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Transition in Croatia
Transition in Croatia had to be carried out simultaneously with its hard independence
war. Western countries responded warmly to Croatia at the time of independence, but
Tudjman’s too open nationalistic course has gradually repelled these countries. In 1991-
1995, the financial aid from the EU has been limited only to the aid for humanistic
purposes1. Towards the end of 1990s Tudjman’s course became deadlocked. Increasing
dissatisfaction among people led to a victory of opposing parties at the general elections
in January 2000. The new coalition government, with Social Democratic Party as its
center, embarked on the economic restructuring and the efforts for the EU membership.
5.1. Croatian Economy after Independence
Although Croatia attained its independence, the sacrifice was not small. In autumn the
Croatian army entered the state of war against JNA (Yugoslav Federal Army). In spring
1992 foci of the battle removed to the territory of Bosnia and Herzegovina, and Croatia
regained calm. However, a third of its territory came under the rule of Serbian forces,
and such an ‘irregular condition’ continued until July 1995. Manufacturing industry was
severely hit by the war, with about a third of its capacity damaged (Fujimura, 1996,
p.77). As a result, GDP in 1993 was lower than the 1990 level by 39%. At the same
time, prices were galloping, and the annual rate of inflation exceeded 1100% in 1993
(see Table 5-1).
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Table 5-1 Croatia’s Macro Economic Indicators, 1992-2000
1990 1992 1993 1994 1995 1996 1997 1998 1999 2000
Real Economy
(percentage change)
GDP -6.7 -11.7 -8.0 5.9 6.8 6.0 6.5 2.5 -0.9 3.7
Industry -11.7 -14.6 -6.0 -2.6 0.3 3.1 6.8 3.7 -1.4 n.a.
Agriculture -2.9 -13.5 4.5 -0.3 0.7 1.3 4.0 10.2 n.a n.a.
GDP per capita (US$) 5,106 2,291 2,349 3,137 4,029 4,422 4,396 4,806 4,456 4,227
Unemployment rate*
(annual average)
9.3 13.2 14.8 14.5 14.5 10.0 9.9 11.4 13.6 n.a.
Retail prices
(annual average)
610 666 1,518 97.6 2.0 3.5 3.6 5.7 4.2 6.5
Government
Balance/GDP (in %)
n.a. -3.9 -0.8 1.2 -1.4 -1.0 -1.4 -0.4 -6.2 -6.7
Interest rate (in %)
Deposit rate n.a. 435 27.4 5.0 6.1 4.2 4.4 4.1 4.3 n.a.
Lending rate n.a. 2,333 59.0 15.4 22.3 18.5 14.1 16.1 16.1 n.a.
External performance
(US$ million)
Merchandise exports 4,020 3,127 3,904 4,260 4,633 4,546 4,210 4,605 4,372 4,590
Merchandise imports 5,190 3,430 4,646 5,432 7,900 8,236 9,435 8,773 7,674 7,904
Trade balance -1,170 -303 -742 -1,172 -3,267 -3,690 -5,224 -4,169 -3,302 -3,313
Current account 1,050 326 606 826 -1,451 -1,148 -2,343 -1,550 -1,537 -798
Current account/GDP
(in %)
n.a. 3.2 5.6 5.7 -7.7 -5.8 -11.6 -7.1 -7.6 -4.1
FDI inflow n.a. n.a. 120.3 117.3 120.8 515.9 550.7 1,013 1,635 1,125.8
Debt service (in % of
current account revenue)
n.a. 8.8 9.7 8.9 9.6 8.9 10.0 13.1 14.4 n.a.
Source: EBRD (2000), p.153; Date for 1990 are taken from EBRD (1997), p.220.
Note: * A sharp decrease in unemployment rate from 14.5% in 1995 to 10.0% in 1996 is strange
because in 1996 demobilized soldiers appeared on the labour market, and this must push up
the unemployment rate. I guess there was a change in methodology of measurement of
unemployment between these two years. According to a different source (Jovancevic, 1999,
p.246), the unemployment rate is 16.4% in 1996, 17.5% in 1997, 17.6% in 1998 and 19.0%
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in 1999.
In October the Stabilization Programme was implemented. It was a program of two
phases: The first phase as a heterodox anti-inflationary programme and the second
phase as structural reforms. During the first phase, the central bank tightened monetary
policy and liberalized the foreign exchange market, while the government realigned
prices of public utilities to eliminate losses burdening the budget, and placed controls on
wage in the public sector. Only in a year the inflation has calmed down, and the central
bank’s reserve began to increase. In May 1994 a new currency Kuna was introduced,
replacing Dinar. The second phase of the Stabilization Program involved structural
reforms which were intended to assure long-term economic stability. Its key points were
fiscal reform, acceleration of privatization, restructuring of loss-making public sector
enterprises, restructuring of the banking system and development of financial system
(Jovancevic, 1999, pp.240-241).
