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Serbia, Montenegro and Kosovo Country Risk Report Q3 2017

Core Views

Serbia's ruling Progressive Party (SNS) emerged as the winner ofthe April 24 general election, which will reaffirm public support forPrime Minister Aleksandar Vucic's austerity agenda and structuralreform programme. The principal political risks to the current Serbiangovernment are regional. Serbia's rising migrant population isplacing an increasing burden on Serbia's social stability, and poorrelations with Croatia are delaying Serbia's EU accession. Domestically,with its large majority in parliament, the government is taskedwith ensuring that it implements its own manifesto effectively andovercome the challenges from the newly-elected far-right partiesand the fractured opposition.

The recovery of Serbian real GDP growth will consolidate in 2017and 2018 on the back of rising consumer spending, substantialinvestment, and less severe government austerity. Growth will belimited, however, by rising imports, and unreformed state-ownedenterprises. We forecast GDP growth of 2.8% in 2017, and 3.1% in2018.

Serbia's current account deficit will stabilise in 2017 on accountof weaker external demand, stronger import demand, and risingcommodity prices. However, the deficit does not pose a major riskto economic stability, given that structural reforms are increasingexport potential and attracting more foreign direct investment. Weforecast the current account deficit at 3.3% of GDP and 3.2% in2017 and 2018, respectively.

We expect the National Bank of Serbia will begin a rate hiking cyclein 2017, bringing the main policy rate to 4.50%. Stronger domesticeconomic performance and rising global commodity prices, alongsiderising developed economy rates will prompt the cycle.

The pace of fiscal consolidation in Serbia will slow in 2017 on accountof slowing reform momentum, weaker revenue collection andpolitically motivated spending hikes. Government debt will remainhigh at 71.5% of GDP in 2017, leaving Serbia's fiscal position andsovereign creditworthiness vulnerable to shocks.


Executive Summary
Core Views
Key Risks
Chapter 1: Economic Outlook
SWOT Analysis
BMI Economic Risk Index
Economic Growth Outlook
Faster Growth Constrained By Sluggish Investment
Serbian real GDP growth will beremain steady in 2017 before accelerating modestly over the medium term, with growth potential limited
by a legacy of underinvestment compared to regional peers. Commodity prices and inflation will turn from a tailwind to a headwind in
2017, undermining the expansion of household consumption.
GDP By Expenditure Outlook
TABLE: GDP GROWTH FORECASTS
TABLE: PRIVATE CONSUMPTION FORECASTS
TABLE: GOVERNMENT CONSUMPTION FORECASTS
TABLE: FIXED INVESTMENT FORECASTS
TABLE: NET EXPORTS FORECASTS
External Trade And Investment Outlook
External Demand To Narrow Current Account Deficit, But Headwinds Rising
The rapid narrowing of Serbia's current account deficit since 2011 has further to run in 2017 and 2018, but will begin to reverse
thereafter. Nevertheless, the deficit will remain well below historic averages and will be comfortably financed by stable foreign direct
investment inflows, posing minimal risks to macroeconomic stability.
Outlook On External Position
TABLE: CAPITAL & FINANCIAL ACCOUNT BALANCE
TABLE: TOP 5 EXPORTS IN 2015
TABLE: CURRENT ACCOUNT BALANCE FORECASTS
Monetary Policy
Rising Inflation and DM Rates To Prompt Tightening
To stay ahead of the inflation curve, in light of higher developed market rates, we expect the National Bank of Serbia to start a gradual
tightening cycle in 2017, with the key policy rate reaching 5.00% by 2020. That said, the tightening cycle will be more moderate than
previous ones, given subdued economic growth, anchored inflation expectations, and a more sable dinar.
Monetary Policy Framework
TABLE: MONETARY POLICY FORECASTS
Fiscal Policy And Public Debt Outlook
Public Finances Sustainable But Risks Rising
The end of fiscal consolidation efforts in Serbia will see the budget deficit widen only moderately in the next two years, with public
debt continuing to fall as a percentage of GDP. That said, with IMF support ending and EU accession remaining elusive, greater fiscal
slippage, in the absence of more reforms, cannot be ruled out.
Structural Fiscal Position
TABLE: MAIN REVENUE AND EXPENDITURE CATEGORIES FOR 2015
TABLE: FISCAL AND PUBLIC DEBT FORECASTS
Currency Forecast
RSD: Fundamentals Maintain Stable Outlook
Continuing a trend observed in 2016, the Serbian dinar will remain broadly stable in the short term. A slight appreciation to RSD123.00/
EUR by-end 2017 and RSD122.00/EUR by-end 2018 will be driven by attractive interest rate differentials and improvements in
macroeconomic fundamentals.
TABLE: BMI CURRENCY FORECAST
Contents
Chapter 2: 10-Year Forecast
The Serbian Economy To 2026
EU Convergence Key
Serbia's convergence process with the more developed states of Western Europe is expected to continue apace over the long term,
with the harmonisation of the underlying domestic legal and regulatory framework with that of the EU being a fundamental factor driving
growth. This will lead to marked improvements in Serbia's business environment, enabling greater access to the export markets of EU
member states and enhancing the country's appeal to foreign investors in the process. That said, we caution that political instability,
particularly around Kosovo, poses the greatest risk to our forecasts.
TABLE: LONG-TERM MACROECONOMIC FORECASTS
Chapter 3: Political Outlook
SWOT Analysis
BMI Political Risk Index
Domestic Politics
Presidential Election To Maintain Political Status Quo
The probable victory of Aleksander Vučić in presidential elections scheduled April 2 will maintain the political status quo in Serbia.
Regional pressures will remain the most pressing concern for Serbia's government, with Kosovo's desire to form an army driving
tensions.
TABLE: POLITICAL OVERVIEW
Long-Term Political Outlook
Unresolved Regional Tensions Remain Despite Agreement With Kosovo
Unresolved regional tensions are expected to continue to hang over Serbia's political risk profile over the long term. In turn, the country's
EU accession prospects and economic growth profile could suffer as a result. However, owing to the large diplomatic presence in the
region, which we expect to persist over the long term, we believe it is very unlikely that lingering disputes will devolve into open conflict.
Chapter 4: Operational Risk
Operational Risk
TABLE: OPERATIONAL RISK
Economic Openness
TABLE: TARIFF AND NON-TARIFF TRADE BARRIERS
TABLE: FREE TRADE AGREEMENTS
TABLE: FREE TRADE ZONES & INVESTMENT INCENTIVES
TABLE: BARRIERS TO FDI
Education
TABLE: SERBIA & OECD AVERAGE STUDENT PERFORMANCE SCORES, 2012
Chapter 5: BMI Global Macro Outlook
Emerging Markets Recovery Still In Early Stages
TABLE: GLOBAL MACROECONOMIC FORECASTS
TABLE: DEVELOPED STATES – REAL GDP GROWTH (%)
TABLE: EMERGING MARKETS – REAL GDP GROWTH (%)
TABLE: SERBIA – MACROECONOMIC DATA & FORECASTS

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