Strengthening public financial management in Montenegro

1. Budget planning

The Montenegrin budget is formulated within a well-articulated legal framework. The priority is to fully implement the framework so that budgets are managed within clear, credible and predictable limits for fiscal policy. The key challenges to be addressed are:

• Asserting and demonstrating commitment to maintaining fiscal discipline and respecting the fiscal rules.

• Improving macroeconomic forecasts.

• Introducing a fiscal risk management statement that comprehensively addresses risks, including guarantees.

• Monitoring guarantees provided by the Government and reporting on them annually.

• Strengthening the MTBF by ensuring that a standard methodology, which encompasses baseline estimates is widely understood and implemented.

• Strengthening the impact of top-down ceilings by requiring public bodies to submit their budget estimates within the ceiling and ensuring actual expenditure is in line with the ceilings.

• Including the Equalisation Fund in budget documentation to increase transparency and improve oversight of the fund’s operations, revenues, and expenditures.

1.1. Budget context

Montenegro has a relatively small economy of about 620 000 people that is based largely on services and tourism. The country declared independence in 2006 and it applied to join the European Union (EU) in 2008. The transition from a planned economy towards a market economy has not always been smooth. Growth fuelled by construction booms has been unsustainable, leaving the economy vulnerable and far from achieving EU income levels. Despite significant efforts to improve living standards, the country’s GDP per capita in 2023 was estimated at less than 30% of the EU average (Eurostat database).

From 2018 to 2023, Montenegro's economy experienced fluctuations driven global economic trends. GDP growth was robust before the pandemic but fell sharply by over 15% in 2020 due to COVID-19's impact on tourism. A strong rebound followed in 2021 and 2022, with growth rates of 13% and 6%, respectively, supported by a recovery in tourism and increased public spending. However, growth moderated to around 4.9% in 2023 as inflation, rising interest rates, and weakening external demand began to weigh on the economy.

Montenegro’s 2022-2026 PFM Reform Programme contains an ambitious suite of reforms to improve the institutional structure of managing the public finances. Despite these ambitious goals, in terms of budget management Montenegro has struggled to keep its public finances on a sustainable path and to maintain fiscal discipline. Key challenges include a public debt burden, which reached 61.5% of GDP in 2023 although it has stabilised around that level and is projected to be 61.4% at the end of 2025. Furthermore, after running budget deficits between 2015 and 2018, the years from 2019 to 2022 were characterised by smaller deficits, the Covid year of 2020 excepted, and there was a surplus in 2023. Unemployment decreased significantly during this period, reaching a record low of 13.6% in 2023, helped by reforms and a rebound in service-based sectors. Despite progress, Montenegro remains vulnerable to external shocks, and sustaining growth will require focusing on structural reforms, enhancing productivity, and fostering sustainable tourism and trade.

1.2. Institutional and legislative framework

The Constitution provides that the Government submits the state budget and the final account of the year to Parliament for approval. The budgetary responsibilities of the Government and the Parliament are prescribed in the Law on Budget and Fiscal Responsibility (LBFR).

The most important organic laws are the LBFR, the Law on Accounting in the Public Sector (LAPS), the Law on Management and Internal Control (LMIC) and the Law on Local Self Government (LLSG). The LBFR provides that the state budget includes central government bodies, the Pension and Disability Insurance Fund, the Health Insurance Fund, the Employment Institute and the Compensation Fund. The law recognises the local self-government budgets separately as the municipal budget. The LBFR underpins overall fiscal discipline and governs the budget process, both for central and local authority governments. The LLSG prescribes the local authority budget procedures in greater detail and is consistent with the LBFR.

The LBFR provides a sound budget framework. It prescribes that the MoF is responsible for planning, managing and reporting on the state budget. It also provides that a municipality may not exceed its agreed budget deficit without first obtaining approval from the MoF. These provisions ensure that budgets beyond the state budget are subject to scrutiny by the MoF.

