Document of The World Bank

Report No: ICR0000871 Public Disclosure Authorized

IMPLEMENTATION COMPLETION AND RESULTS REPORT

(IDA-41310)

ON A CREDIT

IN THE AMOUNT OF SDR 38 MILLION (US$ 55 MILLION EQUIVALENT) Public Disclosure Authorized TO THE

REPUBLIC OF SERBIA

FOR A

FIRST PROGRAMMATIC PRIVATE AND FINANCIAL DEVELOPMENT POLICY CREDIT

Public Disclosure Authorized June 26, 2008

ECSPF Public Disclosure Authorized South East Europe Country Unit (ECCU4) Europe Central Asia

CURRENCY EQUIVALENTS

(Exchange Rate Effective June 26, 2008)

Currency Unit = Serbian Dinar RSD 1.00 = US$ 0.02 US$ 1.00 = 51.39

FISCAL YEAR January 1 – December 31

ABBREVIATIONS AND ACRONYMS

BRA Bank Rehabilitation Agency BSA Bankruptcy Supervision Agency BSD Banking Supervision Department CPS Country Partnership Strategy DDO Deferred Drawdown Option DFID Department For International Development DIA Deposit Insurance Agency DIS Deposit Insurance Scheme DPL Development Programmatic Lending EAR European Agency for Reconstruction EPS Electric power industry of Serbia ESW Economic and Sector Work EU European Union FDI Foreign Direct Investment FSAP Financial Sector Assessment Program FSN Financial Sector Note GoS Government of the Republic of Serbia ICA Investment Climate Assessment ICR Implementation Completion Report MOFE Ministry of Finance and Economy MOFP Ministry of Economy and Privatization of the Republic of Serbia NBS National Bank of Serbia NIP National Investment Plan PA Privatization Agency PFDPL Private and Financial Development Policy Loan PFSAC Financial Sector Adjustment Credit PPFDPC Private and Financial Development Policy Credit PPIAF Public Private Infrastructure Advisory Facility PRSP Poverty Reduction Strategy Paper PSAL Private Sector Adjustment Loan PSN Private Sector Note ROS Republic of Serbia SAC Structural Adjustment Credit SDP Supervisory Development Plan

SOB State-owned Bank SOE State-Owned-Enterprises SPA Sale and Purchase Agreement MTPL Motor Third Party Liability USAID United States Agency for International Development

Vice President: Shigeo Katsu Country Director: Jane Armitage Sector Manager: Fernando Montes-Negret Task Team Leader: Irina Astrakhan ICR Team Leader Irina Astrakhan

SERBIA

First Programmatic Private and Financial Development Policy Credit CONTENTS

Data Sheet A. Basic Information B. Key Dates C. Ratings Summary D. Sector and Theme Codes E. Bank Staff F. Results Framework Analysis G. Ratings of Program Performance in ISRs H. Restructuring

1. Program Context, Development Objectives and Design ...... 1 2. Key Factors Affecting Implementation and Outcomes ...... 3 2.1 Program Performance ...... 4 3. Assessment of Outcomes ...... 7 4. Assessment of Risk to Development Outcome...... 18 5. Assessment of Bank and Borrower Performance ...... 19 6. Lessons Learned...... 20 7. Comments on Issues Raised by Borrower/Implementing Agencies/Partners...... 22 Annex 1 Bank Lending and Implementation Support/Supervision Processes...... 23 Annex 2. Policy Matrix...... 24 Annex 3. Results Indicators ...... 28 Annex 4. Summary of Borrower's ICR and/or Comments on Draft ICR ...... 30 Annex 5. Comments of Cofinanciers and Other Partners/Stakeholders...... 31 Annex 6. List of Supporting Documents ...... 35 MAP

A. Basic Information Programmatic Private and Financial Country: Serbia Program Name: Development Policy Credit (PPFDPC-1) (Serbia) Program ID: P089116 L/C/TF Number(s): IDA-41310 ICR Date: 06/27/2008 ICR Type: Core ICR REPUBLIC OF Lending Instrument: DPL Borrower: SERBIA Original Total XDR 38.0M Disbursed Amount: XDR 38.0M Commitment: Implementing Agencies: Privatization Agency of the Republic of Serbia Cofinanciers and Other External Partners:

B. Key Dates Revised / Actual Process Date Process Original Date Date(s) Concept Review: 04/08/2005 Effectiveness: 12/23/2005 12/23/2005 Appraisal: 09/12/2005 Restructuring(s): Approval: 12/06/2005 Mid-term Review: Closing: 03/31/2006 03/31/2006

C. Ratings Summary C.1 Performance Rating by ICR Outcomes: Satisfactory Risk to Development Outcome: Moderate Bank Performance: Satisfactory Borrower Performance: Satisfactory

C.2 Detailed Ratings of Bank and Borrower Performance (by ICR) Bank Ratings Borrower Ratings Quality at Entry: Satisfactory Government: Satisfactory Implementing Quality of Supervision: Satisfactory Satisfactory Agency/Agencies: Overall Bank Overall Borrower Satisfactory Satisfactory Performance: Performance:

i C.3 Quality at Entry and Implementation Performance Indicators Implementation QAG Assessments Indicators Rating: Performance (if any) Potential Problem Quality at Entry Program at any time No None (QEA): (Yes/No): Problem Program at any Quality of No None time (Yes/No): Supervision (QSA): DO rating before

Closing/Inactive status:

D. Sector and Theme Codes Original Actual Sector Code (as % of total Bank financing) General finance sector 44 44 General industry and trade sector 44 44 Mining and other extractive 4 4 Power 4 4 Railways 4 4

Theme Code (Primary/Secondary) Legal institutions for a market economy Secondary Secondary Other financial and private sector development Secondary Primary Regulation and competition policy Primary Secondary Standards and financial reporting Secondary Secondary State enterprise/bank restructuring and privatization Primary Secondary

E. Bank Staff Positions At ICR At Approval Vice President: Shigeo Katsu Shigeo Katsu Country Director: Jane Armitage Orsalia Kalantzopoulos Sector Manager: Lalit Raina Gerardo M. Corrochano Program Team Leader: Irina Astrakhan Michael Edwards ICR Team Leader: Irina Astrakhan ICR Primary Author: Hiran Herat

ii F. Results Framework Analysis

Program Development Objectives (from Project Appraisal Document) The objective of PPDPC-1 is to support Government of Serbia#s (Government or GoS) actions in two broad areas: (i) strengthening the fiscal discipline in enterprise, energy and transport sectors, and attracting foreign direct investment (FDI); and (ii) building a more efficient and stable financial sector and improving the investment access to finance.

Revised Program Development Objectives (if any, as approved by original approving authority) N/A

(a) PDO Indicator(s)

Original Target Formally Actual Value Values (from Revised Achieved at Indicator Baseline Value approval Target Completion or documents) Values Target Years Reduction of MOE subsidy program to socially-owned enterprises as reflected Indicator 1 : in the state budget Value (quantitative or CSD 5 billion CSD 3.85 billion N/A CSD 3.85 billion Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments Objective fully met. In the following years MOE subsssidy continued to (incl. % decrease in the budget allocations to CSD 3.22 billon in 2007 and CSD 3.09 achievement) billion in 2008 Indicator 2 : Private sector share in employment Value (quantitative or 54% 56% N/A 58% Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments By early 2008 the share of private sector in employment reached 61% (incl. % (estimate) achievement) Indicator 3 : Private sector share in GDP Value (quantitative or 50% 52% N/A 55% Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments (incl. % Target fully met. By end 2007 private share in GDP exceeded 55% (estimate) achievement) Indicator 4 : Budget support to railway sector considerably reduced (as % of GDP) Value (quantitative or N/A 1% N/A 1% Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005

iii Comments Target fully met, by end 2007 budget support was further reduced to 0.5% of (incl. % GDP achievement) Indicator 5 : The government ownership stake in the banking sector reduced Value (quantitative or 35% 25% N/A 23.9% Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments The target fully met. In the following years the government continued (incl. % successful reforms in the banking sector, the state ownership stake in the achievement) banking sector was further reduced to 14.8% by end 2006. Indicator 6 : The government ownership stake in the insurance sector reduced Value (quantitative or 74.2% 70% N/A 67.62% Qualitative) Date achieved 12/31/2004 12/31/2005 12/30/2005 12/31/2005 Comments The government ownership stake in the insurance sector was further reduced to (incl. % 30.8% by end 2007 achievement)

(b) Intermediate Outcome Indicator(s)

Original Target Actual Value Formally Values (from Achieved at Indicator Baseline Value Revised approval Completion or Target Values documents) Target Years The Privatization Agency offered for sale not less than 18 SOEs and sold at Indicator 1 : least 9 of them through the tender program Value Offered for sale Offered for sale 23, (quantitative or 0 N/A 18, sold 9 sold 9 Qualitative) Date achieved 12/31/2004 12/31/2005 12/30/2005 12/31/2005 Comments Target fully met, 50 additional enterprises sold through tenders by February (incl. % 2008 achievement) The Privatization Agency offered for sale through auctions not less than 180 Indicator 2 : SOEs and sold at least 40% of them Value Offered for sale Offered for sale (quantitative or 0 180, sold at least N/A 183, sold 131 Qualitative) 40% (71.5%) Date achieved 12/31/2004 12/31/2005 12/30/2005 12/31/2005 Comments The target was outperformed by 82%. Additional 572 enterprises were sold (incl. % through auctions by February 2008 achievement) The Privatization Agency offered for sale not less than 8 SOEs from the list of Indicator 3 : enterprises undergoing restructuring, using all applicable methods, and sold at least 3 of them

