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“FROM DEFECTIVE TO EFFECTIVE BIH DEVELOPMENT POLICY”

Başlık“FROM DEFECTIVE TO EFFECTIVE BIH DEVELOPMENT POLICY”
Publication TypeJournal Article
Year of Publication2017
AuthorsDomljan, V, Mirascic, G, Ridic, G, Ridic, O
JournalACTA ECONOMICA
VolumeXV
Issue27
Start Page137
Pagination137-162
Date Published12/2017
Type of ArticlePreliminary Communication
ISSN Number1512-858X
Accession Number10.7251/ACE1727137D
Other NumbersUDC: DOI: 10.7251/ACE1727137D
Anahtar kelimelerEconomic growth, Macroeconomics, savings, upper middle income
Abstract

After 21 post-war years Bosnia and Herzegovina (BiH) found itself in a “middle-income trap”. It is not classified into low income countries because workers and citizens do not accept low wages and low standard of living, nor does it fit into high income countries because those workers do not produce sophisticated products that ensure competitiveness, export and the basis for high wages and the standard of living. The development vision of BiH is to become a high income country. However, the state has neither suitable strategy nor policy.
This paper represents a detailed research of multifaceted secondary sources (i.e. journal articles, government publications, internet sources, etc.), conducted in a cross-sectional time manner. By utilizing secondary sources of data we conducted our own calculations based on data from the World Bank, the Central Bank of Bosnia and Herzegovina and Agency for Statistics of Bosnia and Herzegovina.
We hold that key sectors which would provide return to pre-crisis GDP growth rate of 6-7 percent per year, should be: financial system, diaspora and digitalization

URLhttp://www.ae.ef.unibl.org/broj27/e-ActaEconomica-broj27-Domljan-Mirascic-Ridjic-Ridjic.pdf
DOI10.7251/ACE1727137D
Refereed DesignationRefereed
Full Text

137
ACTA ECONOMICA
Volume XV, No. 27 / December 2017
ISSN 1512-858X, e‐ISSN 2232‐738X
PRELIMINARY COMMUNICATION
UDC:
DOI: 10.7251/ACE1727137D
Vjekoslav Domljan1
Goran Mirašćić2
Goran Riđić3
Ognjen Riđić4
From Defective to Effective BiH Development Policy
Од дефектне до ефектне развојне политике БиХ
Summary
After 21 post-war years Bosnia and Herzegovina (BiH) found itself in a “middle-income trap”. It is not classified into low income countries because workers and citizens do not accept low wages and low standard of living, nor does it fit into high income countries because those workers do not produce sophisticated products that ensure competitiveness, export and the basis for high wages and the standard of living. The development vision of BiH is to become a high income country. However, the state has neither suitable strategy nor policy.
This paper represents a detailed research of multifaceted secondary sources (i.e. journal articles, government publications, internet sources, etc.), conducted in a cross-sectional time manner. By utilizing secondary sources of data we conducted our own calculations based on data from the World Bank, the Central Bank of Bosnia and Herzegovina and Agency for Statistics of Bosnia and Herzegovina.
We hold that key sectors which would provide return to pre-crisis GDP growth rate of 6-7 percent per year, should be: financial system, diaspora and digitalization
1 International University of Sarajevo (IUS), Faculty of Business Administration (FBA)
vjeko.domljan@gmail.com
2 International University of Sarajevo (IUS), Faculty of Business Administration (FBA)
3 International University of Sarajevo (IUS), Faculty of Business Administration (FBA)
4 International University of Sarajevo (IUS), Faculty of Business Administration (FBA)
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Acta Economica, Volume XV, No. 27 / December 2017 137 – 162
of industry (with the introduction of suitable strategies and policies), each of which
would contribute to GDP growth of two percent per year. The key agents of change
should be the leaders of value chains (large-scale companies), cities-regions, gazelle
companies (fast growing small and medium size companies) and micro digital companies.
Key words: Macroeconomics, economic growth, savings, upper middle income
Резиме
Двадесет и једну годину након рата Босна и Херцеговина (БиХ) се нашла
у „замци средњих прихода“. Она не припада групи земаља са ниским при-
ходом јер радници и грађани не прихватају мале плате и низак стандард
живота, нити спада у земље са високим приходом јер радници не производе
софистициране производе који омогућавају конкурентност, извоз и осно-
ву за велике плате и висок стандард живота. Визија развоја БиХ јесте да
постане земља са високим приходом. Међутим, држава нема одговарајућу
стратегију нити политику.
Овај рад представља детаљно истраживање вишеструких секундар-
них извора (односно часописа, владиних публикација, извора са интернета,
итд.), спроведено у пресјеку времена. Користећи секундарне изворе подата-
ка извршили смо властиту калкулацију на основу података добијених од
Свјетске банке, Централне банке Босне и Херцеговине и Агенције за стати-
стику Босне и Херцеговине.
Сматрамо да би кључни сектори за повратак на предратну стопу рас-
та БДП-а од 6 до 7% годишње требали бити: финансијски систем, дијаспо-
ра и дигитализација индустрије (са увођењем одговарајућих стратегија и
политика), од којих би сваки допринио расту БДП-а од два одсто годишње.
Кључни носиоци промјене би требали бити лидери ланца вриједности (ве-
лика предузећа), градови-региони, брзорастуће компаније (мала и средња
предузећа) и микро дигиталне компаније.
Кључне ријечи: макроекономија, економски раст, штедња, изнад про-
сјечни приход
Introduction
After recovering from the post-war renewal and transition shock, BiH entered
the “middle- income trap”, due to numerous reasons: (i) non-existent vision, the
strategy and development policy, (ii) a lack of rule of law (i.e. non-functioning of
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Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
legal rules, especially the execution of unfulfilled contractual obligations) due to
which the economic transactions with built-in rents slowly and scarcely perform,
(iii) suppression of entrepreneurs (i.e. disabling the formation of the ‘bottom up’
market economy (whereby basic prerequisites for taking people out of poverty,
inactivity and unemployment were not achieved)), (iv) very-open economy (exposing
weak local producers to strong external shocks), (v) not introducing financial
institutions and instruments coupled with non-adequate regulation and
surveillance of financial markets, (vi) no renewal, or support for development
of the research and development (R&D) sector (e.g. BiH is the lowest ranked
country in Europe regarding per capita investment basis for research and development);
(vii) utilizing an orthodox currency board, (viii) by keeping an educational
system of closed ethno-national societies instead of developing an educational
system which would meet regional and global needs, BiH is ranked as
the last country in Europe, according to DHL index of global connection, (ix)
a lack of support for knowledge-based reindustrialisation of the economy, (x)
total domination of non-productive (social and administrative) over productive
public expenditures (research and development and physical infrastructure, primarily
the information and communication infrastructure), and (xi) a lack of
support for development of value chains and production clusters (e.g. through
public procurement, support packages for companies, etc.), (xii) failure to implement
adequate pricing policy, especially the stabilization through stockpiles, etc.
