- Growth strengthened in the first half of 2014. Despite a stronger-than-expected performance in early 2014, growth is forecast to moderate in the second half of the year and remain at 0.7 per cent in 2014.
- Slovenia has revived its efforts in economic reforms, but policy uncertainty lingers. The previous government pursued economic reforms and gained credibility, which was reflected in a lower cost of financing in international markets. The new government, elected in September following the resignation of the previous government in May, has expressed a continued commitment to reforms, but important implementation challenges remain.
- A major bank clean-up took place in December 2013 following system-wide stress tests and asset quality reviews. The government’s own resources were used to meet the bulk of the banks’ €4.8 billion in capital shortfalls. Preparations are under way to restructure and privatise the country’s two largest state-owned banks, and further bank mergers are expected.
Key priorities for 2015
- Privatisation and restructuring of the corporate sector is crucial for the success of structural reforms. The private corporate sector continues to suffer from excessive leverage and complex ownership structures, which further complicates debt restructuring. Operational restructuring and privatisations, which will be a key test of the government’s commitment to reforms, should be fostered by strengthening legislative capacity and ensuring the efficient management of the Slovenian Sovereign Holding (SSH).
- Restructuring the banking sector and clearing up the remaining NPLs should help spur new lending. Significant efforts have been made to stabilise the banking sector, but its restructuring is far from complete. Large non-performing loans (NPLs) still remain on the banks’ balance sheets, eroding profitability and discouraging banks from providing new credit. This consequently affects the corporate sector, including small and medium-sized enterprises. Clearing the banking system of NPLs and improving corporate governance in banks should therefore be top priorities.
- The authorities should commit to long-term fiscal sustainability. The ratio of debt to GDP has increased substantially, largely owing to bank recapitalisations, and is expected to surpass 80 per cent of GDP in 2014. Heightened efforts are needed to achieve long-term fiscal sustainability, especially in light of increasing expenditures in the pension and health care systems. Privatisation proceeds could contribute to debt sustainability but privatisation should not only be driven by budgetary needs. It should also serve as a strategic policy to transform Slovenian firms into more competitive and robust entities in the international markets.
GROWTH STRENGTHENED IN THE FIRST HALF OF 2014
SLOVENIA HAS REVIVED ITS EFFORTS IN ECONOMIC REFORMS, BUT POLICY UNCERTAINTY LINGERS
A MAJOR BANK CLEAN-UP TOOK PLACE IN DECEMBER 2013 FOLLOWING SYSTEM-WIDE STRESS TESTS AND ASSET QUALITY REVIEWS
Note: FI – Financial institution; ICT – Information and communication technology; Water – Water and wastewater; IAOFS – Insurance and other financial services; PE – Private equity.
Main macroeconomic indicators %
|Current account balance/GDP||-0.1||0.4||3.3||6.5||5.9|
|Credit to private sector/GDP||84.9||81.7||79.0||65.3||n.a.|
Note: Slovenia is a member of the euro area.
Growth has been better than expected in early 2014, but it is likely to recede to 0.7 per cent. GDP grew by 2.1 per cent year-on-year in the first quarter of 2014 and 2.9 per cent year-on-year in the second quarter. Strong export performance and investment activity have been the main drivers of growth, while political and economic uncertainties and subdued wages weighed on consumption. Credible reforms in late 2013 and early 2014 also contributed to a higher growth rate in the second quarter by boosting market confidence, lowering Slovenia’s country risk premium and reducing the sovereign’s cost of funding. However, the prospective wave of corporate restructurings, if pursued, will likely weigh on employment and domestic demand in the short term, keeping GDP growth in 2014 at a modest 0.7 per cent, while at the same time improving medium-term growth prospects. Meanwhile, political uncertainties partly contributed to S&P downgrading Slovenia’s outlook from stable to negative, though the rating remained high at A-. Although the new government has expressed its continued commitment to reforms and further privatisations, market sentiment will largely depend on whether this is confirmed in practice.
Public debt rose sharply due to banking sector recapitalisation. The budget deficit reached 14.9 per cent of GDP in 2013, with bank recapitalisation costs accounting for 10.3 percentage points, while the positive impact of higher value added tax rates, and cuts to public wages and social benefits, were mainly offset by higher interest rates and pension expenditures. Consequently, public debt rose to above 70 per cent of GDP in 2013, from 54.4 per cent in 2012, owing to bank recapitalisations and the transfer of NPLs to the Bank Asset Management Company (BAMC) in December 2013, as well as negative output growth. The level of public debt is expected to deteriorate further, mainly due to additional cash transfers to the banking sector scheduled for the second half of 2014 and sustained moderate economic growth. According to the European Commission, the debt to GDP ratio is expected to exceed 80 per cent of GDP by the end of 2014, more than double the ratio seen in 2010.
