THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003

Transcription

1 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 Podgorica, May 2004

2 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 PUBLISHED BY: WEBSITE: CENTRAL BANK COUNCIL: DESIGNED BY: TRANSLATED BY: PRINTED BY: Central Bank of Montenegro Bulevar Svetog Petra Cetinjskog Podgorica Switchboard: Telephone: Fax: Ljubisa Krgovic, MS, president Milojica Dakic, MS Krunislav Vukcevic, MS Goran Knezevic, MS Petar Drakic Andrijana Vujovic Lidija Cirovic Popadic Printing Stock Company Obod The Report is published annually. The users of this publication are requested to make reference to the source of information whenever they use data from the Report. Printed in 350 copies. II

3 DATA SOURCES FOR THE PREPARATION OF THE ANNUAL REPORT OF THE CENTRAL BANK OF MONTENEGRO FOR 2003 REPORTING FIELD Economy Gross domestic product Industrial production Tourism Forestry Civil engineering Transportation Retail prices, cost of living, and producers prices of manufactured products Employment Monetary developments Money supply Reserve requirements Treasury bills Capital markets Turnover in stock exchanges Budget and off-budget funds Budgetary revenue and expenditure Budgetary funds revenue and expenditure Foreign economic relations Data on imports and exports with foreign countries Data on imports and exports with Serbia, and Kosovo & Metohija Data on services, factor income, and current transfers Data from capital and financial account Domestic public debt Foreign public debt Bank supervision All data on banking sector supervision Payment operations All data on payment operations Banking and Financial Operations Foreign exchange reserves management Foreign payment operations Fiscal agent and advisory operations International cooperation Human resources management CBM public relations INSTITUTION Republic Secretariat for Development Monstat Monstat Monstat Monstat Monstat Monstat Monstat and Republic Employment Bureau Banks in RM (reports to CBM) and Central Bank of Montenegro Banks in RM (reports to CBM) and Central Bank of Montenegro Central Bank of Montenegro Montenegroberza and Nex Montenegro stock exchanges Ministry of Finance Employment Bureau, Health Care Fund, Pension Fund, and Development Fund Republic Customs Administration Banks in RM Banks in RM, enterprise in RM, Nongovernmental organisations, resident foreign organisations Banks in RM CBM and Ministry of Finance Banks in RM (reports to CBM) Central Bank of Montenegro Central Bank of Montenegro, Standard & Poor s Moody s, Reuters Central Bank of Montenegro, Ministry of Finance Central Bank of Montenegro Central Bank of Montenegro Central Bank of Montenegro Central Bank of Montenegro III

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5 CONTENTS AN INTRODUCTORY WORD BY THE PRESIDENT OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO VI ACTIVITIES OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO IN 2003 IX 1. MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN A summary of Macroeconomic Developments Economic trends Monetary Developments Capital Market Fiscal Developments International Economic Relations THE BANKING SECTOR SUPERVISION AND REGULATION Bank Supervision Assessment of Compliance with the Basel Core Principles The Structure of the Banking System in Montenegro Banks Performance in The Risk Exposure of the Montenegro Banking Industry PAYMENT SYSTEMS The Payment Systems Reform BANKING AND FINANCIAL OPERATIONS Foreign Exchange Reserve Management Foreign Payment Operations Fiscal Agent and Advisor OTHER IMPORTANT ACTIVITIES OF THE CENTRAL BANK LIST OF THE MOST IMPORTANT EVENTS IN THE MONTENEGRIN ECONOMY AFTER THE REPORTING PERIOD 81 ANNEX 85 Annex 1. Statistics 87 Annex 2. List of the Legal Acts of the Central Bank enacted in Annex 3. Policy of the Central Bank of Montenegro for Annex 4. Recommendations for the Government for the Economic Policy for V

6 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 AN INTRODUCTORY WORD BY THE PRESIDENT OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO The year 2003 could be described as the year in which the Montenegrin economy showed an uptrend. Growth in GDP, industrial production, number of tourists visiting Montenegro, as well as the reduction in the balance of payments deficit and the inflation rate were recorded. The political crisis in Serbia had a rather adverse effect on the accomplished economic results in Montenegro, but despite this the economic stability was still achieved. The reformed banking sector was the main driving force behind the economic growth of Montenegro. In the third year of its existence, the Central Bank of Montenegro became recognizable both in the Republic and with international institutions as the bearer/initiator of the institutional development of Montenegro. Pursuant to the Decision by the Ministry Council, the Central Bank of Montenegro is the fiscal agent of the State Union of Serbia and Montenegro in the World Bank. Intensive cooperation and contacts were established with a great number of other international organizations such as: the International Monetary Fund, the European Commission, the European Bank for Reconstruction and Development, the Council of Europe Development Bank, the Bank for International Settlements, and a number of central banks and other institutions. With the participation of the Central Bank of Montenegro in the World Bank and the IMF Annual Assembly in Dubai, Montenegro was introduced in such a meeting for the first time. Privatisation of Montenegrobank was successfully completed, and the preparations for privatisation of the remaining state capital in the banking sector, which is now less than 25%, are under way. Banking supervision is to a large extent in compliance with the Basel Core Principles, which was internationally verified; the Deposit Protection Law (of all deposits not exceeding EUR 5,000) and the Regulation on the Chart of Accounts for Banks and Financial Institutions were enacted; liabilities for frozen foreign currency deposits were removed from the balance sheets of four banks, a great effort was made to prevent illegal operations of offshore banks, and a number of other laws and enabling regulations were passed. Preparations for the introduction of the RTGS payment operations system were made. The reserve requirement rate was reduced, which left commercial banks with more available funds for lending to the business sector and private citizens. Payment operations services were passed on to banks, which were accordingly licensed to provide these services. VI

