Identifier
Created
Classification
Origin
10SARAJEVO171
2010-02-22 23:17:00
CONFIDENTIAL
Embassy Sarajevo
Cable title:  

BOSNIA: WORLD BANK DEADLINE LOOMS - POTENTIAL

Tags:  EFIN ECON PGOV SOCI IMF IBRD BK 
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VZCZCXRO0219
OO RUEHDBU RUEHFL RUEHKW RUEHLA RUEHNP RUEHROV RUEHSL RUEHSR
DE RUEHVJ #0171/01 0532317
ZNY CCCCC ZZH
O 222317Z FEB 10
FM AMEMBASSY SARAJEVO
TO RUEHC/SECSTATE WASHDC IMMEDIATE 1426
INFO RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUEHZL/EUROPEAN POLITICAL COLLECTIVE
C O N F I D E N T I A L SECTION 01 OF 03 SARAJEVO 000171 

SIPDIS

STATE FOR EUR/FO, EUR/SCE, AND EEB/IFD
TREASURY FOR OASIA - JEFF BAKER AND PETER MAIER

E.O. 12958: DECL: 02/22/2020
TAGS: EFIN ECON PGOV SOCI IMF IBRD BK
SUBJECT: BOSNIA: WORLD BANK DEADLINE LOOMS - POTENTIAL
UPHEAVAL AHEAD

REF: A. SARAJEVO 82

B. 09 SARAJEVO 1419

C. 09 SARAJEVO 1299

Classified By: Econ Counselor Eric Luftman for reasons 1.4 (b) and (d)

Summary
-------

C O N F I D E N T I A L SECTION 01 OF 03 SARAJEVO 000171

SIPDIS

STATE FOR EUR/FO, EUR/SCE, AND EEB/IFD
TREASURY FOR OASIA - JEFF BAKER AND PETER MAIER

E.O. 12958: DECL: 02/22/2020
TAGS: EFIN ECON PGOV SOCI IMF IBRD BK
SUBJECT: BOSNIA: WORLD BANK DEADLINE LOOMS - POTENTIAL
UPHEAVAL AHEAD

REF: A. SARAJEVO 82

B. 09 SARAJEVO 1419

C. 09 SARAJEVO 1299

Classified By: Econ Counselor Eric Luftman for reasons 1.4 (b) and (d)

Summary
--------------


1. (SBU) Federation parliamentarians face a February 26
deadline to fix the entity's unsustainable system of social
benefits, or risk grave financial and political consequences.
At stake are a $111 million World Bank budget support loan,
an IMF disbursement worth $135 million, ten more IMF
disbursements over the next three years, and a 100 million
euro EU budget support loan. These losses will translate
into cuts of nearly 20 percent across the board in the
Federation's 2010 budget, affecting wages, government
operations, investments, pensions, and social benefits. The
Republika Srpska, though it has met all conditions to date,
will share the pain of the Federation's failure, as
disbursement of the assistance requires compliance of both
entities. Moreover, this will give RS politicians ample
reason to push for greater autonomy of the entities. The
Embassy and others in the international community have
pressed leaders of Federation ruling parties to pass the
necessary reforms. Though these leaders seem to be getting
the message, their party members in Parliament worry that
voting for the reforms will incite veterans whose benefits
are most threatened. It remains unclear whether the
legislators will do the right thing. End summary.

How Did Bosnia Get into This Hole?
--------------


2. (SBU) For five years prior to the global financial crisis,
when the Bosnian economy was growing at 5-6 percent per year,
the entities -- particularly the Federation -- passed a
series of overly-generous, poorly-structured, and unfunded
social benefits and pension programs, largely to win votes.
Extending to both civilian and veterans programs, the result

has been a benefits system that is one of the most expensive
in Europe. Comparing 25 countries in Central and Eastern
Europe and Eurasia, the World Bank has shown that Bosnia and
Herzegovina's spending on social assistance, at four percent
of its GDP is second only to Croatia's system in cost.


3. (SBU) Yet for all the expense, Bosnia's system ranks as
the most inequitable among the 25 countries of the region.
Only 18 percent of benefits in the Bosnian system reach the
poorest fifth of the population, less than what the
wealthiest receive. Among veterans, the disparity is even
more stark: 27 percent of veteran-related benefits go to the
top fifth of veterans, while less than 15 percent go to the
bottom fifth.


4. (SBU) The Republika Srpska pursued a similar path of
excessive public expenditure but was better able to afford
such programs thanks to the trust fund created with the sale
of RS Telekom and other state-owned companies. Nevertheless,
the RS has eaten through most of the privatization revenues
at an alarming rate, and by the spring of 2009, both it and
the Federation faced unsustainable budget deficits that led
them jointly to apply to the IMF for help.

IMF to the Rescue
--------------


5. (SBU) Bosnia signed a Stand-By Arrangement with the IMF
worth $1.6 billion in the summer of 2009, to be paid out over
three years in twelve quarterly tranches. The money would be
divided between the Federation and RS at a 60/40 ratio. The
first tranche, worth about $275 million, was disbursed in
September 2009 upon completion of a number of conditions in
both entities, including rebalancing of the 2009 entity and
state budgets, and adoption of reforms of state wages.

The World Bank Plays Bad Cop
--------------


6. (SBU) Generous though it was, the IMF program wasn't
sufficient to plug the entities' anticipated 2010 budget
deficits. The Bosnian government therefore negotiated a
parallel agreement with the World Bank for a "development
policy loan," a budget-support program of $100 million (later
renegotiated to $111 million) to be fully disbursed in 2010.
In return, the Bank set conditions for reform of the social
benefits system that went beyond those set by the IMF for

SARAJEVO 00000171 002.2 OF 003


disbursement of its second tranche, and got more to the root
of the problem.


