Credit Rating: Croatia Finally in Category A – Do We Believe the Facts or ‘Someone’s Eyes’?

Prompted by a recently published column by Lider’s editor-in-chief Miodrag Šajatović, Minister of Finance Marko Primorac decided to respond to the thesis presented in it. In the text titled ‘Credit Rating: Do You Trust Standard & Poor’s or Your Own Eyes?‘ Šajatović suggests that the credit rating is largely undeserved because the reforms are cosmetic. We present the response in its integral form with minimal editorial and proofreading interventions

Croatia has faced poor credit rating assessments for years. In some years, those ratings were so low that they classified us in the ‘repeaters’ category, i.e., economically speaking, in the category of countries whose fiscal and overall economic policies instilled almost no confidence. Irresponsible fiscal policy and a lack of vision for economic development resulted in the opening of a procedure for excessive budget deficits, and Croatia was marked as a country with excessive macroeconomic imbalances. Along with these economic problems, the wave of emigration began with Croatia’s entry into the EU in 2013, resulting in the loss of more than 300,000 residents. At that time, we could not even dream that after just a decade, the economic picture and perspective of Croatia would change dramatically.

Where have we come?

The path we have traveled from facing deficiencies and systematically eliminating them has been arduous and difficult. Years of fiscal consolidation and demanding reforms resulted in exiting the procedure for excessive budget deficits and economic imbalances, and foreign policy efforts opened up the possibility for stronger integration into the ‘heart of Europe’ by joining the Eurozone and the Schengen area. With this step, in economic terms, Croatia permanently left the ‘hilly Balkans’ and positioned itself in Central Europe and the Mediterranean, where it has always belonged geographically, culturally, and civilizationally. By adopting the common European currency, currency risk was eliminated, and by joining the European Stability Mechanism, we placed ourselves under the common financial shield of Eurozone countries. Entry into this prestigious club would not have been possible without serious interventions through which we first organized our ‘own economic yard’. In other words, the ‘diploma’ of the Eurozone and Schengen would have had almost no weight if we had not mastered the material well and significantly improved the domestic economy along the way. Today, the credit rating that has finally positioned us in the honors category should be viewed in the same way, as we have achieved one of our long-standing economic aspirations and finally received confirmation that we have done a good job and that the direction in which our economy is moving is correct. The ratings agencies’ assessments are likely one of the best indicators of the quality of public finance management, as well as economic policy as a whole, and confirmation of long-term good macroeconomic and economic prospects.

Why has the credit rating increased?

Credit rating agencies Standard & Poor’s (S&P) and Fitch assigned Croatia its historically highest credit rating level, A–, at the beginning of September, within just a week, which is a great recognition for all the efforts, undertaken reforms, and achieved results. This is great news for the Croatian economy and a confirmation of security for investors.

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The S&P agency forecasts an average economic growth of three percent from 2024 to 2027 based on large investments, strong consumption, and expectations of high contributions from tourism. It emphasizes that Croatian institutions continue to implement reforms that, together with significant investments from the National Recovery and Resilience Plan (NPOO), can further improve the potential for economic growth. S&P points out that Croatia has diversified its energy sources in the past three years, primarily thanks to the establishment of an LNG terminal on Krk, which allows it to supply gas via sea routes. It also highlights its near expansion, which will increase the security of Croatia’s supply, as well as the potential growth of gas exports, and in the future, hydrogen, especially from 2026, when pipelines to Central Europe are completed.

S&P also recognizes numerous measures that the government has taken in response to the labor shortage, such as reforming the education system, active employment policy measures, and simplifying the issuance of work permits for foreign workers. The Fitch agency published its report after S&P, and with very similar reasoning, explained the reasons for the increase in the credit rating to A–, with stable prospects. In its report, it particularly highlights several key factors that contributed to the rating increase. The agency emphasizes economic resilience and convergence of income to the EU average. Strong economic growth, supported by rising real wages and further integration with key Eurozone countries since the introduction of the euro in January 2023, has increased GDP per capita from 67 percent in 2019 to 76 percent of the EU average in 2023. Despite significant external challenges, Croatia has achieved one of the strongest recoveries after the pandemic. Real GDP at the end of the first half of 2024 was 19 percent above the level of the fourth quarter of 2019. Fitch also highlights a strong growth forecast and expects that real growth of Croatian GDP will average 3.1 percent from 2024 to 2026 compared to 1.3 percent projected for the Eurozone and 2.6 percent for the median of A-rated countries. They emphasize that growth will be driven by domestic demand, fueled by strong household consumption and continuous high absorption of EU funds. Croatia is a leader in the absorption of funds from the Recovery and Resilience Mechanism (RRF) and in the speed of meeting goals that encompass investments and reforms in various segments of the economy. Progress in implementing the NPOO emphasizes significant improvements in institutional capacities in Croatia in recent years.

Both agencies also emphasize a significant reduction in debt (measured by the ratio of public debt to GDP).

