Explanatory Memorandum to COM(2023)53 - Amendment of DECISION (EU) 2022/563 as regards the amount of macro-financial assistance to Moldova

Please note

This page contains a limited version of this dossier in the EU Monitor.

dossier COM(2023)53 - Amendment of DECISION (EU) 2022/563 as regards the amount of macro-financial assistance to Moldova.
source COM(2023)53 EN
date 24-01-2023


1. CONTEXT OF THE PROPOSAL

• Reasons for and objectives of the proposal

In 2022, the global economic situation deteriorated. The circumstances underlying Moldova’s first request for macro-financial assistance (MFA), made in 2022, further worsened. Moldova is both directly and indirectly affected by Russia’s war of aggression against Ukraine, which came on top of the energy crisis it has faced since October 2021. Moreover, since the start of the war, over half a million people have crossed the Moldovan border, and about 90 000 remain in the country. This has put additional pressure on Moldova’s public finances. Therefore, the overall macroeconomic position weakened significantly in 2022. Following a marked post-pandemic recovery in 2021, growth in the first 9 months of 2022 plummeted and the country entered a deep recession. With limited buffers to mitigate the crisis, Moldova requested further assistance from international partners. This suggested MFA increase thus comes as part of larger EU and international assistance for Moldova.

The ongoing MFA operation was requested by Moldova on 19 November 2021. The MFA, amounting to EUR 150 million (in loans on concessional terms and grants), was adopted by the European Parliament and the Council on 6 April 2022 and entered into force on 18 July 2022. Following fulfilment of the policy conditions attached to it, the first disbursement was made on 1 August 2022. Under this ongoing operation, EUR 100 million (in loans on concessional terms and grants) remains available to Moldova until January 2025. The second disbursement is expected in the first quarter of 2023.

In line with regular MFA procedures, the operation was made available to Moldova in combination with a new International Monetary Fund (IMF) arrangement, which was adopted in December 2021 and expanded in May 2022. The expanded support by the IMF under the Extended Credit Facility / Extended Fund Facility (ECF/EFF) programme amounts to USD 795 million.

Notwithstanding the current assistance to Moldova, the ongoing energy crisis and the effects of the war in Ukraine continue to pose sizeable challenges. According to the IMF’s latest estimates (December 2022), Moldova’s overall external financing gap for 2023 has increased by EUR 430 million (around 3% of gross domestic product (GDP)) compared to the IMF’s first programme review (September 2022). This translates to an overall financing gap of about EUR 803 million (5% of GDP) for 2023. Against this backdrop and in line with the principle of fair burden-sharing, the Commission submits to the Parliament and the Council a proposal to increase the ongoing MFA to Moldova by EUR 145 million, of which EUR 100 million in loans and EUR 45 million in grants.

The additional MFA assistance would be disbursed in two new instalments, linked to: (i) additional policy conditionality; (ii) good progress in implementing the Association Agreement and the Deep and Comprehensive Free Trade Area (DCFTA); and (iii) a positive track record in implementing the IMF programme. The policy conditions attached to the two new instalments would build on those agreed in the Memorandum of Understanding on the current MFA. This would strengthen the focus of the programme and ensure consistency with the EU-Moldova policy priorities and the Moldovan government agenda. The additional support is also in line with the strengthened EU-Moldova relationship under the candidate country status, which Moldova was granted on 23 June 2022.


The implementation of the proposed operation is expected to go hand in hand with additional EU support under budgetary operations financed by the Neighbourhood, Development and International Cooperation Instrument (NDICI).

As further detailed in the Commission staff working document accompanying this proposal, the Commission has taken account of the assessment of the political situation made by the European External Action Service, and considers that the political and economic preconditions for the proposed MFA operation are satisfied.

• General context

Russia’s invasion of Ukraine had a strong negative impact on the Moldovan economy amid an increasingly challenging global context. In January-September 2022, the Moldovan economy contracted by 4%, suggesting a deep recession for the year overall. The contraction was driven largely by a fall in household consumption and investment. On the production side, agriculture had a strongly negative impact on growth, following a drought in the summer of 2022. The energy crisis, which intensified in 2022, has put additional pressure on Moldova’s public finances. The sharp rise in energy prices fuelled the high inflation and triggered the need for further spending on subsidies for the most vulnerable consumers.

In 2023, Moldova’s outlook remains bleak. It is set to be further impacted by Russia’s intensifying attacks on Ukraine and by the economic slowdown across the EU (Moldova’s key trading partner). According to an IMF forecast (November 2022), in 2023, growth is set to pick up only moderately, to 1.5%, and to go back to its pre-crisis levels only in 2024-2025.

In 2023, inflation is set to go down markedly, but to remain in the double digits, averaging at 13.7%, compared to 28.5% in 2022. The spike in energy and food prices drove the high inflation in 2022, which peaked at 34% in October. In response to the strong inflationary pressure, the central bank hiked the key interest rate three times last year (by a cumulative 9 percentage points), to 21.5%. By the end of the year, inflation began to ease, yet moderately (to 31% in November), prompting a slight downward adjustment of the base rate to 20%.