Before its independence, Croatia’s total foreign trade volume amounted to 100% of
its GDP (Samardzija, 1997, p.107). Croatian exports in 1990, including trade with other
republics of former Yugoslavia, as well as trade in material services was estimated at
US$ 13.7 billion, approximately two thirds of the GDP. However, following the overall
downturn in the economy, a sharp fall of the revenue from services, and a loss of
markets in two neighboring countries, the total export figure was more than halved to a
mere US$ 5.7 billion in 1993 (Samardzija, 1997, p.35). With the year 1993 as a bottom,
in 1994 Croatian economy began to recover quickly. Then wages increased more
quickly, which might have negative effects on economic performances, as Samardzija
concerned herself. In 1995 only, real wages increased by almost 40% in Croatia. It
seems to me that this is because wages had been suppressed for a while and abruptly at
this time increased on the rebound. Anyway, this resulted in a boom in domestic demand
and a 44% upsurge in imports but no real progress in terms of GDP (Samardzija, 1997,
p.104). There remained a slump in export, which covered only 62% of import in 1995.
In this connection, Croatia’s ratio of export to import was 93.7% in 1973 and 86.3% in
1988, one of closing years of the former Yugoslavia. Compared with these figures, a
slump in export in 1990s was very serious (SGJ 1989, p.325, p.418).
The composition of foreign trade partners has gradually changed. The share of West
European countries has increased. In 1992 the share of EU in the total export accounted
for 52.45%, former Yugoslavia 31.97% and Central East European countries (CEEC)
and ex-USSR 5.79%. In 1995 the share of EU in the total export has increased to 58%
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while the share of former Yugoslavia and CEEC and ex-USSR accounted for 23% and
9% respectively. In 1992 the share of EU in the total import accounted for 46.79%,
former Yugoslavia 23.24% and CEEC and ex-USSR 13.58%. In 1995 the share of EU in
the total import has increased to 62.16% while former Yugoslavia and CEEC and ex-
USSR accounted for 11.31% and 9.31% respectively. Let me see Croatia ’s foreign trade
by countries. In 1995 the first place in its export was occupied by Italy (23.7%),
followed by Germany (21.5%), Slovenia (13.1%), Bosnia and Herzegovina ( 8.3%),
Austria (4.3%), Russia (3.3%), France (2.4%), Liberia (2.3), USA (1.8%) and
Netherlands (1.7%). In the same year the first place in Croatia’s import occupied by
Germany (201%), followed by Italy (18.2%), Slovenia (10.7%), Austria (7.7%), UK
(6.1%), USA (2.7%), Libya (2.5%), France (2.5%), Netherlands (2.3%), Switzerland
(2.2%) (Samardzija, 1997, pp.106-109).
Nowadays the implementation of the second phase is negatively mentioned
(Chamber of economy, 2000, p.2). Indeed such a violent inflation has calmed down
within in a short time in 1993-1994. In this regard, Stabilization Programme of the
economy was a success story as Ivan Teodorovic admits. However, he criticized the
implementation of the second phase of the Stabilization Programme, saying as follows:
“Economic policy that allowed for increasing domestic consumption and rising foreign
debt in hand with a softening of the budget constraint had to end up with a softening of
the entire fiscal system. Thus, a slowing down and in some aspects the reversal of the
reform process had threefold effects: stagnant growth rates, increasing unemployment
and social differentiation” (Teodorovic, 2001, p.2766).
5.2. Economic Restructuring
5.2.1. “State Dominated” Privatization
In April 1991 the law on transformation of social enterprises (the so-called law on
privatization) was adopted. This law defined permissible paths and the general
framework, and two of the supplementary laws provided the basis for direct state
involvement in any sector of the economy. The strategy of privatization in Croatia had
some characteristics: First, the state nationalized social capital and became an owner of
80% the social capital; Secondly, the legislation provided the government with a
prominent role and extensive discretionary powers in the privatization of re-nationalized
enterprises; Thirdly, the legislation did not include any voucher schemes, but instead it
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introduced a system of discount in purchase of shares and gave priority to employees of
the enterprise concerned; Fourthly, it was “revenue oriented” privatization (Bicanic,
1993, p.426). In this regard, more definite explanation was given by Kalogjera,
describing that one of basic objectives of the privatization is to obtain funds necessary
for paying public debts and financing recovery of the country by the sale of enterprises
(Kalogjera, 1993, p.63).
As for the point that in initiating the privatization a big power was given to the state,
the two doyen of the Croatian academic circles in economics critically described.
Stressing the fact that in the years 1950-52 the process of shifting from a command
economy to a market economy was firmly initiated in Croatia (former Yugoslavia) and
in the following eight years, 60 per cent of the prices were completely liberalized,
Branko Horvat characterized the privatization implemented in 1990s as backward
transition. Similarly, in the keynote speech at the international conference in 1999
Dragomir Vojnic said as follows:
Among all its advantages, Croatia only exploited market tradition to a certain
degree. Thus, during the war, it did not have to introduce the war economy.
