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COUNTRY REPORT

Bosniaand Hercegovina

May 2001

The Economist Intelligence Unit15 Regent St, London SW1Y 4LRUnited Kingdom

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Bosnia and Hercegovina 1

EIU Country Report May 2001 © The Economist Intelligence Unit Limited 2001

Contents

3 Summary

4 Political structure

6 Economic structure6 Annual indicators

7 Outlook for 2001-027 Political outlook8 Economic policy outlook9 Economic forecast

11 The political scene

18 Economic policy

23 The domestic economy23 Output and demand25 Employment, wages and prices

27 Foreign trade and payments

List of tables

9 BiH: international assumptions summary11 BiH: forecast summary19 BiH: central state budget20 Republika Srpska: entity budget21 Federation: entity budget23 BiH: industrial production24 Federation: construction25 BiH: labour statistics27 BiH: retail prices27 BiH: foreign trade28 Federation: foreign trade29 Federation: trading partners30 BiH: current account

List of figures

11 BiH: gross domestic product11 BiH: current-account balance26 BiH: retail prices

.



Summary

May 2001

The Alliance for Change coalition, which controls the central government ofBosnia and Hercegovina (BiH) and one of its entities, the Federation, shouldremain in power, if only because of the cohesive effect presented by itsnationalist political enemies. The Bosnian Croats will continue to causetension, although the “self-rule” declared in March is expected to be short-lived. Negotiations over a new IMF facility should be completed in the secondhalf of 2001. The EIU has revised its forecast for real GDP growth downwardsto 7% a year in 2001-02, owing to problems in the Federation as a result of themove to establish a parallel administration in Croat-majority areas, and theforecast for inflation in the Federation has been revised upwards to 4% in both2001 and 2002. Increasing local production should help the current-accountdeficit to narrow from 22% of GDP in 2000 to 16% in 2002.

The Alliance has come to power at the Federation and BiH state levels, endingten years of nationalist rule. The Croatian Democratic Union of BiH (HDZ BiH)has declared Bosnian Croat self-rule, demanding equal rights with BiH’s othertwo main ethnic groups. The international community has respondedresolutely, raiding banks believed to be funding the separatists, who lackbacking from Croatia. Republika Srpska (RS) has established special relationswith Yugoslavia (Serbia-Montenegro).

Budgets have been adopted by the central state and both entities to meet IMFrequirements. The Federation budget is burdened by defence spending, whileRS is trying to hold down expenditure after loss of budgetary control in 2000.The IMF has urged the entities to establish a single market. Privatisation ismaking slow progress.

Federation industrial output rose in the first quarter of 2001. Constructionoutput growth has slowed. Federation sales to RS have surged, while Federationemployment has stagnated. Wages in the Federation have continued to grow.Inflation has eased slightly.

Problems with current-account data have dogged analysis. BiH has exportedmore. The Federation’s trade deficit has shrunk, as its exports to Switzerlandand Yugoslavia have grown, while continuing to import most from Croatia andSlovenia. The current-account deficit for 2000 is estimated at US$1bn. MoreSlovenian investment is expected.

Editors: Michael Taylor (editor); Gavin Gray (consulting editor)Editorial closing date: April 27th 2001

All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] report: Full schedule on www.eiu.com/schedule

The political scene

Economic policy

The domestic economy

Outlook for 2001-02

Foreign trade andpayments

4 Bosnia and Hercegovina


Political structure

Bosnia and Hercegovina (BiH) has legal existence within the boundaries of the formerYugoslav republic of the same name. It comprises two entities: the Federation of Bosniaand Hercegovina (which is often referred to simply as the Federation), set up by theWashington Treaty of March 18th 1994, and the Republika Srpska (RS)

BiH has the following limited responsibilities under the Basic Principles agreed inGeneva and New York in September 1995, and confirmed at Dayton, US, onNovember 21st: the establishment of a Constitutional Court, a Commission forDisplaced Persons, a Human Rights Commission, a central bank, public corporations tomanage and operate transport and telecommunications, a Commission to PreserveNational Monuments, and a system of arbitration between the two entities. Foreigntrade is also supposed to be managed by the government of BiH

BiH has a bicameral parliament comprising the House of Representatives and the Houseof Peoples, two-thirds of whose members are elected from the Federation and one-thirdfrom the RS. A valid majority requires the support of at least one-third of the membersrepresenting each entity. The Federation and the RS have their own parliaments

November 11th 2000. Next elections: parliamentary, November 2002; presidential, bySeptember 2002

BiH has a rotating collective presidency of three: Zivko Radisic (Serb; current chairman,elected September 13th 1998), Beriz Belkic (Muslim; elected March 30th 2001) and JozoKrizanovic (Croat; elected March 30th 2001)

The Council of Ministers comprises six ministers, one of whom is appointed chairman(prime minister) on a rotating basis for eight months at a time. The current governmentwas formed on February 22nd 2001. The entities have their own governments

Federation: Social Democratic Party (SDP), Party for BiH (SzBiH), New Croatian Initiative(NHI), BiH Patriotic Party (BPS), List for Progress (List), Party of Democratic Action(SDA), Croatian Democratic Union of BiH (HDZ BiH)Republika Srpska: Serb Democratic Party (SDS), Party of Democratic Progress (PDP),Party of Independent Social Democrats (SNSD), Democratic Socialist Party (DSP),Serb People’s Alliance (SNS), Serbian Radical Party of Republika Srpska (SRSRS),Socialist Party of Republika Srpska (SPRS)

The Dayton agreement called for the appointment of a high representative, a seniorforeign diplomat charged with monitoring the implementation of the agreement andco-ordinating the activities of international organisations operating in BiH. The highrepresentative is advised by the Peace Implementation Council (PIC), which includes allthe signatories to the Dayton agreement. Since December 1997 the high representativehas been able to impose decisions in cases of disagreement and to dismiss officials whoobstruct the Dayton agreement

Chairman & Treasury Bozidar Matic (Croat)Civil affairs & communications Svetozar Mihajlovic (Serb)European integration Dragan Mikerevic (Serb)Foreign affairs Zlatko Lagumdzija (Muslim)Foreign trade & economic relations Azra Hadziahmetovic (Muslim)Human rights & refugees Kresimir Zubak (Croat)

Peter Nicholl

Wolfgang Petritsch

Official names

Form of state

Legislatures

National elections

Head of state

National government

Main political parties

International involvement

National government

Central Bank governor

High representative



President Karlo Filipovic (SDP)Vice-president Safet Halilovic (SzBiH)Prime minister Alija Behmen (SDP)Deputy prime minister & minister of finance Nikola Grabovac (NHI)

Agriculture, water & forestry Behija Hadzihajdarevic (SzBiH)Defence Mijo Anic (NHI)Education, science, culture & sports Mujo Demirovic (SDP)Energy, mining & industry Hasan Becirovic (SDP)Environment Ramiz Mehmedagic (SzBiH)Interior Muhamed Besic (SzBiH)Justice Zvonko Mijan (SDP)Social affairs & refugees Sefer Halilovic (BPS)Trade Andrija Jurkovic (SDP)Transport & communications Besim Mehmedic (SzBiH)Veterans’ affairs Suada Hadzovic (SDP)

President Mirko SarovicVice-president Dragan CavicPrime minister Mladen Ivanic

Agriculture Rajko LatinovicDefence Slobodan BilicFinance Milenko VracarForeign economic relations Fuad TuralicHealth & social security Milorad BalabanInterior Perica BundaloJustice Biljana MaricRefugees & displaced persons Mico MicicReligion Dusan AnteljTrade & tourism Zeljko TadicWar veterans & soldiers’ affairs Dragan Solaja

Federation

Key ministers

Key ministers

Republika Srpska



Economic structure

Annual indicators

1996 1997 1998 1999 2000a

GDP at market prices (KM bn) 4,192 6,367 7,439 8,323 9,591

GDP (US$ bn) 2,786 3,661 4,245 4,548 4,530

Real GDP growth (%) 69.2 29.5 12.4 10.0a 8.5

Retail price inflation (%) Federation –20.1 10.8 5.2 –0.7 1.5b

Republika Srpskac 17.2 –6.8 2.0 15.1 13.6b

Population (m) 4.16 4.20 4.23 4.28 4.32

Exports of goods fob (US$ m) 200a 277 605 627 1,030

Imports of goods fob (US$ m) 1,256a 1,643 2,351 2,392 2,798

Current-account balance (US$ m) –352a –668 –577 –884 –1,009

Reserves excl gold (US$ m) 235 80 175 455 485b

Total external debtd (US$ bn) 3.6 4.1 3.0 3.1 2.6

Exchange rate (av; KM:US$)e – – 1.76 1.83 2.12b

April 27th 2001 KM2.19:US$1; KM1.96:€1

Origins of gross domestic product 1998 % of total Components of gross domestic product 1998 % of total

