 0.8 percent of GDP in mid-2016, cutting Gini Coefficient a 28.0 while expanded activity on Rogun Hydro- low-priority current and capital spending, School enrollment, primary (% gross)b 99.0 b power Plant and public investment dedi- while fully protecting core social outlays Life Expectancy at birth, years 69.4 cated to the 25th anniversary of independ- and strategic capital investments. The gov- Source:World Bank WDI and M acro Poverty Outlook ence spurred the construction sector. Agri- ernment also increased public sector wag- Notes: cultural output grew by 5.2 percent (y/y), es and pensions, and expanded Targeted (a) M ost recent value (2015) (b) M ost recent WDI value (2014) supported by efficiency gains and favora- Social Assistance (TSA) program. In 2016, ble weather. Low external trade activity the fiscal deficit (excluding financial sector slowed growth of services, while currency bailout) widened to 4.0 percent of GDP depreciation coupled with a further drop from 1.9 percent in 2015. Public and pub- in real remittances caused private con- licly-guaranteed debt surged from 34 per- Tajikistan’s economy grew strongly by sumption to contract. However, the robust cent of GDP in 2015 to 41 percent in 2016. 6.9 percent in 2016, driven by foreign- growth of fixed investment and an im- The new debt was largely driven by do- financed public and private investments. proved net export position more than mestic bond issuances for the bank bailout. Growth is expected to slow slightly in compensated for a decline in private con- External debt continues to dominate the sumption. debt structure at 32.4 percent of GDP. The 2017 before gradually rebounding over Declines in consumption and remittances creditor profile remains biased towards the medium term as the external environ- had especially negative implications for China accounting for over half of total ment improves. The outlook for growth the financial sector, which already suffered external debt. remains positive, and poverty reduction from weak corporate governance, risk The currency depreciation led to a decline may accelerate in 2017 as remittances management, and regulatory oversight. At in imports and modest export growth, end-2016, the government bailed out two improving the external position despite recover. However, the government also systemically important banks at a cost of 6 reduced remittances. The current-account needs to enhance its macroeconomic and percent of GDP, and in early 2017 the li- deficit narrowed from 6.4 percent of GDP fiscal policy frameworks to address finan- censes of two smaller banks were revoked. in 2015 to an estimated 3.8 percent in 2016. cial sector vulnerabilities and inefficient However, needed amendments to the The introduction of foreign exchange sur- banking resolution and supervisory frame- render requirement and domestic gold state-owned enterprises. work which are key to restoring stability purchases boosted the growth of the mon- to the system, are still pending. ey supply. However, due to banking sec- FIGURE 1 Tajikistan / GDP growth decomposition, actual FIGURE 2 Tajikistan / The national poverty rate and GDP and projected, 2014-19 growth, actual and projected, 2014-19 Percentage points, percent Percent Percent 8 40 7 6.7 6.9 6 6.1 6 5.5 5.9 6 30 5 4 4 20 3 2 2 10 1 0 0 0 2014 2015 2016e 2017f 2018f 2019f 2014 2015 2016e 2017f 2018f 2019f Agriculture Industry Services Real GDP growth Poverty rate (LHS) Real GDP growth (RHS) Sources: TajStat, World Bank staff estimates. Source: World Bank staff estimates. MPO May 17 74  ●   World Bank ECA Economic Update May 2017 tor vulnerabilities and reduced business lic investment. pansion of the TSA program are expected activity, credit to the private sector re- The gradual economic recovery of Russia to further reduce extreme poverty. The mained broadly unchanged in 2016. Over and other trading partners is expected to national poverty rate is projected to fall the past year, the central bank steadily bolster remittances, accelerating poverty from 29.3 percent in 2016 to 26.1 percent tightened monetary policy by raising the reduction and spurring growth in con- by 2018. policy rate from 8 percent to 12.5 percent sumption and services. However, overall while sharply increasing sterilization to stem inflationary pressures. Stable foreign improvements in macroeconomic man- agement and progress in priority reform Risks and challenges exchange markets and gold purchases areas such as financial regulation, the facilitated the accumulation of interna- business climate, public financial man- Despite the anticipated recovery of the tional reserves, which rose by 30 percent agement, and SOE oversight will be vital external environment, risks to growth are during 2016 to reach 2.7 months of im- to medium-term growth. The fiscal deficit tilted to the downside. Large contingent ports according to official estimates. is likely to stay high affected by addition- liabilities related to state-owned enterpris- The national poverty rate fell from 37.4 al need for bank recapitalization in 2017 es and weaknesses in the business climate percent in 2012 to 30.3 percent in the and 2018, hence resulting in growing will continue to hamper economic activi- third quarter of 2016. Extreme poverty public debt trajectory. The overall exter- ty, and could add to debt-related risks. declined from 18.2 percent in 2013 to 14 nal position is projected to be positive Ongoing asset-quality reviews at commer- percent in 2016. Wage income