## _cr16187

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### Short-Term Indicators — Background and Recent Developments
- Croatia began to gradually recover since the last quarter of 2014 after a six-year recession.
- 2015 real GDP growth: 1.6 percent.
- 2015 growth drivers:
  - strong exports and tourism,
  - revival of private consumption,
  - higher public investment.
- Private investment growth turned positive in 2015.
- General government deficit narrowed in 2015 from 5.5 percent of GDP to 3.2 percent of GDP (ESA2010 definition).
  - Cyclical revenue upturn estimated at 0.5 percent of GDP.
  - Under-execution of public enterprise investment in Q4 estimated at 0.8 percent of GDP.
- External current account balance improved from 0.9 percent of GDP in 2014 to 5.2 percent of GDP in 2015.
  - Export growth in real terms: about 12 percent.
  - Tourist arrivals up 9.1 percent; tourist nights up 7.6 percent.
  - Almost half of the current account increase due to one-off decline in profits of foreign-owned banks (~2 percent of GDP) related to Swiss franc loan conversion.
- Since February 2014, CPI inflation largely in low negative territory due to declining energy and food prices.
- Remaining rigidities and vulnerabilities:
  - Large public and external debt financing needs: about 16 and 19 percent of GDP, respectively in 2016.
  - Structural reforms lagging.
  - High unemployment and low participation rate.
  - Projected medium-term annual growth: 2 percent.
  - Per capita income substantially below the EU average.
- Exchange rate and reserves:
  - Kuna-euro rate stable with slightly stronger seasonal appreciation since February 2016; quasi-peg preserved.
  - Gross international reserves increased by €1 billion to €13.7 billion in 2015 (equivalent to 102 percent of short-term debt by remaining maturity).
  - Government issued €1.5 billion 10-year Eurobond in March at a yield of 3.25 percent.
- Monetary policy and banking sector (end-2015):
  - CNB maintained relatively accommodative stance within quasi-peg.
  - Interest rate changes in 2015:
    - Lombard rate halved from 5.0 percent to 2.5 percent.
    - CNB discount rate reduced from 7.0 percent to 3.0 percent.
    - Rate on short-term CNB liquidity credits cut from 6.0 percent to 4.0 percent.
    - Penalty rate on required reserves lowered from 12.0 percent to 8 percent.
    - CNB overnight deposit rate has been zero since April 24, 2013.
  - Banking system capital adequacy: 21.0 percent CAR.
  - NPL ratio: 16.3 percent of loans; NPLs fairly provisioned.
  - Banks’ claims declines (March 2015 to March 2016): non-financial enterprises −4.7 percent; households −8.0 percent.
    - Adjusted for exchange rate movements and NPL write-offs: −1.3 percent and −1.1 percent, respectively.

### Outlook and Risks
- Staff growth projections:
  - 2016 growth: about 1.9 percent.
  - Medium term stabilization: around 2–2¼ percent.
- Fiscal projections (staff baseline):
  - 2016 general government deficit projected at 2.8 percent of GDP.
  - Further steady decline to 2.3 percent of GDP over the next few years.
  - 2016 budget targets a deficit of 2.6 percent of GDP.
  - Cyclically-adjusted primary balance estimated to improve in 2016 by about 0.3 percent of potential GDP.
- Public debt and external debt projections:
  - Public debt was 37 percent of GDP in 2007.
  - Projected to stay high at over 86 percent of GDP during 2016–17.
  - Projected to slowly decline to 82 percent of GDP over the medium term.
  - External debt expected to decline from about 104 percent of GDP in 2015 to 84 percent of GDP in the medium term.
- Risk tilt: downside.
  - Upside risks: return to very low energy prices; acceleration of reforms.
  - Downside risks: slower external demand, normalization of global monetary conditions, border disruptions, delays in fiscal reforms and EU funds absorption, domestic political challenges.

### Fiscal Policy, NRP Reforms, and Consolidation
- Authorities’ reform program contemplates steady consolidation to reduce headline deficit to 2.6 percent of GDP in 2016 and 1.0 percent of GDP by 2019.
- Staff estimate: full implementation of the NRP reforms could yield up to 3 percent of GDP.
  - Phasing-in this adjustment over the next few years would result in the 1.0 percent of GDP targeted deficit by 2019.
  - With this adjustment, public debt could decline to below 80 percent of GDP over the medium term.
- Key fiscal savings, 2016-21 (In percent of GDP):
  - Revenue:
    - Adopting property tax 1.0 - 1.5
    - Health sector additional income 0.3
    - Other revenue measures 0.2
  - Expenditure:
    - Savings on public sector wage bill 0.2
    - Savings on social spending 0.6
    - Other expenditure savings 0.5
  - Total 3.0
- Staff recommendations and priorities:
  - Advance civil service and social benefits reforms to achieve fiscal targets and improve efficiency and equity.
  - Contain the public sector wage bill and postpone public wage increases; estimated budget impact of previously planned wage increase about 0.5 percent of GDP.
  - Make part of compensation performance-based.
  - Accelerate implementation of the one-stop shop for benefits and enhance means-testing; social spending is large at 16.5 percent of GDP.
  - Reform the health sector to reduce costs and arrears and improve service quality.
  - Strengthen public sector management, advance privatization of inactive assets, and improve absorption of EU structural and investment funds.
  - Amend the Fiscal Responsibility Law to strengthen link between annual budget planning and multi-year fiscal strategy.

### Monetary Policy, Exchange Rate, and Financial System
- Monetary anchor: no viable alternative to the quasi-peg to the euro given high degree of euroization.
  - Staff estimated REER marginally overvalued by about 3 percent.
- Reserve policy:
  - Staff encouraged the CNB to continue to accumulate international reserves; reserve coverage somewhat below IMF’s ARA metric.
  - Kuna/euro rate appreciation about 2.8 percent from February 2015 to April 2016.
- CNB tools and measures:
  - Broadened eligible securities for CNB facilities; adjusted required reserves.
  - Introduced quarterly four-year structural reverse repo facility in February 2016 to provide stable long-term kuna funding.
  - Abolished compulsory CNB bills requirement (effective October 7, 2015).
  - Abolished requirement to maintain part of statutory reserves in foreign exchange (effective January 13, 2016).
- Euroization and macroprudential stance:
  - Loans and deposits denominated in FX or indexed to FX have for decades fluctuated around 70 percent.
  - Since mid-2015, banks required to offer alternative kuna loans to un-hedged households and illustrate potential impact of exchange rate changes.
  - Staff suggested differentiating macro-prudential tools or increased capital requirements (pillar II) for riskier lending.
- Financial system soundness:
  - CNB encouraged to continue conservative prudential policies and supervisory vigilance; high capital buffers maintained.
  - NPLs: apparent stabilization; strengthened provision requirements since 2013 encouraged NPL sales or write-offs.
  - Health sector arrears: kuna 2.5 billion (0.76 percent of GDP) as of end-2015, down from kuna 2.8 billion at end-2014.
  - Consumer Bankruptcy Act in force January 1, 2016; Pre-Bankruptcy Settlement Law incorporated into bankruptcy legislation.

### Structural Reforms and Competitiveness
- Recent measures:
  - Labor law amended to reduce cost of workforce restructuring and increase flexibility of working hours.
  - Central government social benefits some streamlined and means-tested; special pensions regime tightened.
  - Pilot program to reduce administrative burden in services sector by at least 20 percent by end-2016.
- Remaining challenges:
  - Real labor market productivity improved but peers performed better.
  - SOEs continue to play substantial role; red tape remains substantial, especially at local government level.
  - Weak business environment discouraging private investment and FDI.
- Business survey priorities:
  - Improve policy transparency and predictability.
  - Strengthen anti-corruption efforts and the judiciary.
  - Reduce regulatory burden and overlapping municipalities and public agencies.
  - Improve ease of paying taxes.
- Labor market needs:
  - More ambitious reforms to address high unemployment and low participation.
  - Improve targeting of social benefits and regulations governing seasonal hiring.

