## _cr0961

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### I. POTENTIAL GROWTH ANALYSIS

#### I.A. Introduction
- Recent real GDP growth:
  - accelerated to 5 percent in 2007 and 6 percent in the first half of 2008, from a historical average of around 3 percent.
- Three core questions:
  - factors driving recent economic growth;
  - medium-term growth prospects;
  - how growth potential can be improved.

#### I.B. Sources of Growth — historical and recent dynamics
- Historical performance:
  - Real GDP growth averaged 3 percent from 1995 to 2000, and 3.2 percent from 2002 to 2006.
  - The average growth performance in the last five years is the lowest in the region.
- Recent dynamics (2008 projections and drivers):
  - Real domestic demand projected to grow by 8.6 percent in 2008; output growth projected at 5.5 percent.
  - Increased investment, partly financed by FDI, is the main driver of domestic demand; imports of investment and intermediate goods are growing fast.
  - Current account deficit has widened substantially since 2007 and is a major macroeconomic concern.
- Growth accounting (Cobb-Douglas; capital share assumed 0.6; depreciation assumed 8 percent in contribution calculations):
  - Real GDP Growth (percent): 1996–2000 = 3.4; 2001–2008 = 3.7; 2006–2008 = 5.2.
  - Contributions (percent points):
    - Capital: 1996–2000 = 0.9; 2001–2008 = 1.2; 2006–2008 = 1.9.
    - Labor: 1996–2000 = 0.2; 2001–2008 = 0.3; 2006–2008 = 2.3.
    - TFP: 1996–2000 = 2.2; 2001–2008 = 2.2; 2006–2008 = 0.9.
  - Interpretation:
    - TFP accounted for almost two-thirds of output growth in 1996–2000 and 2001–08.
    - Labor contribution historically less than 10 percent.
    - Recent years show growing importance of capital formation and employment, but investment share of GDP remains the lowest in the region and unemployment remains among the highest.

#### I.C. Estimating Potential Output Growth — methods and estimates
- Potential output definition:
  - maximum sustainable output without generating higher inflation; useful for gauging inflationary pressures and cyclically-neutral fiscal balances.
- Methods used:
  - Statistical: Hodrick-Prescott (HP) filter; Christiano-Fitzgerald (CF) bandpass filter (full sample asymmetric).
  - Structural: production function (PF) approach; Blanchard-Quah structural VAR (BQ).
  - WEO medium-term projections for growth from 2008 to 2013 included to minimize end-point biases.
- Estimates (potential growth and 2008 output gap):
  - Statistical estimates imply potential growth slightly higher than 4 percent:
    - HP: potential growth = 4.4; output gap in 2008 = 0.8.
    - CF: potential growth = 4.1; output gap in 2008 = 0.4.
  - Structural estimates:
    - PF: potential growth = 4.6; output gap in 2008 = 1.2.
    - BQ: potential growth = 4.6; output gap in 2008 = 0.3.
  - Table summary (averages):
    - Average real GDP growth: 1996-2001 = 1.8; 2001−2008 = 3.7.
    - Average potential growth across methods = 4.4; average output gap in 2008 = 0.7.
- Method characteristics:
  - PF uses medium-term projections of growth, investment and employment; HP filter applied to labor and TFP; capital stock assumed stable; yields a positive output gap around 1 percent in 2008.
  - BQ uses real GDP growth and unemployment; potential growth assumed to depend only on supply shocks; yields similar potential growth estimates to PF.
- Sensitivity to policy scenario (Baseline vs Alternative — more prudent fiscal policy and structural reforms):
  - HP: Baseline 4.4 → Alternative 4.7; Output gap baseline 0.8 → alternative 0.4.
  - CF: Baseline 4.1 → Alternative 4.8; Output gap baseline 0.4 → alternative 1.0.
  - PF: Baseline 4.6 → Alternative 5.2; Output gap baseline 1.2 → alternative 1.0.
  - BQ: Baseline 4.6 → Alternative 5.7; Output gap baseline 0.3 → alternative 0.0.
  - Average potential growth: Baseline = 4.4; Alternative = 5.1. Average output gap: Baseline = 0.7; Alternative = 0.6.

#### I.D. Conclusion (Potential Growth)
- Key conclusions:
  - Growth performance has improved but lags regional peers.
  - More prudent fiscal policies combined with deeper structural reforms could raise potential growth above 5 percent by facilitating faster capital accumulation and higher labor utilization.
  - Government plans for more expansionary fiscal policy could worsen macroeconomic vulnerabilities and crowd out private investment, undermining long-term growth prospects.

---

### II. THE CASE FOR FISCAL PRUDENCE

#### II.A. Fiscal record and macroeconomic context (2003−07 and 2008 outlook)
- Fiscal and inflation outcomes (2003−07):
  - Average fiscal balance was in surplus; highest deficit in 2006 was 0.5 percent of GDP.
  - Primary fiscal balance averaged 1.1 percent of GDP over 2003−07.
  - Substantial fiscal effort accounted for roughly one-third of the reduction in public debt during this period.
  - Average inflation was 1.3 percent (2003−07), the lowest in the region.
- Growth performance:
  - Average real growth rate during 2003−07 was 4 percent, below peers in South Eastern Europe.
  - Weak performance attributed to low investment and low productivity growth.

#### II.B. Fiscal coverage, risks, and quasi-fiscal operations
- Fiscal sector components:
  - core central government; social funds (pension, health, unemployment); road fund; municipal governments; public enterprises.
- Coverage risks:
  - Fiscal deficit targets are defined for the central government (core central government plus extrabudgetary funds) but coverage is narrow and may understate future liabilities.
  - Some public enterprises (especially in the electricity sector) conduct significant quasi-fiscal operations that have reduced their solvency and may require large budget transfers.

