RaboResearch - Economic Research

Bulgaria: growth recovering, but challenges ahead

Country Report


Flag Bulgaria

After a mild recovery of the fiscal balance in 2015, the challenge for Bulgaria lies in continuation of prudent policy to enable stable future growth and ensure stable levels of public debt.

This study was written by Niels Kalksma during his temporary assignment at Rabobank Economic Research.

Strengths (+) and weaknesses (-)

(+) Track record of fiscal prudence

Modest public surpluses/deficits in the past two decades have resulted in a low level of public debt, which allows the authorities to adopt an expansionary fiscal stance when needed. However recent fiscal slippage, if not addressed, could weaken the fiscal position.

(+) Attractive market for investment among the European Emerging Markets

Due to policies that attract FDI, free trade within the European Union and low labour costs, Bulgaria is an attractive market for investors, particularly in labour intensive sectors.

(-) Persistent corruption and cronyism

Persistent corruption and cronyism hurt the business environment. Moreover, there is a widespread discontent with governance issues and the close ties between politicians and business oligarchs.

(-) Continuous political instability

The Bulgarian political elite’s commitment to the common good is perceived to be weak, which tends to affect policy acceptance by the public. Government stability has been very weak in recent years amid recurrent mass protests.

Key developments

1. Reforms moving at a very slow pace

Economic growth in Bulgaria is mainly restrained by high levels of corruption and organised crime. No large gains have been made recently in institutional quality and the government lacks political power and/or will to enable substantial structural reforms. Bulgaria especially underperforms compared to its peer in the region Romania, which is showing considerably more effort in the fight against corruption according to Transparency International and the EC. Therefore, if Bulgaria does not show commitment in this field, foreign investors may turn to regional alternatives. Although Bulgaria has amended its constitution in December 2015 to improve the judicial system, this does not yet guarantee independence of the courts. The amendments still don’t meet the EC recommendations. This has already resulted in the recent resignation of the Justice Minister. The slow improvements in governance, combined with the stress on the Schengen system due to terrorism and the refugee crisis, makes Schengen participation for Bulgaria highly unlikely in the coming period.

2. Private consumption and investment drives growth

Bulgaria’s economy grew by 3% in 2015 (2014: 1.5%). It is expected that this will slow down in 2016-2017 due to lower fixed investments and decreasing net exports. Growth will be mostly driven by household spending, which benefits from higher wages and rising consumer confidence. The contribution of government spending to GDP growth is likely to decrease due to lower government spending.  Growth remains well below the 6% to 7% levels from before the economic crisis hit in 2009.

Figure 1: Growth slowly increasing
Figure 1: Growth slowly increasingSource: EIU
Figure 2: Fiscal balance recovers, remains weak
Figure 2: Fiscal balance recovers, remains weakSource: EIU

3. Fiscal balance to improve from 2015 onwards

Since the large bank bailout of the past years seems to be completed, the Bulgarian government will be in a position to reduce the fiscal deficit in the coming years. The fiscal deficit was widened in 2014 and 2015 because of unforeseen fiscal expenditures as a result of the failure of one of the largest credit institutions of Bulgaria. Even though the maximum fiscal deficit of 3.0% mandated by the EU was breached in 2014, this is regarded as a one-off event to save two troubled banks. Public debt has remained at a reasonably low level of 29% GDP in 2015, but is still much higher than the 15% to 18% of 2011-2013. It is expected that the GERB government will continue the cautious fiscal policies that have worked well under previous administrations.

Policymakers have used the advice from the IMF and EC to strengthen the fiscal balance. Bulgaria plans to cut the fiscal deficit from 2.9% GDP in 2015 to 2% of GDP in 2016, and reducing it further to 0.5% of GDP by 2019, while protecting the currency peg to the Euro. The IMF has warned, however, that revenue targets are ambitious and Bulgaria will have to maintain tight control on spending in 2016 and should be prepared to cut expenditures below the budgeted level in case revenues are lower than expected.

Factsheet of Bulgaria
Factsheet of BulgariaSource: EIU, CIA World Factbook, UN, World Economic Forum, Transparency International, Reporters Without Borders, World Bank.

Background information

Bulgaria joined the European Union in 2007 and is its poorest member, with a GDP per capita just below half the EU average. Moreover, about half of the population is at risk of poverty or social exclusion. EU membership gave Bulgaria access to European funds for development. Yet, due to government capacity constraints the absorption rate of these funds is one of the lowest in the EU (23rd out of 28 member states), though improvement has been booked in the past years. The Bulgarian population has fallen markedly in the past two decades, decreasing by 22% to 7.2m over 1990-2014, on the back of a low fertility rate, a stagnant life expectancy and one of the highest emigration rates in the world.

The Bulgarian economy is fairly open. Bulgaria is a net exporter of services on the back of its tourism and transportation sectors. The banking sector is dominated by subsidiaries of EU companies, which account for around 73% of total banking assets. Around one fifth of assets are owned by Greek banks. The sector is well capitalised and liquid, but provisions related to a large share of non- performing loans - a legacy of the pre-2008/2009 credit boom - hurt margins.

Bulgaria’s communist regime collapsed in 1989. The country became a parliamentary republic in 1991. The government holds executive power, while the directly elected president fulfils a non-executive function. Particularly in recent years, government stability has been weak, as Bulgaria’s economy struggled to recover from its deep recession in 2009. A weak rule of law, persistent corruption and organised crime are major issues that have impeded approval for the aspired membership to the Schengen area. In 1997, Bulgaria introduced a currency board and pegged the lev to the euro. The Bulgarian government has stated that ERM II membership will be postponed until after the Eurozone has stabilised.

Economic indicators of Bulgaria
Economic indicators of BulgariaSource: EIU
Other authors
Rabobank KEO

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