The World Bank FOR OMCLAL USE ONLY Repot N.. P-609-SLO REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED ENTERPRISE AND FINANCIAL SECTOR ADJUSTM LOAN IN AN AMOUNT EQUIVALENT TO US$80 MLLON TO THE REPUBLIC OF SLVENIA June 22,1993 MICROFICHE COPY Report No.:P- 6079-SLO Type: (PR) Title: ENTERPRISE AND FINANCIAL SECTO Author: ZURAYK, ILHAM Ext.:32582 Room:H11111 Dept.:EC2CO Thi document has a restricted disibution an may be usd by reipies only in te performnce of their officil duties. Its contents may not otwise be disclsed without World Bank autborization. CURRENCY AND EQUIVALENT UNITS Currency Unit = Slovene Tolar (Sll) Jan Feb Mar Apr 122 121993 123 1229 US$1.00= 81.3 99.1 101.3 103.0 105.0 WEIGHTS AND MEASURES Metric System ABBREVIATIONS AND ACRONYMS BOS - Bank of Slovenia BRA - Bank Rehabilitation Agency CAR - Capital Adequacy Ratio DM - Deutsche Mark EBRD - European Bank for Reconstruction and Development EC - European Community EPSAL - Enterprise and Finmcial Sector Adjustment Loan EFTA - European Free Trade Association FDI - Foreign Direct Investment GDP - Gross Domestic Product ICB - International Competitive Bidding IMF ntnational Monetary Fund LBdd - Ljubljanska Banka dd KBM - Kreditna Banka Maribor KBNG - Kreditna Banka Nova Gorica LBS - Ljubljanska Banka System MOEA Ministry of Economic Activities MOP - Ministry of Finance MOL - Ministry of Labor, Famfly and Social Affairs NBY - National Bank of Yugoslavia PHARE - Poland Hungary Assistance for Economic Reconstruction SDK - Social Accounting Service TA - Technical Assistance SLOVENIA-FISCAL YEAR Jamuary 1 - December 31 FOR OFFICIL USE ONLY RWfJEUC OF SLAWWM EITIPRUESM AND MANCIAL SECTOR ADJUSTMENT LOAN LOAN AND PROGRAM SUMMARY Borrowe Republic of Sovnla Amount: US$80 milion equvlt TM.0: 15 yeas, including 5 yeas of gmae, at the Banks stndard vaitae Inte rate. DeaipI. The principal objeiv of the proposed lon i fo prie tmely nd rponsive support to Slovenas bft t Implement effctive reorm of Its enrprs and finaca sectors. Ih low will filitat enteni pdvazaton and reruc, and accerate the deveopment of a stOMg and supporte finanal sector. The loan wll have a poliy component and a tochicl o 0CpODUL The P Cooem (US$75 mMion) wll support the Govemet's oveal economic rfom program indudiu (a) pivatzao of scialy-owned ente , reform of ownerhip md governance of dstwned eneprs, hmpi of programs to stem enterprse losses, and pra sactr devlomen; b)bank retutrn,of the regulaory framework r bankin, and bank p dvaain and (c) labor maret adjustme and slrir4 of the sodal saty net The Tedea An&tc CoaoxW (US$5 million) wil provid fi ng for long-term adi, short-tom and taining In core areas esa fr socues-Od atation of the Govenmens refm progam. and Risk: P dvaizatn of socily-owed ene pre and de elopme of die private sector, effetive goverance and reglation of a simmed down State-ownd enterprse seco, curtaimt of enterpie loiss and resoutonof bank portfolio poUems, and establishment of a competve, sound, and sablbaiDg sector, wil enbl Slovens to make an ffectiv and rapid trst tD a madret econMY and pave the wayr _ long-ru ec lnoc growt h The man rik asciated with the program relat to the polti ad socil fcors whkh may cams pial or dow adjustmet of he necessay l _ :n -na-mi policies and am_aly _ dF I of the re8om. However, he sCCaM inplo thO recent adopton of mjor puh%vazon and bak trucuring legsaion, ae to determL_adon of the Slovee people to press aead ih ihde rem. Thre I This document has a msicd distribution and may be used by recipients only in the prbfrm§nc. of thei offlcial duties. Its contents may not othewise be d_slod without Word Bank authodzatin. a istk that pop support can be eroded as h social cs of ths kmc doing the course of th reforms. his sk seems to be monagebe, gW ivnte expected short duration of the adjsmen period, and fth social safety net ta Sltosnla has aready in pla. oW toh nic a the lo wil hep reduce the ik of deay In ImI nthi enomic US$75 million of th loan would be quick dibursin and woudd be dissd in two tranches: US$35 molln upo Ia effectiven, which b expected in Septmber 1993; and US$40 millin upon raliaon of secod ttanche ndiion, epected In mid-1994. The remaig proceeds of the loan (USss miion) would be used for technical requred for rewms sppored by the EPSAL and would be disused in about 24 months. FOR OmCIAL USE ONLY REPUBLIC OF SLOVENIA AND FINANCIAL SECTOR AWJUSflWENTLOAN TABLE OF CONTENTS LOAN AND PCROGRAMStMBLARY ......................................... i L hitrducdon . ............................................... 1 IL Eomm Fmnwork nd Asistan wy ............................. I A. Bakmn nd Recent D.v.opments........................... 1 S. Panddie ExtmE omet ....................................*... 7 C. Eemes of theBanks Country A..s....Strat eg......... ....... 12 IIL "MmeEnenbsandBankng Secom .. .......... ........................ 16 A.. e Current Strcture of tie Enei Sector ....... ................... 16 B. S dcturoftheBanking Sector ............................... 17 C. Issm In *e Enterrie and Bankig Sects ... .................... 18 IV. Mm Adjusm andRefom Propm ...................................... 22 A. ITb.. Ics Fmework ......................... . .. ... 22 D. EnatepisSctoRd=n ................................... 28 C. BankIngSectorRdonm ..................... 32 D. Labor Mari _Adstmet ndtheSocidSafety Net . ................. . 39 E. PoIcand SocIa1'lasiblIy .................................... 40 V. IMm 'posedLoan ............................................. 42 A. LounAmountandBorowr .................. .. ...... 42 B. Loa Dsign d CompwMnsf .................................... 42 C. MonitorinSgAnams ........ .. ............ * .... 43 E. PLocugsuo dm btCheAnr4ps..B .................. 43 F. AccountsandAudits ...................................... 45 F. EnIruonmenud _ .. ..... .... ............. 4. EL RBesof Funds .........................and T....g 45 Tave OfCM=(COW&) xV i - .- *............... ....... .... . 46 ANNKEXEs Anne 1: Stacad Tables Ane 2: LAe of Dewdopmat Policy Annex 3: Mar of Key Actons Anu 4: Tencal Asit Pogram Annx 5: Sppl y Project Dat Sheet Anmn 6: Status of Bank Group Operations in Slovena Repoit and nof theF Pte_de ofthe iternaonal Bank for eo and Development to the Eeuve Diectors on a Phopoed Enterprie and Fluada Sector to the Republi of Sovua I. Introduction 1. I smt the flloowig rept and on a proposed Enterpise ad Finac Sector Adjutmet oAn (EFSAL) to t Reumblic of Slovenla in support of a com ve program of enterpris od fnand sector refrms. Te loawll w a bv a term of 15 years, icluding S yes of grc, at the Banks sndad variable Interest ra and wi be disbused in two tranches of US$35 milion and US$40 mllon. To ensurew ucessAl mpi on of the program supportedby the Bak *eloan wil do pvd US$5 min In teical assistan which will be disbed in about 24 months. Sectlo 11 below pres the strategic firmework wihin whch th World Bank group proposes to organe coopxaion with Sloveoia. Slovenla Is a new member and a country whic is expected to gaduat the n rft. A comlet Country Asstce Se (CAS) is, thefore, ntropriate, alhouh Secton 11 does cota met elemes wn y preet in a CAS. IL Economic Frwework and Asistance Strategy A. a d Rn ut Deopmao Poiuic Backgowid 2. TIo Republic of Slv"a Is one of the yoget soveign ates in Cental E pe. Slovena was an countw y in e 6th cetuy. It was susequety incored Io te Frakish Empire ad latho In the Wabsbur Empir I 1918, it joined Croa and Serbia to form the Kingdom of Sers, Crmas, ad Slo . Afer WWII, Sloveaa becam one of te sik repbUcs whih fomed the formr Soiast Federa Reublic of Yugosaviia. Thoghouthe centuies, Slovena kept its own langue and cutr and bl, in fc a qut h popuaon in cona to most other successor Stas Of Yugosavi 3. he fist fr dectios in Slovea wer held in Apri 1990. Subsequnly, In a refereidm hed In December 1990, e owheV morit of the Sloven poulation oed n favr of Idendence. Iho dedaraion of hidpend_e= by Slovaia, on June 25, 1991, trggered a war between the Yugopa Army ad the Slov defense forc, but thb confoli was rapidly halted by an EC-brketred agremen (1he Bdo raty) which led to te wihrawal of the Yugopav trops and the tmporary sof Slovals . As no wbs e prgre was acieved in reahig new an n, SkmankneftirmedifaIs on Octoe 5, 1991. Slona was recognzd by the EC In Jamnuy 1992, and bece a member of the United Nation in May 1992. 2 4. Untl recnly, lgIatIve power tn SloveIa esho by re chambes hi the Parlamen However, as per the provisions of the ne w of the Repuic adopted in December 1991, a new two dcaber Parlame was establihed, 1owinS the December 6,1992 elections. Frm Ap 1990 to Apri 1992, th Slove Gwv r_aresented a ceor-rg coaliio of seve pdes. A center- left coalon took offio In Ap 1992. Followingds teec dection, anow Gov was confimed on Januay 25, 1993. IGos re resents a broad coaliton of the thee mjor parties and has a sog centi orieation Ecmonontic&cwd 5. Slovenla has a population of about 2 miiHon, and an economy w has trdiionaly ompared faby with tha of mot or economies hI Centa and Este Europ. Slovenla's ro domestc proct (GDP) per capita i estmatd at about USS5,700 In 1992. 'ne Slovene economy is very open by Inrna stoanl s and i heily concenatd In inustry and sevces, as indicatd by the high saes of these two seors In GDP (33% and 62%, respevely). In rece years, totaler trade (ecuding fom Yugosavia) mounted to about US$10 billion, equart to about 8S of Slovenl's GDP, with eports about 45% of GDP and imports about 40% of GDP. In I19 about 85% of exernal trade was conuted with deovoped countries (BC 67%, EFTA 12%, and others 6%). Toad wI& to frm YtgcvLa has drpped shrly, althoug in 1992 It stil munted to US$2.7 billion, eqiat to 23% of Slovens GDP. Being a smal and very open economy, Slovea is very vlnoe to advr extera oondio. Howevr, Sloveas export are quie divefied In term of their product 6. Alh Slova aways ejoed the highest dds of ling among the forme Yugosrv republics, is economic pwftmme ddwbmted dramaically with the rest of Yugoslvia dnthe d 1980s, a indicated by very high inflat stand tof onomic actvity. nh causes of such poor cshrmmw date fm the 196b and w rooted Il the stuctr wm of the old Yugosv system Of enteprie s fn ment with prva ownrip and well-functioning factor mats. This sstm attributed ownerhip to socely at lrge, but enusted wodres with the rsosibility of utg enterps aets. n the absence of a owner intred in the lon-run viability of the enrie, soci - resulted hi excesiv wag presur and caess evauaton of investmet projes. Man tpi sted t gent loes during tho 191M. Tbis and ohr serious deficiencies of the system, hInluding the incraing tenions b e self_ of eaterrsw and moe centrlzd poll& control over mnaj" decsion, we masd for seval ya by sizble volumes of Inestmet finane by largoi borowin. In th 198M, he deicie becme visible with th eruption of the LDC debt cids and the scarciy of foxeig finnig. 7. Yugolavia Implemed sev stabizadon pror In hi 1980s which were succel In generang Inrasing cnt accown tsurus *(I good part as a result of laW real de ), but did not reduce ftio and growth as tey fed to solv the fiudamenta problems of the ecnomy. Ihe n probles were not due to general Govemet deficits (the genel Governm actally eorded sma suues twough the 1980s), but were caused by persistent and widsprd imbances stmmig firom the enepise secto. Enises generated mo losses during ti period, and tuned fr supor to the dometc finani sysen The bak, whh wooewd ad controle by th e met thdr boasmed dmad fot swbdizeA ctedts, A* were y suppted by bidzd riscouni from the atonal Bnk of Iugosia MBY). NBY also absod the costs raed to te foren curency deposits ad ohr for Hliabiities of domestc baks, in order 3 to proct th bank from en grea financial difficulties. Theso evontuay resulted tn a large NY quasi-fiscl defic, loss of monetary control, and ncaing nati S. Yugolavis last ampt to stabilize nd reure ts economy was undet by the Mavic GOVenmeNt In 1990. Tho 1990 staIatOn progrm was th frs ro gth d Zo diMiate tho _mb=am gat the level of the and the ban, and was able to reduce In=ation Ialy. ower, h lauccs of the program tId fisca and political supptto a dege tat could not be achieved under the Yugouav Pedeation. The growing presswes on ent ai ban; reltesod In Iasig political and led republis to cuxmven fedea actions and direcve. 9. Ihe progrsivo dissluto of the Yugodav Federation in 1991 was accompanied by a marked deteiorato of the oe c permance of all republics. The resl of the republics to contnu to finance the Fede Gove led to a lare deral deficit, open recou to monety fincing, and a srog accelerationof fla The volum of trade amng the republs fell Abuty, leadi to an overal contraction of outpu NBYs refusal to keep delvar Dinr banknotes to the repuics caused tA bottonk and furte dirupton in econmic actvity. Slovea ww pa ylculy affected by these advrso develope, a its idustries sold a large shar of thir ouWut in Yugos makets, and also depended on inpute from th other rWeblcs for dhir epts to the rest of the word. Mhe regions polticl Instalty aso had a negaive upact on Sovenas reveues om oursm and fight sei. Thes fictors ted In a 9% drsp of Sloveas GDP in the year of its poliia Ecoisoni Perfonwace 4Jtr Ndpdec 10. Dpitavey aderemernal vioment, Slovenahas madepwo a ibio g m CI! 8 8hutdnee 0 hA nw curncy-t4 Slovoe Tolar-lntroduced on Octer 8,1991, alowed Slovena to estbi monetay conal and implemn a stablation progam aimed at reducing the high ras of inflation ad Iaing the crcally low level of forein reseres (Yugosla fi resvm s werbept by NBY afer iennce). h pgm included a shp ra d bealtn of th exan rats (folowed by a manged ft) and a vey ht mnetary policy, epecayI inital8 pbas (Fi 1). Th program was lo spored by coninuin geneaon of smal gera G men surpluses (2.6% and 0.4% of GDP In 1991 and 1992) and restictons on nomil wages in Is niial p . It aeved condaeble success in reducing nLadon.: from an averg monthly rate of 18% i te last qr of 1991, to 12%, 6%, 2% and 2% in the four quarts of 1992, respectvey. Inltion has ben beow 2% per month sco anuay 1993 (F 1). 11. Sprgr waslso achieved in the fragilew foreig reserve posion initily hed by Slovenia. Th rea deva on and tght dmand policies led tO incrg curr ccou supluses, ra US720 milion In 199. The cwre accunt suplu ccobuted significanty to the build-up of fregn reserves-from only US$170 miion ber the program to US$1,170 million In Febray 1993, to eqvalent of the months of Imports. Ts mpwvem was achievedespit th duction of procotatled to a dcres in th averag hmort ffto les thn 10% at the end of 1992. 12. Ibe 41stdffizuio prm met its two immediate objeis at h most of furhter contaons In acivity, however. Inoed, the tight demd policies wer Introduced in a hostile external as ndicaed by hfrther disruptions in tad with the frmer Yugolav rqeblics and the slaking of actit In Westn Europe. As a reot, re GDP decld by another 7% during 1992, and Indusi 4 ou4mu s now 25% below 1990 leves. Fixed Inesment als declined in the recat years to anali-time low of 16.6% of GDP In 1M. Ile contact of acdvity wa amnied by a sharp Irase in the rae of u, om around 4% In 1990 to mm than 13% in lt 1M. Althog te decine In Industr out has bom lss sevr dnce mid-1992 (ige 1), the xte l re unhvorable. ded, Utde with te at of Yugoslvia b e to decine fuer, gien the roem Politca delopent In the Balkn and the contaction of activity In the forme republics. The possbe fr a stong rovery based on iacrsed exots to th Wet ar also, weak, iveidth currt _Xpm hin Wetem Eurpe. bs atos could actually lead to fiuar decines In otut dag 1993. FIGURE 1: Seected Macreoomic Varies MOITMLY RATE Or INFLATION. 1991-93 MONTHLY It0USIf AL PRO 1UCTION, 1991-93 W;ES IN REAL U WUAOL^R 1HaS1103 MA^L M2 AND CREDITSSJ1 a,, womm SUm a. O-sm m Taupe - U _w 11" ~ - -1 1 - Is U N S 13. Ihe Sloven economy Is now at a crssrads, as the recen macroeconmic Improvemes have been achieved on the same distoted microeconomic odations led to hyperinlation and economic stanion In the 1980s. In additio to the slim prospects of a short-tem reovery, there b a possiblity dtat the success in reducing Ilaton and budidg up resr may be reversed, uiml the reform of the entprise ad banking sectors e rpidly Imlemented. her are several indican that the Govrmets stabilization proa I already under stn. Etprise lossremainedhhduring 1992- -around 17% of GDP on sa n basis. Tbeso losses would continue under the present sym and reate increasing difficulties for the ban and the monetary sutorities. Table 1 _~~~~ i_ i~~~~~~~~~~~~~~~~~~~~~~~~~~~ ------------- ---- Sou Dos QUa%* DWh*W- 14. IThe very low quality of loan portfolios has already iLduced the liquidity of several bank in the banking system tD critical levels, and has made them increasingly dependent on upport from the Bank of Slovenia (DOS). As shown in Table 1, there has been a sibstanti increas in DOS liquit loans t troubled baWn In recent months, and these banks have also experienced reasig difficulties to comply with aserve reqWrome_ts. Although the BOS has made major eforts to minmize gm Impact Of these developments on the oveanl conduct of monetary polUcy, te contnuaton of the present ataon could jeopdize monetay coro in the nea fit. In addition, the problems in loan portlios and the high lending risshave also ld ba to chsrge vey hih ia rea and leadingitest rates-real interest rates on bank credits to enteise have been awund 25-28% p.a., compared with real inerest rates on time deposis of 7-10% p.a.. These bigh real leg ras discourag investnt in viable frm and may trigger a fbrter drioran of the banks' loan portfolios. 15. The expiration of a resticive wage law in Febuary 1992 also created problems fOr macroeconomic maagement durig that year, as wages started i rapily in term of real US dollrs (Fgure 1), inducing DOS to allow the Tolar tD deprecite t xvoid a lossa in competeness d and increasing the risk of a wageexchae ate-pice spiral. The 1992 wage hinas wer initiated in the entepris sector but spiled over to the public sector, due to legal linkages between wages in the two sectors. Tho wag preur intenied at the end of 1992, leading the Govenment to introduce legidion in Febnry 1993, rwving some of the wage gains in the enterpise sector, freezg all wages from March to June 1993, and sverng the direct likages between wages in the two sectors. However, the Govenment was fred by the court o pay some wage on to public sector employees in early 1993 due to the former legal likages between wages In the two sectors. 16. The restrictve wage lesan roduced In early 1993 i eected to reduce averag monthly wages from US$450 in Febrary to aound US$370 by June. Both the stabilizadon program ad th compettivens of expt wi probably nt be damaged if the Government is able to preven aoter escala of nonal wages. Indeed, if the Goverment succeeds in restra_ing nomia wages afer 6 June, therewoud be a convegoe of wag In real US dola (a meu of the redl excangue rate) to levels somwhat bdow their averag in the second balf of the 1980s (ge 1) whout the need for aggressive devaluations. The prospet for h e of a restrictive wae policy a er Jun are favorable, as suggested by ratfication of new collective agreements for the xprse and th public sectors (para. 84). Hower, far to mainta a resctive policy during the whole period of transition would mos likely result In excesalve wag pressur-a remring problem under socidal ownership. That uxd have adve consequecs for bnatio andlor the current account. 17. In sum, althugh fa Government has made remakable progs In stabiling the economy, the unfavorable exten environment wi contn to impose obstacles on the recovery of the economy in the short-run. More Importanly, there are some worrisome similarities between Slovel's si_tuaon today and the Yugosav staton In mid-l . Like Yugoslavia, Slovenes inial success in stabilizai is being theated by persistent Imbalne In eepses and bans and their Increasing dependence on support from the central bank. Although, when compared to Yugoslavia, Slovenia has a much better potenti to resucture its economy, the consolidation of the stabilizadon gains will depend on the fil Im tion of entepdrs and bank refbrms and the prompt Intoduction of supportive macroe oc measures. TW GoVnaW's Program Of mciral Rjbm 18. The Govenmt is awa dth the cuent thre to stabilizaton originat from the same disored mcroeonmic fundations tdht led Slovenia to expedenc hronic inflaon and economic for more tha a decade. For this reason, the Government has started implementIng a comprehnsive and intgrated program of enterprise and banking refrms which include the privatiaton of most socially- owned th, die introductdo of State ownesip and control of a very small number of e providing public services, the svance of ownership links between enteprie and bans, ad the rhilitaio and prbvation of banks. The pln in f these reflis wrill gain momentum In the second half of 1993 and Is expected to change radically the behavior of economic ag , leadig ultimately to much greater financial displine and Improved resource allocation. 19. The Govenm Is ao aware tha the fail impl_1 ofthese ms wll require etnsive fiscl support, and has deigped a fcal program wich iS conDsistent with the rorms' finan requirements ad with Slovenia's curnt and prjected macoeconomic situation. This program contains three basic componens. T first component consists of an immediate and significant increase in te amount of resources channelled to economic restructuring: 4.2% and 5.4% of GDP in 1993 and 1994, respectiely, compaed with only 2.1% In 1992. The second cmponet consists of a hinto a moderate budgetary deficit of 2% of GDP in the short run, followed by a fiscal contracion In the medium rn. These changes In the fiscal stance are fdly consstent with Slovenia's current and projected macroeconomic ituation, as the shif into a deficit taks plae In a situto of depressed investment d out and larg currt accou surplus, wheras the fiscal coaction materializes in the perod wheee invesn will be recven and driving economic activity. Finally, the hird component cowas of a medium rn reduction In the overal levels of revenues and exendituros: from the currently hiSL svel of 47% of GDP to levels around 44% of GDP, which ae closer to the EC average and will rwest a reduced presence of the Govermet in resource allocation. 20. Finally, as mentioned befoe, the Government has accorded high priority to the concusion of collcive oagr with public sector and soi enpdse employees, in order to avoid aother escadation of wage after the expiration of the cuT wage law In mid-1993. These agreements wil 7 sever any lg linkages betwn wa In the two sacrs, pren wage immediately afer the expiaon of the law, and subjet wage In bot sectors to a vey pdral ian scheme, wheby wages aro not adjusted If the monthly rate of Inflation Is less than 3%, and ar only partally adjusted If lation exceeds a level. Loss- maing will con to be subject to additona wage restrictions. 21. This reform program (which Is desbd In deal In Secdon IV of th rept) wIll enable the Govenment to start reducing the defici orgnadtg at the eneprise lovel, ths removng the pressres on the Bank of Slovenia and consolidting the stabIliton gains. The Governmnt 4sso hopes tha the rdeorms wil lead to inase in the leve d efficenc of fed inv t ad ultimay to substantial improvemes in Sloveoa's grwth pefornce. B. Pnupecps aad the E3tead l a Grada Recovy of ssmm and Ouu (as Cas) 22. Growh Outoo ITe base mo nomic scenario for Slovenla has been prepared on the mption that during the net two to three years the country wll fully implemeont Its refrm program and complet the privetizatin pcess. As mendoned bor, this will tmute investmet, especially In the privat sector, impe eficiency, and pave the way for utained long-nm growth led by the private sector. As a reslt of the efficien gains and the recovy In Investment, Slovenia should be able to resore gowth rats close to hos obtained in h late 1970s, but with lower Investm raft dhan in th peiod. Thus, while Yugoslavia need to inest 34% of I GDP in oderto achiove growth rates close to 6% p.a. during the 1970s, Slovala should be able to sustain growth rates of 5% In the long-ru with an lnvetment raio of around 21-22% of GDP, thus Implying a reduction in tke i capitll out ratio (ICOR) from around 6, which was at level shared by most EatEuraopen economi befre thir reoms, to levels disghy above 4, which s still above the ICOR displayed by mmy countaies succssful structur adjustment 23. However, this growth potental can be reaizd only in the second half of the 1990s, afer the compleon of stctr reom and as the Slovene econm Is enabled to mploy I resources at loves oser to their l potential. As shown in Table 2, the long-ru seario 1 D an increase of fixed lnvesmnt by 5% of GDP - from 16.5% of GDP in 1992 to 21.5% at the end of the decade. Privat sector nvestment would acco for o lagest she of ths ine, especiay stng in 1994, as a mult of the pdvation program, th reducto of xcess ccty In th economy, and the prospects of economic reovery in Wte Europe. Public investme in nfrtre is expected to account for a small sha of sh Increase (fom the curret 3.8% of GDP to 4.5% of GDP) but most of the visaged incrse in public investm would take place 1993 and 1994 and would conrbute to rea Of economic aciity. 24. During t itemediae yes (1993-1995) the Sloveoe oeonomy may remain affected by slow growth In Western Europe and by furter diruption In trade with e former Yugoslav repubcs. !t Ahould be noted tt excs capacity in dh sectors mm oratd owt ds Wesem urp is not oolldeoed 1to be very le, and te sectos titioy oenad towards Yuolavia wll hv to mak some illnmt in aoer to upgade 4paity and oent prductin, ovewi a rdaively bigh eein Capcity. Altho expt to the former Yugolavia have alreaty declined substaaly-from 40% of GDP In 1990 to less ta 17% of GDP in 1992, some further disruptions should be expected, given the decli of GDP inthe fomer republcs and the political ucrtanty in the Balkans. These advee ect wil probably be concenaed In 1993, but are sumed to be pudy offset by the positve impact of the fi stmulus aud the growth of wages at the end of 1992. Therefore, it Is predicted tha real GDP wil continue to decline in 1993, but that such decline will be moderate-an assumption which is supported by the recet reord on industrial ascty. Recovery Is assumed to start in 1994 and to accelerate in 1995. Table 2 qected ~ ~ ~ ~ ~ 99 1hat ffio $9 ..'c cou lsrltiet D 199E willbe pimi .. S ..s... m d bai i _ n l G .4a n n%il 25al smplusoindon aodfict iuasrelated tnwo , ancesd disca support fon the Ckrmst Actourn I irgas upegtbed tD the decears Pinaly th Uae uiacont sutplu comueo abo GDPlt inm 1993 wlbe pinf mlbi CD eatced byoa hu_bIn cosumpdonrdltiv ee to GP Such anrae, iriconisumto w(S ee domabled by andae COS6Ito an for {eater tode m. Mfl i heh)avrg leve ofrdwgsITM ept he from of nominan wagP tbiies in the firstm half ofrs 1993, and thelie sopecbte st 1h - ---- of rfesdective waghis in tescond hal, veag real wages grwn tgte 1993 prdu stM beas5 hinh dWan ther s IMdo avtp 7he e levels fcorf thealf eofa inoesthe gcuude fo saco smlus Int doefck,wihbrlted to decline fise i 194ad 199, ueportfor th retto fing pecovr o 26. we cii h rati o of covumpteon to GDP saia in prjete btenrmedi assmha (195han dwringtes second half of the 1990s, but te adidWonal incres in investmn are expected to be. financed *om 9 endogenous (growdt-related) ncrases in Tabb 3 national savings. Overall, the curret ......*....... accountsurlus is epcted to decline 1 iI from the 199 level of 6.3 % of GDP (US$720 million), to about 3.3% of | X . GDP In 1993 (US$406 million), to about | | 1.5% of GDP between 1994-96, beWore gineai gradually at the end of the | , decade. 27. Te Evlauidon of Eporw , hrtso, and Factor Iwome. Slovenla .'t.g. bas been 1abe tw nd exports in a9 . sluggish Western Eopean market partly i d .l . because u hsu been t994 bu the portions of the former Yugoslav quots left open by the trde embargo Vo 1 on Serbia and Montenegro. However, w i i the possilities of erp2Oding exports i not eas through t vis channel seem nearly . mos lt l exasted. In adition, the slow growth expcteds for Western Europe indicate that export expasion should abate sgndficantly i 1 . 2Theefore, St Is projected that exports wil grow marginaym 1993, and wi gain momentum very gradually stan in 1994 Imports are oxtected to grow much faster t exorts in 1993, mflecting mostly a rt very of both consumption and Iports from depressed lmeves. Te rate of import growth Will subside starting in 1994, but emai s sighty hbher ta ex t given the ncreasing trend in domestei Investment. 28. As a rest of these envisaged developmenats, the trade balance Is pected to hf from the 1 srpIUS of US$240millon into aU5 dclltofUS$230million in 199, and to remain indefcit duringthe remainder of the decade, a patter which Is in lne with SlovenWs historical experience. However, as mendoned above (para. 26), Slovenia is no expected to record curet account deficits, as th surplus In non-fator sevices (i urim) will most Dily conaDe to outweigh the deficits In the trade accounts. Moreover, as Interest income on a growing stock of foreign exchange reserves gradually Incrases, the deficit in net factor income is expcte to be reduced significanty over time. 29. Dekt Servic and Rnandng Requirments. Despite surpluses in the curret account, ftduingte coming years Slovenia wll have to obtain a significant amount of foreign flnmcing, in order to meet Its debt obligation, and gradually build-up reserves to a level sufficient to meet 5 months of imports (pars 32), a level comparable- to that achieved by Hungar and Poland. As shown In Table 3, long-term debt repayments are projected to be between US$250-330 million per year between 1993-97 on the basis of the existing debt obliatons, including Slovena's share of the US$3 billion of unallcated Yugoslav fdedea debt, estmated at US$450-US$SO0 million.2 The projected debt repayments als include the fill 2 Owing to remainn uncertante regading the preiem aomou of Slovanas dhae of Yugcslv federa debt and, especialy, ito sevic requremnt n tho fture, it is hypotesized doat tie a=mumd feder debt will be service yearly on seven eqwdual inslments of US$6 millio betwee 1994-2000. Slovenias debt 10 setemnt of US$90 millon in arr to the Paru club duig 1993. The stlemet of thee arer (which was expected to occur In 1992) implies an nea in Slovea's debt reaymet obligaWom tO around US$330 mllion in 1993. 