## EXECUTIVE SUMMARY — Republic of Kosovo (1kosea2020001)

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---

### IMPACT OF COVID-19: macro effects and selected indicators
- Growth:
  - will be curtailed to -5 percent in 2020.
  - Pre-COVID19 expectations (2020): growth a little over 3.5 percent (4 percent in 2019).
- Domestic demand and credit:
  - Domestic demand hit by containment measures and heightened uncertainty.
  - Bank credit: domestic credit expected to decrease by about 4 percent in real terms.
- External sector:
  - Tourism receipts projected to decrease by about 20 percent in 2020.
  - Exports of goods expected to decrease by 17 percent.
  - Remittances forecast to fall by 10 percent in 2020.
  - Compensation of Kosovans working abroad expected to decrease by 19 percent.
  - FDI and other financial flows expected to be cut by half to 3.6 percent of GDP in 2020 (7 percent in 2019).
  - Current and capital account deficits projected to deteriorate to 7.8 percent of GDP (5.6 percent of GDP in 2019).
  - Resulting temporary urgent financing gap of 4.1 percent of GDP.
- Fiscal impact:
  - Fiscal revenues expected to decrease by 12 percent in 2020.
  - Additional spending to mitigate COVID-19 impact estimated at about 2.5–3.5 percent of GDP; primary expenditure envelope projected to decrease by 4.5 percent.
  - Overall fiscal deficit projected to soar to 4.8 percent of GDP.
  - Fiscal rule definition deficit expected at 3.4 percent of GDP (above the 2 percent of GDP ceiling).
  - Stock of government bank balances: 3.8 (percent of GDP).
  - Total public debt: 20.7 (percent of GDP).
- Selected economic indicators (2020, Pre-COVID19 → Current Proj.):
  - Real GDP growth: 3.6 → -5.0
  - CPI, period average: 1.4 → 1.3
  - CPI, end of period: 1.9 → 1.6
  - Revenues and grants (percent of GDP): 26.1 → 24.4
  - Expenditures (percent of GDP): 28.9 → 29.2
  - Wages and salaries (percent of GDP): 8.7 → 9.5
  - Subsidies and transfers (percent of GDP): 8.5 → 11.5
  - Capital and net lending (percent of GDP): 6.9 → 2.9
  - Overall Balance (Fiscal rule): -1.5 → -3.4
  - Overall balance: -2.8 → -4.8
  - Current account balance, incl. official transfers (percent of GDP): -6.3 → -7.4
  - Of which: Official transfers (percent of GDP): 2.9 → 3.0
  - Of which: Remittance inflows (percent of GDP): 12.1 → 11.1
  - Financial account (percent of GDP): -4.9 → -6.0
  - Errors and Omissions (percent of GDP): 1.6 → 1.5
  - Bank credit to the private sector (percent change): 8.2 → -2.4
  - Deposits of the private sector (percent change): 5.8 → -4.2
  - GDP (millions of euros): 7,483 → 6,877

### POLICY ISSUES, MEASURES, AND STAFF ADVICE
- Public health and containment response:
  - First cases announced mid-March; 126 confirmed cases as of April 3.
  - “Coronavirus Management Committee” set up.
  - Temporary closures of schools, universities and all non-essential businesses; social distancing; travel and movement restrictions; bans on air travel with risk countries; increased health monitoring at airports and borders.
- Fiscal measures (total cost estimated at 2.5–3.5 percent of GDP):
  - Transfers to SMEs and sectors most affected by lockdown.
  - Advancing payment for social assistance schemes by one month.
  - Extra allocations to the health ministry to procure medical gear.
  - Deferrals of corporate and personal income taxes, and VAT.
  - Temporary removal of VAT on imports of wheat and flour.
  - Deferral of public utilities payments until end April.
  - Measures to be accommodated mainly by spending reallocations and reduced capital spending.
- Staff advice and cautions:
  - Contain other fiscal risks, including from implementation of public administration reform (PAR) laws approved in 2019.
  - Limit fiscal risks of proposed emergency measures; preserve buffers of the Privatization Agency of Kosovo (PAK).
  - Broad agreement on deferring VAT payments, but caution against deferring VAT filings and extending VAT removals or reductions.
  - Importance of ensuring business continuity of PFM systems.
- Financial sector measures:
  - Central Bank decision to suspend loan repayments by borrowers affected by COVID-19 (through end-April, option to extend) appropriate.
  - Suspension to be case-by-case and targeted.
  - CBK will apply regulatory forbearance on loan provisions and capital requirements on reprogrammed loans.
  - Staff strongly cautioned against weakening provisioning or capital standards; urged CBK to work with banks on capital restoration plans if minimum capital is compromised.
  - Forbearance not a permanent solution; need for bank-specific plans and intensive supervision, especially for banks with concentrated portfolios and riskier clients.

