A New Export Offensive Would Prepare Croatia for the Post-Crisis Period

The traditional region can be directed towards modern business, stimulate exports, and invite renowned industrial players to participate by following a strict and consistent industrial development policy.

Written by: Dr. Vladimir Preveden, Roland Berger Strategy Consultants
www.rolandberger.hr

Croatia will be hit – and is already being hit – by a crisis in three areas:

1. The Eurozone has entered a crisis. After GDP growth in the second and third quarters of 2008 was negative (-0.2 percent), Eurozone countries slid into recession. Expectations for this year are also not optimistic: Germany, for example, expects a recession with a -2.2 percent contraction in GDP, as recently announced by the IFO Institute. Croatia exports 60 percent of its total exports within the EU and approximately 29 percent of GDP (in 2007).

2. Direct foreign investments will decrease. Croatia received 3.6 billion euros in direct foreign investments (source: HNB) or 9.6 percent of GDP in 2007.

3. According to UNWTO, the tourism sector will significantly decline in 2009, with Mediterranean countries being the most affected. This could significantly impact Croatia as tourism revenue accounts for 10 to 20 percent of total GDP (depending on the calculation method used).

In short, we can say that the threatening economic upheaval will directly affect approximately 48 percent to 58 percent of GDP. This is a disturbing sign that we need to act.

On the other hand, looking at small countries in the European Union, we can conclude that the smallest countries are the richest, which means that Croatia’s size in terms of population should be an advantage that should be utilized. For example, the three richest countries in the European Union by GDP per capita (in 2006) are Luxembourg, Ireland, and Denmark. There is also the example of Slovenia, which, with two million inhabitants, is the 23rd smallest country in the EU but ranks 16th in terms of wealth.

Croatia often sees itself more as a victim than as a potential driver of its own prosperity. However, there is no need for such a stance. Croatia and its leaders should develop a more active and constructive approach to EU integration that would support top-notch education in the country, a clear industrial strategy, and successful implementation.

Comparing examples from other regions in Europe, we can see that there are many brilliant regions that have transformed into economically dynamic areas marked by economic prosperity. Such successful transformations include the German Ruhr region (from a former mining area to an area with many modern customer-oriented industries), the Bavarian province which has positioned itself as one of the European biotechnology innovation centers based in Martinsried, and the Austrian province of Styria, which has become a model for how to develop a strong, European-relevant industry. The development of the Slovak automotive industry over a 16-year period is another good example.

These examples – regardless of the current problems in the automotive industry – show that it is possible to turn a traditional region towards modern areas of business, design high-value jobs, stimulate exports, and invite renowned industrial players to participate by following a strict and consistent industrial development policy.

What can Croatia and its decision-makers learn? The first thing is to learn from good international examples, the second is to truly focus on creating success through changes, and the third is to take specific and concrete steps following a consistent philosophy for several years.

Future areas of growth where living standards and prosperity can be improved include healthy food, renewable energy, biotechnology, nanotechnology, the internet and IT, as well as sustainable tourism.

So, what needs to be done?

An action plan in five points could lead to measurable results. In short, it is necessary to move away from the principle of evenly distributed subsidies, focus on a few selected industries, invest money in them, provide incentives for their development, and encourage partnerships among academic institutions and private, national, and international companies.

Action Plan in Five Points

1. Move away from the principle of evenly distributed subsidies
Croatia should identify areas where it could achieve sustainable advantages in the future and those that already have the best available resources needed for development. State money has so far been spent more or less evenly across many industries. As a result, no industry has been able to reach a critical amount of available funds to stimulate targeted growth; on the other hand, industrial losers have actually been given too much money. The result is that this money (e.g., 17 billion kuna in shipyard subsidies since 2000 according to media reports) is not available for industries with a high rate of return on invested capital.

Therefore, it is wrong to invest by giving everyone an equal share of the pie. Investment should be justified by focusing on the future, sustainable results, and economic viability. At the same time, it should focus on areas of economic benefit for Croatia as a whole. Here, the benefit can be calculated based on the expected volume of exports, investment in the country, and job creation.

2. Focus on a few selected industries, set goals
This has nothing to do with free trade zones. We should move away from the principle of waiting to the principle of stimulation. Then, it is not necessary for one industry to cover the entire country. For example, the biotechnology sector could develop in an area with a high density of faculties and clinics, with good international travel connections and attractive residential infrastructure. There is no need for a biotechnology initiative/cluster that would cover all of Croatia. This is not intended as a socialist approach, but rather as a focus. It is important to clearly focus on a few industries in which Croatia can hope to achieve a competitive advantage over the rest of the world in a few years.

When one or several industries are identified as those in which Croatia can achieve an advantage over other regions, measurable goals should be set. These should include gross revenue that companies should achieve within a specific cluster in five years.

3. Invest money in defined, selected industries
According to figures recently published by the Competition Protection Agency, state subsidies in Croatia amounted to 1.2 billion euros or 3.3 percent of GDP in 2007. Most of this amount was spent on covering losses in shipbuilding, HŽ, certain industrial companies, and agriculture. Although undoubtedly important, these industries currently have little prospect of contributing to prosperity. Therefore, to ensure a return on invested capital, it is important to treat this money as an investment and gradually transfer it to defined, focused industries with a higher return on invested capital – following a defined plan with set goals. Such a transformational plan can be completed in five to ten years.

4. Provide incentives for the development of focused industries
Focused industries need motivation and incentives to develop. This includes three elements: first, highly motivated and dedicated people are needed to drive this process forward; second, public administration needs to be modernized and adapted – processes such as company registration, hiring staff, and layoffs; financial transactions and provisions need to be carried out quickly and without excessive bureaucracy. And third, tax incentives are needed for motivation.
Implementing these steps will provide interesting and well-paid jobs for talented young people in Croatia, and they will enable the shaping and growth of an entrepreneurial spirit. Furthermore, areas where focused industries are located will attract talented young scientists and managers in the long term. This will ultimately stop the brain drain and encourage their influx.

5. Encourage partnerships among academic institutions and private companies
In the final analysis, the element that truly stimulates the development of innovations is the connection of key partners: universities, private companies, public sponsors, modern local companies, and also international companies that will eventually settle here. All of this should be managed like a fast-growing company. This company would help identify the needs of individual players, group them, and provide them with solutions and assistance. Furthermore, it would monitor the process, advertise it, determine countermeasures, and promote the development program abroad.

If investment funds are a problem, a fund could be established with capital from major players in the industry who want to support innovations and ultimately profit from them.