Agriculture, fisheries & forestry 16.0 Consumption 100.4

Industry & utilities 22.4 Gross investment 38.0

Construction 5.7 Exports of goods & services 35.1

Services 55.8 Imports of goods & services –73.5

Total 100.0 Total 100.0

Principal exports 2000 % of total Principal imports 2000 % of total

Federation FederationIndustrial products 26.9 Machinery & transport equipment 24.8Miscellaneous manufactures 24.8 Industrial products 17.6Crude material excl fuels 23.9 Food & live animals 15.1Machinery & transport equipment 9.6 Miscellaneous manufactures 11.9

Main destinations of exports % of total Main origins of imports % of total

Federation 2000 Federation 2000Italy 17.2 Croatia 28.3Switzerland 16.8 Slovenia 16.5Germany 16.0 Germany 11.8Croatia 11.0 Italy 9.0

Republika Srpska 1999 Republika Srpska 1999Yugoslavia (Serbia-Montenegro) 43.2 Yugoslavia (Serbia-Montenegro) 23.1Italy 16.6 Slovenia 11.1Switzerland 4.7 Hungary 9.6Germany 3.2 Croatia 7.6

a EIU estimates. b Actual. c KM-based index. d Source: IMF, Country Report, January 2001. e Convertible marka (KM) introduced in June 1998and fixed at KM1:DM1.



Outlook for 2001-02

Political outlook

The Alliance for Change, which in November 2000 ended the nationalists’decade-long monopoly of power in Bosnia and Hercegovina (BiH), hasmanaged to form governments at both the central state level and in one of itsentities, the Federation. With international support, moderate politicians areoffering the chance of an end to attitudes that have kept BiH unstable for thepast six years. Although the inherent weaknesses of a ten-party coalitionemerged during prolonged haggling for cabinet seats, fending off thenationalists is likely to hold the coalition together, and the Alliance shouldretain power for the EIU’s forecast period.

An immediate task is to put an end to the obstructionism of the nationalists,who had blocked numerous pieces of legislation, requiring the intervention ofthe international community’s high representative, Wolfgang Petritsch. Twoother major tasks for 2001 will be the implementation of the ConstitutionalCourt’s decision on the constitutive status of BiH’s three peoples in bothentities and the passage of a permanent election law. These two decisions arecrucial for the shape of the future BiH state, and are likely to produce heateddebate and intense political wrangling between the Alliance and the nationalistopposition. The Alliance favours reconstituting BiH as a multi-ethnic country,strengthening the central state, and weakening the ethnic bias of theconstitution and electoral rules. This will run into opposition from BiH’s otherentity, Republika Srpska (RS), which will seek to preserve prerogatives given tothe entities under the Dayton constitution. At the state level, this issue willcloud co-operation between the Alliance and RS representatives.

Nationalist Bosnian Croats will continue to cause tension. The “self-rule”declared in March by the Croatian Democratic Union of BiH (HDZ BiH) is anact of desperation in the face of political change. It is expected to be short-lived. Mr Petritsch has so far handled the crisis well, but the Bosnian Croatminority will continue to present a problem in the long term, unless its senseof being an isolated community under threat of absorption can be overcome.The international community has attacked the infrastructure supportingseparatism, while insisting on dialogue through democratically electedinstitutions; the Alliance has also maintained that it is open for talks. This offercould well be the issue over which the HDZ BiH eventually splits between itshardline and moderate factions.

As corruption and illegal dealings involving HDZ BiH hardliners are increasinglyunveiled, so the membership outside that core will want to disassociate itselffrom it. The HDZ BiH’s internal dynamics have to be viewed in the widerpolitical context in which ethnic politics is gradually losing its appeal. It ispossible that the HDZ BiH may cease to exist altogether. This depends on how farthe international community is prepared to make those most responsible for therecent violent events accountable, as well as on how well the HDZ BiH’s motherparty, the Croatian HDZ, fares in the forthcoming local elections in Croatia.

Domestic politics

Bosnian Croats



The international presence in BiH will remain essential for peace and stabilityfor a considerable time, underlined by the Bosnian Croats’ disruptivebehaviour in the Federation. Although much of the effort has been graduallyassumed by the EU, recent US reassurances of its commitment to peacebuilding in BiH are important for the overall credibility and impact of theinternational effort.

The BiH authorities will increasingly focus on working towards achieving aneventual stabilisation and association agreement with the EU, while starting toplay a more active role in regional co-operation. Unlike its predecessors, whichhad little genuine interest in advancing these aspects of BiH’s statehood, thenew administration is eager for BiH to become an active partner on theinternational scene.

Economic policy outlook

The broad thrust of economic policy based on commitment to macroeconomicstability is likely to remain over the forecast period. BiH is entering a crucialstage of economic reforms, which will require continuing assistance,principally in the form of a new IMF facility. We assume that the entity and thestate governments will remain on track regarding policies agreed with the IMFunder the present stand-by loan so that, on its completion at the end of May,the new facility is agreed.

We expect negotiations over the new facility to be completed in the secondhalf of 2001. The IMF has said that it is considering a three-year povertyreduction and growth facility (PRGF), which puts alleviating poverty in thecontext of a growth-oriented strategy. Albania, which is already benefitingfrom a PRGF, is the only other European country to qualify for this type ofsupport, which is typically accompanied by a poverty reduction loan from theWorld Bank’s concessionary lending arm, the International DevelopmentAssociation (IDA).

Strengthening revenue performance and removing various drains on thebudget at all levels of BiH’s government structures will be essential toimproving fiscal sustainability over the forecast period. Reforms aimed atreducing customs duties and improving their collection will continue, alongwith tax reform. Despite the modest increase in state and entity budgets in2001 compared with 2000, we expect the fiscal situation to remain strained, asit will take time for the necessary reforms to be implemented and for theireffects to filter through.

The state government is determined to cut personal income tax in order tofacilitate employment. This will have an impact on the composition of publicrevenue, as personal income tax has been one of its most important sources,surpassing corporate income tax by a wide margin. Unless there is solideconomic performance and improved tax collection, this could have a negativeimpact on public revenue. Corporate income tax will also be subject to reformsin 2001 as part of an effort to lower and rationalise tax rates. More attentionover the next couple of years will be given to the issue of fiscal

International relations

Policy trends

Fiscal policy



decentralisation, which will involve the development of taxes at the cantonaland municipal levels.

A number of reforms in other areas, such as social security reform andprivatisation, are also relevant for fiscal sustainability, and more effort isneeded on this front; the pace of various aspects of reform will continue to beuneven. Privatisation, which has hitherto proceeded at a faltering pace, willhave to be stepped up. Given the importance of tender sales as part of BiH’sprivatisation programme and the extent of foreign expert support, we expectthat a number of favourable deals could be concluded that may alleviate thestrain on the public finances. The entity governments have agreed not to usethe privatisation proceeds before consulting the IMF.

We expect the currency board to remain in place in 2001-02 and currencystability to be maintained following the switch from the D-mark to the euro as areference currency in 2002. Maintaining the credibility of the currency boardarrangement will be the main monetary policy objective over the forecast period.

Economic forecast

BiH: international assumptions summary(% unless otherwise indicated)

1999 2000 2001 2002

Real GDP growthOECD 3.1 4.0 1.7 2.5EU 2.5 3.3 2.5 2.6

Exchange rates (av)US$:€ 1.07 0.92 0.97 1.08

Financial indicatorsEuro 3-month interbank rate 2.97 4.48 4.43 4.39US$ 3-month commercial paper rate 5.18 6.32 4.40 5.20

Commodity pricesOil (Brent; US$/b) 17.86 28.37 24.10 23.98Food, feedstuffs & beverages (% change in US$ terms) –18.6 –6.1 8.0 14.8Industrial raw materials (% change in US$ terms) –4.6 13.4 2.6 5.1

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

Growth in the global economy is expected to slow further in 2001, with theUS close to recession and Japan continuing to weaken. However, the impact ofthe global downturn on BiH’s economic prospects for 2001-02 will bemoderated by the country’s trade orientation. The EU is BiH’s largest tradingpartner, taking 42% of its exports and providing 40% of its imports in 2000,and should provide a cushion for the east European transition region: the EUshould cope better than other regions because it is less dependent on globaltrade. Even so, it is not immune and growth in the EU is already slowing.

Oil prices are expected to stay above US$23/barrel throughout 2001 and 2002,offering only a marginal easing in the energy import bill. The alleviation willbe reinforced by the appreciation of the euro (to which the BiH currency is

Monetary policy

International assumptions



linked via the D-mark) against the US dollar, reaching parity by late 2001 andUS$1.10:€1 by the second quarter of 2002, although we then expect the euroto start to slide again as growth in the US economy revives, outstripping that ofthe euro zone. As a metals exporter, BiH may expect to benefit from acontinuing (if mild) rise in prices for industrial raw materials.