### ACCESS TO IMF FINANCE, FINANCING GAP, AND CAPACITY TO REPAY
- RFI request:
  - Authorities requested an RFI purchase of SDR 41.30 million (about Euro 51 million), equivalent to 50 percent of quota; full amount to become available upon Board approval.
  - Proposed RFI purchase equals 0.7 percent of GDP and would contribute towards closing around 20 percent of the external financing gap in 2020.
- Remaining gap financing:
  - Other donor resources (additional EU grants and World Bank financing for 0.4 percent of GDP).
  - Reserve losses (3 percent of GDP).
- RFI objectives: address urgent balance of payments needs, containment and mitigation efforts, and preserve fiscal buffers; could catalyze support by other IFIs.
- Capacity to repay:
  - IMF credit outstanding after the RFI (at end-2020) will amount to 114 percent of quota.
  - Associated servicing risks mitigated by country’s low indebtedness.
  - Debt sustainability analysis shows debt to be sustainable with a sufficient buffer to remain sustainable even after the impact of the virus.
  - Kosovo has appropriate capacity to repay the Fund and a good track record of timely payment of external obligations.
- Safeguards:
  - Authorities committed to update the safeguards assessment before Board approval of any subsequent arrangement to which the safeguards policy applies.
  - Central bank authorized IMF staff to discuss with external auditors and access most recent external audit reports.
  - CBK and Ministry of Finance signed a memorandum of understanding on responsibilities to service IMF obligations.
  - Last safeguards assessment concluded in July 2015; all recommendations implemented.

### OUTLOOK, RISKS, AND SCENARIOS
- Outlook:
  - Strong GDP contraction in 2020 followed by recovery later in the year and in 2021.
  - Balance of payments financing need expected to be resolved within one year without major policy changes.
  - Contingency plans, greater donor support, and a possible upper-credit-tranche-level Fund arrangement may be required given downside risks.
- Downside risks:
  - Exports, remittances, and government revenues might fall more than in the baseline.
  - If blanket containment measures extend through Q3 (staff baseline assumes restrictions will not extend through Q3, which typically accounts for 55 percent of diaspora-related tourism), impact could be much larger.
  - Heightened uncertainty could further disrupt demand and reduce GDP growth by an additional 6 percentage points.
  - Recession and travel bans could expose vulnerabilities in uncollateralized bank loans and hit hospitality and construction sectors dependent on diaspora-related flows.
  - Several small banks with aggressive risk-taking behavior may be affected.
  - An illiquid secondary market for government securities may create risks for some banks’ deposit funding.
- Political risk:
  - Fluid political situation and internal disagreements about advancing dialogue with Serbia pose additional risks.
  - No-confidence vote in late March; Assembly and caretaker government continue to operate.
  - President initiated dialogue with all parties to ensure a seamless political transition.

### STAFF APPRAISAL (key judgments)
- Staff support the authorities’ RFI purchase request of SDR 41.30 million (50 percent of quota) given the strong economic impact and urgent balance of payments need.
- Short-term economic outlook deteriorating quickly due to effects in remittance-originating countries, blanket containment measures, and travel bans.
- Fiscal actions to date appropriately target affected sectors and support social and health spending.
- Use of the escape clause to accommodate a deficit above the 2 percent of GDP ceiling is appropriate.
- Staff broadly support CBK’s temporary loan suspension measures but strongly caution against weakening provisioning or capital standards.

### FISCAL AND BANKING POLICY STANCE; MEDIUM-TERM PROJECTIONS
- Fiscal and banking policy stance:
  - Kosovo’s implementation of the fiscal rule and of generally sound banking sector policies have supported macroeconomic stability and sustained growth in recent years.
  - After the current crisis, rebuilding fiscal buffers through fiscal consolidation is highlighted as crucial.
  - Bank-specific plans will be needed (where appropriate) to gradually restore capital and liquidity ratios after the crisis has passed.
  - Rebuilding fiscal and bank buffers is essential given the absence of a lender of last resort as Kosovo is unilaterally euroized.
  - IMF staff stands ready to assist the authorities in addressing immediate and medium-term policy challenges and supporting a strong and sustainable economic recovery.
- Selected medium-term projections and indicators (excerpts):
  - Real GDP growth (2017–2025): 4.2 3.8 4.0 -5.0 7.5 3.7 3.8 3.9 4.0
  - CPI, period average (selected): 1.5 1.1 2.7 1.3 1.6 1.8 1.8 1.9 1.9
  - Official unemployment (percent of workforce): 1/30.5 29.6 25.9 (2019 as of Q4 2019)
  - General government revenues and grants (percent of GDP): 26.2 26.1 26.5 24.4 25.5 25.5 25.5 25.5 25.6
  - Expenditures (percent of GDP): 27.4 29.0 29.4 29.2 28.2 27.7 27.8 28.0 28.1
  - Overall balance (actual): -1.2 -2.9 -2.8 -4.8 -2.7 -2.3 -2.4 -2.5 -2.5
  - Total public debt (percent of GDP): 16.2 16.9 17.5 20.7 22.7 24.1 25.4 26.8 28.1

