PRESS RELEASE
Statement by IMF staff at the conclusion of PRGF - EFF negotiation mission to Albania, on November 21, 2005

An IMF mission visited Tirana during November 7-21, 2005, to conduct discussions on a new 3-year arrangement. The mission reached understanding with the authorities on economic policies for 2006-08 necessary to maintain macroeconomic stability, enhance growth potential, reduce vulnerabilities, and strengthen government solvency. Monetary policy targets are set to promote continued price stability, while the medium-term fiscal program strikes a balance between reducing public debt and increasing growth-enhancing and poverty-reducing expenditure. The mission also reached understanding on key reform measures in tax and customs administrations, public debt management, public expenditure management, and financial market development. Despite a temporary decline in 2005-06 because of electricity shortages, economic growth is projected to return to about 6 percent in the medium term if these policies are implemented. The proposed arrangement is to be discussed by the IMF Executive Board in early 2006.

Macroeconomic framework. Real GDP growth is projected to decline to 5 percent in 2006, from an estimated 5½ percent this year, reflecting the impact of electricity shortage. However, as the shortage is gradually eliminated, real GDP growth is expected to return to 6 percent in subsequent years, reinforced by increasing investment spurred by expected improvements in the business climate. With savings expected to grow more rapidly than public and private investment, the external current account balance is projected to gradually improve.

Fiscal program and the 2006 budget. The medium-term fiscal program strikes a balance between reducing public debt and increasing growth-enhancing and poverty-reducing public expenditures. Domestic government borrowing will be reduced to 2.4 percent of GDP by 2008 from an estimated 2.8 percent this year, resulting in a moderate decline in public debt relative to GDP by the end of the program. The 2006 draft budget is based on conservative revenue projections that include no immediate gain from tax administration measures. Furthermore, it contains significant contingent expenditure, about ¾ percent of GDP, which can be released in the second half of the year if revenue trends are in line with projections. In case of sustainable revenue over performance due to, for example, gains from improved tax administration and/or higher-than-planned privatization receipts, the government, in consultation with the IMF, plans to submit a supplementary budget to parliament in the second half of the year.

Monetary program. The current monetary policy framework, with quantitative targets for reserve money and with the repurchase rate as the main policy instrument, will be retained. Targets within this framework are set to maintain inflation within the Bank of Albania (BoA)'s target range of 2-4 percent. The current monetary policy stance is appropriate. The BoA, however, should closely follow inflation and wage developments, and take the necessary steps if the cost push in the economy stemming from electricity shortages starts translating into second round effects on consumer prices. Private sector credit is expected to continue to increase rapidly as financial intermediation deepens and the business climate improves. While this is a welcome development, prudential regulation, bank supervision, and the framework for the execution of collateral will need to be further strengthened to minimize associated risks to financial system stability.

Revenue administration. A major objective of the planned new program is to reshape revenue collection agencies into modern organizations relying on self-assessment and voluntary compliance through simple and transparent procedures and vigorous enforcement. The authorities and IMF staff have agreed that measures in this area will be guided by the recommendations of a recent IMF technical assistance mission, and will address key governance concerns and operational and administrative deficiencies. Tax collection efforts will be refocused on the large taxpayer office (LTO). Other reforms will promote efficiency and enhance governance at the General Department of Taxation, and ensure further implementation of the ASYCUDA system and better utilization of its risk-assessment module.

Public expenditure and debt management. With assistance from development partners, the government will pursue measures to raise the quality, efficiency, and productivity of public expenditure, and create room for additional public investment and priority spending, including in health care and education. The institutional framework for evaluating and prioritizing public investment projects will also be strengthened and independent feasibility studies will be conducted for any large project financed by nonconcessional borrowing. A main goal of the new program will be to improve public debt management. Weak institutional capacity in this area and the short average maturity of domestic public debt make public finances vulnerable to financial market shocks. To address these problems, the government will develop a comprehensive reform program based on the findings of an IMF technical assistance mission tentatively scheduled for early 2006.

Financial market reform. Reforms in the financial sector will be guided by the recent IMF-World Bank FSAP report. In particular, measures will aim to improve financial intermediation and supervisory capacities, most importantly in the insurance and private pension sectors, further reduce the share of cash payments in the economy, and promote greater efficiency in the financial sector. While still maintaining the treasury-bill window at the Bank of Albania, the authorities will take measures to eliminate cash payments for treasury bills. To complete the process of privatization in banking, preparations to divest the remaining state minority interests in two commercial banks will be accelerated.

Energy sector. Measures, including the introduction of new procurement rules, have been taken in recent weeks to increase electricity imports. An audit of KESH is under way and, in collaboration with the World Bank and other donors, an updated Power Sector Action Plan for 2006-08 is being prepared. However, further efforts are needed to reverse the deterioration in the performance of KESH. In this context, the authorities will also take measures to strengthen the payment discipline of budgetary institutions, including a prompt reconciliation and settlement of outstanding 2005 electricity bills and the installation of electricity meters in all budgetary institutions by mid-2006.

Structural conditionality. The authorities agreed to take three measures prior to the IMF Executive Board meeting on the proposed program: passing a 2006 budget that is in line with the agreed fiscal targets, strengthening the large taxpayer office, and approving an action plan for tax administration reform. Moreover, structural performance criteria and benchmarks, focusing on key structural measures, are set to promote steady implementation of reforms.

The mission would like to thank the authorities for their close cooperation and warm hospitality.

Istvàn P. Szèkely K. Ann-Margret Westin
Mission Chief Resident Representative