### Annex I — Conversion of Swiss Franc Loans to Euro (Background, Impact, and Key Statistics)
- Swiss franc appreciation vis-à-vis the kuna: about 55 percent (Sep 2008 to Sep 2015).
- Approximately 53,000 households had loans indexed to Swiss franc loans.
- Share of Swiss franc loans: 7.4 percent of GDP at end-2014.
- Legislative response:
  - September 2015: Parliament adopted legislation requiring banks to offer retroactive conversion of Swiss franc denominated or indexed loans to euro.
  - Past principal and interest payments recomputed as if indebted in variable rate euro loans.
- Conversion progress by April 2016: almost 94 percent (amount) converted; about 5,000 loans still in process.
- Financial sector effects:
  - Estimated cost to banks (CNB): about 2 percent of GDP.
  - Bank CAR: 20.9 percent at end-2015.
  - CNB FX intervention: €268 million.
  - Estimated revenue losses in 2016: 0.2 percent of GDP (included in baseline fiscal projection).
  - NPL ratio of Swiss franc loans increased from 22 percent at end-2015 to 55 percent at end-March 2016 (source note 1/).
- Legal and fiscal implications:
  - Decision challenged in the Constitutional Court; some banks contemplating ICSID complaints.
  - EC closely following the situation.

### Annex VI — Real Exchange Rate Assessment and Competitiveness (Key Estimates)
- EBA-lite macro-balance style assessment: overvaluation estimated at about 3.1 percent.
  - Adjusted for a one-off decline in profits of foreign-owned banks related to Swiss franc loan conversion (2.0 percent).
  - Index REER EBA-lite model signals an overvaluation of about 2.6 percent.
  - EBA-lite External Sustainability approach points to an overvaluation of about 3.2 percent in a scenario stabilizing the net IIP at 40 percent.
- ULC-based measure: overvaluation of about 5.8 percent.
- Export and competitiveness notes:
  - Croatian goods exports no longer losing market share; current account remains highly dependent on tourism.
  - Structural impediments: red tape at local government level, weak business environment, limited FDI.

### Macroeconomic Tables — Selected Exact Figures and Projections (as reported)
- Real GDP (percent change): 2010 -1.7; 2011 -0.3; 2012 -2.2; 2013 -1.1; 2014 -0.4; 2015 1.6; 2016 1.9; 2017 2.1.
- Medium-term Real GDP projections (percent change): 2016 1.9; 2017 2.1; 2018 2.2; 2019 2.3; 2020 2.3; 2021 2.0.
- Output gap: 2015 -3.3; 2016 -2.2; 2017 -1.5; 2018 -0.9; 2019 -0.5; 2020 -0.1; 2021 0.0.
- Potential GDP growth: 2015 -0.2; 2016 0.7; 2017 1.3; 2018 1.7; 2019 1.8; 2020 1.9; 2021 2.0.
- Unemployment rate (percent): 2010 11.5; 2011 13.3; 2012 15.2; 2013 17.0; 2014 17.1; 2015 16.9; 2016 16.4; 2017 15.9.
- CPI inflation (average): 2010 1.0; 2011 2.3; 2012 3.4; 2013 2.2; 2014 -0.2; 2015 -0.5; 2016 0.4; 2017 1.3.
- General government balance (percent of GDP): 2010 -6.2; 2011 -7.8; 2012 -5.3; 2013 -5.3; 2014 -5.5; 2015 -3.2; 2016 -2.8; 2017 -2.6.
- General government debt (percent of GDP): 2010 57.0; 2011 63.7; 2012 70.7; 2013 82.2; 2014 86.5; 2015 86.7; 2016 86.5; 2017 86.1.
- Current account balance (percent of GDP): 2010 -1.1; 2011 -0.8; 2012 -0.1; 2013 0.8; 2014 0.9; 2015 5.2; 2016 3.0; 2017 2.2.
- Total external debt (percent of GDP): 2010 104.2; 2011 103.7; 2012 103.0; 2013 105.6; 2014 108.4; 2015 103.7; 2016 101.3; 2017 96.9.
- Net external debt (percent of GDP): 2010 65.9; 2011 66.6; 2012 65.6; 2013 64.8; 2014 65.5; 2015 59.1; 2016 55.2; 2017 50.2.
- Gross official reserves (millions of euros): 2010 10,660; 2011 11,195; 2012 11,236; 2013 12,908; 2014 12,688; 2015 13,707; 2016 14,711; 2017 15,489.
- Per capita GDP (2015): $11,556.

### Statistical Issues and Data Adequacy (As of April 30, 2016)
- General assessment: Data provision broadly adequate for surveillance, with shortcomings in coverage and reliability, especially national and fiscal accounts.
- National accounts: compiled in accordance with ESA 2010; missing breakdown of gross fixed capital formation into private and public components.
- Wages and employment: earnings data cover 70 percent of workers in permanent employment in each division of NKD 2007; coverage gaps remain.
- Government finance statistics: some budget plans now presented on ESA 2010; historical ESA 2010 data frequently revised.
- Monetary statistics: CNB started publishing monetary statistics using ESA 2010 beginning 2015 with backward revisions.
- External sector statistics: quarterly BOP and IIP compiled broadly in line with BPM6; net errors and omissions ranged from 1 to 3½ percent of GDP since 2005 and are negative.
- Data dissemination: Croatia subscriber to SDDS since May 1996; met all SDDS requirements in March 2001.

### Authorities’ Statement — Recent Developments and Policy Intent (summarized)
- Q1 2016 GDP growth: 2.7 percent y-o-y.
  - Q1 2016 contributions: Exports +7.1 percent y-o-y; Gross fixed capital formation +4.3 percent; Personal consumption +3.1 percent; Government consumption +0.6 percent.
- Authorities’ fiscal objectives:
  - NRP aims to reduce planned consolidated budget deficit to 1 percent of GDP in 2019.
  - Authorities expect public debt ratio reduction to 85.9 percent in 2016 and to 80 percent by 2019.
  - Key NRP reforms include: introduction of a modern real estate tax by January 2018; performance-based public servant compensation; streamlining social benefits; pension reform; activation of state property.
  - Adoption of proposed Fiscal Responsibility Act planned by September 2016.
- Monetary and financial stance:
  - Exchange rate stability as policy anchor; gradual de-euroization desirable.
  - May 2016 FX intervention: 84 million euros purchased.
  - CNB-reported system-wide CAR close to 21 percent at end-2015.
- Structural and privatization actions:
  - Privatization progress: May 2016 sale of 20.4 percent of government shares in Končar to institutional investors.
  - State-owned enterprises restructuring and privatization preparation progressing.

*Source: _cr16187 — Republic of Croatia — IMF staff report excerpt and annexes contained in the provided content.*

### 1. Short-Term Indicators _________________________________________________________________________ 22

### 1. Short-Term Indicators _________________________________________________________________________ 22

### Background — Context
- Croatia began to gradually recover since the last quarter of 2014 after a six-year recession.
- 2015 real GDP growth: 1.6 percent.
- Growth drivers in 2015:
  - strong exports and tourism,
  - revival of private consumption,
  - higher public investment.
- Private investment growth turned positive in 2015.
- General government deficit narrowed due to a cyclical upturn in revenues and some consolidation efforts.
- External current account balance improved due to strong export growth, a record tourism season, and low oil prices.
- Since February 2014, CPI inflation has largely been in low negative territory, mostly due to declining energy and food prices.
- Remaining rigidities and vulnerabilities:
  - Large public and external debt financing needs: about 16 and 19 percent of GDP, respectively in 2016.
  - Structural reforms lagging.
  - High unemployment and low participation rate.
  - Projected medium-term annual growth: 2 percent.
  - Per capita income substantially below the EU average.
- New ruling coalition objectives: reduce vulnerabilities and boost growth.
  - Cabinet established with a narrow majority (initially 78, now 76 of 151 seats in parliament).
  - Passed the 2016 budget aiming to reduce the deficit to well-below 3 percent of GDP, contain public debt, and exit the Excessive Deficit Procedure (EDP).
  - National Reform Program (NRP) launched; many reforms require political consensus.

