IMF Hails Albania For Keeping Inflation Under Control

TIRANA, May 13 – At a time when the world is trying to cope with an economic recess and higher oil prices, the International Monetary Fund hailed Albania for keeping inflation under control. AN IMF mission concluded its two-week visit to Albania warning local authorities to be very careful in salary hikes that could damage its inflation efforts. At the same time it warned them of the negative effect they could suffer from the power crisis and the fiscal risks from the funding of the Durres-Morini highway.
They also warned the government to be careful in increasing the public salaries in order to keep inflation under control. The review mission focused on the 2008 midyear budget review, and measures to improve KESH finances.
It said that Albania has made impressive economic progress over the last decade. Per capita GDP more than doubled in US dollars while inflation has been kept low. These factors, along with large remittances, also significantly improved social conditions. The bulk of the progress is due to prudent macroeconomic and structural policies that raised productivity and investment, and contributed to external stability.
The strong economic performance can continue, provided some deep-seated problems are forcefully addressed. In particular, the loss-making electricity sector constitutes a major risk to the budget and reduces potential growth, while, more generally, the business environment requires improvement to attract the high-quality investment needed.
Fiscal risks need to be addressed head on. Buoyant revenue growth must be used to consolidate public finances and contain the 2008 budget deficit at 5.2 percent of GDP. As fiscal risks remainئor example, cost overruns on the Rreshen-Kalimash road and KESH’s precarious financial situationشhe Ministry of Finance’s plan to maintain sufficient budgetary contingencies is welcome.
Following the end of the IMF program, the budget needs to be firmly anchored to reduce debt as a share of GDP and enhance credibility and transparency. This is gaining urgency as Albania begins to access international capital markets. The authorities are therefore encouraged to adopt a formal fiscal ruleإither expenditure, deficit or debt basedةdeally beginning with the 2009 budget. Building greater capacity in debt management is also important.
Global inflation pressures require policy caution and vigilance. International financial markets remain unsettled, growth in trading partners is slowing and world commodity prices have hit record levels. Nevertheless, and thanks to prudent budget and monetary policies, inflation in Albania is projected to be contained at 4 percent in 2008,lower than elsewhere in the region. It is thus crucial to avoid adding domestic demand pressures. In particular, while targeted relief to the poor to offset the effects of sharply higher food and energy prices is warranted, real wage increases in the public sector must be tightly limited to avoid fueling a wage-inflation spiral.
Aided by prudent fiscal policies, monetary policy can aim at anchoring inflation expectations and safeguarding financial stability. The BoA should continue to be ready to promptly counter any second round effects from global price pressures, including through possible further interest rate hikes. The recently completed credit registry is a major step forward to safeguard financial stability. Proactive strengthening of the supervisory and regulatory framework should help to slow credit growth, and should be pursued on an ongoing basis. Passage of the relevant amendments to the Civil Code is key to better collateral execution.
While KESH’s privatization agenda is gaining welcome momentum, its underlying financial position remains fragile. Tariff increases of about 20 percent in March helped the company’s finances, as have good rainfalls. Moreover, in cooperation with the World Bank, ambitious improvements in effective collections and reduction in theft are planned.
Still, on current trends, the implied loss to public finances would amount to 1.4 percent of GDP. This is more than half of all public spending on health and highlights the need for urgent remedial measures. KESH needs to reduce imports, contain personnel costs, and prioritize investments within a smaller envelope if further increases in tariffs are to be avoided.
Structural reforms need to take another step forward. Recent actions to lighten the regulatory burden are important. However, property rights, contract enforcement, governance, and the judicial system remain key weaknesses. Public procurement reforms require broader implementation, while the coverage, frequency, and quality of statistics still need to be improved, particularly in the national income accounts. Care should be taken to ensure that INSTAT is given sufficient resources to carry out the needed improvements.