OREANDA-NEWS. November 11, 2015. An International Monetary Fund (IMF) mission visited Sofia to discuss the economic outlook and related policies with the Bulgarian authorities. At the conclusion of this regular staff visit, Ms. Michele Shannon, IMF Mission Chief for Bulgaria, made the following statement:

We project moderate growth for 2015, broadly in line with last year’s level of 1.7 percent, supported by exports and absorption of European Union (EU) funds. Risks to this outlook are tilted toward the upside and strengthening domestic demand is likely to lift growth modestly in 2016. While unemployment has fallen with increasing economic activity, it is projected to remain high. Deflation is set to bottom out as commodity prices stabilize.

Near-term challenges, although significant, have receded somewhat since the summer. Preemptive steps by the Bulgarian National Bank (BNB) helped to mitigate the potential impact on the banking system from recent events in Greece. Recent emerging market turbulence has had negligible impact given Bulgaria’s limited external capital market exposure. Advancing corporate balance sheet repair and further steps to manage non-performing loans remain critical. Inward spillovers from Ukraine and Russia have remained muted, and the recent surge in refugees to Europe has not had a major impact in Bulgaria to date. Confirmation of the BNB governor and deputies has addressed an important source of policy uncertainty. However, events will need to be monitored carefully given still substantial uncertainty across the range of risks.

Regarding banking sector oversight, publication by the BNB of the detailed IMF-World Bank Basel Core Principles assessment report on banking supervision, along with the subsequent publication and initial implementation of a plan for reform of supervision, are welcome. At the same time, the transposition of the EU Bank Recovery and Resolution Directive this summer was an important step forward, and its implementation is on track, addressing key gaps in the resolution framework. The authorities are planning further steps towards strengthening the rules-based framework and internal controls for banking supervision and building a fully functioning bank resolution authority. Preparations for an asset quality review (AQR) are underway, consistent with the timeframe laid out in the National Reform Program. The authorities recognized the importance of a rigorous AQR to strengthen confidence in the banking system, and emphasized their commitment to a robust methodology and on-site review process, an effective communication strategy, and prompt follow-up. Necessary steps by the government to provide a backstop for potential capital shortfalls in individual credit institutions, where this shortfall cannot be covered from the market, are also on track.

Regarding the fiscal position, substantially stronger-than-projected 2015 revenues, driven by stepped-up administrative efforts, are welcome. While the deficit on a cash basis is projected to exceed the original target, it is likely to remain within targeted level on an accrual basis (adjusting for the timing of EU-funds related payments). That said, domestic revenue upside is expected to be fully absorbed to fund additional expenditures, including by some line ministries and municipalities. This represents a missed opportunity to accelerate needed consolidation. Given the concentration of expenditures in the fourth quarter, the government should exercise any remaining scope to contain current spending through the end of the year.

The 2016 deficit target and medium-term fiscal path as described in the recently published Three-Year Fiscal Framework (2016–18) are achievable. The 2016 target depends on substantial revenue gains, some of a one-off nature. As such, strict control over spending, including the wage bill, is needed, as well as readiness to step up savings if revenues fall short. At the same time, the government should continue to look for opportunities to accelerate consolidation to bring the debt down to a firmly declining path as soon as feasible and support the steady buildup of fiscal buffers.

Medium-term fiscal pressures related to emigration and an aging population, as well as contingent risks related to state-owned enterprises (SOEs), remain substantial. Recent parametric reforms to the public pension system have improved near-term financial flows, but have increased long-term sustainability concerns. The government’s plans to consider reforms to the disability pension will be important. The implications of the newly-established option for shifts between public and private systems will need to be closely monitored. Sustained progress to address health system inefficiencies following recent legislation and clarification of plans to mitigate contingent fiscal risks related to SOEs in the transport and energy sectors will also be critical. Prompt actions to introduce a fully functional and independent fiscal council will be important as part of a broader strategy to strengthen the monitoring of fiscal risks.

Bulgaria’s objective of convergence to average EU income levels depends on stepped-up progress in addressing structural bottlenecks to growth. Improvement in the financial position and market functioning of the energy sector is needed, including follow-up to initial steps to restore financial sustainability in the provision of electricity. Effective investment in infrastructure and human capital, as well as measures to strengthen the business environment—including by reducing corruption and cronyism and strengthening the rule of law—are also central to catalyze the investment and productivity gains needed for Bulgaria to meet its economic potential.

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The mission would like to thank the authorities for the collegial and informative discussions.