The LBFR also provides for a three-year MTBF, the management of public debt within a limit of 60% of GDP, managing the capital budget, a 3% of GDP limit on the annual budget deficit, the budget calendar and the procedures for formulating, executing and reporting on the budget. The provisions of the LBFR are supported by Government Decrees including on the Method of Preparation and Content of the Programme Budget of Budget Units, on the Creation of the Capital Budget, and on the Establishment of Internal Audit in the Public Sector.

In addition, the LBFR prescribes the roles of state bodies, which are all state administration bodies, legal entities and economic companies mostly financed by the State. The law assigns the manager of each body with the responsibility to manage its expenditures and report to the MoF on the execution of the budget. By providing that these institutions must comply with the MoF requirements in managing their budgets, as well as providing that each manager is accountable for appropriations, the law contains provisions that support budgetary discipline. However, despite the provision for a programme budget being included in the annual Budget Law, there are no provisions in the LBFR or the LMIC for managers to report on a programme basis at the end of the year. The Government Decree on the Method of Preparation and Content of the Programme Budget of Budget Units provides that the manager must report on the programme at the end of the year but does not prescribe that this should include non-financial information.

While the legislative framework provides a sound basis for public finance management, there are challenges in the implementation. The key deadlines for planning the budget are regularly not adhered to. For example, in 2023 and 2024 two major breaches were the late adoption of the Macroeconomic and Fiscal Policy Guidelines (MFPG) by the Government and the late submission of the draft budget to the Parliament. The planned budget deficit ceiling for 2024 exceeded the 3% limit and is projected to be exceeded again in each of the years for the medium-term period 2025-2027, which undermines the credibility of the framework. The LBFR prescribes that in the event of the deficit exceeding 3%, the Government must take corrective action within 60 days and present the proposal to the Parliament. To date, there is no evidence of this taking place.

1.3. Macroeconomic and fiscal forecasting

The MoF is responsible for the macroeconomic forecasting that underpins fiscal policy. The budget calendar foresees that the macroeconomic projections are produced in April. The MoF agrees the assumptions underlying the official forecasts with the Ministry of Economy. Fully independent of the Government, the Central Bank (CB) produces its own macroeconomic forecast on a quarterly basis. There is communication between the MoF and the CB but each may act independently from the other.

In February 2023, the LBFR was amended to establish an independent fiscal institution, the FC. The law regulates in detail the establishment and the functioning of the Council. However, the Council is not yet functioning. Only two of the three Council members have been appointed. When it becomes operational, it will be required to publish its own projections, which will serve as an independent reference for the objectivity of the Government’s projections.

The MoF has its own structural macroeconomic model. The projections are regularly updated as new macro-fiscal data become available. External assumptions are taken from the IMF World Economic Outlook. The authorities recognise that there are several weaknesses in the forecasting methodology and improving the model should be a priority for the authorities.

Macroeconomic forecasts do not use census data. Pensions are indexed by taking projected inflation plus 75% of real wage growth where there is growth and inflation plus 25% of real wage decline when it falls. Public sector salaries are not automatically adjusted for inflation, which causes the budget deficit to be underestimated even though some of the underestimation may be offset by additional taxation.

Coherent macro-fiscal projections must be based on objective economic assumptions. Due to the COVID-19 pandemic and the repercussions of Russia’s invasion of Ukraine, including a surge in refugee numbers, accuracy of forecasts remains challenging. In recent years, both actual expenditures and revenues have deviated substantially from budget projections. These significant variations, driven by extreme events, highlight the importance of conducting periodic and independent reviews of the forecasting model and its underlying assumptions.

External macroeconomic variables for the Montenegrin economy are adapted from the IMF World Economic Outlook, but for demographic variables there is no such reference point. Basic demographic projections are available from several sources but for labour market and social policy analysis this is not sufficient. For example, a decision to increase pension rates in 2024 was underestimated because it failed to take account of the number of pensioners.

