The Central Bank of Montenegro (CBCG) has recommended improvements to the government’s fiscal strategy, proposing a comprehensive long-term impact assessment of planned reductions in pension contributions. The CBCG believes that these changes could significantly affect pension revenues and employee pensions and suggests modeling pension amounts similarly to wage projections, with a forecast extending up to 20 years. Additionally, the CBCG advises evaluating the long-term effects of these measures on pension income and system sustainability.
On the previous day, the CBCG Council reviewed the proposed fiscal strategy (FS) for 2024-2027, following a request from the Ministry of Finance (MF). While the CBCG broadly supports the government’s plan, it highlighted that the FS does not account for negative macroeconomic scenarios and questioned what measures are in place if budget revenues do not meet projections due to economic shocks. They stressed the need for a deeper analysis in this regard.
The Council also expressed skepticism about the projected 4.8% GDP growth rate for the upcoming year, citing the ongoing refurbishment of the Pljevlja Thermal Power Plant and the potential loss of some non-resident workers.
Risks and recommendations
The CBCG Council assessed that while reducing pension contributions could boost economic competitiveness by lowering labor costs, it also introduces potential fiscal risks.
“The FS covers up to 2027, but it is crucial to consider the long-term consequences of eliminating pension contributions. We must also account for the risk of declining birth rates, which could increase mandatory social transfer costs in the long run, even as life expectancy rises. We recommend supplementing the FS with a long-term impact assessment of pension contribution reductions. This measure affects pension revenues and employee pensions fundamentally, and a simulation of pension amounts over a 20-year horizon is necessary. Additionally, assessing the impact on pension income and sustainability over the long term is advisable,” the CBCG stated, noting that the methodology behind the projections was not provided.
While increasing wages is expected to improve living standards and reduce inequality, it may pose challenges for some businesses, potentially leading to a rise in the informal economy. The CBCG supports the government’s plan to enhance inspection oversight but suggests that additional incentives are needed to mitigate the impact of increased obligations.
Inflation concerns
The CBCG Council noted that increases in wages, pensions, investments, excise taxes and VAT could contribute to inflation.
“The impact on inflation is expected to be limited, given the high level of imports and the fact that import prices are set on international markets,” the Council’s opinion stated.
There are concerns about whether the anticipated revenue increases are realistic and if they might result in a larger deficit and public debt than projected. Although the CBCG agrees with the government’s plan to potentially arrange deals with the World Bank and issue domestic government bonds for individuals, they caution about the limited capacity of the domestic market and recommend developing a debt management strategy promptly. The CBCG supports the planned legislative changes to increase budget revenues but warns that a new VAT rate of 15% could discourage businesses, lead to higher prices, and increase the informal economy.
Public Debate and Legislative Developments
Two weeks after submitting the laws included in the draft FS to the Parliament, the Ministry of Finance released a report on the public debate, which ended on August 7. The report includes 119 comments from 42 participants, most of which were not accepted.
The Parliament’s Committee on Economy, Finance, and Budget is scheduled to review these legislative changes today, with further discussions expected in the plenary session later this week.
Key points of contention during the public debate included the reduction of pension contributions, the introduction of two minimum wage levels (600 and 800 euros), and a unified VAT rate of 15% for accommodation and hospitality. The Ministry of Finance explained that setting the minimum wage at 800 euros was not feasible and that increasing wages through coefficient adjustments could negatively impact the business environment and raise unemployment. They also clarified that the two minimum wages represent a compromise with employers and do not prevent higher payments.
Ongoing Concerns
A significant issue has been the government’s plan to link minimum wages to educational levels. Initially, the Ministry of Finance suggested that minimum wages would be increased based on this criterion, but later clarified that it would depend on individual job classifications. This could lead to discrepancies in minimum wages for employees with similar job roles but different educational backgrounds.
The Ministry clarified that employees in positions requiring up to level V qualifications would receive a minimum wage of 600 euros, while those in positions requiring level VI and above would receive 800 euros. This determination is based on job qualifications, as outlined in the Ministry’s response.
Concerns were also raised about removing stimulative measures and tax incentives for five-star hotel investments. The Ministry of Finance responded that the accelerated VAT refund process has addressed the need for VAT exemptions, previously a significant barrier. The Ministry also addressed concerns about the 15% VAT rate for tourism and hospitality, stating that it compensates for lost revenue due to reduced contributions and aligns VAT rates for accommodation and food, meeting previous demands from hoteliers for a unified VAT rate.
The Foreign Investors Council had hoped the FS would focus more on economic development, diversification, foreign investment, and improving air connectivity. They expressed concerns that increased consumption risks could lead to higher prices and inflation and that the VAT increase for hotels might significantly impact tourism, with companies like Hotels Group Montenegro Stars expected to face considerable costs.
Presidential office and additional issues
The office of President Jakov Milatović criticized the transparency of the compensatory measures valued at 205 million euros, noting that only minor aspects were well-explained. They suggested that the projected deficit of 180-200 million euros due to reduced pension contributions might be optimistic and warned that the “Europe Now 2” program could lead to a budget deficit of at least 2% of GDP, potentially exceeding 3% in a negative scenario with economic slowdown.
The Ministry of Finance responded that all compensatory measures are based on detailed analyses, projecting a budget deficit of about 3% of GDP and public debt around 60% of GDP. They accepted Fideliti Consulting’s recommendation to revise budget projections, acknowledging that including municipal data could push the deficit beyond 5% of GDP.
Regarding the concept of “average minimum wage,” the Ministry explained it as the midpoint between two minimum wages, used for clarity and graphical representation. They also argued that taxing gambling winnings would not negatively impact providers, as the cost is borne by the players, and it would help increase revenues and combat gambling addiction. In response to suggestions for optimizing public administration, the Ministry indicated ongoing efforts to improve professionalism and skill-based job placement rather than simply reducing staff numbers.
