Strong growth could not continue

OECD Observer

The structure of the Slovak economy seemed particularly rigid at the outset of the transition process. For this reason, the good macroeconomic performance of recent years came as a surprise. Fuelled initially by exports, real GDP growth resumed in 1994 and has remained buoyant, at around 6% per year, while inflation has declined substantially. In 1996 the emphasis of growth shifted, from being export to demand led, largely thanks to a fiscal loosening and the coming on stream of large public and private investment projects.

The immediate result of all this has been an explosion of the current account deficit, which has stood at an average of around 10% of GDP since 1996; it used to be in surplus. Slovakia was able to finance this deficit by borrowing significant international funds. This may have helped to maintain the economy’s momentum, but at increasing cost. The independent central bank’s response to these growing imbalances and, in 1997, to the deteriorating international environment was to tighten monetary policy and slow domestic demand. It also set itself the task of defending the fixed exchange rate regime – that was against a currency basket comprising the deutsche mark and the dollar. The regime was abandoned in October 1998 and the currency, the koruna, was allowed to float.

The burden of high real interest rates resulting from the restrictive mone-tary policy was aggravated by delays in enterprise and financial restructuring. The financial situation of the enterprise sector deteriorated considerably, as reflected in an increase of payment arrears and bad debts. Tax arrears also grew, contributing to revenue shortfalls in the state budget and increasing public deficits. The latter peaked at over 5% of GDP at the end of 1998, whereas it was in balance in 1995.

The main problem for Slovakia over the last two years was not so much a lack of growth, but too much of it; the economy was in fact on an unsustainable path. The central bank did well to act and is keeping monetary policy tight, now that the currency is floating. Without this action by the bank and the pro-spects of improved fiscal discipline, then the result may almost inevitably have been a sharp, perhaps more painful, correction.

©OECD Observer No 2016, March 1999 

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