BiH will not be able to achieve high rates of economic growth and employment
until it has clear vision, strategy and development policy. The vision can
only be becoming a high-income country. Other goals, such as becoming a member
of the EU can only be an operational aim, but not a strategic goal of BiH
policy. On its way of development BiH does not need to become a member of
the EU but it has to become a high-income country. Therefore, it is important
to make a radical turn in development policies. The focus must be shifted from
the last development wagon’s support (by applying subsidies, tax expenditures,
credits of development banks, etc.) to unrestrained locomotive of the economic
development.
The basic problem of BiH economy is that its main economic engine is exemplified
in the public sector while the private and civil sectors are secondary.
The inefficient public sector surpasses the weak private sector, as the main and
the most prestigious employer in BiH economy. It is followed by the informal
agriculture as the second largest employer. The Government takes a half of the
country’s GDP and spends it primarily on socio-administrative expenses and
providing service.
The development must be based on foreign direct investment (FDI) as much
as possible. Generally, this cannot be a plentiful source of investment financing.
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However, a small country can hardly achieve strong development if it does not
ensure technology transfer that is best encouraged by FDI inflow.
Because of the long term improvement of competitiveness of BiH economy it
is necessary to conduct its second reindustrialization.
Industrialization of BiH economy was conducted by the Austro-Hungarian
Empire. The first reindustrialization was conducted by the Socialist Federative
Republic of Yugoslavia (SFRY), and the current BiH government should conduct
the second reindustrialization of BiH economy (i.e. digitalization of its economy).
BiH has a low share of value added from manufacturing in its GDP. It needs
to double the share to reach the most appropriate economic comparators (e.g.
Switzerland, Austria, Slovenia and Slovakia). BiH is encountering the transition
of the existing low-technology exports to knowledge intensive export.
I. Defective BiH policies
I.1 Deep internal and external disequilibria
The introduction of the currency board in 1849, in the island of Mauritius, Africa,
and furthermore in Southern Asia and Caribbean was to ensure that British
colonies have stable currency supported by monetary reserves in British pounds.
There was neither need nor space for monetary policy in the colonies - money
supply was gathered or shrunk according to pound reserves. The colonial governments
agreed on that because they maintained interests in monetary reserves
abroad. After the WWII most independent colonies established their central
banks and abandoned the currency board. The currency boards appeared at the
beginning of 1990s after the fall of communism and/or the appearance of hyperinflation.
Here we are interested in how this youngest, the most orthodox from of
all regimes of currency board(s) functions in Bosnia and Herzegovina?
Great and unused advantage of the currency board is a mechanism of adjusting
current account of balance of payment, as the one which existed in the
conditions of the gold standard (described in 1752 by David Hume, the father of
economic science), and which the currency board is the most similar to.
If the country has a trade deficit the money supply shrinks causing interest
rates growth and the withdrawal of foreign capital. High interest rates translate
into deflationary pressure which leads to reduced imports, enlarged exports and
improvement of foreign trade balance. This in turn leads to reduction in prices (if
they are flexible) and makes exports more attractive. This causes the production to
grow to its full employment level, export to increase and the elimination of current
account deficits, which makes economy balanced internally and externally.
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This mechanism does not function in BiH, as shown by the long term internal
and external disequilibria. There is a high unemployment rate, low rate of economic
growth and a high current account deficit, etc. The only positive result of
the existing currency board is that there is no inflation.
According to views of those who advocate the currency board, the foreign
exchange reserve should grow in parallel with external surpluses (i.e. recede with
deficits causing changes in prices and interest rates). However, BiH is experiencing
something quite different: there are current account deficits and the growth
of foreign exchange reserves (and money supply at the same time). The Central
Bank of BiH celebrates (just as the Indirect Taxation Authority which is proud of
increased collections) without wondering who pays the ultimate price for it.
Since there are no policies to correct the external disequilibria that have
marked the entire post-war period, net international investment position of the
country (of what BiH invests abroad minus what foreigners invest in BIH) is
-53 percent of GDP, hence, lower than the acceptable -35%. Fortunately for BiH,
this disequilibrium is not financed only with credits, but also with non-credit
resources, such as foreign exchanges from the non-observed economy’s export,
pensions, remittances to relatives in BiH, diaspora’s investments in BiH, FDI and
portfolio investments in BiH economy.
Table 1:
Importance of personal remittances; BiH, 2009-2015 (in billions of BAM)
Variables 2009 2010 2011 2012 2013 2014 2015
Nominal GDP 24,78 25,35 26,21 26,19 26,74 27,30 28,21
Final consumption expenditure 25,87 26,79 27,64 27,46 27,48 28,56 0,00
Gross domestic savings -1,09 -1,44 -1,43 -1,27 -0,74 -1,26
Gross domestic savings (% of GDP) -4,39 -5,68 -5,44 -4,84 -2,77 -4,61
GNI 25,74 25,76 26,42 26,40 27,08 27,49 28,48
Final consumption expenditure 25,87 26,79 27,64 27,46 27,48 28,56
Net current transfers from abroad 3,34 3,53 3,54 3,68 3,69 3,97 3,56
Gross savings 3,22 2,50 2,33 2,61 3,30 2,89
Gross savings (% of GDP) 12,98 9,87 8,88 9,98 12,33 10,57
Personal transfers (Current
transfers between resident and
non-resident households) - credit
2,01 2,01 2,09 2,17 2,31 2,38
Source: authors’ calculations based on the World Bank, the Central Bank of Bosnia and Herzegovina
and Agency for Statistics of Bosnia and Herzegovina
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The main sources of personal remittances are (i) relatives’ remittances and
(ii) remittances with sources in the non-observed economy (the Central Bank
treats them as typical remittances but they are de facto primary income that stays
non-observed for the Central Bank, and statistic agencies in BiH that have a gap
between the size of income by expenditure approach5 and production/income
expenditure).6 Thanks to diaspora remittances and foreign exchanges of international
financial institutions (e.g. MMF, the World Bank, and EBRD), that are
given as a credit or a grant, BiH manages to survive.
In 2014 BiH7 had a GDP of 28.2 billion BAM. That GDP contained personal
consumption (23.38 billion BAM), government final consumption (6.08 billion
BAM), investment (5.02 billion BAM), and net export (-6.28 billion BAM) export
(9.26 billion BAM) and import (15.54 billion BAM). Therefore, it is visible
that domestic savings are negative. If we deduct consumption (private sector
consumption of 23.38 billion BAM and government final consumption of 6.08
billion BAM) from the income of 28.2 billion BAM we have negative domestic
savings of 1.26 billion BAM or -4.5% GDP.
