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Country Report Slovenia

Country Report

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Slovenia avoided a sovereign bail-out last year, as an asset quality review revealed manageable bank recapitalization costs. Yet, the country is not out of the woods yet, as its increasingly instable government struggles to rein in this year’s budget deficit. 

The text of this publication was completed on April 24, 2014. 

Strengths (+) and weaknesses (-)

(+) Favourable geographic position and well-educated workforce

Thanks its proximity to the German and Austrian markets, its integration into regional supply chains, and its well-educated workforce, Slovenia’s economy holds considerable potential to rebound once the current severe banking crisis has been resolved.

(-) Lingering political instability

Due to a lacking consensus on the direction of economic policies, the stability of Slovenia’s current coalition government remains at constant risk. Its collapse would likely trigger a political crisis that could halt recent fiscal consolidation efforts and increase the need for external assistance.

(-) Severe banking sector crisis and strongly rising public debt

Slovenia’s mainly state-owned banking sector is burdened with large amounts of bad loans that have eroded capital adequacy levels in recent years, forcing the government to repeatedly recapitalise banks. Consequently, public debt levels have risen strongly.

(-) Wide-spread state-ownership in various sectors reduces efficiency

Owing to past reluctance to privatize large parts of the economy, direct and indirect state-ownership is prevalent in various industries, particularly in the financial sector. The resulting close ties between various sectors and Slovenia’s political elite undermine economic efficiency through conflicts of interest, corruption and connected lending practices.

Key developments

1. Sovereign bail-out averted for now, but sizeable challenges remain

The likelihood of an imminent EU/IMF-led sovereign bailout decreased markedly following the publication on December 12th, 2013 of the results of an extensive asset quality review (AQR) and stress tests conducted at eight banks accounting for about 70% of system-wide assets. The assessment revealed a total capital shortfall at these banks of EUR 4.7bn under an adverse scenario, which was more or less in line with market expectations. The required capital increase at Slovenia’s three largest state-owned banks amounted to EUR 3bn and has been provided by the government, while two domestic and three foreign banks have been asked to increase their capital levels until June 2014. Thanks to accumulated public savings and last November’s private placement of a EUR 1.5bn bond with a single investor, Slovenia’s government managed to finance the sizeable recapitalisation of the state-owned banks out of its own coffers. As two relatively small domestic banks still struggle to attract necessary funds, it may still have to increase these banks’ capital levels as well in the second half of this year. Besides recapitalising the banking sector, Slovenia finally started to transfer bad loans to a bad bank in December, which will receive non-performing loans from the three largest banks worth EUR 4.5bn this year. Still, given a post-transfer non-performing loan ratio of about 13% early this year, these banks’ asset quality remains worrisome. While the fact that Slovenia managed to recapitalise its ailing banks without external assistance was well-received by financial markets and helped the government pre-finance this year’s borrowing needs, the likelihood of an EU/IMF-bailout beyond 2014 remains present. Unless the government speeds up the currently sluggish privatization of state-owned enterprises, last year’s bank sector recapitalisation may turn out to be a stop-gap measure, as underlying connected lending problems remain unaddressed. Given corporate sector debt service costs amounting to 90% of EBIT, as well as serious governance problems, investment into these enterprises improving both equity levels and management is needed. However, given concerns about cabinet cohesion, progress on needed structural reforms, including privatization, has been lacklustre so far and may even slow down further if political stability were to weaken once more.

