Croatia eyeing rapid accession to EU

Economically, Croatia is in a good position to
start accession negotiations. It has no need to fear comparison
with Bulgaria or Romania in this respect. The crux will be
fulfilling the political requirements for EU
membership.

Unnoticed by many, Croatia
formally applied for membership of the European
Union on February 21. Following Slovenia, it is
the second applicant from the territory of the
former Socialist Federal Republic of Yugoslavia
which collapsed over a decade ago.

The country hopes to be
invited to accession negotiations by the EU at
the end of 2004 and to join the Union together
with Bulgaria and Romania in the next enlargement
round which the latter envision for 2007. Talks
with Bulgaria and Romania have already been under
way for some time now, but Slovakia provides a
good example of how it is possible to catch up in
the accession process – as regards
negotiations and the fulfilment of the concrete
economic and political criteria – if there
is a firm political will to do so.

Economy is in good starting
position

Croatia’s starting
position is by no means unfavourable. Since the
country gained independence in 1991, and
especially since the parliamentary elections in
early 2000, it has made notable progress on the
road to becoming a functioning democracy and
efficient market economy. The moderate coalition
in power for the past three years has pursued a
reform-oriented, pro-Western course. Its rewards
have included, for example, an invitation to
NATO’s Partnership for Peace programme (May
2000) and a Stabilisation and Association
Agreement with the EU (since autumn 2001).
However, considerable action still needs to be
taken in some areas in order to achieve the goal
of rapid integration in the Western world.

Croatia’s strengths in
convergence with Western standards are on the
economic side. The country has no need to fear
comparison with Bulgaria or Romania in this
respect. This is documented, for instance, by the
international rating agencies; Croatia is the
only one of the three that they classify in the
investment-grade group with its related
advantages. But gross domestic product (around
USD 5,000 per capita) also points to a highly
advanced level of economic development –
when set against the regional average.

The Croatian economy has been
on an upswing since the end of 1999, which
gathered pace – driven by domestic demand
– during 2002, unlike activity in Euroland.
At the same time, inflation has fallen by
two-thirds from a peak of almost 8% yoy at
end-2000 to less than 2% yoy currently.
Contrastingly, the current account deficit (2002:
about USD 1.1 bn) has more than doubled over the
past two years, to around 5.5% of GDP in 2002,
since the improvement in the services account did
not keep step with the deterioration in the trade
deficit. The latter suffered not only from the
weak demand for goods in Euroland. The strong GDP
growth at home triggered an import pull at the
same time. Even though the relationship between
current account deficit and net inflow of foreign
direct investment has worsened substantially
versus 2000, the latter was still sufficient to
cover approximately four-fifths of the deficit in
2002.

New IMF programme…

In December 2002 the Croatian
government and the IMF agreed a new stand-by
credit facility (USD 140 m, 14 months). As was
the case with the agreement that expired in May
2002, Croatia does not intend to draw down the
available funds. Rather, the agreement serves as
proof of the quality of the economic policy
pursued by the government and the central bank.
This should help the country to secure access to
relatively favourable financing conditions in the
international capital markets. The spreads for
Croatian government bonds narrowed markedly (from
about 150 bp to around 100 bp) in the
international markets from early autumn 2002 to
the beginning of January this year and have been
stable at this level under fluctuations
since.

A key component of the
commitments made by Croatia to the IMF is to
continue to clean up the government&rsqu o;s
finances. The consolidated deficit of the public
budgets is to be reduced from 6.2% of GDP in 2002
to 5.0% in 2003 in order to keep the general
government debt from climbing further – it
totalled about 57.5% of GDP at end-2002, up from
55.1% at end-2001. The key economic data behind
these budget targets look for GDP growth of 4.2%
in the current year, price upcreep of less than
3.5% yoy (annual average), and a current account
deficit of 3.6% of GDP.

… is to ensure convergence

It is unlikely that all of
these goals will be met in full. The fact that
conflicting interests within the ruling coalition
continue to surface is reason enough on its own.
But even where the given programme targets are
missed, there are likely to be some signs of
progress.