The budget deficit is set to remain wide in 2023, at 6% of GDP, compared to 4.2% of GDP in 2022. Much of the widening will be due to higher spending on the most vulnerable consumers as a result of the spike in energy tariffs, and some public salary increases deemed necessary given the soaring inflation. Moldova’s public debt-to-GDP ratio is low compared to most of its regional peers, but it is set to increase to 38% in 2023, against 36% of GDP at the end of 2022. About 95% of Moldova’s public external debt was extended by multilateral creditors on concessional terms. Nevertheless, due to the country’s high sensitivity to external shocks, the IMF has revised its rating of Moldova’s risk of debt distress from low to medium.

On the external side, the current account deficit remains high, at 13.7% of GDP in the third quarter of 2022, and is set to remain at comparable levels in 2023, at 11.8% of GDP. This is driven largely by a large negative trade balance, at about 32% of GDP in the third quarter of 2022. However, at 14.2% of GDP, remittances remained broadly stable, despite some initial projections that transfers from abroad, especially Russia and the Commonwealth of Independent States, would fall markedly. Net foreign direct investment showed some resilience in the first half of 2022 (largely due to companies’ high reinvested earnings). However, due to the uncertainty caused by the war, an IMF forecast (November 2022) expects it to decrease sharply, down to 0.4% of GDP for 2022 overall.

Since the start of Russia’s invasion of Ukraine, Moldova’s foreign currency reserves have been highly volatile, which has prompted sizeable interventions by the central bank. Initially, Moldova’s foreign currency reserves decreased considerably from USD 3.9 billion at the end of 2021 (covering 5.5 months of imports) to a trough of USD 3.3 billion (covering 4.5 months of imports) in April 2022. This was largely caused by a rapid withdrawal of bank deposits. The Moldovan leu also depreciated against the US dollar by around 7% in the first half of 2022. Although reserve levels were restored by the end of 2022, risks remain on the downside, related largely to the ongoing war in Ukraine. The central bank projects a drop in reserves at the start of 2023, partly due to a mild economic recovery and higher import demand, and additional fluctuations in the foreign exchange market.

• Consistency with existing policy provisions in the policy area

The proposed MFA increase would support the resources allocated to Moldova under the existing operation adopted by the Parliament and the Council on 6 April 2022 under Decision (EU) 2022/563 on providing MFA to Moldova amounting to EUR 150 million in loans and grants. The additional conditions attached to the increased amount would build on the reform priorities outlined in the existing Memorandum of Understanding, keeping the focus on public finance governance, the rule of law, combating corruption, improving the business climate, and promoting further energy sector reforms.

• Consistency with other EU policies

The EU and Moldova have developed a close political and economic relationship over the years, leading to the conclusion of the Association Agreement (including the DCFTA), which was signed on 27 June 2014 and entered into force on 1 July 2016. An EU-Moldova Association Agenda sets out the list of priorities for joint work. An updated Association Agenda for 2021-2027 was adopted on 22 August 2022.

Following Moldova’s application on 3 March 2022, the EU granted Moldova candidate country status on 23 June 2022 on the understanding that the country will take a number of steps, notably in the areas of the rule of law, reform of the justice sector, combating corruption, and fundamental rights.

Also Moldova’s economic ties with the EU are well developed. The EU continues to be Moldova’s largest trading partner, accounting for 50% of Moldova’s total trade in 2021 (about 61% of total exports and 44% of total imports).

Candidate countries and countries that are covered by the European Neighbourhood Policy are eligible for MFA (if they fulfil various conditions). The increased MFA would supplement the grants mobilised under the NDICI, strengthened by additional resources of EUR 55 million in 2023, and other EU programmes. The increased MFA would also supplement the conditions envisaged under the budget support packages currently being implemented by the EU. By supporting an appropriate framework for macroeconomic policy and structural reforms, the EU’s MFA increases the added value and effectiveness of the EU’s overall financial interventions, including through other financial instruments.

2. LEGAL BASIS, SUBSIDIARITY AND PROPORTIONALITY

• Legal basis

The legal basis for this proposal is Article 212 TFEU.

• Subsidiarity (for non-exclusive competence)

The subsidiarity principle is respected. The objectives of restoring short-term macroeconomic stability in Moldova cannot be sufficiently achieved by the Member States alone and can be better achieved by the EU. The main reasons are the budgetary constraints faced at national level and the need for strong donor coordination to maximise the scale and effectiveness of the assistance.

• Proportionality

The proposal complies with the proportionality principle. It limits itself to the minimum required to achieve the objectives of short-term macroeconomic stability and does not go beyond what is necessary for that purpose.

As identified by the Commission based on IMF estimates in the context of the Extended Fund Facility, the proposed amount - EUR 295 million - of the increased MFA, including the existing amount, corresponds to 33% of Moldova's estimated residual financing gap in 2022-2024. This is consistent with standard practices on burden-sharing for MFA operations. Under the terms of the ECOFIN Council conclusions of 8 October 2002, the upper limit is 60% for a candidate country and a country with an association agreement. It also takes into account the assistance pledged to Moldova by other bilateral and multilateral donors.

