EU-Report Accession Bulgaria

The capacity to cope with competitive pressure and market forces within the Union

The ability to fulfil this criterion depends on the existence of a market economy and a stable macroeconomic framework, allowing economic agents to make decisions in a climate of predictability. It also requires a sufficient amount of human and physical capital, including infrastructure. State enterprises need to be restructured and all enterprises need to invest to improve their efficiency. Furthermore, the more access enterprises have to outside finance and the more successful they are at restructuring and innovating, the greater will be their capacity to adapt. Overall, an economy will be better able to take on the obligations of membership the higher the degree of economic integration it achieves with the Union before accession. Both the volume and the range of products traded with EU Member States provide evidence of such integration.

Bulgaria has achieved a sufficient degree of macroeconomic stability and market mechanisms are working sufficiently to allow a more efficient allocation of resources. However, further progress is needed on the efficiency of the public service and the legal enforcement of property rights so that economic agents can make decisions in a climate of stability and predictability.

Further efforts are needed to increase the efficiency and the quality of education. Demographic decline and insufficiencies in the management of resources indicate a need for further improvements in the efficiency of spending on education. Overall, Bulgaria has a well-educated and trained workforce. In 2001, according to the Labour Force Survey, 16% of the working-age population had tertiary education, 46% had secondary education and 38% had primary or lower levels of education. Of those having upper secondary education, only 34% had a secondary vocational education. At the age of 18, less than half of the students remain in education, and at the age of 19 less than a third. For those low-skilled (less than upper secondary education) the unemployment rate in 2001 was a particularly high 34%. While Bulgarians usually score high in international surveys on mathematics and natural sciences, this is less so for social sciences. The shortage of corporate management skills and a properly trained judiciary and public administration adversely affect the performance of the economy and its competitiveness prospects. Expenditure on active labour market policies is currently about EUR 50 million (0.34% of GDP), of which somewhat less than half is for recruitment subsidies for disadvantaged groups, a quarter each for support to self-employed and temporary job schemes, and 5% for training measures. The government has also introduced tax incentives for employers who finance training for their employees. Total expenditure on research and development was 0.6% of GDP in 1999, of which about 20% was spent by the business sector.

Renewal of the private and public capital stock is progressing, although from a low starting level. High investment growth, supported by relatively low interest rates, has increased the ratio of gross fixed capital formation to GDP from 10.6% in 1997 to 17.8% in 2001. However, this ratio is still too low to support continued high growth and catching-up. Net inflows of foreign direct investment (FDI) had an important role in private capital formation since it was above 4% of GDP in all years, peaking at almost 8% in 2000, and FDI related to greenfield investment was higher than FDI related to privatisation in all years except 1997. Accumulated FDI inflows from 1997 to 2001 were rather high at 430 per capita. However, FDI inflows were fairly low in the first quarter of 2002, but have been higher again in the second quarter due to the conclusion of several privatisation deals with foreign investors. More than half of total foreign direct investment is channelled into industry; trade, finance and tourism are the next most important sectors.

The quality of infrastructure is low, but slowly improving. The overall quality of transport infrastructure is such that domestic and foreign investors see it as a major problem. Nevertheless, the infrastructure is slowly improving through the efforts of the Bulgarian authorities and the support from EU pre-accession funds. The ratio of general government gross fixed capital formation to GDP varied between 3% and 4% from 1998 to 2001, up from only 1.5% in 1997. The length of motorways has increased from 314 km to 328 km, while the railway network maintained its size. The information and telecommunication structure is improving. The fixed telephone network is making some progress, but its digitalisation is still low at only 17%. The mobile telephone network, with two currently active independent operators and a third license being an option in the ongoing privatisation of the fixed-line telecom monopoly (BTC), has improved rapidly and internet use is growing, albeit from a very low level. Energy infrastructure investment is oriented towards improving quality and connecting networks to neighbouring countries. Local infrastructure, such as streets, sewerage, water supply and schools, is often in a poor state since municipalities have little funds for investment.