Today, we can raise the question ”who is being spread too thin”. The answer is
the government since it constantly runs budget deficits. In 2014, the government
had a budget deficit of 0.61 billion BAM, which means it spent more than 610
million BAM than it collected in revenues. The private sector (e.g. households,
non-profit organizations and companies) spent 650 million BAM more than it
had in income. Thus, total domestic savings was minus 1.26 billion BAM (see
Table 2).
It is necessary to differentiate between national (total) savings and domestic
savings to understand how BiH managed to finance the aforementioned five
billion BAM of investment. When domestic savings increase by the size of net
personal transfers this provides us with the total size of national savings. The BiH
national savings rate is 10.5% of GDP. Net transfers from abroad are taking BiH
out of negative zone of -4.6% of GDP into the positive zone of 10.5% of GDP. As
for other countries from the zone of negative values, Kosovo and Moldova are
5 What is recorded as a transfer in the balance of payments of the Central Bank represents the official
remittances that are 40% less than actual remittances. Around 80% of remittances (formal and
non-observed) are put into official channels through consumption, causing gaps in national system
accounts.
6 There is a large gap between the data on remittances flows provided by the Central bank of BiH
and much lower amount reported by households in household budget surveys (Oruč, 2011). We
estimate that a half of these personal remittances have the origin in the non-observed economy. It
should also be noted that 47.7% of the BiH diaspora live in Croatia and Serbia. This requires detail
account on who, how much, where from and what remittances are sent to BiH. There is a large gap
between the data on remittances flows.
7 Still, there is no detailed data for 2015, so illustration is based on 2014 data. There are no significant
differences between these two years.
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Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
saved by remittances to an even larger extent reaching +17.7 and +17.0% of GDP
respectively. In short, their diaspora sends more than BiH diaspora. The personal
foreign remittances of BiH are around 2 billion BAM, and in 2014 they were 2.3
billion BAM (World Bank, 2016).
Table 2:
Savings, investment; 2014
Income Domestic savings National savings
• Y=28.20
• C=23.38
• G=6.08
• I=5.02
• E=9.26
• Im=15.54
• Y=C+G+I +(E-I)
• 28.20=23.38+6.08+5.02+(9.26-15.54)
• S=Y-C-G
• S=28.20 -23.38 -6.08
• S= -1.26
• S= - 4.5%
• S=I+CA
• -1.26=5.02+(9.26-15.54)
• -1.26=5.02-6.28
• S-CA=I
• -1.26 - (9.26-15.54)=5.02
• -1.26+6.28=5.02
Government savings Private savings
• Sg=T-G
• -0.61 (=2.2% Y)
• -0.61=T-6.08
• -0.61+6.08=T
• 5.47=T
• S=Sg + Sp
• -1.26=-0.61 + Sp
• -1.26+0.61=Sp
• -0.65=Sp
• Sp=Y-T-C
• Sp=28.2-5.47- 23.38
• Sp=-0.65
• S=Sp + Sg
• -1.26= -0.65 -0.61
• -1.26=-1.26
Source: authors’ calculations based on the World Bank, the Central Bank of Bosnia and Herzegovina
and Agency for Statistics of Bosnia and Herzegovina
When inflows of foreign exchanges weaken (or they are stopped by putting
BiH on the black list), BiH economy is threatened by chaos or collapse. One
source of those inflows, mother-bank loans to daughter-bank loans, dried out.
Before the global crisis of 2008, it was a plentiful source of foreign exchange and
financial sources of credit and in turn it had strong aggregate demand increase
and economic growth of almost 7 % of GDP. With global crisis the economic
growth of BiH virtually collapsed and since then it has had a growth rate of 1-2%
per year.
If one or two larger banks were to withdraw from BiH it would cause a strong
contraction of the money supply for which BiH has no antidote. Actual behaviour
of foreign banks that are strengthening more non-interest income than interest
bearing ones, acts as a brake on the economy.
BiH has effectively lost control over its monetary and financial system. When
pounds from Mauritius are relocated to London, the foreign exchange reserves
of 10 billion BAM are outside BiH (and serve only to discipline the local politicians).
In addition, the banks are not under the (efficient) supervision of the BiH
government. They are controlled by two banking agencies that have become mere
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instruments of banks, just one step lower than their Bank Association, a pure
lobbying organization. When banks whose deposits originate to a large extent
from the public company’s deposits decide to buy treasury bills they engage in
that activity (or decide not to buy in order to corner the government, as it was
the case recently).
I.2. Middle-income trap
Many countries have developed rapidly after the WWII and have become middle
income countries. Few of them continued to develop and became high income
countries.8 According to the World Bank, certain countries are stuck in “the
middle-income trap”.9 Resources that enable high growth of countries with low
income (e.g. natural resources, cheap labour force and easily absorbed technology)
do not enable growth of countries with high income.
A journey from a middle income country to a high income country requires
the direction of resources into highly-productive, skilled and knowledge intensive
activities. The production of higher value-added goods seeks qualified workers
who need to have higher wages. Due to the increase in wages the manufacturing
companies in upper middle income countries often deal with the situation
of not being competitive in the export markets where more efficient producers
operate.
Journey from a middle income country to a high income country is based
upon export-led development (i.e. the exploitation of global demand at deep
elastic markets for their products). In this way four “small tigers” (i.e. Hong
Kong, South Korea, Taiwan and Singapore) increased export of industrial products
from 4.6 billion in 1962 to 715 billion US dollars in 2004 (US$ in 2000). In 42
years they increased their exports by 155 times. Domestic markets could not secure
that. When in 1950 South Korea followed the strategy of substitution import
(“buy domestic”), it had the economic growth rate of 2-3% per year. Since the use
of “export domestic” strategy in 1960s, the growth rate has jumped to over 7%
per year or more in 41 years and the country has become an economic miracle
(Commission on Growth and Development, 2008).
The ratio of exports to BiH’s GDP is one third of GDP, while the ratio of
imports is almost 60% of GDP. BiH export is twice lower than simple average of
8 After the WWII only 30 countries managed to pass the way from a middle income to a high income
country. Five of them succeeded by 1950 and 25 after 1950 (Felipe, Kumar and Galope, 2014).
In 1961 there were 101 countries with middle income, and by 2008 only 13 became countries of
high income (Larson, Loayza and Woolcock, 2016).
9 This term was first introduced by Gill and Kharas 2007 in a study “An East Asian Renaissance:
Ideas for Economic Growth.” Since then, there has been a debate about the concept which here in
the case of BiH is used for diagnostic purposes while the therapy is based upon viewpoints of Commission
on Growth and Development (2008) – discussed in detail in the third part of this work.
