Bojan Marković: Why foreign analysts and investors view Serbian macro
prospects so differently from domestic public
Speech by Mr Bojan Marković, Vice Governor of the National Bank of Serbia, at the ICAP's
1st Credit Risk Management Conference, organised by ICAP Serbia, Belgrade,
30 November 2011.
* * *
I should like to thank Mirko Djukic for comments and suggestions.
Ladies and Gentlemen,
Recent turbulences in world financial markets have led to a rise in risk premia in many
countries. In case of Serbia, these pressures were moderate relative to regional peers, but
one cannot be too cautious and should be prepared to act swiftly in order to minimize
negative impacts of current turbulences.
Improving or maintaining Serbia's sovereign credit rating in these turbulent times is a
challenge of a great importance. This is because it ensures sustainable sources of financing
at a lower cost, not only for the Government, but also for all other market participants -
businesses, households, and banks, alike.
The Government and the central bank can best contribute to improving credit rating by
pursuing policies that ensure long-term macroeconomic stability, such as: maintaining public
debt at sustainable level, ensuring price stability in the medium term, and providing stable
and resilient financial system. Any attempt to „stimulate" the economy in an unsustainable
way would jeopardize these goals, leading to a rise in the country's risk premium and
eventually hurting the very economy it was meant to help.
Over the past years foreign market participants and credit rating agencies recognized an
improvement in Serbia's macro prospects. Serbian press, however, has been even more
deeply than usual flooded with doom-and-gloom commentaries of Serbian economic
performance during the crisis and especially its macro prospects for the future:
"We are facing inconsistency and incoherency of domestic economic policy daily observed
by investors" (Djordje Djukic, Biznis i finansije, June 2011),
"Knocking on the IMF doors is a proof of a complete defeat of the domestic economic policy"
(Zarko Ristic, Pravda, September 2011),
"Domestic economy is currently in a position of Titanic - sending SOS signals"
(SašaĐogović, Nacionalni Građanski, September 2009),
"Economic collapse looms large" (Branislav Grujic, Novosti, August 2011).
But at the same time, Serbia saw its credit rating upgraded, becoming one of the few
countries in the region with the credit rating above the pre-crisis level. In November 2010,
Fitch changed Serbia's credit outlook to stable from negative, in March 2011 S&P upgraded
Serbia to BB from BB-, and in November 2011 Fitch confirmed credit rating for Serbia,
despite downgrades in many regional peers. The financial analysts worldwide started
becoming more positive about Serbian medium-term macroeconomic and currency
prospects, and foreign investors started investing increasingly in Serbia through FDI or
portfolio investments:
"Progress has been made regarding monetary policy effectiveness. The NBS has performed
well and enhanced its credibility since the 2008-2009 crisis." (Fitch, November 2011).
"We believe the completion of the current IMF arrangement and the government's intention
to conclude discussions surrounding a new precautionary IMF agreement by around
midyear should further boost investment sentiment." (Barclays Capital, April 2011)
"Serbia has set itself apart from other emerging-market economies in creating conditions to
attract foreign investment that will fuel growth." (Nomura Global Research, December 2010).
"The least vulnerable countries are Czech Republic, Poland and Serbia, and Turkey and
Russia outside the CEE area. All enjoying high profitability of their banking sectors, low
dependence of parent banks' funding and larger domestic banking ownership" (Standard
Bank, August 2011),
What caused such a dichotomy of opinions between foreign investors and domestic public?
Among the key reasons for improved Serbian macro prospects in international analyses one
would find the following:
First, the external debt structure was changing patterns over the past year. Banks' external
funding sources increased in maturity. While the long-run debt made up 56% of banks' total
external debt in January 2010, it grew to 75% by October 2011. Also, corporates' external
debt kept shifting from cross-borders towards domestic banking sector borrowing, yielding
several important consequences. Domestic debt is under the strong prudential supervision of
the National Bank of Serbia. Furthermore, domestic real credit growth of 15.2% in 2010 and
9.0% p.a. in October 2011 indicates the growth potential of the Serbian banking sector.
Finally, while the cross-border debt is exclusively in foreign currency, domestic debt is partly,
and increasingly so, in dinars, reducing the level of FX exposure in the country.