continues with FDI and debt inflows more than cial banks may reveal new capitalization to drive poverty trends, but lower re- offsetting the current account deficit. Pru- needs and further increase fiscal costs. mittances in 2014-16 slowed the pace of dent monetary policy should keep the A weaker-than-expected recovery among poverty reduction. inflation rate in the mid-single digits. regional economies or delays in the ex- The poverty rate is expected to continue pansion of the TSA program could hinder Outlook to fall at a steady pace, but this hinges on a continued increase in remittances. progress on poverty reduction. Finally, a combination of credit constraints and Growth is projected to slow to 5.5 percent Strong domestic economic growth and an slow employment growth in pro-poor in 2017 due to structural vulnerabilities incipient recovery in Russia, supported sectors such as construction and agricul- among state-owned enterprises, lingering by more accommodative migration regu- ture will continue to present a serious financial sector distress, and a planned lations, will boost income growth among challenge to the government’s poverty - fiscal consolidation. Diminishing fiscal vulnerable households. The new Law on reduction efforts. space is expected to slow the pace of pub- Social Assistance and the nationwide ex- TABLE 2 Tajikistan / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 6.7 6.0 6.9 5.5 5.9 6.1 Private Consumption 1.8 -12.3 -4.1 1.5 3.0 3.5 Government Consumption 4.1 3.3 2.4 3.5 3.8 4.3 Gross Fixed Capital Investment 20.0 24.4 21.2 11.8 11.8 11.8 Exports, Goods and Services 0.0 0.0 7.7 4.2 5.0 5.2 Imports, Goods and Services 1.1 0.0 -15.0 0.0 2.0 2.5 Real GDP growth, at constant factor prices 5.0 5.4 6.6 6.0 6.4 6.4 Agriculture 4.5 3.2 5.2 5.3 5.6 5.6 Industry 5.1 11.2 16.0 10.7 11.0 11.2 Services 5.3 3.8 2.5 3.6 4.0 3.8 Inflation (Consumer Price Index) 6.1 5.8 5.9 7.0 7.0 7.0 Current Account Balance (% of GDP) -2.8 -6.4 -3.8 -4.7 -4.5 -4.4 Financial and Capital Account (% of GDP) 5.5 7.9 8.1 7.7 7.0 6.4 Net Foreign Direct Investment (% of GDP) 3.4 5.4 5.0 3.2 3.2 3.2 Fiscal Balance (% of GDP)a 0.0 -1.9 -10.1 -6.5 -5.4 -1.5 Debt (% of GDP)a 27.9 34.0 41.4 48.9 54.2 55.6 Primary Balance (% of GDP) a 0.4 -1.3 -9.6 -5.7 -4.9 -1.1 Poverty rate (national poverty line) b,c,d 32.0 31.3 29.3 27.9 26.1 24.2 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) a) Calculatio ns include financial secto r bailo ut in 201 6 (6 percent o f GDP ) and pro jected additio nal recapitalizatio n in 2017 (4 percent o f GDP ) and 2018 (3.5 percent o f GDP ). M aterializatio n o f fiscal risks due to co ntingent liabilities o f SOEs may additio nally result in 8 percent o f GDP o ver the medium term which is excluded fro m current calculatio ns. (b) Calculatio ns based o n 201 5 HB S. Natio nal po verty line: LCU 167.7583/mo nth. (c) P ro jectio n using neutral distributio n (2015) with pass-thro ugh = (0.7) based o n GDP per capita co nstant P P P . (d) A ctual data: 201 4, 2015. No wcast: 201 6. Fo recast are fro m 201 7 to 201 9. MPO May 17 Selected Country Pages ●  75 bound in global oil prices and the depreci- TURKEY Recent developments ation of the Lira. In addition, poor harvest due to unfavorable weather conditions increased food prices, substantially add- Turkey’s growth rate slowed from 6.1 ing to headline inflation. percent in 2015 to 2.9 percent in 2016. Af- The rapid Lira depreciation led the Central Table 1 2016 ter recording the largest contraction since Bank to increase interest rates and return Population, million 77.8 the global financial crisis in Q3, GDP to unorthodox monetary policy. Since No- GDP, c urrent US$ billion 857.7 growth was stronger than expected in Q4, vember, the Central Bank increased the GDP per capita, c urrent US$ 11032 driven by a rebound in private consump- late liquidity lending rate, the overnight Poverty rate ($2.5/day 2005PPP terms) a 3.1 tion and net exports. Recovery in private lending rate and the 1-week repo rate by Poverty rate ($5/day 2005PPP terms) a 18.3 consumption was strong, as consumers 125 bps, 100 bps, and 50 bps, respectively, front-loaded their spending, particularly leading to a 262 bps increase in the average Gini Coeffic ient a 41.2 b auto and white goods purchases, with the cost of funding. At the same time, fiscal Sc hool enrollment, primary (% gross) 106.9 anticipation that prices will rise due to policy has been providing considerable b Life Expectanc y at birth, years 74.9 currency depreciation. Following a nota- stimulus. Central government expendi- Source:World Bank WDI and M acro Poverty Outlook ble drop in Q3, investment spending tures grew substantially, while stronger Notes: slightly recovered in Q4 despite deterio- than expected performance in non-tax rev- (a) M ost recent value (2014) (b) M ost recent WDI value (2014) rating balance sheets and declining profit- enues, such as interest and share income ability due to currency depreciation. High and capital revenues, kept the budget defi- frequency indicators point to a continua- cit at 1.2 percent of GDP in 2016. tion of recovery in early Q1 of 2017. Poverty and extreme poverty continue to In the second half of 2016, the current ac- decrease, albeit at a slower pace. The popu- Turkey’s growth slowed from 6.1 percent count deficit widened by $3.3 billion to lation with per capita expenditure below the in 2015 to 2.9 percent in 2016, as the $32.6 billion, mostly due to a sharp drop poverty line (5 US$ a day in 2005 