1. EXECUTIVE SUMMARY
Croatia enters 2021 still reeling from the latest human and economic shock: a deadly earthquake close to the central town of Petrinja on December 29 followed by multiple tremors and smaller earthquakes that were still continuing in the first week of January.
Elections in 2019 and 2020 put Prime Minister Andrej Plenkovic at the head of a stable majority led by his right-wing Croatian Democratic Union (HDZ), and the presidency in the hands of his political rival Zoran Milanovic. Acrimony between Croatia’s two most powerful politicians is intensifying.
Croatia was one of the worst hit economies by the pandemic across both the EU and the emerging Europe region, and while it will see a partial rebound from the deep contraction in 2021, it will take longer for the economy to fully recover. Earthquakes in March and December 2020 added to the damage caused to the economy by the pandemic.
Budget and debt outlook
The 2021 budget is based on the government’s projection of economic growth of 5% in 2021. The general government deficit is projected to drop from an expected 8% of GDP in 2020 to 2.9% in 2021.
Real economy outlook
Tourism and related sectors were badly hurt by the coronavirus (COVID-19) pandemic and spring lockdown. A partial rebound is expected in 2021. There are more positive developments in sectors such as energy, healthcare and tech.
After a vaccine boost in November, further positive movement in the Zagreb Stock Exchange’s main indexes can be expected next year once large-scale vaccination programmes get underway.
2. POLITICAL OUTLOOK
Croatia was battered by a triple whammy of two serious earthquakes and one of the severest second waves of the coronavirus pandemic in Europe in 2020, and these issues dominate the political debate at the start of 2021.
Croatia held presidential elections in December 2019/January 2020 and a parliamentary election in July 2020. These set up an uneasy cohabitation between Milanovic, backed by the opposition Social Democratic Party, and the government led by Plenkovic of the HDZ.
Plenkovic spoke after Milanovic’s election of a "hard cohabitation" with the new president and developments since then have confirmed this forecast; relations between Croatia’s two top politicians have erupted several times into open acrimony. The two have traded verbal blows over issues as diverse as the government’s handling of the pandemic, the corruption scandal at state-owned oil pipeline operator Jadranski Naftovod (Janaf) and Croatia’s involvement in the Three Seas Initiative.
As the HDZ and SDP are long-term rivals, no let-up is expected, and sparring is likely to continue until the next round of elections in three to four years time.
Croatia was shaken in October 2020 when a gunman opened fire outside the government building in Zagreb, injuring a police officer. However, this is seen as an isolated incident.
3. MACROECONOMIC OUTLOOK
The deep contraction in Croatia’s economy in 2020 is largely down to the pandemic's impact on the tourism sector; while tourist numbers didn’t see the deep slump projected this spring, numbers were around 50% down on a normal year, which had knock-on negative effects for sectors like retail.
Further damage to the economy was done by the restrictions imposed towards the end of the year amid a rampant rise in new COVID-19 cases. This prompted the Institute of Economics, Zagreb (EIZ) think tank to forecast a W-shaped recession.
On top of that, the earthquake that struck the capital Zagreb in March caused an estimated HRK86bn (€11.2bn), or around 60% of the state budget, according to the government. The European Parliament approved €683.7mn to help rebuild on November 23. EU members and the European Union have again pledged support following the December 29 earthquake, the cost of which still has to be calculated.
Among the major international financial institutions (IFIs), the International Monetary Fund (IMF) forecasts the economy will have contracted by 9% in 2020, followed by a 4.9% recovery in 2021.
This will be accompanied by a significant increase in unemployment in 2020, to 11.5%. In 2021, unemployment is predicted to reach 8%.
The IMF also estimates a deficit in the current account of 4% of GDP in 2020. The current account deficit is expected to narrow to 1.5% of GDP in 2021.
The European Bank for Reconstruction and Development (EBRD) sharply lowered its GDP forecasts for Croatia in 2020 and 2021 in its latest Regional Economic Prospects report issued in October.
The development bank now expects Croatia’s economy to contract by 8.5% in 2020, a 1.5pp bigger contraction than forecast in May, and to grow by only 3.5% in 2021, down by 1.5pp compared to the May projection.
Across the EBRD region of operations, only Albania, Greece, Kyrgyzstan, Lebanon and Montenegro are predicted to perform worse than Croatia. The EBRD also noted that Croatia’s fiscal outlook is “bound to worsen”.
According to the European Commission, which also lowered its forecast for Croatia in its latest set of projections, the economy will have shrunk by 9.6% in 2020, followed by a gradual post-coronavirus recovery, with the economy growing by 5.7% in 2021 and 3.7% the following year – remaining below the pre-crisis level even in 2022.
Looking forward, “Uncertainty and lingering travel restrictions weigh on exports, including tourism,” stated the European Commission’s Autumn Forecast.
“Domestic demand should be the main engine of the recovery throughout the forecast period. Household consumption is expected to have begun recovering in the second half of 2020, supported by low inflation, and accumulated involuntary savings due to deferred spending,” the EC forecast.
