Standard & Poor’s Confirms Croatia’s Rating BBB-/A-3

The agency Standard & Poor's has confirmed Croatia’s rating of ‘BBB-/A-3’ with stable outlook, highlighting that the recovery of the economy thanks to tourism has created conditions for reducing public debt this year from record levels in the pandemic year of 2020.

Croatia’s rating continues to be supported by moderate net external indebtedness and the government’s prudent budgetary policy in the previous period, the agency emphasizes.

However, it is constrained by a moderate income level and high public debt. Croatia also has a “less flexible” monetary framework than comparable countries, although it serves as an anchor for its stability, S&P notes.

The stable outlook signals S&P’s expectations that the prospects for a strong recovery of the Croatian economy and readiness for reforms will help the government gradually restore the budgetary space lost after the pandemic.

The agency also emphasizes that the outlook is based on the assumption that vaccination of citizens against COVID-19 will progress and continue to support activities in tourism.

Summer Recovery

The Croatian tourism sector has strongly recovered this summer, exceeding expectations, the agency notes, raising its growth estimate for the Croatian economy this year from 5.1% to 6.5%.

A “solid investment program” supported by significant EU funding, recovery of personal consumption, and uninterrupted tourist activity will result in a 5% growth in economic activities next year, assuming the pandemic subsides, the agency estimates.

So far, they had expected a growth of 3.5%.

However, they warn that the forecast depends on the development of the pandemic, which has not yet subsided, as well as on the progress of the vaccination program and the risk of uncontrolled emergence of new virus variants. Croatia has so far immunized 44% of its population, less than the EU average of 61%, they note.

In 2023, growth is expected to slightly slow down to 3.0%.

Debt Reduction

Since Croatia entered the pandemic with an improved budgetary situation, the government had room for strong fiscal support measures, which mitigated the pandemic’s impact on the labor market.

Due to these measures, public debt expressed as a share of GDP reached a record 88.7% last year, although historically low financing costs and extended maturities work in favor of its profile.

The agency estimates that debt will begin to decrease this year and slide to 84.1%, based on the government’s efforts to consolidate the budget and the recovery of the economy.

In 2022, it is expected to drop to 81.2%, and to 79.1%, the agency estimates, noting, however, that it should not return to pre-crisis levels by 2025.

Support in the Corona Crisis

The government aims to quickly adopt the euro, which gives it an incentive to reduce the budget deficit below the maximum prescribed level in the EU of 3%, expressed as a share of GDP from 2022 to 2024.

The agency estimates that the general government budget deficit will decrease to 3.5% this year, down from 7.4% in 2020, although spending continues to be affected by support programs in the corona crisis and rising healthcare costs.

A counterbalance to the increase in fixed items in spending could be good fiscal revenues during this summer, especially from value-added tax, the agency emphasizes.

They estimate that the budget deficit will fall to 2.5% next year, and to 2% in 2023.

Institutions and Vaccination

The agency warns that it could raise Croatia’s rating if the Croatian economy stabilizes and the medium-term growth trajectory strengthens, which would mean a noticeable improvement in wealth levels.

In that scenario, the government would effectively and timely utilize the allocated EU funds and continue with the fiscal consolidation program, explains S&P.

In the longer term, Croatia’s access to the eurozone will also affect the quality of its debt, they emphasize.

The agency could consider a downgrade if the Croatian economy recovers weaker than currently expected. The rating would also be adversely affected by Croatia’s institutional inability to ‘draw’ EU financial resources and utilize them for investments, they note.

The risk also represents a potentially slower vaccination pace, as the service sector would be exposed to the threat of uncontrolled variants of the coronavirus, emphasizes Standard & Poor’s.