We have revised our previous forecast for real GDP growth in BiH to 7% a yearin 2001-02, owing to disruption caused by the HDZ BiH move to establish a“temporary” parallel administration in Croat-majority areas. This will affect pay-ment operations and upset trade and customs procedures, damaging the func-tioning of the economy. Delays in the payment of public-sector wages and pen-sions are expected to affect consumer confidence and reduce private consumption.

We expect growth in RS to pick up in 2001, thereby partly offsetting theexpected slowdown in the Federation. The new RS government has in its shorttime in office indicated that economic revival is high on its agenda and it maywin substantial donor funding. Renewal of commercial and trading links withYugoslavia (Serbia-Montenegro) will give an additional boost to the economy.In the longer term privatisation in RS is progressing faster than in theFederation, creating opportunities for more rapid private-sector developmentinvolving both domestic and foreign investors.

Because BiH is at a politically sensitive phase, with moderate political forces stillto consolidate their hold on power, we expect donor funding to remainsubstantial in 2001-02. There will, however, be a profound shift in spendingfrom reconstruction-related activities to supporting structural reforms, whichshould lessen the role of public consumption and externally funded publicspending as drivers of growth. We expect a gradual pick-up in both domestic andforeign investment as the business environment increasingly resembles that of amarket-based economy, keeping exports growing. Export volumes in 2001-02will remain modest, however, owing to the low competitiveness of much oflocal production, and the slowdown in the EU. The overall outlook remainssubdued, as the process of transition from an aid-dependent to self-sustainingeconomy requires deepening structural reforms and a longer time frame.

We have revised our forecast for inflation for 2001-02 upwards in the Federationto 4% in both 2001 and 2002, and downwards in RS to 6% and 5%, respectively.Inflationary pressures in the Federation strengthened at the beginning of 2001,and in light of the expected disturbances in commercial flows as a result ofrecent political developments, we expect them to remain so. In RS inflation willcontinue to slow as co-operation between the entities improves. The underlyingassumption for our forecast is that the currency board remains in place andfiscal policy remains on track as agreed with the IMF.

Since its introduction in 1998, the convertible marka has been fixed at paritywith the D-mark and has therefore followed its pattern against the US dollar,depreciating strongly in 1999-2000. From 2002 the convertible marka will befixed at parity with the euro; it is likely to appreciate against the US dollar froman average of KM2.12:US$1 in 2000 to KM2.03:US$1 in 2001 andKM1.81:US$1 in 2002.

Exchange rates

Inflation

Economic growth



BiH: forecast summary(% change year on year unless otherwise indicated)

1999a 2000b 2001c 2002c

Real GDP 10.0b 8.5 7.0 7.0

Industrial output 8.0b 8.0 9.0 9.0

Retail prices (av) Federation –0.7 1.5a 4.0 4.0 Republika Srpska 15.1 13.6a 6.0 5.0

Exports of goods fob (US$ m) 627 1,030 1,050 1,100

Imports of goods fob (US$ m) 2,392 2,798 2,900 2,750

Current-account balance (US$ m) –884 –1,009 –1,150 –1,050 % of GDP –19 –22 –22 –16

Exchange rate (year-end; KM:US$) 1.95 2.08a 1.87 1.82

a Actual. b EIU estimates. c EIU forecasts.

BiH’s external position will remain precarious in the absence of a strongeconomic recovery and more robust export performance. Imports will remainhigh, preventing a significant reduction in the trade deficit. In 2001 we expectthe trade deficit (fob:fob) to hover at about US$1.85bn as exports increasemore slowly than in 2000 and imports remain strong. Helped by positive netservices and income balances, the current-account deficit is likely to narrowfrom 22% of GDP in 2000 to 16% in 2002, when we expect more vigorouslocal production to reduce imports and increase exports. Although recovery inthe euro zone is not expected until after 2002, economic performance willremain favourable which, combined with improved co-operation with BiH’sneighbours, should reflect favourably on export demand.

The political scene

Despite some tension over the division of ministerial posts, the Alliance forChange, the ten-party coalition that emerged from the November 2000election in Bosnia and Hercegovina (BiH; February 2001, pages 12-13), formeda new government for BiH’s Federation entity on March 12th 2001. The new

Moderates form theFederation government

External sector



cabinet is the first non-ethnic government for the Federation since the Daytonagreement of 1995, and should result in better co-operation both within BiHand with international agencies, ending the nationalists’ obstructionism. TheAlliance, which gathers together parties of a social-democratic and civic-liberalorientation and pensioners’ campaign groups across BiH’s three main ethnicgroups, has a platform of the reunification of BiH and its social, economic andpolitical rehabilitation.

Alija Behmen of the Social Democratic Party (SDP) will head a cabinetcomposed of six ministers from the SDP, five from the Party for BiH (SzBiH),two from the New Croatian Initiative (NHI), one from the BiH Patriotic Party(BPS) and one from the List for Progress (which took the place in the coalitionof the Republicans who left, dissatisfied with the division of cabinet posts).Mr Behmen promised at the March 12th parliamentary session, among otherthings, to remove parallel institutions, ensure the return of refugees andpersons displaced since the end of the war in 1995, prepare an economictransition programme, bring fairness and efficiency to the administration, andaccelerate BiH’s progress towards European integration. The Alliance’s mainproblem is that its two core parties—the SDP and the SzBiH—differsignificantly in both their profile and their respective constituencies. Whereasthe core of the SDP consists of offshoots of the former League of Communists,the SzBiH is positioned closer to the political centre-ground, and is perceivedby many as a non-nationalist alternative to the Party of Democratic Action(SDA), formerly the dominant Muslim party.

The course towards forming the Federation government was not smooth. NikoLozancic, the speaker of the former Federation House of Peoples and arepresentative of the Croatian Democratic Union of BiH (HDZ BiH), refused toconvene the newly elected house as part of the nationalist party’s boycott ofBiH institutions (February 2001, page 18). By permission of the internationalhigh representative, Wolfgang Petritsch, it was his former deputy, Mr Behmen,who summoned the house’s first meeting on February 23rd. The session electedthe Federation president and vice-president, Karlo Filipovic and Safet Halilovicrespectively, on February 28th. They in turn nominated Mr Behmen as primeminister, paving the way for the formation of the Federation government.

At the level of the state, on February 22nd the BiH parliament elected BozidarMatic, an ethnic Croat member of the SDP, chairman of the BiH Council ofMinisters, following its rejection of Martin Raguz of the HDZ BiH(February 2001, page 16). The Serb and Muslim members of the BiH presidencyhad swung behind the nomination of Mr Matic, a prominent academic. Theformation of the six-member BiH government was not without its difficulties,with Mr Matic offering twice to resign as Alliance parties fought over whichshould receive cabinet seats. Mr Matic said that he would work for the good ofthe whole of BiH. His address to parliament focused on ending the economy’sreliance on foreign aid, increasing exports and attracting foreign investment.

Alliance also controls thestate government



With the further election on March 30th of two new members of the BiHpresidency, the Alliance for Change has taken power at both the Federationand the state levels, pushing the Croat and Muslim nationalists of the HDZ BiHand the SDA into opposition for the first time since 1990.

Leading personalities in the Alliance for Change

Bozidar Matic: The new chairman of the Bosnia and Hercegovina (BiH) government isan ethnic Croat from the Social Democratic Party (SDP). Before his election he was aprofessor at Sarajevo University, president of the Academy of Arts and Sciences, anddirector of an engineering enterprise, Energoinvest.

Zlatko Lagumdzija: The BiH foreign minister is also leader of the SDP. Anotheracademic, he is a former member of the SDP’s predecessor party, the pre-independenceLeague of Communists.

Kresimir Zubak: As head of the New Croatian Initiative (NHI), Mr Zubak, who is BiHhuman rights and refugees minister, is leader of the moderate Bosnian Croat resistanceto the nationalists of the Croatian Democratic Union of BiH (HDZ BiH), which he left toform the NHI in 1998. He was the Croat representative on the BiH presidency from1996 to 1998.

Alija Behmen: The Federation prime minister is a Muslim member of the SDP and aneconomics professor.

Mladen Ivankovic: Minister without portfolio in the Federation government,Mr Ivankovic is a Croat, a prominent businessman from Siroki Brijeg and the leader ofthe small List for Progress party. Mr Ivankovic’s house was damaged by a car bombattack on April 10th 2001, which he blamed on hardline Croat supporters of theHDZ BiH, which he left in 2000.