7. (SBU) Seventy percent of the development policy loan is on
virtually interest-free "IDA" terms, which will expire on
June 2011. The World Bank announced in January that if the
Federation did not complete the final conditions for the loan
by February 26 -- thirty days before the next meeting of the
World Bank board -- it would cancel the loan and reprogram
the money.

What Does the Reform Package Require?
--------------


8. (SBU) World Bank analysts of Bosnia's entitlements system
observe beneficiaries double- and triple-dipping into social
programs at the entity, cantonal, and municipal levels, or in
some cases drawing from both Bosnian and Croat programs. The
main goal of the reforms is introduction of a means-testing
mechanism, to be implemented in 2011, and starting with an
audit of beneficiaries to clean the records. These programs
would exempt anyone with more than a 60 percent disability,
and would improve coverage of the poorest citizens,
regardless of disability level.

Federation Parliament to PM: Talk to the Vets
--------------


9. (SBU) The Federation government adopted all of the
required reform legislation and presented it to the House of
Representatives for approval in January. But with the fresh
memory of veterans' organizations storming the floor of the
legislature in November, the legislators refused to act on
the package, telling the government to talk to the vets.
Prime Minister Mustafa Mujezinovic negotiated with fourteen
veterans' associations on February 12-13. Though he claimed
to be making headway, the talks ultimately failed. Veterans
remind their politicians that the benefits were promised to
them, and the parliamentarians remain unwilling to reopen the
issue. Meanwhile, other groups are joining the veterans'
ranks. The alliance of BiH trade unions has announced that
2500 workers will demonstrate in front of the Federation
Parliament building on February 23, in protest against an
IMF-driven law that cut state employees' wages by ten
percent.

Giving Dodik the Case for Entity Autonomy
--------------


10. (SBU) The prospect of losing the IMF and World Bank money
particularly rankles the Republika Srpska, which rebalanced
its 2010 budget and enacted all the necessary wage and social
benefit reforms by December 31. RS officials have questioned
why their access to these funds must be shackled to the
Federation's failure to straighten out its own finances. In
Washington in early February, BiH Prime Minister Nikola
Spiric -- an SNSD party ally of RS Prime Minister Miroslav
Dodik -- asked the World Bank and IMF to disburse to the RS
and withhold from the Federation. Holding to the letter of
their agreements with Bosnia, both the IMF and World Bank
turned Spiric down.

What Will Happen If the Package Fails?
--------------


11. (SBU) Completing the necessary reforms will unlock nearly
KM one billion in budget support funds for Bosnia, or about
$700 million, in 2010, with a similar amount over the next
two years through the later tranches of the IMF program.
Divided 60/40, that would be $420 million for the Federation
and $280 million for the RS. Federation Finance Minister
Vjekoslav Bevanda has said that loss of these programs will
mean a $360 million shortfall in the 2010 Federation budget,
necessitating an 18.7 percent cut in programs across the
board. The alternatives for raising revenues are not
attractive. Commercial borrowing would involve much higher
rates of interest, and dangerous levels of debt. The
Federation has many state enterprises available for
privatization, but unloading them under the current
circumstances would be a fire sale.


12. (SBU) Unlike the World Bank, the IMF has not set an
explicit deadline for disbursement of the second tranche. It
is possible that Bosnia could lose the World Bank loan, but
at some later date meet the conditions needed for
disbursement of the IMF money. This would still, however,
require deep budget cuts and renegotiation with the IMF on
tougher terms. In any scenario other than completion of the

SARAJEVO 00000171 003 OF 003


reforms, confidence of commercial banks and private investors
in Bosnia will take a nosedive, and tensions between the two
entities will build.

Making a Last Ditch Effort
--------------


13. (SBU) Within the past week, the IMF and World Bank have
raised the volume on the issue, mobilizing the international
community. At their urging, the ambassadors of the Peace
Implementation Council issued a public letter on February 22
calling on the Federation government an legislature to pass
the reforms to try to give he local politicans some needed
political cover.


14. (SBU) The Ambassador meanwhile met with SDA party leader
Sulejman Tihic on February 19 to impess on him the danger to
the country if the legislation does not pass. Tihic at first
said it could not be done without cooperation from rival
Haris Silajdzic's SBiH party. When pressed, Tihic said that
SDA would be "part of the solution," and would support the
legislation despite risks. Later the same day, SBiH leader
Silajdzic expressed similar distrust of his rival, but
ultimately acknowledged that the country was on the brink of
collapse. The two are meeting with Croat party leaders
Dragan Covic and Bozo Ljubic on February 23, along with the
World Bank and IMF resident representatives and High
Representative Valentin Inzko to try to hammer out an
agreement. (Croat parties seems fine with voting for the
reforms since their constituencies stand to lose less.) They
then plan to convey that agreement to Parliament the
following day, in hope of passage of the reforms.

Comment
--------------


15. (C) Passing the legislation to reform social benefits is
politically difficult for Bosniak politicians (particularly
SDA and SBiH) -- some have called it political suicide -- but
they set themselves up for this crisis. As a manifestation
of the lack of political courage exhibited so far, Federation
PM Mujezinovic even called the HiRep privately to ask him to
impose the needed legislation (an impossibility, of course).
Passing the legislation is the only course right now that
will avert economic freefall and intensified inter-entity
tension. For the RS to lose $280 million in budget support
simply because of the Federation's inability to manage its
own affairs hands Dodik a potent weapon in making the case
for more entity autonomy.
ENGLISH