7 AN INTRODUCTORY WORD BY THE PRESIDENT OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO As the fiscal agent of the state agencies and institutions the Central Bank organized 26 auctions of T-bills in 2003 (13 auctions of 28-day T-bills and 13 auctions of 56-day T-bills, the total amount of sold T-bills being EUR million). All the aims set in the Agenda of Economic Reforms related to the monetary-financial sphere were accomplished in accordance with the planned dynamics. A sound and liquid banking-financial system was created as the result of the measures undertaken in the field of monetary-financial policy, and the improvement in all monetary aggregates speak in favour of this. Savings by private citizens doubled, the total amount of granted loans increased by 60%, and banks' deposits and total assets are on an uptrend. The number of employed people in the banking sector in reporting year grew by 30%, and banks' business network increased with the opening of 44 new organisation units. The banking sector creditworthiness was regained to a large extent, which can be substantiated by the increased number of clients, thus representing a good basis for the acceleration of development in other economic sectors. A part of the cash flows, which had been in the grey economy, returned to the banking system, and turnover in stock exchanges almost tripled in comparison with Banks whose operations did not comply with the legislation ceased their work, and due to consistent law violations the bankruptcy proceedings was initiated against Ekos bank AD Podgorica. Macroeconomic analyses in monetary, real, fiscal and external sector were done on a regular basis, and the recommendations for the economic policy were prepared pursuant to the conclusions drawn. Our employees' professional knowledge and skills were improved through internal courses and the participation in a great number of international courses and trainings. Ljubisa Krgovic VII

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9 ACTIVITIES OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO IN 2003 ACTIVITIES OF THE COUNCIL OF THE CENTRAL BANK OF MONTENEGRO IN 2003 In accordance with the regulations prescribed by the law, the Council of the Central Bank of Montenegro held twenty meetings during 2003 for the purpose of making decisions pertaining to the fulfilment of the functions of the Central Bank. Due to payment operations transformation and the non-existence of a law that would govern domestic payment operations, the Council of the Central Bank of Montenegro increased its activities by passing regulations that will control relations in the inter-bank payment system and giro system operated by the Central Bank of Montenegro. The main part of the activities was directed towards passing new regulations which refer to the banking system and their adjustment to the Basel principles and European Union standards in this field. With a view to a more rational and efficient performance by the Central Bank, the Council passed the Regulation on Amendments of the By-law of the Central Bank of Montenegro, and accordingly, a new Act on the Internal Organisation of the Central Bank. By providing expert opinion in the course of the preparation of the laws regarding the activities conducted by the Central Bank, and the laws in whose preparation the representatives of the Central Bank took part, the Council significantly contributed to an improvement in the quality of these laws. As a part of the authorization to decide on requests for issuing and revoking licenses to banks, financial institutions, and payment operation systems, the Council: - licensed Komercijalna bank AD Budva and revoked licences to Vojvodjanska bank AD Podgorica and a microfinancial credit institution Fin Invest doo Herceg Novi; - revoked the licence to Ekos bank AD Podgorica. After the first stage, when banks performed payment operations through pilot projects and with expert assistance and training provided by the Central Bank, the Council issued 71 approvals to licensed banks to perform payment operations in the inter-bank payment systems and giro system operated by the Central Bank. In accordance with the above mentioned activities the Council adopted the Strategy for the development of payment systems to serve as a basis for further development and the upgrade of the domestic payment system. The Council monitored the activities of the Central Bank on a monthly basis through the Director General s reports, and economic developments in the Republic in all areas through the Chief Economist s reports. The data in these reports presented to the Council are essential for managing the Central Bank and the policy making required to meet the aims of the Central Bank. In addition to the fact that the decisions, which have the character of general acts, were published in the Official Gazette of the Republic of Montenegro, the public was timely informed through the media and the Central Bank s web page about the meetings of the Council and all other important decisions passed in the reporting period. IX

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11 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN

