Press Release No. 22/65

IMF Staff Completes Staff Visit to Croatia

March 7, 2022

• The conflict in Ukraine is casting a shadow over an otherwise strong economic recovery from the pandemic—macroeconomic policy should be nimble in the short-term; inflation risks are tilting higher.
• EU funds will play a critical role in future growth, as will the reforms associated with NGEU funds—the authorities have made a promising start.
• The banking system is well capitalized and liquid. Rising global risks call for continued supervisory vigilance.

Washington, DC: An International Monetary Fund (IMF) team led by Mr. Srikant Seshadri conducted a virtual staff visit to Croatia during February 28-March 7, 2022. At the end of the visit, Mr. Seshadri issued the following statement:

“Croatia’s 2021 economic rebound from the pandemic has been impressive. The economy has significantly outperformed earlier expectations with 2021 growth at 10.4 percent. For context, it was not until 2018, that the economy had fully recovered from the 2008 shock of the global financial crisis. The fact that, on aggregate, the economy is now already back to 2019 real income levels testifies to the importance of fiscal buffers and improved macroeconomic management.

“The conflict in Ukraine is casting a shadow over an otherwise strong economic outlook. In the short run, macroeconomic policymaking will need to stay very nimble in a world with elevated uncertainty. With respect to medium-run challenges, Croatia must efficiently utilize the generous allocation of EU funds allocated to recover from the recent earthquakes, transition to a greener and more digitalized post-pandemic reality and strengthen the cohesion of the EU. A commendable start has been made by the authorities on the reforms associated with the “Next-Gen” EU funds. This reform momentum must be sustained. Vested interests holding back reforms that make the Croatian economy more efficient—including on pensions, healthcare, and public administration—must be challenged. These reforms will allow Croatia to reap the full benefits of euro adoption and sustainably raise living standards.

“ Near-term inflationary risks continue to tilt higher as energy and commodities markets price in the consequences of the conflict in Ukraine. Energy prices—and therefore inflation—will also remain higher for longer. The authorities have recently unveiled a package of measures to alleviate some of the burden on the population. Last year’s stronger than expected growth performance has provided a cushion to help absorb the fiscal costs of these measures. However, to conserve the state’s revenues for possible future shocks, these measures should be allowed to lapse once they have served their purpose. Moreover, domestic inflationary factors need to be kept in check. Public sector wage increases should therefore be carefully measured and combined with efficiency enhancing public sector reforms that benefit the taxpayer.

“ Future growth prospects hinge on the efficient utilization of EU funds. “Next-Gen” and structural EU funds (totaling some 30 percent of GDP over the next five years) must play a greater role in generating economic growth. If the absorption of these funds and the quality of public investment were to significantly improve, so would the economy’s growth potential, as well as its ability to catch up with EU peers. Increases in public investment need to be matched by a labor force well-prepared to thrive in an economy that is greener and more digitized. The authorities’ policies to promote reskilling and retooling of the workforce should be supplemented by measures to support job creation in green and digital transitions.

“ A strong public investment management system is needed to maximize the benefits of EU funds. The IMF is pleased to have provided capacity development through a Public Investment Management Assessment (PIMA), in 2021. In accordance with the PIMA’s recommendations, we welcome the creation of a strong central coordination function in the Ministry of Finance, tasked with appraising and supervising investment projects consistently from a national perspective. Decarbonizing Croatia’s economy will require major policy reforms, and significant public and private investment in all sectors. Croatia has access to considerable EU resources to help support this transition. The necessity of adapting to climate change and mitigating its impacts should be embedded as a fundamental consideration in public investment projects. The authorities are urged to develop national guidelines to facilitate this process.

“The banking system remains well-capitalized and liquid, yet continued vigilance is essential. Profitability indicators of the banking system have strengthened in tandem with the ongoing economic recovery. The share of non-performing loans (NPLs) has declined since the beginning of the pandemic (from 5.5 percent at end-2019) to 4.3 percent end-2021, due to NPL sales and the economic recovery. Although the stock of general-purpose cash loans has declined since Q1 2020, the NPLs in this sector have increased. House prices have continued to grow, particularly in Zagreb. This may be related to a myriad of factors, such as foreign investor purchases, and rising construction costs. Against a general backdrop of rising global risks, the authorities are urged to remain vigilant.

“The mission held fruitful discussions with the Deputy Prime Minister and Minister of Finance Marić; Governor of the Croatian National Bank Vujčić, and other government officials, and representatives from the private sector. The mission thanks the authorities and all interlocutors for the frank and constructive dialogue. The IMF looks forward to the upcoming 2022 Article IV Consultations, scheduled for later in 2022.’’