However, all other advantages are not used. That refers to social ownership which
represented by itself a very good basis for efficient realization of the fundamental
segment of transition, that is, privatization. Already in the first step of privatization,
the method of transformation abolished all advantages of social ownership, a step
backward in the direction of state was made. Although state ownership had to have
only a temporary character of transitive form of ownership, the consequences were
very difficult. It appeared to be a legal and institutional vacuum. The process of
circulation and concentration of capital did not develop on the basis of
entrepreneurship and entrepreneurial capability, but on the basis of political fitness
(Vojnic, 1999, p.17).
Although Croatia was ostensibly democratized, the political style represented by the
former President Franjo Tudjman was rather authoritarian. Croatian Democratic
Alliance (HDZ) had power since the election in Spring 1990. Owing to the single-
member constituency system, with 48% of the total votes, HDZ was able to gain 65% of
the seats in the Parliament. The first party in opposition has rotated at every general
election in such a way that it was the former Communist party in 1990, Liberal party in
1992 and another party in 1996. Therefore, the political predominance of HDZ had
never shaken until 2000. Ironically enough, such frailty of the opposition has brought a
kind of stability of the regime at that time2. According to Puhovski, “All the really
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important decisions are made in some kind of court around president Tudjman,
officially called the national defense and security council”(Puhovski, 1999, p.20).
5.2.2. The Process of Privatization
In 1991 the Privatization Agency and the Development Fund were established as
organizations which should inherit the legal framework of the Federation and promote
privatization. The role of the Privatization Agency was to check the submitted plans and
supervise and monitor the privatization of enterprises. The proceeds of the sale went to
the Development Fund. These were powerful organizations. The Agency had the power
to install managers into loss-making enterprises. The Fund had equally great powers and
no direct accountability. In its portfolio it had shares from almost all enterprises in the
economy, making it the largest asset owner and thereby a market maker on the nascent
stock exchange. For enterprises which it owned, it appointed managers and could
initiate privatization when and how it saw fit. The two organizations merged into the
Croatian Fund for Privatization in January 1993 (Bicanic, 1993, pp.422-428).
According to Bicanic, the privatization itself involved three rounds of share selling
as well as allocating packages of shares to the development and pension funds. The first
round was the sale of shares at a discount to employees, the second round was the sale
of shares at full price to employees, and the third was the sale of shares without a
discount to the general public. Shares in the first two rounds could be purchased by
paying in installments for a period up to five years. Largest discounts were given to the
employees when buying shares of “their” enterprises. The discounts were limited up to
the value of 20,000 DM per individual purchase. These discounts were contingent upon
the mode of payment and years of employment. The total value of shares sold in the
first round was not allowed to exceed 50% of the total estimated value of the
enterprise’s assets (Bicanic, 1993, p.433).
It is said that managerial buyouts were preferred in the actual privatization. In this
regard, Bicanic pointed out the problems, using an odd expression such as “the
frequency and form of bending and rules and breaking the law”. The most frequently
reported way that managers attempted to buy a dominant position in companies were
“managerial loans”, “manager’s insurance schemes”, and “ghost buyers on one side and
by undervaluing assets on the other”(Bicanic, p.435). “Managerial loans” are part of
completely untransparent system by which top managers receive large and favorable
loans from banks (whose managers are their established business partners and often
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friends) up to ten thousand DM. Sometimes the banks accept as collateral the shares
themselves, overvalued real estate, or frozen “foreign currency savings deposits”
(Bicanic, 1993, p.435; Kalogjera, 1993, p.81). The second way involved enterprises
paying large insurance premiums for their managers which were then cashed for a
discount at banks and the cash was used by managers to buy shares. The third way was
to pay workers to act as ghost buyers of shares with large discounts and then sell them
on the black market or cede them to a manager. Managers as sellers were frequently the
main buyers due to the large number of managerial buyouts. Nevertheless, regarding
asset evaluation, the legislation offered opportunity for undervaluing and incorrectly
valuing assets (for example, location was not used in evaluation, book value was used in
spite of inflation). Managers were not the only ones breaking and bending the rules. The
privatization agency has been often accused of using privatization legislation for non-
economic (mostly political) goals. The most noted examples that Bicanic mentioned
were the replacement of enterprises managers by party faithfuls in Istra and attempts to
influence the media by putting the independent dailies and weeklies into receivership or
regulating privatization by preventing employee buyouts so that the funds (and thus
state ) become majority power (Bicanic, 1993, pp.436).