### ANNEX I — DEBT SUSTAINABILITY ANALYSIS: findings and policy priorities
- Summary findings:
  - General government debt is projected to increase from 17.5 percent of GDP in 2019 to 28.2 percent of GDP by 2025 under the baseline.
  - Debt is assessed as sustainable in the baseline and stress scenarios; public debt does not breach the high-risk threshold of 70 percent of GDP in any stress test.
  - Main risks: shocks to growth, contingent liabilities, and an increasingly reduced capacity of the domestic market to absorb higher government debt given Kosovo does not have external market access.
  - Key policy priorities: extend the maturity of debt and diversify sources of financing to contain financing risks.
- Key macro-fiscal assumptions:
  - Real GDP: contract by 5 percent in 2020; gradual recovery toward the pre-COVID-19 baseline reaching 4 percent by 2025.
  - Headline inflation: 1.3 percent in 2020, gradually increasing to 1.9 percent over the medium term.
  - Fiscal deficit (general government): increase to 4.8 percent of GDP in 2020 (2.8 percent in 2019).
  - Fiscal rule deficit: 3.4 percent of GDP in 2020, declining to 1.5 percent of GDP by 2025; fiscal rule deficit ceiling is 2-percent of GDP.
- Financing assumptions and buffers:
  - 2020 financing: drawdowns from existing government bank balances, official financing from World Bank resources and EU grants, use of Fund credit under the RFI window, and larger domestic issuance of government bonds.
  - Domestic debt average maturity: projected to increase from 2.4 to 3 years over the forecast period.
  - Short-term debt share: projected decrease from 4.8 percent of total debt in 2019 to less than 1 percent by 2025.
  - IFI financing: cumulative 403 million euros by 2025.
  - Prudent buffer: maintain 4.5 percent of GDP in government deposits with the CBK; provisions to do so require additional financing of 1.9 percent of GDP during 2021–2025.
- Debt dynamics and gross financing needs:
  - Baseline gross financing needs:
    - Increase to 10.2 percent of GDP in 2020.
    - Decline thereafter, averaging 8.4 percent over 2020–2025 (6.9 percent during 2015–2019).
  - Change in gross public sector debt: cumulative increase of 10.8 percent of GDP over 2019–2025.
  - Identified debt-creating flows cumulative (2019–2025): 11.1 percent of GDP.
- Stress tests and scenarios:
  - Standard stress tests performed: Primary Balance Shock, Real GDP Growth Shock, Real Interest Rate Shock, Real Exchange Rate Shock, Combined Shock, Contingent Liability Shock.
  - Selected outcomes:
    - Contingent liabilities: guarantees for a new power plant project could lift debt above the 30 percent of GDP ceiling considered prudent for Kosovo.
    - Contingent liabilities shocks associated with a financial sector shock, POEs (modeled at 5 percent of GDP) and financing of PAK (1.5 percent of GDP) would have a large impact on the debt profile.
    - Gross financing needs do not exceed the 15 percent of GDP sustainability threshold in baseline or most shocks, but they exceed 12 percent in the standard contingent liability shock scenario.
- Policy recommendations:
  - Extend the average maturity of the domestic debt stock to reduce rollover and refinancing risks.
  - Diversify sources of financing:
    - Expand the investor base to include more public entities, individuals, private businesses, and insurance companies.
    - Reduce CBK holdings of government securities.
    - Do not increase the exposure limit for KPST to more than 30 percent of its assets.
  - Explore new instruments such as retail or external bonds conditional on progress in reducing country risk and improving international market access.
  - Monitor and manage contingent liabilities, particularly guarantees related to large infrastructure projects and PAK/POEs exposures.

### APPENDIX I — LETTER OF INTENT: authorities’ request and commitments
- Request for IMF Emergency Financing:
  - The government of Kosovo requests emergency financing from the IMF in the amount equivalent of SDR 41.30 million (about Euro 52 million), corresponding to a purchase of 50 percent of Kosovo’s quota under the Rapid Financing Instrument (RFI).
  - IMF assistance will be used to provide support to address urgent balance of payments needs, for containment and mitigation efforts, and to preserve fiscal buffers in Kosovo’s unilaterally euroized economy.
- Authorities’ short-term outlook and assumptions:
  - First reported COVID-19 case: March 13.
  - Cases as of April 6: 170.
  - Authorities’ preliminary macro forecast (under assumption that “social distancing” restrictions start easing in Q3): Economy expected to contract from -2 to -4 percent of GDP in 2020, equal to 6-8 percentage points below the pre-pandemic baseline.
  - Authorities assume a V-shaped recovery in Q4 of this year and in 2021.
- Fiscal effects and financing needs (authorities’ view):
  - Fiscal revenues in 2020 are expected to decrease by approximately 8 percent, compared to staff’s forecast of 12 percent.
  - Near-term fiscal financing needs: 3 percent of GDP.
  - Public debt is expected to jump to over 22 percent of GDP this year.
  - External financing inflows will be cut by almost 50 percent, resulting in a steep financing gap.
- Policy response and emergency package (selected measures and costs):
  - Initial measures: additional funding to the Ministry of Health; deferred corporate income and personal income taxes, and VAT; advanced payments for social assistance schemes by additional three months; removed VAT on imports of wheat and flour.
  - Emergency package passed on March 30 (temporary, targeted):
    - Transfers to SMEs and other sectors most affected, including wage subsidies, coverage of pension contributions for subsidized wage workers for the next two months, and coverage of rent for businesses of up to 50 percent for two months.
    - Payment of EUR 130 for the next 3 months to those that have lost their job during the crisis.
    - Interest rate subsidy and support to exporters.
    - Additional sum of thirty (€30) Euros per month to all beneficiaries of social assistance and pension schemes who receive a monthly payment lower than one-hundred (€100) Euros, for April, May and June.
    - Bonus payments (for two months) for the healthcare workers and police.
    - Targeted liquidity support to firms.
  - Total estimated cost of the emergency package: around 2.5 percent of GDP.
  - All measures will be embedded in the budget process; authorities commit to transparency, good governance, and accountability in implementation arrangements.
- Banking sector measures and safeguards:
  - CBK to temporarily suspend payment of loan instalments for businesses and individuals from March 16 to April 30, with the option to extend; suspensions to be bank-decided, case-by-case, and targeted.
  - CBK to apply regulatory forbearance on loan provisions and capital requirements on reprogrammed loans.
  - CBK and Ministry of Finance signed a memorandum of understanding on a framework for respective responsibilities to service IMF obligations.
- Commitments and forward engagement:
  - Authorities committed to rebuilding fiscal buffers through fiscal consolidation after the crisis.
  - Bank-specific plans will be needed to restore capital and liquidity ratios after the crisis has passed.
  - Authorities will continue to provide Fund staff with all data and information necessary for monitoring and policy evaluation and will consult with IMF staff on fiscal and financial policies.
  - Authorities stand ready to analyze with IMF staff the appropriateness of multiyear engagement once the crisis subsides and to consider a multiyear upper-credit tranche arrangement when conditions normalize.

