Baulgaria: Budget 2023: deficit set at 2.5% of GDP, revenue-side measures questionable
Metodi Tzanov
Helping finance professionals understand what is going on in Emerging and Frontier Markets
The finance ministry finally published a draft budget bill for 2023 at end-June, planning to bring the cash-based budget deficit down to BGN 4.6bn and 2.5% of GDP, compared to the high 6.4% of GDP deficit target set in the former caretaker finance ministry's budget draft. The new cabinet expects the deficit to increase to 3.7% of GDP in 2024 and 3.9% of GDP in 2025. We recall that the postponement of the budget adoption for 2023 was the result of the prolonged domestic political crisis and the lack of a regular government and a functioning parliament until recently. Parties reacted in a hostile way to the draft budget pushed forward by the caretaker government in the spring due to the high deficit target, so the bill was never voted. Eventually, the new rotational coalition between GERB and WCC-DB, which assumed power in June, prepared its own budget bill and expects the parliament to adopt it by the end of July. Finance minister Asen Vasilev acknowledged the extraordinary situation with the adoption of a budget in the middle of the year, but noted that the bill has been prepared with efforts to minimise the unpredictability for the business sector and the households. Accordingly, there are no tax changes included in the bill except for an increase of the reduced VAT rate for gas and district heating back to the standard 20% as of July.
The budget bill in its new version aims to secure that Bulgaria meets the Maastricht budget deficit criterion for euro adoption as the new government has prioritised the beginning of 2025 as the target date for Bulgaria's eurozone entry. Under the ESA 2010 methodology, which is applied to verify that the country meets the Maastricht criterion, the budget deficit will be 3.0% of GDP for 2023 and 2024 and 3.6% of GDP for 2025. The finance ministry explained that the deficits under the ESA methodology for 2023-2025 partially reflect the delayed in time reporting of the BGN 2.2bn already spent in the previous years on the purchase of F-16 fighter jets from the U.S. The ESA methodology will take into account the time of delivery of the fighter jets to Bulgaria and not when the payment took place, but this negative impact on the budget balance will not lead to a sustainable deterioration of the budgetary stability in the longer term, the finance ministry assured. Excluding the one-off deterioration due to the delivery of the fighter jets, the budget deficit for 2025 will be 2.8% of GDP.
The differences between the budgets of the former caretaker government and the new regular cabinet are due to significant changes in the planned revenues and expenditure in 2023. The finance ministry expects BGN 4.7bn more revenues compared to the plans of the caretaker cabinet, relying on efforts to improve tax collection and fight against tax evasion. The ministry included a new tranche of BGN 1.4bn under the Recovery and Resilience Facility (RRF) in the planned revenues, as well as cut maintenance and capital expenditure in order to reduce the deficit. We recall that the interim government did not expect Bulgaria to receive new tranches under the national recovery plan in 2023 due to delays in the adoption of due legislation and the ongoing re-negotiation of the plan in its energy section. However, Vasilev believed that all the required legislation and reforms can be adopted by the autumn so that Bulgaria will be able to receive the tranche at end-2023. The third payment will be postponed for 2024 though.
The most controversial difference in the two budgets is related to the new ministry's decision to require state-owned enterprises to pay 100% of their profits as dividends to the budget, instead of the 50% which the caretaker cabinet had planned. The measure is expected to boost budget revenues by BGN 669.8mn, but raises concerns about the public enterprises' liquidity, borrowing and investment plans. In particular, local media warned about Vasilev's plans to request the Bulgarian Energy Holding (BEH), which is of key importance for the domestic energy sector, to amend its audited financial report for 2022 and delete its impairment costs, which should raise BEH's reported profit by up to BGN 1bn and, respectively, its due dividend to the state budget. We recall that the caretaker finance ministry had warned in April that such actions could pose risks to BEH's liquidity, which could potentially result in difficulties for the operations of key energy companies such as NPP Kozloduy, gas operator Bulgargaz, the National Electric Company, and TPP Maritsa Iztok 2, as well as hamper their access to external loans and investments. BEH's profit was BGN 1.6bn in 2022, but impairment costs drove downwards the profit to BGN 582mn due to a write-off of a debt of Bulgargaz. Vasilev asked for new audits from the National Revenue Agency and the Public Financial Inspection Agency, so it is not clear yet how this case will evolve.
