Macedonia: Economy

Macedonia is a small economy with a gross domestic product (GDP) of about $9.17 billion (2010 est.), representing about 0.01% of the total world output. It is an open economy, highly integrated into international trade, with a total trade-to-GDP ratio of 81.6% at the end of 2009. Agriculture and industry had been the two most important sectors of the economy in the past, but the services sector has gained the lead in the last few years. Economic problems persist, even as Macedonia undertakes structural reforms to finish the transition to a market-oriented economy. Modernization of the largely obsolete infrastructure is happening slowly, and foreign investment has not kept pace with neighboring economies. Labor force education and skills are competitive in some technical areas and industries but significantly lacking in others. Without adequate job opportunities, many with the best skills seek employment abroad. A relatively low standard of living, high unemployment rate, and modest economic growth rate are the central economic problems.

Five years of continuous economic expansion in Macedonia was interrupted by the 2001 conflict, which led to a contraction of 4.5% in 2001. Growth started to pick up in 2003 (2.8%) and continued in 2004 (4.6%), 2005 (4.4%), 2006 (5.0%), 2007 (6.1%), and 2008 (5.0%). In 2009 and 2010, the economy slowed as a result of the world economic crisis, although the financial sector remained sound. This was largely due to conservative banking and financial regulation and limited exposure to global financial markets. Real GDP dropped by 0.9% in 2009. The economy slowly started to recover in 2010 as real GDP is estimated to have grown by 1.3%. Consumer Price Index (CPI)-based inflation was -0.8% in 2009 and 1.6% in 2010. Living standards still lag behind those enjoyed before independence. The United States is supporting Macedonia's transition to a democratic, secure, market-oriented society through targeted foreign assistance.

Background
After the breakup of Yugoslavia in 1991, Macedonia, the former Yugoslavia's poorest republic, faced formidable economic challenges posed by both the transition to a market economy and a difficult regional situation. The breakup deprived Macedonia of key protected markets and large transfer payments from the central Yugoslav government. The war in Bosnia, international sanctions on Serbia, and the 1999 crisis in neighboring Kosovo delivered successive shocks to Macedonia's trade-dependent economy. The government's painful but necessary structural reforms and macroeconomic stabilization program generated additional economic dislocation. Macedonia's economy was hurt especially by a trade embargo imposed by Greece in February 1994 in a dispute over the country's name, flag, and constitution, and by international trade sanctions against Serbia that were not suspended until a month after conclusion of the Dayton Accords. The impact of the 2001 ethnic Albanian insurgency in Macedonia, decreased international demand for Macedonian products, canceled contracts in the textile and iron and steel industry, and poor restructuring of the private sector affected Macedonia's growth and foreign trade prospects through 2004.

Macedonia's political and security situation is stable. This has allowed the government to refocus energies on domestic reforms, boosting economic growth, and attracting increased levels of foreign investment. In 2004, the government passed a progressive Trade Companies Law aimed at easing impediments to foreign investment, providing tax and investment incentives, and guaranteeing shareholder rights. The government's fiscal policy, aligned with International Monetary Fund (IMF) and World Bank policies, helped maintain a stable macroeconomic environment which sent promising signals to investors. However, economic growth remained sub-par in 2005 and 2006, due in part to poor government results in combating corruption, a weak judiciary, poor contract enforcement, and high domestic finance costs.

The new government that took office in August 2006 put the fight against corruption and attracting foreign investors at the very top of its priority list. In 2007, it launched an expensive marketing campaign promoting the country as a good investment destination and put in place a one-stop process for business registration that considerably shortened the time required to register a new business. It provided business incentives by cutting rates on profit tax and personal income tax and implemented a so-called "regulatory guillotine," an activity which reduced procedures and legislative requirements for doing business. Reinvested profits became tax free, social contributions rates on salaries are being gradually reduced, and a regulatory impact assessment (RIA) procedure is being carried out to re-evaluate legislation for doing business.

Macedonia's moderate economic growth was halted by the world economic crisis in 2009, which hit the real sector strongly, although the financial sector remained sound and stable. Exports dropped dramatically and the economy entered into a recession, albeit one that was shorter and, given the already low level of economic development, far less severe than in many other transitional and developed economies.

Macroeconomy
Real GDP in the third quarter of 2010 increased by 1.3% on annual basis. This modest growth was driven by an 18.4% rise in the construction sector, a 3.8% rise in financial intermediation services, 2.7% higher wholesale and retail trade, and 2.4% growth in agriculture. At the same time, industrial output in 2010 was 4.8% lower than in 2009. In 2010, low government and external debt and a comfortable level of foreign exchange reserves allowed for a slight relaxation of the monetary policy. The CPI moved from negative to positive, with the cumulative CPI rising moderately to 1.6% at end-2010. Due to rising prices for energy, fuel, and food on international markets, inflation continued an upward trend, reaching 3.9% at end-February 2011. The official unemployment rate dropped to 31.7% in the third quarter of 2010. Many people work in the gray economy, and many experts estimate Macedonia’s actual unemployment as being somewhere between 20%-25%.