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13 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN A summary of Macroeconomic Developments The reform of the systems of the Montenegrin economy continued in As a result of the reforms implemented, and compared to the previous year, macroeconomic conditions in 2003 improved in the following areas: positive growth rates of GDP and industrial production were recorded, the inflation rate decreased, the level of the foreign trade deficit was reduced, an increased turnover from tourism and the growth of savings and approved loans were recorded. The most important events in the Montenegrin economy during 2003, which contributed to expediting the reforms and the integration of their individual segments, were, the adoption of the Agenda of Economic Reforms and the passing of a number of systematic laws. (Annex 1, Review 1) A new Law on Customs was passed among others, and value added tax (VAT) with a common rate of 17% was introduced, which significantly impacted on the overall economic developments in the Republic. In financial, i.e. in the banking sector, of great importance was the privatisation of Montenegrobank, which was successfully completed, while the preparations for the privatisation of Podgorička bank and the remaining state capital in the banking sector are under way. Ten banks that fulfilled the conditions prescribed by the Law on Banks and the new microfinancial institutions were licensed. Additionally, banks reserve requirement rate held with the Central Bank of Montenegro was reduced, which resulted in the growth of the credit activities of banks. In accordance with the planned dynamics, a part of the payment operations reform concerning the movement of payment operations to banks was successfully completed. Also, the enactments of the Law on the Prevention of Money Laundering, the Law on Settlement of Obligations and Claims under Foreign Debt and Frozen Foreign Exchange Savings, and the Law on Deposit Protection improved the quality of the regulation of the financial sector and laid the basis for strengthening confidence in the banking system in the Republic. The estimated gross domestic product in 2003 was EUR million 1 and it increased by 2.53% in comparison with the previous year. Table 1 shows the most important macroeconomic indicators in 2002 and The average number of unemployed people in the course of 2003 was and it was 11.1% lower than in This data clearly points to one of the greatest problems of the Montenegrin economy high unemployment. However, it is estimated that the real unemployment rate is much lower due to the great contribution of the grey economy to the labour market. Table 1 Macroeconomic Indicators Macroeconomic indicators GDP (EUR million) 1,221 1,375 GDP increase rate (%) Population ( ) 2 GDP per capita Inflation (%) Balance of payments current account (EUR million) Foreign direct investments (EUR million) ,8 Foreign assistance 3 (EUR million) Savings (EUR million) Approved) loans (EUR million) M1 (EUR million) An estimate of the Secretariat for Development. 2 According to the population census from 2003 the number of inhabitants is , but represents the number of inhabitants in the Republic. 3 Excluding the foreign assistance received through the nongovernmental and humanitarian organizations. 13

14 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 Industrial production increased by 2.4%, mainly due to the increased production of electricity of 17.5%. A growth in production of 1.4% was recorded in the mining and quarrying sector, while the level of production output in other sectors was below that reached the previous year. The level of industrial production in 2003 represents only 60% of the one achieved in With a view to the intensification of industrial production it is essential to continue with the privatisation process and the restructuring of large systems. An inflation rate of 6.7% 4 recorded in Montenegro in 2003, measured by the retail prices increase (i.e. 6.2% if measured by the cost of living index) and compared to the projected inflation rate was 1.3% lower. Despite the fact that this inflation rate is higher than the inflation rate in the European Union, which was 2.1%, it can be still considered acceptable. When after many years a one-digit inflation rate was recorded in 2002 (9.4%), the decreasing trend which had started in 2001 (28%) continued in 2003, while the projected inflation rate for 2004 is even lower, 4.5%. A number of aggravating circumstances had the dominant influence on the level of the inflation rate in 2003: the increased customs duties of 93%, for imported goods, the introduction of value added tax, and the continuation of the policy of price disparity elimination. Bearing in mind the great influence of the increased prices of some non-tradable services, it is necessary for the new anti-trust regulation to be adopted and implemented. A gradual decrease in the inflation rate is a price to be paid as a part of the overall economic reform processes. The long-term aim is to achieve the inflation level existing in the European Union. The grey economy is still widespread, but it is not higher than that in comparably developed countries. In spite of the fact that the contribution of the grey economy to GDP in Montenegro was reduced by the introduction of VAT, the new law on customs, the introduction of cash registers, the stimulations for registering non-registered employees, and so on, it is necessary to continue with such measures to decrease it further. Some tourists visited Montenegro in 2003, which represents an increase of 10.7% in comparison to the previous year. The total estimated turnover from tourism is EUR 151 million, which is 5% more than in A sound banking sector was created and, as well as the mechanisms for its maintenance. Total assets of banks is on the increase. The value of approved loans grew by 61% in comparison to the previous year, and deposits by private citizens increased by 99%. Turnover in the stock exchanges is also on the increase, and compared to the previous year it almost tripled. These positive trends form a good basis for the further development of the financial market although satisfactory development of this market segment has not yet been achieved. The dominant contribution of short-term loans is still present, and it is a well-known fact that production cycles demand long-term loans. Interest rates 5, although somewhat lower than in 2002, are still extremely high and hinder the operation of the economy. The main culprits for the very high interest rates are the following: high business risk, low level of money supply, underdeveloped short-term securities market, inflation higher than in the EMU, non-efficient judicial system (slowness in economy dispute settlements), as well as the lack of some systematic laws. Too big a difference between interests receivable and interests payable speak in favour of further decreases in interest rates. According to interim data, the foreign debt amounts to EUR million, and the liabilities for frozen foreign exchange deposits amount to EUR 117 million. The main share of the debt dates back before the 1990 s and due to the reckless use of the borrowed assets it still encumbers the present and future generations. Although numerous indicators show that Montenegro belongs to the low-indebted countries, great precautions should be taken with new borrowings to avoid entering the category of highly indebted countries and using the available accumulated assets for debt repayment instead of making investments. Special attention should be paid with borrowings in US dollars, bearing in mind that due to the current depreciation of this currency long-term loans might bear hidden interest yielding from any future appreciation of the same currency. Data on the budgetary surplus achieved to the amount of EUR 2.9 million does not represent the actual state of affairs. That is, the surplus was calculated on the basis of disbursements excluding the assumed liabilities which had not been paid. If these liabilities were included in the calculation, the actual state of affairs would be a budgetary deficit. 4 Observed in December 2003/December The Central Bank has at its disposal only research data on the level of nominal interest rates in banks in the Republic of Montenegro. 14

