6. Overview: Identifying strategic opportunities for Bosnia and Herzegovina

Abstract

Bosnia and Herzegovina has made important progress and significantly improved living standards over the last two decades. Before the global financial crisis of 2008-09, economic growth was strong at over 6% annually. Since 2009, gross domestic product (GDP) growth has declined considerably as pre-crisis growth engines faltered and new growth engines were slow to emerge. Relatively good revenue performance has left some room in fiscal policy to deal with the COVID-19 crisis and to strengthen long-term economic and social resilience. To achieve rapid, inclusive and sustainable development, Bosnia and Herzegovina will need to take decisive policy action on long-term strategic priorities. This chapter takes a holistic view of Bosnia and Herzegovina’s development performance across a range of outcomes, spanning the breadth of the Sustainable Development Goals. It then draws on the remaining chapters in this part to outline strategic priorities to build on Bosnia and Herzegovina’s assets and address the key constraints it faces.

Bosnia and Herzegovina has made important progress and significantly improved living standards over the last two decades. Following the destruction of its key infrastructure and industrial base during the 1990s, Bosnia and Herzegovina’s economy recovered, and living standards improved. Institutional development also progressed. Accession to the European Union became a cornerstone of Bosnia and Herzegovina’s foreign policy and a key driver of reforms.

Over the last decade, strong growth was followed by a less dynamic but more balanced growth. Before the global financial crisis of 2008-09, economic growth was strong at over 6% annually. Growth was mainly consumption-driven, fuelled by significant remittances and credit growth from the newly privatised financial sector. Since 2009, gross domestic product (GDP) growth has declined considerably as pre-crisis growth engines faltered and new growth engines were slow to emerge in light of weak progress on structural reforms. Nevertheless, recently growth has become more balanced through increased external demand and moderated domestic demand, which resulted in improvements of the macroeconomic fundamentals.

Relatively good revenue performance has left some room in fiscal policy to deal with the COVID-19 crisis and to strengthen long-term economic and social resilience. Notwithstanding the human cost, the crisis should be seen as an opportunity to address some of the most pressing constraints Bosnia and Herzegovina faces, including those identified in this report.

To ensure sustainable and inclusive development and to strengthen economic and social resilience, a long-term vision should take precedence over short-term politics. Such a strategy can provide a strong basis for policy coherence that supersedes special interests and divisions and can provide a pathway for economic transformation and growth. This multi-dimensional review (MDR) aims to support Bosnia and Herzegovina in charting the path by addressing the most important constraints that can hold development back.

The MDR of the Western Balkans supports Bosnia and Herzegovina and the region with a strategic perspective and ideas for action on shared challenges. This assessment identifies the key constraints that must be tackled in order to achieve sustainable and equitable improvements in well-being and economic growth. The next phase of the project will focus on peer learning to find solutions to the challenges that emerge from the initial assessments as shared across the region.

This overview presents the main results of the initial assessment of development in Bosnia and Herzegovina. First, the chapter takes a bird’s-eye view to assess Bosnia and Herzegovina’s development performance on the basis of key statistics on well-being and the sustainable development goals (SDGs) and summarises the key constraints to development identified in this report. It concludes by suggesting key strategic directions. Given the global impact of COVID-19, this overview is followed by a special chapter on the impact of the pandemic in Bosnia and Herzegovina. Chapter 8 contains the main body of this initial assessment. It assesses progress and identifies constraints along the five pillars of the United Nations 2030 Agenda for Sustainable Development: People, Prosperity, Partnerships and financing, Peace and institutions, and Planet.

