Moody's Investors Service on Friday changed Croatia's outlook to positive from stable and affirmed the country's long-term local and foreign currency issuer and senior unsecured debt ratings at Ba2.
The credit rating agency recalled that in 2017 Croatia recorded the first budgetary surplus of 0.8% of GDP and that the positive momentum “was confirmed in 2018, although the surplus was lower (0.2% of GDP), in large part due to the activation of the state guarantee regarding the Uljanik shipyard.”
Moody’s underscored that “the improved fiscal performance is mainly attributable to a significant reduction in the structural deficit, meaning that public finances are strengthening in a durable way.”
The agency expects a solid surplus of the primary balance to be maintained in the coming years.
It noted that the government’s debt reduction has progressed steadily since the 2014 peak (84% of GDP).
Fiscal prudence and positive economic growth
“Under its base case scenario, Moody’s expects that continued fiscal prudence and positive economic growth will allow public debt to continue its downward trend and reach around 70% of GDP in 2020,” reads the report on Croatia.
The document recalled that the set of measures contained in the new Fiscal Responsibility Act which was approved by the Croatian Parliament at the end of 2018 should strengthen the existing fiscal framework. All that will bring Croatia’s framework closer to the European standards.
Pension reform to contribute to fiscal sustainability
“Furthermore, in the medium-term, the pension reform enacted in late 2018 will contribute to the fiscal sustainability of the system while ensuring better pension adequacy. The acceleration in the planned increase in the statutory retirement age to 67, coupled with the equalization of retirement age for men and women, will support the decrease in public pension expenditure expected by the European Commission’s 2018 Ageing report (- 3.8% of GDP in 2070 compared to 2016). The supplement granted to multi-pillar pensioners will help to improve the low pension adequacy,” Moody’s said.
Finally, the resolution of the Agrokor retail conglomerate crisis “removes a significant source of uncertainty for the economy and a potential contingent liability for the State.”
Reforms positively impact growth prospects
The credit rating agency also underscored that the growth prospects may benefit from recent reforms.
Following a 6-year long recession between 2009 and 2014, the Croatian economy rebounded in 2015, with real GDP growth averaging 2.9% since.
Moody’s expects positive economic growth to continue in the coming years, although GDP growth will decelerate somewhat against the backdrop of a more challenging international environment.
“Forecasted to reach 2.4% on average in 2019-2020, real GDP growth will be in line with potential, which has strengthened in recent years. This positive economic backdrop should support the country’s efforts to reduce public indebtedness looking ahead,” the agency said.
Moody’s believes that economic activity will also benefit from the future euro area formal candidacy application, as this will continue to support sound macroeconomic policies and stronger institutions, providing a policy anchor.
The agency also perceives tourism as a key element in the country’s economic recovery. Over the past decade Croatia’s tourist sector “has performed above the average of the other Northern Mediterranean EU countries in increasing its international tourism revenues, non-resident tourists’ overnight stays and arrivals from abroad.”
Rationale for affirming rating at Ba2: low potential growth
“The rating affirmation reflects Croatia’s relatively high per capita income, while institutions benefit from the EU membership and the strong commitment of the Croatian National Bank towards achieving Kuna/Euro stability,” the agency said.
“At the same time, Croatia is constrained by its small-sized economy and relatively volatile economic growth as well as its low potential growth relative to peers. While fundamentals are now stronger than prior to the recession, Croatia still faces significant challenges that weigh on the country’s growth prospects.”
The agency warned of Croatia’s below the EU average participation and employment rates in the labour market and said it “is compounded by ageing and increasing migration outflows since the EU accession in 2013 that are unlikely to be reversed in the near future.”
“In addition, while gross investment has rebounded since 2015 thanks to revitalized private investment, its level is still below pre-crisis figures because of historically low public investment, which is penalized by a low absorption rate of EU funds, although Moody’s expects that this rate will pick up in the next two years.”
Croatia’s rating would likely be upgraded should Moody’s conclude that positive economic and fiscal trends are to be sustained and that the high debt burden will continue its steady, downward trend, the agency said.
Moody’s report came after in March Standard & Poor’s raised Croatia’s sovereign credit ratings to ‘BBB-/A-3’ from ‘BB+/B’, putting the country’s rating after six years back into the investment category owing to an improved situation in the budget and economic recovery.
The agency Fitch is giving a speculative grade to Croatia’s, describing the country’s outlook as positive.