15 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN 2003 Significant improvements in the balance of payments are present despite the deficit in the balance of payments current account. This deficit in 2003 amounted to EUR 102 million and compared to 2002 (EUR 175 million) it is 58.3% lower. The political crisis in Serbia, which started at the beginning of 2003 with the assassination of the Prime Minister and continued with the Parliamentary crisis had an adverse influence on Montenegro, which will be more clearly seen during 2004, first of all as the country risk increase as Montenegro is a part of the Union of Serbia and Montenegro. The worsened international political environment and terrorist attack threats will influence changes in international tourist flows. It is real to expect that visits to some traditional tourist destinations will decline, which will be a chance for Montenegro to make a come-back on the international tourist market. All scenarios for the future development of Montenegro must be based on high investment rates, primarily on new ( green field ) investments. Bearing in mind the limited domestic resources for investments, the strategic aim must be that of attracting new investors and the creation of optimum conditions for their business operations in Montenegro. Therefore, it is a disturbing fact that foreign investments lessened in In order to attract direct foreign investments it is necessary to conduct a deregulation of business operations in the part that still represents the limiting factor of greater investment inflows. Tourism is a branch with a very big potential for the green field investments. Furthermore, it is essential to consider the possibility for the differentiation of tax treatment of this branch. It is necessary to continue with the Montenegro admission policy to international integrations and institutions, primarily to the European Union and the World Trade Organization. Therefore, one of the main aims of the creators of economic policy in 2004 is the harmonization of national regulations with the regulations of these two international institutions Economic trends A general assessment of real sector developments in the Montenegrin economy shows two trends: a relatively significant growth of GDP in comparison with the previous years and price increase stabilization. The Republic Secretariat for Development estimated that GDP in 2003 amounted to EUR million, which represents an actual growth of 2.53%. The GDP growth is the result of the increased turnover from tourism (5%), agriculture (3%), and industry (2.4%), while according to the available data, a downtrend was recorded in civil engineering (13%), forestry (6%), transportation, and trade. Inflation, (measured by the retail price index) was 6.7% in the reporting year, and it was 1.3 index points lower than the projected inflation. The average number of unemployed people in the course of 2003 was and it was 11.1% lower than in 2002, while the average number of employed people in this year was or 1.7% less than the year before Activities The level of industrial production in 2003 was 2.4% higher than in 2002 (Annex 1, Tables 1 and 3). This growth came from the increased production of electricity, gas and water supply of 17.5%, mining and quarrying of 1.4% (due to the higher production of other ores and rocks of 172%, mainly because of the successful production of salt, while the production in other branches of this sector was below the level in 2002). Manufacturing industry, which accounts for the largest share of overall industrial production (71.2%), recorded a fall of production in 2003 of 2.1% in comparision with the previous year. (Annex 1, Table 2) Production declined in twelve branches of this industry, and their contribution to total industrial output was 11.4%. The fall in production went from 14.2% (production of means of transport) to 87.5% (production of coke and oil derivatives which almost failed in 2003). 6 It should be emphasized that of the total inflow from foreign investments in 2002, 75% went on the sale of Jugopetrol. 15