Whenever relevant and subject to data availability, Bosnia and Herzegovina’s performance is compared with a set of benchmark economies in the region (Albania, Kosovo, Montenegro, North Macedonia and Serbia), the Organisation for Economic Co-operation and Development (OECD) (Costa Rica, Czech Republic, Greece, Slovak Republic, Slovenia and Turkey), non-OECD countries in the European Union (Croatia and Romania) and non-OECD countries in other regions with relevant development experiences (Kazakhstan, Morocco, Philippines and Uruguay). Comparisons also include regional averages for the Western Balkans and for the OECD and European Union. The selection of benchmark countries is based on historical similarities, including integration into the European Union, economic structures, geographical proximity and mutual partnerships. The selection of non-OECD countries is based on similar economic and social challenges (such as high migration rates), shared history as transition economies and the relevance of development trajectories that can bring an additional perspective to Bosnia and Herzegovina and other Western Balkan economies and create valuable learning opportunities across selected areas.

Due to the outbreak of the of the COVID-19 pandemic, the OECD visioning workshop was cancelled in Bosnia and Herzegovina. This report therefore does not contain inputs for a potential vision. Questionnaires designed by the OECD and filled out by institutions in Bosnia and Herzegovina are a substitute for the cancelled fact-finding mission.

This report benefited from close collaboration with government representatives in Bosnia and Herzegovina, especially the Ministry of Foreign Trade and Economic Relations of Bosnia and Herzegovina, the Federal Institute for Development Programming in the Federation of Bosnia and Herzegovina and the Cabinet of the Prime Minister in Repulika Srpska, and from the collaboration and comments of multiple OECD directorates and the financial and collaborative support of the Swedish International Development Cooperation Agency, which is gratefully acknowledged.

Assessing Bosnia and Herzegovina’s development performance

Building on well-being around the world and sustainable development as benchmarks, this section reviews Bosnia and Herzegovina’s development performance. To assess the well-being of citizens, the OECD’s Well-being Framework uses a mix of objective and subjective indicators across a range of dimensions that matter to people (OECD, 2020[1]) (Box 6.1). A version adapted to the realities of emerging economies compares Bosnia and Herzegovina to the level of well-being outcomes expected given its level of GDP per capita, across ten dimensions covering material conditions, quality of life and quality of relationships. In a second step, this section assesses Bosnia and Herzegovina’s performance across the five pillars of the SDGs, applying distance-to-target measures across a selection of indicators and building on the analysis in the main body of this report.

Bosnia and Herzegovina’s well-being performance is mixed. Given its level of GDP, Bosnia and Herzegovina performs relatively well in terms of adult literacy, life expectancy and security (Figure 6.1). Adult literacy was 97% in 2013, and average life expectancy was close to 77.4 years in 2019 (World Bank, 2020[2]). The poverty rate and vulnerable employment are relatively low: the poverty headcount ratio at USD 1.90 per day (United States dollar; 2011 PPP) amounted to 0.1% of the population in 2011, and vulnerable employment made up 19.1% of total employment in 2019 (World Bank, 2020[2]). However, corruption and access to quality housing, sanitation services and infrastructure remain important challenges. Health problems are widespread and social capital is low. Close to 38% of the population had a health problem in 2015 (Gallup, 2020[3]), and only 21% had access to improved sanitation services (World Bank, 2020[2]). Some 35.2% of the population did not have someone to count on for help in 2015 (Gallup, 2020[3]).

Figure 6.1. Current and expected well-being outcomes for Bosnia and Herzegovina: worldwide comparison

Box 6.1. Measuring what matters to people

As part of its broader Better Life Initiative, the OECD first created its Framework for Measuring Well-being in 2011 with the aim of putting people at the heart of policy making. This represented the culmination of longstanding work both inside and outside the organisation. Important strides to “go beyond GDP” had been made with United Nations Development Programme’s Human Development Index and the work on multi-dimensional poverty by the Oxford Poverty and Human Development Initiative. The framework also draws on rich academic literatures in welfare economics and capability theory, the recommendations of the Commission on the Measurement of Economic Performance and Social Progress (Stiglitz, Sen and Fitoussi, 2009[11]) and existing well-being and sustainable development measurement practice in OECD member and non-member countries. Since its launch, the work on well-being has continuously been updated in line with best practice and continues to be published in the OECD’s How’s Life? report series (Exton and Fleischer, 2020[12]; OECD, 2020[1]). For the purpose of the MDRs, the OECD Well-being Framework has been adapted to fit the realities of countries at various stages of development (Boarini, Kolev and McGregor, 2014[13]).

