European Semester 2014 Policy Recommendations - CROATIA

1. European Semester 2014Policy Recommendations - CROATIA Servaas DEROOSE Deputy Director-GeneralEuropean Commission, DG Economic and Financial Affairs Zagreb, 3 June 2014

2. Overview The European Semester Excessive deficits and macroeconomic imbalances Commission proposal for Country-Specific Recommendations (CSRs) for Croatia

3. 1. The European Semester

4. The European Surveillance Cycle Stability/Convergence Programmes National Reform Programmes 15 October May/June November 15 April Annual Growth Survey Alert Mechanism Report Autumnforecast Winter forecast In-Depth Reviews Euro Area Member States: Draft Budgetary Plans Country-Specific Recommendations Spring forecast Commission's opinions on draft budgetary plans

5. HR: In-Depth Review HR: Council EDP recommendation HR: Assessment ofeffeciveaction July 2013: HR joins EU HR: revised 2014 budget HR: revised 2013 budget & 2014 budget HR: additional measures

6. 2. Excessive deficits and macroeconomic imbalances

7. Croatia'sexcessivebudget deficit to be corrected by 2016

8. The Macroeconomic Imbalances Procedure (MIP) finds excessive imbalances in Croatia Excessive Imbalances HR, IT, SI Corrective arm not opened yet but Croatia will need to demonstrate strong implementation of Country-Specific Recommendations. Imbalances BE, BG, DE, IE*, ES*, FR*, HU*, NL, FI, SE, UK *requiring decisive action No Imbalances DK, LU, MT

9. The MIP's 2014 In-Depth Review highlights five major risks and imbalances for Croatia 1 Competitiveness External rebalancing is beset by important risks pending the reduction of Croatia's high foreign liabilities. Low competitiveness eroded export market shares even before the crisis. Weaknesses in the labour market and in the wider business environment have amplified the impact of the crisis and hamper adjustment towards stronger, more sustainable growth and employment. The non-financial private sector, (esp. non-financial corporations), entered the crisis highly leveraged after rapid credit growth in the preceding years. The largely foreign-owned banking system has shown resilience. Still, the weak economy has started to interact with the banking sector, and non-performing loans to corporate borrowers have risen to high levels. Pro-cyclical fiscal policies have led to sustained pressure on the general government deficit and debt. Low growth before the crisis, delayed recovery and subdued growth outlook. Higher growth and employment, facilitated by competitiveness, would ease the debt burden. Externalandinternalimbalancesreflected in continued, elevatedfinancialmarketpressure. 2 Adjustment capacity 3 De-leveraging 4 Financial stability 5 Public finances

10. Growth remainspoor in thewakeofthecrisis, with limited accessiongains

11. Exports fall behind regional peers, reflecting poor competitiveness

12. External financing risks persist at elevated levels, relative to peer countries Financing conditions have eased overall ... but Croatia has not benefited Risk of being perceived as weak link in the region

13. 3. Commission proposal for Country-Specific Recommendations (CSRs) for Croatia

14. Efficient insolvency & de-leveraging • Smarter state involve-ment • Sound public finances • Business-friendly environ-ment • High employ-ment • Effective social protection • Bank asset quality • Sustainable pensions and healthcare 2014 Country-Specific Recommendations Unlocking the employmentpotential Addressing fiscal imbalances 1 2 3 4 Reviving business and investment Safeguardingfinancialstability 5 6 8 7

15. Addressing fiscal imbalances CSR 1: Sound public finances 2014 2015-16 Implement rigorously the adopted budgetary measures Reinforce the budgetary strategy, specify announced measures Measures: • Reinforce expenditure control • Carry out thorough expenditure review by March 2015 • Optimise revenue, including property taxes • Presentplan to maketaxadministrationmoreefficientbyend-2014 • Foster fiscal framework (ceilings, design, FPC) by October 2014 • Strengthen budgetary planning/forecasts • Align projections with ESA/SGP standards

16. Addressing fiscal imbalances Deficit and debt have increased sharply

17. Addressing fiscal imbalances CSR 2: Sustainable pensions and healthcare • Harmonise the statutory retirement age by March 2015 • Accelerate equalisation for men and women • Advance the increase to 67 years • Reduceaccesstoearlyretirement • Integrate special pensions faster into the general system • Make the healthcare sector more cost-effective

18. Addressing fiscal imbalances Long-term sustainability of the pension system remains challenging

19. Unlockingtheemployment potential CSR 3: High employment Complete the labour law reform by March 2015 Review wage setting by end-2014 Strengthen active labour market policies, outreach to non-registered youth and apprenticeships Outline plans to address undeclared work by end-2014 Improve education outcomes and school-to-work transitions

20. Unlockingtheemployment potential Croatia's employment rate has been diverging from European targets

21. Unlockingtheemployment potential CSR 4: Effective social protection Review tax/benefit system by end-2014 Improve the reactivation of the inactive and unemployed Further consolidate social benefits Unify eligibility criteria Link relevant data in "one-stop shops" Concentrate resources on well-targeted social assistance benefits

22. Unlockingtheemployment potential The social protection challenge is reflected in high youth unemployment ** NEET = young people not in education, employment or training

23. Revivingbusinessandinvestment CSR 5: Business-friendly environment Set target for lower administrative requirements by March 2015 Reducefragmentationby streamlining and clarifying administrative processes Improve administrative capacity and strategic planning to make best use of European Funds

24. Revivingbusinessandinvestment Multiple barriers inhibit business and job creation

25. Revivingbusinessandinvestment CSR 6: Smarter state involvement in the economy Establish a plan for public property management by October 2014 Ensure transparent and accountable SOE management Reinforce anti-corruption measures Promote transparent and efficient public procurement

26. Revivingbusinessandinvestment The 'old' model of state involvement in the economy weighs heavily on Croatia ITC = information & communication TR&TR = trade and transport

27. Revivingbusinessandinvestment CSR 7: Efficient insolvency regime and deleveraging • Reinforcetheroleofcommercialcourts in corporatepre-bankruptcyproceduresby end-2014 • Streamlinetheprocessforinsolvencyandliquidationofunviablefirms • Ensure the viability of restructured firms • Strengthen efficiency of courts to speed up legal procedures

28. Revivingbusinessandinvestment Credit flow has ceased but de-leveraging needs remain sizeable

29. Safeguardingfinancialstability CSR 8: Bank asset quality Undertake a tailor-made and comprehensive portfolio screening, as a complement to the ECB's AQR and stress test exercises Focus on important portfolios not covered by the ECB Include key mid-size and smaller banks

30. Safeguardingfinancialstability Banks seem well-capitalised but non-performing loans have increased High capital ratios cushion impact of high NPLs, but: • Profitability trends are poor • Some banks are already loss-making • SSM context

31. Summary: Croatia's imbalances and risks are reflected in the 2014 CSRs

32. Next steps • October 2014 & January 2015 • Commission visits Zagreb to monitor CSR progress • Commission reports to Council/committees • November 2014 • European Semester cycle resumes with the Commission's Annual Growth Survey • The Alert Mechanism Report takes stock of potential macro-economic imbalances and identifies countries for further In-Depth Review • Assessment ofimplementationof EDP recommendation after theCommission'sAutumnEconomic Forecast