### Background — Recent Developments
- 2015 recovery gained traction despite a slowdown in Q4 2015.
- External environment supportive: strong trading partner growth (Italy, Slovenia, Germany), full access to EU markets effects, low energy prices, ample global liquidity.
- Private consumption recovery aided by upward shift in income tax thresholds and low energy costs.
- Public investment grew, especially in SOEs; private investment turned positive reflecting mild improvement in business confidence.
- Sectoral strength in 2015: manufacturing, trade, transportation, accommodation and food services.
- Consumer prices largely declining over two years due to lower energy and food prices; non-food and non-energy inflation steady but low by historical standards.
- Unemployment:
  - Structural unemployment: 11½ percent.
  - Cyclical unemployment: 5 percent.
  - Participation rate: close to 50 percent.
  - Unemployment particularly high among youth, low-skilled workers, and in less-developed regions.
  - Some employers report difficulties attracting seasonal workers in retail and catering.
- External current account and debt (2015):
  - Current account surplus: increased from 0.9 percent of GDP in 2014 to 5.2 percent of GDP in 2015.
  - Export growth in real terms: about 12 percent.
  - Tourism: tourist arrivals up 9.1 percent; tourist nights up 7.6 percent.
  - Almost half of the current account increase due to one-off decline in profits of foreign-owned banks (~2 percent of GDP) related to Swiss franc loan conversion (Annex I).
  - External debt declined to about 104 percent of GDP from 108 percent of GDP a year earlier.
  - Note: About 12 percentage points of the debt are accounted for by intercompany debt.
- General government (2015, ESA2010 definition):
  - Deficit declined to 3.2 percent of GDP in 2015 from 5.5 percent of GDP in 2014.
  - Contributors: cyclical revenue upturn (estimated at 0.5 percent of GDP) and under-execution of public enterprise investment in Q4 (estimated at 0.8 percent of GDP); some consolidation measures (higher excises on fuel and tobacco; full-year effect of 2014 increase in health insurance contributions; improved tax administration).
  - Expenditure containment included amendments to seniority bonuses and direct payment of some agricultural subsidies by the EU Agricultural Guarantee Fund.
  - Public debt stabilized close to 87 percent of GDP.
- Exchange rate and reserves:
  - Kuna-euro rate stable with slightly stronger seasonal appreciation since February 2016; quasi-peg preserved through tight FX liquidity regulation and occasional FX interventions.
  - Conversion of Swiss franc household loans to euros required FX intervention amounting to €0.27 billion to close banks’ net open positions.
  - Gross international reserves increased by €1 billion to €13.7 billion (equivalent to 102 percent of short-term debt by remaining maturity) during 2015.
  - Government issued €1.5 billion 10-year Eurobond in March (over-subscribed) at a yield of 3.25 percent.
- Monetary policy and banking sector:
  - Croatian National Bank (CNB) maintained relatively accommodative stance within quasi-peg by ensuring ample excess liquidity.
  - Interest rate changes in 2015 (effective October 31, 2015 and related dates):
    - Lombard rate halved from 5.0 percent to 2.5 percent.
    - CNB discount rate reduced from 7.0 percent to 3.0 percent.
    - Rate on short-term CNB liquidity credits cut from 6.0 percent to 4.0 percent.
    - Penalty rate on required reserves lowered from 12.0 percent to 8 percent.
    - CNB overnight deposit rate has been zero since April 24, 2013.
  - Liquidity measures: broadened eligible securities list for CNB facilities; adjusting required reserves; quarterly four-year structural reverse repo facility introduced in February 2016.
  - Abolished requirements:
    - Effective October 7, 2015: revoked regulation relating to compulsory CNB bills.
    - Effective January 13, 2016: abolished requirement to maintain part of statutory reserves in foreign exchange.
  - Bank lending subdued: banks’ claims on non-financial enterprises and households declined by 4.7 percent and 8.0 percent from March 2015 to March 2016.
    - Adjusted for exchange rate movements and NPL write-offs, declines were smaller: 1.3 and 1.1 percent, respectively.
  - Banking system health (end-2015):
    - System primarily foreign-owned (Austrian and Italian).
    - Capital adequacy: 21.0 percent CAR.
    - Banks remained profitable during the recession except in 2015 due to Swiss franc loan conversion losses.
    - Deleveraging continued with buildup of deposits and subdued lending.
    - Non-performing loan (NPL) ratio: 16.3 percent of loans; NPLs fairly provisioned.
    - In 2015, one small but regionally important bank began resolution under the EU Bank Recovery and Resolution Directive.

### Outlook and Risks — Outlook
- Staff growth projections:
  - 2016 growth: about 1.9 percent.
  - Medium term stabilization: around 2–2¼ percent.
- Growth assumptions:
  - Solid export and tourism performance.
  - Continued recovery in domestic demand.
  - Private consumption aided by recovering wages, better employment prospects, and gradual end to deleveraging.
  - Private and public investment benefit from larger EU funds absorption.
  - Reduced policy uncertainty due to fiscal consolidation and NRP launch expected to encourage domestic and foreign investment.
  - Export growth anticipated to remain strong but decelerate as EU accession benefits fade (Annex II).
  - Net exports expected to contribute only moderately to growth given increasing imports.
  - Inflation projected to return to positive territory in late 2016 with anticipated increase in energy prices.
- Fiscal projections (staff baseline):
  - 2016 general government deficit projected at 2.8 percent of GDP.
  - Further steady decline to 2.3 percent of GDP over the next few years.
  - 2016 budget targets a deficit of 2.6 percent of GDP.
  - Cyclically-adjusted primary balance estimated to improve in 2016 by about 0.3 percent of potential GDP.

### Outlook and Risks — Vulnerabilities
- Public debt:
  - Public debt was 37 percent of GDP in 2007.
  - Projected to stay high at over 86 percent of GDP during 2016–17 (recent increase exaggerated due to definitional changes).
  - Projected to slowly decline to 82 percent of GDP over the medium term, aided by fiscal consolidation, low interest rates, and sustained GDP growth (Annex III).
  - Note: In 2014, inclusion of HBOR into general government added 4.4 percent of GDP to public debt.
- External debt:
  - Expected to decline from about 104 percent of GDP in 2015 to 84 percent of GDP in the medium term.
  - Decline aided by private sector deleveraging and fiscal consolidation.
  - Current account surplus projected to decline gradually; foreign reserves expected to grow slowly (Annex IV).

### Outlook and Risks — Risks to the Outlook
- Overall risk tilt: downside (Annex V).
- Upside risks:
  - Return to very low energy prices favorably affecting production costs and purchasing power.
  - Acceleration of reforms supporting growth and competitiveness, reducing vulnerabilities.
- Downside risks:
  - Slower external demand due to EU uncertainties.
  - Normalization of global monetary conditions raising costs for large public and private financing needs.
  - Border disruptions from the refugee crisis hampering trade and tourism.
  - Fiscal risks: delays in reforms (public wage system, social benefits), slower absorption of EU structural and investment funds.
  - Domestic political challenges potentially adverse for NRP implementation.

### Policy Discussions — Fiscal Policy
- Authorities’ reform program:
  - Contemplates steady consolidation to reduce headline deficit to 2.6 percent of GDP in 2016 and 1.0 percent of GDP by 2019.
  - Authorities committed to achieving deficit target to facilitate exiting the EDP.
  - NRP fiscal reforms include: introducing a modern real estate tax; making part of public servants’ compensation performance based; streamlining social benefits; reforming the pension system; privatization (Annex V).
  - 2016 Convergence Program (CP) based on many NRP reforms.
  - 2016 fiscal effort primarily focused on expenditure control while building support for structural measures.
- Staff observations and recommendations:
  - NRP requires implementation of specific measures many involving legislative changes.
  - CP projects a gradual decline in revenue due to anticipated lowering of some existing high taxes.
    - Context: standard VAT rate is 25 percent; income tax on earnings starting at about €1,800 monthly net of personal allowances is 40 percent; additional pension, health care, unemployment, and injuries insurance contributions apply.
  - Staff stressed any tax reduction should be contingent on progress in expenditure consolidation and success in achieving the targeted fiscal deficit.
  - Given substantial downside risks and absent concrete supporting measures, staff’s baseline assumes only partial implementation of reforms:
    - Staff projects fiscal deficit of 2.8 percent of GDP in 2016 and 2.3 percent of GDP starting in 2019 (Table 3).
  - Staff viewed NRP adjustment path as adequate and encouraged achieving it through decisive implementation of required reforms.
    - Recommended less reliance on across-the-board expenditure reduction and more focus on streamlining high social spending.
    - Urged decisive implementation of reforms in a timely fashion to meet targeted deficit path.
    - Encouraged authorities to achieve 2016 deficit target (2.6 percent of GDP), including short-run NRP components such as making part of civil servants’ compensation performance based and streamlining overlapping social benefits.
    - Preparatory work for more substantial reforms (e.g., improving land registration and the cadastre required for a modern real estate tax) could start immediately.

