For the past seven years, the stable exchange rate of the Serbian dinar has largely been supported by foreign investments, which bring “hard currency” into the country. But what happens if these investments slow down or falter?
While the political situation in Serbia certainly has an impact on the level of foreign investment inflows, its effects are typically felt in the long term. What concerns most people is not whether there will be a record inflow of foreign investments or citizens but whether it will affect the dinar’s exchange rate, and consequently, inflation. According to Professor Zoran Grubišić from the Belgrade Banking Academy (BBA), there is no immediate reason to worry.
The exchange rate of the dinar against the euro is determined by supply and demand for the euro in Serbia’s foreign exchange market, influenced by the activities of banks, citizens, companies, and the National Bank of Serbia (NBS). As NBS Governor Jorgovanka Tabaković pointed out, the exchange rate is also affected by international developments such as geopolitical crises, protectionism, and decisions by central banks. These factors primarily influence capital movements, as foreign companies investing in Serbia often bring large amounts of euros, impacting the dinar’s exchange rate.
Political turmoil and investor sentiment
Investor confidence, however, can be impacted by the domestic political scene. In recent months, protests have stirred concern, with some government officials warning that the political instability could hinder foreign investment inflows, both from new investors and those already operating in Serbia. This, in turn, could affect the economy.
Governor Tabaković stated that it’s difficult to gauge the precise effect of protests on economic activity, but for now, there are no significant delays in industrial production, and service sectors remain active. However, protests could potentially lead to delays in certain investments or reduced consumption. Foreign direct investments have been slower this year, but the full effects on GDP will depend on how long the protests continue.
Professor Grubišić also believes that the economic impact of the protests on the exchange rate will be minimal, unless they last for several quarters. Even then, the NBS could maintain the dinar’s stability, thanks to Serbia’s substantial foreign exchange reserves. Currently, Serbia has around 25 billion euros in reserves, compared to just under 11 billion euros in 2020. Using these reserves, the NBS can maintain the exchange rate, and Grubišić sees no indications of losing exchange rate stability.
However, the precise level at which foreign exchange reserves can be used is not publicly disclosed, as it could be exploited by speculators. While the exact threshold remains a secret, Grubišić reassures that Serbia is far from reaching it.
Dollar’s influence on the dinar-euro rate
Some economists mistakenly assume that fluctuations in the global dollar or euro affect the dinar’s exchange rate. Grubišić clarifies that the value of the dinar against the euro is determined by local supply and demand, not by the global dollar-euro exchange rate. The NBS cannot directly control the dinar’s exchange rate against the dollar because Serbia is not a major player in the global currency markets.
In 2024, foreign exchange reserves grew by 4.4 billion euros, with the NBS purchasing 2.7 billion euros from banks to stabilize the dinar’s exchange rate.
Is the dinar’s stable exchange rate realistic?
The question arises whether the current stability of the dinar’s exchange rate is “realistic.” Grubišić responds with a counter-question: “What does ‘realistic’ mean?” He explains that the current exchange rate is relatively balanced, as the NBS would use reserves to defend the dinar if necessary. However, from a theoretical standpoint, the exchange rate is not fully “realistic” because inflation in Serbia is much higher than in the Eurozone.
This does not mean the euro should be significantly stronger than the dinar, as Serbian exporters often claim. Grubišić dismisses the notion that a weaker dinar would automatically improve Serbia’s competitiveness on foreign markets. While it’s possible that a weaker dinar could help in some cases, it is not a certainty. Competitiveness is not determined solely by price, but also by factors like marketing, product quality, and market access.
A stronger dinar would likely fuel inflation through higher import costs, so any increase in the exchange rate would be detrimental to the economy. Therefore, Grubišić concludes that while the current exchange rate is not “realistic” in a theoretical sense, it is balanced for Serbia’s economy and is being managed carefully to avoid destabilizing inflation.