16 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 Of the more important branches of manufacturing industry, a downturn in production was recorded in the manufacturing of wood and wood products (19.6%), the manufacturing of chemical products and fibres (21.5%), the manufacturing of textile and textile products (24.8%), and in the manufacturing of tobacco products (27%). Higher production of 2.1% was recorded in the main export oriented activity the manufacturing of basic metals (including aluminium and steel), which contributes 43.5% of overall production, than in the manufacturing of other non-metal minerals (0.3%) which contributes 7.4% of overall industrial production, while the manufacturing of food and beverages, which accounts for 6.4% of overall production, recorded an increase of 9.5%. Some tourists visited Montenegro in 2003, which is 10.7% more than in 2002 (Annex 1, Table 4). Most of the visits were to seaside resorts (90% of total tourist arrivals), which increased by 13.7%. The number of domestic tourists increased by 12.8% 7, while the number of foreign tourists increased by 4.1%. Tourist arrivals increased mostly in the summer months, when a significant increase was recorded with domestic tourist arrivals, which increased 21.6% during the tourist season (June September) compared to the same period the year before, while foreign tourist arrivals in this period increased by 3.5%. In the total structure of tourists, 76% were domestic tourists and 24% foreign tourists. Economic Policy for 2003 anticipated about 4.8 million tourist nights (3.6 million domestic tourist nights and 1.2 million foreign tourist nights). However, the total number of tourist nights in the period January December 2003 was 4 million, which is still 7.8% more than in 2002 (the number of domestic tourist nights increased by 10.2%, and foreign tourist nights increased by 0.4%). In the structure of foreign tourists, most of them were from Bosnia and Herzegovina (19%), then Germany (15%), Czech Republic (14%), Russia (10%), and Slovakia (8%). Total revenues from tourism in the period January December 2003 amounted to EUR 151 million and they were some 5% higher than in the same period in 2002, mainly due to the increased number of foreign tourists. (Annex 1, Table 5) Data on tourist visits in 2003 which is still only 47% of tourist arrivals in 1987, which is considered as one of the most successful tourist years in Montenegro, points to the fact that the results achieved in Montenegrin tourism are much below the actual capacities. However, in order for Montenegro to reappear in the world tourist market, i.e. to regain the position it had in the late 1980 s, it is necessary to take a number of measures. First of all, it is necessary to continue with the modernization and improvement of the transport infrastructure for which credit funds from abroad have already been provided (for the modernization of the airports in Tivat and Podgorica). The next problem that needs to be solved is the improvement of public infrastructure - electricity, waste, and water supply that have to be solved in the long term by exploiting new sources. Furthermore, the modernization of existing tourist capacities is also required since not enough was invested in the renovation and modernization of the biggest hotels. During 2003, commercial banks approved EUR 12 million worth of credits to tourism and services, which is 60% more than in 2002, and the contribution of these credits to total credits approved to all activities is 6.1%. Activities in civil engineering in 2003, seen through official statistical data, significantly fell below the already adverse results achieved in Therefore, the value of construction work in the period January December 2003 was 13% lower than in the same period the year before, while the physical volume of construction work analysed through effective hours was 9% lower. A fall in this field can be partly explained by the reduction of foreign assistance in 2003, resulting in a fewer number of projects in the public and transportation infrastructure financed by international organisations, and by a lower demand for apartments due to their high prices and still unattractive housing loans approved by banks. However, a substantial contribution of the grey economy in this field and the number of new buildings constructed in the Republic indicate the unreliability of the processed statistical data both for 2002 and The volume of production in forestry in the period January December 2003 was mł which is only 0.6% less than in the same period the year before when the adverse results were achieved in this field (the fall in production in 2002 in comparison with 2001 was 10%). The main reason for such a fall in production was the unfavourable weather conditions in the first quarter of After this period, monthly production surpassed average production in the range of 21% to 78%, which was enough to compensate for the fall of production in the first 7 Tourists from Serbia are recorded as foreign tourists only for calculating the balance of payments of the Republic of Montenegro. 8 Many large objects of public and transport infrastructure and apartment buildings were built in 2002, which was not shown in statistics data as a growth in comparison with