Second, the dinar financial market is steadily developing, and the NBS's strategy of
dinarisation is yielding some visible results. The yield curve has been extended from
12 months in early 2010 to 36 months by March 2011. The longer maturities opened up the
bond market to non-resident investors, since they are legally allowed to trade with long-term
government securities only. The hedging market is also gaining pace, and the bank credit
market is becoming increasingly dinarised. In October 2011, 30% of total loans to corporates
and households was in dinars, whereas in February 2010 it was only 24%. This implies that
around 40% of new loans in the past year were in dinars.
Third, fiscal deficits in the past three years hovered around 4.5% of GDP, less than in many
other European countries. In October 2010 the Law on Fiscal Responsibility was adopted,
introducing the fiscal rule and establishing the Fiscal Council. In an effort to restrain public
spending, public sector wages and pensions remained nominally frozen throughout 2009 and
2010. Public debt currently stands at around 45% of GDP, which is below ratios for most
Eurozone countries.
Chart 1 Chart 2
Maturity Structure of Banks' External Private Sector Debt in GDP
Funding Sources
(share in GDP)
(%)
Loans to households
100%
100%
Domestic loans to enterprises
Cross-borders
80%
80%
5.4
4.8
5.8
60% 4.8
4.8
60%
7.7
8.9
40% 7.0 9.6
40%
45%
20%
20%
25%
10.4
11.0 9.6
9.1
0%
1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 9 10
0%
2010 2011
2006 2007 2008 2009 2010 Q3 2011
Short-term Long-term
* Values in w hite are in EUR bn
Chart 3 Chart 4
Current Account Deficit and Remittances Contributions to Real GDP Growth
(% share in GDP) (y-o-y rates, pp)
25 20 NX G
CAD
5.4
I C
16
GDP
Remittances
21.6
20
12 5.4
3.8
3.6
17.7 8
15 1.0
2.0
4
1.5
11.2
11.0
10.5
0
9.3
9.1 8.9
10
7.2
10.1
-4
8.5
7.5
7.2 7.2
-8
5
-12
-3.5
-16
0
2005 2006 2007 2008 2009 2010 2011* 2012*
2006 2007 2008 2009 2010 2011* 2012*
* NBS forecast
* NBS forecast
Finally, and perhaps most importantly, external imbalance, the largest pre-crisis
macroeconomic problem, has been steadily adjusting since early 2009. In 2008, the current
account deficit to GDP ratio reached the height of 21.6%, indicating large and unsustainable
external imbalance. Since then, it corrected sharply to 7.2% in 2009 and 2010, and is
estimated to be around 7.5% in 2011.
For the current account deficit to improve to such an extent, it was necessary to increase net
exports and investments and to cut real consumption. Indeed, in 2009 and 2010 net exports
contributed to growth by 9.3 percentage points and 3.7 percentage points, respectively. In
the first half of 2011, fixed investments led GDP growth, contributing with 1.2 percentage
points. At the same time, real consumption kept falling by 3.4% in 2009, 0.2% in 2010, and
2.7% in the first half of 2011, according to NBS estimates.
Although this adjustment was necessary in order to achieve sustainability of economic
growth in Serbia, it, nevertheless, was extremely painful for Serbian consumers, especially
since summer 2010, when food prices shot up substantially following a poor agricultural
season worldwide.
And here lies the key reason for the difference of views between foreign investors and the
Serbian public. While foreign investors focused on improved macroeconomic sustainability
brought about by shrinking consumption, the Serbian public was feeling strongly the pinch of
the necessary adjustments following the unsustainable consumption spree in the years
before the crisis.
So, what should we do now? There are three choices in front of us:
One could stop the adjustment process and engage in another consumption spree. This is
clearly tempting for many of a short-term approach, as the policy of reckless spending too
often stroke a cord with a part of the Serbian electorate in the past twenty or so years. But
there is also a catch: following the recent crisis, any policy leading to further imbalances
becomes much discriminated by international financiers, who are unlikely to keep financing
such a spending as generously as before the crisis.
Alternatively, one could try to give the electorate a bit of a break from further sharp
adjustments in the pre-election period. But, loosening the consumers belt for a year, will not
do them much favours in the medium term, and might also trigger a swift negative reaction
from international investors at the time when they are particularly sensitive to non-prudent
public spending.
Finally, and in my opinion most desirably, one could continue with necessary painful
adjustments, while at the same time providing more assistance to the poorest and most
vulnerable households among us. Although politically risky, this would be the most
responsible policy for the upcoming Serbian generations.
