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DE RUEHSQ #0294/01 1740917
ZNR UUUUU ZZH
R 230917Z JUN 09
FM AMEMBASSY SKOPJE
TO RUEHC/SECSTATE WASHDC 8334
INFO RHEHNSC/NSC WASHDC
RUEATRS/DEPT OF TREASURY WASHDC
RUEHZL/EUROPEAN POLITICAL COLLECTIVE 0531

UNCLAS SECTION 01 OF 03 SKOPJE 000294 
 
SENSITIVE BUT UNCLASSIFIED 
SIPDIS 
 
DEPT PLS PASS TO USAID 
TREASURY FOR ERIC MEYER, JEFF BAKER 
 
E.O. 12958: N/A 
TAGS: EFIN ECON PREL EAID MK
SUBJECT:  MACEDONIA:  PARLIAMENT APPROVES REBALANCED BUDGET 
 
SENSITIVE BUT UNCLASSIFIED--NOT FOR INTERNET DISTRIBUTION 
 
Summary 
------- 
¶1. (SBU) On Monday, June 8, Macedonia's parliament approved the 
Government's rebalanced budget.  Although it had been evident to 
many observers that the GoM budget was wildly out of synch with 
economic realities, the GoM had resisted an adjustment until after 
local and presidential elections were complete, and the new 
President sworn in.   The new budget reflects reduced revenues, 
while keeping the budget deficit at its original target of 2.8 
percent of GDP.  Most cuts were in capital expenditures.  The 
distribution of these cuts is noteworthy, with defense taking a 
nearly 20 percent cut that will dramatically limit acquisitions, 
while the Ministry of Culture's budget grew by 14.1 percent.  The 
new budget also cuts significantly investment in the country's NATO 
and EU integration in 2009, a disturbing development.  The budget is 
based on GoM expectations that the economy will grow by 1 percent in 
¶2009.  However, fiscal performance in the first quarter did not 
support the GoM's previous expectations, and many observers doubt 
the economy will meet even this target.  Further, balance of 
payments imbalances have triggered a more restrictive monetary 
policy by the Central Bank, which remains committed to maintaining 
the denar's peg to the Euro.   The GoM has so far chosen to finance 
the budget deficit through commercial borrowing, rather than through 
a less expensive IMF loan, although Macedonia's leaders have not 
ruled out a future IMF program. End summary. 
 
What Triggered Fiscal Adjustment? 
--------------------------------- 
¶2. (U) The GOM underestimated the effects of the global economic 
crisis, in part because the country's somewhat isolated banking 
system was unaffected by the first wave of financial turmoil, and 
because the GoM had come to rely on foreign direct investment (FDI) 
to finance the balance of payments, a policy that was effective 
through the first half of 2008.  However, both FDI and private 
transfer inflows (including remittances) deteriorated significantly 
in early 2009, falling by 37.2 percent and 61.4 percent, 
respectively, in the first quarter of 2009 compared to the same 
period of 2008.  Exports have also fallen by 43.2 percent in the 
first four months of 2009.  Poor performance of Macedonian 
businesses and the shifting of households toward increased saving 
helped to lower budget revenues by ten percent from the initial 
projection for the first quarter of 2009. 
 
Expensive Domestic Borrowing 
---------------------------- 
¶3. (U) Realizing that 5.5 percent GDP growth upon which the 2009 
budget was created was too optimistic, the GOM postponed the budget 
adjustment until after April local and presidential elections.  To 
bridge that period, the GoM borrowed domestically by selling 28-day 
Treasury Bills at interest rates of about 9 percent.  This maneuver 
tightened denar liquidity in the banking sector and led to a further 
reduction of the country's foreign currency reserves, down to 1.167 
billion euro by the end of May.  This put serious depreciation 
pressures on the domestic currency, resulting in stricter monetary 
tightening through increased rates on Central Bank bills and on 
reserve requirements, as well as changed liquidity requirements for 
banks. 
 
Slight Budget Cut 
----------------- 
¶4. (U) The budget rebalance was spun by the GoM as being part of a 
larger package of anti-crisis measures.  However, the budget was cut 
only by 6.2 percent, and the deficit target of 2.8 percent of GDP, 
widely criticized by leading economists and bankers, remains intact. 
 The central government budget (a measure excluding the budget of 
the extra-budgetary funds - Health Fund, Pension Fund, and 
Employment Agency) was cut by 9.3 percent, and its deficit lowered 
from 2.42 to 2.28 percent of GDP.  These latest targets are based on 
a projection for real GDP growth of one percent in 2009, in contrast 
to the IMF's prediction of minus two percent real GDP growth. 
 
Revenues Down, But Spending is Up 
--------------------------------- 
¶5. (U) During the period January - April 2009, total revenues in the 
central budget were 8.4 percent less than in the same period of the 
previous year.  Tax revenues were down by 8.5 percent, and non-tax 
revenues by 7.2 percent.  Value Added Tax (VAT), the single largest 
contributor on the revenues side, was down by 5.9 percent.  At the 
same time, total expenditures rose by 21.6 percent compared to the 
period January - April 2008.  Spending on capital projects exceeded 
last year's by 24 percent, a spending pattern not seen in previous 
years, when spending was limited until November-December.  Current 
expenditures grew by 21.3 percent, mainly driven by the 30.7 percent 
increase of transfers, which include transfer for social benefits, 
local governments, and structural reforms. 
 
