Albania: Staff Concluding Statement of the 2017 Article IV Mission
IMF News, October 2, 2017
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- Published: October 2, 2017
Overview
- Albania’s economy is strengthening, supported by rising domestic demand, large energy-related Foreign Direct Investment, growing tourism, and recovery in key EU trading partners.
- Under the recently concluded Fund-supported program, fiscal and financial vulnerabilities were lowered, but reform momentum has slowed due to elections and an extended government transition.
- The growing economy and clear electoral mandate provide an opportunity for the new government to redouble reform efforts to maintain macroeconomic stability, reduce fiscal risks, and raise growth potential.
Recent Economic Developments and Outlook
- Growth and labor market
- GDP growth is projected to increase to 3.9 percent in 2017.
- Growth drivers in 2017: rapid expansion of tourism and construction; drought negatively affected electricity production.
- Unemployment fell to 13.9 percent at 2017:Q2.
- Credit to households and exports are rising.
- External sector and inflation
- Current account deficit is expected to widen slightly in 2017, reaching 8.0 percent of GDP, driven by energy investment and drought-related electricity imports.
- Pass-through of higher external inflation and increasing domestic demand is expected to push inflation to around 2 percent (yoy, average) in 2017.
- Public finances and debt
- General government primary balance projected to slightly deteriorate from a surplus of 0.2 percent of GDP in 2016 to 0.1 percent of GDP in 2017, owing to large pending VAT refunds, electricity import guarantees, and local government expenditures.
- Overall general government deficit expected to decline modestly to 2.0 percent of GDP in 2017 due to interest savings.
- Public debt (including substantial local and central government arrears) projected to decline from 73.3 percent of GDP at end-2016 to 71½ percent of GDP at end-2017.
- Medium-term outlook and risks
- Growth projected to ease to 3.7 percent in 2018 as large energy-related investments taper off, then increase to 4 percent over the medium-term with EU accession reforms and recovery in main EU trading partners.
- Balanced risks: upside from improved confidence and spillovers from large energy/infrastructure projects; downside from continued drought affecting electricity generation and quasi-fiscal risks, slowdown in reform momentum and fiscal slippages, banking distress in Europe or rapid deleveraging by EU banks.
Fiscal Policy: Ensuring Fiscal Sustainability and Supporting Growth-Friendly Spending
- Fiscal strategy and targets
- Authorities committed to reducing public debt below 60 percent of GDP by 2021, aligned with long-term debt objective of 45 percent of GDP in the Organic Budget Law.
- Draft 2018 budget and medium-term framework target a primary surplus of 0.6 percent of GDP in 2018, and gradual consolidation to reach a primary surplus of 2.3 percent of GDP by 2021.
- Fiscal strategy envisages a large scale-up of public investment while containing public wages (except health and education), reducing energy support, and increasing revenues from value-based property tax and anti-informality compliance gains.
- Mission recommendations and quantitative assessments
- Mission recommends a more front-loaded consolidation.
- In the absence of tax policy measures, mission projects public debt to reach around 63.5 percent of GDP by 2021.
- Projection includes a buildup of a prudent deposit buffer (1 percent of GDP) but excludes any debt or contingent liability arising from PPP-financed investments (€1 billion, around 7 percent of GDP by 2021).
- Mission estimates additional permanent measures of 1¼ percent of GDP over 2018-19 would be needed to achieve the debt target.
- Ensuring the 2017 revised budget stays within the original target by locking in existing savings and avoiding inefficient year-end spending would also help.
- Revenue mobilization measures suggested
- Support for planned introduction of a value-based property tax and strengthening tax compliance.
- Additional measures recommended: indexation of excises to inflation, transfer duty on property sales as a transition to value-based property tax, environmental excises, and broadening the tax base.
- Authorities should refrain from granting new tax exemptions, preferential treatments, or lowering tax rates.
- VAT and CIT taxation design for small businesses should consider a simplified regime to minimize administrative burden.
Structural Fiscal Reform: Reducing Fiscal Risks and Improving Efficiency
- Tax administration
- Progress made on tax administration strategic plan; focus on improving debt collection and compliance risk management is supported.
- Announced merger of tax and customs administrations should be revisited due to high risks of undermining revenue collection and ongoing reforms.
- Reorganization of central government administration should consider functional impacts.
- Public financial management
- Strengthen public investment management, especially project appraisal and selection, to reduce waste and abuse.
