The main contributor to the slowdown in inflation is energy prices, despite the fact that the August’s restriction of crude oil supply on the global market in August pushed inflation upwards.
CNB Governor Boris Vujčić told Diplomacy&Commerce magazine that care should be taken because the risks to the realization of the projected inflation are still very high. Developments in the Eurozone, whose individual members are among Croatia’s most important foreign trade partners, are currently relatively unfavorable.
- How do you comment on GDP growth in Q2; what are the estimates for economic growth in Q3 and for the entire 2023?
Croatia’s GDP posted a relatively strong increase in Q2. Personal consumption and the export of services contributed the most to such trends, which is in line with the continuation of favorable trends in the labor market, i.e., the growth of the number of employees, nominal and real wages, and the strong influx of foreign tourists. On the other hand, the rates of other GDP components were muted. At the three-month level, there was a noticeable drop in goods exports and imports, which could partly be connected to the weakening of external demand, while government consumption and investments also decreased slightly.
According to the latest projections of the Croatian National Bank, expected growth of Croatian economy for the entire 2023 amounts to 2.9%, whereby economic activity might slow down in the second half of the year. Recent indicators for the beginning of Q3 thus show that there was a pronounced decline in industrial production in July, while retail trade remained at the average level from Q2, and at the same time we see a slight decrease in the number of overnight stays by foreign tourists on an annual basis. Simultaneously, unfavorable trends in the leading indicators, i.e. consumer and business confidence, were recorded, with confidence in industry and services particularly deteriorating. However, looking at the year as a whole, a relatively strong growth of real GDP could be achieved for the third year in a row, with all components except goods exports contributing to growth. At the same time, a noticeably stronger increase in economic activity compared to the EU average is expected, which also points to the continued reduction of differences in economic development between Croatia and more developed member countries, after the Croatian GDP per capita, adjusted for differences in price levels, reached 73% of the EU average in 2022.
- What are the main positive and negative factors that can affect the economic trends in Croatia in the medium term; do you consider the warnings that further increase in interest rates might cause a recession in Croatia, and in the Eurozone, to be justified?
For a small open economy such as Croatia, events in the external environment largely determine what will happen to domestic economic activity. Developments in the Eurozone, whose individual members are among Croatia’s most important foreign trade partners, are currently relatively unfavorable. The Euro area economy practically stagnated in the first half of 2023, and high-frequency indicators also point to weakness in the current quarter. It seems that the weakening of external demand has already begun to spill over to domestic economic activity to a certain extent. Current projections assume a gradual recovery of the euro area economy towards the end of the year and its slight strengthening in the next year, under the assumption of strengthening of the global economy, but current signals point to the strengthening of negative risks for growth, especially if one takes into account the recent rise in energy prices, the extended duration of the war in Ukraine as well as the pronounced geopolitical tensions. There is also the risk that the the accumulated effects of the tightening of ECB’s monetary policy will slow down the economic activity of the euro area and Croatia somewhat more strongly than currently expected. However, on the positive side, despite suppressed economic activity, the labor market in the euro area and Croatia is still relatively strong. The unemployment rate is at a record low, and the demand for work remains high. Although there are signs that employment growth is slowing down, and despite the weakening of economic activity, the labor market could remain relatively robust, which, along with a further drop in inflation, will continue to support real wage growth, i.e. the real disposable income of the population. Likewise, Croatia has at its disposal one of the largest amounts of funds from the European Union’s funds, when observing relatively, i.e., according to the share in GDP, the utilization of which will continue to strongly support investment activity in Croatia.
- What are the inflation estimates for 2023 and 2024?
After peaking in November 2022, inflation in Croatia has gradually slowed down, albeit at a slower rate than previously expected. The main contributor to the slowdown in inflation is energy prices, despite the fact that the August’s restriction of crude oil supply on the global market in August pushed inflation upwards. In addition, inflation in the prices of food and industrial products is slowing down, thanks to the still significantly lower energy prices compared to the extremely high levels from mid-2022, as well as the reduction in prices of other raw materials on the global market and normalized global supply chains. In contrast, earlier cost growth caused by rising energy and food prices, labor shortages and resulting wage increases, and strong demand for tourism services contribute to maintaining the inflation of prices of services at a high level. Accordingly, after 10.7% last year, the overall inflation could amount to 8.8% in 2023 and then further slow down to 4.7% in 2024.
Inflation might be higher than projected in the event of higher energy prices – which partially materialized in previous months, more pronounced growth in food prices, as well as more pronounced wage growth, especially if profit margins do not shrink and thus absorb some of the wage cost pressures. On the other hand, the risks of lower inflation refer to the weakening of demand, stronger effects of the tightening of monetary policy, and a more pronounced spillover of the drop in energy prices and other raw materials on the consumer prices of goods and services.