The adapted OECD Well-being Framework used in this report focuses on living conditions at the individual, household and community levels that capture how people experience their lives “here and now”. Current well-being here is comprised of ten dimensions related to material conditions that shape people’s economic options (Income, Housing and infrastructure, Work and job quality) and quality-of-life factors that encompass how well people are (and how well they feel they are), what they know and can do, and how healthy and safe their places of living are (Health, Knowledge and skills, Environmental quality, Life evaluation, Safety). Quality of life also encompasses people’s connectedness and engagement (Social connections, Empowerment).

Methodological considerations

To capture the full range of people’s actual life experiences, the OECD Well-being Framework uses both objective and subjective indicators. For instance, the Health dimension not only looks at life expectancy estimations but also considers how people feel about their health status and the health services they are receiving. Subjective indicators are sometimes viewed as not being as robust as objective measures; however, there are at least three reasons for considering them alongside the latter to get a holistic picture of well-being. First, there is solid methodological evidence that the subjective measures contained in the well-being framework (e.g. life satisfaction, trust in others and government) are statistically valid and correlate with objective measures of the same construct (OECD, 2017[14]; OECD, 2013[15]). Second, even in cases where perceptions diverge from objective reality, they capture the reality of survey respondents and can drive real-world outcomes, such as voting and lifestyle behaviours (Murtin et al., 2018[16]). It can actually be especially insightful for policy makers to zoom in on areas where the gap between citizen perception and objective indicators is largest. Third, many of the measures typically considered objective and routinely used in policy analysis, such as household income, are based on people’s self-reports and can equally be affected by response biases and non-response rates (e.g. of very wealthy households).

There are some differences in well-being between men and women in Bosnia and Herzegovina. Women have a higher life expectancy and are more satisfied with water quality than men. However, women feel considerably less safe (64% of women feel safe, compared to 81% of men) (Gallup, 2020[3]) and have worse education outcomes. Women have 2.3 fewer years of schooling, on average: 7.9 years, compared to 10.2 for men (World Bank, 2020[2]) (Figure 6.2). Women also perform worse in live evaluation than men.

Figure 6.2. Current and expected well-being outcomes for Bosnia and Herzegovina: gender differences

People – towards better lives for all

Despite important progress in recent years, Bosnia and Herzegovina has yet to achieve a society that provides opportunities for all. There are not enough formal jobs. With an employment rate of 37.8% in 2019, Bosnia and Herzegovina trails behind Western Balkan peers (World Bank, 2020[2]). Many jobs do not provide enough income to escape poverty. Rural poverty is significant, and many groups, including young people, women, ethnic minorities and those living in rural areas, are left behind. For instance, about one in five young people is without employment or a training activity, and many young people choose to migrate. Women are under-represented in political life, particularly in high-ranking positions and elected offices (Figure 6.3). Despite a 40% gender quota for election lists, only 21% of national parliamentary seats and 22% of ministerial positions in Bosnia and Herzegovina are currently occupied by women (World Bank, 2020[2]).

Bosnia and Herzegovina’s economy is fragmented in many ways. First, a large public sector creates a dual labour market. Bosnia and Herzegovina has one of the largest public sectors in the region. In 2013, the government spent over 12% of GDP on public-sector wages (including wages for public administration and elected officials, public education, police and army and excluding wages for state-owned enterprises [SOEs]). Employment in the public sector, including in government administration and SOEs, entails significant benefits, such as higher wages, and acts as a drag on private-sector development.