- Adhere to the medium term budgetary framework to reduce risks of unfunded commitments and arrears.
- Even with increased expenditure envelope in 2018, new planned projects are crowding out existing commitments.
- Public-Private Partnerships (PPPs)
- Ambitious PPP agenda poses substantial fiscal risks.
- Strengthen PPP framework implementation and use Ministry of Finance’s expanded legal powers to assess and monitor PPPs.
- PPPs’ impact on fiscal accounts and public debt should be reflected transparently and in line with international norms.
- Debt management
- Ministry of Finance should lengthen public debt maturity and diversify the investor base, while avoiding excessive reliance on foreign currency and non-concessional borrowing.
- Arrears clearance and prevention
- As of end-June, central and local governments accumulated arrears of 1.1 percent of GDP, including 0.3 percent of GDP in arrears on VAT refunds.
- Recommendations to prevent arrears: improve tax refund process, strengthen commitment controls (particularly at the Ministry of Energy and Infrastructure), expand the Treasury’s IT system to local governments, register all unbudgeted commitments, and record unpaid bills.
- Electricity sector reforms
- Reform process has stalled after early gains; reforms are important to unlock donor support and speed up financial restructuring.
- Authorities should improve operational efficiency through strengthened corporate governance and better targeting of investment.
- Accelerate institutional and market design reforms: establish a power exchange, unbundle the electricity distribution company, and move medium-voltage customers to the free market.
- Drought-induced fall in hydropower generation underscores importance of diversifying electricity sources.
Monetary and Financial Policy: Strengthening Inflation Targeting and Mitigating Risks
- Monetary policy stance and central bank reforms
- Bank of Albania accommodative stance remains appropriate given the still negative output gap and appreciating exchange rate.
- Any unwinding of monetary easing should await clear evidence of sustained rise in inflation.
- De-euroization strategy should be implemented gradually to balance risks of financial disintermediation.
- Central bank law needs amendment to align with modern central banking legislation, strengthen BoA independence and legal protection of employees, and improve governance and operations.
- Non-performing loans (NPLs) and resolution framework
- Weak NPL resolution framework hampers credit recovery, particularly for corporates.
- Progress welcomed on restructuring NPLs of large borrowers; mandatory write-offs have contributed to a sizable decline in NPL ratio.
- Recent regulation on private bailiff fees likely to hinder collateral execution and should be reversed.
- Authorities should urgently adopt bylaws to implement the new Bankruptcy Law and facilitate out-of-court restructuring.
- Reviving the NPL Working Group can help advance the agenda.
- Financial supervision and sectoral risks
- Banking system remains stable, well-capitalized and liquid.
- Authorities should strengthen microprudential focus on fastest-growing and systemically important segments, enforce limits on large exposures, and ensure healthy capitalization.
- Consolidation in banking sector is welcome; BoA should ensure new bank license candidates meet fit and proper criteria, have adequate banking experience, and avoid conflicts of interest.
- Expansion of investment funds and non-bank financial institutions requires urgent strengthening of regulator’s crisis preparedness and capacity.
- Close cooperation between bank and non-bank supervisors is needed as financial interconnectedness increases.
- Developing capital market institutions requires high transparency and governance standards; a liquid secondary market for domestic government bonds is key for financial deepening.
Structural Reforms: Deepen Reforms to Accelerate the Pace of Convergence
- Competitiveness and structural bottlenecks
- Albania’s competitiveness indicators lag regional peers despite competitive wages.
- Investment climate impediments: low tax efficiency, high informality, skill mismatches, regulatory unpredictability, weak property rights, and a corrupt and inefficient judiciary.
- Albania’s infrastructure gap is the highest in the region and a significant productivity bottleneck.
- Priority structural measures
- Pursue sweeping judicial reform adopted in mid-2016 with speed and determination.
- Develop a new strategy on property rights to advance property registration and digitization and coordinate restitution and legalization processes.
- Address demographic pressures, skills mismatches, and high youth unemployment by strengthening public employment agencies and investing in higher education and vocational training.
- To reduce informality, revisit minimum wage policies for young, low-skilled, or part-time workers.
- Authorities’ goal of reducing regulatory burden is welcome.
Concluding note
- The IMF team thanks the authorities and other interlocutors in the public and private sectors for their cooperation, open and constructive discussions, and warm hospitality.
Source: Albania: Staff Concluding Statement of the 2017 Article IV Mission (October 2, 2017).