Perspectives | COVID-19

‘Never let a good crisis go to waste’

By - 19.08.2020

Today’s turmoil is an opportunity for Kosovo’s transformational economic recovery.

The COVID-19 pandemic in Kosovo, in addition to causing a major public health crisis, has plunged the country into economic calamity, driving many firms to bankruptcy, leaving many others on the verge of collapse, and causing considerable job losses. The International Monetary Fund projects Kosovo’s real GDP to contract by 5% in 2020.

Amid all this chaos, I try to maintain hope and optimism, believing (perhaps counterintuitively) that this crisis, despite its evident downsides, might also constitute a golden opportunity for a remarkable economic transformation. 

Bearing in mind that in moments of uncertainty people tend to be more amenable to new narratives and remedies, times of crisis may provide ideal circumstances for reassessing a country’s economic policy. 

On a global scale, crises such as the Great Depression in the 1930s, the inflationary crisis in the 1970s, and more recently the global financial turmoil in 2008, though not induced by health-related reasons, have all been — whether for good or bad — veritable laboratories for big ideas followed by transformational shifts. 

To understand the opportunities that this current crisis may offer, we first need to understand Kosovo’s current economic structure.

How things stand

Kosovo’s current economic model, primarily fueled by remittance-based private consumption, investment in public infrastructure projects with little return, private investment in non-tradable low-productivity activities, and donor assistance, is unsustainable over the long run. This overall structure does not allow the country to catch up with its economic development objectives, which include eradication of poverty and generation of employment, amongst others. 

The productive base in Kosovo is still very narrow, albeit there has been some progress in recent years. The private sector is fragile and highly dominated by micro firms with fewer than 10 employees and limited capital. Micro firms generally have a limited capacity for the acquisition of knowledge and in principle incur higher costs stemming from the small sales volume — both problems inherent to their small size and growth-inhibiting in nature.

Kosovo’s employment rate is the lowest  in Europe, while wages generally remain low. The latter, in fact, have increased well ahead of productivity in recent years, creating a cost disadvantage for Kosovo firms and as such making them less competitive vis-a-vis firms in other countries.  

Furthermore, based on data from the Kosovo Agency of Statistics (KAS), the country faces a huge trade deficit in goods, standing at 44.5% of GDP. The trade deficit has been growing in recent years, casting doubt on whether the sources of external finance (such as diaspora remittances) can handle it. 

The country’s export base, in addition to being small relative to imports, is largely undiversified — both in terms of products and geography. Base metals and minerals, which are rather unprocessed products and generally considered low value-added, constitute the bulk of exports. Only eight countries, chiefly those part of the Central European Free Trade Agreement (CEFTA) and EU members, make up more than two-thirds of all Kosovo’s export partners. 

It’s now or never that Kosovo’s government gets a grip of all these problems and steers the economy onto a path of sustained growth.

The manufacturing sector, which is often the main driver of good export performance in developing countries, has a very low export share to GDP, not exceeding 4%, according to KAS data. Globally, the most traded goods are manufactured products. 

The dismal export performance is also depicted by the Economist’s Intelligence Unit, which estimates that Kosovo utilizes only around 38% of its export potential, being the worst performer among the Western Balkan countries and far away from the 11 post-communist EU member states, where actual exports are only 2 percentage points short of their estimated potential.

Overall, Kosovo is the laggard in the Western Balkans as per the progress toward a sustainable market economy in the six qualities developed by the European Bank for Reconstruction and Development, namely competitiveness, well-governance, green economy, inclusiveness, integration, and resilience. 

Where to take it from here

It’s now or never that Kosovo’s government gets a grip of all these problems and steers the economy onto a path of sustained growth. In addressing the crisis, it has a unique opportunity to unleash a process of growth-enhancing transformation of the economy by helping the private sector move toward activities with greater technological spillovers and increasing returns. 

Trade liberalization and the establishment of a business-friendly environment, though important, are not sufficient to elicit a strong export-oriented response by the private sector, which is vital to addressing the situation of a high trade imbalance. 

The target of the new approach should be to support the creation of higher productivity and technology-relient products and services, which are likely to act as catalysts for inter-sectoral and intra-sectoral linkages, leading to broad-based growth. Economy-wide investment in human capital through education and training, and support for innovation and technology adoption are key here.  

The government should, in the meantime, initiate a strategic collaboration with the private sector in view of discovering where the most pressing obstacles to restructuring lie and what kind of interventions are needed to possibly eradicate them. In general, it is imperative that the new economic policy is geared toward enhancing high-productivity manufacturing activities. 

The service sector is vital, too, especially tradable and technology-intensive service activities. Nonetheless, the main source of demand for such services are manufacturing firms. In that regard, it will be very hard to develop high-productivity services without a strong manufacturing sector.

For a country like Kosovo — with demand constraints stemming from a small internal market — there is little choice but to turn outwards, embarking on an export-led growth. 

In addition, the pandemic has triggered a reconfiguration of global production networks; many large Western multinational corporations are now bringing parts of their production facilities closer to the country of origin. Having in mind the geographical advantage of Kosovo, this represents an ideal chance for the government to help growth-promising firms with employment potential get inserted into these new global production networks.

A growth-enhancing transformation requires strong political commitment at the highest level, as well as an advancement of institutional reforms.

In the meantime, Kosovo should start expanding the geographical reach of its preferential and free trade agreements by following the EU path. Given the huge proliferation of preferential trade agreements worldwide, this would not create a relative advantage in terms of trade tariff reliefs (concessions) for Kosovo. However, it is still important as it would help the country’s traders to compete on an equal footing and not from an inferior position with competitors from other preference-receiving countries. 

For example, a preferential agreement between Kosovo and the European Free Trade Association (EFTA), namely Switzerland, Norway, Iceland, and Liechtenstein, would not create any notable tariff advantage for Kosovo vis-a-vis other countries in the region, because the latter already have agreements with this block. This, however, would level the playing field for  Kosovo exporters competing with their counterparts from the region in the EFTA market.

It is also essential that the government creates conditions for a better channeling of diaspora funds. Remittances, although very important to keep up a minimum level of domestic consumption, might create a sort of dependency among the recipients. 

With incentives such as matching (co-financing) grant schemes, the government could encourage the diaspora to invest in joint ventures or similar types of arrangements, preferably in export-oriented sectors. The government should also consider ways to get diaspora networks to participate in the integration of Kosovo businesses in international markets. 

A growth-enhancing transformation requires strong political commitment at the highest level, as well as an advancement of institutional reforms, which should be reflected in adequate budgetary allocations.

Failure to act soon by taking into consideration paradigmatic transformations of this kind would condemn the country to a collective disaster. In these hard times, the government should be governed by the famous saying credited to Winston Churchill: “Never let a good crisis go to waste.” 

Feature image: Arrita Katona / K2.0.