14. Multi-dimensional analysis of development in North Macedonia

This chapter of the MDR of the Western Balkans identifies the key capabilities and most pressing constraints in North Macedonia by linking economic, social, environmental and institutional objectives. The assessment is organised around five thematic sections based on the five pillars of the 2030 Agenda: People, Prosperity, Partnerships and financing, Peace and institutions, and Planet. Whenever relevant, North Macedonia is compared with a set of benchmark economies in the region (Albania, Bosnia and Herzegovina, Kosovo, Montenegro, North Macedonia and Serbia), the OECD (Costa Rica, Czech Republic, Greece, Slovak Republic, Slovenia and Turkey), non-OECD economies in the European Union (Croatia and Romania) and non-OECD economies in other regions (Kazakhstan, Morocco, Philippines and Uruguay). It includes regional aaverages for the Western Balkans and OECD and EU members.

The People pillar of the 2030 Agenda for Sustainable Development places quality of life centre stage, focusing on the international community’s commitment to guaranteeing the fulfilment of all human beings’ potential in terms of equality, dignity and health. In the past decade, North Macedonia has improved the standard of living for its citizens, reduced poverty and undertaken important social protection reforms.

However, there is still a long way to go to achieve a thriving society that provides opportunities for all. More and better jobs are needed, and the economy’s full human capital needs to be utilised. This will involve equipping people with better skills and supporting people, especially women, young people and ethnic minorities, to participate equally in the formal economy. Citizens will need better health care, especially preventative and primary care, to tackle the rising burden of lifestyle diseases that the economy has been seeing. The current social protection system can do more to target poor families and is not fully financially sustainable going forward. There remains room for improvement in gender equality, namely in the area of access to assets and safety. The People section in this chapter identifies five major bottlenecks to the well-being of North Macedonia’s population (Table 14.1).

Living standards, exemplified by rising GDP per capita and household consumption over the past 15 years, have improved for Macedonians, but poverty and inequality remain issues. Poverty rates have significantly dropped since 2008 but are still very high, with 18% of the population living on less than USD 5.5 a day (Figure 14.1 – Panel A) (World Bank, 2020[1]). While disposable income inequality is in line with regional peers, North Macedonia has the highest market income inequality among all benchmark economies (Figure 14.1 – Panel B). This points to the relatively high redistributive effects of the tax-benefit system and also indicates that there is a large number of households on low-market income, which can be related to age, emigration or unemployment. Both measures of inequality have changed little since 2008 (Solt, 2019[2]).

Citizen perceptions confirm the stagnant pattern in living standards. The 2016 Life in Transition Survey found that only 8% of Macedonians believed that their position on the income distribution had improved since 2010, pointing to the continued economic vulnerability of many households and the failure to consolidate a middle-class society (World Bank, 2018[3]). In addition, while the overall life satisfaction has markedly improved since 2010, the average response on a scale of 0-10 was 5 in 2019, compared to 7.4 in OECD economies (OECD, 2020[4]; Gallup, 2020[5]). Nevertheless, 65% of people felt optimistic about their children’s or grandchildren’s future in 2016, significantly higher than the EU28 average of 57% (Eurofund, 2018[6]). On a scale of 1-10, average trust in other people was 3 in 2016, significantly lower than the European Union average of 5.2 (Eurofund, 2018[6]). There is significant research showing that inequality can lead to lower levels of trust in other people and that economies where ties within known groups, such as families, are strong tend to show lower trust in people outside these circles (OECD, 2017[7]).

The well-being of Macedonians greatly depends on their place of residence. Regions affected by high poverty are mainly located in the north (which hosts more than half the economy’s population), including the Polog, Skopje and Northeast regions, with poverty rates as high as 42.8% in the latter. The north is largely dependent on agriculture, and almost 33% of the working poor are active in this sector, compared to 13% of the working non-poor (World Bank, 2018[3]). Employment rates range from 37% in the Northeast region to 63.3% in the Southeast region. Labour force rates are also very low in some regions, indicating that a significant share of people are not economically active anymore. Labour force participation rates were lowest in the Polog and Northeast regions (51.9% and 55.2% in 2019, respectively) and were the highest in the Southeast region (67.6% in 2019). Infant mortality rates, which are a concern for the economy as a whole, as described in the health section below, also vary significantly, ranging from 4% in the Vardar region to 8.7% in the Polog region, according to national estimates (Table 14.2). To boost regional development in North Macedonia, the European Union has created several programmes in the three least developed administrative regions.

As in other Western Balkan economies, ethnic inequality in North Macedonia is stark, and minority groups are in many ways excluded from economic growth and society as a whole. Over 40% of the poorest quintile are estimated to belong to households of ethnic Albanian origins, with disposable incomes two-thirds those of households of ethnic Macedonian origins (World Bank, 2018[3]).1 Roma communities, which constitute 2.7% of the population according to the 2002 Census, are left behind in multiple ways. For instance, Roma women have worse health indicators (e.g. fewer prenatal visits, lower quality of care), and their children suffer from stunting more than the rest of the population (World Bank, 2018[3]). Moreover, about 33% of ethnic Roma children complete upper secondary school by age 25, compared to 87% of non-Roma youth, and virtually no Roma are enrolled in tertiary education (World Bank, 2018[3]). In 2017, about 20% of Roma aged 15 to 64 were employed, compared to 40% of non-Roma in neighbouring communities – a slight improvement since 2011 but a widening of the gap with non-Roma. The situation is particularly hard on young Roma women, 80% of whom were NEET in 2017, compared to 60% of young Roma men (World Bank, 2018[3]).

According to a 2015 population survey, only one in ten people personally knew a member of the LGBTI community, and 35% believed that paedophiles were part of that group (LGBTI Equal Rights Association for Western Balkans and Turkey, 2020[9]). Some 41% of people believed homosexuality is a sickness and would try to help their son or daughter find a cure for if they found out their child was not heterosexual. Some 89% did not support equal marriage (LGBTI Equal Rights Association for Western Balkans and Turkey, 2020[9]). In late 2020, the Parliament voted and passed the new Law on Prevention and Protection against Discrimination, which is in important step in addressing issues related to discrimination.

While the employment rate has improved in recent years in North Macedonia, it remains very low – less than 50% of the working-age population held a job in 2019 – and opportunities have not necessarily been created in a sustainable manner (Figure 14.2 – Panel A). In the years following the global financial crisis, jobs were mainly created through construction of very expensive, large-scale public projects, public-sector jobs, active labour market programmes (including subsidies for the self-employed and wage subsidies) and increased demand for labour in foreign-owned companies in the special economic zones (Vidovic et al., 2020[10]; World Bank, 2018[3]). New public jobs in public administration, health, education and water supply constituted more than 20% of net employment growth in 2009-13 (World Bank, 2019[11]). Considering the fiscal cost of some of these interventions, it is questionable whether these gains can be sustainable (World Bank, 2018[12]). Relatedly, unemployment rates dropped somewhat in recent years but remain among the highest in the Western Balkans and above the international benchmarks (Figure 14.2 – Panel B).

Productive human capital is underutilised, and many young people are not active in the labour market. In 2019, more than half (about 53%) the population aged 15 to 64 were either unemployed or inactive (MAKStat, 2020[8]). The economy’s youth unemployment rate of about 39% in 2019 was the third highest in the Western Balkans, just after Kosovo and Bosnia and Herzegovina (49.4% and 39.7%, respectively) (Kosovo Agency of Statistics, 2020[13]; World Bank, 2020[1]). Likewise, the share of NEET youth was about 23%, double the OECD and EU averages (Figure 14.3 – Panel A). As many as 30% of young people work informally (Studies, 2020[14]).

Young talent is driven to migrate abroad. Poor inclusion of young people and migration of the high-skilled abroad (Figure 14.3 – Panel A), together with persistent long-term demographic pressures (Figure 14.4), pose a threat to the development potential of North Macedonia. The migration abroad of especially high-skilled young people and women in search of better employment opportunities drags down productivity growth and increases the speed of population ageing, making social protection more challenging. The working-age population will shrink from 71% in 2015 to 57% in 2050, and the share of elderly will expand from 12.5% to 24.5% (Figure 14.3 – Panel B). About 25% of the population lives abroad, a number that has been rising for ten years, while migrants constitute an estimated 32% of the economy’s high-skilled workers (World Bank, 2018[3]). Austria, Germany, Slovenia, Switzerland and Turkey are the main destination economies, although the nature of migration has changed over time. Germany, in particular, has set up a scheme that facilitates labour migration from the Western Balkan region, including North Macedonia. Despite these challenges, some recent efforts in North Macedonia, such as the implementation of the Youth Guarantee with the support of the Swiss Government,2 are a strong response to support NEET youth (European Commission, 2021[15]).

Like in other economies in the region, the low participation of women in paid work in North Macedonia is striking. It is one of the reasons the contribution base for social insurance payments is meagre (discussed below). After Kosovo, North Macedonia’s gender gap in labour force participation is the highest in the Western Balkans (Figure 14.3 – Panel B). This is at odds with female educational attainment, especially among cohorts younger than age 40, of whom 25% of women have post-secondary education, compared to 17% of men (World Bank, 2018[3]). Women are more likely to work in low-income jobs than men, and the estimated ratio of female-to-male earned income is 0.49, which represents the highest regional pay gap (USAID, 2019[18]; Nikoloski, 2019[19]).3 Gender differences in paid work are due to slow school-to-work transition, full-time household activities and cultural norms that encourage traditional division of labour. Indeed, about 41% of women but just 1.3% of men who are not in the labour force cite “personal and family obligations” as their primary reason for not looking for a job. Furthermore, one-third of Macedonian women reported believing that their primary role is not to work but to give birth and take care of the home (USAID, 2019[18]; Nikoloski, 2019[19]). While the economy has seen improvements in preschool enrolment, from 22% in 2012 to 35% in 2017, it is far behind the EU target rate of 95% (UNICEF, 2020[20]), and quality ratings for childcare services were the lowest of all economies surveyed in the European Quality of Life Survey in 2016 (Eurofund, 2018[6]).

There are various policy options to encourage female labour force participation. First, expanding the availability and affordability of childcare, in addition to promoting their acceptance (for example, by raising awareness about the well-documented benefits for early childhood development and by deregulating services to encourage private provision) will be key. Recent estimations predict that female labour force participation in North Macedonia would increase by 6.6 percentage points with universal childcare, which would more than pay for its cost with increased tax revenues (UN Women, 2019[21]). Similarly, expanding barely existent institutional care for the elderly can help free up time for family members with care responsibilities who wish to engage in paid work. Second, reforming parental leave rules, which currently grant nine months of paid maternity leave to women but only seven days to men (and only if the mother does not take up her leave entitlement), would encourage the participation of fathers in the care of newborns (Globalization Partners, 2020[22]). Third, gender-sensitive public education, including creation of role models and support for female entrepreneurship, can help change women’s professional aspirations (World Bank, 2018[3]).

Although far from reaching parity, female representation in national politics and private sector management is better than in the average OECD country. Following a gender quota introduced 17 years ago, 39% of parliamentary seats in North Macedonia are currently occupied by a female MP, compared to 29% in the OECD. Some 16% of ministerial positions are held by women, who also make up almost 33% of senior and middle managers, compared to the OECD average of 16% (OECD, 2020[23]; IPU, 2020[24]; World Bank, 2020[1]). However, the gender quota for Parliament does not include Roma or Turkish women, and overall female participation is much lower at the local level, where few women hold leadership positions. Only 8.5% of women in rural areas are members of a political party (USAID, 2019[18]).

According to the OECD Social Institutions and Gender Index, discrimination against women overall in North Macedonia is “very low”, but there is room for improvement in the areas of financial independence and safety (OECD, 2019[25]). Only 28% of women own property, which is traditionally registered in man’s name, and the share is even lower in rural areas (OECD, 2019[25]). Half the women who do own land are not active in decision making about activities related to their property (USAID, 2019[18]). Prevailing gender norms that normalise violence against women are also concerning: 14.5% of women in North Macedonia, compared to 8% in OECD economies, consider a husband justified in hitting or beating his wife for reasons such as burning food, going out without telling him or refusing sex (OECD, 2019[25]). While the government ratified the Istanbul Convention, which requires the criminalisation of all forms of GBV, as well as effective prevention and protection measures, North Macedonia’s criminal code only criminalises rape. Public policy should focus on implementing legislation for domestic violence prevention and improving data collection, since representative data on the extent of GBV in North Macedonia are currently not available (Tozija, 2020[26]). Evidence from small-scale surveys suggests that the issue is pervasive: 61% of 850 women surveyed in 2005 stated that they had suffered domestic violence (World Bank, 2018[3]).