2. Government stability put to the test amid tensions within prime minster Bratušek’s party

Following a year of relative political stability, the outlook for cabinet cohesion has deteriorated markedly in April, as Prime Minister Alenka Bratušek of the Positive Slovenia (PS) party faces a serious challenge to her party leadership by former PS head Zoran Janković at the upcoming party convention held on April 25th. While Ms Bratušek remains popular within her party, Mr Janković stands a good chance of returning to the helm of the party, which would likely lead to Ms Bratušek’s resignation from her post as prime minister, since she would miss the support of her own party. Moreover, several parties may opt to leave the cabinet, as Mr Janković’s withdrawal from the PS leadership was seen as a precondition for joining Ms Bratušek’s coalition given lingering corruption allegations. Pending the result of the PS’ internal leadership struggle, Slovenia may be heading for early elections, which could delay the implementation of urgently needed structural reforms, including privatization. Notwithstanding the likely negative effect on investor confidence, domestic support for a replacement of the current administration by a more ambitious cabinet has been growing recently and President Pahor suggested early elections may yield a less disparate cabinet that would be strong enough to embark on painful reforms. 

Figure 1: Public finances
Figure 1: Public financesSource: European Commision
Figure 2: CDS spreads
Figure 2: CDS spreadsSource: Bloomberg

3. Economic outlook improves, but public debt sustainability concerns remain

According to the European Union’s Winter forecast, Slovenia’s economic growth is expected to gradually gain steam after two consecutive years of contraction, reaching roughly 0% in 2014 and 1.3% in 2015, as exports benefit from the gradual recovery in the euro area. Domestic demand is expected to remain depressed, however, by tight credit conditions, ongoing corporate deleveraging, fiscal austerity measures and high unemployment. Notwithstanding the projected return to positive growth figures, public debt sustainability concerns remain. Recent fiscal consolidation efforts mainly rely on (excise) tax increases amid ongoing weakness of domestic demand, while necessary structural reforms (e.g. pensions) that lower future expenditure and boost Slovenia’s growth potential have been postponed in order not to endanger cabinet cohesion. In case tax revenues were to disappoint, Slovenia may fail to limit this year’s budget deficit to the projected 3.5% of GDP. This would undermine the country’s efforts at reining in recent years’ strong increase in public indebtedness. Given the risk of ongoing complacency regarding necessary structural reforms, as well as lingering political instability, currently benign market access may deteriorate once more and Slovenia could eventually be forced to still apply for external assistance.

Factsheet of Slovenia
Factsheet of SloveniaSource: EIU, CIA World Factbook, UN, World Economic Forum, Transparency International, Reporters Without Borders, World Bank.

Background information

Slovenia is a small country in Central Europe with an open economy, a population of 2 million inhabitants and a nominal GDP of USD 47bn in 2013. The former Yugoslav republic was the first former Communist economy to join the euro area on January 1st, 2007. Given a nominal GDP per capita at PPP of USD 28,294, it ranks among the wealthiest economies in central- and eastern Europe, but its income level is still 35% lower than neighbouring Austria’s. In spite of its small size, Slovenia’s economy is relatively well-diversified. Besides a sizeable tourism sector, the country has a large manufacturing sector that focuses on the production of transportation equipment (e.g. Renault) and car parts, machinery, metals, chemicals, and electric appliances. Slovenia has so far avoided large-scale privatisations and state-ownership is widespread. The consequent close links between various state-owned enterprises and banks, resulting conflicts of interest and sizeable amounts of connected lending, have been at the roots of Slovenia’s current severe banking crisis. Mainly state-owned banks have been in constant need of government-funded recapitalisations after having accumulated very large amounts of non-performing loans, part of which have been transferred to a bad bank in early 2014. Owing to its banking crisis and the government’s fiscal consolidation measures, Slovenia’s economy has been in recession since 2012. Meanwhile, public disenchantment with the political elite has increased considerably, which has come at the cost of increased political instability. Following the resignation of the previous government amid a corruption scandal in March 2013, Slovenia is currently governed by a centre-left four-party coalition government under the leadership of prime minister Alenka Bratušek. 

Economic indicators of Slovenia
Economic indicators of SloveniaSource: European Commission, EIU, Slovenian government
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Author(s)
Fabian Briegel
RaboResearch Global Economics & Markets Rabobank KEO
+31 6 5357 3114

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