Proposal for a Council Decision amending Council Decision 2002/883/EC providing further macro-financial assistance to Bosnia and Herzegovina
Date: 2004-09-21
Institutions: European Commission
Subjects: Bosnia and Herzegovina, Community loan, donation, economic stabilisation, financial aid, terms for aid

COMMISSION OF THE EUROPEAN COMMUNITIES 

Brussels, 21.09.2004 
COM(2004) 604 final 

2004/0207 (CNS) 

. 

Proposal for a 

COUNCIL DECISION 

amending Council Decision 2002/883/EC providing further macro-financial assistance to 
Bosnia and Herzegovina 

. 

(presented by the Commission) 

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EXPLANATORY MEMORANDUM 

1. 

BACKGROUND 

On  5  November  2002  the  Council  of  the  European  Union  decided  to  provide  Bosnia  and 
Herzegovina  (BiH)  with  macro-financial  assistance  of  up  to  EUR  60  million,  comprising  a 
loan  facility  of  up  to  EUR  20  million  and  a  grant  facility  of  up  to  EUR  40  million 
(Decision1 2002/883/EC).  

The objective of this assistance has been to support the balance of payments and help ease the 
country's  external  financial  constraints,  as  well  as  to  comfort  reform  efforts  and  the 
implementation  of  common  institutions  and  policies,  consistent  with  the  Dayton  peace 
agreement.  The  assistance  has  been  conditional  upon  a  satisfactory  track  record  in  the 
adjustment and reform programme of BiH in the framework of an IMF Stand-by Arrangement 
which was approved in August 2002. The final and positive review of the IMF arrangement 
was  approved  by  the  IMF  board  in  February  2004.  The  IMF  and  the  BiH  authorities  are 
currently holding discussions on a successor arrangement. 

After the signature of a Memorandum of Understanding (MoU) on 27 December 2002, setting 
out  the  conditions  for  the  disbursement  of  the  second  tranche,  the  first  tranche  of  the 
assistance  (in  the  form  of  a  EUR  15  million  grant)  was  released  in  February  2003.  A 
Supplemental MoU (SMoU) was signed in July 2003 with the authorities. It fixed the second 
tranche amount at EUR 20 million (comprising a grant component of EUR 10 million and a 
loan component of EUR 10 million) and set out a number of economic policy conditions to be 
implemented  before  the  third  tranche’s  release.  The  final  and  last  tranche  of  up  to  EUR  25 
million  will  comprise  a  loan  element  (up  to  EUR  10  million)  and  a  grant  element 
(up to EUR 15 million).  

Owing to: (i) delays of the BiH authorities in implementing the required policy reforms; (ii) 
delays in ratifying the Loan Agreement by the BiH Parliament (which took over four months); 
and (iii) the need to amend the SMoU in order to comply with the obligations of the new EC 
Financial Regulation, the second tranche requirements were only met by the end of 2003, and 
it  was  released  by  the  end  of  December  2003  (grant  component)  and  January  2004  (loan 
component). Further delays in the implementation of the authorities’ reform agenda have also 
delayed the release of the third tranche, which is still outstanding. 

1 

OJ L 308 of 9.11.2002, p. 28. 

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2. 

RECENT DEVELOPMENTS AND OUTLOOK 

After  the  high  real  GDP  growth  rates  observed  during  the  reconstruction  period 
(on average above 30% between 1996 and 1999), annual growth has slowed to 5.5% in 2002 
and  further  down  to  around  3.5%  in  2003.  Recent  trends  are  however  more  favourable. 
Preliminary  figures  indicate  that  industrial  production  grew  by  20%  during  the  first  five 
months of 2004. Growth is expected to resume and be around 5% in 2004. Inflation has been 
brought under control owing to the successful implementation of the currency board regime 
and is expected to remain close to 1% in 2004. Fiscal consolidation progressed successfully 
over  the  last  two  years.  The  consolidated  budget  deficit  is  being  brought  down  from  2.2% 
after grants in 2002 and 2003 to close to zero (-0.1% of GDP) in 2004 (programmed deficit).  

External imbalances continue to put a strain on the economy, and the current account deficit is 
expected to slightly increase to around 19% of GDP in 2004, on the back of a high demand 
for import goods, against some 18% of GDP in 2003. Foreign direct investment (FDI) which 
resumed over the last few years, however from a very low level, is expected to increase from 
an estimated USD 320 million in 2003 to around USD 420 EUR million in 2004. In spite of 
uncertainties  related  to  capital  inflows,  the  IMF  did  not  anticipate  in  2004  any  additional 
residual external financing needs, over and above those which it expected the EC to contribute 
financing  with  the  release  of  the  macro-financial  assistance  third  tranche.  Under  IMF 
assumptions  of  the  final  review  of  the  Stand-By  Arrangement  in  February  2004,  the  third 
tranche  would  be  disbursed  in  2004  and  basically  close  the  residual  macro-economic 
financing gap (after IMF and World Bank contributions) for 2004.  