30. In tis rgad, it shou be noted ht Slovenia inends to honor fully its obligations and avoid rescheduling Its enal debt, not Only to gain free acce tD ieatonal cap markt, but lo to renegot its way out of republicn crossdefault u . b soad fiator is putkudlay important, as republican crossdefault dau ealsh duri the Yugoslav period make Slovenia (and the ohr former rqublices) liable for default in paymes by any sin republic. The of an Impeccable paymens record Increases Slovenlacls to detah itsdf from such clauses with idte or no penalty. 31. The volume of fore fincIng requid for the rpayment of debt obligations ad for the achievemet of the zeserves arget would amount to about US$270 million n 1993, would incres to around US$400 milion in 1994 and 1995, ad would deli thereaft. Foreip direct iesment (FDI) is projected at US$100 million per year during ths peiod, an amount which is approximatey equal to the amount obtaed in 1992, and which represen a dgnificant incease over the negigible leves recorded in 1988-1991. Long-tem capIa dibrsements are epected to provide the remaining US$200- 300 mMion. Alhug hese amounts larger tn tho plied by existing co _ for 1993-95, Slovenia shoud be able to over the differce through addiWonal long-erm credits. The proposed loan would help Slovenia narrow te diffrence and meet its finncing reqWirements. 32. Altho Slovenia was able to increase foreigo exchang reserves tD about 3 months of imports, a furter icase In the ratio of rerves t hports is warrnted fDr the reasons. First, Slovenhas no gold reserves. Second, her is still uncertiny in debt service requrements, particularly regarding the tot amount and d e pfle of Slovenia's dsare of unallocatd Yugoslav federal debt Finally, the high dege of mess of te Slovene economy (export rqerset 50% of GDP) cals for a level of reserv that is suffcient to soten the Impact of possible advse trade shocks (including furer disruptions in trade with h formr Yugosavia) on imports and outpt A gradual increase in reserves to 5 monhs of imports Implies that resves wl h to grow fom US$1,163 mMl at the end of 1992 (resees to import ratio of 2.9) to US$1,518 million at the end of 1993 (reervesto Impts ratio of 3.5), to US$1,915 mion in 1994 (reserves to Imports ratio of 4), ad to US$2,235 milion in 1995 (resv to imports rato of 4.3). Resr would be furter amWeduring the second half of the decade so as to reah their long-run target AkeradeSenwo 33. TMe base scenaio desioed above smes a gradual kovement of Slovenla's extenal environmnt and full Im laton of the Govemenets program of economic refoms. Bolh ass t can be judged reasoble, gi the an on of a gradrecovyofenomic activiq in the EC, fte prospects of a more stable trde; with the fmer Yugosavi (although resticted to Croa and the form Yugsw Republic of Macedonia), ad th Governmens god record in reom Implementati. Howeer, It is sl importa to dentify m o uavorable scenaios, result eithe sevie equirem Ia 6* Iia yea col ewed ths pmojeid shud an accelwded pspynmt schedul aor doe ammp*m of larr patm of Yugosv fxed ds be equird by ; _ m0e n cbp frth qfm o mduf a 11 fiom a morm hostile al envronment or from imps slippages. Tbis sen pre two altnative downide scenarios, wherea the nex section desrIe contingec plos to dea with downside ris. 34. A hosske eal eonment. Ihe base scenario assumes hat Slovenla's epots to markets outside the former Yugosavia will grow gradualy in the folowing years, reacin a rate of S% p.a. only In the second half of the decade. The base sceaio alo msums a expots to fomer Yugodav markt wil drop to 10% of GDP in 1993 (down from 40% of GDP In t late 1980s and from 16% of GDP in 1992), but will stabilize at these leves In the following yeas. Finally, the ba scenario assumes tdat the servicing of Slovenia's share of Yugoslav unallocated fedel debt will be distributed equally over a ped of seven years (1993-2000), and that Slovenia will be able to detach Ise from cross-deau clauses without penalties. Although these assumptions are reasonable, there are possibilies of a more duggish recovery of acdvity in the EC, and of furer coloap of Utade with Croatia and FYR MacedoiL 35. These adverse developmns would have a very negatve impact on Slovenias sma and open economy. A more pronounced collapse of trade wth the former republics would lead to further drops in output and a steepe increase in unemployment Moreover, the difficulty to reorient export to markets outi Yugosavia would delay economic recovery and lengthen the period of high U l n he pressur on the budget could hinrease to excessive levds, causing delays in refom Implo - lation and ultimay jeopardizing the stabization gains. Finally, more strigent dmands by ronal creditos (faster debt repayments combined whh some penalty payments) would drain Slovena's reseves precisdy in a perid of poorer export permac, possibly leading to a reduction in reserves to very low levels and to external fmancing problems. 36. Iwqpkmentadoz slppages. Ihe base scenario assumes fiull Impi of the Govemet's refm program, which comprises enterpis and bank r ructuing and supportive fiscal and Incomes policies. Although the Government's commitment to reforms warrt such an assumption, there is a risk Of slippages in th Implementation of entrise and bank resucuring due to the absence of adequate support from fiscal and income policies. For instae, the Goverment may fall to provide the required getary UppOr to bankrsrutuing in 1994 (2.3% of GDP, compued to only 0.8% of GDP in 1993) due to lack of Paliam y apvl. Ihe fure to provide aquae fiscl support would delay rstructuring and reduce the cae of an early and ustne recovery of Invesmen and output It could also result in moundng prres on the Bank of Sloveia and a relation of monetary policy, with adverse consequences for inflation and possibly Ihe currnt account. 37. The base scenaio assmes the temporary Increase in the fisca deficit during 1993-94 - asociated with the restuctui effort - wil be quiddy revered. Fiscal ekpdiu are expected to be reduced from 49% of GDP in 1993 toward 46.5% in 199S. Crucial in tiis adjustment will be a reduction in public epediur not ated wih the rerucing efrt. This wil call for strict expenditure controls particulaly on wage policy. These dwelopments pose a risk ta will be closely monitrd as part of the overall assitae program of the Bank (paras. 4144). 12 C. Mea* of Om lboo's Countr As _tS Mt SloVea's Deelopnt raees 38. As discusd above, the Govemens reform program is cented on reoin8g the diored micenomfc foundatos that led Sloveda to epece dronic nfation and ecomic for more than a decade. The Governmet epct that tho compeheosive d itegted pogam of enterp and bankig reforms wil result in an incres in iho lovel and efficiey of fixed mve thus reveing Sbove'8 economic decin. Iwo pvatizaon of sociallyowe e i is expected to increase the tepses' willgss to invest. The fici rhabilitaion of bank shod redt in lower re lding rates, and further increase the attractivees of new vee. Most Importanly, the restucturing and pdvatzadon of enterpises and bank-which wi inlude curtailing the ownerhp link bewe them-should lead to much greater financial dilie ad Imprved resou allocation The Governnt aims to implem these reform under a macroeonsomic mework whch inlude, hi ih supportive fisal d Incomes poLcies, and the mantenance of a soci safety net. 39. The Govermers secn major piority is the improveme of e in particula te development of bette tranpowt and c n i with Wester Europe. Although Slova's tnsport system is relatvy well developed, it Is oriented towards the fmer Yugoslav republics. Bette integrtion Int tho Eurpean nport netwok Wil encourage foreg tade, and increase regioal transit traffic betwen Ialy/Austia and Central Erope. Similarly, a modem and efficet ele a network In Slovenia will fHcilitate economic inertion with Western Europe and allow Slovena to become an East-West Imltions link. The current el nin failies are inadequate due to in cient dsity of telephone subcribe, outatd systm of telphone exchanges, and low assortmnt of high level tele-informatic serices. To solve these botdlecks, thfe Goverment has desgned a Five Year Development Project which wil requi large Investents during the 1991-1995 40. The Govments tird major pioft is to improve the countrs e m . Te reliUce on loca cal wi* a high suphur connt, togete with a lawk of tratment fities ad waste magemen cool in tmal power plant, has resulted in heavy air pollion in some urban areas and in hey poluton of iver. The Goverment has idemid the major components of a ptogrm to impv tho ekonment. Air pollution could be si cantly rduced by supplying natural gas for redent hatg in high pority ato and InsUing d a equipme in power plants. Water polltion might be abated thu_gh the imple m ati of a _ater program in major urban ams. Finly, tie is a need to implemet solid wat managem in urban areas, and to stregthen Insti_tions. Fornang the Bak's Program of Asst 41. While it is too early to have a fully structured and agreed Country Asitn Strategy in place, it is clear ht the Ba's program of assistane suld be focused on supporting the centra elements of SloveaWs stuctr reDrm program, which i being implemented under a difficult exterL envionnt. The proposed Eeprpie and Financial Sector Adjustmen Loan wil addre the core of the systemi transitiproblem, and will be the first and most important vehicle of Bank support to Sloveia. This loan wM lo help set the policy and istiudona frmeork required for a sdect number of future Bank operatdons. The rtuctg and pratzation of enepis and bank which Is being supported by this loan, wil greatly exmd the universe of private and creditworthy tpses seeking credit. Ihereo, 13 we hope to complement tis loan with a follow-up FY94 investment recovey opeaton aimed at providn finance fr expding privateri. 42. Because of is relativy high per cpt Income, Slovenia s epeced to gradat from a borrower stas withn 3 to 5 years. Bank operations during thi period are exected to be few in number and designed to addres high prority objectives. In addition to th two compe loans mentioned above, the Bak leding program would include one envionment projec and one additonal investm orrtl Ihe eovirom t project Is expected to be ready in FY95. The addional invet operation has nt been fully identfied, and would only proceed to the xte ta tte Bank could contribute tD the assistrc progam of European agencies, such a8 the EBD and the BIB, which are curently suortng the development and integation of Slovenias I uc with Western EurpeW. 43. Altough Sloenia has a current account surplus and contnng (albei rapidly declning) surplue are projected for the next yeas, a firs adjustm operaiion is desirable for sveral sons. First, the Govment's program ents a significant and immediate ease in fiscal ependitures related to the restuct of enterprises and banks, and the provision of an adequat social safety net. The present loan will help the Government mobilze the required volume of resources without resorting to atonary finance or causing undue presure on SlovenlaWs undeveloped capital market. Second, Slovenia is facing sbsta debt epqmeb and will have to in additonal payments related to its share of unalocated Yugosav debt Finally, although Slovenia was able to bufld up reserves after independence, the level of reserves is not adequate for a very open economy still subject to a very uncetin enaul envirnment. Some additional resenre build-up is therefore part of the medium-term macroeconomic framework agreed between the Slovene authorities, the Bank, and the IM. 44. Th tentativ lending program outlined above asumes full Impi n of the Governmen's program. Althouh the Govemet's good record in the impl_ mn of refoms suggests flwi Bank leading will proceed as envisaged, there is a risk of impi on slippages due to faltering supt for fiscal and inomes pocies. In this case, the second tranche of the EPSAL would not be released, the Investment Recovery Project would be disontinued, and the additional invesm opeaton woud not be itiated. As indicaed in Table 4, the Bank's lending program would be reduced to the compledon of ths curren t and the envioment project, as the latter may remain justfied even under a downside scnario. On the other hand, additional Bank upport t Slovenia may be waranted in the case of a very hostile exteral enwiroment The Country Economic M ndum, which is scheduled for FY95, will make a thorough examiton of Slovenia's economy, assess the need for additional Bank support, and provide a fiamework for graduation. The Ban's Pofl Managmn 45. Thre are cu y t active Bank operaons in Slovenla which were approved when the Republic was stll1 a member of the Yugodav federation. Ihese inude a US$84 mMlion loan for an Energy Conervation and Substuton Project, which is over 90% disbursed; a US$18.9 milion loan repreenting a component of the Yugodsavia Power Tranmission m project; and a US$32 million loa for the Slovene Coast Water Supply and Sewerage project. The fir two of the above loans wil close by end-1993, and the hird loa by end-199S. Disbursement under these lons s continuing as planed. Slovenia is current on its debt service payments in accrdan with an agrement on debt apporionmnt reahed with the Bak, whereby Slovenlia assumed debt service responsibility for Bank loans bn borrwew on tts teritory. I .~~~~~~~~~~~...Ž... ... IF 1|$ [|Sta l.S l[|f0 xS~~~~I l W rt ll,r,l,l~~~~~~~~~~~~~~~~~~~.. . ll .. }ttSW}t atW[:.i iEw s2[Xg 0t1 I.B' w is portatio, aad pivat sector devopmen A hydropower dedopmt projec is alrady under hmia A PHARE program for Slovenia of ECU 6.7 million s al prviing teh*c sistame vfor public sUcre science and tehology, prdVattn, and suppott for the Minisr of Fince and fiacl sector agnies. t ilho assisn prvided by the EBRD and the EC PHARE program o to the envisaged under this loanX 16 ., The Enterprise and Bking Sectors A. The Current Structure of the Enterprise Sector 50. Slovenia has more than Table S 55,000 enterprises, of which 35,000 are small one-two peron units and the balance are classified as "formal . enterprises. The largest numbers of enterprises are in services and trade, but O & the industrial sector accounts for nearly half of the value of output of the | * t W fl enterprise sector. There was a significant increase in the number of 1 enterprises in 1992 in all sectors., with . the lagest increases i fin cial and ri un .er 1 4=m ? . . 1 . . business senices, trade and industry jv A. .....-.. (Table 5). Some of this ii-crease, .m s . partichulary in industry, is due to the ongoing process of splitting ..4 conglomaes and larger enterprises into independent operatineg units in f of cpi a24-. ianicipation of privazation. In other 1'h . Ihe b sectors (trade, financial/business services) new entry by the private sectr largely accounts for the increase. Table 6 51. The formal enterprise sector accounts for ................. . about two-fthids of both GDP and total employment.Ad Employment in the formal enterprise sector has dropped sharply over the past 12 months and has .... been the main cause of the overall rise in $.*. unemployment rate (Fable 6) . 52. Four types of ownership are recognized under Slovene legisation, together with a "mixed" category m r which includes any combination of the four. The__ categories are: (1) private enterprises; CHi) coopertvives, which are jointly-owned by employees; (iii) socWaly-owned enterprises, for which ownership ~W*~. ~ 4$. is not clearly defined, but ulftiate managerial power is exercised by workers' councils elected by the *( . 1. workers assembly; and (iv) state-owned enterprise, *~v~ where the ownership is vested in the State which, at present, is represented by line minitres. Four forms of companies aeallowed: joint-stck, limited liability, limited partnerhip and geneal partnership companies. The State can be the sole-owner or a 17 share-holder of both joint-stock and limited liability companies. Small businesses need not form companies and can regitw as sole proprietors. Between mid-1991 and mid-1992, private employment almost doubled albeit from a small base, while employment in the socially-owned sector decreased by 14%. Nevertheless, socially-owned enterprises continue to account for the predominant share of output and of employment (Table 7). Table 7 B. Structure of the Blddng Sector 53. Ihe Slovene finacial system consists of: the central bank of Slovei (BOS); ffiirty commercial ba6; 108 saving and cooperatve banks; and several non-bank fimcial ueifons. ,A Securities anXd Exchange Commission an a StDkExhange wer estalishdin 1990. 'M comri banbk do mina thie financial syw anld are the majoI source of credit to the economy. ThirZee of thie ddt commrc bankcs btilong to the Ljubljansl Banka SysWm (B), which accounts for about 82% of te btot asst of thie banking system Crable 8 and Table 9). The reive size of thie other seventeen banlcs is small: two of these banks, SKBdd and Abanka tDgether account for about 10% of the banking system's total asst. Mst of te remaing fteen bank are new banks which were established following the removal of barriers to entr into thie baning sector in 1990, and none account for more Om .S% of thie systeWs toa st. 7here are eigt bak wihfreign paricipaton, of whic one Is fUly forsgp oned. 54. LBS evolved out of a rasformaon inidate9 i 1990, of a prior Yugoslav sys9 m of republic- base maiae and basic banke, and consists of Ljubljanska Banka dd (LBdd) and twelve smaller member bahs (rable 9). LBdd is the result of the merger ill 1991 of Ljubljanska Banka (the frme asodiated baic) and Gospma banlm (the largest basic bankc in the prior syse). Prior to thi s- Em bxic l conaututd d oor of e com1 balng sysm in former Yugoslavia They were fomded, owned, and &nztdbmd e3cclsivey by etetpdse. ne basi ben &rmed mm banking Follps, mcludmg one group for each Repuic and Provin. Ewch gopeomaed an associated ban whici hanE fompi escdge and lage borrowig operauons for its memnber basi barf. 1s formation, the twelve basic banks were the majority Table 8 owners of the associated bank, and shareholder- I.T =7 enterprises were the major owners of the basicP bans. This structure was reversed though a M N l complex exchange of participations in the pro:ess of tranformtionof the system: through which, the t b shareholder-nprises obtained majority ownership of LBdd, and LBdd roceived, in exchange, preferential sharesofdup to a nthecapitalofthe of ao 1 former basic banks. 55. The rehabilitation of LBdd was Initiat In January 1993, at which time the Republic Of Tablee 9 Slovenli becamet he sole owner of the bank pama % ?*W % o* 111). Until then, no shareholder-enterpise had *.. LBd has re d from .npetin more than a 2% stake in the bank and the majority of theseentipivtes had less taIlj% share. There were, however, many finkages among these shar- .& ~~~~~ holder-enterprises, particularly among those within the aInge conglomerates. The Republic of Slovenal had retained a participation of about 12% in the staff triig nla toi o evcs bank LBS member bas ha been genely autonomous, as the preferentia share of LBdd in these bank only caM vout rights of up to 20% ad only in cas when a member bank has not Paid an appropriate dividend. The LBS goup, therere, has not costitt a financial roup for consida- tion purposes. 56. lBdd has refrained from compeig with LBS member banks, which a regionally based, in their geogrhic areas. it has intead conIned its domfestic avities to wiin the Ljubljna area, and has reained the domint role in intrnational banking actviies. In view of its iratonal network (seven biteaonal subsiaes or aiiates and 22 foreigree offices), it has, by com agreement, continued to provide a range of services Qncuding intenational banking support, nmarktin staff tra ing, and atomated oformaton seices) to LBS member banks.' It has also provided a substania amount of credit and pwtmto thiese member banks. C. Ism In the Eutrprise and Stul ec Stod= 57. The nate of the ownship struc in socially-owned and mixed enteries has been a root cause of Slovenias past and present economic difficultie. Social ownershp was devised In former Yugoslavia as a solution to the failure of central planning. It was believed that self-management of an enterprise by a coalition of nmanagers and workers would overcome the problems of State ownership without the perceived inequities of a market system. However, becaus of the Inherent conflicts which 4 LMd ha b" SiX ~~~in former Yugousav Republic. 13 satatu of thes sbusidirl. btn4sisetsito be ern& 19 arise when workers and managers make agreeorents betwe themselves about eteprise goals, wage rat, social benefits, discplia measures, and becae of the prerogatives given in this system to workers' councils to approve all important business decisions including the selection of managers, there has been no effective advocate for capital and no long-term strtegic view which such advocay normally provides. By the end of the 1980s, the flaws in this system and its negaive impact on the eonomy were evident and widely recogpized. In an ttet to address this issue, Yugoslavia introduced federal legisaion in 1989/90 for transformation of social owneship, but the responsibility for adopting implementng legislation was left to the republics. In Slovenia, the debate on privatization options lasted nearly two years and delayed, until very recently, the introduction of effective programs and supporing legislation for ownesship transformation. 58. There are also important problems posed by state-owned enterprises. While these enterprises represent only a relatively minor part of the enterprise sector in terms of the number of enterprises (around 1%) and of output (10%), they account for about 30% of total losses in the enterprise sector. In part, the financial problems of state-owned enterprises are due to controls on the prices of their outputs (as for example for the power companies) and to major disruption caused by the break-up of Yugoslavia (as for the ralroads). At the same time, however, their capacity for adjustment is seriously consied by inadequate exercise of owneip rights and by poor corporate governce. Representation of State ownership in sta-owned eteprises is curently undertaken by line ministries that are also responsible for sectoral policies and strategies. Conflicts of interest have arisen from this combiDation of the owneship and the goverce functions in a single ministry. Moreover, as there has been until recendy no clear definition of the sectors in which the Government wishes to maintain ownership, decisions on investments by the State and on transformation to State ownership have been taken on a case-by-case bash (such as for the steel enterprises). As a result, a variety of ownership patterns exists in some of the above sectors, including some entse s that are wholly socially-owned, some that are wholly state- owned and ohrs with a mix of State and social ownership. 59. Thus, while the smal but growing private sector is thriving, a large nmmber of the socia, mixed and state-owned enteres tht dominae the non-agricultural economy have not made the adjustent th are required to cope with the shrinkng traditional markets and new competitive forces. this failure has resulted in escation of enterprise losses, iese in defaults on debts to the banking sector, and a rapid inra in inter-enterprise arnr . During 1992, total accountng losses Incured by 4,930 enterpises amounted to SfT 169 billion or 17% of GDP on an annual basis. The 100 top loss-making enteprises accounted for 73% of this total. Among this latter group, 19 enterprises that are or wil become state-owned enprises accouned for approximaty 56% of the group's losses, while 81 socially- owned enerpi accounted for the balance. 60. The contimuing poor perfomance of the enterprise sector has led to major difficulties of near crisis proportions in the banking sector. The fundament cause of this crisis is rooted in the linkage between bank owners and borrower which has been a basic feature of the Yugoslav banking system and which has led to connuing misallocation of credit and increasing proportions of problem loans and guarantees in the system. The cost of carring these problem loans is being reflected in very high intermediadon spreads. Lending rates have risen to levels that are much higher than normal rates of return on capital and are subUtaay bampering investment and growth of viable enterprises. Currently, real interest ras on deposits range between about 7% for 90-day deposits and 10% for 180-day deposits. Real interest ates on working capial loans and long-term invement loans are about 25% and 28% repectvely. 20 61. As can be expected, these high rates, which Table 10 are leading to increasing arrears, are also contrbuting to a situation of continued deterioration in the condition of the banking system. The alMs xposures of the existing 30 banks to problem loans a e e i | and to doubtfu guarantees is estimated to have amounted to about SfT 180 billion at the end of 1992 (rable 10). These estimates are based on the .... banks' preliminary 1992 finncial statements, and _ suggest that the banking system would require addition&l provisions of approximately SIT 107 E t s 2 $ billion in order to cover potential losses from loans IOiNsu WGuaan- ~ and guarantees. In addition, the banking system had m claims against NBY of about SIT 126 billion, of wbich SIT 57 billion counterbalance pre-199 foreign currency deposits of Slovene cizens which have not yet been paid out by the banks (para. 64) . ..... 0 .g.1 - These exposures compare with a book vaue of iacl.ttie.....,.. equity in the banking system of Sff 96 billion at end-1992. Table 11 62. Taken as a whole, the bankidng system was therefore technically insolvent. The losses are main- ly concentrated, however, in three insolvent LS.~...~* banks: LBdd, Kreditna Banka Maribor (RBM) and Kreditn Banka Nova Gorica (KBNG). As of... December 1992, these bank had a total negative net worth of SIT 65 bfiion, after adjustment for.~ potential portfolio losses of about SIT 88 billion. ~ ~ Tbis excludes claims against NBY of SIT 70 billion (of which SIT 30 bIlion are couterbalanced by pre- .. 199 foreign currency deposits). All three. banks faced severe liquidity problems in 199 and have t been supported by BOS liquidity credits at market ... rates (para. 14). In aggregate, the three banks ~ represen 83 % of the LBS exposure to problem loans and doubtfigul rnte, which Itself accounts ~. for about 94% of the banking sector's expoure to ...... such risks (Table 11). ........ 63. Ihe eimat" for the remaining 27 banks f 5 indicate an agrgate capital adequac ratio (CAR) of about 17%. However, this figure is an over estmate because of the following: About 92% of the equity of the banks consists of reserves geneated from revaluation of the bank' fixed assets (31%) and of their net position in montary assets (61%). Following intenational stadards, 50% of the reauation of fixed assets should be excluded from equity for the purrs of CAR calculatons. In the absence of stringent interest suspension rules and bank practices which should prevent capitalization of unpaid interest on classified loans, the reserves generated 21 by the revaluation of the bank' net position in monetary assets are also overstated. Moreover, the weights applied for risk asses In the curret Slovene regulations differ substnially from inteana accountg standards ([AS). Taking Into account these factors, it is estimated that the aggregat CAR of the above 27 banks is about 4%. Pending extemal audits of the end-1992 accounts, three of the 27 appear to have a CAR below the 4% level. 64. The other major crrent financial problem of the commercial banks stems from claims aginst the NBY relatng to foreign curency deposits of households. In former Yugoslavia, bank were obliged to redeposit with NBY the foreign exchange deposits of households. The major share of these deposits have been effectively frozen, and the banks have been under tremendous pressure by depositors to repay their obligations. The State of Slovenia has taken over the responsibility of negotiating for the recvery of claims against NBY, and will be providing means to enable to banks to compensate depositors (para. 115). 65. The Govenment has recognized that it was imperative to put a program in place to stem the losses, restructure, and set the banks on a course which will enable them to become profitoble while charging reasonable interest rates. It also recognizes that the program will not succeed unless it is combined with a solution to problems arising from enterpnse ownership of the banks, from the dominance of the LBS group of banks and the regional segmentation and dearth of compettion in the banking sector, and uniesb it is linked with a program for reform of the Slovene enterprise sector. 