PPP) failed coup attempt depressed consumer in tourist arrivals, while financial inflows reached a low of 18.3 percent, from 24.1 a weakened on the back of increased do- decade earlier. Extreme poverty, the popula- and business confidence. The rebound in mestic uncertainty, deteriorating macroe- tion with per capita expenditure below 2.5 global oil prices led to a widening current conomic balances, and a less favorable US$ a day in 2005 PPP, decreased to 3.1 per- account deficit, while the rapid deprecia- global environment. Amid portfolio out- cent, compared to 5.3 in the early 2000s. The tion of the Lira and a poor harvest drove flows, the Lira depreciated by 33.4 percent improvement has been mainly driven by between July and late January, to recover higher wages and better access to jobs, with inflation higher. Meanwhile, the pace of by 5.6 percent by early March following social assistance fulfilling a complementary poverty reduction lost momentum. In the the Central Bank’s tightening steps. and relatively minor supporting role. medium-term, with larger macro imbal- After easing to 7 percent in November, Such positive trend, however, is losing ances, Turkey faces substantially slower headline inflation climbed to 10.1 percent momentum. Unemployment has been on growth and poverty reduction, as struc- in February, due to the sharp increase in the rise, reaching 12.1 percent of the labor transport and food prices. Pump prices for force in November 2016; a level similar to tural weaknesses become binding. gasoline and diesel increased by over 30 November 2009 when the financial crisis percent y-o-y in February, due to the re- strongly affected the Turkish economy. FIGURE 1 Turkey / GDP growth, contributions to growth FIGURE 2 Turkey / Actual and projected poverty rates and GDP per capita (constant LCU) Percent, percentage points Poverty rate (%) GDP per capita (constant LCU) 15% 60 25000 10% 50 20000 5% 40 15000 0% 30 10000 -5% 20 5000 -10% 10 0 0 Private Consumption Government Spending 2002 2004 2006 2008 2010 2012 2014 2016 2018 Investment Net Exports $2.5/day PPP $5/day PPP GDP pc Stocks Growth Sources: Turkstat and World Bank staff calculation. Sources: World Bank (see notes to Table 2). MPO May 17 76  ●   World Bank ECA Economic Update May 2017 This is 3.7 percentage points higher than covery of domestic demand in the near macro imbalances, as structural weakness- November 2011 when the lowest unem- future, while falling banking sector roll - es remain intact. The quality of growth ployment rate of the decade was ob- over rates may limit credit growth. In has weakened in the past few years, as served. Moreover, the jobless rate among 2017, with a rising energy deficit due to productivity growth stagnated and invest- the youth (ages 15 to 24) followed roughly the rebound in global oil prices, the cur- ment spending concentrated in construc- the same trend by increasing to 21.6 per- rent account deficit is expected to increase tion. Turkey`s current account deficit is cent in November 2016, very similar to the to 5 percent of GDP, while inflation is like- likely to increase to 6 percent by 2019, levels recorded during the economic crisis ly to remain well above target. while the normalization of global mone- (21.8 percent in November 2009). Poverty is forecasted to decrease at a slow tary policies will make the competition for rhythm, in the midst of a sluggish labor foreign funds fiercer among developing market and rising inequality. With private countries, with higher costs. There is an Outlook consumption forecast to grow in the com- ing years, poverty and extreme poverty urgent need for a return to implementing the structural reform agenda to restore are estimated to decline to 16.8 and 2.82 investor confidence, address vulnerabili- Growth is expected to strengthen gradual- percent, respectively, in 2017; and to 16.2 ties and lift growth. ly in the course of 2017 and is projected at and 2.73 percent in 2018. This forecast The government’s recently announced 3.5 percent for the year as whole. Follow- depends crucially on no further deteriora- “employment mobilization” campaign is ing a contraction in 2016, exports are like- tions in the labor market, and assumes the aiming to create 2 million new jobs to con- ly to grow in 2017 thanks to stronger current social assistance scheme does not tain the rise in joblessness. The campaign growth in the EU, while imports are ex- change. While in recent years lower in- includes a subsidy to employers on sala- pected to increase at a moderate pace as come households have had increasing ries of new formal hires for 12 months. domestic demand recovers. Security con- access to quality jobs in the formal sector, From an equity perspective, since most cerns are likely to limit the recovery of the high labor costs and minimum wage formal jobs are accessed by the non-poor, tourist arrivals from both Europe and in a context of slower economic activity the effects of the campaign will dispropor- Russia. The depreciation of the Lira may will be putting some of the gains at risk. tionately benefit higher income house- further feed into consumer prices, eroding holds. The main challenge will be how to the purchasing power of households. promote a more inclusive mix of benefi- Moreover, the balance sheet of corporates might deteriorate given the large open FX Risks and challenges ciaries and improve the distributive im- pacts of the campaign. position, thus weakening private invest- ment prospects. The