MOLDOVA COUNTRY ECONOMIC MEMORANDUM Public Disclosure Authorized
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MOLDOVA COUNTRY ECONOMIC MEMORANDUM Public Disclosure Authorized Public Disclosure Authorized Moldova Rkindlin Economic Dnmism Public Disclosure Authorized Public Disclosure Authorized MOLDOVA COUNTRY ECONOMIC MEMORANDUM Moldova Rkindlin Economic Dnmism WORLD BANK Mcroconomics & Fiscl Mnmnt Globl Prctic Europ nd Cntrl Asi Rion ©2019 Intrntionl Bnk for Rconstruction nd Dvlopmnt / Th World Bnk 1818 H Strt NW Wshinton DC 20433 Tlphon: 202-473-1000 Intrnt: www.worldbnk.or Publiction dt: April 2019 This work is product of th stff of Th World Bnk with xtrnl contributions. Th findins, intrprttions, nd conclusions xprssd in this work do not ncssril rflct th viws of Th World Bnk, its Bord of Excutiv Dirctors, or th ovrnmnts th rprsnt. Th World Bnk dos not urnt th ccurc of th dt includd in this work. Th boundris, colors, dnomintions, nd othr informtion shown on n mp in this work do not impl n judmnt on th prt of Th World Bnk concrnin th ll sttus of n trritor or th ndorsmnt or ccptnc of such boundris. Rihts nd Prmissions Th mtril in this work is subjct to copriht. Bcus Th World Bnk ncours dissmintion of its knowld, this work m b rproducd, in whol or in prt, for noncommrcil purposs s lon s full ttribution to this work is ivn. An quris on rihts nd licnss, includin subsidir rihts, should b ddrssd to World Bnk Publictions, Th World Bnk Group, 1818 H Strt NW, Wshinton, DC 20433, USA; fx: 202-522-2625; -mil: [email protected]. Preface In its Moldova 2020 report, the Government outlined seven priorities necessary to propel the economy to a higher growth path -- based not on remittance-financed consumption but on an export-driven model. These included improving education, roads, the financial system, energy, business, pensions, and the justice system. The Government has made progress in each of these areas, albeit unevenly (as is the case in all countries). The World Bank in its Systematic Country Diagnosis (2016)1 reported on that progress and highlighted six areas that merited additional attention. These were: strengthening the rule of law; improving public service delivery; improving education and training; reforming the pension system; improving the business regulatory framework; and ensuring a sound macroeconomic and fiscal 2 management. In addition, the Bank also provided a study on trade competitiveness (2015). Another building block of this report was the UK-sponsored study on state enterprises completed in early 2017 that focused on the legal and governance aspects of state enterprises.3 Subsequently, at the time of the writing of this report, the Government adopted the National Development Strategy “Moldova 2030.”’ The objective of the strategy is to enhance the quality of people’s life. It identifies ten strategic goals for sustainable development, including, of particular importance, increasing revenues from sustainable sources, reducing economic inequality, increasing access to physical infrastructure, improving working conditions, and ensuring quality education for all. This current Country Economic Memorandum is intended to provide a comprehensive analysis of growth constraints and recommendations. While it updates some aspects of these earlier studies, its main focus is on enterprise performance. Insofar as enterprise performance occurs in a larger institutional context, this focus necessarily touches on several of the earlier themes, particularly the rule of law, business regulation, and education. The first chapter presents a diagnostic that highlights the problem of falling productivity in the enterprise sector and points to elements of market structure (particularly state ownership) that undermine productivity growth and curtail the growth of the private sector. This chapter also focuses on demand-side issues in export markets, and highlights policy lessons from sectors with high productivity that could drive future growth. A second chapter focuses on foreign firms, which are high- productivity enterprises within Moldova, and looks at investment promotion and ways to improve the contribution of Foreign Direct Investment (FDI) to the economy. Subsequent chapters extend the analysis to incentives shaping enterprise performance and opportunities for growth led by the private sector, particularly: competition and regulatory policies (Chapter 3); tax policy insofar as it affects incentives and tax buoyancy that underpin macroeconomic stability (Chapter 4); and finally, education as a crucial input into enterprise development (Chapter 5). 1 World Bank Growth, Systematic Country Diagnosis (Washington, DC: World Bank, 2016). 2 World Bank Group, Trade Study, including: Note 1 - “Analysis of Trade Competitiveness”; Note 2 – “Is DCFTA Good for Moldova”; Note 3 - “Competitiveness in Moldova’s Agriculture”, (Washington, DC: World Bank, 2015), 3 World Bank Group, Support to State-Owned Enterprises (SOE) Preliminary Diagnostics and Reform Assessment: Phase 1. (Washington, DC: World Bank, 2017). 2 Contents Reviving Growth Momentum: Overview and Summary of Recommendations ........................................ 7 Sources of Lost Growth Momentum............................................................................................................. 7 Policies to Propel Growth ........................................................................................................................... 10 Policies to unleash private enterprise .................................................................................................... 11 Reducing the size of government…while increasing its capabilities ................................................... 11 Reforming state-owned enterprises ................................................................................................... 12 Promoting foreign direct investment… ............................................................................................... 13 …while promoting exports .................................................................................................................. 13 Changing incentives to foster enterprise productivity ........................................................................... 14 Competition and product market regulation ...................................................................................... 14 Tax policy ............................................................................................................................................ 15 Improving workers skills and increasing human capital: education .................................................. 16 Chapter 1. Moldova: Rekindling Economic Dynamism ............................................................................. 21 Growth Performance: Drivers… and Drags ................................................................................................. 23 Income gains around a declining trend .................................................................................................. 23 Understanding falling dynamism ............................................................................................................ 25 Capital ................................................................................................................................................. 26 Labor and human capital .................................................................................................................... 27 Productivity growth: change across sectors or improvement within sectors? .................................. 28 Explaining Productivity Performance: The State and Private Sector .......................................................... 30 Big government and space for the private sector .................................................................................. 30 State ownership remains large… ............................................................................................................ 30 …but SOE productivity lags behind other firms… ................................................................................... 33 … and foreign-owned firms have been key innovators in Moldova ....................................................... 35 Summary reflections on Moldova’s growth: the productivity problem ................................................. 38 Falling Productivity: Demand-side Issues and Role of Exports ................................................................... 38 Merchandise exports: good but not great performance ........................................................................ 40 Services exports: a source of growth ...................................................................................................... 41 Growth Industries of the Future: Lessons from Moldovan Successes ........................................................ 42 Manufacturing: learning from the FEZs .................................................................................................. 42 Agribusiness and wine ............................................................................................................................ 43 Services exports show dynamism – especially ICT.................................................................................. 48 Policies and Organization of the Study ....................................................................................................... 51 3 Chapter 2: Realizing the Potential of Foreign Investment ....................................................................... 54 Introduction ...............................................................................................................................................