22 IV. The Adusent and Reform Prog 66. The Government and the Bank of Slovenia have designed and started to implement a program of reforms which is Internally consistent and addresses the deep-rooted sructural problems In the Slovene economy. The reform of the enterprise and banking sectors is at the core of this program. The program envisages that these fundamental microeconomic reforms be lmplemente ! under a stable macroeconomic framework which includes, i= a, the maintenance of an adequate social safety net and the establishment of supportive fiscal and incomes policies. The reform program, which has been developed in cooperation with the Bank and the IMF and would be supported by the proposed EFSAL, is presented in the attached Letter of Development Policy (Annex 2). The main policy actions are summarized in the Matrix of Key Actions (Annex 3). Ihe program is described in detail in the following paragraphs of this section of the report. A. The Mlacroeconomic Framework An Overview of Macroeconomic Policies for the Short- and Long-Runs 67. The macroeconomic framework for Slovenia must meet three objectives. First, it must be supportive of the microeconomic reforms and its long-run goals. Second, it must consolidathe gains achieved by the stabilization program of October 1991. Finally, it should also soften the impact of adverse external shocks on aggregate demand and output, and possibly contribute to some recovery of activity in the short-rn. In order to meet these three conditions, the Government will implement a carefully designed package of fiscal, incomes and monetary policies, in which fiscal policy will play a particularly important role. 68. Fiscal policy will play a central role because it is the only policy instument that can contribute simultaneously to the three objectives, although that will also require significant changes in the fiscal policy stance over time. The required fiscal policy support will involve essentially a shift towards a moderate fiscal deficit in the short-run, followed by a fiscal contraction in the medium- and long-runs. More specificaly, in the short-run, fiscal policy must provide critical financial suppert to bank and enterprise restrucuring. Ihis support will permit the establishment of sound microeconomic foundations, eliminate the increasing pressures on the Bank of Slovenia, and thus contribute to the consolidation of the stabilization program. It will involve increased fiscal expenditures (from 47% to 49% of GDP) under nearly stable revenues (at 47% of GDP), and thus also result in a deficit-of around 2% of GDP in 1993 and 1994. This fiscal expasion will be financed by debt issues and is expected to provide some stmulus to the depressed economic activity in the short-run. 69. The enisaged increase in fiscal expenditures is not likely to cause a crowding out of private expenditures, even considering that the fiscal deficit will be financed by debt Issues. This is because the very high real lending rates have been due essentially to financial distress and the resulting high intermediation spreads, rather than to excessive real deposit rates-as mentioned before, real lending rates are three times higher than real deposit rates. The fiscal-financed bank restructring program will help remove the sources of distress, allow a significant reduction in intermediation spreads and real lending rates, and actually encourage some private spending. Therefore, whereas no major increases in enterprise investment are expected before the socially-owned enterprises are privatized, the short run fiscal stn is consistent with the overall reform program, and with Slovenia's present macroeconomic situation. in 23 fact, the positive impact of a debt-financed fiscal deficit on economic actvity may be the only way to prevent a more pronounced decline In output, as enterprise investment is not likely to increase significandy in 1993, and an immediate export-led recovery is also unlikely, given the situation in the Balkans and the current recession in Western Europe. 70. In the medium and long runs, fiscal policy should acquire a different orientation. Although fiscal support to enterprise and bank restruchuing will continue in the medium run, economic activity will then hopefully be driven by increased exports and investments, eliminating the need for a fiscal stimulus. Also, the maintenance of fiscal pressures in the presence of increasing investment could lead to undue pressures in the current account and possible financing problems. Therefore, the medium term fiscal stance should involve a reduction of the deficit, and be combined with a reduction of the levels of both revenues and expenditures to around 44% of GDP. These levels of revenues and expenditures are closer to the average in the EC, although still higher than in countries with a similar per capita income. Furthermore, the medium run reduction in the level of revenues and expenditures is expected to be achieved partly from a simultaneous reduction in the heavy payroll taxes and pension and health expenditures (paras. 76-80). 71. It must be stressed that the new and central role assigned to fiscal policy implies a significant departure from past fiscal practices. Until 1992, the government budget was usually shielded from enterprise and bank losses, but these losses invariably caused a quasi-fiscal deficit in the central bank and a loss of monetary control. Therefore, although the govemment budget wfll shift into a deficit for the first time, this implies an improvement over the present sitution, as the fiscal support to the reform program will enable the elimination of microeconomic deficits at their source, and allow much greater control over the future conduct of monetary policy. Ihe fiscal deficit of 2% of GDP which is envisaged for 1993 and 1994 is moderate, considering that it will permit the elimination of microeconomic losses of larger magnitude, and open room for a fdmen transfomation of Slovenia's economy. 72. It is expected tha the short run fiscal deficit and the recovery of red wages during 1992 wil result in an increase in domestic spending and a decline in the current account surplus during 1993. Some decline in the current account is warranted, as the very large 1992 current account suirplus was generated partly by very tight demand policies at also contribeutd to the severe output decline, and could only be justified under a siuation of high inflation and critically low foreign reserves, such as the one experienced by Slovenia after independence. However, it is essent to prevent fiuther increases in wages, as this could lead to an excessive increase in consumption and a rapid erosion of the current account surplus in the short-run, which could cause exteal fincing problems during the critical period of invesmet recovery. To avoid this outcome, the Govement will maintain a comprehensive incomes policy to guide wages in the non-private sector during the whole period of transition. Incomes policy will be particularly important in the seoond half of 1993 and in early 1994, as many entprses may still remain under social ownership during this period. 73. The prompt implemetation of appropriate fiscal and incomes policies is the only way to eliminate microeconomic imbalances and the increasing difficulties experienced by BOS in mainining monetary control. Provided that the potena sources of pressure for monetary expansion are removed, the BOS should be able to maintain the policies that have led to the impressive reduction of inflation during 1992. Ihereafter, the BOS should be able to keep iatio below 25% during 1993, and to decrease it further during 1994. 24 Fscal Poliy 74. The budgetary expenditure Mi 1 E required for the implementation 3f the _ K . Government's economic reforms isa?BA ~H~ 75414, 5 estimated to increase from 2.1% of , j49 30 $$ GDP in 1992, to 4.2% of GDP in 1993 and 5.4% of GDP in 1994, as . S 4 shown in Table 9 (Annex 1 Tables- : iR, 5 provide more detailed breakdown of NY0 4 *~# budgetary support for the reforms). Sods-No ingroa 0 0 1 ITese estimates imply additional .. Refo 0 12 :9 *9 fiscal support to the reforms of more than 2% of GDP in 1993, and more than 3% of GDP in 1994, relative to OiigSco e utNt . 0 199. The increased expenditures are 0 1 # mostly related to the sercing of 3 interest on the Government bonds that will be issued to support bank and to 0 enterprise restrucring. However, _ X . theenvisagedincrasein expenditures i also includes additional fiscal support to the socWia safety net during 1993 and 1994. As shown in Table 12, the increased fiscal support to the 2 i restrucring program is the major ..... factor driving total expenditures to , 49. 1% of GDP in 1993, and leading to a fis caldeficit of around 2% of E i 9 GDP during 1993 and 1994. The n ndau4*011m 1b riott 1993 budget, which was recenty adopted, limits the general budget , w 8 deficit to at most 2% of GDP, C provides overall support to the refbrms of at least 4.2% of GDP, and contains minimum support of 0.8% of GDP for bank restructing, 1.2% of GDP for enterprise restructuring, and 2.1% of GDP for the social safety net. Adoption of a 1994 budget also limiting the general budget deficit to at most 2% of GDP, providing overall support to the reforms of at least 5.4% of GDP, and containing minimum support of 2.3% of GDP for bank restructuring, 0.9% of GDP for enterprise restructuring, and 2.2% of GDP for the social safety net is a condition of second tmnche rdease of this loan. 75. The Government plans to finance the projected deficits through the issue of Govement obligations and without recourse to central bank credits. These debt issues imply some additional increase in the stock of domestic debt, estimated at 23% of GDP after the initial issue of Government bonds in support of the banking and enterprise reforms. Clearly, the additional issues of bonds in the domestic financial system will be partly used to pay interest on the inital bonds issued to launch the entetprise and banking reforms. This strategy should not imply excessive pressure on the domestic financial system, given the recent improvement in the mobilization of financial resources (Figure 1) and the scope for a 25 significant recovery of the demand for financial assets. Indeed, despite recent improvemes, the ratio of M2 to GDP is stil low-24% in 1992-suggesting the scope for further improvements in mobfliion performance. However, the Government must improve the institutional arrangements needed for regular issues of securities. Under the technical assistance component of this loan, about US$0.1 million would be provided for consultants to help develop primary and secondary markets for public sector securities. This loan will contribute to the financing of the deficit and reduce somewhat the need for domestic debt financing, precisely in the period where money and capital markets are being strengthened. 76. As mentioned previously, in the medium run the Government intends not only to reduce the deficit, but also to combine it with a reduction of both fiscal revenues and expenditures to levels that are more compatible with the objective of expanding the role of the private sector. The envisaged reduction of revenues and expenditures to 44% of GDP is expected to be nearly completed by 1997, and implies that expenditures will be reduced at a faster pace. Moreover, such a contraction should be associated with a reduction in pension and health expenditures, as these are among the expenditures items that have been growing most rapidly. Adoption of a budget reducing genera! expenditures and revenues by at least 1% of GDP in 1994 is a condition of second tranche release of this loan. Presentation of the 1994 budget memorandum indicating the necessary medium-run support to the reforms, a further reduction of general expenditures and revenues, and a reduction of the deficit to at most 1.5% of GDP in 1995 will be an indicator of continuing progress under the EFSAL program. 77. The ratio of pensionbenefitsto GDP increased from 8% inthe late 1980s to almost 13% in 1992. Pension benefits in Slovenia are already significandy higher than in countries with similar per capita income and are also higher than the EC average, and would increase to levels above 14% of GDP in 1993 in the absence of correetive actions. In addition to natural population ageing, pension expenditures have escalated because of the rapid increase in early retirees under a very generous pension scheme, which includes high replacement rates and a generous computation of the pensionable wage. Moreover, the contributions that have been required to finance pension and health expenditures, and unemployment compensation, have reached excessive levels, amounting together to almost 50% of gross wages. Ihese heavy contributions tend to discourage employment, the development of small private enterprises, and may induce some enterprises to shift to the underground economy. The significant redistribution of resources implied by the present pay-as-you-go system is probably also having a detrimental impact on national savings. Ihe maintenance of the present policies would, therefore, impair the prospects for higher growth of output and employment in the medium and long runs. 78. In order to avoid a fiuther escalation of pension expenditures during 1993, the Government has recendy l:mited the average full pension to a maxmum of 85%, insead of the former minimn of 85% of the average wage. The Government has also limited the adjustment of pensions to the growth of wages two months before, abandoning the former practice of adding the estimated growth of wages in the previous month (a practice introduced during the period of hypermation). During the second half of 1993, the Government will broaden the base for the adjustment of pensions to include all average unemployment benefits, average earnings of the self employed, and average agricultura wages. ThiS measure should also lead to some reduction in the average pension, as these average eamings are expected to grow less than the average wage. The measures already adopted should enable the Goverment to meet its commitment to limit the ratio of pension expenditures to GDP to at most 13.5% in 1993. It is expected hat the measure to be adopted in the second half of 1993 should result in a ratio of pension expenditures to GDP below that target. 26 79. A fiuther reduction of pension expenditures to at most 12.5% of GDP in 1994 is a conion of second granche release of this loan. In order to achieve this result, the Government intens to: (i) accelerate the ongoing increae in the retirement age initiated in 1992. Specifically, the Govenmen inends to increase the retirement age by one year (instead of a half year) each year for both men and women; (ii) increase the retirement age of women so as to reduce the difference between men and women from five to three years; and (-di) broaden the assessment period for the calculation of the pension base from the ten best yeas to the twenty best years. This latter measure is epetd to be introduced for both new and existing pensioners, dtw tightening the link between contibutions and benefits for all pensioners. If these measures prove insufficient to reduce the ratio of pension expenditures to GDP to the target, the Goverment will review the rules guiding the adjustment of pensions so as to reach the target. Submissionto Parliament of revised pension legislation and identification, if necessary, of changes in indexation ndes or alternative measures required to reduce pension expenditures to the 1994 target are also conditions of second *wxhe rlese of this loan. 80. Together with Government plans to expand the role of voluntary health insurance during 1994, these measures should result in a decrease in fiscal expenditures of almost 3% of GDP during 1994 and 1995, thus contributing significanty to the medium term fiscal adjustme. Moreover, the reduction in pension and health etpenditures is expected to be combined with a shift of non-earnings related expenditures from the pension fund to the central budget (and their financing through other taxes), so as to allow a reduction in the total of contribution rates from the present 49% to at most 42% in 1995. Presentaion of a revenue-neutral pln to shift non-eanings related expenditures from the pension fimd to the central budget will be an indicator of continuing progress under the EFSAL program. At the same time, the Government understands ihat the pension and health systm may need more fiundamenta reforms, and intends to inae a comprehensive evaluation of the two syms in 1993, with the support of extn tecnical asistnce. About US$0.2 million woud be prov under the techical assistance component of this loan to carry out the study and initate an action program for medium-term reform of the pension system. Completion of a study for comprehensive pension reform is a condition of second tandhe reese of this loan. Incomes Poliy 81. Wages in Slovenia have been regulated by collective agreements and special legiation. Collective agreements within the enterprs sector involve wage negoiations between trade unions and the chamber of commerce (the representaive of enterprise managers). In the public sector, collective agreements are reached hrough negotiations between the trade unions and the Government. Although collective agreements are considered the primary intument for the regulation of wages, the Governme has been sometimes forced to introduce special legislation, in the absence of agreements or when the collective agreemen result in a level of wages incompatible with macroeconomic equilibrium. As mentioned before, in mid-1991, the Government was forced to overrle previous agreements and impose stringent restrictions on wages In order to control inflton. The adoption of this law led to a significant decline in real wages between August 1991 and February 1992, and contributed significanly to the success of the stabilizaon progrm. 82. Ihe expiration of the wage intervention law in February 1992 occurred in the absence of new collective agreements, and resulted in subsntial wage incmaes durng 1992: more ta 30% in real tems and 40% in US dollars. Such wage pressures were initiated in the enterprise sector but spiRled over to the public sector, due to previous colleive agreements linking wages in the two sectors. in order to countea such wage pressur, the Goverment was again forced to Introduce legiation in early 1993, 27 dellnking wages in the two ectors indefinitely, freezing wages In the public sector until May 1993, reversing some of the wage increases in the enterprise sector, and subjecting wages in the enterprise sectDr to an extremely restrictive Indexation scheme (amounting practically to a wage freeze) until June 1993. These corrective actions should lead to a decline in wages measured in real US doUars to levels somewhat below their historical average by mid-1993. The Government is aware of the need to condnue restraining wages after mid-1993 in order to safeguard the stabilization program and the competitiveness of exports. 83. The Government is committed to the maintenance of a resticive wage policy after the expiration of the current wage law. This policy will be implemented through collective agreements and supportive legislation, and will include five, mutually reinforcing, components: (i) the permanent severance of direct legal linkges between wages in the two secors; (ii) the prevention of wage increases immediately after the expiration of the present law; (iii) the subjection of wages in both sectors to a partial indexation scheme, through which wages in both sectors are not adjusted if the monthly rate of inflation Is less than 3%, and are only partially adjusted if inflation exceeds that level. Ihe Goverment will monitor the changes in the average wage to verify compliance with these rules; (iv) the reimposition of wage restrictions on both sectors through new legislation, if no satisfactory progress is made in concluding new collective agreements, or if enterprises do not comply with the agreements; and (v) additional restrictions on wages for enterprises that are iliquid, or have tax arrears, or generate losses. 84. New collective agreements with enterprise and public sector employees have been ratified.5 The maintce and satisfactory implementation of the wage policy described above, if necessary through the adoption of special legislation, is a condition of a second trawhe idase of this loan. Moneay Polky 85. Since the introduction of the Tolar in October 1991, the BOS has succeeded in maintning monetary control, and prevening a significant appreciation of the real exhange rate, despite the significant net inflows of foreign exchange. The BOS achieved this impressive result through a variety of isumments, including the sale of foreign exchange bills with atrctve interest rates to exporters and commercial banks. The intensive recourse to this instrument has not resulted in a loss to the BOS, as it has been able to place the foreign exchange absorbed through the sales of these bills into foreign assets abroad earning equivalent yields. However, it is doubtfdl whether the BOS will be able to contn to rely on this instument in the face of increasing foreign exchange inflows without incurring excessive costs. As previously mentioned, the BOS is also facing an increasing situation of bank illiquidity triggered by the problem of non-performing loans. The amount of liquidky loans provided by the BOS has increased substantially, and could result in a loss of monetary control. 86. The full implemtion of the fiscal and hcomes policies descrbed above are expected to relieve these increasing pressures on the BOS and allow it to continue to restrain monetary expansion and avoid an exchange rate appreciation. For one, the refbrms will improve bank liquidity and reduce the pressure on the BOS to extend liquidity loans. In addition, the moderate fiscal deficit which is envisaged for 1993 and 1994 is expected to reduce somewhat the current account surplus and the pressure of large foreign S Th collectve agreenmn establish a very resrctive indexation sceme, though wbich wage ar not adjusted if the monty rte of inflation is below 3%, and ae adjusted by 70% of the excess over 3% if inflaton exceeds this leveL 28 exchange ilows on monetary policy and the exdchage rate. Finaly, the Impltemation of a coprehensive wage policy will prevent the emergence of excessive wage pressures and potei demands on the BOS. The Government's package of macroeconomic policies Is thus consiset wit a restrictive monetary policy and the reduction of Inflation to lower leels. Under the proposed loan, the Governmt Intends to maintin inflation below 25% during 1993 and to reduce it further during 1994. Ile progress already achieved so far makes such targets feasible. 87. Agreement on a medium tem macroeconomic framework filly consistent with the objectives of the microeconomic reforms has been reached. Satisfictory compliance with the macroeconomic famework Is a condition of second tranche redease of this loan. B. Enterprie Sector Reform Overall Objecies 88. The Government has recognized that the current structre of owneship and goverance in socially-owned, mixed, and statowned enterpises has sustantially impeded the response of the enterprises to the new inceives environment. It therefore has set a high priority on a program which aims to: Q) prvatize all enterprises In Industry, trade and services (except in a limited number of commercial public services); (ii) reform the system of governance and regaion of stat-owned e;taprism; and (di) frther develop the legal and insttutonal framework for enterprise reform with a view to acceleraing privat sector developm and fostering competition. Since tota loss of non- private enprises amounted to as much as 12% of GDP in 1992, the reform program also includes special initaves that, even In advance of privatization, aim to contain and subsequently reduce these loss. Ihe New P rvadaton Program 89. The Law on Ownefship D matou. Because of an intnse political debate on the desirable approah(es) to privtzing so y-owned entetprises and te resulting delay In approving privazaion legislton, Slovenia has to date adhieved only relatively modest progress in the sale of social property, corporatiation of socially-owned enterprises, and establishment of joint ventures with majority privat ownership, ITis major gap can now be bridged following adoption by Parliament, on November II, 1992, of a new privatization law, the 'Law on Ownership Transformationi'. Ihis new privadzation law was amended on June 2, 1993. The law safeguards the interets of preious owners and addreses restution issues without inhibiting the process of transfrmation. Six monts has been allowed to prepare he neesary meh and regulaions, and the law became effective on June 6, 1993. This law will govern the ownership tranformaon of about 2,700 medium and large Slovene enterprises. 90. Trasomat under the law will result fist in the conversion of socially-owned enterprises into shareholding companies with a revalued capital base. Twenty perent of the shares of each entepris wDI be reserved for awcisition by employees using ownership certficat. A further 40% of the sae will be allocated for se throuh employee purchases, public tende, and public auction and salo. For these shares, employees will be given the right of first refusal, with a 50% discount on the price of the shaes. Th remaiing 40% will be allocated as follows: 10% to the Compensation Fund, 10% to the Pension Fund, and 20% to the Development Fund (the Fund) whi will distribute ths share among Special lvestment Funds. The law explicidy allows the sale of a company in its entirety, or the sale of 29 the controlling interest in a company. Ihe Compensation Fund, Pension Fund, and Special Investm Funds will be compenated In cash from the proceeds of such sales. 91. For the benefit of the population at large, the law provides for the Isuance of ownership cerdficates (equivalent in total value to 40% of the total socal capital of enterprises) for free distribution among all cizens of Slovenia. The non-trasferable certificates will have a nominal value ranging from SIT 100,000 to SrI 400,000 and will be distributed according to age, with those who are under 18 years of age receing certificate valued at the bottom of the range and those who are over 48 receiving certificates valued at the top of the range. Citizens will be able to use their certificates to buy shares of Special Investment Funds, or the shares of companies offered through public sale. The employees of an enterprise will have the additional option of using their certificates to purchase the shares reserved for them. Regulations for the distibution and use of ownership certificates wil be adopted by September 30, 1993. 92. In the first insance, the law relies on the enterprises to initiate their transformation, under guidance and with monitoring by the Privatization Agency (the Agency). Given the risk that the workers' councils may delay this transformation, the law decrees that all entepises covered must voluntarily have completed the initia transformation by June 6, 1994-12 months after the date of effectiveness of the law. After this date, the tnsion rights of the enterprise will be transferred to the Agency. The Governmen intends to monitor the progress of ese transfowrmaions and, if necessary, to take prompt action to modify the legislation to ensure rapid and efective transfer of controlling interest In the enterprises to private owners. Privadzation of 400 socially-owned enterprises, accounting for 20% of the value added contution of all enterprises subject to the Law on Ownehip Transformation, is a condition of second t,vuwe lease of this loan. 93. Inst onal SiMpon. The Privatization Agency and the Development Fund will be the principal sutions in charge of impl ion of this program. These institutions were established in December 1990, in accordance with a 1989 Yugoslav law, and have subsequentdy gained valuable experience in prvatzation. The Agency will be responsible for setng the guidelines and approval of the transformation program submtted by eeprises and foe valuation of the enteprises in cases where required. The Pund is uharged with the management and disposa of the shes it acquires during the process of transfoion. Pre regulaio provide that the liquid assets andthe priva ionrevenues of the und can be used, in compliance with special laws, for: recapiizing banks; export proraotion tchnological development and ecological improvement; and development of smal businesses. 94. The two agencies have very competent managemert and are governed by boards including high level Goverme officials and highly regarded independent professionals. So far, they have ufiled their mandates effecdively. There is, however, reason for conern about the expected increase in the volume and scope of their responsibilities. Both agencies are benefiting from technical assistce from the EC, EBRD and other sources. The Government has confirmed ta it will contimne to support these agencies and facilitate their access to thical assistance. To this end, the loan will provide about US$1.1 milion to help the Prvatzation Agency design and implement different pivatization procedure, including the design and implentaton of the sale of one or two enterprises by initial public offerns which would serve as examples for fiture privatizaions by this process. At present, the PFnd is fiacig its tehnical assistance needs from its own resources. 