5.2.3. Privatization at a Stalemate
In 1997 the privatization came to a standstill. According to the research by Kopint-
Datorg, a Hungarian research organization, a deficiency of privatization practice so far
has been that it has not been extended to the banking sector, the energy industry, public
utilities companies and armament industry. The most widespread method of
privatization has been the sale of a half of the share of a company to employees at a
discounted price. A majority of non-privatized equity was handled by the Privatization
Fund, another part was controlled by the pension funds, while five per cent was used for
compensation. In the course of privatization, small and medium-sized companies have
been purchased by employees and management using preferential credits. In contrast,
large companies, which were nationalized at first, came under the management of
confidants of the ruling party (E T, Vol.6, No.3, pp.176-177). As Drazen Kalogjera said,
“every privatization is carried out favorably to ruling parties3. In the case of Croatia,
where the Croatian Democratic Alliance (HDZ) headed by Tudjman occupied a majority
of the seats in the Parliament and maintained the Government from the election in April
1990 till January 2000, the evil is evident.
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As of 1997 it was said officially that 50% of all the enterprises were privatized.
However, Kalogjera was skeptical to such a viewpoint. He argued that as a matter of
fact 80% of all the enterprises were in hands of the State or under the control of the
State. Nenad Zakosek depicted the situation in 1996 as follows: About 560,000
shareholders (which corresponded some 12 % of Croatian population) in different
companies, including both employees and managers, emerged out of the privatization
process. There are unfavourable features: (a) ineffective capital markets, (b) negligible
foreign investments, (c) lack of domestic capital, and (d) the fact that main privatization
transaction are still controlled by the State instead of being channelled through stock
markets. These features are limiting the privatization process (Zakosek, 1996, p.93).
According to Vojnic, hundreds of thousands of small share-holders found themselves
in a very specific situation. This specific situation reflects the fact that besides formal
rights given by the law, they were plundered; because of restricted purchasing power,
they could not repay their shares. Thus, a small number of tycoons supported by the
ruling structures, concentrated huge wealth in their hands. These deviations cover a
broad range from mass small crime, bribery and corruption, all to the organized crime
on various levels of economy and society. Using expressions such as the classical
appearance of “mafiacracy”, “savage capitalism” and “primitive accumulation”, Vojnic
criticized the practice of privatization in Croatia. He said that in such a situation, the
already relatively developed middle class, which is the foundation of civic society, has
almost disappeared. In Croatia, which was best prepared for transition, the situation
similar to that of Russia has appeared. Vojnic ascribed such deviations to the fact that
advice of the World Bank and the IMF, based on the conceptWashington Consensus”,
was applied to a macroeconomic and macropolitical environment specific to Croatia
(Vojnic, pp.17-20).
5.2.4. Reorganization of the Banking System
According to Jovancevic, the break-up of the monetary system of the former Yugoslavia
caused Croatian banks to become insolvent in technical terms. Large amount of banks
claims on the National Bank of Yugoslavia became impossible to collect and, hence,
household foreign currency deposits has been frozen since 1991. In addition, numerous
companies found themselves in serious difficulties and were unable to repay their debts
to banks. Consequently, the government recapitalized a number of major companies
through the issue of treasury bonds called “big bond”, which were used by these
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companies for their repayment of debts (Jovancevic, 1999, p.241).
The real enlargement of fixed assets from domestic sources was very small in 1990s.
There are several reasons for that. Firstly, except a short period (1995-1997), the deposit
rate has always been lower than the inflation rate since independence (See Table 1). As
a result, the marginal propensity to save has been small; Second, highly fixed exchange
rate did not encourage domestic industries to export orientation, so that the volume of
production remained relatively low (proportionate to the size of domestic market) with
high fixed costs of unit value of production. Consequently, the performance of domestic
manufacturers and service activities have been not so profitable. As a result, savings on
the enterprises’ side remained also very low level; Third, the limited amount of
domestic funds makes the price of capital (i.e. interest rate) more expensive. For
example, the lending rate in 1995 was 22.3%, which was extraordinarily high, taking
into consideration that the inflation rate in that year was 6.1% (see Table 5-1). This
might be related to the circumstances that the banking system was inefficient at that
time; Fourth, as capital markets did not function sufficiently yet, it was not easy for
enterprises to finance their equipment investment through this route. Thus essential
modernization of production capacities became more difficult (Jovancevic, 1999,
pp.255-256).
As domestic sources of funds were extremely limited, the objective condition of the
Croatian economy keenly needed foreign direct investment, but the amount of FDI
inflow was quite small until mid 1990s (see Table 5-2). As mentioned above, it reflected
reluctant Croatian side’s resistance to foreign investment as well as bad external relation
of the government (Chamber of Economy, 2000, p.2). At length in August 1996 the both
governments of Croatia and FR Yugoslavia accorded diplomatic recognition each other.
This was greatly welcomed by the international community (Samardzjia, 1997, p.24). In
the early 1997 Croatia received its first credit rating from three important foreign rating
agencies, indicating the arrival of the period of peace and reconstruction and the end of
the period of extreme political risk (Jovancevic, 1999, p.242).