While gender-responsive budgeting (GRB) will be compulsory with the new Organic Law on Budgeting, the capacity to carry out GRB in policy and budgets still needs to be built, and staff will need to be trained and sensitised accordingly (USAID, 2019[18]).

The extent and duration of unemployment suggest that activation policies are ineffective. While unemployment has decreased over the last decade (Figure 14.2 – Panel B), about three-quarters (74.7%) of Macedonians stay unemployed more than one year. This is well above the Western Balkan average of 67.4% and the OECD and EU averages of 29% and 43%, respectively. Moreover, the length of time spent unemployed increases significantly with age: among those aged 45 to 64, the period of unemployment averages about 11 years. The average worker aged 15 to 64 is estimated to lose about 25 years of productive employment during the work lifecycle (30 years for women) (World Bank, 2018[3]). This leads to loss of skills and motivation, and overall discouragement among peer groups. Long-term unemployment also affects earnings through degradation of skills: earnings of those who find employment after a longer period of unemployment are up to 20% lower than earnings of those who find employment sooner (World Bank, 2016[27]). Activation policies are currently too limited and underfunded to connect job seekers with quality work or to boost their skills. In 2018, North Macedonia spent 0.16% of GDP on active labour market policies, which is higher than the Western Balkan average of 0.12% of GDP4 but lower than international benchmarks, such as Croatia (0.71%) and Slovenia (0.61%) (European Commission, 2020[28]). Nevertheless, this is too low to upskill and connect jobseekers with jobs sufficiently. Currently, active labour market policies cover about 11% of all jobseekers, many of whom are categorised as hard to employ. Despite low coverage and lack of funding, the recent creation of a specific unit for youth employment in the Employment Agency is good step towards better co-ordination and monitoring of activities related to the transition from school to work (European Commission, 2020[29]).

North Macedonia’s labour market needs more flexibility. The economy has a rather low score on flexibility of wage determination, indicating that the wage bargaining process is very centralised and rigid, which in turn means that wages cannot adequately respond to changes in supply and demand (Figure 14.5 – Panel A). While the regulation on permanent employees is in line with OECD economies, the regulations governing temporary employment seem very restrictive (Figure 14.5 – Panel B). In the absence of adequate flexibility, firms are likely to seek other forms of employment, including choosing to operate informally.

Low job creation is, to some degree, related to supply-side constraints, particularly the weaknesses in education quality and insufficient alignment with labour market needs. Indeed, an inadequately educated workforce is the third greatest obstacle to doing business identified by North Macedonian firms, indicating that a better understanding of skills needs is required (World Bank, 2020[32]). While primary education enrolment rates are high, North Macedonia has one the lowest secondary and tertiary education enrolment rates compared to international benchmarks (Figure 14.6). The current education system also fails to equip people with job-ready skills. North Macedonia’s performance in the OECD Programme for International Student Assessment (PISA) is very low in terms of test scores (Figure 14.7), and ethnic Albanian students have lower results than ethnic Macedonian students (OECD, 2019[33]). North Macedonia’s education system tends to focus on top performers and neglect others, affecting equity in the education system. This in turn influences the participation of various groups, including women, people living in rural areas and ethnic minorities (OECD, 2019[33]). The education system lacks adequate funding to respond to the challenges. Between 2011 and 2016, public spending on education as a share of GDP fell from 4.6% to 3.8%. The adoption of the 2018-25 education strategy and related action plan, laws and by-laws clearly signals that education is the top priority for authorities. However, financial resources of EUR 8 million indicated under the proposed measure in the recent Economic Reform Programme (2020-22) are rather modest (European Commission, 2020[29]).

Education resources in North Macedonia are not efficiently allocated, and teachers lack sufficient quality to equip students with relevant skills. Although the pupil-teacher ratios at the primary, secondary and upper secondary education levels are among the lowest in the region and in comparison to international benchmarks, teaching quality is inadequate (Figure 14.8 – Panel A). Relatively small pupil/teacher ratios relate to the fact that North Macedonia has essentially two parallel education systems within its national system, as ethnic Albanian students attend separate schools, and their classes are taught in Albanian. Moreover, the system creates inefficiencies, as resources are duplicated. Teachers lack incentives and access to opportunities to develop their knowledge and teaching skills. The salary scale is largely flat and not linked to performance and opportunities for high-quality professional development organised by the government. Initial teacher education lacks selectivity: a vast majority of candidates who apply receive a place. Mechanisms in place are limited, including a lack of rigorous accreditation and teacher certification that would ensure that training programmes sufficiently prepare aspiring teachers, especially regarding practical demands (OECD, 2019[33]). Although teachers are expected to participate in at least 60 hours of professional development over three years, they rarely participate compared to other economies. Last, rather than boosting teaching quality, already very limited municipal education budgets were used on teacher recruitment (see the Peace and institutions section in this chapter), although the number of teachers in North Macedonia is adequate, except in upper-level mathematics and science classes (Figure 14.8 – Panel B).

Lack of skills is reflected at both the secondary and tertiary education levels. Insufficient general competencies, such as reading and writing, and technical skills characterise vocational school graduates in North Macedonia. One of the issues relates to the governance of the vocational education and training (VET) system at the municipal level. In the past, municipalities often introduced new classes that did not reflect a local need for such professions, or teachers lacked skills to provide adequate training in those areas. The result was a proliferation of classes across the economy. The Education Strategy for 2018-2025 defines challenges related to the VET system, including insufficient attractiveness of VET, especially of the two- and three-year vocational education; lack of modern post-secondary education; and not ensuring efficiency of VET reforms through centralisation of investments and concentration of results. With ongoing plans to introduce three major regional vocational and education centres, the government aims to improve the quality of the VET system (World Bank, 2018[3]).5

Although about 20% of university graduates are unemployed, employers complain that they cannot find people with the necessary skills (ETF, 2017[34]). One-third of tertiary graduates who do find employment have an official qualification that does not match their current job, while a further one-third are over-educated for their job. This can be attributed to a large number of programmes that are too theoretical, with little practical relevance; asymmetry of information, as many students enrol in programmes with little market value; and outdated curricula in many university programmes (World Bank, 2018[3]).

Health outcomes in North Macedonia are a source of concern. In 2013, over 46% of adult men smoked daily, and more than 2 700 cigarettes were smoked in a year – the third highest figure in the world after Belarus and Lebanon – while the tobacco taxation of 58.8% is low compared to neighbouring economies. Adult alcohol consumption (8.1 litres of pure alcohol per capita annually)6 is lower than OECD and regional averages, but it has increased by almost 30% since 2010 (World Bank, 2020[1]). More than 60% of adults are overweight, and 21.1% are obese, compared to 19% of adults in the average OECD country (WHO, 2013[35]). Around 33% children are overweight or obese. Nutrition in schools could be improved, quality physical education is missing and access to school recreational facilities and opportunities for extracurricular physical activities is limited (WHO, 2019[36]). Infant and under age 5 mortality rates rose between 2010 and 2016, partly because many doctors left the public health system (Figure 14.9). Child mortality dropped in recent years after the development of new protocols and standards for perinatal and neonatal health and the introduction of quality standards in newborn facilities. It remains, however, an area to watch. Maternal mortality stands at 8 per 100 000 live births, which is close to the EU average (World Bank, 2018[3]).

Healthcare system needs increased funding and more efficient organisation, especially in preventative and public PHC. After independence, the economy capitalised on existing, well-distributed health service coverage and built a social health insurance system with a relatively broad benefits package, covering citizens with universal access. Reforms in recent years include integration of public and private providers and a health information system that reduced waiting times and has led to better co-ordination of care (Kostova et al., 2017[37]). However, since the early 2000s, healthcare spending as a share of GDP has fallen and, up to 2017 (the year with the latest available data), remains low in per capita terms by international comparison (Figure 14.10). Health-sector revenues are very sensitive to employment and economic downturns, such as the predicted repercussions of COVID-19, since they depend heavily on payroll contributions from the population in formal employment, which represent 33% of the insured population but provide 84% of contributions (ESPN, 2019[38]).

The current allocation of funds points to inefficiencies. The share of Health Insurance Fund spending on PHC dropped from 30.1% to 29.3% in 2012-16, whereas the share of specialist consultative services increased from 28.6% to 31.3%. At the same time, allocations to hospital care decreased from 38.1% to 35.1% (World Bank, 2018[3]). Given the rise in non-communicable diseases, particularly diabetes and lung cancer, it is necessary to restructure underused and overstaffed hospital services and to boost underdeveloped and fragmented preventative and primary care. At 22% in 2015, the mortality rate from cardiovascular diseases, cancer and chronic respiratory diseases for those aged 30 to 70 in North Macedonia was significantly higher than the EU average of 13% and slightly above the 18% to 20% rates in the Western Balkans (World Bank, 2018[3]). The government recognises the need for PHC reform and recently launched two pilot websites with the support of WHO and announced plans for a diabetes centre (WHO, 2020[39]; Apostolova, 2018[40]).

Other challenges include cost effectiveness, corruption and retention of healthcare staff. Pharmaceutical-sector reforms to decrease medicine unit prices and increase access to innovative and cost-effective therapies (e.g. telemedicine) should be prioritised to curb the 35.4% out-of-pocket (OOP) expenditures in total health spending, which is below the regional average but more than double the EU and OECD levels of 15% and 13% (World Bank, 2020[1]). In addition, corruption in the healthcare sector will need to be addressed, since the majority of OOP expenditures go to direct payments for privately purchased healthcare services and informal payments (ESPN, 2019[38]). The government doubled salaries for medical staff between 2017 and 20207 to prevent the migration of specialists to private practices and to Western Europe, but further efforts will be needed to retain human capital. The Medical Chamber of the Republic of Macedonia recently listed the overall lack of funds, old equipment and lack of transparency in human resource management as critical factors that render working in the public health system unattractive (Apostolova, 2018[40]). While a pay-for-performance scheme for physicians in secondary and tertiary care has existed since 2012, it currently does not measure any quality aspects or outcomes (WHO, 2017[41]).

Pensions in North Macedonia face challenges of sustainable financing given the relatively generous benefits, low contribution rates and low labour force participation. In 2018, North Macedonia’s social protection spending (including health) constituted 15.3% of GDP, slightly higher than the Western Balkan average (14.6%) but about half the share in European economies (28.2%) (ESPN, 2019[38]). More than 60% of spending, or 9.3% of GDP, goes to the mixed pension system, which includes unfunded and two-funded pillars. This represents an increase of 1.1 percentage points since 2008 due to a range of policy measures, including abolishment of formal indexation mechanisms in favour of ad hoc supplementary pension increases between 2014 and 2017 (ESPN, 2019[38]). Furthermore, in an attempt to promote employment, North Macedonia reduced pension contributions from 21.2% to 19% in 2009 and introduced contribution exemptions. This came at the cost of fiscal sustainability – the pension system currently runs at a sizable deficit of 4.5% of GDP, which is projected to more than double by 2030 – but did not increase labour force participation (IMF, 2016[42]).8 Currently, general government budget constitutes 43.5% of pension funding.

Recent reforms under the 2019 Law on Social Protection saw a switch to price indexation of pensions, which is likely to reduce the deficit in the short run (European Commission, 2020[29]). There will still be a need to generate more savings, particularly considering the introduction of a new social pension under the same reform package (World Bank, 2018[43]). Specifically, the incremental introduction of social contributions from temporary incomes (currently only subject to personal income tax) and increased support for female labour market participation are policy options to consider.

