29 May 2012

IMF: Slovak Republic—Concluding statement for the 2012 consultation mission

The government's commitment to fiscal consolidation is welcome, but durable adjustments require complementary reforms. The government's economic programme now being elaborated provides an opportunity to put in place the necessary reforms to promote vibrant and inclusive growth.

Externally, an intensification of the euro area crisis would reduce demand for Slovak exports and increase bond spreads, reducing growth and weakening banks’ balance sheets. Working together with European partners in creating a more complete monetary union would help allay this risk. Domestically, a loss of market confidence in government’s commitment to fiscal consolidation would increase funding costs and result in tighter credit conditions. An early parliamentary approval of durable deficit reduction measures would reassure markets.

The significant fiscal retrenchment in 2011 is welcome, but further adjustment will be needed to ensure debt sustainability. In 2012, adjustment stalled amid the election cycle and expenditure overruns, and the deficit is expected to remain broadly unchanged at 4¾ per cent of GDP. In the absence of further fiscal consolidation, public debt ratio will remain on a rising trajectory and become increasingly vulnerable to shocks. Stabilising the debt at 40 per cent of GDP in the long run—a level that would leave room for the expected increase in ageing-related costs and other priority spending—would require a structural fiscal effort of about 2½ per cent of GDP relative to 2011.

While the government’s deficit reduction plans are appropriate, policies should be prepared to let automatic stabilisers work fully.Though the details are still being worked out, it appears that the planned measures would be sufficient to lower the deficit to below 3 per cent of GDP in 2013, while not unduly constraining growth. If growth turns out lower than expected, policies do not need to counterbalance the resulting revenue shortages, but should instead be allowed to operate automatically (for example, through higher unemployment compensation and social assistance), thereby limiting the effects on the economy. At the same time, if growth surprises on the upside, the higher revenue should be saved to facilitate the adjustment.

The focus of the planned adjustment mainly on boosting revenues is broadly appropriate. Following a sizeable expenditure-based consolidation in 2011, the room for additional spending cuts without fundamental public sector reforms is limited, necessitating focus on revenue measures in the short run. These include shifting pension contributions from the second to the first pillar, introducing a progressive personal income tax, increasing the corporate income tax rate, extending the bank levy on corporate deposits to retail deposits, as well as broadening social insurance and income tax bases.

However, complementary reforms are essential to ensure a durable fiscal consolidation. The planned shift of pension contributions brings with it increased future government pension obligations. We therefore welcome the authorities’ plans to combine it with a parametric reform of the first pillar. The reform should be underpinned by an actuarial analysis to ensure the system’s financial solvency. The proposed increase in direct taxes may reduce incentives to invest, underscoring the need for a more welcoming investment climate. The envisaged numerous changes to the tax system could raise collection risks, while the bank levy could discourage financial intermediation.

In the medium term, considerable savings could be achieved by improving tax administration and expenditure efficiency. Removing non-standard exemptions and strengthening VAT administration could generate some 1½ per cent of GDP in additional revenue. The planned unification of revenue collections would aid in this regard. International comparisons suggest that increasing efficiency in health spending could generate some 1¾ per cent of GDP in savings. The planned reform of public administration could result in additional efficiency gains. The generated savings could be used to reduce debt further, to improve the quality of public sector outcomes, and to finance improvements to public infrastructure in less developed regions of the country.

The recently adopted fiscal responsibility legislation (FRL) is welcome, but there is scope to strengthen the fiscal framework further. The Slovak FRL is broadly in line with best international practices: it enhances transparency and accountability, covers a broad definition of government, and includes appropriate enforcement mechanisms. However, making the FRL fully operational requires anchoring the budget in a sound medium-term fiscal framework. Moreover, collecting and publishing in the budget financial information of public entities, including hospitals, would improve the monitoring of fiscal risks.

Press release

© International Monetary Fund