Washington, DC:
An International Monetary Fund (IMF) team led by Mr. Srikant Seshadri
conducted virtual discussions with the Croatian authorities during November
16-25, 2020 on how to balance short-term priorities of economic support in
the face of a resurgence in infections against medium-term priorities of
restoring fiscal space, and raising productivity and growth through
improved public investment and greening of the economy.
At the end of the visit, Mr. Seshadri issued the following statement:
“The Croatian people have shown great resilience in coping with the
Covid-19 crisis, and the earthquake.
This year, the economy is expected to contract between 8-10 percent
reflecting lower domestic and external demand, and in particular, a 50
percent decline in tourism volumes (year-on-year). Despite the difficulties
of this year, Croatia is faring better than many other countries with a
similar degree of tourism-dependence. Rises in unemployment have been
contained thus far thanks to strong policy support. Yet, significant
challenges persist due to the resurgent pandemic. Public debt is expected
to rise back up to 88 percent of GDP this year, with a forecast of the
general government deficit of 8 percent of GDP due to lower tax revenues,
and fiscal support measures provided to support those impacted by the
shocks. Growth in credit to the private sector has held its ground, partly
supported by a temporary debt service moratorium. Economic growth is
expected to rebound to about 6 percent in 2021, driven by a partial
recovery in tourism and higher public investment, but it is subject to
significant pandemic-related uncertainty.
"Finding a balance between short and medium-term priorities is
challenging.
In the short-term, the priorities are to ensure that (1) economic support due to the Covid-19
crisis is not withdrawn until the recovery is well entrenched; (2) the measures enacted remain effectively targeted in reaching viable
sectors of the economy to minimize scarring; (3) resources for potentially
higher healthcare expenses can be met, particularly if the epidemiological
situation gets worse. These have to be balanced against medium-term goals
of once again increasing fiscal space ahead of euro adoption, guiding
budgets back towards balance, enacting structural reforms to fix healthcare
and pensions, streamlining the role of the state-prominently through
improved SOE governance, as well as an enhanced business
climate.
"Policy measures should evolve in tandem with the crisis.
Active training and reskilling should take place in areas with excess
capacity such as tourism and hospitality and into areas like greening the
economy and construction. Measures need to be constantly monitored to
ensure that economic support is targeted to viable firms. Further,
Covid-19-related support measures should be designed to remain in place as
long as the pandemic has not abated; this will remove any uncertainty
regarding the duration for which they will be needed. In addition, taking
the economy to the next level over the medium-term would be better
facilitated by investments in technological and human capital, as we
recommended in the 2019 Article IV consultations. Once recovery is
entrenched, the fiscal framework needs to be steered closer to the
medium-term objectives of lowering debt and balancing the budget. The
Croatian authorities would be well advised to actively communicate their
medium-term fiscal strategy that covers medium-term financing needs and
includes an assessment of the fiscal risks. Fiscal stimulus designed to
raise growth would be more effective if delivered as spending increases
than further tax cuts. At this stage, in our view, further reductions in
VAT are not advisable without adequate offsets that guard against permanent
revenue losses.
"The generous allocation of Next Gen EU Funds represents a unique
opportunity for Croatia.
Averaging 5 percent of GDP over the next several years starting in 2021,
these funds are substantial and can be utilized to raise public investment
in physical, digital, green, and soft infrastructure for years to come. If
properly absorbed and utilized, these funds could meaningfully raise
productivity and growth, whilst shielding the ability to meet crucial
current expenditure needs in areas such as healthcare, in the near-term. In
this regard, the Croatia 2030 National Development Strategy is encouraging
and broadly lays out the right priorities. It is crucial to develop a
concrete investment plan and follow through with strong implementation.
"The Croatian National Bank (CNB) has been proactive in responding to
the crisis and the banking sector has thus far withstood pressures
well.
The CNB had to aid the currency at the outset of the pandemic, provide
additional liquidity, support the government securities market, and
temporarily eased the regulatory burden on banks. The European Central Bank
(ECB) and the CNB agreed on a €2 billion swap line on April 15. The CNB
conducted five purchases of government securities, for about 5.5 percent of
GDP by end-June. Domestic financial markets quickly stabilized, and Croatia
took another step forward in its integration with European Union partners,
by joining ERM II and establishing close cooperation with the ECB on
banking supervision as well as by joining the Single Resolution Mechanism
on July 10.
“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 2021
Article IV Consultations, scheduled for next Spring.”