Table 5-2 Banks According to the Kinds of Ownership
Banks 1990 1994 1995 1996 1997 1998
State-owned 21 19 15 15 9 9
Privately-
owned
5 32 39 43 51 51
Total banks 26 51 54 58 60 60
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Source: Jovancevic (1999), p.242
The participation of foreign banks made it easier to rehabilitate Croatian banks. The
process of bank rehabilitation started in 1996 with four large banks (Slavonska,
Splitska, Rijecka and Privredna banka). Till then, the banking system in Croatia
remained concentrated, which means that a small number of banks controlled a
relatively large share of total assets and revenue. The privatization of banks proceeded
in such a way that the existing banks were privatized and new private banks were
established (See table 2). Foreign banks have participated in the process. Whereas only
one bank entered the Croatian market before 1996, during the period between late 1996
and 1997 six foreign banks opened branches or subsidiaries, that has contributed to an
atmosphere of intensified competition. In 1998 majority of banks (85%) were
predominantly privately owned. The shares in total banking assets were 70.2%. The
other 9 banks (15%) were state-owned (or by majority), managing 29.8% of total
banking assets (Jovancevic, 1999, pp.241-243). In the course of intensified competition
among banks, some banks went out of business. In 1998 four banks (Dubrovacka,
Zupanska, Glumina and Gradska banks), which had huge amount of bad debts, became
bankrupt. The losses of those four banks were reported about 600 million (Jovancevic,
1999, p.257).
5.3. Croatian Economy during the Second Half of 1990s
The economy started to recover in 1994. From 1995 to 1997 its growth rate recorded
around 6 %. Above all the best performance was shown by building industry which was
closely related to the reconstruction of the war-damaged-area. Even in 1998, however,
Croatian economy could not recover its 1990 level, and it fell into a negative growth in
the second half of 1998. Why?
As mentioned above, domestic sources of funds were limited, and it was, therefore,
very difficult for companies to get bank loans. Until 1995 the amount of FDI remained
very small. Per capita FDI was decisively small compared with other transitional
countries in Central Eastern Europe. Due to the fact that capital investment in
manufacturing industries and services has been unsatisfactorily already from the last
years of the former Yugoslavia, technologies in Croatia began to become obsolete. For
example, not so long ago the Croatia was the world’s third biggest ship-builder and
produced mainly for the world market. After gaining independence, however, the
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shipyards stagnated in state hands and lost international competitiveness. Croatia is now
the thirteenth in ship-building in the world (Horvat, 1999, p.55; BCE, May 2000, p.30).
On January 1, 1998 the value-added tax with a flat rate of 22% was introduced,
replacing sales tax. The annual report of the Ministry of Finance denied its negative
impact on the economic growth. The Ministry viewed the introduction of VAT
successful because the 22% VAT meant a substantial reduction of tax rate from 26.5% to
22% and at the same time it succeeded in increasing the tax revenue through a wider
grasp of considerable part of the informal economy. Instead, the annual report
mentioned the negative impact of the financial crisis in East Asia, saying that negative
perception of investors and increased sensibility to risk in the second half of 1997 have
resulted in decreased capital investments of foreign investors in transition countries
(Republic, 1999, pp.9-14).
In the 4th quarter of 1998 the GDP decreased by 0.8%. As causes of the decrease in
economic growth, the annual report mentioned aggravating possibilities for borrowing
in the domestic and foreign markets, the high cost of capital, difficulties in collecting
outstanding debts, decreased growth rates of domestic demand, and a lack of higher
tourist consumption (Republic, 1999, p.11). This explanation might be valid for short-
term changes in the economy, but the more fundament cause should be sought in the
fact that Croatian economy has lost dynamics for its development. Under the fact lie
structural problems such as decreased competitiveness in the manufacturing industry
and the service industry, a delay in restructuring of enterprises and the banking sector
and hypertrophied public expenditures. During the first quarter of 1999 the number of
employed persons decreased by 3.2%. The unemployment rate jumped from 18.6% in
December 1998 to 19.6% in March 1999. With the recession, the position of the central
budget deteriorated. Although the budget registered surplus in the previous year, the
budget deficit grew to 1,837 million kuna during the first quarter of 1999. In order to
prevent further deterioration of the balance, in May the government approved a
restriction package containing the saving of 3.5 billion kuna in expenditures. At the
same time, due to the series of banking bankruptcies, large sums had to be spent to
replenish the deposit insurance fund and to reduce the deficit of the welfare funds. In
addition to restrictions in the area of fiscal policy, monetary policy also had to be
tightened (E T, Vol.8 No.2, pp.129-130).
In 1999 exports and imports both declined. Exports attained US$ 4.27 billion (i.e.
