SLOVAKIA'S SLUMP HITS HOME

C O N F I D E N T I A L SECTION 01 OF 02 BRATISLAVA 000165 SIPDIS STATE FOR EUR/CE L. LOCHMAN AND K. ERTAS STATE FOR EUR/ERA L. KIRKCONNELL STATE PLEASE PASS TO TREASURY FOR L. NORTON E.O. 12958: DECL: 04/09/2019 TAGS: ECON EFIN LO SUBJECT: SLOVAKIA'S SLUMP HITS HOME REF: BRATISLAVA 146 Classified By: CDA Keith A. Eddins, for reasons 1.4 b and d SUMMARY -------------- ¶1. (C) The National Bank of Slovakia's new forecast for -2.4 percent growth is beginning to sink in with both the government and opposition. The official budget assumption is now off by 7 percent, and the government is saying it will re-open the budget in a few weeks. The deficit implications of the deteriorating economy are stark: the deficit is predicted to climb to 4.5 percent, although publicly the GoS has only admitted to around 3 percent. ¶2. (C) The government is looking for a new round of budget cuts, but the absence of new revenue sources in the near term will make meaningful fiscal stimulus unlikely. The GoS is reportedly looking to revise its scheme for social contributions, possibly in response to businesses' pleas for relief. Faced for the first time with hard budgetary choices in the months ahead, the Fico Government may be compelled to take a step, even if reluctantly, toward some structural reforms. End summary. GROWTH: GOING NEGATIVE -------------- ¶3. (C) The National Bank of Slovakia (NBS) announced this week that it is predicting GDP growth of -2.4 percent for ¶2009. As reported earlier (reftel),the NBS board member responsible for forecasting told us privately in mid-March that its forecast for 2009 would cross into negative territory. The only questions at that time concerned the extent of the contraction and a political negotiation about the timing of the announcement. (The required date for the forecast was 31 March, incoveniently close to the April 4 Presidential runoff election.) Now that the number is out, it is drawing demands for a formal budget revision from the opposition. ¶4. (U) Publicly, Finance Minister Jan Pociatek has commented that the forecast is "realistic" and is conceding the need to reopen the budget, which he has promised to do in three weeks. The current budget is based on an assumption of 4.6 percent growth, which is now a full 7 percent off the central bank's latest forecast. The opposition has taken the opportunity of the new forecast's release to label the government's budget a "scrap of paper," which, while perhaps overly acerbic, is not far from reality. ¶5. (U) Former Finance Minister Ivan Miklos has added that this budget includes a number of non-recurring revenue sources from the liquidation of assets stemming from earlier privatizations. The government has responded by blaming its opposition critics for having senselessly privatized profitable state enterprises during their turn in office, thus depriving their successors of revenue sources. (Note: One of the "profitable state enterprises" whose privatization Fico stopped shortly after taking office is the rail cargo company Cargo Slovakia, which this week received a EUR 166 million subvention from the GoS. End note.) The political squabbling over the shrinking budget will only intensify as it comes to specifics, but the conversation will probably exclude the opposition. DEFICIT TO BE 2.5...3.0...NO, WAIT... -------------- ¶6. (C) Both Pociatek and Fico have for some time been speculating in front of microphones that the crisis would likely push the deficit "to or even over" the 3 percent Maastricht ceiling. This week, the government submitted its 2009-2011 stabilization plan to Brussels with a (probably disingenuous) 3 percent deficit for this year and 2.9 percent for 2010. Behind the scenes, though, the Finance Ministry is trying to deal with the new reality. An advisor to Pociatek told us that, given a 2.4 percent contraction in the economy, the budget deficit could be predicted to jump to 4.5 percent of GDP from the official figure of 2.5 percent. ¶7. (U) What to do? The Ministry is now considering a fresh, BRATISLAVA 00000165 002 OF 002 and less voluntary, round of budget cuts, with everything short of transfer payments on the chopping block. The top line of the cuts has only recently been calculated, and it remains to negotiate the painful details among the members of Government. The need for dramatic cuts and the near-term absence of new revenue sources obviates any real discussion of further fiscal stimulus. ¶8. (C) Perhaps the most-desired piece of crisis relief among businesses is some break from Slovakia's extraordinarily high social contributions (payroll taxes for health and retirement),which would enable businesses to reduce labor costs and keep more workers off the dole. Although we have heard that such a measure may still be on the table, this latest turn in the fiscal crunch would seem to rule it out. The health insurance fund reportedly has only a few days' operating reserve, and with payrolls shrinking, the fund is likely to need fresh money. We recently learned of a plan to reduce the social contributions rate by expanding the base of contributors (a long-overdue reform, given a bewildering variety of exemptions),but the earliest possible implementation date is 2010. Meanwhile, Fico's threats against the private pension pillar have become increasingly shrill as the public pillar goes broke. COMMENT: A CATALYST FOR REFORM? -------------- ¶9. (U) It is becoming more evident to the body politic that Slovakia's will be just another shrinking economy in 2009. The hope of coasting through the crisis from previous years' heavy foreign investment and its resulting high productivity has only very recently faded. Now the GoS is figuring out how to react. The Fico Government had hoped to get away with a few painless crisis measures and a lot of eyewash, but that clearly is not enough. ¶10. (U) The government does seem to have one virtue as it comes into this new game: it is willing to hold the fiscal discipline that it built in the run-up to the euro adoption. Fico's advisors are telling him that, with investors becoming skittish about Central European debt, he cannot afford to be careless about deficits. While this doesn't suit USG calls for more fiscal stimulus in Europe, it just may be the thing that forces the generally anti-reform Fico Government to make some much-needed structural changes. EDDINS