17 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN 2003 quarter. During the reporting year, mł of wood products were sold, which is 6% less than in the same period in Poor results in the field of forestry are due to long lasting problems of unplanned and illegal woodcutting, and bad management of forest resources, as well as the obsolete technology which is used by wood processing enterprises. The problems deepen through the slow collection of concession fees. All the above mentioned point out the necessity of undertaking activities on improving forest resources management in order for Montenegro to obtain a certificate for maintainable forestry needed to gain access to international markets. The first steps have already been taken, so the implementation of the EUR 3.1 million project The Development of Forestry in Montenegro financed by the government of Luxemburg has started. In addition, it is necessary to undertake the restructuring and integration of wood processing enterprises. According to data from Monstat, the downtrend in transport in 2002 continued in The very low quality of the road infrastructure and frequent traffic interruptions in certain road sections influenced the fall in road transportation, so that compared to 2002, 18.2% less passengers and 8.1% less goods were transported in A fall was also recorded in transportation via railways 2% less passengers and 16.5% less goods were transported in the reporting year. The greatest fall behind the results achieved in 2002 was in public transportation not less than 43.3%. Positive results were achieved in air traffic where passengers or 2.1% more than in 2002 were transported in 2003, while transport of goods was 14.1% lower. The increased number of transported passengers in air traffic was primarily due to the better tourist season since 5% more passengers were transported in the period May September 2003 than in the same period the year before. Some 378 million tons of goods were transported in sea transport (in ton miles), which is 4.1% more than in the comparative period. The total turnover in ports in the reporting year was 1.9 million tons and it increased by 41% in comparison with Some 51% of transhipped cargoes referred to exports, with an increase of 99.4%, while 47.7% referred to imports, with an increase of 6.6%. It should be stressed that for some branches of the economy there is no, or there is very inadequate data on the achieved value of production, which lessens the level of knowledge of achievements and problems in the Montenegrin economy (e.g. in agriculture and trade). Therefore, it is necessary to solve the problem of the non-existence of this data by finding institutional solutions in statistics, and creating an electronic network for production, distribution, and use of data at the Republic level Prices An inflation rate of 6.7% 9 was recorded in Montenegro in 2003, measured by the retail prices increase (i.e. 6.2% if measured by the cost of living index) and compared to the projected inflation rate it was 1.3% lower. (Annex 1, Table 6) The rate shows a continuing downtrend in inflation (9.4% in 2002 and 28% in 2001), although it is still above the inflation rate in the European Union (2.1%). Several one-off system shocks influenced the price increase in the course of 2003, although their reoccurrence in 2004 is not expected. To wit, in the harmonization process of customs rates with the ones in Serbia there was an increase in the customs rate, which directly influenced the upsurge in prices of certain categories of products (the average weighted customs rate increased from 2.7% to 6%). Bearing in mind the fact that some 50% of Montenegrin imports are intermediate goods and unfinished products, this means that this increase of expenses was integrated in the prices of semi-finished products, and not only in finished products for which customs duties were increased. A substantial increase in prices was especially obvious in the first four months of 2003 when the average retail price increase rate was 1.28% (compared to December 2002, the retail price index in April was 5.2%). The largest monthly increase was recorded in April (3.2%) due to the implementation of Value Added Tax (VAT) and the increased state controlled prices of electricity of 23.7%. After April, price changes stabilised considerably, so that inflation in the period May December 2003 was 1.3%, i.e. the average retail prices increase rate in this period was 0.16%. The summer tourist season had no significant effect on the price increase since the prices in June and July increased at the rate of 0.3%, and the increase rate in August was only 0.1%. Prices stabilised completely at the end of the year, so that the level of prices in November and December 2003 remained the same as in October. In addition, there was a constant tendency of growth of credits to natural persons during the year, which actually represented an increase of solvent demand that exerted pressure on commodity stocks, which may also have led to inflation. 9 The so-called end year inflation methodology was used, that is, the year-on-year comparison of December 2002 and December

18 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 A partial elimination of price disparities was carried out as a part of the economic reforms in Thus, there was a significant price increase in electricity (24%), public utility services (13%), PTT services (5.4%), and bread (15.4%), which had a direct influence on the increase of inflation. In addition to the above mentioned reasons and observed by the categories of goods and services, the increase in producers prices of manufactured products of 5.7% 10 also influenced price growth during However, the main cause of the total price increase was the growth of prices of services of 14.3% (where 74.6%of the total growth refers to the cost of obligatory vehicle insurance and passenger transport which increased by 65.13% 11 and 8.5%, respectively, while 5.6% refers to the increased prices of public utility services and PTT services). The recorded rise in prices of services in 2003 represents the continuation of the trend from the previous years when above average increase of these prices, in comparison with the prices of other products, was also recorded. Most of these services belong to the group of non-tradable services, but their further increase and effects on macroeconomic stability could be prevented by enactment and consistent implementation of new anti-trust regulations. Notwithstanding the aforementioned increase in prices, decreases in prices was also recorded the prices of agricultural products reduced by 2.9%. Box 1.1. Inflation Movements in the Region Despite the fact that inflation in the last two years has substantially stabilized, such a price increase is still above the average in the European Union and the region. Inflation in the European Union in the reporting year was 2%. Of all the ex-yugoslav republics, only in Serbia inflation was higher than in Montenegro. Inflation movement in the EMU, EIT and the neighbouring countries is shown in the following graph: *EIT-Economies in transition Nevertheless, it can be concluded that gradual decrease in the inflation rate is the price that has to be paid as a part of the overall reform processes. The long-term goal has to be reaching the inflation level existing in the European Monetary Union. 10 Producers prices of manufactured products are the prices at which producers sell the largest quantities of their products in the domestic market, or those are the prices at which producers settle an account with other producers or merchants in the case of a joint venture. 11 The recorded increase is the result of the non-regulated insurance market. 18

