184133 (Country Study, Slovenia: Winning the Transitional Economies Race)

Country Study

Slovenia:

Winning the Transitional Economies Race

Submitted by

Michael Milton Peter mpeter@indiana.edu

Robert Scott Taylor staylor@indiana.edu

Dmitri Maslitchenko dmitri@mailroom.com

Government Finance in Transition Economies

Professor John Mikesell

Fall 1996

The World Development Report: From Plan to Market (WDR) argues

that with consistent and sustained reforms, transition countries can

achieve successful long-term economic growth, but also warns that

many challenges and risks -- among them long-term stagnation and

rising poverty -- still lie ahead for some countries.

-World Bank News, June 27,1996-

INTRODUCTION

Five years ago a small republic of the former Yugoslavia, started on its path of transition from an eastern block socialist government with a planned economy to a democratic government with a free market economy. Fortunately, the rocky road, described by the World Bank News in the quote above, has not been long for Slovenia. Although Slovenia was the most prosperous Republic before the dissolution of Yugoslavia, after the breakup of Yugoslavia in 1991, Slovenia experienced high levels of inflation, a drop in the GDP and a tripling of the unemployment levels¹. These problems did not stop Slovenia’s transition to an economic powerhouse in the former Eastern Bloc. However, Slovenia had several advantages over other Eastern Bloc countries which aided in such a successful transition. This analysis will present both Slovenia’s historical and current economic status by examining the political and economic background, budgetary and monetary conditions, expenditure policies and assignment, tax structure and administration, and social insurance.

Political and Economic Background

Passing through its transition period from a centrally planned economy to a market economy, Slovenia has dealt with some successes and some failures. However, Slovenia’s experiences and economic policies could prove to be helpful for other economies in transition. There are many reasons why the transition period for Slovenia has been successful. The foundation for its quick transformation to a market economy lies within the positioning of Slovenia in the history of Yugoslavia before and after its dissolution.

After the end of World War II, Yugoslavia’s definition of socialism changed. Ownership of the means of production was defined as ‘social’ rather than ‘state’ and firms were managed by workers councils. No central planning existed after 1965 and Slovenia, as well as the other republics in Yugoslavia, were given a high degree of autonomy. Also Tito, a former leader of Yugoslavia, had deviated from the ‘command economy’ model of the Soviet Institution. As a result, the Yugoslavian government policy had an emphasis on a greater sense of autonomy, as far the economy was concerned.² The Republic of Slovenia developed its economic base by increasing the level of manufacturing in the republic as well as establishing stronger ties with the Western European countries.³ Slovenia had always been oriented towards the west, however, due to its northwestern location in Yugoslavia, its economic interaction with the western countries led it to become market oriented faster than other Eastern Europe countries.

While Slovenia was a part of Yugoslavia, it was by far the most successful republic with a per capita income of almost double that of the national average.⁴ The Slovene economy could not be solely dependent on the national market and therefore they actively traded with Italy, Austria, Bulgaria and Hungary. In fact, “with only 8% of the population, little Slovenia brought in 25-30% of Yugoslavia’s foreign exchange.”⁵ Also, Slovenia accounted for 20% of the country’s Gross Domestic Product.⁶ As a result of this high degree of decentralization and positive net outflows, the aforementioned characteristics provided the economic basis to secession. In May 1990, the people of Slovenia elected a government whose economic policy, according to Mencinger, " was set by the premise that prospects of transition to a market economy were worsening; the economic policy of the federal government mistaken, the existing economic system unsuitable, and the Federation facing political turmoil."⁷ The referendum on independence passed with 90 percent support. Since that 1990 vote, Slovenia has come a long way economically.

Slovenia declared its independence on June 25, 1991. The first year for Slovenia was quite difficult. “Real GDP fell 15% during 1991-92, while inflation jumped to 247% in 1991 and unemployment topped 8% - nearly three times the 1989 level.”⁸ The economy continued to plummet until 1993 when it flatten and then head into the positive direction. By 1993 unemployment was at 11% and many companies had lost almost 30% of their markets due to the bitter conflict in Bosnia and the loss of faith in the region by international trade partners.⁹ However, “[a]t its current rates of economic growth, [slovenia] it could pass EU members Greece and Portugal in four to five years.”¹⁰

Current Economic Conditions

Gross Domestic Product

In order to appreciate the current economic conditions of the country, it is necessary to examine some of the economic indicators in relation to their past figures. The first indicator is Gross Domestic Product. According to the EIU Country Report for the 2nd quarter of 1996, the real GDP growth percentage is slowing down. In fact between 1994 and 1995 there was a -1.4% increase in GDP.¹¹ Even though there was a negative change, the Chamber of Economy in Slovenia states that due to “tremendous growth of new companies, particularly small businesses, and the shift of foreign trade westward,” they project that slovenia is expecting to experience a 5-6 percent increase in GDP in the period up to the year 2000.¹² In addition, “the GDP per capita is higher than those of Greece and Portugal, double that of Hungary and the Czech Republic, and it has a comparatively efficient manufacturing sector.”¹³ Currently, mining and manufacturing are contributing the largest percentage to the GDP (figures from 1995 report 31%) with Trade, Hotels and Restaurants and Financial Market Services at 14% each. Although, Slovenia continues to depend on manufacturing and machinery production, other industries continue to grow and keep a diverse base for Slovenia’s GDP. (See Appendix I) The country of 2 million people has a GDP of more than $18.5 billion.¹⁴ The EIU predicts that the real GDP percentage change form the previous year will be 3.0 and 4.0 in 1996 and 1997, respectively.¹⁵ (See Appendix II)