Haris Silajdzic: The leader of the Party for BiH (SzBiH) has not taken up any position inthe new authorities. He was co-chairman of the BiH government until it wasreconstituted in its new form in May 2000. A former vice-president of the nationalistParty for Democratic Action (SDA) and ally of the SDA leader, Alija Izetbegovic,Mr Silajdzic is also an outspoken advocate of integrationism, on which he is inagreement with the SDP leader, Mr Lagumdzija; in other respects the SDP and SzBiHmake unlikely bedfellows.

The HDZ BiH, unhappy about changes to the election rules by theOrganisation for Security and Co-operation in Europe (OSCE; February 2001,page 17), had been threatening to withdraw from all Federation and state-levelinstitutions since before the November 2000 election. While the clearparliamentary majority for the Alliance for Change at the federal levelprevented the HDZ BiH from participating in the executive branch of thegovernment, there was still some hope at the state level with the candidacy ofMr Raguz. When this failed, and the SDP’s Mr Matic was endorsed by the Serband Muslim presidency members on February 13th, Ante Jelavic, at the timethe Croat member of the BiH state presidency, walked out of the session,saying that the Bosnian Croats’ vital national interests were in danger, which

HDZ BiH declares BosnianCroat self-rule



under the constitution should require the presidency decision to be referred tothe Croat members of the House of Peoples for review. However, the HDZ BiHmembers were boycotting parliament, and a chain of events was set in motionthat represents the greatest challenge so far to the peace process in BiH sincethe signing of the Dayton peace agreement in 1995.

A meeting of the HDZ BiH presidency on February 14th agreed that theBosnian Croats should resort to their own resources to protect theirconstitutional, national and political interests. This was to be a temporaryarrangement until measures were introduced to safeguard the equal status ofthe Bosnian Croats with the Muslims and Serbs of BiH, allegedly jeopardised bythe international community’s actions. The HDZ BiH presidency asked theCroat People’s Assembly (HNS), a body set up purportedly to promote Croatianculture and language, to convene a session to discuss possible options.

The HNS voted in Mostar on March 3rd to establish a self-governing inter-cantonal council in the two south-western Federation cantons with a Croatmajority. The council, with a seat in Mostar, aims to control all civilianinstitutions, the army and police forces, as well as pass its own budget andlegislation, and meet all obligations to the state-level government, but not theFederation, thus amounting to the establishment of a third entity within BiH,recalling the former Croat statelet of Herceg-Bosna. Mr Jelavic, who is presidentof the HNS, announced that it would revoke its decision within 15 days if itsdemands were met. These include rescinding the OSCE’s controversial rules onelecting the upper house of the Federation parliament. However, the under-lying grievance seems to be that, as Mr Jelavic said on March 3rd, “the Croatnation is not equal to the other two nations in BiH”. He wrote to the USpresident, George W Bush, seeking an international conference to negotiate a“new order” in BiH. Such a conference is extremely unlikely to be called, asunpicking the Dayton compromise would be resisted fiercely by the BosnianSerbs. Mr Jelavic insisted that self-administration was a temporary measure andthat, while Bosnian Croats were not trying to secede from BiH, they wereunwilling to recognise the new federal authorities in which the Alliance forChange holds the main posts.

Mr Petritsch responded resolutely to the HDZ BiH’s moves and threats. OnMarch 7th he sacked Mr Jelavic as state presidency member and leader of theHDZ BiH; other senior Bosnian Croat officials were also removed from partyand elected positions. Mr Petritsch insisted that he was open to dialogue withrepresentatives of the Bosnian Croat people through legal institutions but thathe would not succumb to the extra-legal actions of HDZ BiH extremists. TheHNS extended its deadline for setting up a Croat self-administration foranother 60 days and said that it was establishing a co-ordinating body betweenCroat-controlled regions, instead of the inter-cantonal council. The highrepresentative responded by endorsing the appointment of Jozo Krizanovic asthe Bosnian Croat member of the BiH presidency, indicating to the HDZ BiHthat it was unlikely that its threats would bear fruit.

Mr Petritsch respondsresolutely



The HDZ BiH nevertheless went ahead with preparations for a separatistadministration, and by the end of March the Croat component of theFederation army had been disbanded by the former defence minister, MiroslavPrce, and a majority of ethnic Croat policemen and customs officials haddeclared their loyalty to the new para-structures. In Central Bosnia cantonmembers of the nationalist Association of Veterans and Invalids of theHomeland War (HVIDR) moved into barracks vacated by Bosnian Croatsoldiers, vowing to remain there until the HNS demands were heeded. Thesituation had the makings of a military rebellion, so in mid-April the NATO-ledStabilisation Force (SFOR) began to move tanks, artillery and ammunition froma number of barracks to a central site to prevent their use by the Croats.

The new state and Federation governments, backed by the internationalcommunity’s representatives in BiH, have made it clear that they will takeaction against the formation of parallel structures; a new defence minister anda new head of the Federation Customs have therefore been appointed. Soldierswere given a deadline to report back to their headquarters or face dismissal anddisciplinary charges; in the event, few responded, amid allegations of pressurefrom the HDZ BiH. The Federation finance minister, Nikola Grabovac,

Croat police and militaryback the HNS



announced that he was ready to close down some customs posts, resulting inthe permanent termination of employment for disloyal officials.

The tense atmosphere created by the HDZ BiH’s move to establish a separatistadministration escalated on April 6th when officials from the highrepresentative’s office, backed by SFOR troops, raided several banks acrossHercegovina suspected of providing financial backing for the parallel structures.The main target was the Hercegovacka banka headquarters in Mostar, where thehigh representative appointed a temporary administrator from his own officesand froze all accounts. Since the closure of the payment bureaux in December2000, Hercegovacka banka has taken over most payment transactions in Croat-majority areas, making it technically possible to redirect taxes from Federationcoffers to those of the parallel Bosnian Croat structures. The bank has beenunder surveillance for some time, and the head of its managing board, a formerFederation finance minister, Dragan Covic, is under investigation by the Officeof the High Representative for criminal offences during his term in federaloffice. While searching the bank, SFOR troops and international officials wereattacked by Bosnian Croat mobs gathered outside. Shooting broke out, severalvehicles were set on fire and people on both sides were injured. The attempt totake over the bank branch had to be abandoned after international officialswere taken hostage and one was threatened with execution. Another raid wasmounted on April 19th in order to secure documents and cash.

The events leading up to the well-organised violence in Mostar and otherplaces in Croat-dominated Hercegovina suggest that the move to set up aseparate administration was planned. It emerged that all relevantdocumentation had been moved to Mostar—the intended seat of the self-administration—in advance. Employees across municipalities with a BosnianCroat majority have had to sign pledges that they would contribute to thefund to pay salaries to Croat officials and public servants who left Federationinstitutions for the parallel authorities. To secure financial viability for theparallel structures, Hercegovacka banka emerged as the main player inhandling payment transactions in Bosnian Croat majority areas. Stagingviolent outbreaks against the international community’s representatives shouldtherefore be seen as part of a strategy of coercing both local political partnersand international representatives to accept the Bosnian Croats’ demands.

The Bosnian Croat move has been condemned both within BiH and abroad asa dangerous act aimed at destabilising the country. Some of the HDZ BiH’sconcerns are understandable, since the Bosnian Croats are the least numerousof BiH’s three peoples and fear that they will disappear into a Muslim-dominated Federation. However, what is really at stake is an attempt by HDZBiH radicals to hold on to the powers, privileges and funds secured during the1992-95 war and its aftermath. These have come under threat following theascent to power of moderate political forces after the 2000 election, when itbecame evident that the HDZ BiH could no longer claim to be the solerepresentative of Bosnian Croat interests. Although the HDZ BiH says that it isnot its intention to set up a separate entity, the current “temporary” structuresamount to one, and as such it will be supported by many ethnic Croats.

Mr Petritsch’s raid on Croatbanks meets with violence

Coercion is part ofHDZ BiH strategy

Separatism meets the HDZBiH’s own agenda



It is possible that the HDZ BiH did not expect the West to respond so firmly.On April 21st the HNS again offered to end self-rule, if the ConstitutionalCourt’s ruling on the constitutive status of all three peoples throughout BiH(August 2000, page 7) were implemented in both the Federation and RepublikaSrpska (RS). An HNS presidency statement said that it did not want to revivethe former Herceg-Bosna separate statelet, or to detach the Croat-dominatedcantons into Croatia proper, but to gain the same individual and collectiverights for Croats that were enjoyed by BiH’s other two peoples. In a furthersoftening of his hardline position, on April 25th Mr Jelavic said that the HDZBiH deputies might return to parliament, while Mr Raguz said that self-rulemight be ended after negotiations with the international community achieved“serious reforms” of the constitutional set-up in order to solve the Croatian“national issue”.