Growth is expected to remain subdued in 2015, with prospects improving over the medium term if reforms continue. While meaningful growth is crucial over the medium term, a wave of corporate restructurings will continue to weigh on domestic demand and subdue growth in 2015. Consequently, growth is expected to remain at 1 per cent over the next year, and then pick up sustainably over the next few years. The medium-term growth outlook will, however, be challenged if the reform momentum, which already slowed during the snap election cycle (as expected), does not accelerate with the new government that took over in September 2014. Other major risks to the forecast include the pace of recovery in the eurozone – Slovenia’s largest trading partner – as well as a change in market sentiment, which could lead to a rise in the risk premium if perceived fiscal consolidation does not remain on track.
Major structural reform developments
Slovenia has significantly strengthened its reform agenda, although the momentum slowed amid snap elections. A number of positive developments took place in Slovenia during the previous government’s term. Constitutional amendments passed in 2013, which limit the calling of referendums aimed at blocking individual reforms and budget laws, have paved the way for rapid and much-needed reforms. A National Reform Programme, presented to the European Commission in May 2013, progressed well in late 2013 and early 2014. Notably, parliament approved the privatisation of 15 large companies, the authorities completed a major bank recapitalisation and cleaned the banks’ balance sheets, and amendments to the insolvency law were adopted. This boosted market confidence and enabled the government to borrow more easily, and at lower costs, in the international markets. However, the government’s resignation in May, and ensuing snap elections, have slowed the reform momentum somewhat and fuelled concerns about future reforms amid still fragile growth prospects.
A major bank clean-up took place in December 2013 following stress tests and asset quality reviews. Tests and checks across all key banks have dispelled uncertainty about capital needs in Slovenia’s banking sector. Completed in December 2013, assessments were carried out across all banks, including foreign-owned banks, using criteria set out by the European Central Bank and the European Commission. Although capital needs for state-controlled banks could have been met by the government’s liquid reserves, aggregate capital needs for all banks amounted to €4.8 billion (13 per cent of the country’s GDP). Immediate priority was given to preparing the two largest state-owned banks, NLB and NKBM, for restructuring and privatisation, as mandated by European Union state aid rules (the NKBM privatisation process is already under way as it features among the 15 companies on the parliament-approved privatisation list). Slovenia has also announced its intention to merge Abanka with Banka Celje and privatise the joint entity. Meanwhile, the banking sector as a whole is increasingly engaged in NPL work-outs.
The bulk of non-performing corporate loans have been transferred to BAMC, but significant NPLs still remain in the banking sector. Established in 2013, the Bank Asset Management Company purchased significant non-performing assets from Slovenia’s two largest banks in early 2014. Nevertheless, large NPLs (around 15 per cent of total loans as of March 2014) still remain on the banks’ balance sheets, reducing their profitability and weighing on new lending.
Privatisation continued, albeit somewhat slower than initially expected. Several large privatisations, such as Mercator, Ljubljana Airport and Letrika, were completed in 2014. A number of other large state-owned companies, including Telekom Slovenije and the country’s second largest bank, NKBM, are currently undergoing privatisation. However, the government’s controversial decision in the aftermath of the snap elections to stall the privatisation process raised questions about reform commitments. This decision has since been revoked, allowing for continued privatisation.
Steps have been taken to improve the corporate restructuring process, but further efforts are needed. A new insolvency law was adopted in late 2013, and a set of revised “soft law” principles (guidelines) for out-of-court multi-bank restructuring were adopted in May 2014. These legislative changes paved the way for a more efficient and timely corporate restructuring process, which is a key factor for reform success, as the enterprise sector remains heavily dominated by direct and indirect government involvement, and excessive leverage. High leverage and complex shareholding structures, under state ownership, make loan foreclosures a difficult process. The Slovenian Sovereign Holding Act was adopted in April 2014. However, it remains crucial that SSH (the new agency for managing state assets), is efficiently managed and the strategy supporting wider privatisation is approved by parliament.