*Republic of Croatia — IMF staff report excerpt (selected pages).*

### 19.      Staff estimates that full implementation of the NRP reforms could yield up to 3

### 19.      Staff estimates that full implementation of the NRP reforms could yield up to 3

### Fiscal policy, NRP reforms, and consolidation
- Full implementation of the NRP reforms could yield up to 3 percent of GDP.
- Phasing-in this adjustment over the next few years would result in the 1.0 percent of GDP targeted deficit by 2019, while still creating space for reducing the high tax rates as committed in the CP.
- If necessary, the space could also be used to secure a faster exit from the EDP.
- With this strong adjustment path, public debt would be on a faster downward path and could decline to below 80 percent of GDP over the medium term.
- NRP reforms would improve the quality of fiscal revenue and expenditure to support growth, efficiency, and equity.
- Key Fiscal Savings, 2016-21 (In percent of GDP):
  - Revenue
    - Adopting property tax 1.0 - 1.5
    - Health sector additional income 0.3
    - Other revenue measures 0.2
  - Expenditure
    - Savings on public sector wage bill 0.2
    - Savings on social spending 0.6
    - Other expenditure savings 0.5
  - Total 3.0
- Staff’s advice (including improving the quality of consolidation and an annual deficit reduction of about 0.6 percent of GDP, which translates to 1.5 percent of GDP total adjustment in the structural balance) broadly in line with the EC; EC recommends fiscal adjustment that is above 0.5 percent of GDP assuming a smaller output gap than staff estimates.
- Recommendations and implementation priorities:
  - Advance civil service and social benefits reforms to achieve fiscal targets and improve efficiency and equity.
  - Contain the relatively large public sector wage bill and postpone public wage increases; the estimated budget impact of the previously planned wage increase is about 0.5 percent of GDP.
  - Make part of compensation performance-based to improve service quality.
  - Accelerate implementation of the one-stop shop for numerous benefits and enhance means-testing; social spending is large at 16.5 percent of GDP.
  - Reform the health sector to reduce costs and arrears and improve service quality.

### Public investment, privatization, and fiscal institutions
- Authorities determined to improve absorption of EU structural and investment funds to boost growth; requires improving implementation capacity, simplifying administrative procedures, maintaining transparency, and expediting transposition of the procurement directive.
- Strengthen public sector management and advance planned privatization, especially of inactive assets, in a transparent and fair fashion to improve efficiency and place public debt on a steeper downward path.
- Staff cautioned that receipts from privatization might take longer to materialize than projected under the CP.
- Amending the Fiscal Responsibility Law recommended to strengthen the link between annual budget planning and multi-year fiscal strategy and align with best international practice.

### Monetary policy
- The Central Bank and staff agreed there is no viable alternative monetary anchor to the quasi-peg to the euro given the high degree of euroization.
- Staff encourages the CNB to continue to smooth sharp exchange rate fluctuations while expediting structural reforms to enhance competitiveness.
- Staff estimated that the REER remains marginally overvalued by about 3 percent (Annex VI).
- Reserve policy and adequacy:
  - Staff encouraged the CNB to continue to accumulate international reserves; reserve coverage is still somewhat below the IMF’s ARA metric.
  - CNB rarely purchases FX in the spot market except receipts from eurobonds; staff welcomes CNB openness to look for further opportunities to boost reserves given the strong current account surplus and recent appreciation of the kuna/euro rate (about 2.8 percent from February 2015 to April 2016).
- CNB’s monetary stance and tools:
  - Staff supports the CNB’s relatively accommodative stance within the limitations of the monetary regime.
  - CNB reduced interest rates and eased required reserves; introduced in February 2016 a four-year structural reverse repo facility intended to provide stable long-term kuna funding and contribute to gradual reduction of euroization.
- Euroization:
  - Both loans and deposits denominated in FX or indexed to FX have for decades fluctuated around 70 percent.
  - High degree of euroization is primarily supply driven by persistent preferences to save in FX.
  - Since mid-2015, banks required to offer alternative kuna loans to un-hedged households and illustrate potential impact of exchange rate changes.
  - Staff suggested differentiating macro-prudential tools or increased capital requirements (pillar II) for riskier lending practices until euro adoption.
- Governance:
  - Staff stressed preserving independence, accountability, and transparency of the CNB in line with Croatia’s commitment to the Statute of the European System of Central Banks.
  - Parliament has been seeking to increase oversight, including considering amendments to the Law on the CNB; staff advised careful calibration of proposed amendments.

### Financial system
- CNB encouraged to continue conservative prudential policies and supervisory vigilance; high capital buffers maintained using flexibility of EU rules.
- NPLs:
  - Apparent stabilization of NPL levels is encouraging.
  - Strengthened provision requirements introduced in 2013 have encouraged banks to sell NPLs or write them off.
  - Tax issues remain an obstacle; NRP includes measures to address these concerns.
  - Health sector arrears stood at kuna 2.5 billion (0.76 percent of GDP) as of end-2015, a slight decline from kuna 2.8 billion at end-2014.
- Legislation and borrower support:
  - Staff welcomed the Consumer Bankruptcy Act, in force January 1, 2016, and incorporation of the Pre-Bankruptcy Settlement Law into bankruptcy legislation; too early to tell if these will reduce costs and uncertainty about future debt recoveries.
  - Staff expressed concerns about the handling of conversion of Swiss franc household loans into euros and advised against future across-the-board bailouts to avoid moral hazard.
- Credit conditions and institutions:
  - Subdued bank lending largely viewed as demand-driven, except for SMEs lacking collateral or track record.
  - Croatian Development Bank (HBOR) plays an important role supporting exporters and SMEs, not subject to CNB supervision; direct lending is growing and may merit similar supervision. Authorities considering an independent asset quality review of HBOR’s credit portfolio.

### Structural reforms and competitiveness
- Advancing structural reforms crucial to boost growth, employment creation, and competitiveness.
- Recent reforms and measures:
  - Labor law amended to reduce cost of workforce restructuring and increase flexibility of working hours.
  - Some central government social benefits streamlined and means-tested; regime for special pensions tightened.
  - Performance of some SOEs improved after restructuring and stricter oversight.
  - Pilot program to review administrative burden on businesses aiming to reduce it in the services sector by at least 20 percent by end-2016.
- Remaining challenges:
  - Real labor market productivity improved but peers performed better.
  - SOEs continue to play substantial role; red tape remains substantial, especially at local government level.
  - Weak business environment discouraging private investment and FDI.
- Business survey priorities:
  - Improve policy transparency and predictability.
  - Strengthen anti-corruption efforts and the judiciary.
  - Reduce regulatory burden and large number/multiple layers of municipalities and public agencies.
  - Improve ease of paying taxes.
- Labor market:
  - More ambitious labor market reforms needed to address high unemployment and low participation rates.
  - Some employment protection areas remain restrictive compared to peers (temporary employment regulation, severance payments, notification periods).
  - Need for better balance between social protection and incentives to work; improving targeting of social benefits and regulations governing seasonal hiring could reduce reservation wage and increase labor market flexibility.

