Public Disclosure Authorized NEXT GENERATION ALBANIA Public Disclosure Authorized A Systematic Public Disclosure Authorized Country Diagnostic Public Disclosure Authorized NEXT GENERATION ALBANIA A Systematic Country Diagnostic April 2015 ______________________________________________________________________________ Currency Equivalents (Exchange Rate Effective, January 22, 2015 Currency Unit – Albanian Lek (LEK) 1.00 = US$ 0.00827 US$ 1.00 = LEK 120.89998 Government’s Fiscal Year January 1 – December 31 Abbreviations and Acronyms CPIA – Country Policy and Institutional Assessment (World Bank) EU – European Union EU11 – New EU Members States (Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovak Republic, and Slovenia) FDI – Foreign Direct Investment GDP – Gross Domestic Product HHI – Herfindahl-Hirschman Index INSTAT – Institute of Statistics, Republic of Albania LSMS – Living Standards Measurement Study NEET – Not in Employment, Education, or Training NPLs – Nonperforming Loans ODA – Official Development Assistance OECD – Organisation for Economic Co-operation and Development PPP – Public-Private Partnership R&D – Research and Development RORK – Rate of Return on Capital SCD – Systematic Country Diagnostic SEE6 – South East European 6 VAT – Value Added Tax Table of Contents EXECUTIVE SUMMARY ........................................................................................................................................... i Growth and Shared Prosperity ................................................................................................................................. i Is Albania’s economic model adequate to support income growth and poverty reduction? ........................ ii Does Albania have the endowments and assets needed--and the ability to use them efficiently and intensively--to reignite equitable growth? ............................................................................................................ vii Does the enabling environment support equitable growth? .............................................................................. xi What risks threaten the sustainability of inclusive income growth and welfare improvements? ............... xiv What are the policy priorities for advancing the twin goals? ............................................................................ xv INTRODUCTION: GROWTH AND SHARED PROSPERITY IN ALBANIA ........................................... 1 CONCEPTUAL FRAMEWORK .............................................................................................................................. 6 BLOCK 1: A TOP-DOWN LENS: HISTORICAL PATTERNS AND DRIVERS OF ECONOMIC GAINS ............................................................................................................................................................................. 8 The Economic Model of the Past ........................................................................................................................... 8 The Economy post-2008 ........................................................................................................................................ 17 Emerging issues ....................................................................................................................................................... 28 BLOCK 2: A BOTTOM-UP LENS: HOUSEHOLD AND FIRM ENDOWMENTS FOR GENERATING ECONOMIC GAINS ................................................................................................................. 30 Human Capital and Labor Markets ...................................................................................................................... 30 Land and Natural Resources as Productive Assets ............................................................................................ 52 Capital Allocation, Financial Assets, and Financial Intermediation ................................................................ 55 Emerging Issues ....................................................................................................................................................... 63 BLOCK 3: ENABLING FACTORS FOR THE ACCUMULATION AND BETTER USE OF ENDOWMENTS ........................................................................................................................................................ 66 Quality of Institutions ............................................................................................................................................. 66 The Business Environment .................................................................................................................................... 68 Corruption and Informality among Economic Agents ..................................................................................... 72 Provision of Infrastructure and Public Services ................................................................................................. 75 Institutions to Protect the Poor and Vulnerable ................................................................................................ 85 Emerging issues ....................................................................................................................................................... 88 BLOCK 4: MITIGATING RISKS TO PROMOTE SUSTAINABILITY ...................................................... 91 Macroeconomic Risks ............................................................................................................................................. 91 Environmental Risks ............................................................................................................................................... 95 Social Risks and Exclusion ..................................................................................................................................... 99 Emerging Issues ..................................................................................................................................................... 100 ACHIEVING THE TWIN GOALS IN ALBANIA: SETTING PRIORITIES .......................................... 102 Results of the Priority-setting Exercise .............................................................................................................. 103 Complementarities and Capacity to Implement Priorities .............................................................................. 106 The Policy Agenda in Priority Areas .................................................................................................................. 107 ANNEX 1: Prioritization Approach .................................................................................................................. 122 ANNEX 2: Desired Policy Results and Capacity to Develop and Implement Policies ............................ 130 ANNEX 3: SCD Consultations .......................................................................................................................... 131 ANNEX 4: Data Annex ....................................................................................................................................... 133 ANNEX 5: CPIA Assessment ............................................................................................................................ 137 ANNEX 5: Roster of background analysis ....................................................................................................... 138 i Acknowledgments This report was prepared by a World Bank Group team led by Gallina A. Vincelette (Program Leader, ECCU4) and María E. Dávalos (Senior Economist, GPVDR), comprising the following team members from across the World Bank Global Practices and Cross Cutting Solutions Areas: Raymond Bourdeaux, Timothy Johnston, Andras Horvai, Nichola Dyer, Nejme Kotere, Valentina Matinovic, Amanda Schneider (all ECCU4), Tahseen Sayed, Evis Sulko, Ana Gjokutaj, Odeta Bulo, Kozeta Diamanti, Enkelejda Karaj, Igli Feshti, Elda Hafizi (all ECCAL), Drite Dade, Adriana Damianova, Kseniya Lvovsky, Craig M. Meisner (all GEDRN), Arturo S. Rivera, Charles Husband, Gazmend Daci and Rhedon Begolli (GEEDR), Joanne Catherine Gaskell, Silvia Mauri (all GFADR), Michael Edwards, Keler Gjika, Carl Chastenay, Rolf Behrndt, Mahesh Uttamchandani, Andres Federico Martinez (all GFMDR), Abebe Adugna Dadi, Doerte Doemeland, Hilda Shijaku (all GMFDR), Lewis Hawke, Jana Kunicova, Mariela Sanchez Martiarena, David Bernstein, Benedicta Oliveros, Andrei Busuioc (all GGODR), Cesar Cancho (GPVDR), Iva Hamel, Wolfgang Fengler, Esteban Alejandro Rojas Pinochet, Gonzalo Varela, Elizabeth Ruppert-Bulmer, Claire Hollweg, Michael Joseph Ferrantino, Sagita Muco, Violane Konar-Leacy, Igor Matijevic (all GTCRD), Natalija Gelvanovska, Artan Guxho, Baher El-Hifnawi (all GTIDR), Paula Restrepo, Kathrine Kelm, Gavin Adlington, Aanchal Anand, Naima A. Hasci (all GSURR), Andres Martinez, Keiko Inoue, Flora Kelmendi (all GEDDR), Lorena Kostallari, Marvin Ploetz (all GHDNR), Mohamed Ihsan Ajwad, Anita M. Schwarz, Aylin Isik-Dikmelik, Melis Guven (all GSPDR), David Michaud (GVADR), George Konda (CGECF), Kiril Nejkov (CRKEU), Nebojsa Arsenijevic (CASEF), Patrick Luternauer (CASDR), Stevan Gregovic (CMGSB), Thomas E. Lubeck (CEUSR), Hans-Jorg Paris (CFGF8), and Leonardo Garrido (DECPG). Additional background inputs for this SCD were prepared by Anna Raggl, Jesus Crespo Cuaresma (all Vienna University of Economics and Business), Edgardo