The government of Croatia was among those urging the Bosnian Croats toresolve their grievances within the official institutions of the Federation andthe central state. It made it clear that the separatist agenda enjoyed no supportin Zagreb. This was underlined by a decision to revoke an agreement on specialrelations between Croatia and the Federation, signed in 1998 at the insistenceof both the HDZ BiH and the Croatian HDZ. Under BiH’s constitution, agreedas part of the Dayton peace agreement, the two entities, the Federation and RS,have the right to enter into special and parallel relations with Croatia andYugoslavia (Serbia-Montenegro), respectively. This provision was made to allowSerbs and Croats the opportunity to maintain close relations with their ethnickin in the two neighbouring countries, following the break-up of the commonstate of the former Yugoslavia.

The HDZ BiH responded that it was not bothered by the termination of theagreement, which it said had not been of practical use. It alluded to the factthat the annexes to the agreement, which would stipulate the content of thespecial relations in various fields envisaged by the general agreement, had, infact, never been agreed. Termination of the agreement is an important gesturereflecting Croatia’s support for a unified BiH. However, the Croatiangovernment fears that its opponents at home in the Croatian HDZ may exploitthe Bosnian issue to demonstrate that it is not protecting the interests ofCroats abroad. This may explain a meeting in Slavonski Brod (Croatia) betweensenior BiH SDP politicians and the Croatian government leadership in March,at which a plan was discussed to reconstitute BiH as a unified state divided notinto the two Dayton entities but a dozen or so cantons. The summit wasimmediately (and predictably) condemned by the RS entity authorities asinterference in BiH internal affairs.

To the surprise of many, the SDA seemed to accept its new role as oppositionparty following the November 2000 election, promising to become anindependent party of the centre. However, as implementation of the electionresults progressed, the SDA reacted more aggressively to its sidelining fromgovernment structures, threatening to boycott Federation and stateinstitutions. The party’s deputy head, Sulejman Tihic, said that the SDAaccepted that it would not participate in the executive but insisted that it was

SDA responds aggressivelyto loss of power

Croatia refuses to back theBosnian Croats



entitled to posts in both legislatures. In reality, the SDA, much like the othernationalists in BiH, is keen to hang on to power; it has obstructed theformation of a government in a number of cantons where it managed to secureparliamentary representation, often working alongside the HDZ BiH.

Just how closely the two parties have worked in the past to prevent theconsolidation of the Federation was suggested in March when Mr Petritschstarted legal proceedings against a former Federation prime minister and SDAmember, Edhem Bicakcic, for abuse of office, while announcing that aninvestigation into the dealings of his Bosnian Croat deputy, Dragan Covic, wasunder way. The two allegedly had a tacit agreement on the separate use ofpublic funds to finance activities in Muslim and Croat-majority areas.

An agreement on special parallel relations between RS and Yugoslavia wassigned in Banja Luka on March 5th. BiH’s central state government was notrepresented at the signing ceremony; the official explanation was that theceremony coincided with a Muslim religious holiday, preventing the BiHforeign minister, Zlatko Lagumdzija, from attending. The more likely reasonseems to be the objections of officials in the state government over the factthat the RS government negotiated the agreement unilaterally and informedthe foreign ministry shortly before the signing ceremony. It also emerged thatthe Office of the High Representative was involved in the negotiations.

Although RS is entitled to an arrangement of this kind with Yugoslavia under theDayton agreement, the way in which it has been handled indicates that itsgovernment is not particularly keen on working closely with the centralgovernment in matters that it considers come under its sole jurisdiction. Apartfrom procedural objections, which were the first test of how relations between thenewly elected RS and state-level governments may evolve, there were allegationsthat some of the contents of the agreement trespassed on central state affairs—anallegation dismissed by Mladen Ivanic, the RS prime minister. The details of theagreement will be specified in annexes that have yet to be negotiated; it seems,however, that state representatives will once again not be involved.

The constitutional clause on the right to special parallel relations between BiH’sentities and Croatia and Yugoslavia has always been disputed by Muslimrepresentatives in the government as a threat to BiH sovereignty. As recently asthe occasion of the termination of the similar agreement between the Federationand Croatia, Stipe Mesic, the president of Croatia, remarked that these agree-ments were in effect a continuation of the project to partition BiH—a remarkfiercely criticised by Mr Ivanic and the Serb member of the BiH presidency.

Economic policy

The Bosnia and Hercegovina (BiH) parliament adopted the 2001 central statebudget on March 30th, a day before the deadline set by the IMF as a conditionfor the release of the sixth and seventh tranches of the stand-by loan(February 2001, page 20). The budget was approved at KM304.3m(US$137.2m), in line with IMF recommendations. This represents a 14.8%

RS establishes specialrelations with Yugoslavia

Central state budget isadopted just in time



increase on the draft 2000 budget of KM265m, which had itself represented a20% increase on the 1999 budget (1st quarter 2000, page 19). Foreign debtservice is the main function of the central budget, which is constitutionallyrequired to balance revenue and expenditure, although this does not happenin practice.

BiH: central state budget(KM m)

1999 2000a 2001

Revenue 218.3 269.9 304.3 BiH revenue 31.4 27.6 n/a Transfers from entities 186.9 242.3 n/a of which: for debt service 158.7 197.7 n/a

Expenditure 216.5 271.9 304.3 Administration 57.8 66.2 n/a Salaries 32.6 25.0 n/a Materials & other 25.2 41.2 n/a Border service – 8.0 n/a Debt service 158.7 197.7 n/a

a Revised forecast.Sources: IMF, Country Report, January 2001; press reports.

However, before disbursing the two remaining tranches of the stand-by loan,the IMF will thoroughly check the composition of the budget and ensure thatthe entity budgets also comply with its recommendations. The strictconditionality that the IMF has been pursuing and the difficulties between thelocal parties in reaching agreement have prolonged the duration of the stand-by loan, which had been agreed in 1998 for one year initially. As a con-sequence, the agreement focusing on support for structural reforms, which is tosupplant the stand-by facility, has been delayed. Economic reform has in anycase been stalled by the prolonged process of forming governments followingthe November 2000 election.

The Republika Srpska (RS) government consulted the IMF on its austeritybudget for 2001, which was approved by parliament on April 12th. Withexpenditure of KM824m, it is 6% higher than the revised budget for 2000.Blaming its predecessor for running up a deficit of KM286m by allowingspending to exceed the budget by 42%, the government held pensions andsalaries to 2000 levels, and parliament agreed to cut spending on civil servants’salaries in order to pay more to pensioners. Even so, expenditure on public-sector salaries rose from KM228m in 2000 to KM302m for 2001. The formerprime minister, Milorad Dodik, said that a shortfall in revenue of KM21m hadbeen disguised in the budget; certainly, the RS public finances are in a perilousstate, and KM98m in foreign grants and loans are required to balance revenueand expenditure. The need to keep within IMF guidelines restricted deputies’ability to suggest amendments, but the budget was passed by 69 votes to tenwith one abstention.

RS tries to hold downspending



Republika Srpska: entity budget(KM m)

1999 2000a 2001

Revenue 652.3 678.5 726.0 Taxes 559.3 588.5 n/a Goods & services, excises 251.6 281.5 n/a Trade taxes 144.9 173.1 n/a Income taxes 62.9 69.9 n/a Other taxes 100.0 64.0 n/a Non-tax 93.0 90.0 n/a

Expenditure 765.8 777.8 824.0 Salaries 209.0 228.4 302.0 Goods & services 162.0 120.0 n/a Defence 89.2 69.9 n/a Banking fees 1.8 1.0 n/a Transfers to social funds 28.1 26.8 n/a Reconstruction 42.3 55.0 n/a Subsidies 12.0 27.0 n/a Other transfers to households 94.5 106.0 n/a of which: war invalids 72.6 95.0 n/a Transfers to other levels of government 94.4 93.5 n/a Other/unallocated 32.4 50.3 n/a

Balance –113.2 –99.3 –98.0

Foreign budget supportGrants 27.7 42.7 n/aLoans 85.8 52.1 n/a

a Revised forecast.Sources: IMF, Country Report, January 2001; press reports.

The Federation parliament passed the 2001 budget on April 18th, paving theway for the IMF to release the balance of the stand-by loan in the next fewweeks. The finance minister, Nikola Grabovac, told parliament that extrarevenue would come from customs and excise by tightening up collectionprocedures. The rate of profit tax was reduced from 10% to 5% to ease theburden on companies. On the expenditure side, a large proportion—KM290m—has been allocated for defence, and KM263m for disability pensions.Mr Grabovac said that the military budget only covered salaries and that a morerealistic allocation including spending on equipment would reach KM700m.The army is financed solely from Federation funds without any help from thecantons. Mr Grabovac has also said that the burden of military spending is toogreat on a tax base of 420,000 employees, and that since revenue was unlikelyto rise, the army will have to be cut. He said that cantons were being required tofile returns for the money that they received for disability payments, which hadpreviously been transferred without any requirement to render accounts to theentity government. The Croat-majority cantons were resisting this measure,which was simply a matter of financial transparency.