iv Value (quantitative or 0 3 N/A 4 Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments The target was outperformed by 33%. Additional 23 enterprises from (incl. % restructuring list were sold by February 2008 achievement) Strengthened Transition Fund mechanism for redundancy payments of Indicator 4 : employees of socially owned enterprises (allocation in CSD) Value (quantitative or 0 CSD 4.5 billion N/A CSD 4.5 billion Qualitative) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments Target fully met, budget allocation for 2006 increased to CSD 6.5 billion, for (incl. % 2007 - to CSD 9.95 billion achievement) Regulatory framework for mining improved through submission of Indicator 5 : amendments to the Law on Mining to the Parliament Amendments to Amendments to the Value Inadequate legal the Law on Mining Law on Mining (quantitative or N/A framework for mining submitted to the submitted to the Qualitative) Parliament Parliament Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments Target fully met. Later on the Law was adopted and implementation (incl. % regulations were put into place, which improved regulatory framework and achievement) facilitating granting exploratory concessions to international mining companies Zeleznice Srbije (ZS) core staff reduced by 7.2%, services withdrawn from Indicator 6 : 7.5% of the network 1,900 (7.2%) of 1,900 (7.2%) of core staff reduced, Value 26,212 core staff, core staff reduced, services (quantitative or 0 withdrawal from N/A services withdrawn withdrawn from Qualitative) passenger services from 260 km (7.5% 260 km (7.5% of of networks) networks) Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments By end 2007 core staff of ZS was further reduced to 19,400 employees, ZS (incl. % withdrew its passenger services from additional 218 km (6.3%) achievement) The Agency for Deposit Insurance (DIA) offered for sale a majority of Indicator 7 : Vojvodjanska Banka shares Value Majority of shares 99.43% of shares (quantitative or 0 (>50%) offered for N/A sold Qualitative) sale Date achieved 12/31/2005 12/31/2005 12/31/2005 12/31/2005 Comments The DIA successfully continues privatization of remaining state shares in the (incl. % banking sector achievement) Indicator 8 : The DIA initiates privatization of state shares in two majority state owned

v banks The DIA appoints State shares in 4 financial adviser majority owned Sale launched Value for Credy banka banks sold: for at least two (quantitative or 0 and agrees on Jubanka, majority Qualitative) resolution strategy Continental, owned banks for Privredna Novosadska, and Banka Pancevo Niska Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments The target fully met. While the attempts to sell initially proposed banks failed (incl. % after being initiated, other four banks with majority state share were sold. achievement) Insurance sector regulatory framework strengthened by enactment of Indicator 9 : amendments to the Insurance Law Value Inadequate regulatory Amendments to Amendments to the (quantitative or framework for the Insurance Law N/A Insurance Law Qualitative) insurance sector enacted enacted Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments (incl. % Target fully met. achievement) Regulatory framework for mortgage finance strengthened by submitting to Indicator 10 : Parliament draft Law on Mortgage Draft Law on Value Inadequate regulatory The Mortgage Law Mortgage (quantitative or framework for N/A adopted by submitted to Qualitative) mortgage finance Parliament Parliament Date achieved 12/31/2004 12/31/2005 12/31/2005 12/31/2005 Comments The target was outperformed as the draft Law was not only submitted, but (incl. % adopted. achievement)

G. Ratings of Program Performance in ISRs

Actual Date ISR No. DO IP Disbursements Archived (USD millions)

H. Restructuring (if any) Not Applicable

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1. Program Context, Development Objectives and Design

1.1 Context at Appraisal

The proposed Programmatic Private and Financial Development Policy Loan/Credit (PPFDPC) was the first in a series of two programmatic Private and Financial Development Policy Loans (PFDPLs) that were designed to support a multi-year program of assistance to the Republic of Serbia to address key institution building and reform challenges in private and financial sectors. The overall programmatic DPL program aimed to support sustainable economic growth and employment creation in Serbia. Currently, the World Bank is working on a successor operation - PFDPL with a Deferred Drawdown Option (PPFDPL/DDO) - in the amount of $50 million equivalent, aimed at building on the reform foundations set by PPFDPC. The preparation of this project commenced in late 2005 (as a PPFDPL-2), but it experienced delays due to the political developments in 2006-2007, including dissolution of Serbia and Montenegro, adoption of the new Constitution, and Parliamentary elections. The preparation resumed in late 2007 after the new coalition government was formed, when reforms were invigorated, and the Country Partnership Strategy for Serbia for FY08-FY11 was approved.

The Government of Serbia (GoS) was committed to carrying out the envisaged fiscal, financial and private sector related legal reforms, initially launched within the framework of previous Bank supported operations, including the two prior private and financial sector adjustment credits (PFSAC-I and PFSAC-II) and the structural adjustment credits (SAC and SAC-II). While substantial legal and structural reforms were completed under these prior operations, further fiscal adjustment and renewed efforts on structural reforms, such as divestiture of some of the large loss-making SOEs and overall strengthening of the fiscal discipline in enterprise, energy and transport sectors together with a more efficient and stable financial sector supported by the PPFDPC-1, were necessary to bolster macroeconomic stability and lay the foundation for sustainable growth.

The lessons of experience have shown that fiscal discipline promoted restructuring of socially owned enterprises because hardening the budget constraint persuaded all parties - unions, workers, managers - that the existing situation was unsustainable. The GoS continued to provide substantial financial support to public, state-owned and socially- owned companies. The 2005 budget allocated a total of CSD 32 billion to subsidies for non-financial public corporations, representing 7 percent of the total budget expenditure. Major recipients of subsidies included enterprises in the agricultural sector (CSD 11 billion), the railway (CSD 8.5 billion), socially-owned enterprises (CSD 5 billion), and public media (CSD 2.8 billion). In addition to these direct subsidies, companies received a variety of indirect subsidies through un-enforced arrears on utility charges, social contributions, taxes and credits from state-owned banks. The GoS recognized that continued subsidization was unsustainable and that a reallocation of funds from direct subsidies, financing wages and other working capital was essential to finance severance payments, which was expected to help accelerate the restructuring efforts.

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The Government's on-going commitment to the ambitious program for privatizing and restructuring socially-owned enterprises was the sine qua non condition for sustainable growth. Substantial progress had been achieved though auction and tender privatization. Yet, an acceleration of the restructuring of large SOEs was an important challenge. Among the prerequisites to achieving such acceleration were the amendments to the Privatization Law, prescribing new rules for restructuring of debt to state creditors. Furthermore, the implementation of the new Bankruptcy Law was essential to move restructuring ahead. Building the capacity of the Privatization Agency to act as bankruptcy administrator of insolvent state- and socially-owned enterprises was an important priority.

Attracting FDI was another priority on GoS’ agenda. Most of Serbia's FDI since 2001 occurred through privatization of SOEs. An increasing interest by foreign investors in Serbia's mineral resources was expected to bring much needed "greenfield" FDI. To further realize the sector's potential, the GoS planned to undertake reforms to transition the state from a role of owner-operator of mineral assets to that of regulator and sector administrator. In particular, the Government had to: (i) ensure that investors were fairly treated and the envisaged royalties framework was able to attract private investment by adhering to international standards regarding competitive taxation, banking, and customs; and (ii) build the capacity to serve within a regulatory role in accordance with the mining sector's specific requirements.

Acting through the Deposit Insurance Agency (DIA), formerly Bank Rehabilitation Agency (BRA), the GoS as shareholder simultaneously began to strengthen its monitoring of banks and the process of merging and divesting its bank holdings. The first majority state-owned bank was sold in January 2005, and three more followed by the end of 2005. The DIA's offering of financial assets (loans and private enterprise equity stakes) had been similarly delayed, though the first such asset offering was subsequently launched.

In parallel, the NBS initiated a series of steps starting in 2001 to begin to modernize the regulatory and supervisory framework for banks and the insurance sector. Despite progress in aligning banking sector regulations with best practice, the compliance with the Basel Core Principles was still highly unsatisfactory.

Access to medium and longer term finance and high overall cost of financing presented a major challenge for the development of the financial and enterprise sectors in Serbia. In an effort to address these recognized deficiencies, the GoS was preparing a draft Mortgage Law, which was expected to improve existing arrangements for valuing collateral and enforcing mortgages and overall aid in the further development of residential mortgage finance.

1.2 Original Program Development Objectives (PDO) and Key Indicators

On October 31, 2005, the Bank Board approved the Programmatic Private and Financial Development Policy Loan, which became effective on December 23, 2005. The objective

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of PPFDPC-1 was to support Government of Serbia’s (Government or GoS) actions in two broad areas: (i) strengthening the fiscal discipline in enterprise, energy and transport sectors, and attracting foreign direct investment (FDI); and (ii) building a more efficient stable financial sector and improving access to finance. The objectives were to be achieved through reforms carried out by the government which were summarized in two pillars: (i) strengthening the fiscal discipline and (ii) building a more efficient and stable financial sector.

The key indicators of the achievement of the development objectives was the reduction of subsidies so as to facilitate staff redundancies, thereby permitting the restructuring and/or sale of effected state enterprises and public utilities, and minimizing market distortions created by such enterprises. Additionally, the program outcomes were to reduce the government's holdings in the banking and insurance sectors and of financial assets, strengthen the respective regulatory and supervisory regimes, increase access to real estate finance and overall, further improve the investment climate.

1.3 Revised PDO (as approved by original approving authority) and Key Indicators, and Reasons/Justification

The PDO and the key indicators were not revised.

1.4 Original Policy Areas Supported by the Program

Under the PPFDPC, the GoS had successfully completed core policy actions in: (i) strengthening the fiscal discipline in enterprise, energy and transport sectors, and attracting foreign investment; and (ii) building a more efficient and stable financial sector and improving access to finance. To strengthen the fiscal discipline, the GoS reduced subsidies and continued with divestiture of SOEs through privatization and bankruptcy; and pursued reforms in the energy and railway sector. The GoS activities aimed at building more efficient and stable financial sector focused on continued privatization and divestment of state-owned banks and financial assets; strengthening insurance sector regulation and resolution regime; and improving access to finance through the adoption of a mortgage law.