95. Specdal Devlent Fwd Program. While privatization is the cena theme of the Govrmet's program for enterpise reform, the Goverment has taken a specia iniative in advance 30 of the passage of the new law in order to respond more quicldy to the problems of distressed socially- owned enterprises and to aelerate their privtzation or liquidation. In August 1992, the Goverm resolved that socially-owned enterprises in need of assistance be invited to particpate, on a voluntay basis, in a short term restrucuring program to be managed by a council comprising reprntatves of the Ministry of Economic Activities (MOEA), the Ministry of Labor, Family, and Social Affa (MOL), the Bank Rehablitation Agency, the Privatiation Agency and the Development Fund. Th1e conditions for participation in the program Included, j= ala, submission of a business plan and a resolution by the enterprise to transform into a commercial company owned by the Development Fund. Over 200 applications were received and, after some initial evaluation, 96 enterprises with a combined loss of about SfT 35 billion during 1992, and a total employment of 55,000, joined the program. Over 90% of participadng enterprises are loss-makers, and their aggregate over-employment is estimated at 20%. 96. The social capital of the participating enterprises has been transferred to the Fund, and each enterprise has been transformed into a joint-stock company. Each company is governed by a three- member board appointed by the Fund, the Agency and the company's major creditor bank. For each of the entrise in this special program, the Fund has with the assistance of domestic consultants: 0) identified non-viable enterprises which would be liquidated; and (ii) developed prvaitzon/restrucuing programs (including debt and labor restructuring) for the viable enterprises. Ihe MOL has been closely involved in assessing the labor rationalization programs and providing funding for their impl e The Fund has also made significant progress in implementing these programs: 11 companies are in bankruptcy and an additional 6 wll be placed in this procedure shordy; the debt of 50 entepris has been rescheduled based on agreements reached with their creditors; 11 companies have been sold and procedureslnegotations for sale of another 25 are quite advanced. Ihe Fund expects to have privaized or liquidated 50% of this group of companies by end-1993. Ihe implementaton of the privatzaton programs for these entprs wfll help meet the target number of enteprise privadzations which is a condition of second tranche release (para. 92). The Programfor Skate Enprises 97. The Government has indicated its int to restrict State ownsip of enterprises to those enged in electric power generation, transmission and distribution; gas distrtion; the railroad subsector road constuction and maintce; sea and air ports; telecommunication; post services; and waer distribution and other municipal public services. In these limited number of cases, the Government needs to transform enterprises which are currenly socially-owned into state-owned enterrises, in order to ensure proper exercise of the ownership function and the required oversight of their operations. A Law on Commercial Public Services was adopted on June 2, 1993, and provides the legal underpining for conversion of the concerned enterprises to State ownsip. Conversion of all socally-owned entepise in the above subsectors is a condition of second rtwdwe rsese of this loan. 98. Seowned enterprises and stateowned shares in mixed enterpries in all other productive and commercial services sectors should be privatized rapidly. However, given the natre and relative unattractiveness of these enterprises to privat owners, this could take some time. The Goverment will prepare a program for privatization of the current state-owned enterpnses by mid-1994 which aims to privatize 30% of state-owned entprises in ifts first year, and the balance in the second year. Since the Law on Ownership Transfonnation excludes privatizaon of State capital, the shares of the State in enterprses wit mixed ownership wil be divest at the time of prvatzation of the social capital In these enterprises. 31 99. The Government will also reform and improve the system of govence of stt-owned enterprises and separate the Governmenets ownership fiunDon from its policy and regulatry roles. To tis end, t has recenty established a Stt Trsury and will consolidae State ownesp in this Treasry. State-owned enterprises would be incorpoaed under the Company Law which was also adopted by Parliament on June 2, 1993 and would be run as profit-making cotporations. Ihe principles governing the operation of the state-owned companies and the requirements relating to the accountability of these companies are being elaborated. The Government will ensure hat gthe majority of the members of the boards of directors be independent, non-governmental professionals of high standing in the community. Establishment of an appropriate governance structure including designation of boards of directors for state-owned enterprises and continued strengthening of the treasury function is a condition of second trache release of this loan. 100. Independent regulatory systems for the designated subsectors are also to be established. Submission to Parliament of specific laws for the energy, telecommunication, and railway subsectors which would, inter-alia, govern the organiztion and define the regulatory frmework for these subsectors, and specify those activities which will be privatized in the medium term are conditions of second reche re of this loan. 101. Amaong the 100 largest loss-making enerprises ther are 19 statowned enterprises, which belong to the steel, power and railways subsectors and account for approximately 56% of the group's losses. Ihe Government intends to develop medium-term restucturing programs for these subsectors which would aim at reducing enterprise lose by meaures that include financial and organizational restuctuing, closr of non-viable lines and units, materia and energy efficiency improvemens, ecological enhment and labor reduction. For the steel subsector, for which private investors have not been foud despite considerable effort, the program has already been developed anZ will be implemeaned over the net 2-3 years. The Government has substiuted State bonds for the debts of the stee tprs to three LBS banks. Ihis operation has substantially improved the condition of the recipient banks. Satisfactory implementation of the steel restruing program, adjusted as necessary to stem losses in the steel subsector, is a condition of second twwhe rekase of this loan. 102. Both the power and the railway enterprises continue to incur substantial losses. Controlled prices are the main reason for the losses in the power subsector. A study is being undertaken in conjunction with an EBRD-suported power project to establish an appropriate electricity tariff structure. Prior to the conclusion of this study, the Government would be adjusting prices periodically with a view to stemmg losses of power enterprises. A plan for pnce adjustments has reetly been adopted and studies aimed at developing a long term basis for regulating power prices have been inated. Implementation of this plan, including fiuther adjustments as necessay, and finalization of propos for tre regulation of power prices are conditions of second wrhe rlase of this loan. 103. EBRD is also supporting a railway project which will help restructre this subsector. To this end, a restructuring study wfll be undertaken during 1993 with asistance from a West European railway company. Satisfcry progress in iniiating the restrucuring of this subsector has been achieved. Completion of the study and progress in the implemenation of the complete restructuring program are onditions of second tmxwle re of tis loan. 32 The Private Sector Development Prograwn 104. Private enterprises enjoy a favorable environment due to existing enterprise, foreigl investmet, and intellectual property laws in Slovenia, as is evident by the rapid increase in private secwr activity during the 1991-1992 period Crable 7). The Government recognizes however that, despite this impressive progress, additional legal reforms and strengthening of the regulatory framework are essential to fiurher improve the environment for private entesprise developmen. 105. As mentioned previously, the Parliament has recently adopted a new Companies Law and a Law on Public Commercial Services. A new Competition Law was adopted on April 2, 1993. Furthermore, the Government has submitted to Parliament a Law on Notarial Services, a Law on Audidng and a new draft legislation on bankruptcy which introduces chapter-Il style reorganization as an option in parallel with liquidation. These laws are expected to be adopted in September 1993. The Govement also intends to build up the capacity of the court system to deal with the bankruptcy and liquidation cam. Moreover, the Government is in the process of reviewing the current legal framework for secured transactions, and plans to take steps to modernize the system of real estate and mortge regisaon in order to provide the proper underpinnings for a secure and predictable system of collateral. The registion of security interests on movables is addressed by the Law on Notaral Services. Ihe proposed loan includes a provision of about US$0.4 million to initiate improvement in this legisaton, impove the implementation capacity of bankruptcy proceedings and provide advice on other specific laws as appropriate. 106. In addition, the Government intends to submit to Parliament new updated Securites Market Legiation (prepared wi assistance from IFC). The Govenment also intends, during 1993, to submit to Parliament a new Law on Mutua and Investment Funds. The Seurities and Exchange Commission wil be established as an independent regulatory body, with considerably enhanced capacity to superis the investment market, including the activities of the Stock Exchange. Following enactm of the Companies and Auditing laws, new accounting standards will be adopted. 107. In addition to the foregoing measures, in order to support the privatization process and the emerging private sector in industry, the Govenmet has completed a pilot program of in-depti studies in four subsectors. These studies have assessed the strengths and weaknesses of the subsects, compared their competitiveness vis-a-vis similar subsectors in other market economies, and provided enterprises with informaion on technological, ecological and manageria developments in Wester countries. The results of this pilot progrm have been successful and the prograw wfll be extended to other branches of industry. In addition, tehical assisuce (about US$0.3 mfllion) will be provided under this loan to assist the MOEA ([ndusty and Energy) develop a coherent strategy for Industrial development, and to begin inplemention of the most ritcal actions envisaged under this strategy. C. 1Bakn Sedor 1Morm The Ban Resr cturing Program 108. Objecaives and Scope. The Government's program for refirm of the banking sector aims at generating an immediat reduction in the excessively high intermediation spreads and real lending rates which have burdened enerprises and discouraged investme atvity. At the same time, it alms at providig the drnivg force for the restructng and privatzatio of the enterprise sector. I cais the links between bank owners and borrowers and aims at enhancing competiion in the banking sector and 33 at privazing the banks at the earliest opportnity. In order to support these changes, and help ensure the stability and enhace the efficiency of the banicng system, the program wiM improve prudenti regulatios, bolster the supervisory capabilities of the Bank of Slovenia, and attract ntratona Invest- ment and know-how into the banking sector. 109. The Slovene authorities have initiated a Bank Restructuring Program which includes two principal components. The first component involves the rehabilitation of insolvent or seriously undercapitalized banks. The second component involves the exchange of claims against the NBY with bonds issued by the Republic of Slovenia to enable the banks to compensate the foreign currency deposits of households. 110. FZrst Component. Under the first component of the program, the authorities have initiated the rehabilitation process for the three banks in the LBS group (LBdd, KBM, and KBNG) which have been determined to be insolvent, in accordance with the Law on Rehabilitation of the Banks (para. 134). A law authorizing the issuae of DM 2.2 billon of bonds for this component of the program was approved by Parliament on November 26, 1992. 111. LBdd and KBM together account for about 57% and 61% of the total assets and total problem risk exposures of the banldng system. The rehabilitation programs for these two banb were introduced through decrees by the Bank of Slovenia which set out the framework fot the rehabilitation process. These decrees together have provided for write-off of about SfT 19 billion (DM 246 million) of estimated 1992 losses agains the two banks' existng capital. The banks' remainig net worth of about SIT 42 biSlion (DM 0.7 billion) has been acquired by the Bank Rehabilitation Agency (BRA) in exchange for conversion of the equity stae of previous bank owners into a subordinated debt of this agency. The decrees also provide that about SIT 95 billion (DM 1.6 billion) of potential losses be carved out from the two banks and exchanged with an equivalent amount of BRA bonds guaranteed by the State. In this manner, the decrees eliminate all the rights of previous owners of the banks, except the right to participate in any revenues tuat may result from the recovery of the impaired assets carved out by the BRA. The decrees provide for adjustent of the above amounts based on the results of detailed inventories of the banks' portfolios and exteal audits of the banks' end-1992 financial satem. The banks' projected financial statements indicate that anment of a positive cash flow position and a minimum CAR target (para 112) would require further income support in 1994 equivalent to ta which would be generated from injection of an additional amount of bonds of at least SIT 90 billion (DM 1.5 billion). The authorities have decided and made plans to frst offer KBNG for sale to investors who would be interested and able to acWire and restructure the bank. In case the bank is not sod, it will be rehabilitated by the BRA in a similar basis as for LBdd and KBM. 112. It is the intenion of the Government and the Bank of Slovenia to upgrade capital adequacy rt hrough new amendments to the banking law. A minimum CAR of 8% will be required, by 1995, based on new regulaons which will be in accordamce with BIS standards (paras 132-133). The law on Bank Rehabilitation requires the Bank- ' Olovenia to initiate rehabilitation procedures for any bank with a CAR below 50% of the mini- . m req. iment. Given the new capital adequacy target ankd the trigger for ination of rehabilitation, uie BRA intervention should ensure that the banks achieve initly a CAR of at least 4%, and a positive cash flow positiorf. As the restructuring operations when completed would offset the major share of the banks' problem loans and doubtful guarantees, the banks Since e CAR calcduation willbe based on modified& risk weights and upgaded accountng andard, de 4% utae is more stringnt tn t 6.5% CAR base on cunt Slove. regaos. 34 should be able to subsequenty build up capital, through profits or sale of shares to private invesors, to meet the 8% capital adequacy requirement. 113. Te BRA adopted in mid-June, 1993, plans for the financial restrucuring of LBdd and KBM which will enable these banks to achieve a CAR of 4%. Achievement of the 4% CAR and positive operating cash flow for LBdd, KBM, and KBNG (in case that this bank is rehabilitated by the BRA), satisfactory progress by these banks in the implemeion of institutional development program, and introduction of ehabilitation procedures for any bank with a CAR below 50% of the minimum requirement are conditions of second bmnhe reease of this loan. 114. The implementation of the bank restructring program provides Slovenia a special opportny to induce changes in the structure of the banking system and promote competition among banks. Ihe authorities presently believe that Slovenia wMil be well served by a banking system which consists of about five to seven banks of fairly equal size. They foresee that this goal can be attained by separation from LBdd and mergers among LBS member banks, and through acquisition of restructured bank by new entrants into the banking system. LBdd also favors a separation from other member banks that would clearly allow it to compete in their respective markets. The Government has requested all shareholders of LBS member banks to decide by June/July 1993 whether they wish their bank to dissociate from LT3dd or merge with it. The Government and the BOS have already agreed the actions that will be taken, If necessary, following these meetngs in order to ensure reorganization of the LB System. It is envisaged that these actions include as a first step acquisition by the BRA of the 51% participation of LBdd in hie capital of the LBS member banks, in order to speed up such a reorganization. Ihe Govenment is committed to achieving a banking stucture under which no institution will hold more than 40% of the system's total deposits. This is a condition of second tdce release.of this loan. 115. Second Component. Under the second component of the Program, the State will exchange, for all the banks in the system, a portion of the frozen claims against NBY with State bonds in a total amount of about S1T 59.4 billion (DMd 976 million). ITis is approximately equivalent to the remaining total frozen foreign currency deposits in banks in Slovenia. To this end, the Slovene Parliament approved, in February 1993, a law which authorizes issue of State bonds in the above amount. 116. The law proposes that these be 30-year bonds denominated in DM and canying an 8% interest rate payable semianually. It also spells out the options that can be offered to depositors to recover savings. The banks will in exchange have to offer depositors the following alternatives: (i) recovery of the deposits in cash out of the banks' own resources; (ii) conversion into 5-year time-deposits payable in 10 semiaul installments of no less than DM 1,000 each. Ihese deposits would carry an intr equal to the appropriate discount rate for the currency in which the deposit is denominated; (ii) transer into a savings deposit wfih a 2.5 year maturity; (iv) a swap of the deposits with State of Slovenia bonds with a maturity of 10 years, a coupon of 5% and semiaimal pricipal and interest repayments. If depositors choose tis option, an equivalent amount of 30-year State bonds would be taken out of the total amount of such bonds received by the banks; and (v) a swap of the deposits with negotiable stock of the bank. 117. Ihe first three of the above options could put substntial liquidity pressures on the banks. In cases where the banks would have to sell outright the 30-year State bonds to generate liquidity, it is very possible that they will incur sizable losses due to the discount at which these bonds are likely to trade. However, this risk can be minimized through the development of a Repo market (Lombard mechansm) to allow the banks to manage their liquidity needs without outright -qle of the bonds. The fourth opdo 35 would lead to some improvement in the banks' net incme, but would reduce the likelihood ha the depositors can be enticed into becoming bank owners. At the same time, without an adequate incentive and because of the present uncertainty about the value of the banks prior to rehabilitation, it is not likely that the depositors will choose to be repaid in bank stocks. 118. The authorities recoize the liquidity risks inherent in the design of the bonds (and that bank competition could furter exacerbate the problem). However, they believe that a revision of the recent law is not urgentdy needed at this time since there have been no significant withdrawals of deposits from the banking system. Furthermore, so far, depositors accounting for 52% of the frozen deposits have already selected among the options offered by the Law. Based on the agreements reached between these depositors and the banks, 12% of total frozen deposits will be converted into 2.5-year savings deposits, 30% into 5-year time-deposits, and 10% into 10-year State bonds. This will substantially lengthen the maturity profile of the frozen deposits. 119. In addition, in order to counteract the possible adverse effects of excessive competition by banls under rehabilitation for new deposits, the BRA has instructedh e management of these banks to develop policies regarding the maximum terms and conditions to be offered to new depositors. This should contain the fumding costs of these banks. In parallel, the board of the Bank of Slovenia adopted on May 18, 1993, a decision conring Its intent to support banks in exeme liquidity difficulties. This support will be provided through mechanisms which will ensure development of a Repo market between the banks under rehabilitaion and the most liquid banks in the system. These mechanisms will reduce the liquidity pressures on the banks under rehabilitation while safeguarding overall monetary policy targets. The Slovene authorities will be monitoring the developments on the compensation of frozen foreign currency deposits closely. Revision of the terms of the bonds, if necessary, is a condition of second trwhe ,lease of this loan. 120. Bank Rehab*adon Agency. The Minister of Finance chairs the board of the BRA which also includes: the director of the agency; two members appointed by the Ministy of Finance; three members appointed by the Bank of Slovenia; and two indepeadent professionals. 121. It is perhaps esable although the BRA was institted in 1991, there was no active recruitment of staff for the agency until the adoption by Parliament of the laws providing fincing for the bank restrturing program. It is also fair to note that there is a good track record of rapid development of competent agencies (such as the Privatization Agency and the Development Fund) in Slovenia. However, there is, both in the country and internationally, a scarcity in bank restrucring skills. Given the central role of the BRA in the success of the bank restructring program, it is imperative ihat the muthorities continue to make every effort to build up the capacities of the agency in the shortest possible period. Significant progress has been achieved in the last few months. The agency's director is now being supported by an advisor with international experience in bank rehabilitation and debt recovery and expects to complete recruitment of 10 senior officers by end-1993. The agency will also rely on other long-term external legal and bankdng consultants. In this regard, about US$1.3 million is provided under the technical assistance component of the loan to strengthen BRA and enable it to conduct its role in rehabilitation of banks. This will finance expert advice to the BRA on a wide range of banking actities and will support a special program of institutional strengthening of LBdd as well as istitutional diagnostics of other banks under BRA control. 122. Formal plans for the operations of the Agency which cover operational guidelines and governing policies, organization and budget were adopted by the board of the BRA in mid-June 1993. An 36 updatng, as necesay, of BRA's plans, Including multi-year finmaal require_mnts to support bank restructuring is a condition of second tnwche lekawe of this loan. 123. The agency has appoitd executive managers for the banks currently under rehabilitatn, ad has decided to nominate a Board of directors for each bank under rehabilitation with the responsibilty of overseeing the banks' institutional and financial recovery. Appointment of a board for each bank and approval by these boards of peromance indicators and targets for the recovery of their respective banks is a condition of second tdh rlease of this loan. Debt Recoery 124. Insmudonal wrangements. Debt recovery is the responsibility of the BRA, the banks, and separate work-out units under the authority of the BRA. This agency has begun to play the central role in this process. It Is supervising the carve out of problem loans from the banks' portfolios; defining the responsibilities and design arrgements under which the work out units will operate; and has established guidelines governing the debt recovery process. The structures of the banks under rehabilitation will be modified in order to separate the entity charged with the recovery of carved-ut assets. Plans for implementing such a separation have recently been adopted by the board of the BRA. Statement from extenal auditors on the financial condition of any entity charged with the responsibility for managing the carved-out assets wil be an indicator of continuing progress under the EFSAL program. Abou US$0.6 million is provided under the loan to finance experts to assist BRA in the debt recovery process. 125. Carve Ow. lTe decrees for rehabilitation of LBdd and KBM provide that the most adversely classified debts and guarantees be carved out of each bank up to an amount of SlT 69 billion and S1T 26 billion, respectively. The actal debts to be carved out have been subject to the results of inventories which are being conducted by the BRA in conjunction with the banks and which are now subsantialy completed. It is presendy planned that the carve-outs will include 34 large enrprises which account for about 61% of the to enterprise problem debts in the banking sector and 29% of the losses of the hundred largest loss-makig enterprises. 126. The Government has provided to the Bank a mapping of the assets to be carved out against the largest loss-making and most highly-indebted enterprises which confirms tgat the carve out will remove a significant percentage of these enterpris from the banks' portfolios. Restrcturing or other appropriate resolution of at least one third of the debtors and one third of the debts carved out firom the banks is a condition of second trhwc. release of this loan. 127. GidelInes. The BRA has recendy issued guidelines governing debt recovery and the restuctur- ing of the debts which have been carved out from or remain in the banks under rehabilitation. These guidelines reflect the Governt's intention to use the debt recovery process as a means for acceleaing the privatization of viable enterprises and liquidation of non-viable enteprises. They are based on a nber of principles which: (i) assure adherence to the established priority of claims to maintain discipline in the system; (0) exnguish or substantially reduce existing equity prior to debt forgivens or debt to equity swaps; (iii) recognize the need for increased govement flexibility in debt negotiations in order to faciite agreemen among the various parties and to encourage injection of new eqity; and (iv) assure financing only for companies which are viable without subsidies, will be able to service debt obtained on commercial terms, and will provide a market rate of return for investors. 37 128. The Goverment intends to limit the support it provides to enterprises to support for debt relief and labor rationalization, on the reasonable expectaon that most of the fumdamently viable terprises can be privadzed following such debt and labor restructuring and would have aces to commerca finacing. Ihe remaining enterprises would be liquidated. 129. At the same time, there will most likely be cases (for example enterprises witi substantial excess labor, or those in particularly depressed regions of Slovenia) where some phasing of the adjustmet process could prove necessary. In order to strictly limit any depure from the above approach to situations where this is truly warranted, the Govnment will define, in advance, the criteria and conditions for granting exceptional support. This support will be limited in duration, be given solely for phasing the labor rationalization program, and wUi be tranched and conditioned on prior achievement by the enterprises of set tagets. 130. The BRA guidelines provide that enterprises whose debt would be restruetured must have satisfactory overall restructuring and privatization programs, including labor rationalization, and must suspend dividend payments, restrict wages, and refrain from transfer of assets to third parties. Debt restructuing would be implemented in conjunction with the transformation of the enterprises from social- ownership to joint-stock companies. The guidelines will also help ensure that the banks do not take excessive risks in the restructuing of problem debtors and that the future performance of any remaining loans or Investment in these borrowers be fully accounted for in the bans' financial statements. To thi end, the guidelinis will be made consistent with the new Bank of Slovenia regulations on problem debt restructuing and extension and renewal of credit to classified borrowers, which wil be applicable to all banks and are to be adopted by end June 30, 1993. Compliance with these BRA guidelines and Bank of Slovenia regulaions will of be an indicator of continuing progress under the EPSAL program. 