recent monetary poli- In the medium-term Turkey faces a sub- cy tightening is likely to constrain the re- stantially slower growth path with larger TABLE 2 Turkey / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 5.2 6.1 2.9 3.5 3.9 4.1 Private Consumption 1.9 3.4 1.4 1.6 2.4 2.6 Government Consumption 0.4 0.5 1.0 1.1 0.9 0.9 Gross Fixed Capital Investment 1.5 2.7 0.9 1.0 1.5 1.6 Exports, Goods and Services 1.8 0.9 -0.5 0.8 1.1 1.2 Imports, Goods and Services -0.1 0.4 0.9 1.0 2.0 2.2 Real GDP growth, at constant factor prices 5.6 5.7 2.8 3.6 4.0 4.2 Agriculture 0.6 9.1 -4.1 1.9 1.9 1.9 Industry 5.5 5.0 5.2 1.5 1.5 1.5 Services 6.3 5.6 2.5 4.9 5.5 5.8 Inflation (Consumer Price Index) 8.9 7.7 8.5 9.0 8.5 8.0 Current Account Balance (% of GDP) -4.7 -3.7 -3.8 -5.0 -5.5 -6.0 Financial and Capital Account (% of GDP) 4.4 2.6 2.5 4.4 4.8 5.2 Net Foreign Direct Investment (% of GDP) 0.6 1.4 1.1 1.3 1.3 1.2 Fiscal Balance (% of GDP) -0.5 -0.1 -1.7 -1.5 -1.3 -1.0 Debt (% of GDP) 31.0 30.0 30.5 30.4 29.9 29.2 Primary Balance (% of GDP) 2.0 2.2 0.5 0.7 0.9 1.2 Poverty rate ($2.5/day PPP terms) a,b,c 3.1 2.6 2.5 2.4 2.2 2.0 Poverty rate ($5/day PPP terms) a,b,c 18.3 17.1 16.9 16.5 15.9 15.3 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 2008-HICES, 201 3-HICES, and 2014-HICES. (b) P ro jectio n using annualized elasticity (2008-2013) with pass-thro ugh = 1based o n GDP per capita in co nstant LCU. (c) A ctual data: 201 4. No wcast: 2015 - 2016. Fo recast are fro m 2017 to 2019. MPO May 17 Selected Country Pages ●  77 tion growth remained robust, and retail Recent developments trade expanded. Turkmenistan’s external position contin- ued to deteriorate in 2016, as falling ex- On February 12, 2017, President Gurban- ports widened the current account deficit. guly Berdimuhamedov was reelected to a To maintain the exchange rate peg at 3.5 Table 1 2016 third term with 97.7 percent of the vote. Turkmen manat per US dollar, the author- Population, million a 5.4 As Turkmenistan is one of the most hy- ities tightened restrictions on access to GDP, current US$ billion a 37.7 drocarbon-dependent economies in the foreign exchange, while imports were GDP per capita, current US$ a 6930 world—with the hydrocarbon sector ac- slow to adjust. Combined with lower FDI counting for half of GDP, more than 90 inflows, the higher current account deficit Life Expectancy at birth, years b 66 percent of exports, and more than 80 per- may have created a balance-of-payments Sources: World Bank, WDI, and M acro Poverty Outlook. cent of fiscal revenues—the administra- gap that required the central bank to tap Notes: (a) World Bank staff estimates (2016) tion will continue targeting a gradual its foreign exchange reserves. (b) M ost recent WDI value (2014) transition toward a more diversified, mar- The central bank focused on maintaining ket-driven economy. The government’s the currency peg by tightening liquidity plan calls for continued public support to and restricting the foreign exchange oper- entrepreneurship and greater public in- ations. Official statistics indicate that the vestment in education and health. To im- annual inflation rate averaged 6 percent in prove social indicators, the country will 2016, supported by administrative price Lower hydrocarbon prices and sluggish attempt to leverage its natural resource controls. external demand have continued to un- wealth to increase real incomes and raise The government maintained a tight fiscal dermine Turkmenistan’s economic per- living standards. policy stance (excluding off-budget fiscal formance. In 2016, real GDP growth GDP growth slowed marginally from 6.5 operations). While falling hydrocarbon percent in 2015 to 6.2 percent in 2016, ac- receipts reduced state budget revenues by slowed, imbalances in the external posi- cording to official data, as the continued 2.5 percent of GDP in 2016, lower capital tion widened, and domestic demand decline of global hydrocarbon prices outlays and the partial rationalization of weakened. While data on social indica- affected export revenue and domestic social subsidies slashed public spending tors are limited, the slowdown has likely demand. The Russian government’s deci- by 3.8 percent of GDP, yielding a modest had an adverse impact on welfare. Medi- sion to end gas imports from Turkmeni- budget surplus of 0.6 percent of GDP. The stan, a contract dispute with Iran, and the authorities do not publish information on um-term growth is projected to improve ongoing slowdown of the Chinese econo- the country’s six off-budget funds, includ- as hydrocarbon prices and export reve- my appear to have also affected hydrocar- ing the stabilization fund, and the govern- nues gradually recover. Deeper struc- bon output and exports. Meanwhile, a ment’s consolidated fiscal position re- tural reforms will be necessary to im- 36.8 percent reduction in public invest- mains unclear. ment and a 27.6 percent drop in foreign Turkmenistan does not release official sta- prove the sustainability and inclusive- direct investment (FDI) in large oil and tistics on living standards, and little is ness of growth. gas projects slowed growth in the con- known about the labor market. Data con- struction sector. Driven in part by in- straints prevent a thorough analysis of the creased government subsidies, consump- social impact of slowing economic growth. FIGURE 1 Turkmenistan / Real GDP growth and percent FIGURE 2 Turkmenistan / Exchange rate and oil prices change in gas prices Percent Percent USD/TMT