#### II.C. Short-term macroeconomic stability — external, inflation, and fiscal strategy risks
- Current account and external vulnerabilities:
  - Current account deficit widened sharply during 2008; projected to increase by 10 percentage points to 14 percent of GDP.
  - Causes: rising trade deficit (partly due to worsening terms of trade), falling private transfers, and lower net factor income (large telecommunications dividend payment).
  - FDI expected to cover over half of the year’s current account deficit, but such a high deficit is unsustainable in the prevailing international environment.
- Inflation:
  - Average inflation projected at 9 percent in 2008, driven by oil and food price increases; slightly above the regional average.
  - Exchange rate anchor expected to lower inflation in 2009, but administrative price increases (particularly in energy) could keep inflation relatively high.
- New government medium-term fiscal strategy (post-July 2008) and cyclicality:
  - Deficit targets: 2008 = 1.5 percent of GDP; 2009 = 3 percent; 2010 = 3.5 percent; 2011 = 4 percent.
  - Plans rely on grants/concessional financing and sovereign borrowing.
  - Targets increase capital spending from 4 percent of GDP in 2007 to 7 percent of GDP during 2008−11.
  - Social insurance contributions targeted to decline from 32 percent of gross wages in 2008 to 22 percent in 2011.
  - The fiscal deficit target of 1.5 percent of GDP for 2008 implies a fiscal impulse of 2.1 percent of GDP relative to 2007 and may generate additional macroeconomic pressures.
- Cyclically adjusted fiscal balance (selected values using HP filter):
  - Actual GDP (billion denars): 2005 = 286.6; 2006 = 310.9; 2007 = 343.0; 2008 = 387.1; 2009 = 422.7.
  - Potential GDP (billion denars): 2005 = 291.8; 2006 = 315.7; 2007 = 344.9; 2008 = 384.2; 2009 = 420.8.
  - Output gap (percent of cyclically adjusted GDP): 2005 = -1.8; 2006 = -1.5; 2007 = -0.5; 2008 = 0.8; 2009 = 0.5.
  - Fiscal Balance (percent of GDP): 2005 = 0.3; 2006 = -0.5; 2007 = 0.6; 2008 = -1.5; 2009 = -3.0.
  - Cyclically adjusted Fiscal Balance (percent of GDP): 2005 = 1.0; 2006 = 0.0; 2007 = 0.8; 2008 = -1.8; 2009 = -3.2.
- Fiscal impulse assessment:
  - Revenue elasticity estimated at 1.12.
  - Projected fiscal impulse in 2008 (2.1 percentage points) is larger when revenues are adjusted for the business cycle (2.6 points).

#### II.D. Long-term considerations and pension projections
- Long-term fiscal risks:
  - Procyclical fiscal plans risk exacerbating external vulnerabilities and inflationary pressures.
  - Narrow fiscal coverage and quasi-fiscal liabilities in public enterprises pose contingent fiscal risks.
  - Maintaining fiscal prudence would help contain macroeconomic risks, reduce external imbalances, and preserve space for private investment that supports long-term potential growth.
- Pay-as-you-go pension system structure and projections:
  - System: two mandatory pillars — pay-as-you-go, defined benefit (first pillar) and fully funded, defined contribution initiated in 2006 (second pillar).
  - Contribution structure: 21 percent of gross salaries for mono-pillar participants; 14 percent of gross salaries for two-pillar participants.
  - Key indicators (2008 values): D = 0.68; L = 0.37; s = 0.21 (mono-pillar) and s = 0.138 (two-pillar).
  - Projection assumptions for 2009−11: dependency ratio increases; replacement ratio falls; envisaged reduction in contribution rates during 2009−11 is implemented.
  - Tabulated projections:
    - Contribution rate mono-pillar: 2008 0.21 | 2009 0.19 | 2010 0.165 | 2011 0.15
    - Contribution rate two-pillar: 2008 0.138 | 2009 0.124 | 2010 0.107 | 2011 0.098
    - Dependency ratio: 2008 0.68 | 2009 0.69 | 2010 0.69 | 2011 0.70
    - Replacement ratio: 2008 0.37 | 2009 0.36 | 2010 0.35 | 2011 0.34
    - Pay-as-you-go deficit (percent of GDP): 2008 -2.2 | 2009 -2.4 | 2010 -3.0 | 2011 -3.4
  - Impact of planned contribution cuts:
    - Projected to increase the deficit of the system from 2 to 3 percent of GDP, other things equal.

#### Policy recommendations (short- and medium-term)
- Short-term guidance:
  - save revenue over performance and run a fiscal surplus in 2008.
- Medium-term guidance:
  - once the current account deficit returns to more sustainable levels, relax fiscal deficit targets gradually to finance public investment.
  - implement fiscal relaxation gradually to allow careful scrutiny and prioritization of investment projects and to limit crowding out.
- Overall recommendation:
  - Given the fixed exchange rate regime limits on monetary policy, fiscal policy should be the main instrument to reduce macroeconomic risks; the government’s plan to relax fiscal policy should be implemented more gradually, bearing in mind external vulnerabilities, crowding out risks, public investment productivity, and build-up of unfunded liabilities.

---

### III. EXTERNAL STABILITY, EXCHANGE RATE ASSESSMENTS, AND CAPITAL ACCOUNT VULNERABILITIES

#### Key external stability findings
- Current account and trade:
  - CAD projected to jump to a record high 14 percent of GDP in 2008 (versus a 5 percent average during the prior decade).
  - Record trade deficit of 27 percent of GDP (versus an average of 18 percent during the prior decade).
  - CAD reached a historic low of 1 percent in 2006.
- Drivers of deterioration:
  - Deteriorating terms of trade; falling private transfers; dividend payments spike; accelerating import demand fueled by FDI, credit, and government spending; exports dipped due to slower global growth.
- FDI and convergence:
  - FDI doubled in 2007 and again in 2008 to 8 percent of GDP.
  - Real growth reached 10 year highs in 2007−08.
- Real exchange rate (RER) and competitiveness:
  - RER depreciated for most of the decade but began appreciating recently due to higher inflation (55 percent of trade is with the Euro zone) and rising relative ULC; planned public wage hikes could raise ULC further.
  - Manufacturing export market share increased since 2001 but underperformed relative to neighbors; export concentration in metals increases vulnerability.