Federation budget isburdened by defence



Federation: entity budget(KM m)

1999 2000a 2001

Revenue 723.7 814.2 n/a Taxes 676.5 761.9 813.0 Excises 312.1 318.8 n/a Trade taxes 346.7 419.8 n/a Profit tax 17.7 23.3 n/a Non-tax 47.2 52.3 n/a

Expenditure 800.5 996.2 997.0 Salaries 92.5 94.5 n/a Goods & services 32.4 26.4 n/a Defence 291.4 305.5 290.0 Reconstruction 26.0 30.9 n/a Subsidies 14.1 11.7 n/a Other transfers to households 215.9 269.0 n/a of which: war invalids 207.9 258.0 263.0 Transfers to state government 84.0 159.7 n/a Transfers to local government 15.9 15.0 n/a Other/unallocated 28.4 83.6 n/a

Balance –76.8 –182.0 n/a

Foreign budget supportGrants 14.7 62.5 n/aLoans 62.2 119.4 n/a

a Revised forecast.Source: IMF, Country Report, January 2001; press reports.

The IMF wants the Federation and RS to comply with restrictions on theoverall size of the budget and its composition, but is also insisting that theystep up reforms towards establishing a single economic space in BiH. RS hasbeen urged to adopt amendments to the Tax Law and establish a Treasury. OnMarch 22nd the Federation passed a regulation to cut petrol and fuel taxestemporarily to bring prices in line with those in RS. The rate of petrol and fueltax was cut from 24% to 15%, while road tolls were reduced by 50%. Whetherprices will eventually equalise depends on traders’ willingness to cut theirprofit margins. The high price differential on petrol and fuel between the twoentities has given a boost to illegal trade and deprived the Federationgovernment of substantial revenue.

The first round of public shares offered under the voucher privatisation schemein the Federation ended on March 26th. Of a total of 550 firms offered for sale,the privatisation of 76 (14%) was successfully completed through an exchangeof vouchers for shares. The shares in the remaining 474 firms will be offeredagain in the second round later in the year.

An estimated KM15bn of vouchers were issued to citizens in compensation forwar-related debts, such as unpaid wages, pensions and lost foreign-currencysavings. All citizens over 18 years of age were also entitled to a generalcertificate worth a minimum of KM1,900 (US$875) augmented by an amountcorresponding to the number of years in employment. In the first round of the

IMF urges entities toestablish a single market

Federation continues withmass privatisation



public share offering, around 70% of invested vouchers were handled byinvestment funds, while one-third were invested by citizens directly; there wereno sales for cash. By the March 26th deadline ten investment funds managedto meet the threshold of over KM200m in privatisation vouchers to qualify tobuy stakes in the companies on offer. The regulations forbid funds fromowning more than 30% of a company. The Sarajevo-based BIG fund, in whicha Slovene fund manager, Kmecka Druzba, holds a 40% stake, was the mostsuccessful in the first round, having collected vouchers worth around KM1bn.

In RS the deadline for the exchange of vouchers for shares expired onMarch 15th. A total of 830 state-owned companies were offered for sale. Of thetotal number of vouchers distributed, 73.7% have been invested and theunused 26.3% will be discarded. Of the 73.7%, about 57% went through13 investment funds and 16.7% went directly to companies. Most of the directinvestment went into larger companies, such as Telekom Srpska, the telecom-munications company; Brod, the oil refinery; and Boksit, an aluminiumprocessing plant. About 1.4m people in RS were eligible to take part; they eachreceived 60 vouchers, the value of which is determined on the basis of thevalue of a firm and the number of vouchers invested in it. According to the RSregulations, the remaining shares in state-owned enterprises are to be sold forcash or given to the pension funds. The fact that, in RS, vouchers cannot beused to purchase state-owned apartments is one of the reasons why in theFederation a significantly smaller proportion of vouchers has been used topurchase company shares instead.

In contrast to voucher privatisation, which is aimed at disposing of state-owned assets quickly, tender privatisation aims to bring fresh money andstrategic investors to a number of BiH companies. However, the process hasbeen marred with such political difficulties that in April 2000 it had to betemporarily halted. A new set of procedures was established and newprivatisation officials were appointed, and in June 2000 a list of 300 enterprisesfor tender privatisation under new regulations set out by the InternationalAdvisory Group on Privatisation was approved. Since then, several foreigninstitutions, including the US Agency for International Development (USAID),the World Bank and the Gesellschaft für Technische Zusammenarbeit (GTZ, theGerman government agency for technical co-operation), have been involved inthe preparation and conduct of the tenders of 86 companies from bothentities. In March 2001 another foreign-sponsored programme was started for afurther ten tenders over the next couple of years. However, not all of BiH’slarge companies have been designated for tender privatisation; some have beenoffered for sale under the voucher privatisation scheme.

On the whole, privatisation in BiH has been slow, often non-transparent andhighly politicised. So far, the economic benefits have been more modest thananticipated. Tender privatisation comes as financial constraints are beginning tobite, donor funding is on the decline, the banking sector is weak, public financeis strained and new investment is precarious. Political squabbling, hesitanteconomic reforms and the region’s risky political outlook have also lessened theattractiveness of BiH as a destination for foreign direct investment (FDI), inflows

RS completes exchangeof vouchers

Foreign experts assistprivatisation tenders



of which are modest, but which started to arrive in 1998. The help ofinternational experts is perceived as essential in addressing these problems,which could otherwise daunt BiH’s prospects for long-term development.

The privatisation of banking in the Federation has recently accelerated, withseveral important deals involving foreign banks (February 2001, page 29).Privatisation, which began in 1999, had been preceded by a reform aimed atliquidating insolvent banks and consolidating the banking system throughmergers of smaller banks. In the process, the number of banks has beenreduced significantly, their charter capital has been increased and portfoliosrestructured, increasing the prospects of finding buyers. Minority stakes in11 banks have been sold and stakes in the remaining eight banks are up for saleby June 30th. Among the eight, Union banka, one of the Federation’s largestbanks, is expected to attract a foreign buyer. Two smaller banks, Sipad bankaand Postanska banka, for which tenders were issued in 2000, look set to be soldto local banks. However, the sale of banks within BiH’s once largest bank group,Privredna banka Sarajevo, which is made up of the main bank and fourbranches, may be more difficult. The group has inherited debts which,although to a large degree reduced by negotiation with creditors, remainsubstantial. One of the group’s members, the Mostar-based Gospodarska banka,is facing closure.

The domestic economy

Output and demand

Industrial output in the Federation performed strongly in the first quarter of2001, particularly in March, when it rose by 19.2% compared with March2000. Disaggregated figures are only available for the first two months of 2001;they show that industrial output was 12.8% higher in January-February com-pared with the year-earlier period. All industrial subsectors recorded animprovement: performance was strongest in mining, which rose by 18.7% yearon year in January-February 2001, but output of electricity also increased, by8.4%, and manufacturing, by 14.3%. Within manufacturing, the two mostimportant areas performed well in the first two months: base metals recorded7% growth year on year and food products grew by 24.2%.

BiH: industrial production(% change, year on year)

2000 20011 Qtr 2 Qtr 3 Qtr 4 Qtr Year 1 Qtr

Federation 18.8 10.9 4.5 2.2 8.8 14.8

Republika Srpska 5.6 17.8 –1.2 0.2a 5.6 n/a

a EIU calculation.Sources: Federal Office of Statistics (FOS), Statistical Data on Economic and Other Trends; Office of the High Representative (OHR),Economic newsletter; Central Bank of Bosnia and Hercegovina (CBBiH), Bulletin 4—January-December 2000; US Agency for InternationalDevelopment (USAID), BiH Economic update, 2000—third quarter; EIU calculations.

Bank privatisation inFederation progresses

Federation industry outputrises in first quarter



However, a broad-based industrial recovery has yet to take root—industrialoutput in March in the Federation amounted to just 41% of average monthlyindustrial output in 1991, before the war. In 2000 the bulk of industrialoutput—some 75%—consisted of energy, raw materials and semi-processedproducts, while durable consumer goods and capital goods accounted for 2.5%and 2%, respectively, of total industrial output.

Data are not available for Republika Srpska (RS) for the first quarter of 2001,but annual figures quoted by the Central Bank of Bosnia and Hercegovina(CBBiH) suggest a pattern as in the Federation, of dependence on raw materialsoutput (58% of the total), whereas capital goods contributed just 8%.Production of consumer goods fell in 2000, by 1.5% year on year.

