Developments since transition Slovenia 's relative prosperity has been a key factor in the country's approach to reform, which has differed substantially from other Central and Eastern European (CEE) countries. It has followed a gradualist and consensual approach to change, frequently postponing many key structural reforms. While this approach has worked well for Slovenia so far, the country's competitiveness is slowly eroding, making the need for deep economic reforms more urgent. The slow pace of reform and reluctance toward foreign participation in key areas has contributed to a relatively low incidence of foreign direct investment (FDI), with the average net FDI equivalent to about 1.2 percent of GDP in 1997-2005. This is despite a major change that took place in 2002, when the share of net FDI to GDP reached almost 7 percent. Nonetheless, FDI inflows to Slovenia in recent years are small compared with the other economies of CEE – in 2005 net FDI was 0.2 percent of GDP. Scant FDI inflows deprive the economy of an important mechanism to speed up the upgrading of production capacities. The Slovene economy has achieved solid growth—averaging 3.9 percent from 1997-2005—while avoiding the major macroeconomic imbalances that characterized most other transition economies in the region. Tight fiscal and monetary policies have contributed to remarkable stability, allowing the economy to enjoy both external and internal equilibrium with balanced fiscal budgets and open foreign trade. Since 1996, the country has enjoyed single-digit inflation and maintained a nearly balanced current account. Unemployment rates, which have been below the average for the region, have stayed around 6-7 percent since 1997. Recent economic performance Economic performance remains strong as a result of rapid growth in gross capital formation and household consumption. However, some slowdown might be expected as a result of fiscal tightening to tackle inflation and the widening trade gap. With external markets slowing in 2008, Slovenia 's current account balance deteriorated from 5.6 percent of GDP in 2007 to 6.1 percent GDP in 2008 as a result of a large merchandise trade deficit. Inflows of FDI have increased recently and covered over half of the current account deficit in the first half of 2008. Slovenian banks do not appear to be excessively exposed to the financial turmoil, however growth could slow down if demand for Slovenian products decreases. Inflationary pressures are expected to ease with economic slowdown, however without public sector control over wages, there is a risk of a prolonged wage-price spiral that could negatively affect the efforts to reduce inflation. Challenges ahead While the near-term outlook remains benign, Slovenia faces important medium term challenges. To overcome these challenges, the country should tackle four major tasks: Maintain a tight fiscal stance to contain inflation risks. Deal with the challenges of an aging population while improving the flexibility and efficiency of public spending. Speed up the implementation of policies that boost productivity growth and increase labor flexibility and participation. Enhance bank supervision to guard against market and credit risks.
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