On the expenditure side, the finance ministry cut the planned spending by BGN 3.6bn compared to the bill of the previous government. The cuts mostly represented lowering of capital and maintenance expenditure. Capital expenditure has been reduced by BGN 1.9bn to the still very high BGN 8.9bn, and all projects under EU programmes expiring this year, as well as all projects at a sufficiently advanced stage have been included in the calculations, Vasilev explained. The maintenance of state institutions will be decreased by BGN 1.5bn, but the finance ministry noted that wages will not be reduced. On the contrary, public officials who did not receive a wage increase in 2022 will see their wages upped by 10% as of July. Teacher wages will be increased to reach 125% of the average wage, the minimum wages of doctors and nurses will be raised to BGN 2,000 and BGN 1,500, respectively. Pensions will be raised by 12% as of Jul 1, in line with the Swiss formula.
We consider the target for a 2.5% of GDP budget deficit in 2023 a bit optimistic, taking into account the constant increases in expenditure (in particular pension hikes) in the past few years, the tension between the two ruling parties that could destabilise the governmental and parliamentary work at any moment, the high risk of a new delay in the receiving of the next tranche under the national recovery plan, as well as the general unfavourable economic situation that could undermine revenues. We think that the finance ministry's efforts to keep the budget deficit below 3% of GDP are entirely motivated with its aspirations to facilitate the euro adoption, but may not turn out feasible especially in the case of materialisation of some of the risks. In addition, we think Vasilev has had problems in maintaining fiscal discipline during his previous stint as finance minister in H1/2022.
The government will rely on a higher government debt to cover the budget deficits in the next few years. The finance ministry set a ceiling of the new debt that could be issued in 2023 at BGN 7.5bn, including the already issued Eurobonds of BGN 2.9bn in January. Bulgaria will tap both the domestic and the international markets to raise the remaining BGN 4.6bn in H2, but the ministry noted that the limited time framework for its issuance poses risks for an increase in the financing costs. The government debt is expected to reach BGN 40.5bn or 22.0% of GDP at end-2023, up from 21.8% of GDP at end-2022, according to the budget bill. The domestic debt will increase from BGN 11bn in 2022 to BGN 12.7bn and the foreign debt will rise from BGN 25.2bn in 2022 to BGN 27.8bn at end-2023. The nominal increase in the government debt and the global increase in the interest rates will raise Bulgaria's interest expenses to BGN 1.2bn as of 2024 and BGN 1.8bn as of 2025 (some 0.8% of GDP), which will be a risk to the budget in the longer run and will reduce the room for public investments and other productive spending, the independent Fiscal Council watchdog stated in its latest stance on the budget draft.
Macroeconomic outlook is quite optimistic compared to other institutions' forecasts
The finance ministry kept the macroeconomic forecast proposed by the caretaker government unchanged - 1.8% of GDP growth in 2023 and an average inflation of 8.7% for 2023. Vasilev explained that the reason for not revising the outlook was related to the faster passing of the budget bill. Accordingly, the baseline scenario projected GDP growth to ease to 1.8% in 2023, from 3.4% in 2022, due to deteriorating consumption, exports and inventories. GDP growth will speed to 3.3% in 2024 and slow again, to 3.2% in 2025, according to the forecast. The government's macroeconomic forecast may be considered overall optimistic compared to the more moderate projections of IMF, EC, and the WB, projecting a GDP growth ranging between 1.4% and 1.5% for 2023. The Bulgarian National Bank (BNB) was significantly more reserved in its latest forecast, expecting only a 1.0% GDP growth for 2023. We think that an overestimated macroeconomic forecast may result in risks to the realisation of the planned revenue growth. Bulgaria's open economy is very vulnerable to the global economic slowdown, ECB's monetary tightening moves and any international geopolitical and economic developments. We think that the main external risks to the country's economic outlook are related to the expected transmission of higher interest rates on the domestic market, slowing external demand and recession in some EU economies, still elevated inflation, the volatility in energy prices, as well as the continuing Russia-Ukraine war. On the domestic side, the risks to the economy stem from delayed EU funds absorption, in particular under the national recovery plan, as well as from the domestic political instability, in our view.
Investments will be the main economic driver in 2023, as they are expected to rise by 6.3% y/y. We think that the increase is projected on the back of public investments, while private investments will remain curbed by the high uncertainty and the worsening financing conditions, in our view. The deadline under other EU-funded operating programmes for the programme period is coming to an end in 2023, but EU fund utilisation has usually lagged behind expectations and this poses a downside risk to the planned investments, alongside the risk from a potential new delay in the second tranche of EU funds from the recovery plan, in our view. We note that the planned investments frequently remained unrealised in previous years, so we see risks for the GDP growth forecast stemming from the likelihood of a lower investment growth compared to the projections. The Fiscal Council also issued warning about the potential impact of the cut in capital expenditure on investment growth.
