Croatia Country Economic Memorandum Economic Growth Through European

Croatia: Country Economic Memorandum Economic Growth Through European Integration World Bank, September 2003

1 – Croatia’s achievements since Independence have been impressive… • Profound economic and social transformation • Markets laws and institutions • Pre-independence output recovered… • …despite unstable geo-political environment • New wave of reforms since 2000

2 - SAA provides a challenge to deepen reforms through EU Integration • SAA goes well beyond trade • It will bring laws, institutions and policies in line with the acquis communautaire – progressive laws and institutions – efficient factor markets and regulation – improved business climate

3 – SAA: a “two-way” road • Reforms needed for the Acquis are good for growth • Growth will facilitate EU integration

4 - “Critical bottlenecks” for sustainable economic growth • High deficits-debt • Inadequate land registry + property/ creditor rights • Poorly functioning judiciary • Weak governance • Public administration fragmented, politicized poorly coordinated

5 – Competing in Europe will also require: • Efficient regulatory frameworks – product&factors • Integration into EU transport and energy networks • Adequate skills and innovation systems • Modernizing agriculture • Phasing in EU environment institutions/standards

6 - Simultaneous progress in all reforms synergy • 6. A - Lengthy reforms should start right away, e. g. , fiscal, public administration. • 6. B - Some reforms are urgent/low cost anyway…, e. g. , bankruptcy, governance, labor, judiciary, registries… • 6. C – Regulation of infrastructure, factor markets are win-wins; need to be accompanied by enhanced skillsinnovation systems • 6. D – Fast convergence to EU agriculture/environment institutions; selective speed of convergence to EU standards

6. A - Stable macroeconomic environment Fiscal/debt management could get out of control due to: – exchange rate depreciation, – higher sovereign risk premia – growth slowdown – reform costs Sources of fiscal savings: – social security – transport – wages and salaries

6. A - Public Administration Reform Depoliticize senior civil service Integrate policy planning with budget process Consolidate Ministries with focus on needs of market economy Evaluate city amalgamation for provision of services

6. B – Productivity can increase through firm’s exit, entry and restructuring. • Firm Exit: streamlined bankruptcy procedures, Stop bail-outs at tax-payer’s expense. • Firm Entry: land titling, zoning, building permits, utility connections, visas and work permits. • Restructuring: Implement EU corporate governance standards

6. B – Strengthening the Judiciary • Implement court administration/management systems • Case management systems • Judge training on commercial law, compensation • Out-of-court mechanisms (small claims court) • Common judiciary practice (regions, judges)

6. C - Integrating Croatia’s infrastructure networks • Private sector participation, interconnection of transport and energy networks • Secondary energy legislation needs to establish price and regulatory regime • Adopt internationally acceptable economic appraisal methods in transport

6. C – Financial system stability • Prudential regulations to internalize exchange rate risk: – liquidity requirements on FOREX deposits – provisions on FOREX loans • Strengthen consolidated supervision • Strengthen CROSEC, enforce new laws

6. C - Skills and innovation systems • Innovation-driven growth requires continuous learning, problem solving, critical and reflective thinking • Shift to demand-driven system of education, training and research – closer links with private firms • Change what is taught, how it is taught and those who teach

6. D - Modernizing Agriculture • Adopt CAP institutions, align CAP instruments • CAP: good for welfare (poor), not for farmers • Option before CAP: reduce intervention below CAP levels compensate farmers, increased welfare

6. D – Environmental compliance • Meeting EU environmental standards will be costly • Fiscal costs depend on: – cost recovery, e. g. volume pricing of water – private participation, e. g. , energy – phase-in period, e. g. , waste water • Reform scenarios can reduce investment needs by a factor of 2 and fiscal burden by a factor of 3

7. Conclusions 1. Growth/EU integration - mutually reinforcing objectives 2. Provide a stable macro-financial framework 3. Address critical bottlenecks (legal, judiciary, public administration) 4. Regulatory reforms in product, factor and infrastructure markets 5. Careful evaluation of costs-benefits during phase-in period in agriculture-environment