1.5 Revised Policy Areas

Policy Area was not revised

1.6 Other significant changes

None

2. Key Factors Affecting Implementation and Outcomes

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2.1 Program Performance

Tranche 1 – Pre Board Actions Status 1. The Government of the Republic of Serbia has proposed to the Parliament of Conditions met the Republic of Serbia to decrease the direct subsidies to socially-owned enterprises undergoing restructuring from CSD 5 billion, allocated for such purposes in the 2005 State Budget, to CSD 3.85 billion in the 2006 State Budget. 2. The Government of the Republic of Serbia has agreed to make available CSD Conditions met 4.5 billion from the Transition Fund for severance payments to employees of socially owned enterprises, such enterprises having been set forth in the list agreed upon by the Bank. 3. Starting December 1,2004: (i) the Privatization Agency of the Republic of Conditions met Serbia has offered for sale no less than eighteen socially-owned enterprises and sold at least nine socially-owned enterprises through its tender program; (ii) PA has offered for sale through auctions no less than 180 socially-owned enterprises, and sold at least 40 percent of such socially-owned enterprises; (iii) PA has offered for sale no less than eight socially-owned enterprises, or significant parts thereof (i.e., representing no less than 50 percent of the total assets), from the list of enterprises undergoing restructuring, using, as applicable, tenders, auctions and asset sales procedures, and sold at least three socially-owned enterprises set forth in the restructuring list; and (iv) Republic of Serbia-owned or controlled creditors have requested the courts to initiate bankruptcy proceedings for at least 6 large SOEs set forth in the restructuring list. 4. The Government of the Republic of Serbia has submitted to the Parliament of Conditions met the Republic of Serbia amendments to the Law on Mining, satisfactory to the Bank, incorporating a new royalties framework. 5. The Government of the Republic of Serbia has launched an international Conditions met tender to engage a Financial Adviser for Elektroprivreda Srbije, in accordance with terms of references and procedures satisfactory to the Bank. 6. Staff engaged in core ZS activities by 1,900, or 7.2 percent of total ZS core Conditions met staff of 26,212 employed as of January 1, 2005, and ZS and GoS have adopted the 2005 Business Plan. ZS to begin the withdrawal of all passenger services from 7.5 percent of the network (260km), convert them to manipulation lines in 2005 and finalize plans for similar activities through 2009 in the 2005-2009 Strategic Plan. Begin implementation of the approved 2005 business plan, satisfactory to the Bank, pending receipt and acceptance by the MOF and MVI of the new 2005-2009 strategic plan. 7. The Agency for Deposit Insurance (DIA) of the RoS has offered for sale, on Conditions met behalf of the GoS, a majority (i.e. more than 50%) of Vojvodjanska banka shares. DIA has appointed Financial Advisor for Credy Banka and has agreed to recommend resolution strategy for Privredna Banka Pancevo to the DIA Management Board. Binding bids for NPL sale received and recommended to the Commercial Court of Belgrade for approval. 8. Amendments to the Insurance Law have been enacted and are satisfactory to Conditions met the Bank. The NBS examination report for DDOR has been issued and a tender launched for the appointment of a Financial Adviser. DIA has launched a tender for an independent diagnostic audit and restructuring plan for Dunav insurance company. Strategy for MTPL reform has been agreed and a draft law submitted to the Parliament. 9. The Supervisory Review Committee of the NBS Banking Supervision Conditions met Department (BSD) and the Governor of the NBS have adopted the second phase of the Supervisory Development Plan, satisfactory to the Bank, and the NBS BSD has continued its implementation. Implementation has been demonstrated by: (i) revised draft of a comprehensive SOP, satisfactory to the Bank, (ii) risk

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matrices and supervisory strategies for banks examinations completed as of September 30, 2005; (iii) a time-bound corrective action plan to address Basel Core Principles weaknesses identified (iv) for those banks whose deadline for implementation of corrective action measures has expired as of September 20, 2005, the NBS is to verify that provisions have been taken by the deadline specified in the corrective action plan and are reflected on subject banks' financial and regulatory reports; (v) NBS has issued a new regulation, effective January 1, 2006, that requires the examined banks to book NBS directed provisions no later than the end of the quarter of the NBS' issuance of the corrective measures and make necessary changes in regulatory reports. 10. The Government of the Republic of Serbia has submitted to the Parliament Condition met of the Republic of Serbia a draft Law On Mortgage, satisfactory to the Bank.

The ICR does not attempt to evaluate the whole programmatic loan series. Rather, it is aimed at evaluating a single Tranche Credit, which was approved on October 31, 2005 for an amount of US$ 55 million and became effective on December 23, 2005. Achievements under the Loan are detailed in Annex 2.

2.2 Major Factors Affecting Implementation

The preparation of PFDPL was delayed in 2004 due to increased political uncertainty around the presidential and parliamentary elections. At the macro level, the reforms supported by the PPFDPC could have been threatened by ongoing social and political instability in Serbia, where opposition could have weakened the Government's resolve to pursue the reform program. The following policy areas were among the riskiest in terms of exacerbating political and social instability: reduction of longstanding MOE subsidies and reforms in the energy, banking, insurance and real sectors. The reform program was monitored closely and the GoS and the Bank consulted on whether further actions were required to maintain the economy on a sustainable path. Furthermore, in an effort to mitigate the risk, a gradual approach to the reforms' phase was adopted throughout the DPC program. The social risks of the PPFDPC program was also mitigated through the GoS' pre-emptive reforms in addressing the social sector issues, best illustrated with the establishment of the Transition Fund which has successfully reduced the social shock of privatization by offering severance payments to redundant workers, thus facilitating labour shedding before the privatization and increasing the chances for successful transactions. It was recognized that a multi-sector approach of the PPFDPC was rather ambitious and could have been perceived as complex, thus risking timely completion of reforms. The cumulative and irreversible effects of the envisaged reforms validated the approach taken through the DPC program. Risks related to the inter-connectedness of the proposed reforms and the large number of governmental institutions involved in the implementation was mostly mitigated through the MOF, which assumed the role of the overall DPC program coordinator.

The capacity of some public sector institutions to implement an ambitious reform agenda, while much improved over the past few years, remained relatively weak. The execution risks were mitigated through the utilization of continued technical assistance facilities and active coordination of bi-lateral donor funded technical assistance. In particular, this included Bank managed European Agency for Reconstruction (EAR) Grant for

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Privatization, Restructuring and Bankruptcy of State-Owned Enterprises and PHRD grants for preparation of PPFDPC-1 and the follow up PFDPL/DDO projects. Furthermore, support from ongoing and proposed Bank projects in social protection, public sector administration reform, and transport sector further served to mitigate risks.

2.3 Monitoring and Evaluation (M&E) Design, Implementation and Utilization

The MOF was responsible for the overall implementation of the proposed operation and for reporting process and coordinating actions among other concerned ministries and agencies. The Bank monitored actions and reviewed progress of the implementation of the operation, as well as the subsequent actions of the GoS program by using the short term and overall program outcomes outlined in the Policy Matrix. At the same time, the overall status of the GoS program was monitored during follow up missions to determine whether the specific conditions of the operation had changed. In addition, follow up work on the program allowed the Bank to continue the policy dialogue with the institutions involved in the implementation of the program of reform, but also ensured synergies with other donors to avoid conflicting advice to the Government in the policy and technical areas involved in the reforms.

2.4 Expected Next Phase/Follow-up Operation

Based on the success of PPFPDC, the GoS has requested the Bank to support subsequent operations in the form of Programmatic Private and Financial Development Policy Loans (PPFDPL). It should be noted that the preparation for the follow-up operations started in late 2005, but their delivery had to be postponed due to political instability. However, this work resumed in 2007, once the new government had been established. These operations can be expected to build on the success from the PPFDPC. The First Programmatic and Financial Development Policy Loan with Deferred Drawdown Option (PFDPL/DDO) is designed to support the government in advancing its financial, private sector and business environment related reforms (it was pre-appraised in 2007, however, the Board date has been postponed to Fall 2008 due to the most recent Parliamentary elections which took place in May 2008). This PFDPL series is expected to build on the reforms initiated under the earlier Bank-supported operations, such as the three prior private and financial sector adjustment credits (PFSAC-I, PFSAC-II and PPFDPC-I) and the structural adjustment credits (SAC and SAC-II). It is envisioned to be complemented by another DPL operation aimed at supporting Serbia’s National Investment Plan (NIP) with the overall objective to help the Government address systemic public financial management issues. The policy actions set in the PFDPL program will largely conclude the era of fast-track transition reforms in private and financial sectors of the Serbian economy. The development policy lending is complemented by investment lending in the form of regional development projects - Bor Regional Development Project and Resavica Restructuring and Local Economic Development Project (the later under preparation) - aimed at ameliorating past environmental liabilities and facilitating job creation in the regions affected by privatization of large loss-making enterprises: Copper Mining and Smelting Complex Bor and Enterprise for Underground Coal Exploitation Resavica.

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3. Assessment of Outcomes

3.1 Relevance of Objectives, Design and Implementation

The objective of the PPFDPC was to support two policy areas: (i) Strengthen financial discipline by enhancing hard budget constraints in the enterprise sector through privatization or bankruptcy, of large SOEs, and the restructuring of public utilities; and (ii) Build a more efficient and stable financial sector through continuing the divestment of state ownership in the banking and insurance sectors, enhancing prudential supervision of banking and encouraging development of the capital markets. The PPFDPC is fully in line with the goals of the World Bank Group’s assistance to the Government of Serbia (Government or GoS), as outlined in the recently adopted FY08-11 Country Partnership Strategy (CPS), one of the key areas of which includes encouraging dynamic private sector led growth to ensure incomes convergence with European levels.

3.2 Achievement of Program Development Objectives

The achievement of the objectives and outputs is considered satisfactory. The PPFDPC achieved its main objective of structural reforms in the enterprise and financial sectors, thereby fostering private sector-led growth and job creation. The operation contributed significantly to the country’s overall economic stabilization program, by enhancing hard budget constraints in the enterprise sector through privatization or bankruptcy of large SOEs and building a more efficient and stable financial sector through continuing with the divestment of state ownership in the banking and insurance sectors, enhancing prudential supervision of banking, and encouraging development of capital markets.

PILLAR I - Strengthening Fiscal Discipline

The achievement of the objectives and outputs under Pillar I is considered Satisfactory. The CAS at that time identified the strengthening of fiscal discipline as a priority for Serbia's sustainable economic development. The First PFDPC was to improve fiscal discipline through: (i) phasing out of direct and containing indirect subsidies; (ii) accelerating privatization of socially-owned enterprises (iii) effective implementation of bankruptcy legislation; (iv) developing a more robust framework for mining concessions; and (v) continuation of the unbundling and restructuring (workforce and debts) of public utilities.