• Choice of the instrument

Project finance or technical assistance would not be suitable or sufficient to address the macroeconomic objectives. The key value added of the MFA in comparison with other EU instruments would be to alleviate external financial constraints and to help create a stable macroeconomic framework, including by promoting a sustainable balance of payments and budgetary situation, and an appropriate framework for structural reforms. By helping to put in place an appropriate overall policy framework, the MFA can increase the effectiveness of actions financed in Moldova under other, more narrowly focused EU financial instruments.

3. RESULTS OF EX POST EVALUATIONS, STAKEHOLDER CONSULTATIONS AND IMPACT ASSESSMENTS

• Stakeholder consultations

MFA is provided as an integral part of the international support for Moldova's economic stabilisation. In preparing this proposal, the Commission services consulted the IMF and the World Bank, which have already put in place sizeable financing programmes. On 12 January 2023, the Commission consulted the Alternate Economic and Financial Committee, which endorsed the draft proposal. The Commission has also been in regular contact with the Moldovan authorities.

• Collection and use of expertise

In line with the requirements of the Financial Regulation, in the context of the COVID-19 MFA package, the Commission services carried out an operational assessment of the financial and administrative circuits of Moldova. This was to ascertain that the procedures in place for the management of programme assistance, including MFA, provide adequate guarantees. The final report of the operational assessment, prepared by a consultancy company, was received in June 2020. The report notes clear progress in public finance management systems and other financial circuits since 2015, when the last exercise was undertaken. The report concludes that the status of Moldova’s financial circuits and procedures is deemed favourable for a subsequent MFA operation. Developments in this area will continue to be closely monitored, including through the regular progress reports on public finance management reforms produced by the EU Delegation in Chisinau.

• Impact assessment

The EU’s MFA is an exceptional emergency instrument aimed at addressing severe balance-of-payment difficulties in non-EU countries. Because there is a political imperative to move ahead quickly in a situation requiring a rapid response, this MFA proposal is exempted from the requirement to carry out an impact assessment, in accordance with the Commission Better Regulation Guidelines (SWD (2015) 111 final).

More generally, the Commission MFA proposals build on lessons learned from ex post evaluations carried out on past operations in the EU’s neighbourhood. The increased MFA, and the economic adjustment and reform programme attached to it, will help alleviate Moldova’s short-term financing needs. It will also support policy measures aimed at strengthening the medium-term balance of payments and fiscal sustainability and raising sustainable growth, complementing the ongoing IMF programme with Moldova. These policy conditions should address some of the fundamental weaknesses shown over the years by the Moldovan economy and its economic governance system.

• Fundamental rights

Candidate countries and countries that are covered by the European Neighbourhood Policy are eligible for MFA. A precondition for granting MFA is that the eligible country respects effective democratic mechanisms, including a multi-party parliamentary system and the rule of law, and guarantees respect for human rights.

The renewed commitment to reform and strong political will shown by the Moldovan authorities (since the elections in July 2021) in key reform areas, such as justice sector reforms, good governance, the rule of law and the fight against corruption, is a clear positive sign. The authorities are committed to conducting these reforms in a transparent manner and in line with EU standards. Therefore, the political precondition for an MFA operation is considered to be satisfied.

4. BUDGETARY IMPLICATIONS

The proposed increase of EUR 145 million in Moldova's ongoing MFA operation is planned to be disbursed in two equal instalments, to be released in 2023, if the conditions are fulfilled. The financial programming over the 2022-2024 period provides that a grant component of EUR 45 million can be financed from the available budget under budget line 14 20 03 01 ‘Macro-financial assistance (MFA) - grants’. For the loan component of EUR 100 million, the required provisioning at a rate of 9% of the External Action Guarantee will be programmed under the NDICI, for a total amount of EUR 9 million (budget line 14 02 01 70 ‘NDICI – Provisioning of the Common Provisioning Fund’).

5. OTHER ELEMENTS

• Implementation plans and monitoring, evaluation and reporting arrangements

The EU will make the MFA increase available to Moldova for a total amount of EUR 145 million, provided in the form of medium- to long-term loans, and including a grant component. This will help to cover Moldova’s residual financing needs in 2023. The disbursement of the two additional instalments will be subject to the fulfilment of additional policy measures.

The assistance will be managed by the Commission. Specific provisions on the prevention of fraud and other irregularities, consistent with the Financial Regulation, are applicable.

The Commission and the Moldovan authorities have agreed a Memorandum of Understanding setting out the structural reform measures associated with the ongoing MFA operation, including aspects of timing and sequencing. As a result of the MFA increase, further policy actions will be negotiated with the authorities and added to the existing memorandum.

Moreover, as is normally the case with MFA, the disbursements would be conditional, among other things, on satisfactory reviews under the IMF programme, as well as progress on the implementation of the EU-Moldova Association Agreement and the DCFTA. The Commission will work closely with the authorities to monitor progress on the policy actions and the preconditions, as specified above.