On August 27, 2014, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation¹ with the Slovak Republic.

The Slovak economy slowed in 2013, but is gathering momentum as the euro area and domestic demand recover, complementing the strong export sector that has underpinned the economy in recent years. While output has climbed each year since the 2009 downturn, unemployment remains very high—around 14 percent—with about two-thirds of this long-term, and higher joblessness among youth (around 33 percent). Substantial fiscal adjustment brought the deficit to 2.8 percent of GDP in 2013, enabling exit from the EU’s Excessive Deficit Procedure. Public debt is manageable and has been easily financed on favorable terms. Private debt is also moderate, and the banking sector remains sound with strong capital and liquidity levels.

The outlook is favorable with growth of 2.4 percent forecast this year and 2.7 percent for 2015, although there are downside risks related to the strength of the recovery in Europe and geopolitical tensions. Inflation turned negative in early 2014, reflecting weak domestic demand as well as falling food and energy prices, but is expected to return to moderately positive territory later in the year. The trade and current account balances are forecast to remain in surplus.

Policy discussions focused on: (i) actions to support growth, reduce high unemployment, and address regional disparities; (ii) the need for high-quality and durable fiscal measures, especially on the revenue side, to sustain fiscal adjustment progress, limit the impact of debt brakes, and make room for budget priorities; (iii) and steps to strengthen further the prudent approach to financial sector regulation and encourage capital market development.

Executive Board Assessment²

Executive Directors welcomed the improved growth outlook, which reflects a pick-up in domestic demand, following the strong export performance in recent years. Directors noted, however, that a slow recovery in Europe and geopolitical tensions constitute important risks to the outlook. Moreover, Directors agreed that high unemployment and large regional disparities remain key challenges.

Directors encouraged the implementation of wide-ranging policies to promote investment and job creation, particularly in lagging regions. They agreed that these policies should focus on strengthening infrastructure, including through better use of EU funds; and creating a more favorable business environment by improving contract enforcement, public procurement, and the legal system, and addressing corruption. Actions are also needed to enhance the functioning of labor markets by reducing the tax wedge, reforming the benefit structure to make work more attractive, strengthening education and training, and bolstering public employment services.

Directors recognized the significant fiscal adjustment carried out by the authorities since 2009, which allowed the Slovak Republic to exit the EU’s Excessive Deficit Procedure. Nonetheless, they emphasized the need for additional durable fiscal measures to sustain the progress achieved and put debt firmly on a declining path while protecting growth. In view of the need for stepped-up investment in infrastructure and human capital, and against the backdrop of below-EU-average revenue and expenditure levels as shares of GDP, Directors agreed that strengthening revenue collection, including by reducing evasion and fraud, is crucial. In this regard, they welcomed recent progress in strengthening VAT efficiency and the decision to maintain the VAT rate, and encouraged the authorities to consider a property tax based on market values, which would be more equitable and less distortive than other taxes. Furthermore, they concurred that privatization of state assets would help reduce debt in a growth-friendly way.

Directors noted that the combination of domestic and EU fiscal rules have created a complicated fiscal framework. While emphasizing the need to preserve credibility, Directors encouraged the authorities to consider streamlining the framework over time, after experience has been gathered, to make it less pro-cyclical and less focused on expenditure cuts.

Directors commended the authorities’ continued prudent supervision of the financial system. While noting the staff assessment that risks related to the housing market remain moderate, Directors considered that increasing loan-to-value ratios for mortgages and the sustained growth of other housing loans warrant attention. They welcomed efforts to encourage domestic capital market development, which could help support non-bank finance and credit to small and medium enterprises.