2012-11-15 20:05:53 - Serbia, Montenegro and Kosovo Business Forecast Report Q1 2013 - a new country guide report on companiesandmarkets.com

As we expected, the new Serbian government has embarked on a fiscal consolidation drive and is seeking to resume the IMF programme abandoned in February 2012. However, we expect the government to miss its fiscal deficit target of 3.5% of GDP in 2013.

Having gained EU candidate status on March 1 2012, Serbia has now embarked on the long process of EU accession. While we expect accession talks to provide an important policy anchor for the country, we do not expect Serbia to join the bloc before 2020.

Major Forecast Changes

We have revised our expectation for real GDP growth in 2012 from -0.5% to -1.1% on the back of extreme summer weather that hit agricultural output. We continue to see a modest

 

 

recovery in 2013, forecasting economic growth of 1.9%.

We expect the National Bank of Serbia to begin its cutting cycle in mid-2013 after inflation peaks in double-digits at the beginning of the year.

Key Risks To Outlook

Although the new government has implemented much-needed austerity measures, Serbia remains on a precarious fiscal trajectory, and we do not rule out the need for further fiscal consolidation.

Our sunnier view on Serbia´s long-term prospects is grounded in EU accession providing a policy anchor for the Serbian government.

This convergence story requires Serbia to gradually normalise its relationship with Kosovo. However, there is significant tension between the two, and we highlight the potential for unrest in the short term.

As accession talks get under way, Montenegro will need to adhere to the EU´s acquis communautaire accumulated legislation, which will require the incorporation and implementation of all EU norms and regulations into the country´s legal system. Given the still substantial gap that needs to be bridged between the Montenegrin and EU legal systems, we expect that accession talks will last at least until the latter half of the decade.

Deleveraging is going to continue dragging on economic growth into 2013. The private sector accumulated large amounts of debt in the run-up to the financial crisis, requiring it to deleverage over the last few years. Government spending, coupled with robust tourism inflows, supported growth as this process unfolded. However, we expect the government to significantly curtail spending as it struggles with rising debt levels, leaving only tourism and other exports to drive growth as the eurozone returns to modest growth in 2013.

Major Forecast Changes

We forecast Montenegrin real GDP growth of 0.5% in 2012 and 2.0% in 2013 as net exports drive a moderate pickup in economic activity.

However, domestic demand will remain characterised by deleveraging.

Key Risks To Outlook

As volatility in the international financial bond markets is unlikely to ease over the course of 2013, we highlight the risk that Montenegro may have to pay a substantial premium to place its bonds. It may therefore quickly slip into a debt spiral that would lock it out from global financial markets, preventing it from borrowing to finance the current account deficit, even in the short run.

Despite not being part of the eurozone, Montenegro has adopted the euro as its currency since it went into circulation in 2002. As a consequence, the country is highly exposed to a potential disorderly breakdown of the eurozone. Although this is not our core scenario, we highlight that the dissolution of the currency bloc would leave Montenegro vulnerable to sharp capital outflows and soaring imported inflation, or the Central Bank of Montenegro could be forced to artificially fix its new exchange rate to a future core European currency.

There remain important unresolved issues between Serbia and Kosovo despite Pristina gaining ´full independence´ on September 10 2012. Relations will remain tense, and we expect only slow progress towards normalisation over the coming years. However, a spiral towards conflict is unlikely.

We forecast Kosovan real GDP growth to pick up in 2013 as the eurozone returns to economic growth. While the Kosovan economy faces significant challenges, there are tentative signs it is embarking on the EU accession process, which could boost long-term growth.

Major Forecast Changes

We maintain our forecast for real GDP growth of 2.5% in 2012 and 4.2% in 2013. Kosovo is relatively well insulated from the eurozone crisis, but on account of its ties to the stronger core, it will benefit as these economies recover in 2013.

Key Risks To Outlook

We caution that failure to rein in spending or secure short-term financing from international lenders would result in a fiscal crisis for Kosovo, with substantial repercussions for economic and political stability in the region. Social unrest could lead to a fall of Prime Minister Hashim Thaçi´s government, drawing the country to yet another early election. A strong international military and diplomatic presence would prevent an escalation of violence, but the country´s bid towards progressive political normalisation would face another blow.

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