Bosnia's economy functional but hamstrung

By bne IntelliNews April 13, 2012

Andrew MacDowall in Belgrade -

April has seen an avalanche of articles on the Bosnian War and the Siege of Sarajevo, which started 20 years ago. Correspondents who were in the country during the conflict have dusted off old war tales, reminding us of the horrendous death toll and the atrocities committed, as well as their own experiences of the Holiday Inn bar and close shaves with snipers and mortar rounds.

As most reports have noted, the country is still divided between two "entities" - the largely Bosniak (Bosnian Muslim) and Croat Federation, and the Serb-dominated Republika Srpska, each of which have a great deal of autonomy.

But these days for the vast majority of Bosnians, day-to-day and indeed year-to-year life goes on much as it does elsewhere in Europe. The Bosnian economy, while horribly shackled by the structures left by the post-war settlement, it is essentially functional. And if - admittedly a sizeable if - the country can cut through the political arrangements that clog its economic arteries, some promising sectors in which the country has a competitive advantage could start to gain a little momentum.

Dismal data

Bosnia's macroeconomic figures make for depressing reading. While by global standards an upper-middle income economy, Bosnia is poor relative to most of the rest of Europe. Average net salaries are just over €400 a month, according to official figures, but staggeringly high unemployment, at around 40%, means that many households scrape by on considerably less.

In order to catch up with even the Central European EU member states, Bosnia would need an emerging-market pace of growth. It achieved this in the latter part of the last decade, with GDP expanding by 5%-plus for several years. But the economic crisis has hit hard, and after a recession in 2009, growth has been sluggish; a November report by the International Monetary Fund (IMF) estimated annual growth at 1.7% in 2011, falling to just 0.7% this year, noting that even this modest recovery was "at risk of being derailed".

In April, Moody's Investors Service downgraded Bosnia's credit rating from 'B2' to 'B3', dragging it deeper into junk status, and put it on review for another downgrade. The agency cited a deteriorating fiscal position, the possible effects on its debt-servicing position of "antagonistic political dynamics" and a poor growth outlook.

The country is caught in a squeeze between low levels of domestic demand and a difficult external situation, the Eurozone crisis having dampened exports as well as foreign direct investment.

The convertible mark's currency board with the euro (effectively a peg) gives Bosnia a degree of monetary stability, particularly useful for a country with low institutional capacity and little experience of independent monetary management. It also makes later entry into the Eurozone somewhat easier, though that is a distant prospect. However, the fixed exchange rate makes it impossible for the mark to devalue and make Bosnian exports more competitive. In any case, Bosnia has precious few effective export-oriented industries.

The internal business environment has been hamstrung by stagnant or falling real incomes and low consumer confidence, as well as a terribly weak business climate. And these challenges are due in no small part to the country's divisions. After the October 2010 general elections, it took 16 months for a government to be installed, leading to a lack of clear policy-making during a difficult time for the economy.

A sense of direction in economic policy is desperately needed. Reform is vital both to secure a potential new deal with the IMF to sustain the country's financing needs, and to get the domestic economy moving again. Red tape is endemic. Bosnia currently languishes at 125th in the world (out of 183) on the 2012 Doing Business rankings published by the IFC and World Bank. "Long-term issues include an inhospitable business climate," Milen Cuc, the IMF resident representative for Bosnia and Herzegovina, tells bne. "Regulations are onerous, and Bosnia is not doing very well in making itself well-placed for the investment it needs to take off. That needs to be addressed as a matter of urgency."

Private investors are also frustrated by the lack of pro-growth strategy from the government. Nicholas Penny, managing director at Banjalucka Pivara, a brewery in the Bosnian Serb capital of Pale that's majority-owned by London-based investment fund Altima, tells bne there's not much stimulus or a proactive approach to encourage job creation and local business growth. "There's a need for some coherent policies to develop key parts of the economy," he says.

Penny asserts that the authorities are not actively obstructive, and that investors who want to set up shop are able to. But buck-passing between the multiple layers of government and a lack of institutional capacity make the process "painful"; establishing a business can take four months. This is a particular challenge in the Bosnian Federation, which is divided into cantons, adding a third layer of administration below national and entity level. Indeed, of late the Bosnian Serb entity has advertised itself as the preferable investment destination in the country due to its relatively centralised decision-making.

Divided along ethnic lines

As well as institutional complexity, ethnic divisions also make the domestic market rather peculiar; Penny notes that Croats tend to favour goods imported from Croatia and likewise Serbs those from Serbia. In his industry, for example, the former often opt for Croatia's Ozujsko or Karlovacko beers, while the latter drink Serbian Lav or Jelen. Politicians, trading heavily on communal vote-banks within their own entities, see little interest in promoting nationwide industries.

Bosnia also suffers from other strategic disadvantages - it is mountainous, has few natural resources and has a small population. But the country is not without potential. As Cuc points out, Bosnia has at least secured reasonable macroeconomic stability. The government is displaying some fiscal restraint in its 2012 budget - despite caving into public pressure on war veterans' pensions - and the financial sector is sufficiently capitalised and is reducing the non-performing loan ratio from a peak of 12%.

Progress in the middle of the last decade shows that reform can be implemented. Bosnia's access to markets in the former Yugoslavia and beyond, relatively low overhead costs and signs of development in some sectors point to some opportunities for restoring economic momentum - given a degree of political will. "Energy and forestry are two areas in which Bosnia has competitive advantages," says Cuc. "But development will involve freeing them up to foreign investment. The public sector is not in a position to provide the resources needed for modernisation and expansion, so privatisation efforts are required."

Penny argues that Bosnia needs support from international bodies such as the World Bank and EU to build capacity in government, giving the administration the scope to streamline business regulation and target support at strategically important industries.

While some international observers seem to find it impossible to see Bosnia other than through the prism of war, for the vast majority of Bosnians, the most pressing issues are economic rather than ethnic. But their leaders still work through institutions and mores shaped by the conflict's aftermath. Not quite being an economic basket case is no longer enough - Bosnians of all stripes deserve better.

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