albania february 2011

Country Report

Albania

February 2011

Economist Intelligence Unit 26 Red Lion Square London WC1R 4HQ United Kingdom

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ISSN 1366-4018

Symbols for tables �0 or 0.0� means nil or negligible; �n/a� means not available; �� means not applicable

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Albania 1

Country Report February 2011 www.eiu.com © The Economist Intelligence Unit Limited 2011

Contents

Albania

3 Summary

4 Basic data

5 Political structure

6 Economic structure 6 Annual indicators 7 Quarterly indicators 8 Comparative economic indicators

9 Outlook for 2011-12 9 Political outlook 11 Economic policy outlook 13 Economic forecast

15 The political scene

20 Economic policy

25 The domestic economy

27 Foreign trade and payments

List of tables 13 International assumptions summary 15 Forecast summary 22 General government budget 23 Medium-term macroeconomic framework 25 Quarterly GDP growth 26 Consumer prices, 2010 27 Employment and unemployment 30 Current account

List of figures 15 Gross domestic product 15 Consumer price inflation 27 Exchange rates

2 Albania


MALESI EMALESI EMADHEMADHE

MALESI EMADHE

SHKODER

TROPOJE

PUKE

HAS

KUKESKUKESKUKES

MIRDITE

MATKURBINKURBINKURBIN

KRUJEKRUJEKRUJE

TIRANE

KAVAJEKAVAJEKAVAJE

PEQINPEQINPEQIN

ELBASAN

LIBRAZHDLIBRAZHDLIBRAZHD

LUSHNJELUSHNJELUSHNJE

KUCOVEKUCOVEKUCOVE GRAMSH POGRADECPOGRADECPOGRADEC

KORCE

SKRAPAR

PERMET

GJIROKASTERGJIROKASTERGJIROKASTER

DELVINEDELVINEDELVINE

SARANDE

KOLONJEKOLONJEKOLONJE

BERAT

FIER

VLORE

TEPELENETEPELENETEPELENE

MALLAKASTERMALLAKASTERMALLAKASTER

DEVOLL

DURRES

DIBER

BULQIZE

LEZHELEZHELEZHE

ALBANIAALBANIAALBANIAMACEDONIA

GREECE

ITALY

ADRIATIC SEA

IONIAN SEA

Strait of Otranto

MONTENEGRO SERBIA

TIRANADurres

ElbasanElbasanElbasan

Korce

VloreVloreVlore

ShShkoderkoderShkoder

KavajeKavajeKavaje

LushnjeLushnjeLushnje

Berat

HimareHimareHimare

SarandeSarandeSarande

BallshBallshBallsh

KucoveKucoveKucove

PogradecPogradecPogradec

ErsekeTepeleneTepeleneTepelene

GjirokasterGjirokasterGjirokaster

Fier

CerrikCerrikCerrik

LibrazhdLibrazhdLibrazhd

KrujeKrujeKruje

BurrelBurrelBurrel

PeshkopiPeshkopiPeshkopiPeshkopiPeshkopi

PukePukePuke

KoplikKoplikKoplik

KukesKukesKukes

LezheLezheLezhe

N

o r t h A l b a n i a n A l p s

N

o r t h A l b a n i a n A l p s

LakeShkoder

Pellgu i Drinit

Gjiri i Lalezit

Gjiri i Durresit

Gjoli i Nartes

Sazan I.

LakeOhrid

LakePrespa

KOSOVO

Gjiri i Vlores

© The Economist Intelligence Unit Limited 2011

0 km 30 60

0 miles 15 30

R. Vijose

R. Drin

iZi

Railway

Main road

International boundary

District boundary

Airport

Capital

Major town

Other town

Albania 3


Albania February 2011

Summary

The government, which took office in September 2009, is expected to be less stable than its predecessors, because it has a small majority. The prime minister, Sali Berisha, and his centre-right Democratic Party of Albania (DPA) will need to rely on the support of their long-standing political adversary, Ilir Meta, whose Socialist Movement for Integration (SMI) joined the DPA as a junior coalition partner. The position of the SMI will remain precarious, with Mr Meta facing allegations of corruption. Albania has only a slim chance of becoming an EU candidate by end-2012, and for that to happen the government and the opposition need to engage in a constructive dialogue to accelerate reforms. The Economist Intelligence Unit forecasts that real GDP growth will rise to an average of 4.3% in 2011-12, from an estimated 3.4% in 2010. We expect inflation to average 3.7% in 2011-12. The current-account deficit is expected to shrink to an average of 9.2% of GDP in 2011-12, from an estimated 12.4% of GDP in 2010.

Political tension caused by the dispute over the results of the parliamentary election in June 2009 escalated sharply after four protesters were killed in an anti-government demonstration in January. Mr Meta resigned as deputy prime minister and economy minister following corruption allegations. Unlike Monte-negro, Albania failed to get EU candidate status at the EU summit in December, following a negative recommendation from the European Commission.

The budget deficit shrank to an estimated 3.1% of GDP in 2010, from 7.2% of GDP in 2009, following a sharp cut in capital expenditure on infrastructure projects and increased tax receipts. The medium-term macroeconomic framework, adopted in February, sets a 3% ceiling on the annual budget deficit. Among tax changes adopted from February, value-added tax (VAT) has been extended to professions, regardless of the level of turnover.

Real GDP increased by 4.9% year on year in the third quarter of 2010, but seasonally adjusted quarter-on-quarter growth slowed to 1.6% (from 2.6% in the previous quarter). Industrial output rose by 18% year on year in the third quarter. Average inflation in the final quarter slowed to 3.1%.

The foreign trade deficit in 2010 shrank by 3% year on year, to Lk317bn (US$3.1bn), as exports soared by 56% whereas imports rose by only 11%. The third-quarter current-account deficit contracted by 45% year on year, to �210m (US$271m), owing to higher surpluses on the services and income accounts.

Editors: Gabriel Partos (editor); Joan Hoey (consulting editor) Editorial closing date: February 10th 2011 All queries: Tel: (44.20) 7576 8000 E-mail: [email protected] Next report: To request the latest schedule, e-mail [email protected]

Outlook for 2011-12

The political scene

Economic policy

The domestic economy

Foreign trade and payments

4 Albania


Basic data

28,748 sq km

3,069,000 (census of April 1st 2001 of resident population, not including those temporarily working or seeking work abroad)

Population according to the 2001 census

Tirana (capital) 341,453 Durres 113,465 Elbasan 85,798 Shkoder 85,789 Vlore 85,180 Fier 76,166 Korce 58,911

Mediterranean on the coastal plain, much harsher in mountainous areas

Hottest month: August, 17-31°C; coldest month: January, 2-12°C; driest months: July and August, 32 mm average rainfall; wettest month: December, 211 mm average rainfall

Albanian

Metric system

Lek (Lk) = 100 qindarkas

One hour ahead of GMT in winter; two hours ahead in summer

Calendar year

January 1st-2nd (New Year), March 15th (Summer Day), March 22nd (Nevruz), April 25th (Easter), May 1st (Labour Day), August 30th (Lesser Bajram), October 19th (Mother Teresa Day), November 6th (Greater Bajram), November 28th (Independence Day), November 29th (Liberation Day), December 25th (Christmas Day)

If a public holiday falls on a Saturday, the previous Friday is taken as a non-working day; if a public holiday falls on a Sunday, the following Monday is a non-working day

Population

Main towns

Climate

Weather in Tirana (altitude 89 metres)

Language

Measures

Currency

Time

Fiscal year

Public holidays

Total area

Albania 5


Political structure Republic of Albania

The current constitution was adopted by referendum on November 22nd 1998 and came into effect on November 28th 1998. It replaced the interim constitution that had been in place following the abandonment of the Marxist-inspired constitution in April 1991

Unicameral Assembly of 140 members elected by proportional representation from 12 regional lists

Albania held a parliamentary election on June 28th 2009. Next election due in mid-2013

President, currently Bamir Topi, who was elected by parliament on July 20th 2007 and sworn in for a five-year term on July 24th

Coalition government, led by the Democratic Party of Albania, sworn in on September 17th 2009

Democratic Party of Albania (DPA), Socialist Movement for Integration (SMI), Republican Party (RP), Agrarian and Environmentalist Party (AEP), Liberal Democratic Union (LDU); Party for Justice and Integration; Socialist Party of Albania (SPA), Social Democratic Party (SDP), Democratic Alliance Party (DAP), Party of Social Democracy (PSD), Real Socialist Party '91 (RSP '91), Human Rights Union Party (HRUP), Christian Democratic Party (CDP), G99, Movement for National Development (MND)

Prime minister Sali Berisha (DPA) Deputy prime minister Edmond Haxhinasto (SMI) Minister of state for reforms Genc Pollo (DPA)

Agriculture & food Genc Ruli (DPA) Culture, tourism & sport Ferdinand Xhaferi (DPA) Defence Arben Imami (DPA) Economy, trade & energy Nasip Naco (SMI) Education & science Myqerem Tafaj (DPA) Environment & water Fatmir Mediu (RP) European integration Majlinda Bregu (DPA) Finance Ridvan Bode (DPA) Foreign affairs Edmond Haxhinasto (SMI) Health Petrit Vasili (SMI) Internal affairs Lulzim Basha (DPA) Justice Bujar Nishani (DPA) Labour & equal opportunities Spiro Ksera (DPA) Public works, transport & telecommunications Sokol Olldashi (DPA)

Jozefina Topalli (DPA)

Ardian Fullani

National legislature

National elections

Head of state

National government

Main political parties

Members of the government

Key ministers

Assembly speaker

Legal system

Central bank governor

Official name

6 Albania


Economic structure

Annual indicators

2006a 2007a 2008 a 2009 a 2010b

GDP at market prices (Lk bn) 896 980 1,086 1,125 1,180

GDP (US$ bn) 9.1 10.8 12.9 11.8 11.4

Real GDP growth (%) 5.4 5.9 7.7 3.3 3.4

Consumer price inflation (av; %) 2.4 2.9 3.4 2.3 3.6a

Population (m) 3.1 3.1 3.1 b 3.2 b 3.2

Exports of goods fob (US$ m) 792.9 1,076.0 1,355.6 1,048.0 1,551.5a

Imports of goods fob (US$ m) -2,915.7 -3,978.3 -4,907.5 -4,264.2 -4,604.3a

Current-account balance (US$ m) -670.8 -1,212.4 -2,048.1 -1,844.8 -1,405.6

Foreign-exchange reserves excl gold (US$ m) 1,768.8 2,104.2 2,319.8 b 2,313.9 b 2,520.4

Exchange rate Lk:US$ (av) 98.10 90.43 83.89 94.98 103.94a

a Actual. b Economist Intelligence Unit estimates.