Previous social assistance programmes, small in scale and poorly targeted, have not substantially alleviated poverty and have shifted focus to supporting families with children. Spending on social and unemployment assistance represents only 10.5% of all social transfers, or 1.6% of GDP, the lowest in the region (ESPN, 2019[38]). Social assistance expenditures increased by 0.3 percentage points in the past decade due to the introduction of categorical benefits, such as a relatively generous parental allowance for a third child until age 10, which has done little to increase birth rates. Meanwhile, the number of households receiving the two previous anti-poverty programmes has more than halved due to a fixed income and low-income threshold, and expenditures on these schemes dropped from 0.6% of GDP in 2005 to 0.2% of GDP in 2016. This is only half the 0.4% of GDP spent on parental allowance (ESPN, 2019[38]). Indeed, social assistance programmes reached fewer than 25% of poor households in 2016 and only reduced the risk of poverty by 3.7%, slightly less than the average of 3.9% achieved in the region and half the reduction observed in the European Union (ESPN, 2019[38]). At the same time, various rules, such as regressive tax wedges and immediate withdrawal from social transfers when earning income above the benefit amount, have discouraged employment (World Bank, 2018[44]).

The GMI, under the 2019 Law on Social Protection, tackled some of these social protection issues. It consolidated existing social assistance programmes, introduced an improved equivalence scale, simplified administrative procedures and increased benefit eligibility thresholds and amounts. Currently, about 27 000 households receive social benefits under the new legislation. In the face of COVID-19, the GMI’s three-month rule for income assessment has been further relaxed to take into account households’ sudden drop in income (World Bank, 2020[45]). In addition, an unemployment insurance fund has been set up, social housing rents have been postponed and additional consumption vouchers have been distributed to the poorest households. These measures, aimed at supporting vulnerable populations, are likely at least to buffer the crisis in the short term (OECD, 2020[46]). In the medium to long term, especially if the recovery takes time, it will be important to look at the fiscal implications of financing a long-term spike in unemployment benefits and consumption support schemes and to gauge them against other measures to support the recovery process.

The Prosperity pillar of the 2030 Agenda for Sustainable Development calls for broad-based economic growth shared by all people. Over the past decade, North Macedonia has made notable progress in building a more competitive, export-oriented market economy. The economy’s growth has become broader based, supported by robust private investment and exports, in addition to consumption. Exports have become more diversified and sophisticated, largely on the back of manufacturing FDI inflows in the economy’s special economic zones. The external trade and current account deficits have improved significantly. Last but not least, this period has seen a significant increase in employment (from 34% in 2005 to 45% in 2019) and a rapid decline in unemployment, which halved between 2005 and 2019 (from 37% to 17.3%) (World Bank, 2020[1]).

Despite these positive developments, North Macedonia’s economy still faces significant challenges in achieving the prosperity-related goals of the 2030 Agenda. Linkages and spillovers from the FDI sector have been very limited, and non-FDI private investment has largely gone to the construction and trade sectors, with limited productivity gains. The past decade saw a significant decline in productivity growth caused by a decrease in within-sector productivity growth and limited gains from labour reallocation to more productive sectors. While employment has increased considerably, a significant share of this growth can be attributed to public investment projects or fiscal incentives for employment in the private sector, which may not be sustainable as the fiscal space narrows further, especially in light of the COVID-19 crisis.

North Macedonia needs to foster deeper integration between the FDI-dominated tradable sector and the domestic economy. Deeper integration would facilitate stronger transfer of technology and know-how and support productivity growth and more robust creation of high-productivity jobs in domestic SMEs. The capacities of local firms to meet the quality and technical standards required by the relevant industries in the FDI sector have to improve. The skills of the workforce need to match labour market needs better. Political stability and regulatory certainty are necessary to enhance the business environment (Table 14.3).

Over the past two decades, the economy of North Macedonia has grown at a relatively moderate pace, averaging 2.9% per year. In the period preceding the global financial crisis, growth was relatively stronger (Figure 14.11 – Panel A), driven by private consumption and investment (Figure 14.11 – Panel B), which were in turn fuelled by private transfers and strong credit growth financed by deposits and complemented by FDI inflows in the financial sector. Between 2003 and 2008, annual credit growth averaged 28%, annual remittance growth was 26% and private consumption and investment increased by a cumulative 35% and 49%, respectively (World Bank, 2020[1]).

In the post-crisis period, growth has been more volatile and has weakened considerably (Figure 14.11 – Panel A), but it has also become more broad based, with a stronger contribution from exports and private investment (Figure 14.11 – Panel B). Between 2008 and 2018, exports of goods and services increased by 2.3 times in real terms (Figure 14.11 – Panel B), and their share of GDP nearly doubled, from 33% to 60% (Figure 14.12 – Panel A). Investment rose by 66% from 2009 to 2017, (Figure 14.11 – Panel B), led by private-sector investment, which currently accounts for 80% of total investment. Public investment also grew considerably, providing significant stimulus to the economy during and in the aftermath of the global financial and Eurozone crises (Figure 14.11 – Panel B) (World Bank, 2020[1]).

The strong growth in exports has significantly improved North Macedonia’s external balance. The trade deficit has declined from a high of 25% of GDP in 2008 to 13% in 2018, and the current account deficit declined to a historical low of 0.2% of GDP in 2018 (down from 12.7% in 2008) (Figure 14.12 – Panel B) (World Bank, 2020[1]). With exports comprising over 60% of GDP (Figure 14.12 – Panel A), North Macedonia is highly integrated, particularly with the EU market, which accounts for nearly 80% of the economy’s exports (MAKStat, 2020[8]).

Exports have largely been driven by FDI in the automotive and associated industries, which has contributed to significant diversification and upgrading of the tradable sector and to deeper integration into GVCs. In 2005, only two product categories, iron/steel and apparel, accounted for over 50% of all North Macedonia’s exports, while the remaining top exports included products with low technological content, including commodities (petroleum products, minerals), footwear, tobacco, fruits and vegetables and beverages. Since then, exports have continued to grow across all of these product categories except petroleum, but the export basket has become more diversified and sophisticated with the introduction of automotive sector-related exports. The automotive industry now accounts for most of the top exports, including chemicals (reaction and catalytic products), electrical machinery, industrial machinery and vehicles (Figure 14.13).

Automotive sector FDI has been one of the main drivers of the structural transformation of the economy. Over the past decade, most of the growth in value added in the manufacturing sector came from the automotive sector, along with the food processing industry (Figure 14.14 – Panel A). Automotive contributed significantly to manufacturing sector employment growth over this period (Figure 14.14 – Panel B). It also accounted for the largest share of manufacturing investment, which in turn accounted for 25% of total investment in the economy over the past decade.

Weak linkages with the rest of the economy have mitigated the impact of the tradable sector on GDP growth and structural transformation. FDI enterprises have sourced most of their inputs, other than labour, from abroad (Figure 14.15), and very few supplier relationships have been established over the past decade beyond auxiliary services provided locally. Anecdotal evidence points to limited spillovers in terms of education, training, etc. (OECD, 2017[48]). The limited growth impact of these sectors reflects the largely low value added activities in North Macedonia’s manufacturing plants, including labour-intensive assembly and cabling. (OECD, 2017[48]).

Even though investment growth has been strong, its impact on GDP growth has been relatively limited. Investments increased more than fourfold between 2008 and 2017, but the incremental capital output ratio for this period was 10. Investments targeted sectors with relatively weak productivity and weak potential for productivity-enhancing spillovers (Figure 14.16). The construction, wholesale and retail trade sectors accounted for 50% of total investment (MAKStat, 2020[8]). A significant share of public investments was allocated to civil construction projects, such as Skopje 2014, which included the construction of numerous monuments and administrative buildings in the nation’s capital (USAID/BIRN, 2018[49]).

The post-crisis period has seen a significant decline in productivity growth. In the pre-crisis period, productivity growth was driven by significant within-sector productivity growth and labour reallocation to more productive sectors (Figure 14.17 – Panel A). (MAKStat, 2020[50]). However, over the past decade, productivity growth has declined considerably due to weak reallocation and weak within-sector productivity growth (Figure 14.17 – Panel B).

Today, a large share of the workforce is still employed in low-productivity and low-wage sectors, most notably agriculture, which still accounts for the largest share of employment at 20% (Figure 14.17 – Panel B). Agricultural productivity, measured as value added per worker, has not improved notably over the past decade and remains low compared to regional peers and the EU and OECD averages (Figure 14.18). Analyses point to significant inefficiencies: a farm in North Macedonia can produce, on average, the same level of output with 55% less inputs (World Bank, 2019[53]). High agricultural subsidies do not create incentives for productivity growth in this sector or for the reallocation of labour to more productive activities (e.g. agribusiness, manufacturing, services). In fact, non-subsidised farms are more efficient than subsidised ones. Moreover, subsidies have had a negligible impact on poverty reduction: a 100% increase in market support and direct payments for agriculture between 2013 and 2016 led to only a 0.5% reduction in poverty (World Bank, 2019[53]).

The misallocation of resources has been noted at the firm level, as capital and labour have not moved from less productive to more productive firms. This problem has been exacerbated by SMEs’ limited capacities, access to finance and propensity to innovate and adopt new technology. The shortage of skills is further contributing to the challenge of boosting productivity growth and high-productivity job creation (World Bank, 2018[3]).

In this context, significant labour market challenges persist. Even though North Macedonia has achieved considerable progress in reducing unemployment, which fell from the peak of 37% in 2005 to 17.3% in 2019, the decline has been accompanied by high levels of emigration (World Bank, 2020[1]). Moreover, the unemployment rate remains high, and 68% of the unemployed consists of the long-term unemployed (Studies, 2020[14]). Youth unemployment stands at 39% (World Bank, 2020[1]). Labour force participation remains a challenge, especially among youth and women, for whom it represents 31% and 43%, respectively (World Bank, 2020[1]).

Despite its robust growth over the past decade, employment remains relatively low at 45%. The drivers of employment growth have been numerous: 1) public funds/public investment projects; 2) increases in public-sector employment; 3) labour-related fiscal incentives for employees in the special economic zones (which encompass almost all employment in the automotive and related sectors); and 4) recent employment subsidy programmes aimed in part at formalising informal labour and which currently represent 17% of total employment.

Looking to the 2030 horizon, North Macedonia can build on progress made over the past decade, but if FDI continues to be the driving force behind the structural transformation of the economy, wider and deeper linkages with the local economy need to be developed. This can entail focusing on attracting FDI that can source more content locally. The example of Belgian bus manufacturer Van Hool’s strong and expanding supplier relationship with the local company Aktiva might suggest that attracting smaller and more niche manufacturers could facilitate the development of more local supplier relationships compared to larger manufacturers with more established and complex supply chains. More importantly, strengthening the capacities of local companies to innovate, adopt new technologies and meet quality standards can support the development of more supplier relationships and enable the internationalisation of SMEs even outside of the FDI channel (e.g. in information and communications technology, agriculture).

Strengthening human capital can significantly contribute to these development objectives. A better educated and skilled workforce can also support the attraction of higher value added activities, such as R&D, among existing FDI investors. Removing outstanding barriers to enterprises’ investment and growth is also needed to facilitate the growth and development of local SMEs. This primarily entails fostering a more stable political environment, strengthening regulatory quality and implementation, reducing corruption and promoting more fair competition.

Linkages between the FDI sector and local enterprises have been thus far very limited, largely because local firms cannot meet the technical, safety, delivery and other requirements of the automotive industry (OECD, 2017[48]). This reflects many underlying constraints, including firms’ limited capacities to innovate and to adopt new technologies, weak management and workforce knowledge and skills, and weak access to finance for investments in training and certifications.

At 0.1% of GDP, firm investment in R&D is low compared to many regional peers and well below the EU benchmark of 1.5% (Figure 14.19). North Macedonia also ranks well below most aspirational peers in key innovation capability-related indicators on the World Economic Forum Global Competitiveness Index, including multi-stakeholder collaboration within companies (ranked 125 out of 140 economies), university-company collaboration (116) and number of patent applications (74, above only Albania relative to regional and aspirational peers).

North Macedonian firms also lag behind in achieving quality standards. This represents a critical barrier for GVC integration for many industries, including the automotive sector (Figure 14.20).

In recent years, the government has made considerable effort to improve firms’ access to finance, information and training and other needed support to boost innovation. The Fund for Innovation has indeed significantly expanded its funding instruments and available funds for SMEs and start-ups. However, as the data indicate, more progress is needed to catch up to the levels of innovation and technology adoption of aspirational peers.

Skills represent an important challenge for firms in North Macedonia, ranking higher than any other labour-related constraint, including wages and labour regulations, for firms across all major sectors (Figure 14.21) (World Bank, 2017[56]).

