Macroeconomic development, international exposure and the economic crisis

Serbia has undergone a dramatic transformation during the past decade. The extent of economic and institutional reforms, regional cooperation, and integration into global economic and financial markets was unthinkable even ten years ago.

Nevertheless, the promises of progress, prosperity and well-being have been limited to a small minority, leaving most of the Serbian population in poverty or further depriving them from access to basic services. 2009 has proved to be a particularly difficult year for all Balkan countries. The financial crisis that began to affect western markets in the second half of 2007 took a while to be felt in South-Eastern Europe (SEE), but by the fourth quarter of 2008 it was clear that this region would also face a major economic slump.

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By mid-2008, it was clear that the shocks to the global financial system were of a type and magnitude that had not been seen since the Great Depression of the 1930s. At this time, however, the economies of SEE were still booming at an aggregate level with foreign direct investment (FDI) still pouring into the region. However, there was a decisive failure in economic forecasts by the end of 2008, when international organisations still kept faith in free markets and economic growth.

Take for example the IMF. As described on its homepage,“the IMF is working on several fronts to help its members combat the worldwide economic and financial crisis. The Fund is tracking economic and financial developments worldwide so that it can help policymakers with the latest forecasts and analysis of developments in financial markets. It is giving policy advice to countries and regions, and money to assist emerging market and low-income economies that have been hit by the crisis. And it is assisting the Group of 20 industrialized and emerging economies with recommendations to reshape the system of international regulation and governance.” (
Given the initial projections of the IMF, when the crisis was already waging in Western European countries and the US, it turned out that international economists underestimated the severity of the crisis. The first two columns of the table below compare the forecasts for GDP growth in 2009 from the October 2008 IMF World Economic Outlook (WEO) with those from the October 2009 WEO. The difference is staggering: 10 percentage points for Serbia (6 per cent growth in 2009 was projected in October 2008, compared with the current projection of minus 4 per cent).


In January 2010, Andrew Burns, the lead author of the World Bank report Global Economic Prospects 2010: Crisis, Finance, and Growth, admitted that “an increase in poverty has serious implications for the governments of poor countries, who face shrinking revenues at the very time when demands on them are growing. Just when a bigger effort is needed to protect vulnerable people, some governments may be forced to scale back existing programs.”

But did governments and international financial institutions protect vulnerable people from being deprived from basic services or did they serve other ends and masters? We will first take a closer look at macro- and microeconomic developments over the last two years.

  • The banking system

In fall 2008, Serbia experienced combined banking and currency disturbance. Firstly, international banking groups started withdrawing liquidity from their local subsidiaries, which was also a trigger for depositors to withdraw their savings. This had the effect that up to one fifth of the previous amount of foreign currency savings left the banking system. Total residents’ foreign currency deposits that were withdrawn solely in the last quarter of 2008 amounted to 977 million Euros. Despite interventions, the local currency lost 20 percent of its nominal value against the Euro from 10 October 2008 to the end of January 2009. The authorities finally admitted that available international reserves cannot withstand all the possible pressure, and after initial precautionary arrangement (402.5 million Euros) asked the IMF for a new stand-by arrangement. What followed was a credit contraction as a consequence of deposit withdrawals, a sudden stop in credit activities and an increase in deposit rates, loan rates and interest rate spread. They all contributed to a credit crunch in Serbia.

The chart below shows the percentage share of foreign bank capital in the total in each country. The figures range from 75 per cent in Serbia to 95 per cent in Bosnia and Herzegovina. In other words, foreign banks largely control banking sectors in the region, with all the attendant benefits and risks that this dominance entails. Keeping the banks on board in the crisis has been one of the region’s biggest concerns.


In its report Global Economic Prospects 2010: Crisis, Finance, and Growth the Worldbank concedes that “foreign banks may import instability as they reduce lending in response to shocks in their home countries. And foreign banks may reduce the franchise value of domestic banks by cherry-picking the top clients, thus forcing domestic banks into lower return and riskier market segments (Hellman, Murdock, and Stiglitz 2000). Thus, the impact of foreign banks on stability is an empirical question.” (Worldbank, 2010, p. 81)

As to the increase of non-performing loans (see figure below), the Serbian government wrote in a Letter of Intent, Memorandum of Economic and Financial Policies, and Technical Memorandum of Understanding to the IMF the following: “While present bank liquidity and capital buffers are indeed reassuring, bank supervisors will need to monitor closely liquidity and non-performing loans at individual banks. The NBS and the government will further strengthen and clarify the key elements of Serbia’s financial crisis management framework.” (Republic of Serbia: Letter of Intent, Memorandum of Economic and Financial Policies, and Technical Memorandum of Understanding, December 25, 2008)


Regarding the Serbian central bank, there was a big reduction in the policy rate, where the two-week repo rate has been lowered by a cumulative 825 basis points since January 2009, to a rate of 9.5 per cent as of early-February 2010. Inflationary pressures tend to be higher in Serbia than in other countries of the region, and memories of high or even hyper-inflation are still strong. Therefore, the central bank had aggressively raised interest rates during the boom times in an effort to keep a lid on inflation and credit growth. The recession has allowed this policy to be reversed, while still keeping inflation on a downward path.