131. Tohe Government is also working on the development of legiaton to govetn an out-of-court conciliation process. Once enacted, this will provide the overal framework for the debt restucuring guidelines and regultions. The existing and the forthcoming bankruptcy laws allow for debt conciliaon procedures within court4led bankruptcy cases. However, the experience and the capacity of the courts in this area is still limited. The courts are unable and have no particular advantage in managing the etensive enterprise ormaton and restructring process that is to take place. They would conse- quently be dealing primarily, at this stage, with cases that are clearly on the liquidation and closure tracks. The Government plans to strengten the court system to make it into an effective and primary vehicle for dealing with issues of exit and reorganization of private sector enterprises. Legal & Reguatory Framewrk 132. The 1991 Law on the Bank of Slovenia and the 1991 Law on Banks have provided a comprehensive famework for govering banking activities and have empowered the Bank of Slovenia to regulate and supevise banks. The Banking Law gives broad powers to the Bank of Slovenia to license banks, specify minimum entry capital, define a bank's scope of activities, and assess the qualifications of potentia owners and managers. The Law provides a minimum 6.5% capital adequacy requirement and a maximum exposure limit of 30% of capil to any individual borrower. Investment in fixed asse and in paricipations (other than those to be consolidated) is limited to 100% of the capital of a bank. The Govemment is submitting to Parliament amendments to this law which wfll improve bank governanc (by making boards accountable for oveseeing management and for compliance with laws and regulations), limit equity investments, limit ewposures to groups of related borrowers, increase entry capital and upgrade capital adequacy requiements, and empower the Bank of Slovenia to prescribe bank 38 accounting rules and auditing requirements. Adoption of these amendmrens is a condition of second trache reease of this loan. 133. Based on its regulatory authority, the Bank of Slovenia has already established licensing procedures, minimum capitl adequacy rules, external auditing procedures and loan classification and provisioning guidelines. It is issuing improved regulations in order to strengthen the guidelines for loan classification and provisioning, introduce interest suspension, and upgrade the capital adequacy rules to a level that is compatible with international standards. Application of the new rules by alU banks will be an indicator of contnuing progress under the EFSAL program. 134. The Law on Rehabilitation, Bankruptcy and Liquidation of Banks was also introduced in 1991. Tlis law empowers the Governor of the Bank of Slovenia to initiate pre-rehabilitation procedures for banks with potential losses in excess of 30% of capital and fiul rehabilitation measures when such losses exceed 50% of capital. In exercising its mandate to implement bank rehabilitation, this law also empowers the BRA to: take over banks, suspend management, supersede the rights of owners, wreoff losses against capital, assume losses, and recapitalize, merge or privatize the banks. The Government is submitting to Parliament amendments to this law which will eliminate the present 1 % limit on the share of any individual owner and authorize the Bank of Slovenia to provide temporary liquidity support for BRA operations. Amendment of the Rehabilitation Law and adoption of new governing legislation on the BRA reflecting its expanded role and responsibilities are conditions of second tranche release of this loan. Bankg SWerislon 135. The Bank of Slovenia established a bank Supervision Department at the beginning of 1992. This department currently monitors banks based on prescribed reports and information produced, annualy, by the banks and their external auditors. Supervisory activities are presently limited to off-site surveillance. 136. To ensure an effective supervision process capable of assessing and monitoring the financial condition of banks and the stability of the system, the Bank of Slovenia is adopting an instittional plan that will speed up the development of off-site and on-site supervision. This plan will aim at: (i) improving bank reporting by, inE "im, prescribing accounting rules compatible with international standards, Qi) upgrading the presen computerized system to provide for more timely and accurae performance reporti, better monitoring of risk exposures, and an early warning system, (iii) development and implemeaton of on-site examination methodologies, and (iv) recruitment of adequate staff and development of an appropriate training program. The technical assistance component of the loan provides US$0.6 million to help finace a training program and an expert in banking supervision who would, in ii, assist in developing on-site examination methodologies (about two years) and short-term consultants in other special areas and an expert in accounting and reporting requirements. Achievement of satisfactory progress in development of off-site and on-site supervision will be an indicator of continuing progress under the EPSAL program. Bank Prlvatzaon 137. In order to achieve the uldmate goal of the Bank Restucturing Program of privating the banks, it is critical th the supervisory capacity of the Bank of Slovenia be built up, in the shortest possible period, to a level which would enable effective regulation and surveillance of a private and a more 39 sophisticated banking sector. Presen d&,ositors may be cosidered prime candidates for fuwre bank ownership. In some cases, managers and staff could also be offered the opporunity to invest in the banks. The authorides should vigorously pursue and aim to attract and selezt quality investors with financial clout and proven managerial ability, before pressure is built up to disinvest from banks and accept excessive participation by non-financial companies. 138. The authorities are in the process of defining the basic elements of a bank privatzation strategy. This strategy needs to be consistent with the legal framework for banking and with the licensing policy followed by the Bank of Slovenia. At the minimum this strategy should specify: (i) the minimum requirements for potential investors; CiH) maximum levels of foreign versus national ownership in the banking sector; (iii) conditions under which domestic banik can takeover or merge with problem banks; (iv) the desired distribution of ownership in individual banis; and (v) price vsu non-price consider- ations in the selection of investors. The Bank Rehabilitation Agency would be privatizing banks in line with the strategy for bank privatzation set by the Government and the Bank of Slovenia. Their goal will be to limit to no more than two years the process of rehabilitation of any bank before proceeding with privaization. To assist them in the privatization of large strategic banks, they intend to retain the services of investment bankers or similar experts. The technical assistance component of the loan includes about US$0.3 million to BRA, to finance a banking expert for about 18 months to provide advice on strategic issues in bank reform and restructring, including the development of privatization schemes. Ihe Governmen intends to develop the core elements of the bank privatzation stategy, by mid-1994. Privatzaion of at least one bank and development of the core elements of a privatization strategy for banks under rehabilitation are conditions of second mnche rlase of this loan. D. Labor Market Adjustment and the Social Safety Net 139. Another integral component of the reform program aims at facilitating labor market adjustment, and at establishing a viable and efficient social safety net. As a result of the significant legal and institonal dhamges which have been introduced since late 1989, the Slovene labor market has undergone a major transformation. The Yugoslav Federal Labor code of October 1989, whose provisions were adopted in the Slovene Labor code of April 1990, gave employers for the first time the right to lay off workers. Since tiat time, there has been a major shift in labor force allocation and a significant reduction of surplus labor in the enterprise sector. Social sector employment which accounted for almost 85% of total Slovene employment in 1988, decreased by about 18% from end-1989 to end-1991; and the most notable consequence from the shedding of labor from the social sector, so far, has been a dramatic increase in unemployment: from a very low level of 2-3% in the late 1980s to the current level of 13.5%. 140. The Govemment's labor market and social safety net policies comprise three interreled elements: reduced restictions on hiring and firing workers; adequate assistance to the unemployed; and active labor market policies. The 1991 Slovene Labor Code reduces the period of notification required prior to laying-off technologically redundant workers, from 24 months to 6 months. Redundant workers can be reassigned, given early retirement, or compensated at the minimum wage for up to six months before they are formally laid off. The Law on Unemployment Insurance, also adopted in 1991, provides unemployed workers with entitlement to unemployment compensation, training, assistance for relocation, and up to one year of health iinurance following which the unemployed workers' access to the health system is govened by the socW assistance program. Under the same law, workers can also coUect capitalized unemployment compensation as a lump-sum payment if these funds are to be used for strting new businesses or for gaining new employment. To return the unemployed into the productive labor 40 force or to maintain employment, the Govemment has been inplementng a variety of active programs, Including agessive training programs for the unemployed; cash grants for new hiring, subsidies to maintai existing jobs, public employment programs, micro-enterprise incubator programs, and advisory services for self-employment. For those who remain unemployed after expiration of all unemployment benefit there b aces to a soci assistance program operated by the Ministry of Health and Socia Services. Cash benefit under this program take into account family income from all sources and could include a child-care allowance, and are revised semi-annually to ensure that families can cover minimum costs. 141. There are sdll, however, several shortcomings in Slovenia's current labor market and social safety net policies. Ihe Labor code sfill imposes serious costs on enterprises for laying-off workers, and thus could: discourage employers from attempting to become more competitive by improving productivity and reducing cost; deter new job creation; and force firms, that might otherwise be able to restructure successfully, towards bankruptcy and closure. Moreover, while most of the active labor market policies have proved to be highly useful in increasing employment, other policies, most notably the subsidies to mainain existing employment, are counterproductive and fiscally costly. 142. The Governme intnds, within the oveail framework for enterprise restructuring and privazion, to further strengthen those measures that would facilitate the adjustment in the labor market and to appropriate adequate budgetary funding for the incremental cost resulting from the implementation of the reform program. Specifically, in order to facilitate efficient labor reallocation, the Goverment intends to firther simplify layoff procedures, and reduce the burden on enterprises in financing redundant workers by shortening the period of prior notification for layoffs to 4 months. The Government is also committed to suspending subsidies for job preservation, and reducing subsidies for early retirement. They expect a furher increase in unemployment in 1993 (of bout 30,000) as a result of enterprise restrucwtring, and have planned to cover the increase in the cos associated with unemployment benefits and active labor programs (Table 12). About US$0. 1 million is provided under the technical assistance component of this project to carry out a study to help improve the effectiveness and efficiency of the MOL's program, dealing with the impact of enterprise transfomaon, including the possibility of ma layoffs. 143. During 1994, the Government intends to continue providing sufficient fiscal support to the relocation of labor and the safety net, while makdng efforts to streamline and iegra all the individual programs. They Iend, inx aim, to reduce significandy the maxinum duradon of the unemployment ince period (currently 24 months), by shortening the period for which an unemployed person is enttled to unemployme assistance to 6 months regardless of years of employment. They intend also to limit the maximum unemployment insurance benefit to a level below the current level of four times the mininmum g wage, and restrict eligibility criteria to reduce waste. They also inte o eliminate any overlapping between the unemployment insurance program and the social assistance program. Support to those who remain unemployed beyond the reduced period of insurance will be provided by the social sis e program only, and will consist of means-tested benefits based on family size. 41 E. PoUtlcd and Sodal Feasibility 144. Prior to Independence, the intellectual and political leaders of Slovenia were at the forefront of the effort to liberalize and reform the Yugoslav economy through transformation of the system of social ownership and restructuring of the financial sector. Since independence, privatzation and finacial sector reform have become major objectives of all major political parties. 145. Although the implementation of these reforms have been slowed by the turbulence that accompanied the independence process and by the political jockeying that folowed independence, this time was also put to good use in debating and reaching a practical consensus on some of the most sensitive elements of the political and social dimensiorns of the reform. This is evidenced by the agreem on the privatization fiamework which was preceded by intense debate on the equity, distributive, and other dimensions of the privadzation. This is also indicated by the progress achieved on wage policy issues. Moreover, there is a clear recogniton among all major political pardes that the reform must now move ahead without delay. The success of these major parties in the elections have enhanced the possibility that the Government will be given the mandate and will have the credibility to proceed with vigorous implementation of the reform program. 146. The popuation will of course feel the strains of the adjustment; but there are good reasons to believe that the reforms can be socially sustained. The duration of the adjustment period need not span more than two years provided that the reforms are implemented effectively. During this short period, unemployment should not increase by more than an additional 3% above the current level, and should decline thereafter with the resumption of growth. Moreover, even with the rationalization of the xising generous provisions of the social safety net, the programs that will be in place should sufflciently cushion the hardships that will be experienced by the Slovene population from the expected labor market adjustment. 42 V. The Piroposed Lam A. Loan Amounmt and lbrowe 147. nbo proposed Bok loan, in the amount of US$80 million equiat, wfll be made to the Republic of Slovenla for a period of fifteen years, inluding five yeas of gra, at the Bans standard variable interest rate. B. Lem Dedi and Componets 148. The prncipal objecdve of this loan is to provide timely and responsie support to Slovela's effort to implement dfectiv refm of its enterprise and fincial sectors. Ihe loan will itate ente4pise prkvazatlon and restuctug, and accelerate te deveopment of a strong and suportive financial sector. Ibo loan will have a policy compone and a technical assistace component. 149. ThePoUiCompo (US$75 milon)wllprvdefast-dibursngfindsfobance-ofpayments assistac in support of the Govenmens ovell economic refom program. The Government, In coopertion wit the Bank and the IMP, will aim at maintainin a stable macroeonomic fimework witin which essential structral reforms can be implemented. lbe main emes of the reform program include: Q) refom of the enteprs sector Icuding prvatiatlon of socially-owned e0nies, refm of ownership and governnc of sta-ow ed e es, Ip n of programs to stem entepise losses, and private sector developmen i) reform of the banking sector Including bank retucbtg, e cent of the reg uy framework for baking, and bank privaz ; and (Ill) labor mare adjusme and strengtening of the socia safety net. Ihe program linls these th elements in such a way as to solve h&berited problems in e enterprise and banking sectors, drive the process of enterpis ector restrucui hrough eneqpise privahao and lqudation, reform the financial system and help enure st b of Xe res. 150. The TedJcAl Asista Coent (US$5 million) will provide fiacing for long term advisors, short term consultats and t in core ars essenta for successfil Imlentation of the Govenmet's reform pgram. k wi compdse, ni a. (a) help to snen the m finawork by providig anto the Mistry of Finance to cary out a study and prepare an acdon program for medium-term pension refm, and to support the Tresury Department in the establishment of priay and secondary m for public sector securites; ,o) support for bang sect restrcx t toug () suo to the Bank of Slovenia for th Ientation of its plan to acceere the development of off-si and on-site s vision; (ii) as e to the Bank Rehabiitation Agency in carying out its bank rstrctuing pror, including specific support for the istuiona segteing of Lublijanska Baks dd; and (i) provison of expets to assist in the debt recovery process; (c) assistanc for enterpise reorm nad prvaza trough: ( suWort to the Prhvatzon Agency in developing procedures for differet metods of privataon and in the first priVatizat1o-- through iial public offerng; O) support to tha Mistry of ndusty in developing a coherent strategy for indust developmen and in beghning il nIon of the most cric actons evisged under ts saStegy; and OM surt tD dth Miny of Labor to enhanc its progrm for deding with the impact of the restructuring of to entewrie sector, including the possibility of mas Isyoffs. The techal sista component aes into acount d complement support being provided by other mulll and bilater 43 donors. Details of this component, together with a breakdown of estimated costs, are given in Annex 4. C. Monitoring Arrangements 151. The authorities are aware that achieving the ambitious objectives of the reforms would require a major implementation effort (including technical assistance support) and close coordination of Government and Bank of Slovenia actions and policies. They have recognized the importance of such a concerted effort by setting up a high level interagency counterpart team that has been coordinting the program and the dialogue with the Bank. This team will remain in place during implementation of the program to ensure successful execution. D. Lending and Administrative Arrangements 152. The Nmistry of Finance will administer directly the fast-isbursing fimds. The technical assistance fimds will be made available by the Government without cost to the beneficiary agencies. The Mimistry of Finance will be responsible for the management and administron of these funds, while implementation of the various activities will be the responsibility of the recipient agencies. The closing date of the loan will be December 31, 1995. E. Procurement and Disbursenents Procurement 153. Fast-Disbursing Componen: The loan will finance 100 percent of the CIa cts of general imports and related services, excluding luxury goods, military equipment, mnclear reactors and parts, uranium, tobacco, and environmentlly hazardous products defined under the Standard International Trade Classification. 154. Imports made by government agencies, public enterprises, and private importers for US$5 million equivalent or more per contract will be procured in accordance with simplified Interational Competitive Bidding (ICB) for which the Bank's Standaid Bidding Document for Goods will be used. 155. Contracts for commodities in excess of US$5 million each will be awarded following the established commodity market practices provided these practices are found acceptable by the Bank. A detailed description of these practices for each commodity that the Borrower would propose to finance with the proceeds of this loan will be prepared and submitted to the Bank for its prior review and acceptance. The Bank's Standard Bidding Documents for Commodities will be used for these items. 156. Contracts estimated to cost below US$5 million each, both for the public and the private sectors, will be awarded on the basis of evaluation and comparison of quotations obtained from three suppliers from at least two eligible countries. Direct contracting.(single source purchase) will be allowed only for proprietary items or where the need for compatibility with existing items calls for standardization. 157. Procrement will be coordinated by a two-member loan aministation team which has been established in the Ministry of Finance. The team members will be provided necessary training both in procurement and disburement. This training will be completed before loan effectiveness. The MOF team will provide bi-annual progress reports on procurement activities to the Bank. 44 158. Conracts below US$10,000 will not be eligible for Bank fimancing. Tis threshold is consistent with satisfctory access by small- and medium-size importers, and the operation will still remain manageable from an administrative point of view. Retroactive financing would be acceptable up to US$15 million (20% of the quick disbursing component) for eligible imports paid during the four-month per preceding loan siging. 159. Techncal Assiance: Procurement for technical assistce contracts would follow the World Bank guidelines for contracing consultant services. Ihe total amount allocated by the Bank to this component is US$5 million equivalent, which would be broken down as follows. Five conltr (about US$1.3 million) for long-term advisors and two contracts (about US$1.0 million) with firms. It is planned that the long-term advisors will include one in bank supervision for two years, one in bank restructuring for 18 months, and three of one-year each for debt recovery/workouts. Contracts with fims would be for LBdd's institutional development plan and one for banking experts. Severa (short-term) contrcts for a total value of about US$2.5 million will be awarded to individual consultants and an allocation of about US$0.2 million has been made for training purposes. 160. Terms of reference for most major assignments have been prepared. Selection of consultas for these assiment is expected to commence during August/September and the initial assignments, particuLarly in regard to advisors on privatization and for bank restructuring and supervision, are expected to begin in October/November 1993. The local consulting profession is well developed and is expected to participate in certain assignments. Retroactive financing under this component would be allowed up to a maximum of US$500,000 for eligible expenditures incurred after April 1, 1993. Almost 90% of the technical assistance component is expected to be disbursed by end-1994. The balance is primarfly to cover the two-year contract of the bank supervision expert and is expected to be disbursed by end-1995. 161. Documentation for all consultants' services valued at US$100,000 and above, and for all contcts wih didulsu regardless of value, would be subject to the Bank's prior review and approval. Couracts with firms valued at less than US$100,000 would be subject to post-award reviews by the Bank. However, terms of r-4rence ft r each assignment would be approved by the Bank. Dlsbwrsements 162. The fast-disbursing component of the loan would finance 100% of CIF costs of eligible imports and related sevices. Disburements would be made on the basis of documented withdrawal applications except for expendtum below US$5 million, which would be based on st=tement of expenditure. These sttments would indicate the origin of the goods, invoices, customs declarations and evidence of payment and would be availale for review by Bank supervision missions and externa auditors. 163. For the teical assistance component, proceeds of the proposed Bank loan would fnmce up to 100% of expenditures for consutant' services and traiitg. Witdrawal applications would be fuly docunted, except for expenditures against contracts valued at less than US$100,000 equivalent, which would be made on the basis of cerdfe saemen of expenditure detaiing the individual otrsactons. The mn to support thes expnditures would be retinled by the WMintry of Finane for at least one year aftaer receipt by the Bank of the audit report for the year in which the last disbursement was made. TMhis do=eton would be available for review by Bank supervision missions and extal auditors. 45 164. To faia disbursements againt the tchcal sitce component, a Special Account would be established and mantained in a freely c&-uvertible currency in a bank acceptable to the Bank. The authorized alocation of this account would be US$500,000. At the reqtiest of the Borrower, the Bank would mak an Iiti deposk Io the Special Account, up to the amount of the authorized allocaton. Applications for replenishmen of the account would be submitted quarterly, or when onethird of the funds have been disbursed, whichever occurs earlier. Documentaion requirements for replenishment applications would follow the same procedure as described in para. 163. In addition, quarterly bank statements of the Special Account which have been reconciled by the Borrower should accompany all replenshmet requests. F. Accounts and Audits 165. All account on the operations under this loan, the Special Acounts, and the Statements of Expenditure will be audited at the end of each fisca year by independent auditors acceptable to the Bank. Arrangemets for auditing have been assessed and found to be satisfactory. The accounts and auditors report would be submitted to the World Bank within six months of the end of the fiscal year. G. Environmental Assessment Requrements 166. In acordance with the Banks Operational Directive on Environmental Assessment (OD 4.01, Annex E), the proposed operation has bean placed in category 'C" and does not require anen assessment. EL Release of Funds and Tranhing 167. It is prposed that the fist-disbursing component of the loan be disbursed in two trnhes; a first tranche of US$35 mfllion will be eligible for disbursement upon eftiveness of the loan. A second tranche of US$40 mfllion would be eligible for disbursement upon satisfaction of the proposed conditions of its release, as detailed in the Matrix of Key Policy Actions (Annex 3). Ihe two tranches are expected to be about one year apart. I. and Risks 168. Given Its preent stage of developmen and the skill of its people, the reform program to be supported under this loan, If succsfully Implemented, will ena-e Slovenla to make an effective and tapid transition to a market economy that could serve as an example for other transforming countries in Central and Eater Europe. The technical assistance to be provided dtrough the loan will support the Govenment and Slovene nstions in impl g this economic transfomation With privation of most of the aisng socialy-owned enterprses, tesolution of t problem of bank portfolios and enterprise debt, establishment of a competiive, sound, and stable banking sector, effective govance and regulto of a simmed down state-owned enteris sector, and institution of a comprehensive framework for private sector actvities, Slovenia will very likey achieve a rate of economic growth and the increasingiy stronger ties with West European counies, hat are the prime objectves of its economic stratey. 169. The main rsks aociated with the program relat to the political and social facts which may cause partia or low adjusmen of the necessary macroeconomic policies and fragmentary Implementation of the reform. ITis would most likely lead to higher rates of inflation and unemployment and to lower 46 leveS of inVestment and gowth. However, the suwce ImOf Monay, the teen adopti of maor privati and bak g le, and the refom agendas of the main politcd Pates tht o th majority in the ww Paiment ate to t he on of the politc leadhip ad to the upott of the population for preing ed with the rems. Uwee is naurally a rea risk tha popula support cmn be eroded as the socia cos of fth adjustment increasm over the coming two yes. However, hs risk sem to be controllable given the relative eau of communication within the country, the epected short duronD of tie adjutme period, and th socil safet net tha Slovenia has already In place. 170. 1 am satshfied ta the prposed loan cod comply with th Aticles of Ageemen of the Bank, and I rcommend iha the Executive Directs approve the proposed loan. Lewis T. Pston PAident Wahington DC June 22, 199 47 ANNEX I STAT=ICAL TALES 48 PaP 2 of 9 TABLE 1 MAIN ECONOMIC INDICATORS, 192-2000 92 I93 V 4 19s 196 997 199 999 2000 GDP (USS mions) 11439.6 12327.9 140.6 1444.8 15634.4 17046.6 185513 20195.4 21897.9 GDP Per Capia (USS) 5719.8 6164.8 67163 7224.0 7818.3 85U24.6 97.0 1009.2 10950.6 REAL PER CAPITA GROWTH RATES: Private Comption -5.6% 2.6% 33% 3.4% 5.0% 4.4% 3.3% 3.9% 5.4% Grosa Domestic Produ -6.5% .0.5% 2.5% 4.0% 4.5% 5.0% 5.0% 5.0% 5.0% GROWTH RATES GDP .6.5% -0.5% 23% 4.0% 4.5% 5.0% 5.0% 5.0% 5.0% Consumption -1.9% 3.2% 3.2% 3.4% 4.9% 3.8% 3.5% 4.0% 53% lvestment -19.4% 40.1% 13.0% 12.4% .95% 6.7% 7.9% 5.5% 5.6% Epos (MxcL YUg.) 11.4% 0.5% 2.0% 3.0% 4.0% 5.0% 5.0% S.0% 5.0% mpopts (cxcL YUg.) 4.7% 6.2% 6.2% SA.1 4.7% 5.1% 5.1% 5.0% 5.0% lnftion 92.9% 25.0% 1S.0% 10.0% 8.6% 8.0% 73% 6.6% 63% RATIOS TO CURRENT GDP 1. REAL SECTOR. Total Consumption 74.1% 773% 77.7% 77.0% 76.9% 75.8% .74.5% 73.6% 73.6% Publo 7.8% 8.5% 8.5% 8.S% 8.5% 8.0% 8.0% 8.0% 8.0% Private 66.3% 68.8% 69.2% 8.5% 68.4%. 67.8% 66.5% 65.6% 65.6% Gass Fixed bnwasmm 16.6% 16.7% 18.3% 19.8% 20.7% 21.0% 21.6% 21.7% 21.8% Public 3.8% 3.8% 4.2% 4.5% 4.5% 4.5% 4.5% 45% 4.5% Enterpriss 12.8% 12.9% 14.1% 15.3% 16.2% 16.5% 17.1% 17.2% 17.4% Prate 5.8% 7.7% 10.2% 14.0% 16.2% 16.S% 17.1% 17.2% 17.4% So"l 7.0% 5.2% 3.9% 1.3% 0.0% 0.0% 0.0% 0.0% 0.0% Total Expots, 01w? 62.7% 56S% 54.8% 54.6% 53.6% 543% S5.0% $S.8% 5S.8% exL Yug. Rep. 45.9% 46.0% 44.8% 44.6% 44.6% 44.6% 44.8% 44.9%. 