Serbia: Risk Assessment
Country Risk Rating
Business Climate Rating
- Stabilization and Association Agreement with the EU allowing 93% of Serbian products to enter without customs duties
- Ongoing EU accession process (18 out of 35 chapters have been opened, of which two have been closed)
- Public sector reform in coordination with the IMF and EU
- Natural resources (coal, bauxite, copper, zinc, gold) and food self-sufficiency
- Rising automotive industry
- Landlocked with poor road infrastructure
- Massive and inefficient public sector
- Slow judicial proceedings, customs harassment, corruption, lack of transparency in the government
- Large informal sector: 24% of GDP and 20% of employment
- Difficult relations with several neighboring countries
- Brain drain (youth unemployment: 27% in Q3 2020)
A comparatively forgiving outbreak sets the stage for a vigorous rebound
The contraction of activity in 2020 was significant, but modest in comparison to its neighbors, due to the relatively smaller role of tourism in the economy (7% of GDP). The response to the pandemic was swift, with a general lockdown being imposed one week after the first confirmed case (which lasted from mid-March to late April), and lighter restrictions in August and November. Although the strong crisis on the European market led to an 8% contraction of exports (51% of GDP), domestic consumption (the main driver of growth at 65% of GDP) will provide some resilience, contracting by only 2%. The contraction in remittance flows (8% of GDP) will be subtle as well, supported by the decent performances of the German and Austrian economies. Similarly, private investment should contract modestly by 3% in 2020, but should resume at its buoyant pace in 2021, expanding by 12%. Domestic demand will therefore recover faster than in the EU, making up for the small negative contribution of net exports. Serbia’s rise as a regional manufacturing hub was only slightly set back in 2020. As the European automotive supply chain reorganizes, FDI will keep flowing thanks to the country’s comparative advantage in low-margin components. Furthermore, Chinese credit support for infrastructure development will continue. Due to fiscal pressures, business-friendly reforms such as SOE privatizations are likely to be streamlined. Thus, Serbia will be among the countries that will end 2021 with output above late-2019 levels.
Despite the pandemic’s fiscal toll, public finances remain sustainable
The economic response to the pandemic amounted to roughly 8% of GDP in 2020. Liquidity aid to businesses came mainly through wage subsidies, tax deferrals, a loan guarantee fund (5% of GDP) and a 3-month moratorium on tax debt. This combined with higher healthcare spending and emergency social transfers pushed the fiscal deficit past the 8% mark. Therefore, public debt is set to approach the 60% threshold. Nonetheless, consolidation is expected to resume once the virus-induced recession fades. Public investment is set to rebound by 33% in 2021 after contracting by 24% in 2020, and tighter wage management should keep the deficit under 3%, preventing debt from spiraling out of control. Furthermore, as the maturity structure of liabilities is geared towards the long-term, financing needs remain manageable. Downside risks include the materialization of contingent liabilities stemming from stressed SOEs, notably Air Serbia for which a EUR 250 million recapitalization plan is already in the works.
A good kind of current account deficit
By mutually offsetting contractions of 8% in imports and exports, the pandemic will have a broadly neutral effect on the current account. Serbia will therefore continue to run deficits for the near future, mainly driven by a structural deficit in the goods balance (15% of GDP). Exports are dominated by motors, pumps, automobiles, tires, refrigerators, agricultural products, metals and manufactured products generally with medium or low added value. The net revenue outflow from foreign investors’ dividends and interest repatriations (4% of GDP) is more than offset by expatriated workers’ remittances (6%) and the services surplus (3%) thanks to enduring road haulage. While there is a non-trivial amount of hot portfolio inflows subject to capital flight (3.5% of GDP), external financing risks are mitigated by a reliable and substantial base of FDI (4.7%). The stocks of external and foreign currency debt are high (60% and 77% of GDP, respectively), but a majority of it is multilateral or bilateral, cheap and at a fixed interest rate; and its private component is heavy on intra-company lending. The Central Bank of Serbia holds a large stock of reserves (over 5 months of imports) and has been successful in stabilizing the exchange rate, which is important in a heavily euroized economy (65% of deposits are in euro).
A strong (but questioned) government cultivates diplomatic links on multiple fronts
The incumbent Progressive Party (SNS), led by President Aleksandar Vucic, ratified its electoral supremacy in June with a landslide victory (61% the vote). With two-thirds of parliamentary seats (92% counting allied parties), the SNS will be unconstrained in pursuing its agenda. Nonetheless, the weak turnout (48%) and election boycott organized by the opposition suggest that the results overstate the government’s perceived legitimacy/integrity. The EU has questioned the electoral integrity and rule of law (judiciary and press freedom), an issue that could hamper Serbia’s thus far promising membership bid. Other sore spots are the non-recognition of Kosovo, a former province that broke off in 2008, and tense relations with Montenegro. Serbia is not in NATO and does not apply sanctions on Russia, making it its closest ally in the Balkans.