COVID-19 crisis response in South East European economies

More than 16,000 people have tested positive for COVID-19 in the South East Europe (SEE) region, Romania included, as of 14 April, reads an OECD report that reviews the impacts and consequences of the coronavirus pandemic on our lives and societies. The study looks at how the virus is spreading in the region, what containment measures are being taken and how healthcare systems and economies are coping.

From the economic perspective, the coronavirus pandemic has led to a notable slowdown in the SEE economies, which heavily rely on trade with and investments from the EU, particularly Germany and Italy. Unemployment in the SEE economies may rise again and labour market conditions may deteriorate further, as a significant share of the workforce lives abroad (between 20-25% of the population). Poverty rates may increase if remittances are suspended, as remittances constitute 10% of GDP in the Western Balkans.

Within the domestic markets SMEs, manufacturing and tourism sectors will be among the most affected. Some SEE governments have already introduced stimulus packages, mobilising both financial aid and monetary policies, to ease the economic impact and help their citizens. The EU has allocated funds amounting to EUR 38 million for immediate financial support for the health sector to the Western Balkans. In the short and medium term, the EU is mobilising additional EUR 374 million to support the social and economic recovery of the region.

Outbreak and containment measures enacted by governments

The COVID-19 outbreak reached South East Europe a bit later than Western and Southern Europe. The SEE economies reported their first COVID-19 cases in early March 2020 (with the exception of Romania with the first case reported on 27 February). The number of confirmed cases in the region has grown rapidly with the number of reported COVID-19 cases in the region exceeding 1,000 by the end of March (World Health Organisation, 2020). Within two weeks, the number of confirmed cases grew to over 16,000 confirmed cases (7,209 in the Western Balkans and 9,278 in Bulgaria, Croatia and Romania). The fatality rate in the region stood at around 2.5%-5% as of 14 April (World Health Organisation, 2020[1]). However, given the lack of testing and challenges in obtaining accurate statistics, the figures are indicative and not fully internationally comparable.

Following the outbreak of the COVID-19 pandemic, the SEE governments introduced containment measures around mid-March. Many SEE governments declared national states of emergency and implemented a number of measures promoting self-isolation. These also included border closures, travel restrictions and lockdown procedures as well as a new set of monetary and fiscal policy measures. Persons found to be in violation of the regulations can face fines and/or prison sentences. All SEE economies have closed their borders crossings to the movement of people while allowing the flow of goods and medical equipment. Save for a few exceptions, air traffic was heavily restricted with only a handful of commercial flights still operating in the region. Likewise, Albania and Montenegro suspended their sea transport services except for the transport of goods or medical gear. Given the rapid spread of the COVID-19 and the insufficient discipline regarding self-isolation measures, many SEE governments introduced curfews, further restricted the movement of vulnerable populations, suspended cultural and sports activities and closed parks and other public recreation areas. The lockdown was further extended, leading to the closure of kindergartens, schools, universities and other education centres. Educational systems in the SEE region have started conducting classes remotely and providing, in their capacity, support to pupils and students. The lockdown also affected cafes, restaurants, and retail store, as well large-scale cultural events. Only food stores, pharmacies, post offices and banks remain open, albeit with reduced working hours. These measures have triggered a rapid expansion of e-commerce services in the SEE region as firms seek new ways to conduct business during the crisis.

Challenges to the health systems and health sector responses

The COVID-19 outbreak poses a major challenge to the fragile health systems in the SEE region, which have been suffering from low health expenditures, lack of medical equipment and insufficient, yet well-educated personnel. In particular, the number of physicians per 1000 inhabitants in the Western Balkan region was lower (2.3) than the OECD average (2.9) in 2015, with only North Macedonia and Serbia counting 2.9 in 2015 and 3.1 respectively in 2016. In Bulgaria and Croatia, on the other hand, the number of physicians is higher than the OECD average, with Romania being at the Western Balkan average. Furthermore, the number of nurses and mid-wives (per 1000 people) in the Western Balkan region is significantly lower (5.1) than in the OECD countries (8.0) in 2015, whereas Croatia was the only economy to approach the OECD average (8.0) in 2015.

According to the latest data available, the Western Balkan region has 4.1 hospital beds per 1000 inhabitants compared to an average of 4.6 among OECD countries, with Albania having under 3 beds per 1000 people and Bosnia and Herzegovina under 4. In this regard, the situation in Bulgaria, Croatia and Romania is, however, a bit more optimistic, with all three economies recording the higher number of hospital beds than the OECD average.

General economic slowdown

The COVID-19 pandemic and related containment measures are taking a heavy toll on the global economy and will certainly affect the SEE economies, leading to much lower economic growth or even a recession. The region’s economies will be particularly affected through several channels. First, the containment measures will unequivocally affect domestic demand and supply, significantly decreasing economic activity. Supportive macroeconomic policies can partially aid the recovery of demand but cannot completely offset the economic consequences of enforced shutdowns. Second, the COVID-19 crisis has already curtailed global international travel demand and will certainly lead to a collapse in tourism ahead of the summer season. Albania and Montenegro will be hit particularly hard, as tourism revenues exceed 20% of GDP in both economies (EBRD, 2020).