#### Formal assessments and numerical results
- PPP approach:
  - Suggests Macedonia’s real exchange rate is undervalued relative to the United States after accounting for income effects.
  - R^2 for the sample relationship: R^2 = 0.5651.
- Macroeconomic Balance Approach (MBA):
  - CA norm estimated between 6.5 and 7.5 percent of GDP, depending on coefficients used.
  - Underlying CA (2013 projection) = -10.0 percent of GDP.
  - Estimated CA Norm = -7.0 percent of GDP.
  - Deviation of Underlying from Norm = -3.0 percent of GDP.
  - Elasticity (current account to real exchange rate) = -0.34 to -1.0.
  - IREER adjustment needed = 3 to 11 percent.
  - Interpretation: underlying CA is above the CA norm, implying real exchange rate overvaluation; implied REER adjustment needed is 3 to 11 percent depending on elasticity.
- Behavioral Equilibrium Exchange Rate (ERER) approach:
  - Seasonally adjusted quarterly data (1998q1−2008q1); Johansen cointegration estimation used.
  - Key long-run determinants include government expenditure-to-GDP ratios and relative productivity differentials; increases lead to appreciation.
  - Result: REER was slightly overvalued by early 2008; NBRM found one percent overvaluation in a similar analysis.
- External Sustainability (ES) approach:
  - Uses underlying CA deficit of 10 percent of GDP and potential growth of 5 percent, inflation 3.0 percent.
  - Benchmarks and implied REER adjustments:
    - Targeting SEE peers’ average IIP-to-GDP ratio (-66 percent in 2007) → CAD ≈ 5 percent of GDP; implied REER adjustment: 5 to 15.5 percent.
    - Targeting 22 Eastern European transition countries’ average IIP-to-GDP ratio (-52 percent in 2007) → CAD ≈ 4 percent of GDP; implied REER adjustment: 6.1 to 18.8 percent.
    - Projected end-2008 IIP-to-GDP ratio of -58 percent would require a 6 to 17 percent REER adjustment to stabilize at that level.
  - Caveat: maintaining 2008 CAD would lead to an unsustainable IIP-to-GDP ratio of -185 percent.
- Capital account vulnerabilities:
  - Gross external debt currently in line with transition country average but projected to rise due to higher government and private borrowing.
  - Short-term debt-to-reserves ratio will surpass 100 percent in 2008 and is projected to continue rising.
  - Reserve coverage expected to fall just below three months of imports in 2008, then remain roughly steady (assuming government borrowing plans are realized).
  - Biggest risk to debt dynamics in shock tests: depreciation; a one-time real depreciation of 30 percent is modeled for 2009.
  - Mitigating factors: accelerated FDI, with roughly 40 to 50 percent concentrated in the export sector and financing over one-half of the CAD; financial sector shows low susceptibility to contagion due to robust deposit growth and limited external reliance; about one-third of the short-term debt run-up is relatively stable intercompany short-term debt tied to FDI.

#### Policy implications for external stability
- Recommended short-term stance:
  - tightening of fiscal and monetary policy (including reconsideration of plans to increase public sector wages).
- Recommended longer-term measures:
  - structural reforms to generate export-oriented FDI and other investment, reduce macroeconomic vulnerabilities, strengthen confidence, and boost prospects for external stability.

---

### IV. ELECTRICITY SECTOR: QUASI-FISCAL LOSSES, REFORMS, AND SOCIAL IMPACT

#### Sector weaknesses and macroeconomic consequences
- Key quantified impacts (2008 estimates):
  - Electricity quasi-fiscal subsidies estimated at 5 percent of GDP.
  - Electricity trade deficit projected at 5 percent of GDP.
  - In 2007, 30 percent of domestic use had to be imported, costing 3 percent of GDP; projected to increase to 5 percent of GDP in 2008.
- Microeconomic distortions:
  - Underpricing creates energy-intensive behavior, weak incentives to increase electricity production, and price discrimination between users.
- Generation and costs:
  - Coal-fired plants produce around three quarters of total supply; most remainder from hydro-electric plants.
  - High fuel prices increased costs at the fuel-oil fired Negotino plant (back-up supplier).

#### Tariffs, pricing differentials, and distributional outcomes
- Price and tariff data:
  - 13 percent price increase effective November 2008 raises daytime household tariff to €47 per MWh.
  - MEPSO imported electricity for €82 per MWh on average in the first eight months of 2008.
  - Distributor EVN sells imported power at a regulated price of €30 per MWh.
  - MEPSO incurred losses on every kWh purchased abroad and resold given these prices.
- Targeting and distribution:
  - Household electricity subsidy implicit in underpricing is poorly targeted: the poorest 20 percent of households receive only 2.7 percent of the electricity subsidy (Household Budget Survey, 2006).
  - Poor households spend a significant part of their budget on electricity: poorest 20 percent spend 18 percent of their budget on electricity (Household Budget Survey, 2006).
  - August 2008 60 percent increase in district heating prices likely to boost electricity demand for heating.

#### Quasi-fiscal losses — detailed accounting for 2008
- Projected quasi-fiscal losses (including opportunity costs) sum to 4.7 percent of GDP in 2008.
  - Pricing differential calculation: quantity 4,600,000 MWh × price differential (82-30=52 € per MWh) → cost = 3.8 percent of GDP.
  - Excess distribution losses: quantity 692,760 → cost = 0.3 percent of GDP.
  - Collection shortfalls: quantity 1,225,000 → cost = 0.6 percent of GDP.
  - Total Quasi-Fiscal Losses = 4.7 percent of GDP.
- Additional calculation:
  - Price differential of €52 per MWh applied to large user use of around 2.2 million MWh → MEPSO’s savings ≈ €114 million, or 1.8 percent of GDP.

#### Legal, institutional reforms and effects (May 2007 amendment; July 2008 energy law)
- March/May 2007 amendment:
  - Removed MEPSO’s monopsony rights; from May 2007 large users’ provision at domestic wholesale prices reduced to 45 percent of historical use; from January 2008 large users required to buy all needs at regional market.
  - Measure reduced MEPSO’s losses by an estimated 2 percent of GDP but discriminates against large users.
- July 2008 energy law amendments:
  - ELEM licensed to directly supply EVN and sell surplus on open market; if ELEM production is lower than EVN demand, ELEM imports additional quantities at its own expense.
  - MEPSO to transmit power for a transmission fee and no longer buy and sell electricity.
  - EVN to pay regulated prices for technical losses up to 11 percent; for additional distribution losses market prices apply.
- Expected effect:
  - Reforms likely reduce fiscal risk (by charging EVN higher prices for excessive losses) but do not provide incentives for more efficient use of electricity by final users.

#### Collection, privatization effects, and differential pricing
- Collection improvements:
  - Privatization of the distribution network in early 2006 improved collection rates from around 67 percent in 2001−04 to around 75 percent in 2006 and 2007.
  - Further improvements hampered by metering problems and poor payment discipline in remote areas.
- Differential pricing:
  - Allowing 10 large users to purchase directly from abroad reduces MEPSO losses by about 2 percent of GDP but creates discriminatory pricing; policy note that on efficiency grounds large users should be charged lower prices, not higher.

