HUP: Croatia Grows Fastest in the EU, but Faces Internal and External Risks

Entering the new year 2026, Croatia has achieved the fastest growth in the EU – at 3.6 percent in the last quarter of 2025 and 3.2 percent on an annual basis – but faces diminished competitiveness, expansion of the public sector, and geopolitical risks. Despite this, HUP has slightly improved its GDP growth forecast for 2026 from 2.5 to 2.8 percent in its Weekly Focus, finding the basis for this in better export prospects, the recovery of Germany, and the strengthening of the European investment cycle in infrastructure and defense, alongside sustained personal consumption and a record influx of EU funds.

– Improved export prospects are further supported by the growth of new orders in the capital goods and defense industry segments, as well as the acceleration of growth in investment loans to companies. And here the good news ends… – emphasizes the analysis of HUP’s chief economist Hrvoje Stojić.

The authors of the analysis, Hrvoje Stojić and Ivan Odrčić, warn that due to the escalation of conflicts in the Middle East, there could be an energy shock that, along with sustained oil prices above 100 dollars and gas prices above 60 euros per MWh, could raise inflation in the eurozone by one percentage point and reduce growth by about 0.5 percentage points.

Salaries are Growing Twice as Fast as Productivity

Reminding of this, HUP warned that the domestic structure of growth is based on domestic consumption, noting that total employee earnings have grown in real terms by 26 percent since 2019, which is twice as fast as productivity, which has increased by 13 percent, with Croatia being the EU record holder in the last two years for labor cost growth of 14 percent, which is about three times above the European average. The expansion of the public sector also contributes to this, bringing the mass of wages in the public sector to around 14 percent of GDP.

Explaining the growth, HUP’s analysts have also broken down its structure and pointed out the positives.

– The acceleration at the end of the year confirms the resilience of the real sector, especially the manufacturing industry, with strong growth in gross added value (+6.4 percent) and recovery of export-oriented capital and intermediate goods. We also note a persistent growth in new orders, especially in capital goods and the defense industry, driven by the expansion of financing instruments and a stronger investment cycle in Europe. Investments in equipment and construction work continue to grow strongly, largely supported by the use of EU funds – the analysis states.

Better Export Opportunities and Geopolitical Energy Shocks

Due to improved prospects for the euro area, especially for Germany, HUP has adjusted its estimate of real growth in commodity exports for 2026 from 4 to 6 percent due to stronger multiplicative effects of the German infrastructure package (500 billion EUR) stimulating personal consumption. Good tourism prospects have also been highlighted, due to Croatia’s security premium as a destination in light of the conflicts in the Middle East. All this is accompanied by accelerated growth in corporate investment loans in a record year for the influx of EU funds (around 4 billion euros). However, geopolitical circumstances are a cause for concern.

– At this moment, financial markets primarily embed the geopolitical risk premium through rising oil prices and insurance and transportation costs, although there has not yet been a physical decline in oil supply thanks to the planned increase in production by OPEC members excluding Iran. Europe also predominantly imports gas (LNG) from USA and Norway, but in the upcoming period, it could face competition for LNG at higher prices – they believe at HUP.

For now, the shock is price-related, not yet quantity-related, and the consequences are indirect, through higher energy prices that slow down the reduction of inflation.

– Currently, the constructive baseline scenario is the stabilization of Brent oil prices below 90 dollars per barrel in the case of a gradual calming of geopolitical tensions. The main negative risk is a prolonged military conflict in the Middle East and surrounding areas, keeping Brent oil prices above 100 dollars per barrel along with a stronger rise in the price of European natural gas above 60 euros per MWh, which increases production and transportation costs and inflationary pressures in Europe – stated in the Weekly Focus.

The latter scenarios would delay possible monetary easing and weaken weaker investment activity in Europe, and then in Croatia.