Origins of gross domestic product 2009 % of total Components of gross domestic product 2009 % of totalAgriculture 18.9 Private consumption 78.7Industry 9.3 Public consumption 10.1

Construction 14.2 Gross fixed investment 38.3Transport 5.4 Exports of goods & services 27.6

Other services 29.6 Imports of goods & services -53.9 Principal exports 2010 % of total Principal imports 2010 % of totalTextiles & footwear 34.4 Machinery 19.4Minerals, fuel & electricity 27.8 Food, beverages & tobacco 18.2

Building materials 20.0 Building materials 16.0Food, beverages & tobacco 5.8 Minerals, fuel & electricity 15.4Machinery 4.2 Chemical & plastic products 11.8

Main destinations of exports 2010 % of total Main origins of imports 2010 % of totalItaly 50.8 Italy 28.2Kosovo 6.2 Greece 13.1Turkey 6.0 China 6.3

China 5.5 Turkey 5.7

Albania 7


Quarterly indicators 2009 2010

1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr

Government finances (Lk m)

Revenue 72,210 72,962 76,022 78,308 77,172 76,361 83,437 87,921

Expenditure 76,042 102,201 91,619 110,001 76,473 92,660 91,753 101,078

Balance -3,832 -29,239 -15,597 -31,693 699 -16,299 8,316 13,157

Prices

Consumer prices (2005=100) 111.3 111.1 110.4 112.8 116.1 114.9 114.2 116.2

Consumer prices (% change, year on year) 1.8 2.1 2.1 3.1 4.3 3.4 3.4 3.1

Financial indicators

Exchange rate Lk:US$ (av) 98.59 96.41 92.01 92.91 100.23 107.88 105.68 101.96

Exchange rate Lk:US$ (end-period) 98.63 92.73 91.88 95.81 103.31 111.44 101.46 104.00

Treasury bill rate (av; %) 6.1 6.3 6.3 6.3 6.2 5.9 5.7 n/a

M1 (end-period; Lk bn) 272.0 282.6 277.6 284.5 268.5 268.9 272.5 n/a

M1 (% change, year on year) 26.4 28.8 21.7 0.6 -1.3 -4.8 -1.8 n/a

M2 (end-period; Lk bn) 545.3 562.1 563.5 578.2 575.3 583.0 590.6 n/a

M2 (% change, year on year ) 9.4 10.8 7.8 4.2 5.5 3.7 4.8 n/a

Foreign trade & paymentsa (� m)

Exports fob 175.7 183.5 186.0 205.5 254.9 340.5 270.3 n/a

Imports fob -692.5 -762.5 -792.6 -806.9 -673.9 -823.4 -866.2 n/a

Trade balance -516.8 -579.0 -606.6 -601.3 -419.0 -482.9 -595.9 n/a

Services balance -21.2 -18.6 126.2 34.5 -19.3 -0.2 166.8 n/a

Income balance -5.0 -4.4 -60.7 -30.5 -19.2 -16.1 28.9 n/a

Transfers balance 216.4 290.6 158.1 272.8 210.9 282.5 190.6 n/a

Current-account balance -326.5 -311.3 -383.1 -324.6 -246.6 -216.7 -209.6 n/a

Reserves excl gold (end-period; US$ m) 2,048.3 2,341.4 2,467.4 2,313.9 2,193.9 2,099.7 2,331.5 n/a

a Data from the Bank of Albania.

Sources: Bank of Albania, Monthly Statistical Report; Institute of Statistics, Indeksi i Cmimeve te Konsumit; Situation of Foreign Trade Monthly Brief; Konjuktura; IMF, International

Financial Statistics.

8 Albania


Comparative economic indicators Pl ea se se e g ra p hi c b el ow

Comparative economic indicators, 2009

Gross domestic product(US$ bn; market exchange rates)

Gross domestic product(% change, year on year)

Consumer prices(% change, year on year)

Sources: Economist Intelligence Unit estimates; national sources.

Sources: Economist Intelligence Unit estimates; national sources.Sources: Economist Intelligence Unit estimates; national sources.

Sources: Economist Intelligence Unit estimates; national sources.

Gross domestic product per head(US$ '000; market exchange rates)

0 50 100 150 200 250

Kyrgyz RepublicTajikistan

MoldovaTurkmenistan

ArmeniaMacedonia

GeorgiaAlbania

Bosnia and HercegovinaEstonia

LatviaUzbekistan

LithuaniaAzerbaijan

SerbiaBulgariaBelarus

SloveniaCroatia

SlovakiaKazakhstan

UkraineHungaryRomania

Czech RepublicPolandRussia

0.0 5.0 10.0 15.0 20.0 25.0

TajikistanKyrgyz Republic

UzbekistanMoldova

TurkmenistanGeorgiaUkraine

ArmeniaAlbania

MacedoniaBosnia and Hercegovina

AzerbaijanBelarus

SerbiaBulgaria

KazakhstanRomania

RussiaLithuania

PolandLatvia

HungaryCroatiaEstonia

SlovakiaCzech Republic

Slovenia

-5.0 0.0 5.0 10.0 15.0 20.0

MacedoniaBosnia and Hercegovina

EstoniaMoldovaSlovenia

Czech RepublicAzerbaijan

SlovakiaGeorgiaAlbaniaCroatia

BulgariaArmenia

PolandLatvia

HungaryLithuaniaRomania

TajikistanKyrgyz Republic

KazakhstanSerbia

TurkmenistanRussia

BelarusUzbekistan

Ukraine

-20.0 -15.0 -10.0 -5.0 0.0 5.0 10.0

LatviaUkraine

LithuaniaArmeniaEstonia

SloveniaRussia

RomaniaHungaryMoldova

TurkmenistanCroatia

BulgariaSlovakia

Czech RepublicGeorgia

SerbiaBosnia and Hercegovina

MacedoniaBelarus

KazakhstanPoland

Kyrgyz RepublicAlbania

TajikistanUzbekistanAzerbaijan

1,231.8430.5

Albania 9


Outlook for 2011-12

Political outlook

The government formed by the incumbent prime minister, Sali Berisha, in September 2009 appears less stable than its predecessors, because it has a wafer-thin parliamentary majority. In the election in June 2009 the electoral alliance led by Mr Berisha's centre-right Democratic Party of Albania (DPA) won 70 of the 140 seats�the first time since the restoration of multiparty elections in 1991 that a winning party or alliance failed to secure a majority. Mr Berisha's response was to bring into the ruling coalition the small, centre-left Socialist Movement for Integration (SMI) to ensure that the government has a parliamentary majority. This gives considerable power to the SMI leader, Ilir Meta, who broke away from the Socialist Party of Albania (SPA) in 2004 after he was dislodged from the SPA-led government by party rivals. However, Mr Meta's position has become precarious recently, following allegations of corruption, which forced him to step down, in January 2011, from his posts of deputy prime minister and economy minister.

The ruling coalition may come under strain over corruption claims

Although the junior partner in the ruling coalition, the Socialist Movement for Integration (SMI), has only four seats in parliament, the SMI's leader, Ilir Meta, has exacted a high price for keeping the prime minister, Sali Berisha, in office. Mr Meta secured the posts of deputy prime minister and economy minister for himself, as well as one-fifth of all senior posts in the administration for his party. Although Mr Meta resigned from the government in January to face allegations of corruption, he remains SMI leader, and his party retains its strength in the coalition government. Having a coalition partner that holds the balance of power in parliament has been a new experience for Mr Berisha, who is not used to sharing power. In the past, critics of his style of government, whether in his centre-right Democratic Party of Albania (DPA), or among its allies, either left the leadership or were forced out. This time the situation is different, because a rift between Mr Berisha and Mr Meta could bring down the government. Despite the many points of possible discord between the partners in the ruling coalition, so far only one disagreement has come to the fore, with the SMI blocking, in July 2010, Mr Berisha's attempt to pass a new law on the State Intelligence Service (SIS). Apart from this incident, the government has functioned relatively well and is expected to continue to do so for now, with Mr Berisha having come to terms with the need for sharing power and Mr Meta enjoying his return to office�although, since his resignation from the government, he has been exerting his influence more indirectly, through his party colleagues who remain ministers. However, the smooth functioning of the ruling coalition, and the survival of the government itself, could be threatened if Mr Meta, who is the linchpin in the current arrangement, is put on trial on charges of corruption. Mr Berisha and Mr Meta will seek to put to rest claims by the opposition Socialist Party of Albania (SPA) of irregularities in vote-counting in several electoral districts in the parliamentary election in June 2009�an issue that the leader of the SPA, Edi Rama, remains determined to keep at the top of the political agenda until a solution is found that is acceptable to the SPA. Mr Berisha and Mr Meta will have to find an accommodation with Mr Rama to ensure the SPA's full co-operation in parliament, otherwise there will be further delays to legislation that Albania needs to pass to facilitate the country's integration with the EU.

