28 October 2013

IMF: Slovenia - 2013 Article IV Consultation

Slovenia is facing a deep recession resulting from a vicious circle of strained corporate and bank balance sheets, weak domestic demand and needed fiscal consolidation, say the preliminary findings of IMF staff in the conclusion of the annual consultations under Article IV.

The economy remains in deep recession. A vicious cycle of corporate distress, increasing non-performing loans (NPLs), bank deleveraging, and needed fiscal consolidation is prolonging the recession and weighing on the near-term outlook. A slow, export-driven recovery will likely take hold only in the second half of 2014. A more robust and sustained recovery can happen only after the financial and corporate sectors are repaired.

The economy has some strengths. Public and household debts are still low. Unemployment remains below the euro area average. Parliament has approved important fiscal reforms.

However, decisive actions are necessary if Slovenia is to break out of this vicious circle. A prompt bank recapitalisation based on a credible balance sheet assessment, which is ongoing and is expected to be finished by the end of the year, is the immediate priority. However, only by restructuring the corporate and financial sectors, and reducing the role of the state in the economy, can sustained growth be achieved. Privatisation proceeds should be used for reducing public debt.

Bank balance sheets continue to deteriorate. Bank governance and risk management, especially in state-owned banks, should be further strengthened. State-owned banks have become major owners of corporate equity, including supermarket chains, breweries, and newspapers. This creates the potential for directed and connected lending and undermines corporate governance.

Corporates are under severe stress. Corporate restructuring requires a multi-pronged approach. In addition to the BAMC, the insolvency law, scheduled to take effect at the beginning of next year, is essential to facilitate effective and speedy rehabilitation of viable corporates and deleveraging through debt-to-equity swaps while allowing nonviable firms to be wound down efficiently. Enhanced out-of-court restructuring tools should also contribute.

Despite consolidation, public debt remains on an upward trajectory. After three years of adjustment, the structural balance is set to improve further this year. Yet the headline fiscal deficit, even excluding the expenditure for bank restructuring and recapitalisation, remains high at 4.25 per cent of GDP in 2013, reflecting the sharp recession. This, combined with the costs of supporting state-owned banks, will sharply increase the public debt-to-GDP ratio.

The planned fiscal stance for 2014 is appropriate, but additional measures may be needed to achieve this target. The introduction of a broad-based property tax is welcome. However, most of the projected improvement in the 2014 budget hinges on large across–the–board expenditure cuts, not supported by specific reforms, and uncertain revenue yields from stronger tax enforcement. The authorities should prepare contingency measures of about 1 percent of GDP.

The still-unknown bank recapitalisation costs, sizeable public guarantees, and the costs of an aging population will substantially increase public debt, necessitating gradual fiscal consolidation. A second round of reforms should address the pension indexation mechanism, benefits eligibility, and the retirement age after the recently introduced pension freeze expires.

Full press release

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