China’s focus means Bosnian economy no longer feeling left behind

Asked by a journalist what was most likely to blow a government off-course, the British prime minister Harold Macmillan famously replied: “Events, dear boy, events.” That was in the early 1960s, but the sentiment is as relevant now as it has ever been. We might seek to write our own future, but events have a nasty habit of happening to us, without our verbal or written consent.

The hosts of this year’s EBRD conference know more than most about this phenomenon. Over the past century, Bosnia and Herzegovina has been passed around like dip at a party. Austria-Hungary annexed it before its empire collapsed, upon which it was absorbed into the Kingdom of Serbs, Croats and Slovenes. Hitler then came and went, leaving it under Tito’s control, as part of the Socialist Federal Republic of Yugoslavia. When the Soviet Union collapsed, civil war ensued. The 1995 Dayton Accords brought an end to the conflict, and a real country began to emerge.

Of course, this being the Balkans, nothing is ever simple. Politics in Bosnia and Herzegovina is a complex affair, requiring an awful lot of careful daily diplomacy. The country consists of the Federation of Bosnia and Herzegovina, Republika Srpska, and the tiny self-governing Brcko District on its border with Croatia.

Executive power is wielded by the Council of Ministers, a cabinet whose chair is nominated by a presidency comprising three members (a Bosniak, a Serb, and a Croat, reflecting the ethnic mix), and confirmed by the House of Representatives, the lower house of government. The upper House of the Peoples comprises 15 members appointed by local parliamentary bodies. It is complex but, by and large, it works.

That has resulted in an economy that continues quietly to impress. In its latest World Economic Outlook, published in April 2019, the IMF tipped economic output to expand at 3%-3.5% every year until the mid-2020s. In its latest CEE Quarterly, published March 2019, Italian lender UniCredit, which operates in 10 countries in emerging Europe, including Bosnia and Herzegovina, said GDP would slow slightly to 2.8% this year and 2.9% in 2020, amid a global slowdown.

Inflation has long vacillated between 1.5%-2% and is forecast to remain within this band. The country does run a sizeable current account deficit of around 5%-6%, but again, it rarely varies, neither swelling nor narrowing. This, in short, is a nation state that, perhaps unsurprisingly, given its turbulent history, craves stability.

Yet that parity is often hard to achieve. Instability is rarely far away, and where it exists, it is often internally created and propelled. The country is heavily reliant on external institutional funding, notably from the European Union and the IMF. Bosnia and Herzegovina is not a member of the EU, but the single market has until recently been the single largest provider of funds and financial assistance. Between 1996 and 2018, it invested more than €3.5bn ($3.9bn) in reconstruction, agriculture, and strengthening public administration and the rule of law.

The country’s relationship with the IMF has been more stop-go. A €553m loan agreed by the Fund in September 2016, disbursed in 11 instalments, was agreed on the proviso that government would push through much-needed structural reforms designed to safeguard financial stability. Foot-dragging led to payments being halted in 2017, restarted in February 2018, and then frozen in place again last August, due to disagreements over a new law granting benefits to war veterans, and to recurring political instability, which involved a prolonged delay to the formation of a working tripartite government. UniCredit noted in March 2019 that an improvement in the political climate in February, stemming from the formation of both houses of parliament, was not likely to “trigger the resumption of IMF financing”.

This year has also provided Bosnia and Herzegovina with a rare a chance to showcase its finer plumage. In April, the country hosted the 10th Sarajevo Business Forum (SBF), dubbed the “Balkan Davos”, jointly sponsored by local lender Bosna Bank International and the Jeddah-based Islamic Development Bank. The event attracted participants from Turkey, Sweden and Morocco, and a delegation of 50 business groups from the Gulf region. The keynote speaker at the event was Malaysia’s veteran prime minister Mahathir Mohamed.

This week’s conference, the first time the EBRD’s annual event has visited Sarajevo, gives Bosnia and Herzegovina a chance to demonstrate its commitment to deregulation, and to promoting its status as a reliable and attractive investment partner. The London-based multilateral’s active portfolio comprises €1.06bn spread across 155 projects, the bulk of which focuses on transport, infrastructure, power and energy, and adding depth and strength to the private sector. EBRD officials expect to channel €300m into the country in 2019.

There is little doubt that, if stability can be guaranteed and if its natural, financial and human resources can be properly harnessed, Bosnia and Herzegovina’s potential is vast. Its most immediate and visible attribute is its arresting scenery. Lonely Planet admires its “craggily beautiful” hinterland, dotted with waterfalls and medieval castles, and points to its “intriguing East-meets-West atmosphere, blending Ottoman and Austro-Hungarian histories”. According to the national tourism board, 3.04m people visited the country in 2018, up 13.5% year-on-year. Many came to visit the historic centres of Sarajevo and Mostar, while others prefer to go wild, trekking and camping and rafting near Banja Luka and on the Drina river.