The government is expected to continue to implement the main policies of its predecessor. These include reforming the public administration, strengthening the rule of law, fighting corruption, improving the business environment, and pursuing EU membership and closer integration with fellow NATO members. Much needs to be done in translating this agenda into practice. The govern-

Domestic politics

10 Albania


ment's unimpressive record on tackling corruption�frequently described by Mr Berisha as his "number one priority"�remains widely criticised. Few senior officials have been put on trial, let alone convicted, in recent years, despite many apparently well documented cases of corruption or negligence of duty.

The organisation of elections is another area with scope for improvement. The latest test�the election in June 2009�again demonstrated that Albania is not yet capable of holding a vote fully in line with international standards. The SPA has continued to dispute the results, and the intensity of mutual suspicion was highlighted when the political tension escalated into violence at an anti-government demonstration on January 21st 2011, which ended with security forces shooting four protesters dead. Problems over elections are combined with concerns in the US and EU countries regarding the independence of the judiciary. These concerns have been heightened in the aftermath of the violence in January, especially when the police refused to execute the arrest warrants issued by the prosecutor-general against members of the Republican Guard, the protection force for senior officials, who were accused of involvement in the killing of the protesters.

Having reached an accommodation by forming a viable coalition, Mr Berisha and Mr Meta are likely to work together effectively, at least for now, notwithstanding Mr Meta's difficulties over the corruption allegations. Nevertheless, after a while Mr Berisha may decide to hold an early election if he believes that there is an opportune moment to secure a convincing victory. He could do so if the economy�having avoided the recession that affected most of Europe in 2009�continues to perform better than neighbouring economies, and if the SPA fails to recover from the lingering effects of the internal strife engendered by its narrow defeat in the election (it won 66 seats). Although Edi Rama was re-elected SPA leader with the overwhelming support of the party membership in September 2009, he faced vocal opposition for several months from prominent SPA members of parliament (MPs). The SPA dissidents achieved their main goal in February 2010, when the party ended its boycott of the new parliament, a week before the expiry of the six-month deadline for MPs to take up their seats or face disqualification. The SPA's return to parliament marked a setback for Mr Rama, who had launched the boycott in a bid to force a recount of votes in several districts where alleged irregularities took place.

A possible recurrence of the turmoil in the SPA over the tactics to be pursued against the government in the wake of the violence in January could provide an opportunity for Mr Berisha to opt for a pre-term election. However, if an early election is called, it is more likely to come in response to the possible collapse of the governing coalition, particularly if Mr Meta�the driving force behind the SMI�is put on trial on charges of corruption. The local elections scheduled for May 8th 2011 are expected to be the next test of the balance of forces. If the SPA makes significant gains, benefiting from the electorate's discontent with the level of corruption, it may increase the pressure to hold an early election that would not be on Mr Berisha's terms.

Election watch

Albania 11


Albania is expected to step up its contribution to NATO as part of its closer integration with the alliance, which it joined, along with Croatia, in April 2009. Accession has fulfilled one of Albania's central foreign policy goals, and it has received the overwhelming support of the public and the political establish-ment. Since joining NATO, Albania has doubled its troop deployment in Afghanistan to around 250 soldiers, in response to calls from the US administration for greater military commitment by its allies.

EU integration, leading to eventual membership, is the government's main foreign policy priority. Having signed a stabilisation and association agreement (SAA) with the EU in 2006, in April 2009 Albania submitted an application for membership. However, the European Commission's most recent annual progress report on Albania, in November 2010, refrained from recommending to the EU that Albania be granted candidate status. The Commission's negative opinion�which was endorsed by the meeting of EU members in December�was prompted by Albania's failure to adopt several reforms, whose passage through parliament was blocked by the disagreement between the government and the opposition on how to resolve the dispute over the alleged electoral irregularities. The impact of this setback was tempered by the EU's decision in mid-December to lift visa requirements for Albanian (and Bosnian) citizens visiting the Schengen area. However, the return of political violence in January 2011 and the escalating political tension have made it less likely that the reforms required by the EU will be carried out in the forecast period. The Economist Intelligence Unit therefore considers that Albania has only a slim chance of being granted candidate status before end-2012. For this to happen, the government needs to settle its dispute with the opposition within the next few months and accelerate the pace of reform significantly.

Albania will continue to forge closer links with Kosovo, which it recognised almost immediately after Kosovo declared independence from Serbia in February 2008. The Albanian authorities will need to respond to international demands for the judiciary to co-operate in the investigation of human-organ-trafficking and other crimes allegedly committed on Albanian soil by Kosovo-based criminal organisations, as detailed in a report accepted by the Parliamentary Assembly of the Council of Europe (PACE) in early 2011. Albania will remain under international pressure to rule out any prospect that it might wish to bring together lands inhabited by ethnic Albanians in a "Greater Albania".

Economic policy outlook

Mr Berisha's second government has continued its predecessor's policy, reiterating that Albania does not need a successor agreement to its previous, three-year arrangement with the IMF (which expired in 2009); in the govern-ment's view, the economy is stable enough to manage without one. After repeated delays, Albania successfully placed its first ever Eurobond in October 2010, and it will continue to rely on commercial loans to finance its large, albeit contracting, external and fiscal deficits. However, there is still a slight risk that Albania may need to turn to the IMF for assistance if, following the global

International relations

Policy trends

12 Albania


downturn of 2009, the recovery in external demand for Albanian merchandise exports and migrant workers is more sluggish than forecast, and if the lek continues to depreciate. Since the election in 2009, the government has started to pay more attention to the Fund's advice, and the revised budget for 2010 narrowed the deficit by more than 50% compared with 2009. The IMF has welcomed the government's financial consolidation. It continues to urge the authorities to maintain a prudent medium-term fiscal framework, following expansionary budgets in 2008-09 to finance infrastructure investment, which helped to limit the impact of the global downturn on Albania.

The IMF and other multilateral lenders will emphasise the need for structural and institutional reform, and improvements to the business environment. Even without the uncertainty surrounding the global economic recovery, the investment climate in Albania is likely to remain among the toughest in the region, owing to shortcomings in the public administration and the legal system, widespread corruption, and inadequate (albeit improving) electricity supply and infrastructure.

The government has started the process of privatising the power sector by selling off the distribution arm of the KESh, the state-owned power utility. The authorities plan to complete the privatisation process over the forecast period. However, there is a considerable risk of delays involving some of the sales that are still outstanding, given the authorities' track record, which was highlighted most recently by the stalled privatisation of a majority stake in a leading insurer, INSIG.

Fiscal policy has become more prudent since the previous parliamentary election, which was preceded by a rush to finish large public investment projects�most notably, sections of the Durres-Kukes road. The budget deficit shrank to an estimated 3.1% of GDP in 2010 from 7.2% in 2009, following a sharp reduction in capital expenditure. The budget for 2011 envisages a deficit of 3.5% of GDP, with a rise in expenditure on infrastructure projects to coincide with the local elections scheduled for May. Among the challenges likely to face the government are possible further budget support for KESh and cost overruns on the upgrading of the new Tirana-Elbasan road. We forecast an expansion of the budget deficit to 3.8% of GDP in 2011, before tighter fiscal policy narrows it to 3% in 2012.

Having cut its key repo rate by a total of 100 basis points in 2009, the Bank of Albania (BoA, the central bank) lowered the rate by 25 basis points in July 2010, to 5%�its lowest level since 2005. The cuts followed subdued inflationary pressures and a marked deceleration in credit growth, allaying earlier concerns, expressed by the BoA and the IMF, about the rapid expansion of commercial bank lending, particularly in foreign currency, with its associated exchange-rate risks for banks and borrowers. Inflation in the first quarter of 2010 exceeded the ceiling of the BoA's target band of 2-4%, prompting the BoA in April to begin to withdraw the additional liquidity facilities that it had made available since late 2008. The most recent cut in the repo rate followed slowing inflation in the second quarter of 2010. Further cuts are possible in 2011, but only if inflation decelerates, which we do not expect. The BoA will continue to encourage

Monetary policy

Fiscal policy

Albania 13


lending in lek to improve monetary policy transmission and to mitigate currency risk.

Economic forecast

International assumptions summary (% unless otherwise indicated)

2009 2010 2011 2012

GDP growth World -0.8 4.8 4.0 4.1

Japan -6.3 4.3 1.3 1.3

EU27 -4.2 1.9 1.6 1.6

Euro area -4.1 1.7 1.5 1.3

Exchange rates US$ effective (2000=100) 97.0 94.0 94.1 95.5

¥:US$ 93.7 88.0 82.4 82.4

US$:� 1.39 1.33 1.25 1.20

Financial indicators US$ 3-month commercial paper rate 0.26 0.24 0.31 0.70

� 3-month interbank rate 1.23 0.84 1.00 1.50

Commodity prices Oil (Brent; US$/b) 61.9 79.6 90.0 82.3

Gold (US$/troy oz) 973.0 1,224.7 1,331.3 1,232.5

Food, feedstuffs & beverages (% change in US$ terms) -20.4 11.7 19.3 -8.6

Industrial raw materials (% change in US$ terms) -25.6 43.8 7.2 -2.8

Note. Regional GDP growth rates weighted using purchasing power parity exchange rates.

