Money and Markets: Essays in Honor of Leland B. Yeager

No-name money 159While inflation in the rest of Yugoslavia accelerated very quickly, Slovenianmonthly inflation, after a very short period of two-digit rates, declined consistentlyuntil it slowed down to 1.4 percent in August 1992. The Slovenian monthlyinflation rate in October 1991 had exceeded that of Yugoslavia, by April 1992 ithad declined to 5.1 percent, while Yugoslavia was entering hyperinflation withmonthly rates exceeding 70 percent. The Yugoslav inflation peaked at 102 percentper month in June 1992. In the same time period, Slovenian inflation had decreasedto 2.4 percent per month. 23Under a technical point of view, Slovenia made the “right” anti-inflationarydecisions by triggering a “virtuous circle” (Yeager 1981: 34). Specifically, a virtuouscircle is created by the simultaneous adoption of a restrictive monetary policy and afloating exchange rate regime for the new currency. In Slovenia, the appreciationof the new domestic currency on the foreign exchange market lowered the domesticprices of imported goods and those of import-competing and export goods. Thus,facilitated by the reduced growth of the money supply, the tolar gained additionalstrength on international markets. Of course, the virtuous circle working throughimport and export prices is particularly important for a country as small as Slovenia,whose growth and development rely so heavily on international markets. This is sobecause by enabling the adjustment of internal and external prices to new tradepatterns, the floating exchange rate promoted a quicker adjustment of expectations.In addition, these adjustments helped the country to allocate resources and effortstowards comparatively advantageous sectors. 24Finally, temporary measures including some price controls also proved useful inbreaking the momentum of inflation during the first couple of years after the introductionof the new currency. In fact, the analysis of the catch up component ofthe inflationary momentum leads to the question whether it is better to achievestabi lization gradually or through a shock therapy. Gradualism is favored by argumentsthat hinge on its ability to reduce the friction caused by changes in the allocationof resources. Additionally, gradualism is supported since it takes time toachieve the degree of credibility necessary for avoiding severe side effects andto change expectations. Arguments against gradualism, on the other hand, claimthat gradualism leaves sufficient time for speculation and inflation hedging, andthat gradualism may hide a dramatic policy change and, therefore, fail in turningaround expectations and weakening popular support. The Slovenian stabilizationprocess succeeded in creating the perception of a dramatic policy change. It is thisperception that assured voters’ support while, at the same time, taking a moregradual approach with respect to areas less exposed to popular scrutiny and concern.Specifically, the stabilization program adopted a slow and gradual strategywith respect to the reorganization of the banking industry.At the time of the newly acquired independence and of the ongoing war in therest of Yugoslavia, Slovenian banks found themselves holding a large portion oftheir asset portfolios in the form of non-performing loans, or frozen in repossessedYugoslavian assets. 25 These losses, which were increasing rapidly because ofinflation, were recorded on the balance sheet of the Yugoslavian central bank andwere recognized at the federal level as public debt. The newly created Bank of