In an interview with GlobalMarkets, Senad Softic´, governor of the Central Bank of Bosnia and Herzegovina picks up on that theme and runs with it, pointing to the country’s “excellent strategic location, vast natural resources, beautiful landscapes, skilled and competitive workforce, and growing industrial capacity”. Tourism aside, the country is dominated by the export of metals and heavy goods, from wooden furniture, textiles and tobacco, to defence equipment and minerals. But the country is slowly developing a high-tech base, the governor says, noting that he hopes global investors “will understand those opportunities and will seek to exploit them”. Asked what industries will add value to the wider economy going forward, he points to agriculture and IT and IT-related services.

Perhaps Bosnia and Herzegovina’s biggest challenges involve discovering its investor identity and unlocking and realising higher rates of growth. In many ways the two factors are interrelated. Economic output looks set to continue to grow at pretty much the same, steady pace until at least the mid-2020s. “Growth is OK,” notes Gunter Deuber, head of economics, fixed income and foreign exchange research at Raiffeisen Bank International. “The data is healthy enough and wages continue to rise, so we cannot complain about the situation, but taking a long-term perspective, where is the upside?

“Something needs to happen to really take the country to the next level,” he adds. “We need to start seeing growth rates of 4%, 5%, 6%, or more. If that doesn’t happen, the number of young, ambitious and skilled people who leave the country as soon as they can, will continue to rise — though this is a problem across the whole of the Balkans.” A 2017 report published by the security ministry found that over half of the pople born in Bosnia had emigrated, mostly to Germany and Austria. Inward remittances, which make up more than a tenth of economic output, jumped 9.3% year-on-year in 2017 to $2.02bn, according to World Bank data.

Then there is the issue of job creation. Unemployment, despite trending down, is an issue that will take years to solve. UniCredit tips it to fall to 31% in 2020 from 34% in 2019 and 36% in 2018. It is part of a positive long-term progression — the jobless rate was in the early forties as recently as 2016 — but Raiffeisen Bank’s Deuber warns that declining unemployment is due “not necessarily to economic progress, but to the number of people who either continue to leave the country, or who are so frustrated with the status quo, they aren’t claiming welfare”.

Perhaps the best way to inject more momentum in an economy that is barely breaking a sweat, is for public officials and local corporates, lenders and investors, to look east rather than west. Bosnia and Herzegovina’s key external partner is, and will remain, the EU. Directly and indirectly, Europe funds projects, lends capital to local firms and banks, and acts as a financial, economic and diplomatic guardian. According to European Commission data, the EU accounts for more than 70% of the overall direct investment in the Balkan region.

But the big step-change in recent years has been the arrival on the local and regional scene of another sovereign big-hitter. A decade ago, annual inward investment in the Balkans by the People’s Republic of China was more of a trickle than a flow. The advent of president Xi Jinping’s Belt & Road Initiative has changed all that. Both the overland “belt” and the maritime “road” pass near or through the mountainous Balkan region, and economies across both East Asia and Southeast Asia are investing heavily in the region, widely seen as a backdoor into Europe. (This is likely to explain the presence at April’s SBF of Malaysian premier Mahathir.)

Investment by China across the region has soared. The latest “17+1” annual summit, held last August in the Croatian city Dubrovnik, brought together officials from China and the 17 internationally recognised CEE nation states. Bosnia was one of the standout beneficiaries of the event, emerging with an armful of signed infrastructure projects set to be financed and built by China.

The list includes a highway linking Banja Luka with Novi Grad on the Croatian border. The first phase of the project, set to cost upward of €1bn, will be built by a state-run division of Jinan-based Shandong Gaosu Group, and funded by a €300m loan from Export-Import Bank of China. In March, Bosnian lawmakers approved a $1.04bn loan from the Beijing-based development lender to expand a power facility in Tuzla, the country’s third largest city.

Two mainland firms, China Gezhouba Group and Guangdong Electric Power Design, will build the expanded plant, marking the largest investment in the Balkan state’s energy sector since the end of the civil war. Fadil Novalic, prime minister of the Federation of Bosnia and Herzegovina, called the loan a “historic moment” for the country, adding: “We have not had such an investment in 40 years.”

A 2018 study by the European Investment Bank found that more than one fifth of the €12bn in construction loans channelled into the CEE region by China in the 10 years to 2018, was directed into projects in Bosnia and Herzegovina. China is also investing in the country’s dairy sector, while controversial telecommunications firm Huawei is helping to build the country’s 4G network.

This shift toward a greater reliance on mainland Chinese capital matters deeply, notes Raiffeisen Bank’s Deuber. “For a long period of time, the region in general, and Bosnia [in particular], have felt like they are being ‘left behind’ by Europe,” he says. “Here and across the region, officials are looking to China, not Europe, to provide the funding and the additional growth that the country needs.”