### Staff appraisal — risks, priorities, and main conclusions
- Recovery and structural challenges:
  - Croatia’s recent economic recovery is encouraging, but real GDP is still about 11 percent lower than in 2008.
  - Medium-term growth prospects remain shy of converging towards EU average income levels; unemployment and regional disparities remain high.
- Vulnerabilities:
  - Structural rigidities and large public and external debt increase vulnerability.
  - Substantial structural and fiscal reforms have been lagging, undermining the business climate and placing Croatia on an unsustainable debt path.
- Policy assessment and priorities:
  - Recent fiscal consolidation and the newly launched NRP set the stage for promising reforms; decisive implementation critical to reduce vulnerabilities, boost growth and employment, and facilitate earlier exit from the EDP.
  - Fiscal policy has been reoriented to reduce deficit and large public debt, but the ad-hoc nature of 2015 structural adjustment is suboptimal and 2016 across-the-board expenditure control is a second-best approach; a more growth-friendly consolidation should start next year.
  - Simplifying the tax system and possibly reducing some high taxes is welcome but premature before progress in fiscal consolidation; comprehensive tax review and adoption of a modern real estate tax contingent on land registration and cadastre improvements recommended.
  - Reduce inefficient public expenditures, streamline local government and public agencies, reform public sector wages and transfers/subsidies, and advance health sector reforms in cooperation with the World Bank.
  - Accelerate absorption of EU funds to support growth and employment during fiscal consolidation.
  - Monetary policy appropriately accommodative given exchange rate anchor; maintain accommodative stance while financial stability and inflation risks remain subdued; continue to smooth FX market fluctuations and seek opportunities to boost reserves.
  - Preserve banking sector robustness through conservative prudential policies, supervisory vigilance, prompt action when capital requirements breached, avoid across-the-board bailouts that create moral hazard, and preserve CNB independence with transparency and accountability.
  - Decisive implementation of structural reforms essential to reduce high unemployment and raise income levels toward the EU average; key reforms include enhancing efficiency of public administration and SOEs, removing bureaucratic impediments to business, streamlining overlapping layers of government and public agencies, strengthening targeting of social benefits, and improving regulations governing seasonal hiring.

*Source: _cr16187 - 19.      Staff estimates that full implementation of the NRP reforms could yield up to 3*

### 44.      It is recommended that the next Article IV consultation with Croatia be held on the

### _cr16187 - 44. It is recommended that the next Article IV consultation with Croatia be held on the

### Recommendation
- It is recommended that the next Article IV consultation with Croatia be held on the standard 12-month cycle.

### Macroeconomic performance and outlook
- Real GDP (percent change): 2010 -1.7; 2011 -0.3; 2012 -2.2; 2013 -1.1; 2014 -0.4; 2015 1.6; 2016 1.9; 2017 2.1. (Table 1)
- Medium-term Real GDP projections (percent change): 2016 1.9; 2017 2.1; 2018 2.2; 2019 2.3; 2020 2.3; 2021 2.0. (Table 2)
- Domestic demand (percent change): 2015 1.2; 2016 1.9; 2017 2.2. (Table 1)
- Output gap: 2015 -3.3; 2016 -2.2; 2017 -1.5; 2018 -0.9; 2019 -0.5; 2020 -0.1; 2021 0.0. (Table 2)
- Potential GDP growth: 2015 -0.2; 2016 0.7; 2017 1.3; 2018 1.7; 2019 1.8; 2020 1.9; 2021 2.0. (Table 2)

### Labor market and prices
- Unemployment rate (percent): 2010 11.5; 2011 13.3; 2012 15.2; 2013 17.0; 2014 17.1; 2015 16.9; 2016 16.4; 2017 15.9. (Table 1)
- CPI inflation (average): 2010 1.0; 2011 2.3; 2012 3.4; 2013 2.2; 2014 -0.2; 2015 -0.5; 2016 0.4; 2017 1.3. (Table 1)
- Growth in average monthly nominal wages: 2010 -0.4; 2011 1.5; 2012 1.0; 2013 0.8; 2014 0.2; 2015 1.3. (Table 1)

### Fiscal sector (general government)
- General government revenue (percent of GDP): 2010 41.3; 2011 41.0; 2012 41.7; 2013 42.5; 2014 42.6; 2015 43.7; 2016 44.1; 2017 43.7. (Table 1)
- General government expenditure (percent of GDP): 2010 47.5; 2011 48.8; 2012 47.0; 2013 47.8; 2014 48.1; 2015 46.9; 2016 46.9; 2017 46.3. (Table 1)
- General government balance (percent of GDP): 2010 -6.2; 2011 -7.8; 2012 -5.3; 2013 -5.3; 2014 -5.5; 2015 -3.2; 2016 -2.8; 2017 -2.6. (Table 1)
- Structural balance (IMF calculation, percent of GDP): 2010 -5.5; 2011 -7.2; 2012 -4.2; 2013 -4.0; 2014 -4.2; 2015 -2.4; 2016 -2.2; 2017 -2.2. (Table 1)
- General government debt (percent of GDP): 2010 57.0; 2011 63.7; 2012 70.7; 2013 82.2; 2014 86.5; 2015 86.7; 2016 86.5; 2017 86.1. (Table 1)
- Medium-term projections: Government debt (percent of GDP) 2018 85.1; 2019 83.6; 2020 82.6; 2021 81.6. (Table 2)

### Saving and investment
- Domestic investment (percent of GDP): 2010 21.3; 2011 20.6; 2012 19.3; 2013 19.1; 2014 18.2; 2015 18.3; 2016 18.7; 2017 19.3. (Table 1)
- Domestic saving (percent of GDP): 2010 20.2; 2011 19.8; 2012 19.1; 2013 19.9; 2014 19.0; 2015 23.5; 2016 21.7; 2017 21.5. (Table 1)

### External sector and balance of payments
- Current account balance (millions of euros): 2010 -503; 2011 -360; 2012 -613; 2013 413; 2014 682; 2015 2,293; 2016 1,360; 2017 1,004. (Table 1 / Table 4)
- Current account balance (percent of GDP): 2010 -1.1; 2011 -0.8; 2012 -0.1; 2013 0.8; 2014 0.9; 2015 5.2; 2016 3.0; 2017 2.2. (Table 1)
- Exports of goods, f.o.b. (percent of GDP): 2010 17.9; 2011 19.6; 2012 19.7; 2013 20.5; 2014 22.7; 2015 24.4; 2016 25.5; 2017 26.6. (Table 2)
- Imports of goods, f.o.b. (percent of GDP): 2010 31.1; 2011 33.8; 2012 34.1; 2013 35.7; 2014 37.5; 2015 39.6; 2016 40.9; 2017 43.3. (Table 2)
- FDI net (percent of GDP): 2010 2.1; 2011 2.7; 2012 2.7; 2013 2.0; 2014 3.1; 2015 0.3; 2016 1.9; 2017 2.0. (Table 1 / Table 2)

### Reserves and external debt
- Gross official reserves (millions of euros): 2010 10,660; 2011 11,195; 2012 11,236; 2013 12,908; 2014 12,688; 2015 13,707; 2016 14,711; 2017 15,489. (Table 1 / Table 4)
- Net international reserves (millions of euros): 2010 9,269; 2011 10,006; 2012 10,195; 2013 10,491; 2014 10,590; 2015 11,731; 2016 12,735; 2017 13,513. (Table 1)
- Reserves (Fixed, percent of RAM): 2010 72.7; 2011 74.5; 2012 76.5; 2013 85.9; 2014 82.9; 2015 88.7; 2016 93.3; 2017 98.0. (Table 1)
- Total external debt (percent of GDP): 2010 104.2; 2011 103.7; 2012 103.0; 2013 105.6; 2014 108.4; 2015 103.7; 2016 101.3; 2017 96.9. (Table 1 / Table 4)
- Net external debt (percent of GDP): 2010 65.9; 2011 66.6; 2012 65.6; 2013 64.8; 2014 65.5; 2015 59.1; 2016 55.2; 2017 50.2. (Table 1 / Table 2)

