BELGRADE (Reuters) – Serbia risks a credit rating downgrade next year if parliament approves a looser-than-expected draft 2008 budget, adding fuel to the fire as political uncertainty grows on the status of Kosovo.

Some analysts believe macroeconomic risks will deepen, with inflation and external deficits rising, as the government’s budget policies signal little will to speed up reforms. The 2008 budget offers a fiscal contraction of only 0.8 percent of GDP compared with a planned cut in overall public spending of 1.7 percent of GDP.

Spending is set to grow a nominal 9.9 percent year-on-year, with the deficit forecast at 0.5 percent of GDP. It sees economic growth and inflation at 6 percent each, and the current account gap remaining above 14 percent of GDP.

“Considering external imbalances, the adoption of this budget may easily lead ratings agencies to downgrade Serbia’s credit rating,” said Vladimir Gligorov of the Vienna Institute for International Economic Studies. “In that case, Serbia will see an increase in the cost of refinancing (and) its privatization revenues will decline because the assets it plans to sell will get cheaper.”

The deficits and high public sector wage increases ignore advice from the International Monetary Fund to strive for a safer policy mix to contain a number of risks.

“The planned growth would imply significant investment, but that’s hard to imagine due to the increase in public and private spending,” said Jurij Bajec of the Economics Institute. “The expansionary policies encourage pro-inflationary behaviors and make business planning difficult.”

S&P’s announcement on Serbia’s outlook outraged Belgrade, with the government saying the agency overlooked positive trends and should have gone beyond short-term performance.

A source in the government said a downgrade could be on the cards in 2008 and that the fiscal loosening, planned for a second consecutive year, showed how fragile the ruling coalition of Prime Minister Vojislav Kostunica was.

“A credit rating downgrade is indeed possible,” said the source, who asked not to be named.

“This budget contains a series of problematic spending items, included to keep the coalition from falling apart.”