Second, access to pensions, social assistance and health insurance favours the employed and war veterans rather than the least well off. For instance, early retirement for war veterans and exclusion of informal workers from the public pension system have led to a situation where one-third of all pensioners are younger than age 65, while approximately 38% of elderly adults, mostly informal workers, collect no state pension (World Bank, 2020[17]). Further, approximately 60% of social assistance spending allocated to different categories of war veterans, regardless of their needs. On the other hand, fewer than half of the bottom quintile of the rest of the population receives social assistance which reduces poverty by only an estimated 4.6 percentage points – well below the average effect of more than ten percentage points observed in other upper-middle income countries (World Bank, 2020[17]).

Third, complex decentralised education and social protection systems (including health) create inefficiencies and high administrative costs rather than good outcomes for citizens. Health and social insurance funds in Bosnia and Herzegovina are more dependent on social contributions than in any other European country. This makes the system highly dependent on labour market performance, which is characterised by informality, a growing emigration trend and grim prospects resulting from both demographic factors and the likely economic fall-out of the COVID-19 pandemic. Because labour market performance varies across entities and cantons, access to services is highly unequal across the country. Going forward, especially given the financial crunch COVID-19 presents, Bosnia and Herzegovina needs to improve the equity and financial sustainability of social protection. The People section in Chapter 8 identifies six major bottlenecks to well-being (Table 6.1).

Figure 6.3. People – progress towards the SDGs in Bosnia and Herzegovina

Table 6.1. People – six major constraints to leaving no one behind in Bosnia and Herzegovina
1. Rural poverty in particular remains high, and discrimination against minority groups, such as Roma and LGBTI people, hampers their well-being.
2. Weak labour market performance excludes women and youth and does not provide a way out of poverty.
3. Education outcomes are low due to institutional deficiencies and inefficient use of resources.
4. Healthcare governance is inefficient and lacks proper planning and accountability processes.
5. Social protection financing (including for health) is over-reliant on social security contributions in a context of high informal employment.
6. Access to social protection (including for health) favours the employed and war veterans and not those most in need.

Prosperity – boosting productivity

Over the past decade, Bosnia and Herzegovina’s economic growth has become more balanced, and macroeconomic stability has improved considerably, but significant outstanding structural constraints impede private investment, innovation and economic upgrading. Private investment, including foreign direct investment (FDI), is very low, as is productivity growth across all sectors. For example, labour productivity in agriculture remains well below the 2030 SDG target (Figure 6.4). These outcomes primarily reflect the challenging business environment, fragmented internal market and unfair competition from the SOE and informal sectors. They also result from a significant infrastructure gap that undermines connectivity and global value chain (GVC) integration. While Bosnia and Herzegovina has reached the 2030 target when it comes to access to electricity for all (Figure 6.4), it lags behind most global peers across a wide range of other indicators related to infrastructure. Last, diversification and upgrading is undermined by the significant skills gap resulting from the low quality of the education system and weak linkages between the education system and the labour market. The skills deficit is wide and includes digital skills, which in turn reflect Bosnia and Herzegovina’s weaker access to the Internet compared to many regional peers. There is still a considerable gap in Internet access vis-à-vis the 2030 target (Figure 6.4). The Prosperity section in Chapter 8 identifies five major bottlenecks to well-being (Table 6.2).

Figure 6.4. Prosperity – progress towards the SDGs in Bosnia and Herzegovina

Table 6.2. Prosperity – five major constraints to a more dynamic economy of Bosnia and Herzegovina
1. Weak investment and productivity have constrained economic growth in the post-crisis period.
2. A fragmented internal market and high bureaucratic burden create a challenging environment for private-sector development.
3. The large and inefficient SOE sector creates unfair competition for private enterprises.
4. Infrastructure gaps impede connectivity with the Western Balkans and beyond.
5. The lack of a skilled workforce limits the potential for economic upgrading and expansion of the tradable sector.