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Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
the small European transition countries. BiH export per capita is ten times lower
than the export of Slovenia, Slovakia and the Czech Republic. The simple averages
for European transition countries are 54% for exports and 57% for imports. It
is a common sense that values of imports and export should be equal in the long
run, but it is not normal and it is unsustainable to have imports double the size
of exports which is the case of BiH (the World Bank, 2016). BiH has low exports
due to a lack of tradable goods. Globally looking, modern economies are servicebased
with the aggregate production dominated by the production of services,
but the international economy is based on goods trading - the total export of
goods and services consists of four-fifths in goods, and the remaining quarter in
services export. Those who do not have tradable goods drop out of international
trade and the international capital market.
Austria
Albania BiH
Croaa
Bulgaria
Greece
Portugal Montenegro
Macedonia
Moldova
Kosovo
Serbia
Slovenia
Slovakia
Switzerland
Hungary
Czech R.
Averages
20
40
60
80
100
Export (% of GDP)
40 60 80 100
Import (% of GDP)
Figure 1: Export and import; BiH and comparators, 2015.
Source: authors’ calculations based on the World Bank (2017)
“The middle-income trap” country is the one that stays in that state for more
than the average time of retention. In the school terminology, a student who stays
longer than one year in a class is a bad student, and needs to repeat the class. Argentina
and Greece are the most famous repeaters in the class of higher middle
income. It took Argentina 40 years (1970-2010), and Greece 28 years (1972-2000)
to become high income countries. According to the World Bank, the transition
from an upper middle income to a high income country lasted on average 14
years and in the case of South Korea, Taiwan and Hong Kong it lasted seven years.
For 18 years BiH has been a middle income country. After two post-war reconstruction
years, for 18 years now, BiH has been an upper middle income country.
Undoubtedly, BiH is not going to be a good student but it is still far from being
the worst one (i.e. to have Argentina and Greece syndrome).
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II. How to reach effective BiH policies
Five main ingredients of high and stable development, based on the experience
of countries that have become economic miracles, are: (Commission on Growth
and Development 2008; Jones and Romer, 2009; Stiglitz, 2012; Lin, 2012):
1. Involvement in international economy (openness)
2. Macroeconomic stability
3. High rates of savings and investment
4. Market allocation of resources, and
5. Small, determined and capable government.
In addition, during the last three decades the prevailing view has been that
the best strategies of development for small middle income countries, such as
BiH, are export-led development strategies. Their main characteristics are: high
investment and savings, high foreign investment, and high export of industrial
products. Specifically, what high-growth Asian small tigers, which have also become
economic miracles, have in common is: high saving and investment rates,
rapidly improving education level, relatively moderate inflation rates and if not
free trade, then at least a high degree of openness and integration with the world
markets (Krugman, Obsfteld and Melitz, 2015).
Therefore, it is necessary to bring export-led strategies to all levels of BiH
government. Their existence is like a light bulb in a dark room. The room can
be crossed without the light but it will take time and bring along some painful
bruises. Foreign trade policy of BiH must facilitate foreign trade transaction of
companies and be connected with the biggest socio-economic questions of the
country (i.e. unemployment, rural development, inactivity, poverty and inequality)
in order to secure jobs.
Incentives for export rather than for exporters, have to be short-term (what is
the purpose of a country’s comparative advantage if it should be supported limitlessly!)
and agnostic (country must support export without specific benefits for
some companies).
In 1955 a development economist Arthur Lewis said that “governments are
failing because they are doing too little or too much”. During the promotion of
sustainable economic development the government must focus on creating the
environment for economic activity which will easily introduce new undertakings.
In the most adequate way the government will adhere to market functioning
and create conditions to introduce new economic activities if its intervention
is adjusted to the country’s comparative advantages, defined by the structure of
available production factors in the current period, among which knowledge and
entrepreneurship are (Lin, 2012, Stiglitz, 2012).
BiH policy makers do not support the development of competitive market.
They strongly support the existence of moral hazard because it helps non-effi147
Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
cient public companies to stay in the market10 even when they are making a loss.
Some public companies are in privileged position and extract rents. For example
the prices (and profits based on them) of telecom operators are high which prevents
development of entrepreneurship through unaffordable production inputs
and distancing telecoms from the global production frontier and it damages their
legal privatization.11
Policy makers should resist demands to protect activities, companies or jobs.
Instead, they should protect people. The best protection that a government can
offer is education and training (acquiring skills that enable people to become employed)
and creating the environment which secures jobs and helps people find
jobs. By respecting the solidarity principle people need to be supported when
they are between two jobs by the social security. That is why the unemployment
benefit exists.
In BiH the economic growth rates of less than 7% per year are not acceptable.
It is necessary to increase production to improve competitiveness by 3% per year
(in order to achieve Copenhagen’s criteria to enter the EU) and to increase employment
by 4% per year (in order to reduce mass inactivity and unemployment
to prevent the collapse of health and retirement funds). Over the last 21 years no
significant level of government of BiH has made clear strategies and productivity
policies. Some levels of government had an employment strategy but today there
is none.
BiH was on the threshold of those high growth rates in 2007 with the growth
rate of 6% and in 2008 it was 6, 8%. In those successive years BiH was even close
to 7%. With 7% growth rate it could reach income of 9.400 US$ in 10 years. This
would overpass today’s global average, with income larger than Romania’s. By
increasing the growth rate to 10,5-11,0% in ten years BiH would ensure income
per citizen of 12.196 US$ (entering the group of countries with high income)
(Domljan, 2014).
10 There is no study on tax expenditures in BiH (what the country will lose due to tax exemptions,
exceptions, etc., because of supporting certain sectors, regions or social groups and what it will get
with it), nor a consolidated balance sheet of the public sector to see when and how many losses it
creates and to whose account.
11 Economic privatization was carried out when the public companies became political party holdings.
The profits of these “public companies” are stripped by managers and employees through payroll
and uncontrolled employment, through public procurement and by the government through
taxes. Citizens do not participate in business results through lower prices and better quality services.
Thus, the economic situation is the same as it was in communism: working class and people
do not get anything - a piece of fruit is taken by the privileged social groups. Only the terminology
has changed: the company is not a “social” but “public” property.
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II.1 Cities-regions and value chains, engines of economic development
BiH needs to focus on supply-side economics12 and find engines for export and
development. These could be cities-region and value chains (VCs), or even better
value chains of cities-regions. Policy makers need to analyse global niches and
decide where it is easiest to become technological leader and achieve economies
of scale.
Cities-regions are current pockets of excellence from which excellence needs
to be spread to country-wide and support BiH’s fitting into the space of South-
Eastern Europe and Mediterranean and gradually to the EU space. In cities-regions
(Banja Luka, Bihać, Bijeljina, Mostar, Sarajevo, Tuzla, Zenica) it is necessary
to support VCs where BiH has traditional comparative advantage, and where it
needs to acquire that advantage, primarily in the areas of software production
and creative goods.
Even though the total share of BiH economy in global export is 0.028 %, the
country is struggling for global niches where the share of its leading companies
is 0.10-0.70%. It takes the 20th-30th place among 100-130 countries exporters of
certain products. BiH has a chance to become a leader of certain global niches.