Revenue collection fell well below government projections in the first half of 2010, leading the government to finance the budget through domestic borrowing. In July the government amended the budget to decrease projected expenditures and bring it in line with the budget deficit target of 2.5% of GDP. A dividend received from the government’s shares in Macedonian Telekom later in the summer boosted revenue collection, and at the end of 2010 total budget revenues were 2.8% higher than in 2009. This allowed expenditures to increase by 2.4% and still keep the deficit within the target. Public debt increased from 32.1% in 2009 to 34.5% in 2010, a level still considered moderate, but one that could raise concerns if fiscal performance were to continue this pattern in the mid- to long term. The Central Bank kept the liquidity indicators for banks and the reserve requirement unchanged from 2009, but significantly reduced the Central Bank bills rate from 9% in December 2009 to 4% at the end of 2010. This relaxed monetary policy was reflected in a 7.1% growth in private-sector credit.

Although slightly improved from 2009, Macedonia’s external trade still struggled in 2010 due to the slow recovery from the economic crisis by its main trading partners, particularly EU members. Starting from a very low base, in 2010 exports grew by 22.7% and imports rose by 8.1%, leaving a trade deficit of 23.4% of GDP. At the same time, the current account balance significantly improved in the second half of 2010 and was estimated at 2.3% of GDP at the end of 2010. This was primarily due to a 19.1% higher inflow of private transfers, most of which came in the second half of 2010, despite poor foreign direct investment (FDI) of about $236.6 million by end-November 2010. Foreign currency reserves remained at about $2.3 billion, a level that comfortably covers 4 months of imports.

After the conclusion of its 3-year Stand-By Arrangement (SBA) with the IMF in August 2008, the Government of Macedonia decided not to request additional financial assistance from the IMF. In October 2010, the World Bank Board of Directors approved a new Country Partnership Strategy (CPS) with Macedonia for the period 2011-2014, which could potentially bring to the country assistance of about $200 million in funding for improving competitiveness, strengthening employability and social protection, and using more sustainable energy resources. Part of that assistance is a commitment of $30 million in direct budget support.

Macedonia became the first country eligible for the IMF’s Precautionary Credit Line in January 2011. This program gives Macedonia a line of credit worth 475 million euros (about $675 million) over 2 years. The credit is intended to be accessed only in case of need brought about by external shocks. The credit line was agreed to following extensive consultations with the IMF in October and December 2010.

Trade
Macedonia remains committed to pursuing membership in the European Union and NATO. It became a full World Trade Organization (WTO) member in April 2003. Following a 1997 cooperation agreement with the European Union (EU), Macedonia signed a Stabilization and Association Agreement with the EU in April 2001, giving Macedonia duty-free access to European markets. In December 2005, it moved a step forward, obtaining candidate country status for EU accession. Macedonia has had a foreign trade deficit since 1994, which reached a record high of $2.873 billion in 2008, or 30.2% of GDP. Total trade in 2010 (imports plus exports of goods and services) was $8.752 billion, and the trade deficit amounted to $2.149 billion, or 23.4% of GDP. A significant 56.2% of Macedonia's total trade was with EU 27 countries. By individual countries, Macedonia's major trading partners are Germany, Greece, Serbia, Bulgaria, Russia, and Italy. In 2010, total trade between Macedonia and the United States was $116.6 million. U.S. exports accounted for 1.9% of Macedonia's total imports. U.S. meat, mainly poultry, and electrical machinery and equipment have been particularly attractive to Macedonian importers. Principal Macedonian exports to the United States are tobacco, apparel, and iron and steel.

Macedonia has bilateral free trade agreements with Ukraine, Turkey, and the European Free Trade Association (EFTA--Switzerland, Norway, Iceland, and Liechtenstein). Bilateral agreements with Albania, Bosnia and Herzegovina, Croatia, Serbia, Montenegro, UN Mission in Kosovo (UNMIK), and Moldova were replaced by membership in the Central European Free Trade Agreement (CEFTA). Macedonia also has concluded an “Agreement for Promotion and Protection of Foreign Direct Investments” with: Albania, Austria, Bosnia and Herzegovina, Bulgaria, Belarus, Belgium, Luxembourg, Germany, Egypt, Iran, Italy, India, Spain, Serbia, Montenegro, People’s Republic of China, Republic of Korea, Malaysia, Poland, Romania, Russia, Slovenia, Turkey, Ukraine, Hungary, Finland, France, the Netherlands, Croatia, Czech Republic, Switzerland, and Sweden.

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