45.2% Total Impots 53.1% 51.2% 51.5% 52.0% 52.0% 51.9% 51.9% 51.9% S2.0% mcL Yugi Rep. 39.5% 42.2% 42.5% 43.0% 43.0% 42.9% 42.9% 42.9% 43.0% Domeso Savig 25.9% 22.7% 22.3% 23.06 23.1% 24.2% 2S.5% 26.4% 26.4% 2. GENERAL GOVERNMENT Total Reaue 47.5% 47.0% 46.0% 45.0% 44.0% 44.0% 4.0% "0 44.0% ToWl E3xNd 47.1% 49.0% 48.0% 46.5% 45.2% 44.5% 44.% 44.0% 44.0% DoW-Y8 )rpW() 0.4% -2.0% -2.0% -1.5% -1.2% -0.5% 0.0% 0.0% 0.0% 3. BALANCE Ot PAUENS Cur. A. BaL (% of GD) 63% 33% 1.9% 1.4% 1.5% 1.7% 2.0% 2.3% 2.7% Debt Stok (mL. SUS) 1741.0 2044.1 20.8 '2106.0 2084.4 2018.1 1935.5 1780.6 1621.0 of which:iUallocated Debt 465.0 400.0 335.0 270.0 205.0 140.0 75.0 10.0 Exral DeWGDP* . 14.4% 16.4% 15.4% 14.4% 13.2% 11.7% 103% 8.7% 7.3% Rs. in moaths of lmpor 2.9 3.5 4.0 43 4.5 4.6 4.8 3.0 5.2 tIncld Slove's _udimated shar of unalocaed Yug 's debt saing I993. 49 A=a Pagp 3 0f9 TABLE 2 SUMMARY OF GENEAL GOVERNMENT OPERATIONS, 1992-95 (Pecnt of GDP) 1992 1993 1994 l995 ____________ ____________ ___________ A cta l Bd get PzojcaWd Phdojea d L TOTAL REVENUES 47.5 47.1 46.0 4S.0 1. Tax Reven= 21.9 221 22.1 22.1 2. Soal Secuiy Coantuulow 23.0 22.2 21.0 20.0 3.. No*-Tax Revues 2.6 2.9 2.9 2.9 I. TOTAL ITUIBS 47.1 49.1 48.0 46.5 1. PeWns Fund 13.0 14.1 13.1 12.0 2. Healfh Fund 7.4 7.3 7.1 6.5 3. Solidaiy Fund 0.4 0.1 0.1 0.1 4. Otbhr Bqmd&sus (Sta + Loa Budgets) 26.4 27.6 27.7 27.9 4.1.F al Suppo to Enoic RatueRAing 2.1 4.2 S.4 S.4 BankRa*ucoming 0.0 0.8 2.3 2.3 EMn7dw Reseooba'mg 03 1.2 0.9 0.9 Social Saty net 1.7 2.1 2.2 2.2 4.2.0ther EV=fm (SoW + L:ocal Bud8") 243 23.4 22.3 22.5 Wags and Purohases of Goods an SeWIs 8.0 8.4 8.0 7.7 Social Trasks, Subskdis, h neste Other 16.3 15.0 14.3 14.8 IL GENERAL GOVERNMENT SURPLUS(+)IDEFCICr-) 0.4 -2.0 -2.0 -1.S MMORANDUM ITEM: PUBLIC DEBT (% of GDP) Total :ub&U Debt 30.9 Dometi 23.0 ForEbi 7.6 Alocated 3.7 Sgoiafs Sha r of UEgd R 3.9.. 50 m 4Pof 4of TABLE 3 SLOVET- FICAL SUPPORT * 1O BANIK AND 3B3TRUCTUJRN AM TIM SOAll 8SAP NET. 1994 192 U994 19 993 994 1995 Dgslnbw 1992 du Fam oDP L TOTAL (U+M+v) 24840.0 4987S.0 457.0 65881.0 2. 4.2 5.4 S4 IL BANK RESTUCTURING 0.0 9950.0 27715.0 2820.0 0.0 0.8 2.3 2.3 1. Cove4gpotLmoRebd to 0.0 4440.0 840.0 3575.0 0.0 0.4 0.7 0.7 PouIdp Cu 9o DVpsit 2. Covuagof Loama Reb to 0.0 5400.0 39.0 1900.0 t0 0. 1.6 1.6 Non ctkzulnS Loam 3. AMhn oadve Costa of BRA 0.0 110.0 115.0 120.0 0.0 0. 0.0 0.0 ENTERPRE E UCR 3915.0 14507.0 108S.0 10732.0 0. 1 0 0.9 1. Et38ofStd S732.0 457..0 698.0 6 0 0.3 0.5 0.6 04 23, Re*u*Mins ofQWmoo0.0 430.0 1240.0 1240.0 0.0 0.5 0.1 0.1 3. Rekso Ra183.0 1120.0 1130.0 1160.0 0.0 0.1 0.1 0.1 4A Omal _ 6 P0.0pdn ReftuoWf0.0 500N.0 0 1500.0 0.0 0.1 0.1 0Q IV. SOCIAL SAUETY NET 209-0 25411.0 26004.0 2684.0 1.7 2. 2.2 2.2 EIENDITURES DJRBC?Y RATED TORUC 1. Acdve Pioun 80. 11041.0 1148.0 12043.0 0.7 09 1.0 1.0 2. Paoive Psoam 12419.0 1431.0 14.0 14811.0 1.0 1.2 1.2 1I Man. bm GDP (DLosmbe 19 PMA) 1199000 180 12 1225000_ 51 A09 Pope S of 9 FICAL SUPPORT TABL BM IAD INTERPRLB URThUCMtUING, I19923 Numberof a Imn 1992 1993 St". . Aes Da Budpt .________________________ (%of GDP) (%ofGDP) L TOTAL (1 + ) 0.3 2.0 .L BANK DISTCTURINO 0.0 0.8 1. Covso of Lese Rdeod to 8678 0.0 0.4 Col mweny Dq 2. CovX. of ese Reltd to 8679 0.0 0.5 3. AdInibatie R Cob of BRA 1824 0.0 0.0 DL ENTERPRISE fUCRNG 0.3 12 1. Rbo4t d 9o S seel 0.0 0.5 I.1Bond 8680 0.0 0.1 12BDm g6 0.0 0.4 2. Rafte*mbs ofF_ Mk0.0 0.1 2.1.CodlMes 1312+1313+1357+1358+1359 0.0 0.0 2±Odw _ Mi. 5186 0.0 0.1 3. RaeqoWft of bvz R&Rwqs 0.0 0.1 4. Ruftuchmigg ofP orWqdw 0.3 0.5 4.1.Mou its 1(GemI 8677 0.0 0O 42.Bond 1t 2 (CoWmg 2don foe Ogvwuado) 7506 0.1 0.1 4.3.Dnd R 3 (N n_ oof RV*%" 867 0.0 0.1 4.44dShee t?o U@psse 1731+5501 0.0 0.1 4.S.upoetlb Now Sad Eaqde 1820-+564 0.0 0.1 4.6.Suppoat to TeehdSlogiuhl Development =I7I+7178+7118 0.1 0.1 Aui 52 pap 6 of9. TABLE 5 PISCAL SUPPORT TO THE SOCIAL SAFErY NET, 99243 Number of Rmn In 1992 1993 Soft Budgnt Ahtd Drft BudSt (% of GDP) (% of GDP) L SOCIAL EXPENDITURE-S DECTLY RELATEDTO 1.7 2.1 ECONObUC RESTRUCTURING ( I D+ . IL ACTVE PROGRAMS 0.7 0.9 1. General Taining and Retrdinig Progrms 7023+K6S+7027 0.1 0.1 2. SelfEmployment Andsts-io 8666+S674 0.0 0.1 3. Seance Paymwetedundant Woars) 7035 0.2 0.2 4. C-Pmancing of Job-Credaon 7024+7025+7030+7031+7033+7034 0.4 0.2 S. PubicWo 7029 0.0 0.0 6. Retriing of Mine (Coal and Uraium) 5191+5192 0.0 0.0 7. Development Fund Pmogaun SS64 0.0 0.2 DL PASSIVE PROGRAMS 1.0 1.2 I. UneampYment Bnfit 1826+1836+7020 0.6 0.7 2. Lump Sum PaymCen fr Self-Emp _ymat 7021 0.0 0.0 3. UnemplymedtAssisance 7022 0.2 0.3 4. PUbse of Woding Yar br Eary Retemenet 7028 0.1 0.0 5. TemPorary SOCial Benefit 7017 0.0 0.2 EMORAI4DTJMrITEM: SOCIAL EXPeNDIT NOT 2.6 2.9 DIRECTLY RELATED TO ECONOMbC RESTRUCTURJNG 1. Matenity Loeve 7011 0.8 0.8 2. Chd A _owsne 7013 +7014 0.5 0.4 3. Schoarshp Group D. 0.4 0.4 4. Social Assi8uw *7016+8S03+7018 0.1 0.1 S. Trandfm to Paulo, Fund 1293 0.0 0.6 6. dsandVets benefits 706 to 7048 0.3 0.3 7. Artht Beneft 7049+7052 0.0 0.0 8. SpotmnBeneSfi .72254 7226+7227 0.0 0.0 9. Priem Beft 5236 0.0 0.0 10. Oter Social BenPt 7032 0.5 0.2 53 Page 7Of 9 TABLE 6 NATIONAL ACCOUNTS IN CURRENT AND CONSTANT PRICES (SiT mIlion.) 992 1993 1994 96 1 1998 1999 2000 IN CURRENT PRICES Gross Domesto Product 982500.0 1353231.6 1739445.5 2057998.5 2330344.9 2653259.8 3003513.1 3371495.2 3762064.6 Total Consumption 728265.4 104622A.6 1351907.1 1583849.6 1793179.5 2012245.4 2238580.2 24*1875.0 2768574.0 Government 76635.0 115024.7 147852.9 174929.9 198079.3 212260.8 240281.0 269719.6 30095.2 Private 651630.4 931200.0 12040543 1408919.7 1595100.2 1799984.6 1998299.1 221215.4 24676089 Total'lavestment 160095.0 235001.6 330463.6 419407.0 498948.5 576407.3 672784.9 758167.0 851419.8 Groas Fed K Formnaton 163095.0 225529.0 318287.5 407059.0 482636.1 557834. 64S756.8 731195.0 821323 Govement 37095.5 514243 72757.2 92225.5 104394.3 118802.4 134476.7 150939.6 168534.5 Publio Non-Oovemment 69293.5 70370.1 67560.2 26642.9 232.0 264.0 298.8 335.4 374.5 Private 56706.0 103734.7 177970.1 288190.6 378009.8 438768.1 513981.3 579920.0 652414.2 Change in b _etrie -3000.0 9472.6 12176.1 12348.0 16312.4 1SM.S 24028.1 26972.0 30096.5 Ttal Exports 615971.2 764824.9 9S3472.8 1124647.0 1249371.7 1441684.8 1651083.2 1880364.4 20983242 Outse Yugoslavia 451103.2 622735.5 779528.2 918847.2 1039640.7 1184318.6 1344724:9 112871.5 169945.4 Totul fipots 521831.6 692819.5 896398.0 1069905.1 1211154.8 1377077.7 1558935.1 1748911.2 19562S3.4 Outde Yugodavia 388413.6 571028.7 739S47.9 884685.2 1001423.7 11382843 1288619.0 1445476.6 1617667.6 IN CONSTANT M2 PRICES Gos Dometn Product 98500.0 977840.1 1001805.1 1041819.7 1088847.9 1143433.1 1200957.8 1261590.5 1324813.0 TOt Conumpion 728265.4 751742.7 775812.1 8071.3 842030.7 873623.4 90424S.5 940848.6 99092 Govenment 76635.0 83116.4 8S153.4 88554.7 92552.1 91474.7 96076.6 100927.2 105985.0 Privat 651630.4 668626.3 690658.6 713816.6 749478.6 782153.7 808168.9 839921.3 884947.2 Totl Investmeat 160095.0 169806.4 191108.6 213201.3 234184.9 249647.7 270376.8 285162.6 301177.1 Gros Fed K Formaion 163095.0 162961.8 184067.1 200243 226528.5 241603.6 260720.5 275017.8 2905.9 Govement 3709S.5 37157.9 42075.8 46881.9 48998.2 51454.5 54043.1 S6771.6 59616.6 Publi Non-Govenmnt 69293.5 50847.7 39070.4 13543.7 108.9 1143 120.1 126.2 13. Private S6706.0 74956.1 102920.9 146498.7 177421.5 190034.8 206557.3 218120.1 230781.9 Changes i Inenoes -3000.0 6844.7 7041.5 6277.0 7656.3 8044.1 96563 10144.7 10646.2 Total Expo 615971.2 556633.0 565457.4 583017.8 595377.2 632757.1 66991.0 711623.1 742047.8 OutiO Yugoskvia 451103.2 453.6 46229.5 476331.0 495431.7 519798.8 5456743 572S45.6 601074.3 Totl Impots 521831.6 500342.0 530573.0 556770.6 582744.9 612600.0 643655.6 676043.8 709344.2 Outside Yugoslavia 388413.6 412386.8 437911.9 4603S3.6 48133.2 S06371.6 532047.0 558750.8 586571.8 54 AM1 Page 8 of 9 TABLE 7 NATIONAL ACCOUNT IN CURRENT AND CONSTANT PRICES (% of GDP) 1992 3 9 19 1 1998 1999 2000 IN CURRENT PRICES Gross Domest Product 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Total Consumpdmon 74.1% 77.3% 77.7% 77.0% 76.9% 75.8% 74.5% 73.6% 73.6% Government 7.8% 8.S% 8.5% 8% 8.5% 8.0% 8.0% 8.0% 8.0% Privato 66.3% 68.8% 69.2% 68.5% 68.4% 67.8% 66.5% 65.6% 65.6% Totalinvestment 16.3% 17.4% 19.0% 20.4% 21.4% 21.7% 22.4% 22.5% 22.6% Gross fixd R Fornation 16.6% 16.7% 18.3% 19.8% 20.7% 21.0% 21.6% 21.7% 21.8% Government 3.8% 3.8% 4.2% 4.5% 4.5% 4.5% 4.5% 4.5% 4.5% Publo Non-Govenmnt 7.1% 5.2% 3.9% 1.3% 0.0% 0.0% 0.0% 0.0% 0.0% Private 5.8% 7.7% 10.2% 14.0% 16.2% 16.5% 17.1% 17.2% 173% Changes in Inventories -0.3% 0.7% 0.7% 0.6% 0.7% 0.7% 0.8% 0.8% 0.8% Total} Epot 62.7% S6.Si% 4.1% 54.6% 53.6% 4.3% * 55.0% 55.8% 55.8% Of Which: Outde Yugosavia 45.9% 46.0% 44.8% 44.6% 44.6% 44.6% 44.8% 44.9% 4S.2% Totdalmpot 3.1% 51.2% 51.5% 52.0% 52.0% 51.9% 51.9% S1.9% S2.0% Of Which: Ousd Yugoslvia 39.5% 42.2% 42.5% 43.0% 43.0% 42.9% 42.9% 42.9% 43.0% Domedc Savinsp 25.9% 22.7% 223% 23.0% 23.1% 24.2% 25.5% 26.4% 26.4% Neot Faorlcome 40.8% -0.9% -0.8% -0.6% -0.5% -0.3% -0.2% 0.0% 0.2% Net CumtTransfer 0.7% 0.4% 0.4% 0.4% 0.3% 0.3% 0.3% 0.3% 0.3% National Savings 25.8% 22.2% 21.9% 22.8% 22.9% 24.2% 25.6% 26.7% 26.9% Trade Bal. wih Yugoslavia 3.2% 1.5% 1.0% 1.0% 0.0% 0.7% 1.2% 1.9% 1.6% National Saving wlo Yug. 22.6% 20.7% 20.9% 21.8% 22.9% 23.5% 24.4% 24.8% 253% IN CONSTANT 1992 PRCES Otoss Domestic Product 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Total Consumption 74.1% 76.9% 77.4% 77.0% 77.3% 76.4% 75.3% 74.6% 74.8% Governuent 7.8% 8.5% 8.5% 8.5% 85% 8.0% 8.0% 8.0% 8.0% Privat 663% 68.4% 68.9% 68.5% 68.8% 68.4% 673% 66.6% 66.8% Total Investment 16.3% 17.4% 19.1% 20.5% 21.5% 21.8% 22.5% 22.6% 22.7% Gross Fixed K Fonatia - 16.6% 16.7% 18.4% 19.9% 20.8% 21.1% 21.7% 21.8% 21.9% Govcnmnt 3.8% 3.8% 4.2% 4.5% 45% 4.5% 4.5% 4.5% 4.S% Publri Non-Government 7.1% 5.2% 3.9% 1.3% 0.0% 0.0% 0.0% 0.0% 0.0% Privam 5.8% 7.7% 10.3% 14.1% 163% 16.6% 17.2% 17.3% 17.4% Changes in lnventories .0.3% 0.7% 0.7% 0.6% 0.7% 0.7% 0.8% 0.8% 0.8% Totbl Expor 62.7% S6.9% 56.4% 56.0% S4.7% 55.3% S5.8% S6.4% 56.0% Of Whic: Outside Yugoslavia 45.9% 463% 46.1% 45.7% 455% 45.5% 4S.4% 4S.4% 45.4% Total Imports 53.1% 51.2% 53.0% 53.4% 53.5% 53.6% 53.6% 53.6% 53.5% Of Which: Outside Yugolavia 39.5% 42.2% 43.7% 44.2% 44.3% 44.3% 44.3% 44.3% 44.3% 55 Papa 9 of 9 TABLE 8 BALANCE O PAYMNS (USS .. ..on 199 3.9 199 199 1996 199 199 199 2000 L CURRENT ACCOUNT 764.3 416.4 253.0 202.6 240.3 300. 382.6 475.6 5943 1. TS& EDancels 239.7 -232.1 -412.4 -518.2 -563.1 .400.6 -4353 4671.3 -701.9 Resource Biase 771.1 476.8 310.1 242.7 259.5 299.5 350.9 408.9 487 1.1. Total E s . S548.7 5742.0 6091.3 65272 7060.5 7704.1 8411.1 9178.3 10020.2 Goods 4184.1 42433 4S01. 4823.6 5217.7 56933 6215.8 678 7405.0 Non-Factor Ser c ' 1364.6 1498.7 158'.8 1703.6 1842.8 2010.8 21953 2395.5 26153 1.2. Total Inports, o/w: 4777.6 5265.2 51.2 6284.5 6801.0 7404.6 8060.2 8769.4 9537.S Goods 3944.4 4475.4 4914.0 5341.9 5780.8 6293.9 6851.1 7454.0 8106.9 Non-Faclt Serice 833.2 789.8 867.2 942.7 1020.1 1110.7 1209.0 1315.4 1430.6 2. Notactor Paynmns -92.3 -109.3 -107.0 -93.1 -74.2 .58.9 -303 1.8 43.5 2.1. Factor Receipft 72.2 92.8 118.2 147.4 171.5 193.2 217.0 243.1 273.5 intets 5S.5 76.8 100.2 126A 1473S 167.2 188.0 213.1 239.5 Ptofts 18.2 15.0 17.0 20.0 23.0 25.0 28.0 29.0 33.0 Labors' Income -1.5 1.0 1.0 1.0 1.0 1.0 1.0 1.0 1.0 22. Paaor Paymena 164.5 202.1 225.2 240.4 245.7 252.2 2473 2413 230.0 inte-et 134.6 127.1 149.2 152.4 153.7 152.2 1473 141.3 130.0 Plofits 29.9 75.0 76.0 88.0 92.0 100.0 100.0 100.0 100.0 3. ForeIgn Tranders to: 853 49.0 50.0 53.0 55.0 60.0 62.0 65.0 68.0 3.1. Goveniont 47.0 20.0 20.0 20.0 20.0 25.0 25.0 25.0 25.0 32. PRivate (AsilteN) 38.5 29.0 30.0 33.0 35.0 3S.0 37.0 40.0 43.0 II. CAPITAL ACCOUNT -5.2 .61.9 143.7 118.2 58.4 13.7 -2.6 -74.9 -79.6 1. Dirt Forei Ivestmet 109.3 100.0 100.0 100.0 80.0 80.0 80.0 80.0 80.0 2. Total D isburmmai 140.5 169.1 339.7 296.2 221.9 187.0 16.9 87.1 84.8 3. Total Amoro 255.0 331.0 296.0 278.0 243.4 253.3 245.5 242.1 244.4 IIL CHANGE IN RESERVES 797.9 354.6 396.7 320.8 298.8 314.2 380.0 400.7 514.7 TV. ERRORS At" OMIONS -38.8 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 DEBT AND DEBT INDICATORS: Exeal Debt(SUS mm;wn) * 1741.0 2044.1 2087.8 2106.0 2084.4 2018.1 1935.5 1780.6 1621.0 Itere Paymet I GDP 1.1% 1.0% 1.1% 1.0% 1.0% 0.9% 0.8% 0.7% 0.6% ExtenaIDetfXGQNMS 31.4% 3S.6% 34.3% 32.3% 29.5% 26.2% 23.0% 19.4% .16.2% Net tee PaymnXGNPS 2.4% 2.2% 2.4% 2.3% 2.2% 2.0% 1.8% 1.5% 1.3% kMmvWD e*m&1 Debt 7.7% 6.2% 7.1% 7.2% 7.4% 7.5% 7.6% 7.9% 8.0% Debt Servce Rao 7.0% 8.0% 7.3% *6.6% 5.6% 53i 4.7% 4.2% 3.7% *Inoudes Stoen's _std she of ualoctd Yug!a's debt haWg in 1993. 56 Annex 2 Page 1 of 19 THEIUE1POLC OF SLOVENIA Ministry of Fintnee mbet Juno 17, t993 INTERNATIONAL BANK FOR RECONVTUCTION AND DVLOPMENT 181 H Stv N.W. WASHINGTON. D.C. 2043 UNITD STATES OF AMERICA MR. LEWIS T. PRESTON PRESIDENT SLOVENIA ENTERPRISE AND FINANCIAL SECTOR ADJUSTMENT LOAN LETTER OF DEVELPMENT POUCY Phon.t 061 165211 a¢ et061 214 edO Annex 2 +- 57 Page 2 of 19 Dear Mr. President, 1. We are writing you this letter on behalf of the Government and Bank of Slovenla regardlng our reform of the Slovene enterprise and finanolal sectors. Since Independence In 1991, the people and the Government of Slovenia, kVithin the framework of a new politcal democacy, have endeavored to eradicate the deep- rooted structural problems Inherited from the Yugoslav economic system. Our fundamental objective Is to achieve asubstantlal and sustained Improvementof Slovenia!s growth performance and .standard of livng. We are aware that such an objective can be achieved ordy through the transformation of Slovenla's soclaly- based economic system Into a modern market economl system. We are resolute In pursuing our fundamental objective In a reasonably short period of time,. and we request the assistance of the World Bank in the design, Implementation, and finance of our structural reform program. 2. As you may know, our present economle difficulties have their roots In the ealy post-WW 11 period, when Slovenla was part of the Yugoslav federation and adopted an economio system based on the socil ownership of the means of production. The serious deficlencies of the Yugostav economic system were masked by excessive recourse to foreign borrowing during the 1970s. lowever, these deficiencies became visible In the 1 980, when access to foreign finance was curtailed and Yugoslavia was forced to repay Its foreign obligatlons. AHthough. Yugoslavia was able to generato Increasing current surpluses during thls period, It did not succeed In achlieng Internal equilibrium, as Indicated by a stagnart real GDP and Increasing rates of infation. . Sever attempts at stabilization during tha 1980s did not succeed In reducing Ifltion and restoring grwth due to their falure to remove the fundamental roots of Yugoslavia!s problems: the perverse microeconomic Incentives generated by the lack of an advocate for capital in sodally-owned enterprises, and the lose connecdons between enterprIses and banks. As a result wage pressures remained excesive. aggregate Investment fell, and a large number of enterprises continued to generate loses. Moreover, these losses were financed by para-fiscal transfers and impllct subsldies through low interest credits and arrears, resulting, as mentloned above, in persistently high Wnflaton, resoure misallocation and stagnant economic activ. 4. In addition to these structual problems inherited from the Yugosliv system, Slovenla has also experienced a series of adverse exdemal shocks since ts poliical Independence. We were partcularly affected by the collapse of trade with the former Yugoslavia and with the former COMECON, by the confiscation of property of Slovene enterprises In the former Yugoslavia, by the lack of access to the foreign exchange reserve held by the National Bank of Yugoslavia, and by a severe flooding In 1991. Slovenia was also affected by the June 1991 aggression of the Federal Yugoslav army and by the ongolng war.in some other republics of the former Yugoslavia. As a result of * this war, there ae today about 70,000 refugees In Slovenla, or the equivalent to 3.5% Of the total population. Annex 2 58 Page 3 of 19 S. We have designed and he started to Implement a program of economic reforms which Is internally consistent and addresses the roots of our economic difficulties. Th7e reform of the enterprise and banking sectors t at th core of our program. Thls core element Includes the prvatizatlon of most socially- owned enterprises, resticting State ownership to a limited number of enterprise providers of public seMces, reform of the governance and regu!saton of this publio sector, the curtailment of the ownership links between enterprises and banks, friancial rehabilItaon and prlvatlzation of banks, and lhe necessy labor market adjustment. We will fully Implement these fundamental microeconomic reforms under a stable macroeconomic ftramework which Indudes, Ida nRa the maintenance of a social safety net and the establishment of supportive and consistent fiscal and Incomes policies. Recent Progress Tn staiflzti. S. Despite Inherited ftucral problems and a very adverse external economic environment, we have already made substantial progress In achleving macroeconomic stability since our final Independence fom the former Yugostav federation in October 1991. A new currency - the Slovene Tofr - was Introduced In October 1991, allowing Slovenla to Implement a stabilzaton program aimed at reducing the high rates of inflation and Increaslng the critially low level of foreign reserves. The program induded a sharp rea devaluation of the exchange rate, tight monetary and fiscal policies, and severe restrictions on nominal wages In t Initial phase. It achivd a considerable success In teducing inflaflon. from an av.erage monthly rate of inlafton of 18% at the start of the progrm to 12%. 8%, 2% and 2% In the four quarters of 1992, respectIvely. 7. S al progress has aso been achieed In strengthening the fragile reserve posilon heSd by Sovena at he sat of s Independence The real devalation and the tight demand poicies led to a curret account surplus of US$ 750 miMlon In 1992. equivalent to 6.6% of GDP. This current account surplus contributed substantially to the fast buld-up of foreign reserves - from only US$ 200 million In mid-g991 to US$ t1170- mlillon In February 1993, equWent to three months of Imports. This Improvement was achieved despite the lmplementatlon of trade llberazatlon measures that led to a decrease In the average Import tariff to less than 10% at the end of 1992. 8. The stabilization program met Its two objectives at the cost of further contractions In activity, however. Indeed, the tight demand poicies aggravated the Impact of adverse exterm shocks and resulted In a severe decline In real GOP: 9% and 7% during 1991 and 199, respectively. The contracton of actvity has also been accompanied by a sharp Increase In the rate of unemploymeft from only 3% In the late 1980s to 13% at the end Of 1992. AnneX 2 59 Page 4 ofl9 9. We are now facing a difficult transitional period, as the above.mentloned macroeconomic Improvements were achieved under similar distorted microeconomic fundatlons that led to hyperiniation and economic stagnation in the I 980s. We are aware that absence of effective control over wages durlng 1992 (real wages have Increased by more than 30% after the expiraton of a restrictive wage law In February 1892), the persistence of enterprise losses, and the critcal liquidity situation of our banks threaten monetary and price control, as well as the Intiation of a sustained recovery of output Therefore, we have already started Implementing components of our enterprise and banking reforms, and are already providinq fiscal support to these reforms. We have also introduced other corrective macroeconomic measures, such as a temporary freeze on nominal wages. We will conUnue to providethe fiscal support necessary for the full Implementation of our mlcroeconomic reforms, and will also continue to restrain nominal wages during the whole period of transition. 10. Our progmm of structural reforms will consolidate the galns achieved by the stabMzation program and Is also expected to reverse Slovenla's long-run economic declne We envisage a long-run scenaro where fixed investmrnt Is Increased from the current low level of 18.5% of GDP, to around 21-22% of GDP, output grows at S% p.a., and current account surpluses are kept at moderate levels. Such a scenario Is feasible nid destrable as Slovenla's per eapita incomedoes not lustifvthe permanentgeneration of large capital exports. In order to achieve this growth target, we realze that the envisaged Increase In the level of Investments has to be accompanfed by an Increase In *their efficiency. This Is why our program Is centered on reforms at the microeconomic level - the enterprise and banking reforms. We also realize that th achievement of a oonsistent program requires further adjustments In macroeconomlo poldcies, partIculy In the areas of iscal and Incomes podices. 11. We undersand that two types of actions In the fiscal area are required to achieve a consistent reform program. First fIscal pollcy must Include ful support to the restructuring of banks and enterprses, as well as to the social safety net. Second, we also need to reduce the excessively high levels of general expenditures and revenues, In order to reduce the role of the State In resource alocaton and make more room for. the expansion of the prvate sector. Our fiscal program Involves the immediatechannalling of resources to restructuring programs - In order to enable their implementation - and a rmedium-run reduction In the levels of general expenditures and revenues. 60 ~~~~Annex 9 60 Page 5 of 19 12. As mentioned above, we have already started providing fscal support to the restructuring of our enterprises and banks, and will Increase the support lo thesb programs to the levels required for their full biplementation. During 1993. the fiscal suppo.t to our restructurlng programs will amount to least 4.2% of GDP. This Includes at least 0.8% of GDP for bark restructuring, at least 1.2%6 of GDP for enterprise restructuring, and at leat .1 %. of GDP for social expenditures directly related to economic restructurng. The additlonal Iscl support to our restruoturing programs In 1993 amounts to at least 2° of GDP, as In 1992 we did not provide support to bank rehabilItation, and we provided much less support to enterprise restructuing and the social safety net. 13. The fiscal support to our restructuding programs will Increase to 5.4% of GDP durting 1994, In order to enable the full financial rehabilitatlon of our banks. This Includes at least 2.3% of GDP for bank resucturing, at least 0.9% of GDP for enterprise restructurIng, and at leat 2.2% of GDP for social expenditures directy related to economic restructuring. We are committed to providing the necessary support to these programs In 1995 and In the following years, and have expressed offcially such a commitment In our budget memorandum - a document which lays out a medium-run fiscal program and which has been presented to the Slovene Parliament and the Slovene popultion. 14. We understand thatthese additionalfiscal exenditures should not be permaently added to current level of expenditures, as they would lead to excessiet levels of general government expenditures. Indeed, although the general government has been able to generate small surplss (2.6% and 0.4% of GDP In 1991 and 1992), both gereral revenues and enuei inreased to 47.5% and 47.1 of GDP In 1992. These ratios are very high for a middle-noome country, and reflect a heavy tax burden and substantial Stae Intervention In rsoce asl9caUon. Moreover, these additional Sca expenditures should not result In permanent fis deficits elther, as that could hinder te required recovery of Ixed Inestnt and outpur 15. Although the need to niiate th reforms justifies an immediate Increase In expenditures to 49.1% of GDP, and the shift of the general budget Into a deffcit of 2% of GDP In 1993, we Intend to reduce both general expenditures and revenues to levels around 44% of GOP by 1997. This Implies that expendltures vwb be reduced at a faster pace, especiallythose not related to economic restructuring. To this end. wewAll limitnthe genral de1cI to at most 2% of GOP In 1994, to at most 1.5% GOP In 1995, and will reduce It furher in the following years. General expenditures and revenues will decine by at least 1% d o GP In 1994, and will declne uhrter in 1995 and In the followdng yeas, expenditures declining faster than revenues in order to reduce the deficit and drive both revenues and expenditures to Ehelr medlum-term targets. 61 Annex 2 Page 6 of 19 1. This medium-run fiscal contractlon will be arsociated, Inter aiim, with a rductIon in pension and health exenditures, as these are among the expenditure items lhat have growrn more rapidly In the recent years. Indeed, the rato of pension expenditures to GDP Increased from about 8% In the latter part of the 19S0s, to 12.7%o mainly as a result of early retirement schemes, In 1992, and could reach 14% of GDP In 1993. Pension benesfit In Slovenla are slgnlfloanty hlgher than In countrles with s1mllar per capita Income, and are also higher than the erage for the OECD countries. Moreover, the financing of pension and health expenditures, and unemployment compensaon, has required an Inrease In contdbution rates to almost 60% of wages, which tends to discourage employrnent, the development of small private enterprlses, and may also be having a detrimental Impact on naional savings. Therefore, the continuation of the past poicies would Impalr the prospects for higher growth of output and employment In the medium and long-runs. 17. In order to achieve our medlum-term fiscal twgts, we wll continue the reform of the pension system lntliated In 1992. The measures that were adopted In 1992 and In the irst half of 1993 have Included an Increase In the retlrement age for men and women by half a year, every year, te Imposilon of a limi of 85% on the ratlo of the aveage full time pension to the average wage Oinstead of the forner mtnimum of 85%), and a more restric- tive adjustment of pensions to wage developments. The latter measure has limited the adjustment of pensions to the growth In nominal wages two months earner (the period required for the computaton of wage figures), thus eliminating the excessive adjustment which was caused by adding th estimated wage growth In the intermedate month. These measures have already restriced the. growth of pension expenditures, as the average ful time peson was close to 90% of the average wage In eady 1993. During the second half of 193 the Govemment will resrict fuher the adjustment of pensions, by broadening the bae for pension adjustments to Include al average Incomes subjed to the payment of contribuons to fe pension fund. As a result of thse dwanges, a fther escalaion of pensIon expenditures wl be lnterupted and the Goverment wiesure that the ratlo of pensions to GDP Is rimited to at most 13.5% during 1993. 18 During 1994 we wvlU Ilnroduce additonal measures so as to reduce the ratio of pension expenditures (defined so as to Include all payrnents to pensioners) to GDP to 12.5% and to 11.5% In 1995 The measures that are expected to be Introduced Include the acclerateon of the ongoing lncrae In the retirement age to one year (Instead of a half year) each yea for both men and women, the increase In the retirement age of. women so as to reduce the difference between men and women from five to three years, and the broadening of the assessment period for the calculation of the pension base, from the ten best years to the twenty best years over each Indhivduars workdng lfe. This latter measure should be Introduced for both new and existing pensioners, thus tightening the ink between contributions and benefits, and severing the link between current pensions and wages. We wil submit these changes to Parliament upon completion of the study on the entre penslon system, which will take place during the first quartr d 1994. Annex 2 62 Page 7 of 19 19. In case these measures prove Insucient to bring pension expenditures to the, targeted levels, we will adopt changes In Indexation rules governing the adjustment of nominal pensions, or adopt aternatve measures, so as to reach these targets. Together w1th the Govemments plan to expand the role of voluntary health Insurance, these measures should result In a derease In general flcal exenditures of almost 3% of GOP, thus contributing sinifficantly to the medium-run fiscal adjustment Moreover, we Intend to combine the reduction In penslon and health expenditures with a shift of non-eanings related expendures from the penslon fund to the central budget (and their Inancing through other taxes), so as to allow a reduction In the total of contributon rates from the present 49% to at most 42% In 1995. 20. We wm finance the projeded genera government deficit through the Issue of Government obligations and witut recurse to cental bank oredits. We deem the projected financing requirements fasUble, given the current and projected values of private fixed Investment and the current and projected levels of our current and capitl gccounts. We also understand that the envisaged medium-run reduction of the Ilsol deficit Is necessary to make room for the expeted recovery of fixed Invesment and shield the current account from excenssie presures. Our projetons take Into account the disbursements of the proposed loan, which will help us finance these transitory deficts, continue to honor our cexal oblgations, and avold undue pressure on the finandal system. 