5.8% less than in 1998). Imports amounted to US$ 7.77 billion (i.e. 7.2% less than in
1998). Although the trade deficit slightly (US$ 345 million) decreased, its amount
remained as high as US$ 3.49 billion. Weak performance in the foreign trade is ascribed
87
to the fact that no trade preference agreement exists with the EU, customs border came
into effect with Bosnia-Herzegovina, structural modernization has hardly begun in the
industry (ET, Vol.9 No.1, p.39).
In Croatia big amount of the deficit in the foreign trade of goods has been for a long
time compensated by a surplus in the balance of services and remittances by workers
abroad. In this respect, however, disastrous occurrences in the Balkans have negatively
affected Croatian economy. Since autumn 1998 the tensions between Yugoslavia and the
NATO were rising over conflicts in Kosovo, culminating at last in the NATO’s air
attacks on Yugoslavia from March to June. This time Croatia was not a battlefield.
During the attacks, however, air fighters flied from basis in Italy to Yugoslavia across
the Adriatic Sea. Such tensions discouraged foreign tourist who should have visited the
Adriatic coast. As a result, the revenue from tourism decreased by half. Due to a
decrease in the revenue from the tourism and the transportation, surplus in the balance
of services decreased drastically. The accumulated external debts has doubled in four
years from US$ 3 billion 699 million in 1994 to US$ 8 billion 489 million (Republic,
1999, p.97). In September 1999 the debt amounted to US$ 9.3 billion, so that the debt
due in 2000 equaled US$ 1.7 billion, which became a heavy burden to the economy
(Hrvatski, 1999, p.5).
The problem of inter-companies’ debts became more serious. According to the data
of the Institution for payment transactions, in June 1999 the companies non-collected
overdue debt amounted to FRK 23.3 billion, being 7.3% higher compared to the
previous month. In August 1999, the amount of the recorded non-collected overdue debt
increased by almost 62%, or by FRK 8.9 billion, compared to late 1998 (Hrvatski, 1999,
p.7).
Whereas consolidated spending of the state accounted for 40.5% of GDP in 1994, it
grew to 47.9% in 1998, and its share was expected to grow to 49.1%. If the budgets of
local authorities are added to government spending and non-budget funds, then the total
public spending was estimated to account for 70% of GDP (Chamber of Economy,
2000, p.9). In the central government budgetary expenditure of 1997 the biggest share
was occupied by defense (20.32%), followed by social security and welfare affairs and
services (18.76%), public order safety affairs (12.12%), education (11.78%) and
transport and communication (9.98%). The budget of 1999 shows a different order with
the biggest share being occupied by social security and welfare affairs and services
(23.07%), followed by defense affairs and services (12.88%) and education (12.56%),
transport and communication (11.65%) and public order and safety affairs (9.73%). In
this way, although the expenditure for defense and public order has decreased, its share
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in the state budget remained high level. Among non-budget funds the most important
were the pension fund and the health fund. Deficits in non-budget funds have been
compensated by transfers from the central budget. 50.8% of the total transfer from the
central budget in 1998 went to the pension fund, and 13.9% to the health fund
(Republic, 1999, pp.47-48). As of March 1999, the number of retired persons was
nearly one million, which seemed too much in a small country with the population of
only 4.6 million. This meant that 1.6 active insured person worked for one retired
person while in 1990 the relation was 3.2 to 1 (Republic, 1999, p.19). In this regard, the
working programme of the new government critically mentioned problems such as a
lack of discipline in the payment of pension and health care insurance, the recognition
of claims regardless of financial conditions, and greatly uneven rights (Government,
2000, p.4). In order to conclude a standby credit agreement with the IMF, the
expenditures of the budget had to be trimmed. As transfers from the central budget
could not be maintained, it became inevitable to reform the pension and health care
systems. Similarly, an agreement had to be reached with social partners in order to limit
wage and price increases. In this way, Croatian economy came to a standstill towards
the late 1990s (ET, Vol.9 No.1, pp.39-40).
5.4. Political Change
The economic difficulties show that Tudjman’s methods have failed. People were
dissatisfied with the situation in which Tudjman’s adherents had amassed wealth while
many people suffered poverty. Journal Business Central Europe reports the situation in
early 1999: “Opinion polls credit his ruling party the badly divided Croatian
Democratic Union (HDZ) – with a dismal 20% level of support. Worse, the man himself
has dropped from the second most respected person in the country in January last year,
to a pathetic 35th place now” (BCE, Feb. 1999). When Tudjman died in December 1999
after a long illness very few heads of foreign countries attended his funeral. In the face
of increasing dissatisfaction among people, HDZ won only 40 seats out of 151 seats of
the Parliament (24.38% of the total votes) at the general election held on January 3,
2000. A centrist and leftist union composed of the Social Democratic Party and the
Social Liberal Party won 71 seats with a share of 40.84% of the total votes. As a centrist
and rightist union, which won 24 seats, decided to support from outside of the Cabinet a
coalition government was formed. A Presidential election taken place January 24, 2000
was contested practically by three candidates: former foreign minister Mr. Granic from
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HDZ, Mr. Budisa from the centrist–leftist union, and Mr. Mesic from the centrist-
rightist union, composed of four parties including Peasant Party and National Party. As
no candidate won a majority of the votes at the first ballot, the second ballot was to be
held on February 7 between Mr. Budisa, a student leader of ‘Croatian Spring’ in 1971,
and Mr. Mesic, who has acted the last President of the former Yugoslavia in 1991 and
Prime Minister and President of the Parliament of newly independent Croatia. As there
was no big difference between commitments of both candidates like the reduction of the
President’s power, the EU membership, etc., ‘personality’ of the candidates became a
focus. Finally Mr. Stipe Mesic won with 56.21% of the total votes4.