#### Policy recommendations and conclusion (electricity)
- Principal recommendations:
  - Higher electricity prices are needed, together with improved social protection for the poor.
  - A tariff increase would:
    - directly address main quasi-fiscal subsidies (estimated 3.8 percent of GDP from the pricing differential in 2008);
    - bring household prices closer to regional levels and reduce the sector’s contribution to the trade deficit.
  - Social protection mechanisms should accompany price increases, e.g. direct budget transfers to poorest users or block tariffs providing basic supply at lower prices.
- Rationale:
  - Higher prices provide incentives to economize and stimulate domestic production, reduce quasi-fiscal losses (estimated at 5 percent of GDP), and reduce the electricity sector’s contribution to the trade deficit (projected at 5 percent of GDP in 2008).
  - Given poor households may spend up to one-fifth of their budget on electricity, mitigation measures are crucial.

---

*Prepared by IMF staff; content based on IMF staff analysis and WEO data contained in the source document.*

### References..............................................................................................................

### I. POTENTIAL GROWTH ANALYSIS; II. THE CASE FOR FISCAL PRUDENCE

### I.A. Introduction
- Recent real GDP growth accelerated to 5 percent in 2007 and 6 percent in the first half of 2008, from a historical average of around 3 percent.
- The note addresses three questions: (1) factors driving recent economic growth; (2) medium-term growth prospects; and (3) how growth potential can be improved.

### I.B. Sources of Growth
- Historical performance
  - Real GDP growth averaged 3 percent from 1995 to 2000, and 3.2 percent from 2002 to 2006.
  - The average growth performance in the last five years is the lowest in the region.
- Recent dynamics
  - Real domestic demand projected to grow by 8.6 percent in 2008; output growth projected at 5.5 percent.
  - Increased investment, partly financed by FDI, is the main driver of domestic demand; imports of investment and intermediate goods are growing fast.
  - The current account deficit has widened substantially since 2007 and is a major macroeconomic concern.
- Growth accounting (Cobb-Douglas specification; capital share assumed 0.6 or capital share implicitly 1-α with α labor share; depreciation assumed 8 percent in contribution calculations)
  - Growth decomposition (percent contributions and growth rates)
    - Real GDP Growth: 1996–2000 = 3.4; 2001–2008 = 3.7; 2006–2008 = 5.2.
    - Contributions:
      - Capital: 1996–2000 = 0.9; 2001–2008 = 1.2; 2006–2008 = 1.9.
      - Labor: 1996–2000 = 0.2; 2001–2008 = 0.3; 2006–2008 = 2.3.
      - TFP: 1996–2000 = 2.2; 2001–2008 = 2.2; 2006–2008 = 0.9.
  - TFP accounted for almost two-thirds of output growth in 1996–2000 and 2001–08; labor contribution less than 10 percent historically.
  - Recent years show growing importance of capital formation and employment, but investment share of GDP remains the lowest in the region and unemployment remains among the highest.

### I.C. Estimating Potential Output Growth
- Definition and role
  - Potential output: maximum sustainable output without generating higher inflation; useful for gauging inflationary pressures and cyclically-neutral fiscal balances.
- Methodologies used
  - Statistical approaches: Hodrick-Prescott (HP) filter; Christiano-Fitzgerald (CF) bandpass filter (full sample asymmetric).
  - Structural approaches: production function (PF) approach; Blanchard-Quah structural VAR (BQ).
  - WEO medium-term projections for growth from 2008 to 2013 included to minimize end-point biases.
- Estimates (potential growth and 2008 output gap)
  - Statistical estimates imply potential growth slightly higher than 4 percent.
    - Hodrick-Prescott filter (HP): potential growth = 4.4; output gap in 2008 = 0.8.
    - Christiano-Fitzgerald filter (CF): potential growth = 4.1; output gap in 2008 = 0.4.
  - Structural estimates imply potential growth = 4.6 percent.
    - Production Function (PF): potential growth = 4.6; output gap in 2008 = 1.2.
    - Structural VAR (BQ): potential growth = 4.6; output gap in 2008 = 0.3.
  - Table summary (averages)
    - Average real GDP growth (periods listed): 1996-2001 = 1.8; 2001−2008 = 3.7.
    - Average potential growth across methods = 4.4; average output gap in 2008 = 0.7.
- Characteristics of methods and results
  - Production function approach: uses medium-term projections of growth, investment and employment; HP filter applied to labor and TFP; capital stock assumed stable; yields a positive output gap around 1 percent in 2008.
  - Structural VAR: uses real GDP growth and unemployment; potential growth assumed to depend only on supply shocks; yields similar potential growth estimates to PF.
- Sensitivity to policy scenario
  - An alternative scenario with more prudent fiscal policy and structural reforms yields higher potential growth estimates:
    - Comparison of potential growth (Baseline vs Alternative) and output gap in 2008:
      - HP: Baseline 4.4 → Alternative 4.7; Output gap baseline 0.8 → alternative 0.4.
      - CF: Baseline 4.1 → Alternative 4.8; Output gap baseline 0.4 → alternative 1.0.
      - PF: Baseline 4.6 → Alternative 5.2; Output gap baseline 1.2 → alternative 1.0.
      - BQ: Baseline 4.6 → Alternative 5.7; Output gap baseline 0.3 → alternative 0.0.
    - Average potential growth: Baseline = 4.4; Alternative = 5.1. Average output gap: Baseline = 0.7; Alternative = 0.6.

### I.D. Conclusion (Potential Growth)
- Main conclusions
  - Growth performance has improved but lags regional peers.
  - More prudent fiscal policies combined with deeper structural reforms could raise potential growth above 5 percent by facilitating faster capital accumulation and higher labor utilization.
  - Government plans for more expansionary fiscal policy could worsen macroeconomic vulnerabilities and crowd out private investment, undermining long-term growth prospects.

---

### II.A. Introduction (Fiscal Prudence)
- Macroeconomic record 2003−07
  - Average fiscal balance was in surplus; highest deficit in 2006 was 0.5 percent of GDP.
  - Primary fiscal balance averaged 1.1 percent of GDP over 2003−07.
  - Substantial fiscal effort accounted for roughly one-third of the reduction in public debt during this period.
  - Average inflation was 1.3 percent (2003−07), the lowest in the region.

- Growth performance
  - Average real growth rate during 2003−07 was 4 percent, below peers in South Eastern Europe.
  - Weak performance attributed to low investment and low productivity growth.