Fulfilled one hundred percent of obligations

Prudent fiscal policy and strong nominal GDP growth have contributed to the rapid reduction of public debt in GDP. A reduction in gross general government debt below the 60 percent GDP threshold is expected in 2024, which is more than 25 percentage points below the peak during the pandemic. The reduction will continue even after 2024, allowing Croatia to meet all Maastricht criteria.

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As one of the key activities aimed at quality public debt management in the Guidelines for Public Debt Management for the period 2024 – 2026, further expansion and diversification of the investor base through the issuance of government securities intended for citizens has been established. So far, around 150,000 citizens have participated in the purchase of government bonds and treasury bills, of which as many as 43,500 are new small investors in the capital market. Citizens currently hold more than eight percent of public debt, and more than 200 million euros in interest that would otherwise have been paid to institutional investors has been redirected to them.

The number of employed has increased by 182,573 people from August 2020 to August 2024, while the number of unemployed has decreased by 63,382 people during the same period. According to Eurostat data, the number of adults participating in education increased from 5.3 percent to 6.4 percent from 2021 to 2023, thanks to a strong response from individuals using the voucher system. Data from the Croatian Employment Service shows that 70 percent of individuals who complete education through the voucher system find employment within six months after completing their education.

The government’s medium-term reform program focuses on demographics, digitalization, decarbonization, education, and progress towards joining the OECD. Fitch believes that despite the ambitious nature of these plans, the expected political stability in the next three years and improved institutional capacities will enable the government to effectively implement reforms.

In the EU’s financial perspective from 2021 to 2027, Croatia has 24.2 billion euros at its disposal, of which 10.04 billion euros relates to the NPOO. Since the beginning of the implementation of the NPOO, all planned obligations, i.e., all 157 reform and investment indicators related to the first five realized tranches of the NPOO, have been successfully fulfilled. Consequently, Croatia has so far received a total of 4.5 billion euros.

Emphasis on reforms

Since the Recovery and Resilience Plan is based on reform measures, special emphasis has been placed on them with the aim of increasing the competitiveness of the economy and green and digital transformation. Therefore, since the beginning of implementation, work has been done in parallel on all reform measures in almost all areas of public policy, and most reforms have been timely and successfully implemented so far. Of the total of 157 indicators that have been fully completed so far, 97 relate to important reform measures that have been implemented in almost all government departments.

For example, reforms in the judicial system, where a series of legal amendments aimed at reducing the number of unresolved cases and the duration of court proceedings have come into effect, have resulted in a reduction of civil and commercial cases by 182 days and a decrease in the total number of all unresolved cases by almost eight thousand. In addition, a series of reform activities aimed at relieving citizens and the economy have also been implemented. The total tax relief from 2016 to now amounts to more than two billion euros annually. Just in the last round of tax reform, this relief amounted to over 400 million euros, when the surtax for local self-government units was abolished, the personal deduction was raised to 560 euros, and part of the cost of pension contributions for citizens with the lowest wages was taken over. At the same time, cities and municipalities were given the authority to determine the amount of income tax within a certain range, thereby increasing the degree of fiscal decentralization and fiscal autonomy of local units. New amendments aimed at further increasing the fairness of the tax system and shifting the tax burden from labor to other sources of economic strength, primarily property, i.e., real estate, will also come into effect at the beginning of next year.

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In the recent period, a series of measures aimed at administrative relief for the economy have also been implemented, which refers to the abolition of administrative obligations and the digitalization of services that the state provides to entrepreneurs. So far, based on three action plans – from 2018, 2019, and 2020 – the implementation of 390 measures has relieved the economy by 252.8 million euros. The new Action Plan for 2024 and 2025 was adopted by the government in March this year and is focused on areas of special importance for the economy such as tax policy, tourism, the pension system, agriculture, and transport, and is financially larger than all three previous action plans combined. A total of 103 relief measures are planned, which will relieve the economy by an additional 364 million euros by the end of 2025. The project Fiscalization 2.0 is particularly highlighted as one of the measures that will significantly contribute to this relief. This project will expand the obligation to record invoices in the Tax Administration system to invoices issued in the economy (B2B), i.e., to cashless business, thereby reducing the number and enabling the pre-filling of prescribed forms.

What does a better rating bring?

Realistically, all the achievements based on which the A level credit rating was achieved have significantly increased the country’s reputation in the domestic and international financial environment, which will positively affect the operations of all economic entities. A high level of credit rating is a guarantee of security for all foreign and domestic investors, which will contribute to the growth of investments, production, exports, as well as further growth in employment and wages. Strong GDP growth, budget discipline, and accelerated implementation of reforms and investments, supported by European funds, remain the backbone of government policy in the upcoming period. The increase in the rating is also recognition for the entire state administration, as well as for entrepreneurs and citizens, and a significant incentive for the government to continue implementing reforms and economic policies that will contribute to further strengthening the competitiveness of the economy and the standard of living for citizens.