An International Monetary Fund (IMF) mission, led by Ms. Anita Tuladhar,
visited Tirana during March 7-20, 2018, for the first Post-Program
Monitoring (PPM) discussions. The PPM process is intended for member
countries that have substantial IMF credit outstanding following the
expiration of their programs, and is especially focused on vulnerabilities
and risks. At the end of the visit, the mission issued the following
statement:
Albania is enjoying one of the fastest economic growth rates in the
region. The macroeconomic and political environment is stable.
Policymakers should use these good times to push for reforms to
mitigate risks arising from high public debt and contingent
liabilities, and non-performing loans in the financial sector; and to
strengthen medium term growth potential against a difficult investment
climate with high informality and weak rule of law. Key priorities are:
advancing fiscal consolidation; enhancing the efficiency of public
investment spending; strengthening the institutional framework for bank
supervision and Non-Performing Loans (NPLs) resolution; and removing
bottlenecks in business/investment environment through judicial and
anti-corruption reforms. These efforts will also open the economy to
new growth opportunities, help bring Albania closer to European Union
(EU) integration and ensure higher standards of living for the Albanian
population.
Economic growth remains strong
Albania is enjoying one of the fastest economic growth rates in the
region
with GDP growth projected to reach an estimated 3.9 percent in 2017 and 3.7
percent in 2018. Financing conditions are extremely favorable as inflation
and interest rates remain very low. Investment is picking up and confidence
remains high. Exports are rising, supported by the strong economic recovery
in EU trading partners. The foreign exchange reserves of the Bank of
Albania (BoA) are comfortable (at more than 6 months of import coverage) as
flows of foreign direct investment continue at a robust pace. While the
recovery remains creditless, the banking sector is stable, liquid, and
profitable. Albania’s growth outlook remains positive, provided the reform
momentum picks up, improving confidence and creating a favorable
environment for new investment and growth.

Downside risks remain on the horizon
This economic growth momentum, however, may not last
. Growth in the EU has been accelerating since 2016. However, the growth
recovery is largely cyclical and the medium-term outlook remains subdued
due to unresolved crisis legacy issues, weak productivity growth, and
demographic headwinds. There are also global risks from a sudden financial
market correction, political uncertainties and protectionist policies which
could dampen confidence and growth. A slowdown would adversely affect
Albania through trade, investment, and banking channels.
Domestic risks to growth over the medium-term are also important.
The tapering of large infrastructure investments in the energy sector is
expected to drag down growth. With public debt levels very high by regional
standards and contingent liabilities increasing, fiscal slippages could
dampen confidence, increase borrowing risk premia and lower private
investments. The banking system is already weighed down by large NPLs and
difficulties in collateral execution. More rapid deleveraging by EU-owned
banks in Albania could lead to financial sector stress. Adverse weather
conditions could again affect electricity generation, creating quasi-fiscal
risks and headwinds to growth. Insufficient progress in implementing
structural reforms, in areas such as energy, public financial management
and judicial reforms, can undermine investor confidence, significantly
reducing donor and capital inflows, and lowering growth.
Now is the opportune time to accelerate reforms to mitigate these
risks and build up defenses against adverse shocks in the future
A faster fiscal consolidation is needed to create policy buffers
. Given the high level of public debt (71.2 percent of GDP at end-2017,
including local and central government arrears of 1.8 percent of GDP),
negative shocks such as a slowdown in growth combined with higher interest
risk premia and exchange rate depreciation, or realization of contingent
liabilities, could adversely affect debt and external sustainability,
necessitating a sharp fiscal adjustment. A more ambitious fiscal deficit
target—consistent with an additional fiscal effort of around 1 percent of
GDP over two years, compared to a constant general government deficit of 2
percent of GDP in the budget—would help achieve faster debt reduction to
create additional room for maneuver in case these adverse shocks
materialize. In this regard, strengthening revenues is a key priority to
not only lower deficits but also create room for more infrastructure and
education spending.