It anticipates that household consumption will be underpinned by a gradual increase in employment and changes in income tax rates. The contribution of government consumption is expected to taper off from 2021, though the report noted the contribution from projects financed by EU funds, including for reconstruction after the Zagreb earthquake in March. Private investment should benefit from favourable financing conditions and continued liquidity support measures, the report added.
While consumption drives the recovery, the EC anticipates that exports will be slower to recover. “While goods exports should rise in line with the recovery in Croatia’s main trading partners, service sector exports, dominated by tourism, are expected to remain under the pressure of travel restrictions, disruptions in air travel, and changes in consumer preferences in favour of domestic travel,” the report said.
The World Bank’s forecast is broadly in line with those of other IFIs, putting the contraction at 8.1% in 2020, followed by a partial recovery of 5.9% in 2021.
“A severe economic recession triggered by the COVID-19 pandemic is reversing the income gains, poverty reduction and fiscal sustainability that Croatia achieved during the last five years. In addition, the March earthquake in Zagreb and its surroundings has put [a] strain on [the] functioning of public institutions,” the World Bank noted in October.
Rating agency Fitch forecasts GDP to contract by a record 9% of GDP in 2020, stressing that despite the government’s substantial fiscal support package, household consumption and service exports have been badly affected by the pandemic, though goods exports less so. This is set to be followed by a moderate economic expansion of 3.8% in 2021. Demand in the services sector is expected to reman “subdued”, while investment will recover more rapidly thanks to increased public investment driven largely by earthquake reconstruction projects in Zagreb.
A rare positive development in 2020 was Croatia's acceptance into the Exchange Rate Mechanism 2 (ERM2), an important step in its pursuit of euro adoption.
4. BUDGET AND DEBT OUTLOOK
The Croatian parliament adopted the 2021 state budget and projections for 2022 and 2023 on November 25. The budget envisages revenues of HRK147.3bn and spending of HRK157.9bn in 2021. It is based on the government’s projection of economic growth of 5% in 2021, 3.4% in 2022 and 3.1% in 2023.
The general government deficit is projected to drop from the expected HRK29.5bn or 8% of GDP in 2020 to HRK11.56bn (2.9% of GDP) in 2021, then to 2.1% of GDP in 2022 and to 1.6% in 2023.
This is more optimistic than rating agency Fitch’s projections for 2021, when it expects the budget deficit at 3.5% of GDP in 2021, down from a projected 8% in 2020.
“The authorities are likely to maintain some sectoral support (in addition to guarantee schemes) through at least 1H21, but we still expect budget spending to fall in nominal and real terms as automatic stabilisers elapse and other expenditure is streamlined,” the rating agency said. Fitch also sees the 2022 budget deficit at 2.2% of GDP in 2022, again slightly above the government’s forecast.
It also noted that the government approved a tax reform in November that reduces personal income tax rates and VAT loopholes from 2021. “Although there are risks that this could weaken revenue growth in 2021, the current government has implemented similar reforms in recent years where the net effect was revenue neutral to positive,” according to Fitch.
Overall, says Fitch, “The government has a solid track record of over-performing its fiscal targets since 2016 and has pledged to maintain fiscal prudence in light of euro-accession process. Moreover, abundant EU funds will help will provide additional space for public investment, even if on an overall basis most EU programmes are likely to be net budget neutral.”
Fitch’s forecast is for the ratio of public debt to GDP to peak at an all-time high of 87.4% in 2020, which is well above the 52.7% BBB peer median. It is forecast to drop gradually to 85.5% in 2021 and 81.6% in 2022.
Croatia is set to be among the greatest beneficiaries from the substantial EU funding planned through the next seven-year budget and the NextGenerationEU initiative, supporting the recovery from the coronacrisis and enabling investments into areas such as physical and digital infrastructure that are crucial for attracting further investment.
The package comprises the EU long-term budget for 2021-27 amounting to €1.1 trillion together with the €750bn NextGenerationEU initiative; the two combined will make up the largest stimulus package ever financed through the EU budget, totalling €1.85 trillion. According to EU officials, the package is aimed at helping to rebuild the bloc post-COVID-19 as a “greener, more digital and more resilient Europe”.
Over the next two years alone, EU support is forecast to reach 11% of GDP in Croatia, according to analysis by the Vienna Institute for International Economic Studies (wiiw). In the longer-term Croatia will receive funding equivalent to 35% of its 2019 GDP, according to East Capital.
5. REAL ECONOMY OUTLOOK
Croatia has a substantial tourism sector accounting for around 25% of GDP, directly and indirectly, in a “normal” year. As stated above, tourism was among the worst affected sectors, even though Croatia weathered the coronavirus pandemic better than many other tourism-dependent countries by opening up early and attracting many holidaymakers in particular from Central European countries accessible by road and rail. Tourist numbers are estimated at around 50% of the usual level during the 2020 summer season.
