When a partial reform equilibrium turns bad: The tale of Slovenia’s collapse IGOR GUARDIANCICH ANNUAL MEETING OF THE DANISH SOCIETY FOR EUROPEAN STUDIES AARHUS UNIVERSITY, AARHUS, SEPTEMBER

2 The collapse (2008/11-14) Short-term causes ( /11) Long-term causes ( ) Protracted gradualism locking Slovenia into a partial reform equilibrium through an inefficient privatization process Cheap credit fuelling bubbles through unsustainable lending practices Economic bad equilibrium Severe debt overhang and loss of cost competitiveness Political polarization and exhaustion of neo- corporatism creating policy paralysis Political bad equilibrium No input and output legitimacy Decline visualized

The rise 3 High GDP growth in (4.3% p.a.)  very stable in time Low unemployment in (6.9% on average)  declining to 4.3% in 2008 Relatively high employment rates in  from 61.7% to 68.6% Balanced budget until circa 2000 then deteriorating  comparatively low deficits Balanced CA until 2003 then deteriorating  comparatively low deficits Low inequality and low poverty  Gini was in 2004; at-risk-of-poverty rate up to 12.3% in Best pupil in class and role model for the rest of CEE… …but imbalances and structural problems kept piling up after 2000.

4 Source: EBRD

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Gradualism and consensual politics 8 Gradual transformation  from self-management to a market economy  costs distributed over time in terms of unemployment and social risk  harmed groups compensated, preventing social unrest and political instability  improved economic decisions by both the state and individuals due to reduced uncertainty Reasons  consensual decision-making (broad coalitions under LDS)  early, endogenous transition (low elite circulation)  high starting point of development  dissolution of Yugoslavia and ensuing unstable politics, which cautioned against shock therapy

Competitive neocorporatism 9 Micro-level survival coalitions between workers and management  work intensity and functional flexibility compensated with  high job security, limitations to dismissals, wage protection, generous pensions Macro-level institutionalized social pacts  wage moderation to comply with Maastricht exchanged with  permanent decision-making role for economic, wage, social policy Reasons  strongest social partners in CEE  stabilized union density at 40%, compulsory GZS/OZS membership  inflationary pressures and general strikes in 1992  political exchange as conditio sine qua non for democratic survival

Technology intensive manufacturing 10 Rising share of complex manufacturing  from 32% to 41% in  from 27% to 33% of labour force employed  from 42% to 50% of complex exports on total World Bank (2007)  “[t]he shift towards higher technology exports is particularly evident in the Visegrád countries and Slovenia” Bohle and Greskovits (2012)  Slovenia as semicore country in international economic integration; that is, a country where skilled labour and autonomous management are abundant, but which has to rely on external sources for technology, capital and global entrepreneurship

11 Source: Eurostat

12 Source: Eurostat The fall

13 Source: Eurostat

14 Source: Eurostat

The perils of protracted gradualism 15 Gradualism may have negative long-term consequences as “short- term winners [may] stall the economy in a partial reform equilibrium that generates concentrated rents for themselves, while imposing high costs on the rest of society”. Hellman (1998) 1. Ownership Transformation Act of 1992  50% of the economy in state hands (owned or controlled)  managers unaccountable 2. Privatization of major state-owned banks  discredited due to ‘national interest’  only CEE country with majority of banks under state ownership 3. Second privatization wave  management buyouts allowed on a massive scale  selective sale of state assets to political ‘friends’

Cheap credit and management buyouts 16 Economic boom in Abundant liquidity and low interest rates Bank borrowed short-term and lent long-term  for housing, real estate, M&A, MBOs  with poor collateral (real estate or stock)…  …and unsustainable leverage  loan-to-GDP ratio from 40% to 90%  loan-to-deposit ratio from 0.95 to 1.64 Legislation was tightened too late  the anti-tycoon war started when the buyout spree was over Regulatory supervision was very poor  BoS, ATVP, UVK preeminently failed in their tasks Source: adapted from Damijan (2012)

Bubbles (2004-8) and NPLs 17 Bubbles: Stock market (capitalization of shares)+253% Real estate (housing prices)+51% Construction (gross VA)+72% Net external debt (share of GDP)+34% NPLs: Bad claims in banks (share of GDP)+22% Source: adapted from Damijan (2012)

Political polarisation and the exhaustion of neocorporatism 18 End of consensus building after Janša I in power  increased ideological antagonism (‘cadre tsunami’)  political polarisation  end of broad coalitions End of social dialogue  social partners eliminated from decision-making under Janša I  GZS/OZS membership voluntary  micro-exchanges insufficient, leading to wildcat strikes  sharp decline in union density  radicalization in both labour and business demands Since 2004 radical reforms are impossible to achieve. The most spectacular was Pahor’s failure to win 4 referenda in The abandonment of structural reforms pushed Slovenia into a bad equilibrium. Policy paralysis implied that banking sector restructuring and fiscal consolidation were delayed by 4 years.

Deteriorating competitiveness and the debt overhang 19 Partial reform equilibrium leading to competitiveness deterioration  VA per employee in complex manufacturing fluctuated between 55.6% to 60.8% of EU average (now less than 60%)  in NMS it rose by 13.9 pp in CZ, 7.5 HU, 30.8 LT, 19.2 SK Bad equilibrium since 2008  debt overhang  per cent of GDP, affecting 13 thousand firms (3,175 non-viable)  mass bankruptcy would eliminate 13.0% VA, 14.4% employment, 7.1% exports  lost cost competitiveness  min wage hike (23%), Virant public wage reform, high indexation increasing unit labour costs grew out of line with labour productivity  short-term anti-crisis measures encouraged wage inertia and labour hoarding real effective exchange rate (REER) has deteriorated vis-à-vis the Eurozone Exports are rising less than the recovery in major trading partners.

20 Source: AMECO Per employee GDP and nominal compensation (2014)

Conclusions 21 Requirements for a recovery 1. debt restructuring plan for viable corporates, exit through more efficient bankruptcy and insolvency rules for non-viable firms 2. reduced labour taxes, differentiated minimum wages, lower public wages to regain cost competitiveness 3. successful autonomous disentanglement to recover the input and output legitimacy in policymaking