The Institute of Statistics (Instat) reported that real GDP grew by 4.9% year on year in the third quarter of 2010, accelerating from 3.3% in the second quarter. A robust pick-up in industrial output and exports drove growth, whereas construction remained depressed.

Having weathered the global downturn better than many European countries (the Albanian economy was one of the few in Europe to grow during the global recession of 2009), Albania is set to benefit from the continuing modest economic recovery forecast in the euro zone in 2011-12. Despite the weak recovery in Italy and the financial crisis affecting Greece, import demand for Albanian products rebounded strongly in 2010, mainly because of the depreciation of the lek, and the weak currency will support a further expansion of exports. Remittances from migrant workers are expected to pick up as economic recovery in the euro zone continues. Growing risk appetite for emerging markets should increase foreign direct investment (FDI) inflows, particularly in the power sector, and confidence in the economy may receive an additional boost if Albania is granted EU candidate status, which remains a possibility in 2012.

Fiscal loosening in 2011, with plans for increased spending on infrastructure projects ahead of local elections in May, will, to some degree, offset an expected modest slowdown in demand growth in EU markets. Private consumption growth will be dampened, especially in the first half of the forecast period, by the Greek crisis, because of Albanian households' dependence on remittances from migrant workers employed in Greece. We forecast that real GDP growth

International assumptions

Economic growth

14 Albania


will accelerate from an estimated 3.4% in 2010 to 4% in 2011 and 4.5% in 2012, when growth should move closer to its trend rate.

After rising by 2.3% year on year in 2009, inflation picked up markedly and averaged 4.3% in the first quarter of 2010 (exceeding the ceiling of the BoA's informal target band of 3%, ±1 percentage point), before slowing to average 3.1% in the final quarter. The rise in the consumer price index (CPI) has been driven largely by increased food, beverage and healthcare prices. As economic growth accelerates in 2011-12, it will fuel greater inflationary pressures, especially in 2011, when international commodity prices are forecast to rise, before falling nearer to 2010 levels in 2012. However, the BoA's willingness to raise its repo rate again if necessary will hold growth in the CPI in check. We forecast that average inflation will be largely unchanged, accelerating from 3.6% in 2010 to an annual average of 3.7% in 2011-12.

The lek depreciated sharply in January-September 2010, reflecting continuing concern over Albania's external imbalances, but it stabilised in the final quarter, benefiting from the successful placing of Albania's debut Eurobond in October. As a result, in 2010 the lek depreciated by 4.2% against the euro and by 9.4% against the US dollar. We expect that the lek will be supported in 2011-12 by increased foreign-currency remittances from Albanians working abroad, by relatively high local-currency interest rates, and by corrections to the current account and, in 2012, to the budget deficit. We therefore forecast that the lek will remain generally stable against the weakening euro in nominal terms in 2011-12.

The current-account deficit in 2010 is estimated at around US$1.4bn, about US$500m smaller than a year earlier, because exports, helped by lek depreciation, rebounded robustly while imports were little changed. However, at an estimated 12.4% of GDP in 2010, the deficit is large. We expect a further contraction of the deficit in 2011�and especially in 2012, when tighter fiscal policy will limit import demand. This will be helped by the impact of further depreciation of the lek against the US dollar, which will stimulate exports (already indicated by a sharp rise in foreign sales in 2010) and increase the value of current transfers, mostly in the form of remittances from migrant workers. Electricity exports, which resumed in 2009 after a break of several years, will also help to improve the trade balance, especially as new capacity comes on stream. However, the improvement in the current-account balance will be contained by some fiscal loosening in 2011, which will increase import demand for infrastructure projects, and by a rebound in household consumption as growth accelerates in 2012. We forecast annual current-account deficits averaging 9.2% of GDP in 2011-12.

Exchange rates

External sector

Inflation

Albania 15


Forecast summary (% unless otherwise indicated)

2009 a 2010 b 2011c 2012c

Real GDP growth (av) 3.3 3.4 4.0 4.5

Agricultural output growth (av) 2.7 2.0 3.5 4.0

Industrial output growth (av) -1.2 3.0 4.5 5.0

Consumer price inflation (av) 2.3 3.6 a 3.6 3.7

Money market interest rate (%) 6.3 5.9 5.7 5.5

Government balance (% of GDP) -7.2 b -3.1 -3.8 -3.0

Exports of goods fob (US$ m) 1,048 1,552 a 1,791 2,104

Imports of goods fob (US$ m) -4,264 -4,604 a -4,877 -5,172

Current-account balance (US$ m) -1,845 -1,406 -1,217 -995

Current-account balance (% of GDP) -15.6 -12.4 -10.3 -8.0

Exchange rate Lk:US$ (av) 95.0 103.9 a 108.0 111.7

Exchange rate Lk:� (av) 132.3 137.8 a 135.0 134.0

a Actual. b Economist Intelligence Unit estimates. c Economist Intelligence Unit forecasts.

Gross domestic product

(% change, year on year)

Consumer price inflation

(av; %)

(a) Excluding Commonwealth of Independent States.

-4.0

-2.0

0.0

2.0

4.0

6.0

8.0

East-central Europe (a) Albania

12111009080720062.0

2.5

3.0

3.5

4.0

4.5

5.0

5.5

6.0

6.5

East-central Europe (a) Albania

1211100908072006

The political scene

The political tension caused by the disputed results of the parliamentary election in June 2009 escalated into violence when four anti-government protesters were shot dead�apparently by the Republican Guard, which protects senior officials�during an opposition demonstration outside the prime minister's office on January 21st. The demonstrators, some of whom clashed with the police, were demanding the resignation of the government, which they accused of ballot rigging and corruption. The EU and the US have called for a dialogue, so far without success. The leader of the opposition Socialist Party of Albania (SPA), Edi Rama has been demanding the formation of a new technical government that would prepare a fresh election. He has said that the SPA is ready for a political dialogue under international auspices. However, he has also said that he will call for further demonstrations, despite concerted calls by the EU and the US for a suspension of the protests because of concern about a possible recurrence of violence. The prime minister, Sali Berisha, has dismissed the calls for an early election and has insisted on an investigation into the events of January 21st, which he described as an attempted coup d'état,

The political crisis escalates after violent protests

16 Albania


during which some opposition supporters attacked the police with sticks and umbrellas, and threw cobblestones and petrol bombs at the government building.

Apart from accusing Mr Rama of being behind the organised violence at the demonstration, Mr Berisha ratcheted up political tension by claiming that the second stage of the alleged planned coup against his government also included the president, Bamir Topi, who was Mr Berisha's deputy as leader of the ruling Democratic Party of Albania (DPA) before his election as head of state; the prosecutor-general, Ina Rama (no relation to the SPA leader); and the head of the State Intelligence Service (SIS), Bahri Shaqiri. In an attempt to provide evidence of these officials' alleged involvement in the events surrounding the demonstration, an extraordinary parliamentary session was held on Sunday January 23rd, which only the ruling coalition attended. The session set up a parliamentary commission to investigate the activity of state institutions in "the criminal events of January 21st that were intended to violate institutions and topple the constitutional order".

The accusations levelled against Ms Rama followed her move to initiate an investigation into the killings of the demonstrators and her issuing of arrest warrants against six members of the Republican Guard, including its four senior commanders, on the grounds that they had overstepped their authority. In an unprecedented development, the police, with the public backing of Mr Berisha, refused to execute the arrest warrants. After a two-week stand-off, the guardsmen handed themselves in. The tensions between the government and other institutions of the state intensified with the parliamentary commission calling on Mr Topi, Ms Rama and Mr Shaqiri to testify at its public hearings. The commission also asked mobile telephone companies for their records relating to the telephone conversations of these three officials�although only prosecutors have the legal authority to make such a request. Mr Topi declined to appear before the commission, citing a law that stipulates that any testimony offered by the head of state can only be taken at his office. Ms Rama appeared before the commission, but only to make a statement that as she had ordered a criminal investigation into the events that the commission was discussing, she was legally bound not to offer any information, as the matter was still under judicial consideration. Mr Shaqiri's hearing was postponed indefinitely by the commission.

A senior EU official, Miroslav Lajcak, visited the capital, Tirana, twice to make it clear to the Albanian authorities and the opposition that Albania's further EU integration would be put at risk if they failed to resolve the political crisis through constructive dialogue and by letting the proper independent institutions carry out their duties without pressure from politicians. Mr Lajcak, who is the managing director for Russia, the Eastern Neighbourhood and the western Balkans at the European External Action Service (EEAS), also urged both sides to co-operate in the run-up to the local authority elections, scheduled for May 8th. The US formally offered to provide technical assistance to help the investigation into the events of January 21st, initiated by the

The EU warns that Albania's further EU integration is at risk

President is accused of plotting against prime minister

Albania 17


Albanian prosecutor-general, with the purpose of giving greater credibility to the investigation.