Skills have been an important constraint for job creation and productivity growth. About 33% of firms that have tried to hire workers report experiencing difficulties; in most cases, lack of skills was the primary impediment. About 50% of firms consider that their employees do not have sufficient skills for the jobs they currently occupy. This is particularly a problem in the automotive industry, where nearly three-quarters of firms report a significant employee skills gap. There is also frequently a mismatch between employees’ education and the jobs they occupy. This is a particular challenge for VET and university graduates, most of whom consider themselves overeducated for their jobs and claim that they do not use the knowledge they obtained during their schooling at all (World Bank, 2017[56]).

The skills gap refers not only to technical skills but also to general skills, such as communication, people skills and time management (World Bank, 2017[56]). In the latest Balkan Barometer survey, 29% of respondents noted deficiencies in their foreign language skills, 25% identified a need to improve their skills for effectively managing their own learning on the job, and 23% identified a need to improve their creativity, innovation and risk-taking on the job. Although North Macedonia is among the regional leaders in Internet access and use (Figure 14.22), there is still progress to be made in the population’s digital competencies. Nearly one-quarter of respondents identified deficiencies in their digital skills (RCC, 2019[57]). These underlying constraints reflect: 1) problems in the general quality of the education system; 2) the inadequate provision of technical skills needed by the labour market; and 3) the mismatch between professional qualifications acquired and the skills actually needed in the labour market.

The skills problem reflects demand-side constraints as well. Many labour market outcomes suggest that education does not have a strong pay-off in North Macedonia, which discourages the acquisition of higher levels of education and skills. Unemployment levels are high even for people with high levels of educational attainment (20% of the unemployed have completed tertiary education). A large share of people work in fields that do not match their qualifications and consider themselves overeducated. Consequently, tertiary education enrolment in North Macedonia is low and trails behind most regional and aspirational peers.

Incentives for skills acquisition are further weakened by the importance of other factors (e.g. political or family connections, bribes, prizing diplomas themselves over skills acquired) that determine hiring or salary outcomes, especially in the case of public sector employment. According to the Balkan Barometer survey, the top two assets for finding a job identified by respondents included a network of family and friends in high places (39%) and personal contacts (38%). By comparison, only 19% of respondents identified the level of education or qualifications as one of the top two assets for getting a job (RCC, 2019[57]). This discourages demand for quality education and skills acquisition even among those enrolled in higher education (World Bank, 2017[56]).

Political instability is a major constraint to investment and growth in North Macedonia. The highly polarised and fragmented political climate has resulted in frequent elections – 6 parliamentary elections over 15 years – with frequently contested results, obstructive opposition behaviour and a general climate of high political uncertainty. The best example of the large impact this uncertainty has had on the economy is the recent political crisis of 2016-17. The protracted crisis and ambiguity over the economy’s leadership resulted in a significant contraction in domestic demand, mainly private and public investment (gross fixed capital formation), which declined by 6% in 2017, and a decline in GDP growth to 1.1% (from 2.8% the previous year). In the latest Business Environment and Enterprise Performance Survey (BEEPS), political instability was identified as the main constraint by nearly one-third of all surveyed firms, making it the top constraint to doing business in North Macedonia (World Bank, 2020[32])

Political uncertainty has been coupled with high regulatory uncertainty, which stems from frequent changes in legislation and uncertain and uneven implementation of legislation. Frequent changing of legislation has been an important impediment for firms, making it difficult for them to keep up and comply with regulations. Coupled with uneven and discretionary enforcement of regulations, reflecting weak governance and weak capacities of inspection bodies, frequent legislative changes add to the perception of uncertainty and discourage investment (World Bank, 2017[56]).

Unfair competition, especially from the informal sector, is cited as a major challenge for businesses in North Macedonia. In the latest BEEPS, more than 50% of surveyed firms noted that they competed against informal or unregistered firms, and 40% of all firms identified this as a major constraint. This particularly affects SMEs but is also an obstacle for manufacturing firms (World Bank, 2020[32]).

Corruption remains an important impediment to investment and growth. Even though considerable progress has been made in some aspects (e.g. government transparency vis-à-vis the media, participation of civil society in the policy-making process), there has been significant regression in other areas. Most importantly, the uncovering of corrupt behaviour in the very institutions tasked with preventing and fighting corruption, including the Special Prosecutor’s Office and the Public Prosecutor’s Office, has significantly undermined trust in institutions and further raised awareness about the persistence of high-level corruption in the economy. North Macedonia’s score and ranking in Transparency International Corruption Perception Index (CPI) has declined considerably in the last six years. It currently ranks 106 out of 198 economies globally and below most regional peers.

The Partnerships and financing pillar of the 2030 Agenda for Sustainable Development cuts across all goals focusing on the mobilisation of resources needed to implement the Agenda. It is underpinned by the Addis Ababa Action Agenda, which provides a global framework to align all financing flows and policies with economic, social and environmental priorities.

In the area of financing, North Macedonia faces considerable challenges in improving the public-sector revenue performance, increasing public capital expenditures and improving access to finance for the SME sector (Table 14.4). On the public-sector side, rising public debt over the past decade has limited the fiscal space, which represents an important constraint in light of the economy’s currency peg to the euro and related lack of monetary policy options. Public finance is also affected by structural constraints. Revenue performance remains weak due to high informality and tax evasion, significant fiscal subsidies and exemptions, and low tax levels, while inefficient current expenditures limit the scope for growth of productivity-enhancing capital expenditures. On the private-sector side, non-bank financing remains limited, and access to finance for SMEs, start-ups and innovative projects remains constrained. Rising public debt is exacerbating this challenge, as higher domestic financing for the government is likely to crowd out bank lending to the private sector further.

Over the past decade, the economy of North Macedonia has relied heavily on external financing. Since 2008, external debt has quadrupled to 73.3% of GDP on the back of rising public and private debt (Figure 14.23), which currently account for 45% and 55% of total external debt, respectively.

This period saw a significant increase in FDI inflows. In the pre-crisis period, FDI in the financial, retail and other sectors significantly fuelled the consumption-driven growth. In the post-crisis period, strong growth in the predominantly manufacturing FDI has been one of the main drivers of the structural transformation of the economy (Figure 14.23).

The past decade saw a significant increase in public debt as the government relied more heavily on fiscal stimulus measures to support economic growth and job creation in the aftermath of the global financial and Eurozone crises. These measures included public investment in infrastructure and civil construction projects, fiscal incentives for FDI in the special economic zones, employment-related subsidies and higher employment in the public sector (World Bank, 2018[3]). Coupled with weaker revenue performance due to a slowdown in economic growth in the post-crisis period, these measures resulted in a significant increase in the fiscal deficits (Figure 14.24 – Panel A) and the doubling of public debt between 2008 and 2019 (Figure 14.24 – Panel B).

Even though, at around 41% of GDP, general government debt is not high by regional standards (Figure 14.24 – Panel B), the narrowing of the fiscal space over the past few years has important implications. Since the MKD is pegged to the euro, the National Bank has limited options on the monetary policy side to stimulate the economy in times of crisis. Moreover, with roughly 80% of government expenditures going to public wages, social transfers and subsidies, which are difficult to cut, the government’s ability to adjust expenditures in response to declining revenues or to redirect spending towards other pressing needs, such as the ongoing economic crisis, has become much more limited.

The high reliance on external financing of the public debt has elevated fiscal risks, as has the high share of foreign currency-denominated public debt (more than 67% of total debt). On the other hand, the maturity of public debt has increased substantially over this period, contributing to reduced rollover risks (Ministry of Finance, 2018[59]).

On the private-sector side, the past decade saw a significant increase domestic savings. Consumption as a share of GDP declined from 97% to 80% in this period (World Bank, 2020[1]), and domestic savings rose from 3% of GDP in 2008 to 20% in 2019 (Figure 14.25 – Panel A). However, as noted in the Prosperity section in this chapter, the high share of domestic investment in the construction and real estate sectors has mitigated the impact on economic growth and development. Structural challenges in financial intermediation and underdeveloped financial markets have also limited the impact of increased savings on domestic investment and growth.

In the post-crisis period, remittance income declined considerably. Even though remittances have not contributed as significantly to the economy in North Macedonia as they have in most regional peers (at the 2011 peak, they amounted to 4% of GDP), their strong growth supported consumption in the pre-crisis period, and their decline of over 25% since 2011 is notable (Figure 14.25 – Panel B).

In the aftermath of the global financial crisis, revenue performance weakened considerably. Revenues as a share of GDP have declined, from 32.9% of GDP in 2008 to 28.6% in 2018, largely due to weaker performance in the collection of Value Added Tax (VAT) and import duties. Revenues are considerably lower compared to most aspirational peers, especially with respect to the collection of personal income tax and social contributions (Figure 14.26). Over this period, North Macedonia also experienced the largest changes in the revenue mix compared to other Western Balkan economies, with an increase in the share of tax revenues (by 6% between 2011 and 2018) and a decline in the share of grants and other non-tax revenues (by 5.3% between 2011 and 2018). Likewise, there was a change in the tax mix: the share of excise and profit taxes revenues increased while the contribution from VAT revenues declined, reflecting exemptions, including road tolls (OECD, 2020[61]).

The relative underperformance reflects a low tax base and significant tax avoidance. Informal employment remains high at 18% of total employment. Under-reporting of wages and envelope wages are widespread: partially or fully undeclared income has been recorded among 44% of employees (European Commission, 2019[62]). Under-reporting of sales and non-issuance of fiscal receipts are also highly prevalent, and the share of companies operating entirely in the grey economy appears to be high. In the latest BEEPS, more than 50% of companies stated that they competed against unregistered firms (World Bank, 2020[32]).

Recently, the government undertook a few reform initiatives to reduce informal practices and improve revenue outcomes. A VAT refund scheme sought to incentivise consumers to demand fiscal receipts for the purchase of goods and services, as they are then able to receive a 20% refund on the VAT paid for domestic goods and services and a 10% refund on the VAT paid for foreign goods and services. Another initiative aimed at reducing envelope wages introduced subsidies on social security contributions paid by employers for wage increases (Government of the Republic of North Macedonia, 2020[63]). Since these are relatively new reforms, it remains to be seen if the revenue costs entailed will pay off through higher revenues and reduced informality.

The relatively weaker revenue performance also reflects low tax rates. North Macedonia has the lowest rates compared to global peers (Figure 14.27), with flat personal income, corporate income and capital gains tax rates of 10%. At the beginning of 2020, the government postponed the introduction of a progressive personal income tax and increase of the capital gains tax to 15% on account of unfavourable findings from the public revenue office’s analysis, which included weak expected impact on income inequality and high expected increase in tax evasion (European Commission, 2019[65]).

Weak revenue growth reflects significant fiscal incentives offered primarily in the special economic zones. This includes a special regime for corporate income tax, personal income tax on the salaries of all employees in the zones and VAT on traded goods and services in the zones. These special conditions are applied for a period of ten years (Public Revenue Office, 2020[66]).

Over the past decade, current expenditures have increased significantly (Figure 14.28 – Panel B), while capital expenditures have remained stagnant (Figure 14.28 – Panel A). Most of the growth in expenditures has come from subsidies and transfers, particularly pensions, healthcare spending and other subsidies (Figure 14.29). The latter includes agricultural subsidies, which are higher than those of regional peers and the EU average.

Despite significant pension reforms undertaken in the early 2000s to strengthen the sustainability of the North Macedonia pension system, over the past decade, the pension system situation has worsened. Rising pension expenditures due to ad hoc increases in pension levels have been coupled with decreased contribution rates and the introduction of exemptions of the payment of social contributions in order to support employment growth. At 9.3% of GDP, pension expenditures are high by international standards and are projected to continue to rise in the absence of proper implementation of the pension reforms started in 2019 (World Bank, 2018[44]). The new reforms include, among other things, a new indexation formula that further restricts the growth of pension expenditures, but as noted over the past decade, the success of the reforms will strongly depend on restraint with respect to ad hoc changes to this indexation. In light of the high public investment needs, to provide more space for higher capital spending, assessments of North Macedonia’s public finances point to the need for pension reform and reduced and better targeted agricultural subsidies (World Bank, 2015[67]).

Significant gains can be made through improvement in the efficiency of government spending. Benchmarking against peer economies indicates that, given the current spending on education, health and infrastructure, outcomes should be much better than they currently are. For example, student performance in the 2018 PISA was much lower than economies with similar levels of spending on education (Figure 14.30).