Partnerships and financing – financing sustainable development

Bosnia and Herzegovina’s main challenges in the coming decade will be to improve access to finance for small and medium-sized enterprises (SMEs) in order to facilitate private investment, and to direct more public-sector spending towards productivity-enhancing investments and expenditures. Over the past decade, Bosnia and Herzegovina has considerably improved its fiscal performance through strong revenue growth that has almost consistently outpaced the growth in public expenditure. Fiscal revenues amounted to 46% of GDP in 2019, exceeding the 2030 partnership target (Figure 6.5). Thanks to fiscal surpluses throughout most of the past decade, public debt has declined to about 33% of GDP, thereby providing considerable fiscal space for stimulus to deal with the negative impact of the COVID-19 crisis. Despite these positive developments, Bosnia and Herzegovina faces considerable structural challenges in the fiscal sector, including high spending on social transfers and public-sector wages, which are 38% higher than private-sector wages, on average (Agency for Statistics of Bosnia and Herzegovina, 2020[25]), and limited capital expenditures (less than 7% of total public expenditures). The large, loss-making SOE sector is also a considerable burden on public spending, estimated at about 5% of GDP per year. At the same time, private investment remains low, mainly due to the challenging business environment (see the Prosperity section in Chapter 8) but also due to financing constraints for SMEs, particularly start-ups and microenterprises, which are relatively underserved by the banking system and have limited access to or awareness of alternative sources of financing (e.g. microfinance, leasing). The Partnerships and financing section in Chapter 8 identifies three major bottlenecks to well-being (Table 6.3).

Figure 6.5. Partnerships and financing – progress towards the SDGs in Bosnia and Herzegovina

Table 6.3. Partnerships and financing – three major constraints to financing development in Bosnia and Herzegovina
1. Low domestic savings and limited external financing have constrained investment.
2. Strong revenue performance does not translate into quality public services and infrastructure due to high current expenditures and weak public investment.
3. Access to finance is limited for SMEs, particularly start-ups and microenterprises.

Peace and institutions – strengthening governance

Since 1995, Bosnia and Herzegovina has managed, with the support of the international community, to establish and preserve territorial integrity and has shown progress in some policy areas, but the path towards further reforms is steep. The country has progressively guaranteed peace and safety to its citizens, reformed the judiciary to make it more independent of external pressures and introduced integrity plans for judges and public officials (Figure 6.6). As part of decentralisation, the central state and the two entities went beyond their divisions and adopted the Global Framework for Fiscal Balance and Policies to co-ordinate these at the local level. They also established an institutional, legal and strategic framework to combat corruption.

Bosnia and Herzegovina’s complex system of governance helps maintain institutional balance among ethnic groups but may come with a cost. Without adequate co-ordination, it may entrench ethnic polarisation, pose challenges to the proper functioning of the state and create scope for significant inefficiencies. While decentralised governance may advantage local development, subnational governments’ fiscal power is limited. Complex institutions may undermine the independence and efficiency of the judiciary and citizen trust in courts. They also create fertile ground for corruption: according to Gallup data, almost 90% of interviewees consider corruption widespread throughout the government, and citizens usually pay bribes to access medical and health services or to avoid police fines (RCC, 2019[26]). The Peace and institutions section in Chapter 8 identifies three major bottlenecks to well-being (Table 6.4).

Figure 6.6. Peace and institutions – progress towards the SDGs in Bosnia and Herzegovina

Table 6.4. Peace and institutions – three major constraints to enhanced quality of institutions in Bosnia and Herzegovina
1. The decentralisation framework is asymmetric.
2. Overly complex institutional design addresses ethnic divisions but undermines the independence, efficiency and transparency of the judiciary.
3. Personal connections are inevitable in getting things done but may create social exclusion, distort the labour market and weaken administrative capacity.