### II.B. Coverage of Government Operations
- Fiscal sector components: core central government; social funds (pension, health, unemployment); road fund; municipal governments; public enterprises.
- Current fiscal targets
  - Fiscal deficit targets are defined for the central government (core central government plus extrabudgetary funds).
- Risks and omissions
  - Coverage is too narrow and may understate future liabilities.
  - Some public enterprises (especially in the electricity sector) conduct significant quasi-fiscal operations that have reduced their solvency and may require large budget transfers.

### II.C. Short-Term Macroeconomic Stability
- Current account and external vulnerabilities
  - The current account deficit widened sharply during 2008; projected to increase by 10 percentage points to 14 percent of GDP.
  - Causes: rising trade deficit (partly due to worsening terms of trade), falling private transfers, and lower net factor income (large telecommunications dividend payment).
  - FDI expected to cover over half of the year’s current account deficit, but such a high deficit is unsustainable in the prevailing international environment.
- Inflation
  - Average inflation projected at 9 percent in 2008, driven by oil and food price increases; slightly above the regional average.
  - Exchange rate anchor expected to lower inflation in 2009, but administrative price increases (particularly in energy) could keep inflation relatively high.
- Fiscal strategy and cyclicality
  - New government medium-term fiscal strategy (post-July 2008) departs from fiscal austerity:
    - Deficit targets: 2008 = 1.5 percent of GDP; 2009 = 3 percent; 2010 = 3.5 percent; 2011 = 4 percent.
    - Plans rely on grants/concessional financing and sovereign borrowing.
    - Targets increase capital spending from 4 percent of GDP in 2007 to 7 percent of GDP during 2008−11.
    - Social insurance contributions targeted to decline from 32 percent of gross wages in 2008 to 22 percent in 2011.
  - The fiscal deficit target of 1.5 percent of GDP for 2008 implies a fiscal impulse of 2.1 percent of GDP relative to 2007 and may generate additional macroeconomic pressures.
- Cyclically adjusted fiscal balance (Box 1)
  - Definition: FB* = R* − E*, with R* = R × (Y*/Y)^α and E* = E × (Y*/Y)^β.
  - In Macedonia, estimates focus on revenue side; revenue elasticity estimated at 1.12.
  - Using HP filter for potential output, the projected fiscal impulse in 2008 (2.1 points) is larger when revenues are adjusted for the business cycle (2.6 points).
  - Table of selected values:
    - Actual GDP (billion denars): 2005 = 286.6; 2006 = 310.9; 2007 = 343.0; 2008 = 387.1; 2009 = 422.7.
    - Potential GDP (billion denars): 2005 = 291.8; 2006 = 315.7; 2007 = 344.9; 2008 = 384.2; 2009 = 420.8.
    - Output gap (percent of cyclically adjusted GDP): 2005 = -1.8; 2006 = -1.5; 2007 = -0.5; 2008 = 0.8; 2009 = 0.5.
    - Fiscal Balance (percent of GDP): 2005 = 0.3; 2006 = -0.5; 2007 = 0.6; 2008 = -1.5; 2009 = -3.0.
    - Cyclically adjusted Fiscal Balance (percent of GDP): 2005 = 1.0; 2006 = 0.0; 2007 = 0.8; 2008 = -1.8; 2009 = -3.2.

### II.D. Long-Term Considerations (summary of implications)
- Procyclical fiscal plans risk exacerbating external vulnerabilities and inflationary pressures.
- Narrow fiscal coverage and quasi-fiscal liabilities in public enterprises pose contingent fiscal risks.
- Maintaining fiscal prudence would help contain macroeconomic risks, reduce external imbalances, and preserve space for private investment that supports long-term potential growth.

*Prepared by IMF staff; content based on IMF staff analysis and WEO data contained in the source document.*

### 10.      The higher fiscal deficit will most likely crowd out private investment. An

### 10.      The higher fiscal deficit will most likely crowd out private investment. An

### Fiscal crowding out and macroeconomic effects
- An increase in the government fiscal deficit means lower public saving; absent Ricardian equivalence, a fall in public saving implies a fall in national saving (although likely less than one for one).
- By national accounting identities, a fall in national saving is associated with a reduction of investment, net exports, or both.
- Interest rate increases coupled with a real exchange appreciation will bring about this fall in investment and net exports.

### Public versus private investment
- Public investment can, in principle, promote private investment and increase its productivity.
- Poor quality public investment can absorb funds that could finance more productive private investment.
- Cross-country studies: public investment complements private investment only after a threshold level of institutional quality has been reached; prior to that, they are substitutes.
- In the region, public and private investment are typically substitutes.
- Empirical indicator: Average Public and Private Investment, 2003-07 (Percent of GDP) — plotted for countries including SVK, SER, ROM, MKD, LIT, EST, CZE, HRV, BLG, BIH, ALB (source: WEO).

### Public investment planning and prioritization (Box 2)
- Public investment decisions should account for full project lifetime costs; this can be done through a medium-term budget framework (MTBF), but full MTBFs are difficult to implement in transition and developing countries.
- A less demanding alternative: prepare multi-year budget estimates only for investments and major expenditures, which should:
  - take account of dynamics driven by demographics and entitlements;
  - be based on common methodologies;
  - be agreed upon by line ministries and the Ministry of Finance.
- Key measure to increase public investment productivity: formally introduce cost-benefit analysis to decide which projects to undertake and when, entailing:
  - establishing administrative mechanisms for appraisal and review;
  - establishing technical standards, norms, and procedures for evaluation;
  - developing technical staff capable of conducting the analysis.
- Implementation challenges: creating technical capacity and overcoming resistance from vested interests; successful implementation can substantially enhance growth impact of public investment budgets.

### Pay-as-you-go pension system: fragility and projections (Box 3)
- Macedonia’s pension system: two mandatory pillars — a pay-as-you-go, defined benefit system (first pillar) and a fully funded, defined contribution system initiated in 2006 (second pillar).
- Contribution structure:
  - Contributions to the pay-as-you-go system are 21 percent of gross salaries for those who only participate in the first pillar, and 14 percent of gross salaries for those who also participate in the second pillar.
- Pay-as-you-go deficit formula:
  - Pay-as-you-go deficit = s*W*E - P*R
  - where s = pension contribution rate, W = average nominal gross wage, E = number of contributors, P = average nominal pension, R = number of pensioners.
- Key indicators and values:
  - Dependency ratio D = R/E; replacement ratio L = P/W; contribution rate s.
  - Macedonia values: D = 0.68, L = 0.37, s = 0.21 for mono-pillar participants, and s = 0.14 for two-pillar participants.
- Assumptions for 2009−11 projections:
  - (i) dependency ratio gradually increases over time (demographic pressures);
  - (ii) replacement ratio gradually falls over time (wages usually grow faster than pensions);
  - (iii) envisaged reduction in contribution rates during 2009−11 is implemented.