Policy Area 1.1: Reduction of MOE Subsidy Program and Strengthening of the TF Mechanism

The major recipients of the MOE direct subsidies were among some 80 large socially- owned enterprises that were slated for pre-privatization restructuring by the GoS. The 15 largest subsidy recipients among the companies being restructured between 2001-2004, represented 57 percent of the total subsidy program. Many SOEs survived only because they received new money from the state or state-influenced sources. In 2003, for example, 52 of the largest SOEs posted almost Euro 200 million in aggregate (mostly cash-flow) losses, and their debt increased by more than Euro 150 million.

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The Government actions were focused on two main areas: (i) reduction in the MOE direct subsidies, and (ii) strengthening of a redundancy payment mechanism to compensate surplus labor through the TF, a budgetary item, which received a CSD 5 billion budget allocation in 2005. Between, 2001-2004, the Government reduced the number of employees in the 15 biggest subsidy-receiving socially-owned enterprises from roughly 90,000 employees to 54,000, a total (net) reduction of 36,000. While direct subsidies represented a recurrent burden on the budget, severance payments to redundant employees were a one-time payment which allowed companies to decrease their labor force and wage bill, thus making the reduction in direct subsidies more sustainable.

The Bank also sought to eliminate soft budget constraints by assisting the GoS with restructuring of EPS and NIS in preparation for their eventual privatization. In parallel, the MOE, in cooperation with the tax authorities and main utilities, established a monitoring system for the large SOEs in order to ensure the full enforcement of hard budget constraints and to prevent further accumulation of arrears.

Main achievements. In order to speedup restructuring, the MOE committed to decreasing the direct subsidies to socially-owned enterprises in restructuring from CSD 5 billion in 2005 budget to CSD 3.85 billion in 2006. Secondly, to encourage restructuring and to mitigate social implications of the lay-offs resulting from the decreasing subsidies, the transition fund budgetary allocation in the amount of CSD 6.5 billion (up from the projected tranche release amount of 4.5 billion) was made available in the 2006 budget and CSD 9.95 billion in the 2007 budget. To ensure that severance pay would be used for employees in companies that were most likely to be privatized, a list of such companies for 2006 (including the number of redundancies per company) was agreed upon with the Bank.

It is important to note that the government has continued with gradual reduction of direct subsidies beyond the PPFDPC-1. This policy has resulted in a further reduction of direct MOE subsidy to the SOE, which has steadily decreased to CSD 3.22 billion and CSD 3.09 billion in 2007 and 2008 budgets respectively.

Policy Area 1.2: Privatization, Restructuring, and Bankruptcy of Socially-Owned Enterprises

In the period 2001-2004, the PA, assisted by the Bank and other donors, achieved significant progress in implementing the Government's privatization program. By the end of 2004, 1,130 enterprises were sold (884 in auctions, 35 large enterprises through tenders to strategic investors – mostly foreign, and 208 through capital markets) realizing revenues of EUR 1.35 billion, with investment and social program commitments reaching nearly EUR 750 EUR 280 million respectively. Apart from continued existence of soft budget constraints, the lack of cooperation among state creditors and the absence of effective insolvency regime had been identified as two key obstacles to the resolution of companies in restructuring. At the same time, the credible exit mechanism for un-saleable SOEs had long been absent in Serbia due to historical weakness of the bankruptcy regime, with court procedure lasting for seven years on average.

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After enactment of the new Bankruptcy Law by the Parliament of Serbia in July 2004, the implementation of one of the most important reform regulations started on February 1, 2005. The Law envisaged several bodies in charge of carrying out of the bankruptcy procedure. With the help of technical assistance provided by the Bank and other donors, significant progress was made to create the two crucial institutional pillars of new insolvency regime: (i) the Bankruptcy Supervision Agency (BSA) to license and oversee bankruptcy trustees; and (ii) the Bankruptcy Unit within the PA to act as the bankruptcy administrator of insolvent socially-and state owned enterprises. Another novelty to the privatization process was introduced with the amendments to Privatization Law in 2005 allowing conditional debt-write off for companies in restructuring, resulting in a resolution of a significant number of such enterprises, which were by default very large and troubled entities.

Main Achievements. In the period from December 1, 2004 through September 30, 2005 the PA had not only successfully achieved but also outperformed the set objectives, by offering for sale 23 (target 18) socially owned enterprises through tender procedure and selling 9 of them,, and offering 183 and selling 131 (target 72) through auctions, achieving a success rate of 71.5% in auctions, significantly exceeding the minimum required success rate of 40%. These transactions have ensured revenues of nearly EUR 180 million, and almost EUR 84 million in investment commitments. Further, in addition to achieving the set benchmarks for auctions and tenders, during the same period the PA has also sold 119 enterprises through capital markets realizing almost EUR 117 million in additional revenues. Finally, the conditions related to sales of companies from restructuring center and bankruptcy were also successfully met. Four companies from the restructuring center were sold in this period, while state controlled creditors have requested the courts to initiate bankruptcy procedure for 6 companies from the restructuring list.

The privatization, restructuring and bankruptcy of socially owned enterprises remain on the reform agenda supported by the PFDPL/DDO, where the main targets in this area have already been achieved. Namely, in the period immediately following the PPFDPC, from October 2005 through February 2008, the Privatization Agency has sold additional 50 and 572 enterprises through tenders and auctions respectively, thus fully meeting the successor operation’s requirements.

Overall, over the past six years, the Privatization Agency (PA), assisted by the WB and other donors, has achieved significant progress in implementing the Government’s privatization program. Between 2002 and 1st quarter of 2008, a total of 1,557 small and medium enterprises had been sold in auctions and 89 larger enterprises were sold through tenders, many of them to strategic investors, mainly international ones. The total cash proceeds from SOE privatization amounted to more than Euro 2.7 billion over this period (excluding Mobtel); in addition, new owners came up with nearly Euro 1.2 billion worth of investment commitments. The private sector share of employment reached 61% by end 2007.

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Policy Area 1.3: Concessions Framework for Mining Sector

Mining sector reforms needed to meet a broad objective of developing a set of practical and implemental arrangements that was to assist Serbia in strengthening its legal and institutional framework for increased private investment in the exploitation of mineral ores. To address these issues the GoS had prepared amendments to the Law on Mining and to the Law on Geological Exploration to improve clarity on several matters including: (i) state ownership of mineral resources and authorization to assign mineral rights / licenses to private parties; (ii) role of the state as a regulator within the sector; (iii) administrative frameworks for mines cadastre, mines inspectorate, and other authorizations; and (iv) compliance with mineral rights and laws including royalty, surface fee, and other financial obligations.

To this end, the pending legislation at that time strengthened the fiscal performance of the sector by adhering to international standards regarding competitive taxation, foreign investment, and customs issues unique to mining, and established the framework for the negotiation, assessment, and payment of royalties in a transparent manner. Success in the implementation of these reforms would then be conditional upon sector governance, enforcement of contracts and collection of royalties.

Main Achievements. In the Fall of 2005 the Government had submitted to the Parliament the amendments, to the Law on Mining, satisfactory to the Association, incorporating a new royalties framework. Regulations that define procedures for assessment of annual mineral production, surface and filing fees, royalties and payment procedures, and resolution of disputes and conflicts were put in place.

The amendments were adopted in the Spring of 2006, and ultimately these regulatory reform measures have facilitated granting new concessions in Serbia to international mining companies, and the process of privatizing two large mining complexes (RTB Bor and Resavica) is currently underway. Further, in 2007 alone 41 exploration licenses were renewed and 63 new were granted, confirming the positive impact of the implemented reforms.

The reforms have also continued under the proposed PFDPL/DDO program. The World Bank’s assistance to the Government in developing new regulatory tools has resulted in initial drafting of the Mineral Policy, as well as the new regulatory framework for mining (i.e. new Mining Law). These two documents are currently being reviewed and finalized, and once adopted and implemented they are expected to further strengthen mining sector governance and business environment in general.

Policy Area 1.4: EPS Restructuring

There had been much progress in recent years on energy sector reform, particularly as regards the power tariff reform and development of an enabling framework to support power industry commercialization. Further reform in these two areas was required in order that power industry sustainability - defined as well functioning and providing

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affordable and competitively priced power - was achieved. Power tariffs were increased from USD 0.9 cents/kWh in 2001 to around 4 cents/kWh from July 2004. Going forward, it was important to ensure that power tariffs continued to provide adequate revenues for cost recovery. One means for mitigating the extent of required tariff increases were through commercialization of EPS (the national power company).

In addition, the GoS had agreed to establish a separate power transmission company. The GoS recognizes that this was a first step, and that there were a number of measures relating to restructuring that currently need to be addressed, both to support the participation in the regional energy market, and to strengthen performance incentives with a view to improving payments discipline and reducing costs. The GoS accepted that private sector participation in the power sector could be potentially beneficial in the medium term.

On EPS restructuring, the Bank concurred with the GoS on the need to appoint an advisor to support the process. The Bank’s opinion was that it would not be appropriate to move quickly with the privatization at that time, given the need to build political support. In addition, the required restructuring of EPS was expected to take up to several years to implement. Based on the history of the Region, the time taken from the start of the restructuring to closing of privatization in neighboring countries - Bulgaria, FYR Macedonia, Romania - had been in excess of five years. In the context of the regional energy market, Serbia was obliged to restructure but not to privatize EPS.

Main Achievements. In mid-2005, the GoS had adopted a power tariff increase, acceptable to the Bank, and in conjunction with the tariff increase, the GoS proposed how debt service would be treated, ultimately contributing to EPS’ operational efficiency. Additionally, in 2005 the government had also established a regulatory agency for energy Further, the GoS launched an international tender to engage a restructuring advisor for EPS, in accordance with the terms of references and procedures satisfactory to the Bank. The tender ultimately failed, and EPS hired other international consultants whose recommendations are yet unknown to the Bank.

The challenging reforms in the energy sector have also continued beyond PPFDPC-1, and an independent, single-purpose power transmission company, was established in 2006. The company recorded profits in 2006, but it went into red in 2007 due to revaluation of assets and lower than expected tariffs. In 2007, the regulatory agency developed, and the government approved, transparent rules for setting cost-recovery tariffs in 2007. While electricity tariffs are still moderately trailing full cost-recovery levels, under the proposed PFDPL/DDO, the Bank is assisting the government in developing a plan for gradual annual tariff adjustments in order to reach cost-recovering tariffs for power and gas by 2010.