One area where some
concessions will have to be made is the
consolidation of government finances. Driving the
budget deficit down to the targeted 5% of GDP
will require strict compliance with new, more
restrictive guidelines for debt guarantees from
the state, a freeze on public-sector wages and
the elimination of 12,000 posts in national
defence – and all against a backdrop of
parliamentary elections in late 2003/early 2004
and an unemployment rate of around 21% at
present. Owing to the political considerations
this will entail, it seems more realistic to
expect a budget deficit of 5-5.5% of GDP for
2003. In this case, public debt would continue to
creep up as a percentage of GDP, but it would
remain shy of the 60% ceiling which applies to
EMU members – Croatia will probably not
belong to that group for many years to come,
though.

While the constraints on
government spending will have a beneficial
influence on price development (the targeted
upper limit of 3% yoy is more likely to be
slightly undershot), economic growth is likely to
weaken a bit in the current year. However, at 4%
it should fall more or less in line with official
expectations. The related, still robust demand
for foreign goods will limit the degree of
success in narrowing the current account deficit;
nevertheless, a decline to just over 4% of GDP
seems possible.

The inflation rate is expected
to pick up only marginally in 2004 versus 2003.
GDP expansion will probably return to 4.5% on a
recovery of demand from abroad, and the current
account deficit should narrow a bit more.

The crux is in the political
requirements

Besides the numerical
stability targets, the IMF agreement provides for
the realisation of certain structural reforms;
also, Croatia’s membership of the EU hinges
on its fulfilling numerous political conditions.
In some cases the requirements overlap.

The call to amend the labour
law, aimed at making the labour market more
flexible, still seems comparatively easy to
handle, even though the trade unions are already
pondering whether to stage a general strike if
their ideas are not given sufficient
consideration. The issues with neighbouring
Slovenia that have not yet been completely
clarified (mainly their common sea border) should
not be a serious problem either. The reform of
the legal system and of the state media might
prove more difficult; their independence and
non-partisanship are still not guaranteed.

The biggest problems, though,
are the EU’s demands to improve cooperation
with the UN International Criminal Tribunal for
former Yugoslavia and to create the prerequisites
to allow Serb refugees with Croatian citizenship
to return unimpeded to their former homes in
Croatia. Nationalist Croatian elements, which
remain relatively strong, are bitterly opposed to
the fulfilment of these two demands.

While there are apparently
still no visions for finding a practical solution
to the latter problem, the first demand could be
largely met by extraditing a few individual
Croatian generals to face the charges levelled
against them by the International Tribunal in The
Ha gue. So far, the Croatian government has
manoeuvred carefully between the demands of the
tribunal and the expectations of the Croatians
– also of those within the ruling coalition
– opposing the call for extradition. It will
not be able to avoid taking a clear stand
forever.

In spite of some indications
that the generals would be extradited if it came
to the crunch, it is uncertain how Prime Minister
Racan will ultimately decide. If he fulfils the
EU’s demands, it might mean a split in the
ruling coalition or their downfall in the
upcoming parliamentary elections and the return
of the Croatian Democratic Union (HDZ), the
nationalist-leaning party of – now deceased
– Franjo Tudjman, the former general and
president. On the other hand, while some EU
members are in favour of Croatia’s joining
the Union (Germany, Austria, Italy and Greece),
some countries (e.g. the Netherlands, the UK) are
reserved about the idea owing to the lack of
progress in fulfilling the EU demands.

All things considered, the way
Croatia deals with the political challenges
– at home and abroad – will play a
deciding role in its bid for EU membership, more
so than its fulfilment of the economic and
sociopolitical prerequisites. The goal of
acceding to the Union in the next enlargement
round – together with Bulgaria and Romania
– in 2007 or 2008 is extremely ambitious,
though it has to be taken seriously. If it is to
be reached, Croatia will have to boost its
efforts considerably.

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