THE ECONOMIC ENVIRONMENT
Croatia's economic reform programme resulted in a positive economic performance during 2004-08, with relatively high GDP growth rate (4.2% per year on average), moderate inflation (3.5% per year on average), and declining public deficit (it fell from 3.2% of GDP in 2004 to 0.9% in 2008). Croatia's strong economic performance also brought substantial improvements in its social indicators: the unemployment rate declined to 8.4% in 2008 (from 13.8% in 2004) and per capita income (about €10,700 in nominal terms) is around two-thirds of the EU's GDP average. Nonetheless, for 2009, real GDP growth rate is estimated at -5.2% largely as a result of the global economic downturn, while the fiscal deficit is predicted at 2.9% of GDP. Moreover, Croatia still faces key problems, notably external vulnerability due to its high external current account deficit (6.1% of GDP estimated for 2009) and large stock of external debt (93.3% of GDP in 2009), while important disparities in regional development remain.
The Kuna (HRK), the national currency, is fully convertible. The foreign exchange system of a tightly managed float with a very limited degree of exchange rate flexibility followed by the Croatian National Bank has served the economy well. Indeed, it has lent stability and credibility to the investment environment, provided a credible anchor for price stability, and has also helped mitigate potential exchange rate-induced credit risk in a highly euroized economy.
Croatia's economy is highly dependent on international trade. The ratio of trade in goods and services (exports and imports) to GDP averaged 92.6% during 2004-08, although it is estimated to have fallen to 77.3% in 2009. Early in the 1990s, Croatia faced with the loss of Yugoslav markets and the breakdown of transport and communications to south-east Europe, reoriented trade towards an enlarging EU, which now accounts for about two-thirds of Croatia's trade. Pre-transition trade links have not disappeared though, with Bosnia-Herzegovina and other countries in the region remaining amongst Croatia's most important trading partners. Manufactures, led by machinery and transport equipment, represent about 70% of total merchandise exports and imports. Croatia is a net exporter of services, with a surplus averaging €5,803 million per year over 2004-08.
Croatia's annual inflows of foreign direct investment (FDI) jumped from an average of US$447 million during 1990-00 to US$3,222 million in 2004-08, largely due to the positive developments in the economy and some privatizations. To improve the business environment still inhibited by several factors, notably difficulties in obtaining necessary licences, corruption and an inefficient public administration, the authorities have, inter alia, established the Trade and Investment Promotion Agency (APIU) and enacted the Investment Promotion Act.
Croatia's efforts to integrate into the world economy are reflected in the dismantling of the restrictive trade regime inherited from the former Socialist Federal Republic of Yugoslavia, and in its accession, participation in, or adherence to various multilateral, regional, and bilateral trade initiatives. Croatia became the 140th member of the WTO on 30 November 2000. It grants at least MFN treatment to all its WTO trading partners.
The orientation of Croatia's economic and trade policies is, however, like that of other central and eastern European countries, largely driven by the goal of accession to the EU. In this regard, Croatia has continued to reform its policies in trade and related areas with the objective of bringing domestic legislation into line with the EU's acquis communautaire, and has been aligning its preferential regime with that of the EU. Croatia has preferential trading agreements with 39 partners: the EU-27 under the Stabilization and Association Agreement (SAA); the other seven parties of the Central European Free Trade Agreement (CEFTA 2006); the four European Free Trade Association (EFTA) states; and a bilateral free-trade agreement with Turkey. Trade under these preferential agreements represented 76.9% of Croatia's total exports and imports in 2008, 82.2% of which was with the EU-27, 14.2% with CEFTA 2006, 2% with EFTA, and 1.6% with Turkey.
The foreign investment regime of Croatia is fairly liberal, with most business activities open to domestic and foreign natural and legal persons alike. In addition, the Constitution provides several guarantees for foreign investors. Some activities, however, must be carried out only under specific requirements, such as special certificate of approval or licences. These activities include: banking, insurance, air and road transport, most energy activities, and telecom services. With respect to acquiring property rights (excluding real estate in excepted areas), foreign investors have the same rights, obligations and legal status as domestic investors, provided the condition of reciprocity is met. Nonetheless, since 1 February 2009, the provisions on reciprocity exclude EU citizens or legal persons.
Some SOEs operate under de jure monopoly or hold exclusive rights, including Croatian State Forests, Croatian Railways and Croatian Post, while recently privatized companies still operate as de facto monopolies. Indeed, despite that the electricity market was liberalized in July 2008, in practice the electricity company HEP remains the only supplier. The gas market also has a single supplier in the oil and gas company INA.
TRADE POLICY INSTRUMENTS
Goods imported into Croatia may be subject to three types of duties: customs duties, excise duties, and VAT. The tariff comprises ad valorem rates – 93.9% of total lines (up from 87.9% in 2000) – and non-ad valorem rates (specific, mixed, and compound), i.e. 6.1% of the total. The simple average MFN tariff declined from 12.1% in 2000 to 7.1% in 2009. Tariff quotas (on "sensitive" agricultural products) are applied to 0.7% of total tariff lines. Upon its accession to the EU, Croatia will have to adopt the EU's common external tariff and its bound rates.
