OECD Economic Outlook, Volume 2023 Issue 2

Bulgaria

GDP growth is projected to slow to 1.7% in 2023 before recovering to 2.8% in 2024 and 3.0% in 2025. Low interest rates fuelled a household credit boom, boosting private consumption, but this is easing. The catch‑up in the disbursement of EU funds is expected to contribute positively to investment in 2024 and beyond. Inflation is high in 2023 but is expected to moderate during 2024. The large, planned minimum wage increases in 2024 create risks of more persistent inflation, while changes in global energy prices could impact exports and inflation.

Interest rates are expected to continue to broadly follow euro area monetary policy given the fixed exchange rate regime of the Bulgarian lev to the euro. The fiscal deficit is likely to widen if spending increases are not fully offset by higher tax collection. Fiscal consolidation would help to manage demand in the economy and prepare for longer-run challenges. Structural reforms are needed given the shrinking labour force and the need to encourage young people to stay in Bulgaria. While some climate policies and targets are in place, the development of a comprehensive green transition roadmap is a priority.

Domestic demand has been strong

GDP expanded by 1.7% in the year to the third quarter of 2023, with negative real interest rates and robust labour markets supporting strong private consumption and investment. However, government consumption was weak due to the lack of an agreed budget during the first half of the year. The annual inflation rate has fallen rapidly from a peak of 18.7% in September 2022 to 5.8% in October 2023. Core inflation has been more persistent, fuelled by second-round effects from high food and energy prices and rising labour costs. Unemployment is low but rising, although the labour market is set to remain tight given demographic headwinds.

Bulgaria: Activity and labour market indicators

1. Nominal average gross monthly wages for all sectors of employees under a labour contract in lev.

2. The shortage of labour measure refers to the share of firm respondents to a business survey conducted by the National Statistics Institute that identified shortage of labour as a factor limiting the activity of their enterprise. It is the arithmetic mean of the same survey conducted in four sectors: industry, construction, retail trade and services.

Source: National Statistics Institute.

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Bulgaria: Demand, output and prices

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Weakness in euro area demand will hold back manufacturing exports and tourism in the near term, but this will gradually recover as growth in Europe picks up. With Bulgaria a net electricity exporter, trade prospects depend heavily on developments in European energy markets this winter. A gradual rise in energy prices in the near term could also stoke renewed domestic energy-related inflationary pressures.

Near-term fiscal policy will be broadly neutral

Interest rate developments will broadly follow monetary policy tightening in the euro area, consistent with the fixed exchange rate to the euro as part of the currency board arrangement and planned euro adoption. Fiscal support to cushion the effects of the energy price shock, such as reduced VAT rates for energy and food products, will be largely phased out by end-2023. The government foresees significantly higher additional spending from increases in public sector salaries and pension payments and plans higher revenues from newly outlined reforms to combat tax evasion and the non-payment of taxes. Overall, the budget deficit will widen if these revenue-raising measures do not fully offset the planned higher spending. The government debt ratio remains low and debt dynamics are supported by low interest rates on government debt. However, there are significant fiscal pressures from a declining labour force and rising pension costs. Meanwhile, long-term ageing-related spending pressures are set to rise given demographic trends, with health care and pension expenditures as a share of GDP expected to increase by 1 percentage point of GDP between 2024 and 2040.

GDP growth will slow in the near term before recovering

Growth has been very rapid but is set to slow to 1.7% in 2023 owing to the weaker-than-expected external environment, but then rebound to 2.8% in 2024 and 3.0% in 2025. The disbursement of EU funds is predicted to spur an increase in private sector investment. Export growth will remain weak in the near term but should gradually recover throughout 2024 in line with developments in the euro area. Inflation is set to slow gradually to 4.5% in 2024, reflecting declining energy prices, but will be kept up by relatively rapid nominal wage growth. With persistent labour shortages, upward pressures on demand and wages could undermine efforts to bring inflation back to target.

Fiscal consolidation is needed, while reforms are needed to boost employment

Monetary policy should remain consistent with the existing currency board arrangement to ensure stability and in anticipation of future euro adoption. Deficit-neutral approaches to financing new government spending in the 2023 budget are helpful, but fiscal consolidation is needed to reduce the deficit, damp domestic demand and offset longer-run spending pressures relating to ageing and demographic challenges. Activation policies and reforms are necessary to tackle inactivity and to raise productivity. While a range of climate policies are in place, an overarching governmental strategy to motivate green transition policies, building on the Strategic Vision for the Sustainable Development of the Electricity Sector, should be developed.