Enterprise restructuring has made progress, mostly in the context of privatisation, but restructuring is still unfinished in some sectors. Energy efficiency is still very low. In the electricity sector, the government has adopted a new strategy based on the institutional separation of transmission, generation and distribution. Transmission infrastructure will remain regulated and state-owned, while generation and distribution are being liberalised in order to allow third party access, initially only for clients whose annual consumption exceeds certain thresholds. Privatisation has started for 7 regional electricity distribution companies, and several hydropower plants are being sold. Restructuring is ongoing in the gas sector, coal mines, and district heating companies. There has been further progress in restructuring the steel industry, though several privatised enterprises still depend on soft budget constraints in the form of wage, tax and customs duty arrears. In the telecommunications sector, the privatisation procedure of the telecom monopolist was started in summer 2002 and the fixed-line monopoly is set to expire at the end of 2002, with transitory arrangements still under discussion. In the transport sector, several stateowned enterprises still continuously make losses. On 1 January 2002, the institutional separation of the railway infrastructure and operations was legally completed, which also ended the state monopoly on rail transport.

The structure of the economy is changing at a fast pace. The agricultural sector's share of gross value added has roughly halved, from 26.6% in 1997 to 13.6% in 2001: this is due not only to economic reform, but also to adverse weather conditions in recent years. While the share of industry (including construction) has remained at about 28% in this period, services have expanded from 45.2% in 1997 to 57.7% in 2001. This sectoral shift was much less pronounced in terms of employment, with more than a quarter of the labour force remaining in agriculture, and only some 3% of the labour force shifting from industry into services.

Small and medium-sized enterprises (SMEs) have not yet developed their full potential for growth and employment. The share of enterprises with less than 250 employees accounted for 35% of the gross value added and for 56% of employment in 1997, and increased to 43% of the gross value added and 65% of employment in 2000. In spite of this positive development, it is still insufficient to compensate for the substantial job losses of large enterprises following their privatisation and restructuring. One explanation is that SMEs tend to suffer from the worst aspects of the often difficult conditions of doing business in Bulgaria, including red tape, corruption and lack of access to finance, information and management skills. Banks often refuse to grant loans to SMEs because they ask overly high requirements for collateral, which is difficult to use due to the shortcomings of the judicial system, and because many firms' accounts do not look promising, since they understate their figures in order to avoid taxes. The government has created a micro-lending scheme and a guarantee fund, but the number of beneficiaries (around 100 by end of April 2002) and the effects on economic development remain very limited.

The state is gradually reducing its involvement in the productive sector. Privatisation and trade liberalisation have been the most important reductions of state intervention. Hidden subsidies in the form of tax and social securities arrears as well as debt to state-owned suppliers have decreased, but still amounted to 1.6% of GDP for tax arrears and 0.7% of GDP for social security arrears. The energy and transport sectors still receive substantial amounts of state aid to cover losses. A new law on state aid, which entered into force in June 2002, provides a good procedural framework for state aid control, but still requires the adoption of clear implementing provisions. The Ministry of Finance has maintained the financial discipline of state-owned enterprises by monitoring closely their use of credits and wage increases. Nevertheless, the state remains responsive to sector-specific requests for protection, for example by introducing up to 40% protective import duties for nitrogen fertilisers as of July 2002. The government also intends to retain golden shares after the privatisation of the tobacco and telecom monopolies.

Trade integration of the Bulgarian economy has increased. The general openness of the economy, measured by trade in goods and services as a percentage of GDP, decreased slightly from 58% (1997) to 56% (2001) for exports and increased from 54% (1997) to 63% (2001) for imports. Bulgaria's most important export product is tourism whose revenues accounted for almost 9% of GDP in 2001. In the course of the abolition of tariffs in the context of the Europe Agreements, the EU has become Bulgaria's most important trading partner, the value of merchandise trade with the EU accounting for more than half of total exports and almost half of total imports. Goods exports consist mainly of ores, petroleum products, pharmaceuticals, perfumes, fertilisers, textiles and clothing, footwear, iron and steel, non-ferrous metals and machinery. Of the EU Member States, Italy, Germany and Greece have become the most important destination for Bulgarian exports, while the most important destinations outside the EU are Russia and Turkey. With the exception of Greece, these countries had rather low economic growth in 2001 and 2002, which partly explains Bulgaria's relatively weak export performance in these years. Reforms were started in 2002 to improve the functioning of customs offices, which lack the administrative capacity required for an open trade policy because of complicated and inconsistent procedures which also led to substantial losses in the collection of VAT and excise duties.

In spite of some real exchange rate appreciation, international competitiveness has not deteriorated. Due to the inflation differential between the euro area and Bulgaria, the Bulgarian lev experienced a real appreciation of more than 7% against the euro in 2000 and of almost 5% in 2001, measured in terms of consumer price inflation. The appreciation of the real effective exchange rate from the beginning of 1998 until the end of 2001 was about 10%. However, since labour productivity increased more than real wages, unit labour costs at the end of 2001 were still below their level at the beginning of 1998.

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