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Policy Area 1.5: Railway Sector

The railway sector component of the First PPFDPC was to focus on facilitating the institutional changes necessary to reform the sector, encompassing labor retrenchment, network rationalization and the divestiture of non-core activities. This component was to build on the recent passage of the railway law, and a production of a new 5 year restructuring plan for Zeleznice Srbije (ZS), to achieve an agreed reduction in the number of core ZS staff, the attainment of the conversion of an agreed proportion of the network to 'manipulation’ status as a step on the path to closure, and the commencement of the divestiture of non-core activities. As to railway line closures, ZS had committed to withdraw services and convert 7.5 percent of the network to manipulation status immediately, and convert a further 6.3 percent of the network by the end of 2005 if service specific subsidy was not achieved.

As it regards the divesture of non-core activities, the management of ZS had commenced the process of divesting all non-core activities, through the establishment of 14 wholly- owned subsidiary companies, offering services as diverse as travel agency, housing, import-export services to engineering consultancy. This process was expected to continue by offering the separated businesses for sale to private investors in an open and transparent process beginning in late 2005. The core of the proposed reform in the railway sector encompassed the new Railway Law and associated decree on the reorganization of ZTP as was, the former of which became effective on March 1, 2005. A new railway entity, Zeleznice Srbije (ZS), was established, to which the operating assets of ZTP were transferred. A Railway Directorate was formed to license infrastructure managers and train operators.

Main Achievements. The following benchmarks were achieved under the Credit:

(i) A reduction in core ZS staff by 1900 or 7.2% from a cadre of 26,212 as of January 1, 2005, and ZS and GoS had adopted the 2005 Business Plan. Based on the 2006-2010 Business Plan a further reduction of staff has taken place, consistent with the end 2007 figure of 19,400. (ii) ZS begin the withdrawal of all passenger services from 7.5 percent of the network (260km), and converted them to manipulation lines in 2005 and finalized plans for similar activities in the 2006-2010 Strategic Plan. The withdrawal of passenger services on 543 km of lines, some 14 percent of the network has been achieved to date. (iii) ZS and GoS formally adopted the 2005 Business Plan, and the 2006-2010 Strategic Plan.

In addition, the following were achieved: (i) the divestiture or closure of all non-core activities, through the establishment of 14 subsidiary companies, offering services as diverse as travel agency, health care, housing, import-export services, employment for disabled persons, to an engineering consultancy selling services to clients. Nine were transferred to the government in 2005, and seven were passed subsequently to the Privatization Agency. The remaining five are reported to have low commercial value –

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and are to be transferred to other bodies or closed down; and (ii) the closure of passenger booking facilities at over forty stations.

Reform has continued in the sector, assisted by support from the Public Private Infrastructure Advisory Service (PPIAF), with the definition of a methodology for a track access regime and a common network statement, and within the preparation of new investment project (now scheduled for the approval of the World Bank Board in FY09). Accounting separation of infrastructure and operations within ZS has been introduced, with effect from January 1, 2006, the Railway Directorate, the regulator for the sector has been operationally established, and a Public Service Obligation regime, for the transparent estimation and transfer of operating subsidy for passenger services is being prepared for introduction at the end of 2008, for the new timetable year.

PILLAR II - Building a More Efficient and Stable Financial Sector

The achievement of the objectives and outputs under Pillar II is considered Satisfactory. Beginning in 2001 the authorities set out to deal with the critical condition of the Serbian banks. Given the inability of the budget to re-capitalize the most seriously distressed banks, and the likely negative franchise value of most such banks, some 25 insolvent banks (representing nearly two-thirds of the assets of the banking system) were closed between 2001 and 2003. Both the banking and the insurance sectors had witnessed substantial consolidation in the past few years, as the number of banks in Serbia has been reduced from 86 (2001) to 34 (end-April 2008) while the number of insurers has been reduced from 43 to 21 (6 of which were greenfield licenses) in the same period. In parallel, the authorities initiated a series of steps to modernize the regulatory framework for banks and the insurance sector.

Serbia's banking sector, however, was not confined to the state-owned banks. More specifically, the 2004 FSN analysis demonstrated that none of the local banks scored unambiguously well on a mix of effectiveness, regulatory or loan-quality indicators. This gave rise to the major concern that some of the larger local private banks (of which a number were minority-owned by the government) were storing up future problems by lending on unsustainable terms that would result in the future deterioration of asset quality. A major credit risk was also foreseen by the foreign exchange clause on virtually all CSD-denominated loans, which could have lead to a sharp deterioration in banks asset quality in the event of a marked depreciation of the exchange rate.

Policy Area 2.1: Resolution of State-Owned Banks (SOB) and Divestment of Financial Assets (Non-Performing Loans and Equities)

In the second semester of 2004 the government, (then) majority and minority shareholder in 16 banks, had began the process of divesting its holdings in the sector through the DM. The process of divestiture of the SOB holdings was well underway, suitably resourced and managed. In January 2005 the first state-owned bank, Jubanka, was successfully sold to a Greek Alpha Bank, while three more state-owned banks were also successfully divested by the end of 2005 (Continental Bank to Slovenian NLB Bank, Novosadska

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Bank to Austrian Erste Bank, and Niska Bank to Hungarian OTP Bank). The total revenues from these 4 transactions in 2005 amounted to EUR 288.7 million.

After a rather protracted start, the GoS, acting through the DIA, started consolidating and divesting its bank holdings. As well, utilizing a World Bank grant facility and coordinated bi-lateral assistance from three countries, the DIA had substantially expanded its capacity to monitor banks' performance and prepare banks for sale. The agency and its financial advisors developed a Sale and Purchase Agreement (SPA) contract complying with the Serbian law to use as a template for subsequent bank sales. The progress recorded in early 2005 in organizing the first tenders for the divestment of banks had been excellent. Equally, the DIA had taken numerous steps to further strengthen its oversight and control of the remaining state-owned banks and organize its first sale of financial assets.

Main Achievements. The bank financial asset divestment strategy supported under the First PPFDPC included the following key elements: (a) The Agency for Deposit Insurance (DIA) of the Republic of Serbia had offered for sale, on behalf of the Government of the Republic of Serbia, a majority (i.e., more than 50 percent) of Vojvodjanska banka shares (99.43% of shares have been sold); (b) DIA had appointed Financial Adviser for Credy Banka and had agreed to recommend resolution strategy for Privredna Banka Pancevo to the DIA Management Board; 4 majority state owned banks were successfully privatized in 2005 (Jubanka, Continental, Novosadska, and Niska) and (c) binding bids for NPL sale were received and recommended to the Commercial Court of Belgrade for approval. The sale was completed in late 2005.

In the past several years the Government of Serbia (GoS) and the National Bank of Serbia (NBS) have made significant progress through the resolution of a number of insolvent banks and insurers, the divestment of most of its banking sector holdings and strengthening the regulatory regime underlying the banking, insurance and more recently, the securities sectors. Building on the achievements of the PPFDPC-1, the measures under the PPFDPL envisage development and approval of the resolution Strategy for banks and insurance companies with ROS ownership, as well as securing funding for initial capitalization of Deposit Insurance Scheme (DIS). As a result, the government has retained majority interest only in 5 banks and its share in the banking sector decreased to 23.9% at end 2005. The privatization reforms continued beyond 2005, and the government holdings in the banking sector further declined to 14.8% at the end of 2006. Finally, through implementation of the 2004 Insurance Law, the 2005 Banking Law and Leasing Law and most recently through the 2006 Securities Act, Take-Over Act, and Accounting and Revision Act, the financial sector is better regulated and less vulnerable.

Policy Area 2.2: Strengthening Insurance Sector Regulation and Resolution Regime

In recognition of the fact that the Serbian insurance regulatory and supervisory apparatus was transitioned to the NBS in mid-2004 through passage of a new law, the insurance sector was being re-established going forward within a more healthy governance environment. The NBS as the new insurance supervisor, with its substantial experience in the banking sector, had already taken vigorous actions to address the more egregious

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issues facing the industry through the closure of eighteen insurers. There were three urgent issues that needed to be addressed in the insurance sector, the first two of which emerged from the closure of a substantial number of insurers. These were (i) the definition, management and handing of claims incurred by the closed insurers; (ii) motor third party liability (MTPL) claims in particular; and (iii) the process of resolution of the closed insurers; and the disposition and restructuring of the two state-owned insurance companies.

The key short term issues required of the GoS involved setting the scene for the reforms that would underpin the tranche release. One of these, the commencement of technical assistance to develop a strategy and formulate law to put MTPL onto a sound long-term footing, had commenced. The others related to sector restructuring and included the commencement of a detailed on-site inspection of DDOR Novi Sad, one of the two large state-owned insurers, production of audited accounts for the two state-owned insurers using current accounting standards, and the submission of law amendments to the Parliament to enable the DIA to commence liquidation for the 18 recently closed insurers.

Main Achievements. These included the following: (i) the amendments to the Insurance Law was enacted, and deemed satisfactory to the Bank; (ii) the NBS examination report for DDOR had been issued and a tender launched for the appointment of a Financial Advisor; (iii) DIA had launched a tender for an independent diagnostic audit and restructuring plan for Dunav insurance company; (iv) the strategy for MTPL reform had been agreed but the submission to the parliament of the draft law was delayed. In particular, the insurance sector reforms to be addressed under this pillar of the First PPFDPC included: Specific Administration and Wind Up Procedures to be in place through amendments to the insurance law and in accord with new Bankruptcy Law and consistent with relevant EU Directives and international assessment standards Core Principals.

Other achievements supported by the follow-up PFDPL/DDO operation have included the successful privatization of DDOR to Italian Fondiaria at the end of 2007, and progress with the implementation of Dunav’s institutional development plan. These actions reduced the government share in the insurance sector to 30.84% at the end of 2007. The work on drafting and adopting the new MTPL Law continues under the PFDPL/DDO.