The  process  of  structural  reforms  has  continued,  with  most  progress  observed  in  the 
management of public finances and in the financial sector. Privatisation speeded up by the end 
of  2003  and  early  2004  and  a  number  of  tenders  of  large  enterprises  were  successfully 
completed  in  the  first  semester  of  2004.  In  November  2003  the  Commission  finalised  the 
Feasibility  Study  concerning  the  opening  of  negotiations  on  a  Stabilisation  and  Association 
Agreement.  Before  the  Commission  can  recommend  to  the  Council  the  opening  of 
negotiations, BiH needs to make significant progress in the course of 2004 on 16 priorities, 
including in the area of economic reforms such as public finances, indirect taxes and statistics.  

BiH  successfully  completed  in  February  2004  the  IMF  Stand-By-Arrangement  approved  in 
August 2002, which was prolonged for three months beyond its initially foreseen completion 
date  of  November  2003.  The  BiH  authorities  are  committed  to  continue  with  economic 
stabilisation  and  reform,  and  intend  to  agree  with  the  IMF  on  a  successor  programme, 
expected  to  start  in  the  fourth  quarter  of  2004.  In  June  2004,  an  IMF  staff  mission  went  to 
BiH  to  hold  discussions  with  the  authorities  on  a  new  IMF  arrangement,  expected,  as  the 
previous one, to take the form of a fifteen-month Stand-By Arrangement. 

With  regard  to  the  implementation  of  EC  macro-financial  assistance,  a  Commission  staff 
mission in June 2004 reviewed the state of progress related to conditions for the release of the 
third and last tranche. It found that material progress in conditionality compliance had taken 
place over the first semester 2004. However, on a number of conditions additional progress 
remained  mandated.  Subject  to  further  achievements  in  this  respect  in  the  following  few 
months, the third tranche could tentatively be disbursed by December 2004 or early 2005. 

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3. 

OTHER CONSIDERATIONS LINKED TO PROVIDING MACRO-FINANCIAL ASSISTANCE 

With regard to the recommendations made in the Discharge on the budget execution for 2001 
and  also  in  the  Court  of  Auditors'  Special  report  n°  1/2002  concerning  macro-financial 
assistance to third countries, the Commission services are giving due consideration to the five 
Genval 
complementarity, 
conditionality and financial discipline). 

character,  political  pre-conditions, 

(exceptional 

criteria 

On other budgetary and financial management conditions, the Commission services are taking 
action  in  order  to  fulfil  requirements  implied  by  the  new  Financial  Regulation.  This  is 
reflected  by  having  made  an  ex-ante  evaluation  (attached)  of  this  proposed  assistance.  It  is 
also reflected by having concluded with the authorities in December 2003 an amendment to 
the SMoU, consisting in taking up a set of provisions on inspection, fraud prevention, audits, 
and recovery of funds in case of fraud or corruption. In particular, before proceeding with the 
actual  implementation  of  the  remainder  of  this  assistance,  the  Commission  services  plan  to 
check  the  reliability  of  Bosnia  and  Herzegovina’s  financial  circuits,  administrative 
procedures,  internal  and  external  control  mechanisms  that  are  relevant  to  this  type  of 
assistance.  To  this  end  an  Operational  Assessment  has  been  commissioned  to  external 
consultants and its findings were expected by September 2004. Subject to these findings, prior 
actions could be required before the release of the outstanding funds.  

4. 

PROPOSED  DECISION  MODIFYING  THE  LEGAL  BASE  BY  POSTPONING  THE  EXPIRY 
DATE 

Bosnia and Herzegovina requires continued financial support from the Community and other 
bilateral  and  multilateral  donors  in  support  of  its  economic  stabilisation  and  reform  efforts. 
However, the underlying Council decision (2002/883/EC of 5 November 2002) was founded 
on  the  expectation  that  the  economic  stabilisation  and  reform  programme  of  the  BiH 
authorities,  as  agreed  under  the  IMF  stand-by-arrangement,  would  be  implemented  in  2002 
and  2003  and  would  last  15  months,  from  August  2002  until  November  2003.  The  IMF 
agreed  to  extend  it  until  February  2004,  date  of  the  last  review.  In  the  context  of  this  final 
review, the IMF has foreseen the release of the EC third and final tranche to finance balance-
of-payments financing needs for 2004.  

Article  6  of  the  5  November  2002  Council  Decision  stipulates  that  it  shall  apply  until  two 
years after the date of its publication in the Official Journal. The decision was published on 9 
November 2002 and hence expires on 9 November 2004. 