Planet – conserving nature

Bosnia and Herzegovina needs to reduce air, water and ambient pollution and become less reliant on coal for electricity production. Bosnia and Herzegovina’s economy is highly reliant on heavily polluting coal, energy efficiency is low, and non-hydropower renewables are almost absent in the country’s energy mix. As a result, air pollution and carbon dioxide (CO₂) emissions levels are still far from the SDG targets (Figure 6.7). Air pollution poses a threat not only to the environment but also to human health and the economy. In 2016, the mortality rate attributable to household and ambient air pollution was 159.3 per 100 000 inhabitants, the highest in the Western Balkan region. Pollution from poor waste management is another major concern. Illegal landfills and untreated sewage damage natural resources and pose a risk to biodiversity and well-being. Only 31% of Bosnia and Herzegovina’s population is connected to the public sewerage system, and only 15% of wastewater is treated before discharge into rivers. Public utility prices that are set below operational costs undermine the financial sustainability of public utilities and limit the financial resources available for investments in water, waste and wastewater management infrastructure, modern and more efficient energy infrastructure and renewable energies. Natural hazards are another concern: Bosnia and Herzegovina is vulnerable to flooding, earthquakes, droughts, landslides and extreme weather events, which are likely to become more frequent due to climate change. Biodiversity is insufficiently protected, and protected areas are scarce (Figure 6.7). The Planet section in Chapter 8 identifies four major bottlenecks to well-being (Table 6.5).

Figure 6.7. Planet – progress towards the SDGs in Bosnia and Herzegovina

Table 6.5. Planet – four major constraints to a more sustainable path in Bosnia and Herzegovina
1. Low energy efficiency and high carbon intensity are reflected in high levels of GHG emissions and air pollution.
2. High levels of air pollution threaten human health, the economy and the environment.
3. Poor waste and wastewater management damages natural resources and poses a risk to the environment and well-being.
4. Public utility prices are set below operational costs and undermine the financial sustainability of public utilities.

Suggestions for strategic priorities for Bosnia and Herzegovina

To achieve rapid, inclusive and sustainable development, Bosnia and Herzegovina will need a development strategy that establishes a vision for the future, building on its assets and opportunities and addressing its most pressing constraints. The key constraints presented in this assessment can serve as a basis for priority setting along these lines.

The COVID-19 crisis has had an impact on Bosnia and Herzegovina but also offers an opportunity for strategic focus and strengthening economic and social resilience. As other economies in the region, Bosnia and Herzegovina was also affected in terms of both health and economic slowdown. In response, Bosnia and Herzegovina will have to invest in a swift recovery. These investments and the potential international support present an opportunity for strategic focus on opportunities and on removing identified constraints. Bosnia and Herzegovina’s strong revenue performance in recent years outpaced the growth in expenditures. As a result, it has one of the lowest levels of public debt among comparable economies and should leverage its considerable fiscal space to counter the negative impacts of COVID-19.

Restructuring and improving the performance of SOEs can allow Bosnia and Herzegovina to take advantage of existing assets, create fair competition with the private sector and reduce the environmental footprint. Bosnia and Herzegovina has many SOEs, which are dominant in many sectors. Their costs often significantly outweigh productivity gains, and their dominance stands in the way of private-sector development. Moreover, as public utility companies tend to set public utility prices below operational costs for political reasons, they discourage water and electricity savings, leading to an overexploitation of water resources and high levels of air pollution. Improving SEOs’ productivity and profitability and reducing their environmental impact will require defining goals and criteria for ownership of companies, effective performance-based management and hard budget constraints. This includes establishing budgetary and environmental objectives and developing policy options for SOEs with varying profiles and sustainability. To create fair competition with the private sector, it will be important to ensure the competitive neutrality of SOEs.