And at this point I should like to reiterate the National bank of Serbia's message over the past few
years: it is better to have low but sustainable growth than high and unsustainable one.
The National Bank of Serbia will continue with an effort to stabilize inflation at lower level and
maintain sound financial system, which, I firmly believe, is the best way to help the economy
in the current circumstances.
A further challenge in front of us is to reduce credit risks related to FX exposure, as well as to
exposure to interest rate fluctuations. For that reason, we will foster the development of
transparent and simple hedging instruments, such as FX forwards and swaps, as well as
interest rate swaps. At the same time, following an adverse financial stability effect
internationally of some of the complex financial derivatives, such as CDSs, CDOs or NDFs,
we would like to discourage the development of such instruments in Serbia at this stage of
financial literacy in the country.
Ladies and Gentlemen, I should like to assure you that the National Bank of Serbia monitors
international developments very carefully, both in the real and financial sectors, and stands ready
to do everything and act in order to maintain macroeconomic and financial stability in Serbia.
Table1
Changes of credit ratings and outlooks during the crisis -
Serbia and neighbouring countries
Changes of credit ratings and outlooks in times of crisis - Serbia and neighbouring countries
Standard & Poor's Fitch
Date of
Date of credit Date of Date of
Country
Credit rating Type of Credit rating Type of credit rating
rating change Outlook outlook Outlook outlook
(long-term) change (long-term) change change (long-
(long-term) change change
term)
BBnegative 31.8.2008* BBstable 31.8.2008*
stable 01.12.2009 negative 23.12.2008
Serbia
upgraded 16.03.2011 stable 11.11.2010
BB
BBB stable 31.8.2008* BBBstable 31.8.2008*
negative 27.10.2008 negative 21.5.2009
Croatia
21.12.2010
BBBdowngraded
stable 31.8.2008* 31.8.2008*
AA stable
AA
negative 23.12.2010 28.9.2011 negative 28.9.2011
Slovenia AAdowngraded
20.10.2011 stable 20.10.2011
ААdowngraded
31.8.2008*
positive 31.8.2008*
BBBpositive BB+
negative 01.12.2008 stable 4.11.2008
Macedonia
BB downgraded 01.05.2009 stable 21.09.2009 negative 21.5.2009
stable 27.10.2010
new rating 22.12.2008 stable 22.12.2008
B+
Bosnia and
negative 28.07.2011
Herzegovina
downgraded 30.11.2011.
B
negative 31.8.2008.*
BB+
Montenegro
downgraded 31.03.2010
BB
BBB+ negative 31.8.2008* stable 31.8.2008*
BBB+
BBB downgraded 17.11.2008 negative 17.10.2008
30.03.2009 stable 02.10.2009 stable 10.11.2008
BBBdowngraded BBB downgraded 10.11.2008
Hungary
negative 23.07.2010 negative 2.3.2009
BBBdowngraded 23.12.2010 stable 6.6.2011
negative 11.11.2011
31.8.2008* negative 31.08.2008*
BBBnegative BBB
downgraded 10.11.2008 stable 09.03.2010 downgraded 10.11.2008 stable 02.02.2010
BB+ BB+
Romania
BBBupgraded 04.07.2011
BBB+ stable 31.8.2008* negative 31.8.2008*
BBB
downgraded 30.10.2008 negative 30.10.2008 10.11.2008 stable 10.11.2008
BBB BBBdowngraded
Bulgaria
stable 01.12.2009 negative 30.4.2009
positive 24.5.2011
stable 31.8.2008* positive 31.8.2008*
A A
14.01.2009 stable 20.10.2008
Adowngraded
negative 12.5.2009
BBB+ downgraded 16.12.2009 negative 16.03.2010 Adowngraded 22.10.2009
downgraded 27.04.2010 downgraded 8.12.2009
BB+ BBB+
Greece
downgraded 29.03.2011 9.4.2010
BB- BBBdowngraded
B downgraded 09.05.2011 BB+ downgraded 14.1.2011
CCC downgraded 13.06.2011 B+ downgraded 20.5.2011
downgraded 27.07.2011 downgraded 13.7.2011
CC CCC
Albania B+ new rating 19.04.2010 stable 19.04.2010
*rating as of 31.8.2008.