Against this background, it now appears necessary to amend Council Decision 2002/883/EC, 
so as to allow the continued implementation of this assistance and the release of the EUR 25 
million third and final tranche by the end of 2004 or, possibly, the first semester of 2005. In 
line  with  budgetary  requirements,  the  amended  Council  Decision  would  stipulate  a  revised 
expiry date of the Decision on 30 June 2005. 

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2004/0207 (CNS) 

Proposal for a 

COUNCIL DECISION 

amending Council Decision 2002/883/EC providing further macro-financial assistance to 
Bosnia and Herzegovina 

THE COUNCIL OF THE EUROPEAN UNION, 

Having regard to the Treaty establishing the European Community, and in particular Article 
308 thereof, 

Having regard to the proposal from the Commission2, 

Having regard to the opinion of the European Parliament3, 

Whereas: 

(1) 

(2) 

(3) 

(4) 

(5) 

(6) 

Council  Decision  2002/883/EC4  of  5  November  providing  further  macro-financial 
assistance  to  Bosnia  and  Herzegovina  includes  a  loan  component  of  a  maximum 
principal of EUR 20 million and a grant component of a maximum of EUR 40 million. 

Due to delays in the implementation of the required policy reforms as agreed between 
the  European  Commission  and  Bosnia  and  Herzegovina,  so  far  only  a  first 
(EUR 15 million) and a second tranche (EUR 20 million) could be released. A third 
and final tranche of up to EUR 25 million is still outstanding. 

Bosnia  and  Herzegovina  is  committed  to  a  continued  economic  stabilisation  and 
reform  path.  Following  the  successful  completion  of  the  previous  IMF  Stand-By 
Arrangement in February 2004 negotiations were under way on a new IMF supported 
programme. 

The country continues to require external financial support in addition to what can be 
provided by International Financial Institutions. 

The  existing  Council  Decision  2002/883/EC  should  be  amended  to  permit  the 
commitment of grant funds beyond 9 November 2004. 

The Treaty does not provide, for the adoption of this decision, powers other than those 
of Article 308. 

2 
3 
4 

OJ C […], […], p. […]. 
OJ C […], […], p. […]. 
OJ L 308 of 9.11.2002, p. 28. 

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(7) 

After consulting the Economic and Financial Committee,  

HAS DECIDED AS FOLLOWS:  

Article 6, second subparagraph of Decision 2002/883/EC is replaced by the following: 

Sole Article 

”It shall apply until 30 June 2005”. 

Done at Brussels, […] 

For the Council 
The President 

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FINANCIAL STATEMENT 

1. 

TITLE OF OPERATION 

Macro-financial assistance to Bosnia and Herzegovina. 

2. 

BUDGET HEADING INVOLVED 

a)  Grant component of the assistance (in EUR) 

Budget line: 01 03 02 02  

Initial Budget 2004 

Carry-over 
2003/2004 

Commitment 
Appropriations 

65 000 000 

45 000 000 

Payment 
Appropriations 

80 000 000 

20 000 000 

Total for 2004 

110 000 000 

100 000 000 

Serbia and 
Montenegro, third 
grant tranche 

Albania, macro-
financial assistance  

Available 
appropriations 
before action 

Bosnia and 
Herzegovina, third 
grant tranche 

Serbia and 
Montenegro, 
additional macro-
financial assistance 

0(1) 

10 000 000 

16 000 000 

0  

94 000 000 

90 000 000 

0(2) 

15 000 000 

45 000 000 

0 

(1) EUR 75 million committed in December 2002 

(2) EUR 15 million committed in July 2003 

b) 

Loan component of the assistance 

01  04  01  07  –  “EC  guarantee  for  the  borrowing  programmes  contracted  by  the 
Community to provide assistance to the countries of the Western Balkans” 

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3. 

LEGAL BASIS 

Article 308 of the Treaty 

4. 

DESCRIPTION AND JUSTIFICATION OF THE ACTION 

a)  Description of the action 

Modification of the expiry date of Council Decision 2002/883/EC, providing further 
macro-financial assistance to Bosnia and Herzegovina, with a view to supporting the 
government’s  reform  efforts  and  ensuring  a  sustainable  balance-of-payments 
situation. 

b) 

Justification of the action 

The  sustainability  of  the  beneficiary  country’s  economic  stabilisation  and  reform 
achievements heavily depends on external financial assistance from official sources 
at concessional terms. 

5. 

CLASSIFICATION OF THE EXPENDITURE 

a)  Grant component: non-compulsory, differentiated. 

b) 

Loan component: compulsory 

6. 

NATURE OF THE EXPENDITURE 

a) 

b) 

Straight grant (100% subsidy). 

Potential activation  of  budget  guarantee  for  the Community  borrowing  aimed 
to fund the loan. 

7. 