Due to the strong linkages between tourism and agriculture, the negative impact will also be strongly felt in rural areas where the majority of the poor are employed in agriculture. Third, exports across the region will fall due to depressed demand, as well as disruptions in value chains. Although all economies will be affected, Romania and Serbia would likely bear the greatest cost, as their manufacturing sectors are more highly integrated into global supply chains and contribute the most to their economies in terms of value-added and employment.

Fourth, a deceleration of both public and private investment can be expected, which will further inhibit economic growth. The contributions of foreign direct investment (FDI) to the Western Balkan economies have been relatively sizeable over the last years, providing support for economic growth, job creation and technological progress.

Fifth, the Western Balkans rely heavily on the steady inflow of remittances, financing domestic demand and investment. In Kosovo for instance, remittances account for 15% of overall GDP. In addition to the high volumes, the remittances are also quite concentrated in terms of source countries – Germany, Italy, Austria – further exacerbating the Western Balkan economies’ vulnerability to the crisis’ impact in these economies (OECD, 2019). Remittances are likely to diminish due to travel restrictions and an increased unemployment, linked to the anticipated economic contraction in the EU.

The economic slowdown will also come at a bad time for Albania and Croatia, as both economies have been recently hit by earthquakes that have taken a toll on physical infrastructure and economic activity. This will add an additional burden to their budgets, which are already stretched by efforts to counter the damaging economic effects of the coronavirus outbreak.

The volatility in the financial markets increased, resulting in capital outflows.

The initial trends in local currency exchange demonstrate volatility in the exchange rates, signalling capital outflows and rendering international trade and investment decisions more difficult. All of the currencies in the Western Balkans have depreciated since the outset of the COVID-19 crisis; with the Albanian LEK being the worst hit . The depreciation of local currencies directly affects enterprises’ ability to make payments denominated in foreign currency, which is especially problematic for the Western Balkans as foreign exchange denominated loans represent 58% of all loans (excluding Kosovo and Montenegro). Serbia, where over 70% of loans are denominated or indexed to a foreign currency, is particularly susceptible to exchange rate depreciation (OECD, 2019). Until now, the Central Banks of North Macedonia and Serbia have made interventions in the foreign exchange market to smooth excessive short-term volatility. Although Kosovo and Montenegro unilaterally adopted the Euro in 2002, they can also be affected by the euro’s depreciation against the USD. In such a scenario, debt servicing costs for Montenegro may increase, as it starts repaying the USD denominated loans from China to finance the construction of the Bar-Boljare motorway. The Croatian HRK and the Bulgarian BGN, pegged to the Euro at a fixed rate, and the Romanian RON have slightly depreciated since January, but less than other currencies in the region.

Stock market indices plunged across the world, and the region’s stock markets were not spared from the effects of the crisis. Since the start of the year, all the region’s existent stock markets have noted declines. However, the shock’s impact remains more contained in the Western Balkans compared to the European Union. Moreover, the government bond spread have increased in all the economies, signalling the increasing risks associated with bonds and lower investor confidence. The risk perception for bonds seems to be highest for Croatia and Romania, as their bond spreads have increased by around 65% since the beginning of the year.

Monetary policy tools to soften the economic impact

Monetary stimulus such as policy rate cuts or asset purchases can lift confidence and support financial markets in order to offset the risk of a sizable tightening in financial conditions. In this context, the central banks across the region were quick to react with monetary policy tools. The Bank of Albania cut its key policy rate — the weekly repo — by 50 basis points to a new historic minimum of 0.5%. The national banks of North Macedonia, Romania, Serbia have also cut their key policy rates by 0.25% to 1.75%, and by 0.5% to 2% and 1.75% respectively. All these three central banks also provided ample liquidity to banks and non-bank financial institutions (see Annex). Access to low-cost liquidity will enable banks to facilitate implementation of policies that, in turn, ease the burden on companies and individuals facing suffering from sharp disruption. Kosovo and Montenegro, which have unilaterally adopted the Euro and abandoned independent monetary policy, cannot make full use of the usual monetary policy tools, and depend on the monetary decisions taken at the EU level.

Fiscal stimulus packages announced across the entire region

Under the circumstances of a major economic downturn, the case for fiscal stimulus is compelling, and all Western Balkan economies have announced large-scale stimulus packages (see Annex). These packages will lead to fiscal deficits and accumulation of debt. Although the Western Balkan economies have rising debt levels – most notably Montenegro – their GDP to debt ratios are still comparatively low, offering more fiscal space to implement these (see Figure 7). Nonetheless, spending will still need to carefully prioritize the most urgent needs, in order not to jeopardize debt sustainability. This is especially crucial for those economies that need to comply with the IMF loan conditions, such as Serbia, which public debt should not exceed 60% of GDP from 52.4% at the end of 2019. The ability to implement these fiscal measures will also ultimately depend on the economies’ market access to lenders and the cost of servicing debt.