This can be achieved with development of VCs based on large-scale companies
as leaders of VCs and inclusion of large number of micro, small and medium
enterprises (MSMEs) where some of them function as locomotives and
others as wagons. At the same time government’s support policies can grow out
of policies of VCs into cluster policies. Based on the EU countries’ experience the
cluster policy is conducted at the regional level, even in constitutionally unitary
countries (Italy), and especially in federal countries (Switzerland, Belgium). The
cluster policy is conducted in BiH at the regional level.
BiH’s cities-regions have rich cultural diversity which is an excellent basis for
development of creative economy. Multiculturalism encourages creativity. In BiH
creative economy’s production and export have minor significance causing foreign
trade deficit even in this field. Creative economy is an important part of
knowledge economy. It has strong economic growth and employment growth in
comparison to the total economy, and it is an important component of cultural
identity and development of cultural diversity as a basis for modern development.
Primarily based on ideas, not on capital, the creative economy leans on unlimited
resources, not on optimization of limited resources such as manufacturing.
12 It is very difficult to conduct demand side economic policy in BiH under the currency board
(renunciation of monetary policy and exchange rate policy) and with a lack of institutions and instruments,
and above all political interests of policy-making at the country level. Only indirect tax
policy could be conducted at the macro level - direct tax policy is led at the lower (mezzo) levels.
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Therefore, BiH, which neglects the export of intangible goods, needs to focus
on export of creative services, business services and financial service and above
all export of software and software services.
II.2 Aggressive knowledge production
Observed from contemporary industrial society’s viewpoint let alone from
knowledge based society and digital economy’s viewpoint, BiH has an insufficiently
skilful work force. Only 5.7% of citizens older than 25 have a university
degree (150.000). All regional and economic comparators have relatively more
educated citizens with tertiary education (both high and higher). Without the
acquisition of knowledge there is no removal of the technology gap in BiH in
comparison with high income countries. Insufficient number of students in BiH,
especially at the Faculty of Natural Sciences and Mathematics and the Faculty of
Technology, makes a fragile basis for recruitment of research-development personnel.
Research-development centres are scarce in the companies (in the EU
countries 60% of total number of researchers are employed at the centres of this
type), so there are no preconditions for companies to be successful in product
development. Globally observed BiH is among countries with the lowest innovation
capacity (Nair, 2008). Due to small investments into R&D, the production
and dissemination of knowledge are low (see Figure 2). Out of all comparators
only Albania has the lowest knowledge production.
Albania
Austria
BiH
Bulgaria
Montenegro
Croaa
Greece
Maced.
Moldova
Portugal
Romania
Slovakia Slovenia
Serbia
Switzerland
0
200
400
600
Impact of arcles
0 20 40 60 80
Citaons of arcles
Figure 2: Knowledge production; BiH and comparators, 2013
NB: a bubble marks the county’s total patent activity
Source: authors’ calculations based on Dutta and Lanvin (2013)
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The number of patent resident applications reported to the BiH patent authorities
is lower than any economic or regional comparators and the simple average
for all forms of country income groups except for low-income countries. Globalisation
in BiH is lagging behind because of poor physical infrastructure (and
promotion of closed society). As for the physical infrastructure, primarily it is behind
comparator countries on ICT infrastructure (Domljan and Domljan, 2014).
The world is becoming physically and economically more remote for citizens and
companies from BiH, as it is more difficult, more expensive and more distant to
travel. As the time and economic distance in Europe are decreasing, for example,
in an hour or two you can get to the end of Europe. In BiH you can hardly arrive
to Mostar from Sarajevo by road – but not by rail or plane.
BiH: Export 0.17%; Import 2.93%
0
10
20
30
40
50
Export of informaon goods (% of total export)
0 10 20 30 40
Import of informaon goods (% of total import )
Figure 3: Export and import of ICT goods; World, 2014
Source: authors’ calculations based on the WB (2017)
Today there are over 400 science parks in the world, which are already passing
the third generation of development. Of course, most of them are in the United
States (150), Japan (111) and China (100), which began to develop in the mid-
1980s, and there are dozens in Africa. Thus, according to the International Trade
Centre (ITC), e-commerce in Africa amounted to 8 billion US $ in 2013, and it
will amount to 50 billion US $ in 2018.
The question is no longer how to ensure internationalization of SMEs, because
micro-enterprises are born as global firms from the start. They use “plug
and play” Internet infrastructure platform, so they can reach a global customer
base and become exporters without any problems. According to the World Bank
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Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
lion MSMEs which use this platform, out of which 30% are foreign MSMEs. BiH
must work, as quickly as possible, on the establishment of digital platforms for
many reasons, and one is overreaching, namely, a very small BiH market.
II.3 Increasing savings and investment
One of the lessons from the experiences of countries that have strongly developed
and become world miracles, is that there was no high economic growth
without high rates of savings and investment. For example, China saved each year
more than a third of income for more than a quarter of the century, but in recent
years it has saved about a half of gross domestic product.
Albania
Austria
B-H
Bulgaria
Croaa
Czech Repub lic
Greece
Hungar y
Moldov a
Monteneg ro
Serbia
Slovak Repub lic
Slovenia
Switzerlan d
10
15
20
25
30
Investment
10 15 20 25 30 35
Savings
Figure 4: Saving and investments; BiH and comparators, 2014 (in % GDP)
Source: authors’ calculations based on IMF (2017)
BiH has a negative rate of domestic savings, spanning from -3 to -6 percent
of GDP and the low rate of overall national savings, which is about 9-13% of
GDP. Global average of domestic savings is about two tenths of GDP, while BiH
is among ten countries on the globe that save least. Only two European countries
(Kosovo and Moldova) save less than BiH. On the other hand, BiH invested
around 15 percent of GDP in the period after the outbreak of the global recession,
which was significantly below the global average of nearly a quarter of GDP.
BiH has a higher rate of investment than the savings rate, which means that it
is ‘importing’ foreign savings and the inflow of foreign capital in the size of these
differences. As long as import is higher than export of goods and services, investments
are financed with ‘imported’ savings.
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II.3.1 Introduction of non-bank depository institutions
The main reason for the low savings rate and consequently the rate of investment
and growth rate of GDP is the underdevelopment of the financial system of the
country. There is no variety of financial institutions and financial instruments
capable of mobilising resources ranging from a few BAM (micro institutions that
accept deposits - in BiH it is prohibited by law) to several billion BAM (through
infrastructure bonds issuances). There is no law in BiH on mutual guarantee
funds, savings banks, savings and loan associations (there is a law in the Republic
of Srpska), financial holding companies and credit guarantee funds for over two
decades.