*Source: EXECUTIVE SUMMARY (1kosea2020001) — Republic of Kosovo, International Monetary Fund, April 3, 2020.*

### EXECUTIVE SUMMARY

### EXECUTIVE SUMMARY

### IMPACT OF COVID-19
- Growth: will be curtailed to -5 percent in 2020.
- Tourism receipts, remittances, exports of goods, and FDI are all expected to plummet due to travel restrictions and the effect of the pandemic in trading partners and remittance-originating countries.
- Domestic demand hit by containment measures and heightened uncertainty.
- Bank credit: domestic credit expected to decrease by about 4 percent in real terms.
- Pre-COVID19 expectations (2020): growth a little over 3.5 percent (4 percent in 2019); inflation projected at 1.4 percent (2.7 percent in 2019); fiscal deficit expected at 2.8 percent of GDP; public debt below 20 percent of GDP.
- Fiscal impact:
  - Fiscal revenues expected to decrease by 12 percent in 2020.
  - Additional spending to mitigate COVID-19 impact estimated at about 2.5–3.5 percent of GDP; primary expenditure envelope projected to decrease by 4.5 percent.
  - Overall fiscal deficit projected to soar to 4.8 percent of GDP.
  - Fiscal rule definition deficit expected at 3.4 percent of GDP (above the 2 percent of GDP ceiling).
  - Stock of government bank balances: 3.8 (percent of GDP).
  - Total public debt: 20.7 (percent of GDP).
- Balance of payments and external sector:
  - Tourism receipts projected to decrease by about 20 percent in 2020.
  - Exports of goods expected to decrease by 17 percent.
  - Remittances forecast to fall by 10 percent in 2020.
  - Compensation of Kosovans working abroad expected to decrease by 19 percent.
  - Current and capital account deficits projected to deteriorate to 7.8 percent of GDP (5.6 percent of GDP in 2019).
  - FDI and other financial flows expected to be cut by half to 3.6 percent of GDP in 2020 (7 percent in 2019).
  - Resulting temporary urgent financing gap of 4.1 percent of GDP.
- Selected economic indicators (2020, Pre-COVID19 vs Current Proj.):
  - Real GDP growth: 3.6 → -5.0
  - CPI, period average: 1.4 → 1.3
  - CPI, end of period: 1.9 → 1.6
  - Revenues and grants (percent of GDP): 26.1 → 24.4
  - Expenditures (percent of GDP): 28.9 → 29.2
  - Wages and salaries (percent of GDP): 8.7 → 9.5
  - Subsidies and transfers (percent of GDP): 8.5 → 11.5
  - Capital and net lending (percent of GDP): 6.9 → 2.9
  - Overall Balance (Fiscal rule): -1.5 → -3.4
  - Overall balance: -2.8 → -4.8
  - Current account balance, incl. official transfers (percent of GDP): -6.3 → -7.4
  - Of which: Official transfers (percent of GDP): 2.9 → 3.0
  - Of which: Remittance inflows (percent of GDP): 12.1 → 11.1
  - Financial account (percent of GDP): -4.9 → -6.0
  - Errors and Omissions (percent of GDP): 1.6 → 1.5
  - Bank credit to the private sector (percent change): 8.2 → -2.4
  - Deposits of the private sector (percent change): 5.8 → -4.2
  - GDP (millions of euros): 7,483 → 6,877

### POLICY ISSUES AND DISCUSSIONS
- Public health and containment response:
  - First cases announced mid-March; 126 confirmed cases as of April 3.
  - “Coronavirus Management Committee” set up.
  - Temporary closures of schools, universities and all non-essential businesses; social distancing; travel and movement restrictions; bans on air travel with risk countries; increased health monitoring at airports and borders.
- Fiscal measures (total cost estimated at 2.5–3.5 percent of GDP):
  - Transfers to SMEs and sectors most affected by lockdown.
  - Advancing payment for social assistance schemes by one month.
  - Extra allocations to the health ministry to procure medical gear.
  - Deferrals of corporate and personal income taxes, and VAT.
  - Temporary removal of VAT on imports of wheat and flour.
  - Deferral of public utilities payments until end April.
  - Measures to be accommodated mainly by spending reallocations and reduced capital spending.
- Staff advice and cautions:
  - Contain other fiscal risks, including from implementation of public administration reform (PAR) laws approved in 2019.
  - Limit fiscal risks of proposed emergency measures; preserve buffers of the Privatization Agency of Kosovo (PAK).
  - Broad agreement on deferring VAT payments, but caution against deferring VAT filings and extending VAT removals or reductions.
  - Importance of ensuring business continuity of PFM systems.
- Financial sector measures:
  - Central Bank decision to suspend loan repayments by borrowers affected by COVID-19 (through end-April, option to extend) appropriate.
  - Suspension to be case-by-case and targeted.
  - CBK will apply regulatory forbearance on loan provisions and capital requirements on reprogrammed loans.
  - Staff strongly cautioned against weakening provisioning or capital standards; urged CBK to work with banks on capital restoration plans if minimum capital is compromised.
  - Forbearance not a permanent solution; need for bank-specific plans and intensive supervision, especially for banks with concentrated portfolios and riskier clients.