FINANCIAL IMPACT 

a)  Method of calculation 

The  evaluation  of  the  amount  of  the  assistance  deemed  necessary  is  based  on  the 
present estimates of the beneficiary country’s residual external financing needs. 

For the loan component of the assistance, it is expected that the budget guarantee will 
not be called. The Guarantee Fund for external actions has been provisioned in 2002 
according to the Fund Regulation, for an amount corresponding to 9% of the amount 
of the guaranteed loan. As a result, a transfer of appropriations (n° 54/2002) of EUR 
1.8  million  from  the  Reserve  (budget  line  01  04  01  13)  to  the  Guarantee  Fund 
(budget line 01 04 01 14) was authorized by the Budgetary Authority in 2002 after 
adoption of the Council Decision 2002/883/EC.  

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b) 

Effect of the action on intervention credits 

For the grant element, the credits under budget line 01 03 02 02 will be used subject 
to compliance with a number of policy conditions to be agreed with the authorities of 
Bosnia and Herzegovina. 

The budget entry reflecting the budget guarantee for the loan component of the 
assistance will be activated only in the case of an effective call on the guarantee. 

c) 

Financing of intervention 

(i) Grant 

The following updated schedule of appropriations to be financed within the limits of 
Category 4 of the present Financial Perspective is proposed (in EUR): 

2004 

0(1) 

15 000 000 

Commitment appropriations 

Payment 
appropriations 

1) EUR 15 million already committed in July 2003 

(ii) Eventual call on the budget guarantee 

to 

the  Guarantee  Fund  established  by  Council  Regulation  (EC, 
Recourse 
EURATOM) No. 2728/94 of 31 October 1994, most recently amended by Regulation 
No. 1149/1999 of 25 May 1999. According to the Fund Regulation, the provisioning 
did  already  take  place  upfront  in  2002  following  the  adoption  of  the  Council 
Decision on 5 November 2002 via a transfer of EUR 1.8 million from the Reserve to 
the Fund. 

In case the Guarantee Fund did not contain sufficient resources, additional payments 
would be called up from the budget by transfer: 

– 

– 

– 

of  any  margin  remaining  in  the  Reserve  for  guarantees,  according  to  the 
provisions  of  Article  18  of  Council  Regulation  (EC)  No  2040/2000  of  26 
September 2000 on budgetary discipline;  

of  any  overdue  payments  to  the  budget  for  which  the  budget  guarantee  had 
been  activated,  provided  that  these  payments  have  not  been  recorded  as 
revenues; 

of  any  margin  available  under  the  ceiling  of  category  4  of  the  financial 
perspectives or redeployment therein. In this case, the budget line 01 04 01 07 
“European Community Guarantee for the borrowing programmes contracted by 
the Community to provide financial assistance to the countries of the Western 
Balkans” would be activated. 

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In  order  to  fulfil  its  obligations,  the  Commission  can  provisionally  ensure  the  debt 
service  with  funds  from  its  treasury.  In  that  case,  Article  12  (3)  of  the  Council 
Regulation (EC, EURATOM) No 1150/2000 of 22 May 2000 will apply. 

8. 

FRAUD PREVENTION MEASURES 

Before  the  implementation  of  this  assistance,  the  Commission  services,  with  the 
support of duly mandated experts, will check the reliability of financial circuits and 
administrative procedures of the Central Bank and the Ministries of Finance (at State 
and Entity level) of Bosnia and Herzegovina. To this end an Operational Assessment 
has been commissioned, in the context of the ongoing process of assessment of these 
circuits  and  procedures  in  all  third  countries  benefiting  from  macro-financial 
assistance,  in  order  to  fulfil  requirements  implied  by  the  Financial  Regulation 
applicable  to  the  General  Budget  of  the  European  Communities.  Its  results  were 
expected  by  September  2004.  This  will  cover  areas  like  management  structure  and 
organisation,  reporting  tools,  management  and  control  of  funds,  IT  process  and 
security,  internal  and  external  audit  capacity,  as  well  as  the  independence  of  the 
central bank. Subject to the operational assessment’s findings, prior actions could be 
required before the release of the outstanding funds. 

This  review,  the  purpose  of  which  will  be  announced  and  clearly  explained  to  the 
authorities concerned, will also take into consideration available conclusions of IMF 
Safeguard  Assessments  and  of  other  relevant  reports  by  the  IMF  and  the  World 
Bank. 

Moreover, fraud prevention measures have been agreed following a December 2003 
amendment  to  the  SMoU,  consisting  in  a  set  of  provisions  on  inspection,  fraud 
prevention, audits, and recovery of funds in case of fraud or corruption.  

Finally, the assistance will be liable to verification, control and auditing procedures 
under the responsibility of the Commission, including the European Antifraud Office 
(OLAF), and the European Court of Auditors. 

