Zagreb, December 2015

1. Ministry of Finance PEMPAL Budget Community of PracticeA brief overview of the economy of the Republic of CroatiaIvana Jakir-Bajo Zagreb, December 2015

2. A BRIEF OVERVIEW OF THE ECONOMY OF THE REPUBLIC OF CROATIA • Macroeconomic framework • GDP • deficit • differences in the coverage • public debt • Excessive deficit procedure • Macroeconomic imbalances procedure • Strategic documents – The Convergence Programme and the National Reform Programme • STATE TREASURY SYSTEM • Organisational structure • Budget execution • Comprehensiveness of the budget

3. Macroeconomic framework • During 2014, recession trends continued in the domestic economy for the sixth consecutive year • Macroeconomic trends for the year-to-date period indicate a more favourable performance of macroeconomic indicators than those expected in previous periods • After six recession years, gross domestic product achieved a real growth rate of 0.8% in the first half of 2015, when compared year-over-year. • The biggest positive contribution to the gross domestic product growth in the first half of the year resulted from: • export of goods and services, • household consumption and state consumption and • gross investments in fixed capital

4. Macroeconomic framework - GDP growth Macroeconomic framework of the convergence programme Source: Croatian Bureau of Statistics, Eurostat, Ministry of Finance Higher expected growth rates

5. Macroeconomic framework - deficit of the general government Comparison of total income, expenses and deficit of the consolidated general government in the new and previous Convergence Programmes shows significant differences The differences emanate from: • different nominal gross domestic product levels, • applied policies for managing the income and expense sides of the budget and • application of the new statistical methodology ESA 2010 since September 2014, which for the first time introduces the statistical coverage of the general government in the Convergence Programme for the period 2015- 2018 It should be mentioned that the budget coverage of the general government was used in the Convergence Programme for the period 2014 - 2017

6. Macroeconomic framework - differences in the coverage • Budgetary coverage of the general government ≠ statistical coverage • The European statistical methodology ESA 2010 contains specific rules for classifying units by institutional sectors of society, among which is the general government sector with its sub-sectors • All statistical reports, including the Fiscal report whereby monitoring compliance with criteria relating to the state deficit and debt, must be submitted to Eurostat by the coverage of these sectors • this statistical coverage of the general government sector and its sub-sectors in most EU countries is not identical to the coverage used for budgetary purposes • the source of statistical reporting is accounting information • efforts are aimed at making these coverages as similar as possible, as otherwise they have to be quantified and significant differences explained • The most significant differences in the budgetary system of the Republic of Croatia have been established in the coverage of extra-budget users which, in accordance with the Registry of budget and extra-budget users is much narrower than sectoral coverage

7. Macroeconomic framework - public debt • A steep rise in public debt in the past period: • noticeable negative economic trends • restructuring of some sectors, • assuming the obligations of public companies and • accumulation of budget shortfalls • Adjustment was also a consequence of switching to the application of the ESA 2010 methodology and including road transport public companies in the general government sector • In accordance with the ESA 2010 methodology, social security funds include the Croatian Pension Insurance Institute, the Croatian Health Insurance Institute and the Croatian Employment Bureau %BDP-a Public debt(% of GDP) Public debt

8. Excessive deficit procedure (EDP) • The excessive deficit procedure relates to the measures taken by the European Union in respect of the Member States whose public finances are not in accordance with rules relating to the size of budget deficits and public debt • Within this procedure, Member States, in accordance with recommendations given by the European Commission and the Council of the EU, must adopt and implement measures that should result in the correction of excessive deficits and debt and bring them within the envisaged limit until the set deadline • Following this, Member States shall bring measures to reduce their budget deficits to an acceptable level • The European Commission shall assess whether the measures have been taken and whether they are implemented in an adequate manner

9. Excessive deficit procedure (EDP)

10. Excessive Deficit Procedure (EDP) and the Republic of Croatia • The EDP was activated in January 2014 • The Council of the EU, acting on a proposal from the European Commission, adopted in January 2014 the Recommendations requiring from the Republic of Croatia to resolve its excessive budget deficit by reducing it below 3% of GDP by the end of 2016, and reduce the general government debt to less than 60% of GDP two years later. • Since June 2014, the EDP has been put on hold, as the European Commission established that Croatia was taking appropriate measures for the purpose of correcting its budgetary imbalances • The Excessive Deficit Procedure continues to be in effect