19 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN 2003 The fluctuation of prices of oil and oil derivatives reflected on their price movements in Montenegro. 12 As a consequence, the highest monthly price increase of oil and oil derivatives was in March (7.07%), and the lowest fall of these prices was registered in May (6.02%). The Monstat data shows that the prices of the main categories, which make up the retail price index, grew a little slower in 2003 than in Graph 1 Retail prices (chain index) Source: Monstat Graph 2 Prices of oil and oil derivatives in 2003 (chain index) Source: Monstat 12 The reason for this was the Regulation on Forming the Maximum Retail Prices of Oil Derivatives enacted by the Government of Montenegro at end- September 2002, which prescribed automatic pricing of these derivatives on the basis of their price movements in the world markets, starting from January Therefore, the Government does not fix the prices of fuel in Montenegro, for it only approves the calculations submitted by Jugopetrol and other suppliers. The maximum retail price can be recalculated and applied as such if a price of any of the elements used for setting the retail price of oil derivatives changes for +/- 5% 19

20 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR 2003 Table 2 Retail price index XII 2001 XII 2000 XII 2002 XII 2001 XII 2003 XII 2002 TOTAL GOODS Agricultural products Industrial products Beverage SERVICES Source: Monstat The cost of living at end-2003 was 6.2% higher than at end Expenses that grew far more than average were fuel and light expenses (20.2%), cultural and leisure (15.5%), household (14.6%), services (8.4%), and clothes and footwear (7.3%). Compared to end-2002, food increased by 4.7%, and the only expenses that decreased in 2003 were tobacco and beverages (0.1%). (Annex 1, Table 7) The increase in the cost of living was influenced by the same factors as the retail price increase. Producers prices of manufactured products fluctuated during 2003 and grew much faster than in (Annex 1, Table 8) Observed on a monthly basis, these prices fell only in January (0.1%); in February, May and August these prices did not change, while in the other eight months, prices rose. The highest monthly increase of 3.8% was recorded in April as a consequence of the increased prices of electricity of 24%. Prices of capital goods grew by 33.1% during 2003; consumer goods grew by 13.2%, while the prices of intermediate goods increased by 4.7%. Observed by sectors, the highest increase in prices was recorded in electricity, gas, and water supply of 24%. The total price increase in the manufacturing sector was 6.1%; only the prices of tobacco products and clothing stayed the same as in The prices in other branches of manufacturing industry grew in the range of 0.5% (chemicals and chemical products) to 23% (food products and beverages). The prices of basic metals grew by 0.9% during the reporting year, while the prices in the mining and quarrying sector fell by 1.7% due to the lower prices in other mining and quarrying of 12.1%. In other branches of the sector there were no price changes Employment In the course of 2003, the labour market was under the influence of the change of laws and enabling provisions which regulate this field 13, activities on the implementation of the Government program for encouraging employment in the Republic 14, and under the more active engagement of inspection departments. According to the Employment Bureau, the average number of unemployed people during 2003 was and it was 11.1% lower than in the previous year. All year round, the number of unemployed people was lower than in 2002, but the lowest number of the unemployed was most distinct in the period April September. In addition to the influence of the tourist season, the reduction in the number of unemployed people is the result of the implementation of The legalisation of the existing and the creation of new jobs program supported by the enactment of the Regulation on Tax Relief for the Newly Employed, as well as by the more active engagement of inspection departments. The Regulation on Tax Relief for the Newly Employed was enacted in order to reduce labour costs and legalise black labour. This regulation stipulates that employers shall not pay the obligatory social insurance levy on new employees and fees for the use of common interest public facilities The Law on Labour (Official Gazette of the RM, no. 43/03), the Law on Strike (Official Gazette of the RM, no. 43/03), the Regulation on Tax Relief for the Newly Employed (Official Gazette of the RM, no. 25/03), and the Regulation on Engagement of Non-Residents (Official Gazette of the RM, no. 28/03). 14 The Government of the Republic of Montenegro Program: Legalisation of the existing and the creation of new jobs. 15 The following contributions are paid from an employees earnings: contribution for the Pension fund at the rate of 12%, the contribution for the health insurance of 7.5%, and the contribution for unemployment insurance of 0.5%, which all together makes up 20% of a gross wage of an employee. Employers are relieved of the tax on the newly employed. 20