9. 

ELEMENTS OF COST-EFFECTIVENESS ANALYSIS 

a)  Grounds for the operation and specific objectives 

By  supporting  the  country’s  macro-economic  reform  efforts  and  complementing 
financing by the International Community provided to this country in the context of 
the IMF-supported programme, this assistance would underpin its transition towards 
a market economy.  

b)  Monitoring and evaluation 

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This  assistance  is  of  macro-economic  nature  and  its  monitoring  and  evaluation  is 
undertaken  in  the  framework  of  the  IMF-supported  stabilisation  and  reform 
programme  that  the  beneficiary  country  is  implementing.  In  particular,  the 
monitoring  of  the  action  by  the  Commission  services  takes  place  on  the  basis  of  a 
genuine system of macro-economic and structural policy indicators agreed with the 
authorities of the beneficiary country. In this process, the Commission services may 
also  monitor  key  areas  identified  in  the  above-mentioned  operational  assessment. 
Finally, they will remain in close contact with the IMF and World Bank services to 
benefit from their assessment of the recipient country’s stabilisation and reform. 

An annual report to the European Parliament and to the Council has been foreseen in 
Council decision 2002/883/EC, and includes an evaluation of the implementation of 
this operation. 

Furthermore,  an  independent  ex-post  evaluation  of  the  assistance  is  foreseen  to  be 
carried  out  by  the  Commission  or  duly  authorised  representatives  one  to  two  years 
after  the  assistance  has  been  implemented  and  the  authorities  of  the  country  are 
committed to supply all necessary information.  

10. 

ADMINISTRATIVE EXPENDITURE 

This action is exceptional by nature and will not involve an increase in the number of 
Commission staff. 

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EX ANTE EVALUATION STATEMENT   

MACRO-FINANCIAL ASSISTANCE TO BOSNIA AND HERZEGOVINA 

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Table of Contents ..................................................................................................................... 13 

Table of Contents 

1. 

1.1. 

1.2. 

2. 

2.1. 

2.2. 

3. 

3.1. 

3.2. 

4. 

5. 

6. 

6.1. 

6.2. 

7. 

Problem analysis and needs assessment..................................................................... 14 

Medium term economic outlook ................................................................................ 14 

Structural reforms in the context of the EC Feasibility Study recommendations 
and the IMF supported programme ............................................................................ 14 

Objectives and Related Indicators of the MFA Operation......................................... 15 

Objectives 15 

Indicators  15 

Alternative delivery mechanisms and risk assessment .............................................. 16 

Delivery mechanisms ................................................................................................. 16 

Risk assessment.......................................................................................................... 16 

Added value of Community involvement .................................................................. 17 

Lessons from the past................................................................................................. 17 

Planning future monitoring and evaluation................................................................ 18 

Monitoring.................................................................................................................. 18 

Evaluation 18 

Achieving cost-effectiveness...................................................................................... 18 

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1. 

PROBLEM ANALYSIS AND NEEDS ASSESSMENT 

Real GDP growth in Bosnia and Herzegovina is estimated to have reached 3.5% in 
2003,  compared  to  5.5%  in  the  previous  year  and  an  average  above  30%  between 
1996 and 1999. In 2004, it is expected to increase to about 5%, on the basis of higher 
foreign  direct  investments  and  exports.  The  consolidated  fiscal  deficit,  excluding 
grants, reached 3% of GDP in 2003 (0.4% after grants,  a slight surplus). The 2003 
current  account  deficit  is  estimated  to  have  reached  around  18%  of  GDP,  from  a 
similar level in 2002.  

1.1 

Economic outlook 

Recent  trends  are  however  more  favourable.  Preliminary  figures  suggest  that 
industrial production grew by 20%  during  the  first  five  months  of  2004.  Growth  is 
expected to be above 5% in 2004. The 2004 budget deficit was initially planned to 
reach  -0.1%  of  GDP.  This  target  will  however  now  be  difficult  to  reach  following 
weak  budget  revenue  performance  over  the  first  semester  2004,  owing  to  a  sharp 
decrease in customs revenue linked to the entry into force of Free Trade Agreements 
with neighbouring countries. 

External  imbalances  are  expected  to  continue  to  put  a  strain  on  the  economy.  The 
current  account  deficit  is  expected  to  reach  around  19%  of  GDP  in  2004,  slightly 
higher that in 2003 (18% of GDP) owing to sustained imports growth, and in spite of 
a  resumption  of  exports  growth  over  the  first  months  of  the  year.  Foreign  direct 
investment  (FDI)  resumed  over  the  last  few  years,  however  from  a  very  low  level. 
The IMF anticipated an increase in FDI from an estimated $ 320 million in 2003 to 
around $420 million in 2004. However this will be insufficient to finance the current 
account  deficit  and  the  country  continues  to  rely  on  donors’  support,  including  EC 
macro-financial assistance, to finance its external financing needs. 