### ACCESS AND CAPACITY TO REPAY THE FUND
- Authorities requested an RFI purchase of SDR 41.30 million (about Euro 51 million), equivalent to 50 percent of quota; full amount to become available upon Board approval.
- Proposed RFI purchase equals 0.7 percent of GDP and would contribute towards closing around 20 percent of the external financing gap in 2020.
- Remaining gap financing:
  - Other donor resources (additional EU grants and World Bank financing for 0.4 percent of GDP).
  - Reserve losses (3 percent of GDP).
- RFI objectives: address urgent balance of payments needs, containment and mitigation efforts, and preserve fiscal buffers; could catalyze support by other IFIs.
- No prior actions proposed.
- Capacity to repay:
  - IMF credit outstanding after the RFI (at end-2020) will amount to 114 percent of quota.
  - Associated servicing risks mitigated by country’s low indebtedness.
  - Debt sustainability analysis shows debt to be sustainable with a sufficient buffer to remain sustainable even after the impact of the virus.
  - Kosovo has appropriate capacity to repay the Fund and a good track record of timely payment of external obligations.
- Safeguards:
  - Authorities committed to update the safeguards assessment before Board approval of any subsequent arrangement to which the safeguards policy applies.
  - Central bank authorized IMF staff to discuss with external auditors and access most recent external audit reports.
  - CBK and Ministry of Finance signed a memorandum of understanding on responsibilities to service IMF obligations.
  - Last safeguards assessment concluded in July 2015; all recommendations implemented.

### OUTLOOK AND RISKS
- Outlook:
  - Strong GDP contraction in 2020 followed by recovery later in the year and in 2021.
  - Balance of payments financing need expected to be resolved within one year without major policy changes.
  - Contingency plans, greater donor support, and a possible upper-credit-tranche-level Fund arrangement may be required given downside risks.
- Downside risks:
  - Exports, remittances, and government revenues might fall more than in the baseline.
  - If blanket containment measures extend through Q3 (staff baseline assumes restrictions will not extend through Q3, which typically accounts for 55 percent of diaspora-related tourism), impact could be much larger.
  - Heightened uncertainty could further disrupt demand and reduce GDP growth by an additional 6 percentage points.
  - Recession and travel bans could expose vulnerabilities in uncollateralized bank loans and hit hospitality and construction sectors dependent on diaspora-related flows.
  - Several small banks with aggressive risk-taking behavior may be affected.
  - An illiquid secondary market for government securities may create risks for some banks’ deposit funding.
- Political risk:
  - Fluid political situation and internal disagreements about advancing dialogue with Serbia pose additional risks.
  - No-confidence vote in late March; Assembly and caretaker government continue to operate.
  - President initiated dialogue with all parties to ensure a seamless political transition.

### STAFF APPRAISAL
- Staff support the authorities’ RFI purchase request of SDR 41.30 million (50 percent of quota) given the strong economic impact and urgent balance of payments need.
- Short-term economic outlook deteriorating quickly due to effects in remittance-originating countries, blanket containment measures, and travel bans.
- Fiscal actions to date appropriately target affected sectors and support social and health spending.
- Use of the escape clause to accommodate a deficit above the 2 percent of GDP ceiling is appropriate.
- Staff broadly support CBK’s temporary loan suspension measures but strongly caution against weakening provisioning or capital standards.

*Source: EXECUTIVE SUMMARY (1kosea2020001) — Republic of Kosovo, International Monetary Fund, April 3, 2020.*

### 16.      The Kosovan authorities remain committed to ensuring fiscal and debt

### 16.      The Kosovan authorities remain committed to ensuring fiscal and debt

### Fiscal and banking policy stance
- Kosovo’s implementation of the fiscal rule and of generally sound banking sector policies have supported macroeconomic stability and sustained growth in recent years.
- After the current crisis, rebuilding fiscal buffers through fiscal consolidation is highlighted as crucial.
- Bank-specific plans will be needed (where appropriate) to gradually restore capital and liquidity ratios after the crisis has passed.
- Rebuilding fiscal and bank buffers is essential given the absence of a lender of last resort as Kosovo is unilaterally euroized.
- IMF staff stands ready to assist the authorities in addressing immediate and medium-term policy challenges and supporting a strong and sustainable economic recovery.

### Real activity and major macro projections
- Real GDP growth (2017–2025): 4.23.84.0-5.07.53.73.83.94.0
- Contribution to growth (percentage points of GDP), Consumption: 1.55.23.00.42.54.23.63.33.6
  - Private consumption: 1.64.02.3-0.42.93.73.53.23.3
  - Public consumption: -0.11.20.60.8-0.40.50.20.20.3
- Investment contribution: 1.52.30.7-5.74.70.81.71.71.8
- Net exports contribution: 1.2-3.70.20.20.3-1.3-1.5-1.2-1.3
- Price changes (CPI, period average): 1.51.12.71.31.61.81.81.91.9
- Official unemployment (percent of workforce): 1/30.529.625.9 (2019 as of Q4 2019)

### Fiscal accounts and public debt
- General government revenues and grants (percent of GDP): 26.226.126.524.425.525.525.525.525.6
- Expenditures (percent of GDP): 27.429.029.429.228.227.727.828.028.1
  - Wages and salaries: 8.68.88.69.58.89.19.19.19.1
  - Subsidies and transfers: 8.08.38.811.58.88.58.38.07.7
  - Capital and net lending: 7.07.97.42.95.65.25.76.26.7
- Overall Balance (Fiscal rule): -1.1-1.5-0.7-3.4-2.1-1.5-1.5-1.5-1.5
- Overall balance (actual): -1.2-2.9-2.8-4.8-2.7-2.3-2.4-2.5-2.5
- Total public debt (percent of GDP): 4/16.216.917.520.722.724.125.426.828.1
  - Note: Includes guarantees; former Yugoslavia debt reclassified as a contingent liability.

