Growth is gaining momentum amid rising risks
Growth is gaining momentum. After picking up in early 2024,
growth is expected at 3.3 percent in 2025, driven by stronger domestic
demand as public investment projects (including the Corridor 8/10d road
project) intensify and consumption is supported by government transfers and
real wage growth. The impact of weak external demand seen in 2024 is
expected to persist in 2025, driven by structural shifts in the European
automotive sector. In the long term, high emigration, especially among the
young segment of the population, is projected to lower potential growth,
which Staff now estimate at 3.0 percent.
Inflation is rising again. In January, inflation reached
4.9 percent year-on-year, up from a low of 2.2 percent in August 2024. Core
inflation has become the main driver and remains persistent, fueled by
strong wage growth. Food inflation remains high despite administrative
price controls and other interventions.
Domestic risks are elevated and the external outlook more uncertain. Weak public investment, stalled productivity reforms, emigration, and
slowing activity of key trade partners threaten growth in the medium-term.
Meanwhile, high real wage growth without productivity gains and increased
fiscal transfers could further fuel inflation and erode competitiveness.
Trade policy shifts and shocks to FDI may suppress exports and tighten
financial conditions.
Adhering to the fiscal rules requires credible fiscal consolidation
IMF staff agree with the authorities' goal of reducing the deficit this
year, but are concerned revenue will underperform, rendering this goal
out of reach.
The 4 percent of GDP deficit envisaged in the 2025 budget will be exceeded
if the authorities’ expected revenue gains (of 1½ percent of GDP) from
reducing the shadow economy and increasing tax compliance fall short. We
welcome the Public Revenue Office’s efforts to modernize tax collection and
reduce informality, but these efforts will take time to deliver results.
Staff recommends that in any planned supplementary budget, the authorities
avoid increasing spending and focus on reducing tax expenditures and
transfers (e.g., subsidies to agriculture). Ensuring the full and timely
transfer of contributions to the second-pillar pension system is essential.
A credible fiscal strategy is needed to bring debt on a downward path.
The budget deficit has exceeded the 3 percent of GDP ceiling in the fiscal
rules, while public debt is on an upward trend and has surpassed 60 percent
of GDP in 2024—14 percentage points above pre-pandemic levels. A credible
fiscal strategy to restore compliance with fiscal rules is key, for
preserving credibility to maintain access to international capital markets,
for creating space for investment, and strengthening resilience against
future shocks. The focus should be on:
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Controlling current spending:Staff recommend omitting further
pension increases in September 2025 and returning to a rule-based
pension system in 2026—indexing only to inflation—to support
consolidation while protecting pensioners’ purchasing power. Staff
advise limiting public wage growth to inflation in the near term. The
Ministry of Finance should strengthen oversight to ensure public wage
increases are consistent with achieving the fiscal rules. Over time,
unifying the fragmented wage negotiating system will help prevent
unexpected budget pressures.
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Mobilizing revenues. North Macedonia’s tax revenue potential
is estimated at 22-24 percent of GDP. To realize these revenues, tax
reforms should focus on reducing tax expenditures, limiting reduced
rates and exemptions, improving tax compliance, and gradually increasing
property tax. The government’s accelerated digitalization efforts will
enhance revenue mobilization.
Beyond consolidation, structural fiscal reforms are needed to
strengthen fiscal governance and improve spending efficiency, with some
progress underway. Key ongoing measures include implementing the Public Investment
Management decree and manual, adopting the PPP law, and conducting spending
reviews to optimize budget allocation. Managing fiscal risks, especially
from SOEs and major projects like the Corridor 8/10d road, is crucial. The
inclusion of a fiscal risk assessment in the Medium Term Fiscal Strategy
marks an achievement for the ministry. The state-owned electricity
generator, ESM, requires investments in technology and efficiency
improvements to lower production costs and expand production, while
gradually reducing its role in the subsidized, regulated market. The
operationalization of the Fiscal Council is a positive step and it is
encouraged to strengthen its independent assessments.
