Albania, North Macedonia, and Serbia plan to establish a so-called "mini-Schengen" customs area that could boost economic growth among the three countries, but a full-fledged customs union is unlikely.

Removal of non-tariff trade barriers and increased freedom of movement between Albania, North Macedonia, and Serbia would primarily benefit the agricultural and tourism sectors.

The three countries have pledged to grant mutual recognition of each other's agricultural-sector documentation, such as certification issued by food safety agencies. The preliminary agreement envisages shorter border inspection times, particularly for phytosanitary and veterinary inspections, and streamlined paperwork for the transport of goods. The countries' citizens would be able to travel within the zone just with their ID cards while foreign tourists could move between the three states without visas. Additional measures are intended to encourage labor mobility, including the mutual recognition of professional qualifications and the provision of zone-wide work permits. The three countries have also agreed to improve the free movement of capital.

The initiative is unlikely to be joined by other Western Balkan states.

In October, Albania, North Macedonia, and Serbia invited the remaining six Western Balkan states (Bosnia, Montenegro, and Kosovo) to join the arrangement. Bosnia expressed concerns over its compatibility with existing regional agreements, such as the Central European Free Trade Agreement (CEFTA). Montenegro said on 11 November that it would not join the initiative because the countries had already lifted trade barriers. This is probably driven in part by Montenegro's dependence on import tariffs to raise revenue. Kosovo has declined to join the initiative because of Serbia's refusal to recognize its independence. Additionally, the initiative could present a further hindrance to EU integration following Serbia's free-trade agreement with the Eurasian Economic Union (EAEU), signed in October.

A full-fledged customs area is unlikely to materialize because of political constraints.

The "mini-Schengen" plan is a standalone initiative of the three countries, described in regional media as following on from the 2017 EU Summit in Trieste that had included a focus on creating a common economic area in the Western Balkans. However, the same political constraints that prevented the full implementation of the Trieste Summit's policy objectives remain and are likely prevent the implementation of a comprehensive 'mini-Schengen' zone with full freedom of movement. The free movement of capital, for example, is likely to be blocked by national interests, especially in strategic sectors such as telecommunications, as has previously been the case. Moreover, harmonization of regulatory standards and rules would require comprehensive overhaul of legislation across the three countries. This would require considerable political will and momentum, which IHS Markit assesses as unlikely to be maintained on an extended and consistent basis. Moreover, such change would be a prolonged process that would take more than two years.

Establishing a free-trade area in the Western Balkans should boost cross-border trade and attract more foreign investment, improving potential economic growth.

Along with a wider slowdown across Europe, IHS Markit currently projects that the Western Balkan region will face economic slowdown in 2019-20 (see table). Growth will decelerate in Albania and Serbia, although North Macedonia is expected to grow more rapidly as it continues to recover from a prior major economic downturn. In all three countries, growth will be driven primarily by consumption, with weaker contributions from net exports and investment. Although the development of a common economic zone appears risk-positive economically, and is a risk-positive initiative, the Western Balkans would still need to implement structural reforms to boost productivity, increase competitiveness, and improve the business environment. Institutional reforms by the three states would help attract investment and create more job opportunities in the region, which currently faces high unemployment rates, especially among the young.

Indicators of changing risk environment

Increasing risk

• If Albania and North Macedonia are blocked from opening EU accession negotiations with the European Union in 2020, they would be more likely to focus on a limited trade and customs union with Serbia.
• Development of this new bloc in turn would increase the likelihood of creating regional regulatory groupings but would complicate the EU negotiation process for Serbia. The latter is currently negotiating to join the EU and is expected by the EU to further align its agricultural regulations with EU standards.

Decreasing risk

• Conversely, if Serbia continues to focus on meeting EU standards, with Albania and North Macedonia attempting to bring their own agricultural standards more in line, this could improve the latter's eventual ability to progress EU negotiations.
• If Bosnia and Montenegro decide during 2020 to join the Albania-North Macedonia-Serbia initiative, this would increase the prospect of its regulatory alignment being based on the Trieste Summit proposals and EU recommendations.
• The inclusion of a dispute resolution mechanism within the proposed zone would indicate a high level of seriousness to facilitate economic integration and expanded trade.

Posted 20 Nov 2019 by Dijedon Imeri, Senior Analyst, Country Risk, Economics & Country Risk, IHS Markit ; Petya Barzilska, Senior Analyst - Europe and CIS Country Risk, IHS Markit and Greta Butaviciute, Economics Analyst, IHS Markit