- Tabulated projection (as presented):
  - Contribution rate mono-pillar: 2008 0.21 | 2009 0.19 | 2010 0.165 | 2011 0.15
  - Contribution rate two-pillar: 2008 0.138 | 2009 0.124 | 2010 0.107 | 2011 0.098
  - Dependency ratio: 2008 0.68 | 2009 0.69 | 2010 0.69 | 2011 0.70
  - Replacement ratio: 2008 0.37 | 2009 0.36 | 2010 0.35 | 2011 0.34
  - Pay-as-you-go deficit (percent of GDP): 2008 -2.2 | 2009 -2.4 | 2010 -3.0 | 2011 -3.4
  - Sources: IMF staff.

- Projected impact of planned contribution cuts:
  - The planned reduction in pension contributions is projected to increase the deficit of the system from 2 to 3 percent of GDP.
  - The deficit could be lower if the rate cut leads to a higher increase in the number of contributors, or higher if more ad-hoc pension increases are implemented.

### Policy recommendations and conclusion (paragraph 14 / E)
- The government’s plan to relax fiscal policy should be implemented more gradually, bearing in mind:
  - external vulnerabilities in the short-term;
  - longer-term considerations such as crowding out, the productivity of public investment, and the build-up of unfunded liabilities.
- Given the fixed exchange rate regime limits on monetary policy, fiscal policy is the main instrument to reduce macroeconomic risks.
- Short-term guidance:
  - save revenue over performance and run a fiscal surplus in 2008.
- Medium-term guidance:
  - once the current account deficit returns to more sustainable levels, fiscal deficit targets could be gradually relaxed to finance public investment.
  - a gradual approach provides time to carefully scrutinize investment projects.

### Assessment of external stability — key findings (Chapter III, Section B)
- Macedonia’s current account deficit (CAD) projections and history:
  - CAD is projected to jump to a record high 14 percent of GDP in 2008.
  - This is well above the 5 percent average during the prior decade.
  - Accompanied by a record trade deficit of 27 percent of GDP (versus an average of 18 percent during the prior decade).
  - The CAD reached a historic low of 1 percent in 2006.
- Drivers of the deterioration:
  - Terms of trade have deteriorated.
  - Private transfers have fallen abruptly (likely due to events in Kosovo, domestic elections, and the increase in inflation on confidence and unrecorded exports).
  - Dividend payments have spiked.
  - Import demand accelerated, fueled by accelerating FDI, credit, and government spending.
  - Exports dipped due to slower global growth.
- Convergence and FDI:
  - Macedonia lagged neighbors but saw FDI double in 2007 and again in 2008 to 8 percent of GDP.
  - Real growth reached 10 year highs in 2007−08.
  - Rising relative productivity and unit labor costs noted recently.
- Real exchange rate (RER) dynamics:
  - RER depreciated for most of the decade, reflecting falling relative CPI and PPI inflation and unit labor costs (ULC).
  - Recently, the RER began appreciating, reflecting higher inflation (55 percent of trade is with the Euro zone) and rising relative ULC; planned public wage hikes could raise ULC further.
- Export performance and competitiveness:
  - Manufacturing export market share increased since the 2001 political crisis but underperformed relative to neighbors; export concentration in metals increases vulnerability.
  - Structural indicators: rank improved in the World Economic Forum’s Global Competitiveness Index (GCI) and the World Bank’s Doing Business (DB); adjusted results mixed relative to income trends.

### Formal assessments and numerical results
- Purchasing Power Parity approach:
  - The PPP approach suggests Macedonia’s real exchange rate is undervalued relative to the United States after accounting for income (Balassa-Samuelson) effects.
  - R2 reported for the sample relationship: R^2 = 0.5651.
- Macroeconomic Balance Approach (MBA):
  - The CA norm is estimated to range between 6.5 and 7.5 percent of GDP, depending on coefficients used.
  - Underlying current account used: 2013 CAD projection = 10 percent of GDP.
  - MBA summary table (as presented):
    - Underlying CA (2013 projection) (% of GDP) = -10.0%
    - Estimated CA Norm (% of GDP) = -7.0%
    - Deviation of Underlying from Norm (% of GDP) = -3.0%
    - Elasticity (current account to real exchange rate) = -0.34 to -1.0
    - IREER adjustment needed to bring the underlying CA to the level of norm = 3 to 11 percent
  - Interpretation: Macedonia’s underlying CA is above the CA norm, implying real exchange rate overvaluation; implied REER adjustment needed is 3 to 11 percent, depending on elasticity assumptions.
- Caveats:
  - The gap is within margins of error using Rahman (2008) but not Imam and Minoiu (2008).
  - Results sensitive to assumptions about medium-term export response (authorities argue export-oriented FDI could reduce CAD) and projections for private transfers (somewhat volatile).

*Source: IMF staff, excerpt from _cr0961 - 10.      The higher fiscal deficit will most likely crowd out private investment. An.*

### 13.      This approach does not indicate

### _cr0961 - 13.      This approach does not indicate

### Behavioral Equilibrium Exchange Rate (ERER) Approach and Findings
- The “behavioral” equilibrium exchange rate approach estimates the structural relationship between Macedonia’s equilibrium real exchange rate (ERER) and economic fundamentals, and compares ERER to the actual real effective exchange rate (REER); the difference reflects exchange rate over- or undervaluation.
- Data and methods:
  - Seasonally adjusted quarterly data (1998q1−2008q1).
  - All variables passed unit root tests: integrated of order one.
  - Johansen cointegration estimation methodology; searched for a combination of variables with a unique cointegrating relationship and expected (significant) coefficients.
  - ERER series calculated by applying estimated coefficients to HP filtered historical determinant values.
- Key long-run determinants identified (Table 2 / Model 1):
  - Government expenditure-to-GDP ratios: increases lead to appreciation (coefficients reported as negative for Log Government expenditure/GDP relative to trading partners: -0.29***, -0.19***, -0.26***, -0.24***, -0.40***, -0.42***, -0.20*** across models).
  - Relative productivity differentials (based on relative real GDP per capita): increases lead to appreciation (coefficients: -0.98***, -0.97***, -1.01***, -0.82***, -1.94***, -2.26***, -1.18*** across models).
- Result:
  - The REER was slightly overvalued (above its ERER) by early 2008.
  - The NBRM’s similar analysis using top five trading partner data and disaggregated price and productivity data found one percent overvaluation.
- Model diagnostics and notes:
  - Error correction terms significant (e.g., -0.49***, -0.50***, -0.45***, -0.34***, -0.46***, -0.53***, -0.79***).
  - Similar results when using a PPI-based REER (Model 7).