Construction data published by the Federation’s Federal Office of Statistics(FOS) do not contain consistent time series, which makes analysis of thesector’s performance difficult. The FOS February bulletin has a constructionvolume index compared with the year-earlier period, showing a strong year-on-year increase in construction activity in the fourth quarter of 2000. The Marchbulletin has a non-seasonally adjusted index comparing monthly constructionvolume with the 1998 average, which in January 2001 was double the figure ofthe previous year. This increase is in line with the annual rise in the number ofworkers on building sites, from 4,650 in January 2000 to 6,502 in January 2001.

Federation: construction(total volume index of construction; same quarter of previous year=100 unless otherwise indicated)

2000 2001

Year-on-year index1 Qtr 103.3 94.02 Qtr 106.7 107.03 Qtr 93.0 98.34 Qtr 90.3 131.3

Monthly index (1998 av=100)January 45.7 95.5

Source: FOS, Statistical Data on Economic and Other Trends.

Inter-entity trade grew strongly in early 2001. Federation sales to RS in January-February were up by 164% year on year , while purchases from RS increased by26% over the same period. A sharp rise in Federation sales to RS in February isattributed to a marked increase in the sales of electrical goods (KM5m—US$2.3m), which accounted for some 36% of the total value of goods sold.

Inter-entity trade has remained unbalanced in 2001, with Federation salessurpassing purchases from RS by a wide margin. In January-February Federationsales to RS totalled KM26.5m (US$12.2m), compared with KM10.1m a yearearlier. Goods worth just KM6.5m were bought from RS in the same period, amuch smaller increase from the KM5.2m bought in January-February 2000.Food products continue to account for the bulk of the purchases from RS. Theincrease in inter-entity trade is attributable to improved communicationbetween the two entities over the past two years and possibly to diversiontowards local suppliers as a result of the economic upheaval in Yugoslavia(Serbia-Montenegro) in the aftermath of Kosovo war in 1999.

Construction outputgrowth slows

Federation sales to RShave surged



Employment, wages and prices

In 2000 average employment in the Federation stood at 412,311 people—anincrease of 1.1% compared with 1999. These figures suggest a deceleration inemployment growth from a year earlier, when average annual registeredemployment rose by 3.1%. The increase in new jobs was mainly concentratedin services and construction. In December 2000 manufacturing, the largestsingle employer in the Federation, recorded a 0.8% drop in employmentcompared with the average number of employed in 1999. However, theheadline employment figure disguises a fall in the so-called waiting lists(February 2001, page 25), of people who are included in the total of thoseofficially registered as employed and who are retained on firms’ books asemployees, but who are not in fact being given work. In December 2000 thistotal had fallen by 25% to 40,262 from 53,912 a year earlier. Subtracting thewaiting list from the headline figure yields an “active” total that rose by 4.6%between December 1999 and December 2000.

The number of those officially unemployed has also risen, from 261,793 inDecember 1999 to 267,934 a year later. The official unemployment rate hasbeen creeping upwards since October 2000, to stand at 39.8% in February 2001.

The trend of an incremental increase in employment is likely to continuethroughout 2001. In February the number of actively employed in the Federationstood at 374,136, maintaining the year-on-year rate of increase of 4.6%. The newstate and Federal governments have pledged more pro-active policies to confrontthe problem of high unemployment across BiH; one of the first steps is likely to bea cut in payroll taxes, which have been prohibitively high for many employers,thereby inhibiting the recruitment of new workers. Labour market reformsinitiated by the World Bank should improve job creation. The fact that there is awaiting list of unofficially unemployed, and that the rise in employment is amongthis group rather than the registered unemployed, is an indication of the difficultyof hiring and firing workers, and setting up new enterprises.

BiH: labour statistics(no. unless otherwise indicated)

2000 2001Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb

FederationEmploymenta 411,595 411,821 412,708 412,726 412,746 412,760 412,767 412,788 412,799 412,805 412,811 n/a “Waiting list” 52,597 52,349 52,978 52,059 51,004 51,123 47,121 45,106 42,087 40,262 39,267 n/a “Active”b 358,998 359,472 359,730 360,667 361,742 361,737 365,646 367,682 370,712 372,543 373,544 374,136Unemployment 264,828 265,236 264,665 264,585 267,261 268,172 265,954 264,219 265,971 267,934 270,197 n/a Rate (%)c 39.2 39.2 39.1 39.1 39.3 39.4 39.2 39.0 39.2 39.4 39.6 39.8Net wage (KM) 399 410 406 408 410 418 428 427 437 426 427 433

RSEmployment 228,834 n/a n/a n/a n/a n/a n/a n/a n/a n/a n/a n/aUnemployment n/a 157,630 154,027 157,026 154,027 154,358 154,646 n/a 153,212 153,264 n/a n/aNet wage (KM) 291 272 272 259 285 286 289 286 300 299 n/a n/a

a Registered employment; includes waiting-list workers on stand-by, but not actually working. b Employed minus waiting list. c Unemployeddivided by unemployed plus employed; includes waiting-list workers.Sources: Federal Office of Statistics (FOS), Statistical Data on Economic and Other Trends; Office of the High Representative (OHR), Economic newsletter; Central Bank of Bosnia and Hercegovina(CBBiH), Bulletin 4—January-December 2000; US Agency for International Development (USAID), BiH Economic update, 2000—third quarter; Reuters.

Federation employmentstagnates



The average nominal wage in the Federation has been growing stronglythroughout the post-war period, albeit at a decelerating pace. The annual averagewage increased by 10.1% in 2000 to KM412 (US$US$194), compared with a 23.8%increase in 1999. This was also a rise in real terms, as annual retail price inflation(RPI) in 2000 remained low at 1.5%. Following a 12.8% year-on-year increase inthe fourth quarter of 2000, net average wages rose by 12.1% year on year inJanuary, and by 8.8% in February. Wages growth continues regardless of highunemployment and modest economic performance, thanks to the pull of highwages paid by Western aid agencies and the inflexibility of the labour market.

The highest increase in January was recorded for employees engaged in themanufacture of base metals (28.9%), followed by electricity production (26%).The two sectors belong to opposite ends of the labour market in terms of pay;at KM273, the average wage for those working in production of base metalswas among the lowest, while that of the employees in electricity productionwas among the highest, at KM567. Pay was highest in 2000 in Sarajevo canton,where the average nominal wage reached KM555.

In RS average wages have also risen ahead of inflation, from KM216 in 1999 toKM275 in 2000, a nominal rise of 27.4%, albeit in a context of much higherrates of RPI. The nominal gap between wages in the Federation has narrowed:in 1999 average RS wages were 58% of the Federation average; in 2000 thedifference narrowed to 68%, as economic conditions in RS became more likethose in the Federation.

Year-on-year RPI continued to rise in January, to 4.3%, but then fell to 3.6% inFebruary and in March; as a consequence, first-quarter year-on-year RPI, at3.8%, eased slightly compared with the fourth quarter of 2000, when itreached 4.3%, as the effect of higher oil prices in mid-2000 began to abate. InJanuary-February (disaggregated figures are not yet available for March) thehighest rise (year on year) was in prices of beverages, which jumped by 8%,followed by 5.6% hike in tobacco prices and a 5.2% increase in the prices ofservices. Over the same period prices of agricultural products fell by 6.6%,mainly owing to a sharp fall in January in the prices of fruit and vegetables.

Wages in the Federationcontinue to grow

Inflation has eased slightly



BiH: retail prices(% change)

2000 2001Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar

FederationMonth on month –0.6 0.3 0.1 0.6 0.0 1.5 0.4 0.3 0.0 0.5 0.0 –0.1Year on year –0.3 –0.6 0.6 2.2 2.3 3.5 4.5 4.4 4.0 4.3 3.6 3.6

Republika SrpskaMonth on month 0.6 0.6 1.0 1.1 0.7 4.2 n/a n/a n/a n/a n/a n/aYear on year 13.2 13.2 11.0 10.0 12.5 16.5 n/a n/a 16.1 n/a n/a n/a

Sources: FOS, Statistical Data on Economic and Other Trends; OHR, Economic newsletter; CBBiH, Bulletin 4—January-December 2000; Reuters.

Although full recent data on inflation in RS are not available, RPI reached anannual average of 13.6% in 2000 (16.1% at the year-end), compared with 1.5%in the Federation (4% at end-2000). Throughout the post-war period theinflation rate in RS has been much higher than in the Federation, because ofRS’s heavy reliance on the Yugoslav economy, which has experienced severalperiods of hyperinflation. Now that relations between RS and the Federationhave begun to normalise, communications to improve and the BiH currency,the convertible marka (KM), to gain wider acceptance, the gap has narrowed.The new governments in both BiH entities have already started to implementmeasures (see Economic policy) that will contribute to equalising prices acrossthe country.