1.2 

Structural  reforms  in  the  context  of  the  IMF  Stand-By  Arrangement  and  the 
EC Feasibility Study recommendations 

Under  the  previous  IMF  Stand-By  Arrangement,  which  was  launched  in  August 
2002, a number of key steps were foreseen to promote the private sector: entry on the 
market  and  streamlined  exit  process,  also  supported  by  a  World  Bank  Business 
Environment  Credit;  privatisation  of  large  strategic  enterprises  slated  for  sale; 
privatisation  and/or  restructuring  of  remaining  state-owned  banks;  and  trade 
liberalisation  measures.  Reforms  progressed  well  in  all  these  areas  and  the 
programme was positively concluded in February 2004. In its February 2004 Review 
of  Bosnia  and  Herzegovina  under  Article  IV  of  its  Statute,  the  IMF  identified  a 
number  of  challenges  which  are  expected  to  be  important  elements  of  the 
forthcoming  Stand-By  Arrangement:  corporate  restructuring  which  needs  to  be 
speeded  up,  notably  with  improved  state-owned  enterprise  governance,  further 
privatisation,  and  the  establishment  of  a  more  business  friendly  environment; 
addressing  labour  market  rigidities;  and  broad  improvements  in  the  fiscal 
architecture, including  shifting of spending  to investment  and operations, preparing 
VAT introduction, and improving fiscal coordination. 

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Furthermore,  the  Commission’s  2003  Feasibility  Study  has  identified  a  number  of 
priorities  to  be  addressed  by  the  country’s  authorities  before  negotiations  on  a 
Stabilisation  and  Association  can  start.  While  a  number  of  these  priorities  aim  at 
addressing political issues, several imply further significant progress with structural 
reforms: a more effective public administration; customs and taxation reform; budget 
legislation  and  practice;  reliable  statistics;  a  consistent  trade  policy;  and  integrated 
energy  market  and  the  development  of  the  BiH  economic  space.  In  the  European 
Partnership  for  Bosnia  and  Herzegovina  adopted  on  14  June  2003,  the  Council 
identified  key  short  term  and  medium  term  priorities  for  BiH,  based  on  the 
Feasibility Study Analysis and, as regards economic policy, very much in line with 
IMF priorities as well.  

2. 

OBJECTIVES AND RELATED INDICATORS OF THE MFA OPERATION 

2.1 

Objectives 

By supporting the country’s macro-economic reform efforts and complementing 
financing  by  the  International  Community  provided  to  this  country  in  the 
context  of  the  IMF  supported  programmes  (the  last  Stand-By  Arrangement 
supported  programme  was  successfully  completed  in  February  2004  and  a 
successor  arrangement  is  expected  to  be  agreed  in  the  third  quarter  of  2004), 
this  assistance  would  underpin  Bosnia  and  Herzegovina’s  transition  towards  a 
market economy. In this context and given the challenges and  needs identified 
above the objectives of the proposed MFA operation are to: 

•  Contribute  to  covering  residual  external  financing  needs  in  the  2004  balance  of 

payments; 

•  Facilitate  and  encourage  efforts  of  BiH  authorities  to  implement  reforms 

(including in the context of Stabilisation and Association process). 

Macroeconomic and structural reform objectives have been detailed in the context of 
the Supplemental Memorandum of Understanding (SMoU) agreed in July 2003: 

•  Public finance reform and administration 

•  Financial sector reform 

•  Private sector development and business environment 

•  Statistics 

2.2 

Indicators 

Quantitative  benchmarks  included  in  IMF  programmes  represent  a  first 
category  of  indicators  of  a  macro-economic  nature.  Performance  indicators 
were  specified 
the  aforementioned  Supplemental  Memorandum  of 
Understanding, in agreement with the authorities of Bosnia and Herzegovina. 

in 

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3. 

ALTERNATIVE DELIVERY MECHANISMS AND RISK ASSESSMENT 

3.1 

Delivery mechanisms 

Macro-financial  Assistance  is  provided  either  in  the  form  of  a  loan,  a  grant  or  a 
combination  of  the  two.  Given  the  country’s  relatively  low  level  of  development 
(Bosnia Herzegovina’s GDP per capita stands at some EUR 1400 and the country is 
eligible  to  concessional  International  Development  Association  (IDA)  “blended 
terms”),  it  has  been  deemed  appropriate  in  the  2002  Council  decision  to  provide  a 
significant  part  of  this  assistance  in  the  form  of  a  grant  (EUR  40  million)  and  the 
remainder (EUR 20 million) in  the form of a loan. On the outstanding undisbursed 
amount (EUR 25 million), the share of the grant and loan components is respectively 
EUR 15 and EUR 10 million. 

