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CAPITAL MARKETS

Political waiting game continues to dominate moribund market

Politics continue to have a dominant impact on the market. Over the last two weeks, the official SAX stock market index has declined by 4.9% and posted a new all time low at 91.82 on October 27 as the market has been discounting a lack of progress on the political front.
With a traditional immunity of the market to global financial developments, we do not expect any significant changes in market sentiment. Investors are waiting for the new government, which will be introduced in the first week of November and could help ease the political risk factor of the country.

Politics continue to have a dominant impact on the market. Over the last two weeks, the official SAX stock market index has declined by 4.9% and posted a new all time low at 91.82 on October 27 as the market has been discounting a lack of progress on the political front.

With a traditional immunity of the market to global financial developments, we do not expect any significant changes in market sentiment. Investors are waiting for the new government, which will be introduced in the first week of November and could help ease the political risk factor of the country.

Fiscal deficit rising on shoulders of tax shortfall

At the end of September, the unemployment rate in Slovakia remained 13.8% as in previous month, which is 80bps higher than in September 1997. The Slovak current account posted a deficit of US$1.24bn at the end of July 1998, mainly as a result of a trade deficit of US$1.26bn.

The current account deficit remains well above 10% of GDP but has been financed by a surplus on the capital account worth US$1.44bn. The growth of the deficit will slow in 4Q98 due to a weaker koruna and decelerated investment activity. The year-end figure will likely be between 9 and 9.5% of GDP.

M2, the money supply aggregate, increased only 5.6% year-on-year in September, which is far below the central bank's year-end target of 9.4%. The lower dynamics of the M2 during the last 2 months were probably caused by a decline in short-term corporate debt. This decline is a result of decreasing exposure of foreign investors to Slovakia in the aftermath of emerging markets crises.

However, net domestic assets are growing faster than M2. The NBS will therefore continue in its prudent monetary policy in spite of the favourable M2 developments. The central bank's commitment is viewed very positively, as macroeconomic stability is a necessary condition for the structural reforms that must be introduced soon by the new administration.

The central tax office predicts that budget tax revenues will be 13 billion Sk ($360 million) lower than projections. Tax revenues were 12 billion Sk behind target at the end of 3Q98, but the tax office is counting on higher than expected revenues in 4Q98. The fiscal budget deficit should thus reach 21 billion Sk ($583 million) which is fully in line with market expectations.

The government approved a proposal for an increase in the minimum wage from the current 3,000 Sk to 4,000 Sk effective January 1, 1999. This would substantially increase the maximum allotments to social and health-care insurance funds. However, the increase must by approved by Parliament, and opposition economic experts declared that the new government would not agree with such a steep growth. A more moderate increase of the minimum wage to 3,600-3,800 Sk is more likely.

Corporate managements digging in

Shareholders of the largest insurance company in Slovakia, Slovenská poisťovňa, did not approve an increase in the company's registered capital. However, the general meeting passed a controversial amendment to the company's statutes, by which all personnel changes on the Board of Directors and Supervisory Board must be approved by a two-thirds majority of shareholders.

The increasing effort of managements to entrench themselves in their companies is symptomatic of the current development in the corporate and banking sectors in Slovakia.

The banking sector in Slovakia continues to be unhealthily dominated by troubled state controlled institutions. These institutions continue to misallocate credits which results in the deteriorating quality of their loan portfolios and high social costs. Problems in these institutions have been accumulating over a long time, and if not tackled soon, a fully blown banking sector crisis could erupt.

The fragile stability of state-owned banks has to be addressed immediately, lest overall economic stability be seriously threatened. Furthermore, banking sector restructuring is a necessary step for effective corporate restructuring, as banks need to play a crucial role in enforcing hard budget constraints on corporates. A lack of those is an unfortunate legacy of the previous economic system, and has been hampering corporate restructuring in the country ever since.


Vladimír Zlacký and Tomáš Kmet are equity analysts with investment bank ING Barings

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