The World Bank research shows that reform of the financial markets provides
GDP growth of two percentage points. Simply put, only a reform of the financial
system and attracting diaspora funds (which, to a large extent, can mean one
stone hits two birds, but in BiH it means one stone missing two birds) can beat
glum rates of GDP growth of 1-2% per year (we do not know for sure what the
growth rate was in 2015) to minimal 5%.
The creators of economic policy in BiH did not develop the financial system.
They reduced it to five-six foreign commercial banks whose aim is (quite legitimate,
there is nothing to complain about) making profit and not funding the
development of BiH.
About 90% of the financial system of BiH is controlled by commercial banks,
the only existing banks, with the exception of development banks that are nothing
but a pocket bank of the ruling elite. Insurance companies control a half of the
remaining 10% (due to mandatory car insurance), and the other half is controlled
by the leasing companies and microcredit organizations.
There is a complete dominance of foreign commercial banks in the financial
system of BiH. Worst of all - which did not exist even in the former communist
countries of Eastern Europe, let alone in the communist BiH - is what exists in
the capitalist BiH: The law on banks prohibits non-bank financial institutions, because
no institution other than a bank can collect deposits and grant loans. There
is no doubt that with the transfer of the EU legislation BiH and especially FBiH
shall abolish this civilization’s shame on the soil of Europe.
The Banking Act should regulate banks and abandon any mentioning of nonbank
depository institutions in the law (especially regulated by banking agencies).
Other deposit taking and credit approving institutions should be regulated
by other, respective laws, in which, on the other hand, operation of banks should
not be limited. It would be unreasonable, by using law on savings banks or savings-
credit cooperatives, to limit the work of commercial, investment, development
and other types of banks.
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High real interest rate can be lowered only by creating competition in the
financial market and inflows of funds from abroad. Extremely difficult task is to
lower the interest rate, one of the most difficult in economic policy. Since 1995,
in the capitalist BiH we have not seen any measure of economic policy makers
aimed at lowering interest rates. What should the government do in this regard?
The correct way of pushing banks towards reducing interest rates is to reduce systemic
risk and increase competition in the financial market.
In developed economies the financial system relies on two legs - mobilizing
capital by taking deposits (commercial banks, savings banks, etc.), and mobilizing
capital through the capital market (investment banks, development banks,
mutual funds, etc.). In BiH, the book is reduced to an institutional letter, i.e. the
commercial banks. No savings, no development banks (in BiH called the Entity
Development Bank) have ever been engaged in mobilizing resources before waiting
for the funds to be allocated to them in a way funds and agencies function.
Therefore, these so-called development banks cannot be called development
banks because they are not bank institution at all, neither collect nor place funds
through market mechanisms and instruments, etc. How is it possible to have high
saving rates in BiH?
The banking mediation in BiH was effective (and banks considered it ‘the best
part of BiH economy’, which is quite wrong, as the situation with the banking system
in the Republic of Srpska clearly shows) when the mother-bank sent money
to subsidiary banks, and they traded with it. In the era of Great Recession mother
banks do not send money (they are committed to the Vienna Initiative that asks
them not to withdraw) - which is not the worst part. The problem is that these
subsidiary banks have almost no one to credit and they are swimming in liquidity
(with a share of risky loans due to asymmetric information, an increasing number
of good companies are “engaged with the enemy” while bad companies do
not have the similar problem), and business sectors in insolvency.
The unfavourable general and business environment, particularly high fiscal
and parafiscal burdens, are forcing the private sector to emigrate (underground
or abroad) or (hopefully temporarily) to close the firm. ‘Corporate-cows’, organically
grown and with no support, are long lasting and poorly developed while
the citizens-clients can still be found in some public monopoly enterprises. But
there the situation is more difficult, because the authorities succeed in putting
these monopolies into losses (as Elektroprivreda and Telecom companies clearly
show). Such companies, whose profits are the spring of economic life of economy,
precisely of savings and investment, are decreasingly generated.
Competition in the banking market must be sharpened with the introduction
of non-bank deposit taking financial institutions, such as savings banks. The
threshold for the establishment of commercial bank should be increased to 20
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million BAM, while the savings banks could be established with 10 million BAM.
This would help in the further consolidation of the banking system, while the
remaining banks could be transformed into savings banks.13
In Bosnia and Herzegovina, savings banks could be established in cities-regions,
which would serve the needs of citizens and MSMEs. They could acquire
20-30% of the credit market, as in the case of the economic comparators, that is
to say at least five billion BAM, thereby employing about 5,000 workers.14
According to available statistical data, today it is possible to have the savings
and credit unions in 109 countries on six continents. 15 Movement of credit cooperatives
began with a simple idea: individuals can improve their own and other
people’s standard of living by putting their savings in the common pile and lending
it to neighbours and colleagues.
This year, on the World Day of the credit, the first credit union in (F)BiH,
Spark 1 was formed. It is called Spark 1 because it is expected that the Spark 1
will be joined by Spark 2, 3, and it will be possible to form a league of credit cooperatives,
like the one developed by Desjardins in Canada. We should recall that
credit unions in the country were developed by the Austro-Hungarian Empire in
the early 20th century, when they had strong growth, which weakened in the era
of the Kingdom of Yugoslavia and the Socialist Yugoslavia, while in the capitalist
BiH they were not only extinguished but also forbidden by law.
II.3.2 Development of government bonds market
No matter how good they are, foreign banks are not able to mobilize large amounts
of capital, while BiH development banks are not interested in dealing with it. The
securities market is not developed. The number of potential issuers of attractive
13 Savings Bank, a financial institution over 300 years old, is strongly developed in Europe, but not
in BiH. Modern societies adorn regional and responsible 3R retail. They are involved in retail banking
(payments, savings products and loans and insurance for citizens and SMEs), since commercial
banks are distinguished by the fact that they focus on the local and regional markets.
14 According to the World Institute of Savings (World Savings Banks Institute, WSBI, operating
since 1924), with its members from 92 countries it shows countries where there are savings from
those with low income (Burkina Faso, Guinea, Ivory Coast, Namibia, Uganda, Togo), the communist
countries (Cuba, China), transition countries (Bulgaria, Croatia, Czech Republic, Hungary,
Latvia, Poland, Romania, Slovakia, Ukraine, etc.), and those ‘rich countries’ (Austria , France, Germany,
Italy, Spain, Portugal, Japan, UK, USA, etc.).
15 It began in 1844 in Rochdale, England, and in 1849 in Germany. Today it is possible to see them
in 25 African countries, 21 Asian countries, 19 Caribbean countries, 14 European countries, 15
Latin American countries, 2 North American countries and 14 countries in Oceania. They can be
seen from Burkina Faso and Uganda, through Myanmar, Albania and the Netherlands to Canada
and the United States. There are a total of 60,500 credit cooperatives, with assets of 1.8 trillion US
$, serving 223 million people.
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securities (shares, bonds, etc.) is small. None of the other domestic players has an
interest in the pump priming finance and the government remains as the solution.