### Monetary and financial sector
- Broad money (M4) year-on-year percent change: 2010 1.9; 2011 5.7; 2012 3.6; 2013 4.0; 2014 3.2; 2015 5.1. (Table 5)
- Claims on other domestic sectors (year-on-year percent change): 2010 2.4; 2011 4.4; 2012 -6.2; 2013 -1.3; 2014 -2.2; 2015 -3.0. (Table 5)
- T-bill rate (3-Month, kuna denominated): 2010 2.3; 2011 4.6; 2012 1.3; 2013 0.8; 2014 0.3; 2015 0.4. (Table 1)
- Kuna credit rate (unindexed): 2010 9.9; 2011 8.6; 2012 8.2; 2013 7.8; 2014 7.5; 2015 7.1. (Table 1)
- Foreign currency-indexed kuna credit rate: 2010 7.8; 2011 7.0; 2012 6.8; 2013 6.6; 2014 6.1; 2015 5.8. (Table 1)

### Financial soundness (selected indicators)
- Nonperforming loans to total gross loans (percent): 2010 11.1; 2011 12.3; 2012 13.8; 2013 15.4; 2014 16.7; 2015 16.9; 2015 Dec 16.8; 2015 Prel. 16.3. (Table 6)
- Regulatory capital to risk-weighted assets (percent): 2010 18.8; 2011 20.5; 2012 20.9; 2013 20.9; 2014 21.8; 2015 Mar 21.9; Jun 22.3; Sep 20.0; Dec 21.0. (Table 6)
- Return on assets (percent): 2010 1.2; 2011 1.2; 2012 0.9; 2013 0.3; 2014 0.7; 2015 0.7; 2015 Dec -1.4; 2015 Prel. -1.1. (Table 6)
- Loan-loss provisions to nonperforming loans (percent): 2010 38.8; 2011 41.3; 2012 42.5; 2013 46.3; 2014 51.0; 2015 51.9; 57.9; 59.4; 61.9 (various quarterly entries). (Table 6)
- Foreign currency-denominated loans to total loans (percent): 2010 74.3; 2011 75.1; 2012 73.7; 2013 74.1; 2014 69.1; 2015 68.8; 2015 Dec 68.2; 2015 Prel. 74.0; 2015 (another entry) 75.0. (Table 6)

### Structural competitiveness and labor market
- Per capita GDP (2015): $11,556. (Table 1)
- Poverty rate (World Bank, 2014): 9.8 percent. (Table 1)
- Average monthly gross wage and nominal GDP per capita indicators presented in Figure 9 show wages remain high relative to per capita income. (Figure 9)
- Tourism and exports: strong export growth and tourism activity cited as contributors to current account improvement; tourism growth highlighted in Figures 1, 2, and 9.

### Vulnerabilities and risks
- High external debt burden: total external debt remains above 100 percent of GDP in earlier years (e.g., 2014 108.4 percent of GDP) though projected to decline gradually (Table 1; Table 2).
- Financing needs and refinancing: Figures indicate refinancing needs remain high and expected to be met mostly from domestic sources. (Figure 8)
- Reserves modest relative to short-term external debt: ratio of reserves to short-term external debt reported across figures and tables as modest. (Figure 10; Table 4)
- Bank and corporate deleveraging continue to drive capital outflows. (Figure 2)
- Most bank loans are foreign-exchange indexed; share of FX indexed loans to total loans remains high (Figure 10 / Figure 11).

### Key projections (selected, medium-term)
- Current account (percent of GDP) projections: 2017 2.2; 2018 1.5; 2019 0.7; 2020 -0.1; 2021 -0.7. (Table 2)
- Exports and imports of goods (percent of GDP) projections: Exports 2018 27.5; 2019 28.4; 2020 29.3; 2021 30.3. Imports 2018 43.3; 2019 45.6; 2020 47.8; 2021 50.0. (Table 2)
- Gross official reserves (months of following year's imports of goods and nonfactor services): 2010 7.0; 2011 7.4; 2012 7.3; 2013 8.1; 2014 7.3; 2015 7.4; 2016 7.3; 2017 7.1. (Table 1)
- Nominal GDP (millions of euros) projections: 2016 44,922; 2017 46,388; 2018 48,150; 2019 50,052; 2020 52,154; 2021 54,263. (Table 2)

*Source: Republic of Croatia — IMF staff report and tables contained in the provided content.*

### Annex I. Conversion of Swiss Franc Loans to Euro

### Annex I. Conversion of Swiss Franc Loans to Euro

### Background and impact
- The Swiss franc appreciation vis-à-vis the kuna was about 55 percent from September 2008 to September 2015.
- Approximately 53,000 households had loans indexed to Swiss franc loans; these loans were often preferred by wealthier households for mortgages due to lower interest rates.
- The share of Swiss franc loans declined to 7.4 percent of GDP at end-2014 (i.e. before conversion measures were taken).
- The non-performing-loan ratio increased and several law suits were filed against banks, arguing that borrowers had not properly been informed about the risks.
- When the Swiss National Bank abandoned the CHF/EUR floor on January 15, 2015, the Croatian Parliament temporarily froze the exchange rate for repayments of Swiss franc household loans; the freeze scope was quickly broadened to cover individual entrepreneurs.
- The intention was to find a negotiated resolution between debtors and banks during the one-year freeze, but this did not happen.

### Legislative response and conversion process
- In September 2015, Parliament adopted legislation requiring banks to offer clients retroactive conversion of Swiss franc denominated or indexed loans to euro.
- Past principal and interest payments on Swiss franc loans were recomputed as if borrowers had been indebted in variable rate euro loans.
- By April 2016, about 5,000 loans were reportedly still in the process of conversion, although almost 94 percent (amount) had been converted.

### Financial sector effects
- The cost to banks has been estimated at about 2 percent of GDP by the CNB.
- Banks on average remained profitable, even during the prolonged recession, but the conversion resulted in their making a loss in 2015.
- Bank capitalization remained high: CAR of 20.9 percent at end-2015.
- The conversion reduced household debt for those with Swiss franc loans and removed substantial uncertainty for borrowers.
- Currency risk was substituted by interest risk following the conversion.
- The conversion increased the non-performing-loan (NPL) ratio of Swiss franc loans: NPL ratio increased from 22 percent at end-2015 to 55 percent at end-March 2016 (note in source: 1/ Increased from 22 percent at end-2015 to 55 percent at end-March 2016, due to the conversion).

### CNB interventions and market measures
- Following the decision, the CNB intervened in the FX market (€268 million) and provided domestic liquidity with a view to prevent excess volatility.

### Fiscal and legal implications
- The government faces a revenue loss, as banks can deduct these losses from future profits.
- The estimated revenue losses in 2016 (0.2 percent of GDP) has been included in the baseline fiscal projection. Further losses in 2017 and onwards are not expected by the authorities and staff.
- The decision has been challenged in the Constitutional Court and some banks are contemplating filing complaints at the International Centre for Settlement of Investment Disputes.
- The European Commission (EC) is closely following the situation and is encouraging a balanced solution.

### Key statistics and figures (preserved exactly as in source)
- Swiss franc appreciation vis-à-vis the kuna: about 55 percent (Sep 2008 to Sep 2015).
- Households with Swiss franc loans: approximately 53,000.
- Share of Swiss franc loans: 7.4 percent of GDP at end-2014.
- Conversion progress by April 2016: almost 94 percent (amount) converted; about 5,000 loans still in process.
- Estimated cost to banks (CNB): about 2 percent of GDP.
- Bank CAR: 20.9 percent at end-2015.
- CNB FX intervention: €268 million.
- Estimated revenue losses in 2016: 0.2 percent of GDP.
- NPL ratio of Swiss franc loans: increased from 22 percent at end-2015 to 55 percent at end-March 2016 (source note 1/).