Policy Area 2.3: Second Phase of the Supervisory Development Plan (SDP)

Banking sector regulation and supervision had been one of the key areas targeted since the inception of the Serbian reform program. Initial steps by the NBS to close 23 banks in 2001, including the 4 largest domestic banks at the time, started a process of banking sector reform and restructuring. At the heart of this reform was the acknowledged need to strengthen bank supervision processes, which had lost considerable ground in the prior decade. At the initiative of the NBS and as a part of the previous World Bank PFSAC-I and PFSAC-II programs, objectives for regulatory and supervisory reform were established, in part, through the development of a Supervisory Development Plan (SDP). A new, revised SDP was being finalized to address continuing needs and introduce

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further, risk based tools and processes. The rapidly growing large private banks and two large and systemically important state-controlled banks were to be priority candidates for early on-site examinations to determine whether their high loan growth rates (most of which were foreign exchange linked) were compromising asset quality or putting at risk longer-term capital adequacy. To this end, enforcement capacity of the NBS Supervision Department was slated to be further improved through the implementation of the second phase of the SDP.

As a result of the relatively uneven implementation of supervisory processes, the NBS agreed with the need for a time-bound, prioritized "second phase" SDP. This follow up on SDP was intended, in part, to identify steps to accomplish key tasks to implement risk based supervision and to elevate those supervisory areas still requiring management attention. Overarching this initiative, the NBS in collaboration with the MOF was to draft the new Law on Banks and Banking. Upon seeking comments from the industry, public, the World Bank and IMF, it was envisaged that the new law would be introduced to Parliament in late 2005. The introduction of new Law on Banks and Banking was in line with the recommendations of the FSAP mission and was an IMF structural performance criterion for mid-November 2005.

Finally, the supervisor needed to continue its efforts in evaluating the results of and differences between the year-end audited financial statements and bank examinations to determine divergence in reporting, particularly in the area of required loan loss provisions and accuracy of financial reporting. Action plans addressing, inter alia, issues of inaccurate financial reporting and capital inadequacy, bank internal control systems, and board and management responsibility for such, needed to be prepared, reviewed by the subject bank(s), and approved and signed by both parties.

Main Achievements. The NBS adopted a comprehensive "second phase" SDP which was to reinforce the importance of key supervisory activities requiring NBS management attention. The updated SDP was to also elevate expectations for a sound, increasingly risk based supervisory approach demonstrated by: (i) revised draft of a comprehensive SOP, which was satisfactory to the Bank; (ii) risk matrices and supervisory strategies for banks examinations completed as of September 30, 2005; (iii) a time-bound corrective action plan to address Basel Core Principles weaknesses identified; (iv) for those banks whose deadline for the implementation of corrective action measures had expired as of September 20,2005, the NBS verified that provisions had been taken by the deadline specified in the corrective action plan and were reflected on subject banks' financial and regulatory reports; (v) NBS had issued a new regulation, effective January 1, 2006, that required the examined banks to book NBS directed provisions no later than the end of the quarter of the NBS' issuance of the corrective measures and make necessary changes in regulatory reports.

The 2005 Law on Banks and related by-laws issued have addressed many of the regulatory issues cited in the 2005 FSAP report and equally, some of the overarching recommendations of the updated Supervisory Development Plan (SDP). Work on SDP has continued even after the project completion, and is presently supported under the PFDPL/DDO program. Recently the NBS amended its asset classification methodology

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and issued an important new regulation for the minimum content of banks’ external audits.

Policy Area 2.4: Access to Finance

Improving access to finance had been an important component of prior structural adjustment operations, which resulted in significant increases of consumer (and to a lesser degree, corporate) lending. Further, the legal framework for creating and enforcing security agreements had been markedly improved. As well, the GoS had begun work on the establishment or development of the key institutions for the implementation of the Pledge Registry and Real Estate Cadastre. In addition, a new Credit Bureau was operating, demonstrating the willingness of major lenders to cooperate amongst its members in making borrower data available. However, the last piece in the framework for secured lending, the Mortgage Law, was not in place.

In Serbia, mortgages on buildings were the most frequently requested type of collateral and accounted for approximately 45 percent of all bank collateral in year 2003. The institution of mortgages was stipulated by only a few provisions of the Law on the Principles of Property Relations. Because of weaknesses in the legal framework and lack of experience with the execution procedures, banks often require collateral and other forms of security in addition to a mortgage to limit their credit risk (multiple guarantors, non-real estate collateral, direct salary deduction for loan payments, bills of exchange, etc.).

There was an urgent need to reform the mortgage-based lending system owing to: the lack of adequate legal and regulatory framework; the absence of the efficient supporting administration, i.e. real estate registration; and the absence of secondary market mechanisms. Even though a few foreign-owned banks had begun providing mortgage lending for residential flats, most domestic banks lacked the ability to attract, and thus, offer long-term funding, which precludes their entry into mortgage lending. The GoS had established the National Mortgage Insurance Corporation of Serbia (NMICS) which assumed the major part of the credit risk in mortgage lending. The NMICS provided mortgage guarantee insurance, and once operational, could act as a secondary market maker.

Main Achievements. In an effort to address these recognized deficiencies, the GoS prepared a draft Mortgage Law which regulated contracting and registration of mortgage, as well as the settlement of a mortgage creditor. The major aim of the law was to improve the efficiency of mortgage creation and enforcement, which was a well-known problem in Serbia, and which inhibited development of the secondary mortgage markets and mortgage securities. The draft law also needed to address the issue of the registration of mortgages that were not included as yet in the real estate cadastre. Specific task under this pillar of the PPFDPC-1 was to be the submission to Parliament of the draft Mortgage Law, satisfactory to the Bank. The Mortgage Law was adopted by Parliament.

3.4 Justification of Overall Outcome Rating Rating: Satisfactory

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The overall rating of the outcome is satisfactory, based on the achievements listed above. Under the PPFDPC, the GoS successfully completed core policy actions. To strengthen the fiscal discipline, the GoS reduced subsidies and continued with divestiture of SOEs through privatization and bankruptcy; and pursued reforms in the energy and railway sector. Government activities aimed at building more efficient and stable financial sector focused on continued privatization and divestment of state-owned banks and financial assets; strengthening insurance sector regulation and resolution regime; and improving access to finance through the adoption of a mortgage law

3.5 Overarching Themes, Other Outcomes and Impacts

(a) Poverty Impacts, Gender Aspects, and Social Development

In the longer term, the PPFDPC is expected to improve the capacity of the Government to reduce poverty through several channels. First, implementation of measures aimed at strengthening fiscal discipline-through enhancing hard budget constraints and reducing subsidies will not only improve resource allocation and the country's growth prospects, but also reduce the risk of macroeconomic shocks, which can adversely affect the living standards of the poor. Second, reform measures directed at improving the business climate will create the basis for investments needed for medium-term growth and employment creation, and thus for more sustained poverty reduction. Third, policy efforts aimed at building a more efficient and stable financial sector will underpin economic growth and increase the resilience of the Serbian economy to potential adverse shocks-both of which are prerequisites for increasing employment and reducing poverty. The poverty rate has halved in Serbia between 2002 and 2007, to 6.6% of population (or approximatelly 490 thousand people.)

(b) Institutional Change/Strengthening

The capacity of some public sector institutions to implement an ambitious reform agenda, while much improved over the past few years, remained relatively weak. The execution risks were mitigated through the utilization of continued technical assistance facilities and active coordination of bi-lateral donor funded technical assistance. Furthermore, support from ongoing and proposed Bank projects in privatization, social protection, public sector administration reform, and transport sector further served to mitigate risks and strengthen public sector institutions.

(c) Other Unintended Outcomes and Impacts N/A

3.6 Summary of Findings of Beneficiary Survey and/or Stakeholder Workshops

N/A

4. Assessment of Risk to Development Outcome Rating: Low

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There is a low risk that the outcomes (or expected outcomes) will not be maintained or realized due to the following reasons: (i) the reforms supported by the Credit, such as privatization of state owned banks, liquidation of insolvent banks, and restructuring and privatization of SOEs are irreversible; (ii) the government is committed to complete the privatization and restructuring program of SOEs implemented by the Privatization Agency by the end of 2008; (iii) the DIA has developed a bank strategy, which will define the resolution strategy for the remaining four small state-owned banks; (iv) with the sale of DDOR to Fondiaria (Italy) in late 2007, Dunav remains the only government- owned insurance company and is expected to be privatized. In addition, the proposed PFDPL/DDO starts a new series of programmatic development policy loans, which will ensure further support to the government’s reform agenda in private and financial sectors initially supported by the PPFDPC-1. Progress in advancing the reforms supported by the PFDPL/DDO has been strong and accompanied by progress on the broader government’s reform agenda to accelerate growth, boost inflows of foreign direct investment and accelerate the country’s EU accession. Specifically, seven of the nine prior actions for the PFDDPL/DDO have been completed and the implementation of two others is in progress.

5. Assessment of Bank and Borrower Performance

5.1 Bank Performance

(a) Bank Performance in Ensuring Quality at Entry Rating: Satisfactory

The First PPFDPC provided guidance and support to the Government at a crucial stage in the reform process. The reforms carried out under the operation were essential to the goals of the Government as articulated in the CAS. Bank performance was excellent in the preparation of the Project. First, preparation was extremely timely and swift, allowing for an almost seamless transition from PFSAC I and PFSAC II. Second, the project built directly on the success of the previous operation--pursuing deeper reforms in the same key areas. The project design was also exemplary in that the policy measures were highly specific, ambitious, but achievable, and based on a significant policy and technical dialogue with the client. The success of this operation hinged upon the Bank team building strong working relationship with the government counterparts at both policy and technical agency levels.

(b) Quality of Supervision Rating: Satisfactory

Due to the nature of the project (single Tranche), there was no supervision activities carried out. However, the Bank team has been monitoring the reform progress through working with the GoS on the preparation of the next programmatic loan, which started immediately upon the delivery of PPFDPC-1 to the Board. The on-going technical assistance for reform implementation has been provided under the EAR Grant for Privatization, Restructuring and Bankruptcy of State-Owned Enterprises and PHRD grant for the new loan preparation.

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(c) Justification of Rating for Overall Bank Performance Rating: Satisfactory

Overall, Bank performance is rated as satisfactory. The Bank worked closely with the Borrower to provide technical advice on achievement of the established benchmarks and ensure that all conditions required for the release of the Tranche were met in a timely fashion.

