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Making Difficult Choices Must Be A Key Government Task

Limited policy space and more difficult access to financing means that policymakers will have to be very selective and targeted in their spending and investment moves. Being more selective will also be essential to ensure that economic imbalances do not disproportionally hurt the most vulnerable segments of the population

The current global environment is tumultuous. It is hard to escape headlines around the world about accelerating inflation, slowing economic activity, the unfolding energy crisis, high uncertainty and rising hardship for many people. This creates a very difficult situation for policymakers, also in Serbia, as they simultaneously face quickly diminishing policy space to respond, says our interlocutor, Yulia Ustyugova, Head of the IMF in Serbia. “Making difficult choices will have to become a key task for the new Serbian government,” she adds.

The IMF’s assessment of the Serbian economy has been positive throughout the pandemic. What is your view of current policies vis-à-vis new challenges impacting GDP growth?

The challenges facing the Serbian economy are complex. The spill-overs from the war in Ukraine and the energy crisis have disrupted Serbia’s strong recovery from the COVID-19 pandemic. Following economic growth of 7.4 per cent in 2021, growth in 2022 is projected to be markedly lower, at 3.5 per cent. This is dampened by the impact of high inflation on consumer demand, supply disruptions and reduced external demand. Driven by soaring global food and energy prices, inflation has hit double digits. In addition, major challenges have risen in the energy sector, with shortfalls in domestic electricity production coinciding with high global energy prices.

Preserving macro-fiscal and financial stability, and mitigating the impact of continuing external shocks, are appropriately at the centre of authorities’ attention. They acted swiftly to maintain financial stability, help companies navigate the international sanctions regime and supply chain disruptions, mitigate the pass-through of high global commodity prices via regulation and provide financing for energy imports. Monetary policy is being tightened. The authorities have also started securing the energy supply for the coming winter. That said, there is more to be done in the energy sector. The recent energy crisis exposed the lingering risks to fiscal sustainability and growth caused by weak SOE governance and investment planning. There should therefore be no delay on developing and implementing comprehensive financial, operational and governance reforms in the main energy SOEs.

How are you assessing current monetary and fiscal policies as they relate to inflation?

High inflation is a pressing issue for all policymakers worldwide. The recent rise in inflation in Serbia to 12.8 per cent year-on-year in July 2022 has aligned with increases throughout Europe, although the level of inflation has remained below the average for Eastern Europe. The rise is mainly driven by increasing food prices and—to a lesser extent—energy prices. As recognised in our previous report, the observed tightening of monetary policy by the NBS, including five consecutive policy rate increases starting in April 2022, is important for curbing inflation, but the data may well call for tightening to continue.

While trying to address the immediate problems, policymakers will also need to think longer term. This is an old piece of advice, but it remains highly relevant. With economies facing uncertainty and complex crises, the premium on upfront structural reforms is now higher than ever

Assuming continued monetary tightening in Serbia, as well as in the Euro area, we project inflation to subside and return to the target band over the two-year projection horizon. Of course, this projection is predicated upon Serbia maintaining an appropriate policy mix, with monetary policy tightening accompanied by continued fiscal consolidation. Specifically, fiscal policy should avoid untargeted support measures that create demand pressures on inflation and focus more on supporting the vulnerable.

Have you discussed the reforming of publicly-owned companies with the Serbian Government?

We have been discussing these questions with the authorities on a regular basis, together with other international partners like the World Bank and the EBRD. When it comes to reforms of publicly-owned companies, the second review under the Policy Coordination Instrument calls for urgent financial, operational and governance reforms in the main energy SOEs. As I’ve already mentioned, the disruptions to domestic electricity production in the context of high international energy prices have greatly increased energy costs for Serbia’s economy and the government budget. Mitigating these problems requires not only the adjusting of energy tariffs, which is needed and welcome, but also the implementing of more fundamental governance reforms in the energy SOEs.

Accordingly, the IMF-supported programme focuses on implementing the SOE ownership and governance strategy. For the near term, it envisages the adopting of a new law on ownership management for SOEs and changing the legal status of Elektroprivreda Srbije (EPS) to a joint stock company. Additional steps will be discussed during the next IMF mission to Belgrade.

Moreover, the second review emphasises the importance of formulating and rolling out – without any delay – a new energy investment strategy to underpin reliable energy supply, which is vital for the business environment and the greening of energy generation in Serbia.

What does Serbia additionally need to do to preserve the strong influx of investments and job creation? What conclusions have you drawn from your talks with the representatives of domestic and foreign investor associations, such as the FIC?

In the current context of high uncertainty and external shocks, the immediate priority is to preserve macroeconomic and financial stability. This is important because it helps ensure a more predictable environment for existing and new businesses. With regard to other longer-term priorities, we share many of the views expressed by the FIC and other investor associations that emphasise the need to continue improving the investment climate, strengthening rule of law and enhancing governance. Such reforms would further anchor confidence and improve competitiveness, thus maintaining Serbia’s attractiveness for FDI, and should not be delayed.

