Keep up with reforms

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The EBRD 2020 Country Strategy adresses the key challenges Croatia should overcome to accelerate the economic growth. Among them are the improvements in the business environment, and better-quality infrastructure, especially railway and communal.

EBRD intends to continue to support large Croatian infrastructure projects, as well as efficiency improvement in the public companies. „Furthermore, we are going to support private sector competitiveness through fostering innovation, help deepen financial markets to broaden access to finance with the focus on capital markets’ developments and promote commercialisation of public companies“, says Vedrana Jelušić Kašić, EBRD Director and Regional Head for Croatia, Slovenia, Hungary and Slovakia.

  1. What are the most important challenges that the Croatian government should address to accelerate the economic growth and increase the Croatian economy’s competitiveness?

Macroeconomic stability and sustainability of internal and external balances are keys to ensure fast economic convergence. The government took the most important first step with the remarkable fiscal adjustment done from over 5% GDP deficit to an expected slight surplus in 2017. Nevertheless, the public debt is still very high at close to 8% of the GDP so the focus should be on ensuring prudent fiscal policies in the future in order to create more financing space for the private sector.

Our background study on private sector productivity also found that macroeconomic stability is an important productivity driver, as well as further improvement in the business environment, lower NPLs and corporate indebtedness, and better-quality infrastructure, especially with the focus on still underdeveloped areas such as railway or communal infrastructure. Higher investment and capital market development – that is facilitating a better access to finance – are also important factors supporting productivity. The right institutional framework is the key: corporate governance, both in the private and public sector, should improve, as should the inclusion of disadvantaged groups in the workforce. The EBRD has been supporting this through several activities, including a large-scale corporate governance project aimed at improving governance and performance monitoring of state-owned enterprises (SOE) with the Ministry of State Property and the EC Structural Reform Support Service programme, in addition to a youth traineeship initiative together with the Croatian Employers Association or our Women in Business project.

  1. How does the EBRD 2020 Country Strategy address these challenges?

The new strategy is helping to address the above challenges by setting priorities for the Bank’s operations in the country. We want to support private sector competitiveness through fostering innovation, operational and resource efficiency, as well as improvement of the business climate and economic inclusion. Our second priority is to deepen financial markets with the view of facilitating a better access to finance with the focus on capital markets’ developments. The third priority is promoting commercialisation of public companies, including improving corporate governance, and supporting the privatisation of certain state-owned companies.

Policy dialogue is also an important element of the EBRD’s mandate. We engage with the authorities to discuss and provide input on critical policy issues such as improving the business environment, strengthening the rule of law, and regulatory and supervisory issues.

  1. How can the EBRD help Croatia to accelerate convergence with other European members and make better use of the available EU funds?

Croatia’s access to EU funding and programmes is an important anchor for advancing much-needed reforms but the institutional capacity to absorb EU funds needs to be enhanced. The authorities have expressed support for the continued EBRD engagement in the coming years and, given the pressing need to tackle structural impediments to long term growth within a limited fiscal space, the Bank’s comparative advantages and track record in supporting private sector-led growth, promoting reform and fostering institutional capacity building have become even more relevant.

  1. What is quality corporate governance in Croatian private companies and are they ready to participate in the European market? What is the EBRD’s experience as a shareholder in some of the largest Croatian and regional companies?

High standards of corporate governance and transparent business practices are key prerequisites for the successful development of enterprises and markets. They are as important as strictly business-related processes. Companies that invest in excellent standards of corporate conduct and transparency stand to benefit when it comes to access to finance or attracting investors, for instance. The EBRD is lending its support to the efforts by the Croatian Financial Services Supervisory Agency (HANFA) and the Zagreb Stock Exchange (ZSE) to update and strengthen the country’s corporate governance code. Improved corporate governance is good news for the country’s real economy too – when good companies with successful products operate using best practices, the whole economy flourishes.

  1. How did the growing share of non-performing loans (NPLs) in overall number of loans in recent years affect the overall access to capital for companies which require expansion financing?