Foreign trade and payments

The EIU has repeatedly emphasised that the balance of payments for Bosniaand Hercegovina (BiH) should be treated with caution, owing to incompletecoverage and wide variations between sources. The IMF and the World Bank,which have been providing the most complete statistics, use entity statistics asthe starting point to which the results of their own data collection are added.Consequently, the data from these two sources differ from both entities’ officialstatistics as well as those of the Central Bank of BiH (CBBiH).

BiH: foreign trade(KM m)

1997 1998 1999 Jan-Sep 2000

BiHExports fob 480.2 1,064.2 1,149.2 1,392.3Imports cif 3,166.7 4,596.8 4,872.5 4,472.3

FederationExports fob n/a n/a n/a 863.2Imports cif n/a n/a n/a 3,167.9

Republika SrpskaExports fob n/a n/a n/a 529.1Imports cif n/a n/a n/a 1,304.4

Source: Agency for Statistics of BiH (ASBiH), Report on goods transactions of BiH with the rest of the world 1990, 1997, 1998, 1999 and2000 years; Statistical Bulletin 4/2000.

Data problems dog analysis



However, the recently established Agency for Statistics of BiH (ASBiH) has nowbegun to publish statistics on trade for the whole country, in co-operation withthe statistics institutes of the Federation and Republika Srpska (RS). The ASBiHmay now be taken as the best available source.

The latest CBBiH bulletin (4/2000, January-December) quotes full-year data inconvertible marka (KM) terms for RS trade: exports of KM751m (US$345m) andimports of KM1.73bn. However, its full-year figures for the Federation are littlechanged from the ASBiH figures for the first nine months, and are not inaccord with that entity’s Federal Office of Statistics (FOS), which reports exportsof KM1.43bn and imports of KM4.85bn. Taken together, this yields BiH tradedata for January-December of exports of KM2.18bn and imports of KM6.58bn,which seems not incompatible with the ASBiH January-September data.According to these figures, which may well be subject to revision, there hasbeen a considerable rise in exports for BiH as a whole, by 90% compared with1999. This is not implausible, as 1999 was a poor year, especially for RS, becauseof the NATO bombardment of an important trading partner, Yugoslavia (Serbia-Montenegro). Imports rose by 35% in 2000 compared with 1999.

In the Federation exports expanded by 30% in 2000 in US dollar terms, which,combined with a 6% fall in import values, brought the entity’s trade deficitdown to US$1.6bn from US$1.9bn in 1999—a 16% decline year on year.Manufacturing exports predominate, and rose by 31% year on year. This stronggrowth is mainly attributable to a 69.3% annual increase in the exports of basemetals, principally aluminium. Exports of processed wood, the second largestexport item, rose by 6.6% over the same period. By contrast, exports of thethird largest export item—clothing—fell sharply, by 33% compared with 1999.

Manufacturing imports fell in US dollar terms by 5%, with the largest fallsbeing recorded in textiles (74%), clothing (34%), machinery (23%) and food(11%). Fuel imports were up by 52%, mainly because of the rise in oil prices. Asa result, the share of fuel in the total value of imports rose from 6% in 1999 to10% in 2000.

Federation: foreign trade(US$ m; by NACE production classification)

Exports Imports1999 2000 1999 2000

Agriculture & fishery 12.9 12.0 116.9 101.8

Mining 5.3 6.9 7.2 8.0

Manufacturing 472.3 618.0 2,195 2,086

Electricity 24.1 35.2 12.6 28.1

Total (incl unclassified) 518.1 674.7 2,431.2 2,290.1

Source: Federal Office of Statistics (FOS), Statistical Data on Economic and Other Trends.

Federation sales to Switzerland increased by 81.6% in 2000, making it theFederation’s second largest export market. Exports of a single item—aluminium—accounted for most of this. Since 1998 Italy has been theFederation’s largest export market, accounting for 17.2% of all exports in 2000.

The Federation’s tradedeficit has shrunk

Exports to Switzerlandhave risen sharply

BiH exports more



This, however, represents a slight deterioration compared with 1999, whenaround one-fifth of the Federation’s total exports were directed at Italy. Sales toItaly grew by 7.3% year on year in 2000, following a 190% increase in 1999.Exports to Germany, the Federation’s other most important EU partner,continued to grow strongly and were up by 58.8% in annual terms in 2000.

Federation: trading partners(US$ m unless otherwise indicated)

1999 2000 % change

ExportsItaly 108.4 116.3 7.3Switzerland 62.5 113.4 81.6Germany 67.8 107.7 58.8Croatia 106.4 73.9 –30.6Yugoslavia 33.1 67.6 104.3Slovenia 45.3 59.4 31.4

ImportsCroatia 525.7 392.0 –25.4Slovenia 314.6 359.6 14.3Germany 302.9 321.2 6.1Italy 450.9 277.8 –38.4Austria 107.7 119.9 11.3Hungary 95.5 87.8 –8.0

Source: FOS, Statistical Data on Economic and Other Trends.

Croatia has remained the Federation’s most important market among theformer Yugoslav republics which, in aggregate, accounted for 30% of totalexports in 2000. Goods worth US$74m were sold to Croatia in 2000,representing a 31% annual fall. The decline in export volumes in 2000 cameon the back of a 38% fall in 1999, mainly the consequence of the terminationof a preferential trade agreement in 1998. At the same time sales to Yugoslaviasurged, surpassing those to Slovenia and almost catching up with exports toCroatia. Goods worth US$68m were sold in Yugoslavia in 2000, more thandouble the value recorded in 1999.

Although imports from Croatia fell by 25.4% in 2000 compared with theprevious year, representing a cumulative decline of 52% since 1998, they werenevertheless far higher than purchases from any other country. Imports fromSlovenia, which have grown steadily in recent years, took second place.Imports from Germany also rose, if much more moderately than a year earlier,by 6% (compared with 39% in 1999). There was a sharp contraction in importsfrom Italy, which fell by 38%; this had to do primarily with a base effect, after alarge (162%) rise in imports from Italy in 1999.

As noted above, current-account data are unreliable and vary from source tosource, although a large trade deficit (fob:fob) in the region of US$1.8bn seemsfairly certain. CBBiH publications admit that the bank’s data on the services,income and current transfers balances are incomplete. We are therefore basingour estimate of the BiH current-account balance on the IMF’s most recent data,combined with our own calculation of the trade balance.

Exports to Yugoslavia havealso grown

Federation imports mostfrom Croatia and Slovenia

Current-account deficitexceeds US$1bn



BiH: current account(US$ m)

1999 2000a

Exports of goods fob 627b 1,030

Imports of goods fob –2,392b –2,798

Trade balance –1,765b –1,768

Services balance 324c 304

Income balance 273c 237

Current transfers balance 284c 218

Current-account balance –884.2a –1,009

a EIU estimates. b Source: Agency for Statistics of BiH. c Source: IMF.Sources: ASBiH, Report on goods transactions of BiH with the rest of the world 1990, 1997, 1998, 1999 and 2000 years; Statistical Bulletin4/2000; FOS, Statistical Data on Economic and Other Trends; IMF, Country Report, January 2001.

The inflow of foreign direct investment (FDI) into BiH following the end of the1992-95 war has on the whole been fairly modest in terms of the amountsinvested. According to the World Bank, BiH has the lowest rate of investmentin the region, averaging US$4.7m a year for 1996-99; the next lowest isMacedonia (US$43m). Corruption is seen as a major obstacle to investment,along with political instability, causing the US energy company Enron to delayprojects reportedly worth hundreds of millions of US dollars in February,because of the hold-up in forming a government. By April, however, thingswere looking up when the new BiH foreign minister, Zlatko Lagumdzija, signedan agreement with Volkswagen during a visit to Germany for investment inthe company’s Sarajevo plant.

Among potential investors outside the banking sector, by far the largest interestin terms of the number of investments has been from Croatia (with a particularinterest in Western Hercegovina) and, more recently, from Slovenia. This isexplained by the fact that the companies from these two countries were wellrepresented in BiH before the war and are therefore well positioned to take onthe opportunities for profitable new investment. In December 2000 Mercator,Slovenia’s largest food retailer, opened a shopping mall in Sarajevo, which, interms of profit, was the third most successful within Mercator’s groups of954 shops. Mercator Centar Sarajevo is a joint venture between Mercator, whichhas a 51% stake, and the majority state-owned company Trzni Centar Sarajevo,which holds the remaining 49%. The centre in which Mercator investedUS$22.6m is one of the largest foreign investments in BiH since the war.Following up the success of its Sarajevo venture, Mercator recently unveiledplans to open two more large shopping malls in the northern town of Tuzla andin Zenica in central BiH, as well as a number of smaller centres across BiH.

More Slovenian investmentis expected

Bosnia and Hercegovina - iuj.ac.jp fileThe Economist Intelligence Unit The Economist Intelligence Unit is a specialist publisher serving companies establishing and managing operations

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