1.4. Medium-term budget framework

The LBFR requires each new Government to submit its Fiscal Strategy (FS) to the Parliament for adoption. The FS applies for the duration of the Government’s mandate, which usually is a four-year term although there were three Governments elected between December 2020 and October 2023. There is no constraint on the content of the FS, but it is expected to be consistent with the Government’s Strategic Programme and to respect with any international agreements or obligations. With the establishment of the FC, the Council’s opinion on the FS must also be submitted to the Parliament. Prior to the establishment of the Council, the CB prepared an opinion, which included a recommendation that the FS should contain alternative scenarios.

Based on the FS, the MoF drafts medium-term MFPG each year for Government approval by the end of April. However, the latest FS was adopted in December 2024, despite the Government having been elected in October 2023. The delay in finalising the FS meant that the MFPG were drafted without being anchored to the overall FS.

This document is approved on an annual basis, which means that it is not fixed for the Government’s four-year term of office, but rather it applies for a three-year period on a rolling basis. For Guidelines approved late in the Government’s term, the estimates for the years beyond the scope of the FS assume no change in policies. The Guidelines are not submitted to the Parliament but they are published and they also are subject to the opinion of the FC (and previously the opinion of the CB). The Guidelines typically contain:

• Medium-term objectives of economic policy

• Macroeconomic Framework, including macroeconomic variables such as GDP components, inflation, unemployment

• Analysis of fiscal risks and the quality of public finances

• Expenditure ceilings for ministries and public bodies for each year of the medium-term

• Spending Limits, excluding debt repayment and interest, natural disasters and other extraordinary circumstances

• Criteria of fiscal responsibility, including assessment of the fiscal rules

• Macroeconomic and Fiscal Indicators

The MFPG comply with several fiscal rules within which the LBFR stipulates the budget must be planned:

• The budget deficit must be below 3% of the GDP,

• The general Government gross debt shall not exceed 60% of the GDP,

• Primary expenditures cannot exceed primary revenues (no primary deficit), and

• The increase in total expenditure cannot exceed nominal GDP growth.

If the national fiscal rules are not met, the LBFR provides that the Government must propose corrective measures to the Parliament. However, the debt to GDP ratio has been in excess of 60% for several years and, although it has been stabilised, it is projected to decline very slowly. The budget deficit has regularly been higher than 3%. There is no evidence of corrective action having been taken to respect fiscal rules in recent years. The Government should in the MFPG confirm its commitment to the fiscal discipline and demonstrate how it intends to adhere to the fiscal rules.

The MTBF provides top-down expenditure ceilings, which apply to the annual budget law. The MoF is to monitor and report on compliance. The ceilings are established in nominal terms. The LBFR provides that the first year of the MTBF is binding and that the latter two years are indicative. The ceilings provide the basis for budget negotiations, which take place at the institutional, programme and economic line-item levels. The ceilings are set at the level of the ministry or public body, rather than for programmes; ministers have the right to reallocate their overall envelope among their own programmes subject to a limit of 10% of expenditure under an impacted programme although they inform the MoF of these amendments.

There are two contingency reserves: the current reserve which provides for unplanned or inaccurately planned expenditures; and the permanent reserve, which is for unforeseen expenditure, including natural disasters.

The basic elements of a well-functioning MTBF are in place but the political focus is clearly centred on the coming year’s budget. The MTBF it is not subject to a parliamentary debate. The Parliament only debates medium-term fiscal plans when the FS is adopted at the beginning of the Government’s four-year term. Medium-term forecasts are often not credible, with significant variations between the original forecast and the executed budget. For example, the MTBF 2022-24 showed total expenditure of EUR 2.6 billion whereas the Annual Budget Law 2022 showed total expenditure at EUR 2.2 billion (i.e., a 20% variance). For 2023, the equivalent amounts were EUR 2.9 billion and EUR 2.5 billion respectively (i.e., a 15% variance). For 2024, the equivalent amounts were EUR 3.5 billion and EUR 3.0 billion respectively (i.e. a 19% variance).