Rising NPLs usually have a negative impact on lending activities as banks become more cautious in providing credit but also because there are fewer creditworthy borrowers. In Croatia, lending growth has been negative since 2013 and NPL levels peaked above 17% in 2014 with corporate NPLs reaching almost 35%. Since then, NPL levels have started to decrease as central bank policies pushed banks for higher provisioning, leading to the write-off and sale of NPLs. At the end of 2017, NPL levels were at just above 11% and, according to the central bank, may fall below 10% this year. While the NPL clean-up in the banks might have contributed to the lower headline lending figures (as write-offs and sales of NPLs reduce the loan stock) they also help revive future lending growth as banks’ balance sheets become healthier. In the meantime, there were also other positive developments making bank funding more favourable to borrowers. Interest rates fell significantly (2 to 6% from 2012) as fiscal balances and Croatia’s credit rating have both improved, reducing the burden on borrowers. In addition, the share of kuna loans for corporates has increased in new lending and is now above 50%, thus reducing the exchange rate risks for unhedged corporate borrowers.

  1. What is the key reason why Croatian public companies have not yet used their full potential and secured investments in sustainable business?

Croatia and the wider region of central and south-eastern Europe are facing significant challenges in their effort to build a sustainable growth model. While priorities vary across countries, a common theme is the need to re-energise the reform process by removing unnecessary obstacles to investment and doing business. The EBRD’s latest Transition Report shows that a sustained commitment to reform can bring substantial growth benefits long-term.

SOEs continue to play a large role in the Croatian economy, with some of them often suffering from poor performance and weak corporate governance, while state subsidies to SOEs are still higher than the EU average. The operational efficiency of public companies is well below the standards of most of its EU peers and needs to be enhanced with the view of improving service quality, complying with standards and reducing costs. In particular, the labour cost to operating revenue ratio in Croatia is 37.1%, which is significantly higher than in the four largest countries in central and eastern Europe (the Czech Republic, Hungary, Poland and the Slovak Republic) which stands at 25.9% for SOEs in 2014. Financial supervision can also be enhanced as collection of receivables is very slow in general, taking around 50 to 180 days compared to 20 to 100 days in the 4 CEE countries. This suggests there is sufficient room for bolstering efficiency that can also help reduce budgetary pressures.

In order to strengthen corporate governance of SOEs, together with the European Commission, the Bank has been supporting the Ministry of State Property in setting up a single reporting and monitoring framework for SOEs and enhancing the competencies of the boards which supervise the SOEs. Under the first component of the assignment, new guidelines for setting up operational targets, developing mid-term strategies and business plans were developed, whereas under the second component, nearly 70 board members were trained on corporate governance practices.

7.  A large part of the EBRD portfolio consists of infrastructure projects. How well are they managed and to what degree they can help accelerate economic growth?

Infrastructure development gaps are still present in the transport sector and are especially pronounced in the railways segment, with some of the main international railway corridors still not completely rehabilitated and modernised.

The railway sector could further fuel the growth of the country and make railway companies more efficient and competitive in the EU. Given Croatia’s vital transit position in Europe, one of the main competitive advantages and opportunities for the country is that its railway network is deeply embedded in Europe’s major transport corridors such as the East-West Pan-European Rail Corridor X, Corridor Vb connecting Rijeka with Zagreb and the Hungarian border, and Corridor Vc connecting Ploče and stretching in the south-north direction, across Bosnia and Herzegovina.

Motorways sector companies are in the process of material financial and operational restructuring, alongside with much needed improvement in their corporate governance with the goal of achieving a greater long-term sustainability and reducing the need for the budgetary support.

Energy infrastructure will need to be further developed in terms of adherence to EU environmental standards and security of supply especiall in terms of improving the interconnection with neighbouring countries. Furthermore, investments in environmental infrastructure, encompassing water, wastewater and solid waste management, need to be accelerated in order to leverage benefits of the available European Structural Investments Funds.

 

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