5.2 Borrower Performance

(a) Government Performance Rating: Satisfactory

The Government demonstrated an exceptional level of commitment to its overall reform program. It demonstrated this through broad and active participation of the various agencies in preparation of the PPFDPC-1. Key counterparts were the MOF, MOEP, NBS, BRA/DIA, and PA. During the preparation, there was an also high degree of cooperation between the Bank and government counterparts in identifying the specific conditionalities to be supported under the loan. In particular, the same agencies and staff members who carried out the policy reforms under the earlier Bank projects, brought to bear their knowledge and experience in planning the second operation. This experience proved extremely valuable, as the individuals were familiar not only with the overall goals and priorities, but also the methodologies and approaches that would be key to implementation success in the various sectors. Due to the nature of the project (single Tranche), all agreed upon activities were implemented prior to the Tranche release.

(b) Implementing Agency or Agencies Performance Rating: Satisfactory

The two key agencies that managed the implementation of the policy program, which required active participation of a number of institutions as described above, performed very well, in spite of political pressures at certain times. The cooperation of staff from these agencies in carrying out the reform programs was a key element of the project success. In particular, the highly professional and efficient work of the PA and BRA/DIA staff and consultants ensured timely implementation of technically complex conditions on resolution of SOEs and banks, respectively.

(c) Justification of Rating for Overall Borrower Performance Rating: Satisfactory

The Borrower was committed to the whole process and worked closely with the Bank to ensure that the Trance release conditions were met on time.

6. Lessons Learned

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A major reason for the First PPFDPC’s overall success was strong GoS institutional and political support. Effective cooperation and coordination between GoS and the Bank also helped sustain support and momentum. This resulted in “buy-in” from the Government, support from the Bank and focus on the part of both parties in achieving objectives. The PPFDPLs were also built upon the experience accumulated during the preparation of PFSAC I and II that started in November 2000, about 30 days after the Serbian "velvet" revolution. Significant volume of analytical work and technical assistance preceded the first policy operations SAC I and PFSAC I. The PFSAC experience had demonstrated that an integrated approach was needed to reform the financial and enterprise sectors in parallel.

1. A key lesson from other transition experiences and from the first four years of transition in Serbia was the need for sequencing: (i) The initial steps should be the immediate goals of price liberalization and fiscal stability; (ii) Followed by structural reforms in industrial enterprises and banks and, (iii) Only then, in the third stage, pursue reforms in utilities, non banking institutions and capital markets. Moreover, due to the political economy of post conflict Serbia, it was important to start enterprise privatization with sellable companies – or "early wins" - and only later move onto restructuring of the politically sensitive large loss makers. The focus of the three stage sequencing needed to include lessons on the timing and design of social policies aimed at directly addressing poverty reduction and mitigating some of the adverse social impacts potentially caused by the three transition stages. Continued pursuit of these aims will need to be closely aligned and sequenced with GoS' efforts to provide adequate social protection for those displaced by the envisaged restructurings and or privatizations.

2. Reform implementation is heavily dependent upon an effective champion who takes the early 'ownership' of the reforms sought. Equally, it is important that the domestic reform champions are well advised as to the positions assumed and actions taken. For example, the willingness of key counterparts at NBS and MOF to take key decisions, inter alia, to significantly reign in regulatory forbearance, take additional robust measures to further strengthen the bank and insurance regulatory regimes, withdraw licenses of banks and insurers and offer a number of state-owned banks and assets for sale has enabled key elements of the financial sector reform agenda to be advanced. Similarly, the effective management of the enterprise privatization process by MOE and PA facilitated progress in the reforms of the socially-owned sector.

3. The ability to provide extensive technical assistance on a timely basis was crucial to enabling the PFSAC-I and II operations to achieve their objectives. The provision of technical assistance has also proven successful in other countries (e.g. Romania PSAL and PSAL II). The early provision of substantial grant funding and the effective coordination by the Bank of support from bi-lateral donors (notably EU, DFID and USAID) for the reform agenda proved critical for developing institutional capacity at the DIA, PA and NBS to implement early high impact measures. The PPFDPC-1, benefited from the strengthened institutions that participated under this program and who received technical assistance from prior Bank and donor funded programs.

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4. Good Economic Sector Work (ESW) contributes significantly to a robust dialogue with counterparts and successful adjustment operations. In 2004 the Bank presented to the GoS a number of key papers: the Serbia Economic Memorandum; the Financial Sector Note (FSN); the Investment Climate Assessment (ICA); the Private Sector Note (PSN); the Poverty Reduction Strategy Paper (PRSP); and in December, the Country Assistance Strategy (CAS). To aid in shaping the PPFDPC-1, in mid-2005 the Bank disseminated a number of other key reports, namely the Fiduciary Assessment Update, Public Expenditure Review, Accounting and Auditing Report on Observance of Standards and Codes (ROSC) and Financial Sector Assessment Program (FSAP) reports.

5. Another factor was the coupling of social protection with major restructuring efforts. The priority given to mitigating the social costs of enterprise restructuring, and the publicity and benefits surrounding these efforts, are considered to be one of the reasons why social turmoil did not erupt. Concrete efforts to provide unemployment and severance payments and pre-layoff services appear to have had a positive impact.

7. Comments on Issues Raised by Borrower/Implementing Agencies/Partners (a) Borrower/Implementing agencies N/A

(b) Co-financiers N/A

(c) Other partners and stakeholders N/A

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Annex 1 Bank Lending and Implementation Support/Supervision Processes

(a) Task Team members Responsibility/ Names Title Unit Specialty Lending

Supervision Itzhak Goldberg Advisor, Policy and Strategy ECSPF Richard Martin Humphreys Senior Transport Economist ECSSD Alexander Pankov Sr Private Sector Development ECSPF Gennady Pilch Sr Counsel LEGES Anna Sukiasyan Resource Management Officer CSRRM

(b) Staff Time and Cost Staff Time and Cost (Bank Budget Only) Stage USD Thousands (including No. of staff weeks travel and consultant costs) Lending FY05 61 311.49 FY06 28 123.80 FY07 0.00

Total: 89 435.29 Supervision/ICR FY05 0.00 FY06 0.16 FY07 2.07

Total: 2.23

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Annex 2. Policy Matrix

Subject Conditions of PPFDPL-1 Outcomes Tranche Release OVERALL PPFDPL-1- OVERALL PPFDPL-1 PROGRAM OBJECTIVES: The PROGRAM OUTCOMES: objective of the Programmatic Reduce subsidies so as to facilitate Private and Financial DPL series is to staff redundancies, there by strengthen fiscal discipline in the permitting the restructuring and or enterprise, energy and transport sale of effected state enterprises sectors, build more efficient and and public utilities, minimizing stable financial sector, and improve market distortions created by such the investment climate through series enterprises. Additionally the of policy reforms program outcomes are to reduce the government's holdings in the banking and insurance sectors and of financial assets, strengthen the respective regulatory and supervisory regimes, increase access to real estate finance and overall, further improve the investment climate. 1. Reduction of MOE subsidy The Government of the Republic of Subsidies were reduced to CSD program and strengthening of Serbia has proposed to the Parliament 3.85 billion in 2006 budget Transition Fund mechanisms of the Republic of Serbia to decrease the direct subsidies to socially-owned Further decrease took place in the enterprises undergoing restructuring following years: from CSD 5 billion, allocated for such 2007 – CSD 3.22 billion purposes in the 2005 State Budget, to 2008 – CSD 3.09 billion CSD 3.85 billion in the 2006 State Budget.

The Government of the Republic of Transition Fund allocation target of Serbia has agreed to make available CSD 4.5 billion was met in 2005. CSD 4.5 billion from the Transition Funds available for redundancy Fund for severance payments to payments for the companies in the employees of socially owned List increased to 6.5 billion in 2006 enterprises, such enterprises having and CSD 9.95 billion in 2007. been set forth in the list agreed upon by the Bank. 2. Privatization, Restructuring and Starting December 1,2004: (i) the (i) The PA offered for sale 23 Bankruptcy of Socially-Owned Privatization Agency of the Republic of SOEs and sold 9 through the tender Enterprises Serbia has offered for sale no less than process eighteen socially-owned enterprises (ii) The PA offered for sale 183 and sold at least nine socially-owned SOEs and sold 131 (71.5%) enterprises through its tender program; through auctions. (ii) PA has offered for sale through (iii)The PA sold 4 socially-owned auctions no less than 180 socially- enterprises set forth in the owned enterprises, and sold at least 40 restructuring list percent of such socially-owned (iv) State controlled creditors have enterprises; (iii) PA has offered for sale requested the courts to initiate no less than eight socially-owned bankruptcy procedure for 6 enterprises, or significant parts thereof companies from the restructuring (i.e., representing no less than 50 list. percent of the total assets), from the list of enterprises undergoing restructuring, using, as applicable, tenders, auctions Privatization and bankruptcy of and asset sales procedures, and sold at SOEs removed the need for annual least three socially-owned enterprises direct subsidies in the order of $30 set forth in the restructuring list; and million in 2005.

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(iv) Republic of Serbia-owned or controlled creditors have requested the courts to initiate bankruptcy proceedings for at least 6 large SOEs set forth in the restructuring list. 3. Concessions The Government of the Republic of The Amendments to the Law on Serbia has submitted to the Parliament Mining were sent to Parliament in of the Republic of Serbia amendments October of 2005, and were to the Law on Mining, satisfactory to ultimately adopted in April of the Bank, incorporating a new royalties 2006. These regulatory reforms framework facilitated granting new concessions in Serbia to International mining companies. Under the follow-up operation, In 2007 alone 41 exploration licenses were renewed and 63 new were granted, confirming the positive impact of the implemented reforms.

4. EPS The Government of the Republic of Adviser, which was supposed to be Serbia has launched an international financed by the EU and supported tender to engage a Financial Adviser by the Bank, was abandoned by for Elektroprivreda Srbije, in EPS. Instead, EPS has accordance with terms of references internationally procured and and procedures satisfactory to the Bank engaged Financial/Restructuring Advisor without the involvement of EU and the Bank.

In 2006 the Company operated with total profit of RSD 16.3 billion (EUR 193.55 million).