Both the EU and the US have considerable clout in Albanian politics, where distrust between the opposing sides runs deep, the independence of state institutions from political interference remains weak and inflammatory political rhetoric is frequently the rule. Several previous political crises have been settled with the help of international mediation. NATO membership, visa liberalisation for Albanian citizens visiting the Schengen group of countries and deeper EU integration are the main benefits that have been granted or offered to Albania in return for the implementation of reforms. However as the country has progressed, the EU has taken a more hands-off approach, offering guidance and targets rather than becoming embroiled in direct mediation, and on his most recent visit to Tirana, on February 4th, Mr Lajcak repeated that although the EU was ready to help, it was up to Albanian politicians to resolve the political crisis.

The deputy prime minister, Ilir Meta, who also held the economy portfolio, stepped down from his posts in government on January 14th, following the screening on television of a video in which he appeared to be attempting to influence the granting of concessions and tenders in exchange for kickbacks. Mr Meta remained in his post as leader of the junior partner in the ruling coalition, the Socialist Movement for Integration (SMI), whose four parliamentary seats provide the government with a slender majority. Mr Meta was replaced as deputy prime minister by the foreign minister, Edmond Haxhinasto, and as economy minister by another SMI member of parliament (MP), Nasip Naco. Mr Meta denied any wrongdoing and maintained that the video had been manipulated as part of an attempt at political blackmail. The video, which had been recorded surreptitiously, originated from Dritan Prifti, a former economy minister, whom Mr Meta replaced in a cabinet reshuffle in September 2010, after Mr Prifti had been accused of involvement in corruption. Mr Prifti subsequently left the SMI, joined the opposition in parliament and turned into a whistle-blower, co-operating with the prosecutor's office in the corruption investigation.

The prosecutor's office asked the US for technical assistance to ascertain the authenticity of the controversial video. When the video was first shown by the largest private television station, Top Channel, it was edited in a way that made it appear as though Mr Berisha was also endorsing the concession agreements that Mr Meta was trying to influence while meeting Mr Prifti, who was at the time still the economy minister. However, the screening of a fuller version of the video by the same television station two days later showed that Mr Berisha was mentioned in an unrelated context. Top Channel did not offer a satisfactory explanation as to why the video had been edited before its first airing. Both Mr Berisha and Mr Meta argued that the broadcasting of the video was an attempt, orchestrated by Mr Rama, to blacken their reputations. The opposition immediately demanded the dismissal of Mr Meta, and later it called for the resignation of the entire government, which Mr Rama dubbed "a cabinet of thieves and crooks".

The deputy prime minister resigns over corruption claims

18 Albania


Citing the spontaneous anti-government uprising in Tunisia, Mr Rama and other opposition leaders warned that Albanians, angered by widespread corruption, would take matters into their own hands, unless the opposition parties provided them with a sense of direction. It was in this context that the SPA called the demonstration on January 21st.

A motion by the SPA for the establishment of a parliamentary commission to enquire into the conduct of the election in June 2009 was defeated by the ruling majority on December 28th. The vote against the motion came despite a significant concession by the SPA, which abandoned its most hotly disputed demand for the opening of ballot boxes in constituencies where it was contesting the election results. Instead, the SPA was willing to accept that the commission would be authorised only to investigate election materials, such as protocols and the lists of those who had voted, but not the ballot papers themselves. The recommendations arising from the work of the commission would then have served as the basis for improvements to the electoral code, ahead of the forthcoming local authority elections. However, the governing parties rejected the proposal on the grounds that that no such wide-ranging enquiry could be allowed without the opposition first providing factual evidence of wrongdoing at the election.

By rejecting the call for a commission of enquiry, Mr Berisha appeared to have reneged on an offer that he had made to the opposition, following an initiative to that effect from the Council of Europe in February 2010. The parliamentary vote came less than two weeks after the Schengen group of mostly EU countries had lifted visa requirements for Albanian citizens, and the EU had given, for the time being, a negative response to Albania's application to be granted the status of an EU membership candidate. As the EU had already used both punishment and reward, there appeared to be little incentive for the ruling majority to resolve the political deadlock.

The day after the proposal for a parliamentary commission of enquiry was rejected, the Central Election Commission (CEC) decided, with the votes of the members representing the ruling majority, to burn the ballot papers�as required by law, ahead of the local elections scheduled for May, when the ballot boxes need to be empty. In another decision in early January, again without the votes of SPA representatives, the CEC voted to close for 25 years the archives containing the lists of those who voted in the election in June 2009. The election materials that would have been the focus of the enquiry into the conduct of the disputed election. The CEC justified its decision by saying that it was in the interests of protecting citizens' privacy. The CEC's two decisions put an end to the opposition's quest for investigating the conduct of the election, and exacerbated an already tense political situation.

A poorly functioning parliament, and an unconstructive and confrontational political dialogue, were the main reasons given by the European Commission in November 2010 for its refusal to recommend to the European Council to grant Albania the status of an EU candidate. Although the EU's decision came as no surprise, it contrasted with Montenegro's success, which was confirmed when the European Council granted it candidate status in mid-December.

MPs reject an enquiry into ballot-rigging claims

Albania fails to get EU candidate status

Albania 19


The Commission's avis (opinion) on the fulfilment of the economic criteria for candidate status was more positive, noting Albania's success in achieving macroeconomic stability and in implementing the provisions of its stabilisation and association agreement (SAA) with the EU that entered into force in April 2009. However, the Commission said that to become a functioning market economy, Albania needed to strengthen governance further, improve the performance of the labour market, ensure the recognition of property rights and strengthen the rule of law. The Commission also said that in order to enable it to cope over the medium term with the competitive pressures and market forces within the EU, Albania would have to improve its physical infrastructure and human capital, and pursue further structural reforms. The Commission added that accession talks with Albania should be opened only once the applicant has achieved the necessary degree of compliance with membership criteria, especially those regarding the stability of institutions, democracy and the rule of law.

Democracy index: Albania

The Economist Intelligence Unit's 2010 democracy index ranks Albania 84th out of 167 countries�down from 81st place in 2008�putting it near the top of the list of states that are considered hybrid regimes. This designation includes only one other Balkan country, Bosnia and Hercegovina (BiH), in 94th place, with all other former communist states outside the former Soviet Union classed as flawed democracies, apart from the Czech Republic, which is considered a full democracy. Albania's lowest scores are in the political participation, political culture and the functioning of government categories. The low score in political participation reflects a sharp division between the political elite and the rest of the population, and the poor score in the functioning of government can be attributed to inefficiency, incompetence and widespread corruption in the public administration. Albania's poor score in political culture stems from the practice of harsh, at times even crude, rhetoric and parliamentary walkouts favoured by many politicians. The score in this category has declined markedly since 2008, as a result of the lengthy boycott of parliament by the opposition Socialist Party of Albania (SPA) following its allegations of irregularities in the parliamentary election of June 2009, and because of the lack of a meaningful dialogue between the SPA and the ruling coalition, led by the Democratic Party of Albania (DPA). This failure to engage in a constructive dialogue was highlighted in the European Commission's most recent progress report on Albania, published in November 2010.

Democracy index Regime type Overall score Overall rank2010 Hybrid regime 5.86 out of 10 84 out of 1672008 Hybrid regime 5.91 out of 10 81 out of 167

The global economic downturn has put democratic institutions under strain

Despite continuing criticism by international election observers and by the SPA, Albania scores considerably better in the electoral process category, signifying that the problems that persist have more to do with administrative shortcomings, such as the failure to keep up-to-date registers of voters or issue proper identification documents to citizens, than with wholesale attempts to rig the results. Similarly, a relatively high score in the civil liberties category indicates that political, cultural and religious rights are broadly respected, even if the legal and institutional safeguards to enforce them tend not to function promptly or efficiently. The significant decline in Albania's score in the political culture category reflects in part the impact of the economic downturn, which has adversely affected people's trust in democratic institutions. Although Albania was one of the few European states to avoid recession in 2009, the country's trend growth has slowed sharply since 2008, and rising unemployment and disappointed economic expectations have contributed to the increase in extra-parliamentary activities, including street protests, which have been organised ostensibly in response to alleged ballot-rigging. However, Albania's accession to NATO in April 2009, the subsequent submission of an application for EU membership and the lifting of visa

20 Albania


requirements for Albanian citizens by the Schengen group of mostly EU countries�moves that have enjoyed overwhelming support among the public�have helped to mitigate the negative impact of the greater economic difficulties on the country's democratic standards.

Democracy index 2010 by category (on a scale of 0 to 10)

Electoral process Functioning of government Political participation Political culture Civil liberties7.42 5.07 4.44 5.00 7.35

Democracy index 2010: Democracy in retreat, a free white paper containing the full index and detailed methodology, can be downloaded from www.eiu.com/DemocracyIndex2010.

Note on methodology

There is no consensus on how to measure democracy and definitions of democracy are contested. Having free and fair competitive elections, and satisfying related aspects of political freedom, is the sine qua non of all definitions. However, our index is based on the view that measures of democracy that reflect the state of political freedom and civil liberties are not "thick" enough: they do not encompass sufficiently some crucial features that determine the quality and substance of democracy. Thus, our index also includes measures of political participation, political culture and functioning of government, which are, at best, marginalised by other measures. Our index of democracy covers 167 countries and territories. The index, on a 0 to 10 scale, is based on the ratings for 60 indicators grouped in five categories: electoral process and pluralism; civil liberties; the functioning of government; political participation; and political culture. The five categories are inter-related and form a coherent conceptual whole. Each category has a rating on a 0 to 10 scale, and the overall index of democracy is the simple average of the five category indexes. The category indexes are based on the sum of the indicator scores in the category, converted to a 0 to 10 scale. Adjustments to the category scores are made if countries fall short in the following critical areas for democracy: • whether national elections are free and fair; • the security of voters; • the influence of foreign powers on government; and • the capability of the civil service to implement policies. The index values are used to place countries within one of four types of regimes: • full democracies�scores of 8 to 10; • flawed democracies�score of 6 to 7.9; • hybrid regimes�scores of 4 to 5.9; • authoritarian regimes�scores below 4.

