Statement by the IMF Staff Mission to BulgariaPress Release No. 09/134
April 22, 2009
An International Monetary Fund (IMF) mission headed by Bas Bakker visited Sofia during April 14–22 to hold regular discussions with Bulgarian authorities. At the conclusion of the visit, Mr. Bakker made the following statement:
“The global financial and economic crisis has turned out to be more severe than had been anticipated during the mission’s last visit in December 2008. Global GDP is now projected to shrink by almost 1 percent this year—the first decline in at least sixty years—and by even more in the EU.
“As a result of the global turmoil, capital flows to Eastern Europe have declined. Western European banks are no longer providing new funding to their local subsidiaries, and private sector credit growth has slowed, in many countries to near zero. Consequently, domestic demand growth has also slowed, and has in many countries become negative. At the same time, demand for Eastern Europe’s exports has shrunk, as its principal trading partners are in recession. With both exports and domestic demand shrinking, GDP in the region is declining.
“Bulgaria has been affected by the global crisis through similar channels as other countries in the region. Capital inflows have declined, and credit growth has ground to a near-halt. Nominal exports in the first two months of 2009 were 27 percent lower than in the first two months of 2008. Imports dropped even more sharply (32 percent), suggesting that domestic demand is declining, and the current account deficit is adjusting rapidly. High frequency indicators suggest that the economy may already be in an economic downturn. Manufacturing production in February was 23 percent lower than a year earlier; retail trade turnover in February was 4.7 percent lower in volume terms; and new car sales in the first quarter were 51 percent lower than a year earlier.
“As a result of these shocks, the mission now projects that the Bulgarian economy will shrink by around 3½ percent this year and 1 percent next year. The projection is a downward revision of our projection in the April 2009 World Economic Outlook, which was prepared a few weeks ago, prior to our current visit. The current account deficit is expected to decline from 25 percent of GDP in 2008 to around 12 percent of GDP in 2009, while inflation, which less than a year ago had increased to over 15 percent, will decline sharply to around 1½ percent by end-2009.
“Bulgaria has strong buffers—the result of prudent policies during the boom years. The public finances are in surplus, the balance sheets of the central bank and the government are strong, with considerable foreign and fiscal reserves. The banking system has remained stable and benefits from the additional cushions created by regulation put in place during the boom years. These policies have supported the currency board, which has and should continue to anchor economic policies.
“To maintain confidence, it is important that these buffers not be eroded quickly, and policies adjust to the worsened reality in a timely manner.
“As a result of the economic downturn, fiscal revenues are likely to disappoint. So far, this has been most visible in VAT receipts, which have been hurt by the sharp drop in imports. But other categories are likely to be affected as well, and total tax revenues may well decline in nominal terms.
“The original budget of September 2008, which envisaged 16 percent tax revenue growth, was too optimistic. But even after the decision made in December to limit spending to 90 percent of the budgeted amount (the 90 percent rule), spending plans are not sufficiently tight. Our current revenue projections suggest that such a spending level would result in a deficit of about 1 percent of GDP. To avoid fiscal deficits, expenditure will need to be reduced.
“It is desirable and should be feasible to maintain a small surplus in 2009. There is room to cut expenditure further, including by lowering the growth of spending on maintenance, operating costs and government subsidies, containing the public wage bill, and streamlining public investment. Keeping fiscal surpluses is important to prevent an erosion of the fiscal reserve account—an important component of international reserves—and maintain confidence in the currency board.
“Keeping the public finances in surplus next year will be even more difficult—nominal revenues are likely to decline and nominal expenditure will need to be reduced accordingly.
“To sustain a future recovery, private sector resources will need to be shifted to external trade-oriented sectors. The sectors that have contributed the bulk of the growth in recent years (financial sector, real estate, construction) were dependent on large capital inflows. With a prolonged drop in capital inflows, these sectors are likely to decline in the near future and may see little, if any, growth thereafter. A market driven reorientation toward the tradable sectors is needed. This will only be possible if the rapid rise in unit labor costs of recent years comes to an end. Anecdotal evidence suggests that wages are indeed slowing rapidly, but it will be important that wage moderation is sustained.”