Is integration the answer for the western Balkans?

In 2018, the western Balkans countries notched up their highest collective level of greenfield foreign investment in a decade, recording 147 projects valued at $9.36bn, according to greenfield investment monitor fDi Markets. 

The western Balkans includes six countries in south-eastern Europe: Albania, Bosnia-Herzegovina, Kosovo, Montenegro, North Macedonia and Serbia. None are in the EU and all were affected by the 1990s Balkan wars. While much progress has been made with regards to the region's stability, some problematic tensions remain, deterring increased foreign investment.

Serbia's star rises

Serbia, the largest western Balkan country by landmass and population, is the region's top destination for foreign investment. The country has attracted 60% of all FDI projects into the western Balkans since 2003, valued at $48.9bn, while runner up Bosnia-Herzegovina tallies 16.1%, according to fDi Markets.

In 2018, Serbia received an unprecedented amount of greenfield FDI, thanks largely to a rapid increase in investment into manufacturing, especially automotive, since 2015. 

“Serbia has a good geographical location. It is the largest non-EU country in south-eastern Europe and has good free-trade association agreements with several [locations] such as the EU, Russia and the neighbouring western Balkans countries,” says Zsuzsanna Hargitai, regional director for the western Balkans at the EBRD. “I know one investor that has just closed down a plant in the Czech Republic because they could find cheaper labour in Serbia.” 

With unemployment low and labour costs rising in eastern Europe’s leading FDI destinations (namely Poland and Hungary), attention may be turning towards south-eastern Europe, where Serbia is one of the cheapest locations, especially for manufacturing, according to fDi Benchmark, a location assessment tool.  

Steady growth 

While Serbia enjoyed a historic year for foreign investment in 2018, the western Balkans' five other countries saw only modest growth in greenfield investment flows, according to fDi Markets. However, relative to their GDP, Montenegro, Bosnia-Herzegovina and North Macedonia rank in the top 18 destinations in the world for greenfield investment. Serbia is ranked number one. 

Montenegro's headline FDI figures performed robustly in 2018, as did Serbia’s, according to the EBRD. The two countries also had the fastest growing GDP levels in the western Balkans, just shy of the 5% mark. Their neighbours also witnessed healthy results, however, with the lowest GDP growth rate, a still-impressive 3.1%, in Bosnia-Herzegovina.

The EBRD expects continued steady economic growth in the western Balkans in 2019. However, further reforms and better investment activity are necessary to deliver the growth required for sustainable convergence with EU income levels, according to Peter Tabak, western Balkans regional economist at the EBRD. “Stronger regional integration, including through the abolition of remaining tariff and non-tariff barriers to trade, would open up new growth opportunities for domestic companies and foreign investors,” he added.

Stronger together?

Individually, the western Balkan nations have small populations and workforces. Together, however, they encompass roughly 18 million inhabitants. 

The idea of regional economic integration is nothing new. The Regional Co-operation Council (RCC), a framework for countries in south-east Europe, has pressed for integration since its foundation in 2008, with moderate success. At the heart of its strategy is the regional economic area (REA), designed to prepare western Balkan countries for EU accession by reducing economic barriers. 

“Currently, the REA is not a custom union or single market; it is less than that. But this is what we could achieve, if we get the four pillars. The key pillar is trade. We want to remove all non-tariff barriers. But now there are taxes introduced by Kosovo on Serbia; it is becoming very difficult,” says Goran Svilanović, former secretary general of the RCC.

Taxing problems

Since late 2018, the Kosovo government has imposed a 100% tariff on imported Serbian goods, despite international criticism. Serbia and Kosovo are engaged in a bitter dispute following the latter’s declaration of independence from Serbia in 2008, a move that Belgrade vociferously opposes due to Kosovo’s significant Serbian minority. 

“[The import tax] is due to our frustration at Serbia’s lack of co-operation. We’ve signed many agreements in Brussels, and Serbia has implemented none. Crossing from Kosovo to Serbia, you have to wait a long time and face many obstacles. Exporting goods is also very difficult; Serbia wants Kosovo as a failed state,” says Kosovo's first-deputy prime minister and minister of foreign affairs, Behgjet Pacolli.

However, a recent report by Veritas Global, a Swiss company that provides economic services, contends that Kosovo’s import tax is raising prices for Kosovars and decreasing their purchasing power by 6.4% annually. Kosovo seems aware of this. “If we achieve peace, it will open a big door to trade and investment. The Serbs also need this peace agreement. We don’t want to close the border with Serbia,” says Mr Pacolli.

A long-term and lasting solution, however, will only come from mutual compromise, according to Mr Svilanović. More specifically, the regional wounds of the Balkans conflict need to be healed. “Reconciliation needs much deeper engagement between societies, and this has not happened. There has only been very surface-level political communication, [and not enough] agreement on the facts of the war,” says Mr Svilanović. 

EU preparations

The second pillar of the REA relates to digitalisation. Despite the import taxes, all six western Balkan countries recently signed a free data roaming agreement, which will be implemented in 2021, and step two is to join the EU roaming area.

The third pillar relates to mobility, more specifically for the region's professionals. “[This would mean that] if you’re a dentist in Tirana, you can open an office in Belgrade without hassle. We want mutual recognition of diplomas and professional qualifications. This agreement wasn’t signed due to the ongoing tax dispute,” says Mr Svilanović.

The last pillar of the RCC focuses on a regional agreement that harmonises a regional investment policy, something that even the EU lacks. 

“So, if [Swedish furniture giant] Ikea comes to Sarajevo, it can hope to receive very similar investment policy and regulation across the region. We’re small countries, so if we come together and complement each other, we can bring more investment to the whole region. For example, our countries’ military manufacturing could be united and clustered,” says Mr Svilanović.

Above everything, he adds, beyond the four pillars of the REA, the western Balkans needs better rule of law.

If the western Balkans can cut corruption and politics from strangling its economic potential, then economic integration will bring the region significantly closer to EU accession – and higher levels of foreign investment.