24.

SLOVAKIA
Growth temporarily weakens as external boost tails off
Growth set to slow markedly in 2013

to a halt in 2012, with the construction production index having dropped by more than 10%. This situation is expected to improve only gradually. Declining trends in confidence, the postcrisis tightening of lending standards and the expected impact of fiscal restraint on public investment are all likely to hold back fresh investment in construction. On the other hand, it is foreseen that the rather high profitability of Slovak corporates will support investment in equipment, which is expected to resume in 2014 in line with export demand.

Growth in the Slovak economy slowed down moderately in 2012, with GDP expected to have increased by 2%. This overall positive performance was nearly entirely driven by an expansion in the export-oriented automotive industry. The contribution of domestic demand to GDP growth was disappointing, reflecting the persistence of a high rate of unemployment in the labour market and a drop in private investment. With the effect of car exports fading out in 2013, GDP growth is set to decelerate to 1.1%. The forecast also reflects the adverse short-term impact of a sizeable consolidation on private consumption and public investment. In addition to fairly robust external demand in 2014, consumer confidence and domestic demand are expected to gradually strengthen over the forecast horizon, underpinning a pick-up in GDP growth to 2.9% in 2014.
Export growth to remain a key driver

With past investment reaching the production phase, the manufacturing of transport equipment, largely consisting of cars for export, accounted for the whole 10% increase in industrial production in 2012. This, together with import growth dampened by sluggish domestic demand, led to the widening of the trade surplus to above 3% of GDP in 2012, thus bringing the current account into balance. With no further productive expansions of the car industry planned for 2013 and high frequency indicators pointing to reduced expectations on orders and a drop in industrial production, export growth is expected to decelerate sharply in the first half of 2013. Given that profitability in the tradable sector remains high, a moderate pick up is expected to take place from the second half of 2013 onwards.
Domestic demand to stay subdued amid a sluggish labour market

Investment plunged in 2012 reflecting a strong base effect associated with large-scale projects carried out in 2011 and business surveys pointing to demand concerns increasingly limiting production. This is in line with the bank lending survey reporting a decline in corporate demand for long-term loans despite rates being at historical lows. Investment in the non-tradable sector ground

Private consumption declined further in 2012 and is not expected to recover until 2014. With a large and increasing pool of resources sitting idle and GDP growth remaining well below the rates associated with falling unemployment, real disposable income of households is expected to decline in 2013. The unemployment rate is set to hover around 13% over the forecast horizon, remaining some 4 pps. above the pre-crisis level. The forecast is subject to downside risks as it assumes that employers will adjust mainly through reductions in hours worked in 2013. Households are nonetheless expected to prevent a further drop in consumption in 2013 by drawing on their savings. In line with developments in the labour market, unit labour costs are expected to remain contained. Inflation is accordingly set to stabilise at close to 2% due to subdued domestic demand pressures and imported inflation and the fading out of base effects from previous price shocks.

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Member States, Slovakia

Consolidation ahead

The deficit is estimated to reach 4.8% of GDP in 2012, only slightly lower than in 2011. In the course of the year, the revenue side was negatively impacted by substantial shortfalls in VAT, excise duties and income tax revenues, while overruns occurred on the wage bill, healthcare and subsidies. A sharp drop in public investment was the main factor contributing to the modest improvement in the general government budget. Other factors included slower growth of pension expenditure and postponement of investments to later years. Moreover, revenue measures adopted during the summer of 2012 helped to mitigate negative developments in public finances. The package included a reduction in the contribution rate for the fully funded pillar in favour of the public scheme, a broadening of the base of the bank levy introduced in January 2012 additional one-off special levies for banks and for companies operating in a regulated environment Consolidation efforts will resume in 2013. The 2013-15 budget includes a second package of revenue measures and envisages further

expenditure cuts. Extra revenue would come from an increase in the corporate income tax rate from 19% to 23%, the introduction of a new 25% tax bracket in the personal income tax system, an adjustment of the tax regime for self-employed and atypical work contracts (i.e. workers 'by agreement'), changes to the assessment bases for social contributions, and increases in administration fees. The expected savings on the expenditure side are mainly concentrated on the public wage bill, spending on goods and services, and investments. Local governments are expected to carry out the largest part of this adjustment but the forecast assumes these would not be achieved in full. The projected headline deficit for 2013 is 3.3% of GDP. Taking into account the effect of one-off measures, the structural balance is also expected to reach 3.3% of GDP. A slight deterioration in the headline deficit is projected for 2014 under unchanged policies. This reflects mainly the fact that some consolidation measures in 2013 are of one-off nature or are set to expire. The public debt ratio is projected to increase gradually over the forecast horizon and reach 57% of GDP in 2014.

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