SKOPJE 00000294  002 OF 003 
 
 
 
¶6. (U) Major revenues in USD million 
                      2009        2009         2009 
Type of revenue      budget     rebalance  % of total 
Personal income tax    220         200          9.1 
Profit tax             223         114          5.2 
VAT                    922         838         38.0 
Excise                 314         310         14.1 
Import duties          151         141          6.4 
Non-tax revenues       364         373         16.9 
 
¶7. (U) Major expenditures in USD million 
                       2009        2009        2009 
Type of expenditure   budget    rebalance   % of total 
Wages and allowances    529         509        21.1 
Goods and services      456         371        15.4 
Transfers             1,021       1,007        41.8 
Interest                 67          57         2.4 
Capital expenditures    578         455        18.9 
 
Lower Revenues Across the Board 
------------------------------- 
¶8. (U) With the rebalance, the GOM expects to collect revenues of 
USD 3.11 billion (Note: The budget is presented in Macedonian 
denars.  Exchange rate used for all calculations: 1 USD = 46 
denars.).  Central budget revenues are projected at USD 2.21 
billion, most of which (76.3 percent) are expected from tax 
revenues.  Tax revenues are projected to be 11.9 percent lower in 
the amended budget, primarily as a result of expectations that 
profit tax collections will be almost 50 percent lower than last 
year.  Projected VAT revenues are projected to be 9.1 percent lower 
than in the original 2009 budget. 
 
Cutting Mostly on Capital Expenditures 
-------------------------------------- 
¶9. (U) The GOM plans total expenditures of USD 3.36 billion, out of 
which central government expenditures will amount to USD 2.41 
billion.  In order to be able to bring expenditures into line with 
revenues, the GOM decided to cut capital investments by 21.3 
percent.  Expenditures for wages and allowances, however, were cut 
by only 3.9 percent.  A 10 percent wage increase for public sector 
employees, originally planned for October 2009, and new hiring were 
both cancelled through the end of the year. 
 
¶10. (U) Expenditures for goods and services were cut by 18.6 
percent, mainly reducing travel expenses, representation, cell phone 
usage, as well as honoraria and bonuses for members of various 
commissions within government administration.  Transfers remained 
approximately at the level of the original 2009 budget in order to 
provide timely coverage for social benefits, pensions, health 
services, as well as transfers to local governments. 
 
Defense, NATO and EU Integration Take a Hit 
------------------------------------------- 
¶11. (U) The Ministry of Defense was one of the big losers in the 
budget rebalance, taking an almost 20 percent cut.  This will result 
in deep cuts to acquisitions and may result in slowed modernization. 
 Likewise, the budget for NATO integration was cut almost four-fold, 
from USD 14.1 million to USD 3.6 million, and the budget for EU 
integration was reduced from USD 20.6 million to USD 6.6 million. 
The cuts in the GoM's NATO integration program, which is entirely in 
the hands of the Ministry of Defense, will largely affect supplies, 
repairs, and maintenance.  The rebalanced budget for EU integration 
will result in fewer funds for building human and institutional 
capacities within the GoM, but also significantly lower expectations 
for financing from the EU's IPA funds. 
 
Economic Promotion and Cultural Heritage Continue 
--------------------------------------------- ---- 
¶12. (U) On the other hand, the GOM is not giving up on culture and 
promotion of the "New Business Heaven in Europe."  The Ministry of 
Culture's budget was increased by 14.1 percent, with expenditures 
for building and/or reconstructing "objects of cultural heritage" 
growing by 29.6 percent.  (Note:  While we believe this includes 
funding of statues, churches, and other controversial objects, we 
have heard through different sources that these projects will be 
placed on hold or not funded with government money.  End Note.) 
Additionally, promotion of Macedonia in the world's leading 
magazines, newspapers and TV stations will continue, keeping the 
planned expenditures at about the level of the original 2009 budget. 
 According to the rebalanced budget, officially the GoM intends to 
spend about USD 10 million for economic promotion. 
 
Deficit at the Original Target 
------------------------------ 
¶13. (U) With revised revenues and expenditures, the GoM still 
insists on keeping the general government budget deficit target at 
 
SKOPJE 00000294  003 OF 003 
 
 
2.8 percent of GDP.  This is in keeping with consistent statements 
by GoM officials that the target deficit would be maintained.  To 
finance the deficit, the GoM has resorted to borrowing domestically 
by selling government paper, and from abroad by issuing Eurobonds 
and taking loans from commercial creditors.  The GoM continues to 
view a potential IMF program with suspicion, arguing that it would 
hurt the country's reputation.  However, Minister of Finance 
Slaveski has stated publically that the GoM would take an IMF 
program if needed, although this would be a "last resort." 
 
Comment 
------- 
¶14. (SBU) Although the rebalanced budget makes appropriate 
adjustments for falling revenues, we and many other observers assess 
that this budget does not go far enough.  Macedonia's external 
account is worsening, and imports nearly double exports.  Central 
bank currency reserves are down to 1.167 billion euro, down from a 
September 2008 high level of 1.7 billion.  A number of interlocutors 
have told us that Macedonia will muddle through the summer, a time 
when economic activity slows and returning diaspora traditionally 
infuse cash into the economy.  However, many see potential problems 
for the country when activity increases in the fall.  If government 
revenues remain low, a second adjustment to the budget - and perhaps 
an IMF program to protect the currency peg -- will be unavoidable. 
End comment. 
 
NAVRATIL