Macro-financial  assistance  is  an  untied  and  undedicated  macro-economic  support, 
which  helps  the  country  meet  its  external  financing  needs,  including  through  a 
reinforcement of reserves and budget support. Project support would not be able to 
fill this need in the same way, since it could for example not be used for servicing the 
country’s  external  debt  or  strengthening  its  reserves  position.  Moreover,  as 
experienced  with  similar  operations,  including  in  Bosnia  and  Herzegovina,  the 
economic policy  conditionality attached to  this  support strengthens the  stabilisation 
and reform process. 

3.2 

Risk assessment 

There is a risk that macro-financial assistance, which is not dedicated to specific 
expenses  (contrary  to  project  financing,  for  example),  would  be  used  in  a 
fraudulent  way.  Generally  speaking,  this  risk  is  related  to  factors  such  as  the 
independence of the central bank, quality of systems and procedures related to 
the  management,  control  and  processing  of  such  assistance,  IT  security  and 
internal/external  audit  capacity.  Although  the  provision  of  assistance  in  the 
form  of  project  support  may  seem  to  be  an  alternative,  it  does  not  fulfil  the 
country’s need for unaffected financing (i.e. not earmarked for specific projects) 
under the IMF programme and also carries other risks of fraud.  

To  mitigate  the  risks  of  fraudulent  use,  several  measures  have  been  taken.  In 
December  2003  an  amendment  to  the  SMoU  was  agreed,  consisting  in  a  set  of 
provisions on inspection, fraud prevention, audits, and recovery of funds in case of 
fraud  or  corruption.  Also,  macro-financial  assistance  is  paid  to  clearly  identified 
accounts of the central bank or the government. Moreover, before the release of the 
outstanding  third  tranche  of  this  assistance,  the  Commission  services,  with  the 
support of duly mandated experts, are proceeding to a check the reliability of Bosnia 
and  Herzegovina’s  financial  circuits,  administrative  procedures,  as  well  as  internal 
and  external  control  mechanisms  that  are  relevant  to  this  type  of  assistance  (see 
Financial  Statement,  section  8).  An  operational  assessment  on  the  reliability  of  the 
country’s financial circuits and administrative procedures has been commissioned to 
this end and its results were expected by September 2004. 

Finally, the assistance will be liable to verification, control and auditing procedures 
under the responsibility of the Commission, including the European Antifraud Office 
(OLAF), and the European Court of Auditors. 

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4. 

ADDED VALUE OF COMMUNITY INVOLVEMENT 

In  August  2002,  the  IMF  board  approved  a  15  month  Stand-By  Arrangement 
covering  the  period  August  2002-November  2003.  The  main  priorities  of  the 
programme were to continue with fiscal consolidation, maintain strong international 
reserves,  and  keep  inflation  at  low  levels  (through  strict  adherence  to  the  currency 
board  arrangement),  and  further  structural  reforms.  The  Bosnian  authorities  made 
good progress in the course of the programme which was successfully completed at 
the  last  IMF  board  review  of  February  2004.  In  this  last  review  the  IMF  expected 
outstanding amounts  of  EC  macro financial assistance  to be fully released in  2004. 
Without  the  EC  complementary  macro-support,  there  is  a  risk  that  balance-of-
payments  developments  foreseen  by  the  Fund  will  not  be  achievable  in  2004.  This 
could  affect  the  level  of  foreign  currency  reserves  of  BiH  which  is  crucial  in  the 
context  of  the  currency  board  arrangement  governing  the  monetary  and  exchange 
rate  regime  of  Bosnia  and  Herzegovina,  and  to  some  extent  undermine  the  BiH 
governments’ efforts to pursue their stabilisation and reform policies. 

Furthermore, this assistance would encourage and support efforts that are considered 
of  particular  importance  for  the  EC.  This  includes  conditions  included  in  the 
IMF/WB programmes, as well as priorities identified in the context of the Feasibility 
Study  such  as  e.g.  state-wide  indirect  tax  administration  reform,  enhancements  of 
public finance management and of the statistical system, which are a common policy 
conditions  of  the  above  mentioned  Supplemental  Memorandum  of  Understanding 
and of the Feasibility Study. 

Finally,  macro-financial  assistance  complements  the  Community  Assistance  for 
Reconstruction,  Development  and  Stabilisation  (CARDS)  programme  which  since 
2001  has  been  the  main  EC  financial  instrument  for  co-operation  for  the  Western 
Balkan  countries,  and  for  Bosnia  and  Herzegovina  in  particular.  The  EC  annual 
CARDS  assistance  programme  amounted  to  EUR  63  million  in  2003  and  EUR  65 
million  in  2004.  Its  main  priorities  in  Bosnia  and  Herzegovina  are  ‘Economic  and 
Social  Development’, 
‘Administrative  Capacity 
‘Democratic  Stabilisation’, 
Building’, ‘Environmental and Natural Resources’, and ‘Justice and Home Affairs’. 