Furthermore, developing multi-year expenditure baselines that demonstrate the medium-term costs of existing policies on a no policy change basis remains a challenge. There is no procedure in place to facilitate the calculation of no-policy-change expenditure, that incorporates the impact of macroeconomic and demographic changes or the full year implications of recently introduced existing policies. This can be seen from the medium-term budget plan, which is included in the annual Budget Law, more than 90% of the appropriations are nominally equal in the two outyears. For example, in the 2024 Budget Law, expenditures of the healthcare fund do not change at all from 2025 to 2026, while in the same period pensions grow by 5.1%.

Despite the MTBF, line ministries and public bodies focus on their annual budget only, often seeking to secure additional funding beyond the ceiling on the basis that funding must be found for a priority policy at short notice. In addition, as the public bodies have recourse to the contingency reserve, the bodies lack incentives to adhere to the ceilings or manage resources effectively within the framework. Nonetheless, the framework recognises that public bodies are responsible for resource management within the budget.

Current reform plans of the MoF incorporate most aspects of medium-term budgeting, from strengthening the link between resources and policy objectives, through the revision of fiscal rules, to the stricter enforcement of the preset ceilings in the planning phase. However, initiating these plans would require donor assistance and limited staff resources could prevent effective implementation. These constraints highlight the merit of a reform roadmap so that reform initiatives align with capacities over time.

1.5. Fiscal risk management

There are several types of fiscal risks monitored annually in the Montenegrin PFM system. There is no separate fiscal risk report but the Economic Reform Programme of Montenegro (ERP), the most important document in the economic dialogue with the EU, identifies medium-term fiscal risks and proposes measures to mitigate them. The ERP focuses on macroeconomic risks, risks from Government programmes not being implemented and risks from SOEs. Pending legal cases against the state/Government can pose significant risks, but they are not systematically reviewed.

At the local level, there is the possibility, mainly because of large capital projects, that bank deposits accumulated in previous years will be used to fund local self-Government projects without informing the MoF. However, the 26 local self-Governments are subject to fiscal rules, including that their deficit cannot exceed 10% of their revenues. Only with the permission of the MoF can they borrow more, and then only for investment projects. In these cases officials from the MoF debt management department actively participate in the negotiations between the local self-governments and banks.

At the central level, if unforeseen spending is required, the first option is to reallocate funding among the appropriations under the oversight of the same minister. If this is not enough, each spending unit may seek approval to receive additional funding from the current reserve, up to a maximum of 5% of its total spending appropriation.

Macroeconomic risks are assessed both by the MoF and the CB. The CB publishes quarterly and annual macroeconomic reports, which contain some discussion of these risks. However, 2023 was the first year when the MoF produced an analysis of macroeconomic risks. It was not published. Both institutions should publish up to date macroeconomic risk analyses annually. This would facilitate planning and fiscal impact assessments because the various fiscal indicators would reveal sensitivities and elasticities among other variables (e.g. elasticity of consumption tax revenues with respect to household consumption expenditure).

The MoF regularly assesses fiscal sustainability in the context of debt management. In December 2024, the Government adopted the medium-term debt management strategy 2025-2027.

About 50 SOEs out of an approximate total of 200 are monitored on an individual basis by the Directorate for Fiscal Risks of Public Companies in the MoF and are categorised on a 5-grade risk scale. The risk assessment of a company’s financial position is based on data submitted to the Tax Administration through annual financial reports. Audit reports for those SOEs required to have external audit are also considered. The MoF is working to develop direct reporting from SOEs to the Directorate so that fiscal risks can be analysed and monitored twice a year using semi-annual financial reports.

The LBFR limits the total value of guarantees to 15% of GDP. The nominal value of guaranteed loans is limited in the annual budget law, and local governments and SOEs can only take loans with prior approval of the Government. Local governments only can guarantee loans of their own SOEs provided they get prior approval from the MoF. However, the budget does not contain an appropriation based on risk adjusted expectations about the likely call on guarantees granted in the past that may crystallise in the current fiscal year.

