As 2024 progresses, Serbia’s economic outlook presents a mixture of challenges and caution. Towards the end of last year, troubling data regarding Serbia’s foreign trade deficit emerged, with the third-quarter deficit reaching 10.5 percent. While the first two quarters recorded deficits below three percent of GDP, estimates for 2024 suggest a deficit range of 5.5 to six percent of GDP. What is particularly concerning is the decline in all aspects of foreign trade, including remittances, an increase in outflows from dividends and interest payments and a rise in imports outpacing exports.
Despite these challenges, there is some positive news: Serbia’s economy is projected to achieve GDP growth of 3.6 to 3.7 percent, in contrast to stagnation in the European Union. However, this growth may not be enough to alleviate the concerns of policymakers, who face warnings from prominent economists Pavle Petrović and Milojko Arsić that the country’s current economic growth model is unsustainable in the long run.
Foreign direct investment (FDI) slowdown and rising outflows
Serbia’s economic growth over the past years has been heavily reliant on foreign direct investment (FDI). Between 2017 and 2023, Serbia attracted 25 billion euros in FDI, with estimates for 2024 at around five billion euros. However, although nominal FDI inflows are increasing, FDI relative to GDP has been declining. Between 2018 and 2022, FDI accounted for 7.5 percent to 7.3 percent of GDP, while this figure is expected to fall to 5.5 percent in 2024.
This decline is compounded by the fact that foreign investors typically pull out their dividends after completing their investment cycle. Additionally, the high levels of FDI in the construction sector, particularly residential projects, indicate that once these projects are completed, funds will be withdrawn. As a result, the outflow of dividends is growing rapidly, along with rising interest costs on foreign debt. The growing outflows, driven by an increase in external debt, are expected to continue in the coming years.
Another factor contributing to this trend is the decreasing availability of cheap labor in Serbia. Unemployment has dropped significantly, and wage growth has outpaced productivity, reducing Serbia’s competitiveness as an investment destination.
Declining remittances and unsustainable state investments
Remittances, another crucial source of foreign income, have also seen a decline. From January to September 2024, remittances totaled 3.76 billion euros, 160 million euros less than the same period in 2023.
At the same time, domestic demand driven by large state infrastructure investments has been a significant contributor to economic growth. However, many of these state investments are not yielding long-term value. Examples include expensive projects such as covid hospitals and stadiums, as well as highways that may not be necessary given the existing infrastructure. Overpricing of infrastructure projects is another major issue, as evidenced by the Moravian Corridor project, which is expected to cost three times the initially contracted amount.
This imbalance in foreign trade has led to wage growth that outpaces productivity growth. As wages rise faster than productivity, Serbia’s domestic production becomes less competitive, leading to increased consumption and imports. Meanwhile, inflation has been running at 4.3 percent, higher than the EU’s 2.4 percent, resulting in the real appreciation of the dinar and further straining economic competitiveness.
Fiscal policy concerns and external pressures
In mid-2024, the Serbian government abandoned its cautious fiscal policy, deciding that the budget deficit would be capped at three percent of GDP, the maximum level acceptable to the IMF. However, there are concerns that the government may struggle to keep the deficit within this limit, particularly with the potential purchase of Russian ownership in the Oil Industry of Serbia (NIS), which is not accounted for in the 2024 budget. Additionally, increased public spending on education, housing subsidies for young people, and public transport in Belgrade could further strain the budget.
Economist Milojko Arsić notes that, should GDP growth remain around four percent in the coming years, financing the three-percent budget deficit should not be difficult. However, there is a risk that the deficit could exceed expectations, particularly if GDP growth falls short.
Reserves provide temporary relief
At present, Serbia’s foreign exchange reserves, which have reached a record 29.2 billion euros, are keeping the country’s balance of payments position stable. This provides temporary relief, allowing Serbia to finance its foreign trade deficit for the time being. However, Milojko Arsić warns that the country has only a few years to adapt its economic model. Key to this adaptation is halting the growth of wages above productivity growth and avoiding the real appreciation of the dinar. Failing to do so, Arsić suggests, could lead to either a recession or persistent inflation.
In conclusion, while Serbia’s economic growth has been supported by external factors such as FDI and government infrastructure projects, long-term sustainability remains uncertain. Structural issues, including the rising foreign trade deficit, diminishing FDI, and an increasing reliance on imports, need to be addressed in order to ensure the stability of the economy in the years ahead. Without meaningful reforms, Serbia faces the risk of economic stagnation or worsening inflation in the future.