Financing for enterprises in North Macedonia comes mainly from commercial banks. Even though the banking sector share in total financial sector assets has been declining, it remains high at over 81%, with most of the remaining share belonging to pension funds. Banks account for 98% of all SME financing (European Investment Bank, 2016[68]).

The largely foreign-owned banking sector is liquid, well capitalised and profitable, and non-performing loans are relatively small at 4.6% of total loans (World Bank, 2020[1]). However, even though credit growth has been relatively robust at an annual growth rate of 7% between 2012 and 2019, it has been mostly driven by lending to households, which has increased fourfold since 2007 and currently accounts for 50% of total loans (Figure 14.31). Financing for the government increased significantly, especially in the aftermath of the global financial and Eurozone crises. It has accelerated recently in the face of the global crisis caused by the COVID-19 pandemic. Meanwhile, enterprise lending has remained relatively stagnant, despite strong and growing demand for loans from the private sector (National Bank of the Republic of North Macedonia, 2020[69]), especially in light of declining interest rates, which are low by regional standards. Indeed, over the past five years, the denar lending rate fell, from 7.5% at the end of 2014 to 5.4% at end of 2019. Enterprise loans currently account for 48% of total loans. This reflects, in part, the mandatory write-offs of non-performing loans that banks have had to make from June 2016 to today (National Bank of the Republic of North Macedonia, 2018[70]).

In the post-crisis economic context, lending has been particularly constrained for SMEs. Banks has been able to achieve good profitability thanks to strong expansion in the mortgage and consumer-lending sector and to a steady supply of high-yielding government securities. They have therefore been reluctant to expand significantly the lending portfolio to SMEs, which are considered riskier investments (World Bank, 2018[3]).

SME lending is constrained by high collateral requirements. Almost all lending to this sector requires some kind of securitisation and mostly immovable assets, which many SMEs do not have. Collateral requirements are high at 180% of the total value of the loan (World Bank, 2020[32]). This reflects, to a large degree, the difficulties of executing collateral, as it takes 1.5 years to resolve insolvency, and the recovery rate is just 48%, compared to 70% for OECD high-income economies (World Bank, 2020[72])

Non-bank financing remains to be fully developed. The law on financial companies and law on leasing provide the framework for loans and factoring by financial companies. Regarding equity, as a key type of non-bank finance, a number of economy-specific or regional investment funds operate in North Macedonia. However, so far they finance few projects, and their overall portfolio is relatively small. As a result, most non-bank financing for SMEs comes from the government.

Capital markets remain relatively shallow. On the one hand, there is a weak supply due to high-performing companies’ preference for internal or debt financing through banks. Weak fundamentals and low corporate governance also limit the quality of supply on the market. This results in weak demand and preference for investment abroad or in lower risk government securities (Shteriev, 2018[73]).

The Peace and institutions pillar of the 2030 Agenda for Sustainable Development encompasses peace, stability and trust, as well as effective governance and the performance of the public sector more broadly.

Since its independence, North Macedonia has been increasingly integrating with its neighbours and the rest of the world. As part of the SAP, the economy has been aligning its legislative framework to the EU acquis relatively quickly and partly successfully, and a Stabilisation and Association Agreement was adopted in 2004. It has signed multilateral agreements, such as the CEFTA and bilateral free trade agreements with Turkey and Ukraine, opening up access to markets with more than 650 million consumers. In 2020, it became part of the North Atlantic Treaty Organization.

The economy has made concrete institutional progress amid political instability and uncertainty. North Macedonia has suffered relatively fewer property rights issues than other economies in the region (such as Albania and Kosovo), in part because of a careful sequencing of the land liberalisation process in the 1990s. The judiciary has gained independence and has been proactively undertaking investigations, prosecutions and final convictions in corruption cases, including those at a high level. Major reforms of the public administration are ongoing and aim to increase the transparency of public institutions (European Commission, 2020[74]). These results are all the more impressive considering the economy is highly politically unstable (6 parliamentary elections over 15 years) and its political leaders have been hit several times by serious scandals.

Two structural obstacles continue to prevent the economy from unleashing its true potential.

First, power-sharing mechanisms have contributed to easing interethnic tensions over the past 20 years but have complicated the functioning of the state. In spite of significant progress since 2001, ethnic divisions and consequences have at times undermined the functioning of the state. Grievances between citizens of North Macedonia of Macedonian ethnic origin and those of Albanian ethnic origin always existed (although in minor forms), but they significantly deteriorated after the economy declared independence from Yugoslavia in 1991. At the beginning of the 2000s, tensions turned into an eight-month armed conflict between Albanian rebels and government forces. The conflict resulted in a series of political and constitutional reforms that introduced some power-sharing features (known as the Ohrid Framework Agreement). Since then, ethnic minorities have significant political power and must be equitably represented in the public administration. The mechanisms to safeguard the power sharing have nonetheless sometimes hindered the basic functioning of the state, such as the appointment of judges.

Second, North Macedonia’s commitment to fighting corruption is strong, but informal practices persist and create market inefficiencies. Citizens in North Macedonia can rely on the second largest informal network in the Western Balkans (after Montenegro) and the most expansive one (together with Kosovo) (Figure 14.32) (Efendic and Ledeneva, 2020[75]). This could be an indicator of strong social capital; however, the connections a family has – the vrski – can help its members get a job, gain access to services or overcome administrative obstacles (Otten, 2018[76]). Some politicians rely on them to distribute public jobs in exchange for support. Teachers, for example, are sometimes hired on political grounds rather than merit or because of loopholes in the decentralisation framework. The politicisation of the public sector can, in turn, distort democratic institutions – for example, public administration employees may be subjected to pressures during election periods (OSCE/ODIHR, 2017[77]) – and the activity of some judges. Bureaucrats may use vrski to steer tenders for public-private partnerships (Otten, 2018[76]).

Besides these two structural obstacles, the rest of this section discusses five key priority constraints to North Macedonia’s development that authorities are encouraged to tackle swiftly: 1) poor implementation of decentralisation reforms and distribution between central and local governments; 2) confusing and inefficient approach to regional development; 3) politicisation of the judiciary; 4) fragmentation of private agricultural land; and 5) lack of a census (Table 14.5).

North Macedonia has a long tradition of decentralisation. Municipalities were granted wide-ranging autonomy under the Yugoslav Federation, and their power was further enhanced after the economy’s independence through the Law on Local Self-Government (1995) and the ratification of the European Charter for Local Self-Government (1997). The new Law on Local Self-Government (2002) adopted under the Ohrid Framework Agreement aimed at redistributing administrative responsibilities at the subnational level. Between 2004 and 2005, significant reforms further reorganised local administrative units’ scope and consolidated the local public finance system.

Municipalities are the only layer of subnational government in North Macedonia. Since 1996, the number of municipalities has decreased from 123 to 81. Municipality borders largely reflect the distribution of ethnic groups in the territory. Around 80% of the citizens of North Macedonia of non-Macedonian ethnic origin live in municipalities in the Northwest and the Southwest.9 In 11 of these municipalities, they represent more than 90% of the local population.

Many functions have been delegated to municipalities, but adequate fiscal decentralisation has not followed. Municipalities play an important role in supporting local economic development and mobility, more than in most other Wester Balkan economies (Table 14.6). They provide education services (from preschool to secondary school), basic utilities and social welfare (such as elderly care) and environment protection (such as fire protection) and are at the forefront of public health (OECD/UCLG, 2019[78]). In spite of the broad portfolio of responsibilities, subnational expenditures amount to 4.9% of GDP, which is relatively low compared to neighbouring economies, such as Bosnia and Herzegovina (6.9% of GDP), Serbia (6%) and Montenegro (5.4%).

To finance public spending, local fiscal autonomy has been increased. Since 2004, municipalities administer the property transfer tax, the inheritance and gift tax, and the recurrent property tax. Municipalities can determine the base and rate of these taxes within the limits set by law. The recurrent property tax represents 15% of the total subnational revenues and is levied on land and buildings owned by legal entities and individuals. It is based on the market value of the property as estimated through a methodology defined by the central government and approved by the association of municipal councils. Municipalities can set the tax rates, which usually range from 0.1% and 0.2%, according to the type of property.

Yet, municipal fiscal capacity remains limited, as municipal revenue still relies heavily on grants. Subnational tax revenues represent only 7.2% of the overall national tax revenues, which is low compared to other Western Balkan economies, such as Serbia (16%), Bosnia and Herzegovina (12%) and Montenegro (11%). The income from the recurrent property tax (14.9% of subnational tax revenues) remains low with respect to other economies in the region, such as Montenegro (61%) and Albania (43%). This is partly because of outdated registers and cadastres that prevent local authorities from identifying and charging landowners. In these circumstances, municipalities are forced to draw most of their resources from intergovernmental transfers: in 2016, these accounted for 64% of local revenues (OECD/UCLG, 2019[78]).

The system of transfers is complex and may create the wrong incentives. There are five transfers: block grants, earmarked grants, VAT revenue, capital grants and grants for a delegated competency (OECD/UCLG, 2019[78]). Block grants are mostly distributed to finance primary and secondary education based on historical allocation and number of pupils. Most of them end up paying for teachers’ salaries because municipalities are barred from using their own resources for this purpose. This spares mayors from any potentially unpopular optimisation of their school network or a reduction in the number of teachers (Herczyński, 2019[80]). In fact, over the past decade, the number of teachers has been increasing, in spite of a declining number of students (World Bank, 2018[81]).10

The system of allocation of capital grants is fragmented and opaque. Municipalities can apply to 18 different programmes by submitting project proposals to various line ministries. As a result of the compartmentalised management of these programmes, resources may be channelled towards projects with overlapping scopes or opposing objectives. This can jeopardise a balanced regional development process, as argued below. Moreover, funding is awarded according to criteria that are not always transparent (World Bank, 2018[81]).

Limited fiscal autonomy affects the capacity of municipalities to provide quality services to citizens, undermines their fiscal viability and sustainability and leads to an accountability issue.

First, the provision of decentralised public services is underfunded. The education sector particularly suffers (World Bank, 2018[81]). With limited own-source revenue and high vertical imbalance, municipalities are left with few resources for long-term investment, which remains low at 20% of subnational expenditures, in line with other economies in the region where the relationship between levels of government is not always clear (namely Albania and Kosovo).

Second, North Macedonia’s decentralisation process has undermined the fiscal sustainability of several municipalities. The arrears reported by local governments account for 1.2% of GDP and around 30% of all arrears in the public sector. Most of them (MKD 4.6 billion) arise from municipal budgets, while MKD 2.5 billion are on the books of municipal utility companies (World Bank, 2018[81]). This undermines the credibility of local institutions among investors and lenders and could become a problem for the central state in the long term.

Third, fiscal considerations aside, limited fiscal decentralisation may undermine the transparency of the decision-making process. Local politicians are more accountable to those disbursing grants (the central government) than to their citizens, and spending decisions may ignore the actual needs of local communities. Faulty mechanisms to monitor local spending may exacerbate the transparency issue. Between 2017 and 2018, the central government adopted a Public Financial Management Reform Programme 2018-2021 and specific legislation to improve the transparency of and accountability for the use of public funds. Their implementation depends on co-ordination between the Ministry of Local Self-Government and the Ministry of Finance, which is limited. In principle, these ministries should jointly monitor the operations of municipalities; in reality, they do not co-ordinate. Moreover, line ministries should normally keep local municipal departments accountable for budget execution, but in practice, few of them have put in place tools to monitor and promote performance on a systematic basis.

Fourth, municipalities in North Macedonia might be too small to exploit economies of scale in the delivery of local public services. In spite of past reforms, their average size is still much smaller than in the rest of the Balkans (28 050 inhabitants, compared to 37 500 inhabitants). Around 38% of municipalities in North Macedonia have fewer than 10 000 inhabitants (Figure 14.33) and host 7% of the economy’s population. In neighbouring Albania and Kosovo, small municipalities are rarer (15% and 26% of all local administrative units, respectively), and they host only 2% and 3% of the total population. In Serbia, 18% of the total municipalities have fewer than 10 000 inhabitants, and they host around 1% of the population. North Macedonia has only two municipalities with more than 100 000 inhabitants (Skopje and Kumanovo, in the Northeast region), while Albania and Serbia have seven and nine, respectively. To enhance service provision, the Law on Local Self-Government envisages the establishment of intermunicipal mechanisms for the joint provision of public services and goods. These mechanisms are, however, underused. To ensure better co-ordination among local administrative units, North Macedonia might need to rethink the role of regions.

