Press Release No. 06/25

Press Release: IMF Executive Board Completes Sixth Review Under an Extended Arrangement with Serbia and Montenegro and Approves US$90.1 Million Disbursement

February 7, 2006

The Executive Board of the International Monetary Fund (IMF) today completed the sixth and final review of Serbia and Montenegro's economic performance under an Extended Arrangement. The completion of the review enables the release of an amount equivalent to SDR 62.5 million (about US$90.1 million), which would bring total disbursements under the program to SDR 650.0 million (about US$937.2 million).

In completing the review, the Executive Board granted waivers for the non-observance of two end-September 2005 quantitative performance criteria on the ceiling for net credit to government, and on the wage bill of the monitored public enterprises, as well as of five structural performance criteria pertaining to government action on spinning off non-core companies of public enterprises, and parliamentary approval of legislation. In addition, the Board completed a Financing Assurances Review, and called on Serbia and Montenegro to engage in Post-Program Monitoring.

The Executive Board reviewed a non-complying purchase made in 2005 resulting from a misreporting of data. The Board regretted the authorities' failure to provide accurate information, but granted a waiver in light of the minor deviation from the program target and the prompt corrective actions taken by the authorities. The Board also granted a waiver of nonobservance of the performance criterion that gave rise to the non-complying purchase and decided not to take action on the breach of obligations under Article VIII, Section 5, in light of the improvements in monitoring and reporting.

The Extended Arrangement was approved in May 2002 for a total amount equivalent to SDR 650 million (about US$937.2 million) to support Serbia and Montenegro's 2002-2005 economic program (see Press Release No. 02/25). It was extended twice, on May 13, 2005, and December 21, 2005 respectively.

Following the Executive Board's discussion on Serbia and Montenegro, Ms. Anne O. Krueger, First Deputy Managing Director and Acting Chair, stated:

"The strong growth and export performances in Serbia and Montenegro are notable and have been supported by an acceleration of structural reforms. In particular, the restructuring and privatization of banks and the improved business climate have boosted investment. At the same time, macroeconomic imbalances have begun to ease on the strength of a substantial fiscal tightening.

"Despite recent improvements, the high inflation and external current account imbalance remain sources of concern. The large current account deficit and the rise in debt-financing have increased the vulnerability to disruptions in external credit markets or exchange rate changes. In this regard, the slippages in incomes and monetary policies are regrettable, in particular the insufficient sterilization of large capital inflows. The imbalances also reflect the slow restructuring of public and socially owned enterprises, which is limiting potential growth and the authorities' room for maneuver to adjust demand management policies.

"Looking forward to 2006, the envisaged further tightening of macroeconomic policies and acceleration of structural reforms should lower inflationary pressures and reduce the current account deficit, while helping to sustain growth.

"There is a significant fiscal improvement envisaged for 2006. The permanent expenditure savings and the commitment to save higher-than-expected revenues are likely to increase the flexibility of fiscal policy and its medium-term sustainability. At the same time, a stricter incomes policy is needed to contain demand and improve competitiveness.

"Monetary policy in Serbia should continue to be tightened to stem the rapid expansion of credit. The further development of market-based monetary policy instruments by the National Bank of Serbia is welcome, but macro-prudential measures will remain important to contain credit growth in the near term. The enactment of the new banking law represents a major step towards aligning prudential standards to international norms. The rapid credit expansion, rising foreign exchange-indexed lending, and the increase in non-performing loans, point to the need for strengthened bank supervision.

"The current exchange rate policy in Serbia carries risks. While the exchange rate anchor should help lower inflationary expectations, it could endanger the external competitiveness position and slow the necessary adjustment of the external current account imbalance. Therefore, lowering both inflation expectations and the external current account deficit will require tight demand management policies and timely corrections as circumstances change. Over the medium term, success in reducing the imbalances will also depend on progress with structural reforms.

"In Montenegro, a continued tight macroeconomic policy stance is needed to improve competitiveness under the euroized regime. In particular, it will be necessary to resist wage pressures in the public sector in the run-up to the elections. Over the medium term, structural reforms will be of paramount importance to increase productivity, bolster the growth potential, and reduce external imbalances.

"Continued implementation of prudent macroeconomic policies and an acceleration of structural reforms beyond the Extended Arrangement are needed to address the macroeconomic imbalances and foster growth. This will also be key to ensuring the international community's continued support of Serbia and Montenegro's adjustment and reform efforts.

"The Executive Board completed the sixth review under the Extended Arrangement, and granted waivers for the non-observance of 2 performance criteria and 5 structural performance criteria in recognition of the authorities' corrective policy actions," Ms. Krueger said.