*Prepared by Tonny Lybek (content as provided in source).*

### Annex VI. Real Exchange Rate Assessment and Competitiveness

### Annex VI. Real Exchange Rate Assessment and Competitiveness

### Summary of REER misalignment estimates
- EBA-lite macro-balance style assessment: overvaluation estimated at about 3.1 percent.
  - The present-year CA was adjusted to account for a one-off decline in profits of foreign-owned banks related to the conversion of Swiss franc loans affecting the primary income balance (2.0 percent).
  - The exchange rate misalignment is defined as the adjustment necessary to bring the CA back to its norm.
  - Using the EBA approach, the adjusted CA balance in 2015 is somewhat below the norm, with the policy gap mostly explained by the large fiscal deficit in 2015.
- Index REER EBA-lite model (staff’s projected REER in 2015 vs. its norm, both in logs): signals an overvaluation of about 2.6 percent.
- EBA-lite External Sustainability (ES) approach (compares projected net IIP position with a sustainable level and computes REER revaluation needed): points to an overvaluation of about 3.2 percent in a scenario stabilizing the net IIP at 40 percent.

### Unit labor cost and competitiveness indicators
- ULC-based measure:
  - A measure comparing Croatia’s unit real labor cost (ULC) with peers points to an overvaluation of about 5.8 percent.
  - Croatia has made progress in reducing its ULC in recent years, but peers have performed better.
- Labor productivity and wages (as presented):
  - Real labor market productivity per hour has improved, but lagged relative to peers.
  - Average monthly gross wage and labor productivity indicators (2015) show Croatia’s position relative to regional peers (chart referenced).

### External and structural competitiveness factors
- Export performance and sectoral dependence:
  - Croatian goods exports are no longer losing market share, but the current account remains highly dependent on tourism.
- Structural impediments affecting competitiveness and FDI:
  - Red tape, especially at the local government level, and a weak business environment have discouraged FDI.
  - Limited FDI has constrained the development of export-oriented sectors that peers have benefited from.

*Source: _cr16187 - Annex VI. Real Exchange Rate Assessment and Competitiveness*

### 3.      In FY15, the Bank’s Board approved two loans amounting to US$278 million including

### _cr16187 - 3.      In FY15, the Bank’s Board approved two loans amounting to US$278 million including

### World Bank, IFC, and MIGA financing (FY15–FY16)
- In FY15, the Bank’s Board approved two loans amounting to US$278 million including:
  - Croatia Railway project (US$183.35 million)
  - Social Protection System Modernization Project (US$95.55 million)
- In FY16, the Board approved a loan toward Entrepreneurship Venture Capital project (US$21.92 million).
- Currently, the World Bank finances 11 operations in a wide range of sectors totaling US$876.27 million.
- In FY15, IFC invested up to US$45million in Rudine Wind Power Plant in Croatia.
- IFC’s investments portfolio currently consists of 7 projects across sectors including financial sector, renewable energy, infrastructure, agribusiness, life sciences, and general manufacturing.
- IFC prioritizes investment in Croatia’s less-developed regions and in projects that contribute to greater economic diversification and regional integration.
- MIGA's outstanding gross exposure in Croatia as of June 30, 2015 was US$525 million in support of financial institutions and a retail sector.

### Statistical issues — Assessment of data adequacy for surveillance (As of April 30, 2016)
- General: Data provision is broadly adequate for surveillance, with shortcomings related to data coverage and reliability, especially for national and fiscal accounts.
- Constraints: Progress impeded by insufficient resources and lack of coordination among government agencies.

### National accounts
- CBS publishes constant and current price data compiled in accordance with the ESA 2010 standard.
- Missing publication: breakdown of gross fixed capital formation into private and public components is not yet published.
- Discrepancies: nominal government consumption in national accounts vs. government consumption reported in government ESA 2010 accounts.
- Quarterly GDP estimates disseminated at current prices and at prices of the previous year for main categories.
- Remaining shortcomings and causes:
  - (i) incomplete coverage of unincorporated businesses and the self-employed (farmers, traders, and craftsmen);
  - (ii) inadequate data for measuring changes in inventories;
  - (iii) incomplete coverage of the informal sector;
  - (iv) lack of quarterly data for the seasonally volatile agricultural sector.

### Wages and employment
- CBS produces data on average net and gross earnings per person and employment by sector; CBS is reviewing the data series.
- Earnings data include bonuses (in sums that are subjects to contributions, taxes, and surtaxes), sick pay, and meal allowances.
- Earnings data are based on monthly surveys covering 70 percent of workers in permanent employment in each division of NKD 2007 (NACE Rev. 2).
- Coverage gaps: do not cover a significant part of the working population, including persons employed in trade and crafts, contract workers, and farmers.
- Registered unemployed overstates actual unemployment, though discrepancy has significantly diminished in 2014.
- Labor Force Survey: first conducted in 1996 on 7,200 households; sample subsequently expanded; semi-annual results since 1998; quarterly results since 2007 with a lag of about four months.

### Price statistics
- CBS produces monthly CPI; expenditure weights updated every five years and price-updated annually to December of the previous year.
- Data collection timing: different product groups collected at different periods, mostly between the thirteenth and the twenty-third day of each month; agricultural market prices recorded on the first and third Friday; fuel prices weekly.
- Indices are released around the fifteenth day of the following month.
- Price collection confined to nine towns; weights based on a sample of households across the whole country.
- HICP calculated in line with Eurostat methodology.
- A core CPI is calculated based on CNB methodology.
- Monthly PPI released usually on the eighth day of the following month; PPI weighting system based on the 2000 Annual Report of Industry and changed every five years with partial annual corrections.

### Government finance statistics
- Authorities have started presenting some budget plans based on ESA 2010; State Budget and local budgets still based on national Chart of Accounts.
- Historical general government data based on ESA 2010 definitions are published nationally and by Eurostat but frequently revised.
- Ongoing analysis to assess inclusion of some local government-owned enterprises in government sector per ESA 2010.
- Budget execution (cash) data produced monthly on GFSM framework (GFS 2001); available in Monthly Statistical Review of MOF and time-series database on MOF website.
- Central government data lag: normally about six weeks; end-of-year data often much longer.
- Revenue data reliable; expenditure data on cash basis available according to GFS classifications for central budget and extra-budgetary funds.
- Changes in institutions included in central government are not always clearly indicated; central government figures not fully comparable over time.
- Cash data for local governments and consolidated general government available quarterly, with long lags for end-of-year data.
- From January-March 2015, local and regional self-government units data include all 576 local units and local units' extra-budgetary users (county road administrations), replacing former 53 largest.
- Agreement on cooperation (signed July 31, 2013) between CBS, CNB, and MOF: CNB took responsibility for compilation of general government debt statistics.
- CNB compiles general government debt according to ESA 2010 and EDP definitions and publishes in CNB Monthly Bulletin.
- Data showing central government guaranteed debt presented in CNB Monthly Bulletin reporting table.

### Monetary and financial statistics
- Beginning 2015, CNB started publishing monetary statistics using ESA 2010 framework, with backward revisions of historical series.
- Since June 2013, IMF Statistics Department receives monetary statistics on Croatia directly from the European Central Bank.
- Previously, CNB compiled and reported monetary data for IFS in accordance with 1995 ESA standards and ECB framework using national residency approach.
- For December 2001 to June 2013, monetary statistics in IFS were based on IMF Standardized Report Forms per Monetary and Financial Statistics Manual, 2000.
- December 2010 through June 2013: CNB reported revised data for other depository corporations covering money market funds in addition to licensed banks, savings banks, and housing savings banks.

### Financial sector surveillance
- CNB is banking supervisor and publishes selected financial soundness indicators (FSI); reports to IMF’s FSI Database; provides IMF staff with broad range of FSIs.
- Stress testing methodologies described in Financial Stability Report, published by CNB twice a year.
- Summary balance sheets and profit and loss statements of individual banks reported in Banking Bulletin twice a year with a lag of six to nine months.
- HANFA publishes monthly reports and monthly summary statistics on sectors it regulates (capital markets, investment funds, private pension sector, insurance, leasing, and factoring companies).

