MACEDONIA: SOLID 2007 ECONOMIC PERFORMANCE

UNCLAS SECTION 01 OF 02 SKOPJE 000256 SIPDIS SENSITIVE SIPDIS DEPT PLS PASS TO USAID TREASURY FOR W.LINDQUIST E.O. 12958: N/A TAGS: ECON EFIN PREL EAID MK SUBJECT: MACEDONIA: SOLID 2007 ECONOMIC PERFORMANCE REF: A. SKOPJE 169 ¶B. SKOPJE 139 ¶C. 07 SKOPJE 464 Summary -------------- ¶1. (SBU) In 2007, Macedonia's economy performed solidly, with GDP growth rising to 5.1 percent, relatively low inflation, a balanced budget, a 40 percent increase in exports, and a low current account deficit. In the last few months of 2007, however, analysts began noting a worrying trend of both higher inflation and a rising current account deficit. Foreign direct investment remained relatively low, though investors showed increased interest in "green field" investments. Official unemployment declined slightly, but was still very high at almost 35 percent. End summary. GDP Growth Higher -------------- ¶2. (U) Macedonia achieved GDP growth of 5.1 percent in 2007, the highest annual economic growth since independence and an increase from 4.0 percent in 2006. The GOM projects 2008 GDP growth of six percent, while the IMF projects a more conservative five percent growth rate. Industrial Growth Modest -------------- ¶3. (U) Industrial output in 2007 grew by a lower than expected 3.7 percent. Rising oil prices may have hampered production in some sectors. Production of energy in 2007 dropped by 6.9 percent and non-durable consumer goods production fell by 2.0 percent. However, capital goods production rose by 19.7 percent, intermediate goods by 12.9 percent, and durable consumer goods by 8.8 percent, offsetting declines in other areas. Inflation Higher Than Expected -------------- ¶4. (U) Year-on-year inflation, measured by the consumer price index, hit 6.1 percent in 2007, double the GOM's three percent target. During the year, the inflation rate climbed from less than two percent during the first six months of the year, to about four percent from September to November, ending the year at 6.1 percent. This trend of rising inflation accelerated during the first quarter of 2008 (septel). In 2007, food prices rose by 12.8 percent, while rising world oil and energy prices also contributed to higher inflation, increasing production costs in all industries. Unemployment Fell Slightly, Wages Higher -------------- ¶5. (U) The stubbornly high official unemployment rate decreased only slightly in 2007, despite higher GDP growth. The unemployment rate decreased 1.2 percent to 34.8 percent at the end of the year. Real wages grew by 5.5 percent in 2007. In September, the GOM raised public administration wages by 10 percent, with a promise to again raise wages by ten percent in 2008 and by 14 percent in 2009. The GOM also raised pensions by 15 percent. Tax Collection, And Government Spending, Increased -------------- -------------- ¶6. (U) Collection of tax revenues during 2007 grew by 16.4 percent, primarily due to improved tax administration and greater enforcement of tax collection. The unexpectedly large increase in revenues, coupled with the GOM's inability to spend money efficiently (ref A), led to a budget surplus of over three percent of GDP by November. The GOM went on a spending spree in December, but still ended the year with a surplus of 0.3 percent of GDP, above its IMF supported target of one percent of GDP. The GOM is projecting a budget deficit of 1.5 percent of GDP in 2008. Monetary Policy Supported Growth -------------- ¶7. (U) The Central Bank supported higher economic growth with a looser monetary policy. The Central Bank lowered interest rates on its bills to below 5 percent, and private banks followed the Central Bank's signal. The weighted average lending rate dropped to 9.9 percent from 10.7 at the beginning of the year. The average money market rate dropped to 3.1 percent from 4.9 percent at the end of ¶2006. As a result, credit to the private sector in 2007 was 29.7 percent higher than in 2006. However, as a share of GDP private credit is still low, even by regional standards. Reserves Up, Exchange Rate Stable -------------- ¶8. (U) The Central Bank accumulated net international reserves of $2.2 billion by the end of 2007, up 18.6 percent from 2006. The SKOPJE 00000256 002 OF 002 reserves are sufficient to cover about four months of imports, the target agreed to with the IMF. The Central Bank's ability to maintain the denar's fixed exchange to the euro did not face any serious pressure in 2007. Trade Deficit High, Private Transfers Compensate -------------- --- ¶9. (U) Macedonia's exports grew by a significant 39.8 percent, led by increases in exports of metals. However, imports rose by a comparable 38.9 percent. As a result, the trade deficit remained high, at 23.3 percent of GDP, reaching $1.9 billion. The financial effect of the trade deficit was largely offset by $1.4 billion in private transfers of capital from abroad. Therefore, the current account deficit was only $238 million, or three percent of GDP. However, over the year the current account trend was negative, with a surplus in the first half of the year sliding into a deficit by November. Government Debt lower -------------- ¶10. (U) During the year, the GOM reduced its debt level, lowering the country's external debt to 34.3 percent of GDP from 38.9 percent at the beginning of the year. Macedonia pre-paid about $300 million of debt on relatively unfavorable terms (ref C),including debt to the IMF, the World Bank, the European Investment Bank and the Paris Club. Total public debt, both external and domestic, fell from 40.2 percent of GDP to 35.3 percent by the end of 2007. The GOM intends to further reduce external and total public debt. Foreign Investment Still Low -------------- ¶11. (U) While international investors are increasingly exploring opportunities in Macedonia, actual foreign direct investment (FDI) remains low. In 2007, FDI was $320 million, still the lowest in the region. There were some bright spots, with the US automobile parts producer Johnson Controls completing a factory in the free trade zone in 2007 (ref B),and the British multinational company, Johnson Matthey, announcing it would break ground on a catalytic converter factory in 2008. Other significant investments in 2007 were seen in dairy production, insurance, banking, and telecommunication services. Comment -------------- ¶12. (SBU) Based on results in 2007, Macedonia's economy appears to face two possible paths. If inflation and the current account deficit remain under control, while private credit and FDI grow, then the economy should continue to support steady growth and higher real wages. However, if the inflation rate continues to accelerate unchecked and the current account deficit widens, then Macedonia may face slower real growth in GDP and wages. End comment. ¶13. (SBU) Macedonia's Macroeconomic Indicators -------------- - 2006 2007 2008 proj. -------------- -------------- Real GDP growth rate (pct) 4.0 5.1 6.0 Industrial output (pct) 3.6 3.7 6.1 Inflation (CPI pct) 2.9 6.1 3.5 Real average wage (pct) 4.0 5.5 5.0 Budget balance (pct of GDP) -0.2 0.3 -1.5 Exports growth rate (pct) 17.6 39.8 9.0 Imports growth rate (pct) 16.6 38.9 14.0 Trade balance (pct of GDP) -21.9 -23.3 -26.2 Current account (pct of GDP) -0.9 -3.0 -5.0 Forex reserves ($ million) 1,871.0 2,219.2 2,547.7 Ext. debt (pct of GDP) 38.9 34.3 37.2 FDI ($ million) 424.0 320.7 403.0 Credit to private sector (pct) 30.5 29.7 37.2 -------------- -------------- Source: GOM Statistical Office MILOVANOVIC