### Consolidated government budget (levels and percent of GDP)
- Revenue and grants (millions of euros, selected): 1,6821,7571,9491,8892,0211,6772,1591,9072,2762,0052,1142,2362,373
- Revenue and grants (percent of GDP): 26.226.127.426.526.924.4 27.2 25.5 28.6 25.525.525.525.6
- Expenditure (millions of euros, selected): 1,7591,9492,3792,0912,4402,0082,5352,1102,6032,1832,3112,4552,608
- Primary balance (percent of GDP): -0.9-2.6-5.7-2.6-5.2-4.4-4.4-2.3-3.8-1.8-1.9-2.0-2.0

### Fiscal financing and cashflow
- Financing needs (millions of euros, selected years): 489454557606683600657771796
- Fiscal deficit (overall balance, millions of euros, selected): 78192203331203179197219234
- Amortization (millions of euros, selected): 332252295372407404441530540
- Financing sources (millions of euros, selected): External103103910556688095103; Domestic379431519501627532577676694
- Government bank balance (stock, millions of euros): 292302361263336354374395417

### External sector and balance of payments
- Current account balance, incl. official transfers (percent of GDP): -5.4-7.6-5.5-7.4-5.1-5.6-6.0-6.1-6.4
- Current account, excl. official transfers (percent of GDP): -8.5-10.9-8.9-10.4-7.6-8.0-8.2-8.2-8.4
- Balance on Goods and Services (millions of euros, selected): -1,637-1,882-1,908-1,890-1,949-2,106-2,268-2,413-2,598
- Exports, f.o.b. (millions of euros, selected): 378377393328351367386409432
- Imports, f.o.b. (millions of euros, selected): 2,8433,1143,2332,9653,2433,4493,6703,9104,180
- Remittance inflows (percent of GDP): 11.811.912.011.111.812.012.112.212.4
- Gross international reserves (millions of euros): 1,1681,1641,1429391,1031,1811,2431,2921,357

### Financial sector: banking soundness and liquidity
- Regulatory capital to risk weighted assets (percent): 18.117.016.6
- Non-performing loans (percent of total loans): 3.12.52.0 (2019 as of November 2019)
- Bank credit to the private sector (percent change): 11.510.810.0-2.49.16.66.87.17.4
- Deposits of the private sector (percent change): 5.39.315.6-4.212.48.17.07.17.1
- Liquidity/coverage indicators (2017–2019): Liquid assets to total assets 28.929.027.2; Deposits to loans 124.4122.8124.9
- Financial soundness (2019 indicators, selected): Return on average assets 2.3; Return on average equity 18.6; NPL net of provisions to capital 1.11.51.3

### Capacity to repay the Fund (selected indicators)
- Fund obligations based on existing credit (in millions of SDRs): 35.05.926.755.943.810.00.00.00.0
- Outstanding Fund credit (in millions of SDRs): 135.4131.9107.353.09.90.00.00.00.0
- Outstanding Fund credit in percent of gross international reserves: 13.913.811.77.01.10.00.00.00.0
- Memorandum: Gross international reserves (in millions of Euros): 1,1681,1641,1429391,1031,1811,2431,2921,357

*Sources: Kosovo authorities; and IMF staff estimates and projections.*

### Annex I. Debt Sustainability Analysis

### Annex I. Debt Sustainability Analysis

### Summary findings
- General government debt is projected to increase from 17.5 percent of GDP in 2019 to 28.2 percent of GDP by 2025 under the baseline.
- Debt is assessed as sustainable in the baseline and stress scenarios; public debt does not breach the high-risk threshold of 70 percent of GDP in any stress test.
- Main risks: shocks to growth, contingent liabilities, and an increasingly reduced capacity of the domestic market to absorb higher government debt given Kosovo does not have external market access.
- Key policy priorities: extend the maturity of debt and diversify sources of financing to contain financing risks.

### Key macroeconomic and fiscal assumptions
- Real GDP: contract by 5 percent in 2020; gradual recovery toward the pre-COVID-19 baseline reaching 4 percent by 2025.
- Headline inflation: 1.3 percent in 2020, gradually increasing to 1.9 percent over the medium term.
- Fiscal deficit (general government): increase to 4.8 percent of GDP in 2020 (2.8 percent in 2019).
- Fiscal rule deficit (excluding IFI-financed projects and projects financed by non-debt creating financial flows): 3.4 percent of GDP in 2020, declining to 1.5 percent of GDP by 2025; fiscal rule deficit ceiling is 2-percent of GDP.
- Historical budget execution and limited domestic absorption capacity are reflected in lower budget execution assumptions.

### Public debt composition and contingent liabilities
- Public debt definition: general government debt plus explicit guarantees issued by the government; implicit contingent liabilities excluded include PAK financing (about 1.5 percent of GDP), PPPs, and POEs debt (estimated at around 5–7 percent of GDP).
- At end-2019 domestic debt comprised two-thirds of total debt.
- External public debt is largely owed to multilaterals: IDA, EIB, EBRD, and the IMF.
- KPST (pension fund) was holding 38 percent of government debt at the end of 2019.
- Currently, public entities, individuals, private businesses, and insurance companies hold less than 5 percent of total domestic debt.