US$ per barrel 16 14.7 40 0.38 120 14 30 0.36 100 12 11.1 20 0.34 10.2 10.3 9.2 10 0.32 80 10 0 0.30 8 6.5 6.2 60 -10 0.28 6 -20 0.26 40 4 -30 0.24 20 2 -40 0.22 0 -50 0.20 0 2010 2011 2012 2013 2014 2015 2016 2010 2011 2012 2013 2014 2015 2016 Real GDP growth (LHS) Change in gas prices (RHS) Exchange rate, USD/TMT (LHS) Oil prices, average (RHS) Sources: State Statistics Committee of Turkmenistan. Sources: Central Bank of Turkmenistan. MPO May 17 78  ●   World Bank ECA Economic Update May 2017 Fiscal consolidation is expected to contin- cal positions, increasing pressure on the Outlook ue, which should strengthen fiscal and debt sustainability. However, a persistent exchange rate, and depressing domestic demand. Domestic risks are primarily balance-of-payments deficit could raise policy-focused and include a slowing mo- Turkmenistan’s GDP growth rate is pro- net public debt if the authorities choose to mentum on the structural reform agenda jected to increase marginally in 2017, with close the gap by borrowing or by spend- or a reversal of recent efforts to promote a moderate recovery in hydrocarbon pric- ing its hydrocarbon-revenue reserves. economic diversification and private sec- es and lessened exchange rate pressures. tor development. While rising hydrocarbon prices are ex- Tight administrative controls and the pub- pected to narrow the current account defi- cit in 2017, it will remain elevated due to Risks and challenges lic sector’s large overall role in economic activity remain the key obstacles to pri- the slow import adjustment process. A vate sector development in Turkmenistan. further slowdown in net capital inflows Turkmenistan’s outlook is subject to both The public sector and state-owned mo- may compel the authorities either to use external and domestic downside risks. nopolies continue to dominate the econo- additional official foreign exchange re- External risks include a protracted slump my and the formal labor market. FDI re- serves to close the external financing gap, in global hydrocarbon prices or reduced mains limited outside the hydrocarbon or to adjust the exchange rate peg. demand for Turkmenistan’s natural gas sector. Deeper structural reforms and im- The authorities are expected to maintain a exports, either of which could be caused provements in the investment climate tight monetary policy stance to support by a sharper-than-expected slowdown in could help to attract investors in the non- the fixed exchange rate and ensure macro- the Chinese economy. Deteriorating exter- resource sectors and leverage the broader economic stability, though this will likely nal conditions could diminish export reve- potential of Turkmenistan’s economy. have a negative impact on the economy. nue, further eroding the external and fis- TABLE 2 Turkmenistan / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f Real GDP growth, at constant market prices 10.3 6.5 6.2 6.3 Prices: Inflation 6.0 7.4 6.0 6.0 Current Account Balance (% of GDP) -7.1 -12.3 -17.8 -15.9 of which: Exports of oil and gas (% of GDP) 42.1 29.9 18.1 18.4 Financial and Capital Account (% of GDP) 9.5 10.0 9.6 8.8 of which: Net Foreign Direct Investment (% of GDP) 9.5 12.5 8.6 8.4 State Budget Balance (% of GDP) 0.9 -0.7 0.6 0.0 Public Debt (% of GDP) 17.9 21.0 21.1 19.5 Sources: W orld Bank, International Monetary Fund. Notes: e = estimate; f = forecast. MPO May 17 Selected Country Pages ●  79 market conditions remained weak, unem- UKRAINE Recent developments ployment rate grew to 9.3 percent in 2016. Fiscal performance was better than ex- pected in 2016, supported by stronger than The economy has stabilized, but the recov- expected tax revenues and expenditure ery remains modest, with growth of restraint. The fiscal deficit (excluding Table 1 2016 2.3 percent in 2016. Decisive reforms in Naftogaz) was 2.2 percent of GDP in 2016, Population, million 42.5 2014 and 2015 helped to restore confi- up from 1.2 percent in 2015, but lower than GDP, c urrent US$ billion 92.6 dence and address key macroeconomic previously projected. Total government GDP per capita, c urrent US$ 2174 vulnerabilities after two years of sharp revenues declined by 11 percent in real Poverty rate ($2.5/day 2005PPP terms) a 0.3 contraction. The recovery was supported terms in 2016, in large part due to the cut in Poverty rate ($5/day 2005PPP terms) a 6.5 by a bumper harvest, with agriculture the social security contribution (SSC) rate. growing by 6 percent in 2016. In addition, SSC revenues declined from 9.6 percent of Gini Coeffic ient a 25.5 b other sectors also rebounded, with manu- GDP in 2015 to 5.5 percent in 2016—smaller Sc hool enrollment, primary (% gross) 100.0 facturing, construction, domestic trade, than total pension spending of 10.8 percent b Life Expectanc y at birth, years 71.2 and transport growing by 3.6, 16.3, 4.0, of GDP. The resulting pension fund deficit Source:World Bank WDI and M acro Poverty Outlook and 3.0 percent, respectively. In addition, of 5 percent of GDP has become a major Notes: fixed investment grew by 20 percent in fiscal vulnerability. On the other hand, (a) M ost recent value (2015) (b) M ost recent WDI value (2014) 2016, pointing toward strengthening in- other key tax revenues performed better vestor confidence. However, the overall than planned due to the pickup in econom- pace of recovery remains modest as sig- ic activity in 2016. At the same time, the nificant weaknesses remain in some parts authorities implemented additional ex- Ukraine’s economy grew