### External Sustainability (ES) Approach and Scenarios
- Method:
  - Calculates the gap between the current account deficit (CAD) and the CAD that would stabilize the net foreign asset (NFA) position by targeting a benchmark net international investment position (IIP).
  - Uses the underlying CA deficit of 10 percent of GDP for Macedonia.
  - Translates the CAD gap into the required real exchange rate adjustment using the same current account elasticity as used elsewhere in the analysis.
  - Relies on relatively few assumptions: potential growth rate of 5 percent for Macedonia and inflation rate of 3.0 percent for Macedonia.
- Benchmarks and implied required REER adjustments:
  - Targeting SEE peers’ average IIP-to-GDP ratio (-66 percent in 2007) would require Macedonia to achieve a CAD of about 5 percent of GDP; implied real exchange rate adjustment: 5 to 15.5 percent, depending on the elasticity used.
  - Targeting the average IIP-to-GDP ratio for 22 Eastern European transition countries (roughly -52 percent in 2007) would require a CAD of about 4 percent of GDP; implied real exchange rate adjustment: 6.1 to 18.8 percent.
  - Macedonia’s projected end-2008 IIP-to-GDP ratio of -58 percent (rough average of the two benchmarks) would require a 6 to 17 percent real exchange rate adjustment to stabilize at that level.
- Context and caveats:
  - Maintaining Macedonia’s CAD at its 2008 level would translate into an unsustainable IIP-to-GDP ratio of -185 percent.
  - Results are sensitive to growth and inflation assumptions and should be viewed with caution.
- Additional methodological note:
  - Rates of return on external assets and liabilities can be added if differences exist, but are not used here.

### Assessment of Capital Account Vulnerabilities
- Overall assessment: External indicators are weakening in several key areas, with rising but for now manageable risks to external stability.
- Gross external debt:
  - Currently in line with the transition country average but projected to rise over the next several years due to higher government borrowing to finance spending and continued private borrowing.
  - External debt sustainability shock tests indicate the biggest risk to debt dynamics comes from depreciation; a one-time real depreciation of 30 percent is modeled for 2009 in scenario analysis.
- Liquidity indicators:
  - Short-term debt-to-reserves ratio (residual basis) will surpass the “Greenspan-Guidotti rule” level of 100 percent in 2008 and is projected to continue rising over the medium-term.
  - Reserve coverage expected to fall just below three months of imports in 2008, then remain roughly steady (assuming government borrowing plans are realized).
- Gross external debt/GDP portrayal:
  - Charted comparisons show Macedonia among selected transition countries with an average of 55 percent for the comparator group; Macedonia’s relative position is depicted within the figure.
- Positive mitigating factors:
  - FDI has accelerated, with roughly 40 to 50 percent concentrated in the export sector, and is financing over one-half of the current account deficit.
  - Macedonia’s financial sector appears to have low susceptibility to contagion from the global financial crisis due to robust deposit growth and limited reliance on external financing for lending.
  - Roughly one-third of the run-up in short-term debt is relatively stable intercompany short-term debt tied to FDI.
- Policy implications:
  - Government policies should mitigate risks and strengthen the foundations for maintaining the de facto peg to the euro.
  - Recommended short-term policy stance: tightening of fiscal and monetary policy (including reconsideration of plans to increase public sector wages).
  - Recommended longer-term measures: structural reforms to generate export-oriented FDI and other investment, reduce macroeconomic vulnerabilities, strengthen confidence, and boost prospects for external stability.

### Macroeconomic Effects of Electricity Policy — Overview
- Sector weaknesses and macroeconomic consequences:
  - Household electricity prices are kept artificially low; payment discipline is inadequate; technical losses are high.
  - Sector is a drain on the government budget: 2008 electricity quasi-fiscal subsidies estimated at 5 percent of GDP.
  - Sector is a significant contributor to the external deficit: 2008 electricity trade deficit projected at 5 percent of GDP.
  - Underpricing contains inflation temporarily but creates microeconomic distortions: economy too energy-intensive, weak incentives to increase electricity production, and price discrimination between users.
- Electricity consumption and imports:
  - In 2007, 30 percent of domestic use had to be imported, costing 3 percent of GDP; projected to increase to 5 percent of GDP in 2008.
  - Depletion of domestic coal deposits implies more imports either as electricity or coal.
  - Consumption and production chart indicates domestic consumption and domestic supply trends for 2003−2008.
- Generation mix and costs:
  - Coal-fired plants produce around three quarters of total supply; most remainder from hydro-electric plants.
  - High fuel prices have increased costs at the fuel-oil fired Negotino plant, the country’s back-up supplier.
- Prices and tariffs:
  - The 13 percent price increase effective November 2008 raises the daytime tariff for households to €47 per MWh.
  - MEPSO imported electricity for €82 per MWh on average in the first eight months of 2008.
  - Distributor EVN sells imported power at a regulated price of €30 per MWh, implying MEPSO incurred losses on every kilowatt-hour purchased abroad and resold.
  - Household daytime tariff after November 2008: €47 per MWh; MEPSO import price (first eight months of 2008): €82 per MWh; EVN regulated sale price: €30 per MWh.
- Targeting and distributional issues:
  - The household electricity subsidy implicit in underpricing is poorly targeted; it applies to everyone.
  - Household Budget Survey (2006) data: the poorest 20 percent of households receive only 2.7 percent of the electricity subsidy.
  - August 2008 60 percent increase in district heating prices likely to boost electricity demand for heating.
- Collection and payment discipline:
  - Privatization of the distribution network in early 2006 improved collection rates from around 67 percent in 2001−04 to around 75 percent in 2006 and 2007.
  - Further improvements complicated by metering problems and poor payment discipline in remote areas.
  - EVN collection rate chart shows movement from 2001 to 2007 with values around the 60–90 percent range.
- Differential pricing for large users:
  - Starting January 2008, 10 large users purchase electricity directly from abroad at market prices; MEPSO transmits power but terms agreed directly between producer and domestic user.
  - This measure reduces MEPSO’s losses by an estimated 2 percent of GDP but discriminates against large users.
  - On efficiency grounds, large users should be charged lower prices for their use, not higher, since it is cheaper to supply large users with power.