Firstly, infrastructure bonds with maturities of 5, 10, 15 and 20 years could be
purchased by BiH citizens. Citizens now have nearly five billion BAM of savings
in BiH banks. There are no other possibilities, except to keep the money under
‘the mattresses’ as a dead capital or abroad as a placement (or, at least some of
them become business angels or loan sharks). The yield on government bonds
would be safer and more profitable (higher yield of bonds than from interests on
bank savings). And it would be very liquid, because it could be traded in the bond
market. Objectively, calculations could be intertwined by inflation, but it is nowhere
in sight, nor will it be as long as the currency board functions as orthodox.
For instance it is clear that public pension funds in BiH could face a collapse
unless deep structural reforms are undertaken, since citizens need security in
their old age. By purchasing bonds a person can do more for his/her (healthy)
child than to provide a good education, through the purchase of bonds. And as
the child gets to the college and receives education, bonds will come for collection.
Investing in bonds is not only a good and safe investment for citizens, both at
home and abroad, but also a good opportunity for domestic financial institutions
(savings banks, which make long-term placed assets in these bonds, insurance
companies, public companies, private companies and banks, etc.), which would
address issues of over/under current assets by selling and buying bonds.
The infrastructure bonds would be bought, for example, in the part of the
20% of issuance, by banks, insurance companies, pension funds, mutual funds
and citizens. Banks would hold the respective bonds as a first-class, 100% secure
placement, hence the provision of them would be 0%. Also, a regulation could be
adopted according to which a part of the foreign reserves at the Central Bank in
excess of the coverage of 110% could be held in these bonds. In this way secondary
bond market could be developed. Banks and other institutions could release
excess liquidity with profitable, secure and liquid placement. This would contribute
to the strengthening of the credit system because the banks, savings banks
and credit unions could accept these bonds as security for loans.
II.3.3. Powerful mobilization of diaspora funds
With the appropriate policies, BiH can make significant use of its diaspora community
which includes emigrants and their descendants - to support the economy.
Mitra et al (2016b) found that diaspora can help raise long-term economic
growth, on average, by 0.6 percent of GDP in emerging and developing home
countries (Mitra, 2016a), while in emerging Europe diaspora can contribute with
1.4 percent of GDP (Mitra et al, 2016a). In the post-global crisis BiH has had
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GDP growth rate oscillating around 1-2 %. Accordingly, tapping into diaspora’s
resources could double the GDP growth rate, which BiH desperately needs.
Table 3:
GDP; BiH, 2014-2021 constant prices (in %)
2014 2015 2016 2017 2018 2019 2020 2021
GDP growth rate 3.2 3.0 3.2 3.7 3.9 4.0 4.0 3.2
Diaspora's potential contribution
to GDP growth rate
1.4 1.4 1.4 1.4 1.4 1.4 1.4 1.4
Source: Mitra (2016) and authors’ calculations
IMF research shows that central and eastern European countries can increase
GDP growth by 1.4% percent if they manage to attract diaspora funds. BiH could
provide a higher GDP growth rate than the average for central and eastern European
countries due to the abundance of its diaspora and the size of sent remittance.
II.4 Cutting public expenditure by one third
BiH must implement fiscal consolidation, i.e. remove the fiscal disorder, fiscal
deficits and reduce public debt. Also, it must reduce all types of public expenditures
and introduce R&D expenditure, increase them (at once 1%, over the next
two years 2% and over another two years 3%) and strive to maintain this rate.
In particular it is necessary to review public expenditure on social programs. A
set of measures is needed to support, starting from the introduction of ID cards
(to determine who, how, how much and from whom it is received, both from BiH
and outside, and to put the whole social security system under control), to political
and legal review of the basis for granting aid.
It is necessary to act on public revenues (diverting taxation and contributions
from labour and exports to consumption, property and imports, i.e. to implement
fiscal devaluation), especially to expand fiscal space.
In the existing circumstances it should be necessary to pass a law that would
ban state borrowing for current consumption. If despite everything loans are taken,
this should at least prevent money from going into non-productive expenditures.
Thus, the debt offspring will have infrastructure and skills.
Measurement of the effectiveness and efficiency of the public sector (of public
expenditure and public companies) is very limited in BiH. It is necessary to start
benchmarking the activities of these institutions, i.e. to simulate operation of the
market in non-market activities.
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II.5 Reduction of non-observed economy and tax evasion
Last year Association of Employers of FBiH published a Grey Book, which is
based on primary research seeking to establish what drives the informal economy
in the FBiH. According to employers, the main driver is fiscal burden. It comprises
of 26.8% of the informal economy, followed by tax morale (23.2%), regulation
(labour and other regulations) (16.5%), the quality of state institutions (14.2%),
social support (6.1%) and political protection (7.9%).
In other countries, the order of drivers is almost identical: fiscal burden (35-
38%), tax morale (23.2%), regulation (7-9%), the quality of state institutions (10-
12%), social support (5-7% ) and political protection (0%, respectively in studies
for other countries this driver is not recognized as valid, while in FBiH it has
some significance).
When it comes to taxes, it should be noted that in the case of FBiH the problem
is the size of social contributions and the procedures for paying taxes. A large
number of procedures and the number of payments require immense time and
administrative work.
The tax morale is the driver as it was recently included in the survey of the
grey economy. People are aware that the market can produce private goods, but
not the public whose production has to be funded by the country.
The country must treat the taxpayer as a contracting party. Government is on
one side and the taxpayer is on the other. If the government treats the taxpayer
fairly, and if he/she sees that the government produces public goods efficiently
and distributes them equitably, he/she will duly pay taxes. And it is tax morale
that FBiH employers understand and appreciate as a driver of the grey economy.
The calculations show that in some countries tax morale amounts to 30% of the
grey economy. Reducing the tax by 1% increases the grey economy by 0.20%.
Simply put, if the taxpayer does not respect the government, he/she will “manage”
in a variety of ways to avoid paying taxes and at the same time will have no
remorse, quite the contrary.
If the grey economy accounts for a quarter of the income of the country and
a quarter of the work force, as in (F)BiH, it is clear that it cannot be eradicated
overnight. BiH would achieve a great result if it managed in the mid-term to
reduce the grey economy by a fifth, i.e. force it from a quarter to a fifth of GDP.
Sequence of moves must be clear, starting from the one which would cause
the least social and political tensions. Firstly, it is necessary to reduce the grey
payment, then to reduce the grey income and ultimately to reduce the grey employment.
Few people understand that in BiH the government creates the grey
economy. Everyone knows there are a number of public institutions and companies
(mines, railways, hospitals, etc.) that do not pay contributions for workers.
If taxes and contributions are not paid, the public entity and its workers are auto158
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matically considered grey employment, grey sector and the grey economy. Also,
within a range of organizations, both public and private, the part of the salary is
paid as a minimum wage, and it is a formal sector to that extent. Another part of
the salary is paid in cash and to that extent it is a shadow economy.