In 2023, the MoF conducted financial analyses of and assessed fiscal risk for all SOEs in central government. Historical information on fiscal risks for the period 2018-2022 of each SOE is published in the Public Register of SOEs. The MoF intends to continue this practice. While this is an ex post view of risk, it will likely inform fiscal risk assessment.

However, there is no published information about the total guarantees provided by the central government. Furthermore, independent experts consider that oversight of SOEs is less than adequate:

The Budget Inspection of the MoF has the authority to carry out inspection control in all state-owned enterprises....However, the position of head budget inspector has been vacant since 2016... Even when the inspection was functioning, it did not provide good results - it did not file misdemeanour charges, and the information about its work were not available to the public (the records were classified internally as confidential). (Institut Alternativa, 2021[1])

While inspection is a control function that focuses on mismanagement and fraud, and as such is different to regular monitoring by the parent ministry or the MoF, the observation is indicative of weaknesses in monitoring SOEs generally.

Public Private Partnership (PPP) projects can pose a significant risk both when risks are inappropriately allocated between the Government and the private partner. Montenegro only has one PPP in the implementation phase and another in the pipeline. The MoF is aware of the potential risk to these projects and has tried to design the institutional structure to manage the PPPs, including compliance with EU regulations.

1.6. Interactions with local government

The process for preparing, planning, and executing municipal budgets largely mirrors that of the state budget. The accounts of revenues and expenditures for municipal budgets are kept in accordance with the same provisions that govern the state budget. Local governments are included in the general Government accounts of Montenegro, alongside the central government, social security funds, and the Health Fund. Local governments report to both the Directorate for Local Government and the Treasury.

Local governments are independent and in charge of preparing their budgets. At the local Government level, the authority of the Minister of Finance is delegated to a designated person in the municipality. Local governments are also allowed to carry funds forward and often do so due to slow public procurement processes.

The MoF reviews the budget proposals of local governments and provides guidance. It issues expert instructions for preparing capital budgets, including proposed capital projects for the upcoming fiscal year. Municipalities must submit their capital budget requests to the MoF by 15 March. The MoF also reviews draft decisions on municipal budgets submitted by local authorities by 1 November. The MoF has the authority to issue a negative opinion on the draft budget, effectively preventing the municipal Parliament from adopting it.

Municipal budgets are subject to a deficit limit of 10% of their annual revenues. Exceeding this limit requires approval from the MoF, which must be requested no later than 15 October for the following year. Municipalities can only use this additional deficit to fund capital expenditures. The MoF must respond to municipalities’ requests by 31 October. Unapproved overruns will result in a suspension of funds from the state budget to the municipality in the amount of the excess.

The SAI regularly audits the accounts of local governments. Every year, the SAI selects a handful of cities for its annual audit cycle; the findings are public.

Local governments are funded primarily by transfers from the central government. While local governments can raise their own revenues through local taxes such as real estate taxes, these revenues are insufficient and need to be supplemented by transfers from the Equalisation Fund. This fund redistributes revenues from wealthier municipalities to poorer ones, with allocations based on population size and other factors and funds managed by the MoF. This practice is quite common across OECD countries. Importantly, the Equalisation Fund is not currently presented in the Budget. The authorities should consider including the Equalisation Fund in budget documentation to increase transparency and improve oversight of the fund’s operations, revenues, and expenditures.

Local governments do not use programme and performance budgeting or consider a medium-term perspective. Municipalities prepare their budget on a cash basis, with a traditional line-item structure. Budgets are not structured around programmes, and performance budgeting is not practised at the local government level. Local governments do not plan their expenditures over the medium term; they do not use MTBFs.

1.7. Annual budget calendar

The Montenegro Budget is formulated within a rolling three-year MTBF. The framework aims to ensure the sustainability of public finances by stating the Government’s medium-term macroeconomic and fiscal forecasts and fiscal policy targets over the three years following the current year.