21 MACROECONOMIC ENVIRONMENT IN MONTENEGRO IN 2003 Box 1.2. Participation of Taxes and Contributions in Gross Wages Taxes and contributions on taxes in Montenegro are calculated at progressive tax rates, as follows: if the annual amount of gross wages amounts to EUR 728 (EUR 61 per month), the tax rate is 0%. On the annual taxable income amounting from EUR 728 to EUR (EUR 61 to EUR 202 per month), tax is EUR 0 plus 17% on an income exceeding EUR 728. On the annual taxable income amounting from EUR to EUR (EUR 354 per month), tax is EUR 289 plus 21% on an income exceeding EUR Tax on the annual taxable income over EUR is EUR 671 plus 25% on an income exceeding EUR Every year, the amount of taxable income is adjusted to the retail price increase rate. The calculation of taxes and contributions for different gross personal income amounts in Montenegro in 2003 is given in the table. Participation of taxes and contributions in total labour costs ranges from 35% to over 50%. Accordingly, the contribution of these costs in a gross wage of EUR 600 amounts to 50.95%. The following graph shows the participation of taxes and contributions in total labour costs in the EU, the countries in the region, and in Montenegro for a gross wage of EUR 600 and above. The unambiguous recommendation is to accept the proposal of the Ministry of Finance and reduce taxes and contributions on personal income. In 2003, some people from the unemployed records were engaged during the summer tourist season through the Employment Bureau. Furthermore, two credit tranches for self-employment were approved in the reporting year to the amount of EUR 5.6 million, which created about new jobs. However, changes in the number of employed and the number of unemployed people in the course of 2003 was mainly due to bankruptcy and liquidation proceedings taken against numerous enterprises 16. According to data from Monstat, the average number of employed people in 2003 was or 1.7% less than in The greatest number of unemployed people was in July ( ), and the lowest in December ( ). 16 According to data from the Employment Bureau, people lost their jobs due to liquidation and bankruptcy proceedings. 17 This data is disputable because of the methodology for the calculation of the number of employed people. To wit, the number of the employed is determined on a sample basis, but small enterprises with up to 10 employees are not included in the calculation. 21

22 THE CENTRAL BANK OF MONTENEGRO ANNUAL REPORT FOR Monetary Developments The main activities in the monetary sector in 2003 were directed towards the strengthening of the financial market, the increase in the efficiency of the banking system, the encouragement of savings, and payment system operations reforms. The overall results show that the aims set in the Economic Policy for 2003 and the Policy of the Central Bank of Montenegro for 2003 in this field were accomplished as planned, which is mainly due to the completion of the institutional framework and the control activities undertaken by the Central Bank of Montenegro. Numerous laws and enabling regulations were passed in 2003 for the purpose of creating the institutional framework for the efficient functioning of the financial system: the Regulation on Credit Unions, the Resolution on Micro-Credit Financial Institutions, the Law on Deposit Protection, the Law on Settlement of Obligations and Claims Under Foreign Debt and Frozen Foreign Exchange Savings, the Law on the Prevention of Money Laundering, the Regulation on the Uniform Method of Calculation and Reporting of Effective Interest Rate on Loans and Deposits, the Regulation on the Chart of Accounts for Banks and Financial Institutions, and the Regulation on Bank Legal Reserves Held with the Central Bank of Montenegro. The privatisation process of Montenegrobank was successfully completed, and the necessary activities for the privatisation of the remaining state capital in banks were undertaken. Pursuant to the Law on Settlement of Obligations and Claims Under Foreign Debt and Frozen Foreign Exchange Savings, liabilities for frozen foreign currency deposits were removed from the balance sheets of four banks in December 2003, which the Government took over as public debt. In addition, the first stage of the reform of payment system operations was completed (payment system operations migrated to banks), which represents a demonopolization of the payment system operations in the Republic. As a result of the above-mentioned activities, and comparing end-2003 with end-2002, the total deposits in banks grew by 4% (of which deposits by private citizens grew by 99%, and deposits by the economy by 26%), the total amount of approved loans grew by 61% (of which loans to private citizens grew by 116%, and loans to the economy by 63%), and the total assets of banks grew by 3%. At the same time, the monetary aggregate M1 decreased by 6%, and the appropriated reserve requirements by 24%. Box 1.3. Banks Lending Activity During 2003, banks loans were on an uptrend, with slight oscillations, and the major loan users were private enterprises and private citizens. Banks deposits at the end of the reporting year grew 4% in comparison with end-2002, while at the same time banks approved 61% more loans. The level of total deposits was constantly above the level of approved loans. The structure of deposits in the course of 2003 improved in favour of term deposits which reached the annual increase rate of 67% at the end of the year. However, the maturity structure of term deposits shows the dominant contribution of term deposits up to one year (demand deposits and deposits up to three months and up to one year), so banks approved mainly short-term loans. The increase of loans in 2003 was also financed by borrowings from the domestic sector and international financial institutions credit lines for financing small and medium-sized enterprises. The borrowings from international financial institutions that banks used amounted to EUR million at end-december 2003, where some 58% made up long-term borrowings, mainly long-term credit lines from the KfW Bankengruppe for crediting small and medium enterprises. It can be assumed that, bearing in mind the low living standard and state in the real sector, there was a high demand for loans in the previous period. The growth in loans was, for the most part, the result of the banking sector s decision to increase the number and the total amount of loans, which was preceded by the improved macroeconomic environment, positive tendencies in the banking system development, growing competition in the financial market, the decreased reserve requirement rate, the increased accessibility of foreign loan assets, and so on. 22