5. 

LESSONS FROM THE PAST 

In  the  past,  macro-financial  assistance  to  Bosnia  and  Herzegovina  and  other 
countries has proven to be instrumental in supporting strong stabilisation and reform 
programmes also backed by IMF arrangements and it has become clear that a proper 
articulation  between  EC  and 
to  ensure 
complementary and mutual support, but avoiding a too heavy cross conditionality. 

IMF  conditionality 

is  necessary 

Although  macro-financial  assistance  was  initially  provided  mainly  in  the  form  of 
loans, presently assistance often combines loans and grants, taking into account the 
country’s level of income and the reimbursement capacity.  

With regard to the recommendations made in the Discharge on the budget execution 
for  2001  and  also  in  the  Court  of  Auditors'  Special  report  n°  1/2002  concerning 
macro-financial  assistance  to  third  countries,  the  Commission  services  have  given 

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due  consideration  to  the  five  Genval  criteria  (exceptional  character,  political  pre-
conditions, complementarity, conditionality and financial discipline). 

6. 

PLANNING FUTURE MONITORING AND EVALUATION 

This  assistance  is  of  macro-economic  nature  and  its  monitoring  and  evaluation  is 
undertaken  in  the  framework  of  the  IMF-supported  stabilisation  and  reform 
programme that Bosnia and Herzegovina has been implementing and was expected 
to resume in the context of a 15-month Stand-By Arrangement tentatively scheduled 
to start in October 2004. 

6.1 Monitoring 

The  monitoring  system  is  ensured  by  the  provision  of  reports  and  data  by  the 
authorities  as  set  out  in  the  Memorandum  of  Understanding  and  the 
organisation  of  review  missions  in  the  country  concerned.  Although  this 
assistance is centrally managed, where appropriate, Commission delegations on 
the spot may also be called to provide reporting. 

In particular, the monitoring of the action by the Commission services takes place on 
the  basis  of  a  genuine  system  of  macro-economic  and  structural  policy  indicators 
agreed  with  the  authorities  of  the  beneficiary  country.  In  this  process,  the 
Commission services may also monitor key areas identified in the above-mentioned 
operational assessment. Finally, they will remain in close contact with the IMF and 
World  Bank  services  to  benefit  from  their  assessment  of  the  recipient  country’s 
stabilisation and reform. 

An  annual  report  to  the  European  Parliament  and  to  the  Council  is  foreseen  in 
Council  Decision  2002/883/EC  (Article  5),  which  will  include  an  evaluation  of  the 
implementation of this operation. 

6.2 

Evaluation 

In  the  context  of  DG  ECFIN’s  Multi-annual  Evaluation  Programme,  two  to 
three ex-post evaluations of MFA operations are planned per year. It is in this 
framework that an independent evaluation of the assistance will be carried out 
by  duly  authorised  representatives  of  the  Commission  in  the  course  of 
2005/2006.  Financial  resources  for  this  evaluation  will  be  drawn  from  the 
corresponding MFA budget line. 

7. 

ACHIEVING COST-EFFECTIVENESS 

The  Commission  is  proposing  that  the  Community  extends  the  availability  of 
outstanding amounts of EUR 25 million under the 2002 Council Decision beyond the 
initial expiry date of 9 November 2004 as a complement to funding available from 
the IMF, World Bank and other donors, in the form of a grant (€ 15 million) and the 
remainder (EUR 10 million) in the form of a loan.  

In  view  of  Bosnia  and  Herzegovina’s  external  constraints,  the  loan  will  carry  a 
maturity of 15 years with a 10-year grace period, which is comparable to conditions 

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of macro-financial assistance loans provided to other Western Balkan countries. The 
adoption  of  this  assistance  would  not  require  any  additional  provisioning  of  the 
Guarantee Fund, given current provisioning rules which require the provisioning to 
take  place  upfront  after  the  assistance  is  decided  by  the  Council.  Accordingly,  as 
indicated  in  the  Financial  Statement  EUR  1.8  million  were  already  provisioned  in 
2002  corresponding  to  the  full  loan  component  (EUR  20  million)  of  Council 
Decision 2002/883/EC. 

This action is exceptional by nature and will not involve an increase in the number of 
Commission staff. 

The  loan  and  grant  components  of  this  assistance  will  be  made  available  by  the 
Commission to Bosnia and Herzegovina in one remaining instalment, as foreseen in 
the above mentioned July 2003 SMoU, on the basis of a satisfactory track record of 
the  macro-economic  programme  of  Bosnia  and  Herzegovina  and  the  economic 
policy and financial conditions attached to the assistance. 

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