Monetary and financial sector policies to maintain stability and
mitigate risks
Policy rates should remain on hold and liquidity tools warrant further
tightening until inflation steadily declines. Robust reserves accumulation in 2024 has fostered stability in the
foreign exchange market. Given the renewed acceleration in both headline
and core inflation, the National Bank (NBRNM) should remain on hold until
there is clear evidence of sustained disinflation. Staff support the
changes in reserve requirements implemented by the NBRNM and advise further
tightening to absorb excess liquidity. The NBRNM should remain vigilant to
inflationary risks from domestic factors, including wage and pension
increases, as well as heightened external risks from trade uncertainties. If
these risks materialize, the NBRNM should be prepared to tighten further to
prevent inflation from becoming entrenched. The NBRNM has effectively
managed recent challenges, including the energy cost shock. Its resilience
stems from operational and financial autonomy, which underpin its
independence and credibility—both essential for maintaining price and
exchange rate stability and must be safeguarded.
The financial system remains resilient, but macro prudential settings
may need to be tightened in response to brisk credit growth.
Overall, the banking sector is well-capitalized, highly liquid, and
profitable, with low system-wide non-performing loans. NBRNM’s active
macroprudential and microprudential measures have strengthened resilience.
Strong balance sheets and increased deposits have fueled an acceleration in
lending activity towards the end of 2024. The implemented loan-to-value and
debt service-to-income ratios will continue to help safeguard financial
stability by reducing pressures in the real estate market and preventing
higher levels of indebtedness. Staff support the NBRNM’s gradual tightening
of the countercyclical capital buffer and additional capital requirements
to ensure banks maintain adequate loss-absorbing and recapitalization
capacity, in line with EU regulations. Should lending and real estate
prices continue growing briskly, further tightening of macroprudential
instruments may be warranted.
Structural reforms to boost productivity and offset costs of
emigration
IMF staff support the authorities’ objectives of boosting productivity,
raising living standards, and reducing informality. Over the past decade, growth in North Macedonia has lagged regional peers
and convergence with the EU has stalled. High emigration has led to a
declining population that threatens to be a drag on potential growth.
Accelerating structural reforms is key to achieving the authorities’
objectives, offsetting the costs of emigration, and supporting the country
on its path to EU accession. The priorities are well known:
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Improving the business environment. Reducing informality
through streamlined business registrations and expanded digital public
services is a priority. The predictability of the legal and regulatory
environment can be improved by limiting the use of expedited procedures
in Parliament, increasing stakeholder consultation, and applying the
regulatory requirements more consistently. Simplifying and digitalizing
work permits would help businesses address skill and labor shortages
more efficiently. Avoiding ad-hoc adjustments to the minimum wage will
help contain inflation, preserve competitiveness and provide a more
predictable policy environment for business.
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Strengthening the labor market. Improving labor market
outcomes can stimulate private investment, increase labor participation,
and reduce emigration. Raising educational quality and job matching
between firms and workers through vocational training will help address
labor shortages. Expanding affordable childcare in municipalities, and
gradually raising the retirement age of women to match men can help to
offset workforce losses from high emigration.
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Increasing public infrastructure investment. The quality of
public infrastructure in North Macedonia lags peers. The major
infrastructure projects Corridor 8/10d and the Kicevo-Ohrid highways are
over budget and behind schedule. Staff urge the authorities to complete
the started projects and realize their investments. Capital
expenditures should be safeguarded in the budget and public investment
management should be strengthened to prioritize high-impact projects.
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Strengthening the rule of law and anti-corruption efforts.
Improving judicial independence and impartiality would strengthen
contract enforcement and help reduce informality. The fight against
corruption remains weak, particularly in prosecuting high-profile
cases. Aligning the Criminal Code with international standards and
enhancing resources for key anti-corruption institutions are crucial.
The upcoming new national anti-corruption strategy is an opportunity to
accelerate reforms through stronger accountability and coordination.
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Enhancing governance.Improving public resource efficiency,
accountability, and transparency requires expanding digital public
services, reassessing state aid schemes, strengthening procurement
systems, and improving SOE management.
The IMF team thanks the authorities of North Macedonia and other
counterparts for their productive collaboration and constructive policy
dialogue.