1i-d gn * 21. We wll imnplement and maintain a comprehernsve wage poliy duig th whole period of transiton, In order to prevent an excessive growth of wages with detimental ffects on the finances of enterprses, Nlation and th cumnt accounL As mnnioned preioudy, the absence of effectIve wage regulation sine February 1992 has rested In substantal wage irncreases: more than 30% In red tems and 40% hI German Marks. Such wage pressures were lntlated In the ntprise sector but spiged over to the publc sector, due to previous collotive agreemernt lriking wages In the two sectores Givn these advere developments, we Introduced a law In early 1993 which aslowed us to delink wages In the two sectors indefinitely and to ree wages In the public sector until May, 1993. The law has also allowed us to reverse some of the recent wage lncra In the enterprise sedor (wages In March were 3% below the February lev sand we expect further deellnes In April) and to subject wages In the economic sector to an xremely restrictive Indexaton scheme (amounting pramcally to a wage freee) untl June, 1993. 63 Annex 2 Page 8 of 19 22. We wll continue to maintaln a estrictive wage policy through new colectve agreements with the enterprise and pubflo sectors Immedlatelyater the explration of th6 current wage law, and wil mairnain this polc3y during the whole period of transition. This policy will Include five, mutually reinforcing, components: (I the permanent severance of. direct legal linkages between wages In the two sectors; (IQ ensuring that wage Increases Immedlately alter the expiraton of the present law will not take place; (IQ the subjection of wages In both sectors to a partial Indexadon scheme establishing that wages In both setors are not adjusted If the monthly rat of Ilation Is less than 3%, and are only partially adjusted If hnfation exceeds th11at L In addtikn, Inffation developments In the frst half of 1993 wIll not be considered for purposes of Indexation. Wis wil! monitor the change In 1he average wago to verify oompliac with these rules; (Ov) the reimposion of wage reostions on both sectors ftrough new legislation, if no safactory progress Is made In conduding new oullectlve agreements, or I enterpfies do not comply with the agreements; and (v) the maintenance of additional restrictons on wages through existing legislation for enterprlses that are Illiquld, or have tax arrears, or generat losses. 23. Our fical and Incomes policies wll allow the Bank of SloveQna to contnue conducting a restrcve monetaiy policy and to maintain Inflation at low levels. We intend to keep Inlatlon (as measred by the Decomber to December changes In the retal pdce Index4 below 25% In .1993 and to reduce It further durng 1994. We wll conclude the design of a comprehensive medium-termn macroeconomic program with the World Bank and wi Implement this program under the present loan. E3L8_g1QLB3t 24. We have reted, ihin he mac roeconomicamework our adiustment progarna * our rolve to implement a strong and Vigorous progrm of strucW reform In the enterprise and banking sectors. We recogzn thatthe current structure of ownerhip and goverance In socially-owned, mbied, and State- owned enterprises has substantially Impeded the response of the enterprises to the new Incentives environment. Our. pre-eminent objecive in the enterprLse sector Is, therefore, to privatize all anterprfes In Industry, trade and services cept In a imted number of commercial public services, and to reform the system of governance and regulation of State-owned enterprises. Since total losses of socially-owned enteprises amounted to 15% of GDP In 1992, the reform program wil emphasze measures tht would frt contain and subsequently reduce these losses. We have made important progress In developing the legal and Instituional frmework for enterprise reforms. We wvil ftRher develop this legal and regulatory frarnework with a view to accolerang prvate ector development and fostering competiUon. 64 Annex 2 Page 9 of 19 OrsYhio lRform and Erffizatlon of Sogb1my_-Qwnad Enteorlaos 25. Until today, we have made modest progress In partial sale of social property. In corporaUzatlon of socially-owned enterprises, In establshment of joint ventures with. rmajority private ownership, and In the sale of sodally-owned enterprises in their entirety to private invesors. However, In view of the limitations of the legislative framework. Parliament adopted, on November 11, 1992, the Law on OwnershlpTransforrnatom. This new privatizatlon law was amended on June 2, 1993. The Law safeguards the Interest of previous owners and addresses restion isUses without nhbting the process of transformation. The Law became effectve on June 6, 1993. We Intend to ensure the * expeditious Implementation of this law which governs about 2,700 Slovene enterprises. 28. Transformation under the Law will result In conversion of a sodalowned enterprise Into a shareholding company on the basis of Its capital after revaluation. The * Law stipulates that 20% of the shares of an enterprise must be reserved for acquisitlon by employees using ownership cortiflcates. Forty percent. of the shares will be allocated *for sale through employee purcklases. pubic tender, and public auction and sae. To this end, employees wilJ be given the right of first refusal, wih a 50% discount on the price of the shares. The remaining 40% wll be freely allocated as follows: 10% to the Compensaion Ftnd, 10% to the Pension Fund, and 20% to the Development Fund (the Fund) which wil sel tis share In exchange for ownership certificates to newly created Speclal Investment Funds. The Law explctly alows the sale of a company In Its entirety, or the sale of the controllWng Interest In a company. In such csues, the Compensation Fund, Pension Fund, and Specal Investmrent Funds wIl be compensated In cash from the proceeds d such sales. 27. For the benefit of fe population at large, the Law stipulates Issuance of ownership certificates (equent to 40% of the ta socidal capital of enterprises) for free distribution among all citzes of Slovea. Tiese c which wil have a nominal value of SIT 100,000 lo SIT 400,000 and shall be non-transferable, will be distributed according to age, vith those who are under 18 years of age reciving certiicates valued at the bottom of the range and those who ar over 48 receIMng certificates valued at the top qf the range. 'The ownership cerficates could be used by our citiens for acqulstilon of the shares of Special Investment Funds or the shares of companies offered through public sale. The employees of an enterprise will have the additonal option of using their cerUifcates to pur- chase the shares reserved for them. We intend to adopt Implementing regulations for the distribution and use of ownership certficates by September 30, 1993. Annex 2 65 Page 10 of 19 28. The Law requires that enterprises tnliate thelr transformaton, The transformation will be guided and monitored by theAgencyfor Privatization (the Agency). All enterprise4 subject to the Law must voluntariy transform by June , 1994, which Is within 12 months of the effective date of the Law. In case of non-compliance, the transformation rights of. the enterprise wil be tmnsferred to the Agency. We Intend to closely monitor progress of these transformatiorn, and to take, If necessary, prompt action to modify the legislatIon and arrangements to ensure effective transfer of controllIng Interest In the enterprlses to private owner We wll ensure that the privaUzatlon of 400 of the enterprises, accounting for 20% of vlue added by all enterprises subject to this law, Is completed by mid-1 994. 29. The Agency and the Fund are the princIpal Institutions In charge of Implementation of the Law on Ownership Transformation. These Institutions which we established In December 1990, In accordance with the 1989 Yugoslav Federal Law on Social Capital, have gained considerable experience in privatization. The Agency is responsible for setting the guidelines and approval of the transformation programs submitted by enterprises and for valuaion of the enterprises In cases required by the Law. The Fund is charged with the management and disposal of the shares It acquires during fe process of tranformaton. The liquid assets and the revenues of the Fund shall be used, In compRance with spedal laws, for. restructuring banks, export promotion, technotogical development and ecological improvement and development of small business. We intend to 5upport and strengthen these Institutions as necessary for success of the Program. New laws on the Agency and the Fund were adopted by the Parliament In conjunction wh the adoption of the Law on Ownership Transformation. 3o. 'To support the prlvatization process end the emerging private sector In industry, we have initated a piot program of In-depth studies In several subsectors. These studies re assessng the strengths and weaknesses of the subsectors, comparing their compeldtvenessvs-a-v1s simfarsubsectors In other market economies, and providing our enterprises wih Information on technologicat, ecological and manaerial developments in the West Preimkary results of this pilot program are encouraging and we Intend to extend it to other brancs of Industry. 31. We are committed to strictly limiting State ownership, In the medium-term, to enterprises In the folowing designated subsectors: electric power generation. transmissIon and distribution, gas distribution, rairoad subsector, road construction and maintenance, sea and air ports, telecommnunlicatiOnpostal senrices, and water distribution and other municipal public sices. The Law on Commercial Public Services which was adopted on June 2, 1993, provides the legal foundation for conversion of all socialy-owned enterprises In the designated commercial public services subsectors into State-owned enterprises. We wll complete the conversion of the above sodially- owned enterpdses Into State-owned enterPrises by mid-1994. 66 Annex 2 Page 11 of 19 a2. We wlil, In parallel, Inttlate privatzatlon of State- owned enterprises end diestiture of State shares In mbxed enterprises In all other productive and commercial services sectors as soon as possible. Since the Law on Ownership Transfrmratlon exclude' privatizatlon of State captlal, we wRl Instruct the Agency to divest the shares of the State, In enterprises with mixed ownership at the time of privaIkation of the social capital In these enterptises. We Intend to prepare a program for prvatzatlon of the current State-owned enterprises by mid-1994. We Intend to Implement 30% of this program by May 31, 1995 and the balance one year later. 33. For the State-owned enterprses In publc services, we wlll reform and Improve the system of governance and sepaate the Govermmenrs ownership function from Rs policy and regulatory roles. We wMi, ftrefore, consoldat State ownership of Stae- owned enterprlses In a newly created Treasury and will continue to strengthen ts functions. State-owned enterprises wil be Incorporated under the Company Law adopted by Parliament on June 2, 1993. We wil estabish by mid-I 994, within the legal famework, the principles governing the operaton of the State-owned companles and the requirements relatng to the accountablity of these compardes. In addion, In order to assure sra Independent operting framework we will appotnt, by mid-1994, boards of directors br all these companhes. The maJorit of the members of these boards will be Independent non-govemmental profesionals of high sanding In the community. We ill establish Independent regulatory systems for the designated sectors, In order to create an environment conduch to private sector entry and development and to prevent monopolistic behavlor and to protect the pubie Inrerest. We Intend to nmi below cost pricing and In these cases the Government shall transparently compensate the companies for profs forfeited or losses Incurred. We wil Implement these structural reforms In the State-owned enterprises, and prepare specil" laws for the energy, tolecommunlcalon, and ralways subsectotswhich wllgovemthe organtzaton and define the regulatory framework for these subsectors, and specify those activities wtdch will be privatlzed In the medlum-term. We wRl submit these laws to Parliament by mid-1994. a~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~ 34. During 1992, total accounting losses Incurred by 4.930 enterprises amounted to SIT 169 billion, or 17% of GDP. One hundred large loss-making enterprises accounted for 73% of this total. Among this laer group, 19 enterprses. that are or wIlU become State-owned enterpises, accounted for approximately 56% of the group's losses, and 81 socially-owned enterprises accounted for the balance. Annex 2 67 Page 12 of 19 38. The 19 enterprises In the ist category belong to the steel, elecic power and ralDways subsecors. We will delop medlum-term restructuring programs for these subsectors which wDi aim at reducing losses In these enterpriess by measures that Include financlal and organzational restructuring, closure of non-viable Ones and units, material and energy effciency Improvements, ecological enhancernent and labor reduction. For the steel subsector, whlch despite considerable effort we have not been able to privatize In Its present condifton, we have already developed a program in accordance with the above objeeWes. We will conUnue the Implementaton of this program, which will be adjusted as necessary, and to stem losses In the steel subsector by mid-1994. A restructwing program for the railways subsector Is currently being developed In cooperaltion oth the EBRO. We vdil complete the development and Initiate implementatlon of this program by mid-1994. For the power sector, where the prlnclpal cause of losses Is Inadequate prices, we have prepared a plan for prdce adjustments to stem these losses and have Initiated atudies to develop a long-term basis for regulating power prices. We wn Implement the ptice adjustment plan, Including modiflcations as necessary, and finalie proposals for future regulation of power prices. 38. The second catgoryot oss-making enterpris swil be dealtwih through the bank rehabflltalon program. We have expedited thls process through a special program Introduced by the Government in August 1992. Under this program, enterprises In need of assistance w'ere invited to transfom, on a voluntary basis, into commercial companies owned by the Fund. The program Is being executed by the Fund In cooperation wlth the MInistry of Economic Activities, the Mndstry of Labor, Family and Social Affalrs, the Bank FRehabilitation Agency (BRA), and the Agency. Its aim Is to rapidly Implement short-term restructuring bading to privatization of viable partcipating enterprises, and closues of the norwnable entprises. 37. Ninety sbc enterprises accounting for tota losses of about SIT 35 billion In 1992, and for a total employment of 55,000 he joined this progrmThe tresormatlon pross f for these enterpries and assessment of their Viabily has been completed. Eleven companis hawe ben put In bankruptcy and an additonal 6 wIll be placed in the procedure, shorly. The debt of 50 enterprises has been rescheduled based on agreements. reached with their crediors. Eleven companies have been sold and procedures/negotlatons for sale of another 25 are quite ad- vanced. We expect to have privatized or liquIdated 50% of this group of compardes by end 1993. L_IMFramework PivaS 3& Private enterpdses enjoy a favorable envlronment due to existing enterprise, foreign investment, and Intelectual property laws In Slovenla. This Is evidenced by the rapid In- crease. In private sector adcty durlng the 1991-1992 pelod.The number of registered private companies increased from some 5,300 In mid-1991 to more than 18,000 by end-I 992. This hat led In turm to sharp Increases in employment by the private sector from some 12000 to over 28,000, as wel as In contribution to total revenue from 5.8% to 11.4%. Arnex 2 68 Page 13 of 19 39. In view of the timing of the privatiaon program, we submnited to Parliament during 1993, a Law on Notadal Services, and a Law on Auditing, and Intend to submitA new updated Securities MarketLegislation.The Securitles and ExchangeCommisslonwili be established as an Independent regulatory body, with considerably enhanced capacity, to supervise the Inrvestnent market, Inctuding the activities of the Stock Exhange. Folowing enactment of.the Companies law, new accounting stndards wil be applied. 40. We recognize that the exlstingbarrlers to efficient exit from the market for Insolvent firms must be removed as much as possible. We have submitted b Parliament draft legislation on bankruptcy. A new law on protection of compettion was adopted on April 2,1993. The law of Commercal Pubic Servces will establish the legal framework enabling contracting by the State wth private enterprises for the delivery of public services. 41. We also recognize that a secure and predictable system of cogateral Is essential to the growth of credit to the private sector and the development of.flnanclall viable banks. As a result, the Government Is comrmitted to modernlizng the sytem of real estate and mortgage regtstrton.whle the registration of security interests on movables wil be dealt with In the Law on Notarial services. ~ankrin Seatr Befom 42. We Intend to accelerate the process of reforrn In the bLnklng sector which was launched In 1990, wfth the adoption of the new legal framework for banking. Since that time, the banks have been auadited twice, and as a result, we understand better today the seriousness of the banks' financial weaknesses and the negatve consequences of the control th the owner-enterprlses have exerted on the ban' lending decisions. Consequently, the Government has begun to Implement a progran to restore the banks" *inanec heah and effiiency. His program Is being Implemented In close coordination wth the program to reform the enterprise sector. It will progressively change the banks' ownership structure and reshape the conffguration of the banking system to better serve the needs of the Slovene.economy. The program will also Improve prudential regulations; bolster the supervisory capabirities of the Bank of Slovenia, and lead to privatization of the banks. Annex 2 69 Page 14 of 19 43. The 1991 laws on the Bank of Slovenla and on Banks hava provided a comprehensive framework for goveming banking activities and empowered the Bank ot Slovenla to regulate and supervlse banks. The Bank of Slovenla has already established minimum capital adequacy rules, exernal auditing and reporting procedures, loan classification and provisioning guidellnes, and licensing procedures which will, by end-1995, force the banks to signiicantly increase capial or consolidate. n will strangthen 'the regulatons for loan olassflcaon and provisloning, Introduce Interest suspension and adjusLt he capitl adequacy requirements to sUsll?y r1fianatW"Onal standards by June 30, 1993. We wiI, by that date, submitto ParlIarneht amendments to the Banking LYw to Inter alla Improve bank governance, to limit the banks' exposures In equlty Investments and to groups of related borrowers, to Increas6 entry capital and upgrade capital adequacy requitements, and to empower the Bank of Slovenia to prescribe bank accounting rules and auditing requirements. We expect that these amendments will be adopted by Parliament, by mid-1994. Thereafter, the Bank of Siovenia will adapt regulations to con- * form to these amendments, and ensure that banks apply these regulatons In preparing thi 1993 fInancIal statements. 44. In 1991, we also lntroduced the Law on Rehabilitation, Bankruptcy and Uquidation of Banks and established the Bank Rehabilitaon Agency (BRA). This Law altows the Governor of the Bank of Slovenla to Impose prrehablitMion procedures for aty bank with potential losses exceeding 30% of capital, and full rehabilitation measures when the losses exceed 60 In imptementlng rehlablMatlon procedures, the BRA has powers to take over the bank suspend management, supersede the rights of owners, force the write-oft of losses agast capital, assume losses, and recapitalize, merge or privaiz the bank. We will submit to Parliament, by June 30,1993, amendments to this Law which will faciltate BRA retucturng operations and privalzaon of rehabilitating banks. We expect 4that these amendments wil be adopted by Parliament, by miid-199 3anBk & Wdug ZxEsram 45. The Bank Restructuwing Program, whch we have already inliated, includes two principal components. The first component Introduces the assumption of control by the BRA and the Initiation of rehabflitation procedures for all seriously undercapitalrzed banks In the banking system. The second component Involves the exchange of 6ank claims against the National Bank of Yugoslavia (NBY) with bonds Issued by the Republic of Slovenia to enable the banks In Slovenla to repay or compensate for the frozen foreign currency deposits. We expect, through this program, to generate an immediate reduction In the excessively high Intermediation spreads and real lending rates which have burdened enterpises and discouraged irwestment activty. At the saene time, the program will provide the dring force for the restructuring and privatizatlon of the enterprise sector. It will introduce a major change In the ownership of the banks and curta links between bank owners and borrowers. We also Intend to take advantage of the opportunity offered by the Implementation of the program to help reshape the configuration of and enhance competition In the baniwng system. We wall privatize the banks at the earliest opportunity and remain open to Intematlonal lnvestment In the banking sector. Before mid-1994, we will develop the core elements of our privatization strategy for banks under rehabilitation. Annex 2 70 Page 15 of 19 Our goal Is to limit to no more than two years the process of rehabilitation of any bank before proceeding with pilvatizaton. By mid-1984, we will privatize at least one bank., 48. To support the objectives of the program In reconfiguring the banking system, the Government is determined to transform the structure of the group of thirteen banks in the Ljubljanska Banka system (LBS), which today domlnates the banking sector. We have already requested the shareholders of twelve LBS member banks to decide either to become Independent banks, or to mnerge with LB d.d. or with other banks. We will take follow-up actions, If necessary, to ensure timely reorganization of LBS and will lnformn the Bank of these actions. We will ensure that this process results, before mid-1994, In the reorganization of the LBS structure and that no bank within the banking system holds more than 40%A of the system's total deposits. 47. To provlde the necessary funding for the Implementation of the Bank Rehabaitation Prograrn, the Parliament has adopted two key laws authorizing us to Issue bonds, and to guarantee bonds issued by the BRA, for a total amount of approximately OM 3.2 -billion. 48. Under the first component of the program, the Bank of Slovenia has Intervened In the case of two LBS banks which are Insolvent, and which account for about 57% and 61 % of the total assets and total problem risk exposurs of the banking system. The BRA has written off the 1992 opermng losses of these banks against capital. It has carved out from these banks potential losses which had to be fully provisioned and the banks' remaining net worth which was converted Into BRA subordinated debt -Former shareholders can thus benefit In the future from any proceeds from the recovery of the bad assets transferred to the BRA. We have provided for an amount of DM 1.6 bilion to clean up the bad assets and doubtful guamntees and wvfl adjust this figuwe following the results of special audits. The Bank of SIovenia has already Initiated the process for rehabilton of the ftrd Insolvent LBS bank by requesting the bank's shareholder to re- plenish the capial. 49. We have adopted plans for the financal restructuring of two banks under rehabilitaton which will assure achievement by these banks of a capial adequacy ratio of 4%. We will subsequently ensure that the banks achieve, by mid-1994, a capia adequacy ratio of at least this level, following th new rules to be established by the Bank of Slovenia and through poslve operational cash flows. This will be confirmed through external audits. We wlil also ensure that these banks achieve, by that time, satisfactory progress In Implamenting insttonaldevelopment programs which strengthen their creait and financial risk management processes, and their management lnformaton systems. Furthermore, the Bank of Slovenia will initiate rehabilitaton procedures for any bank with a capital adequacy rato below 50% of the minimum requirement. Annex 2 71 Page 16 of 19 SO. Under the second component of the program, the State wll exchange part of the banks' claims against the NBY for bonds denominated In DM at 8% of Interest. This exchange will be carried out inltlalyfor an amount of about DM 976 million, equivaientlo the amount of frozen deposis In banks In Slovenia. The depositors have been offered a set of opthons to recover their savings, Including the possibnities9 of conveting them Into medium term deposits, subscribing bank stock, or receiving State bonds as immediate * payment. This broad action will immediately Improve the profitability of the banking system and will decrease the pressure of accumulated losses on lending rates. Although no liquidity pressures have been experienced until the present the Government is awar' of the liquidity risk of this arrangement. The Bank of Slovenia has committed to, and designed the technical Instruments for; providing the necessary liquldity support to Individual banks. If necessary, we will submit to Parliament, before mid-194, an amendment reducing the maturity of the State bonds. In addition, we will authorize, by that time, the banks to trade these bonds under condltions established by the Bank of Slovenla. 51. The BRA was established by a specal decree In 1991, with the mandate to carry out bank restructuring In a manner that will minimize restructuring costs and speed up bank earnings recovery, and to privatizethe banks. We Intend to substantallystrengthen, within the next few months, the BRA's institutional capablity. To this end, the BRA's Board has adopted formal plans for the operatons of the Agency, including it budget and financial plan. We will ensure that by mid-1994, the Agency plans, and Its multiple-year financial requirements, are updated to support bank restructuring. We wIll also ensure that the BRA continues to have sufficient human, financial. legal and technicl resources to exerdcs govemance over banks under rehabiftatIon. We will ensure that by mid 1994 the BOR'S goveming legislation Is modified to reflect Its expanded role and responsibiltes. 52. The BRA has appointed executive managers In the banks under rehablition, and has decided to Instftute boards of directors to exercise govemance In these banks. The members of these boards wll be appointed by mid-1994. The bank boards wil by that time adopt performance Indicators and targets for the recovery of the respeotve banks. Debt recovery responsibigltes wi be vested In the BRA, the banks, and In separate work-out units under the authority of the BRA. The BRA has approved plans to separate from the banks the work out units that will be charged with the recovery of carved-out assets. Extemal audits of the operatons of these workout units will be completed by mid-1994. Annex 2 72 Page 17 of 19 53. We Intend to link our strategy for debt recovery with the privatizalion and restructuring, or liquidation, of socially owned enterprises. The BRA has substanfialty completed the asset Inventorles and will ensure that the debts of the most adversely classified borrowers are carved out from the portfolios of the banks under rehabIlitatIon. by June 30, 1993. We expect these carve-outs to Include 34 large enterprises which account for about 61% of the total enterprise problem debts In the banking sector and 29% of the losses of fht hundred largest loss makers.The carve-outs will be Implemented by substMing bonds for the probtem debts. This will enable the BRA as the major creditor to accelerate debt restructuring and to expedite the process of privatization or liquidation of the enterprises. We Wil ensure that this process wil result, before mid-i 994, In the restructuring of at least one third of the debtors ard one thlrd of the debts carved out from the banks. 54. For the banks under rehabilitation the BRA has established guidelines for the debt recovery process. The Bank of Slovenla wllJ also Issue rules, by June 30, 1993, to be applied by alt banks for debt restructuring. Compliance with BRA and Bank of Slovenia guldelines will be conlirmed through extemal audis by mid-1994. Key to the debt rescheduUng rules wil be the requirement for the borrower to demonstrate viability, to accomplish satsfactory labor rationalization, and to present a feasible privatizaton plan. 55. At the same time, the Government is dealng directywth a defined group of 19 enterprlses In the steel, power, and railway subsectors. Thts program has already resulted In a substntl Improvement In the financial conditon of some banks by removing a-DM 250 mIllon porion of the exdstng debt of the steel enterprises. * nwJmgsuwm 56. Our program for reform of the banking sector Includes major enhancement of prudential supervIsion. The Board of the 13ank of Sloverna wit adopt by June 30, 1993 a comprehensive plan to reinforce Ia Bank Supervision Department The plan Includes the development of on off-site surveilance and credit risk system, on-site examination methodologies, dnd a comprehensive training and staff development program. This plan wll set ime- bound targets wih a view to, within two yeas, Improving the supervisory capacity to ensure adequate control of all banks In the system. We wil review progress achieved and make the adjustments, as necessary, by mid-1994. Anex. 73 Page 18 of 19 57. We are aware that the achievement of sustained growth requires a relocation of redundant labor In social enterpises towards privatized enterprises In the most dynamic sectors. As a result of the legal and Institutional changes Introduted in the last two years, there has already been a slgnifticant.reduction of redundant Iebor In the enterprise sector. Thls Is reflected in the sharp increase In the rate of unemployment - from 3% In the late 1980s to the current level of 13.5%. Our reform program also contains labor and socIal policies designed to facilitate the relocation of labor and to provide minimum support for the unemployed. These policies comprise three Interrelated elements - reduced restrlctions on hiring and firing workers, activelabor market poicies and adequate Income assistance to the unemployed. 