The outlook for Slovakia, dependent on export performance

GDP growth in Slovakia will be lower in 2011 [3.3%] as a result of the governments austerity measures, introduced with the aim of reducing the public deficit to 4.9% of GDP this year.

Madrid - 18-mar-2011

The Slovakias once rigid economy, controlled by massive state intervention, has been transformed into an open economy with high foreign direct investment [FDI] inflows and export-oriented GDP growth. Slovakia has become the worlds top supplier of cars per capita due to its favourable business climate, characterised by low wage costs, tax breaks, and a skilled workforce. These factors have also attracted FDI in electronics, IT and engineering, but, with its very open economy and export dependency, Slovakia was hit hard by the global economic crisis, with real GDP contracting by 4.7% and exports declining 16.5% in 2009.

However, the recovery has turned out to be well above earlier expectations, with real GDP growth forecast to be 4% in 2010, due mainly to a rebound in exports - up 22% year-on-year in the period January-November 2010 - and the loose fiscal policy of the previous administration. The industrial production index [IPI] has increased 18.9% year-on-year in 2010. On the negative side, private consumption is hampered by the high unemployment rate - 14.1% in Q3 of 2010 - and the reluctance of the banking sector to grant new loans.

In general, the financial sector in the Slovak Republic remains robust. The largely privatised and foreign owned banks have weathered the credit crisis quite well, as they were less reliant on foreign funding than some other Eastern European markets.

Economic policy

Slovakia entered the Eurozone on 1 January 2009, following years of fiscal discipline that led to a public debt of only 32% of GDP in 2008. However, to mitigate the impact of the economic slowdown in the run-up to the 2010 general elections, the former government stepped up spending. The budget deficit increased to 7.4% of GDP in 2010, exceeding the European Monetary Union [EMU] target rate [Stability and Growth Pact] of 3%. The main challenge for the new administration is to reduce the budget deficit below 3% of GDP by 2013 and thus prevent an unacceptable accumulation of public debt, which had increased to 41% of GDP by the end of 2010. Therefore, in October 2010, the government approved austerity measures aimed at saving 1.7 billion Euros this year. These include, cuts in state spending, e.g. by reducing the number of civil servants and cancelling public projects, and tax rises, including a temporary VAT increase.

From 2002 until the outbreak of the economic crisis, exports soared thanks to record sales of cars, metals, machinery and furniture.  However, FDI-related imports increased even faster, causing large current account deficits.

The global recession had a drastic impact on Slovakias external accounts. Both imports and exports decreased sharply, but the net position remained more or less the same. External trade rebounded strongly in 2010, and the lower current account deficits will continue to be within the acceptable 2-3% of GDP-limits. Foreign direct investments [FDI] are easily able to cover those deficits. However, despite a recovery from the sharp decline in 2009, for the time being FDI inflows will not be as high as before the crisis.

Outlook

GDP growth will be lower in 2011 [3.3%] as a result of the governments austerity measures, introduced with the aim of reducing the public deficit to 4.9% of GDP this year. However, if the budget deficit is to be reduced below 3% of GDP by 2013, more austerity measures may be necessary. Whether these will include deeper structural changes to the tax and pension system is uncertain, as such measures would hurt a large section of the population at a time when the current government holds only a small majority in parliament.

In general, Slovakias overreliance on external demand poses a risk, as its export performance may be damaged by the austerity measures taken by some of its main trading partners in Western Europe. Having given up its monetary autonomy by joining the Euro, budgetary and incomes policies have become even more important in maintaining the competitive position of Slovak export industries, especially in the event that the Euro becomes too strong.

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