The new Prime Minister of the coalition Government was Ivica Racan, the last leader
of League of Communists of Croatia and the leader of the Socio-Democratic Party. The
program of the new Government, based on the public commitment of the coalition
groups, was a program of change in the Republic of Croatia, aiming to build civil
society and a democratic and market-oriented state integrated in the EU. One of the
most important tasks is to change the political system primarily by reducing the powers
of the President of the State and by strengthening the role of parliament and the
government. In addition, the new Government was obliged to aim to attain such very
basic tasks as follows: the promotion of dialogue and tolerance for development of
democracy and building of civil society; the establishment of an independent judiciary
and the rule of law; the transformation of the Croatian Television from a state-controlled
one to a public, independent and responsible medium, etc. The new Government aimed
to join the WTO and the CEFTA. As for the EU, for the time being it aims to be an
associate member (Government, 2000).
Prime Minister Racan called on the leaders of state enterprises and institutions to
resign in order to wind up Tudjman’s economic estate (ET, Vol.9 No.1, p.38). Racan
administration broke off the nationalistic course. This is exemplified by its cooperative
position toward the Haague’s international tribunal on war criminals in the former
Yugoslavia. Leaders of the West welcomed the new government in Croatia and tried to
put an end to this country’s international isolation5. In June 2000 the NATO invited the
Croatian government to participate in ‘Partnership for Peace’. This move was enough to
upgrade the rating of this country. Meanwhile the Croatian government negotiated with
the IMF about a new loan. In July 2000 Croatia was admitted to the WTO. The relation
with the EU has improved, and the Agreement on Stabilization and Association with the
EU was concluded in October 2001.
90
5.5. Challenges of Croatia
In the period of Tudjman’s rule, the economic restructuring has been inconsistently
implemented. The new government is burdened with numerous tasks to be solved.
Among others, a cutback in public expenditures entails painful measures such as
reduction in the number of government employees and their wages, a cut in subsidies,
reform of pension and medical care systems, etc, but the new government is pressed to
implement this task first of all. At the same time, the government has to tackle with
challenges such as the promotion of export, the introduction of foreign capital, the
restructuring of enterprises and banks, the improvement of capital market, the
acceleration of with privatization with participation of foreign investors, the support to
development of agriculture, a decrease in unemployment, minimum social protection,
etc. In addition, the government must take care of 46,000 displaced persons and 140,000
Croatian refugees from Serbia, Montenegro and Bosnia-Herzegovina (Government,
2000; Chamber of Economy, 2000).
The privatization is not completed yet. The challenge to accelerate the privatization
with participation of foreign investors is especially important. According to Borozan
and Barkovic (2002), the situation can be depicted as follows: During the first decade
(1991-1999) 2,650 companies were involved in privatization. In 1991 the Croatian
Privatization Fund (CPF) possessed HRK 86 billion of the state-owned portfolio. As a
result of the selling, in 1999 there remained a non-privatized portfolio for HRK 3.8
billion. However, many companies have ruined under the management of Croatian
‘tycoons’. In that particular year they returned the shares of these companies to CPF, so
that the portfolio drastically increased again. By September 2001 the CPF held 1,203
companies, whose stock capital amounted to HRK 63.6 billion with the state portfolio
being HRK 25.5 billion. The government intends to speed up privatization, but most of
the available portfolio is not attractive due to excessive indebtedness of companies,
insolvency, technical obsolescence and inadequate structure of personnel. Only about
100 companies in industry, insurance and tourism are attractive enough to get foreign
investors’ participation.
FDI, which remained a low level in the first half of 1990s, began to increase in 1996.