With large-scale vaccination programmes taking place in the first half of 2021 in many source countries, Croatia is likely to see a rebound in tourist numbers in the coming summer. The country’s profile was raised by it being one of the few destinations fully open for tourists in 2020, earning it reviews and positive coverage in the international press. The experience of China has shown a surge in “revenge tourism” once people finally feel safe to travel, boding well for the coming seasons.
The spring lockdown and virtual collapse of international travel was naturally a blow for major Croatian tourism companies, but most used the forced closures to revamp facilities, setting themselves up for the future.
Meanwhile, in December the government approved state support for struggling flag carrier Croatia Airlines amounting to HRK600mn (€79mn). Minister of the Sea, Transport and Infrastructure Oleg Butkovic expressed the hope that the support would enable the airline to continue operations during and after the pandemic.
The fall in tourism numbers as expected had an impact on the retail and services (especially leisure and catering) sectors, both of which will also get a boost when tourists are able to return in large numbers. In the meantime, however, the outlook remains subject to the pace of spread of the virus during the winter; Croatia had one of Europe’s worst outbreaks in per capita terms this autumn. While the government tries to strike a balance between protecting public health and the economy, business associations have warned repeatedly of the damage a second lockdown would do to businesses. Croatian Employers Association (HUP) said back in August that the economy cannot withstand a second lockdown.
On a more positive note, work on the LNG terminal off Krk island continued through the year. Commercial operation started in early January when the first LNG vessel docked. The terminal, linked to Croatia’s gas transport system via the new Omisalj-Zlobin pipeline, has an annual storage capacity is 2.6bn cubic metres (bcm). As well as diversifying Croatia’s energy supplies and boosting energy security, it is expected to bring similar benefits for other countries in the Central and Southeast Europe region. The initial floating terminal will be used until the land terminal on Krk island is completed.
Croatia’s tech sector is also going strong. The country got its first tech unicorn — a startup valued at over $1bn — in 2020 when communications platform provider Infobip raised more than €200mn in its debut venture capital round in August that pushed its valuation past the $1bn mark.
Another standout Croatian tech startup, gaming company Nanobit, was sold to Swedish Stillfront Group in a deal worth up to $148mn in November.
Electric hypercar producer Rimac Automobili continues to grab international headlines, including with media reports that it plans to acquire luxury automobile brand Bugatti from Volkswagen, though the deal has not been confirmed.
Also in the emerging electric vehicle (EV) sector, representatives of Poland’s POL-MOT Holding have expressed interest in starting a production plant in Croatia to produce EVs and hydrogen-propelled vehicles.
In the healthcare sector, Affidea, the largest European provider of diagnostic imaging, outpatient and cancer care services, announced the acquisition of Zagreb-based Sveti Rok on December 1. As in other parts of the region, growing affluence means that services such as private healthcare are a strong growth story.
Fortenova Grupa, the successor to Croatian food and retail giant Agrokor, has started divesting non-core assets. In November, the group announced it is advancing the sales process for its Frozen Food Business Group, comprising Ledo plus, Ledo Citluk and Frikom.
6. MARKETS OUTLOOK
Developments in Croatia’s stock market broadly reflected global patterns and those in the wider Central and Southeast Europe region in 2020, with a deep drop as the pandemic hit, followed by a gradual inching up over the following months, and a positive bump when the news of successful vaccine trials broke in November. That brought the Zagreb Stock Exchange’s Crobex10 index back to the highest level since March, and further positive movement can be expected in 2021 once large-scale vaccination programmes get underway.
Despite the pandemic, Moody’s Investors Service upgraded the government of Croatia's senior unsecured and long-term issuer ratings in foreign and local currency to Ba1 from Ba2 on November 13. The upgrade brought Croatia just one notch below investment grade on Moody’s scale. The other two major international ratings agencies, Fitch and Standard & Poor’s, already rate Croatia at investment grade.
The ZSE got its first two exchange traded funds (ETFs) that were listed on the bourse on November 17 by InterCapital Asset Management. One of them will invest in Croatian stocks through the replication of the CROBEX10tr index, while the other will invest in Slovenian stocks through the replication of the SBITOP stock index. The company plans to list the same two funds on the Ljubljana Stock Exchange in 2021, which will make it easier for Slovenian investors to invest in Croatian shares.
Croatia’s tech sector is going strong. Among the startup champions that have emerged from the country, there is speculation about future IPOs from both Infobip and Rimac Automobili, though there are no concrete plans as yet. Mate Rimac, whose company has already raised several strategic investments from major automakers positing themselves for the sector’s electric future, said in 2019 that it was too early to talk of concrete IPO plans. In November 2020 Rimac indicated an IPO was a matter of when rather than if, warning an industry conference over the use of special purpose acquisition companies (SPACs) to raise funds for EV companies. “When we go public, I want to show the numbers, to go public on reality, and not on hype,” Rimac said, as reported by Reuters.
Meanwhile, Infobip founder and CEO Silvio Kutic told the FT’s Sifted news service in August that he is planning to take the company public within three years. As to the geography of the IPO, Kutic mentioned Nasdaq and the New York Stock Exchange, or potentially London or Amsterdam.