### Financing assumptions and buffers
- 2020 financing: drawdowns from existing government bank balances, official financing from World Bank resources and EU grants, use of Fund credit under the RFI window, and larger domestic issuance of government bonds.
- Domestic debt average maturity: projected to increase from 2.4 to 3 years over the forecast period.
- Short-term debt share: projected decrease from 4.8 percent of total debt in 2019 to less than 1 percent by 2025.
- IFI financing: cumulative 403 million euros by 2025.
- Prudent buffer: maintain 4.5 percent of GDP in government deposits with the CBK; provisions to do so require additional financing of 1.9 percent of GDP during 2021–2025.

### Debt dynamics and financing needs
- Baseline gross financing needs:
  - Increase to 10.2 percent of GDP in 2020.
  - Decline thereafter, averaging 8.4 percent over 2020–2025 (6.9 percent during 2015–2019).
- Change in gross public sector debt: cumulative increase of 10.8 percent of GDP over 2019–2025 (per figure table: cumulative noted as 10.8).
- Identified debt-creating flows cumulative (2019–2025): 11.1 percent of GDP (sum of listed primary deficits and other flows per figure table).
- Primary (noninterest) revenue and grants: projected at 25.4 percent of GDP (cumulative/aggregate per projections table entries).
- Primary (noninterest) expenditure: roughly 27.4 percent of GDP (projections table entries).
- Automatic debt dynamics (interest rate/growth differential) contribution: shown as negative contributions totaling -2.9 percent over the projection period (per table: -2.9).
- Residuals and other identified flows include changes in GG balances at CBK, privatization proceeds, and other financing.

### Stress tests and scenario results
- Standard stress tests performed: Primary Balance Shock, Real GDP Growth Shock, Real Interest Rate Shock, Real Exchange Rate Shock, Combined Shock, Contingent Liability Shock (Power Plant Guarantees and Contingent Liabilities for PAK/POEs).
- Selected outcomes:
  - Contingent liabilities: guarantees for a new power plant project could lift debt above the 30 percent of GDP ceiling considered prudent for Kosovo.
  - Contingent liabilities shocks associated with a financial sector shock, POEs (modeled at 5 percent of GDP) and financing of PAK (1.5 percent of GDP) would have a large impact on the debt profile.
  - Gross financing needs do not exceed the 15 percent of GDP sustainability threshold in baseline or most shocks, but they exceed 12 percent in the standard contingent liability shock scenario.
  - Public debt remains below the 70 percent of GDP high-risk threshold in all stress test scenarios.
- Alternative scenarios shown include a Historical Scenario and a Constant Primary Balance Scenario (Primary Balance = -4.4 percent of GDP throughout in that scenario).

### Vulnerabilities and market indicators
- Vulnerabilities:
  - Increasing reliance on domestic financing given lack of external market access reduces capacity to absorb higher debt.
  - Public debt held by non-residents is a limited vulnerability at the start of the forecast period and declines over time in the baseline.
- Market and risk-assessment indicators (2019 references and benchmarks):
  - Bond spread metrics noted (EMBIG and 5Y CDS shown as N/A or specific small bp values in table).
  - Gross financing needs benchmarks applied: 15 percent of GDP upper benchmark.
  - Other benchmarks: public debt held by non-residents (15 and 45 percent), share of foreign-currency debt (20 and 60 percent), annual change in short-term public debt (0.5 and 1 percent).
- Predictive density evolution and heat maps indicate Kosovo sits within lower-to-moderate risk ranges for most indicators under the baseline.

### Policy recommendations and priorities
- Extend the average maturity of the domestic debt stock to reduce rollover and refinancing risks.
- Diversify sources of financing:
  - Expand the investor base to include more public entities, individuals, private businesses, and insurance companies.
  - Reduce CBK holdings of government securities.
  - Do not increase the exposure limit for KPST to more than 30 percent of its assets.
- Explore new instruments such as retail or external bonds conditional on progress in reducing country risk and improving international market access.
- Monitor and manage contingent liabilities, particularly guarantees related to large infrastructure projects and PAK/POEs exposures.

*Source: IMF staff, Annex I. Debt Sustainability Analysis (Republic of Kosovo).*

### Appendix I. Letter of Intent

### Appendix I. Letter of Intent

### Request for IMF Emergency Financing
- The government of Kosovo requests emergency financing from the IMF in the amount equivalent of SDR 41.30 million (about Euro 52 million), corresponding to a purchase of 50 percent of Kosovo’s quota under the Rapid Financing Instrument (RFI).
- IMF assistance will be used to provide support to address urgent balance of payments needs, for containment and mitigation efforts, and to preserve fiscal buffers in Kosovo’s unilaterally euroized economy.
- The authorities authorize the IMF to publish this letter and the request for a purchase under the RFI.

### Short-term economic impact and outlook
- The COVID-19 pandemic and associated blanket containment measures have hit Kosovo’s economy hard, with rapid deterioration in the short-term outlook owing to effects in remittance-originating countries and travel bans hitting supply and demand.
- Timeline and epidemiological figures:
  - First reported COVID-19 case: March 13.
  - Cases as of April 6: 170.
- Authorities’ preliminary macro forecast (under assumption that “social distancing” restrictions start easing in Q3):
  - Economy expected to contract from -2 to -4 percent of GDP in 2020, equal to 6-8 percentage points below the pre-pandemic baseline.
  - Authorities assume a V-shaped recovery in Q4 of this year and in 2021.
- Sectoral impacts expected: tourism receipts, remittances, FDI, domestic demand, export of goods and services, and investment expected to fall; trade, hospitality industry, construction, agriculture, and manufacturing severely affected.