Economic policy

On December 22nd, shortly before the end of the fiscal year, the government passed a normative act that reallocated expenditure, mostly by increasing capital spending, but kept the revenue and deficit plans for 2010 unchanged. This was the third consecutive year in which the government amended the budget in December through a normative act�a government decree, which needs to be adopted by parliament within 45 days to have full legal status.

The budget revision followed a revision adopted in July. It lowered current expenditure by Lk1.6bn (US$15m), reflecting savings in 2010 from interest payments. The improved financial position of the dominant power generator, the state-owned KESh, which stemmed from increased electricity exports, enabled the company to repay loans to the government, which were in the past considered to be, in effect, subsidies with little chance of being repaid. KESh's repayment in 2010 amounted to Lk4.6bn, which was Lk3.6bn more than planed

A last-minute budget revision increases capital expenditure

Albania 21


in the budget. The additional repayment was reallocated to capital expenditure, which reached Lk71bn in total.

The government's normative act also included a stipulation that any unused cash remaining in the Treasury account at the end of the fiscal year should be transferred to the expropriation account, set up to cover the costs of compulsory purchases involved in public investment works that are in the pipeline. This ensures that all available funds will be used, even though some capital projects may be lagging behind schedule.

The Ministry of Finance announced that the budget deficit in 2010 was Lk37bn, equivalent to 3% of estimated GDP. This is Lk1bn less than projected in the revised budget, and in percentage terms less than one-half of the deficit registered in 2009, when it amounted to 7.1% of GDP. (The Economist Intelligence Unit's estimate of real GDP growth in 2009-10 is smaller than that of the Albanian authorities, and we estimate that the deficit was 3.1% of GDP in 2010 and 7.2% in 2009.) Total revenue, at Lk325bn, was 9% higher than in 2009, and reached 97% of the planned amount. Revenue was the equivalent of 26.6% of estimated GDP. Tax revenue, at Lk289bn, increased by 7% year on year in nominal terms, and amounted to 23.4% of estimated GDP. Most main categories of taxation performed in line with projections, with the notable exception of value-added tax (VAT). At Lk114bn, this reached only 93% of the target. The finance minister, Ridvan Bode, said that the shortfall in VAT receipts was the outcome of increased VAT reimbursements in 2010, linked to rising exports and ongoing investments that can defer VAT payments. However, as the Bank of Albania (BoA, the central bank) noted, consumption in 2010 did not increase as strongly as policymakers had expected.

Revenue from local authority taxes amounted to only 77% of the projected figure and was 2% less than in 2009. The main reason for the under-performance in this category was the lowering in 2010 of the threshold at which companies become liable to paying VAT, with many smaller companies that previously paid a turnover tax to local authorities now paying VAT to the central government.

Total expenditure in 2010 was Lk362bn, 97% of the budget allocation and 5% less than in the previous year. Expenditure was 29.6% of estimated GDP. Current expenditure totalled Lk300bn, amounting to 24.5% of estimated GDP, and was on target, having increased by 6% year on year. Interest payments increased by 15% year on year, to Lk41.6bn, which was 3.4% of estimated GDP, following a rise in public debt. Capital expenditure declined by 30% from its record level in 2009, to Lk67.5bn, and was 5.5% of estimated GDP. Domestically financed investments were in line with the revised budget, at Lk46.6bn (down by 38% year on year) and amounted to 3.8% of estimated GDP. Foreign-financed investments, at Lk20.8bn, increased by 3% compared with 2009, and amounted to 1.7% of estimated GDP.

The deficit was primarily financed from domestic sources, which accounted for 72% of the total; Lk26.9bn of deficit financing came from domestic sources and Lk10.2bn came from foreign sources. Net domestic borrowing, at Lk25.9bn, was 40% lower than a year earlier. Unlike in 2009, when large privatisation receipts

The budget deficit shrinks to 3% of GDP in 2010

22 Albania


financed 31% of the deficit, there were no statistically significant privatisation receipts in 2010.

According to the finance ministry, public debt at end-2010 was kept below the legal ceiling of 60% of GDP, amounting to 59.4% of estimated GDP, having declined by 0.3 percentage points since end-2009.

General government budget (Lk m unless otherwise indicated)

2010 2011

First

revision Second

revision Outturn% of second

revision % of GDP Budget % of GDPRevenue 333,658 333,658 324,891 97.4 26.6 333,186 28.2Total tax revenue 299,084 299,084 288,800 96.6 23.4 304,771 25.8 Tax & customs 229,709 229,709 223,083 97.1 19.0 230,168 19.5 Local government revenue 15,479 15,479 11,898 76.9 1.0 18,412 1.6 Social insurance contributions 53,896 53,896 53,819 99.9 4.4 56,191 4.8Non-tax revenue 28,264 28,264 31,486 111.4 2.1 22,202 1.9Grants 6,310 6,310 4,605 73.0 0.3 6,213 0.5Expenditurea 371,768 371,768 361,964 97.4 29.6 383,197 32.5Current expenditure 301,693 300,093 299,879 99.9 24.5 282,485 23.9 Interest 43,526 41,876 41,604 99.4 3.4 36,112 3.1Capital expenditure 66,045 71,045 67,503 95.0 5.5 90,012 7.6 Domestically financed 41,874 46,874 46,639 99.5 3.8 68,337 5.8 Foreign financed 21,171 21,171 20,864 98.5 1.7 21,675 1.8Balance -38,110 -38,110 -37,073 97.3 -5.6 -50,011 -4.2

a Including reserve and contingency funds.

Source: Ministry of Finance.

In its medium-term macroeconomic framework adopted at the beginning of February, the government set a ceiling of 3% of GDP for the annual budget deficit in 2012-14. According to the government, economic growth is expected to return to the pre-crisis level of around 6% per year, and inflation is expected to remain close to the 3% target of the central bank. However, even according to the government's optimistic growth forecast, the current fiscal stance would not be sufficient to curb public debt by a large amount. The medium-term framework envisages a modest decline in public debt, to 57.6% of GDP at end-2014�a much less ambitious target than the decrease, to 54% of GDP at end-2013, in the previous medium-term framework, published a year earlier.

Both the IMF and the World Bank have repeatedly expressed concern about the high level of public debt in Albania, and have said that they would like the authorities to take more far-reaching measures to bring down the debt. On a visit to Albania in January, the World Bank's managing director, Ngozi Okonjo-Iweala, stressed the various challenges that Albania faced in its attempts to return to the high rates of economic growth of the pre-crisis period, especially at a time when the economic recovery in several euro zone countries, including Albania's main trade partners, was expected to be sluggish. Ms Okonjo-Iweala called on the Albanian authorities to continue their prudent fiscal policies with the goal of keeping deficits and the public debt on a downward trend, as only countries with greater macroeconomic credibility would be able to access a share of the scarce capital available. On the broader issue of competitiveness,

The medium-term deficit ceiling is set at 3% of GDP

Albania 23


she said that Albania needed to engage in further reforms in education, in improving the business environment�including greater clarity over, and better enforcement of, land and property rights�and in the effective and transparent implementation of a range of existing laws.

Medium-term macroeconomic framework (% of GDP, unless otherwise indicated)

2011 2012 2013 2014Real GDP growth (%) 5.5 6.1 6.2 6.0

Consumer prices (av; %) 2.8 2.9 3.1 3.0Revenue 27.3 26.5 26.7 27.1

Expenditure 30.8 29.5 29.7 30.1Deficit -3.5 -3.0 -3.0 -3.0

Public debt 59.2 58.7 58.1 57.6

Source: Ministry of Finance.

The World Bank offered Albania a US$1m grant to cope with the floods that devastated parts of the north-east of the country in December and a loan of US$22m to finance dam safety. The Bank's offer followed the second inundation within a year. However, unlike the floods of January 2010, which affected only the countryside, this time heavily populated areas also suffered considerable damage, including parts of the main town of the region, Shkoder. The floods followed heavy rainfall, and at their peak they affected around 5,000 dwellings, with over 11,000 people evacuated from their homes. The government pledged to compensate farmers for the livestock that they lost in the floods and renewed its promise to improve the dredging of the river deltas and dams along the Drin River. For reasons of safety, the authorities are obliged to discharge water from the Drin reservoirs when the water reaches a critical level. Lack of investment in draining systems and other forms of dam maintenance have led to repeated floods in this area.

The government has extended the base for charging VAT by including all individuals practising various professions�such as doctors, accountants, lawyers and surveyors�regardless of their level of annual turnover. The changes, which came into force on February 1st, accompany the lowering of the threshold at which VAT is applied to companies to an annual turnover of Lk2m (US$18,500), from the previous threshold of Lk5m. According to the latest changes, hotels, which were until now exempt, are also subject to VAT.

