Country Report Macedonia
Macedonia's economic and political situation looks challenging, as the local economy contracted last year and the passage of this year's budget resulted in a major political crisis. EU membership re-mains a distant prospect, as Bulgaria joined Greece in vetoing the opening of accession talks.
Strengths and weaknesses
- Moderate public debt levels
Macedonia’s public finances reflect a prudent approach to fiscal management amid widespread awareness of the restrictions imposed by the peg of the local currency to the euro.
- Strong focus on attracting foreign direct investment
Attracting foreign direct investments is a main policy objective. Reflecting recent policy efforts, Macedonia today ranks 23rd on the World Bank’s Ease of Doing Business index.
- Low income levels
Macedonia is one of the poorest countries in Europe in terms of GDP per capita, which reduces the local population’s financial resilience to economic shocks.
- Weak administrative structures
The combination of widespread corruption and a low level of administrative sophistication limits the effectiveness of economic policies.
1. Economy falls back into recession in 2012
After having expanded by a solid 3% in 2011, Macedonia's economy contracted by 0.7% last year. Decreasing domestic demand and exports both contributed to the decline, while gross fixed investments continued to expand at solid double-digit rates. Macedonia's disappointing export performance mainly reflected economic difficulties in neighboring countries and the euro area. Meanwhile, domestic demand remains depressed by very high unemployment (31% in 2012), fiscal consolidation measures, tight credit conditions and weakening remittances inflows from Macedonians working abroad. Moreover, large payment arrears of the public sector (2% of GDP) negatively affected companies' liquidity positions. This year, Macedonia's economy is expected to expand by a limited 0.6%, as sizeable investments into the local automotive sector should boost employment and thereby contribute to improving private consumption. Next year's growth is expected to come in at 1.9%. The risks to the outlook are, however, tilted to the downside, as very low domestic income levels expose the economy to a renewed fall in demand from the euro area.
2. Political instability amid lingering ethnic tensions
Macedonian politics remain characterized by considerable instability, even as the current multi-ethnic coalition government was re-elected in 2011. Prime minister Nikola Gruevski's conservative nationalist cabinet, comprising his own VMRO-DPMNE party and the ethnic Albanian DUI party, controls a sizeable parliamentary majority, but ethnically-related issues repeatedly threatened to scuttle the coalition. Moreover, relations with the opposition remain very tense, following the removal of the opposition factions from the final vote on the 2013 budget amid government complaints about obstructionism. The fact that the opposition's consequent renewed parliamentary boycott could only be resolved with EU assistance underlines the apparent serious deficiencies of Macedonia's political system. Meanwhile, Macedonia's social climate is characterized by still unfinished reconciliation between ethnic Macedonians and Albanians in the aftermath of the 2001 civil war. Matters of ethnicity, ranging from the renaming of schools to the appointment of ministers, at times threaten to undermine political and social stability.
3. Deteriorating external relations negatively affect EU and NATO accession prospects
Macedonia's outlook for EU and NATO accession deteriorated last year, as tensions with neighboring Bulgaria and Greece increased, leading to both countries' veto regarding the opening of accession talks. In spite of UN involvement, Macedonia's 'name dispute' with Greece regarding its constitutional name remains unsolved, as Greece argues that the name 'Macedonia' implies a claim on the Greek province with the same name. Meanwhile, bilateral relations with Bulgaria worsened amid claims that Macedonia was appropriating its neighbor's history. While increased inter-governmental contacts, as well as the joint construction of cross-border infrastructure projects should soften Bulgaria's stance, Greek opposition against Macedonia's integration into EU and NATO structures will likely persist until the 'name dispute' is resolved.
4. Current account deficit on an upward trend
Macedonia's current account deficit widened from 2.7% of GDP in 2011 to 3.7% of GDP last year, as exports and workers' remittances declined amid a renewed worsening of the economic situation in the euro area. Given a gradual recovery of domestic demand, the current account deficit is expected to increase to about 5.5% of GDP in 2014. Since foreign direct investment flows are expected to cover about 60% of these deficits and portfolio inflows remain negligible, debt financing will be needed in the coming years. Given that Macedonia's political instability may deter foreign investors and declining liquidity on international capital markets could render market access difficult, multilateral funding at concessional rates remains imperative.
Both in terms of economic size and income level per capita, Macedonia ranks among the smallest and poorest economies of former Yugoslavia. In 2012, nominal GDP amounted to about USD 10bn, while GDP per capita at PPP came in at USD 10,235, which was equivalent to about a-third of Slovenian GDP per capita at PPP. Macedonia's economic development faced major obstacles during the last 20 years, including a civil war and a Greek economic embargo amid a name dispute over the country's constitutional name. Serious infrastructure and administrative deficiencies and the dependency on access to the Greek port of Thessaloniki also constitute obstacles to economic growth. Still, thanks to low wages and major improvements of the business climate, Macedonia managed to attract sizeable amounts of foreign direct investment in recent years. Since these investments are mainly focusing on export opportunities, Macedonia's economic integration with the euro area has increased and business cycle synchronicity is strong. Last year, the country mainly exported iron and steel products, as well as clothing, while the export of car parts should start this year. Macedonia remains dependent on external financing, as large inflows of remittances from Macedonians working abroad cannot completely finance a sizeable trade balance deficit. In order to support export competitiveness, the local currency, the Macedonian denar, is pegged to the euro, which abolishes local monetary policy autonomy and forces the government to run prudent fiscal policies. Given widespread support for the monetary regime, fiscal policies have generally been conservative, which is reflected in limited budget deficits and a relatively low public debt level of 28% of GDP in 2012. However, following the 2001 civil war, reconciliation between ethnic Albanians and Macedonians is still unfinished, while recurrent parliamentary boycotts by the opposition reflect major weaknesses of the democratic institutions.