Bosnia and Herzegovina’s export basket shows potential, but roadblocks to investment must be removed to support job creation and the structural transformation of the economy. Bosnia and Herzegovina’s export basket shows promise of diversification (the economy ranks 42nd out of 137 economies in Economic Complexity) and industrial potential that can be further developed. However, compared to the Western Balkan region, Bosnia and Herzegovina underperforms in domestic and foreign investments. This likely reflects the more challenging business environment resulting from infrastructure gaps and a fragmented internal market, including a high bureaucratic burden. Appropriately developing key infrastructure, improving regulatory transparency and stability, reducing red tape and effectively tackling corruption to encourage investment through more contestable and competitive markets will be important. Bosnia and Herzegovina should also leverage on migration by creating links with its diaspora and channelling remittances to finance investments.

Optimising the social protection system and improving targeting of social benefits can contribute to financial sustainability, reduce poverty and foster a socially cohesive society. Bosnia and Herzegovina spends significant amounts of resources on social transfers, yet the support often does not reach people in need, rendering the social protection system financially unsustainable and ineffective. Moreover, current social protection is creating disparities among ethnicities, entrenching privileges for some and limiting opportunities for others, especially women, to participate in the labour market. To put in place effective social protection, Bosnia and Herzegovina should focus on needs, coverage and effectiveness, including in terms of the system’s adequacy, equity, efficiency, fiscal and financial sustainability and coherence with other polices and among different levels of government.

Bosnia and Herzegovina should use its unique governance structure to foster local development and ensure greater territorial cohesion. Regional disparities remain large; people do not have equal access to opportunities and quality services. Despite decentralisation, subnational governments’ fiscal power is limited, and revenues are lower than in the rest of the Western Balkans. This affects municipalities’ spending capacity, especially in the long term. Local governments should play a crucial role in service delivery but have little capacity to do so. To ensure better local development, it will be important to develop a clear vision for specific geographic areas, empower regional and municipal authorities with adequate financial and human resources and foster inter-entity collaboration.

Addressing corruption can substantially increase trust in public institutions and increase economic opportunities for citizens. The fight against corruption can become more effective only with stronger political commitment. The recent Anti-Corruption Strategy for 2020-2024 is an important step forward; however, actual implementation depends on political will.

Whatever its strategic direction, Bosnia and Herzegovina will need to maintain macroeconomic stability in the medium and long term. Bosnia and Herzegovina has built a stable macroeconomic environment. The financial sector’s health and stability have improved considerably, and private-sector lending is recovering. The profitability of the banking sector has also increased, but the financial sector has to be broadened.

To advance these strategic priorities, Bosnia and Herzegovina must better manage its natural resources and address air pollution. Illegal landfills and untreated sewer damage natural resources and pose a risk to biodiversity and well-being. Bosnia and Herzegovina has valuable natural resources, including some of the most pristine forests in Europe, and very fertile lands. The country can create opportunities for its citizens and enhance environmental sustainability by better utilising its natural resources. High air pollution is a significant burden on the population. Phasing out subsidies for coal mining and coal power plants is key to reducing air pollution and greenhouse gas (GHG) emissions. Bosnia and Herzegovina needs to align energy policy with environmental sustainability objectives and commitments and improve enforcement of existing environmental protection provisions.

Integration into the European Union is a good opportunity to accelerate reform processes in Bosnia and Herzegovina. Bosnia and Herzegovina was identified as a potential candidate for accession in 2003. However, the European Commission recently determined that more work is required in several areas – especially in guaranteeing democracy, the rule of law, the stability of institutions and the reduction of state presence in the economy – before Bosnia and Herzegovina becomes a candidate (Box 6.2).

Box 6.2. Bosnia and Herzegovina’s integration towards the European Union

The process towards integration with the European Union has been an important driver of democratisation, peace and institution building in Bosnia and Herzegovina and has provided the country with large financial and technical support for its development and regional integration. As part of the integration process, Bosnia and Herzegovina has worked to bring its legislation in line with the existing body of EU laws and standards (known as the acquis).