by 2.3 percent in of the services sector, including education, penditure restraint measures in 2016, re- 2016 after around 16 percent cumulative health, and financial services. sulting in a decline in expenditures by over real GDP contraction in the previous two The poverty rate remained elevated in 9 percent in real terms. Public debt in- 2016, but declined slightly relative to 2015. creased to 81 percent of GDP due to the years. The recovery was supported by a Real income growth benefited from stabi- costs for recapitalization and nationaliza- bumper harvest and a pickup from low lization in consumer prices. Inflation tion of PrivatBank in December of 2016. levels in manufacturing, construction, slowed to 12.4 percent in 2016 from The current account deficit widened to and key services. The poverty rate re- 43.3 percent at end-2015 on the back of 3.8 percent GDP in 2016 due to an increase mained elevated in 2016, but declined exchange rate stabilization, subdued do- in intermediate and investment goods. mestic demand and prudent monetary Despite a significant reduction of imports slightly relative to 2015 levels due to low- policy. This gave some respite to lower of gas , the merchandize trade deficit dou- er inflation and higher wages. The eco- income households who over the last two bled in 2016 due to an increase in imports nomic outlook is modest given significant years have been hit by the recession, the of investment goods. Higher FDI in- headwinds related to the conflict and freeze in pensions and benefits at times of flows—mainly related to bank recapitali- high inflation, and increases in prices of zation—were sufficient to cover the cur- trade blockade in the east of Ukraine. Sus- energy (partly offset by the scale up of rent account deficit in 2016. International tainable recovery is contingent on re- social assistance but with uneven cover- reserves grew to US$15.5bn—an equiva- newed structural reform momentum. age of the bottom deciles). However, labor lent of 3.4 months of imports. FIGURE 1 Ukraine / GDP growth (yoy), contributions to FIGURE 2 Ukraine / Actual and projected poverty rates and growth, by sector private consumption per capita (constant LCU) Percent, percentage points Poverty (%) Private consumption per capita (constant LCU) 30 50 25000 45 20 40 20000 10 35 0 30 15000 25 -10 20 10000 -20 15 10 5000 -30 5 0 0 2002 2004 2006 2008 2010 2012 2014 2016 2018 Agriculture Manufacturing Domestic trade GDP $2.5/day PPP $5/day PPP Consumption pc Sources: Ukraine Statistics Service. Sources: World Bank (see notes to Table 2). MPO May 17 80  ●   World Bank ECA Economic Update May 2017 nancing to meet repayments of corporate may have broader negative impact on Outlook external debt amounting to about $7 billion per year during 2017-2018. confidence, pace of economic recovery and external financing needs. . Maintaining cooperation with the IMF The fiscal outlook remains challenging— While the economy is expected to grow and other official creditors will be im- addressing fiscal vulnerabilities would modestly, sustainable recovery is contin- portant to meet external financing needs require a comprehensive fiscal consolida- gent on renewed structural reform mo- and restore the investor confidence. tion that is underpinned by structural mentum. Economic recovery is expected Going forward as growth prospects im- reforms. Despite a significant reduction in to benefit from more favorable terms of prove, the poverty rate is expected to con- fiscal imbalances over the last two years, trade, strengthening domestic demand, tinue declining gradually. However, the medium term fiscal pressures remain sig- and a gradual resumption of bank lend- magnitude of this reduction will depend nificant. In 2017, the consolidated fiscal ing. The recent trade blockade would have on the pattern of growth in the sectors deficit is projected to widen to 3.1 percent a negative impact mainly in two sectors— were most of the poor/vulnerable are em- of GDP due to an increase in minimum steel production and electricity genera- ployed and the dynamics of key prices wages and the deficit of the Pension fund. tion. Growth is projected at 2.0 in 2017 including energy. The reduction of poverty The fiscal framework targets a reduction and 3.5 percent in 2018. Sustained recov- would be mainly driven by the growth of of the deficit to 2 percent of GDP by 2020. ery and growth of 4 percent or more will wages and other private incomes. Achieving this target will require a sys- require accelerating implementation of tematic fiscal consolidation anchored by politically difficult reforms to address comprehensive pension and tax reforms. longstanding structural challenges, in- cluding reducing corruption and improv- Risks and challenges In addition, there is a risk that, ad -hoc fiscal consolidation measures could have ing governance, implementing land re- a disproportionally high impact on poor form, strengthening competition and eas- Risks to the economic outlook is high due and vulnerable segments of society. With- ing regulation. to uncertainties regarding developments out strengthening the targeting of the External imbalances are expected to re- of the conflict in the east and progress existing HUS program, some of the main elevated due to current account with reforms on multiple fronts. The con- planned cuts in coverage could add to pressures and debt repayment needs. In flict in east of Ukraine has escalated con- existing pressures on poorer households, addition