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Joint Conclusions of the Economic and Financial Dialogue between the EU and the Western Balkans and Turkey: Montenegro

17/05/2019 - 17:26
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Montenegro submitted its Economic Reform Programme 2019-2021 on 31 January 2019. The policy guidance set out in the conclusions of the Economic and Financial Dialogue of May 2018 has been implemented to a limited extent.

After recording several years of strong economic performance, the ERP projects a moderation in output growth to around 2.5 % on average in 2019-2021. The baseline growth scenario appears plausible in the current context. It assumes a sharp slowdown in investment growth after the completion of a major infrastructure project, and subdued private consumption due to weak growth in employment and wages. New capacities in the tourism and energy sector are expected to sustain a moderate expansion of exports. Import growth is seen as declining in parallel with the turn in the investment cycle. This is projected to reduce the very high current account deficit, which is expected to be largely financed by foreign direct investment. Fiscal policy targets have been softened compared to previous year’s programme. Budget expenditure is expected to decline markedly following the completion of the first section of the Bar-Boljare highway, which is set to swing the budget into surplus and reduce public debt from its peak of more than 70 % of GDP. The long-term sustainability of public finances depends on controlling the costs of the large non-discretionary items of the budget, like wages and pensions. However, reforms to contain such spending have been delayed. Recurrent deviation from budget targets reveals weaknesses in fiscal governance.

While overall financial stability metrics are favourable, some smaller banks appear to struggle with maintaining operational viability. Consolidation in the banking sector could be beneficial. Banks’ non-performing loans (NPLs) have declined to more manageable levels in recent years. However, a sizeable amount of NPLs remain concentrated in factoring companies. Therefore, a more holistic approach than the measures pursued to date to address non-performing exposures is warranted. A comprehensive asset quality review is advisable and the central bank should make use of its mandate to supervise factoring companies. In addition, legal, judicial or institutional bottlenecks, particularly outside the remit of the central bank, should be tackled to arrive at a rapid and comprehensive restructuring of non-performing debts.

Across the region, corruption and weak rule of law and institutions remain core issues affecting competitiveness. Addressing these fundamental concerns is a prerequisite for a successful transformation of the economy.

As regards specific structural reforms, the main challenges in terms of boosting competitiveness and long-term and inclusive growth are (i) strengthening the regulatory environment, (ii) formalisation of the economy and (iii) increasing labour market activity. The conduct of business is particularly affected by the non-consistent and sometimes conflicting implementation of laws between different authorities on central and local level. Many of the policy-making processes do not provide the necessary transparency level and equal opportunities to all stakeholders. In particular, secondary legislation impacting on business environment is usually not subject to public debate and scrutiny and often adopted with significant delays. The large informal sector is fuelled by the weaknesses of the regulatory environment, including the labour market, corruption and high tolerance for tax non-compliance. Some progress was made, notably on simplifying, structuring and lowering the number of administrative fees for businesses. However, further efforts are needed in these areas. Low labour market activity remains among the key structural challenges, particularly for youth, women and the low-skilled. Weak job creation, labour market regulation and taxation, and undeclared work negatively affect employment. The gender employment gap is high and low coverage of childcare further compresses labour market participation of women. Labour market transitions are also hindered by skills mismatch, weak educational outcomes and limited re- and upskilling measures. Employment services and active labour market policies do not cover jobseekers and their needs effectively enough. The social protection system still lacks activation capacity and has a weak capacity to target those most in need. Low employment, demographic changes and short working lives put pressure on the pension system. The potential of social dialogue is not yet fully used.

In light of this assessment, Participants hereby invite Montenegro to:

  1. Use windfall gains, such as proceeds from privatisation and airport concessions, to accelerate the reduction of the general government debt ratio. Broaden the tax base by introducing an electronic fiscal invoice system. Reduce the public sector wage bill as a share of GDP by fully implementing the public administration optimisation plan, including a system of centralised payroll calculation, at both central and local self-government levels.
  2. Reinforce fiscal governance by introducing medium-term budgetary planning and programme budgeting. Advance the reduction of arrears at local level, including those of municipal companies. Prepare an options paper on the establishment of an independent body for fiscal oversight for further consultation with stakeholders, including the EU.
  3. Strengthen efforts to resolve the remaining stock of non-performing loans, including those held outside the banking system, and address obstacles hindering resolution outside the responsibility of the central bank. Conduct a comprehensive asset quality review of the financial sector in line with international best practices and publish the results. Closely monitor the emergence of potential financial stability risks related to the consumer loan segment, deploying appropriate micro- and macroprudential policy tools if needed, and consider measures to bolster the resources at the disposal of Montenegro’s deposit insurance fund.
  4. Improve the regulatory environment by developing publically available guidance on the practical implementation of laws that affect businesses at central and local level. Ensure consistent application of the provided guidance.  
  5. Develop a comprehensive strategy providing reliable benchmarking tools allowing for the continuous assessment and reduction of the informal economy, including undeclared work. Ensure close cooperation between central and local authorities to reduce the informal economy. Adopt and implement the new legislative framework on public procurement, public-private partnerships and concessions.
  6. Increase labour market participation, in particular for youth, women and the low skilled, by strengthening employment activation measures, including through better provision of upskilling and reskilling measures. Improve coordination between employment and social services. Establish a solid monitoring and evaluating mechanism on the implementation and results of practical learning at vocational and higher education.

 

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