Through the Stabilisation and Association Process (SAP) since 1999, Bosnia and Herzegovina and the economies in the region have been involved in a progressive partnership with the European Union. The SAP rests on the following pillars: bilateral Stabilisation and Association Agreements; trade relations (wide-ranging trade agreements); financial assistance (the Instrument for Pre-accession Assistance [IPA]); and regional co-operation, such as the Central European Free Trade Agreement (CEFTA):

The Stabilisation and Association Agreement with Bosnia and Herzegovina, which entered into force on 1 June 2015, governs the relations between Bosnia and Herzegovina and the European Union. The agreement offers various benefits to citizens and businesses (such as visa-free travel), supporting institutional and democratic reforms, and encouraging neighbourly relations and trade (European Commission, 2020[33]).
The IPA has been important in providing Bosnia and Herzegovina assistance in reforms through financial and technical help. IPA II (for 2014-20) accounted for 3.3% of GDP in Bosnia and Herzegovina (EUR 552.3 million) (Figure 6.8. – Panel A). Most of the IPA II funds (40.4%, or about EUR 223.2 million) have been allocated to strengthening democracy and governance, and the rule of law and fundamental rights (Figure 6.8. – Panel B).

Figure 6.8. IPA II funding has been concentrated on democracy and governance, and the rule of law and fundamental rights

Regional co-operation has been another important driver in the SAP for developing infrastructure and networks in the region and establishing a free trade area between Bosnia and Herzegovina and other economies. Key regional initiatives include the CEFTA, the Energy Community, the Western Balkans Investment Framework and the Regional Cooperation Council. The CEFTA, an international trade agreement among economies in South East Europe, was one of the means of facilitating trade in the region and harmonising trade-related legislation with the European Union. The share of exports from Bosnia and Herzegovina to CEFTA economies in the Western Balkans increased from 2.1% in 2012 to 13.1% in 2019 (Figure 6.9). In 2019, 69% of exports went to Serbia (CEFTA, 2020[35]).

Figure 6.9. The role of the CEFTA in Bosnia and Herzegovina

Bosnia and Herzegovina applied for EU membership in February 2016. The European Commission adopted its opinion on the EU membership application in May 2019, identifying 14 key priorities for Bosnia and Herzegovina to fulfil in view of opening EU accession negotiations. The European Council endorsed the opinion and key priorities in December 2019. The opinion constitutes a roadmap for deep reforms in the areas of democracy/functionality, the rule of law, fundamental rights and public administration reform (European Commission, 2020[36]).

The new Enlargement Package and the adoption of the Economic and Investment Plan have set new directions for EU integration and recovery from COVID-19. Building on the Western Balkan strategy from 2018 (European Commission, 2018[37]), the Enlargement Package adopted on 6 October 2020 stresses the need to improve the EU integration process to be better equipped to deal with structural weaknesses in Bosnia and Herzegovina and other Western Balkan economies. In parallel, the European Commission adopted the Economic and Investment Plan to spur the long-term economic recovery of Bosnia and Herzegovina and the region, support a green and digital transition and foster regional integration into and convergence with the European Union. The support is crucial, especially in light of both the COVID-19 impact and the existing challenges, such as weak competitiveness and high unemployment. The plan will mobilise up to EUR 9 billion of IPA III funding for 2021-27. A large majority of this support will be directed towards key productive investments and sustainable infrastructure in the Western Balkans through the ten flagship initiatives. Through the Western Balkans Guarantee facility, the ambition is to raise additional investments of up to EUR 20 billion (European Commission, 2020[38]; European Commission, 2020[39]).

Note: The ten flagship investment initiatives are: two transport infrastructure projects (connecting east to west and north to south), renewable energy, transition from coal, connecting coastal regions, building renovations, waste and water management, digital infrastructure, supporting the competitiveness of the private sector, and youth support.

Source: European Commission (2020[33]; 2020[36]; 2020[38]; 2020[39]; 2018[37]). (CEFTA, 2020[35]).

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