to remaining structural rigidities, siderably since end-January 2017 adding as could fiscal measures introduced to the trade blockade undermines exports to the headwinds faced by the economy. cover the budget deficit. Moreover, the recovery—the current account deficit is The ongoing trade disruption is already recent rise in the minimum wage could expected to widen to 4.1 percent of GDP accounted in the base-line projections, increase the incidence of informality in 2017. Ukraine will require external fi- however, if the conflict escalates further, it among low-wage earners. TABLE 2 Ukraine / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices -6.6 -9.8 2.3 2.0 3.5 4.0 Total Consumption -6.2 -15.9 1.4 3.1 2.8 3.3 Gross Fixed Capital Investment -24.0 -9.2 20.1 15.4 7.9 7.7 Exports, Goods and Services -22.1 -17.9 8.4 1.7 1.6 6.7 Imports, Goods and Services -6.2 -15.9 1.4 3.1 2.8 3.3 Real GDP growth, at constant factor prices -6.6 -9.8 2.3 2.0 3.5 4.0 Agriculture 2.3 -4.7 6.0 2.0 3.0 3.0 Industry -11.6 -13.4 3.0 1.5 3.5 4.0 Services -6.1 -9.6 -2.9 2.2 3.6 4.1 Inflation (Consumer Price Index) 24.9 43.3 12.4 10.2 7.0 6.0 Current Account Balance (% of GDP) -3.5 -0.2 -3.7 -4.1 -3.0 -3.3 Financial and Capital Account (% of GDP) 3.0 -5.4 4.0 1.6 7.0 3.0 Net Foreign Direct Investment (% of GDP) 0.2 3.6 3.5 1.8 2.5 3.2 Fiscal Balance (% of GDP) -4.5 -2.2 -2.3 -3.1 -2.6 -2.4 Debt (% of GDP) 70.3 79.4 81.2 88.8 83.5 75.9 Primary Balance (% of GDP) -0.2 3.0 2.0 1.2 1.8 1.8 Poverty rate ($2.5/day PPP terms) a,b,c 0.0 0.3 0.3 0.2 0.2 0.1 Poverty rate ($5/day PPP terms) a,b,c 3.3 7.5 6.5 5.5 4.6 4.0 Sources: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. (a) Calculatio ns based o n ECA P OV harmo nizatio n, using 201 5-HLCS. (b) P ro jectio n using neutral distributio n (2015) with pass-thro ugh = 1(High) based o n private co nsumptio n per capita in co nstant LCU. (c) A ctual data: 201 4, 2015. No wcast: 201 6. Fo recast are fro m 2017 to 2019 MPO May 17 Selected Country Pages ●  81 stan’s imports declined (mainly energy, UZBEKISTAN Recent developments food, and consumer durables) due to fur- ther import-substitution of fuels and food, as well as import compression measures, Uzbekistan’s GDP growth slowed margin- such as foreign currency rationing; all ally to 7.8 percent in 2016 from 8 percent these factors mitigated the pressures on Table 1 2016 in 2015, according to official statistics. the external accounts. Population, million 31.5 Growth was supported by the expansion The impact of the deteriorated external GDP, c urrent US$ billion 67.1 in services (12.5 percent), agriculture (6.6 environment of recent years (Russian cri- GDP per c apita, c urrent US$ 2126 percent), and industry (5 percent), led by sis, slower growth in China, and lower Life Expec tanc y at birth, years a 68.2 the newly adopted development pro- commodities prices) was seen in the re- grams for 2016-20 on infrastructure, in- turn of up to 1 million labor migrants to Source:World Bank WDI and M acro Poverty Outlook Notes: dustry, agriculture, and services sectors, Uzbekistan in 2014-16 and in the slight including tourism. deterioration of the external and fiscal (a) M ost recent WDI value (2014) On the demand side, the main driver of accounts. Given Uzbekistan’s broader economic growth was investment, which development policy—that has reduced grew at 9.5 percent per annum – led by reliance on foreign trade and increased the the large public investment program for role of domestic absorption based on Uz- 2015-19 supporting the development pro- bekistan’s 32 million population and the grams and investment by the private sec- support of the UFRD and FDI—the ad- tor and state-owned enterprises (SOEs). verse impact of the external environment Uzbekistan’s political transition is com- This was further bolstered by an increase appears to have been somewhat mitigat- pleted with both new president and gov- in bank credit and co-financing by the ed. Still, Uzbekistan’s GDP growth and ernment in place in January 2017. Dur- Uzbekistan Fund for Reconstruction and investment figures suggest a weakening of ing 2016, the economy performed well, Development (UFRD). Private consump- the economy, as evidenced by lower TFP and GDP growth of 7.8 percent is tion recovered in 2016, following a consid- growth and a worsening incremental capi- erable slowdown in 2015, owing to in- tal-output ratio (ICOR). attributed to investment supported by creases in public sector wages, pensions During 2016 as in several previous years, state budget. The outlook for 2017 is and social allowances. Remittances were fiscal policy sought to offset the weakened favorable, given a continuation of eco- below their 2015 level throughout 2016, consumer demand attributed to the re- nomic policies and a slightly improving but they started recovering in Q4 of 2016 duced remittances and a weakening econo- by around 8 percent (y/y). my. The government increased invest- external environment. Downside risks Uzbekistan’s exports grew in 2016 despite ment, salaries and transfers, while cutting pertain mainly to TFP growth slow- the weak external environment, reversing back on administrative and related expens- down due to potential delays in struc- the negative trend in the previous three es. To support the economy, the authori- tural reforms. years. A small improvement in total ex- ties also cut direct taxes on business and ports (0.5 percent) was driven by im- citizens. Uzbekistan’s overall fiscal surplus provements in