### Fiscal effects and financing needs
- Fiscal projections and impacts:
  - Fiscal revenues in 2020 are expected to decrease by approximately 8 percent, compared to staff’s forecast of 12 percent, given the drop in VAT and custom duties.
  - The fiscal rule deficit is expected to jump to close to 5 percent of GDP in 2020 (on the account that capital expenditures are not reduced significantly), triggering the use of the escape clause under the fiscal rule to accommodate a deficit above the 2-percent of GDP ceiling.
  - Near-term fiscal financing needs: 3 percent of GDP.
  - Public debt is expected to jump to over 22 percent of GDP this year.
  - External financing inflows will be cut by almost 50 percent, resulting in a steep financing gap.
- Planned coverage of financing gap:
  - Drawdown of government bank balances.
  - Official financing from the EU and the World Bank.
  - IMF financing.
  - Higher domestic issuance of government bonds.
  - Reprioritization of spending.

### Policy response and emergency measures
- Health and containment:
  - National contingency health plan and creation of the “Coronavirus Management Committee” emphasizing containment, preparedness, and enhancement of testing capacities.
  - Kosovo effectively in lockdown with stringent containment measures.
- Fiscal measures (initial and emergency package):
  - Initial measures: additional funding to the Ministry of Health; deferred corporate income and personal income taxes, and VAT; advanced payments for social assistance schemes by additional three months; removed VAT on imports of wheat and flour.
  - Emergency package passed on March 30 (temporary, targeted, and aimed at saving lives and protecting households while assisting viable firms):
    - Transfers to SMEs and other sectors most affected, including wage subsidies, coverage of pension contributions for subsidized wage workers for the next two months, and coverage of rent for businesses of up to 50 percent for two months.
    - Payment of EUR 130 for the next 3 months to those that have lost their job during the crisis.
    - Interest rate subsidy and support to exporters.
    - Additional sum of thirty (€30) Euros per month to all beneficiaries of social assistance and pension schemes who receive a monthly payment lower than one-hundred (€100) Euros, for April, May and June.
    - Bonus payments (for two months) for the healthcare workers and police.
    - Targeted liquidity support to firms.
  - Total estimated cost of the emergency package: around 2.5 percent of GDP.
  - All measures will be embedded in the budget process; authorities commit to transparency, good governance, and accountability in implementation arrangements.

### Banking sector measures and safeguards
- Central Bank of Kosovo (CBK) actions:
  - Temporarily suspend the payment of loan instalments for businesses and individuals from March 16 to April 30, with the option to extend further; suspension decisions to be made by banks on a case-by-case basis and targeted to sectors and individuals most affected.
  - Apply regulatory forbearance on loan provisions and capital requirements on reprogrammed loans.
  - Functionalized the Business Continuity Committee within the CBK and the Inter-Institutional Committee (CBK, Ministry of Finance, Kosovo Banking Association).
- Banking sector resilience and indicators:
  - Authorities state the banking system can absorb announced measures: NPL ratio is very low and liquidity and capital buffers are comfortably above regulatory requirements.
  - Since measures were announced, the liquidity ratio for the banking sector has remained unchanged at around 35 percent while deposits have slightly increased.
  - Usable bank balance reached 5 percent of GDP at end-2019.
  - Banking sector remained well-capitalized, profitable, and liquid; private sector credit growth was growing at a healthy double-digit.
- Safeguards and cooperation with IMF:
  - In line with the IMF’s safeguards policy, authorities stand ready to collaborate with IMF staff in undertaking a safeguards assessment.
  - The CBK authorized Fund staff to hold discussions with the central bank’s external auditors and to have access to the central bank’s most recent external audit reports.
  - As RFI will be channeled to budget support, the CBK and the Ministry of Finance signed a memorandum of understanding on a framework for respective responsibilities to service financial obligations to the IMF.

### Commitments, conditionalities, and forward engagement
- Commitment to fiscal and debt sustainability:
  - Authorities remain committed to ensuring fiscal and debt sustainability and to rebuilding fiscal buffers through fiscal consolidation after the crisis.
  - Bank-specific plans will be needed (where appropriate) to gradually restore capital and liquidity ratios after the crisis has passed, given the absence of a lender of last resort.
- Data, consultation, and policy coordination:
  - Authorities will continue to provide Fund staff with all data and information necessary to monitor short-term economic events and evaluate policies.
  - Authorities will avoid measures or policies that would compound balance of payments difficulties and will consult with IMF staff on implementation of fiscal and financial policies.
  - The country will comply with the provisions of the IMF’s Articles of Agreement, including those related to imposing new or intensifying existing restrictions on payments and transfers for current international transactions and bilateral payments under Article VIII, and will avoid additional trade restrictions for balance of payment purposes.
- Future engagement:
  - While a multiyear program is unfeasible at this stage, authorities will analyze with IMF staff the appropriateness of multiyear engagement once the crisis subsides.
  - Once the crisis has subsided and the situation normalizes, authorities stand ready to engage with IMF staff to discuss a multiyear upper-credit tranche arrangement to foster recovery, address underlying structural issues, and put growth on a higher trajectory over the medium term.

*Appendix I. Letter of Intent*

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_Source: https://www.imf.org/-/media/files/publications/cr/2020/english/1kosea2020001.pdf_