In addition to the changes to VAT, in December parliament adopted several amendments to the legislation governing income tax and corporation tax, which came into force in January. Under the amended legislation, life and health insurance premiums for employees are considered deductable expenses for tax purposes. The technical reserves of insurance companies will also be considered as deductable expenses. Dividends distributed by resident or non-resident companies that are subject to the profit tax to resident shareholders will be exempted from taxable income, regardless of their level of participation in equity, in order to avoid double taxation.

Another amendment to the legislation relates to the modalities of paying corporation tax. Companies prepay in instalments the tax, based on the profits

The World Bank offers Albania aid to cope with the floods

The government introduces changes to the tax system

24 Albania


that they made in the previous fiscal year, and reconcile the payments with the tax authorities when the final balance sheet of the previous year is certified. If a taxpayer argues that their expected profit for a given fiscal year would be considerably lower than in the preceding year, they can decrease the amount of prepayments accordingly. However, if at the end of the fiscal year it turns out that the taxpayer has underpaid, and that the difference between the forecast profit and the outturn is more than 10%, the taxpayer will have to pay interest, at 10%, on the difference, plus a fine. This amendment is intended to discourage understatements of expected profits, as, according to the tax administration, companies pay on average 64% of the their liabilities in instalments.

The government is also considering an increase in the profit tax for mobile telephone operators, which the prime minister said charged tariffs that are several times higher than the rest of the region. Banks too were urged to cut commission fees, or face increased taxation. However, no concrete plans have been announced on what specific amendments will be made to the fiscal package for these two industries.

In December the postal and telecommunications regulator awarded the first of the third-generation (3G) licences to an existing mobile operator, Vodafone Albania (owned by Vodafone of the UK), which had offered �31.4m (US$41m) in a tender. Earlier in 2010 the four mobile telephone operators in Albania had tried unsuccessfully to negotiate with the authorities, suggesting that all the operators should be offered a licence for a fixed fee, and said that they would not participate in a tender. Eventually two companies submitted bids, with Eagle Mobile (Turkey) offering �12.6m, making the tender process, which requires a minimum of two bids, valid. Vodafone Albania has already launched the 3G service in the capital, Tirana, and has announced plans to extend coverage to the main cities in the coming months.

The regulator lowers electricity wholesale prices

In December the Energy Regulatory Entity (ERE) rejected a request by the power distributor, CEZ (Czech Republic), for an increase in electricity retail tariffs, averaging 13%, to be applied from January. The regulator's decision came in response to strong pressure from consumer associations and the ombudsman. However, the regulator lowered the prices at which the dominant electricity generator, the state-owned KESh, sells power to CEZ, a move that compensates the distributor for the decision to keep retail tariffs unchanged. CEZ, which acquired the state-owned OSSH in 2009, was given contractual guarantees at the time of the privatisation that it would be protected from any unfavourable regulatory changes, and a schedule of tariff increases was also agreed. The wholesale tariff charged by KESh was lowered from January by 27%, to Lk1.48 (1 US cent) per kwh. In contrast to that move, the regulator increased the wholesale tariffs paid to small privately owned power generators in order to encourage private investment in the sector. As part of the new tariff structure, CEZ will pay Lk7.57 per kwh (up from Lk7.4 per kwh) to purchase electricity from hydropower plants with a capacity of up to 10 mw and it will pay Lk6.89 per kwh (up from Lk6 per kwh) for electricity from plants with a capacity of up to 15 mw. The ERE has been investigating a number of complaints against CEZ from consumer associations, alleging overbilling and a generally poor level of service. CEZ has in one case publicly admitted overbilling and has promised to rectify any mistakes. The privatisation of the power distributor followed several failed attempts over the years to improve its management and increase the collection rate. However, the regulator noted that CEZ has done little so far to improve the collection rate, and the lack of progress in that area was one of the main reasons for the rejection of the company's request for an increase in the retail tariff.

Vodafone Albania wins the first 3G licence

Albania 25


The domestic economy

Real GDP growth picked up to 4.9% year on year in the third quarter of 2010, up from 3.3% in the previous quarter, according to the Institute of Statistics (Instat). Seasonally adjusted quarter-on-quarter growth slowed to 1.6%, from 2.6% in the second quarter. Growth continued to be driven by strong performance in industry and in the category of other services.

Industry was the fastest-growing sector in the third quarter, with output increasing by 18% year on year, fuelled by a strong performance in electricity production, mineral extraction and in the manufacture of Albania's leading export product, textiles. The transport sector posted 13% growth in the third quarter, and a good tourist season helped to increase activity in retail trade, hotels and restaurants by 12% compared with the third quarter of 2009. Construction activity continued to shrink, by 22% year on year, albeit from a high base, because of the large public investment works recorded in 2009. Post and communication services shrank by 7.9%, owing to the base effect of the regulator imposing lower tariffs from September 2009. Growth in other services was 12%, mostly driven by a robust performance in real estate sales and rental activities. Growth in agriculture was 7.6% year on year. Quarter-on-quarter growth rates ranged from 0.8% in agriculture to 4.2% in transport, with the exception of construction output, which shrank by 2.5%.

Quarterly GDP growth 2006 2007 2008 2009 2010% change, quarter on quartera 1 Qtr 2.2 1.0 3.4 1.0 1.12 Qtr 0.0 -0.8 0.0 2.5 2.63 Qtr 2.4 1.7 2.6 -0.5 1.64 Qtr 2.5 3.8 0.3 -0.8 -% change, year on yearb 1 Qtr 8.9 6.4 10.2 4.0 2.62 Qtr 1.5 5.0 9.2 7.6 3.33 Qtr 4.0 3.9 9.8 4.4 4.94 Qtr 8.0 5.7 4.1 -0.5 -

a Seasonally adjusted. b Not seasonally adjusted.

Source: Institute of Statistics.

The consumer price index (CPI) rose by 3.4% year on year in December (up from 2.8% in November), mostly driven by increases in food and cigarette prices. Food prices rose by 4.6% year on year in December, reflecting higher prices on the international markets. The prices of bread and wheat products rose by 7.3% year on year, and prices of vegetable oils and fats rose by 11.5%. The prices of alcoholic beverages and cigarettes were 6.5% higher than in December 2009. The prices of utilities and rent increased by 4.7%, driven mostly by a 29% year-on-year rise in water supply tariffs. Healthcare charges rose by 6.5% year on year, reflecting an increase in charges for uninsured patients. The prices of transport services were 3.3% higher than a year earlier. Price changes in other categories of goods and services were small and had little or no impact on the headline inflation rate. Average inflation in the final quarter was 3.1%, well

Economic growth picks up to 4.9% in the third quarter

Inflation remains within the BoA's target range in 2010

26 Albania


within the target range of the Bank of Albania (BoA, the central bank), which is set at 3% (± 1 percentage point).

For the seventh month in a row the BoA kept its key policy rate unchanged, at a historical low of 5%, at its most recent monetary policy meeting at end-January, arguing that it expected subdued inflationary pressures, with the government keeping both the budget deficit and public debt under control, and with the external position remaining sustainable. The BoA forecasts economic growth in 2011 to be at around the same level as in 2010, but it expects a shift in the driving force of growth, from exports to increased domestic demand. The BoA said that the improved liquidity position of the banking system meant that banks would be able to provide more financing in 2011 for both investment and consumption.

Consumer prices, 2010 (% change, year on year)

Apr May Jun Jul Aug Sep Oct Nov DecTotal 3.7 3.3 3.2 3.4 3.5 3.5 3.0 2.8 3.4Food & non-alcoholic beverages 4.8 3.7 3.5 4.2 4.3 4.3 4.2 3.6 4.6

Alcoholic beverages & tobacco 5.4 6.0 6.8 6.7 6.9 6.5 5.6 4.4 6.5Clothing & footwear -1.1 -1.1 -1.5 -1.5 -1.4 -1.8 -2.4 -2.4 -2.3

Housing & utilities 3.4 3.4 3.6 3.7 4.1 4.4 4.1 4.3 4.7Household goods 0.9 0.4 0.2 0.3 0.3 0.2 0.1 0.2 0.3Healthcare 10.3 11.2 12.2 11.1 13.2 13.3 6.9 6.7 6.5

Transport 6.6 6.4 5.2 5.3 4.2 3.0 3.0 2.4 3.3Communications 0.4 0.5 0.3 -0.3 -0.4 0.6 0.6 0.7 0.6

Entertainment & culture 0.0 0.3 -0.2 -0.1 0.0 -0.1 -0.1 0.0 0.1Education 4.2 4.2 4.1 4.0 4.1 2.9 0.4 -0.5 -0.5Hotels, bars & restaurants 1.3 1.4 1.4 1.4 1.1 1.5 1.4 1.4 1.4

Personal care 1.8 2.1 2.1 1.6 1.7 1.8 1.9 1.9 1.8

Source: Institute of Statistics, Consumer price index, December 2010.

The rate of unemployment declined to 13.5% in the third quarter, from 13.8% in the previous quarter, with 1,420 fewer registered unemployed. The rate rose from 12.8% a year earlier, with another 1,150 registered as unemployed.

Most of the changes in the labour force recorded in July-September 2010 arose from structural breaks in the data series relating to people employed in agriculture. Starting from the third quarter of 2010, the number of employed in the sector is reported at around 507,000, based on the 2009 labour force survey, up from around 496,000 in the previous quarter, a figure that was based on the 2008 labour force survey. In the private urban sector there were 6,200 new jobs in the third quarter of 2010 compared with a year earlier, and 557 more jobs than in the second quarter. Changes in the public sector were minimal.