11. Macroeconomic Imbalances Procedure (MIP) • The Macroeconomic Imbalances Procedure (MIP) is a surveillance mechanism that aims to prevent and correct macroeconomic imbalances within the EU • The Republic of Croatia is placed in the 5th category of the Macroeconomic Imbalances Procedure (excessive imbalances that require decisive political action and specific monitoring) therefore, the EC monitors the implementation of recommendations through a specific enhanced monitoring mechanism

12. Macroeconomic Imbalances Procedure (MIP) *Cyprus and Greece are included in the Macroeconomic Adjustment Programme ** Romania is included in a preventive programme of financial assistance

13. Strategic documents – The Convergence Programme and the National Reform Programme • NATIONAL REFORM PROGRAMME • defines the state of affairs and plans for the implementation of key structural policies of the government • describes the measures taken by the government to achieve sustainable economic growth, job creation and creation of better opportunities for Croatian citizens, while taking into account the stability of public finances, sustainable level of debt and high quality of public services. • CONVERGENCE PROGRAMME • defines key characteristics of the macroeconomic framework and the fiscal policy of the Republic of Croatia over a three-year period • result of a process, during which all EU Member States have a duty to report and align their economic policies with the jointly defined objectives and provisions of the EU. • such alignment and reporting is carried out within the annual European Semester cycles • The Convergence Programme and the National Reform Programme describe in detail principal measures whereby adopting recommendations of the Council of the EU for resolving an excessive deficit situation • In the case of the Republic of Croatia, recommendations are, to a large degree (>75%) aligned with the National Reform programme 2015 and the Convergence Programme for the period 2015 - 2018.

14. 6 recommendations for Croatia in 10 areas • Public finances • Tax system • Pension system • Health system • Banking sector • Private debt • Labour market • Wage-setting • Service sector - new with regard to the previous year • Modernisation of public administration

15. Convergence Programme measures I. Binding recommendations of the Council of the EU for resolving excessive deficit situations Recommendations of the Council for correcting excessive deficits Fiscal projections - Recommendations of the Council of the EU have been completely adopted and embedded in the fiscal projections of the Republic of Croatia

16. Recommendations of the EC and measures in NRP (Ministry of Finance)

17. State treasury system - organisational structure

18. State treasury system Single account of the treasury – transparency of cash flows • The model of managing public expenditure through the state treasury is based on the principal of the existence of a single account through which all financial budgetary transactions are performed • The single account of the treasury with its sub-accounts has been opened with the Croatian National Bank: • Sub-accounts of the single account of the treasury: • Special purpose sub-account for paying salaries - 631 • Special purpose sub-account for paying current expenditure - 632 • An efficient and transparent daily management of state budget financial flows has been provided • A base for efficient financial planning • Integration of the information system managing State budget finances with regional treasury systems

19. State treasury systemComprehensive budget – transparent budget • Failure to state all income and expenses of budget users (problem of third-level budget users - faculties, health institutions, national parks etc.) in the state budget is contrary to the principle of budget unity and comprehensiveness • Until 2015 in the Republic of Croatia an exemption from paying in own revenues and assigned revenues and receipts of budget users in the budget was tied to the exemption from planning of the mentioned revenues in the state budget, i.e. in the budgets of local and regional self-government units • possibility of exemption from paying in the mentioned revenues and receipts of budget users in the competent budget must not exclude the obligation of their planning • If the state or local and regional self-government units through the Budget Execution Act, i.e. decisions on budget execution, lay down an exemption from the obligation to pay own revenues and assigned revenues and receipts of budget users in the budget, they must provide that the realisation of their own revenues and assigned revenues and receipts is monitored through reporting. • This information must be included in semi-annual and annual reports on state budget execution, or the budget execution of local and regional self government units

20. State treasury systemComprehensive budget – transparent budget • The State budget of the Republic of Croatian for 2015 and projections for 2016 and 2017 • for the first time, own revenues and assigned revenues and receipts of health institutions, national parks and nature parks and the State Institute for Nature Protection, as well as public institutions included in the higher education system have been stated • The Act on the execution of the State budget of the Republic of Croatia for 2015 (Official Gazette, No148/14 and 103A/15) further lays down an exemption from paying in own revenues and assigned revenues and receipts of the mentioned institutions in the state budget • Any own revenues and assigned revenues and receipts of third-level users make part of the state budget for the next mid-term period, but they do not make part of the cash flow of the state treasury system • these institutions continue to realise such revenues in their accounts and from their own accounts they settle obligations/expenses which they finance from these sources • on the basis of monthly reports presented by these institutions, concerning the use of the mentioned revenues, records are maintained in the state treasury system