Domestic private consumption growth is expected to ease to 3.0% y/y in 2023, down from 5.2% y/y in 2022, according to the forecast. Household consumption will be supported by the rising real disposable income, but will nevertheless slow down due to the weaker employment growth and weakening growth of loans to household, the finance ministry commented. The remaining high inflationary pressures should further contribute to the weakening of household consumption, in our opinion. Government consumption growth will also moderate compared to 2022, the finance ministry pointed out.
Export growth is expected to significantly decelerate in line with the easing external demand, so the negative contribution from net exports to GDP growth will strengthen in 2023, according to the forecast. The finance ministry added that inventories' contribution to the economy will be neutral in 2023-2025.
HICP inflation will decelerate to 8.7% in 2023, down from 13.0% in 2022, but we think that it might stay higher due to resilient services prices and lingering input price pressures. The still slow transmission of higher credit interest rates from the eurozone to Bulgaria and still high borrowing are another risk factor on the domestic side that could exert an additional upward pressure on consumer prices during the year, in our view.
领英推荐
Total revenues
Total budget revenues are set to rise by 7.2% y/y in 2023 compared to the preliminary estimates of the 2022 revenues, our calculations based on the provided figures from the finance ministry showed. The expected revenue growth is in line with the projections for an 11.6% nominal GDP growth for the year, but we think that the revenue forecast needed to be more conservative against the background of the ongoing domestic and global economic slowdown. Total revenues will represent 37.7% of GDP in 2023, down from the estimated 39.2% of GDP in 2022, and will then increase to 38.2% of GDP in 2024. The revenues will rise entirely on the back of tax revenues, while non-tax revenues are expected to decline by 7.1% y/y and grants - by 14.2% y/y.
The cabinet expects a positive effect of BGN 1.3bn for the budget from its planned measures to rai
se tax collection and fight tax evasion for the period 2023-2024. The forecast for an increase in the revenues relies excessively on tax collection improvement, which might turn out risky for the planned revenues, in our opinion. The increase in the budget revenues will also be largely driven by the administrative hikes of the minimum and public sector wages, as well as by the inflationary pressures, and not so much by a real development of the economic sectors, in our view. Revenues from all the main taxes and social insurance contributions are expected to be on the rise, supported by the 9.9% y/y hike of the minimum wage to BGN 780 as of Jan 1, the increase of teacher wages to 125% of the average wage, as well as the hike of the minimum insurance income for agriculture farmers and self-employed to BGN 780 as of Aug 1. The maximum insurance income will stay at BGN 3,400.
In terms of tax policy, the government abstained from any significant changes and kept the differentiated 9% VAT rate on catering, tourism, sport facilities, bus transport, books, baby food and diapers. It decided only to raise the rate on electricity and gas prices back to the standard 20% rate as of Jul 1, which should boost revenues as of 2024. We recall that the rate for these goods and services was cut from the standard 20% to 9% in the past few years as an anti-crisis measure by the former GERB and WCC-led governments, but the cuts have undermined the budget revenues since then. The VAT tax revenues have been also negatively affected by the increase of the VAT registration turnover threshold for companies from BGN 50,000 to BGN 100,000 (the loss for the budget is estimated at BGN 110mn for 2023), and the restricting measures on imports from Russia as part of the sanctions against Russia (with an estimated BGN 520mn loss of VAT revenues from imports), the finance ministry said. Revenues from indirect taxes are expected to rise by 8.7% y/y to BGN 25.6bn. The excise on tobacco and nicotine-containing liquids for electronic cigarettes was raised as of Mar 1, 2023, and its positive effect on the excise revenues is estimated at BGN 494.5mn for the entire 2023-2025 period.
The direct tax revenues are planned to rise by 17.1% y/y to BGN 11.6bn, driven in particular by a strong 20.0% y/y increase in the corporate tax revenues and by a 14.7% y/y increase in the revenues from income tax. The government decided to introduce some measures to boost tax collection, such as payments of wages and dividends only via banks for some sectors, as well as monthly declaration of the cash balance and other transactions, but we think that some of these measures may raise the administrative burden for the smaller companies and may not be sufficiently efficient in terms of decreasing the shadow economy.
