The money is there, but Croatia needs reforms in order to get it

June 20, 2014

Mamta Murthi, Country Director, Central Europe and the Baltic Countries Deutsche Welle in Croatian

Due to the recession many in Croatia feel that joining the EU was ‘not worth it’. Mamta Murthi from the World Bank points out that Croatia itself can and must do a lot in order to attract investments and create jobs. 

Mamta Murthi is the World Bank Country Director for Central Europe and the Baltic countries, including Croatia and Slovenia. Prior to becoming Country Director, Ms. Murthi had worked as a Senior Economist at the World Bank following the economic trends in Serbia, Montenegro and Bulgaria and subsequently became Lead Economist for Europe and Central Asia. Ms. Murthi had previously also held the position of the Advisor at the office of the Managing Director overseeing World Bank activities in Easter Europe and former Soviet Union. Our correspondent, Marina Maksimović interviewed Ms. Murthi about the situation in Croatia.

Deutsche Welle: Ms. Murthi, how would you assess the current economic situation in Croatia?

Mamta Murthi: “Currently, Croatia is going through challenging economic times. The country has been in a recession for the last five years, and the expected economic growth in 2014 is negative or zero. This means that things are looking difficult for most people. The decline in income per head in the past 12 years has been about 12% on average.  Unemployment rate is quite high and today many more people are living in material hardship than was previously the case. Also, we should bear in mind the impact that the floods, which have recently hit Bosnia and Herzegovina, Serbia, and also Croatia, will have on the present economic circumstances.”

DW: EU reports mention gradual economic recovery of all member states except for Cyprus and Croatia, which are still in recession. In your opinion, what is the basic cause for such a bad state of the Croatian economy?

Murthi: “There are two reasons why things are the way they are on the economic front in Croatia. One is the impact of the global financial crisis which started around 2008 and led to withdrawal of both credit and demand from the economy. Perhaps the more significant factor is the postponement of economic reforms in Croatia. The combination of these two factors has resulted in a situation where the economy has been contracting for five years.”

Reforms, reforms...

DW: What is the biggest challenge for the Croatian economy and which are the most necessary reforms?

Murthi: “I would focus on two kinds of reforms. The first has to do with the environment for doing business. Currently, it is hard for companies in Croatia to develop and create new jobs. This is a combination of many things, including the contracting economy however, in addition, there is a lot of red tape, (bureaucratic processes in starting a business) and  getting credit from a bank is not easy, especially if you are a small company. It is quite hard to hire people and it is even harder to fire people. So this whole environment for the growth of businesses needs to be urgently addressed.

The second reform has to do with the efficiency and effectiveness of the Government, the state. Public spending remains very high. Croatia  is still a very heavily state dominated economy and public administration is not particularly efficient. There are many state owned enterprises which perform poorly. There is a whole set of reforms around making the public sector and public administration more efficient that would help restore growth in the economy.”

DW: In the EU there are discussions about the end of the austerity period and the necessity of investing in opening new jobs.  At the same time, Croatia still has a problem with fiscal deficit and debt. How can it strike a balance between the necessary savings on the one hand and the investments which are needed for growth on the other?

Murthi: “Public spending is very high and debt is very high. There is a need to bring the budget deficit under control and to reduce the level of public debt. Croatia is now in the excessive deficit procedure, which was initiated by the European Commission. As it goes through this procedure it will reduce public spending. However, you are quite right that there is a need to focus on growth and this is where reforms to the environment for doing business comes in. Reforms are needed to make Croatia an attractive place for investment.  Moreover  if public administration could become more effective, Croatia could more effectively  absorb the EU money to which it is entitled. Both sets of reforms would raise the level of investment and lead to economic growth. So the deficit needs to be brought under control and at the same time focus on the business environment and public administration reforms needs to be kept.”

Europe’s economy is already growing

DW: While we are on the subject of EU funds and money, how much has EU membership benefited Croatia so far?  There are those who say that perhaps the country had “unlucky” because at the time when it joined the EU, which is usually characterised by investment growth in the future member state, Europe was undergoing a crisis.

Murthi: “EU membership is a huge opportunity for Croatia. All records show that the countries which have joined the EU have benefited from the access to a large market, but also from the access to large EU structural and cohesion funds. Croatia joined the EU at the right time, when the European economy began to grow again. The opportunities for Croatia are enormous, but it is the question of making sure it can absorb the EU money effectively.  A positive example of successful economic growth in countries of similar size to Croatia, are the Baltic countries which upon joining the EU very quickly caught up with EU15 i.e. the “old” member states. This was done through having very good economic policies and by having a very strong record in absorbing the structural funds. Even though the Baltic countries saw a  huge contraction in 2008 and 2009, they bounced back from that. So you can experience some turbulence, but there are also huge opportunities that the EU accession provides.”

DW: Apart from budget deficit, Croatia is also chronically ailing from the foreign trade deficit i.e. it is importing much more than it is exporting. It appears as though Croatia is just surviving from one summer tourist season to the other. What other potentials do you see in Croatia?

Murthi: “Tourism is obviously a Croatian potential, but there are also agriculture and small manufacturing. But I think Croatia’s real potential is in the very high quality of its people and its ability for research and innovation.  Many countries, like thethe Czech Republic, Slovakia, Poland and now  Romania, were integrated into global supply chains and thus became export focused countries. This is something Croatia can do too, in addition to its obvious natural advantages when it comes to tourism.”

Is the kuna overvalued?

DW: What does the World Bank think about the exchange rate of kuna to euro? Some economists in Croatia claim that it is unrealistic and that the devaluation of kuna could stimulate export. How would devaluation of kuna impact the overall economic development in Croatia?  

Murthi: “There are different views on this. The Government is committed to maintaining a fixed exchange rate vis a vis the euro. The Croatian economy is very heavily euroized so there is very little option to devalue.  The Government rightly is thinking about making sure that Croatia has  a cost competitive economy, and is working on internal competitiveness. This is something we support. Making  public administration more effective, , using EU resources effectively for R&D and investment in infrastructure making the labour market more flexible – all this will contribute to greater internal competitiveness which is the right strategy for Croatia.”

DW: Talking about the labour market in Croatia, what do you think is the main reason for Croatia ranking the third EU member state, after Greece and Spain, in youth unemployment?

Murthi: “Young people are entering the labour market for the first time. In general, when an economy is not growing rapidly it is not creating jobs and the people who get affected the most are the ones who are entering the labour market. If the economy would start growing and creating jobs we would begin to see a fall in youth unemployment.  This is the major reason – the lack of demand and the lack of job creation. In addition to that, Croatia has fairly high labour market protection, i.e. protection of those who are already employed. This makes it difficult to create new jobs. Working on making hiring and firing more easy will help.  But, the primary reason for high unemployment in Croatia is the recession which has lasted for more than five years.”

DW: What are the World Bank forecasts about the Croatian economy in the upcoming period? When will the Croatian citizens be able to feel the first positive results of the economic reforms in their everyday life?

Murthi: “For Croatia the World Bank forecasts a GDP decline of 0.5% in 2014.  We are expecting for growth to move to a positive territory in 2015, when we are expecting over 1% of growth. Of the former Yugoslav countries, we foresee the continuation of a recession in 2014 only for Croatia.  In all other countries we are expecting to see positive growth and this growth is expected to strengthen in 2015. Croatian citizens could feel the first positive results in 2015 at the earliest. To a certain extent it depends on the Croatian Government and its activities in eliminating obstacles in the business environment and making investing and doing business easier. Nevertheless, I would say not before next year.”

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