It is worthy of notice that FDI increased to US$ 1.6 billion in 1999 (see Table 7). This
shows that the Croatian government turned its course to actively introduce foreign
capitals. In 1999, 35% of shares in Croatian Telecom was sold for US$ 850 million to
Deutsche Telecom (in 2001 Deutsche Telecom purchased another 16% of for US$ 422
million). In the same year 66% of shares of Privredna Banka Zagreb was sold to Banca
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Comerciale Italiana. During the period between 1993 and 2001 the cumulative FDI in
Croatia amounted to US$ 66.4 billion. The biggest investor in Croatia is Austria
(27.23%), followed by Germany (25.81%), USA (18.17%), Luxembourg (5.59%) and
Netherlands (3.63%). Data on FDI during the same period by sectors show that the most
attractive sector is telecommunication (29.37%), followed by banking (17.26%),
pharmaceutical industry (15.41%), cement (5.05%), petroleum and gas (3.11%), hotels
and catering (2.66%), trade (1.67%), bricks and roof tiles, etc.(1.53%), and beer
brewery (1.35%). As we have seen, nearly half of the total FDI went to
telecommunication and banking. Apart from pharmaceutical industry, FDI in
manufacturing industry is very small. FDI in tourism is unexpectedly small. Hereafter it
will be necessary to introduce bigger amount of foreign capital in these sectors. As the
most prosperous type of investment, Borozan and Barkovic (2002) mentioned bluefield
investments – sea investments, which are officially neglected and ignored.
It is indispensable to improve investment climate in order to attract bigger amount of
FDI and activate business in the country. Sophisticated communication technology and
transport infrastructure, which are indispensable in the era of global economy, have not
sufficiently developed yet. In addition, there are administrative barriers which are
hampering the inflow of FDI. Foreign businessmen have been often annoyed by
troublesome and time-consuming procedures at various phases such as application for
entry visas and work permits of foreign managers and workers, company registration
and other business establishment procedures, location of business, i.e. land acquisition,
construction-related permits, usage permit for utility services, etc. Foreign investors
commonly complain of such “administrative harassment” (Borozan and Barkovic,
2002). In this regard, the Croatian government should learn active attitude of the
Hungarian government toward FDI.
Croatia aims to join the EU by 2010, but the process seems to be uneasy. As other
candidate countries have done so far, also Croatia is requested to accept acqui
communautaire, revise its domestic legal system and restructure its economy in order to
harmonize with the EU standards. This is an enormously time-consuming and energy-
consuming process. Bartlett (2002) points out disadvantage of latecomers compared
with Central East European countries and Baltic countries which will be admitted in the
most probably 2004. The states left out of membership will face higher non-tariff
barriers, lesser access for their workers to European labour markets, and fierce
competition from the new member states than before. The support from the EU is very
precious for Croatia, but the amount of the support itself has been not so large. In
connection with the Stability Pact of South Eastern Europe, the EU offers the CARDS
92
programme, which replaces the PHARE for the Western Balkans. Croatia became one
of its recipient. The aim of the CARDS programme is more political rather than
economic. It is a complementary factor to EBRD and World Bank support. It is geared
towards actions in political areas, such as democratization, return of refugees, fights
against organized crime and security of borders (Bartlett, 2002, p.11).
Although Croatia has the Adriatic coast with an abundance of tourist attractiveness, it
seems very difficult to adopt the Norwegian approach6 to the EU. Consequently, for
about ten years Croatia will be requested to endeavor to satisfy the conditions for the
EU membership.
93
1Notes
Its continuous discrimination against Serbs, who were ousted Krajna district by the Croatian army’s blitz tactics
in August 1995, and the inducement of Bosnian Croats to settle in their houses contravened the Dayton accord of
November 1995. Under pressure from the US the World Bank cancelled a US$ 30 million loan for the
reinforcement of banking system in Croatia, and the IMF also postponed a loan to Croatia. The negotiation for its
membership in the WTO was suspended under pressure from the US and the EU. Its negotiation with the EU on
cooperation agreement, which began in June 1995, was also suspended in August. Although in June 1995 Croatia
was officially included in the group of recipients of PHARE programme, its implementation was also suspended
in August.
2 Interview with Professor Ivan Grdesic at Faculty of Political Science in Zagreb on July 9, 1997.
3 Interview with Professor Drazen Kalogjera in Zagreb on July 10, 1997.
4 My description on the elections is based on Too Fairu [East European File](Kyodo Tsushin [Kyodo
Correspondence Company]), No.521-522, pp.4-5, Niigata Nippoh [Niigata Daily Newspaper] February 9, 2000,
and other Japanese Newspapers.
5 Journal Business Central Europe reports, “Mr. Racan has handed over sensitive documents to the International
Criminal Tribunal on war crimes in former Yugoslavia, despite threats from war veterans to disrupt the all-
important tourist season. He has also invited to UN officials to Croatia to investigate mass graves, prompting
criticism from war veterans (BCE, June 2000, p.43).
6 As Norway is content to keep its rents from North Sea Oil to itself, it founds non-member association to be a
satisfactory arrangement. Also Iceland has the same position because it is afraid of the adverse impact of the
Common Fishery Policy on its fishing revenues (Bartlett, 2002, p14).
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