Croatia's Economic Success Masks Reform Woes

Croatia, the newest member of the European Union (EU), has outpaced most other economies in the 27-member bloc.

The Balkan country, with a population under 4 million, reported a GDP growth of 3.6% in 2024—well above the EU’s average of 0.9%. Strong household consumption, wage increases, and foreign investments—particularly those from EU funding—drove this growth.

In 2024, Croatia’s employment reached record highs with a 3.5% rise compared to January 2023— an increase of nearly 60,000 workers. The construction sector was at the top, with a 6.9% rise in employment, thanks to ongoing infrastructure projects and EU-funded investments.

The average net salary grew by 15% (11% adjusted for inflation), reaching €1,318 monthly. The public sector saw the biggest increase, as salaries in government administration, education, and healthcare rose by 22% on average.

However, the country's economic success is threatened by an ever-expanding public sector, which has increased despite the shrinking population. Critics warn that a lack of meaningful economic reforms under Prime Minister Andrej Plenković of the ruling Croatian Democratic Union (HDZ) could undermine growth.

"Around 40% of the economy is government and retail trade," independent analyst Neven Vidaković said for N1 TV. "The sectors that could contribute to value creation the most and provide high-quality jobs no longer exist. This results from lack of reforms in the last 20 years."

Shrinking GDP Projections Call For A Change

Rising government spending has raised questions about sustainability as state expenditures continue to outpace GDP growth.

In 2024, public administration employment increased by 5.1%, education by 3.1%, and healthcare and social services by 6.2%.

Meanwhile, GDP growth is expected to stall at 3.3% in 2025 and 2.9% in 2026. This trend shows the urgent need for structural reforms to maintain long-term stability and budget deficits as mandated by the EU.

However, those reforms have yet to materialize, particularly in public administrations. Despite a population of less than four million, Croatia has 555 units of public governance, including 428 municipalities and 127 towns organized in as many as 20 regions. Comparatively, Ireland, which has double the population, has only 95 municipal districts.

Government Spending Sees A Record Increase

Despite consistent GDP growth since 2017, government spending has increased even faster—from €16.9 billion in 2017 to €28.1 billion in 2023. This trend continued in 2024, with a record-breaking €1.63 billion increase in public sector wages further straining the budget.

The Croatian government now spends more on public sector salaries relative to GDP than most comparable EU countries, including Slovenia.

As Branimir Perković noted for Bloomberg Adria, the situation mirrors the scenario from 20 years ago, when Croatia’s GDP growth was strong but driven by state spending rather than private sector expansion before the Great Recession.

"Economic growth was solid back then, just a bit lower than in other comparable economies," he wrote. "The Croatian population was happy with that, and everyone was content without any notable reforms because it made them feel safer."

However, when the recession hit, government employment remained stable while the private sector lost nearly 200,000 jobs, leading to a prolonged economic downturn and almost a decade-long recovery.

Immigration Driving Cyclical Industry

One key driver behind Croatia’s success in 2024 has been immigration. The country issued a record 206,529 work permits to foreign workers, a sixfold increase since 2018.

Most of these workers came from Bosnia, Herzegovina, Nepal, Serbia, India, and the Philippines. Most of the imported workforce went to the construction sector, with 75,071 work permits issued. Tourism and hospitality received 56,228 and industry 28,486.

The influx of foreign labor has sustained the country's growth. It has also exposed Croatia's vulnerable reliance on low-cost labor to drive cyclical industries like tourism.

With the influx, incidents involving violence against foreign workers have recently increased. Croatian Interior Minister Davor Bozinovic has pledged to ensure the safety of foreign workers in Croatia and to intensify efforts to combat hate crimes.

Financing Costs Converge With Eurozone

Adopting the Euro has been a positive development for Croatia's financing costs. Since the adoption in January 2023, financing costs have converged toward the EU average, eliminating one of the major obstacles to private sector competitiveness.

Moreover, Croatia’s integration into the eurozone has reduced currency risks, leading to lower government and corporate debt interest rates. The improved credit rating has enhanced investor confidence, further lowering borrowing costs.

Lastly, the country’s access to EU funding has provided businesses with alternative sources of capital, reducing dependence on expensive loans.

The development of Croatia’s capital markets is also seen as a crucial step in sustaining long-term growth. While the government took a step forward by normalizing citizens’ participation in buying public debt, general investment awareness is mainly oriented toward the real estate market.

The Real Estate Paradox: Prices Up, Demand Down

Yet, the real estate market presents a paradox: decreasing demand and increasing prices. In 2024, the total number of real estate transactions fell by 2.9% compared to the previous year.

Istria (-22%) and Zadar County (-20%) recorded the most significant declines. However, property sales increased in Primorje-Gorski Kotar County, where transactions surged by 23%.

In Q3 2024, real estate prices rose by 12.3% year-on-year, with the most substantial increases recorded along the Adriatic coast (+16%) and in the capital, Zagreb (+7.7%), where Slovenians overtook the Germans as principal foreign investors.

Another factor causing the real estate market disconnect is mortgage availability. Domestic banks had offered favorable loans before the new regulatory tightening, set for April.

The government's new housing incentives, such as tax rebates for first-time homebuyers and VAT reductions on new construction, are also helping to increase demand.

Meanwhile, nearly 40% of real estate in 2024 went to individual foreign buyers. Prices will likely remain elevated as foreign investors see the opportunity to own high-end properties, particularly in tourist regions.

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