The IMF team will be visiting Belgrade in October for the third review under the PCI and will revise the economic outlook for Serbia, taking into account both global spill-overs and Serbia-specific factors that mitigate these external shocks

Rising energy prices and green transition costs may both jeopardise the poorest sections of society. What is needed for green transition to be conducted in a manner that’s fair to the poor? It is true that higher energy prices typically hurt poorer households more than richer ones. In the view of the IMF, governments should increasingly focus their policy efforts on providing vulnerable households with income support without distorting the marginal price they pay for energy. Such support measures can take various forms. They can target households below a certain point of the income distribution. They can include additional direct support to low-income households for essential, non-energy expenditures (education, health, food) that are at risk of being squeezed by higher energy costs. In this context, it is particularly important to strengthen national social safety nets, so they can be used to provide transfers to a higher share of households. In fact, strong social safety nets are also critical for supporting vulnerable communities and covering their costs of transitioning to a greener economy.

In Serbia, amending the government decree on the protection of energy vulnerable customers by expanding the coverage of potential beneficiaries would be a timely step to protect poorer households when domestic energy tariffs are rising. We also welcome the new Social Card Registry and Social Care IT system that help more precisely identify who needs help the most. In our view, with the enhanced integrated systems in place, there could be a case for expanding social protection coverage, benefit levels, or both, in a fiscally sustainable manner.

Is today the right time to raise energy tariffs, given the uncertainty over proper heating levels and possible power outages during the coming winter?

Since early last year, global oil prices have roughly doubled, coal prices have quintupled, and natural gas prices in Europe increased ten-fold. For most of this period, Serbia’s energy tariffs have remained largely unchanged. The fiscal costs of such a gap between import prices and domestic tariffs, however, have been growing.

In general, temporarily supressing tariff increases could be an acceptable response to a short-lived shock. However, it looks increasingly likely that a substantial part of the increase in global energy prices is here to stay. This means that countries like Serbia should gradually phase out costly broad tariff support measures and adapt to higher import energy bills, to ensure that energy companies and other businesses can be profitable over the medium term and are able to invest in the future.

Therefore, we do think that policies should continue shifting away from broad-based support, such as broad energy tariff controls, to more targeted relief, such as transfers to the lower-income households that suffer the most from higher energy bills, as we already discussed. In our view, the increases in energy costs should be gradually passed on to end-users, also to encourage energy-conserving behaviour and energy efficiency investments. With persistently higher energy prices, a reallocation of demand and production toward less energy-intensive activities is inevitable, and policies should not indefinitely postpone the necessary adjustment, but rather ensure a reasonably smooth transition. The recent increases in gas and electricity prices in Serbia are steps in the right direction.

As for power outages, it is our understanding that the authorities are making everything possible to ensure a continuous and reliable energy supply throughout the coming winter.

The end of one year is often a good time to reflect on the year ahead. What is your view of the economic landscape, globally and for Serbia, in 2023?

The headline of the recent World Economic Outlook (WEO) Update, which addresses the views of the IMF on the economic landscape, is “Gloomy and More Uncertain”. There has been a sharp slowdown in global growth, with negative quarterly growth in the second quarter of 2022, reflecting GDP contractions in China, Russia, and the United States. The world economy is seeing higher inflation trigger tighter monetary policies and financial conditions, a worse-than-anticipated slowdown in China, reflecting COVID-19 outbreaks and lockdowns, the energy crisis and further negative spill-overs from the war in Ukraine. In July, global growth projections for both 2022 and 2023 were downgraded to 3.2 and 2.9 per cent respectively, which is 0.4 and 0.7 percentage points lower than April’s projections. The IMF is currently preparing new updated global projections that will be released in October.

What is clear now is that the risks to the global outlook are overwhelmingly tilted to the downside. As elaborated in the WEO update, the war in Ukraine could lead to the sudden halting of European gas imports from Russia; inflation could be harder to bring down than anticipated; tighter global financial conditions could induce debt distress in emerging market and developing economies; renewed COVID-19 outbreaks and lockdowns, as well as a further escalation of the property sector crisis, might further suppress Chinese growth; and geopolitical fragmentation could impede global trade and cooperation.


The economic policy agenda, supported by the Policy Coordination Instrument with the IMF, remains an appropriate anchor for the near term


Adopted government economic measures, capping the rise in food prices on the domestic market, could be an acceptable response to a short-lived shock causing moderate social and economic strain


The focus on digitalisation will be instrumental for Serbia’s transition to a knowledge- and innovation-based economy that’s attractive to high-quality FDI