Croatia

major macro economic indicators

(e): Estimate (f): Forecast

RISK ASSESSMENT

Croatian economy is set to slow sharply in 2023

The slowdown in the Croatian economy, already observed in 2022, will accelerate in 2023 as high inflation and trading partners’ weak growth drags on consumption and tourism. The Russian invasion of Ukraine had only a limited direct impact on Croatia as Russia previously accounted for less than 1.1% of the country’s goods exports and just 1.6% of its imports. Croatia has implemented EU sanctions against Russia and frozen the assets of hundreds of Russian individuals and entities, including luxury villas on the Croatian coast, a favoured holiday destination for the Russian elite. While the direct impact is limited, the indirect impact, namely overall higher energy prices in the European market, is spilling over to food and other goods prices owing to increased production and transportation costs. This pushed up Croatia’s average annual inflation rate to around 11% in 2022, its highest since the beginning of the time series in 2000. Admittedly, the minimum wage increased in 2022 and further wage demands are likely in 2023 as the labour market remains tight on back of an unemployment rate that has fallen to one of its lowest levels since 2015. On top of that, the government helps households (and companies) cope with higher energy prices. However, price tensions will erode household purchasing power, leading to further soft spending over the 2023 winter and spring months. Sluggish European growth could also weigh somewhat on the recovery in tourism which was strong in 2022. This would impact the economy, as tourism revenue contributes 25% to both GDP and employment. Additionally, as Croatia joined the Eurozone on 1 January 2023, the country has handed over complete control of its monetary policy to the European Central Bank (ECB); it had already ceded partial control as its local currency was part of the ERM II from 2020. The ECB’s key interest rate stood at 2.5% at the end of 2022 and is expected to continue rising in 2023. This will continue to drag on private investment as borrowing costs have increased. Nevertheless, investments are planned under the EU Recovery Fund from which Croatia will receive around €6.3 billion for the 2021-2026 period for investments focusing on innovation, green and digital transition. Last, net exports’ contribution to GDP growth should remain positive, albeit lower due to imports increasing at a faster pace than exports.

Slight twin deficits

In 2023, the current account, which traditionally showed a surplus before the pandemic, will remain close to equilibrium. Goods exports will closely follow the economic activity of Croatia’s main trading partners which are expected to slow down, while growth in services exports will remain more or less robust, boosted by the resilient tourism sector. The surplus in the balance of services will barely offset the deficit in the balance of goods resulting from the country’s high dependence on imports. The fiscal deficit is likely to widen as high prices maintain upside pressure on spending and slower growth drags on revenues. The decrease in the high public debt will therefore slow.

Government reshuffle after corruption scandals

In July 2022, a new government was sworn in after Prime Minister Plenkovic, head of the conservative Croatian Democratic Union, HDZ, sacked several controversial party members after a string of corruption scandals in April 2022. Plenkovic is leading a coalition together with two liberal parties - the Croatian People's Party (HNS) and the Reformists - and the support of eight ethnic minority members of Parliament. The coalition holds a mere one-seat majority in the 151-member Hrvatski Sabor (Parliament). According to the latest polls, HDZ remains the most popular political party (32%) despite the corruption scandals, while its main rival, the Social Democratic Party (SDP) performs poorly in polls (17%). The incumbent government is expected to remain in place until the next election due in 2024, but tensions are likely to persist with President Milanovic owing to their different approaches to foreign policy. Relations with Bosnia and Herzegovina are strained over a number of issues, such as the Peljesac Bridge, which crosses Bosnia's maritime access to provide a road connection between the north and south of the Croatian coastline. Nevertheless, their economic ties remain strong with high trade volumes, and Croatia is the second-largest foreign investor in Bosnia and Herzegovina.

Last updated: April 2023