  • Governments and economic stimulus measures

Pre-existing vulnerabilities in SEE, including large current account deficits, excessive reliance on foreign capital to finance domestic consumption, and sizeable fiscal deficits in some countries, exposed the region to a particularly sharp adjustment when international sentiment reversed with the onset of the economic crisis. Faced with the dramatic tightening of external financing conditions, authorities responded with a mix of domestic macroeconomic adjustment initiatives and extensive resort to official financing from the IMF, the World Bank, and the European Union to replenish foreign reserve holdings, support budget initiatives, and resist downward pressure on local currencies. Notwithstanding these efforts, the crisis hit the region hardest of all developing regions (see Worldbank, 2010).

Governments throughout the region faced an immediate dilemma: spend less to offset shrinking tax revenues and risk cutting domestic demand even further, or spend more and risk crowding out private investment and possible credit rating downgrades. Naturally, one would suggest that governments should spend more in a recession to counteract the fall in private demand. But, unlike in the United States and other large western countries, governments in SEE had no obvious means to finance such a deficit-spending programme. The cost of borrowing either on domestic or international markets, on the scale that would be necessary to have a real effect, would be prohibitive in most cases. As a result, most governments announced various fiscal programmes that appeared to be expansionary but in reality have had little impact on the actual economy.

So far, the “stimulus” has been more imaginary than real; few projects have got off the ground and the effect on economic growth has been negligible. Serbia launched a package in February 2009 which included investment loans at subsidised rates to businesses, as well as consumer loans for the purchase of Serbian goods. All of these measures have brought some relief here and there, but they cannot be said to constitute a coherent anti-crisis approach. The room for manoeuvre was further limited by the fact that the government had run fairly expansionary fiscal policies during the boom years, and therefore had little in reserve when the downturn arrived. Collapsing revenues and limited access to new borrowing therefore forced them to reduce spending.

One of the most important steps taken by many governments in the region has been to increase the level of deposit insurance and shore up confidence in the banking system. In the last quarter of 2008, the need for this became absolutely urgent. Several countries were facing a serious loss of confidence in their banking systems, especially Bosnia and Herzegovina and Serbia. In both cases, people have relatively fresh memories of hyper-inflation and of effective confiscation of foreign deposits. It is estimated that there was a foreign currency deposit outflow of 1 billion Euros (15 per cent of the October level of deposits) in Q4 2008 in Serbia and around 400 million Euros in Bosnia and Herzegovina. In each case, decisive action was taken – Croatia and Serbia raised the limit to approximately 50,000 Euros in October 2008, while in Bosnia and Herzegovina, the limit was raised more modestly to around 10,000 Euros in October 2008.

To sum it up, the effects of the global crisis in Serbia are expressed primarily through price increase, an increased exchange rate to the Euro, reduction of planned direct investments and the inability to accelerate the defined growth rate, which the country had experienced over the past few years. As the growth of Serbian economy in recent years was fuelled by the increase of export activities, foreign investment and personal consumption, the Serbian government was neither capable, nor was it the policy of the IMF, to counterbalance the reduction of global liquidity and foreign investments.

  • Serbia and the IMF

Serbia, being a country with IMF programmes, was forced to cut back on public spending. In December 2008, the Republic of Serbia agreed in a Letter of Intent, Memorandum of Economic and Financial Policies, and Technical Memorandum of Understanding to the IMF to carry out the following measures:

  • Nominal increases of government sector wages will be limited to indexation to projected inflation. Moreover, there will be no bonus payments, and hiring will be limited to refilling essential positions only […]
  • Subsidies and goods and services will be streamlined. In particular, to reduce subsidies, tariffs in the transportation and utilities sectors will be brought closer to cost recovery levels. Agricultural subsidies will also be reduced, […]
  • A nominal freeze of pensions will be needed to slow their rapid growth rate.
  • The government will ensure that the province of Vojvodina and the local governments, including Belgrade and Novi Sad, present balanced 2009 budgets and adopt wage policies in line with the above-mentioned principles, while the health fund will plan for a surplus of about RSD 6 billion. The government will also adopt the business plan of the Road Company consistent with the program (structural benchmark).
  • […] reduce state influence in directly operating enterprises and improve the investment climate.
  • State enterprises. Based on case-by-case studies, we will move ahead with corporatization (when necessary) followed by full or partial privatization, […]
  • We plan to complete the privatization program of socially owned enterprises. The Ministry of Economy aims at finalizing the privatization of socially owned enterprises in 2009. About 480 such enterprises (out of about 800 as of end-October 2008) will be offered for sale, or will have liquidation or bankruptcy procedures initiated before end-2008.


Map of South-Eastern Europe as defined by the IMF


As one can see, the measures reflected the reigning neoliberal hegemony of cutting back on social benefits and selling off state property.


Ehrke, Michael (2010). “Serbien: Die Finanzkrise an der europäischen Peripherie“,

Marinkovic, Srdjan (2009). “Credit crunch in Serbia and the challenge of global financial crisis”,$FILE/SrdjanMarinkovic.pdf

Republic of Serbia (2008). “Letter of Intent, Memorandum of Economic and Financial Policies, and Technical Memorandum of Understanding”, 25 December 2008.

Sanfey, Peter (2010). “South-eastern Europe: lessons from the global economic crisis”, European Bank for Reconstruction and Development.

World Bank (2010). “Global Economic Prospects 2010: Crisis, Finance, and Growth”.

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