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FACTBOX-Key political risks to watch in Bulgaria

SOFIA, Oct 1 (Reuters) - The European Union’s poorest member state Bulgaria is suffering a deep recession which has slashed incomes and increased unemployment, hitting the popularity of its centre-right government.

The stability of Prime Minister Boiko Borisov’s centre-right cabinet is not under threat in the short term as it enjoys the support of minority rightist parties while backing for its key opposition rival, the Socialists, is still weak.

The economic crisis coupled with hidden deficits revealed in April forced the Balkan country to abandon plans for quick euro zone entry, raised EU concerns about the quality of its statistics and helped send the cost of ensuring sovereign debt against default to an 11-month high in June.

The government needs to deliver results in fighting corruption and organised crime to maintain EU trust and win investor confidence.

Below are the main political risks for Bulgaria:

STALLING RECOVERY

Bulgaria plunged into recession last year when the global economic slowdown scared away foreign investors and forced businesses to halt or significantly cut operations. The economy contracted 5.0 percent in 2009.

Sofia hopes rising exports will bring the emerging economy out of recession this year, but a slow recovery in external demand and a sharp tightening in external commercial credit are likely to keep growth in check.

The government says the economy will grow by 3.6 percent in 2011, but many analysts see slower growth of about 2 percent as the real estate and construction boom which underpinned previous expansion is unlikely to be repeated.

If growth remains weak, tax revenues will be lower than expected and social spending probably higher, scuppering government plans to halve the budget deficit to 2.5 percent of GDP next year and increasing its debt burden.

It may also force the country to seek urgent financing on external markets at high cost or opt for a bailout package from the International Monetary Fund.

The cabinet froze salaries and pensions and cut ministry spending by about 20 percent in 2010, but overall expenditure is projected to be higher as it tries to avoid protests and maintain spending for healthcare and infrastructure.

It plans to maintain tax levels next year and keep spending unchanged to avoid further drops in domestic demand and encourage growth.

What to watch:

- Will growth undershoot government forecasts? This would be unlikely to hit the lev currency as it is pegged to the euro, but could increase the cost of insuring Bulgaria’s debt and make it harder to tap international markets.

- Will the cabinet loosen fiscal policy to maintain its popularity?

- Will it be able to borrow at international markets at an acceptable price or will it be forced to go the International Monetary Fund?

REFORMS, EU FUNDS

The cabinet pledged to overhaul inefficient healthcare and pension systems, but reforms have hit a snag as doctors protested hospital closures and unions threatened strikes over a possible increase of the years of work needed for retirement.

Fear of social unrest and upcoming local and presidential elections next autumn is likely to water down key changes and derail the reform drive.

The use of EU aid improved in the past year but the country had still used only about eight percent of the 7 billion euros available through 2013, mainly due to slow administration and a lack of well-prepared projects.

Discovery of chronic shortcomings and EU fines for irregularities spread fears among public servants who double check projects to avoid mistakes, thus delaying the process.

What to watch:

- Will Bulgaria push ahead with reforms and cut inefficient spending or will popularity concerns delay overhauls?

- Will the government be able to improve EU funds use? Failure to do so is unlikely to move asset prices but may deter foreign investors, slow infrastructure improvement and undermine economic recovery.

- Will the recession limit the government’s ability to co-finance EU-backed projects?

CORRUPTION, CRIME

Corruption and organised crime are still a blight on the Balkan country even 20 years after the fall of communism. Favouritism and a need to grease palms to secure business deals are a deterrent to foreign investors and crimp economic growth.

The government’s efforts to quell organised crime and corruption have been praised by the EU, but it still needs to put corrupt senior officials and mobsters behind bars to prove it is serious.

The government plans to set up two agencies to fight graft and set up specialised courts aimed at speeding up trials against corrupt officials and mafia bosses, but faces resistance from the judiciary.

What to watch:

- Will the government maintain its political will to crack down on corrupt practices? This is unlikely to move markets in the short term but sends an important signal that Bulgaria is becoming an easier place to do business.

For political risks to watch in other countries, please click on [ID:nEMEARISK]

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