North Macedonia is divided into eight “planning regions”, which have no administrative power. The regions of Skopje and Pelagonia account for 54% of GDP and 45% of the population (around 860 000 inhabitants) and continue to attract people. The poorest regions in the economy, Polog and the Northeast, have not caught up for the past 20 years. Their real GDP per capita has increased by only 2% annually since 2000 and remains three times lower than that of Skopje (which is the highest, amounting to approximately MKD 300 000). Overall, regional disparities seems higher than in other economies in the region (see the People section in this chapter).

To narrow regional gaps, the central government allocates funds amounting to at least 1% of GDP from the yearly state budget. The way funds are allocated depends first on the region’s level of development, then on the quality of development plans and projects that regions periodically submit to central authorities. The level of development is defined according to a series of socio-economic indicators (GDP per capita, subnational revenues per capita, growth of total value added and unemployment rate) and demographic indicators (natural growth rate of population, an aging coefficient, net migration rate per 1 000 people and number of graduates per 1 000 people). The projects that receive funding have a proven potential to stimulate local development and can be realistically delivered given the implementation capacity of local authorities.

The 2007 Law on Balanced Regional Development (BRD) set the framework that regulates the planning process. On paper, this is bottom-up and involves six policy stakeholders at various government levels (Table 14.7). Each planning region has a dedicated centre for its development. With the support of the Bureau for Regional Development, the centres draft a ten-year Strategy for Regional Development – which includes objectives and a list of projects to fulfil them – and five-year action plans. The Strategy is then formally approved by a regional Council for Development of the Planning Regions (hereafter the regional council) and then by the Council for Balanced Regional Development (hereafter, the national council).

The national council sits at the apex of the planning process. It gathers all ministries whose portfolios touch wholly or partly on regional development issues and ensures harmonisation among regional plans, sectoral strategies and the national strategy. The Ministry of Local Self-Government, as part of the national council, defines the national strategy for balanced regional development and, through the Bureau for Regional Development, watches over the local allocation of funds and follows up on implementation. Regional councils and municipalities contribute to the drafting of the regional plans and keep the respective centres accountable for implementation – the former by selecting their heads, the latter by financing their operation. Councils and municipalities then report back to the national council about the activity of the centres.

Institutional weaknesses, lack of local capability and opaque decision making undermine the efficacy of this system of allocation of funds for regional development. Interinstitutional co-ordination during the planning and implementation of the regional plans seems to be lacking. Mechanisms to monitor and evaluate the projects financed by the funds are missing or not systematically used (Karaeva, Ashtalkoski and Chungurski, 2018[82]). The functioning of the centres, at the heart of the planning and implementation process, can also be significantly affected by municipalities’ poor fiscal capacity and scarcity of resources, especially in strained regions. Last, planning regions are only functional territorial units characterised by common social and economic features, strengths and challenges. While their transformation into fully-fledged political units may be premature, it is not clear how the current legislative framework can provide citizens with enough leverage to contribute to the planning process.

The management of funds targeting regional development is fragmented. Since 2007, the regional funds allocated through the planning regions have been falling short of the minimum target of 1% of GDP set by law. As of December 2018, they amounted to only 0.2% of GDP. Most of the funds targeting projects with a regional component are instead distributed by line ministries through capital grants (see above) outside of the BRD framework. This parallel system of allocation does not involve the regional centres or regional councils in the planning and implementation phase and hence does not necessarily match the needs and priorities identified in the regional development plans. The Ministry of Local Self-Government needs more power to supervise and steer the distribution of regional funds, which potentially crowd each out or pursue overlapping or contradicting objectives. Moving forward, authorities are introducing an electronic system that will help the Ministry of Local Self-Government better monitor the distribution of grants from the central budget to the planning regions.

While judiciary independence is enshrined in the Constitution, courts are still perceived as biased and prone to political interference. The Venice Commission recently praised the constant efforts of North Macedonia’s authorities to align the legislative framework with international standards and best practices. Notably, the economy stepped up implementation of the Strategy for Reform of the Judiciary 2017-2022 and revised its action plan. Still, a large share of judges and legal experts believe that political parties, ethnic groups and nepotistic networks fundamentally steer the selection and dismissal of judges to favour private interests in decision making (Figure 14.34) (European Commission, 2019[83]). The crux of the matter seems to be the functioning of the Judicial Council, which is responsible for the whole careers of judges, watching over their autonomy and independence (Stojkova-Zafirovska, Aleksov and Godzo, 2019[84]).

The independence of the Judicial Council has increased, but its composition still raises concerns over its possible bias. According to the Law on the Judicial Council, the Council is composed of: the President of the Supreme Court and the Ministry of Justice (ex officio), eight judges elected by their peers, three lay members elected by the Assembly of the Republic of North Macedonia from among reputable and experienced law specialists, and two members elected by the Assembly upon proposal by the President of the Republic. Ex officio members participate without the right to vote and do not take part in discussions on the careers of judges. Yet, the presence of candidates indicated by the President of the Republic may be enough to steer some decisions. This is especially true considering the President of the Council is elected by only a simple majority (Art. 8). An election by qualified majority instead would force members of the Council to overcome political divisions and agree on a common candidate, possibly on the basis of their competences and not their political allegiances.

The method of appointment of judges by the Judicial Council leaves space for undue interference. According to the Law, the Council selects a judge on the basis of an applicant’s performance at the examinations organised by the Academy for Judges and Public Prosecutors. However, the Council still has the possibility of influencing the final ranking by interviewing candidates and then voting for the favourite. After the election, each Council member has to elaborate and justify her or his decision orally. While this obligation may seem to increase the transparency of the selection process, it exposes Council members to pressures and threats that could undermine their independence. Following the recommendations of the Venice Commission, the results of the selection process may instead be accompanied by a collectively reasoned decision on appointment. A collective rather than an individual decision would thus reflect the position of the majority of the Council and could be accompanied by potentially dissenting opinions (Venice Commission, 2019[86]).

The Law creates the conditions for ethnic groups potentially to block the election of judges too easily. The Council elects judges with a two-thirds majority of all the members, as well as a majority of attending members from ethnic minorities. This measure helps enforce the Ohrid Framework Agreement, but it could also lead to deadlocks. By law, the Council consists of at least four members from ethnic minorities: at least two (out of four) elected by the National Assembly and at least one (out of two) proposed by the President of the Republic. It is sufficient that only two of these members (13% of the Council’s members) vote against a candidate judge to stall the selection process (Venice Commission, 2019[86]).

Lay judges are another weak link in the North Macedonia judicial system. They wield power equal to that of professional judges, and their resignation may be enough to reboot trials in which they participate.11 In spite of their importance, they do not face the same public scrutiny as professional judges. According to the Law on Courts (Law No. 08-1577/2), appointed lay judges are not required to pass any specific examination (only to attend a legal training course), do not need to take psychological and “integrity” tests (to which professional judges are subjected) and are not explicitly prohibited from engaging in any political activities. Their salaries have been increasing but are still relatively low (MKD 600 per day spent in court and a compensation for travel expenses). Sketchy selection, low salary and considerable power make lay judges susceptible to bribery and undue pressure (Magleshov, 2020[87]).

Unlike other economies in the region, North Macedonia has not encountered particular issues related to land ownership. This is because, as the economy became independent in 1991, 78% of the agricultural land was already privately owned. Furthermore, the process of restitution of the nationalised land after the Second World War involved only 5% of the total agricultural land and proceeded in a more orderly way than in neighbouring economies (namely Albania). Reforms were indeed well sequenced, and the interests of state farms were initially protected. Thus, the original owners (and their heirs) of land where large state-owned enterprises had arisen had to accept either another plot as compensation or a form of co-ownership of the state farm. In March 2012, the government announced that the restitution process had been finalised. Since then, North Macedonia has been leasing the remaining 17% of state land, often to large farm corporations. The land reforms, however, have not yet solved land fragmentation, which is an inheritance of the farm structure under Ottoman rule (Hartvigsen, 2013[88]).

Private agricultural land is still highly fragmented. The average size of a family farm is 1.62 ha, slightly higher than in Albania but lower than in the rest of the Western Balkans (MAKStat, 2020[8]).12 Around 60% of farm holders own less than 1 ha. Smallholding is particularly common in the Skopje and Vardar regions, where more than half the family farms are under 0.5 ha. Moreover, landholdings are fragmented into five or more land parcels, with a parcel size ranging from 0.25 ha to 0.6 ha. Fragmentation and irregular shapes often complicate agricultural land cultivation and limit the use of modern mechanisation. Inadequate agricultural infrastructure, such as roads passing through arable land and obsolete or non-existent irrigation and drainage systems, make agricultural activities even more difficult. This severely curbs land productivity and forces farmers to face high transport and production costs.

North Macedonia recently embarked on land consolidation processes with the support of the international community. Through the European Union-funded Mainstreaming of the National Land Consolidation Programme (MAINLAND), the Food and Agriculture Organization assists the Ministry of Agriculture, Forestry and Water Economy to manage and implement the National Land Consolidation Programme by developing the expertise and strengthening the technical and administrative capacities of the ministry and key local stakeholders. Among other objectives, the programme aims to raise awareness among farmers about the advantage of land consolidation (FAO, 2019[89]). This arguably first major obstacle to any attempt at reform can be successfully overcome only by involving (formal and informal) village institutions in the process. Under MAINLAND, land consolidation assemblies were established at the village level to allow land owners to discuss and vote on plans for reallotment of agricultural land. In January 2020, the village of Egri (Bitola municipality, Pelagonia region) became the first in North Macedonia to adopt a local consolidation plan through majority-based voting by its dedicated assembly.

The State Statistics Office of North Macedonia (SSO) is the main national producer of official statistics in the economy. The National Bank, Ministry of Finance, Ministry of Interior, Ministry of Justice, Hydrometeorological Service, Institute of Public Health, Pension and Disability Insurance Fund and Employment Agency belong to the national statistical system, according to the Statistics Law (adopted in 1997 and last updated in 2018). According to the Peer Review conducted by Eurostat in 2017, the SSO is described in the legislation as an independent, professional administrative organisation with legal personality and powers (Alldritt, de Pourbaix and Carlquist, 2017[90]). In 2018, the government signed the Commitment on Confidence to ensure the professional independence of the SSO (European Commission, 2019[83]). The Statistical Council consists of 15 members appointed by a parliamentary body whose membership and role are regulated by legislation. Since a modernisation of its organisational structure in 2015, the SSO employs around 300 full-time staff operating in seven departments (MAKstat, 2020[91]).

In the past three years, North Macedonia has engaged in adequate statistical planning and coherent data dissemination practices. The SSO published a five-year programme of statistical surveys (2018-22) and a strategic plan (2019-21). In terms of data openness, at 64.2 out of 100 points, North Macedonia scores almost on par with European economies (average 67) (Open Data Watch, 2015[92]). The SSO is good at communicating data via quarterly press releases and social media, and its website is fully accessible in English (PARIS21, 2020[93]). The SSO also carries out biannual user satisfaction surveys to assess demand and feedback (MAKstat, 2019[94]).

The SSO has made significant progress in complying with international and European statistical standards. North Macedonia adheres to the Special Data Dissemination Standard Plus, the highest statistical data dissemination standard of the International Monetary Fund (IMF, 2020[95]). Eurostat and European Commission recommendations conclude that official statistics are broadly aligned with the European Union acquis. The SSO is currently fostering further alignment with these standards (Alldritt, de Pourbaix and Carlquist, 2017[90]).

Despite positive developments, the quality of social statistics requires improvement. While the SSO successfully concluded a survey on living standards and provided complete labour market statistics in 2019, migration statistics need to be expanded, and statistics on crime, education and public health need improvement (European Commission, 2019[83]). This is confirmed by a drop in available data on education and infrequent reporting of health data in the World Bank’s Statistical Capacity Indicator.13 For instance, data on child malnutrition have only been reported once over the past decade (World Bank, 2020[96]). However, internal documents provided by the SSO show that North Macedonia is currently working towards improved data collection and dissemination of social statistics in the domains of education and crime statistics (European Union/Republic of North Macedonia, 2019[97]).