Unemployment declines to 13.5% in the third quarter

Albania 27


Employment and unemployment (end-period; '000 unless otherwise indicated)

2009 2010 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 QtrLabour force 1,114.2 1,114.2 1,113.6 1,042.6 1,045.3 10,494.9 1,059.2Employed 972.9 972.8 971.5 899.3 900.7 904.9 915.9 Public sector 166.6 166.5 166.5 166.3 166.3 166.5 166.6 Private sector, urban 237.7 237.8 236.5 236.8 238.2 242.2 242.7 Private sector, rural 568.6 568.6 568.5 496.2 496.2 496.2 506.7Unemployed 141.3 141.3 142.1 143.3 144.6 144.6 143.2 Receiving benefit 8.2 8.5 9.3 10.1 9.9 10.8 10.2Unemployment rate (%) 12.68 12.7 12.8 13.8 13.8 13.8 13.5

Source: Institute of Statistics, Konjuktura, third quarter 2010; Labour Force Survey 2009.

The exchange rate of the lek remained stable in the final quarter as Albania's successful placement in October of its debut Eurobond provided an infusion of both foreign currency and confidence. In December the average exchange rate was Lk138.81:�1, following a depreciation of 0.8% compared with September. The average exchange rate in 2010 was Lk137.79:�1, representing a 4.3% depreciation compared with the average exchange rate in 2009.

The exchange rate of the lek was also stable against the US dollar in the final quarter of 2010, with the average exchange rate in December 2010 at Lk104.93:US$1, just 0.1% weaker than in September. However, the exchange rate against the US dollar fluctuated considerably over 2010, mirroring developments on the international markets. The average exchange rate in 2010 was Lk103.94:US$1, which amounted to a depreciation of 9.4% year on year.

Exchange rates

Source: Bank of Albania.

92

96

100

104

108

112

116

134

135

136

137

138

139

140

Lk:€; right scaleLk:US$; left scale

Jan11

DecNovOctSepAugJulJunMayAprMarFebJan2010

Foreign trade and payments

In 2010 the foreign trade deficit shrank by 3% year on year in local currency terms, to Lk317bn (US$3.1bn), the equivalent of an estimated 25.8% of GDP. The improved trade balance stemmed from a surge in exports, which rose by 56% year on year, reaching a record level of Lk161.5bn and amounting to 13.2% of GDP. Imports increased by 11% year on year, to Lk478.7bn, and amounted to 39% of GDP. The robust export performance contributed to an improvement in the import cover ratio, which rose to 33.7% from 23.9% in 2009.

The exchange rate remains stable in the final quarter

The trade deficit shrinks as exports reach a record level

28 Albania


Trade flows in the final quarter of 2010 followed the trends established earlier in the year. Exports soared by 46% year on year, to Lk42.4bn, and imports increased by 11.5%, to Lk132bn. The deficit in October-December was virtually unchanged from a year earlier.

Although exports increased across the board in 2010, the boom in foreign sales was most pronounced in the electricity and building materials groups. Exports of minerals, fuel and electricity more than doubled, to Lk45bn, compared with 2009, and foreign sales of building materials increased by one-half, to Lk32.3bn. Foreign sales of textiles and footwear, Albania's main export products, rose by 15% year on year, to Lk55.6bn. Textile and footwear exports�83% of which were destined for Albania's main foreign market, Italy�accounted for 34% of total exports, down from 47% in 2009, with the decline in their share caused by faster growth in other export categories.

Exports of minerals, fuel and electricity became the second-largest group of exports in 2010, accounting for 28% of total exports, up from 20% in 2009. Building materials were the third-largest category of exports, with a 20% share of the total, up from 12.5% in 2009. Food exports increased by 24% year on year, to Lk9.3bn, and around 58% of these exports were destined for Italy and Greece.

Italy remained by far the largest of Albania's export markets in 2010, absorbing 51% of total foreign sales. Exports to Italy increased by 27% year on year, but the faster expansion of exports to other markets lowered Italy's share of exports from 63% in 2009. Exports to Kosovo surged by 40% year on year, to Lk10bn, and accounted for 6.2% of total exports, which meant that Kosovo overtook Greece as Albania's second-largest export market. The completion in 2010 of the Durres-Kukes motorway, which links Albania to Kosovo, increased trade flows and tourism between the two countries. Sales to Turkey rose by 16% year on year, to Lk9.7bn, and made Turkey Albania's third-largest export market, with a 6% share. Boosted by sales of minerals, exports to China soared by 80% year on year to Lk8.9bn, making China Albania's fourth-largest export market in 2010, with a share of 5.5%. Although exports to crisis-hit Greece increased by 15% year on year, to Lk8.7bn, much faster growth to other markets displaced Greece from its traditional second place, and it ended 2010 as the fifth-largest export market.

Imports of machinery and equipment, the largest category of imports and a proxy for measuring investment, shrank by 5.5% year on year, to Lk93bn, and accounted for 19% of total imports. The decline in purchases of foreign machinery and equipment was caused by lower public investment in 2010 after the completion of import-intensive infrastructure projects in 2009. Imports in all other categories of goods and services increased in 2010. Food imports, the second-largest category, accounting for 18% of the total, increased by 17% year on year, to Lk87bn. The value of food imports was 9.4 times more than that of food exports. Imports of building materials�the third-largest category, at 16% of the total�increased by 14.6% year on year, to Lk76bn. Purchases of minerals, fuel and electricity increased by 19% year on year, to Lk73.7bn in 2010, ranking fourth, with 15% of total imports.

Electricity and building materials fuel export growth

Kosovo becomes Albania's second-largest export market

Imports of machinery and equipment shrink in 2010

Albania 29


Italy was Albania's largest source of imports, with 28% of the total. Imports from Italy increased by 20% year on year, to Lk135bn. Imports from Greece�the second-largest import provider, with 13% of the total�shrank by 6% year on year, to Lk62.7bn. Imports from China (the third-largest import provider, with 6.3% of the total) declined by 3% year on year, to Lk30bn. The decline in imports from the two traditional sources, Greece and China, was offset by a considerable increase in imports from regional partners, although this was from a low base. Imports from Kosovo increased by 28%, to Lk3.8bn, and accounted for less than 1% of the total. Imports from Croatia more than doubled, to Lk9bn, and accounted for 2% of the total.

The current-account deficit shrank by 45% year on year in the third quarter of 2010, to �210m (US$271m), owing to higher surpluses in the service and income accounts. The trade gap in the third quarter amounted to �596m, a contraction of around 2% compared with a year earlier. Exports rose by 45% year on year, to �270m, and imports increased by 9%, to �866m.

The services account registered a surplus of �167m in the third quarter, up by 32.5% year on year. The improvement included an increased surplus in travel services, stemming from higher income from tourism. The travel surplus was �171m, 31% higher than in the third quarter of 2009. Visitors to Albania in the third quarter, which largely coincided with the mid-year peak holiday season, spent �534m, 5% more than a year earlier. Albanians travelling abroad spent �362m, or 4% less than a year earlier. However, the lifting of visa requirements in December 2010 for Albanian citizens visiting the Schengen group of countries may reverse these trends in 2011, as more Albanians are expected to travel abroad.

The income balance was positive for the first time since the final quarter of 2008, and registered a surplus of �29m, compared with a deficit of �60m in the third quarter of 2009. The improvement in the income balance was helped by a positive trend in the compensation of employees (mainly the gross incomes of seasonal workers), which increased by 44% year on year, to �38m. The current transfers surplus increased by 21%, to �191m. Workers' remittances from Albanians abroad amounted to �138m (up from �131m a year earlier).

The financial account declined by 30% year on year, to �130m, mostly as a result of lower foreign borrowing than in the third quarter of 2009. Albania's external liabilities declined by 18% on the year, to �261m. Foreign direct investment (FDI) increased by 20.5% year on year, with inflows amounting to �261m. Net external borrowing increased by �42m, compared with a rise in net external borrowing of �158m in the third quarter of 2009. The stock of Albanian assets abroad in the third quarter amounted to �132m, virtually unchanged from a year earlier. There was a 33% year-on-year increase in deposits held abroad, indicating that a substantial part of the increased amount of foreign-currency deposits in the Albanian banking system were not channelled into credit expansion, but were placed abroad. The balance-of-payments surplus amounted to �110m. The stock of foreign reserves at end-September 2010 was �1.7bn, sufficient to cover four months of imports of goods and services.

The third-quarter current-account deficit shrinks by 45%

30 Albania


Current account (� m)

2009 2010 Year 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 QtrGoods: exports fob 751 176 183 186 206 255 341 270Goods: imports fob -3,054 -693 -762 -793 -807 -674 -823 -866

Trade balance -2,304 -517 -579 -607 -601 -419 -483 -596Services: credit 1,719 303 397 628 390 253 360 648

Services: debit -1,598 -324 -416 -502 -355 -272 -360 -481Services balance 121 -21 -19 126 35 -19 0 167Income: credit 274 67 63 52 92 62 80 70Income: debit -353 -78 -67 -112 -123 -81 -96 -41Income balance -79 -11 -4 -60 -31 -19 -16 29Current transfers: credit 1,093 266 327 208 310 244 321 233Current transfers: debit -158 -36 -36 -49 -37 -33 -36 -42

Current transfers balance 934 230 291 158 273 211 285 191Current-account balance -1,327 -320 -311 -383 -325 -247 -214 -210

Sources: Bank of Albania; Economist Intelligence Unit calculations.

albania february 2011

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