exports of chemicals, ma- is estimated to have improved modestly in chinery, gold and services that offset de- 2016 due to both increased revenues and clines in gas, metals and cotton. Uzbeki- reduced current expenditures. FIGURE 1 Uzbekistan / GDP growth, contributions to FIGURE 2 Uzbekistan / Poverty, GDP per capita, and small growth, by sector business development, 2001–2016 Percent, percentage change GDP per capita, US$ Percent 10 2,500 60 2,000 50 8 40 1,500 6 30 1,000 4 20 500 10 2 0 0 0 2001 2003 2005 2007 2009 2011 2013 2015 2002 2004 2006 2008 2010 2012 2014 2016* Small business, % of GDP, rhs Services Construction Agriculture GDP per capita, US$, lhs Industry Net taxes GDP total National poverty rate, % of population, rhs Source: Uzbekistan official statistics, World Bank staff calculations. Sources: Uzbekistan official statistics. Note: The national poverty line is minimum food consumption equivalent to 2,100 calories per person per day and it does not include non-food items. Due to the lack of access to microdata the Bank cannot validate the official figures after 2003. MPO May 17 82  ●   World Bank ECA Economic Update May 2017 In 2016, the government also launched a robust employment growth could have gradually recovers, Uzbekistan’s external privatization program and, by end-year, it been a draft on the opportunities of the accounts could improve modestly over had sold stakes in 609 state-owned enter- poor. The distribution of income has be- time, including under the current policy of prises to Uzbek residents, while the mi- come more equitable over time, and the tight foreign exchange controls to contain nority shares in 59 Uzbek joint stock com- official Gini coefficient fell from 0.39 in import growth. panies were sold to foreign investors. 2001 to 0.29 in 2013. However, the unem- While data limitations do not allow for Uzbekistan’s monetary and exchange rate ployment rate was at 5.2 percent in both poverty projections, an increased in- policies were largely unchanged in 2016. 2016 and 2015, i.e. increased from 4.9 per- come growth and revival of remittances The Central Bank of Uzbekistan’s (CBU) cent in 2014. could help sustain the progress in re- policy remained broadly accommodative. ducing unemployment and poverty over As a result, inflation remained stable from the near term. 2015 (at about 8 ½ percent). The CBU’s refinancing rate was maintained at 9 per- Outlook cent in 2016 (i.e. slightly positive in real terms), helping total banking deposits to Uzbekistan’s growth outlook is predicated Risks and challenges grow by 27.5 percent (y/y) in the first 9 on continued robust domestic investment months of 2016, and total banking loans to supported by the allocation of fiscal re- Uzbekistan’s economy faces upside and grow by 25.7 percent (y/y). Non- sources (including from the UFRD), and a downside risks. On the upside, are the performing loans (NPLs) appear to have gradual recovery of commodity prices, prospects for commodity prices. In addi- remained relatively stable at 0.4 percent remittances, and private consumption tion, the presidential transition following according to CBU estimates. Moody’s as- growth. Annual GDP growth is projected elections in late 2016 preserved the politi- sesses NPLs at 4-5 percent in August 2016. to slow slightly—from 7.8 percent in 2016 cal stability, while announcing 2017 to be Although validation is not possible due to to an average 7.7 percent—over the medi- the “Year of Dialogue with People”—an lack of access to micro data, the official um term. The fiscal balance will recover effort that could yield ownership for mod- poverty rate declined from 14.1 percent in modestly, but will not reach pre-2015 ernization efforts in the country. On the 2013 to 12.8 percent in 2015 and an esti- rates. While currency weakening will sup- downside, the recovery in the Russian mated 12.5 percent in 2016. Robust eco- port growth, monetary policy is expected economy and in commodity prices could nomic growth, small business develop- to be broadly accommodative, but some- be delayed, as could domestic structural ment, and targeted government safety net what more restrained than in previous reforms. Importantly, the economy’s vul- programs may have driven poverty reduc- years, aiming at a gradual reduction in the nerabilities may be understated given data tion, whereas return migration and lack of inflation rate. As the external environment limitations. TABLE 2 Uzbekistan / Macro poverty outlook indicators (annual percent change unless indicated otherwise) 2014 2015 2016 e 2017 f 2018 f 2019 f Real GDP growth, at constant market prices 8.1 8.0 7.8 7.6 7.7 7.8 Private Consumption 5.8 0.8 3.2 5.6 6.8 6.0 Government Consumption 9.9 4.0 -2.0 1.2 1.2 2.8 Gross Fixed Capital Investment 9.6 9.6 9.5 9.8 10.2 9.8 Exports, Goods and Services -5.1 -5.3 0.5 1.4 3.2 5.4 Imports, Goods and Services -4.1 -13.4 -2.4 -1.5 2.6 3.0 Real GDP growth, at constant factor prices 7.9 7.9 7.9 7.6 7.7 7.8 Agriculture 6.9 6.8 6.6 6.5 6.5 6.5 Industry 8.5 8.5 6.9 7.1 7.2 7.2 Services 8.2 8.2 9.0 8.3 8.5 8.6 Inflation (Private Consumption Deflator) 9.1 8.5 8.4 8.2 8.0 8.0 Current Account Balance (% of GDP) 1.7 0.9 1.3 1.7 1.8 2.3 Fiscal Balance (% of GDP) 2.0 0.8 1.0 1.1 1.4 1.5 Debt (% of GDP) 8.3 8.4 9.6 10.6 11.2 11.6 Primary Balance (% of GDP) 2.1 0.9 1.1 1.2 1.5 1.6 So urces: Wo rld B ank, M acro eco no mics and Fiscal M anagement Glo bal P ractice, and P o verty Glo bal P ractice. No tes: e = estimate, f = fo recast. MPO May 17