During its accession to the WTO, Croatia bound all its tariff lines at a final simple average rate of 8.5%, ranging from zero (e.g. on products under the ITA) to 60% (e.g. on coffee, tea, and sugar). On agricultural products (WTO definition), Croatia bound its tariff lines at a final simple average rate of 17.4% (compared with a simple average applied MFN rate of 16.3%). For non-agricultural goods, the final simple average bound tariff rate is 5.7%, while the simple average applied MFN rate is 4.2%.
The average preferential tariff (on all products) under Croatia's preferential trade agreements ranges from zero (under the agreements with Bosnia and Herzegovina and UNMIK/Kosovo all tariffs are duty-free) to 4.2% (under the agreement with Turkey). Croatia's trade in non-agricultural goods with its largest trading partners is virtually duty free; for example, the average tariff on non-agricultural imports (WTO definition) from the EU is 0.1%, i.e. 4.1 percentage points lower than the corresponding MFN tariffs. For agricultural imports, such difference amounts to 3.2 percentage points.
With the elimination of the stamp tax at the end of 2008, all fees charged by customs have been abolished. Croatia maintains licensing requirements to regulate four categories of products: those affecting public security, order, health, environment, and cultural heritage; rough diamonds; agricultural products that are subject to tariff quotas; and cereals.
Croatia has been implementing a major privatization programme of state-owned enterprises (SOEs) since early 1990s, as part of its transition into a market-oriented economy. As a result, the private sector share in output and employment is estimated to have risen to slightly above or close to 70%, respectively. Nonetheless, by 30 June 2009, there were still 835 SOEs (down from 2,825 in May 1999), with the State keeping a majority holding in 85 of them. Moreover, some important SOEs, notably the shipyards and Croatian Railways, still run losses with consequent budgetary transfers. As a result, these SOEs and others are in the process of being restructured as a precondition for their privatization.
During the last few years, Croatia's trade regime has also focused largely on export promotion, including free zones. The government provides export support through a number of programmes in the form of loans, insurance, guarantees, letters of credit, and business advice. In 2008, Croatia's export financing and guarantee programmes provided financial support for around 6% of Croatia's total exports. In addition, Croatia has various other incentives programmes comprising, inter alia, duty and tax concessions, and state aid. Croatia also promotes investment (domestic and foreign) at the local level.
Croatia has a relatively diversified economy, with services being the most important sector in terms of contribution to GDP (over 60%) and employment (over half of Croatia's labour force), while tourism is a major net foreign exchange earner. Manufacturing accounts for around one-fifth of GDP and almost 70% of the total value of merchandise exports. Agriculture, hunting, forestry and fishing contribute around 7% to GDP, 10% to employment and 13% to merchandise exports. The mining, quarrying and energy sector account for around 1% of GDP and 17% of merchandise exports.
Under the GATS, Croatia scheduled extensive specific commitments, although generally do not reflect the applied regime, which is more liberal. Croatia maintains MFN exemptions under Article II of the GATS in some areas of road transport and audiovisual services. During the last few years, Croatia has taken measures to tackle some of the structural problems in some services subsectors: the financial services' supervisory framework has been strengthened and liberalization of telecommunications has progressed, although Croatian Telecom still dominates the subsector. Croatia's main transport strategy is determined by the primary objective of integration into the European transport system. Major modernization of the transport and tourism networks is under way. In general, the process of modernization in services industries would benefit from increased foreign presence, in terms of increased transfers of capital, technology and know-how, and hence from enhanced market-access commitments in the WTO.
The biggest problem facing agriculture in Croatia is structural, i.e. farms are too small and each one is scattered over several different plots. Government assistance is provided through a combination of border measures (tariffs and tariff quotas) and domestic support (mainly through direct payments to farmers and state aid since guaranteed prices and input subsidies have been eliminated). The largest share of total domestic support during 2001-05 was for blue box measures (direct payments under production-limiting programmes). In addition, structural policies include separate support and investment programmes in favour of rural development and less-favoured agricultural areas. The simple average MFN tariff on agriculture, hunting, forestry, and fishing is 10.8% using ISIC (Revision 2) definition, i.e. four percentage points higher than manufacturing (6.8%). There is also a wide variation between tariffs and in Croatia rates range from zero (e.g. on products of animal origin) up to 279.8% (an AVE) on cider apple, in bulk from 16 September to 15 December.
Croatia has a relatively diversified manufacturing sector, led by food products, beverages and tobacco; pulp, paper and paper products; chemicals; and shipbuilding. The sector is a major beneficiary of government support, including through investment incentives (e.g. duty and tax concessions) to promote, inter alia, free zones, and SMEs. In addition, during 2004-08 most sector-specific state aid was allocated to manufacturing, particularly shipbuilding. State aid to the iron and steel industry was granted until 2007; the two remaining state-owned mills were privatized in 2008. MFN customs tariffs on manufactured goods (major division 3 of ISIC, Revision 2) average 6.8%, with rates ranging from zero to 81.5% on the manufacture of sugar products. The positive tariff escalation in some industries, i.e. food and beverages, and textiles and apparel, means relatively high effective rates of protection, which somewhat impede Croatia's export competitiveness of those manufactured products.