58. The 1991 Slovene Labor Code reduces the perlod of prior notifcation to lay-off redundant workers from 24 months to 6 months. Technologicallyredundant workers can be reassigned, given early retirement, or compensated at the minimumn wage for up to * months before they are formally laid off. The 1991 Law on Unemployment insurance provides unemployed workers with unemployment compensaton, training, assistance for relocaton, and helth Insurance up to one year. Under the same law, workers can also collect capitalized unemployment compensaton as a lump-sum payment If these funds ae used for staring new business. To return the unemployed to the labor force or to maintain employment, we are Implementing a variety of active programs, Including aggressive training programs for the unemployed, cash grants for new hiring, subsidies to maintain existing jobs, public employment programs, micro-enterprise Incubator programst, and advisory services for self-employmenL Most of these programs have proved effetive In Increasing employment. However, we realize that subsidies to maintain employment In any gIen enteprise Is counterproductive and costly when It Is not accompanied by restuuring and by prospects df improved finandal performance. 59. We Intend to kIprove our labor market and social safety net policies and to appropdate adequate budgetary funding for the Incremental cost resultng from the implementation Cf thie reform program. Specifically, In order to faciritate eitclent labor relocation, we Intend to further simplify layoff procedures, reduce the burden on enterprises In financing redundant workers by shortening the period of prior notiftaalon for lay° offs to 4 months, suspend subsidies for job preservaton, and reduce subsidies for early retirement We expect a further Increase In unemployment In 1993 (at least 30,000 additional unemployed) as a result of enterprise restructuring, and an Increase In the cost associated with unemployment benefits and actve programs. To cover the Increased expenditures, we Increased the budgetary provision to social programs directly related to economic restructuring from 1.7% of GOP In 1992 to at least 2.1% of GDP In 1993. Azmex 2 74 Page 19 of 19 60. During 1994 and the following year we will contnue providing sufficlent flscal support to the relocatlon of labor and the safety not, wile lso maing efforts to streamine and Integrate al the IndMdual programs. We Intend, Inter age, to reduce stgn¢lcantiy the maximum duration of the totl unemployment Insurance perlod, by. shortening the period which an unemployed person Is entled to unemployment assistance to six monfs regardless of his years of employment, We Intend also to limit the maximum unemployment Insuance beneft to a level below the current level of four times the mlnimum gua9teed wage, and restrict eligibilty criterla to reduce waste. We also Intend to elmlmte any oerlapping between the unemployment Insurance program and the sodial aosistarce pgrm Support to those who remain unemployed beyond the reduced perlod of Insurance wil be provided by the social assistance program only, and will consist of mears-tested beneft based on family size. Based on the polices and actions descibed or referred to In this letter, we hereW request on behal of the Republio of Soveda a loa In an amount equivalent to US$ 80,000,000 that would support the Governmens and the Bank of Stovenla!s efforts to carry out the poram Sincerely Yours. Bank of Slovenla Republo co Slovenfa Fr&tp42nce Govermor nler SLOVENU AND BINANCIAL SEClTR ADJUSTMSI WAMN MATIM OF KEY ACTIONS Hcrasoiamic Reform AREA ACTIONS TAKEN TO DATE SECOW TRAMUE 1. Adoptfon of Supportive Adoptfon of 1993 buet limitfng the gral budget Adoption of 1994 bUget Limiting the general budget Fiscl Policies deficit to at ast 2% of GP, providing overall deficit to at mst 2% of OP, providing overall support to stpport to the reforms of at least 4.2X of DP, and the reforms of at least 5.4Z of GOP, aW containing containing miniam stwport to the key reform minim support to the key refom activities Includin. activities including: Bank Restructurng--O.MX of eank Restructurin--2.3% af MP; Enterprise testructuring- GDP; Enterprise Restructurng--1.22 of GOP; end -0.9X of GDP; and social Safety Uet--2.2X of GOP Social Safety let--2.1X of GDP Adoption of 1994 budget reducing genat eaeditues wrd revemus by at least 12 of GDP. * ption of 1994 udget esmwrnc Indicating the necessary medium-rw ficat l pprt to the refom. This should fnclude a redActfon in the general budget defcftit to 1.52 of GOP In 1995, and a further reduction In the share of geral expeditures end reeus to GDP In 1995 and the foltouing years. 2. Penslin Reform Adoptfin of measures to timit the ratio of pension Adoption of measures to limit the ratlo of pension eeWltures to GDP to at most 13.52 of GDP in 1993. expenditures to CDP to at mast 12.51% of GDP In 1994. Coptetion of study desig1ed to guide a Cerdeeive pension reform, includirn the identifiaetton of iares needed for the intra*wtion of a tue-tier pension spten. Sadaissfen to Partifmt of revised pesion legislatfen blch moutd: (I) Incra the retr nt a by e yewr, eah Va; (fi) increa the retiret age of vaI so as to redue the differene to th of men fra 5 to 3 years; (mi) increae tho assesmi t period for the culeutation of the pension bas frm the 10 best year to the 20 best years. Presentation of detalted a_easmnt of the ilgect of the measures adopted In 1993 uW In 1994 an penion expenditures In 1994. identification (if necesry) of changes in fiwwtation ndu or elttenstive me s rsWired to ruce pensio editures to the 1994 target. o Presntatin of a roveae.tl plen to shift ns- eaninss related eoenitures frau the peslon fwsd to the central budget In 1995. # acti1am to be taken before June 30, 1993 I indicator of continuing progress AIEA ACTMIJ S TAKEI 10 DATE IECUD TRAIC 3. Adoption of Seportive U Adoption of age poltcy for the economic sector Maintenance awl satisfactory ieplmefntation of the wage Incomes Potlcies through cotlectfve agreeaunts and supprtive poticy for the ecenomic awd naneconamic sectors, If legistation containing the folloming restrictieons: necessary, through adoption of new tegislation. (I) Ensuring that bage Increases ImmadfateLy after the expiration of the present Law wtil nat take ptece; Cit) The Mdoption of a partiat Indeatfon scheme estabtishing that g witl not be adjusted if the monthly rate of infLation is betow 3X and will be adjusted only partlalty If Inftation exceeds that level. in addition, Inflation dbeetopl ents In the first half of 1993 dll not be used for purposes of Indexation. The changes In the average wage will be monitored to veriff corpliance vith these rules; end (iMi) The maintenance of additionat wage restrictions In the enterprises that are filiquid, or have tax arrears, or that accumulate losses. Kairteanmie of wae poelty for the noneconomlc sector on s3milar bhees cnd restrictions as appifed to the economic sector aid within the limfts ie osed by the 1993 budget. 4. Overall Nacreeconomic Agree2ent on a madlus-tera acroeconswe framework Satisfactory cooptlaie with the owrceconomlc fra3evort. Performuice futly ecnsistent with the objectives of the icroeconomsc reforms. to 0 actfon to be taken before June 30, 19 f indicator of sontinulng progress AREA ACTItOS TAKE TO DATE 5ECS t1A31 1. PrivatlzattieRestructurlng Enactmnt of the Lew on asorchtp Tratformstlcn. Privatitlon of 400 socalty-omed terrlses. ccearnting for 20M of th value added contribution of Delopxent of restnrturiqJprlvatizstlae or *ll enterprifses slbject to the Law an Ornrtip liquidation proan for all 96 s tclell-ned Traswfor n. e [Prlnvtlztation of tO eterprise entepies which be omI th prprt of the currently eaed by the Develepent fend will cntritfe Devel et Fu. to achieveme of thfs target.1 2. Refom of State-ewned Adoption of legisltatfn ltdc provides the leogal Conversion of atl sociallyy-wned eterpri In the enterpries frameork for caotveina Into state-wined dusuieted sbsectors of the c_ommil at servces enAterprise of all salBtlyouud emterprises In the into Stete-ear enterprises. folloing cowrcIal psble service st2tors: electric powr generation, tranimssion and distribution; gas distribution; railroad tra tion; road construction and maintenance; see an airports; tatelamnicatlon; postal serces; end water distribution and other maicipat phl ic services. EstabiLlaenmt of an spprcprlate goverone stnrture, Ectabt lshmnt of a Treesury aduch, inter-alla, would Including desigrntion of boerd of directeor for state- eerese the owasip fuactfin for the State. owed entrlpses wd coan imd strengthenig of the Treaury fimotil4 $lhSa len ri Parti ment of specfic l taf r the enery, telconuulctio anN ra ltmy stsectors uici h would, Inter-alla, gern the oganizatin mad defim tho regultory frarnrk for these sastos, wd specify hse activities aAldc witl be privatised fn the me#diutern 3. Proram for Less-aIn Oveqent of a medium-tem restructuring progrm Isplemntatfon of this pow, adusted as necesary, Enterpries for the steel bshector. to stem loes In the steel saietor. Adoption of a plan for price adjustments to stem Implemeantation of the price adjtmnt plan, Including losses In the poer oheector, end Initiation of the further adjustments as necessary, and flnatizatotn of necsry sudies to deveop a tom tem basis for proposals for future regulation of pwr prices. regulating per prices. Progress In devlont of the restructuring program Coopletion of the develtpnt end progress In the for the railwp susector. Iwptemstatisn of this prwas. 4A rankig S&ctor Reform AREA ACTIUS TAME TO DATE SEMMID TRAME Oan ReantDSturlaPte 1. Ilplementotlon at Bak* Initiatifn by the 0S of tae rehabiftation process Introdction by the BOS of rehabilitation procedue for Restrntsarg for me. any benk In the system wat a cAt of less thn half the minim. requfred. Adoption of satisfactory pltm for th finanfal Achievemet of at leat th taget U CAR, conffrmd restructuring of uLdd ai IBN sbich, based on through satisfactory exteram audits, en positive consvtive projectilm, assure restitution of cperatin cash ftte for LOdd, lull mi KBIG In accordne their finniatl condition, an specificatly fdentffy Ath the new Om reguations. Adjustsll of th the finncing and restruturing mechaism required mechnism necessary to achlev thed above cash fle d to achieve a CAR of 4 CAR. Adoption an a*levement of satisfactory pre in the fpltemttion by eocu hwk ider rehabilitation of fnstitutietal develoq*t progrc which strenthen thefr credit su finalinct risk _Ingent proes"s, nd their system of control and informatIon 2. Restruturlge of the Le Desgn of the actions, to be taken by the Goverent Reorgizaticn of the LB System. Achfevst of a banking System and Os, If necessary, folloeing the decisfirs of structure wide hich no instItutfon will hold mre th te Genertl Assedblies of LBS bw*s, to ensure 40X of the systems total deposits. timely reorganzatfon of the LB sytem. 3. A Approva by the B Boawd of forml ptlas for the isplmpme tation of plen including iudeting, as necesry, operatlons of the Agewy. of BRAs ptlm, inctuding multti-yer financ3al rewirements to supperot bank restructurng. Decisoln by BRA to nominate a Board of directors In Appointment by BRA of a Board In each bank ider each bank under rehabilitation responlbte for their rehabilitatNto. Approal by bark boads of perfoac institutional and finanial recovery. Indicato ' -. targets for the recovery of each btn. 4. Repqgment of Frozen Foreign Decision by SOS and design of techical Instrunets Rewision, If necessary, of the term of the bonds currAeny Deposits to provide recesary liqudity suIport to Indivial assigned to the bears to facilitate repepmnt of bwis. depsits. Approvalt by NO of tradire of bInds amu bes, ider conitili set by BOO. Rfeilon, as meces.ary of the ontingeny ptan. DebtRe S. carv-eat of Problem Debts Sthstantial ctpltetfn of te asset inwentories as Restructuring or other Iapeprorate resolution for at required by the oecree for Rabilitation. least o third of te debtors wd one third of the dets carved-out frm the banks. 6. Institutiaml Arrrwemt Approal by the RA oUbard of pans for sepratins s tement fro exterl auitors on the ffiacial the strctites of the bt tatrder rehabiRitation coWition of amy entity chargd with responsibility for from those Sporting the recov of caved-out managi the carved-out assets. * action to be tak before JAm 30, 1993 o indfcator of oa|timi9 Pros AREA ACTIONS TAKEN TO DATE SEc E TIANC t. uldelinem for Debt Appr tal by USA's Boad of SPA guidelines on e Statemeat frm external auditors confirie copianet aecvery recovery erd restrcurrig of debts carve ut frm with Ocard establshed polfcies for debt recavery. the banks uder rehabiltitation. 9 Adption by Don of accosating guidelines for e Confirmation by extentl auditors th credit rena.t troihled debt restnrtLring applying to all banks. extenion, nd restructuring for adverey ctasaffed borres hs been In coplluae with the guidetines issued by BOS, e by poticies adopted by the bt*s. 8. Banking Law U Ssuasswon to Partiint of satisfactory Adaptlon of ients b Paritent. Adaptation by the _menients to the Law whidut tpte minima entry OS of priw rewtations to confom to the ed Law. capital; erhance bu* soernance; extad lending limlts to grous of related borrowrs; scify Individual maximau fgwestsnt litmits; redce the aegregte lamit for fixed assets end stocks to 60X of each bai ks capital; incrase minima capital adequacy to 8I by end 19; and, eowr 306 to set coWulsorr regulatory eccoLntting prectices and extewntl audit requirecmtts. 9. 8ank Rhebilftetfen Low. 9 sufvisafon to Parliujent of satisfactory Adoption of aendno ts by Partlient. mendzents to the Law siicb: oeiminato the zsxioua limit of IZ on the share of any individual bank shareholder to facititate bank governmco and privatization; and euthori:e sOS to provide teprary operational liquidity support to BRA. 10. asak Rehabititation Asegu Adoption of new tegistation governing BWA reflectin Its Deree xanded role ad responsbitities. II. B1 of slovena Adoption by ON of a decree er ens the present * Appication of th now rules by all anbs for the Relationrs asst clasifIcation ard provisioning guldelines, clasure of 1993 accomt. including rutes for Interest soupension. * Adoption by 005 of capItal adequay rules to e Adoption by SOS of new capital adequcy regulation to ensure copatibility with the BIS standards, using conform with the meded lning Law. higher weights for risks and sustantially dfacounting revaluation reserves for fixed assets nd Investments. 12. Institutional Developnent I Adoption by the Board of the SOS of a plan to Progrs In impletentfng the plan. enhance bank supervisory capabilities. includfng tims-bound targets for implementation the main components of the plan. lank Prfvatfiztion 13. Privatization of eenks Privatization at least of one bank and develtpant of the core elements of a prfvatization strategy for banks under rehablittation. 9 actions to he token before Juna 30, 1n * Indiestor of contiuuung progress 80 page I OfS SLOVEA ENTERPRLSE AND FINANCIL SECTOR ADJUSTMENT LOAN TECHNICAL ASSISTANCE PROGRAM The tecical assistance to support the Goverment's progam as detailed in the Letter of Development Policy would include the following components. It could also finnce additio or alternative components required to accomplish the Governmentes program, if the need emerges during implemenaon. The total foreigp cost of these componen Is esdmated at about US$8.6 million equivalent, of which about US$5 million would be fianced by the proposed World Bank loan The remainig amount, US$3.6 million equivalent, would be financed by the Govement or from other multilateral and bilateral financial assistance. A detailed breakdown of the costs and financing plan Is attached. (a) Macroeconomic framework: development of Treasury operatons of the Ministry of Finance (MOP), and study for medium-term pension reform (Total cost US$0.3 mlion); (b) Financial sector restuctring, mcluding strengthening banr supervision, bank restructing and debt workouts (Total cost US$4.4 million); (c) Entprise restructring/privatization, through support to the Pdvatzation Agcy and assistace in elaboratng a stategy for indstril development (Total cost US$3.1 million); (d) Strengthening the legal and regulatry famework, including support In frmlating appropriate leglation for mortgages and collateral regitration, and in moderning the land registry, as well as advice on specific laws as appropriate (Total cost US$0.7 million); (e) Reform of the labor program, including labor restrucuring and the issue of mass layoffs (Total cost US$0.1 mmilon). Maeroeconomic Framework Trmeasry Opeaions. To complement asistance being provided by EC-PHARE, dt projec could fiance about 6 staff-months of short-term assisn to provide advice and guida on th development and establishment of prmary and secondary markets for pubLic sector sec"cr , and reated softwae. Pension Reorm. The project would finance about 12 staff-months of epert advice to carry out a study and prepare an action plan for medium-term pension reform. 81 Page 2 of 5 Financial Sector Restrucuring Bankting Supervision. The proposed project would provide support to the Bank Supervision Deparment of the Bank of Sloveia (BOS) to implement Its Institutional plan to speed up the dvopment of off-site and on-sie supervision. This plan, which has been adopted, ams at: (4) mproving bank reporting by, hter alla, prescribing accunting rules compatible wih Ieratona , , upgrading the present computerized system to provide for more timely and acrate perormane monitoring of rik exposures, and an early warning system; (iii) development and Implementation of on-site examinaon methodologies; and Civ) development of an appopriate traing pwogram. The techn asstce would finace: - an expe on bank supervision for 2 years. Among the tasks of the bank supervision aepert, in addition to the deliveing of sbort seminars on on-site ispection methodologies, would be the development of a taning program, which could include: at least four formal seminars per year on such topics as interra conrl, credit and financial risk management, foreign exchange operations, and classification and loan provisioning assessment. - about 12 staff-monts of siort-term consultants services to help with, Inter alta, reviewing the efficiency and productivity of the bankdng system, developing examination manuals, and rewing and adapting bank accounting and reportng practices. The short-term advisors would inde experts in bank accounting and auditing and an interdisciplinary expert in computerized systems for off-site analysis. - training required to help strengthen BOS's suprvisry capabilities. The program could also includ seminars covering other areas of interest; and overseas taining of examiners who woud in tmn provide on-the-job training and informal seminars fot additonal examiners. Bank Resructuring. The proposed project would provide extensive technical assistance to the Bank Rehabilion Agency (BRA) to develop and implement bank indtional development programs. Ihis would Include: - about 18 staff-months of assistance from a banking expert to look at strategic issues in bank reform and restrctring, Including the development of privaizaion schemes. - 24 staff-months of aistance from an international cowling firm to provide advice on a wide range of banking ortivities, such as credit processing, treasury operations, corporate finance and financial egineering. Ihe consultats would assist in the assessment of fte banks' stdtutions and management procses as well as in the Implementation of the most wget cnge needed. - a special program of istutional strengthening for Ljubljanska Bankm dd (LBdd) (to be coordinad with assuisance from EC-PHARE). Support from the World Bank loam would focus on overall coordination and advice (a banking/managemen expert for 18 months) as well as on creit risk management (18 moths support). - consultans would be required to carry out institutional diagnostics of 6-12 other banks under BRA's contmol. Such diagstics would assess the strategic outlook and market potential for 82 Pag 3 of 5 each bank and propose the changes needed to reinforce management suctures, isk processes, qualit- control and management nfation systems, and would make recommendatons regading economies of scope and scale and the desirabflity of mgs between banks. The diagnosdc study would serve as the basis for discussions betwen the bank's management and the BRA in order to prioritize the Impl on of Improvemens to enhanme tie banks prades and contols for risk m Finaly, the consultans would assist in the development of an action program for each bank to Implemot th recommendations of the diagnocs. lh Bank loan would fiace 1-2 of these diagnostics, which, together with the formulation of an action progam, are esdmated to cost between US$50,000-US$75,000 each. Debt Recovery/Debt Workouts: 3 eets, for one year each, to assist the BRA (or the work-out unin the banks) In the debt recovery process. Enterprise ReformAPrivatlzadon. The privatization process reures areful prepaation, design and execution, reqaiing etensive assistance from foreign and domestic consultant. Over de next 69 months, Xt Prvation Agency and the Development Fund, In addidon to the support currenty being provid by EC-PRARE, requires assistane in the following areas, some of which would be finced through the proposed Bank loan: - Inii Public Offrin (IPOs). The Privazation Agenc and Developmnt Fund, at this stage, would like to concentrate on the privadaton of a limited number of selected rge domesic enterprises through inidal public offeings. The project would finance a team of experined mercant bankers to desi and implement this process for the first suchc ases. Tis team would also assist in the preparation of sample documents to serve as refeence material for fture privat1zations by thi process. - Domestc and some foign consulta to help prepare Internal documen needed for the privazonprocess (shareholders agreements, saes, ardcles of association, by-laws, ESOPs, etc.). The consultants would prepare sample Iral documes which could be widely disseminated and adjusted to meet the particular needs of iniidua companies, in accortdan with the provisions of the Company Law. - Consult (primarily domestic) to provide expert opinions on specific issues, such as eml-ronm6ntal audits, legal and financi audits and evuaion reports In the supervision of individual large trnactons in the privatzaton process. - Local conulants would be required to superie ownership transforation programs. Industril Development. The Mnistry of Industry needs assstane to asss Intaives aready aken In th context of developing a coherent sty for hIdustril development. Such a strate would: () ede "aps In tem of maion, train, application of stadards, etc., which are Impeding efcdve indusri development; (I) assess the measures which need to be takbe to failitate Slovenla's assimiladon into the Industrial structure of the EC; fii) asses the necessity for and a iatess of any other direct intevention measres by Govanment in the indusi secr, 83 Page 4 of 5 and (v) thereby Identify and elaborate an appropriate role for the sta In formulating and ImplementgSlovena Inia' u stial policy. Two types of technical aistae are required: - approximately 2 staff-months of highly-specialized asitance to help the Govenment to develop a Medium/long-term Indusi policy: (estmted total cost: US$100,000). - apprxImately 6 staff-mondis of follow-up work to prvide the deted desig and begin Implementation of the most critical of the actions required under this policy: (esimated tot cost: US$200,000). Legal and RWultory Famework The project would provide: - 6 staff-months of consultants to provide taining of trainers who could subsequently train judges and prsective trustees in the implementation of the new bankruptcy procedures, - 2 staff-monXt of consultan to review and assess the current situation and to make recommendations for improving the system for rgiing security interests/collater, Including considering revision of te Company Register to permi the regstradon of liens. - 2 staff-monts of consultants to prepare terms of referec for a program to modeize the lnd register (ncludg consoaidon of options for Improving the cadastre), including the assessm and definition of needs. - 6 staff-months of consutants for adice/assistae specific iaws and regulations Labor Market Adjusment. The proposed project includes about 6 staff-monts of tehnia assistance to help improve the effectivess and efficienc of the Miistry of Labor's labor restructuring program, including mass layoffs. Total proposed technical assistace component of World Bank loan: US$5.0 miUon. Esftmated disburseuart period: 24 months. The Mistry of Finan wil be responsible for the maoement and adminisron of the tcbcal asis nds and will pass tm on to the various recipient minstries and Inttuin. The M stry is considering setting up a Project pin I Unit which would act the apex for tlw prpoud w_nent Reoery ProjecL This Unit would also be ronsible for the coord_ ad n of the proposed tehical ass ce, incuding the cont appval and proedures, both in accordance with Wodd Bank guidelies. xmpl ton of Xh varous componen will be the responsibility of the vaio recipients. These mistries and inittions will oversee the implementation of the specific actities within a framework agreed with the Mistry of Fiance. 84 Page 5 of S SLOVENIA: ENTES1E AND FNANCIAL SECrOR ADJUSTMNT LOAN ¶zU4cALm ASSTAN*2 PROGRAM( DBrAML UUEAIDOWN OF COSTS FOR KM COONNINT (S MILLONS) cowsslf;AWC=W -LA Zaua lo.aiaa Tota Gm"J WMd Ods Bank TOWa MRORCONOMIc 1RWORK T=Wy:SoouildeamabDe 0.01 0.11 0.12 0.01 0.11 0.12 PloaRdws gm La Q2Q Q1 Q TOTAL _____ _ _ _ W BANK SU VJON Bank oltoe1don MM 0.04 0.41 0.45 0.04 0.41 0.4 Amounting oW mpagft 0.02 0.18 0.20 0.20 0.2 cav_aboio "mm aam obftas adv 0.09 0.09 0.09 0.0 O*t by am (e.., pwamep of amdn wetohw QI QlIl gm5 sa Qa gm Subtow (comliata tWIc) 0.17 0.77 093 0.44 00o 0o3 TwIalq S . (local an Md a.) 0.01 0.05 0.06 0.01 0.05 0.06 Oven.baeg o fA k ma (lian) La W2 Li I * 0Q *ll Subloud (raT 0.02 0.3s 0.17 0.02 0.15 0.17 TOTAL (Dak Soptrwo -JA "L BANK RERABUJTATION CoinaltooW Smrka St.ate 0.03 0.29 032 0.03 0.29 0 Bkn gousulgta Mr4 (=qofa Ipzucadl& wssur cias, eto.) 0.04 0.43 0.48 0.04 0.43 0.48 Bankpriatkaton 0.02 0.18 020 0.02 0.18 0.20 Dhebt 3 asm cosiabe dWendbmofiobdoe) .06 0.58 0.63 0.0 0.58 03 t SddInldwa 9obb Cmidiss" 0.03 029 032 0.03 029 03 Cteadakoumaew(am) 0.03 o0 030 0. 0.27 030 Fmmia ddk soonagansoMA0.04 036 OAO 0.40 OA0 Dkb*u f o6w bnb nerBRA sI QX gml QQ gm ILQI g9A Slw OA 2.7S 323 1.14 2.09 3. Toar Sma Q9 gm go QX gm Q TOTAL_ __ ,,, , W ARIw DETERS RISUREON CoAllb Sank.m D_i" d exenud f fit RD eoal f ao maril (_hb bkm) 0.10 1.00 1.10 O.tO 1.00 1.10 .OSO O5 O0S 0.50 0.05 05 Ad*canbgobpvadm 0.X5 0.40 0.65 O5 0.10 0.6 Pzvahadoa p wpmbia 0.50 0.0 0.50 0.50 0.00 00 Jadnatla DeVL Stmtag onumba Ormanal gm gig Lau aim Lag0 0 wam" TOTAL41 _1 LOGAL AND BCBLWTRYFAtaOU :O&WOM Soolaft, LadO0.11 0.10 0.21 0.11 0.10 0.21 SuBpy:T geft of Udom 0.01 0.10 0.11 0.1 0.10 0.1 LABOR MA R EFORM LaW ppf tt. mmlob QA La LQU 0* La QL TOTAL (Labw M Rabn ,* no ,U La 0* Lii GRAND TOTAL sab my nt add due to amait. 85 SLOVENPA Tecal A_ for Cre C_one of d roaosed Eaurpe ad fwal Sector M4uft Ls T GAo i tolam IA 0so maGeC Psmlo.Rshmm Saidl aed Pi%"" of odoas pasm h c d s * E,anwd es: 2 mUuptof a * Mud a s Deip ad caensof Dosp snd extadam of tVadasm of fia sooseh Ph mdom d 400 _admily ond pWWszmio&ao Ihnus goe wkh by kiWds peblie o8mdA andi "alaodoaoftaosked cateapis. acowAnsl (ha 20% of pasMoios of tw Law on puosaduau and susVpl daoummulato sma as gofeesuc Us vaIn added amuoof4 Owma* ThadmvAou odmwinoM fea BMWs psivaiadone by weat mehdW. cmd fat z,Lwa 8 Lsbaated ass: $1) midNipmsciimmd Papandu af kftmd doommanis mo for dke See a aboVe,end NW es -p - *~~~~~~~~ Lanae a;p.zfess: 50doc ruS.g p_ha&mpecem (0e.g dwowesoe_e pwaWosueo dwAos. by4semh 3SOPs. de.). ptans. aofasove ow., nededm an U..d aw. . mpthiofidvldanml taamras o Li a,d o w $O.7asA1.n *uperviden of OWOOU* kensbmdwn PMess Sam a above * Eshatemd gem: W ml Won o Eadmad co: $M mI. Fow"_ o obipvM d_EPe X dutpsmi b lAbOtOg"aoutmw ~ Awealstntob lnyavbnt U.. endo n N effosney Adopihno of994 badgelundi Of ibeMlnlamY Of LeAoSs labor reMoassing PIaoMsa sh@paan bad"l dfoUt aIs 1 of IncludIng U. bmodden of mnss layoff =sD and ponds uosptan . & asmaw Cow L- mom * Etged e#. $0.1 l. llI Uii ii 1 I Wi'0 il Wi 1 A~~~~I IE 1~ MI I ' g 87 TAND PWANCLAL SCR AD19TNr LOAN SUPPLEMENTARY PROJECT DATA SEE' a. Tim take to preOp projet 9 mont b. RgWsoslblly fo project preparon om c. Fir Bank misso July 1992 d. Apprsal misdon depaur Apr 5, 1993 Ngoaons une 7-11, 1993 f. Planned date of effecivene Septm 1993 g. List of evat PCRs ad PPARs None None See Amez 3 32~~1 fX Aa |X lI I iii 32ii'2 ill} coO N1|§ 1 N 0 0S1 XXi IS ; j iE I ii4g ^6I " X~~ i jSi igSi,X i|l( JIJIdI # §}X}}§A Al§ A A