An upside risk factor to the revenues outlook, in our opinion, is related to inflation, provided that it remains stronger than the current forecast. We consider the downside risks to the revenue collection higher, especially in the case of a weaker GDP growth than projected.
Non-tax revenues will decrease by 7.1% y/y to BGN 11.2bn in 2023. Grants are expected to fall by 14.2% y/y to BGN 5.2bn, but as we mentioned, there are downside risks for an even steeper decline in the grants if Bulgaria does not succeed to meet all the requirements to receive the second tranche under the national recovery plan or in the case of lagging implementation of other EU programmes. As we mentioned, the government also expects BGN 669.8mn of additional revenues from dividends from state-owned enterprises, in particular from the Bulgarian Energy Holding (BEH).
Expenditure growth
Total government expenditure will rise by 11.8% y/y compared to the expected execution in 2022, to BGN 74.1bn in 2023, according to our calculations based on the data from the finance ministry. As share of GDP, total expenditure is expected to rise to 40.1% of GDP compared to 40% in 2022 and 41.9% in 2024.
The main discretionary measures on the expenditure side are related to the 12% pension hike as of Jul 1, the 9.9% increase in the minimum wage to BGN 780 as of Jan 1 and the teacher wage hike to 125% of the average wage as of Jan 1, as well as social policy measures. The maintenance costs of state institutions will be decreased by BGN 1.5bn, but the finance ministry noted that wages will not be reduced. On the contrary, public officials who did not receive a wage increase in 2022, will see their wages upped by 10% as of July. The effect from the increase in the minimum wage and the wages of public employees amounts to BGN 269.8mn in 2023, and from the increase in the teacher wages - to BGN 465mn in 2023. The minimum wages of doctors and nurses will be raised to BGN 2,000 and BGN 1,500, respectively. We note that salary hikes in the education sector have become priority of the previous GERB government. The tradition continues with the 2023 budget bill, motivated with the necessity of securing sufficient interest among young people towards the teaching profession after decades of keeping very low wages in the sector, which had led to the leaving of many teachers and a deterioration in education quality, in our view.
The strong 22.6% y/y increase in spending on pensions, to BGN 19.3bn or 26% of the total expenditure and 10.4% of GDP, is the most noticeable burden on the budget, following the pension increases as of Jul and Oct 2022, as well as by the new 12% pension indexation as of Jul 2023. The Fiscal Council expressed support for increases in the pensioners' incomes, but stressed on the importance of the correlation between those increases and every pensioner's individual contribution to the social insurance system, which should also secure the long-term financial sustainability of the pension system. High spending on pensions will continue to pose a strong challenge for the public finances over the medium- and longer term, in our view, taking into account the demographic crisis and population aging. In regards to the social expenditure, the increase of the poverty line to BGN 504 in 2023 will boost spending on social benefits by BGN 161.2mn in 2023. Conversely, expenditure on electricity subsidies for the business sector will decline by BGN 3,767.8mn in 2023, but they will not be terminated before the end of the year. The maternity leave payment for the second year of a child will be raised from BGN 650 to BGN 780 backdated as of Jan 1. Among the other more significant expenditures are those related to the toll system functioning - BGN 215.7mn in 2023, and municipalities will receive 19.2% y/y increase in revenues, to BGN 3.3bn.
Capital expenditure is projected to rise by strong 47.6% y/y to BGN 8.2bn in 2023 and will range between 4.5% of GDP in 2023 and 6.8% of GDP in 2024. Its increase is related to the rising spending on projects under the national recovery plan, infrastructure projects, as well as defence projects and other EU-funded projects in the new programme period, the finance ministry said.
Mid-term outlook
The new government's mid-term three-year programme does not envisage fiscal consolidation in the next three years and the budget will remain in deficit territory until 2025. The cabinet expects budget deficits of 3.7% of GDP in 2024 and 3.9% of GDP in 2025. The persistent deficits will boost government debt from 23.2% of GDP at end-2023 to 29.1% at end-2025. The government highlighted that the debt-to-GDP ratio will remain far below the ceiling of 60% under the Maastricht criteria, but we think that the deterioration in the fiscal deficit is related to pro-cyclical policies that need some revision. We think that the mid-term budgetary forecast will probably be updated by the end of 2023 to accommodate the volatility in the economic situation and probably address shortcomings of the current framework.