The fiscal year in Montenegro runs from January to December and the formulation of the Budget is divided into two parts: the establishment of the MTBF in the months up to May is followed by the annual budget process in the following months. The LBFR establishes the key stages for the budget process, which are outlined in Table 2.

Table 2. Calendar of the annual fiscal cycle

Deadline	Activity
15 April	First level public bodies submit to the MoF their policy proposals, and the policy proposals of the second level units under their supervision
30 April	The MoF drafts medium-term baseline expenditures, revenue forecasts and available fiscal space for financing new policies
30 April	The MoF prepares Fiscal Policy Guidelines (which include MTBF and expenditure ceilings) and submits them to the Government for adoption
May	The MoF sends the Budget Circular to line ministries and other public agencies, including municipalities (public bodies)
31 July	Public bodies submit policy proposals and estimated costs to the MoF, along with supporting data and information
August – October	The MoF negotiates budget allocations with the line public bodies
Late October	The MoF drafts the State Budget Law and submits to the Government for approval
15 November	The Government submits the State Budget Law to the Parliament for adoption
31 December	The Parliament adopts the State Budget Law
30 June	The Government submits the draft Law on the Final Budget Account to the SAI
30 September	The Government submits the draft Law on the Final Budget Account to the Parliament
15 October	The SAI submits the audited report on the Final Budget Account to the Parliament

The Cabinet approves the MFPG by end April, after which the MoF issues the annual budget circular in May. The budget circular sets the parameters and three-year spending limits within which the public bodies are supposed to prepare their estimates. The public bodies have until 31 July to submit their initial requests and they can do this through the Budget Management Information System (BMIS).

The BMIS was introduced in 2021. It is interactive with different levels of authorisation to use it. It allows the MoF to assemble the budget in a timely manner because line ministries input the data directly and MoF officials can see this almost simultaneously. The system allows for both financial and non-financial information to be inputted. It contains a field that allows items to be marked as gender sensitive. It also contains a narrative field that should be completed before any request for additional funding can be considered. A loophole allows this requirement to be circumvented, however, with a few random letters being enough to fill the narrative field although it is open to the MoF to refuse to consider a request without sufficient information.

Requests for new policies are presented separately from requests for existing policies. Following negotiations with the MoF, new policy requests may be accepted, depending on the available fiscal space. The negotiations generally are between civil servants although some discussions may be finalised with ministers. The budget appropriations should be closely aligned with the MFPG. However, the significant differences between the medium-term estimates in the MFPG and the annual Budget Law (outlined in section 1.4) show that this is not the case.

A significant number of public bodies bypass their parent entities, directly submitting proposals to the MoF. These second level institutions should submit budget requests through their parent entity. This may require enhancing the budgeting capacity of finance officials in the first level entities but it should be adopted as a policy. The existing situation is that proposals cannot be assessed adequately.

Once agreement has been reached on the spending allocations, the Government approves the draft budget by 15 November and submits it to the Parliament for adoption by 31 December. However, it is a recurring issue that critical deadlines in the budget calendar are not met, leading to significantly compressed timeframes at key stages of the budget process. This particularly affects the time allocated for public bodies to prepare and negotiate budget allocations, as well as for the Parliament to thoroughly review the draft Budget. For example, in 2023, the draft Budget was submitted to the Parliament on 12 December, almost a month past the prescribed deadline.

The documentation submitted by the Government to the Parliament for approval details the sources of revenue, the allocations to ministries, proposed policy changes, and other information important for understanding the country's fiscal situation. It presents the budget on administrative, economic and functional classification. A programme classification with programme performance targets is also presented. While the budget is presented and voted on in all classifications, non-financial performance information, such as goals, targets, and indicators are not included in the Budget law itself but in the accompanying rationale. The Budget does not contain information on how the proposed budget is linked to Government’s policy goals; information on tax expenditures; data on expenditure estimates or actual expenditure for the years prior to the budget year.