### External sector statistics
- Quarterly balance of payments and international investment position data compiled broadly in accordance with BPM6.
- Data availability: generally with a lag of three months and subject to revisions.
- Net errors and omissions have ranged from 1 to 3½ percent of GDP since 2005, and are negative.
- Coverage and quality of portfolio investment data reasonably complete and accurate.
- Croatia participates in the Coordinated Direct Investment Survey (CDIS) and plans to participate in the CPIS after new security database becomes operational.
- Data on International Reserves and Foreign Currency Liquidity (Reserve Data Template) available with a lag of one to two months.
- Croatia compiles external debt data according to External Debt Statistics: Guide for Compilers and Users, 2013.

### Data standards and quality
- Croatia has been a subscriber to the Fund’s Special Data Dissemination Standard (SDDS) since May 1996, and met all SDDS requirements in March 2001.
- No data ROSC has been published.

### Table of Common Indicators Required for Surveillance (As of April 30, 2016) — selected dated observations and frequencies
- Exchange Rates: Date of latest observation 4/30/16; Date received 4/30/16; Frequency of data D and M; Frequency of reporting D and M; Frequency of publication D and M.
- International Reserve Assets and Reserve Liabilities of the Monetary Authorities: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Reserve/Base Money: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Broad Money: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Central Bank Balance Sheet: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Consolidated Balance Sheet of the Banking System: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Interest Rates: Date of latest observation Mar. 2016; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Consumer Price Index: Date of latest observation Mar. 2016; Date received 4/15/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Revenue, Expenditure, Balance and Composition of Financing — General Government: Date of latest observation 2015:Q4; Date received Apr. 2016; Frequency of data Q; Frequency of reporting Q; Frequency of publication Q.
- Revenue, Expenditure, Balance and Composition of Financing — Central Government: Date of latest observation Dec. 2015; Date received Apr. 2016; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- Stocks of Central Government and Central Government-Guaranteed Debt: Date of latest observation 2015:Q4; Date received 4/16/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- External Current Account Balance: Date of latest observation 2015:Q4; Date received 3/31/16; Frequency of data Q; Frequency of reporting Q; Frequency of publication Q.
- Exports and Imports of Goods and Services: Date of latest observation 2015:Q4; Date received 3/31/16; Frequency of data Q; Frequency of reporting Q; Frequency of publication Q.
- GDP/GNP: Date of latest observation 2015:Q4; Date received 4/21/16; Frequency of data Q; Frequency of reporting Q; Frequency of publication Q.
- Gross External Debt: Date of latest observation 2015:Q4; Date received 4/21/16; Frequency of data M; Frequency of reporting M; Frequency of publication M.
- International Investment Position: Date of latest observation 2015:Q4; Date received 4/21/16; Frequency of data Q; Frequency of reporting Q; Frequency of publication Q.

*Statement by Menno Snel, Executive Director for the Republic of Croatia and Tsvetan Manchev, Advisor to Executive Director — June 22, 2016*

### Recent economic developments and outlook (authorities’ statement)
- Economy: economy bottomed out in 2015; Q1 2016 GDP growth reached 2.7 percent y-o-y.
- Contributions to growth (Q1 2016):
  - Exports grew by 7.1 percent y-o-y
  - Gross fixed capital formation by 4.3 percent
  - Personal consumption by 3.1 percent
  - Government consumption by 0.6 percent
- April indicators:
  - Adjusted industrial output up by 4.9 percent y-o-y
  - Retail trade growth positive for the 21st consecutive month, with nominal sales growth at 0.7 percent y-o-y
- Labor market: recovery reflected favorable labor market; projected employment growth and decreased unemployment rate; number of unemployed declined and is trending below the 2015 minimum ahead of the peak tourist season.
- Demographics: despite unfavorable demographic trends, recovery expected to have positive effects on labor force participation.

### Fiscal policy and debt management (authorities’ stance and plans)
- Authorities’ objective: use growth recovery window to progress with fiscal consolidation, debt restructuring, exit from EU’s Excessive Deficit Procedure, and put public debt on sound footing.
- Fiscal consolidation strategy (NRP, 2016–19) aims to reduce planned budget deficit on a consolidated basis to 1 percent of GDP in 2019.
- Public debt projections and expectations:
  - Reduction of the public debt to GDP ratio in 2016 to 85.9 percent
  - Expected gradual reduction to 80 percent of the GDP by 2019
- Fiscal consolidation approach for 2016–2019: balanced measures on revenue and expenditure to minimize negative impact on growth.
- Key fiscal reforms presented in updated NRP:
  1. introduction of a modern real estate tax by January 2018;
  2. reform in public administration by making part of public servants’ compensation performance-based;
  3. streamlining social benefits;
  4. reforming the pension system;
  5. activation of state property.
- Implementation constraints: NRP requires important legislative changes and more time to build consensus.
- Largest structural revenue-side measure in 2016: enhance tax system and strengthen tax administration, including improvements in land registration and cadaster to prepare for property tax by January 2018.
- Expenditure-side in 2016: further rationalization of current spending to provide space for growth-enhancing expenditures.
- Government advancing introduction of performance-based public servants’ compensation scheme.
- Proposed Fiscal Responsibility Act (in consultation with European Commission) to strengthen independence of Fiscal Policy Committee and ensure full compliance of national fiscal rules with EU framework; Act establishes mechanisms for compliance and sanctioning of non-compliance with planned budget limits for all government layers. Adoption planned by September 2016.

### Monetary policy and financial stability (authorities’ stance and measures)
- Exchange rate regime: authorities committed to exchange rate stability as policy anchor for inflation expectations and financial stability; welcome staff recognition.
- De-euroization: authorities agree gradual de-euroization desirable; euroization remains deeply entrenched.
- Monetary stance: highly accommodative monetary policy to create favorable financing conditions and support activity.
- Credit trends: credit to corporate sector increased by 3.8 percent in the first four months of the year (2016).
- New instrument: four-year structural reverse repo facility provides banks with long-term funding in local currency.
- NPLs and provisioning: NPLs started declining; provisioning increases, reaching almost 60 percent thanks to earlier CNB policies.
- Planned tax treatment changes of write-offs in NRP could help swifter unwinding of banks’ stock of NPLs; also planned reinforcement of pre-insolvency and insolvency frameworks and adoption of a personal insolvency procedure.
- International reserves and buffers:
  - Authorities emphasize need for adequate buffers; commercial banks also hold additional buffers per CNB macro-prudential regulation.
  - Combined buffers are stated to be comfortably in recommended range of 100-150 percent of IMF's RAM metric.
  - May 2016 FX intervention: 84 million euros were purchased.
- Banking system resilience:
  - System-wide capital adequacy ratio close to 21 percent at end-2015.
  - 2015 profit and loss accounts temporarily affected by legislative amendments facilitating debtors with loans in Swiss francs; operational profitability slightly higher than a year before.
  - Total capital adequacy ratio declined by 0.5 percentage points compared to end-2014 as a result of that operation.

### Competitiveness and structural reforms (authorities’ measures and priorities)
- Public administration reform: key prerequisite; steps to improve efficiency, reduce overlaps, improve management practices, and revise wage policy.
- State-owned enterprises: restructuring and privatization preparation progressing; government redefining policy on public companies with harsher requirements on quality of operations, planning and realization of business objectives, and improving operational control to facilitate privatization.
- Government examining justification of ownership over companies of strategic interest to reduce their number; privatization of government minority stockholdings stepped up.
- May 2016 privatization: 20.4 percent of government shares in electronic industries Končar were sold to institutional investors.
- Social and health reforms considered: measures to streamline social benefits, reform pension system, improve healthcare system; progress on establishing single center for social welfare benefits with integrated data and benefit administration (one-stop-shop).
- Measures under consideration: encourage longer working life and increase penalization for early retirement.
- Health sector reforms sought: changes in primary healthcare and health insurance system, emergency medicine reform, hospital network reorganization, rationalization and reorganization of non-medical hospital services.
- Business environment: authorities re-examining para-fiscal charges for private sector.
- Authorities’ view: these measures will help improve competitiveness and pave the road to sustainable and more inclusive growth.

*Italic: Source — Croatia—Statistical Issues and authorities’ statement (as provided in the content unit).*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16187.pdf_