The SSO has technical and financial capacity for a 2021 Census, but a parliamentary approval process is wanting. North Macedonia’s latest census dates back to 2002. The census round in 2011 was stopped because of disputes about its methodology among parties in the ruling coalition (Daskalovski, 2013[98]). The census planned for 2019 was postponed, first to 2020 because of snap elections, then to 2021 following the outbreak of the COVID-19 pandemic. Despite these circumstances, the SSO has advanced the methodology in an attempt to move to a combined census, which complements census data with administrative data. It extended its capacity to use administrative data and successfully concluded a pilot census in July 2019 (UNECE, 2019[99]). The combined method allows for a cost-effective and time-efficient headcount while expanding the overall statistical capacity of the SSO (UNECE, 2015[100]). The SSO has engaged in preparations for the 2021 census amid the COVID-19 pandemic. It secured funds to start the census process, the information technology infrastructure necessary for the enumeration is set up and the Agency for Real Estate Cadastre is in the process of preparing the census cartography. However, the Census Law, a necessary precondition for carrying out the census, is under parliamentary review.

Further delaying a population headcount might have long-term consequences on evidence-based policy making. North Macedonia still uses the 2002 population figure as a baseline for all other data, estimations and projections. This has consequences for the size of the public administration (which should grant a minimum representation of minority ethnic groups) and the policy-making process, since the demographic characteristics of the population partly affect the way resources are redistributed across the economy. For example, census data are normally used to build the sampling frame for household surveys (World Bank, 2018[3]). Missing census data might have implications for designing gender-sensitive and inclusive social and economic policies, especially during COVID-19 recovery.

Funding to data and statistics should be increased. Compared to other economies in the region, the SSO received relatively high external financial support for statistical capacity development (USD 12.6 million) in 2017 (PARIS21, 2019[101]). Yet, given North Macedonia’s plans to advance the methodology for a new census round and improve the scope and quality of certain statistical sectors, more resources are needed (European Commission, 2019[83]).

The Planet pillar of the 2030 Agenda for Sustainable Development reflects the need to find the right balance between socio-economic progress and capacity to sustain the planet’s resources and ecosystems and to combat climate change.

North Macedonia is located in one of the richest European regions when it comes to biological diversity, with a high degree of endemism, and the Ohrid region is an example of natural heritage. North Macedonia has 86 protected areas, covering 10% of the territory, and around 39.7% of the territory is covered by forests (Ministry of Environment and Physical Planning, 2018[102]). North Macedonia could build on its rich biodiversity by minimising environmental degradation, improving the preservation of its resources and enhancing the well-being and quality of life of all citizens. Taking advantage of regional fora and dialogues for environmental protection represents an opportunity for North Macedonia.

The Planet section in this chapter identifies three major constraints North Macedonia faces in its development path. First, North Macedonia is highly exposed and vulnerable to earthquakes, floods, droughts and extreme temperatures. Climate change is likely to increase North Macedonia’s vulnerability to natural hazards. Second, unsolved challenges in managing waste, high levels of air pollution and significant water losses threaten the environmental quality of life of all Macedonians. Better enforcement and implementation of environmental legislation will be essential. Third, North Macedonia needs to create a lower carbon energy sector. The economy is still highly dependent on coal, and energy supply is not sufficiently efficient and secure. Overall, as in other Western Balkan economies, environmental concerns remain a secondary concern in North Macedonia, but the EU approximation process could help raise environmental awareness and be a driver of environmental reforms (Table 14.8).

Situated in a seismically active region and in territory prone to floods, North Macedonia needs to improve its resilience to hydro-meteorological and geophysical hazards (World Risk Report, 2017[103]). In the last 30 years, more than 20 severe disaster events were recorded in the economy, resulting in around USD 409 million in direct damages (EM-DAT, 2020[104]). North Macedonia is highly susceptible to the floods, droughts and extreme temperatures in the region and among benchmark economies (Figure 14.35). The two most recent floods in 2015 and 2016 caused the death of 31 people and affected more than 133 500 (EM-DAT, 2020[104]). North Macedonia is considered one of the most arid areas in Europe. Regions around the Crna, Bregalnica and Vardar rivers are particularly vulnerable, but it is very difficult to estimate damages and losses, for example, in agriculture due to lack of consistent data (FAO, 2018[105]). Due to its location at the intersection of the African and Eurasian tectonic plates, North Macedonia has suffered numerous destructive earthquakes. One of the most significant was the 1963 earthquake in Skopje, which killed more 1 000 people, left around 200 000 without a home and caused direct losses estimated at around USD 8 billion, corresponding to 15% of the economy’s then gross national income (World Bank, 2018[3]).

Like the whole Western Balkan region, North Macedonia is expected to be warmer and drier due to the scarce precipitation projected as a consequence of climate change. North Macedonia’s climate ranges from Mediterranean to continental, with hot, dry summers and mild winters. Average annual precipitation ranges from 500 mm in the eastern part of the economy to 1 700 mm in the more mountainous western part. North Macedonia is vulnerable to climate change, with observed temperature increase for all representative concentration pathway (RCP) scenarios. The variation depends on the global efforts in GHG emissions reduction (Table 14.9). Climate change is likely to affect agriculture, tourism and hydropower, three important sectors for North Macedonia, strongly. Through its negative impact on the environment and increased risk of natural hazards, climate change will also have a negative impact on human health and quality of life in North Macedonia.

The current legislative framework regulating disaster risk management (Table 14.10) creates complexities and uncertainties. Various institutions (e.g. the Protection and Rescue Directorate [PRD], the Crisis Management Centre [CMC]) collect data and provide risk assessments but based on different methodologies. Duplications at the national level have had an impact at the subnational level.14 Subnational offices of the CMC (8 main and 27 smaller) and of the PRD (35) rarely co-ordinate or communicate (European Commission, 2018[107]). Furthermore, DRR is not integrated into long-term strategies or sectoral plans, especially for those sectors particularly exposed to disasters, such as agriculture (FAO, 2018[105]).

Macedonians and other Western Balkan populations are exposed to the highest concentration of air pollution in Europe. North Macedonia’s annual exposure to PM2.5 air pollution decreased from 39.1 µg/m3 in 2005 to 33 µg/m3 in 2017.15 However, it remains the highest level in the Western Balkans (25.77 µg/m3), more than double the EU and OECD averages (13.1 µg/m3 and 12.5 µg/m3, respectively) (Figure 14.36 – Panel A) and far above the WHO recommended maximum (annually) of 10 µg/m3. The number of pollutants exceedances in North Macedonia is considerably above EU limits (European Commission, 2020[108]). Skopje is one of the capitals most exposed to particulate matter in Europe (Figure 14.36 – Panel B). Pollution is considered a serious problem by 82% of citizens and a very serious problem by 45%, which were the highest percentages in the Western Balkans in 2019 (Figure 14.37). The level of environmental public awareness is encouraging and forces authorities to tackle pollution more systematically.

Air pollution has a considerable impact on the health of Macedonians and constitutes a serious threat to the economy. The estimated economic cost associated with mortality from exposure to air pollution in North Macedonia is between USD 500 million and USD 900 million annually, which was between around 5.2% and 8.5% of GDP in 2016 (World Bank, 2019[112]). Air pollution is estimated to cause 1 600 premature deaths per year, approximately 21% of which are in Skopje.

Residential heating, transport and road traffic, power generation, industry, and agriculture are the main sources of air pollution in North Macedonia. The main emissions sources for PM2.5 in 2016 were residential heating (63%), industrial processes (mainly ferroalloys production [20%]) and energy (6%). Regarding PM10, residential heating (46%), industrial processes (19.6%), energy (11%) and agriculture (12%) were the main contributors in 2016 (Ministry of Environment and Physical Planning, 2017[113]). Exceedance of the daily limit for particulate matter is particularly high during winter due to increased emissions from the burning of solid fuels for home heating. Transport and road traffic are significant contributors to air pollution, especially in urban areas, due to the low share of public transport16 and the significant use of old cars (average age of around 19.1 years) (MAKStat, 2020[114]). To tackle pollution through transport, since January 2020, all motor vehicles in North Macedonia are subject to taxation based on their level of CO2 emissions.17

The government recently adopted emergency measures, which apply when air pollution exceeds certain alert thresholds, but a more systematic approach is needed. When levels of air pollution are high, access to public transport is free, heavy vehicles are banned from entering in city centres and pregnant women and people over age 60 may be excused from work (Associated Press, 2018[115]). Medium-term and long-term measures to tackle air pollution have been included in national and local planning documents, and their implementation is in progress. However, authorities need to adopt a more systematic and integrated approach to tackle and reduce significantly the impact of air pollution in main city areas (Skopje and Tetovo) and in the economy more broadly. Most importantly, enforcement of regulations needs to be improved, and air quality inspectorates at the central and local levels need to become more effective. Measures to tackle air pollution should be enforced not only in winter months when pollution levels are highest but throughout the year.

North Macedonia has developed a national inventory of pollutants but has to enhance air quality monitoring. There are 17 permanent air quality monitoring stations across the economy (Ministry of Environment and Physical Planning, 2017[113]), which are subject to regular maintenance and monitoring. However, continuous monitoring of PM2.5 is not established in all monitoring stations, especially those outside of Skopje.18 The frequency of monitoring of other pollutants, such as sulphur dioxide, nitrogen oxides, ammonia, and benzene, toluene and xylene (BTX), varies across the monitoring stations (World Bank, 2019[112]).19 Monitoring of air quality should include a regular assessment of the impact on health.

Waste production in North Macedonia is relatively low, but its collection is not always effective. On average, the waste production rate amounts to 301 kg of waste per capita per year, lower than the EU and OECD averages of 492 kg and 525 kg, respectively, and lower than the rest of the region (Figure 14.38). The collection rate ranged between 73.98% in 2011 and 80.81% in 2017 (State Statistical Office, 2018[116]); however, populations living in rural areas are not always adequately served.

Waste collection fees are very low and do not cover operational costs. The tariff applied for waste collection is fixed by the municipal council based on size of household or living space and on volume of waste collected on companies’ premises (UNECE, 2019[111]).20 Fees are often evaded: at the national level, it is estimated that only 50% of the potential revenues are collected. The rate is higher in Skopje (80%), where fees collected are enough to cover the costs of collection.

The part of waste that is recycled in North Macedonia remains low (Eurostat, 2020[54]). Based on available data (which cover only ten municipalities: Bitola, Brod, Kriva, Ohrid, Palanka, Prilep, Resen, Skopje, Veles and Vinica), the recycling rate is 13.16% for metal, 18.86% for glasses, 33.1% for plastic and 85.18% for paper (Ministry of Environment and Physical Planning, 2019[118]). Only one landfill, Drisla, complies with national requirements; 54 others are not safe and operate without permits (UNECE, 2019[111]). Moreover, there are around 1 000 dump sites in North Macedonia, mainly in rural areas. Many landfills are located close to rivers and risk polluting surface and ground water. According to estimations, North Macedonia would need to invest around EUR 82 million to modernise the public waste management infrastructure (Ministry of Environment and Physical Planning, 2008[119]).

Access to quality drinking water is almost universal in North Macedonia, but monitoring in rural areas needs to be improved. The entire urban population and 97% of the rural population have access to drinking water (Government of the Republic of North Macedonia, 2020[120]); coverage difficulties exist only in some remote locations in rural areas. The quality of drinking water in urban areas is 94.4% compliant with EU standards, and the level of satisfaction with water quality is comparable to benchmark economies (Institute of Public Health of North Macedonia, 2018[121]; State Statistical Office, 2019[122]). The majority of households, especially in dense settlements, are connected to a sewerage system; in rural areas, the population uses septic tanks (UNECE, 2019[111]). The monitoring of water quality by the Institute of Public Health is not systematic in rural and vulnerable areas. Water quality remains a significant problem for many Roma households in rural areas (Government of the Republic of North Macedonia, 2020[120]).

North Macedonia has lower renewable water resources than other Western Balkan economies, but levels of water withdrawal are relatively low. There are four river basins (Crn Drim, Juzna Morava, Strumica and Vardar), and the total renewable water resources per capita per year amounts to 3 150 m3, which is below the regional and EU averages (Figure 14.39). However, North Macedonia’s water exploitation index is relatively low at between 8.3% (FAO, 2020[123]) and 11.2% in 2017 (EEA, 2020[124]). With the support of international donors, North Macedonia is working on the assessment and management of water at the river basin level. The river basin management plans for the Strumica River Watershed and the Vardar River Watershed have been prepared, the Crn Drim River Basin Management Plan is being finalised (Ministry of Environment and Physical Planning, 2020[125]), and river basin management councils are being established.