### Fiscal and Quasi-Fiscal Losses (Electricity Sector)
- Estimated fiscal impacts:
  - 2008 electricity quasi-fiscal subsidies estimated at 5 percent of GDP.
  - 2008 electricity trade deficit projected at 5 percent of GDP.
  - MEPSO’s reduction in losses from allowing 10 large users to buy directly from abroad: estimated 2 percent of GDP.
- Distributional and targeting outcomes:
  - Poorest 20 percent of households receive 2.7 percent of the electricity subsidy (Household Budget Survey, 2006).
  - Underpricing and toleration of nonpayment create large implicit subsidies to higher-income households.
- Operational inefficiencies:
  - High technical losses and metering problems contribute to financial strain on the sector and fiscal exposures.

*IMF staff report (excerpts) contained in PDF: _cr0961 - 13.      This approach does not indicate*

### 8.      In recent years, MEPSO’s losses have forced the government to supply it with

### _cr0961 - 8.      In recent years, MEPSO’s losses have forced the government to supply it with

### Government cash support and recent supplementary budgets
- In November 2006, the government provided MEPSO with €20 million (0.4 percent of GDP) to secure adequate winter supplies.
- The 2008 supplementary budget contained a €8 million (0.1 percent of GDP) allocation for MEPSO to help offset losses from buying at high prices abroad, and selling at low prices domestically.

### Quasi-fiscal losses in the electricity sector (2008)
- Quasi-fiscal losses in the sector (including opportunity costs) are much higher than the direct impact on the budget. For 2008, projected losses from underpricing, nonpayment by final users, and higher than normal distribution losses add up to 4.7 percent of GDP.
- Table: FYR Macedonia: Sources of Quasi-Fiscal Losses in the Electricity Sector, 2008
  - quantity (MWh) / price (€ per MWh) / cost (% GDP)
  - Pricing 1/ 4,600,000 82-30=52 3.8
  - Excess distribution losses 2/ 692,760 300.3
  - Collection shortfalls 3/ 1,225,000 300.6
  - Total Quasi-Fiscal Losses 4.7
- Notes from table:
  - Source: IMF staff calculations
  - 1/ The import price differential applied to household use and distribution losses.
  - 2/ Assumes 11 percent distribution losses as the international standard.
  - 3/ Assuming EVN's collection rate remains at 75 percent.

- Additional calculation cited:
  - Assuming a price differential of €52 per MWh between MEPSO’s import price of €82 per MWh, and its domestic sales price of €30, and 2008 use by large users of around 2.2 million MWh, MEPSO’s savings amount to around €114 million, or 1.8 percent of GDP.

### Legal and institutional reforms (May 2007 amendment and July 2008 energy law)
- March 2007 change: energy law amended to remove MEPSO’s monopsony rights in purchasing power directly from foreign suppliers.
  - Starting from May 2007, provision of electricity at domestic wholesale prices to the ‘large users’ (users directly connected to the transmission grid) was reduced to 45 percent of their historical use—any additional needs were to be purchased at the regional market.
  - Starting January 2008, these companies had to buy all of their electricity needs at the regional market.
- July 2008 energy law amendments—main innovations:
  - ELEM, the generation company, is provided with a license to directly supply EVN with electricity for the needs of its customers. ELEM will be entitled to sell any surplus (beyond the needs of EVN’s customers) on the open market. If ELEM’s production is lower than the demand of EVN’s customers (including technical losses), ELEM will import the additional quantities of electricity at its own expense.
  - MEPSO will transmit power for a transmission fee, and no longer buy and sell electricity.
  - EVN will to continue to pay regulated prices for losses technical losses (of not more than 11 percent of the electricity supplied to it); for any additional losses in the distribution grid, market prices will be charged.
- Expected effects:
  - These reforms will likely reduce the government’s fiscal risk stemming from the electricity sector (in particular by charging EVN higher prices for ‘excessive losses’), but they do not provide incentives for more efficient use of electricity by final users.

### Tariff increases, distributional considerations, and social protection
- A further increase in household tariffs (building on the 13 percent increase effective November 2008) is described as inevitable.
  - Expected benefits of a tariff increase:
    - Directly address the main source of quasi-fiscal subsidies—estimated at 3.8 percent of GDP in 2008.
    - Bring prices charged to households closer to prices charged to large users, thereby reducing economic distortions.
    - Bring Macedonia’s household tariffs closer to prices elsewhere in the region, thereby reducing the sector’s contribution to the trade deficit.
- Social protection needs:
  - Under the EU Energy Community Treaty, the electricity market for households is to be liberalized by 2015.
  - It will be important to use the coming years to gradually converge prices for these users to regional levels, while designing and implementing a well-targeted social protection mechanism:
    - Either by a direct budget transfer to the poorest users (along the lines of the support provided to the poorest households in the spring of 2008, to compensate for higher fuel and food prices); or by block tariffs (providing a basic supply of electricity to each household at a lower price).
  - Empirical distributional note:
    - Poor households spend a significant part of their budget on electricity: the poorest 20 percent of households spend 18 percent of their budget on electricity (Household Budget Survey, 2006).
  - Chart summary (Budget Share of Electricity Consumption, 2006):
    - poorest 20%: 18 percent
    - 20-40%: (value shown on chart; source: Household Budget Survey, 2006)
    - 40-60%: (value shown on chart; source: Household Budget Survey, 2006)
    - 60-80%: (value shown on chart; source: Household Budget Survey, 2006)
    - richest 20%: (value shown on chart; source: Household Budget Survey, 2006)

### Conclusion and policy recommendations
- Principal conclusions:
  - Higher electricity prices are needed, together with improved social protection for the poor.
  - Higher prices would provide much-needed incentives to economize on use, and stimulate domestic production.
  - This would help reduce quasi-fiscal losses in the sector (estimated at 5 percent of GDP in this paper), and also address the electricity sector’s high and growing contribution to Macedonia’s trade deficit (projected at 5 percent of GDP in 2008).
  - With poor households spending up to one-fifth of their budget on electricity, it is crucial that a price increase is accompanied by a scheme to mitigate the social impact.

*Source: IMF staff calculations and text from the provided IMF chapter.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr0961.pdf_