As the main priority to break the loop and restart the economy, the IMF calls on Slovenia to repair the financial sector and improve corporate balance sheets, assessing the Bank Asset Management Company (BAMC) as an effective way to clean bank balance sheets, but calling for a quick recapitalisation of banks.

The IMF also encourages the country to continue with fiscal consolidation to reduce the structural deficit, welcoming recent labour market and pension reforms as "steps in the right direction".

The mission expects Slovenia's economy to contract by about 2% in 2013 and projects growth to turn positive in 2014, "but this is predicated upon implementation of reforms and continued market access as well as a recovery in the euro area".

A large part of the report by the IMF mission deals with banks. They warn of the increase in the share of non-performing claims from 11.2% at the end of 2011 to 14.4% in 2012 and that the three largest banks saw their ratio increase from 15.6% to 20.5% in the period.

IMF experts find the establishment of the BAMC as a step in the right direction, but note that the clean-up of balance sheets and helping restructuring the highly indebted corporate sector should be carried out "with the utmost transparency, avoiding any moral hazard".

The latter arises from "the close relationship between banks, corporates, and the public sector. For this reason, the mission sees favourably the appointment of international technical experts as non-executive members of the board of the BAMC."

The IMF also warns that the transfer of assets to the BAMC is "not a substitute for the need to increase capital (in cash)". The recapitalization needs for the three largest banks are estimated at around EUR 1bn in 2013, but deteriorating economic conditions could increase the need for capital.

Considering the large proportion of bad loans taken out by the corporate sector, the IMF urges Slovenia to address corporate governance weaknesses too, offering the Report of Standards and Codes on Corporate Governance by the World Bank and the OECD as help in this respect.

IMF experts also recommend Slovenia to open up to foreign direct investment, noting that "misconceived defence of 'national interests'" burdens the budget and unduly prolongs the corporate and financial sector distress. "A prominent privatization could convey a powerful signal to international investors."

While welcoming labour market and pension system reforms, the IMF warns of some deficiencies such as the failure to reform the student work scheme, and that a new pension reform will be necessary in a few years.

The IMF believes the fact that changes had been thoroughly negotiated with social partners and passed with near-unanimous support in parliament "creates a stable basis for further efforts".

The IMF projects Slovenia's deficit (excluding bank recapitalization costs) to increase to about EUR 1.5bn in 2013, while the country's financing needs for the year (excluding the bonds to be issued by the BAMC) could reach EUR 3bn.

The IMF delegation visited Slovenia between 12 and 18 March with the purpose of resuming consultations after the regular mission in the autumn of 2012, reviewing the state of economy, the functioning of the financial sector and the banking system and future challenges, the central bank said today.

The IMF staff headed by Antonio Spilimbergo met during the visit officials from the central bank Banka Slovenije, the government, banks, the Institute of Macroeconomic Analysis and Development and the National Housing Fund.