Around 3.3 billion of cash is outside the Central Bank and banks. There is no
doubt that at least in part, cash payments are used in the grey economy. These
flows should be stopped. It is necessary to introduce electronic payment of social
benefits, to determine the maximum amount that can be paid in cash (which
already exists in Bulgaria, the Czech Republic, Croatia, Slovenia, Slovakia, etc.),
to use POS terminals for certain types of sectors and types of companies (which
exists in South Korea ), a lottery for those who picked up the bills for which VAT
is paid, tax incentives for buyers and merchants who use electronic payment (e.g.
the return of 0.02% VAT) which will probably be hard for the Indirect Taxation
Authority, which alarmed the BiH VAT system and does not want to implement
it (as seen in South Korea and Uruguay). According to EY if BiH started this way
it could further increase tax revenues in the amount of 4.2 % of GDP. This is 1.2
billion BAM, which is even more than the latest arrangement with the IMF.
Note on the statistical basis for the design of policies
Superficial views of Figure 5 show that there is something wrong with BiH statistics
(the strong money supply growth of 5-10% per year, accompanied by the
price drop of about 1%). It would not be surprising if there were strong income
growth, which is not the case: it grew at the rate of 1-3% per year.
-2
0
2
4
6
8
10
2013 2014 2015
GDP
Prices
M2
Figure 5: Real GDP, prices and money supply (in %); BiH, 2013-2015
Source: authors’ calculation based on the CB BiH (2016)
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One thing is certain: the statistical agencies are doing their job poorly. To
what extent, we can only assume. It is possible that this is a bad calculation of the
growth rate (i.e. the actual growth rate is higher than statistically shown), a bad
calculation of gross domestic product (there is a great non-observed economy)
or a simultaneous bad calculation of price and income, which is likely the case.
If we accepted that the statistical calculation of the price was correct, income
growth would have to be far greater than statistically shown (there is a theoretical
possibility of changing the speed of velocity of money, but the economic circumstances
in the short period do not change, and it is difficult to work with the
strong slowdown of the velocity of money).
It should also be noted that the growth in money supply results from an increase
in foreign exchange reserves at the Central Bank, because it is a currency
board arrangement. Purely theoretically observed, an increase in foreign exchange
reserves may happen because the country has a surplus in its relations
with foreign countries. However, since 1995 BiH has had a deficit in its relations
with foreign countries.
Theoretically speaking, if the country has a trade deficit, the money supply
of the country is shrinking (because the country needs to pay, and in the case of
BiH the import is almost double the export of goods). This should lead to rising
interest rates and attracting foreign capital (in BiH it happens that interest rates
are high, and despite this there is no inflow of foreign capital, nor any action of
this mechanism to establish equilibrium).
Furthermore, high interest rates should cause deflationary pressure which
should lead to the decrease in imports and improve the balance of payments.
Reduction of the pressure of buying funds to selling funds would lead to reduced
prices and the depreciation of the real exchange rate, which would lead to the
growth in exports and reduction in imports. All this should lead to an increase
in production to the level of full employment and an increase in exports. Finally,
the current account deficit should be eliminated and the economy achieves an
internal and external equilibrium.
Only something of this happens in BiH in practice. Enormous unemployment
and inactivity of the work force means that there is no establishment of internal
equilibrium, economic growth rates are low and the current account deficits are
high. No one knows how big the deficit of the public sector is since there is no
consolidated balance sheet. There is no doubt that it is vast, because the moral
hazard is equal to the communist times (as seen in the vast and uncovered losses
of public companies). However, the price level is stable (at least there is no statistically
expressed rise in prices) and that is the result of the currency board in BiH.
According to the currency board system, foreign exchange reserves need to
grow with foreign trade surpluses and to fall with deficits, leading to price chang160
Acta Economica, Volume XV, No. 27 / December 2017 137 – 162
es and interest rates changes. However, in BiH foreign exchange reserves grow
along with the deficits in the current account. Now the question could be raised
whether the balance of payment given by the Central Bank of BiH is correct. It
is obvious that it is not, and the reason is simple: the official balance of payments
greatly underestimates the foreign currency inflow. Primary and secondary incomes
are much higher than it is officially stated. The export of goods and services
is higher than it is officially presented (the non-observed economy is high)
and personal remittances are higher than officially reported.
It has already been shown that, due to personal remittances, the negative rate
of domestic savings turns into the positive overall (national) savings rate. Now it
can be said that these savings, both local and national, should be increased, especially
when connected with the investment, which greatly exceeds the savings
and there is no abundant inflow of funds from abroad.
In this work, we cannot go into the discussion on these issues, but we indicate
them, because they are of a great importance for the evaluation and the design of
economic policies.
Conclusion
To solve the problems BiH economy is facing, fundamental reforms which require
wide participation of citizens are necessary. Reforms will have its losers
(privatizers of social ownership, public sector employees, and recipients of public
support) and winners (exporters, the unemployed, etc.).
The reforms are not implemented because political rulers do not change the
existing institutional arrangements with a consensus (i.e. do not build unity without
imposing). Therefore they rely on ‘institutional doubt’, (i.e. the right of veto
when they are a minority) and thus block the organized (institutional) induction
of institutional arrangements. Ruling parties act in the interest of the parts of the
ethnic groups, and not in the interests of the broader social classes. They deal
with issues of distribution, not the production. The period from 1995 to 2017 has
been the period of defective economic policies.
Effective policy, the one that is able to mobilize the factors of production,
must be based on the creation of enterprises. Only that can save from the “curse
of unemployment” (Keynes). Development is associated with high rates of appearance
and disappearance of enterprises, (i.e. with high rates of turbulence and
related reallocation of resources from unprofitable to profitable activities and
companies).
The Dayton peace agreement does not inconvenience the regional authorities
to develop an entrepreneurial economy. For the development of traditionally
managed economy the key level of national economy and modern economic
161
Vjekoslav Domljan et al. From Defective to Effective BiH Development Policy
management is crucial to regional development, especially in BiH where (volensnolens)
central institutions and central instruments are non-existent or ineffective.
BiH will only be on its way of becoming a high income country if it activates
the chain of knowledge production: the production of ideas - conducting research
(testing ideas) - increase in knowledge stock - the commercialization of knowledge
(i.e. innovation) - increase in productivity – increase in competitiveness – export
increase in higher added value - increasing the standard of living.
BiH needs to radically cut parts of public expenditures rather than those in
the R&D and productive physical infrastructure. It must introduce an aggressive
innovation policy because it ensures the production of products with high technological
content. Currently, their share in total exports of BiH industrial products
is 2% or US $ 21 per capita. Among European and transition countries only
Albania has worse result (though for 10 of them there is no indication).
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