5. Railway sector Zeleznice Srbije (ZS) has reduced ZS (i) The Tranche condition was met, staff engaged in core ZS activities by and an additional 4,912 staff were 1,900, or 7.2 percent of total ZS core released subsequently. staff of 26,212 employed as of January 1,2005, and ZS and GoS have adopted the 2005 Business Plan.

ZS to begin the withdrawal of all (ii) The tranche condition was met, passenger services from 7.5 percent of and passenger services were the network (260km), convert them to withdrawn from additional 218 km manipulation lines in 2005 and finalize of lines, some 6.3 percent of the plans for similar activities through network, subsequently. 2009 in the 2005-2009 Strategic Plan.

Begin implementation of the approved (iii) The Business Plan is being 2005 business plan, satisfactory to the implemented. Bank, pending receipt and acceptance by the MOF and MVI of the new 2005- 2009 strategic plan. The closure of passenger booking facilities at over forty stations and, consequently, the divestiture or closure of all non-core activities, through the establishment of 14 subsidiary companies 6. Privatization and divestment of The Agency for Deposit Insurance (i) The core benchmark related to state-owned banks (SOB) and (DIA) of the RoS has offered for sale, the majority sale of shares of financial assets (non-performing on behalf of the GoS, a majority (i.e. Vojvodjanska Bank has been fully loans (NPL), equities more than 50%) of Vojvodjanska banka met with successful divestment of

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shares. 99.43% of shares.

DIA has appointed a Financial Advisor (ii) The benchmark related to for Credy Banka and has agreed to appointment of financial advisors recommend resolution strategy for for resolution of Credy Bank and Privredna Banka Pancevo to the DIA strategy for Privredna Banka Management Board Pancevo was also met. Ultimately, the tender for Credy bank failed, while Privredna Banka Pancevo has not been privatized yet. To fully meet this condition in 2005, 4 majority state owned banks were successfully privatized (Jubanka, Continental, Novosadska, and Niska)

Binding bids for NPL sale received and (iii) Binding bids for NPL were recommended to the Commercial Court received and the transaction was of Belgrade for approval completed in 2005 as well. 7. Second phase of the Supervisory The Supervisory Review Committee of The NBS adopted a comprehensive Development Plan (SDP the NBS Banking Supervision SDP, encompassing all Department (BSD) and the Governor of implementation steps agreed upon. the NBS have adopted the second phase of the Supervisory Development Plan, The 2005 Law on Banks and satisfactory to the Bank, and the NBS related by-laws issued have BSD has continued its implementation. addressed many of the regulatory issues cited in the 2005 FSAP Implementation has been demonstrated report and equally, some of the by: (i) revised draft of a comprehensive overarching recommendations of SOP, satisfactory to the Bank, (ii) risk the updated Supervisory matrices and supervisory strategies for Development Plan (SDP). banks examinations completed as of September 30, 2005; (iii) a time-bound corrective action plan to address Basel Core Principles weaknesses identified (iv) for those banks whose deadline for implementation of corrective action measures has expired as of September 20, 2005, the NBS is to verify that provisions have been taken by the deadline specified in the corrective action plan and are reflected on subject banks' financial and regulatory reports; (v) NBS has issued a new regulation, effective January 1,2006, that requires the examined banks to book NBS directed provisions no later than the end of the quarter of the NBS' issuance of the corrective measures and make necessary changes in regulatory reports. 8. Strengthening insurance sector The amendments to the Insurance Law The first 3 requirements were fully regulation and resolution regime have been enacted and are satisfactory met. to the Bank. Re MTPL, the strategy has been The NBS examination report for agreed but drafting of legislation DDOR has been issued and a tender was delayed, inter alia, due to launched for the appointment of a necessity to compute run-off M. Financial Adviser Further reforms in this area are DIA has launched a tender for an supported under the PFDPL/DDO. independent diagnostic audit and restructuring plan for Dunav insurance

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company

Strategy for MTPL reform has been agreed and a draft law submitted to the Parliament. 9. Access to Finance The Government of the Republic of The Mortgage Law was adopted by Serbia has submitted to the Parliament Parliament. of the Republic of Serbia a draft Law On Mortgage, satisfactory to the Bank

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Annex 3. Results Indicators

Indicators Baseline Original Actual Value end Target end Value end Actual Value at end 2004 2005 2005 2007 PDO Indicators: 1. Reduction of MOE subsidy program to socially- CSD 5 billion CSD 3.85 CSD 3.85 Objective fully met. In owned enterprises as reflected in the state budget billion billion the following years MOE subsidy continued to decrease in the budget allocations to CSD 3.22 billon in 2007 and CSD 3.09 billion in 2008 2. Private sector share in employment 54% 56% 58% By early 2008 the share of private sector in employment reached 61% (estimate) 3. Private Sector Share in GDP 50% 52% 55% Target fully met. By end 2007 private share in GDP exceeded 55% (estimate) 4. Budget support to railway sector considerably 1% 1% Target fully met. By the reduced (as % of GDP) end of 2007 budget support was further reduced to 0.5% of GDP 5. The government ownership stake in the banking 35% 25% 23.9% The target fully met. In sector reduced the following years the government continued successful reforms in the banking sector, and the state ownership stake in the banking sector was further reduced to 14.8% by end 2006. 6. The government ownership stake in the insurance 74.2% 70% 67.62% The government sector reduced ownership stake in the insurance sector was further reduced to 30.8% by end 2007 Intermediate Indicators 1. The Privatization Agency offered for sale not less 0 Offered for Offered 23 Target fully met. 50 than 18 SOEs and sold at least 9 of them through the sale 18 and for sale and additional enterprises tender program sold 9 sold 9 sold through tenders by February 2008 2. The Privatization Agency offered for sale through 0 Offered for Offered for The target was auctions not less than 180 SOEs and sold at least sale 180 and sale 183 and outperformed by 82%. 40% of them sold at least sold 131 Additional 572 40 % (71.5%) enterprises were sold through auctions by February 2008

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3. The Privatization Agency offered for sale not less 0 3 4 The target was than 8 SOEs from the list of enterprises undergoing outperformed by 33%. restructuring, using all applicable methods, and sold Additional 23 at least 3 of them enterprises from restructuring list were sold by February 2008 4. Strengthened Transition Fund mechanism for 0 CSD 4.5 CSD 4.5 Target fully met. redundancy payments of employees of socially billion billion Budget allocation for owned enterprises (allocation in CSD) 2006 increased to CSD 6.5 billion, for 2007 – to 9.95 billion 5. Regulatory framework for mining improved Inadequate Amendments Amendment Target fully met. Later through submission of amendments to the Law on legal to the Law on s to the law on the amendments Mining to the Parliament framework Mining on Mining were adopted and for mining submitted to submitted to implementation the the regulations were put Parliament Parliament into place, which improved regulatory framework and facilitated granting exploratory concessions to international mining companies 6. Zeleznice Srbije (ZS) core staff reduced by 7.2%, 26,212 core 1,900 (7.2%) 1,900 By end 2007 core staff services withdrawn from 7.5% of the network staff, of core staff (7.2%) of of ZS was further 0 withdrawal reduced, core staff reduced to 19,400 from services reduced, employees, ZS passenger withdrawn services withdrew its passenger services from 260 km withdrawn services from additional (7.5% of from 260 218 km (6.3%) networks) km (7.5% of networks) 7. The Agency for Deposit Insurance (DIA) offered 0 Majority of 99.43% of The DIA successfully for sale a majority of Vojvodjanska Banka shares shares shares sold continues privatization (>50%) of remaining state offered for shares in the banking sale sector 8. The DIA initiates privatization of state shares in 0 The DIA State shares The target fully met. two majority state owned banks appoints in 4 While the attempts to financial majority sell initially proposed adviser for owned banks failed after being Credy banka banks were initiated, other four and agrees on sold: banks with majority resolution Jubanka, state share were sold. strategy for Continental, Privredna Novosadska Banka and Niska Pancevo 9. Insurance sector regulatory framework Inadequate Amendments Amendment Target fully met. strengthened by enactment of amendments to the regulatory to the s to the Insurance Law framework Insurance Insurance for insurance Law enacted Law sector enacted 10. Regulatory framework for mortgage finance Inadequate Draft Law on The The target was strengthened by submitting to Parliament draft Law regulatory Mortgage Mortgage outperformed as the on Mortgage framework submitted to Law draft Law was not only for mortgage parliament adopted by submitted, but adopted. finance Parliament

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Annex 4. Summary of Borrower's ICR and/or Comments on Draft ICR

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Annex 5. Comments of Co-financiers and Other Partners/Stakeholders

N/A

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Annex 6. List of Supporting Documents

Internal World Bank Documents

Program Document, October, 2005 Letter of Development Policy, October, 2005 Agreed Minutes of Negotiations, October, 2005 ROC, QER (the file under the "other" materials of Michael) Minutes of Concept Review Meeting, May. 2005 Minutes of the ROC Review Meeting, August 2005 QER Panel findings, June, 2005 Aide Memoire of Pre-Appraisal Mission, Mining Sector, July, 2005 Aide Memoire of Pre-Appraisal, Railway Sector, May, 2005 Aide Memoire of Pre-Appraisal Mission, Energy Sector, June, 2005 Aide Memoire of Preparation Mission, Energy Sector, April, 2005 Aide Memoire of Identification Mission, January, 2005 Private and Financial Sector Policy Notes for the Country Partnership Strategy discussions, July, 2007 Program Document for the Programmatic Private and Financial Development Policy Loan/Deferred Drawdown Option, February, 2008

Publicly available World Bank Documents related to this Credit

Implementation Completion Report: Serbia and Montenegro - Second Private and Financial Sector Adjustment Credit (PFSAC 2), June, 2005 Serbia - Country Partnership Strategy, November, 2007 Implementation Completion and Results Report: Serbia and Montenegro - Privatization & Restructuring of Banks & Enterprises Technical Assistance Project, October, 2007 Project Information Document: Serbia and Montenegro - Programmatic Private and Financial Development Policy Credit (PFDPC-1), August, 2005 Serbia and Montenegro - Country Assistance Strategy (CAS), November, 2004

Other World Bank Reports

Serbia and Montenegro - Serbia: an agenda for economic growth and employment, December, 2004

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