Economy expected to contract 1% in 2012, as external environment remains challenging and domestic demand weak. Accelerating inflation and weak RSD shifted NBS to restrictive mode; additional tightening likely in short term. Fiscal gap significantly above initial target, fiscal cuts necessary to support rating and financing outlook; IMF deal would be welcome add-on.
• The economy remained weak in 1H12, where the 2H outlook remains burdened by struggling external demand, weak private demand, poor agriculture performance and less supportive public consumption. After a 1% contraction in 2012, we expect a 2% rebound in 2013, predominantly reliant on external demand; risks thus remain skewed to the downside if EU growth outlook deteriorates.
• 2Q current account trends showed some stabilization vs. 1Q, but still remain unfavorable. We see some stabilization in the merchandise exports side on automotive exports kicking in. Still, we see the C/A deficit widening to the region of around 10.5% of GDP and afterwards stabilizing in 2013. FDI inflows would remain low, while the lack of debt creating options would continue to imply some pressure on FX reserves.
• The inflation outlook deteriorated in recent months, predominantly on food-related items. With CPI slipping outside the target band and expected not to revert back before 2H13, we see the NBS maintaining its restrictive stance and managing RSD liquidity tightly to support the exchange rate.
• The budget gap for 2012 is expected in the region of around 6.5% of GDP, implying a strong deviation from initial targets and public debt trajectory deviating substantially from the targets set in the Fiscal Responsibly Act. Fiscal consolidation remains a key element to ensure market and IMF support and support the rating outlook.
• After almost three months of post-election negotiations, the SNS and SPS-bloc, with support from URS, formed a new government led by SPS leader Mr. Dacic.
Source Balkans