Imports and Exports

Other important indicators are foreign imports and exports. In 1995 Slovenia had $20.8 billion in foreign trade, goods and services. Slovenia’s international trade has been geared towards western Europe, especially Italy and Germany.¹⁶ (See Appendix III & IV) One advantage that Slovenia has had in trading with the Western European countries, is that Western Europe does not charge any duty on good entering their countries from Slovenia, except some agriculture, steel and textile products; in 1995 70% of all of Slovenia’s foreign trade went to the EU.¹⁷ Western Europe has maintained a high demand for machinery and transport equipment, comprising 27% of Slovenia’s exports. (See Appendix V &VI) This consistent link with the West also is evident in the political philosophy of Slovenia.

Inflation

In 1991, when the Republic of Slovenia first started establishing policy towards a market economy, the inflation rate reached a peak of 247.1%.¹⁸ This was expected, since the economy was moving from a highly state subsidized centrally planned economy to a free- market economy. Fortunately, by 1995 the inflation rate had reached 9.5%.¹⁹ One important quality of this transition was that Slovenia managed to bring inflation under control without any balance-of payment problems. Inflation in 1996 thus far is at 10.7% a small increase form 1995, however, the Chamber of Economy of Slovenia has a positive outlook for the next year.²⁰ (See Appendix VII)

Privatization

In 1994, the Slovenian government took its first steps towards privatization. At first the country observed the other Eastern Bloc countries and learned from their failures. The companies or enterprises’ were allowed to choose between five privatization models, which were then approved by the Agency for Privatization.²¹ Most of the companies were sold off to the workers and managers.

The citizens were given privatization coupons valued at 100,000 - 400,000 Tolars, depending on the age of the individual. The coupons could be used to buy shares or invest the money into securities. Over 45% percent of the coupons were invested into fund securities.²² According to Price Waterhouse, over 400 enterprises have been successfully privatized and another 1000 will soon be at the same status. However, some companies, such as public utilities, national telecom, and two commercial banks have not gone through the process; the government states that these entities will undergo special privatization processes.²³

Political Situation

On the 25th of June, 1991, Slovenia declared the end of its political ties with the former Yugoslavia. Although, the government of the former Yugoslavia did not want the republic to secede, after a mild show of military force, Yugoslavia gave Slovenia up. Since then, the National Assembly has been the main legislative body of the Republic of Slovenia. This national legislature consists of 90 members that are directly elected by the people for four year terms. In addition, there is the Council of State that is elected for five years. This council has 40 members, 22 representing local interests, 12 evenly divided between employers, and 6 representing non-economic activities.²⁴

Slovenia is currently governed by two dominant parties who have formed a government coalition, the Liberal Democracy of Slovenia (LDS) and the Slovene Christian Democrats (SKD). The LDS stems from the youth movement of the former communists while the SKD originates from a Christian tradition dating back before the Second World War.²⁵ The differences in these groups are the main reasons why there seldom is cooperation in making government decisions. However, there are other parties with greater opposition: the Social Democrat Party of Slovenia(SDSS), the Slovene National Party (SNP) and the Slovene People’s Party (SLS).²⁶

One aspect that has helped Slovenia remain stable politically is that the ethnic make-up is not extremely diverse. Almost, 91% of the population is Slovene and they are predominantly Roman Catholic.²⁷ (See Appendix VIII ) This composition has allowed Slovenia to focus on economic revival rather than religious ethnic conflict, quite unlike their neighbors to the south in Bosnia-Herzogovina.

In November of 1996, Slovenia had elections and most of the incumbents were re-elected. The LDS won the most seats (25) and the Slovenian People’s Party, conservatives, won the second largest at 19.²⁸ This could cause a conflict because, both the liberals and the conservatives have gained a significant amount of power after this election. In the coming months the coalitions that form with the parties with fewer seats could be significant for the political climate of Slovenia. The far right conservatives, United List of Social Democrats(ZLSD- former communists), do not back Slovenia’s entrance into NATO, claiming neutrality should be considered an option; the entrance into the EU will be supported by the ZLSD.²⁹ However, economists warn that Slovenia should not rely on its economic successes in the past but instead should focus on increasing privatization and address the slowing industrial production and rising unemployment.³⁰ The new government needs to continue to work towards improving the economic state of the Republic if they expect to become more like a Western European country.

Budgetary and Monetary Conditions

Slovenia began to stabilize its economy before it had gained its complete independence because inflation was increasing drastically. Although, Slovenia made a clean break to independence, there were some costs involved. Slovenia had 33 percent of its exports going to Yugoslavia, however, with its independence Slovenia had an instant 6 percent decrease in its GDP.³¹ This economic shock was small in comparison to the 38 percent decrease in industrial production Slovenia faced because of its transitional state. Slovenia stabilized its economy by October 1992. This was achieved through the introduction of a new currency, the tolar, and the creation of an independent central bank, the Bank of Slovenia.

The financial sector plays a key role in the transition process. In 1995, the financial and market services sector comprised 14% of the GDP, the second largest contributor.³² In addition, a strong financial sector is necessary for resource allocation and mobilization, and a prerequisite for any large-scale privatization scheme.