Stronger budgetary and public investment management frameworks are
needed to mitigate fiscal risks and reduce waste of scarce resources.
-
Public investments and public private partnerships (PPPs).
As public investment is scaled up, the authorities should address
shortcomings in project management, including in local governments and
state-owned enterprises (SOEs). Prioritization of all projects,
including PPPs, within the public investment envelope is needed, which
should be properly funded in the medium-term budgetary framework. With
regard to PPPs, a key priority is to reduce the fragmented
decision-making and strengthen risk assessment processes at the
Ministry of Finance (MOF). These processes are critical given the large
contingent liabilities frequently embedded in PPP contracts over a
long-term horizon. The current practice of unsolicited proposals should
be eliminated.
The government’s plan for establishing a development bank for
financing public investments should take into account international
experience with risks associated with such entities, including
fiscal, financial and governance risks.
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Arrears control
. Stronger enforcement of budgetary commitment controls iscrucial to
prevent the buildup of arrears. Unfunded commitments in the medium-term
budget and value-added tax (VAT) refund delays have led to an
accumulation of new arrears of around 0.9 percent of GDP in 2017 (of
which, 0.7 percent of GDP in VAT refunds), which need to be resolved
rapidly.
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State-owned enterprises:
Revitalizing reforms in the state-owned electricity sector to put
companies on a financially sustainable footing are of critical
importance. The authorities should tackle the accumulation of arrears
and losses, and improve operational efficiency, including through
stronger corporate governance, institutional and market design reforms
and better targeting of investment.
Further improvements in debt management can help reduce rollover risks
. Albania’s gross financing needs, at around 21 percent of GDP, remain
high. The authorities’ plan to support secondary market development for the
5-year government bond market would help reduce this risk. Eurobond
issuances should aim to amortize debt in foreign exchange while being
vigilant to risk posed by excessive reliance on non-concessional borrowing
in foreign currency. The debt management capacity at MoF is not adequate
and requires further strengthening. Close coordination between the MoF and
BoA and the markets is needed, given the high bank exposure to the public
sector.
Addressing the resolution framework of NPLs is key to credit recovery.
NPLs, at 13.2 percent of loans at end-2017, have been declining due to
write-offs and restructuring efforts. Nevertheless, important reforms to
accelerate the collateral execution are pending, including success fees for
bailiffs and the regulation of out-of-court agreements, making banks risk
averse. The authorities should also remain vigilant to potential risks
related to large corporate exposures and growth in the construction sector.
The recently launched de-euroization strategy would help reduce indirect
credit risks from sizable unhedged foreign exchange exposures. This
strategy should be implemented gradually to mitigate risks of financial
disintermediation.

Enhanced bank supervision and regulation, aligned with EU standards,
would provide the BoA with tools to better manage risks of systemic
banks and build up capital buffers.
The ongoing bank consolidation as EU-owned banks deleverage comes with
governance risks. Ensuring that new market entrants have solid banking
experience and meet fit and proper criteria to operate in the Albanian
banking market will be critical. Strict monitoring of systemic banks should
be further strengthened to contain the risk of large borrowers and mitigate
the risk of related-party lending. The BoA should continue to align its
regulatory and supervisory framework with the EU and progressively converge
towards implementation of Basel III. In the non-banking sector, it is
critical that the Albanian Financial Supervisory Authority complete the
crisis management framework for investment funds, in coordination with the
BoA and MOF.
Faster growth is needed to raise living standards and reduce
poverty, which requires fundamental institutional reforms
To attract higher investment and achieve faster convergence, Albania
needs to address many structural impediments
. Weak property rights and a corrupt, inefficient judiciary are frequently
identified as the main obstacles for attracting investment. Lack of
infrastructure connectivity, high informality, difficulty in accessing
finance and weak human capital further undermine competitiveness.
Addressing these challenges is all the more critical given the slowdown in
investment and productivity growth seen in Albania and across Europe after
the global financial crisis. These challenges to growth are exacerbated by
high emigration from Albania. Now is the time to implement reforms to
improve the investment climate, encourage growth and increase job
opportunities.

Ultimately, mitigating risks and implementing the structural reform
agenda will set the foundation for resilient growth as well as pave
the way towards further EU integration.
The IMF team thanks the authorities and other interlocutors for their
cooperation, open and constructive discussions, and warm hospitality.