North Macedonia will have to prioritise among competing uses of water and significantly reducing water losses. Households and agriculture are the largest users of water in North Macedonia: 47.3% and 39.68% of the resources available, respectively. Demand from industry represents around 13.01% and is growing in the energy sector but remains low compared to other sectors (Ministry of Environment and Physical Planning, 2020[125]). Demand for irrigation is expected to increase, mostly as a result of warmer temperatures and a projected decline in precipitation, but the irrigation system may not be ready to accommodate it. The system is old and obsolete, lacks measuring devices on irrigation intakes and is the cause of significant water losses (Ministry of Environment and Physical Planning, 2020[125]; UNECE, 2019[111]).

North Macedonia has advanced considerably in establishing a normative framework to regulate the use of water, but significant gaps exist. The water sector is controlled at the national level, and municipalities have some regulatory duties; there are 75 water service providers in total in North Macedonia, almost 1 per municipality. Co-ordination among various ministerial bodies in charge could be improved, and the recently created National Water Council needs more political leadership in order to set a longer term and strategy-oriented vision for water in North Macedonia. The economy still needs to make significant efforts to implement the EU acquis in the area of water management (European Commission, 2020[108]).

Tariffs are affordable but do not discourage excessive water consumption and are often evaded. Municipalities can set their own tariffs based on a reference value and a range determined by the Energy Regulatory Commission. On average, tariffs amount to 1.7% of household income (UNECE, 2019[111]) but do not take into account actual water consumption. Non-volumetric pricing is still widely used, especially for irrigation water. In spite of their affordability, in 2018, water service providers collected between 32% and 78% of potential revenues (ERC, 2019[126]). However, information about revenues are partial, and it is not clear whether they are enough to cover the costs faced by water suppliers.

Undue interference may also undermine the efficient functioning of local public utilities, which are often used to allocate jobs in exchange for political support (World Bank/IAWD, 2015[127]).

The Ministry of Environment and Physical Planning in North Macedonia lacks resources and capacity. In 2018, the budget of the ministry amounted to MKD 671.3 million (around EUR 10 939 560), which corresponds to 0.35% of total central government expenditures (Ministry of Finance, 2018[59]). The state environmental inspectorate is an autonomous entity with its own budget. It is understaffed with only 17 inspectors at the central level and rarely co-ordinates with other environmental inspectorates, such as the forestry and hunting inspectorate. Unlike Albania or Kosovo, North Macedonia does not have a separate environmental protection agency.

Capacity is even more limited at the subnational level. The state environmental inspectorate does not supervise the appointment of local inspectors, who are instead appointed by mayors. This may create space for local patronage and therefore inefficiencies. Compared to inspectors at the central level, the mandate of local inspectors is too broad and covers several environmental dimensions (waste, soil, air and water) (UNECE, 2019[111]). Municipalities have no incentives to strengthen inspecting efforts, since by law, they collect most of the fees only on behalf of the central government.

Despite recent improvements, energy intensity in North Macedonia needs to be reduced, and the legislation on energy efficiency must be enforced. Energy intensity in North Macedonia is decreasing and, at 0.099 toe (tonne of oil equivalent)/USD 1 000, is below the Western Balkan regional average of 0.126 toe/USD 1 000 but remains high compared to the European Union (Figure 14.40). North Macedonia adopted a new law on energy efficiency that aims to align North Macedonia’s legislation with the EU energy efficiency and energy performance directives. However, the economy has not yet adopted the fourth action plan on energy efficiency, and the new legislation still needs to be fully enforced (European Commission, 2020[108]).

North Macedonia relies on domestic coal production provided by outdated power plants and on significant energy imports. Almost 60% of the final energy consumption was imported and the rest was covered by domestic production in 2017 (ERC, 2019[126]). Regarding final electricity consumption, around 26% is covered by imports and 74% by domestic electricity production (European Commission, 2019[62]). Some 50% of the domestic electricity production comes from coal (lignite), 33% from hydropower, 13.4% from gas and around 3% from wind, biomass and solar together (Figure 14.41). Electricity from coal is generated in two thermal power plants built in the 1980s, REK Bitola and REK Oslomej, managed by the state-owned company Elektrani na Severna Makedonija, with a total installed capacity of around 800 MW (ERC, 2019[126]). Construction of a new thermal power plant (Mariovo), with 300 MW power, appears in the government’s main long-term strategic energy documents but has not been included in the new strategy adopted in December 2019.21

Despite recent efforts, the production of renewable energy lacks diversification. The overall share of renewable energy in gross final energy consumption (including hydroelectric power) was 18.1% in 2018, which was below the Western Balkan regional average of 28.8% and slightly lower than the EU average of 18.9% (Eurostat, 2020[54]). Without hydroelectric sources, the share of renewable energy is only 2.9%. North Macedonia’s energy law is fully aligned with the EU Renewable Energy Directive (European Commission, 2020[108]). Since 2012, North Macedonia has introduced feed-in tariffs for small hydropower plants, wind farms, photovoltaic installations and power plants using biogas and biomass and has set limits of total installed new capacities for all renewable technologies except small hydropower plants. Moreover, in 2018, the new Law on Energy reinforced the support given to renewable energies by keeping feed-in tariffs for hydropower, biomass and biogas and introducing feed-in premiums for wind and solar. Even though feed-in tariffs for small hydropower are below the level of those for other types of renewable energy, the largest share of public funds spent on renewable energy subsidies is dedicated to small hydropower: operators of small hydropower plants received almost 42% of all resources spent on feed-in tariffs and premiums for renewable energies in 2018 (Gallop, Vejnovic and Pehchevski, 2019[129]).

Despite recent improvements, due to old electricity transmission and distribution networks, secure, reliable and constant electricity supply remains an issue in North Macedonia. Almost one-quarter of firms considered electricity a major constraint in 2019, along with political instability, practices of the informal sector and access to finance (WB/EBRD/EIB, 2020[131]). Electric power distribution losses decreased from 15.5% in 2014 to 13.4% today, and electric power transmission losses are in line with EU levels (1.8% in 2019). Despite these positive developments, electric power transmission and distribution losses and an outdated energy infrastructure remain issues. North Macedonia needs to adopt a more systematic approach to upgrading its energy infrastructure and to reducing transmission and distribution losses. The European Union is currently drafting a Green Agenda for Western Balkan economies with a focus on energy efficiency, which could play an important role in improving energy efficiency and in upgrading North Macedonia’s energy infrastructure.

The liberalisation of energy markets has been progressing quickly. The electricity and gas markets are currently open to competition. The liberalisation of the electricity market started in 2018, and the adoption of the 2018 Law on Energy and of the corresponding secondary legislation was a milestone (Energy Community Secretariat, 2019[132]). Electricity transmission operators have been unbundled and certified in line with the European Union’s Third Energy Package. Competition in the sector has been increasing. A continuation of this trend could result in better quality service and a more secure energy supply. It is important that North Macedonia unbundles its gas transmission operator in line with the European Union’s Third Energy Package (European Commission, 2020[108]) and continues to depoliticise its energy sector.

North Macedonia’s energy production based on lignite and the development of small hydropower plants risks having a negative impact on the environment and water resources. The mushrooming of hydropower plants has had an impact on water resources and on the preservation of biodiversity. Several of the already-built and planned plants are in protected areas. For example, some hydropower plants are in national parks (Mavrovo National Park [Tresonce hydropower plant on Tresonecka reka] and Pelister National Park [Brajcinska reka 1 and 2]) and directly threaten both the drinking water sources of local communities and the endemic species living in these protected areas (Gallop, Vejnovic and Pehchevski, 2019[129]). North Macedonia should align investments in hydropower with the relevant environmental EU acquis.


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← 1. Estimations are based on the nationally representative 2017 Quality of Life population survey carried out by the Finance Think research institute. Official poverty breakdowns by ethnicity can only be confirmed in the next census round, planned for 2021.

← 2. As a result of the Youth Guarantee programme, there were more than 650 young people employed or self-employed, 233 internships and 202 young people entering training in 2018 (Swiss Federal Department of Foreign Affairs, 2020[135]).

← 3. Women have particularly low salaries in textile and wearing apparel sectors, which together accounted for 5.2% of total employment and employed 85.2% of women in 2019 (MAKStat, 2020[8]). While the average gross salary in February 2020 was EUR 659 per month, in the textile sector, it was EUR 534, and in the wearing apparel sector, it was EUR 423 (Invest North Macedonia, 2020[134]). Considering the high share of women in both sectors, low wages are affecting many women.

← 4. Estimated data are for 2015 (Bartlett and Oruč, 2018[136]).

← 5. Based on analysis conducted in the three regions (Northeast, Polog and Southwest), the Concept for Regional VET Centres is in preparation. The objective is to build VET centres of excellence aimed at deepening student involvement in the labour market and to co-operate with various skills providers. Building a comprehensive network of participating institutions is expected to improve access to various technologies and to provide new skills-development opportunities (input from the Ministry of Education).

← 6. It should be noted that this is a crude measure of prevalence of alcohol abuse and does not allow determining whether consumption is concentrated among specific population groups.

← 7. Any impact of this reform on health expenditures is not reflected in this report, as the latest available year for internationally comparative data is 2017.

← 8. The change in regulation coincided with the aftermath of the global financial crisis, which also negatively affected non-public-sector-driven employment creation.

← 9. There are at least six ethnic groups in North Macedonia, representing 36% of the population. According to the 2002 Census, these are the ethnic Albanians (25.2% of the population), Turks (3.9%), Roma, Ashkali and Egyptians (2.7%), Serbs (1.8%), Bosniaks (0.8%) and Vlachs (0.5%). Other groups represent 1% of the population.

← 10. The pupil/teacher ratio decreased from 15 in 2007 to 11.3 in 2018, and the average class size decreased from 20.9 to 17.4.

← 11. For instance, the resignation of a lay judge in January 2020 sent a high-profile trial involving former Prime Minister Nikola Gruevski back to the beginning.

← 12. The average farm size is 3.2 ha in Kosovo (2014 data), 4.6 ha in Montenegro (2010) and 5.4 ha in Serbia (2012).

← 13. North Macedonia’s overall statistical capacity declined from 86 out of 100 points to 82.2 points in 2019 (World Bank, 2020[96])

← 14. Municipalities have specific duties in the DRR system (Law on Local Self-Government, 2002 and Law on Rescue and Protection, 2004) in terms of undertaking protection and rescue activities during natural hazards and fires. At the municipal level, the responsibilities of municipal councils and mayors differ as well.

← 15. The reduction of PM emissions is associated mainly with the decrease in industrial emissions due to the closure and reduced operating hours of ferroalloys facilities.

← 16. The average age of buses is around 18.7 years (MAKStat, 2020[114]).

← 17. The calculation of the motor vehicle tax consists of two components: an ad valorem component based on the value of the vehicle and a specific component based on the vehicle’s level of CO2 emissions and fuel type. The law on the motor vehicle tax adopted in January 2020 aims to raise citizens’ environmental awareness and incentivise them to use greener, less polluting vehicles in order to reduce air pollution and improve the environmental quality of life. This new law is in line with the EU's recommendation to introduce an environmental component in the taxation of motor vehicles to reduce pollution.

← 18. Over the last decade, PM2.5 was regularly measured in only two fixed monitoring stations located in the agglomeration of Skopje (Ministry of Environment and Physical Planning, 2020[125]; UNECE, 2019[111]).

← 19. For example, BTX is measured in only four fixed monitoring stations (Ministry of Environment and Physical Planning, 2020[125]).

← 20. The municipality of Skopje applied two tariffs: MKD 5.5 (EUR 0.09) per m2 for companies and MKD 3.59 (EUR 0.06) per m2 per household per month in 2018. These tariffs do not include VAT. Interview with the representative from the municipality of Skopje in February 2020.

← 21. A new Strategy for Energy Development of the Republic of North Macedonia until 2040 was adopted in December 2019 (Government of the Republic of North Macedonia, 2019[133]).

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